<PAGE>
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBERS 0-676 AND 0-16626
-----------------
THE SOUTHLAND CORPORATION
(Exact name of registrant as specified in its charter)
TEXAS 75-1085131
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2711 NORTH HASKELL AVE., DALLAS, TEXAS 75204-2906
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code, 214/828-7011
--------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes X No
APPLICABLE ONLY TO CORPORATE ISSUERS:
409,922,935 shares of common stock, $.0001 par value (the issuer's only
class of common stock), were outstanding as of March 31, 1998.
<PAGE>
THE SOUTHLAND CORPORATION
INDEX
Page
No.
----
Part I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS:
Condensed Consolidated Balance Sheets -
March 31, 1998 and December 31, 1997...............................1
Condensed Consolidated Statements of Earnings -
Three Months Ended March 31, 1998 and 1997.........................2
Condensed Consolidated Statements of Cash Flows -
Three Months Ended March 31, 1998 and 1997.........................3
Notes to Condensed Consolidated Financial Statements ................4
Report of Independent Accountants....................................7
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 2. CHANGES IN SECURITIES.....................................16
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K..........................16
SIGNATURES...............................................................17
Exhibit (15) - Letter re Unaudited Interim Financial Information......Tab 1
Exhibit (27) - Financial Data Schedule...................................*
*Submitted in electronic format only
(i)
<PAGE>
<TABLE>
<CAPTION>
THE SOUTHLAND CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT PER-SHARE DATA)
ASSETS
MARCH 31, DECEMBER 31,
1998 1997
------------- -------------
(UNAUDITED)
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 3,055 $ 38,605
Accounts receivable 130,048 126,495
Inventories 102,253 125,396
Other current assets 148,986 96,145
------------- -------------
TOTAL CURRENT ASSETS 384,342 386,641
PROPERTY AND EQUIPMENT 1,462,132 1,416,687
OTHER ASSETS 288,950 286,753
------------- -------------
$ 2,135,424 $ 2,090,081
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Trade accounts payable $ 187,077 $ 196,799
Accrued expenses and other liabilities 277,521 275,267
Commercial paper 17,696 48,744
Long-term debt due within one year 269,859 208,839
------------- -------------
TOTAL CURRENT LIABILITIES 752,153 729,649
DEFERRED CREDITS AND OTHER LIABILITIES 190,519 187,414
LONG-TERM DEBT 1,522,391 1,594,545
CONVERTIBLE QUARTERLY INCOME DEBT SECURITIES 380,000 300,000
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS' EQUITY (DEFICIT):
Common stock, $.0001 par value 41 41
Additional capital 625,574 625,574
Accumulated deficit (1,346,292) (1,352,058)
Accumulated other comprehensive income 11,038 4,916
------------- -------------
TOTAL SHAREHOLDERS' EQUITY (DEFICIT ) (709,639) (721,527)
------------- -------------
$ 2,135,424 $ 2,090,081
============= =============
</TABLE>
See notes to condensed consolidated financial statements.
1
<PAGE>
<TABLE>
<CAPTION>
THE SOUTHLAND CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
(DOLLARS IN THOUSANDS, EXCEPT PER-SHARE DATA)
(UNAUDITED)
THREE MONTHS
ENDED MARCH 31,
------------------------------
1998 1997
------------- -------------
<S> <C> <C>
REVENUES:
Net sales (Including $229,242 and $222,765 in excise taxes) $ 1,594,958 $ 1,604,400
Other income 20,443 21,623
------------- -------------
1,615,401 1,626,023
COSTS AND EXPENSES:
Cost of goods sold 1,140,539 1,154,633
Operating, selling, general and administrative expenses 471,716 438,288
Interest expense, net 22,573 23,899
------------- -------------
1,634,828 1,616,820
------------- -------------
EARNINGS (LOSS) BEFORE INCOME TAXES AND EXTRAORDINARY GAIN (19,427) 9,203
INCOME TAXES (BENEFIT) (7,322) 3,681
------------- -------------
EARNINGS (LOSS) BEFORE EXTRAORDINARY GAIN (12,105) 5,522
EXTRAORDINARY GAIN ON DEBT REDEMPTION (net of
tax effect of $11,425) 17,871 -
------------ -------------
NET EARNINGS $ 5,766 $ 5,522
============= =============
EARNINGS (LOSS) BEFORE EXTRAORDINARY GAIN PER COMMON SHARE:
Basic $(.03) $.01
Diluted $(.03) $.01
EXTRAORDINARY GAIN ON DEBT REDEMPTION PER COMMON SHARE:
Basic $.04 $.00
Diluted $.04 $.00
NET EARNINGS PER COMMON SHARE:
Basic $.01 $.01
Diluted $.01 $.01
</TABLE>
See notes to condensed consolidated financial statements.
