PETSMART INC, 10-K, 1999-04-26

PETSMART INC
10-K, 1999-04-26
RETAIL STORES, NEC

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

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FORM 10-K

(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

FOR THE FISCAL YEAR ENDED JANUARY 31, 1999

[ ] 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 0-21888

PETSMART, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

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DELAWARE 94-3024325
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)

19601 NORTH 27TH AVENUE, PHOENIX, ARIZONA 85027
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
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REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (623) 580-6100

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:

COMMON STOCK, $.0001 PAR VALUE

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 report(s), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]

Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]

Based on the closing sale price of $9.00 on April 16, 1999, the aggregate
market value of the voting stock held by non-affiliates of the registrant was
$849,629,295.

On April 16, 1999 there were outstanding 116,739,370 shares of the
Registrant's Common Stock.
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DOCUMENTS INCORPORATED BY REFERENCE
(TO THE EXTENT INDICATED HEREIN)

REGISTRANT'S PROXY STATEMENT (SPECIFIED PORTIONS) WITH RESPECT TO THE
ANNUAL MEETING OF STOCKHOLDERS TO BE HELD JUNE 24, 1999.

TABLE OF CONTENTS

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ITEM PAGE
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PART I
1. Business............................................... 3
2. Properties............................................. 15
3. Legal Proceedings...................................... 16
4. Submission of Matters to a Vote of Security Holders.... 17

PART II
5. Market for the Registrant's Common Stock and Related
Shareholder Matters.................................... 18
6. Selected Financial Data................................ 18
7. Management's Discussion and Analysis of Financial
Condition and Results of Operations.................... 18
7a Quantitative and Qualitative Disclosures About Market
Risks.................................................. 26
8. Financial Statements and Supplementary Data............ 26
9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure.................... 26

PART III
10. Directors and Executive Officers of the Registrant..... 27
11. Executive Compensation................................. 27
12. Security Ownership of Certain Beneficial Owners and
Management............................................. 27
13. Certain Relationships and Related Transactions......... 27

PART IV
14. Exhibits, Financial Statement Schedules, and Reports on
Form 8-K............................................... 28
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PART I

ITEM 1. BUSINESS

The following Business section contains forward-looking statements that
involve risks and uncertainties. The Company's actual results could differ
materially from those anticipated in these forward-looking statements as a
result of certain factors, including those set forth under "Business Risks" and
elsewhere in this Form 10-K.

General

PETsMART, Inc. and its subsidiaries ("PETsMART" or "the Company") is the
largest operator of superstores specializing in pet food, supplies and services
in North America and the United Kingdom. At January 31, 1999, the Company
operated 534 superstores, consisting of 423 superstores in the United States, 93
superstores in the United Kingdom, and 18 superstores in Canada. PETsMART offers
a complete assortment of pet products at prices typically below those offered by
supermarkets, mass merchandisers, and traditional pet food and supply retailers,
as well as a wide range of pet services. PETsMART's superstores utilize a hybrid
retail-warehouse format that reinforces the image of warehouse shopping at
discount prices, enhances merchandise presentation, and provides a fun shopping
experience for customers and their pets. Through its PETsMART Direct subsidiary,
the Company is also the largest direct mail catalog retailer of pet and equine
supplies.

THE PET FOOD AND PET SUPPLY INDUSTRY

The pet food, supplies and services business, fueled by growth in pet
populations and the trend toward better pet care, generated estimated U.S.
sales, of approximately $31 billion in 1997. According to recent industry and
census estimates, approximately 58 million U.S. households, or over half of all
U.S. households, owned at least one pet and over half of pet-owning households
owned more than one pet. There were an estimated 57 million dogs, 70 million
cats and 11 million horses in the United States in 1996. Demand for pets is
primarily influenced by family formation; most pets are owned by families with
children between ages five and nineteen.

Pet food, primarily dog and cat food, represents the largest volume
category of pet-related products, with 1997 U.S. sales estimated at
approximately $9 billion. The Company estimates that supermarket pet food
brands, such as Purina, Alpo, Friskies and Kal Kan accounted for approximately
75% of U.S. pet food sales in 1996. In recent years, supermarkets' share of
total pet food sales has steadily decreased as a result of increased competition
from superstores, warehouse clubs, mass merchandisers and specialty pet stores
as well as the growing proportion of pet food sales accounted for by premium
foods. Premium pet foods brands such as Nutro, Science Diet, and IAMS, which
offer higher levels of nutrition than non-premium brands, accounted for
approximately 27% of total pet food sales in 1998. These premium pet foods
currently are not sold through supermarkets, warehouse clubs and mass
merchandisers due to manufacturers' restrictions but are sold primarily through
superstores such as PETsMART, specialty pet stores, veterinarians and farm and
feed stores.

U.S. sales of pet supplies, consisting of items such as dog and cat toys,
collars and leashes, cages and habitats, books, vitamins and supplements,
shampoos, flea and tick control, and aquatic supplies, were estimated to be
approximately $3.3 billion in 1997. Pet supplies are sold by many types of
retailers, including supermarkets, discount stores and other mass merchandisers,
specialty pet stores, direct mail houses and veterinarians. The channels of
distribution for pet supplies are highly fragmented, with superstores and
discount stores estimated to account for over 50% of U.S. sales volume.

The Company estimates that U.S. sales of equine food, tack, riding apparel
and related supplies and equipment were approximately $8 billion in 1997.

U.S. sales of pet services were estimated at approximately $11 billion in
1997. Major pet-related services include veterinary care, grooming, and
obedience training. The Company considers the pet services industry

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also to be highly fragmented and significantly under-served; many pet owners do
not regularly use pet services due to inconvenience, a lack of awareness or the
cost of the services provided.

MERCHANDISE

Merchandise, which represented approximately 93.5% of PETsMART's North
American retail revenues in fiscal 1998, generally falls into three main
categories:

- Pet Food, Treats and Litter. PETsMART emphasizes premium dog and
cat foods, which currently are not available in supermarkets, warehouse
clubs or mass merchandisers, as well as quality national brands
traditionally found in supermarkets and pet stores. PETsMART also offers a
wide-selection of its own corporate brand food products including
"Authority(R)" premium dog and cat food and treats, "Sophista Cat(R)" cat
food and "Grreat Choice(R)" dog food. The sale of pet food, treats and
litter comprised approximately 46.6% of PETsMART's North American retail
revenues in fiscal 1998.

- Pet Supplies. PETsMART's broad assortment of pet supplies includes
collars, leashes, health and beauty aids, shampoos, medication, toys,
animal carriers, dog houses, cat furniture and equestrian supplies. The
Company also offers a complete line of supplies for fish, birds and small
animals, including aquariums, filters, bird cages and small animal
supplies. Corporate brand pet supplies include "Top Paw(R)", "Top Fin(R)"
and "Top Wing(R)". PETsMART also has an equine department in certain
superstores serving trade areas which have high rates of horse ownership.
The sale of pet supplies comprised approximately 44.4% of PETsMART's North
American retail revenues in fiscal 1998.

- Livestock and Other Goods. PETsMART superstores feature fresh water
tropical fish and, in certain superstores, domestically bred birds,
reptiles and small animals. In addition, PETsMART actively supports the
activities of local humane organizations through its in-store Luv-A-Pet pet
adoption centers. Livestock and other non-pet supply goods comprised
approximately 2.5% of the Company's North American retail revenues in
fiscal 1998. Through its Luv-A-Pet adoption efforts, over 166,000 animals
were adopted during 1998 and over 500,000 animals have been adopted since
the program began in 1994.

PET SERVICES

Unlike its principal competitors, PETsMART offers a wide range of services
for the pet owner. Services comprised approximately 6.5% of the Company's North
American retail revenues in fiscal 1998. Approximately one-half of PETsMART's
North American superstores include veterinary clinics. In most superstores,
PETsMART also offers on-site grooming and obedience classes.

Veterinary clinics operated in PETsMART stores generally offer routine
examinations and vaccinations, dental care, pharmacy and most surgical
procedures. The availability of comprehensive veterinary care further
differentiates PETsMART and reflects the Company's overall commitment to animal
care. The Company's prototype 2,000 square foot in-store clinic provides
state-of-the-art operating and examining rooms as well as on-site X-ray machines
and blood diagnostic equipment. These clinics offer customers more sophisticated
services through proprietary computerized diagnosis software than traditional
veterinary competitors typically provide. In addition, many PETsMART stores
without these in-store clinics offer routine vaccinations and wellness services.
At January 31, 1999, veterinary clinics were operating within 239 PETsMART
stores in North America. Of these, 123 were operated directly by PETsMART and
115 were leased to and operated by Medical Management International, Inc.
("MMI"), a third party operator of veterinary clinics. One additional clinic was
leased to and operated by an independent veterinarian.

Veterinary clinics operated in PETsMART stores, including clinics operated
directly by PETsMART and clinics operated by MMI, utilize a common software
platform for clinical treatments and client service, as well as other combined
activities that allow the clinics to operate in a consistent manner within
PETsMART stores.

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THE PETSMART STRATEGY:

PETsMART's strategy is to offer a dominant product assortment of pet food,
treats and supplies at every day low prices, including fresh water tropical
fish, reptiles, birds and other small animals. The Company also seeks to provide
consumers with unequaled service opportunities which include veterinary
hospitals, grooming services for all breeds of dogs and cats, obedience training
classes, and adoption services for dogs and cats in conjunction with local
humane organizations. The Company executes its strategy through the following:

- Provide Customers with Value through a Firm Commitment to Everyday
Low Pricing. PETsMART endeavors to be the low-price leader in each of the
markets it serves for products that it offers. The Company reinforces
customers' expectations of savings by offering a "double-the-difference"
price guarantee on exact products which are being sold elsewhere for less.
The Company regularly checks prices at competitors' stores to ensure that
PETsMART's prices are competitive within each market.

- Maintain a Broad Product Assortment. PETsMART's strategy is to
offer the most complete assortment of pet-related products and services in
the marketplace. PETsMART U.S. prototype superstores typically carry
approximately 12,000 pet related items.

- Ensure a High In-Stock Position on Key Items. The Company's
inventory management systems are designed to maintain inventory levels that
provide optimum in-stock positions. Since the end of fiscal 1996, the
Company has reduced its average North American store inventories from
approximately $820,000 per store to $660,000 per store at January 31, 1999,
while improving in-stock conditions. In addition, during 1998, the Company
completed the "back of the store reset" which improved the allocation and
presentation of consumables merchandise. The Company is in the process of
reviewing its distribution and warehouse strategy to further improve its
supply chain costs and inventory management (See "Business
Risks -- Distribution").

- Emphasize Employee Training to Ensure a High level of Customer
Service. The Company has renewed its emphasis on training and personnel
development through the allocation of additional resources and efforts to
training. PETsMART views the quality of its customers' interaction with its
associates as critical to its continued success in building and enhancing
customer confidence and loyalty. PETsMART strives to provide customers with
personalized service and a friendly shopping atmosphere. To enhance the
stores' fun environment, customers are encouraged to bring their pets into
PETsMART superstores while they shop.

- Initiate National Network Television Advertising and Revitalize
Print Advertising. The Company initiated network television advertising
during the fourth quarter of fiscal 1998 and has plans to continue to
promote the PETsMART brand through an expanded network television campaign
during 1999. Additionally, the Company has revised its historical print
advertising circulars to focus on driving customer traffic and sales
generation. The Company's new store locations will also receive additional
advertising support versus established stores during the first six months
of the new store's operations.

PETSMART SUPERSTORES

At January 31, 1999, PETsMART operated 534 superstores, consisting of 423
superstores in the United States, 93 superstores in the United Kingdom and 18
superstores in Canada. PETsMART's superstores are generally located in sites
co-anchored by strong consumables-oriented retailers and other destination
superstores, typically in or near major regional shopping centers.

The Company's expansion strategy is to increase its market share in
existing markets and to penetrate new markets with a goal of establishing a
leading position in each market it serves and to achieve operating efficiencies
and economies in advertising, distribution and management. By the end of fiscal
1999, PETsMART currently expects to operate 493 superstores in North America.
PETsMART believes there is a potential for an aggregate of 900 to 1,000 PETsMART
superstores in North America. See "Business Risks -- Expansion Plans."

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PETSMART DIRECT

PETsMART Direct, the Company's catalog operation, is the leading direct
marketing retailer of pet related and equine products in North America. PETsMART
Direct sells pet supplies through three catalogs: R.C. Steele, Pedigrees and
Groomer Direct. PETsMART Direct also offers discount brand name tack, riding
apparel and equine supplies through four additional catalogs: State Line Tack
Western, State Line Tack English, Wiese Equine Supply and National Bridle Shop.
In fiscal 1998, PETsMART Direct circulated more than 26 million catalogs.
PETsMART Direct's marketing and customer database management is designed to
attract new customers and to generate additional sales from existing catalog or
retail customers. PETsMART Direct's proprietary customer database currently
contains the names of approximately 1.2 million customers who have made a
purchase from PETsMART Direct catalogs within the past 24 months. In fiscal
1998, PETsMART Direct's average transaction was approximately $90. Also during
fiscal 1998, PETsMART Direct initiated electronic commerce through the
establishment of statelinetack.com and rcsteele.com which offer equine and
pet-related products over the Internet.

DISTRIBUTION

PETsMART is committed to pursuing enhanced distribution strategies which
the Company believes minimize delivered cost on the merchandise it sells, in
addition to providing lower inventory levels, improved store operating
efficiency and improved in-stock position. The Company buys from approximately
1,100 vendors worldwide, the two largest of which account for approximately 24%
of total purchases. The Company currently employs a hybrid distribution system
including, as appropriate, full truckload shipments to individual superstores,
the splitting of full truckloads among several closely located superstores,
consolidation centers to service regional clusters of superstores and central
distribution centers. The Company operates a 360,000 square foot distribution
center in Columbus, Ohio, and a 430,000 square foot distribution center in
Phoenix, Arizona. The Company has a 230,000 square foot leased facility in
Ennis, Texas, which may be reopened pending future distribution strategies.
These centers primarily handle small, light and easy to handle products. The
Company also currently operates 13 regional consolidation centers in the United
States and operates a 110,000 square foot distribution center in Gloucester,
England. In addition, PETsMART Direct operates a 200,000 square foot catalog
fulfillment and equine distribution center in Brockport, New York. The Brockport
facility will be expanded during 1999 by 130,000 square feet to accommodate the
volumes anticipated to be generated by the Company's expanded electronic
commerce activities (See "Business Risks -- Electronic Commerce Initiatives").

The Company is currently reviewing its warehouse and distribution strategy
to determine the optimum network configuration. The anticipated primary change
to the network results in a reduction of vendor direct store deliveries which
would allow for a more efficient use of store inventory, store labor and vendor
support. The Company anticipates beginning to implement this strategy during
fiscal 1999 and believes benefits will be realized through a reduction in store
inventory carrying costs, reduced store labor costs, improved inventory in-
stock position and distribution center productivity, reduced transportation
costs, and vendor shared efficiencies. Most of these benefits, if any, are
expected to be realized through the end of fiscal 2001. There can be no
assurance, however, that the Company will be able to realize any benefits as a
result of the planned strategy changes, nor that the Company will be able to
execute the recommended strategy effectively. Additionally, there can be no
assurance that any planned labor and other cost savings will be realized in the
future, or that additional costs, currently unforeseen, will arise as a
consequence of the recommended strategy.

INFORMATION SYSTEMS

The Company is committed to making ongoing investments in its information
systems to increase operating efficiency, provide superior customer service and
support its anticipated growth. The Company has made, and continues to make,
significant investments in information systems to support point of sale
applications, inventory on-hand integrity and replenishment, merchandising ,
inventory control, warehousing and distribution, financial controls and
reporting. PETsMART is in the implementation stage of developing and
implementing an integrated information system which will feature a common set of
applications. The Company's systems initiatives include new in-store point of
sale and support systems, warehousing systems,
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communication systems, and SAP Retail management information systems. The
various applications are planned to be implemented beginning in the summer of
1999. The Company estimates that its costs in connection with the development of
the new system, before giving consideration to any lease financing that may be
available, will be up to $20 million annually through fiscal 2000. The Company
believes that certain hardware and software components of the new system may be
financed through lease transactions, although there can be no assurance that
adequate financing will be available to the Company on acceptable terms. When
complete, it is anticipated that the system will provide the Company with a
significant competitive advantage in better serving its customers and improving
its business operations through more timely and accurate information, reduced
costs, and increased productivity due to better job function assistance. There
can be no assurance that the actual costs for the new system will not exceed
current estimates or extend beyond fiscal year 2000. In the event that
additional financing is required to complete the Company's new information
system, there can be no assurance that such additional financing will be
available to the Company on acceptable terms. See "Business Risks -- New
Information System", "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Liquidity and Capital Resources" and
"-- Year 2000 Readiness."

COMPETITION

Based on total sales, the Company is the largest specialty retailer of pet
food, supplies and services in North America and the United Kingdom. The pet
food and pet supply retail business is highly competitive and can be categorized
into three different segments: (i) supermarkets, warehouse clubs and other mass
merchandisers, (ii) specialty pet supply chains and pet supply superstores and
(iii) independent pet stores. The Company believes that the principal
competitive factors influencing the Company's business are product selection and
quality, convenience of store locations, customer service and price. In this
regard, the major premium pet food brands offered by the Company, such as
Science Diet, Nutro, and IAMS, are not currently available to grocery stores,
warehouse clubs or other mass merchandisers due to manufacturers' restrictions.
The Company has announced that beginning in May 1999 it will carry the Nutro
brand premium dog and cat foods, treats, and biscuits, which the Company
believes will further enhance its competitive position. PETsMART believes that
it competes effectively within its various markets; however, some of the
Company's competitors are larger in terms of overall sales volume and have
access to greater capital and management resources than the Company. See "Risk
Factors -- Competition."

GOVERNMENT REGULATION

The Company is subject to laws governing its relationship with employees,
including minimum wage requirements, overtime, working conditions and
citizenship requirements. In certain locations, PETsMART leases space to
independent veterinary operators. Statutes and regulations in certain states,
Canadian provinces or abroad affecting the ownership of veterinary practices or
the operation of veterinary clinics within retail stores or the operation of
superstores may impact the Company's ability to operate veterinary clinics
within certain of its facilities.

The laws of many states prohibit veterinarians from splitting fees with
non-veterinarians and prohibit business corporations from providing, or holding
themselves out as providers of, veterinary medical care. These laws vary from
state to state and are enforced by the courts and by regulatory authorities with
broad discretion. While the Company seeks to structure its operations to comply
with the corporate practice of veterinary medicine laws of each state in which
it operates, there can be no assurance that, given varying and uncertain
interpretations of such laws, the Company would be found to be in compliance
with restrictions on the corporate practice of veterinary medicine in all
states. A determination that the Company is in violation of applicable
restrictions on the practice of veterinary medicine in any state in which it
operates could require the Company to restructure its operations to comply with
the requirements of such states, or render it unable to operate veterinary
clinics in those states. See "Risk Factors -- Government Regulations."

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INSURANCE

The Company maintains standard product and casualty insurance on all of its
superstores, as well as product liability insurance covering the sale of live
animals and veterinary malpractice insurance covering its veterinary clinics.

TRADEMARKS

The Company owns several service marks and trademarks registered with the
United States Patent and Trademark Office ("USPTO"), including "PETsMART(R),"
"Santa Claws(R)," "Grreat Choice(R)," "Sophista-Cat(R)," "Authority(R)," "Top
Paw(R)," "Top Wing(R)," "Top Fin(R)," "Where Pets Are Family(R)" and the
PETsMART Logos. PETsMART also has several applications pending with the USPTO
for additional trademarks and anticipates filing additional applications in the
future. The Company believes its trademarks and logos have become important
components in its merchandising and marketing strategy. The Company believes it
has all the licenses necessary to conduct its business.

