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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended January 1, 2000 or
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ______ to ______
Commission file number: 0-23633
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1-800 CONTACTS, INC.
(Exact name of registrant as specified in its charter)
Delaware 87-0571643
- ---------------------------------------------- ------------------------------
(State or other jurisdiction of incorporation (I.R.S. Employer Identification
or organization) No.)
66 E. Wadsworth Park Drive 3rd Floor, Draper, UT 84020
- ------------------------------------------------ ------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (801) 924-9800
Securities registered pursuant to Section 12(b) of the Act: Not applicable
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.01 per share
----------------------------------------
(Title of Class)
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.
[X] Yes [_]No
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [_]
The aggregate market value of voting common equity held by non-affiliates
of the registrant as of March 20, 2000 at a closing sale price of $29.125 as
reported by the Nasdaq National Market ("Nasdaq") was approximately $96 million.
Shares held by each officer and director and by each person who owns or may be
deemed to own 10% or more of the outstanding Common Stock have been excluded
since such persons may be deemed to be affiliates. This determination of
affiliate status is not necessarily a conclusive determination for other
purposes.
As of March 20, 2000, the Registrant had 6,119,310 shares of Common Stock,
par value $0.01 per share, outstanding.
Documents Incorporated by Reference
Portions of the Registrant's Proxy Statement to be used in connection with
the solicitation of proxies for the Annual Meeting to be held on May 19, 2000
(the "Proxy Statement") are incorporated by reference in Part III of this Annual
Report on Form 10-K (the "Form 10-K").
1-800 CONTACTS, INC.
INDEX TO ANNUAL REPORT ON FORM 10-K
Page No.
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PART I
Item 1. Business..................................................................... 3
Item 2. Properties................................................................... 12
Item 3. Legal Proceedings............................................................ 13
Item 4. Submission of Matters to a Vote of Security Holders.......................... 13
Item 4A. Executive Officers of the Registrant......................................... 14
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters.... 15
Item 6. Selected Financial Data...................................................... 17
Item 7. Management's Discussion and Analysis of Financial Condition and Results of
Operations................................................................ 18
Item 7A. Quantitative and Qualitative Disclosure About Market Risk.................... 24
Item 8. Financial Statements and Supplementary Data.................................. 24
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure................................................... 24
PART III
Item 10. Directors and Executive Officers of the Registrant........................... 24
Item 11. Executive Compensation....................................................... 24
Item 12. Security Ownership of Certain Beneficial Owners and Management............... 25
Item 13. Certain Relationships and Related Transactions............................... 25
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K............. 25
PART I
Item 1. Business.
Overview
1-800 CONTACTS, INC. (the "Company") was incorporated under the laws of the
State of Utah in February 1995 and was reincorporated under the laws of the
State of Delaware in February 1998 in conjunction with its initial public
offering of common stock. The Company is the successor to the business founded
by the Company's Vice President of Sales in March 1991. The Company's principal
executive office is located at 66 E. Wadsworth Park Drive 3/rd/ Floor, Draper,
Utah 84020, and its telephone number is (801) 924-9800. The Company maintains a
website on the Internet at www.1800contacts.com.
The Company is a leading direct marketer of replacement contact lenses. As
of January 1, 2000, the Company had shipped more than two million orders to
approximately 1.2 million customers since inception. Through its easy-to-
remember, toll-free telephone number, "1-800 CONTACTS" (1-800-266-8228), and
increasingly through its Internet addresses, which include
"www.1800contacts.com," "www.contacts.com" and "www.contactlenses.com," the
Company sells all of the popular brands of contact lenses, including those
manufactured by Johnson & Johnson, CIBA Vision, Bausch & Lomb, Wesley Jessen,
Ocular Sciences and CooperVision. The Company's high volume, cost-efficient
operations, supported by its proprietary management information systems, enable
it to offer its products at competitive prices while delivering a high level of
customer service. As a result of its extensive inventory of more than 20,000
SKUs, the Company generally ships approximately 90% of its orders within one
business day of receipt. The Company believes that it offers its customers an
attractive alternative for obtaining replacement contact lenses in terms of
convenience, price, speed of delivery and customer service. The Company's net
sales have grown rapidly, from $3.6 million in fiscal 1996 to $98.5 million in
fiscal 1999.
The Internet is the Company's fastest-growing sales channel and a more
cost-effective way for the Company to serve its customers. The Company's
Internet sales for fiscal 1999 were $18.7 million compared to $2.3 million in
the previous fiscal year. During the fourth quarter of fiscal 1999, Internet
orders represented approximately 36% of the Company's new orders. Its online
presence enables the Company to operate more efficiently by substantially
eliminating the payroll and long distance costs associated with telephone
orders. This increased efficiency allows the Company to offer Internet customers
free shipping in addition to other services such as e-mail shipping
confirmation, online order tracking and e-mail correspondence. The Company
believes that its customers will increasingly use the Internet to order and
reorder replacement contact lenses.
The Company markets its products through an aggressive national advertising
campaign that aims to increase recognition of the 1-800 CONTACTS brand, increase
traffic on its website, add new customers, continue to build strong customer
loyalty and maximize repeat purchases. The Company's marketing campaign now more
prominently features its website, contacts.com. As compared to other direct
marketers of replacement contact lenses, the Company believes that its toll-free
telephone number and Internet addresses afford it a significant competitive
advantage in generating consumer awareness and repeat business. The Company
spent approximately $20.1 million on advertising in fiscal 1999. The Company's
experience has been that increases in advertising expenditures have a direct
impact on the growth of net sales.
Industry Overview
Industry analysts estimate that over 50% of the United States' population
need some form of corrective eyewear. Contact lenses have become a convenient,
cost-effective alternative to eyeglasses, and the number of contact lens wearers
is expected to increase as technology further improves the convenience, comfort
and fit of contact lenses. As a result, the contact lens market is large and
growing. The growth in the disposable market is largely due to the shift in the
contact lens market away from traditional soft lenses, which generally are
replaced on an annual basis, to disposable lenses, which are replaced on a
daily, weekly, or bi-weekly basis.
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Traditionally, contact lenses were almost exclusively sold to consumers by
either ophthalmologists or optometrists (referred to herein collectively as "eye
care practitioners"). Eye care practitioners would typically supply a patient
with his or her initial pair of contact lenses in connection with providing the
patient an eye examination and subsequently provide all replacement lenses,
regardless of whether the patient was given or required another eye examination.
Because the initial fitting of contact lenses requires a prescription written by
an eye care practitioner, the initial sale of contact lenses still takes place
primarily in this manner. Over the last decade, however, a number of alternative
sellers of replacement contact lenses have emerged, including direct marketers.
The Company believes that increased consumer awareness of the benefits of
the direct marketing of contact lenses will lead to further growth of this
method of buying and selling contact lenses. Purchasing replacement contact
lenses from a direct marketer offers the convenience of shopping at home, rapid
home delivery, quick and easy telephone or Internet ordering and competitive
pricing. In addition, the growth in popularity of disposable contact lenses,
which require patients to purchase replacement lenses more frequently, has
contributed to the growth of the direct marketing channel. The direct marketing
industry continues to grow as many retail customers have migrated towards the
convenience and service offered by home shopping, and the Company expects the
direct marketing segment of the contact lens industry to grow in tandem with the
growth in the direct marketing industry as a whole.
The Company believes that the enormous growth and acceptance of the
Internet presents significant opportunities for direct marketers of contact
lenses such as the Company. The factors driving this growth include the
increasing number and decreasing cost of personal computers in homes and
offices, technological innovations providing easier, faster and cheaper access
to the Internet, the proliferation of content and services being provided on the
Internet and the increasing use of the Internet by business and consumers as a
medium for conducting business.
The Internet possesses a number of unique and commercially powerful
characteristics that differentiate it from traditional media: users communicate
or access information without geographic limitations; users access dynamic and
interactive content on a real-time basis; and users communicate and interact
instantaneously. The Internet has created a dynamic and particularly attractive
medium for commerce, empowering customers to gather more comparative purchasing
data than is feasible with traditional commerce systems, to shop in a more
convenient manner and to interact with sellers in many new ways. The Company
believes that the Internet provides a convenient and efficient medium for the
sale of replacement contact lenses.
Historically, sales of contact lenses by direct marketers have been impeded
by eye care practitioners and contact lens manufacturers. Many eye care
practitioners have been reluctant to provide patients with a copy of their
prescription or to release such information to direct marketers upon request,
thereby impeding patients from purchasing lenses from a direct marketer. In
addition, substantially all of the major manufacturers of contact lenses have
historically refused to sell contact lenses directly to direct marketing
companies and have sought to prohibit their distributors from doing so. These
traditional barriers to the direct marketing of contact lenses may be reduced or
eliminated in the future. The Federal Trade Commission (the "FTC") has from time
to time solicited comments regarding whether eye care practitioners should be
required to release contact lens prescriptions to their patients. In addition,
the Attorneys General for more than 30 states have joined in a lawsuit against
the major contact lens manufacturers and certain eye care practitioners and
their trade associations alleging that the manufacturers' policy not to sell to
direct marketers was adopted in conspiracy with eye care practitioners to
eliminate alternative channels of trade from the contact lens market. See
"Purchasing and Principal Suppliers" and "Government Regulation."
Product Offerings
Contact lenses can be divided into two categories: soft lenses and hard
lenses (primarily rigid gas permeable). There are three principal wearing
regimes for soft contact lenses: conventional, disposable and planned
replacement. Conventional lenses are designed to be worn indefinitely but are
typically replaced after 12 to 24 months. Disposable soft contact lenses were
introduced in the late 1980s based on the concept that changing lenses on a more
regular basis was important to comfort, convenience, maintaining healthy eyes
and patient compliance. Disposable lenses are changed as often as daily and up
to every two weeks, depending on the product. Planned replacement lenses are
4
designed to be changed as often as every two weeks and up to every three months
and currently represent a small portion of the overall soft lens market.
The Company is a direct marketer of replacement contact lenses and does not
manufacture contact lenses or provide eye examinations or related services to
its customers. The Company offers substantially all of the soft and hard contact
lenses produced by the leading contact lens manufacturers, including Johnson &
Johnson, CIBA Vision, Bausch & Lomb, Wesley Jessen, Ocular Sciences and
CooperVision. The Company stocks a large inventory of lenses from which it can
ship approximately 90% of its orders within one business day of receipt. The
Company believes that its ability to maintain a large inventory of contact
lenses provides it with a competitive advantage over eye care practitioners,
optical chains and discount stores and serves as an effective barrier to entry
to potential entrants in the direct marketing of contact lenses.
In July 1997, the Company was approved as an authorized distributor of CIBA
Vision. The Company also purchases product directly from certain other
manufacturers. The Company's products are delivered in the same sterile, safety
sealed containers in which the lenses were packaged by the manufacturer. From
time to time, the Company purchases contact lenses that were labeled as
"samples" by the manufacturer. Such lenses are sometimes offered by the Company
to customers as part of promotional programs at reduced prices.
Customers and Marketing
The Company's customers are located principally throughout the United
States. The percentage of the Company's customers that are located in each state
is approximately equal to the percentage of the United States' population which
resides in such state, with the largest concentration of the Company's customers
residing in California. The Company strives to deliver a high level of customer
service in an effort to maintain and expand its loyal customer base. The Company
utilizes a focused, closely managed and monitored marketing strategy that is
designed to enhance the awareness and value of its brand. The Company
continually researches and analyzes new ways in which to advertise its products.
After identifying an attractive potential new advertisement or advertising
medium, the Company commits to such advertising for an initial test period. The
response generated by such advertising is monitored and analyzed by the Company
and a decision to commit significant resources to a particular advertisement or
advertising medium is made only if the Company is satisfied with the response
rates it has generated. After the initial testing period, the Company continues
to closely monitor its advertising in order to identify and react to trends in
consumer response patterns and adjust its marketing strategy accordingly.
The majority of contact lens wearers are between the ages of 18 and 49. In
addition, approximately two-thirds of contact lens wearers are women and contact
lens wearers generally have higher incomes than eyeglass wearers do. Through its
national advertising campaign, the Company is able to target its advertising to
contact lens wearers in these key demographic groups, as well as certain other
persons based on other important demographics.
The Company spent approximately $20.1 million on advertising in fiscal 1999
and intends to increase advertising spending in fiscal 2000 to continue its
nationwide advertising campaign that aims to increase recognition of the 1-800
CONTACTS brand, increase traffic on its website, add new customers, continue to
build strong customer loyalty and maximize repeat purchases. The Company's
marketing campaign now more prominently features its website, contacts.com. The
Company's advertising campaign targets both its traditional telephone customers
and its online customers and is designed to drive new and repeat purchases
through its website. In addition, the Company intends to continue expanding its
direct marketing campaign to its more than 1.2 million customers through the
U.S. mail and e-mail.
A brief description of the principal components of the Company's national
advertising campaign is set forth below:
Broadcast. In July 1998, the Company began its first nationwide broadcast
advertising campaign with significant purchases on both cable and network
television--testing different networks, commercial lengths and broadcast times.
The Company believes that this investment in television advertising was
primarily responsible for
5
the 44% sequential increase in sales in the third quarter of fiscal 1998. The
Company's television ads typically focus on its ability to rapidly deliver to
customers the same contact lenses offered by eye care practitioners. The Company
believes that its easy-to-remember phone number and Internet address make
television a particularly effective marketing vehicle and that television
advertising will continue to be the key to building awareness for its 1-800
CONTACTS and contacts.com brands.
Internet. The Company believes that it is one of the industry leaders in
establishing an online advertising presence. The Company currently maintains an
advertising presence on several leading websites, including Yahoo!, America
Online, Excite, Infoseek and Lycos and other highly-visited websites where its
customers are likely to visit. The Company intends to continue to seek new
opportunities to expand this presence within top-tier portal sites and highly
trafficked content sites. The Company intends to significantly expand its
Internet advertising and marketing efforts. The Company intends to continue to
use the unique resources of the Internet as a means of marketing in an effort to
drive new and repeat traffic.
Direct-Mailing. The Company uses direct-mail to advertise its products to
selected groups of consumers. The Company utilizes mailing lists obtained from
both private and public sources to target its advertisements specifically to
contact lens wearers.
Cooperative Mailings. The Company advertises its products in cooperative
mail programs sponsored by the leading cooperative mail companies in the United
States. This advertising medium permits the Company to target consumers in
specific zip codes according to age, income and other important demographics.
Free Standing Inserts. From time to time, the Company advertises its
products through free standing inserts, which are typically glossy
advertisements included inside the comic section of the Sunday paper. The
Company uses this advertising medium because of its ability to reach a large
audience in a cost-effective manner. The Company utilizes these inserts to
supplement its direct and cooperative mailing programs.
Magazines and Newspapers. From time to time, The Company also purchases
advertisements in national magazines and newspapers. The Company uses this
advertising medium due to its ability to reach a large audience and its
scheduling flexibility.
Management Information Systems
The Company has developed proprietary management information systems that
integrate the Company's order entry and order fulfillment operations. The
Company believes that these systems enable it to operate efficiently and provide
enhanced customer service. The key features of these management information
systems are their ability to: (i) process numerous types of orders, including
telephone, Internet and others; (ii) continually monitor and track the Company's
inventory levels for substantially all of its products; (iii) rapidly process
credit card orders; (iv) increase the speed of the shipping process with
integrated and automated shipping functions and (v) increase accuracy through
the scanning of each order prior to shipment to ensure it contains the correct
quantity and type of lenses.
