SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] JOINT ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES AND EXCHANGE ACT OF 1934 (FEE REQUIRED)
For the fiscal year ended January 31, 1994
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
Commission File Number 33-51266-01 Commission File Number 1-8281
WEI Holdings, Inc. Wherehouse Entertainment, Inc.
(Exact name of registrant as (Exact name of registrant as
specified in its charter) specified in its charter)
Delaware Delaware
(State or other jurisdiction of (State or other jurisdiction of
incorporation or organization) incorporation or organization)
95-2647555 13-3439558
(I.R.S. Employer Identification (I.R.S. Employer Identification
Number) Number)
c/o Wherehouse Entertainment, Inc.
19701 Hamilton Avenue 19701 Hamilton Avenue
Torrance, California 90502-1334 Torrance, California 90502-1334
(Address of principal executive (Address of principal executive
offices including ZIP code) offices including ZIP code)
(310) 538-2314 (310) 538-2314
(Registrant's telephone number, (Registrant's telephone number,
including area code) including area code)
Securities registered pursuant to Section 12(b) of the Act:
6 1/4% Convertible Subordinated
None Debentures Due July 1, 2006
(Title of class) (Title of class)
None American Stock Exchange
(Name of Exchange) (Name of Exchange)
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrants (1) have
filed all reports required to be filed by Section 13 or 15(d) of
the Securities Exchange Act of 1934 during the preceding 12
months (or for such shorter period that the registrants were
required to file such reports), and (2) have been subject to such
filing requirements for the past 90 days. Yes [ X ] 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 registrants' 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. [ X ]
All of the voting stock of Wherehouse Entertainment, Inc. is
held by WEI Holdings, Inc. All of the voting stock of WEI
Holdings, Inc. is held by affiliates. All officers, directors
and more than 5% stockholders of WEI Holdings, Inc. are deemed
"affiliates" of WEI Holdings, Inc. for the purpose of determining
the foregoing. The registrants, however, do not represent that
such persons, or any of them, would be deemed "affiliates" of the
registrants for any other purpose under the Securities Exchange
Act of 1934 or the Securities Act of 1933.
As of April 30, 1994, 2,366,113 shares of WEI Holdings,
Inc.'s common stock and 10 shares of Wherehouse Entertainment,
Inc.'s common stock were issued and outstanding.
PART I
Item 1. BUSINESS
Wherehouse Entertainment, Inc. (the "Company" or "Where-
house") is a wholly-owned subsidiary of WEI Holdings, Inc.
("WEI"). The Company believes that, in terms of both revenues
and store count, it is the largest retailer of prerecorded music
in the western U.S. and the second largest renter of videocas-
settes in the western U.S. The Company believes that it sells
more prerecorded music in the state of California than any other
specialty retailer. Founded in 1970 as a music retailer, Where-
house has evolved into a diversified entertainment retailer with
a broad range of prerecorded music, videocassettes and other
products. As the Company has grown, its product lines and
product mix have been adapted to changes in electronics techno-
logy and consumer tastes.
Wherehouse operated 347 stores at April 1, 1994 in eleven
states under the names "The Wherehouse", "Wherehouse Entertain-
ment", "Record Shop", "Paradise Music", "Pegasus", "Rocky Moun-
tain Records", "Leopolds" and "Odyssey". All but forty-six of
the Company's stores operate under "The Wherehouse" name. The
"Record Shop," "Paradise Music", "Pegasus", and "Rocky Mountain
Records" names were acquired with the recent acquisitions of
those stores, and the stores continue to operate under those
names at this time.
The Company sells prerecorded music and videocassettes,
video games, personal electronics (including personal stereos,
portable stereos, headphones and related merchandise), blank
audiocassettes and videocassettes, and accessories. Approxi-
mately 75% of the Company's stores also rent both videocassettes
and video games. The Company believes that this combination
entertainment store format offers competitive advantages relative
to those competitors that operate stores offering only merchan-
dise products for sale or products for rent. The merchandise
sale and video rental lines complement one another and offer
cross-selling opportunities. A video rental customer visits a
store at least once, and possibly twice, for each transaction and
is presented each time with the Company's merchandise offerings.
In fiscal 1994, sales of prerecorded music, videocassettes,
video games, and accessories accounted for 81% of revenues, and
rentals of videocassettes, video games, and other products
accounted for 19% of revenues.
The Company expanded its retail operations significantly
from fiscal 1990 to the present. At February 1, 1989, Wherehouse
operated 221 stores. Since then, 157 stores have been opened, 48
as a result of the Company's store acquisition program and 109 as
internally developed locations, while 31 have been closed, expand-
ing the Company's operations to a net total of 347 stores in
eleven states as of January 31, 1994 (see "Store Additions and
Site Selection" below), including one store temporarily closed
due to the Southern California earthquake. No new stores were
opened from February 1, 1994 to April 1, 1994. Of the 347 stores
operating as of April 1, 1994, 273 stores were located in strip
centers or freestanding buildings and 74 were located in malls.
Approximately 91% of the Company's stores are concentrated in ten
major marketing areas (Los Angeles, San Francisco, San Diego,
Sacramento, Seattle, Phoenix, Fresno, Las Vegas, Denver and Salt
Lake City) and approximately 78% of the stores are located in
California. The Company has focused its operations on its ten
major marketing areas in order to create competitive advantages
in operations, advertising and marketing, and distribution.
During the 1994 fiscal year, the Company expanded its
presence in several western states and entered new markets in the
west and mid-west through the acquisition of 39 specialty music
stores from The Record Shop, Inc. and Pegasus Music and Video,
Inc. Four other Record Shop stores, which were operated under
management agreements during the latter half of the 1994 fiscal
year, have subsequently been purchased or may be purchased in
fiscal 1995. These acquisitions expanded the Company's opera-
tions into five additional states (Utah, Montana, Iowa, Minnesota
and North Dakota) and established Salt Lake City as a major
marketing area.
The Company expects in the current fiscal year to focus its
efforts towards improvement of its existing stores, rather than
acquisitions and new store openings (see Item 7 - "Management's
Discussion and Analysis of Financial Condition and Results of
Operations"). Nevertheless, the Company will opportunistically
evaluate potential acquisitions which could provide additional
geographic diversification while still accomplishing the strategy
of clustering stores in order to concentrate on selected market-
ing areas and achieve the economies which clustering provides.
If it determines the same to be appropriate, the Company may,
subject to its ability to source additional capital, make addi-
tional acquisitions. On a longer-term basis, the Company intends
to continue its growth, both by opening new stores in selected
locations, and by additional acquisitions.
The Company was acquired in June 1992 through the acquisi-
tion (the "Acquisition") by Grammy Corp. of all the outstanding
capital stock and related equity securities of WEI through the
merger (the "Merger") of Grammy Corp. with and into WEI, with WEI
surviving the Merger. Grammy Corp. was formed by Merrill Lynch
Capital Partners, Inc. ("MLCP") in February 1992 solely to effect
the Acquisition.
Currently, WEI conducts no independent operations and has no
significant assets other than the capital stock of the Company.
In January 1994, WEI raised $30 million through the sale of
common stock to certain of its existing stockholders. All of
these funds were contributed by WEI to the capital of the
Company, and provided permanent financing for the acquisition of
stores from the Record Shops, Inc. and Pegasus Music and Video,
Inc., as previously discussed. Contemporaneously with this
financing, the Company's bank credit agreement was amended to,
among other things, revise certain financial covenants to provide
the Company with additional operating flexibility. See Item 7 -
"Management's Discussion and Analysis of Financial Condition and
Results of Operations".
MERCHANDISE PRODUCTS AND SUPPLY
Wherehouse stores generally sell a broad array of entertain-
ment products, including prerecorded music and videocassettes,
video game software, accessories and personal electronics. The
table at the end of this section summarizes the Company's dollar
volume of sale revenue by merchandise category from fiscal 1990
through fiscal 1994. The percentage of total revenues contri-
buted by merchandise sales has risen from 76% in 1990 to 81% in
1994. The number of different music titles per store ranges from
6,000 to 70,000, representing approximately 12,000 to 140,000
individual units in inventory per store.
The Company's most important product strategy is to ensure
constant availability of the most popular music and video titles
while maximizing the selection of catalog titles of lasting
popularity. With input from store management and a product
allocation team, Wherehouse's inventory management systems tailor
each store's product selections and merchandise mix to local
market demand and maximize the availability of the most popular
items at each store, subject to store size constraints. The
Company's stores have been designed to facilitate quick service
and to accommodate changes in industry trends and product
offerings.
The Company purchases its prerecorded music from all major
suppliers, including WEA (Warner/Elektra/Atlantic Corporation),
Sony Music Entertainment, Inc., CEMA Distribution, Polygram
Distribution, UNI Distribution, and BMG Distribution. The
Company has not experienced, and does not anticipate having in
the future, any material problems obtaining its products.
The Company also buys and sells used CDs in the majority of
its stores. The sale of used CDs was first tested in certain of
the Company's stores in fiscal 1993. Based upon strong consumer
acceptance, the Company began buying used CDs from customers and
expanded upon this business significantly in fiscal 1994.
Prerecorded videocassettes (feature films, music videos, and
self-improvement programming) represented, after music, the
Company's second largest sale product category in fiscal 1994.
As box-office hit motion pictures continue to be released to the
videocassette sell-through market at decreased prices, industry-
wide sales of this category have increased. The Company's
revenues from the sales of videocassettes have, however,
decreased with the proliferation of competitors' outlets selling
videocassettes and the highly competitive pricing of the product,
particularly from discounters and mass merchandisers. The
Company has implemented new pricing and merchandising strategies
designed to counter this trend. No assurances can be given that
the Company's new strategies will be successful.
During fiscal 1994, the Company significantly expanded its
presence in the video game business, carrying both software and
hardware. The Company's other sale merchandise items include
blank audio and videocassette tapes, music and tape care
products, carrying cases, storage units, and personal electron-
ics. The Company also collects commissions on event tickets sold
under affiliations with Bay Area Seating Service (BASS) and
Ticketmaster.
It is the Company's objective to keep as much of its inven-
tory as possible in its stores rather than at its distribution
center. Substantially all of each store's inventory is on
display and available for sale, with little or no merchandise in
back room storage.
Sales and Rental Revenue By
Merchandise Category
(dollars in millions)
Fiscal Years Ended January 31,
---------------------------------------------
1994 1993 1992 1991 1990
------ ------ ------ ------ ------
Merchandise Sales
Compact discs
(including
used CDs) $203.7 $174.3 $161.0 $135.8 $ 93.6
Cassettes and
other music 101.9 112.7 124.5 133.8 131.7
------ ------ ------ ------ ------
Total music 305.6 287.0 285.5 269.6 225.3
New videocassettes 24.3 26.9 33.4 37.0 26.9
Video game software
and hardware,
general merchandise
accessories,
ticket commissions,
and other 50.3 40.6 39.7 45.7 44.6
------ ------ ------ ------ ------
Total merchandise
sales $380.2 $354.5 $358.6 $352.2 $296.8
====== ====== ====== ====== ======
Video and other
product rentals 91.6 94.0 98.8 99.9 91.5
------ ------ ------ ------ ------
TOTAL REVENUE $471.8 $448.5 $457.4 $452.1 $388.3
====== ====== ====== ====== ======
VIDEO AND OTHER PRODUCT RENTALS
The Company's other principal revenue source is the rental
of prerecorded videocassettes and other products, chiefly feature
films. Although most videocassette rentals are feature films,
approximately 15% of Wherehouse's rentals in fiscal 1993 were
nontheatrical titles, such as children's videos, adult videos,
workout videos, music videos, educational videos, and do-it-
yourself videos. Wherehouse also rents audiocassette books.
Video game players and laser discs are also offered for rent in a
few select stores. As of April 1, 1994, 260 of Wherehouse's 347
stores offered videocassettes and other products for rent. On
average, stores that rent videocassettes carry approximately
7,000 units, and can range from as few as 3,000 to as many as
14,000 units, representing from 2,000 to 9,000 individual
titles.
Wherehouse purchases prerecorded videocassettes from a
variety of distributors and other suppliers. As with recording
companies, the film studios, or their videocassette distribution
operations, each controls a certain portion of available titles
and seeks to promote those titles. The Company's leading
suppliers of prerecorded videocassettes are Ingram Entertainment,
Warner Home Video, Columbia TriStar Home Video, MCA/Universal
Home Video, Paramount Home Video, Baker & Taylor Video and Fox
Video. The Company has not experienced, and does not anticipate
having in the future, any material problems obtaining its
products.
The Company believes that an important element of efficient
video operations is the disposition of used rental videocassettes
to maximize the productivity of its inventory. Wherehouse's
systems enable the Company to effectively monitor the rental
efficiency of its inventory on an individual title and unit
basis. As a hit title's efficiency declines, used rental video-
cassettes are sold on a clearance basis in the Company's stores,
and, where appropriate, the Company may sell excess used video
inventory to third-party distributors.
During fiscal 1994, the Company expanded its video game
rental business, including the sale and rental of related video
game hardware, and intends to continue this expansion in fiscal
1995. With the retail price of most video games exceeding $50,
the opportunity for customers to try the games for a minimal
nightly rental fee is compelling. Further, younger consumers,
generally ages 8 to 16, find the daily rental of a video game to
be an attractive entertainment alternative.
ADVERTISING AND PROMOTION
The Company employs advertising, promotion, pricing, and
presentation in a coordinated manner to generate customer
awareness of its breadth of product and value pricing on selected
items and to induce trial and repeat purchase of its products and
video rental services. Wherehouse advertises on a regular and
frequent basis in a variety of broadcast and print media,
including radio, newspaper, direct mail, freestanding inserts,
magazines, and cable television. Advertising generally
emphasizes immediate availability of hit product at reduced
prices, as well as access to a broad array of catalog product.
The Company believes its strategy of clustering its stores in
major markets allows it to optimize the use of its advertising
expenditures.
Wherehouse seeks to maximize cooperative advertising
payments from suppliers, which are generally available to the
industry. Music and video companies generally provide funds on a
title-by-title basis to promote new releases and, occasionally,
on a label-wide basis. When the Company runs pre-authorized
advertising that contains reference to a specific title or label,
the related supplier will generally reimburse 100% of the pro
rata cost of that advertising.
The Company believes that Wherehouse is among the most
effective among entertainment retailers at securing cooperative
advertising funds. Because of its strong market position in
western markets, suppliers seek the Company's support for their
product. Furthermore, the Company's concentration of stores in
major markets provides economies when purchasing broad scale
media and makes the supplier's own advertising expenditures more
effective when allocated to Wherehouse.
TRADE CUSTOMS AND PRACTICES
Substantially all of the Company's music purchases are
protected by return policies offered by major manufacturers. The
return privilege generally exists for a particular music title as
long as that title remains in the current music catalog of a
manufacturer. Catalog changes are generally made only after
advance notice, allowing the Company to return excess inventory
before a title is discontinued. None of the Company's major
pre-recorded music suppliers limit returns of unopened items, but
they generally charge return penalties of varying amounts. Most
major suppliers do not accept returns of opened merchandise on
the same basis as unopened items, but do generally provide the
Company with certain additional allowances. Over the past few
years, several of the major manufacturers have effected material
changes in their pricing and return policies. Most recently, one
of the major manufacturers changed its pricing policies to
lengthen the period of front-end promotional prices, while at the
same time substantially increasing its return penalty rates. The
Company has not yet been able to determine whether the effect of
these changes will be beneficial to its operating results. Addi-
tional changes in these policies could have an adverse effect on
the Company.
STORE ADDITIONS AND SITE SELECTION
Wherehouse added a total of 126 stores from fiscal 1990
through fiscal 1994, net of store closings. The table below sets
forth store openings, closings, total number of stores, and
aggregate square footage under lease for the last five fiscal
years:
Total Stores Stores Total Stores Aggregate
Fiscal at Beginning _____________ at End Square Footage
Year of Period Opened Closed of Period of Period
______ ____________ ______ ______ ___________ ______________
1994 313 49 15 347 2,117,000
1993 301 15 3 313 2,011,000
1992 283 21 3 301 1,932,000
1991 263 24 4 283 1,811,000
1990 221 48 6 263 1,640,000
During the fiscal year ended January 31, 1994, the Company's
new store openings ranged in size from 1,350 to 14,300 square
feet. Initial cash investment in leasehold improvements,
fixtures and equipment for these new stores generally ranged from
$90,000 to $900,000. As previously mentioned, new store openings
in fiscal 1994 included 43 stores acquired from, or managed by
the Company for its own benefit under contract with, The Record
Shop, Inc. and Pegasus Music and Video, Inc.
The Company's strategy of clustering stores in marketing
areas has led to the achievement of important economies of scale
and scope in several business functions, including advertising,
personnel, management and distribution. In recent years, the
Company has pursued growth opportunities in existing marketing
areas and has selectively grown through acquisition if such
growth was consistent with the Company's strategies. The Company
will continue to take advantage of opportunities to consolidate
or close stores in areas where the market has become less
favorable.
SITE SELECTION. In its new store location decisions,
Wherehouse takes into consideration the following factors, among
others: demographics (population density and level of household
income), psychographics (propensity of the population to buy
entertainment-related products), site access and visibility,
traffic patterns, parking and the particular terms of a proposed
lease. The Company has not experienced any overall difficulties
with site selection to date.
STORE OPERATIONS AND DISTRIBUTION
STORE LOCATION. As of April 1, 1994, the Company had 273
stores located in strip centers or freestanding buildings and 74
stores located in malls. The standard size of strip center or
freestanding location is approximately 6,500 square feet, with a
range of 1,100 to 28,000 square feet. Mall stores on average
utilize from 1,350 to 6,600 square feet of space, and most do not
offer video rental service due to the importance of convenience
in the video rental business.
RETAIL PRESENTATION. The Company has developed a contempo-
rary store design approach that employs light interior colors,
attractive lighting, modified exterior signage and a minimum of
fixed interior walls. The design maximizes flexibility in
lighting and use of floor space (e.g., to accommodate changes in
product format) and focuses customer attention primarily on
products. The Company, which maintains an active store remodel-
ing program to keep older stores up to date, has remodelled
approximately 310 stores in the past five years, including recent
remodels of substantially all of the stores acquired from The
Record Shop, Inc. and Pegasus Music and Video, Inc.
DISTRIBUTION. Central to Wherehouse's strategy of providing
broad merchandise selection to its customers (i.e. multiple
copies of hits, select copies of catalog product, and high
quality in-stock condition) is its ability to distribute product
quickly and cost-effectively to its stores. The Company's
central distribution system achieves this result by filling
orders to all stores twice a week. Inventory at the Company's
distribution center (located in Carson, California) is automa-
tically sorted based on individual store demand data generated by
its store-level inventory systems.
Approximately 30% of the Company's inventory is shipped to
store locations directly from manufacturers and distributors
(chiefly in the case of new releases), and the remainder is
shipped from the distribution center. The Company uses common
carriers for deliveries from its distribution center.
COMPETITION
Both the prerecorded music and the video rental markets
are highly competitive. In the prerecorded music market, the
Company competes with other chain retailers who specialize in
prerecorded music, discounters and other mass merchandisers,
direct mail programs such as record clubs, and local operators.
The video rental market is a more fragmented industry, with many
small operators and one significant competitor, Blockbuster
Entertainment Corporation, whose estimated nationwide marketshare
is currently approximately 20%. Grocery and convenience stores
also account for a portion of the video rental market. In the
Company's judgment, small operators may be well located, but
usually have significant disadvantages in inventory selection and
cost relative to chain retailers. Additionally, the Company's
combination entertainment store format gives the Company cross-
selling opportunities in music and rental video which most of its
competition does not have.
Nevertheless, in both the music and rental markets, there
has been a recent trend towards consolidation, and several large
regional retail chains -- many similar to or direct competitors
of the Company -- have been acquired by large national retail
chains. In addition, several major retail chains, including Best
Buy, Blockbuster Entertainment and Virgin Megastores, have
announced plans to increase their retail music store presence in
California. It can thus be expected that the Company will in
future periods experience increased competition from companies
with greater financial resources than the Company, and that
competitive pressures may result in a tightening of gross profit
margins.