EMPLOYEES

As of January 31, 1999, the Company employed approximately 21,600
associates worldwide, approximately 9,800 of whom were employed full time.
PETsMART's associates receive wages and benefits competitive with those of the
local retail community. The Company is not subject to any collective bargaining
agreements and has not experienced any work stoppages. The Company considers its
relationship with its associates to be good.

BUSINESS RISKS

The business risks below, along with those discussed in the Distribution,
Information Systems, and Competition sections of this Annual Report on Form
10-K, are some, but not necessarily all, of the matters which present risks and
uncertainties which could have a material adverse affect on the Company's
ability to operate its businesses successfully or in a manner consistent with
historical operating results. The Company's actual results could differ
materially from those projected results due to some or all of the factors
discussed below.

SUPERSTORE EXPANSION PLANS, MATURATION OF EXISTING SUPERSTORES AND
DEPENDENCE ON PERFORMANCE OF SUPERSTORE. PETsMART currently operates
superstores in many of the major market areas of North America and the United
Kingdom. In North America, the Company's current plans for fiscal 1999 include
opening an aggregate of 25 superstores in existing markets and 30 superstores in
new markets, of which 24 are considered to be single store markets.
Additionally, the Company anticipates opening up to 5 superstores in the United
Kingdom in fiscal 1999. It has been the Company's experience that superstores
opened in existing markets may result in some cannibalization of the sales of
other PETsMART superstores already in operation in those markets. In addition,
as a result of the Company's rapid expansion in recent years, many of its
superstores are still relatively immature. Approximately one-half of the
Company's North America superstores have been opened since the beginning of
fiscal 1996. As superstores reach maturity, the rate of comparable store sales
increases tends to decline. The Company believes these factors have contributed
to the decline in the rate of comparable store sales increases which it has
reported in recent years. PETsMART's North American comparable store sales
increases were 11.9% in fiscal 1996, 4.6% in fiscal 1997, and 6.3% for fiscal
1998. As a result of new store openings in existing markets and because mature
superstores will represent an increasing proportion of the Company's store base
over time, the Company's comparable store sales increases may be lower than
historical levels. There can be no assurance new or existing superstores will
perform in accordance with historical patterns or current management
expectations, or that any cannibalization of sales will not be greater than
historical experience or current management expectations.

Operating margins are also expected to be impacted by new superstore
openings because of the recognition of preopening expenses and the lower sales
volumes characteristic of immature stores. Compared to results achieved in other
regions, the Company has experienced lower comparable store sales increases and
levels of store contribution in certain North American geographic regions. In
addition, certain operating costs,
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particularly those related to occupancy, are expected to be higher than
historical levels in some of these newly-entered geographic regions and tight
labor markets in certain areas are expected to increase store personnel expenses
more rapidly than historical trends. As a result of the expected slower overall
rate of comparable store sales increase and the impact of these rising costs,
the Company's total store contribution and operating margins may be lower than
historical levels in future periods. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations -- Overview."

NEW INFORMATION SYSTEM. PETsMART is in the implementation stage of
developing and implementing an integrated information system which will feature
a common set of applications. The Company's systems initiatives include new
in-store point of sale and support systems, warehousing systems, communication
systems, and SAP Retail management information systems. The various applications
are planned to be implemented beginning in the summer of 1999. It is anticipated
the continued development and implementation of the new systems will require
significant capital expenditures, operating expense and management effort to
complete. There can be no assurance that the new systems will be developed,
tested and implemented on a timely basis, or at all, or that it will deliver the
anticipated operational benefits in a reliable manner. Failure to complete the
new systems, or to do so on a timely basis, could materially adversely affect
the Company's future operating results or its ability to expand. Costs of the
new systems will be expensed as incurred or capitalized and expensed in future
periods. The new systems will require significant financing, a portion of which
will be provided by current cash and cash equivalent balances. The Company
estimates that its costs in connection with the development and implementation
of the new systems, before giving consideration to any lease financing that may
be available, will be up to $20 million annually through fiscal 2000. The
Company believes that certain hardware and software components of the new
systems may be leased, although there can be no assurance that the actual costs
for the new systems will not exceed current estimates or extend beyond fiscal
year 2000. In the event that additional financing is required to complete the
Company's new information systems, there can be no assurance that such
additional financing will be available to the Company on acceptable terms.

INTERNATIONAL OPERATIONS. The Company entered the European market by
acquiring Pet City in December 1996 and operated 93 superstores in the United
Kingdom at January 31, 1999. The Company also entered the Canadian market in
1996, where it operated 18 superstores at January 31, 1999. The Company has
recently entered into an agreement with a major South African retailer whereby
PETsMART will provide certain product sourcing and consulting services. These
operations may require significant management and financial resources. In
particular, international operations require coordination of geographically
separate management organizations, the integration of personnel with disparate
cultural and business backgrounds and an understanding of the relevant
differences in the legal and regulatory environments. Prior to 1996, the Company
had not previously operated stores or provided services to entities outside of
the United States and there can be no assurance that PETsMART will be able to do
so successfully. As the Company's international operations expand, PETsMART's
results will be increasingly affected by the risks of such activities, including
fluctuations in currency exchange rates, changes in international staffing and
employment issues, tariff and other trade barriers, the burden of complying with
foreign laws, including tax laws, and political and economic instability and
developments. Presently, the United Kingdom store expansion program is, and is
anticipated to continue to be, financed in large part by North American
financing sources. There can be no assurance that the North American operations
will continue to be able to provide funding for the opening of superstores in
the United Kingdom or that adequate alternative sources of capital could be
obtained on acceptable terms. The Credit Facility contains covenants restricting
the amounts invested in certain foreign subsidiaries. See "Description of Credit
Facility."

GOVERNMENT REGULATION. The Company is subject to laws governing its
operation of veterinary clinics in its retail stores. Statutes and regulations
in certain states, Canadian provinces or abroad affecting the ownership of
veterinary practices or the operation of veterinary clinics within retail stores
or the operation of superstores may impact the Company's ability to operate
veterinary clinics within certain of its facilities.

While the Company seeks to structure its operations to comply with the corporate
practice of veterinary medicine laws of each state in which it operates, there
can be no assurance that, given varying and uncertain interpretations of such
laws, the Company would be found to be in compliance with restrictions on the
corporate practice of veterinary medicine in all states. A determination that
the Company is in violation of applicable restrictions on the practice of
veterinary medicine in any state in which it operates could require the Company
to restructure its operations to comply with the requirements of such states.

EXPANSION PLANS. PETsMART has expanded since its inception in 1986 to 423
superstores in the United States, 93 superstores in the United Kingdom and 18
superstores in Canada at January 31, 1999. In North America, the Company
currently anticipates opening an additional 55 superstores in fiscal 1999 and 50
superstores in fiscal 2000. The Company also currently anticipates opening up to
five new superstores annually in the United Kingdom. The Company's ability to
open additional superstores is dependent on adequate sources of capital for
leasehold improvements, fixtures and inventory, preopening expenses, the
training and retention of skilled managers and personnel and other factors, some
of which may be beyond the Company's control. Presently, the Company's store
expansion plans are expected to be financed by existing cash equivalents, cash
flow from operations, lease financing, and borrowing capacity under the Credit
Facility. To the extent the Company is unable to obtain adequate financing for
new store growth on acceptable terms, the Company's ability to open new
superstores will be negatively impacted. As a result, there can be no assurance
that the Company will be able to achieve its current plans for the opening of
new superstores. Any failure by PETsMART to expand its distribution capabilities
or other internal systems or procedures as required could also adversely affect
its ability to support its planned new store growth.

Future acquisitions or dispositions of assets by the Company, if any, could
result in potentially dilutive issuances of securities, the incurrence of
additional debt or contingent liabilities, and amortization expenses related to
goodwill and other intangible assets, which could materially adversely affect
the Company's profitability. The Company's operating results also could be
adversely affected if it is unable to successfully integrate any future
acquisition into its operations.

PETsMART routinely evaluates its strategic alternatives with respect to
each of its superstores, including its United Kingdom operations, the operations
of PETsMART Direct and the Company's other operating assets and investments. In
connection with such evaluations, the Company may elect to close superstores or
to sell or otherwise dispose of selected assets or investments. There can be no
assurance that any such future sale or disposition would be achieved on terms
favorable to the Company. Additionally, the Company has proceeded with its plan
to close 33 U.S. superstores, including 31 smaller acquired superstores, and to
replace 24 of them with 26,000 square foot prototype superstores. At January 31,
1999, 24 of these superstores had been closed and 18 replacement superstores had
been opened.

RELIANCE ON VENDORS AND PRODUCT LINES. PETsMART does not have any
long-term supply commitments from any of its premium food or other product
vendors. Sales of premium pet food for dogs and cats, such as Science Diet and
IAMS, make up a significant portion of PETsMART's revenues. Additionally, in
April 1999 the Company announced it had reached agreement to offer Nutro brand
super premium pet food and treats in its North American stores. Currently, the
major vendors of premium pet foods do not permit these products to be sold in
supermarkets, warehouse clubs or through other mass merchandisers. The Company
could be materially adversely affected were any of these vendors to make their
products available in supermarkets or through mass merchandisers, or if the
grocery brands currently available to such retailers were to gain market share
at the expense of the premium brands sold only through specialty pet food and
supply outlets.

PETsMART's principal vendors currently provide it with certain incentives,
such as trade discounts, cooperative advertising and market development funds. A
reduction or discontinuance of these incentives could have a material adverse
effect on the Company.

The Company purchases significant amounts of pet supplies from a number of
vendors with limited supply capabilities. There can be no assurance that
PETsMART's current pet supply vendors will be able to accommodate the Company's
anticipated growth. PETsMART is continually seeking to expand its base of pet
supply vendors and to identify new pet supply products. Additionally, the
Company purchases significant
10
<PAGE> 11

amounts of pet supplies from vendors outside of the United States. There can be
no assurance the Company's overseas vendors will be able to satisfy PETsMART's
requirements, including timeliness of delivery, acceptable product quality,
packaging and labeling requirements, and other requirements of the Company. An
inability of PETsMART's existing vendors to provide products in a timely or
cost-effective manner could have a material adverse effect on the Company. While
the Company believes its vendor relationships are satisfactory, any vendor could
discontinue selling to the Company at any time.

ELECTRONIC COMMERCE INITIATIVES. The Company has announced its intention
to initiate a broad electronic commerce initiative during fiscal 1999. While the
Company has operated electronic commerce through its PETsMART Direct subsidiary
since May 1998, the new electronic commerce initiative is much broader in scope
of offerings and content than that which is currently offered. Additionally,
PETsMART will be competing against other electronic retailers who have
established web sites and product offerings, along with significant capital
resources and marketing capabilities. The Company believes that its existing
fulfillment and order processing capabilities, along with its advertising,
merchandising, product procurement, and pet-related content abilities will
provide it with a competitive advantage over other electronic commerce
retailers. The Company is also currently expanding its Brockport, New York
distribution facility to better service the anticipated inventory and
fulfillment needs resulting from its electronic commerce initiatives (see
"Distribution" section below). There can be no assurance that the Company will
be able to achieve its current plans for its electronic commerce capabilities.
Although electronic commerce is expanding in certain retail categories, there
can be no assurance that the Company's class of goods can be effectively and
efficiently marketed, sold and delivered through electronic commerce. PETsMART
may also be required to seek additional capital resources to fund its electronic
commerce initiatives and there can be no assurance that the Company would be
successful in obtaining such financing on acceptable terms. The "Internet Tax
Freedom Act" currently prohibits the collection by state and local governments
of sales and use taxes on sales made through electronic commerce. There can be
no assurance that the imposition of sales and use taxes upon electronic commerce
sales will not have a material adverse impact upon the Company's electronic
commerce marketing and sales efforts and results.

DISTRIBUTION. The Company is currently reviewing its warehouse and
distribution strategy to determine the optimum network configuration. The
anticipated primary change to the network results in a reduction of vendor
direct store deliveries which would allow for a more efficient use of store
inventory, store labor and vendor support. The Company anticipates beginning to
implement this strategy during fiscal 1999 and believes benefits will be
realized through a reduction in store inventory carrying costs, reduced store
labor costs, improved distribution center productivity, reduced transportation
costs, and vendor shared efficiencies. Also, any such benefits are expected to
be realized through the end of fiscal 2001. There can be no assurance, however,
that the Company will be able to realize any benefits as a result of the planned
strategy changes, nor that the Company will be able to execute the recommended
strategy effectively. Additionally, there can be no assurance that any planned
labor and other cost savings will be realized in the future, or that significant
additional costs will not be incurred as a consequence of the recommended
strategy.

COMPETITION. The pet food and supply retailing industry is highly
competitive. PETsMART competes with supermarkets, warehouse clubs and mass
merchandisers, many of which are larger and have significantly greater resources
than PETsMART. PETsMART also competes with a number of pet supply warehouse or
specialty stores, smaller pet store chains and independent pet stores. The
industry has become increasingly competitive due to the entrance of other
specialty retailers into the pet food and supply market, some of which have
developed store formats similar to PETsMART's, and due to the expansion of
pet-related product offerings in certain of the warehouse clubs and mass
merchandisers. There can be no assurance the Company will not face greater
competition from these or other retailers in the future. In particular, if any
of the Company's major competitors seek to gain or retain market share by
reducing prices, the Company may reduce its prices in order to remain
competitive, which could have a material adverse effect of the Company. The
Company is also facing additional competition from electronic commerce retailers
who are entering the pet supply market (see "Business Risks -- Electronic
Commerce Initiatives").

11
<PAGE> 12

QUARTERLY AND SEASONAL FLUCTUATIONS. The timing of new superstore openings
may cause the Company's quarterly results of operations to fluctuate. In
addition, the Company's business is subject to some seasonal fluctuation.
PETsMART typically realizes a higher portion of its net sales and operating
profit during the fourth fiscal quarter. In addition, sales of certain of the
Company's products and services designed to address pet health needs, such as
flea and tick problems, have been and are expected to continue to be negatively
impacted by the introduction of alternative pharmaceutical treatments, as well
as by variations in weather conditions. In addition, because PETsMART
superstores typically draw customers from a large trade area, sales may be
impacted by adverse weather or travel conditions.

ANTI-TAKEOVER MEASURES. The PETsMART Restated Certificate of
Incorporation, as amended (the "Restated Certificate") and the PETsMART Bylaws
include provisions that may delay, defer or prevent a change in management or
control that holders of Notes or stockholders might consider to not be in their
best interests. These provisions include (i) a classified Board of Directors
consisting of three classes, (ii) the ability of the Board of Directors to issue
without stockholder approval up to 10,000,000 shares of preferred stock in one
or more series with such rights, obligations, and preferences as the Board of
Directors may determine, (iii) no right of stockholders to call special meetings
of stockholders, (iv) no right to stockholders to act by written consent and (v)
certain advance notice procedures for nominating candidates for election to the
Board of Directors. In addition, the Restated Certificate requires a 66 2/3%
vote of stockholders to (i) alter or amend the PETsMART By-laws, (ii) remove a
director without cause, or (iii) alter, amend or repeal certain provisions of
the Restated Certificate. The Restated Certificate does not permit cumulative
voting. In August 1997, the Company's Board of Directors adopted a Share
Purchase Rights Plan, commonly referred to as a "poison pill." The Company is
subject to the anti-takeover provisions of Section 203 of the Delaware General
Corporation Law, which prohibits the Company from engaging in a "business
combination" with an "interested stockholder" for a period of three years after
the date of the transaction in which the person became an interested
stockholder, unless the business combination is approved in a prescribed manner.
The application of Section 203 could have the effect of delaying or preventing a
change of control of the Company. See "Description of Capital Stock."

POSSIBLE VOLATILITY OF STOCK PRICE; ABSENCE OF DIVIDENDS. Since the
initial public offering of the Company's Common Stock, the market price of the
Common Stock has been subject to significant fluctuation. The market price of
the Common Stock may continue to be subject to significant fluctuations in
response to operating results and other factors. In addition, the stock market
in recent years has experienced price and volume fluctuations that often have
been unrelated or disproportionate to the operating performance of companies.
These fluctuations, as well as general economic and market conditions, may
adversely affect the market price of the Common Stock.

PETsMART has never paid any cash dividends on its Common Stock. The Company
currently intends to retain earnings for use in its business and therefore does
not anticipate paying cash dividends in the foreseeable future. In addition,
under the terms of the Credit Facility, the Company is prohibited from paying
any cash dividends without prior bank approval.

12
<PAGE> 13

MANAGEMENT

The executive officers of the Company and their ages and positions at April
16, 1999, are as follows:

<TABLE>
<CAPTION>
NAME AGE POSITION
- ---- --- --------
<S> <C> <C>
Samuel J. Parker.......................... 56 Chairman of the Board
Philip L. Francis......................... 52 President and Chief Executive Officer
Neil T. Watanabe.......................... 45 Executive Vice President, Chief Financial
Officer
C. Donald Dorsey.......................... 57 Executive Vice President
C. Giles Clarke........................... 45 Executive Vice President, Europe
Kenneth A. Banks.......................... 53 Senior Vice President, Marketing, Branding
& Advertising
Carol M. Cox.............................. 56 Senior Vice President, Human Resources
H. Jake Mendelsohn........................ 41 Senior Vice President, Chief Information
Officer
Philip B. Murphy.......................... 50 Senior Vice President, Merchandising
James D. Nelson........................... 45 Senior Vice President, Logistics and
Distribution
Douglas W. Walrod......................... 47 Senior Vice President, Real Estate & Store
Development
James T. Walsh............................ 49 Senior Vice President, Store Operations
and Services
Anthony J. Leonardi....................... 52 President, PETsMART Direct
Marcia R. Meyer........................... 49 President, PETsMART International Supply
Company
Kenneth A. Conway......................... 42 Vice President, Controller, Chief
Accounting Officer
</TABLE>

Samuel J. Parker joined the Company in 1989 as President and Chief
Executive Officer. Mr. Parker served as President and Chief Executive Officer
until 1993, when he was elected Chairman. Effective with the annual meeting of
stockholders in 1995, Mr. Parker resigned as Chief Executive Officer but
remained as Chairman of the Board. In June 1997, following the resignation of
the Chief Executive Officer, Mr. Parker again served as Chief Executive Officer
of the Company until March 1998.

Philip L. Francis has been a director of the Company since 1989 and
President and Chief Executive Officer since March 1998. Prior to joining the
Company, Mr. Francis was President of, and since 1993, Chief Executive Officer
of Shaw's Supermarkets Inc., a subsidiary of J. Sainsbury plc, a supermarket
operator. From 1991 to 1993, Mr. Francis served as Chief Operating Officer of
Shaw's.

Neil T. Watanabe joined the Company in March 1998, as Executive Vice
President and Chief Financial Officer. Mr. Watanabe, a certified public
accountant, was Senior Vice President and Chief Financial Officer of Mac
Frugal's Bargain Close-Out, a discount retailer, from 1996 to January 1998. From
1995 to 1996, he was Vice President Finance/Controller and Corporate
Administration for Kay-Bee Toys, a mall-based specialty toy retailer. Prior to
joining Kay-Bee Toys, Mr. Watanabe was Chief Financial and Operating Officer of
Motherhood Maternity, Inc. from 1994 to 1995, and Vice President and Corporate
Controller of Filene's Basement, Incorporated from 1988 to 1994.

C. Donald Dorsey joined the Company in 1989, as Senior Vice President and
Chief Financial Officer. He was named Executive Vice President in 1994 and
remained Chief Financial Officer until February 1997. In November 1997,
following the resignation of the Company's Chief Financial Officer, Mr. Dorsey
resumed the position of Chief Financial Officer on an interim basis until March
1998.

