<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended January 31, 2000
or
[ ] Transition report under Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the transition period from to
----- -----
Commission file number: 0-24346
VIDEO UPDATE, INC.
-------------------------------------------------------------
(Exact Name of Registrant as Specified in its Charter)
Delaware 41-1461110
----------------------------- -------------------------------
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
3100 World Trade Center
30 East 7th Street
St. Paul, Minnesota 55101
----------------------------------------------------
(Address of Principal Executive Offices)
(Zip Code)
(651) 312-2222
----------------------------------------------------
(Registrant's Telephone Number, Including Area Code)
Not Applicable
----------------------------------------------------
(Former name, former address and former fiscal year, if changed
since last report)
Indicate by check mark whether the Registrant: (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
--- ---
The number of shares of Class A Common Stock, $.01 par value,
outstanding at March 15, 2000 is 29,278,457.
<PAGE> 2
VIDEO UPDATE, INC.
INDEX
<TABLE>
<CAPTION>
PART I - FINANCIAL INFORMATION PAGE NO.
--------
<S> <C> <C>
ITEM 1. Financial Statements
Consolidated Balance Sheets - April 30, 1999 and January 31, 2000 3
Consolidated Statements of Operations - Three Months and Nine
Months ended January 31, 1999 and January 31, 2000 4
Consolidated Statements of Cash Flows - Nine Months ended
January 31, 1999 and January 31, 2000 5
Notes to Consolidated Financial Statements - January 31, 2000 6
ITEM 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 8
ITEM 3. Quantitative and Qualitative Disclosures about Market Risk 15
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings 16
ITEM 6. Exhibits and Reports on Form 8-K 17
SIGNATURES 17
</TABLE>
2 of 17
<PAGE> 3
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
VIDEO UPDATE, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share amounts)
ASSETS
<TABLE>
<CAPTION>
APRIL 30, JANUARY 31,
1999 2000
--------------------------------------
(UNAUDITED)
<S> <C> <C>
Cash and cash equivalents $ 1,235 $ 1,092
Accounts receivable 3,826 3,642
Merchandise inventory 6,393 8,134
Video and game rental inventory - net 45,040 42,120
Property and equipment - net 59,395 51,649
Prepaid expenses 6,419 1,467
Goodwill - net 77,715 74,386
Other assets 7,185 6,746
------------ -------------
Total assets $ 207,208 $ 189,236
============ =============
</TABLE>
<TABLE>
<CAPTION>
LIABILITIES AND STOCKHOLDERS' EQUITY
<S> <C> <C>
Notes payable $ 116,014 $ 140,498
Accounts payable 56,055 26,100
Accrued expenses 23,054 18,834
Accrued rent 7,118 7,021
Accrued compensation 8,062 5,330
------------ -------------
Total liabilities 210,303 197,783
------------ -------------
Commitments and contingencies
Preferred Stock, par value $.01 per share:
Authorized shares -- 5,000,000
Issued shares - none -- --
Class A Common Stock, par value $.01 per share:
Authorized shares -- 60,000,000
Issued and outstanding shares -- 29,278,457 at April 30,
1999 and January 31, 2000 293 293
Additional paid-in capital 116,372 120,776
Retained deficit (118,045) (128,600)
Foreign currency translation (1,715) (1,016)
------------ -------------
Total stockholders' equity (3,095) (8,547)
------------ =============
Total liabilities and stockholders' equity $ 207,208 $ 189,236
============ =============
</TABLE>
See accompanying notes.
Note: The balance sheet at April 30, 1999 has been derived from the audited
financial statements at that date but does not include all the information and
footnotes required by generally accepted accounting principles for complete
financial statements.
3 of 17
<PAGE> 4
VIDEO UPDATE, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
THREE MONTHS ENDED JANUARY 31, NINE MONTHS ENDED JANUARY 31,
1999 2000 1999 2000
------------ ----------- ----------- ------------
<S> <C> <C> <C> <C>
Revenues:
Rental revenue $ 60,161 $ 50,284 $ 168,816 $ 152,814
Product sales 10,281 6,909 24,962 18,396
Service fees 250 275 791 809
------------ ----------- ----------- ------------
70,692 57,468 194,569 172,019
Costs and expenses:
Store operating expenses 57,437 44,397 172,194 146,108
Selling, general and administrative 4,640 4,223 14,284 14,074
Cost of product sales 6,196 4,487 16,142 11,628
Store closing charge -- (1,913) -- (5,230)
Amortization of goodwill 1,259 1,096 3,379 3,260
------------ ----------- ----------- ------------
69,532 52,290 205,999 169,840
------------ ----------- ----------- ------------
Operating income (loss) 1,160 5,178 (11,430) 2,179
Interest expense (3,329) (4,704) (10,102) (13,498)
Other income 46 584 302 764
------------ ----------- ----------- ------------
(3,283) (4,120) (9,800) (12,734)
------------ ----------- ----------- ------------
Income (loss) before income taxes (2,123) 1,058 (21,230) (10,555)
Income tax expense -- -- -- --
------------ ----------- ----------- ------------
Net income (loss) $ (2,123) $ 1,058 $ (21,230) $ (10,555)
============ =========== =========== ============
Net income (loss) per share-basic and
diluted $ (0.07) $ 0.04 $ (0.73) $ (0.36)
============ =========== =========== ============
</TABLE>
See accompanying notes.
4 of 17
<PAGE> 5
VIDEO UPDATE, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(In thousands)
<TABLE>
<CAPTION>
NINE MONTHS ENDED JANUARY 31,
1999 2000
------------- -------------
<S> <C> <C>
OPERATING ACTIVITIES
Net loss $ (21,230) $ (10,555)
Adjustments to reconcile net loss to net
cash provided by operating activities:
Depreciation and amortization 65,767 44,895
Deferred income taxes (11) --
Store closing reserve -- (5,230)
Accrual adjustment -- (7,021)
(Gain) loss on disposal of property and -- (86)
equipment
Changes in operating assets and liabilities, net of
acquisitions of businesses:
Accounts receivable 639 184
Merchandise inventory (4,876) (1,741)
Income taxes 2,123 --
Other assets (916) 4,021
Accounts payable 6,352 (2,043)
Accrued rent -- (97)
Accrued liabilities (2,164) (719)
Other operating activities 24 --
------------- -------------
Net cash provided by operating activities 45,708 21,608
INVESTING ACTIVITIES
Purchase of video and game rental inventory (50,964) (28,684)
Purchase of property and equipment (11,578) (891)
Disposal of property and equipment -- 770
Investment in businesses, net of cash acquired (525) (115)
------------- -------------
Net cash used in investing activities (63,067) (28,920)
FINANCING ACTIVITIES
Proceeds from notes payable 27,300 29,550
Payments of notes payable (16,032) (23,080)
Proceeds from sale lease-back 5,000 --
Other financing activities (600) --
------------- -------------
Net cash provided by financing activities 15,668 6,470
------------- -------------
Effect of exchange rate changes on cash 954 699
Decrease in cash and cash equivalents (737) (143)
Cash and cash equivalents at beginning of the
period 1,433 1,235
------------- -------------
Cash and cash equivalents at end of the period $ 696 $ 1,092
============= =============
</TABLE>
See accompanying notes.
5 of 17
<PAGE> 6
VIDEO UPDATE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JANUARY 31, 2000
(UNAUDITED)
1. GENERAL
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the nine months ended January 31, 2000 are
not necessarily indicative of the results that may be expected for the fiscal
year ending April 30, 2000 (in January 2000, the Company's Board of Directors
approved a resolution changing the Company's fiscal year-end from April 30 to
January 31, effective January 31, 2001 instead of January 31, 2000). Certain
prior year items have been reclassified to conform with the fiscal 2000
presentation. For further information, refer to the consolidated financial
statements and footnotes thereto included in the Company's annual report on Form
10-K for the year ended April 30, 1999.
2. EARNINGS PER SHARE
In 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 128, Earnings per Share ("Statement 128").
Statement 128 replaced the previously reported primary and fully diluted
earnings per share with basic and diluted earnings per share. Unlike primary
earnings per share, basic earnings per share excluded any dilutive effect of
options, warrants and convertible securities. Diluted earnings per share is very
similar to the previously reported fully diluted earnings per share. All
earnings per share amounts for all periods have been presented, and when
necessary, restated to conform to the Statement 128 requirements.
The following table is a reconciliation of the basic and diluted
earnings per share computation:
<TABLE>
<CAPTION>
THREE MONTHS NINE MONTHS
ENDED JANUARY 31, ENDED JANUARY 31,
--------------------- ---------------------
1999 2000 1999 2000
--------- --------- ---------- --------
(In thousands, except per share amounts)
<S> <C> <C> <C> <C>
Numerator:
Numerator for basic and diluted earnings per share--net gain $ (2,123) $ 1,058 $ (21,230) $ (10,555)
(loss) ========= ========= ========== =========
Denominator:
Denominator for basic earnings per share--weighted-average
shares
Class A common shares 29,278 29,278 29,278 29,278
Class B common shares -- --
--------- --------- ---------- ---------
Denominator for basis earnings per share 29,278 29,278 29,278 29,278
Effect of dilutive securities:
Contingent stock acquisition -- -- -- --
--------- --------- ---------- ---------
Dilutive potential common shares -- -- -- --
--------- --------- ---------- ---------
Denominator for diluted earnings per share--
adjusted weighted-average shares and assumed conversions 29,278 29,278 29,278 29,278
========= ========= ========== =========
Basic net gain (loss) per share $ (0.07) $ 0.04 $ (0.73) $ (0.36)
========= ========= ========== =========
Diluted net gain (loss) per share $ (0.07) $ 0.04 $ (0.73) $ (0.36)
========= ========= ========== =========
</TABLE>
3. COMPREHENSIVE INCOME (LOSS)
As of May 1, 1998, the Company adopted Statement of Financial
Accounting Standards No. 130, Reporting Comprehensive Income ("Statement 130").
Statement 130 establishes new rules for the reporting and display of
comprehensive income and its components; however, the adoption of Statement 130
had no impact on the
6 of 17
<PAGE> 7
Company's net income (loss) or stockholders' equity. Statement 130 requires
unrealized gains or losses on the Company's foreign currency translation
adjustments, which prior to adoption were reported separately in stockholders'
equity to be included in other comprehensive income. Prior years' financial
statements have been reclassified to conform to the requirements of Statement
130. During the three months ended January 31, 1999 and 2000, total
comprehensive income (loss) amounted to $(1,700,000) and $2,653,000,
respectively; and during the nine months ended January 31, 1999 and 2000, total
comprehensive loss amounted to $(22,240,000) and $(9,856,000), respectively.
