<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
CURRENT REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Date of Report (Date of earliest event reported) February 23, 1996
--------------------------
Orchard Supply Hardware Stores Corporation
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 0-21182 95-4214109
- --------------------------------------------------------------------------------
(State or other (Commission (I.R.S. Employer
jurisdiction File Number) Identification No.)
of incorporation)
6450 Via Del Oro San Jose, California 95119
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (408) 281-3500
--------------------
N/A
- -------------------------------------------------------------------------------
(Former name or former address, if changed since last report.)
<PAGE>
ITEM 7. FINANCIAL STATEMENTS AND EXHIBITS.
(c) Exhibits
27 Financial Data Schedule
99.1 Consolidated Financial Statements of Orchard Supply
Hardware Stores Corporation for the three years ended
January 28, 1996 and related Notes thereto together with
the related Report of Independent Public Accountants and
Management's Discussion and Analysis of Financial
Condition and Results of Operations
99.2 Financial Statement Schedules together with the related
Report of Independent Public Accountants
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
ORCHARD SUPPLY HARDWARE
STORES CORPORATION
Dated: February 23, 1996 By: /s/ Stephen M. Hilberg
---------------------------------
Stephen M. Hilberg
Senior Vice President and
Chief Financial Officer
2
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> JAN-28-1996
<PERIOD-START> JAN-30-1995
<PERIOD-END> JAN-28-1996
<CASH> 7,930
<SECURITIES> 0
<RECEIVABLES> 18,140
<ALLOWANCES> 1,543
<INVENTORY> 116,761
<CURRENT-ASSETS> 156,192
<PP&E> 169,927
<DEPRECIATION> (37,282)
<TOTAL-ASSETS> 305,536
<CURRENT-LIABILITIES> 80,037
<BONDS> 132,242
0
8
<COMMON> 70
<OTHER-SE> 93,179
<TOTAL-LIABILITY-AND-EQUITY> 305,536
<SALES> 532,439
<TOTAL-REVENUES> 532,439
<CGS> 339,764
<TOTAL-COSTS> 339,764
<OTHER-EXPENSES> 163,440
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 13,337
<INCOME-PRETAX> 15,898
<INCOME-TAX> 4,289
<INCOME-CONTINUING> 11,609
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 11,609
<EPS-PRIMARY> 1.48
<EPS-DILUTED> 1.38
</TABLE>
<PAGE>
EXHIBIT 99.1
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Independent Public Accountants.................................. F-3
Consolidated Balance Sheets as of January 29, 1995 and January 28, 1996... F-4
Consolidated Statements of Income for the years ended January 30, 1994,
January 29, 1995 and January 28, 1996.................................... F-6
Consolidated Statements of Stockholders' Equity for the years ended
January 30, 1994, January 29, 1995 and January 28, 1996.................. F-7
Consolidated Statements of Cash Flows for the years ended January 30,
1994, January 29, 1995 and January 28, 1996.............................. F-8
Notes to Consolidated Financial Statements................................ F-9
</TABLE>
F-1
<PAGE>
[THIS PAGE INTENTIONALLY LEFT BLANK]
F-2
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders of Orchard Supply Hardware Stores Corporation:
We have audited the accompanying consolidated balance sheets of Orchard
Supply Hardware Stores Corporation (a Delaware corporation) and subsidiary as
of January 28, 1996 and January 29, 1995, and the related consolidated
statements of income, stockholders' equity and cash flows for each of the
three years in the period ended January 28, 1996. 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 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 financial position of Orchard Supply Hardware
Stores Corporation and subsidiary as of January 28, 1996 and January 29, 1995
and the results of its operations and its cash flows for each of the three
years in the period ended January 28, 1996 in conformity with generally
accepted accounting principles.
/s/ ARTHUR ANDERSEN LLP
San Jose, California
February 23, 1996
F-3
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
JANUARY 29, JANUARY 28,
1995 1996
----------- -----------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents............................ $ 9,240 $ 7,930
Investments.......................................... 3,000 --
Accounts receivable, less allowance of $1,201 and
$1,543 at January 29, 1995
and January 28, 1996, respectively.................. 14,417 16,597
Inventory............................................ 103,438 116,761
Prepaid expenses and other........................... 8,221 8,391
Assets held for disposal............................. 6,145 6,513
-------- --------
Total current assets............................... 144,461 156,192
PROPERTY AND EQUIPMENT, net............................ 129,840 132,645
LEASEHOLD RIGHTS, net of accumulated amortization of
$3,775 and $4,885
at January 29, 1995 and January 28, 1996,
respectively.......................................... 9,751 8,636
DEFERRED FINANCING COSTS, net of accumulated
amortization of $1,249 and
$1,873 at January 29, 1995 and January 28, 1996,
respectively.......................................... 3,236 2,848
GOODWILL, net of accumulated amortization of $886 and
$1,042 at January 29, 1995 and January 28, 1996,
respectively.......................................... 5,371 5,215
-------- --------
Total assets....................................... $292,659 $305,536
======== ========
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
F-4
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
JANUARY 29, JANUARY 28,
1995 1996
----------- -----------
<S> <C> <C>
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Outstanding checks, not cleared by the bank.......... $ 7,168 $ --
Accounts payable..................................... 36,476 42,032
Accrued payroll and related items.................... 8,715 11,612
Accrued advertising.................................. 3,448 3,622
Accrued sales taxes.................................. 7,158 8,325
Accrued interest payable............................. 4,478 4,535
Other accrued expenses............................... 3,476 7,203
Notes payable........................................ 773 684
Current portion of capital leases and long-term debt. 1,720 2,024
-------- --------
Total current liabilities.......................... 73,412 80,037
OTHER LIABILITIES...................................... 1,437 --
CAPITAL LEASES AND LONG-TERM DEBT, net of current
portion............................................... 135,232 132,242
-------- --------
Total liabilities.................................. 210,081 212,279
-------- --------
COMMITMENTS AND CONTINGENCIES (see Note 3)
STOCKHOLDERS' EQUITY:
Preferred Stock, $.01 par value
Authorized--2,000,000 shares; issued--800,000
shares; outstanding--800,000 shares; liquidation
preference of $20,000............................... 8 8
Common Stock, $.01 par value
Authorized--16,000,000 shares; issued--7,018,885
shares; outstanding--6,983,400 and 7,015,165 shares
at January 29, 1995 and January 28, 1996,
respectively........................................ 70 70
Additional paid-in capital........................... 90,700 90,612
Less--Notes receivable from sale of common stock..... (151) (93)
Retained earnings (accumulated deficit).............. (8,049) 2,660
-------- --------
Total stockholders' equity......................... 82,578 93,257
-------- --------
Total liabilities and stockholders' equity......... $292,659 $305,536
======== ========
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
F-5
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
YEAR ENDED
-----------------------------------
JANUARY 30, JANUARY 29, JANUARY 28,
1994 1995 1996
----------- ----------- -----------
<S> <C> <C> <C>
SALES...................................... $365,077 $441,646 $532,439
COST OF GOODS SOLD......................... 234,326 281,379 339,764
-------- -------- --------
Gross margin............................. 130,751 160,267 192,675
SELLING AND OTHER EXPENSES................. 91,302 120,323 140,997