The management information systems provide the Company's customer service
representatives ("CSRs") with real-time product availability information for
substantially all of its products through a direct connection with the Company's
distribution center, whereupon information is immediately updated as lenses are
shipped. In addition, Internet customers can obtain real-time product
availability information for many products. The management information systems
also have an integrated direct connection for processing credit card payments
which allows the CSR to charge the customer's card and ensure that a valid card
number and authorization have been received in approximately five seconds while
the CSR is on the phone with the customer. CSRs also have access to records of
all prior contact with a customer, including the customer's address,
prescription information, order history and payment history and notes of any
prior contact with the customer made by phone, Internet, mail or fax. Based on
product availability provided by the management information systems, the CSR
provides the customer with an estimated date of delivery of their lenses. If a
customer's order will not be shipped by the promised delivery date, the
management
6
information systems notify the CSR who entered the order and provide any
information explaining the delay, and the CSR then contacts the customer to
inform them of the delay.
After an order has been entered into the management information systems by
a CSR, it is sent to the Company's distribution center via a direct connection.
After the distribution center receives the order, the invoice for the order is
printed. The invoice for each order contains the type and quantity of the
lenses, as well as a shipping label for the order. Tracking, manifesting,
billing and other shipping functions are integrated into the Company's
management information systems so that all necessary bar codes and tracking
information for shipment via independent couriers are printed directly on the
Company's shipping label, and separate labeling or a separate computer is not
needed to ship packages via independent couriers.
After the invoice for an order is printed at the Company's distribution
center, the order is pulled from inventory and scanned to ensure that the
prescription and quantity of each item matches the order in the Company's
management information systems. Audible notices inform the shipping agent of any
errors in the order. After the order has been scanned for accuracy, the
management information systems update the Company's inventory level. Then the
order is placed in a box produced by the Company's automated box folder and is
sent to an automatic sealer. After the package leaves the sealer, another
scanner reads the bar code on the shipping label to determine which method of
shipment is being used, adds the package to the appropriate carrier's manifest
and directs the appropriate hydraulic diverter to push the package into the
appropriate carrier's shipping bin.
The Company has installed a battery powered back-up system capable of
supporting its entire call center, computer room and phone switch. This system
is further supported by a generator capable of supporting the Company's call
center operations for a period of five days. All critical data is simultaneously
written to a series of back-up drives throughout the day and at the end of the
day the Company's data is transmitted to an offsite location. There can be no
assurance that the Company's back-up system will be sufficient to prevent an
interruption in the Company's operations in the event of disruption in the
Company's management information systems, and an extended disruption in the
management information systems could adversely affect the Company's business,
financial condition and results of operations.
Operations
The primary components of the Company's operations include its
teleservices, order entry and customer service, Internet and distribution and
fulfillment.
Teleservices, Order Entry and Customer Service. The Company provides its
customers with toll-free telephone access to its CSRs. Currently, the Company's
call center generally operates from 6:00 a.m. to 9:00 p.m. (MST) Monday through
Friday, 7:00 a.m. to 5:00 p.m. (MST) on Saturday and 8:00 a.m. to 4:00 p.m.
(MST) on Sunday. During the second quarter of fiscal 2000, the Company plans to
extend its call center operating hours. The new operating hours will be from
6:00 a.m. to 10:00 p.m. (MST) Monday through Friday, 7:00 a.m. to 9:00 p.m.
(MST) on Saturday and 8:00 a.m. to 8:00 p.m. (MST) on Sunday. Customers may
place orders via the Internet 24 hours a day, 7 days a week. Potential customers
may also obtain product, pricing or other information over the Internet or
through an interactive voice response system. The Company's orders are received
by phone, Internet, mail, facsimile and electronic mail. CSRs process orders
directly into the Company's proprietary management information systems, which
provide customer order history and information, product specifications, product
availability, expected shipping date and order number. CSRs are provided with a
sales script and are trained to provide information about promotional items.
Additionally, CSRs are trained to provide customer service and are authorized to
resolve all customer service issues, including accepting returns and issuing
refunds, as appropriate.
The Company believes its customers are particularly sensitive to the way
merchants and salespeople communicate with them. The Company strives to hire
energetic, service-oriented CSRs who can understand and relate to customers.
CSRs participate in a training program that includes a mentor system for working
with more experienced personnel. During 1999, the Company established a quality
assurance department. This department monitors and reviews the CSRs performance
and coaches the CSRs as necessary.
7
The Company completed the move into its new call center during July 1998.
In conjunction with the move, the Company acquired new telecommunications
systems and enhanced its management information systems. In its current
facility, the Company believes it has the capacity to handle up to 30,000 calls
per day. The Company believes that it processes telephone orders on average in
less time than its competitors, which allows each CSR to handle a greater number
of orders per day.
The laws in most states require that contact lenses be sold pursuant to a
valid prescription. The Company's operating practice is to attempt to obtain a
valid prescription from each of its customers or his/her eye care practitioner.
If the customer does not have a copy of his/her prescription, the Company
attempts to contact the customer's doctor to obtain a copy of or verify the
customer's prescription. If the Company is unable to obtain a copy of or verify
the customer's prescription, it is the Company's practice to complete the sale
and ship the lenses to the customer based on the prescription information
provided by the customer. The Company retains copies of the written
prescriptions that it receives and maintains records of its communications with
the customer's prescriber.
Internet. The Company's website, contacts.com, provides customers with a
quick, efficient and cost-effective method for obtaining replacement contact
lenses 24 hours a day, 7 days a week. The website allows customers to easily
browse and purchase substantially all of the Company's products, promotes brand
loyalty and encourages repeat purchases by providing an inviting customer
experience. The Company has designed its website to be fast, secure and easy to
use and to enable its customers to purchase products with minimal effort. The
Company also offers Internet customers services such as free shipping, shipping
confirmation and online order tracking. During the call center's operating
periods, the Company offers service and support to its Internet customers over
the telephone. The Company also provides real-time online messaging and e-mail
support to customers. The Company's website allows customers to dispense with
providing personal profile and payment information after their initial order.
The website has permitted the Company to expand its customer base through better
service while reducing transactional costs.
The Company's online service automates the processing of customer orders,
interacts with the management information systems and allows the Company to
gather, store and use customer and transaction information in a comprehensive
and cost-efficient manner. The Company's website contains customized software
applications that interface with the Company's management information systems.
The Company maintains a database containing information compiled from
customer profiles, shopping patterns and sales data. The Company analyzes
information in this database to develop targeted marketing programs and provide
personalized and enhanced customer service. This database is scaleable to permit
large transaction volumes. The Company's systems support automated e-mail
communications with customers to facilitate confirmations of orders, provide
customer support, obtain customer feedback and engage in targeted marketing
programs.
The Company uses a combination of proprietary and industry-standard
encryption and authentication measures designed to protect a customer's
information. The Company maintains an Internet firewall to protect its internal
systems and all credit card and other customer information.
Distribution and Fulfillment. Approximately 90% of the Company's orders are
shipped within one business day of receipt. Customers generally receive orders
within one to five business days after shipping, depending upon the method of
delivery chosen by the customer. A shipping and handling fee is charged on each
customer order, except those orders received via the Internet and those received
by mail with an enclosed check. Customers have the option of having their order
delivered by overnight courier for an additional charge. The Company's
management information systems automatically determine the anticipated delivery
date for each order.
The Company uses an integrated packing and shipping system via a direct
connection to the Company's management information systems. This system monitors
the in-stock status of each item ordered, processes the order and generates
warehouse selection tickets and packing slips for order fulfillment operations.
The Company's
8
management information systems are specifically designed with a number of
quality control features to help ensure the accuracy of each order.
The Company began operations in its new distribution center in February
1999. This new facility is several times the size of the prior distribution
center and is strategically located near the Salt Lake City, Utah airport.
Purchasing and Principal Suppliers
Historically, substantially all of the major manufacturers of contact
lenses have refused to sell lenses directly to direct marketers, including the
Company, and have sought to prohibit their distributors from doing so. As a
result, the Company currently purchases a substantial portion of its products
from unauthorized distributors. The Company is aware that at least one large
manufacturer of contact lenses puts tracking codes on its products in an effort
to identify distributors who are selling to direct marketers. In June 1994, the
Attorney General for the State of Florida, acting on behalf of disposable
contact lens consumers in that state, filed an anti-trust action against Johnson
& Johnson, CIBA Vision, Bausch & Lomb and certain eye care practitioners and
their trade associations alleging, among other things, that the contact lens
manufacturers' policy not to sell to mail order distributors and others was
adopted in conspiracy with eye care practitioners, as the result of pressure by
eye care practitioners, in order to eliminate alternative channels of trade from
the disposable lens market (the "Florida Action").
In December 1996, the Attorney General for the State of New York, on behalf
of itself and the Attorney Generals for approximately 21 other States, filed a
substantially similar action naming three major manufacturers of soft contact
lenses as well as several optometrists and their trade associations as
defendants (the "New York Action"). Additional states have joined the New York
Action since it was filed, and the Florida Action and the New York Action have
been consolidated and are currently pending in the United States district Court
for the Eastern District of New York (the "Attorney General Action"). Based upon
public filings made in the Attorney General Action, the Company believes that
one defendant, CIBA Vision Corporation, has entered into a proposed settlement
agreement pursuant to which it has agreed to pay $5 million into a settlement
fund, agreed to provide rebates and coupons to consumers and agreed to begin to
sell soft contact lenses to direct marketers. Since this settlement agreement
was announced, the Company has become an authorized distributor of CIBA Vision's
contact lenses and can purchase such lenses at wholesale level prices.
As a result of some manufacturers' refusal to sell to direct marketers, the
Company is not an authorized dealer for many of the products which it sells. In
addition, the Company believes that the price which it pays for certain products
is sometimes higher than those paid by eye care practitioners, retail chains and
mass merchandisers, who are able to buy directly from the manufacturers of such
lenses. Although the Company has been able to obtain most contact lens brands at
competitive prices in sufficient quantities on a regular basis, there can be no
assurance that the Company will not encounter difficulties in the future,
particularly in light of the Company's anticipated growth. The inability of the
Company to obtain sufficient quantities of contact lenses at competitive prices
would have a material adverse effect on the Company's business, financial
condition and results of operations.
Although the Company seeks to reduce its reliance on any one supplier by
establishing relationships with a number of distributors and other sources, the
Company purchased from a single distributor approximately 40%, 47% and 38% of
its contact lens inventory in fiscal 1997, 1998 and 1999, respectively. The
Company's top three suppliers accounted for approximately 72%, 70% and 68% of
the Company's inventory purchases in fiscal 1997, 1998 and 1999, respectively.
The Company believes that substantially all of its suppliers are not authorized
by contact lens manufacturers to distribute their products. The Company does not
have written agreements with substantially all of its suppliers. The Company
continually seeks to establish new relationships with potential suppliers in
order to be able to obtain adequate inventory at competitive prices.
Competition
The retail sale of contact lenses is a highly competitive and fragmented
industry. Traditionally, contact lenses were almost exclusively sold to
customers by eye care practitioners in connection with providing them an eye
9
examination. Competition for patients and the revenue related to providing them
contact lenses significantly increased as optical chains and large discount
retailers began providing optical services and has further intensified with the
entry of direct marketers such as the Company. The Company believes that the eye
care profession suffers from a surplus of eye care practitioners, and that the
resulting competitive pressure has been exacerbated by the increased prevalence
of retail optical chains, mass merchandisers and direct marketers. Consequently,
the competition amongst eye care practitioners to acquire customers and the
competition to provide replacement lenses to such customers has intensified.
The Company's principal competitors include ophthalmologists and
optometrists in private practice. The Company also competes with national
optical chains, such as Cole Vision, LensCrafters and National Vision
Association and mass merchandisers, such as Wal-Mart, Sam's and Costco. In
addition, the Company competes with other direct marketers of contact lenses.
The Company may face increased competition in the future from new entrants in
the direct marketing business, which may include national optical chains and
mass merchandisers, some of which may have significantly greater resources than
the Company.
The Company believes that many of its competitors, including most eye care
practitioners, national optical chains and mass merchandisers, have direct
supply arrangements with contact lens manufacturers, which in some cases affords
such competitors with better pricing terms and access to supply. In addition,
some of the competitors are significantly larger in overall revenues and have
significantly greater resources than the Company. The Company believes that the
principal basis of competition in the industry include price, product
availability, customer service and consumer awareness.
Government Regulation
Federal Regulation. Contact lenses are regulated by the FDA as "medical
devices." The FDA classifies medical devices as Class I, Class II or Class III
and regulates them to varying degrees, with Class I medical devices subject to
the least amount of regulation and Class III medical devices subject to the most
stringent regulations. Rigid gas permeable and soft contact lenses are
classified as Class II medical devices if intended only for daily wear and as
Class III medical devices if intended for extended wear. These regulations
generally apply only to manufacturers of contact lenses, and therefore do not
directly impact the Company. Federal regulations also require the labels on
"medical devices" to contain adequate instructions for their safe and proper
use. However, there is an exemption from this requirement for medical devices
the use of which is not safe except under the supervision of a practitioner
licensed by law to direct the use of such device. Devices which fall in this
exception must contain as part of their labeling the statement "Caution: Federal
law restricts this device to sale by or on the order of ________ (physician or
other licensed practitioner)," the blank to be filled in with the word physician
or other practitioner authorized by the law of the state in which the
practitioner practices to use or order the use of the device. The FDA considers
contact lenses to qualify for this labeling exemption; however, a device bearing
this legend that is dispensed without a prescription may be considered
misbranded by the FDA. Potential penalties for misbranding include warning
letters from the FDA, seizure, injunction, civil penalties, or prosecution. To
date, the FDA has not taken any such action against the Company.
State Regulation. The sale and delivery of contact lenses to the consumer
is subject to state laws and regulations. The Company sells to customers in all
50 states and each sale is likely to be subject to the laws of the state where
the customer is located. The laws and regulations governing the sale and
delivery of contact lenses vary from state to state, but generally can be
classified in five categories: (i) laws that require contact lenses only be
dispensed pursuant to a prescription; (ii) laws that require the dispenser to be
licensed by the state as an optometrist, ophthalmologist or other professional
authorized to dispense lenses; (iii) laws that require lenses be dispensed only
in a face-to-face transaction; (iv) laws with requirements that are unclear or
do not specifically address the sale and delivery of contact lenses and (v) laws
that the Company believes place no restrictions on the dispensing of replacement
contact lenses. Many of the states requiring that contacts be dispensed in face-
to-face meetings or by a person licensed by such state to dispense lenses also
require that lenses only be dispensed pursuant to a valid prescription.
10
The laws and regulations in a significant number of states, including most
of the states wherein a large portion of the Company's sales are concentrated,
require that contact lenses only be sold to a consumer pursuant to a valid
prescription. In some states, satisfying this prescription requirement obligates
the dispenser only to verify the customer's prescription with the customer's
prescriber, while other states specifically require that a written prescription
be obtained before providing the lenses to the customer. The Company's operating
practice is to attempt to obtain a valid prescription from each of its customers
or his/her eye care practitioner. If the customer does not have a copy of
his/her prescription, the Company attempts to contact the customer's doctor to
obtain a copy of or verify the customer's prescription. If the Company is unable
to obtain a copy of or verify the customer's prescription, it is the Company's
practice to complete the sale and ship the lenses to the customer based on the
prescription information provided by the customer. The Company retains copies of
the written prescriptions that it receives and maintains records of its
communications with the customer's prescriber.
