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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended August 31, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number 1-5767
CIRCUIT CITY STORES, INC.
(Exact Name of Registrant as Specified in its Charter)
VIRGINIA 54-0493875
-------- ----------
(State of Incorporation) (I.R.S. Employer
Identification No.)
9950 MAYLAND DRIVE, RICHMOND, VIRGINIA 23233
(Address of Principal Executive Offices and Zip Code)
(804) 527-4000
(Registrant's Telephone Number, Including Area Code)
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
------- ------
Indicate the number of shares outstanding of each of the Registrant's classes of
common stock, as of the latest practicable date.
Class Outstanding at September 30, 2002 (1)
- ----------------------------------------------------------------------------- ----------------------------------
Circuit City Stores, Inc. - Circuit City Group Common Stock, par value $0.50 210,129,667
Circuit City Stores, Inc. - CarMax Group Common Stock, par value $0.50 37,089,288
An Index is included on Page 2 and a separate Index for Exhibits is included on
Page 73.
(1) On October 1, 2002, the Registrant had 210.1 million outstanding shares of
Circuit City common stock. Also on October 1, 2002, each share of CarMax Group
Common Stock was redeemed in exchange for one share of CarMax, Inc. common
stock; each share of Circuit City Group Common Stock received as a dividend
0.313879 of a share of CarMax, Inc. common stock; CarMax, Inc. became an
independent, separately traded public company; and Circuit City Group Common
Stock was renamed Circuit City common stock. See Note 13 to the Company's
consolidated financial statements.
CIRCUIT CITY STORES, INC. AND SUBSIDIARIES
INDEX
Page
No.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
--------------------
Consolidated Financial Statements:
---------------------------------
Consolidated Balance Sheets -
August 31, 2002, and February 28, 2002 4
Consolidated Statements of Earnings -
Three Months and Six Months Ended August 31, 2002 and 2001 5
Consolidated Statements of Cash Flows -
Six Months Ended August 31, 2002 and 2001 6
Notes to Consolidated Financial Statements 7
Circuit City Group Financial Statements:
---------------------------------------
Circuit City Group Balance Sheets -
August 31, 2002, and February 28, 2002 33
Circuit City Group Statements of Earnings -
Three Months and Six Months Ended August 31, 2002 and 2001 34
Circuit City Group Statements of Cash Flows -
Six Months Ended August 31, 2002 and 2001 35
Notes to Circuit City Group Financial Statements 36
CarMax Group Financial Statements:
---------------------------------
CarMax Group Balance Sheets -
August 31, 2002, and February 28, 2002 49
CarMax Group Statements of Earnings -
Three Months and Six Months Ended August 31, 2002 and 2001 50
CarMax Group Statements of Cash Flows -
Six Months Ended August 31, 2002 and 2001 51
Notes to CarMax Group Financial Statements 52
Item 2. Management's Discussion and Analysis:
------------------------------------
Circuit City Stores, Inc. Management's Discussion and Analysis
of Financial Condition and Results of Operations 17
Circuit City Group Management's Discussion and Analysis
of Financial Condition and Results of Operations 41
CarMax Group Management's Discussion and Analysis
of Financial Condition and Results of Operations 56
Page 2 of 73
Item 3. Quantitative and Qualitative Disclosures About Market Risk:
----------------------------------------------------------
Circuit City Stores, Inc. Quantitative and Qualitative Disclosures 31
About Market Risk
Circuit City Group Quantitative and Qualitative Disclosures 47
About Market Risk
CarMax Group Quantitative and Qualitative Disclosures 65
About Market Risk
Item 4. Circuit City Stores, Inc. Controls and Procedures 32
-------------------------------------------------
PART II. OTHER INFORMATION
-----------------
Item 1. Legal Proceedings 66
Item 4. Submission of Matters to a Vote of Security Holders 66
Item 6. Exhibits and Reports on Form 8-K 68
SIGNATURES 70
- ----------
SECTION 302 CERTIFICATION OF THE CHIEF EXECUTIVE OFFICER 71
- --------------------------------------------------------
SECTION 302 CERTIFICATION OF THE CHIEF FINANCIAL OFFICER 72
- --------------------------------------------------------
EXHIBIT INDEX 73
- -------------
Page 3 of 73
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CIRCUIT CITY STORES, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(Amounts in thousands except share data)
Aug. 31, 2002 Feb. 28, 2002
-------------- --------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 846,796 $ 1,251,532
Accounts receivable, net 251,831 211,402
Retained interests in securitized receivables 598,934 515,139
Inventory 2,018,209 1,633,327
Prepaid expenses and other current assets 43,583 41,311
-------------- -------------
Total current assets 3,759,353 3,652,711
Property and equipment, net 859,868 853,778
Deferred income taxes 10,464 -
Other assets 29,464 32,897
-------------- -------------
TOTAL ASSETS $ 4,659,149 $ 4,539,386
============== =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,274,904 $ 1,106,679
Accrued expenses and other current liabilities 164,529 183,336
Accrued income taxes - 100,696
Deferred income taxes 136,204 138,306
Short-term debt 5,206 10,237
Current installments of long-term debt 2,132 102,073
-------------- -------------
Total current liabilities 1,582,975 1,641,327
Long-term debt, excluding current installments 111,996 14,064
Other liabilities 158,315 149,269
Deferred income taxes - 288
-------------- -------------
TOTAL LIABILITIES 1,853,286 1,804,948
-------------- -------------
Stockholders' equity:
Circuit City Group Common Stock, $0.50 par value;
350,000,000 shares authorized; 210,037,018 shares
issued and outstanding as of August 31, 2002 105,019 104,411
CarMax Group Common Stock, $0.50 par value;
175,000,000 shares authorized; 37,082,275 shares
issued and outstanding as of August 31, 2002 18,541 18,426
Capital in excess of par value 839,567 810,047
Retained earnings 1,842,736 1,801,554
-------------- -------------
TOTAL STOCKHOLDERS' EQUITY 2,805,863 2,734,438
-------------- -------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 4,659,149 $ 4,539,386
============== =============
See accompanying notes to consolidated financial statements.
Page 4 of 73
CIRCUIT CITY STORES, INC. AND SUBSIDIARIES
Consolidated Statements of Earnings (Unaudited)
(Amounts in thousands except per share data)
Three Months Ended Six Months Ended
August 31, August 31,
2002 2001 2002 2001
-------------- ------------- ------------- --------------
Net sales and operating revenues $ 3,297,287 $ 2,962,120 $ 6,417,094 $ 5,711,741
Cost of sales, buying and warehousing 2,647,186 2,357,050 5,135,740 4,540,318
-------------- -------------- ------------- --------------
Gross profit 650,101 605,070 1,281,354 1,171,423
-------------- -------------- ------------- --------------
Selling, general and administrative expenses
(net of finance income of $52,678 for the
three months ended August 31, 2002,
$47,583 for the three months ended
August 31, 2001, $97,174 for the six
months ended August 31, 2002, and
$96,638 for the six months ended
August 31, 2001) 614,215 579,465 1,198,140 1,115,459
Interest expense 1,507 1,654 2,533 4,646
-------------- -------------- ------------- --------------
Total expenses 615,722 581,119 1,200,673 1,120,105
-------------- -------------- ------------- --------------
Earnings before income taxes 34,379 23,951 80,681 51,318
Provision for income taxes 13,850 9,101 32,170 19,501
-------------- -------------- ------------- --------------
Net earnings $ 20,529 $ 14,850 $ 48,511 $ 31,817
============== ============== ============= ==============
Net earnings attributed to:
Circuit City Group Common Stock $ 9,113 $ 6,822 $ 26,579 $ 16,957
CarMax Group Common Stock 11,416 8,028 21,932 14,860
-------------- -------------- ------------- --------------
$ 20,529 $ 14,850 $ 48,511 $ 31,817
============== ============== ============= ==============
Weighted average common shares:
Circuit City Group:
Basic 207,202 205,329 206,956 205,133
============== ============== ============= ==============
Diluted 209,094 206,924 209,176 206,208
============== ============== ============= ==============
CarMax Group:
Basic 37,065 29,877 37,013 27,905
============== ============== ============= ==============
Diluted 38,618 32,025 38,722 29,864
============== ============== ============= ==============
Net earnings per share attributed to:
Circuit City Group:
Basic $ 0.04 $ 0.03 $ 0.13 $ 0.08
============== ============== ============= ==============
Diluted $ 0.04 $ 0.03 $ 0.13 $ 0.08
============== ============== ============= ==============
CarMax Group:
Basic $ 0.31 $ 0.27 $ 0.59 $ 0.53
============== ============== ============= ==============
Diluted $ 0.30 $ 0.25 $ 0.57 $ 0.50
============== ============== ============= ==============
Dividends paid per share:
Circuit City Group Common Stock $ 0.0175 $ 0.0175 $ 0.0350 $ 0.0350
============== ============== ============= ==============
CarMax Group Common Stock $ - $ - $ - $ -
============== ============== ============= ==============
See accompanying notes to consolidated financial statements.
Page 5 of 73
CIRCUIT CITY STORES, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows (Unaudited)
(Amounts in thousands)
Six Months Ended
August 31,
2002 2001
-------------- ------------
Operating Activities:
- --------------------
Net earnings $ 48,511 $ 31,817
Adjustments to reconcile net earnings to net cash
(used in) provided by operating activities of continuing operations:
Depreciation and amortization 84,970 77,682
Amortization of restricted stock awards 9,892 7,183
Loss (gain) on disposition of property and equipment 5,343 (4,742)
Provision for deferred income taxes (12,854) 7,238
Changes in operating assets and liabilities:
Increase in accounts receivable, net and retained
interests in securitized receivables (126,689) (14,835)
(Increase) decrease in inventory (384,882) 197,203
(Increase) decrease in prepaid expenses and other
current assets (2,272) 15,936
Decrease (increase) in other assets 3,027 (488)
Increase in accounts payable, accrued expenses and
other current liabilities and accrued income taxes 62,113 46,318
Increase in other liabilities 9,046 4,215
-------------- ------------
Net cash (used in) provided by operating activities of
continuing operations (303,795) 367,527
-------------- ------------
Investing Activities:
- --------------------
Purchases of property and equipment (111,644) (110,968)
Proceeds from sales of property and equipment, net 15,647 130,144
-------------- ------------
Net cash (used in) provided by investing activities of
continuing operations (95,997) 19,176
-------------- ------------
Financing Activities:
- --------------------
(Payments on) issuance of short-term debt, net (5,031) 370
Issuance of long-term debt 100,000 -
Payments on long-term debt (102,009) (130,556)
Issuances of Circuit City Group Common Stock, net 8,682 6,789
Issuances of CarMax Group Common Stock, net 744 444
Proceeds from CarMax Group stock offering, net - 139,685
Dividends paid on Circuit City Group Common Stock (7,330) (7,260)
-------------- ------------
Net cash (used in) provided by financing activities of
continuing operations (4,944) 9,472
-------------- ------------
Cash used in discontinued operations - (18,652)
-------------- ------------
(Decrease) increase in cash and cash equivalents (404,736) 377,523
Cash and cash equivalents at beginning of year 1,251,532 446,131
-------------- ------------
Cash and cash equivalents at end of period $ 846,796 $ 823,654
============== ============
See accompanying notes to consolidated financial statements.
Page 6 of 73
CIRCUIT CITY STORES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Unaudited)
1. Basis of Presentation
At August 31, 2002, and August 31, 2001, the common stock of Circuit City
Stores, Inc. consisted of two common stock series intended to reflect the
performance of the Company's two businesses. The Circuit City Group Common
Stock was intended to reflect the performance of the Circuit City stores
and related operations and the shares of CarMax Group Common Stock reserved
for the Circuit City Group or for issuance to holders of Circuit City Group
Common Stock. The CarMax Group Common Stock was intended to reflect the
performance of the CarMax stores and related operations. The reserved
CarMax Group shares were not outstanding CarMax Group Common Stock.
Therefore, net earnings attributed to the reserved CarMax Group shares were
included in the net earnings and earnings per share attributed to the
Circuit City Group Common Stock.
As of August 31, 2002, 65,923,200 shares of CarMax Group Common Stock were
reserved for the Circuit City Group or for issuance to holders of Circuit
City Group Common Stock. Excluding shares reserved for CarMax employee
stock incentive plans, the reserved CarMax Group shares represented 64.0
percent of the total outstanding and reserved shares of CarMax Group Common
Stock at August 31, 2002; 64.1 percent at February 28, 2002; and 64.6
percent at August 31, 2001. The terms of each series of common stock are
discussed in detail in the Company's previous filings with the Securities
and Exchange Commission.
The Company's consolidated financial statements included herein should be
read in conjunction with the financial statements of each Group and the
Company's SEC filings.
The separation of the CarMax Group from Circuit City Stores, Inc. was
effective as of October 1, 2002. See Note 13 for an additional discussion
of the separation.
2. Accounting Policies
The consolidated financial statements of the Company conform to accounting
principles generally accepted in the United States of America. The interim
period financial statements are unaudited; however, in the opinion of
management, all adjustments, which consist only of normal, recurring
adjustments, necessary for a fair presentation of the interim consolidated
financial statements have been included. The fiscal year-end balance sheet
data was derived from the audited financial statements included in the
Company's fiscal 2002 Annual Report on Form 10-K/A.
Page 7 of 73
3. Net Earnings per Share
Reconciliations of the numerator and denominator of the basic and diluted
net earnings per share calculations are presented below.
Three Months Ended Six Months Ended
(Amounts in thousands August 31, August 31,
except per share data) 2002 2001 2002 2001
--------------------------------------------------------------------------------------------------------------------------
Circuit City Group:
Weighted average common shares............................. 207,202 205,329 206,956 205,133
Dilutive potential common shares:
Options................................................. 746 824 1,027 469
Restricted stock........................................ 1,146 771 1,193 606
--------------------------- ---------------------------
Weighted average common shares and
dilutive potential common shares........................ 209,094 206,924 209,176 206,208
=========================== ===========================
Net earnings available to common shareholders.............. $ 9,113 $ 6,822 $ 26,579 $ 16,957
Basic net earnings per share .............................. $ 0.04 $ 0.03 $ 0.13 $ 0.08
Diluted net earnings per share ............................ $ 0.04 $ 0.03 $ 0.13 $ 0.08
CarMax Group:
Weighted average common shares............................. 37,065 29,877 37,013 27,905
Dilutive potential common shares:
Options................................................. 1,548 2,121 1,697 1,917
Restricted stock........................................ 5 27 12 42
--------------------------- ---------------------------
Weighted average common shares and
dilutive potential common shares........................ 38,618 32,025 38,722 29,864
=========================== ===========================
Net earnings available to common shareholders.............. $ 11,416 $ 8,028 $ 21,932 $ 14,860
Basic net earnings per share............................... $ 0.31 $ 0.27 $ 0.59 $ 0.53
Diluted net earnings per share............................. $ 0.30 $ 0.25 $ 0.57 $ 0.50
In a public offering completed during the second quarter of fiscal 2002,
Circuit City Stores, Inc. sold 9,516,800 CarMax Group shares that had
previously been reserved for the Circuit City Group. Because both the
earnings allocation and the outstanding CarMax shares were adjusted to
reflect the impact of the sale, net earnings per CarMax Group share were
not diluted by the sale. With the impact of the offering, 64.0 percent of
the CarMax Group's fiscal 2003 second quarter and first half earnings were
allocated to the Circuit City Group. Last fiscal year, 70.7 percent of the
CarMax Group's second quarter earnings and 72.5 percent of the CarMax
Group's first half earnings were allocated to the Circuit City Group.
Certain options were outstanding and not included in the computation of
diluted net earnings per share because the options' exercise prices were
greater than the average market price of the shares. For the three-month
period ended August 31, 2002, options to purchase 6,846,704 shares of
Circuit City Group Common Stock at prices ranging from $17.25 to $40.81 per
share were outstanding and not included in the calculation. For the
three-month period ended August 31, 2001, options to purchase 6,798,996
shares of Circuit City Group Common Stock at prices ranging from $17.25 to
$43.03 per share were outstanding and not included in the calculation.
For the three-month period ended August 31, 2002, options to purchase
1,030,207 shares of CarMax Group Common Stock at prices ranging from $20.00
to $26.83 per share were outstanding and not included in the calculation.
For the three-month period ended August 31, 2001, options to purchase 7,899
shares of CarMax Group Common Stock at $16.31 per share were outstanding
and not included in the calculation.
Page 8 of 73
4. Debt
On May 17, 2002, CarMax entered into a $200 million credit agreement
secured by vehicle inventory. The credit agreement includes a $100 million
revolving loan commitment and a $100 million term loan. Principal is due in
full at maturity with interest payable monthly at a LIBOR-based rate. The
agreement is scheduled to terminate in May 2004. The termination date of
the agreement will be automatically extended one year on May 17, 2003, and
on each May 17 thereafter unless CarMax or any lender elects, prior to the
next extension date, not to extend the agreement. The value of CarMax's
eligible motor vehicle inventory must be at least 150 percent of the
aggregate principal amount outstanding under the credit facility on any
date. As of August 31, 2002, the amount outstanding under this credit
agreement was $105.2 million. Under this agreement, CarMax must meet
financial covenants relating to minimum current ratio, maximum total
liabilities to tangible net worth ratio and minimum fixed charge coverage
ratio. CarMax was in compliance with these covenants at August 31, 2002.
5. Supplemental Financial Statement Information
For the three- and six-month periods ended August 31, 2002 and 2001, pretax
finance operation income, which is recorded as a reduction to selling,
general and administrative expenses, was as follows:
Three Months Ended Six Months Ended
August 31, August 31,
(Amounts in millions) 2002 2001 2002 2001
--------------------------------------------------------------------------------------------------------
Circuit City Group:
Securitization income........................ $ 55.5 $ 55.6 $ 106.0 $ 115.3
Payroll and fringe benefit expenses.......... 10.6 10.2 21.3 20.5
Other direct expenses........................ 18.9 20.6 38.3 40.5
--------------------------------------------------------
Finance operation income..................... 26.0 24.8 46.4 54.3
--------------------------------------------------------
CarMax Group:
Securitization income........................ 25.8 21.4 49.1 39.8
Payroll and fringe benefit expenses.......... 1.7 1.3 3.4 2.6
Other direct expenses........................ 2.0 1.5 3.7 2.9
--------------------------------------------------------
Finance operation income..................... 22.1 18.6 42.0 34.3
Third-party financing fees................... 4.6 4.2 8.8 8.0
--------------------------------------------------------
Total finance income......................... 26.7 22.8 50.8 42.3
--------------------------------------------------------
Circuit City Stores, Inc.:
Consolidated finance income.................. $ 52.7 $ 47.6 $ 97.2 $ 96.6
========================================================
For both the Circuit City Group and the CarMax Group, the finance operation
income does not include any allocation of indirect costs or income. The
Company presents this information on a direct basis to avoid making
arbitrary decisions regarding the periodic indirect benefit or costs that
could be attributed to this operation. Examples of indirect costs not
included are corporate expenses such as human resources, administrative
services, marketing, information systems, accounting, legal, treasury and
executive payroll, as well as retail store expenses.
6. Securitizations
(A) Credit Card Securitizations:
Circuit City enters into securitization transactions to finance consumer
revolving credit card receivables originated by its finance operation. In
accordance with the isolation provisions of Statement of Financial
Accounting Standards No. 140, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities," special purpose
subsidiaries were created for the sole purpose of facilitating these
securitization transactions. Credit card receivables are sold to the
special purpose subsidiaries, which, in turn, transfer these receivables to
securitization master trusts. For transfers of receivables that qualify as
sales, Circuit City recognizes gains or losses as a component of the
finance operation's profits, which are
Page 9 of 73
recorded as a reduction to selling, general and administrative expenses.
See Note 5. Private-label and co-branded Visa credit card receivables are
securitized through one master trust, and MasterCard and Visa credit card,
referred to as bankcard, receivables are securitized through a second
master trust. Each master trust periodically issues securities backed by
the receivables in that master trust. Each master trust has issued multiple
series of term asset-backed securities having fixed initial principal
amounts and, in addition, each master trust has issued a series of variable
funding asset-backed securities having a variable principal amount.
Investors in the variable funding asset-backed securities are generally
entitled to receive monthly interest payments and have committed to acquire
additional variable funding securities up to a stated amount until a stated
commitment termination date. In these securitizations, Circuit City's
finance operation continues to service the securitized receivables for a
fee and the special purpose subsidiaries retain an undivided interest in
the transferred receivables and hold various subordinated asset-backed
securities that serve as credit enhancements for the asset-backed
securities held by outside investors. Neither master trust agreement
provides for recourse to the Company for credit losses on the securitized
receivables. Circuit City employs a risk-based pricing strategy that
increases the stated annual percentage rate for accounts that have a higher
predicted risk of default. Under certain of the securitization programs,
Circuit City must meet financial guidelines relating to minimum tangible
net worth, debt to net worth and the current ratio in order to transfer
additional receivables. The securitized receivables must meet performance
levels relating to portfolio yield, default rates, principal payment rates
and delinquency rates. Circuit City was in compliance with these guidelines
and performance levels at August 31, 2002, and February 28, 2002.
The total principal amount of credit card receivables managed was $2.79
billion at August 31, 2002, and $2.85 billion at February 28, 2002. Of the
total principal amounts managed, the principal amount of receivables
securitized was $2.75 billion at August 31, 2002, and $2.80 billion at
February 28, 2002, and the principal amount of receivables held for sale
was $43.1 million at August 31, 2002, and $49.2 million at February 28,
2002. During the second quarter of fiscal 2003, the Company completed a
$470.0 million bankcard receivable securitization transaction, and during
the first quarter of fiscal 2003, the Company completed a $300 million
private-label credit card receivable securitization transaction. No new
public securitization transactions were completed in the first half of
fiscal 2002. At August 31, 2002, the unused capacity of the private-label
variable funding program was $248.5 million and the unused capacity of the
bankcard variable funding program was $94.5 million. At February 28, 2002,
the unused capacity of the private-label variable funding program was $22.9
million and the unused capacity of the bankcard variable funding program
was $496.5 million.
The aggregate amount of receivables that were 31 days or more delinquent
was $184.4 million at August 31, 2002, and $198.4 million at February 28,
2002. The principal amount of defaults net of recoveries totaled $63.0
million for the quarter ended August 31, 2002, and $62.3 million for the
quarter ended August 31, 2001. The principal amount of defaults net of
recoveries totaled $133.8 million for the six months ended August 31, 2002,
and $131.9 million for the six months ended August 31, 2001.
Circuit City receives annual servicing fees approximating 2 percent of the
outstanding principal balance of the credit card receivables and retains
the rights to future cash flows available after the investors in the
asset-backed securities have received the return for which they contracted.
The servicing fees specified in the credit card securitization agreements
adequately compensate the finance operation for servicing the securitized
receivables. Accordingly, no servicing asset or liability has been
recorded.
Page 10 of 73
The table below summarizes certain cash flows received from and paid to the
credit card securitization trusts.
Three Months Ended Six Months Ended
August 31, August 31,
(Amounts in millions) 2002 2001 2002 2001
--------------------------------------------------------------------------------------------------------------------
Proceeds from new securitizations.......................... $ 381.8 $ 204.4 $ 783.6 $ 378.2
Proceeds from collections reinvested
in previous credit card securitizations.................. $ 361.9 $ 457.5 $ 607.5 $ 817.0
Servicing fees received.................................... $ 12.4 $ 12.6 $ 25.4 $ 25.9
Other cash flows received on retained interests*........... $ 43.5 $ 49.7 $ 94.2 $ 93.9
*This amount represents cash flows received from retained interests by the
transferor other than servicing fees, including cash flows from
interest-only strips and cash above the minimum required level in cash
collateral accounts.
When determining the fair value of retained interests, Circuit City
estimates future cash flows using management's projections of key factors,
such as finance charge income, default rates, payment rates, forward
interest rate curves and discount rates appropriate for the type of asset
and risk.
The amount by which the estimated future finance income from securitized
credit card receivables exceeds the sum of the contractually specified
investor returns and servicing fees, referred to as interest-only strips,
is carried at fair value and amounted to $126.9 million at August 31, 2002,
and $131.9 million at February 28, 2002. These amounts are included in
retained interests in securitized receivables on the consolidated balance
sheets. The value of the interest-only strip increased $0.1 million in the
three months ended August 31, 2002 and decreased $2.4 million in the three
months ended August 31, 2001. The value of the interest-only strip
decreased $5.0 million in the six months ended August 31, 2002 and
increased $1.4 million in the six months ended August 31, 2001.
At August 31, 2002, the fair value of retained interests was $467.8
million, with a weighted-average life ranging from 0.2 years to 4.9 years.
At February 28, 2002, the fair value of retained interests was $394.5
million, with a weighted-average life ranging from 0.2 years to 1.8 years.
The following table shows the key economic assumptions used in measuring
the fair value of retained interests at August 31, 2002, and a sensitivity
analysis showing the hypothetical effect on the fair value of those
interests when there are unfavorable variations from the assumptions used.