2
<Page
<TABLE>
<CAPTION>
THE SOUTHLAND CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
THREE MONTHS
ENDED MARCH 31,
-------------------------------
1998 1997
------------- --------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net earnings $ 5,766 $ 5,522
Adjustments to reconcile net earnings to net cash provided
by operating activities:
Extraordinary gain on debt redemption (17,871) -
Depreciation and amortization of property and equipment 42,623 43,593
Other amortization 4,757 4,757
Deferred income taxes (5,838) 744
Noncash interest expense 138 1,723
Other noncash income (885) (119)
Net loss on property and equipment 55 312
Decrease in accounts and notes receivable 292 15,601
Decrease in inventories 23,143 7,366
Increase in other assets (3,850) (3,365)
Decrease in trade accounts payable and other liabilities (18,944) (49,027)
------------- -------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 29,386 27,107
------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Payments for purchase of property and equipment (80,501) (41,149)
Proceeds from sale of property and equipment 1,384 4,502
Increase in restricted cash (43,213) -
Other 123 478
------------- -------------
NET CASH USED IN INVESTING ACTIVITIES (122,207) (36,169)
------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from commercial paper and revolving credit facilities 1,488,195 1,460,167
Payments under commercial paper and revolving credit facilities (1,459,140) (1,425,198)
Proceeds from issuance of long-term debt - 225,000
Principal payments under long-term debt agreements (51,223) (236,380)
Proceeds from issuance of convertible quarterly income debt securities 80,000 -
Other (561) (450)
------------- -------------
NET CASH PROVIDED BY FINANCING ACTIVITIES 57,271 23,139
------------- -------------
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (35,550) 14,077
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 38,605 36,494
------------- -------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 3,055 $ 50,571
============= =============
RELATED DISCLOSURES FOR CASH FLOW REPORTING:
Interest paid, excluding SFAS No.15 Interest $ (24,724) $ (25,009)
============= =============
Net income taxes refunded $ 859 $ 1,522
============= =============
Assets obtained by entering into capital leases $ 8,949 $ 2,284
============= =============
See notes to condensed consolidated financial statements.
3
</TABLE>
<PAGE>
THE SOUTHLAND CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 1998
(DOLLARS IN THOUSANDS, EXCEPT PER-SHARE DATA)
(UNAUDITED)
1. BASIS OF PRESENTATION:
The condensed consolidated balance sheet as of March 31, 1998, and the
condensed consolidated statements of earnings and cash flows for the three-
month periods ended March 31, 1998 and 1997, have been prepared by the
Company without audit. In the opinion of management, all adjustments
(which included only normal, recurring adjustments) necessary to present
fairly the financial position at March 31, 1998, and the results of
operations and cash flows for all periods presented have been made. The
results of operations for the interim periods are not necessarily
indicative of the operating results for the full year.
The condensed consolidated balance sheet as of December 31, 1997, is
derived from the audited financial statements but does not include all
disclosures required by generally accepted accounting principles. The notes
accompanying the consolidated financial statements in the Company's Annual
Report on Form 10-K for the year ended December 31, 1997, include
accounting policies and additional information pertinent to an
understanding of both the December 31, 1997, balance sheet and the interim
financial statements. The information has not changed except as a result
of normal transactions in the three months ended March 31, 1998, and as
discussed in the following notes.
2. COMPREHENSIVE INCOME:
In January 1998, the Company adopted the provisions of Statement of
Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive
Income," which is required for fiscal years beginning after December 15,
1997. SFAS No. 130 establishes standards for reporting comprehensive
income and its components in a full set of general-purpose financial
statements. The components of accumulated other comprehensive income, net
of tax, of the Company are as follows:
<TABLE>
<CAPTION>
March 31, December 31,
1998 1997
----------- ------------
<S> <C> <C>
Unrealized gain on equity securities $ 15,343 $ 9,192
Foreign currency translation adjustments (4,305) (4,276)
----------- ------------
Accumulated other comprehensive income $ 11,038 $ 4,916
=========== ============
</TABLE>
The components of comprehensive income of the Company for the three months
ended March 31, 1998 and 1997, are as follows:
<TABLE>
<CAPTION>
Three Months
Ended March 31,
-----------------
1998 1997
------ --------
<S> <C> <C>
Net earnings $ 5,766 $ 5,522
Other comprehensive income (expense), net of tax:
Unrealized gains on equity securities 6,151 (2,487)
Foreign currency translation adjustments (29) (394)
-------- --------
Other comprehensive income (expense) 6,122 (2,881)
-------- --------
Comprehensive income $ 11,888 $ 2,641
========= =========
</TABLE>
4
<PAGE>
3. EARNINGS PER SHARE:
In December 1997, the Company adopted the provisions of SFAS No. 128,
"Earnings per Share," which requires the following reconciliation of the
numerators and the denominators of the basic and diluted per-share
computations for net earnings for the periods presented:
<TABLE>
<CAPTION>
Three Months
Ended March 31,
--------------------
1998 1997
-------- --------
<S> <C> <C>
BASIC EPS COMPUTATION:
Earnings (Numerator):
Earnings (loss) before extraordinary gain available to common shareholders $ (12,105) $ 5,522
Earnings on extraordinary gain available to common shareholders 17,871 -
----------- ---------
Net earnings available to common shareholders $ 5,766 $ 5,522
========== =========
Shares (Denominator):
Weighted average number of common shares outstanding 409,923 409,923
========== =========
BASIC EPS:
Earnings (loss) per common share before extraordinary gain $ (.03) $ .01
Earnings per common share on extraordinary gain .04 -
---------- ---------
Net earnings per common share $ .01 $ .01
========== =========
DILUTED EPS COMPUTATION:
Earnings (Numerator):
Earnings (loss) before extraordinary gain available to common shareholders $ (12,105) $ 5,522
Add interest on Convertible Quarterly Income Debt Securities, net of tax - (A) - (A)
--------- --------
Earnings before extraordinary gain available to common shareholders
plus assumed conversions (12,105) 5,522
Earnings on extraordinary gain available to common shareholders 17,871 -
--------- --------
Net earnings available to common shareholders plus assumed
conversions $ 5,766 $ 5,522
========== ========
Shares (Denominator):
Weighted average number of common shares outstanding 409,923 409,923
Add effects of assumed conversions:
Conversion of Convertible Quarterly Income Debt Securities - (A) - (A)
Exercise of stock options - (B) - (B)
---------- ---------
Weighted average number of common shares outstanding plus shares
from assumed conversions 409,923 409,923
========= =========
DILUTED EPS :
Earnings (loss) per common share before extraordinary gain $ (.03) $ .01
Earnings per common share on extraordinary gain .04 -
--------- ---------
Net earnings per common share $ .01 $ .01
========= =========
(A) The Convertible Quarterly Income Debt Securities are not assumed converted
for the three months ended March 31, 1998 and 1997, because they have an
antidilutive effect on EPS.
