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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 (FEE REQUIRED) FOR THE FISCAL YEAR ENDED JANUARY 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 (NO FEE REQUIRED) FOR THE TRANSITION PERIOD FROM
____________ TO ___________
Commission File No. 0-23389
PAPER WAREHOUSE, INC.
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(Exact name of registrant as specified in its charter)
MINNESOTA 41-1612534
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(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
7630 EXCELSIOR BOULEVARD
MINNEAPOLIS, MN 55426
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(Address of principal executive offices) (Zip Code)
(612) 936-1000
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(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK, $.01
PAR VALUE
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
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Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. /X/
As of April 21, 1998, 4,557,187 of the Registrant's Common Stock were
outstanding. The aggregate market value of the Common Stock held by
non-affiliates of the Registrant on such date, based upon the last sale price of
the Common Stock as reported on the Nasdaq National Market on April 21, 1998,
was $14,114,214. For purposes of this computation, affiliates of the Registrant
are deemed only to be the Registrant's executive officers and directors.
DOCUMENTS INCORPORATED BY REFERENCE
PART III - Portions of the Registrant's definitive proxy statement in connection
with the annual meeting of the shareholders to be held on June 5, 1998 are
incorporated by reference into Items 10 through 13, inclusive.
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ITEM 1. BUSINESS
THE FOLLOWING DISCUSSION CONTAINS TREND INFORMATION AND OTHER
FORWARD-LOOKING STATEMENTS THAT INVOLVE A NUMBER OF RISKS AND UNCERTAINTIES.
THE ACTUAL RESULTS OF PAPER WAREHOUSE, INC. (THE "COMPANY") COULD DIFFER
MATERIALLY FROM THE COMPANY'S HISTORICAL RESULTS OF OPERATIONS AND THOSE
DISCUSSED IN THE FORWARD-LOOKING STATEMENTS. FACTORS THAT COULD CAUSE ACTUAL
RESULTS TO DIFFER MATERIALLY INCLUDE, BUT ARE NOT LIMITED TO, THOSE IDENTIFIED
IN "-CERTAIN FACTORS."
Paper Warehouse, Inc., a Minnesota corporation ("Paper Warehouse" or the
"Company") is a growing chain of stores specializing in party supplies and paper
goods operating under the names PAPER WAREHOUSE and PARTY UNIVERSE. The
Company's four principal markets are Minneapolis/St. Paul, Kansas City, Denver
and Oklahoma City. Paper Warehouse stores offer an extensive assortment of
special occasion, seasonal and everyday paper products, including party
supplies, gift wrap, greeting cards and catering supplies, at everyday low
prices. The Company's 124 stores (73 Company-owned and 51 franchised stores) are
conveniently located in major retail trade areas to provide customers with easy
access to its stores.
The Company offers a broad selection of party supplies and paper goods for
a wide variety of celebratory occasions and everyday uses, including birthdays,
weddings, baby showers, graduations and other family and religious celebrations,
as well as seasonal events such as Valentine's Day, Easter, Fourth of July,
Halloween, Thanksgiving, Christmas, Hanukkah and New Year's. Through the
Company's 8,500 square foot superstore prototype, the Company offers a
comprehensive selection of over 19,000 SKUs, which provides customers the
convenience of one-stop shopping for all party supplies and paper goods. The
Company's merchandise is organized by party themes, and the prominent signage
and wide aisles allow customers to easily access and coordinate the merchandise
required for all party occasions. The Company also believes that its extensive
selection, combined with high in-stock positions, often stimulates customers to
purchase additional products.
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PAPER WAREHOUSE STORES
FORMAT. The Company developed its current store prototype based on
management's industry and other extensive retail experience and customer
research. Paper Warehouse operates stores that range in size from 3,000 square
feet to 8,500 square feet of retail space. Management introduced its current
8,500 square foot prototype store in 1994 and believes it is the optimal store
format for its future growth. Of the 73 Company-owned stores approximately 80%
are 6,000 square feet or larger.
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Paper Warehouse stores are designed to create a customer friendly
environment. The Company uses vibrant colors, theme-oriented merchandise
displays and unique products to create a fun and festive shopping experience.
The focal point of the Company's stores is the seasonal display located at the
front of each store which creates a "store-within-a-store" appearance. These
displays maximize the season's selling impact and are updated continuously to
promote a fresh image within the store. Customers are able to easily move about
the different departments and find specific product categories due to prominent,
easy to read signage, bright lighting and wide aisles. To assist customers in
coordinating party supplies for any occasion, the Company locates related
departments, such as gift wrap and greeting cards, adjacent to one another and
displays related merchandise such as party hats, plates, cups and napkins
together within a department. Management believes that the Paper Warehouse store
layout assists customers in finding and coordinating their party supply needs,
as well as encourages browsing, impulse purchases and repeat visits.
CUSTOMER SERVICE. Paper Warehouse seeks to provide a high level of
customer service to enhance its customer friendly store environment. Store
managers and sales associates are trained to assist customers with party
planning and event coordination. In addition, the Company provides party
planning guides and checklists for graduation, Halloween, Hanukkah, Christmas
and New Year's. The Company's "no hassle" return policy makes it easy for
customers to return or exchange products, which the Company believes encourages
customers to purchase additional quantities. Certain products which require
additional sales assistance, such as balloons and custom printing, are located
near check-out counters where sales associates can readily assist customers.
Management continually monitors its level of customer service by regular store
visits and by employing anonymous "mystery shoppers." Mystery shoppers visit all
Company-owned stores at least once per quarter to rate personnel on various
aspects of customer service, including responsiveness, quality of product
displays and store cleanliness. A portion of store managers' compensation is
based on the results of these mystery shopper surveys.
OPERATIONS AND TRAINING. Each Company-owned store is typically operated by
a general manager, one assistant manager and a varying number of full-time and
part-time sales associates, depending on the store size, sales volume and
selling season. General managers are responsible for all aspects of the store's
day-to-day operations, including employee hiring and training, work scheduling,
expense control and customer service. These managers report to a district or
operations manager, each of whom is responsible for approximately 10 to 18
stores. Within each geographic market, the Company uses floating managers to
assist in smaller stores that cannot support both a manager and an assistant
manager. In addition, floating managers support store managers during busy
holiday seasons and substitute for store managers during vacations and other
absences. The floating managers also work with newly hired store managers to
ensure a smooth transition for sales personnel and customers.
Prior to the opening of a new Company-owned store, store managers are
usually intensely trained for two weeks, depending on prior experience and
receive additional on-going training. During the new store set-up, a manager
receives additional training from the Company's district
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management team. After the store opening, corporate headquarters personnel spend
considerable time overseeing the operations. Each district has a dedicated
trainer who visits the stores to work with the Store Managers, reinforcing prior
training and providing on-going training. Periodic training sessions are
scheduled for store managers in the central or district offices on various
topics, including human resources, merchandising, loss prevention and employee
supervision. Additional training topics are covered at monthly managers'
meetings and through monthly mailings and the Company's monthly newsletter.
Paper Warehouse stores are typically open from 9:00 a.m. to 9:00 p.m.
Monday through Friday, from 9:00 a.m. to 6:00 p.m. on Saturday and from
11:30 a.m. to 5:00 p.m. on Sunday.
SITE SELECTION AND LOCATION
SITE SELECTION. In order to efficiently cluster stores in metropolitan
markets, the Company has developed a site selection process that examines
various criteria, including population density, demographics, traffic counts,
storefront visibility and presence, local competition, lease rates and parking
availability. The Company locates its stores in or near visible high traffic
strip mall centers in close proximity to prominent mass merchandise, discount or
grocery store anchors. The Company's strategy of clustering stores in
metropolitan markets promotes customer convenience and creates favorable
economies of scale for marketing, advertising and operations.
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LOCATIONS. As of January 30, 1998, Paper Warehouse had 73 Company-owned
stores in the following locations:
<TABLE>
<CAPTION>
LOCATION NUMBER OF STORES
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<S> <C>
Minnesota
Minneapolis/St. Paul Metropolitan Area . . . . . . . . . . . . . . 26
Mankato . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Rochester . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
St. Cloud . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Kansas/Missouri
Kansas City Metropolitan Area . . . . . . . . . . . . . . . . . . 16
Columbia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
St. Joseph . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Colorado
Denver Metropolitan Area . . . . . . . . . . . . . . . . . . . . . 11
Oklahoma
Oklahoma City Metropolitan Area . . . . . . . . . . . . . . . . . 7
Tulsa . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
Iowa
Des Moines . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
Wisconsin
Onalaska . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Eau Claire . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
</TABLE>
MERCHANDISING
The Company offers a broad selection of party supplies and paper goods for
a wide variety of celebratory occasions and everyday uses, including birthdays,
weddings, baby showers, graduations and other family and religious celebrations,
as well as seasonal events such as Valentine's Day, Easter, Fourth of July,
Halloween, Thanksgiving, Christmas, Hanukkah and New Year's. Through the
Company's 8,500 square foot store prototype, the Company offers a comprehensive
selection of over 19,000 SKUs, which provides customers the convenience of
one-stop shopping for all party supplies and paper goods. The Company's
merchandise is organized by party themes, and the prominent signage and wide
aisles allow customers to easily access and coordinate the merchandise required
for all party occasions. The Company also believes that its extensive selection,
combined with high in-stock positions, often stimulates customers to purchase
additional products.
The Company's merchandise offering consists of the following:
PARTY SUPPLIES. The Company offers an extensive selection of complementary
and coordinating party supplies in both unique and traditional patterns, colors
and designs. The
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Company's party supplies include invitations, plates, napkins, party favors,
streamers, banners, candles, balloons, party snacks and seasonal novelties such
as Halloween costumes and Christmas decor. The Company's 8,500 square foot store
prototype offers over 140 ensembles of party goods for many occasions, which
include party hats, plates, napkins and cups. A significant portion of the
Company's party goods ensembles involves the use of movie and television
figures, animated characters and celebrity likenesses licensed to the
manufacturer of such ensembles.
GIFT WRAPPING PRODUCTS. The Company offers a wide assortment of gift
wrapping products in various patterns and colors, including gift wrap, gift
bags, gift boxes, tissue paper, ribbons, bows, shred and gift tags. In addition
to holiday selections, the Company offers distinctive gift packaging products
for special occasions such as birthdays, graduations, weddings, baby showers and
other family and religious celebrations.
GREETING CARDS. The Company features a wide variety of special occasion,
seasonal and everyday greeting cards. The Company's 8,500 square foot prototype
store offers over 3,300 titles. The Company carries traditional, humorous and
contemporary brand name greeting cards at significantly lower prices than
national greeting card chain stores.
HOUSEHOLD AND CATERING FOOD SERVICE SUPPLIES. The Company offers paper
supplies such as toilet paper, paper towels, dispenser towels, plates, cups,
serving trays and bowls and table coverings. In addition to offering such
products to the Company's regular party goods customers, the Company is a paper
product supplier for many commercial users of paper products, including catering
companies and non-profit organizations.
The Company provides customers with everyday low pricing on all products,
at discounts ranging from 10% to 50% off the manufacturer's suggested retail
price. In addition, the Company guarantees that it will meet or beat any
advertised price on the products it offers. The Company reinforces its everyday
low price strategy with signs prominently displayed throughout its stores and
extensive promotional advertising.
PRODUCT SOURCING AND INVENTORY MANAGEMENT
The Company purchases its merchandise from approximately 150 suppliers. In
fiscal 1997, the Company's largest supplier, Amscan Holdings, Inc., accounted
for approximately 11% of the Company's purchases and the eight largest suppliers
represented approximately 52% of the Company's purchases. The Company does not
have long-term purchase commitments or exclusive contracts with any of its
suppliers. Management believes that alternative sources of product are available
at comparable terms and conditions. The Company considers numerous factors in
supplier selection, including price, payment terms, product offerings and
product quality.
The Company negotiates pricing with suppliers on behalf of all
Company-owned and franchise stores and believes that its buying power enables it
to receive favorable pricing terms and to more readily obtain high demand
merchandise. Although franchise stores are responsible
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for purchasing their own inventory, franchisees are able to make purchases on
the Company's negotiated pricing terms. As the Company adds new stores, the
Company believes it will increase the volume of its inventory purchases and
benefit further from increased discounts and trade allowances and more favorable
payment terms from its suppliers.
