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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended October 29, 2003
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 No. 000-50278
KMART HOLDING CORPORATION
-------------------------
(Exact name of registrant as specified in its charter)
Delaware 32-0073116
------------------------------------------ -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3100 West Big Beaver Road - Troy, Michigan 48084
------------------------------------------ -------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (248) 463-1000
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed, by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [X] No [ ]
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Sections 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.
Yes [X] No [ ]
As of November 30, 2003, 89,628,556 shares of Common Stock of Kmart Holding
Corporation were outstanding.
1
INDEX
PAGE
-----
PART I FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Statements of Operations (Unaudited) --
Successor Company - for the 13-weeks ended October 29, 2003
Predecessor Company - for the 13-weeks ended October 30, 2002 3
Condensed Consolidated Statements of Operations (Unaudited) --
Successor Company - for the 26-weeks ended October 29, 2003
Predecessor Company - for the 13-weeks ended April 30, 2003 and the
39-weeks ended October 30, 2002 4
Condensed Consolidated Balance Sheets (Unaudited) --
Successor Company - as of October 29, 2003
Predecessor Company - as of January 29, 2003 and October 30, 2002 5
Condensed Consolidated Statements of Cash Flows (Unaudited) --
Successor Company - for the 26-weeks ended October 29, 2003
Predecessor Company - for the 13-weeks ended April 30, 2003 and the
39-weeks ended October 30, 2002 6
Notes to Unaudited Condensed Consolidated Financial Statements 7-24
Item 2. Management's Discussion and Analysis of Results of Operations and Financial Condition 25-35
Item 3. Quantitative and Qualitative Disclosures about Market Risk 36
Item 4. Controls and Procedures 36
PART II OTHER INFORMATION
Item 1. Legal Proceedings 37
Item 5. Other Information 37
Item 6. Exhibits and Reports on Form 8-K 37-38
Signatures 39
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
(UNAUDITED)
13-WEEKS ENDED
----------------------------------------
SUCCESSOR PREDECESSOR
COMPANY COMPANY
OCTOBER 29, 2003 OCTOBER 30, 2002
---------------- ----------------
Sales $ 5,092 $ 6,459
Cost of sales, buying and occupancy 3,925 5,353
------- -------
Gross margin 1,167 1,106
Selling, general and administrative expenses 1,178 1,448
Restructuring, impairment and other charges - (6)
Equity income in unconsolidated subsidiaries (1) (8)
------- -------
Loss before interest, reorganization items, income
taxes and discontinued operations (10) (328)
Interest expense, net (contractual interest for the 13-weeks
ended October 30, 2002 was $104) 24 37
Reorganization items, net - 4
Benefit from income taxes (11) (7)
------- -------
Loss before discontinued operations (23) (362)
Discontinued operations (net of income taxes of $0) - (21)
------- -------
Net loss $ (23) $ (383)
======= =======
Basic/diluted loss before discontinued operations $ (0.26) $ (0.72)
Discontinued operations - (0.04)
------- -------
Basic/diluted net loss per common share $ (0.26) $ (0.76)
======= =======
Basic/diluted weighted average shares (millions) 89.6 502.5
See accompanying Notes to unaudited Condensed Consolidated Financial Statements.
3
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
(UNAUDITED)
SUCCESSOR COMPANY PREDECESSOR COMPANY
----------------- -------------------------------------
26-WEEKS ENDED 13-WEEKS ENDED 39-WEEKS ENDED
OCTOBER 29, 2003 APRIL 30, 2003 OCTOBER 30, 2002
----------------- -------------- ----------------
Sales $ 10,744 $ 6,181 $ 20,823
Cost of sales, buying and occupancy 8,344 4,762 17,784
------------ ------------ ------------
Gross margin 2,400 1,419 3,039
Selling, general and administrative expenses 2,401 1,421 4,653
Restructuring, impairment and other charges - 37 8
Equity income in unconsolidated subsidiaries (3) (7) (27)
------------ ------------ ------------
Income (loss) before interest expense, reorganization items, income
taxes and discontinued operations 2 (32) (1,595)
Interest expense, net (contractual interest for the 13-weeks ended
April 30, 2003 and the 39-weeks ended October 30, 2002
was $124 and $306, respectively) 45 57 102
Reorganization items, net - 769 259
Benefit from income taxes (15) (6) (19)
------------ ------------ ------------
Loss before discontinued operations (28) (852) (1,937)
Discontinued operations (net of income taxes of $0 and $0) - (10) (181)
------------ ------------ ------------
Net loss $ (28) $ (862) $ (2,118)
============ ============ ============
Basic/diluted loss before discontinued operations $ (0.32) $ (1.63) $ (3.85)
Discontinued operations - (0.02) (0.36)
------------ ------------ ------------
Basic/diluted net loss per common share $ (0.32) $ (1.65) $ (4.21)
============ ============ ============
Basic/diluted weighted average shares (millions) 89.6 522.7 502.7
See accompanying Notes to unaudited Condensed Consolidated Financial Statements.
4
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN MILLIONS, EXCEPT SHARE DATA)
(UNAUDITED)
SUCCESSOR
COMPANY PREDECESSOR COMPANY
----------- -------------------------
OCTOBER 29, JANUARY 29, OCTOBER 30,
2003 2003 2002
----------- ----------- -----------
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 941 $ 613 $ 381
Merchandise inventories 4,404 4,825 6,330
Other current assets 552 664 687
-------- -------- --------
TOTAL CURRENT ASSETS 5,897 6,102 7,398
Property and equipment, net 115 4,892 5,764
Other assets and deferred charges 105 244 230
-------- -------- --------
TOTAL ASSETS $ 6,117 $ 11,238 $ 13,392
======== ======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES
Long-term debt due within one year $ 61 $ - $ -
Accounts payable 1,203 1,248 1,825
Accrued payroll and other liabilities 733 710 691
Taxes other than income taxes 295 162 306
-------- -------- --------
TOTAL CURRENT LIABILITIES 2,292 2,120 2,822
-------- -------- --------
LONG-TERM LIABILITIES
Long-term debt and mortgages payable 24 - 575
Capital lease obligations 419 623 660
Pension obligation 867 - -
Unfavorable operating leases 322 - -
Other long-term liabilities 486 181 209
-------- -------- --------
TOTAL LONG-TERM LIABILITIES 2,118 804 1,444
TOTAL LIABILITIES NOT SUBJECT TO COMPROMISE 4,410 2,924 4,266
LIABILITIES SUBJECT TO COMPROMISE - 7,969 7,128
Predecessor Company obligated mandatorily redeemable convertible
preferred securities of a subsidiary trust holding solely 7 3/4 % convertible
junior subordinated debentures (redemption value $648 and $883, respectively) - 646 874
SHAREHOLDERS' EQUITY (DEFICIT)
Successor Company preferred stock 20,000,000 shares authorized;
no shares outstanding - - -
Predecessor Company common stock $1 par value, 1,500,000,000 shares
authorized; 519,123,988 and 503,458,279 shares outstanding, respectively - 519 503
Successor Company common stock $0.01 par value, 500,000,000 shares
authorized; 89,655,445 shares outstanding 1 - -
Capital in excess of par value 1,735 1,922 1,709
Treasury stock, at cost (1) - -
Accumulated deficit (28) (2,742) (1,088)
-------- -------- --------
TOTAL SHAREHOLDERS' EQUITY (DEFICIT) 1,707 (301) 1,124
-------- -------- --------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT) $ 6,117 $ 11,238 $ 13,392
======== ======== ========
See accompanying Notes to unaudited Condensed Consolidated Financial Statements.
5
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN MILLIONS)
(UNAUDITED)
SUCCESSOR
COMPANY PREDECESSOR COMPANY
---------------- ------------------------------------
26-WEEKS 13-WEEKS 39-WEEKS
ENDED ENDED ENDED
OCTOBER 29, 2003 APRIL 30, 2003 OCTOBER 30, 2002
---------------- -------------- ----------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (28) $ (862) $ (2,118)
Adjustments to reconcile net loss to net cash
(used for) provided by operating activities:
Restructuring, impairments and other charges - 44 788
Reorganization items, net - 769 278
Depreciation and amortization 10 177 558
Equity income in unconsolidated subsidiaries (3) (7) (27)
Dividends received from Meldisco - 36 45
Cash used for store closings and other charges (11) (64) (147)
Cash used for payments of exit costs and other
reorganization items (470) (19) (113)
Change in:
Inventories 27 480 (1,202)
Accounts payable 43 (117) 859
Deferred income taxes and taxes payable (4) (16) (23)
Other assets (10) 123 49
Other liabilities 50 32 252
------------ ------------ ------------
NET CASH (USED FOR) PROVIDED BY OPERATING ACTIVITIES (396) 576 (801)
------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from sale of property and equipment 93 64 13
Capital expenditures (61) (4) (206)
------------ ------------ ------------
NET CASH PROVIDED BY (USED FOR) INVESTING ACTIVITIES 32 60 (193)
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of debt 60 - -
Proceeds from DIP Credit Facility - - 245
Payments on debt (36) (1) (22)
Purchase of treasury stock (3) - -
Debt issuance costs (46) - (36)
Payments on capital lease obligations (29) (16) (57)
Fees paid to Plan Investors (13) - -
Issuance of common shares 140 - -
------------ ------------ ------------
NET CASH PROVIDED BY (USED FOR) FINANCING ACTIVITIES 73 (17) 130
------------ ------------ ------------
NET CHANGE IN CASH AND CASH EQUIVALENTS (291) 619 (864)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 1,232 613 1,245
------------ ------------ ------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 941 $ 1,232 $ 381
============ ============ ============
See accompanying Notes to unaudited Condensed Consolidated Financial Statements.
6
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. EMERGENCE FROM CHAPTER 11 BANKRUPTCY PROTECTION
Confirmation of Plan of Reorganization
On May 6, 2003 ("Effective Date") Kmart Corporation (the
"Predecessor Company") emerged from reorganization proceedings under
Chapter 11 of the federal bankruptcy laws ("Bankruptcy Code" or "Chapter
11") pursuant to the terms of the "Plan of Reorganization" (as hereinafter
defined). The Predecessor Company became a wholly-owned subsidiary of Kmart
Management Corporation, which is a newly-formed, wholly-owned subsidiary of
a newly-created holding company, Kmart Holding Corporation ("Kmart," "we,"
"us," "our," the "Company" or "Successor Company"). Kmart is the nation's
third largest discount retailer and the sixth largest general merchandise
retailer.
On January 22, 2002 ("Petition Date"), the Predecessor Company and
37 of its U.S. subsidiaries (collectively, the "Debtors") filed voluntary
petitions for reorganization under Chapter 11 in the United States
Bankruptcy Court for the Northern District of Illinois ("Court"). During
the reorganization proceedings, the Debtors continued to operate its
business as debtors-in-possession under the jurisdiction of the Court and
in accordance with the applicable provisions of the Bankruptcy Code and
orders of the Court. On January 24, 2003, the Debtors filed a Plan of
Reorganization and related Disclosure Statement and on February 25, 2003,
filed an Amended Joint Plan of Reorganization (the "Plan of
Reorganization") and related amended Disclosure Statement with the Court.
The Plan of Reorganization received the formal endorsement of the statutory
creditors' committees and, as modified, was confirmed by the Court by order
docketed on April 23, 2003 ("Confirmation Date").
In connection with our emergence from bankruptcy, we reflected the
terms of the Plan of Reorganization in our consolidated financial
statements applying the terms of the American Institute of Certified Public
Accountants Statement of Position 90-7, "Financial Reporting by Entities in
Reorganization Under the Bankruptcy Code" ("SOP 90-7") with respect to
financial reporting upon emergence from Chapter 11 ("Fresh-Start
accounting"). Upon applying Fresh-Start accounting, a new reporting entity
(the Successor Company) is deemed to be created and the recorded amounts of
assets and liabilities are adjusted to reflect their estimated fair values
(see Note 3 - Fresh-Start Accounting). The reported historical financial
statements of the Predecessor Company for periods ended prior to May 1,
2003 generally are not comparable to those of the Successor Company. In
this Quarterly Report on Form 10-Q, references to the 13-weeks ended April
30, 2003 and periods ended in fiscal 2002 refer to the Predecessor Company.
Plan Investors
At the time of emergence, ESL Investments, Inc. ("ESL") and Third
Avenue Trust, on behalf of certain of its investment series ("Third
Avenue," and together with ESL, the "Plan Investors"), made a substantial
investment in the Successor Company in furtherance of our financial and
operational restructuring plan. The Plan Investors and their affiliates
received approximately 32 million shares of Kmart Holding Corporation's new
common stock in satisfaction of pre-petition claims they held, and we
issued 14 million shares of new common stock to affiliates of ESL and to
Third Avenue, in exchange for $127 million, net of commitment fees and Plan
Investor expenses of $13 million. In addition, we issued a 9%, $60 million
principal amount convertible note, due in May 2004, to affiliates of ESL.
The terms of the agreement allow the affiliates of ESL the right to extend
the maturity of the convertible note for an additional two years with
notice prior to March 2004. With respect to the 9% convertible note, the
principal is convertible at any time, at the option of the holder, into new
shares of common stock at a conversion price equal to $10 per share.
ESL was also granted the option, exercisable at its own discretion prior to
May 6, 2005, to purchase from the Successor Company approximately 6.6
million new shares of common stock at a price of $13 per share. A portion
of the option was assigned to Third Avenue. The investment was made
pursuant to the Investment Agreement dated January 24, 2003, as amended
(the "Investment Agreement").
ESL and its affiliates beneficially own over 50% of the common
stock of the Successor Company, including shares received in exchange for
pre-petition obligations, as well as shares obtainable upon exercise of
options and conversion of the $60 million convertible note issued to
affiliates of ESL. Each of the Plan Investors is represented on our Board
of Directors.
7
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
Discharge of Liabilities
On the Effective Date, all then-outstanding equity securities of
the Predecessor Company, as well as substantially all of its pre-petition
liabilities, were cancelled. New common stock of the Successor Company was
issued in satisfaction of certain of those claims. The new securities of
the Successor Company issued on the Effective Date pursuant to the Plan of
Reorganization and related transactions, consisted of 89,677,509 shares of
new common stock and options to purchase 8,324,883 shares of new common
stock of which, 151,738 options to purchase shares of new common stock were
cancelled, during the third quarter of fiscal 2003. All of the shares of
new common stock issued on May 6, 2003 were or will be distributed pursuant
to the Plan of Reorganization in satisfaction of pre-petition claims,
except for 14 million shares issued to affiliates of ESL and to Third
Avenue in exchange for $127 million, net of $13 million of commitment fees
and Plan Investor expenses. All such shares were issued without
registration under the Securities Act of 1933 in reliance on the provisions
of Section 1145 of the Bankruptcy Code and Section 4(2) of the Securities
Act of 1933. In addition, as part of the Plan of Reorganization, an
independent creditor litigation trust ("Creditor Trust") was established
for the benefit of the Predecessor Company's pre-petition creditors and
equity holders, and to pursue claims which arose from the Predecessor
Company's prior accounting and stewardship investigations. The following
table outlines the discharge of the Predecessor Company's Liabilities
subject to compromise pursuant to the Plan of Reorganization:
TYPE OF CLAIM/SECURITY TREATMENT UNDER THE PLAN OF REORGANIZATION
---------------------- ------------------------------------------
Class 1 - Secured Claims 100% cash recovery.