4. INCOME TAX EXPENSE
During the three months ended and nine months ended January 31, 2000, the
Company estimated that its effective tax rate for the year would be 0%. The
Company has therefore used this rate in providing for income taxes in the
current quarter and periods to date. The Company evaluated and estimated its
effective tax rate at the end of each interim period during the fiscal year.
5. PROVISION FOR STORE CLOSING AND OTHER CHARGES
During the three months ended and nine months ended January 31, 2000,
$81,000 and $519,000, respectively, was expended for lease terminations and
miscellaneous closing costs related to the Company's 1998 business restructuring
plan. Successful negotiations of lease terminations and the decision to keep a
select few stores open resulted in an excess reserve of approximately $505,000
and $755,000, respectively that was recorded as an increase to net income.
During the three months ended and nine months ended January 31, 2000,
$440,000 and $1,163,000, respectively, was expended for lease terminations and
miscellaneous closing costs related to the Company's 1999 business restructuring
plan. Successful negotiations of lease terminations and the decision to keep a
select few stores open resulted in an excess reserve of approximately $1,408,000
and $4,475,000, respectively that was recorded as an increase to net income. As
of January 31, 2000, approximately $4.1 million is reserved for costs related
to stores that have recently been closed or may yet be closed.
6. LEGAL PROCEEDINGS
In connection with the acquisition of the assets of Videoland, Inc.
("Videoland") in November 1995, the Company issued 239,163 shares of its Class A
Common Stock (the "Videoland Shares") to the sellers of the assets of Videoland
(the "Videoland Sellers"). With respect to the Videoland Shares, the Company
agreed to make a deficiency payment in October 1996 to the Videoland Sellers if
the gross proceeds received by such sellers from the sale of the Videoland
Shares during the six months from March 1996 through September 1996 is not equal
to the number of shares of Videoland Shares sold multiplied by $12.00. The
Videoland Sellers were subject to certain "lockup" or sale restrictions as a
condition to any deficiency payment. The Company initiated an action in federal
district court in Minnesota for a declaratory judgment that the Videoland
Sellers are not entitled to any deficiency payment in light of the failure by
such sellers to comply with the lockup or sale restrictions. In January 1998,
the court entered a judgment, payable in the Company's stock or cash, against
the Company in the amount of $1,220,403 plus interest from October 1996, and
attorney's fees. The Company appealed the judgment to the Eighth Circuit. The
appeal was denied. The Company is exploring further avenues of relief, including
but not limited to the satisfaction of a portion of the judgment by a transfer
of the Company's stock. A variety of aspects of such a settlement are now
subject to litigation in the federal district court in Minnesota, the outcome of
which no assurances can be given. The foregoing description is qualified in its
entirety by reference to the full text of the complaint and papers on file in
the action.
In May 1998, Rousnam Video, Inc., a Michigan corporation and Hani (Al)
Monsour (collectively "Monsour") filed a lawsuit in state court (Macomb County,
Michigan) claiming amounts due pursuant to post-closing adjustments contemplated
in connection with an Asset Purchase Agreement among Monsour and Moovies, Inc.
dated as of March 14, 1997, and the alleged default on a Promissory Note among
Monsour and Moovies, Inc. in the amount of $2,000,000 which is currently
reflected in notes payable. The trial court has ruled in favor of the plaintiffs
on a motion for summary judgment, and a judgment for $2,370,195 has been entered
against the Company. The Company believes it has meritorious grounds for its
appeal which is currently pending, although assurances cannot be given as to the
outcome of such action. The foregoing description is qualified in its entirety
by reference to the full text of the complaint and papers on file in the action.
7 of 17
<PAGE> 8
In August 1998, the Company filed suit in federal court in Oregon against
Rentrak Corporation, an Oregon Corporation. The Company alleges that Rentrak has
violated the federal antitrust law, given Rentrak's position in the market and
its exercise of monopoly power. Rentrak has counter-claimed for amounts it
alleges were owed by Moovies, Inc. prior to the acquisition of Moovies, Inc. by
the Company; the Company has denied that any sums are due. Discovery in the
matter is now scheduled to be completed in June 2000. The Company intends to
pursue its claims aggressively, although assurances cannot be given as to the
outcome of this matter. The foregoing description is qualified in its entirety
by reference to the full text of the complaint and papers on file in the action.
On June 20, 1999, Allen Industries, Inc. ("Allen"), a North Carolina
corporation,filed a lawsuit against the Company claiming approximately $3
million in unpaid invoices arising out of the conversion of various Moovies
stores. The parties have reached a settlement in this matter which reduced the
net amount due to Allen to $1.3 million. The foregoing description is qualified
in its entirety by reference to the full text of the complaint and papers on
file in the action.
Video Update is currently in the process of an Internal Revenue Service
("IRS") audit. As with any audit, certain issues have been raised by the IRS for
more detailed review and examination. Because the audit is still incomplete, the
resolution of these or future issues and their impact on the Company's financial
condition and results of operations cannot be determined at this time.
In addition to the above, the Company is involved in various legal
proceedings arising during the normal course of conducting business. Management
believes that the resolution of these proceedings will not have any material
adverse impact on the Company's financial statements.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
The following discussion of the financial condition and results of
operations should be read in conjunction with the Company's unaudited
consolidated financial statements and notes thereto appearing elsewhere herein.
OVERVIEW
The Company franchised its first store in January 1983 and opened its first
Company-owned store in September 1989. By July 1994, when the Company completed
its initial public offering, the Company had grown to 15 Company-owned stores
and 30 franchised stores. Subsequently, the Company substantially accelerated
its growth and as of January 31, 2000 operated 589 Company-owned stores in 31
states and five provinces in Canada, and has 52 franchised stores predominantly
in the United States. The majority of the Company's stores located in the United
States are superstores. Superstores are video specialty stores that carry more
than 7,500 rental units.
The Company generates revenues primarily from the rental of videocassettes
and video games, from service fees from its franchisees and from the sale of
products. As reflected in the chart below, rental revenues at Video Update
stores have accounted for the substantial majority of the Company's revenues.
The Company expects that this trend will continue.
<TABLE>
<CAPTION>
THREE MONTHS ENDED JANUARY 31, NINE MONTHS ENDED JANUARY 31,
----------------------------------- -------------------------------------
1999 2000 1999 2000
------------ ------------ ------------ ------------
(In thousands) (In thousands)
<S> <C> <C> <C> <C>
Rental revenue $ 60,161 $ 50,284 $ 168,816 $ 152,814
Product sales 10,281 6,909 24,962 18,396
Service fees 250 275 791 809
============ ============ ============ ============
Total revenues $ 70,692 $ 57,468 $ 194,569 $ 172,019
============ ============ ============ ============
</TABLE>
OPERATING RESULTS
The table below sets forth the percentage of revenues represented by
certain items included in the Company's statements of operations for the periods
indicated.
8 of 17
<PAGE> 9
<TABLE>
<CAPTION>
THREE MONTHS ENDED JANUARY 31, NINE MONTHS ENDED JANUARY 31,
----------------------------------- -------------------------------
1999 2000 1999 2000
--------------- --------------- -------------- -------------
<S> <C> <C> <C> <C>
Revenues:
Rental revenue 85.1 % 87.5 % 86.8 % 88.8 %
Product sales 14.5 12.0 12.8 10.7
Service fees 0.4 0.5 0.4 0.5
------------ ----------- ----------- ----------
Total revenues 100.0 100.0 100.0 100.0
Costs and expenses:
Store operating expenses 81.3 77.3 88.5 84.9
Selling, general and 6.6 7.3 7.4 8.2
administrative
Cost of product sales 8.7 7.8 8.3 6.7
Store closing charge -- (3.3) -- (3.0)
Amortization of goodwill 1.8 1.9 1.7 1.9
------------ ----------- ----------- ----------
Total cost and expenses 98.4 91.0 105.9 98.7
------------ ----------- ----------- ----------
Operating income (loss) 1.6 9.0 (5.9) 1.3
Other income (expense):
Interest expense (4.7) (8.2) (5.2) (7.9)
Other income 0.1 1.0 0.2 0.5
------------ ----------- ----------- ----------
Total other income (expense) (4.6) (7.2) (5.0) (7.4)
------------ ----------- ----------- ----------
Income (loss) before income taxes (3.0) 1.8 (10.9) (6.1)
Income tax expense -- -- -- --
------------ ----------- ----------- ----------
Net income (loss) (3.0) % 1.8 % (10.9) % (6.1) %
============ =========== =========== ==========
</TABLE>
THREE AND NINE MONTHS ENDED JANUARY 31, 1999 COMPARED TO THREE AND NINE MONTHS
ENDED JANUARY 31, 2000
RENTAL REVENUE
Rental revenue was approximately $60,161,000 and $50,284,000, or 85.1%
and 87.5% of total revenues for the three months ended January 1999 and 2000,
respectively. The decrease in rental revenue of $9,877,000 was attributed to the
decrease in same store sales of 15.6% and the closing of under-performing
stores.
Rental revenue was approximately $168,816,000 and $152,814,000, or
86.8% and 88.8% of total revenues for the nine months ended January 31, 1999 and
2000, respectively. The decrease in rental revenue of $16,002,000 was primarily
attributed to the closing of under-performing stores pursuant to the Company's
business restructuring plans of fiscal 1998 and 1999 and to increased
competition in several key markets. Of the 78 stores closed since January 31,
1999, 63 relate to the Company's fiscal 1999 business restructuring plan. Same
store sales decreased 7.8% for the nine months ended January 31, 2000.
PRODUCT SALES
Product sales were approximately $10,281,000 and $6,909,000, or 14.5%
and 12.0% of total revenues for the three months ended January 31, 1999 and
2000, respectively. The decrease in product sales of $3,372,000 was primarily
attributed to the closing of under-performing stores.
Product sales were approximately $24,962,000 and $18,396,000, or 12.8%
and 10.7% of total revenues for the nine months ended January 31, 1999 and 2000,
respectively. The decrease in product sales of $6,566,000 was primarily
attributed to the closing of under-performing stores and the high volume of
Titanic video sales that occurred in the second quarter of fiscal 1999.
9 of 17
<PAGE> 10
SERVICE FEES
Service fees were approximately $250,000 and $275,000, or 0.4% and 0.5%
of total revenues for the three months ended January 31, 1999 and 2000,
respectively. Continuing service fees and royalties from franchisees accounted
for about 87% of total service fees.
Service fees were approximately $791,000 and $809,000, or 0.4% and 0.5%
of total revenues for the nine months ended January 31, 1999 and 2000,
respectively. Continuing service fees and royalties from franchisees accounted
for about 87% of total service fees.
