MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Consolidated Financial Statements December 31, 1994, 1993 and 1992 (With Independent Auditors' Report Thereon) Independent Auditors' Report To the Board of Directors and Shareholders of Melville Corporation: We have audited the accompanying consolidated balance sheets of Marshalls of Roseville, Minn., Inc. (a wholly-owned subsidiary of Melville Corporation) as of December 31, 1994 and 1993, and the related consolidated statements of income, shareholder's equity, and cash flows for each of the years in the three-year period ended December 31, 1994. These consolidated financial statements are the responsibility of Marshalls of Roseville, Minn., Inc.'s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Marshalls of Roseville, Minn., Inc. as of December 31, 1994 and 1993, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1994, in conformity with generally accepted accounting principles. As discussed in the notes to the consolidated financial statements, the Company changed its method of accounting for LIFO inventories in 1993. /s/KPMG Peat Marwick LLP Boston, Massachusetts December 1, 1995 MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Consolidated Balance Sheets December 31, 1994 and 1993 (In Thousands) Assets 1994 1993 Current assets: Cash $ 22,306 $ 8,310 Accounts receivable, net of allowance for doubtful accounts of $763 and $807 in 1994 and 1993, respectively 17,132 13,397 Inventories 471,483 369,682 Due from Parent and other divisions 4,332 158,386 Prepaid expenses and other current assets 8,930 5,907 Deferred income tax assets 30,138 29,631 Total current assets 554,321 585,313 Property and equipment, net 447,347 395,654 Capitalized lease assets, net 6,381 7,898 Goodwill, net 29,749 14,991 Deferred charges and other noncurrent assets, net 21,224 21,398 Total assets $1,059,022 $1,025,254 Liabilities and Shareholder's Equity Current liabilities: Accounts payable $ 104,779 $ 109,299 Accrued expenses 161,797 171,681 Accrued Federal income taxes 28,744 22,145 Capital lease obligations 2,265 2,290 Total current liabilities 297,585 305,415 Deferred income tax liabilities 49,233 41,926 Capital lease obligations 11,316 13,580 Other liabilities 5,422 10,445 Shareholder's equity: Common stock, no par value, 100 shares authorized and outstanding 1994 and 1993 352 352 Contributed capital 152,839 152,839 Retained earnings 542,275 500,697 Total shareholder's equity 695,466 653,888 Total liabilities and shareholder's equity $1,059,022 $1,025,254 See accompanying notes to consolidated financial statements. MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Consolidated Statements of Income For the years ended December 31, 1994, 1993 and 1992 (In thousands) 1994 1993 1992 Net sales $2,774,851 $2,608,542 $2,550,992 Cost of goods sold 1,834,212 1,704,022 1,641,233 Gross profit 940,639 904,520 909,759 Selling, general and administrative expenses 748,532 695,234 661,457 Depreciation and amortization 52,327 45,201 45,154 Realignment charge (credit) (7,200) - 8,946 Operating income 146,980 164,085 194,202 Other income (expense): Net interest income (expense), Parent and other divisions (1,678) 1,106 196 Interest expense, third party (100) (61) (48) Gain on insurance recovery - - 3,703 Income before provision for income taxes 145,202 165,130 198,053 Provision for income taxes 55,351 62,725 75,502 Net income $ 89,851 $ 102,405 $ 122,551 See accompanying notes to consolidated financial statements. MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Consolidated Statements of Shareholder's Equity For the years ended December 31, 1994, 1993 and 1992 (In Thousands) Total Common Contributed Retained Shareholder's Stock Capital Earnings Equity Balance as of December 31, 1991 $352 $137,600 $372,903 $510,855 Net income - - 122,551 122,551 Contribution of capital - 15,239 - 15,239 Dividends paid to Parent - - (46,442) (46,442) Transfer of Melville Realty to Parent - - (650) (650) Balance as of December 31, 1992 352 152,839 448,362 601,553 Net income - - 102,405 102,405 Dividends paid to Parent - - (50,070) (50,070) Balance as of December 31, 1993 352 152,839 500,697 653,888 Net income - - 89,851 89,851 Dividends paid to Parent - - (48,273) (48,273) Balance as of December 31, 1994 $352 $152,839 $542,275 $695,466 See accompanying notes to consolidated financial statements. MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Consolidated Statements