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United States
Securities and Exchange Commission
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Fiscal Year ended: December 31, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 (No Fee Required)
For the transition period from __________________ to ________________.
Commission File No. 0-24333
RAINBOW RENTALS, INC.
----------------------
(Exact name of Registrant as specified in its charter)
Ohio 34-1512520
- -------------------------------------- --------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3711 STARR CENTRE DRIVE
CANFIELD, OHIO 44406
----------------------------------------------------------
(Address of principal executive offices)
(Zip Code)
330-533-5363
----------------------
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
- ------------------- -----------------------------------------
None Not Applicable
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, No par Value
--------------------------
(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 such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
[X] Yes [ ] No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value of voting stock held by nonaffiliates of
the Registrant was approximately $26,157,938 at March 24, 2000. The number of
common shares outstanding at March 24, 2000 was 5,925,735.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant's definitive Proxy Statement to be mailed
to shareholders in connection with the registrant's 2000 Annual Meeting of
Shareholders are incorporated by reference into Part III, Items 10-13.
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RAINBOW RENTALS, INC.
INDEX
PART I
Item 1. Business 3
Item 2. Properties 9
Item 3. Legal Proceedings 10
Item 4. Submission of Matters to a Vote of Security Holders 10
Item 4a. Directors and Executive Officers 10
PART II
Item 5. Market for Registrant's Common Stock and Related Stockholder Matters 11
Item 6. Selected Financial Data 12
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 13
Item 8. Financial Statements and Supplementary Data 20
Item 9. Changes and Disagreements with Accountants on Accounting and Financial Disclosure 20
PART III
Item 10. Directors and Executive Officers of the Company 21
Item 11. Executive Compensation 21
Item 12. Security Ownership of Certain Beneficial Owners and Management 21
Item 13. Certain Relationships and Related Transactions 21
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K 21
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PART I
ITEM 1. BUSINESS
GENERAL
Founded in 1986 with six stores, the Company currently operates 95
rental-purchase stores under the Rainbow Rentals trade name in Connecticut,
Massachusetts, Michigan, New York, Ohio, Pennsylvania, Rhode Island, South
Carolina and Tennessee. The Company has opened 74 of its 95 current locations.
The Company offers quality, name brand, durable merchandise, including home
electronics, furniture, appliances and computers. Generally, rental-purchase
merchandise is rented to individuals under flexible agreements that allow
customers to own the merchandise after making a specified number of rental
payments (ranging from 12 to 24 months). Customers have the option to return
the merchandise at any time without further obligation and also have the option
to purchase the merchandise at any time during the rental term.
During 1999, the Company opened a total of nine new store locations in
South Carolina, Tennessee, New York and Connecticut. In addition, the Company
completed two acquisitions during 1999, which added 13 store locations in Ohio
and Pennsylvania. On February 1, 1999, the Company purchased from Rental Mart
of PA, Inc. ("Rental Mart") the assets of four stores located in Ohio and
Pennsylvania for approximately $1.3 million in cash. Rental Mart had annual
revenues of approximately $1.7 million in 1998. Immediately following the
acquisition, three of the acquired stores were consolidated into existing
Company locations. On March 1, 1999, the Company purchased from Blue Ribbon
Rentals, Inc. and Blue Ribbon Rentals II, Inc. ("Blue Ribbon") the assets of 15
stores located in Ohio and Pennsylvania for approximately $10.4 million in
cash. Blue Ribbon had annual revenues of approximately $10.1 million in 1998.
Following the acquisition, three of the acquired stores were consolidated into
existing Company locations.
INDUSTRY OVERVIEW
The rental-purchase industry provides an alternative to traditional
retail installment sales, appealing to individuals with poor or limited credit
histories and to individuals with an aversion to debt. Rental-purchase programs
permit customers to have immediate possession of products without the
assumption of debt. In addition, the industry serves customers having
short-term needs or seeking to try products, such as computers, before
committing to purchase them. Rental-purchase transactions generally include
delivery and pick-up service and a repair warranty for the rental term. Most
rental-purchase transactions are made on a week-to-week or month-to-month basis
and provide customers with the opportunity for outright ownership if the
merchandise is rented for a continuous term, generally 12 to 24 months.
Customers may cancel agreements at any time without further obligation by
returning the merchandise or requesting its pick-up by the store. Returned
merchandise is held for re-rental or sale. Rental renewal payments are
generally made in person, in cash, by check or money order, or by mail.
The Association of Progressive Rentals Organizations (APRO), the
industry's trade association, estimated that the rental-purchase industry
generated $4.7 billion in revenues and over 3.3 million customers were served
in 1998. Management believes that the majority of its customers are wage
earners with annual household income between $15,000 and $35,000. The U.S.
Census Bureau reported that in 1998 there were approximately 28.3 million
households with annual income between $15,000 and $35,000. The rental-purchase
industry has experienced significant consolidation during the last several
years, characterized by large multi-store chains acquiring smaller, highly
leveraged operators and, more recently, consolidation among the industries
largest operators. APRO estimates there were approximately 8,000 stores in
operation at December 31, 1998. Management believes the industry's three
largest public companies currently operate approximately 3,900 stores or 49% of
the total rental-purchase stores in operation.
Management believes the rental-purchase industry is under-penetrated
and is highly fragmented, providing growth opportunities for companies that are
well capitalized and have access to both debt and equity capital. Management
believes that as the number of large acquisition targets declines, the recent
trend of consolidation will subside, and as a result, industry growth will
predominantly occur through new store openings. As large consolidators begin
to concentrate on new store openings, management believes that in addition to
capitalizing on its established new store opening program, there will be
greater opportunities for the Company to make acquisitions.
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OPERATING STRATEGY
The Company's operating strategy is to maintain a high Average Monthly
Rental Rate (AMRR) on its agreements, a high number of rental purchase
agreements per store, and a high level of customer referrals and repeat
business, all accompanied by a low level of delinquencies. The Company seeks
to achieve these objectives by applying its "More, Better, Different"
philosophy to its customers and associates by utilizing the following operating
techniques.
Customer Service. Management believes the rental-purchase
industry is a neighborhood business built on the relationship between
the customer and store personnel. Beginning with the store manager and
ending with delivery personnel, the Company's customer service policy
is to treat all customers at all times with "Respect and Dignity".
Bilingual associates are employed in many stores to serve the needs of
Spanish-speaking customers and a toll free customer service hotline is
posted in every store to encourage customers to voice their concerns.
The Company strives to make the rental-process convenient by enabling
customers to initiate transactions over the phone or via the Internet,
and once the order is approved, take delivery of the merchandise
without coming into the store. In addition, the Company focuses on
customer convenience by locating stores on main arteries near national
discount retailers or grocery stores and by setting renewal payment
dates based on the customer's wage or other income schedule. By not
imposing many of the fees that are standard in the industry, the
Company enables its customers to afford higher quality merchandise
with additional features and benefits.
Quality Merchandise. The Company's merchandising strategy is
to offer its customers a wide range of new and pre-rented, quality,
name brand, and durable merchandise. Management recognizes that its
customers desire many of the higher end products found in the large
national electronic, appliance and furniture stores. Accordingly, the
Company provides its customers with items such as large screen
televisions, leather furniture and computers with nationally
recognized brand names and other popular features. This strategy has
enabled the Company to maintain a high AMRR. In addition, by
providing name brand and durable products that maintain their quality
throughout the rental period, the Company has maintained a high level
of repeat and referral business.
Store Environment. The Company believes it is essential that
its stores provide an appealing and attractive shopping environment
while conveying a sense of quality, safety and convenience. Company
stores are generally located on main arteries, near residential or
commercial areas and in strip shopping centers near national discount
retailers or grocery stores. The Company generally maintains a uniform
store size (4,500 square feet, on average), color scheme, store layout
and display signs. Stores are intended to provide an appealing retail
environment and are modeled to resemble a quality electronics and
furniture showroom.
Experienced Associates. The Company's operations and
profitability are largely dependent on the services of its store-level
personnel, senior management and executive officers (collectively, the
"associates"). The Company's regional managers and store managers have
extensive experience in the industry and have worked with the Company
for an average of approximately ten years and six years, respectively
(excluding managers from newly opened and acquired stores). The
Company's founding executive officers have worked in the
rental-purchase industry for an average of over 19 years and
co-founded the Company in 1986. The Company has been able to attract
and retain its quality associates through compensation and benefits
that meet or exceed industry averages and through various ongoing
proprietary training programs. Management believes its associate
development programs enhance the Company's operations by ensuring
conformity to established operating standards, reducing associate
turnover, enhancing associate productivity and improving associate
morale.
Decentralized Management. The Company's decentralized
management approach provides store managers with a significant degree
of autonomy and accountability, allowing them to operate their stores
much as owners of their own small business. Within guidelines set by
the Company, store managers are responsible for developing customer
relationships, managing customer service, maintaining appropriate
levels, quality and mix of merchandise inventory, meeting operational
standards and achieving store profitability benchmarks. Managers are
eligible for bonuses equal to as much as 60% of total compensation,
based on store operating income. The Company supports its
decentralized structure with strong
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management information systems, internal audit procedures, operating
guidelines and experienced associates.
GROWTH STRATEGY
The Company's growth strategy is to accelerate its new store opening
program, increase comparable store revenue and profitability and continue to
make opportunistic and operationally sound acquisitions.
New Store Openings. Beginning with six stores in 1986, the
Company has opened 74 of its current 95 store locations and has
developed a consistent, replicable model for opening new stores. The
Company believes the rental-purchase market is significantly
under-penetrated and provides substantial new store expansion
potential. The Company currently plans to continue opening new stores
in current and new markets within the Midwest, Mid-Atlantic and New
England states. The Company believes its model for opening new stores
has resulted in more predictable growth and greater operational
control than is typically achieved through acquisitions. Because the
Company's growth strategy emphasizes internal growth primarily through
new store openings, management believes the current state of the
industry presents an opportunity for the Company to capitalize on its
demonstrated ability to open new stores.
Increase Comparable Store Revenue and Profitability. The
Company continually strives to increase revenue per store by enhancing
individual store operations and offering a new and different product
selection. The Company has demonstrated an ability to recognize
increasing customer demand for products and to provide such products.
For example, the Company recognized its customers' desire for
computers and has developed an effective strategy to meet this demand.
Accordingly, the Company generates nearly 16% of its revenue from
computer rentals and sales. In addition, the Company is able to
achieve increased profitability by leveraging its stores' fixed costs
over the higher revenues generated by existing stores and by placing
new stores in existing markets.
Acquisitions. During the first quarter of 1999, the Company
was in a position to capitalize on the "opportunistic acquisition"
segment of its growth strategy. With the industry's two major
consolidators focusing their attention on recently completed
transactions, combined with the Company's high capital availability,
the Company acquired the assets of 19 rental-purchase stores from two
competitors in Ohio and Pennsylvania. While the majority of the
Company's growth is expected to come from opening new stores,
management believes it will have increased opportunities to augment
its growth through acquisitions of smaller chains overlooked by the
large consolidators.
