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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For The Fiscal Year Ended January 30, 1999 OR
| | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For The Year Ended
Commission File Number: 21859
FACTORY CARD OUTLET CORP.
- -------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
DELAWARE 36-3652087
-------- ----------
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
2727 Diehl Road,
Naperville, IL 60563-2371
(Address of principal executive offices) (Zip Code)
(630) 579-2000
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.01 par value
(Title of Class)
Indicate by check mark whether this 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 | |
The aggregate market value of the Common Stock held by non-affiliates of the
Registrant as of April 19, 1999 was approximately $4,707,600, computed on the
basis of the last reported sale price per share ($1.125) of such stock on the
NASDAQ National Market. Shares of Common Stock held by each officer and director
and by each person who owns 5% or more of the outstanding Common Stock have been
excluded in that such persons may be deemed to be affiliates. This determination
of affiliate status is not necessarily a conclusive determination for other
purposes.
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. | |
The number of shares of the Registrant's Common Stock outstanding as of April
19, 1999 was 7,503,098.
Factory Card Outlet Corp.
(Debtor in possession effective March 23, 1999)
Annual Report on Form 10-K
TABLE OF CONTENTS
PART I
Page
Item 1 Business 1
Item 2 Properties 7
Item 3 Legal Proceedings 8
Item 4 Submission of Matters to a Vote of Security Holders 8
PART II
Item 5 Market for the Registrant's Common Stock
and Related Stockholder Matters 8
Item 6 Selected Financial Data 9
Item 7 Management's Discussion and Analysis of Financial
Condition and Results of Operations 11
Item 7a Quantitative and Qualitative Disclosures
About Market Risks 18
Item 8 Financial Statements and Supplementary Data 18
Item 9 Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure 18
PART III
Item 10 Chairman and Executive Officers of the Registrant 19
Item 11 Executive Compensation 19
Item 12 Security Ownership of Certain Beneficial Owners
and Management 19
Item 13 Certain Relationships and Related Transactions 19
PART IV
Item 14 Exhibits, Financial Statement Schedules and Reports
on Form 8-K 21
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Certain statements in this Form 10-K constitute "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. Such forward-looking statements involve known and unknown risks,
uncertainties and other factors which may cause the actual results, performance
or achievements of the Company, or industry results, to be materially different
from any future results, performance, or achievements expressed or implied by
such forward-looking statements. On March 23, 1999, the Company filed a petition
for reorganization under chapter 11 of title 11 of the United States Code and is
operating as a debtor in possession. All forward-looking statements relating to
aspects of any plan of reorganization submitted in connection with its chapter
11 proceedings are dependent upon, among other things, further improvements in
the Company's store-level operating performance, the formation of an acceptable
reorganization plan and the bankruptcy court approval of the reorganization
plan.
In general, the results, performance or achievements of the Company and its
stores and the value of the Company's common stock are dependent upon a number
of factors including, without limitation, the following: effects resulting from
the commencement and completion of the chapter 11 proceedings; ability to meet
sales plans; weather and economic conditions; dependence on key personnel;
competition; ability to anticipate merchandise trends and consumer demand;
ability to maintain relationships with suppliers; successful implementation of
information systems; successful handling of merchandise logistics; inventory
shrinkage; ability to meet future capital needs; governmental regulations;
ability to complete corrective action necessary to address Year 2000 issues; the
continued listing of the Company's common stock on the NASDAQ National Market;
and other factors both referenced and not referenced in this Form 10-K. When
used in this Report on Form 10-K, the words "estimate," "project," "anticipate,"
"expect," "intend," "believe," and similar expressions are intended to identify
forward-looking statements.
PART I
ITEM 1. BUSINESS
General
Factory Card Outlet Corp. and its subsidiary, Factory Card Outlet of
America Ltd., ("FCO" and collectively, the "Company") is a chain of company-
owned superstores offering a wide assortment of greeting cards, giftwrap,
balloons, party supplies and other special occasion merchandise at everyday
value prices. As of April 26, 1999, the Company operated 210 stores in 23
states. Based on the published number of stores of the Company's competitors as
compiled by the Company from various business publications and other publicly
available information, the Company believes it is one of the largest chains of
company-owned superstores in the greeting card, party supply and special
occasion industry. The Company opened 33, 58, and 29 superstores in fiscal 1998,
1997 and 1996, respectively. The Company currently has no plans to open any
additional stores and, as described below, the Company intends to close and
conduct closing sales at 27 stores beginning in April 1999.
The Company's superstores provide customers with a value-oriented, "one-
stop" shopping destination for greeting card, party supply and special occasion
merchandise for all major holidays and celebratory events, including birthdays,
graduations, weddings, baby showers and other family, religious and special
occasions. The Company's newer superstores average approximately 12,000 square
feet, with approximately 80% of the space devoted to selling space, and are
designed to provide ease of shopping within an attractive, spacious and festive
environment.
In January 1998, the Company changed its fiscal year end from the Saturday
closest to June 30 to the Saturday closest to January 31 and now uses January as
its fiscal year end. As a result, the financial information presented and
discussed herein includes: (1) consolidated financial statements for the year
ended January 30, 1999; (2) consolidated financial statements for the transition
period beginning June 29, 1997 and ended January 31, 1998 ("the transition
period") and (3) consolidated financial statements for the years ended June 28,
1997 and June 29, 1996. The Company refers to fiscal years by the year in which
most of the fiscal year is included. For comparative purposes, financial and
operating data is also presented for the following periods: (1) 52-weeks ended
January 30, 1999 ("fiscal 1998"); (2) 53-weeks ended January 31, 1998 and
(3) 52-weeks ended January 24, 1997.
Proceedings Under Chapter 11 of the Bankruptcy Code
On March 23, 1999, the Company filed petitions for reorganization under
chapter 11 of title 11 of the United States Bankruptcy Code (the "Bankruptcy
Code"). The petitions were filed in the United States Bankruptcy Court for the
District of Delaware (the "Bankruptcy Court") under case numbers 99-685 (JJF)
and 99-686 (JJF) (the "Chapter 11 Cases"). The Chapter 11 Cases have been
procedurally consolidated for administrative purposes. The Company is currently
operating its business and managing its properties as a debtor in possession
pursuant to the Bankruptcy Code.
Subsequent to the commencement of the Chapter 11 Cases, the Company sought
and obtained several orders from the Bankruptcy Court which were intended to
stabilize their business and enable the Company to continue business operations
as a debtor in possession. The most significant of these orders (1) approved a
$50 million debtor in possession loan agreement among FCO, as borrower, Foothill
Capital Corporation, as agent, and Paragon Capital LLC, as oversight agent, each
for itself and any other lenders party thereto (the "Loan Agreement"), (2)
permitted the Company to operate their consolidated cash management system
during the Chapter 11 Cases in substantially the same manner as it was operated
prior to the commencement of the Chapter 11 Cases, and (3) authorized payment of
prepetition wages, vacation pay and employee benefits and reimbursement of
employee business expenses.
1
The Loan Agreement was entered into on March 23, 1999. The Loan Agreement
provides FCO with a revolving line of credit for loans and letters of credit in
an aggregate amount not to exceed $50 million, including the ability to issue up
to $5 million of letters of credit. FCO intends to use amounts available under
the Loan Agreement for its ongoing working capital needs and for other general
corporate purposes. FCO granted a security interest to the lenders under the
Loan Agreement in substantially all of its assets as security for its
obligations under the Loan Agreement. All obligations under the Loan Agreement
will be afforded "super-priority" administrative expense status in the Chapter
11 Cases.
On April 6, 1999, a statutory committee of unsecured creditors (the
"Creditors Committee") was appointed by the Office of the United States Trustee
to represent the interests of the Company's unsecured creditors in the Chapter
11 Cases. The Creditors' Committee has the right to review and object to certain
business transactions and may participate in the formulation of the Company's
long term business plan and plan of reorganization. The Company is required to
reimburse certain fees and expenses of the Creditors' Committee, including fees
for attorneys and other professionals, to the extent allowed by the Bankruptcy
Court.
The Company has the right, subject to Bankruptcy Court approval and certain
other limitations, to assume or reject executory contracts and unexpired leases.
In this context, "assumption" means that the Company agrees to perform their
obligations and cure all existing defaults under the contract or lease, and
"rejection" means that the Company is relieved from its obligations to perform
further under the contract or lease but is subject to a claim for damages for
the breach thereof. Any damages resulting from rejection of executory contracts
and unexpired leases are treated as general unsecured claims in the Chapter 11
Cases. The Company cannot presently determine or reasonably estimate the
aggregate liability resulting from the rejection of executory contracts and
unexpired leases for which claims have been, or may be, filed. As of April 26,
1999, the Company had rejected or sought authority to reject 13 leases for
stores that were never opened. In addition, the Company has obtained approval
from the Bankruptcy Court to close and conduct closing sales at 27 stores
beginning in April 1999. The Company will continue to analyze, and may assume or
reject, additional leases and other existing contracts. The time within which
the Company must assume or reject unexpired leases of real property currently
expires on May 24, 1999. The Company, however, intends to request that the
Bankruptcy Court grant an extension of the time within which it must assume or
reject unexpired leases of real property.
The Bankruptcy Code provides that the Company has an exclusive period
during which only they may propose and file and solicit acceptances of a plan of
reorganization. The exclusive period for the Company to propose a plan of
reorganization currently expires on July 21, 1999. The Company has the right to
request that the Bankruptcy Court grant an extension of the exclusive period. If
the Company fails to file a plan of reorganization during the exclusive period
or, after such plan has been filed, if the Company fails to obtain acceptance of
such plan from the requisite impaired classes of creditors and equity security
holders during the exclusive period, any party in interest, including a
creditor, an equity security holder, a committee of creditors or equity security
holders, or an indenture trustee, may file their own plan of reorganization for
the Company. The Company plans to develop a plan of reorganization for
submission to the Bankruptcy Court.
After a plan of reorganization has been filed with the Bankruptcy Court,
the plan, along with a disclosure statement approved by the Bankruptcy Court,
will be sent to impaired creditors and equity security holders for their
consideration and approval. Following the solicitation period, the Bankruptcy
Court will consider whether to confirm the plan. In order to confirm a plan of
reorganization, the Bankruptcy Court, among other things, is required to find
that (1) with respect to each impaired class of creditors and equity security
holders, each holder in such class will, pursuant to the plan, receive at least
as much as such holder would receive in a liquidation, (2) each impaired class
of creditors and equity security holders has accepted the plan by the requisite
vote (except as provided in the following sentence), and (3) confirmation of the
plan is not likely to be followed by a liquidation or a need for further
financial reorganization of the Company or any successors to the Company unless
the plan proposes such liquidation or reorganization. If any impaired class of
creditors or equity security holders does not
2
accept a plan and assuming that all of the other requirements of the Bankruptcy
Code are met, the proponent of the plan may invoke the "cram down" provisions of
the Bankruptcy Code. Under these provisions, the Bankruptcy Court may confirm a
plan notwithstanding the non-acceptance of the plan by an impaired class of
creditors or equity security holders if certain requirements of the Bankruptcy
Code are met with respect to the non-accepting class. These requirements may,
among other things, necessitate payment in full for senior classes of creditors
before payment to a junior class can be made. A "cram down," as well as other
potential plans of reorganization, could also result in holders of the Company's
common stock receiving no value for their interests. Because of such
possibilities, the value of the Company's common stock is highly speculative.
The NASDAQ Stock Market has halted the trading of the Company's common
stock pending the receipt of information on the Company's financial condition
and NASDAQ's review of such information. There can be no assurance that the
Company's common stock will remain listed on the NASDAQ National Market.
Delisting of the common stock could have a material adverse effect on the market
price of, and the efficiency of the trading market for, the Company's common
stock.
Business
The key elements of the Company's business are as follows:
Merchandise Offering. The Company offers a wide selection of greeting
cards, giftwrap, balloons, everyday and seasonal party supplies and special
occasion merchandise. With over 23,000 SKU's in each of its superstores, the
Company's stores provide a single destination for a customer's special occasion
product needs. The stores offer product selections for all major holidays and
seasonal events, such as Valentine's Day, St. Patrick's Day, Passover, Easter,
Secretary's Day, Mother's Day, Father's Day, Grandparent's Day, Fourth of July,
Rosh Hashanah, Halloween, Thanksgiving, Christmas, Hanukkah, Kwanzaa and New
Year's; celebratory events, including birthdays, graduations, weddings and baby
showers; and other family, religious and special occasions. The following five
major product categories comprise the Company's merchandise offering:
. Greeting Cards - The Company's stores feature approximately 4,000
titles of high quality, everyday and seasonal greeting cards for all
occasions, all sold at the everyday low price of $0.39 each. Boxed
everyday and holiday cards are regularly sold at substantial discounts
off manufacturers' suggested retail prices.
. Giftwrap - The Company believes its stores have become a destination
for shoppers seeking a wide selection of giftwrap and giftwrap
accessories and sell most of these items at lower prices than
competitors. Items include glossy, printed, solid and foil giftwrap,
solid and printed ribbons, bows, gift bags, gift boxes, tissue paper
and gift tags.
. Balloons - Balloons are increasingly popular for all occasions. The
Company's stores offer value in mylar and latex balloons and carry
popular licensed designs along with a large selection for any
occasion.
. Party Supplies - The Company stocks a broad selection of party supply
merchandise for everyday and special occasions in a wide variety of
attractive patterns and distinctive colors. Party supplies include
tableware, tablecovers, cutlery, invitations, party favors, milestone
birthday items, pinatas, banners, decorations, candles, decor and
other related party items.
. Other Special Occasion Merchandise - The Company complements its major
product lines by offering many other special occasion items in order
to provide a "one-stop" shopping destination for customers. These
items include candy, birthday and wedding items, candles and candle
holders, stationery, gifts, novelty items and seasonal products.
3
Everyday Value Pricing. The Company's strategy of everyday value pricing is
designed to provide customers with consistent value on purchases. The Company
typically sells merchandise at discounts of 20% to 60% off manufacturers'
suggested retail prices. In addition, the superstores feature a "power aisle"
offering a wide selection of opportunistic buys and manufacturers' seasonal
over-runs, all priced at deep discounts and frequently changed to create
continued customer interest.
Attractive, Spacious and Festive Superstore Format. The Company's stores
have an attractive and festive atmosphere within a spacious "easy to shop"
superstore. The superstores are designed to provide a comfortable shopping
experience, with bright lighting, wide carpeted aisles and fixtures that offer
customers easy access to merchandise. The Company has increased the size of its
new superstores to approximately 12,000 square feet. Management is currently
evaluating the size of the Company's stores to determine if 12,000 square feet
is optimal.
Targeted Advertising. The Company utilizes a Company-wide direct mail
program to reach targeted customers and highlight the breadth and value of its
merchandise. The direct mail pieces are printed in 4-color and range from four
to eight pages depending on the season. The Company plans to continue this
direct mail program and support all holidays and special events. The Company
also uses radio advertising to support select major holiday selling seasons.