STORE OPERATING EXPENSES
Store operating expenses were approximately $57,437,000 and
$44,397,000, or 81.3% and 77.3% of total revenues for the three months ended
January 31, 1999 and 2000, respectively. The decrease in store operating
expenses of $13,040,000 and the decrease in store operating expenses as a
percentage of total revenues was primarily attributed to the closing of
under-performing stores, and other cost cutting measures such as the review of
vendor relationship/accounts which resulted in adjustments of amounts previously
accrued of approximately $1.6 million. Included in these adjustments was the
effect of the settlement reached with Allen Industries, Inc.
Store operating expenses consist primarily of compensation and related
expenses including regional management expenses, occupancy expenses, and the
cost of rental tapes and video games. Operating expenses were approximately
$172,194,000 and $146,108,000, or 88.5% and 84.9% of total revenues for the nine
months ended January 31, 1999 and 2000, respectively. The decrease in store
operating expenses of $26,086,000 and the decrease in store operating expenses
as a percentage of total revenues was primarily attributed to the closing of 78
under-performing stores since January 31, 1999 and other cost cutting measures
such as reduction of management overhead, positive resolution of disputed
amounts previously accrued of approximately $3.7 million, and selected
downsizing of stores. The Company is also reviewing operating statistics such as
store hour coverage and supervisory ratios to determine the most cost effective
way to provide exceptional customer service.
<TABLE>
<CAPTION>
THREE MONTHS ENDED JANUARY 31, PERCENT OF REVENUE
----------------------------------- --------------------------
1999 2000 1999 2000
------------- ------------- ---------- ---------
<S> <C> <C> <C> <C>
Cost of rental revenue $ 16,931 $ 10,716 24.0 % 18.7 %
Occupancy expenses 17,479 14,792 24.7 25.7
Compensation and related expenses 16,544 14,168 23.4 24.7
Furniture, fixtures, and equipment expenses 3,452 2,374 4.9 4.1
Other store operating expenses 3,031 2,347 4.3 4.1
------------- ------------- ---------- ---------
Total store operating expenses $ 57,437 $ 44,397 81.3 % 77.3 %
============= ============= ========== =========
</TABLE>
<TABLE>
<CAPTION>
NINE MONTHS ENDED JANUARY 31, PERCENT OF REVENUE
----------------------------------- --------------------------
1999 2000 1999 2000
------------- ------------- ---------- ---------
<S> <C> <C> <C> <C>
Cost of rental revenue $ 52,992 $ 40,552 27.2 % 23.6 %
Occupancy expenses 53,697 48,621 27.6 28.3
Compensation and related expenses 47,260 43,148 24.3 25.1
Furniture, fixtures, and equipment expenses 10,240 9,719 5.3 5.6
Other store operating expenses 8,005 4,068 4.1 2.3
------------- ------------- ---------- =========
Total store operating expenses $ 172,194 $ 146,108 88.5 % 84.9 %
============= ============= ========== =========
</TABLE>
Cost of rental revenue was approximately $16,931,000 and $10,716,000,
or 24.0% and 18.7% of total revenues for the three months ended January 31, 1999
and 2000, respectively. The decrease of $6,215,000 was primarily attributed to
decreased purchases of inventory and to the closing of 78 under-performing
stores since January 31, 1999. The decrease in the cost of rental revenue as a
percentage of revenues was primarily the result of a change in the method of
amortization of rental tapes partially offset by an increase in revenue sharing
expenses. Effective February 1, 1999, the Company changed the amortization
policy for videos to more appropriately reflect the economics of revenue sharing
agreements with studios that result in satisfying consumer demand over a shorter
period of time. The adoption of the new method of amortization was accounted for
as a change in accounting estimate effected by a change in accounting
10 of 17
<PAGE> 11
principle in the fourth quarter of fiscal year 1999. The Company recorded a
pre-tax charge of approximately $50,629,000 in the fourth quarter of fiscal year
1999 which had the effect of decreasing amortizable inventory in fiscal year
2000 versus fiscal year 1999.
Cost of rental revenue was approximately $52,992,000 and $40,552,000,
or 27.2% and 23.6% of total revenues for the nine months ended January 31, 1999
and 2000, respectively. Cost of rental revenue reflects the amortization of
videocassettes and video games, revenue sharing expenses, and fees paid to
videocassette and video game suppliers. The decrease of $12,440,000 was
primarily attributed to increased purchases of inventory and the closing of 78
under-performing stores since January 31, 1999. The decrease in cost of rental
revenue as a percentage of revenues was primarily the result of a change in the
amortization policy discussed above.
Occupancy expenses were approximately $17,479,000 and $14,792,000, or
24.7% and 25.7% of total revenues for the three months ended January 31, 1999
and 2000, respectively. The decrease of approximately $2,687,000 was primarily
attributed to the closing of under-performing stores. The expense as a
percentage of revenue increased as a result of occupancy expenses that are still
being realized subsequent to the closing of the under-performing stores as well
as soft sales in the current fiscal period.
Occupancy expenses were approximately $53,697,000 and $48,621,000, or
27.6% and 28.3% of total revenues for the nine months ended January 31, 1999 and
2000, respectively. The decrease of approximately $5,076,000 was primarily
attributed to the closing of 78 under-performing stores since January 31, 1999.
Compensation and related expenses were approximately $16,544,000 and
$14,168,000, or 23.4% and 24.7% of total revenues for the three months ended
January 31, 1999 and 2000, respectively. The decrease of approximately
$2,376,000 was primarily attributed to the closing of under-performing stores.
The expense as a percentage of revenue increased as a result of soft sales in
the current fiscal quarter.
Compensation and related expenses were approximately $47,260,000 and
$43,148,000, or 24.3% and 25.1% of total revenues for the nine months ended
January 31, 1999 and 2000, respectively. The decrease of approximately
$4,112,000 was primarily attributed to the closing of 78 under-performing stores
since January 31, 1999. The expense as a percentage of revenue increased as a
result of soft sales in the current fiscal year.
SELLING, GENERAL AND ADMINISTRATIVE
Selling, general and administrative expenses were approximately
$4,640,000 and $4,223,000, or 6.6% and 7.3% of total revenues for the three
months ended January 31, 1999 and 2000, respectively. The decrease of
approximately $417,000 was the net effect of the favorable resolution of amounts
previously accrued of approximately $1.1 million offset by the increase in
operational expenses.
Selling, general and administrative expenses were approximately
$14,284,000 and $14,074,000, or 7.4% and 8.2% of total revenues for the nine
months ended January 31, 1999 and 2000, respectively. The decrease of
approximately $210,000 was the net effect of the favorable resolution of amounts
previously accrued of approximately $2.5 million offset by the increase in
operational expenses.
COST OF PRODUCT SALES
Cost of product sales were approximately $6,196,000 and $4,487,000, or
8.7% and 7.8% of total revenues for the three months ended January 31, 1999 and
2000, respectively. The cost of product sales as a percentage of total product
sales was approximately 60.3% and 64.9% for fiscal 1999 and 2000, respectively.
The increase in the cost of product sales as a percentage of total product sales
was due to a change in product mix.
Cost of product sales were approximately $16,142,000 and $11,628,000,
or 8.3% and 6.7% of total revenues for the nine months ended January 31, 1999
and 2000, respectively. The cost of product sales as a percentage of total
product sales revenue was approximately 64.7% and 63.2% for fiscal 1999 and
2000, respectively. The decrease in the cost of product sales as a percentage of
total product sales was due to a change in product mix and the high volume of
Titanic video sales that occurred in the second quarter of fiscal 1999. The
11 of 17
<PAGE> 12
Company anticipates that the cost of product sales as a percentage of product
sales will remain consistent with historical results, but will fluctuate
quarterly based upon customer demands.
STORE CLOSING CHARGE
During the fourth quarter of fiscal 1999, the Company adopted a
business restructuring plan to close approximately 70 under-performing stores.
This resulted in the Company recording a pre-tax charge of approximately
$16,135,000 to cover lease termination charges, closing costs and asset
write-downs for these stores. During the nine months ended January 31, 2000, 63
stores were either closed at a significantly lower cost to the Company than
originally planned or determined to remain open which resulted in a gain of
approximately $1,913,000 and $5,230,000, respectively.
AMORTIZATION OF GOODWILL
Amortization of goodwill was approximately $1,259,000 and $1,096,000,
or 1.8% and 1.9% of total revenues for the three months ended January 31, 1999
and 2000, respectively. The increase as a percentage of total sales was
primarily attributed to soft sales in the current fiscal year.
Amortization of goodwill was approximately $3,379,000 and $3,260,000,
or 1.7% and 1.9% of total revenues for the nine months ended January 31, 1999
and 2000, respectively. The increase as a percentage of total sales was
primarily attributed to soft sales in the current fiscal year.
INTEREST EXPENSE
Interest expense was approximately $3,329,000 and $4,704,000, or 4.7%
and 8.2% of total revenues for the three months ended January 31, 1999 and 2000,
respectively. The increase of approximately $1,375,000 was primarily attributed
to interest on increased borrowings, a 0.75% increase of the overall interest
rate, and the issuance of warrants related to the additional term debt resulting
in an increase in interest expense.
Interest expense was approximately $10,102,000 and $13,498,000, or 5.2%
and 7.9% of total revenues for the nine months ended January 31, 1999 and 2000,
respectively. The increase of approximately $3,396,000 was primarily attributed
to interest on increased borrowings, a 0.75% increase of the overall interest
rate, and the issuance of warrants related to the additional term debt resulting
in an increase in interest expense.
OTHER INCOME
Other income was approximately $46,000 and $584,000, or 0.1% and 1.0%
of total revenues for the three months ended January 31, 1999 and 2000,
respectively. The increase in other income is primarily attributed to favorable
developments which effected the Company's legal reserves.
Other income was approximately $302,000 and $764,000, or 0.2% and
0.5% of total revenues for the nine months ended January 31, 1999 and 2000,
respectively. The increase in other income is primarily attributed to favorable
developments which effected the Company's legal reserves.
INCOME TAXES
At the end of the January 31, 2000 quarter, the Company estimated that
its effective tax rate for the year ended April 30, 2000 would be 0%. The
Company has therefore used this rate in providing for income taxes in the
current quarter. The Company will evaluate and estimate its effective tax rate
at the end of each interim period during fiscal 2000.
During the three months ended and nine months ended January 31, 2000, the
Company estimated that its effective tax rate for the year would be 0%. The
Company has therefore used this rate in providing for income taxes in the
current quarter and periods to date. The Company evaluated and estimated its
effective tax rate at the end of each interim period during the fiscal year.
LIQUIDITY AND CAPITAL RESOURCES
The Company has funded its operations through cash from operations, the
proceeds of prior equity and debt offerings, borrowings under bank facilities,
trade credit and equipment leases. The Company's principal capital requirements
are for the purchase of rental inventory, payments related to store closings,
payments related to aged accounts payable, and payments of interest and
principal related to the Company's indebtedness.
