FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBERS 0-676 AND 0-16626
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7-ELEVEN, INC.
(formerly The Southland Corporation)
(Exact name of registrant as specified in its charter)
TEXAS 75-1085131
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2711 NORTH HASKELL AVE., DALLAS, TEXAS 75204-2906
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code, 214/828-7011
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Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has
been subject to such filing requirements for the past 90 days. Yes X No
APPLICABLE ONLY TO CORPORATE ISSUERS:
409,941,168 shares of common stock, $.0001 par value (the issuer's
only class of common stock), were outstanding as of March 31, 1999.
7-ELEVEN, INC.
(FORMERLY THE SOUTHLAND CORPORATION)
INDEX
Page
No.
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Part I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS:
Condensed Consolidated Balance Sheets -
March 31, 1999 and December 31, 1998 1
Condensed Consolidated Statements of Earnings -
Three Months Ended March 31, 1999 and 1998 2
Condensed Consolidated Statements of Cash Flows -
Three Months Ended March 31, 1999 and 1998 3
Notes to Condensed Consolidated Financial Statements 4
Independent Auditors' Report 7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS 8
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 16
Part II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS 17
ITEM 5. OTHER INFORMATION 17
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 17
SIGNATURES 18
Exhibit (3) - Copy of Articles of Amendment to Second Restated
Articles of Incorporation Tab 1
Exhibit (15) - Letter re Unaudited Interim Financial Information Tab 2
Exhibit (27) - Financial Data Schedule *
*Submitted in electronic format only
(i)
7-ELEVEN, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT PER-SHARE DATA)
ASSETS
MARCH 31, DECEMBER 31,
1999 1998
------------- -------------
(UNAUDITED)
CURRENT ASSETS:
Cash and cash equivalents $ 33,159 $ 26,880
Accounts receivable 160,258 148,046
Inventories 102,263 101,045
Other current assets 151,450 162,631
------------- -------------
TOTAL CURRENT ASSETS 447,130 438,602
PROPERTY AND EQUIPMENT 1,732,073 1,652,932
OTHER ASSETS 321,895 324,310
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$ 2,501,098 $ 2,415,844
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Trade accounts payable $ 146,193 $ 136,059
Accrued expenses and other liabilities 321,668 362,398
Commercial paper 25,584 18,348
Long-term debt due within one year 191,431 151,754
------------- -------------
TOTAL CURRENT LIABILITIES 684,876 668,559
DEFERRED CREDITS AND OTHER LIABILITIES 217,534 220,653
LONG-TERM DEBT 1,853,096 1,788,843
CONVERTIBLE QUARTERLY INCOME DEBT SECURITIES 380,000 380,000
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS' EQUITY (DEFICIT):
Common stock, $.0001 par value 41 41
Additional capital 625,610 625,574
Accumulated deficit (1,271,837) (1,278,009)
Accumulated other comprehensive earnings 11,778 10,183
------------- -------------
TOTAL SHAREHOLDERS' EQUITY (DEFICIT ) (634,408) (642,211)
------------- -------------
$ 2,501,098 $ 2,415,844
============= =============
See notes to condensed consolidated financial statements.
1
7-ELEVEN, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
(DOLLARS IN THOUSANDS, EXCEPT PER-SHARE DATA)
(UNAUDITED)
THREE MONTHS
ENDED MARCH 31
------------------------------
1999 1998
------------- -------------
REVENUES:
Merchandise sales (Including $118,806 and $101,042 in excise taxes) $ 1,361,750 $ 1,204,364
Gasoline sales (Including $151,426 and $128,200 in excise taxes) 408,345 390,594
------------- -------------
Net sales 1,770,095 1,594,958
Other income 22,127 20,443
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1,792,222 1,615,401
COSTS AND EXPENSES:
Merchandise cost of goods sold 909,980 793,450
Gasoline cost of goods sold 354,565 347,089
------------ --------------
Total cost of goods sold 1,264,545 1,140,539
Operating, selling, general and administrative expenses 500,478 471,716
Interest expense, net 24,083 22,573
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1,789,106 1,634,828
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EARNINGS (LOSS) BEFORE INCOME TAXES (BENEFIT) AND EXTRAORDINARY GAIN 3,116 (19,427)
INCOME TAXES (BENEFIT) 1,233 (7,322)
------------- -------------
EARNINGS (LOSS) BEFORE EXTRAORDINARY GAIN 1,883 (12,105)
EXTRAORDINARY GAIN ON DEBT REDEMPTION (net of tax effect
Of $2,743 and $11,425) 4,290 17,871
------------ -------------
NET EARNINGS $ 6,173 $ 5,766
============ =============
EARNINGS (LOSS) BEFORE EXTRAORDINARY GAIN PER COMMON SHARE:
Basic $.01 $(.03)
Diluted .01 (.03)
EXTRAORDINARY GAIN ON DEBT REDEMPTION PER COMMON SHARE:
Basic $.01 $.04
Diluted .01 .04
NET EARNINGS PER COMMON SHARE:
Basic $.02 $.01
Diluted .02 .01
See notes to condensed consolidated financial statements.