More than 95% of the Company's merchandise is shipped directly from the
supplier to the Company's stores. Drop shipment of merchandise provides the
Company with flexibility in pursuing new markets without the geographical
constraints and costs associated with a central distribution system. Deliveries
are processed and inventory items are inspected, sorted and priced in a
segregated receiving area in the back of the store (approximately 10% of total
gross square feet per store) before being placed on the selling floor. The
Company believes that it realizes substantial savings by not maintaining a
central distribution system.
In addition, the Company uses cross-dock distribution for suppliers that
will not ship directly to each store, such as overseas suppliers, and to
facilitate opportunistic volume purchases by the Company. The Company maintains
space for cross-dock distribution in each of the Company's principal
metropolitan markets, including Minneapolis/St. Paul, Denver, Oklahoma and
Kansas City, for separation and redistribution to the other Paper Warehouse
stores within that market. The Company's primary cross dock facility in
Minneapolis is designed for the separation and distribution of merchandise
system wide.
ADVERTISING AND MARKETING
The Company maintains aggressive advertising and marketing programs. The
Company's strategy of clustering stores in metropolitan markets enables it to
cost effectively employ a variety of media. The Company advertises primarily
through newspaper and direct mail inserts, television and radio. Paper Warehouse
also promotes products through the use of direct mail mini-catalogs, as well as
through in-store coupon books and party planning aids.
The Company's advertising efforts are designed to educate consumers about
its convenient store locations, promote the breadth and value of its product
offering and increase its name recognition. The Company's advertising consists
primarily of full color newspaper and direct mail inserts designed around major
holidays and the spring and summer seasons. For fiscal 1997, the Company
distributed 19 newspaper and direct mail inserts. Inserts are supplemented by
television advertising for Halloween, Christmas and New Year's and by radio
advertising for graduation, Easter and the spring season. In addition, Paper
Warehouse typically advertises the opening of new stores in newspaper and direct
mail inserts and on radio.
Management has initiated a targeted direct mail program to increase sales
for special events. The Company currently mails mini-catalogs of wedding and
graduation party goods to brides-to-be and families of high school graduates.
Management has recently expanded this direct mail program to other special
occasions such as a child's first birthday. The Company also plans to produce a
mini-catalog for organizations purchasing basic party and paper goods for
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commercial or institutional use. The Company's institutional customers include a
variety of small businesses, food product companies, schools, synagogues,
churches, civic groups and other organizations.
For fiscal 1997, the Company spent approximately 80% of its marketing
budget on full color newspaper and direct mail inserts, approximately 15% for
television and radio advertising and the remainder of the budget was used for
direct mail mini-catalogs and in-store sales promotions.
INFORMATION SYSTEMS
The Company's information systems are an important factor in supporting its
continued expansion and enhancing its competitive position in the industry. The
Company completed the installation of Point of Sale ("POS") terminals in all its
Company owned stores in third quarter 1996. The POS terminals allow price lookup
and inventory tracking by SKU. By polling transaction data nightly from each
store's POS terminals, the system provides daily sales information and inventory
levels at the store, department, class and SKU level, allowing the corporate
office to monitor daily sales, gross profit, pricing and inventory by SKU across
its entire store base. Also, the Company's automatic merchandise replenishment
system uses this information to allocate goods to individual stores based on
specific SKU requirements.
The Company entered into an agreement with JDA Software Company in
September 1997 to replace its current corporate office software. Implementation
began during the third quarter of 1997 and is estimated to be completed during
the first quarter of 1998. The JDA retail software package operates on an IBM
AS/400 platform, which required the Company to purchase new hardware. Switching
hardware platforms provided the Company the benefit of parallel operations
during the conversion process. In addition, the Company plans to make extensive
use of JDA's Minneapolis consulting office in both the implementation and data
conversion process.
The JDA system supports the complete range of retail cycle functions in the
areas of finance, merchandising and distribution, providing management with more
sophisticated tools to utilize the information collected by its POS terminals.
In addition, the Company plans to develop enhancements such as data warehousing
and electronic data interchange to improve the Company's ability to
systematically manage its inventory. The Company's current information system is
already performing most of these functions, however, management believes JDA
will improve the efficiency of these tasks.
FRANCHISING
The Company has offered franchises of its Paper Warehouse store concept
since October 1987. As of January 30, 1998, the Company had 51 franchise stores.
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The Company's 51 franchise stores are located in the following states:
<TABLE>
<CAPTION>
LOCATION NUMBER OF
STORES
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<S> <C>
Arizona . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
Colorado . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
Florida . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Georgia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Illinois . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
Iowa . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Kansas . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Kentucky . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Louisiana . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Maryland . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Minnesota . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Mississippi . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Missouri . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Montana . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Nebraska . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Nevada . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
North Dakota . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
South Dakota . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Tennessee . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Texas . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Wyoming . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
</TABLE>
The Company establishes franchise stores in markets that are not contiguous
to metropolitan areas with Company-owned stores. In addition, the Company grants
development rights in metropolitan markets where the Company does not plan to
open Company-owned stores. The Company believes that these markets typically are
not served adequately by the party goods industry. In addition to generating
franchise revenues, franchise stores benefit the Company through increased name
recognition and increased buying power from its suppliers.
The Company assists franchisees in all aspects of opening and operating a
Paper Warehouse store. During the pre-opening phase, Company support includes
site evaluation and assistance with lease negotiations, store build-out
assistance, fixture, equipment, supplies and inventory procurement, opening
advertisement materials and operational training. The Company provides its
franchisees with ongoing services such as business planning, operations and
promotional activities. In addition, the Company performs the merchandising
process for its franchisees. The Company makes periodic inspections of its
franchise stores to ensure that the franchisee is complying with the Company's
various requirements and quality standards. The Company generally has not
granted franchisees the right to prevent the Company or other
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franchisees from establishing stores within a particular territory. However, the
Company has entered, and may in the future enter, into multiple store
development agreements with franchisees granting to them certain exclusive
rights to develop stores in specified markets, so long as the franchisee meets a
stated development schedule and complies with other provisions of the
development agreement and the franchise agreement.
Paper Warehouse franchise revenues are comprised of initial franchise fees
and continuing royalty payments. The Company's current initial franchise fee
ranges from $19,000 to $25,000 for new franchisees, depending on the type of
store. The Company occasionally negotiates a special rate for developers opening
multiple stores. If a franchisee enters into a second or third franchise
agreement it may receive a discount on the initial fee associated with the
second or third store. Franchisees are also required to pay the Company a
continuing royalty equal to a percentage of their weekly gross sales.
Historically, this percentage has varied from 3% to 5%. Currently, new
franchises pay the Company a continuing royalty of 4% of gross sales.
The franchisee's initial investment depends primarily upon store size. This
investment includes the initial franchise fee, real estate and leasehold
improvements, fixtures and equipment, signs, point-of-sale systems, deposits and
business licenses, initial inventory, opening promotional expenses and working
capital. The Company may also require franchisees to pay a weekly advertising
fee not to exceed 1% of gross sales, although to date it has not required such
fee. Each franchisee is granted a license from the Company for the right to use
certain intellectual property rights, including the mark PAPER WAREHOUSE or
PARTY UNIVERSE and related designs. The Company's franchise agreements provide
for a ten-year term and often contain conditional renewal options.
COMPETITION
The party and paper supply retailing business is highly competitive. In
order to compete successfully against other party good retailers, the Company
believes it must maintain convenient locations, broad merchandise selections,
competitive pricing and strong customer service. Paper Warehouse stores compete
with a variety of smaller and larger retailers, including specialty party supply
retailers such as Party City and Factory Card Outlet, card shops such as
Hallmark and designated departments in mass merchandisers, discount retailers,
toy stores, drug stores, supermarkets and department stores such as Target and
Wal-Mart. Many of these competitors have substantially greater financial
resources than the Company.
TRADEMARKS AND SERVICE MARKS
The marks PAPER WAREHOUSE and PARTY UNIVERSE are federally registered
trademarks owned by the Company. The Company is aware of the common law usage of
the name PAPER WAREHOUSE by several companies in various parts of the United
States, which may prevent the Company from using that name in certain regional
markets. In markets where PAPER WAREHOUSE cannot be used by the Company, it
intends to use the name PARTY UNIVERSE, for Company-owned
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and franchise stores. Because of the Company's regional approach to advertising
and store clustering, the Company believes that the use of a single trademark
within each market is more important to its growth and business strategy than
the use of one mark nationally.
GOVERNMENT REGULATION
As a franchisor, the Company must comply with rules and regulations adopted
by the Federal Trade Commission and with state laws that regulate the offer and
sale of franchises. The Company also must comply with a number of state laws
that regulate certain substantive aspects of the franchisor-franchisee
relationship. These laws regulate the franchise relationship, for example, by
requiring the franchisor to deal with its franchisees in good faith, by
prohibiting interference with the right of free association among franchisees
and by regulating illegal discrimination among franchises with regard to
charges, royalties or fees. To date, those laws have not precluded the Company
from seeking franchisees in any given area and have not had a material adverse
effect on the Company's operations.
All Paper Warehouse stores must comply with regulations adopted by federal
agencies and with licensing and other regulations enforced by state and local
health, sanitation, safety, fire and other departments. More stringent and
varied requirements of local governmental bodies with respect to zoning, land
use and environmental factors and difficulties or failures in obtaining the
required licenses or approvals, can delay and sometimes prevent the opening of a
new store. In addition, the Company must comply with the Fair Labor Standard Act
and various state laws governing matters such as minimum wage, overtime and
other working conditions. The Company also must comply with the provisions of
the Americans with Disabilities Act of 1990, which generally requires that
employers provide reasonable accommodation for employees with disabilities and
that stores be accessible to customers with disabilities.
EMPLOYEES
As of January 30, 1998, the Company employed approximately 230 full-time
and approximately 590 part-time employees. The Company considers its
relationships with its employees to be good. None of the Company's employees is
covered by a collective bargaining agreement.
CERTAIN FACTORS
IN ADDITION FACTORS DISCUSSED ELSEWHERE IN THIS ANNUAL REPORT ON FORM 10-K,
THE FOLLOWING ARE IMPORTANT FACTORS THAT COULD CAUSE ACTUAL RESULTS OR EVENTS TO
DIFFER MATERIALLY FROM THOSE CONTAINED IN ANY FORWARD-LOOKING STATEMENT MADE BY
OR ON BEHALF OF THE COMPANY.
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RISKS ASSOCIATED WITH GROWTH
The Company's ability to increase its sales and net earnings will depend
in part on its ability to open stores in new and existing markets and to
operate such stores on a profitable basis. Paper Warehouse, which currently
operates 73 Company-owned stores, opened 11 Company-owned stores during
fiscal 1996 and nine Company-owned stores during fiscal 1997. In fiscal 1998,
Paper Warehouse expects to open approximately 25 Company-owned stores. Over
one-half of such stores are planned to be opened in two new geographic
markets, Seattle and Omaha. If satisfactory sites are not available in such
markets or there is a change in the competitive environment, alternative
markets may be selected. One of the Company's primary competitors currently
has several stores in one of these markets. This planned expansion represents
a significant increase in the number of stores previously opened and operated
by the Company.
RISK OF OPENING NEW STORES
The Company's planned expansion in both new and existing markets is subject
to many risks, including, but not limited to, failure to identify suitable
markets, the unavailability of suitable sites on acceptable lease terms and the
failure to obtain qualified management and other store personnel. Operating
stores in new geographic markets may present competitive and merchandising
challenges that are different from those currently faced by the Company in its
existing geographic markets. Such challenges include adapting to local tastes
and customs as well as competing against local established and familiar
businesses, that may have innovative or other unique techniques for marketing
party supplies and paper goods. The Company's expansion plans may also place
significant demands on the Company's management, financial controls, operations
and information systems and may cause the Company to incur higher costs relating
to marketing and operations. The Company's expansion plans will also require an
increase in Company personnel, particularly store managers and sales associates
to operate the Company's new stores. There can be no assurance that the Company
will be able to continue to attract, develop, train and retain the personnel
necessary to pursue and maintain its growth and business strategies.
The Company's continued growth will depend on its ability to increase sales
in its existing stores. The opening of additional Company-owned stores in
existing markets could reduce sales from existing stores located in or near
those markets. Although the Company believes it has planned carefully for the
implementation of its expansion program, there can be no assurance that such
plans can be executed as presently envisioned or that the implementation of
those plans will not have an adverse effect on the Company's business, financial
condition and results of operations.