At January 31, 2000, the Company had cash and cash equivalents of
approximately $1,092,000. The Company uses an unclassified balance sheet in its
financial statements, and as a result, does not classify its assets or
12 of 17
<PAGE> 13
liabilities as current or non-current. If the Company were to use a classified
balance sheet, a portion of videocassette rental inventories would be classified
as non-current because they are not assets that are reasonably expected to be
completely realized in cash or sold in one year. The acquisition cost of these
inventories, however, would be reflected in current liabilities. The Company
believes that classification of videocassette rental inventories as non-current
assets would be misleading because it would not indicate the level of assets
expected to be converted into cash in the next year as a result of rentals or
sales of these videocassettes.
For the nine months ended January 31, 2000, net cash provided by
operating activities was approximately $21,608,000. Net cash used in investing
activities was approximately $28,920,000, consisting primarily of approximately
$891,000 for the purchase of property and equipment and approximately
$28,684,000 for the purchase of video and game rental inventory. Net cash
generated from financing activities was approximately $6,470,000.
In March 1998 the Company completed the acquisition of Moovies, Inc.
("Moovies"). The Company issued approximately 9.3 million shares of Class A
Common Stock in exchange for Moovies common stock. The transaction was treated
as a tax-free exchange for federal income tax purposes and recorded under the
purchase method of accounting.
Simultaneous with the closing of the Moovies transaction, the Company
announced that a syndicate led by Banque Paribas had extended it a $120 million
senior credit facility (the "Senior Facility"). This Senior Facility replaced
the Company's previous line of credit. The Senior Facility consisted of the
following: (i) two term loans totaling $95 million; (ii) a $15 million capital
expenditure line; and, (iii) a $10 million revolving line. The Company borrowed
the $95 million of the two term loans in conjunction with the closing of the
merger and the proceeds were used to: (i) refinance approximately $35,000,000 of
outstanding indebtedness including accrued interest under the Company's previous
line of credit; (ii) refinance approximately $50,000,000 of indebtedness of
Moovies under Moovies' previous credit agreement; and (iii) pay transaction fees
and expenses relating to the merger of approximately $10,000,000, (including
legal fees, accounting fees, and registration fees). The capital expenditure
line was primarily available to fund the conversion of the acquired Moovies
stores and integration costs, the opening of new stores and selected
acquisitions.
During the second quarter of fiscal 1999, the Company and the bank
syndicate amended the terms of the Senior Facility to, among other things: (i)
reduce the Senior Facility from $120 million to $115 million; (ii) revise
certain financial covenants; (iii) modify the terms of the capital expenditure
line to allow usage for working capital needs; (iv) increase the overall
interest rate by 0.5%; (v) add consent fees of $600,000 payable August 12, 1998
and $575,000 payable on August 12, 1999; and (vi) reprice warrants held by the
bank syndicate to a more current market price. During the third quarter of
fiscal 1999, the Company and the bank syndicate amended the terms of the Senior
Facility to, among other things; (i) permit a sale-leaseback transaction; (ii)
defer the January 31, 1999 principal payments to March 12, 1999; and (iii)
increase the overall interest rate by 0.25%. During the fourth quarter of fiscal
1999, the Company and the bank syndicate amended the terms of the Senior
Facility to, among other things; (i) defer the March 12, 1999 principal payments
to May 31, 1999; (ii) revise certain financial covenants; and (iii) add a
consent fees of $57,500 due on April 30, 1999 and May 15, 1999.
Effective May 28, 1999, the Company and the bank syndicate amended the
terms of the Senior Facility to, among other things; (i) increase the overall
Senior Facility with a new tranche of C Term loans in the aggregate amount of
$10.5 million maturing June 2006, and bearing 12% interest; (ii) revise certain
financial covenants; (iii) revise and defer certain principal payments; (iv)
increase the overall interest rate by 0.75%; and (v) reflect the issuance of
7,481,250 warrants at $0.8719 per share expiring June 2006. The Company is using
proceeds of the new C Term loans for, among other things, the purchase of rental
inventory, payments related to expected store closings, trade payables, and debt
service. As of January 31, 2000, the Company had $15 million outstanding under
the capital expenditure line and $5 million outstanding under the revolving line
both of which are available to fund working capital needs. As of January 31,
2000 the Company had no further borrowing capacity available under its Senior
Facility. The Company believes that its relationship with the Senior Facility
lenders is satisfactory and that it would be able to obtain any necessary
waivers, amendments or modifications to the Senior Facility if the Company's
operating performance causes it to fall short of certain financial covenants in
the Senior Facility, although no assurances can be given. If the Company is
unable to maintain such a level of operations, it will be required to reduce its
overall expenditures and expansion plans to comply with the covenants and
requirements of the Senior Facility. Additionally, any failure by the Company to
maintain its level of operations within the covenants and requirements of the
Senior Facility could cause the Company to be in default thereunder, allowing
the lenders to take
13 of 17
<PAGE> 14
legal action against the Company, including but not limited to, the immediate
acceleration of payment of borrowed funds, which could materially and adversely
affect the Company's operations. The immediate acceleration of debt thereunder
or the lack of further borrowing capacity, in whole or in part, would have a
material adverse effect on the Company's operations and financial condition.
Amounts borrowed under the Senior Facility bear interest at variable
rates based on the "base rate" (i.e., the higher of the federal funds rate, plus
1/2 of 1% or the prime commercial lending rate) or the inter-bank Eurodollar
rate (approximately 8.0% and 5.83% per annum, respectively as of January 31,
2000) plus an applicable margin rate that could range from 0.5% to 5.25%.
Amounts currently outstanding at January 31, 2000 had a weighted average rate of
10.62%.
The Senior Facility includes negative, affirmative, and financial
covenants including, but not limited to, minimum free cash flow, consolidated
indebtedness to consolidated free cash flow, maximum leverage, minimum fixed
charge coverage, a prohibition or restriction on capital expenditures, debt and
guarantees, liens and encumbrances on any property, mergers, consolidations,
investments, advances, divestitures, change of business or conduct of business,
joint ventures, partnerships, the creation of new subsidiaries, dividends,
distributions, repurchases or redemptions of outstanding stock (including
options or warrants), the voluntary prepayment, repurchase redemption or
defeasance of debt, and the acquisition, sale or transfer, lease or
sale-leaseback of assets. The Senior Facility is secured by substantially all of
the Company's assets as well as by pledges of its stock in its subsidiaries,
which subsidiaries also have provided guarantees of the Company's obligations.
In May 1999, the Company issued Ingram Entertainment Inc., a supplier
of rental inventory ("Ingram"), a $14,000,000 subordinated promissory note in
respect to outstanding trade payable amounts from the Company. The note (the
"Ingram Note") bears interest at a rate of 12% per annum with principal and
interest payable monthly over three years. Simultaneous with the issuance of the
Ingram Note, the Company issued Ingram warrants to purchase 1,000,000 shares of
Class A Common Stock, at the then market price of $0.81 per share, which
warrants expire May 2004.
In September 1999, the Company settled its litigation with Sight &
Sound Distributors, Inc. ("Sight & Sound"). In connection with the settlement,
the Company has agreed to pay Sight & Sound an aggregate principal amount of
$6,500,000, with payments aggregating approximately $160,000 monthly over a
period of approximately three years. Interest on the unpaid balance will accrue
at a per annum rate of 8%.
During fiscal year 2000, the Company is proceeding with actions
intended to enhance prospects for revenue growth and profitability including the
closing of approximately 70 identified under-performing locations. The Company
continues to evaluate opportunities to reduce costs and improve revenues. The
Company has maintained a longstanding and satisfactory relationship with its
primary product vendors and has negotiated extended payment terms with several
of these vendors. The loss of its primary product vendors could have a material
adverse effect on the Company. The Company will continue to focus on reducing
the aged accounts payable with payments, the extension of terms, and negotiated
settlements. If the Company is unable to reduce the aged accounts payable to the
satisfaction of the trade creditors, it could have a material adverse effect on
the Company. Assuming the Company is able to maintain a satisfactory
relationship with its selected vendors, its bank lenders, and its trade
creditors, the Company expects that cash from operations, trade credits,
equipment leases, available revenue sharing arrangements, and available
borrowings under the Senior Facility will be sufficient to fund future inventory
purchases and other working capital needs for the next twelve months, although
no assurances can be given that the Company will not require additional sources
of financing as a result of disappointing operating results, or unanticipated
cash needs, or opportunities. Moreover, no assurances can be given that such
additional funds will be available on satisfactory terms, if at all. If the
Company is unable to obtain such additional financing, the Company may be
required to reduce its overall expenditures and the Company's ability to
maintain or expand its current level of operations could be materially and
adversely affected.
Mr. Bedard had issued a note to the Company (the "Recourse Note") in
connection with previous stock option exercises, for approximately $1,155,637,
respectively, including accrued interest through April 30, 1998. In fiscal 1999,
the Recourse Note accrued additional interest of $81,721 for a total Recourse
Note balance of $1,237,358. Previously, the Company's Board had approved the
accrual of a bonus to satisfy the Recourse Note, as well as the anticipated
payroll tax liability to Mr. Bedard. The Company expects to complete its
obligation with respect to Mr. Bedard's Recourse Note over the next nine months.
14 of 17
<PAGE> 15
The Company generally does not offer lines of credit or guarantees for
the obligations of its franchisees, although on occasion, the Company has made
short-term loans to current franchisees. The Company intends to evaluate the
possibility of providing loans or limited guarantees for certain franchisee
obligations, which in the aggregate are not expected to be material to the
Company's financial condition.
Substantially all Company-owned stores are in leased premises, except
for four stores that are located on premises owned by the Company. The Company
expects that most future stores will occupy leased premises.
In November 1998, the Company entered into a sale-leaseback arrangement
with respect to certain of its furniture, fixtures, equipment and signage used
in selected retail locations. Under the arrangement the Company obtained
approximately $5 million.
This Quarterly Report on Form 10-Q contains a number of forward looking
statements that involve risks and uncertainties. Any statements contained herein
(including without limitation statements to the effect that the Company or its
management "believes," "expects," "anticipates," "plans" and similar
expressions) that are not statements of historical fact should be considered
forward looking statements. Such statements are subject to the safe harbor
created by the Private Securities Litigation Reform Act of 1995. There are a
number of important factors that could cause the Company's results to differ
materially from those indicated by such forward looking statements including,
but not limited to, changes in business strategy or development plans, store
openings and closings, availability of products, availability of financing,
competition, management, ability to manage growth, loss of customers, weather
(particularly on weekends and holidays), consumer acceptance of new release
videocassette titles, and a variety of other factors, including risks and
uncertainties included in the Company's Annual Report on Form 10-K for the year
ended April 30, 1999. These factors include, without limitation, the following:
INFLATION
To date, inflation has not had a material effect on the Company's
business. The Company anticipates that its business will be affected by general
economic trends. Although the Company has not operated during a period of high
inflation, it believes that it would generally be able to pass increased costs
resulting from inflation on to customers.
