1
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
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 OCTOBER 31, 2000
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 0-22289
WHEREHOUSE ENTERTAINMENT, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 95-4608339
(STATE OR OTHER JURISDICTION OF (IRS EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
19701 HAMILTON AVENUE, TORRANCE, CA 90502-1311 (310) 965-8300
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA
INCLUDING ZIP CODE) 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 to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under the plan
confirmed by a court. 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:
Common Stock, $.01 par value,
11,001,421 shares outstanding as of December 8, 2000
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
2
INDEX
WHEREHOUSE ENTERTAINMENT, INC.
PAGE
----
FORWARD LOOKING STATEMENTS........................................... 1
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements........................................ 2
Consolidated Condensed Balance Sheets -- October 31, 2000
(Unaudited) and January 31, 2000............................ 2
Consolidated Condensed Statements of Operations -- Three
Months Ended October 31, 2000 and 1999 (Unaudited) and Nine
Months Ended October 31, 2000 and 1999 (Unaudited).......... 3
Consolidated Condensed Statements of Cash Flows -- Nine
Months Ended October 31, 2000 and 1999 (Unaudited).......... 4
Notes to Consolidated Condensed Financial Statements
(Unaudited)................................................. 5
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................... 8
Item 3. Quantitative and Qualitative Disclosures about Market
Risk........................................................ 12
PART II. OTHER INFORMATION
Item 1. Legal Proceedings........................................... 13
Item 6. Exhibits and Reports on Form 8-K............................ 13
SIGNATURES........................................................... 14
i
3
FORWARD-LOOKING STATEMENTS
This Quarterly Report on Form 10-Q includes certain statements that may be
deemed to be "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. The sections of this Quarterly Report
on Form 10-Q containing such forward-looking statements include "Management's
Discussion and Analysis of Financial Condition and Results of Operations" under
Item 2 of Part I below. Statements in this Quarterly Report on Form 10-Q which
address activities, events or developments that the registrant expects or
anticipates will or may occur in the future, including such things as future
issuances of shares, future capital expenditures (including the amount and
nature thereof), expansion and other developments and technological trends of
industry segments in which the registrant is active, business strategy,
expansion and growth of the registrant's and its competitors' business and
operations and other such matters are forward-looking statements. You can find
many of these statements by looking for words like "believes," "expects",
"anticipates", or similar expressions in this Quarterly Report on Form 10-Q.
Although the registrant believes the expectations expressed in such
forward-looking statements are based on reasonable assumptions within the bounds
of its knowledge of its business, a number of factors could cause actual results
to differ materially from those expressed in any forward-looking statements made
by or on behalf of the registrant.
The registrant's operations are subject to factors outside its control. Any
one, or a combination, of these factors could materially affect the results of
the registrant's operations. These factors include (a) changes in levels of
competition from current competitors and potential new competition from both
retail stores and alternative methods or channels of distribution such as
Internet and telephone shopping services and mail order; (b) loss of a
significant vendor or prolonged disruption of product supply; (c) the presence
or absence of popular new releases and products in the product categories the
registrant sells and rents; (d) changes in levels of consumer spending,
especially during seasonally significant periods; (e) changes in Federal and
state income tax rules and regulations or interpretations of existing
legislation; (f) changes in the general economic conditions in the United States
including, but not limited to, consumer sentiment about the economy in general;
(g) regulatory changes, including, without limitation, further actions by the
FTC or others relating to recently abolished minimum advertised pricing
guidelines, which may adversely affect the business in which the registrant is
engaged; (h) the ability to attract and retain key personnel; and (i) adverse
results in significant litigation matters.
The foregoing should not be construed as an exhaustive list of all factors
which could cause actual results to differ materially from those expressed in
forward-looking statements made by the registrant. You should consider the
cautionary statements contained in this section when evaluating any
forward-looking statements that we may make. We do not have any obligation to
publicly release any revisions to these forward-looking statements to reflect
events or circumstances after the date of this Quarterly Report on Form 10-Q or
to reflect the occurrence of unanticipated events.