POTENTIAL NEED FOR ADDITIONAL FINANCING
The Company currently intends to finance new stores with cash generated
from operations, proceeds from the Company's initial public offering, payment
terms from vendors and available
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<PAGE>
borrowings. The Company believes that funds from these sources will be
sufficient to finance the Company's growth plan to open approximately 25 stores
in fiscal 1998. To the extent that the funds generated from the sources
described above are insufficient to finance the Company's growth plans, the
Company would need to raise additional funds through debt or equity financing.
No assurance can be given that additional financing will be available or that,
if available, it will be available on terms favorable to the Company.
RISK OF POTENTIAL ACQUISITIONS
As part of its growth strategies, the Company periodically considers
strategic acquisitions of other retail stores or chains in the party supply
industry. As of the date of this Annual Report on Form 10-K, the Company has no
existing agreements or commitments to affect any material acquisitions. There
can be no assurance that suitable acquisition candidates will be identified,
that acquisitions can be consummated or that new stores acquired through such
acquisitions can be operated profitably or integrated successfully into the
Company's operations. Further, growth through acquisition entails certain risks
to the Company, including unanticipated business uncertainties, including
diversion of management attention, legal liabilities and significant costs and
expenses to the Company to complete the acquisition, any of which could have a
material adverse effect on the Company's business, financial condition and
results of operations.
RISK OF SEASONAL AND QUARTERLY REVENUE AND OPERATING FLUCTUATIONS
The Company's results of operations have historically fluctuated from
quarter to quarter for such reasons as seasonal variations in revenues and
operating expenses, the amount and timing of revenues contributed by new
Company-owned and franchise stores, the costs associated with the opening of new
stores and expenses incurred to support the Company's expansion strategy. As a
result of these seasonal variations, a significant portion of the Company's
operating income is generated in the second and fourth fiscal quarters.
Historically, the Company has engaged in more promotional activity during the
third quarter than the second quarter which results in reduced operating income
for the third quarter as compared to the second quarter. Any factors negatively
affecting the Company during the second and fourth fiscal quarters could have a
material adverse effect on the Company's financial condition and results of
operations for the entire fiscal year. Further, as a result of the seasonality
of the Company's revenue, the Company expects to incur a loss in the first
quarter of each year for the foreseeable future.
RISKS ASSOCIATED WITH FRANCHISEES
During fiscal 1998 the Company plans to establish between approximately 15
new franchise stores. The continued growth and success of the Company is
dependent in part upon its ability to attract, contract with and retain
qualified franchisees and the ability of those franchisees to operate their
stores successfully and promote and develop the Paper Warehouse store concept.
Although the Company has established criteria to evaluate prospective
franchisees and the Company's franchise agreements include certain operating
standards, each franchisee operates its
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store independently and the Company is limited in its ability to influence
day-to-day store operations. There can be no assurance that franchisees will be
able to operate Paper Warehouse stores successfully in their franchise areas in
a manner consistent with the Company's concepts and standards. Accordingly, the
Company's franchisees could operate their stores in a manner that damages the
Company's reputation and, by reducing the gross revenues of such stores, reduce
the franchise revenue received by the Company.
FAILURE TO ANTICIPATE AND/OR RESPOND TO MERCHANDISING TRENDS
The Company's success depends, in part, on its ability to anticipate and
respond, in a timely manner, to changing merchandise trends and consumer
demands. The Company makes merchandising decisions well in advance of the
seasons when such merchandise will be sold. Accordingly, any delay or failure by
the Company in identifying and responding to emerging trends could adversely
effect consumer acceptance of the merchandise in the Company's stores, which
would have a material adverse effect on the Company's business, financial
condition and results of operations. Certain licensed products sold by the
Company are in great demand for short time periods making it difficult to
project inventory needs for such products. Significant deviations from projected
demand for its products, in particular licensed products, could have a material
adverse effect on the Company's business, financial condition and results of
operations, either from lost sales due to insufficient inventory, higher
carrying costs associated with slower turning inventory or reduced or eliminated
margins due to the need to mark down excess inventory.
HIGHLY COMPETITIVE MARKET
The party supplies and paper goods retailing business is highly
competitive. Paper Warehouse stores compete with a variety of smaller and larger
retailers, including specialty party supply retailers (including other
superstores), card shops and designated departments in mass merchandisers,
discount retailers, toy stores, drug stores, supermarkets and department stores.
Many of the Company's competitors have substantially greater financial and
personnel resources than the Company. The Company may also encounter additional
competition from new entrants in the future in the Company's existing or planned
new markets. Increased competition by existing or future competitors may have a
material adverse effect on the Company.
DEPENDENCE ON SUPPLIERS
The Company purchases its merchandise from approximately 150 suppliers. In
fiscal 1997, the Company's largest supplier represented approximately 11% of the
Company's purchases and the eight largest suppliers accounted for approximately
52% of the Company's purchases. The Company's future success is partially
dependent upon its ability to maintain good relationships with its principal
suppliers. Many of the Company's principal suppliers currently provide the
Company with certain incentives, such as volume purchasing allowances and trade
discounts. A reduction or discontinuance of these incentives could have a
material adverse effect on the Company. The Company does not have long-term
contracts with any of its suppliers, and any
15
<PAGE>
supplier could discontinue selling to the Company at any time. While the Company
believes its supplier relationships are good, the failure by the Company to
maintain good relationships with its principal suppliers could have a material
adverse effect on the Company's business, financial condition or results of
operations.
EFFECT OF CHANGES IN CONSUMER PREFERENCES AND ECONOMIC CONDITIONS
The party goods business would be adversely affected if consumer demand for
single-use, disposable party goods were to diminish. For example, if cost
increases in raw materials such as paper or plastic were to cause the Company's
prices to increase significantly, consumers might decide to forgo the
convenience associated with single-use, disposable products and use standard
dinnerware and flatware. Similarly, changes in consumer preferences away from
disposable products and in favor of reusable products for environmental or other
reasons could reduce the demand for the Company's products. In addition, future
adverse changes in economic conditions affecting disposable consumer income,
such as employment levels, the rate of inflation, interest rates and taxation,
could have an adverse effect on the party good business. Because its operations
are located principally in four metropolitan areas, the Company is also subject
to certain regional risks, such as the economy, weather conditions, natural
disasters and governmental regulations. If any region in which the Company
operates stores were to suffer an economic downturn or other adverse regional
events were to occur, there could be an adverse impact on the Company's sales
and profitability and its ability to implement its planned expansion programs.
GOVERNMENT REGULATION
The Company, as a franchisor, is subject to regulation by the Federal Trade
Commission and also must comply with state laws regulating the offer and sale of
franchises and limiting the Company's ability to terminate or refuse to renew
franchises. The failure to obtain or maintain approvals to sell franchises could
adversely affect the Company. The Company and its franchisees are subject to
laws governing their relationships with employees, including minimum wage
requirements, overtime, working and safety conditions and citizenship
requirements. Because a significant number of the Company's employees are paid
at rates related to the federal minimum wage, increases in the minimum wage
would increase the Company's labor costs.
CONTROL BY MANAGEMENT; POSSIBLE ANTI-TAKEOVER EFFECT
Yale T. Dolginow, President and Chief Executive Officer, and Brent D.
Schlosser, Executive Vice President, own or have the right to vote and control
the disposition of 48.39% of the Company's outstanding Common Stock.
Accordingly, these persons, acting together, will have the ability to elect the
Company's directors and determine the outcome of other corporate actions
requiring shareholder approval, regardless of the vote of the other
shareholders. Such control by existing shareholders could have the effect of
delaying, deferring or preventing a change in control of the Company.
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<PAGE>
POSSIBLE VOLATILITY OF STOCK PRICE
The market price for the Company's Common Stock may be volatile and
fluctuate depending on various factors, including the general economy, stock
market conditions, analyst recommendations, news announcements concerning the
Company or the party supplies and paper goods industry, variations in the
Company's quarterly and annual operating results and other factors. The stock
market in general, and the market for shares of small capitalization stocks in
particular, have experienced significant price and volume fluctuations that
often have been unrelated to the operating performance of particular companies.
These market fluctuations may adversely effect the market price of the Common
Stock.
POSSIBLE ISSUANCES OF PREFERRED STOCK; ANTI-TAKEOVER EFFECT OF MINNESOTA LAW
Pursuant to the Company's Amended and Restated Articles of Incorporation,
the Board of Directors has authority to fix the rights, preferences, privileges
and restrictions, including voting rights, of any shares of the Company's
preferred stock and to issue such stock without any further vote or action by
the shareholders. The rights of the holders of Common Stock will be subject to,
and may be adversely affected by, the rights and preferences of the holders of
any shares of preferred stock that the Board of Directors may create and issue
in the future. The issuance of any such preferred stock could have the effect of
delaying, deferring or preventing a change in control of the Company. In
addition, certain provisions of Minnesota law applicable to the Company could
have the effect of discouraging certain attempts to acquire the Company, which
could deprive the Company's shareholders of opportunities to sell their shares
of Common Stock at prices higher than prevailing market prices and may also have
a depressive effect on the market price of the Company's Common Stock.
S CORPORATION STATUS; DISTRIBUTIONS
Since 1993 and until the Company's initial public offering, the Company was
treated as an S corporation under the Internal Revenue Code of 1986 as amended
(the "Code"). In connection with the public offering, the Company converted to a
"C" corporation in November 1997. The Company believes that it has met the
S corporation requirements and, as of the date hereof, the Internal Revenue
Service (the "IRS") and other applicable state taxing authorities have not
challenged the Company's S corporation status. If, for any reason, the Company
were subsequently determined by the IRS or other applicable state taxing
authorities not to have met S corporation requirements, the Company could be
liable to pay corporate taxes on its income at the effective corporate tax rate
for all or a part of the period from February 1, 1993 through the consummation
of the public offering, plus interest and possibly penalties.
ITEM 2. PROPERTIES
Paper Warehouse currently leases the locations for its 73 Company-owned
stores. The Company purchased an approximate 25,000 square foot building for its
headquarters and cross-dock
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distribution facility in St. Louis Park, Minnesota in 1995. As of January 30,
1998, the secured debt on such property was $911,079, of which $504,143 was owed
to Richfield Bank & Trust Co. and $407,566 was owed to the U.S. Small Business
Administration. Richfield Bank & Trust Co. holds a first mortgage on such
property and the U.S. Small Business Administration holds a second mortgage. The
Company anticipates that its new Company-owned stores will typically have
ten-year leases with at least one five-year renewal option.
ITEM 3. LEGAL PROCEEDINGS
The Company is not a party to any material litigation and is not aware of
any threatened litigation that would have a material adverse effect on its
business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of the Company's security holders during
the fourth quarter of the fiscal year ended January 30, 1998.
EXECUTIVE OFFICERS OF THE REGISTRANT
YALE T. DOLGINOW, age 55, has been President, Chief Executive Officer
and a director of the Company since 1986. From 1982 to 1986, he served as
President and Chief Executive Officer of Carlson Catalog Showrooms, Inc.,
which was a chain of 59 catalog showrooms located throughout the Midwest.
From 1981 to 1982, Mr. Dolginow served as Assistant to the President of
Dayton Hudson Corporation. From 1978 to 1980, Mr. Dolginow served as
President of Modern Merchandising, Inc., a 70 store retail chain operating in
several markets, and as Executive Vice President from 1977 to 1978. From 1968
until 1976, Mr. Dolginow was the Chief Executive Officer and President of
Dolgin's, Inc., a chain of catalog showroom stores which operated in the
Kansas City and St. Louis metropolitan markets. Mr. Dolginow and Diane C.
Dolginow are husband and wife.
BRENT D. SCHLOSSER, age 44, has been Executive Vice President and a
director of the Company since 1986. From 1982 to 1986, he served in various
capacities, including Vice President Marketing/Buying and Executive Vice
President Marketing/Merchandising, at Carlson Catalog Showrooms, Inc. From 1977
to 1982, he served as Director of Marketing for Modern Merchandising, Inc. From
1975 to 1977, Mr. Schlosser was advertising director for Dolgin's, Inc.
CHERYL W. NEWELL, age 45, has been Vice President and Chief Financial
Officer of the Company since August 1997. From 1991 to August 1997, Ms. Newell
was a Vice President with the Corporate Banking Group at U.S. Bancorp, a bank
holding company, responsible for management of desktop technology, disaster
recovery and training and development. From 1986 to 1991 Ms. Newell was a Vice
President with Citicorp, a bank holding company. From 1976 to 1986, Ms. Newell
was a Vice President at Norwest Bank.