The Company also competes with cable television, which
includes pay-per-view television. Currently, pay-per-view
provides less viewing flexibility to the consumer than video-
cassette rentals, and at a higher cost. Also, under current
entertainment industry distribution practices, movies are
generally available on videocassette prior to appearing on pay-
per-view. However, viewing flexibility may increase with
improved technology which could negatively impact the retail
store delivery of home video and the Company's business. Notwith-
standing potential technological advances, the Company believes
that video rental should, in the near future, continue to be the
first source of filmed in-the-home entertainment, before pay-per-
view, and a primary source of filmed entertainment for the
consumer.
Several major companies have announced that they are
developing other technologies which, if successful, could
constitute significant competition. These include technologies
which would provide movies or interactive games "on demand" over
fiber optic telephone or cable lines, other in-the-home enter-
tainment which may some day be provided over the "information
superhighway", and in-store kiosks that would provide on-site
transcription of compact discs. While none of these technologies
is yet commercially available, and it appears that significant
technical, economic, and other obstacles to their introduction
remain to be resolved, if and when these or other new technolo-
gies are introduced, it can be anticipated that the Company's
business could be significantly impacted; and the Company may
need to develop and implement new marketing strategies in order
for its business to remain viable.
The Company believes that, in terms of both revenues and
store count, it currently is the largest retailer of prerecorded
music in the western U.S. and the second largest renter of
videocassettes in the western U.S. The Company believes that its
major competitive advantages lie in its convenient store loca-
tions and in its ability to offer a wider and more up-to-date
selection of inventory and to provide better customer service.
The Company believes that factors such as significant economies
of scale in marketing, purchasing and distribution currently
favor the Company over most of its competitors. Wherehouse's
combination entertainment store format provides cross-selling
opportunities and provides one convenient source of prerecorded
music and videocassettes for the consumer.
ORGANIZATION AND EMPLOYEES
The Company's corporate offices are located in Torrance,
California. The Company maintains one regional operations
office within the corporate offices and the other two regional
operations offices in Redwood City and San Diego. The Company's
distribution center is in Carson, California.
As of April 1, 1994, the Company employed approximately
7,700 persons. Approximately 32% were full-time employees and
approximately 68% were part-time employees. The Company's labor
complement depends on seasonal requirements, with up to 1,200
additional store and distribution center employees added during
the peak holiday season. The Company's headquarters staff, which
numbers approximately 223, is responsible for executive and
general operating management, buying, merchandising, advertising,
finance, accounting, information systems and real estate.
TRADEMARKS
All but 46 of the Company's stores operate under the name
"The Wherehouse." The Company owns and maintains registrations
for "The Wherehouse" trademark and variations thereof in the
United States and the United Kingdom, and monitors the status of
its trademark registrations to maintain them in force and to
renew them as required.
SEASONALITY
The Company's business is seasonal, and, as is typical for
most retailers, its revenues peak during the Christmas holiday
season. Revenues in the fourth quarter of fiscal 1994 were
slightly more than 32% of total annual revenues.
Item 2. PROPERTIES
The Company's executive offices, which are located in
Torrance, California, are governed by a lease covering 72,670
square feet of space at an annual base rent for fiscal 1994 of
approximately $1,100,000; base rental is subject to periodic
consumer price index adjustments. The lease expires in June 1996
and is subject to a renewal option for an additional term of five
years.
The Company owns a 110,000 square foot warehouse in Gardena,
California, which is subject to a mortgage in the original princi-
pal amount of $2,800,000 which matures in 1996. The majority of
the space in this facility is sub-leased until April 1997 for an
annual rental of $192,000.
The Company operates a 200,000 square foot distribution
center in Carson, California. The lease for this property
expires on April 30, 2002, subject to two five-year renewal
options. The base rent for fiscal 1994 was $792,792; rent is
subject to periodic adjustment.
All 49 stores opened through internal development or acqui-
sition during fiscal 1994 were located in leased properties. No
new stores were opened from February 1, 1994 to April 1, 1994.
As of April 1, 1994, the Company had signed lease commitments to
open two new stores and may open additional stores over the next
twelve months. See Item 1 - "Business".
As of January 31, 1994, the Company owned one of its retail
locations and leased space for the remaining 346 stores. Lease
terms generally range from 10 to 25 years including renewal
options. If all leased stores' renewal options were exercised,
18 leases would expire on or before January 31, 1995, 64 would
expire between February 1, 1995 and January 31, 2000, and the
remainder would expire between February 1, 2000 and March 31,
2025. The Company does not depend on the continued existence of
any one or several of its lease agreements or store locations for
the operation of its business.
Item 3. LEGAL PROCEEDINGS
In January 1988, holders (the "Debentureholders") of approx-
imately $17 million in principal amount of the Company's 6 1/4%
Convertible Subordinated Debentures (the "Debentures") commenced
the action McMahan & Company, et al. v. Wherehouse Entertainment,
Inc., et al., 88 Civ. 0321 (S.D.N.Y.). An Amended Complaint was
filed in January 1988 and a Revised Amended Complaint was filed
in June 1988. Defendants are the Company, six of its former
directors, Furman Selz, Adler & Shaykin, the former controlling
shareholder of the Company ("A&S"), WEI Acquisition Corp.
("WAC"), a corporation formed by A&S for the purpose of acquiring
the Company, and WEI.
An indenture between the Company and Bank of America Nation-
al Trust and Savings Association (the "Debenture Indenture"),
which sets forth the contractual rights of the Debentureholders,
provides that under certain circumstances (defined as "triggering
events") the Debentureholders will have the right to have their
Debentures redeemed by the Company at a specified redemption
price. One of the triggering events is a merger of the Company
with another company that is not approved by a majority of the
"Independent Directors" (as defined in the Debenture Indenture).
The claims in this action arose from the 1988 Acquisition of the
Company by A&S, pursuant to a merger agreement (the "1988 Acqui-
sition Agreement") that was approved by the board of directors of
the Company, including a majority of the Independent Directors.
At that time, there were approximately $48.3 million in aggregate
principal amount of Debentures outstanding.
The Amended Complaint contains seven causes of action.
Count I alleges that the Independent Directors' approval of the
1988 Acquisition Agreement violated the Debenture Indenture
because of the alleged implicit requirement in the Debenture
Indenture that the Independent Directors would not approve any
merger agreement unless the approval was in the best interests of
the Debentureholders. Count II alleges that the board of
directors' approval of the 1988 Acquisition Agreement violated
the directors' contractual duty of good faith and fair dealing to
the Debentureholders. Count III alleges that the prospectus
issued by the Company and Furman Selz in connection with the
offering of the Debentures violated Section 11 of the Securities
Act of 1933 (the "Securities Act") by failing to disclose that
the Independent Directors retained the right to approve any
merger proposal, and thereby prevent any right to redemption from
arising, whether or not such proposal was in the best interests
of the Debentureholders. Count IV, brought solely on behalf of
Froley, Revy Investment Co. ("Froley Revy"), alleges that
representatives of Furman Selz violated Section 12(2) of the
Securities Act by making material misstatements to Froley Revy to
the effect that the optional redemption provision was a "special
protection" and a "protective covenant" for Debentureholders,
without disclosing that the directors retained the power, in
their discretion, to approve a transaction and thereby prevent
any right to redemption from arising. Count V alleges that the
prospectus issued by the Company and Furman Selz in connection
with the offering of the Debentures, as well as the oral state-
ments specified in Count IV, violated Section 10(b) of the
Securities Exchange Act of 1934 (the "Exchange Act") for the
reasons specified in the descriptions of Counts III and IV.
Count VI alleges that A&S, WAC and WEI interfered with plain-
tiffs' alleged contractual rights. Count VII alleges that the
1988 Acquisition was a fraudulent conveyance in violation of New
York law.
The Revised Amended Complaint seeks (a) to invalidate any
obligation of the Company to Chemical Bank, which provided
financing in connection with the 1988 Acquisition, (b) to set
aside any security interest in the Company's assets in favor of
Chemical Bank, (c) a declaration that the debt held by Chemical
Bank is secured only by the securities which the debt was
provided to purchase and (d) damages in an unspecified amount,
together with the costs of the action. Although the Revised
Amended Complaint also purported to seek an injunction barring
the 1988 Acquisition, plaintiffs never applied for such relief
and the 1988 Acquisition was consummated.
By opinion dated April 10, 1990, the United States Court of
Appeals for the Second Circuit (the "Second Circuit") reversed
the judgment of the United States District Court for the Southern
District of New York (the "District Court") dismissing the
federal securities law claims pursuant to Rule 56 of the Federal
Rules of Civil Procedure and dismissing the state law claims for
lack of subject matter jurisdiction. The Second Circuit, by a
vote of two to one, concluded that plaintiffs had presented
sufficient evidence to create a question of fact as to whether
the offering materials at issue and certain alleged oral communi-
cations from Furman Selz to Froley, Revy could have misled a
reasonable investor in violation of Section 10(b) of the Exchange
Act and Sections 11 and 12(2) of the Securities Act. The Second
Circuit also reinstated the pendent state law claims, and
remanded the case to the District Court. Discovery has
concluded, and defendants moved for summary judgment dismissing
plaintiffs' complaint in its entirety. Plaintiffs also moved for
partial summary judgment on their contract claims. On March 11,
1994, the United States Magistrate Judge issued a Report and
Recommendation which recommended that defendants' motion for
summary judgment be granted and that the complaints in these
action be dismissed. The final decision on the motion is to be
made by the Second Circuit Judge. Plaintiffs' objections to the
Report and Recommendation were filed with the Court in April
1994. Defendants' response to such objections is to be filed by
May 27, 1994. Based on proceedings to date and the Company's
discussions with its trial lawyers, the Company believes that
this action is without merit and is vigorously defending it.
$5.7 million principal amount of the Debentures remained
outstanding as of January 31, 1994.
In January 1989, the purported class action Don Thompson v.
Wherehouse Entertainment, Inc., et al., 88 Civ. 9040 (S.D.N.Y.)
was commenced by Don Thompson, the owner of $71,000 in principal
amount of Debentures. The Company is named as a defendant along
with six of its former directors and Furman Selz. This action
has been consolidated with the McMahan action described above.
The Complaint contains five causes of action. Count I
alleges that the prospectus issued by the Company and Furman Selz
in connection with the offering of the Debentures violated
Sections 11 and 15 of the Securities Act by failing to disclose
that the Independent Directors retained the right to approve any
merger proposal, and thereby retained the power to prevent any
right of redemption from arising, whether or not such merger
proposal was in the best interests of the Debentureholders.
Count II alleges that the prospectus violated Section 10(b) of
the Exchange Act for the same reason. Count III alleges that the
Independent Directors' approval of the 1988 Acquisition Agreement
violated the Debenture Indenture due to the alleged implicit
requirement in the Debenture Indenture that the Independent
Directors would not approve any merger agreement unless such
approval was in the best interests of the Debentureholders.
Count IV alleges that the Independent Directors' approval of the
1988 Acquisition Agreement, at the direction of the Company and
the management directors, violated the contractual duty of good
faith and fair dealing that the Company and the former directors
owed to the Debentureholders. Count V alleges that the 1988
Acquisition is a fraudulent conveyance in violation of New York
law. The Complaint seeks certification of the action as a class
action and certification of plaintiff as an appropriate represen-
tative of the class. The Complaint also seeks damages in an
unspecified amount together with the costs of the action.
On April 24, 1992, the District Court granted the plaintiff
class certification. Discovery has concluded, and defendants
moved for summary judgment dismissing plaintiffs' complaint in
its entirety. Plaintiffs also moved for partial summary judgment
on their contract claims. On March 11, 1994, the United States
Magistrate Judge issued a Report and Recommendation which recom-
mended that defendants' motion for summary judgment be granted
and that the complaints in these actions be dismissed. The final
decision on the motion is to be made by the Second Circuit Judge.
Plaintiffs' objections to the Report and Recommendation were filed
with the Court in April 1994. Defendants' response to such
objections is to be filed by May 27, 1994. Based on proceedings
to date and the Company's discussions with its trial lawyers,
the Company believes that this action is without merit and is
vigorously defending it.
Silverman, et al. v. Wherehouse Entertainment, Inc., et al.,
Del. Ch. Civ. No. 935. In October 1987, stockholders of the
Company filed a class action suit in the Delaware Chancery Court
for New Castle County, seeking an injunction to force the Company
to negotiate with Shamrock Holdings, Inc. ("Shamrock"). In
addition, former stockholders Shaul Shaulson and Harold Kramer
brought claims against the Company in Delaware Chancery Court and
in the Superior Court for the State of California for the County
of Los Angeles, respectively. The California action has been
discontinued. In January 1988, Barry Silverman, Philip Frank,
Shaul Shaulson and Harold Kramer, each a former stockholder of
the Company, filed a Motion for Leave to File a Consolidated and
Amended Complaint (for the purpose of the discussion of this
litigation, the "Amended Complaint") in Delaware Chancery Court
with respect to the Delaware class action, the Shaulson action
and the Kramer action. In the Amended Complaint, these former
stockholders abandoned their previous claim seeking to force the
Company to negotiate with Shamrock, and alleged instead, inter
alia, that the board of directors of the Company breached
fiduciary duties owed to the stockholders of the Company by
virtue of their approval of the offer of WAC to acquire the
Company (the "WAC Offer"). They also alleged in the Amended
Complaint that because the Board rejected a proposal by Shamrock
on October 13, 1987 to negotiate for a purchase by Shamrock of
all outstanding shares of common stock of the Company at a price
of $14.25 per share, subject to Shamrock's ability to obtain
financing and to complete satisfactory due diligence, and
subsequently rejected the Shamrock tender offer of $12.00 per
share, the board of directors of the Company should not then have
accepted the WAC offer for $14.00 per share. Such former stock-
holders further alleged that in deposition testimony given by
various members of the board of directors of the Company such
members of the board of directors of the Company had stated that
they believed at the time of the initial proposal by Shamrock
that the shares were worth in excess of $18.00 per share.
Plaintiffs received permission to file and serve the Amended
Complaint, and in May 1988, the Company filed its answer denying
the material allegations in the Amended Complaint and raising
affirmative defenses thereto.
In August 1993, the parties reached an agreement in
principle to settle the action, subject to Court approval. The
settlement agreement in principle provides for no consideration
to be paid to any former shareholders of Wherehouse, but for
plaintiffs' counsel to apply for an award of legal fees and costs
not to exceed $350,000.
As part of the Acquisition described in Item 1 of this
Annual Report, approximately $18.75 million of the merger
consideration in connection with the Acquisition was deferred and
is subject to offset, to the extent the Company incurs certain
litigation costs, including costs and expenses relating to the
cases entitled McMahan & Company, et al. v. Wherehouse Entertain-
ment, Inc., et al.; Don Thompson v. Wherehouse Entertainment,
Inc., et al.; and Silverman, et al. v. Wherehouse Entertainment,
Inc., et al., as described in the merger agreement with respect
to that Acquisition.
The Company is a party to various other claims, legal
actions and complaints arising in the ordinary course of its
business. In the opinion of management, all such matters are
without merit or involve such amounts that unfavorable disposi-
tion will not have a material impact on the financial position of
the Company.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
PART II
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS.
MARKET INFORMATION
The Company has only one class of common equity outstanding,
all of which is owned by WEI. WEI has only one class of common
equity outstanding, which is owned exclusively by affiliates of
MLCP and certain members of management of the Company. See Item
12 - "Security Ownership of Certain Beneficial Owners and Manage-
ment". There is no established public trading market for the
common equity of WEI.
HOLDERS
As of April 30, 1994, there was one holder of the Company's
common stock and there were 17 holders of common stock, par value
$.10 per share of WEI.
DIVIDENDS
WEI has paid no dividends to its stockholders in either of
the last two fiscal years. Dividends in the amount of $490,339
were paid by the Company to WEI in fiscal year 1994 solely for
the purpose of providing funds to enable WEI to purchase shares
from former members of management pursuant to the Stockholder's
Agreement described in Item 13. No dividends were paid to WEI in
fiscal year 1993. The Company's Bank Credit Agreement among
Wherehouse, as borrower, WEI as guarantor, Bankers Trust Company,
as Agent, and Heller Financial, Inc. as Co-Agent and the
Indenture relating to the Company's 13% Senior Subordinated Notes
Due 2002, Series B, restrict the ability of WEI and the Company
to pay dividends. See Item 7 - "Management's Discussion and
Analysis of Financial Condition and Results of Operation."
Neither the Company nor WEI has any intention of paying cash
dividends on its common stock in the foreseeable future, other
than as may be made in connection with repurchases of restricted
stock in accordance with the Bank Credit Agreement and the
Indenture.
Item 6. SELECTED FINANCIAL DATA
Set forth below are selected consolidated financial data as
of and for the periods indicated below. The financial data was
derived from financial statements of the Predecessor (see Note
(1) below) and Wherehouse. Separate selected financial data for
WEI is not included in this report. Currently, WEI conducts no
independent operations and has no significant assets other than
the capital stock of Wherehouse. The selected financial data
should be read in conjunction with the discussion under Item 7 -
"Management's Discussion and Analysis of Financial Condition and
Results of Operations" and with the financial statements,
including the notes thereto, included elsewhere in this report.
(Dollar amounts in millions)
----------------------------------------------------------------
Company Predecessor(1)
------------------------ --------------------------------------
8 Months 4 Months
Year Ended Ended Ended
January 31, January 31, May 30, Year Ended January 31,
1994 1993 1992 1992 1991 1990
----------- ----------- -------- -------- -------- --------
Income statement data
- ---------------------
Revenue:
Sales $380.2 $249.1 $105.3 $358.6 $352.2 $296.8
Rental revenue 91.6 64.3 29.8 98.9 99.9 91.5
----------- ----------- -------- -------- ------- ---------
471.8 313.4 135.1 457.4 452.1 388.3
Cost and expenses:
Cost of sales 248.0 155.2 66.9 225.5 223.0 189.7
Cost of video
rentals including
amortization 50.8 24.8 7.3 30.9 43.2 41.2
Selling, general
administrative
expenses 196.6 122.9 59.9 179.1 170.1 148.5
Restructuring charges(2) 14.3 --- --- --- --- ---
Interest expense 23.5 15.7 4.9 18.0 20.0 20.9
Other income (0.3) (0.1) (0.1) (0.1) (0.3) (1.3)
----------- ----------- --------- ------- ------- ---------
532.9 318.5 138.9 453.4 456.0 398.9
----------- ----------- --------- ------- ------- ---------
(Loss) income before
income taxes (61.1) (5.1) (3.8) 3.9 (4.0) (10.6)
(Benefit) provision
for income taxes (19.1) (1.3) (1.9) 1.0 (2.8) (5.1)
----------- ----------- --------- ------- ------- ---------
(Loss) income before
extraordinary item(3) (42.1) (3.8) (2.0) 2.9 (1.2) (5.5)
Extraordinary item(4) --- --- (4.5) --- --- ---
----------- ----------- --------- ------- ------- ---------
Net (loss) income(3) ($42.1) ($3.8) ($6.5) $2.9 ($1.2) ($5.5)
Balance sheet data
- ------------------
Working capital
deficiency(5) ($0.5) ($0.5) ($30.7) ($20.5) ($30.5)
Total assets(5) 351.4 374.4 225.7 227.2 235.7
Long-term debt
(including current
portion)(5)(6) 175.1 185.1 110.0 120.5 140.2
Total shareholder's
equity(7) 50.0 62.5 3.7 1.2 2.4
Other information
- -----------------
Ratio of earnings to
fixed charges(8) (9) (9) (9) 1.11x (9) (9)
(1) The Company was acquired in June 1992 by the purchase of all
of WEI's ownership interest in the Company through a merger
transaction in which Grammy Corp. was merged with and into
WEI. The transaction was accounted for using the purchase
method and the term "Predecessor" refers to the predecessor
to the Company for the period from fiscal year 1989 through
May 31, 1992. The transaction caused changes in the basis
of accounting thereby making periods of the Predecessor not
comparable to those of the Company.
(2) See Item 7 "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Results of
Operations."
(3) Earnings per share are omitted for the Company since it is a
wholly-owned subsidiary of WEI.
