Five-Year Financial Highlights
===============================================================================================================================
(Dollars and shares in thousands, except per share data) Fiscal Year (a)(b)
- -------------------------------------------------------------------------------------------------------------------------------
2001 2000 1999 1998 1997
- -------------------------------------------------------------------------------------------------------------------------------
Consolidated statements of earnings data:
Net sales $ 580,201 $ 502,056 $ 496,959 $ 484,885 $ 473,006
Gross profit 105,636 82,753 80,350 78,070 73,907
Earnings before income taxes 12,550 12,762 13,656 13,916 12,418
Provision for income taxes 4,769 4,849 5,298 5,398 4,781
Net earnings 7,781 7,913 8,358 8,518 7,637
Earnings per share - basic 1.49 1.33 1.32 1.26 1.11
Earnings per share - diluted 1.48 1.33 1.30 1.23 1.06
Cash dividends per share 0.36 0.36 0.34 0.30 0.27
Weighted average shares and outstanding -
diluted (c) 5,269 5,951 6,438 6,923 7,148
Net earnings-to-sales ratio 1.34% 1.58% 1.68% 1.76% 1.61%
Consolidated balance sheet data
(at fiscal year-end):
Working capital $ 18,952 $ 30,721 $ 29,797 $ 32,884 $ 29,217
Total assets 139,235 104,899 93,627 104,316 98,866
Current obligations under capital leases and
current maturities of long-term debt 1,515 954 842 792 866
Long-term debt 16,569 2,685 2,865 3,021 3,165
Long-term obligations under capital leases 20,808 8,284 9,069 9,764 11,177
Total shareholders' investment 50,420 49,513 47,969 53,085 50,384
Other data:
Capital additions $ 5,965 $ 5,278 $ 3,209 $ 3,847 $ 4,868
Depreciation and amortization 6,895 5,215 4,959 5,075 4,517
NOTES: (a) Our fiscal year ends on the Saturday closest to December
31. The 1997 fiscal year was a 53-week period. All other
fiscal years presented were 52-week periods.
(b) All data should be read in conjunction with our audited
consolidated financial statements and "Management's discussion
and analysis of financial condition and results of operations"
as set forth in this Annual Report.
(c) The weighted average shares outstanding - diluted for 1997 have
been retroactively restated to account for the three-for-two
stock split on September 5, 1997.
1
MANAGEMENT'S RESPONSIBILITIES FOR FINANCIAL REPORTING
The management of Fresh Brands, Inc. is responsible for the preparation,
objectivity and integrity of the Company's consolidated financial statements
contained in the Company's 2001 Annual Report to Shareholders. The consolidated
financial statements have been prepared in accordance with generally accepted
accounting principles and include amounts that are based on management's best
estimates and informed judgments.
To help assure that financial information is reliable and assets are
safeguarded, management maintains a system of internal controls and procedures
which it believes is effective in accomplishing these objectives. These controls
and procedures are designed to provide reasonable assurance, at appropriate
costs, that transactions are executed and recorded in accordance with
management's authorization.
The Company's consolidated financial statements have been audited by its
independent public accountants, Arthur Andersen LLP, whose report was based on
audits conducted in accordance with generally accepted auditing standards and is
presented below. As part of its audit, they performed a review of the Company's
system of internal controls for the purpose of determining the amount of
reliance to place on those controls relative to the audit tests it performed.
The Audit Committee of the Board of Directors, composed of directors who are not
officers or employees of the Company, meets periodically with Arthur Andersen
LLP and management to inquire as to whether each is properly discharging its
responsibilities. The independent public accountants have direct access to the
Audit Committee.
/s/ Elwood F. Winn /s/ Armand C. Go
Elwood F. Winn Armand C. Go
President and Vice President, Chief Financial Officer,
Chief Executive Officer Treasurer and Secretary
2
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Shareholders
Fresh Brands, Inc.:
We have audited the accompanying consolidated balance sheets of Fresh Brands,
Inc. (a Wisconsin Corporation, and formerly Schultz Sav-O Stores, Inc.) and its
subsidiaries as of December 29, 2001 and December 30, 2000 and the related
consolidated statements of earnings, cash flows and shareholders' investment for
each of the three fiscal years in the period ended December 29, 2001. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. 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 Fresh Brands, Inc.
and its subsidiaries as of December 29, 2001 and December 30, 2000, and the
results of their operations and their cash flows for each of the three fiscal
years in the period ended December 29, 2001, in conformity with accounting
principles generally accepted in the United States.
/s/ Arthur Andersen LLP
ARTHUR ANDERSEN LLP
Milwaukee, Wisconsin
February 15, 2002
3
FRESH BRANDS, INC.
CONSOLIDATED BALANCE SHEETS
As of December 29, 2001 and December 30, 2000
(In thousands, except per share data)
- --------------------------------------------------------------------------------------------------------
Assets 2001 2000
- --------------------------------------------------------------------------------------------------------
Current assets:
Cash and equivalents $ 11,501 $ 31,309
Receivables, net 11,385 11,691
Inventories 34,952 24,259
Land and building for resale 4,770 647
Other current assets 2,220 2,269
Deferred income taxes 4,459 4,102
- --------------------------------------------------------------------------------------------------------
Total current assets 69,287 74,277
- --------------------------------------------------------------------------------------------------------
Noncurrent receivable under capital subleases 9,278 4,163
Property and equipment, net 26,513 19,393
Property under capital leases, net 10,604 3,051
Goodwill, net 20,280 717
Other noncurrent assets, net 3,273 3,298
- --------------------------------------------------------------------------------------------------------
Total assets $ 139,235 $ 104,899
========================================================================================================
Liabilities and Shareholders' Investment
- --------------------------------------------------------------------------------------------------------
Current liabilities:
Accounts payable $ 33,981 $ 27,700
Accrued salaries and benefits 7,845 5,673
Accrued insurance 3,150 3,032
Other accrued liabilities 3,844 6,197
Current obligations under capital leases 1,192 785
Current maturities of long-term debt 323 169
- --------------------------------------------------------------------------------------------------------
Total current liabilities 50,335 43,556
- --------------------------------------------------------------------------------------------------------
Long-term obligations under capital leases 20,808 8,284
Long-term debt 16,569 2,685
Deferred income taxes 1,103 861
Shareholders' investment:
Common stock, $0.05 par value, authorized 20,000,000 shares,
issued 8,750,342 in 2001 and 2000 438 438
Additional paid-in capital 15,371 15,174
Retained earnings 75,680 69,767
Treasury stock at cost, 3,584,897 shares in 2001 and 3,165,213
shares in 2000 (41,069) (35,866)
- --------------------------------------------------------------------------------------------------------
Total shareholders' investment 50,420 49,513
- --------------------------------------------------------------------------------------------------------
Total liabilities and shareholders' investment $ 139,235 $ 104,899
========================================================================================================
See notes to consolidated financial statements.
4
CONSOLIDATED STATEMENTS OF EARNINGS
For fiscal years 2001, 2000 and 1999
(In thousands, except per share data)
- --------------------------------------------------------------------------------------------------------
2001 2000 1999
- --------------------------------------------------------------------------------------------------------
Net sales $ 580,201 $ 502,056 $ 496,959
Cost of products sold 474,565 419,303 416,609
- --------------------------------------------------------------------------------------------------------
Gross profit 105,636 82,753 80,350
Operating and administrative expenses 92,323 70,488 67,108
- --------------------------------------------------------------------------------------------------------
Operating income 13,313 12,265 13,242
Interest income 605 1,349 1,175
Interest expense (1,368) (852) (761)
- --------------------------------------------------------------------------------------------------------
Earnings before income taxes 12,550 12,762 13,656
Provision for income taxes 4,769 4,849 5,298
- --------------------------------------------------------------------------------------------------------
Net earnings $ 7,781 $ 7,913 $ 8,358
- --------------------------------------------------------------------------------------------------------
Earnings per share - basic $1.49 $1.33 $1.32
========================================================================================================
Earnings per share - diluted $1.48 $1.33 $1.30
========================================================================================================
See notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF CASH FLOWS
For fiscal years 2001, 2000 and 1999
(In thousands)
- --------------------------------------------------------------------------------------------------------
2001 2000 1999
- --------------------------------------------------------------------------------------------------------
Cash flows from operating activities:
Net earnings $ 7,781 $ 7,913 $ 8,358
Adjustments to reconcile net earnings to net cash
provided by operating activities:
Depreciation and amortization 6,895 5,215 4,959
Deferred income taxes (115) (177) 481
Changes in assets and liabilities, net of acquisition:
Receivables 1,224 (5,062) (1,176)
Inventories (4,450) 2,054 (2,362)
Other current assets (3,818) 544 (630)
Accounts payable 744 8,155 (4,473)
Accrued liabilities (2,921) 2,612 310
- --------------------------------------------------------------------------------------------------------
Net cash flows from operating activities 5,340 21,254 5,467
- --------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Acquisition, net of cash acquired (27,505) - -
Capital expenditures (5,965) (5,278) (3,209)
Receipt of principal amounts under capital subleases 367 326 407
Sale of assets and other 2,188 8 311
- --------------------------------------------------------------------------------------------------------
Net cash flows from investing activities (30,915) (4,944) (2,491)
- --------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Net change in revolver activity 13,650 - -
Payment for acquisition of treasury stock (9,662) (6,067) (12,864)
Receipt for private placement sale of treasury stock 3,300 - -
Payment of cash dividends (1,868) (2,141) (2,155)
Exercise of stock options 1,078 1,602 924
Principal payments on capital lease obligations (905) (696) (655)
Long-term debt borrowing 335 - -
Principal payments on long-term debt (242) (156) (146)
Other financing activities 81 24 19
- --------------------------------------------------------------------------------------------------------
Net cash flows from financing activities 5,767 (7,434) (14,877)
- --------------------------------------------------------------------------------------------------------
Cash and equivalents:
Net change (19,808) 8,876 (11,901)
Balance, beginning of year 31,309 22,433 34,334
- --------------------------------------------------------------------------------------------------------
Balance, end of year $ 11,501 $ 31,309 $ 22,433
========================================================================================================
See notes to consolidated financial statements.