(B) The weighted average shares for the three months ended March 31,1998 and 1997,
do not assume exercise of stock options since the average market price of
shares for both periods is below the options' exercise prices.
</TABLE>
5
<PAGE>
4. DEBT REDEMPTION:
On March 31, 1998, the Company completed the redemption of its 12%
Second Priority Senior Subordinated Debentures (Series C) due 2009 ("12%
Debentures") with a portion of the proceeds from the issuance of $80
million principal amount of Convertible Quarterly Income Debt Securities
due 2013 ("1998 QUIDS") to Ito-Yokado Co., Ltd., and Seven-Eleven Japan
Co., Ltd., on February 26, 1998. The 1998 QUIDS have an interest rate of
4-1/2% and are convertible into 32,508,432 shares of the Company's common
shares. The redemption of the 12% Debentures resulted in an extraordinary
gain of $17,871 (net of tax effect of $11,425) as a result of the inclusion
of SFAS No. 15 interest in the carrying amount of the debt.
5. SEVERANCE COSTS:
In the first quarter of 1998, the Company accrued $7,104 for severance
benefits for the reduction in force of more than 150 management and
administrative employees. The cost of the severance benefits is recorded
in operating, selling, general and administrative expenses. As of
March 31, 1998, there have been 43 employees terminated with $728 of
severance benefits paid against the accrual.
6. SUBSEQUENT EVENTS:
On April 30, 1998, funding occurred on a yen-denominated loan for
12.5 billion yen or approximately $96.5 million of proceeds, which
included exercising a put option at the strike price of 129.53 yen per
dollar. The loan has an interest rate of 2.325% and will be repaid from
the Seven-Eleven Japan area license royalty income beginning in 2001, after
the existing yen loan has been retired. Both principal and interest of the
loan are nonrecourse to the Company. Proceeds of the loan will be used for
general corporate purposes.
The purchase of the put option was financed by the Company by selling
a call option at a strike price of 125.08 yen per dollar with the same yen
amount and maturity as the put option, thereby committing the Company to
exchange at a rate of 125.08. The call option was marked to market and, as
a result, income of $1,510 was recognized during the first quarter of 1998.
The call option expired unexercised on April 28, 1998.
On May 4, 1998, the Company purchased 100% of the stock of a company that
operates 132 convenience stores in the New England area. Also, on May 12,
1998, the Company purchased 20 convenience stores in the South Bend,
Indiana area.
6
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders of
The Southland Corporation
We have reviewed the accompanying condensed consolidated balance sheet of
The Southland Corporation and Subsidiaries as of March 31, 1998, and the
related condensed consolidated statements of earnings and cash flows for
the three-month periods ended March 31, 1998 and 1997. These financial
statements are the responsibility of the company's management.
We conducted our review in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical
procedures to financial data and making inquiries of persons responsible
for financial and accounting matters. It is substantially less in scope
than an audit conducted in accordance with generally accepted auditing
standards, the objective of which is the expression of an opinion regarding
the financial statements taken as a whole. Accordingly, we do not express
such an opinion.
Based on our review, we are not aware of any material modifications that
should be made to the accompanying financial statements of The Southland
Corporation and Subsidiaries for them to be in conformity with generally
accepted accounting principles.
We have previously audited, in accordance with generally accepted auditing
standards, the consolidated balance sheet as of December 31, 1997, and the
related consolidated statements of earnings, shareholders' equity
(deficit), and cash flows for the year then ended (not presented herein);
and in our report dated February 5, 1998 (except as to Items 2 and 3 in
Note 17, for which the date is March 12, 1998), we expressed an unqualified
opinion on those consolidated financial statements. In our opinion, the
information set forth in the accompanying condensed consolidated balance
sheet as of December 31, 1997, is fairly stated, in all material respects,
in relation to the consolidated balance sheet from which it has been
derived.
COOPERS & LYBRAND L.L.P.
Dallas, Texas
April 21, 1998
7
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Some of the matters discussed in this quarterly report contain
forward-looking statements regarding the Company's future business which
are subject to certain risks and uncertainties, including competitive
pressures, adverse economic conditions and government regulations. These
issues, and other factors, which may be identified from time to time in the
Company's reports filed with the SEC, could cause actual results to differ
materially from those indicated in the forward-looking statements.