(4) The extraordinary item represents the write-off of unamor-
tized financing costs and prepayment penalties paid related
to the debt of the Predecessor that was refinanced at the
time of the Acquisition. The loss was $4.5 million, net of
an income tax benefit of $3.0 million.
(5) Certain prior year balances have been restated to conform to
current classifications.
(6) Includes $3.6 million of convertible subordinated deben-
tures.
(7) There were no cash dividends declared during any of the
periods presented above, except for cash dividends in the
amount of $.5 million, $.3 million and $.1 million paid to
WEI, the Company's sole stockholder, in fiscal years 1994,
1992 and 1989, respectively.
(8) For the purpose of computing the ratios of earnings to fixed
charges, earnings consists of income (loss) before income
taxes and fixed charges. "Fixed charges" consists of
interest expense, amortization of debt expenses and the
portion of rental expenses deemed representative of the
interest factor.
(9) Fixed charges exceeded earnings by $10.6, $4.0, $3.8, $5.1,
and $61.1 for fiscal 1990, fiscal 1991, the four months
ended May 31, 1992, the eight months ended January 31, 1993,
and fiscal 1994, respectively.
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
Year Ended January 31, 1994 Compared to Year Ended January 31,
1993
Aggregate net revenues were $471.8 million and $448.5
million for the fiscal years ended January 31, 1994 and January
31, 1993, respectively. This increase of $23.3 million was
principally due to an increase in number of stores from 313 at
January 31, 1993 to 347 (including 4 stores managed by the
Company, for its benefit, under contracts with the owners
thereof) at January 31, 1994, and a 0.14% increase in same-store
revenues (stores open for at least 13 months). During fiscal
1994, in order to achieve additional geographic diversification,
the Company expanded its presence in several western states and
entered new markets in additional western and various mid-western
states through its acquisitions of an aggregate of 39 specialty
music stores from The Record Shop, Inc. and from Pegasus Music
and Video, Inc. Furthermore, during the fiscal year ended
January 31, 1994, the Company opened 6 new stores, managed 4
stores for its own benefit under contract with The Record Shop,
Inc., expanded or remodeled 69 stores and closed 15 stores.
Because the Company expects in the current fiscal year to
focus its efforts towards the improvement of its existing stores
and operations, rather than acquisitions or new store openings,
it can be expected that growth in aggregate net revenues in the
fiscal year ending January 31, 1995 will be dependent primarily
upon increases, if any, in same-store revenues; and thus the
fiscal 1994 increase in aggregate net revenues is not necessarily
indicative of increases to be expected in the current fiscal
year.
The Company will continue to opportunistically evaluate
potential acquisitions which could meet its strategic objectives,
and, if it determines the same to be appropriate, the Company
may, subject to its ability to source additional capital (the
availability of which is currently uncertain), make additional
acquisitions. On a longer-term basis, the Company intends to
continue its growth, both by opening new stores in selected
locations, and by additional acquisitions.
Merchandise sales were $380.2 million and $354.4 million
during the fiscal year ended January 31, 1994 and 1993, respec-
tively, representing an aggregate increase of 7.3% and an
increase of 1.1% on a same-store basis. (See table in Item 1 --
"Business - Merchandise Products and Supply.") The increase in
same-store merchandise sales resulted principally from increased
sales of video games and used compact disc products, which were
newer product lines for the Company, as well as from promotional
markdowns used to generate incremental sales. The Company's
sales of music cassettes continued to decline from the previous
fiscal year due to a continuing shift in consumer demand to
compact discs.
The Company's revenues from the sales of videocassettes have
decreased with the proliferation of competitors' outlets selling
videocassettes and the highly competitive pricing of the product,
particularly from discounters and mass merchandisers. The
Company has implemented new pricing and merchandising strategies
designed to counter this trend. No assurances can be given that
the Company's new strategies will be successful.
Rental revenue includes the rental of videocassettes, video
games and game players, audiocassette books and laser discs.
Approximately 75% of the Company's stores currently offer video-
cassettes and other products for rent. Rental revenue for the
fiscal year ended January 31, 1994 was $91.6 million, a decrease
of 2.6% from the previous fiscal year and a decrease of 3.3% on
a same-store basis.
In spite of the overall increase in the Company's aggregate
net revenues from fiscal 1993 to fiscal 1994, and a slight
increase in the number of stores carrying rental products from
fiscal 1993 to fiscal 1994, the Company continued to experience
declining rental revenues, primarily due to competitive factors
and, to a lesser extent, to the continued maturing of videocas-
settes in the Company's predominant markets, offset to some
extent by the growth in game rental products. It is the
Company's belief that, as a result of the large installed base of
videocassette recorders ("VCRs") in California and its other
major markets, future growth in rental revenue will be primarily
as a result of marketing and other competitive factors, as well
as additional store openings, rather than as a result of
increases in the size of the videocassette rental user market.
In connection with its 1994 Re-Engineering Plan, described below,
the Company has recently implemented new pricing and merchan-
dising strategies designed to increase rental revenue. Nonethe-
less, the Company anticipates that it will continue to experience
strong competition in this area, and no assurance can be given
that the Company's new strategies will be successful.
The Company's business and same-store revenues may be
impacted by various competitive and economic factors, including,
but not limited to, consumer tastes, acquisitions made by the
Company, marketing programs, weather, special events, the quality
of new releases of music, video and game titles available for
sale or rental, and general economic trends impacting retailers
and consumers. In addition, in recent years the Company's
merchandise sales and rental revenue have been impacted by
increased competition from other music and video specialty retail
chains, as well as discounters and mass merchandisers.
During the fiscal year ended January 31, 1994, in response
to various competitive factors and less than favorable economic
conditions, the Company developed, adopted and continued to
refine a multi-faceted re-engineering plan (the "1994 Re-Engin-
eering Plan"), which is designed to improve operating profit by
lowering costs associated with its inventory supply chain and
retail store operations, and to tailor its stores to better
accommodate local consumer tastes and entertainment needs. As
part of this strategic plan, the Company has delegated more power
to its on-site store managers to customize their inventory of
merchandise and rental products, and has further refined its
"value pricing" strategy for videocassette rentals to enable the
store manager to select from a matrix of rental prices those
which best fit the demographics and competitive conditions of his
or her market. The objectives of this strategy are both to
improve profitability and to enable each of the Company's stores
to become "the best store in the neighborhood."
The Company has also, as part of the 1994 Re-Engineering
Plan, developed a video rental remerchandising program, which is
currently scheduled to be implemented during the first half of
the current fiscal year. Under the video rental remerchandising
program, the Company will provide a greater number of "hit" movie
titles at its stores, as well as install new store signage and
fixtures designed specifically to support the program.
The Company believes that its planned marketing and merchan-
dising strategies and its expansion in markets outside of Cali-
fornia should improve its ability to respond to competition from
other retailers. However, the Company can give no assurances
that its marketing and merchandising strategies will be
effective.
The Company's business is seasonal, and, as is typical for
most retailers, its revenues tend to peak during the Christmas
holiday season. See "Seasonality", below.
Cost of sales increased $25.9 million to $248.0 million for
the fiscal year ended January 31, 1994, as compared with $222.1
million for the fiscal year ended January 31, 1993. As a percen-
tage of merchandise sales revenues, cost of sales increased 2.5%
to 65.2% for the fiscal year ended January 31, 1994 versus 62.7%
for the fiscal year ended January 31, 1993. The gross profit
percentage for merchandise sale product was 34.8% and 37.3% for
the fiscal years ended January 31, 1994 and 1993, respectively.
The increase in cost of sales as a percentage of merchandise
sales revenues resulted from increased costs associated with
inventory shrinkage, changes in the product sales mix, higher
return penalties, the utilization by the Company of promotional
markdowns to generate incremental sales, and lower prompt payment
discounts from suppliers. The changes in product sales mix
include an increase in the Company's video game sales business,
which carries lower margins than the Company's other product
lines, along with the continuing shift in consumer demand from
music cassettes to lower-margin compact discs. Additionally,
margins from sales of compact discs and from video games each
declined somewhat from the prior year. Video game sales margins
declined as excess supply necessitated higher promotional mark-
downs. The decreased gross margins were offset, in part, by
improved gross margins for used compact discs, accessories and
personal electronics.
Cost of rentals, including amortization, increased $18.7
million to $50.8 million for the fiscal year ended January 31,
1994, as compared with $32.1 million for the fiscal year ended
January 31, 1993. As a percentage of rental revenue, cost of
rentals increased to 55.5% for the fiscal year ended January 31,
1994 from 34.1% for the fiscal year ended January 31, 1993. The
gross profit percentage for rental revenue was 44.5% and 65.9%
for the fiscal years ended January 31, 1994 and 1993, respective-
ly. The increased cost of rental revenue, including amortiza-
tion, was principally due to a change in accounting estimate for
amortizing the cost of video rental inventory that resulted in a
$20.3 million charge to reduce the carrying value of existing
rental inventory. In prior years, the Company amortized the cost
of video rental inventory under an accelerated method to its
estimated salvage value. During the fiscal year ended January
31, 1994, the Company changed its amortization estimation method
by eliminating its utilization of the half year convention and
salvage value, and by further accelerating the amortization
calculation. The Company believes that the revised amortization
estimate will result in better matching of rental revenue with
the cost of such rental inventory.
For the fiscal year ended January 31, 1994, the change in
the estimate for amortization of video rental inventory resulted
in an increase of $20.3 million (40% of cost of rentals) over
what the cost of rentals would have been if the change had not
been effected. It can be expected that, in future periods, cost
of rentals as a percentage of rental revenue will be somewhat
lower than that experienced in the fiscal year ended January 31,
1994.
Merchandise sales, as a percentage of aggregate net
revenues, increased from 79.0% in the fiscal year ended January
31, 1993 to 80.6% in the fiscal year ended January 31, 1994.
Should the shift in product mix from higher margin rental revenue
to lower margin merchandise sales continue, it can be expected
that the change in the mix of revenue contribution could have an
impact on profitability.
In both the music and rental markets, there has been a
recent trend towards consolidation, and several large regional
retail chains -- many similar to or direct competitors of the
Company -- have been acquired by large national retail chains.
In addition, several major retail chains, including Best Buy,
Blockbuster Entertainment and Virgin Megastores, have announced
plans to increase their retail music store presence in
California. It can thus be expected that the Company will in
future periods experience increased competition from companies
with greater financial resources than the Company, and that
competitive pressures may result in a tightening of gross profit
margins.
Selling, general and administrative expenses, excluding $8.9
million and $7.7 million for the amortization of purchase price
adjustments resulting from acquisitions, were $187.7 million and
$175.0 million for the fiscal years ended January 31, 1994 and
1993, respectively, an increase of $12.7 million, or 7.3%. As a
percentage of aggregate net revenues, selling, general and admini-
strative expenses, excluding amortization of purchase price
adjustments, were 39.8% and 39.0% for the fiscal years ended
January 31, 1994 and 1993, respectively. The increase is
principally due to (i) increased rent and occupancy expenses
resulting from contractual escalations in base rent for existing
stores, leases for new stores and stores acquired during the
year, expenses resulting from lease renewals and increases for
the straight-line effect of scheduled future rent increases, and
(ii) increased semi-variable and payroll expenses attributable to
new stores and acquisitions, a revised corporate salary program,
and a higher administrative headcount than during the previous
fiscal year. The increases in selling, general and administra-
tive expenses were offset, in part, by decreased advertising
expenditures during the fiscal year ended January 31, 1994 as the
Company changed its media strategy from more expensive, image-
building television to greater product emphasis utilizing less
expensive media such as radio, billboards and newspaper. Addi-
tionally, the Company changed the gift structure of its rental
customer loyalty program, which resulted in lower expenses.
Selling, general and administrative expenses include non-cash
provisions for the straight-line effect of scheduled future rent
increases of $4.9 million and $3.5 million for the fiscal years
ended January 31, 1994 and 1993, respectively. Absolute dollar
increases in rent and occupancy expenses are expected to
continue.
As part of the 1994 Re-Engineering Plan, the Company
indentified required changes in systems and operations and,
therefore, assessed the realizable value of certain assets and
the costs of the restructuring measures. As a result, during the
fiscal year ended January 31, 1994, the Company incurred a total
of $14.3 million for restructuring charges (all of which have
resulted from, or were related to, the 1994 Re-Engineering Plan)
as follows (in millions of dollars):
Write-off of property, plant and equipment $ 8.2
Write-off of beneficial leasehold interests
and other assets 4.2
Severance costs 1.4
Consulting fees and other .5
------
$14.3
======
The loss from operations was $37.9 million for the fiscal
year ended January 31, 1994, as compared with income from
operations of $11.6 million for the fiscal year ended January 31,
1993. The decreased operating results principally resulted from
(i) the decreased gross profit for video rental due to the change
in accounting estimate referred to above, and (ii) the restruc-
turing charges discussed above. Excluding the effects of
purchase accounting in both fiscal periods, and excluding both
the change in estimate for amortizing video rental inventory and
the restructuring charges, in the fiscal year ended January 31,
1994, income from operations would have been $8.4 million for the
fiscal year ended January 31, 1994 compared to $22.7 million for
the fiscal year ended January 31, 1993.
Interest expense (net) increased $2.6 million to $23.2
million, as compared with $20.6 million, for the fiscal years
ended January 31, 1994 and January 31, 1993, respectively. The
increase principally resulted from higher overall debt levels
required for the previously-described store acquisitions and the
Acquisition, somewhat offset by lower interest rates on floating
rate debt. Included in interest expense are $1.7 million and
$2.3 million attributable to the amortization of acquisition
financing costs during the fiscal years ended January 31, 1994
and 1993, respectively.
At January 31, 1994, $56.0 million of the Company's long-
term debt (33% of total long-term debt then outstanding) and the
Company's revolving line of credit provided for interest which
varies with changes in the prime rate or other similar interest
rate indexes. A material increase in the prime rate, or other
applicable index rates, could significantly increase the
Company's interest expense. The impact of any such increase is
partially mitigated by an interest rate protection agreement with
a major financial institution covering approximately 40% of the
outstanding balance of the Company's senior term loan. See
"Inflation", below.
The effective tax benefit recorded by the Company on its
loss before income taxes was 31.2% versus 35.2% during the fiscal
years ended January 31, 1994 and January 31, 1993, respectively.
The decrease was principally due to increased goodwill amortiza-
tion resulting from the Acquisition and non-deductible reserve
allowances. The Company's tax benefit for the fiscal year ended
January 31, 1994 and 1993 differed from the statutory rate of 34%
principally due to non-deductible purchase accounting adjust-
ments, reserve allowances, state taxes and job tax credits. As a
result of net operating loss carrybacks, the Company expects to
receive an approximate $5.0 million federal income tax refund
during the second quarter of its current fiscal year. Based upon
the current operations of the Company, and other factors, it is
currently anticipated that net pre-tax losses, if any, realized
during the fiscal year ending January 31, 1995 will not result in
the recording of any additional effective tax benefit by the
Company although such tax benefits would be available to reduce
any future taxes payable if the Company generated future taxable
income.
Year Ended January 31, 1993 Compared to Year Ended January 31,
1992
The following discussion of results of operations for the
fiscal year ended January 31, 1993 includes results of the
Predecessor (see Note (1) to Notes to Consolidated Financial
Statements) for the four months ended May 31, 1992, and the
results of the Company for the eight months ended January 31,
1993.
Aggregate net revenues for the year ended January 31, 1993
were $448.5 million compared to $457.4 million for the year ended
January 31, 1992. This decrease was due to a 4.9% decrease in
same store revenues (stores open for at least 13 months),
partially offset by an increase in the number of stores from 301
at the end of fiscal 1992 to 313 at the end of fiscal 1993. The
decline in same store revenues was largely attributable to
difficult economic conditions, particularly in the state of
California, resulting in reduced revenue volume while unit prices
were generally maintained. Also, civil disturbances in the Los
Angeles market had a temporary negative effect on performance
during the year. Additionally, the introduction in February 1992
of a "value pricing" strategy for videocassette rentals in Los
Angeles, the Company's largest marketing area, and in other
markets, adversely impacted revenues during most of the fiscal
year. The demand for compact discs continued to positively
affect revenues, with CD sales representing $174.3 million or 49%
of merchandise sales for fiscal 1993, compared to $161.0 million
or 45% of merchandise sales for fiscal 1992. The Company does
not believe that the "value pricing" strategy for videocassette
rentals should have a further materially negative impact on
revenues.
Gross profit as a percentage of merchandise sales was 37.3%
in fiscal 1993 compared to 37.1% in fiscal 1992. The increase is
primarily attributable to an increase in supplier's purchase
discounts earned and a reduction in sale inventory shrinkage
partially offset by an increase in promotional markdowns. While
the shift in product mix from higher margin music cassettes to
lower margin compact discs had a negative impact on gross
margins, this was offset by improvement in gross profit margins
on new videocassettes, blank video tape, blank audio tape,
accessories, personal electronics, and concessions.
Gross profit as a percentage of rental revenue was 65.9% for
fiscal 1993 compared to 68.7% for fiscal 1992. The decrease is
primarily attributable to: (i) amortization of purchase
accounting adjustments resulting from the Acquisition, which
represented 3.6% of rental revenue and (ii) a decline in rental
revenue from the Los Angeles "value pricing" strategy, which
lowered the per night rental price. This decrease was partially
offset by (i) a decrease in the book value of rental dispositions
resulting primarily from the sale of older rental inventory
during fiscal 1993 compared to the prior year and (ii) a
reduction in rental inventory shrinkage.
Selling, general, and administrative expenses were 40.7% of
total revenues in fiscal 1993 compared to 39.2% in fiscal 1992.
The increase is primarily due to (i) an increase in rent and
occupancy expense per store resulting from lease renewals,
consumer price index escalations for existing stores, and new
leases for larger stores, (ii) an increase in advertising expendi-
tures, and (iii) the amortization of goodwill and depreciation of
property and equipment resulting from the Acquisition, totalling
1.3% of total revenue. These increases were partially offset by
a reduction in historical depreciation expense and an increase in
other operating income, including financial remuneration from
suppliers to help defray the cost of introducing smaller CD
packaging.
Income from operations decreased to $11.6 million in fiscal
1993, compared to $21.9 million in fiscal 1992, primarily due to
the declines in revenue as explained above, the decrease in
rental gross profit rate related to purchase accounting amortiza-
tion, and the increase in rent and occupancy costs. Excluding
the effects of purchase accounting adjustments in both years,
operating income was $22.7 million in fiscal 1993 compared to
$26.8 million in fiscal 1992.
Net interest expense and other income was $20.6 million or
4.6% of total revenues in fiscal 1993 compared to $17.9 million
or 3.9% of total revenues in fiscal 1992. This increase was
attributable to increased levels of subordinated debt, which was
partially offset by lower interest rates on lower term loan
borrowings and by lower interest rates on comparable revolving
line of credit borrowings.
The Company recorded an effective income tax benefit of
35.2% on its loss before taxes in fiscal 1993, compared to an
effective income tax provision of 26.0% on its income before
taxes in fiscal 1992. The Company's tax benefit in fiscal 1993
and its tax provision in fiscal 1992 differed from the statutory
rate of 34%, primarily as a result of non-deductible purchase
accounting adjustments, state taxes and job tax credits.
As part of the Acquisition, the Company reported a $4.5
million loss as an extraordinary item, net of tax, which
represented the non-cash write-off of unamortized acquisition
financing costs associated with the Adler & Shaykin acquisition
in fiscal 1988 and prepayment penalties associated with the
repayment of debt of the Predecessor that was refinanced at the
time of the Acquisition.
LIQUIDITY AND CAPITAL RESOURCES
During the fiscal year ended January 31, 1994, the Company's
operations generated net cash of $7.1 million compared to $1.3
million during the fiscal year ended January 31, 1993. Operating
cash flows in both fiscal years were primarily used for the
purchase of merchandise and rental video inventory and the
payment of service and supply providers. The increase in cash
flow generated by operations was primarily a result of lower
increases in inventory levels offset by higher operating losses
and the resulting increase in tax refunds receivable for the
carryback of such operating losses.