2
<Page
7-ELEVEN, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
THREE MONTHS
ENDED MARCH 31,
-------------------------------
1999 1998
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CASH FLOWS FROM OPERATING ACTIVITIES:
Net earnings $ 6,173 $ 5,766
Adjustments to reconcile net earnings to net cash (used in)
provided by operating activities:
Extraordinary gain on debt redemption (4,290) (17,871)
Depreciation and amortization of property and equipment 45,157 42,623
Other amortization 5,042 4,757
Deferred income taxes 5,327 (5,838)
Noncash interest expense 459 138
Other noncash income (2,051) (2,396)
Net loss on property and equipment 823 55
(Increase) decrease in accounts receivable (11,283) 292
(Increase) decrease in inventories (1,218) 21,955
Increase in other assets (21,602) (2,662)
Decrease in trade accounts payable and other liabilities (30,095) (17,433)
------------- -------------
NET CASH (USED IN) PROVIDED BY OPERATING ACTIVITIES (7,558) 29,386
------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Payments for purchase of property and equipment (110,697) (80,501)
Proceeds from sale of property and equipment 1,056 1,384
Other 5,470 123
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NET CASH USED IN INVESTING ACTIVITIES (104,171) (78,994)
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CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from commercial paper and revolving credit facilities 1,231,245 1,488,195
Payments under commercial paper and revolving credit facilities (1,080,599) (1,459,140)
Principal payments under long-term debt agreements (31,809) (29,436)
Proceeds from issuance of convertible quarterly income debt securities - 15,000
Other (829) (561)
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NET CASH PROVIDED BY FINANCING ACTIVITIES 118,008 14,058
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NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 6,279 (35,550)
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 26,880 38,605
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CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 33,159 $ 3,055
============= =============
RELATED DISCLOSURES FOR CASH FLOW REPORTING:
Interest paid, excluding SFAS No.15 Interest $ (36,760) $ (24,724)
============= =============
Net income taxes (paid) refunded $ (2,970) $ 859
============= =============
Assets obtained by entering into capital leases $ 14,259 $ 8,949
============= =============
See notes to condensed consolidated financial statements.
3
7-ELEVEN, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Three Months Ended March 31, 1999
(Dollars in thousands, except per-share data)
(UNAUDITED)
1. Basis of Presentation:
The condensed consolidated balance sheet as of March 31, 1999, and the
condensed consolidated statements of earnings and cash flows for the
three-month periods ended March 31, 1999 and 1998, have been prepared by
the Company without audit. In the opinion of management, all adjustments
(which included only normal, recurring adjustments) necessary to present
fairly the financial position at March 31, 1999, and the results of
operations and cash flows for all periods presented have been made. The
results of operations for the interim periods are not necessarily
indicative of the operating results for the full year.
The condensed consolidated balance sheet as of December 31, 1998, is
derived from the audited financial statements but does not include all
disclosures required by generally accepted accounting principles. The
notes accompanying the consolidated financial statements in the Company's
Annual Report on Form 10-K for the year ended December 31 1998, include
accounting policies and additional information pertinent to an
understanding of both the December 31, 1998, balance sheet and the
interim financial statements. The information has not changed except as
a result of normal transactions in the three months ended March 31, 1999,
and as discussed in the following notes.
2. Comprehensive Earnings:
In January 1998, the Company adopted the provisions of Statement of
Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive
Income," which establishes standards for reporting comprehensive earnings
and its components in a full set of general-purpose financial statements.
The components of comprehensive earnings of the Company for the periods
presented are as follows:
Three Months
Ended March 31
-----------------
1999 1998
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Net earnings $ 6,173 $ 5,766
Other comprehensive earnings (loss), net of tax:
Unrealized gains on equity securities 549 6,151
Foreign currency translation adjustments 1,046 (29)
-------- --------
Other comprehensive earnings 1,595 6,122
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Total comprehensive earnings $ 7,768 $ 11,888
========= =========
4
3. Earnings per Share:
In December 1997, the Company adopted the provisions of SFAS No. 128,
"Earnings per Share," which requires the following reconciliation of the
numerators and the denominators of the basic and diluted per-share
computations for net earnings for the periods presented:
Three Months
Ended March 31
--------------------
1999 1998
-------- --------
BASIC EPS COMPUTATION:
Earnings (Numerator):
Earnings (loss) before extraordinary gain available to common shareholders $ 1,883 $ (12,105)
Earnings on extraordinary gain available to common shareholders 4,290 17,871
----------- ---------
Net earnings available to common shareholders $ 6,173 $ 5,766
========== =========
Shares (Denominator):
Weighted-average number of common shares outstanding 409,940 (A) 409,923
========== =========
BASIC EPS:
Earnings (loss) per common share before extraordinary gain $ .01 $ (.03)
Earnings per common share on extraordinary gain .01 .04
---------- ---------
Net earnings per common share $ .02 $ .01
========== =========
DILUTED EPS COMPUTATION:
Earnings (Numerator):
Earnings (loss) before extraordinary gain available to common shareholders $ 1,883 $ (12,105)
Add interest on convertible quarterly income debt securities, net of tax - (B) - (B)
--------- --------
Earnings (loss) before extraordinary gain available to common shareholders
plus assumed conversions 1,883 (12,105)
Earnings on extraordinary gain available to common shareholders 4,290 17,871
--------- --------
Net earnings available to common shareholders plus assumed
conversions $ 6,173 $ 5,766
========== ========
Shares (Denominator):
Weighted-average number of common shares outstanding 409,940 409,923
Add effects of assumed conversions:
Exercise of stock options - (C) - (C)
Conversion of convertible quarterly income debt securities - (B) - (B)
---------- ---------
Weighted-average number of common shares outstanding plus shares
from assumed conversions 409,940 409,923
========= ==========
DILUTED EPS :
Earnings (loss) per common share before extraordinary gain $ .01 $ (.03)
Earnings per common share on extraordinary gain .01 .04
--------- ---------
Net earnings per common share $ .02 $ .01
========= ==========
(A) The increase in the number of common shares outstanding is due to issuing stock
to the board of directors in lieu of cash compensation.