of Cash Flows For the years ended December 31, 1994, 1993 and 1992 (In thousands) 1994 1993 1992 Cash flows from operating activities: Net income $ 89,851 $ 102,405 $ 122,551 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 52,327 45,201 45,154 Increase (decrease) in deferred income taxes 6,800 8,184 (8,024) (Gain) loss on disposal of assets 2,148 2,877 (2,095) Realignment charge (credit) (7,200) - 8,946 Changes in assets and liabilities: Accounts receivable (3,500) 2,166 (7,224) Inventories (101,801) (2,179) (27,815) Prepaid expenses and other current assets (2,730) 9,363 (1,451) Deferred charges and other noncurrent assets (13) (2,719) 4,124 Accounts payable (4,112) (37,405) 23,778 Accrued expenses (8,035) 15,007 16,424 Accrued income taxes 6,599 (5,868) 4,459 Other liabilities (1,019) (6,094) (2,752) Net cash provided by operating activities 29,222 130,938 176,075 Cash flows from investing activities: Additions to property and equipment (112,538) (108,181) (77,898) Proceeds from disposal of assets 19,328 - 7,138 Net cash paid in acquisition of Puerto Rico stores (24,846) - - Net cash used in investing activities (118,056) (108,181) (70,760) Cash flows from financing activities: Advances (to) from Parent and other divisions 154,054 16,159 (68,319) Increase (decrease) in book overdrafts (662) 14,902 4,861 Dividends paid (48,273) (50,070) (46,442) Principal payments on capital lease obligations (2,289) (2,365) (3,522) Net cash provided by (used in) financing activities 102,830 (21,374) (113,422) Net increase (decrease) in cash 13,996 1,383 (8,107) Cash at beginning of year 8,310 6,927 15,034 Cash at end of year $ 22,306 $ 8,310 $ 6,927 Supplemental disclosures of cash flow information: Cash paid during the year for: Interest $ 1,682 $ - $ - Income taxes $ 41,636 $ 64,313 $ 71,737 See accompanying notes to consolidated financial statements. MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Notes to Consolidated Financial Statements December 31, 1994, 1993 and 1992 (1) Summary of Significant Accounting Policies (a) Business Marshalls of Roseville, Minn., Inc. (the "Company") is an off- price retailer of brand name family apparel, accessories, footwear and selected home furnishings operating 484 and 448 stores as of December 31, 1994 and 1993, respectively in the United States and Puerto Rico. (b) Basis of Presentation The consolidated financial statements include those of Marshalls of Roseville, Minn., Inc., a wholly-owned subsidiary of Melville Corporation (the "Parent") and all of its retail subsidiaries doing business as Marshalls. All intercompany balances and transactions between the consolidated entities have been eliminated. (c) Accounting Changes Effective January 1, 1993, the Company adopted Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes," the cumulative effect of which was immaterial to the consolidated financial statements and, therefore, is not presented separately. In 1993, the Company changed its method of accounting for LIFO inventory by recognizing inflation on "basic" merchandise only. (d) Cash The Company's cash management program utilizes zero balance accounts. Accordingly, all book overdraft balances have been reclassified to accounts payable. (e) Inventories Inventories, principally finished goods, consist of merchandise purchased from domestic and foreign vendors and are carried at the lower of cost or market. Cost of inventories at distribution centers is determined on a last-in, first-out (LIFO) method. Inventories at stores are determined on the retail inventory method valued on a first-in, first-out (FIFO) basis. (f) Property and Equipment Property and equipment are stated at cost. Property and equipment under capital leases are stated at the present value of future minimum lease payments. 