C. Giles Clarke was named Executive Vice President, Europe in December 1996
following the Company's merger with Pet City Holdings Plc, of which he had been
Deputy Chairman and Chief Executive Officer since June 1993. Mr. Clarke
co-founded Pet City in 1989 and served as its President until June 1993.

13
<PAGE> 14

Kenneth A. Banks joined the Company in October 1998, as Senior Vice
President of Marketing, Branding and Advertising. From 1996 to 1998, Mr. Banks
was an independent consultant, specializing in retail marketing and advertising
consulting. Mr. Banks was President/General Manager for Fahlgren Benito
Advertising from 1995 to 1996, and served as Vice President of Marketing for
Circuit City Stores, Inc. from 1994 to 1995. From 1979 to 1994 Mr. Banks was
Vice President of Marketing Communications for Eckerd Drug Company.

Carol M. Cox joined the Company in October 1998, as Senior Vice President
of Human Resources. Prior to joining PETsMART, from 1997 to 1998, Ms. Cox was
Director of Human Resources for Rural/Metro Corporation. From 1995 to 1997, Ms.
Cox was Vice President of Human Resources for Frank's Nursery and Crafts. Ms.
Cox was also Senior Vice President of Human Resources for Dylex, Ltd., Canada's
largest specialty retailer headquartered in Toronto, Canada from 1987 through
1995.

H. Jake Mendelsohn joined the Company in 1996, as Senior Vice President,
Chief Information Officer. Mr. Mendelsohn, who has been associated with PETsMART
in a consulting capacity since January 1989, was a principal of the Windsor Park
Group from 1987 to January 1996.

Philip B. Murphy joined the Company in 1996, as Vice President, Corporate
Brands, and was promoted to Senior Vice President of Merchandising in 1997.
Prior to joining PETsMART, Mr. Murphy worked for 13 years at National Tea
Company and Loblaws Ltd. in various executive merchandising and marketing
positions.

James D. Nelson joined the Company in October 1997, as Senior Vice
President, Logistics and Distribution. Prior to joining PETsMART, from 1996 to
1997, Mr. Nelson was Vice President of Logistics Administration at K-Mart
Corporation. From 1995 to 1996, Mr. Nelson was Senior Manager at Ernst & Young
LLP. From 1994 to 1995, he was Director of Logistics (North and Latin America)
at Compaq Computer Corporation, and from 1990 to 1994, he was Vice President of
Retail Distribution for Sears Logistics Services, a wholly-owned subsidiary of
Sears Roebuck & Co.

Douglas W. Walrod was promoted to Senior Vice President of Real Estate and
New Store Development in May 1998. Mr. Walrod joined PETsMART in 1993 as Senior
Director of Real Estate for the Eastern United States and was promoted to Vice
President of Real Estate for North America and Canada in 1995, and was promoted
to Vice President of Real Estate in 1996. Prior to joining PETsMART, Mr. Walrod
was Vice President of Corporate Real Estate for Brown Group, Inc.

James T. Walsh joined the Company in April 1999, as Senior Vice President,
Store Operations and Services. From 1981 to 1999, Mr. Walsh held several senior
management positions with Shaw's Supermarkets, Inc., a subsidiary of J.
Sainsbury plc, including Warehouse Manager, Store Manager, District Manager,
Vice President and General Manager. Most recently, he served Shaw's as Senior
Vice President of Retail Operations and a member of the Shaw's Board of
Directors.

Anthony J. Leonardi joined the Company as President of PETsMART Direct in
1997. From 1979 to 1997, Mr. Leonardi held various executive positions at Sara
Lee Corporation, most recently serving as President of Catalog Division.

Marcia R. Meyer joined the Company in 1990 as Vice President and General
Merchandise Manager. In March 1997, she was promoted to President of PETsMART
International Supply Company, a unit of PETsMART. From 1985 to 1989, Ms. Meyer
held various executive positions with Broadway Southwest, a division of Carter
Hawley Hale Stores, Inc., most recently as Senior Vice President and General
Merchandise Manager.

Kenneth A. Conway joined the Company in November 1992 as Controller. A
certified public accountant, Mr. Conway was promoted to Vice President,
Controller in 1994, and was named Chief Accounting Officer of the Company in
1998.

14
<PAGE> 15

ITEM 2. PROPERTIES

The following table summarizes the locations of the superstores by country
and state at January 31, 1999:

<TABLE>
<CAPTION>
NUMBER OF
SUPERSTORES
-----------
<S> <C>
UNITED STATES
Arizona................................................. 16
Arkansas................................................ 2
California.............................................. 58
Colorado................................................ 14
Connecticut............................................. 1
Florida................................................. 31
Georgia................................................. 17
Idaho................................................... 1
Illinois................................................ 29
Indiana................................................. 10
Iowa.................................................... 1
Kansas.................................................. 6
Kentucky................................................ 1
Maryland................................................ 15
Massachusetts........................................... 3
Michigan................................................ 14
Minnesota............................................... 11
Mississippi............................................. 1
Missouri................................................ 10
Nebraska................................................ 2
Nevada.................................................. 6
New Hampshire........................................... 1
New Jersey.............................................. 14
New Mexico.............................................. 2
New York................................................ 9
North Carolina.......................................... 11
Ohio.................................................... 24
Oklahoma................................................ 6
Oregon.................................................. 6
Pennsylvania............................................ 12
Rhode Island............................................ 1
South Carolina.......................................... 2
Tennessee............................................... 7
Texas................................................... 39
Utah.................................................... 6
Vermont................................................. 1
Virginia................................................ 15
Washington.............................................. 13
</TABLE>

15
<PAGE> 16

<TABLE>
<CAPTION>
NUMBER OF
SUPERSTORES
-----------
<S> <C>
Wisconsin............................................... 3
---
Total United States PETsMART superstores................ 421
State Line Tack (Delaware and New Hampshire)............ 2
---
Total United States superstores......................... 423
Canada.................................................. 18
---
Total North America superstores......................... 441

UNITED KINGDOM SUPERSTORES
England................................................. 78
Scotland................................................ 9
Wales................................................... 3
Northern Ireland........................................ 3
---
Total United Kingdom superstores........................ 93
---
TOTAL WORLDWIDE SUPERSTORES............................. 534
</TABLE>

PETsMART leases substantially all of its superstores, retail distribution
centers and corporate offices under noncancellable operating leases. The terms
of the superstore leases, other than leases under its Structured Lease
Facilities, as described below, generally range from 10 to 25 years and
typically allow the Company to renew for three to five additional five year
terms. Superstore leases, excluding renewal options, expire at various dates
through 2025. Certain leases require payment of property taxes, utilities,
common area maintenance and insurance and, if annual sales at certain
superstores exceed specified amounts, provide for additional rents. To date, no
additional rents have been paid by the Company pursuant to such leases.

The Company has entered into lease agreements for certain of its
superstores as part of structured lease financing facilities (the "Structured
Lease Facilities"). The Structured Lease Facilities provide a special purpose
entity (not affiliated with the Company) with the necessary financing to
complete the acquisition and construction of new PETsMART superstores. Once
construction has been completed, another special purpose entity (also not
affiliated with the Company) leases the completed superstores to the Company for
a five-year term. See "Description of Credit Facility."

The Company's corporate offices cover approximately 165,000 square feet.
The lease for this space expires in 2012. PETsMART's distribution center in
Columbus, Ohio covers 360,000 square feet. The lease on this distribution center
expires in 2008. The Company operates 13 regional consolidation centers in
public warehouse facilities. In addition, the Company has a 430,000 square foot
small good distribution center in Phoenix, Arizona, the lease on which expires
in April 2002. PETsMART also operates a 110,000 square foot break-bulk center
outside of Gloucester, England, the lease on which expires in 2001. The Company
leases a 230,000 square foot facility in Ennis, Texas, under a lease which
expires in 2012, that may be reopened pending future distribution strategies.

PETsMART Direct operates a catalog fulfillment and equine distribution
center in Brockport, New York, which covers approximately 200,000 square feet.
The Company is currently constructing a 130,000 square foot addition to this
facility and expects to occupy the additional space in the fall of 1999.

ITEM 3. LEGAL PROCEEDINGS

On January 6, 1998, the Company was served with a complaint entitled Miller
v. Parker, et al. (Case No. CV 98-0020 PHX RCS) in the Federal District Court
for the District of Arizona, Phoenix Division by a putative class of investors
in PETsMART, Inc. securities. The lawsuit alleges, among other things, that the
Company and its officers and directors issued materially false financial
statements about the Company's flea and tick product inventory, financial
condition, sales and use tax obligations, and results of operations. Several
additional complaints by putative class representatives alleging substantially
the same allegations have been filed in the District of Arizona. On May 18,
1998, the District Court entered an order consolidating the

16
<PAGE> 17

securities class action litigation into a single action entitled In Re PETsMART,
Inc. Securities Litigation, CIV-98-20-PHX-ROS (JBM), and appointing lead
counsel. On July 21, 1998, Plaintiff filed a consolidated amended complaint in
the District Court. On September 25, 1998, the Company and the individual
defendants filed a motion to dismiss the amended complaint. The Company believes
that the allegations in the amended complaint are without merit and the Company
intends to defend itself vigorously.

In addition, a former Pet City affiliate has retained counsel in the United
States and made allegations claiming that the Company misled the shareholders of
Pet City at the time of the acquisition of Pet City concerning PETsMART's
business, finances and prospects. On September 30, 1997, shortly after the
receipt of the allegations by PETsMART, Richard Northcott, the former Chairman
of Pet City, resigned as a director of the Company. No litigation has been filed
with respect to this matter, and the Company believes that the allegations are
without merit. Nevertheless, there can be no assurance that one or more former
Pet City affiliates will not initiate litigation seeking monetary damages or an
equitable remedy.

On March 28, 1998, a lawsuit was filed in Federal District Court in the
Middle District of Florida entitled Cavucci et al. v. PETsMART, Inc. (Case No.
98-CV-340). This class-action complaint alleges unspecified damages based on
various alleged violations of the Fair Labor Standards Act, including alleged
failures to pay overtime premiums. On May 12, 1998, the Company answered the
complaint denying all material allegations. The Court entered an order of
procedure and schedule for trial on July 20, 1998 which outlines all discovery
and trial dates. On November 30, 1998, PETsMART filed motions for partial
summary judgment on plaintiff's claim that in-store management positions were
misclassified as exempt under the Fair Labor Standards Act. The Court denied
these motions on February 22, 1999. To date, there have been no settlement
discussions, and discovery is ongoing.

On November 20, 1998, a civil lawsuit was filed by a competitor in the
Ontario (Canada) General Court, entitled Pet Valu, Inc., et al v. PETsMART, Inc.
(Case No. 98 CV-159004). This case seeks purported monetary damages of
approximately US $63 million and claims that this amount is subject to trebling,
alleging that the Company engaged in unfair competitive practices in the Ontario
retail pet supply business. The complaint also claims that the Company
interfered with an alleged contract between the plaintiff and one of its
vendors. The Company has filed a formal response denying the allegations. The
Company believes that the allegations in the lawsuit are without merit and
intends to defend itself vigorously.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

No matters were submitted to a vote of the Company's security holders
during the fourth quarter of the fiscal year ended January 31, 1999.

17
<PAGE> 18

PART II

ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED SHAREHOLDER
MATTERS

Price Range of Common Stock and Dividend Policy. The Company's Common
Stock is traded on the Nasdaq Stock Market under the symbol "PETM." The
following table sets forth for the periods indicated the high and low price per
share of the common stock on the Nasdaq Stock Market. These prices represent
quotations among dealers without adjustments for retail mark-ups, mark-downs or
commissions, and may not represent actual transactions.

<TABLE>
<CAPTION>
FISCAL YEAR ENDED
FEBRUARY 1, 1998 HIGH LOW
- ----------------- ------ ------
<S> <C> <C>
First Quarter ended May 4, 1997............................. $23.00 $11.00
Second Quarter ended August 3, 1997......................... 12.75 9.81
Third Quarter ended November 2, 1997........................ 12.25 6.44
Fourth Quarter ended February 1, 1998....................... 8.00 6.00
</TABLE>

<TABLE>
<CAPTION>
FISCAL YEAR ENDED
JANUARY 31, 1999 HIGH LOW
- ----------------- ------ -----
<S> <C> <C>
First Quarter ended May 3, 1998............................. $13.13 $6.88
Second Quarter ended August 2, 1998......................... 12.19 8.19
Third Quarter ended November 1, 1998........................ 7.92 4.94
Fourth Quarter ended January 31, 1999....................... 11.44 7.38
</TABLE>

The Company has never paid cash dividends on its Common Stock. The Company
presently intends to retain earnings for use in the operation and expansion of
its business and therefore does not anticipate paying any cash dividends in the
foreseeable future. In addition, the Company's revolving credit agreement
restricts the payment of dividends.

On April 16, 1999, there were 6,400 holders of record of the Company's
Common Stock.

ITEM 6. SELECTED FINANCIAL DATA

The information required by this Item is attached at Appendix A.

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

Except for the historical information contained herein, the following
discussion contains forward-looking statements that involve risks and
uncertainties. The Company's actual results could materially differ from those
discussed here. Factors that could cause or contribute to such differences
include, but are not limited to, those discussed in this section, as well as in
the sections entitled Distribution, Information Systems, Competition, and
Business Risks included in this Form 10-K for the year ended January 31, 1999.

OVERVIEW

PETsMART is the largest operator of superstores specializing in pet food,
supplies and services in North America and the United Kingdom. At January 31,
1999, the Company operated 534 superstores, consisting of 423 superstores in the
United States, 93 superstores in the United Kingdom, and 18 superstores in
Canada. PETsMART's store base has grown rapidly since the Company's inception in
1986 through the opening of new stores and through the acquisitions of PETZAZZ
in March 1994, Petstuff in June 1995, Pet Food Giant in September 1995, and Pet
City in December 1996. The Company also acquired two leading catalog retailers,
Sporting Dog in May 1995 and State Line Tack in January 1996. All of these
transactions were accounted for as poolings of interest.

The Company expects that future increases in net sales and net income, if
any, will be dependent on the opening of additional superstores and the improved
performance of existing superstores. In view of the increasing maturity of its
superstore base, as well as the planned opening of additional superstores in
existing

18
<PAGE> 19

markets and single-store markets, the Company anticipates that its comparable
store sales increases may be lower in future periods. As a result of its
expansion plans, the Company anticipates the timing of new superstore openings,
and related preopening expenses, and the amount of revenue contributed by new
and existing superstores may cause the Company's quarterly results of operations
to fluctuate. The Company has achieved less favorable operating results in
certain North American geographic regions it recently entered than it has
achieved historically in other regions. In addition, because new superstores
have higher payroll, advertising and other store level expenses as a percentage
of sales than mature superstores, the impact of new superstore openings will
also contribute to lower store operating margins until they become established.
The Company currently charges preopening costs associated with each new
superstore to earnings when the superstore is opened. Beginning in fiscal 1999,
preopening costs will be expensed as incurred, in accordance with a recent AICPA
Statement of Position (see "Recent Accounting Pronouncements" section below).
Therefore, the Company expects that the opening of large numbers of new
superstores in a given quarter will adversely impact its quarterly results of
operations for that period.

BUSINESS COMBINATIONS AND RESTRUCTURING CHARGES

During fiscal 1996, the Company acquired, in two separate transactions, all
of the outstanding equity interests of State Line Tack in exchange for 1,200,000
shares of PETsMART common stock, including approximately 76,000 shares reserved
for issuance upon exercise of State Line Tack stock options assumed in the
merger, and of Pet City Holdings Plc in exchange for approximately 7,844,000
shares of PETsMART common stock, plus approximately 304,000 shares reserved for
issuance upon exercise of Pet City stock options assumed in the merger.

In connection with the above transactions, the Company recorded merger and
integration charges of $28.4 million. These charges included investment banking,
legal and accounting fees, and miscellaneous transaction costs ($8.8 million),
provision for the closure of redundant or inadequate facilities ($5.5 million),
costs associated with reformatting, refixturing, and remerchandising the
acquired superstores to the format consistent with that of a PETsMART superstore
($11.0 million), and other costs of integration ($3.1 million). In addition, the
Company recorded $13.6 million of similar business integration costs, primarily
store conversion costs, associated with the Pet City merger as nonrecurring
charges during fiscal 1997.

Also during fiscal 1996, the Company recorded merger and integration
charges of $12.3 million, principally as a result of a change in its accounting
estimate of the lease termination costs anticipated to be incurred in connection
with the settlement of lease obligations for the 17 former Petstuff stores
closed by the Company immediately following the 1995 merger with Petstuff, along
with seven lease commitments for future Petstuff locations that were either
duplicate or inadequate facilities and, therefore, never opened. The Company
estimated lease settlement costs associated with the closed stores, and the
leases related to the unopened locations, would require $10.8 million of such
additional expenditures. The remaining $1.5 million of the additional charge was
primarily related to Petstuff store conversion costs.

In connection with its initiatives to refocus its operations, the Company
in the second quarter of fiscal 1997 recorded charges of $61.0 million, of which
approximately $44.9 million was recorded as a separate restructuring charge
during the quarter. Approximately $30.0 million was related to the costs of
closing or relocating 33 stores, of which 31 were former acquired stores,
approximately $8.5 million was related to the costs of discontinuing the
Discovery Center department in all superstores and the write-down or write-off
of related fixtures, and approximately $4.1 million was related to the Company's
previous acquisitions. The remaining charges of $2.3 million included
approximately $1.0 million of anticipated costs associated with the Company's
decision to complete the consolidation of distribution facilities and
approximately $1.3 million representing the write-off of the Company's
investment in certain entities accounted for under the cost method which were
impaired as a result of the Company's decision to exit certain departments
within the PETsMART superstores.

Of the remaining $16.1 million of one-time charges, approximately $9.4
million of related charges were recorded as cost of goods sold, $3.3 million
were recorded as store operating expenses, and $3.4 million were included in
general and administrative expenses. The $9.4 million of other one-time expenses
were comprised

19
<PAGE> 20

of the write-down or write-off of certain impaired assets, including
discontinued Discovery Center merchandise, from cost to net realizable value,
reserves for litigation and other matters. The $3.3 million of other expenses
reflected as a component of store operating expenses and the $3.4 million of
one-time expenses reflected as general and administrative expenses consist
primarily of a change in estimated self-insurance costs due to adverse loss
developments in the Company's worker's compensation experience, expenses related
to the preliminary stages of a consulting project for the new management
information system, certain costs of several litigation matters, as well as
expenses related to other miscellaneous matters.

During the fourth quarter of fiscal 1998, a $1.8 million benefit was
recognized as a change in estimate as a result of favorable settlements of real
estate leases on stores identified for closure in conjunction with the fiscal
1997 restructuring charge.