1
4
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
WHEREHOUSE ENTERTAINMENT, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
ASSETS
OCTOBER 31, JANUARY 31,
2000 2000
------------ ------------
(UNAUDITED)
Current assets:
Cash and cash equivalents................................. $ 4,948,000 $ 4,531,000
Receivables, net.......................................... 3,770,000 10,142,000
Inventories, net.......................................... 257,859,000 247,800,000
Other current assets...................................... 2,026,000 2,306,000
Deferred taxes............................................ 24,509,000 15,932,000
------------ ------------
Total current assets............................... 293,112,000 280,711,000
Property, equipment, and improvements, net.................. 72,622,000 82,250,000
Deferred taxes.............................................. 14,677,000 10,573,000
Intangible assets, net...................................... 35,401,000 38,075,000
Investment in unconsolidated joint venture.................. 9,433,000
Other assets, net........................................... 1,296,000 2,074,000
------------ ------------
Total assets....................................... $426,541,000 $413,683,000
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable and bank overdraft....................... $171,542,000 $177,158,000
Accrued expenses.......................................... 33,002,000 34,082,000
Store closure reserves.................................... 9,017,000 11,192,000
Reorganization liabilities................................ 1,256,000 1,567,000
Current portion of leases in excess of fair market
value................................................... 3,278,000 3,278,000
Current portion of capital lease obligations.............. 6,016,000 5,691,000
------------ ------------
Total current liabilities.......................... 224,111,000 232,968,000
Line of credit.............................................. 72,942,000 31,983,000
Long-term debt.............................................. 3,785,000 3,812,000
Capital lease obligations................................... 18,194,000 22,018,000
Leases in excess of fair market value....................... 19,005,000 21,463,000
Deferred rent and other long-term liabilities............... 5,163,000 5,168,000
------------ ------------
Total liabilities.................................. 343,200,000 317,412,000
============ ============
Shareholders' equity:
Preferred stock, $.01 par value; shares authorized:
3,000,000; shares issued: none..........................
Common stock, $.01 par value; shares authorized:
240,000,000; shares issued: October 31, 2000,
11,026,421; January 31, 2000, 10,760,806................ 110,000 108,000
Additional paid-in-capital................................ 94,435,000 89,400,000
Retained earnings (deficit)............................... (4,125,000) 13,562,000
Treasury stock, 25,000 shares............................. (338,000) (338,000)
Notes receivable.......................................... (6,741,000) (6,461,000)
------------ ------------
Total shareholders' equity......................... 83,341,000 96,271,000
------------ ------------
Total liabilities and shareholders' equity......... $426,541,000 $413,683,000
============ ============
See Accompanying Notes to Unaudited Consolidated Condensed Financial Statements.
2
5
WHEREHOUSE ENTERTAINMENT, INC.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
---------------------------- ----------------------------
OCTOBER 31, OCTOBER 31, OCTOBER 31, OCTOBER 31,
2000 1999 2000 1999
------------ ------------ ------------ ------------
Sale merchandise revenue.......... $147,454,000 $163,279,000 $487,753,000 $517,353,000
Rental revenue, net............... 1,342,000 2,187,000 4,398,000 7,517,000
------------ ------------ ------------ ------------
Total revenues.......... 148,796,000 165,466,000 492,151,000 524,870,000
Cost of sale merchandise
revenue......................... 93,882,000 101,739,000 315,430,000 333,867,000
------------ ------------ ------------ ------------
Gross profit................. 54,914,000 63,727,000 176,721,000 191,003,000
Selling, general and
administrative expenses......... 54,677,000 59,825,000 167,677,000 179,962,000
Depreciation and amortization..... 7,554,000 5,983,000 22,425,000 17,127,000
Loss on disposition of assets..... 108,000 773,000
------------ ------------ ------------ ------------
Loss from operations......... (7,425,000) (2,081,000) (14,154,000) (6,086,000)
Interest expense.................. 2,250,000 2,057,000 6,592,000 5,884,000
Interest income................... (95,000) (95,000) (313,000) (300,000)
Equity in loss from unconsolidated
joint venture................... 3,100,000 9,143,000
------------ ------------ ------------ ------------
Loss before income taxes..... (12,680,000) (4,043,000) (29,576,000) (11,670,000)
Benefit for income taxes.......... 5,097,000 1,617,000 11,889,000 4,668,000
------------ ------------ ------------ ------------
Net loss..................... $ (7,583,000) $ (2,426,000) $(17,687,000) $ (7,002,000)
============ ============ ============ ============
Net loss per common share:
Basic........................... $ (0.69) $ (0.23) $ (1.61) $ (0.65)
============ ============ ============ ============
Diluted......................... $ (0.69) $ (0.23) $ (1.61) $ (0.65)
============ ============ ============ ============
Weighted average common shares
outstanding -- Basic............ 11,001,421 10,756,570 10,984,538 10,734,405
============ ============ ============ ============
Weighted average common shares and
common equivalent shares
outstanding -- Diluted.......... 11,001,421 10,756,570 10,984,538 10,734,405
============ ============ ============ ============
See Accompanying Notes to Unaudited Consolidated Condensed Financial Statements.