STORES
Currently, the Company operates 95 stores in nine states, as set forth
in the following table.
LOCATION NUMBER OF STORES
-------- ----------------
Ohio. . . . . . . . . . . . . . . . . . . . . . . . . . . 26
Pennsylvania . . . . . . . . . . . . . . . . . . . . . . 23
Massachusetts . . . . . . . . . . . . . . . . . . . . . . 10
Connecticut . . . . . . . . . . . . . . . . . . . . . . . 8
Tennessee . . . . . . . . . . . . . . . . . . . . . . . . 8
Michigan. . . . . . . . . . . . . . . . . . . . . . . . . 7
New York . . . . . . . . . . . . . . . . . . . . . . . . 7
South Carolina . . . . . . . . . . . . . . . . . . . . . 4
Rhode Island . . . . . . . . . . . . . . . . . . . . . . 2
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The following table sets forth the number of stores opened, acquired
and consolidated or closed since the Company commenced operations in 1986.
Several stores have been enlarged or relocated.
YEAR ENDED DECEMBER 31,
--------------------------------------------------------------------------------------------- MARCH
1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000
---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Stores open at beginning
of period . . . . . 0 6 15 20 24 28 36 38 42 46 51 55 62 70 92
Stores opened. . . . . . 6 9 5 4 4 8 2 4 4 0 4 7 8 9 3
Stores acquired. . . . . 0 0 0 0 0 0 0 0 0 7* 0 0 1 13** 0
Stores
consolidated/closed. . . 0 0 0 0 0 0 0 0 0 2 0 0 1 0 0
- - - - - - - - - - - - - - -
Stores open at end of
period . . . . . . . . 6 15 20 24 28 36 38 42 46 51 55 62 70 92 95
= == == == == == == == == == == == == == ==
* The Company acquired ten stores and immediately consolidated three into
existing Company stores.
** The Company acquired nineteen stores and consolidated six into existing
Company stores.
The Company focuses on internal growth by opening new stores. In
investigating a new market, the Company reviews demographic statistics, cost of
advertising and the number and nature of competitors. In addition, the Company
investigates the regulatory environment of the state in which the new market
exists. It is the Company's policy to operate only in those states where there
is an absence of unfavorable legislation regarding rental-purchase
transactions.
The most critical step in the selection of a new store location is a
site inspection by senior management. Once the Company's senior management
selects a market for a new store, a senior manager investigates a number of
potential store locations. Many factors are reviewed prior to choosing a new
store location, including proximity to national discount retailers or grocery
stores, traffic patterns and proximity to the Company's other stores. The
Company's construction manager accompanies a senior manager to several of the
most promising store locations to evaluate the construction cost of a
particular location and to design the layout of the store. In 1999, the
Company began utilizing the services of real estate and leasing agents to
assist in the procurement process.
In order to enhance the early profitability of its new stores, the
Company employs a "new store" supervisor whose sole responsibility is to manage
and address issues inherent in new store operations. Generally, within two
years after a store is opened, the store formally joins its geographic region
and the regional manager of that particular geographic region assumes oversight
of the store.
MERCHANDISE
The Company's merchandising strategy is to carry a wide variety of
quality, name brand, durable merchandise in four major categories, including
home electronics, furniture, appliances and computers. Choices of merchandise
reflect the Company's belief that customers want to rent the same quality of
merchandise that is available from more traditional retailers, and that
customers are willing to pay for value and quality. In addition, by focusing on
its manufacturers' mid-point and better range products, the Company avoids
frequent service problems associated with inferior products. The Company
purchases merchandise directly from the manufacturers and through distributors
generally through volume price discounts.
For the year ended December 31, 1999, revenues generated under
rental-purchase agreements for home electronics accounted for approximately
33.4%, furniture accounted for 31.2%, appliances accounted for 19.8%, and
computers accounted for 15.6% of the Company's rental revenues. Customers may
request either new merchandise or previously rented merchandise. Previously
rented merchandise is typically offered at the same weekly or monthly rental
rate as is offered for new merchandise, but with an opportunity to obtain
ownership of the merchandise after fewer rental payments.
RETENTION, TRAINING AND EMPOWERMENT OF ASSOCIATES
Management believes a key to its success in retaining quality
associates is its policy of promoting all of its store managers from within.
Excluding managers retained from acquired stores, all current store managers
began their careers with the Company as account managers.
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The Company places great importance on training, both in terms of
initial training for potential managers and continued education of its current
management team. The Company has developed a formal training program that each
associate must successfully complete before becoming eligible for promotion to
store manager. The training program for potential managers is run by the
Company's Vice President of Operations and consists of a six to twelve month
program involving formal class training as well on-site store training. After
an associate becomes a store manager, the training continues. Managers'
meetings are conducted twice annually at a central location and all store
managers, regional managers, department heads and executive management of the
Company are required to attend. At such sessions, prior performance is
critiqued, operating procedures are reviewed and revised, new merchandise is
showcased and managers receive eight to 10 hours of classroom training in the
areas of financial management, product information, inventory management,
customer service, credit management and other areas of store operations. In
addition, the Company recently began holding training sessions for store
personnel below the level of manager in areas such as customer service,
collection techniques, sales training and safety.
The Company believes open communication with store level
management is essential to understanding existing markets, increasing associate
morale and retaining associates. In order to facilitate open lines of
communication, the Company has formed a network of committees, a majority of
whose members are store managers. The Company currently has three committees to
assist senior management in areas of pricing, product selection, advertising
and computer operations. In addition, one committee, comprised of top
performing managers, serves as a sounding board for new concepts and innovative
operational and sales techniques. The semi-annual managers' meetings and
regular visits by senior management with store associates at the individual
markets also keeps senior executives informed of regional-specific issues.
THE RENTAL PROCESS
MARKETING
The Company uses advertising (primarily direct mail) to introduce and
reinforce the benefits of its rental-purchase program to existing and potential
customers and to make such customers aware of new products. Substantially all
of the advertising is developed and produced by the Company's in-house
advertising department. The Company advertises in both English and Spanish,
making the Company's rental-purchase program and products accessible and
understandable to a wider range of customers. Most of the Company's
advertisements encourage customers to "shop by phone" and feature the Company's
toll-free telephone number. When the toll-free number is dialed, the call is
automatically routed to the Company store closest to the source of the call.
Each product displayed in the Company's direct mailing piece is numbered for
easy reference during telephone orders. Store managers and sales associates are
trained to explain the rental-purchase program clearly and to obtain orders
over the telephone. The Company initiates a majority of its rental-purchase
agreements over the telephone. Several direct marketing tools are also
employed to solicit the Company's existing customer base. The Company has
developed a preferred customer program, directed at current and past customers.
Under this program, special promotions, including significant discounts and new
product offerings, are periodically run for these customers to encourage
additional rentals.
APPROVAL PROCESS
The Company does not conduct a formal credit review. The Company's
order approval process is designed to verify a customer's stability in his or
her community and serves as a successful method of loss prevention. Since
merchandise is rented rather than purchased, the Company focuses on a
customer's credibility, not the customer's credit history. If a customer does
not pay promptly, the rental-purchase merchandise is simply returned or picked
up. The approval process is designed to take less than one hour. Merchandise
is generally delivered on the same day that the order is approved, which is
generally the same day the order is received.
THE RENTAL-PURCHASE AGREEMENT
Merchandise is provided to customers under written rental-purchase
agreements that set forth the terms and conditions of the transaction in a
straightforward and understandable manner. The Company has developed its own
agreements, which have been reviewed by legal counsel and meet the legal
requirements of the state in which they are used. The Company's flexible rental
program allows a customer to choose weekly, bi-weekly, semi-monthly, or monthly
rental periods with rent paid in advance. At the end of each rental period, the
customer can renew the
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agreement by making a renewal payment, terminate the agreement, or purchase the
merchandise for a price based upon a predetermined formula. If the customer
elects to terminate the agreement, the merchandise is returned to the store and
made available for rent to another customer. The Company retains title to the
merchandise during the term of the rental-purchase agreement. If the customer
renews the agreement for a specified number of rental periods, ownership is
transferred to the customer upon receipt of the last renewal payment.
CUSTOMER SERVICE AND MANAGEMENT
In addition to the enjoyment of quality products, customers are
afforded many services provided by well-trained and professionally attired
delivery and customer management personnel who treat customers with "Respect
and Dignity". The Company does not impose many of the fees standard in the
industry and provides additional service under the rental-purchase agreement at
no additional cost, including delivery and installation, product training,
maintenance to ensure the product continues to perform, and pick-up service to
return the merchandise if requested. By limiting the add-on fees charged, the
Company enables its customers to spend more of their rental renewal payment on
the merchandise. Rental income represented approximately 94% of the Company's
total revenue in 1999. In addition, customers are able to upgrade products,
reinstate a previously terminated agreement and are given free service for 90
days after they purchase the merchandise.
Management's philosophy is "customers will pay you because they want
to, not because they have to" and every renewal date offers the opportunity to
sell the customer on the benefits of maintaining a good account with the
Company. Management believes a thorough understanding by the customer of all
the terms of the rental agreement is the first step of successful customer
management. A large majority of all renewal payments are made timely without
the involvement of store personnel and renewal payments are generally made at
the store by cash, check or money order or by mail. Customer management
personnel are given extensive training to assist the customer in maintaining a
good account with the Company. Customer management begins the day after a
renewal payment was missed by contacting the customer by phone to ascertain if
there is any problem with the merchandise, to remind them of the Company's
appreciation for their patronage and to encourage the customer's continued use
of the product by renewing the agreement. If the initial telephone contact
does not lead to renewal or return of the merchandise, then the account manager
will make personal visits to the customer's home in an effort to renew the
agreement or pick-up the merchandise. In cases where the customer refuses to
return the merchandise, the Company uses various legal methods to recover the
merchandise.
MANAGEMENT INFORMATION SYSTEMS
The Company utilizes a flexible, proprietary, Windows NT -based
management information system to support its rental activities, to assist in
compliance with applicable laws and regulations and to monitor its
decentralized store network. This proprietary system was the industry's first
Windows-based system and is constantly upgraded and modified by the Company to
conform to operational changes and the Company's philosophy of customer
management. In addition, the Company has a company-wide Intranet allowing for
easy communication and fast and effective transfer of data between corporate
headquarters and stores.
