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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
Annual Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the fiscal year ended FEBRUARY 3, 2001
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Commission file number 000-24261
RESTORATION HARDWARE, INC.
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(Exact name of registrant as specified in its charter)
DELAWARE 68-0140361
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation of organization)
15 KOCH ROAD, SUITE J
CORTE MADERA, CALIFORNIA 94925
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (415) 924-1005
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Securities registered pursuant to section 12(b) of the Act: None
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Title of each class Name of each exchange on which registered
NONE NONE
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Securities registered pursuant to section 12(g) of the Act:
COMMON STOCK, $.0001 PAR VALUE
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(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. [X] Yes [ ] No
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference to Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
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The aggregate market value of voting stock held by non-affiliates of the
registrant was approximately $33,176,359 as of April 20, 2001 based upon the
closing price of the registrant's common stock on the Nasdaq National Market
reported for April 20, 2001. Shares of voting stock held by each executive
officer and director and by each person who on that date beneficially owned more
than 5% of the outstanding voting stock have been excluded in that such persons
may under certain circumstances be deemed to be affiliates. This determination
of affiliate status is not necessarily a conclusive determination of affiliate
status for any other purpose.
19,033,723 shares of the registrant's $.0001 par value common stock were
outstanding on April 20, 2001.
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TABLE OF CONTENTS
PAGE
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PART I
Item 1. Business..........................................................................1
Item 2. Properties.......................................................................13
Item 3. Legal Proceedings................................................................14
Item 4. Submission of Matters to a Vote of Security Holders..............................14
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters............14
Item 6. Selected Financial Data..........................................................16
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations..............................................17
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.......................23
Item 8. Financial Statements and Supplementary Data......................................24
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure..............................................46
PART III
Item 10. Directors and Executive Officers of the Registrant Executive Compensation........47
Item 11. Executive Compensation and Other Information.....................................52
Item 12. Security Ownership of Certain Beneficial Owners and Management...................64
Item 13. Certain Relationships and Related Transactions...................................66
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.................69
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This annual report on Form 10-K contains certain forward-looking statements that
are based on the beliefs of, and estimates made by and information currently
available to, our management. The words "expect," "anticipate," "intend," "plan"
and similar expressions identify forward-looking statements. These statements
are subject to risks and uncertainties. Actual results could differ materially
from those discussed here. Factors that could cause or contribute to such
differences include, but are not limited to, those discussed below in "Factors
That May Affect Our Future Operating Results" and elsewhere in this annual
report on Form 10-K.
PART I
ITEM 1. BUSINESS
GENERAL
Our company, Restoration Hardware, Inc., together with our subsidiaries,
is a specialty retailer of home furnishings, functional and decorative hardware
and related merchandise that reflects our classic and authentic American point
of view. We market our merchandise through retail locations, mail order catalogs
and on the worldwide web at www.restorationhardware.com. Our merchandise
strategy and our stores' architectural style create a unique and attractive
selling environment designed to appeal to an affluent, well educated 35 to 55
year old customer. We operated 106 stores in 31 states, the District of Columbia
and in Canada at February 3, 2001. We operate on a 52 - 53 week fiscal year
ending on the Saturday closest to January 31. The 2000 fiscal year was a 53-week
year and ended on February 3, 2001.
We commenced business more than 20 years ago as a purveyor of fittings
and fixtures for older homes. Since then, we have evolved into a unique home
furnishings retailer offering consumers an array of distinctive, high quality
and often hard-to-find merchandise. We display our broad assortment of
merchandise in an architecturally inviting setting, which we believe appeals to
both men and women. We believe that we create an attractive and entertaining
environment in our stores by virtue of our eclectic product mix, which combines
classic, high-quality furniture, lighting, home furnishings and functional and
decorative hardware. Integral to the shopping experience, most product displays
are complemented by our unique and often whimsical in-store signage program,
which provides historical, anecdotal and sometimes nostalgic descriptions of
products.
In March 1998, we purchased The Michaels Furniture Company, a
manufacturer of classic, mission-style hardwood furniture. Prior to the
acquisition, Michaels was an independent supplier for our retail stores.
RETAIL STORES
Merchandising Mix
We offer a broad but carefully edited selection of merchandise that
provides a consistent point of view throughout our stores. Our collection of
merchandise, not traditionally found in a single store environment, includes
classic American-styled furniture, home furnishings, lighting, functional and
decorative hardware and discovery items. Our merchandise mix also includes
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proprietary products and hard-to-find products selected from non-traditional
distribution channels that appear unique to our customers.
Product Selection, Purchasing and Sourcing
We make merchandise purchases from over 450 vendors. These vendors
include major domestic manufacturers, specialty niche manufacturers and
importers. We maintain agents in China, England, France, Japan, India, Portugal
and Eastern Europe, and our merchandising team travels to Asia and Europe in
search of new products. By sourcing products offshore, we seek to achieve
increased buying effectiveness and ensure exclusivity for a portion of our
product line. In many instances, we also work closely with our vendors to
develop products which are unique to us.
DIRECT TO CUSTOMER -- CATALOG AND INTERNET
Our catalog business complements our retail business by building
customer awareness of a concept and acting as an effective advertising vehicle.
In addition, we maintain a website, www.restorationhardware.com, designed to
sell our products, promote consumer awareness of Restoration Hardware and
generate store traffic.
In fiscal 2000, we distributed approximately 12 million catalogs. We
mail catalogs to persons with demographic profiles similar to those of our
retail customers and who also possess previous mail order purchase histories.
For the fiscal year ended February 3, 2001, these persons were primarily
identified through the exchange or rental of lists from other mail order
businesses, various publications and internally-maintained customer lists. We
out-source the fulfillment aspects of the business, including telemarketing,
customer service and distribution, to National Catalog Corporation. Its facility
is located in Portland, Tennessee.
We believe our catalog is a key resource to further market our brand to
both retail customers and customers outside of the retail trade area.
THE MICHAELS FURNITURE COMPANY
Michaels offers a line of furniture for the home and office. Specific
product lines include living room, bedroom, dining room, home office and
accessory items. Inter-company sales to Restoration Hardware represented
virtually all of Michaels' total sales during the fiscal year ended February 3,
2001 and this trend is expected to continue. Michaels is located in Sacramento,
California.
MANAGEMENT INFORMATION SYSTEMS
Our retail management information systems include fully integrated
store, merchandising, distribution and financial systems. We utilize STS Systems
for our point-of-sale and merchandise management systems, and rely on STS for
software support.
In spring of 2000, our Baltimore distribution center was opened, and the
implementation of our bi-coastal distribution strategy was completed. We utilize
a four-wall warehouse
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management package offered through STS Systems, which was first implemented in
our Hayward distribution center in 1999.
COMPETITION
We compete with a wide variety of national, regional and local
retailers. Competition exists from businesses utilizing a similar retail store
strategy, as well as traditional furniture stores and department stores. Many of
our competitors are larger and have substantially greater financial, marketing
and other resources.
We believe that our ability to compete successfully is determined by
several factors, including, among other things, the breadth and quality of our
product selection, effective merchandise presentation, customer service, pricing
and store location. Although we believe that we are able to compete favorably on
the basis of these factors, we may not ultimately succeed in competing with
other retailers in our market.
TRADEMARKS
We have registered our trademark "Restoration Hardware" in the United
States, Mexico and Canada.
EMPLOYEES
At February 3, 2001, we had approximately 2,100 full-time employees and
1,100 part-time employees. We consider our employee relations to be good. None
of our employees are represented by a collective bargaining agreement, nor have
we ever experienced any work stoppage.
FACTORS THAT MAY AFFECT OUR FUTURE OPERATING RESULTS
Because our revenues are subject to seasonal fluctuations, significant
deviations from projected demand for products in our inventory during a selling
season could have a material adverse effect on our financial condition and
results of operations.
Our business is highly seasonal. The general pattern associated with the
retail industry is one of peak sales and earnings during the holiday season. Due
to the importance of the holiday selling season, the fourth quarter of each year
has historically contributed, and we expect it will continue to contribute, a
disproportionate percentage of our net sales and most of our net income for the
entire year. In anticipation of increased sales activity during the fourth
quarter, we incur significant additional expenses both prior to and during the
fourth quarter. These expenses may include acquisition of additional inventory,
catalog preparation and mailing, advertising, in-store promotions, seasonal
staffing needs and other similar items. If, for any reason, our sales were to
fall below our expectations in November and December, our business, financial
condition and annual operating results may be materially adversely affected.
In addition, we make decisions regarding merchandise well in advance of
the season in which it will be sold, particularly for the holiday selling
season. We also expend a large amount of our available funds on advertising in
advance of a particular season. Moreover, our
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advertising costs for the past three fiscal years have increased from
approximately $4.4 million per year to approximately $14.1 million per year. As
a result, if we misjudge the directions or trends in our market, we may
significantly overstock unpopular products and understock popular ones while
expending large amounts of our cash on advertising that generates little return
on investment. All of these results would have a negative impact on our
operating results.
Our quarterly results fluctuate due to a variety of factors and are not a
meaningful indicator of future performance.
Our quarterly results have fluctuated in the past and may fluctuate
significantly in the future, depending upon a variety of factors, including,
among other things, the mix of products sold, the timing and level of markdowns,
promotional events, store closings, remodels or relocations, shifts in the
timing of holidays, timing of catalog releases or sales, competitive factors and
general economic conditions. Accordingly, our profits or losses may fluctuate.
Moreover, in response to competitive pressures, we may take certain pricing or
marketing actions that could have a material adverse effect on our business,
financial condition and results of operations. Therefore, we believe that
period-to-period comparisons of our operating results are not necessarily
meaningful and cannot be relied upon as indicators of future performance. If our
operating results in any future period fall below the expectations of securities
analysts and investors, the market price of our securities would likely decline.
Fluctuations in comparable store sales may cause our revenues and operating
results from period to period to vary.
A variety of factors affect our comparable store sales including, among
other things, the general retail sales environment, our ability to efficiently
source and distribute products, changes in our merchandise mix, promotional
events, the impact of competition and our ability to execute our business
strategy efficiently. Our comparable store sales results have fluctuated
significantly in the past and we believe that such fluctuations may continue.
Our comparable store net sales decreased 1% in fiscal 2000, and increased 0.8%
in fiscal 1999 and increased 12.3% in fiscal 1998. Past comparable store sales
results may not be indicative of future results. For example, during February
and March 2000, we experienced negative double-digit comparable store sales.
Moreover, we believe that comparable store sales will be between negative 15%
and negative 18% for the first fiscal quarter of the fiscal year ending February
2, 2002. As a result, the unpredictability of our comparable store sales may
cause our revenues and operating results to vary quarter to quarter, and an
unanticipated decline in revenues may cause our stock price to fluctuate.
We depend on a number of key vendors to supply our merchandise and provide
critical services, and the loss of any one of our key vendors may result in a
loss of sales revenues and significantly harm our operating results.
Our performance depends on our ability to purchase our merchandise in
sufficient quantities at competitive prices. Although we have many sources of
merchandise, two of our vendors, Mitchell Gold, a manufacturer of upholstered
furniture, and Robert Abbey Inc., a manufacturer of table and floor lamps,
together accounted for approximately 17% of our aggregate merchandise purchases
in the fiscal year ended February 3, 2001. In addition, our
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smaller vendors generally have limited resources, production capacities and
operating histories, and some of our vendors have limited the distribution of
their merchandise in the past. We have no long-term purchase contracts or other
contractual assurances of continued supply, pricing or access to new products,
and any vendor or distributor could discontinue selling to us at any time.
We may not be able to acquire desired merchandise in sufficient quantities on
terms acceptable to us in the future, or be able to develop relationships with
new vendors to expand our options or replace discontinued vendors. Our inability
to acquire suitable merchandise in the future or the loss of one or more key
vendors and our failure to replace any one or more of them may have a material
adverse effect on our business, results of operations and financial condition.
In addition, a single vendor supports the majority of our management
information systems, and we have historically employed a single general
contractor to oversee the construction of our new stores. A failure by the
vendor to support our management information systems or by the contractor to
provide its services adequately upon request in the future could have a material
adverse effect on our business, results of operations and financial condition.
A disruption in either of our two distribution centers' operations would
materially affect our operating results.
The distribution functions for our stores are currently handled from our
facilities in Hayward, California and Baltimore, Maryland. Any significant
interruption in the operation of either of these facilities would have a
material adverse effect on our financial condition and results of operations.
Moreover, a failure to successfully coordinate the operations of these
facilities also could have a material adverse effect on our financial condition
and results of operations.
We are dependent on external funding sources.
We, like other emerging-growth retailers, rely significantly on external
funding sources to finance our operations and growth. Any reduction in cash flow
from operations could increase our external funding requirements to levels above
those currently available to us. While we currently have in place a $89.0
million credit facility, the amount available under this facility is typically
much less than the $89.0 million stated maximum limit of the facility because
the availability of eligible collateral for purposes of the borrowing base
limitations in the credit facility usually reduces the overall credit amount
otherwise available at any given time. While we currently believe that our cash
flow from operations and funds available under our credit facility will satisfy
our capital requirements for at least the next 12 months, continued weakening
of, or other adverse developments concerning our sales performance or adverse
developments concerning the availability of credit under our credit facility due
to covenant limitations or other factors could limit the overall availability of
funds to us. In particular, we may experience cash flow shortfalls in the future
and any increase in external funding required by these shortfalls may not be
available to us.
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Because our business requires a substantial level of liquidity, we are dependent
upon a credit facility with numerous restrictive covenants that limit our
flexibility.
Our business requires substantial liquidity in order to finance
inventory purchases, the employment of sales personnel for the peak holiday
period, publicity for the holiday buying season and other similar advance
expenses. In addition, other activities such as expenses of our direct to
customer business may require additional capital expenditures. We currently have
in place a credit facility with a syndicate of lenders, which include, among
others, Fleet Capital Corporation. Over the past several years, we have entered
into numerous modifications of this credit facility, primarily to address
changes in the covenant requirements to which we are subject. The most recent
amendment of our credit facility occurred in March 2001 in connection with our
Series A and B preferred stock financing. As a result of that amendment, the
credit facility now provides us with a line of credit of up to a maximum of
$89.0 million, with amounts available for letters of credit under the line up to
a maximum of $20.0 million. However, covenants in the credit facility include,
among others, ones that limit our ability to incur additional debt, make liens,
make investments, consolidate, merge or acquire other businesses and sell
assets, pay dividends and other distributions, and enter into transactions with
affiliates. These covenants restrict numerous aspects of our business. Moreover,
financial performance covenants require us, among other things, not to exceed
particular capital expenditure limits. The credit facility also includes a
borrowing base formula to address the availability of credit under the facility
at any given time based upon numerous factors, including eligible inventory and
eligible accounts receivable (subject to the overall maximum cap on total
borrowings). Consequently, the availability of eligible collateral for purposes
of the borrowing base formula may limit our ability to borrow under the credit
facility. Moreover, failure to comply with the terms of the credit facility
would entitle the secured lenders to foreclose on our assets, including our
accounts, inventory, general intangibles, equipment, goods, fixtures and chattel
paper. The secured lenders would be repaid from the proceeds of the liquidation
of those assets before the assets would be available for distribution to other
creditors and, lastly, to the holders of our capital stock. Our ability to
satisfy the financial and other restrictive covenants may be affected by events
beyond our control.
We may be unable to raise additional funds that we will need to remain
competitive.
We depend on a number of different financing sources to fund our
continued operations, including third party financings and borrowings that may
include debt, equity or other securities. However, we cannot assure you that we
will be able to raise funds on favorable terms, if at all, or that future
financing requirements would not be dilutive to holders of our capital stock. In
the event that we are unable to obtain additional funds on acceptable terms or
otherwise, we may be unable or determine not to take advantage of new
opportunities or take other actions that otherwise might be important to our
operations. Additionally, we may need to raise additional funds in order to take
advantage of unanticipated opportunities. We also may need to raise additional
funds to respond to changing business conditions or unanticipated competitive
pressures. If we fail to raise sufficient funds, we may be required to delay or
abandon some of our planned future expenditures or aspects of our current
operations.
We have increasing interest expense which may impact our future operations.
High levels of interest expense have had and could have negative effects
on our future operations. Interest expense, which is net of interest income and
includes amortization of debt
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issuance costs and interest expense on borrowings under our credit facility,
increased $4.4 million to $5.8 million for the fiscal year ended February 3,
2001 from $1.4 million for the fiscal year ended January 29, 2000. For the
fiscal year ended January 29, 2000, interest expense increased only $0.5 million
to $1.4 million. The increase in interest expense in the past fiscal year
resulted from both an increase in the average borrowings outstanding and an
increase in the average interest rate. However, cash generated from our
operations was not sufficient to cover operating expenses and capital
expenditures. Consequently, we were required to make continuous borrowings under
our credit facility during the fiscal year ended February 3, 2001. While our
credit facility was amended in March 2001 to provide us with a more favorable
interest rate, a substantial portion of our cash flow from operations must be
used to pay our interest expense and will not be available for other business
purposes. Interest expense continues to be a significant use of our available
cash. Our ability to meet our debt and other obligations and to reduce our total
debt depends on our future operating performance and on economic, financial,
competitive and other factors. In addition, we may need to incur additional
indebtedness in the future. Many of these factors are beyond our control. We
cannot assure you that our business will generate sufficient cash flow or that
future financings will be available to provide sufficient proceeds to meet our
obligations or to service our total debt.
We are subject to trade restrictions and other risks associated with our
dependence on foreign imports for our merchandise.
During the fiscal year ended February 3, 2001, we purchased
approximately 18% of our merchandise directly from vendors located abroad and
expect that such purchases will increase as a percentage of total merchandise
purchases for the fiscal year ending on February 2, 2002. As an importer, our
future success will depend in large measure upon our ability to maintain our
existing foreign supplier relationships or to develop new ones. While we rely on
our long-term relationships with our foreign vendors, we have no long-term
contracts with them. Additionally, many of our imported products are subject to
existing duties, tariffs and quotas that may limit the quantity of some types of
goods which we may import into the United States. Our dependence on foreign
imports also makes us vulnerable to risks associated with products manufactured
abroad, including, among other things, changes in import duties, tariffs and
quotas, loss of "most favored nation" trading status by the United States in
relation to a particular foreign country, work stoppages, delays in shipments,
freight cost increases, economic uncertainties, including inflation, foreign
government regulations, and political unrest and trade restrictions, including
United States retaliating against protectionist foreign trade practices. If any
of these or other factors were to render the conduct of business in particular
countries undesirable or impractical, our financial condition and results of
operations could be materially adversely affected.
While we believe that we could find alternative sources of supply, an
interruption or delay in supply from our foreign sources, or the imposition of
additional duties, taxes or other charges on these imports could have a material
adverse effect on our business, financial condition and results of operations
unless and until alternative supply arrangements are secured. Moreover, products
from alternative sources may be of lesser quality and/or more expensive than
those we currently purchase, resulting in a loss of sales revenues to us.
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As an importer we are subject to the effects of currency fluctuations related to
our purchases of foreign merchandise.
While most of our purchases outside of the United States currently are
settled in U.S. dollars, it is possible that a growing number of them in the
future may be made in currencies other than the U.S. dollar. Historically, we
have not hedged our currency risk and do not currently anticipate doing so in
the future. However, because our financial results are reported in U.S. dollars,
fluctuations in the rates of exchange between the U.S. dollar and other
currencies may have a material adverse effect on our financial condition and
results of operations in the future.
Increased investments related to our catalog and Internet sales business may not
generate a corresponding increase in profits to our business.
We may invest additional resources in the expansion of our catalog and
Internet sales business which could increase the risks associated with aspects
of this business. While we out-source the fulfillment aspects of our catalog
business, including telemarketing, customer service and distribution, to
National Catalog Corporation, increased efforts in our catalog and Internet
business could result in material changes in our operating costs, including
increased merchandise inventory costs and costs for paper and postage associated
with the distribution and shipping of catalogs and product. Although we intend
to attempt to mitigate the impact of these increases by improving efficiencies,
we cannot assure you that cost increases associated with our catalog and
Internet sales business will not have an adverse effect on the profitability of
our business.
We may not be able to successfully anticipate changes in consumer trends and our
failure to do so may lead to loss of sales revenues.
Our success depends on our ability to anticipate and respond to changing
merchandise trends and consumer demands in a timely manner. Moreover, our new
management team is redefining and redirecting the focus of our stores, and
implementing changes in the nature and types of many products we sell. If we
misjudge market trends, we may significantly overstock unpopular products and be
forced to take significant inventory markdowns, which would have a negative
impact on our operating results. Conversely, shortages of items which prove
popular could have a material adverse effect on our operating results.