Distribution Center and Office Complex. The Company completed the
consolidation of its distribution facilities and offices into a new distribution
center and office complex in Naperville, Illinois in February 1998. The newly-
constructed, three-story office building and 300,000 square-foot distribution
center is on 39 acres. The lease agreement provides for the expansion of the
warehouse to 600,000 square feet, as needed. The Company believes it is the only
special occasion superstore chain to have a distribution facility. Associated
with the Company's consolidation of its distribution facilities, system
conversion issues arose resulting in the uneven flow of basic stock merchandise.
These issues have been corrected. Management believes the distribution facility
can provide the Company purchasing and distribution efficiencies.
Store Locations. As of April 26, 1999, the Company operated 210 stores in
23 states, all of which are leased. The Company's store leases typically have an
average initial term of 10 years with two five-year renewal options. On April
26, 1999, the Company received approval from the Bankruptcy Court to close and
conduct closing sales at 27 stores.
4
Set forth below is a list of the Company's store locations by state as of April
26, 1999:
Number
of
Location Stores
-------- ------
Arkansas (1)
Fayettesville.................... 1
Delaware (1)
Wilmington....................... 1
Florida (12)
Gainesville...................... 1
Jacksonville..................... 1
Naples........................... 1
Orlando.......................... 5
Tampa............................ 4
Illinois (42)
Chicago Metro.................... 33
Bloomington...................... 1
Champaign........................ 1
DeKalb........................... 1
Fairview Heights................. 1
Moline........................... 1
Mount Vernon..................... 1
Peoria........................... 1
Rockford......................... 1
Springfield...................... 1
Indiana (19)
Indianapolis Metro............... 6
Anderson......................... 1
Bloomington...................... 1
Clarksville...................... 1
Evansville....................... 2
Fort Wayne....................... 1
Highland......................... 1
Lafayette........................ 1
Merrillville.................... 1
Michigan City.................... 1
Mishawaka........................ 1
Muncie........................... 1
Richmond......................... 1
Iowa (7)
Des Moines Metro................. 3
Cedar Rapids..................... 1
Davenport........................ 1
Dubuque.......................... 1
Waterloo......................... 1
Kansas (2)
Kansas City Metro................ 1
Olathe........................... 1
Number
of
Location Stores
-------- ------
Kentucky (5)
Louisville Metro................. 3
Florence......................... 1
Owensboro........................ 1
Maryland (14)
Baltimore Metro.................. 9
Washington, D.C. Metro (MD)...... 4
Salisbury........................ 1
Michigan (1)
Benton Harbor.................... 1
Minnesota (6)
Minneapolis St. Paul Metro....... 4
Mankato.......................... 1
Rochester........................ 1
Missouri (9)
St. Louis Metro.................. 5
Cape Girardeau................... 1
Columbia......................... 1
Joplin........................... 1
Springfield...................... 1
Nebraska (5)
Omaha Metro...................... 3
Lincoln.......................... 1
Grand Island..................... 1
New York (9)
Buffalo Metro.................... 3
Albany........................... 1
Olean............................ 1
Rochester........................ 3
Syracuse......................... 1
North Carolina (4)
Charlotte........................ 1
Raleigh.......................... 1
Hickory.......................... 1
Winston Salem.................... 1
Ohio (22)
Cincinnati Metro................. 5
Cleveland Metro.................. 4
Columbus Metro................... 6
Akron............................ 2
Dayton........................... 1
Lancaster........................ 1
Mansfield........................ 1
St. Clairsville.................. 1
Wooster.......................... 1
Number
of
Location Stores
-------- ------
Pennsylvania (6)
Erie............................. 1
Hanover.......................... 1
Lancaster........................ 1
State College.................... 1
Wilkes Barre-Scranton............ 2
South Carolina (3)
Charleston....................... 1
Columbia......................... 1
Greenville....................... 1
Tennessee (8)
Chattanooga...................... 2
Knoxville........................ 1
Memphis.......................... 2
Nashville........................ 3
Texas (9)
Dallas-Fort Worth Metro.......... 2
Houston Metro.................... 3
San Antonio...................... 2
Texarkana........................ 1
Tyler............................ 1
Virginia (10)
Washington D.C. Metro (VA)....... 4
Fredericksburg................... 1
Lynchburg........................ 1
Norfolk-Newport News............. 2
Richmond......................... 2
West Virginia (1)
Clarksburg....................... 1
Wisconsin (14)
Milwaukee Metro.................. 6
Appleton......................... 1
Eau Claire....................... 1
Green Bay........................ 1
Janesville....................... 1
Madison.......................... 2
Oshkosh.......................... 1
Wausau........................... 1
------
Total 210
======
Of the stores listed above, the Company plans to close the following stores
beginning in April 1999:
Florida (2)
Tampa............................ 1
Orlando.......................... 1
Illinois (4)
Chicago Metro.................... 3
Mount Vernon..................... 1
Indiana (1)
Lafayette........................ 1
Kansas (2)
Kansas City Metro................ 1
Olathe........................... 1
Maryland (1)
Baltimore Metro.................. 1
Ohio (1)
Columbus Metro................... 1
Tennessee (2)
Knoxville........................ 1
Nashville........................ 1
South Carolina (1)
Columbia......................... 1
Texas (9)
Dallas-Fort Worth Metro.......... 2
Houston Metro.................... 3
San Antonio...................... 2
Texarkana........................ 1
Tyler............................ 1
Virginia (4)
Washington D.C. Metro (VA)....... 3
Richmond......................... 1
------
Total 27
======
5
Product Sourcing
Due to its size and the use of its distribution center, the Company has
historically been able to take advantage of volume purchase discounts. The
Company purchases its inventory from more than 300 vendors world-wide, with the
largest supplier, Creative Expressions, Inc., representing approximately 9%, and
the ten largest suppliers representing approximately 42% of the Company's
aggregate purchases for the fiscal year ended January 30, 1999. A small portion
of the Company's merchandise is imported from foreign manufacturers or their
agents, principally from the Far East. As is customary in its industry, the
Company does not have long term contracts with any suppliers except Creative
Publishing p.l.c. ("Creative Publishing") (formerly Fine Art Developments,
p.l.c., a subsidiary of Hallmark U. K. and a stockholder of the Company).
In order to ensure a consistent supply of first-run, high-quality greeting
cards, the Company entered into a supply agreement with Creative Publishing,
which expires on December 31, 1999 (with automatic one-year renewals
thereafter). Under the agreement, the Company is required to purchase from
Creative Publishing a minimum of 42% of the Company's total annual requirement
of greeting cards, which percentage is subject to modification upon the consent
of the parties. Prior to March 23, 1999, as a result of the Company's liquidity
issue, Creative Publishing required the Company to pay for all greeting card
shipments in advance. Creative Publishing has contended that its supply
agreement with the Company terminated as a result of the non-payment of certain
amounts that were due to it by the Company. The Company disputes that
contention. The Company and Creative Publishing are currently discussing terms
of a new supply agreement.
Although the Company believes that its well-established relationships with
overseas suppliers have historically provided it with an advantage over many of
its competitors by enabling the Company to offer an extensive selection of
distinctive products at higher gross margins, the Company's liquidity problems
and the Chapter 11 Cases could have a material adverse effect on the Company and
its relationships with its suppliers.
Management Information Systems
The Company believes that its management information systems will be an
important factor in supporting its business and enhancing its competitive
position in the industry. Over the past three years, the Company has invested
significant resources in systems and infrastructure to support its business and
make it more efficient. The Company uses a management information and control
system, which is based on the JDA Merchandise Management System software package
("JDA") and supports the complete range of retail cycle functions in the areas
of finance, merchandising and distribution. All stores are linked to the
Company's headquarters through personal computers which interface with an IBM
AS/400 and provide the stores with the ability to enter store orders and payroll
information and send and receive electronic mail. These personal computers are
also tied into the Company's point-of-sale system ("POS system"). The POS system
provides sales information to the Company's stores and central office and is
used to enhance merchandise planning and buying programs. While the POS system
provides sales information, the Company intends to focus its future systems
development efforts on enhancing inventory management tools.
6
Competition
The greeting card, party supplies and special occasion industry is highly
competitive. The Company currently competes against a diverse group of
retailers, ranging from other party supply and greeting card retailers to
designated departments in drug stores, general mass merchandisers, supermarkets
and department stores of local, regional and national chains. In addition, a
trend toward discounting the cost of party supplies and greeting cards is
developing and the Company may encounter additional competition from new
entrants in the future. Some of the Company's competitors have substantially
greater financial resources and experience than the Company.
Trademarks
The Company has registered trademarks under the name of "Factory Card
Outlet"(R) and "Partymania"(R) and the "Partymania"(R) design on the Principal
Register of the United States Patent and Trademark Office.
Government Regulation
Each of the Company's stores must comply with regulations adopted by
Federal agencies and with licensing and other regulations enforced by state and
local health, sanitation, safety, fire and other departments. More stringent and
varied requirements of local governmental bodies with respect to zoning, land
use and environmental factors, and difficulties or failures in obtaining the
required licenses or approvals, can delay, and sometimes prevent, the opening of
a new store. In addition, the Company must comply with the Fair Labor Standards
Act and various state laws governing various matters such as the minimum wage,
overtime and other working conditions. The Company also must comply with the
provisions of the Americans with Disabilities Act of 1990, as amended, which
requires generally that employers provide reasonable accommodation for employees
with disabilities and that stores be accessible to customers with disabilities.
Employees
The Company had approximately 2,900 employees as of April 3, 1999,
comprised of 1,200 full-time and 1,700 part-time employees. The number of store
employees increases during peak selling seasons. None of the Company's employees
are covered by a collective bargaining agreement. The Company believes its
relations with its employees are generally good.
ITEM 2. PROPERTIES
In addition to the Company's stores, all of which are leased, the Company
also leases a distribution center in Naperville, Illinois, with the lease term
expiring in February 2007. This facility consists of a newly constructed, three-
story office building and 300,000 square-foot distribution center that sits on
39 acres of land.
-7-
ITEM 3. LEGAL PROCEEDINGS
The Company commenced the Chapter 11 Cases on March 23, 1999. Additional
information relating to the Chapter 11 Cases is set forth in Part 1, Item 1 of
this Form 10-K report under the caption "Proceedings under Chapter 11 of the
Bankruptcy Code": and in Note 2 of the Notes to Consolidated Financial
Statements under the caption "Subsequent Events -- Chapter 11 Filing." Such
information is incorporated herein by reference. If it is determined that the
liabilities subject to compromise in the Chapter 11 Cases exceed the fair value
of the assets, unsecured claims may be satisfied at less than 100% of their face
value and the equity interests of the Company's stockholders would be
substantially (if not completely) diluted. It is not possible at this time to
predict the actual recovery, if any, to which creditors and stockholders may be
entitled.
Several claims and cases have been filed by creditors of the Company
relating to unpaid amounts due to such creditors. Payment of these amounts are
now stayed in the Chapter 11 Cases. The Company is also from time to time
involved in routine litigation incidental to the conduct of its business. As of
the date of this Annual Report on Form 10-K, the Company is aware of no material
existing or threatened litigation to which it is or may be a party.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable.
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER
MATTERS
The Company's common stock has traded on the NASDAQ National Market under
the symbol "FCPY" since the Company's initial public offering since December 13,
1996. On March 26, 1999, the symbol for the Company's common stock was changed
to "FCPYQ" as a result of the commencement of the Chapter 11 Cases. The
following table sets forth the high and low closing sale prices of the Company's
Common Stock as reported on the NASDAQ National Market for the periods
indicated.
Quarter Fiscal 1998 Fiscal 1997
High Low High Low
First (ended May 2, 1998 and May 3, 1997) $12.75 $7.13 $10.00 $8.00
Second (ended August 1, 1998 and August 2, 1997) 12.13 5.25 10.25 5.19
Third (ended October 31, 1998 and November 1, 1997) 5.88 3.56 8.94 5.50
Fourth (ended January 30, 1999 and January 31, 1998) 4.13 1.38 8.00 5.69
On March 22, 1999, the last sale price of the common stock reported on the
NASDAQ National Market was $1.13. At February 27, 1999, the approximate number
of holders on record of the Common Stock was 114.
Dividends
The Company has never paid cash dividends on its common stock and does not
intend to pay cash dividends in the foreseeable future. The Company expects
earnings will be retained for the continued development of the Company's
business. In addition, the Loan Agreement between the Company and its lenders
restricts the ability of the Company to pay cash dividends on its capital stock.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources."
8
ITEM 6. SELECTED FINANCIAL DATA
The selected consolidated financial and operating data presented below under the
captions "Statement of Operations Data" and "Balance Sheet Data" for, and as of
the end of, each of the fiscal years in the two-year period ended July 1, 1995,
are derived from the consolidated financial statements of the Company, which
financial statements have been audited by KPMG LLP, independent certified public
accountants. The consolidated financial statements as of January 30, 1999 and
January 31, 1998, and for the fiscal year ended January 30, 1999, the seven-
month transition period ended January 31, 1998 and for each of the fiscal years
in the two-year period ended June 28, 1997, and the report thereon, are included
elsewhere in this Form 10-K. In addition, selected consolidated financial and
operating data is presented as of and for the 52-week period ended January 30,
1999, the 53-week period ended January 31, 1998 and the 52-week period ended
January 24, 1997. This data was derived from the unaudited consolidated
financial statements of the Company. The information set forth below should be
read in conjunction with "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and the Company's consolidated financial
statements and the notes thereto included elsewhere in this Annual Report on
Form 10-K.