Key economic assumptions at August 31, 2002, are not materially different
from assumptions used to measure the fair value of retained interests at
the time of securitization. These sensitivities are hypothetical and should
be used with caution. In this table, the effect of a variation in a
particular assumption on the fair value of the retained interest is
calculated without changing any other assumption; in actual circumstances,
changes in one factor may result in changes in another, which might magnify
or counteract the sensitivities.
Impact on Fair Impact on Fair
Assumptions Value of 10% Value of 20%
(Dollar amounts in millions) Used Adverse Change Adverse Change
--------------------------------------------------------------------------------------------------------------------
Monthly payment rate................... 6.6%-10.2% $ 9.0 $ 16.4
Annual default rate.................... 7.2%-17.7% $ 23.0 $ 45.3
Annual discount rate................... 8.3%-15.0% $ 4.3 $ 8.5
(B) Automobile Loan Securitizations:
CarMax enters into securitization transactions to finance automobile loan
receivables originated by its finance operation. CarMax's finance operation
sells its automobile loan receivables to a special purpose subsidiary,
which, in turn, transfers those receivables to a group of third-party
investors. For transfers of receivables that qualify as sales, CarMax
recognizes gains or losses as a component of the finance operation's
profits, which are recorded as a reduction to selling, general and
administrative expenses. See Note 5. The special purpose subsidiary retains
a subordinated interest in the transferred receivables. CarMax's finance
operation
Page 11 of 73
continues to service securitized receivables for a fee. The unused capacity
of this program was $361.0 million at August 31, 2002, and $211.0 million
at February 28, 2002. The automobile loan securitization agreements do not
provide for recourse to the Company for credit losses on the securitized
receivables. CarMax employs a risk-based pricing strategy that increases
the stated annual percentage rate for accounts that have a higher predicted
risk of default. Under certain of these securitization programs, CarMax
must meet financial guidelines relating to maximum total liabilities to
tangible net worth ratio, minimum debt to net worth, minimum tangible net
worth to managed assets, minimum current ratio, minimum cash balance or
borrowing capacity and minimum fixed charge coverage ratio. The securitized
receivables must meet performance levels relating to portfolio yield,
default rates and delinquency rates. CarMax was in compliance with these
guidelines and performance levels at August 31, 2002, and February 28,
2002.
The total principal amount of automobile loan receivables managed was $1.75
billion at August 31, 2002, and $1.55 billion at February 28, 2002. Of the
total principal amounts managed, the principal amount of automobile loan
receivables securitized was $1.72 billion at August 31, 2002, and $1.54
billion at February 28, 2002, and the principal amount of automobile loan
receivables held for sale or investment was $25.1 million at August 31,
2002, and $13.9 million at February 28, 2002. During the second quarter of
fiscal 2003, CarMax completed an asset securitization transaction totaling
$512.6 million of automobile loan receivables. No new public securitization
transactions were completed in the first half of fiscal 2002.
The aggregate principal amount of managed automobile loans that were 31
days or more delinquent was $26.1 million at August 31, 2002, and $22.3
million at February 28, 2002, and $18.8 million at August 31, 2001. The
principal amount of defaults net of recoveries on automobile loan
receivables managed totaled $4.1 million for the quarter ended August 31,
2002, and $2.6 million for the quarter ended August 31, 2001. The principal
amount of defaults net of recoveries on automobile loan receivables managed
totaled $7.3 million for the six months ended August 31, 2002, and $4.5
million for the six months ended August 31, 2001.
CarMax receives annual servicing fees approximating 1 percent of the
outstanding principal balance of the securitized automobile loan
receivables and retains the rights to future cash flows available after the
investors in the asset-backed securities have received the return for which
they contracted. The servicing fees specified in the automobile loan
securitization agreements adequately compensate the finance operation for
servicing the securitized receivables. Accordingly, no servicing asset or
liability has been recorded.
The table below summarizes certain cash flows received from and paid to the
automobile loan securitization trusts.
Three Months Ended Six Months Ended
August 31, August 31,
(Amounts in millions) 2002 2001 2002 2001
--------------------------------------------------------------------------------------------------------------------
Proceeds from new securitizations.......................... $ 266.6 $ 181.0 $ 487.6 $ 376.0
Proceeds from collections reinvested
in previous automobile loan securitizations.............. $ 124.1 $ 126.9 $ 258.6 $ 218.4
Servicing fees received.................................... $ 3.9 $ 3.5 $ 7.8 $ 6.7
Other cash flows received on retained interests*........... $ 24.1 $ 16.5 $ 44.1 $ 29.0
*This amount represents cash flows received from retained interests by the
transferor other than servicing fees, including cash flows from
interest-only strips and cash above the minimum required level in cash
collateral accounts.
When determining the fair value of retained interests, CarMax estimates
future cash flows using management's projections of key factors, such as
finance charge income, default rates, payment rates and discount rates
appropriate for the type of asset and risk.
The amount by which the estimated future finance income from securitized
automobile loan receivables exceeds the sum of the contractually specified
investor returns and servicing fees, referred to as interest-only strips,
is carried at fair value and amounted to $84.2 million at August 31, 2002,
and $74.3 million at February 28, 2002. These amounts are included in
retained interests in securitized receivables on the consolidated
Page 12 of 73
balance sheets. Gains of $18.1 million on sales of automobile loan
receivables were recorded for the three months ended August 31, 2002; gains
of $14.7 million on sales of automobile loan receivables were recorded for
the three months ended August 31, 2001. Gains of $33.7 million on sales of
automobile loan receivables were recorded for the six months ended August
31, 2002; gains of $27.8 million on sales of automobile loan receivables
were recorded for the six months ended August 31, 2001.
At August 31, 2002, the fair value of retained interests was $131.1
million, with a weighted-average life of 1.6 years. At February 28, 2002,
the fair value of retained interests was $120.7 million, with a
weighted-average life of 1.6 years. The following table shows the key
economic assumptions used in measuring the fair value of retained interests
at August 31, 2002, and a sensitivity analysis showing the hypothetical
effect on the fair value of those interests when there are unfavorable
variations from the assumptions used. Key economic assumptions at August
31, 2002, are not materially different from assumptions used to measure the
fair value of retained interests at the time of securitization. These
sensitivities are hypothetical and should be used with caution. In this
table, the effect of a variation in a particular assumption on the fair
value of the retained interest is calculated without changing any other
assumption; in actual circumstances, changes in one factor may result in
changes in another, which might magnify or counteract the sensitivities.
Impact on Fair Impact on Fair
Assumptions Value of 10% Value of 20%
(Dollar amounts in millions) Used Adverse Change Adverse Change
-------------------------------------------------------------------------------------------
Prepayment rate.................. 1.5%-1.6% $ 4.4 $8.8
Annual default rate.............. 1.0%-1.2% $ 2.3 $4.5
Annual discount rate............. 12.0% $ 1.6 $3.1
7. Financial Derivatives
On behalf of Circuit City, the Company enters into interest rate cap
agreements to meet the requirements of the credit card receivable
securitization transactions. During the first quarter of fiscal 2003 and in
conjunction with the private-label public securitization, the Company
purchased and sold three offsetting interest rate caps with an aggregate
initial notional amount of $280.5 million. The total notional amount of
interest rate caps outstanding was $935.4 million at August 31, 2002, and
$654.9 million at February 28, 2002. Purchased interest rate caps were
included in net accounts receivable and had a fair value of $7.0 million as
of August 31, 2002, and $2.4 million as of February 28, 2002. Written
interest rate caps were included in accounts payable and had a fair value
of $7.0 million as of August 31, 2002, and $2.4 million as of February 28,
2002.
On behalf of CarMax, the Company enters into amortizing swaps relating to
automobile loan receivable securitizations to convert variable-rate
financing costs to fixed-rate obligations to better match funding costs to
the receivables being securitized. During the second quarter of fiscal
2003, the Company entered into three 40-month amortizing interest rate
swaps with an initial notional amount totaling approximately $226.0
million. The current amortized notional amount of all outstanding swaps
related to the automobile loan receivable securitizations was approximately
$388.4 million at August 31, 2002, and $413.3 million at February 28, 2002.
At August 31, 2002, the fair value of swaps totaled a net liability of $4.6
million and were included in accounts payable. At February 28, 2002, the
fair value of swaps totaled a net liability of $841,000 and were included
in accounts payable.
The market and credit risks associated with interest rate caps and interest
rate swaps are similar to those relating to other types of financial
instruments. Market risk is the exposure created by potential fluctuations
in interest rates and is directly related to the product type, agreement
terms and transaction volume. The Company has entered into offsetting
interest rate cap positions and, therefore, does not anticipate significant
market risk arising from interest rate caps. The Company does not
anticipate significant market risk from swaps as they are used on a monthly
basis to match funding costs to the use of the funding. Credit risk is the
exposure to nonperformance of another party to an agreement. The Company
mitigates credit risk by dealing with highly rated bank counterparties.
Page 13 of 73
8. Appliance Exit Costs
In the second quarter of fiscal 2001, the Company began to exit the major
appliance category and expand its selection of key consumer electronics and
home office products in all Circuit City Superstores. This process was
completed in November 2000. To exit the appliance business, the Company
closed eight distribution centers and eight service centers. The Company
leases the majority of these closed properties. While the Company has
entered into contracts to sublease some of these properties, it continues
the process of marketing the remaining properties to be subleased.
In fiscal 2001, the Company recorded appliance exit costs of $30.0 million.
In the fourth quarter of fiscal 2002, the Company recorded additional lease
termination costs of $10.0 million to reflect the rental market for these
leased properties. These expenses are reported separately on the
consolidated statements of earnings. The appliance exit cost liability is
included in accrued expenses and other current liabilities on the
consolidated balance sheets.
The appliance exit cost accrual activity and the remaining liability at
August 31, 2002, are presented in the following table.
Fiscal 2003
Total Liability at Payments Liability at
Exit Cost February 28, or August 31,
(Amounts in millions) Accrual 2002 Write-Downs 2002
-----------------------------------------------------------------------------------------------------------------
Lease termination costs............. $ 27.8 $ 19.7 $ 3.4 $ 16.3
Fixed asset write-downs, net........ 5.0 - - -
Employee termination benefits....... 4.4 - - -
Other............................... 2.8 - - -
--------------------------------------------------------------------------
Appliance exit costs................ $ 40.0 $ 19.7 $ 3.4 $ 16.3
==========================================================================
9. Operating Segment Information
The Company has conducted business in two operating segments: Circuit City
and CarMax. These segments have been identified and managed by the Company
based on the different products and services offered by each. See Note 13.
Circuit City refers to the retail operations bearing the Circuit City name
and to all related operations, such as Circuit City's finance operation.
This segment is engaged in the business of selling brand-name consumer
electronics, personal computers and entertainment software. CarMax refers
to the used- and new-car retail locations bearing the CarMax name and to
all related operations, such as CarMax's finance operation.
Financial information for these segments for the three- and six-month
periods ended August 31, 2002 and 2001, is presented in the following
tables.
Three Months Ended August 31, 2002
Total Operating
(Amounts in thousands) Circuit City CarMax Segments
----------------------------------------------------------------------------------------------
Revenues from external customers.......... $ 2,221,204 $ 1,076,083 $ 3,297,287
Interest expense.......................... 550 957 1,507
Depreciation and amortization............ 40,800 4,286 45,086
(Loss) earnings before income taxes....... (18,041) 52,420 34,379
Income tax (benefit) provision............ (6,856) 20,706 13,850
Net (loss) earnings....................... (11,185) 31,714 20,529
Total assets.............................. $ 3,837,533 $ 825,922 $ 4,659,149
Page 14 of 73
Three Months Ended August 31, 2001
Total Operating
(Amounts in thousands) Circuit City CarMax Segments
----------------------------------------------------------------------------------------------
Revenues from external customers.......... $ 2,023,209 $ 938,911 $ 2,962,120
Interest (income) expense................. (432) 2,086 1,654
Depreciation and amortization............. 33,888 4,612 38,500
(Loss) earnings before income taxes....... (20,227) 44,178 23,951
Income tax (benefit) provision............ (7,686) 16,787 9,101
Net (loss) earnings....................... (12,541) 27,391 14,850
Total assets.............................. $ 3,264,090 $ 694,453 $ 3,958,543
Six Months Ended August 31, 2002
Total Operating
(Amounts in thousands) Circuit City CarMax Segments
----------------------------------------------------------------------------------------------
Revenues from external customers.......... $ 4,339,447 $ 2,077,647 $ 6,417,094
Interest expense.......................... 550 1,983 2,533
Depreciation and amortization............. 76,546 8,424 84,970
(Loss) earnings before income taxes....... (20,066) 100,747 80,681
Income tax (benefit) provision............ (7,625) 39,795 32,170
Net (loss) earnings....................... (12,441) 60,952 48,511
Total assets.............................. $ 3,837,533 $ 825,922 $ 4,659,149
Six Months Ended August 31, 2001
Total Operating
(Amounts in thousands) Circuit City CarMax Segments
----------------------------------------------------------------------------------------------
Revenues from external customers.......... $ 3,893,830 $ 1,817,911 $ 5,711,741
Interest expense.......................... 9 4,637 4,646
Depreciation and amortization............. 68,377 9,305 77,682
(Loss) earnings before income taxes....... (35,719) 87,037 51,318
Income tax (benefit) provision............ (13,573) 33,074 19,501
Net (loss) earnings....................... (22,146) 53,963 31,817
Total assets.............................. $ 3,264,090 $ 694,453 $ 3,958,543
In the preceding tables, the net loss for Circuit City excludes the net
earnings attributed to the reserved CarMax Group shares. Total assets for
Circuit City exclude the reserved CarMax Group shares. As of August 31,
2001, total assets for Circuit City also exclude the discontinued Divx
operations, which are discussed in Note 10.
10. Discontinued Operations
On June 16, 1999, Digital Video Express announced that it would cease
marketing the Divx home video system and discontinue operations. At August
31, 2002, current liabilities of $8.0 million related to the former Divx
operations were reflected in the consolidated balance sheet. At February
28, 2002, current liabilities of $18.5 million related to the former Divx
operations were reflected in the consolidated balance sheet. For the three-
and six-month periods ended August 31, 2002 and 2001, the discontinued Divx
operations had no impact on the net earnings of Circuit City Stores, Inc.
Discontinued operations have been segregated on the consolidated statements
of cash flows.
11. Recent Accounting Pronouncements
In June 2001, the Financial Accounting Standards Board issued SFAS No. 142,
"Goodwill and Other Intangible Assets," effective for fiscal years
beginning after December 15, 2001. Under the provisions of SFAS No. 142,
goodwill and intangible assets deemed to have indefinite lives are no
longer amortized but instead are subject to annual impairment tests in
accordance with the pronouncement. Other intangible
Page 15 of 73
assets that are identified to have finite useful lives continue to be
amortized in a manner that reflects the estimated decline in the economic
value of the intangible asset and are subject to review when events or
circumstances which indicate impairment arise. The Company has performed
the first of the required impairment tests of goodwill and indefinite-lived
intangible assets, as outlined in the pronouncement. Based on the results
of tests performed, as well as ongoing periodic assessments of goodwill,
the Company did not recognize any impairment losses. Application of the
nonamortization provisions of SFAS No. 142 in the first half of fiscal 2003
did not have a material impact on the financial position, results of
operations or cash flows of the Company.
In August 2001, the FASB issued SFAS No. 143, "Accounting For Asset
Retirement Obligations." This statement addresses financial accounting and
reporting for obligations associated with the retirement of tangible
long-lived assets and the associated asset retirement costs. It applies to
legal obligations associated with the retirement of long-lived assets that
result from the acquisition, construction, development and/or the normal
operation of a long-lived asset, except for certain obligations of lessees.
This standard requires entities to record the fair value of a liability for
an asset retirement obligation in the period incurred. SFAS No. 143 is
effective for fiscal years beginning after June 15, 2002. The Company has
not yet determined the impact, if any, of adopting this standard.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." This statement addresses
financial accounting and reporting for costs associated with exit or
disposal activities and nullifies Emerging Issues Task Force No. 94-3,
"Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." It applies to costs associated with an exit activity that
does not involve an entity newly acquired in a business combination and
costs associated with a disposal activity covered by SFAS No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets." This
standard requires that a liability for a cost associated with an exit or
disposal activity be recognized and measured initially at fair value when
the liability is incurred, rather than at the date of commitment to an exit
or disposal plan. SFAS No. 146 is effective for exit or disposal activities
initiated after December 31, 2002. The Company has not yet determined the
impact, if any, of adopting this standard.
12. Reclassifications
Certain prior year amounts have been reclassified to conform to the current
presentation. Effective in the first quarter of fiscal 2003, Circuit City
Stores adopted EITF No. 00-14, "Accounting for Certain Sales Incentives,"
which provides that sales incentives, such as mail-in rebates, offered to
customers should be classified as a reduction of revenue. Previously, the
Company recorded these rebates in cost of sales, buying and warehousing.
The reclassification of rebates from cost of sales, buying and warehousing
to sales decreased sales and cost of sales, buying and warehousing by $13.4
million for the quarter ended August 31, 2001, and $24.4 million for the
six months ended August 31, 2001. This reclassification had no impact on
the Company's net earnings.
For the three- and six-month periods ended August 31, 2001, CarMax
wholesale sales have been reclassified and reported in net sales and
operating revenues. In previous periods, wholesale sales were recorded as
reductions to cost of sales. The reclassification of wholesale sales to
sales increased sales and cost of sales by $90.0 million for the quarter
ended August 31, 2001, and $174.6 million for the six months ended August
31, 2001. An additional reclassification between sales and cost of sales
made to conform to the current presentation decreased sales and cost of
sales by $2.5 million for the quarter ended August 31, 2001, and $4.8
million for the six months ended August 31, 2001. These reclassifications
had no impact on the Company's net earnings.
Page 16 of 73
13. Subsequent Event
On September 10, 2002, the Company's shareholders approved the separation
of the CarMax Group from Circuit City Stores, Inc. and the Company's board
of directors authorized the redemption of the Company's CarMax Group Common
Stock and the distribution of CarMax, Inc. common stock to effect the
separation. The separation was effective October 1, 2002. Each outstanding
share of CarMax Group Common Stock was redeemed in exchange for one share
of new CarMax, Inc. common stock. In addition, each holder of Circuit City
Group Common Stock received as a tax-free distribution 0.313879 of a share
of CarMax, Inc. common stock for each share of Circuit City Group Common
Stock owned as of September 16, 2002, the record date for the distribution.
Following the separation, the Circuit City Group Common Stock was renamed
Circuit City common stock, representing an ownership interest only in the
Circuit City business, and CarMax, Inc. became an independent, separately
traded public company. Effective with the separation, Circuit City will
report CarMax as a discontinued operation.
ITEM 2.
CIRCUIT CITY STORES, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
In this discussion, "we," "our" and "Circuit City Stores" refer to Circuit City
Stores, Inc. and our wholly owned subsidiaries, unless the context requires
otherwise. "Circuit City business" and "Circuit City" refer to the retail
operations bearing the Circuit City name and to all related operations such as
product service and Circuit City's finance operation. "Circuit City Group"
refers to the Circuit City business and the reserved CarMax Group shares.
"CarMax business," "CarMax" and "CarMax Group" refer to retail locations bearing
the CarMax name and to all related operations such as CarMax's finance
operation. All references to "quarter" and "year" refer to our fiscal year
periods rather than calendar year periods unless stated otherwise.
On September 10, 2002, the Company's shareholders approved the separation of the
CarMax Group from Circuit City Stores, Inc. and the Company's board of directors
authorized the redemption of the Company's CarMax Group Common Stock and the
distribution of CarMax, Inc. common stock to effect the separation. The
separation was effective October 1, 2002. Each outstanding share of CarMax Group
Common Stock was redeemed in exchange for one share of new CarMax, Inc. common
stock. In addition, each holder of Circuit City Group Common Stock received as a
tax-free distribution 0.313879 of a share of CarMax, Inc. common stock for each
share of Circuit City Group Common Stock owned as of September 16, 2002, the
record date for the distribution. Following the separation, the Circuit City
Group Common Stock was renamed Circuit City common stock, representing an
ownership interest only in the Circuit City business, and CarMax, Inc. became an
independent, separately traded public company. Effective with the separation,
Circuit City will report CarMax as a discontinued operation.
CRITICAL ACCOUNTING POLICIES
See the discussion of critical accounting policies included in the Circuit City
Stores, Inc. 2002 Annual Report to Shareholders. These policies relate to the
calculation of the value of retained interests in securitization transactions
and the calculation of the liability for lease termination costs.
Page 17 of 73
RESULTS OF OPERATIONS
Effective in the first quarter of fiscal 2003, Circuit City Stores adopted
Emerging Issues Task Force No. 00-14, "Accounting for Certain Sales Incentives,"
which provides that sales incentives, such as mail-in rebates, offered to
customers should be classified as a reduction of revenue. Previously, the
Company recorded these rebates in cost of sales, buying and warehousing. The
reclassification of rebates from cost of sales, buying and warehousing to sales
decreased sales and cost of sales, buying and warehousing by $13.4 million for
the quarter ended August 31, 2001, and $24.4 million for the six months ended
August 31, 2001. This reclassification had no impact on the Company's net
earnings.
Effective in the first quarter of fiscal 2003, CarMax classifies revenue from
the sale of wholesale vehicles in net sales and operating revenues. Previously,
CarMax wholesale vehicle sales were recorded as reductions to cost of sales. The
reclassification of wholesale sales to sales increased sales and cost of sales
by $90.0 million for the quarter ended August 31, 2001, and $174.6 million for
the six months ended August 31, 2001. An additional reclassification between
sales and cost of sales made to conform to the current presentation decreased
sales and cost of sales by $2.5 million for the quarter ended August 31, 2001,
and $4.8 million for the six months ended August 31, 2001. These
reclassifications had no impact on the Company's net earnings.
Our operations, in common with other retailers in general, are subject to
seasonal influences. Historically, the Circuit City business has realized more
of its net sales and net earnings in the fourth quarter, which includes the
December holiday selling season, than in any other fiscal quarter. The CarMax
business, however, has experienced more of its net sales in the first half of
the fiscal year. The net earnings of any quarter are seasonally disproportionate
to net sales since administrative and certain operating expenses remain
relatively constant during the year. Therefore, quarterly results should not be
relied upon as necessarily indicative of results for the entire fiscal year.
Net Sales and Operating Revenues
Circuit City Stores, Inc. Total sales for Circuit City Stores for the second
quarter of fiscal 2003 were $3.30 billion, an increase of 11 percent from $2.96
billion for the same period last year. For the six months ended August 31, 2002,
total sales increased 12 percent to $6.42 billion from $5.71 billion for the
same period last year.
Circuit City Group. Total sales for the Circuit City Group for the second
quarter of fiscal 2003 increased 10 percent to $2.22 billion from $2.02 billion
in last year's second quarter. Comparable store sales increased 10 percent for
the second quarter of fiscal 2003. For the six months ended August 31, 2002,
total sales increased 11 percent to $4.34 billion from $3.89 billion in last
year's first half. Comparable store sales increased 11 percent for the first
half of fiscal 2003. A Circuit City store is included in comparable store sales
after the store has been open for a full year. Relocated stores are included in
the comparable store base.
Second quarter Circuit City sales for fiscal 2003 reflected continued progress
in both the high-service and packaged goods arenas. We posted strong sales
growth in categories such as video, including big-screen televisions,
particularly digital televisions. Due in part to back-to-school traffic,
increased sales of notebook computers, printers, monitors, personal digital
assistants and personal computer accessories drove sales growth in the
information technology category. We also experienced significant sales gains in
more promotional traffic-driving categories such as entertainment software and
entry-level electronics.
Page 18 of 73
The percent of merchandise sales represented by each major product category
during the second quarter of fiscal years 2003 and 2002 was as follows:
================================= ==================================== =====================================
Three Months Ended Six Months Ended
August 31, August 31,
------------------------------------ -------------------------------------
Product Mix 2002 2001 2002 2001
================================= ================== ================= ================== ==================
Video 39% 38% 39% 38%
--------------------------------- ------------------ ----------------- ------------------ ------------------
Audio 14 16 15 16
--------------------------------- ------------------ ----------------- ------------------ ------------------
Information Technology 36 36 35 36
--------------------------------- ------------------ ----------------- ------------------ ------------------
Entertainment 11 10 11 10
================================= ================== ================= ================== ==================
TOTAL 100% 100% 100% 100%
================================= ================== ================= ================== ==================
Circuit City sells extended warranty programs on behalf of unrelated third
parties that are the primary obligors. Under these third-party warranty
programs, we have no contractual liability to the customer. The total extended
warranty revenue that is reported in total sales was $84.0 million, or 3.8
percent of sales, in the second quarter of fiscal 2003, compared with $86.7
million, or 4.3 percent of sales, in last year's second quarter. The total
extended warranty revenue that is reported in total sales was $171.9 million, or
4.0 percent of sales, in the first half of fiscal 2003, compared with $166.8
million, or 4.3 percent of sales, in last year's first half.