We believe there is a lifestyle trend toward increased interest in home
renovation and interior decorating, and we further believe we are benefiting
from such a trend. The failure of this trend to materialize or a decline in such
a trend could adversely affect consumer interest in our major product lines.
Moreover, our products must appeal to a broad range of consumers whose
preferences cannot always be predicted with certainty and may change between
sales seasons. If we misjudge either the market for our merchandise or our
customers' purchasing habits, we may experience a material decline in sales or
be required to sell inventory at reduced margins. We could also suffer a loss of
customer goodwill if our stores or furniture-making operations do not adhere to
our quality control or service procedures or otherwise fail to ensure
satisfactory quality of our products. These outcomes may have a material adverse
effect on our business, operating results and financial condition.
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Our success is highly dependent on new manufacturers and suppliers with whom we
do not have a long history working together.
As our management team changes the nature and types of the many products
that we sell, we anticipate changes in some of the manufacturers and suppliers
of our products. Many of these manufacturers and suppliers will be new to us,
and many of them will be located abroad. We cannot assure you that they will be
reliable sources of our products. Moreover, these manufacturers and suppliers
may be small and undercapitalized firms who produce limited numbers of items.
Given their limited resources, these firms might be susceptible to production
difficulties, quality control issues and problems in delivering agreed-upon
quantities on schedule. We cannot assure you that we would be able, if
necessary, to return product to these suppliers and obtain refunds of our
purchase price or obtain reimbursement or indemnification from them if their
products prove defective. These suppliers and manufacturers also may be unable
to withstand the current downturn in the U.S. or worldwide economy. Significant
failures on the part of these new suppliers or manufacturers could have a
material adverse effect on our operating results.
In addition, many of these suppliers and manufacturers will require
extensive advance notice of our requirements in order to produce products in the
quantities we desire. This long lead time requires us to place orders far in
advance of the time when certain products will be offered for sale, thereby
exposing us to risks relating to shifts in customer demand and trends, and any
downturn in the U.S. economy.
Our success is highly dependent on improvements to our planning and control
processes and our supply chain.
An important part of our efforts to achieve efficiencies, cost
reductions and sales growth is the identification and implementation of
improvements to our planning, logistical and distribution infrastructure and our
supply chain, including merchandise ordering, transportation and receipt
processing. An inability to improve our planning and control processes or to
take full advantage of supply chain opportunities could have a material adverse
effect on our operating results.
We depend on key personnel and could be affected by the loss of their services
because of the limited number of qualified people in our industry.
The success of our business will continue to depend upon our key
personnel, including our new Chief Executive Officer, Mr. Gary G. Friedman.
Competition for qualified employees and personnel in the retail industry is
intense. The process of locating personnel with the combination of skills and
attributes required to carry out our goals is often lengthy. Our success depends
to a significant degree upon our ability to attract, retain and motivate
qualified management, marketing and sales personnel, in particular store
managers, and upon the continued contributions of these people. We cannot assure
you that we will be successful in attracting and retaining qualified executives
and personnel. In addition, our employees may voluntarily terminate their
employment with us at any time. We also do not maintain any key man life
insurance. The loss of the services of key personnel or our failure to attract
additional
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qualified personnel could have a material adverse effect on our business,
financial condition and results of operations.
Changes in general economic conditions affect consumer spending and may
significantly harm our revenues and results of operations.
We believe that there currently is a general trend in the economy of
weakening retail sales, and we further believe that we may continue to be hurt
by this trend. In particular, a weakening environment for retail sales could
adversely affect consumer interest in our major product lines. Our comparable
store net sales decreased 1% for the fiscal year ended February 3, 2001. We
believe that our first quarter sales results for the fiscal year ending February
2, 2002 will be weaker than our first quarter sales results for the fiscal year
ending February 3, 2001. The success of our business depends to a significant
extent upon the level of consumer spending, and a number of economic conditions
affect the level of consumer spending on merchandise that we offer, including,
among other things, the general state of the economy, general business
conditions, the level of consumer debt, interest rates, taxation and consumer
confidence in future economic conditions. More generally, reduced consumer
confidence and spending may result in reduced demand for our products and
limitations on our ability to increase prices. They also may require increased
levels of selling and promotional expenses. Adverse economic conditions and any
related decrease in consumer demand for discretionary items such as those
offered by us could have a material adverse effect on our business, results of
operations and financial condition.
We face an extremely competitive specialty retail business market.
The retail market is highly competitive. We compete against a diverse
group of retailers ranging from specialty stores to traditional furniture stores
and department stores. Our product offerings compete with a variety of national,
regional and local retailers. We also compete with these and other retailers for
customers, suitable retail locations, suppliers and qualified employees and
management personnel. Many of our competitors have significantly greater
financial, marketing and other resources. Moreover, increased competition may
result in potential or actual litigation between us and our competitors relating
to such activities as competitive sales and hiring practices, exclusive
relationships with key suppliers and manufacturers and other matters. As a
result, increased competition may adversely affect our future financial
performance, and we cannot assure you that we will be able to compete
successfully in the future.
Our common stock price may be volatile.
The market price of our common stock has fluctuated significantly in the
past, and is likely to continue to be highly volatile. In addition, the trading
volume in our common stock has fluctuated, and significant price variations can
occur as a result. We cannot assure you that the market price of our common
stock will not fluctuate or decline significantly in the future. In addition,
the U.S. equity markets have from time to time experienced significant price and
volume fluctuations that have particularly affected the market prices for the
stocks of emerging-growth companies. These broad market fluctuations may
materially adversely affect the market price of our common stock in the future.
Such variations may be the result of changes in the trading characteristics that
prevail in the market for our common stock, including low trading
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volumes, trading volume fluctuations and other similar factors that are
particularly common among highly volatile securities of emerging-growth
companies. Variations also may be the result of changes in our business,
operations or prospects, announcements or activities by our competitors,
entering into new contractual relationships with key suppliers or manufacturers
by us or our competitors, proposed acquisitions by us or our competitors,
financial results that fail to meet public market analyst expectations, changes
in stock market analysts' recommendations regarding us, other retail companies
or the retail industry in general, and domestic and international market and
economic conditions.
Future sales of our common stock in the public market could adversely affect our
stock price and our ability to raise funds in new equity offerings.
We cannot predict the effect, if any, that future sales of shares of our
common stock or the availability for future sale of shares of our common stock
or securities convertible into or exercisable for our common stock will have on
the market price of our common stock prevailing from time to time. For example,
investors in our Series A and B preferred stock financing have been granted
demand registration rights under an investor rights agreement pursuant to which
they may make a demand on us at any time beginning September 17, 2001 to
register in excess of 8 million shares of our common stock, assuming that our
stockholders approve the conversion feature of our Series B preferred stock into
Series A preferred stock. Sale, or the availability for sale, of substantial
amounts of common stock by our existing stockholders under Rule 144, through the
exercise of registration rights or the issuance of shares of common stock upon
the exercise of stock options or warrants, or the conversion of our preferred
stock, or the perception that such sales or issuances could occur, could
adversely affect prevailing market prices for our common stock and could
materially impair our future ability to raise capital through an offering of
equity securities.
We are subject to anti-takeover provisions and the terms and conditions of our
preferred stock financing that could delay or prevent an acquisition and could
adversely affect the price of our common stock.
Our certificate of incorporation and bylaws, certain provisions of
Delaware law and the certificate of designation governing the rights,
preferences and privileges of our preferred stock may make it difficult in some
respects to cause a change in control of our company and replace incumbent
management. For example, our certificate of incorporation and bylaws provide for
a classified board of directors. With a classified board of directors, at least
two annual meetings of stockholders, instead of one, will generally be required
to effect a change in the majority of the board. As a result, a provision
relating to a classified board may discourage proxy contests for the election of
directors or purchases of a substantial block of our common stock because its
provisions could operate to prevent obtaining control of the board in a
relatively short period of time.
Separately, the holders of our preferred stock have the right to
designate two members of our board of directors, and they also have a number of
voting rights pursuant to the terms of the certificate of designation which
could potentially delay, defer or prevent a change of control. In particular,
the holders of our Series A preferred stock have the right to approve a number
of actions by us, including some types of mergers, consolidations, acquisitions
and similar
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transactions, and this right may create a potentially discouraging effect on,
among other things, any third party's interest in completing these types of
transactions with us. Consequently, the terms and conditions under which we
issued our preferred stock, coupled with the existence of other anti-takeover
provisions, may collectively have a negative impact on the price of our common
stock, may discourage third-party bidders from making a bid for our company or
may reduce any premiums paid to our stockholders for their common stock.
In addition, our board of directors has the authority to fix the rights
and preferences of, and to issue shares of, our preferred stock, which may have
the effect of delaying or preventing a change in control of our company without
action by our stockholders.
We have made forward-looking statements in this annual report on form 10-K.
This annual report on Form 10-K contains "forward-looking statements,"
within the meaning of the Private Securities Litigation Reform Act of 1995, that
involve known and unknown risks. Such forward-looking statements include
statements as to our plans to open additional stores, the anticipated
performance of new stores, the impact of competition and other statements
containing words such as "believes," "anticipates," "estimates," "expects,"
"may," "intends," and words of similar import or statements of our management's
opinion. These forward-looking statements and assumptions involve known and
unknown risks, uncertainties and other factors that may cause our actual
results, market performance or achievements to differ materially from any future
results, performance or achievements expressed or implied by such
forward-looking statements. Important factors that could cause such differences
include, but are not limited to, changes in economic or business conditions in
general, changes in product supply, fluctuations in comparable store sales,
limitations resulting from restrictive covenants in our credit facility, failure
to anticipate changes in consumer trends, loss of key vendors, changes in the
competitive environment in which we operate, competition for and the
availability of sites for new stores, changes in our management information
needs, changes in management, failure to raise additional funds when required,
changes in customer needs and expectations and governmental actions. We
undertake no obligation to update any forward-looking statements in order to
reflect events or circumstances that may arise after the date of this annual
report.
SUBSEQUENT EVENTS
We entered into an amended and restated Series A and B preferred stock
purchase agreement, dated as of March 21, 2001, with several investors,
including Palladin Capital IX, LLC, Reservoir Capital Partners, LP and several
of Reservoir's affiliates, Glenhill Capital LP and Mr. Friedman. On March 22,
2001, we sold to these investors an aggregate of 6,820 shares of Series A
preferred stock and 8,180 shares of Series B preferred stock each, at $1,000 per
share, pursuant to the preferred stock purchase agreement. The rights,
preferences and privileges of the preferred stock are briefly described in
footnote 12 to the attached consolidated financial statements and are more fully
described in the certificate of designation of Series A and Series B preferred
stock. In connection with the issuance of these preferred stock, we received
aggregate gross proceeds of approximately $15.0 million. We intend to use the
net proceeds from this private financing to repay existing indebtedness and for
general corporate purposes.
In the preferred stock purchase agreement, we agreed to seek
stockholders' approval of certain antidilution features of the Series A
preferred stock and certain conversion features of the Series B preferred stock
at our next stockholders meeting. In addition to the preferred stock purchase
agreement, we entered into an amended and restated investor rights agreement
with all of the investors. Separately, several of the investors also entered
into a short sales agreement.
Pursuant to the preferred stock purchase agreement and the certificate
of designation, the holders of Series A preferred stock may elect up to two
members to our board of directors. In connection with the issuance of the
Series A preferred stock, the holders of Series A preferred stock nominated, and
our board then appointed, Glenn J. Krevlin and Mark J. Schwartz to our board of
directors as a Class II director and Class I director, respectively. The terms
of Mr. Krevlin and Mr. Schwartz as directors on our board will expire at our
annual meeting in 2002 and 2003, respectively. Provided that the holders of
Series A preferred stock remain entitled to elect such director(s), each
director nominated by the holders of Series A preferred stock will be up for
election upon the expiration of their respective terms.
In connection with the Series A and B preferred stock financing, we also
hired Mr. Friedman as our new Chief Executive Officer and our board of directors
appointed Mr. Friedman as a Class III director to our board with a term expiring
at this year's annual meeting of stockholders. Mr. Friedman is standing for
re-election at this year's annual meeting of stockholders. Mr. Friedman
purchased 455 shares of the Series A preferred stock and 545 shares of the
Series B preferred stock for an aggregate purchase
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price of $1 million. In addition, as part of Mr. Friedman's compensation
package, we sold Mr. Friedman 571,429 shares of common stock at $1.75 per share
and Mr. Friedman exercised his option to purchase 1.2 million shares of common
stock at $1.75 per share for an aggregate sales price of approximately $3.1
million. We also granted Mr. Friedman an option to purchase 200,000 shares of
our common stock at our exercise price of $6.00 per share. In connection with
the sale of preferred and common stock to Mr. Friedman, we also made a loan to
Mr. Friedman in the amount of $2.05 million. All of the loan proceeds were used
by Mr. Friedman to purchase a portion of this stock. The loan is a full recourse
loan and is secured by shares of the common stock and preferred stock purchased
by Mr. Friedman.
We urge you to refer to footnote 12 to the attached consolidated
financial statements for additional details of the private financing and Mr.
Friedman's compensation package. Further, the certificate of designation and the
agreements related to the issuance of the preferred stock and Mr. Friedman's
compensation package are attached as exhibits to our current report on Form 8-K
filed with the Securities and Exchange Commission on April 2, 2001. We urge you
to refer to this Form 8-K for additional and more specific details of the
private financing and Mr. Friedman's compensation package.
ITEM 2. PROPERTIES
We currently lease three properties located in Corte Madera, California,
and one property in San Rafael, California, which is used as our headquarters.
The first property in Corte Madera consists of approximately 3,600 square feet
of office space and approximately 11,000 square feet of warehouse space. The
lease expires on November 30, 2002. The second and third properties in Corte
Madera consist of approximately 21,000 square feet of office space in total and
the leases expire on May 15, 2002. The fourth property in San Rafael consists of
approximately 15,750 square feet of office space and the lease expires on
September 30, 2001.
We lease approximately 160,000 square feet of warehouse space in
Hayward, California, for use as our west coast distribution center. This lease
expires on July 31, 2004, with an option to extend for one additional five-year
term. We lease an additional 191,000 square feet of warehouse space in Tracy,
California, also for use as a distribution center. This lease expires on
September 1, 2003. We lease approximately 50,000 square feet for use as a
distribution center in Oakland, California. This lease expires in May 2001 and
we do not expect to replace this space. We lease approximately 276,000 square
feet of warehouse space in Baltimore, Maryland, for use as our east coast
distribution center. The lease expires on September 30, 2006, with options to
extend for two additional three-year terms.
As of February 3, 2001, we leased approximately 1,222,000 gross square
feet for our 106 retail stores. Our retail stores' lease terms range from 10 to
15 years. Most leases for our retail stores provide for a minimum rent,
typically including escalating rent increases, plus a percentage rent based upon
sales after certain minimum thresholds are achieved. The leases generally
require us to pay insurance, utilities, real estate taxes, and repair and
maintenance expenses.
Michaels leases two properties used for the manufacturing and storage of
furniture, in Sacramento, California. The main property consists of
approximately 100,000 square feet of manufacturing space and 7,000 square feet
of office space. The lease expires on February 28,
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2008, with options to extend the lease for two additional 5-year terms. The
second property consists of approximately 46,000 square feet of warehouse space
which is used to house finished upholstered goods. This lease expires on July
31, 2001, and we expect to renew the lease.
ITEM 3. LEGAL PROCEEDINGS
There are no material pending legal proceedings against us. We are,
however, involved in routine litigation arising in the ordinary course of our
business. We believe that the final outcome of such proceedings should not have
a material adverse effect on our consolidated financial condition or results of
operations. However, we cannot assure you that the result of any proceeding will
be in our favor.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the
fourth quarter of the fiscal year covered by this annual report.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION
Our common stock is listed on the Nasdaq National Market System under
the symbol "RSTO." The closing price of our common stock on Nasdaq was $5.65 on
April 20, 2001.
The market price of our common stock has fluctuated significantly in the
past, and is likely to continue to be highly volatile. In addition, the trading
volume in our common stock has fluctuated, and significant price variations can
occur as a result. More generally, the U.S. equity markets have from time to
time experienced significant price and volume fluctuations that have
particularly affected the market prices for the stocks of emerging-growth
companies such as ours. These broad market fluctuations may be the result of
changes in the trading characteristics that prevail in the market for our common
stock, including low trading volumes, trading volume fluctuations and other
similar factors that are particularly common among highly volatile securities of
emerging-growth companies. Variations also may be the result of changes in our
business, operations or prospects, announcements or activities by our
competitors, new contractual relationships with key suppliers or manufacturers
by us or our competitors, proposed acquisitions by us or our competitors,
financial results that fail to meet public market analyst expectations, changes
in stock market analysts' recommendations regarding us, other retail companies
or the retail industry in general, and domestic and international market and
economic conditions.
STOCKHOLDERS
The number of our common stockholders of record as of April 20, 2001 was
138. This number excludes stockholders whose stock is held in nominee or street
name by brokers.
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DIVIDEND POLICY
No dividends have been declared on our common stock since our 1998
initial public offering and it is not anticipated that we will pay any dividends
in the foreseeable future on our common stock.
STOCK PRICE INFORMATION
Set forth below are the high and low closing sale prices for shares of
our common stock for each quarter during the fiscal year ended February 3, 2001
as reported by the Nasdaq National Market System.
QUARTER ENDING HIGH LOW
- ------------------------------------------- ------ ------
January 30, 1999 $28.25 $17.25
May 1, 1999 25.00 15.63
July 31, 1999 14.50 10.50
October 30, 1999 11.38 7.25
January 29, 2000 10.38 5.13
April 29, 2000 7.00 3.72
July 29, 2000 6.44 4.06
October 28, 2000 6.00 2.50
February 3, 2001 2.94 0.53
- --------------------------------------------------------------------
RECENT SALES OF UNREGISTERED SECURITIES
We made one sale of our securities which was not registered under the
Securities Act of 1933, as amended, for the fiscal year ended February 3, 2001.
Pursuant to a warrant agreement, dated as of September 27, 2000, we issued a
warrant to purchase 394,167 shares of our common stock to Goldman, Sachs & Co.,
and 155,833 shares of our common stock to Enhanced Retail Funding, LLC, each at
$3.75 per share. As further discussed in footnote 12 to the attached
consolidated financial statements, we repriced the warrant covering 200,000 of
the 500,000 shares of common stock.
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ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth summary, consolidated financial
information for operations for the years indicated. This information is
qualified by reference to and should be read in conjunction with the
consolidated financial statements, related notes thereto and other financial
data included elsewhere in this annual report. The following results may not be
indicative of our future operating results.
2000(2) 1999 1998(1) 1997 1996(2)
--------- --------- --------- --------- ---------
(in thousands except percentages, per-share amounts and retail stores data)
Results of Operations
Net Sales(3) 369,462 298,902 211,347 98,655 39,989
Earnings (loss) before income (4,912) (4,773) 8,247 3,056 1,366
taxes
Net earnings (loss) (3,091) (3,040) 4,866 1,748 796
Net earnings (loss) avail. to
common stockholders (3,091) (3,040) 3,867 (5,285) 628
Basic EPS (0.18) (0.18) 0.33 (1.20) 0.13
Diluted EPS (0.18) (0.18) 0.23 (1.20) 0.06
Financial Position
Working capital 37,636 48,373 34,417 8,188 6,501
Long term debt & other 33,740 37,145 470 10,678 1,580
liabilities
Total assets 228,935 221,715 164,245 87,233 32,230
Redeemable preferred stock -- -- -- 43,033 13,856
Shareholders equity 80,344 82,882 83,755 (11,748) 1,505
Retail Stores
Store count 106 93 65 41 20
Comparable store sales (1.0%) 0.8% 12.3% 11.1% 24.5%
growth(4)
Average selling 6,619 6,606 6,431 6,113 4,805
sq. ft per store(5)
Store selling sq. ft at year end 701,628 614,343 418,025 250,622 100,897
Average net sales $ 520 $ 559 $ 567 $ 583 $ 651
per selling sq. ft.(6)
- -------------------------------------------------------------------------------------------------------------------------
(1) The results of operations for 1998 include the results of Michaels from
the date of acquisition on March 20, 1998.
(2) 1996 and 2000 were 53-week fiscal years. For purposes of comparable
store sales increase and average net sales per selling square foot, 1996
and 2000 results were calculated to correspond with 52-week fiscal
years.
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(3) Net sales amounts have been restated to include shipping fees in
accordance with our adoption of EITF 00-10.
(4) Comparable store sales are defined as sales from stores whose gross
square feet did not change by more than 20% in the previous 12 months
and which have been open at least 12 full months. Stores generally
become comparable in their 13th full month of operation. The comparable
store percentage in 1997 includes two stores which were renovated in
1997.
