UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended June 29, 1997
or
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from _______ to _______
Commission file number: 0-21876
FUNCO, INC.
(Exact name of registrant as specified in its charter)
Minnesota 41-1609563
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
10120 West 76th Street
Eden Prairie, MN 55344
(Address of principal executive offices)
(612) 946-8883
(Registrant's telephone number, including area code)
Check whether the registrant: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding
12 months (or for such shorter period that the registrant was required to file
such reports), and (2) has been subject to such filing requirements for the past
90 days.
Yes __X__ No ____
On July 28, 1997, the registrant had 6,129,461 outstanding shares of common
stock, $ .01 par value.
FUNCO, INC.
INDEX
PART I - FINANCIAL INFORMATION PAGE NO.
- ------------------------------ --------
ITEM 1. Consolidated Financial Statements (Unaudited)
Consolidated Statements of Operations - Quarter ended
June 29, 1997 and June 30, 1996.......................... 3
Consolidated Balance Sheets - June 29, 1997 and
March 30, 1997........................................... 4
Consolidated Statements of Cash Flows - Three months ended
June 29, 1997 and June 30, 1996........................... 5
Notes to Consolidated Financial Statements ................... 6
ITEM 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations ...................... 7
PART II - OTHER INFORMATION
- ---------------------------
ITEM 1. Legal Proceedings............................................. 10
ITEM 6. Exhibits and Reports on Form 8-K ............................. 10
SIGNATURES ............................................................. 11
- ----------
Exhibit (11) Statements Re: Computation of Per Share Earnings........... 12
PART I - FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
FUNCO, INC.
Consolidated Statements of Operations
(In thousands, except share and per share data)
(Unaudited)
Quarter Ended
----------------------------
June 29, June 30,
1997 1996
----------- -----------
Net sales .................................. $ 24,001 $ 18,862
Cost of sales .............................. 14,589 12,012
----------- -----------
Gross profit ........................... 9,412 6,850
Operating expenses ......................... 6,358 5,569
General and administrative expenses ........ 2,108 1,797
----------- -----------
Operating income (loss) ................ 946 (516)
Interest expense ........................... - (9)
Interest income ............................ 79 35
----------- -----------
Net income (loss) before income taxes .. 1,025 (490)
Income tax provision (benefit) ............. 390 (181)
----------- -----------
Net income (loss) ...................... $ 635 $ (309)
=========== ===========
Net income (loss) per share ................ $ 0.10 $ (0.05)
=========== ===========
Weighted average number of common
and common equivalent shares outstanding 6,488,590 5,889,225
SEE ACCOMPANYING NOTES.
FUNCO, INC.
Consolidated Balance Sheets
(in thousands, except share data)
June 29, March 30,
1997 1997
------- -------
(Unaudited) (Note)
ASSETS
Current Assets
Cash and cash equivalents .................... $ 8,161 $ 8,408
Accounts receivable .......................... 884 1,094
Inventories .................................. 17,046 13,831
Prepaid expenses ............................. 721 782
Current deferred tax asset ................... 532 532
------- -------
Total current assets ...................... 27,344 24,647
Net property and equipment ..................... 5,685 5,954
Long-term deferred tax asset ................... 984 984
Other assets ................................... 158 160
------- -------
Total assets ................................... $34,171 $31,745
======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities
Accounts payable ............................. $ 3,510 $ 1,387
Accrued liabilities .......................... 4,912 5,182
Current portion of capital lease obligations . - 20
Deferred revenue ............................. 587 747
------- -------
Total current liabilities ................. 9,009 7,336
Accrued rent ................................... 91 91
Shareholders' Equity
Common stock (issued: 6,101,893 and 6,056,788) 61 61
Additional paid-in capital ................... 18,816 18,698
Retained earnings ............................ 6,194 5,559
------- -------
Total shareholders' equity ................ 25,071 24,318
------- -------
Total liabilities and shareholders' equity ..... $34,171 $31,745
======= =======
Note: The balance sheet at March 30, 1997 has been derived from the audited
financial statements at that date but does not include all the information and
footnotes required by generally accepted accounting principles for complete
financial statements.