5
FRESH BRANDS, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' INVESTMENT
For fiscal years 2001, 2000 and 1999
(In thousands, except per share data)
- ---------------------------------------------------------------------------------------------------------------------
Common Additional Total
Stock $0.05 Paid-in Retained Treasury Shareholders'
par value Capital Earnings Stock Investment
- ---------------------------------------------------------------------------------------------------------------------
Balances at January 2, 1999 $ 438 $ 14,359 $ 57,792 $ (19,504) $ 53,085
- ---------------------------------------------------------------------------------------------------------------------
Net earnings - - 8,358 - 8,358
Cash dividends, common stock
$0.34 per share - - (2,155) - (2,155)
Acquisition of 821,600 shares of
treasury stock - - - (12,864) (12,864)
Issuance of 166,750 shares of
treasury stock upon exercise
of stock options - - - 924 924
Tax benefits from exercise
of stock options - 602 - - 602
Other - - - 19 19
- ---------------------------------------------------------------------------------------------------------------------
Balances at January 1, 2000 438 14,961 63,995 (31,425) 47,969
- ---------------------------------------------------------------------------------------------------------------------
Net earnings - - 7,913 - 7,913
Cash dividends, common stock
$0.36 per share - - (2,141) - (2,141)
Acquisition of 558,540 shares of
treasury stock - - - (6,067) (6,067)
Issuance of 200,100 shares of
treasury stock upon exercise
of stock options - - - 1,602 1,602
Tax benefits from exercise of
stock options - 213 - - 213
Other - - - 24 24
- ---------------------------------------------------------------------------------------------------------------------
Balances at December 30, 2000 438 15,174 69,767 (35,866) 49,513
- ---------------------------------------------------------------------------------------------------------------------
Net earnings - - 7,781 - 7,781
Cash dividends, Common stock
$0.36 per share - - (1,868) - (1,868)
Acquisition of 742,998 shares of
treasury stock - - - (9,662) (9,662)
Issuance of 200,000 shares of
treasury stock in private
placement sale - - - 3,300 3,300
Issuance of 117,000 shares of
treasury stock upon exercise
of stock options - - - 1,078 1,078
Tax benefits from exercise of
stock options - 197 - - 197
Other - - - 81 81
- ---------------------------------------------------------------------------------------------------------------------
Balances at December 29, 2001 $ 438 $ 15,371 $ 75,680 $ (41,069) $ 50,420
=====================================================================================================================
See notes to consolidated financial statements.
6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For fiscal years 2001, 2000 and 1999
NOTE 1
Description of Business
At the Schultz Sav-O Stores, Inc.(Nasdaq: SAVO) annual shareholder meeting
held on May 30, 2001 the shareholders approved a plan of share exchange to
create a holding company, Fresh Brands, Inc. ("FBI"). After the share exchange,
each Schultz Sav-O Stores, Inc. shareholder received one share of Fresh Brands,
Inc. stock for every share of Schultz Sav-O Stores, Inc. stock that he or she
owned. On June 4, 2001, the stock began trading on the Nasdaq National Market
System under the symbol "FRSH".
Fresh Brands Distributing, Inc. ("FBDI"), a wholly owned subsidiary of FBI
located in Sheboygan, Wisconsin is engaged in the food distribution business
through franchised and corporate Piggly Wiggly(R) retail supermarkets and as a
supplier to independent food stores. Dick's(R) Supermarkets, Inc. ("DSI"), a
wholly owned subsidiary of FBI located in Platteville, Wisconsin operates
corporate Dick's retail supermarkets and is a wholesale supplier of bakery and
deli goods. FBDI provides delivery of wholesale goods to corporate retail stores
and other customers through PW Trucking, Inc., a wholly owned subsidiary of
FBDI. The corporate-owned and franchised retail supermarkets operating under the
Piggly Wiggly and Dick's Supermarkets brands, and independent food stores we
supply are located throughout Wisconsin and northern Illinois.
NOTE 2
Summary of Significant Accounting Policies
Fiscal year
Our fiscal year ends on the Saturday closest to December 31. The 2001, 2000
and 1999 fiscal years were 52-week periods ended December 29, 2001, December 30,
2000, and January 1, 2000, respectively.
Principles of consolidation
The consolidated financial statements include the accounts of Fresh Brands,
Inc. and its wholly-owned subsidiaries Fresh Brands Distributing, Inc., Dick's
Supermarkets, Inc. (from the date of acquisition) and PW Trucking, Inc.
Intercompany accounts and transactions have been eliminated.
Revenue recognition
Wholesale revenue is recognized at the time products are shipped, as
shipments are F.O.B. shipping point. Retail revenue is recognized at the point
of sale.
Cash and equivalents
Cash and equivalents consist of demand deposits at commercial banks and
highly liquid investments with a maturity of three months or less when
purchased. Cash equivalents are stated at cost which approximates market value.
Receivables
We record receivables primarily from our wholesale customers, most of which
are franchised customers. We continuously monitor the financial viability of our
customers and provide an allowance for doubtful accounts related to both credit
worthiness and retail subsidies that are provided to these customers.
Receivables are shown net of the allowance for doubtful accounts of $3,450,000
and $3,850,000 at December 29, 2001 and December 30, 2000, respectively.
Inventories
Inventories, substantially all of which consist of food, groceries and
related products for resale, are stated at the lower of cost or market value.
Cost is determined primarily on the last-in, first-out (LIFO) method. At Fresh
Brands Distributing, Inc., for meat and produce, cost is determined on the
first-in, first-out (FIFO) method. At December 29, 2001 and December 30, 2000,
84% and 79%, respectively, of all inventories were accounted for under the LIFO
method.
The excess of current cost over the stated LIFO cost of inventory was
$9,704,000 and $10,284,000 at December 29, 2001 and December 30, 2000,
respectively.
Goodwill
Goodwill is comprised of amounts paid in excess of the fair value of
acquired net assets and is amortized on a straight-line basis over the estimated
life of 20 years. Goodwill accumulated amortization was $775,000 and $174,000 at
December 29, 2001 and December 30, 2000, respectively. The amortization of
goodwill increased by approximately
7
$540,000 over the prior year due to the Dick's acquisition and impacted earnings
per share by about $0.06. Goodwill amortization expense was $602,000, $59,000
and $59,000 for the fiscal years ended 2001, 2000 and 1999, respectively. For
fiscal 2002, we will adopt Statement of Financial Accounting Standards ("SFAS")
No. 142, "Goodwill and Other Intangible Assets". Under SFAS No. 142, goodwill
and intangible assets deemed to have indefinite lives will no longer be
amortized, but will be subject to impairment tests at least annually in
accordance with this statement. During fiscal 2002, we will perform the first of
the required impairment tests of goodwill. Management expects no goodwill
impairment as a result of the tests to be performed. Additionally, this
accounting change is expected to have a positive impact on pre-tax operating
earnings in 2002 of approximately $1.0 million.
Other current assets
Other current assets at December 29, 2001 and December 30, 2000 consisted
of the following:
(In thousands)
- ---------------------------------------------------------------
2001 2000
- ---------------------------------------------------------------
Prepaid expenses $1,268 $1,417
Receivable under capital
subleases 526 368
Retail systems and
supplies for resale 426 484
- ---------------------------------------------------------------
Other current assets $2,220 $2,269
===============================================================
Receivables under capital subleases represent amounts due to us under
sublease agreements with our franchised supermarkets. The subleases are
established with the franchisees using terms similar to those existing under the
primary lease agreement we have with the original lessor.
Property held for resale
Property held for resale consists of costs incurred for retail facility
projects which complete in less than one year. Project costs which we fund are
accumulated until project completion. Upon project completion, and the
subsequent sale of the facility, lease arrangements are established.
Property and equipment, net
Property and equipment are stated at cost, net of depreciation.
Depreciation is computed using the straight-line method over the estimated
useful lives of the assets. Equipment generally has a useful life of 4
to 7 years; computer hardware and software have a useful life of 3 to 5 years;
buildings and land improvements have a useful life of 10 to 35 years; and
leasehold improvements generally have a useful life of 10 to 20 years. Facility
remodeling and upgrade costs on leased stores are capitalized as leasehold
improvements and are amortized over the shorter of the remaining lease term or
the useful life of the asset. Upon disposal, the appropriate asset cost and
accumulated depreciation are retired. Gains and losses on disposition are
included in earnings. Periodically, we evaluate all long-lived assets for
impairment using the guidelines of Financial Accounting Standards No. 121,
"Accounting for the Impairment of Long-Lived Assets". Asset cost is reduced when
an impairment is identified. In fiscal, 2001 an impairment loss of $200,000 was
recorded. No assets were determined to be impaired in fiscal 2000 or 1999.
Property and equipment, net of accumulated depreciation at December 29,
2001 and December 30, 2000 consisted of the following:
(In thousands)
- ---------------------------------------------------------------
2001 2000
- ---------------------------------------------------------------
Land and buildings $15,639 $18,939
Leasehold improvements 8,344 5,609
Equipment and fixtures 46,469 37,012
- ---------------------------------------------------------------
$70,452 61,560
Less accumulated
depreciation (43,939) (42,167)
- ---------------------------------------------------------------
Property and equipment, net $26,513 $19,393
===============================================================
Other noncurrent assets
Other noncurrent assets, net of accumulated amortization of $3,273,000 and
$3,298,000 at December 29, 2001 and December 30, 2000 consisted of the
following:
(In thousands)
- ---------------------------------------------------------------
2001 2000
- ---------------------------------------------------------------
Capitalized software, net $3,036 $2,983
Other intangibles, net 45 136
Other 192 179
- ---------------------------------------------------------------
Total $3,273 $3,298
===============================================================
When events and circumstances warrant, we review the carrying value of
capitalized software costs. Capitalized software generally has a useful life of
3 to 5 years. A loss may be recognized when the value of estimated undiscounted
cash flow benefit related to the asset falls below the unamortized cost.
8
Accounts payable
Accounts payable includes $10,709,000 and $11,537,000 at December 29, 2001
and December 30, 2000, respectively, of issued checks that have not cleared the
Company's disbursing bank accounts.
Retail repositioning reserve
Estimated repositioning and termination expenses associated with the
closure, replacement or disposal of stores, consisting primarily of lease
payments, related facility costs (taxes, utilities and maintenance) and
severance payments are charged to operating and administrative expenses upon the
decision to close, replace or dispose of a store as soon as the amounts are
reasonably estimated. At December 29, 2001 and December 30, 2000, the remaining
retail repositioning reserve was $300,000 and $495,000, respectively. This
amount is included in other accrued liabilities on the balance sheet. It is
expected that these costs will be completely expended by the end of 2003.
Financial instruments
Our financial instruments consist of various debt facilities and cash
equivalents. At December 29, 2001, the fair market value of the financial
instruments was not materially different from the carrying value.
Supplementary disclosure of cash flow information
Interest and taxes paid included in our cash flow from operations were as
follows:
(In thousands)
- -----------------------------------------------------------
2001 2000 1999
- -----------------------------------------------------------
Interest paid $ 1,352 $ 851 $ 760
Taxes paid 5,523 4,873 4,649
- -----------------------------------------------------------
Non-cash investing and financing activities include capital lease obligations
incurred for properties of $13,933,000, $0 and $0 for 2001, 2000 and 1999,
respectively. Offsetting capital sublease receivables for 2001 were $5,772,000.