(5) Average selling square footage per store is calculated by dividing total
selling square footage by the number of stores open at the end of the
period indicated.
(6) Average net sales per selling square foot is calculated by dividing
total net sales by the weighted average selling square footage of the
stores open during the period indicated.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
Net Sales
Net sales consist of the following components:
% OF % OF % OF
2000 TOTAL 1999 TOTAL 1998 TOTAL
---------- ---------- ---------- ---------- ---------- ----------
(in thousands except percentages, per-share amounts and retail stores data)
Retail sales $ 345,689 93.6% $ 279,225 93.4% $ 192,541 91.1%
Direct to customer 22,779 6.2% 12,785 4.3% 3,351 1.6%
Furniture 994 0.2% 6,892 2.3% 15,455 7.3%
---------- ---------- ---------- ---------- ---------- ----------
Total net sales $ 369,462 100% $ 298,902 100.0% $ 211,347 100.0%
========== ========== ========== ========== ========== ==========
Net sales for our company, Restoration Hardware, and our subsidiaries
for the 2000 fiscal year for the 53 weeks ended February 3, 2001, increased
$70.6 million, or 24%, over net sales for the 1999 fiscal year for the 52 weeks
ended January 29, 2000. Net sales for 1999 increased $87.6 million, or 41%, over
net sales for the 1998 fiscal year for the 52 weeks ended January 30, 1999. Net
sales for 2000 included shipping fees of $5.7 million, net sales for 1999
included shipping fees of $4.0 million, and net sales for 1998 included shipping
fees of $2.0 million. As of February 3, 2001, we operated 106 stores in 31
states, the District of Columbia and in Canada. Our net sales increase year to
year is principally due to new store openings.
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Retail Sales
2000 1999 1998
------------ ------------ ------------
(in thousands except percentages, per-share
amounts and retail stores data)
Retail sales $ 345,689 $ 279,225 $ 192,541
Retail growth percentage 23.8% 45.0% 95.5%
Comparable store sales growth (1.0%) 0.8% 12.3%
Number of stores at year-end 106 93 65
Average selling sq. ft. per store 6,619 6,606 6,431
Store selling sq. ft. at year-end 701,628 614,343 418,025
Average net sales per sq. ft $ 520 $ 559 $ 567
- ------------------------------------------------------------------------------------------
Retail sales increased in 2000 and 1999 as compared to the respective
prior years, primarily due to new store openings. Comparable store sales
decreased 1.0% in 2000. Comparable store sales are defined as sales from stores
whose gross square feet did not change by more than 20% in the previous 12
months and which have been open at least 12 full months. Stores generally become
comparable in their 13th full month of operation. In any given period, the set
of stores comprising comparable stores may be different from the set of the
comparable stores in the previous period, depending on when stores were opened.
Average retail selling square footage increased slightly in 2000 as
compared to 1999, while average net sales per square foot decreased to $520 in
2000 from $559 in 1999. Average selling square footage per store is calculated
by dividing total selling squire footage by the number of stores open at the end
of the fiscal year. Average net sales per square foot is calculated by dividing
total net sales by the weighted average selling square footage of stores opened
during the fiscal year.
Direct to Customer
Direct to customer sales consist of catalog and Internet sales. Net
direct to customer sales in 2000 increased $10.0 million as compared to 1999.
Approximately half of the increase was from sales from the website, which was
launched in August 1999.
Furniture Sales
Furniture sales consist of Michaels' sales to external customers. Over
the past 3 years, we have reduced Michaels' external sales to third-party
customers so as to be able to increase production capacity for Restoration
Hardware.
COST OF GOODS SOLD AND OCCUPANCY
Cost of goods sold and occupancy expenses expressed as a percentage of
net sales remained flat to the prior year at 69.3% in 2000. Merchandise margin
improvements in 2000 as a result of better sourcing and product flow were offset
by higher occupancy costs. Cost of goods sold and occupancy expenses expressed
as a percentage of net sales increased 1.5% to
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69.3% in 1999 from 67.8% in 1998, principally as a result of relatively flat
merchandise margins offset by increased occupancy expense.
SELLING, GENERAL AND ADMINISTRATIVE
Selling, general and administrative expenses expressed as a percentage
of net sales improved 0.8% to 30.2% in 2000 from 31.0% in 1999, primarily as a
result of improved cost control throughout the organization, particularly in the
retail division. Selling, general and administrative expenses expressed as a
percentage of net sales increased 4.1% to 31.0% in 1999 from 26.9% in 1998.
Overall, we invested significantly in developing general and administrative
infrastructure during 1999 and expenses increased both in absolute dollars and
as a percentage of sales over 1998.
PRE-OPENING STORE EXPENSE
Pre-opening store expense was $1.0 million in 2000, a decrease of $1.4
million as compared to 1999. This was principally due to a decrease in the
number of new store openings; whereas 13 new stores opened in 2000, 28 new
stores opened in 1999. In 1999, pre-opening store expense increased to $2.4
million as compared to $2.1 million in 1998, primarily as a result of an
increase in the average pre-opening expense per store. Pre-opening store expense
includes all costs associated with the start-up of the store prior to opening,
including recruiting, payroll, travel, supplies, occupancy related and
advertising.
INTEREST EXPENSE, NET
Interest expense, which is net of interest income and includes
amortization of debt issuance costs and interest expense on borrowings under our
line of credit facility, increased $4.4 million to $5.8 million in 2000 from
$1.4 million in 1999. This results from both an increase in the average
borrowings outstanding and an increase in the average interest rate. Our cash
generated from operations was not sufficient to cover operating expenses and
capital expenditures resulting in continuous borrowings under our line of credit
facility during 2000. In March of 2001, our credit facility was amended to
provide for a more favorable interest rate, as discussed below. In 1999,
interest expense increased $0.5 million to $1.4 million.
INCOME TAXES
Our effective tax benefit rate was 37.1% in 2000, as compared to a tax
benefit rate of 36.3% in 1999 and a tax provision rate of 41.0% in 1998. These
rates reflect the effect of aggregate state tax rates based on a mix of retail
sales and direct to customer sales in the various states in which we have sales
revenue or conduct business.
STORE CLOSURES
Subsequent to our fiscal year-end, we signed agreements to close three
under-performing stores. The closures are expected to be completed by the end of
May 2001. We do not expect the closings to have a material effect on our
financial condition and results of operations.
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LIQUIDITY AND CAPITAL RESOURCES
Our main sources of liquidity and capital have been cash flows from
operations, and borrowings under our credit facility. Our primary capital
requirements have been for new store development, working capital and general
corporate needs.
Net cash provided by operating activities increased $15.1 million to
$19.4 million in 2000 from $4.3 million in 1999. The increase resulted primarily
from a decrease in purchases of merchandise inventories and increased
depreciation and amortization expense, offset by reductions in cash as a result
of changes in deferred lease incentives, accounts payable and other accrued
expenses. In 1999, net cash provided by operating activities decreased $12.0
million to $4.3 million, from $16.3 million in 1998. This decrease resulted
primarily from the decreases in net income, accounts payable, accrued expenses,
income tax payable and deferred tax balances offset by increases in depreciation
and amortization and increases in deferred lease incentives.
Net cash used in investing activities decreased $23.6 million to $23.6
million in 2000 from $47.2 million in 1999, primarily due to a decrease in the
number of new stores. In 2000, 13 new stores were built as compared to 28 stores
in 1999. In 1999, net cash used in investing activities increased $3.0 million
to $47.2 million from $44.2 million in 1998. In 1999, capital was invested in
new information systems and the new Baltimore, Maryland warehouse facility. 24
new stores were built in 1998.
Net cash provided by financing activities decreased $2.2 million to
$37.1 million in 2000 from $39.3 million in 1999, principally due to reduced
borrowings under our line of credit. In 2000, we were able to fund our capital
expenditures primarily through cash generated from operations. In 1999, net cash
provided by financing activities increased $4.2 million.
Pursuant to our credit facility, as of February 3, 2001, we had a line
of credit of up to $111.0 million with a sub-limit for letters of credit up to
$10.0 million. The availability under the credit facility was limited by
reference to a borrowing base calculation, based upon eligible inventory and
accounts receivable. The agreement contained restrictive covenants, including
minimum levels of quarterly earnings before interest, income taxes, depreciation
and amortization or "EBITDA," minimum levels of debt to EBITDA, and annual
capital expenditure limits. As of February 3, 2001, we were in compliance with
the covenants under our credit facility and had outstanding $38.9 million in
loans, which is net of debt issuance costs of $2.5 million, and $5.7 million in
outstanding letters of credit. Interest was paid monthly at the bank's reference
rate or LIBOR plus a margin. The credit facility expires on June 30, 2003.
In connection with an amendment to our line of credit in September 2000,
we issued a warrant for the purchase of 394,167 shares of our common stock to
Goldman, Sachs & Co. and 155,833 shares of our common stock to Enhanced Retail
Funding, LLC, each at $3.75 per share. The warrant expires on September 27,
2005. The fair value of the warrants was calculated using the Black-Scholes
method and was estimated at $374,000. The deferred debt issuance cost reduces
the carrying value of the related debt and is being amortized over the life of
the debt.
As further discussed in footnote 12 to the attached consolidated
financial statements, on March 21, 2001, we announced the completion of a
private placement offering of our preferred stock with aggregate gross proceeds
to us of approximately $15.0 million, the appointment of Mr. Friedman as our new
Chief Executive Officer and an amendment to our existing bank agreement for our
line of credit. In connection with the amendment to the bank agreement, we
repriced the warrant covering 200,000 of the 500,000 shares of common stock.
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While we currently believe that our cash flow from operations and funds
available under our credit facility will satisfy our capital requirements for at
least the next 12 months, adverse developments concerning our sales performance
or the availability of credit under our credit facility due to covenant
limitations or other factors could limit the overall availability of funds to
us. Moreover, we may not have successfully anticipated our future capital needs
and, should the need arise, additional sources of financing may not be available
or, if available, may not be on terms favorable to us or our stockholders.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
This annual report on Form 10-K contains "forward-looking statements,"
within the meaning of the Private Securities Litigation Reform Act of 1995, that
involve known and unknown risks. Such forward-looking statements include
statements as to our plans to open additional stores, the anticipated
performance of new stores, the impact of competition and other statements
containing words such as "believes," "anticipates," "estimates," "expects,"
"may," "intends," and words of similar import or statements of our management's
opinion. These forward-looking statements and assumptions involve known and
unknown risks, uncertainties and other factors that may cause our actual
results, market performance or achievements to differ materially from any future
results, performance or achievements expressed or implied by such
forward-looking statements. Important factors that could cause such differences
include, but are not limited to, changes in economic or business conditions in
general, changes in product supply, fluctuations in comparable store sales,
limitations resulting from restrictive covenants in our credit facility, failure
of our management to anticipate changes in consumer trends, loss of key vendors,
changes in the competitive environment in which we operate, competition for and
the availability of sites for new stores, changes in our management information
needs, changes in management, failure to raise additional funds when required,
changes in customer needs and expectations and governmental actions. We
undertake no obligation to update any forward-looking statements in order to
reflect events or circumstances that may arise after the date of this annual
report.
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QUARTERLY RESULTS OF OPERATIONS
2000
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
------------------------------------------------------------------------
(dollars in thousands, except percentage and per share data)
Statements of Consolidated
Operations Data:
Net sales(1) $ 69,652 $ 72,252 $ 80,945 $ 146,613
Gross profit 17,472 19,005 20,408 56,654
As a % of net sales 25.1% 26.3% 25.2% 38.6%
Income (loss) from operations (6,383) (4,658) (6,797) 18,730
Comp store net sales increase (14.4%) 0.8% (1.7%) 5.7%
Net income (loss) per share:
Basic(2) $ (0.25) $ (0.20) $ (0.30) $ 0.57
Diluted(3) $ (0.25) $ (0.20) $ (0.30) $ 0.56
1999
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
------------------------------------------------------------------------
(dollars in thousands, except percentage and per share data)
Statements of Consolidated
Operations Data:
Net sales(1) $ 60,795 $ 54,606 $ 65,550 $ 117,951
Gross profit 14,049 14,140 20,005 43,483
As a % of net sales 23.1% 25.9% 30.5% 36.9%
Income(loss) from operations (4,448) (4,168) (2,569) 7,831
Comp store net sales increase 18.4% 1.2% (0.2%) (5.5%)
Net income (loss) per share:
Basic(2) $ (0.16) $ (0.15) $ (0.10) $ 0.23
Diluted(3) $ (0.16) $ (0.15) $ (0.10) $ 0.23
- -----------------------------------------------------------------------------------------------------------
(1) Net sales amounts have been adjusted to include shipping fees in
accordance with our adoption of EITF 00-10, "Accounting for Shipping and
Handling Fees and Costs."
(2) Basic earnings per share is calculated for interim periods including the
effect of stock options exercised in prior interim periods. Basic
earnings per share for the fiscal year is calculated using weighted
shares outstanding based on the date stock options were exercised.
Therefore, basic earnings per share for the cumulative four quarters may
not equal fiscal year basic earnings per share.
(3) Diluted earnings per share for the fiscal year and for quarters with net
earnings are computed based on weighted average common stock equivalents
(stock options and warrants). Net loss per share for quarters with net
losses is computed based solely on weighted average common shares
outstanding. Therefore, the earnings (loss) per share for each quarter
do not sum up to the earnings for the full fiscal year.
22
26
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risks, which include changes in interest rates
and, to a lesser extent, foreign exchange rates. We do not engage in financial
transactions for trading or speculative purposes.
The interest payable on our credit facility is based on variable
interest rates and is, therefore, affected by changes in market interest rates.
If interest rates on existing variable rate debt rose 10% from the bank's
reference rate, our results of operations and cash flows would not be materially
affected. In addition, we have fixed and variable income investments consisting
of cash equivalents and short-term investments, which are also affected by
changes in market interest rates.
We do enter into a significant amount of purchase obligations outside of
the United States which, to date, have been settled mostly in U.S. dollars and,
therefore, we have only minimal exposure at present to foreign currency exchange
risks. Historically, we have not hedged our currency risk and do not currently
anticipate doing so in the future. However, it is possible that in the future a
growing number of our purchases outside of the United States will be made in
currencies other than the U.S. dollar. Consequently, fluctuations in the rates
of exchange between the U.S. dollar and other currencies may subject us to
foreign currency exchange risks in the future.
23
27
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders
Restoration Hardware, Inc.
Corte Madera, California
We have audited the accompanying consolidated balance sheets of
Restoration Hardware, Inc. and its subsidiaries as of February 3, 2001 and
January 29, 2000, and the related consolidated statements of operations,
stockholders' equity and cash flows for each of the three fiscal years in the
period ended February 3, 2001. These financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. 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, such consolidated financial statements present fairly,
in all material respects, the financial position of Restoration Hardware, Inc.
and its subsidiaries as of February 3, 2001 and January 29, 2000, and the
results of their operations and their cash flows for each of the three fiscal
years in the period ended February 3, 2001 in conformity with accounting
principles generally accepted in the United States of America.
/s/ DELOITTE & TOUCHE LLP
March 23, 2001
24
28
RESTORATION HARDWARE, INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
FEBRUARY 3, JANUARY 29,
2001 2000
- ---------------------------------------------------------------------------------------------
ASSETS
Current assets
Cash and cash equivalents $ 2,610 $ 4,627
Accounts receivable 8,069 6,551
Merchandise inventories 81,123 85,902
Prepaid expense and other 7,954 6,962
------------- -------------
Total current assets 99,756 104,042
Property and equipment, net 117,186 108,706
Goodwill 4,776 4,910
Other long term assets 7,217 4,057
------------- -------------
Total Assets $ 228,935 $ 221,715
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses $ 43,321 $ 45,375
Current portion of deferred lease incentives 4,575 3,777
Revolving line of credit and short term debt 5,730 2
Other current liabilities 8,494 6,515
------------- -------------
Total current liabilities 62,120 55,669
Long-term obligations 612 344
Long-term line of credit 33,128 36,801
Long-term portion of deferred lease incentives 41,944 37,950
Deferred rent 10,787 8,069
------------- -------------
Total liabilities $ 148,591 $ 138,833
============= =============
Stockholders' equity:
Common stock, $.0001 par value, 40,000,000 shares 94,901 94,318
authorized, 17,100,142 and 16,901,338 issued
and outstanding, respectively
Accumulated other comprehensive income (loss) (4) 26
Accumulated deficit (14,553) (11,462)
------------- -------------
Total stockholders' equity 80,344 82,882
------------- -------------
Total liabilities and stockholders' equity $ 228,935 $ 221,715
============= =============
The accompanying notes are an integral part of these consolidated financial
statements.
25
29
RESTORATION HARDWARE INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
FISCAL YEAR ENDED
--------------------------------------------------
FEBRUARY 3, JANUARY 29, JANUARY 30,
2001 2000 1999
------------ ------------ ------------
Net sales $ 369,462 $ 298,902 $ 211,347
Cost of sales and occupancy 255,923 207,225 143,369
------------ ------------ ------------
Gross profit 113,539 91,677 67,978
Selling, general and administrative
expenses 111,632 92,628 56,749
Pre-opening store expenses 1,015 2,403 2,064
------------ ------------ ------------
Income (loss) from operations 892 (3,354) 9,165
Interest expense, net (5,804) (1,419) (918)
------------ ------------ ------------
Income (loss) before taxes (4,912) (4,773) 8,247
Provision (benefit) for income taxes (1,821) (1,733) 3,381
------------ ------------ ------------
Net income (loss) (3,091) (3,040) 4,866
============ ============ ============
Accretion of mandatorily redeemable
preferred stock -- -- 999
------------ ------------ ------------
Income (loss) available to common
stockholders $ (3,091) $ (3,040) $ 3,867
============ ============ ============
Earnings (loss) per share:
Basic $ (0.18) $ (0.18) $ 0.33
Diluted (0.18) (0.18) 0.23
Weighted average shares outstanding:
Basic 17,042,052 16,697,668 11,621,117
Diluted 17,042,052 16,697,668 16,469,359
- ---------------------------------------------------------------------------------------------
The accompanying notes are an integral part of these consolidated financial
statements.
26
30
RESTORATION HARDWARE, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(DOLLARS IN THOUSANDS)
ACCUM-
ULATED TOTAL
OTHER TOTAL COMPRE-
COMMON STOCK COMPRE- ACCUM- STOCK- HENSIVE
HENSIVE ULATED HOLDERS' INCOME
SHARES AMOUNT INCOME DEFICIT EQUITY (LOSS)
----------- ----------- ----------- ----------- ----------- -----------
BALANCE AT
JANUARY 31, 1998 4,171,223 $ 541 $ (12,289) $ (11,748)
Accretion of
mandatorily
redeemable preferred
stock (999) (999)
Issuance of common stock 2,923,755 47,595 47,595
Conversion of preferred
stock to common 9,151,282 44,033 44,033
Foreign exchange gain 8 8 8
Net income 4,866 4,866 4,866
----------- ----------- ----------- ----------- ----------- -----------
$ 4,874
===========
BALANCE AT
JANUARY 30, 1999 16,246,260 92,169 8 (8,422) 83,755
Issuance of common stock 655,078 2,149 2,149
Foreign exchange gain 18 18 18
Net loss (3,040) (3,040) (3,040)
----------- ----------- ----------- ----------- ----------- -----------
$ (3,022)
===========
BALANCE AT
JANUARY 29, 2000 16,901,338 94,318 26 (11,462) 82,882
Issuance of common stock 198,804 583 583
Foreign exchange loss (30) (30) (30)
Net loss (3,091) (3,091) (3,091)
----------- ----------- ----------- ----------- ----------- -----------
BALANCE AT
FEBRUARY 3, 2001 17,100,142 $ 94,901 (4) $ (14,553) $ 80,344 (3,121)
=========== =========== =========== =========== =========== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
27
31
RESTORATION HARDWARE, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
FISCAL YEAR ENDED
---------------------------------------------------------
FEBRUARY 3, JANUARY 29, JANUARY 30,
2001 2000 1999
-------------- -------------- --------------
Cash flows from operating activities:
Net income (loss) $ (3,091) $ (3,040) $ 4,866
Adjustments to reconcile net income (loss) to net cash provided by
operating activities:
Depreciation and amortization 15,915 10,788 6,477
Deferred income taxes (3,539) (2,976) 214
Changes in assets and liabilities:
Accounts receivable (1,518) (1,376) 1,398
Merchandise inventories 4,779 (20,504) (22,828)
Prepaid expenses and other assets (612) (1,720) (4,480)
Accounts payable and accrued expenses (2,054) 5,679 14,207
Taxes payable 467 (2,307) 1,608
Other current liabilities 1,512 2,164 2,217
Deferred rent 2,718 3,788 2,371
Deferred lease incentives and other long-term liabilities 4,792 13,802 10,256
-------------- -------------- --------------
Net cash provided by operating activities 19,369 4,298 16,306
Cash flows from investing activities
Capital expenditures (23,506) (46,620) (38,546)
Purchase of The Michaels Furniture Co. (80) (592) (6,127)
Foreign currency exchange gain (loss) (30) 18 8
Repay shareholder advance -- -- 509
-------------- -------------- --------------
Net cash used in investing activities (23,616) (47,194) (44,156)
Cash flows from financing activities:
Borrowings (repayments) under revolving line of credit -- net 1,429 37,447 (11,884)
Borrowings (repayments) -- other debt 218 (274) (572)
Issuance of common stock 583 2,149 47,595
-------------- -------------- --------------
Net cash provided by financing activities 2,230 39,322 35,139
-------------- -------------- --------------
Net increase (decrease) in cash and cash equivalents (2,017) (3,574) 7,289
Cash and cash equivalents:
Beginning of period 4,627 8,201 912
-------------- -------------- --------------
End of period $ 2,610 $ 4,627 $ 8,201
============== ============== ==============
Additional cash flow information:
Cash paid during the year for interest (net of amount capitalized) $ 5,137 $ 1,333 $ 897
============== ============== ==============
Cash paid during the year for taxes $ 1,317 $ 4,145 $ 1,529
============== ============== ==============
The accompanying notes are an integral part of these consolidated financial
statements.