The activity within the accrued merger and restructuring costs liability
account during fiscal 1998 is summarized below (in thousands):

<TABLE>
<CAPTION>
BALANCE AT CHANGE IN PAYMENTS/ BALANCE AT
FEB. 1, 1998 ESTIMATE ASSET WRITE-OFFS JAN. 31, 1999
------------ --------- ---------------- -------------
<S> <C> <C> <C> <C>
Lease termination & real estate
costs............................... $33,390 $(1,808) $(11,749) $19,833
Accrued business integration costs.... 347 -- (347) --
------- ------- -------- -------
$33,737 $(1,808) $(12,096) $19,833
======= ======= ======== =======
</TABLE>

RESULTS OF OPERATIONS

The following table sets forth the percentage relationship to net sales,
unless otherwise indicated, of certain items included in the Company's
statements of operations:

<TABLE>
<CAPTION>
FISCAL YEAR ENDED
------------------------------
JAN. 31, FEB. 1, FEB. 2,
1999 1998(a) 1997
-------- ------- -------
<S> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Net sales................................................. 100.0% 100 .0% 100.0%
Cost of sales............................................. 75.0 75.3 71.6
----- ------ -----
Gross profit.............................................. 25.0 24.7 28.4
Store operating expenses.................................. 19.0 19.3 19.3
Store preopening expenses................................. 0.4 0.5 0.7
General and administrative expenses....................... 2.9 2.8 2.8
Merger, business integration and restructuring costs...... (0.1) 3.2 2.8
----- ------ -----
Operating income (loss)................................... 2.8 (1.1) 2.8
Interest income........................................... 0.1 0.0 0.1
Interest expense.......................................... 1.1 0.8 0.6
----- ------ -----
Income (loss) before income expense (benefit) and
cumulative effect of a change in accounting principle... 1.8 (1.9) 2.3
Income tax expense (benefit).............................. 0.8 (1.0) 0.9
----- ------ -----
Income (loss) before cumulative effect of a change in
accounting principle.................................... 1.0 (0.9) 1.4
Cumulative effect of a change in accounting principle..... -- (0.1) --
----- ------ -----
Net income (loss)......................................... 1.0% (1.0)% 1.4%
===== ====== =====
</TABLE>

- ---------------
(a) Excludes restructuring charges of $9.4 million, $3.3 million, and $3.4
million recorded as components of cost of sales, store operating expenses,
and general and administrative expenses, respectively. See "Business
Combinations and Restructuring Charges" above.

20
<PAGE> 21

FISCAL 1998 COMPARED TO FISCAL 1997

The following discussion of results of operations for fiscal 1998 and
fiscal 1997 excludes the effects of the restructuring, merger and business
integration costs discussed above in "Business Combinations and Restructuring
Charges."

Net sales increased 17.8% to approximately $2.1 billion for fiscal 1998
from $1.8 billion for fiscal 1997. Comparable North American store sales
increased 6.3% for the period, and comparable United Kingdom store sales
decreased 1.4%. During 1998, the Company opened 74 new superstores, including 14
replacement stores, and closed 17 stores in North America and opened 12 stores
and closed three stores in the United Kingdom. The Company had 534 superstores
in operation at January 31, 1999 compared to 468 superstores open at February 1,
1998.

Gross profit, defined as net sales less cost of sales, including
distribution costs and store occupancy costs, increased as a percentage of net
sales to 25.0% for fiscal 1998 from 24.7% for fiscal 1997. This increase
principally reflected improved product margins in North American and United
Kingdom operations which were offset by higher occupancy costs in certain
locations, particularly in newer United Kingdom stores, increased warehouse and
distribution costs and higher personnel costs in veterinarian operations.

Store operating expenses, which includes payroll and benefits, advertising
and other store level expenses, decreased slightly as a percentage of net sales
to 19.0% for fiscal 1998 from 19.3% for fiscal 1997. The improved leverage was
due to strong expense controls in North American store operations and reduced
advertising expenditures. Reduced catalog costs and shipping expenses versus
1997 in PETsMART DIRECT operations also contributed to the improvement.

Store preopening expenses as a percentage of net sales decreased to 0.4%
for fiscal 1998, compared to 0.5% in 1997. Including 14 North American
replacement stores and 12 new United Kingdom stores, the Company opened 86
stores during fiscal 1998. The average store preopening expense of $102,000 per
store in fiscal 1998 was higher than historical levels due to the need to hire
temporary setup personnel in certain tight labor markets.

General and administrative expenses as a percentage of sales increased to
2.9% for 1998, as compared to 2.8% for 1997. The increase was directly related
to costs incurred in connection with the closure of stores, management
information system costs related to the Company's North America systems
initiatives, as well as $4.7 million of nonrecurring legal and settlement costs
and executive severance costs recorded in second quarter 1998. Excluding the
one-time legal and severance costs, general and administrative costs as a
percentage of sales were 2.7% of sales for fiscal 1998.

The Company's operating income increased to $57.3 million for 1998 from
$37.7 million for 1997, excluding the $1.8 million of merger and restructuring
benefit recorded in 1998 and the $73.5 million of merger and restructuring costs
recorded in 1997. Excluding the merger and restructuring benefit and costs,
operating income as a percentage of net sales increased from 2.1% for 1997 to
2.7% for 1998.

Interest income increased to $3.1 million for 1998 from $0.2 million for
1997, principally due to the increase in average cash balances from the note
offering completed in November 1997, as well as the planned reduction in
per-store inventories during 1998. Interest expense increased to $23.1 million
for 1998 from $13.9 million for 1997. The increase in interest expense in 1998
was also primarily related to the note offering completed in November 1997.

For fiscal 1998, income taxes were provided at an annual effective rate of
40.0%. This reflects an increase over historical levels due to changes in
foreign tax rates and mix of foreign and domestic taxable income or loss. The
Company's income tax provision for 1997 reflects the effects of the
nondeductibility of certain of the costs associated with the merger and
restructuring charges recorded. Additionally, the statutory reduction in the
United Kingdom corporate tax rate enacted during second quarter 1997 required a
$0.6 million charge to reflect the decrease in the deferred tax asset due to the
rate reduction. After excluding the effects of these items, the Company's
effective income tax rate from operations was 38.5% for fiscal 1997.

21
<PAGE> 22

As a result of the foregoing, the Company reported net income of $23.3
million (or $0.20 per share) for fiscal 1998 compared to a net loss, before
cumulative effect of a change in accounting principle of $31.8 million (or $0.28
per share) for fiscal 1997. Excluding the 1997 merger and restructuring charges
and the related tax benefits, and the cumulative effect of a change in
accounting principle, net income for fiscal 1997, on a comparable basis, was
$15.5 million (or $0.13 per share).

FISCAL 1997 COMPARED TO FISCAL 1996

The following discussion of results of operations for fiscal 1997 and
fiscal 1996 excludes the effects of the restructuring, merger and business
integration costs discussed above in "Business Combinations and Restructuring
Charges".

Net sales increased 19.3% to approximately $1.8 billion for fiscal 1997
from $1.5 billion for fiscal 1996. Comparable North American store sales
increased 4.6% for the year, and comparable United Kingdom store sales increased
5.0%. During 1997, the Company opened 76 new superstores and closed 12 relocated
stores in North America and opened 29 stores and closed 1 relocated store in the
United Kingdom. The Company had 468 superstores in operation at February 1, 1998
compared to 376 superstores open at February 2, 1997.

Gross profit, defined as net sales less cost of sales, including
distribution costs and store occupancy costs, decreased as a percentage of net
sales to 24.7% for 1997 as compared to 28.4% for 1996. The decrease is primarily
a result of higher occupancy costs in newer locations, increased United Kingdom
warehouse and distribution costs, the effects of higher personnel costs in
veterinarian and grooming operations, and lower than anticipated vendor monies
resulting from decreased purchasing activities.

Store operating expenses, which includes payroll and benefits, advertising
and other store level expenses, remained constant at 19.3% of net sales as
compared to fiscal 1996. Certain store expenses were increased to improve store
service levels in the North American stores, which were offset by certain
reductions catalog operating expenses.

Store preopening expenses as a percentage of net sales decreased to 0.5%
for the year compared to 0.7% for 1996, primarily as a result of the higher
preopening costs associated with the five super-regional format stores opened in
San Diego and the eight Canadian stores opened in 1996. The Company opened 76
North American stores and 29 United Kingdom stores during 1997, as compared to
82 stores during 1996. Average preopening costs for 1997 approximated $88,000
per store.

General and administrative expenses remained steady as a percentage of
sales at 2.8% for 1997 and for 1996. Increases during 1997 in legal, relocation
and other executive expenses, and the effects of a required change in accounting
for the computer system upgrade project, were offset by continued corporate
expense management.

The Company's operating income decreased to $37.7 million for the fiscal
1997 from $83.4 million for 1996. Operating income as a percentage of sales
decreased to 2.1% for 1997 from 5.6% for 1996, primarily as a result of the
decrease in gross profit described above.

Interest income decreased to $0.2 million for 1997 from $1.1 million for
1996 principally due to the decrease in average cash balances in 1997 compared
to 1996. Interest expense increased to $13.9 million for 1997 from $9.5 million
for 1996 principally due to higher average borrowings during the fiscal 1997,
and the interest cost resulting from the issuance in November 1997 of the
subordinated convertible notes (See "Liquidity and Capital Resources" below).

The Company's income tax provision for both 1997 and 1996 reflects the
effects of the nondeductibility of certain of the costs associated with the
merger and restructuring charges recorded in both years. After excluding the
effects of these items, the Company's effective income tax rate from operations
was 38.5% and 38% for 1997 and 1996, respectively.

Due to the issuance of Emerging Issues Task Force Consensus 97-13 in fourth
quarter 1997, which requires the expensing of certain business process
reengineering activities, the Company recorded a cumulative effect of a change
in accounting principle of $2.6 million, net of taxes (approximately $0.02 per
share).
22
<PAGE> 23

Additionally, general and administrative expenses were increased by
approximately $1.3 million as a result of this required accounting change.

Excluding the merger and restructuring charges and other charges, and the
related tax benefits, net income for 1997, decreased to $15.5 million (or $0.13
per share), compared to $46.5 million (or $0.39 per share) for fiscal 1996.
Including the effects of the restructuring and other charges recorded in both
years, the Company reported a net loss before cumulative effect of a change in
accounting principle of $31.8 million (or $0.28 per share) for fiscal 1997
compared to net income of $20.6 million (or $0.17 per share) for 1996.

LIQUIDITY AND CAPITAL RESOURCES

The Company has financed its operations and expansion program to date
principally through cash flows from operations, the sale of equity and debt
securities, lease financing and borrowings under its credit facility. Additional
sources of financing have included vendor terms on inventory purchases.

In November 1997, $200,000,000 of 6 3/4% Subordinated Convertible Notes
(the "Notes") were issued by the Company and sold to "qualified institutional
buyers" as defined in Rule 144A of the Securities Act of 1933, as amended (the
"Securities Act") in transactions exempt from registration under the Securities
Act, and in sales outside the United States within the meaning of Regulation S
under the Securities Act. The net proceeds to PETsMART from the sale of the
Notes were approximately $193,250,000.

At January 31, 1999, total assets were $932.0 million, of which $566.6
million were current assets. Cash and cash equivalents were $153.3 million.

Cash provided by operations was $57.6 million for fiscal 1998, compared to
cash used in operations of $0.8 million for the prior year. Merchandise accounts
payable leveraging (the percentage of merchandise inventory financed by vendor
credit terms, e.g., accounts payable divided by merchandise inventory),
increased to 44.3% at January 31, 1999, compared to 36.1% at February 1, 1998.
Inventory balances were approximately $336.1 million at January 31, 1999, and
$317.5 million at February 1, 1998. Average North American store inventory,
which excludes the inventory of PETsMART Direct, decreased 6.6%, respectively,
to $660,000 per store at January 31, 1999, from approximately $707,000 at
February 1, 1998.

The Company has used cash in investing activities since inception to
purchase leaseholds, fixtures and equipment for new superstores and, to a lesser
extent, to purchase equipment and computer software in support of its systems
initiatives. The Company has also used cash to purchase superstores for sale and
leaseback. Net cash used in investing activities was $33.1 million for 1998.

Net cash flow from financing activities, primarily the change in the
Company's bank overdraft, proceeds from the exercise of employee stock options,
and principal payments on capital leases, was $5.9 million for fiscal 1998.

The Company's primary long-term capital requirements are for opening new
superstores, the costs of closing redundant or inadequate superstores identified
in second quarter 1997, merger and business integration costs and corporate
investment, including costs associated with the development and implementation
of the Company's new information system, and for working capital.

All of the Company's superstores are leased facilities. The Company
estimates that the cash requirements after lease financing to open each new U.S.
prototype superstore, including store fixtures and equipment, leasehold
improvements, preopening costs and inventory is approximately $525,000. For the
Company's 26,000 square foot prototype store, this amount will typically include
an average of approximately $50,000 for leasehold improvements (an average of
approximately $400,000 if the superstore site is a rehabilitated unit),
approximately $100,000 for preopening costs, and approximately $375,000 for
inventory, net of accounts payable. Approximately $450,000 is required for store
fixtures and equipment, which is typically fully-funded through lease financing.

The Company has begun to open 19,000 square foot superstore locations,
primarily in single-store markets and as fill-in locations in existing markets.
The Company expects that these smaller stores will comprise a growing percentage
of its new store locations in future years as the Company's real estate strategy
23
<PAGE> 24

matures. These locations are generally leased facilities and capital
expenditures for these locations will typically include approximately $380,000
for inventory, net of accounts payable, approximately $100,000 for preopening
costs, and an average of approximately $50,000 for leasehold improvements.
Approximately $375,000 is required for store fixtures and equipment, which is
also typically fully-funded through lease financing.

Based upon the Company's current plan to open approximately 55 new North
American stores during fiscal 1999, approximately $28.9 million will be needed
to finance these openings. The Company may also expend additional funds to take
advantage of opportunities that arise from time to time for the acquisition of
businesses or lease rights from tenants occupying retail space that is suitable
for a PETsMART superstore.

PETsMART is in the implementation stage of developing and implementing an
integrated North America information system which will feature a common set of
applications. The Company estimates that its costs in connection with the
development and implementation of the new system, before giving consideration to
any lease financing that may be available, will be up to $20 million annually
through fiscal 2000. The Company believes that certain hardware and software
components of the new system will be financed through lease transactions, some
of which have been completed. There can be no assurance that the actual costs
for the new system will not exceed current estimates, or that the new system can
be developed, tested and implemented on a timely basis, or at all, or that it
will deliver the anticipated operational benefits in a reliable manner. Failure
to complete the new system on a timely basis could materially adversely affect
the Company's future operating results or its ability to expand. In particular,
should the new system not be operational, or should an alternate solution not be
implemented by January 1, 2000, the Company may experience software difficulties
as a result of the so-called "Year 2000" problem (see "Year 2000 Readiness"). In
the event that additional financing is required to complete the Company's new
information system, there can be no assurance that such additional financing
will be available to the Company on acceptable terms.

Capital expenditures, net of construction allowances, were approximately
$39.7 million during fiscal 1998. Such expenditures were used primarily for the
opening of new superstores in North America and the United Kingdom, the
development and implementation of the Company's new information system and the
remodel and maintenance of the Company's existing superstores.

Management believes that its existing cash and cash equivalents, together
with cash flow from operations, borrowing capacity under its bank credit
facility and available lease financing will provide adequate funds for the
Company's foreseeable working capital needs, planned capital expenditures and
debt service obligations. The Company's ability to fund its operations and to
make planned capital expenditures and scheduled debt payments, to refinance
indebtedness and to remain in compliance with all of the financial covenants
under its debt agreements depends on its future operating performance and cash
flow, which in turn are subject to prevailing economic conditions and to
financial, business and other factors, some of which are beyond the Company's
control.

SEASONALITY AND INFLATION

The Company's business is subject to some seasonal fluctuation and it
typically realizes a substantial portion of its net sales and operating profits
during the fourth fiscal quarter. In addition, sales of certain of the Company's
products and services designed to address pet health needs, such as flea and
tick problems, have been and may continue to be negatively impacted by the
introduction of alternative treatments, as well as by variations in weather
conditions. In addition, because PETsMART's superstores typically draw customers
from a large trade area, sales may be impacted by adverse weather or travel
conditions.

The Company's results of operations and financial position are presented
based upon historical cost. Although the Company cannot accurately anticipate
the effect of inflation on its operations, it does not believe inflation is
likely to have a material adverse effect on its net sales or results of
operations.

24
<PAGE> 25

RECENT ACCOUNTING PRONOUNCEMENTS

In March 1998, the AICPA issued Statement of Position 98-1, "Accounting for
the Costs of Computer Software Developed or Obtained for Internal Use" ("SOP
98-1"). SOP 98-1 is effective for financial statements for fiscal years
beginning after December 15, 1998. Under the provisions of SOP 98-1, software
development is divided into three phases: the preliminary project stage, which
includes conceptual formulation and selection of alternatives; the application
development stage, which includes design of chosen path, coding, installation of
hardware and testing; and the post-implementation/operation stage, which
includes training and application maintenance. Generally, only internal and
external costs incurred during the second phase, application development stage,
should be capitalized with the exception of data conversion and training costs,
which, when incurred during this phase, should be expensed. The Company is
substantially in compliance with the provisions of SOP 98-1 and does not
anticipate a material effect on its financial statements upon adoption.

In April 1998, the AICPA issued Statement of Position 98-5, "Reporting on
the Costs of Start-up Activities" ("SOP 98-5"). SOP 98-5 is effective for
financial statements for fiscal years beginning after December 15, 1998. Under
the provisions of SOP 98-5, costs of start-up activities, including organization
costs, will be expensed as incurred. The Company currently expenses its store
preopening costs in the period in which the store opens. The Company will adopt
SOP 98-5 and will recognize a cumulative change in accounting principle in the
first quarter of fiscal 1999.

In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities" ("SFAS 133"). SFAS 133 is effective for financial
statements for fiscal years beginning after June 15, 1999. This statement
establishes the accounting and reporting standards for derivative instruments
and hedging activities, requiring that an entity recognize all derivatives as
either assets or liabilities in the statement of financial position and measure
them at fair value. It also provides for matching of the timing of gain or loss
recognition on the hedging instrument with the recognition of (i) the changes in
the fair value of the hedged asset or liability related to the hedged risk or
(ii) the hedged forecasted transaction earnings effect. The Company will adopt
SFAS 133 in the first quarter of fiscal 2000 and does not expect a material
effect on its financial statements as a result of adoption.

YEAR 2000 READINESS

The Year 2000 systems processing problem, as it is commonly known, is
caused by currently utilized computer systems, including several used by the
Company, being coded to only accept two-digit codes for the year field in a date
set of data. Beginning in the year 2000, these date fields must be able to
accept four-digit entries to distinguish 1900 base-year dates with 2000
base-year dates. The Company is and has been addressing the Year 2000 systems
issue through various initiatives, all of which are in progress. A new
integrated North America information system, which is Year 2000 compliant, is
currently in the implementation stage. The system is scheduled to be operational
for the North American retail operations during the first half of fiscal 1999.
Other initiatives in place include issue awareness programs, inventory and
identification of all Year 2000-sensitive components (including hardware,
software, and telecommunications), requesting of compliance status statements
from Company business partners, suppliers, and vendors, and testing of all new
and existing systems. Year 2000 compliance activities are expected to be
complete by October 1999. The Company estimates that its costs in connection
with the development and implementation of the new information system, before
giving consideration to any lease financing that may be available, will be up to
$20 million annually through fiscal year 2000, plus maintenance and upkeep costs
which are not expected to be material. Similar Year 2000 readiness programs are
in place in the Company's United Kingdom and Catalog operational segments, with
costs to address those segment's Year 2000 issues not expected to be material.

There can be no assurance, however, that the new North America information
system can be developed, tested, and implemented on a timely basis or that it
will deliver the desired operational benefits. Nor can there be assurance that
the initiatives put in place to address the Year 2000 issues will identify and
remove all potential operational impacts. While significant economic detriment
from Year 2000 issues is not expected, there can be no assurance that there will
not be operational difficulties in the Company's stores, warehouses, or

25
<PAGE> 26

corporate offices, the financial magnitude of which is not currently estimable.
The Year 2000 initiatives being conducted by the Company are expected to
significantly reduce the Company's level of uncertainty about the Year 2000
problem, including the Year 2000 compliance and readiness of external partners.
The Company believes that, with the implementation of new North America business
systems and the completion of its Year 2000 initiatives as scheduled, the
possibility of significant interruptions of normal operations will be reduced.
Although the Company believes contingency plans will not need to be utilized
based on progress to date, contingency plans have been developed for each
critical system. The specifics of the contingency plans vary depending on the
system and assessed risk of non-compliance and such plans are modified
periodically based on review and testing. The plans are comprised of activities
such as upgrading existing systems, reallocating internal resources, obtaining
additional external resources, and implementing temporary manual processes.