Use of estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and
expenses during the reporting periods. Actual results could differ from those
estimates.
Advertising costs
Costs incurred for producing and communicating advertising are generally
expensed when incurred.
Shipping and handling fees and costs
We have historically presented shipping revenues as a component of net
sales and the related costs of transporting goods to the warehouse as part of
cost of goods sold and the costs of shipping goods to customers as part of
operating and administrative expenses. Shipping and handling costs included in
operating and administrative expenses were $6,660,000, $5,567,000 and
$5,355,000, in 2001, 2000, and 1999, respectively.
Reclassifications
Certain 2000 and 1999 amounts previously reported have been reclassified to
conform to the 2001 presentation.
New accounting pronouncements
In May 2000, the Emerging Issues Task Force ("EITF") issued No. 00-14,
"Accounting for Certain Sales Incentives". Issue 00-14 addresses the
recognition, measurement, and income statement classification for sales
incentives offered voluntarily by a vendor without charge to customers that can
be used in, or that are exercisable by a customer as a result of, a single
exchange transaction. This pronouncement will be adopted during fiscal 2002. We
feel this will reduce sales and cost of sales by approximately $6,000,000 in
fiscal 2002.
In August 2001, the Financial Accounting Standards Board issued SFAS No.
144, "Accounting for Impairment of Disposal of Long-Lived Assets" effective for
years beginning after December 15, 2001. SFAS No. 144 establishes a single
accounting model for long-lived assets to be disposed of by sale and provides
additional implementation guidance for assets to be held and used and assets to
be disposed of other than by sales. SFAS No. 144 supersedes SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
be Disposed of".
NOTE 3
Acquisition
On June 16, 2001, we acquired all of the outstanding common stock of Dick's
Supermarkets,
9
Inc. for approximately $30.2 million in cash (including assumption of funded
debt). This acquisition has been accounted for under the purchase method of
accounting, and the results of Dick's Supermarkets, Inc. have been included in
our results from the date of acquisition. The purchase price was allocated to
the fair market value of the assets acquired and the liabilities assumed. The
purchase price allocation included the write-up to fair value of inventory and
fixed assets of $1.7 million and $4.7 million, respectively.and resulted in
goodwill of approximately $20.2 million.
The following unaudited pro forma consolidated results of continuing
operations present the companies as if they had been combined at the beginning
of the periods presented. These pro forma results are based on assumptions
considered appropriate by management. These pro forma results have been prepared
for limited comparative purposes only and do not purport to be indicative of
results which would have actually been reported had the acquisition taken place
on January 2, 2000, or which may be reported in the future.
(In thousands, except per share data)
------------------------------------------------------------
2001 2000
------------------------------------------------------------
Net sales $ 624,254 $ 608,480
Net earnings $ 7,206 $ 7,800
------------------------------------------------------------
Basic and diluted earnings per share
------------------------------------------------------------
Basic $ 1.38 $ 1.31
Diluted $ 1.37 $ 1.31
============================================================
NOTE 4
Long-Term Debt
We entered into a new loan agreement in June 2001 providing unsecured
revolving credit facilities totaling $35,000,000 which expires April 30, 2004.
This arrangement provides for borrowings at interest rates based on either the
bank's prime rate or adjusted LIBOR plus 1%. Quarterly commitment fees are also
paid at a rate of .0625% based on the average daily unused amount of the
revolving credit facility. At December 29, 2001, the interest rate was 3.12%.
There are no compensating balance requirements. At December 29, 2001 we had
related debt outstanding from the revolving line of credit of $13,650,000. There
were no borrowings under this agreement during 2000.
Long-term debt at December 29, 2001 and December 30, 2000 consisted of the
following:
(In thousands)
-------------------------------------------------------------
2001 2000
-------------------------------------------------------------
Revolving line of credit $ 13,650 -
Mortgage note, 9.675%, due in
monthly installments of
$33,026 including interest
due through June 2012 2,618 2,754
Note payable, 3.0%, due in
monthly installments of
$5,187 including interest
due through July 2006 304 -
Note payable, 2.0%, due in
monthly installments of
$7,626 including interest
due through 2004 254 -
Land contract, 10.0%, due in
annual installments of
$33,333 through March 2003 66 100
-------------------------------------------------------------
16,892 2,854
Less current maturities (323) (169)
-------------------------------------------------------------
Long-term debt $ 16,569 $ 2,685
=============================================================
At December 29, 2001, the fair value of the long-term debt was not
materially different from carrying value. The revolving credit and term note
agreements contain various covenants including, among others, the maintenance of
defined working capital, net worth requirements, certain fixed charge coverage
ratios, restrictions against pledging of or liens upon certain assets, mergers,
significant changes in ownership and limitations on restricted payments. At
December 29, 2001 we were in compliance with the requirements of all of our debt
covenants.
The total amount of long-term debt due in each of the fiscal years 2002
through 2006 will be $323,000, $351,000, $13,956,000, $250,000 and $234,000
respectively, and $1,778,000 from 2007 and thereafter.
Interest expense consisted of the following:
(In thousands)
------------------------------------------------------------
2001 2000 1999
------------------------------------------------------------
Imputed
interest-capital $ 726 $ 565 $ 445
leases
Interest on
long-term debt 584 287 302
Other 58 - 14
------------------------------------------------------------
Interest expense $1,368 $ 852 $ 761
============================================================
10
NOTE 5
Income Taxes
The difference between the statutory federal income tax rate and the
effective rate is summarized as follows:
- ------------------------------------------------------------
2001 2000 1999
- ------------------------------------------------------------
Federal income tax 34.1% 34.0% 34.0%
State income taxes, net
of federal income tax
benefit 4.7 4.8 4.5
Other, net (0.8) (0.8) 0.3
- ------------------------------------------------------------
Effective income tax rate 38.0% 38.0% 38.8%
============================================================
Components of provision for income taxes consisted of the following:
(In thousands)
-----------------------------------------------------------
2001 2000 1999
-----------------------------------------------------------
Currently payable
Federal $3,981 $4,076 $3,934
State 903 950 883
Deferred (115) (177) 481
-----------------------------------------------------------
Provision for
income taxes $4,769 $4,849 $5,298
===========================================================
The components of deferred income tax assets and liabilities at December
29, 2001 and December 30, 2000 were as follows:
(In thousands)
-----------------------------------------------------------
2001 2000
-----------------------------------------------------------
Deferred income tax assets:
Bad debt reserve $1,346 $1,502
Accrued insurance 1,238 1,195
Capital leases 770 743
Vacation pay 964 718
Retail repositioning reserve 117 193
Other 895 585
-----------------------------------------------------------
Total deferred income tax 5,330 4,936
assets
-----------------------------------------------------------
Deferred income tax liabilities:
Property and equipment (1,887) (1,618)
Pension (87) (77)
-----------------------------------------------------------
Total deferred income tax
liabilities (1,974) (1,695)
-----------------------------------------------------------
Net deferred income tax assets $3,356 $3,241
===========================================================
We currently have no requirements for a valuation allowance for our
deferred income tax assets. The net deferred income tax assets as of December
29, 2001 and December 30, 2000 were classified in the balance sheet as follows:
(In thousands)
- -----------------------------------------------------------
2001 2000
- -----------------------------------------------------------
Current deferred income tax
asset $4,459 $4,102
Noncurrent deferred income tax
liability (1,103) (861)
- -----------------------------------------------------------
Net deferred income tax assets $3,356 $3,241
===========================================================
NOTE 6
Commitments and Contingent Liabilities
As of December 29, 2001, we were contingently liable under guarantees of
bank note agreements of wholesale customers totaling $14,779,000. All of the
loan guarantees are substantially collateralized, principally with equipment and
inventory, and to a lesser extent, with building facilities.
Capital expenditure commitments made by the Company as of December 29, 2001
were approximately $15,000,000.
NOTE 7
Retirement Plans
We have a trusteed retirement savings defined contribution plan, which
includes provisions of Section 401(k) of the Internal Revenue Code, for the
benefit of its non-union eligible employees. For FBDI, annual provisions are
based on a mandatory 5% of eligible participant compensation and additional
amounts at the sole discretion of the Board of Directors. For DSI, annual
provisions are based on 1% of eligible participant compensation. Provisions for
the three fiscal years ended 2001, 2000 and 1999 were $1,317,000, $975,000 and
$930,000, respectively. Both plans allows participants to make pretax
contributions. We then match certain percentages of employee contributions. Our
matching contributions for 2001, 2000 and 1999 were $230,000, $95,000 and
$90,000, respectively.
We have union-administered multi-employer pension plans covering all hourly
paid employees represented by collective bargaining agreements. Total pension
expense was $2,010,000, $1,814,000 and $1,696,000 in fiscal years 2001, 2000 and
1999, respectively.
11
NOTE 8
Leases
We lease most of our retail stores under lease agreements with original
lease periods of 15 to 20 years and typically with five-year renewal options.
Exercise of such options is dependent on, among others, the level of business
conducted at the location. Executory costs, such as maintenance and real estate
taxes, are generally our responsibility. In a majority of situations, we will
enter into a lease for a store and sublease the store to a wholesale customer.
When leases of this type are established, the future minimum lease payments due
under the capital lease arrangements with our customers are recorded on our
balance sheet as sublease receivables. Additionally, we lease transportation
equipment, principally tractors and trailers, corporate office space and certain
office equipment. Some real estate leases contain contingent rental provisions
based on sales volume at retail stores and some equipment leases contain
contingent rental provisions based on miles traveled for tractors and trailers.
Contingent rental expense associated with the Company's capital leases and
sublease income was not material to our financial statements.
Capitalized leases were calculated using interest rates appropriate at the
inception of each lease. A summary of real property utilized by us under capital
leases at December 29, 2001 and December 30, 2000 was as follows:
(In thousands)
-------------------------------------------------------------
2001 2000
-------------------------------------------------------------
Investments in leased property
under capital leases $ 14,675 $ 6,514
Less accumulated amortization (4,071) (3,463)
-------------------------------------------------------------
Property under capital leases, $ 10,604 $ 3,051
net
=============================================================
Amortization of leased property under capital leases, included in operating
and administrative expenses, amounted to $619,000, $411,000 and $287,000 in
fiscal years 2001, 2000, 1999, respectively.