Class 3 - Pre-petition Lender Claims Issued 18,723,775 shares of new common stock of the Successor Company and
cash recovery of $243 million.
Class 4 - Pre-petition Note Claims Issued 25,008,573 shares of new common stock of the Successor Company.
Holders may also receive, as described below, recoveries under the Creditor
Trust.
Class 5 - Trade Vendor and Lease Rejection Issued 31,945,161 shares of new common stock of the Successor Company.
Claims over $30,000 Holders may also receive, as described below, recoveries under the Creditor
Trust.
Class 6 - Other Unsecured Claims over $30,000 Claim holders will receive their pro-rata share of the "Other Unsecured
Claims Cash Payment" on the third anniversary of the effective date of the
Plan of Reorganization. In addition, the holder of any Other Unsecured
claim may elect to be treated, in lieu of payment, as a Trade Vendor/Lease
Rejection claim holder. Holders may also receive, as described below,
recoveries under the Creditor Trust.
Class 7 - General Unsecured Convenience Claims Recovery to be paid in cash equal to 6.25% of allowed claims or $1,875 if
less than or equal to $30,000 the amount of such allowed claims is greater than $30,000 and the holder of
such claim has made the convenience claim election. In addition, the holder
of any General Unsecured Convenience Claim that would otherwise constitute
a Trade Vendor/Lease Rejection claim may elect to be treated, in lieu of
payment, as a Trade Vendor/Lease Rejection claim holder.
Class 8 - Trust Preferred Obligations These obligations were cancelled upon emergence. Holders may receive, as
described below, recoveries under the Creditor Trust.
Class 10 - Subordinated Security Claims Those who held common stock of the Predecessor Company may receive their
pro-rata share of up to 2.5% of the recoveries under the Creditor Trust.
8
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
Class 11 - Existing Common Stock The Predecessor Company's stock was cancelled upon emergence. Holders,
together with those who hold Subordinated Security Claims, may receive
their pro-rata share of up to 2.5 % of the recoveries under the Creditor
Trust.
Class 12 - Other Interests Cancelled - no recovery.
Holders of Pre-petition Note Claims, Trade Vendor and Lease
Rejection Claims over $30,000, Other Unsecured Claims over $30,000 and
Trust Preferred Obligations will receive their pro-rata share of recoveries
in the Creditor Trust (excluding up to 2.5% of such recoveries, which may
be payable to holders of Subordinated Securities Claims and Predecessor
Company's Common Stock).
In addition to the classes described above, the Plan of
Reorganization allows for two additional classes of claims, Class 2 - Other
Priority Claims and Class 9 - Intercompany Claims. The Class 2 claims are
primarily claims held by current and former employees for unpaid wages,
salaries, bonuses, severance pay, vacation pay and other unpaid employee
benefits. We believe we have paid all such valid and otherwise allowable
amounts, and therefore, there should be no significant amount of such
claims, if any, that remain unpaid. The Class 9 claims are claims by one or
more of Kmart and its affiliates against other Kmart affiliates on account
of various matters. Kmart, at its option, may either reinstate or eliminate
intercompany claims.
There are also other unclassified claims, including administrative
claims, priority tax claims, Pension Benefit Guarantee Corporation claims,
workers' compensation programs and consignment claims. Administrative
claims will receive a 100% cash recovery; priority tax claims will receive
a 100% cash recovery paid over a six-year period beginning on their
assessment date; and the Pension Benefit Guarantee Corporation claims,
workers' compensation programs and consignment claims were assumed by the
Successor Company.
Claims Resolution
We continue to make progress in the reconciliation and settlement
of the various classes of claims. On May 30, 2003, the Bankruptcy Court
confirmed and established May 6, 2003 as the record date for purposes of
establishing the persons that are claimholders of record to receive
distributions in accordance with the terms of the Plan of Reorganization.
Since June 30, 2003, the first distribution date established in the Plan,
approximately 7.9 million shares of the 31.9 million shares previously
issued to us as disbursing agent with respect to such claims have been
distributed to holders of Class 5 claims and approximately $2.2 million in
cash has been distributed to holders of Class 7 claims. Due to the
significant volume of claims filed to-date it is premature to estimate with
any degree of accuracy the ultimate allowed amount of such claims for each
class of claims under the Plan of Reorganization. Differences between
amounts filed and our estimates are being investigated and will be resolved
in connection with our claims resolution process. In this regard, it should
be noted that the claims reconciliation process may result in material
adjustments to current estimates of allowable claims.
The amount of each quarterly distribution will depend on the
amount of the claims allowed and the reserve established for disputed
claims, in either instance as of the respective distribution date. The next
scheduled distribution under the Plan of Reorganization is expected to
commence on or about January 2, 2004. We have filed a notice with the Court
to reduce the distribution reserve. If approved, approximately 3 million
additional shares will be issued to those claimants who have already
received shares for allowed claims.
2. BASIS OF PRESENTATION
These interim unaudited Condensed Consolidated Financial
Statements have been prepared in accordance with the rules and regulations
of the Securities and Exchange Commission ("SEC"). Accordingly, they do not
include all of the information and footnotes required by accounting
principles generally accepted in the United States of America for complete
financial statements. In the opinion of management, all adjustments (which
include normal recurring adjustments) considered necessary for a fair
presentation have been included. All significant inter-company accounts and
transactions have been eliminated. Operating results for the interim period
are not necessarily indicative of the results that may be expected for the
full year. Readers of these statements should refer to the audited
consolidated financial statements and notes thereto which are included in
our Current Report on Form 8-K, filed with the SEC on August 8, 2003, for
the 13-weeks ended April 30, 2003 and the Predecessor Company's Annual
Report on Form 10-K for the year
9
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
ended January 29, 2003. Certain reclassifications of prior period financial
statements have been made to conform to the current interim period
presentation.
SOP 90-7 requires that the financial statements for the period
following the Chapter 11 filing through the Confirmation Date distinguish
transactions and events that are directly associated with the
reorganization from the ongoing operations of the business. Accordingly,
revenues, expenses, realized gains and losses and provisions for losses
directly associated with the reorganization and restructuring of the
business are reported separately as Reorganization items, net in the
Predecessor Company's unaudited Condensed Consolidated Statement of
Operations. The unaudited Condensed Consolidated Balance Sheet for periods
prior to the emergence date distinguishes pre-petition liabilities subject
to compromise from both those pre-petition liabilities that are not subject
to compromise and from post-petition liabilities. Liabilities subject to
compromise are reported at the amounts expected to be allowed, even if they
may be settled for lesser or greater amounts.
In accordance with SOP 90-7, we adopted Fresh-Start accounting as
of the Confirmation Date. However, in light of the proximity of such date
to our April 30, 2003 quarter-end, for accounting purposes the effects of
Fresh-Start accounting and the Plan of Reorganization, including the
cancellation of the existing common stock and the issuance of the new
common stock were reported "as if" they occurred on April 30, 2003.
References to the Successor Company in the unaudited Condensed Consolidated
Financial Statements and the Notes thereto refer to the Company on and
after April 30, 2003 after giving effect to the provisions of the Plan of
Reorganization and the application of Fresh-Start accounting.
3. FRESH-START ACCOUNTING
Fresh-Start Adjustments
In accordance with Fresh-Start accounting, all assets and
liabilities were recorded at their respective fair market values. Such fair
values represented our best estimates based on independent appraisals and
valuations. Immaterial differences between estimated pre-petition
liabilities assumed by Kmart and the final settlement amounts are
recognized as they occur.
To facilitate the calculation of the enterprise value of the
Successor Company, we developed a set of financial projections. Based on
these financial projections and with the assistance of a financial advisor,
the enterprise value was determined by the Company, using various valuation
methods, including (i) a comparison of the Company and its projected
performance to the market values of comparable companies, (ii) a review and
analysis of several recent transactions of companies in similar industries
to the Company, and (iii) a calculation of the present value of the future
cash flows under the projections. The estimated enterprise value is highly
dependent upon achieving the future financial results set forth in the
projections as well as the realization of certain other assumptions which
are not guaranteed. The estimated enterprise value of Kmart was calculated
to be approximately $2.3 billion to $3.0 billion. We selected the midpoint
of the range, $2.6 billion, as the estimated enterprise value. In applying
Fresh-Start accounting, adjustments to reflect the fair value of assets and
liabilities, on a net basis, and the write-off of the Predecessor Company's
equity accounts resulted in a charge of $5.6 billion. The restructuring of
Kmart's capital structure and resulting discharge of pre-petition debt
resulted in a gain of $5.6 billion. The charge for the revaluation of the
assets and liabilities and the gain on the discharge of pre-petition debt
are recorded in Reorganization items, net in the unaudited Condensed
Consolidated Statement of Operations. In addition, the excess of fair value
of net assets over reorganization value ("negative goodwill") of
approximately $5.6 billion was allocated on a pro-rata basis reducing our
non-current, non-financial instrument assets to $10 million as of April 30,
2003.
As part of the provisions of SOP 90-7, we were required to adopt
on April 30, 2003 all accounting guidance that was going to be effective
within a twelve-month period. See Note 21 - Recently Adopted Accounting
Pronouncements for a discussion of the impact on our financial statements
of the accounting guidance we were required to adopt.
Changes to Significant Accounting Policies
Fresh-Start accounting requires the selection of appropriate
accounting policies for the Successor Company. The significant accounting
policies disclosed in our Current Report on Form 8-K, filed with the SEC on
August 8, 2003, for the 13-weeks ended April 30, 2003 will continue to be
used by the Company except for the policy related to merchandise
inventories. We elected to change the method of accounting for our
merchandise inventories from the last-in, first-out ("LIFO") method to the
first-in, first out ("FIFO") method. We believe that this change is
preferable to
10
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
provide a better matching of expenses and revenues given falling product
costs that have resulted in the value of inventories under the LIFO method
to be approximately equal to their replacement cost on a FIFO basis.
The following table reflects the reorganization adjustments to
Kmart's Consolidated Balance Sheet as of April 30, 2003:
PREDECESSOR SUCCESSOR
COMPANY COMPANY
APRIL 30, 2003 ADJUSTMENTS RECAPITALIZATION APRIL 30, 2003
-------------- ----------- ---------------- --------------
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 1,232 $ - $ - $ 1,232
Merchandise inventories 4,446 (15) 1 - 4,431
Other current assets 528 168 1 195 2 891
---------- ----------- ------------ -----------
TOTAL CURRENT ASSETS 6,206 153 195 6,554
Property and equipment, net 4,623 (4,613) 1 - 10
Other assets and deferred charges 212 (154) 1 38 2 96
---------- ----------- ------------ -----------
TOTAL ASSETS $ 11,041 $ (4,614) $ 233 $ 6,660
========== =========== ============ ===========
LIABILITIES AND SHAREHOLDERS'
EQUITY (DEFICIT)
CURRENT LIABILITIES
Long-term debt due within one year $ - $ - $ 8 2 $ 8
Accounts payable 1,151 - 9 2 1,160
Other current liabilities 915 117 1 563 2 1,595
---------- ----------- ------------ -----------
TOTAL CURRENT LIABILITIES 2,066 117 580 2,763
LONG-TERM LIABILITIES
Long-term debt - - 108 2 108
Capital lease obligations 415 - - 415
Other long-term liabilities 174 279 1 1,208 2 1,661
---------- ----------- ------------ -----------
TOTAL LONG-TERM LIABILITIES 589 279 1,316 2,184
TOTAL LIABILITIES NOT
SUBJECT TO COMPROMOSE 2,655 396 1,896 4,947
LIABILITIES SUBJECT TO COMPROMISE 8,896 114 1 (9,010) 2 -
Trust convertible securities 387 (387) 1 - -
SHAREHOLDERS' EQUITY (DEFICIT)
Accumulated other comprehensive income (907) 907 1 - -
Common stock 537 (537) 1 1 3 1
Other equity (527) (5,107) 1 7,346 4 1,712
---------- ----------- ------------ -----------
TOTAL SHAREHOLDERS' EQUITY (DEFICIT) (897) (4,737) 7,347 1,713
TOTAL LIABILITIES AND
SHAREHOLDERS' EQUITY (DEFICIT) $ 11,041 $ (4,614) $ 233 $ 6,660
========== =========== ============ ===========
1. To adjust assets and liabilities to fair market value ("FMV"), and
reflect the write-off of the Predecessor Company's equity and the
application of negative goodwill to long-lived assets.
2. To record assumption or discharge of Liabilities subject to compromise
and cash received from the Plan Investors.
3. To record par value of new common stock of the Successor Company.
4. To record gain on discharge of liabilities subject to compromise and
additional paid-in-capital of new common stock of the Successor
Company.
11
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
4. DISCONTINUED OPERATIONS
During the first quarter of fiscal 2003 and the second quarter of
fiscal 2002, the Predecessor Company closed 316 and 283 stores,
respectively. SFAS No. 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets," ("SFAS No. 144") requires closed stores to be
classified as discontinued operations when the operations and cash flows of
the stores have been (or will be) eliminated from ongoing operations and
the company no longer has any significant continuing involvement in the
operations associated with the stores after closure. The Predecessor
Company determined that it met the second criteria, as upon closure of the
stores, operations ceased and there was no continuing involvement. To
determine if cash flows had been or would be eliminated from ongoing
operations, a number of qualitative and quantitative factors were
evaluated, including: proximity to a remaining open store, physical
location within a metropolitan or non-metropolitan statistical area and
transferability of sales between open and closed trade areas. Based on
these criteria, a small number of stores closed in fiscal 2002 met the
criteria for discontinued operations; however, in management's opinion they
were not considered material to the consolidated results of operations and
were not separately presented. Upon closure of the 316 stores in 2003,
which included a substantial exit of the state of Texas, we re-evaluated
the 283 stores that were closed in 2002 and the 316 stores closed in 2003
to identify stores that should be accounted for as discontinued operations.
This analysis resulted in a total of 121 stores identified as meeting the
criteria for discontinued operations treatment for all periods presented in
the unaudited Condensed Consolidated Statements of Operations. The table
below sets forth the components of the net loss associated with the
discontinued operations for the 13-weeks ended April 30, 2003 and October
30, 2002 and the 39-weeks ended October 30, 2002.
Predecessor Company
-----------------------------------------------------
13-Weeks 13-Weeks 39-Weeks
Ended Ended Ended
April 30, 2003 October 30, 2002 October 30, 2002
-------------- ---------------- ----------------
Sales $ 232 $ 270 $ 1,064
Cost of sales, buying and occupancy 150 233 1,027
----------- ----------- ---------
Gross margin 82 37 37
Selling, general and administrative expenses 43 63 235
Restructuring, impairments and other charges 5 - 1
Reorganization items, net 44 (4) 19
----------- ----------- ---------
Discontinued operations from 2002 and 2003 store closings (10) (22) (218)
Previous discontinued operations - 1 37
----------- ----------- ---------
Discontinued operations $ (10) $ (21) $ (181)
=========== =========== =========
In connection with its bankruptcy filing, the Predecessor Company
recorded primarily non-cash credits in the 13-weeks and 39-weeks ended
October 30, 2002 of $1 million and $37 million, respectively. The credits
related to the reduction of existing lease obligations of
previously-reported discontinued operations. The 39-weeks ended October 30,
2002 also included a credit of $7 million related to the recovery of claims
through the bankruptcy of Hechinger Company.