SEE ACCOMPANYING NOTES.
FUNCO, INC.
Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)
Three Months Ended
---------------------
June 29, June 30,
1997 1996
------- -------
Operating Activities
Net income (loss) .......................................... $ 635 $ (309)
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation and amortization .......................... 782 853
Net loss on disposal of property and equipment ......... 8 6
Changes in operating assets and liabilities:
Accounts receivable ................................. 210 58
Inventories ......................................... (3,215) (2,448)
Prepaid expenses .................................... 61 160
Accounts payable .................................... 2,123 909
Accrued liabilities ................................. (270) (734)
Deferred revenue .................................... (160) (65)
------- -------
Net cash provided by (used in) operating activities 174 (1,570)
Investing Activities
Additions to property and equipment ........................ (493) (17)
Increase in other assets ................................... (26) (18)
------- -------
Net cash used in investing activities ............ (519) (35)
Financing Activities
Payments of obligations under capital leases ............... (20) (18)
Net proceeds from issuance of common stock ................. 118 18
------- -------
Net cash provided by financing activities ........ 98 -
------- -------
Decrease in cash and cash equivalents ......................... (247) (1,605)
Cash and cash equivalents at beginning of period .............. 8,408 5,783
------- -------
Cash and cash equivalents at end of period .................... $ 8,161 $ 4,178
======= =======
SEE ACCOMPANYING NOTES.
FUNCO, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1. The Company
Funco, Inc. (the Company) was incorporated in March 1988, and is engaged in the
business of providing interactive home entertainment, primarily through the
purchase and resale of new and previously played video games along with related
hardware and accessory items through its FUNCOLAND stores and mail order
operation. It also publishes a video game magazine, GAME INFORMER. The Company
operated 193 retail locations at June 29, 1997 compared to 173 retail locations
at June 30, 1996.
Note 2. Fiscal Year
The Company's fiscal year ends on a Sunday on or near March 31 which completes a
52 or 53 week reporting period. All references in this document to years and
quarters relate to fiscal years and quarters. All quarters for fiscal 1998 and
1997 consist of 13 weeks with the following period ending dates:
Ending Date
------------------------------------------
1998 1997
------------------ ------------------
First June 29, 1997 June 30, 1996
Second September 28, 1997 September 29, 1996
Third December 28, 1997 December 29, 1996
Fourth March 29, 1998 March 30, 1997
Note 3. Basis of Presentation
The accompanying unaudited consolidated financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
solely of normal recurring accruals) considered necessary for a fair
presentation have been included.
The operating results for the quarter ended June 29, 1997, are not necessarily
indicative of the results that may be expected for the year ending March 29,
1998 due to the seasonal nature of the Company's business.
For further information, refer to the financial statements and footnotes thereto
included in the Company's annual report on Form 10-K for the year ended March
30, 1997.
Note 4. Earnings Per Share
The Financial Accounting Standards Board has issued FASB Statement No. 128
"Earnings per Share," which will be effective for the Company beginning with the
period ending March 29, 1998. The new accounting rules will change the method of
computation of earnings per share. The Company does not believe that the
statement will materially impact earnings per share.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Results of Operations
The following table sets forth certain items in the statements of operations
expressed as (i) percentage of net sales for the quarter indicated and (ii)
percentage changes from the prior year.