The Company's ability to comply with state laws and regulations requiring a
valid prescription is hampered because the Company's customers are often unable
to get a copy of their prescription. The Company believes that optometrists,
ophthalmologists and other contact lens prescribers have historically refused to
release copies of a patient's contact lens prescription to the patient. In
addition, such providers have refused to release or verify prescriptions at the
request of direct marketers. Federal law requires prescribers to release
prescriptions for eyeglasses to a patient, but the issue of whether or not a
prescriber must release a contact lens prescription to the patient, or at the
patients request, is currently governed by state law. The Company believes there
are more than 20 states that require contact lens prescribers to release the
prescriptions for contact lenses to the patient. However, even in states with a
mandatory release law, the Company believes that many prescribers continue to
refuse to release prescriptions to their patients or to direct marketers of
contact lenses, including the Company.
In addition to requiring a valid prescription, a substantial number of
states also require that contact lenses only be dispensed by a person licensed
to do so under that state's laws. A dispenser may be required to be licensed as
an optometrist, ophthalmologist, optician, ophthalmic dispenser or contact lens
dispenser, depending on which state the customer is located in. Neither the
Company nor any of its employees is a licensed or registered dispenser of
contact lenses in many of the states in which the Company does business. The
laws in a small number of states effectively prohibit the sale of contacts
through the mail by requiring that a person licensed under that state's law to
dispense contacts be in personal attendance at the place of sale. In addition,
there are several states in which the laws and regulations do not specifically
address the issue of who may dispense contact lenses or are unclear with respect
to the requirements for dispensing lenses. Generally, these laws are older and
were written before mail order and other distributors began selling contact
lenses. Lastly, the Company believes that the laws in a small number of states
do not require that replacement contact lenses be dispensed pursuant to a
prescription or only by a professional licensed in such state.
Any action brought against the Company based on its failure to comply with
applicable state laws and regulations could result in significant fines to the
Company, the Company being prohibited from making sales in a particular state,
the Company being required to comply with such laws or could constitute a
misdemeanor. Such required compliance could result in: (i) increased costs to
the Company; (ii) the loss of a substantial portion of the Company's customers
for whom the Company is unable to obtain or verify their prescription; (iii) the
inability to sell to customers at all in a particular state if the Company
cannot comply with such state's laws and (iv) misdemeanor penalties and civil
fines. The occurrence of any of the above results could have a material adverse
effect on the Company's ability to sell contact lenses and to continue to
operate profitably. Furthermore, there can be no assurance that states will not
enact or impose laws or regulations that prohibit mail order dispensing of
contact lenses or otherwise impair the Company's ability to sell contact lenses
and continue to operate profitably. The Company has not obtained an opinion of
counsel with regard to its compliance with applicable state laws and regulations
or the enforceability of such state laws and regulations, and information
contained herein regarding the Company's compliance with applicable state laws
and regulations should not be construed as being based on an opinion of counsel.
The Company has in the past, and intends in the future, to vigorously defend any
actions brought against it.
An FTC rule adopted in 1978 requires eye care practitioners to provide
their patients with a copy of their eyeglass prescription (the "Prescription
Release Rule"). The Prescription Release Rule was adopted based on a
11
finding by the FTC that consumers were being deterred from comparison shopping
for eyeglasses because eye care practitioners refused to release prescriptions.
In April 1997, the FTC published a request for comments regarding the
Prescription Release Rule with respect to whether the rule should be expanded to
require the release of contact lens prescriptions, whether consumers have
historically been able to get their contact lens prescriptions upon request and
whether the refusal to release contact lens prescriptions has benefits
justifying such refusal. The FTC undertook a similar review in 1985 and again in
1995, both times concluding that the rule should not be expanded to require the
release of contact lens prescriptions.
From time to time the Company receives notices, inquiries or other
correspondence from states or their regulatory bodies charged with overseeing
the sale of contact lenses. The Company's practice is to review such notices
with legal counsel to determine the appropriate response on a case-by-case
basis.
It is the opinion of management, after discussion with legal counsel, that
the Company is taking the appropriate steps to address the various notices
received. See "Legal Proceedings" for formal complaints filed against the
Company concerning its business practices.
Intellectual Property
The Company conducts its business under the trade name and service marks
"1-800 CONTACTS." The Company has taken steps to register and protect these
marks and believes that such marks have significant value and are an important
factor in the marketing of its products. The Company leases certain assets,
including the right to use the 1-800 CONTACTS telephone number, from an
individual pursuant to a non-cancelable lease. The lease expires in June 2000,
at which time the Company has the option to purchase such assets for $17,500.
However, under applicable FCC rules and regulations, the Company does not have
and cannot acquire any property rights to the telephone number. The Company does
not expect to lose the right to use the 1-800 CONTACTS number, however, there
can be no assurance in this regard. The loss of the right to use the 1-800
CONTACTS number would have a material adverse effect on the Company's business,
financial condition and results of operations. In addition, the Company has
obtained the rights to international equivalents for the 1-800 CONTACTS phone
number; however, like the 1-800 CONTACTS number, the Company does not have and
cannot acquire any property rights in these telephone numbers.
The Company also has obtained the rights to various Internet addresses,
including but not limited to www.1800contacts.com, www.contacts.com and
www.contactlenses.com. As with phone numbers, the Company does not have and
cannot acquire any property rights in Internet addresses. The Company does not
expect to lose the ability to use the Internet addresses; however, there can be
no assurance in this regard and such loss would have a material adverse effect
on the Company's financial position and results of operations.
Employees
As of January 1, 2000 the Company employed 327 persons, of which 248 were
full-time employees and 79 were part-time employees. None of the Company's
employees is covered by a collective bargaining agreement. The Company believes
its relationship with its employees to be good.
Item 2. Properties.
All of the Company's management and call center operations are conducted
through approximately 32,000 square feet of leased space located in Draper,
Utah, a suburb of Salt Lake City. The lease relating to this facility expires in
2005.
In October 1998, the Company entered into a lease agreement to occupy
approximately 35,000 square feet of space for its new distribution center
located near the Salt Lake City, Utah airport. The lease for the new
distribution center expires in December 2001. The Company began operations in
this distribution center in February of 1999. The
12
Company sub-leased approximately 10,000 square feet of warehouse space that was
formerly used as its distribution center to another party for the duration of
the lease term, which expired in January 2000.
Item 3. Legal Proceedings.
On July 14, 1998, Craig S. Steinberg, O.D., a professional corporation
d.b.a. City Eyes Optometry Center, filed a purported class action on behalf of
all California optometrists against the Company and its directors in Los Angeles
County Superior Court. The complaint alleged three separate causes of action for
unfair competition: (i) selling contact lenses to California residents without
being registered, (ii) selling contact lenses to California residents without
verifying the prescription and (iii) failing to disclose in its advertising that
it sells "sample" lenses not intended for sale to the public. The complaint
requested various forms of relief, including damages of an unspecified amount,
attorney's fees and a permanent injunction. The Company removed the action to
the United States District Court for the Central District of California.
Plaintiff and another California optometrist, Ellis Miles, (collectively
"plaintiffs") filed a First Amended Complaint ("FAC") against the Company and
its directors on or about September 3, 1998 purporting to sue on behalf of the
public under California's unfair competition statute rather than as a class
action on behalf of optometrists. Although the substantive claims for unfair
competition remain the same, the FAC seeks injunctive relief and restitution
rather than damages. Plaintiffs also dismissed the Company's directors as
defendants, leaving the Company as the only remaining defendant. The Company has
filed its Answer to the FAC and intends to vigorously defend itself in this
action. The parties agreed to remand the case to Los Angeles County Superior
Court based upon plaintiffs' stipulation that they no longer seek monetary
relief on behalf of themselves or other optometrists. The Court remanded the
case to Los Angeles County Superior Court in August 1999.
On April 7, 1999 the Kansas Board of Examiners in Optometry commenced
a civil action against the Company. The action was filed in the District Court
of Shawnee County, Kansas, Division 6. The complaint was amended on May 28,
1999. The amended complaint alleges that on "one or more occasions" the Company
sold contact lenses in the state of Kansas without receipt or verification of a
prescription. The amended complaint seeks the issuance of an order enjoining the
Company from further engaging in the alleged activity. The amended complaint
does not seek monetary damages. In response to the amended complaint, the
Company has retained counsel and intends to vigorously defend itself in this
action. The Company has filed an answer to the amended complaint. In addition,
the Company has filed a motion for summary judgment, asking the court to dismiss
the action and enter judgment in its favor.
On or about November 2, 1999, the Company received a complaint from the
Texas Optometry Board seeking injunctive relief and civil penalties against the
Company for alleged violation of the Texas Optometry Act. The complaint alleges
that the Company (1) failed to state explicitly in its advertisements that a
written prescription is required to purchase contact lenses and (2) dispensed
contact lenses without such a prescription. Just prior to becoming aware of the
complaint, the Company had discussed and resolved these very issues with the
Texas Department of Health ("TDH"), the regulatory authority in Texas for
sellers of contact lenses like the Company. The Company entered into a written
settlement agreement with the TDH effective February 29, 2000. The Company has
filed an answer to the complaint and plans to vigorously defend this action
should the Texas Optometry Board still choose to pursue it.
From time to time the Company is involved in other legal matters generally
incidental to its business.
It is the opinion of management, after discussion with legal counsel, that
the ultimate dispositions of these matters will not have a material impact on
the financial condition, liquidity or results of operations of the Company.
Item 4. Submission of Matters to a Vote of Security Holders.
No matters were submitted to a vote of the Company's security holders in
the fourth quarter of fiscal 1999.
13
Item 4A. Executive Officers of the Registrant
The information under this Item is furnished pursuant to Instruction 3 to
Item 401(b) of Regulation S-K. Executive officers of the Company are elected by
and serve at the discretion of the Board of Directors.
Name Age Position
- --------------------------------------------------------------------------------
Jonathan C. Coon.................... 30 President, Chief Executive
Officer and Director
John F. Nichols..................... 39 Vice President, Sales and
Director
Scott S. Tanner..................... 39 Chief Operating Officer, Chief
Financial Officer and Director
Kevin K. McCallum................... 38 Vice President, Marketing
Jonathan C. Coon is a co-founder of the Company and currently serves as
President and Chief Executive Officer and Director. Mr. Coon received his
Bachelor's Degree from Brigham Young University in 1994. Mr. Coon has seven
years of experience in the contact lens distribution industry.
John F. Nichols is a co-founder of the Company and currently serves as Vice
President, Sales and Director. Mr. Nichols is a certified optician in the State
of California and was the owner of the Discount Lens Club from 1991 until
February 1995. Mr. Nichols worked with Bausch & Lomb as a Senior Sales
Representative from 1989 to 1991.
Scott S. Tanner has served as the Chief Operating Officer of the Company
since November 1999 and as the Chief Financial Officer and Director since
November 1997. Prior to joining the Company, Mr. Tanner served as the Chief
Financial Officer of Country Club Foods, Inc., a Utah-based snack food
manufacturer and distributor, from 1995 to 1997. Prior thereto, Mr. Tanner
served in various management positions at Apple Computer, Inc. from 1988 to 1995
and worked at Peat, Marwick & Mitchell & Co. in San Francisco from 1984 to 1986.
Mr. Tanner received a Bachelor's Degree from Stanford University and an MBA from
Harvard University. Mr. Tanner served as an executive officer of Country Club
Foods, Inc. at the time it filed a voluntary petition under Chapter 11 of the
United States Bankruptcy Code in November 1995.
Kevin K. McCallum has served as Vice President, Marketing of the Company
since March 2000. Prior to joining the Company, Mr. McCallum, a 9-year veteran
of Procter & Gamble from 1991 to 2000, served as a Director of Marketing for
several of Proctor & Gamble's global laundry and cleaning brands. Prior thereto,
Mr. McCallum served as a line officer in the U.S. Navy from 1984 to 1989. Mr.
McCallum received a Bachelor's Degree from the United States Naval Academy and
an MBA from the Georgia Institute of Technology.
14
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder
Matters.
Market Information
The Common Stock is traded on the Nasdaq National Market ("Nasdaq")
under the symbol "CTAC." The Common Stock commenced trading on February 10,
1998. The following table sets forth the high and low closing sale prices per
share for the Common Stock as reported by the Nasdaq for the periods presented:
High Low
------ -----
Year ended January 2, 1999:
First Quarter (beginning February 10, 1998)... $20.875 $13.563
Second Quarter................................ 19.875 13.000
Third Quarter................................. 16.375 5.625
Fourth Quarter................................ 18.000 4.750
Year ended January 1, 2000:
First Quarter................................. 17.750 10.625
Second Quarter................................ 22.750 16.750
Third Quarter................................. 28.500 16.375
Fourth Quarter................................ 30.875 23.000
Holders
As of March 17, 2000, there were approximately 169 holders of record of
Common Stock. The Company believes that it has a significantly larger number of
beneficial holders of Common Stock. A recently reported last sale price of the
Common Stock on the Nasdaq is set forth on the cover page of this report.
Dividends
The Company anticipates that all of its future earnings will be
retained to finance the expansion of its business. Any future determination to
pay dividends will be at the discretion of the Company's Board of Directors and
will depend upon among other factors, the Company's results of operations,
financial condition, capital requirements and contractual restrictions. In
addition, the Credit Facility (as hereinafter defined) prohibits the Company
from paying any cash dividends on the Common Stock.
Immediately prior to the consummation of its initial public offering,
the Company entered into an agreement to distribute to its existing stockholders
an amount equal to the Company's retained earnings from its formation date
through the date of the termination of the Company's S corporation status. The
distribution (net of notes receivable from stockholders of $599,689) was in the
form of promissory notes, totaling $982,995. These promissory notes were paid in
full during the first quarter of fiscal 1998. Subsequent to this S corporation
distribution, the Company has not declared or paid any cash or other dividends
on its Common Stock and does not expect to pay dividends for the foreseeable
future.
Recent Sales of Unregistered Securities
No securities of the Company that were not registered under the
Securities Act have been issued or sold by the Company within the period covered
by this report.
15
Use of Proceeds from Registered Securities
A Registration Statement on Form S-1 (File No. 333-41055) (the
"Registration Statement") registering shares of the Company's Common Stock, par
value $0.01 per share, filed in connection with the Company's initial public
offering ("IPO"), was declared effective by the Securities and Exchange
Commission on February 9, 1998. The IPO commenced on the effective date and
terminated after all the securities registered under such Registration Statement
were sold.
Pursuant to the Registration Statement, the Company sold 2,213,750
shares of Common Stock (including 288,750 shares sold pursuant to the
underwriter's over-allotment option) for its own account, for an aggregate
offering price of $27,671,875, and 316,250 shares of Common Stock (including
41,250 shares sold pursuant to the underwriter's over-allotment option) for the
account of the selling stockholder for an aggregate offering price of
$3,953,125. The managing underwriters of the IPO were McDonald & Company
Securities, Inc. and Morgan Keegan & Company, Inc.