GENERAL AND ADMINISTRATIVE EXPENSES........ 15,500 17,535 20,043
PRE-OPENING EXPENSES....................... 2,221 7,525 2,400
-------- -------- --------
Operating income......................... 21,728 14,884 29,235
INTEREST EXPENSE, net...................... 11,563 12,587 13,337
-------- -------- --------
Income before provision for income taxes
and
extraordinary items..................... 10,165 2,297 15,898
PROVISION FOR INCOME TAXES................. -- -- 4,289
-------- -------- --------
Income before extraordinary items........ 10,165 2,297 11,609
EXTRAORDINARY ITEMS:
Loss on extinguishment of debt........... (9,318) -- --
-------- -------- --------
Net income............................... 847 2,297 11,609
PREFERRED STOCK DIVIDENDS EARNED........... 814 1,115 1,200
-------- -------- --------
Net income available to common stock..... $ 33 $ 1,182 $ 10,409
======== ======== ========
INCOME PER COMMON AND EQUIVALENT SHARE:
Income before extraordinary items........ $ 1.57 $ 0.17 $ 1.48
Extraordinary items...................... (1.57) -- --
-------- -------- --------
Net income per common and equivalent
share................................... $ 0.01 $ 0.17 $ 1.48
======== ======== ========
WEIGHTED AVERAGE NUMBER OF COMMON AND
EQUIVALENT SHARES......................... 5,951 6,984 7,039
======== ======== ========
FULLY DILUTED INCOME PER COMMON AND
EQUIVALENT SHARE:
Income before extraordinary items........ $ 1.57 $ 0.17 $ 1.38
Extraordinary items...................... (1.57) -- --
-------- -------- --------
Net income per common and equivalent
share................................... $ 0.01 $ 0.17 $ 1.38
======== ======== ========
FULLY DILUTED WEIGHTED AVERAGE NUMBER OF
COMMON AND EQUIVALENT SHARES.............. 5,951 6,984 8,401
======== ======== ========
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
F-6
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
NOTES RETAINED
PREFERRED STOCK COMMON STOCK RECEIVABLE EARNINGS
------------------ ----------------- PAID-IN FOR CAPITAL (ACCUMULATED TOTAL
SHARES AMOUNT SHARES AMOUNT CAPITAL STOCK DEFICIT) EQUITY
---------- ------ --------- ------ ------- ----------- ------------ -------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
BALANCE, JANUARY 31,
1993................... 1,602,486 $16 1,207,598 $12 $26,392 $(379) $(11,193) $14,848
Payment of notes
receivable from sale
of common stock....... -- -- -- -- -- 208 -- 208
Repurchase of common
stock................. -- -- (200) -- (3) -- -- (3)
Repurchase of Series A
redeemable preferred
stock................. (333) -- -- -- (3) -- -- (3)
Issuance of common
stock, net of
transaction costs..... -- -- 3,800,000 38 48,333 -- -- 48,371
Issuance of common
stock resulting from
exercise of options... -- -- 7,225 -- 60 -- -- 60
Reclassification of
Series A preferred
stock................. (1,602,153) (16) 1,915,630 19 (3) -- -- --
Payment of cash
dividend on Series A
preferred stock....... -- -- -- -- (2,500) -- -- (2,500)
Payment of fractional
shares................ -- -- -- -- (1) -- -- (1)
Net income............. -- -- -- -- -- -- 847 847
---------- --- --------- --- ------- ----- -------- -------
BALANCE, JANUARY 30,
1994................... -- -- 6,930,253 69 72,275 (171) (10,346) 61,827
Payment of notes
receivable from sale
of common stock....... -- -- -- -- -- 20 -- 20
Issuance of convertible
preferred stock, net
of transaction costs.. 800,000 8 -- -- 19,099 -- 19,107
Issuance of common
stock resulting from
exercise of options
and warrants.......... -- -- 53,147 1 441 -- -- 442
Dividends on
convertible preferred
stock................. -- -- -- -- (1,115) -- -- (1,115)
Net income............. -- -- -- -- -- -- 2,297 2,297
---------- --- --------- --- ------- ----- -------- -------
BALANCE, JANUARY 29,
1995................... 800,000 8 6,983,400 70 90,700 (151) (8,049) 82,578
Payment of notes
receivable from sale
of common stock....... -- -- -- -- -- 58 -- 58
Issuance of common
stock resulting from
exercise of options
and warrants.......... -- -- 31,765 -- 212 -- -- 212
Dividends on
convertible preferred
stock................. -- -- -- -- (300) -- (900) (1,200)
Net income............. -- -- -- -- -- -- 11,609 11,609
---------- --- --------- --- ------- ----- -------- -------
BALANCE, JANUARY 28,
1996................... 800,000 $ 8 7,015,165 $70 $90,612 $ (93) $ 2,660 $93,257
========== === ========= === ======= ===== ======== =======
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
F-7
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED
-----------------------------------
JANUARY 30, JANUARY 29, JANUARY 28,
1994 1995 1996
----------- ----------- -----------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income................................ $ 847 $ 2,297 $ 11,609
Non-cash adjustments to net income--
Depreciation and amortization............ 6,845 8,682 10,715
Prepayment premium on senior and
subordinated senior debentures.......... 6,335 -- --
Write-off of deferred financing costs.... 2,745 -- --
Accretion of debt discounts.............. 313 -- --
Loss on asset disposals.................. 65 55 15
Changes in assets and liabilities--
Increase in accounts receivable.......... (477) (1,172) (2,180)
Increase in inventories.................. (8,636) (20,944) (13,323)
(Increase) decrease in prepaid expenses
and other............................... (2,430) (2,631) (355)
Increase in accounts payable and other
liabilities............................. 7,517 15,977 5,465
-------- -------- --------
Net cash provided by operating
activities............................ 13,124 2,264 11,946
-------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property and equipment....... (29,491) (30,577) (12,500)
(Purchase) redemption of investments...... -- (3,000) 3,000
Purchase of leasehold rights.............. (6,511) -- --
-------- -------- --------
Net cash used in investing activities.. (36,002) (33,577) (9,500)
-------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from public stock offering... 48,370 -- --
Net proceeds from issuance of preferred
stock.................................... -- 19,107 --
Proceeds from issuance of long-term debt.. 103,079 1,752 --
Principal payments on capital leases and
long-term debt........................... (50,757) (52,335) (2,686)
Deferred financing costs paid............. (2,736) (433) (51)
Preferred stock dividends................. (2,500) (1,115) (1,200)
Repayment of notes payable, net........... (1,727) (2,473) (89)
Repurchase of capital stock............... (6) -- --
Proceeds from issuance of capital stock... 60 442 212
Payment of notes receivable from sale of
capital stock............................ 208 20 58
-------- -------- --------
Net cash provided by (used in)
financing activities.................. 93,991 (35,035) (3,756)
-------- -------- --------
NET INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS............................... 71,113 (66,348) (1,310)
CASH AND CASH EQUIVALENTS, beginning of
period.................................... 4,475 75,588 9,240
-------- -------- --------
CASH AND CASH EQUIVALENTS, end of period... $ 75,588 $ 9,240 $ 7,930
======== ======== ========
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
F-8
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JANUARY 28, 1996
1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES:
Consolidation and Nature of Operations
The consolidated financial statements include the accounts of Orchard Supply
Hardware Stores Corporation ("Company") and its wholly-owned subsidiary,
Orchard Supply Hardware Corporation ("Orchard Supply") which operates 60
hardware super stores located in California. As of January 28, 1996, 50 of the
stores were located in Northern and Central California, Orchard Supply's
historical market, and 10 stores were located in Southern California, a
geographical market entered during the year ended January 30, 1994. The
majority of the Company's merchandise is handled through a single warehouse
and distribution facility in Northern California.
