1 FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For Quarter Ended October 31, 1994 Commission File Number 0-14491 ARBOR DRUGS, INC. (Exact name of registrant as specified in its charter) State of Michigan 38-2054345 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 3331 West Big Beaver, Troy, Michigan 48084 (Address of principal executive offices) Zip Code 810-643-9420 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Class Outstanding at December 1, 1994 Common Stock, $.01 par value 16,364,928 1 2 ARBOR DRUGS, INC. AND SUBSIDIARIES INDEX Page No. -------- PART I FINANCIAL INFORMATION Item 1. Financial Statements Condensed Consolidated Balance Sheets - October 31, 1994 and July 31, 1994 3 Condensed Consolidated Statements of Income - Three Months ended October 31, 1994 and 1993 4 Condensed Consolidated Statements of Cash Flows - Three Months Ended October 31, 1994 and 1993 5 Notes to Condensed Consolidated Financial Statements 6 Item 2. Management's Discussion and Analysis of Results of Operations and Financial Condition 7-8 PART II OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K 10 2 3 ARBOR DRUGS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited) (Dollars In Thousands) October 31, July 31, ASSETS 1994 1994 ---------- --------- Current assets: Cash and cash equivalents $ 28,487 $ 36,420 Short-term investments 1,860 1,264 Accounts receivable 15,958 12,782 Inventory 94,132 83,398 Deferred taxes 4,341 4,673 Prepaid expenses 2,179 2,060 --------- --------- Total current assets 146,957 140,597 --------- --------- Property and equipment: Land and land improvements 12,411 10,477 Buildings 14,877 14,824 Furniture, fixtures and equipment 53,932 51,563 Leasehold improvements 32,566 34,156 Less accumulated depreciation (42,886) (40,451) --------- --------- 70,900 70,569 --------- --------- Intangible assets 22,836 22,494 --------- --------- $240,693 $233,660 ======== ======== LIABILITIES Current liabilities: Notes payable, current portion $ 1,518 $ 1,483 Accounts payable 59,603 52,918 Liability for third-party settlement and related expenses -- 5,000 Accrued rent 5,540 5,146 Accrued expenses 2,063 1,934 Accrued compensation and benefits 4,175 4,765 Income tax payable 3,281 1,197 --------- --------- Total current liabilities 76,180 72,443 --------- --------- Notes payable, net of current portion 23,061 23,679 Deferred income tax 7,001 6,991 Minority interest in subsidiaries 578 583 --------- --------- 30,640 31,253 --------- --------- SHAREHOLDERS' EQUITY Preferred stock: $.01 par value; 2,000,000 share authorized; none issued -- -- Common stock: $.01 par value; 40,000,000 shares authorized; 16,355,243 and 16,340,193 issued and outstanding, respectively 164 163 Additional paid-in capital 46,800 46,621 Retained earnings 86,909 83,180 --------- --------- 133,873 129,964 --------- --------- $240,693 $233,660 ======== ======== The accompanying notes are an integral part of the condensed consolidated financial statements. 3 4 ARBOR DRUGS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) (Amounts In Thousands, Except Three Months Ended Per Share Data) October 31, ----------------------- 1994 1993 --------- --------- Net sales $167,340 $143,804 Costs and expenses: Cost of sales 123,498 105,624 Selling, general and administrative 36,342 31,884 --------- --------- Income from operations 7,500 6,296 Interest expense (551) (433) Interest income 268 271 --------- --------- Income before income tax 7,217 6,134 Provision for income tax 2,508 2,128 --------- --------- Net income $ 4,709 $ 4,006 ======== ======== Earnings per common share $ .29 $ .25 ======== ======== Weighted average number of common shares outstanding 16,343 16,244 ======== ======== Cash dividend per common share $ .06 $ .05 ======== ======== The accompanying notes are an integral part of the condensed consolidated financial statements. 4 5 ARBOR DRUGS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) Three Months Ended (Dollars In Thousands) October 31, --------------------- 1994 1993 -------- ------- Operating activities: Net income $ 4,709 $ 4,006 Adjustments to reconcile to net cash used in operations: Depreciation 2,610 2,070 Amortization 1,117 887 Changes in operating assets and liabilities: Accounts receivable (3,176) (2,928) Inventory (10,734) (5,830) Prepaid expenses (119) 99 Accounts payable 6,685 6,815 Third-party settlement and related expenses (5,000) (5,325) Accrued expenses (72) 1,372 Income tax payable 2,084 (2,809) Deferred income tax 342 945 ------ ------ Net cash used in operations (1,554) (698) ------ ------ Investing activities: Purchase of property and equipment, net (2,941) (2,839) Purchase of intangible assets (1,459) (1,322) Purchase of short-term investments (596) (985) ------ ------ Net cash used in investing activities (4,996) (5,146) ------ ------ Financing activities: Principal payments on debt (583) (555) Dividends paid (980) (812) Proceeds from exercise of stock options 180 8 ------ ------ Net cash used in financing activities (1,383) (1,359) ------ ------ Net decrease in cash and cash equivalents (7,933) (7,203) Cash and cash equivalents at beginning of period 36,420 41,392 ------ ------ Cash and cash equivalents at end of period $28,487 $34,189 ====== ====== Cash paid for income tax $ -- $ 3,981 ====== ====== Cash paid for interest $ 656 $ 562 ====== ====== The accompanying notes are an integral part of the condensed consolidated financial statements. 