28
32
RESTORATION HARDWARE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) SUMMARY OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
Nature of Business
Restoration Hardware, Inc. and its subsidiaries (the "Company"), a
Delaware corporation, is a specialty retailer of high-quality home furnishings,
decorative accessories and hardware. These products are sold through retail
locations, catalogs and the Internet. At February 3, 2001 the Company operated a
total of 106 retail stores in 31 states, the District of Columbia and in Canada.
The Company operates on a 52 - 53 week fiscal year ending on the Saturday
closest to January 31. The fiscal year ended February 3, 2001 includes 53 weeks.
All other years presented include 52 weeks.
Principles of Consolidation
The consolidated financial statements include the accounts of
Restoration Hardware, Inc. and its subsidiaries. All intercompany balances and
transactions are eliminated in consolidation.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Cash and Cash Equivalents
Cash equivalents are highly liquid, fixed income instruments purchased
with original maturities of three months of less.
Merchandise Inventories
Retail inventories are stated at the lower of cost or market determined
under the weighted-average method. Manufacturing inventories are stated at the
lower of cost (first-in, first-out) or market. Cost includes certain buying and
distribution costs related to the procurement and processing of merchandise.
Prepaid Catalog Expenses
Prepaid catalog expenses consist of the cost to produce, print and
distribute catalogs. Such costs are amortized over the expected sales volume of
each catalog. Typically, over 90% of the cost of a catalog is amortized in the
first four months. At February 3, 2001 and January 29, 2000, the Company had
$1,044,000 and $564,000, respectively, recorded as current assets.
29
33
Preopening Store Expenses
Preopening store expenses, including store set-up and certain labor and
hiring costs, are expensed as incurred.
Property and Equipment
Furniture, fixtures and equipment are stated at cost. Depreciation is
calculated using the straight-line method over the estimated useful life of the
asset, typically ranging from five to twelve years for equipment. The cost of
leasehold improvements is amortized over the useful life of the asset or the
applicable lease term, whichever is less. Computer hardware and software costs
are included in fixtures and equipment and are amortized over estimated useful
lives of three to five years. Leasehold improvements include capitalized
interest of $195,000 and $390,000 as of February 3, 2001 and January 29, 2000,
respectively.
Goodwill
Goodwill represents the excess of the purchase price over the fair value
of the net assets acquired in the purchase of The Michaels Furniture Company
("Michaels"). Goodwill is amortized on a straight-line basis over 25 years.
Capitalized Leases
Noncancellable leases which meet the criteria of capital leases are
capitalized as assets and amortized over the lease term, using the interest
method.
Long-Lived Assets
The Company's policy is to review long-lived assets and certain
identifiable intangibles, including goodwill, for impairment whenever events or
changes in circumstances indicate that the carrying amount of an asset may not
be recoverable based on estimated future cash flows calculated on a store by
store basis. Based on the Company's reviews for the years ended February 3, 2001
and January 29, 2000, no adjustments were recognized to the carrying value of
such assets.
Deferred Rent and Deferred Lease Incentives
Certain of the Company's operating leases contain predetermined fixed
escalations of the minimum rentals during the original term of the lease. For
these leases, the Company recognizes the related rental expense on a
straight-line basis over the life of the lease and records the difference
between the amount charged to operations and amounts paid as deferred rent. As
part of its lease agreements, the Company receives certain lease incentives.
These allowances have been deferred and are amortized on a straight-line basis
over the life of the lease as a reduction of rent expense.
30
34
Revenue Recognition
The Company recognizes revenue at the point of sale in its retail stores
and the time of shipment to a customer for its catalog and Internet sales. The
Company provides an allowance for returns based on historical return rates.
Advertising Expense
Advertising costs are expensed as incurred. For the fiscal years ended
February 3, 2001, January 29, 2000, and January 30, 1999, advertising costs were
$14,097,000, $10,882,000, and $4,363,000 respectively.
Concentration of Credit Risk
Financial instruments, which potentially subject the Company to
concentration of credit risk, consist principally of cash and cash equivalents.
The Company places its cash with financial institutions. At times, such amounts
may be in excess of FDIC insurance limits.
Taxes on Income
Income taxes are accounted for using an asset and liability approach
that requires the recognition of deferred tax assets and liabilities for the
expected future tax consequences of events that have been recognized in the
Company's consolidated financial statements or tax returns. In estimating future
tax consequences, the Company generally considers all expected future events
other than changes in the tax law or rates.
Stock-based Compensation
The Company accounts for stock-based awards to employees using the
intrinsic value method in accordance with APB No. 25, Accounting for Stock
Issued to Employees.
Estimated Fair Value of Financial Instruments
The carrying value of cash and cash equivalents, accounts receivable,
accounts payable, revolving line of credit borrowings and long-term debt
approximates their estimated fair value.
Earnings Per Share
Statement of Financial Accounting Standards No. 128 ("SFAS 128").
Earnings Per Share, requires dual presentation of two earnings per share ("EPS")
amounts, basic EPS and diluted EPS, on the face of all income statements. Basic
EPS excludes dilution and is computed by dividing net income (loss) available to
common stockholders by the weighted average number of common shares outstanding
for the period. Diluted EPS reflects the potential dilution that could occur if
common stock options and warrants were exercised into common stock. An option or
warrant is deemed to be dilutive if its exercise price is less than the average
price of the Company's common stock for the period. Due to the Company's net
losses, including options in EPS would reduce the loss per share, thus dilutive
stock options of 395,440 and 837,053, in the
31
35
fiscal years ended February 3, 2001 and January 29, 2000, respectively, were not
included in the dilutive EPS calculation.
The following is a reconciliation of the number of shares (denominator)
used in the basic and diluted EPS computations (shares in thousands):
WEIGHTED AVERAGE SHARES
-------------------------------------------
EFFECT OF
DILUTIVE STOCK
OPTIONS AND
BASIC EPS WARRANTS DILUTED EPS
------------------------------------------
Fiscal year ended January 30, 1999 11,621,117 4,848,242 16,469,359
Fiscal year ended January 29, 2000 16,697,668 -- 16,697,668
Fiscal year ended February 3, 2001 17,042,052 -- 17,042,052
- ----------------------------------------------------------------------------------------
Comprehensive Income
Comprehensive income (loss) consists of net income (loss) and other
comprehensive income (loss) (primarily foreign currency translation
adjustments). The components of comprehensive income (loss) are presented in the
consolidated statements of changes in stockholders' equity.
Foreign Currency Translation
In the preparation of consolidated financial statements, the assets and
liabilities of the Company and its subsidiaries which are denominated in
currencies other than the US dollar are translated to US dollars at the rate of
exchange in effect at the balance sheet date; income and expenses are translated
at average rates of exchange prevailing during the year. The related translation
adjustments are reflected in the other comprehensive income section of the
consolidated statements of stockholders' equity. Foreign currency gains and
losses resulting from transactions denominated in foreign currencies, including
intercompany transactions, are included in operations.
New Accounting Pronouncements
Statement of Financial Accounting Standards (SFAS) No. 133, Accounting
for Derivative Instruments and Hedging Activities, is effective for all fiscal
years beginning after June 15, 2000. SFAS 133, as amended, establishes
accounting and reporting standards for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging activities.
Under SFAS 133, certain contracts that were not formerly considered derivatives
may now meet the definition of a derivative. The Company will adopt SFAS 133
effective February 4, 2001. The adoption of SFAS 133 will not have a significant
impact on the financial position, results of operations, or cash flows of the
Company.
32
36
Reclassifications
Certain prior year amounts have been reclassified to conform with the
fiscal year ended February 3, 2001 presentation.
(2) PROPERTY AND EQUIPMENT
Property and equipment consist of the following (in thousands):
FISCAL YEAR ENDED
-------------------------------------------
FEBRUARY 3, 2001 JANUARY 29, 2000
-------------------------------------------
Leasehold improvements $115,527 $ 96,226
Furniture, fixtures and equipment 38,572 34,367
Equipment under capital leases 1,447 1,447
-------- --------
Total 155,546 132,040
Less accumulated depreciation and amortization (38,360) (23,334)
-------- --------
Property and equipment, net $117,186 $108,706
======== ========
(3) LEASES
The Company leases certain property consisting of retail stores,
corporate offices, distribution centers and equipment. Leases expire at various
dates through 2018. The retail stores, distribution centers and corporate office
leases generally provide that the Company assume the maintenance and all or a
portion of the property tax obligations on the leased property. Most store
leases also provide for minimum annual rentals, with provisions for additional
rent based on a percentage of sales and for payment of certain expenses.
The aggregate future minimum rental payments under leases in effect at
February 3, 2001 are as follows (in thousands):
CAPITAL OPERATING
YEAR ENDING LEASES LEASES TOTAL
- ---------------------------------------------------------------------------------------------
2002 $ 150 $ 39,195 $ 39,345
2003 136 37,855 37,991
2004 113 37,646 37,759
2005 -- 36,435 36,435
2006 -- 36,123 36,123
Thereafter -- 223,098 223,098
--------- --------- ---------
Minimum lease commitments $ 399 $ 410,352 $ 410,751
========= =========
Less amount representing interest (61)
---------
Present value of capital lease obligations 338
Less current portion (102)
---------
Long-term portion $ 236
- -------------------------------------------------------------------------------
33
37
Minimum and contingent rental expense, which is based upon certain
factors such as sales volume, under operating leases, are as follows (in
thousands):
FISCAL YEAR ENDED
------------------------------------------------------------------
FEBRUARY 3, 2001 JANUARY 29, 2000 JANUARY 30, 1999
-------------------------------------------- ---------------------
Operating leases:
Minimum rental expense $34,965 $25,316 $15,110
Contingent rental expense 838 621 746
------- ------- -------
Total $35,803 $25,937 $15,856
======= ======= =======
(4) REVOLVING LINE OF CREDIT AND DEBT
Revolving line of credit and debt consist of the following (in
thousands):
FEBRUARY 3, 2000 JANUARY 29, 2000
--------------------------------------------------------
Revolving line of credit and
short term debt $ 5,730 $ 2
Long term line of credit 33,128 36,801
Long term obligations 612 344
------- -------
Total $39,470 $37,147
======= =======
As of February 3, 2001 the Company had a line of credit of up to $111.0
million with amounts available for letters of credit up to $10 million. The
availability under the credit facility was limited by reference to a borrowing
base calculation, based upon eligible inventory and accounts receivable.
Moreover, the amount available under the credit facility was typically much less
than the $111.0 million stated maximum limit of the facility because the
availability of eligible collateral for purposes of the borrowing base
limitations in the credit facility usually reduced the overall credit amount
otherwise available at any given time. The agreement contained restrictive
covenants including minimum levels of quarterly earnings before interest, income
taxes, depreciation and amortization ("EBITDA"), minimum levels of debt to
EBITDA, and annual capital expenditure limits. As of February 3, 2001, the
Company had outstanding $38.9 million in loans (net of debt issuance costs of
$2.5 million) and $5.7 million in outstanding letters of credit. Interest was
paid monthly at the bank's reference rate or LIBOR plus a margin. The agreement
expires on June 30, 2003.
In connection with an amendment of the line of credit in September of
2000, the Company issued warrants for the purchase of 550,000 shares of common
stock at an exercise price of $3.75 per share. The warrants expire September 27,
2005. The fair value of the putable warrants was calculated using the
Black-Scholes method and has been recorded as a long-term obligation. The
deferred debt issuance cost reduces the carrying value of the related debt and
is being amortized over the life of the debt.
34
38
As further discussed in footnote 12 to the financial statements, the
credit facility was amended in March of 2001 and the Company repriced the
warrant covering 200,000 of the 500,000 shares of Common Stock.
(5) INCOME TAXES
The provision for income taxes consists of the following (in thousands):
FISCAL YEAR ENDED
--------------------------------------------------------
FEBRUARY 3, JANUARY 29, JANUARY 30,
2001 2000 1999
-------------- -------------- --------------
Current payable:
Federal $ 1,392 $ 1,692 $ 2,573
State 326 366 598
-------------- -------------- --------------
Total current payable 1,718 2,058 3,171
-------------- -------------- --------------
Deferred:
Federal (2,835) (3,106) 223
State (704) (685) (13)
-------------- -------------- --------------
Total deferred (3,539) (3,791) 210
-------------- -------------- --------------
Provision for income taxes $ (1,821) $ (1,733) $ 3,381
============== ============== ==============
The differences between the U.S. federal statutory tax rate and the
Company's effective rate are as follows:
FISCAL YEAR ENDED
--------------------------------------------------------
FEBRUARY 3, JANUARY 29, JANUARY 30,
2001 2000 1999
-------------- -------------- --------------
U.S. federal statutory tax rate (34.0)% (34.0)% 34.0%
State income taxes (net of U.S. (5.1) (4.4) 4.7
income tax benefit)
Other 2.0 2.1 2.3
-------------- ------------- ------------
Effective income tax rate (37.1)% (36.3)% 41.0%
============== ============= ============
35
39
Significant components of the Company's deferred tax assets and
liabilities are as follows (in thousands):
FISCAL YEAR ENDED
--------------------------------------------------
FEBRUARY 3, JANUARY 29, JANUARY 30,
2001 2000 1999
------------ ------------ ------------
Current deferred tax asset
(liability)
Accrued expense $ 827 $ 425 $ 417
State tax benefit (415) (198) (137)
Inventory 1,059 843 (406)
Other (1,041) (1,221) (1,183)
------------ ------------ ------------
Net current deferred tax
liability 430 (151) (1,309)
------------ ------------ ------------
Long-term deferred tax asset
(liability):
Deferred lease credits 355 966 633
Fixed assets 6,560 3,230 929
Other 239 -- --
------------ ------------ ------------
Net long-term deferred tax
asset 7,154 4,196 1,562
------------ ------------ ------------
Net deferred tax asset $ 7,584 $ 4,045 $ 253
============ ============ ============
(6) STOCKHOLDERS' EQUITY
In June 1998, the Company reincorporated in Delaware and adopted a
Restated Certificate of Incorporation, Amended Bylaws and a Stockholder Rights
Agreement. The Restated Certificate of Incorporation authorizes the Company to
issue up to 40,000,000 shares of common stock, par value $.0001 per share, and
5,000,000 shares of preferred stock, par value $.0001 per share.
Stock Based Compensation Plans
In April 1998, the Board of Directors approved the 1998 Stock Option
Plan ("1998 Plan"), which serves as the successor to all previous plans ("the
Predecessor Plans.") The 1998 Plan is divided into five separate components: (i)
the Discretionary Option Grant Program, (ii) the Stock Issuance Program, (iii)
the Salary Investment Option Grant Program, (iv) the Automatic Option Grant
Program and (v) the Director Fee Option Grant Program. The Discretionary Option
Grant Program and Stock Issuance Program are administered by the Compensation
Committee.
Under the Discretionary Option Grant Program, the Plan has authorized
the Board of Directors to grant options to key employees, directors, and
consultants to purchase an aggregate
36
40
of 3,287,662 shares of common stock. Such share reserve consists of (i) the
number of shares available for issuance under the Predecessor Plans on June 19,
1998, including the shares subject to outstanding options, and (ii) an
additional increase of 980,000 shares. In addition, the number of shares of
Common Stock reserved for issuance under the 1998 Plan will automatically be
increased on the first trading day of each calendar year, beginning in calendar
year 2000, by an amount equal to the lessor of (i) three percent of the total
number of shares of Common Stock outstanding on the last trading day of the
preceding calendar year or (ii) 966,202 shares. On January 2, 2001 and January
3, 2000, the Company added 512,668 and 506,973 options, respectively, to the
1998 Discretionary Option Grant Program in accordance with the automatic option
increase provisions. In no event, however, may any one participant in the 1998
Plan receive option grants, separately exercisable stock appreciation rights or
direct stock issuances for more than 250,000 shares of Common Stock in the
aggregate per calendar year.
For all Plans, the vesting, exercise prices and other terms of the
options are fixed by the Board of Directors. Options are granted at prices not
less than the fair market value on the date of grant for incentive stock options
and not less than 85% of the fair market value for non-statutory stock options.
These options generally expire ten years from the date of grant and vest ratably
over a three-year period. The options are generally exercisable upon grant but,
if any options are exercised before becoming vested, the holder can not sell or
vote the shares until such shares have vested. If the holder leaves the Company
before the options are fully vested, the Company has the right to repurchase
unvested options at the employee's original exercise price.
A summary of the activity under the above option Plans is set forth
below:
WEIGHTED
AVERAGE
NUMBER OF EXERCISE
SHARES PRICE
========== ==========
Outstanding and exercisable, January 31, 1998 1,638,749 3.76
Granted (weighted average fair value of $10.97) 738,290 20.01
Exercised (46,790) 17.62
Canceled (76,248) 14.87
----------
Outstanding and exercisable, January 30, 1999 2,254,001 8.75
Granted (weighted average fair value of $4.98) 1,000,126 9.06
Exercised (561,337) 1.27
Canceled (282,992) 14.32
----------
Outstanding and exercisable, January 29, 2000 2,409,798 11.00
Granted (weighted average fair value of $2.25) 1,235,316 4.17
Exercised (78,252) 1.54
Canceled (623,902) 12.18
----------
Outstanding and exercisable, February 3, 2001 2,942,960 $ 8.06
========== ==========
Vested at February 3, 2001 1,387,861
==========
Available for future grant at February 3, 2001 677,964
==========
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Additional information regarding options outstanding as of February 3,
2001 is as follows:
WEIGHTED
AVERAGE WEIGHTED WEIGHTED
REMAINING AVERAGE AVERAGE
RANGE OF NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE
EXERCISE PRICES OUTSTANDING LIFE (YEARS) PRICE VESTED PRICE
===================================================================================================================
$ 0.66 - 1.43 463,958 4.86 $ 0.95 463,958 $ 0.95
$ 2.12 - 5.56 1,132,557 9.28 $ 4.05 108,797 $ 4.39
$ 7.67 - 11.94 804,717 7.91 $ 10.34 467,831 $ 10.44
$12.38 - 14.15 70,618 8.27 $ 14.08 22,124 $ 14.50
$19.00 - 22.00 463,819 7.47 $ 19.79 319,319 $ 19.77
$30.38 7,291 7.50 $ 30.38 5,832 $ 30.38
--------- ---------
$ 0.66 - $30.38 2,942,960 7.89 $ 8.06 1,387,861 $ 9.09
========= ==== ============== ========= ==============
Statement of Financial Accounting Standards No. 123, Accounting for
Stock-Based Compensation ("SFAS 123"), requires the disclosure of pro forma net
income had the Company adopted the fair value method as of the beginning of
fiscal 1995. Under SFAS 123, the fair value of stock-based awards to employees
is calculated through the use of option pricing models, even though such models
were developed to estimate the fair value of freely traded, fully transferable
options without vesting restrictions, which significantly differ from the
Company's stock option awards. These models also require subjective assumptions,
including future stock price volatility and expected time to exercise which
greatly affect the calculated values. The Company's calculations were made using
the Black-Scholes option pricing model with the following weighted average
assumptions: expected life 54 months in all three years; stock volatility
considered to be 21% in 2000, 50% in 1999 and 45 % in 1998; risk free interest
rates of 4.9% in 2000, 6.5% in 1999, and 7.0% in 1998, and no dividends during
the expected term. The Company's calculations are based on a multiple option
valuation approach and forfeitures are recognized as they occur. If the computed
fair values of the awards had been amortized to expense over the vesting period
of the awards, pro forma net income and per share amounts would have been as
follows (dollars in thousands except per share data):
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FISCAL YEAR ENDED
--------------------------------------------
FEBRUARY 3, JANUARY 29, JANUARY 30,
2001 2000 1999
------------ ------------ ------------
Net income (loss) available to
common stockholders $ (3,091) $ (3,040) $ 3,867
As reported (4,455) (5,547) 2,818
Pro-forma
Net Income (loss) per share:
Basic, as reported (0.18) (0.18) 0.33
Basic, pro forma (0.26) (0.33) 0.24
Diluted, as reported (0.18) (0.18) 0.23
Diluted, pro forma $ (0.26) $ (0.33) $ 0.17
- ---------------------------------------------------------------------------------------
Employee Stock Purchase Plan
In April 1998, the Board of Directors adopted the 1998 Employee Stock
Purchase Plan (the "Purchase Plan"). The Purchase Plan is designed to allow
eligible employees, based on specified length of service requirements, of the
Company and participating subsidiaries to purchase shares of common stock, at
semi-annual intervals, through their periodic payroll deductions under the
Purchase Plan. A reserve of 475,000 shares of common stock has been established
for this purpose. Individuals who are eligible employees may enter the Purchase
Plan twice yearly and payroll deductions may not exceed 15% of total cash
earnings. The purchase price per share will equal 85% of the lower of (i) the
fair market value of the common stock on the participant's entry date into the
offering period or (ii) the fair market value on the semi-annual purchase date.