The following table provides details on the Circuit City retail units:
======================== =================== =================== ================== ===================
Estimate
Store Mix Aug. 31, 2002 Aug. 31, 2001 Feb. 28, 2003 Feb. 28, 2002
------------------------ ------------------- ------------------- ------------------ -------------------
Superstores 606 598 611 604
------------------------ ------------------- ------------------- ------------------ -------------------
Mall-based
Express stores 17 29 17 20
------------------------ ------------------- ------------------- ------------------ -------------------
Total 623 627 628 624
======================== =================== =================== ================== ===================
Circuit City expects to open approximately eight Superstores and relocate an
estimated 10 Superstores in the current fiscal year. In the second quarter of
fiscal 2003, we opened three Superstores, relocated two Superstores and closed
two mall-based Express stores. For the first half of fiscal 2003, we opened
three Superstores, relocated four Superstores, closed one Superstore and closed
three mall-based Express stores.
CarMax Group. Total sales for the CarMax Group for the second quarter of fiscal
2003 increased 15 percent to $1.08 billion from $938.9 million in last year's
second quarter. For the six months ended August 31, 2002, total sales increased
14 percent to $2.08 billion from $1.82 billion in last year's first half.
Retail Vehicle Sales. Retail vehicle sales increased 15 percent to $936.7
million in the second quarter of fiscal 2003 from $813.1 million in the second
quarter of fiscal 2002. In the second quarter of fiscal 2003, used vehicle sales
increased 18 percent to $784.8 million from $662.4 million for the same period
last year, and new vehicle sales increased 1 percent to $151.9 million from
$150.7 million for the same period last year. For the six months ended August
31, 2002, retail vehicle sales increased 15 percent to $1.81 billion from $1.57
billion in the prior year. For the six months ended August 31, 2002, used
vehicle sales increased 19 percent to $1.52 billion from $1.28 billion last
year, and new vehicle sales decreased 4 percent to $284.2 million from $296.4
million in the same period last year.
Page 19 of 73
A CarMax store is included in comparable store retail sales after the store has
been open for a full year. Comparable store retail vehicle dollar and unit sales
for the second quarter and the first six months of fiscal years 2003 and 2002
were as follows:
====================================== ============================== =============================
Comparable Store Three Months Ended Six Months Ended
Retail Vehicle August 31, August 31,
------------------------------ -----------------------------
Sales Change 2002 2001 2002 2001
-------------------------------------- -------------- --------------- -------------- --------------
Vehicle units:
-------------------------------------- -------------- --------------- -------------- --------------
Used vehicles 12% 22% 12% 21%
-------------------------------------- -------------- --------------- -------------- --------------
New vehicles 5% 12% 1% 15%
-------------------------------------- -------------- --------------- -------------- --------------
Total 11% 21% 10% 20%
-------------------------------------- -------------- --------------- -------------- --------------
-------------------------------------- -------------- --------------- -------------- --------------
Vehicle dollars:
-------------------------------------- -------------- --------------- -------------- --------------
Used vehicles 12% 30% 13% 29%
-------------------------------------- -------------- --------------- -------------- --------------
New vehicles 8% 14% 2% 18%
-------------------------------------- -------------- --------------- -------------- --------------
Total 11% 27% 11% 27%
====================================== ============== =============== ============== ==============
For the second quarter of fiscal 2003, the overall increase in retail sales is
attributed to the 12 percent growth in comparable store used-unit sales, the
three CarMax stores opened since the first quarter of fiscal 2002 and the slight
increase in the average retail selling price for used vehicles. For the
three-month period ended August 31, 2002, the comparable store new-unit sales
were in line with the new-car industry's performance as the industry benefited
from the re-introduction of zero-percent financing incentives in July. This
second-quarter performance more than offset the weakness in new-car sales
experienced in the first quarter, which also was in line with the industry,
delivering comparable store new-unit growth of 1 percent for the six-month
period ended August 31, 2002.
================================== ================================ ================================
Average Retail Three Months Ended Six Months Ended
Selling Prices August 31, August 31,
-------------------------------- --------------------------------
2002 2001 2002 2001
---------------------------------- --------------- ---------------- --------------- ----------------
Used vehicles $15,400 $15,300 $15,400 $15,200
---------------------------------- --------------- ---------------- --------------- ----------------
New vehicles $23,400 $22,800 $23,200 $23,000
---------------------------------- --------------- ---------------- --------------- ----------------
Blended average $16,300 $16,300 $16,300 $16,200
================================== =============== ================ =============== ================
================================== ================================ ===============================
Retail Vehicle Three Months Ended Six Months Ended
Sales Mix August 31, August 31,
-------------------------------- -------------------------------
2002 2001 2002 2001
---------------------------------- --------------- ---------------- --------------- ---------------
Vehicle units:
---------------------------------- --------------- ---------------- --------------- ---------------
Used vehicles 89% 87% 89% 87%
---------------------------------- --------------- ---------------- --------------- ---------------
New vehicles 11 13 11 13
---------------------------------- --------------- ---------------- --------------- ---------------
Total 100% 100% 100% 100%
---------------------------------- --------------- ---------------- --------------- ---------------
---------------------------------- --------------- ---------------- --------------- ---------------
Vehicle dollars:
---------------------------------- --------------- ---------------- --------------- ---------------
Used vehicles 84% 81% 84% 81%
---------------------------------- --------------- ---------------- --------------- ---------------
New vehicles 16 19 16 19
---------------------------------- --------------- ---------------- --------------- ---------------
Total 100% 100% 100% 100%
================================== =============== ================ =============== ===============
Page 20 of 73
Wholesale Vehicle Sales. CarMax's operating strategy is to build customer
confidence and satisfaction by offering only high-quality vehicles; therefore,
fewer than half of the vehicles acquired through the appraisal process meet the
CarMax retail standard. Those vehicles that do not meet CarMax's standards are
sold at its own on-site wholesale auctions. Wholesale vehicle sales totaled
$97.7 million in the second quarter of fiscal 2003, compared with $90.0 million
in the same period last year. For the six months ended August 31, 2002,
wholesale vehicle sales totaled $190.1 million, compared with $174.6 million in
the same period last year. These increases were consistent with increased
traffic at CarMax stores, the impact of which was partially offset by lower
average wholesale sale prices.
Other Sales and Revenues. Other sales and revenues include extended warranty
revenues, service department sales and processing fees collected from consumers
for the purchase of their vehicles at a CarMax retail location and totaled $41.7
million in the second quarter of fiscal 2003, compared with $35.8 million in the
same period last year. For the six months ended August 31, 2002, other sales and
revenues totaled $80.7 million, compared with $69.3 million in the same period
last year.
CarMax sells extended warranties on behalf of unrelated third parties who are
the primary obligors. Under these third-party warranty programs, CarMax has no
contractual liability to the customer. Extended warranty revenue was $18.1
million in the second quarter of fiscal 2003 and $14.4 million in the second
quarter of fiscal 2002. For the six months ended August 31, 2002, extended
warranty revenue was $34.8 million, compared with $27.9 in the same period last
year. These increases in warranty revenue reflect improved penetration, a result
in part of continuing enhancement of CarMax's extended warranty offer, and
strong sales growth for used cars, which achieve a higher extended warranty
penetration rate than new cars.
Service sales were $15.9 million in the second quarter of fiscal 2003, compared
with $14.7 million in the same period last year. For the six months ended August
31, 2002, service sales were $31.4 million compared with $28.6 million in the
same period last year. These increases in service sales reflect the overall
increase in CarMax's customer base.
Processing fees were $7.7 million in the second quarter of fiscal 2003, compared
with $6.7 million in the same period last year. For the six months ended August
31, 2002, processing fees were $14.5 million, compared with $12.8 million in the
same period last year. Consumers are assessed a processing fee when selling a
vehicle to a CarMax retail location after the appraisal process. These increases
in processing fee revenue resulted from increased traffic and increased consumer
response to CarMax's vehicle purchase program.
Retail Stores. In September 2002, CarMax opened a satellite superstore in
Charlotte, N.C. During the second half of the year, CarMax also plans to enter
the Knoxville, Tenn., market and add satellite superstores in the Chicago, Ill.,
and Atlanta, Ga., markets. CarMax also has announced that it plans to enter the
Las Vegas, Nev., market in early March 2003, shortly after the end of fiscal
2003.
The following table provides detail on the CarMax retail stores:
===================================== ==================== =================== ================== ====================
Estimate
Store Mix Aug. 31, 2002 Aug. 31, 2001 Feb. 28, 2003 Feb. 28, 2002
------------------------------------- -------------------- ------------------- ------------------ --------------------
Mega superstores 13 13 13 13
------------------------------------- -------------------- ------------------- ------------------ --------------------
Standard superstores 18 16 19 17
------------------------------------- -------------------- ------------------- ------------------ --------------------
Prototype satellite stores 5 4 8 5
------------------------------------- -------------------- ------------------- ------------------ --------------------
Co-located new-car stores 2 2 2 2
------------------------------------- -------------------- ------------------- ------------------ --------------------
Stand-alone new-car stores 2 5 2 3
------------------------------------- -------------------- ------------------- ------------------ --------------------
Total 40 40 44 40
===================================== ==================== =================== ================== ====================
Page 21 of 73
Cost of Sales, Buying and Warehousing
Circuit City Stores, Inc. The gross profit margin for Circuit City Stores was
19.7 percent of sales in the second quarter of fiscal 2003, compared with 20.4
percent in the same period last year. For the six months ended August 31, 2002,
the gross profit margin was 20.0 percent compared with 20.5 percent in the same
period last year.
Circuit City Group. The gross profit margin for the Circuit City Group was 23.7
percent of sales in the second quarter of fiscal 2003, compared with 24.5
percent in the same period last year. For the six months ended August 31, 2002,
the gross profit margin was 24.0 percent compared with 24.6 percent in the same
period last year. The gross profit margin declines reflect the margin pressure
generated by stronger sales of entry-level electronics and personal computers
compared with last year's second quarter and our more aggressive promotional
stance in traffic-driving categories, partly offset by the growing sales of
fully featured products such as big-screen televisions.
CarMax Group. The total gross profit margin for the CarMax Group was 11.5
percent of sales in the second quarter of fiscal 2003 and 11.6 percent for the
second quarter of fiscal 2002. For the six months ended August 31, 2002 and
2001, the total gross profit margin was 11.7 percent of sales.
Retail Vehicle Gross Profit Margin. The retail vehicle gross profit margin was
9.8 percent of sales in the second quarter of fiscal 2003 versus 9.9 percent for
the same period last year. For the six months ended August 31, 2002, the retail
gross profit margin was 9.8 percent compared with 10.0 percent for the same
period last year. In the second quarter, CarMax experienced a slight shortfall
in its used average gross-margin-dollars-per-unit target partly as a result of
taking selective markdowns in response to the July resumption of broad-based,
zero-percent financing incentives on new cars. The slight shortfall was
partially offset by the higher mix of used- to new-unit sales. Used vehicles
carry a higher margin than new vehicles. The result was a retail vehicle gross
profit margin that slightly declined in relation to the first six months of last
fiscal year.
Wholesale Vehicle Gross Profit Margin. The wholesale vehicle gross profit margin
was 4.4 percent of sales in the second quarter of fiscal 2003, compared with 4.6
percent for the same period last year. The slight decline in the wholesale gross
profit margin during the second quarter of fiscal 2003, compared with the second
quarter of fiscal 2002 is due to pricing adjustments in the wholesale
marketplace. For the six months ended August 31, 2002, the wholesale vehicle
gross profit margin was 5.5 percent, compared with 5.1 percent for the same
period last year. Both the average wholesale cost and average wholesale sales
price declined compared with the first six months of fiscal 2002; however, the
decrease in the average wholesale sales price was less than the decrease in the
average wholesale cost.
Other Gross Profit Margin. The gross profit margin for other sales and revenues
was 68.0 percent of sales in the second quarter of fiscal 2003, compared with
66.6 percent for the same period last year. For the six months ended August 31,
2002 and 2001, the gross profit margin for other sales and revenues was 67.3
percent.
Selling, General and Administrative Expenses
Circuit City Stores, Inc. The selling, general and administrative expense ratio
for Circuit City Stores was 18.6 percent of sales in the second quarter of
fiscal 2003, compared with 19.6 percent for the same period last year. For the
six-month period ended August 31, 2002, the Company's selling, general and
administrative expense ratio was 18.7 percent compared with 19.5 percent for the
same period last year. Interest income is recorded as a reduction to selling,
general and administrative expenses.
Circuit City Group. The selling, general and administrative expense ratio for
the Circuit City Group was 24.5 percent of sales in the second quarter of fiscal
2003, compared with 25.6 percent for the same period last year. For the six
months ended August 31, 2002, the ratio was 24.4 percent of sales, compared with
25.5 percent in the same period last year. The improved expense ratios
principally resulted from the leverage
Page 22 of 73
achieved through increased sales, which more than offset the impact of increased
remodeling and relocation expenses.
The fiscal 2003 second quarter expense ratio includes $25.8 million associated
with remodeling and relocation activities, while the fiscal 2002 second quarter
ratio includes $12.8 million of remodeling and relocation costs. The fiscal 2003
first half expense ratio includes $33.8 million associated with remodeling and
relocation activities, while the fiscal 2002 first half ratio includes $15.8
million of remodeling and relocation costs. As of August 31, 2002, the Company
had relocated two Superstores, completed more than 225 of the approximately 300
video department remodels planned for fiscal 2003 and substantially all of the
approximately 300 full-store lighting upgrades scheduled for completion this
fiscal year. As of August 31, 2001, the Company had relocated two Superstores
and completed full-store remodels of 23 Superstores primarily located in
Chicago, Ill.; Baltimore, Md.; and Washington, D.C.
Finance Operations. For the three- and six-month periods ended August 31, 2002
and 2001, pretax finance operation income, which is recorded as a reduction to
selling, general and administrative expenses, was as follows:
Three Months Ended Six Months Ended
August 31, August 31,
(Amounts in millions) 2002 2001 2002 2001
---------------------------------------------------------------------------------------------------
Securitization income.................... $ 55.5 $ 55.6 $ 106.0 $ 115.3
Payroll and fringe benefit expenses...... 10.6 10.2 21.3 20.5
Other direct expenses.................... 18.9 20.6 38.3 40.5
--------------------------------------------------------
Finance operation income................. $ 26.0 $ 24.8 $ 46.4 $ 54.3
========================================================
Receivables generated by the Circuit City finance operation are sold through
securitization transactions. Circuit City continues to service the securitized
receivables for a fee. For the quarter ended August 31, 2002, serviced
receivables averaged $2.75 billion compared with $2.55 billion for the quarter
ended August 31, 2001. For the six months ended August 31, 2002, serviced
receivables averaged $2.77 billion, compared with $2.60 billion for the same
period last year.
For the Circuit City Group, securitization income includes the gain on the sale
of these receivables and other income related to servicing these receivables.
The amount by which the estimated future finance income from securitized credit
card receivables exceeds the sum of the contractually specified investor returns
and servicing fees, referred to as interest-only strips, is carried at fair
value and amounted to $126.9 million at August 31, 2002, and $131.9 million at
February 28, 2002. The key assumptions and estimates in determining the fair
value of interest-only strips include management's projections of key factors,
such as finance charge income, default rates, payment rates, forward interest
rate curves and discount rates appropriate for the type of asset and risk. Based
on these assumptions and estimates and the operation's securitization volume,
the value of the interest-only strip increased $0.1 million in the three months
ended August 31, 2002, and decreased $2.4 million in the three months ended
August 31, 2001. The value of the interest-only strip decreased $5.0 million in
the six months ended August 31, 2002, and increased $1.4 million in the six
months ended August 31, 2001. Management reviews the assumptions and estimates
used in determining the fair value of the interest-only strip on a quarterly
basis. If these assumptions change or the actual results differ from the
projected results, securitization income will be affected.
For the Circuit City Group, the finance operation income does not include any
allocation of indirect costs or income. Examples of indirect costs not included
are corporate expenses such as human resources, administrative services,
marketing, information systems, accounting, legal, treasury and executive
payroll, as well as retail store expenses. Payroll and fringe benefit expenses
generally vary with the size of the serviced portfolio and increased only
slightly during the quarter ended August 31, 2002, compared with the same period
last year. Other direct expenses include third-party data processing, rent,
credit promotion expenses, Visa and MasterCard fees, and other operating
expenses. For the second quarter ended August 31, 2002, the
Page 23 of 73
finance operation benefited from favorable interest rates and reduced other
operating expenses, which more than offset expenses associated with the new
public securitization issued in July 2002.
CarMax Group. The selling, general and administrative expense ratio for the
CarMax Group was 6.6 percent of sales in the second quarter of both fiscal 2003
and 2002. For the six months ended August 31, 2002, the ratio was 6.7 percent of
sales, compared with 6.6 percent in the same period last year. The expense ratio
in this year's first six months includes a higher level of expenses associated
with geographic expansion, compared with last year's first six months, and $3.1
million of one-time separation costs, offset by continued above-expectation
income from the finance operation.
Finance Income. For the second quarter and first six months of fiscal 2003 and
2002, pretax finance income, which is recorded as a reduction to selling,
general and administrative expenses, was as follows:
Three Months Ended Six Months Ended
August 31, August 31,
(Amounts in millions) 2002 2001 2002 2001
--------------------------------------------------------------------------------------------------
Securitization income.................... $25.8 $21.4 $49.1 $39.8
Payroll and fringe benefit expenses...... 1.7 1.3 3.4 2.6
Other direct expenses.................... 2.0 1.5 3.7 2.9
-------------------------------------------------------
Finance operation income................. 22.1 18.6 42.0 34.3
Third-party financing fees............... 4.6 4.2 8.8 8.0
-------------------------------------------------------
Total finance income..................... $26.7 $22.8 $50.8 $42.3
=======================================================
Receivables generated by the CarMax finance operation are sold through
securitization transactions. CarMax continues to service these receivables in
exchange for a contractually specified servicing fee. For the quarter ended
August 31, 2002, serviced receivables averaged $1.65 billion compared with $1.37
billion for the quarter ended August 31, 2001. For the six months ended August
31, 2002, serviced receivables averaged $1.60 billion, compared with $1.32
billion for the same period last year. The principal amount of defaults net of
recoveries on managed receivables totaled $4.1 million for the quarter ended
August 31, 2002, and $2.6 million for the quarter ended August 31, 2001. The
principal amount of defaults net of recoveries totaled $7.3 million for the six
months ended August 31, 2002, and $4.5 million for the six months ended August
31, 2001. Despite the weak economic environment, the managed receivables
continue to perform in-line with our initial gain assumptions.
For the CarMax Group, securitization income includes the gain on sale of
receivables and other income related to servicing these receivables. CarMax
recorded gains on the sales of receivables totaling $18.1 million for the
quarter ended August 31, 2002, compared with gains of $14.7 million for the
period ended August 31, 2001. For the six months ended August 31, 2002, gains on
the sales of receivables totaled $33.7 million, compared with $27.8 million for
the same period last year. The increased gains on sale of receivables resulted
from an increase in loan origination volume driven by increased sales. In
addition, the cost of funds for the CarMax finance operation declined in the
second quarter of this fiscal year compared with the first quarter of this year
and the same period last year. This decline was partially offset by the decline
in the interest rates for auto loans to consumers. In recording these gains,
management estimates key assumptions such as finance charge income, default
rates, payment rates and discount rates appropriate for the type of asset and
risk. If these assumptions were to change, or the actual results were to differ
from the projected results, securitization income would be affected.
For the CarMax Group, finance operation income does not include any allocation
of indirect costs or income. Examples of indirect costs not included are retail
store expenses and corporate expenses such as human resources, administrative
services, marketing, information systems, accounting, legal, treasury and
executive payroll. Payroll, fringe benefit expenses and other direct expenses
increased proportionately to the average
Page 24 of 73
managed receivable balance. Other direct expenses include collection expenses,
rent and facility expenses and loan processing costs.
Fees received from arranging customer automobile financing through third parties
were $0.4 million higher in the second quarter of fiscal 2003 than the same
period last year. For the six months ended August 31, 2002, fees were $0.8
million higher than the same period last year. The increase in customer fees was
a result of the total increase in retail vehicle sales.
Income Taxes
The effective income tax rate increased to 40.3 percent for the second quarter
of fiscal 2003 from 38.0 percent for the second quarter of fiscal 2002. For the
six months ended August 31, 2002, the effective income tax rate was 39.9
percent, compared with 38.0 percent for the same period last year. The increase
in the fiscal 2003 effective tax rate reflects CarMax's non-tax deductible
separation costs of $1.3 million in the second quarter and $3.1 million in the
first half of the year.
Net Earnings (Loss)
Circuit City Stores, Inc. Net earnings for Circuit City Stores increased to
$20.5 million in the second quarter of fiscal 2003 from $14.9 million in last
year's second quarter. For the six-month period ended August 31, 2002, net
earnings increased to $48.5 million from $31.8 million for the same period last
year.
Circuit City Group. Excluding the earnings attributed to the reserved CarMax
Group shares, the Circuit City business produced a loss of $11.2 million, or 5
cents per Circuit City Group share, in the second quarter ended August 31, 2002,
compared with a loss of $12.5 million, or 6 cents per Circuit City Group share,
for the same period last year. For the six months ended August 31, 2002, the
Circuit City business produced a loss of $12.4 million, or 6 cents per Circuit
City Group share, compared with a loss of $22.1 million, or 11 cents per Circuit
City Group share, for the same period last year.
The net earnings attributed to the reserved CarMax Group shares were $20.3
million in the second quarter of this fiscal year, compared with $19.4 million
in last fiscal year's second quarter. For the six-month period ended August 31,
2002, net earnings attributed to the reserved CarMax Group shares were $39.0
million compared with $39.1 million for the same period last year.
Net earnings of the Circuit City Group were $9.1 million, or 4 cents per Circuit
City Group share, in the second quarter of fiscal 2003, compared with $6.8
million, or 3 cents per Circuit City Group share, in the second quarter of
fiscal 2002. For the six-month period ended August 31, 2002, net earnings of the
Circuit City Group were $26.6 million, or 13 cents per Circuit City Group share,
compared with net earnings of $17.0 million, or 8 cents per Circuit City Group
share, for the same period last year.
CarMax Group. The CarMax Group's second quarter fiscal 2003 net earnings
increased 16 percent to $31.7 million from $27.4 million in the second quarter
of fiscal 2002. Second quarter fiscal 2003 earnings include $1.3 million of
one-time, non-tax-deductible costs associated with the separation of CarMax from
Circuit City Stores. Excluding the one-time separation costs, net earnings were
20 percent higher in the second quarter of fiscal 2003 than the same period last
year. For the six months ended August 31, 2002, net earnings increased 13
percent to $61.0 million from $54.0 million. Earnings for the six months ended
August 31, 2002, include $3.1 million of one-time, non-tax-deductible costs
associated with the separation. Excluding the one-time separation costs, net
earnings increased 19 percent to $64.1 million in the first six months of fiscal
2003 compared with the same period last year.
In the second quarter of fiscal 2003, net earnings attributed to the CarMax
Group Common Stock were $11.4 million, or 30 cents per CarMax Group share,
compared with $8.0 million, or 25 cents per CarMax Group share, in the second
quarter of last fiscal year. For the six months ended August 31, 2002, net
earnings attributed to the CarMax Group Common Stock were $21.9 million, or 57
cents per CarMax Group share, compared with $14.9 million, or 50 cents per
CarMax Group share, in the same period last year. The
Page 25 of 73
remainder of the CarMax Group's net earnings was attributed to the shares of
CarMax Group Common Stock reserved for the Circuit City Group or for issuance to
the holders of Circuit City Group Common Stock.
Operations Outlook
Circuit City Group. In fiscal 2001, we introduced a store design that includes a
more customer-friendly layout with better product adjacencies; a brighter more
contemporary appearance; additional product on the sales floor; shopping carts
and easily accessible cash registers. All new stores continue to follow this
design. In fiscal 2001 and fiscal 2002, we also undertook several remodels and
product category tests to evaluate how best to add these features into existing
stores. We decided to begin in fiscal 2003 a three-year multi-phased remodeling
program that will cover approximately 300 stores. As part of this remodeling
program, we are in fiscal 2003 introducing a remodeled video department and
upgrading the lighting in these stores, spending an average of $325,000 to
$350,000 per store. We believe that rolling out this remodeled department will
enable us to increase Circuit City's market share in the growing and highly
profitable big-screen television category and further solidify our position in
the overall video category. The Consumer Electronics Association projects that
big-screen television sales will grow at a double-digit rate in calendar 2002.
By beginning with the video department, we believe that we can affect a large
number of Circuit City Superstores in a manner that has significant potential
for incremental benefit while minimizing the disruptive impact of the remodeling
process.