The system provides store managers with all of the relevant
store-level financial and operating data as well as individual profiles on each
store's customers to assist in the marketing effort. Senior management has
immediate access to data on a daily basis that provides them with the ability
to analyze performance indicators on both a store, regional and corporate
level. Critical data, such as outstanding agreements, idle inventory, revenue,
delinquencies, cash receipts and deposits are available the following day. In
addition, regional managers have remote access to this data each morning by
utilizing the Company's Intranet. On a daily, weekly and monthly basis reports
are generated that provide information about products, margins, collection
performance and other operating and financial indicators to enable senior
management, regional managers and store managers to monitor the productivity of
stores. In addition, on a monthly basis, store results are compared to each
other and ranked on critical operating statistics and financial benchmarks.
These reports create a healthy competitive environment among store managers and
are the basis for annual awards given out at the Company's annual award
ceremony. Similar reports have recently been generated for customer management
personnel.
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The Company's system maintains all standard agreements, and all
agreements are printed off the system on an as-needed basis at each store. In
addition, where there is a change in state laws, the Company can make timely
modifications on its systems to the standard agreements in the various states.
COMPETITION
The Company competes with other national, regional and local
rental-purchase businesses, as well as rental stores that do not offer their
customers a purchase option. With respect to customers desiring to purchase
merchandise for cash or on credit, the Company competes with department stores,
consumer electronic stores and discount stores. Competition is based primarily
on product selection and availability, customer service and rental rates and
terms. The Company's three largest competitors, Rent-A-Center, Inc., Rent-Way,
Inc., and Aaron Rents, Inc., have significantly greater financial and operating
resources and name recognition than the Company.
PERSONNEL
As of March 31, 2000, the Company had approximately 850 associates,
including 535 full-time associates. Approximately 36 associates are located at
the Company's corporate headquarters in Canfield, Ohio. None of the Company's
associates is represented by a labor union. Management believes its relations
with its associates are good.
GOVERNMENT REGULATION
There are currently 46 states that have legislation regulating
rental-purchase transactions. The Company currently operates its stores in
states that have enacted laws specifically regulating rental-purchase
transactions. The Company's policy is to operate only in states where there is
an absence of unfavorable legislation regarding rental-purchase transactions.
There can be no assurance against the enactment of new or revised
rental-purchase laws that would have a material adverse effect on the Company.
No federal legislation has been enacted regulating or otherwise governing
rental-purchase transactions. The Company instructs its managers in procedures
required by applicable law through training seminars and policy manuals and
believes that it has operated in compliance with the requirements of applicable
law in all material respects. In addition, the Company provides its customers
with a toll-free number to telephone corporate headquarters to report any
irregularities in service or misconduct by its associates.
SERVICE MARKS
The Company owns the federally registered service mark "Rainbow
Rentals." The Company believes that the Rainbow Rentals mark has acquired
significant market recognition and goodwill in the communities in which its
stores are located.
ITEM 2. PROPERTIES
The Company leases all of its stores under operating leases that
expire at various times through 2006. Store leases generally provide for fixed
monthly rental payments, plus payment for real estate taxes, insurance and
common area maintenance. Most of these leases contain renewal options for
additional periods ranging from three to five years at rates generally adjusted
for increases in the cost of living. There is no assurance the Company can
renew the leases that do not contain renewal options, or if it can renew them,
that the terms will be favorable to the Company. Store sizes range from
approximately 3,000 to 7,000 square feet, and average approximately 4,500
square feet. Management believes suitable store space is generally available
for lease and the Company would be able to relocate any of its stores without
significant difficulty should it be unable or unwilling to renew a particular
lease. Management also believes additional store space is available to meet
the requirements of its new store opening program. The Company leases its
corporate office located at 3711 Starr Centre Drive, Canfield, Ohio from a
corporation owned by three of its executive officers (See "Related Party
Transactions"). The corporate office consists of approximately 10,000 square
feet and is leased through January 31, 2006. In 1999, the rental amount was
$113,000. The Company believes the rental is at market rate and the other
provisions of the lease are on terms no less favorable to the Company than
could be obtained from unrelated parties.
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ITEM 3. LEGAL PROCEEDINGS
The Company is also subject to various legal proceedings and claims
that arise in the ordinary course of business. The Company believes the amount
of any ultimate liability with respect to these actions will not have a
material adverse effect on the Company's liquidity or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 4a. DIRECTORS AND EXECUTIVE OFFICERS
The executive officers and directors of the Company and their ages as
of March 31, 2000 are as follows:
NAME AGE POSITION
---- --- --------
Wayland J. Russell 48 Chairman of the Board of Directors and
Chief Executive Officer
Lawrence S. Hendricks 42 Chief Operating Officer and Director
Michael J. Viveiros 44 President and Director
Michael A. Pecchia 39 Chief Financial Officer and Secretary
Brian L. Burton 59 Director
Ivan J. Winfield 65 Director
WAYLAND J. RUSSELL, Chairman of the Board and Chief Executive Officer
since February 1997, having previously served as the Company's President since
its inception in 1986. Mr. Russell has served as a director of the Company
since its inception in 1986.
LAWRENCE S. HENDRICKS, Chief Operating Officer since February 1997,
having previously served as Vice President for Store Operations since the
Company's inception in 1986. Mr. Hendricks has served as a director of the
Company since its inception in 1986.
MICHAEL J. VIVEIROS, President since February 1997, having previously
served as Vice President since the Company's inception in 1986. Mr. Viveiros
has served as a director of the Company since its inception in 1986.
MICHAEL A. PECCHIA, Chief Financial Officer of the Company since
February 1997, having previously served as the Company's Controller from 1991
to 1996 and Treasurer and Secretary since 1991. Mr. Pecchia also served as a
director of the Company from February 1997 to June 1998.
BRIAN L. BURTON, President of Vertical Merchandising Systems, a
division of Wesco, Inc., a distributor of impulse merchandising systems to
supermarkets, for over five years. Mr. Burton has served as a director of the
Company since June 1998. From 1987 to 1991, Mr. Burton was a private retail
consultant.
IVAN J. WINFIELD, Associate Professor at Baldwin-Wallace College,
Cleveland, Ohio, and business consultant since September 1995. Prior thereto,
Mr. Winfield was a Managing Partner of Coopers & Lybrand from 1978 to 1994. He
is a director of Boykin Lodging Co., HMI Industries, Inc. and OfficeMax, Inc.
Mr. Winfield has served as a director of the Company since June 1998.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
The Company's common shares trade on the National Market of the Nasdaq
Stock Market, Inc. under the symbol "RBOW". The following table shows the
high and low closing sale prices of the common shares since the common shares
began trading publicly on June 5, 1998, as reported through December 31, 1999.
The price to the public in the initial public offering was $10.00 per share.
1999 1998
------------------------ -----------------------
HIGH LOW HIGH LOW
---- --- ---- ---
Quarter end March 31st 12.375 9.750 N/A N/A
Quarter end June 30th 13.500 9.625 10.625(1) 10.063(1)
Quarter end September 30th 11.375 9.000 10.875 9.125
Quarter end December 31st 9.500 7.188 10.375 8.750
As of March 24, 2000, the Company believed there were approximately
300 beneficial owners of the Company's common shares.
(1) From June 5, 1998.
DIVIDEND POLICY
The Company has never paid cash dividends on its shares of common
stock. The Company currently intends to retain all earnings from its operations
to finance the growth and development of its business and, consequently, does
not expect to pay dividends on its shares of common stock in the foreseeable
future. The payment of future dividends will be at the sole discretion of the
Company's Board of Directors and will depend on, among other things, future
earnings, capital requirements, the general financial condition of the Company
and general business conditions. In addition, the payment of dividends by the
Company is limited by certain covenants in the Company's Credit Facility. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources."
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ITEM 6. SELECTED FINANCIAL DATA
The selected financial data presented below under the captions
"Statement of Income Data" and "Balance Sheet Data" for, and as of the end of,
each of the years in the five-year period ended December 31, 1999, are derived
from the consolidated financial statements of the Company. The data presented
below should be read in conjunction with Management's Discussion and Analysis
of Financial Condition and Results of Operations, and the Consolidated
Financial Statements and the related notes thereto included elsewhere in this
annual report.
YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------------
1999 1998 1997 1996 1995
---------- ---------- ---------- ---------- ----------
(DOLLARS IN THOUSANDS, EXCEPT
SHARE AMOUNTS, PER SHARE AMOUNTS AND OPERATING DATA)
STATEMENT OF INCOME DATA:
Revenues
Rental revenue $ 75,932 $ 59,932 $ 52,153 $ 43,815 $ 39,721
Fees 2,639 1,959 1,588 1,284 1,151
Merchandise sales 2,287 1,588 1,587 1,461 1,687
---------- ---------- ---------- ---------- ----------
Total revenues 80,858 63,479 55,328 46,560 42,559
Operating expenses
Merchandise costs 26,758 21,765 19,145 17,003 16,235
Store expenses
Salaries and related 18,374 13,943 11,809 9,655 9,136
Occupancy 6,027 4,671 4,068 3,416 3,092
Advertising 3,662 3,500 3,283 2,837 2,576
Other expenses 10,310 7,686 6,127 5,437 4,746
---------- ---------- ---------- ---------- ----------
Total store expenses 38,373 29,800 25,287 21,345 19,550
---------- ---------- ---------- ---------- ----------
Total merchandise costs and
store expenses 65,131 51,565 44,432 38,348 35,785
General and administrative expenses 5,585 4,607 4,096 3,934 3,216
Amortization 456 33 - - -
---------- ---------- ---------- ---------- ----------
Total operating expenses 71,172 56,205 48,528 42,282 39,001
---------- ---------- ---------- ---------- ----------
Operating income 9,686 7,274 6,800 4,278 3,558
Interest expense 697 918 1,822 834 898
Other expense, net 361 76 329 453 183
---------- ---------- ---------- ---------- ----------
Income before income taxes 8,628 6,280 4,649 2,991 2,477
Income taxes 3,580 2,662 1,968 972 1,253
---------- ---------- ---------- ---------- ----------
Net income $ 5,048 $ 3,618 $ 2,681 $ 2,019 $ 1,224
========== ========== ========== ========== ==========
Basic and diluted earnings per common
share $ 0.85 $ 0.73 $ 0.59 $ 0.32 $ 0.19
========== ========== ========== ========== ==========
Weighted average common shares
outstanding:
Basic 5,925,735 4,970,256 4,509,406 6,392,610 6,392,610
Diluted 5,930,887 4,970,256 4,509,406 6,392,610 6,392,610
OPERATING DATA:
Stores open at end of period 92 70 62 55 51
Comparable store revenue growth (1) 4.4% 3.8% 9.9% 2.0% 8.0%
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YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------------
1999 1998 1997 1996 1995
---------- ---------- ---------- ---------- ----------
(DOLLARS IN THOUSANDS)
BALANCE SHEET DATA:
Rental-purchase merchandise, net $33,042 $25,246 $23,411 $19,740 $15,676
Total assets 50,324 33,068 31,293 25,401 20,932
Total debt 10,522 190 (3) 23,203 (2) 9,850 8,651
Total liabilities 18,438 6,230 (3) 28,240 (2) 13,934 11,484
Shareholders' equity 31,886 26,838 (3) 3,053 (2) 11,467 9,448
(1) Comparable store revenue growth is the percentage increase in revenue from
the same number of stores over a two year period. Only stores that have
been open 12 months in both periods are included in the comparison.