(B) The convertible quarterly income debt securities are not assumed converted
for the three months ended March 31, 1999 and 1998, because they have an
antidilutive effect on EPS.
(C) The weighted-average shares for the three months ended March 31,1999 and 1998,
do not assume exercise of the stock options since the average market price of
shares for both periods is below the options' exercise prices.
5
4. Gain on Purchase of Debentures:
The Company purchased $15,000 principal amount of its 5% First Priority
Senior Subordinated Debentures due 2003 in January 1999 and $4,418
principal amount of its 4-1/2% Second Priority Senior Subordinated
Debentures (Series A) due 2004 in February 1999. These partial purchases
utilized a portion of the proceeds from the issuance in February 1998 of
$80 million principal amount of Convertible Quarterly Income Debt
Securities due 2013 to Ito-Yokado Co., Ltd., and to Seven-Eleven Japan
Co., Ltd. As a result of the discounted purchase price and the inclusion
of SFAS No. 15 interest in the carrying amount of the debt, the Company
recorded an extraordinary gain of $4,290 (net of current tax effect of
$2,743) in the first quarter of 1999.
5. SFAS No. 133:
The Company is currently reviewing SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities." The statement
establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities. SFAS No. 133 becomes effective
for all fiscal quarters of fiscal years beginning after June 15, 1999,
and earlier application is permitted as of the beginning of any fiscal
quarter subsequent to June 15, 1998. The Company intends to adopt the
provisions of this statement as of January 1, 2000. The impact of the
adoption of SFAS No. 133 has not been determined at this time due to the
Company's continuing investigation of its financial instruments and the
applicability of SFAS No. 133 to them.
6. Default Interest:
On March 29, 1999, the Company paid $12,262 to a former group of senior
lenders under the Credit Agreement that related to a settlement of a
default interest claim, which was made subsequent to the Company's
bankruptcy filing in 1990. The amount of the settlement was not
materially different from the amount that had been accrued.
6
INDEPENDENT AUDITORS' REPORT
April 27, 1999
To the Board of Directors and Shareholders of
7-Eleven, Inc.
We have reviewed the accompanying condensed consolidated balance sheet of
7-Eleven, Inc. and Subsidiaries as of March 31, 1999, and the related
condensed consolidated statements of earnings and cash flows for the three-
month periods ended March 31, 1999 and 1998. These financial statements
are the responsibility of the Company's management.
We conducted our review in accordance with standards established by the
American Institute of Certified Public Accountants A review of interim
financial information consists principally of applying analytical
procedures to financial data and making inquiries of persons responsible
for financial and accounting matters. It is substantially less in scope
than an audit conducted in accordance with generally accepted auditing
standards, the objective of which is the expression of an opinion regarding
the financial statements taken as a whole. Accordingly, we do not express
such an opinion.
Based on our review, we are not aware of any material modifications that
should be made to the accompanying financial statements of 7-Eleven, Inc.
and Subsidiaries for them to be in conformity with generally accepted
accounting principles.
We have previously audited, in accordance with generally accepted auditing
standards, the consolidated balance sheet as of December 31, 1998, and the
related consolidated statements of earnings, shareholders' equity
(deficit), and cash flows for the year then ended (not presented herein);
and in our report dated February 4, 1999, we expressed an unqualified
opinion on those consolidated financial statements. In our opinion, the
information set forth in the accompanying condensed consolidated balance
sheet as of December 31, 1998, is fairly stated, in all material respects,
in relation to the consolidated balance sheet from which it has been
derived.
PRICEWATERHOUSECOOPERS LLP
7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Some of the matters discussed in this quarterly report contain
forward-looking statements regarding the Company's future business which
are subject to certain risks and uncertainties, including competitive
pressures, adverse economic conditions and government regulations. These
issues, and other factors, which may be identified from time to time in the
Company's reports filed with the SEC, could cause actual results to differ
materially from those indicated in the forward-looking statements.
RESULTS OF OPERATIONS
SUMMARY OF RESULTS OF OPERATIONS
The Company's reported net earnings were $6.2 million for the first
quarter of 1999, compared to net earnings of $5.8 million for the first
quarter of 1998. Merchandise and gasoline gross profits contributed to the
improved results with per store increases of 6% and 14.7%, respectively.