3
6
WHEREHOUSE ENTERTAINMENT, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
NINE MONTHS ENDED
----------------------------
OCTOBER 31, OCTOBER 31,
2000 1999
------------ ------------
OPERATING ACTIVITIES:
Net loss.................................................... $(17,687,000) $ (7,002,000)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization............................. 22,425,000 17,127,000
Loss on disposition of assets............................. 773,000
Rental amortization included in cost of rentals........... 2,688,000 4,108,000
Book value of rental inventory dispositions, included in
cost of rentals......................................... 477,000 817,000
Equity in loss from unconsolidated joint venture.......... 9,143,000
Stock option compensation................................. 37,000
Changes in operating assets and liabilities:
Receivables, net........................................ 6,372,000 1,619,000
Inventories, net........................................ (10,257,000) (67,708,000)
Rental inventory purchases.............................. (2,967,000) (4,420,000)
Other assets (principally income taxes)................. (12,411,000) (16,000)
Accounts payable, accrued expenses and other current
liabilities............................................ (7,007,000) 44,425,000
Store closure reserves.................................. (4,633,000) (12,196,000)
Other long-term liabilities............................. (5,000) (347,000)
------------ ------------
Net cash used in operating activities.............. (13,052,000) (23,593,000)
------------ ------------
INVESTING ACTIVITIES:
Purchase of property, equipment and improvements............ (10,120,000) (24,643,000)
Investment in unconsolidated joint venture.................. (17,826,000)
Other....................................................... 115,000 600,000
------------ ------------
Net cash used in investing activities.............. (27,831,000) (24,043,000)
------------ ------------
FINANCING ACTIVITIES:
Net borrowings under line of credit......................... 40,959,000 41,010,000
Payments on capital lease obligations and long-term debt.... (4,379,000) (1,655,000)
Purchase of common stock.................................... (338,000)
Proceeds from sale of common stock.......................... 5,000,000
Interest on notes receivable................................ (280,000) (279,000)
------------ ------------
Net cash provided by financing activities.......... 41,300,000 38,738,000
------------ ------------
Net increase (decrease) in cash and cash equivalents........ 417,000 (8,898,000)
Cash and cash equivalents at beginning of the period........ 4,531,000 15,009,000
------------ ------------
Cash and cash equivalents at end of the period.............. $ 4,948,000 $ 6,111,000
============ ============
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest................................................ $ 6,450,000 $ 5,334,000
Income taxes............................................ $ 367,000 $ 7,382,000
Non-cash investing and financing activities:
The Company incurred capital lease obligations of $853,000
and $1,898,000 for the purchase of certain equipment
during the nine months ended October 31, 2000 and
October 31, 1999.
See Accompanying Notes to Unaudited Consolidated Condensed Financial Statements.
4
7
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated condensed financial statements
include the accounts of Wherehouse Entertainment, Inc. and its wholly owned
subsidiaries (collectively referred to as the "Company"). All material
intercompany balances and transactions have been eliminated in consolidation.