The following is a schedule of future minimum lease payments under capital
leases and subleases and the present value of such payments as of December 29,
2001:
(In thousands)
------------------------------------------------------------
Capital Capital
Lease Sublease
Obligations Receivables
------------------------------------------------------------
2002 $ 3,130 $ 1,473
2003 3,106 1,484
2004 2,910 1,490
2005 2,952 1,499
2006 2,863 1,394
2007-2021 23,249 10,164
------------------------------------------------------------
Total minimum lease payments 38,210 17,504
Less interest (16,210) (7,700)
------------------------------------------------------------
Present value of minimum lease
payments and amounts
receivable 22,000 9,804
Less current portion (1,192) (526)
------------------------------------------------------------
Long-term obligations and
receivable $ 20,808 $ 9,278
============================================================
The following is a schedule of future minimum lease payments required under
operating leases for retail stores, transportation equipment, corporate office
space and office equipment that have noncancelable operating lease terms in
excess of one year as of December 29, 2001:
(In thousands)
- ------------------------------------------------------------
2002 $ 13,188
2003 12,955
2004 12,496
2005 11,717
2006 10,956
2007-2020 81,636
- ------------------------------------------------------------
Total minimum lease payments $142,948
Less minimum amounts receivable
under noncancelable subleases (100,306)
- ------------------------------------------------------------
Net minimum lease payments $ 42,642
- ------------------------------------------------------------
Rental expenses, net of rental income from subleases, for all operating
leases amounted to $6,166,000, $5,260,000 and $5,010,000 in fiscal years 2001,
2000 and 1999, respectively. These amounts include $1,215,000, $1,035,000 and
$1,054,000, respectively, for contingent rentals.
In October of 2001, we entered into an arrangement to sale and leaseback an
existing
12
Sheboygan, Wisconsin corporate supermaket for conversion into an additional
distribution center. The new 20 year capital lease will expire in 2021.
NOTE 9
Stock Option Plans
We have stock option plans which provide for the grant of either incentive
or nonqualified stock options to key employees and nonqualified options to
directors. The exercise price of each option is equal to the market price of our
stock on the date of grant. Options granted prior to year 2000, are exercisable
for seven years from the date of grant. Options granted beginning in January
2000, are now exercisable for ten years from the date of grant. Most options
vest ratably over the first three years. Such vesting may be accelerated by the
Stock Option Committee of the Board of Directors or upon a change in control of
the Company, as defined by the plans.
In fiscal 1996, we adopted the disclosure requirements of FAS No. 123. Had
we determined compensation cost based on the fair value at the grant date for
its stock options under FAS No. 123, our net earnings would have been reduced to
the following pro forma amounts below:
(In thousands)
- ------------------------------------------------------------
2001 2000 1999
- ------------------------------------------------------------
Net earnings
As reported $7,781 $7,913 $8,358
Pro forma 7,386 7,577 8,012
- ------------------------------------------------------------
Earnings per
share-diluted
As reported $1.48 $1.33 $1.30
Pro forma $1.40 $1.27 $1.24
============================================================
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model with the following weighted average
assumptions used for grants in 2001, 2000 and 1999:
(In thousands)
- ------------------------------------------------------------
2001 2000 1999
- ------------------------------------------------------------
Dividend yield 2.25% 2.00% 2.00%
Expected volatility 28.22% 25.01% 25.91%
Risk-free interest rate 5.05% 6.57% 4.75%
Expected term of grant 7.0 years 5.5 years 5.5 years
============================================================
The fair values of each option granted in 2001, 2000 and 1999 were $3.85,
$3.48 and $4.27, respectively.
As of December 29, 2001, no incentive stock options have been granted.
Following is a summary of the status of nonqualified stock options for the
fiscal years 2001, 2000 and 1999:
(In thousands)
- ------------------------------------------------------------
Weighted
Number Average
of shares exercise prices
- ------------------------------------------------------------
Shares under option at
January 2, 1999 672,750 $ 9.21
Granted 165,700 16.13
Exercised (166,750) 5.54
Forfeited (27,500) 14.81
- ------------------------------------------------------------
Shares under option at
January 1, 2000 644,200 11.70
Granted 187,200 11.84
Exercised (200,100) 8.01
Forfeited (28,600) 14.38
- ------------------------------------------------------------
Shares under option at
December 30, 2000 602,700 12.85
Granted 332,000 12.56
Exercised (117,000) 9.22
Forfeited (189,000) 14.38
- ------------------------------------------------------------
Shares under option at
December 29, 2001 628,700 12.91
============================================================
Shares reserved for
grant at
December 29, 2001 781,600
============================================================
Options granted in
January, 2002 149,000 $18.75
============================================================
The range of options outstanding at December 29,
2001 is as follows:
- ------------------------------------------------------------
Price Range
per Share $9.67-$14.25 $15.00-$18.85
- ------------------------------------------------------------
Number of options 466,200 162,500 628,700
outstanding
Weighted average
exercise price
outstanding $11.78 $16.15 $12.91
Number of options
exercisable 107,866 135,667 243,533
Weighted average
exercise price
exercisable $11.63 $16.15 $14.15
Weighted average
remaining
contractual
life (in years) 8.26 4.64 7.33
=============================================================
When options are exercised, we realize certain income tax benefits. These
benefits resulted in a
13
decrease in current income taxes payable and a corresponding increase in
additional paid-in capital.
Nonqualified stock options were exercisable at the weighted average per
share prices of $14.15, $12.09 and $9.29 at December 29, 2001, December 30, 2000
and January 1, 1999, respectively.
NOTE 10
Common Stock
On October 11, 2001, the Board of Directors of Fresh Brands, Inc. declared
a dividend of one common share purchase right for each outstanding share of
common stock, par value $.05, of the Company. The dividend was payable on
November 23, 2001 to the shareholders of record on November 9, 2001. The rights
will be exercisable only if a person or group acquires 20% or more of our common
stock or announces a tender offer, consummation of which would result in
ownership by a person or group of 20% or more of the common stock. Each right
will initially entitle shareholders to buy one share of our common stock at an
initial exercise price of $50.00 per share, subject to adjustment. The rights do
not have any voting rights or receive dividends and may be redeemed at a price
of $.001 per right. If any person becomes a 20% or more shareholder of the
company, each right, other than those owned by the 20% shareholder, will
(subject to certain limitations) entitle its holder to purchase, at the rights'
then-current exercise price, a number of common shares of the company or of the
acquirer having a market value at that time of twice the rights' per share
exercise price. The Board of Directors is also authorized to reduce the 20%
threshold to not less than 10%. The rights expire on November 9, 2011, subject
to extension.
NOTE 11
Earnings Per Share
Basic earnings per share is computed by dividing net earnings by the
weighted average number of shares of common stock outstanding during the year.
Diluted earnings per share is computed by dividing net earnings by the weighted
average number of shares of common stock outstanding and common stock
equivalents during the year. Common stock equivalents used in computing diluted
earnings per share related to stock options which, if exercised, would have a
dilutive effect on earnings per share. We had antidilutive shares for 2001, 2000
and 1999 of 217,500, 441,000 and 153,700, respectively.
Our calculations of earnings per share-basic and earnings per share-diluted
were as follows:
(In thousands)
- ------------------------------------------------------------
2001 2000 1999
- ------------------------------------------------------------
Net earnings
available for
common
shareholders $ 7,781 $ 7,913 $ 8,358
Weighted
average shares
outstanding 5,228 5,935 6,336
Earnings per
share-basic $1.49 $1.33 $1.32
- ------------------------------------------------------------
Net earnings
available for
common
shareholders $ 7,781 $7,913 $8,358
Weighted
average shares
outstanding 5,228 5,935 6,336
Stock options'
dilutive effect 41 16 102
Weighted
average shares
and equivalents
outstanding 5,269 5,951 6,438
Earnings per
share-diluted $1.48 $1.33 $1.30
- ------------------------------------------------------------
NOTE 12
Segment Reporting
Our operations are classified into two reportable business segments,
wholesale and retail. The operational performance of both wholesale and retail
segments are managed and evaluated by management.
The wholesale segment represents our business activities relating to food
wholesale distribution. At December 29, 2001, we provided products to 72
franchised units, 27 corporate stores and a number of independent retail stores.
The wholesale segment includes warehousing, transportation, manufacturing and
other logistical functions, and derives its revenues primarily from the sale of
groceries, produce, dairy, meat and cigarette products to our franchised,
corporate and independent retail customers. Topco LLC was a major supplier to
our wholesale segment in 2001 providing nearly 12% of total inventory for each
of the last three years. Inventory purchases from Topco for 2001, 2000 and 1999
were $55,703,000, $50,442,000 and $50,338,000, respectively. The retail segment
relates to our retail supermarket activities. Revenues are realized through the
sale of groceries, dairy, produce, meat, bakery, deli and other merchandise by
our corporate retail stores to retail consumers.
14
The accounting policies of the two segments are the same as those described
in the Summary of Significant Accounting Policies. Our management utilizes
several measurement tools in evaluating each segment's performance and each
segment's resource requirements. However, the principal measurement tools are
consistent with our consolidated financial statements and accordingly are
reported on a similar basis. Wholesale operating profits on sales through our
corporate stores are allocated to the retail segment. The "corporate" heading
includes corporate-related items, principally cash and equivalents. As it
relates to operating income, the "corporate" heading includes corporate-related
items allocated to the appropriate segments.