Use of Estimates in the Preparation of Financial Statements
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 the estimates.
Cash and Cash Equivalents
All highly liquid instruments with an original maturity of three months or
less are included in cash and cash equivalents. "Outstanding checks, not
cleared by bank" which are included in current liabilities, consists of checks
outstanding against zero balance accounts.
Investments
Effective January 31, 1994 the Company adopted Statement of Financial
Accounting Standards (SFAS) No. 115 "Accounting for Certain Investments in
Debt and Equity Securities". SFAS No. 115 addresses the accounting and
reporting of investments in equity securities that have readily determinable
fair values and all debt securities and requires that all such investments be
classified as held-to-maturity securities, trading securities or available-
for-sale securities. The Company's securities, classified as available for
sale, are carried at fair market value. The impact of SFAS No. 115 was not
material to the Company.
Inventory
Inventory is stated at the lower of cost or market using the retail first-
in, first-out ("FIFO") method.
Assets Held for Disposal
Assets held for disposal represent the Company's former warehouse building
and a parcel of land adjacent to the new warehouse site which had previously
been included in property and equipment, and are currently being held for
sale. The Company carries these assets at amounts not to exceed net realizable
value.
Property and Equipment
Property and equipment are stated at cost and are depreciated primarily on
the straight-line basis over the estimated useful lives of the assets.
Leasehold improvements are amortized over the lesser of the lease term or the
estimated useful life of the improvements. The range of estimated useful lives
is as follows:
<TABLE>
<S> <C>
Buildings.................................... 25-40 years
Leasehold improvements....................... 14-25 years or life of lease
Land improvements............................ 15 years or life of lease
Machinery and equipment...................... 3-10 years
</TABLE>
F-9
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
During the years ended January 30, 1994, January 29, 1995 and January 28,
1996, the Company capitalized interest costs of $448,000, $870,000 and $57,000
related to the construction of new stores.
Leasehold Rights
Leasehold rights represent the difference between the fair market value of
the Company's lease rentals and the stated rental rates at the time of
acquisition. Leasehold rights are amortized over the lives of the lease terms
ranging from five to 35 years.
Pre-Opening Expenses
Costs related to the preparation and opening of new stores are expensed as
incurred. These expenses consist principally of store merchandising and
stocking expenses, personnel recruitment and training costs and grand-opening
advertising and promotional expenses.
Deferred Financing Costs
Deferred financing costs are amortized over the lives of the respective debt
instruments.
Goodwill
Goodwill is amortized over a 40 year period.
Earnings Per Share
Net income per common and equivalent share is computed by dividing net
income available to common stock (net income less preferred stock dividend
requirements) by the weighted average number of common and equivalent shares.
Common and equivalent shares include common stock issuable upon exercise of
stock options and warrants less shares assumed repurchased with the proceeds
from notes receivable from sale of common stock (using the treasury stock
method, unless antidilutive). Options outstanding pursuant to the Performance
Stock Option Plan (now terminated) and the options granted to the President of
the Company are excluded from the calculation due to their contingent nature.
Pursuant to Securities and Exchange Commission Staff Accounting Bulletin No.
83, common stock issued by the Company during the 12-month period prior to the
initial public offering and stock options and warrants granted during the same
period for which a measurement date has been established have been included in
the calculation of common and common equivalent shares using the treasury
stock method and the public offering price as if they were outstanding for all
applicable periods.
Net income per common and equivalent share on a fully diluted basis reflects
the assumed conversion of preferred stock to common stock, if dilutive.
F-10
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
2. PROPERTY AND EQUIPMENT:
Property and equipment are summarized below (in thousands):
<TABLE>
<CAPTION>
JANUARY 29, JANUARY 28,
1995 1996
----------- -----------
<S> <C> <C>
Property and Equipment
Land............................................... $ 26,980 $ 26,980
Land improvements.................................. 1,652 2,074
Buildings.......................................... 37,394 37,782
Machinery and equipment............................ 37,703 43,540
Leasehold improvements............................. 49,249 53,910
Construction in progress........................... 4,382 3,807
Assets under capital leases........................ 1,849 1,834
-------- --------
159,209 169,927
Accumulated depreciation and amortization.......... (29,369) (37,282)
-------- --------
Net property and equipment....................... $129,840 $132,645
======== ========
</TABLE>
Accumulated amortization on assets under capital lease was approximately
$1.0 million and $1.1 million for the years ended January 29, 1995 and January
28, 1996, respectively.
3. OPERATING LEASE COMMITMENTS:
Orchard Supply has entered into certain long-term operating leases primarily
for buildings and equipment. Future annual minimum lease commitments under
noncancelable operating leases as of January 28, 1996 are as follows (in
thousands):
<TABLE>
<CAPTION>
FUTURE MINIMUM
YEAR ENDING JANUARY, RENTALS
-------------------- --------------
<S> <C>
1997..................................................... $ 21,199
1998..................................................... 20,007
1999..................................................... 19,480
2000..................................................... 17,573
2001..................................................... 15,707
Thereafter............................................... 217,524
--------
Total minimum lease payments........................... $311,490
========
</TABLE>
Store leases contain certain provisions for contingent rents based upon
defined percentages of the dollar value of sales at individual stores. Total
net rent expense is as follows (in thousands):
<TABLE>
<CAPTION>
TOTAL CONTINGENT
YEAR ENDED RENTALS RENTALS
---------- ------- ----------
<S> <C> <C>
January 28, 1996......................................... $20,656 $689
January 29, 1995......................................... 17,067 573
January 30, 1994......................................... 12,532 486
</TABLE>
F-11
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
4. BENEFIT PLANS:
Orchard Supply maintains a profit-sharing benefit plan and a 401(k) plan
covering substantially all employees. Orchard Supply matches 50% of employee
contributions to the 401(k) plan up to a maximum employee contribution of 3%
of the employee's compensation. Orchard Supply may also make additional profit
sharing contributions to employee accounts at the discretion of the Board of
Directors. The Company's expenses for the 401(k) and profit-sharing plans were
as follows (in thousands):
<TABLE>
<CAPTION>
401(K) PROFIT
YEAR ENDED CONTRIBUTIONS SHARING
---------- ------------- -------
<S> <C> <C>
January 28, 1996...................................... $762 $1,219
January 29, 1995...................................... 624 671
January 30, 1994...................................... 468 990
</TABLE>
5. LONG-TERM DEBT AND CREDIT ARRANGEMENTS:
Long-term debt consists of the following (in thousands):
<TABLE>
<CAPTION>
JANUARY 29, JANUARY 28,
1995 1996
----------- -----------
<S> <C> <C>
9 3/8% senior notes.................................. $100,000 $100,000
Store and warehouse mortgages........................ 35,412 32,829
Obligations under capital leases..................... 1,540 1,437
-------- --------
Total debt........................................... 136,952 134,266
Less--Current maturities............................. 1,720 2,024
-------- --------
$135,232 $132,242
======== ========
</TABLE>
The Company and Orchard Supply have complied with the restrictive loan
covenants contained in the above obligations which provide, among other
things, that (1) minimum working capital and net worth levels be maintained,
(2) minimum fixed charge ratios be met, (3) capital expenditures be restricted
and (4) additional long-term debt be limited.
9 3/8% Senior Notes
On January 20, 1994, the Company, as guarantor, and Orchard Supply, as
issuer, issued $100 million of unsecured 9 3/8% senior notes. The notes mature
on February 15, 2002 and may be redeemed at Orchard Supply's option at various
redemption dates as specified in the indenture. The terms of the notes limit
the ability of Orchard Supply and the Company to pay dividends, incur
indebtedness, issue stock, transfer funds to affiliates and dispose of assets.