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DIANE C. DOLGINOW, age 54, has been a director of the Company since 1986
and Secretary since August 1997. Ms. Dolginow was a director of Dolgin's Inc.
from 1968 to 1976, and since 1994 has been a director on the National Advisory
Board of School of Education at University of Kansas. Ms. Dolginow and
Mr. Dolginow are husband and wife.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
PRICE RANGE OF COMMON STOCK
The Company completed its initial public offering on November 27, 1998.
Since that date the Common Stock has been quoted on the Nasdaq National Market
under the symbol PWHS.
The following table summarizes the high and low sale prices per share of
the Common Stock for the periods indicated, as reported on the Nasdaq National
Market:
<TABLE>
<CAPTION>
1997 HIGH LOW
<S> <C> <C>
Fourth Quarter (since November 27, 1997). . . . $8.625 $5.875
</TABLE>
On April 21, 1998, the last reported sale price for the Common Stock was
$6.00 per share. As of April 21, 1998, the Company had approximately 50 record
holders of Common Stock.
The Company has never paid any cash dividends with respect to its Common
Stock and the current policy of the Board of Directors is to retain any earnings
to provide for the growth of the Company.
ITEM 6. SELECTED FINANCIAL DATA
The Selected Financial Data presented below should be read in conjunction
with the Financial Statements and notes thereto included elsewhere in this Form
10-K, and in conjunction with "Management's Discussion and Analysis of Financial
Condition and Results of Operations" included elsewhere in this Form 10-K. The
selected financial data as of and for the five years ended January 30, 1998 have
been derived from the financial statements of the Company audited by KPMG Peat
Marwick LLP, independent certified public accountants.
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<PAGE>
SUMMARY OF FINANCIAL AND OPERATING DATA
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C>
1993 1994 1995 1996 1997
---- ---- ---- ---- ----
STATEMENT OF EARNINGS DATA:
Revenues . . . . . . . . . . . . . . . . . . . . . $18,218 $24,084 $33,478 $43,002 $52,949
Operating income . . . . . . . . . . . . . . . . . 1,096 1,494 1,781 2,080 983
Net income . . . . . . . . . . . . . . . . . . . . 980 1,281 1,286 1,303 (191)
Pro forma net income(1) . . . . . . . . . . . . . . 608 794 797 808 (207)
Pro forma net income per share(1) . . . . . . . . . 0.24 0.32 0.32 0.32 (0.08)
OPERATING DATA:
Number of stores open at end of period:
Company-owned stores . . . . . . . . . . . . . . 40 42 55 64 73
Franchise stores . . . . . . . . . . . . . . . . 21 29 53 50 51
Remodeled stores . . . . . . . . . . . . . . . . 9 8 8 1 3
Comparable store sales increase(2). . . . . . . . . 8.8% 16.6% 13.6%(3) 7.8%(3) 8.0%
BALANCE SHEET DATA: 1993 1994 1995 1996 1997
---- ---- ---- ---- ----
Working capital . . . . . . . . . . . . . . . . . . $ 979 $ 2,301 $ 925 $ 1,701 $ 9,383
Total assets . . . . . . . . . . . . . . . . . . . 5,517 8,211 14,934 16,270 21,017
Total debt(4) . . . . . . . . . . . . . . . . . . . 1,853 3,619 8,021 11,240 1,217
Total stockholders' equity . . . . . . . . . . . . 2,328 2,646 3,124 1,793 14,594
</TABLE>
- -----------
(1) Since February 1, 1993, the Company had been an S corporation and during
this period was not generally subject to corporate income taxes. The
statement of earnings data during this period reflects a pro forma
provision for income taxes as if the Company were subject to corporate
income taxes for such periods. This pro forma provision for income taxes is
computed using a combined federal and state tax rate of 38%.
(2) Company-owned stores enter the comparable store sales base at the beginning
of their 13th month of operations. Stores in which retail square footage is
increased more than 50%, or stores which are relocated, are no longer
included in the comparable store sales base until 12 months have passed.
(3) For purposes of computing the increase in comparable store sales, this
computation assumes fiscal 1995 was a 52 week year.
(4) Total debt consists of total current and long-term debt.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion of the Company's results of operations and its
liquidity and capital resources should be read in conjunction with "Selected
Financial Data" and the Financial Statements and notes thereto included
elsewhere in this Form 10-K.
OVERVIEW
Paper Warehouse is a growing chain of stores specializing in party supplies
and paper goods operating under the names Paper Warehouse and Party Universe.
The current management team purchased the business in 1986 and incorporated the
Company in Minnesota in 1987. At the time
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of the acquisition, the Company consisted of three stores located in the
Minneapolis/St. Paul metropolitan area. In 1987, the Company began granting
franchises. Over the past ten years, the Company has grown to an aggregate of
124 stores, including 73 Company-owned stores and 51 franchise stores throughout
23 states. In growing the number of Company-owned stores, management has
employed a strategy of clustering stores in the Company's principal markets to
provide its customers with convenient store locations, expand its total market
share and achieve favorable economies of scale.
The Company completed its initial public offering on November 28, 1997.
The total offering was for 1,778,000 shares of Common Stock, of which 1,778,000
were offered by the Company. Proceeds to the Company, net of offering expenses,
were approximately $11.7 million. On December 24, 1997, the underwriters
partially exercised their over allotment option and the Company sold an
additional 207,800 shares of Common Stock. Proceeds to the Company, net of
offering expenses, were approximately $1.4 million. The proceeds from the sale
of Common Stock were used to retire the Company's revolving line of credit,
prepay subordinated debt, and retire other existing indebtedness. The balance
of the proceeds will be used to finance new store openings and fund further
expansion.
Prior to November 28, 1997, the Company elected to be treated for federal
and state income tax purposes as an "S" corporation under the Internal Revenue
Code of 1986, as amended, and comparable state tax laws. For the purpose of
discussion and analysis, the Company has presented a pro forma tax provision and
pro forma net income. These pro forma amounts represent what the income tax
provision and the net income would have been if the Company had been a "C"
corporation and thus was subject to Federal income taxation for the entire
period. This pro forma provision is computed using a combined Federal and state
income tax rate of 38%.
Total revenue consists of Company-owned store sales and franchise revenues.
Franchise revenues are generated from royalties received on sales, generally 4%
of the store's sales, and initial franchise fees, which are recognized at the
time the franchisee signs a lease for the store. Company-owned stores enter the
comparable store sales base at the beginning of their 13th month of operations.
Stores in which retail square footage is increased more than 50%, or stores that
are relocated, are no longer included in the comparable store sales base until
12 months have passed. Cost of goods sold includes the direct cost of
merchandise, plus handling and distribution, coupon costs, and certain occupancy
costs. Store operating expenses include all costs incurred at the store level,
such as advertising, credit card processing fees, and store payroll. General
and administrative expenses include corporate administrative expense for
Company-owned stores and expenses relating to franchising, primarily payroll,
legal, travel, and advertising.
The Company has determined that the impact of the Year 2000 issues is not
material, because its mission critical operations are Year 2000 compliant.
Management has determined that any additional modifications will not have a
material impact on its business, operations, or financial condition.
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<PAGE>
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, selected
statement of operations data expressed as a percentage of net sales and the
number of stores open at the end of each period:
<TABLE>
<CAPTION>
FISCAL FISCAL FISCAL
1997 1996 1995
------ ------ ------
<S> <C> <C> <C>
Revenues:
Company-owned stores . . . . . . . . . 97.8% 97.4% 96.8%
Franchise related fees . . . . . . . . 2.2 2.6 3.2
----- ----- -----
Total Revenue . . . . . . . . . . . . 100.0 100.0 100.0
----- ----- -----
Costs and Expenses:
Costs of Products sold and occupancy
costs . . . . . . . . . . . . . . . . . 66.0 65.0 65.4
Store operating expenses . . . . . . . 21.7 20.3 19.0
General and administrative expenses. . 10.4 9.9 10.3
Operating income . . . . . . . . . . . 1.9 4.8 5.3
Interest expense, net of interest income 1.5 1.8 1.5
Expenses of canceled acquisition . . . . 0.5 0 0
Income before extraordinary Item . . (0.1) 3.0 3.9
Extraordinary item, net . . . . . . . . . (0.2) 0 0
Earnings before tax . . . . . . . . . (0.3) 3.0 3.9
Income taxes (Benefit) . . . . . . . . . 0.0 1.2 1.5
Net income. . . . . . . . . . . . . . (0.3)% 1.9% 2.4%
----- ----- -----
----- ----- -----
Number of Stores 124 114 108
</TABLE>
FISCAL YEAR 1997 (52 WEEKS) COMPARED TO FISCAL YEAR 1996 (52 WEEKS)
REVENUE. Company-owned store revenue increased 23.6% to $51.8 million for
fiscal 1997 from $41.9 million for fiscal 1996. This increase was partially
attributable to an increase in the number of Company-owned stores from 64 stores
at the end of fiscal 1996 to 73 stores at the end of fiscal 1997. Approximately
$3.0 million of the increase in revenues was attributable to comparable store
sales increases and approximately $6.9 million was attributable to new and
remodeled Company-owned stores. Comparable store sales increased 8.0% for the
fiscal year ended 1997 compared to the prior period.
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<PAGE>
The number of franchise stores increased to 51 stores at the end of fiscal
1997 from 50 franchise stores at the end of fiscal 1996. Franchise revenue
increased 4.6% to $1.1 million for fiscal 1997 from $1.1 million for fiscal
1996. Initial franchise fees decreased 57.0% or $94,000 due to a reduction in
the number franchise store openings in fiscal 1997. The decrease in initial
franchise fees was offset by increased royalty payments resulting from increased
sales in the franchise stores. Royalty payments average 4% of sales in the
franchise stores.
COST OF GOODS SOLD. Cost of goods sold for fiscal 1997 was $35.0 million
or 67.5% of Company-owned store revenue, as compared to $27.9 million or 66.7%
of Company-owned store revenue for fiscal 1996. Cost of goods sold reflects the
direct cost of merchandise and store occupancy costs, including rent, common
area maintenance costs, and real estate taxes. The increase as a percentage of
Company-owned store revenue is primarily related to increases in occupancy
costs, particularly increases in real estate taxes and common area maintenance
charges.
STORE OPERATING EXPENSES. Store operating expenses for fiscal 1997 were
$11.5 million or 22.2% of Company-owned store revenue, as compared to $8.7
million or 20.8% of Company-owned store revenue in fiscal 1996. The increase as
a percentage of Company-owned store revenue was primarily attributable to
increases in store labor, advertising, and credit card fees. The largest
increase was in payroll and related benefits, resulting from an increase in the
federal minimum wage in third quarter and a tight labor market, especially in
third and fourth quarter, which caused hourly labor rates to increase.
Advertising increased during the important Halloween and Christmas selling
seasons. A new poster flyer concept was introduced for Halloween. Credit card
fees also increased as a result of a change in Company strategy in late fiscal
1996 to begin accepting credit cards. The roll out of credit card acceptance
was completed in mid 1997.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
were $5.5 million or 10.4% of total revenue in fiscal 1997 compared to $4.2
million or 9.9% in fiscal 1996. The increase in general and administrative
expenses is primarily attributable to necessary infrastructure and additional
staff to support the growing Company-owned store base. Additionally, the
Company increased its senior management team with key additions in fiscal 1997.
INTEREST EXPENSE. Interest expense, net of interest income, increased
$26,000 to $798,000, or l.5% of total revenues in fiscal 1997 from $772,000 or
1.8% of total revenues, in fiscal 1996. The Company used the net proceeds of
its initial public offering to repay certain bank debt, subordinated debt, and
shareholder notes, resulting in the Company changing to a "net investor" rather
than a "net borrower" at fiscal year end.
EXTRAORDINARY ITEM AND EXPENSES OF CANCELED ACQUISITION. As a result of
the early retirement of the Subordinated Notes in connection with the Company's
initial public offering, the Company incurred a one-time charge to earnings, in
the fourth quarter, of approximately $183,000 for the unamortized portion of the
Company's expenses related to issuance of the Subordinated Notes. Additionally,
the Company took a fourth quarter charge of $261,000 related to the expenses
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<PAGE>
associated with the proposed acquisition of The Paper Factory of Wisconsin, Inc.
by Paper Warehouse, which was terminated January 26, 1998.
PRO FORMA NET INCOME (LOSS). As a result of the factors discussed above,
pro forma net income decreased to ($207,000) in fiscal 1997 from pro forma
net income of $808,000 in fiscal 1996. Pro forma net income includes a
provision for federal and state income taxes.