9
SELECTED CONSOLIDATED FINANCIAL AND OPERATING DATA
(Dollar amounts in thousands, except per share data)
Transition
52-weeks 53-Weeks 52-Weeks period Fiscal year ended
ended ended ended ended -------------------------------------------
Jan. 30, Jan. 31, Jan. 24, Jan. 31, June 28, June 29, July 1, June 30,
1999 1998 1997 1998 1997 1996 1995 1994
-------------------------------- -------------------------------------------------------
Statement of Operations Data: (Unaudited) (Unaudited)
Net sales............................ $ 226,499 $ 174,497 $ 117,604 $ 110,699 $ 133,945 $ 94,589 $ 63,174 $ 37,341
Cost of sales and occupancy.......... 168,962 110,200 74,317 71,984 83,831 59,139 39,757 23,227
---------------------------------- --------------------------------------------------------
Gross profit....................... 57,537 64,297 43,287 38,715 50,114 35,450 23,417 14,114
Selling, general and
administrative expenses............. 80,870 58,945 40,323 38,928 45,227 33,733 22,316 12,876
---------------------------------- --------------------------------------------------------
Income (loss) from operations...... (23,333) 5,352 2,964 (213) 4,887 1,717 1,101 1,238
Interest expense..................... 4,572 1,482 2,114 1,269 1,402 1,529 411 497
---------------------------------- --------------------------------------------------------
Income (loss) before income
taxes (benefit) and
extraordinary item................ (27,905) 3,870 850 (1,482) 3,485 188 690 741
Income taxes (benefit)............... 451 1,652 273 (593) 1,462 118 322 292
---------------------------------- --------------------------------------------------------
Income (loss) before
extraordinary item................ (28,356) 2,218 577 (889) 2,023 70 368 449
Extraordinary item................... - - (313) - (313) - - -
---------------------------------- --------------------------------------------------------
Net income (loss).................. $ (28,356) $ 2,218 $ 264 $ (889) $ 1,710 $ 70 $ 368 $ 449
================================== ========================================================
Earnings (loss) per share -- basic
Before extraordinary item.......... $ (3.82) $ 0.31 $ 0.13 $ (0.12) $ 0.35 $ 0.02 $ 0.09 $ 0.17
Extraordinary item................. - - (0.07) - (0.05) - - -
---------------------------------- --------------------------------------------------------
Net income (loss).................. $ (3.82) $ 0.31 $ 0.06 $ (0.12) $ 0.30 $ 0.02 $ 0.09 $ 0.17
================================== ========================================================
Weighted average shares outstanding.. 7,422,069 7,261,542 4,408,801 7,261,542 5,739,962 4,068,409 3,999,914 2,636,062
================================== ========================================================
Earnings (loss) per share --
diluted (1)
Before extraordinary item.......... $ (3.82) $ 0.28 $ 0.11 $ (0.12) $ 0.30 $ 0.01 $ 0.07 $ 0.12
Extraordinary item................. - - (0.06) - (0.04) - - -
---------------------------------- --------------------------------------------------------
Net income (loss).................. $ (3.82) $ 0.28 $ 0.05 $ (0.12) $ 0.26 $ 0.01 $ 0.07 $ 0.12
================================== ========================================================
Weighted average shares outstanding.. 7,422,069 7,946,188 5,430,415 7,261,542 6,686,243 5,249,479 5,180,984 3,805,696
================================== ========================================================
Operating Data:
Number of stores:
Opened during period............... 33 58 29 42 35 32 25 15
Closed/relocated during period..... 3 2 3 2 2 3 2 0
Open at end of period.............. 210 180 124 180 140 107 78 55
Comparable store sales increase (2).. 0.8% 8.3% 11.9% 9.5% 11.5% 6.0% 22.2% 12.3%
Average sales per store (3).......... $1,129,131 $1,169,817 $1,076,618 $ 676,185 $1,101,000 $997,000 $941,000 $734,000
Balance Sheet Data
(at end of period):
Working capital.................... $ 22,977 $ 50,230 $ 33,762 $ 50,230 $ 35,459 $ 23,605 $ 15,625 $ 6,704
Total assets....................... 107,571 115,030 75,475 115,030 85,702 59,080 36,801 21,888
Total debt (4)..................... 34,153 34,189 2,568 34,189 7,690 19,326 7,161 7,251
Total stockholders' equity......... 24,178 51,734 49,075 51,734 52,273 17,124 16,640 4,257
====================================================================================================================================
(1) Earnings per share for all periods have been restated in accordance with
Statement of Financial Accounting Standards No. 128, "Earnings Per Share,"
and the Securities and Exchange Commission Staff Accounting Bulletin
No. 98.
(2) Includes stores open 13 or 14 months after their opening date. If the
opening date of a store falls in the first 14 days of a period, then it
will be included in the comparable store calculation in its 13th month of
operation; otherwise, a store is included in the comparable store
calculation in its 14th month of operation.
(3) Includes only stores open during the entire period.
(4) Total debt is defined as total current and long-term debt.
10
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Overview
The Company is a chain of company-owned superstores offering a wide
assortment of greeting cards, giftwrap, balloons, party supplies and other
special occasion merchandise at everyday value prices. As of April 26, 1999, the
Company operated 210 stores in 23 states. The Company currently has no plans to
open any additional stores and has received approval from the Bankruptcy Court
to close and conduct closing sales at 27 stores beginning in April 1999.
In January 1998, the Company changed its fiscal year end from the Saturday
closest to June 30 to the Saturday closest to January 31. As a result, the
financial information presented includes: (1) consolidated financial statements
for the year ended January 30, 1999; (2) consolidated financial statements for
the transition period beginning June 29, 1997 and ended January 31, 1998 ("the
transition period") and (3) consolidated financial statements for years ended
June 28, 1997 and June 29, 1996. For comparative purposes, financial and
operating data is also presented for the following periods: (1) 52-weeks ended
January 30, 1999 ("fiscal 1998"); (2) 53-weeks ended January 31, 1998 and
(3) 52-weeks ended January 24, 1997.
Bankruptcy Filing
On March 23, 1999, the Company filed a petition for reorganization under
chapter 11 of title 11 of the United States Bankruptcy Code. The Company is
currently operating its business and managing its properties as a debtor in
possession pursuant to the Bankruptcy Code. See "Item 1. Business - Proceedings
Under Chapter 11 of the Bankruptcy Code" and Note 2 of Notes to the Consolidated
Financial Statements.
Other Items
During the fiscal year ended January 30, 1999, as a result of the
reassessment of previous operating strategies the Company recorded several items
which impact the consolidated statement of operations. Cost of sales and
occupancy includes a $11.3 million provision for certain merchandise which is to
be discontinued from the Company's ongoing inventory assortment, as well as,
inventory with excess quantities on hand and certain seasonal inventory
remaining from past holidays. Selling, general and administrative expenses
include $3.6 million of charges consisting of: (1) a $2.1 million charge for
lease termination costs relating to executed leases for new stores which the
Company no longer plans to open; (2) a $0.7 million charge for employee
severance and the write-off of new store design costs; and (3) $0.8 million of
additional depreciation expense resulting from the change in the depreciable
lives of certain technology equipment from ten to five years. The provision for
income taxes for the fiscal year ended January 30, 1999 results from the
establishment of a valuation allowance of $11.3 million to fully reserve for the
Company's net deferred tax assets at January 30, 1999. See Note 7 - "Income
Taxes" in the Notes to Consolidated Financial Statements.
During the first quarter of fiscal 1998, the Company consolidated its
distribution facilities and offices into a new distribution center in
Naperville, Illinois. The newly constructed, three-story office building and
300,000 square foot distribution center resides on 39 acres of land.
11
Results of Operations
The following table sets forth, for the periods indicated, selected
statement of operations data expressed as a percentage of net sales and the
number of stores open at the end of each such period:
Transition
Fiscal year ended period Fiscal year ended
----------------------------------- ended --------------------
Jan. 30 Jan. 31, Jan. 24, Jan. 31, June 28, June 29,
1999 1998 1997 1998 1997 1996
----------------------------------- ----------------------------------
(unaudited) (unaudited)
Net sales...................................... 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Cost of sales and occupancy.................... 74.6 63.2 63.2 65.0 62.6 62.5
----------------------------------- ----------------------------------
Gross profit.................................. 25.4 36.8 36.8 35.0 37.4 37.5
Selling, general and administrative expenses... 35.7 33.8 34.3 35.2 33.8 35.7
----------------------------------- ----------------------------------
Income (loss) from operations................. (10.3) 3.0 2.5 (0.2) 3.6 1.8
Interest expense............................... 2.0 0.8 1.8 1.1 1.0 1.6
----------------------------------- ----------------------------------
Income (loss) before income taxes (benefit)
and extraordinary item....................... (12.3) 2.2 0.7 (1.3) 2.6 0.2
Income taxes (benefit)......................... 0.2 0.9 0.2 (0.5) 1.1 0.1
----------------------------------- ----------------------------------
Income (loss) before extraordinary item....... (12.5) 1.3 0.5 (0.8) 1.5 0.1
Extraordinary item - loss on early retirement
of debt, net of income tax benefit............ -- -- (0.3) -- (0.2) --
----------------------------------- ----------------------------------
Net income (loss)............................. (12.5)% 1.3% 0.2% (0.8)% 1.3% 0.1%
=================================== ==================================
Number of stores open at end of period......... 210 180 124 180 140 107
52-Weeks Ended January 30, 1999 Compared to 53-Weeks
Ended January 31, 1998 (Unaudited)
Net Sales. Net sales increased $52.0 million, or 29.8%, to $226.5 million
during the 52-weeks ended January 30, 1999 from $174.5 million for the 53-weeks
ended January 31, 1998. The increase resulted from (1) net sales of $24.5
million from 33 new stores opened during the 52-weeks ended January 30, 1999,
(2) net sales of $26.1 million from stores opened prior to January 31, 1998 not
included in the comparable store base, and (3) a comparable store sales increase
of $1.4 million, or 0.8%. Comparable store sales were adversely impacted by the
uneven flow of basic merchandise during the spring of 1998 resulting from system
conversion issues associated with the consolidation of the Company's
distribution facilities and, during the fall, lower Halloween and Christmas
seasonal sales partially as a result of significant levels of carryover
merchandise from 1997. The Company includes stores opened 13 or 14 months after
their opening date in the calculation of comparable store sales. If the opening
date of a store falls in the first 14 days of a period, the store is included in
the comparable store calculation in its 13th month of operation; otherwise, a
store is included in the comparable store calculation in its 14th month of
operation.
Gross Profit. Cost of sales and occupancy includes merchandising, store
occupancy, purchasing and distribution costs. Gross profit decreased $6.8
million, or 10.6%, to $57.5 million during the 52-weeks ended January 30, 1999
from $64.3 million for the 53-weeks ended January 31, 1998. As a percentage of
net sales, gross profit was 25.4% during the 52-weeks ended January 30, 1999 and
36.8% for the 53-weeks ended January 30, 1999. The lower gross profit percentage
resulted primarily from the $11.3 million inventory provision discussed above
under "Other Items" along with higher price reductions to clear seasonal and
summer merchandise.
12
Selling, General and Administrative Expenses. Selling, general and
administrative expenses include labor, advertising, depreciation and other store
operating and corporate administrative expenses. Selling, general and
administrative expenses increased $22.0 million, or 37.4%, to $80.9 million
during the 52-weeks ended January 30, 1999 from $58.9 million for the 53-weeks
ended January 31, 1998. Approximately $14.8 million of this increase resulted
from the opening and operation of 33 new superstores during the 52-weeks ended
January 30, 1999. The remaining balance of the increase resulted from the
charges discussed above under "Other Items" along with an increase in general
and administrative costs to support additional stores. As a percentage of net
sales, selling, general and administrative expenses increased to 35.7% for the
52-weeks ended January 30, 1999 from 33.8% for the 53-weeks ended January 31,
1998.
Interest Expense. Interest expense was $4.6 million for the 52-weeks ended
January 30, 1999 compared to $1.5 million for the 53-weeks ended January 31,
1998. This increase resulted from increased borrowings to support the opening of
new superstores and increased inventory levels.
Income Taxes (Benefit). For the 52-weeks ended January 30, 1999, the
Company recorded a tax provision to fully reserve the net deferred tax assets
which were carried forward from the transition period and to reserve for the
potential tax benefits of net operating losses generated during the current year
which cannot be carried back to prior tax years.
53-Weeks Ended January 31, 1998 Compared to 52-Weeks Ended January 24, 1997
(Unaudited)
Net Sales. Net sales increased $56.9 million, or 48.4%, to $174.5 million
during the 53-weeks ended January 31, 1998 from $117.6 million for the 52-weeks
ended January 24, 1997. The increase resulted from (1) net sales of $31.3
million from 58 new stores opened during the 53-weeks ended January 31, 1998,
(2) net sales of $16.0 million from stores opened prior to January 31, 1998 not
included in the comparable store base, and (3) a comparable store sales increase
of $9.6 million, or 8.3%. This comparable store sales increase resulted from an
improved seasonal merchandise selection, especially during Halloween and
Christmas, and an expansion in the targeted advertising program.
Gross Profit. Gross profit increased $21.0 million, or 48.5%, to $64.3
million during the 53-weeks ended January 31, 1998 from $43.3 million for the
52-weeks ended January 24, 1997. As a percentage of net sales, gross profit was
36.8% during the 53-weeks ended January 31, 1998 and the 52-weeks ended January
24, 1997. While there were increases in the freight costs associated with
servicing new market areas, these increases were offset by leveraging the costs
of the distribution facilities.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased $18.6 million, or 46.2%, to $58.9 million
during the 53-weeks ended January 31, 1998 from $40.3 million for the 52-weeks
ended January 24, 1997. Approximately $16.6 million of this increase resulted
from the opening and operation of 58 new superstores during the 53-weeks ended
January 31, 1998. The remaining increase resulted from additional general and
administrative costs to support the increase in the number of stores. As a
percentage of net sales, selling, general and administrative expenses decreased
to 33.8% for the 53-weeks ended January 31, 1998 from 34.3% for the 52-weeks
ended January 24, 1997.
13
Interest Expense. Interest expense was $1.5 million for the 53-weeks ended
January 31, 1998 compared to $2.1 million for the 52-weeks ended January 24,
1997. This decrease resulted from a reduction in debt from applying proceeds
received from the Company's initial public offering in December 1996 partially
offset by the increased borrowings to support the opening of 58 new superstores
and increased inventory levels.
Income Taxes (Benefit). The effective tax rate for the 53-weeks ended
January 31, 1998 was 42.7% compared to 32.1% for the 52-weeks ended January 24,
1997. This increase resulted from the change in fiscal year-end from June to
January.
Transition Period Compared to Fiscal Year 1997
Results of operations for the transition period ended January 31, 1998
include amounts for a seven month period, while results for the fiscal year
ended June 28, 1997 include amounts for a twelve-month period. Results (in terms
of dollar amounts) for these periods are not directly comparable. Accordingly,
management's discussion and analysis for these periods is generally based upon a
comparison of specified results as a percentage of net sales.
Net Sales. Net sales decreased $23.2 million, or 17.3%, to $110.7 million
in the transition period from $133.9 million in fiscal year 1997. This decrease
resulted primarily from reporting seven months for the transition period
compared to twelve months for fiscal 1997. The decrease was offset by the
addition of 42 new superstores during the transition period which generated net
sales of $17.3 million. Sales from comparable stores increased 9.5% for the
transition period compared to the same seven months included in fiscal 1997.
This increase was driven mainly by improved seasonal merchandise selection,
especially for Halloween and Christmas.
Gross Profit. Gross profit decreased $11.4 million, or 22.8%, to $38.7
million during the transition period from $50.1 million during fiscal year 1997.