Store and Warehouse Mortgages
The store mortgage notes bear interest at a rate equal to the average yield
imputed from one-year United States Treasury securities, determined annually,
plus 2.75% (10.1% and 9.1% at January 29, 1995 and January 28, 1996,
respectively). Principal payments began in May 1993 and a final balloon
payment is due in 2002. Payments are based on a twenty-year amortization
schedule.
In May 1992, a life insurance company loaned Orchard Supply approximately
$13.7 million through a first mortgage loan on the new warehouse facility
located in Tracy, California. The mortgage note bears interest of 10.64%
payable monthly on the outstanding loan balance. The first principal payment
of $0.9 million was paid on May 31, 1995. Further principal payments are due
each anniversary date through 2002, increasing by $0.2 million each year.
F-12
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The net book value of the assets mortgaged pursuant to the above mortgage
loans approximated $50.4 million at January 28, 1996.
Revolving Credit Facility
As of August 8, 1995, a new revolving credit facility was put in place by
Orchard Supply, which is guaranteed by the Company and is secured by inventory
and accounts receivable. Borrowings are limited to an amount equal to 75% of
eligible accounts receivable, as defined, plus up to 50% of eligible
inventory, as defined. The maximum available borrowings under the revolving
credit facility are $40.0 million. In addition, there is a $10.0 million
sublimit for letters of credit under the revolving credit facility. Letters of
credit outstanding as of January 29, 1995 and January 28, 1996 totaled $5.2
million and $8.5 million, respectively.
The revolving credit facility remains effective through May 31, 1999 and
bears interest payable monthly at either the bank reference rate, as defined,
or LIBOR plus 1.375% per annum, as elected by the Company.
The following summarizes activity applicable to the revolving credit
facilities (dollar amounts in thousands):
<TABLE>
<CAPTION>
JANUARY 29, JANUARY 28,
1995 1996
----------- -----------
<S> <C> <C>
Balance outstanding at end of year.................. $ -- $ --
Weighted average balance outstanding during the
year............................................... 120 889
Maximum amount outstanding during the year.......... 4,625 11,290
Weighted average interest rate...................... 8.77% 9.79%
Interest rate at end of period...................... 9.50% 8.50%
</TABLE>
Capital Leases
Orchard Supply leases two stores and certain equipment under capital lease
agreements. The leases bear interest at implicit rates approximating 10%.
Financing Costs
In connection with the early extinguishments of debt during the year ended
January 30, 1994, the Company recorded extraordinary charges of $9.3 million.
The charges during the year ended January 30, 1994 consist of prepayment
premiums of $6.3 million, the write-off of deferred financing charges of $2.7
million and the accelerated accretion of debt discounts of $0.3 million.
F-13
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Principal and Interest Payments
The following summarizes the required future payments pursuant to the
various long-term debt instruments, including capital leases, discussed above
(in thousands):
<TABLE>
<CAPTION>
FUTURE MINIMUM
PRINCIPAL RENTAL PAYMENTS
PAYMENTS ON PURSUANT TO
YEAR ENDING JANUARY, LONG-TERM DEBT CAPITAL LEASES
-------------------- -------------- ---------------
<S> <C> <C>
1997........................................ $ 1,910 $ 253
1998........................................ 2,216 252
1999........................................ 2,534 252
2000........................................ 2,861 253
2001........................................ 3,198 253
Thereafter.................................. 120,110 866
-------- ------
132,829 2,129
Less--Amount representing interest.......... 692
------
Present value of future commitments......... 1,437
Less--Current portion....................... 1,910 114
-------- ------
Long-term portion........................... $130,919 $1,323
======== ======
</TABLE>
Total cash paid by the Company for interest was as follows (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED
----------
<S> <C>
January 28, 1996................................................. $13,050
January 29, 1995................................................. 9,531
January 30, 1994................................................. 10,905
</TABLE>
6. PREFERRED STOCK:
In connection with the Company's initial public offering of common stock,
the Company declared dividends on the Series A preferred stock of $13.3
million equal to all earned but undeclared dividends. Of this amount, $2.5
million was paid in cash and funded by borrowings under Orchard Supply's
revolving credit facility. The remainder was paid through the issuance of
1,915,630 additional shares of preferred stock. The Company also converted all
outstanding shares of preferred stock, including those issued pursuant to the
dividends discussed above, into 3,128,028 shares of common stock at the market
price pursuant to a statutory reclassification.
On February 25, 1994, the Company issued to an affiliate 325,000 shares of
Series 1 and 475,000 shares of Series 2 6% Cumulative Convertible Preferred
Stock, $.01 par value per share, at a price of $24.25 per share. The preferred
stock has an aggregate liquidation preference of $20.0 million, is convertible
at the option of the holder into common stock at an initial conversion rate of
1.6 shares of common stock for each share of preferred stock subject to
adjustment upon certain circumstances and may be redeemed by the Company at
any time after December 15, 1996 at an initial redemption price of $26.50 per
share, and thereafter at prices decreasing ratably to $25.00 per share on
December 15, 2002.
F-14
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
7. COMMON STOCK:
On April 6, 1993, the Company completed its initial public offering. The
Company sold 3.8 million shares of common stock at a price of $14 per share.
Common Stock Warrants
In connection with the issuance of notes since redeemed, the Company issued
warrants to purchase 79,669 shares of common stock at $8.33 per share. All of
the warrants have been exercised as of January 28, 1996.
Stock Options
Under the 1989 Nonqualified Stock Option Plan, options may be granted to
qualified personnel of the Company to purchase shares of common stock at a
price no less than the fair market value of such shares at the time the option
is granted. Consequently, no compensation expense has been recognized in
relation to this plan. Under the provisions of the plan, options shall vest no
later than five years from the date of grant.
In July of 1993, the 1993 Non-Employee Directors Stock Option Plan of the
Company was added which resulted in the grant of 10,000 shares to non-employee
directors. The provisions of the 1993 plan are the same as the 1989 plan.
In November of 1993, the Company added the 1993 Stock Option Plan, reserving
350,000 shares for issuance to the officers, certain employees and directors
of the Company. The provisions of the 1993 plan are the same as the 1989 plan
with the following exceptions: the options vest 25% upon grant and 25% over
the next three anniversary dates and the options cannot be granted to those
possessing greater than 10% of the total combined voting power of all classes
of common stock.
At January 28, 1996, options covering 217,113 shares of common stock were
outstanding, of which 111,888 shares were vested under the plans. The Board of
Directors may accelerate the vesting at its discretion. Options expire ten
years after the date of grant. The Company has reserved 394,314 shares of
common stock for issuance under the plans.