FISCAL YEAR 1996 (52 WEEKS) COMPARED TO FISCAL YEAR 1995 (53 WEEKS)
REVENUE. The number of Company-owned stores increased to 64 at the end of
fiscal 1996 from 55 Company-owned stores at the end of fiscal 1995.
Company-owned store revenue increased 29.2% to $41.9 million for fiscal 1996
from $32.4 million for fiscal 1995. Of this increase, approximately $2.0 million
was attributable to comparable store sales increases and approximately $7.5
million is attributable to new and remodeled Company-owned stores. For purposes
of computing the increase in comparable store sales, this calculation assumes
fiscal 1995 was a 52 week year. Comparable store sales increased 7.8% for the
fiscal year ended 1996 compared to the prior period.
The number of franchise stores decreased to 50 franchise stores at the end
of fiscal 1996 from 53 franchise stores at the end of fiscal 1995. During fiscal
1996, one of the Company's franchisees, a catalog showroom chain operating
franchise stores as designated departments within 12 of its stores, ceased
business. As a result of this action, these franchise stores, which contributed
$61,000 in franchise revenues to the Company in fiscal 1996, ceased operating.
Franchise revenue increased 4.3%, to $1.1 million for fiscal 1996 from
$1.1 million for fiscal 1995. Initial franchise fees decreased $320,000 due to a
reduction in franchise store openings in the fiscal 1996. The decrease in
initial franchise fees was offset by increased royalty payments resulting from
increased sales in the franchise stores.
COST OF GOODS SOLD. Cost of goods sold for fiscal 1996 was $27.9 million,
or 66.7% of Company-owned store revenue, as compared to $21.9 million, or 67.5%,
of Company-owned store revenue for fiscal 1995. The decrease as a percentage of
Company-owned store revenue was primarily attributable to greater volume
discounts and more favorable pricing from vendors.
STORE OPERATING EXPENSES. Store operating expenses for 1996 were
$8.7 million, or 20.8% of Company-owned store revenue, as compared to
$6.4 million, or 19.6% of Company-owned store revenue in fiscal 1995. The
increase as a percentage of Company-owned store revenue was primarily
attributable to increases in store labor, advertising, utilities, and
depreciation. Store labor increased due to the increase in minimum wage, and
increased management staff at larger stores.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative
expenses were $4.2 million compared to $3.5 million in fiscal 1995. The
increase in general and administrative expenses was primarily due to an
increase in the number of stores.
24
<PAGE>
INTEREST EXPENSE. Interest expense, net of interest income, increased
$282,000 to $772,000, or 1.8% of total revenue in fiscal 1996 from $490,000, or
1.5% of total revenue, in fiscal 1995. The increase is due to greater bank
borrowing, used to finance the Company's growth.
PRO FORMA NET INCOME. As a result of the factors discussed above, pro
forma net income increased 1.4%, to $808,000, or 1.9% of total revenue in fiscal
1996 from $797,000, or 2.4% of total revenue in fiscal 1995. Pro forma net
income includes a provision for federal and state income taxes.
SEASONALITY
The Company's results of operations have historically fluctuated from
quarter to quarter for such reasons as seasonal variations in revenues and
operating expenses, the amount and timing of revenues contributed by new
Company-owned and franchise stores, the costs associated with the opening of new
stores, and expenses incurred to support the Company's expansion strategy. As a
result of these seasonal variations, a significant portion of the Company's
operating income is generated in the second and fourth fiscal quarters.
Historically, the Company has engaged in more promotional activity during the
third quarter than the second quarter, which results in reduced operating income
for the third quarter as compared to the second quarter. Any factors negatively
affecting the Company during the second and fourth fiscal quarters could have a
material adverse effect on the Company's financial condition and results of
operations for the entire fiscal year. Further, as a result of the seasonality
of the Company's revenue, the Company expects to incur a loss in the first
quarter of each year for the foreseeable future.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary capital requirements are for ongoing operations,
principally inventory, and capital improvements to support the opening of new
Company-owned stores and the remodeling of existing Company-owned stores.
The Company's primary sources of liquidity have been met by cash from
operations, payment terms from vendors, borrowings under its revolving line
of credit, the Subordinated Notes and proceeds from the Company's initial
public offering.
For fiscal 1997 and fiscal 1996, the Company's working capital was $9.4
million and $1.7 million, respectively. Cash provided by operating activities
for each of the last three fiscal years was $746,000, $85,000, and $394,000,
respectively. The increase in cash provided by operating activities in fiscal
1997 compared to fiscal 1996 was primarily attributable to an increase in
accounts payable and accrued liabilities. In each of these periods, $1.6
million, $1.9 million, and $3.1 million, respectively, was used to increase
inventory levels to support new and existing Company-owned stores.
For fiscal 1997, and fiscal 1996, the Company's accounts payable were $3.0
million and $2.1 million, respectively. The increase in accounts payable was
primarily attributable to increased merchandise inventory. Historically, the
amount of the Company's obsolete inventory has been minimal.
25
<PAGE>
Net cash used in investing activities for fiscal 1997, fiscal 1996, and
fiscal 1995 was approximately $2.5 million, $1.2 million, and $3.5 million,
respectively. These expenditures were primarily to open and remodel existing
Company-owned stores and to upgrade the Company's information systems.
For fiscal 1997, the Company spent approximately $2.4 million on capital
expenditures, which included approximately $1.6 million on new stores and other
capital expenditures and $820,000 on information systems upgrades. As a result
of these information system upgrades, the Company does not anticipate that it
will incur material liabilities with respect to year 2000 costs. The Company
currently plans to open approximately 25 Company-owned stores in fiscal 1998.
Total capital expenditures in fiscal 1998 are estimated to be $3.9 million.
These capital expenditures will be for new store openings, fixturing and
remodeling existing stores, and information systems. The Company intends to
continue to finance all of its new stores with long-term operating leases,
assuming availability and reasonable terms.
Net cash provided from financing activities for fiscal 1997, fiscal 1996,
and fiscal 1995 was $3.5 million, $585,000, and $3.6 million, respectively.
Cash provided by financing activities in fiscal 1997 was primarily from the
Company's initial public offering. Cash provided by financing activities in
fiscal 1996 was primarily provided by shareholder notes, which were repaid with
the proceeds of the initial public offering.
In January 1997, the Company entered into a new $7.5 million revolving
credit facility. The credit facility accrues interest at the bank's base rate
plus 0.5% and expires on May 31, 1999. The credit facility is secured by
substantially all the assets of the Company. The Company is required to
maintain certain customary covenants. Advances under the revolving line of
credit bear interest at the bank's prime rate (8.5% at January 31, 1998) plus
.50% and are collateralized by all assets of the Company. The credit facility
contains various covenants including, among others, the maintenance of certain
debt to net worth and current ratios, and minimum net income and net worth. At
January 30, 1998, the Company was in compliance with its loan agreement. There
was no outstanding balance under the facility on January 30, 1998. The credit
facility also prohibits the Company from paying dividends except for
distributions in connection with the termination of its S corporation status.
The initial borrowings of this facility were used to retire in full the
outstanding balance under the Company's previous credit facility.
The Company anticipates opening approximately 25 Company-owned stores
during fiscal 1998, using a combination of its existing cash and operating cash
flow, funds available under the Company's revolving credit facility, and/or
remaining proceeds from its initial public offering. In addition, the Company
may seek to acquire existing stores from franchisees. At present, the Company
has no agreement to acquire any franchise store. The Company expects that the
average new store cost for Company-owned stores will continue to be
approximately $135,000. These expenditures include approximately $80,000 for
fixtures and equipment, including point of sale equipment, and $55,000 for store
inventory, net of accounts payable. Pre-opening expenses are
26
<PAGE>
expensed as incurred. The Company typically leases space ranging from 8,500 to
9,500 square feet and seeks to lease sites rather than own real estate.
Out of its planned 25 Company-owned stores to be opened in fiscal 1998, as
of March 31, 1998, the Company has signed leases for ten locations. Most of the
leases are for 10-year terms, with five-year renewal options.
The Company believes the proceeds from its initial public offering, its
cash flow from operations, and its borrowing capacity under its revolving credit
facility will be adequate to handle its cash requirements through fiscal 1999.
INFLATION
The Company believes that inflation has not had a material impact upon its
historical operating results, and does not expect it to have such an impact in
the future. There can be no assurance that the Company's business will not be
affected by inflation in the future.
USE OF INITIAL PUBLIC OFFERING PROCEEDS
On November 25, 1997 the Company commenced an initial public offering of
shares of its Common Stock in the United States. The Company's registration
statement on Form S-1 (Registration No. 333-36911) with respect to the Offering
was declared effective by the Securities and Exchange Commission on November 20,
1997. All 1,778,000 shares were offered and sold by the Company. As part of
the Offering, the Company and a Selling Shareholder granted to the underwriters
an over-allotment option to purchase up to an additional 266,700 shares of
Common Stock. On December 24, 1997, the underwriters partially exercised the
over-allotment, purchasing 207,800 shares of Common Stock from the Company. The
offering price of the 1,985,800 shares of Common Stock (including the over
allotment) was $7.50 per share. The proceeds to the Company, after deduction of
the underwriting discount and expenses associated with the Offering, were $13.1
million.
Through January 30, 1998, the aggregate amount of expenses incurred by
the Company in connection with the issuance and distribution of the shares of
Common Stock offered and sold in the Offering, including the underwriter's
over-allotment, was approximately $1.7 million. This includes underwriting
discounts and commissions (of approximately $1.0 million) and expenses paid
for accounting, legal, printing, and other expenses.
The sole underwriter for the offering was Dain Rauscher Incorporated (f/k/a
Dain Bosworth Incorporated). As sole underwriter for the offering, Dain
Rauscher received all of the underwriting commissions and discounts paid by the
Company.
During the period from November 28, 1997, through January 30, 1998, the net
proceeds of the offering have been applied as follows: (i) to repay borrowings
outstanding under the Company's
27
<PAGE>
revolving credit facility in the amount of $5.8 million, (ii) to prepay the 10%
Subordinated Notes due November 30, 2004 in the amount of $2.1 million, and
(iii) to repay shareholder notes in the amount of $2.1 million to Yale T.
Dolginow and Brent D. Schlosser. The remaining $3.1 million will be used for
other general corporate purposes.
PRIVATE SECURITIES LITIGATION REFORM ACT
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" for forward-looking statements. Certain information included herein and
other materials filed or to be filed by the Company with the Securities and
Exchange Commission (as well as information included in oral statements or other
written statements made or to be made by the Company) contain statements that
are forward-looking, such as plans for future expansion and other business
development activities as well as other capital spending, financing sources, and
competition.
Such forward-looking information involves important risks and uncertainties
that could significantly affect anticipated results in the future and,
accordingly, such results may differ from those expressed in any forward-looking
statements made by or on behalf of the Company. These risks and uncertainties
include, but are not limited to, those relating to development and construction
activities, dependence on existing management, general economic conditions, and
changes in federal or state laws or the administration of such laws.
ITEM 8. FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Page(s)
<S> <C>
Independent Auditors' Report . . . . . . . . . . . . . . . . . . . . . .F-1
Financial Statements:
Consolidated Balance Sheets . . . . . . . . . . . . . . . . . . . .F-2
Consolidated Statements of Operations . . . . . . . . . . . . . . .F-3
Consolidated Statements of Stockholders' Equity . . . . . . . . . .F-4
Consolidated Statements of Cash Flow. . . . . . . . . . . . . . . .F-5
Notes to Consolidated Financial Statements . . . . . . . . . . . . . F-6-14
</TABLE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
28
<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information beginning immediately following the caption "Election of
Directors" to, but not including, the caption "Executive Compensation" in the
Company's Proxy Statement, to be filed with the Securities and Exchange
Commission within 120 days after the close of the Company's fiscal year ended
January 30, 1998, and forwarded to stockholders prior to the Company's 1997
Annual Meeting of Shareholders (the "1997 Proxy Statement"), is incorporated
herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information in the 1997 Proxy Statement beginning immediately
following the caption "Executive Compensation" to, but not including, the
caption "Other Matters," is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information in the 1997 Proxy Statement beginning immediately following
the caption "Voting Securities and Principal Holders Thereof" to, but not
including, the caption "Election of Directors," is incorporated herein by
reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information in the 1997 Proxy Statement under the caption "Certain
Transactions" is incorporated herein by reference.
29
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON
FORM 8-K
(a)(1) Financial Statements:
PAPER WAREHOUSE, INC. AND SUBSIDIARY
Consolidated Financial Statements
January 30, 1998 and January 31, 1997
30
<PAGE>
PAPER WAREHOUSE, INC.