Summarized financial information concerning our reportable segments is
shown in the following table:
(In thousands)
- ---------------------------------------------------------------
Sales 2001 2000 1999
- ---------------------------------------------------------------
Wholesale sales $ 451,934 $ 409,437 $ 411,913
Inter/Intracompany
Sales (143,156) (114,910) (123,376)
- ---------------------------------------------------------------
Net wholesale sales 308,778 294,527 288,537
Retail sales 271,423 207,529 208,422
- ---------------------------------------------------------------
Total $ 580,201 $ 502,056 $ 496,959
===============================================================
- ---------------------------------------------------------------
Earnings before
income taxes 2001 2000 1999
- ---------------------------------------------------------------
Wholesale $ 10,207 $ 9,351 $ 9,870
Retail 3,106 2,914 3,372
- ---------------------------------------------------------------
Total operating
income 13,313 12,265 13,242
Interest income 605 1,349 1,175
Interest expense (1,368) (852) (761)
- ---------------------------------------------------------------
Earnings before
income taxes $ 12,550 $ 12,762 $ 13,656
===============================================================
- ---------------------------------------------------------------
Capital Expenditures 2001 2000 1999
- ---------------------------------------------------------------
Wholesale $ 1,569 $ 378 $ 199
Retail 3,175 2,214 1,869
Corporate 1,221 2,686 1,141
- ---------------------------------------------------------------
Total $ 5,965 $ 5,278 $ 3,209
===============================================================
- ---------------------------------------------------------------
Depreciation and
Amortization 2001 2000 1999
- ---------------------------------------------------------------
Wholesale $ 926 $ 829 $ 820
Retail 4,705 3,001 2,450
Corporate 1,264 1,385 1,689
- ---------------------------------------------------------------
Total $ 6,895 $ 5,215 $ 4,959
===============================================================
- ---------------------------------------------------------------
Identifiable Assets 2001 2000 1999
- ---------------------------------------------------------------
Wholesale $ 39,373 $ 31,764 $ 33,941
Retail 69,586 28,260 28,546
Corporate 30,276 44,875 31,140
- ---------------------------------------------------------------
Total $ 139,235 $ 104,899 $ 93,627
===============================================================
15
Unaudited Quarterly Financial Information
We generally include sixteen weeks in our first quarter and twelve weeks in each subsequent quarter. Summarized
quarterly and annual financial information for fiscal years 2001 and 2000 follows:
- --------------------------------------------------------------------------------------------------------------------------
(Dollars and shares in thousands, except per share data) Fiscal Year Ended December 29, 2001
- --------------------------------------------------------------------------------------------------------------------------
First Second Third Fourth Year
- --------------------------------------------------------------------------------------------------------------------------
Net sales $155,724 $131,899 $145,488 $147,090 $580,201
Gross profit 26,062 23,121 28,396 28,057 105,636
Net earnings 1,890 1,776 1,535 2,580 7,781
Earnings per share - basic 0.34 0.34 0.30 0.51 1.49
Earnings per share - diluted 0.34 0.34 0.30 0.50 1.48
Weighted average shares and
equivalents outstanding 5,518 5,251 5,097 5,133 5,269
- --------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------
(Dollars and shares in thousands, except per share data) Fiscal Year Ended December 30, 2000
- --------------------------------------------------------------------------------------------------------------------------
First Second Third Fourth Year
- --------------------------------------------------------------------------------------------------------------------------
Net sales $147,688 $116,459 $116,341 $121,568 $502,056
Gross profit 24,459 19,471 18,843 19,980 82,753
Net earnings 1,869 1,903 1,555 2,586 7,913
Earnings per share - basic 0.31 0.32 0.26 0.44 1.33
Earnings per share - diluted 0.31 0.32 0.26 0.44 1.33
Weighted average shares and
equivalents outstanding 5,999 5,989 5,951 5,916 5,951
- --------------------------------------------------------------------------------------------------------------------------
Common Stock Information
Our common stock is traded over-the-counter on the Nasdaq Stock Market under the symbol FRSH. There are approximately
1,400 shareholders of our common stock. An analysis of the high and low last sale stock prices by quarter and for the last
three years are as follows:
- ------------------------------------------------------------------------------------------------------------------------------
First Quarter Second Quarter Third Quarter Fourth Quarter Year
High Low High Low High Low High Low High Low
- ------------------------------------------------------------------------------------------------------------------------------
2001 $13.00 $ 9.75 $14.75 $11.75 $16.75 $13.70 $18.99 $14.00 $18.99 $ 9.75
2000 13.00 9.88 12.00 10.13 12.38 10.50 12.00 10.63 13.00 9.88
1999 17.38 15.75 17.13 16.00 16.75 15.75 15.75 11.25 17.38 11.25
- ------------------------------------------------------------------------------------------------------------------------------
Cash dividends paid per share were:
- ------------------------------------------------------------------------------------------------------------------------------
First Quarter Second Quarter Third Quarter Fourth Quarter Year
- ------------------------------------------------------------------------------------------------------------------------------
2001 $0.09 $0.09 $0.09 $0.09 $0.36
2000 0.09 0.09 0.09 0.09 0.36
1999 0.08 0.08 0.09 0.09 0.34
- ------------------------------------------------------------------------------------------------------------------------------
16
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Special Note Regarding Forward-Looking Statements
Certain matters discussed in this report are "forward-looking statements"
intended to qualify for the safe harbors from liability established by the
Private Securities Litigation Reform Act of 1995. These forward-looking
statements can generally be identified as such because the context of the
statement will include words such as we believe, anticipate, expect or words of
similar import. Similarly, statements that describe our future plans,
objectives, strategies or goals are also forward-looking statements.
Specifically, forward-looking statements include statements about (a) our
five-year compound annual sales growth goals; (b) our expectations regarding
changes in our sales, gross margin, operating expenses and other measures of our
performance in 2002; (c) our plans to remodel existing supermarkets, open
additional supermarkets and convert existing supermarkets to franchised
supermarkets; (d) the effect that our business information technology systems
replacement project is expected to have upon our earnings; (e) the possibility
that we might incur additional repositioning costs associated with
underperforming and non-competitive supermarkets; (f) the likelihood that we
will not continue to repurchase as many shares of our common stock as we have in
the past; and (g) the impact that new accounting pronouncements regarding the
amortization of goodwill and the treatment of certain coupons will have upon our
earnings, sales, gross margin and cost of goods sold. Such forward-looking
statements are subject to certain risks and uncertainties that may materially
adversely affect the anticipated results. Such risks and uncertainties include,
but are not limited, to the following: (1) the presence of intense competitive
market activity in our market areas, including competition from warehouse club
stores and deep discount supercenters; (2) the cost and results of our new
business information technology systems replacement project; (3) our ability to
identify and develop new market locations and/or acquisition candidates for
expansion purposes; (4) our continuing ability to obtain reasonable vendor
marketing funds for promotional purposes; (5) the potential purchase of a
significant number of our franchised supermarkets; (6) our continuing ability to
purchase merchandise, equipment and supplies through a purchasing cooperative at
prices lower than what are otherwise available; (7) our ability to continue to
recruit, train and retain quality franchise and corporate supermarket operators;
(8) the potential recognition of repositioning charges resulting from potential
closures, conversions and consolidations of our supermarkets due principally to
the competitive nature of the industry and to the quality of our supermarket
operators; and (9) our ability to integrate and assimilate the acquisition of
Dick's Supermarkets, Inc. and to achieve, on a timely basis, its anticipated
benefits and synergies. Shareholders, potential investors and other readers are
urged to consider these factors carefully in evaluating the forward-looking
statements made herein and are cautioned not to place undue reliance on such
forward-looking statements. The forward-looking statements made herein are only
made as of the date of this report and we disclaim any obligation to publicly
update such forward-looking statements to reflect subsequent events or
circumstances.
New Format
As a result of several new pronouncements by the Securities and Exchange
Commission, we have presented our "MD&A" in a new format this year. The new
sections that we have added are titled "Critical Accounting Policies," "Other
Capital Commitments - Contractual Obligations" and "Other Capital Commitments -
Other Commercial Commitments." While much of the information included in these
sections has been historically included in our financial statement footnotes,
adding these sections to our MD&A is intended to better highlight these areas of
financial statement disclosure and accompany them with an expanded written
explanation. Hopefully, you will find this format more informative, and also
clearer and easier to read and understand.
17
Our Business
General
As of the beginning of 2002, we owned 27 supermarkets and franchised an
additional 72 supermarkets. Nineteen of our corporate supermarkets operated
under the Piggly Wiggly banner, 8 of them operated under the Dick's Supermarkets
banner and all of our franchised supermarkets operated under the Piggly Wiggly
banner. We are the primary supplier to our 99 supermarkets and also serve as a
wholesaler to a number of smaller, independently operated supermarkets and
convenience stores. All of our supermarkets and other wholesale customers are
located in Wisconsin and northern Illinois.
Our operations are classified into two segments, wholesale and retail. Our
wholesale business derives its revenues primarily from the sale of groceries,
produce, dairy, meat and other products to our franchised supermarkets and
independent retail customers. We also supply these products to our corporate and
franchised supermarkets, but those revenues are eliminated for accounting
purposes in consolidation. We supply grocery, frozen food, dairy and produce to
our supermarkets through two distribution centers in Sheboygan, Wisconsin, which
have an aggregate square footage of approximately 425,000 square feet. We also
provide our supermarkets with fresh, frozen and processed meats, eggs and deli
items through a third-party distribution facility in Milwaukee, Wisconsin.
Additionally, we distribute items made in our Platteville, Wisconsin centralized
bakery/deli production facility.
Our retail business consists of our 27 corporate supermarkets. We earn our
retail revenues by selling products purchased from our wholesale segment and
other merchandise to retail consumers. Compared to our wholesale segment, our
retail segment generates higher gross profit margins, but has higher operating
and administrative expenses.
Our Growth Goals and Initiatives
Prior to this past year, our revenue growth came in one of three ways.
First, we increased our retail sales by expanding the size of our corporate
supermarkets and replacing some of our corporate supermarkets with new, larger
and more competitive supermarkets. Second, our wholesale business grew as some
of our franchisees similarly expanded or replaced their supermarkets. Finally,
we converted independent supermarkets in and around our market areas to our
Piggly Wiggly brand name. This approach led to a compound annual sales growth
rate of approximately 2.7% during the five-year period ending at the end of
2000.
In 2001, our new management team, under the guidance of our Board of
Directors, adopted a new strategic plan which included a goal of trying to
achieve a 15% compound annual growth rate in sales over the next five years.
Because the types of expansion opportunities that we pursued in the past are
relatively limited in and around our existing market areas and only resulted in
nominal historical revenue growth, we decided to actively explore acquisitions
of multiple-store supermarket chains, both within and outside of our current
market areas, to help us achieve our revenue growth goals. In June 2001, we
completed the acquisition of Dick's Supermarkets, Inc., our first multiple-store
supermarket chain acquisition. To accomplish our growth goals in 2002 and
beyond, we believe we need to acquire at least two more multiple-store
supermarket chains. While we have identified several potential acquisition
candidates that appear to fit our criteria, there is no assurance that we will
be able to acquire any of them or, if we do, that such acquisitions will allow
us to achieve our growth goals.
Our other growth-oriented plans include the strengthening of our existing
supermarkets and supermarket brands. These plans include opening two new
corporate supermarkets in 2002. The first such supermarket, a replacement
corporate supermarket in Zion, Illinois, was successfully opened in January
2002. This new supermarket is approximately 40% larger than the supermarket it
replaced. The second such supermarket is a 50,000 square-foot new market
supermarket in Kenosha, Wisconsin we expect to open in the fall. We believe that
these two new corporate supermarkets will add a total of about
18
$9.6 million to our 2002 retail sales. In addition, to strengthen our franchisee
group, we anticipate that in 2002, we will:
|_| Complete the renovation and expansion of our franchised supermarkets in
Mequon and Waunakee, Wisconsin in the spring;
|_| Complete the construction of a new market franchised supermarket in
Oostburg, Wisconsin in the fall; and
|_| Replace existing franchised supermarkets in West Bend and Howard, Wisconsin
with new, larger and more competitive supermarkets in the fall.