(2) Includes the effect of the redemption of shares from a prior
shareholder-officer.
(3) Includes the effect of the Company's initial public offering and subsequent
elimination of debt.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion is intended to assist in the understanding of
the Company's financial position and results of operations for the years ended
December 31, 1999, 1998 and 1997. This discussion should be read in
conjunction with the Company's consolidated financial statements and notes
thereto included herein.
GENERAL
At December 31, 1999, the Company operated 92 rental-purchase stores
in nine states. During 1999, the Company's growth was primarily the result of
acquisitions completed during the first quarter. In transactions completed on
February 1, 1999 and March 1, 1999, the Company acquired a total of 19 stores,
primarily in existing markets, six of which were subsequently consolidated into
existing locations. In addition, the Company opened nine new stores bringing
the total number of stores added during 1999 to 22, which represents an
increase in storefronts of 31.4%. Of the stores opened in 1999, eight were in
new markets, including four in South Carolina, the Company's most recently
expanded state.
On February 1, 1999, the Company purchased from Rental Mart of PA,
Inc. ("Rental Mart") the assets of four stores located in Ohio and Pennsylvania
for approximately $1.3 million in cash. Rental Mart had annual revenues of
approximately $1.7 million in 1998. Following the acquisition, three of the
stores were consolidated into existing Company locations and the remaining
store was eventually consolidated into one of the newly acquired Blue Ribbon
locations. The excess of the acquisition costs over the estimated fair market
value of net assets acquired ("goodwill of $0.8 million) is being amortized on
a straight-line basis over twenty years.
On March 1, 1999, the Company purchased from Blue Ribbon Rentals, Inc.
and Blue Ribbon Rentals II, Inc. ("Blue Ribbon") the assets of 15 stores
located in Ohio and Pennsylvania for approximately $10.4 million in cash. Blue
Ribbon had annual revenues of approximately $10.1 million in 1998. Following
the acquisition, three of the stores were consolidated into existing and new
Company locations. The excess of the acquisition costs over the estimated fair
market value of net assets acquired ("goodwill of $6.9 million) is being
amortized on a straight-line basis over twenty years.
COMPONENTS OF INCOME AND EXPENSES
Revenues. The Company collects rental renewal payments in advance,
generally on a weekly or monthly basis. Rental revenue is recognized when
collected. Fees include amounts for reinstatement of expired agreements and
amounts for in-home collection. Fees are recognized when collected.
Rental-purchase agreements generally include an early purchase option.
Merchandise sales include amounts received upon sales of merchandise pursuant
to such options and upon the sale of previously rented merchandise. These
amounts are recognized as revenue when the merchandise is sold.
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Merchandise Costs. Merchandise costs include depreciation of
rental-purchase merchandise under the units of activity depreciation method.
Rental-purchase merchandise is depreciated as revenue is collected.
Rental-purchase merchandise is not depreciated during periods when it is not on
rent and therefore not generating rental revenue. Merchandise costs also
include the remaining book value of merchandise sold or otherwise disposed, the
cost of replacement parts and accessories and other miscellaneous merchandise
costs.
Salaries and Related. Salaries and related includes all salaries and
wages paid to store level associates, related benefits, taxes and workers'
compensation premiums.
Occupancy. Occupancy includes rent, repairs and maintenance of the
physical store locations, utility costs and depreciation of store leasehold
improvement. The Company has no leases that include percentage rent
provisions.
Advertising. Advertising includes print media, radio and television
costs as well as the expenses (including payroll) of the Company's internal
advertising department.
Other Expenses. Other expenses include delivery expenses, insurance,
costs associated with maintaining rental-purchase merchandise, telephone
expenses, store computer and office expenses and personal property taxes, among
other items.
General and Administrative Expenses. General and administrative
expenses include all personnel, occupancy and other operating expenses
associated with maintaining the Company's corporate-level departments. In
addition, all costs associated with the Company's annual and semi-annual
manager meetings and committee meetings, as well as charitable contributions
and state taxes not based on income, are included.
For several years, the Company has made significant contributions to
charitable organizations, including organizations for which directors and
officers serve or have served as trustees or officers. The aggregate amount of
charitable contributions was approximately $355,000, $230,000 and $208,000 in
1999, 1998, and 1997, respectively. For subsequent years, the Board of
Directors has determined to limit charitable contributions to an amount not to
exceed 10% of the prior year's net income. The amount of contributions for 2000
will be approximately $500,000.
Amortization. Amortization includes the amortization of goodwill and
non-compete agreements related to acquisitions.
Income Tax Expense. Income tax expense includes the combined effect
of all federal, state and local income taxes imposed upon the Company by
various taxing jurisdictions.
NEW STORE OPENINGS
The Company's primary method of growth is through the opening of new
store locations. New store openings are dilutive to earnings for the first
nine to twelve months as they build a customer base and develop a recurring
revenue stream. Generally, new stores have a maturation period of
approximately three years. The timing of new store openings and the number of
stores in various stages of the three year maturation process will have an
effect on quarterly and annual comparisons.
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RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, certain
Statements of Income data as a percentage of total revenues.
YEAR ENDED DECEMBER 31,
-----------------------
1999 1998 1997
---- ---- ----
STATEMENT OF INCOME DATA:
Revenues
Rental revenue . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 93.9 % 94.4 % 94.3 %
Fees. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3.3 3.1 2.9
Merchandise sales. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2.8 2.5 2.8
----- ----- -----
Total revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 100.0 100.0 100.0
Operating expenses
Merchandise costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33.1 34.3 34.6
Store expenses
Salaries and related. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22.7 21.9 21.3
Occupancy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7.5 7.4 7.4
Advertising. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4.5 5.5 5.9
Other expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12.7 12.1 11.1
----- ----- -----
Total store expenses. . . . . . . . . . . . . . . . . . . . . . . . . . . . 47.4 46.9 45.7
----- ----- -----
Total merchandise costs and store expenses. . . . . . . . . . . . . . . . 80.5 81.2 80.3
General and administrative expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . 6.9 7.2 7.4
Amortization. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 0.6 0.1 0.0
----- ----- -----
Total operating expenses . . . . . . . . . . . . . . . . . . . . . . . . . 88.0 88.5 87.7
----- ----- -----
Operating income. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12.0 11.5 12.3
Interest expense. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 0.9 1.4 3.3
Other expense, net. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 0.4 0.2 0.6
----- ----- -----
Income before income taxes. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10.7 9.9 8.4
Income taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4.5 4.2 3.6
----- ----- -----
Net income. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6.2 % 5.7 % 4.8 %
===== ===== =====
COMPARISON OF YEARS ENDED DECEMBER 31, 1999 AND 1998
For the year ended December 31, 1999, total revenues increased to
$80.9 million from $63.5 million, an increase of 27.4% over the prior year.
Revenue from the 13 stores acquired in 1999, and from one store acquired in
August 1998 accounted for 51.3% of the Company's total increase in revenue or
$8.9 million. Revenue from the stores acquired in 1999 grew as a result of the
Company's successful introduction of its products and services to the newly
acquired customer base resulting in a 23% increase in the average monthly
rental rate from approximately $57.00 to $70.00 by the end of the year. The
Company's new store expansion program accounted for 33.2% of the total increase
in revenue, or $5.8 million, including $4.5 million from stores opened in 1998
and $1.3 million from stores opened during 1999. The increase in revenue from
new stores is primarily a result of an increase in customers and the inclusion
of a full year's results for stores opened in 1998. Revenue from comparable
stores or stores opened or acquired prior to 1998 increased 4.4% primarily as a
result of the growth of stores opened in 1997 and an increase in revenue
collected per unit.
For the year ended December 31, 1999, merchandise costs increased to
$26.8 million from $21.8 million, an increase of 22.9% over the prior year, but
decreased to 33.1% from 34.3% of total revenues. The increase in costs was
primarily due to merchandise costs associated with stores opened and acquired
in 1999 and 1998. The improvement in gross margins was primarily due to
improved pricing, primarily of pre-rented merchandise, as well as an increase
in the rentals of higher-margin products.
For the year ended December 31, 1999, total store expenses increased
to $38.4 million from $29.8 million, an increase of 28.8% over the prior year,
and as a percentage of total revenues increased to 47.4% from 46.9%. The
increase in total store expenses was primarily due to expenses associated with
the 22 stores opened and acquired in 1999 and the inclusion of a full year's
results for the nine stores added in 1998. This increase accounted for 86.0%
of the total increase in store expenses, or $7.4 million. Expenses of the 13
stores acquired in 1999 stated as a
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percentage of revenue were higher than the Company's existing store base and
expenses of stores opened during 1999 exceeded revenue resulting in the
increase of store expenses as a percentage of revenue from 46.9% to 47.4%.
Comparable store expenses increased in proportion to the increase in revenue
and were driven by the growth of stores opened in 1997. Salaries and related
expenses increased as a percentage of revenue primarily due to new stores added
in 1999 and 1998 and, to a lesser degree, from higher staffing costs associated
with higher turnover in comparable stores during 1999. Advertising expenses
decreased significantly as a percentage of revenue to 4.5% from 5.5%, due to
management's efforts to reduce advertising costs, an increase in promotional
funds received from major suppliers under cooperative advertising agreements,
and the opening and acquisition of stores in existing markets allowing
advertising costs to be spread over a higher revenue base. Other expenses
increased as a percentage of revenue primarily due to new stores added in 1999
and 1998, and to a lesser degree increases in insurance and delivery costs of
comparable stores.
For the year ended December 31, 1999, general and administrative
expenses increased to $5.6 million from $4.6 million, an increase of 21.2% over
the prior year. The increase was primarily due to the addition of two regional
managers and an increase in legal and professional fees. As a percentage of
total revenues, general and administrative expenses decreased to 6.9% from 7.2%
due to the Company's continued ability to add stores and increase revenues
without a corresponding increase in corporate overhead.
For the year ended December 31, 1999, amortization of goodwill and
non-compete agreements relating to stores acquired in 1999 and 1998 increased
to $456,000 from $33,000 in the prior year. The increase was due to
amortization associated with the acquisitions in 1999 and a full year of
amortization relating to acquisitions made in 1998.
For the year ended December 31, 1999, operating income increased to
$9.7 million from $7.3 million, an increase of 33.2% over the prior year. This
increase is attributed to the growth and profitability of the stores opened in
1998, the acquisition of 13 stores during 1999, and an increase in comparable
store operating income due primarily to the growth of stores opened in 1997.