Following is a detail of activity for the stock option plans:
<TABLE>
<CAPTION>
OPTIONS OPTIONS PRICE
AVAILABLE OUTSTANDING PER SHARE
--------- ----------- ------------
<S> <C> <C> <C>
January 31, 1993............................. 7,561 52,439 $ 8.33
Authorized................................. 360,000 -- --
Granted.................................... (105,000) 105,000 12.83-17.10
Cancelled.................................. 2,784 (2,784) 8.33-17.10
Exercised.................................. -- (7,225) 8.33
-------- -------
January 30, 1994............................. 265,345 147,430 8.33-17.10
Cancelled.................................. 13,105 (13,105) 8.33-17.10
Exercised.................................. -- (699) 8.33
-------- -------
January 29, 1995............................. 278,450 133,626 8.33-17.10
Granted.................................... (111,200) 111,200 7.75
Cancelled.................................. 9,951 (9,951) 7.75-17.10
Exercised.................................. -- (17,762) 7.75-17.10
-------- -------
January 28, 1996............................. 177,201 217,113 7.75-17.10
======== =======
</TABLE>
F-15
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
In April 1992, the Company granted nonqualified stock options outside of the
1989 Nonqualified Stock Option Plan to its President covering 12,045 shares of
common stock at an exercise price of $8.33 per share. The options are only
exercisable upon the occurrence of certain mergers, consolidations, business
combinations, asset sales, tender offers and liquidations involving the
Company. Because of the contingent nature of the shares, no measurement date,
as defined, has been established. No compensation expense has been recorded
attributable to these options.
8. INCOME TAXES:
In accordance with SFAS No. 109, all deferred tax assets and liabilities are
quantified. Deferred tax assets include operating loss and tax credit
carryforwards. A valuation allowance against the tax assets is required to
adjust the assets to realizable amounts. Changes in the valuation allowance
are generally a component of the income tax provision.
The major components of deferred tax assets and liabilities are as follows
(in thousands):
<TABLE>
<CAPTION>
JANUARY 30, JANUARY 29, JANUARY 28,
1994 1995 1996
----------- ----------- -----------
<S> <C> <C> <C>
Deferred tax assets--
Net operating losses...................... $ 3,814 $ 4,913 $1,476
AMT payments made......................... 1,951 1,951 4,028
Other..................................... 2,383 1,531 3,217
------- ------- ------
Total assets............................ 8,148 8,395 8,721
Valuation allowance....................... (4,083) (2,907) --
------- ------- ------
Net assets.............................. 4,065 5,488 8,721
------- ------- ------
Deferred tax liabilities--
Depreciation.............................. 2,114 2,732 4,743
Software costs............................ -- 805 1,294
------- ------- ------
Total liabilities....................... 2,114 3,537 6,037
------- ------- ------
Total net deferred tax asset............ $ 1,951 $ 1,951 $2,684
======= ======= ======
</TABLE>
The significant components of income tax expense follow:
<TABLE>
<CAPTION>
JANUARY 30, JANUARY 29, JANUARY 28,
1994 1995 1996
----------- ----------- -----------
<S> <C> <C> <C>
Current tax expense--
Federal.................................. $ 275 $ 191 $ 5,946
State.................................... 12 2 1,983
Deferred tax expense--
Federal.................................. 240 610 (796)
State.................................... 68 373 63
Adjustments to beginning valuation
allowance................................. (595) (1,176) (2,907)
----- ------- -------
$ -- $ -- $ 4,289
===== ======= =======
</TABLE>
F-16
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The following is a reconciliation of the effective tax rate to the statutory
federal rate:
<TABLE>
<CAPTION>
JANUARY 30, JANUARY 29, JANUARY 28,
1994 1995 1996
----------- ----------- -----------
<S> <C> <C> <C>
Statutory federal income tax rate.......... 34.0% 34.0% 34.0%
State income taxes net of federal benefit.. 6.1 6.1 6.1
Adjustments to valuation allowance......... (70.3) (51.2) (18.2)
Goodwill amortization and other permanent
differences............................... 30.2 11.1 5.1
----- ----- -----
0% 0% 27.0%
===== ===== =====
</TABLE>
As of January 28, 1996, for tax purposes, the Company has net operating loss
carryforwards of approximately $4.0 million and $1.1 million available to
offset federal and California taxable income, respectively. These net
operating loss carryforwards expire at various dates through the fiscal year
ending January 2010 and state loss carryforwards expire at various dates
through the fiscal year ending January 2000. As a result of the initial public
offering and other ownership changes, the Internal Revenue Code, as amended,
may limit the Company's ability to utilize its federal income tax net
operating loss carryforwards. Any annual limitation amount determined by this
computation that is not used in the current year increases the succeeding
year's annual limitation amount. The Company's ability to utilize net
operating loss carryforwards as computed for California income tax purposes
may be similarly limited. The limitation on the use of net operating loss
carryforwards may have the effect of accelerating a portion of the Company's
income tax liability to an earlier year, and may also result in an overall
increase in income taxes payable by the Company. Whether the Company's
liability for taxes will be accelerated or increased will depend on numerous
factors, including whether and the extent to which future annual taxable
income of the Company exceeds the annual limitation, whether the Company is
paying tax based on its regular taxable income or its alternative minimum
taxable income and whether and the extent to which California permits
corporations to deduct net operating loss carryforwards for California income
tax purposes.
The Company has made income tax payments of approximately $1.2 million, $-0-
and $2.8 million in the years ended January 30, 1994, January 29, 1995 and
January 28, 1996 respectively, primarily toward tax liabilities computed for
alternative minimum tax purposes. Such payments are recorded as prepayments
which will be applied against future liabilities computed for regular tax
purposes.
9. DISCLOSURES ABOUT FAIR VALUES OF FINANCIAL INSTRUMENTS:
Working Capital Accounts
The carrying amounts of cash and cash equivalents, accounts receivable and
accounts payable approximate fair value because of the short maturity of these
instruments.
Long-term Debt
Based on the borrowing rates currently available to the Company for loans
with similar terms and average maturities, the fair value of long-term debt is
approximately $135.6 million versus the carrying amount of approximately
$134.3 million at January 28, 1996.
F-17
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
10. QUARTERLY FINANCIAL INFORMATION (UNAUDITED):
<TABLE>
<CAPTION>
INCOME (LOSS)
PER COMMON AND
EQUIVALENT SHARE
NET INCOME ON A FULLY
SALES GROSS MARGIN (LOSS) DILUTED BASIS
-------- ------------ ---------- ----------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
YEAR ENDED JANUARY 29, 1995
First quarter.............. $ 96,555 $ 34,606 $ (917) $(0.16)
Second quarter............. 125,566 44,970 3,305 0.40
Third quarter.............. 111,790 41,043 598 0.04
Fourth quarter............. 107,735 39,648 (689) (0.14)
-------- -------- ------- ------
Year....................... $441,646 $160,267 $ 2,297 $ 0.17
======== ======== ======= ======
YEAR ENDED JANUARY 28, 1996
First quarter.............. $125,352 $ 45,644 $ 2,922 $ 0.35
Second quarter............. 145,465 52,323 5,601 0.67
Third quarter.............. 131,497 47,516 1,820 0.22
Fourth quarter............. 130,125 47,192 1,266 0.14
-------- -------- ------- ------
Year....................... $532,439 $192,675 $11,609 $ 1.38
======== ======== ======= ======
</TABLE>
11. SUMMARIZED FINANCIAL INFORMATION OF SUBSIDIARY:
All operations of the Company are conducted through its wholly-owned
subsidiary, Orchard Supply. The following summarizes the financial position
and results of operations for the subsidiary:
<TABLE>
<CAPTION>
JANUARY 29, JANUARY 28,
1995 1996
----------- -----------
<S> <C> <C>
Current assets....................................... $144,453 $156,193
Non-current assets................................... 148,198 149,344
-------- --------
$292,651 $305,537
======== ========
Current liabilities.................................. $ 73,412 $ 80,037
Non-current liabilities.............................. 136,669 132,242
-------- --------
210,081 212,279
-------- --------
Redeemable preferred stock........................... -- --
Other equity......................................... 82,570 93,258
-------- --------
82,570 93,258
-------- --------
$292,651 $305,537
======== ========
</TABLE>
<TABLE>
<CAPTION>
YEAR ENDED
-----------------------------------
JANUARY 30, JANUARY 29, JANUARY 28,
1994 1995 1996
----------- ----------- -----------
<S> <C> <C> <C>
Sales...................................... $365,077 $441,646 $532,439
Gross margin............................... 130,751 160,267 192,675
Income before provisions for taxes and
extraordinary items....................... 10,170 2,339 15,938
Net income................................. 852 2,339 11,649
</TABLE>
The various debt instruments of Orchard Supply restrict the payment of
dividends to the parent as Orchard Supply is the primary obligor for all debt
outstanding.