As a percentage of net sales, gross profit was 35.0% during the transition
period compared to 37.4% in fiscal year 1997. Gross profit as a percentage to
net sales decreased primarily from the seasonality of the seven-month transition
period compared with the full prior year, additional seasonal promotions and a
lower capitalized inventory overhead.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses decreased $6.3 million, or 13.9%, to $38.9 million
during the transition period from $45.2 million for fiscal year 1997. As a
percentage of net sales, selling, general and administrative expenses increased
to 35.2% for the transition period from 33.8% for fiscal year 1997. The
increase resulted from the expansion of the Company's direct mail advertising
program and a test of television advertising in selected markets and the cost to
open seven more superstores during the transition period. These increases were
partially offset by the leveraging of corporate administrative costs.
Interest Expense. Interest expense was $1.3 million, or 1.1% of sales, for
the transition period compared to $1.4 million, or 1.0% of sales, for fiscal
year 1997. Interest expense as a percentage to sales increased as a result of
higher borrowing levels to support the opening of 42 new superstores and
increased inventory levels.
Income Taxes (Benefit). During the transition period, the Company had a
taxable loss resulting in an effective tax benefit rate of 40.0% compared to
taxable income for fiscal year 1997 resulting in an effective tax rate of 42.0%.
The effective tax rate decreased as a result of state tax savings.
14
Inflation
Management does not believe that inflation has had a material effect on its
financial condition or results of operations during the past three fiscal years.
However, there can be no assurance that inflation will not have a material
adverse effect on the Company's future financial condition or results of
operations.
Year 2000 Readiness Disclosure
The Year 2000 issue is the result of computer programs being written using
two digits rather than four to define the applicable year. Any of the computer
programs that have date-sensitive software may recognize a date using "00" as
the year 1900 rather than the year 2000. This could result in a temporary
inability to process transactions or engage in similar normal business
activities. The Company has initiated a Year 2000 program designed to identify
and correct any concerns which may be identified.
The Year 2000 program was developed with the help of independent
consultants and consists of teams identifying and evaluating Year 2000 issues
and remediating systems that are not Year 2000 compliant. The Company's program
to identify and evaluate Year 2000 readiness includes inventorying and testing
systems that are commonly thought of as information technology (IT), such as
computer networks, as well as systems that are not commonly thought of as IT
systems, such as timeclocks and the telephone system. IT systems with non-
compliant code are being modified or replaced with systems that are Year 2000
compliant. Similar actions are being taken with respect to non-IT systems. The
teams are also investigating the Year 2000 readiness of suppliers and other
third parties, which includes surveying their Year 2000 remediation programs,
and developing contingency plans where necessary.
Key IT and non-IT systems have been inventoried and assessed for compliance
and detailed plans have been developed for required system modifications or
replacements, including remediation and testing activities. Independent
consultants are assisting in the assessment and remediation phases of these
systems and are monitoring progress against remediation programs and performing
tests of critical activities. The Company expects to be completed with the
remediation and testing phases by June 30, 1999 for its IT and non-IT systems.
Incremental costs directly related to Year 2000 issues, which includes
equipment and software replacements, reprogramming, systems testing, and outside
consulting services, are estimated to be in the range of $0.8 million to $1.1
million, of which approximately $0.5 million has been spent through January 30,
1999. No costs were incurred prior to 1998. This estimate assumes that the
Company will not incur significant Year 2000 related costs on behalf of its
suppliers or other third parties.
Due to some uncertainty inherent in the Year 2000 issue, including
uncertainty regarding the readiness of suppliers, the Company cannot yet
complete a comprehensive analysis of the most likely worst case Year 2000
scenario. However, the Company will be developing contingency plans for Year
2000 related interruptions. The process will include, but not be limited to,
developing emergency backup and recovery procedures, manual processes,
alternative systems and work around procedures, identifying alternative
suppliers and developing alternative plans to engage in business activities with
suppliers should they not be Year 2000 compliant. Contingency plans for highly
critical systems will be established by July 31, 1999 and will be reviewed
continually up through the date change to Year 2000.
15
Liquidity and Capital Resources
Historic Sources and Uses of Cash
Operating activities provided $13.1 million in the fiscal year ended
January 30, 1999 compared to a use of $12.4 million in the transition period
ended January 31, 1998. The items most significantly influencing this change
were an increase in accounts payable resulting from the Company's liquidity
issue and reductions in gross profit and merchandise inventory in the fiscal
year ended January 30, 1999 and an increase in inventory in the transition
period ended January 31, 1998.
Cash flows used in investment activities were $8.7 million in the fiscal
year ended January 30, 1999 and $12.3 million in the transition period. The
Company's capital expenditures were primarily related to the opening of new
stores and investments in systems technology.
Cash flows used in financing activities were $0.8 million for the fiscal
year ended January 30, 1999 compared to cash flows provided by financing
activities of $24.8 million in the transition period. Current year financing
activities include $1.0 million in net borrowings under a revolving credit
facility and a term loan. Reduction of long-term debt and capitalized leases was
$2.0 million in the year ended January 30, 1999 and $1.4 million in the
transition period. During the transition period, the financing activities
primarily consisted of $25.9 million in borrowings under the Company's revolving
credit facility.
In July 1998, the Company borrowed $10.0 million under a Term Loan with
Back Bay Capital, LLC ("the lenders"). The Term Loan bore interest at a rate of
14.5%. Interest was payable monthly at a rate of 12% with the remaining 2.5%
accruing as Notes due at the maturity of the Term Loan. These Notes bore
interest at 12.5%. Upon entering into the Term Loan, the lenders received
warrants to purchase 215,000 share of the Company's common stock exercisable
until July 31, 2003, at $7.50 per share. The Term Loan was collateralized by a
first security interest in the Company's equipment and a secondary interest in
the remainder of the Company's assets.
In January 1998, the Company entered into a Loan and Security Agreement
("Loan and Security Agreement") with BankBoston Retail Finance Inc. providing a
$40.0 million revolving line of credit which could be increased at the Company's
discretion up to $60.0 million in $5.0 million increments. In July 1998, the
Loan and Security Agreement was amended. Advances under the Amended Loan and
Security Agreement were limited based on inventory levels which varied as the
Term Loan was outstanding, and were subject to certain reserves as defined in
the Amended Loan and Security Agreement. Interest was accrued at an annual rate
equal to the BankBoston, N.A. prime rate plus 50 basis points or, at the
Company's option, a rate based on the London Interbank Offered Rate ("LIBOR")
plus 250 additional basis points. A fee of 0.25% per year was assessed monthly
on the unused portion of the line of credit. Borrowings under the Amended Loan
and Security Agreement were secured by all of the Company's assets. The Amended
Loan and Security Agreement contained restrictive covenants requiring minimum
cumulative consolidated earnings before interest, taxes, depreciation and
amortization and limiting capital expenditures.
In August 1998, the Company entered into a master capital lease agreement
for the purchase of point-of-sale equipment and related software. During the
fiscal year ended January 30, 1999, $1.3 million of equipment was financed under
this agreement.
16
Current Sources and Uses of Cash
On March 23, 1999, the Company filed the Chapter 11 Cases to address
certain operational and liquidity disruptions. The Company's liquidity position
for the remainder of fiscal 1999 will be impacted primarily by the success of
initiatives undertaken to improve store level cash flows and the effects of the
Chapter 11 Cases. The Company's uses of capital for the remainder of fiscal 1999
are expected to include working capital for operating expenses and satisfaction
of current liabilities, expenditures related to maintaining and refurbishing
existing stores, interest payments on outstanding borrowings and costs
associated with the Chapter 11 Cases. The Company's long-term liquidity and the
adequacy of the Company's capital resources cannot be determined until a plan of
reorganization has been developed and confirmed in connection with the Chapter
11 Cases.
As debtor in possession under the Bankruptcy Code, actions to collect
prepetition indebtedness are stayed and certain contractual obligations may not
be enforced against the Company. With the approval of the Bankruptcy Court,
certain of these obligations may be paid prior to the confirmation of the
reorganization plan. To date, the Company has received approval to pay customary
obligations associated with the daily operation of its business, including the
timely payment of new inventory shipments, employee wages and other obligations.
As permitted under the Bankruptcy Code, the Company has received Bankruptcy
Court approval to reject 13 real estate leases for stores that were never opened
and to close and conduct closing sales at 27 stores beginning in April 1999. The
Company has not completed its review of all of its pre-petition contracts and
leases for assumption or rejection. The ultimate amount of, and settlement terms
for, such liabilities are subject to an approval plan of reorganization and,
accordingly, the timing and form of settlement are not presently determinable.
The Company is a party to a Revolving Credit and Guaranty Agreement (the
"Loan Agreement") dated as of March 23, 1999 which was entered into subsequent
to the commencement of the Chapter 11 Cases and will terminate upon the earlier
of the confirmation of a plan of reorganization in the Chapter 11 Cases or March
23, 2001. The Loan Agreement provides the Company with a revolving line of
credit for loans and letters of credit in an aggregate amount not to exceed
$50.0 million outstanding at any one time, including a sublimit of $5.0 million
for the issuance of letters of credit. The Company intends to use all amounts
borrowed under the Loan Agreement for its ongoing working capital needs and for
other general corporate purposes of the Company.
The Loan Agreement contains certain restrictive covenants which, among
other things, require the Company to maintain certain inventory levels and
achieve specified operating results. The restrictive covenants also limit the
Company's capital expenditures, asset sales and dividends and the ability of the
Company to grant liens and incur additional indebtedness.
As of April 19, 1999, the Company had $23.8 million of borrowings
outstanding under the Loan Agreement and had utilized approximately $1.0 million
of the Loan Agreement to issue letters of credit. The Company believes that its
cash flow from operations and borrowings under the Loan Agreement will provide
it with sufficient liquidity to conduct its operations while the Chapter 11
Cases are pending. The Company will be exploring opportunities to obtain long-
term financing to support the Company's business plan after it emerges from
Chapter 11; however, there can be no assurance that the Company will be able to
obtain such financing on satisfactory terms, if at all.
The Company used $24.7 million of borrowings under the Loan Agreement to
pay the outstanding balances due under the Amended Loan and Security Agreement
and the Term Loan.
17
The Company's present plans call for total capital expenditures of not more
than $5.0 million in the fiscal year ending January 29, 2000. The Company had no
material commitments in connection with these planned capital expenditures at
January 30, 1999.
The Company does not intend to pay cash dividends in the foreseeable future
and under its current Loan Agreement is restricted from paying dividends on its
capital stock.
ITEM 7a. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
The Company is subject to market risks from changes in interest rates. The
interest rate on the Company's revolving credit facilities, which represent a
significant portion of the Company's outstanding debt, is variable based on the
prime rate or, at the Company's option, the London Interbank Offered Rate.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The response to this item is submitted as a separate section of this Report
commencing on page F-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
18
PART III
In accordance with general instruction G(3) of Form 10-K, except as set forth
below, the information called for by items 10, 11, 12 and 13 of Part III will be
filed by an amendment to this Form 10-K on or prior to 120 days after the end of
the Company's fiscal year.
ITEM 10. CHAIRMAN AND EXECUTIVE OFFICERS OF THE REGISTRANT
The chairman and executive officers of the Company are as follows:
Name Age Position
- ------------------------------- -------- -------------------------------------------------------------------
Stewart M. Kasen (1) 59 Chairman of the Board, President and Chief Executive Officer
Frederick G. Kraegel (1) 50 Senior Vice President and Chief Financial Officer
Glen J. Franchi (1) 45 Executive Vice President and Treasurer
Carol A. Travis (1) 48 Vice President and Secretary
Gary Rada 44 Senior Vice President and General Merchandising Manager
Timothy F. Gower 48 Vice President, Retail Store Operations
Robert Krentzman 50 Vice President, Management Information Systems
Diana B. Kanas (1) 35 Vice President and Controller
Matthew F. Ellis 49 Senior Vice President, Human Resources
Joseph M. Cabon 51 Vice President, Distribution
(1) All the Officers, other than Stewart Kasen, Glen Franchi, Fred Kraegel,
Diana Kanas, and Carol Travis, hold their respective positions in the
Company's operating subsidiary.
Stewart Kasen has been Chairman of the Board of Directors of the Company
since April 1997 and became a Director in September 1996. He has been Chief
Executive Officer and President since May, 1998. From 1989 to May 1996, Mr.
Kasen was an officer of Best Products Co., Inc., a chain of catalog showrooms,
serving as its Chairman, President and Chief Executive Officer from 1991 to
1996, and its President and Chief Operating Officer from 1989 to 1991. He
assisted Best Products through a petition in bankruptcy under Chapter 11 which
was filed in January 1991. Best Products' plan of reorganization was confirmed
in June 1994, and it filed a petition for reorganization under Chapter 11 again
in September 1996. He also serves as a director of Markel Corporation,
O'Sullivan Industries Holdings Inc., K2 Inc. and Elder-Beerman Stores Corp.
19
Frederick Kraegel has been Senior Vice President and Chief Financial
Officer since January 1999, and was interim Chief Financial Officer from
November, 1998 until January 1999. Prior to joining the Company, he was
President of First North American National Bank, a subsidiary of Circuit City
Stores, Inc., and he was Senior Vice President and Chief Financial Officer of
Best Products Co., Inc. from March 1991 to December 1996. He also assisted Best
Products through a petition in bankruptcy under Chapter 11 which was filed in
January 1991. Best Products' plan of reorganization was confirmed in June 1994,
and it filed a petition for bankruptcy under Chapter 11 again in September 1996.
Glen Franchi has been Executive Vice President and Treasurer of the Company
since March 1995. He has been the Chief Operating Officer of the Company's
operating subsidiary since November 1990. Prior to joining the Company, from
1977 to 1989, he held various management and senior financial positions with
Carson Pirie Scott Co., a chain of retail department stores.
Carol Travis has been with the Company since it was originally founded in
1985, serving as Secretary of the Company since May 1994 and as Vice President
since June 1994. She has been a Vice President of the Company's operating
subsidiary since August 1987.
Gary Rada has been Senior Vice President and General Merchandise Manager
since January 1998. From 1996 to 1998, he served as the Vice President of
General Merchandise for Bruno's, a Birmingham, Alabama supermarket and drug
chain, which in February 1998 filed a voluntary petition for bankruptcy under
Chapter 11. Prior to joining Bruno's, he held various management and
merchandising positions with Osco Drug Stores, American Drug Stores and Jewel
Stores.
Timothy Gower has been Vice President, Retail Store Operations since April,
1998. Prior to that, from August 1997 to March 1998, he served as Vice President
of Store Operations for Zellers Inc., Canada's largest discount store chain.
Prior to joining Zellers, he held various store operations positions with Office
Max and F&M SuperDrug Stores.
Robert Krentzman has been Vice President, Management Information Systems
since September 1995. Prior to that, from 1994 to September 1995, he served as
Director of Management Information Systems. From 1990 to 1994, he was Director,
Management Information Systems, for Reader's Market, a division of Waldenbooks.