This increase in store level operating income was offset partially by losses
from new stores opened in 1999, increases in corporate overhead associated with
the Company's growth and higher goodwill amortization associated with the 1999
acquisitions. As a percentage of revenue, operating income increased to 12.0%
from 11.5% as a result of improved store level margins due to improved gross
margins of rental-merchandise, the growth of stores opened in 1998 and 1997,
and lower general and administrative expenses as a percentage of total revenue.
For the year ended December 31, 1999, interest expense decreased to
$0.7 million from $0.9 million, a decrease of 26.0% from the prior year. The
decrease is attributable to the retirement of substantially all outstanding
debt from the proceeds received from the Company's initial public offering in
June, 1998, offset by interest expense attributable to the indebtedness related
to the acquisitions completed in the first quarter of 1999.
For the year ended December 31, 1999, other expense, net increased to
$0.4 million from $0.1 million in the prior year. Other expense, net consists
mainly of amortization expense associated with the shareholder buyout during
1997. For 1998, other expense, net also includes a one-time refund of workers'
compensation premiums of $0.2 million received from the State of Ohio.
For the year ended December 31, 1999, the Company's effective tax rate
decreased to 41.5% from 42.4% for the prior year due to lower effective state
tax rates.
For the year ended December 31, 1999, net income increased to $5.0
million from $3.6 million, an increase of 39.5% over the prior year, and as a
percentage of total revenues increased to 6.2% from 5.7% due to the factors
discussed above.
COMPARISON OF YEARS ENDED DECEMBER 31, 1998 AND 1997
For the year ended December 31, 1998, total revenues increased to
$63.5 million from $55.3 million, an increase of 14.7% over the prior year. The
increase was due to the inclusion of a full year's results for stores opened in
1997, revenue from the nine stores opened and acquired in 1998 and an increase
in comparable store revenue. The increase in revenue of stores opened in 1997
accounted for $3.7 million, or 45.3% of the increase, newly opened and
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acquired stores accounted for $2.5 million or 29.8% of the increase, and the
increase in comparable store revenue accounted for $2.0 million or 24.9% of the
increase.
For the year ended December 31, 1998, merchandise costs increased to
$21.8 million from $19.1 million, an increase of 13.7% over the prior year, but
decreased to 34.3% from 34.6% of total revenues due to an increase in rental
rates and a shift in the Company's product mix towards lower cost and higher
margin products.
For the year ended December 31, 1998, total store expenses increased
to $29.8 million from $25.3 million, an increase of 17.8% over the prior year,
and as a percentage of total revenues increased to 46.9% from 45.7%. The
increase was due to expenses associated with stores opened and acquired in
1998, the inclusion of a full year of expenses from the stores opened in 1997,
and an increase in comparable store expenses necessitated by the increase in
rental-purchase agreements in 1997. Salaries and related increased to $13.9
million from $11.8 million, an increase of 18.1% over the prior year and as a
percentage of total revenues increased to 21.9% from 21.3%. The increase was
due to additional personnel associated with stores opened and acquired in 1998,
additional personnel at comparable stores necessitated by the increase in
rental-purchase agreements in 1997 and the inclusion of a full year of salaries
and related expenses from stores opened in 1997. Occupancy increased to $4.7
million from $4.1 million, an increase of 14.8% over the prior year due to
stores opened and acquired in 1998 and the inclusion of a full year of
occupancy expenses from stores opened in 1997. As a percentage of total
revenues, occupancy remained relatively constant at 7.4%. Advertising
increased slightly to $3.5 million from $3.3 million, an increase of 6.6% over
the prior year due to stores opened and acquired in 1998 offset by a decrease
in advertising expenses of comparable stores. As a percentage of total
revenues, advertising decreased to 5.5% from 5.9%. Other expenses increased to
$7.7 million from $6.1 million, an increase of 25.5% over the prior year and as
a percentage of total revenues increased to 12.1% from 11.1%. The increase was
due to an increase in comparable store expenses necessitated by the increase in
rental-purchase agreements in 1997, stores opened and acquired in 1998 and the
inclusion of a full year of expenses from stores opened in 1997.
For the year ended December 31, 1998, general and administrative
expenses increased to $4.6 million from $4.1 million, an increase of 12.5% over
the prior year. The increase was due to the addition of a regional manager, an
increase in costs associated with the Company's training programs and
additional support personnel, all of which were necessitated by the Company's
current and anticipated growth. Expenses associated with being a public
company and an increase in pension costs also contributed to the increase in
general and administrative expenses. As a percentage of total revenues, general
and administrative expenses decreased to 7.3% from 7.4%.
For the year ended December 31, 1998, operating income increased to
$7.3 million from $6.8 million, an increase of 7.5% over the prior year. The
increase is due to the growth of stores opened in 1997 and an increase in
operating income of comparable stores, offset by operating losses associated
with new store openings. As a percentage of total revenues, operating income
decreased to 11.5% from 12.3%. The decrease in operating margin was mainly due
to newly opened and acquired stores operating at revenue levels below those of
core stores and other factors discussed above.
For the year ended December 31, 1998, interest expense decreased to
$0.9 million from $1.8 million, a decrease of 49.6% from the prior year, and as
a percentage of total revenues decreased to 1.4% from 3.3%. The decrease is
attributable to the retirement of substantially all outstanding debt with the
proceeds received from the Company's initial public offering in June 1998.
For the year ended December 31, 1998, other expense decreased to $0.1
million from $0.3 million, a decrease of 66.9% over the prior year mainly due
to a one-time refund of workers' compensation premiums of $0.2 million received
from the State of Ohio.
The Company's effective tax rate for 1998 of 42.4% remained relatively
consistent with the 1997 rate of 42.3%.
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For the year ended December 31, 1998, net income increased to $3.6
million from $2.7 million, an increase of 34.9% over the prior year, and
increased to 5.7% from 4.8% of total revenues as a result of all of the factors
discussed above.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary requirements for capital consist of purchasing
additional and replacement rental-purchase merchandise, expenditures related to
new store openings, acquisitions and working capital requirements for new and
existing stores. For the years ended December 31, 1999 and 1998 purchases of
rental merchandise (excluding acquisitions) amounted to $31.2 million and $22.9
million, respectively. The increase is attributed to the addition of 22 stores
during 1999 and an increase in inventory in comparable stores. During the
first quarter of 1999, the Company acquired the assets of 19 rental-purchase
stores in the aggregate amount of $11.7 million. The investment in new store
openings including store operating losses amounted to approximately $3.7
million for the year ended December 31, 1999.
For the year ended December 31, 1999, cash provided by operating
activities decreased to $3.8 million from $5.5 million for the prior year. The
decrease was primarily due to an increase in rental merchandise purchases and
prepaid expenses offset by an increase in net income. Cash used in investing
activities increased to $13.7 million from $2.7 million due primarily to the
acquisition of 19 stores from Rental Mart and Blue Ribbon. Cash provided by
financing activities was $10.3 million as compared to cash used in financing
activities in the prior year of $2.9 million. Proceeds from the Company's
initial public offering in June 1998 were used to retire substantially all of
the Company's debt in 1998 and in 1999 the Company borrowed approximately $10
million to finance the acquisitions completed in the first quarter of 1999.
The Company currently has a $16.0 million Credit Facility with a
maturity date of March 1, 2002. The Credit Facility includes certain cash
flow, net worth and idle inventory requirements, as well as covenants which
limit the ability of the Company to incur additional indebtedness, grant liens,
transfer assets outside the ordinary course of business, pay dividends, engage
in acquisition transactions and make capital expenditures (excluding the
purchase of rental merchandise) in excess of a specified amount. Availability
under the Company's Credit Facility as of March 22, 2000 was approximately $7.0
million.
The Company plans to open 13 stores in 2000 and to increase the number
of new store openings thereafter. The Company believes that it will continue
to have the opportunity to increase its number of stores and rental-purchase
agreements through selective acquisitions. Potential acquisitions may vary in
size and the Company may consider larger acquisitions that could be material to
the Company. To provide any additional funds necessary for the continued
pursuit of its growth strategies, the Company may use cash flow from
operations, borrow additional amounts under its Credit Facility, seek to obtain
additional debt or equity financing, or use its equity securities, the
availability of which will depend upon market and other conditions. There can
be no assurance that such additional financing will be available on terms
acceptable to the Company.
INFLATION
During the years ended December 31, 1999, 1998 and 1997, the cost of
rental-purchase merchandise, lease expense and salaries and wages have
increased modestly. The increases have not had a significant effect on the
Company's results of operations because the Company has been able to charge
commensurately higher rental rates for its rental-purchase merchandise.
MARKET RISK
The Company does not have significant exposure to changing interest
rates. The Company does not undertake any specific actions to cover its
exposure to interest rate risk and the Company is not party to any interest
rate risk management transactions.
The Company does not purchase or hold any derivative financial
instruments.
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FORWARD- LOOKING STATEMENTS
Forward-looking statements in this report are made pursuant to the
safe harbor provisions of the Private Securities Litigation Reform Act of 1995.
Such forward-looking statements are subject to certain risks and uncertainties
that could cause actual results to differ materially from those projected.
Readers are cautioned not to place undue reliance on these forward-looking
statements which speak only as of the date hereof. Such risks and
uncertainties include, but are not limited to, (i) the ability of the Company
to execute effectively its expansion program and (ii) changes in the
government's regulation of the industry. The Company undertakes no obligation
to publicly update or revise any of these forward-looking statements, whether
as a result of new information, future events or circumstances, or otherwise.
There can be no assurance that the events described in these forward-looking
statements will occur. For further information, please refer to the Company's
filings with the Securities and Exchange Commission, including specifically the
Risk Factors contained in the Company's prospectus dated June 4, 1998.
ACCOUNTING PRONOUNCEMENTS
In June, 1998, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which establishes accounting and reporting
standards for derivative instruments and hedging activities. This Statement,
as amended by Financial Accounting Standards No. 137, is effective for all
quarters of fiscal years beginning after January 1, 2001. While the Company
has not yet determined the effects the Statement will have on its financial
position or results of operations, it does not anticipate a material impact.
YEAR 2000
The Company did not experience significant problems related to its
systems properly recognizing date sensitive information as a result of the year
2000. The costs associated with making its information systems year 2000
compliant were not material.
19
20
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Reference is made to Part IV, Item 14 of this Form 10-K for the
information required by Item 8.
ITEM 9. CHANGES AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE
None.