F-18
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with the
Consolidated Financial Statements and Notes to Consolidated Financial Statements
which are filed herewith.
GENERAL
Orchard Supply Hardware Stores Corporation (the "Company" or "Orchard") opened
14 stores in fiscal 1994 and five stores in fiscal 1995. The Company plans to
open five to seven stores in fiscal 1996. As a result of the Company's
accelerated expansion and entry into Southern California, the Company incurred
substantial store pre-opening expenses amounting to $7.5 million for fiscal 1994
and $2.4 million for fiscal 1995. These pre-opening expenses consist principally
of store merchandising and stocking expenses, personnel recruitment and training
costs and grand-opening advertising and promotional expenses. In fiscal 1996,
the Company expects pre-opening expenses to be approximately $0.4 million to
$0.5 million per store.
As the Company has implemented its new store opening program, operating
expenses as a percent of sales for the new stores are higher on average,
adversely affecting overall operating margins until these new stores achieve
sales maturity. The Company's average store achieves maturity after
approximately four years. In addition, the Company has generally experienced
higher marketing, distribution and occupancy costs in its new stores in the
Southern California market. The Company believes, however, that these higher
expenses should be offset by higher sales at these stores (when these stores
achieve maturity), bringing margins for Southern California stores in line
with those for Northern and Central California stores.
The Company experienced a strong comparable store sales increase in fiscal
1995, especially in the second half of the year. The Company does not expect
to sustain its rate of comparable store sales growth in fiscal 1996,
particularly in the second half of the year.
The following table sets forth selected results of operations as percentages
of sales for the periods indicated:
<TABLE>
<CAPTION>
YEAR ENDED(1)
-----------------------------------
JANUARY 30, JANUARY 29, JANUARY 28,
1994 1995 1996
----------- ----------- -----------
<S> <C> <C> <C>
Sales. .................................... 100.0% 100.0% 100.0%
Gross margin............................... 35.8 36.3 36.2
Operating expenses......................... 29.3 31.2 30.2
Pre-opening expenses....................... 0.6 1.7 0.5
----- ----- -----
Operating income........................... 6.0 3.4 5.5
Interest expense. ......................... 3.2 2.9 2.5
----- ----- -----
Income before provision for income taxes
and extraordinary items................... 2.8 0.5 3.0
Income tax provision....................... -- -- 0.8
----- ----- -----
Income before extraordinary items.......... 2.8 0.5 2.2
Extraordinary items........................ (2.6) -- --
----- ----- -----
Net income................................. 0.2% 0.5% 2.2%
===== ===== =====
</TABLE>
- --------
(1) Amounts may not total due to rounding.
<PAGE>
RESULTS OF OPERATIONS
52 Weeks ended January 28, 1996 (fiscal 1995) compared to 52 Weeks ended
January 29, 1995 (fiscal 1994).
Sales for fiscal 1995 increased by 20.6% to $532.4 million from $441.6
million in fiscal 1994. The increase is attributable to an 8.0% gain in
comparable store sales and the sales contributed by the 19 stores opened since
the beginning of 1994 before they were included in the comparable store base.
The comparable store sales increase reflects the diminishing effect of eight
competing warehouse home centers that opened primarily in late 1993, the
recent closing of four competing warehouse home centers, and sales gains
achieved by 14 Orchard stores opened in the prior fiscal year which are now
part of the comparable store base. Improving economic conditions in California
also were a contributing factor.
Gross margin increased $32.4 million from $160.3 million for fiscal 1994 to
$192.7 million for fiscal 1995. As a percentage of sales, gross margin
decreased from 36.3% for fiscal 1994 to 36.2% for fiscal 1995. A decline in
purchase markup was offset partially by reduced inventory shrinkage and
leveraging of warehouse operating costs.
Operating expenses increased by $23.2 million from $137.9 million for fiscal
1994 to $161.0 million for fiscal 1995. As a percentage of sales, these
expenses decreased from 31.2% for fiscal 1994 to 30.2% for fiscal 1995.
Decreased payroll costs as a percentage of sales were offset partially by an
increase in occupancy costs as a percentage of sales in the Southern
California stores.
Pre-opening expenses decreased to $2.4 million for fiscal 1995 from $7.5
million for fiscal 1994. The decrease in pre-opening expenses is due to five
new store openings in 1995 versus 14 stores in the prior year, in addition to
lower average pre-opening costs per store. Operating income before pre-opening
expenses for fiscal 1995 increased by $9.2 million or 41.1% from fiscal 1994.
Operating income increased by $14.4 million from $14.9 million in fiscal
1994 to $29.2 million in fiscal 1995. As a percent of sales, operating income
increased from 3.4% to 5.5%. Sales increases, the leveraging of expenses and
reduced pre-opening expenses were the main contributors to the increase in
operating income.
Interest expense increased by $0.7 million from $12.6 million in fiscal 1994
to $13.3 million for fiscal 1995. In fiscal 1994 the Company capitalized an
additional $0.8 million of construction period interest on new store
construction projects and realized $0.4 million more in interest income than
in fiscal 1995. The increase in interest expense was partially offset by a
$0.5 million expense reduction due to a decrease in long-term debt.
The Company recorded an income tax provision for fiscal 1995 at an effective
tax rate of 27.0%, reflecting the reversal of a previously established
valuation allowance. Future effective income tax rates should approximate the
combined federal and state statutory rate and are estimated to be
approximately 41.0% in fiscal 1996. See Note 8 to Consolidated Financial
Statements.
52 Weeks ended January 29, 1995 (fiscal 1994) compared to 52 Weeks ended
January 30, 1994 (fiscal 1993).
Sales for fiscal 1994 increased by 21.0% to $441.6 million from $365.1
million for fiscal 1993. Increased sales as a result of 14 new stores opened
in fiscal 1994 were partially offset by a 1.1% decrease in comparable store
sales. Comparable store sales were impacted by the eight competing warehouse
home centers that opened in Orchard markets, principally in the second half of
fiscal 1993, and unfavorable weather conditions in Northern California during
a five week period in April and May, 1994.
Gross margin increased $29.5 million from $130.8 million in fiscal 1993 to
$160.3 million in fiscal 1994. As a percent of sales, gross margin increased
from 35.8% for fiscal 1993 to 36.3% for fiscal 1994. The increase in gross
margin percentage resulted primarily from an increase in the purchase markup
due to a reduction in the cost of merchandise achieved through improved
buying. Lower inventory shrinkage and reduced permanent markdowns also
contributed to the favorable gross margin performance.
<PAGE>
Operating expenses for fiscal 1994 were 31.2% of sales compared with 29.3%
of sales for fiscal 1993, an increase of 1.9% of sales. The increase is
partially attributable to higher advertising, rent and payroll costs as a
percent of sales for the 14 new stores opened in fiscal 1994 which have not
yet achieved sales maturity. The negative impact of the comparable store sales
decline on the sales base as described above also contributed to higher
selling, general and administrative expenses as a percent of sales.