Included in the first quarter 1999 results was a $4.3 million after
tax extraordinary gain on the partial redemption of the Company's 5% First
Priority and 4.5% Series A Debentures ("5% and 4.5% Debentures"). The
first quarter of 1998 included a $17.9 million (after tax) extraordinary
gain from the redemption of the Company's 12% Senior Subordinated
Debentures ("12% Debentures"), which was offset by $14.9 million (after
tax) of costs associated with a lease termination, severance and write-off
of slow-moving inventory.
MANAGEMENT STRATEGIES
Since 1992, the Company has been committed to several key strategies
that it believes, over the long term, will provide further differentiation
from competitors and allow 7-Eleven to maintain its position as the premier
convenience retailer. These strategies include:
* Upgrading the Company's store base through developing or acquiring new
stores, continuing the upgrading of existing stores and closing
underachieving stores. In 1999, new store openings are once again expected
to significantly outpace closings, with the expansion occurring in existing
markets to support the Company's fresh food and combined-distribution
initiatives.
* A customer-driven approach to merchandising, which focuses on providing
the customer a selection of quality products at a good value.
An everyday-fair-pricing strategy which provides consistent, reasonable
prices on all items.
* Daily delivery of high-quality ready-to-eat foods, along with other
time-sensitive or perishable items, through the use of combined
distribution centers, fresh-food commissaries and bakery facilities. These
facilities, which are generally third party operated, are designed to
provide fresher products, improve in-stock conditions and lower product
costs.
* The development of a retail information system which initially has
automated accounting and other store-level tasks. The current phase
involves the installation of point-of-sale registers with scanning
capabilities, as well as tools on the in-store processor to assist with
ordering and product assortment, and a hand-held unit for ordering product
from the sales floor. At the end of March 1999, point-of-sale registers had
been installed in nearly 3,500 stores in either a live or training mode.
8
(EXCEPT WHERE NOTED, ALL PER-STORE NUMBERS REFER TO AN AVERAGE OF ALL
STORES RATHER THAN ONLY STORES OPEN MORE THAN ONE YEAR.)
SALES
The Company recorded net sales of $1.77 billion for the three months
ended March 31, 1999, compared to sales of $1.59 billion during the same
period in 1998. The sales increase is due to a combination of increased
per-store sales and more stores. The first quarter of 1999 produced a U.S.
same-store (stores open more than one year) merchandise sales increase of
9.8%.
Regionally, per-store merchandise sales growth was fairly consistent,
with the Texas and Florida divisions leading the country. Categories
contributing the most to growth were cigarettes, prepaid phone cards, food
service offerings, ready-to-drink beverages, coffee and frozen non-
carbonated beverages. Although a significant portion of the improvement
was the result of the introduction of new products, manufacturer cost
increases on cigarettes contributed an estimated 4% to sales growth for the
quarter. As a direct result of new product offerings or changing customer
preferences, certain categories have had slight declines in per-store
sales. These categories include fountain drinks, packaged bakery/bread and
deli products.
Gasoline sales dollars increased 4.5% for the first quarter, due to an
increase in gallons sold per store and more stores. Average per-store
gallonage increased 6.8% when compared to 1998. During the first quarter
of 1999, the average retail price of gasoline was 10 cents per gallon lower
than in the first quarter of 1998.
GROSS PROFITS
THREE MONTHS ENDED
MARCH 31, 1999
-----------------------------------
MERCHANDISE GASOLINE
----------- --------
Gross profit - DOLLARS IN MILLIONS $ 451.8 $ 53.8
Gross profit margin percent (gasoline in cents per gallon) 33.18 13.37
INCREASE/(DECREASE) FROM PRIOR YEAR - ALL STORES
- ------------------------------------------------
Average per-store gross profit dollar change 6.0% 14.7%
Margin percentage point change (gasoline in cents per gallon) (0.94) 0.92
Average per-store sales (gasoline in gallons) 9.0% 6.8%
Total merchandise gross profit dollars were $40.9 million higher in
the first quarter of 1999 than the comparable period in 1998. Higher
average per-store merchandise sales were partially offset by a lower
merchandise margin, which declined almost a full percentage point. Although
the cigarette category contributed slightly higher gross profit dollars,
overall merchandise gross profit margin was unfavorably impacted by the
inflationary effects of several cigarette manufacturer cost increases and a
excise tax increase in California since last year. The continued
introduction of fresh food/bakery products to new areas, which tend to have
a lower margin and short shelf life, has also contributed to the decline in
merchandise margin. As a result of these events, merchandise margin is
expected to be lower throughout 1999, when compared to 1998.
9
During the first three months of 1999, gasoline gross profit increased
$10.3 million, versus the comparable period in 1998. This increase was due
to higher per-store gallon sales, increased margins and a greater number of
gasoline outlets. Market conditions during the first quarter were
relatively stable, however late in March they became more volatile due to
refinery problems on the U.S. West Coast coupled with OPEC's agreement to
cut production. It is currently unknown what impact the recent mergers of
large oil producers will have upon the market as marketing operations are
combined and changes in pricing policies are contemplated.
OPERATING, SELLING, GENERAL AND ADMINISTRATIVE EXPENSES ("OSG&A")
Operating, selling, general and administrative expenses increased
$28.8 million in the first quarter of 1999 compared to the same period in
1998. The ratio of OSG&A expense to sales was 28.3% in the first three
months of 1999, a decrease of 1.3 percentage points from the same period in
1998. OSG&A expense in 1998 included nearly $19 million of charges for a
computer equipment lease termination and severance costs. After adjusting
1998's OSG&A expense for these charges, the ratio of OSG&A expense to sales
is nearly equal to 1999's ratio.