20
21
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
The information required by this Item (other than the information
regarding executive officers set forth at the end of Item 4A of Part I of this
Form 10-K) will be contained in the Company's definitive Proxy Statement for
its 2000 Annual Meeting of Shareholders, and is incorporated herein by
reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item will be contained in the Company's
definitive Proxy Statement for its 2000 Annual Meeting of Shareholders, and is
incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item will be contained in the Company's
definitive Proxy Statement for its 2000 Annual Meeting of Shareholders, and is
incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item will be contained in the Company's
definitive Proxy Statement for its 2000 Annual Meeting of Shareholders, and is
incorporated herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) (1) Financial Statements:
Independent Auditors' Report 22
Consent of Independent Public Accounts 23
Consolidated Balance Sheets as of December 31, 1999 and 1998 24
Consolidated Statements of Income for the Years Ended December 31, 1999,
1998 and 1997 25
Consolidated Statements of Shareholders' Equity for the Years Ended December
31, 1999, 1998 and 1997 26
Consolidated Statements of Cash Flows for the Years Ended December 31, 1999,
1998 and 1997 27
Notes to Consolidated Financial Statements 28
(a) (2) Financial Statement Schedules:
All financial statement schedules have been omitted because
they are not applicable or because required information is
included in the Company's financial statements and notes
thereto.
(a) (3) Exhibits
See the Index to Exhibits included on page 38.
(b) Reports on Form 8-K:
None.
21
22
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Shareholders
Rainbow Rentals, Inc.:
We have audited the accompanying consolidated balance sheets of Rainbow
Rentals, Inc. and subsidiary as of December 31, 1999 and 1998, and the related
consolidated statements of income, shareholders' equity, and cash flows for
each of the years in the three-year period ended December 31, 1999. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Rainbow Rentals,
Inc. and subsidiary as of December 31, 1999 and 1998, and the results of their
operations and their cash flows for each of the years in the three-year period
ended December 31, 1999, in conformity with generally accepted accounting
principles.
KPMG, LLP
Cleveland, Ohio
February 8, 2000
22
23
RAINBOW RENTALS, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AMOUNTS)
DECEMBER 31,
-----------------------------
1999 1998
------------- ------------
ASSETS
Current assets
Cash $ 440 $ -
Rental-purchase merchandise, net 33,042 25,246
Prepaid expenses and other current assets 1,423 706
-------- --------
Total current assets 34,905 25,952
Property and equipment, net 4,352 3,394
Deferred income taxes 1,312 1,058
Goodwill, net 8,205 910
Other assets, net 1,550 1,754
-------- --------
Total assets $50,324 $33,068
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Current installments of obligations under capital leases $ 21 $ 80
Accounts payable 1,679 1,242
Accrued income taxes 432 290
Accrued compensation and related costs 1,622 1,429
Other liabilities and accrued expenses 1,510 1,166
Deferred income taxes 2,673 1,913
-------- --------
Total current liabilities 7,937 6,120
Long-term debt 10,398 -
Obligations under capital leases, excluding current installments 103 110
-------- --------
Total liabilities 18,438 6,230
Shareholders' equity
Serial preferred stock, no par value, 2,000,000 shares authorized,
none issued - -
Common stock, no par value; 10,000,000 shares authorized,
5,925,735 issued and outstanding 11,039 11,039
Retained earnings 22,754 17,706
Treasury stock, 466,875 common shares at cost (1,907) (1,907)
-------- --------
Total shareholders' equity 31,886 26,838
-------- --------
Total liabilities and shareholders' equity $50,324 $33,068
======== ========
See accompanying notes to consolidated financial statements.
24
24
RAINBOW RENTALS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
YEARS ENDED DECEMBER 31,
--------------------------------------------------
1999 1998 1997
-------------- ------------- -------------
Revenues
Rental revenue $ 75,932 $ 59,932 $ 52,153
Fees 2,639 1,959 1,588
Merchandise sales 2,287 1,588 1,587
-------------- ------------- -------------
Total revenues 80,858 63,479 55,328
Operating expenses
Merchandise costs 26,758 21,765 19,145
Store expenses
Salaries and related 18,374 13,943 11,809
Occupancy 6,027 4,671 4,068
Advertising 3,662 3,500 3,283
Other expenses 10,310 7,686 6,127
-------------- ------------- -------------
Total store expenses 38,373 29,800 25,287
-------------- ------------- -------------
Total merchandise costs and store
expenses 65,131 51,565 44,432
General and administrative expenses 5,585 4,607 4,096
Amortization of goodwill and noncompete agreements 456 33 -
-------------- ------------- -------------
Total operating expenses 71,172 56,205 48,528
-------------- ------------- -------------
Operating income 9,686 7,274 6,800
Interest expense 697 918 1,822
Other expense, net 361 76 329
-------------- ------------- -------------
Income before income taxes 8,628 6,280 4,649
Income taxes 3,580 2,662 1,968
-------------- ------------- -------------
Net income $ 5,048 $ 3,618 $ 2,681
============== ============= =============
EARNINGS PER COMMON SHARE:
Basic and diluted earnings per common share $ 0.85 $ 0.73 $ 0.59
============== ============= =============
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING:
Basic 5,925,735 4,970,256 4,509,406
============== ============= =============
Diluted 5,930,887 4,970,256 4,509,406
============== ============= =============
See accompanying notes to consolidated financial statements.
25
25
RAINBOW RENTALS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(DOLLARS IN THOUSANDS, EXCEPT SHARE AMOUNTS)
Common Stock Total
------------ Retained Treasury Shareholders'
Shares Cost Earnings Stock Equity
------ ---- -------- ----- ------
Balance at December 31, 1996 6,392,610 $ 60 $11,407 $ - $ 11,467
Net income - - 2,681 - 2,681
Acquisition of common shares (2,716,875) - - (11,095) (11,095)
------------ --------- ---------- ---------- ----------
Balance at December 31, 1997 3,675,735 60 14,088 (11,095) 3,053
Net income - - 3,618 - 3,618
Issuance of common shares 2,250,000 10,979 - 9,188 20,167
------------ --------- ---------- ---------- ----------
Balance at December 31, 1998 5,925,735 11,039 17,706 (1,907) 26,838
Net income - - 5,048 - 5,048
------------ --------- ---------- ---------- ----------
Balance at December 31, 1999 5,925,735 $11,039 $22,754 $ (1,907) $ 31,886
============ ========= ========== ========== ==========
See accompanying notes to consolidated financial statements.
26
26
RAINBOW RENTALS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
YEARS ENDED DECEMBER 31,
-------------------------------------------------
1999 1998 1997
--------------- ---------------- -------------
Cash flows from operating activities
Net income $ 5,048 $ 3,618 $ 2,681
Reconciliation of net income to net cash provided by
operating activities
Depreciation of property and equipment and
amortization of intangibles 2,446 1,931 1,989
Depreciation of rental-purchase merchandise 21,821 19,607 16,994
Deferred income taxes 506 695 993
Gain on disposal of property and equipment (207) (229) (182)
Purchases of rental-purchase merchandise (31,244) (22,903) (22,707)
Rental-purchase merchandise disposed, net 5,251 1,939 1,929
(Increase) decrease in
Short-term investments - - 27
Prepaid expenses and other current assets (717) 118 (330)
Income tax receivable - 399 (399)
Increase (decrease) in
Accounts payable 212 242 (917)
Accrued income taxes 142 161 (103)
Accrued compensation and related costs 193 338 149
Other liabilities and accrued expenses 344 (450) 623
--------------- ---------------- -------------
Net cash provided by operating activities 3,795 5,466 747
--------------- ---------------- -------------
Cash flows from investing activities
Purchase of property and equipment, net (2,323) (1,422) (1,120)
Proceeds on the sale of property and equipment 360 333 250
Acquisitions (11,687) (1,580) -
--------------- ---------------- -------------
Net cash used in investing activities (13,650) (2,669) (870)
--------------- ---------------- -------------
Cash flows from financing activities
Proceeds from long-term debt 38,420 43,385 63,827
Current installments and repayments of long-term debt (28,022) (55,849) (60,922)
Proceeds from stock offering, net of related expenses - 20,167 -
Decrease in notes payable - (10,488) (291)
Loan origination fees paid (37) (28) (147)
Payment in connection with Redemption Agreement - - (2,700)
Principal payments under capital lease obligations (66) (61) (39)
--------------- ---------------- -------------
Net cash provided by (used in) financing
activities 10,295 (2,874) 272
--------------- ---------------- -------------
Net increase (decrease) in cash 440 (77) (395)
Cash at beginning of year - 77 472
--------------- ---------------- -------------
Cash at end of year $ 440 $ - $ 77
=============== ================ =============
Supplemental cash flow information:
Net cash paid during the period for
Interest $ 560 $ 1,556 $ 1,060
Income taxes 3,031 1,529 1,577
See accompanying notes to consolidated financial statements.
27
27
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The significant accounting policies of Rainbow Rentals, Inc. and
subsidiary (Company), which are summarized below, are consistent with generally
accepted accounting principles and reflect practices appropriate to the
industry in which the Company operates.
(a) Reporting Entity and Principles of Consolidation
The Company is engaged in the rental and sale of home electronics,
furniture, appliances, and computers to the general public. At December 31,
1999, the Company operated 92 stores in nine states: Connecticut,
Massachusetts, Michigan, New York, Ohio, Pennsylvania, Rhode Island, South
Carolina and Tennessee. The Company's corporate headquarters is located in
Canfield, Ohio.
The consolidated financial statements include the accounts of Rainbow
Rentals, Inc. and its wholly owned subsidiary, Rainbow Advertising, Inc. All
significant intercompany profits, transactions, and balances have been
eliminated in consolidation. On December 30, 1999 Rainbow Advertising, Inc. was
dissolved.
(b) Financial Instruments
The carrying amount of financial instruments including cash, trade
receivables and accounts payable approximated fair value as of December 31,
1999 and 1998, because of the relatively short maturity of these instruments.
(c) Rental-purchase Merchandise
Rental-purchase merchandise consists of merchandise rented to
customers or in the stores available for rent or sale. Merchandise is rented
to customers pursuant to rental agreements, which generally provide for either
weekly or monthly rental terms with rental renewal payments collected in
advance. The rental agreements may be terminated at any time by the customers.
If terminated, the merchandise is returned to the Company.
Rental-purchase merchandise is stated at the lower of cost or market.
The Company depreciates inventory using the units of activity method. Under the
units of activity method, merchandise held for rent is not depreciated, and
merchandise on rent is depreciated in the proportion of rents received to total
expected rents provided over the rental contract term. The Company believes
the units of activity method more accurately matches the recognition of
depreciation expense with the estimated timing of revenue receipts over the
rental-purchase agreement period. The units of activity method is recognized in
the rental-purchase industry.
(d) Property and Equipment
Property and equipment are recorded at cost. Depreciation is computed
on the straight-line method over the estimated useful lives of the respective
assets which range from three to five years. Leasehold improvements and
vehicles held under capital lease arrangements are amortized over the shorter
of the term of the applicable leases or useful life of the improvement.