RESULTS OF OPERATIONS
SUMMARY OF RESULTS OF OPERATIONS
The Company's reported net earnings were $5.8 million ($.01 per share)
for the first quarter of 1998, compared to net earnings of $5.5 million
($.01 per share) for the first quarter of 1997. The first quarter of 1998
included a $17.9 million (after tax) extraordinary gain from the redemption
of the Company's 12% Senior Subordinated Debentures ("12% Debentures"),
which was substantially offset by the cumulative costs associated with a
lease termination, severance and a one-time write-off of slow-moving
inventory. The prior year included items which benefited earnings by
approximately $3 million (pretax), the most significant of which was a
reduction in an estimated environmental liability (see Liquidity and
Capital Resources - Environmental).
MANAGEMENT STRATEGIES
Since 1992, the Company has been committed to several key strategies
that it believes, over the long term, will provide further differentiation
from competitors and allow 7-Eleven to maintain its position as the premier
convenience retailer. These strategies include:
*Upgrading the Company's store base through developing or acquiring new
stores, continuing the upgrading of existing stores and closing
underachieving stores. In 1998, new store openings are expected to
significantly outpace closings, with the expansion occurring in existing
markets to support the Company's fresh food and combined-distribution
initiatives.
*A customer-driven approach to merchandising, which focuses on providing
the customer an expanded selection of quality products at a good value.
*An everyday-fair-pricing strategy which provides consistent, reasonable
prices on all items.
*Daily delivery of time-sensitive or perishable items, along with high-
quality, ready-to-eat foods, through the use of combined distribution
centers, fresh-food commissaries and bakery facilities. These facilities,
which are generally third party operated, are designed to provide fresher
products, improve in-stock conditions and lower product costs.
*The development of a retail information system which initially has
automated accounting and other store-level tasks. The current phase
involves the installation of point-of-sale registers with scanning and
ordering capabilities.
8
<PAGE>
(EXCEPT WHERE NOTED, ALL PER-STORE NUMBERS REFER TO AN AVERAGE OF ALL
STORES RATHER THAN ONLY STORES OPEN MORE THAN ONE YEAR.)
SALES
The Company recorded net sales of $1.59 billion for the three months
ended March 31, 1998, compared to sales of $1.60 billion during the same
period in 1997. The sales decline is entirely due to lower retail gasoline
prices, as per-store merchandise sales and gasoline gallons both increased
over the prior year. The first quarter of 1998 produced a U.S. same-store
(stores open more than one year) merchandise sales increase of 2.7%. After
adjusting for first quarter inflation of 1.1%, same-store merchandise sales
real growth was 1.6%.
Regionally, per-store merchandise sales were fairly consistent with
the exception of the Southwest region, which was impacted by El Nino-
related weather, combined with intense competitive pricing on cigarettes
and gasoline. Highlights of changes in category results for the first
quarter of 1998 compared to 1997 are as follows: COFFEE SALES are up
substantially, partially due to the introduction of new products; CIGARETTE
SALES have increased, but primarily due to price increases in response to
manufacturer-led cost increases, which have had an unfavorable impact on
margin and gross profit; FOUNTAIN DRINK sales have declined as ready-to-
drink products have become the preference of more customers.
Gasoline sales dollars per store decreased 11.7% for the first
quarter, due to significantly lower retail prices. Average per-store
gallonage increased 2.3% when compared to 1997.
<TABLE>
<CAPTION>
GROSS PROFITS Three Months Ended
March 31, 1998
----------------------
MERCHANDISE GASOLINE
----------- --------
<S> <C> <C>
Gross Profit - DOLLARS IN MILLIONS $ 410.9 $ 43.5
INCREASE/(DECREASE) FROM PRIOR YEAR - ALL STORES
- ------------------------------------------------
Average per-store gross profit dollar change (0.1)% 10.2%
Margin percentage point change (gasoline in cents per gallon) (1.03) .89
Average per-store sales (gasoline in gallons) 2.9% 2.3%
</TABLE>
Total merchandise gross profit dollars were slightly higher in the
first quarter of 1998 than the comparable period in 1997. Higher average
per-store merchandise sales were almost entirely offset by the lower
merchandise margin. Merchandise margin was negatively impacted by the
Company's decision to write off $5 million of slow-moving inventory,
combined with increased write-offs during the roll-out of the Company's
fresh-food programs, and pricing adjustments in certain categories in a
continuing effort to provide fair prices on all products. The Company
anticipates the write-off of slow-moving inventory will provide
opportunities to accelerate the introduction of new products, combined with
potentially lower write-offs for the remainder of the year. As a result of
the items discussed above, merchandise margin is projected to be slightly
lower in 1998, when compared to 1997.
During the first three months of 1998, gasoline gross profits
increased $4.6 million, versus the comparable period in 1997, due to
favorable per-store gallon sales, higher margins and increased gasoline
outlets. Market conditions have contributed to the improved margins, as
the supply problems experienced in 1997 have occurred to a lesser extent so
far in 1998. While management anticipates fewer supply problems in 1998,
it expects competitive conditions to remain intense.