TABLE OF CONTENTS
- ------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Page(s)
<S> <C>
Independent Auditors' Report . . . . . . . . . . . . . . . . . . . . . 1
Financial Statements:
Consolidated Balance Sheets . . . . . . . . . . . . . . . . . . . 2
Consolidated Statements of Operations . . . . . . . . . . . . . . 3
Consolidated Statements of Stockholders' Equity . . . . . . . . . 4
Consolidated Statements of Cash Flows . . . . . . . . . . . . . . 5
Notes to Consolidated Financial Statements . . . . . . . . . . . . . . 6-14
</TABLE>
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Paper Warehouse, Inc.:
We have audited the accompanying consolidated balance sheets of Paper Warehouse,
Inc. and subsidiary (the Company) as of January 30, 1998 and January 31, 1997,
and the related consolidated statements of operations, stockholders' equity, and
cash flows for each of the years in the three-year period ended January 30,
1998. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Paper Warehouse,
Inc. and subsidiary as of January 30, 1998 and January 31, 1997, and the results
of their operations and their cash flows for each of the years in the three-year
period ended January 30, 1998, in conformity with generally accepted accounting
principles.
/s/ KPMG Peat Marwick LLP
March 24, 1998
F-1
<PAGE>
PAPER WAREHOUSE, INC.
Consolidated Balance Sheets
January 30, 1998 and January 31, 1997
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
January 30, January 31,
ASSETS 1998 1997
- --------------------------------------------------------------------------------
<S> <C> <C>
Current assets:
Cash $ 2,059,737 357,167
Inventories, net 11,161,549 9,568,680
Accounts receivable, net 451,937 261,424
Prepaid expenses and other current assets 153,968 119,053
- --------------------------------------------------------------------------------
Total current assets 13,827,191 10,306,324
Property and equipment, net 6,798,228 5,461,219
Other assets, net 391,918 502,639
- --------------------------------------------------------------------------------
$ 21,017,337 16,270,182
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<CAPTION>
LIABILITIES AND STOCKHOLDERS' EQUITY
- --------------------------------------------------------------------------------
<S> <C> <C>
Current liabilities:
Notes payable-line of credit - 5,870,000
Current maturities of long-term debt 305,585 22,015
Current maturities of capital lease obligation 179,671
Accounts payable 2,989,016 2,122,285
Accrued liabilities:
Payroll and related expenses 369,486 268,046
Accrued expenses 349,718 84,549
Accrued interest 10,317 17,407
Other 240,765 220,884
- --------------------------------------------------------------------------------
Total current liabilities 4,444,558 8,605,186
- --------------------------------------------------------------------------------
Capital lease obligation, less current maturities 355,927 -
Related party notes payable - 2,136,193
Long-term debt, less current maturities 911,409 3,211,575
Deferred rent credits and other 711,659 524,694
- --------------------------------------------------------------------------------
Total liabilities 6,423,553 14,477,648
Stockholders' equity:
Serial preferred stock, 10,000,000
shares authorized; none issued
or outstanding - -
Common stock, $.01 par value. Authorized
40,000,000 shares; issued and
outstanding 4,557,187 and 2,202,818
shares, respectively 45,572 22,028
Additional paid-in capital 13,683,807 572,472
Retained earnings 864,405 1,198,034
- --------------------------------------------------------------------------------
Total stockholders' equity 14,593,784 1,792,534
Commitments and contingencies (note 5)
- --------------------------------------------------------------------------------
$21,017,337 16,270,182
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-2
<PAGE>
PAPER WAREHOUSE, INC.
Consolidated Statements of Operations
Years ended January 30, 1998, January 31, 1997 and February 2, 1996
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------
January 30, January 31, February 2,
1998 1997 1996
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Revenue:
Company-owned stores $51,787,842 41,892,173 32,414,215
Franchise related fees 1,161,097 1,109,737 1,064,092
- ---------------------------------------------------------------------------------------------------------
Total revenue 52,948,939 43,001,910 33,478,307
Costs and expenses:
Costs of products sold and occupancy costs 34,966,018 27,946,561 21,879,566
Store operating expenses 11,484,271 8,732,589 6,367,150
General and administrative expenses 5,515,491 4,242,960 3,450,737
- ---------------------------------------------------------------------------------------------------------
Operating income 983,159 2,079,800 1,780,854
Interest expense (797,567) (771,549) (489,891)
Expenses of cancelled acquisition (260,852) - -
- ---------------------------------------------------------------------------------------------------------
Income (loss) before income taxes and
extraordinary charge (75,260) 1,308,251 1,290,963
Income tax expense (5,941) (5,300) (5,181)
- ---------------------------------------------------------------------------------------------------------
Income (loss) before extraordinary charge (81,201) 1,302,951 1,285,782
- ---------------------------------------------------------------------------------------------------------
Extraordinary charge for extinguishment of debt (182,611) - -
Tax benefit of extraordinary charge 72,846 - -
- ---------------------------------------------------------------------------------------------------------
Extraordinary charge, net (109,765) - -
- ---------------------------------------------------------------------------------------------------------
Net income (loss) $ (190,966) 1,302,951 1,285,782
- ---------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------
Pro forma data (unaudited - note 12)
Pro forma net income (loss) $ (206,610) 807,830 797,185
Pro forma basic earnings per share:
Weighted average shares outstanding 2,630,811 2,202,818 2,202,818
Income (loss) before extraordinary charge $ (0.04) 0.37 0.36
Extraordinary charge (0.04) - -
Net income (loss) (0.08) 0.37 0.36
Pro forma diluted earnings per share:
Weighted average shares outstanding plus
equivalents 2,630,811 2,514,250 2,514,250
Income (loss) before extraordinary charge $ (0.04) 0.32 0.32
Extraordinary charge (0.04) - -
Net income (loss) (0.08) 0.32 0.32
- ---------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-3
<PAGE>
PAPER WAREHOUSE, INC.
Consolidated Statements of Stockholders' Equity
Years Ended January 30, 1998, January 31, 1997 and February 2, 1996
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------------------------
Number of Additional
Preferred Common Common Paid-in Retained
Stock Shares Stock Capital Earnings Total
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balances at January 27, 1995 - 2,202,818 $ 22,028 572,472 2,051,783 2,646,283
Net income - - - - 1,285,782 1,285,782
Distribution of earnings - - - - (808,490) (808,490)
- ----------------------------------------------------------------------------------------------------------------------------------
Balances at February 2, 1996 - 2,202,818 22,028 572,472 2,529,075 3,123,575
Net income - - - - 1,302,951 1,302,951
Distribution of earnings - - - - (2,633,992) (2,633,992)
- ----------------------------------------------------------------------------------------------------------------------------------
Balances at January 31, 1997 - 2,202,818 22,028 572,472 1,198,034 1,792,534
Exercise of event option - 197,219 1,972 (1,972) - -
Conversion of warrants - 171,350 1,714 (1,714) - -
Issuance of common stock pursuant to
public offering - 1,985,800 19,858 13,115,021 13,134,879
Net loss - - - - (190,966) (190,966)
Distribution of earnings - - - - (142,663) (142,663)
- ----------------------------------------------------------------------------------------------------------------------------------
Balances at January 30, 1998 - 4,557,187 $ 45,572 13,683,807 864,405 14,593,784
- ----------------------------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
PAPER WAREHOUSE, INC
Consolidated Statements of Cash Flows
Years ended January 30, 1998, January 31, 1997 and February 2, 1996
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
January 30, January 31, February 2,
1998 1997 1996
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss) $ (190,966) 1,302,951 1,285,782
Adjustments to reconcile net income (loss) to net cash provided
by operating activities:
Writeoff of subordinated debt fees 182,611 - -
Depreciation and amortization 1,140,966 959,901 695,356
Gain on sale of property and equipment (1,892) (4,375) (1,775)
Changes in operating assets and liabilities, net of the
effect of the purchase of the assets of a business:
Accounts receivable, net (190,513) 217,740 (300,022)
Prepaid expenses and other current assets (34,915) 13,259 (68,308)
Merchandise inventories, net (1,592,869) (1,851,922) (3,061,944)
Accounts payable 866,731 (488,220) 1,462,471
Accrued liabilities 566,365 (63,896) 382,694
- -------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 745,518 85,438 394,254
- -------------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Proceeds from sale of property and equipment 7,807 136,960 1,775
Purchases of property and equipment (2,438,110) (1,317,283) (3,454,752)
Purchases of trademarks - - (2,947)
Other assets, net of effect of asset acquisition (117,488) (18,544) (51,329)
- -------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (2,547,791) (1,198,867) (3,507,253)
- -------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Proceeds from initial public offering, net 13,134,879 - -
Net proceeds from (payments on) related party loans (2,136,193) 2,136,193 -
Net proceeds from note payable-other 55,353 - -
Net proceeds from (payments on) notes payable to bank (5,870,000) 1,106,061 3,448,939
Proceeds from issuance of long-term debt - - 958,000
Principal payments on long-term debt (2,072,131) (23,106) (6,215)
Payment of debt acquisition fees - - (8,000)
Net proceeds from capital lease 535,598 - -
Distribution of earnings (142,663) (2,633,992) (808,490)
- -------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 3,504,843 585,156 3,584,234
- -------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash 1,702,570 (528,273) 471,235
Cash:
Beginning of year 357,167 885,440 414,205
- -------------------------------------------------------------------------------------------------------------------
End of year $ 2,059,737 357,167 885,440
- -------------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest $ 846,538 877,410 474,819
Income taxes 5,039 5,300 10,181
</TABLE>
See accompanying notes to consolidated financial statements.
F-5
<PAGE>
PAPER WAREHOUSE, INC.
Notes to Consolidated Financial Statements
January 30, 1998 and January 31, 1997
- --------------------------------------------------------------------------------
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) DESCRIPTION OF BUSINESS
Paper Warehouse, Inc. (the Company) is a paper and party goods retailer
operating 73 stores in the states of Minnesota, Missouri, Iowa, Kansas,
Oklahoma, Colorado, and Wisconsin. Paper Warehouse, Inc. also sells Paper
Warehouse franchises through a wholly owned subsidiary. In exchange for the
initial and continuing franchise fees received, the Company provides
management assistance to and gives franchisees the right to use the name
"Paper Warehouse" or "Party Universe."
(b) BASIS OF PRESENTATION
Effective February 1, 1997, the Company acquired Paper Warehouse
Franchising, Inc., a company under common control. The acquisition has been
accounted for on an "as if pooled" basis and, accordingly, the accompanying
financial statements include the financial condition and results of
operations of both companies for all periods presented. Intercompany
transactions have been eliminated in consolidation.
(c) ACCOUNTING ESTIMATES
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from
those estimates.
(d) FAIR VALUES OF FINANCIAL INSTRUMENTS
The carrying value of the Company's financial assets and liabilities,
because of their short-term nature, is approximately fair value. The fair
value of the Company's borrowing, if recalculated based on current interest
rates, would not significantly differ from the recorded amounts.
(e) S CORPORATION ELECTION
Prior to its initial public offering in November 1997, the Company had
elected to be taxed as an S corporation under the Internal Revenue Code.
The Company had agreed to make distributions of earnings in amounts
sufficient to enable stockholders to pay their federal and state income
taxes resulting from pass-through of taxable income as a result of the S
corporation election.
(f) FISCAL YEAR
The Company's fiscal year ends on the Friday closest to January 31. The
fiscal years ended January 30, 1998 and January 31, 1997 included 52 weeks,
and the fiscal year ended February 2, 1996 included 53 weeks. Unless
otherwise stated, references to years in this report relate to fiscal years
rather than to calendar years.
(g) MERCHANDISE INVENTORIES
Inventories are stated at the lower of cost or market. Cost is determined
by the first-in, first-out (FIFO) method.
(Continued)
F-6
<PAGE>
PAPER WAREHOUSE, INC.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
(h) CASH EQUIVALENTS
Cash equivalents of $1,035,222 at January 30, 1998, consist of short term
investment in money market accounts with funds available at any time. For
purposes of the statements of cash flows, the Company considers all highly
liquid instruments with maturities of three months or less to be cash
equivalents.
(i) PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost. Depreciation is computed by
the straight-line method over the estimated useful lives of the assets as
follows:
- --------------------------------------------------------------------------------
Estimated
Method Useful Life
- --------------------------------------------------------------------------------
Fixtures and equipment Straight-line 5 to 7 years
Building Straight-line 40 years
Land improvements Straight-line 40 years
- --------------------------------------------------------------------------------
Maintenance, repairs, and minor renewals are expensed as incurred. Upon
retirement or disposal of assets, the cost and accumulated depreciation are
eliminated from the respective accounts and the related gains or losses are
credited or charged to income.