ITEM 7.A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS

The Company is subject to the risk of fluctuating interest rates in the
ordinary course of business on certain assets including cash and cash
equivalents, and on borrowings under its revolving credit arrangement. The
Company has entered into interest rate swaps to lower its funding costs and
reduce its exposure to changes in short-term interest rates. Under these
arrangements, the Company may convert variable rate lease payments and
borrowings into borrowings at a fixed rate of approximately 6.6%. The Company
does not expect changes in fair value of the arrangements to have a significant
effect on the Company's operations, cash flow or financial position. See Notes 6
and 7 of Notes to the Consolidated Financial Statements.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The information required by this Item is attached as Appendix F.

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE

None.

26
<PAGE> 27

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The information required by this item with respect to Directors is
incorporated by reference from the information under the caption "Election of
Directors" contained in the Company's definitive proxy statement in connection
with the solicitation of proxies for the Company's 1998 Annual Meeting of
Stockholders to be held on June 24, 1999 (the "Proxy Statement").

The required information concerning Executive Officers of the Company is
contained in Item 1, Part 1 of this Report.

ITEM 11. EXECUTIVE COMPENSATION

The information required by this item is incorporated by reference from the
information under the caption "Executive Compensation" contained in the Proxy
Statement.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

The information required by this item is incorporated by reference from the
information under the caption "Security Ownership of Certain Beneficial Owners
and Management" contained in the Proxy Statement.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The information required by this item is incorporated by reference from the
information under the caption "Certain Relationships and Related Transactions"
contained in the Proxy Statement.

27
<PAGE> 28

PART IV

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

(a) The following documents are filed as part of this Annual Report on Form
10-K.

1. Financial Statements: The financial statements of PETsMART are
included as Appendix F of this report. See Index to Financial Statements on
page F-1.

2. Financial Statement Schedules: Financial statement schedules
required under the related instructions are not applicable for the period
ended January 31, 1999, and have therefore been omitted or the information
is presented in the consolidated financial statements or related notes.

3. Exhibits: The exhibits which are filed with this Report or which
are incorporated herein by reference are set forth in the Exhibit Index on
page E-1.

(b) Reports on Form 8-K.

During the fourth quarter of fiscal 1998, the Company filed no reports on
Form 8-K.

28
<PAGE> 29

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized, on April 23, 1999.

PETSMART, INC.

By: /s/ PHILIP L. FRANCIS
------------------------------------
Philip L. Francis
President, Chief Executive Officer
(Principal Executive Officer)

Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.

<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<C> <S> <C>

/s/ SAMUEL J. PARKER Chairman of the Board of Directors April 23, 1999
- ---------------------------------------------------
Samuel J. Parker

/s/ PHILIP L. FRANCIS President, Chief Executive Officer April 23, 1999
- --------------------------------------------------- and Director
Philip L. Francis

/s/ NEIL T. WATANABE Executive Vice President, Chief April 23, 1999
- --------------------------------------------------- Financial Officer (Principal
Neil T. Watanabe Financial Officer)

/s/ KENNETH A. CONWAY Vice President, Controller April 23, 1999
- --------------------------------------------------- (Principal Accounting Officer)
Kenneth A. Conway

/s/ NORMAN E. BRINKER Director April 23, 1999
- ---------------------------------------------------
Norman E. Brinker

/s/ LAWRENCE A. DEL SANTO Director April 23, 1999
- ---------------------------------------------------
Lawrence A. Del Santo

/s/ JANE EVANS Director April 23, 1999
- ---------------------------------------------------
Jane Evans

/s/ RICHARD K. LOCHRIDGE Director April 23, 1999
- ---------------------------------------------------
Richard K. Lochridge

/s/ BARBARA A. MUNDER Director April 23, 1999
- ---------------------------------------------------
Barbara A. Munder

/s/ WALTER J. SALMON Director April 23, 1999
- ---------------------------------------------------
Walter J. Salmon

/s/ THOMAS G. STEMBERG Director April 23, 1999
- ---------------------------------------------------
Thomas G. Stemberg
</TABLE>

29
<PAGE> 30

APPENDIX E

PETSMART, INC.

ANNUAL REPORT ON FORM 10-K

EXHIBIT INDEX

<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
- ------- -----------------------
<C> <S> <C>
2.1 Agreement and Plan of Reorganization by and among PETsMART,
PETsMART Acquisition Corp. and Petstuff, Inc., dated
February 7, 1995, as amended(5).............................
2.2 Agreement and Plan of Reorganization between PETsMART and
The Weisheimer Companies, Inc., dated January 28, 1994(2)...
2.3 Agreement and Plan of Reorganization between PETsMART,
Remington Acquisition Corp., Sporting Dog Specialties, Inc.
and certain individual shareholders named therein, dated as
of April 3, 1995 (the "Sporting Dog Agreement")(3)..........
2.4 Form of First Amendment to the Sporting Dog Agreement, dated
as of April 18, 1995(3).....................................
2.5 Agreement and Plan of Reorganization and Plan of Merger by
and among PETsMART, Turnpike Acquisition Corp., and The Pet
Food Giant, Inc., dated as of August 17, 1995(5)............
2.6 Agreement and Plan of Reorganization by and among PETsMART,
Stallion Acquisition Corp., and State Line Tack, Inc., dated
as of December 20, 1995(7)..................................
2.7 Merger Agreement by and among PETsMART and Pet City Holdings
plc, dated as of October 24, 1996(9)........................
3.1 Restated Certificate of Incorporation of PETsMART(1)........
3.2 By-laws of PETsMART(1)......................................
3.3 Certificate of Amendment of Restated Certificate of
Incorporation of PETsMART(8)................................
4.1 Reference is made to Exhibits 3.1, 3.2 and 3.3..............
4.2 Restated Registration and First Refusal Rights Agreement,
among PETsMART and the parties named therein, dated October
30, 1992(1).................................................
4.3 Series H Preferred Stock Purchase Agreement between PETsMART
and the other parties named therein, dated as of September
8, 1991(1)..................................................
4.4 Indenture between PETsMART and Norwest Bank Minnesota, N.A.,
as Trustee dated as of November 7, 1997(11).................
4.5 Purchase Agreement by and among PETsMART, Donaldson, Lufkin
& Jenrette Securities Corporation, and Nationsbanc
Montgomery Securities, Inc., dated as of November 4,
1997(11)....................................................
4.6 Registration Rights Agreement by and among PETsMART,
Donaldson, Lufkin & Jenrette Securities Corporation, and
Nationsbanc Montgomery Securities, Inc., dated as of
November 7, 1997(11)........................................
4.7 Form of Convertible Note(12)................................
10.1 Form of Indemnity Agreement entered into between PETsMART
and its directors and officers, with related schedules(1)...
10.2* PETsMART's 1995 Equity Incentive Plan (the "Incentive Plan")
(an amendment and restatement of the Registrant's 1988 Stock
Option Plan)(4).............................................
10.3* Form of Incentive Stock Option Grant under the Incentive
Plan(4).....................................................
10.4* Form of Non-qualified Stock Option Grant under the Incentive
Plan(4).....................................................
10.5* PETsMART's 1992 Non-Employee Director's Stock Option Plan
(the "Director's Plan")(1)..................................
10.6* PETsMART's Employee Stock Purchase Plan(1)..................
10.12* Employment Agreement between Giles Clarke, PETsMART and Pet
City Holdings, plc dated as of October 23, 1996(9)..........
</TABLE>

E-1
<PAGE> 31

<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
- ------- -----------------------
<C> <S> <C>
10.13 Third Amended and Restated Credit Agreement among PETsMART,
certain lenders, and NationsBank of Texas, N.A. as
Administrative Lender, dated as of April 18, 1997(9)........
10.14 First Amendment, dated as of August 6, 1997, to Third
Amended and Restated Credit Agreement among PETsMART,
certain lenders, and NationsBank of Texas, N.A. as
Administrative Lender(10)...................................
10.15 Second Amendment, dated as of October 29, 1997, to Third
Amended and Restated Credit Agreement among PETsMART,
certain lenders, and NationsBank of Texas, N.A. as
Administrative Lender(11)...................................
10.16 Third Amendment, dated as of July 31, 1998, to Third Amended
and Restated Credit Agreement among PETsMART, certain
lenders, and NationsBank of Texas, N.A. as Administrative
Lender(13)..................................................
10.17 Deed of Variation to the Employment Agreement between Giles
Clarke, PETsMART and Pet City Holdings, plc dated as of
September 2, 1998
23.1 Consent of PricewaterhouseCoopers LLP.......................
23.2 Consent of Grant Thornton...................................
27. Financial Data Schedules....................................
</TABLE>

- ---------------

* Management Contract or Compensatory Plan or Agreement

(1) Incorporated by reference to the indicated exhibit to PETsMART's
Registration Statement on Form S-1 (File No. 33-63912).

(2) Incorporated by reference to the indicated exhibit to PETsMART's Current
Report on Form 8-K (File No. 0-21888), filed on April 8, 1994.

(3) Incorporated by reference to the indicated exhibit to PETsMART's
Registration Statement on Form S-4 (File No. 33-91356), as amended.

(4) Incorporated by reference to Exhibits 10.1 and 10.2 to PETsMART's Quarterly
Report on Form 10-Q (File No. 0-21888), filed on June 8, 1995.

(5) Incorporated by reference to Exhibit 2.1 to PETsMART's Current Report on
Form 8-K (File No. 0-21888), filed on September 28, 1995.

(6) Incorporated by reference to Exhibit 10.5 to PETsMART's Quarterly Report on
Form 10-Q (File No. 0-21888), filed on December 11, 1995.

(7) Incorporated by reference to Exhibit 10.1 to PETsMART's Current Report on
Form 8-K (File No. 0-21888), filed on February 13, 1996.

(8) Incorporated by reference to Exhibit 3.1 to PETsMART's Current Report on
Form 8-K (File No. 0-21888), filed September 11, 1996.

(9) Incorporated by reference to Exhibits 2.1 and 10.1 to PETsMART's Current
Report on Form 8-K (File No. 0-21888), filed on December 31, 1996, as
amended by PETsMART's Current Report of Form 8-K/A (File No. 0-21888),
filed on February 14, 1997.

(10) Incorporated by reference to Exhibit 10.13 to PETsMART's Quarterly Report
on Form 10-Q (File No. 0-21888), filed September 16, 1997.

(11) Incorporated by reference to the indicated exhibit to PETsMART's
Registration Statement on Form S-3 (File No. 333-41111), filed November 26,
1997.

(12) Incorporated by reference to Exhibit 3 to PETsMART's Registration Statement
on Form 8-A, (File No. 0-21888), filed March 5, 1998.

(13) Incorporated by reference to Exhibit 10.14 to PETsMART's Quarterly Report
on Form 10-Q (File No. 0-21888), filed September 11, 1998.

E-2
<PAGE> 32

PETSMART, INC. AND SUBSIDIARIES

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of PricewaterhouseCoopers LLP, Independent
Accountants............................................... F-2
Report of Grant Thornton, Independent Accountants........... F-2a
Consolidated Balance Sheets as of January 31, 1999 and
February 1, 1998.......................................... F-3
Consolidated Statements of Operations for the fiscal years
ended January 31, 1999, February 1, 1998 and February 2,
1997...................................................... F-4
Consolidated Statements of Stockholders' Equity for the
fiscal years ended January 31, 1999, February 1, 1998 and
February 2, 1997.......................................... F-5
Consolidated Statements of Cash Flows for the fiscal years
ended January 31, 1999, February 1, 1998 and February 2,
1997...................................................... F-6
Notes to Consolidated Financial Statements.................. F-7
</TABLE>

F-1
<PAGE> 33

REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Stockholders of
PETsMART, Inc. and Subsidiaries

In our opinion, based upon our audits and the report of other auditors, the
accompanying consolidated balance sheets and the related consolidated statements
of operations, of stockholders' equity, and of cash flows present fairly, in all
material respects, the financial position of PETsMART, Inc. and Subsidiaries
("the Company") at January 31, 1999 and February 1, 1998, and the results of
their operations and their cash flows for each of the three years in the period
ended January 31, 1999, in conformity with generally accepted accounting
principles. These financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements based on our audits. We did not audit the financial statements of Pet
City Holdings plc, which statements reflect total revenues of $84,026,000 for
the 52 weeks ended July 27, 1996. The consolidated financial statements of
PETsMART, Inc. for the year ended February 2, 1997 include total revenues of
$43,747,000 for Pet City Holdings plc for the 26 weeks ended July 27, 1996. The
Pet City Holdings plc financial statements were audited by other auditors whose
report thereon has been furnished to us, and our opinion expressed herein,
insofar as it relates to the amounts included for Pet City Holdings plc, is
based solely on the report of the other auditors. We conducted our audits of
these statements in accordance with generally accepted auditing standards which
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits and the report of
other auditors provide a reasonable basis for the opinion expressed above.

PricewaterhouseCoopers LLP

Phoenix, Arizona
February 26, 1999

F-2
<PAGE> 34

REPORT OF INDEPENDENT CHARTERED ACCOUNTANTS

To the Board of Directors and Shareholders of
Pet City Holdings Plc

We have audited the accompanying consolidated balance sheets of Pet City
Holdings Plc (a United Kingdom public limited company) and subsidiaries as of
July 27, 1996 and July 29, 1995 and the related consolidated statements of
operations, shareholders' equity and cash flows for each of the 52 weeks then
ended. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.

We conducted our audits in accordance with U.S. generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Pet City
Holdings plc and subsidiaries as of July 27, 1996 and July 29, 1995 and the
consolidated results of their operations and their consolidated cash flows for
each of the 52 weeks then ended in conformity with U.S. generally accepted
accounting principles.

/s/ GRANT THORNTON

Grant Thornton
Chartered Accountants
Registered Auditors
London
England
October 24, 1996

except for Note O -- Subsequent Events
as to which the date is November 20, 1996

F-2a
<PAGE> 35

PETSMART, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PER SHARE DATA)

<TABLE>
<CAPTION>
JANUARY 31, FEBRUARY 1,
1999 1998
----------- -----------
<S> <C> <C>
ASSETS
Cash and cash equivalents................................... $153,336 $125,082
Receivables................................................. 49,235 45,853
Merchandise inventories..................................... 336,058 317,547
Prepaid expenses and other current assets................... 27,943 27,228
-------- --------
Total current assets.............................. 566,572 515,710
Property held for sale and leaseback........................ 9,395 2,212
Property and equipment, net................................. 270,332 242,384
Other assets................................................ 85,700 79,381
-------- --------
Total assets...................................... $931,999 $839,687
======== ========

LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable............................................ $148,915 $114,692
Accrued payroll and employee benefits....................... 24,799 18,559
Accrued occupancy expenses.................................. 15,580 10,548
Accrued merger, business integration and restructuring
costs..................................................... 19,833 33,737
Other accrued expenses...................................... 44,704 29,980
Current maturities of capital leases........................ 16,434 10,753
-------- --------
Total current liabilities......................... 270,265 218,269
6 3/4% subordinated convertible notes....................... 200,000 200,000
Capital lease obligations................................... 79,771 68,008
Deferred rents.............................................. 16,656 17,015
Other liabilities........................................... 489 1,701
-------- --------
Total liabilities................................. 567,181 504,993
-------- --------
Commitments and contingencies
Stockholders' equity:
Preferred stock (Note 10)................................. -- --
Common stock; $.0001 par value; 250,000 shares authorized,
116,461 and 115,629 shares issued and outstanding...... 12 11
Additional paid-in capital................................ 394,799 383,338
Deferred compensation..................................... (2,503) --
Accumulated deficit....................................... (24,857) (48,126)
Accumulated other comprehensive loss...................... (2,633) (529)
-------- --------
Total stockholders' equity........................ 364,818 334,694
-------- --------
Total liabilities and stockholders' equity........ $931,999 $839,687
======== ========
</TABLE>

The accompanying notes are an integral part of these financial statements.
F-3
<PAGE> 36

PETSMART, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)

<TABLE>
<CAPTION>
FISCAL YEAR ENDED
---------------------------------------
JANUARY 31, FEBRUARY 1, FEBRUARY 2,
1999 1998 1997
----------- ----------- -----------
<S> <C> <C> <C>
Net sales................................................ $2,109,322 $1,790,599 $1,501,017
Cost of sales............................................ 1,581,202 1,356,413 1,074,666
---------- ---------- ----------
Gross profit........................................... 528,120 434,186 426,351
Store operating expenses................................. 399,897 349,563 289,622
Store preopening expenses................................ 8,814 9,222 10,907
General and administrative expenses...................... 62,153 53,865 42,463
Merger, business integration and restructuring costs
(benefits)............................................. (1,808) 57,364 40,714
---------- ---------- ----------
Operating income (loss)................................ 59,064 (35,828) 42,645
Interest income.......................................... 3,092 213 1,057
Interest expense......................................... (23,050) (13,921) (9,450)
---------- ---------- ----------
Income (loss) before income tax expense (benefit) and
cumulative effect of a change in accounting
principle........................................... 39,106 (49,536) 34,252
Income tax expense (benefit)............................. 15,837 (17,735) 13,661
---------- ---------- ----------
Income (loss) before cumulative effect of a change in
accounting principle................................ 23,269 (31,801) 20,591
Cumulative effect of a change in accounting principle,
net of tax............................................. -- (2,629) --
---------- ---------- ----------
Net income (loss)...................................... 23,269 (34,430) 20,591
Other comprehensive income (loss), net of tax:
Foreign currency translation adjustments............... (2,104) (1,495) 1,079
---------- ---------- ----------
Comprehensive income (loss)............................ $ 21,165 $ (35,925) $ 21,670
========== ========== ==========
Earnings per common share -- basic:
Income (loss) before cumulative effect of a change in
accounting principle................................ $ 0.20 $ (0.28) $ 0.18
Cumulative effect of a change in accounting principle,
net of tax.......................................... -- (0.02) --
---------- ---------- ----------
Net income (loss)...................................... $ 0.20 $ (0.30) $ 0.18
========== ========== ==========
Earnings per common share -- assuming dilution:
Income (loss) before cumulative effect of a change in
accounting principle................................ $ 0.20 $ (0.28) $ 0.17
Cumulative effect of a change in accounting principle,
net of tax.......................................... -- (0.02) --
---------- ---------- ----------
Net income (loss)...................................... $ 0.20 $ (0.30) $ 0.17
========== ========== ==========
</TABLE>

The accompanying notes are an integral part of these financial statements.
F-4
<PAGE> 37