5. TREASURY STOCK
On August 28, 2003, the Company's Board of Directors approved the
repurchase of up to $10 million of the Company's outstanding stock for the
purpose of providing restricted stock grants to certain employees. During
the third quarter of fiscal 2003, we repurchased a total of 90,500 shares
(weighted-average price of $29.91 per share) of common stock at a cost of
approximately $3 million. We subsequently issued 68,436 restricted shares
to employees; see Note 6 - Stock Based Compensation.
In addition, on October 2, 2003 we repurchased a total of 26,889
shares (at a price of $25.68 per share) of common stock for the purpose of
paying withholding taxes for certain former associates that were part of
the Class 5 claimholders distribution, see Note 1 - Emergence from Chapter
11 Bankruptcy Protection. There are 48,953 shares in treasury as of October
29, 2003.
6. STOCK-BASED COMPENSATION
In December 2002, the Financial Accounting Standards Board
("FASB") issued SFAS No. 148, "Accounting for Stock-Based Compensation -
Transition and Disclosure, an Amendment of FASB Statement No. 123" ("SFAS
No. 148"), which provides three alternative methods of transition to the
fair value method of accounting for stock options. SFAS No. 148 also amends
the disclosure requirements of SFAS No. 123, "Accounting for Stock-Based
Compensation."
12
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
In the second quarter of fiscal 2003, the Company voluntarily
elected to account for stock-based compensation using the fair value method
on a prospective basis as permitted by SFAS 148. During the second quarter
of fiscal 2003, approximately 1.7 million options to purchase shares of
common stock of the Successor Company were granted, of which 151,738
options were cancelled during the third quarter of fiscal 2003. The impact
of the election was not material to the results of operations for any
period presented.
The Predecessor Company accounted for stock options using the
intrinsic value method in accordance with Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees (APB No. 25)" and
related interpretations, which did not require the recognition of expense
for the fair value of stock-based compensation. All outstanding stock
options of the Predecessor Company were cancelled in accordance with the
Plan of Reorganization.
In accordance with the disclosure requirements of SFAS No. 148,
the pro forma effects of recognizing compensation income (expense) on net
loss and loss per share, had the Predecessor Company applied the fair value
method to stock options granted by the Predecessor Company, is as follows:
Predecessor Company
-----------------------------------------------------
13-Weeks 13-Weeks 39-Weeks
Ended Ended Ended
April 30, 2003 October 30, 2002 October 30, 2002
-------------- ---------------- ----------------
Net loss, as reported $ (862) $ (383) $ (2,118)
Deduct: Total stock-based employee
compensation income (expense) determined
under the fair value-based method for all
awards, net of related tax effects 38 (1) (12)
----------- ----------- ---------
Pro forma net loss $ (824) $ (384) $ (2,130)
=========== =========== =========
Basic/diluted loss per share:
As reported $ (1.65) $ (0.76) $ (4.21)
=========== =========== =========
Pro forma $ (1.58) $ (0.76) $ (4.24)
=========== =========== =========
Pro forma stock-based employee compensation income of $38 million
for the 13-weeks ended April 30, 2003 is due to the reversal of expense for
options that were not vested upon cancellation of the outstanding stock
awards of the Predecessor Company.
In September of fiscal 2003 we granted 68,436 shares of restricted
stock to certain members of management at a grant price of $29.07. The
shares were issued from Treasury stock, at no cost to the individuals. We
accounted for these restricted stock grants as fixed awards, and recorded
deferred employee compensation (a component of capital in excess of par
value) of approximately $2 million as of the grant date. The $2 million of
deferred employee compensation is being amortized to compensation expense
on a straight-line basis over the vesting period of three years.
7. DEBT RESTRUCTURING
Credit Facility
On May 6, 2003, our $2 billion credit agreement (the "Credit
Facility"), which was an integral part of the Plan of Reorganization,
syndicated by General Electric Capital Corporation, Fleet Retail Finance
Inc. and Bank of America, N.A., became effective. Debt issuance costs
associated with the Credit Facility totaled $58 million of which $46
million was paid during the 39-weeks ended October 29, 2003 and all of
which will be amortized through May 2006. The Credit Facility is a
revolving credit facility under which Kmart Corporation is the borrower and
contains an $800 million letter of credit sub-limit. Availability under the
Credit Facility is also subject to an inventory borrowing base formula. The
Credit Facility is guaranteed by the Successor Company, Kmart Management
Corporation, Kmart Services Corporation (a subsidiary of Kmart Management
Corporation) and Kmart's direct and indirect domestic subsidiaries. The
Credit Facility is secured primarily by first liens on inventory, the
proceeds thereof and certain related assets of Kmart and the guarantors.
Borrowings under the Credit Facility currently bear interest at either (i)
the Prime rate plus 2.5% per annum
13
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
or (ii) the LIBOR rate plus 3.5% per annum, at our discretion, which
interest rate margin may be reduced after the first anniversary of the
effective date of the Credit Facility if Kmart meets certain earnings
before interest, taxes, depreciation, amortization and other charges
("EBITDA") levels. In addition, we are required to pay a fee based on the
unutilized commitment under the Credit Facility equal to 0.75% per annum.
Effective December 1, the Company voluntarily reduced the size of the
facility to $1.5 billion to reduce the overall cost of the facility.
The Credit Facility financial covenants include a requirement that
Kmart maintain certain specified excess availability minimums, and failure
to do so triggers additional required minimum levels of EBITDA. The Credit
Facility also contains other customary covenants, including certain
reporting requirements and covenants that restrict our ability to incur or
create liens, indebtedness and guarantees, make investments, pay dividends
or make other equity distributions, sell or dispose of stock or assets,
change the nature of our business and enter into affiliate transactions,
mergers and consolidations. Failure to satisfy these covenants would (in
some cases, after the receipt of notice and/or the expiration of a grace
period) result in an event of default that could result in our inability to
access the funds necessary to maintain our operations.
Predecessor Company Debt
Borrowings of the Predecessor Company were available through the
Court-approved $2 billion debtor-in-possession financing facility ("DIP
Credit Facility") for the payment of permitted pre-petition claims, working
capital needs, letters of credit and other general corporate purposes. Debt
issuance costs of $71 million were amortized through April 30, 2003. The
DIP Credit Facility was a revolving credit facility under which the
Predecessor Company was the borrower and the rest of the Debtors were
guarantors, and was collateralized by first liens on substantially all of
the Debtors assets (subject to valid and unavoidable pre-petition liens and
certain other permitted liens). Borrowings under the DIP Credit Facility
were denominated in U.S. dollars bearing interest at the Prime Rate plus
2.5% per annum, or at the Predecessor Company's option, in Eurodollars
bearing interest at the LIBOR rate plus 3.5% per annum. On May 6, 2003, in
connection with the Debtors' emergence from Chapter 11, the DIP Credit
Facility was terminated.
Due to its filing for Chapter 11, the Predecessor Company was in
default on all of its debt agreements entered into prior to January 22,
2002. While operating under Chapter 11, the Predecessor Company was
prohibited under the Bankruptcy Code from paying interest on unsecured
pre-petition debts.
Included in Interest expense, net in the unaudited Condensed
Consolidated Statement of Operations is interest income of $2 million, $1
million, $1 million, $4 million and $3 million for the 13 weeks ended
October 29, 2003, April 30, 2003 and October 30, 2002, the 26 weeks ended
October 29, 2003 and the 39 weeks ended October 30, 2002, respectively. On
the Petition Date, the Predecessor Company stopped accruing interest on all
unsecured pre-petition debt until it emerged from bankruptcy in accordance
with SOP 90-7. Contractual interest expense not accrued or recorded by the
Predecessor Company on certain pre-petition debt totaled $67 million for
the 13-weeks ended April 30, 2003 and October 30, 2002. Contractual
interest expense not accrued or recorded on certain pre-petition debt
totaled $204 million for the 39-weeks ended October 30, 2002.
8. SPECIAL CHARGES
Special charges are transactions which, in management's judgment,
may make meaningful comparisons of operating results between reporting
periods difficult. In determining what amounts constitute a special charge,
management considers the nature, magnitude and frequency of their
occurrence. During fiscal 2002, the Predecessor Company instituted certain
restructuring actions to improve operations and executed significant
inventory liquidations as a result of the stores closed under Chapter 11
proceedings. Their effect on the 13-weeks ended April 30, 2003 and October
30, 2002 and the 39-weeks ended October 30, 2002 are summarized below.
Accelerated Depreciation
During the fourth quarter of fiscal 2002, the Predecessor Company
analyzed stores based on profitability, lease terms and geographic areas.
As a result of the analysis, the Predecessor Company decided to close 316
stores, and in light of the shortened recoverability period in the stores
to be closed, recorded charges of $52 million during the 13-weeks ended
April 30, 2003 for accelerated depreciation on unimpaired assets to be
disposed of following the store closings. Of the charge, $47 million is
included in Restructurings, impairments and other charges and $5 million is
included in Discontinued operations in the unaudited Condensed Consolidated
Statements of Operations.
On September 6, 2001, the Predecessor Company announced it would
restructure certain aspects of the supply chain operations. Depreciation
was accelerated on certain existing supply chain assets to reflect the
revised remaining
14
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
useful life. The Predecessor Company recorded a charge of $9 million for
accelerated depreciation in the 39-weeks ended October 30, 2002 of which $7
million and $2 million was included in Cost of sales, buying and occupancy
and Selling, General and Administrative ("SG&A") expenses, respectively, in
the unaudited Condensed Consolidated Statements of Operations.
In the fourth quarter of fiscal 2001 the Predecessor Company
recorded a non-cash charge for the impairment of long-lived assets in
accordance with SFAS No. 144. Included in the charge was the write-down to
fair value of long-lived assets at 283 stores for which the Predecessor
Company received Court approval to close. Depreciation on the remaining
asset values was accelerated to reflect the revised useful lives and the
assets were fully-depreciated by the end of the second quarter of fiscal
2002. The Predecessor Company recorded charges of $0 and $18 million for
the 13-weeks and 39-weeks ended October 30, 2002, respectively, related to
the accelerated depreciation of these assets. The charges are included in
Cost of sales, buying and occupancy in the unaudited Condensed Consolidated
Statements of Operations.
Corporate Cost Reduction Initiatives
During the fourth quarter of fiscal 2002, the Predecessor Company
announced its intention to eliminate in the first quarter of fiscal 2003
approximately 500 corporate support positions. As a result of the expected
job eliminations, the Predecessor Company recorded a charge of $36 million
during the fourth quarter of fiscal 2002. For the 13-weeks ended April 30,
2003 the Predecessor Company recorded a credit of $10 million as a result
of a change in the estimated expense. This credit is included in
Restructurings, impairments and other charges in the accompanying unaudited
Condensed Consolidated Statements of Operations.
As a result of the closing of 283 stores during the second quarter
of fiscal 2002, the Predecessor Company eliminated approximately 400
positions at corporate headquarters and approximately 50 national positions
that provided corporate support. As a result of the job eliminations the
Predecessor Company recorded a charge of $15 million during the second
quarter of fiscal 2002. This charge is included in Restructuring,
impairment and other charges for the 39-weeks ended October 30, 2002, in
the accompanying unaudited Condensed Consolidated Statements of Operations.
Markdowns for Inventory Liquidation
For the 39-weeks ended October 30, 2002, the Predecessor Company
recorded charges of $785 million to write-down inventory liquidated at the
283 closing stores to net realizable value. Of the charge, $652 million is
included in Cost of sales, buying and occupancy for the period and $133
million is included in Discontinued operations in the accompanying
unaudited Condensed Consolidated Statements of Operations.
Of the $785 million charge, $348 million relates to the write-down
of inventory to estimated selling value in connection with liquidation
sales in the 283 stores for which the Predecessor Company received Court
approval to close on March 20, 2002. The liquidation sales and store
closings were completed on June 2, 2002. During the liquidation sales, the
actual markdowns required to liquidate the inventory were lower than
expected. As a result, in the second quarter, the Predecessor Company
recorded a credit of $36 million to adjust the original estimate. In
addition, a charge of $320 million was recorded related to the acceleration
of markdowns on approximately 107,000 stock keeping units (SKUs) of
inventory items that were transferred from the remaining open stores to the
283 closing stores and included in the liquidation sales. The SKUs were no
longer carried as part of the product assortment in the remaining open
stores and were reduced to estimated selling value. The liquidation of
these SKUs required higher markdowns than anticipated; accordingly, an
adjustment of $54 million was recorded in the second quarter of 2002. The
remaining $117 million of the charge related to liquidation fees and
expenses associated with the disposition of inventory through the
liquidation sales at the 283 closing stores, of which $9 million was
recorded in the second quarter.
15
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
The following table summarizes the components of the charge for
markdowns for inventory liquidation during the 39-weeks ended October 30,
2002:
Predecessor Company
39-weeks ended October 30, 2002
--------------------------------------------------------------
Accelerated
Markdown of
Write-down Liquidator Fees Discontinued
of Inventory and Expenses SKUs Total
------------ --------------- ------------- ---------
First Quarter $ 384 $ 108 $ 266 $ 758
Second Quarter:
Adjustments for actual selling values (36) - 54 18
Additional fees and expenses - 9 - 9
----------- ----------- --------- ---------
Total $ 348 $ 117 $ 320 $ 785
=========== =========== ========= =========
As part of Fresh-Start accounting, reserves established in
connection with certain restructurings were discharged as of April 30, 2003
in accordance with the Plan of Reorganization. See Note 1 - Emergence from
Chapter 11 Bankruptcy Protection for a detailed discussion of the discharge
of Liabilities subject to compromise under the Plan of Reorganization.
Restructuring reserves related to the 2002 employee severance program of
$36 million were assumed by the Successor Company. Payments made against
this reserve were $26 million during the second and third quarters of
fiscal 2003. In addition, we recorded non-cash reductions of $2 million to
the reserve during the third quarter of fiscal 2003.
Restructuring of BlueLight.com
In the third quarter of fiscal 2002, the Predecessor Company
reduced the reserves established for BlueLight.com contract terminations by
$6 million based on revised estimates for the remaining obligations. The $6
million credit is included in the line Restructuring, impairment and other
charges in the unaudited Condensed Consolidated Statements of Operations.
9. REORGANIZATION ITEMS, NET
Reorganization items represent amounts the Predecessor Company
incurred as a result of its Chapter 11 reorganization, and are presented
separately in the unaudited Condensed Consolidated Statements of
Operations.