In connection with the IPO, the Company incurred expenses of
$2,821,766, including underwriting discounts and commissions of $1,937,031 and
other expenses of $884,735. After such expenses, the Company's net proceeds from
the IPO were approximately $24.9 million. Since completion of the IPO, through
January 1, 2000, the approximate amounts of net offering proceeds used by the
Company were as follows: (i) $1.0 million for the payment of the S Corporation
distribution, net of notes receivable from stockholders, (which was paid to the
shareholders who were shareholders of the Company prior to the IPO, some of whom
are directors and officers of the Company); (ii) $3.0 million for the repayment
of debt (a portion of which was repaid to a director of the Company); (iii) $1.9
million to exercise an option to purchase 442,651 shares of Common Stock from a
director of the Company (iv) $2.3 million for capital expenditures and (v) $16.7
million for general corporate purposes, including advertising, inventory and
other working capital.
16
Item 6. Selected Financial Data.
The financial data as of and for the eleven month period ended December
31, 1995, and for the years ended December 31, 1996 and 1997, January 2, 1999
("fiscal 1998") and January 1, 2000 ("fiscal 1999") have been derived from the
audited financial statements of the Company. The financial data as of and for
the one month period ended January 1, 1995 is derived from the audited financial
statements of the Predecessor. The selected financial data below should be read
in conjunction with the financial statements and the notes thereto of the
Predecessor and the Company and "Management's Discussion and Analysis of
Financial Condition and Results of Operations." Such information for the three
years ended January 1, 2000 is included as part of this Form 10-K.
Predecessor(1) Company
------------- ------------------------------------------------------------------------------
One Month February 1, Year Year Year Year
Ended 1995 to Ended Ended Ended Ended
January 31, December 31, December 31, December 31, January 2, January 1,
1995 1995 1996 1997 1999 2000
------------- -------------------------------------------------------------------------------
Statement of Operations Data:
Net sales $ 21,552 $ 587,918 $ 3,628,296 $21,115,314 $59,875,941 $98,524,906
Cost of goods sold 13,069 355,466 2,215,306 14,024,523 37,315,413 59,415,723
----------- --------- ----------- ----------- ----------- -----------
Gross profit 8,483 232,452 1,412,990 7,090,791 22,560,528 39,109,183
----------- --------- ----------- ----------- ----------- -----------
Advertising expense - 106,339 468,146 3,485,619 24,206,857 20,238,267
Other selling, general and
administrative expenses 9,369 211,559 573,166 2,459,602 7,334,668 12,001,536
----------- --------- ----------- ----------- ----------- -----------
Total selling, general and
administrative expenses 9,369 317,898 1,041,312 5,945,221 31,541,525 32,239,803
----------- --------- ----------- ----------- ----------- -----------
Income (loss) from operations (886) (85,446) 371,678 1,145,570 (8,980,997) 6,869,380
Other income (expense), net - (9,105) (23,315) (113,162) 445,710 (40,552)
----------- --------- ----------- ----------- ----------- -----------
Income (loss) before benefit
(provision) for income taxes (886) (94,551) 348,363 1,032,408 (8,535,287) 6,828,828
Benefit (provision)
for income taxes(2) - 36,402 (134,120) (397,477) 642,679 (701,250)
----------- --------- ----------- ----------- ----------- -----------
Net income (loss)(2) $ (886) $ (58,149) $ 214,243 $ 634,931 $(7,892,608) $ 6,127,578
=========== ========= =========== =========== =========== ===========
Basic net income (loss)
per common share $ 0.14 $ (1.27) $ 0.97
=========== =========== ===========
Diluted net income (loss)
per common share(3) $ 0.13 $ (1.27) $ 0.96
=========== =========== ===========
Balance Sheet Data (at the end
of period):
Working capital (deficit) $ 11,762 $ (12,093) $ (204,080) $(1,621,522) $11,844,537 $14,837,002
Total assets 23,687 243,845 1,156,646 7,781,064 18,016,136 25,053,572
Total debt (including current
portion) - 207,864 370,705 2,759,837 66,877 30,166
Stockholders' equity (deficit) 21,032 (28,412) 146,359 854,358 14,832,825 18,700,709
____________________
(1) The financial and operating data of the Predecessor was derived from the
financial and operating data of the Discount Lens Club.
(2) Prior to February 9, 1998, the Company operated as an S corporation and was
not subject to federal and certain state income taxes. The benefit
(provision) for income taxes and net income (loss) for the periods prior to
February 9, 1998 reflect income taxes on a pro forma basis as if the
Company had been a C corporation.
(3) Diluted net income (loss) per common share is based on the weighted average
shares of Common Stock and Common Stock equivalents outstanding, including
actual shares outstanding and shares deemed to be outstanding using the
treasury stock method. The shares deemed to be outstanding for 1997 include
the number of shares sufficient to fund the S corporation distribution of
approximately $983,000. See "Dividends" under Item 5 of Part II of this
Form 10-K.
17
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
Overview
The Company is a leading direct marketer of replacement contact
lenses. The Company was formed in February 1995 and is the successor to the mail
order business founded by the Company's Vice President of Sales in March 1991.
Since its formation, the Company's net sales have grown rapidly, from $3.6
million in fiscal 1996 to $98.5 million in fiscal 1999, with Internet sales
having grown from an insignificant amount in fiscal 1996 to approximately $18.7
million in fiscal 1999.
Prior to consummation of its IPO in February 1998, the Company
operated as an S corporation and, therefore, was not subject to federal or
certain state income taxes. In connection with the consummation of the IPO, the
Company revoked its S Corporation status and became subject to federal and state
income taxes. As a result, the Company recorded a net deferred tax liability and
the related deferred tax provision of approximately $791,000 for the tax effect
of the differences between financial statement and income tax basis of assets
and liabilities that existed at the termination date of the S corporation
election.
Effective January 1, 1998, the Company changed from a calendar year
end to a 52/53 week year ending on the Saturday nearest to December 31. Due to
this change, fiscal year 1998 represents 52 weeks and 3 days, covering the
period January 1, 1998 to January 2, 1999.
During fiscal 1998, the Company began utilizing a variety of new
advertising vehicles, including an extensive television marketing campaign, new
print vehicles, Internet and radio spots. As direct-response information became
available during the fourth quarter of 1998, the Company determined that its
ability to track individual sales to specific advertising campaigns was
restricted as a result of the variety of new advertising vehicles utilized.
Therefore, beginning in the fourth quarter of 1998, the Company began expensing
all advertising costs, including all direct-mail advertising costs, when the
advertising first takes place. As a result, quarter-to-quarter comparisons are
impacted within and between quarters by the timing of television, radio and
Internet advertisements and by the mailing of the Company's printed
advertisements. The volume of mailings and other advertising may vary in
different quarters and from year to year depending on the Company's assessment
of prevailing market opportunities.
The sale and delivery of contact lenses are governed by both federal
and state laws and regulations. The Company sells to customers in all 50 states,
and each sale is likely to be subject to the laws of the state where the
customer is located. The Company's operating practice is to attempt to obtain a
valid prescription from each of its customers or his/her eye care practitioner.
If the customer does not have a copy of his/her prescription, the Company
attempts to contact the customer's doctor to obtain a copy of or verify the
customer's prescription. If the Company is unable to obtain a copy of or verify
the customer's prescription, it is the Company's practice to complete the sale
and ship the lenses to the customer based on the prescription information
provided by the customer. The Company retains copies of the written
prescriptions that it receives and maintains records of its communications with
the customer's prescriber. See "Government Regulation" under Item 1 of Part I of
this Form 10-K.
18
Results of Operations
The following table presents the Company's results of operations
expressed as a percentage of net sales for the periods indicated:
Year Ended
------------------------------------------------------
December 31, January 2, January 1,
1997 1999 2000
--------------- --------------- --------------
Net sales 100.0% 100.0% 100.0%
Cost of goods sold 66.4 62.3 60.3
--------------- -------------- --------------
Gross profit 33.6 37.7 39.7
--------------- -------------- --------------
Advertising expense 16.5 40.4 20.5
Other selling, general and administrative expenses 11.7 12.3 12.2
--------------- -------------- --------------
Total selling, general and administrative expenses 28.2 52.7 32.7
--------------- -------------- --------------
Income (loss) from operations 5.4 (15.0) 7.0
Other income (expense), net (0.5) 0.7 (0.1)
--------------- -------------- --------------
Income (loss) before benefit (provision) for income taxes 4.9 (14.3) 6.9
Benefit (provision) for income taxes (1.9) 1.1 (0.7)
--------------- -------------- --------------
Net income (loss) 3.0% (13.2)% 6.2%
=============== ============== ==============
Year Ended January 1, 2000 Compared to Year Ended January 2, 1999
Net sales. Net sales for the year ended January 1, 2000 increased 64%
to $98.5 million from $59.9 million for the year ended January 2, 1999. The
Company believes that this increase in net sales reflects some of the benefits
of its increased television and Internet advertising. Internet sales for fiscal
1999 were approximately $18.7 million or 19% of net sales as compared to
approximately $2.3 million or 3.8% of net sales for fiscal 1998. The Company is
also realizing the benefits of repeat sales from a growing customer base. Repeat
sales for fiscal 1999 increased 138% to $53.8 million, or 54.6 % of net sales,
from $22.6 million, or 37.7 % of net sales, for fiscal 1998. Although the
Company believes that sales will increase substantially in fiscal 2000 as
compared to fiscal 1999, the Company expects the rate of growth in net sales to
decrease.
Gross profit. Gross profit as a percentage of net sales increased to
39.7% for the year ended January 1, 2000 from 37.7% for the year ended January
2, 1999. With the increase in sales, the Company continues to obtain inventory
at lower costs because of purchase volumes and more competitive pricing
resulting from access to more vendors. In addition, the Company believes that
enhanced inventory management techniques have also had a positive impact on
gross profit.
Advertising expense. Advertising expense for the year ended January 1,
2000 decreased $4.0 million, or 16%, from the year ended January 2, 1999. As a
percentage of net sales, advertising expense decreased to 20.5% for fiscal 1999
from 40.4% for fiscal 1998. The Company plans to increase advertising spending
in fiscal 2000 by approximately 15% from its fiscal 1999 spending. However, if
opportunities present themselves, the Company may increase advertising spending
above currently planned levels.
Beginning in the fourth quarter of 1998, the Company began expensing
all advertising costs, including all direct-mail advertising costs, when the
advertising first takes place. The Company also determined that for previously
deferred advertising costs the period during which the future benefits were
expected to be received was
19
shortened. Accordingly, the Company amortized the balance of deferred
advertising costs at the beginning of the fourth quarter of 1998 over five
months.
Other selling, general and administrative expenses. Other selling,
general and administrative expenses for the year ended January 1, 2000 increased
$4.7 million, or 64%, from the year ended January 2, 1999. As a percentage of
net sales, other selling, general and administrative expenses decreased slightly
to 12.2% for fiscal 1999 from 12.3% for fiscal 1998.
Other income (expense), net. Other income (expense) decreased to
approximately ($41,000) for the year ended January 1, 2000 from approximately
$446,000 for the year ended January 2, 1999. During fiscal 1999, the Company
expensed approximately $293,000 in costs related to the Company's cancelled
common stock offering. In addition, interest income decreased due to lower cash
balances throughout the year. For fiscal 1999, the decrease in interest income
was offset by the decrease in interest expense as the majority of the Company's
debt was paid off during the first quarter of fiscal 1998 with proceeds from the
IPO.
Income taxes. The provision for income taxes for the year ended January
2, 1999 has been determined assuming the Company had been taxed as a C
Corporation for federal and state income tax purposes for the entire year. The
Company's effective tax rate for the year ended January 1, 2000 was
approximately 10.3%, which reflects changes in the valuation allowance as a
result of utilizing all of its tax operating loss carryforwards. As of January
1, 2000, the Company had not provided a valuation allowance on deferred tax
assets. The Company's future effective tax rate will depend upon future taxable
income, including the exercise of common stock options. The Company anticipates
that its fiscal 2000 effective income tax rate will be approximately 38%.
Year Ended January 2, 1999 Compared to Year Ended December 31, 1997
Net sales. Net sales for the year ended January 2, 1999 increased 184%
to $59.9 million from $21.1 million for the year ended December 31, 1997. The
Company believes that this increase in net sales reflects some of the benefits
of its increased television and Internet advertising. The Company is also
realizing the benefits of repeat sales from a growing customer base. Repeat
sales in fiscal 1998 reached $22.6 million, exceeding total net sales for fiscal
1997 of $21.1 million.
Gross profit. Gross profit as a percentage of net sales increased to
37.7% for the year ended January 2, 1999 from 33.6% for the year ended December
31, 1997. With the increase in sales, the Company was able to obtain inventory
at lower costs because of purchase volumes and more competitive pricing
resulting from access to more vendors.
Advertising expense. Advertising expense for the year ended January 2,
1999 increased $20.7 million, or 594%, from the year ended December 31, 1997. As
a percentage of net sales, advertising expense was 40.4% in fiscal 1998 as
compared to 16.5% in fiscal 1997.
Using the proceeds from its IPO, the Company significantly expanded its
sales and marketing activities in fiscal 1998 by utilizing a variety of new
advertising vehicles, including an extensive television marketing campaign, new
print vehicles, Internet and radio spots. Beginning in the fourth quarter of
1998, the Company began expensing all advertising costs, including all
direct-mail advertising costs, when the advertising first takes place. The
Company also determined that for previously deferred advertising costs the
period during which the future benefits were expected to be received was
shortened. Accordingly, the Company amortized the balance of deferred
advertising costs at the beginning of the fourth quarter of 1998 over five
months.
Other selling, general and administrative expenses. Other selling,
general and administrative expenses for the year ended January 2, 1999 increased
$4.9 million, or 198%, from the year ended December 31, 1997. As a
20
percentage of net sales, other selling, general and administrative expenses
increased to 12.3% in fiscal 1998 from 11.7% in fiscal 1997.
Other income (expense), net. The increase in other income (expense) is
due to interest income from funds received in the IPO in excess of the interest
expense incurred prior to the IPO.
Income taxes. The provision for income taxes has been determined
assuming the Company had been taxed as a C Corporation for federal and state
income tax purposes for the year.
Liquidity and Capital Resources
The Company historically funded its growth through a combination of
funds generated from operations and borrowings. During February 1998, the
Company issued 2,213,750 shares of common stock in connection with its IPO,
which included 288,750 shares pursuant to the underwriters' over-allotment
option. The proceeds received from the IPO, net of underwriting commissions and
offering costs, totaled approximately $24.9 million. The Company used these
funds to enhance growth through increased advertising expenditures and to
increase inventory levels in anticipation of future sales. In order to help
ensure sufficient supply of inventory, the Company generally carries a higher
level of inventory than if it were able to purchase directly from all contact
lens manufacturers.
For the years ended January 1, 2000, January 2, 1999 and December 31,
1997, net cash provided by (used in) operating activities was approximately $5.3
million, $(13.8) million and $(1.0) million, respectively. During fiscal 1999,
cash was provided primarily by net income and increases in accounts payable and
accrued liabilities offset by an increase in inventories. For fiscal 1998 and
1997, cash was used primarily to fund the Company's growth as the Company
increased inventory levels and advertising spending.
The Company used approximately $2.3 million, $2.0 million and $0.9
million for investing activities in fiscal 1999, 1998 and 1997, respectively.