Cash used in investing activities totaled $24.8 million as
compared to $136.1 million for the fiscal years ended January 31,
1994 and January 31, 1993, respectively. Cash used in investing
activities during the fiscal year ended January 31, 1994 included
approximately $12.2 million for the acquisitions of 39 specialty
music stores from The Record Shop, Inc. and Pegasus Music and
Video, Inc. and $11.8 million for acquisitions of property, plant
and equipment. Acquisitions of property, plant and equipment
increased $2.5 million during the fiscal year ended January 31,
1994 as compared to the prior fiscal year. Property, plant and
equipment acquisitions in both periods were used primarily for
the opening of new stores and the remodeling of existing stores,
and in fiscal 1993, funds were also used for the acquisition of
new equipment for the Company's new distribution center. During
the fiscal year ended January 31, 1993, $125.8 million of the
$136.1 million used for investing activities was due to the
Acquisition of the Company.
Cash provided by financing activities was $16.4 million as
compared to $143.5 million during fiscal years ended January 31,
1994 and 1993, respectively. On January 31, 1994, WEI raised
$30.0 million through the sale of common stock to certain of its
existing stockholders. All of these funds were contributed by
WEI to the capital of the Company and provided permanent
financing for the acquisition of stores from The Record Shop,
Inc. and Pegasus Music and Video, Inc. and for expenses
associated with those acquisitions. In addition, during fiscal
1994, borrowings were reduced by approximately $13.2 million.
During the fiscal year ended January 31, 1993, the $143.5 million
of cash provided by financing activities consisted principally of
a $70.3 million capital contribution and a net increase in
borrowings, principally for new senior subordinated debt, both of
which are attributable to the Acquisition.
The Company's operations used net cash of $1.3 million for
the year ended January 31, 1993 compared to the generation of
$29.5 million for the year ended January 31, 1992. The decrease
was primarily a result of an increase in merchandise inventory
due to the introduction of new product lines and the expansion of
certain existing product lines, the introduction of a value
pricing strategy for videocassette rentals, and the extended
economic recession in California. In addition to the changes in
inventory, other factors affecting working capital were: (i) an
increase in receivables partially related to insurance receiv-
ables, the timing of credit card receipts at year-end, and
reimbursement from landlords, and (ii) an increase in accounts
payable and accrued expenses related primarily to increases in
interest and sales taxes payable, offset by slight decreases in
accounts payable and other accrued expenses. The increase in
interest payable was attributable to higher debt levels and a
change in the timing of the due date for interest on subordinated
debt. The sales taxes payable increase was also attributable to
timing differences on the due date. Video rental purchases were
less during fiscal 1993 than in the prior year due to more
efficient utilization by the Company of the videocassette rental
inventory.
Cash used in investing activities totalled $136.1 million
compared to $14.2 million in the 1993 and 1992 fiscal years,
respectively. The $136.1 million included $125.8 million to
complete the Acquisition of the Company. The remainder was used
primarily for opening new stores, remodeling existing stores, and
acquiring fixtures and equipment for the new distribution center.
Capital expenditures, including equipment under capital leases,
totalled $12.9 million in fiscal 1993, up $1.2 million from
fiscal 1992.
Cash provided by financing activities was $143.5 million
compared to $16.9 million of cash used in financing activities in
the 1993 and 1992 fiscal years, respectively. The $143.5 million
consisted primarily of a $70.3 million capital contribution and a
net increase in borrowings, principally for new senior
subordinated debt, both of which were related to the Acquisition.
The Company's institutional indebtedness currently includes
the following:
i) a senior term loan in the original principal amount of
$65.0 Million. As of January 31, 1994, the outstanding indebted-
ness was $56.0 million. This facility matures in January 1998,
with principal payments made in installments of varying amounts,
and with interest payments due quarterly on prime-based
borrowings and upon maturity for Eurodollar-based borrowings.
Borrowings under the term loan bear interest at Prime plus 1.5%
or Eurodollar plus 3.0%.
ii) $110 Million in Senior Notes (the "Notes"). The Notes
mature in August, 2002 and bear interest at 13% per annum,
payable semi-annually. The Company is required to make sinking
fund payments in August 2000 and August 2001 of $27.5 million
each to allow for the redemption of a maximum of 50% in principal
amount of the Notes at a price equal to 100% of the principal
amount redeemed plus accrued interest thereon.
iii) revolving line of credit in the amount of $45.0
million. Borrowings under the facility bear interest at the same
rates as the term loan. As of January 31, 1994, the outstanding
indebtedness on this facility was $4.0 million. Within the
capacity of the revolving line of credit, the Company has a $10.0
million swingline facility to accommodate daily fluctuations in
its working capital. Borrowings under the swingline bear
interest at the rate of prime plus 1.0%. Both of these facili-
ties mature in January 1998.
These debt agreements require the Company to meet certain
restrictive covenant tests at periodic intervals, and, as is
customary for such borrowings, include such factors as mainte-
nance of financial ratios and limitations on dividends, capital
expenditures, transactions with affiliates, and other indebted-
ness, and, under the revolving line of credit and swingline
facility, a thirty day "clean-down", during which borrowings
thereunder are not permitted. As of January 31, 1994, the
Company was in compliance with all such covenants. The Company
did not satisfy the entire "clean-down" period during the year
ended January 31, 1994 and obtained a waiver with respect thereto
from its lenders.
As of January 31, 1994, the Company had outstanding, net of
unamortized discount, $3.6 million of its 6 1/4% convertible
subordinated debentures, issued July 1986, representing $5.7
million in principal amount. These debentures mature in July
2006; all sinking fund payment obligations of the Company, for
the balance of the term of the debentures, have been satisfied.
The Company is highly leveraged, and results of operations
have been, and will continue to be, affected by the increased
interest expense and amortization of goodwill recorded in
connection with the Acquisition.
As of April 1, 1994, the Company has signed lease commit-
ments to open two new stores and may open additional stores over
the next twelve months. While the Company can reasonably esti-
mate the cost to open a new store, the actual number and types of
stores opened will depend upon the Company's ability to locate
and obtain appropriate sites and upon its financial position.
See "Results of Operations", above. The Company may, subject to
its ability to source additional capital, make additional acqui-
sitions if it determines such acquisitions to be appropriate.
While certain expenditures during the next twelve months
will be higher than in prior periods, management believes that
current cash flows from operations and borrowings under the
revolving credit facility will be adequate to meet the Company's
liquidity requirements. Debt service requirements are expected
to be funded through internal cash flow or through refinancing in
outlying years.
SEASONALITY
The Company's business is seasonal, and revenues and
operating income are highest during the fourth quarter. Working
capital deficiencies and related bank borrowings are lowest
during the period commencing with the end of the Christmas
holidays and ending with the close of the Company's fiscal year.
Beginning in February, working capital deficiencies and related
bank borrowings have historically trended upward during the year
until the fourth quarter. Bank borrowings have historically been
highest in October and November due to cumulative capital expen-
ditures for new stores and the building of inventory for the
holiday season.
INFLATION
Inflation has not had a material effect on the Company, its
operations and its internal and external sources of liquidity and
working capital. However, interest rate increases, beyond
current levels, could have an impact on the Company's operations.
The impact on the Company of interest rate fluctuations is
partially mitigated by an interest rate protection agreement with
a major financial institution covering approximately 40.0% of the
outstanding balance of the senior term loan at January 31, 1994.
Such agreement limits the net interest cost to the Company out-
side a specified range on the amounts covered by the agreement.
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
See Index to Financial Statements and Financial State-
ment Schedules appearing on page F-0 of this report.
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
PART III
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The following table sets forth certain information concern-
ing the persons who are directors and executive officers of the
Company and, where indicated, WEI:
Age at
April 1,
Name Position 1994
- ----------------- --------------------------------- -----
Scott Young Chief Executive Officer, 47
Chairman of the Board and
Director of the Company and WEI
Jerry E. Goldress President and Chief Operating 63
Officer
Cathy L. Wood Senior Vice President, Chief 46
Financial Officer and Secretary
of the Company and WEI
Barbara C. Brown Senior Vice President, Sales and 42
Operations
Kathy J. Ford Vice President, Controller of the 46
Company and WEI
Anne E. McLaughlin Vice President, Treasurer and 37
Assistant Secretary of the
Company and WEI
James J. Burke, Jr. Director of the Company and WEI 42
Gerald S. Armstrong Director of the Company and WEI 50
Rupinder S. Sidhu Director of the Company and WEI 37
Bradley J. Hoecker Director of the Company and WEI 32
Scott Young, Chief Executive Officer, Chairman of the Board
and Director of the Company and WEI. Mr. Young joined Wherehouse
in March 1987 as Senior Vice President, Marketing and became
Executive Vice President and Chief Operating Officer later that
year and President in 1988. Mr. Young was named Chief Executive
Officer of the Company in March 1990, and Chairman of the Board
of the Company and WEI in June 1992. Mr. Young has been a member
of the Board of Directors of the Company and WEI since March
1990. From 1984 to 1987, Mr. Young served as a consultant to the
music industry and as Senior Vice President, Marketing during the
start-up phase of Personics, Inc. From 1980 to 1984, Mr. Young
owned Franklin Music, an eight-store chain based in Atlanta.
From 1977 to 1980, he served as General Manager, Executive Vice
President of Musicland. Mr. Young currently serves as President
on the board of the National Association of Recording
Merchandisers.
Jerry E. Goldress, President and Chief Operating Officer.
Mr. Goldress originally joined the Company in February 1988. Mr.
Goldress was Chairman of the Board of the Company from February
1988 to June 1992 and Chief Executive Officer of the Company from
February 1988 to March 1990. Mr. Goldress was a Director of the
Company from January 1988 to June 1992. Mr. Goldress returned to
the Company in August 1993 as President and Chief Operating
Officer. Mr. Goldress is currently Chairman of Grisanti, Galef &
Goldress, Inc. (a management consulting firm) and has been
employed by that company since 1973. All positions with the
Company which have been, and which currently are, held by Mr.
Goldress have been pursuant to consulting agreements with
Grisanti, Galef & Goldress. Mr. Goldress has been a general
partner of A&S since 1987. Mr. Goldress has served in the office
of the Chairman of the Board of Best Products Co., Inc. since
June 1991. He is a Director of Dreco Energy Services Ltd. As a
management consultant, Mr. Goldress provides assistance to
businesses in financial difficulty and, in the course of
providing such assistance, is frequently appointed a director and
an executive officer of such businesses. Often such businesses
are involved in bankruptcy or other reorganization proceedings.
Cathy L. Wood, Senior Vice President, Chief Financial
Officer and Secretary of the Company and WEI. Ms. Wood joined
the Company in 1989, with responsibilities including real estate,
store design and construction. In 1991, Ms. Wood assumed respon-
sibility for strategic planning and was appointed Senior Vice
President, Planning and Development. In April 1993, Ms. Wood was
named acting Chief Financial Officer and in August 1993, Ms. Wood
was appointed Senior Vice President and Chief Financial Officer
of the Company and WEI. From 1973 to 1989, she was employed by
Mellon Bank N.A.
Barbara C. Brown, Senior Vice President, Sales and Opera-
tions of the Company. Ms. Brown joined the Company in 1973.
She became Vice President, Sales and Operations in 1986 and was
promoted to Senior Vice President in 1991. Prior to 1986, Ms.
Brown served in a variety of store operations positions including
Store Manager, District Manager, Assistant Vice President, Store
Operations, and Associate Vice President, Store Operations.
Kathy J. Ford, Vice President, Controller of the Companyand
WEI. Ms. Ford has been with the Company since February 1988.
She became Vice President, Controller in June 1990 and prior to
that served as Assistant Vice President, Assistant Controller.
From 1985 to 1987, Ms. Ford was Controller of Ryan-McFarland
Corporation. Ms. Ford was employed by Deloitte Haskins & Sells
from 1979 to 1985, most recently serving as Manager of Audit
Services. She is a member of the American Institute of Certified
Public Accountants and the California Society of Certified Public
Accountants.
Anne E. McLaughlin, Vice President, Treasurer and Assistant
Secretary of the Company and WEI. Ms. McLaughlin has been with
the Company since August 1991. She became Vice President,
Treasurer in September 1992 and prior to that served as
Treasurer. From 1987 to 1991, Ms. McLaughlin was a Vice
President in the Corporate Banking Division of HomeFed Bank.
James J. Burke, Jr., Director of the Company and WEI since
June 1992. Mr. Burke has been a Director of MLCP since 1985 and
President and Chief Executive Officer of MLCP since 1987. Mr.
Burke was a Vice President of Merrill Lynch Pierce Fenner & Smith
Incorporated ("MLPF&S") from 1983 until 1988 and has been a First
Vice President since 1988 and a Managing Director of MLPF&S since
1985. Mr. Burke is a director of Amstar Corporation, Borg-Warner
Corporation, Supermarkets General Holdings Corporation, AnnTaylor
Stores Corporation, Londontown Holdings Corp., Oscar I Corpora-
tion and United Artists Theatre Circuit, Inc.
Gerald S. Armstrong, Director of the Company and WEI since
April 1993. Mr. Armstrong has been a Director of MLCP since
1988, an Executive Vice President of MLCP from 1988 until 1993,
and a Partner of MLCP since 1993. Mr. Armstrong has been a
Managing Director of the Investment Banking Division of MLPF&S
since November 1988. From January to November 1988, he was
President and Chief Executive Officer of Printing Finance
Company, Inc., a printing company, and from March 1985 to January
1988, he was Executive Vice President and Chief Operating Officer
of PACE Industries, Inc., a manufacturing and printing company.
Mr. Armstrong is also a Director of AnnTaylor Stores Corporation,
London Fog Corporation, Beatrice Foods, Inc., First USA, Inc.,
Blue Bird Corporation, and World Color Press, Inc.
Rupinder S. Sidhu, Director of the Company and WEI. Mr.
Sidhu has been a Director of MLCP since 1988, was a Senior Vice
President from 1988 until 1993 and has been a Partner of MLCP
since 1993. Mr. Sidhu has been a Managing Director of MLPF&S
since 1989, and was a Vice President of MLPF&S 1984 until 1988.
Mr. Sidhu is a Director of Eckerd Corporation, Clinton Mills,
Inc., John Alden Financial Corporation and First USA, Inc.
Bradley J. Hoecker, Director of the Company and WEI. Mr.
Hoecker has been a Principal of MLCP since 1993. Mr. Hoecker was
an Associate of MLCP from 1989 to 1993 and MLPF&S since 1989.
From 1984 to 1987, Mr. Hoecker was employed by Bankers Trust
Company.
Each director of the Company and WEI is elected annually and
serves until the next annual meeting or until his successor is
duly elected and qualified. Messrs. Armstrong, Sidhu, and
Hoecker serve as members of the audit committees and Messrs.
Burke, Armstrong and Sidhu serve as members of the compensation
committees of the board of directors of the Company and WEI.
Each executive officer of the Company and WEI serves at the
discretion of the board of directors of the Company and WEI,
respectively.
Under the Stockholders' Agreement (See Item 13 of this
Annual Report), if any of Scott Young, James J. Burke, Jr.,
Rupinder S. Sidhu, Warner A. Fite and Bradley J. Hoecker are
unwilling or unable to serve, or otherwise cease to serve, as
directors of WEI, then the shareholders of the Company controlled
by or affiliated with MLCP or one of its affiliates (the "ML
Investors") will be entitled to fill the resulting vacancies on
the board. In addition, the Stockholders' Agreement provides
that the ML Investors are entitled to nominate successors to all
WEI directors and that the stockholders of WEI will cooperate in
any removal of directors proposed by the ML Investors. On April
29, 1993, Warner A. Fite resigned as director of WEI and the
Company and on April 30, 1993 was replaced by Gerald S. Armstrong
in accordance with the Stockholders' Agreement.
Item 11. EXECUTIVE COMPENSATION.
SUMMARY OF CASH AND CERTAIN OTHER COMPENSATION
The following table sets forth, for the fiscal years ended
January 31, 1994, January 31, 1993, and January 31, 1992, the
cash compensation paid by WEI and its subsidiaries, as well as
certain other compensation paid or accrued for each such fiscal
year, to each of the five most highly compensated executive
officers of WEI (considering Mdms. Wood and Brown, Senior Vice
Presidents of the Company, and Mdm. Ford, Vice President of the
Company to be executive officers of WEI) who were officers on
January 31, 1994, and to Scott A. Hessler, former Senior Vice
President, Marketing and Merchandising of the Company, who ceased
to be an executive officer on January 18, 1994, (collectively,
the "named executive officers") in all capacities in which they
served. All compensation with respect to Mr. Goldress was paid
to Grisanti, Galef & Goldress, a management consulting firm in
which Mr. Goldress is a principal.
SUMMARY COMPENSATION TABLE
Long-Term
Annual Compensation Compensation
--------------------------------- ------------
Other Annual No. of Sec. All Other
Name and Fiscal Salary Bonus Compensation Underlying Compensation
Principal Position Year ($)(b) ($) ($) Options ($)
- ------------------------------------------------------------------------------------------
Scott Young 1994 421,155 --- 45,962(c) --- 39,484(j)
Chairman, Chief 1993 357,040 13,425 243,839(d) 67,000 25,121(k)
Executive Officer 1992 320,959 95,360 --- --- ---
Scott A. Hessler(a) 1994 260,673 --- --- --- 289,963(l)
Senior Vice President, 1993 177,981 20,143 --- 5,700 9,401(m)
Marketing and 1992 --- --- --- --- ---
Merchandising
Cathy L. Wood 1994 187,849 --- --- --- 39,799(n)
Senior Vice President, 1993 102,440 8,322 16,925(e) 5,600 39,899(o)
Chief Financial 1992 105,286 34,670 --- --- ---
Officer and Secretary
of the Company and WEI
Barbara C. Brown 1994 155,625 --- 18,457(f) --- 24,819(p)
Senior Vice President, 1993 131,348 6,022 20,009(g) 13,500 11,877(q)
Sales and Operations 1992 133,470 69,193 --- --- ---
Kathy J. Ford 1994 104,310 --- 14,707(h) --- 11,045(r)
Vice President, 1993 89,040 10,452 15,663(i) 5,205 4,269(s)
Controller 1992 83,716 31,789 --- --- ---
Jerry E. Goldress 1994 100,000 --- --- --- 150,000(t)
President, Chief 1993 105,931 --- --- --- 135,000(u)
Operating Officer 1992 275,000 --- --- --- ---
(a) On January 18, 1994, Mr. Hessler ceased to be an executive
officer of the Company.
(b) Includes amounts deferred at the election of the named
executive officer pursuant to the Company's 401(k) plan.
Employees may contribute to the 401(k) plan on a pre-tax
basis, not to exceed $8,994 in fiscal 1994.
(c) Includes a $38,762 bonus to cover interest expense on Mr.
Young's Management Note (see Item 13, below), with a "gross-
up" to cover income taxes related to the bonus.
(d) Includes a $215,140 bonus to cover interest expense on loans
made by WEI to Mr. Young in connection with prior purchases
of common stock of WEI, with a "gross-up" to cover income
taxes related to the bonus.
(e) Includes a $7,128 bonus to cover interest expense on loans
made by WEI to Ms. Wood in connection with prior purchases
of common stock of WEI, with a "gross-up" to cover income
taxes as related to the bonus. Also included is a $7,200
annual automobile allowance.
(f) Includes an $11,257 bonus to cover interest expense on Ms.
Brown's Management Note (see Item 13, below), with a "gross-
up" to cover income taxes related to the bonus. Also
included is a $7,200 automobile allowance.
(g) Includes a $6,565 bonus to cover interest expense on loans
made by WEI to Ms. Brown in connection with the prior
purchases of common stock of WEI, with a "gross-up" to cover
income taxes related to the bonus. Also includes a $6,244
bonus to cover interest expense on Ms. Brown's Management
Note (see Item 13, below), with a "gross-up" to cover income
taxes related to the bonus. Also included is a $7,200
annual automobile allowance.
(h) Includes a $7,507 bonus to cover interest expense on Ms.
Ford's Management Note (see Item 13, below), with a "gross-
up" to cover income taxes related to the bonus. Also
included is a $7,200 annual automobile allowance.