In addition to remodeling, we expect to relocate approximately 10 Superstores in
the current fiscal year. We expect that fiscal 2003 expenditures for Circuit
City remodeling and relocations will total approximately $130 million, of which
we expect to capitalize approximately $70 million and expense approximately $60
million, or no more than 18 cents per Circuit City share.
In fiscal 2003, we also will continue testing design ideas for other departments
in the Circuit City Superstores. In fiscal 2004 and fiscal 2005, we expect to
introduce these design ideas into many of the approximately 300 stores being
remodeled under the three-year remodeling plan. We continue to review the
suitability of our remaining Superstore base for either remodeling or relocation
and anticipate relocating additional stores in fiscal 2004 and fiscal 2005. We
currently anticipate that in fiscal 2004 and fiscal 2005 the impact of
remodeling and relocations on earnings per share will be similar to the
anticipated fiscal 2003 impact.
Given our presence in virtually all of the nation's top metropolitan markets,
new Superstores are being added only in small markets or to increase our
penetration in existing major markets. We plan to open approximately eight
Circuit City Superstores in fiscal 2003. Because of limited planned geographic
expansion, we expect total Circuit City sales growth to only slightly exceed
comparable store sales growth. We expect that categories where we expanded
selection following our exit from the appliance business and categories, such as
big-screen televisions, that are benefiting from digital product innovation,
will contribute to Circuit City's total and comparable store sales growth.
However, we also anticipate that Circuit City's sales growth will reflect our
focus on sales counselor training and customer service, store remodeling,
effective marketing programs and a competitive merchandise assortment with
attractive prices. We expect that the gross profit margin will reflect the mix
of merchandise sold and our efforts to remain competitive and achieve profitable
market share growth and that the expense ratio will reflect increases in Circuit
City expenses associated with remodeling and relocation as discussed above,
advertising and systems enhancements and the total sales volume achieved. For
the full year, we expect the fiscal 2003 profit contribution from Circuit City's
finance operation to be similar to the contribution in fiscal 2002.
With existing Circuit City initiatives, additional efforts to enhance the
business and a relatively stable economy, we believe the Circuit City business
will contribute 57 cents per share to 67 cents per share to the fiscal 2003
earnings of Circuit City, including remodeling and relocation expenses.
Excluding these expenses, we expect the Circuit City business will contribute 75
cents per share to 85 cents per share to the fiscal 2003 earnings of Circuit
City. Effective with the separation, Circuit City will report CarMax as a
discontinued operation.
Circuit City and other consumer electronics retailers receive a large number of
consumer electronics products and parts through West Coast ports served by
union-represented dockworkers. In recent months, the union and port operators
have been involved in an ongoing labor dispute which has included a management
lockout
Page 26 of 73
lasting approximately ten days. In response to the possibility of work stoppage,
Circuit City has accelerated inventory purchases when possible. However, the
closure of or work slowdowns at the ports could have a materially negative
impact on Circuit City's sales and earnings for the second half of the fiscal
year. The ultimate impact will depend on the amount of time until shipping
returns to normal at these ports and the duration of any further closures or
work slowdowns.
CarMax Group. For more than two years, CarMax has demonstrated that its consumer
offer and business model can produce strong sales and earnings growth. At the
beginning of fiscal 2002, CarMax announced that it would resume geographic
growth, opening two superstores in fiscal 2002, four to six superstores in
fiscal 2003 and six to eight stores in each of fiscal years 2004, 2005 and 2006.
This expansion is proceeding as planned with three more used-car superstores
scheduled to open during the second half of the fiscal year, bringing the total
number of stores opened in fiscal 2003 to five.
Comparable store used-unit sales growth is a primary driver of CarMax's
profitability. Given CarMax's performance in the first half of the fiscal year,
it now expects second half used-unit comparable store growth in the mid- to
high-single digit range.
Fiscal 2003 is a year of transition for CarMax as it ramps up the growth pace
and assumes additional expenses related to the separation from Circuit City. The
expense leverage that CarMax would expect from the used-unit comparable store
growth during this fiscal year will be partially offset by increased expenses in
the second half of fiscal 2003 resulting from diseconomies of scale and
incremental expenses due to the separation from Circuit City and growth related
costs. Increases in benefit plans, insurance and management are examples of cost
increases resulting from the separation. Growth related costs include the
development of a management bench for store expansion for the next two fiscal
years store openings and pre-opening expenses for stores opening over the second
half of the fiscal year and the first quarter of next year. In addition, other
growth related costs such as training, recruiting and employee relocation for
new stores also moderate the expense leverage that CarMax would expect from used
unit comparable store growth this year.
For fiscal 2003, CarMax initially had anticipated that interest rates would rise
above the low levels experienced in fiscal 2002 resulting in reduced yield
spreads from the CarMax finance operation throughout fiscal 2003. If the current
favorable interest rate environment continues, CarMax may not experience the
reduction in yield spreads originally anticipated.
RECENT ACCOUNTING PRONOUNCEMENTS
On March 1, 2002, Circuit City Stores adopted EITF No. 00-14, "Accounting for
Certain Sales Incentives," which provides that sales incentives, such as mail-in
rebates, offered to customers should be classified as a reduction to revenue.
The Company reclassified these rebate expenses from cost of sales, buying and
warehousing to net sales and operating revenues. The adoption did not have a
material impact on the Company's financial position, results of operations or
cash flows.
In June 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets,"
effective for fiscal years beginning after December 15, 2001. Under the
provisions of SFAS No. 142, goodwill and intangible assets deemed to have
indefinite lives are no longer amortized but instead are subject to annual
impairment tests in accordance with the pronouncement. Other intangible assets
that are identified to have finite useful lives continue to be amortized in a
manner that reflects the estimated decline in the economic value of the
intangible asset and are subject to review when events or circumstances which
indicate impairment arise. The Company has performed the first of the required
impairment tests of goodwill and indefinite-lived intangible assets, as outlined
in the pronouncement. Based on the results of tests performed, as well as
ongoing periodic assessments of goodwill, the Company did not recognize any
impairment losses. Application of the nonamortization provisions of SFAS No. 142
in the first half of fiscal 2003 did not have a material impact on the financial
position, results of operations or cash flows of the Company.
Page 27 of 73
In August 2001, the FASB issued SFAS No. 143, "Accounting For Asset Retirement
Obligations." This statement addresses financial accounting and reporting for
obligations associated with the retirement of tangible long-lived assets and the
associated asset retirement costs. It applies to legal obligations associated
with the retirement of long-lived assets that result from the acquisition,
construction, development and/or the normal operation of a long-lived asset,
except for certain obligations of lessees. This standard requires entities to
record the fair value of a liability for an asset retirement obligation in the
period incurred. SFAS No. 143 is effective for fiscal years beginning after June
15, 2002. The Company has not yet determined the impact, if any, of adopting
this standard.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." This statement addresses financial accounting
and reporting for costs associated with exit or disposal activities and
nullifies EITF No. 94-3, "Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred
in a Restructuring)." It applies to costs associated with an exit activity that
does not involve an entity newly acquired in a business combination and costs
associated with a disposal activity covered by SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." This standard requires that a
liability for a cost associated with an exit or disposal activity be recognized
and measured initially at fair value when the liability is incurred, rather than
at the date of commitment to an exit or disposal plan. SFAS No. 146 is effective
for exit or disposal activities initiated after December 31, 2002. The Company
has not yet determined the impact, if any, of adopting this standard.
FINANCIAL CONDITION
Liquidity and Capital Resources
Operating Activities. In the six months ended August 31, 2002, Circuit City
Stores used net cash of $303.8 million in operating activities; in the six
months ended August 31, 2001, the company generated net cash of $367.5 million
from operating activities. The $671.3 million difference primarily reflects
changes in working capital, with $451.7 million of cash used for working capital
in the first half of the current fiscal year compared with $244.6 million of
cash generated by working capital in the first half of last fiscal year. The
change in working capital reflects increases in Circuit City's merchandise
inventory and retained interests in securitized receivables in the first half of
this fiscal year compared with the same period last year. Merchandise inventory
increased by $423.1 million in the first half of this fiscal year versus a
decrease of $237.0 million in the first half of last fiscal year. The primary
contributor to the increase in Circuit City merchandise inventory was a stronger
inventory position in personal computers compared with last year's position in
advance of the arrival of Windows XP-equipped products. In addition, Circuit
City's focus on customer service and profitable market share growth includes a
commitment to better in-stocks throughout the year, a broader assortment in
selected categories and improved merchandise displays. These strategies are
reflected both in the higher Circuit City inventory position at August 31, 2002,
compared with August 31, 2001, and in the improved sales growth posted in the
first half of this fiscal year.
Investing Activities. Net cash used in investing activities was $96.0 million in
the six months ended August 31, 2002, compared with net cash provided by
investing activities of $19.2 million in the first six months of last year.
Capital expenditures for the Company increased to $111.7 million in the first
six months of fiscal 2003 from $111.0 million in the comparable period last
year. Circuit City capital expenditures declined to $75.2 million in the six
months ended August 31, 2002, compared with $102.2 million in the six months
ended August 31, 2001. Circuit City's capital spending in the first half of
fiscal 2003 included spending related to three new Superstores, four relocated
Superstores, video department remodeling in approximately 225 Superstores and
full-store lighting upgrades in approximately 300 Superstores. Circuit City's
capital spending in the first half of last year included spending related to
five new Superstores, three relocated Superstores and full-store remodeling in
23 Superstores. CarMax capital expenditures increased to $40.1 million in the
first six months of fiscal 2003, compared with $8.7 million in the first six
months of fiscal 2002. The increase in CarMax capital expenditures resulted from
the resumption of geographic growth, with three superstores opening since August
2001, and the planned openings of four superstores in the second half of fiscal
2003.
Page 28 of 73
Proceeds from the sale of property and equipment declined to $15.6 million in
the first half of fiscal 2003, compared with $130.1 million in the first half of
last year. Proceeds from sales of property and equipment in the first half of
last year included amounts received from the sale-leaseback of Circuit City's
Orlando, Fla., distribution center and from a sale-leaseback transaction
covering nine CarMax superstore properties.
Financing Activities. Net cash used in financing activities was $4.9 million in
the first six months of fiscal 2003 compared with net cash provided by financing
activities of $9.5 million in the comparable period last year. In the first
quarter of fiscal 2003, CarMax entered into a $200 million credit agreement with
DaimlerChrysler Services North America, LLC and Toyota Financial Services. This
agreement, which is secured by vehicle inventory, includes a $100 million
revolving loan commitment and a $100 million term loan. The terms for both
commitments are LIBOR-based and have initial two-year terms. As of August 31,
2002, the amounts outstanding under this credit agreement were $5.2 million for
the revolver and $100 million for the term loan. In September 2002, CarMax used
a portion of the proceeds from the agreement for the repayment of allocated
debt, the payment of a one-time special dividend to Circuit City Stores of $28.4
million, the payment of transaction expenses incurred in connection with the
separation and general corporate purposes.
The CarMax credit agreement contains covenants that, in the event of default,
could trigger the acceleration of principal and interest payments and, in some
events, the termination of the credit agreement, unless a waiver of such
requirements is agreed to by the lenders. These covenants are similar to those
found in comparable loan agreements and include: minimum current ratio, maximum
total liabilities to tangible net worth ratio and minimum fixed charge coverage
ratio; and covenants restricting additional debt or liens; payment of dividends;
mergers or consolidations with, or the acquisition of all or substantially all
of the assets of, another person; and making loans or other investments in
excess of certain minimums. The events of default under the credit agreement
include customary provisions such as failure to pay principal or interest when
due and cross-default to other loan agreements, as well as a cross-default with
other material agreements of CarMax where the default under such other agreement
would have a material adverse effect on CarMax and a change in control of
CarMax.
A $100 million outstanding term loan due in July 2002 was repaid using existing
working capital. An $8.5 million secured promissory note due in August 2002 was
repaid using existing working capital.
At August 31, 2002, the Company had cash and cash equivalents of $846.8 million
and total outstanding debt of $119.3 million. Circuit City Stores maintained a
$150 million unsecured revolving credit facility that expired on August 31,
2002. The Company did not renew this facility. The Company also maintains $210
million in committed seasonal lines of credit that are renewed annually with
various banks. Under these facilities, Circuit City must meet financial
guidelines relating to minimum tangible net worth, debt to net worth and the
current ratio. At August 31, 2002, no balance was outstanding under these
facilities.
At August 31, 2002, the aggregate principal amount of securitized credit card
receivables totaled $1.30 billion under the private-label program and $1.45
billion under the bankcard program. During the second quarter of fiscal 2003,
the Company completed a $470 million bankcard receivable securitization
transaction. During the first quarter of fiscal 2003, the Company completed a
$300 million private-label credit card receivable securitization transaction. At
August 31, 2002, the unused capacity of the private-label variable funding
program was $248.5 million and the unused capacity of the bankcard variable
funding program was $94.5 million. At August 31, 2002, there were no provisions
providing recourse to the Company for credit losses on the receivables
securitized through the private-label or bankcard master trusts.
At August 31, 2002, the aggregate principal amount of securitized automobile
loan receivables totaled $1.72 billion. During the second quarter of fiscal
2003, CarMax completed an asset securitization transaction totaling $512.6
million of automobile loan receivables. At August 31, 2002, the unused capacity
of the automobile loan variable funding program was $361.0 million. At August
31, 2002, there were no provisions providing recourse to the Company for credit
losses on the securitized automobile loan receivables.
We anticipate that Circuit City and CarMax will be able to expand or enter into
new securitization arrangements to meet future needs of both the Circuit City
and CarMax finance operations.
Page 29 of 73
In September 2002, CarMax entered into a sale-leaseback transaction involving
three properties valued at approximately $37.6 million. The transaction was
entered into at competitive rates and structured with an initial lease term of
15 years with two 10-year renewal options.
Circuit City's finance operations are conducted through First North American
National Bank (FNANB), a limited-purpose credit card bank chartered, regulated
and supervised by the Office of the Comptroller of the Currency. Following a
structural change in which receivables generated by FNANB are sold to special
purpose subsidiaries of Circuit City Stores, FNANB requested that the OCC
approve an approximately $350 million reduction in capital, in the form of a
dividend to Circuit City Stores. Such a reduction would leave FNANB with capital
of approximately $30 million and cash and cash equivalents of approximately $100
million based on balances at August 31, 2002.
For the Company, we expect that available cash resources, credit facilities if
needed, sale-leaseback transactions, landlord reimbursements and cash generated
by operations will be sufficient to fund capital expenditures and working
capital for the foreseeable future.
FORWARD-LOOKING STATEMENTS
--------------------------
This report on Form 10-Q contains "forward-looking statements," which are
subject to risks and uncertainties, including, but not limited to, risks
associated with the separation of the CarMax business from Circuit City Stores,
Inc. Additional discussion of factors that could cause actual results to differ
materially from management's projections, forecasts, estimates and expectations
is contained in the Company's SEC filings, including the Company's Annual Report
on Form 10-K/A for the year ended February 28, 2002, and the Company's proxy
statement included in the registration statement on Form S-4 filed by CarMax,
Inc. (File No. 333-85240) related to the separation.
Page 30 of 73
ITEM 3.
CIRCUIT CITY STORES, INC. QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
RECEIVABLES RISK
The Company manages the market risk associated with the private-label credit
card and bankcard revolving loan portfolios of Circuit City's finance operation
and the automobile installment loan portfolio of CarMax's finance operation.
Portions of these portfolios have been securitized in transactions accounted for
as sales in accordance with SFAS No. 140 and, therefore, are not presented on
the Company's consolidated balance sheets.
Consumer Revolving Credit Receivables. The majority of accounts in the
private-label credit card and bankcard portfolios are charged interest at rates
indexed to the prime rate, adjustable on a monthly basis subject to certain
limitations. The balance of the accounts are charged interest at a fixed annual
percentage rate. As of August 31, 2002, and February 28, 2002, the total
outstanding principal amount of private-label credit card and bankcard
receivables had the following interest rate structure:
(Amounts in millions) August 31 February 28
- -----------------------------------------------------------------------
Indexed to prime rate..................... $2,606 $2,645
Fixed APR................................. 189 202
---------------------------
Total..................................... $2,795 $2,847
===========================
Financing for the private-label credit card and bankcard receivables is achieved
through asset securitization programs that, in turn, issue both private and
public market debt, principally at floating rates based on LIBOR and commercial
paper rates. Receivables held for sale are financed with working capital. The
total principal amount of receivables securitized or held for sale at August 31,
2002, and February 28, 2002, was as follows:
(Amounts in millions) August 31 February 28
- -------------------------------------------------------------------------
Floating-rate securitizations............. $2,752 $2,798
Held for sale (1)......................... 43 49
-----------------------------
Total..................................... $2,795 $2,847
=============================
(1) Held by a bankruptcy-remote special purpose subsidiary.
Automobile Installment Loan Receivables. At August 31, 2002, and February 28,
2002, all loans in the portfolio of automobile loan receivables were fixed-rate
installment loans. Financing for these automobile loan receivables is achieved
through asset securitization programs that, in turn, issue both fixed- and
floating-rate securities. Interest rate exposure relating to floating rate
securitizations is managed through the use of interest rate swaps. Receivables
held for investment or sale are financed with working capital.
Page 31 of 73
The total principal amount of receivables securitized or held for investment or
sale as of August 31, 2002, and February 28, 2002, was as follows:
(Amounts in millions) August 31 February 28
- -----------------------------------------------------------------------
Fixed-rate securitizations................ $ 1,333 $ 1,122
Floating-rate securitizations
synthetically altered to fixed......... 388 413
Floating-rate securitizations............. 1 1
Held for investment (1)................... 11 12
Held for sale (1)......................... 14 2
---------------------------
Total..................................... $ 1,747 $ 1,550
===========================
(1) Held by a bankruptcy-remote special purpose subsidiary.
Interest Rate Exposure. The Company is exposed to interest rate risk on Circuit
City's securitized credit card portfolio, especially when interest rates move
dramatically over a relatively short period of time. Market risk is the exposure
created by potential fluctuations in interest rates. We have mitigated this risk
through matched funding. However, our ability to increase the finance charge
yield of Circuit City's variable rate credit cards may be contractually limited
or limited at some point by competitive conditions. On behalf of Circuit City,
the Company enters into interest rate cap agreements to meet the requirements of
the credit card receivable securitization transactions. The Company has entered
into offsetting interest rate cap positions and, therefore, does not anticipate
market risk arising from interest rate caps. Interest rate exposure relating to
CarMax's securitized automobile loan receivables represents a market risk
exposure that we manage with matched funding and interest rate swaps matched to
projected payoffs. The Company does not anticipate market risk from swaps
because they are used on a monthly basis to match funding costs to the use of
the funding. Generally, changes only in interest rates do not have a material
impact on the Company's results of operations.
Credit risk is the exposure to nonperformance of another party to an agreement.
Credit risk is mitigated by dealing with highly rated bank counterparties. The
market and credit risks associated with financial derivatives are similar to
those relating to other types of financial instruments. Refer to Note 7 to the
Company's consolidated financial statements for a description of these items.
ITEM 4.
CONTROLS AND PROCEDURES
The Company's principal executive officer and principal financial officer have
evaluated the effectiveness of the Company's "disclosure controls and
procedures," as such term is defined in Rule 13a-14(c) of the Securities
Exchange Act of 1934, as amended, within 90 days of the filing date of this
Quarterly Report on Form 10-Q. Based upon their evaluation, the principal
executive officer and principal financial officer concluded that the Company's
disclosure controls and procedures are effective. There were no significant
changes in the Company's internal controls or in other factors that could
significantly affect these controls, since the date the controls were evaluated.
Page 32 of 73
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CIRCUIT CITY STORES, INC. - CIRCUIT CITY GROUP
Balance Sheets
(Amounts in thousands)
Aug. 31, 2002 Feb. 28, 2002
-------------- --------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 772,106 $ 1,248,246
Accounts receivable, net 173,522 158,817
Retained interests in securitized receivables 467,813 394,456
Merchandise inventory 1,657,363 1,234,243
Prepaid expenses and other current assets 40,020 39,246
-------------- -------------
Total current assets 3,110,824 3,075,008
Property and equipment, net 706,922 732,802
Deferred income taxes 12,305 2,647
Reserved CarMax Group shares 354,658 311,386
Other assets 7,482 11,354
-------------- -------------
TOTAL ASSETS $ 4,192,191 $ 4,133,197
============== =============
LIABILITIES AND GROUP EQUITY
Current liabilities:
Accounts payable $ 1,179,981 $ 1,019,519
Accrued expenses and other current liabilities 131,323 157,561
Accrued income taxes - 100,696
Deferred income taxes 113,187 116,297
Allocated short-term debt - 397
Current installments of allocated long-term debt 1,306 23,465
-------------- -------------
Total current liabilities 1,425,797 1,417,935
Allocated long-term debt, excluding current installments 11,996 14,064
Other liabilities 148,029 140,853
-------------- -------------
TOTAL LIABILITIES 1,585,822 1,572,852
GROUP EQUITY 2,606,369 2,560,345
-------------- -------------
TOTAL LIABILITIES AND GROUP EQUITY $ 4,192,191 $ 4,133,197
============== =============
See accompanying notes to Group financial statements.
Page 33 of 73
CIRCUIT CITY STORES, INC. - CIRCUIT CITY GROUP
Statements of Earnings (Unaudited)
(Amounts in thousands)
Three Months Ended Six Months Ended
August 31, August 31,
2002 2001 2002 2001
-------------- -------------- ------------- --------------
Net sales and operating revenues $ 2,221,204 $ 2,023,209 $ 4,339,447 $ 3,893,830
Cost of sales, buying and warehousing 1,695,316 1,526,665 3,300,209 2,934,893
-------------- -------------- ------------- --------------
Gross profit 525,888 496,544 1,039,238 958,937
-------------- -------------- ------------- --------------
Selling, general and administrative expenses
(net of finance income of $25,970 for the
three months ended August 31, 2002,
$24,817 for the three months ended
August 31, 2001, $46,389 for the six
months ended August 31, 2002, and
$54,362 for the six months ended
August 31, 2001) 543,379 517,203 1,058,754 994,647
Interest expense (income) 550 (432) 550 9
-------------- -------------- ------------- --------------
Total expenses 543,929 516,771 1,059,304 994,656
-------------- -------------- ------------- --------------
Loss before income taxes and
income attributed to the reserved
CarMax Group shares (18,041) (20,227) (20,066) (35,719)
Income tax benefit (6,856) (7,686) (7,625) (13,573)
-------------- -------------- ------------- --------------
Loss before income attributed to
the reserved CarMax Group shares (11,185) (12,541) (12,441) (22,146)
Net earnings attributed to the reserved
CarMax Group shares 20,298 19,363 39,020 39,103
-------------- -------------- ------------- --------------
Net earnings $ 9,113 $ 6,822 $ 26,579 $ 16,957
============== ============== ============= ==============
See accompanying notes to Group financial statements.
Page 34 of 73
CIRCUIT CITY STORES, INC. - CIRCUIT CITY GROUP
Statements of Cash Flows (Unaudited)
(Amounts in thousands)
Six Months Ended
August 31,
2002 2001
------------- ------------
Operating Activities:
- --------------------
Net earnings $ 26,579 $ 16,957
Adjustments to reconcile net earnings to net cash (used in)
provided by operating activities of continuing operations:
Net earnings attributed to the reserved CarMax Group shares (39,020) (39,103)
Depreciation and amortization 76,546 68,377
Amortization of restricted stock awards 9,869 7,127
Loss (gain) on disposition of property and equipment 5,275 (4,742)
Provision for deferred income taxes (12,768) 4,142
Changes in operating assets and liabilities:
(Increase) decrease in accounts receivable, net and
retained interests in securitized receivables (88,062) 11,127
(Increase) decrease in merchandise inventory (423,120) 236,969
(Increase) decrease in prepaid expenses and
other current assets (774) 15,588
Decrease (increase) in other assets 3,872 (1,204)
Increase in accounts payable, accrued expenses
and other current liabilities and accrued income taxes 37,500 18,284
Increase in other liabilities 7,176 4,080
-------------- ------------
Net cash (used in) provided by operating activities
of continuing operations (396,927) 337,602
-------------- ------------
Investing Activities:
- --------------------
Purchases of property and equipment (75,278) (102,238)
Proceeds from sales of property and equipment, net 19,337 33,800
-------------- ------------
Net cash used in investing activities of continuing operations (55,941) (68,438)
-------------- ------------
Financing Activities:
- --------------------
Decrease in allocated short-term debt, net (397) (2)
Decrease in allocated long-term debt, net (24,227) (27,956)
Equity issuances, net 8,682 6,789
Allocated proceeds from CarMax Group stock offering, net - 139,685
Dividends paid (7,330) (7,260)
-------------- ------------
Net cash (used in) provided by financing activities
of continuing operations (23,272) 111,256
-------------- -------------
Cash used in discontinued operations - (18,652)
-------------- ------------
(Decrease) increase in cash and cash equivalents (476,140) 361,768
Cash and cash equivalents at beginning of year 1,248,246 437,329
-------------- ------------
Cash and cash equivalents at end of period $ 772,106 $ 799,097
============== ============
See accompanying notes to Group financial statements.