The majority of these amounts relate to capital expenditures for infrastructure
improvements. Capital expenditures for fiscal 1999 were approximately $1.0
million. The Company began operations in its new distribution center in February
1999. This new facility is several times the size of the prior distribution
center and is strategically located near the Salt Lake City, Utah airport. In
addition, on May 4, 1999, the Company acquired certain assets of Contact Lenses
Online, Inc. ("CLO") for $1.2 million in cash, of which $0.9 million was paid
during fiscal 1999. The assets acquired include the Internet address,
www.contactlenses.com, various telephone numbers and CLO's customer database.
The Company also acquired additional Internet addresses for approximately $0.3
million during fiscal 1999. Capital expenditures for fiscal 1998 were
approximately $2.0 million. The Company completed the move into its new call
center during July 1998. In conjunction with the move, the Company acquired new
telecommunications systems and enhanced its management information systems. For
fiscal 1997, approximately $0.3 million was used to fund increases in notes
receivable from shareholders. The Company received payment in full on the notes
receivable during the first quarter of 1998, as the notes were netted with the S
Corporation distribution paid during the period. The capital expenditures for
fiscal 1997 were approximately $0.5 million. The Company anticipates additional
capital expenditures for infrastructure as it continues to expand and improve
operating facilities, telecommunications systems and management information
systems in order to handle future growth. The Company presently anticipates that
capital expenditures in fiscal 2000 will be approximately $1.4 million.
As of January 1, 2000, the Company had entered into commitments to
purchase approximately $15 million of broadcast advertising from October 1999
through September 2000. The Company can cancel up to 50 percent of the total
amount committed. As of January 1, 2000, the Company has cancelled approximately
$4 million of the amount committed. In addition, the Company has entered into
certain noncancelable commitments with cooperative mail companies that will
require the Company to pay approximately $4.2 million for direct mail services
through December 31, 2000.
21
During fiscal 1999, the Company used approximately $2.4 million for
financing activities. The Company repurchased a total of 185,000 shares of its
common stock for a total cost of $2,530,286. This was offset slightly by
proceeds from the exercise of common stock options. For fiscal 1998, net cash of
approximately $19.6 million was provided by financing activities, resulting from
net proceeds received from the IPO, offset by repayments of debt, distributions
to stockholders (S corporation distribution) and repurchase of stock. For fiscal
1997, net cash of approximately $1.9 million was provided by financing
activities. These amounts primarily represent borrowings from a stockholder of
the Company and borrowings under the Credit Facility.
On October 13, 1998, the Company's Board of Directors authorized a
repurchase of up to 500,000 shares of its common stock. A purchase of the full
amount would equal approximately 7.8 percent of the 6,430,568 shares issued. The
repurchase of common stock is subject to market conditions and is accomplished
through periodic purchases at prevailing prices on the open market, by block
purchases or in privately negotiated transactions. The repurchased shares will
be retained as treasury stock to be used for corporate purposes. On August 13,
1999, the Company reinstated the share repurchase program, which had been
suspended as of July 26, 1999. On February 17, 2000, the Company's Board of
Directors authorized an additional repurchase of up to 500,000 shares of its
common stock, bringing the total authorization to 1,000,000 shares. A purchase
of the full incremental 500,000 shares would equal approximately 7.8 percent of
the total shares issued. A purchase of the full 1,000,000 shares would equal
approximately 15.6 percent of the total shares issued. Through January 1, 2000,
the Company had repurchased 200,000 shares for a total cost of $2,611,661.
Subsequent to year end, the Company repurchased 158,000 shares for a total cost
of $4,280,588. The repurchases were funded using cash on hand.
In August 1997, the Company established a revolving credit facility,
which was most recently amended in September 1999, to provide for working
capital requirements and other corporate purposes (the "Credit Facility"). The
Credit Facility, as amended, provides for borrowings equal to the lesser of
$10.0 million or 50 percent of eligible inventory and bears interest at a
floating rate equal to the lender's prime interest rate plus 0.5 percent (9.0
percent as of January 1, 2000). As of January 1, 2000, the Company had no
outstanding borrowings under the Credit Facility. The Credit Facility is secured
by substantially all of the Company's assets and contains financial covenants
customary for this type of financing. The Credit Facility expires April 30,
2001.
The Company believes that its cash on hand, together with cash
generated from operations and the cash available through the Credit Facility,
will be sufficient to support current operations and future growth through
fiscal 2000. The Company may be required to seek additional sources of funds for
accelerated growth or continued growth after that point, and there can be no
assurance that such funds will be available on satisfactory terms. Failure to
obtain such financing could delay or prevent the Company's planned growth, which
could adversely affect the Company's business, financial condition and results
of operations.
As a result of state regulatory requirements, the Company's liquidity,
capital resources and results of operations may be negatively impacted in the
future if the Company incurs increased costs or fines, is prohibited from
selling its products in a particular state(s) or experiences losses of a
substantial portion of the Company's customers for whom the Company is unable to
obtain or verify a prescription due to the enforcement of requirements by state
regulatory agencies.
Forward-Looking Statements
Except for the historical information contained herein, the matters
discussed in this Form 10-K are forward-looking statements within the meaning of
Section 21E of the Securities Exchange Act of 1934, as amended, and Section 27A
of the Securities Act of 1933, as amended. These forward-looking statements
involve risks and uncertainties and often depend on assumptions, data or methods
that may be incorrect or imprecise. The Company's future operating results may
differ materially from the results discussed in, or implied by, forward-looking
statements made by the Company. Factors that may cause such differences include,
but are not limited to, those discussed
22
below and the other risks detailed in the Company's other reports filed with the
Securities and Exchange Commission. The words such as "believes," "anticipates,"
"expects," "future," "intends," "would," "may" and similar expressions are
intended to identify forward-looking statements. The Company undertakes no
obligation to revise any of these forward-looking statements to reflect events
or circumstances after the date hereof.
Factors That May Affect Future Results
. The Company's sales growth will not continue at historical rates and it may
encounter unforeseen difficulties in managing its future growth;
. A significant portion of the Company's sales do not comply with applicable
state laws and regulations governing the delivery and sale of contact
lenses;
. Because the Company doesn't manufacture contact lenses, it cannot ensure
that the contact lenses it sells meet all federal regulatory requirements;
. It is possible that the FDA will consider certain of the contact lenses the
Company sells to be misbranded;
. The Company currently purchases a substantial portion of its products from
unauthorized distributors and is not an authorized distributor for the
majority of the products that it sells;
. The Company obtains a large percentage of its inventory from a limited
number of suppliers, with a single distributor accounting for 40%, 47% and
38% of the Company's inventory purchases in 1997, 1998 and 1999,
respectively;
. The Company's quarterly results are likely to vary based upon the level of
sales and marketing activity in any particular quarter;
. The Company is dependent on its telephone, Internet and management
information systems for the sale and distribution of contact lenses;
. The Company has limited operating history and, as a result, there is only
limited financial information and operating information available for a
potential investor to evaluate the Company;
. The retail sale of contact lenses is highly competitive; certain of the
Company's competitors are large, national optical chains that have greater
resources than the Company has;
. The demand for contact lenses could be substantially reduced if alternative
technologies to permanently correct vision gain in popularity;
. The Company does not have any property rights in the 1-800 CONTACTS
telephone number or the Internet addresses that it uses;
. Increases in the cost of shipping, postage or credit card processing could
harm the Company's business;
. The Company's business could be harmed if it is required to collect state
sales tax on the sale of products;
. The Company faces an inherent risk of exposure to product liability claims
in the event that the use of the products it sells results in personal
injury;
23
. The Company conducts its operations through a single distribution facility;
. The Company's success is dependent, in part, on continued growth in use of
the Internet;
. Government regulation and legal uncertainties relating to the Internet and
online commerce could negatively impact the Company's business operations;
and
. Changing technology could adversely affect the operation of the Company's
website.
Seasonality
The Company does not believe that seasonality has had a material effect on
its operations.
Inflation
The Company does not believe that inflation has had a material effect on
its operations.
Item 7A. Quantitative and Qualitative Disclosure About Market Risk.
Based on its current operations, the Company believes it is not subject to
significant market risk. As of January 1, 2000, the Company did not hold any
market risk sensitive instruments and had no outstanding debt other than a
capital lease obligation of $30,166. In addition, all of the Company's
transactions are in U.S. dollars.
Item 8. Financial Statements and Supplementary Data.
The information required by Item 8 is set forth on pages F-1 through F-21
of this Form 10-K. The Company is not required to provide the supplementary
financial information required by Item 302 of Regulation S-K.
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure.
None.
PART III
Item 10. Directors and Executive Officers of the Registrant.
Information with respect to Directors of the Company is set forth in the
Proxy Statement under the heading "Election of Directors," which information is
incorporated herein by reference. Information regarding the executive officers
of the Company is included as Item 4A of Part I of this Form 10-K as permitted
by Instruction 3 to Item 401(b) of Regulation S-K. Information required by Item
405 of Regulation S-K is set forth in the Proxy Statement under the heading
"Section 16(a) Beneficial Ownership Reporting Compliance," which information is
incorporated herein by reference.
Item 11. Executive Compensation.
Information with respect to executive compensation is set forth in the
Proxy Statement under the heading "Compensation of Executive Officers," which
information is incorporated herein by reference (except for the Compensation
Committee Report on Executive Compensation and the Performance Graph).
24
Item 12. Security Ownership of Certain Beneficial Owners and Management.
Information with respect to security ownership of certain beneficial owners
and management is set forth in the Proxy Statement under the heading "Beneficial
Ownership of Common Stock," which information is incorporated herein by
reference.
Item 13. Certain Relationships and Related Transactions.
Information with respect to certain relationships and related transactions
is set forth in the Proxy Statement under the headings "Election of Directors
- -- Compensation Committee Interlocks and Insider Participation" and "Election of
Directors -- Certain Relationships and Related Transactions," which information
is incorporated herein by reference.
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.
(a) The following documents are filed as a part of this report:
1. Financial Statements. The following financial statements of the
Company and the report of the independent public accountants
thereon, are included in this Form 10-K on pages F-1 through F-
21:
Report of Independent Public Accountants
Balance Sheets as of January 2, 1999 and
January 1, 2000
Statements of Operations for the years ended
December 31, 1997, January 2, 1999 and
January 1, 2000
Statements of Stockholders' Equity for the
years ended December 31, 1997, January 2,
1999 and January 1, 2000
Statements of Cash Flows for the years ended
December 31, 1997, January 2, 1999 and
January 1, 2000
Notes to Financial Statements
2. Financial Statement Schedules. All financial statement schedules
have been omitted because they are inapplicable or the required
information is included or incorporated by reference elsewhere
herein.
3. Exhibits. The Company will furnish to any eligible stockholder,
upon written request of such stockholder, a copy of any exhibit
listed below upon the payment of a reasonable fee equal to the
Company's expenses in furnishing such exhibit.
Exhibit
No. Exhibit
------- ---------------------------------------------------------------
3.1(i) Restated Certificate of Incorporation of the Company. (1)
3.1(ii) Restated By-Laws of the Company. (1)
4.1 Form of certificate representing shares of Common Stock, $0.01
par value per share. (2)
10.1 Employment Agreement between the Company and Jonathan C. Coon.
(2) *
25
10.2 Employment Agreement between the Company and John F. Nichols.
(2) *
10.3 Employment Agreement between the Company and Scott S. Tanner.
(2) *
10.4 Employment Agreement between the Company and Robert G. Hunter.
(2) *
10.5 1-800 CONTACTS, INC. 1998 Incentive Stock Option Plan. (2) *
10.6 Lease between the Company and Draper Land Partnership II, dated
September 4, 1996, with respect to the Company's former call
center. (2)
10.7 Lease between the Company and Draper Land Partnership II, dated
November 3, 1997, with respect to the Company's call center.
(2)
10.8 Lease between the Company and Bird and Saunders, dated January
23, 1998, with respect to the Company's former warehouse. (2)
10.9 Revolving Credit Agreement between the Company and Zions First
National Bank. (2)
10.10 Indemnification Agreement between the Company and its officers
and directors. (2)
10.11 Agreement for Distribution of Retained Earnings and Tax
Indemnification between the Company and the Existing
Stockholders. (2)
10.12 Lease between the Company and Larry T. Short, dated June 27,
1995, with respect to the 1-800 CONTACTS telephone number. (2)
10.13 Stock Option Agreement. (2) *
10.14 First Amendment to Lease between the Company and Draper Land
Partnership II, dated May 25, 1998, with respect to the
Company's call center. (3)
10.15 Second Amendment to Lease between the Company and Draper Land
Partnership II, dated August 6, 1998, with respect to the
Company's call center. (3)
10.16 Lease between the Company and ProLogis Development Services
Incorporated, dated October 13, 1998, with respect to the
Company's distribution center. (3)
10.17 Revolving Credit Agreement between the Company and Zions First
National Bank, dated October 29, 1998. (3)
10.18 First Amendment to Revolving Credit Agreement between the
Company and Zions First National Bank, dated September 17,
1999.
23.1 Consent of Independent Public Accountants.
27.1 Financial Data Schedule.
--------------------
(1) Incorporated by reference to the Company's Quarterly Report on
Form 10-Q for the quarterly period ended April 4, 1998
(Commission File No. 0-23633).
(2) Incorporated by reference to the same numbered exhibit to the
Company's Registration Statement on Form S-1 (Registration No.
333-41055).
26
(3) Incorporated by reference to the same numbered exhibit to the
Company's Annual Report on Form 10-K for the year ended January
2, 1999(Commission File No. 0-23633).
* Management contract, compensatory plan or arrangement required
to be filed as an exhibit pursuant to Item 14(c) of this
report.
(b) Reports on Form 8-K.
None.
27
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized, on March 31, 2000.
1-800 CONTACTS, INC.
By: /s/ Jonathan C. Coon
--------------------
Name: Jonathan C. Coon
Title: President and Chief Executive Officer
By: /s/ Scott S. Tanner
-------------------
Name: Scott S. Tanner
Title: Chief Operating Officer and Chief
Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant in the capacities indicated on March 31, 2000.
Signature Capacity
--------- --------
/s/ Jonathan C. Coon President, Chief Executive Officer and
--------------------
Jonathan C. Coon Director (principal executive officer)
/s/ Scott S. Tanner Chief Operating Officer, Chief Financial
-------------------
Scott S. Tanner Officer and Director (principal
financial officer)
/s/ Robert G. Hunter Corporate Controller (principal
--------------------
Robert G. Hunter accounting officer)
/s/ John F. Nichols Director
-------------------
John F. Nichols
/s/ Stephen A. Yacktman Director
-----------------------
Stephen A. Yacktman
/s/ E. Dean Butler Director
------------------
E. Dean Butler
/s/ Jason S. Subotky Director
---------------------
Jason S. Subotky
28
INDEX TO FINANCIAL STATEMENTS
Page
----
Report of Independent Public Accountants................................... F-2
Balance Sheets as of January 2, 1999 and January 1, 2000................... F-3
Statements of Operations for the years ended December 31, 1997,
January 2, 1999 and January 1, 2000...................................... F-5
Statements of Stockholders' Equity for the years ended December 31, 1997,
January 2, 1999 and January 1, 2000...................................... F-6
Statements of Cash Flows for the years ended December 31, 1997,
January 2, 1999 and January 1, 2000...................................... F-7
Notes to Financial Statements.............................................. F-9
F-1
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To 1-800 CONTACTS, INC.:
We have audited the accompanying balance sheets of 1-800 CONTACTS, INC. (a
Delaware corporation) as of January 2, 1999 and January 1, 2000, and the related
statements of operations, stockholders' equity and cash flows for each of the
three fiscal years in the period ended January 1, 2000. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of 1-800 CONTACTS, INC. as of
January 2, 1999 and January 1, 2000, and the results of its operations and its
cash flows for each of the three fiscal years in the period ended January 1,
2000 in conformity with accounting principles generally accepted in the United
States.