Diana Kanas has been Vice President and Controller of the Company since
January 1999. She has been the Controller of the Company's operating subsidiary
since September 1996, and was Assistant Controller from March 1995 until
September 1996. Prior to joining the Company, from 1985 to 1995, she held
various management and financial positions with U.S. Cellular Corporation and
Arthur Andersen LLP.
Matthew Ellis has been Senior Vice President, Human Resources since
September, 1997. From August 1996 to September 1997, he served as Vice
President, Human Resources. Prior to that, from 1989 to 1996, he was Vice
President, Human Resources of Today's Man, Inc., which in February 1996 filed a
voluntary petition for reorganization under Chapter 11.
Joseph Cabon has been Vice President, Distribution since April 1995. From
December 1993 to January 1995, he was employed as a consultant in retail
distribution. From October 1992 through December 1993, he was Vice President,
Logistics for One Price Clothing, a specialty retailer. In January 1995, he
filed a bankruptcy petition under chapter 7 of the United States Bankruptcy
Code, and that same month received a discharge from indebtedness in connection
therewith.
20
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) List of Documents filed as part of this Report on Form 10-K.
1. The following financial statements of the Company are filed as a
separate section of this Report commencing on page F-1.
Independent Auditors' Report
Consolidated Balance Sheets as of January 30, 1999 and January 31,
1998
Consolidated Statements of Operations for the fiscal year ended
January 30, 1999, the transition period ended January 31, 1998 and the
fiscal years ended June 28, 1997 and June 29, 1996
Consolidated Statements of Stockholders' Equity for the fiscal year
ended January 30, 1999, the transition period ended January 31, 1998
and the fiscal years ended June 28, 1997 and June 29, 1996
Consolidated Statements of Cash Flows for the fiscal year ended
January 30, 1999, the transition period ended January 31, 1998 and the
fiscal years ended June 28, 1997 and June 29, 1996
Notes to Consolidated Financial Statements
2. Financial Statement Schedules
The following financial statement schedule is filed as a separate
section of this Report commencing on page S-1.
Independent Auditors' Report
Condensed Financial Information of Factory Card Outlet Corp. - Balance
Sheets as of January 30, 1999 and January 31, 1998
Condensed Financial Information of Factory Card Outlet Corp. -
Statements of Operations for the fiscal year ended January 30, 1999,
transition period ended January 31, 1998 and fiscal years ended June
28, 1997 and June 29, 1996
Condensed Financial Information of Factory Card Outlet Corp. -
Statements of Cash Flows for the fiscal year ended January 30, 1999,
the transition period ended January 31, 1998 and the fiscal years
ended June 28, 1997 and June 29, 1996
Notes to Condensed Financial Information of Factory Card Outlet Corp.
21
3. List of Exhibits.
The following exhibits are included as part of this Annual Report on
Form 10-K or incorporated herein by reference.
- --------------------------------------------------------------------------------
Exhibit No. Description
- --------------------------------------------------------------------------------
3.1 (1) Form of Amended and Restated Certificate of Incorporation of the
Company.
- --------------------------------------------------------------------------------
3.2 (2) Amended and Restated By-Laws of the Company.
- --------------------------------------------------------------------------------
4.1 (1) Specimen of Registrant's Common Stock Certificate.
- --------------------------------------------------------------------------------
10.1 (1) Employment Agreement, dated as of April 6, 1995, by and between the
Company and Charles R. Cumello.
- --------------------------------------------------------------------------------
10.2 (1) Consulting Agreement, dated July 30, 1996 by and between the Company
and J. Bayard Kelly.
- --------------------------------------------------------------------------------
10.3 (1) Supply Agreement, dated as of August 2, 1996, by and between the
Company and Fine Art Developments, p.l.c.
- --------------------------------------------------------------------------------
10.4 (1) Lease Agreement between the Company and Prudential Insurance Company
of America, dated September 25, 1992.
- --------------------------------------------------------------------------------
10.5 (1) Lease Agreement between the Company and Elk Grove Village Industrial
Park Ltd., dated July 17, 1995.
- --------------------------------------------------------------------------------
10.5.1 (1) Industrial Building Lease dated as of October 28, 1996 by and
between Centerpoint Realty Services Corporation and FCO.
- --------------------------------------------------------------------------------
10.6.1 (1) 1989 Stock Option Plan of the Company, as amended.
- --------------------------------------------------------------------------------
10.6.2 (1) 1996 Employee Stock Purchase Plan of the Company.
- --------------------------------------------------------------------------------
10.6.3 (1) Incentive Savings Plan of the Company.
- --------------------------------------------------------------------------------
10.7 (1) Business Purpose Revolving Promissory Note dated November 1, 1996
from the Company and FCO to Bank One.
- --------------------------------------------------------------------------------
10.7.1 (1) Business Loan Agreement dated as of November 1, 1996 among the
Company, FCO and Bank One.
- --------------------------------------------------------------------------------
10.7.2 (2) Commitment letter dated September 9, 1997 from Bank One.
- --------------------------------------------------------------------------------
10.8 (1) Loan Agreement dated as of July 2, 1996 by and between FCO and Petra
Capital, L.L.C. ("Petra").
- --------------------------------------------------------------------------------
10.8.1 (1) Stock Purchase Warrant dated July 2, 1996 by and between the Company
and Petra, as amended.
- --------------------------------------------------------------------------------
10.8.2 (1) Secured Promissory Note dated July 2, 1996 by and between FCO and
Petra.
- --------------------------------------------------------------------------------
10.8.3 (1) Security Agreement dated July 2, 1996 by and between FCO and Petra.
- --------------------------------------------------------------------------------
10.8.4 (1) Guaranty Agreement dated July 2, 1996 by and between the Company and
Petra.
- --------------------------------------------------------------------------------
10.9.1 (1) Loan Agreement dated November 15, 1995 by and between FCO and Sirrom
Capital Corporation ("Sirrom").
- --------------------------------------------------------------------------------
10.9.2 (1) Stock Purchase Warrant dated November 15, 1995 by and between
the Company and Sirrom.
- --------------------------------------------------------------------------------
10.9.3 (1) Secured Promissory Note dated November 15, 1995 by and between FCO
and Sirrom.
- --------------------------------------------------------------------------------
10.9.4 (1) Security Agreement dated November 15, 1995 by and between FCO and
Sirrom.
- --------------------------------------------------------------------------------
10.9.5 (1) Guaranty Agreement dated November 15, 1995 by and between the
Company and Sirrom.
- --------------------------------------------------------------------------------
22
- --------------------------------------------------------------------------------
10.9.6 (1) First Amendment to Loan Agreement and Loan Documents dated June
28, 1996 by and between FCO and Sirrom.
- --------------------------------------------------------------------------------
10.9.7 (1) Stock Purchase Warrant dated June 28, 1996 by and between the
Company and Sirrom.
- --------------------------------------------------------------------------------
10.9.8 (1) Secured Promissory Note dated June 28, 1996 by and between FCO and
Sirrom.
- --------------------------------------------------------------------------------
10.9.9 (1) Amended and Restated Stock Purchase Warrant dated July 30, 1996 by
and between the Company and Sirrom.
- --------------------------------------------------------------------------------
10.9.10 (1) Amendment to Stock Purchase Warrant dated July 30, 1996 by and
between the Company and Sirrom.
- --------------------------------------------------------------------------------
10.10.1 (1) Term Lease Master Agreement dated October 28, 1996 by and between
FCO and IBM Credit Corporation.
- --------------------------------------------------------------------------------
10.10.2 (1) Master Lease Agreement dated August 19, 1996 by and between FCO
and Symbol Lease, Inc.
- --------------------------------------------------------------------------------
10.11 (3) Loan and Security Agreement dated January 30, 1998 among Factory
Card Outlet of America, Ltd. and BankBoston Retail Finance Inc.
- --------------------------------------------------------------------------------
10.11.1 (4) First Amendment to Loan and Security Agreement between FCO and
BankBoston Retail Finance Inc. dated July 17, 1998.
- --------------------------------------------------------------------------------
10.11.2 (4) Term Loan and Security Agreement between FCO and Back Bay Capital,
LLC dated July 17, 1998.
- --------------------------------------------------------------------------------
10.12 (3) 1997 Outside Director Stock Option Plan.
- --------------------------------------------------------------------------------
10.13 (5) Separation and Release Agreement between Factory Card Outlet Corp.
and Charles R. Cumello.
- --------------------------------------------------------------------------------
10.14 (6) Debtor In Possession Loan and Security Agreement between FCO and
Foothill Capital Corporation, Paragon Capital LLC and Other
Financial Institutions dated March 23, 1999.
- --------------------------------------------------------------------------------
21.1 (1) List of the subsidiaries of the Company.
- --------------------------------------------------------------------------------
23.1 Consent of KPMG LLP.
- --------------------------------------------------------------------------------
27.1 Financial Data Schedule.
- --------------------------------------------------------------------------------
Notes
1. Incorporated by reference to the Company's Registration Statement as
amended on Form S-1 Number 333-13827 as filed with the Commission on
December 12, 1996.
2. Incorporated by reference to the Company's Annual Report on Form 10-K for
the fiscal year ended June 28, 1997.
3. Incorporated by reference to the Company's Quarterly Report on Form 10-Q
for the quarterly period ended December 27, 1997.
4. Incorporated by reference to the Company's Current Report on Form 8-K filed
on July 22, 1998.
5. Incorporated by reference to the Company's Quarterly Report on Form 10-Q
for the quarterly period ended October 31, 1998.
6. Incorporated by reference to the Company's Current Report on Form 8-K filed
on April 30, 1999.
(b) Reports on Form 8-K.
None.
23
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears
below hereby constitutes and appoints Stewart M. Kasen and Frederick G. Kraegel
with full power to act without the other, his true and lawful attorney-in-fact
and agent, each with full power of substitution and resubstitution for him and
in his name, place and stead, in any and all capacities, to sign any or all
amendments (including post-effective amendments) to this report on Form 10-K,
and to file the same with all exhibits thereto and other documents in connection
therewith, with the Securities and Exchange Commission, granting unto each of
said attorneys-in-fact and agents full power and authority to do and perform
each and every act and thing requisite and necessary to be done in connection
therewith, as fully to all intents and purposes as he might or could do in
person hereby, ratifying and confirming that each of said attorneys-in-fact and
agents or his substitutes may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
Dated: April 27, 1999 FACTORY CARD OUTLET CORP.
/s/ Stewart M. Kasen
--------------------
By: Stewart M. Kasen, Chairman of the Board,
President and Chief Executive Officer
24
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report on Form 10-K has been signed below by the following persons on behalf of
the Registrant and in the capacities and on the dates indicated.
Signatures Title Date
- -------------------------------------------------------------------------------
/s/ Stewart M. Kasen April 27, 1999
- --------------------- Chairman, President and Chief Executive Officer
Stewart M. Kasen
- -------------------------------------------------------------------------------
/s/ Frederick G. Kraegel April 27, 1999
- ------------------------ Senior Vice President, and Chief Financial Officer
Frederick G. Kraegel (principal financial officer)
- -------------------------------------------------------------------------------
/s/ Diana B. Kanas April 27, 1999
- ------------------ Vice President and Controller
Diana B. Kanas (principal accounting officer)
- -------------------------------------------------------------------------------
/s/ Robert C. Blattberg April 27, 1999
- ------------------------ Director
Robert C. Blattberg
- -------------------------------------------------------------------------------
/s/ Bart A. Brown April 27, 1999
- ------------------------ Director
Bart A. Brown
- -------------------------------------------------------------------------------
/s/ William E. Freeman April 27, 1999
- ------------------- Director
William E. Freeman
- -------------------------------------------------------------------------------
/s/ J. Bayard Kelly April 27, 1999
- ------------------- Director
J. Bayard Kelly
- -------------------------------------------------------------------------------
/s/ James L. Nouss April 27, 1999
- --------------------- Director
James L. Nouss
- -------------------------------------------------------------------------------
25
INDEX TO FINANCIAL STATEMENTS
FACTORY CARD OUTLET CORP.
AND SUBSIDIARY
Page
----
Independent Auditors' Report ............................................................................... F-2
Consolidated Balance Sheets as of January 30, 1999 and January 31, 1998 .................................... F-3
Consolidated Statements of Operations for the fiscal year ended January 30, 1999, the
transition period ended January 31, 1998 and the fiscal years ended June 28, 1997 and
June 29, 1996 ......................................................................................... F-4
Consolidated Statements of Stockholders' Equity for the fiscal year ended January 30, 1999,
the transition period ended January 31, 1998 and the fiscal years ended June 28, 1997 and
June 29, 1996 ......................................................................................... F-5
Consolidated Statements of Cash Flows for the fiscal year ended January 30, 1999, the
transition period ended January 31, 1998 and the fiscal years ended June 28, 1997 and
June 29, 1996 ......................................................................................... F-6
Notes to Consolidated Financial Statements.................................................................. F-7
F-1
Independent Auditors' Report
The Board of Directors and Shareholders
Factory Card Outlet Corp.:
We have audited the consolidated balance sheets of Factory Card Outlet
Corp. and subsidiary as of January 30, 1999 and January 31, 1998 and the related
consolidated statements of operations, stockholders' equity and cash flows for
the fiscal year ended January 30, 1999, the transition period ended January 31,
1998 and each of the fiscal years in the two-year period ended June 28, 1997.
These consolidated financial statements are the responsibility of the management
of Factory Card Outlet Corp. Our responsibility is to express an opinion on
these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Factory Card
Outlet Corp. and subsidiary as of January 30, 1999 and January 31, 1998, and the
results of their operations and their cash flows for the fiscal year ended
January 30, 1999, the transition period ended January 31, 1998 and each of the
fiscal years in the two-year period ended June 28, 1997 in conformity with
generally accepted accounting principles.
The accompanying financial statements have been prepared assuming the Company
will continue as a going concern. As discussed in Note 2 to the financial
statements, on March 23, 1999, the Company filed a voluntary petition for relief
under chapter 11 of title 11 of the United States Bankruptcy Code. In addition,
the Company has suffered losses from operations. These matters raise
substantial doubt about the Company's ability to continue as a going concern.
The financial statements do not include any adjustments that might result from
the outcome of this uncertainty.
/s/ KPMG LLP
Chicago, Illinois
April 27, 1999
F-2
FACTORY CARD OUTLET CORP.