(i) Includes a $7,200 annual automobile allowance. Also
included is a $4,299 bonus to cover interest expense on
loans made by WEI to Ms. Ford in connection with the prior
purchases of common stock of WEI, with a "gross-up" to cover
income taxes related to the bonus. Also included is a
$4,164 bonus to cover interest expense on Ms. Ford's
Management Note (see Item 13, below), with a "gross-up" to
cover income taxes related to the bonus.
(j) The amount shown includes $16,865 paid on behalf of Mr.
Young and his family for medical expenses not covered by the
Company's group medical insurance plan. Also included are
$14,352 of premiums paid for term life insurance and $8,268
for matching contributions to the Company's 401(k) plan made
on behalf of Mr. Young.
(k) Includes $14,352 of premiums paid for term life insurance.
Also included are $9,693 paid on behalf of Mr. Young and his
family for medical expenses not covered by the Company's
group medical insurance plan and $1,076 for matching contri-
butions to the Company's 401(k) plan made on behalf of Mr.
Young.
(l) Includes $265,000 accrued in fiscal 1994 for severance
payable to Mr. Hessler. Also included are $14,796 paid on
behalf of Mr. Hessler and his family for medical expenses
not covered by the Company's group medical insurance plan,
$7,091 of premiums paid for term life insurance and $3,076
for matching contributions to the Company's 401(k) plan made
on behalf of Mr. Hessler.
(m) Includes $8,799 paid on behalf of Mr. Hessler and his family
for medical expenses not covered by the Company's group
medical insurance plan. Also included are $602 of premiums
paid for term life insurance.
(n) Includes $21,876 paid on behalf of Ms. Wood and her family
for medical expenses not covered by the Company's group
medical insurance plan. Also included are $14,481 for
reimbursement of moving expenses and $3,442 of premiums
paid for term life insurance.
(o) Includes $36,457 paid on behalf of Ms. Wood and her family
for medical expenses not covered by the Company's group
medical insurance plan. Also included are $3,442 of
premiums paid for term life insurance.
(p) Includes $19,685 paid on behalf of Ms. Brown and her family
for medical expenses not covered by the Company's group
medical insurance plan. Also included are $1,828 of
premiums paid for term life insurance and $3,306 for
matching contributions to the Company's 401(k) plan made on
behalf of Ms. Brown.
(q) Includes $9,090 paid on behalf of Ms. Brown and her family
for medical expenses not covered by the Company's group
medical insurance plan. Also included are $1,828 of
premiums paid for term life insurance and $959 for matching
contributions to the Company's 401(k) plan made on behalf of
Ms. Brown.
(r) Includes $5,322 paid on behalf of Ms. Ford and her family
for medical expenses not covered by the Company's group
medical insurance plan. Also included are $3,482 of
premiums paid for term life insurance and $2,241 for
matching contributions to the Company's 401(k) plan made on
behalf of Ms. Ford.
(s) Includes $2,611 of premiums paid for term life insurance.
Also included are $991 paid on behalf of Ms. Ford and her
family for medical expenses and $666 for matching contribu-
tions to the Company's 401(k) plan made on behalf of Ms.
Ford.
(t) Includes payments made to Mr. Goldress's consulting company
for services related to the 1994 Re-engineering Plan.
(u) Includes a $135,000 payment made to Mr. Goldress in connec-
tion with the Acquisition.
FISCAL YEAR-END OPTION VALUES
No options were exercised by any of the named executive
officers during the last fiscal year. The following table sets
forth certain information with respect to the named executive
officers concerning the number of shares covered by both
exercisable and unexercisable stock options held as of January
31, 1994. Based upon the Board's determination of the fair
market value of WEI's Common Stock as of January 31, 1994 ($44
per share), none of these options were "in-the-money options."
FISCAL YEAR-END OPTION VALUES
Number of Securities
Underlying
Unexercised Options
at Fiscal Year End
Name Exercisable Unexercisable
- --------------------------------------------------
Scott Young 51,700 15,300
Scott A. Hessler 3,270 2,430
Cathy L. Wood 3,260 2,340
Barbara C. Brown 9,900 3,600
Kathy J. Ford 3,639 1,566
Jerry E. Goldress --- ---
COMPENSATION OF DIRECTORS
The directors of the Company and WEI do not receive compen-
sation for their services as directors or as members of the
committees of the boards of directors of the Company and WEI.
EMPLOYMENT AGREEMENTS
Mr. Young's employment is currently governed by an employ-
ment agreement, the initial term of which will expire in June
1995, between the Company and Mr. Young. Pursuant to the
agreement, Mr. Young's employment will automatically extend for
periods of one year for up to a maximum of four additional
one-year periods, unless the Company gives Mr. Young written
notice of its intention not to renew the employment term at least
365 days prior to the then current expiration of the term. The
agreement provides for, among other things, a base salary of
$300,000 (which may be increased, but not decreased, at the
discretion of the Board of Directors of the Company, and which
shall be adjusted to account for the effects of inflation) and
annual bonuses at the discretion of the Board of Directors of the
Company. If Mr. Young is terminated for "Cause" (as defined in
the employment agreement) or Mr. Young resigns without "Good
Reason" (as defined in the employment agreement), Mr. Young is
entitled to receive unpaid "Base Salary" (as defined in the
employment agreement) and vested benefits with respect to periods
prior to the date of termination or resignation. If Mr. Young is
terminated without "Cause" or resigns with "Good Reason," he is
entitled to receive (a) twice his Base Salary; (b) a pro rata
portion of his bonus or incentive compensation for the fiscal
year during which such termination occurs; and (c) continued
coverage through the expiration date of the employment agreement
under all life, disability, medical, health and accident
insurance at the same coverage level maintained for his benefit
immediately prior to his termination or resignation. Additional-
ly, if he is terminated without "Cause," Mr. Young is entitled to
receive unpaid base salary and vested benefits with respect to
periods prior to the date of termination. The employment
agreement further provides for severance payments equal to the
sum of (x) twice Mr. Young's base salary, (y) unpaid base salary
with respect to periods prior to the date of termination and (z)
a pro rata portion of Mr. Young's bonus compensation for the
fiscal year during which such termination occurs, and benefits in
the event that Mr. Young's employment is terminated without Cause
or that Mr. Young resigns with Good Reason.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The members of the compensation committees of the Company's
and WEI's boards of directors during fiscal year 1994 were
Messrs. Burke, Sidhu, and Hoecker. The members of the compensa-
tion committees of the Company's and WEI's boards of directors
are currently Messrs. Burke, Armstrong, and Sidhu.
Messrs. Burke and Sidhu are each executive officers of MLCP
and Managing Directors of Merrill Lynch & Co., Inc., and Mr.
Hoecker is a Principal of MLCP and an Associate of Merrill Lynch
& Co., Inc. Grammy Corp., WEI and MLCP are affiliates of MLPF&S.
In connection with the sale of the Company's 13% Senior Subordi-
nated Notes due 2002, Series A (the "Old Notes"), which were
exchanged by the holders thereof for Notes on December 4, 1992,
MLPF&S received a fee of $3,850,000 with respect to its activi-
ties as placement agent for the Old Notes. In addition, in
connection with the Acquisition, MLCP received a fee of $2.5
million from, and was reimbursed for the prior payment of
approximately $135,000 by, the Company, and WEI issued 1,590,909
shares of WEI Common Stock (or approximately 93% of the WEI
Common Stock outstanding as of the effective time of the Merger)
to certain limited partnerships of which MLCP or one of its
affiliates is the general partner and a wholly owned subsidiary
of Merrill Lynch & Co., Inc. (collectively, the "ML Investors").
On January 31, 1994, WEI raised $30 million through the
sales of shares of its Common Stock to certain of its share-
holders, all of which are funds managed by MLCP. In connection
with the sale and the concurrent restructuring of the Company's
bank credit agreement, MLCP received a fee of $300,000.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT.
THE COMPANY
The common stock of the Company is the only outstanding
class of its voting securities. WEI owns 10 shares, which
represent 100% of the issued and outstanding shares of the
Company's common stock. WEI's only business interest is its
ownership of the Company. WEI's principal executive offices are
located at c/o Wherehouse Entertainment, Inc., 19701 Hamilton
Avenue, Torrance, California 90502-1334.
WEI
The Common Stock, par value $0.01 per share of WEI (the "WEI
Common Stock") is the only outstanding class of its voting secu-
rities. The following table sets forth, as of April 1, 1994, the
number and percentage of shares of WEI Common Stock beneficially
owned by (i) each person known to WEI to be the beneficial owner
of more than 5% of the outstanding shares of WEI Common Stock,
(ii) each director of the Company and WEI, (iii) each named
executive officer, and (iv) all directors and executive officers
of the Company and WEI as a group. Unless otherwise indicated in
a footnote, each person listed below possesses sole voting and
investment power with respect to the shares indicated as benefi-
cially owned by them, subject to community property laws where
applicable.
Number of
Shares Percentage of
Name and Address Beneficially Outstanding WEI
of Beneficial Owner Owned Common Stock
- ----------------------------------------------------------------------------------
Merrill Lynch Capital Partners, Inc.(1)(2) 1,820,458 76.9%
767 Fifth Avenue
New York, New York 10153
Merrill Lynch & Co., Inc.(1)(3) 452,269 19.1%
250 Vesey Street
North Tower - World Financial Center
New York, New York 10281
Scott Young(4) 117,986 4.9%
Wherehouse Entertainment, Inc.
19701 Hamilton Avenue
Torrance, California 90502-1334
Scott A. Hessler(5) 4,974 0.2%
Wherehouse Entertainment, Inc.
19701 Hamilton Avenue
Torrance, California 90502-1334
Cathy L. Wood(6) 6,244 0.3%
Wherehouse Entertainment, Inc.
19701 Hamilton Avenue
Torrance, California 90502-1334
Barbara C. Brown(7) 21,147 0.9%
Wherehouse Entertainment, Inc.
19701 Hamilton Avenue
Torrance, California 90502-1334
Kathy J. Ford(8) 6,138 0.3%
Wherehouse Entertainment, Inc.
19701 Hamilton Avenue
Torrance, California 90502-1334
Jerry E. Goldress --- 0.0%
Wherehouse Entertainment, Inc.
19701 Hamilton Avenue
Torrance, California 90502-1334
James J. Burke, Jr.(9) --- 0.0%
Merrill Lynch Capital Partners, Inc.
767 Fifth Avenue
New York, New York 10153
Gerald S. Armstrong(9) --- 0.0%
Merrill Lynch & Co., Inc.
250 Vesey Street
North Tower - World Financial Center
New York, New York 10281
Rupinder S. Sidhu(9) --- 0.0%
Merrill Lynch Capital Partners, Inc.
767 Fifth Avenue
New York, New York 10153
Bradley J. Hoecker(9) --- 0.0%
Merrill Lynch Capital Partners, Inc.
767 Fifth Avenue
New York, New York 10153
All directors and executive officers
as a group(10) (7 persons) 157,630 6.5%
(1) Entities affiliated with Merrill Lynch & Co., Inc.,
including MLCP, beneficially own an aggregate of 2,272,727
shares, which represents approximately 96% of the outstand-
ing WEI Common Stock.
(2) MLCP is a subsidiary of Merrill Lynch & Co., Inc. and an
affiliate of MLPF&S. Shares of WEI Common Stock benefi-
cially owned by MLCP are owned of record as follows:
1,103,219 (46.6% of outstanding WEI Common Stock) by Merrill
Lynch Capital Appreciation Partnership No. B-XXI, L.P.;
699,062 (29%) by ML Offshore LBO Partnership No. B-XXI; and
18,177 (0.8%) by MLCP Associates L.P. No. II. MLCP is the
indirect managing general partner of Merrill Lynch Capital
Appreciation Partnership No. B-XXI, L.P. and ML Offshore LBO
Partnership No. B-XXI and the general partner of MLCP
Associates L.P. No. II. The address for Merrill Lynch
Capital Appreciation Partnership No. B-XXI, L.P. and MLCP
Associates L.P. No. II is c/o MLCP, 767 Fifth Avenue, New
York, New York 10153. The address for ML Offshore LBO
Partnership No. B-XXI is P. O. Box 25, Roseneath, The
Grange, St. Peter Port, Guernsey Channel Island, British
Isles.
(3) Shares of WEI Common Stock beneficially owned by Merrill
Lynch & Co., Inc., excluding shares beneficially owned by
MLCP as set forth in note (2) above, are owned of record as
follows: 429,542 (18.2% of outstanding WEI Common Stock) by
ML IBK Positions, Inc.; and 22,727 (1%) by Merrill Lynch
KECALP L.P. 1991. The address for each such record holder
is 250 Vesey Street, North Tower - World Financial Center,
New York, New York 10281.
(4) Includes 51,700 shares subject to vested options under the
WEI Management Stock Option Plan which are currently
exercisable. Includes 11,226 shares of WEI Common Stock
owned by Mr. Young which are referred to as "Unvested WEI
Common Stock" in Item 13 of this Annual Report. Includes
7,728 shares pledged to WEI as security for Mr. Young's
Management Note (see Item 13 of this Annual Report).
(5) Includes 3,270 shares subject to vested options under the
WEI Management Stock Option Plan which are currently
exercisable.
(6) Includes 3,260 shares subject to vested options under the
WEI Management Stock Option Plan which are currently
exercisable. Includes 610 shares which are referred to as
"Unvested WEI Common Stock" in Item 13 of this Annual
Report. Includes 947 shares pledged to WEI as security for
Ms. Wood's Management Note (see Item 13 of this Annual
Report).
(7) Includes 9,900 shares subject to vested options under the
WEI Management Stock Option Plan which are currently
exercisable. Includes 1,990 shares which are referred to as
"Unvested WEI Common Stock" in Item 13 of this Annual
Report. Includes 2,274 shares pledged to WEI as security
for Ms. Brown's Management Note (see Item 13 of this Annual
Report).
(8) Includes 3,639 shares subject to vested options under the
WEI Management Stock Option Plan which are currently
exercisable. Includes 515 shares which are referred to as
"Unvested WEI Common Stock" in Item 13 of this Annual
Report. Includes 1,516 shares pledged to WEI as security
for Ms. Ford's Management Note (see Item 13 of this Annual
Report).
(9) Messrs. Burke, Armstrong, Sidhu and Hoecker are directors of
the Company and WEI and officers of MLCP and Merrill Lynch &
Co., Inc., and may be deemed to beneficially own all of the
2,272,727 shares of Common Stock beneficially owned by
Merrill Lynch & Co., Inc. and MLCP. Messrs. Burke,
Armstrong, Sidhu and Hoecker each disclaim beneficial
ownership of these shares.
(10) Includes 72,569 shares subject to vested options under the
WEI Management Stock Option Plan which are currently
exercisable. Includes 14,341 shares which are referred to
as "Unvested WEI Common Stock" in Item 13 of this Annual
Report. Includes 12,465 shares pledged to WEI as security
for Management Notes.
PLEDGE OF COMMON STOCK OF THE COMPANY
As security for the term facility and the revolving credit
facility under the Bank Credit Agreement (see Item 7 of this
Annual Report), the lenders thereunder have been granted (i) a
first priority pledge by WEI of the capital stock of the Company
and (ii) a first priority lien on all or substantially all of
WEI's and the Company's assets other than sale inventory, except
that mortgages on the real property and leaseholds owned,
directly or indirectly, by the Company have not been granted and
will be granted by the Company only as requested by Agent and
Requisite Lenders (as defined in the Bank Credit Agreement). In
addition, the Company is prohibited from granting a security
interest on any of its unencumbered assets.
If the Company fails to repay any of its outstanding indebt-
edness to the lenders under the Bank Credit Agreement or if any
other event of default should occur under the Bank Credit Agree-
ment, the Banks may, among other things, foreclose on their
security interest in the Company's capital stock and acquire
control of the Company.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
On January 31, 1994, certain existing stockholders of the
Company (all of which were affiliated with Merrill Lynch & Co.,
Inc.) acquired 681,818 shares of WEI Common Stock from WEI for
$30 million. In connection with the transaction and the restruc-
turing of the Company's bank credit agreement, MLCP received a
fee of $300,000. Four of the directors of the Company and WEI
are executive officers of MLCP and Merrill Lynch & Co., Inc.
In connection with the Acquisition described in Item 1 of
this Annual Report, certain members of management (the "Manage-
ment Investors") executed new non-recourse notes in exchange for
notes originally executed by them in connection with their
purchases of shares of WEI prior to the Acquisition. The
following table sets forth the outstanding principal balance of
the notes of each of the named executive officers (the "Manage-
ment Notes"), which amounts have remained unchanged since the
beginning of the last fiscal year. The Management Notes bear
interest at the rate of 7% per annum:
Name Principal Balance
Scott Young $340,000
Scott A. Hessler 0
Cathy L. Wood 41,533
Barbara C. Brown 99,867
Kathy J. Ford 66,600
Jerry E. Goldress 0
To secure repayment of the Management Notes, each maker
pledged to WEI the number of shares of WEI Common Stock purchased
by such maker with an original purchase price greater than or
equal to 100% of the original principal amount of such maker's
Management Note.
Under a Stockholders' Agreement among WEI, certain Manage-
ment Investors and certain other shareholders of the Company, a
portion of the WEI Common Stock owned by the Management Investors
is deemed to be "unvested" (the "Unvested WEI Common Stock"), and
is currently held by WEI in trust for the benefit of the Manage-
ment Investors.
In connection with the Acquisition, approximately $18.75
million of the Merger consideration was deferred, and is subject
to reduction to the extent that the Company incurs certain liti-
gation costs, including costs relating to the McMahan, Thompson
and Silverman actions described in Item 3 of this Annual Report.
Currently, the balance of this deferred account (including
interest thereon), net of costs incurred to date, approximates
$19.3 million. Under the Stockholders' Agreement, "vesting" of
the Unvested WEI Common stock will be based upon the percentage
of such deferred amount which is actually paid to the selling
parties in the Merger.
The Stockholders' Agreement provides that any shares of
Unvested WEI Common Stock remaining after the remaining deferred
amounts have been fully distributed will be cancelled, and each
Management Investor who would otherwise be entitled to such
shares of Unvested WEI Common Stock (assuming they had vested)
will have the right, exercisable within 90 days after the date of
such cancellation, to purchase a number of shares of WEI Common
Stock equal to the number of shares of Unvested WEI Common Stock
so canceled, at a cash purchase price of $44 per share.
Pursuant to the terms of the Stockholders' Agreement, all
shares of WEI Common Stock purchased in connection with the
Acquisition by the Management Investors or issued upon exercise
of options are subject to certain restrictions on transfer and
certain put and call arrangements in the event that the holder of
such shares terminates his or her employment with WEI or any of
its subsidiaries.
Management Investors have the right to put their shares and
options to WEI in the event of death, disability, retirement or
termination without cause for a "fair value price" determined in
good faith by the board of directors of WEI, less the applicable
per share exercise price, in the case of options. WEI has the
right to call shares and options held by a Management Investor if
such Management Investor's employment terminates. In the event
of termination without cause, death, disability or retirement,
such call shall be exercisable at a price equal to the fair value
price of the stock or options determined in good faith by the
board of directors of WEI, less the applicable per share exercise
price, in the case of options. In the event of termination for
cause or voluntary resignation, such call shall be exercisable at
a price equal to the lower of (i) the fair value price of the
stock or options determined in good faith by the board of
directors of WEI and (ii) $44 per share (the initial cost of such
shares) plus interest thereon at 6.5% per annum, provided that
the board of directors of WEI will consider increasing such call
price (but not in excess of the fair value price of such stock or
options, determined in good faith by the board of directors of
WEI) in the case of voluntary resignation, depending on the
circumstances. Payments under the puts and calls are limited
under the Bank Credit Agreement and the Indenture, as applicable.
Under certain circumstances, WEI may issue junior subordinated
notes in payment for all or a portion of the shares acquired
under exercise of a put or call.
Pursuant to the Stockholders Agreement, and in connection
with the termination of Mr. Hessler's employment with WEI and the
Company, WEI will repurchase all of Mr. Hessler's shares and
vested options for an aggregate purchase price of $74,976 (based
on a $44 per share fair value price).