Other factors impacting the increase in OSG&A expense in 1999 include
a higher amount of gross profit earned by and shared with the franchisees,
as well as costs associated with operating more stores. In addition, a
portion of the increase in OSG&A expense resulted from costs related to the
Company's implementation of its retail information system and other
strategic initiatives. Incremental costs of over $6 million associated with
the Company's retail information system, were expensed in the first quarter
of 1999. While the ratio of OSG&A expense to sales will vary on a
quarterly basis, management believes this ratio will not improve
dramatically during the rollout phase of the retail information system.
The Company is a defendant in two legal actions, which are referred to
as the 7-Eleven OFFF and Valente cases, filed by franchisees in 1993 and
1996, respectively, asserting various claims against the Company. A
nationwide settlement was negotiated and, in connection with the
settlement, these two cases have been combined on behalf of a class of all
persons who operated 7-Eleven convenience stores in the United States at
any time between January 1, 1987 and July 31, 1997, under franchise
agreements with the Company. Class members have overwhelmingly approved
the settlement, and the court presiding over the settlement process gave
its final approval of the settlement on April 24, 1998. The settlement
provides that former franchisees will share in a settlement fund and that
certain changes will be made to the franchise agreements with current
franchisees.
Notices of appeal of the order approving the settlement were filed on
behalf of three of the attorneys who represented the class, six former
franchisees and two current franchisees. One of these current franchisees
has dismissed his appeal. The settlement agreement will not become
effective until the appeals are resolved. However, the settlement
agreement provides that while the appeals are pending the Company will pay
certain maintenance and supply expenses relating to the cash registers and
retail information system equipment of current franchisees that are members
of the settlement class. If the settlement is overturned on appeal, the
Company has the right to require franchisees to repay the amounts that the
Company paid for these expenses while the appeals were pending. The
Company's payment of these expenses had no material impact on first quarter
earnings for 1998 or 1999 and should have no material impact on future
earnings. The Company's accruals are sufficient to cover the total
settlement costs, including the payment due to former franchisees when the
settlement becomes effective.
10
INTEREST EXPENSE, NET
Net interest expense increased $1.5 million in the first quarter of
1999 compared to 1998. The Company expects net interest expense in 1999 to
increase approximately 10% over 1998 based on anticipated levels of debt
and interest rate projections. Factors increasing 1999 interest expense
include higher borrowings to finance new store development and other
initiatives, combined with the redemption of $65 million of the Company's
public debt securities in 1998 and early 1999, which were accounted for
under SFAS No. 15 (see Extraordinary Gain).
In accordance with SFAS No. 15, no interest expense is recognized on
the Company's public debt securities. These securities were recorded at an
amount equal to the future undiscounted cash payments, both principal and
interest, and accordingly, the cash interest payments are charged against
the recorded amount of such securities and are not treated as interest
expense. Accordingly, interest expense on debt used to redeem public debt
securities would increase the Company's reported interest expense.
As of March 31, 1999, approximately 47% of the Company's debt contains
floating rates that will be unfavorably impacted by rising interest rates.
The Company has entered into an interest rate swap agreement, which
effectively lowers the amount of debt exposed to floating rates from 47% to
35% (see Interest Rate Swap Agreement). The weighted-average interest rate
for such debt, including the impact of the interest rate swap agreement,
was 5.4% for 1999 versus 5.8% for the first quarter of 1998.
INTEREST RATE SWAP AGREEMENT
In June 1998, the Company entered into an interest rate swap agreement
that fixed the interest rate on $250 million notional principal amount of
existing floating rate debt at 5.4% through June 2003. A major financial
institution, as counterparty to the agreement, agreed to pay the Company a
floating interest rate based on three-month LIBOR during the term of the
agreement in exchange for the Company paying a fixed interest rate. The
swap agreement granted the counterparty the option, upon expiration of the
initial swap term, of extending the agreement for an additional five years
at a fixed interest rate of 5.9%.
In February 1999, the Company amended the terms of the interest rate
swap agreement. The fixed rate was increased to 6.1% and the term of the
swap was extended to February 2004; the remaining terms of the swap
agreement were unchanged. In exchange for the increase in the fixed rate,
the five-year extension option held by the counterparty was terminated.
EXTRAORDINARY GAIN
During the first quarter of 1999, the Company redeemed a portion of
its 5% and 4.5% Debentures, resulting in an after tax gain of $4.3 million
from the retirement of future undiscounted interest payments as recorded
under SFAS No. 15, combined with purchasing the debentures below their face
value. In March 1998, redemption of the Company's 12% Debentures resulted
in a $17.9 million after-tax gain from the retirement of future
11
undiscounted interest payments. Both the 1998 and 1999 redemptions were
financed with proceeds from the issuance of $80 million of 4-1/2%
Convertible Quarterly Income Debt Securities due 2013, to Ito-Yokado Co.,
Ltd., and Seven-Eleven Japan Co., Ltd., the joint owners of IYG Holding
Company, which is the Company's majority shareholder.