Page 35 of 73
CIRCUIT CITY STORES, INC. - CIRCUIT CITY GROUP
Notes to Group Financial Statements
(Unaudited)
1. Basis of Presentation
At August 31, 2002, and August 31, 2001, the common stock of Circuit City
Stores, Inc. consisted of two common stock series intended to reflect the
performance of the Company's two businesses. The Circuit City Group Common
Stock was intended to reflect the performance of the Circuit City stores
and related operations and the shares of CarMax Group Common Stock reserved
for the Circuit City Group or for issuance to holders of Circuit City Group
Common Stock. The CarMax Group Common Stock was intended to reflect the
performance of the CarMax stores and related operations. The reserved
CarMax Group shares were not outstanding CarMax Group Common Stock.
Therefore, net earnings attributed to the reserved CarMax Group shares were
included in the net earnings and earnings per share attributed to the
Circuit City Group Common Stock.
At August 31, 2002, 65,923,200 shares of CarMax Group Common Stock were
reserved for the Circuit City Group or for issuance to holders of Circuit
City Group Common Stock. Excluding shares reserved for CarMax employee
stock incentive plans, the reserved CarMax Group shares represented 64.0
percent of the total outstanding and reserved shares of CarMax Group Common
Stock at August 31, 2002; 64.1 percent at February 28, 2002; and 64.6
percent at August 31, 2001. The terms of each series of common stock are
discussed in detail in the Company's previous filings with the Securities
and Exchange Commission.
The Circuit City Group financial statements included herein should be read
in conjunction with the Company's consolidated financial statements, the
CarMax Group financial statements and the Company's SEC filings.
The separation of the CarMax Group from Circuit City Stores, Inc. was
effective as of October 1, 2002. See Note 13 for an additional discussion
of the separation.
2. Accounting Policies
The Circuit City Group has accounted for the reserved CarMax Group shares
in a manner similar to the equity method of accounting. Accounting
principles generally accepted in the United States of America require that
the CarMax Group be consolidated with the Circuit City Group. Except for
the effects of not consolidating the CarMax Group with the Circuit City
Group, the financial statements of the Circuit City Group conform to
accounting principles generally accepted in the United States of America.
The interim period financial statements are unaudited; however, in the
opinion of management, all adjustments, which consist only of normal,
recurring adjustments, necessary for a fair presentation of the interim
group financial statements have been included. The fiscal year-end balance
sheet data was derived from the audited financial statements included in
the Company's fiscal 2002 Annual Report on Form 10-K/A.
3. Supplemental Financial Statement Information
For the three- and six-month periods ended August 31, 2002 and 2001, pretax
finance operation income, which is recorded as a reduction to selling,
general and administrative expenses, was as follows:
Three Months Ended Six Months Ended
August 31, August 31,
(Amounts in millions) 2002 2001 2002 2001
----------------------------------------------------------------------------------------------------
Securitization income...................... $ 55.5 $ 55.6 $ 106.0 $ 115.3
Payroll and fringe benefit expenses........ 10.6 10.2 21.3 20.5
Other direct expenses...................... 18.9 20.6 38.3 40.5
--------------------------------------------------------
Finance operation income................... $ 26.0 $ 24.8 $ 46.4 $ 54.3
========================================================
Page 36 of 73
The finance operation income does not include any allocation of indirect
costs or income. Circuit City presents this information on a direct basis
to avoid making arbitrary decisions regarding the periodic indirect benefit
or costs that could be attributed to this operation. Examples of indirect
costs not included are corporate expenses such as human resources,
administrative services, marketing, information systems, accounting, legal,
treasury and executive payroll, as well as retail store expenses.
4. Securitizations
Circuit City enters into securitization transactions to finance consumer
revolving credit card receivables originated by its finance operation. In
accordance with the isolation provisions of Statement of Financial
Accounting Standards No. 140, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities," special purpose
subsidiaries were created for the sole purpose of facilitating these
securitization transactions. Credit card receivables are sold to the
special purpose subsidiaries, which, in turn, transfer these receivables to
securitization master trusts. For transfers of receivables that qualify as
sales, Circuit City recognizes gains or losses as a component of the
finance operation's profits, which are recorded as a reduction to selling,
general and administrative expenses. See Note 3. Private-label and
co-branded Visa credit card receivables are securitized through one master
trust, and MasterCard and Visa credit card, referred to as bankcard,
receivables are securitized through a second master trust. Each master
trust periodically issues securities backed by the receivables in that
master trust. Each master trust has issued multiple series of term
asset-backed securities having fixed initial principal amounts and, in
addition, each master trust has issued a series of variable funding
asset-backed securities having a variable principal amount. Investors in
the variable funding asset-backed securities are generally entitled to
receive monthly interest payments and have committed to acquire additional
variable funding securities up to a stated amount until a stated commitment
termination date. In these securitizations, Circuit City's finance
operation continues to service the securitized receivables for a fee and
the special purpose subsidiaries retain an undivided interest in the
transferred receivables and hold various subordinated asset-backed
securities that serve as credit enhancements for the asset-backed
securities held by outside investors. Neither master trust agreement
provides for recourse to Circuit City for credit losses on the securitized
receivables. Circuit City employs a risk-based pricing strategy that
increases the stated annual percentage rate for accounts that have a higher
predicted risk of default. Under certain of the securitization programs,
Circuit City must meet financial guidelines relating to minimum tangible
net worth, debt to net worth and the current ratio in order to transfer
additional receivables. The securitized receivables must meet performance
levels relating to portfolio yield, default rates, principal payment rates
and delinquency rates. Circuit City was in compliance with these guidelines
and performance levels at August 31, 2002, and February 28, 2002.
The total principal amount of credit card receivables managed was $2.79
billion at August 31, 2002, and $2.85 billion at February 28, 2002. Of the
total principal amounts managed, the principal amount of receivables
securitized was $2.75 billion at August 31, 2002, and $2.80 billion at
February 28, 2002, and the principal amount of receivables held for sale
was $43.1 million at August 31, 2002, and $49.2 million at February 28,
2002. During the second quarter of fiscal 2003, the Company completed a
$470.0 million bankcard receivable securitization transaction, and during
the first quarter of fiscal 2003, the Company completed a $300 million
private-label credit card receivable securitization transaction. No new
public securitization transactions were completed in the first half of
fiscal 2002. At August 31, 2002, the unused capacity of the private-label
variable funding program was $248.5 million and the unused capacity of the
bankcard variable funding program was $94.5 million. At February 28, 2002,
the unused capacity of the private-label variable funding program was $22.9
million and the unused capacity of the bankcard variable funding program
was $496.5 million.
The aggregate amount of receivables that were 31 days or more delinquent
was $184.4 million at August 31, 2002, and $198.4 million at February 28,
2002. The principal amount of defaults net of recoveries totaled $63.0
million for the quarter ended August 31, 2002, and $62.3 million for the
quarter ended August 31, 2001. The principal amount of defaults net of
recoveries totaled $133.8 million for the six months ended August 31, 2002,
and $131.9 million for the six months ended August 31, 2001.
Page 37 of 73
Circuit City receives annual servicing fees approximating 2 percent of the
outstanding principal balance of the credit card receivables and retains
the rights to future cash flows available after the investors in the
asset-backed securities have received the return for which they contracted.
The servicing fees specified in the credit card securitization agreements
adequately compensate the finance operation for servicing the securitized
receivables. Accordingly, no servicing asset or liability has been
recorded.
The table below summarizes certain cash flows received from and paid to the
credit card securitization trusts.
Three Months Ended Six Months Ended
August 31, August 31,
(Amounts in millions) 2002 2001 2002 2001
--------------------------------------------------------------------------------------------------------------------
Proceeds from new securitizations.......................... $ 381.8 $ 204.4 $ 783.6 $ 378.2
Proceeds from collections reinvested
in previous credit card securitizations.................. $ 361.9 $ 457.5 $ 607.5 $ 817.0
Servicing fees received.................................... $ 12.4 $ 12.6 $ 25.4 $ 25.9
Other cash flows received on retained interests*........... $ 43.5 $ 49.7 $ 94.2 $ 93.9
*This amount represents cash flows received from retained interests by the
transferor other than servicing fees, including cash flows from
interest-only strips and cash above the minimum required level in cash
collateral accounts.
When determining the fair value of retained interests, Circuit City
estimates future cash flows using management's projections of key factors,
such as finance charge income, default rates, payment rates, forward
interest rate curves and discount rates appropriate for the type of asset
and risk.
The amount by which the estimated future finance income from securitized
credit card receivables exceeds the sum of the contractually specified
investor returns and servicing fees, referred to as interest-only strips,
is carried at fair value and amounted to $126.9 million at August 31, 2002,
and $131.9 million at February 28, 2002. These amounts are included in
retained interests in securitized receivables on the consolidated balance
sheets. The value of the interest-only strip increased $0.1 million in the
three months ended August 31, 2002 and decreased $2.4 million in the three
months ended August 31, 2001. The value of the interest-only strip
decreased $5.0 million in the six months ended August 31, 2002 and
increased $1.4 million in the six months ended August 31, 2001.
At August 31, 2002, the fair value of retained interests was $467.8
million, with a weighted-average life ranging from 0.2 years to 4.9 years.
At February 28, 2002, the fair value of retained interests was $394.5
million, with a weighted-average life ranging from 0.2 years to 1.8 years.
The following table shows the key economic assumptions used in measuring
the fair value of retained interests at August 31, 2002, and a sensitivity
analysis showing the hypothetical effect on the fair value of those
interests when there are unfavorable variations from the assumptions used.
Key economic assumptions at August 31, 2002, are not materially different
from assumptions used to measure the fair value of retained interests at
the time of securitization. These sensitivities are hypothetical and should
be used with caution. In this table, the effect of a variation in a
particular assumption on the fair value of the retained interest is
calculated without changing any other assumption; in actual circumstances,
changes in one factor may result in changes in another, which might magnify
or counteract the sensitivities.
Impact on Fair Impact on Fair
Assumptions Value of 10% Value of 20%
(Dollar amounts in millions) Used Adverse Change Adverse Change
-------------------------------------------------------------------------------------------
Monthly payment rate.............. 6.6%-10.2% $ 9.0 $ 16.4
Annual default rate............... 7.2%-17.7% $ 23.0 $ 45.3
Annual discount rate.............. 8.3%-15.0% $ 4.3 $ 8.5
Page 38 of 73
5. Financial Derivatives
On behalf of Circuit City, the Company enters into interest rate cap
agreements to meet the requirements of the credit card receivable
securitization transactions. During the first quarter of fiscal 2003 and in
conjunction with the private-label public securitization, the Company
purchased and sold three offsetting interest rate caps with an aggregate
initial notional amount of $280.5 million. The total notional amount of
interest rate caps outstanding was $935.4 million at August 31, 2002, and
$654.9 million at February 28, 2002. Purchased interest rate caps were
included in net accounts receivable and had a fair value of $7.0 million as
of August 31, 2002, and $2.4 million as of February 28, 2002. Written
interest rate caps were included in accounts payable and had a fair value
of $7.0 million as of August 31, 2002, and $2.4 million as of February 28,
2002.
The market and credit risks associated with interest rate caps are similar
to those relating to other types of financial instruments. Market risk is
the exposure created by potential fluctuations in interest rates and is
directly related to the product type, agreement terms and transaction
volume. The Company has entered into offsetting interest rate cap positions
and, therefore, does not anticipate significant market risk arising from
interest rate caps. Credit risk is the exposure to nonperformance of
another party to an agreement. The Company mitigates credit risk by dealing
with highly rated bank counterparties.
6. Appliance Exit Costs
In fiscal 2001, the Company began to exit the major appliance category and
expand its selection of key consumer electronics and home office products
in all Circuit City Superstores. This process was completed in November
2000. To exit the appliance business, the Company closed eight distribution
centers and eight service centers. The Company leases the majority of these
closed properties. While the Company has entered into contracts to sublease
some of these properties, it continues the process of marketing the
remaining properties to be subleased.
In the second quarter of fiscal 2001, the Company recorded appliance exit
costs of $30.0 million. In the fourth quarter of fiscal 2002, the Company
recorded additional lease termination costs of $10.0 million to reflect the
rental market for these leased properties. These expenses are reported
separately on the Group statements of earnings. The appliance exit cost
liability is included in accrued expenses and other current liabilities on
the balance sheets.
The appliance exit cost accrual activity and the remaining liability at
August 31, 2002, are presented in the following table.
Fiscal 2003
Total Liability at Payments Liability at
Exit Cost February 28, or August 31,
(Amounts in millions) Accrual 2002 Write-Downs 2002
---------------------------------------------------------------------------------------------------------------------
Lease termination costs................ $27.8 $19.7 $3.4 $16.3
Fixed asset write-downs, net........... 5.0 - - -
Employee termination benefits.......... 4.4 - - -
Other.................................. 2.8 - - -
--------------------------------------------------------------------------
Appliance exit costs................... $40.0 $19.7 $3.4 $16.3
==========================================================================
7. Discontinued Operations
On June 16, 1999, Digital Video Express announced that it would cease
marketing the Divx home video system and discontinue operations. Current
liabilities of $8.0 related to the former Divx operations were reflected in
the balance sheet as of August 31, 2002. Current liabilities of $18.5
million related to the former Divx operations were reflected in the balance
sheet as of February 28, 2002. For the three- and six-month periods ended
August 31, 2002 and 2001, the discontinued Divx operations had no impact on
the net
Page 39 of 73
earnings of the Circuit City Group. Discontinued operations have been
segregated on the statements of cash flows.
8. Recent Accounting Pronouncements
In August 2001, the Financial Accounting Standards Board issued SFAS No.
143, "Accounting For Asset Retirement Obligations." This statement
addresses financial accounting and reporting for obligations associated
with the retirement of tangible long-lived assets and the associated asset
retirement costs. It applies to legal obligations associated with the
retirement of long-lived assets that result from the acquisition,
construction, development and/or the normal operation of a long-lived
asset, except for certain obligations of lessees. This standard requires
entities to record the fair value of a liability for an asset retirement
obligation in the period incurred. SFAS No. 143 is effective for fiscal
years beginning after June 15, 2002. The Company has not yet determined the
impact, if any, of adopting this standard.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." This statement addresses
financial accounting and reporting for costs associated with exit or
disposal activities and nullifies Emerging Issues Task Force No. 94-3,
"Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." It applies to costs associated with an exit activity that
does not involve an entity newly acquired in a business combination and
costs associated with a disposal activity covered by SFAS No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets." This
standard requires that a liability for a cost associated with an exit or
disposal activity be recognized and measured initially at fair value when
the liability is incurred, rather than at the date of commitment to an exit
or disposal plan. SFAS No. 146 is effective for exit or disposal activities
initiated after December 31, 2002. The Company has not yet determined the
impact, if any, of adopting this standard.
9. Reclassification
Certain prior year amounts have been reclassified to conform to the current
presentation. Effective in the first quarter of fiscal 2003, Circuit City
Stores adopted EITF No. 00-14, "Accounting for Certain Sales Incentives,"
which provides that sales incentives, such as mail-in rebates, offered to
customers should be classified as a reduction of revenue. Previously, the
Company recorded these rebates in cost of sales, buying and warehousing.
The reclassification of rebates from cost of sales, buying and warehousing
to sales decreased sales and cost of sales, buying and warehousing by $13.4
million for the quarter ended August 31, 2001, and $24.4 million for the
six months ended August 31, 2001. This reclassification had no impact on
the Circuit City Group's net earnings.
10. Subsequent Event
On September 10, 2002, the Company's shareholders approved the separation
of the CarMax Group from Circuit City Stores, Inc. and the Company's board
of directors authorized the redemption of the Company's CarMax Group Common
Stock and the distribution of CarMax, Inc. common stock to effect the
separation. The separation was effective October 1, 2002. Each outstanding
share of CarMax Group Common Stock was redeemed in exchange for one share
of new CarMax, Inc. common stock. In addition, each holder of Circuit City
Group Common Stock received as a tax-free distribution 0.313879 of a share
of CarMax, Inc. common stock for each share of Circuit City Group Common
Stock owned as of September 16, 2002, the record date for the distribution.
Following the separation, the Circuit City Group Common Stock was renamed
Circuit City common stock, representing an ownership interest only in the
Circuit City business, and CarMax, Inc. became an independent, separately
traded public company. Effective with the separation, Circuit City will
report CarMax as a discontinued operation.
Page 40 of 73
ITEM 2.
CIRCUIT CITY GROUP MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
In this discussion, "we," "our" and "Circuit City Stores" refer to Circuit City
Stores, Inc. and our wholly owned subsidiaries, unless the context requires
otherwise. "Circuit City business" and "Circuit City" refer to the retail
operations bearing the Circuit City name and to all related operations such as
product service and Circuit City's finance operation. "Circuit City Group"
refers to the Circuit City business and the reserved CarMax Group shares.
"CarMax business," "CarMax" and "CarMax Group" refer to retail locations bearing
the CarMax name and to all related operations such as CarMax's finance
operation. All references to "quarter" and "year" refer to our fiscal year
periods rather than calendar year periods unless stated otherwise.
On September 10, 2002, the Company's shareholders approved the separation of the
CarMax Group from Circuit City Stores, Inc. and the Company's board of directors
authorized the redemption of the Company's CarMax Group Common Stock and the
distribution of CarMax, Inc. common stock to effect the separation. The
separation was effective October 1, 2002. Each outstanding share of CarMax Group
Common Stock was redeemed in exchange for one share of new CarMax, Inc. common
stock. In addition, each holder of Circuit City Group Common Stock received as a
tax-free distribution 0.313879 of a share of CarMax, Inc. common stock for each
share of Circuit City Group Common Stock owned as of September 16, 2002, the
record date for the distribution. Following the separation, the Circuit City
Group Common Stock was renamed Circuit City common stock, representing an
ownership interest only in the Circuit City business, and CarMax, Inc. became an
independent, separately traded public company. Effective with the separation,
Circuit City will report CarMax as a discontinued operation.
CRITICAL ACCOUNTING POLICIES
See the discussion of critical accounting policies included in the Circuit City
Stores, Inc. 2002 Annual Report to Shareholders. These policies relate to the
calculation of the value of retained interests in securitization transactions
and the calculation of the liability for lease termination costs.
RESULTS OF OPERATIONS
Effective in the first quarter of fiscal 2003, Circuit City Stores adopted
Emerging Issues Task Force No. 00-14, "Accounting for Certain Sales Incentives,"
which provides that sales incentives, such as mail-in rebates, offered to
customers should be classified as a reduction of revenue. Previously, the
Company recorded these rebates in cost of sales, buying and warehousing. The
reclassification of rebates from cost of sales, buying and warehousing to sales
decreased sales and cost of sales, buying and warehousing by $13.4 million for
the quarter ended August 31, 2001, and $24.4 million for the six months ended
August 31, 2001. This reclassification had no impact on the Circuit City Group's
net earnings.
Circuit City's operations, in common with other retailers in general, are
subject to seasonal influences. Historically, the Circuit City business has
realized more of its net sales and net earnings in the fourth quarter, which
includes the December holiday selling season, than in any other fiscal quarter.
The net earnings of any quarter are seasonally disproportionate to net sales
since administrative and certain operating expenses remain relatively constant
during the year. Therefore, quarterly results should not be relied upon as
necessarily indicative of results for the entire fiscal year.
Page 41 of 73
Net Sales and Operating Revenues
Total sales for the Circuit City Group for the second quarter of fiscal 2003
increased 10 percent to $2.22 billion from $2.02 billion in last year's second
quarter. Comparable store sales increased 10 percent for the second quarter of
fiscal 2003. For the six months ended August 31, 2002, total sales increased 11
percent to $4.34 billion from $3.89 billion in last year's first half.
Comparable store sales increased 11 percent for the first half of fiscal 2003. A
Circuit City store is included in comparable store sales after the store has
been open for a full year. Relocated stores are included in the comparable store
base.
Second quarter Circuit City sales for fiscal 2003 reflected continued progress
in both the high-service and packaged goods arenas. We posted strong sales
growth in categories such as video, including big-screen televisions,
particularly digital televisions. Due in part to back-to-school traffic,
increased sales of notebook computers, printers, monitors, personal digital
assistants and personal computer accessories drove sales growth in the
information technology category. We also experienced significant sales gains in
more promotional traffic-driving categories such as entertainment software and
entry-level electronics.
The percent of merchandise sales represented by each major product category
during the second quarter of fiscal years 2003 and 2002 was as follows:
================================= ==================================== =====================================
Three Months Ended Six Months Ended
August 31, August 31,
------------------------------------ -------------------------------------
Product Mix 2002 2001 2002 2001
================================= ================== ================= ================== ==================
Video 39% 38% 39% 38%
--------------------------------- ------------------ ----------------- ------------------ ------------------
Audio 14 16 15 16
--------------------------------- ------------------ ----------------- ------------------ ------------------
Information Technology 36 36 35 36
--------------------------------- ------------------ ----------------- ------------------ ------------------
Entertainment 11 10 11 10
================================= ================== ================= ================== ==================
TOTAL 100% 100% 100% 100%
================================= ================== ================= ================== ==================
Circuit City sells extended warranty programs on behalf of unrelated third
parties that are the primary obligors. Under these third-party warranty
programs, we have no contractual liability to the customer. The total extended
warranty revenue that is reported in total sales was $84.0 million, or 3.8
percent of sales, in the second quarter of fiscal 2003, compared with $86.7
million, or 4.3 percent of sales, in last year's second quarter. The total
extended warranty revenue that is reported in total sales was $171.9 million, or
4.0 percent of sales, in the first half of fiscal 2003, compared with $166.8
million, or 4.3 percent of sales, in last year's first half.
The following table provides details on the Circuit City retail units:
======================== =================== =================== ================== ===================
Estimate
Store Mix Aug. 31, 2002 Aug. 31, 2001 Feb. 28, 2003 Feb. 28, 2002
------------------------ ------------------- ------------------- ------------------ -------------------
Superstores 606 598 611 604
------------------------ ------------------- ------------------- ------------------ -------------------
Mall-based
Express stores 17 29 17 20
------------------------ ------------------- ------------------- ------------------ -------------------
Total 623 627 628 624
======================== =================== =================== ================== ===================
Circuit City expects to open approximately eight Superstores and relocate an
estimated 10 Superstores in the current fiscal year. In the second quarter of
fiscal 2003, we opened three Superstores, relocated two Superstores and closed
two mall-based Express stores. For the first half of fiscal 2003, we opened
three Superstores, relocated four Superstores, closed one Superstore and closed
three mall-based Express stores.
Page 42 of 73
Cost of Sales, Buying and Warehousing
The gross profit margin for the Circuit City Group was 23.7 percent of sales in
the second quarter of fiscal 2003, compared with 24.5 percent in the same period
last year. For the six months ended August 31, 2002, the gross profit margin was
24.0 percent compared with 24.6 percent in the same period last year. The gross
profit margin declines reflect the margin pressure generated by stronger sales
of entry-level electronics and personal computers compared with last year's
second quarter and our more aggressive promotional stance in traffic-driving
categories, partly offset by the growing sales of fully featured products such
as big-screen televisions.
Selling, General and Administrative Expenses
The selling, general and administrative expense ratio for the Circuit City Group
was 24.5 percent of sales in the second quarter of fiscal 2003, compared with
25.6 percent for the same period last year. For the six months ended August 31,
2002, the ratio was 24.4 percent of sales, compared with 25.5 percent in the
same period last year. The improved expense ratios principally resulted from the
leverage achieved through increased sales, which more than offset the impact of
increased remodeling and relocation expenses. Interest income is recorded as a
reduction to selling, general and administrative expenses.
The fiscal 2003 second quarter expense ratio includes $25.8 million associated
with remodeling and relocation activities, while the fiscal 2002 second quarter
ratio includes $12.8 million of remodeling and relocation costs. The fiscal 2003
first half expense ratio includes $33.8 million associated with remodeling and
relocation activities, while the fiscal 2002 first half ratio includes $15.8
million of remodeling and relocation costs. As of August 31, 2002, the Company
had relocated two Superstores, completed more than 225 of the approximately 300
video department remodels planned for fiscal 2003 and substantially all of the
approximately 300 full-store lighting upgrades scheduled for completion this
fiscal year. As of August 31, 2001, the Company had relocated two Superstores
and completed full-store remodels of 23 Superstores primarily located in
Chicago, Ill.; Baltimore, Md.; and Washington, D.C.