9
<PAGE>
OPERATING, SELLING, GENERAL AND ADMINISTRATIVE EXPENSES ("OSG&A")
Operating, selling, general and administrative expenses increased
$33.4 million in the first quarter of 1998 compared to the same period in
1997. The ratio of OSG&A expenses to sales was 29.6% in the first three
months of 1998, an increase of 2.3 percentage points from the same period
in 1997. Expense resulting from the cumulative effects of a computer
equipment lease termination, combined with severance costs, unfavorably
impacted 1998 OSG&A by nearly $19 million. The retail price of gasoline,
which dropped nearly 14% in 1998 compared to 1997's first quarter, also
impacted the ratio of OSG&A expenses to sales. Excluding the items
discussed above, the ratio of OSG&A to sales was approximately 27.3% for
the first quarter of both 1998 and 1997.
In addition to the items discussed above, a portion of the increase in
OSG&A expenses resulted from costs associated with the Company's
implementation of its retail information system and other strategic
initiatives, as well as from higher store labor costs, all of which were
partially offset by lower insurance costs. In 1997's first quarter, OSG&A
benefited from a reduction of an estimated environmental liability.
Incremental costs of approximately $3 million associated with the Company's
retail information system, were expensed in the first quarter of 1998.
While the ratio will vary on a quarterly basis, management believes this
ratio will not improve dramatically during the rollout phase of the retail
information system.
The Company continues to review the functions necessary to enable its
stores to respond faster and more cost efficiently to rapidly changing
customer needs and preferences. In conjunction with this review, management
continues to realign and reduce personnel and office facilities in order to
eliminate non-essential costs, while devoting resources to the
implementation of its retail information system and other strategic
initiatives (see Management Strategies). In the first quarter of 1998, an
accrual of $7.1 million was made representing severance benefits for more
than 150 management and administrative employees to be terminated. As of
March 31, 1998, nearly one-third of the positions have been reduced, with
the balance to be completed later this year. The benefits from these
reductions on an annualized basis approximate the one-time charge, with the
majority of the benefit carrying forward to future years.
The Company is a defendant in two legal actions, which are referred to
as the 7-Eleven OFFF and Valente cases, filed by franchisees in 1993 and
1996, respectively, asserting various claims against the Company. A
nationwide settlement has recently been negotiated and, in connection with
the settlement, these two cases have been combined on behalf of a class of
all persons who operated 7-Eleven convenience stores in the United States
at any time between January 1, 1987 and July 31, 1997, under franchise
agreements with the Company. Class members have overwhelmingly approved
the settlement, and the court presiding over the settlement process gave
its final approval of the settlement on April 24, 1998. The settlement
will become effective in August, unless an appeal is filed. The Company's
accruals are sufficient to cover the payment due under the settlement with
no material impact on 1998 earnings.
10
<PAGE>
INTEREST EXPENSE, NET
Net interest expense decreased $1.3 million in 1998 over the first
quarter of 1997. The decrease was primarily due to the write-off of
deferred costs associated with the Company's refinancing of its credit
agreement in February of 1997.
Approximately 39% of the Company's debt contains floating rates that
will be unfavorably impacted by rising interest rates. The weighted-
average interest rate for such debt was 5.8% for the first quarter of both
1998 and 1997. The Company expects net interest expense in 1998 to remain
relatively flat, based upon anticipated levels of debt and interest rate
projections. Factors increasing 1998 interest expense include higher
borrowings/obligations to finance new store development and the redemption
of the Company's 12% Debentures which, in accordance with SFAS No. 15,
"Accounting by Debtors and Creditors for Troubled Debt Restructuring",
recognize no interest expense in the statement of earnings (see Liquidity
and Capital Resources). Items that will decrease 1998 interest expense
include a lower interest rate on the existing yen-denominated loan (see
Liquidity and Capital Resources), the new 2.325% yen-denominated loan
(which will reduce short-term borrowings) and higher capitalized interest.
The interest rate on the existing yen-denominated loan was reset in March
of 1998, resulting in a rate reduction of 315 basis points.
In accordance with SFAS No. 15, no interest expense is recognized on
the Company's public debt securities. These securities were recorded at an
amount equal to the future undiscounted cash payments, both principal and
interest, and accordingly, the cash interest payments are charged against
the recorded amount of such securities and are not treated as interest
expense.
EXTRAORDINARY GAIN
In March 1998, redemption of the Company's 12% Debentures resulted in
a $17.9 million after-tax gain from the retirement of future undiscounted
interest payments as recorded under SFAS No. 15. The cash outlay to the
Company was $22.5 million, which was financed through the issuance of $80
million of 4-1/2% Convertible Quarterly Income Debt Securities ("1998
Convertible Debt") due 2013, to Ito-Yokado Co., Ltd., and Seven-Eleven
Japan Co., Ltd., the joint owners of IYG Holding Company, which is the
Company's majority shareholder.
LIQUIDITY AND CAPITAL RESOURCES
The majority of the Company's working capital is provided from three
sources: i) cash flows generated from its operating activities; ii) a $400
million commercial paper facility (guaranteed by Ito-Yokado Co., Ltd.); and
iii) short-term seasonal borrowings of up to $400 million (reduced by
outstanding letters of credit) under its revolving credit facility. The
Company believes that operating activities, coupled with available short-
term working capital facilities, will provide sufficient liquidity to fund
current operating and capital expenditure programs, as well as to service
debt requirements.