LIQUIDITY AND CAPITAL RESOURCES
The majority of the Company's working capital is provided from three
sources: i) cash flows generated from its operating activities; ii) a $650
million commercial paper facility (guaranteed by Ito-Yokado Co., Ltd.); and
iii) short-term seasonal borrowings of up to $400 million (reduced by
outstanding letters of credit) under its revolving credit facility. The
Company believes that operating activities, coupled with available short-
term working capital facilities, will provide sufficient liquidity to fund
current commitments for operating and capital expenditure programs, as well
as to service debt requirements. Actual capital expenditure funding will be
dependent on the level of cash flow generated from operating activities and
the funds available from financings.
In January 1999, the Company expanded the existing commercial paper
facility from $400 million to $650 million. The commercial paper is
unsecured but is fully and unconditionally guaranteed by Ito-Yokado Co.,
Ltd.
7-Eleven's credit agreement, established in February 1997, includes a
term loan with a balance of $155 million and a $400 million revolving
credit facility, which has a sublimit of $150 million for letters of credit
("Credit Agreement"). The Credit Agreement contains certain financial and
operating covenants requiring, among other things, the maintenance of
certain financial ratios, including interest and rent coverage, fixed-
charge coverage and senior indebtedness to net earnings before
extraordinary items and interest, taxes, depreciation and amortization
("EBITDA"). The covenant levels established by the Credit Agreement
generally require continuing improvement in the Company's financial
condition. In March 1999, the financial covenant levels required by these
instruments were amended prospectively in order to allow the Company
flexibility to continue its store growth strategy. In connection with this
amendment, the interest rate on borrowings was changed to a reserve-
adjusted Eurodollar rate plus .475% instead of the previous increment of
.225%.
For the period ended March 31, 1999, the Company was in compliance
with all of the covenants required under the Credit Agreement, including
compliance with the principal financial and operating covenants under the
Credit Agreement (calculated over the latest 12-month period) as follows:
REQUIREMENTS
--------------------
COVENANTS ACTUALS MINIMUM MAXIMUM
--------- ------- ------- -------
Interest and rent coverage * 2.07 to 1.0 1.90 to 1.0
Fixed charge coverage 1.65 to 1.0 1.50 to 1.0
Senior indebtedness to EBITDA 3.99 to 1.0 4.10 to 1.0
Capital expenditure limit
(tested annually) $475 million
* INCLUDES EFFECTS OF THE SFAS NO. 15 INTEREST PAYMENTS.
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During the first three months of 1999, the Company repaid $31.8
million of debt, which included principal payments of $14.1 million for a
quarterly installment due on the Term Loan and $10.9 million on the
Company's yen-denominated loan (secured by the royalty income stream from
its area licensee in Japan). Outstanding balances at March 31, 1999 for
commercial paper, Term Loan and Revolver, were $625.6 million, $154.7
million and $195.0 million, respectively. As of March 31, 1999,
outstanding letters of credit issued pursuant to the Credit Agreement
totaled $70.8 million.
CASH FROM OPERATING ACTIVITIES
Net cash used in operating activities was $7.6 million for the first
quarter of 1999, compared to net cash provided of $29.4 million during the
same period of 1998 (see Results of Operations section). The decline in
cash flows between the periods relates primarily to changes in working
capital during the first quarter of 1999 of over $32 million stemming from
three significant items as follows: payment on a settlement of a previously
accrued claim, an increase in advances for retail information system
equipment awaiting quarterly funding under a master lease facility, the
transfer of long-term disability coverage from self-insured to fully
funded.
CAPITAL EXPENDITURES
In the first three months of 1999, net cash used in investing
activities consisted primarily of payments of $110.7 million for the
purchase of property and equipment. The majority of the property and
equipment capital was used for new store development, continued
implementation of the Company's retail information system, remodeling
stores, new equipment to support merchandising initiatives, upgrading
retail gasoline facilities, replacing equipment and complying with
environmental regulations.
The Company expects 1999 capital expenditures, excluding lease
commitments, to exceed $375 million. Capital expenditures are being used to
develop or acquire new stores, upgrade store facilities, further implement
the retail information system, replace equipment, upgrade gasoline
facilities and comply with environmental regulations. The amount of
expenditures during the year will be materially impacted by the proportion
of new store development funded through capital expenditures versus leases
and the speed at which new sites/acquisitions can be located, negotiated,
permitted and constructed.
CAPITAL EXPENDITURES - GASOLINE EQUIPMENT
The Company incurs ongoing costs to comply with federal, state and
local environmental laws and regulations primarily relating to underground
storage tank ("UST") systems. The Company anticipates it will spend nearly
$2 million in 1999 on capital improvements required to comply with
environmental regulations relating to USTs as well as above-ground vapor
recovery equipment at store locations, and approximately $15-20 million on
such capital improvements from 2000 through 2002.
ENVIRONMENTAL
In December 1988, the Company closed its chemical manufacturing
facility in New Jersey. The Company is required to conduct environmental
remediation at the facility, including groundwater monitoring and treatment
for a projected 15-year period. This remediation program will commence in
1999 with the performance of certain engineering and design work. The
Company has recorded undiscounted liabilities representing its best
estimates of the clean-up costs of $8.5 million at March 31, 1999. In
1991, the Company and the former owner of the facility entered into a
13
settlement agreement pursuant to which the former owner agreed to pay a
substantial portion of the clean-up costs. Based on the terms of the
settlement agreement and the financial resources of the former owner, the
Company has a receivable recorded of $5.0 million at March 31, 1999.