AND SUBSIDIARY
Consolidated Balance Sheets
(Dollar amounts in thousands, except per share data)
January 30, January 31,
1999 1998
----------- -----------
ASSETS
Current assets:
Cash $ 3,597 $ 30
Receivables 16 521
Merchandise inventories 61,658 72,911
Refundable income taxes 747 275
Prepaid expenses and other 964 2,105
-------- --------
Total current assets 66,982 75,842
Fixed assets, net 39,585 38,507
Deferred income taxes - 493
Other assets 1,004 188
-------- --------
Total assets $107,571 $115,030
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $33,089 $19,037
Current maturities of long-term obligations 2,161 1,821
Accrued expenses 8,755 4,754
-------- --------
Total current liabilities 44,005 25,612
Revolving credit note payable 20,653 29,700
Long-term obligations 1,670 2,668
Term loan, net of discount 9,669 -
Deferred rent liabilities 7,396 5,316
-------- --------
Total liabilities 83,393 63,296
-------- --------
Stockholders' equity:
Common stock-$.01 par value. Voting class-authorized
15,000,000 shares; 7,503,098 and 7,335,519 shares
issued and outstanding at January 30, 1999 and
January 31, 1998, respectively. Non-voting class
authorized 205,000 shares; no shares issued or
outstanding. 75 73
Additional paid-in capital 52,021 51,223
Retained earnings (deficit) (27,918) 438
-------- --------
Total stockholders' equity 24,178 51,734
-------- --------
Total liabilities and stockholders' equity
$107,571 $115,030
======== ========
See accompanying notes to consolidated financial statements.
F-3
FACTORY CARD OUTLET CORP.
AND SUBSIDIARY
Consolidated Statements of Operations
(Dollar amounts in thousands, except per share data)
Fiscal year Transition Fiscal year ended
ended period ended --------------------------
January 30, January 31, June 28, June 29,
1999 1998 1997 1996
----------- ------------ ---------- -----------
Net sales $ 226,499 $ 110,699 $ 133,945 $ 94,589
Cost of sales and occupancy 168,962 71,984 83,831 59,139
----------- ---------- ---------- -----------
Gross profit 57,537 38,715 50,114 35,450
Selling, general and administrative expenses 80,870 38,928 45,227 33,733
----------- ---------- ---------- -----------
Income (loss) from operations (23,333) (213) 4,887 1,717
Interest expense 4,572 1,269 1,402 1,529
----------- ---------- ---------- -----------
Income (loss) before income taxes (benefit) (27,905) (1,482) 3,485 188
and extraordinary item
Income taxes (benefit) 451 (593) 1,462 118
----------- ---------- ---------- -----------
Income (loss) before extraordinary item (28,356) (889) 2,023 70
Extraordinary item - loss on early retirement
of debt, net of income tax benefit - - (313) -
----------- ---------- ---------- -----------
Net income (loss) $ (28,356) $ (889) $ 1,710 $ 70
=========== ========== ========== ===========
Earnings (loss) per share - basic
Before extraordinary item $ (3.82) $ (0.12) $ 0.35 $ 0.02
Extraordinary item - - (0.05) -
----------- ---------- ---------- -----------
Net income (loss) per share - basic $ (3.82) $ (0.12) $ 0.30 $ 0.02
=========== ========== ========== ===========
Weighted average shares outstanding 7,422,069 7,261,542 5,739,962 4,068,409
=========== ========== ========== ===========
Earnings (loss) per share - diluted
Before extraordinary item $ (3.82) $ (0.12) $ 0.30 $ 0.01
Extraordinary item - - (0.04) -
----------- ---------- ---------- -----------
Net income (loss) per share - diluted $ (3.82) $ (0.12) $ 0.26 $ 0.01
=========== ========== ========== ===========
Weighted average shares outstanding 7,422,069 7,261,542 6,686,243 5,249,479
=========== ========== ========== ===========
See accompanying notes to consolidated financial statements.
F-4
FACTORY CARD OUTLET CORP.
AND SUBSIDIARY
Consolidated Statements of Stockholders' Equity
(Dollar amounts in thousands, except per share data)
Preferred stock Common stock Additional
------------------------ ---------------------- Paid-in
Shares Amount Shares Amount Capital
------- -------- --------- -------- -------
Balance at July 1, 1995 52,416 $ 14,457 933,720 $ 2,637 $ -
Net income - - - - -
Additional paid-in capital
attributable to common
stock warrants - - - 413 -
------- -------- --------- -------- -------
Balance at June 29, 1996 52,416 14,457 933,720 3,050 -
Net income - - - - -
Issuance of Series C
convertible preferred stock 25,639 9,739 - - -
Additional paid-in capital
attributable to common
stock warrants - - - 264 -
Conversion of all convertible
preferred stock to
common stock (78,055) (24,196) 3,134,674 24,196 -
Redesignation of common stock
from no par value
to $.01 par value - - - (27,469) 27,469
Issuance of common stock -
initial public offering - - 2,944,050 29 23,094
Exercise of stock options
and warrants - - 218,767 2 114
Income tax benefit from
stock options exercised - - - - 77
Purchase of treasury stock
at cost - - - - (12)
Issuance of treasury stock - - - - -
Additional paid-in capital
from compensation
stock options - - - - 209
------- -------- --------- -------- -------
Balance at June 28, 1997 - - 7,231,211 72 50,951
Net loss - - - - -
Sale of treasury stock to
employee stock
purchase plan - - - - (45)
Exercise of stock options
and warrants - - 104,308 1 226
Income tax benefit from
stock options exercised - - - - 57
Additional paid-in capital from
compensation stock options - - - - 34
------- -------- --------- -------- -------
Balance at January 31, 1998 - - 7,335,519 73 51,223
Net loss - - - - -
Exercise of stock options
and warrants - - 167,579 2 226
Additional paid in capital
attributable to common stock
warrants - - - - 513
Additional paid-in capital from
compensation stock options - - - - 59
------- -------- --------- -------- -------
Balance at January 30, 1999 - $ - 7,503,098 $ 75 $52,021
======= ======== ========= ======== =======
Retained Treasury stock Total
earnings ---------------------- Stockholders'
(deficit) Shares Amount equity
--------- ------ ------ -------------
Balance at July 1, 1995 $ (453) $ $ 16,641
Net income 70 - - 70
Additional paid-in capital
attributable to common
stock warrants - - - 413
--------- -------- ----- --------
Balance at June 29, 1996 (383) - - 17,124
Net income 1,710 - - 1,710
Issuance of Series C
convertible preferred stock - - - 9,739
Additional paid-in capital
attributable to common
stock warrants - - - 264
Conversion of all convertible
preferred stock to
common stock - - - -
Redesignation of common stock
from no par value
to $.01 par value - - - -
Issuance of common stock -
initial public offering - - - 23,123
Exercise of stock options
and warrants - 1,529 (13) 103
Income tax benefit from
stock options exercised - - - 77
Purchase of treasury stock
at cost - 20,000 (180) (192)
Issuance of treasury stock - (12,832) 116 116
Additional paid-in capital
from compensation
stock options - - - 209
-------- --------- ------ --------
Balance at June 28, 1997 1,327 8,697 (77) 52,273
Net loss (889) - - (889)
Sale of treasury stock to
employee stock
purchase plan - (8,697) 77 32
Exercise of stock options
and warrants - - - 227
Income tax benefit from
stock options exercised - - - 57
Additional paid-in capital from
compensation stock options - - - 34
-------- -------- ------ --------
Balance at January 31, 1998 438 - - 51,734
Net loss (28,356) - - (28,356)
Exercise of stock options
and warrants - - - 228
Additional paid in capital
attributable to common stock
warrants - - - 513
Additional paid-in capital from
compensation stock options - - - 59
-------- -------- ------ --------
Balance at January 30, 1999 $(27,918) - $ - $ 24,178
======== ======== ====== ========
See accompanying notes to consolidated financial statements.
FACTORY CARD OUTLET CORP.
AND SUBSIDIARY
Consolidated Statements of Cash Flows
(Dollar amounts in thousands, except per share data)
Fiscal year Transition Fiscal year ended
ended period ended --------------------
January 30, January 31, June 28, June 29,
1999 1998 1997 1996
----------- ------------ -------- --------
Cash flows from operating activities:
Net income (loss) $ (28,356) $ (889) $ 1,710 $ 70
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation and amortization of fixed assets 8,039 3,087 3,523 2,551
Amortization of deferred financing costs and debt discount 543 - 337 222
Extraordinary loss on early retirement of debt - - 313 -
Deferred income taxes 835 (795) 585 (149)
Loss on the disposal of fixed assets 649 191 359 37
Stock option compensation 59 34 209 -
Change in assets and liabilities:
(Increase) decrease in assets:
Receivables 31 209 (511) (315)
Merchandise inventories 11,254 (17,553) (13,555) (16,790)
Prepaid expenses 800 (591) (572) (215)
Other assets (1,168) 315 (1,602) (139)
Increase (decrease) in liabilities:
Accounts payable 14,052 1,484 2,850 7,661
Accrued expenses 4,262 1,662 111 1,139
Deferred rent liabilities 2,080 904 850 589
Income taxes payable - (503) 525 241
--------- -------- -------- --------
Net cash provided by (used in) operating activities 13,080 (12,445) (4,868) (5,098)
--------- -------- -------- --------
Net cash used in investing activities-purchase of
fixed assets, net (8,725) (12,337) (10,106) (7,072)
--------- -------- -------- --------
Cash flows from financing activities:
Borrowings under revolving credit note 174,106 77,166 70,457 36,977
Borrowings under term loan 10,000 - - 400
Repayment of borrowings under revolving credit note (183,152) (51,241) (79,809) (29,650)
Proceeds from issuance of subordinated debentures - - 2,911 4,668
Retirement of subordinated debentures - - (8,000) -
Payment of long-term obligations (1,959) (1,423) (2,524) (538)
Proceeds from issuance of convertible preferred stock - - 8,638 -
Proceeds from issuance common stock - - 23,123 -
Proceeds from exercise of employee stock options 217 227 104 -
Purchase of treasury stock - - (180) -
Sale of treasury stock to employee stock purchase plan - 32 103 -
--------- -------- -------- --------
Net cash (used in) provided by financing activities (788) 24,761 14,823 11,857
--------- -------- -------- --------
Net increase (decrease) in cash 3,567 (21) (151) (313)
Cash at beginning of year 30 51 202 515
--------- -------- -------- --------
Cash at end of year $ 3,597 $ 30 $ 51 $ 202
========= ======== ======== ========
Supplemental cash flow information:
Interest paid $ 4,225 $ 1,194 $ 1,441 $ 1,173
Income taxes paid 307 857 350 26
Supplemental disclosure of noncash financing activities:
Capital lease obligations incurred 1,301 1,997 4,961 255
Additional paid-in capital for warrants issued 514 - 264 414
See accompanying notes to consolidated financial statements.
F-6
FACTORY CARD OUTLET CORP.
AND SUSIDIARY
Notes to Consolidated Financial Statements
(Dollar amounts in thousands, except share and per share data)
(1) Organization
The consolidated financial statements include the accounts of Factory
Card Outlet Corp. and its wholly owned subsidiary, Factory Card Outlet of
America Ltd. (collectively the "Company"). The Company is a chain of
company-owned superstores offering an extensive selection of greeting
cards, giftwrap, balloons, party supplies and other special occasion
merchandise at everyday value prices.
(2) Subsequent Events
Chapter 11 Filing
The Company filed voluntary petitions for relief under chapter 11 of
title 11 of the United States Code (the "Bankruptcy Code") on March 23,
1999 (the "petition date") under case numbers 99-685 (JJF) and 99-686 (JJF)
(the "Chapter 11 Cases"). The Chapter 11 Cases have been procedurally
consolidated for administrative purposes. The Company is currently
operating its business as a debtor in possession under the jurisdiction of
the United States Bankruptcy Court for the District of Delaware (the
"Bankruptcy Court"). The Company's liabilities as of the petition date are
generally subject to settlement in a plan of reorganization, which must be
voted on by certain of its creditors and confirmed by the Bankruptcy Court.
Until a reorganization plan has been confirmed, the Company is prevented
from making payments on pre-petition debt unless permitted by the
Bankruptcy Code or approved by the Bankruptcy Court. The Company will
review all unexpired pre-petition executory contracts and leases to
determine whether they should be assumed or rejected. Parties affected by
the rejection of contracts and leases may file claims against the Company.
Amounts reflected in the January 30, 1999 balance sheet which will be
reclassified to Liabilities Subject to Compromise include accounts payable,
accrued expenses and long term obligations.
The consolidated financial statements have been prepared assuming the
Company will continue as a going concern, which contemplates continuity of
operations and the realization of assets and the satisfaction of
liabilities in the normal course of business. The commencement of the
Chapter 11 cases, and net losses resulting in a deficit, raise doubt about
the Company's ability to continue as a going concern. The consolidated
financial statements do not give effect to adjustments, some of which could
be material, to the carrying values of assets and liabilities which may be
necessary as a consequence of a plan of reorganization. The continuation of
the Company's business as a going concern is contingent upon, among other
things, the ability to (1) formulate a plan of reorganization that will be
confirmed by the Bankruptcy Court, (2) achieve satisfactory levels of
future profitable operations, (3) maintain adequate financing and (4)
provide sufficient cash from operations to meet future obligations.
F-7
Debtor in Possession Facility
The Company has obtained a debtor in possession revolving credit
facility (the "DIP Facility") which provides up to $50,000 ($5,000 for
letters of credit) to fund working capital needs and for general corporate
purposes. Borrowing under the facility is limited by inventory levels and
has an interest rate of .75% over prime or, at the Company's option, 3.75%
over the London Interbank Offered Rate. The DIP Facility expires on the
earlier of March 23, 2001 or the date the Bankruptcy Court confirms a plan
of reorganization. Borrowings under the DIP Facility are secured by
substantially all of the Company's assets. Certain restrictive covenants
apply, including the maintenance of certain inventory levels, achievement
of specified operating results and limitations on the incurrence of
additional liens and indebtedness, capital expenditures, asset sales and
payment of dividends.
Store Closings and Lease Commitments
The Company has filed a motion with the Bankruptcy Court to reject 13
leases relating to unopened store sites. In addition, the Company received
approval from the Bankruptcy Court to close and conduct closing sales at 27
stores that are in markets the Company does not intend to continue to
operate in or are underperforming or unprofitable.
(3) Summary of Significant Accounting Policies
Basis of Presentation
All intercompany balances and transactions have been eliminated in
consolidation.
Fiscal Year End Change
In January 1998, the Company changed its fiscal year end to the
Saturday closest to January 31. Prior to January 1998, the Company's fiscal
year ended on the Saturday closest to June 30. The fiscal years ended June
28, 1997 and June 29, 1996, referred to as fiscal 1997 and 1996
respectively, each consisted of a 52-week period. The seven-month period
from June 29, 1997 through January 31, 1998 is referred to as the
transition period. The fiscal year ended January 30, 1999, referred to as
fiscal 1998, consisted of a 52-week period.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities at
the date of the financial statements and the reported amounts of revenues
and expenses during the reporting period and related disclosures. Actual
results could differ from those estimates.
F-8
Merchandise Inventories
Merchandise inventories are stated at the lower of average cost
or estimated net realizable value utilizing the retail method. In
determining the cost of inventory, the Company includes costs incurred to
purchase, store and distribute goods prior to sale.
In fiscal 1998, the Company established a provision of $11,300
for certain merchandise which is to be discontinued from its ongoing
inventory assortment, as well as, inventory with excess quantities on hand
and certain seasonal inventory remaining from past holidays.