Finance Operations. For the three- and six-month periods ended August 31, 2002
and 2001, pretax finance operation income, which is recorded as a reduction to
selling, general and administrative expenses, was as follows:
Three Months Ended Six Months Ended
August 31, August 31,
(Amounts in millions) 2002 2001 2002 2001
---------------------------------------------------------------------------------------------------
Securitization income...................... $ 55.5 $ 55.6 $ 106.0 $ 115.3
Payroll and fringe benefit expenses........ 10.6 10.2 21.3 20.5
Other direct expenses...................... 18.9 20.6 38.3 40.5
------------------------------------------------------
Finance operation income................... $ 26.0 $ 24.8 $ 46.4 $ 54.3
======================================================
Receivables generated by the Circuit City finance operation are sold through
securitization transactions. Circuit City continues to service the securitized
receivables for a fee. For the quarter ended August 31, 2002, serviced
receivables averaged $2.75 billion compared with $2.55 billion for the quarter
ended August 31, 2001. For the six months ended August 31, 2002, serviced
receivables averaged $2.77 billion, compared with $2.60 billion for the same
period last year.
For the Circuit City Group, securitization income includes the gain on the sale
of these receivables and other income related to servicing these receivables.
The amount by which the estimated future finance income from securitized credit
card receivables exceeds the sum of the contractually specified investor returns
and servicing fees, referred to as interest-only strips, is carried at fair
value and amounted to $126.9 million at August 31, 2002, and $131.9 million at
February 28, 2002. The key assumptions and estimates in determining the fair
value of interest-only strips include management's projections of key factors,
such as finance charge income, default rates, payment rates, forward interest
rate curves and discount rates appropriate for the type of asset and risk. Based
on these assumptions and estimates and the operation's securitization volume,
the
Page 43 of 73
value of the interest-only strip increased $0.1 million in the three months
ended August 31, 2002, and decreased $2.4 million in the three months ended
August 31, 2001. The value of the interest-only strip decreased $5.0 million in
the six months ended August 31, 2002, and increased $1.4 million in the six
months ended August 31, 2001. Management reviews the assumptions and estimates
used in determining the fair value of the interest-only strip on a quarterly
basis. If these assumptions change or the actual results differ from the
projected results, securitization income will be affected.
For the Circuit City Group, the finance operation income does not include any
allocation of indirect costs or income. Examples of indirect costs not included
are corporate expenses such as human resources, administrative services,
marketing, information systems, accounting, legal, treasury and executive
payroll, as well as retail store expenses. Payroll and fringe benefit expenses
generally vary with the size of the serviced portfolio and increased only
slightly during the quarter ended August 31, 2002, compared with the same period
last year. Other direct expenses include third-party data processing, rent,
credit promotion expenses, Visa and MasterCard fees, and other operating
expenses. For the second quarter ended August 31, 2002, the finance operation
benefited from favorable interest rates and reduced other operating expenses,
which more than offset expenses associated with the new public securitization
issued in July 2002.
Loss Before Income Attributed to the Reserved CarMax Group Shares
Excluding the earnings attributed to the reserved CarMax Group shares, the
Circuit City business produced a loss of $11.2 million in the second quarter
ended August 31, 2002, compared with a loss of $12.5 million for the same period
last year. For the first half of the year, the Circuit City business produced a
loss of $12.4 million, compared with a loss of $22.1 million for the same period
last year.
Net Earnings Attributed to the Reserved CarMax Group Shares
The net earnings attributed to the reserved CarMax Group shares were $20.3
million in the second quarter of this fiscal year, compared with $19.4 million
in last fiscal year's second quarter. For the first half of the year, net
earnings attributed to the reserved CarMax Group shares were $39.0 million
compared with $39.1 million in the same period last year.
Net Earnings
Net earnings of the Circuit City Group were $9.1 million in the second quarter
of fiscal 2003, compared with $6.8 million in the second quarter of fiscal 2002.
For the first half of the year, net earnings of the Circuit City Group were
$26.6 million, compared with $17.0 million in the same period last year.
Operations Outlook
In fiscal 2001, we introduced a store design that includes a more
customer-friendly layout with better product adjacencies; a brighter more
contemporary appearance; additional product on the sales floor; shopping carts
and easily accessible cash registers. All new stores continue to follow this
design. In fiscal 2001 and fiscal 2002, we also undertook several remodels and
product category tests to evaluate how best to add these features into existing
stores. We decided to begin in fiscal 2003 a three-year multi-phased remodeling
program that will cover approximately 300 stores. As part of this remodeling
program, we are in fiscal 2003 introducing a remodeled video department and
upgrading the lighting in these stores, spending an average of $325,000 to
$350,000 per store. We believe that rolling out this remodeled department will
enable us to increase Circuit City's market share in the growing and highly
profitable big-screen television category and further solidify our position in
the overall video category. The Consumer Electronics Association projects that
big-screen television sales will grow at a double-digit rate in calendar 2002.
By beginning with the video department, we believe that we can affect a large
number of Circuit City Superstores in a manner that has significant potential
for incremental benefit while minimizing the disruptive impact of the remodeling
process.
Page 44 of 73
In addition to remodeling, we expect to relocate approximately 10 Superstores in
the current fiscal year. We expect that fiscal 2003 expenditures for Circuit
City remodeling and relocations will total approximately $130 million, of which
we expect to capitalize approximately $70 million and expense approximately $60
million.
In fiscal 2003, we also will continue testing design ideas for other departments
in the Circuit City Superstores. In fiscal 2004 and fiscal 2005, we expect to
introduce these design ideas into many of the approximately 300 stores being
remodeled under the three-year remodeling plan. We continue to review the
suitability of our remaining Superstore base for either remodeling or relocation
and anticipate relocating additional stores in fiscal 2004 and fiscal 2005. We
currently anticipate that in fiscal 2004 and fiscal 2005 the impact of
remodeling and relocations on earnings per share will be similar to the
anticipated fiscal 2003 impact.
Given our presence in virtually all of the nation's top metropolitan markets,
new Superstores are being added only in small markets or to increase our
penetration in existing major markets. We plan to open approximately eight
Circuit City Superstores in fiscal 2003. Because of limited planned geographic
expansion, we expect total Circuit City sales growth to only slightly exceed
comparable store sales growth. We expect that categories where we expanded
selection following our exit from the appliance business and categories, such as
big-screen televisions, that are benefiting from digital product innovation,
will contribute to Circuit City's total and comparable store sales growth.
However, we also anticipate that Circuit City's sales growth will reflect our
focus on sales counselor training and customer service, store remodeling,
effective marketing programs and a competitive merchandise assortment with
attractive prices. We expect that the gross profit margin will reflect the mix
of merchandise sold and our efforts to remain competitive and achieve profitable
market share growth and that the expense ratio will reflect increases in Circuit
City expenses associated with remodeling and relocation as discussed above,
advertising and systems enhancements and the total sales volume achieved. For
the full year, we expect the fiscal 2003 profit contribution from Circuit City's
finance operation to be similar to the contribution in fiscal 2002.
Circuit City and other consumer electronics retailers receive a large number of
consumer electronics products and parts through West Coast ports served by
union-represented dockworkers. In recent months, the union and port operators
have been involved in an ongoing labor dispute which has included a management
lockout lasting approximately ten days. In response to the possibility of work
stoppage, Circuit City has accelerated inventory purchases when possible.
However, the closure of or work slowdowns at the ports could have a materially
negative impact on Circuit City's sales and earnings for the second half of the
fiscal year. The ultimate impact will depend on the amount of time until
shipping returns to normal at these ports and the duration of any further
closures or work slowdowns.
Refer to the "Circuit City Stores, Inc. Management's Discussion and Analysis of
Results of Operations and Financial Condition" for the estimated contribution of
the Circuit City business earnings attributed to the Circuit City common stock
in fiscal 2003.
RECENT ACCOUNTING PRONOUNCEMENTS
Refer to the "Circuit City Stores, Inc. Management's Discussion and Analysis of
Results of Operations and Financial Condition" for a review of recent accounting
pronouncements.
Page 45 of 73
FINANCIAL CONDITION
Liquidity and Capital Resources
Operating Activities. In the six months ended August 31, 2002, Circuit City used
net cash of $396.9 million in operating activities; in the six months ended
August 31, 2001, Circuit City generated net cash of $337.6 million from
operating activities. The $734.5 million difference primarily reflects changes
in working capital, with $474.5 million of cash used for working capital in the
first half of the current fiscal year compared with $282.0 million of cash
generated by working capital in the first half of last fiscal year. The change
in working capital reflects increases in Circuit City's merchandise inventory
and retained interests in securitized receivables in the first half of this
fiscal year compared with the same period last year. Merchandise inventory
increased by $423.1 million in the first half of this fiscal year versus a
decrease of $237.0 million in the first half of last fiscal year. The primary
contributor to the increase in Circuit City merchandise inventory was a stronger
inventory position in personal computers compared with last year's position in
advance of the arrival of Windows XP-equipped products. In addition, Circuit
City's focus on customer service and profitable market share growth includes a
commitment to better in-stocks throughout the year, a broader assortment in
selected categories and improved merchandise displays. These strategies are
reflected both in the higher Circuit City inventory position at August 31, 2002,
compared with August 31, 2001, and in the improved sales growth posted in the
first half of this fiscal year.
Investing Activities. Net cash used in investing activities was $55.9 million in
the six months ended August 31, 2002, compared with $68.4 million in the first
six months of last year. Circuit City capital expenditures declined modestly to
$75.3 million in the six months ended August 31, 2002, compared with $102.2
million in the six months ended August 31, 2001. Circuit City's capital spending
in the first half of fiscal 2003 included spending related to three new
Superstores, four relocated Superstores, video department remodeling in
approximately 225 Superstores and full-store lighting upgrades in approximately
300 Superstores. Circuit City's capital spending in the first half of last year
included spending related to five new Superstores, three relocated Superstores
and full-store remodeling in 23 Superstores.
Proceeds from the sale of property and equipment decreased to $19.3 million in
the first half of fiscal 2003 from $33.8 million in the first half of last year.
Proceeds from sales of property and equipment in the first half of last year
included amounts received from the sale-leaseback of Circuit City's Orlando,
Fla., distribution center.
Financing Activities. Net cash used in financing activities was $23.3 million
for the first six months of fiscal 2003, compared with net cash provided by
financing activities of $111.3 million in the same period last year. A $100
million outstanding term loan due in July 2002 was repaid using existing working
capital.
At August 31, 2002, the Company allocated cash and cash equivalents of $772.1
million and debt of $13.3 million to the Circuit City Group. Circuit City Stores
maintained a $150 million unsecured revolving credit facility that expired on
August 31, 2002. The Company did not renew this facility. The Company also
maintains $210 million in committed seasonal lines of credit that are renewed
annually with various banks. Under these facilities, Circuit City must meet
financial guidelines relating to minimum tangible net worth, debt to net worth
and the current ratio. At August 31, 2002, no balance was outstanding under
these facilities.
At August 31, 2002, the aggregate principal amount of securitized credit card
receivables totaled $1.30 billion under the private-label program and $1.45
billion under the bankcard program. During the second quarter of fiscal 2003,
the Company completed a $470 million bankcard receivable securitization
transaction. During the first quarter of fiscal 2003, the Company completed a
$300 million private-label credit card receivable securitization transaction. At
August 31, 2002, the unused capacity of the private-label variable funding
program was $248.5 million and the unused capacity of the bankcard variable
funding program was $94.5 million. At August 31, 2002, there were no provisions
providing recourse to the Company for credit losses on the receivables
securitized through the private-label or bankcard master trusts. We anticipate
that we will be able to expand or enter into new securitization arrangements to
meet future needs of the finance operation.
Page 46 of 73
Circuit City's finance operations are conducted through First North American
National Bank (FNANB), a limited-purpose credit card bank chartered, regulated
and supervised by the Office of the Comptroller of the Currency. Following a
structural change in which receivables generated by FNANB are sold to special
purpose subsidiaries of Circuit City Stores, FNANB requested that the OCC
approve an approximately $350 million reduction in capital, in the form of a
dividend to Circuit City Stores. Such a reduction would leave FNANB with capital
of approximately $30 million and cash and cash equivalents of approximately $100
million based on balances at August 31, 2002.
We expect that available cash resources, credit facilities if needed,
sale-leaseback transactions, landlord reimbursements and cash generated by
operations will be sufficient to fund capital expenditures and working capital
of the Circuit City business for the foreseeable future.
FORWARD-LOOKING STATEMENTS
This report on Form 10-Q contains "forward-looking statements," which are
subject to risks and uncertainties, including, but not limited to, risks
associated with the separation of the CarMax business from Circuit City Stores,
Inc. Additional discussion of factors that could cause actual results to differ
materially from management's projections, forecasts, estimates and expectations
is contained in the Company's SEC filings, including the Company's Annual Report
on Form 10-K/A for the year ended February 28, 2002, and the Company's proxy
statement included in the registration statement on Form S-4 filed by CarMax,
Inc. (File No. 333-85240) related to the separation.
ITEM 3.
CIRCUIT CITY GROUP QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
Receivables Risk
The Company manages the market risk associated with the private-label credit
card and bankcard revolving loan portfolios of Circuit City's finance operation.
Portions of these portfolios have been securitized in transactions accounted for
as sales in accordance with SFAS No. 140 and, therefore, are not presented on
the Group balance sheets.
Consumer Revolving Credit Receivables. The majority of accounts in the
private-label credit card and bankcard portfolios are charged interest at rates
indexed to the prime rate, adjustable on a monthly basis subject to certain
limitations. The balance of the accounts are charged interest at a fixed annual
percentage rate. As of August 31, 2002, and February 28, 2002, the total
outstanding principal amount of private-label credit card and bankcard
receivables had the following interest rate structure:
(Amounts in millions) August 31 February 28
- -------------------------------------------------------------------------
Indexed to prime rate..................... $2,606 $2,645
Fixed APR................................. 189 202
-----------------------------
Total..................................... $2,795 $2,847
=============================
Page 47 of 73
Financing for the private-label credit card and bankcard receivables is achieved
through asset securitization programs that, in turn, issue both private and
public market debt, principally at floating rates based on LIBOR and commercial
paper rates. Receivables held for sale are financed with working capital. The
total principal amount of receivables securitized or held for sale at August 31,
2002, and February 28, 2002, was as follows:
(Amounts in millions) August 31 February 28
- -------------------------------------------------------------------------
Floating-rate securitizations............. $2,752 $2,798
Held for sale (1)......................... 43 49
------------------------------
Total..................................... $2,795 $2,847
==============================
(1) Held by a bankruptcy-remote special purpose subsidiary.
Interest Rate Exposure. Circuit City is exposed to interest rate risk on its
securitized credit card portfolio, especially when interest rates move
dramatically over a relatively short period of time. Market risk is the exposure
created by potential fluctuations in interest rates. We have mitigated this risk
through matched funding. However, our ability to increase the finance charge
yield of our variable rate credit cards may be contractually limited or limited
at some point by competitive conditions. On behalf of Circuit City, the Company
enters into interest rate cap agreements to meet the requirements of the credit
card receivable securitization transactions. The Company has entered into
offsetting interest rate cap positions and, therefore, does not anticipate
market risk arising from interest rate caps. Generally, changes only in interest
rates do not have a material impact on the Group results of operations.
Credit risk is the exposure to nonperformance of another party to an agreement.
Credit risk is mitigated by dealing with highly rated bank counterparties. The
market and credit risks associated with financial derivatives are similar to
those relating to other types of financial instruments. Refer to Note 5 to the
Circuit City Group financial statements for a description of these items.
Page 48 of 73
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CIRCUIT CITY STORES, INC. - CARMAX GROUP
Balance Sheets
(Amounts in thousands)
Aug. 31, 2002 Feb. 28, 2002
------------- -------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 74,690 $ 3,286
Accounts receivable, net 80,774 52,585
Retained interests in securitized receivables 131,121 120,683
Inventory 360,846 399,084
Prepaid expenses and other current assets 3,563 2,065
------------ -----------
Total current assets 650,994 577,703
Property and equipment, net 152,946 120,976
Other assets 21,982 21,543
------------ -----------
TOTAL ASSETS $ 825,922 $ 720,222
============ ===========
LIABILITIES AND GROUP EQUITY CURRENT LIABILITIES:
Accounts payable $ 97,388 $ 87,160
Accrued expenses and other current liabilities 33,206 25,775
Deferred income taxes 23,017 22,009
Allocated short-term debt 5,206 9,840
Current installments of allocated long-term debt 826 78,608
------------ -----------
Total current liabilities 159,643 223,392
Allocated long-term debt, excluding current installments 100,000 -
Deferred revenue and other liabilities 10,286 8,416
Deferred income taxes 1,841 2,935
------------ -----------
TOTAL LIABILITIES 271,770 234,743
GROUP EQUITY 554,152 485,479
------------ -----------
TOTAL LIABILITIES AND GROUP EQUITY $ 825,922 $ 720,222
============ ===========
See accompanying notes to Group financial statements.
Page 49 of 73
CIRCUIT CITY STORES, INC. - CARMAX GROUP
Statements of Earnings (Unaudited)
(Amounts in thousands)
Three Months Ended Six Months Ended
August 31, August 31,
2002 2001 2002 2001
------------ ----------- ----------- ------------
Net sales and operating revenues $ 1,076,083 $ 938,911 $ 2,077,647 $ 1,817,911
Cost of sales 951,870 830,385 1,835,531 1,605,425
------------- ----------- ------------- -------------
Gross profit 124,213 108,526 242,116 212,486
------------- ----------- ------------- -------------
Selling, general and administrative expenses
(net of finance income of $26,708 for the
three months ended August 31, 2002,
$22,766 for the three months ended
August 31, 2001, $50,785 for the six
months ended August 31, 2002, and
$42,276 for the six months ended
August 31, 2001) 70,836 62,262 139,386 120,812
Interest expense 957 2,086 1,983 4,637
------------- ----------- ------------- -------------
Total expenses 71,793 64,348 141,369 125,449
------------- ----------- ------------- -------------
Earnings before income taxes 52,420 44,178 100,747 87,037
Provision for income taxes 20,706 16,787 39,795 33,074
------------- ----------- ------------- -------------
Net earnings $ 31,714 $ 27,391 $ 60,952 $ 53,963
============= =========== ============= =============
Net earnings attributed to:
Circuit City Group Common Stock $ 20,298 $ 19,363 $ 39,020 $ 39,103
CarMax Group Common Stock 11,416 8,028 21,932 14,860
------------- ----------- ------------- -------------
$ 31,714 $ 27,391 $ 60,952 $ 53,963
============= =========== ============= =============
See accompanying notes to Group financial statements.
Page 50 of 73
CIRCUIT CITY STORES, INC. - CARMAX GROUP
Statements of Cash Flows (Unaudited)
(Amounts in thousands)
Six Months Ended
August 31,
2002 2001
------------ -----------
Operating Activities:
- --------------------
Net earnings $ 60,952 $ 53,963
Adjustments to reconcile net earnings to net
cash provided by operating activities:
Depreciation and amortization 8,424 9,305
Amortization of restricted stock awards 23 56
Loss on disposition of property and equipment 68 -
Provision for deferred income taxes (86) 3,096
Changes in operating assets and liabilities:
Increase in accounts receivable, net and retained
interests in securitized receivables (38,627) (25,962)
Decrease (increase) in inventory 38,238 (39,766)
(Increase) decrease in prepaid expenses and other current assets (1,498) 348
(Increase) decrease in other assets (845) 716
Increase in accounts payable, accrued expenses and other
current liabilities 24,613 28,034
Increase in deferred revenue and other liabilities 1,870 135
------------ -----------
Net cash provided by operating activities 93,132 29,925
------------ -----------
Investing Activities:
- --------------------
Purchases of property and equipment (40,062) (8,730)
Proceeds from sales of property and equipment, net 6 96,344
------------ -----------
Net cash (used in) provided by investing activities (40,056) 87,614
------------ -----------
Financing Activities:
- --------------------
(Decrease) increase in allocated short-term debt, net (4,634) 372
Issuance of allocated long-term debt 100,000 -
Payments on allocated long-term debt (77,782) (102,600)
Equity issuances, net 744 444
------------ -----------
Net cash provided by (used in) financing activities 18,328 (101,784)
------------ -----------
Increase in cash and cash equivalents 71,404 15,755
Cash and cash equivalents at beginning of year 3,286 8,802
------------ -----------
Cash and cash equivalents at end of period $ 74,690 $ 24,557
============ ===========
See accompanying notes to Group financial statements.
Page 51 of 73
CIRCUIT CITY STORES, INC. - CARMAX GROUP
Notes to Group Financial Statements
(Unaudited)
1. Basis of Presentation
At August 31, 2002, and August 31, 2001, the common stock of Circuit City
Stores, Inc. consisted of two common stock series intended to reflect the
performance of the Company's two businesses. The Circuit City Group Common
Stock was intended to reflect the performance of the Circuit City stores
and related operations and the shares of CarMax Group Common Stock reserved
for the Circuit City Group or for issuance to holders of Circuit City Group
Common Stock. The CarMax Group Common Stock was intended to reflect the
performance of the CarMax stores and related operations. The reserved
CarMax Group shares were not outstanding CarMax Group Common Stock.
Therefore, net earnings attributed to the reserved CarMax Group shares were
included in the net earnings and earnings per share attributed to the
Circuit City Group Common Stock.
At August 31, 2002, 65,923,200 shares of CarMax Group Common Stock were
reserved for the Circuit City Group or for issuance to holders of Circuit
City Group Common Stock. Excluding shares reserved for CarMax employee
stock incentive plans, the reserved CarMax Group shares represented 64.0
percent of the total outstanding and reserved shares of CarMax Group Common
Stock at August 31, 2002; 64.1 percent at February 28, 2002; and 64.6
percent at August 31, 2001. The terms of each series of common stock are
discussed in detail in the Company's previous filings with the Securities
and Exchange Commission.
The CarMax Group financial statements included herein should be read in
conjunction with the Company's consolidated financial statements, the
Circuit City Group financial statements and the Company's SEC filings.
The separation of the CarMax Group from Circuit City Stores, Inc. was
effective as of October 1, 2002. See Note 13 for an additional discussion
of the separation.
2. Accounting Policies
The financial statements of the CarMax Group conform to accounting
principles generally accepted in the United States of America. The interim
period financial statements are unaudited; however, in the opinion of
management, all adjustments, which consist only of normal, recurring
adjustments, necessary for a fair presentation of the interim group
financial statements have been included. The fiscal year-end balance sheet
data was derived from the audited financial statements included in the
Company's fiscal 2002 Annual Report on Form 10-K/A.
3. Debt
On May 17, 2002, CarMax entered into a $200 million credit agreement
secured by vehicle inventory. The credit agreement includes a $100 million
revolving loan commitment and a $100 million term loan. Principal is due in
full at maturity with interest payable monthly at a LIBOR-based rate. The
agreement is scheduled to terminate in May 2004. The termination date of
the agreement will be automatically extended one year on May 17, 2003, and
on each May 17 thereafter unless CarMax or any lender elects, prior to the
next extension date, not to extend the agreement. The value of CarMax's
eligible motor vehicle inventory must be at least 150 percent of the
aggregate principal amount outstanding under the credit facility on any
date. As of August 31, 2002, the amount outstanding under this credit
agreement was $105.2 million. Under this agreement, CarMax must meet
financial covenants relating to minimum current ratio, maximum total
liabilities to tangible net worth ratio and minimum fixed charge coverage
ratio. CarMax was in compliance with these covenants at August 31, 2002.
Page 52 of 73
4. Supplemental Financial Statement Information
For the three- and six-month periods ended August 31, 2002 and 2001, pretax
finance income, which is recorded as a reduction to selling, general and
administrative expenses, was as follows:
Three Months Ended Six Months Ended
August 31, August 31,
(Amounts in millions) 2002 2001 2002 2001
------------------------------------------------------------------------------------------------------
Securitization income....................... $ 25.8 $ 21.4 $ 49.1 $ 39.8
Payroll and fringe benefit expenses......... 1.7 1.3 3.4 2.6
Other direct expenses....................... 2.0 1.5 3.7 2.9
--------------------------------------------------------
Finance operation income.................... 22.1 18.6 42.0 34.3
Third-party financing fees.................. 4.6 4.2 8.8 8.0
--------------------------------------------------------
Total finance income........................ $ 26.7 $ 22.8 $ 50.8 $ 42.3
========================================================
For the CarMax Group, finance operation income does not include any
allocation of indirect costs or income. CarMax presents this information on
a direct basis to avoid making arbitrary decisions regarding the periodic
indirect benefit or costs that could be attributed to this operation.
Examples of indirect costs not included are retail store expenses and
corporate expenses such as human resources, administrative services,
marketing, information systems, accounting, legal, treasury and executive
payroll.