ARTHUR ANDERSEN LLP
Salt Lake City, Utah
January 31, 2000 (except with respect to certain matters discussed in Notes 5
and 14, as to which the date is February 29, 2000)
F-2
1-800 CONTACTS, INC.
BALANCE SHEETS
ASSETS
January 2, January 1,
1999 2000
--------------- ---------------
CURRENT ASSETS:
Cash and cash equivalents $ 3,762,220 $ 4,329,088
Inventories 10,752,324 15,980,169
Deferred income taxes - 405,021
Other current assets 483,139 475,587
--------------- ---------------
Total current assets 14,997,683 21,189,865
--------------- ---------------
DEFERRED ADVERTISING COSTS 175,631 -
--------------- ---------------
PROPERTY AND EQUIPMENT, at cost:
Office, computer and other equipment 2,078,102 2,869,263
Leasehold improvements 458,341 649,447
--------------- ---------------
2,536,443 3,518,710
Less - accumulated depreciation and amortization (487,593) (1,252,404)
--------------- ---------------
Net property and equipment 2,048,850 2,266,306
--------------- ---------------
DEFERRED INCOME TAXES 642,679 116,136
--------------- ---------------
INTANGIBLE ASSETS, net of accumulated
amortization of $106,628 and $313,890, respectively 72,819 1,394,945
--------------- ---------------
OTHER ASSETS 78,474 86,320
--------------- ---------------
Total assets $ 18,016,136 $ 25,053,572
=============== ===============
The accompanying notes to financial statements
are an integral part of these balance sheets.
F-3
1-800 CONTACTS, INC.
BALANCE SHEETS (continued)
LIABILITIES AND STOCKHOLDERS' EQUITY
January 2, January 1,
1999 2000
--------------- ----------------
CURRENT LIABILITIES:
Current portion of capital lease obligation $ 36,712 $ 30,166
Acquisition payable - 300,000
Accounts payable 2,056,451 3,059,993
Accrued liabilities 890,443 2,192,756
Income taxes payable - 447,143
Unearned revenue 169,540 322,805
--------------- ---------------
Total current liabilities 3,153,146 6,352,863
--------------- ---------------
CAPITAL LEASE OBLIGATION, less current portion 30,165 -
--------------- ---------------
COMMITMENTS AND CONTINGENCIES (Notes 1 and 5)
STOCKHOLDERS' EQUITY:
Common stock, $.01 par value, 20,000,000
shares authorized, 6,430,568 issued 64,306 64,306
Additional paid-in capital 23,017,266 23,057,197
Accumulated deficit (8,189,072) (2,061,494)
Treasury stock at cost, 11,000 and 170,825 shares, respectively (59,675) (2,359,300)
--------------- ---------------
Total stockholders' equity 14,832,825 18,700,709
--------------- ---------------
Total liabilities and stockholders' equity $ 18,016,136 $ 25,053,572
=============== ===============
The accompanying notes to financial statements
are an integral part of these balance sheets.
F-4
1-800 CONTACTS, INC.
STATEMENTS OF OPERATIONS
Year Ended
-----------------------------------------------------
December 31, January 2, January 1,
1997 1999 2000
---------------- --------------- ---------------
NET SALES $ 21,115,314 $ 59,875,941 $ 98,524,906
COST OF GOODS SOLD 14,024,523 37,315,413 59,415,723
---------------- --------------- ---------------
Gross profit 7,090,791 22,560,528 39,109,183
---------------- --------------- ---------------
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES:
Advertising expense 3,485,619 24,206,857 20,238,267
Other selling, general and administrative expenses 2,459,602 7,334,668 12,001,536
---------------- --------------- ---------------
Total selling, general and administrative expenses 5,945,221 31,541,525 32,239,803
---------------- --------------- ---------------
INCOME (LOSS) FROM OPERATIONS 1,145,570 (8,980,997) 6,869,380
---------------- --------------- ---------------
OTHER INCOME (EXPENSE):
Interest expense (161,520) (104,370) (31,860)
Interest income 34,963 553,843 310,185
Cancelled offering costs - - (293,059)
Other, net 13,395 (3,763) (25,818)
---------------- --------------- ---------------
Total other, net (113,162) 445,710 (40,552)
---------------- --------------- ---------------
INCOME (LOSS) BEFORE BENEFIT
(PROVISION) FOR INCOME TAXES 1,032,408 (8,535,287) 6,828,828
BENEFIT (PROVISION) FOR INCOME TAXES (Note 2) (397,477) 642,679 (701,250)
---------------- --------------- ---------------
NET INCOME (LOSS) $ 634,931 $ (7,892,608) $ 6,127,578
================ =============== ===============
PER SHARE INFORMATION (Note 2):
Basic net income (loss) per common share $ 0.14 $ (1.27) $ 0.97
================ =============== ===============
Diluted net income (loss) per common share $ 0.13 $ (1.27) $ 0.96
================ =============== ===============
The accompanying notes to financial statements
are an integral part of these statements.
F-5
1-800 CONTACTS, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
Retained Notes
Additional Earnings Receivable
Common Stock Paid-in (Accumulated) Treasury Stock From
------------------- --------------------
Shares Amount Capital (Deficit) Shares Amount Stockholders Total
--------- -------- ----------- ----------- -------- ---------- ------------ -----------
BALANCE, December 31, 1996 4,659,469 $ 46,595 $ 93,688 $ 253,812 - $ - $ (247,736) $ 146,359
Advances to stockholders - - - - - - (324,409) (324,409)
Net income - - - 1,032,408 - - - 1,032,408
--------- -------- ----------- ----------- -------- ----------- ----------- -----------
BALANCE, December 31, 1997 4,659,469 46,595 93,688 1,286,220 - - (572,145) 854,358
Advances to stockholders - - - - - - (27,544) (27,544)
Distributions to stockholders, net - - - (1,582,684) - - 599,689 (982,995)
Sale of common stock,
net of offering costs 2,213,750 22,138 24,827,971 - - - - 24,850,109
Repurchase and retirement
of common stock (442,651) (4,427) (1,895,573) - - - - (1,900,000)
Purchase of treasury shares - - - - (15,000) (81,375) - (81,375)
Exercise of common stock options - - (8,820) - 4,000 21,700 - 12,880
Net loss - - - (7,892,608) - - - (7,892,608)
--------- -------- ----------- ----------- -------- ----------- ---------- -----------
BALANCE, January 2, 1999 6,430,568 64,306 23,017,266 (8,189,072) (11,000) (59,675) - 14,832,825
Purchase of treasury shares - - - - (185,000) (2,530,286) - (2,530,286)
Exercise of common stock options - - (92,654) - 25,175 230,661 - 138,007
Income tax benefit from common
stock options exercise - - 132,585 - - - - 132,585
Net income - - - 6,127,578 - - - 6,127,578
--------- -------- ----------- ----------- -------- ----------- ----------- -----------
BALANCE, January 1, 2000 6,430,568 $ 64,306 $23,057,197 $(2,061,494) (170,825) $(2,359,300) $ - $18,700,709
========= ======== =========== =========== ======== =========== =========== ===========
The accompanying notes to financial statements
are an integral part of these statements.
F-6
1-800 CONTACTS, INC.
STATEMENTS OF CASH FLOWS
Year Ended
-------------------------------------------------
December 31, January 2, January 1,
1997 1999 2000
--------------- --------------- ---------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 1,032,408 $ (7,892,608) $ 6,127,578
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation and amortization 150,933 446,389 992,184
Other 20,000 13,762 26,218
Deferred income taxes - (642,679) 254,107
Changes in operating assets and liabilities:
Inventories (4,336,445) (5,940,469) (5,227,845)
Other current assets (173,641) (300,475) 7,552
Deferred advertising costs (1,311,398) 1,530,064 175,631
Accounts payable 3,290,864 (1,705,707) 1,003,542
Accrued liabilities 236,639 590,004 1,302,313
Income taxes payable - - 447,143
Unearned revenue 68,327 65,268 153,265
--------------- --------------- ---------------
Net cash (used in) provided by operating activities (1,022,313) (13,836,451) 5,261,688
--------------- --------------- ---------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Net increase in notes receivable from stockholders (324,409) (27,544) -
Purchase of property and equipment (488,244) (2,013,361) (1,019,596)
Proceeds from sale of property and equipment - 101,768 -
Purchase of intangible assets (50,000) (5,000) (1,238,388)
Deposits (40,425) (38,049) (7,846)
--------------- --------------- ---------------
Net cash used in investing activities $ (903,078) $ (1,982,186) $ (2,265,830)
--------------- --------------- ---------------
The accompanying notes to financial statements are an integral
part of these statements.
F-7
1-800 CONTACTS, INC.
STATEMENTS OF CASH FLOWS (continued)
Year Ended
-------------------------------------------------
December 31, January 2, January 1,
1997 1999 2000
--------------- --------------- ---------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Sale of common stock, net of underwriting discounts and commissions $ - $25,734,844 $ -
Common stock offering costs (375,198) (509,537) -
Common stock repurchases - (1,981,375) (2,530,286)
Proceeds from exercise of common stock options - 12,880 138,007
Net (repayments) borrowings on line of credit 1,055,640 (1,055,640) -
Borrowings from stockholders 1,800,000 - -
Principal payments on notes payable to stockholders (411,212) (1,613,788) -
Principal payments on notes payable for distributions to stockholders,
net - (982,995) -
Principal payments on long-term debt (55,871) - -
Principal payments on capital lease obligation (19,425) (23,532) (36,711)
Bank overdraft (68,543) - -
-------------- -------------- --------------
Net cash provided by (used in) financing activities 1,925,391 19,580,857 (2,428,990)
-------------- -------------- --------------
NET INCREASE IN CASH AND CASH EQUIVALENTS - 3,762,220 566,868
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR - - 3,762,220
-------------- -------------- --------------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ - $ 3,762,220 $ 4,329,088
============== ============== ==============
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for interest $ 42,699 $ 228,907 $ 33,335
Cash paid for income taxes - - 100,000
SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING AND FINANCING ACTIVITIES:
During the year ended January 2, 1999, the Company distributed $1,582,684 to its
S Corporation stockholders. This distribution (net of notes receivable from
stockholders of $599,689) was in the form of promissory notes, totalling
$982,995, issued by the Company. The promissory notes were paid in full during
the year ended January 2, 1999.
During the year ended January 1, 2000, the Company acquired certain intangible
assets. As of January 1, 2000, the Company had an acquisition payable of
$300,000 (see Note 12).
The accompanying notes to financial statements are an integral
part of these statements.
F-8
1-800 CONTACTS, INC
NOTES TO FINANCIAL STATEMENTS
NOTE 1. NATURE OF OPERATIONS AND ORGANIZATION OF BUSINESS
1-800 CONTACTS, INC., (the "Company") was incorporated in the state of Utah
in February 1995. The Company was reincorporated in Delaware in February 1998
in conjunction with its initial public offering of common stock. The Company is
a direct marketer of replacement contact lenses. The Company sells contact
lenses primarily through its toll-free telephone number and the Internet.
Regulatory Compliance
The Company sells contact lenses to customers in all 50 states and each
sale is likely to be subject to the laws of the state where the customer is
located. The laws and regulations governing the delivery and sale of contact
lenses vary from state to state, but generally can be classified in five
categories: (i) laws that require contact lenses only be dispensed pursuant to a
prescription, (ii) laws that require the dispenser to be licensed by the state
as an optometrist, ophthalmologist or other professional authorized to dispense
lenses, (iii) laws that require lenses be dispensed only in a face-to-face
transaction, (iv) laws with requirements that are unclear or do not specifically
address the sale and delivery of contact lenses; and (v) laws that the Company
believes place no restrictions on the dispensing of replacement contact lenses.
The Company's operating practice is to attempt to obtain a valid prescription
from each of its customers or his/her eye care practitioner. If the customer
does not have a copy of his/her prescription, the Company attempts to contact
the customer's doctor to obtain a copy of, or verify the customer's
prescription. If the Company is unable to obtain a copy of, or verify the
customer's prescription, it is the Company's practice to complete the sale and
ship the lenses to the customer, based on the prescription information provided
by the customer. The Company retains copies of the written prescriptions that it
receives and maintains records of its communications with the customer's
prescriber. As a result of this operating practice, certain sales made by the
Company fail to comply with the applicable statute or regulation in the state in
which the customer is located. Any action brought against the Company based on
its failure to comply with applicable state laws and regulations could result in
significant fines to the Company, the Company being prohibited from making sales
in a particular state, the Company being required to comply with such laws or
could constitute a misdemeanor. Such required compliance could result in (i)
increased costs to the Company, (ii) the loss of a substantial portion of the
Company's customers for whom the Company is unable to obtain or verify their
prescription, (iii) the inability to sell to customers at all in a particular
state if the Company cannot comply with such state's laws and (iv) misdemeanor
penalties and civil fines. The occurrence of any of the above results could have
a material adverse effect on the Company's ability to sell contact lenses and
continue to operate profitably. Furthermore, there can be no assurance that
states will not enact or impose laws or regulations that prohibit mail order
dispensing of contact lenses or otherwise impair the Company's ability to sell
contact lenses and continue to operate profitably.
From time to time the Company receives notices, inquiries or other
correspondence from states or their regulatory bodies charged with overseeing
the sale of contact lenses. The Company's practice is to review such notices
with legal counsel to determine the appropriate response on a case-by-case
basis. It is the opinion of management, after discussion with legal counsel,
that the Company is taking the appropriate steps to address the various notices
received. See Note 5 for formal complaints filed against the Company concerning
its business practices.
The FDA regulates the labeling of medical devices. The contact lenses that
the Company sells are prescription devices, and therefore contain the statement
required by FDA regulations: "Caution: Federal law restricts this device to sale
by or on the order of a _________ (physician or other licensed practitioner)."
However, because of the difficulty the Company has encountered in obtaining the
cooperation of eye care practitioners, the Company sometimes sells lenses based
solely on the prescription information provided by the customer without a
written prescription or other order by the customer's eye care practitioner.
Although the FDA has not objected to the sale of contacts lenses without a
written prescription or other order directly from the customer's eye care
practitioner, it is possible that the FDA will consider contact lenses that are
sold in such a fashion to be misbranded. The sale of misbranded devices is
unlawful under the Federal Food, Drug, and Cosmetic Act, and can result in a
warning letter,
F-9
1-800 CONTACTS, INC.
NOTES TO FINANCIAL STATEMENTS
seizure, injunction, civil penalties, or prosecution. To date, the FDA has not
taken any such action against the Company.