Pre-opening expenses increased to $7.5 million for fiscal 1994 from $2.2
million for fiscal 1993. The increase in pre-opening expenses is due to 14 new
store openings in fiscal 1994 versus four new store openings in the prior
year. Operating income before pre-opening expense for fiscal 1994 decreased by
$1.5 million from fiscal 1993.
Operating income decreased by $6.8 million from $21.7 million for fiscal
1993 to $14.9 million for fiscal 1994. As a percentage of sales, operating
income decreased to 3.4% for fiscal 1994 from 6.0% for fiscal 1993. Higher
pre-opening costs and increased corporate expenses associated with the
Company's expansion program were the main contributors to the decrease in
operating income.
Interest expense increased from $11.6 million for fiscal 1993 to $12.6
million for fiscal 1994. The increase was due primarily to additional interest
resulting from the issuance by the Company in January 1994 of$100 million
aggregate principal amount of 9 3/8% Notes which was partially offset by
reduced interest due to the retirement of $19.3 million of 14.5% Senior
Subordinated Discount Notes and $30.0 million of 9% Senior Notes on February
25, 1994.
The Company did not record a tax provision as a result of the reversal of a
previously established valuation allowance. See Note 8 to Consolidated
Financial Statements.
The results of operations for fiscal 1993 included extraordinary charges of
$9.3 million resulting from the early extinguishment of $44.7 million in
aggregate principal amount of the 14.5% Subordinated Notes in April 1993 and
the remaining $19.3 million of 14.5% Subordinated Notes and $30 million of the
9% Senior Notes in February 1994.
QUARTERLY RESULTS OF OPERATIONS
The following table presents certain unaudited quarterly consolidated
financial information for each of the Company's last eight fiscal quarters. In
the opinion of the Company's management, this quarterly information has been
prepared on the same basis as audited consolidated financial statements and
includes all adjustments (consisting only of normal recurring adjustments)
necessary to present fairly the unaudited quarterly results set forth herein.
The Company's quarterly results have in the past been subject to fluctuations,
and thus, the operating results for any quarter are not necessarily indicative
of results for any future period.
<PAGE>
<TABLE>
<CAPTION>
FISCAL 1994 FISCAL 1995
------------------------------- -------------------------------
FIRST SECOND THIRD FOURTH FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER
------- ------- ------- ------- ------- ------- ------- -------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Sales................... $96.6 $125.6 $111.8 $107.7 $125.4 $145.5 $131.5 $130.1
Gross margin............ 34.4 45.0 41.0 39.6 45.6 52.3 47.5 47.2
Operating expenses...... 28.8 35.9 36.7 36.4 37.5 41.6 40.3 41.7
Pre-opening expenses.... 3.8 2.6 0.6 0.6 1.0 - 1.2 0.2
Operating income........ 2.0 6.4 3.8 2.7 7.2 10.7 6.0 5.4
Net income (loss)....... (0.9) 3.3 0.6 (0.7) 2.9 5.6 1.8 1.3
Comparable store sales
growth................. (1.5) (3.0) 0.4 0.2 1.8 6.5 10.1 13.0
Stores open at end of
period................. 47 54 55 56 58 58 59 60
</TABLE>
The Company's results of operations exhibit some measure of seasonality.
Generally, the Company's sales and operating income are highest in the second
quarter and lowest in the fourth quarter. This is due primarily to seasonality
in sales of garden, nursery and related products, which peak at the beginning
of the spring/summer gardening season. The Company has experienced losses in
the fourth quarter in the past and may experience losses in this quarter in
the future.
The Company's quarterly results and comparable store sales comparisons are
subject to various factors including consumer confidence, promotional
marketing efforts, maturation of new stores, weather conditions and
competitive store changes.
LIQUIDITY AND CAPITAL RESOURCES
The Company's liquidity needs arise primarily from the funding of the
Company's capital expenditures, working capital requirements, ongoing
expansion program, and service on indebtedness.
The Company's wholly-owned subsidiary, Orchard Supply Hardware Corporation
("Orchard Supply"), had long-term debt and capital lease obligations as of
January 28, 1996 of $134.3 million, including (i) $100.0 million of 9 3/8%
senior notes due February 15, 2002, (ii) $20.0 million of store mortgage notes,
and (iii) $12.8 million of warehouse mortgage notes. In addition, the Company
has up to $40.0 million of revolving credit availability under Orchard Supply's
senior revolving credit facility (the "Financing Agreement") (with a $10.0
million sublimit for letters of credit) of which no borrowings and $8.5 million
of letters of credit were outstanding at January 28, 1996. Orchard Supply's debt
instruments contain financial and operating covenants including, among other
things, requirements that Orchard Supply maintain certain financial ratios and
satisfy certain financial tests and limitations on Orchard Supply's ability to
make capital expenditures, to incur other indebtedness, and to pay dividends. At
January 28, 1996, the Company and Orchard Supply were in compliance with all
covenants contained in such debt instruments.
The Company's business strategy requires that it maintain broad product
lines and large inventories, however, the effect of this strategy on working
capital is somewhat minimized through the receipt of trade credit. The
Company's working capital is also affected by accounts receivable arising from
its proprietary credit card which had an average monthly balance for fiscal
1995 of $12.5 million. The Company will fund its working capital needs through
a combination of funds from operations and borrowings under the Financing
Agreement. The Financing Agreement permits borrowings based on percentages of
the Company's eligible inventory and accounts receivable and remains effective
through May 1999.
<PAGE>
In connection with Orchard's expansion plans, the Company anticipates
capital additions of approximately $0.9 million for furniture, fixtures and
equipment for each new store opened, a portion of which may be acquired under
operating leases. The Company expects that pre-opening expenses will range from
approximately $0.4 million to $0.5 million. The initial inventory requirement
for new stores, net of trade credit, is estimated at $1.0 million per store. In
the event that the Company is responsible for the renovation or remodeling of
the existing space to be leased, the Company anticipates incurring additional
capital expenditures of approximately $1.0 million to $1.8 million per store. If
the Company elects to purchase the real estate, the capital expenditure would
range from approximately $2.5 million for owned store improvements constructed
on leased land to $4.0 million to $7.0 million if the entire property were to be
owned by the Company.
The Company's capital expenditure plan for fiscal 1996 and 1997 provides for
annual capital expenditures of $19.8 million and $17.0 million, respectively.
This capital expenditure plan includes the expenditures of approximately $4.0
million to $5.0 million annually for the maintenance of existing facilities.
The remainder of the annual budgeted amounts will be used primarily for the
opening of new stores, including fixtures and leasehold improvements with
respect to the new stores, and computer equipment. The Company has
historically obtained some of its equipment through operating leases, and
expects to be able to procure such arrangements in the future. The inability
of the Company to procure such arrangements for its capital expenditure
program may have a negative impact on the ability of the Company to make
capital expenditures.
The Company believes that funds from operations, together with the proceeds
of the anticipated underwritten public offering of its common stock, borrowing
availability under the Financing Agreement and financing through operating
leases, will be adequate to fund the Company's operating requirements and
capital expenditure program and meet its debt and dividend obligations for at
least the next 18 months.
EFFECT OF INFLATION
The effect of inflation on the Company's results of operations has not been
material in the periods discussed.