2 MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Notes to Consolidated Financial Statements December 31, 1994, 1993 and 1992 Depreciation and amortization of property, furniture and equipment, and leasehold improvements is computed on a straight-line basis, generally over the estimated useful lives of the assets or, when applicable, the life of the lease, whichever is shorter. Amortization of leased property under capital leases is computed on a straight-line basis over the life of the lease. Capitalized software costs are amortized on a straight-line basis over their estimated useful lives beginning in the year placed in service. Fully depreciated property and equipment are removed from the cost and related accumulated depreciation and amortization accounts. Maintenance and repairs are charged directly to expense as incurred. Major renewals or replacements are capitalized after making the necessary adjustment on the asset and accumulated depreciation accounts of the items renewed or replaced. (g) Deferred Charges Deferred charges, principally acquisition costs incurred from the purchase of new or existing store locations, are amortized on a straight-line basis, generally over the remaining terms of the leases. (h) Goodwill The excess of acquisition costs over the fair value of net assets acquired is amortized on a straight-line basis not to exceed 40 years. At December 31, 1994, the Company measured the recoverability of the recorded goodwill by estimating the future undiscounted cash flows expected to result from the respective entities. (i) Store Opening Costs New store opening costs are charged to expense as incurred. (j) Advertising Costs Advertising costs are charged to expense as incurred. (k) Income Taxes The Parent and its subsidiaries, including the Company, file a consolidated federal income tax return and, where applicable group state and local returns. The provision for federal income taxes or federal income tax benefit recorded by the Company represents the amount calculated on a separate return basis in accordance with the tax sharing agreement with 3 MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Notes to Consolidated Financial Statements December 31, 1994, 1993 and 1992 Parent. State income taxes represent actual amounts paid or payable by the Company. In February 1992, the Financial Accounting Standards Board issued SFAS No. 109, "Accounting for Income Taxes." SFAS No. 109 requires a change from the deferred method of accounting for income taxes of APB Opinion No. 11 to the asset and liability method of accounting for income taxes. Under the asset and liability method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Under SFAS No. 109, the effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. (2) Acquisition of Puerto Rico Stores During 1994, the Company acquired the assets of twelve retail stores located in Puerto Rico for a cash price of $24.8 million. This acquisition was accounted for using the purchase method of accounting and resulted in goodwill of $15.5 million. Results of operations are included in the consolidated financial statements of the Company from the date of acquisition. Pro forma financial results have not been presented for the effect of this transaction since the operations are not material to the consolidated financial results of the Company. (3) Inventories During the year ended December 31, 1993, the Company changed its method of accounting for the composition of "fashion" versus "basic" merchandise in its LIFO pools, wherein inflation was recognized on "basic" inventory only. The change increased 1993 net earnings by approximately $6.1 million. The net earnings impact of the change on prior years, individually and cumulatively, is not determinable. Inventories carried under the LIFO method represented approximately 37% of total year end inventory carrying 4 MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Notes to Consolidated Financial Statements December 31, 1994, 1993 and 1992 in 1994 and 34% in 1993. It is estimated that inventories would have been approximately $3.0 million higher than reported on December 31, 1994, and approximately $3.1 million higher on December 31, 1993, if the quantities valued on the LIFO basis were instead valued on a FIFO basis. (4) Accounts Receivable As of December 31, 1994 and 1993, accounts receivable consisted of the following (in thousands): 1994 1993 Due from landlords $ 6,476 $ 6,191 Charge accounts 4,700 2,689 Layaways 1,570 1,544 Other 5,149 3,780 17,895 14,204 Less allowance for doubtful accounts 763 807 Total $ 17,132 $ 13,397 (5) Property and Equipment As of December 31, 1994 and 1993, property and equipment consisted of the following (in thousands): 1994 1993 Land $ 5,727 $ 4,104 Buildings and improvements 23,088 16,644 Capitalized software costs 48,195 37,276 Machinery and equipment 38,741 36,133 Furniture and fixtures 309,125 262,492 Leasehold improvements 212,675 213,477 637,551 570,126 Less accumulated depreciation and amortization 190,204 174,472 Total $ 447,347 $ 395,654 5 MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Notes