PETSMART, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS)
<TABLE>
<CAPTION>
AMOUNTS
------------------------------------------------------------------
SHARES
---------------------- RETAINED
REDEEMABLE REDEEMABLE ADDITIONAL PAID EARNINGS DEFERRED
PREFERRED(1) COMMON PREFERRED(1) COMMON IN CAPITAL (DEFICIT) COMPENSATION
------------ ------- ------------ ------ --------------- --------- ------------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCES AT JANUARY 28, 1996......... 3,474 109,751 $ 6,511 $ 6 $330,935 $(35,541) $ --
Tax benefit from exercise of stock
options............................. 9,595
2-for-1 stock split effected in the
form of a stock dividend............ 5 (5)
Issue of common for employee benefit
plan and exercise of stock
options............................. 2,763 15,486
Issue of common for acquisitions,
including veterinary clinics........ 522 11,160
Accretion of redeemable preferred
stock and State Line Tack warrant... 77 (77)
Conversion of State Line Tack
preferred stock and warrant, and Pet
City stock options, to PETsMART
common.............................. (3,474) 922 (6,588) 6,588
Other comprehensive income, net of
tax:
Foreign currency translation
adjustments.......................
Net income........................... 20,591
Adjustment to conform fiscal year of
Pet City............................ 1,336
------ ------- ------- --- -------- -------- -------
BALANCES AT FEBRUARY 2, 1997......... -- 113,958 -- 11 373,764 (13,696) --
Tax benefit from exercise of stock
options............................. 1,600
Issue of common for employee benefit
plan and exercise of stock
options............................. 1,556 6,867
Issue of common for acquisitions,
including veterinary clinics........ 115 1,107
Other comprehensive income, net of
tax:
Foreign currency translation
adjustments.......................
Net loss............................. (34,430)
------ ------- ------- --- -------- -------- -------
BALANCES AT FEBRUARY 1, 1998......... -- 115,629 -- 11 383,338 (48,126) --
Tax benefit from exercise of stock
options............................. 542
Issue of common for employee benefit
plan and exercise of stock
options............................. 778 1 5,396
Issue of common for acquisitions,
including veterinary clinics........ 54 2,520
Deferred compensation................ 3,003 (3,003)
Amortization of deferred
compensation........................ 500
Other comprehensive income, net of
tax:
Foreign currency translation
adjustments.......................
Net income........................... 23,269
------ ------- ------- --- -------- -------- -------
BALANCES AT JANUARY 31, 1999......... -- 116,461 $ -- $12 $394,799 $(24,857) $(2,503)
====== ======= ======= === ======== ======== =======

<CAPTION>
AMOUNTS
------------------------
ACCUMULATED
OTHER
COMPREHENSIVE
INCOME (LOSS) TOTAL
------------- --------
<S> <C> <C>
BALANCES AT JANUARY 28, 1996......... $ (113) $301,798
Tax benefit from exercise of stock
options............................. 9,595
2-for-1 stock split effected in the
form of a stock dividend............ --
Issue of common for employee benefit
plan and exercise of stock
options............................. 15,486
Issue of common for acquisitions,
including veterinary clinics........ 11,160
Accretion of redeemable preferred
stock and State Line Tack warrant... --
Conversion of State Line Tack
preferred stock and warrant, and Pet
City stock options, to PETsMART
common.............................. --
Other comprehensive income, net of
tax:
Foreign currency translation
adjustments....................... 1,079 1,079
Net income........................... 20,591
Adjustment to conform fiscal year of
Pet City............................ 1,336
------- --------
BALANCES AT FEBRUARY 2, 1997......... 966 361,045
Tax benefit from exercise of stock
options............................. 1,600
Issue of common for employee benefit
plan and exercise of stock
options............................. 6,867
Issue of common for acquisitions,
including veterinary clinics........ 1,107
Other comprehensive income, net of
tax:
Foreign currency translation
adjustments....................... (1,495) (1,495)
Net loss............................. (34,430)
------- --------
BALANCES AT FEBRUARY 1, 1998......... (529) 334,694
Tax benefit from exercise of stock
options............................. 542
Issue of common for employee benefit
plan and exercise of stock
options............................. 5,397
Issue of common for acquisitions,
including veterinary clinics........ 2,520
Deferred compensation................ --
Amortization of deferred
compensation........................ 500
Other comprehensive income, net of
tax:
Foreign currency translation
adjustments....................... (2,104) (2,104)
Net income........................... 23,269
------- --------
BALANCES AT JANUARY 31, 1999......... $(2,633) $364,818
======= ========
</TABLE>

- ---------------

(1) Redeemable preferred carried at liquidation value.

The accompanying notes are an integral part of these financial statements.
F-5
<PAGE> 38

PETSMART, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)

<TABLE>
<CAPTION>
FISCAL YEAR ENDED
---------------------------------------
JANUARY 31, FEBRUARY 1, FEBRUARY 2,
1999 1998 1997
----------- ----------- -----------
<S> <C> <C> <C>
CASH FLOWS FROM (USED IN) OPERATING ACTIVITIES:
Net income (loss).......................................... $ 23,269 $ (34,430) $ 20,591
Adjustments to reconcile net income (loss) to net cash from
(used in) operating activities --
Adjustment to conform fiscal year of Pet City............ -- -- 1,336
Depreciation and amortization............................ 43,778 35,301 28,186
Loss on disposal of property and equipment............... 1,795 675 340
Tax benefit resulting from exercise of stock options..... 542 1,600 9,595
Changes in assets and liabilities:
Receivables.............................................. (13,509) 1,509 (11,509)
Merchandise inventories.................................. (18,272) (16,952) (88,959)
Prepaid expenses and other current assets................ (715) (2,368) (10,345)
Other assets............................................. (7,404) (9,592) (15,354)
Accounts payable......................................... 17,087 (7,575) 1,690
Accrued payroll and employee benefits.................... 6,240 4,367 (2,173)
Accrued occupancy expenses............................... 5,032 4,242 (1,240)
Accrued merger, business integration and restructuring
costs................................................. (13,413) 22,669 17,867
Other accrued expenses................................... 14,724 (3,876) 11,393
Deferred rents........................................... (359) 3,603 1,371
Other liabilities........................................ (1,212) (15) 489
-------- --------- ---------
Net cash from (used in) operating activities............... 57,583 (842) (36,722)
-------- --------- ---------
CASH FLOWS FROM (USED IN) INVESTING ACTIVITIES:
Purchases of leaseholds, fixtures and equipment............ (39,724) (59,051) (51,886)
Purchases of property held for sale and leaseback.......... (5,706) (2,212) (18,629)
Proceeds from sales of property held for sale and
leaseback................................................ 12,303 -- 28,883
-------- --------- ---------
Net cash (used in) investing activities.................... (33,127) (61,263) (41,632)
-------- --------- ---------
CASH FLOWS FROM (USED IN) FINANCING ACTIVITIES:
Net proceeds from issuance of common stock................. 5,396 7,974 15,486
Borrowings from bank credit facility....................... -- 117,100 142,900
Repayment of bank credit facility.......................... -- (142,100) (140,148)
Issuance of 6 3/4% convertible subordinated notes.......... -- 200,000 --
Payment of debt issue costs................................ -- (6,346) --
Payment on capital lease obligations....................... (16,630) (11,168) (9,998)
Increase (decrease) in bank overdraft...................... 17,136 (16,646) 20,600
-------- --------- ---------
Net cash from financing activities......................... 5,902 148,814 28,840
-------- --------- ---------
FOREIGN CURRENCY TRANSLATION GAINS (LOSSES)................ (2,104) (1,495) 1,079
-------- --------- ---------
INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS..................................... 28,254 85,214 (48,435)
-------- --------- ---------
CASH AND CASH EQUIVALENTS
AT BEGINNING OF YEAR..................................... 125,082 39,868 88,303
-------- --------- ---------
CASH AND CASH EQUIVALENTS
AT END OF YEAR........................................... $153,336 $ 125,082 $ 39,868
======== ========= =========
</TABLE>

The accompanying notes are an integral part of these financial statements.
F-6
<PAGE> 39

PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1 THE COMPANY AND ITS SIGNIFICANT ACCOUNTING POLICIES:

BUSINESS

PETsMART, Inc. and Subsidiaries ("the Company") is a superstore retailer of
pet food, pet supplies, accessories and professional pet services throughout
North America and the United Kingdom. The Company, through its wholly-owned
subsidiary, PETsMART Direct, is also a leading mail order catalog retailer of
pet and animal products, and equine and riding supplies.

PRINCIPLES OF CONSOLIDATION

The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiaries. All significant intercompany accounts and
transactions are eliminated in consolidation.

Financial data for all periods presented reflect the retroactive effects of
the January 1996 merger with State Line Tack, Inc. ("State Line Tack") and the
December 1996 merger with Pet City Holdings Plc ("Pet City"), both of which have
been accounted for as poolings of interests (see Note 2).

The financial statements have been prepared by combining the historical
financial statements of PETsMART with the historical financial statements of the
acquired entities. Only Pet City required any material adjustments to retained
earnings in order to conform with PETsMART's fiscal year end, as all prior
historical financial statements of the acquired entities were for fiscal years
ended within 93 days of the Company's fiscal year end. The Pet City transaction
was accounted for by combining the historical financial statements of PETsMART
for each of the two years in the period ended February 2, 1997 with the
historical financial statements of Pet City Holdings Plc for the 53 week period
ended February 2, 1997 and the 52 week period ended July 27, 1996, respectively.
As a result, the results of operations of Pet City for the 26 weeks ended July
27, 1996 were included in the Company's consolidated results of operations in
both the fiscal year ended February 2, 1997 and January 26, 1996. Revenues and
net income of Pet City included in both periods were $43.7 million and $1.3
million, respectively. An adjustment of $1.3 million was required to the
retained earnings of PETsMART during the 53 week period ended February 2, 1997
in order to conform the fiscal year end of Pet City to PETsMART's fiscal year.
No material adjustments were necessary in any of the above transactions to
conform the accounting practices of the companies, nor, for periods preceding
the mergers, were there any intercompany transactions which required elimination
from the combined results.

FISCAL YEAR

The Company's fiscal year ends on the Sunday nearest January 31. Fiscal
years 1998 and 1997 each comprised 52 weeks, while fiscal year 1996 comprised 53
weeks.

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.

CASH AND CASH EQUIVALENTS

The Company utilizes a cash management system under which a book balance
cash overdraft exists for the Company's primary disbursement accounts. This
overdraft represents uncleared checks in excess of cash balances in bank
accounts. The Company's funds are transferred on an as-needed basis to pay for
clearing checks. At January 31, 1999 and February 1, 1998, cash overdrafts of
$63.2 million and $46.1 million,

F-7
<PAGE> 40
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

respectively, were included in accounts payable. The Company considers any
liquid investments with an original maturity of three months or less to be cash
equivalents.

MERCHANDISE INVENTORIES AND COST OF SALES

Merchandise inventories are stated at the lower of cost or market. Cost is
determined using the first-in, first-out method based on moving average costs
and includes certain general, administrative and distribution costs relating to
the processing of merchandise.

Total general and administrative costs charged to inventory during fiscal
years 1998, 1997, and 1996 were $20,384,000, $17,393,000, and $12,869,000,
respectively. General and administrative costs remaining in inventory at January
31, 1999 and February 1, 1998 were $4,523,000 and $4,103,000, respectively.

PROPERTY AND EQUIPMENT

Property and equipment is recorded at cost less accumulated depreciation.
Depreciation is provided on buildings, furniture, fixtures and equipment, and
computer software using the straight-line method over the estimated useful lives
of the related assets. Leasehold improvements and capital lease assets are
amortized using the straight-line method over the shorter of the lease term or
the estimated useful lives of the related assets. Maintenance and repairs are
expensed as incurred.

The Company's property and equipment is depreciated using the following
estimated useful lives:

<TABLE>
<CAPTION>
LIFE
----
<S> <C>
Buildings............................................ 39 years or term of lease
Furniture, fixtures and equipment.................... 5 - 7 years
Leasehold improvements............................... Remaining lease term
Computer software.................................... 3 - 5 years
</TABLE>

GOODWILL AND OTHER INTANGIBLES

Goodwill represents the excess of the cost of acquired businesses over the
fair market value of their net assets. Goodwill is being amortized using the
straight-line method over fifteen years. Other intangibles are being amortized
using the straight-line method over the estimated useful lives of the related
assets which ranges from three to twenty years. Recoverability is reviewed to
determine if there have been any events or changes in circumstances that
indicate that the carrying value may exceed fair value.

ADVERTISING

The Company charges advertising costs to expense as incurred except for
direct-response advertising which is capitalized and amortized over its expected
period of future benefits. Total advertising expenditures, other than
direct-response advertising, were $41,103,000, $44,256,000, and $25,765,000 for
fiscal years 1998, 1997, and 1996. Direct response advertising consists
primarily of product catalogs of the Company's mail order subsidiaries. The
capitalized costs of the advertising are amortized over the six-month to
one-year period following the mailing of the respective catalog. At January 31,
1999 and February 1, 1998, $4,013,000 and $3,871,000, respectively, of
direct-response advertising was included in current assets.

FINANCIAL INSTRUMENTS

The Company's financial instruments consist primarily of cash and cash
equivalents, receivables, accounts payable, accrued payroll and employee
benefits, other accrued expenses and subordinated convertible notes. These
balances, as presented in the financial statements at January 31, 1999 and
February 1, 1998, approximate their fair value, except for the subordinated
convertible notes whose fair market value at

F-8
<PAGE> 41
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

January 31, 1999 and February 1, 1998 approximated $244 million and $200
million, respectively. The Company's credit facility (see Note 7), reflects fair
value as it is subject to fees and rates competitively determined in the
marketplace. The fair value of the Company's interest rate swap agreements is
based on the present value of expected future cash flows from the agreement and
is settled monthly (see Note 7). The interest rate swap agreements were in a net
payable position at January 31, 1999 of $5,195,020.

STORE PREOPENING COSTS

In April 1998, the AICPA issued Statement of Position 98-5, "Reporting on
the Costs of Start-up Activities" ("SOP 98-5"). SOP 98-5 is effective for
financial statements for fiscal years beginning after December 15, 1998. Under
the provisions of SOP 98-5, costs of start-up activities, including organization
costs, should be expensed as incurred. The Company currently expenses its store
preopening costs in the month in which the store opens. The Company will adopt
SOP 98-5 and will recognize a cumulative effect of a change in accounting
principle in the first quarter of fiscal 1999. Total preopening costs of
$888,000 and $1,378,000 were deferred at January 31, 1999 and February 1, 1998,
respectively.

INCOME TAXES

Income taxes are accounted for under Statement of Financial Accounting
Standards No. 109, "Accounting for Income Taxes" ("SFAS 109"). SFAS 109 requires
the use of an asset and liability approach for financial accounting and
reporting for income taxes, whereby deferred income tax assets and liabilities
result from temporary differences. Temporary differences are differences between
the tax bases of assets and liabilities and their reported amounts in the
consolidated financial statements that will result in taxable or deductible
amounts in future years.

EARNINGS PER SHARE

Basic earnings per share are computed by dividing net income (loss) by the
weighted average of common shares outstanding during each period. Earnings per
share assuming dilution are computed by dividing net income (loss) by the
weighted average number of common shares outstanding during the period after
giving effect to dilutive stock options and adjusting for dilutive common shares
assumed to be issued on conversion of PETsMART's subordinated convertible notes.
A reconciliation of the basic and diluted per share computations for fiscal
1998, 1997, and 1996 is as follows:

<TABLE>
<CAPTION>
FISCAL YEAR ENDED
-------------------------------------------------------------------------------------------------
JANUARY 31, 1999 FEBRUARY 1, 1998 FEBRUARY 2, 1997
------------------------------ ------------------------------- ------------------------------
WEIGHTED WEIGHTED WEIGHTED
INCOME AVERAGE PER SHARE INCOME AVERAGE PER SHARE INCOME AVERAGE PER SHARE
(LOSS) SHARES AMOUNT (LOSS) SHARES AMOUNT (LOSS) SHARES AMOUNT
------- -------- --------- -------- -------- --------- ------- -------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Net income (loss) before
cumulative effect of
an accounting
change................ $23,269 116,281 $0.20 $(31,801) 114,920 $(0.28) $20,591 112,520 $ 0.18
Cumulative effect of
an accounting
change.............. -- -- -- (2,629) -- (0.02) -- -- --
------- ------- ----- -------- ------- ------ ------- ------- ------
Earnings per common
share -- basic........ 23,269 116,281 0.20 (34,430) 114,920 (0.30) 20,591 112,520 $ 0.18
Effect of dilutive
securities:
Options............... -- 804 -- -- -- -- -- 5,706 (0.01)
------- ------- ----- -------- ------- ------ ------- ------- ------
Earnings per common
share -- assuming
dilution.............. $23,269 117,085 $0.20 $(34,430) 114,920 $(0.30) $20,591 118,226 $ 0.17
======= ======= ===== ======== ======= ====== ======= ======= ======
</TABLE>

At January 31, 1999, no shares of common stock had been issued upon
conversion of the subordinated convertible notes issued in November 1997. These
notes are convertible into an aggregate of approximately

F-9
<PAGE> 42
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

22.8 million shares of common stock. These shares were not included in the
calculation of diluted earnings per share for fiscal 1998 or 1997 due to the
anti-dilutive effect they would have on earnings per share if converted.

Due to PETsMART's loss in fiscal 1997, a calculation of earnings per share
assuming dilution is not required. In fiscal 1997 potentially dilutive
securities consisted of options convertible into approximately 1.0 million
shares of common stock.

FOREIGN CURRENCY TRANSLATION

The local currency has been used as the functional currency in both the
United Kingdom and Canada. The assets and liabilities denominated in foreign
currency are translated into U.S. dollars at the current rate of exchange
existing at year end and revenues and expenses are translated at the average
exchange rate for the year. The translation gains and losses are included as a
separate component of stockholders' equity. Transaction gains and losses
included in net income (loss) are not material.

CHANGE IN ACCOUNTING PRINCIPLE

In November 1997, the Emerging Issues Task Force issued Consensus Number
97-13, "Accounting for Costs Incurred in Connection with a Consulting Contract
or an Internal Project that combines Business Process Reengineering and
Information Technology Transformation." This consensus requires that costs for
business process reengineering incurred subsequent to November 20, 1997 be
expensed as incurred. The charge against fiscal 1997 earnings related to this
change in accounting was $5.6 million, before taxes, of which $4.3 million,
before taxes, was recorded as a cumulative effect of a change in accounting
principle and $1.3 million was included in general and administrative expenses.

COMPREHENSIVE INCOME

The Company adopted Statement of Financial Accounting Standards No. 130,
"Reporting Comprehensive Income" ("SFAS 130"), during the first quarter of
fiscal 1998. SFAS 130 establishes standards for reporting of comprehensive
income and its components. All prior periods have been presented in accordance
with SFAS 130. The income tax expense (benefit) related to items of
comprehensive income was approximately $(1,432,000), $(834,000), and $716,000
for fiscal years 1998, 1997, and 1996, respectively.

RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In March 1998, the AICPA issued Statement of Position 98-1, "Accounting for
the Costs of Computer Software Developed or Obtained for Internal Use" ("SOP
98-1"). SOP 98-1 is effective for financial statements for fiscal years
beginning after December 15, 1998. The Company adopted SOP 98-1 effective for
its fiscal 1998 financial statements. Under the provisions of SOP 98-1, software
development is divided into three phases: the preliminary project stage, which
includes conceptual formulation and selection of alternatives; the application
development stage, which includes design of chosen path, coding, installation of
hardware and testing; and the post-implementation/operation stage, which
includes training and application maintenance. Generally, only internal and
external costs incurred during the second phase, the application development
stage, should be capitalized with the exception of data conversion and training
costs, which, when incurred during this phase, should be expensed.

F-10
<PAGE> 43
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

measure them at fair value. It also provides for matching of the timing of gain
or loss recognition on the hedging instrument with the recognition of (i) the
changes in the fair value of the hedged asset or liability related to the hedged
risk or (ii) the hedged forecasted transaction earnings effect. The Company will
adopt SFAS 133 in the first quarter of fiscal 2000 and does not expect a
material effect on its financial statements as a result of adoption.

RECLASSIFICATIONS

For comparative purposes, certain prior year amounts have been reclassified
to conform with the current year presentation.