The Board may at any time alter, suspend or discontinue the Purchase Plan.
However, certain amendments to the Purchase Plan may require stockholder
approval.
(7) EMPLOYEE BENEFIT PLANS
The Company has a 401(k) plan for its employees who meet certain service
and age requirements. Participants may contribute up to 15% of their salaries to
a maximum of $10,000 and qualify for favorable tax treatment under Section
401(k) of the Internal Revenue Code. In November 1997, the Company began
matching 10% of the employees' contribution up to a maximum of 4% of their base
salary. The Company contributed $221,977, $56,827, and $21,828 in the years
ended February 3, 2001, January 29, 2000, and January 30, 1999, respectively.
(8) OTHER RELATED PARTY TRANSACTIONS
The Company leases a store from the Chairman of the Board of Directors
and his spouse and a partnership of which the Chairman is a partner. For the
fiscal years ended February 3, 2001, January 29, 2000, and January 30, 1999,
rents of $65,657, $64,222, and $54,600 were paid in the aggregate to the
Chairman and the partnership, respectively.
(9) COMMITMENTS AND CONTINGENCIES
The Company is a party to various legal claims, actions and complaints.
Although the ultimate resolution of legal proceedings cannot be predicted with
certainty, management believes
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that disposition of these matters will not have a material adverse effect on the
Company's consolidated financial statements.
(10) SEGMENT REPORTING
The Company classifies its business interests into three identifiable
segments: retail, direct to customer and furniture. The retail segment includes
revenue and expense associated with the 106 retail locations. The direct to
customer segment includes revenue and expenses associated with catalog and
Internet sales. The furniture segment includes all revenue and expense
associated with Michaels. The accounting policies of the segments are the same
as those described in the summary of significant accounting policies (Note 1).
The Company evaluates performance and allocates resources based on income from
operations which excludes unallocated corporate general and administrative
costs. Certain segment information, including segment assets, asset expenditures
and related depreciation expense, is not presented as all assets of the Company
are commingled and are not available by segment.
Financial information for the Company's business segments is as follows:
FISCAL YEAR ENDED
--------------------------------------------
FEBRUARY 3, JANUARY 29, JANUARY 30,
2001 2000 1999
------------ ------------ ------------
Net sales
Retail $ 345,688 $ 279,225 $ 192,541
Direct to customer 22,779 12,785 3,351
Furniture 19,980 26,376 23,777
Intersegment sales (18,985) (19,484) (8,322)
------------ ------------ ------------
Consolidated net sales $ 369,462 $ 298,902 $ 211,347
============ ============ ============
Income from operations
Retail 43,736 26,837 27,900
Direct to customer 347 (257) (650)
Furniture (1,799) 2,494 2,930
Unallocated (40,454) (29,505) (19,626)
Intersegment income from
operations (938) (2,923) (1,389)
------------ ------------ ------------
Consolidated income from operations $ 892 $ (3,354) $ 9,165
============ ============ ============
(11) ACQUISITION OF THE MICHAELS FURNITURE COMPANY
On March 20, 1998, the Company acquired 100% of the outstanding stock of
Michaels, a privately owned manufacturer of wood furniture, from its sole
shareholder and then-current President. The Michaels acquisition was accounted
for under the purchase method of accounting and all acquired assets and
liabilities were recorded at their estimated fair market values.
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Consideration given for the Michaels' stock consisted of an initial cash
payment of $5.0 million at March 20, 1998, the date of the close. Additionally,
the Company is required to pay the former owner contingent cash consideration
equal to 35% of Michaels' earnings before interest, taxes, depreciation and
amortization ("EBITDA") for the period from March 20, 1998 to January 30, 1999
and 25% of Michaels' EBITDA for fiscal years ending January 29, 2000 and
February 3, 2001. EBITDA based payments of $80,000, $592,000 and $647,000 were
paid for the years ending February 3, 2001, January 29, 2000 and January 30,
1999, respectively, to the President of Michaels.
The Company leases the manufacturing operations buildings from Michael
Vermillion, the former President. For each of the years ended February 3, 2001
and January 29, 2000, rent of $346,560 was paid to Mr. Vermillion, and from the
date of acquisition through January 30, 1999, rent of $395,200 was paid to Mr.
Vermillion.
(12) SUBSEQUENT EVENT -- PRIVATE PLACEMENT, APPOINTMENT OF NEW CEO AND
AMENDMENT OF CREDIT FACILITY
On March 21, 2001, the Company completed a sale of its preferred stock
with aggregate proceeds to the Company of approximately $15 million, appointed
Mr. Friedman as the Company's new Chief Executive Officer and amended the bank
agreement for its line of credit. In addition, the Company sold Mr. Friedman
571,429 shares of Common Stock at a price per share of $1.75 and Mr. Friedman
exercised his option to purchase 1,200,000 shares of common stock at a price of
$1.75 per share for an aggregate sales price of approximately $3,100,000.
CONVERTIBLE PREFERRED STOCK SERIES A AND REDEEMABLE PREFERRED STOCK SERIES B
The Second Amended and Restated Certificate of Incorporation of the
Company (the "Amended Certificate") authorizes 5,000,000 shares of preferred
stock (the "Preferred Stock"). In connection with the private placement
transaction in March 2001, the Board of Directors designated, by resolution,
28,037 shares of the undesignated Preferred Stock as Series A Preferred Stock
("Series A") and 21,217 shares of the undesignated Preferred Stock as Series B
Preferred Stock ("Series B"). Each has a par value of $.0001 per share.
The Company entered into an Amended and Restated Series A and B
Preferred Stock Purchase Agreement (the "Preferred Stock Purchase Agreement")
dated as of March 21, 2001 with several investors, including Mr. Friedman who
purchased 455 shares of the Series A and 545 shares of the Series B. Pursuant to
the terms of the Preferred Stock Purchase Agreement, the Company received
approximately $15 million in consideration for the sale of 6,820 shares of
Series A and 8,180 shares of Series B, for $1,000 per share. The proceeds from
the equity financing will be used to repay existing indebtedness and for general
corporate purposes.
CONVERTIBLE PREFERRED STOCK SERIES A ("SERIES A")
Convertibility
The Series A is immediately convertible at the option of the holder into
shares of the Company's common stock ("Common Stock"). The initial conversion
formula is equal to the original issue price ($1,000) divided by $2.00 per
share. Therefore, each share of Series A is
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initially convertible into 500 shares of Common Stock. The conversion price of
the Series A is subject to certain adjustments for future dilutive events. The
Series A, is not, however, convertible into more than 3,410,000 shares of Common
Stock without the prior approval of the Company's stockholders. The Company may
require conversion of the Series A, in whole or in part, by sending written
notice of the conversion to holders of Series A at any time after March 22, 2004
if the average closing price per share of the Common Stock for the 20 trading
days ending 3 business days preceding the date that the request is sent exceeds
three times the then-current conversion price of the Series A. Upon the
Company's notice of conversion, holders of Series A shall be deemed to have
demanded registration of their shares of Series A. If such holders subsequently
choose not to include their shares in the registration statement, they may
request redemption of their shares of Series A, in which case the Company must
redeem the shares of Series A in accordance with the terms of the Certificate of
Designation of the Series A and Series B (the "Certificate of Designation"). Any
such redemption would be for a redemption price of $1,000 plus all accrued and
unpaid dividends. If the holders do not participate in the registration, but
also do not request redemption, their shares will automatically convert into
Common Stock.
Redemption
The Company may redeem the Series A, in whole or part, at any time after
March 22, 2006, on at least 30 days prior written notice requesting redemption,
at a redemption price per share equal to the greater of (a) the average of the
closing price per share of the Common Stock for 20 trading days ending three
business days prior to the date that the written request is sent, or (b) $1,000
per share plus all accrued and unpaid dividends.
Dividends
If the Board of Directors declares a dividend, each share of Series A is
entitled to dividends at the rate of $100 per share per annum. Such dividends
are cumulative and deemed to have accrued from the original date of issuance of
the Series A for purposes of the exercise of the Company's mandatory redemption
rights and the redemption rights of the holders of Series A in connection with
the Company's mandatory conversion rights described above and in the Certificate
of Designation and the determining of the liquidation preferences of the holders
of the Series A. Such dividends shall not be deemed to be cumulative and shall
not be deemed to have so accrued upon any conversion of the Series A into Common
Stock. Except for dividends payable to holders of the Series B, the Company
shall not pay or declare any dividend on any Common Stock or any of its other
securities that are junior to the Series A during any fiscal year unless and
until full dividends on the Series A are declared and paid for such fiscal year.
Voting
Holders of the Series A generally have the right to one vote for each
share of Common Stock into which such Series A is convertible. Subject to the
terms of the Preferred Stock Purchase Agreement and the Certificate of
Designation, the holders of the Series A are entitled to elect two designees to
the Board of Directors. At least one of the designees shall also be represented
on all committees of the Board of Directors. In addition, the holders of Series
A
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vote separately as a class in certain circumstances, including, without
limitation, amendments to the Company's Amended Certificate, creation or
issuance by the Company of any new class of securities having a preference
senior to or on parity with the Series A, declaration or payment by the Company
of any dividends or other distributions on the Common Stock, or the Company
entering into certain transactions involving a merger, consolidation, or sale of
all or substantially all of its assets.
Liquidation Preference
If the Company were dissolved or liquidated, voluntarily or
involuntarily, the holders of the Series A would be entitled to receive, prior
and in preference to any distribution of the Company's assets to the holders of
any of its other equity securities, other than the Series B, an amount equal to
the greater of: (a) $1,000 per share (as adjusted for any stock splits, stock
dividends and recapitalizations) plus accrued and unpaid dividends; or (b) the
amount which such holder of the Series A would have received assuming all shares
of Series A had been converted into Common Stock at the then applicable
conversion rate immediately prior to any such dissolution or liquidation.
Subject to the preferential rights of the holders of Series B, if the Company
has insufficient assets and funds to distribute to the holders of Series A their
full liquidation preference, then all of its assets and funds legally available
for distribution shall be distributed pro rata among the holders of the Series A
in proportion to the preferential amount each such holder is entitled to
receive.
In addition, certain events, including, without limitation, a sale of
all or substantially all of the Company's assets, or a change of control of the
Company, may be designated by holders of Series A as a liquidation or
dissolution, in which case, the above-described mechanisms for distribution of
the Company's assets are applicable.
REDEEMABLE PREFERRED STOCK SERIES B ("SERIES B")
Convertibility
The Series B is not convertible into Common Stock. The Series B shall be
automatically converted on a one-for-one basis into Series A at such time as a
majority of the Company's stockholders approve the conversion. Upon stockholder
approval, such conversion shall be deemed to have taken place on the original
date of issuance of the Series A.
Redemption
The Company shall redeem all outstanding Series B on June 30, 2006. At
any time and from time to time after March 22, 2004, the holders of the Series B
may require the Company to redeem, at such holder's option, some or all of their
shares of Series B. At any time and from time to time after March 22, 2004, the
Company may redeem, at its option, some or all of the outstanding shares of
Series B. The redemption price shall be $1,000 per share plus all accrued and
unpaid dividends.
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Dividends
The holders of Series B shall be entitled to receive a cumulative
dividend of $200 per share per annum unless the Company's stockholders approve
the conversion feature of the Series B into Series A by August 31, 2001. The
right to receive these dividends will accrue to holders of Series B even if the
Company fails to declare or pay dividends for the Series B for any prior year.
The dividend is payable in cash or, if the Company's lenders do not approve a
cash dividend, in additional shares of Series B. The dividend accrues from the
date of issuance of the Series B and is first payable commencing on September
15, 2001. The payment of dividends on the Series B shall be payable in
preference and priority to any payment of any dividend on the Common Stock, the
Series A and any of the Company's other equity securities. The Company shall not
declare or pay a dividend or any other distribution in any fiscal year on any of
its other equity securities, and it shall not purchase, redeem or otherwise
acquire any of its other equity securities, unless and until full dividends on
the Series B shall have been declared and paid for such fiscal year.
Voting
Except for the rights to vote as a single class to approve certain
actions as specifically provided in the Certificate of Designation, the holders
of Series B do not have any voting rights.
Liquidation Preference
If the Company were dissolved or liquidated, voluntarily or
involuntarily, the holders of Series B shall be entitled to receive, prior and
in preference to any distribution of the Company's assets to the holders of
Common Stock or Series A, an amount per share equal to $1,000 (as adjusted for
any stock splits, stock dividends and recapitalizations) plus accrued and unpaid
dividends. If the Company has insufficient assets and funds to distribute to the
holders of Series B their full liquidation preference, then all of its assets
and funds legally available for distribution shall be distributed pro rata among
the holders of the Series B in proportion to the preferential amount each such
holder is entitled to receive.
In addition, certain events, including, without limitation, a sale of
all or substantially all of the Company's assets, or a change of control of the
Company, may be designated by holders of Series B as a liquidation or
dissolution, in which case, the above-described mechanisms for distribution of
the Company's assets are applicable.
STOCK OPTION GRANT AND COMMON STOCK PURCHASE
As a condition to the completion of the private placement transactions
in March 2001, Mr. Friedman was named as the Company's new Chief Executive
Officer on March 21, 2001. The Company entered into a stock purchase agreement
with Mr. Friedman, and, upon commencement of his employment, Mr. Friedman
purchased 571,429 shares of Common Stock at $1.75 per share for a total purchase
price of approximately $1 million. The difference between the fair market value
of $2.1875 per share on the closing date of the private placement transaction
and the purchase price of $1.75 per share results in a $250,000 charge that will
be expensed as compensation on the closing date.
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48
Additionally, the Company granted Mr. Friedman an option to purchase
1,200,000 shares of Common Stock at $1.75 per share which he subsequently
exercised. The terms of the option allow the Company to repurchase shares not
fully vested at the time Mr. Friedman ceases, for any reason, to be an employee
of the Company. The 1,200,000 shares vest and are no longer subject to the
Company's repurchase option at the rate of 33 1/3% upon completion of each year
he is employed by the Company. The difference between the fair market value of
$2.1875 per share on the closing date of the private placement transaction and
the purchase price of $1.75 results in a $525,000 charge that will be expensed
as compensation over the option's thirty-six month vesting period. Furthermore,
the Company granted Mr. Friedman an option to purchase 200,000 shares of Common
Stock at $6.00 per share. The 200,000 shares vest at the rate of 33-1/3% upon
completion of each year he is employed with the Company.
The aggregate purchase price for Mr. Friedman's purchase of the Common
Stock was approximately $3,100,000, of which approximately $1,050,000 was paid
in cash by Mr. Friedman and $2,050,000 was paid by Mr. Friedman in the form of a
note, dated March 22, 2001, evidencing a loan from the Company to Mr. Friedman.
Pursuant to the terms of the note, the interest rate on the outstanding
principal amount of the loan in the original principal amount of $2,050,000 is
8.5% per annum, which interest is payable on the first, second and third
anniversaries of the date of this note. The principal is due on March 22, 2004
but the due date may be accelerated due to a number of factors, including, Mr.
Friedman's failure to make payments due under the note, expiration of the
six-months period following the date Mr. Friedman ceases to be in the Company's
employment as a result of termination for cause, or 90 days after the closing of
an acquisition of the Company. The loan is a full recourse loan and is secured
by shares of the common stock and preferred stock purchased by Mr. Friedman.
NET PROCEEDS
The cash proceeds received from the sale of Series A and Series B in the
private placement transactions in March 2001 and the sale of Common Stock to Mr.
Friedman were approximately $16.05 million. Expenses incurred in connection with
the private place transactions were approximately $1.3 million, resulting in net
proceeds to the Company of approximately $14.75 million.
AMENDMENT OF THE CREDIT FACILITY
On March 21, 2001, the Company amended its existing credit facility. The
amendment reduced the overall commitment under the line of credit from $111
million to $89 million, increased the amounts available for letters of credit
from $10 million to $20 million and eliminated the minimum earnings before
interest, taxes, depreciation and amortization ("EBITDA") requirement.
Additionally, the borrowing base calculation was modified to provide the Company
with more liquidity due to the pledge of additional collateral, and the interest
rate was reduced by 25 basis points, with possible additional reductions based
on achievement of future EBITDA. The amended credit facility contains minimum
availability requirements based on seasonality.
In September 2000, as part of an amendment to the then-existing credit
facility, warrants to purchase 550,000 shares of Common Stock were issued to the
lenders. At the time of the grant, the fair market value of the Common Stock
exceeded the exercise price of the warrants. In connection with the amendment to
the credit facility in March 2001, the Company repriced the warrant covering
200,000 of the 500,000 shares of Common Stock
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from $3.75 to $2.00 per share. All other provisions of the credit facility
remained substantially unchanged.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
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PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth information regarding our executive
officers and directors as of the fiscal year ended February 3, 2001, as well as
information about our new Chief Executive Officer who was hired and appointed to
the board after the fiscal year end, two other directors who were appointed to
the board after the fiscal year-end in connection with the private financing
discussed in "Item 1 -- Subsequent Events" and persons nominated by our board of
directors to serve as members of the board. Please reference "Item 1 --
Subsequent Events" for additional information on management changes that
occurred after the fiscal year ended February 3, 2001.
NAME AGE POSITION
- ------------------------------------------------------------------------------------------------
Stephen J. Gordon(4)(5) 50 Chairman of the Board of Directors, Former
Chief Executive Officer and Director Nominee
Gary G. Friedman(9)(10) 43 Chief Executive Officer, Director and Director
Nominee
Thomas Christopher(3) 53 Former President, Former Chief Operating
Officer, Former Assistant Secretary and Former
Director
Walter J. Parks 42 Executive Vice President, Chief Financial
Officer, Secretary and Chief Administrative
Officer
Cornelia S. Hunter 53 Former Executive Vice President, Merchandise
Damon H. Ball(1)(3)(4)(6) 43 Director
Robert B. Camp(1)(3) 57 Director
Raymond C. Hemmig(1)(2)(3)(6) 51 Director
Glenn J. Krevlin(7)(9) 41 Director
Marshall B. Payne(2)(6) 44 Director
Ann Rhoades(11) 56 Former Director
Mark J. Schwartz(7)(8)(9) 43 Director
- ------------------------------------------------------------------------------------------------
(1) Member of the audit committee as of and after February 3, 2001
(2) Member of the compensation committee as of and after February 3,
2001
(3) Member of the real estate committee as of February 3, 2001, the
committee has since dissolved
(4) Member of the nominating committee as of and after February 3,
2001
(5) Member of the stock option plan secondary committee as of and
after February 3, 2001
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(6) Member of the finance committee as of February 3, 2001, the
committee has since dissolved
(7) Member of the audit committee after February 3, 2001
(8) Member of the compensation committee after February 3, 2001
(9) Member of the nominating committee after February 3, 2001
(10) Member of the stock option plan secondary committee after
February 3, 2001
(11) Member of the compensation and nominating committees until March
22, 2001
Stephen J. Gordon founded the company in 1980 and is currently the
Chairman of our board of directors. Until the recruitment of a professional
management team in 1994 and 1995, Mr. Gordon actively managed all aspects of the
business, including acting as both our President and Chief Executive Officer
from June 1987 to August 1998 and continued as our Chief Executive Officer from
August 1998 until March 2001.