Fixed Assets
Fixed assets are stated at cost. Depreciation and amortization is
computed on a straight line basis over three to ten years for fixtures and
equipment and over the initial term of the lease for leasehold
improvements. Amortization related to capital leases is also included in
depreciation and amortization.
During the year ended January 30, 1999, the Company changed its
estimate of the depreciable lives of certain technology equipment from ten
to five years, resulting in additional depreciation expense of $771.
Income Taxes
The Company files a consolidated Federal income tax return.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial reporting
and tax bases of assets and liabilities and are determined using tax rates
and laws that are expected to be in effect when the differences are
expected to reverse.
Deferred Rent Liabilities
Certain of the Company's operating leases provide for scheduled
increases in base rentals over their terms. For these leases, the Company
recognizes the total rental amounts expected to be paid over the lease
terms on a straight line basis and, accordingly, has established
corresponding deferred rent liabilities for the differences between the
amounts recognized and the amounts paid. The Company also receives certain
lease incentives, primarily construction allowances. These allowances have
been deferred and are amortized on a straight-line basis over the initial
term of a lease as a reduction of rent expense.
Intangibles
Certain software costs are capitalized and amortized on a
straight line basis over three years. Unamortized software costs included
in Fixed assets, net were approximately $1,471 and $2,008 as of January 30,
1999 and January 31, 1998, respectively. Amortization of these software
costs was approximately $917, $564, $545 and $337 for fiscal 1998, the
transition period and fiscal 1997 and 1996, respectively.
F-9
Store Preopening Expenses
Store preopening costs, which include advertising, labor and supply costs,
are expensed during the fiscal year a store opens. Prepaid expenses and other at
January 31, 1998 includes approximately $339 of preopening costs for stores
which had not yet opened.
Advertising Expenses
The Company expenses advertising costs when the advertising first occurs.
Advertising production costs incurred before the advertising takes place are
recorded as a prepaid expense. At January 30, 1999 and January 31, 1998, no
amounts were included as prepaid expense. For fiscal 1998, the transition period
and fiscal 1997 and 1996, advertising expense was $8,335, $4,681, $4,006 and
$2,471, respectively.
Earnings per Share
Earnings per share - basic was computed by dividing net income (loss) by
the weighted average number of common shares outstanding during the period.
Earnings per share - diluted includes the effect of stock options and warrants.
The Company also complies with certain requirements of the Securities and
Exchange Commission with respect to the calculation of earnings per share for
initial public offerings. The reconciliation of earnings per share - basic to
earnings per share - diluted is as follows:
Net income Per
(loss) Shares share
---------- --------- -------
For fiscal 1998
Earnings(loss) per share-basic and diluted:
- ------------------------------------------
Net (loss) available to common stockholders
$(28,356) 7,422,069 $(3.82)
======== ========= ======
For the transition period -
Earnings(loss) per share--basic and diluted:
- -------------------------------------------
Net (loss) available to common stockholders
$ (889) 7,261,542 $(0.12)
======== ========= ======
For fiscal 1997
Earnings per share--basic:
- -------------------------
Net income $ 1,710 5,739,962 $ 0.30
Effect of dilutive securities
Stock options 870,057
Warrants 76,224
---------
Earnings per share--diluted:
- ---------------------------
Net income available to common stockholders
and assumed conversions
$ 1,710 6,686,243 $ 0.26
======== ========= ======
For fiscal 1996
Earnings per share--basic:
- -------------------------
Net income $ 70 4,068,409 $ 0.02
Effect of dilutive securities
Stock options 985,474
Warrants 195,596
---------
Earnings per share--diluted:
- ---------------------------
Net income available to common stockholders
and assumed conversions $ 70 5,249,479 $ 0.01
======== ========= ======
F-10
Options to purchase common stock outstanding during the periods
presented above that were not included in the computation of earnings per
share--diluted because the option price was greater than the average market
price of the common shares were 462,334, 85,160 and 68,660 for fiscal 1998,
the transition period and fiscal 1997, respectively.
Stock-Based Compensation
The Company accounts for stock-based compensation using the intrinsic
value method.
Reclassifications
Certain prior period amounts have been reclassified to conform with
the current year presentation.
(4) Fixed Assets
The components of fixed assets, net at January 30, 1999 and January 31,
1998 are as follows:
January 30, January 31,
1999 1998
----------------------------
Furniture and equipment $45,464 $39,335
Leasehold improvements 13,120 11,084
----------------------------
Total fixed assets 58,584 50,419
Less accumulated depreciation and amortization 18,999 11,912
----------------------------
Fixed assets, net $39,585 $38,507
============================
(5) Revolving Credit Note Payable and Term Loan
In January 1998, the Company entered into a Loan and Security
Agreement ("Agreement") with two large commercial banks providing a $40,000
revolving line of credit which could be increased at the Company's
discretion up to $60,000, in $5,000 increments. Borrowings under the
Agreement were limited by inventory levels subject to certain reserves as
defined in the Agreement. Interest accrued at an annual rate equal to the
prime rate or, at the Company's option, the London Interbank Offered Rate
("LIBOR") plus an additional 175 or 200 basis points dependent on the
Company's financial performance. Interest was payable monthly or upon the
expiration of an advance issued under the Company's LIBOR option.
Borrowings under the Agreement were secured by substantially all of the
Company's assets. This Agreement contained restrictive financial covenants
requiring minimum net worth of $42,700 and a limit on annual capital
expenditures.
F-11
In July 1998, the Company borrowed $10,000 under a Term Loan and
Security Agreement ("Term Loan") from an affiliate of one of the
participants in the Agreement. The Term Loan, which was to expire in
December 1999, bore interest at a rate of 14.5%. Upon entering into the
Term Loan, warrants to purchase 215,000 shares of the Company's common
stock at $7.50 per share exercisable until July 2003, were issued. The Term
Loan was collateralized by a first security interest in the Company's
equipment and a secondary interest in the remainder of the Company's
assets.
The fair market value of the warrants issued in conjunction with the
Term Loan, determined to be $514, was recorded as additional paid in
capital and as a discount to the face amount of the debt. Amortization of
the discount and the related financing costs recognized was $331 and $360,
respectively, for fiscal 1998.
In July 1998, the Company also amended its Agreement (the "Amended
Agreement"). The Amended Agreement contained restrictive covenants
requiring minimum cumulative consolidated earnings before interest, taxes,
depreciation and amortization and limitations on annual capital
expenditures. Advances under the Amended Agreement were limited based on
inventory levels, which varied if the Term Loan was outstanding, and were
subject to certain possible reserves. Interest was accrued at an annual
rate equal to prime rate plus 50 basis points or, at the Company's option,
a rate based on LIBOR plus 250 basis points.
In March 1999, all borrowings under the Amended Agreement and the Term
Loan were repaid with proceeds from the DIP Facility.
(6) Lease Commitments
The Company conducts substantially all of its activities using leased
premises. Store and office leases generally provide that real estate taxes,
insurance, maintenance, and operating expenses are obligations of the
Company. Certain store leases also provide for contingent rentals based on
sales in excess of specified minimums.
The cost of fixed assets held under capital leases and included in
fixed assets was $8,463 and $7,928 at January 30, 1999 and January 31, 1998
respectively. Accumulated amortization related to such fixed assets was
$2,478 and $759 at January 30, 1999 and January 31, 1998, respectively.
Fixed assets held under capital leases consist principally of technology,
office and warehouse equipment.
F-12
The following is a schedule of future minimum lease payments for
capital and operating leases with initial or remaining terms in excess of
one year as of January 30, 1999.
Capital Operating
Fiscal year: leases leases
----------------------
1999 $ 2,444 $ 27,902
2000 1,222 27,437
2001 371 27,376
2002 208 27,058
Thereafter 3 113,697
---------------------
Total minimum lease payments 4,248 $ 223,470
Less amount representing interest 417 =========
--------
Present value of net minimum lease payments
(including long-term lease obligations of $1,670) $ 3,831
========
Rent expense charged to operations under operating leases was $26,001
for fiscal 1998, $11,390 during the transition period and $13,860 and
$10,214 for fiscal years 1997 and 1996, respectively.
The lease obligations described above are subject to adjustment under
the Chapter 11 Cases discussed in Note 2.
(7) Income Taxes (Benefit)
Income taxes (benefit), excluding the tax benefit related to the
extraordinary item in fiscal year 1997, are as follows:
Valuation
Current Deferred allowance Total
--------------------------------------------------
Fiscal 1998:
Federal $ (406) $ (8,383) $ 9,905 $ 1,116
State 23 (2,099) 1,411 (665)
--------------------------------------------------
$ (383) $ (10,482) $ 11,316 $ 451
==================================================
Transition period:
Federal $ 193 $ (578) $ -- $ (385)
State (48) (160) -- (208)
---------------------------------------------------
$ 145 $ (738) $ -- $ (593)
===================================================
Fiscal 1997:
Federal $ 797 $ 459 $ -- $ 1,256
State 80 126 -- 206
---------------------------------------------------
$ 877 $ 585 $ -- $ 1,462
===================================================
Fiscal 1996:
Federal $ 258 $ (155) $ -- $ 103
State 9 6 -- 15
---------------------------------------------------
$ 267 $ (149) $ -- $ 118
===================================================
F-13
Income taxes (benefit) differs from the amounts computed by applying the
Federal income tax rate of 34% to income (loss) before income taxes (benefit) as
a result of the following:
Fiscal
Fiscal Transition ----------------------
1998 period 1997 1996
-------------------------------------------------
Computed "expected" income taxes
(benefit) (34.0)% (34.0)% 34.0% 34.0%
Increase (decrease) in income taxes resulting from:
Increase in valuation allowance 40.6 -- -- --
State net operating loss carrybacks and
carryforwards (2.8) (10.7) -- --
State and local income taxes, net of
Federal income tax benefit (2.3) 1.5 4.4 4.6
Non-deductible meals and entertainment 0.1 1.3 0.8 15.8
Non-deductible life insurance premiums -- 0.1 0.5 6.8
Other, net -- 1.8 2.3 1.5
-------------------------------------------------
Income taxes (benefit) 1.6% (40.0)% 42.0% 62.7%
=================================================
Deferred income taxes on the balance sheet reflect the net tax effect of
operating loss and alternative minimum tax credit carryforwards along with the
temporary differences between the carrying amounts of assets and liabilities for
financial reporting purposes and the amounts used for income tax purposes and
operating loss carryforwards. Significant components of the Company's deferred
tax assets and liabilities are as follows:
January 30, January 31,
1999 1998
----------- -----------
Deferred tax assets related to:
Alternative minimum tax credit carryforward $ 564 $ 564
Deferred rent liabilities 1,296 973
Accrued expenses 1,756 149
Merchandise inventories 4,375 25
Net operating loss carryforward 6,051 928
-------- --------
14,042 2,639
Valuation allowance 11,316 -
-------- --------
Total deferred tax assets 2,726 2,639
Deferred tax liabilities related to fixed assets 2,726 1,814
-------- --------
Net deferred tax asset $ -- $ 825
======== ========
F-14
In assessing the realization of deferred tax assets, management
considers the likelihood that the deferred tax assets will be realized
through future taxable income. Since the realization of the deferred tax
assets may be limited by events involving the Chapter 11 Cases, the Company
recorded a $451 provision to fully reserve the net deferred asset which was
carried forward from the transition period and to reserve for the potential
tax benefits of net operating losses generated during fiscal 1998 which can
not be carried back to prior tax periods. Accordingly, the Company recorded
a valuation allowance of $11,316 to fully reserve for the value of the net
deferred tax assets at January 30, 1999.
At January 30, 1999, the Company had net operating loss ("NOL")
carryforwards for tax purposes of $16,578 which expire beginning in 2017.
The utilization of NOL carryforwards may be significantly limited by future
events related to direct and/ or indirect ownership changes of the Company.
(8) Employee Benefit Plans
1989 Incentive Stock Option Plan
A stock option plan was approved by the stockholders of the Company in
July 1989 to provide additional incentives and opportunities through stock
ownership to employees, outside directors and consultants of the Company.
Under the plan, incentive stock options may be granted for the purchase of
the Company's common stock at an exercise price not less than 100% of the
fair market value at the time of grant as determined by the Board of
Directors. The term of each option is also determined by the Board of
Directors, but can not be more than ten years from the date of grant.
Options are exercisable in accordance with the plan and generally vest at
the rate of 20% to 25% per year from the date of grant.
In July 1996, the Company granted options to purchase 351,400 shares
of common stock to certain individuals, including employees and directors,
at an option price of $2.49 per share. Options to purchase 190,760 shares
which were granted to employees vest over four years, and options to
purchase 160,640 shares were fully vested in September 1996. Based on the
estimated fair value of the Company's common stock at the time of grant of
these options of $3.30 per share, the Company recognized compensation
expense of $59, $34 and $208 during fiscal 1998, the transition period and
fiscal 1997, respectively. Of the amount recognized during fiscal 1997,
$146 related to options which were fully vested in September 1996. The
estimated fair value of the Company's common stock used in accounting for
these options was based on information from various sources which included
a valuation prepared by Avalon Group Ltd. (Avalon). At the time of the
valuation, the chairman and president of Avalon each owned 100 shares of
the Company's Series B preferred stock (or 0.3% of issued and outstanding
Series B preferred stock) and each had options to purchase 4,016 shares of
the Company's common stock (or 0.8% of weighted average common shares).
F-15
Outside Director Stock Option Plan
In November 1997, the Company's shareholders approved the 1997 Outside
Director Stock Option Plan permitting stock option awards to directors who are
not employees of the Company. The 1997 Outside Director Stock Option Plan was
effective in July 1997 and expires in July 2007. Under the plan, options may be
granted for the purchase of the Company's common stock at an exercise price not
less than 100% of the fair market value of a share of Common Stock on the date
of grant. The number of shares of Common Stock reserved in connection with this
plan is 250,000, subject to certain adjustments. The Company granted 160,000
options in November 1997 to eligible directors which become exercisable at the
rate of 8.33% per quarter through November 2000.
Had the Company determined compensation cost based on the fair value at the
grant date for its stock options under Statement of Financial Accounting
Standard ("SFAS") No. 123, the Company's net income (loss) would have been
changed to the pro forma amounts indicated below:
Fiscal
Fiscal Transition ----------------------
1998 period 1997 1996
-------------------------------------------------
Net income (loss) As reported $(28,356) $ (889) $ 1,710 $ 70
Pro forma (28,618) (1,052) 1,450 46
Earnings (loss) per share - diluted As reported (3.82) (0.12) 0.26 0.01
Pro forma (3.86) (0.13) 0.22 0.01
Pro forma net income (loss) reflects only options granted during fiscal
1998, the transition period and fiscal 1997 and 1996. Therefore, the full impact
of calculating compensation cost for stock options under SFAS No. 123 is not
reflected in the pro forma net income (loss) amounts presented above because
compensation cost is reflected over the options' vesting periods of generally
four years and compensation cost for options granted prior to July 1995 is not
considered.