Our five franchised supermarket projects scheduled for completion throughout
2002 will increase aggregate selling space by over 50,000 square feet and are
expected to increase our 2002 net wholesale sales by approximately $5.0 million.
In addition to the supermarket projects currently underway, we are also
evaluating plans to expand our business in other ways. Two specific areas of
potential expansion we are investigating and testing are opening gas stations
and pharmacies at one or more of our existing supermarkets. We do not expect
either of these initiatives to have a material impact upon our 2002 revenues.
2001 Growth Initiatives
In June 2001, we completed the acquisition of Dick's Supermarkets, Inc. for
$30.2 million in cash (including our assumption of debt and payment of $3.5
million of funded debt). Dick's owns seven supermarkets in Wisconsin, one in
Illinois and a centralized bakery/deli production facility located in
Platteville, Wisconsin. All eight of these supermarkets operate under the Dick's
Supermarkets banner. This acquisition represented a milestone for us because it
was our first multiple-store supermarket chain acquisition, and also because we
decided to continue to operate the supermarkets we acquired under a banner other
than Piggly Wiggly. Although the Dick's acquisition only had a nominal impact
upon our earnings in 2001, we expect the acquisition to increase our 2002 net
earnings by about $0.8 million to $1.0 million from what they otherwise would
be. As a result of this acquisition, our mix of retail sales to total sales in
2001 increased to 46.8%, compared to 41.3% in 2000. We expect that our mix of
retail sales to total sales will further increase in 2002, when we recognize a
full year of retail sales from Dick's.
In 2001, we decided that our distribution center capacity needed to be
increased to support our retail growth plans. As a result, in May 2001, we began
an extensive remodeling of our existing distribution center in Sheboygan,
Wisconsin. This remodeling included the expansion of our freezer space by
approximately 50%. In October 2001, we also converted an existing Sheboygan,
Wisconsin corporate supermarket (which we had previously replaced with a new
corporate supermarket) into an additional distribution center. These initiatives
will allow us to increase the selection of items we sell and will help us
distribute items made at our centralized bakery/deli production facility. In
addition, our increased distribution center capacity will enhance our ability to
achieve our growth plans by increasing the maximum volume of wholesale sales
that can be supported by our existing distribution centers by approximately 25%.
Some of our other significant growth-related accomplishments in 2001
included:
|_| Converting formerly independent operators into Piggly Wiggly franchised
supermarkets in Kohler, Howard and Nekoosa, Wisconsin in April, October and
November 2001, respectively;
|_| Adding our first "Pig Stop" gas station at our franchised supermarket
located in Crivitz, Wisconsin in December 2001;
19
|_| Closing an older corporate supermarket and replacing it with a new, larger
and more competitive supermarket in Sheboygan, Wisconsin in August 2001;
and
|_| Closing older franchised supermarkets and replacing them with new, larger
and more competitive supermarkets in Slinger and Campbellsport, Wisconsin
in January and April 2001, respectively.
Results of Operations
The following table sets forth certain items from our Consolidated
Statements of Earnings as a percent of net sales and the year-to-year percentage
change in the dollar amounts of such line items.
- ------------------------------------------------------------------------------------------------------
Percent of net sales Percentage change
- ------------------------------------------------------------------------------------------------------
2001 2000
2001 2000 1999 vs. 2000 vs. 1999
Net sales 100.0% 100.0% 100.0% 15.6% 1.0%
Retail sales 46.8% 41.3% 41.9% 30.8% (0.4%)
Net wholesale sales 53.2% 58.7% 58.1% 4.8% 2.1%
Gross margin 18.2% 16.5% 16.2% 27.7% 3.0%
Operating and administrative
expenses 15.9% 14.0% 13.5% 31.0% 5.0%
Operating income 2.3% 2.4% 2.7% 8.5% (7.4%)
Earnings before income taxes 2.2% 2.5% 2.7% (1.7%) (6.5%)
Net earnings 1.3% 1.6% 1.7% (1.7%) (5.3%)
- -----------------------------------------------------------------------------------------------------
2001 vs. 2000
Net Sales
Information regarding our 2001 and 2000 sales is set forth in the following
table (in thousands):
-------------------------------------------------------
2001 2000
-------------------------------------------------------
Net wholesale sales $308,778 $294,527
Retail sales 271,423 207,529
-------------------------------------------------------
Total sales $580,201 $502,056
=======================================================
During 2001, our annual sales were a record $580.2 million, compared to
$502.1 million for 2000. The increase of $78.1 million, or 15.6%, was due to
increases in both wholesale and retail sales volume. Based on our internal
wholesale price index, inflation did not have a significant effect on our sales
in 2001. Same store sales for our corporate and franchised supermarkets
increased 3.4% in 2001. Same store sales represent sales of all corporate and
franchised Piggly Wiggly supermarkets that were open throughout 2001 and 2000.
Retail Sales
Retail sales increased $63.9 million, or 30.8%, to $271.4 million in 2001,
compared to $207.5 million in 2000. Our retail sales improved because:
|_| The acquisition of Dick's Supermarkets added $54.7 million to our retail
sales. This acquisition was the primary factor contributing to our retail
sales growth in 2001.
|_| The sales at our new flagship corporate supermarket in Sheboygan, Wisconsin
that opened in August 2001 were significantly higher than sales at the
supermarket it replaced.
20
|_| The success of the Piggly Wiggly Preferred Power Pricing marketing and
promotional program, which was initiated in January 2001, increased our
retail sales.
|_| The replacement of a corporate supermarket in Racine, Wisconsin with a new,
larger and more competitive supermarket in 2000 increased our retail sales
in 2001, the first full year that it was open.
|_| Supermarket closures by competitors over the past year helped improve the
results of our corporate supermarkets in these markets.
A new accounting pronouncement will change the way that we treat certain
coupons in 2002. As a result of this new accounting rule, based on our current
level of coupon redemptions, we expect our retail sales to decrease by
approximately $6.0 million compared to what sales would have been under the old
rules. In addition, our cost of goods sold will also decrease by the same amount
as a result of this new treatment. As a result, this accounting pronouncement
will have no impact on our gross profits or earnings. Our gross margin
percentage will, however, increase nominally because of a decrease in our sales
without a corresponding decrease in our gross profit.
Net Wholesale Sales
Net wholesale sales increased $14.3 million, or 4.8%, to $308.8 million in
2001, compared to $294.5 million in 2000. Wholesale sales to all of our
corporate supermarkets are deducted from our total wholesale sales to calculate
our "net" wholesale sales. A major reason that our net wholesale sales increased
in 2001 is that we opened three new market franchised supermarkets in 2001.
These three new supermarkets added nearly $2.7 million, or 0.9%, to our 2001 net
wholesale sales. In addition, our two replacement franchised supermarkets
increased our wholesale sales by approximately $2.4 million, or 0.8%, compared
to 2000.
Net wholesale sales were, however, negatively impacted by the loss of $4.6
million, or 1.5%, of our 2000 net wholesale sales as a result of the April 2001
closing of two underperforming and non-competitive franchised supermarkets and
the July 2001 closing of one of our independent wholesale customers.
Gross Margin
Our gross margin increased from 16.5% in 2000 to 18.2% in 2001. This
significant improvement was attributable to the increase in our mix of retail
sales to total sales that resulted from the Dick's acquisition. Excluding the
impact of the Dick's acquisition, our 2001 gross margin was 16.4%. We anticipate
a further increase in our gross margin in 2002 due to the expected further
increase in our mix of retail sales to total sales resulting from our
recognizing a full year of Dick's retail sales in 2002.
Operating and Administrative Expenses
Our operating and administrative expenses, as a percent of sales, increased
to 15.9% in 2001, compared to 14.0% in 2000. This increase of 13.5% was
attributable to a number of factors. Most importantly, the increase in our mix
of retail sales to total sales resulting from the Dick's acquisition led to a
corresponding and anticipated increase in our operating and administrative
expenses. Further, our depreciation and amortization in 2001 was $6.9 million,
including nearly $0.5 million of goodwill amortization and an additional $0.5
million of other depreciation that resulted from the Dick's acquisition.
However, as a result of two new accounting pronouncements, our amortization of
goodwill will be eliminated in 2002. Instead, goodwill will be subject to at
least an annual impairment assessment. This accounting change is expected to
decrease our operating and administrative expenses in 2002 by approximately $1.0
million compared to what would have otherwise been reported under the old
goodwill amortization rules and by approximately $0.5 million compared to 2001.
21
In addition, we continue to experience significant increases in our
employee health care costs. These cost increases include costs related to our
corporate supermarket union employees, who are covered by a multi-employer
health and welfare plan. This multi-employer health plan may, from time to time,
experience a shortfall because its costs exceed the payments it receives from
participating employers. When this happens, all participating employers may be
required to make a supplemental payment to fund the shortfall. In 2001, we were
required to make a supplemental payment of approximately $0.5 million to cover
such a shortfall. In addition, our self-funded health plan that covers our
non-union employees and our union employees who work at our distribution centers
experienced significant cost increases. In 2001, we took certain steps to try to
reduce the recent cost increases of this plan. For example, we introduced an
employee premium cost-sharing element to our self-funded health plan. However,
we anticipate that we will continue to incur further health care cost increases
in 2002.
Due to the competitive nature of the supermarket industry, some of our
supermarkets are no longer competitive in their marketplaces. Some of these
underperforming supermarkets have experienced a variety of significant
operational problems and poor financial performance for a period of several
years. In order to further improve our overall financial results, we continue to
actively evaluate various business alternatives to these operations. These
alternatives include selling these supermarkets, converting franchised
supermarkets into corporate supermarkets (and vice versa), closing supermarkets
and implementing other operational changes. It is possible that one or more of
these actions may be taken in 2002. While we did not incur any significant
retail repositioning expenses in 2001 or 2000, implementing any of these
alternatives could result in our incurring significant repositioning or
restructuring charges in 2002.
From time to time, we incur significant realization charges or write-offs
related to our underperforming supermarkets and wholesale customers. Our total
2001 and 2000 realization charges relating to wholesale bad debts and retail
subsidies were $2.1 million and $1.7 million, respectively. These charges were
included as a part of operating and administrative expense in our consolidated
statements of earnings. The retail subsidy part of these charges was $1.1
million for 2001 and $1.5 million for 2000.