Additionally, the Company accrues for the anticipated future costs and
the related probable state reimbursement amounts for remediation activities
at its existing and previously operated gasoline sites where releases of
regulated substances have been detected. At March 31, 1999, the Company's
estimated undiscounted liability for these sites was $39.5 million. This
estimate is based on the Company's prior experience with gasoline sites and
its consideration of such factors as the age of the tanks, location of tank
sites and experience with contractors who perform environmental assessment
and remediation work. The Company anticipates that substantially all of the
future remediation costs for detected releases at these sites, as of March
31, 1999, will be incurred within the next four to five years.
Under state reimbursement programs, the Company is eligible to receive
reimbursement for a portion of future remediation costs, as well as a
portion of remediation costs previously paid. Accordingly, at March 31,
1999, the Company has recorded a net receivable of $46.0 million for the
estimated probable state reimbursements. In assessing the probability of
state reimbursements, the Company takes into consideration each state's
fund balance, revenue sources, existing claim backlog, status of clean-up
activity and claim ranking systems. As a result of these assessments, the
recorded receivable amount is net of an allowance of $7.7 million. While
there is no assurance of the timing of the receipt of state reimbursement
funds, based on its experience, the Company expects to receive the majority
of state reimbursement funds, except from California, within one to three
years after payment of eligible remediation expenses, assuming that the
state administrative procedures for processing such reimbursements have
been fully developed. The Company estimates that it may take one to six
years to receive reimbursement funds from California. Therefore, the
portion of the recorded receivable amount that relates to remediation
activities, which have already been conducted, has been discounted at 5.1%
to reflect its present value. Thus, the recorded receivable amount is also
net of a discount of $4.5 million.
The estimated future assessment and remediation expenditures and
related state reimbursement amounts could change within the near future as
governmental requirements and state reimbursement programs continue to be
implemented or revised.
YEAR 2000
The Year 2000 issue ("Y2K") is the result of computer software
programs being coded to use two digits rather than four to define the
applicable year. Some of the Company's older computer programs that have
date-sensitive coding may recognize a date using "00" as the year 1900
rather than the year 2000. This could result in system failures or
miscalculations, causing disruptions of operations.
The Company has approached the Y2K issue in phases. A Year 2000
Project Office Manager, together with a strong support organization, has
designed a Y2K work plan that is currently being implemented. The Y2K work
plan includes: (1) identifying and inventorying all Year 2000 tasks and
items; (2) assigning priorities to all tasks and items; (3) remediation
of information systems ("IS") applications code, testing and reintegration
to production, as well as testing all replaced systems software and non-
remediated applications; (4) contacting third-party vendors to verify
14
their compliance and perform selected interface tests with major vendors;
(5) determining the Company's Y2K responsibilities to its franchisees,
subsidiaries and affiliates; (6) establishing contingency alternatives
assuming worst-case scenarios.
The Company continues to progress favorably in its completion of the
various tasks and target dates identified in the Y2K work plan. The Company
believes it has identified and prioritized all major Y2K-related items.
Also, numerous non-IS, merchandise, equipment, financial institution,
insurance and public utility vendors have been contacted, inquiring as to
their readiness and the readiness of their respective vendors. At this
time the Company is performing follow-up efforts with the above vendors as
required. Testing compliance with major vendors is now being planned and
is scheduled to begin June 1, 1999. In addition, the Company does not have
any direct Y2K responsibility for operations in foreign countries (except
Canada) and does not anticipate any material Y2K related impact from
foreign affiliates or licensees. Canadian operations are included in the
general Y2K discussion. The following reflects management's assessment of
the Company's Year 2000 state of readiness:
STATE OF READINESS AS OF MARCH 31, 1999
ESTIMATED ESTIMATED
PHASE PERCENT COMPLETE COMPLETION DATE
- ----- ---------------- ---------------
INTERNAL IS AND NON-IS SYSTEMS AND EQUIPMENT:
Awareness 98% Dec. 1999 *
Assessment changes required 95% March 1999
Remediation or replacement 85% June 1999
Testing 20% Sept. 1999
Contingency Planning 15% June 1999 *
SUPPLIERS, CUSTOMERS AND THIRD-PARTY PROVIDERS:
Awareness-Identify companies 95% April 1999
Assessment questionnaire completed by major suppliers 60% May 1999 *
Assessment review with third-party providers 30% May 1999
Review contractual commitments 50% June 1999
Risk Assessment 50% May 1999
Contingency Planning/Development 10% June 1999 *
Testing as applicable 5% Sept. 1999
* INDICATES WORK SHOULD BE SIGNIFICANTLY FINISHED AT THE ESTIMATED COMPLETION DATE,
BUT THE COMPANY WILL CONTINUE TO REEVALUATE AWARENESS, SEND FOLLOW-UP QUESTIONNAIRES
AND UPDATE CONTINGENCY PLANS AS NEEDED.
The Company estimates that the cost of the Year 2000 Project will be
approximately $8 million, of which nearly $4 million will be capital costs.