Percent
Quarter Ended Inc (Dec)
--------------------------- -----------
June 29, June 30, 1998 over
1997 1996 1997
------------ ----------- -----------
Net sales ....................... 100.0% 100.0% 27.2%
Cost of sales ................... 60.8 63.7 21.5
------------ ----------- -----------
Gross profit .................... 39.2 36.3 37.4
Operating expenses .............. 26.5 29.5 14.2
General and admin. expenses...... 8.8 9.5 17.3
------------ ----------- -----------
Operating income (loss) ......... 3.9 (2.7) N/A
Interest expense ................ - - N/A
Interest income ................. 0.3 0.2 125.7
------------ ----------- -----------
Net income (loss) before taxes .. 4.3 (2.6) N/A
Income tax provision (benefit)... 1.6 (1.0) N/A
------------ ----------- -----------
Net income (loss)................ 2.6% (1.6)% N/A
============ =========== ===========
Comparison of First Quarter Fiscal 1998 to First Quarter Fiscal 1997
Net sales for the quarter increased from $18,862,000 in 1997 to $24,001,000 in
1998, an increase of 27.2%. The Company operated 193 stores at the end of the
first quarter this year compared to 173 stores at the end of the same period
prior year. Comparable store sales for the quarter increased 21%. The large
sales increase for the quarter is the result of growing market penetration of
Sony PlayStation, Nintendo 64 and Sega Saturn products. The Company anticipates
continued market growth for these systems during the 1998 fiscal year.
Cost of sales for the quarter increased from $12,012,000 in 1997 to $14,589,000
in 1998, an increase of 21.5%. The dollar increase in cost of sales is primarily
due to the strong growth in sales. Cost of sales as a percentage of net sales
favorably decreased from 63.7% in 1997 to 60.8% in 1998. This decrease occurred
primarily as the Company's sales mix included a greater proportion of software
products relative to prior year, with a corresponding proportionate reduction of
hardware product sales. The sales mix shift resulted in a reduction of the cost
percentage as software generally has lower cost percentages as compared to
hardware.
Operating expenses for the quarter increased from $5,569,000 in 1997 to
$6,358,000 in 1998, an increase of 14.2%. This increase is primarily due to
higher store payroll expenses related to the quarter's increased sales volume
compared to the same period prior year. Operating expenses decreased favorably
as a percentage of net sales from 29.5% in 1997 to 26.5% in 1998, due to
improved sales leveraging.
General and administrative expenses for the quarter increased from $1,797,000 in
1997 to $2,108,000 in 1998, an increase of 17.3%. This dollar increase occurred
primarily due to additional payroll costs for staffing administrative functions.
General and administrative expenses decreased favorably as a percentage of net
sales from 9.5% in 1997 to 8.8% in 1998.
The Company generated operating income for the quarter of $946,000 compared to
an operating loss of $516,000 in the same period last year.
Interest expense for the quarter decreased from $9,000 in 1997 to $0 in 1998 as
the Company had no outstanding borrowings. Interest income for the quarter
increased from $35,000 in 1997 to $79,000 in 1998, an increase of 125.7%,
primarily as the Company maintained higher levels of cash and cash equivalents
compared to prior year.
The Company generated net income before income taxes for the quarter of
$1,025,000 compared to a net loss before income taxes of $490,000 in the same
period last year. As a result, the Company recorded income tax expense for the
quarter of $390,000 compared to an income tax benefit of $181,000 for the same
period prior year.
Due to the above factors, the Company generated net income for the quarter of
$635,000, or $0.10 per share, compared to a net loss of $309,000, or $0.05 per
share, for the same period prior year.
Seasonality and Quarterly Fluctuations
The Company's business is seasonal with a majority of net sales generated in the
third and fourth fiscal quarters, which include the holiday selling season. In
addition to sales seasonality, the Company's quarterly results are also impacted
by factors including new product introductions and the number and timing of new
store openings. Growth of the store base may obscure the impact of seasonal
influences. Because of the seasonality of the Company's business and the factors
mentioned above, results for any quarter are not necessarily indicative of the
results that may be achieved for a full fiscal year. The following table sets
forth net sales by quarter and the number of stores operating at each quarter
end for the past nine quarters:
Net Sales (in thousands) Number of Stores Open at Quarter End
- ---------------------------------------------------- ----------------------------------------
Fiscal Fiscal
Quarter 1998 1997 1996 Quarter 1998 1997 1996
- ---------- ----------- ----------- ----------- --------- ------- ------- --------
First $24,001 $18,862 $12,261 First 193 173 181
Second - 20,415 15,335 Second - 176 178
Third - 46,461 31,897 Third - 188 182
Fourth - 34,817 21,889 Fourth - 188 173
Liquidity and Capital Resources
The Company's primary ongoing financing requirements are for new store expansion
and inventory. On an interim basis, the Company's financing requirements are
also impacted by quarterly operating results and seasonal fluctuations in
inventory levels.