Gary G. Friedman joined as our Chief Executive Officer in March 2001. He
was appointed by our board as a director at the same time. Prior to joining us,
Mr. Friedman was with Williams-Sonoma for 12 years, where he served in various
capacities, including most recently as President and Chief Operating Officer
from May 2000 to March 2001, and as Chief Merchandising Officer and President of
Retail Stores from 1995 to 2000.
Thomas Christopher joined us in June 1994 as Executive Vice President,
Chief Operating Officer and director and became our President in August 1998. He
continued as our President, Chief Operating Officer, Assistant Secretary and a
director until March 2001. Prior to joining us, Mr. Christopher was with Barnes
& Noble, Inc. for five years where he served in various capacities, including
Chief Executive Officer of Bookstop Inc. and President of Barnes & Noble
Superstores. Previously, Mr. Christopher worked for 19 years at Pier 1 Imports,
a national chain of home furnishing retail stores, where he served in a variety
of capacities, including Executive Vice President of Operations. The
circumstances of Mr. Christopher's departure from the company is discussed
further under "Item 11 -- Employment Contracts, Termination of Employment and
Change of Control Arrangements."
Walter J. Parks joined us in September 1999 as our Executive Vice
President and Chief Administrative Officer. In addition to his duties as Chief
Administrative Officer, Mr. Parks assumed the position of our Chief Financial
Officer in March 2000. Mr. Parks has also served as our Secretary since March
2001. Prior to joining us, Mr. Parks was with Ann Taylor for 11 years where he
served in a variety of capacities, including as Chief Financial Officer and
Treasurer from March 1997 to April 1999 and as Senior Vice President of Finance
from 1995 to March 1997.
Cornelia S. Hunter was our Executive Vice President, Merchandise until
the termination of her employment with us effective April 6, 2001. Prior to
joining us, Ms. Hunter was a principal at the consulting firm of Hunter &
Associates from January 1998 to November 1999. She was the Vice President,
Merchandise, at Eddie Bauer Inc. from April 1990 to January 1998.
Damon H. Ball has served as one of our directors since May 1997. Since
May 1999, Mr. Ball has served as the President of Sextant Capital Advisors, LLC,
a venture fund and financial advisory company formed by Mr. Ball. Previously,
Mr. Ball was with Desai Capital
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Management Incorporated for nine years where he served as a Senior Vice
President from 1993 to 1999, and as a Vice President prior to such time.
Robert B. Camp has served as one of our directors since June 1994. He
has served as the Chairman and Chief Executive Officer of Kitchen Etc., Inc.
since July 1999. Mr. Camp also owns and operates Hero's Welcome Inc., a general
store and mail order operation, which he and his wife founded in 1993. He is the
former Chief Executive Officer of Pier 1, Inc. and was associated with that
company from 1967 to 1985. In 1971, Mr. Camp co-founded Import Bazaar Ltd., a
Canadian-based import business, which was subsequently sold to Pier 1. In 1986,
he founded Simpson and Fisher Companies, Inc., a specialty retail holding
company.
Raymond C. Hemmig has served as one of our directors since June 1994. He
has served as the Chairman of Ace Cash Express, Inc., a chain of retail
financial services stores, since October 1988 and the Chairman, Chief Executive
Officer and General Partner of Retail & Restaurant Growth Capital, L.P., a
private investment partnership, since 1995. Mr. Hemmig served as the Chief
Executive Officer of ACE from 1988 to 1994. Previously, Mr. Hemmig was a
foodservice, retail and franchise industries consultant from 1985 to 1988. He
served as an Executive Vice President of Grandy's Inc., a subsidiary of Saga
Corp., from 1983 to 1985, and was a Vice President and the Chief Operating
Officer of Grandy's Country Cookin', the predecessor restaurant company, from
1980 to 1983. He also worked with Hickory Farms of Ohio, Inc. from 1973 to 1980
in various operational and executive positions. He is a director on the boards
of several private companies.
Glenn J. Krevlin was appointed by our board of directors to serve as a
member of the board in March 2001. Mr. Krevlin has served as a General Partner
at Glenhill Capital LP, an investment partnership, since January 2000.
Previously, he was a General Partner at Cumberland Associates LLC, an investment
limited liability company, from 1994 to December 2000.
Marshall B. Payne has served as one of our directors since June 1994. He
has been with Cardinal Investment Company, Inc., an investment company, since
1983 and currently serves as a Vice President. Mr. Payne also serves on the
boards of several public companies, including, Ace Cash Express, Inc., a chain
of retail financial services stores, Texas Capital Bancshares, a holding company
for Texas Capital Bank, and Leslie Building Products, Inc., a building products
manufacturer.
Ann Rhoades served as one of our directors from August 1999 to March
2001. Since January 1999, Ms. Rhoades has served as the President of People Ink,
a consulting company. Since March 1999, she has been an Executive Vice President
of JetBlue Airways, a private airline company. From January 1995 to March 1999,
Ms. Rhoades was an Executive Vice President for Promus/Doubletree Hotels. From
July 1989 to January 1995, she was a Vice President for Southwest Airlines.
Mark J. Schwartz was appointed by our board of directors to serve as a
member of the board in March 2001. Mr. Schwartz has served as the President and
Chief Executive Officer of Palladin Capital Group, Inc., a New York-based
merchant banking firm, since August 1997. He also served as the Chairman and
Chief Executive Officer of Nine West Group, Inc. from June 1999 to February
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2000. From April 1994 to July 1997, Mr. Schwartz was a member of Rosecliff,
Inc., a New York-based merchant banking firm, most recently as the President.
Mr. Schwartz also serves on the boards of several private companies, including
MarketMax, Inc., a leading provider of collaborative planning and optimization
software for retailers and suppliers, and Balance Pharmaceuticals, Inc., a
bio-pharmaceutical company developing therapeutics relating to oncology and
women's health.
CLASSIFIED BOARD
Our board is currently composed of the following classes of directors:
CLASS EXPIRATION MEMBER
----------------------------------------------------------------------------------
Class III 2001 Stephen J. Gordon and Gary G. Friedman
Class II 2002 Damon H. Ball, Raymond C. Hemmig and Glenn J.
Krevlin
Class I 2003 Robert B. Camp, Marshall B. Payne and Mark J. Schwartz
----------------------------------------------------------------------------------
In connection with our Series A and B preferred stock financing in March
2001, we hired Mr. Friedman as our new Chief Executive Officer and our board of
directors appointed Mr. Friedman as a Class III director to our board. Mr.
Friedman filled a vacancy on our board created by the resignation of Thomas
Christopher just prior to the effective date of the board's appointment of Mr.
Friedman. Mr. Friedman's term as a Class III director expires at this year's
annual meeting of stockholders. He is standing for re-election at this annual
meeting.
In addition, in connection with the issuance of the Series A preferred
stock, the holders of Series A preferred stock may elect up to two directors to
our board of directors. Accordingly, the holders of Series A preferred stock
nominated, and our board then appointed, Glenn J. Krevlin and Mark J. Schwartz
to the board of directors. Mr. Krevlin filled a newly-created directorship on
our board. Mr. Schwartz filled a vacancy on our board created by the resignation
of Ann Rhoades on March 22, 2001. The terms of Mr. Krevlin and Mr. Schwartz as
directors on our board will expire at our annual meeting of stockholders in 2002
and 2003, respectively. Provided that the holders of the Series A preferred
stock remain entitled to elect such Series A director(s), each Series A director
will be up for election upon the expiration of their respective terms.
At each annual meeting of stockholders, directors will be elected by a
plurality of votes represented and voted at the annual meeting to succeed those
directors whose terms are expiring. In addition, our bylaws provide that the
authorized number of directors may be changed only by resolution of the board of
directors. The number of directors will be distributed among the three classes
so that, as nearly as possible, each class will consist of one-third of the
total number of directors. This classification of the board of directors may
have the effect of delaying or preventing changes in control of our company.
COMPLIANCE WITH SECTION 16(a) OF THE SECURITIES EXCHANGE ACT OF 1934
The members of our board of directors, our executive officers and
persons who hold more than 10% of a registered class of our equity securities
are subject to the reporting requirements of Section 16(a) of the Securities
Exchange Act of 1934, as amended, which
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require them to file reports with respect to their ownership and changes in
ownership of our common stock and other equity securities. To our knowledge,
based upon (i) copies of Section 16(a) reports which we received from such
persons for their transactions relating to our common stock and other equity
securities during the fiscal year ended February 3, 2001 and their common stock
holdings, and (ii) written representations received from one or more of such
persons that no annual Form 5 reports were required to be filed by them for the
fiscal year ended February 3, 2001, we believe that all reporting requirements
under Section 16(a) for the fiscal year ended February 3, 2001 were met in a
timely manner by our directors, executive officers and greater than 10%
beneficial owners except as set forth below:
NUMBER OF TRANSACTIONS
NUMBER OF NOT REPORTED ON A
LATE FILINGS TIMELY BASIS
- -------------------------------------------------------------------------------------------------
Robert B. Camp 2 1
Raymond C. Hemmig 2 1
- -------------------------------------------------------------------------------------------------
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ITEM 11. EXECUTIVE COMPENSATION AND OTHER INFORMATION
The following table provides summary information concerning the
compensation earned by our Chief Executive Officer and each of our three other
most highly compensated executive officers whose salary and bonus for the fiscal
year ended February 3, 2001 were in excess of $100,000, for their services to
the company and our subsidiaries, for the fiscal years ended February 3, 2001,
January 29, 2000, and January 30, 1999. No executive officer who would have
otherwise been included in the following table on the basis of salary and bonus
earned for the fiscal year ended February 3, 2001 has been excluded by reason of
his or her termination of employment or change in executive status during the
fiscal year end. The executive officers listed below are referred to as the
"Named Executive Officers."
SUMMARY COMPENSATION TABLE
LONG-TERM
COMPENSATION
AWARDS NUMBER
OTHER OF SECURITIES
ANNUAL UNDERLYING
SALARY BONUS COMPENSATION OPTIONS ALL OTHER
NAME AND PRINCIPAL POSITION YEAR ($) ($) ($)(1) (#)(2) COMPENSATION(3)
- --------------------------------------------------------------------------------------------------------------------------------
Stephen J. Gordon 2000 $ 275,000 -- $ 11,400 -- $ 2,010
Chairman of the Board and 1999 272,115 -- 11,400 -- 808
former Chief Executive
Officer 1998 250,000 125,000 11,400 67,900 810
- --------------------------------------------------------------------------------------------------------------------------------
Thomas Christopher 2000 $ 220,000 -- $ 11,400 -- $ 2,242
Former President, Former
Chief Operating Officer, Former 1999 221,414 -- 11,400 -- 804
Assistant Secretary and 1998 200,000 80,000 11,400 58,100 558
Former Director
- --------------------------------------------------------------------------------------------------------------------------------
Walter J. Parks 2000 $ 250,000 -- $ 121,176 15,000 $ 1,875
Executive Vice President,
Chief Financial Officer,
Secretary and Chief 1999 71,154 50,000 5,963 120,000 --
Administrative Officer 1998 -- -- -- -- --
- --------------------------------------------------------------------------------------------------------------------------------
Cornelia S. Hunter 2000 $ 225,000 -- -- 5,000 $ 1,688
Former Executive Vice
President, 1999 17,308 125,000 29,000 80,000 --
Merchandise 1998 -- -- -- -- --
- --------------------------------------------------------------------------------------------------------------------------------
(1) "Other Annual Compensation" includes: (i) for each of fiscal years 2000,
1999 and 1998, car allowances provided to Messrs. Gordon and
Christopher, (ii) for fiscal 1999, compensation paid to Ms. Hunter prior
to her employment with us as an outside consultant, and (iii) for each
of fiscal years 2000 and 1999, relocation expenses paid on behalf of Mr.
Parks.
(2) The options listed in the table were granted under our 1995 and 1998
stock option plans. See "Item 11 -- Aggregate Option/SAR Exercises and
Fiscal Year-End Values" for a description of the terms of these options.
(3) "All Other Compensation" represents contributions made by us to our
401(k) plan, which was implemented in November 1997, on behalf of the
executive officers.
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STOCK OPTIONS AND STOCK APPRECIATION RIGHTS
The following table contains information concerning the stock options
granted to the Named Executive Officers during the fiscal year ended February 3,
2001. All grants were made under our 1998 stock incentive plan. No stock
appreciation rights were granted to the Named Executive Officers during such
fiscal year.
NAME
POTENTIAL
INDIVIDUAL GRANTS REALIZABLE
----------------------------------------------------- VALUE AT ASSUMED
NUMBER OF PERCENTAGE OF ANNUAL RATES OF
SECURITIES TOTAL OPTIONS STOCK PRICE
UNDERLYING GRANTED APPRECIATION FOR
OPTIONS TO EMPLOYEES IN EXERCISE EXPIRATION OPTION TERM (3)
GRANTED (1) FISCAL YEAR PRICE(2) DATE 5% 10%
- ------------------------------------------------------------------------------------------------------------------------------
Stephen J. Gordon -- --% $ -- -- $ -- $ --
Thomas Christopher -- --% $ -- -- $ -- $ --
Walter J. Parks 15,000 1.2% $ 2.9375 10/30/10 $ 981 $ 27,661
Cornelia S. Hunter 5,000 0.4% $ 2.9375 10/30/10 $ 327 $ 9,220
- ------------------------------------------------------------------------------------------------------------------------------
(1) The options become exercisable in three equal annual installments upon
the optionee's completion of each of the three years of service with us
after the grant date. The options have a maximum term of ten years
measured from the grant date, subject to earlier termination following
the optionee's cessation of service with us. The shares subject to each
option will vest in full in the event we are acquired by merger or asset
sale, unless the options are assumed by the successor corporation.
(2) The exercise price may be paid in cash or in shares of common stock
valued at fair market value on the exercise date. Alternatively, the
option may be exercised through a cashless exercise procedure pursuant
to which the optionee provides irrevocable instructions to a brokerage
firm to sell the purchased shares and to remit to us, out of the sale
proceeds, an amount equal to the exercise price plus all applicable
withholding taxes. Our compensation committee may also assist an
optionee in the exercise of an option by (i) authorizing a loan from us
in a principal amount not to exceed the aggregate exercise price plus
any tax liability incurred in connection with the exercise, or (ii)
permitting the optionee to pay the option price in installments over a
period of time upon terms established by our compensation committee.
(3) We provide no assurance to any executive officer or other holders of our
securities that the actual stock appreciation over the ten year option
term will be at the assumed 5% and 10% levels or at any other defined
level. Unless the market price of our common stock appreciates over the
option term, no value will be realized from the options granted to the
Named Executive Officers.
AGGREGATED OPTION\SAR EXERCISES AND FISCAL YEAR-END VALUES
The following table sets forth information, with respect to the Named
Executive Officers, concerning the exercise of options during the fiscal year
ended February 3, 2001 and the unexercised options held by them at such fiscal
year end. No stock appreciation rights were
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exercised by any Named Executive Officer during the fiscal year ended February
3, 2001, and no stock appreciation rights were outstanding at such fiscal year
end.
NUMBER OF SECURITIES
UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED OPTIONS AT IN-THE-MONEY OPTIONS AT
FISCAL YEAR-END (#) FISCAL YEAR-END ($) (3)
SHARES VALUE -------------------------------- OPTION TERM (3)
ACQUIRED ON REALIZED EXERCISABLE -------------------------------
EXERCISE (#) (1) (2) UNEXERCISABLE EXERCISABLE UNEXERCISABLE
------------- ------------- ------------- ------------- ------------- -------------
Stephen J. Gordon -- -- 283,262 22,638 $ 194,698 --
Thomas Christopher 119,233 19,367 21,725 --
Walter J. Parks -- -- 39,995 95,005 -- --
Cornelia S. Hunter -- -- 26,663 58,337 -- --
- -----------------------------------------------------------------------------------------------------------------------------------
(1) Based upon the market price of the purchased shares on the exercise date
less the option price paid for those shares.
(2) A number of the shares subject to options held by the Named Executive
Officers are immediately exercisable, but the shares purchasable under
such options are subject to repurchase by us, at the exercise price paid
per share, upon the optionee's cessation of service with us prior to
full vesting of the shares. The table includes under the column titled
"Exercisable" the shares subject to options that have vested and under
the column titled "Unexercisable" the shares subject to options that
remain unvested.
(3) Based upon the fair market value of our common stock as of February 2,
2001 ($1.84 per share), less the option exercise price payable for those
shares.
EMPLOYMENT CONTRACTS, TERMINATION OF EMPLOYMENT AND CHANGE IN CONTROL AGREEMENTS
We do not presently have employment contracts in effect with any of our
executive officers, and their employment may be terminated at any time at the
discretion of our board of directors.
Mr. Gordon's Severance Agreement
We entered into a severance agreement with Mr. Gordon effective as of
March 21, 2001, whereby we agreed to provide Mr. Gordon with a number of
benefits should his employment with us terminate.
- If Mr. Gordon's employment with us is terminated by us for cause, or
due to his disability, death or retirement, or by Mr. Gordon, he is
entitled to accrued salary and vacation pay through the termination
date.
- If Mr. Gordon's employment with us is terminated by us other than for
cause, death or disability before the second anniversary of the date
of the agreement, he is entitled to (a) all accrued salary and
vacation pay through the termination date, (b) continuation of his
base salary at the time of termination for 24 months, and (c)
continuation of his medical benefit coverage until the later of the
date he becomes entitled to medical benefits from another employer or
24 months, at his expense at the same rate that would have applied had
he remained an officer of our company.
- If Mr. Gordon's employment is terminated by us other than for cause,
death or disability on or after the second anniversary of the date of
the agreement, he is entitled to (a) all accrued salary and vacation
pay through the termination date, (b) continuation of his base salary
at the time of termination until the later of the fourth anniversary
of the date of the agreement or one year after the termination date,
and (c) continuation of his medical benefits until the later of the
date he becomes entitled to medical benefits from another employer or
the end of the period of his base salary continuation, at his expense
at the same rate that would have applied had he remained an officer of
our company.
Further, Mr. Gordon agrees not to solicit, directly or indirectly, any
of our employees or assist a competitor or other employer in taking such action
during his period of employment with us and for twelve months following
termination of his employment.
Mr. Friedman's Employment Arrangement
In connection with the hiring of Mr. Friedman as our new Chief
Executive Officer, we agreed upon the terms and conditions of his employment in
an offer letter dated March 15, 2001. Mr. Friedman's offer letter provides for
an initial annual salary of $400,000 and eligibility for annual bonus
compensation, targeted at 100% of his annual salary, with the amount actually
payable based on the level of achievement of performance goals mutually agreed
to by Mr. Friedman and our board of directors or our compensation committee. Mr.
Friedman is eligible for other benefits, including group health benefits,
participation in our 401(k) plan, a car allowance of $950 per month and extra
contribution to disability insurance coverage. In addition, as part of Mr.
Friedman's compensation package, we sold Mr. Friedman 571,429 shares of common
stock at $1.75
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per share and Mr. Friedman exercised his option to purchase 1.2 million shares
of common stock at $1.75 per share for an aggregate sales price of approximately
$3.1 million. Mr. Friedman also purchased 455 shares of the Series A preferred
stock and 545 shares of the Series B preferred stock for an aggregate purchase
price of $1.0 million in our Series A and B preferred stock financing which
occurred in connection with, and was in fact conditioned upon, the hiring of Mr.
Friedman as our new Chief Executive Officer. We also granted Mr. Friedman an
option to purchase 200,000 shares of our common stock at an exercise price of
$6.00 per share. In connection with the sale of preferred and common stock to
Mr. Friedman, we also made a loan to Mr. Friedman in the amount of $2.05
million. All of the loan proceeds were used by Mr. Friedman to purchase a
portion of this stock. The loan is a full recourse loan and secured by shares of
the common stock and preferred stock purchased by Mr. Friedman. Mr. Friedman's
employment is at will and may be terminated by either party at any time, with or
without cause, but is subject to the terms of the compensation and severance
agreement discussed below.
Mr. Friedman's Compensation and Severance Agreement
In order to retain the services of Mr. Friedman, we also entered into a
compensation and severance agreement with Mr. Friedman effective as of March 21,
2001, whereby we agreed to provide Mr. Friedman with a number of benefits should
his employment with us terminate.
- If Mr. Friedman's employment with us is terminated by us for cause, or
due to his disability, death or retirement, or by Mr. Friedman other
than for good reason, as specified in the agreement, he is entitled to
accrued salary and vacation pay through the termination date.