The costs incurred to date are $3.2 million, with the remaining cost for
outside consultants, software and hardware applications to be funded
through operating cash flow. The Company anticipates that it will incur
the majority of the remaining costs by the end of the third quarter. This
estimate includes costs related to the upgrade and/or replacement of
computer software and hardware; costs of remediated code testing and test
result verification; and the reintegration to production of all remediated
applications. In addition, the costs include the testing of applications
and software currently certified as Year 2000 compliant. The Company does
not separately track the internal costs incurred for the Y2K project, which
are primarily the related payroll costs for the IS and various user
personnel participating in the project.
15
Due to the general uncertainty inherent in the Year 2000 process,
primarily due to issues surrounding the Y2K readiness of third-party
suppliers and vendors, a reasonable worst-case scenario is difficult to
determine at this time. The Company does not anticipate more than temporary
isolated disruptions attributed to Year 2000 issues to affect either the
Company or its primary vendors. The Company is concentrating on four
critical business areas in order to identify, evaluate and determine the
scenarios requiring the development of contingency plans: (1) merchandise
ordering and receipt, (2) petroleum products ordering and receipt, (3)
human resource systems and (4) disbursement systems. To the extent vendors
are unable to deliver products due to their own Year 2000 issues, the
Company believes it will generally have alternative sources for comparable
products and does not expect to experience any material business
disruptions. Although considered unlikely, the failure of public utility
companies to provide telephone and electrical service could have material
consequences. Contingency planning efforts will escalate as the Company
continues to receive and evaluate responses from all of its primary
merchandise vendors and service providers. These contingency plans are
scheduled to be complete by June 1999.
The costs of the Y2K project and the date on which the Company plans
to complete the Year 2000 modifications are based on management's best
estimates, which were derived utilizing numerous assumptions of future
events including the continued availability of certain resources, third-
party modification plans and other factors. As a result, there can be no
assurance that these forward-looking estimates will be achieved and the
actual costs and vendor compliance could differ materially from the
Company's current expectations, resulting in a material financial risk. In
addition, while the Company is making significant efforts in addressing all
anticipated Year 2000 risks within its control, this event is unprecedented
and consequently there can be no assurance that the Year 2000 issue will
not have a material adverse impact on the Company's operating results and
financial condition.
MARKET-SENSITIVE INSTRUMENTS AND RISK MANAGEMENT
The Company held a number of financial and derivative instruments at
March 31, 1999, which are sensitive to changes in interest rates, foreign
exchange rates and equity prices. The Company uses interest-rate swaps to
manage the primary market exposures associated with underlying liabilities
and anticipated transactions. The Company uses these instruments to reduce
risk by essentially creating offsetting market exposures. In addition, the
two yen-denominated loans serve to effectively hedge the Company's exposure
to yen-dollar currency fluctuations. The instruments held by the Company
are not leveraged and are held for purposes other than trading. There are
no material quantitative changes in market risk exposure at March 31, 1999,
when compared to December 31, 1998.
In the normal course of business, the Company also faces risks that
are either nonfinancial or nonquantifiable. Such risks principally include
country risk, credit risk and legal risk and are not represented in this
discussion.
SFAS NO. 133
The Company is currently reviewing SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities." The Company intends to
adopt the provisions of this statement as of January 1, 2000. The impact
of the adoption has not been determined at this time.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
See "Management's Discussion and Analysis," above.
16
PART II.
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
As previously reported, the Company's senior lenders under the Credit
Agreement had filed a proof of claim in the Company's bankruptcy proceeding
alleging that the Company had failed to make an interest payment due June
15, 1990. On March 29, 1999, the Company paid $12.262 million in
settlement of this claim and this matter has now been terminated. See
Note 6 of the Notes to Condensed Consolidated Financial Statements.
There are no other reportable suits or proceedings pending or
threatened against the Company other than as previously reported.
ITEM 5. OTHER INFORMATION.
On April 28, 1999, the Company's shareholders approved Articles of
Amendment to the Company's Second Restated Articles of Incorporation
effecting the change of the Company's name to "7-Eleven, Inc." The
amendment was effective April 30, 1999. The trading symbol for the
Company's common stock was changed to "SVEV." In addition, the CUSIP
number for the Company's common stock is now 817826 10 0.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits:
Exhibit (3) - Copy of Articles of Amendment to the Second
Restated Articles of Incorporation, as filed
with the Secretary of State of Texas.
Exhibit (15) - Letter re Unaudited Interim Financial
Information.
Letter of PricewaterhouseCoopersLLP,
Independent Auditors.
Exhibit (27) - Financial Data Schedule.
Submitted in electronic format only.
(b) 8-K Reports:
During the first quarter of 1999, the Company filed no reports on Form 8-K.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
7-ELEVEN, INC.
(formerly THE SOUTHLAND CORPORATION)
------------------------------------
(Registrant)
Date: May 5, 1999 /s/ Clark J. Matthews, II
----------------------------------
(Officer)
Clark J. Matthews, II
President and Chief Executive Officer
Date: May 5, 1999 /s/ Donald E. Thomas
-----------------------------------
(Principal Accounting Officer)
Donald E. Thomas
Vice President and Controller
18