NOTE 2 BUSINESS COMBINATIONS:

During fiscal 1996, the Company acquired, in two separate transactions, all
of the outstanding equity interests of State Line Tack in exchange for 1,200,000
shares of PETsMART common stock, including approximately 76,000 shares reserved
for issuance upon exercise of State Line Tack stock options assumed in the
merger, and of Pet City for approximately 7,844,000 shares of PETsMART common
stock, plus approximately 304,000 shares reserved for issuance upon exercise of
Pet City stock options assumed in the merger.

In connection with the above transactions, the Company recorded merger and
integration charges of $28.4 million. These charges included investment banking,
legal and accounting fees, and miscellaneous transaction costs ($8.8 million),
provision for the closure of redundant or inadequate facilities ($5.5 million),
costs associated with reformatting, refixturing, and remerchandising the
acquired superstores to the format consistent with that of a PETsMART superstore
($11.0 million), and other costs of integration ($3.1 million). The Company
recorded $13.6 million of similar business integration costs, primarily store
conversion costs, associated with the Pet City merger as nonrecurring charges
during fiscal 1997.

NOTE 3 MERGER AND RESTRUCTURING COSTS:

In the second fiscal quarter of 1997, the Company incurred charges of $61.0
million of which approximately $44.9 million was recorded as a separate
restructuring charge during the quarter. Approximately $30.0 million was related
to the costs of closing or relocating 33 stores, of which 31 were former
acquired stores, approximately $8.5 million was related to the costs of
discontinuing the Discovery Center department in all superstores and the
write-down or write-off of related fixtures, and approximately $4.1 million was
related to the Company's previous acquisitions. The remaining charges of $2.3
million included approximately $1.0 million of anticipated costs associated with
the Company's decision to complete the consolidation of distribution facilities
and approximately $1.3 million representing the write-off of the Company's
investment in certain entities accounted for under the cost method which were
impaired as a result of the Company's decision to exit certain departments
within the PETsMART superstores.

Of the remaining $16.1 million, approximately $9.4 million of related
charges were recorded as cost of goods sold, $3.3 million were recorded as store
operating expenses, and $3.4 million were included in general

F-11
<PAGE> 44
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

and administrative expenses. The $16.1 million of other one-time expenses were
comprised of the write-down or write-off of certain impaired assets, including
discontinued Discovery Center merchandise, from cost to net realizable value,
reserves for litigation and other matters. The $3.3 million of other expenses
reflected as a component of store operating expenses and the $3.4 million of
one-time expenses reflected as general and administrative expenses consist
primarily of a change in estimated self-insurance costs due to adverse loss
developments in the Company's worker's compensation experience, expenses related
to the preliminary stages of a consulting project for the new management
information system, certain costs of several litigation matters, as well as
expenses related to other miscellaneous matters.

The activity within the accrued merger, business integration and
restructuring costs liability account during fiscal 1998 is summarized below (in
thousands):

<TABLE>
<CAPTION>
BALANCE AT PAYMENTS/
FEB. 1, CHANGE IN ASSET BALANCE AT
1998 ESTIMATE WRITE-OFFS JAN. 31, 1999
----------- --------- ---------- -------------
<S> <C> <C> <C> <C>
Lease termination & real estate costs........... $33,390 $(1,808) $(11,749) $19,833
Accrued business integration costs.............. 347 -- (347) --
------- ------- -------- -------
$33,737 $(1,808) $(12,096) $19,833
======= ======= ======== =======
</TABLE>

NOTE 4 FINANCIAL INFORMATION BY BUSINESS SEGMENT:

PETsMART adopted Statement of Financial Accounting Standards No. 131,
"Disclosures about Segments of an Enterprise and Related Information" ("SFAS
131") at the beginning of fiscal 1998. SFAS 131 revised standards for the
reporting of information about operating segments of public business
enterprises.

The Company operates three reportable business segments. PETsMART North
American operations, the largest segment, includes all retail stores in the
United States and Canada, including veterinary services, along with the
warehousing and corporate functions that support them. The PETsMART U.K. segment
includes all retail stores in the United Kingdom, including the warehousing and
corporate functions specific to the U.K. operations. The PETsMART DIRECT segment
represents the Company's direct marketing operations, including its separate
corporate and warehousing functions. This segmentation is consistent with the
format reviewed by the Company's management, in accordance with the provisions
of SFAS 131.

Operating results and other financial data by business segment for fiscal
years 1998, 1997, and 1996 were as follows:

<TABLE>
<CAPTION>
1998 1997 1996
---------- ---------- ----------
(IN THOUSANDS)
<S> <C> <C> <C>
Net sales:
PETsMART North America........................... $1,799,981 $1,513,955 $1,259,822
PETsMART U.K..................................... 205,468 167,581 108,883
PETsMART DIRECT -- External customers............ 103,873 109,063 132,312
PETsMART DIRECT -- Intersegment.................. 12,936 9,124 3,486
Eliminations..................................... (12,936) (9,124) (3,486)
---------- ---------- ----------
Total net sales........................ $2,109,322 $1,790,599 $1,501,017
========== ========== ==========
</TABLE>

F-12
<PAGE> 45
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

<TABLE>
<CAPTION>
1998 1997 1996
---------- ---------- ----------
(IN THOUSANDS)
<S> <C> <C> <C>
Operating income (loss):
PETsMART North America........................... $ 59,953 $ 33,245 $ 77,821
PETsMART U.K..................................... (8,291) (634) (1,869)
PETsMART DIRECT.................................. 5,594 5,075 7,407
Merger, business integration and restructuring
(costs) benefits............................... 1,808 (73,514) (40,714)
---------- ---------- ----------
Operating income (loss).......................... 59,064 (35,828) 42,645
Interest income.................................. 3,092 213 1,057
Interest expense................................. (23,050) (13,921) (9,450)
---------- ---------- ----------
Income (loss) before income taxes.............. $ 39,106 $ (49,536) $ 34,252
========== ========== ==========
</TABLE>

<TABLE>
<CAPTION>
1998 1997 1996
---------- ---------- ----------
(IN THOUSANDS)
<S> <C> <C> <C>
Depreciation and amortization:
PETsMART North America........................... $ 36,133 $ 30,485 $ 25,424
PETsMART U.K..................................... 6,614 3,873 1,427
PETsMART DIRECT.................................. 1,031 943 1,335
---------- ---------- ----------
Total depreciation and amortization.... $ 43,778 $ 35,301 $ 28,186
========== ========== ==========
</TABLE>

Total assets by business segment as of January 31, 1999 and February 1,
1998 were as follows:

<TABLE>
<CAPTION>
JANUARY 31, FEBRUARY 1,
1999 1998
----------- -----------
(IN THOUSANDS)
<S> <C> <C>
PETsMART North America...................................... $787,667 $714,423
PETsMART U.K................................................ 99,720 87,731
PETsMART DIRECT............................................. 44,612 37,533
-------- --------
Total assets...................................... $931,999 $839,687
======== ========
</TABLE>

NOTE 5 PROPERTY AND EQUIPMENT:

Property and equipment consists of the following:

<TABLE>
<CAPTION>
JANUARY 31, FEBRUARY 1,
1999 1998
----------- -----------
(IN THOUSANDS)
<S> <C> <C>
Land........................................................ $ 466 $ 466
Buildings................................................... 7,678 7,545
Furniture, fixtures and equipment........................... 104,544 78,183
Leasehold improvements...................................... 139,903 122,757
Computer software........................................... 10,163 8,642
Equipment and computer software under capital leases........ 94,552 62,131
Buildings under capital leases.............................. 55,821 55,821
-------- --------
413,127 335,545
-------- --------
Less: accumulated depreciation and amortization............. 149,144 113,403
-------- --------
263,983 222,142
Construction in progress.................................... 6,349 20,242
-------- --------
$270,332 $242,384
======== ========
</TABLE>

F-13
<PAGE> 46
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Accumulated amortization of equipment, computer software and buildings
under capital leases approximated $56,389,000, and $45,837,000 at January 31,
1999 and February 1, 1998, respectively.

NOTE 6 LEASES:

The Company leases substantially all of its stores, distribution centers,
corporate offices and certain equipment under noncancelable operating leases,
expiring at various dates through 2025. The Company has the option to extend the
terms of the leases for periods ranging from 5 to 20 years. Certain leases
require payment of property taxes, utilities, common area maintenance and
insurance and, if annual sales at certain stores exceed specified amounts,
provide for additional rents. No additional rent payments were required during
the three fiscal years ended January 31, 1999. In addition, certain leases
provide for variable rent payments based on prevailing interest rates. Total
rent expense incurred under operating leases during fiscal 1998, 1997 and 1996
was $161,565,000, $128,696,000, and $91,791,000, respectively.

The Company has entered into sale and leaseback transactions for several of
its store locations which included buildings and underlying land. Such assets
are sold at cost and are leased back at terms similar to those of other leased
stores. The Company also leases certain fixtures and equipment under capital
leases and has entered into a lease transaction to finance the costs of certain
hardware and software components and custom program services related to the
Company's new information system.

At January 31, 1999, the future minimum annual rental commitments under all
noncancelable leases were as follows:

<TABLE>
<CAPTION>
OPERATING CAPITAL
LEASES LEASES
---------- --------
(IN THOUSANDS)
<S> <C> <C>
1999........................................................ $ 176,716 $ 20,916
2000........................................................ 163,335 20,537
2001........................................................ 153,684 17,530
2002........................................................ 134,975 16,493
2003........................................................ 119,526 7,384
Thereafter.................................................. 1,089,298 63,239
---------- --------
Total minimum rental commitments............................ $1,837,534 146,099
==========
Less: amounts representing interest......................... 49,894
--------
Present value of obligations................................ 96,205
Less: current portion....................................... 16,434
--------
Long-term obligations....................................... $ 79,771
========
</TABLE>

At January 31, 1999, the Company had entered into operating lease
agreements for 77 additional stores. These leases have terms to a maximum of 25
years. The Company's obligations and options to renew are similar to those of
existing leases. Such leases will commence at various dates upon the completion
of certain events in the lease agreements. Future minimum lease commitments
under these leases aggregate approximately $362,310,000. Minimum rental
commitments under operating leases at January 31, 1999 exclude commitments of up
to $22,375,000 relating to residual values of property under such leases.

NOTE 7 BANK CREDIT FACILITIES:

At January 31, 1999, PETsMART had a revolving credit arrangement with a
bank, expiring on April 17, 2000, which provides for borrowings and letters of
credit up to $125,000,000 subject to a borrowing base. Borrowings under this
arrangement bear interest, at PETsMART's option, at the bank's prime rate or
LIBOR

F-14
<PAGE> 47
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

plus 0.5% to 1.5%. Among other things, the credit facility contains certain
restrictive covenants relating to net worth, debt to equity ratios, capital
expenditures and minimum fixed charge coverage.

At January 31, 1999 and February 1, 1998, no amounts were outstanding under
the agreement, and no advances or payments were made under the agreement during
the year ended January 31, 1999. During the year ended February 1, 1998, an
average of $60.0 million was outstanding under the agreement, at an average
annual interest rate of 6.7%. Outstanding letters of credit at January 31, 1999
and February 1, 1998 totaled $20.8 million and $4.0 million, respectively.

The Company has entered into interest rate swaps to lower funding costs and
alter interest rate exposures for short-term borrowings. Interest rate swaps
allow the Company to fix the variable lease payments and borrowing rates on its
leases and credit facilities for certain periods of time. At January 31, 1999
and February 1, 1998, the Company had 7 interest rate swaps outstanding with a
financial institution, having a total notional amount of $137.2 million. Under
these agreements, the Company may convert variable rate lease payments and
borrowings into borrowings at a fixed rate of approximately 6.6%. Contracts are
settled monthly based upon prevailing interest rates. The interest rate swap
agreements are scheduled to terminate at various dates between July 2000 and
April 2002. The Company has only limited involvement with derivative financial
instruments, and does not use them for trading purposes.

The Company is exposed to credit loss in the event of nonperformance by the
counterparty to its interest rate swap agreements. The Company anticipates the
counterparty will be able to fully satisfy its obligation under the agreements.
The counterparty is a financial institution whose credit rating was AA or better
at the time the agreements were instituted. No collateral is held in relation to
the agreements. Credit exposure exists in relation to all the Company's
financial instruments, and is not unique to derivatives.

NOTE 8 INCOME TAXES:

Income (loss) before provision (benefit) for income taxes and before
cumulative effect of a change in accounting principle is as follows:

<TABLE>
<CAPTION>
FISCAL YEAR ENDED
JANUARY 31, FEBRUARY 1, FEBRUARY 2,
1999 1998 1997
----------- ----------------- -----------
(IN THOUSANDS)
<S> <C> <C> <C>
United States.................................. $ 54,363 $(33,526) $ 54,519
Foreign........................................ (15,257) (16,010) (20,267)
-------- -------- --------
Total................................ $ 39,106 $(49,536) $ 34,252
======== ======== ========
</TABLE>

The provision (benefit) for income taxes before cumulative effect of a
change in accounting principle consists of the following:

<TABLE>
<CAPTION>
FISCAL YEAR ENDED
JANUARY 31, FEBRUARY 1, FEBRUARY 2,
1999 1998 1997
----------- ----------------- -----------
(IN THOUSANDS)
<S> <C> <C> <C>
Current provision (benefit):
Federal...................................... $14,673 $ (791) $ 22,056
State........................................ 2,021 135 4,489
Foreign...................................... -- -- --
------- -------- --------
16,694 (656) 26,545
------- -------- --------
</TABLE>

F-15
<PAGE> 48
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

<TABLE>
<CAPTION>
FISCAL YEAR ENDED
JANUARY 31, FEBRUARY 1, FEBRUARY 2,
1999 1998 1997
----------- ----------------- -----------
(IN THOUSANDS)
<S> <C> <C> <C>
Deferred provision (benefit):
Federal...................................... 6,924 (10,454) (1,592)
State........................................ 295 (1,578) (2,725)
Foreign...................................... (8,076) (5,047) (8,567)
------- -------- --------
(857) (17,079) (12,884)
------- -------- --------
Income tax expense (benefit)................... $15,837 $(17,735) $ 13,661
======= ======== ========
</TABLE>

A reconciliation of the federal statutory tax rate to the Company's
effective tax rate before cumulative effect of a change in accounting principle
is as follows:

<TABLE>
<CAPTION>
FISCAL YEAR ENDED
JANUARY 31, 1999 FEBRUARY 1, 1998 FEBRUARY 2, 1997
-------------------- --------------------- --------------------
DOLLARS PERCENTAGE DOLLARS PERCENTAGE DOLLARS PERCENTAGE
------- ---------- -------- ---------- ------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Provision at federal statutory tax rate..... $13,687 35% $(17,332) (35)% $11,988 35%
State income taxes, net of federal tax
benefit................................... 2,077 5% (1,665) (3)% 1,756 5%
Foreign tax rate differential............... 95 -- 556 1% 335 1%
Nondeductible acquisition costs............. -- -- 72 -- 3,071 9%
Enacted change in foreign tax rate.......... 240 1% 609 1% -- --
Utilization of prior years' operating
losses.................................... -- -- -- -- (3,169) (9)%
Other....................................... (263) (1)% 25 -- (320) (1)%
------- -- -------- --- ------- --
$15,837 40% $(17,735) (36)% $13,661 40%
======= == ======== === ======= ==
</TABLE>

As of January 31, 1999, net operating loss carryforwards of $39,978,000
were available for U.S. tax purposes, which begin to expire in 2007. Certain
pre-merger losses are subject to limitations resulting from a change in
ownership of acquired entities and the losses are treated as separate return
limitation year losses. The Company expects to fully utilize the domestic losses
in future years. In addition, as of January 31, 1999, net operating loss
carryforwards of $43,348,000 were available for United Kingdom tax purposes.
These United Kingdom net operating losses have no expiration date and the
Company expects to fully utilize such losses to offset Pet City taxable income
in future years.

The components of deferred income tax liability (asset), included in other
assets in the accompanying consolidated balance sheet, are as follows:

<TABLE>
<CAPTION>
JANUARY 31, FEBRUARY 1,
1999 1998
----------- -----------
(IN THOUSANDS)
<S> <C> <C>
Normalization of rents...................................... $ (7,958) $ (6,800)
Reserve for closed stores................................... (9,940) (15,492)
Depreciation................................................ (5,700) (4,162)
Employee benefit expense.................................... (3,425) (1,608)
Inventory reserve........................................... (1,324) (951)
Loss carryforward........................................... (31,809) (30,022)
</TABLE>

F-16
<PAGE> 49
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

<TABLE>
<CAPTION>
JANUARY 31, FEBRUARY 1,
1999 1998
----------- -----------
(IN THOUSANDS)
<S> <C> <C>
Inventory capitalization.................................... 2,888 2,943
Other items, net............................................ (912) 1,722
-------- --------
(58,180) (54,370)
Valuation allowance......................................... 2,715 2,715
-------- --------
Net deferred tax asset...................................... $(55,465) $(51,655)
======== ========
</TABLE>

The valuation allowance relates to acquired Canadian operating loss
carryforwards. Due to the change in control resulting from the acquisition
related to these losses, it is more likely than not that the Company will not be
able to realize a benefit for these pre-merger losses.

NOTE 9 SUBORDINATED CONVERTIBLE NOTES:

In November 1997, the Company sold $200 million aggregate principal amount
of 6 3/4% Convertible Subordinated Notes due 2004 ("the Notes"). The Notes are
convertible into approximately 22.8 million shares of the Company's common stock
at any time prior to maturity at a conversion price of $8.75 per share, subject
to adjustment under certain conditions, and may be redeemed, in whole or in
part, by the Company at any time after November 1, 2000.

NOTE 10 STOCKHOLDERS' EQUITY:

COMMON STOCK

The Company has an Employee Stock Purchase Plan under which essentially all
employees with six or more months of service can purchase common stock on
semi-annual offering dates at 85% of the fair market value on the offering date
or, if lower, at 85% of the fair market value of the shares on the exercise
date. A maximum of 3,000,000 shares are authorized for purchase until the plan
termination date of December 31, 2002. During each of the three years in the
period ended January 31, 1999, a total of 182,000, 411,000, and 167,000 shares
were purchased for aggregate proceeds of $1,246,000, $3,073,000, and $2,200,000,
respectively. Only one semi-annual offering was made during fiscal 1998 as the
second offering date occurred after January 31, 1999. In February 1999, a total
of 157,000 shares were purchased for aggregate proceeds of $1,153,000.

EMPLOYEE BENEFIT PLANS

The Company has a defined contribution plan pursuant to Section 401(k) of
the Internal Revenue Code ("the 401(k)"). The 401(k) covers substantially all
associates that meet certain service requirements. The Company makes annual
matching contributions up to specified percentages of associates' contributions
as approved by the Board of Directors. During each of the three years in the
period ended January 31, 1999, the Company's contributions to the 401(k) were
$1,373,000, $765,000, and $489,000, respectively.

RESTRICTED STOCK BONUS

In April 1998, the Company adopted a Restricted Stock Bonus Plan. Under the
terms of this plan, employees of the Company may be awarded shares of common
stock of the Company as approved by the Board of Directors. The employee is not
required to make any cash payment as a condition of receiving the award. The
shares of common stock awarded under this plan are subject to a reacquisition
right held by the Company. In the event that the award recipient's employment by
or service to the Company is terminated for any reason, the Company shall
simultaneously with such termination automatically reacquire for no

F-17
<PAGE> 50
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

consideration all of the unvested shares of restricted common stock previously
awarded to the recipient. The shares of restricted common stock awarded under
this plan vest and are released from the Company's reacquisition right under an
accelerated schedule if the Company's common stock price reaches certain
specified targets. If the specified stock price targets are not reached, the
shares nevertheless become 100% vested on April 3, 2003, provided that the award
recipient has been in continuous service with the Company from the award date
through April 3, 2003. Approximately 286,000 shares were awarded under this plan
on April 3, 1998. As of January 31, 1999, no shares were vested. Approximately
$3,003,000 has been recorded as deferred compensation (a deduction from
stockholder's equity) with an offsetting credit to additional paid-in capital.
Such deferred compensation is being amortized ratably by a charge to income over
the five-year term of the restricted stock awards. The attainment of the
performance goals could accelerate the future recognition of compensation
expense as the restrictions on the shares of common stock lapse.