SEASONALITY AND QUARTERLY FLUCTUATIONS
The video rental industry generally experiences revenue declines in
April and May, due in part to the change to Daylight Savings Time and to
improved weather, and in September and October, due in part to school openings
and the introduction of new network and cable television programs.
The Company's video rental business may be affected by other factors,
including acquisitions by the Company of existing video stores, additional and
existing competition, marketing programs, weather, special or unusual events,
variations in the number of superstore openings, and other factors that may
affect retailers in general.
The Company depends significantly on availability and consumer
acceptance of new release videocassette titles available for rental. To the
extent that available new release titles fail to stimulate consumer interest and
retail traffic, operating results could be materially adversely affected.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is subject to interest rate risk associated with its debt
instruments. The market risk inherent in the Company's debt instruments
represents the increased interest costs arising from adverse changes in interest
rates (primarily LIBOR and prime bank rates). The Company is party to financial
instruments with off-balance-sheet risk which are entered into in the normal
course of business to meet its financing needs and to manage its exposure to
fluctuations in market rates. These financial instruments include swap
agreements and interest rate caps. The instruments involve, to a varying degree,
elements of credit and market risk in addition to amounts recognized in the
financial statements. The Company does not hold or issue financial instruments
for trading purposes. For further information, refer to the consolidated
financial statements and footnotes thereto included in the Company's annual
report on Form 10-K for the year ended April 30, 1999.
15 of 17
<PAGE> 16
The Company operates internationally in Canada, and thus is subject to
potentially adverse movements in foreign exchange currency rate changes. The
Company does not enter into foreign exchange forward contracts to reduce its
exposure to foreign currency rate changes on inter-company foreign currency
denominated balance sheet positions. Historically, the effect of movements in
the exchange rates have been immaterial to the consolidated operating results of
the Company.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In connection with the acquisition of the assets of Videoland, Inc.
("Videoland") in November 1995, the Company issued 239,163 shares of its Class A
Common Stock (the "Videoland Shares") to the sellers of the assets of Videoland
(the "Videoland Sellers"). With respect to the Videoland Shares, the Company
agreed to make a deficiency payment in October 1996 to the Videoland Sellers if
the gross proceeds received by such sellers from the sale of the Videoland
Shares during the six months from March 1996 through September 1996 is not equal
to the number of shares of Videoland Shares sold multiplied by $12.00. The
Videoland Sellers were subject to certain "lockup" or sale restrictions as a
condition to any deficiency payment. The Company initiated an action in federal
district court in Minnesota for a declaratory judgment that the Videoland
Sellers are not entitled to any deficiency payment in light of the failure by
such sellers to comply with the lockup or sale restrictions. In January 1998,
the court entered a judgment, payable in the Company's stock or cash, against
the Company in the amount of $1,220,403 plus interest from October 1996, and
attorney's fees. The Company appealed the judgment to the Eighth Circuit. The
appeal was denied. The Company is exploring further avenues of relief, including
but not limited to the satisfaction of a portion of the judgment by a transfer
of the Company's stock. A variety of aspects of such a settlement are now
subject to litigation in the federal district court of Minnesota, the outcome of
which no assurances can be given. The foregoing description is qualified in its
entirety by reference to the full text of the complaint and papers on file in
the action (Case No. 3-96 735).
In May 1998, Rousnam Video, Inc., a Michigan corporation and Hani (Al)
Monsour (collectively "Monsour") filed a lawsuit in state court (Macomb County,
Michigan) claiming amounts due pursuant to post-closing adjustments contemplated
in connection with an Asset Purchase Agreement among Monsour and Moovies, Inc.
dated as of March 14, 1997, and the alleged default on a Promissory Note among
Monsour and Moovies, Inc. in the amount of $2,000,000 which is currently
reflected in notes payable. The trial court has ruled in favor of the plaintiffs
on a motion for summary judgment, and a judgment for $2,370,195 has been entered
against the Company. The Company believes it has meritorious grounds for its
appeal which is currently pending, although assurances cannot be given as to the
outcome of such action. The foregoing description is qualified in its entirety
by reference to the full text of the complaint and papers on file in the action
(Case No. 98-1998-CK).
In August 1998, the Company filed suit in federal court in Oregon
against Rentrak Corporation, an Oregon Corporation. The Company alleges that
Rentrak has violated the federal antitrust law, given Rentrak's position in the
market and its exercise of monopoly power. Rentrak has counter-claimed for
amounts it alleges were owed by Moovies, Inc. prior to the acquisition of
Moovies, Inc. by the Company; the Company has denied that any sums are due.
Discovery in the matter is now scheduled to be completed in June 2000. The
Company intends to pursue its claims aggressively, although assurances cannot be
given as to the outcome of this matter. The foregoing description is qualified
in its entirety by reference to the full text of the complaint and papers on
file in the action (Case No. CV 98-1013-HA).
On June 20, 1999, Allen Industries, Inc. ("Allen"), a North Carolina
corporation, filed a lawsuit against the Company claiming approximately $3
million in unpaid invoices arising out of the conversion of various Moovies
stores. The parties have reached a settlement in this matter which reduced the
net amount due to Allen to $1.3 million. The foregoing description is
qualified in its entirety by reference to the full text of the complaint and
papers on file in the action (Case No. 1:99CV640).
Video Update is currently in the process of an Internal Revenue Service
("IRS") audit. As with any audit, certain issues have been raised by the IRS for
more detailed review and examination. Because the audit is still incomplete, the
resolution of these or future issues and their impact on the Company's financial
condition and results of operations cannot be determined at this time.
16 of 17
<PAGE> 17
In addition to the above, the Company is involved in various legal
proceedings arising during the normal course of conducting business. Management
believes that the resolution of these proceedings will not have any material
adverse impact on the Company's financial statements.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
A. Exhibits. The following exhibits are filed herewith:
<TABLE>
<CAPTION>
Exhibit No. Title
----------- -----
<S> <C>
10 Employment Agreement of Michael Gebauer
27 Financial Data Schedule
</TABLE>
B. Reports on Form 8-K. The Company did not file any Current
Reports or amendments on Form 8-K during the fiscal quarter
covered by this report.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
VIDEO UPDATE, INC.
Date: March 16, 2000 By: /s/ Daniel A. Potter
-----------------------------------------
DANIEL A. POTTER,
Chief Executive Officer and
Chairman of the Board of Directors
Date: March 16, 2000 By: /s/ Michael P. Gebauer
-----------------------------------------
MICHAEL P. GEBAUER,
Chief Financial Officer
17 of 17
<PAGE> 1
EXHIBIT NO. 10
EMPLOYEE AGREEMENT
TO: Michael Gebauer October 1, 1999
New York
This agreement is intended to state the terms of your employment with
Video Update, Inc., a Delaware corporation (the "Company"). It is executed in
connection with and in consideration of the restatement of your employment
arrangements with the Company. The Company hereby agrees with you as follows:
1. POSITION AND RESPONSIBILITIES.
1.1 You shall serve as Chief Financial Officer and for the
Company and shall perform the duties customarily associated with such capacity
from time to time and at such place or places as the Company shall designate are
appropriate and necessary in connection with such employment.
1.2 You will, to the best of your ability, devote your full
time (as described in Exhibit A) and best efforts to the performance of your
duties hereunder and the business and affairs of the Company. Subject to Section
2.5 hereof, you agree to perform such executive duties as may be assigned to you
by the CEO or on authority of the Company's Board of Directors from time to
time.
1.3 You will duly, punctually and faithfully perform and
observe any and all rules and regulations which the Company may now or shall
hereafter establish governing the conduct of its business.
2. TERM OF EMPLOYMENT.
2.1 The term of this Agreement shall be for the period of
years set forth on Exhibit A annexed hereto commencing with the date hereof.
Thereafter, this Agreement shall be automatically renewed for successive periods
of one year, unless you or the Company shall give the other party not less than
sixty (60) days written notice of non-renewal and, if the Company provides
notice of non-renewal or if you terminate your employment for Good Reason (as
hereinafter defined), the Company shall pay you severance pay and continue your
benefits in accordance with Section 2.2(b) hereof. Your employment with the
Company may be terminated at any time as provided in Section 2.2, 2.4 or 2.5 of
this Agreement.
2.2 The Company, by vote of the majority of the Board of
Directors then in office, shall have the right, on Notice of Termination (as
hereinafter defined) to you, to terminate your employment:
<PAGE> 2
(A) immediately at any time for Cause, as
hereinafter defined; or
(B) at any time without Cause, or by not renewing
this Agreement pursuant to Section 2.1 hereof, provided that if your
termination is without Cause or if you terminate your employment for
Good Reason, the Company shall be obligated to pay to you as severance
pay an amount equal to twelve (12) month's Base Salary at the then
current level (as set forth on Exhibit A attached hereto), less
applicable taxes and other required withholdings and any amounts you
may owe to the Company, provided that the Company, at its cost and
expense, shall continue in full force and effect for twelve (12)
months, all health, insurance, automobile allowances and any other
fringe benefits (including health and disability insurance and such
other benefits as are set forth on Exhibit A) that you enjoyed at the
time of your termination.
2.3 For purposes of Section 2.2, the term "Cause" shall
mean:
(A) Your intentional failure or refusal to perform
the services specified herein, or to carry out any reasonable and
lawful directions of the Company with respect to the services to be
rendered or the manner of rendering such services by you (unless such
failure or refusal is for Good Reason, as hereinafter defined, in which
event the provisions of Section 2.5 of this Agreement shall govern);
provided, however, that (i) such failure or refusal is material and
repetitive, and (ii) prior to effecting your termination you have been
given reasonable notice and explanation of each refusal or failure, and
reasonable opportunity to cure such refusal or failure, and no cure has
been effected within a reasonable time after notice;
(B) conviction of a felony;
(C) fraud or embezzlement involving the assets of
the Company, its customers, suppliers or affiliates;
(D) inability for a continuous period of at least
one hundred and eighty (180) days to perform duties hereunder due to a
physical or mental disability, whether or not related to habitual use
of alcohol or illicit substances, that is incapable of reasonable
accommodation under applicable law, including but not limited to, the
Americans with Disabilities Act of 1990, as amended; or
(E) breach of any term of this Agreement other
than as noted in (a) above;
provided, however, that prior to any such termination, you have had a reasonable
opportunity to be heard thereon. Further, any dispute, controversy, or claim
arising out of, in connection with, or in relation to this definition of Cause
shall be settled by arbitration in St. Paul, Minnesota, pursuant to the rules
then obtaining of the American Arbitration Association. Any award or
determination shall be final, binding, and conclusive upon the parties, and a
judgment rendered may be entered in any court having jurisdiction thereof.