- If Mr. Friedman's employment with us terminates within 18 months of a
change of control of our company (other than as specified in the
preceding sentence), he is entitled to (a) all accrued salary and
vacation pay through the termination date, (b) a bonus pro-rated for
the year of termination, and (b) an amount in cash equal to three
times the sum of (i) his base salary at the time of termination and
(ii) a bonus amount equal to the greater of 100% of the last annual
incentive payment paid to Mr. Friedman prior to the termination date
and Mr. Friedman's incentive target bonus for the fiscal year in which
the change of control of our company occurs.
- If Mr. Friedman's employment with us is terminated before the second
anniversary of the date of the agreement and is terminated by us for
reasons other than for cause, or due to his disability, death or
retirement, or by Mr. Friedman for good reason, as specified in the
agreement, but not within 18-months after a change of control of our
company, he is entitled to (a) all accrued salary and vacation pay
through the termination date, (b) a bonus pro-rated for the year of
termination, (c) continuation of his base salary at the time of
termination for 24 months, (d) continuation of his medical benefit
coverage until the later of the date he becomes entitled to medical
benefits from another employer or 24 months, at his expense at the
same rate that would have applied had he remained an officer of our
company; and (e) acceleration
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of all his options so that the shares subject to the options are
immediately exercisable.
- If Mr. Friedman's employment with us terminates on or after the second
anniversary of the date of the agreement and is terminated by us for
reasons other than for cause, or due to his disability, death or
retirement, or by Mr. Friedman for good reason, as specified in the
agreement, but not within 18-months after a change of control of our
company, he is entitled to (a) all accrued salary and vacation pay
through the termination date, (b) a bonus pro-rated for the year of
termination, (c) continuation of his base salary at the time of
termination until the later of the fourth anniversary of the date of
the agreement or one year after the termination date, (d) continuation
of his medical benefits until the later of the date he becomes
entitled to medical benefits from another employer or the end of the
period of his base salary continuation, at his expense at the same
rate that would have applied had he remained an officer of our
company; and (e) acceleration of all his options so the shares subject
to the options are immediately exercisable and the lapsing of vesting
repurchase rights, in some cases to the extent that such options or
shares would have vested during the period of base salary continuation
had he remained employed with our company throughout such period.
Further, Mr. Friedman agrees not to (a) solicit, directly or indirectly,
any of our employees, or assist a competitor or other employer in taking such
action, and (b) work, directly or indirectly, for or make a significant
investment in a competitor during his period of employment with us and for
twelve months following his termination of employment or the second anniversary
of the date of change of control of our company, whichever comes first.
Mr. Friedman's offer letter, and compensation and severance agreement
were attached as exhibits to a report on our current report on Form 8-K filed
with the Securities and Exchange Commission on April 2, 2001. Please review such
filed Form 8-K for additional details of the offer letter and agreement.
Mr. Christopher's Separation Agreement and Release
In connection with Mr. Christopher's departure from the company, we
entered into a separation agreement and release with him, dated as of March 20,
2001. Mr. Christopher agreed to resign as our President, Chief Operating
Officer, Assistant Secretary and a member of our board of directors. Mr.
Christopher agreed to maintain his obligation to keep confidential our trade
secrets. We agreed to provide Mr. Christopher with (i) a cash payment of
$440,000 payable in installments, which is equal to two times his base salary;
such payment is subject to reduction if Mr. Christopher obtains other permanent
employment before the end of the payment period, (ii) continuation of his
medical benefit coverage until the later of the date he becomes entitled to
medical benefits from another employer or one year from the date of the
agreement, (iii) reimbursement of outplacement services expense, not to exceed
$25,000, (iv) acceleration of
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all his options such that the shares subject to the options are immediately
exercisable, and (v) modification of the terms of his promissory note payable to
us as detailed below in "Item 11 - Loans to Officers." The benefits provided to
Mr. Christopher pursuant to the agreement constituted full and complete
satisfaction of any and all amounts due and owing to him as a result of his
employment with us and/or the termination of that employment. Each party further
released the other from any and all future claims, suits and damages.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
At February 3, 2001, the members of the compensation committee of our
board of directors were Messrs. Hemmig and Payne and Ms. Rhoades. After our
fiscal year-end, Mr. Schwartz was appointed by the board as a member of our
board and was also appointed to the compensation committee, filling the vacancy
created by Ms. Rhoades' resignation from the board and all board committees.
None of the individuals on our compensation committee were officers or employees
of our company at any time during the fiscal year ended February 3, 2001 or at
any other time. None of our current executive officers served as members of the
board of directors or compensation committee of any other entity which has one
or more executive officers serving as a member of our board of directors or
compensation committee.
DIRECTOR COMPENSATION
Under the automatic option grant program in effect under our 1998 stock
incentive plan, each individual who first joins our board of directors as a
non-employee director will receive, at the time of his or her initial election
or appointment, an option to purchase 7,000 shares of our common stock, provided
such person has not previously been in our employment. In addition, on the date
of each annual stockholders meeting, each individual who continues to serve as a
non-employee director, whether or not such individual is standing for
re-election at that particular annual meeting, will be granted an option to
purchase additional 3,500 shares of our common stock, provided such individual
has not received an option grant under the automatic option grant program within
the preceding six months. Each grant under the automatic option grant program
will have an exercise price per share equal to the fair market value per share
of our common stock on the grant date, and will have a maximum term of 10 years,
subject to earlier termination should the optionee cease to serve as one of our
directors.
Each of Messrs. Ball, Camp, Hemmig and Payne and Ms. Rhoades received an
automatic option grant on June 16, 2000 for 3,500 shares of our common stock.
The exercise price per share in effect under each such option was $5.50, which
was the fair market value per share of our common stock on the grant date. Each
option granted under the automatic option grant program is immediately
exercisable for all the shares subject to the option, but any shares purchased
under the option grant will be subject to repurchase by us, at the exercise
price paid per share, upon the optionee's cessation of service as a director
prior to the full vesting of those shares. The 3,500 shares subject to each
annual automatic option grant shall vest, and our repurchase right shall lapse,
upon the completion of three years of continued service as a board member
measured from the option grant date.
Directors who are not employees of our company or one of our
subsidiaries receive an annual retainer fee of $5,000, payable in $1,250
increments at the end of each calendar quarter.
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In addition, for each board meeting attended in such year in excess of four
board meetings, each non-employee board member receives an additional fee of
$1,000, and for each committee meeting of our board of directors attended in a
calendar year in excess of two committee meetings, each non-employee board
member receives an additional fee of $500.
Under the director fee option grant program in effect under our 1998
stock incentive plan, each non-employee board member has the opportunity to
apply all or a portion of any annual $5,000 retainer fee otherwise payable in
cash to the acquisition of a below-market option grant. The option grant will
automatically be made on the first trading day in January in the year for which
the meeting fees would otherwise be payable in cash. The option will have an
exercise price per share equal to one-third of the fair market value of the
option shares on the grant date, and the number of shares subject to the option
will be determined by dividing the amount of the meeting fee applied to the
program by two-thirds of the fair market value per share of our common stock on
the grant date. The shares subject to the option will become exercisable in
twelve equal monthly installments over the calendar year in which the
below-market option grant was made. However, the shares subject to the option
will become immediately exercisable upon (i) specified changes in the ownership
or control of our company, or (ii) the death or disability of the optionee while
serving as a board member.
Each of Messrs. Ball, Camp, Hemmig and Payne and Ms. Rhoades received an
option grant under the director fee option grant program on January 2, 2001 for
5000 shares of our common stock. The exercise price per share in effect under
each such option was $0.32 or one-third of the fair market value per share of
our common stock on the grant date.
In the discretion of our board of directors, we may provide our
directors with additional compensation for their services as a director or a
member of a board committee. In January 2001, we provided additional
compensation to Mr. Ball for his additional duties associated with his position
as Chairman of our board's finance committee and such committee's active
involvement in our company's Series A and B preferred stock financing. The
additional compensation were in the forms of an option grant to purchase 30,000
additional shares of our common stock at $1.72 per share on February 5, 2001 and
an option grant to purchase 20,000 additional shares of our common stock at
$2.19 per share on March 21, 2001, both under the director fee option grant
program of our 1998 stock incentive plan, as well as a cash award of $20,000 per
month from January 29, 2001 until the end of March.
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REPORT OF THE COMPENSATION COMMITTEE ON EXECUTIVE COMPENSATION
The compensation committee report is not "soliciting material," is not
deemed "filed" with the Securities and Exchange Commission and is not
incorporated by reference in any of our company's filings under the Securities
Act of 1933, as amended, or the Securities and Exchange Act of 1934, as amended,
whether made before or after this filing and irrespective of any general
language to the contrary.
It is the duty of the compensation committee to review and determine the
salaries and bonuses of our executive officers, including the Chief Executive
Officer, and to establish the general compensation policies for such
individuals. Our committee also has the sole and exclusive authority to make
discretionary option grants to executive officers under our company's 1998 stock
incentive plan.
Our committee believes that the compensation programs for our executive
officers should reflect the company's performance and the value created for our
stockholders. In addition, the compensation programs should support the
short-term and long-term strategic goals of our company and goals and should
reward individual contribution to its success. Our company is engaged in a very
competitive industry, and its success depends upon its ability to attract and
retain qualified executives through the competitive compensation packages it
offers to such individuals.
General Compensation Policy
Our committee's policy is to provide our executive officers with
compensation opportunities which are based upon their personal performance, the
financial performance of our company and their contribution to that performance.
Our committee also strives to provide compensation opportunities which are
competitive with our industry to attract and retain highly skilled individuals.
Each executive officer's compensation package is comprised of three elements:
(i) base salary that is competitive within our industry and reflects individual
performance, (ii) annual variable performance awards payable in cash and tied to
our company's achievement of annual financial performance goals, and (iii)
long-term stock-based incentive awards designed to strengthen the mutuality of
interests between our executive officers and our stockholders. As an officer's
level of responsibility increases, a greater proportion of his or her total
compensation will depend upon our company's financial performance and stock
price appreciation rather than base salary.
Factors
The principal factors that were taken into account in establishing each
executive officer's compensation package for the fiscal year ended February 3,
2001 are described below. However, our committee may in its discretion apply
entirely different factors, such as different measures of financial performance,
for future fiscal years.
Base Salary
In setting base salaries, our committee periodically reviewed published
compensation survey data for the industry. The base salary for each of our
executive officers were guided by
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the salary levels for comparable positions in the industry, as well as the
individual's personal performance and internal alignment considerations. The
relative weight given to each factor varies with each individual in our sole
discretion. Each executive officer's base salary is adjusted each year on the
basis of (i) our evaluation of the executive officer's personal performance for
the year, and (ii) the competitive marketplace for persons in comparable
positions. The performance and profitability of our company may also be a factor
in determining the base salaries for our executive officers.
Annual Incentives
The annual incentive bonus for our executive officers is discretionary
in nature and is determined by our committee. No annual incentive bonuses were
paid for the fiscal year ended February 3, 2001.
Long Term Incentives
Generally, stock option grants are made annually by our committee to
each executive officer. Each grant is designed to align the interests of our
executive officers with those of our stockholders and provide each officer with
a significant incentive to manage our company from the perspective of an owner
with an equity stake in the business. Each grant allows the officer to acquire
shares of the common stock at the fair market value per share on the grant date
over a specified period of time not to exceed ten years. Shares subject to the
option grant becomes exercisable in a series of installments over a three-year
period, contingent upon the executive officer's continued employment with the
company. Accordingly, the option grant will provide a positive return to our
executive officer only if he or she remains employed by the company during the
vesting period, and then only if the market price of the shares appreciates over
the option term.
The size of the option grant to each executive officer, including the
Chief Executive Officer, is set by our committee at a level that is intended to
create a meaningful opportunity for stock ownership based upon the individual's
current position with our company, the individual's personal performance in
recent periods and his or her potential for future responsibility and promotion
over the option term. We also take into account the number of unvested options
held by the executive officer in order to maintain an appropriate level of
equity incentive for that individual. The relevant weight given to each of these
factors varies from individual to individual. We have established certain
guidelines with respect to the option grants made to our executive officers, but
have the flexibility to make adjustments to those guidelines in our discretion.
CEO Compensation
Our committee adjusted Mr. Gordon's base salary after the fiscal year
ended January 29, 2000 in recognition of his personal performance and with the
objective of maintaining his base salary at a competitive level as compared to
the base salary levels in effect for similarly-situated chief executive
officers. With respect to Mr. Gordon's base salary, it was our intent to provide
him with a level of stability and certainty each year and not have this
particular component of compensation affected to any significant degree by the
performance factors of our company. For
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the fiscal year ended February 3, 2001, Mr. Gordon's base salary was
approximately at the median of the base salary levels of other chief executive
officers of the surveyed companies.
Compliance with Internal Revenue Code Section 162(m)
Section 162(m) of the Internal Revenue Code, as amended, disallows a tax
deduction to publicly-held companies for compensation paid to certain of their
executive officers, to the extent that such compensation exceeds $1 million per
covered officer in any fiscal year. The limitation applies only to compensation
which is not considered to be performance-based. Non-performance based
compensation paid to our executive officers for the fiscal year ended February
3, 2001 did not exceed the $1 million limit per officer, and we do not
anticipate that the non-performance based compensation to be paid to our
executive officers for the fiscal year ending February 2, 2002 will exceed that
limit. Our company's 1998 stock incentive plan has been structured so that any
compensation deemed paid in connection with the exercise of option grants made
under that plan with an exercise price equal to the fair market value of the
option shares on the grant date will qualify as performance-based compensation
which will not be subject to the $1 million limitation. Because it is unlikely
that the cash compensation payable to any of our executive officers in the
foreseeable future will approach the $1 million limit, we have decided at this
time not to take any action to limit or restructure the elements of cash
compensation payable to our executive officers. We will reconsider this decision
should the individual cash compensation of any executive officer approach the $1
million limit.
It is the opinion of our committee that the executive compensation
policies and plans provide the necessary total remuneration program to properly
align the performance of our executive officers with the interests of our
stockholders through the use of competitive and equitable executive compensation
in a balanced and reasonable manner, for both the short and long-term.
Submitted by the compensation committee of the board of directors for
the fiscal year ended February 3, 2001:
Raymond C. Hemmig
Marshall B. Payne
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STOCK PERFORMANCE GRAPH
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The stock performance graph below is not "soliciting material," is not
deemed "filed" with the Securities and Exchange Commission and is not
incorporated by reference in any of our filing under the Securities Act of 1933,
as amended, or the Securities and Exchange Act of 1934, as amended, whether made
before or after this filing and irrespective of any general language to the
contrary.
[PERFORMANCE GRAPH]
(1) The graph covers the period from June 19, 1998, the commencement date of
our initial public offering of our common stock, to January 1, 2001.
(2) The graph assumes that $100 was invested in the company on June 19,
1998, in our common stock and in each index, and that all dividends, if
any, were reinvested. No cash dividends have been declared on our common
stock.
(3) Stockholder returns over the indicated period should not be considered
indicative of future stockholder returns.
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ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth information known to us with respect to
the beneficial ownership of each class of our voting securities as of April 20,
2001, by (i) all persons who are beneficial owners of 5% or more of each class
of our voting securities, (ii) each director, including former director, Ann
Rhoades, (iii) each Named Executive Officer and our new Chief Executive Officer,
and (iv) all directors and executive officers as a group, including our new
Chief Executive Officer. Unless otherwise indicated, each of the stockholders
has sole voting and investment power with respect to the shares beneficially
owned, subject to community property laws, where applicable. Unless otherwise
indicated, the principal address of each of the stockholders listed below is c/o
Restoration Hardware, Inc., 15 Koch Road, Suite J., Corte Madera, California
94925.
PERCENTAGE OF
SHARES OF EACH
CLASS OF
SHARES VOTING SECURITIES
BENEFICIALLY BENEFICIALLY
BENEFICIAL OWNER OWNED OWNED(1)
---------------- ------------ --------------
SERIES A PREFERRED STOCK
Palladin Capital IX, LLC 2,796 41.0%
Glenhill Capital LP 1,364 20.0%
Reservoir Capital Partners, L.P.(2) 1,364 20.0%
Mark J. Schwartz(3) 2,796 41.0%
Glenn J. Krevlin(4) 1,364 20.0%
Gary G. Friedman(5) 569 8.3%
All directors and executive officers
as a group (3 persons) 4,729 69.3%
COMMON STOCK
Stephen J. Gordon(6) 3,473,208 18.0%
Brown Capital Management, Inc. 2,542,700 13.4%
1201 N. Calvert Street
Baltimore, MD 21201
Gary G. Friedman(7) 2,055,929 10.6%
Weston Presidio Capital II LP 1,577,681 8.3%
One Federal Street, 21st Floor
Boston, MA 02181-2204
J.P. Morgan Partners SAIC LLC 1,430,030 7.5%
Palladin Capital IX, LLC(8) 1,398,000 6.8%
Mark J. Schwartz(9) 1,398,000 6.8%
E.W. Rose 1,263,858 6.6%
Desai Funds(10) 911,452 4.8%
Thomas Christopher(11) 735,784 3.9%
Glenhill Capital LP(12) 682,000 3.5%
Reservoir Capital Partners, L.P.(13) 682,000 3.5%
Glenn J. Krevlin(14) 682,000 3.5%
Marshall B. Payne(15) 572,036 3.0%
Raymond C. Hemmig(16) 233,897 1.2%
Robert B. Camp(17) 84,046 *
Walter J. Parks(18) 40,495 *
Cornelia S. Hunter(19) 33,163 *
Damon H. Ball(20) 31,361 *
Ann Rhoades(21) 8,439 *
All directors and executive officers
as a group (12 persons) 9,348,358 42.4%
- --------------------------------------------------------------------------------
* Less than one percent of our outstanding securities.
(1) Percentage of ownership is based on 19,033,723 shares of our common
stock and 6,820 shares of our Series A preferred stock outstanding as of
April 20, 2001. Shares of our common stock subject to stock options
which are currently exercisable or will become exercisable within 60
days of April 20, 2001 are deemed outstanding for computing the
percentage of the person or group holding such options, but are not
deemed outstanding for computing the percentage of any other person or
group. Shares of our Series A preferred stock which are convertible into
shares of our common stock on a 500-to-1 basis at any time at the
option of the holder are deemed outstanding for computing the percentage
of the person or group holding such securities, but are not deemed
outstanding for computing the percentage of any other person or group.
(2) Includes 3 shares of Series A preferred stock held by Reservoir Capital
Associates, L.P. and 196 shares of Series A preferred stock held by
Reservoir Capital Master Fund, L.P.
(3) Mr. Schwartz is the President and Chief Executive Officer of Palladin
Capital Group, Inc. which is an affiliate of Palladin Capital IX, LLC.
He disclaims beneficial ownership of the securities held by Palladin,
except to the extent of his pecuniary interest in Palladin.
(4) Mr. Krevlin is a General Partner at Glenhill Capital LP. He disclaims
beneficial ownership of the securities held by Glenhill, except to the
extent of his pecuniary interest in Glenhill.
(5) Includes 114 shares of Series A preferred stock held by Kendal A.
Friedman, the spouse of Mr. Friedman.
(6) Includes 305,900 shares of common stock subject to options exercisable
within 60 days of April 20, 2001 held by Mr. Gordon, 103,541 shares of
common stock held by the Christine B. Gordon 1998 Qualified Grantor
Retained Annuity Trust, of which Christine B. Gordon, the spouse of
Stephen J. Gordon, is the
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sole trustee, 30,505 shares held by the Christine B. Gordon Trust, of
which Christine B. Gordon is the sole trustee, and 103,541 shares held
by the Stephen J. Gordon 1998 Qualified Grantor Retained Annuity Trust,
of which Stephen J. Gordon is the sole trustee.
(7) Includes 569 shares of Series A preferred stock which are convertible
into shares of common stock on a 500-to-1 basis at any time at the
option of the holder.
(8) Includes 2,796 shares of Series A preferred stock which are convertible
into shares of common stock on a 500-to-1 basis at any time at the
option of the holder.
(9) Includes 2,796 shares of Series A preferred stock which are convertible
into shares of common stock on a 500-to-1 basis at any time at the
option of the holder. Mr. Schwartz disclaims beneficial ownership of the
securities held by Palladin, except to the extent of his pecuniary
interest in Palladin.
(10) Includes shares of common stock held by Equity Linked Investors II and
Private Equity Investors III, L.P.