In April 1998, the Company entered into a financing agreement
for 12.5 billion yen, or approximately $96.5 million, monetizing its future yen
royalty stream. The financing, which bears interest at 2.325%, is secured
11
<PAGE>
by a pledge (secondary to the existing yen loan) of the future
royalty payments from Seven-Eleven Japan associated with the Company's Japanese
7-Eleven trademarks. Payment of principal and interest on the debt is
nonrecourse to the Company and will commence when the existing yen
denominated loan is paid in full, which is currently estimated to be in
2001.
It is anticipated that this loan will be fully repaid
in 2006.
In February 1998, the Company issued $80 million of 1998 Convertible
Debt, which is subordinated to all existing debt except the 1995
Convertible Debt, which has the same priority ranking. The debt has a 15-
year life, no amortization and an interest rate of 4.5%. The instrument
gives the Company the right to defer interest payments thereon for up to 20
consecutive quarters. The debt mandatorily converts into 32,508,432 shares
of the Company's common stock if the Company's stock achieves certain
levels after the third anniversary of issuance. A portion of the proceeds
from the 1998 Convertible Debt were used to redeem the Company's 12%
Debentures at par.
In April 1997, the Company entered into a $115 million Master Lease
Facility ("MLF"), which will be the primary financing for a complete
integrated point-of-sale system (see Management Strategies). The
commitment period for this lease expires in early 1999, and, based upon the
current roll out schedules, the MLF may not be fully funded at that time.
As a result, the Company is currently seeking, from the lessors under the
MLF, an extension of the commitment period through the end of 1999. If the
Company does not receive such an extension, it may accelerate the delivery
of the remaining components of the system from the vendors and store such
components until installation during 1999, so that the facility is fully
funded by the expiration date of the commitment. Alternatively, the
Company may find other financing to fully fund the remainder of the rollout
of the system during 1999.
The credit agreement and the MLF contain certain financial and
operating covenants requiring, among other things, the maintenance of
certain financial ratios, including interest and rent coverage, fixed-
charge coverage and senior indebtedness to net earnings before
extraordinary items and interest, taxes, depreciation and amortization
("EBITDA"). The covenant levels established by the credit agreement and
the MLF generally require continuing improvement in the Company's financial
condition. In May 1998, the financial covenant levels required by these
instruments were amended prospectively in order to allow the Company
flexibility to continue its store growth strategy. In addition, a maximum
amount of annual capital expenditures was established, which does permit
the levels of capital spending within the Company's strategic plans.
For the period ended March 31, 1998, the Company was in compliance
with all of the covenants required under the credit agreement, including
compliance with the principal financial and operating covenants under the
pre-amended version of the credit agreement (calculated over the latest 12-
month period) as follows:
Requirements
--------------------
Covenants Actuals Minimum Maximum
--------- ------- ------- -------
Interest and rent coverage * 2.09 to 1.0 2.00 to 1.0
Fixed charge coverage 0.69 to 1.0 0.35 to 1.0
Senior indebtedness to EBITDA 3.27 to 1.0 3.40 to 1.0
* INCLUDES EFFECTS OF THE SFAS NO. 15 INTEREST PAYMENTS.
12
<PAGE>
During the first three months of 1998, the Company repaid $51.2
million of debt of which $22.5 million related to the redemption of the
Company's 12% Debentures. The remaining principal reduction during the
quarter of $28.7 million included a $14.1 million quarterly installment due
on the Term Loan and $8.5 million for principal payments on the Company's
yen-denominated loan (secured by the royalty income stream from its area
licensee in Japan). Outstanding balances at March 31, 1998, for commercial
paper, Term Loan and Revolver, were $367.7 million, $210.9 million and
$125.0 million, respectively. As of March 31, 1998, outstanding letters of
credit issued pursuant to the credit agreement totaled $63.5 million.
CASH FROM OPERATING ACTIVITIES
Net cash provided by operating activities was $29.4 million for the
first quarter of 1998, similar to the $27.1 million provided in the same
period of 1997 (see Results of Operations section).
CAPITAL EXPENDITURES
In the first three months, net cash used in investing activities
consisted primarily of payments of $80.5 million for property and
equipment. The majority of this capital was used for new store
development, continued implementation of the Company's retail information
system, remodeling stores, new equipment to support merchandising
initiatives, upgrading retail gasoline facilities, replacing equipment and
complying with environmental regulations.
The Company expects 1998 capital expenditures, excluding lease
commitments, to exceed $300 million. Capital expenditures are being used to
develop or acquire new stores, upgrade store facilities, further implement
a retail information system, replace equipment, upgrade gasoline facilities
and comply with environmental regulations. The amount of expenditures
during the year will be materially impacted by the proportion of new store
development funded through working capital versus leases and the speed at
which new sites/acquisitions can be located, negotiated, permitted and
constructed.
CAPITAL EXPENDITURES - ACQUISITIONS
In May 1998, the Company purchased all of the capital stock of
Christy's Market, Inc., of Brockton, Mass, thereby acquiring 132 Christy's
Market convenience stores, located in the New England area. Also in May
1998, the Company purchased the assets of 20 'red D mart' convenience
stores in the South Bend, Indiana, area from MDK Corporation of Goshen,
Ind.