The per share weighted average fair value of stock options granted during
fiscal 1998, the transition period and fiscal 1997 and 1996 was estimated using
the Black Scholes Option-Pricing Model with the following weighted average
assumptions; Fiscal 1998 expected dividend rate of 0.0%, risk-free interest rate
of 5.0%, volatility of 68% and an expected life of approximately 2 years;
transition period - expected dividend yield of 0.0%, risk-free interest rate of
6.0%, volatility of 60% and an expected average life of approximately two years.
Fiscal 1997 - expected dividend yield of 0.0%, risk-free interest rate of 6.2%,
volatility of 60% and an expected average life of approximately two years;
Fiscal 1996 - expected dividend yield of 0.0%, risk-free interest rate of 5.8%,
volatility of 60% and an expected average life of approximately three years.
F-16
Stock option activity is as follows:
---------------------------------------------------------------------------------------------
Fiscal
Fiscal Transition ---------------------------------------------
1998 period 1997 1998
--------------------- --------------------- --------------------- ---------------------
Number Weighted- Number Weighted- Number Weighted- Number Weighted-
of shares average of shares average of shares average of shares average
exercise exercise exercise exercise
price price price price
per share per share per share per share
---------------------------------------------------------------------------------------------
Outstanding - beginning of period 1,173,749 $4.10 1,023,841 $2.97 739,346 $2.36 707,218 $2.38
Granted 147,000 6.44 325,000 6.85 432,083 3.58 72,288 2.49
Exercised (91,356) 2.49 (102,348) 2.22 (99,396) 1.17 - -
Forfeited (211,888) 5.19 (72,744) 3.32 (48,192) 3.11 (40,160) 3.05
---------------------------------------------------------------------------------------------
Outstanding at end of period 1,017,505 4.34 1,173,749 4.10 1,023,841 2.97 739,346 2.36
---------------------------------------------------------------------------------------------
Exercisable at end of period 679,937 3.36 613,536 2.93 568,560 2.85 394,672 1.89
---------------------------------------------------------------------------------------------
Weighted-average fair value of
options granted during the
period $1.83 $2.89 $1.69 $1.62
---------------------------------------------------------------------------------------------
Available for future grants at end
of period 195,637 130,749 133,004 212,446
---------------------------------------------------------------------------------------------
Information regarding options outstanding and exercisable at January 30,
1999 and January 31, 1998 is as follows:
------------------------------------------------------------------------
Options outstanding Options exercisable
-------------------------------------------- ------------------------
Weighted- Weighted- Weighted-
Average Average Average
Number Remaining Exercise Number Exercise
Range of Exercise Prices outstanding contractual life Price exercisable Price
------------------------------------------------------------------------
January 30, 1999:
$ 0.62 to $ 1.63 164,680 0.96 $ 0.67 155,680 $ 0.62
2.49 to 2.49 366,869 6.79 2.49 334,138 2.49
3.50 to 11.00 485,956 8.30 6.97 190,119 7.14
------------------------------------------------------------------------
$ 0.62 to $11.00 1,017,505 6.56 $ 4.34 679,937 $ 3.36
========================================================================
January 31, 1998:
$ 0.62 to $ 0.62 155,680 1.44 $ 0.62 155,680 $ 0.62
2.49 to 2.49 543,565 7.73 2.49 341,560 2.49
5.50 to 11.00 474,504 8.98 7.04 116,296 7.30
------------------------------------------------------------------------
$ 0.62 to $11.00 1,173,749 7.38 $ 4.10 613,536 $ 2.93
========================================================================
F-17
Incentive Savings Plan
The Incentive Savings Plan (the "ISP Plan") is a defined contribution
plan sponsored by the Company for all eligible employees. Participants in
the ISP Plan may elect to contribute between 2% and 13% of their pre-tax
base salary, subject to limitations imposed by the Internal Revenue
Service.
The Company makes a discretionary matching contribution to the ISP
Plan at the rate of 33% of the first 6% of the participant's contribution.
For fiscal 1998, the transition period, and fiscal 1997 and 1996, the
Company's discretionary matching contributions to the ISP Plan were $230,
$95, $121 and $86, respectively. The ISP Plan also allows for a
discretionary base contribution to be made by the Company only if it has
current or accumulated net profits. No discretionary base contributions
have been made by the Company to date.
Employee Stock Purchase Plan
In December 1996, the Company adopted an Employee Stock Purchase Plan
(the "ESPP Plan") to provide eligible employees the opportunity to purchase
shares of its common stock. Employees may purchase shares, through payroll
deductions, up to 10% of the employee's compensation, not to exceed $5 per
offering period, at a price per share equal to 90% of the fair market value
of the common stock as of the last day of any offering. Withholdings from
employees for purchases under the ESPP Plan were $70 in fiscal 1998, $73 in
the transition period and $161 in fiscal 1997.
(9) Fair Value of Financial Instruments
The Company's financial instruments at January 30, 1999 and January
31, 1998 include accounts payable, revolving credit term note payable and
long-term debt. The Company has assumed that the carrying value of trade
accounts payable approximates fair value because of the short maturity of
these instruments. The Company believes the carrying value of the revolving
credit term note payable approximates fair value due to the variable rate
of interest on this instrument. Such fair values are subject to possible
adjustment in conjunction with the bankruptcy proceedings discussed in Note
2.
F-18
(10) Quarterly Financial Information (unaudited)
Following is a summary of unaudited quarterly information:
First Second Third Fourth
quarter quarter quarter quarter
--------------------------------------
Fiscal 1998:
Total sales $49,862 $54,749 $57,715 $ 64,173
Gross profit 17,679 18,426 17,729 3,703
Net income(loss) 568 (796) (2,604) (25,524)
Net income(loss) per share - basic 0.08 (0.11) (0.35) (3.40)
Net income(loss) per share - diluted 0.07 (0.11) (0.35) (3.40)
First Second Seventh
quarter quarter month
---------------------------
Transition period:
Total sales $35,315 $60,302 $15,082
Gross profit 11,742 23,238 3,735
Net income (loss) (2,152) 2,153 (890)
Net income (loss) per share - basic (0.30) 0.30 (0.12)
Net income (loss) per share - diluted (0.30) 0.27 (0.12)
First Second Third Fourth
quarter quarter quarter quarter
--------------------------------------
Fiscal 1997:
Total sales $25,032 $37,692 $30,932 $ 40,289
Gross profit 8,035 14,443 11,480 16,156
Income (loss) before extraordinary item (1,291) 791 242 2,281
Net income (loss) (1,291) 478 242 2,281
Net income (loss) per share - basic (0.32) 0.10 0.03 0.32
Net income (loss) per share - diluted (0.26) 0.09 0.03 0.29
Fiscal 1996:
Total sales $16,817 $25,109 $21,707 $ 30,956
Gross profit 5,792 9,510 7,719 12,429
Net income (loss) (1,238) 256 (461) 1,513
Net income (loss) per share - basic (0.30) 0.06 (0.11) 0.37
Net income (loss) per share - diluted (0.25) 0.05 (0.09) 0.29
F-19
Independent Auditors' Report
The Board of Directors and Shareholders
Factory Card Outlet Corp.:
Under date of April 27, 1999 we reported on the consolidated balance sheets
of Factory Card Outlet Corp. and subsidiary as of January 30, 1999 and January
31, 1998 and the related statements of operations, stockholders' equity and cash
flows for the fiscal year ended January 30, 1999, the transition period ended
January 31,1998 and each of the fiscal years in the two-year period ended June
28, 1997, which are included in this Form 10-K. In connection with our audits of
the aforementioned consolidated financial statements, we also audited the
related financial statement schedule as listed in Item 14(a)(2) of this Form
10-K. The financial statement schedule is the responsibility of the Company's
management. Our responsibility is to express an opinion on the financial
statement schedule based on our audits.
In our opinion, such financial statement schedule, when considered in
relation to the basic consolidated financial statements taken as a whole,
presents fairly, in all material respects, the information set forth therein.
The accompanying financial statement schedule has been prepared assuming
the Company will continue as a going concern. As discussed in Note 2 of the
Notes to the Consolidated Financial Statements, on March 23, 1999, the Company
filed a voluntary petition for relief under chapter 11 of title 11 of the United
States Bankruptcy Code. In addition, the Company has suffered losses from
operations. These matters raise substantial doubt about the Company's ability to
continue as a going concern. The financial statement schedule does not include
any adjustments that might result from the outcome of this uncertainty.
/s/ KPMG LLP
Chicago, Illinois
April 27, 1999
S-1
Schedule I
----------
FACTORY CARD OUTLET CORP.
AND SUBSIDIARY
Condensed Financial Information of Factory Card Outlet Corp.
Balance Sheets
(Dollar amounts in thousands, except share and per share data)
January 30, January 31,
1999 1998
----------- -----------
ASSETS
Current assets:
Cash $ 17 $ 17
Due from subsidiary 13,716 13,362
Note receivable - subsidiary 40,188 34,955
----------- -----------
Total current assets 53,921 48,334
Investment in subsidiary (29,743) 3,400
----------- -----------
Total assets $ 24,178 $ 51,734
=========== ===========
STOCKHOLDERS' EQUITY
Common stock -$.01 par value. Voting class - authorized 15,000,000 shares;
7,503,098 and 7,335,519 shares issued and outstanding at January 30, 1999
and January 31, 1998, respectively. Non-voting class - authorized 205,000
shares, no shares issued or outstanding. 75 73
Additional paid-in capital 52,021 51,223
Retained earnings (deficit) (27,918) 438
----------- -----------
Total stockholders' equity $ 24,178 $ 51,734
=========== ===========
See accompanying notes to condensed financial information.
S-2
Schedule I
----------
FACTORY CARD OUTLET CORP.
AND SUBSIDIARY
Condensed Financial Information of Factory Card Outlet Corp.
Statements of Operations
(Dollar amounts in thousands)
Transition
Fiscal year period Fiscal year ended
ended ended -------------------------
January 30, January 31, June 28, June 29,
1999 1998 1997 1996
------------ ------------ --------- --------
Royalty income $ 3,397 $ 1,660 $ - $ -
Interest income - subsidiary note receivable 2,981 1,990 1,713 -
Equity in net income (loss) of subsidiary (33,231) (2,432) 716 70
--------- -------- -------- --------
Net revenue (expense) (26,853) 1,218 2,429 70
Operating expenses 1,581 1,077 - -
--------- -------- -------- --------
Income (loss) before income taxes ( benefit) (28,434) 141 2,429 70
Income taxes (benefit) (78) 1,030 719 -
--------- -------- -------- --------
Net income (loss) $ (28,356) $ (889) $ 1,710 $ 70
========= ======== ======== ========
See accompanying notes to condensed financial information.
S-3
Schedule I
----------
FACTORY CARD OUTLET CORP.
AND SUBSIDIARY
Condensed Financial Information of Factory Card Outlet Corp.
Statements of Cash Flows
(Dollar amounts in thousands, except share data)
Fiscal Transition
year period Fiscal year ended
ended ended ----------------------
January 30, January 31, June 28, June 29,
1999 1998 1997 1996
----------- ----------- -------- --------
Cash flows from operating activities:
Net income (loss) $ (28,356) $ (889) $ 1,710 $ 70
Adjustments to reconcile net income (loss)
to net cash provided by (used in)
operating activities:
Equity in net loss (income) of subsidiary 33,231 2,432 (716) (70)
Decrease (increase) in due from subsidiary 141 332 (53) -
----------- ----------- -------- --------
Net cash provided by operating activities 5,016 1,875 941 -
----------- ----------- -------- --------
Cash used in investing activities -
Increase in note receivable from subsidiary (5,233) (2,225) (32,729) -
----------- ----------- -------- --------
Cash flows from financing activities:
Proceeds from issuance of Series C
convertible preferred stock - - 8,638 -
Proceeds from issuance of common stock - - 23,123 -
Proceeds from exercise of employee stock
options 217 297 104 -
Purchase of treasury stock - - (180) -
Sale of treasury stock to employee stock
purchase plan 53 103 -
----------- ----------- -------- --------
Net cash provided by financing activities 217 350 31,788 -
----------- ----------- -------- --------
Net increase in cash - - - -
Cash at beginning of year 17 17 17 17
----------- ----------- -------- --------
Cash at end of year $ 17 $ 17 $ 17 $ 17
=========== =========== ======== ========
Supplemental disclosures of cash flow
information:
Noncash financing activities -
In August 1996, the Company exchanged Series C
Preferred stock for consideration of its
subsidiary's trade accounts payable - - 1,101 -
In December 1996, all outstanding shares of
Convertible Preferred stock were converted
into 3,134,674 shares of common stock - - 24,196 -
Additional paid-in capital recognized for
common stock warrants 514 - 264 413
See accompanying notes to condensed financial information.
S-4
FACTORY CARD OUTLET CORP.
AND SUBSIDIARY
Notes to Condensed Financial Information of Factory Card Outlet Corp.
(Dollar amounts in thousands, except per share data)
(1) Basis of Accounting
The condensed financial information of Factory Card Outlet Corp. ("the
Company") has been prepared pursuant to Securities and Exchange Commission
rules and regulations and should be read in conjunction with the
Consolidated Financial Statements and Notes thereto as of January 30, 1999
and January 31, 1998 and the fiscal year ended January 30, 1999, the
transition period ended January 31, 1998 and each of the fiscal years in
the two-year period ended June 28, 1997. The Condensed Financial
Information of the Company has been prepared on an unconsolidated basis.
The Company's investment in and amounts due from its subsidiary are
recorded on the equity basis.
(2) Chapter 11 Filing
On March 23, 1999, the Company and its subsidiary, Factory Card Outlet
of America Ltd., filed a petition for reorganization under chapter 11 of
title 11 of the United States Bankruptcy Code. The Company is currently
operating its business and managing its properties as a debtor in
possession pursuant to the Bankruptcy Code. See Note 2 to the Notes to
Consolidated Financial Statements.
(3) Guarantees
The Company has guaranteed the credit and debt agreements between its
subsidiary and various lenders. For information related to the agreements,
see Notes 2 and 5 of Notes to Consolidated Financial Statements.
(4) Notes Receivable - subsidiary
During fiscal 1997, the subsidiary issued a note to the Company.
Interest is accrued quarterly based on the prime lending rate plus two
percent per year. The note and any accrued interest is due and payable on
demand.
(5) Royalty and Licensing Agreement
In June 1997 the Company entered into a Royalty and Licensing
Agreement ("Agreement") with its subsidiary. This Agreement grants its
subsidiary the right to use trademarks and tradenames owned by the Company
in exchange for a royalty fee of one and one-half percent of net sales from
operations.
S-5