The following paragraphs provide additional information relating
to costs that were recorded in the line Reorganization items, net in the
unaudited Condensed Consolidated Statement of Operations for the 13-weeks
ended April 30, 2003 and October 30, 2002, and the 39-weeks ended October
30, 2002:
Predecessor Company
----------------------------------------------------
13-Weeks 13-Weeks 39-Weeks
Ended Ended Ended
April 30, 2003 October 30, 2002 October 30, 2002
-------------- ---------------- ----------------
Gain on extinguishment of debt $ (5,642) $ - $ -
Revaluation of assets and liabilities 5,642 - -
Fleming settlement 385 - -
Estimated claims for rejected executory contracts 200 - -
2003 store closings 158 - -
2002 store closings - 4 197
Other 26 - 62
----------- ----------- ---------
Reorganization items, net $ 769 $ 4 $ 259
=========== =========== =========
16
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
Gain on extinguishment of debt/Revaluation of assets and liabilities
See Note 3 - Fresh-Start Accounting for a discussion on the
extinguishment of debt and the revaluation of assets and liabilities.
Fleming settlement
On February 3, 2003, the Predecessor Company announced the
termination of the supply relationship with Fleming Companies, Inc.
("Fleming") by means of a rejection of the 2001 contract through the
Debtor's Chapter 11 reorganization. As part of the bankruptcy proceedings,
Fleming filed a claim of $1.5 billion on March 11, 2003. The Predecessor
Company and Fleming came to an agreement on a settlement of Fleming's
claims, and on March 27, 2003, the Court approved the settlement of all
claims asserted by Fleming. Under the settlement, the Predecessor Company
paid Fleming $15 million of Fleming's net post-petition administrative
claim, which exceeded $30 million. Additionally, Fleming's general
unsecured claim was reduced from approximately $1.5 billion to $385
million, which was recorded in the first quarter of fiscal 2003.
2003 store closings
On January 28, 2003, the Court approved the closure of 326 stores
located in 40 states, which number was later reduced to 316. Stores were
selected by evaluating the market and financial performance of every store
and the terms of every lease. Several factors were considered in the store
closing analysis, including historical and projected operating results; the
anticipated impact of current and future competition; future lease
liability and real estate value; store age, size, and capital spending
requirements; the expected impact of store closings on Kmart's competitive
position; the estimated potential savings from exiting markets and regions;
the potential impact of store closings on purchasing power and allowances;
and the potential impact of store closings on market coverage. Shortly
after receiving Court approval, the Predecessor Company commenced store
closing sales which were completed by April 13, 2003. In accordance with
SFAS No. 144, 66 of the 316 closed stores were considered discontinued
operations (see Note 4 - Discontinued Operations). As a result of the
decision to close the 316 stores, the Predecessor Company determined that
$395 million was the estimated allowed claim amount for lease terminations
and other costs. During the first quarter of fiscal 2003, the Predecessor
Company reclassified $181 million of capital lease obligations to the
closed store reserve and recorded a charge of $214 million for lease
terminations and other costs, of which $56 million is included in
Discontinued operations and the remaining $158 million is included in
Reorganization items, net in the unaudited Condensed Consolidated
Statements of Operations. The liability for estimated allowed claims was
recorded in accordance with SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." On April 30, 2003, upon adoption of
Fresh-Start accounting, this liability was discharged in accordance with
the Plan of Reorganization; see Note 1 - Emergence from Chapter 11
Bankruptcy Protection.
2002 store closings
On March 20, 2002, the Court approved the closure of 283 stores.
Stores were selected by evaluating the market and financial performance of
every store and the terms of every lease. Candidates for closure were
stores that did not meet our financial requirements for ongoing operations.
In accordance with SFAS No. 144, 55 of the 283 closed stores were
considered discontinued operations (see Note 4 - Discontinued Operations).
As a result of the decision to close the 283 stores, the Predecessor
Company determined that $372 million was the estimated allowed claim amount
for lease terminations and other costs. During the first quarter of fiscal
2002 the Predecessor Company reclassified $144 million of capital lease
obligations to the closed store reserve and recorded a charge of $228
million for lease terminations and other costs, of which $25 million is
included in Discontinued operations and the remaining $203 million is
included in Reorganization items, net in the unaudited Condensed
Consolidated Statements of Operations. During the second and third quarters
fiscal 2002, the Predecessor Company recorded a credit of $10 million and a
charge of $4 million, respectively, to adjust the reserve for estimated
allowable claims. The closed store reserve is included in the line
Liabilities subject to compromise in the unaudited Condensed Consolidated
Balance Sheet as of January 29, 2003. The liability for estimated allowed
claims was recorded in accordance with Emerging Issues Task Force 94-3,
"Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." On April 30, 2003, upon adoption of Fresh-Start
accounting, this liability was discharged in accordance with the Plan of
Reorganization; see Note 1 - Emergence from Chapter 11 Bankruptcy
Protection.
As a result of both store closing actions, the existing store base
was reduced from 2,114 stores prior to the announcement of the 2002 store
closings to 1,513 upon completion of the 2003 store closings. As of October
29, 2003, Kmart's existing store base was 1,512 stores.
17
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
Estimated claims for rejected executory contracts
For the 13-weeks ended April 30, 2003, the Predecessor Company
recorded expense of $200 million for estimated allowable claims for
rejected executory contracts, primarily equipment leases and service
contracts. The estimate was based on a review of each class of contracts.
Estimates of claims may be different from actual amounts alleged to be
owing and filed by our creditors. Differences between amounts filed and our
estimate will be investigated and resolved in connection with our claims
resolution process. In this regard, it should be noted that the claims
reconciliation process may result in material adjustments to current
estimates of allowable claims. On April 30, 2003, upon adoption of
Fresh-Start accounting, these liabilities were discharged in accordance
with the Plan of Reorganization; see Note 1 - Emergence from Chapter 11
Bankruptcy Protection.
Other reorganization items
For the 13-weeks ended April 30, 2003, the Predecessor Company
recorded professional fees of $43 million, employee costs of $66 million
relating to the Key Executive Retention Plan ("KERP"), a gain of $17
million for the sale of pharmacy lists, income of $65 million for lease
auction proceeds related to the 2003 and 2002 closed stores, a gain of $15
million for the settlement of pre-petition liabilities and net expenses of
$14 million for other miscellaneous reorganization items. For the 13-weeks
ended October 30, 2002, the Predecessor Company recorded professional fees
of $14 million, employee costs of $20 million, a gain of $22 million for
the settlement of pre-petition liabilities and net income of $12 million
for other miscellaneous reorganization items. For the 39-weeks ended
October 30, 2002, the Predecessor Company recorded professional fees of $81
million, employee costs of $83 million, a gain of $15 million for the sale
of pharmacy lists, a gain of $56 million for the settlement of pre-petition
liabilities and net income of $31 million for other miscellaneous
reorganization items.
10. TRADE VENDORS LIEN PROGRAM
On May 6, 2003, the post-emergence Trade Vendors' Lien Program
became effective. Under this program, certain vendors who provide retail
merchandise to us on credit after May 6, 2003, or who had provided
merchandise to us on credit after the Petition Date and before May 6, 2003
which was not paid for as of May 6, 2003, were granted mortgages on certain
unencumbered owned and operated real properties (the "Trade Vendor Lien").
The Trade Vendor Lien expires by its terms on May 6, 2005, and may be
terminated, with proper notice, at the sole discretion of Kmart on or after
May 6, 2004.
In addition, under the Plan of Reorganization, any person or
entity acquiring property under the Plan of Reorganization, and any
creditor and/or equity security holder of the Debtors or the reorganized
Kmart entities is deemed to have contractually subordinated any existing or
future claim, right or interest they may have in and to any proceeds
received from the disposition, release or liquidation of any of Kmart's and
Kmart's subsidiaries' leasehold interests in any open and operating stores
as of May 6, 2003 to the claims of the trade vendors participating in the
Trade Vendors' Lien Program. The lenders under the Exit Financing Facility
and certain other parties are not subordinated in this regard. As long as
the Trade Vendors' Lien is still effective (i) we may not encumber, sell,
lease, transfer or otherwise dispose of or take other action to impair the
subordination granted under the program with respect to more than 20% of
the fair market value of the leases subject to the program, and (ii) any
loan or investment under a certain amount by ESL or Third Avenue is subject
to the subordination set forth in the provision. This claims subordination
terminates upon termination or expiration of the Trade Vendors' Lien.
11. PROPERTY HELD FOR SALE
Included in Other current assets in our unaudited Condensed
Consolidated Balance Sheet for the period ended October 29, 2003, is $70
million of property held for sale. During the first quarter of fiscal 2003,
the Predecessor Company classified $160 million of property held for sale
in accordance with SFAS No. 144, "Accounting for the Impairment or Disposal
of Long-Lived Assets." During the second and third quarters of fiscal 2003,
we sold $90 million of these assets, for a gain of $2 million which is
recorded in SG&A in our unaudited Condensed Consolidated Statements of
Operations. Property held for sale consists primarily of closed store
locations and undeveloped property that we are actively marketing and
expect to sell within one year.
18
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
12. WORKERS' COMPENSATION
In March 2002, the Court issued an order providing for the
continuation of our existing surety bond coverage, which permits us to
self-insure our workers' compensation programs in various states.
Discussions have been ongoing with the issuers of pre-petition surety bonds
regarding the further continuation of the bonds. To date, we have reached
agreement with Liberty Mutual, historically our largest provider of surety
bonds, on the terms and conditions of a 2 to 2-1/2 year continuation of
their bonds. Our discussions with the remaining issuers of pre-petition
surety bonds are continuing. If those discussions prove unsuccessful and
the applicable surety bonds were to be cancelled, we could lose our
self-insured status in the states covered by those surety bonds and be
required to pursue alternative workers' compensation insurance programs in
the affected states. These alternative programs include (i) retaining
self-insurance privileges in certain states using alternative forms of
security, (ii) purchasing insurance policies to cover our workers'
compensation liabilities in certain states, and (iii) participating in
state-assigned risk and/or state fund insurance programs. We do not expect
that any such alternative programs would result in additional costs having
a material adverse effect on our financial position or results of
operations.
13. INCOME TAXES
The Predecessor Company recorded a full valuation allowance
against net deferred tax assets in accordance with SFAS No. 109,
"Accounting for Income Taxes,", as realization of such assets in future
years is uncertain. Accordingly, no tax benefit was realized from the
Predecessor Company's losses in the first quarter of fiscal 2003 or the
39-weeks ended October 30, 2002. The Successor Company recorded tax
benefits of $11 million and $15 million from our losses during the 13-weeks
and 26-weeks ended October 29, 2003, respectively, based upon the estimated
effective tax rate for the nine month period ending January 28, 2004
(Successor period).
Tax benefits recorded during the 13-weeks ended April 30, 2003 and
39-weeks ended October 30, 2002 related primarily to an Internal Revenue
Code provision allowing for the 10-year carryback of certain losses, and
refunds resulting from the Job Creation and Worker Assistance Act of 2002.
The benefit recognized in fiscal 2002 was partially offset by expense paid
to foreign jurisdictions.
During the third quarter of fiscal 2003, we reduced our reserves
for Predecessor Company tax liabilities by $24 million, primarily due to
favorable claims settlements. In accordance with SOP 90-7, subsequent to
emergence from bankruptcy, any benefit realized from an adjustment to
pre-confirmation income tax liabilities shall be recorded as an addition to
paid-in-capital, not as income to the company. We recorded this adjustment
to Capital in excess of par in our unaudited Condensed Consolidated Balance
Sheet as of October 29, 2003.
14. LOSS PER SHARE
The Successor Company calculates loss per share in accordance with
SFAS No. 128, "Earnings Per Share." Basic and diluted earnings per share
information is presented in the unaudited Condensed Consolidated Statements
of Operations. In all periods presented, net losses were incurred;
therefore common stock equivalents were not used in the calculation of
diluted earnings per share as they would have an anti-dilutive effect. For
the 13-weeks and 26-weeks ended October 29, 2003, dilutive common stock
equivalents include options to purchase approximately 8.2 million shares of
the Successor Company's common stock at a price ranging from $10 to $20 per
share, the potential conversion of up to 6.3 million shares related to the
$60 million principal amount convertible notes issued to the Plan Investors
and approximately 68 thousand shares of restricted stock.
Periods prior to April 30, 2003 include common stock equivalents
of the Predecessor Company. All outstanding stock options and trust
convertible securities of the Predecessor Company were cancelled in
accordance with the Plan of Reorganization. For the 13-weeks ended April
30, 2003, common stock equivalents include options to purchase 43.3 million
shares of common stock at prices ranging from $4.86 to $24.03 per share and
potential conversion of certain trust preferred securities into 25.5
million shares of common stock. For the 13-weeks and 39-weeks ended October
30, 2002, common stock equivalents include options to purchase 50.5 million
shares of common stock at prices ranging from $4.86 to $26.03 per share and
potential conversion of certain trust convertible preferred securities into
58.9 million shares of common stock.
15. COMPREHENSIVE LOSS
Comprehensive loss represents net loss, adjusted for the effect of
other items that are recorded directly to shareholders' equity. For the
13-weeks ended April 30, 2003, comprehensive loss included a minimum
pension liability
19
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
adjustment of $94 million which was subsequently eliminated through the
application of Fresh-Start accounting. For the 39-weeks ended October 30,
2002, the Predecessor Company recorded an adjustment to shareholders'
equity in accordance with SFAS No. 115, "Accounting for Certain Investments
in Debt and Equity Securities," of $2 million to reduce the value of its
investment in certain available-for-sale equity securities to current
market value. Comprehensive loss and net loss are equivalent for all other
periods presented.
16. RELATED PARTY TRANSACTIONS
During the second and third quarters of fiscal 2003, the Company
hired certain employees of ESL. William C. Crowley assumed the position of
Senior Vice President, Finance at the Company to assist primarily with
financial matters while continuing in his current role as President and
Chief Operating Officer of ESL and as a Director of Kmart Holding
Corporation. ESL's Vice President - Research, assumed the role of Vice
President - Real Estate for the Company and a former independent contractor
of ESL was hired to assist with our operational strategy and business
development.
17. INVENTORIES AND COST OF MERCHANDISE SOLD
For the periods ended January 29, 2003 and October 30, 2002,
inventory is accounted for using the LIFO method. Inventories valued on
LIFO at January 29, 2003 and October 30, 2002 were $190 million and $269
million lower, respectively than the amounts that would have been reported
under the FIFO method. As previously discussed, we elected to change our
method of accounting for merchandise inventories from LIFO to FIFO; see
Note 3 - Fresh Start Accounting.
18. INVESTMENTS IN AFFILIATED RETAIL COMPANIES
Kmart footwear departments are operated under a license agreement
with the Meldisco subsidiaries of Footstar, Inc. ("FTS"), substantially all
of which are 49% owned by Kmart and 51% owned by FTS. We have been advised
that FTS will be restating its financial statements for prior periods. As a
result, we have not received final financial statements for fiscal 2002 or
the first three quarters of fiscal 2003 for Meldisco at the time of our
filing of this Quarterly Report on Form 10-Q. We received preliminary
financial statements from FTS which we believe provided a reliable basis to
estimate equity income as recognized in all periods presented in our
unaudited Condensed Consolidated Statements of Operations. For the 13-weeks
ended October 29, 2003, April 30, 2003 and October 30, 2002, the 26-weeks
ended October 29, 2003, and the 39-weeks ended October 30, 2002 Meldisco
had net sales of $201 million, $246 million, $261 million, $423 million and
$859 million, respectively. Although there can be no assurance until
Meldisco restates its financial statements, at this time, we do not expect
the restatement to have a material effect on our equity income from
Meldisco.