(e) Goodwill
The excess of cost over fair value of net assets of businesses
acquired is amortized on a straight line basis over periods ranging from 18 to
20 years. The Company monitors the value of goodwill for possible impairment
by utilizing the undiscounted cash flow method. Measurement of an impairment
loss is determined by reducing the carrying value of the related assets to fair
value.
28 Continued
28
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(f) Other Assets
Other assets consist primarily of noncompete and consulting agreements
which arose in connection with the share repurchase from a former officer of
the Company, (see notes 11 and 12). These costs are amortized over the
agreement lives of seven years and three years, respectively.
(g) Rental Revenue
Merchandise is rented to customers pursuant to rental-purchase
agreements which generally provide for weekly or monthly rental terms with
nonrefundable rental payments. Rental income is recognized as collected,
because at the time of collection the merchandise has been placed in service
and costs of installation and delivery have been incurred. A customer may elect
to renew the rental-purchase agreement for a specified number of continuous
terms and has the right to acquire title either through payment of all required
rentals or through a purchase option. Amounts received from such sales, as well
as sales of new and used merchandise available for rent in the stores, are
included in merchandise sales.
(h) Stock-Based Compensation
The Company applies Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" (APB 25), and related
Interpretations in accounting for its stock-based compensation. The Financial
Accounting Standards Board issued Statement No. 123, "Accounting for
Stock-Based Compensation" (SFAS 123), which was effective in 1996. SFAS 123
provides the option of accounting for stock-based compensation using the
provisions of APB 25 or the fair value method of accounting. The Company
elected to account for stock-based compensation using the provisions of APB 25.
The disclosures required under SFAS 123 are contained in note 14 to the
consolidated financial statements.
(i) Advertising Expenses
Costs incurred for producing and communicating advertising are charged
to expense as incurred.
(j) Income Taxes
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date.
(k) Basic and Diluted Earnings per Common Share
Basic earnings per common share are based on the weighted average
number of common shares outstanding during each year. Diluted earnings per
common share are based on the weighted average number of common shares
outstanding during each year, plus the assumed exercise of stock options.
Average shares used in the calculations of basic earnings per common share were
5,925,735, 4,970,256 and 4,509,406 in 1999, 1998 and 1997, respectively.
Average shares used in the calculations of diluted earnings per common share
were 5,930,887, 4,970,256 and 4,509,406 in 1999, 1998 and 1997, respectively.
For 1998 and 1997, stock options would have had an anti-dilutive effect on
earnings per share, therefore, there is no difference between basic and diluted
weighted average common shares outstanding for those periods.
29 Continued
29
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(l) Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities 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.
(m) Reclassifications
Certain amounts in the 1998 and 1997 consolidated financial statements
have been reclassified to conform with the 1999 presentation.
(2) PUBLIC OFFERING OF STOCK
On June 5, 1998, the Company completed its initial public offering of
2,250,000 shares of common stock, without par value, at $10 per share. The net
proceeds of approximately $20.2 million, after deducting underwriters'
discounts and offering expenses, were used to retire approximately $10.9
million of indebtedness due a former shareholder-officer of the Company. The
balance of the net proceeds were used to reduce borrowings with a lending
institution.
(3) ACQUISITIONS
On February 1, 1999, the Company acquired certain assets of Rental
Mart of PA, Inc. ("Rental Mart") for approximately $1.3 million in cash. The
acquisition was accounted for using the purchase method of accounting.
Accordingly, all identifiable assets were recorded at their estimated fair
value at the date of acquisition. The excess of the acquisition cost over the
estimated fair value of the net assets acquired ("goodwill" of $0.8 million)
is being amortized on a straight-line basis over twenty years. Assets
acquired, other than goodwill, consisted primarily of rental-purchase
merchandise and a noncompete agreement.
On March 1, 1999, the Company acquired certain assets of Blue Ribbon
Rentals, Inc., and Blue Ribbon Rentals II, Inc. ("Blue Ribbon") for
approximately $10.4 million in cash. The acquisition was accounted for using
the purchase method of accounting. Accordingly, all identifiable assets were
recorded at their estimated fair value at the date of acquisition. Goodwill of
$6.9 million is being amortized on a straight-line basis over twenty years.
Assets acquired, other than goodwill, consisted primarily of rental-purchase
merchandise of $3.1 million, property and equipment of $0.3 million and a
noncompete agreement of $0.3 million.
On August 1, 1998, the Company acquired certain assets of Choice
Rental of Massachusetts, Inc., a Massachusetts competitor, for approximately
$1.1 million in cash. The acquisition was accounted for using the purchase
method of accounting. Accordingly, all identifiable assets were recorded at
their estimated fair value at the date of acquisition. Goodwill of $0.7
million is being amortized on a straight-line basis over twenty years. Assets
acquired, other than goodwill, consisted primarily of rental-purchase
merchandise and a noncompete agreement.
On July 1, 1998, the Company acquired certain assets of Eppy's
Furniture, Inc., a store located in Lorain, Ohio, for approximately, $0.5
million in cash. The acquisition was accounted for using the purchase method
of accounting. Accordingly, all identifiable assets were recorded at their
estimated fair value at the date of the acquisition. Goodwill of $0.2 million
is being amortized on a straight-line basis over eighteen years. Assets
acquired, other than goodwill, consisted primarily of rental-purchase
merchandise and a noncompete agreement.
30 Continued
30
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(4) RENTAL-PURCHASE MERCHANDISE
Following is a summary of rental-purchase merchandise:
DECEMBER 31,
-------------
1999 1998
---- ----
Rental purchase merchandise, at original cost. . . . . . . . . . . . . . . . . . $ 56,927 $ 44,517
Less accumulated depreciation. . . . . . . . . . . . . . . . . . . . . . . . . . (23,885) (19,271)
---------- -----------
$ 33,042 $ 25,246
=========== ============
(5) PROPERTY AND EQUIPMENT, NET
Property and equipment consist of the following:
DECEMBER 31,
------------
1999 1998
---- ----
Vehicles. . . . . . . . . . . . . . . . . . . . . . . . . . . $ 689 $ 1,241
Leasehold improvements. . . . . . . . . . . . . . . . . . . . 5,369 4,025
Computer equipment. . . . . . . . . . . . . . . . . . . . . . 977 761
Office equipment. . . . . . . . . . . . . . . . . . . . . . . 1,941 1,490
Vehicles held under capital lease. . . . . . . . . . . . . . 290 290
-------------- ---------------
9,266 7,807
Less accumulated depreciation and amortization. . . . . . . . 4,914 4,413
-------------- ---------------
$ 4,352 $ 3,394
============= ==============
LONG-TERM DEBT AND NOTES PAYABLE
The Company has a revolving loan agreement with a lending institution;
the maximum revolving loan amount under this agreement at December 31, 1999 was
$16.0 million. The loan agreement expires March 1, 2002, at which time any
outstanding balance will be payable in full. Interest is charged on the
outstanding loan balance at prime, or 8.50% at December 31, 1999. The Company
can request to have portions of the outstanding principal designated as "IBOR
Portions," which under the terms of the loan agreement would bear interest at
the Interbank Offering Rate (IBOR Rate), plus 200 basis points. The IBOR Rate
at December 31, 1999 was 6.48%. At December 31, 1999 $7.0 million of the
outstanding principal is designated as an "IBOR Portion."
The loan agreement is secured by substantially all assets, contract
rights, documents, and all rental agreements of the Company. The loan agreement
contains various covenants, with which the Company was in compliance at
December 31, 1999 and 1998. The loan agreement calls for a nonuse fee equal
to 0.25% per annum on the daily average amount by which the maximum revolving
amount exceeds the outstanding loan balance. Bank borrowings under the loan
agreement at December 31, 1999 and 1998 were $10,398 and $-0-, respectively.
31 Continued
31
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
In April 1997, the Company entered into a Stock Redemption Agreement
(Redemption Agreement) with a former shareholder-officer of the Company. The
Redemption Agreement required the Company to repurchase all 2,716,875 shares
of stock owned by the former shareholder-officer and affiliates. The Company
entered into note payable agreements (Redemption Debt) with the
shareholder-officer and certain affiliates of the shareholder-officer amounting
to $10,488. The Redemption Debt, which accrued interest at a rate of 8.0%, was
paid in full during June, 1998 with proceeds received from the Company's
initial public offering of common stock.
(7) RELATED PARTY TRANSACTIONS
The building which serves as the Company's corporate headquarters is
leased from a corporation, owned by the Company's three majority shareholders.
The Company entered into a 10-year building lease agreement, expiring January
2006, at a rental rate which approximates market rates. Total rent paid to the
corporation in 1999, 1998, and 1997 was approximately $113, $98, and $103,
respectively.
8) INCOME TAXES
The provision for income taxes consists of the following components:
YEAR ENDED DECEMBER 31,
-----------------------
1999 1998 1997
---- ---- ----
Current
Federal . . . . . . . . . . . . . . . . . . . . . . . . . $ 2,567 $ 1,660 $ 738
State and Local . . . . . . . . . . . . . . . . . . . . . 507 307 237
------------- ------------- ---------
Deferred 3,074 1,967 975
Federal . . . . . . . . . . . . . . . . . . . . . . . . . 367 485 837
State and Local . . . . . . . . . . . . . . . . . . . . . 139 210 156
------------- ------------- ---------
506 695 993
------------- ------------- ---------
Total income tax expense . . . . . . . . . . . . . . . . . . . . $ 3,580 $ 2,662 $ 1,968
=========== =========== =========
A reconciliation between income tax expense reported and income tax
expense computed by applying the federal statutory rate is as follows:
YEAR ENDED DECEMBER 31,
-------------------------
1999 1998 1997
---- ---- ----
Income before income taxes. . . . . . . . . . . . . . . . . . . $ 8,628 $ 6,280 $ 4,649
Federal statutory tax rate . . . . . . . . . . . . . . . . . . 34 % 34 % 34 %
---------------- ---------------- ----------------
2,934 2,135 1,581
State and local income taxes, net of federal income tax benefit. 426 345 262
Meals and entertainment and officers' life insurance premiums 32 50 33
Other, net . . . . . . . . . . . . . . . . . . . . . . . . . . . 188 132 92
---------------- ---------------- ----------------
$ 3,580 $ 2,662 $ 1,968
============== ============== ==============
32 Continued
32
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
The components of deferred tax assets and liabilities were:
DECEMBER
--------
1999 1998
---- ----
Deferred tax assets
Property and equipment . . . . . . . . . . . . . . . . . . . $ 799 $ 735
Intangibles . . . . . . . . . . . . . . . . . . . . . . . . . 297 323
Other . . . . . . . . . . . . . . . . . . . . . . . . . . . 407 197
------------------ -----------------
Total deferred tax assets . . . . . . . . . . . . . . $ 1,503 $ 1,255
================ ================
Deferred tax liabilities:
Rental-purchase merchandise . . . . . . . . . . . . . . . . (2,864) (2,110)
---------------- ----------------
Net deferred tax liability . . . . . . . . . . . . . . $ (1,361) $ (855)
================ ==================
Of the total deferred tax assets, $1,312 and $1,058 were classified as
long-term at December 31, 1999 and 1998, respectively, and $191 and $197 were
classified as current at December 31, 1999 and 1998, respectively, and are
netted with the deferred tax liability. No valuation allowance was required
for the deferred tax assets.