to Consolidated Financial Statements December 31, 1994, 1993 and 1992 (6) Accrued Expenses As of December 31, 1994 and 1993, accrued expenses consisted of the following (in thousands): 1994 1993 Taxes other than federal income taxes $ 47,744 $ 46,158 Capital expenditures 20,178 27,804 Employee benefit costs 23,201 17,434 Salaries and compensated absences 11,525 11,375 Rent 3,830 4,885 Other 55,319 64,025 Total $ 161,797 $ 171,681 (7) Leases The Company leases retail stores, warehouses, and office facilities under capital leases that expire through 2009. As of December 31, 1994 and 1993, leased property under capital leases was as follows (in thousands): 1994 1993 Retail stores $ 14,739 $ 17,005 Warehouses and office 13,356 13,356 28,095 30,361 Less accumulated amortization 21,714 22,463 Total $ 6,381 $ 7,898 The Company also has noncancelable operating leases, primarily for retail stores, which expire through 2020. The leases generally contain renewal options for periods ranging from one to five years and require the Company to pay costs such as real estate taxes and common area maintenance. Contingent rentals are paid based on a percentage of sales. Net rental expense for all operating leases for the years ended December 31, 1994, 1993 and 1992 was as follows (in thousands): 6 MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Notes to Consolidated Financial Statements December 31, 1994, 1993 and 1992 1994 1993 1992 Minimum rentals $ 122,634 $ 104,336 $ 94,707 Contingent rentals 2,693 2,129 2,033 125,327 106,465 96,740 Less sublease rentals 3,475 765 509 Total $ 121,852 $ 105,700 $ 96,231 At December 31, 1994, the future minimum lease payments under capital leases, rental payments required under operating leases, and the future minimum sublease rentals excluding lease obligations for closed stores were as follows (in thousands): Capital Operating Year ending December 31 Leases Leases 1995 $ 4,115 127,002 1996 3,996 120,684 1997 3,720 115,264 1998 3,107 107,776 1999 2,946 97,535 Thereafter 3,469 582,877 Total 21,353 $ 1,151,138 Less amount representing interest 7,772 Present value of minimum lease payments $ 13,581 Total future minimum sublease rentals $ 18,015 (8) Income Taxes Effective January 1, 1993 the Company adopted SFAS No. 109. The cumulative effect of this accounting change was not material. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components o 7 MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Notes to Consolidated Financial Statements December 31, 1994, 1993 and 1992 Company's deferred tax assets and liabilities as of December 31, 1994 and 1993 were as follows (in thousands): 1994 1993 Deferred tax assets: Realignment and purchase acquisition reserves $ 1,085 $ 6,876 Inventories 10,460 6,913 State income taxes 4,608 5,849 Other 13,985 9,993 Total deferred tax assets 30,138 29,631 Deferred tax liabilities: Property and equipment (49,233) (41,926) Total deferred tax liabilities (49,233) (41,926) Net deferred tax liabilities $ (19,095) $ (12,295) For 1992, deferred income taxes relate principally to costs associated with the strategic realignment program, capitalization of inventory costs and depreciation. For the years ended December 31, 1994, 1993 and 1992, the provision for income taxes comprised the following (in thousands): 1994 1993 1992 Federal: Current $ 40,482 $ 45,275 $ 62,823 Deferred 7,138 5,577 192 47,620 50,852 63,015 State: Current 7,090 9,901 12,880 Deferred 641 1,972 (393) 7,731 11,873 12,487 Total $ 55,351 $ 62,725 $ 75,502 8 MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Notes to Consolidated Financial Statements December 31, 1994, 1993 and 1992 The following is a reconciliation between the statutory Federal income tax rates and the effective rates for the years ended December 31, 1994, 1993 and 1992: Percent of pre-tax income 1994 1993 1992 Effective tax rate 38.1 38.0 38.1 State income taxes, net of Federal tax benefit (3.5) (4.7) (4.2) Other .4 1.7 .1 Statutory Federal income tax rate 35.0 35.0 34.0 (9) Related Party Transactions The Parent allocates insurance, employee benefits and various other administrative and miscellaneous expenses to the Company. Allocations to the Company are based on the Company's share of the expenses paid by the Parent on its behalf. Such allocations may not be reflective of the costs which would have been incurred if the Company had operated on a stand-alone