NONREDEEMABLE PREFERRED STOCK

The Company had 10,000,000 shares of $0.0001 par value, nonredeemable
preferred stock authorized at January 31, 1999 and February 1, 1998. No
preferred shares were issued or outstanding at either date.

NOTE 11 STOCK OPTIONS:

The Company may grant under a stock option plan ("the Plan") either
incentive stock options or supplemental stock options to purchase up to
28,111,849 shares of common stock to key employees (including officers),
consultants or directors of the Company at fair market value at the date of
grant. At January 31, 1999, stock options to purchase approximately 13,156,000
shares of common stock, including 380,000 options assumed in connection with the
State Line Tack and Pet City acquisitions, are outstanding with exercise prices
ranging from $0.06 to $28.75 per share. Options vest over a period of four years
and expire ten years after the date of grant. At January 31, 1999, the Plan also
includes outstanding stock options to purchase 320,794 shares of common stock
under the 1996 Non-Employee Directors Equity Plan with exercise prices ranging
from $1.17 to $21.50 per share. 700,000 shares are authorized for issuance under
the Non-Employee Directors Equity Plan.

In October 1998, the Company exchanged certain stock options that were
previously granted to certain eligible individuals, which excluded senior
officers and directors, under the terms of the Company's 1995 Equity Incentive
Plan and 1997 Non-Officer Equity Incentive Plan. To be eligible to participate
in the exchange plan, 50% or more of a participant's options must have had an
exercise price of $16 or higher, and only option grants with an exercise price
of $16 or higher were exchanged. As a result of the exchange, options to
purchase 1,123,620 shares (at a weighted average exercise price of $18.8256)
were exchanged for options to purchase 650,560 shares with an exercise price
equal to the fair market value per share at that date ($6.9375 per share), and
the vesting term was modified and extended. No compensation expense was recorded
as a result of this exchange.

PETsMART applies Accounting Principles Board Opinion No. 25, "Accounting
for Stock Issued to Employees," and related interpretations in accounting for
its stock-based compensation, and has adopted the disclosure-only provisions of
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-
Based Compensation" ("SFAS 123"). Accordingly, no compensation cost has been
recognized for the stock option plans. Had compensation cost for the Company's
plans been determined based on the fair value at the grant date for awards in
fiscal 1998, fiscal 1997 and fiscal 1996 consistent with the provisions of SFAS
123, the

F-18
<PAGE> 51
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Company's net income (loss) and earnings per share would have been reduced to
the pro forma amounts indicated below (in thousands, except per share data):

<TABLE>
<CAPTION>
FISCAL YEAR
----------------------------
1998 1997 1996
------- -------- -------
<S> <C> <C> <C>
Net income (loss) before cumulative effect -- as
reported............................................. $23,269 $(31,801) $20,591
Net income (loss) before cumulative effect -- pro
forma................................................ $12,892 $(41,790) $11,499
Earnings (loss) per share diluted -- as reported....... $ 0.20 $ (0.28) $ 0.17
Earnings (loss) per share diluted -- pro forma......... $ 0.11 $ (0.36) $ 0.10
Weighted average number of shares outstanding -- as
reported............................................. 117,085 114,920 118,226
Weighted average number of shares outstanding -- pro
forma................................................ 116,281 114,920 113,958
</TABLE>

The effects of applying SFAS 123 in the above pro forma disclosure is not
necessarily indicative of future amounts. The fair value of each option grant
was estimated on the date of grant using the Black-Scholes option pricing model
with the following weighted average assumptions used for grants in fiscal 1998,
fiscal 1997, and fiscal 1996, respectively: dividend yield of 0.00% in all
years; expected volatility of 50.0 to 60.0 percent; risk-free interest rates of
4.12 to 5.72 percent, 5.34 to 6.69 percent and 5.13 to 6.85 percent,
respectively; and expected lives of 0.75 to 2.5 years for all years. The
weighted average fair value of options granted during the years ended January
31, 1999, February 1, 1998, and February 2, 1997 was $4.22, $5.62, and $7.17,
respectively.

Activity in all of the Company's stock option plans is as follows:

<TABLE>
<CAPTION>
WEIGHTED AVERAGE EXERCISE
SHARES PRICE PER SHARE
-------------- -------------------------
(IN THOUSANDS)
<S> <C> <C>
Outstanding, January 28, 1996..................... 12,017 $10.442
Granted......................................... 1,996 19.081
Exercised....................................... (2,389) 5.367
Canceled........................................ (995) 14.539
------
Outstanding, February 2, 1997..................... 10,629 12.827
Granted......................................... 4,771 15.064
Exercised....................................... (1,145) 4.673
Canceled........................................ (1,915) 16.156
------
Outstanding, February 1, 1998..................... 12,340 13.770
Granted......................................... 4,318 8.524
Exercised....................................... (350) 6.167
Canceled........................................ (3,152) 17.126
------
Outstanding, January 31, 1999..................... 13,156 $11.453
======
</TABLE>

At January 31, 1999, options for a total of 6,468,155 shares are
exercisable.

F-19
<PAGE> 52
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The following table summarizes information about the Company's stock
options at January 31, 1999:

<TABLE>
<CAPTION>
OPTIONS OUTSTANDING
----------------------------------------------- OPTIONS EXERCISABLE
WEIGHTED -------------------------------
WEIGHTED AVERAGE AVERAGE WEIGHTED
RANGE OF NUMBER REMAINING EXERCISABLE NUMBER AVERAGE EXERCISE
EXERCISE PRICES OUTSTANDING CONTRACTUAL LIFE PRICE EXERCISABLE PRICE
- ------------------------------- ----------- ---------------- -------------- ----------- -----------------
<S> <C> <C> <C> <C> <C>
$ 0.061 - $ 7.625.............. 3,382,453 7.96 $ 6.42 1,026,014 $ 4.45
$ 7.875 - $ 9.938.............. 2,684,010 8.57 $ 9.55 553,308 $ 9.16
$10.375 - $12.000.............. 3,222,977 6.80 $11.54 2,660,192 $11.45
$12.083 - $18.375.............. 2,634,934 6.94 $14.64 2,184,640 $14.76
$18.750 - $28.750.............. 1,232,000 7.96 $22.39 44,001 $20.97
---------- ---------
$ 0.061 - $28.750.............. 13,156,374 7.60 $11.45 6,468,155 $11.32
</TABLE>

NOTE 12 INTEREST EXPENSE:

Interest costs incurred and capitalized on construction in progress are as
follows:

<TABLE>
<CAPTION>
FISCAL YEAR ENDED
---------------------------------------
JANUARY 31, FEBRUARY 1, FEBRUARY 2,
1999 1998 1997
----------- ----------- -----------
(IN THOUSANDS)
<S> <C> <C> <C>
Interest costs incurred............................. $24,123 $13,984 $10,211
Less: interest costs capitalized.................... 1,073 63 761
------- ------- -------
Interest expense.................................... $23,050 $13,921 $ 9,450
======= ======= =======
</TABLE>

NOTE 13 SUPPLEMENTAL SCHEDULE OF CASH FLOWS:

Interest paid during fiscal year 1998, 1997, and 1996 amounted to
$23,757,000, $11,020,000, and $10,161,000, respectively. Such amounts include
interest paid on the bank credit facility, capital leases and interest
capitalized on construction in progress.

Income taxes paid, net of refunds, during fiscal year 1998, 1997, and 1996
amounted to $3,396,000, $2,729,000 and $4,310,000, respectively.

During fiscal year 1998, 1997, and 1996, the Company incurred capital lease
obligations of $34,997,000, $18,249,000, and $15,944,000, respectively, for new
equipment and buildings.

NOTE 14 OTHER CONTINGENCIES:

The Company is involved in certain litigation arising from various matters.
Management believes that the ultimate resolution of such legal matters will not
have a material adverse affect on the Company's financial position or results of
operations.

On January 6, 1998, the Company was served with a complaint entitled Miller
v. Parker, et al. (Case No. CV 98-0020 PHX RCS) in the Federal District Court
for the District of Arizona, Phoenix Division by a putative class of investors
in PETsMART, Inc. securities. The lawsuit alleges, among other things, that the
Company and its officers and directors issued materially false financial
statements about the Company's flea and tick product inventory, financial
condition and results of operations. An additional five complaints by putative
class representatives alleging substantially the same allegations have been
filed in the District of Arizona. A motion is currently pending to consolidate
all such actions in the District court. Of such additional complaints, on March
5, 1998, the Company was served with an amended complaint entitled Kowal v.
Parker, et al. (Case No. CV 98-0133 PHX ROS) alleging an expanded class period.
The Company believes that this case will be consolidated with the other pending
securities class action lawsuits. The Company believes the

F-20
<PAGE> 53
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

allegations by the putative class representatives are without merit and the
Company intends to defend itself vigorously.

On March 28, 1998, a lawsuit was filed in Federal District Court in the
Middle District of Florida entitled Cavucci et al. v. PETsMART, Inc. (Case No.
98-CV-340). This class-action complaint alleges unspecified damages based on
various alleged violations of the Fair Labor Standards Act, including alleged
failures to pay overtime premiums. On May 12, 1998, the Company answered the
complaint denying all material allegations. The court entered an order of
procedure and schedule for trial on July 20, 1998 which outlines all discovery
and trial dates. On November 30, 1998, PETsMART filed motions for partial
summary judgment on plaintiff's claim that in-store management positions were
misclassified as exempt under the Fair Labor Standards Act. These motions have
been denied. To date, there have been no settlement discussions and discovery is
ongoing.

NOTE 15 SUBSEQUENT EVENTS (UNAUDITED):

On April 16, 1999, the Company amended its revolving credit agreement (see
Note 7). As a result, the capacity of the revolving credit agreement decreased
from $125 million to $60 million. Borrowings under the amended arrangement bear
interest, at PETsMART's option, at the bank's prime rate plus 0% to 0.5%, or
LIBOR plus 1.0% to 2.0%. The arrangement expires on April 17, 2000.

F-21
<PAGE> 54
PETSMART, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

NOTE 16 SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED):

FISCAL YEAR ENDED JANUARY 31, 1999

<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
-------- -------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
Net sales.......................................... $496,564 $509,846 $521,191 $581,721
Gross profit....................................... 122,141 121,594 125,619 158,766
Merger, business integration and restructuring
costs (benefits)................................. -- -- -- (1,808)
Operating income................................... 5,030 2,102 14,097 37,835
Net income (loss).................................. $ 153 $ (1,678) $ 5,331 $ 19,463
======== ======== ======== ========
Earnings per common share -- basic:
Net income (loss)................................ $ 0.00 $ (0 .01) $ 0.05 $ 0.17
======== ======== ======== ========
Earnings per common share -- diluted:
Net income (loss)................................ $ 0.00 $ (0 .01) $ 0.05 $ 0.15
======== ======== ======== ========
Weighted average common and common equivalent
shares outstanding -- basic...................... 115,745 116,104 116,432 116,594
======== ======== ======== ========
Weighted average common and common equivalent
shares outstanding -- diluted.................... 116,763 116,104 116,808 140,448
======== ======== ======== ========
</TABLE>

FISCAL YEAR ENDED FEBRUARY 1, 1998

<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
-------- -------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
Net sales.......................................... $412,654 $425,860 $441,456 $510,629
Gross profit....................................... 101,681 96,447 104,078 131,980
Merger, business integration and restructuring
costs............................................ 9,631 44,891 1,466 1,376
Operating income (loss)............................ 2,310 (53,610) 3,897 11,575
Income (loss) before cumulative effect of a change
in accounting principle.......................... (746) (35,716) 180 4,481
Cumulative effect of a change in accounting
principle........................................ -- -- -- (2,629)
-------- -------- -------- --------
Net income (loss).................................. $ (746) $(35,716) $ 180 $ 1,852
======== ======== ======== ========
Earnings per common share -- basic:
Net income (loss)................................ $ (0.01) $ (0 .31) $ 0.00 $ 0.02
======== ======== ======== ========
Earnings per common share -- diluted:
Net income (loss)................................ $ (0.01) $ (0 .31) $ 0.00 $ 0.02
======== ======== ======== ========
Weighted average common and common equivalent
shares outstanding -- basic...................... 114,295 114,758 115,225 115,401
======== ======== ======== ========
Weighted average common and common equivalent
shares outstanding -- diluted.................... 114,295 114,758 115,853 115,871
======== ======== ======== ========
</TABLE>

F-22
<PAGE> 55

APPENDIX A

PETSMART SELECTED HISTORICAL FINANCIAL DATA(1)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS AND OPERATING DATA)

<TABLE>
<CAPTION>
FISCAL YEAR ENDED
--------------------------------------------------------------
JAN. 31, FEB. 1, FEB. 2, JAN. 28, JAN. 29,
1999 1998 1997(2) 1996 1995
---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
HISTORICAL STATEMENT OF
OPERATIONS DATA:
Net Sales...................... $2,109,322 $1,790,599 $1,501,017 $1,168,056 $ 924,199
---------- ---------- ---------- ---------- ----------
Gross profit................... 528,120 434,186 426,351 308,237 245,779
Store operating expenses....... 399,897 349,563 289,622 228,046 195,222
Store preopening expenses...... 8,814 9,222 10,907 5,388 7,750
General and administrative
expenses.................... 62,153 53,865 42,463 36,348 35,072
Merger and business integration
costs....................... (1,808) 57,364 40,714 47,129 14,100
---------- ---------- ---------- ---------- ----------
Operating income (loss)........ 59,064 (35,828) 42,645 (8,674) (6,365)
Interest income................ 3,092 213 1,057 2,731 3,594
Interest expense............... (23,050) (13,921) (9,450) (8,934) (7,587)
---------- ---------- ---------- ---------- ----------
Income (loss) before income
taxes, extraordinary credit
and cumulative effect of
change in accounting
principle................... 39,106 (49,536) 34,252 (14,877) (10,358)
Net income (loss)(3)........... $ 23,269 $ (34,430) $ 20,591 $ (5,436) $ (11,620)
Income (loss) per
share -- basic before
extraordinary credit and
cumulative effect of change
in accounting
principle(4)................ $ 0.20 $ (0.28) $ 0.18 $ (0.06) $ (0.13)
Income (loss) per
share -- diluted before
extraordinary credit and
cumulative effect of change
in accounting
principle(4)................ $ 0.20 $ (0.28) $ 0.17 $ (0.06) $ (0.13)
Net income (loss) per share --
basic(4).................... $ 0.20 $ (0.30) $ 0.18 $ (0.06) $ (0.13)
Net income (loss) per share --
diluted(4).................. $ 0.20 $ (0.30) $ 0.17 $ (0.06) $ (0.13)
Weighted average number of
common shares outstanding --
basic....................... 116,281 114,920 112,520 108,387 105,443
Weighted average number of
common and common equivalent
shares
outstanding -- diluted...... 117,085 114,920 118,226 108,387 105,443
SELECTED OPERATING DATA:
Stores open at end of period... 534 468 376 297 269
Average square footage(5)...... 11,417,473 9,550,533 7,616,245 6,380,672 5,200,319
Net sales per square foot(6)... $ 174.94 $ 176.97 $ 179.71 $ 163.62 $ 154.20
Net sales growth............... 17.8% 19.3% 28.5% 26.4% 69.7%
Increase in North American
comparable store sales(7)... 6.3% 4.6% 11.9% 12.5% 19.1%
SELECTED BALANCE SHEET DATA:
Inventories.................... $ 336,058 $ 317,547 $ 300,892 $ 211,933 $ 171,344
Working capital................ 296,307 297,441 158,182 146,236 155,356
Total assets................... 931,999 839,687 689,810 572,104 484,885
Capital lease obligations(8)... 79,771 68,008 62,535 56,368 66,324
Total debt..................... 296,205 278,761 71,680 65,725 74,240
Stockholders' equity and
redeemable preferred
stock....................... $ 364,818 $ 334,694 $ 361,045 $ 301,798 $ 266,216
</TABLE>

A-1
<PAGE> 56

- ---------------

(1) Reflects the historical financial data of PETsMART after restatement (except
as otherwise noted) for: the acquisition of PETZAZZ in March 1994, Sporting
Dog Specialties in May 1995, Petstuff in June 1995, Pet Food Giant in
September 1995, State Line Tack in January 1996 and Pet City Holdings plc in
December 1996, all of which were accounted for under the pooling of
interests method; the 3-for-2 stock split effected in the form of a stock
dividend paid to holders of PETsMART Common Stock of record on April 17,
1995; and the 2-for-1 stock split effected in the form of a stock dividend
paid July 19, 1996 to holders of PETsMART Common Stock of record on July 8,
1996. Fiscal 1995 includes the results of operations of Pet City for the 52
weeks ended July 27, 1996, and fiscal 1996 includes the results of
operations of Pet City for the 53 weeks ended February 2, 1997. Fiscal 1994
includes Pet City results for the 52 weeks ended July 29, 1995 and fiscal
1993 and fiscal 1992 include the financial results of Pet City for the 52
weeks ended April 2, 1994 and April 3, 1993, respectively. An adjustment of
$682,000 was made to retained earnings at January 30, 1994 to conform the
fiscal year ends of Pet City and PETsMART.

(2) Fiscal 1996 consisted of 53 weeks; all other years reported consisted of 52
weeks.

(3) Includes a $2,629,000 charge in fiscal 1997 for the cumulative effect of a
change in accounting principle.

(4) After accretion of redeemable preferred stock of $1,921,000 and $1,582,000
for fiscal years 1994 and 1995, respectively.

(5) Average square footage is the mathematical average of beginning of year
square footage and end of year square footage.

(6) Net sales per square foot is calculated by dividing net sales, excluding
sales of PETsMART DIRECT, by average square footage.

(7) North American stores only and includes only superstores open at least 52
weeks. Fiscal 1993 through fiscal 1995 have not been restated for the
acquisitions of Petstuff and Pet Food Giant in 1995. Fiscal 1996 data has
been adjusted to reflect the first 52 weeks of the 53-week year.

(8) Excludes portions related to current maturities.

A-2
<PAGE> 57

PETSMART, INC.

ANNUAL REPORT ON FORM 10-K

EXHIBIT INDEX

<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
- ------- -----------------------
<C> <S> <C>
10.14 First Amendment, dated as of August 6, 1997, to Third
Amended and Restated Credit Agreement among PETsMART,
certain lenders, and NationsBank of Texas, N.A. as
Administrative Lender(10)...................................
10.15 Second Amendment, dated as of October 29, 1997, to Third
Amended and Restated Credit Agreement among PETsMART,
certain lenders, and NationsBank of Texas, N.A. as
Administrative Lender(11)...................................
10.16 Third Amendment, dated as of July 31, 1998, to Third Amended
and Restated Credit Agreement among PETsMART, certain
lenders, and NationsBank of Texas, N.A. as Administrative
Lender(13)..................................................
10.17 Deed of Variation to the Employment Agreement between Giles
Clarke, PETsMART and Pet City Holdings, plc dated as of
September 2, 1998
23.1 Consent of PricewaterhouseCoopers LLP.......................
23.2 Consent of Grant Thornton...................................
27. Financial Data Schedules....................................
</TABLE>