Earnings
Our 2001 operating income increased $1.0 million, or 8.1%, to $13.3
million, compared to $12.3 million in 2000. As a percent of sales, our operating
income in 2001 was 2.3%, compared to 2.4% in 2000. After allocating wholesale
operating profits on sales to our corporate supermarkets to our retail segment,
our wholesale segment generated operating income of $10.2 million in 2001, an
increase of $0.8 million, or 8.5%, compared $9.4 million to 2000. Our retail
segment generated operating income of $3.1 million, an increase of $0.2 million,
or 6.9%, compared to $2.9 million in 2000.
Our 2001 earnings before income taxes decreased $0.2 million, or 1.7%, to
$12.6 million, compared to $12.8 million 2000. As a percent of sales, earnings
before income taxes decreased to 2.2% in 2001, compared to 2.5% in 2000. Net
earnings for 2001 decreased $0.1 million, or 1.7%, to $7.8 million, compared to
$7.9 million in 2000. As anticipated, the Dick's acquisition resulted in only a
nominal increase in our 2001 net earnings.
We expect the Dick's acquisition to increase our 2002 net earnings by about
$0.8 million to $1.0 million in 2002. Additionally, we expect that our earnings
and earnings per share could be affected as a result of the implementation of
our business information systems project over the next several years. In 2001,
the impact of our systems project on our earnings and earnings per share was
nominal because the project was in its early stages. The impact of this project
on our earnings and earnings per share in the future is uncertain and will be
dependent upon our ability to successfully achieve our strategic growth
initiatives and realize the expected efficiencies and cost savings from our new
business information systems.
22
Many of our peer companies measure the profitability of their sales using
the net earnings to sales ratio. This ratio represents the net earnings margin
realized from each dollar of sales. Our 2001 net earnings to sales ratio was
1.34%, compared to 1.58% in 2000. The decrease in our net earnings to sales
ratio was primarily due to the increase of approximately $54.7 million of retail
sales that resulted from the Dick's acquisition without a corresponding
proportional increase in earnings. We expect our net earnings to sales ratio to
increase in 2002 primarily because we expect the Dick's acquisition to begin
increasing our earnings in 2002.
As a result of continued stock repurchases in 2001, our diluted earnings
per share for 2001 increased 11.3% to $1.48 from $1.33 in 2000. Our weighted
average common shares and equivalents were 5,269,000 and 5,951,000 for 2001 and
2000, respectively. Since our stock repurchase program commenced in January
1992, we have repurchased nearly 4,300,000 shares, or approximately half of our
common stock that was then outstanding. As of the end of 2001, $1.9 million
remained available under our Board-authorized $25.0 million share repurchase
plan. Because we intend to try to grow our business more rapidly than in the
past, depending upon market conditions, the prevailing price of our shares, our
cash requirements, the terms of our credit agreements and other factors, it is
likely that we will repurchase fewer shares of our common stock in the future.
2000 vs. 1999
Net Sales
Information regarding our 2000 and 1999 sales is set forth in the following
table (in thousands):
------------------------------------------------------
2000 1999
------------------------------------------------------
Net wholesale sales $294,527 $288,537
Retail sales 207,529 208,422
------------------------------------------------------
Total sales $502,056 $496,959
======================================================
Net sales for 2000 increased $5.1 million, or 1.0%, to $502.1 million,
making 2000 the first time in our history that the half-billion dollar annual
sales volume milestone was reached. This increase was solely due to increased
net wholesale sales.
Net Wholesale Sales
Net wholesale sales in 2000 increased $6.0 million, or 2.1%, to $294.5
million, compared to $288.5 million in 1999. One of the major causes of this
increase was our successful conversion of two new market franchised supermarkets
during January 2000 and two new market conversions in the third quarter of 1999.
In addition, a nominal increase in the price of the goods sold by our wholesale
business contributed to our growth in net wholesale sales. A decrease of net
wholesale sales resulting from the conversion of one franchised supermarket into
a corporate supermarket in November 1999 offset some of the net wholesale sales
volume increases from the addition of these new supermarkets. The impact of
these factors was partially offset by a nominal decrease in the quantity of
items sold by our wholesale business in 2000, caused in large part by additional
competitive activities in certain franchised market areas.
Retail Sales
Retail sales decreased nominally to $207.5 million in 2000, compared to
$208.4 million in 1999. This decrease was principally attributable to several of
our supermarkets experiencing intense competitive pressures and a decrease in
the quantity of items sold by our retail business. These factors were partially
offset by an increase of approximately 2% in the cost of goods sold by our
retail business.
23
Gross Margin
Our gross margin increased from 16.2% in 1999 to 16.5% in 2000. The
improvement in gross margin was primarily related to merchandising and
promotional changes initiated early in 2000. In addition, our 1999 retail gross
margin was adversely affected by certain promotional events, including the 50th
anniversary of Piggly Wiggly supermarkets in Wisconsin. Wholesale gross margins
remained virtually unchanged between 2000 and 1999 and were not impacted by a
change in the mix of goods sold.
Operating and Administrative Expenses
Our operating and administrative expenses, as a percent of sales, increased
to 14.0% in 2000, compared to 13.5% in 1999. Our operating and administrative
expenses increased $3.4 million, or 3.7%, principally because:
|_| Due primarily to three retail union health and accident rate increases
between September 1, 1999 and February 1, 2000, our health and accident
insurance expenses increased by 33%, or $1.1 million, in 2000.
|_| Due to the extremely tight labor market in Wisconsin, especially in
Sheboygan, additional overtime hours were necessary to operate our
distribution center. This resulted in increased distribution payroll costs
of approximately $0.5 million.
|_| We incurred one-time professional fees in excess of $0.4 million related to
the evaluation of various strategic alternatives.
Total 2000 and 1999 realization charges relating to wholesale bad debts and
retail subsidies were $1.7 million and $2.3 million, respectively. The retail
subsidy part of these charges was $1.5 million for both 2000 and 1999. We did
not incur any significant repositioning expenses during either 2000 or 1999.
Earnings
Our 2000 operating income decreased $0.9 million, or 7.4%, to $12.3
million, compared to $13.2 million in 1999. After allocating wholesale operating
profits on sales to our corporate supermarkets to our retail segment, our
wholesale segment generated operating income of $9.4 million of operating income
in 2000, a decrease of $0.5 million, or 5.1%, compared to $9.9 million in 1999.
Our retail segment generated operating income of $2.9 million, a decrease of
$0.4 million, or 12.1%, compared to $3.3 million in 1999. Our 2000 earnings
before income taxes decreased 6.5% to $12.8 million, compared to $13.7 million
in 1999. As a percent of sales, earnings before income taxes decreased to 2.5%
in 2000 from 2.7% in 1999.
Net earnings for 2000 decreased $0.5 million, or 5.3%, to $7.9 million,
compared to $8.4 million in 1999. Due principally to the intense competitiveness
in certain market areas, our net earnings to sales ratio decreased nominally to
1.58% in 2000, compared to 1.68% in 1999. As a result of significant stock
repurchases in 2000 and 1999, diluted earnings per share for 2000 increased 2.3%
to $1.33 from $1.30 in 1999. Our weighted average common shares and equivalents
were 5,951,000 and 6,438,000 for 2000 and 1999, respectively.
No related party transactions had a material effect on our results of
operations or financial condition in 2001, 2000 or 1999. One related party
transaction that occurred in 2001 is discussed in our 2001 proxy statement.
24
Liquidity and Capital Resources
Summary
Historically, we have funded our working capital requirements out of cash
flow generated from our operations. In 2001, we adopted a more aggressive growth
plan, which led to the Dick's acquisition. Due primarily to this acquisition,
our cash and equivalents for 2001 decreased $19.8 million, resulting in a
year-end balance of $11.5 million (including $10.7 million of checks that we had
written, but which had not yet "cleared" our accounts). In addition, in 2001,
our long-term debt increased significantly from $2.7 million to $16.6 million.
Finally, our growth plan and our business information technology systems project
have resulted in a 2002 capital budget that is significantly higher than our
recent previous capital budgets.
As a result, we have significantly greater debt, as well as increased
capital budget and working capital requirements, than in previous years.
Nevertheless, we believe that our working capital and debt-to-equity positions
continue to compare very favorably to most of our competitors. We further
believe that our financial condition, cash flow from operations and amounts
available under our existing credit facility will continue to provide adequate
short and long-term flexibility to finance our anticipated non-acquisition
related capital requirements in 2002 without adversely impacting our financial
position or liquidity. Finally, we believe that our financial condition and our
existing sources of cash are adequate to ensure that we have the working capital
necessary to meet our short- and long-term liquidity needs. However, if we are
successful in acquiring another multiple-store supermarket chain, we will likely
fund substantially all of the purchase price through additional borrowings. This
would likely involve our entering into a new or amended credit facility that is
larger than our existing credit facility. The terms of any such new or amended
credit facility could be less favorable to us than the terms of our current
facility.
Cash flows from operating activities
During 2001, net cash generated from operations was $5.3 million, compared
to $21.3 million in 2000. One of the primary reasons for the decrease in our
operating cash flow in 2001 was a $6.5 million increase in our wholesale
inventory levels required to supply the eight Dick's Supermarkets we acquired in
June 2001. In addition, in 2001 we invested approximately $4.0 million in our
new Zion, Illinois supermarket construction project, which was finished in
January 2002. The remainder of the decrease in the cash flow between years was
due principally to timing of cash receipts, cash payments and changes in
short-term financing to our wholesale customers.
Cash flow from investing activities
Net cash outflows from investing activities increased $26.0 million to
$30.9 million in 2001, compared to $4.9 million in 2000. The acquisition of
Dick's accounted for nearly $27.9 million of our 2001 investing cash outflows. A
cash inflow of $2.2 million from the sale and leaseback of our Wilson Avenue,
Sheboygan, Wisconsin distribution center partially offset this cash outflow.
Cash flows from financing activities
Net cash inflows from financing activities totaled $5.8 million in 2001,
compared to cash outflows of $7.4 million in 2000. In the second quarter of
2001, we entered into a new $35.0 million bank revolving credit facility. Our
bank lenders under the new facility are the same as the banks under our former
$16.0 million credit agreement. We borrowed $12.5 million under our new
revolving credit facility to fund a portion of the purchase price of Dick's
Supermarkets, Inc. in the second quarter of 2001. Subsequently, we borrowed
additional amounts to fund our working capital requirements, including our
increased working capital requirements due to the Dick's acquisition. We owed
approximately $13.7 million under the revolving credit facility at the end of
2001. This increase in our debt is the main reason that our ratio of total
liabilities to shareholders' investment increased from 1.12 to 1.76 in 2001.