19. LIABILITIES SUBJECT TO COMPROMISE
Under Chapter 11 and in general, actions by creditors to collect
indebtedness owed prior to the Petition Date were stayed and certain other
pre-petition contractual obligations were not enforced against the Debtors.
The Predecessor Company received approval from the Court to pay certain
pre-petition liabilities including employee salaries and wages, benefits
and other employee obligations. Except for secured debt and capital lease
obligations, all pre-petition liabilities have been classified as
Liabilities subject to compromise in the unaudited Condensed Consolidated
Balance Sheets as of January 29, 2003 and October 30, 2002. On the
Effective Date, substantially all of the pre-petition liabilities were
cancelled. See Note 1 - Emergence from Chapter 11 Bankruptcy Protection for
a discussion of the discharge of pre-petition liabilities.
The following table summarizes the components of Liabilities
subject to compromise in our unaudited Condensed Consolidated Balance
Sheets as of January 29, 2003 and October 30, 2002:
20
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
PREDECESSOR COMPANY
------------------------------
JANUARY 29, OCTOBER 30,
2003 2002
----------- -----------
Debt and notes payable $ 3,348 $ 3,324
Accounts payable 2,343 2,262
Pension Obligation 741 180
Closed store reserves 722 705
General liability and workers compensation 320 261
Taxes payable 285 162
Other liabilities 210 234
----------- -----------
Total liabilities subject to compromise $ 7,969 $ 7,128
----------- -----------
20. OTHER COMMITMENTS AND CONTINGENCIES
Contingent Liabilities
The Predecessor Company had (i) guaranteed obligations for real
property leases of certain Debtors and certain of its former subsidiaries,
including, but not limited to, The Sports Authority, Inc., OfficeMax, Inc.
and Borders Group, Inc., some of which leases were assigned pre-petition;
(ii) contingent liabilities under real property leases assigned by the
Predecessor Company pre-petition; and (iii) guaranteed indebtedness of
other parties related to certain leased properties financed by industrial
revenue bonds. To the extent not expressly assumed or reinstated under the
Plan of Reorganization, these guarantees were discharged subject to
pre-petition claims administration, and to the extent expressly assumed or
reinstated, such guarantees are not considered to have a material adverse
effect on the Successor Company's financial position or results of
operations.
Legal Proceedings
Fair Labor Standards Litigation
Kmart Corporation is a defendant in five putative class actions
pending in California, all relating to the classification of assistant
managers and various other employees as "exempt" employees under the
federal Fair Labor Standards Act ("FLSA") and the California Labor Code,
and its alleged failure to pay overtime wages as required by these laws.
These wage-and-hour cases were all filed during 2001 and are currently
pending in the United States District Court for the Eastern District of
California (Henderson v. Kmart), and the Superior Courts of the State of
California for the Counties of Alameda, Los Angeles and Riverside
(Panossian v. Kmart, Wallace v. Kmart, Hancock v. Kmart, Pryor v. Kmart).
Wallace v. Kmart, and a multi-plaintiff case, Gulley v. Kmart, have been
dismissed. If these cases were determined adversely to Kmart, the resulting
damages could have a material adverse impact on our results of operations
and financial condition. However, there have been no class certifications,
all of the cases are stayed and enjoined as a result of the Predecessor
Company's Chapter 11 proceedings and confirmation of the Plan of
Reorganization and, based on our initial investigations, we believe that we
have meritorious defenses to each of these claims. We presently do not
expect to have any material financial exposure as a result of these cases.
Kmart is a defendant in a putative class action pending in
Oklahoma relating to the proper payment of overtime to hourly associates
under the FLSA. The plaintiff claims he represents a class of all current
and former employees who have been improperly denied overtime pay. This
case was filed on March 4, 2003 and is currently pending in the U.S.
District Court for the Northern District of Oklahoma. The parties have
reached a tentative agreement for settlement.
There is an increasing trend of high profile class action
litigation, particularly in the retail industry, against employers of large
numbers of people which allege violations of the FLSA. Other companies
against which these cases have been filed have paid significant settlements
and/or had significant judgments entered against them. Kmart has a large
employee base; however, no FLSA class actions against Kmart have yet been
certified. The actions described above are the only FLSA related matters
that are currently pending against Kmart.
21
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
To the extent that any awards are granted to the respective
plaintiffs, the Successor Company will be responsible only for the portion
of any such award relating to a post-petition period. Any portion of any
such award that is a monetary claim relating to a pre-petition period will
be addressed in accordance with the Plan of Reorganization.
Securities Action Litigation
Since February 21, 2002, five separate purported class actions
have been filed on behalf of purchasers of the Predecessor Company's common
stock. The initial complaints were filed on behalf of purchasers of common
stock between May 17, 2001 and January 22, 2002, inclusive, and named
Charles C. Conaway, former Chief Executive Officer and Chairman of the
Board of the Predecessor Company as the sole defendant. The complaints
filed in the United States District Court for the Eastern District of
Michigan, allege, among other things, that Mr. Conaway made material
misstatements or omissions during the alleged class period that inflated
the trading prices of the Predecessor Company's common stock and seek,
among other things, damages under Section 10(b) of the Securities Exchange
Act of 1934 and Rule 10b-5 promulgated thereunder. On October 15, 2002, an
amended consolidated complaint was filed that enlarged the class of persons
on whose behalf the action was brought to include purchasers of the
Predecessor Company's securities between March 13, 2001 and May 15, 2002,
and added former officers and PricewaterhouseCoopers LLP as defendants.
Kmart is not a defendant in this litigation. On September 19, 2003, the
complaints filed in the United States District Court for the Eastern
District of Michigan were dismissed with prejudice.
On July 31, 2002, attorneys for plaintiffs in the then pending
class action lawsuits filed a class proof of claim in the Court (the "Class
Proof of Claim") on behalf of the plaintiffs and all purchasers of the
Predecessor Company's common stock between May 17, 2001 and January 22,
2002, inclusive. The Class Proof of Claim, which is asserted against the
Debtors, reserved the right to identify additional claimants or members of
the class group in the future. In support of the Class Proof of Claim, the
claimants rely on the above-referenced class actions filed against the
parties. The claimants state that the grounds for liability are alleged
damages for violations of federal securities laws, including the Securities
Exchange Act of 1934, in connection with the purchase or acquisition of the
Predecessor Company's common stock by the claimants during the class
period. The Class Proof of Claim alleges that the Debtors are liable to the
claimants for damages in a sum not presently determinable but believed to
be not less than $700 million in the aggregate, plus interest, costs and
allowed attorneys' fees.
On April 26, 2002, a lawsuit was filed in the United States
District Court for the Eastern District of Michigan ("District Court") on
behalf of three limited partnerships (the "Softbank Funds") that purchased
stock of Bluelight.com, a subsidiary of the Predecessor Company, naming
Charles C. Conaway, as former CEO and Chairman of the Board of the
Predecessor Company, as the sole defendant. The Predecessor Company was not
a defendant in this litigation. The complaint alleges that Mr. Conaway
breached his fiduciary duty, took certain actions and made certain
misrepresentations that induced plaintiffs to exchange their Bluelight.com
stock for the Predecessor Company's stock and prevented plaintiffs from
realizing the market value of their stock. The complaint also alleges
violations of Section 10(b) of the Securities Exchange Act of 1934, Rule
10b-5 promulgated thereunder and Section 410 of the Michigan Uniform
Securities Act. On January 16, 2003, the District Court dismissed the
complaint. On February 14, 2003, a lawsuit was filed by the Softbank Funds
against Mr. Conaway in the Circuit Court of Cook County, Illinois ("Circuit
Court"). This lawsuit seeks $33 million from the defendant for alleged
breach of fiduciary duty in connection with the failure of the Predecessor
Company to cause the registration of the plaintiffs' shares of the
Predecessor Company's common stock to become effective. This claim is
essentially the same as count I of the District Court lawsuit that was
dismissed on January 16, 2003. On June 26, 2003, the Circuit Court
dismissed the complaint without prejudice. The Softbank Funds filed a First
Amended Complaint seeking $33 million from Mr. Conaway and a motion for
Voluntary Dismissal of the Complaint on July 25, 2003. On August 4, 2003,
the Circuit Court dismissed the First Amended Complaint without prejudice.
On July 31, 2003, the Softbank Funds filed a Petition for Discovery Before
Suit to Identify Responsible Persons (the "Petition") against Conaway and
other parties (but not Kmart) involved in the Bluelight.com transaction. In
response to the Petition, the Circuit Court entered an order allowing
limited discovery by the Softbank Funds pursuant to an agreement as to the
scope of the pre-suit discovery agreed to by the parties served with the
Petition.
On May 2, 2002, the Softbank Funds filed proofs of claim with the
Court in an aggregate amount equal to $56 million.
The foregoing actions, which were brought by or on behalf of
holders of common stock of the Predecessor Company and are referred to as
"Securities Actions" under the Plan of Reorganization, were brought against
persons other than the Company and, therefore, were not extinguished upon
emergence from Chapter 11. Accordingly, to the extent that any awards are
granted to the respective plaintiffs under these actions and a claim is
allowed against the Predecessor Company under the proofs of claim
previously filed with the Court, the allowed claim, to the extent not
22
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
covered by insurance, will be addressed and treated solely in accordance
with the Plan of Reorganization. Except as noted above, the foregoing
actions relate to periods occurring prior to the Petition Date. Any
obligations which we may have with respect to a claim for indemnification
by any of the defendants will be governed by the terms of the Plan of
Reorganization.
On March 18, 2002, a purported class action was filed in the
United States District Court for the Eastern District of Michigan on behalf
of participants or beneficiaries of the Kmart Corporation Retirement
Savings Plan against various current and former employees and directors of
Kmart Corporation alleging breach of fiduciary duty under the Employee
Retirement Income Security Act for excessive investment in the Predecessor
Company's stock; failure to provide complete and accurate information about
the Predecessor Company's common stock; and failure to provide accurate
information regarding the Predecessor Company's financial condition.
Subsequently, amended complaints were filed that added additional current
and former employees and directors of the Predecessor Company as
defendants. Kmart is not a defendant in this litigation. On July 29, 2002,
the plaintiffs filed proofs of claim with the Court in an aggregate amount
equal to $180 million. On August 20, 2003, the defendants' motion to
dismiss the purported class action in the United States District Court for
the Eastern District of Michigan was denied.
Other and Routine Actions
Kmart is a defendant in a pre-petition putative nationwide class
action pending in Colorado and a post-petition putative class action
involving eight stores in New York relating to proper access to facilities
for the disabled under the Americans with Disabilities Act ("ADA"). The
Colorado class action is pending in the United States District Court in
Denver, Colorado. The parties are awaiting the court's decision on class
certification and responsibility for attorney fees. At this time, the
likelihood of a material unfavorable outcome is not considered probable. We
have experienced an increase in ADA public accommodation lawsuits filed
against Kmart stores since emergence from bankruptcy.
On November 7, 2003 Kmart filed suit in the United States District
Court for the Eastern District of Michigan against Capital One Bank,
Capital One, F.S.B., and Capital One Services, Inc. (collectively, "Capital
One"). The complaint alleges breach of contract, breach of the covenant of
good faith and fair dealing, unjust enrichment, promissory estoppel and
tortious interference with business relationships and prospective economic
advantage arising out of Capital One's alleged failure to market and
support a co-branded credit card under an agreement the parties had with
respect to a Kmart MasterCard. We are seeking monetary damages.
On November 18, 2003, the Creditor Trust filed suit in the Oakland
County (Michigan) Circuit Court against six former executives of the
Predecessor Company (the "Officer Defendants") and PricewaterhouseCoopers
LLP, the Predecessor Company's independent auditor. The allegations against
the Officer Defendants include, among other things, violations of their
fiduciary duty, their duty of good faith and loyalty, and their duty of
care, and breach of contract related to the Officer Defendants' employment
agreements with the Predecessor Company. Allegations against
PricewaterhouseCoopers LLP include, among other things, breach of duty of
care owed to the Predecessor Company and breach of contract arising out of
consulting agreements between PricewaterhouseCoopers LLP and the
Predecessor Company. Kmart is not a defendant in this litigation.
In Capital Factors v. Kmart Corporation, the United States
District Court for the Northern District of Illinois ruled that the Court
did not have the authority to authorize the payment of pre-petition claims
of certain trade vendors by the Predecessor Company. We appealed that
ruling and the case is pending in the Seventh Circuit Court of Appeals. As
a result of the District Court's ruling, the Company has been contacting
vendors that received trade vendor payments and have requested that they
return the money they received to the Company. The Company is currently in
active settlement negotiations with numerous vendors pursuant to which the
vendors would repay a percentage of the money they received in return for
the Company's agreement not to seek a greater amount in the event the
District Court's ruling is affirmed on appeal.
We are a party to a substantial number of other claims, lawsuits
and pending actions which are routine and incidental to our business. To
the extent that any claim relates to a contract which was assumed by us
when we emerged or relates to a time period occurring after the Petition
Date, the Successor Company shall be responsible for any damages which may
result. In addition, certain contracts allow for damage provisions or other
repayments as a result of our termination of the contracts.
23
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED)
We assess the likelihood of potential losses on an ongoing basis,
and when they are considered probable and reasonably estimable, we record
an estimate of the ultimate outcome. If there is no single point estimate
of loss that is considered more likely than others, an amount representing
the low end of the range of possible outcomes is recorded. Our balance
sheet as of October 29, 2003 only reflects potential losses for which the
Successor Company may have ultimate responsibility.
Investigative Matters
Prior to emergence, the Predecessor Company had been provided with
copies of anonymous letters that were sent to the SEC, the Predecessor
Company's independent auditors, directors, legal counsel and others,
expressing concern with respect to various matters. The letters purported
to be sent by certain of our employees. The letters were referred to the
Predecessor Company's Audit Committee of the Board of Directors, which
engaged outside counsel to review and investigate the matters set forth in
the letters. We are cooperating with the SEC and the United States
Attorney's office for the Eastern District of Michigan with respect to the
investigations of these matters. The staff of the SEC has expressed
concerns about and is investigating the manner in which we recorded vendor
allowances before the change in accounting principles at the end of fiscal
2001 and about the disclosure of certain events bearing on the Predecessor
Company's liquidity in the fall of 2001. The U.S. Attorney for the Eastern
District of Michigan also is undertaking an inquiry into these matters. A
detailed discussion of the investigation and stewardship review, as well as
the results of such investigation and review, is contained in the
Disclosure Statement, which we filed as Exhibit 2.2 to our Current Report
on Form 8-K dated March 7, 2003.
After consultation with the statutory committees in the Chapter 11
proceedings, the Predecessor Company determined that the Creditor Trust was
the preferred available mechanism for resolving any legal claims that the
Company might have based on information from these investigations. As part
of the Plan of Reorganization, the trustee of the Creditor Trust is charged
with responsibility for determining which claims to pursue and, thereafter,
litigating such claims. As discussed above, the Creditor Trust has begun
litigation against former officers based on information from these
investigations.
21. RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS
In November 2002, the EITF reached a final consensus on EITF Issue
No. 02-16, "Accounting by a Customer (Including a Reseller) for Certain
Consideration Received from a Vendor" ("EITF Issue No. 02-16"). This issue
addressed the income statement classification of cash consideration
received from a vendor and the recognition criteria for performance-driven
vendor rebates or refunds. This consensus, which was effective for all
arrangements entered into after December 31, 2002, resulted in certain
co-op advertising recoveries, which would previously have been recorded as
a reduction of SG&A, being recorded as a reduction of Cost of sales, buying
and occupancy. We adopted EITF Issue No. 02-16 at the beginning of fourth
quarter 2002.
In April 2003, the FASB issued SFAS No. 149, "Amendment of
Statement 133 on Derivative Instruments and Hedging Activities" ("SFAS No.
149"). This statement amends and clarifies the accounting for derivative
instruments and hedging activities under SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities." As required by SOP 90-7,
the Company had to adopt, upon emergence from bankruptcy, all accounting
guidance that would otherwise become effective within the next twelve
months. We adopted SFAS No. 149 effective April 30, 2003. There was no
impact to the Company upon the adoption of SFAS No. 149.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity"
("SFAS No. 150"). SFAS No. 150 requires certain financial instruments with
characteristics of both liabilities and equity to be classified as
liabilities. As required by SOP 90-7, the Company had to adopt, upon
emergence from bankruptcy, all accounting guidance that would otherwise
become effective within the next twelve months. We adopted SFAS No. 150
effective April 30, 2003. We did not have any financial instruments that
were classified as equity prior to the adoption of SFAS No. 150 that were
required to be reclassified to liabilities.
22. SUBSEQUENT EVENTS
In December 2003, we notified employees of our decision to close
one of our distribution centers, in order to improve productivity and
efficiency through our logistics network. The closing of this distribution
center will not have a material impact to the Company's financial condition
or results of operations.
24
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL
CONDITION
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
This Form 10-Q, as well as other statements or reports made by or
on behalf of Kmart, may contain or may incorporate by reference material
which includes forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995 that reflect, when made, Kmart's
current views with respect to current events and financial performance.
Statements, other than those based on historical facts, which address
activities, events or developments that we expect or anticipate may occur
in the future, are forward-looking statements, which are based upon a
number of assumptions concerning future conditions that may ultimately
prove to be inaccurate. Such forward-looking statements are and will be, as
the case may be, subject to many risks, uncertainties and factors relating
to Kmart's operations and business environment, which may cause the actual
results of Kmart to be materially different from any future results,
express or implied, by such forward-looking statements. Factors that could
cause actual results to differ materially from these forward-looking
statements include, but are not limited to, the following:
- general economic conditions,
- weather conditions, including those which affect buying patterns of
our customers,
- marketplace demand for the products of our key brand partners, as well
as the engagement of appropriate new brand partners,
- changes in consumer spending and our ability to anticipate buying
patterns and implement appropriate inventory strategies,
- competitive pressures and other third party actions, including
pressures from pricing and other promotional activities of
competitors, as well as new competitive store openings,
- the resolution of allowed claims for which we are obligated to pay
cash under the Plan of Reorganization,
- our ability to timely acquire desired goods in appropriate quantities
and/or fulfill labor needs at planned costs,
- our ability to properly monitor our inventory needs and remain
in-stock,
- our ability to successfully implement business strategies and
otherwise execute planned changes in various aspects of the business,
- our ability to operate pursuant to our Credit Facility,
- outcome of negotiations on collective bargaining agreements and other
labor issues with unions representing employees in our distribution
centers,
- regulatory and legal developments,
- our ability to attract, motivate and/or retain key executives and
associates,
- our ability to attract and retain customers,
- our ability to offset the negative effects that filing for
reorganization under Chapter 11 had on our business, including the
loss in customer traffic and the impairment of vendor relations,
- our ability to maintain normal terms with vendors and service
providers,
- our ability to maintain contracts, including leases, that are critical
to our operations,
- our ability to implement our long-term strategy and/or develop a
market niche,
- our ability to fund and execute our business plan, and
- other factors affecting business beyond our control.
Consequently, all of the forward-looking statements are qualified
by these cautionary statements and there can be no assurance that the
results or developments anticipated will be realized or that they will have
the expected effects on our business or operations. The forward-looking
statements contained herein or otherwise that we make or are made on our
behalf speak only as of the date of this report, or if not contained
herein, as of the date when made, and we do not undertake to update these
risk factors or such forward-looking statements.
25
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL
CONDITION - (CONTINUED)
OVERVIEW
On the Effective Date, the Predecessor Company emerged from
reorganization proceedings under Chapter 11 of the federal bankruptcy laws
pursuant to the terms of the Debtors' Plan of Reorganization. The
Predecessor Company became a wholly-owned subsidiary of Kmart Management
Corporation, which is a newly-formed, wholly-owned subsidiary of a
newly-created holding company, Kmart Holding Corporation. Kmart is the
nation's third largest discount retailer and the sixth largest general
merchandise retailer.
On the Petition Date, the Predecessor Company and 37 of its U.S.
subsidiaries filed voluntary petitions for reorganization under Chapter 11.
On January 24, 2003, the Debtors filed a Plan of Reorganization and related
Disclosure Statement and on February 25, 2003, filed the Plan of
Reorganization and a related amended Disclosure Statement with the Court.
The Plan of Reorganization received the formal endorsement of the statutory
creditors committees and, as modified, was confirmed by the Court by order
docketed on April 23, 2003.
In accordance with SOP 90-7, we adopted Fresh-Start accounting as
of the Confirmation Date. However, in light of the proximity of such date
to our fiscal quarter end, we applied, for accounting purposes, the effects
of Fresh-Start accounting and the Plan of Reorganization, including the
cancellation of the existing common stock and the issuance of the new
common stock, "as if" they occurred on April 30, 2003. Upon applying
Fresh-Start accounting, a new reporting entity, the Successor Company, is
deemed to be created and the recorded amounts of assets and liabilities are
adjusted to reflect their estimated fair values (see Note 3 - Fresh-Start
Accounting). The reported historical financial statements of the
Predecessor Company for periods ended prior to May 1, 2003 generally are
not comparable to those of the Successor Company. In this Quarterly Report
on Form 10-Q, references to our results of operations for the 13-weeks
ended April 30, 2003 and periods ended in fiscal 2002 refer to the
Predecessor Company.
At the time of emergence, the Plan Investors made a substantial
investment in the Successor Company in furtherance of our financial and
operational restructuring plan. The Plan Investors and their affiliates
received approximately 32 million shares of Kmart Holding Corporation's new
common stock in satisfaction of pre-petition claims they held, and we
issued 14 million shares of new common stock to affiliates of ESL and to
Third Avenue, in exchange for $127 million, net of commitment fees and Plan
Investor expenses of $13 million. In addition, we issued a 9%, $60 million
principal amount convertible note, due in May 2004, to the affiliates of
ESL. The terms of the agreement allow the affiliates of ESL the right to
extend the maturity of the convertible note for an additional two years
with notice prior to March 2004. With respect to the 9% convertible note,
the principal is convertible at any time, at the option of the holder, into
new shares of common stock at a conversion price equal to $10 per share.
ESL also was granted the option, exercisable in its own discretion prior to
May 6, 2005, to purchase from the Successor Company approximately 6.6
million new shares of common stock at a price of $13 per share. A portion
of the option was assigned to Third Avenue. The investment was made
pursuant to the Investment Agreement.
ESL and its affiliates beneficially own over 50% of the common
stock of the Successor Company, including shares received in exchange for
pre-petition obligations, as well as shares obtainable upon exercise of
options and conversion of the $60 million convertible note issued to
affiliates of ESL. Each of the Plan Investors is represented on our Board
of Directors.
The Plan of Reorganization became effective on May 6, 2003, at
which time all then-outstanding equity securities of the Predecessor
Company, as well as substantially all of its pre-petition liabilities, were
cancelled. Holders of the Predecessor Company's stock may receive up to
2.5% of the recoveries under the Creditor Trust; see Note 1 - Emergence
from Chapter 11 Bankruptcy Protection. New common stock of the Successor
Company was issued in satisfaction of certain of those pre-petition
liability claims; see Note 1 - Emergence from Chapter 11 Bankruptcy
Protection. The new securities of the Successor Company issued on the
Effective Date pursuant to the Plan of Reorganization and related
transactions, consisted of 89,677,509 shares of new common stock and
options to purchase 8,324,883 shares of new common stock. During the third
quarter of fiscal 2003, 151,738 of the options to purchase shares of new
common stock were cancelled. All of the shares of new common stock issued
on May 6, 2003 were or will be distributed pursuant to the Plan of
Reorganization in satisfaction of pre-petition claims, except for 14
million shares of new common stock of the Successor Company issued to
affiliates of ESL and Third Avenue for $127 million, net of commitment fees
and Plan Investor expenses of $13 million. All such shares were issued
without registration under the Securities Act of 1933 in reliance on the
provisions of Section 1145 of the Bankruptcy Code and Section 4(2) of the
Securities Act of 1933. In addition, as part of the Plan of Reorganization,
the Creditor Trust was established for the
26
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL
CONDITION - (CONTINUED)
benefit of the Predecessor Company's pre-petition creditors and equity
holders, to pursue claims which arose from the Predecessor Company's prior
accounting and stewardship investigations.
The ability of Kmart to continue as a going concern is predicated
upon numerous issues, including our ability to achieve the following:
- implementing our business plan and returning Kmart to
profitability;
- taking appropriate action to offset the negative effects that the
Chapter 11 filing had on our business, including the loss in
customer traffic and the impairment of vendor relations;
- operating within the framework of our Credit Facility, including
its limitations on capital expenditures, its financial covenants,
our ability to generate cash flows from operations or seek other
sources of financing and the availability of projected vendor
terms; and
- attracting, motivating and/or retaining key executives and
associates.
These challenges are in addition to those operational and
competitive challenges faced by Kmart in connection with our business as a
discount retailer. Refer to the "Cautionary Statement Regarding
Forward-Looking Information" above.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements requires that we make
estimates and assumptions that affect the reported amounts of assets and
liabilities at the date of the financial statements and revenues and
expenses during the period. We base our estimates on historical experience
and other assumptions that we believe to be reasonable under the
circumstances, the results of which form the basis for making judgments
about carrying values of assets and liabilities that are not readily
apparent from other sources. We continually evaluate the information used
to make these estimates as our business and the economic environment
change. We have disclosed our critical accounting policies and estimates in
our Current Report on Form 8-K, filed with the SEC on August 8, 2003. See
Note 3 - Fresh Start Accounting for a discussion of our change from the
LIFO method of inventory valuation to the FIFO method for our accounting
for merchandise inventories.
RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS
For a comprehensive discussion see Note 21 - Recently Adopted
Accounting Pronouncements.
27
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL
CONDITION - (CONTINUED)
As previously discussed, due to the application of Fresh-Start
accounting, the reported historical financial statements of the Predecessor
Company for periods prior to May 1, 2003 generally are not comparable to
those of the Successor Company. Therefore, the Results of Operations and
the Liquidity and Financial Condition of the Successor Company have not
been combined with those of the Predecessor Company in this Management's
Discussion and Analysis.
RESULTS OF OPERATIONS
The following tables are presented solely to complement
management's discussion and analysis of results of operations.
SUCCESSOR PREDECESSOR
COMPANY COMPANY
---------------- ----------------
13-WEEKS ENDED 13-WEEKS ENDED
OCTOBER 29, 2003 OCTOBER 30, 2002
---------------- ----------------
Sales $ 5,092 $ 6,459
Cost of sales, buying and occupancy 3,925 5,353
---------------- ----------------
Gross margin 1,167 1,106
Selling, general and administrative expenses 1,178 1,448
Restructuring, impairment and other charges - (6)
Equity income in unconsolidated subsidiaries (1) (8)
---------------- ----------------
Loss before interest, reorganization items, income
taxes and discontinued operations (10) (328)
Interest expense, net 24 37
Reorganization items, net - 4
Benefit from income taxes (11) (7)
---------------- ----------------
Loss before discontinued operations (23) (362)
Discontinued operations - (21)
---------------- ----------------
Net loss $ (23) $ (383)
================ ================
13-WEEKS ENDED OCTOBER 29, 2003 COMPARED TO 13-WEEKS ENDED OCTOBER 30, 2002
Same-store sales and total sales decreased 8.6% and 21.2%,
respectively, for the 13-weeks ended October 29, 2003, as compared to the
13-weeks ended October 30, 2002. Same-store sales include sales of all open
stores that have been open for greater than 13 full months. The decrease in
same-store sales is due primarily to the year-over-year comparison with
several Company-wide promotional events that were taking place a year ago,
and the reduction in the frequency of mid-week advertising circulars in the
current year. The decrease in total sales is attributable to the decrease
in same-store sales and the closure of 316 stores during the first quarter
of fiscal 2003.
Gross margin increased $61 million to $1,167 million for the
13-weeks ended October 29, 2003, from $1,106 million for the 13-weeks ended
October 30, 2002. Gross margin, as a percentage of sales, increased to
22.9% for the 13-weeks ended October 29, 2003, from 17.1% for the
comparable period in the prior year. The overall improvement in gross
margin rate is primarily attributable to lower distribution costs as a
result of the Company's in-sourcing of the distribution of pantry, food and
consumable products, lower depreciation expense resulting from impairment
charges taken while operating in bankruptcy and as a result of the
write-off of long-lived assets in conjunction with the application of
Fresh-Start accounting, lower shrinkage, supplier cost reductions and an
improved sales mix as a result of a
28
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL
CONDITION - (CONTINUED)
decrease in promotional activity as referenced in the sales summary above.
Gross margin also benefited from the reclassification of co-op advertising
recoveries recorded in Cost of sales, buying and occupancy in 2003, as
required under generally accepted accounting principles. These improvements
in the gross margin rate were partially offset by the impact of clearance
markdowns.
Selling, general and administrative expenses (SG&A), which
includes advertising costs (net of co-op recoveries of $108 million in
2002), decreased $270 million to $1,178 million for the 13-weeks ended
October 29, 2003 from $1,448 million for the 13-weeks ended October 30,
2002. The decrease in SG&A is primarily due to the reduction of our store
base after closing 316 stores during the first quarter of fiscal 2003, as
well as a decrease in payroll and other related expenses from corporate
headquarters' cost reduction initiatives. In addition, lower depreciation
expense resulting from impairment charges taken while operating in
bankruptcy and the write-off of long-lived assets in conjunction with
Fresh-Start accounting combined with a decrease in advertising expense
contributed to the improvement in SG&A expenses. Collectively, these
reductions were partially offset by the impact of the reclassification of
co-op advertising recoveries, as discussed above. SG&A, as a percentage of
sales, increased to 23.1% for the 13-weeks ended October 29, 2003, from
22.4% for the comparable period in the prior year. As a percent of sales,
the increase is due primarily to the reclassification of co-op recoveries
as discussed above.
Loss before interest, reorganization items, income taxes and
discontinued operations for the 13-weeks ended October 29, 2003 was $10
million, or (0.2%) of sales, as compared to a loss of $328 million, or
(5.1%) of sales, for the 13-weeks ended October 30, 2002. The decrease in
operating loss from the comparable period in the prior year was due to the
decrease in SG&A and the increase in gross margin, as discussed above.