-2-
<PAGE> 3
2.4 Subject to Section 2.5, you shall have the right to
terminate this Agreement upon not less than ninety (90) days prior Notice of
Termination to the Company.
2.5 (A) You may terminate your employment for "Good Reason"
on five (5) days Notice of Termination to the Company. For purposes of this
Agreement, "Good Reason" shall mean the occurrence after a Change in Control, as
hereinafter defined, of any of the events or conditions described below:
(I) a change in your status, title, position or
responsibilities (including reporting responsibilities) which, in your
reasonable judgment, represents an adverse change from your status, title,
position or responsibilities as in effect immediately prior to a Change in
Control; the assignment to you of any duties or responsibilities which, in your
reasonable judgment, are inconsistent with your status, title, position or
responsibilities; or any removal of you except in connection with the
termination of your employment for disability, Cause, as a result of your death
or by you other than for Good Reason;
(II) a reduction in your Base Salary or any failure
to pay you any compensation or benefits to which you are entitled within five
days of the date due;
(III) the Company's requiring you to be based at any
place outside a 15-mile radius from St. Paul, Minnesota, except for reasonably
required travel on the Company's business which is not greater than such travel
requirements prior to a Change in Control;
(IV) the failure by the Company to (A) continue in
effect (without reduction in benefit level, and/or reward opportunities) any
material compensation or employee benefit plan in which you were participating
immediately prior to a Change in Control, including, but not limited to, the
plans listed on the Exhibit A, unless a substitute or replacement plan has been
implemented that provides substantially identical compensation or benefits to
you or (B) provide you with compensation and benefits, in the aggregate, at
least equal (in terms of benefit levels and/or reward opportunities) to those
provided for under each other compensation or employee benefit plan, program and
practice as in effect at any time within ninety (90) days preceding a Change in
Control or at any time thereafter;
(V) any material breach by the Company of any
provision of this Agreement;
(VI) any purported termination of your employment
for Cause by the Company which does not comply with the terms of this Section
2; or
(VII) the failure of the Company to obtain an
agreement, satisfactory to you, from any successor or assign of the Company to
assume and agree to perform this Agreement, as contemplated hereof.
(B) Any event or condition described in Section 2.5(a)
(i) through (vii) which occurs prior to a Change in Control, but which you
reasonably demonstrate (A) was at the
-3-
<PAGE> 4
request of a third party who has indicated an intention or taken steps
reasonably calculated to effect a Change in Control (a "Third Party"), or (B)
otherwise arose in connection with, or in anticipation of a Change in Control,
shall constitute Good Reason for purposes of this Agreement, notwithstanding
that it occurred prior to the Change in Control.
(C) Your right to terminate your employment pursuant to
this Section 2.5 shall not be affected by your incapacity due to physical or
mental illness.
(D) The Company shall reimburse you, on a current
basis, for all reasonable legal fees and related expenses incurred by you in
connection with the Agreement following a Change in Control of the Company,
including without limitation, (i) all such fees and expenses, if any, incurred
in contesting or disputing any termination of your employment or (ii) your
seeking to obtain or enforce any right or benefit provided by this Agreement, in
each case, regardless of whether or not your claim is upheld by a court of
competent jurisdiction; provided, however, you shall be required to repay any
such amounts to the Company to the extent that a court issues a final and
non-appealable order setting forth the determination that the position taken by
you was frivolous or advanced by you in bad faith.
2.6 For purposes of this Agreement, a "Change in Control"
shall mean any of the following events:
(A) An acquisition (other than directly from the
Company) of any voting securities of the Company (the "Voting Securities") by
any "Person" (as the term person is used for purposes of Section 13(d) or 14(d)
of the Securities Exchange Act of 1934, as amended (the "Exchange Act")),
immediately after which such Person has "Beneficial Ownership" (within the
meaning of Rule 13d-3 promulgated under the Exchange Act) of fifteen percent
(15%) or more of the combined voting power of the Company's then outstanding
Voting Securities; provided, however, in determining whether a Change in Control
has occurred, Voting Securities that are acquired in a "Non-Control Acquisition"
(as hereinafter defined) shall not constitute an acquisition that would cause a
Change in Control. A "Non-Control Acquisition" shall mean an acquisition by (i)
an employee benefit plan (or a trust forming a part thereof) maintained by (A)
the Company or (B) any corporation or other Person of which a majority of its
voting power or its voting equity securities or equity interest is owned,
directly or indirectly, by the Company (for purposes of this definition, a
"Subsidiary"), (ii) the Company or its Subsidiaries, or (iii) any Person in
connection with a "Non-Control Transaction," as hereinafter defined;
(B) The individuals who, as of, 1-October-1999 are
members of the Company's Board of Directors (the "Incumbent Board"), cease for
any reason to constitute at least one-half of the members of the Board;
provided, however, that if the election, or nomination for election by the
Company's common stockholders, of any new director was approved by a vote of at
least two-thirds of the Incumbent Board, such new director shall, for purposes
of this Plan, be considered as a member of the Incumbent Board; provided
further, however, that no individual shall be considered a member of the
Incumbent Board if such individual initially assumed office as a result of
either an actual or threatened "Election Contest" (as described in Rule 14a-11
promulgated under the Exchange Act) or other actual or threatened solicitation
of proxies or consents by or on behalf of a Person other than the Board (a
"Proxy Contest")
-4-
<PAGE> 5
including by reason of any agreement intended to avoid or settle any Election
Contest or Proxy Contest; or
(C) Approval by stockholders of the Company of:
(I) A merger, consolidation or reorganization
involving the Company, unless such merger, consolidation or reorganization is a
"Non-Control Transaction." A "Non-Control Transaction" shall mean a merger,
consolidation or reorganization of the Company where:
(A) the stockholders of the Company,
immediately before such merger, consolidation or reorganization, own directly or
indirectly immediately following such merger, consolidation or reorganization,
at least eighty-five percent (85%) of the combined voting power of the
outstanding voting securities of the corporation resulting from such merger or
consolidation or reorganization (the "Surviving Corporation") in substantially
the same proportion as their ownership of the Voting Securities immediately
before such merger, consolidation or reorganization,
(B) the individuals who were members of
the Incumbent Board immediately prior to the execution of the agreement
providing for such merger, consolidation or reorganization constitute at least
two-thirds of the members of the board of directors of the Surviving
Corporation, or a corporation beneficially directly or indirectly owning a
majority of the Voting Securities of the Surviving Corporation, and
(C) no Person other than (I) the
Company, (II) any Subsidiary, (iii) any employee benefit plan (or any trust
forming a part thereof) maintained by the Company, the Surviving Corporation, or
any Subsidiary, or (IV) any Person who, immediately prior to such merger,
consolidation or reorganization had Beneficial Ownership of fifteen percent
(15%) or more of the then outstanding Voting Securities), has Beneficial
Ownership of fifteen percent (15%) or more of the combined voting power of the
Surviving Corporation's then outstanding voting securities.
(II) A complete liquidation or dissolution of
the Company; or
(III) An agreement for the sale or other
disposition of all or substantially all of the assets of the Company to any
Person (other than a transfer to a Subsidiary).
(D) Notwithstanding the foregoing, a Change in Control
shall not be deemed to occur solely because any Person (the "Subject Person")
acquired Beneficial Ownership of more than the permitted amount of the then
outstanding Voting Securities as a result of the acquisition of Voting
Securities by the Company which, by reducing the number of Voting Securities
then outstanding, increases the proportional number of shares Beneficially Owned
by the Subject Person, provided that if a Change in Control would occur (but for
the operation of this sentence) as a result of the acquisition of Voting
Securities by the Company, and after such share acquisition by the Company, the
Subject Person becomes the Beneficial
-5-
<PAGE> 6
Owner of any additional Voting Securities that increases the percentage of the
then outstanding Voting Securities Beneficially Owned by the Subject Person,
then a Change in Control shall occur.
2.7 For purposes of this Agreement, a "Notice of
Termination" shall mean a written notice that indicates the specific termination
provision in this Agreement, if any, relied upon and shall set forth in
reasonable detail the facts and circumstances claimed to provide a basis for
termination of your employment under the provision so indicated. Any purported
termination by the Company or by you shall be communicated by Notice of
Termination to the other. For purposes of this Agreement, no such purported
termination of employment shall be effective without such Notice of Termination.
2.8 For purposes of this Agreement, "Termination Date" shall
mean in the case of your death, your date of death, or in all other cases, the
date specified in the Notice of Termination subject to the following:
(A) If your employment is terminated by the Company
due to disability, the date specified in the Notice of Termination shall be at
least one hundred and eighty (180) days from the date the Notice of Termination
is given to you, provided that in the case of disability you shall not have
returned to the full-time performance of your duties during such period of at
least one hundred and eighty (180) days; and
(B) If your employment is terminated for Good Reason,
the date specified in the Notice of Termination shall not be more than sixty
(60) days from the date the Notice of Termination is given to the Company.
2.9 You shall not be required to mitigate the amount of any
payment the Company becomes obligated to make to you in connection with this
Agreement, by seeking other employment or otherwise, nor shall any other
employment be considered mitigation with respect to any amounts owed to you
hereunder.
2.10 Notwithstanding any other provision of this Agreement,
in the event that any payment or benefit received or to be received by you as a
result of or in connection with a Change in Control, whether pursuant to the
terms of this Agreement or any other plan, arrangement or agreement with the
Company (all such payment and benefits being hereinafter called the "Total
Payments") would subject you to the excise tax (the "Excise Tax") imposed under
Section 4999 of the Internal Revenue Code of 1986, as amended (the "Code"),
then, at your written request and to the extent necessary to eliminate any such
imposition of the Excise Tax (after taking into account any reduction in the
Total Payments in accordance with the provisions of any other plan, arrangement
or agreement, if any), (a) any non-cash severance payments otherwise payable to
you shall first be reduced (if necessary, to zero), and (b) any cash severance
payment otherwise payable to you shall next be reduced. For purposes of the
immediately preceding sentence, (i) no portion of the Total Payments the receipt
or enjoyment of which you shall have effectively waived in writing shall be
taken into account, (ii) no portion of the Total Payment shall be taken into
account which in the opinion of nationally-recognized tax counsel or certified
public accountants (in each case as selected by you) does not constitute a
-6-
<PAGE> 7
"parachute payment" within the meaning of Section 280G of the Code, including,
without limitation, by reason of Section 280G(b)(2) or (b)(4)(A) of the Code,
(iii) any payments to you shall be reduced only to the extent necessary so that
the Total Payments (other than those referred to in clauses (i) and (ii)) in
their entirety constitute reasonable compensation for services actually rendered
within the meaning of section 280G(4)(B) of the Code or are otherwise not
subject to disallowance as deductions, in the opinion of the tax counsel or the
accountants referred to in clause (ii); and (iv) the value of any non-cash
benefit or any deferred payment or benefit included in the Total Payments shall
be determined by such accountants in accordance with the requirements of section
280G(d)(3) and (4) of the Code (and such determination shall be reviewed by such
tax counsel).