As part of the 1994 Re-engineering Plan, the Company entered
into a management consulting agreement with Grisanti, Galef &
Goldress whose chairman, Mr. Goldress, provided services first by
leading the re-engineering project and then as an officer of the
Company. The current agreement specifies monthly payments of
$25,000. During fiscal 1994, $250,000 was paid under this
agreement.
The Company receives credit card processing services from
First USA, Inc. under a three year agreement ending April 1996.
Affiliates of MLCP held a controlling interest in First USA, Inc.
until February 1993. During fiscal 1994, $1,742,000 was paid
under this agreement.
PART IV
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS
ON FORM 8-K.
(a) Documents filed as part of this report.
1. Financial statements.
See Index to Financial Statements and Financial Statement
Schedules which appears on page F-0 hereof.
2. Financial statement schedules.
See Index to Financial Statements and Financial Statement
Schedules which appears on page F-0 hereof.
All other schedules are omitted as the required information
is inapplicable or the information is presented in the consoli-
dated financial statements or related notes.
3. Exhibits
2.1 Merger Agreement, dated as of May 5, 1992, by
and among Grammy Corp., WEI, the Company and
A&S. Incorporated by reference to Exhibit 1
of the Company's Current Report on Form 8-K
dated May 6, 1992.
3.1 Restated Certificate of Incorporation of the
Company. Incorporated be reference to
Exhibit 3.1 of the Company's Annual Report on
Form 10-K for the year ended January 31, 1988
(the "1988 Report").
3.2 By-laws of the Company. Incorporated by
reference to Exhibit 3.2 of the 1988 Report.
3.3 Restated Certificate of Incorporation of WEI.
Incorporated by reference to Exhibit 2.2 of
the Company's Registration statement on Form
S-1, Registration No. 335166 (the "Registra-
tion Statement").
3.4 By-laws of WEI. Incorporated by reference to
Exhibit 3.4 of the Registration Statement.
4.1 Indenture, dated as of June 15, 1986, between
the Company and Bank of America National
Trust and Savings Association. Incorporated
by reference to Exhibit 4(a) of the Company's
Registration Statement on Form S-2, Registra-
tion No. 33-6485.
4.2 First Supplemental Indenture, dated as of
February 11, 1988, between the Company and
Bank of America National Trust and Savings
Association. Incorporated by reference to
Exhibit 4.2 of the 1988 Report.
4.3 Specimen of 13% Senior Subordinated Notes due
2002, Series B. Incorporated by reference to
Exhibit 4.3 of the Registration Statement.
4.4 Indenture, dated as of June 11, 1992, among
Grammy Corp., the Company and the Trustee
relating to the Notes. Incorporated by
reference to Exhibit 4(e) of the Company's
Quarterly Report on Form 10-Q for the quarter
ended April 30, 1992 (the "1992 10-Q").
4.5 Supplemental Indenture, dated as of June 11,
1992, among the Company, WEI and the Trustee
relating to the Notes. Incorporated by
reference to Exhibit 4.5 of the Registration
Statement.
4.6 Securities Purchase Agreement, dated as of
June 11, 1992, among Grammy Corp., the
Company and the purchasers of the Old Notes.
Incorporated by reference to Exhibit 4(f) of
the 1992 10-Q.
4.7 Securities Purchase Assumption Agreement,
dated as of June 11, 1992, executed by the
Company and WEI. Incorporated by reference
to Exhibit 4.7 of the Registration Statement.
4.8 Registration Rights Agreement, dated as of
June 11, 1992, among Grammy Corp., the
Company and the purchasers of the Old Notes.
Incorporated by reference to Exhibit 4(g) of
the 1992 10-Q.
4.9 Registration Rights Assumption Agreement,
dated as of June 11, 1992, executed by the
Company and WEI relating to the Old Notes.
Incorporated by reference to Exhibit 4.9 of
the Registration Statement.
10.1* Employment Agreement, dated as of June 11,
1992, between the Company and Scott Young.
10.2* Fiscal 1991 Corporate Incentive Compensation
Plan. Incorporated by reference to Exhibit
10.4 of the Company's Annual Report for the
year ended January 31, 1991 (the "1991
Report").
10.3* Fiscal 1992 Corporate Incentive Compensation
Plan. Incorporated by reference to Exhibit
10.3 of the Company's Annual Report for the
year ended January 31, 1992 (the "1992
Report").
10.5 Office lease dated as of October 23, 1985, by
and between the Company, as lessee, and
Patrician Associates, Inc. and OMA Harbor
Tech H. Associates, as lessors. Incorporated
by reference to the Company's Report on Form
10-K for the seven months ended January 31,
1986.
10.6 Single Tenant Industrial Lease, dated
November 5, 1991, by and between Watson Land
Company, as lessor, and the Company, as
lessee. Incorporated by reference to Exhibit
10.6 of the 1992 Report.
10.10* WEI Holdings, Inc. 1988 Employee Stock
Purchase and Option Plan. Incorporated by
reference to Exhibit 10.33 of the Annual
Report on Form 10-K for the year ended
January 31, 1989.
10.11* WEI Holdings, Inc. 1990 Employee Stock
Purchase and Option Plan. Incorporated by
reference to Exhibit 10.37 of the 1991
Report.
10.12* Escrow Agreement, dated June 11, 1992, among
A&S, as Representative, WEI and Chase Manhat-
tan Bank, N.A., as Escrow Agent. Incorporated
by reference to Exhibit 10.24 of the
Registration Statement.
10.13 ML Stock Subscription Agreement, dated as of
June 11, 1992, among Grammy Corp. and the ML
Investors listed in Schedule I thereto.
Incorporated by reference to Exhibit 10.25 of
the Registration Statement.
10.14* Management Stock Subscription Agreement,
dated as of June 11, 1992, among Grammy Corp.
and the Management Investors listed on the
signature pages thereto. Incorporated by
reference to Exhibit 10.26 of the Registra-
tion Statement.
10.15 Form of Management Note. Incorporated by
reference to Exhibit 10.27 of the Registra-
tion Statement.
10.16 Form of Stock Pledge Agreement. Incorporated
by reference to Exhibit 10.28 of the Regis-
tration Statement.
10.17* Stockholders' Agreement, dated as of June 11,
1992, among WEI, the Management Investors
listed in Schedule I thereto and the ML
Investors listed in Schedule II thereto.
Incorporated by reference to Exhibit 10.29 of
the Registration Statement.
10.18* WEI Management Stock Option Plan, effective
June 11, 1992. Incorporated by reference to
Exhibit 10.30 of the Registration Statement.
10.19* Form of Incentive Option Agreement. Incorpo-
rated by reference to Exhibit 10.31 of the
Registration Statement.
10.20* Form of Performance Option Agreement. Incor-
porated by reference to Exhibit 10.32 of the
Registration Statement.
10.21 Bank Credit Agreement, dated as of June 11,
1992, among the Company, WEI and Bankers
Trust Company, as Agent and Heller Financial,
Inc. as Co-Agent, including all exhibits
thereto. Incorporated by reference to
Exhibit 4(a) of the 1992 10-Q.
10.22 Borrower Security Agreement, dated as of June
11, 1992, by and between the Company and
Bankers Trust Company, as collateral agent
for and representative of the Lenders. Incor-
porated by reference to Exhibit 4(b) of the
1992 10-Q.
10.23 Holdings Security Agreement, dated as of June
11, 1992, by and between WEI and Bankers
Trust Company, as collateral agent for and
representative of the Lenders. Incorporated
by reference to Exhibit 4(c) of the 1992
10-Q.
10.24 Holdings Pledge Agreement, dated as of June
11, 1992, by and between WEI and Bankers
Trust Company, as collateral agent for a
representative of the Lenders. Incorporated
by reference to Exhibit 4(d) of the 1992
10-Q.
10.25 First Amendment to Credit Agreement dated
November 17, 1992, between the Company, WEI,
Bankers Trust Company, Individually and as
Agent, Heller Financial, Inc., United States
National Bank of Oregon, and Allstate Prime
Income Trust. Incorporated by reference to
Exhibit 10.40 of the Company's Annual Report
on Form 10-K for the year ended January 31,
1993 (the "1993 Report").
10.26 Second Amendment to Credit Agreement dated
August 17, 1993, between the Company, WEI,
Bankers Trust Company, Individually and as
Agent, Heller Financial, Inc., United States
National Bank of Oregon, and Allstate Prime
Income Trust. Incorporated by reference to
Exhibit 10.44 of the Company's Quarterly
Report on Form 10-Q for the quarter ended
July 31, 1993 (the "1993 10-Q").
10.27** Third Amendment to Credit Agreement dated
January 27, 1994, between the Company, WEI,
Bankers Trust Company, Individually and as
Agent, Heller Financial, Inc., United States
National Bank of Oregon, and Allstate Prime
Income Trust.
10.28* Employment Agreement, dated as of September
1, 1992, between the Company and Scott
Hessler. Incorporated by reference to
Exhibit 10.37 of the 1993 Report.
10.29* Fiscal 1993 Corporate Incentive Compensation
Plan. Incorporated by reference to Exhibit
10.41 of the 1993 Report.
10.30 Master Lease Agreement dated October 13,
1992, between United States Leasing Corpora-
tion, as Lessor, and the Company, as Lessee.
Incorporated by reference to Exhibit 10.42 of
the 1993 Report.
10.31 Equipment Lease Agreement dated December 21,
1992, between General Electric Capital
Corporation, as Lessor, and the Company, as
Lessee. Incorporated by reference to Exhibit
10.43 of the 1993 Report.
10.32** Agreement of Purchase and Sale, dated as of
May 10, 1993, between the Company and The
Record Shop, Inc.
10.33** First Amendment to Agreement of Purchase and
Sale, dated as of May 28, 1993, between the
Company and The Record Shop, Inc.
10.34** Second Amendment to Agreement of Purchase and
Sale, dated as of June 18, 1993, between the
Company and The Record Shop, Inc.
10.35** Third Amendment to Agreement of Purchase and
Sale, dated as of June 21, 1993, between the
Company and The Record Shop, Inc.
10.36** Agreement of Purchase and Sale, dated as of
November 19, 1993, between the Company and
Pegasus Music and Video, Inc. and Kevin S.
Garn.
10.37** First Amendment to Agreement of Purchase and
Sale, dated as of January 14, 1994, between
the Company and Pegasus Music and Video, Inc.
and Kevin S. Garn.
10.38** Separation from Employment Agreement and
Mutual General Release, dated April 28, 1994,
between the Company and Scott A. Hessler.
10.39* Fiscal 1994 Corporate Incentive Compensation
** Plan.
12.1** Computation of ratio of earnings to fixed
charges.
21.1** Subsidiaries of the Company and WEI.
_______________
* Management contract or compensatory plan or arrangement
** Filed herewith
(b) Current Reports on Form 8-K.
A current report on Form 8-K, dated June 24, 1993, was
filed by the Company with the Securities and Exchange Commission
on July 6, 1993 to report under "Item 5 - Other Events" the
Company's acquisition of certain assets.
A current report on Form 8-K, dated January 14, 1994,
was filed by the Company with the Securities and Exchange Commis-
sion on January 28, 1994 to report under "Item 5 - Other Events"
the Company's acquisition of certain assets.
A current report on Form 8-K, dated January 31, 1994,
was filed by the Company with the Securities and Exchange
Commission on February 8, 1994 to report the contribution of
$30,000,000 of equity capital and the impact of an earthquake in
the Company's markets.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the
Securities Exchange Act of 1934, the Registrants have duly caused
this report to be signed on its behalf by the undersigned, there-
unto duly authorized.
WEI HOLDINGS, INC.
Date: May 16, 1994 By: /s/ Scott Young
-----------------------------
Scott Young
Chairman of the Board,
Chief Executive Officer
and Director
(Principal Executive
Officer)
WHEREHOUSE ENTERTAINMENT, INC.
Date: May 16, 1994 By: /s/ Scott Young
------------------------------
Scott Young
Chairman of the Board,
Chief Executive Officer
and Director
(Principal 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 Registrants and in the capacities and on
the dates indicated:
WEI HOLDINGS, INC.
Signature Title Date
- --------- ----- ----
/s/ Scott Young Chairman of the Board, May 16, 1994
- ------------------------ Chief Executive Officer
Scott Young and Director
(Principal Executive
(Officer)
/s/ Cathy L. Wood Senior Vice President, May 16, 1994
- ------------------------ Chief Financial Officer
Cathy L. Wood and Secretary
(Principal Financial
Officer)
/s/ Kathy J. Ford Vice President, Controller May 16, 1994
- ------------------------ (Principal Accounting
Kathy J. Ford Officer)
/s/ James J. Burke, Jr. Director May 16, 1994
- ------------------------
James J. Burke, Jr.
/s/ Gerald S. Armstrong Director May 16, 1994
- ------------------------
Gerald S. Armstrong
/s/ Rupinder S. Sidhu Director May 16, 1994
- ------------------------
Rupinder S. Sidhu
/s/ Bradley J. Hoecker Director May 16, 1994
- ------------------------
Bradley J. Hoecker
WHEREHOUSE ENTERTAINMENT, INC.
Signature Title Date
- --------- ----- ----
/s/ Scott Young Chairman of the Board, May 16, 1994
- ------------------------ Chief Executive Officer
Scott Young and Director
(Principal Executive
(Officer)
/s/ Cathy L. Wood Senior Vice President, May 16, 1994
- ------------------------ Chief Financial Officer
Cathy L. Wood and Secretary
(Principal Financial
Officer)
/s/ Kathy J. Ford Vice President, Controller May 16, 1994
- ------------------------ (Principal Accounting
Kathy J. Ford Officer
/s/ James J. Burke, Jr. Director May 16, 1994
- ------------------------
James J. Burke, Jr.
/s/ Gerald S. Armstrong Director May 16, 1994
- ------------------------
Gerald S. Armstrong
/s/ Rupinder S. Sidhu Director May 16, 1994
- ------------------------
Rupinder S. Sidhu
/s/ Bradley J. Hoecker Director May 16, 1994
- ------------------------
Bradley J. Hoecker
SUPPLEMENTAL INFORMATION TO BE FURNISHED WITH REPORTS FILED
PURSUANT TO SECTION 15(d) OF THE ACT BY REGISTRANTS WHICH HAVE
NOT REGISTERED SECURITIES PURSUANT TO SECTION 12 OF THE ACT.
No annual report or proxy material has been sent to the
security holders of either of the registrants.
<page-F-0>
WHEREHOUSE ENTERTAINMENT, INC.
INDEX TO FINANCIAL STATEMENTS
AND FINANCIAL STATEMENT SCHEDULES
January 31, 1994
CONTENTS
Report of Independent Auditors...............................F-1
Financial Statements
Balance Sheets at January 31, 1994 and 1993 (Company)........F-2
Statements of Operations for the year ended
January 31, 1994 (Company) and the Eight (Company)
and Four Month (Predecessor) Periods ended
January 31, 1993 and May 31, 1992, respectively,
and for the year ended January 31, 1992 (Predecessor)......F-4
Statements of Changes in Shareholder's Equity for the
year ended January 31, 1994 (Company) and the Eight
(Company) and Four Month (Predecessor) Periods ended
January 31, 1993 and May 31, 1992, respectively, and
for the year ended January 31, 1992 (Predecessor)..........F-5
Statements of Cash Flows for the year ended January 31,
1994 (Company) and the Eight (Company) and Four Month
(Predecessor) Periods ended January 31, 1993 and
May 31, 1992, respectively, and for the year ended
January 31, 1992 (Predecessor).............................F-6
Notes to Financial Statements ...............................F-8
Financial Statements Schedules for the year ended January 31,
1994 (Company) the Eight (Company) and Four Month (Predecessor)
Periods ended January 31, 1993 and May 31, 1992, respectively,
and for the year ended January 31, 1992 (Predecessor)
V Property, Plant and Equipment........................F-24
VI Accumulated Depreciation and Amortization
of Property, Plant and Equipment...................F-26
VIII Valuation and Qualifying Accounts....................F-28
IX Short-term Borrowings................................F-29
X Supplementary Income Statement Information...........F-30
All other schedules have been omitted because they are not
required under the related instructions or are inapplicable, or
because the required information is included elsewhere in the
financial statements.
F-0
<page-F-1>
REPORT OF INDEPENDENT AUDITORS
Board of Directors
Wherehouse Entertainment, Inc.
We have audited the accompanying balance sheets of Wherehouse
Entertainment, Inc. as of January 31, 1994 and 1993 (Company) and
the related statements of operations, shareholder's equity, and
cash flows for the year ended January 31, 1994 and the eight
months ended January 31, 1993 (Company), the four months ended
May 31, 1992 and the year ended January 31, 1992 (Predecessor).
Our audits also included the financial statement schedules listed
in the index at item 14(a). These financial statements and
schedules are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with 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 financial statements referred to above
present fairly, in all material respects, the financial position
of Wherehouse Entertainment, Inc. at January 31, 1994 and 1993
(Company), and the results of its operations and its cash flows
for the year ended January 31, 1994, the eight months ended
January 31, 1993 (Company), the four months ended May 31, 1992
and for the year ended January 31, 1992 (Predecessor) in
conformity with generally accepted accounting principles. Also,
in our opinion, the related financial statement schedules, when
considered in relation to the basic financial statements taken as
a whole, present fairly in all material respects the information
set forth therein.
April 22, 1994
F-1
<page-F-2>
WHEREHOUSE ENTERTAINMENT, INC.
BALANCE SHEETS
January 31
1994 1993
----------------------------
Assets (Note 5)
Current assets:
Cash $ 3,120,000 $ 4,462,000
Receivables 2,802,000 3,889,000
Taxes receivable 5,000,000 445,000
Merchandise inventory 113,592,000 110,457,000
Deferred income taxes (Note 7) 4,402,000 4,517,000
Other current assets 2,573,000 2,453,000
----------------------------
Total current assets 131,489,000 126,223,000
Rental inventory, net of
accumulated amortization of
$38,966,000 (1994) and
$14,703,000 (1993) 11,689,000 32,305,000
Equipment and improvements,
at cost (Note 5):
Leasehold improvements 25,136,000 21,469,000
Data processing equipment and
software 19,813,000 25,788,000
Store and office fixtures and
equipment 20,273,000 23,402,000
Buildings and improvements 1,495,000 2,641,000
Land 683,000 2,801,000
----------------------------
67,400,000 76,101,000
Accumulated depreciation and
amortization 20,239,000 13,257,000
----------------------------
47,161,000 62,844,000
Intangible assets:
Excess of cost over fair value
of net assets acquired, net
of accumulated amortization
of $5,873,000 (1994) and
$2,315,000 (1993) 142,932,000 137,212,000
Financing costs and leasehold
interests, net of accumulated
amortization of $1,226,000 (1994)
and $1,813,000 (1993) 9,905,000 14,613,000
----------------------------
152,837,000 151,825,000
Deferred income taxes (Note 7) 6,774,000 -
Other assets 1,425,000 1,183,000
----------------------------
Total assets $351,375,000 $374,380,000
============================
See accompanying notes.
F-2
<page-F-3>
WHEREHOUSE ENTERTAINMENT, INC.
BALANCE SHEETS
January 31
1994 1993
----------------------------
Liabilities and shareholder's
equity
Current liabilities:
Short-term borrowings (Note 4) $ 4,000,000 $ 6,550,000
Accounts payable and bank
overdraft 80,935,000 70,180,000
Interest payable 8,122,000 8,530,000
Sales taxes payable 3,025,000 8,103,000
Other accrued expenses 22,781,000 22,825,000
Current portion of capital
lease obligations and
long-term debt (Note 5) 7,772,000 10,562,000
----------------------------
Total current liabilities 126,635,000 126,750,000
Long-term debt (Note 5) 163,699,000 171,006,000
Other long-term liabilities 7,426,000 2,523,000
Convertible subordinated
debentures (Note 6) 3,635,000 3,563,000
Deferred income taxes (Note 7) - 8,008,000
Commitments and contingencies
(Notes 8, 9 and 10)
Shareholder's equity:
Common stock, $.01 par value,
1,000 shares authorized,
10 issued and outstanding - -
Additional paid-in capital 95,855,000 66,346,000
Accumulated deficit (45,875,000) (3,816,000)
----------------------------
Total shareholder's equity 49,980,000 62,530,000
----------------------------
Total liabilities and
shareholder's equity $351,375,000 $374,380,000
============================
F-3
<page-F-4>
WHEREHOUSE ENTERTAINMENT, INC.