(9) LEASES
The Company entered into a capital lease arrangement in 1997 for the
financing of new vans. The gross amount of vehicles and the related accumulated
amortization are recorded in property and equipment, net.
The Company operates its retail stores and offices under noncancelable
operating leases with terms extending to 2006 and additional option periods
renewable at the request of the Company. Additionally, the Company leases a
number of delivery and general use vehicles under operating lease arrangements.
Rental expense charged to operations totaled $5,866, $4,144 and $3,266 for the
years ended December 31, 1999, 1998, and 1997, respectively. Future minimum
lease payments under noncancelable operating leases (with initial or remaining
lease terms in excess of one year) and future minimum capital lease payments as
of December 31, 1999 are as follows:
CAPITAL OPERATING
YEAR ENDING DECEMBER 31, LEASES LEASES
--------------------------- ------ -------
2000. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 127 $ 6,330
2001. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . -- 4,750
2002. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . -- 3,328
2003. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . -- 2,397
2004. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . -- 1,018
Thereafter . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . -- 137
----------------- ---------------
Total minimum lease payments . . . . . . . . . . . . . . . . . . . 127 $ 17,960
=============
Less amount representing interest . . . . . . . . . . . . . . . . 3
-----------------
Present value of net minimum capital lease payments. . . . . . . . 124
Less current installments of obligations under capital leases. . . 21
-----------------
Obligations under capital leases, excluding current installments $ 103
===============
33 Continued
33
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(10) RETIREMENT PLAN
The Company maintains a qualified defined contribution retirement plan
under Section 401(k) of the Internal Revenue Code. The plan, which covers
substantially all employees, provides for the Company to make discretionary
contributions based on salaries of eligible employees plus additional
contributions based upon voluntary employee salary deferrals. Payments upon
retirement or termination of employment are based on vested amounts credited to
individual accounts. In 1999, 1998 and 1997, the Company contributed $26, $49
and $25, respectively.
(11) OTHER ASSETS
Following is a summary of other assets:
DECEMBER 31,
------------
1999 1998
---- ----
Noncompete and consulting agreements . . . . . . . . . . . . . $ 2,571 $ 2,221
Loan origination fees and other. . . . . . . . . . . . . . . . 479 438
--------------- ---------------
3,050 2,659
Less accumulated amortization . . . . . . . . . . . . . . . . . 1,500 905
--------------- ---------------
$ 1,550 $ 1,754
============== ==============
(12) SHAREHOLDER TRANSACTIONS
In connection with the Redemption Agreement (note 6), the Company
entered into noncompete, consulting, and severance agreements with the former
shareholder-officer (see notes 6 and 11), and agreed to pay a total of $13,436
(cash payment of $2,948 and notes payable of $10,488), allocated as follows:
Stock repurchase . . . . . . . . . . . . . . . . . . . . . . . $ 11,095
Noncompete and consulting agreements . . . . . . . . . . . . 2,093
Severance agreement. . . . . . . . . . . . . . . . . . . . . 248
----------------
$ 13,436
=============
The full amount paid for the acquisition of shares was recorded as
treasury stock. As indicated in note 11, the amount allocated to the noncompete
and consulting agreements was recorded in other assets. The severance payment
was expensed to general and administrative expense in 1997.
(13) SHAREHOLDERS' EQUITY
On March 23, 1998, the Company's Board of Directors (Board) approved
an increase in the number of authorized shares and the conversion of all
outstanding shares of common nonvoting stock for an equal number of common
voting stock. Additionally, the Board authorized 2,000,000 shares of Serial
Preferred Stock (consisting of 1,000,000 Voting Preferred Shares and 1,000,000
Non-Voting Preferred Shares). The conversion of nonvoting shares has been
reflected retroactively, by removing reference to common nonvoting shares from
shareholders' equity and calculating earnings per share based on the weighted
average number of common shares outstanding after considering the conversion.
34 Continued
34
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
Also, on March 23, 1998, the Board approved a 10,500 for one stock
split distributed in the form of a stock dividend. As a result of this action,
an additional 3,675,385 shares of common stock were issued on June 5, 1998, the
date of the Company's initial public offering, to shareholders of record on
March 23, 1998. All references throughout these consolidated financial
statements and notes thereto to number of shares and per share amounts of the
Company's common stock have been restated to reflect the stock split.
(14) STOCK OPTION PLAN
The Company's Stock Option Plan ("Plan") offers employees the
opportunity to acquire shares of common stock by the grant of stock options,
including both incentive stock options ("ISOs") and nonqualified stock options
("NQSOs"). A total of 600,000 shares of common stock have been reserved for
issuance upon exercise of stock options under the Plan. The purchase price of a
share of common stock pursuant to an ISO shall not be less than the fair market
value of a share of common stock at the grant date. The purchase price of a
share of common stock pursuant to a NQSO may be less than the fair market value
of a share of common stock.
On June 5, 1998, the Company granted 306,200 and during 1999 granted
an additional 31,000 stock options under the Plan. Because all stock options
were granted with an exercise price equal to the market price on the date of
grant, no compensation expense has been recognized, consistent with the
provisions of APB 25. Stock options granted become exercisable over a
three-year or four-year vesting period and expire ten years from the date of
grant.
Pro forma information for net income and basic and diluted earnings
per common share is required by SFAS 123 and has been determined as if the
Company had accounted for its stock options under the fair value method of that
statement. The fair value for these stock options was estimated at the date of
grant using a Black-Scholes option pricing model with the following weighted
average assumptions for 1999 and 1998: risk free interest rate of 6.3% in 1999
and 5.4% in 1998; dividend yield of -0-%; volatility factor of the expected
market price of the Company's common stock of 30.0%; and an expected life of
the stock options of seven years. The weighted average grant date fair value
of stock options granted during 1999 and 1998 was $4.43 and $4.46,
respectively.
Had compensation cost for the stock options been determined
based on the fair value at the grant date, the Company's net income and basic
and diluted earnings per common share would have been reduced. For purposes of
pro forma disclosures, the estimated fair value of the stock options is
amortized to expense over the stock options' vesting period. The pro forma
amounts for the years ended December 31, 1999 and 1998 are indicated below. No
amounts are provided for the year ended December 31, 1997 since there were no
options granted until the Company's initial public offering on June 5, 1998.
1999 1998
---- ----
Net income:
As reported . . . . . . . . . . . . . . . . . . . . $ 5,048 $ 3,618
Pro forma . . . . . . . . . . . . . . . . . . . . . . 4,828 3,506
Basic and diluted earnings per common share:
As reported . . . . . . . . . . . . . . . . . . . . .85 .73
Pro forma . . . . . . . . . . . . . . . . . . . . . . .81 .71
35 Continued
35
RAINBOW RENTALS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
A summary of the Company's stock option activity and related
information for the years ended December 31, 1999 and 1998 is as follows:
WEIGHTED WEIGHTED
NUMBER OF AVERAGE AVERAGE
STOCK EXERCISE NUMBER OF EXERCISE
OPTIONS PRICE STOCK OPTIONS PRICE
1999 1999 1998 1998
------ ------ ------ ------
Outstanding at beginning of year . . 297,600 $10.00 - $ -
Granted . . . . . . . . . . . . . . . . . . . . . 31,000 9.59 306,200 10.00
Exercised . . . . . . . . . . . . . . . . . . . - - - -
Forfeited . . . . . . . . . . . . . . . . . . . . (10,900) 10.00 (8,600) 10.00
-------- --------
Outstanding at end of year . . . . . . . 317,700 $ 9.96 297,600 $10.00
======== ========
Exercisable at end of year. . . . . . . . 71,675 -
======== ========
36 Continued
36
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
RAINBOW RENTALS, INC..
By: /s/ Wayland J. Russell
----------------------------------
Wayland J. Russell
Chairman and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities and on March 30, 2000.
SIGNATURES TITLE
---------- -----
/e/ WAYLAND J. RUSSELL Chairman and Chief Executive Officer
- ---------------------------- and Director
Wayland J. Russell
/e/ LAWRENCE S. HENDRICKS Chief Operating Officer and Director
- ----------------------------
Lawrence S. Hendricks
/e/ MICHAEL J. VIVEIROS President and Director
- ----------------------------
Michael J. Viveiros
/e/ MICHAEL A. PECCHIA Chief Financial Officer
- ----------------------------
Michael A. Pecchia
/e/ BRIAN L. BURTON Director
- ----------------------------
Brian L. Burton
/e/ IVAN J. WINFIELD Director
- ----------------------------
Ivan J. Winfield
37
37
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
- ------ -----------------------
2.1 (1) Amended and Restated Asset Purchase Agreement dated March 1, 1999 by and among
the Company, Blue Ribbon Rentals, Inc., Blue Ribbons Rentals II, Inc. and William
Wendell.
3.1 (2) Amended and Restated Articles of Incorporation
3.2 (2) Amended and Restated By-Laws and Code of Regulations
4.1 (2) Loan and Security Agreement dated as of October 5, 1992, by and between the
Company and Bank of America National Trust and Savings Association (formerly Bank
of America, Illinois, formerly Continental Bank, Illinois, formerly Continental
Bank, NA), as amended.
4.2 (3) Consent and Amendment No. 10 and Third Amended and Restated Supplement A to Loan
and Security Agreement between the Company and Bank of America National Trust and
Savings Association, dated July 15, 1998.
4.3 (1) Consent and Amendment No. 11 and Fourth Amended and Restated Supplement A to Loan
and Security Agreement between the Company and Bank of America National Trust and
Savings Association, dated March 1, 1999.
4.4 (2) Collateral Trademark Security Agreement dated as of October 5, 1992 by and
between the Company and Bank of America National Trust and Savings Association.
Information concerning certain of the Company's other long-term debt is set forth
in Note 6 of the consolidated financial statements. The Company hereby agrees to
furnish copies of such instruments to the Commission upon request.
10.1 (2) 1998 Stock Option Plan
10.2 (2) Lease by and between the Company and Rainbow Properties, Ltd. dated January 1,
1996 for the Company's principal executive offices.
23 (*) Consent of Independent Public Accountants
27.1 (*) Financial Data Schedule
* Filed Herewith
(1) Previously filed, as of March 16, 1999, pursuant to the Company's report
on Form 8-K.
(2) Previously filed, as of June 5, 1998, pursuant to the Company's
Registration Statement on Form S-1.
(3) Previously filed, as of August 13, 1998, pursuant to the Company's
report on Form 10-Q.
38