Interest expense, net for the 13-weeks ended October 29, 2003 and
October 30, 2002 was $24 million and $37 million, respectively. The
decrease in net interest expense is primarily attributable to the decrease
in our capital lease interest expense as a result of the store closings.
While operating under Chapter 11, the Predecessor Company was prohibited
from paying interest on unsecured pre-petition debt. Interest at the stated
contractual amount on unsecured debt that was not charged to earnings for
the 13-weeks ended October 30, 2002 was $104 million.
Effective income tax rate was (32.4%) and (1.9%) for the 13-weeks
ended October 29, 2003 and October 30, 2002, respectively. See Note 13 -
Income Taxes.
Significant changes were made to the April 30, 2003 unaudited
Condensed Consolidated Balance Sheet to reflect the application of
Fresh-Start accounting. See Note 3 - Fresh Start Accounting for further
details of the adjustments.
SUCCESSOR
COMPANY PREDECESSOR COMPANY
---------------- -------------------------------------------------
26-WEEKS ENDED 26-WEEKS ENDED 13-WEEKS ENDED 13-WEEKS ENDED
OCTOBER 29, 2003 OCTOBER 30, 2002 APRIL 30, 2003 MAY 1, 2002
---------------- ---------------- -------------- --------------
Sales $ 10,744 $ 13,642 $ 6,181 $ 7,181
Cost of sales, buying and occupancy 8,344 11,265 4,762 6,519
----------- ---------- ---------- ---------
Gross margin 2,400 2,377 1,419 662
Selling, general and administrative expenses 2,401 2,983 1,421 1,670
Restructuring, impairment and other charges - 8 37 -
Equity income in unconsolidated subsidiaries (3) (22) (7) (5)
----------- ---------- ---------- ---------
Income (loss) before interest, reorganization items, income
taxes and discontinued operations 2 (592) (32) (1,003)
Interest expense, net 45 69 57 33
Reorganization items, net - 8 769 251
Benefit from income taxes (15) (7) (6) (12)
----------- ---------- ---------- ---------
Loss before discontinued operations (28) (662) (852) (1,275)
Discontinued operations - (14) (10) (167)
----------- ---------- ---------- ---------
Net loss $ (28) $ (676) $ (862) $ (1,442)
----------- ---------- ---------- ---------
29
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL
CONDITION - (CONTINUED)
26-WEEKS ENDED OCTOBER 29, 2003 COMPARED TO 26-WEEKS ENDED OCTOBER 30, 2002
Same-store sales and total sales decreased 6.9% and 21.2%,
respectively, for the 26-weeks ended October 29, 2003 as compared to the
26-weeks ended October 30, 2002. Same-store sales include sales of all open
stores that have been open for greater than 13 full months. The decrease in
same-store sales is due primarily to the year-over-year comparison with
several Company-wide promotional events that were taking place a year ago.
The decrease in total sales is attributable to the decrease in same-store
sales and the closure of 316 stores during the first quarter of fiscal
2003.
Gross margin increased $23 million to $2,400 million, for the
26-weeks ended October 29, 2003, from $2,377 million for the 26-weeks ended
October 30, 2002. Gross margin, as a percentage of sales, increased to
22.3% for the 26-weeks ended October 29, 2003, from 17.4% for the 26-weeks
ended October 30, 2002. The overall improvement in gross margin rate is
primarily attributable to lower distribution costs as a result of the
Company's in-sourcing of the pantry, food and consumable products, lower
depreciation expense resulting from impairment charges taken while
operating in bankruptcy and as a result of the write-off of long-lived
assets in conjunction with the application of Fresh-Start accounting, lower
shrinkage, supplier cost reductions and an improved sales mix as a result
of a decrease in promotional activity as referenced in the sales summary
above. Gross margin also benefited from the reclassification of co-op
advertising recoveries recorded in Cost of sales, buying and occupancy in
2003, as required under generally accepted accounting principles. These
improvements in the gross margin rate were partially offset by the impact
of clearance markdowns.
SG&A, which includes advertising costs (net of co-op recoveries of
$199 million in fiscal 2002) decreased $582 million for the 26-weeks ended
October 29, 2003 to $2,401 million, or 22.3% of sales, from $2,983 million,
or 21.9% of sales, for the 26-weeks ended October 30, 2002. The decrease in
SG&A is primarily due to the reduction of our store base after closing 316
stores during the first quarter of fiscal 2003, as well as a decrease in
payroll and other related expenses from corporate headquarters' cost
reduction initiatives. In addition, lower depreciation expense resulting
from impairment charges taken while operating in bankruptcy and the
write-off of long-lived assets in conjunction with Fresh-Start accounting
combined with a decrease in advertising expense contributed to the
improvement in SG&A expenses. Collectively, these reductions were partially
offset by the impact of the reclassification of co-op advertising
recoveries, as discussed above.
Income (Loss) before interest, reorganization items, income taxes
and discontinued operations for the 26-weeks ended October 29, 2003 was $2
million as compared to a loss of ($592) million for the same period of the
prior year. The decrease in operating loss from the comparable period in
the prior year was primarily due to the decrease in SG&A and the increase
in gross margin, as discussed above.
Interest expense, net for the 26-weeks ended October 29, 2003 and
October 30, 2002 was $45 million and $69 million, respectively. The
decrease in interest expense is primarily attributable to the decrease in
our capital lease interest expense as a result of store closings.
Effective income tax rate was (34.9%) and (1.0%) for the 26-weeks
ended October 29, 2003 and October 30, 2002, respectively.
13-WEEKS ENDED APRIL 30, 2003 COMPARED TO 13-WEEKS ENDED MAY 1, 2002
Same-store sales and total sales decreased 3.2% and 13.9%,
respectively, for the 13-weeks ended April 30, 2003 as compared to the
13-weeks ended May 1, 2002. The decrease in same-store sales was primarily
due to sluggish retail sales as a result of consumer concerns over the war
with Iraq, general economic factors and unseasonable weather conditions.
Same-store sales include sales of all open stores that have been open for
greater than 13 full months. The decrease in total sales was attributable
to the decrease in same-store sales and the closure of 283 stores during
the second quarter of fiscal 2002.
Gross margin increased $757 million to $1,419 million, for the
13-weeks ended April 30, 2003, from $662 million for the 13-weeks ended May
1, 2002. Gross margin, as a percentage of sales, increased to 23.0% for the
13-weeks ended April 30, 2003, from 9.2% for the 13-weeks ended May 1,
2002. The increase in gross margin was primarily related to the charge of
$625 million recorded in the first quarter of 2002 in conjunction with the
store closing
30
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL
CONDITION - (CONTINUED)
liquidation sales. In addition, our gross margin rate was positively
affected by a favorable gross margin rate realized from closing store
liquidation sales, a decrease in sales of food and consumables, which carry
lower margins, and a decrease in promotional markdowns, partially offset by
the impact of clearance markdowns.
SG&A, which includes advertising costs (net of co-op recoveries of
$69 million in fiscal 2002) decreased $249 million for the 13-weeks ended
April 30, 2003 to $1,421 million, or 23.0% of sales, from $1,670 million,
or 23.3% of sales, for the 13-weeks ended May 1, 2002. The decrease in SG&A
was primarily the result of the closure of 283 stores in the second quarter
of 2002 and lower payroll and other related expenses in the first quarter
of 2003 stemming from corporate headquarters cost reduction initiatives. In
addition, SG&A was favorably impacted by a decrease in utility expenses and
electronic media advertising, and lower depreciation expense as a result of
the impairment charge recorded in the fourth quarter of fiscal 2002.
Offsetting the positive impact of these items was an increase in pension
and workers' compensation expense and the impact of the previously
discussed reclassification of co-op advertising recoveries in accordance
with EITF 02-16.
Loss before interest, reorganization items, income taxes and
discontinued operations for the 13-weeks ended April 30, 2003 was $32
million, or (0.5%) of sales, as compared to a loss of $1,003 million, or
(14.0%) of sales, for the same period of the prior year. The decrease in
operating loss was primarily due to the 2002 charge for accelerated
inventory markdowns of $625 million and the decrease in SG&A as previously
discussed.
Interest expense, net for the 13-weeks ended April 30, 2003 and
May 1, 2002 was $57 million and $33 million, respectively. The increase in
interest expense was due to accelerated amortization on debt issuance costs
related to our DIP Credit Facility in conjunction with our emergence from
Chapter 11. Interest at the stated contractual amount on unsecured debt
that was not charged to earnings for the 13-weeks ended April 30, 2003 and
May 1, 2002 was $67 million and $69 million, respectively.
Effective income tax rate was (0.7%) and (0.9%) for the 13-weeks
ended April 30, 2003 and May 1, 2002, respectively, see Note 13 - Income
Taxes.
39-WEEKS ENDED OCTOBER 30, 2002 (PREDECESSOR COMPANY)
Total sales were $20,823 million for the 39-weeks ended October
30, 2002. Same-store sales decreased (7.6%). Same-store sales include sales
of all open stores that have been open for greater than 13 full months.
Gross margin for the 39-weeks ended October 30, 2002 was $3,039
million, or 14.6% of sales.
SG&A, which includes advertising costs, was $4,653 million, or
22.4% of sales for the period. The Predecessor Company recorded $268
million of co-op advertising recoveries in SG&A prior to the adoption of
EITF No. 02-16, as discussed above.
Operating loss before interest, reorganization items, income taxes
and discontinued operations for the 39-weeks ended October 30, 2002 was
($1,595) million, or (7.7%) of sales.
Interest expense, net was $102 million for the 39-weeks ended
October 30, 2002.
Effective income tax rate was (1.0%) for the 39-weeks ended
October 30, 2002. See Note 13 - Income Taxes.
LIQUIDITY AND FINANCIAL CONDITION
26-WEEKS ENDED OCTOBER 29, 2003 (SUCCESSOR COMPANY)
Our cash needs are satisfied through working capital generated by
our business and availability under our Credit Facility. The level of cash
generated by our business is dependent, in significant part, on our level
of sales and the credit extended by our vendors. Since the Predecessor
Company's filing for reorganization under Chapter 11, most of our vendors
continue to support us and have resumed normal trade terms. We continue to
focus on our vendor relationships and do not expect to experience any
significant disruption of terms with our vendors. Should we experience a
significant disruption of terms with our vendors, sales fail to improve,
the Credit Facility for any reason becomes unavailable and/or
31
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL
CONDITION - (CONTINUED)
actual results differ materially from those projected, our compliance with
financial covenants and our cash resources could be adversely affected.
On May 6, 2003, our $2 billion Credit Facility financed by General
Electric Capital Corporation, Fleet Retail Finance, Inc. and Bank of
America, N.A. became effective. Debt issuance costs associated with the
Credit Facility totaled $58 million and will be amortized through May 2006.
The Credit Facility is a revolving facility under which Kmart Corporation
is the debtor and its parent entities and most direct and indirect
subsidiaries are guarantors. The Credit Facility is collateralized by first
liens on inventory, the proceeds thereof, and certain intellectual property
necessary to realize the value of the inventory. Borrowings under the
Credit Facility currently bear interest at either the Prime rate plus 2.5%
per annum or the LIBOR rate plus 3.5% per annum, at our discretion, which
interest rate margin may be reduced after the first anniversary of the
effective date of the Credit Facility if we achieve certain EBITDA levels.
In addition, we are required to pay a fee of 0.75% per annum on the
unutilized commitment under the Credit Facility. The Credit Facility
financial covenants include a requirement that we maintain certain
availability minimums, and failure to do so triggers additional required
minimum levels of EBITDA. The Credit Facility also contains other customary
covenants, including certain reporting requirements and covenants that
restrict our ability to incur or create liens, indebtedness and guarantees,
make investments, pay dividends or make other equity distributions, sell or
dispose of stock or assets, change the nature of our business and enter
into affiliate transactions , mergers and consolidations. Failure to
satisfy these covenants would (in some cases, after the receipt of notice
and/or the expiration of a grace period) result in an event of default that
could result in our inability to access the funds necessary to maintain our
operations. As of October 29, 2003 we had utilized $392 million of the
Credit Facility for letters of credit issued for ongoing import purchasing
operations, contractual and regulatory purposes. We have experienced
incremental collateral requirements to support our self-insurance programs
in the form of letters of credit. Total availability under the Credit
Facility at October 29, 2003 is approximately $1.6 billion. We do not
currently expect to borrow from the Credit Facility in fiscal 2003.
Effective December 1, 2003, we voluntarily reduced the size of our Credit
Facility to $1.5 billion to reduce the overall cost of the facility to
reflect the improvement in the Company's financial condition. The Company
continues to explore various alternatives to reduce the cost and improve
the terms of our Credit Facility.
Net cash used for operating activities was $396 million for the
26-weeks ended October 29, 2003. Net cash used for operating activities was
primarily driven by payments of $470 million during the second and third
quarters of fiscal 2003 for exit costs and reorganization items. The
payments for exit costs and reorganization items include $243 million to
pre-petition lenders, $89 million for reclamation claims settlements, $81
million to retain bankruptcy advisors and $69 million under the KERP.
Net cash provided by investing activities was $32 million for the
26-weeks ended October 29, 2003 and was primarily the result of proceeds of
$92 million from the sale of property classified as held for sale (see Note
11 - Property Held for Sale), partially offset by $61 million for capital
expenditures primarily related to the purchase of seven stores and one
distribution center that were previously leased. In the normal course of
business, the Company considers opportunities to purchase leased operating
properties, as well as offers to sell owned, or assign leased, operating
and non-operating properties. In addition, the Company reviews leases that
will expire in the short-term in order to determine the appropriate action
to take in respect with the lease. We consider the merits of each action
and execute transactions considered to be favorable to the Company only
after appropriate due diligence.
Net cash provided by financing activities was $73 million for the
26-weeks ended October 29, 2003. Upon emergence from bankruptcy, the
Company received proceeds of $140 million from the issuance of common stock
to the Plan Investors and proceeds of $60 million from the issuance of the
convertible note to affiliates of ESL. The positive impact of these items
was offset by payments made for other financing arrangements.
On August 28, 2003, the Company's Board of Directors approved the
repurchase of up to $10 million of the Company's outstanding stock for the
purpose of providing restricted stock grants to certain employees. The
repurchase was subject to the approval of the parties to the Credit
Facility, which was obtained. Certain of such grants are subject to
shareholder approval. During the third quarter of fiscal 2003 we
repurchased a total of 90,500 shares of common stock at a cost of
approximately $3 million.
32
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL
CONDITION - (CONTINUED)
13-WEEKS ENDED APRIL 30, 2003 (PREDECESSOR COMPANY)
Net cash provided by operating activities was $576 million for the
13-weeks ended April 30, 2003. Net cash provided by operating activities
was primarily driven by a decrease in inventory of $480 million due to
store liquidation sales and improved inventory management, partially offset
by a decrease in accounts payable.
Net cash provided by investing activities was $60 million for the
13-weeks ended April 30, 2003. Net cash provided by investing activities
was the result of first quarter fiscal 2003 proceeds of $64 million from
the sale of four owned Kmart store locations and the sale of furniture and
fixtures from closed store locations, partially offset by $4 million for
capital expenditures.
Net cash used for financing activities was $17 million for the
13-weeks ended April 30, 2003 primarily due to payments on debt and capital
lease obligations.