5. Securitizations
CarMax enters into securitization transactions to finance automobile loan
receivables originated by its finance operation. CarMax's finance operation
sells its automobile loan receivables to a special purpose subsidiary,
which, in turn, transfers those receivables to a group of third-party
investors. For transfers of receivables that qualify as sales, CarMax
recognizes gains or losses as a component of the finance operation's
profits, which are recorded as a reduction to selling, general and
administrative expenses. See Note 4. The special purpose subsidiary retains
a subordinated interest in the transferred receivables. CarMax's finance
operation continues to service securitized receivables for a fee. The
unused capacity of this program was $361.0 million at August 31, 2002, and
$211.0 million at February 28, 2002. The automobile loan securitization
agreements do not provide for recourse to CarMax for credit losses on the
securitized receivables. CarMax employs a risk-based pricing strategy that
increases the stated annual percentage rate for accounts that have a higher
predicted risk of default. Under certain of these securitization programs,
CarMax must meet financial guidelines relating to maximum total liabilities
to tangible net worth ratio, minimum debt to net worth, minimum tangible
net worth to managed assets, minimum current ratio, minimum cash balance or
borrowing capacity and minimum fixed charge coverage ratio. The securitized
receivables must meet performance levels relating to portfolio yield,
default rates and delinquency rates. CarMax was in compliance with these
guidelines and performance levels at August 31, 2002, and February 28,
2002.
The total principal amount of automobile loan receivables managed was $1.75
billion at August 31, 2002, and $1.55 billion at February 28, 2002. Of the
total principal amounts managed, the principal amount of automobile loan
receivables securitized was $1.72 billion at August 31, 2002, and $1.54
billion at February 28, 2002, and the principal amount of automobile loan
receivables held for sale or investment was $25.1 million at August 31,
2002, and $13.9 million at February 28, 2002. During the second quarter of
fiscal 2003, CarMax completed an asset securitization transaction totaling
$512.6 million of automobile loan receivables. No new public securitization
transactions were completed in the first half of fiscal 2002.
The aggregate principal amount of managed automobile loans that were 31
days or more delinquent was $26.1 million at August 31, 2002, $22.3 million
at February 28, 2002, and $18.8 million at August 31, 2001. The principal
amount of defaults net of recoveries on automobile loan receivables managed
totaled $4.1 million for the quarter ended August 31, 2002, and $2.6
million for the quarter ended August 31, 2001. The principal amount of
defaults net of recoveries totaled $7.3 million for the six months ended
August 31, 2002, and $4.5 million for the six months ended August 31, 2001.
Page 53 of 73
CarMax receives annual servicing fees approximating 1 percent of the
outstanding principal balance of the securitized automobile loan
receivables and retains the rights to future cash flows available after the
investors in the asset-backed securities have received the return for which
they contracted. The servicing fees specified in the automobile loan
securitization agreements adequately compensate the finance operation for
servicing the securitized receivables. Accordingly, no servicing asset or
liability has been recorded.
The table below summarizes certain cash flows received from and paid to the
automobile loan securitization trusts.
Three Months Ended Six Months Ended
August 31, August 31,
(Amounts in millions) 2002 2001 2002 2001
-------------------------------------------------------------------------------------------------------------------
Proceeds from new securitizations.......................... $ 266.6 $ 181.0 $ 487.6 $ 376.0
Proceeds from collections reinvested
in previous automobile loan securitizations.............. $ 124.1 $ 126.9 $ 258.6 $ 218.4
Servicing fees received.................................... $ 3.9 $ 3.5 $ 7.8 $ 6.7
Other cash flows received on retained interests*........... $ 24.1 $ 16.5 $ 44.1 $ 29.0
*This amount represents cash flows received from retained interests by the
transferor other than servicing fees, including cash flows from
interest-only strips and cash above the minimum required level in cash
collateral accounts.
When determining the fair value of retained interests, CarMax estimates
future cash flows using management's projections of key factors, such as
finance charge income, default rates, payment rates and discount rates
appropriate for the type of asset and risk.
The amount by which the estimated future finance income from securitized
automobile loan receivables exceeds the sum of the contractually specified
investor returns and servicing fees, referred to as interest-only strips,
is carried at fair value and amounted to $84.2 million at August 31, 2002,
and $74.3 million at February 28, 2002. These amounts are included in
retained interests in securitized receivables on the consolidated balance
sheets. Gains of $18.1 million on sales of automobile loan receivables were
recorded for the three months ended August 31, 2002; gains of $14.7 million
on sales of automobile loan receivables were recorded for the three months
ended August 31, 2001. Gains of $33.7 million on sales of automobile loan
receivables were recorded for the six months ended August 31, 2002; gains
of $27.8 million on sales of automobile loan receivables were recorded for
the six months ended August 31, 2001.
At August 31, 2002, the fair value of retained interests was $131.1
million, with a weighted-average life of 1.6 years. At February 28, 2002,
the fair value of retained interests was $120.7 million, with a
weighted-average life of 1.6 years. The following table shows the key
economic assumptions used in measuring the fair value of retained interests
at August 31, 2002, and a sensitivity analysis showing the hypothetical
effect on the fair value of those interests when there are unfavorable
variations from the assumptions used. Key economic assumptions at August
31, 2002, are not materially different from assumptions used to measure the
fair value of retained interests at the time of securitization. These
sensitivities are hypothetical and should be used with caution. In this
table, the effect of a variation in a particular assumption on the fair
value of the retained interest is calculated without changing any other
assumption; in actual circumstances, changes in one factor may result in
changes in another, which might magnify or counteract the sensitivities.
Page 54 of 73
Impact on Fair Impact on Fair
Assumptions Value of 10% Value of 20%
(Dollar amounts in millions) Used Adverse Change Adverse Change
------------------------------------------------------------------------------------------
Prepayment rate................... 1.5%-1.6% $ 4.4 $ 8.8
Annual default rate............... 1.0%-1.2% $ 2.3 $ 4.5
Annual discount rate.............. 12.0% $ 1.6 $ 3.1
6. Financial Derivatives
On behalf of CarMax, the Company enters into amortizing swaps relating to
automobile loan receivable securitizations to convert variable-rate
financing costs to fixed-rate obligations to better match funding costs to
the receivables being securitized. During the second quarter of fiscal
2003, the Company entered into three 40-month amortizing interest rate
swaps with an initial notional amount totaling approximately $226.0
million. The current amortized notional amount of all outstanding swaps
related to the automobile loan receivable securitizations was approximately
$388.4 million at August 31, 2002, and $413.3 million at February 28, 2002.
At August 31, 2002, the fair value of swaps totaled a net liability of $4.6
million and were included in accounts payable. At February 28, 2002, the
fair value of swaps totaled a net liability of $841,000 and were included
in accounts payable.
The market and credit risks associated with interest rate swaps are similar
to those relating to other types of financial instruments. Market risk is
the exposure created by potential fluctuations in interest rates. The
Company does not anticipate significant market risk from swaps as they are
used on a monthly basis to match funding costs to the use of the funding.
Credit risk is the exposure to nonperformance of another party to an
agreement. The Company mitigates credit risk by dealing with highly rated
bank counterparties.
7. Recent Accounting Pronouncements
In June 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 142, "Goodwill and Other Intangible
Assets," effective for fiscal years beginning after December 15, 2001.
Under the provisions of SFAS No. 142, goodwill and intangible assets deemed
to have indefinite lives are no longer amortized but instead are subject to
annual impairment tests in accordance with the pronouncement. Other
intangible assets that are identified to have finite useful lives continue
to be amortized in a manner that reflects the estimated decline in the
economic value of the intangible asset and are subject to review when
events or circumstances which indicate impairment arise. CarMax has
performed the first of the required impairment tests of goodwill and
indefinite-lived intangible assets, as outlined in the pronouncement. Based
on the results of tests performed, as well as ongoing periodic assessments
of goodwill, CarMax did not recognize any impairment losses. Application of
the nonamortization provisions of SFAS No. 142 in the first half of fiscal
2003 did not have a material impact on the financial position, results of
operations or cash flows of the CarMax Group.
In August 2001, the FASB issued SFAS No. 143, "Accounting For Asset
Retirement Obligations." This statement addresses financial accounting and
reporting for obligations associated with the retirement of tangible
long-lived assets and the associated asset retirement costs. It applies to
legal obligations associated with the retirement of long-lived assets that
result from the acquisition, construction, development and/or the normal
operation of a long-lived asset, except for certain obligations of lessees.
This standard requires entities to record the fair value of a liability for
an asset retirement obligation in the period incurred. SFAS No. 143 is
effective for fiscal years beginning after June 15, 2002. CarMax has not
yet determined the impact, if any, of adopting this standard.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." This statement addresses
financial accounting and reporting for costs associated with exit or
disposal activities and nullifies Emerging Issues Task Force No. 94-3,
"Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." It applies to costs associated with an exit activity that
does not involve an entity newly acquired in a business combination and
costs associated with a disposal activity covered by SFAS No.
Page 55 of 73
144, "Accounting for the Impairment or Disposal of Long-Lived Assets." This
standard requires that a liability for a cost associated with an exit or
disposal activity be recognized and measured initially at fair value when
the liability is incurred, rather than at the date of commitment to an exit
or disposal plan. SFAS No. 146 is effective for exit or disposal activities
initiated after December 31, 2002. CarMax has not yet determined the
impact, if any, of adopting this standard.
8. Reclassifications
Certain prior year amounts have been reclassified to conform to the current
presentation. For the three- and six-month periods ended August 31, 2001,
wholesale sales have been reclassified and reported in net sales and
operating revenues. In previous periods, wholesale sales were recorded as a
reduction to cost of sales. The reclassification of wholesale sales to
sales increased sales and cost of sales by $90.0 million for the quarter
ended August 31, 2001, and by $174.6 million for the six months ended
August 31, 2001. An additional reclassification between sales and cost of
sales made to conform to the current presentation decreased sales and cost
of sales by $2.5 million for the quarter ended August 31, 2001, and by $4.8
million for the six months ended August 31, 2001. These reclassifications
had no impact on the CarMax Group's net earnings.
9. Subsequent Event
On September 10, 2002, the Company's shareholders approved the separation
of the CarMax Group from Circuit City Stores, Inc. and the Company's board
of directors authorized the redemption of the Company's CarMax Group Common
Stock and the distribution of CarMax, Inc. common stock to effect the
separation. The separation was effective October 1, 2002. Each outstanding
share of CarMax Group Common Stock was redeemed in exchange for one share
of new CarMax, Inc. common stock. In addition, each holder of Circuit City
Group Common Stock received as a tax-free distribution 0.313879 of a share
of CarMax, Inc. common stock for each share of Circuit City Group Common
Stock owned as of September 16, 2002, the record date for the distribution.
Following the separation, the Circuit City Group Common Stock was renamed
Circuit City common stock, representing an ownership interest only in the
Circuit City business, and CarMax, Inc. became an independent, separately
traded public company. Effective with the separation, Circuit City will
report CarMax as a discontinued operation.
ITEM 2.
CARMAX GROUP MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
In this discussion, "we," "our" and "Circuit City Stores" refer to Circuit City
Stores, Inc. and our wholly owned subsidiaries, unless the context requires
otherwise. "Circuit City business" and "Circuit City" refer to the retail
operations bearing the Circuit City name and to all related operations such as
product service and Circuit City's finance operation. "Circuit City Group"
refers to the Circuit City business and the reserved CarMax Group shares.
"CarMax business," "CarMax" and "CarMax Group" refer to retail locations bearing
the CarMax name and to all related operations such as CarMax's finance
operation. All references to "quarter" and "year" refer to our fiscal year
periods rather than calendar year periods unless stated otherwise.
On September 10, 2002, the Company's shareholders approved the separation of the
CarMax Group from Circuit City Stores, Inc. and the Company's board of directors
authorized the redemption of the Company's CarMax Group Common Stock and the
distribution of CarMax, Inc. common stock to effect the separation. The
separation was effective October 1, 2002. Each outstanding share of CarMax Group
Common Stock was redeemed in exchange for one share of new CarMax, Inc. common
stock. In addition, each holder of Circuit City Group Common Stock received as a
tax-free distribution 0.313879 of a share of CarMax, Inc. common stock for each
share of Circuit City Group Common Stock owned as of September 16, 2002, the
record date
Page 56 of 73
for the distribution. Following the separation, the Circuit City Group Common
Stock was renamed Circuit City common stock, representing an ownership interest
only in the Circuit City business, and CarMax, Inc. became an independent,
separately traded public company. Effective with the separation, Circuit City
will report CarMax as a discontinued operation.
CRITICAL ACCOUNTING POLICIES
See the discussion of critical accounting policies included in the Circuit City
Stores, Inc. 2002 Annual Report to Shareholders. These policies relate to the
calculation of the value of retained interests in securitization transactions.
RESULTS OF OPERATIONS
Effective in the first quarter of fiscal 2003, CarMax classifies revenue from
the sale of wholesale vehicles in net sales and operating revenues. Previously,
CarMax wholesale vehicle sales were recorded as reductions to cost of sales. The
reclassification of wholesale sales to sales increased sales and cost of sales
by $90.0 million for the quarter ended August 31, 2001, and $174.6 million for
the six months ended August 31, 2001. An additional reclassification between
sales and cost of sales made to conform to the current presentation decreased
sales and cost of sales by $2.5 million for the quarter ended August 31, 2001,
and $4.8 for the six months ended August 31, 2001. These reclassifications had
no impact on the CarMax Group's net earnings.
CarMax's operations, in common with other retailers in general, are subject to
seasonal influences. Historically, the CarMax business has experienced more of
its net sales in the first half of the fiscal year. The net earnings of any
quarter are seasonally disproportionate to net sales since administrative and
certain operating expenses remain relatively constant during the year.
Therefore, quarterly results should not be relied upon as necessarily indicative
of results for the entire fiscal year.
Net Sales and Operating Revenues
Total sales for the CarMax Group for the second quarter of fiscal 2003 increased
15 percent to $1.08 billion from $938.9 million in last year's second quarter.
For the six months ended August 31, 2002, total sales increased 14 percent to
$2.08 billion from $1.82 billion in last year's first half.
Retail Vehicle Sales. Retail vehicle sales increased 15 percent to $936.7
million in the second quarter of fiscal 2003 from $813.1 million in the second
quarter of fiscal 2002. In the second quarter of fiscal 2003, used vehicle sales
increased 18 percent to $784.8 million from $662.4 million for the same period
last year, and new vehicle sales increased 1 percent to $151.9 million from
$150.7 million for the same period last year. For the six months ended August
31, 2002, retail vehicle sales increased 15 percent to $1.81 billion from $1.57
billion in the prior year. For the six months ended August 31, 2002, used
vehicle sales increased 19 percent to $1.52 billion from $1.28 billion last
year, and new vehicle sales decreased 4 percent to $284.2 million from $296.4
million in the same period last year.
Page 57 of 73
A CarMax store is included in comparable store retail sales after the store has
been open for a full year. Comparable store retail vehicle dollar and unit sales
for the second quarter and the first six months of fiscal years 2003 and 2002
were as follows:
====================================== ============================== =============================
Comparable Store Three Months Ended Six Months Ended
Retail Vehicle August 31, August 31,
------------------------------ -----------------------------
Sales Change 2002 2001 2002 2001
-------------------------------------- -------------- --------------- -------------- --------------
Vehicle units:
-------------------------------------- -------------- --------------- -------------- --------------
Used vehicles 12% 22% 12% 21%
-------------------------------------- -------------- --------------- -------------- --------------
New vehicles 5% 12% 1% 15%
-------------------------------------- -------------- --------------- -------------- --------------
Total 11% 21% 10% 20%
-------------------------------------- -------------- --------------- -------------- --------------
-------------------------------------- -------------- --------------- -------------- --------------
Vehicle dollars:
-------------------------------------- -------------- --------------- -------------- --------------
Used vehicles 12% 30% 13% 29%
-------------------------------------- -------------- --------------- -------------- --------------
New vehicles 8% 14% 2% 18%
-------------------------------------- -------------- --------------- -------------- --------------
Total 11% 27% 11% 27%
====================================== ============== =============== ============== ==============
For the second quarter of fiscal 2003, the overall increase in retail sales is
attributed to the 12 percent growth in comparable store used-unit sales, the
three CarMax stores opened since the first quarter of fiscal 2002 and the slight
increase in the average retail selling price for used vehicles. For the
three-month period ended August 31, 2002, the comparable store new-unit sales
were in line with the new-car industry's performance as the industry benefited
from the re-introduction of zero-percent financing incentives in July. This
second-quarter performance more than offset the weakness in new-car sales
experienced in the first quarter, which also was in line with the industry,
delivering comparable store new-unit growth of 1 percent for the six-month
period ended August 31, 2002.
================================== ================================ ================================
Average Retail Three Months Ended Six Months Ended
Selling Prices August 31, August 31,
-------------------------------- --------------------------------
2002 2001 2002 2001
---------------------------------- --------------- ---------------- --------------- ----------------
Used vehicles $15,400 $15,300 $15,400 $15,200
---------------------------------- --------------- ---------------- --------------- ----------------
New vehicles $23,400 $22,800 $23,200 $23,000
---------------------------------- --------------- ---------------- --------------- ----------------
Blended average $16,300 $16,300 $16,300 $16,200
================================== =============== ================ =============== ================
================================== ================================ ===============================
Retail Vehicle Three Months Ended Six Months Ended
Sales Mix August 31, August 31,
-------------------------------- -------------------------------
2002 2001 2002 2001
---------------------------------- --------------- ---------------- --------------- ---------------
Vehicle units:
---------------------------------- --------------- ---------------- --------------- ---------------
Used vehicles 89% 87% 89% 87%
---------------------------------- --------------- ---------------- --------------- ---------------
New vehicles 11 13 11 13
---------------------------------- --------------- ---------------- --------------- ---------------
Total 100% 100% 100% 100%
---------------------------------- --------------- ---------------- --------------- ---------------
---------------------------------- --------------- ---------------- --------------- ---------------
Vehicle dollars:
---------------------------------- --------------- ---------------- --------------- ---------------
Used vehicles 84% 81% 84% 81%
---------------------------------- --------------- ---------------- --------------- ---------------
New vehicles 16 19 16 19
---------------------------------- --------------- ---------------- --------------- ---------------
Total 100% 100% 100% 100%
================================== =============== ================ =============== ===============
Page 58 of 73
Wholesale Vehicle Sales. CarMax's operating strategy is to build customer
confidence and satisfaction by offering only high-quality vehicles; therefore,
fewer than half of the vehicles acquired through the appraisal process meet the
CarMax retail standard. Those vehicles that do not meet CarMax's standards are
sold at its own on-site wholesale auctions. Wholesale vehicle sales totaled
$97.7 million in the second quarter of fiscal 2003, compared with $90.0 million
in the same period last year. For the six months ended August 31, 2002,
wholesale vehicle sales totaled $190.1 million, compared with $174.6 million in
the same period last year. These increases were consistent with increased
traffic at CarMax stores, the impact of which was partially offset by lower
average wholesale sale prices.
Other Sales and Revenues. Other sales and revenues include extended warranty
revenues, service department sales and processing fees collected from consumers
for the purchase of their vehicles at a CarMax retail location and totaled $41.7
million in the second quarter of fiscal 2003, compared with $35.8 million in the
same period last year. For the six months ended August 31, 2002, other sales and
revenues totaled $80.7 million, compared with $69.3 million in the same period
last year.
CarMax sells extended warranties on behalf of unrelated third parties who are
the primary obligors. Under these third-party warranty programs, CarMax has no
contractual liability to the customer. Extended warranty revenue was $18.1
million in the second quarter of fiscal 2003 and $14.4 million in the second
quarter of fiscal 2002. For the six months ended August 31, 2002, extended
warranty revenue was $34.8 million, compared with $27.9 in the same period last
year. These increases in warranty revenue reflect improved penetration, a result
in part of continuing enhancement of CarMax's extended warranty offer, and
strong sales growth for used cars, which achieve a higher extended warranty
penetration rate than new cars.
Service sales were $15.9 million in the second quarter of fiscal 2003, compared
with $14.7 million in the same period last year. For the six months ended August
31, 2002, service sales were $31.4 million compared with $28.6 million in the
same period last year. These increases in service sales reflect the overall
increase in CarMax's customer base.
Processing fees were $7.7 million in the second quarter of fiscal 2003, compared
with $6.7 million in the same period last year. For the six months ended August
31, 2002, processing fees were $14.5 million, compared with $12.8 million in the
same period last year. Consumers are assessed a processing fee when selling a
vehicle to a CarMax retail location after the appraisal process. These increases
in processing fee revenue resulted from increased traffic and increased consumer
response to CarMax's vehicle purchase program.
Retail Stores. In September 2002, CarMax opened a satellite superstore in
Charlotte, N.C. During the second half of the year, CarMax also plans to enter
the Knoxville, Tenn., market and add satellite superstores in the Chicago, Ill.,
and Atlanta, Ga., markets. CarMax also has announced that it plans to enter the
Las Vegas, Nev., market in early March 2003, shortly after the end of fiscal
2003.
The following table provides detail on the CarMax retail stores:
===================================== ==================== =================== ================== ====================
Estimate
Store Mix Aug. 31, 2002 Aug. 31, 2001 Feb. 28, 2003 Feb. 28, 2002
------------------------------------- -------------------- ------------------- ------------------ --------------------
Mega superstores 13 13 13 13
------------------------------------- -------------------- ------------------- ------------------ --------------------
Standard superstores 18 16 19 17
------------------------------------- -------------------- ------------------- ------------------ --------------------
Prototype satellite stores 5 4 8 5
------------------------------------- -------------------- ------------------- ------------------ --------------------
Co-located new-car stores 2 2 2 2
------------------------------------- -------------------- ------------------- ------------------ --------------------
Stand-alone new-car stores 2 5 2 3
------------------------------------- -------------------- ------------------- ------------------ --------------------
Total 40 40 44 40
===================================== ==================== =================== ================== ====================
Page 59 of 73
Cost of Sales
The total gross profit margin for the CarMax Group was 11.5 percent of sales in
the second quarter of fiscal 2003 and 11.6 percent for the second quarter of
fiscal 2002. For the six months ended August 31, 2002 and 2001, the total gross
profit margin was 11.7 percent of sales.
Retail Vehicle Gross Profit Margin. The retail vehicle gross profit margin was
9.8 percent of sales in the second quarter of fiscal 2003 versus 9.9 percent for
the same period last year. For the six months ended August 31, 2002, the retail
gross profit margin was 9.8 percent compared with 10.0 percent for the same
period last year. In the second quarter, CarMax experienced a slight shortfall
in its average gross-margin-dollars-per-unit target after taking selective
markdowns in response to the July resumption of broad-based, zero-percent
financing incentives on new cars. The slight shortfall was partially offset by
the higher mix of used- to new-unit sales. Used vehicles carry a higher margin
than new vehicles. The result was a retail vehicle gross profit margin that
slightly declined in relation to the first six months of last fiscal year.
Wholesale Vehicle Gross Profit Margin. The wholesale vehicle gross profit margin
was 4.4 percent of sales in the second quarter of fiscal 2003, compared with 4.6
percent for the same period last year. The slight decline in the wholesale gross
profit margin during the second quarter of fiscal 2003, compared with the second
quarter of fiscal 2002 is due to pricing adjustments in the wholesale
marketplace. For the six months ended August 31, 2002, the wholesale vehicle
gross profit margin was 5.5 percent, compared with 5.1 percent for the same
period last year. Both the average wholesale cost and average wholesale sales
price declined compared with the first six months of fiscal 2002; however, the
decrease in the average wholesale sales price was less than the decrease in the
average wholesale cost.
Other Gross Profit Margin. The gross profit margin for other sales and revenues
was 68.0 percent of sales in the second quarter of fiscal 2003, compared with
66.6 percent for the same period last year. For the six months ended August 31,
2002 and 2001, the gross profit margin for other sales and revenues was 67.3
percent.
Selling, General and Administrative Expenses
The selling, general and administrative expense ratio for the CarMax Group was
6.6 percent of sales in the second quarter of both fiscal 2003 and 2002. For the
six months ended August 31, 2002, the ratio was 6.7 percent of sales, compared
with 6.6 percent in the same period last year. The expense ratio in this year's
first six months includes a higher level of expenses associated with geographic
expansion, compared with last year's first six months, and $3.1 million of
one-time separation costs, offset by continued above-expectation income from the
finance operation. Interest income is recorded as a reduction to selling,
general and administrative expenses.