STATEMENTS OF OPERATIONS
Company Predecessor
---------------------------- --------------------------
Eight Months Four Months
Year Ended Ended Ended Year Ended
January 31, January 31, May 31, January 31,
1994 1993 1992 1992
---------------------------- --------------------------
Sales $380,202,000 $249,113,000 $105,349,000 $358,598,000
Rental Revenue 91,584,000 64,293,000 29,762,000 98,765,000
---------------------------- --------------------------
471,786,000 313,406,000 135,111,000 457,363,000
Cost of sales 247,997,000 155,172,000 66,904,000 225,527,000
Cost of rentals, including
amortization 50,837,000 24,805,000 7,272,000 30,913,000
---------------------------- --------------------------
298,834,000 179,977,000 74,176,000 256,440,000
Selling, general and
administrative expenses 196,622,000 122,877,000 59,851,000 179,061,000
Restructuring charges
(Note 2) 14,259,000 - - -
---------------------------- --------------------------
(Loss) income from
operations (37,929,000) 10,552,000 1,084,000 21,862,000
Interest expense 23,525,000 15,703,000 4,928,000 18,052,000
Other income (318,000) (44,000) (9,000) (138,000)
---------------------------- --------------------------
23,207,000 15,659,000 4,919,000 17,914,000
---------------------------- ------------ -----------
(Loss) income before
income taxes (61,136,000) (5,107,000) (3,835,000) 3,948,000
---------------------------- --------------------------
(Benefit) provision for
income taxes (Note 7) (19,077,000) (1,291,000) (1,859,000) 1,025,000
---------------------------- --------------------------
(Loss) income before
extraordinary item (42,059,000) (3,816,000) (1,976,000) 2,923,000
Extraordinary item less
income taxes (Note 1) - - 4,526,000 -
---------------------------- --------------------------
Net (loss) income $(42,059,000) $ (3,816,000) $ (6,502,000) $ 2,923,000
============================ ==========================
See accompanying notes.
F-4
<page-F-5>
WHEREHOUSE ENTERTAINMENT, INC.
STATEMENTS OF CHANGES IN SHAREHOLDER'S EQUITY
Common Stock Additional
.01 Par Value Paid-In Accumulated
Shares Amount Capital Deficit Total
-----------------------------------------------------------------
Predecessor:
Balance, January 31, 1991 10 $ - $ 22,500,000 $(21,266,000) $ 1,234,000
Capital contribution - - 1,147,000 - 1,147,000
Accretion of
redeemable stock
purchase warrants - - - (1,296,000) (1,296,000)
Dividend - - - (272,000) (272,000)
Net income - - - 2,923,000 2,923,000
-----------------------------------------------------------------
Balance, January 31, 1992 10 - 23,647,000 (19,911,000) 3,736,000
Accretion of
redeemable stock
purchase warrants - - - (324,000) (324,000)
Net loss - - - (6,502,000) (6,502,000)
-----------------------------------------------------------------
Balance, May 31, 1992 10 $ - $ 23,647,000 $(26,737,000) $(3,090,000)
=================================================================
Company:
Balance, June 1, 1992 - $ - $ - $ - $ -
Issuance of common
stock 10 - 65,966,000 - 65,966,000
Capital contribution - - 380,000 - 380,000
Net loss - - - (3,816,000) (3,816,000)
-----------------------------------------------------------------
Balance, January 31, 1993 10 - 66,346,000 (3,816,000) 62,530,000
Capital contribution - - 30,000,000 - 30,000,000
Dividend - - (491,000) - (491,000)
Net loss - - - (42,059,000) (42,059,000)
-----------------------------------------------------------------
Balance, January 31, 1994 10 $ - $95,855,000 $(45,875,000) $49,980,000
=================================================================
See accompanying notes.
F-5
<page-F-6>
WHEREHOUSE ENTERTAINMENT, INC.
STATEMENTS OF CASH FLOWS
Company Predecessor
--------------------------- --------------------------
Eight Months Four Months
Year Ended Ended Ended Year Ended
January 31, January 31, May 31, January 31,
1994 1993 1992 1992
---------------------------- --------------------------
Operating activities
Net (loss) income $ (42,059,000) $ (3,816,000) $ (6,502,000) $ 2,923,000
Adjustments to reconcile net
(loss) income to net cash
provided by (used in)
operating activities:
Depreciation and
amortization 70,530,000 33,197,000 11,911,000 41,082,000
Extraordinary item -
write-off of unamortized
acquisition financing costs - - 5,430,000 -
Book value of rental
inventory dispositions 6,983,000 8,251,000 2,669,000 13,104,000
Noncash portion of
restructuring charges 13,590,000 - - -
Other 32,000 62,000 9,000 99,000
Deferred taxes (14,667,000) (3,395,000) (1,738,000) (6,091,000)
Changes in operating assets
and liabilities:
Receivables 1,087,000 206,000 (2,400,000) (491,000)
Taxes receivable (4,555,000) - - (190,000)
Merchandise inventory (3,135,000) (23,423,000) (224,000) (2,966,000)
Other current assets (750,000) 394,000 (458,000) (524,000)
Accounts payable, accrued
expenses and other
liabilities 10,279,000 37,259,000 (27,896,000) 13,610,000
Rental inventory
purchases (30,222,000) (20,294,000) (7,917,000) (31,044,000)
---------------------------- --------------------------
Net cash provided by (used in)
operating activities 7,113,000 28,441,000 (27,116,000) 29,512,000
Investing activities
Payment for purchase of Company,
net of cash acquired - (125,796,000) - -
Proceeds from sale of assets 1,042,000 - - -
Acquisition of property,
equipment and improvements (11,784,000) (6,374,000) (2,935,000) (11,717,000)
Purchase of certain assets of
The Record Shop, Inc. (6,745,000) - - -
Purchase of certain assets of
Pegasus Music and Video, Inc. (5,502,000) - - -
(Increase) decrease in other
assets and intangibles (1,844,000) (1,028,000) 39,000 (2,507,000)
---------------------------- --------------------------
Net cash used in investing
activities (24,833,000) (133,198,000) (2,896,000) (14,224,000)
F-6
<page-F-7>
WHEREHOUSE ENTERTAINMENT, INC.
STATEMENTS OF CASH FLOWS
(continued)
Company Predecessor
--------------------------- --------------------------
Eight Months Four Months
Year Ended Ended Ended Year Ended
January 31, January 31, May 31, January 31,
1994 1993 1992 1992
---------------------------- --------------------------
Financing activities
Short-term borrowings
(payments), net $ (2,550,000) $ (19,527,000) $ 37,700,000 $ (3,900,000)
Long-term debt - 175,000,000 - -
Principal payments on
capital lease obligations
and long-term debt (10,582,000) (116,907,000) (3,462,000) (13,315,000)
Subordinated debenture
redemptions - - - (550,000)
Equity contribution 30,000,000 70,273,000
Capital contribution - 380,000 - 1,147,000
Dividend paid to WEI
Holdings, Inc. (490,000) - - (272,000)
---------------------------- --------------------------
Net cash provided by (used
in) financing activities 16,378,000 109,219,000 34,238,000 (16,890,000)
---------------------------- --------------------------
Net increase (decrease) in
cash (1,342,000) 4,462,000 4,226,000 (1,602,000)
Cash at beginning of period 4,462,000 - 171,000 1,773,000
---------------------------- --------------------------
Cash at end of period $ 3,120,000 $ 4,462,000 $ 4,397,000 $ 171,000
============================ ==========================
Supplemental disclosure of
cash flow information:
Cash paid during the
period for:
Interest $ 22,448,000 $ 5,643,000 $ 4,271,000 $ 16,648,000
Income taxes 164,000 (63,000) 4,762,000 4,209,000
Supplemental disclosure of noncash investing and financing activities:
Capital lease obligations of $483,000 in the twelve months ended January 31, 1994,
$3,545,000 in the eight months ended January 31, 1993 and $3,323,000 in fiscal 1992
were incurred when the Company entered into leases for equipment.
The Company recorded accretion of redeemable stock purchase warrants in the amounts
of $324,000 during the four months ended May 31, 1992 and $1,296,000 in fiscal 1992.
See accompanying notes.
F-7
<page-F-8>
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO FINANCIAL STATEMENTS
(January 31, 1994)
1. BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
On June 11, 1992, the Company was acquired by the purchase of all
of WEI Holdings, Inc.'s (WEI) ownership interest in the Predeces-
sor by certain affiliates of Merrill Lynch Capital Partners, Inc.
(MLCP) (the Acquisition). The consideration paid to acquire the
Company, net of cash acquired, consisted of $70.3 million in
equity cash contributions and $55.5 million in incremental
borrowings. WEI accounted for the transaction under the purchase
method of accounting, following the accounting treatment in
accordance with push-down accounting, whereby the Company
recorded the purchase price allocation in its financial state-
ments. For financial reporting purposes, the Company accounted
for the transaction effective June 1, 1992. Certain members of
management had ownership in WEI. Therefore, according to EITF
Issue No. 88-16, "Basis in Leveraged Buyout Transactions", the
net assets acquired were recorded at the reinvesting share-
holders' carryover basis. The purchase price, net of the
carryover basis equity adjustment of $7,367,000, was allocated to
assets and liabilities based on their respective fair values at
June 1, 1992, as adjusted, resulting in an opening shareholder's
equity of $65,966,000. WEI holds all of the capital stock of the
Company and, in turn, is owned by affiliates of MLCP (92.4%) and
certain members of management (7.6%) on a fully diluted basis.
Currently, WEI conducts no independent operations and has no
significant assets other than the capital stock of the Company.
Financial statements of the Company prior to the Acquisition are
designated as "Predecessor".
Unaudited pro-forma consolidated revenues for the year ended
January 31, 1993, assuming the Acquisition occurred on February
1, 1992, would have been $448,517,000. Pro forma net loss before
extraordinary item for the year ended January 31, 1993, including
adjustments for amortization of asset value changes based on fair
value adjustments, amortization of the excess cost over fair
value of assets acquired, and interest expense related to acqui-
sition indebtedness and the elimination of nonrecurring expenses
related to the Acquisition, would have been $5,978,000.
<page-F-9>
Extraordinary Item
The extraordinary item in the four month period ended May 31,
1992 represents the write-off of unamortized financing costs and
prepayment penalties associated with the repayment of debt of the
Predecessor that was refinanced at the time of the Acquisition.
The loss was $4,526,000, net of an income tax benefit of
$3,035,000.
Principles of Consolidation
The consolidated financial statements of the Predecessor include
the accounts of the Company and its subsidiaries, all of which
are wholly owned. All significant intercompany accounts and
transactions have been eliminated.
Inventory
Inventories are carried at the lower of cost or market using the
first-in, first-out (FIFO) method. Inventory consists primarily
of resaleable prerecorded music, videocassettes, video games and
other products.
Rental Inventory
In the fourth quarter of fiscal 1994, the Company accelerated the
amortization of rental inventory by switching to a more
accelerated method which eliminated the use of the half-year
convention and salvage values. Rental inventory continues to be
amortized over a period of two years for video games and three
years for video cassettes. In adopting the more accelerated
amortization, the Company recorded a charge of $20,268,000 to
reduce the carrying value of existing rental inventory. The
charge was accounted for as a change in estimate and was recorded
as additional amortization expense included in "cost of rentals"
on the accompanying statement of operations. In addition, the
Company sells rental cassettes and games in excess of ongoing
needs after the initial rental period at prices which are often
less than net book value. The sell-through of such rental
inventory in the year purchased results in additional amortiza-
tion, which is included in the cost of rentals. Although rental
inventory generates a portion of the Company's current revenue
and cash flow, the rental inventory is classified as a noncurrent
asset because not all inventory is expected to be realized as
cash or sold in the normal business cycle.
F-9
<page-F-10>
Depreciation and Amortization
Depreciation and amortization of equipment and leasehold improve-
ments is computed on the straight-line method over the following
periods:
Years
---------
Leasehold improvements 2 - 12 *
Data processing equipment and software 5
Store and office fixtures and equipment 5 - 10
Buildings and improvements 5 - 10
* Amortization over related lease periods
Leasehold Interests
Leasehold interests and over-market leasehold liabilities are
amortized on the straight-line method over the estimated remain-
ing lease terms of the related store operating leases which vary
from 2 to 12 years.
Excess of Cost Over Fair Value of Net Assets Acquired
Excess cost over the fair value of net assets acquired (or good-
will) generally is amortized on a straight-line basis over 40
years. The carrying value of goodwill is reviewed if the facts
and circumstances suggest that it may be impaired. If this
review indicates that goodwill will not be recoverable, as
determined based on the undiscounted cash flows of the Company
over the remaining amortization period, the carrying value of the
goodwill is reduced by the estimated shortfall of cash flows.
Financing Costs
Financing costs are amortized using the effective interest rate
method over the terms of the related financing which varies with
the terms of the related agreement.
F-10
<page-F-11>
Income Taxes
The Company utilizes the liability method of accounting for
income taxes. Under the liability method, deferred taxes are
determined based on the difference between the financial
statement and tax basis of assets and liabilities and are
measured at the enacted tax rates that will be in effect when
these differences reverse.
Earnings per Share
Earnings per share are omitted for the Company since it is a
wholly-owned subsidiary of WEI.
Reclassifications
Certain reclassifications of balances have been made to the 1993
amounts to conform to the 1994 presentation.
2. RESTRUCTURING CHARGES
In response to an increasingly competitive retail environment,
the Company began a "re-engineering" project during fiscal 1994
in order to lower costs and provide greater value at lower prices
to customers. As part of this project, the Company identified
required changes in systems and operations and, therefore,
assessed the realizable value of certain assets and the cost of
restructuring measures. As a result, in the fourth quarter of
fiscal 1994, $14,259,000 in restructuring charges were recorded
that included the write off of $8,167,000 in equipment, property
and improvements, $3,472,000 in beneficial leasehold interests
and $721,000 in other assets as well as the recognition of
$1,899,000 for severance payments for employees terminated before
January 31, 1994, consultants fees and other costs related to re-
engineering. Other accrued expenses at January 31, 1994 includes
$1,230,000 related to the restructuring charges which is expected
to be disbursed in the next year.
F-11
<page-F-12>
3. ACQUISITIONS
During June 1993 and January 1994, the Company agreed to acquire
up to 31 store locations (17 at the initial closing) and related
assets of The Record Shop, Inc. (Record Shop) and 15 from Pegasus
Music & Video, Inc. (Pegasus), respectively. The aggregate
consideration for transferred assets, without inventory, was
approximately $6,745,000 for Record Shop and $5,502,000 for
Pegasus. The Company accounted for the transactions using the
purchase method of accounting. Included in the statement of
operations for the Company are the results of all Record Shop
stores and Pegasus stores acquired, effective June 24, 1993 and
January 14, 1994, respectively, as well as additional stores
operated under management contract for the benefit of the
Company. The purchase price of each acquisition was allocated to
property and equipment, beneficial leaseholds, and store trade
name, with the remainder ($4,722,000 - Record Shop and $4,532,000
- - Pegasus) recorded as excess cost of over fair value of net
assets acquired. Aggregate revenues of the acquired companies
from the date of acquisition was $11,768,000. The net effect of
the consolidated operations was not significant.
4. NOTES PAYABLE AND CREDIT ARRANGEMENTS WITH FINANCIAL
INSTITUTIONS
As of January 31, 1994, the Company had a $45,000,000 revolving
line of credit, under a credit agreement, with the same lenders
that provided the variable rate term note (Note 5).
The revolving line of credit expires January 31, 1998, is subject
to the same covenants as the term note and is collateralized by
all of the Company's assets except merchandise inventory and by a
pledge by WEI of all the Company's capital stock. Borrowings
bear interest at the rates and terms described for the term note.
In addition, the credit agreement provides for a "clean down"
period during each fiscal year, whereby all borrowings must be
repaid. The Company did not satisfy the "clean down" period
during the year ended January 31, 1994 and obtained a waiver with
respect thereto from its lenders.
The Company also has a letter of credit facility which provides
up to $5,000,000 of letters of credit to be outstanding.
Issuance of the letters of credit serves to reduce the total
available borrowings under the revolving line of credit. At
January 31, 1994, the Company had $400,000 of letters of credit
outstanding.
F-12
<page-F-13>
5. LONG-TERM DEBT
Long-term debt is summarized as follows:
Descriptions 1994 1993
- ----------------------------------------------------------------
10-5/8% promissory note $ 1,927,000 $ 1,962,000
Variable rate term note 56,000,000 65,000,000
13% senior subordinated notes 110,000,000 110,000,000
Other 224,000 250,000
Capital lease obligations (Note 8) 3,320,000 4,356,000
---------------------------
171,471,000 181,568,000
Less current portion (7,772,000) (10,562,000)
---------------------------
$163,699,000 $171,006,000
---------------------------
Long-term debt matures as follows:
1995 $ 7,772,000
1996 9,811,000
1997 19,645,000
1998 23,748,000
1999 253,000
Thereafter 110,242,000
-------------
Total $171,471,000
=============
Required payments on capital lease obligations are disclosed in
Note 8.
10-5/8% Promissory Note: The original amount of $2,800,000 is
payable in monthly installments of $20,000 (including principal
and interest) through December 1, 1996, at which time the remain-
ing principal balance is due. The note is collateralized by a
deed of trust on land and building with a net book value of
approximately $3,527,000 at January 31, 1994.
F-13
<page-F-14>
Variable Rate Term Note: The Company's credit agreement, result-
ing from the Acquisition, provides for a variable rate term note
which bears interest at prime rate plus 1-1/2% or Eurodollar Rate
plus 3%. These interest rates are subject to a discount based on
the Company's ability to maintain certain leverage ratios. At
January 31, 1994, the Company's borrowing rates ranged from 6.13%
to 7.5%. Interest on the term note is payable quarterly. The
Company has an interest rate protection agreement with a major
financial institution covering 40% of the outstanding balance of
the term note at January 31, 1994. The agreement limits net
interest costs to the Company to a ceiling of 9-1/8% with respect
to the balances covered by the agreement. The Company is exposed
to credit loss in the event of nonperformance by other parties to
the interest rate protection agreement. However, the Company
does not anticipate nonperformance by the counterparties.
The credit agreement was amended on January 27, 1994 to revise
certain financial covenants and provide the Company with
additional flexibility. In connection with this amendment, MLCP
received a fee of $300,000.
This note is collateralized by all of the Company's assets except
merchandise inventory and by a pledge by WEI of all the Company's
capital stock. Principal payments are due in quarterly install-
ments and in the following aggregate annual amounts: $7,000,000
in fiscal 1995, $9,000,000 in fiscal 1996, $17,000,000 in fiscal
1997 and $23,000,000 in fiscal 1998.
13% Senior Subordinated Notes: The notes are due August 2002
with interest payable semi-annually. The notes are noncallable
prior to August 1, 1997 and require sinking fund payments of
$27,500,000 in August 2000 and 2001.
WEI and MLCP are affiliates of Merrill Lynch, Pierce, Fenner &
Smith Incorporated (MLPF&S). In connection with the original
sale of the senior subordinated notes as part of the Acquisition,
MLPF&S received a fee of $3,850,000 with respect to its
activities as placement agent. In addition, in connection with
the Acquisition, MLCP received a fee of $2,500,000 plus
reimbursement of expenses of $135,000 from the Company.
F-14
<page-F-15>
Financial Covenants
The variable rate term note, as amended, and the 13% senior
subordinated notes agreements include various restrictive
covenants, including covenants requiring the maintenance of
certain financial ratios such as minimum consolidated adjusted
EBITDAV, maximum leverage, and minimum fixed charge coverage.
The Company also must comply with limitations on dividends,
capital expenditures, transactions with affiliates, capital lease
borrowings and other indebtedness. The restrictive covenants
were amended January 27, 1994 and the Third Amendment and Limited
Waiver to Credit Agreement. At January 31, 1994, the Company was
in compliance with all such amended covenants.