2.11 Upon your written request, the Company shall promptly
establish a grantor "rabbi" trust to provide a source of payment for any
payments which may become due pursuant to this Section 2. Such trust shall be
funded immediately prior to any Change in Control. Except as specifically
provided in this Agreement, the amount of any payment provided for in this
Section 2 shall not be reduced, offset or subject to recovery by the Company by
reason of any compensation earned by you as the result of employment by another
employer after the date of termination of your employment, or otherwise.
3. COMPENSATION. You shall receive the compensation and benefits
set forth on Exhibit A hereto ("Compensation") for all
services to be rendered by you hereunder.
4. OTHER ACTIVITIES DURING EMPLOYMENT.
4.1 You hereby agree that, except as disclosed on Exhibit B
hereto, during your employment hereunder, you will not, directly or indirectly,
engage (a) individually, (b) as an officer, (c) as a director, (d) as an
employee, (e) as a consultant, (f) as an advisor, (g) as an agent (whether a
salesperson or otherwise), (h) as a broker, or (i) as a partner, coventurer,
stockholder or other proprietor owning directly or indirectly more than one
percent (1%) interest in any firm, corporation, partnership, trust, association,
or other organization that is engaged in the development, marketing or sales of
videocassettes or video games in direct geographical competition with the
Company or any other line of business engaged in by the Company (such firm,
corporation, partnership, trust, association, or other organization being
hereinafter referred to as a "Prohibited Enterprise"). Except as may be shown on
Exhibit B hereto, you hereby represent that you are not engaged in any of the
foregoing capacities (a) through (i) in any Prohibited Enterprise.
5. FORMER EMPLOYERS. You represent and warrant that your
employment by the Company will not conflict with and will not be constrained by
any prior or current employment, consulting agreement or other relationship
whether oral or written. You represent and warrant that you do not possess
confidential information arising out of any such employment, consulting
agreement or relationship which, in your best judgment, would be utilized in
connection with your employment by the Company.
-7-
<PAGE> 8
6. PROPRIETARY INFORMATION AND INVENTIONS. You agree to execute,
deliver and be bound by the provisions of the Proprietary Information and
Inventions Agreement attached hereto as Exhibit C.
7. POST-EMPLOYMENT ACTIVITIES.
7.1 For a period of three (3) years (or for a lesser period
should the Company so determine) after the termination or expiration of your
employment with the Company hereunder (for any reason other than termination by
you for Good Reason) absent the Company's prior written approval, you will not
directly or indirectly engage in activities similar or reasonably related to
those in which you shall have engaged hereunder during the two years immediately
preceding termination or expiration for, nor render services similar or
reasonably related to those which you shall have rendered hereunder during such
two years to, any person or entity whether now existing or hereafter established
which directly geographically competes with the Company ("Direct Competitor") in
any line of business currently engaged in by the Company. Nor shall you entice,
induce or encourage any of the Company's other employees to engage in any
activity which, were it done by you, would violate any provision of the
Proprietary Information and Inventions Agreement or this Section 7. As used in
this Section 7.1, the term "any line of business currently engaged in by the
Company" shall be applied as at the date of termination of your employment, or,
if later, as at the date of termination of any post-employment consultation.
7.2 No provision of this Agreement shall be construed to
preclude you from performing the same services which the Company hereby retains
you to perform for any person or entity which is not a Direct Competitor of the
Company upon the expiration or termination of your employment (or any
post-employment consultation) so long as you do not thereby violate any term of
the Proprietary Information and Inventions Agreement.
8. REMEDIES. Your obligations under the Proprietary Information
and Inventions Agreement and the provisions of Sections 4, 5, 6 and 7 of this
Agreement shall survive the expiration or termination of your employment
(whether through your resignation or otherwise, except as provided in Section 7)
with the Company. The Company's obligations under Section 2 of this Agreement
shall survive the expiration or termination of your employment. You acknowledge
that a remedy at law for any breach or threatened breach by you of the
provisions of the Proprietary Information and Inventions Agreement or Section 7
would be inadequate and you therefore agree that the Company shall be entitled
to injunctive relief in case of any such breach or threatened breach.
9. ASSIGNMENT. This Agreement and the rights and obligations of
the parties hereto shall bind and inure to the benefit of any successor or
successors of the Company by reorganization, merger or consolidation and any
assignee of all or substantially all of its business and properties, but, except
as to any such successor or assignee of the Company, neither this Agreement nor
any rights or benefits hereunder may be assigned by the Company or by you,
except by operation of law and subject to Section 2.5(a)(ix).
-8-
<PAGE> 9
10. INTERPRETATION. IT IS THE INTENT OF THE PARTIES THAT in case
any one or more of the provisions contained in this Agreement shall, for any
reason, be held to be invalid, illegal or unenforceable in any respect, such
invalidity, illegality or unenforceability shall not affect the other provisions
of this Agreement, and this Agreement shall be construed as if such invalid,
illegal or unenforceable provision had never been contained herein. MOREOVER, IT
IS THE INTENT OF THE PARTIES THAT in case any one or more of the provisions
contained in this Agreement shall for any reason be held to be excessively broad
as to duration, geographical scope, activity or subject, such provision shall be
construed by limiting and reducing it as determined by a court of competent
jurisdiction, so as to be enforceable to the extent compatible with applicable
law.
11. NOTICES. Any notice which the Company is required to or may
desire to give you shall be given by personal delivery or registered or
certified mail, return receipt requested, addressed to you at your address of
record with the Company, or at such other place as you may from time to time
designate in writing. Any notice which you are required or may desire to give to
the Company hereunder shall be given by personal delivery or by registered or
certified mail, return receipt requested, addressed to the Company at its
principal office, or at such other office as the Company may from time to time
designate in writing. The date of personal delivery or the date of making any
notice under this Section 11 shall be deemed to be the date of delivery thereof.
12. WAIVERS. If either party should waive any breach of any
provision of this Agreement, such party shall not thereby be deemed to have
waived any preceding or succeeding breach of the same or any other provision of
this Agreement.
13. COMPLETE AGREEMENT; AMENDMENTS. The foregoing, including
Exhibits A, B and C attached hereto, is the entire agreement of the parties with
respect to the subject matter hereof, superseding any previous oral or written
communications, representations, understandings, or employment agreements with
the Company or any officer or representative thereof. Any amendment to this
Agreement or waiver by the Company of any right hereunder shall be effective
only if evidenced by a written instrument executed by the parties hereto, upon
authorization of the Company's Board of Directors.
14. HEADINGS. The headings of the Sections hereof are inserted for
convenience and shall not be deemed to constitute a part hereof nor to affect
the meaning of this Agreement in any way.
15. COUNTERPARTS. This Agreement may be signed in two
counterparts, each of which shall be deemed an original and both of which
together shall constitute one agreement.
16. GOVERNING LAW. This Agreement shall be governed by and
construed under the internal laws of the State of Minnesota, excluding its
conflict of law principles.
17. INDEPENDENT ADVICE. You hereby acknowledge that you have been
advised of the opportunity available to you to seek and obtain the advice of
legal counsel and financial advisors of your own choosing prior to and in
connection with your execution of this Agreement.
-9-
<PAGE> 10
In addition, you hereby affirm that you have either obtained such advice or
knowingly and willingly decided to forego the opportunity to avail yourself of
such advice.
If you are in agreement with the foregoing, please sign your name below
and also at the bottom of the Proprietary Information and Inventions Agreement,
whereupon this Agreement shall become binding in accordance with their terms.
Please then return this Agreement to the Company. (You may retain for your
records the accompanying counterpart of this Agreement enclosed herewith).
Very truly yours,
VIDEO UPDATE, INC.
By: /s/ Daniel A. Potter
-------------------------------------
Title: Chief Executive Officer
----------------------------------
Accepted and Agreed:
/s/ Michael P. Gebauer
- -----------------------------
Michael P. Gebauer
-10-
<PAGE> 11
EXHIBIT A
EMPLOYMENT TERM, COMPENSATION AND BENEFITS
OF
MICHAEL P. GEBAUER
1. TERM. The term of the Agreement to which this Exhibit A is annexed and
incorporated shall be from October 1, 1999 through June 1, 2002.
2. COMPENSATION.
(A) BASE SALARY. Your Base Salary shall be $248,000 per annum,
payable in accordance with the Company's payroll policies
(monthly).
(B) BONUSES. You shall be entitled to such bonuses and salary
increases as the Board of Directors may determine.
3. VACATIONS. You shall be entitled to all legal and religious holidays, and
paid vacation in accordance with the Company's employee manual, as amended
from time to time.
4. INSURANCE AND BENEFITS. You shall be eligible for participation in all
health and insurance benefit plans that may be established by the Company
or which the Company is required to maintain by law. You shall also be
entitled to participate in any employee benefit programs which the Company
may establish for its key employees or for its employees generally,
including, but not limited to other insurance policies, bonuses and stock
purchase or option plans.
5. EXPENSES. The Company shall reimburse you for all reasonable and ordinary
business expenses incurred by you in the scope of your employment
hereunder, including without limitation, travel expenses for yourself, and
so long as (and only to the extent that) related to a legitimate business
purpose, your spouse/companion and your children.
6. FULL TIME. To be entitled to the benefits described in the Agreement to
which this Exhibit is annexed and incorporated, you shall devote 100% of
your working time to the Company.
7. AUTOMOBILE ALLOWANCE. The Company shall provide you an annual automobile
allowance (which amount shall be used only to cover lease payments,
maintenance, insurance and fuel) equal to ten percent (10%) of your cash
compensation, as such amount may be adjusted from time to time in the
discretion of the Company's Board of Directors.
<PAGE> 12
EXHIBIT B
OUTSIDE EMPLOYMENTS AND DIRECTORSHIPS
OF
MICHAEL P. GEBAUER
----------------------
<PAGE> 13
EXHIBIT C
PROPRIETARY INFORMATION AND INVENTIONS AGREEMENT
As of October 1, 1999
TO: Video Update, Inc.