Sources of Supply
Historically, substantially all of the major manufacturers of contact
lenses have refused to sell lenses directly to direct marketers, including the
Company, and have sought to prohibit their distributors from doing so. As a
result, the Company currently purchases a substantial portion of its products
from unauthorized distributors. The Company is aware that at least one large
manufacturer of contact lenses puts tracking codes on its products in an effort
to identify distributors who are selling to direct marketers. The Company is not
an authorized dealer for many of the products which it sells. In addition, the
Company believes the price it pays for certain products is sometimes higher than
those paid by eye care practitioners, retail chains and mass merchandisers, who
are able to buy directly from the manufacturers of such lenses. There can be no
assurance that the Company will be able to obtain sufficient quantities of
contact lenses at competitive prices in the future to meet the existing or
anticipated demand for its products. Any such inability would have a material
adverse effect on the Company's business, financial position and results of
operations.
Although the Company seeks to reduce its reliance on any one supplier by
establishing relationships with a number of distributors and other sources, the
Company purchased from a single distributor approximately 40 percent, 47 percent
and 38 percent of its contact lens inventory in fiscal 1997, 1998 and 1999,
respectively. The Company's top three suppliers accounted for approximately 72
percent, 70 percent and 68 percent of the Company's inventory purchases in
fiscal 1997, 1998 and 1999, respectively. The Company continually seeks to
establish new relationships with potential suppliers in order to be able to
obtain adequate inventory at competitive prices. In the event that these
suppliers could no longer supply the Company with contact lenses, there can be
no assurance that the Company could secure other adequate sources of supply, or
that such supply could be obtained on terms no less favorable to the Company
than its current supply, which could adversely affect the Company by increasing
its costs or, in the event adequate replacement supply cannot be secured,
reducing its net sales.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Change in Accounting Period
Effective January 1, 1998, the Company changed from a calendar year end to
a 52/53 week year, ending on the Saturday nearest to December 31. Due to this
change, fiscal year 1998 represents 52 weeks and 3 days, covering the period
January 1, 1998 to January 2, 1999. Fiscal year 1999 ended January 1, 2000 is a
52 week year.
Revenue Recognition
Sales are recognized at the time of shipment to the customer. Payment for
the product is generally received prior to shipment. As a result, unearned
revenue represents amounts received from customers for which shipment has not
occurred. Shipping and handling fees are included as part of net sales. The
related freight costs associated with shipping products to customers are
included as a component of cost of goods sold.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities as of the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
F-10
1-800 CONTACTS, INC
NOTES TO FINANCIAL STATEMENTS
Cash Equivalents
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents.
Inventories
Inventories consist of contact lenses and are recorded at the lower of cost
(using the first-in, first-out method) or market.
Property and Equipment
Property and equipment are stated at cost and depreciated using the
straight-line method over their estimated useful lives ranging from three to
seven years. Leasehold improvements are amortized over the term of the lease.
Major additions and improvements are capitalized, while costs for minor
replacements, maintenance and repairs that do not increase the useful life of an
asset are expensed as incurred. Upon retirement or other disposition of property
and equipment, the cost and related accumulated depreciation or amortization are
removed from the accounts. The resulting gain or loss is reflected in income.
Advertising Costs
Prior to the fourth quarter of fiscal 1998, the Company capitalized certain
direct-mail advertising costs and amortized those costs over the period for
which the revenues were generated in accordance with Statement of Position
("SOP") 93-7. Based upon the Company's past direct-response information, the
Company capitalized direct-mail advertising costs on a cost-pool-by-cost-pool
approach and amortized those costs over a 12 month period, which was the period
during which the future benefits were expected to be received. Approximately 73
percent of capitalized costs were amortized over the first six months after the
advertisement. Accordingly, deferred advertising costs were amortized in
proportion to the expected future benefits to be received. The Company expensed
all other advertising costs when the advertising first occurred.
At each balance sheet date, the Company evaluated the realizability of
amounts reported as assets by comparing the carrying amounts of such assets to
the estimated remaining future net revenues (revenues less direct costs)
expected to result from the advertisement. To the extent the carrying amounts
exceeded the remaining future net revenues, the excess was recorded as
advertising expense in the current period.
During 1998, the Company began utilizing a variety of new advertising
vehicles, including new print vehicles, Internet and radio spots, and an
extensive television marketing campaign. As direct-response information became
available during the fourth quarter of 1998, the Company determined that its
ability to track individual sales to specific advertising campaigns was
restricted as a result of the variety of new advertising vehicles utilized.
Therefore, beginning in the fourth quarter of 1998, the Company began expensing
all advertising costs, including all direct-mail advertising costs, when the
advertising first takes place. The Company also determined that for previously
deferred advertising costs the period during which the future benefits were
expected to be received was shortened and accordingly amortized the balance of
deferred advertising costs at the beginning of the fourth quarter of 1998 over 5
months.
Intangible Assets
Intangible assets mainly consist of amounts paid to secure the rights to
the Company's telephone numbers and Internet addresses. These costs are
amortized over an estimated life of 5 years. The Company has contractual rights
customary to the industry to use its telephone numbers and Internet addresses.
However, under applicable rules and regulations of the Federal Communications
Commission, the Company does not have and cannot acquire any
F-11
1-800 CONTACTS, INC.
NOTES TO FINANCIAL STATEMENTS
property rights to the telephone numbers. In addition, the Company does not have
and cannot acquire any property rights to the Internet addresses. The Company
does not expect to lose the right to use the numbers or Internet addresses,
however, there can be no assurance in this regard and such loss would have a
material adverse effect on the Company's financial position and results of
operations.
Fair Value of Financial Instruments
The Company's financial instruments consist mainly of cash and cash
equivalents and short-term payables. The Company believes that the carrying
amounts approximate fair value.
Long-lived Assets
The Company reviews long-lived assets for impairment whenever events or
changes in circumstances indicate that the carrying amount of an asset may not
be recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future net cash flows expected
to be generated by the asset. If such assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets.
Income Taxes
The Company recognizes deferred tax assets or liabilities for expected
future tax consequences of events that have been recognized in the financial
statements or tax returns. Under this method, deferred tax assets or liabilities
are determined based upon the difference between the financial statement and
income tax bases of assets and liabilities using enacted tax rates expected to
apply when differences are expected to be settled or realized.
Prior to February 9, 1998, the Company had elected for federal and state
income tax purposes to include its taxable income with that of its shareholders
(an S Corporation election). For the years ended December 31, 1997 and January
2, 1999, the net income (loss) presents the pro forma effects on historical net
income (loss) adjusted for a pro forma provision for income taxes. The provision
for income taxes for the years ended December 31, 1997 and January 2, 1999 have
been determined assuming the Company had been taxed as a C corporation for
federal and state income tax purposes for the entire year.
Net Income (Loss) Per Common Share
Basic net income (loss) per common share ("Basic EPS") excludes dilution
and is computed by dividing net income (loss) by the weighted-average number of
common shares outstanding during the period. Diluted net income (loss) per
common share ("Diluted EPS") reflects the potential dilution that could occur if
stock options or other common stock equivalents were exercised or converted into
common stock. The computation of Diluted EPS does not assume exercise or
conversion of securities that would have an antidilutive effect on net income
(loss) per common share.
The Basic and Diluted EPS for the year ended December 31, 1997 give effect
to the pro forma effects on historical net income adjusted for a pro forma
provision for income taxes assuming the Company had been taxed as a C
Corporation for federal and state income tax purposes. In addition, it takes
into consideration the shares deemed to be outstanding at the initial public
offering price of $12.50 per share, sufficient to fund the S Corporation
distribution of approximately $983,000 (see Note 9), which resulted in 78,640
shares assumed to be outstanding for the year.
The Basic and Diluted EPS for the year ended January 2, 1999 give effect to
the pro forma effects on historical net loss adjusted for a pro forma benefit
for income taxes assuming the Company had been taxed as a C Corporation for
federal and state income tax purposes for the entire year.
F-12
1-800 CONTACTS
NOTES TO FINANCIAL STATEMENTS
The following is a reconciliation of the numerator and denominator used to
calculate Basic and Diluted EPS:
Net Per-Share
Income
(Loss) Shares Amount
--------- -------- ------------
Year Ended December 31, 1997 (pro forma):
Basic EPS $ 634,931 4,659,469 $ 0.14
Effect of stock options 20,782
Assumed distribution 78,640
----------------- ------------ ----------------
Diluted EPS $ 634,931 4,758,891 $ 0.13
================= ============ ================
Year Ended January 2, 1999 (pro forma):
Basic EPS $(7,892,608) 6,227,640 $(1.27)
Effect of stock options
----------------- ------------ ----------------
Diluted EPS $(7,892,608) 6,227,640 $(1.27)
================= ============ ================
Year Ended January 1, 2000:
Basic EPS $ 6,127,578 6,298,264 $ 0.97
Effect of stock options 80,998
----------------- ------------ ----------------
Diluted EPS $ 6,127,578 6,379,262 $ 0.96
================= ============ ================
At January 2, 1999, there were outstanding options to purchase 223,010
shares of common stock that were not included in the computation of Diluted EPS
because they would be antidilutive.
Reclassifications
Certain amounts in prior years' financial statements have been reclassified
to conform to the fiscal 1999 presentation.
NOTE 3. LINE OF CREDIT
Line of Credit
The Company has a revolving credit facility that provides for borrowings
equal to the lesser of $10.0 million or 50 percent of eligible inventory. The
credit facility bears interest at a floating rate equal to the lender's prime
interest rate plus 0.5 percent (9.0 percent at January 1, 2000). As of January
1, 2000, the Company had no outstanding borrowings. The credit facility is
secured by substantially all of the Company's assets and expires April 30, 2001.
The credit facility contains various affirmative and negative covenants
which require, among other things, restrictions on additional debt, minimum
levels for net income (loss), maintenance of certain working capital levels and
restrictions on distributions and changes in ownership. As of January 1, 2000,
the Company was in compliance with these covenants.
F-13
1-800 CONTACTS, INC
NOTES TO FINANCIAL STATEMENTS
NOTE 4. NOTES PAYABLE TO STOCKHOLDERS
Long Term
In February 1996, the Company entered into a credit agreement with a
stockholder that provided for maximum borrowings of $250,000. The borrowings
accrued interest at the prime rate plus 2 percent. As of December 31, 1997,
outstanding borrowings totaled $243,788. During 1998, this amount was paid in
full with proceeds from the Company's initial public offering of common stock.
Short Term
In May 1997, the Company borrowed $250,000 from a stockholder that was
repaid prior to December 31, 1997.
In May 1997, the Company borrowed $600,000 from a stockholder under a
short-term promissory note. The note accrued interest at the prime rate plus 2
percent and was due in November 1997. In July 1997, the Company repaid $100,000
on the note and refinanced the remaining $500,000 plus borrowed an additional
$600,000 from the stockholder under a new short-term promissory note. The total
$1,100,000 unsecured note payable accrued interest at prime plus 2 percent and
was due July 30, 1998. As consideration for entering into this note, the Company
agreed to modify the option it held to repurchase the stockholder's common
stock. Under the revised terms of the option, the Company had the right to
repurchase 442,651 shares of the stockholder's common stock for $1,900,000 prior
to February 1, 2001 (see Note 6).
In September 1997, the Company borrowed $250,000 from a stockholder under a
short-term, unsecured promissory note. The note accrued interest at prime plus 2
percent and was due in September 1998. In addition, for every month the note was
outstanding, a fee of $5,000 was added to the outstanding balance and expensed
as additional interest.
During 1998, all amounts owed to stockholders were paid in full with
proceeds from the Company's initial public offering of common stock.
NOTE 5. COMMITMENTS AND CONTINGENCIES
Legal and Regulatory Matters
On July 14, 1998, Craig S. Steinberg, O.D., a professional corporation
d.b.a. City Eyes Optometry Center, filed a purported class action on behalf of
all California optometrists against the Company and its directors in Los Angeles
County Superior Court. The complaint alleged three separate causes of action
for unfair competition: (i) selling contact lenses to California residents
without being registered, (ii) selling contact lenses to California residents
without verifying the prescription and (iii) failing to disclose in its
advertising that it sells "sample" lenses not intended for sale to the public.
The complaint requested various forms of relief, including damages of an
unspecified amount, attorney's fees and a permanent injunction. The Company
removed the action to the United States District Court for the Central District
of California. Plaintiff and another California optometrist, Ellis Miles,
(collectively "plaintiffs") filed a First Amended Complaint ("FAC") against the
Company and its directors on or about September 3, 1998 purporting to sue on
behalf of the public under California's unfair competition statute rather than
as a class action on behalf of optometrists. Although the substantive claims
for unfair competition remain the same, the FAC seeks injunctive relief and
restitution rather than damages. Plaintiffs also dismissed the Company's
directors as defendants, leaving the Company as the only remaining defendant.
The Company has filed its Answer to the FAC and intends to vigorously defend
itself in this action. The parties agreed to remand the case to Los Angeles
County Superior Court based upon plaintiffs' stipulation that they no longer
seek monetary relief on
F-14
1-800 CONTACTS, INC.
NOTES TO FINANCIAL STATEMENTS
behalf of themselves or other optometrists. The Court remanded the case to Los
Angeles County Superior Court in August 1999.
On April 7, 1999 the Kansas Board of Examiners in Optometry commenced a
civil action against the Company. The action was filed in the District Court of
Shawnee County, Kansas, Division 6. The complaint was amended on May 28, 1999.
The amended complaint alleges that on "one or more occasions" the Company sold
contact lenses in the state of Kansas without receipt or verification of a
prescription. The amended complaint seeks the issuance of an order enjoining the
Company from further engaging in the alleged activity. The amended complaint
does not seek monetary damages. In response to the amended complaint, the
Company has retained counsel and intends to vigorously defend itself in this
action. The Company has filed an answer to the amended complaint. In addition,
the Company has filed a motion for summary judgment, asking the court to dismiss
the action and enter judgment in its favor.
On or about November 2, 1999, the Company received a complaint from the
Texas Optometry Board seeking injunctive relief and civil penalties against the
Company for alleged violation of the Texas Optometry Act. The complaint alleges
that the Company (1) failed to state explicitly in its advertisements that a
written prescription is required to purchase contact lenses and (2) dispensed
contact lenses without such a prescription. Just prior to becoming aware of the
complaint, the Company had discussed and resolved these very issues with the
Texas Department of Health ("TDH"), the regulatory authority in Texas for
sellers of contact lenses like the Company. The Company entered into a written
settlement agreement with the TDH effective February 29, 2000. The Company has
filed an answer to the complaint and plans to vigorously defend this action
should the Texas Optometry Board still choose to pursue it.
From time to time the Company is involved in other legal matters generally
incidental to its business.
It is the opinion of management, after discussion with legal counsel, that
the ultimate dispositions of these matters will not have a material impact on
the financial condition, liquidity or results of operations of the Company.
See Note 1 for a discussion of regulatory matters.
Capital Lease Obligation
The Company leases the rights to use its telephone number from an
individual under a capital lease arrangement. At the end of the lease, the
Company has the option to purchase the interest in the telephone number for
$17,500. For fiscal year 2000, the minimum future lease payments under the
capital lease, including the option to purchase the interest for $17,500, are
$31,500 of which $1,334 represents interest.
Operating Leases
The Company leases office and warehouse facilities and certain equipment
under noncancelable operating leases. Lease expense for the years ended
December 31, 1997, January 2, 1999 and January 1, 2000 totaled approximately
$88,000, $377,000 and $784,000, respectively.