The fair values of the Company's capital lease obligations, long-
term debt, short-term borrowings, convertible subordinated
debentures and related interest rate protection agreement as of
January 31, 1994 are estimated to be the same as the amounts
reported for such debt in the Company's balance sheet at that
date. The Company's debt was primarily entered into in conjunc-
tion with the Acquisition; the short-term borrowings and variable
rate term note are subject to repricing under variable interest
rate provisions.
6. CONVERTIBLE SUBORDINATED DEBENTURES
In 1986, the Predecessor issued $50,000,000 of 6-1/4% convertible
subordinated debentures due in 2006.
In conjunction with a prior acquisition of the Predecessor in
1988, the Predecessor and its Trustee for the convertible
subordinated debentures entered into a First Supplemental
Indenture, which provides that convertible subordinated debenture
holders may convert their debentures into cash and have no other
rights under the indenture to convert their debentures into
common stock of the Company. As a result of the 1988 Acquisi-
tion, the subordinated debentures were discounted to fair value.
No adjustment was made to the carrying value as a result of the
June 1992 Acquisition. The remaining discount is amortized by
the interest method over the term of the debentures. When the
debentures are redeemed, the discount is considered a reduction
in the payment amount and is included in current earnings in the
year of redemption. There were no redemptions in fiscal years
1994 or 1993. At January 31, 1994, the principal amount of
subordinated debentures was $3,635,000, net of discount of
$2,031,000.
F-15
<page-F-16>
Refer to Note 9 for a discussion of litigation associated with
these convertible subordinated debentures.
7. INCOME TAXES
The benefit (provision) for income taxes includes:
Company Predecessor
------------------------- -------------------------
Eight Four
Months Months
Ended Ended
January 31, May 31,
1994 1993 1992 1992
------------------------- -------------------------
Current:
Federal $ (4,390,000) $ 1,659,000 $ 40,000 $ 5,256,000
State (20,000) 445,000 (161,000) 1,880,000
------------------------- ------------------------
(4,410,000) 2,104,000 (121,000) 7,136,000
Deferred:
Federal (14,164,000) (2,694,000) $(1,327,000) (4,774,000)
State (4,114,000) (701,000) (411,000) (1,337,000)
Valuation
Allowance 3,611,000 - - -
------------------------- -------------------------
(14,667,000) (3,395,000) (1,738,000) (6,111,000)
------------------------- -------------------------
$(19,077,000) $(1,291,000) $(1,859,000) $ 1,025,000
========================= =========================
F-16
<page-F-17>
The credit for deferred income taxes consists of the following:
Company Predecessor
--------------------------- --------------------------
Eight Months Four Months
Ended Ended
January 31, May 31,
1994 1993 1992 1992
---------------------------- --------------------------
Depreciation $ (8,595,000) $(2,389,000) $ (405,000) $(4,539,000)
State taxes (117,000) 129,000 242,000 156,000
Merchandise and video inventory (4,636,000) (1,257,000) (81,000) (1,334,000)
Debt discount (29,000) (15,000) (8,000) (201,000)
Leases (2,168,000) (559,000) (830,000) (1,182,000)
Employee benefits (175,000) (6,000) (49,000) (221,000)
Tax credit carryovers (3,260,000) (309,000) (600,000) 1,295,000
Prepaid expense (54,000) 633,000 - -
Expenses associated with early
extinguishment of debt - 403,000 - -
Accrued liabilities 1,563,000 - - -
Operating loss carryover (816,000) - - -
Other 9,000 (25,000) (7,000) (85,000)
Valuation allowance 3,611,000 - - -
---------------------------- --------------------------
$(14,667,000) $(3,395,000) $(1,738,000) $(6,111,000)
============================ ==========================
F-17
<page-F-18>
A reconciliation of the difference between the federal statutory rate
and the effective rate is summarized as follows:
Company Predecessor
--------------------------- --------------------------
Eight Months Four Months
Ended Ended
January 31, May 31,
1994 1993 1992 1992
---------------------------- --------------------------
Statutory tax rate (34.0)% (34.0)% (34.0)% 34.0%
Permanent tax differences for
deductions (primarily amorti-
zation of excess of cost over
fair value of net assets
acquired) 2.5 16.9 7.0 5.0
Job tax credits (1.5) (5.5) (15.7) (23.0)
State taxes, net of federal
benefit (4.0) (3.2) (5.8) 9.0
Other (0.1) 0.5 - 1.0
Valuation allowance 5.9 - - -
---------------------------- --------------------------
(31.2)% (25.3)% (48.5)% 26.0%
============================ ==========================
<\table)
The components of net deferred income tax assets at January 31,
1994 are as follows:
Net current deferred income tax assets:
Merchandise inventory $ 3,309,000
Vacation liability 1,135,000
Other accrued liabilities 270,000
Prepaid expenses (312,000)
------------
4,402,000
F-18
<page-F-19>
Net long-term deferred income tax assets:
Convertible subordinated debenture discount $ (689,000)
Video rental inventory 3,520,000
Equipment and improvements 1,424,000
Leasehold interests 528,000
Store closure liability 243,000
Average rent liability 2,981,000
State operating loss carryover 842,000
Credit carryovers 5,158,000
Deferred compensation 108,000
Other accrued liabilities (4,147,000)
Capital leases 417,000
------------
10,385,000
Valuation allowance for deferred tax assets (3,611,000)
------------
6,774,000
------------
Net deferred income tax asset $11,176,000
============
The Company has a carryover benefit for job tax and alternative
minimum tax credits of $5,074,000 which will expire by 2008. For
financial reporting purposes, the benefit has been included as a
deferred tax asset at January 31, 1994.
8. COMMITMENTS
Leases
The Company leases substantially all of its data processing
equipment, retail stores and other facilities. The capital and
operating lease agreements expire on various dates through 2012
with renewal options for certain leases. Certain leases provide
for payment of real estate taxes and additional rents based on a
percentage of sales.
F-19
<page-F-20>
Future minimum annual lease payments under capital and operating
leases at January 31, 1994 are payable as follows:
Capital Operating
Leases Leases
-------------------------------
1995 $ 894,000 $ 40,654,000
1996 880,000 40,337,000
1997 879,000 36,287,000
1998 776,000 33,847,000
1999 250,000 32,028,000
Thereafter 123,000 179,500,000
-------------------------------
Total future minimum lease
payments 3,802,000 $362,653,000
================
Less amounts representing
interest 482,000
------------
Present value of future
minimum lease payments 3,320,000
Less current portion 706,000
------------
Long-term obligations under
capital leases $2,614,000
============
Rental expense charged to operations was approximately
$42,285,000 in fiscal 1994, $25,056,000 in the eight month period
ended January 31, 1993, $11,733,000 in the four month period
ended May 31, 1992 and $32,668,000 in fiscal 1992. In addition,
real estate taxes and additional rents based on percentage of
sales were approximately $2,881,000 in fiscal 1994, $1,548,000 in
the eight month period ended January 31, 1993, $708,000 in the
four month period ended May 31, 1992, and $2,082,000 in fiscal
1992. The Company subleases a portion of its warehouse in
Gardena, California for an annual rent of $192,000 through April,
1997.
Included in equipment and improvements are assets held under
capital leases with a cost to the Company of $4,067,000 and
$6,263,000 at January 31, 1994 and 1993, respectively.
Management Consulting Agreements
As part of the re-engineering project begun in June 1993, the
Company entered into a management consulting agreement with a
company whose chairman provided services first by leading the re-
engineering project and then as an officer of the Company. The
current agreement specifies monthly payments of $25,000. During
fiscal 1994, $250,000 was paid under this agreement.
F-20
<page-F-21>
Prior to the Acquisition, the Company had another agreement with
this same company which specified monthly payments of
approximately $23,000 and was terminated at the Acquisition.
Expenses pursuant to this agreement were $83,000 in the four
month period ended May 31, 1992 and $292,000 in fiscal 1992. An
additional $135,000 was paid in connection with the Acquisition.
Also, prior to the Acquisition, the Company had a management
consulting agreement with Adler & Shaykin, then an affiliate of
the Predecessor, which specified quarterly financial advisory
fees of $87,500. In 1993, payments of $146,000 were paid under
this agreement, which expired on the date of the transaction.
Payments of $350,000 were paid in fiscal 1992.
Other Agreements
The Company receives credit card services from First USA, Inc.
under a three year agreement ending April 1996. Affiliates of
MLCP held a controlling interest in First USA, Inc. until
February 1993. During fiscal 1994, $1,742,000 was paid under
this agreement.
9. CONTINGENCIES
The Company (as a successor to the Predecessor), certain of its
former directors, WEI and its investment bankers are defendants
in three class action lawsuits; two lawsuits relate to the
subordinated debentures outstanding at the time of the 1988
Acquisition of the Predecessor and one relates to a pre-1988
potential acquisition of the Predecessor. The lawsuits, among
other claims, request unspecified damages. Based upon discovery
proceedings to date and the Company's discussions with its trial
lawyers, the Company believes that these actions are without
merit and they are vigorously defending them.
As part of the Acquisition, approximately $18,750,000 of the
merger consideration was deferred and is subject to reduction to
the extent the Company incurs certain litigation costs related to
the aforementioned class action lawsuits.
F-21
<page-F-22>
Based on management's discussions with its trial lawyers, the
Company does not currently believe that any of the foregoing
litigation matters will have a material adverse effect on the
Company. However, if any of these matters were to be determined
adversely by a court of law, such determination could have a
material adverse effect on the Company.
The Company is a party to various claims, legal actions and
complaints arising in the ordinary course of its business. In
the opinion of management, all such matters are without merit or
involve such amounts that unfavorable disposition will not have a
material impact on the financial position of the Company.
10. EMPLOYEE BENEFITS
Executive Officer's Retirement Plan: The Company provides life
insurance for the executive officers of the Company, with face
values of such policies ranging from $250,000 to $1,000,000.
Upon retirement at the normal retirement age of 65, covered
executives are entitled to receive annual payments equal to 10%
of the face amount of their life insurance policies for each of
the 15 years following retirement. The Company recognized
$20,000 of expense in 1994 and $70,000 in fiscal 1993 under this
plan.
Employees' Savings Retirement Plan: In March 1992, the Company
established a tax qualified 401(k) Savings Retirement Plan
(401(k) Plan). All employees who have completed one year of
service and at least 1,000 hours of service in that year with the
Company are eligible to join the 401(k) Plan on the first day of
each calendar year. All eligible employees may contribute from
1% to 10% of their annual compensation on a pre-tax basis. The
Company makes a matching contribution in an amount equal to 50%
of the employees' contributions of 1% to 3% of their annual
compensation and 25% of the employees' contributions of 4% to 5%
of their annual compensation. Matching contributions made by the
Company vest 25% per year beginning with the employee's second
year of employment. The Company recognized $477,000 in 1994 and
$293,000 in 1993 for matching costs and administrative costs
under the 401(k) Plan.
F-22
<page-F-23>
11. QUARTERLY FINANCIAL INFORMATION (Unaudited)
Quarterly financial information is as follows (in thousands):
Net Income
Net Revenue Gross Profit (Loss)
--------------------------------------------------
1994 - Quarter Ended
Company:
April 30 $102,510 $44,727 $ (5,395)
July 31 108,620 46,429 (7,869)
October 31 107,899 44,574 (2,544)
January 31 152,757 37,222 (26,251)
1993 - Period Ended
Predecessor:
Quarter ended April 30 100,778 45,753 (1,967)
Month ended May 31 34,333 15,182 (4,535)
Company:
As reported:
Two months ended
July 31 70,508 28,570 (3,878)
Quarter ended
October 31 98,485 42,260 (4,585)
Quarter ended
January 31 144,413 62,599 4,647
F-23
<page-F-24>
WHEREHOUSE ENTERTAINMENT, INC.
SCHEDULE V - PROPERTY, PLANT AND EQUIPMENT
Balance at Balance
Beginning Additions Retirements at End
Classification of Period at Cost(c) or Sales(b) of Period
- ------------------------------------------------------------------------------------------
Company:
Year ended January 31, 1994:
Leasehold improvements $ 21,469,000 $ 7,260,000 $ 3,593,000 $ 25,136,000
Data processing equipment
and software 25,788,000 1,954,000 7,929,000 19,813,000
Store and office fixtures
and equipment 23,402,000 5,884,000 9,013,000 20,273,000
Buildings and building
improvements 2,641,000 - 1,146,000 1,495,000
Land 2,801,000 - 2,118,000 683,000
-----------------------------------------------------------
$ 76,101,000 $15,098,000 $23,799,000 $ 67,400,000
===========================================================
Eight months ended January
31, 1993:
Leasehold improvements(a) $ 18,197,000 $ 3,331,000 $ 59,000 $ 21,469,000
Data processing equipment
and software(a) 22,718,000 3,070,000 - 25,788,000
Store and office fixtures
and equipment(a) 19,895,000 3,518,000 11,000 23,402,000
Buildings and building
improvements(a) 2,641,000 - - 2,641,000
Land(a) 2,801,000 - - 2,801,000
-----------------------------------------------------------
$ 66,252,000 $ 9,919,000 $ 70,000 $ 76,101,000
===========================================================
F-24
<page-F-25>
WHEREHOUSE ENTERTAINMENT, INC.
SCHEDULE V - PROPERTY, PLANT AND EQUIPMENT
Balance at Balance
Beginning Additions Retirements at End
Classification of Period at Cost(c) or Sales(b) of Period
- ------------------------------------------------------------------------------------------
Predecessor:
Four months ended May 31,
1992:
Leasehold improvements $ 39,688,000 $ 327,000 $ - $ 40,015,000
Data processing equipment
and software 45,088,000 1,461,000 - 46,549,000
Store and office fixtures
and equipment 37,482,000 1,147,000 19,000 38,610,000
Buildings and building
improvements 4,387,000 - - 4,387,000
Land 1,900,000 - - 1,900,000
-----------------------------------------------------------
$128,545,000 $ 2,935,000 $ 19,000 $131,461,000
===========================================================
Twelve months ended
January, 31, 1992:
Leasehold improvements $ 35,335,000 $ 4,838,000 $ 485,000 $ 39,688,000
Data processing equipment
and software 38,987,000 6,101,000 - 45,088,000
Store and office fixtures
and equipment 33,651,000 4,111,000 280,000 37,482,000
Buildings and building
improvements 4,383,000 4,000 - 4,387,000
Land 1,900,000 - - 1,900,000
-----------------------------------------------------------
$114,256,000 $15,054,000 $ 765,000 $128,545,000
===========================================================
(a) Beginning balances at June 1, 1992 have been adjusted to reflect valuations under
purchase accounting.
(b) Includes abandonment of property for stores closed and fully depreciated assets
written off.
(c) Includes property purchased as part of the acquisition of Record Shop and Pegasus
stores.
F-25
<page-F-26>
WHEREHOUSE ENTERTAINMENT, INC.
SCHEDULE VI - ACCUMULATED DEPRECIATION AND AMORTIZATION
OF PROPERTY, PLANT AND EQUIPMENT
Additions
Balance at Charged to Balance
Beginning Costs and Retirements at End
Classification of Period Expenses or Sales of Period
- ------------------------------------------------------------------------------------------
Company:
Year ended January 31, 1994:
Leasehold improvements $ 3,424,000 $ 5,652,000 $ 3,034,000 $ 6,042,000
Data processing equipment
and software 5,093,000 7,423,000 5,164,000 7,352,000
Store and office fixtures
and equipment 4,502,000 6,970,000 4,669,000 6,803,000
Buildings and building
improvements 238,000 111,000 307,000 42,000
-----------------------------------------------------------
$13,257,000 $20,156,000 $13,174,000 $20,239,000
===========================================================
Eight months ended January
31, 1993:
Leasehold improvements(a) $ - $ 3,431,000 $ 7,000 $ 3,424,000
Data processing equipment
and software(a) - 5,093,000 - 5,093,000
Store and office fixtures
and equipment - 4,503,000 1,000 4,502,000
Buildings and building
improvements(a) - 238,000 - 238,000
-----------------------------------------------------------
$ - $13,265,000 $ 8,000 $13,257,000
===========================================================
F-26
<page-F-27>
WHEREHOUSE ENTERTAINMENT, INC.
SCHEDULE VI - ACCUMULATED DEPRECIATION AND AMORTIZATION
OF PROPERTY, PLANT AND EQUIPMENT
Additions
Balance Charged to Balance
Beginning Costs and Retirements at End
Classification of Period Expenses or Sales of Period
- ------------------------------------------------------------------------------------------
Predecessor:
Four months ended May 31,
1992:
Leasehold improvements $19,423,000 $ 1,777,000 $ - $21,200,000
Data processing equipment
and software 32,385,000 2,192,000 - 34,577,000
Store and office fixtures
and equipment 19,548,000 1,584,000 10,000 21,122,000
Buildings and building
improvements 646,000 43,000 - 689,000
-----------------------------------------------------------
$72,002,000 $ 5,596,000 $ 10,000 $77,588,000
===========================================================
Year ended January, 31, 1992:
Leasehold improvements $14,529,000 $ 5,299,000 $ 405,000 $19,423,000
Data processing equipment
and software 24,222,000 8,163,000 - 32,385,000
Store and office fixtures
and equipment 15,175,000 4,580,000 207,000 19,548,000
Buildings and building
improvements 485,000 161,000 - 646,000
-----------------------------------------------------------
$54,411,000 $18,203,000 $ 612,000 $72,002,000
===========================================================
(a) Beginning balances at June 1, 1992 have been adjusted to reflect valuations under
purchase accounting.
F-27
<page-F-28>
WHEREHOUSE ENTERTAINMENT, INC.
SCHEDULE VIII - VALUATION AND QUALIFYING ACCOUNTS
Additions
Balance at Charged to Balance
Beginning Costs and at End
Description of Period Expenses Deductions(1) of Period
- ------------------------------------------------------------------------------------------
Accumulated amortization
deducted from video rental
inventory:
Company:
Year ended January 31,
1994 $14,703,000 $41,392,000 $17,129,000 $38,966,000
Eight months ended
January 31, 1993 - 14,703,000 - 14,703,000
Predecessor:
Four months ended
May 31, 1992 44,125,000 4,583,000 4,806,000 43,902,000
Year ended January 31,
1992 38,392,000 15,009,000 9,276,000 44,125,000
(1) Accumulated amortization on disposition of video rental tapes.
F-28
<page-F-29>
WHEREHOUSE ENTERTAINMENT, INC.
SCHEDULE IX - SHORT-TERM BORROWINGS
Weighted
Maximum Average Average
Weighted Amount Amount Interest
Category Balance at Average Outstanding Outstanding Rate
Short-Term End of Interest During the During the During the
Classification Borrowings Period Rate Period Period(1) Period(2)
- ------------------------------------------------------------------------------------------
Company:
Year ended
January 31, 1994 Bank $ 4,000,000 6.28% $44,600,000 $33,858,000 6.37%
Eight months ended
January 31, 1993 Bank 6,550,000 6.89 41,600,000 21,715,000 6.82
Predecessor:
Four months ended
May 31, 1992 Bank 43,000,000 6.96 43,000,000 32,364,000 7.09
Year ended
January 31, 1992 Bank 5,300,000 9.26 37,200,000 23,877,000 8.93
(1) Computed by multiplying each loan balance by days outstanding.
(2) Computed by dividing the actual interest expense on bank short-term
debt by the average aggregate short-term borrowings during the year.
F-29
<page-F-30>
WHEREHOUSE ENTERTAINMENT, INC.
SCHEDULE X - SUPPLEMENTARY INCOME STATEMENT INFORMATION
Company Predecessor
----------------------------------------------------------
Year Eight Months Four Months Year
Ended Ended Ended Ended
January 31, January 31, May 31, January 31,
Description 1994 1993 1992 1992
- -----------------------------------------------------------------------------------------
Maintenance and repairs * * * *
Depreciation and amortiza-
tion of intangible assets,
pre-operating costs and
similar deferrals $4,228,000 $2,655,000 $1,315,000 $3,934,000
Taxes, other than payroll
and income taxes * * * *
Royalties * * * *
Advertising ** $6,910,000 $6,995,000 $4,123,000 $9,197,000
* Less than 1% of revenues.
** Advertising expense net of cooperative advertising allowances.
F-30