25
Our new revolving facility requires us to maintain certain minimum levels
of working capital and net worth. The facility also requires us to meet or
exceed certain ratios intended to measure our ability to repay amounts we may
borrow under the facility. Finally, the credit facility contains limitations
upon our ability to take certain other actions, such as borrowing additional
funds from other lenders. We believe that these covenants and restrictions are
typical for this type of credit facility.
We repurchased approximately 743,000 shares of our own stock in 2001 for an
aggregate price of $9.7 million (an average per share price of $13.00), compared
to approximately 559,000 shares for an aggregate of $6.1 million (an average per
share price of $10.83) during 2000. This outflow of funds was partially offset
by cash inflow received as a result of the sale of 200,000 shares of our common
stock to two local investors for $3.3 million (a per share price of $16.50).
Major 2002 Commitments
During the second quarter of 2001, we announced a $15.0 million, three-year
capital expenditure project to replace and expand our current business
information systems. The new systems are expected to support our growth plans
and provide improved operational efficiencies and cost savings. The project,
which is expected to be rolled-out over a three-year period, includes four
critical phases. The first two phases, the core infrastructure and the systems
related to our wholesale business operations, are expected to be completed
during the first quarter of 2003. The final two phases, related to our retail
pricing and promotional card marketing, and human resources, payroll and
financial reporting systems, are projected to be completed between the end of
2003 and the third quarter of 2004. This project is expected to be funded
partially with cash generated by our operations. As additional funding
requirements are identified, other financing sources are available to us,
including borrowings under our existing revolving credit agreement. Expenditures
and commitments for the systems project during 2001 were approximately $3.0
million.
Our 2002 capital budget is approximately $23.0 million, compared to our
$15.0 million 2001 capital budget. Approximately $2.9 million of our 2002 budget
has been committed for corporate retail replacement supermarkets, $3.6 million
for distribution center additions, $8.0 million has been committed to our
business systems project and $0.5 million has been committed for other
technology-related projects and office renovations. Our 2002 capital budget does
not include any amounts that may be required to acquire any multiple-store
supermarket chains or fund any similar opportunities.
Other Capital Commitments - Contractual Obligations
The following chart sets forth information regarding our major contractual
obligations (in thousands):
- ------------------------------------------------------------------------------------------------------
Payments Due by Period
- ------------------------------------------------------------------------------------------------------
Less
Than Years Years After 5
Contractual Obligations Total 1 Year 1-3 4-5 Years
- ------------------------------------------------- ------------ ------------ ------------ -------------
Operating Lease Obligations $142,948 $13,188 $37,168 $21,830 $70,762
- ------------------------------------------------- ------------ ------------ ------------ -------------
Capital Lease Obligations 38,210 3,130 8,968 5,668 20,444
- ------------------------------------------------- ------------ ------------ ------------ -------------
Long-Term Debt 16,892 323 14,557 452 1,560
- ------------------------------------------------- ------------ ------------ ------------ -------------
Total Contractual Cash Obligations $198,050 $16,641 $60,693 $27,950 $92,766
- ------------------------------------------------- ------------ ------------ ------------ -------------
Operating Lease Obligations
We have operating leases for both real estate and equipment used by our
wholesale and retail segments. The majority of our operating lease obligations
are related to leases of our supermarkets. We lease all of our corporate
supermarkets and approximately 80% of our franchised supermarkets. We sublease
each of our franchised supermarkets to one of our franchisees under a sublease
with terms similar to those that we have with our landlords. We enter into these
transactions because they serve as
26
"credit enhancements" that allow our franchisees, most of whom own only one or
two supermarkets, to obtain lease terms through us that are more favorable to
them than if we did not effectively guaranty their rent payments. Our other
operating lease obligations relate to leases for corporate office space,
transportation equipment (including tractors and trailers) and certain office
equipment.
In 2001, our operating lease obligations (which included both real estate
and equipment subleases) decreased nominally from $143.2 million to $142.9
million. The amount owed to us in 2001 by our franchisees under real estate
subleases decreased from $106.8 million to $100.3 million. Forty-nine different
franchisees have entered into subleases with us and no single franchisee (or
group of related franchisees) owes us more than $8.0 million under subleases. In
addition to the amounts set forth in the table above, some of our operating
leases contain contingent rent provisions based on sales volume (for
supermarkets) or miles traveled (for transportation equipment). Contingent rent
paid in 2001 and 2000 was $1.2 million and $1.0 million, respectively.
Capital Lease Obligations
Under generally accepted accounting principles, leases are categorized as
"capital leases" if any of these conditions occur: (a) the lease transfers
ownership to us; (b) the lease contains a purchase option with a price that is
well below the expected market price; (c) the lease term is equal to 75% or more
of the estimated life of the asset being leased; or (d) the present value of the
lease payments on the date the lease is entered into equals or exceeds 90% of
the market value of the leased property. Our lease for one of our distribution
centers and 11 of our 82 supermarket leases are accounted for as capital leases
because the present value of the total rent payments equaled or exceeded 90% of
the market value of the leased property on the date that the leases were first
entered into.
In 2001, the amount we owed under our supermarket capital leases increased
167.1% from $14.3 million to $38.2 million, and the amount owed to us by our
franchisees under related supermarket subleases increased 143.1% from $7.2
million to $17.5 million. These increases were due to three new supermarket
leases that we entered into in 2001 being categorized as capital leases. In the
past, such leases would have likely been treated as operating leases. Our new
leases were accounted for as capital leases because of the substantial decrease
in the interest rate that we used to calculate the present value of the payments
under our leases. This decreased interest rate was the result of a decrease in
our borrowing rate.
Under generally accepted accounting principles, obligations under capital
leases, but not operating leases, are recorded as long-term liabilities on our
balance sheet. The present value of our long-term obligations under our capital
leases, as of December 29, 2001, was $20.8 million. In addition, $1.2 million of
rent payments are due under our capital leases in 2002. The liabilities related
to our capital leases recorded on our December 29, 2001 balance sheet is $16.2
million lower than the total amounts due under these leases because, under
generally accepted accounting principles, we must record the present value of
these payments in our balance sheet.
Long-Term Debt
Approximately $13.7 million of the debt included in the table above are
amounts we borrowed under our $35.0 million revolving credit facility. Because
our revolving credit facility expires on April 30, 2004, we have included the
amounts we owe under this agreement as a debt that must be repaid in the next
1-3 years. However, as is customary with revolving loan agreements, it is likely
that we would seek to extend the term of this facility prior to its expiration
date. If the term of this facility is extended, we will not have to repay the
amounts due under this facility date until the new expiration date.
27
Other Capital Commitments - Other Commercial Commitments
The following chart sets forth information regarding certain of our
contingent commercial commitments (in thousands):
- ------------------------------------------------------------------------------------------
Amount of Commitment Expiration by Period
- ------------------------------------------------------------------------------------------
Less
Other Commercial Than Years Years After 5
Commitments Total 1 Year 1-3 4-5 Years
- ------------------------------------------------------------------------------------------
Standby Letters of Credit $ 2,607 $ 0 $ 2,607 $ 0 $0
- ------------------------------------------------------------------------------------------
Guarantees 14,779 4,927 9,107 745 $0
- ------------------------------------------------------------------------------------------
Total Commercial Commitments $17,386 $4,927 $11,714 $745 $0
- ------------------------------------------------------------------------------------------
Standby Letters of Credit
We self-insure a portion of our workers' compensation and general liability
claims. We currently have two standby letters of credit for $1.5 million and
$1.1 million, both of which were established in connection with these
self-insurance programs. Our letters of credit provide funds to cover claims if
we are unable to pay. Letters of credit of this type are common when a company
self-insures these types of liability. Although both of our letters of credit
expire on December 31, 2002, we expect to renegotiate these letters of credit or
enter into one or more letters of credit effective as of January 1, 2003.
Wholesale Customer Guarantees
We typically provide short-term financing to our franchisees and some of
our wholesale customers for costs associated with the purchase of facilities and
equipment for new or remodeled franchised supermarkets. This financing is
typically refinanced within one to two months following project completion with
bank loans guaranteed by us. All of these loan guarantees are collateralized,
principally by the franchisee's equipment and inventory and, in some cases, with
their building facilities.
Critical Accounting Policies
The following are certain important accounting policies we used to prepare
our financial statements. You should also review our notes to consolidated
financial statements for information regarding our other accounting policies.
Receivables
The majority of our receivables are from our wholesale customers, most of
which are our franchisees. We record our receivables net of the allowance for
doubtful accounts. We establish reserves for doubtful accounts whenever we
believe that we may not be paid in full by one or more of our customers. Our
allowances for doubtful accounts were $3.5 million at the end of 2001 compared
to $3.9 million at the end of 2000. There is no alternative accounting approach
to valuing our receivables or allowances for doubtful accounts.
Inventory
Many companies value their inventory based upon the lower of their cost or
market value. Most companies use one of two methods to determine their inventory
cost. The first such method is the "last-in, first-out," or LIFO, method. Under
the LIFO method, the cost assigned to the items sold is based upon the cost of
the most recent items purchased. As a result, the first such items purchased
remain in inventory and the cost of these items are used to value ending
inventory. The second method is the "first-in, first-out," or FIFO, method.
Under the FIFO method, the value of items sold is based upon the cost of the
first such items purchased. As a result, the last such items purchased remain in
inventory and the cost of these items are used to value ending inventory. During
periods of inflation, the use of the LIFO method
28
will result in higher costs of goods sold, lower ending inventory values and
lower earnings compared to the FIFO method.
We value our inventory at the lower of our cost or market value. At
December 29, 2001, the cost of approximately 84% of our inventory was valued
using the LIFO method and 16% of our inventory was valued using the FIFO method.
During 2001, our "LIFO reserve" decreased from $10.3 million to $9.7 million.
This means that if we used the FIFO method rather than the LIFO method, our 2001
earnings would have been reduced by approximately $0.6 million. The decrease in
our LIFO reserve was primarily due to a one-time adjustment associated with
inventory purchased in our acquisition of Dick's Supermarkets.
Retail Repositioning Reserve
We estimate our future retail repositioning expenses associated with
underperforming, non-competitive supermarkets based upon our evaluation of the
performance of each of our supermarkets and establish an appropriate reserve for
such amounts. At the end of 2001, our retail repositioning reserve was $0.3
million. The majority of this reserve represents our estimate of the cost of
disposing of the real estate on which one of our recently closed supermarkets
was located. It is possible that the cost of disposing of this real estate will
exceed our estimates. In addition, we may implement operational changes with
respect to one or more of our supermarkets (such as converting one or more
franchised supermarkets into corporate supermarkets (or vice versa), closing
them or implementing other operational changes) in 2002. If any of these
possibilities occur, our actual costs would exceed this reserve. There is no
alternative accounting approach to establishing this reserve.
29