During the three months ended June 29, 1997, the Company generated $174,000 of
cash from operating activities and used $519,000 of cash in investing
activities, including $493,000 for capital expenditures. For the three months
ended June 30, 1996, the Company used $1,570,000 of cash for operating
activities and used $35,000 of cash in investing activities.
Subsequent to quarter end, the Company amended and renewed its revolving credit
facility. Effective June 30, 1997, the Company has a $3,000,000 unsecured
revolving credit facility with a commercial bank, priced at the bank's prime
rate, seasonally increasing to $10,000,000. The interest rate on outstanding
borrowings under the facility in place as of June 29, 1997, was 8 3/4%, equal to
the bank's prime rate plus one quarter of one percent. The facility requires the
Company to maintain certain financial ratios and achieve certain operating
results. The Company currently has no borrowings under this facility.
During fiscal 1998, the Company plans to incur capital expenditures of
approximately $5,500,000 for new store openings, other store expenditures,
enhancements to corporate information systems and general corporate purposes.
The Company incurred capital expenditures of $1,548,000 in fiscal 1997.
The Company believes that cash from operations and funds available under its
revolving credit facility will provide sufficient funds for financing planned
store openings, working capital needs and other capital expenditures for at
least 12 months.
Forward Looking Statements
Forward looking statements contained in this document which relate to future
sales prospects and expansion plans are subject to uncertainties from factors
including growth of the industry, competitive environment, product availability,
success of the Company's existing operations, availability of new store sites
and the Company's ability to finance new store expansion. For further discussion
of factors which can impact the Company's operating results, please refer to the
Company's report on Form 10-K for the year ended March 30, 1997, and other
Company filings with the Securities and Exchange Commission.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company and its Chief Executive Officer were originally named as defendants
in a civil lawsuit filed on August 17, 1995 in the United States District Court,
District of Minnesota, entitled Christopher Cannon v. Funco, Inc. and David R.
Pomije. This was a putative class action in which the named plaintiff in the
Class Action Complaint purported to represent a class of all purchasers of the
Company's common stock during the putative class period of May 18, 1994 through
December 15, 1994. On October 18, 1996 the court dismissed the state common law
claims with prejudice and dismissed the federal securities claims without
prejudice, giving the plaintiff leave to file an Amended Complaint. The
plaintiff filed an Amended Complaint on January 6, 1997.
The Amended Complaint is a similarly styled class action suit and alleges the
Company's share price was artificially inflated, asserting various claims under
the Securities Exchange Act of 1934 as amended. Plaintiff seeks damages in an
unspecified amount plus costs and attorney's fees. The Company and its Chief
Executive Officer continue to believe that the claim is entirely without merit,
deny liability and intend to defend the litigation vigorously. The Company and
its Chief Executive Officer filed a motion to dismiss the Amended Class Action
Complaint in its entirety.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits filed with this Form 10-Q:
10.1a Amendment to Credit Agreement effective June 30,
1997, by and between the Registrant and Marquette
Capital Bank, N.A., and the Amended and Restated
Promissory Note
11 Statements Re: Computation of Per Share Earnings
27 Financial Data Schedule
(b) No report on Form 8-K was filed by the registrant during the
quarter ended June 29, 1997.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Funco, Inc.
(Registrant)
Date: July 29, 1997 By: /s/ David R. Pomije
----------------------------------
David R. Pomije
Chief Executive Officer
By: /s/ Robert M. Hiben
----------------------------------
Robert M. Hiben
Chief Financial Officer