(j) INTANGIBLE ASSETS
The excess of cost over fair value of net assets resulting from the
acquisition of a store created goodwill that is being amortized over 15
years using the straight-line method.
Costs of acquiring trademark have been capitalized and are being amortized
on a straight-line basis over ten years.
(k) OTHER ASSETS
Other assets consist primarily of security deposits and lease acquisition
fees. Lease acquisition fees are amortized over the related lease term
using the straight-line method.
(l) IMPAIRMENT OF LONG-LIVED ASSETS AND LONG-LIVED ASSETS TO BE
DISPOSED OF
The Company adopted the provisions of SFAS No. 121, ACCOUNTING FOR THE
IMPAIRMENT OF LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS TO BE DISPOSED
OF, on January 1, 1996. This statement requires that long-lived assets and
certain identifiable intangibles be reviewed for impairment whenever events
or changes in circumstances indicate that the carrying amount of an asset
may not be recoverable. Recoverability of assets to be held and used is
measured by a comparison of the carrying amount of an asset to future net
cash flows expected to be generated by the asset. If such assets are
considered to be impaired, the impairment to be recognized is measured by
the amount by which the carrying amount of the assets exceeds the fair
value of the assets. Assets to be disposed of are reported at the lower of
the carrying amount or fair value less costs to sell. Adoption of this
statement did not have a material impact on the Company's financial
position or results of operations.
(Continued)
F-7
<PAGE>
PAPER WAREHOUSE, INC.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
(m) DEFERRED RENT CREDITS
Certain of the Company's operating leases provide for scheduled increases
in base rentals over their terms. For these leases, the Company recognizes
the total rental amounts due over the lease terms on a straight-line basis
and, accordingly, has established corresponding deferred rent credits for
the differences between the amounts recognized and the amounts paid.
(n) PRE-OPENING COSTS
Costs associated with the opening of new stores are expensed as incurred.
(o) STOCK-BASED COMPENSATION
Compensation expense for stock option grants is recognized in accordance
with Accounting Principles Board (APB) Opinion 25, ACCOUNTING FOR STOCK
ISSUED TO EMPLOYEES. Had Statement of Financial Accounting
Standards (SFAS) No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION, been
applied, the Company's compensation expense would have been different;
see Note 9.
(p) ADVERTISING
The Company expenses the cost of advertising as incurred or the first time
the advertisement takes place.
(q) YEAR 2000
The Company recently purchased new software and hardware for its
merchandising and accounting functions. All critical function software,
computer systems, and point-of-sale systems comply with the year 2000
issue.
(2) PROPERTY AND EQUIPMENT
Property and equipment consists of the following:
<TABLE>
- -------------------------------------------------------------------------------
January 30, January 31,
1998 1997
- -------------------------------------------------------------------------------
<S> <C> <C>
Fixtures and equipment $ 8,860,634 7,120,047
Buildings 1,041,702 1,041,702
Land and improvements 319,733 319,733
Accumulated depreciation and amortization (3,423,841) (3,020,263)
- -------------------------------------------------------------------------------
$ 6,798,228 5,461,219
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
</TABLE>
Depreciation and amortization expense on property and equipment was
$1,094,714,. $913,918, and $652,802 for the years ended January 30, 1998,
January 31, 1997, and February 2, 1996, respectively.
(Continued)
F-8
<PAGE>
PAPER WAREHOUSE, INC.
Notes to Consolidated Financial Statements
- -------------------------------------------------------------------------------
(3) NOTES PAYABLE TO BANK
The Company has a revolving line of credit agreement with its bank that
permits borrowings up to $7,500,000. Borrowings under the agreement bear
interest at the bank's base rate plus .5% and are secured by all assets
of the Company. The agreement contains restrictive covenants which,
among other things, require the Company to maintain a minimum tangible
net worth and minimum current ratios.
The current agreement is subject to renewal by May 31, 1999. There was
$0 and $5,870,000 outstanding under the agreement as of January 30, 1998
and January 31, 1997, respectively.
(4) LONG-TERM DEBT
Long-term debt consists of the following:
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------
January 30, January 31,
1998 1997
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Note payable in monthly installments of $3,551, including
interest at 6.914% through October 2015. The note is
secured by a second mortgage on the Company's office
headquarters, assignment of a life insurance policy, and
the personal guarantee of the Company's majority stockholder. $ 407,497 418,834
Term note payable in monthly installments of $4,796, including
interest at 9.08% through December 2015. The note is secured
by a first mortgage on the Company's office headquarters. 504,143 514,756
Note payable in monthly installments of $2,711, including interest at
7.92% through December 1999. 55,354 0
$2,300,000 subordinated note payable to private placement holders
with interest due quarterly at 10%. Principal installments of
$575,000 due annually commencing November 30, 2001 250,000 2,300,000
- ---------------------------------------------------------------------------------------------------------------
1,216,994 3,233,590
Less current maturities 305,585 22,015
- ---------------------------------------------------------------------------------------------------------------
$ 911,409 3,211,575
- ---------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------
Long-term subordinated related party notes payable due March 5,
1998, with interest at 5.63%. $ 0 2,136,193
- ---------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------
(Continued)
</TABLE>
F-9
<PAGE>
PAPER WAREHOUSE, INC.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
On December 12, 1994, the Company completed a private placement of 46
units, each unit consisting of a 10% subordinated note due in annual
installments commencing November 30, 2001 through November 30, 2004, and
one detachable common stock purchase warrant. Subject to certain
adjustments, each warrant entitles the holder thereof to purchase 3,994
shares of common stock, $.01 par value, of the Company at a price of $1.25
per share anytime after November 30, 1995 and before November 30, 2004. The
entire proceeds of $2,300,000 were recorded as long-term debt. The warrants
were converted into 171,350 shares of common stock concurrent with the
consummation of the public offering. The Company repaid $2,050,000 of the
debt in the fourth quarter of 1997, and expects to pay the remaining
$250,000 in fiscal 1998.
Interest expense for fiscal 1998 was $839,449.
Aggregate annual maturities of long-term debt subsequent to the fiscal year
ended January 30, 1998 are as follows:
<TABLE>
- --------------------------------------------------------------------------------
<S> <C>
1999 $305,585
2000 49,455
2001 29,000
2002 30,327
2003 and thereafter 802,625
- --------------------------------------------------------------------------------
</TABLE>
(5) LEASES
The Company leases all of its retail stores and corporate offices under
noncancelable operating leases that have various expiration dates. In
addition to base rents, certain leases require the Company to pay its share
of maintenance and real estate taxes, and include provisions for contingent
rentals based upon sales. Certain of the leases contain renewal options
under which the Company may extend the terms three to five years.
Future minimum rental payments due under noncancelable operating leases at
January 30, 1998 are as follows:
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
Year ending in January: Amount
- --------------------------------------------------------------------------------
<S> <C>
1999 $ 5,488,367
2000 5,329,902
2001 4,824,788
2002 4,789,122
2003 4,476,364
Thereafter 13,712,296
- --------------------------------------------------------------------------------
$38,620,839
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
</TABLE>
Rent expense for all operating leases for the years ended January 30, 1998,
January 31, 1997, and February 2, 1996 was $5,337,555, $4,309,403, and
$3,138,814, respectively.
(Continued)
F-10
<PAGE>
PAPER WAREHOUSE, INC.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
During fiscal 1998, the Company entered into a capital lease for software.
Future maturities under this lease are as follows:
<TABLE>
<CAPTION>
Year ending in January: Amount
- --------------------------------------------------------------------------------
<S> <C>
1999 $ 179,671
2000 196,526
2001 159,401
- --------------------------------------------------------------------------------
</TABLE>
(6) INCOME TAXES--S CORPORATION ELECTION
As indicated in note 1, prior to November 25, 1997, the Company elected to
be taxed as an S corporation under the Internal Revenue Code. The Company's
earnings or losses for the S Corporation period are allocated to its
stockholders for inclusion in their individual tax returns. As a result,
no provision for federal taxes was required at the corporate level for that
period. A provision was made for state taxes during the S Corporation
period as some states impose a tax upon S Corporations. Federal and state
income taxes are provided by the Company for the period November 25, 1997
through January 30, 1998.
Income tax expense attributable to income from continuing operations
consists primarily of state and local taxes.
Income tax expense attributable to income from continuing operations was
$5,941 and $5,300 for the years ended January 30, 1998 and January 31,
1997, respectively, and differed from the amounts computed by the U.S.
federal income tax rate of 34 percent to pretax income from continuing
operations as a result of the following:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
1998 1997 1996
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Computed "expected" tax expense for twelve month period $(25,756) 416,944 411,450
Increase (reduction) in income taxes resulting from:
Adjustment to reflect S Corporation election (15,644) (416,944) (411,450)
Adjustment to deferred tax assets and liabilities to reflect
adoption of FAS 109 43,251 0 0
State and local income taxes, net of federal income tax benefit (1,313) 5,300 5,181
Other permanent differences 5,403 0 0
- -------------------------------------------------------------------------------------------------------------------
$(5,941) 5,300 5,181
- -------------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
(Continued)
F-11
<PAGE>
PAPER WAREHOUSE, INC.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities at
January 30, 1998 are presented below. The calculation of deferred income
taxes was not required for January 31, 1997.
- --------------------------------------------------------------------------------
<TABLE>
<S> <C>
Deferred tax assets:
Accounts receivable principally due to allowance
for doubtful accounts $ 4,800
Inventories, principally due to additional costs
inventoried for tax purposes pursuant to the
Tax Reform Act of 1986 103,040
Difference in timing of lease deductions 296,874
Net operating loss carryforwards 237,988
- --------------------------------------------------------------------------------
Total gross deferred tax assets 642,702
- --------------------------------------------------------------------------------
Deferred tax liabilities:
Plant and equipment, principally due to differences in
depreciation and capitalized interest 467,702
Software, principally due to the differences in
amortization 103,056
- --------------------------------------------------------------------------------
Total gross deferred liabilities 570,758
- --------------------------------------------------------------------------------
Net deferred tax asset $71,944
- --------------------------------------------------------------------------------
</TABLE>
At January 30, 1998, the Company has net operating loss carryforwards for
federal income tax purposes of $594,970 which are available to offset
future federal taxable income, if any, through 2013.
(7) RELATED PARTY TRANSACTIONS
Four of the Company's franchise stores are substantially owned by two
related parties of the Company's majority stockholder. Continuing franchise
fees collected from these related parties were $108,034, $75,639, and
$52,845 in 1998, 1997, and 1996, respectively. The Company had a receivable
of $6,940 and $19,428 from this franchisee at January 30, 1998 and January
31, 1997, respectively.
During the year ended January 31, 1997, the Company sold a Paper Warehouse
store to a related party for $144,000. The transaction resulted in no gain
or loss to the Company. Continuing fees collected from this related party
were $22,777 and $17,851 for the years ended January 30, 1998 and January
31, 1997, respectively. The Company had a receivable of $317 and $368 from
this franchisee as of January 30, 1998 and January 31, 1997, respectively.
On January 13, 1997, the Company issued notes payable to the Company's two
primary shareholders for the aggregate amount of $2,136,193. These notes
were repaid in November 1997. Accrued interest in the amount of $108,088
was also paid at that time.
(Continued)
F-12
<PAGE>
PAPER WAREHOUSE, INC.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
(8) EQUITY TRANSACTIONS AND EARNINGS PER SHARE DISCLOSURES
The Company had entered into an option agreement (the Agreement) on
December 1, 1992. The Agreement, which was amended in its entirety on
October 6, 1994, provided the holder the ability to acquire 220,285 shares
of restricted common stock for $150,000 plus 10% of all capital or equity
contribution made to the Company since December 1, 1992. This option was
triggered by the offering of common stock of the Company pursuant to a
public offering, and the cashless exercise resulted in the Company's
issuance of 197,219 shares to the holder.
In February 1997, the Board of Directors of the Company increased the
number of common shares authorized for issuance from 200,000 to 40,000,000
and authorized 10,000,000 shares of serial preferred stock.
In September 1997, the Board of Directors of the Company declared a
37.57217275 to 1 common stock split increasing the number of common shares
issued and outstanding from 58,629 to 2,202,818. All references to share
and per share amounts in the accompanying consolidated financial statements
reflect this stock split.