CAPITAL EXPENDITURES - GASOLINE EQUIPMENT
The Company incurs ongoing costs to comply with federal, state and
local environmental laws and regulations primarily relating to underground
storage tank ("UST") systems. The Company anticipates it will spend
approximately $10 million in 1998 on capital improvements required to
comply with environmental regulations relating to USTs, as well as above-
ground vapor recovery equipment at store locations, and approximately an
additional $25 million on such capital improvements from 1999 through 2001.
13
<PAGE>
ENVIRONMENTAL
In December 1988, the Company closed its chemical manufacturing
facility in New Jersey. As a result, the Company is required to conduct
environmental remediation at the facility and has submitted a clean-up plan
to the New Jersey Department of Environmental Protection (the "State"),
which provides for active remediation of the site for approximately a
three-to-five-year period, as well as continued groundwater monitoring and
treatment for a projected 15-year planning period. The projected 15-year
clean-up period represents a reduction from the previously reported 20-year
period and is a result of revised estimates as determined by an independent
environmental management company in the first quarter of 1997. These
revised estimates, which generally resulted from the conditional approval
of the Company's plan, reduced both the estimated time and the estimated
costs to complete the project. While conditional approval was received on
its clean-up plan, the Company must supply additional information to the
State before the plan can be finalized. The Company has recorded
undiscounted liabilities representing its best estimates of the clean-up
costs of $10.2 million at March 31, 1998. In 1991, the Company and the
former owner of the facility executed a final settlement pursuant to which
the former owner agreed to pay a substantial portion of the clean-up costs.
Based on the terms of the settlement agreement and the financial resources
of the former owner, the Company has recorded a receivable of $6.0 million
at March 31, 1998.
Additionally, the Company accrues for the anticipated future costs and
the related probable state reimbursement amounts for remediation activities
at its existing and previously operated gasoline sites where releases of
regulated substances have been detected. At March 31, 1998, the Company's
estimated undiscounted liability for these sites was $35.1 million. This
estimate is based on the Company's prior experience with gasoline sites and
its consideration of such factors as the age of the tanks, location of tank
sites and experience with contractors who perform environmental assessment
and remediation work. The Company anticipates that substantially all of
the future remediation costs for detected releases at these sites as of
March 31, 1998 will be incurred within the next five years.
Under state reimbursement programs, the Company is eligible to receive
reimbursement for a portion of future remediation costs, as well as a
portion of remediation costs previously paid. Accordingly, at March 31,
1998, the Company has recorded a net receivable of $40.0 million for the
estimated probable state reimbursements. In assessing the probability of
state reimbursements, the Company takes into consideration each state's
fund balance, revenue sources, existing claim backlog, status of clean-up
activity and claim ranking systems. As a result of these assessments, the
recorded receivable amount is net of an allowance of $8.8 million. While
there is no assurance of the timing of the receipt of state reimbursement
funds, based on its experience, the Company expects to receive the majority
of state reimbursement funds, except from California, within one to three
years after payment of eligible remediation expenses, assuming that the
state administrative procedures for processing such reimbursements have
been fully developed. The Company estimates that it may take one to seven
years to receive reimbursement funds from California. Therefore, the
portion of the recorded receivable amounts that relate to sites where
remediation activities have been conducted have been discounted at 5.6% to
reflect their present value. Thus, the recorded receivable amount is also
net of a discount of $6.0 million.
14
<PAGE>
The estimated future assessment and remediation expenditures and
related state reimbursement amounts could change within the near future as
governmental requirements and state reimbursement programs continue to be
implemented or revised.
ENVIRONMENTAL - ACQUISITIONS
Both the 'red D mart' and Christy's Market acquisitions include retail
gasoline outlets that are subject to certain environmental regulations.
Under the terms of the acquisition agreements, the sellers are responsible
for ensuring compliance with all applicable environmental regulations
existing as of the closing date. In addition, the acquisition agreements
provide that, subject to certain limitations, the sellers will bear the
expense of future environmental cleanup resulting from existing conditions
at the sites, which is required under applicable legal requirements (see
Capital Expenditures - Acquisitions).
YEAR 2000
The year 2000 issue is the result of computer programs being written
using two digits rather than four to define the applicable year. Some of
the Company's older computer programs that have date-sensitive software may
recognize a date using "00" as the year 1900 rather than the year 2000.
This could result in a system failure or miscalculations causing
disruptions of operations.
The Company has replaced, over the last couple of years, or has plans
to replace significant portions of its existing systems with third-party-
provided software, which properly interpret dates beyond December 31, 1999.
In addition, the Company has contracted resources to modify the remainder
of its existing software to make it year 2000 compliant. Based on a recent
assessment, the Company believes all system modifications and related
testing should be completed by early 1999.
The Company has initiated formal communications with its significant
suppliers to determine the extent to which the Company is vulnerable to
those third parties' failure to remediate their own year 2000 issue. At
this time, based on presently available information, the Company does not
foresee any material effects related to outside company compliance.