39-WEEKS ENDED OCTOBER 30, 2002 (PREDECESSOR COMPANY)
Net cash used for operating activities for the 39-weeks ended
October 30, 2002 was $801 million. Cash used for operating activities was
primarily due to the increase in inventories, net of accounts payable, the
liquidation of inventory in our closed store locations and cash used for
reorganization items.
Net cash used for investing activities was $193 million for the
39-weeks ended October 30, 2002. The Predecessor Company had capital
expenditures of $206 million during the period, partially offset by sale of
furniture and fixtures from our closed stores of $13 million.
Net cash provided by financing activities for the 39-weeks ended
October 30, 2002 was $130 million. Cash provided by financing activities
was primarily due to net borrowings under the DIP Credit Facility,
partially offset by payments for other financing arrangements.
Following the Petition Date and prior to emergence, the
Predecessor Company utilized cash flows from operations and the DIP Credit
Facility as its primary sources of working capital. The DIP Credit Facility
was a revolving credit facility under which the Predecessor Company was the
borrower and the rest of the Debtors were guarantors.
Seasonality
Due to the seasonal nature of the retail industry, where
merchandise sales and cash flows from operations are historically higher in
the fourth quarter than any other period, a disproportionate amount of
operating income and cash flows from operations are earned in the fourth
quarter. Our results of operations and cash flows are primarily dependent
upon the large sales volume generated during the fourth quarter of our
fiscal year. Fourth quarter fiscal 2002 sales represented over 29% of total
net sales in fiscal 2002. As a result, operating performance for the
interim periods is not necessarily indicative of operating performance for
the entire year. To support the higher seasonal sales volume, we experience
a seasonal inventory build in October and November and, as a result, our
usage of credit lines has historically been higher for this period of the
year.
Inflation
Inflation has not had a significant impact on our business over
the past two years and we do not expect it to have a significant impact on
operations in the foreseeable future unless global or geo-political factors
substantially affect the world economy.
Pension Plan
Prior to 1996, the Predecessor Company maintained defined benefit
pension plans covering eligible associates. Effective January 31, 1996, the
pension plans were frozen, and associates no longer earn additional
benefits under the plans (except for purposes of the subsidized early
retirement program provided by the plan). The plans' assets consist
primarily of equity and fixed income securities. For the past nine years,
the Predecessor Company has not been required to make contributions to the
plans.
33
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL
CONDITION - (CONTINUED)
In light of losses in the equity markets in 2002 and prior years,
and the effect of such returns on the value of the plans' assets, we
presently expect that we will be required to commence making significant
contributions to the plans in 2005 or 2006, although it is possible that
contributions could be required earlier. Given that the plans are frozen,
the timing for the commencement of our future funding requirements will
depend, in large part, on the future investment performance of the plans'
assets. Once funding obligations commence, we presently anticipate that
such obligations could continue for a period of five or six years at an
average rate of between $100 million and $200 million a year, or between
$700 million and $1 billion in the aggregate. The actual level of
contributions will depend upon a number of factors, including legislative
charges, actual demographic experience, pension fund returns and other
changes affecting valuations.
In addition to the funding described above, as a result of the
returns over the most recent years, decreases in our annual discount rate
and expected rate of return on assets, we recorded pension expense of $11
million and $23 million in the 13-weeks and 26-weeks ended October 29, 2003
(Successor Company), respectively, and $20 million for the 13-weeks ended
April 30, 2003 (Predecessor Company), as opposed to income as has been
recorded in the most recent years.
FRESH-START ADJUSTMENTS
In accordance with Fresh-Start accounting, all assets and
liabilities are recorded at their respective fair market values. Fair
values used represent our best estimates based on independent appraisals
and valuations.
To facilitate the calculation of the enterprise value of the
Successor Company, we developed a set of financial projections. Based on
these financial projections and with the assistance of a financial
advisor, the enterprise value was determined by the Company, using various
valuation methods, including (i) a comparison of the Company and its
projected performance to the market values of comparable companies, (ii) a
review and analysis of several recent transactions of companies in similar
industries to the Company, and (iii) a calculation of the present value of
the future cash flows under the projections. The estimated enterprise value
is highly dependent upon achieving the future financial results set forth
in the projections as well as the realization of certain other assumptions
which are not guaranteed. The estimated enterprise value of Kmart was
calculated to be approximately $2.3 billion to $3.0 billion. We selected
the midpoint of the range, $2.6 billion, as the estimated enterprise value.
In applying Fresh-Start accounting, adjustments to reflect the fair value
of assets and liabilities, on a net basis, and the write-off of the
Predecessor Company's equity accounts resulted in a charge of $5.6 billion.
The restructuring of Kmart's capital structure and resulting discharge of
pre-petition debt resulted in gain of $5.6 billion. The charge for the
revaluation of the assets and liabilities and the gain on the discharge of
pre-petition debt are recorded in Reorganization items, net in the
unaudited Condensed Consolidated Statement of Operations. For a
comprehensive discussion see Note 3 - Fresh-Start Accounting.
DISCONTINUED OPERATIONS
During the first quarter of fiscal 2003 and the second quarter of
fiscal 2002, the Predecessor Company closed 316 and 283 stores,
respectively. Of the total store closings 121 met the criteria for
discontinued operations. For a comprehensive discussion see Note 4 -
Discontinued Operations.
Of the 599 stores that were closed in 2003 and 2002, 478 are
included in continuing operations, as they did not meet the criteria for
discontinued operations. For the 13-weeks ended April 30, 2003, 250 of the
316 stores closed were accounted for in continuing operations. Total sales,
gross margin and SG&A for these 250 stores were $854 million, $301 million
and $146 million, respectively. For the 13-weeks ended October 30, 2002,
total sales, gross margin and SG&A for the 478 stores that were reported in
continuing operations were $898 million, $129 million and $204 million,
respectively. For the 39-weeks ended October 30, 2002, total sales, gross
margin and SG&A for the 478 stores that were reported in continuing
operations were $3,782 million, $661 million and $797 million,
respectively.
SPECIAL CHARGES
Special charges are transactions which, in management's judgment,
may make meaningful comparisons of operating results between reporting
periods difficult. In determining what amounts constitute a special charge,
management considers the nature, magnitude and frequency of their
occurrence. During fiscal 2002, the Predecessor Company instituted certain
restructuring actions to improve operations and executed significant
inventory liquidations as a result of the stores closed under Kmart's
Chapter 11 proceedings. For the 13-weeks ended April 30, 2003, and the
13-weeks and 39-weeks ended October 30, 2002, the Predecessor Company
recorded special charges of $42 million, $(6) million and $821 million,
respectively. For a comprehensive discussion see Note 8 - Special Charges.
34
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL
CONDITION - (CONTINUED)
REORGANIZATION ITEMS, NET
Reorganization items represent amounts the Predecessor Company
incurred as a result of Chapter 11, and are presented separately in the
unaudited Condensed Consolidated Statements of Operations. The Predecessor
Company recorded $4 million, $769 million and $259 million for the 13-weeks
ended October 30, 2002, the 13-weeks ended April 30, 2003 and the 39-weeks
ended October 30, 2002, respectively, for reorganization items. The net
increase in Reorganization items for the 13-weeks ended April 30, 2003 as
compared to the 39-weeks ended October 30, 2002, is primarily due to the
Fleming settlement of $385 million and expense of $200 million for
estimated claims for rejected executory contracts, partially offset by the
2002 store closings charge of $203 million. For a comprehensive discussion
see Note 9 - Reorganization Items, net.
OTHER MATTERS
Lawsuits, Investigations and Other Contingent Liabilities
During the third quarter of fiscal 2003 tentative contract
agreements between Kmart and the local memberships of the United Auto
Workers at two of our distribution centers were ratified by Kmart
associates. The two distribution centers supply approximately 15 percent of
our stores.
We are a party to a substantial number of other claims, lawsuits
and pending actions which are routine and incidental to our business. To
the extent that any claim relates to a contract which was assumed by us
when we emerged or relates to a time period occurring after the Petition
Date, the Successor Company shall be responsible for any damages which may
result. In addition, certain contracts allow for damage provisions or other
repayments as a result of our termination of the contracts. For a
comprehensive discussion see Note 20 - Other Commitments and Contingencies.
Other
On August 6, 2003, we announced the launch of the Thalia Sodi
Collection. The Collection captures the personal style and attitude of the
Hispanic actress and singer, Thalia Sodi, and her culture. It includes
branded apparel for women and girls, as well as footwear, accessories,
jewelry, intimates, hosiery and bed and bath products. The Thalia Sodi
Collection is available in 335 Kmart stores including those in the New York
City, Los Angeles, San Francisco, Miami, Denver, Las Vegas, Phoenix, San
Diego, Chicago and Puerto Rico areas.
On June 4, 2003, Martha Stewart was indicted in the United States
District Court of the Southern District of New York. The Martha Stewart
brand is considered a distinctive brand for Kmart and we currently sell
Martha Stewart home, garden, colors, baby, kitchen, keeping and decorating
product lines, along with candles and accessories. Martha Stewart resigned
her position as Chairman and Chief Executive Officer of Martha Stewart
Omnimedia, Inc; however, she serves as the Chief Creative Officer and
remains on the Board of Directors. To date, we have not experienced any
significant adverse impact from this matter on the sales of Martha Stewart
brand products. Although product sales have not been significantly affected
by past events, the Company is not able to determine the potential effects
that these events may have on the future sales of its Martha Stewart brand
products.
35
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
At October 29, 2003, we did not have any derivative instruments
that increased our exposure to market risks for interest rates, foreign
currency rates, commodity prices or other market price risks. We do not use
derivatives for speculative purposes. Currently, our exposure to market
risks results primarily from changes in interest rates, principally with
respect to the Credit Facility, which is a variable rate financing
agreement. We do not use swaps or other interest rate protection agreements
to hedge this risk.
ITEM 4. CONTROLS AND PROCEDURES
We carried out an evaluation, under the supervision of our
management Disclosure Committee (which includes the Chief Executive Officer
and Co-Principal Financial Officers), of the effectiveness of our
disclosure controls and procedures pursuant to Securities and Exchange Act
of 1934 Rules 13a-15(e) and 15d-15(e). Based upon this evaluation, the
Chief Executive Officer and Co-Principal Financial Officers concluded that
as of the end of the period covered by this quarterly report, our
disclosure controls and procedures are effective to ensure that information
required to be disclosed in our periodic SEC reports is recorded,
processed, summarized, and reported as and when required. No change in our
internal control over financial reporting occurred during our most recent
fiscal quarter that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.
36
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
See Note 20 of the Notes to unaudited Condensed Consolidated
Financial Statements for information concerning legal proceedings.
ITEM 5. OTHER INFORMATION
Effective September 1, 2003, William C. Crowley was hired as Senior
Vice President, Finance. Mr. Crowley will continue to serve on our
Board of Directors.
Effective September 3, 2003, Janet L. Kelly was hired as Senior
Vice President and Chief Administrative Officer.
Effective September 3, 2003, Lisa Schultz was hired as Senior Vice
President and Chief Creative Officer.
Effective September 15, 2003, Bruce Johnson was hired as Senior
Vice President, Supply Chain and Operations.
The date of receipt of shareholder proposals for the Company's
Annual Meeting to be held in 2004 is January 5, 2004.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following exhibits are filed as a part of this report:
Exhibit 10.1-Employment Agreement, dated as of September 15, 2003,
between Kmart Management Corporation and Bruce Johnson
Exhibit 10.2- Employment Agreement dated as of September 3, 2003,
between Kmart Management Corporation and Janet L. Kelly
Exhibit 10.3- Employment Agreement dated as of September 3, 2003,
between Kmart Management Corporation and Lisa Schultz
Exhibit 10.4-Kmart Management Corporation Restricted Stock
Agreement with Bruce Johnson
Exhibit 10.5- Kmart Management Corporation Restricted Stock
Agreement with Janet L. Kelly
Exhibit 10.6- Kmart Management Corporation Restricted Stock
Agreement with Lisa Schultz
Exhibit 10.7- Kmart Management Corporation Restricted Stock
Agreement with Harold Lueken
Exhibit 10.8-Amendment No. 1 to the May 6, 2003 Nonqualified Stock
Option Agreement between Kmart Holding Corporation and Julian C.
Day
Exhibit 10.9 - Form of Kmart Holding Corporation Long Term
Incentive Award Agreement
Exhibit 31.1 -Chief Executive Officer Certification pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 31.2 -Co-Principal Financial Officer Certification pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 31.3 - Co-Principal Financial Officer Certification
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
(b) The following exhibit is furnished as a part of this report:
Exhibit 32 -Certifications pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
37
(c) Reports on Form 8-K: We filed and furnished the following Current
Reports on Form 8-K and with the SEC:
1. On August 29, 2003, Kmart Holding Corporation furnished a
Current Report on Form 8-K to report the second quarter 2003
operating results and the approval by the Board of Directors
of a $10 million share repurchase.
2. On September 2, 2003, Kmart Holding Corporation furnished a
Current Report on Form 8-K to announce the hiring of three
Senior Vice Presidents.
3. On October 16, 2003, Kmart Holding Corporation filed a
Current Report on Form 8-K to announce the dismissal of
PricewaterhouseCoopers LLP as our certifying accountant and
the hiring of BDO Seidman, LLP as our certifying accountant,
effective October 8, 2003.
38
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized.
The signatory hereby acknowledges and adopts the typed form of his/her name in
the electronic filing of this document with the Securities and Exchange
Commission.
Date: DECEMBER 5, 2003
Kmart Holding Corporation
-----------------------------------
(Registrant)
By: /s/ Julian C. Day
-----------------------------------
Julian C. Day
PRESIDENT AND CHIEF
EXECUTIVE OFFICER
(Principal Executive Officer)
/s/ Richard J. Noechel
-----------------------------------
Richard J. Noechel
VICE PRESIDENT AND
CONTROLLER
(Principal Accounting Officer and
Co-Principal Financial Officer)
39
EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION
Exhibit 10.1- Employment Agreement, dated as of September 15, 2003,
between Kmart Management Corporation and Bruce Johnson
Exhibit 10.2- Employment Agreement dated as of September 3, 2003,
between Kmart Management Corporation and Janet L. Kelly
Exhibit 10.3- Employment Agreement dated as of September 3, 2003,
between Kmart Management Corporation and Lisa Schultz
Exhibit 10.4- Kmart Management Corporation Restricted Stock
Agreement with Bruce Johnson
Exhibit 10.5- Kmart Management Corporation Restricted Stock
Agreement with Janet L. Kelly
Exhibit 10.6- Kmart Management Corporation Restricted Stock
Agreement with Lisa Schultz
Exhibit 10.7- Kmart Management Corporation Restricted Stock
Agreement with Harold Lueken
Exhibit 10.8- Amendment No. 1 to the May 6, 2003 Nonqualified Stock
Option Agreement between Kmart Holding Corporation and Julian
C. Day
Exhibit 10.9 - Form of Kmart Holding Corporation Long Term
Incentive Award Agreement
Exhibit 31.1 - Chief Executive Officer Certification pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 31.2 - Co-Principal Financial Officer Certification pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 31.3 - Co-Principal Financial Officer Certification
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 32 - Sarbanes Oxley Act Section 906 Certification