In November and December 1997, the Company registered and sold a total of
1,985,800 shares of common stock at a price of $7.50 each in a public
offering pursuant to the Securities Act of 1933. Total proceeds to the
Company were $13,850,907. This amount, net of other related costs of the
offering of $716,028, has been reflected in common stock and additional
paid in capital in these consolidated financial statements.
A reconciliation of weighted average shares used in the earnings per share
calculation is as follows:
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Basic weighted average shares 2,630,811 2,202,818 2,202,818
Common stock equivalents 0 311,432 311,432
- --------------------------------------------------------------------------------
Diluted weighted average shares 2,630,811 2,514,250 2,514,250
- --------------------------------------------------------------------------------
</TABLE>
(9) STOCK OPTIONS
During fiscal 1998, the Company adopted a stock option plan (the Plan)
pursuant to which the Company may grant stock options to employees and the
Board of Directors. The Plan authorizes grants of options to purchase up to
639,641 shares of authorized but unissued common stock. Stock options are
granted with an exercise price equal to the stock's fair market value at
the date of grant. All stock options have 10-year terms and vest ratably
over 3 years from the date of grant.
At January 31, 1998, there were 429,676 additional shares available for
grant under the Plan; 209,965 were granted in November of 1997 with an
exercise price of $7.50. The per share weighted-average fair value of these
options using the Black Scholes option-pricing model is $4.16 with the
following weighted-average assumptions: volatility 60%, expected dividend
yield .0%, risk-free interest rate of 6%, and an expected life of 5 years.
(Continued)
F-13
<PAGE>
PAPER WAREHOUSE, INC.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
The Company applies APB Opinion No. 25 in accounting for the Plan and,
accordingly, no compensation cost has been recognized for these options in
the financial statements. Had the Company determined compensation cost
based on the fair value at the grant date for its stock options under SFAS
No. 123, the Company's net loss would have been increased to the pro forma
amounts indicated below:
- --------------------------------------------------------------------------------
<TABLE>
<S> <C>
Net loss as reported $190,966
Pro forma net loss 265,880
</TABLE>
- --------------------------------------------------------------------------------
(10) EMPLOYEE BENEFITS
The Company has a retirement savings plan covering substantially all
employees who have completed one year of service and attained 21 years of
age, which includes a noncontributory profit sharing plan and 401(k)
feature. Employees become fully vested in the plan on a graduated scale
over a six-year period. Contributions to the profit sharing plan are made
at the discretion of the plan committee. The 401(k) feature allows for
employee's elective salary deferrals up to 15% of their compensation, but
not in excess of certain limitations. The discretionary contribution to the
profit sharing plan was $0 in each of the fiscal years.
On March 1, 1996, the Company established a Voluntary Employee Benefit Plan
and Employee Benefit Trust for the sole and exclusive benefit of its
employees. The Company matches 25% of the first four percent of employee
contributions to the plan. Company contributions were $25,422 and $17,831
for the years ended January 30, 1998 and January 31, 1997, respectively.
(11) EXTRAORDINARY CHARGE
Upon completing the Company's initial public offering in November 1997, the
Company exercised its option to repay subordinated debt. The Company then
took a one time charge of $182,611, which represented the unamortized
portion of the fees associated with the debt. This amount is shown as
extraordinary in the accompanying 1998 consolidated statement of
operations.
(12) PRO FORMA EARNINGS (LOSS) PER SHARE (UNAUDITED)
Pro forma net income (loss) and earnings (loss) per share have been
calculated assuming that the Company had been taxed as a C Corporation for
federal and certain state income purposes for such periods.
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------------------------------
1998 1997 1996
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Historical income (loss) before income tax and
extraordinary charge $ (81,201) 1,302,951 1,285,782
Pro forma provision for income taxes (15,644) (495,121) (488,597)
- -----------------------------------------------------------------------------------------------------------------------------
Pro forma net income (loss) before extraordinary charge (96,845) 807,830 797,185
Extraordinary charge, net 109,765 0 0
- -----------------------------------------------------------------------------------------------------------------------------
Pro forma net income (loss) $(206,610) 807,830 797,185
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
F-14
<PAGE>
(a)(2) Financial Statement Schedules
None.
(a)(3) Exhibits
<TABLE>
<CAPTION>
NUMBER DESCRIPTION
- ------ -----------
<S> <C>
3.1 Amended and Restated Articles of Incorporation.(1)
3.2 Amended and Restated By-laws.(1)
4.1 Form of 10% Subordinated Note due November 30, 2004, dated December 7,
1994(1)
4.2 Form of Warrant Agreement (1)
4.3 Form of Warrant Conversion Agreement, as extended.(1)
10.1 1997 Stock Option and Compensation Plan.(1)(2)
10.2 Directors Stock Option Plan.(1)(2)
10.3 Corporation Tax Allocation and Indemnification Agreement entered into
on September 26, 1997 between the Company and Yale T. Dolginow and
Brent D. Schlosser.(1)
10.4 Employment Agreement by and between the Company and Yale T. Dolginow
dated February 7, 1997.(1)(2)
10.5 Employment Agreement by and between the Company and Brent D. Schlosser
dated February 7, 1997.(1)(2)
10.6 Amendment Number 1 to the Employment Agreement by and between the
Company and Brent D. Schlosser dated September 26, 1997. (2)
10.7 Combination Mortgage and Security Agreement and Fixture Financing
Statement dated June 9, 1995 by and between the Company and Richfield
Bank & Trust Co.(1)
10.8 Secured Promissory Note of the Company in favor of Richfield Bank &
Trust Co. in the amount of $945,000 dated June 9, 1995.(1)
10.9 Authorization and Debenture Guaranty of the Company dated May 25,
1995.(1)
10.10 Employment Agreement by and between the Company and Cheryl W. Newell
dated July 14, 1997.(1)(2)
10.11 Loan Agreement between Paper Warehouse, Inc., Yale T. Dolginow and
Richfield Bank & Trust Co., dated January 29, 1997(1)
10.12 Revolving Promissory Note to Richfield Bank & Trust Co. dated January
29, 1997.(1)
10.13 Security Agreement between the Company and Richfield Bank & Trust Co.
dated January 29, 1997.(1)
10.14 Amendment to Loan Agreement entered into as of October 1, 1997 by and
between the Company, Yale T. Dolginow and Richfield Bank & Trust
Co.(1)
10.15 Master Lease by and between Targa Financial, Inc. And the Company
dated October 22, 1997.(1)
<PAGE>
10.16 Loan Agreement SBA Debenture No. COCL837046 3001 MN, dated August 15,
1995.(1)
10.17 Consulting Agreement entered into December 1, 1992 by and between
Paper Warehouse, Inc. and Stanford Weiner, Lawrence Weiner and Gary
Stone.(1)
11 Earnings per share calculation.
21 Subsidiaries of Company.
27. Financial Data Schedule.
</TABLE>
- -------------
(1) Incorporated herein by reference to the Company's Registration Statement on
Form S-1 File No. 333-36911.
(2) Compensatory Plan or Arrangement
(b) Reports on Form 8-K.
The Company filed a Current Report on Form 8-K dated January 28, 1998,
disclosing the termination of a previously announced letter of intent to acquire
The Paper Factory of Wisconsin, Inc. from Gibson Greetings, Inc.
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
PAPER WAREHOUSE, INC.
Date: April 20, 1998
By: s/ Yale T. Dolginow
-----------------------------------------------
Name: Yale T. Dolginow
Title: President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities indicated on April 20, 1998.
NAME TITLE
s/ Yale T. Dolginow Chairman of the Board,
- ---------------------------------------- President and Chief
Yale T. Dolginow Executive Officer,
(principal executive officer)
s/ Brent D. Schlosser Executive Vice
- ---------------------------------------- President and Director
Brent D. Schlosser
s/ Diane C. Dolginow Secretary and Director
- ----------------------------------------
Diane C. Dolginow
s/ Arthur H. Cobb Director
- ----------------------------------------
Arthur H. Cobb
s/ Marvin W. Goldstein Director
- ----------------------------------------
Marvin W. Goldstein
s/ Martin A. Mayer Director
- ----------------------------------------
Martin A. Mayer
s/ Jeffery S. Halpern Director
- ----------------------------------------
Jeffrey S. Halpern
s/ Cheryl W. Newell Vice President and Chief
- ---------------------------------------- Financial Officer (principal
Cheryl W. Newell financial officer)
s/ Michael A. Anderson Controller/Treasurer
- ---------------------------------------- (principal accounting
Michael A. Anderson officer)
<PAGE>
EXHIBIT 10.6
PAPER WAREHOUSE, INC.
7630 EXCELSIOR BOULEVARD
MINNEAPOLIS, MN 55426
September 26, 1997
Brent D. Schlosser
Paper Warehouse, Inc.
7630 Excelsior Boulevard
Minneapolis, MN 55426
Dear Brent:
This letter will confirm that the Compensation amount listed in paragraph
no. 2.1 of your Employment Agreement should be $150,000 (rather than the
$175,000 that was previously listed).
Sincerely,
s/ Yale T. Dolginow
Yale T. Dolginow
Accepted and Agreed to:
s/ Brent D. Schlosser
- ------------------------------
Brent D. Schlosser
<PAGE>
Exhibit 11
Paper Warehouse Inc.
Computation of Pro Forma Earnings (Loss) Per Share
(In thousands of dollars, except per share data)
<TABLE>
<CAPTION>
FISCAL YEAR THREE MONTHS ENDED
----------- ------------------
1997 1996 1/30/98 1/31/97
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
BASIC
Pro forma net earnings
(loss) (a) $ (206,610) $ 807,830 $ (506,364) $ 649,828
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Weighted average shares
of common stock
outstanding (b) 2,630,811 2,202,818 3,900,834 2,202,818
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Basic pro forma earnings per
share of common stock (a/b) $ (0.08) $ 0.37 $ (0.13) $ 0.29
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
DILUTED
Pro forma net earnings
(loss) (c) $ (206,610) $ 807,830 $ (506,364) $ 649,828
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Weighted average shares
of common stock
outstanding 2,630,811 2,202,818 3,900,834 2,202,818
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Common stock
equivalents $ 0 $ 311,432 $ 0 $ 311,432
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Weighted average shares of
common stock and common
stock equivalents (d) 2,630,811 2,514,250 3,900,834 2,514,250
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Fully diluted earnings (loss) per
share of common stock and
common stock equivalents
(c/d) $ (0.08) $ 0.32 $ (0.13) $ 0.26
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
Page 1
<PAGE>
EXHIBIT 21
List of Subsidiaries of the Company
Paper Warehouse Franchising, Inc.
37
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS CONTAINED ELSEWHERE IN THIS FORM 10-K, AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<RESTATED>
<MULTIPLIER> 1,000
<S> <C> <C>
<PERIOD-TYPE> YEAR 9-MOS
<FISCAL-YEAR-END> JAN-30-1998 JAN-30-1998
<PERIOD-START> FEB-01-1997 FEB-01-1997
<PERIOD-END> JAN-30-1998 OCT-31-1997
<CASH> 2,060 782
<SECURITIES> 0 0
<RECEIVABLES> 452 272
<ALLOWANCES> 0 0
<INVENTORY> 11,162 13,082
<CURRENT-ASSETS> 13,827 14,452
<PP&E> 10,222 10,461
<DEPRECIATION> 3,424 3,819
<TOTAL-ASSETS> 21,017 21,593
<CURRENT-LIABILITIES> 4,444 10,216
<BONDS> 1,267 8,598
0 0
0 0
<COMMON> 46 22
<OTHER-SE> 14,548 2,118
<TOTAL-LIABILITY-AND-EQUITY> 21,017 21,593
<SALES> 52,949 38,301
<TOTAL-REVENUES> 52,949 38,301
<CGS> 34,966 25,014
<TOTAL-COSTS> 17,000 12,070
<OTHER-EXPENSES> 261 0
<LOSS-PROVISION> 0 0
<INTEREST-EXPENSE> 798 723
<INCOME-PRETAX> (75) 495
<INCOME-TAX> 6 5
<INCOME-CONTINUING> (81) 490
<DISCONTINUED> 0 0
<EXTRAORDINARY> (110) 0
<CHANGES> 0 0
<NET-INCOME> (191) 490
<EPS-PRIMARY><F1> (.08) .14
<EPS-DILUTED><F1> (.08) .12
<FN>
<F1> Calculated on a pro forma basis as if the Company had been a C corporation
for all periods outstanding.
</FN>
</TABLE>