The Company does not believe the costs related to the year 2000
compliance project will be material to its financial position or results of
operations. However, the costs of the project and the date on which the
Company plans to complete the year 2000 modifications are based on
management's best estimates, which were derived utilizing numerous
assumptions of future events including the continued availability of
certain resources, third party modification plans and other factors. As a
result, there can be no assurance that these estimates will be achieved and
the actual costs and vendor compliance could differ materially from those
plans, resulting in a material financial risk.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not Required.
15
<PAGE>
PART II.
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
As previously reported, the Company is a defendant in two legal
actions, which are referred to as the 7-Eleven OFFF and Valente cases,
filed by franchisees in 1993 and 1996, respectively, asserting various
claims against the Company. A nationwide settlement has recently been
negotiated and, in connection with the settlement, these two cases have
been combined on behalf of a class of all persons who operated 7-Eleven
convenience stores in the United States at any time between January 1, 1987
and July 31, 1997, under franchise agreements with the Company. Class
members have overwhelmingly approved the settlement, and the court
presiding over the settlement process gave its final approval of the
settlement on April 24, 1998. The settlement will become effective in
August, unless an appeal is filed. The Company's accruals are sufficient
to cover the payment due under the settlement with no material impact on
1998 earnings.
There are no other reportable suits or proceedings pending or
threatened against the Company other than as previously reported.
ITEM 2. CHANGES IN SECURITIES.
On March 31, 1998, the Company called its 12% Second Priority Senior
Subordinated Debentures, (Series C) due on June 15, 2009 (the
"12% Debentures") for redemption at par value plus accrued interest.
Please see "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Extraordinary Gain" elsewhere in this Form 10-Q for
further detail about the redemption of the 12% Debentures and refinancing
related thereto. In February 1998, the Company issued $80 million of 4.5%
Convertible Quarterly Income Debt Securities due 2013 to Ito-Yokado Co.,
Ltd. ($40.8 million) and Seven-Eleven Japan Co., Ltd. ($39.2 million).
Please see "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Liquidity and Capital Resources" in this Form 10-Q
for further detail about these securities.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits:
1. Exhibit (15) -- Letter re Unaudited Interim Financial
Information.
Letter of Coopers & Lybrand L.L.P.,
Independent Accountants.
2. Exhibit (27) -- Financial Data Schedule.
Submitted in electronic format only.
(b) 8-K Reports:
During the first quarter of 1998, the Company filed no reports on Form 8-K.
16
<PAGE>
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.
THE SOUTHLAND CORPORATION
(Registrant)
Date: May 13, 1998 /s/ Clark J. Matthews, II
------------------------------
(Officer)
Clark J. Matthews, II
President and Chief Executive Officer
Date: May 13, 1998 /s/ Donald E. Thomas
--------------------------------
(Principal Accounting Officer)
Donald E. Thomas
Vice President and Controller
17
Exhibit 15
Securities and Exchange Commission
450 Fifth Street, Northwest
Washington, D.C. 20549
Attention: Document Control
Re: The Southland Corporation Form 10-Q
We are aware that our report dated April 21, 1998 on our review of the
condensed consolidated balance sheet of The Southland Corporation and
Subsidiaries as of March 31, 1998, and the condensed consolidated
statements of earnings and cash flows for the three-month period then
ended, included in this Form 10-Q, is incorporated by reference in the
following registration statements:
REGISTRATION NO.
On Form S-8 for:
Post-Effective Amendment No. 1 to The Southland
Corporation Grant Stock Plan 33-25327
The Southland Corporation 1995 Stock Incentive Plan 33-63617
The Southland Corporation Supplemental Executive
Retirement Plan for Eligible Employees 333-42731
Pursuant to Rule 436(c) under the Securities Act of 1933, this report
should not be considered a part of the registration statement prepared or
certified by us within the meaning of Sections 7 and 11 of that Act.
COOPERS & LYBRAND L.L.P.
Dallas, Texas
May 12, 1998
Tab 1
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> MAR-31-1998
<CASH> 3,055
<SECURITIES> 0
<RECEIVABLES> 137,431
<ALLOWANCES> 7,383
<INVENTORY> 102,253
<CURRENT-ASSETS> 384,342
<PP&E> 2,847,816
<DEPRECIATION> 1,385,684
<TOTAL-ASSETS> 2,135,424
<CURRENT-LIABILITIES> 752,153
<BONDS> 1,902,391
<COMMON> 41
0
0
<OTHER-SE> (709,680)
<TOTAL-LIABILITY-AND-EQUITY> 2,135,424
<SALES> 1,594,958
<TOTAL-REVENUES> 1,615,401
<CGS> 1,140,539
<TOTAL-COSTS> 1,140,539
<OTHER-EXPENSES> 471,716
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 22,573
<INCOME-PRETAX> (19,427)
<INCOME-TAX> (7,322)
<INCOME-CONTINUING> (12,105)
<DISCONTINUED> 0
<EXTRAORDINARY> 17,871
<CHANGES> 0
<NET-INCOME> 5,766
<EPS-PRIMARY> 0.01 <F1>
<EPS-DILUTED> 0.01 <F2>
<FN>
<F1> BASIC EPS FROM CONTINUING OPERATIONS (BEFORE EXTRAORDINARY ITEM) IS (.03)
<F2> DILUTED EPS FROM CONTINUING OPERATIONS (BEFORE EXTRAORDINARY ITEM) IS (.03)
</FN>
</TABLE>