Finance Income. For the second quarter and first six months of fiscal 2003 and
2002, pretax finance income, which is recorded as a reduction to selling,
general and administrative expenses, was as follows:
Three Months Ended Six Months Ended
August 31, August 31,
(Amounts in millions) 2002 2001 2002 2001
-----------------------------------------------------------------------------------------------------
Securitization income...................... $25.8 $21.4 $49.1 $39.8
Payroll and fringe benefit expenses........ 1.7 1.3 3.4 2.6
Other direct expenses...................... 2.0 1.5 3.7 2.9
--------------------------------------------------------
Finance operation income................... 22.1 18.6 42.0 34.3
Third-party financing fees................. 4.6 4.2 8.8 8.0
--------------------------------------------------------
Total finance income....................... $ 26.7 $22.8 $50.8 $42.3
========================================================
Page 60 of 73
Receivables generated by the CarMax finance operation are sold through
securitization transactions. CarMax continues to service these receivables in
exchange for a contractually specified servicing fee. For the quarter ended
August 31, 2002, serviced receivables averaged $1.65 billion compared with $1.37
billion for the quarter ended August 31, 2001. For the six months ended August
31, 2002, serviced receivables averaged $1.60 billion, compared with $1.32
billion for the same period last year. The principal amount of defaults net of
recoveries on managed receivables totaled $4.1 million for the quarter ended
August 31, 2002, and $2.6 million for the quarter ended August 31, 2001. The
principal amount of defaults net of recoveries totaled $7.3 million for the six
months ended August 31, 2002, and $4.5 million for the six months ended August
31, 2001. Despite the weak economic environment, the managed receivables
continue to perform in-line with our initial gain assumptions.
For the CarMax Group, securitization income includes the gain on sale of
receivables and other income related to servicing these receivables. CarMax
recorded gains on the sales of receivables totaling $18.1 million for the
quarter ended August 31, 2002, compared with gains of $14.7 million for the
period ended August 31, 2001. For the six months ended August 31, 2002, gains on
the sales of receivables totaled $33.7 million, compared with $27.8 million for
the same period last year. The increased gains on sale of receivables resulted
from an increase in loan origination volume driven by increased sales. In
addition, the cost of funds for the CarMax finance operation declined in the
second quarter of this fiscal year compared with the first quarter of this year
and the same period last year. This decline was partially offset by the decline
in the interest rates for auto loans to consumers. In recording these gains,
management estimates key assumptions such as finance charge income, default
rates, payment rates and discount rates appropriate for the type of asset and
risk. If these assumptions were to change, or the actual results were to differ
from the projected results, securitization income would be affected.
For the CarMax Group, finance operation income does not include any allocation
of indirect costs or income. Examples of indirect costs not included are retail
store expenses and corporate expenses such as human resources, administrative
services, marketing, information systems, accounting, legal, treasury and
executive payroll. Payroll, fringe benefit expenses and other direct expenses
increased proportionately to the average managed receivable balance. Other
direct expenses include collection expenses, rent and facility expenses and loan
processing costs.
Fees received from arranging customer automobile financing through third parties
were $0.4 million higher in the second quarter of fiscal 2003 than the same
period last year. For the six months ended August 31, 2002, fees were $0.8
million higher than the same period last year. The increase in customer fees was
a result of the total increase in retail vehicle sales.
Interest Expense
Interest expense declined to $1.0 million for the second quarter of fiscal 2003
from $2.1 million in the same period last year. For the six months ended August
31, 2002, interest expense was $2.0 million, compared with $4.6 million in the
same period last year. The decline in interest expense is a result of lower
average debt levels.
Income Taxes
The effective income tax rate increased to 39.5 percent for the second quarter
of fiscal 2003 from 38.0 percent for the second quarter of fiscal 2002. For the
six months ended August 31, 2002, the effective income tax rate was 39.5
percent, compared with 38.0 percent for the same period last year. The increase
in the fiscal 2003 effective tax rate reflects CarMax's non-tax deductible
separation costs of $1.3 million in the second quarter and $3.1 million in the
first half of the year.
Page 61 of 73
Net Earnings
The CarMax Group's second quarter fiscal 2003 net earnings increased 16 percent
to $31.7 million from $27.4 million in the second quarter of fiscal 2002. Second
quarter fiscal 2003 earnings include $1.3 million of one-time,
non-tax-deductible costs associated with the separation of CarMax from Circuit
City Stores. Excluding the one-time separation costs, net earnings were 20
percent higher in the second quarter of fiscal 2003 than the same period last
year. For the six months ended August 31, 2002, net earnings increased 13
percent to $61.0 million from $54.0 million. Earnings for the six months ended
August 31, 2002, include $3.1 million of one-time, non-tax-deductible costs
associated with the separation. Excluding the one-time separation costs,
net earnings increased 19 percent to $64.1 million in the first six months of
fiscal 2003 compared with $54.0 million in the same period last year.
In the second quarter of fiscal 2003, net earnings attributed to the CarMax
Group Common Stock were $11.4 million compared with $8.0 million in the second
quarter of last fiscal year. For the six months ended August 31, 2002, net
earnings attributed to the CarMax Group Common Stock were $21.9 million compared
with $14.9 million in the same period last year. The remainder of the CarMax
Group's net earnings was attributed to the shares of CarMax Group Common Stock
reserved for the Circuit City Group or for issuance to the holders of Circuit
City Group Common Stock.
Operations Outlook
For more than two years, CarMax has demonstrated that its consumer offer and
business model can produce strong sales and earnings growth. At the beginning of
fiscal 2002, CarMax announced that it would resume geographic growth, opening
two superstores in fiscal 2002, four to six superstores in fiscal 2003 and six
to eight stores in each of fiscal years 2004, 2005 and 2006. This expansion is
proceeding as planned with three more used-car superstores scheduled to open
during the second half of the fiscal year, bringing the total number of stores
opened in fiscal 2003 to five.
Comparable store used-unit sales growth is a primary driver of CarMax's
profitability. Given CarMax's performance in the first half of the fiscal year,
it now expects second half used-unit comparable store growth in the mid- to
high-single digit range.
Fiscal 2003 is a year of transition for CarMax as it ramps up its growth pace
and assumes additional expenses related to the separation from Circuit City. The
expense leverage that CarMax would expect from the used-unit comparable store
growth during this fiscal year will be partially offset by increased expenses in
the second half of fiscal 2003 resulting from diseconomies of scale and
incremental expenses due to the separation from Circuit City and growth related
costs. Increases in benefit plans, insurance and management are examples of cost
increases resulting from the separation. Growth related costs include the
development of a management bench for store expansion for the next two fiscal
years store openings and pre-opening expenses for stores opening over the second
half of the fiscal year and the first quarter of next year. In addition, other
growth related costs such as training, recruiting and employee relocation for
new stores also moderate the expense leverage that CarMax would expect from used
unit comparable store growth this year.
For fiscal 2003, CarMax initially had anticipated that interest rates would rise
above the low levels experienced in fiscal 2002 resulting in reduced yield
spreads from the CarMax finance operation throughout fiscal 2003. If the current
favorable interest rate environment continues, CarMax may not experience the
reduction in yield spreads originally anticipated.
RECENT ACCOUNTING PRONOUNCEMENTS
Refer to the "Circuit City Stores, Inc. Management's Discussion and Analysis of
Results of Operations and Financial Condition" for a review of recent accounting
pronouncements.
Page 62 of 73
FINANCIAL CONDITION
Liquidity and Capital Resources
Operating Activities. For the first six months of fiscal 2003, CarMax generated
cash from operating activities of $93.1 million. In the same period last year,
CarMax generated cash from operating activities of $29.9 million. The
improvement was primarily the result of CarMax's ability to better manage its
inventory levels to meet sales demands.
Investing Activities. Net cash used in investing activities was $40.1 million in
the six months ended August 31, 2002. In the first six months of last fiscal
year, CarMax generated $87.6 million from investing activities. CarMax capital
expenditures increased to $40.1 million in the first six months of fiscal 2003,
compared with $8.7 million in the first six months of fiscal 2002. The increase
in CarMax capital expenditures resulted from the resumption of geographic
growth, with three superstores opening since August 2001, and the planned
openings of four superstores in the second half of fiscal 2003.
Proceeds from the sale of property and equipment declined to $6,000 in the first
half of fiscal 2003, compared with $96.3 million in the first half of last year.
Proceeds from sales of property and equipment in the first half of last year
included amounts received from a sale-leaseback transaction covering nine CarMax
superstore properties.
Financing Activities. Net cash provided by financing activities was $18.3
million in the first six months of fiscal 2003, compared with net cash used of
$101.8 million in the first six months of last fiscal year. In the first quarter
of fiscal 2003, CarMax entered into a $200 million credit agreement with
DaimlerChrysler Services North America, LLC and Toyota Financial Services. This
agreement, which is secured by vehicle inventory, includes a $100 million
revolving loan commitment and a $100 million term loan. The terms for both
commitments are LIBOR-based and have initial two-year terms. As of August 31,
2002, the amounts outstanding under this credit agreement were $5.2 million for
the revolver and $100 million for the term loan. In September 2002, CarMax used
a portion of the proceeds from the agreement for the repayment of allocated
debt, the payment of a one-time special dividend to Circuit City Stores of $28.4
million, the payment of transaction expenses incurred in connection with the
separation and general corporate purposes.
The CarMax credit agreement contains covenants that, in the event of default,
could trigger the acceleration of principal and interest payments and, in some
events, the termination of the credit agreement, unless a waiver of such
requirements is agreed to by the lenders. These covenants are similar to those
found in comparable loan agreements and include: minimum current ratio, maximum
total liabilities to tangible net worth ratio and minimum fixed charge coverage
ratio; and covenants restricting additional debt or liens; payment of dividends;
mergers or consolidations with, or the acquisition of all or substantially all
of the assets of, another person; and making loans or other investments in
excess of certain minimums. The events of default under the credit agreement
include customary provisions such as failure to pay principal or interest when
due and cross-default to other loan agreements, as well as a cross-default with
other material agreements of CarMax where the default under such other agreement
would have a material adverse effect on CarMax and a change in control of
CarMax.
An $8.5 million secured promissory due in August 2002 was repaid using existing
working capital. Additionally, the Company paid a $100 million outstanding term
loan that was due in July 2002.
At August 31, 2002, the Company allocated cash and cash equivalents of $74.7
million and debt of $106.0 million to the CarMax Group. Circuit City Stores did
not renew a $150 million unsecured revolving credit facility that expired on
August 31, 2002. The Company maintains $210 million in committed seasonal lines
of credit that are renewed annually with various banks. Under these facilities,
Circuit City must meet financial guidelines relating to minimum tangible net
worth, debt to net worth and the current ratio. At August 31, 2002, no balance
was outstanding under these facilities.
Page 63 of 73
At August 31, 2002, the aggregate principal amount of securitized automobile
loan receivables totaled $1.72 billion. During the second quarter of fiscal
2003, CarMax completed an asset securitization transaction totaling $512.6
million of automobile loan receivables. At August 31, 2002, the unused capacity
of the automobile loan variable funding program was $361.0 million. At August
31, 2002, there were no provisions providing recourse to the Company for credit
losses on the securitized automobile loan receivables. CarMax anticipates that
it will be able to expand or enter into new securitization arrangements to meet
the future needs of the automobile loan finance operation.
In September 2002, CarMax entered into a sale-leaseback transaction involving
three properties valued at approximately $37.6 million. The transaction was
entered into at competitive rates and structured with an initial lease term of
15 years with two 10-year renewal options. CarMax expects that proceeds from the
credit agreement secured by vehicle inventory, credit facilities if needed,
sale-leaseback transactions and cash generated by operations will be sufficient
to fund capital expenditures and working capital of the CarMax business for the
foreseeable future.
FORWARD-LOOKING STATEMENTS
This report on Form 10-Q contains "forward-looking statements," which are
subject to risks and uncertainties, including, but not limited to, risks
associated with the separation of the CarMax business from Circuit City Stores,
Inc. Additional discussion of factors that could cause actual results to differ
materially from management's projections, forecasts, estimates and expectations
is contained in the Company's SEC filings, including the Company's Annual Report
on Form 10-K/A for the year ended February 28, 2002, and the Company's proxy
statement included in the registration statement on Form S-4 filed by CarMax,
Inc. (File No. 333-85240) related to the separation.
Page 64 of 73
ITEM 3.
CARMAX GROUP QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
Receivables Risk
CarMax manages the market risk associated with the automobile installment loan
portfolio of its finance operation. A portion of this portfolio has been
securitized in transactions accounted for as sales in accordance with SFAS No.
140 and, therefore, is not presented on the Group balance sheets.
Automobile Installment Loan Receivables. At August 31, 2002, and February 28,
2002, all loans in the portfolio of automobile loan receivables were fixed-rate
installment loans. Financing for these automobile loan receivables is achieved
through asset securitization programs that, in turn, issue both fixed- and
floating-rate securities. Interest rate exposure relating to floating rate
securitizations is managed through the use of interest rate swaps. Receivables
held for investment or sale are financed with working capital.
The total principal amount of receivables securitized or held for investment or
sale as of August 31, 2002, and February 28, 2002, was as follows:
(Amounts in millions) August 31 February 28
- ----------------------------------------------------------------------
Fixed-rate securitizations.............. $ 1,333 $1,122
Floating-rate securitizations
synthetically altered to fixed....... 388 413
Floating-rate securitizations........... 1 1
Held for investment (1)................. 11 12
Held for sale (1)....................... 14 2
---------------------------
Total................................... $ 1,747 $1,550
===========================
(1) Held by a bankruptcy-remote special purpose subsidiary.
Interest Rate Exposure. Interest rate exposure relating to the securitized
automobile loan receivables represents a market risk exposure that we manage
with matched funding and interest rate swaps matched to projected payoffs.
CarMax does not anticipate market risk from swaps because they are used on a
monthly basis to match funding costs to the use of the funding. Market risk is
the exposure created by potential fluctuations in interest rates. Generally,
changes only in interest rates do not have a material impact on CarMax's results
of operations.
Credit risk is the exposure to nonperformance of another party to an agreement.
Credit risk is mitigated by dealing with highly rated bank counterparties. The
market and credit risks associated with financial derivatives are similar to
those relating to other types of financial instruments. Refer to Note 6 to the
CarMax Group financial statements for a description of these items.
Page 65 of 73
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
As previously reported in the Company's Annual Report on Form 10-K/A
for the fiscal year ended February 28, 2002, and the Company's
Quarterly Report on Form 10-Q for the quarter ended May 31, 2002,
Kevin Smith, Douglass Nichols and Patricia Beaupre, each individually
and on behalf of all others similarly situated, filed complaints
alleging federal securities law violations against the Company and W.
Alan McCollough in the United States District Court for the Eastern
District of Virginia. In July 2002, the District Court consolidated
the three suits into the Kevin Smith case. In September 2002, a
consolidated amended class action complaint was filed. The
consolidated amended complaint adds Company executive officers Michael
T. Chalifoux and Philip J. Dunn as defendants. It seeks certification
of a class that would include all purchasers of the Company's common
stock between June 15, 2001, and June 17, 2002, and alleges that,
during the specified time period, the defendants violated the federal
securities laws by misrepresenting or omitting material facts about
the Company's business and operations in various press releases and
SEC filings. The Company believes that the allegations in the
consolidated amended complaint are without merit and that the Company
has substantial defenses to the claims alleged. The Company intends to
defend this action vigorously.
Item 4. Submission of Matters to a Vote of Security Holders
(a) A special meeting of the Company's shareholders was held on
September 10, 2002.
(b) At the special meeting the shareholders voted in favor of the
CarMax group separation proposal and certain related amendments
to the Company's articles of incorporation. The amendments to the
articles required the approval of a majority of the outstanding
shares of Circuit City Group Common Stock and CarMax Group Common
Stock, each voting as a separate voting group, and the approval
of a majority of all of the outstanding shares of both groups,
voting as a single voting group. The amendments were approved by
the following votes:
Circuit City Group Common Stock:
======================================================================
CarMax Group Separation
Proposal For Against Abstain
===========================================
151,135,156 789,256 931,790
======================================================================
CarMax Group Common Stock:
======================================================================
CarMax Group Separation
Proposal For Against Abstain
===========================================
23,134,463 62,590 59,187
======================================================================
Page 66 of 73
Circuit City Group Common Stock holders and CarMax Group Common
Stock holders voting as a single voting group (each Circuit City
Group share had one vote; each CarMax Group share had 1.131
votes):
====================================================================
CarMax Group Separation
Proposal For Against Abstain
=========================================
177,300,234 860,045 998,730
====================================================================
(c) At the special meeting the shareholders voted in favor of a
proposal to make certain further amendments to the Company's
articles of incorporation to eliminate language concerning the
group stocks and redesignate each share of Circuit City Group
Common Stock as one share of Circuit City common stock. The
amendments to the articles required the approval of a majority of
the outstanding shares of Circuit City Group Common Stock and
CarMax Group Common Stock, each voting as a separate voting
group, and the approval of a majority of all of the outstanding
shares of both groups, voting as a single voting group. The
amendments were approved by the following votes:
Circuit City Group Common Stock:
========================================================================
Clean-Up Amendment
Proposal For Against Abstain
=============================================
150,655,226 1,114,724 1,086,252
========================================================================
CarMax Group Common Stock:
========================================================================
Clean-Up Amendment
Proposal For Against Abstain
=============================================
22,669,076 100,407 486,757
========================================================================
Circuit City Group Common Stock holders and CarMax Group Common
Stock holders voting as a single voting group (each Circuit City
Group share had one vote; each CarMax Group share had 1.131
votes):
========================================================================
Clean-Up Amendment
Proposal For Against Abstain
=============================================
176,293,951 1,228,284 1,636,774
========================================================================
Page 67 of 73
(d) At the special meeting the shareholders voted in favor of the
proposal to approve the CarMax, Inc. Annual Performance-Based
Bonus Plan. The proposal was approved by the following votes:
=========================================================================
CarMax, Inc. Annual
Performance-Based Bonus
Plan Proposal For Against Abstain
==============================================
171,083,490 6,148,065 1,927,454
=========================================================================
(e) At the special meeting the shareholders voted in favor of the
proposal to approve the CarMax, Inc. 2002 Stock Incentive Plan.
The proposal was approved by the following votes:
===========================================================================
CarMax, Inc. 2002 Stock
Incentive Plan Proposal For Against Abstain
================================================
149,605,109 27,641,732 1,912,168
===========================================================================
(f) At the special meeting the shareholders voted in favor of the
proposal to approve the CarMax, Inc. 2002 Non-employee Directors
Stock Incentive Plan. The proposal was approved by the following
votes:
=========================================================================
CarMax, Inc. 2002
Non-employee Directors
Stock Incentive Plan For Against Abstain
Proposal
==============================================
146,556,029 29,574,062 3,028,918
=========================================================================
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
(2) Plan of Acquisition, Reorganization, Arrangement,
Liquidation or Succession
(a) Separation Agreement dated as of May 21, 2002,
between Circuit City Stores, Inc. and CarMax, Inc.
filed as Exhibit 2.1 to the Form S-4 Registration
Statement of CarMax, Inc. (Registration No.
333-85240) is expressly incorporated herein by this
reference.
(3)(i) Articles of Incorporation
(a) Amended and Restated Articles of Incorporation of
Circuit City Stores, Inc., effective February 3,
1997, filed as Exhibit 3 (i)(a) to the Company's
Current Report on Form 8-K filed on October 2, 2002
(File No. 1-5767), are expressly incorporated herein
by this reference.
(b) Articles of Amendment to the Amended and Restated
Articles of Incorporation, effective April 28, 1998,
filed as Exhibit 3(i)(b) to the Company's Current
Page 68 of 73
Report on Form 8-K filed on October 2, 2002 (File
No. 1-5767), are expressly incorporated herein by
this reference.
(c) Articles of Amendment to the Amended and Restated
Articles of Incorporation, effective June 22, 1999,
filed as Exhibit 3(i)(c) to the Company's Current
Report on Form 8-K filed on October 2, 2002 (File
No. 1-5767), are expressly incorporated herein by
this reference.
(d) Articles of Amendment to the Amended and Restated
Articles of Incorporation, effective October 1,
2002, filed as Exhibit 3(i)(d) to the Company's
Current Report on Form 8-K filed October 2, 2002
(File No. 1-5767), are expressly incorporated herein
by this reference.
(3)(ii) Bylaws
(a) Bylaws of Circuit City Stores, Inc., as amended and
restated June 18, 2002, filed as Exhibit 3(ii)(a) to
the Company's Quarterly Report of Form 10-Q for the
quarter ended May 31, 2002 (File No. 1-5767), are
expressly incorporated herein by this reference.
(4) Instruments Defining the Rights of Security Holders
Third Amended and Restated Rights Agreement dated as of
October 1, 2002 between Registrant and Wells Fargo Bank
Minnesota, N.A., as Rights Agent, filed as Exhibit 1 to
the Company's Form 8-A/A filed on October 2, 2002 (File
No. 1-5767), is expressly incorporated herein by this
reference.
(99) (i) Certification of the Chief Executive Officer Pursuant to
18 U.S.C. Section 1350 as Adopted Pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
(99)(ii) Certification of the Chief Financial Officer Pursuant to
18 U.S.C. Section 1350 as Adopted Pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K
The Company filed a Form 8-K on August 5, 2002, revising second
quarter used-unit comparable store sales growth expectations for
the CarMax Group.
The Company also filed a Form 8-K on September 10, 2002,
announcing that the Company's shareholders approved the separation
of the CarMax Group from the Company and that the Company's board
of directors authorized the redemption of the Company's CarMax
Group stock and the distribution of CarMax, Inc. common stock to
effect the separation.
The Company also filed a Form 8-K on October 2, 2002, announcing
the completion of the separation of the CarMax Group from the
Company.
Page 69 of 73
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Company
has duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
CIRCUIT CITY STORES, INC.
By: s/ W. Alan McCollough
--------------------------------------
W. Alan McCollough
Chairman, President and
Chief Executive Officer
By: s/ Michael T. Chalifoux
--------------------------------------
Michael T. Chalifoux
Executive Vice President,
Chief Financial Officer and
Corporate Secretary
By: s/ Philip J. Dunn
--------------------------------------
Philip J. Dunn
Senior Vice President, Treasurer,
Corporate Controller and
Chief Accounting Officer
October 15, 2002
Page 70 of 73
I, W. Alan McCollough, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Circuit City Stores,
Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the effectiveness
of the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit committee
of registrant's board of directors (or persons performing the equivalent
function):
a) all significant deficiencies in the design or operation of internal controls
which could adversely affect the registrant's ability to record, process,
summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: October 14, 2002
/s/ W. Alan McCollough
-------------------------
W. Alan McCollough
Chairman, President and
Chief Executive Officer
Page 71 of 73
I, Michael T. Chalifoux, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Circuit City Stores,
Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the effectiveness
of the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit committee
of registrant's board of directors (or persons performing the equivalent
function):
a) all significant deficiencies in the design or operation of internal controls
which could adversely affect the registrant's ability to record, process,
summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: October 14, 2002
/s/ Michael T. Chalifoux
---------------------------
Michael T. Chalifoux
Executive Vice President,
Chief Financial Officer and
Corporate Secretary
Page 72 of 73
EXHIBIT INDEX
(2) Plan of Acquisition, Reorganization, Arrangement,
Liquidation or Succession
(a) Separation Agreement dated as of May 21, 2002,
between Circuit City Stores, Inc. and CarMax, Inc.
filed as Exhibit 2.1 to the Form S-4 Registration
Statement of CarMax, Inc. (Registration No.
333-85240) is expressly incorporated herein by
this reference.
(3)(i) Articles of Incorporation
(a) Amended and Restated Articles of Incorporation of
Circuit City Stores, Inc., effective February 3,
1997, filed as Exhibit 3 (i)(a) to the Company's
Current Report on Form 8-K filed on October 2,
2002 (File No. 1-5767), are expressly incorporated
herein by this reference.
(b) Articles of Amendment to the Amended and Restated
Articles of Incorporation, effective April 28,
1998, filed as Exhibit 3(i)(b) to the Company's
Current Report on Form 8-K filed on October 2,
2002 (File No. 1-5767), are expressly incorporated
herein by this reference.
(c) Articles of Amendment to the Amended and Restated
Articles of Incorporation, effective June 22,
1999, filed as Exhibit 3(i)(c) to the Company's
Current Report on Form 8-K filed on October 2,
2002 (File No. 1-5767), are expressly incorporated
herein by this reference.
(d) Articles of Amendment to the Amended and Restated
Articles of Incorporation, effective October 1,
2002, filed as Exhibit 3(i)(d) to the Company's
Current Report on Form 8-K filed October 2, 2002
(File No. 1-5767), are expressly incorporated
herein by this reference.
(3)(ii) Bylaws
(a) Bylaws of Circuit City Stores, Inc., as amended
and restated June 18, 2002, filed as Exhibit
3(ii)(a) to the Company's Quarterly Report of Form
10-Q for the quarter ended May 31, 2002 (File No.
1-5767), are expressly incorporated herein by this
reference.
(4) Instruments Defining the Rights of Security Holders
Third Amended and Restated Rights Agreement dated as of
October 1, 2002 between Registrant and Wells Fargo Bank
Minnesota, N.A., as Rights Agent, filed as Exhibit 1 to
the Company's Form 8-A/A filed on October 2, 2002 (File
No. 1-5767), is expressly incorporated herein by this
reference.
(99) (i) Certification of the Chief Executive Officer Pursuant to
18 U.S.C. Section 1350 as Adopted Pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
(99)(ii) Certification of the Chief Financial Officer Pursuant to
18 U.S.C. Section 1350 as Adopted Pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
Page 73 of 73