3100 World Trade Center
30 East Seventh Street
St. Paul, Minnesota 55101
The undersigned, in consideration of and as a condition of my services
to you and/or to companies which you own, control, or are affiliated with or
their successors in business (collectively, the "Company"), hereby agrees as
follows (capitalized terms used herein but not otherwise defined shall have the
meanings ascribed to them in the Employment Agreement between myself and the
Company, dated October 1, 1999):
1. CONFIDENTIALITY. I agree to keep confidential, except as the
Company may otherwise consent in writing, and, except for the Company's benefit,
not to disclose or make any use of at any time either during or subsequent to my
employment (unless I terminate my employment for Good Reason), any Inventions
(as hereinafter defined), trade secrets, confidential information, knowledge,
data or other information of the Company relating to products, processes,
know-how, designs, formulas, test data, customer lists, business plans,
marketing plans and strategies, pricing strategies, or other subject matter
pertaining to any business of the Company or any of its affiliates, which I may
produce, obtain, or otherwise acquire during the course of my employment, except
as herein provided. I further agree not to deliver, reproduce or in any way
allow any such trade secrets, confidential information, knowledge, data or other
information, or any documentation relating thereto, to be delivered to or used
by any third parties without specific direction or consent of a duly authorized
representative of the Company.
2. CONFLICTING EMPLOYMENT; RETURN OF CONFIDENTIAL MATERIAL. I agree
that during my employment with the Company I will not engage in any other
employment, occupation, consulting or other activity relating to the business in
which the Company is now or may hereafter become engaged, or which would
otherwise conflict with my obligations to the Company. In the event my
employment with the Company terminates for any reason whatsoever (unless I
terminate my employment for Good Reason), I agree to promptly surrender and
deliver to the Company all records, materials, equipment, drawings, documents
and data of which I may obtain or produce during the course of my employment,
and I will not take with me any description containing or pertaining to any
confidential information, knowledge or data of the Company which I may produce
or obtain during the course of my employment.
<PAGE> 14
3. ASSIGNMENT OF INVENTIONS.
3.1 I hereby acknowledge and agree that the Company is the
owner of all Inventions. In order to protect the Company's rights to such
Inventions, by executing this Agreement I hereby irrevocably assign to the
Company all my right, title and interest in and to all Inventions to the
Company.
3.2 For purposes of this Agreement, "Inventions" shall mean
all discoveries, processes, designs, technologies, devices, or improvements in
any of the foregoing or other ideas, whether or not patentable and whether or
not reduced to practice, made or conceived by me (whether solely or jointly with
others) during the period of my employment with the Company which relate in any
manner to the actual or demonstrably anticipated business, work, or research and
development of the Company, or result from or are suggested by any task assigned
to me or any work performed by me for or on behalf of the Company.
3.3 Any discovery, process, design, technology, device, or
improvement in any of the foregoing or other ideas, whether or not patentable
and whether or not reduced to practice, made or conceived by me (whether solely
or jointly with others) which I develop entirely on my own time not using any of
the Company's equipment, supplies, facilities, or trade secret information
("Personal Invention") is excluded from this Agreement provided such Personal
Invention (a) does not relate to the actual or demonstrably anticipated
business, research and development of the Company, and (b) does not result,
directly or indirectly, from any work performed by me for the Company.
4. DISCLOSURE OF INVENTIONS. I agree that in connection with any
Invention, I will promptly disclose such Invention to the Board of Directors of
the Company in order to permit the Company to enforce its property rights to
such Invention in accordance with this Agreement. My disclosure shall be
received in confidence by the Company.
5. PATENTS AND COPYRIGHTS; EXECUTION OF DOCUMENTS.
5.1 Upon request, I agree to assist the Company or its nominee
(at its expense) during and at any time subsequent to my employment in every
reasonable way to obtain for its own benefit patents and copyrights for
Inventions in any and all countries. Such patents and copyrights shall be and
remain the sole and exclusive property of the Company or its nominee. I agree to
perform such lawful acts as the Company deems to be necessary to allow it to
exercise all right, title and interest in and to such patents and copyrights.
5.2 In connection with this Agreement, I agree to execute,
acknowledge and deliver to the Company or its nominee upon request and at its
expense all documents, including assignments of title, patent or copyright
applications, assignments of such applications, assignments of patents or
copyrights upon issuance, as the Company may determine necessary or desirable to
protect the Company's or its nominee's interest in Inventions, and/or to use in
C-2
<PAGE> 15
obtaining patents or copyrights in any and all countries and to vest title
thereto in the Company or its nominee to any of the foregoing.
6. MAINTENANCE OF RECORDS. I agree to keep and maintain adequate and
current written records of all Inventions made by me (in the form of notes,
sketches, drawings, flowcharts and other records as may be specified by the
Company), which records shall be available to and remain the sole property of
the Company at all times.
7. PRIOR INVENTIONS. It is understood that all Personal Inventions,
if any, whether patented or unpatented, which I made prior to my association
with the Company, are excluded from this Agreement. To preclude any possible
uncertainty, I have set forth on Schedule A attached hereto a complete list of
all of my prior Personal Inventions, including numbers of all patents and patent
applications and a brief description of all unpatented Personal Inventions which
are not the property of a previous employer. I represent and covenant that the
list is complete and that, if no items are on the list, I have no such prior
Personal Inventions. I agree to notify the Company in writing before I make any
disclosure or perform any work on behalf of the Company which appears to
threaten or conflict with proprietary rights I claim in any Personal Invention.
In the event of my failure to give such notice, I agree that I will make no
claim against the Company with respect to any such Personal Invention.
8. OTHER OBLIGATIONS. I acknowledge that the Company from time to
time may have agreements with other persons or with the U.S. Government or
agencies thereof, which impose obligations or restrictions on the Company
regarding Inventions made during the course of work thereunder or regarding the
confidential nature of such work. I agree to be bound by all such obligations
and restrictions and to take all action necessary to discharge the Company's
obligations.
9. TRADE SECRETS OF OTHERS. I represent that my performance of all
the terms of this Agreement and as an employee of the Company does not and will
not breach any agreement to keep confidential proprietary information, knowledge
or data acquired by me in confidence or in trust prior to my services to the
Company, and I will not disclose to the Company, or induce the Company to use,
any confidential or proprietary information or material belonging to any
previous client, employer or others. I agree not to enter into any agreement
either written or oral in conflict herewith.
10. MODIFICATION. I agree that any subsequent change or changes in my
duties, salary or compensation or, if applicable, in any employment agreement
between the Company and me, shall not affect the validity or scope of this
Agreement.
11. SUCCESSORS AND ASSIGNS. This Agreement shall be binding upon my
heirs, executors, administrators or other legal representatives and is for the
benefit of the Company, its successors and assigns.
C-3
<PAGE> 16
12. INTERPRETATION. IT IS THE INTENT OF THE PARTIES THAT in case any
one or more of the provisions contained in this Agreement shall, for any reason,
be held to be invalid, illegal or unenforceable in any respect, such invalidity,
illegality or unenforceability shall not affect the other provisions of this
Agreement, and this Agreement shall be construed as if such invalid, illegal or
unenforceable provision had never been contained herein. MOREOVER, IT IS THE
INTENT OF THE PARTIES THAT in case any one or more of the provisions contained
in this Agreement shall for any reason be held to be excessively broad as to
duration, geographical scope, activity or subject, such provision shall be
construed by limiting and reducing it in accordance with a judgment of a court
of competent jurisdiction, so as to be enforceable to the extent compatible with
applicable law.
13. WAIVERS. If either party should waive any breach of any provision
of this Agreement, he or it shall not thereby be deemed to have waived any
preceding or succeeding breach of the same or any other provision of this
Agreement.
14. COMPLETE AGREEMENT, AMENDMENTS. I acknowledge receipt of this
Agreement, and agree that, with respect to its subject matter, it is my entire
agreement with the Company, superseding any previous oral or written
communications, representations, understandings, or agreements relating to such
subject matter with the Company or any officer or representative thereof. Any
amendment to this Agreement or waiver by either party of any right hereunder
shall be effective only if evidenced by a written instrument executed by the
parties hereto, and, in the case of the Company, upon written authorization of
the Company's Board of Directors.
15. HEADINGS. The headings of the sections hereof are inserted for
convenience only and shall not be deemed to constitute a part hereof nor to
affect the meaning hereof.
16. COUNTERPARTS. This Agreement may be signed in two counterparts,
each of which shall be deemed an original and both of which shall together
constitute one agreement.
17. GOVERNING LAW. This Agreement shall be governed by and construed
under the internal laws of the State of Minnesota, excluding its conflict of law
principles.
C-4
<PAGE> 17
If you are in agreement with the foregoing, please sign both of the
enclosed copies of this Agreement on behalf of the Company below, whereupon this
Agreement shall become binding in accordance with its terms. Please then return
one signed copy of this Agreement to me.
EMPLOYEE
/s/ Michael P. Gebauer
-----------------------------------
Michael P. Gebauer
Accepted and Agreed:
VIDEO UPDATE, INC.
By: /s/ Daniel A. Potter
------------------------------------
Title: Chief Executive Officer
---------------------------------
C-5
<PAGE> 18
SCHEDULE A
None.
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C> <C>
<PERIOD-TYPE> 3-MOS 9-MOS
<FISCAL-YEAR-END> APR-30-2000 APR-30-2000
<PERIOD-START> OCT-31-1999 APR-30-1999
<PERIOD-END> JAN-31-2000 JAN-31-2000
<CASH> 0 1,092
<SECURITIES> 0 0
<RECEIVABLES> 0 3,642
<ALLOWANCES> 0 0
<INVENTORY> 0 50,254
<CURRENT-ASSETS> 0 0
<PP&E> 0 80,352
<DEPRECIATION> 0 28,703
<TOTAL-ASSETS> 0 189,236
<CURRENT-LIABILITIES> 0 0
<BONDS> 0 415
0 0
0 0
<COMMON> 0 293
<OTHER-SE> 0 0
<TOTAL-LIABILITY-AND-EQUITY> 0 189,236
<SALES> 6,909 18,396
<TOTAL-REVENUES> 57,468 172,019
<CGS> 4,487 11,628
<TOTAL-COSTS> 52,290 169,840
<OTHER-EXPENSES> 0 0
<LOSS-PROVISION> 0 0
<INTEREST-EXPENSE> 4,704 13,498
<INCOME-PRETAX> 1,058 (10,555)
<INCOME-TAX> 0 0
<INCOME-CONTINUING> 1,058 (10,555)
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> 1,058 (10,555)
<EPS-BASIC> .04 (.36)
<EPS-DILUTED> .04 (.36)
</TABLE>