IMPACT OF RECENT ACCOUNTING PRONOUNCEMENTS
In March 1995, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards (SFAS) No. 121 "Accounting for the Impairment
of Long-Lived Assets and for Long-Lived Assets to Be Disposed of." This
pronouncement requires that long-lived assets and certain identifiable
intangible assets be reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. An impairment loss is to be recognized when the sum of
undiscounted cash flows is less than the carrying amount of the asset.
Measurement of the loss for assets that the entity expects to hold and use are
to be based on the fair value of the asset. Although management does not
expect this pronouncement to have a material impact on the Company's financial
condition or results of operations at adoption, its provisions, when adopted,
will be applicable to any future assessments of its long-lived assets. SFAS
No. 121 will be adopted in fiscal 1996.
<PAGE>
EXHIBIT 99.2
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON SCHEDULES
To the Stockholders of Orchard Supply Hardware Stores Corporation:
We have audited in accordance with generally accepted auditing standards,
the consolidated financial statements of Orchard Supply Hardware Stores
Corporation included in this Form 8-K and have issued our report thereon dated
February 23, 1996. Our audits were made for the purpose of forming an opinion
on the basic financial statements taken as a whole. The accompanying schedules
are presented for purposes of complying with the Securities and Exchange
Commission's rules and are not part of the basic financial statements. These
schedules have been subjected to the auditing procedures applied in the audit
of the basic financial statements and, in our opinion, fairly state in all
material respects the financial data required to be set forth therein in
relation to the basic financial statements taken as a whole.
/s/ ARTHUR ANDERSEN LLP
San Jose, California
February 23, 1996
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION
SCHEDULE I--CONDENSED FINANCIAL INFORMATION OF SUBSIDIARY
CONDENSED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
JANUARY 29, JANUARY 28,
1995 1996
----------- -----------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents............................ $ 9,235 $ 7,930
Investments.......................................... 3,000 --
Accounts receivable.................................. 14,414 16,598
Inventory............................................ 103,438 116,761
Prepaid expenses and other........................... 8,221 8,391
Assets held for disposal............................. 6,145 6,513
-------- --------
Total current assets................................. 144,453 156,193
PROPERTY AND EQUIPMENT, net............................ 129,840 132,645
OTHER ASSETS, net...................................... 18,358 16,699
-------- --------
Total assets......................................... $292,651 $305,537
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued liabilities............. $ 70,919 $ 77,329
Notes payable........................................ 773 684
Current portion of capital leases and long-term debt. 1,720 2,024
-------- --------
Total current liabilities............................ 73,412 80,037
OTHER LIABILITIES...................................... 1,437 --
CAPITAL LEASES AND LONG-TERM DEBT, net of current
portion............................................... 135,232 132,242
-------- --------
Total liabilities.................................... 210,081 212,279
-------- --------
STOCKHOLDERS' EQUITY:
Additional paid-in capital........................... 80,231 82,509
Retained earnings.................................... 2,339 10,749
-------- --------
Total stockholders' equity......................... 82,570 93,258
-------- --------
Total liabilities and stockholders' equity......... $292,651 $305,537
======== ========
</TABLE>
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION
SCHEDULE I--CONDENSED FINANCIAL INFORMATION OF SUBSIDIARY
CONDENSED STATEMENTS OF INCOME
FOR THE FISCAL YEARS ENDED
(IN THOUSANDS)
<TABLE>
<CAPTION>
JANUARY 30, JANUARY 29, JANUARY 28,
1994 1995 1996
----------- ----------- -----------
<S> <C> <C> <C>
SALES...................................... $365,077 $441,646 $532,439
COST OF GOODS SOLD......................... 234,326 281,379 339,764
-------- -------- --------
Gross Margin............................. 130,751 160,267 192,675
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES.................................. 108,998 145,332 163,392
-------- -------- --------
Operating income......................... 21,753 14,935 29,283
INTEREST EXPENSE, net...................... 11,583 12,596 13,345
-------- -------- --------
Income before provision for income taxes
and extraordinary items................. 10,170 2,339 15,938
PROVISION FOR INCOME TAXES................. -- -- 4,289
-------- -------- --------
Income before extraordinary items........ 10,170 2,339 11,649
EXTRAORDINARY ITEMS........................ (9,318) -- --
-------- -------- --------
Net income............................... $ 852 $ 2,339 $ 11,649
======== ======== ========
</TABLE>
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION
SCHEDULE I--CONDENSED FINANCIAL INFORMATION OF SUBSIDIARY
CONDENSED STATEMENTS OF CASH FLOWS
FOR THE FISCAL YEARS ENDED
(IN THOUSANDS)
<TABLE>
<CAPTION>
JANUARY 30, JANUARY 29, JANUARY 28,
1994 1995 1996
----------- ----------- -----------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income................................ $ 852 $ 2,339 $ 11,649
Non-cash adjustments to net income-
Depreciation and amortization............ 6,845 8,682 10,715
Prepayment premium on senior and
subordinated senior debentures.......... 6,335 -- --
Write-off of deferred financing costs.... 2,745 -- --
Accretion of debt discount............... 313 -- --
Loss on asset disposals.................. 65 55 15
Changes in assets and liabilities--
Increase in accounts receivable.......... (477) (1,171) (2,184)
Increase in inventories.................. (8,636) (20,944) (13,323)
Increase in prepaid expenses and other... (2,429) (2,631) (355)
Increase in accounts payable and other
liabilities............................. 7,506 15,986 5,465
-------- -------- --------
Net cash provided by operating
activities............................ 13,119 2,316 11,982
-------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property, plant and
equipment............................... (29,491) (30,577) (12,500)
(Purchase) redemption of investments..... -- (3,000) 3,000
Purchase of leasehold rights............. (6,511) -- --
-------- -------- --------
Net cash used in investing activities.. (36,002) (33,577) (9,500)
-------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt. 103,079 1,752 --
Principal payments on capital leases and
long-term debt.......................... (50,757) (52,335) (2,686)
Deferred financing costs paid............ (2,736) (433) (51)
Repayment of notes payable, net.......... (1,727) (2,473) (89)
Contributions from (distributions to)
parent Company.......................... 46,132 18,402 (961)
-------- -------- --------
Net cash provided by (used in)
financing activities.................. 93,991 (35,087) (3,787)
-------- -------- --------
NET INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS............................... 71,108 (66,348) (1,305)
CASH AND CASH EQUIVALENTS, beginning of
period.................................... 4,475 75,583 9,235
-------- -------- --------
CASH AND CASH EQUIVALENTS, end of period... $ 75,583 $ 9,235 $ 7,930
======== ======== ========
</TABLE>
<PAGE>
ORCHARD SUPPLY HARDWARE STORES CORPORATION
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
FOR THE FISCAL YEAR ENDED
(IN THOUSANDS)
<TABLE>
<CAPTION>
BALANCE AT CHARGED TO CHARGED TO BALANCE
BEGINNING OF COSTS / OTHER AT END OF
DESCRIPTION PERIOD EXPENSES ACCOUNTS DEDUCTIONS PERIOD
----------- ------------ ---------- ---------- ---------- ---------
<S> <C> <C> <C> <C> <C>
JANUARY 30, 1994
Accounts receivable re-
serves................. $1,267 $1,215 $214 $(1,520) $1,176
JANUARY 29, 1995
Accounts receivable re-
serves................. $1,176 $1,172 $210 $(1,357) $1,201
JANUARY 28, 1996
Accounts receivable re-
serves................. $1,201 $1,488 $176 $(1,322) $1,543
</TABLE>