The interim unaudited consolidated condensed financial statements of the
Company have been prepared in accordance with the instructions to Form 10-Q of
the Securities and Exchange Commission. Accordingly, they do not include all of
the information and footnotes required by Generally Accepted Accounting
Principles ("GAAP") for complete financial statements. In the opinion of
management, all adjustments (consisting of normal recurring accruals) considered
necessary for a fair presentation have been included. The Company's business is
seasonal, so operating results for the nine months ended October 31, 2000 are
not necessarily indicative of the results that may be expected for the Company's
fiscal year ending January 31, 2001 ("Fiscal 2001"). For further information,
refer to the financial statements and footnotes thereto included in the
Company's Annual Report on Form 10-K for the Company's fiscal year ended January
31, 2000 ("Fiscal 2000").
2. ACQUISITION
On October 26, 1998, the Company acquired (the "Acquisition") all of the
capital stock of certain retail music subsidiaries of Viacom International Inc.
(the "Seller"). The acquired business consisted of 378 stores (the "Acquired
Stores") in 33 states. In June, 1999, the Company completed the systems
integration of the Acquired Stores, which are currently operating under the
"Wherehouse Music" name.
Upon the consummation of the Acquisition, the Company's senior management
began formulating its plan to close certain stores which, due to the
Acquisition, competed in the same trade areas of its other stores (the "Store
Closure Plan"). The Store Closure Plan, which was finalized in January, 1999,
anticipated the closing of 70 stores (51 Acquired Stores and 19 existing
Wherehouse stores) located in 17 states. The Company has closed 61 of these
stores (45 Acquired Stores and 16 existing Wherehouse stores) as of October 31,
2000. The Company is negotiating with landlords to terminate the leases on the
remaining 9 stores.
5
8
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
During the fiscal year ended January 31, 1999 ("Fiscal 1999"), the Company
recorded accruals in the purchase price allocation for Store closure reserve --
Acquired Stores and Leases in excess of fair market value. The following is a
rollforward of the activity of these reserves:
BALANCE AS OF CHARGES BALANCE AS OF
JANUARY 31, AGAINST OCTOBER 31,
2000 RESERVE 2000
------------- ---------- -------------
Store closure reserve -- Acquired Stores
(1)........................................ $ 9,746,000 $1,834,000 $ 7,912,000
Leases in excess of fair market value........ 24,741,000 2,458,000 22,283,000
----------- ---------- -----------
Total.............................. $34,487,000 $4,292,000 $30,195,000
=========== ========== ===========
- ---------------
(1) Consists substantially of lease termination costs.
During Fiscal 1999, the Company recorded accruals related to the planned
closing of 19 existing Wherehouse stores. The following is a rollforward of the
activity of the Store closure reserve -- Existing Stores:
BALANCE AS OF CHARGES BALANCE AS OF
JANUARY 31, AGAINST OCTOBER, 31,
2000 RESERVE 2000
------------- -------- -------------
Store closure reserve -- Existing Stores (1).... $1,446,000 $341,000 $1,105,000
========== ======== ==========
- ---------------
(1) Consists substantially of lease termination costs.
3. INVESTMENT IN UNCONSOLIDATED JOINT VENTURE
In response to the growth in electronic commerce and the future potential
for on-line sales of prerecorded music and video product, the Company launched
its own Internet commerce site, "Wherehousemusic.com," on May 10, 1999. In
November of 1999, the Company agreed to enter into an equity investment and
strategic partnership agreement (the "Agreement") with CheckOut.com, LLC
("CheckOut.com"), an Internet content provider and e-commerce retailer of music,
movies and games. This Agreement was finalized on February 16, 2000. In exchange
for a 49% interest in CheckOut.com, the Company contributed $9.8 million in
February of 2000, and agreed to contribute up to an additional $1.568 million
per month up to an aggregate amount not to exceed an additional $9.8 million.
Under the terms of the Agreement, CheckOut.com is the exclusive Internet website
partner for music, movies and games for Wherehouse Music. As a result, the
Company merged the operation of its own Internet website, Wherehousemusic.com,
with that of CheckOut.com. As a part of the CheckOut.com transaction, the
Company sold 250,000 shares of its common stock to affiliates of its partner in
CheckOut.com for $5.0 million in cash.