F-15
1-800 CONTACTS, INC
NOTES TO FINANCIAL STATEMENTS
Future minimum lease payments under noncancelable operating leases are
as follows:
Fiscal Year Amount
----------- ----------
2000 $ 750,938
2001 765,144
2002 608,945
2003 601,829
2004 464,073
Thereafter 195,799
----------
$3,386,728
==========
Sales Tax
The Company's direct mail business is located, and all of its operations
are conducted, in the state of Utah. At January 1, 2000, the Company did not
collect sales or other similar taxes for any out-of-state sales. However,
various states have sought to impose state sales tax collection obligations on
out-of-state mail-order companies, such as the Company. The U.S. Supreme Court
has held that the various states, absent Congressional legislation, may not
impose tax collection obligations on an out-of-state mail order company whose
only contacts with the taxing state are the distribution of advertising
materials through the mail, and whose subsequent delivery of purchased goods is
by mail or interstate common carriers. The Company has not received an
assessment from any state. The Company anticipates that any legislative changes,
if adopted, would be applied on a prospective basis.
Advertising Commitments
The Company has entered into certain commitments to purchase approximately
$15 million of broadcast advertising from October 1999 through September 2000.
The Company can cancel up to 50 percent of the total amount committed. As of
January 1, 2000, the Company has cancelled approximately $4 million of the
amount committed.
In addition, the Company has entered into certain noncancelable commitments
with cooperative mail companies that will require the Company to pay
approximately $4.2 million for direct mail services through December 31, 2000.
NOTE 6. COMMON STOCK TRANSACTIONS
In fiscal 1998, in connection with the filing of an effective Form S-1
Registration Statement and a reincorporation in the state of Delaware, the Board
of Directors and stockholders approved a 414.175 for 1 stock split and a change
in the authorized common stock to 20,000,000 shares at $0.01 par value per
share. This stock split and change in authorized common stock have been
retroactively reflected in the accompanying financial statements.
During February 1998, the Company completed its initial public offering of
common stock. In connection therewith, the Company issued 2,213,750 shares of
common stock, which included 288,750 shares issued pursuant to the underwriters'
over-allotment option. The proceeds received from the offering, net of
underwriting commissions and offering costs, totaled approximately $24,850,000.
The Company exercised its rights to repurchase 442,651 shares of its
outstanding common stock for $1,900,000 (see Note 4).
F-16
1-800 CONTACTS, INC.
NOTES TO FINANCIAL STATEMENTS
On October 13, 1998, the Company's Board of Directors authorized a
repurchase of up to 500,000 shares of its common stock. A purchase of the full
amount would equal approximately 7.8 percent of the total shares issued. The
repurchase of common stock is subject to market conditions and is accomplished
through periodic purchases at prevailing prices on the open market, by block
purchases or in privately negotiated transactions. The repurchased shares will
be retained as treasury stock to be used for corporate purposes. On August 13,
1999, the Company reinstated the share repurchase program, which had been
suspended as of July 26, 1999. As of January 1, 2000, the Company has
repurchased 200,000 shares for a total cost of $2,611,661. The Company
repurchased 15,000 shares for a total cost of $81,375 in fiscal 1998 and 185,000
shares for a total cost of $2,530,286 in fiscal 1999. See Note 14 for share
repurchases subsequent to year end and for additional shares authorized to be
repurchased subsequent to year end.
NOTE 7. STOCK OPTIONS AND STOCK OPTION PLAN
During fiscal 1998, the Company established a nonqualified and incentive
stock option plan. The plan provides for the issuance of a maximum of 310,000
shares of common stock to officers, directors and consultants and other key
employees. Incentive stock options and nonqualified options are granted at not
less than 100 percent of the fair market value of the underlying common stock on
the date of grant. As of January 1, 2000, 244,919 shares are available for
future granting.
Prior to the establishment of the stock option plan, the Company issued
nonqualified stock options to various key employees, a consultant and a director
of the Company. During the year ended December 31, 1997, the Company issued
nonqualified stock options to an employee to purchase 4,799 shares of common
stock at an exercise price of $8.16 and nonqualified stock options to two
employees to purchase an aggregate of 67,181 shares at $11 per share. The
Company also issued nonqualified stock options to a consultant in February 1997
to purchase 19,195 shares of common stock at an exercise price of $4.70. In
January 1998, the Company granted nonqualified stock options to purchase 71,979
shares of common stock at $11 per share to a director of the Company. All
options granted through January 1, 2000 vest equally over a three year period
and expire in ten years.
A summary of stock option activity is as follows:
Weighted
Average
Exercise
Price Per
Shares Share
--------------- ----------------
Outstanding at December 31, 1996 47,986 $ 3.22
Granted 91,175 9.52
---------------
Outstanding at December 31, 1997 139,161 7.35
Granted 89,369 11.22
Exercised (4,000) 3.22
Forfeited (1,520) 12.50
---------------
Outstanding at January 2, 1999 223,010 8.94
Granted 56,680 12.51
Exercised (25,175) 5.48
Forfeited (7,469) 12.56
---------------
Outstanding at January 1, 2000 247,046 $ 10.00
===============
Exercisable at January 1, 2000 108,745 $ 8.36
===============
F-17
1-800 CONTACTS, INC.
NOTES TO FINANCIAL STATEMENTS
The following is additional information with respect to stock options:
Outstanding Weighted-Average Exercisable
Range of as of Remaining Weighted-Average as of Weighted-Average
Exercise Prices January 1, 2000 Contractual Life Exercise Price January 1, 2000 Exercise Price
- --------------- --------------- ---------------- -------------- --------------- --------------
$ 3.18 - $ 4.76 41,585 6.9 $ 3.45 35,187 $ 3.22
4.77 - 6.35 3,000 8.7 5.63 1,000 5.63
7.94 - 9.52 4,799 7.5 8.16 3,199 8.16
9.53 - 11.11 141,160 8.0 11.00 68,781 11.00
11.12 - 12.70 53,169 9.0 12.53 578 12.50
14.29 - 15.88 3,333 8.5 15.88 - -
------- ---------
247,046 8.0 10.00 108,745 8.36
======= =========
The Company applies APB No. 25 and related interpretations in accounting for
its stock option grants to employees. Accordingly, no compensation expense has
been recognized for these stock option grants. Had compensation expense for the
Company's employee stock option grants been determined in accordance with SFAS
No. 123, the Company's net income (loss) and diluted net income (loss) per
common share for the years ended December 31, 1997, January 2, 1999 and January
1, 2000 would have been reduced to the pro forma amounts indicated below:
Fiscal Year
----------------------------------
1997 1998 1999
---- ---- ----
Net income (loss):
As reported............................... $634,931 $(7,892,608) $6,127,578
Pro forma................................. $617,785 $(8,070,562) $5,864,847
Diluted net income (loss) per common share:
As reported............................... $ 0.13 $ (1.27) $ 0.96
Pro forma................................. $ 0.13 $ (1.30) $ 0.92
Due to the nature and timing of options grants, the resulting pro forma
compensation cost may not be indicative of future years.
The fair value of each option grant has been estimated on the grant date
using the Black-Scholes option-pricing model with the following assumptions:
weighted average risk-free interest rate of 6.5 percent for 1997 grants, 5.6
percent for 1998 grants and 5.4 percent for 1999 grants; expected stock price
volatility of approximately 0 percent for 1997 grants, 78 percent for 1998
grants and 75 percent for 1999 grants; an expected dividend yield of 0 percent
for all grants and an expected life of five years for all grants. The weighted
average fair value of options granted during fiscal years 1997, 1998 and 1999
was $2.64, $7.53, and $8.15 per share, respectively.
See Note 14 for stock options granted subsequent to year end.
NOTE 8. RELATED PARTY TRANSACTIONS
During fiscal 1997 and 1998, the Company made aggregate loans to two
stockholders totaling $289,473 and $22,300, respectively. The loans were
unsecured, accrued interest at the prime rate and were due on demand. Interest
income on the loans totaled $34,936 and $5,244, respectively, for the years
ended December 31, 1997 and January 2, 1999. As of December 31, 1997 notes
receivable from stockholders totaled $572,145. During fiscal
F-18
1-800 CONTACTS, INC.
NOTES TO FINANCIAL STATEMENTS
1998, the Company made equity distributions to the stockholders sufficient to
allow for their repayment on these notes. See Notes 4 and 14 for a discussion of
other related party transactions.
NOTE 9. DISTRIBUTIONS TO STOCKHOLDERS
Prior to the consummation of its initial public offering in February 1998,
the Company entered into an agreement for the distribution of retained earnings
and tax indemnification with the existing stockholders. Pursuant to the
agreement, an S Corporation distribution of $982,995 (net of notes receivable
due from stockholders of $599,689) was distributed in the form of promissory
notes issued by the Company. The notes were paid in full after the closing of
the offering. The agreement provided for, among other things, the
indemnification of the existing stockholders for any losses or liabilities with
respect to any additional taxes (including interest, penalties and legal fees)
and the repayment to the Company of amounts received as refunds, resulting from
the Company's operations during the period in which it was an S Corporation. No
amounts are currently payable, or anticipated to be payable, or receivable, or
anticipated to be receivable under the agreement. The existing stockholders were
indemnified by the Company with respect to federal and state income tax
liabilities as a result of an adjustment to the Company's taxable income which
increases the tax liability to the existing stockholders for taxable periods
ending prior to the termination of the S corporation status. In addition, the
existing stockholders indemnified the Company with respect to any federal and
state tax liabilities as a result of an adjustment which decreases the existing
stockholders' tax liability for taxable periods ending prior to the termination
of the Company's S corporation status and correspondingly increases the tax
liability of the Company for a taxable period commencing on or after the
termination of the Company's S corporation status.
NOTE 10. INCOME TAXES
Effective February 9, 1998 the Company's S corporation election was
terminated. As a result, the Company recorded a net deferred tax liability and
the related deferred tax provision of approximately $791,000 for the tax effect
of the differences between financial statement and income tax basis of assets
and liabilities that existed at the termination date of the S corporation
election.
The components of the provision for income taxes for the year ended January
2, 1999 since the termination of the S corporation status and for the year ended
January 1, 2000 are as follows:
Fiscal Year
------------------------
1998 1999
---- ----
Current provision:
Federal.................................................. $ - $ (387,204)
State.................................................... - (59,939)
----------- -----------
Total current provision for income taxes............. - (447,143)
----------- -----------
Deferred benefit (provision):
Federal.................................................. 2,864,270 (1,728,208)
State.................................................... 443,386 (267,525)
Change in valuation allowance............................ (1,874,211) 1,741,626
Change from S corporation status......................... (790,766) -
----------- -----------
Total deferred benefit (provision) for income taxes.. 642,679 (254,107)
----------- -----------
Total benefit (provision) for income taxes.................. $ 642,679 $ (701,250)
=========== ===========
During fiscal year 1999, the Company reduced the valuation allowance an
additional $132,585 and increased additional paid-in capital from common stock
to recognize the tax benefit from common stock options exercised.
F-19
1-800 CONTACTS, INC.
NOTES TO FINANCIAL STATEMENTS
The following is a reconciliation between the statutory federal income tax
rate and the Company's effective income tax rate which is derived by dividing
the benefit (provision) for income taxes by income (loss) before benefit
(provision) for income taxes for the years ended January 2, 1999 and January 1,
2000:
Fiscal Year
-----------
1998 1999
---- ----
Statutory federal income tax rate....... 34.0% (34.0)%
State income taxes, net of
federal benefit......................... 3.3 (3.3)
Change from S corporation status........ (8.0) -
Valuation allowance..................... (22.0) 27.3
Other................................... 0.2 (0.3)
----- -----
7.5% (10.3)%
===== ====
The components of the deferred tax assets and liabilities at January 2,
1999 and January 1, 2000 are as follows:
January 2, January 1,
1999 2000
---- ----
Deferred income tax assets:
Operating loss carryforward.... $ 2,357,190 $ -
Accrued reserves............... 176,429 346,890
Depreciation................... - 39,615
Intangibles amortization....... 23,741 76,521
Other.......................... 33,645 58,131
--------- -------
2,591,005 521,157
Valuation allowance (1,874,211) -
----------- --------
716,794 521,157
----------- --------
Deferred income tax liabilities:
Deferred advertising costs..... (65,510) -
Depreciation................... (8,605) -
----------- --------
(74,115) -
----------- --------
Net deferred income tax asset..... $ 642,679 $521,157
=========== ========
A valuation allowance is provided when it is more likely than not that all
or some portion of the deferred tax assets will not be realized. Due to the
uncertainty with respect to the ultimate realization, the Company established a
valuation allowance for a portion of the deferred tax assets at January 2, 1999.
The Company did not have a valuation allowance at January 1, 2000. During fiscal
1999, the Company reversed its valuation allowance due to the profitability of
the Company and utilization of its net operating loss carryforwards. The amount
of the net deferred tax assets considered realizable, however, could change in
the near term based on changing conditions.
NOTE 11. PREFERRED STOCK
The Company has 1,000,000 shares authorized of $.01 par value preferred
stock. For the years ended December 31, 1997, January 2, 1999 and January 1,
2000 no shares were issued or outstanding.
NOTE 12. ASSET ACQUISITION
In May 1999, the Company acquired certain assets of Contact Lenses
Online, Inc. ("CLO") for $1.2 million in cash to be paid as follows: $600,000 on
the closing date, $300,000 six months after the closing date and $300,000
F-20
1-800 CONTACTS, INC.
NOTES TO FINANCIAL STATEMENTS
one year after the closing date. The assets acquired include the Internet
address www.contactlenses.com, various telephone numbers and CLO's customer
database which are included in intangible assets and amortized over an estimated
life of 5 years.
NOTE 13. RETIREMENT AND SAVINGS PLAN
Effective January 1, 2000, the Company established a 401(k) plan covering
substantially all of its employees. Eligible employees may contribute, through
payroll deductions, up to 15 percent of their eligible compensation, but not
more that the statutory limits. The Company contributes fifty cents for each
dollar a participant contributes, with a maximum Company contribution of three
percent of a participant's eligible compensation. No Company contributions were
made during the year ended January 1, 2000.
NOTE 14. SUBSEQUENT EVENTS
Stock Options
Subsequent to year end, the Company granted nonqualified stock options to
purchase 98,798 shares of common stock at $28 per share to employees and
directors of the Company. The options vest equally over a four year period and
expire in ten years.
Stock Repurchases
In January and February 2000, the Company repurchased a total of 158,000
shares of its common stock for a total cost of $4,280,588.
On February 17, 2000, the Company's Board of Directors authorized an
additional repurchase of up to 500,000 shares of its common stock, bringing the
total authorization to 1,000,000 shares (see Note 6). A purchase of the full
incremental 500,000 shares would equal approximately 7.8 percent of the total
shares issued. A purchase of the full 1,000,000 shares would equal approximately
15.6 percent of the total shares issued. The repurchase of common stock is
subject to market conditions and is accomplished through periodic purchases at
prevailing prices on the open market, by block purchases or in privately
negotiated transactions. The repurchased shares will be retained as treasury
stock to be used for corporate purposes. Through February 2000, the Company has
repurchased 358,000 shares for a total cost of $6,892,249.
Related Party Transaction
Subsequent to year end, the Company made a $220,000 investment in an
entity in which a member of the Company's Board of Directors holds a significant
ownership interest and serves as an officer and director.
F-21