(11) Includes 66,733 shares of common stock subject to options exercisable
within 60 days of April 20, 2001 held by Mr. Christopher, 98,189 shares
of common stock held by the Barbara Christopher 1997 Qualified Grantor
Retained Annuity Trust, of which Barbara Christopher, the spouse of
Thomas A. Christopher, is the sole trustee, 2,625 shares held directly
by Barbara Christopher and 98,189 shares of common stock held by the
Thomas A. Christopher 1997 Qualified Grantor Annuity Trust, of which
Thomas A. Christopher is the sole trustee.
(12) Includes 1364 shares of Series A preferred stock which are convertible
into shares of common stock on a 500-to-1 basis at any time at the
option of the holder.
(13) Includes 1364 shares of Series A preferred stock which are convertible
into shares of common stock on a 500-to-1 basis at any time at the
option of the holder.
(14) Includes 1364 shares of Series A preferred stock which are convertible
into shares of common stock on a 500-to-1 basis at any time at the
option of the holder. Mr. Krevlin disclaims beneficial ownership of the
securities held by Glenhill, except to the extent of his pecuniary
interest in Glenhill.
(15) Includes 54,861 shares of common stock subject to options exercisable
within 60 days of April 20, 2001 held by Mr. Payne.
(16) Includes 55,187 shares of common stock subject to options exercisable
within 60 days of April 20, 2001 held by Mr. Hemmig.
(17) Includes 55,187 shares of common stock subject to options exercisable
within 60 days of April 20, 2001 held by Mr. Camp.
(18) Includes 39,995 shares of common stock subject to options exercisable
within 60 days of April 20, 2001 held by Mr. Parks.
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(19) Includes 26,663 shares of common stock subject to options exercisable
within 60 days of April 20, 2001 held by Ms. Hunter.
(20) Includes 28,361 shares of common stock subject to options exercisable
within 60 days of April 20, 2001 held by Mr. Ball.
(21) Includes 3,439 shares of common stock subject to options exercisable
within 60 days of April 20, 2001 held by Ms. Rhoades.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Equity Investment Transactions
On March 22, 2001, we sold to several investors an aggregate of 6,820
shares of Series A preferred stock and 8,180 shares of Series B preferred stock,
each at $1,000 per share, pursuant to an amended and restated preferred stock
purchase agreement. In connection with the Series A and B preferred stock
financing, we received aggregate gross proceeds of approximately $15 million.
Listed below are our directors, executive officers, and stockholders who
beneficially own 5% or more of a class of our voting securities who participated
in this financing.
DIRECTORS, EXECUTIVE OFFICERS AND
5% STOCKHOLDERS SERIES A PREFERRED STOCK SERIES B PREFERRED STOCK
- -------------------------------------------------------------------------------------------------
Palladin Capital IX, LLC 2,796 3,354
Glenhill Capital LP 1,364 1,636
Reservoir Capital Partners, L.P. 1,364 1,636
Gary G. Friedman 455 545
Kendal A. Friedman 114 136
- -------------------------------------------------------------------------------------------------
Mr. Schwartz, who is a member of our board of directors, is the
President and Chief Executive Officer of Palladin Capital Group, Inc., which is
an affiliate of Palladin Capital IX, LLC. He disclaims beneficial ownership of
the securities held by Palladin, except to the extent of his pecuniary interest
in Palladin.
Mr. Krevlin, who is a member of our board of directors, is a General
Partner at Glenhill Capital LP. He disclaims beneficial ownership of the
securities held by Glenhill, except to the extent of his pecuniary interest in
Glenhill.
Reservoir Capital Partners, L.P. has 1,165 shares of Series A preferred
stock and 1,398 shares of Series B preferred stock. Reservoir Capital
Associates, L.P. has 3 shares of Series A preferred stock and 3 shares of
Series B preferred stock. Reservoir Capital Master Fund, L.P. has 196 shares of
Series A preferred stock and 235 shares of Series B preferred stock.
Kendal A. Friedman is the spouse of Mr. Friedman.
In connection with the Series A and B preferred stock financing, we also
hired Mr. Friedman as our new Chief Executive Officer and our board of directors
appointed Mr. Friedman as a director to our board. Mr. Friedman purchased 455
shares of the Series A preferred stock and 545 shares of the Series B preferred
stock for an aggregate purchase price of $1 million. In addition, as part of Mr.
Friedman's compensation package, we sold Mr. Friedman 571,429 shares of common
stock
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at $1.75 per share and Mr. Friedman exercised his option to purchase 1.2 million
shares of common stock at $1.75 per share for an aggregate sales price of
approximately $3.1 million. We also granted Mr. Friedman an option to purchase
200,000 shares of our common stock at an exercise price of $6.00 per share.
In connection with the Series A and B preferred stock financing, we also
granted each of the investors who purchased preferred stock in that financing,
as well as Mr. Friedman, certain registration rights pursuant to an amended and
restated investors rights agreement, dated as of March 21, 2001. Pursuant to
that agreement, the investors have the right to require us to register their
common stock issuable upon conversion of the Series A preferred stock as well
as, in the case of Mr. Friedman, common stock he purchased separately in
connection with the Series A and B preferred stock financing. At any time
beginning September 17, 2001, we may be required to file a registration
statement upon demand, provided particular threshold requirements are met. We
will not be required to file more than four such demand registrations, one of
which may be initiated exclusively by Palladin Capital IX, LLC and one of which
may be initiated exclusively by the group consisting of Reservoir Capital
Partners, L.P., Reservoir Capital Associates, L.P. and Reservoir Capital Master
Fund, L.P. The demand registrations are subject to underwriters' cutbacks. In
addition, we have granted the investors and Mr. Friedman unlimited "piggyback"
registration rights, subject to underwriters' cutbacks. Furthermore, the amended
and restated investor rights agreement requires us to effect registrations on
Form S-3 or its equivalent with respect to all registrable securities owned by
the investors and Mr. Friedman as would permit or facilitate the sale and
distribution of all their registrable securities on a delayed and continuous
basis, upon the later of (a) the time that the Form S-3 becomes available for
use by us and (b) 30 days following the filing with the Securities and Exchange
Commission of our Form 10-K for the fiscal year 2001. All registration expenses
associated with the demand registrations, Form S-3 registrations and "piggyback"
registrations, other than underwriters' and brokers' discounts and commissions,
shall be borne by us.
The amended and restated investor rights agreement further provides
that, to the extent and solely to the extent that parties to our restated
investors rights agreement, dated as of May 16, 1997, continue to possess
registration rights granted by us pursuant to the terms of Section 6 of that
agreement, then the investors under the amended and restated investor rights
agreement will have their registration rights subordinated to the registration
rights of parties to the earlier agreement.
In January 2001, we provided additional compensation to Mr. Ball for his
additional duties associated with his position as Chairman of our board's
finance committee and such committee's active involvement in our company's
Series A and B preferred stock financing. The additional compensation were in
the forms of an option grant to purchase 30,000 additional shares of our common
stock at $1.72 per share on February 5, 2001 and an option grant to purchase
20,000 additional shares of our common stock at $2.19 per share on March 21,
2001, both under the director fee option grant program of our 1998 stock
incentive plan, as well as a cash award of $20,000 per month from January 29,
2001 until the end of March.
Other Related Party Transactions
We lease our store at 417 Second Street, Eureka, California, from Mr.
and Mrs. Gordon and a partnership of which Mr. Gordon is a partner. Pursuant to
the written lease, we pay rent
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annually to Mr. and Mrs. Gordon and the partnership for use of the store. The
aggregate lease payments paid to Mr. and Mrs. Gordon and the partnership were
$65,657 for the fiscal year ended February 3, 2001.
Loans to Officers
In October 2000, we extended a loan to Mr. Christopher, who was at the
time, the President, Chief Operating Officer, Assistant Secretary and a director
of our company, in the amount of $150,000 at an interest rate of 8% per annum.
The principal plus interest on the loan were originally to become due on June
29, 2001. In connection with his departure from the company, we entered into a
separation agreement and release with Mr. Christopher. We agreed to extend the
maturity date of the loan and modify the repayment terms. In lieu of payment by
Mr. Christopher of the full loan amount and accrued interest on June 29, 2001,
Mr. Christopher shall pay us monthly installments of $25,000 beginning on June
29, 2001 until the loan amount and accrued interest are repaid in full. We have
the right to withhold any payment due to Mr. Christopher under his separation
agreement and release should he default on any monthly installment. In
connection with the loan to Mr. Christopher, we secured the loan with 150,000
shares of common stock owned by Mr. Christopher, and the loan, as modified,
remains secured by these shares of common stock.
In connection with the Series A and B preferred stock financing, Mr.
Friedman purchased 455 shares of the Series A preferred stock and 545 shares of
the Series B preferred stock for an aggregate purchase price of $1 million. We
also hired him as our new Chief Executive Officer. In addition, as part of Mr.
Friedman's compensation package, we sold Mr. Friedman 571,429 shares of common
stock at $1.75 per share and Mr. Friedman exercised his option to purchase 1.2
million shares of common stock at $1.75 per share for an aggregate sales price
of approximately $3.1 million. In connection with this sale of preferred and
common stock to Mr. Friedman, we also made a loan to Mr. Friedman in the amount
of $2.05 million. All of the loan proceeds were used by Mr. Friedman to purchase
a portion of this stock. The loan is a full recourse loan and is secured by
shares of the common stock and preferred stock purchased by Mr. Friedman. This
loan is evidenced by a note, dated March 22, 2001. Pursuant to the terms of the
note, the interest rate on the outstanding principal amount of the loan is 8.5%
per annum, payable on the first, second and third anniversaries of the date of
the note. The principal is due on March 22, 2004 but the due date may be
accelerated due to a number of factors, including, failure to make payments due
under the note, expiration of the six-months period following the date Mr.
Friedman ceases to be an employee of our company as a result of termination by
us for cause, or 90 days after the closing of an acquisition of our company.
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PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULE AND REPORTS ON FORM 8-K
(a)The following are filed as a part of this annual report on Form 10-K.
Consolidated Statements of Operations
Consolidated Balance Sheets
Consolidated Statements of Stockholders' Equity
Consolidated Statements of Cash Flows
(b)Exhibits.
The following exhibits to this annual report on Form 10-K are filed
pursuant to the requirements of Item 601 of Regulation S-K:
EXHIBIT NUMBER DOCUMENT DESCRIPTION
- -----------------------------------------------------------------------------------------
3.1 Amended and Restated Certificate of Incorporation(1)
3.2 Bylaws, as amended to date(2)
4.1 Reference is made to Exhibit 3.1
4.2 Reference is made to Exhibit 3.2
4.3 Specimen Common Stock Certificate(1)
4.4 Specimen Series A Preferred Stock Certificate(3)
4.5 Specimen Series B Preferred Stock Certificate(3)
4.6 Certificate of Designation of Series A and Series B Preferred Stock(3)
+10.1 Form of 1995 Stock Option Plan(1)
+10.2 Form of 1998 Stock Incentive Plan(1)
+10.3 Form of 1998 Employee Stock Purchase Plan(1)
10.4 Form of Indemnity Agreement for Officers and Directors(1)
10.5 Restated Investors Rights Agreement, dated May 16, 1997, among the Company, the
founders and Common Stock Warrantholders, Series D Warrantholders and Common
Stock holders and Investors(1)
10.6 Stock Purchase Agreement, dated March 20, 1998, between the Company and Michael
Vermillion(1)
10.7 Supply Agreement, dated March 20, 1998, between the Company, Michaels Concepts
in Wood, Inc. and Michael Vermillion(1)
10.8 Lease Agreement, dated may 4, 1994, between the Company and Stephen and
Christine Gordon(1)
10.9 Commercial lease and Deposit Receipt, dated October 18, 1994, and Addenda,
dated October 20, 1994 and November 21, 1994, between the Company and H. Koch
and Sons(1)
10.10 Office Lease, dated February 21, 1997, between the Company and Paradise Point
Partners(1)
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EXHIBIT NUMBER DOCUMENT DESCRIPTION
- ------------------------------------------------------------------------------------------------
10.11 Standard Industrial/Commercial Multi-Tenant Lease, dated May 12, 1997, between
the Company and Mortimer B. Zuckerman(1)
10.12 Fourth Amended and Restated Loan and Security Agreement, dated April, 1998(1)
10.13 Second Amendment to the Fourth Amended and Restated Loan and Security
Agreement, dated October, 1998(2)
10.14 Fifth Amended and Restated Loan and Security Agreement, dated February 2, 2000
10.15 First Amendment to the Fifth Amended and Restated Loan and Security Agreement,
dated March 31, 2000.
10.18 Amended and Restated Investors Rights Agreement, dated as of
March 21, 2001, between the Company and the Series A and B
Preferred Stock investors
10.19 Amended and Restated Series A and B Preferred Stock Purchase
Agreement dated as of March 21, 2001(3), between the Company and
the Series A and B Preferred Stock investors
10.20 Third Amendment to the Sixth Amended and Restated Loan and Security Agreement
date as of March 21, 2001(3)
10.30 Offer of Employment Letter for Mr. Friedman dated as of March 15, 2001(3)
10.31 Compensation and Severance Agreement between the Company and Gary G. Friedman,
effective as of March 21, 2001(3)
10.32 Stock Pledge Agreement between the Company and Mr. Friedman, dated as of
March 22, 2001(3)
10.33 Stock Purchase Agreement between the Company and Gary G. Friedman, dated as of
March 18, 2001(3)
10.34 Early Exercise Stock Purchase Agreement between the Company and Gary G.
Friedman, dated as of March 18, 2001(3)
10.35 Note Secured by Stock between the Company and Gary G. Friedman, dated as of
March 22, 2001(3)
10.36 Notice of Grant of Stock Option for Gary. G. Friedman(3)
10.37 Stock Option Agreement between the Company and Gary G. Friedman, dated as of
March 18, 2001(3)
*10.38 Separation Agreement and Release between the Company and Thomas Christopher,
dated as of March 20, 2001
*10.39 Amended and Restated Promissory Note between the Company and Thomas
Christopher, dated as of May 1, 2001
*10.40 Severance Agreement between the Company and Stephen J. Gordon, effective as
of March 21, 2001*
*21 List of Subsidiaries
*23.1 Consent of Independent Auditors
(1) Incorporated by reference to the exhibit with the same number filed with
the Company's Registration Statement on Form S-1 (File No. 333-51027)
filed on June 17, 1998.
(2) Incorporated by reference to the exhibit with the same number filed with
the Company's Quarterly Report on Form 10-Q for the quarterly period
ended October 31, 1998.
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(3) Incorporated by reference to the exhibit with the same number filed with
the Company's Report on Form 8-K (File No. 000-24261) filed on April 2,
2001.
+ Management contract, compensatory plan or arrangement.
* Filed herewith.
(c) Reports on Form 8-K.
The Company filed a Form 8-K on April 2, 2001.
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Act of 1934, the registrant has duly caused this annual report on Form 10-K to
be signed on its behalf by the undersigned, thereunto duly authorized, in the
City of Corte Madera, State of California on this 4 day of May, 2001.
RESTORATION HARDWARE, INC.
By: /s/ GARY G. FRIEDMAN
---------------------------------
Gary G. Friedman
Chief Executive Officer
(Principal Executive Officer)
Date: May 4, 2001
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, this report has been signed below by the following persons on behalf of
the Registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
- --------------------------------------- --------------------------------- ------------
/s/ STEPHEN J. GORDON Chairman May 4, 2001
- ---------------------------------------
Stephen J. Gordon
Chief Executive Officer May 4, 2001
/s/ GARY G. FRIEDMAN and Director
- ---------------------------------------
Gary G. Friedman
Executive Vice President, May 4, 2001
Chief Financial Officer,
Secretary and Chief
/s/ WALTER J. PARKS Administrative Officer
- ---------------------------------------
Walter J. Parks
/s/ DAMON H. BALL Director May 4, 2001
- ---------------------------------------
Damon H. Ball
/s/ ROBERT B. CAMP Director May 4, 2001
- ---------------------------------------
Robert B. Camp
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SIGNATURE TITLE DATE
- --------------------------------------- --------------------------------- ------------
/s/ RAYMOND C. HEMMIG Director May 4, 2001
- -----------------------------------
Raymond C. Hemmig
/s/ GLENN J. KREVLIN Director May 4, 2001
- -----------------------------------
Glenn J. Krevlin
Director May , 2001
- -----------------------------------
Marshall B. Payne
/s/ MARK J. SCHWARTZ Director May 4, 2001
- -----------------------------------
Mark J. Schwartz
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EXHIBIT INDEX
EXHIBIT NUMBER DOCUMENT DESCRIPTION
- -----------------------------------------------------------------------------------------
3.1 Amended and Restated Certificate of Incorporation(1)
3.2 Bylaws, as amended to date(2)
4.1 Reference is made to Exhibit 3.1
4.2 Reference is made to Exhibit 3.2
4.3 Specimen Common Stock Certificate(1)
4.4 Specimen Series A Preferred Stock Certificate(3)
4.5 Specimen Series B Preferred Stock Certificate(3)
4.6 Certificate of Designation of Series A and Series B Preferred Stock(3)
+10.1 Form of 1995 Stock Option Plan(1)
+10.2 Form of 1998 Stock Incentive Plan(1)
+10.3 Form of 1998 Employee Stock Purchase Plan(1)
10.4 Form of Indemnity Agreement for Officers and Directors(1)
10.5 Restated Investors Rights Agreement, dated May 16, 1997, among the Company, the
founders and Common Stock Warrantholders, Series D Warrantholders and Common
Stock holders and Investors(1)
10.6 Stock Purchase Agreement, dated March 20, 1998, between the Company and Michael
Vermillion(1)
10.7 Supply Agreement, dated March 20, 1998, between the Company, Michaels Concepts
in Wood, Inc. and Michael Vermillion(1)
10.8 Lease Agreement, dated may 4, 1994, between the Company and Stephen and
Christine Gordon(1)
10.9 Commercial lease and Deposit Receipt, dated October 18, 1994, and Addenda,
dated October 20, 1994 and November 21, 1994, between the Company and H. Koch
and Sons(1)
10.10 Office Lease, dated February 21, 1997, between the Company and Paradise Point
Partners(1)
10.11 Standard Industrial/Commercial Multi-Tenant Lease, dated May 12, 1997, between
the Company and Mortimer B. Zuckerman(1)
10.12 Fourth Amended and Restated Loan and Security Agreement, dated April, 1998(1)
10.13 Second Amendment to the Fourth Amended and Restated Loan and Security
Agreement, dated October, 1998(2)
10.14 Fifth Amended and Restated Loan and Security Agreement, dated February 2, 2000
10.15 First Amendment to the Fifth Amended and Restated Loan and Security Agreement,
dated ____
10.18 Amended and Restated Investors Rights Agreement, dated as of
March 21, 2001, between the Company and the Series A and B
Preferred Stock investors
10.19 Amended and Restated Series A and B Preferred Stock Purchase
Agreement dated as of March 21, 2001(3), between the Company and
the Series A and B Preferred Stock investors
10.20 Third Amendment to the Sixth Amended and Restated Loan and Security Agreement
date as of March 21, 2001(3)
10.30 Offer of Employment Letter for Mr. Friedman dated as of March 15, 2001(3)
10.31 Compensation and Severance Agreement between the Company and Gary G. Friedman,
effective as of March 21, 2001(3)
10.32 Stock Pledge Agreement between the Company and Mr. Friedman, dated as of
March 22, 2001(3)
10.33 Stock Purchase Agreement between the Company and Gary G. Friedman, dated as of
March 18, 2001(3)
10.34 Early Exercise Stock Purchase Agreement between the Company and Gary G.
Friedman, dated as of March 18, 2001(3)
10.35 Note Secured by Stock between the Company and Gary G. Friedman, dated as of
March 22, 2001(3)
10.36 Notice of Grant of Stock Option for Gary. G. Friedman(3)
10.37 Stock Option Agreement between the Company and Gary G. Friedman, dated as of
March 18, 2001(3)
*10.38 Separation Agreement and Release between the Company and Thomas Christopher,
dated as of March 20, 2001
*10.39 Amended and Restated Promissory Note between the Company and Thomas
Christopher, dated as of May 1, 2001
*10.40 Severance Agreement between the Company and Stephen J. Gordon, effective as
of March 21, 2001
*21 List of Subsidiaries
*23.1 Consent of Independent Auditors
(1) Incorporated by reference to the exhibit with the same number filed with
the Company's Registration Statement on Form S-1 (File No. 333-51027)
filed on June 17, 1998.
(2) Incorporated by reference to the exhibit with the same number filed with
the Company's Quarterly Report on Form 10-Q for the quarterly period
ended October 31, 1998.
(3) Incorporated by reference to the exhibit with the same number filed with
the Company's Report on Form 8-K (File No. 000-24261) filed on April 2,
2001.
+ Management contract, compensatory plan or arrangement.
* Filed herewith.