The Company accounts for its investment in CheckOut.com under the equity
method of accounting and reports this investment under the caption "Investment
in unconsolidated joint venture". Under the equity method, the investment is
carried at cost of the acquisition plus the Company's equity in undistributed
earnings or losses since the acquisition. Equity in losses of the unconsolidated
joint venture is recognized according to the Company's 49% ownership. For the
nine-month period ended October 31, 2000, the Company recognized a loss of $9.1
million related to the joint venture. As of October 31, 2000, the Company's
total cash investment in the joint venture amounted to $17.8 million.
4. LITIGATION
In September, 2000, a private class action suit was served on the Company,
seven major record labels/distributors and three other music specialty retailers
in the U.S. District Court for the Northern District of Alabama. The suit
alleges that the distributors and retailers conspired to violate Federal
anti-trust laws and
6
9
WHEREHOUSE ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
to fix prices by adopting and/or adhering to the label's minimum advertised
pricing policies. The complaint alleges that consumers were damaged in an
unspecified amount and seeks treble damages and civil penalties. The Company
denies any liability and plans to undertake a vigorous defense.
Over 50 similar class actions and private actions have been filed against
major record labels, distributors and retailers, including a suit filed by 30
state Attorneys General in the Southern District of New York. To date, the
Company has not been named in any of these other actions. These class actions
and private actions, including the Company's suit, described above, are being
consolidated in the U.S. Court in Maine under the Multidistrict Litigation
Rules. At this time, management is unable to predict the potential damages or
costs that the Company would incur if it did not prevail in this litigation.
Accordingly, the Company has not recorded any liability in its financial
statements in connection with this litigation. Legal costs are being charged to
expense as they are incurred.
7
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
INTRODUCTION
This discussion should be read in conjunction with the financial
statements, related notes and Management's Discussion and Analysis of Financial
Condition and Results of Operations contained in the Company's Annual Report on
Form 10-K for Fiscal 2000.
RESULTS OF OPERATIONS
FOR THE QUARTERS ENDED OCTOBER 31, 2000 AND OCTOBER 31, 1999
Revenues
Total revenues were $148.8 million and $165.5 million for the quarters
ended October 31, 2000 (the third quarter of Fiscal 2001) and October 31, 1999
(the third quarter of Fiscal 2000), respectively. The decrease of $16.7 million
was attributable to decreases in net revenues of $6.8 million due to store
closures since October 31, 1999, same-store sale decreases of $9.0 million and
the reduction of net rental revenue of $0.9 million.
A summary of total sale merchandise and rental revenue by category is
provided below:
SALE MERCHANDISE AND RENTAL REVENUES
BY CATEGORY
(DOLLARS IN MILLIONS)
QUARTER ENDED
OCTOBER 31,
----------------
2000 1999
------ ------
Sale merchandise revenue:
Music.................................................... $125.6 $143.9
Other, principally sales of new videocassettes, DVDs,
video game software and hardware, general merchandise
and ticket commissions................................ 21.9 19.4
------ ------
Total sale merchandise revenue................... 147.5 163.3
Rental revenue, net........................................ 1.3 2.2
------ ------
Total revenue.................................... $148.8 $165.5
====== ======
A. Sale merchandise revenue. Sales of prerecorded music, new
videocassettes, DVDs, video game software and hardware and general merchandise
(collectively referred to as "sale merchandise") continue to represent the
greatest portion of the Company's revenues. For the third quarter of Fiscal
2001, sale merchandise revenue represented 99.1% of aggregate revenues, compared
to 98.7% during the third quarter of Fiscal 2000, an increase of 0.4%. This
increase results from the continuing decline in rental revenue, net discussed
below. Negatively impacting revenues was the closure of 42 stores since October
31, 1999.
Management defines same-store sales as sales from stores that were open for
the full period in both periods of comparison. On a same-store basis, excluding
the eight stores closed and the one store opened during the three months ended
October 31, 2000, sale merchandise revenue decreased by approximately 5.8%
during the third quarter of Fiscal 2001 as compared to the third quarter of
Fiscal 2000. Same store sales continued to be negatively impacted by a weak new
release schedule for music product in the third quarter of Fiscal 2001 and
certain "big box" retailers beginning to sell selected new music releases at
prices below cost.