basis. Management believes that the basis for these allocations is reasonable. (a) 401(k) Profit Sharing Plan The Parent has a qualified 401(k) Profit Sharing Plan available to full-time employees who meet the plan's eligibility requirements. This plan, which is a defined contribution plan, contains a profit sharing component with tax-deferred contributions to each employee based on certain performance criteria, and also permits employees to make contributions up to the maximum limits allowed by Internal Revenue Code Section 401(k). Under the 401(k) component, the Parent matches a portion of the employee's contribution under a predetermined formula based on the level of contribution and years of vesting. The Parent allocates to its subsidiaries a portion of the expense related to these contributions based on the proportionate share of qualifying compensation at the Company to the total of all compensation for all plan participants. Contributions to the plan by the Company, as directed by the Parent, for both profit sharing and matching of employee contributions were approximately $7.0 million, $4.0 million and 9 MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Notes to Consolidated Financial Statements December 31, 1994, 1993 and 1992 $3.8 million for the years ended December 31, 1994, 1993 and 1992, respectively. (b) Employee Stock Ownership Plan The Company's employees participate in the Parent's Employee Stock Ownership Plan ("ESOP"). The ESOP is a defined contribution plan for all employees meeting certain eligibility requirements. During 1989, the ESOP trust (the "Trust") borrowed $375.5 million at an interest rate of 8.6% through a 20 year loan guaranteed by the Parent. The Trust used the proceeds of the loan to purchase a new issue of convertible preference stock from the Parent. The Parent charges compensation expense to the Company based upon total payments due to the ESOP. The charge allocated to the Company is based on the Company's proportionate share of qualifying compensation expense and does not reflect the manner in which the Parent funds these costs or the related tax benefits realized by the Parent. As a result of the Company's allocation from the Parent, compensation expense of approximately $9.8 million, $8.5 million and $7.6 million was recognized in the years ended December 31, 1994, 1993 and 1992, respectively. (c) Administrative Costs The Parent allocates real estate services and various other administrative expenses to the Company. Allocations are based on the Company's ratable share of expense incurred by the Parent on behalf of the Company. The total cost allocated to the Company for the years ended December 31, 1994, 1993 and 1992 was approximately $2.1 million, $2.0 million and $1.7 million, respectively. Melville Realty Company, Inc., a subsidiary of the Parent, guarantees the leases of certain stores operated by the Company and charges a fee for that service. This amount is reflected in general and administrative expense and amounted to approximately $405,000, $327,000 and $306,000 for the years ended December 31, 1994, 1993 and 1992, respectively. 10 MARSHALLS OF ROSEVILLE, MINN., INC. (a wholly-owned subsidiary of Melville Corporation) Notes to Consolidated Financial Statements December 31, 1994, 1993 and 1992 (10) Realignment Charge and Credit In 1992, the Company recorded a realignment charge of $8.9 million to reflect the anticipated costs associated with the write-down of under performing assets in stores. The realignment charge did not include any cash outlays. In 1994, the Company recorded a $7.2 million realignment credit to reduce a multi-year lease accrual upon the sublease of a distribution center. The accrual was established when the facility was vacated in 1990. (11) Commitments and Contingencies The Company was contingently liable for unused letters of credit amounting to approximately $25.1 million and $26.1 million as of December 31, 1994 and 1993, respectively. The Company is involved in various claims and legal actions arising in the ordinary course of business. In the opinion of management, the ultimate disposition of these matters will not have a material adverse effect on the Company's consolidated financial position, results of operations or liquidity. (12) Subsequent Event On October 14, 1995, the Company was acquired by TJX Companies, Inc. ("TJX") for $375 million in cash and $175 million of TJX's convertible preferred stock.