5 6 ARBOR DRUGS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. BASIS OF PRESENTATION The condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles and reflect, in the opinion of management, all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of financial position, results of operations and cash flows at October 31, 1994 and for all periods presented. The condensed consolidated financial statements should be read in conjunction with the annual consolidated financial statements and notes contained in Arbor's Annual Report on Form 10-K for the fiscal year ended July 31, 1994. The results of operations for any interim period should not necessarily be considered indicative of the results of operations for the full year. 2. INVENTORY VALUATION Inventory at interim periods is valued on a last-in, first-out (LIFO) basis which is determined based upon estimates of gross profit rates, inflation rates and inventory levels, and is adjusted for the results of physical inventories when taken. 6 7 MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION RESULTS OF OPERATIONS References to years are to the Company's fiscal years, which end July 31. Net Sales Net sales reached $167.3 million for the three months ended October 31, 1994, an increase of 16.4 percent over the three months ended October 31, 1993. The increase reflects an increase in comparable store sales (stores open for more than one year) of 8.0 percent and sales made by stores opened in the last 12 months. As of October 31, 1994, the Company operated 158 stores, compared to 141 stores as of October 31, 1993, and 154 stores as of July 31, 1994. Prescription drug sales reached $83.1 million for the three months ended October 31, 1994, an increase of 18.9 percent over the three months ended October 31, 1993. Prescription drug sales represented 49.7 percent of total sales for the three months ended October 31, 1994, compared to 48.6 percent for the three months ended October 31, 1993. The increases in both absolute amount and relative contribution reflect an increase of 11.5 percent in comparable store pharmacy sales (due to increases both in the number of prescriptions filled and the average prescription price) and the Company's larger store base. Cost of Sales Cost of sales represented 73.8 percent of net sales for the three months ended October 31, 1994, compared to 73.4 percent for the three months ended October 31, 1993. The increase reflects rising pharmaceutical product costs and gross margin percentage pressure due to the reimbursement practices of the Company's third-party providers. Third-party providers generally pay the Company an amount determined by formula to reimburse it for the cost of the prescription drugs dispensed plus a fixed dispensing fee as compensation for services rendered. As pharmaceutical costs increase, the gross margin percentage on such sales decreases because the dispensing fee remains the same pursuant to the applicable third-party program. Changes in the reimbursement formulas of 7 8 the various third-party providers with which the Company has contracts may also affect the Company's gross margin and operating income. Selling, General and Administrative Expense Selling, general and administrative ("SG&A") expenses as a percentage of net sales amounted to 21.7 percent for the three months ended October 31, 1994, compared to 22.2 percent for the three months ended October 31, 1993. The decrease was primarily attributable to the Company's efforts to control operating expenses and by the higher level of net sales. Provision for Income Tax The provision for income tax as a percentage of income before income tax was 34.8 percent for the three months ended October 31, 1994, compared to 34.7 percent for the three months ended October 31, 1993. The Company's effective tax rate is lower than the federal statutory tax rate owing to income earned on tax-exempt investments. LIQUIDITY AND CAPITAL RESOURCES Net cash used in operations for the three months ended October 31, 1994 was $1.6 million. The principal uses were investment in inventory, net of trade payable increases, in the amount of $4.0 million, to address seasonal needs and to stock new stores, and the final installment, in the amount of $5.0 million, of the Company's settlement with Blue Cross Blue Shield of Michigan. In addition, during the period, $5.0 million of net cash was used for capital expenditures and other investment activities and $1.4 million of net cash was used for dividends and debt repayment. For the three months ended October 31, 1994, total net use of cash and cash equivalents was $7.9 million. The Company believes that existing cash, cash equivalents and short-term investments, cash provided from future 8 9 operations and funds available under a $50 million line of credit will support anticipated expansion and working capital needs arising in the ordinary course of business during fiscal 1995. During fiscal 1995, the Company plans to open or acquire approximately 20 stores. As of December 1, 1994, five new stores have been opened. 9 10 PART II OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K (a) Exhibit 11: Computation of Earnings Per Share Page 10 (b) Reports on Form 8-K: NONE 10 11 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. ARBOR DRUGS, INC. (Registrant) DATED: December 2, 1994 /s/ Gilbert C. Gerhard Gilbert C. Gerhard (Duly Authorized Officer and Principal Financial Officer) 11 12 EXHIBIT INDEX Exhibit No. Description Page No. - - ----------- ----------- -------- Exhibit 11 Computation of Earnings Per Share 12