B. Rental revenue, net. Rental revenue, net includes the proceeds from the
rental of videocassettes, DVDs, video games and game players, and from the sale
of previously viewed videocassettes and previously played video games, net of
cost of rentals. Rental revenue, net was $1.3 million in the third quarter of
Fiscal 2001 and $2.2 million in the third quarter of Fiscal 2000, representing a
decrease of $0.9 million or 40.9% due to increased competition in the rental
market and fewer of the Company's stores offering rental products.
8
11
C. Competition and Economic Factors. The Company believes that in the
future its business and same-store revenues may be impacted by various
competitive and economic factors, including, but not limited to, consumer
tastes, new releases of music, videocassette and video game titles available for
sale or rental, the Internet, and technological developments such as digital
downloading, as well as general economic trends impacting retailers and
consumers. In addition, in recent years the Company's sale merchandise and
rental revenues have been impacted by increased competition from other music and
video specialty chains, discounters and mass merchandisers. Furthermore, in
recent months, certain discounters and mass merchandisers have been using music
as a "loss leader," selling at prices below cost.
Cost of Sale Merchandise Revenue
Cost of sale merchandise revenue was $93.9 million for the third quarter of
Fiscal 2001, as compared with $101.7 million for the same period last year, a
decrease of $7.8 million. As a percentage of sale merchandise revenue, cost of
sale merchandise revenue was 63.7% for the third quarter of Fiscal 2001 as
compared with 62.3% for the third quarter of Fiscal 2000. The increase was
caused principally by a change in product mix as certain products which have
higher unit costs increased as a percentage of total sales. In addition, vendor
price increases on CDs have resulted in lower profit margins.
Operating Expenses
Selling, general and administrative ("SG&A") expenses for the third quarter
of Fiscal 2001 were $54.7 million, compared to $59.8 million for the third
quarter of Fiscal 2000, a decrease of $5.1 million. The decrease was principally
attributable to store closures since October 31, 1999, $1.4 million of
Acquisition -- related integration costs in the prior year, a reduction in
variable expenses due to the decline in sales merchandise revenue and a
reduction in freight costs in Fiscal 2001, partially offset by increases in
distribution costs. SG&A expenses were 36.8% of revenue in the third quarter of
Fiscal 2001, compared to 36.1% of revenue in the third quarter of Fiscal 2000,
an increase of 0.7%.
Depreciation and amortization expense was $7.6 million in the third quarter
of Fiscal 2001 compared to $6.0 million in the third quarter of Fiscal 2000, an
increase of $1.6 million. The increase is principally related to capital
expenditures over the last twelve months for the acquisition of property,
equipment and improvements to support re-merchandising activities, facilities
improvements, and systems improvements, including new point-of-sale ("POS")
systems for the Acquired Stores.
Interest Expense
Interest expense for the third quarter of Fiscal 2001 was $2.3 million,
compared to $2.1 million for the third quarter of Fiscal 2000, an increase of
$0.2 million. This increase was primarily attributable to interest expense of
$1.7 million incurred in the third quarter of Fiscal 2001 due to borrowings
under the Company's revolving line of credit with Congress Financial Corporation
(Western) (the "Congress Facility") versus $1.4 million during the same period
last year. Such borrowings were used for the funding of working capital and, in
Fiscal 2001, to fund the investment in CheckOut.com.
Interest Income
Interest income for both the third quarter of Fiscal 2001 and the first
quarter of Fiscal 2000 was $0.1 million. Interest income is related to
short-term investments of excess cash.
Equity in Loss from Unconsolidated Joint Venture
The Company has a 49% interest in CheckOut.com, LLC and accounts for this
investment under the equity method of accounting. For the three months ended
October 31, 2000, the Company recognized a $3.1 million loss related to its
share of the losses of CheckOut.com.
9
12
Income Taxes
The Company recorded a tax benefit of $5.1 million for the third quarter of
Fiscal 2001 compared to $1.6 million for the third quarter of Fiscal 2000. The
tax benefit represents an effective rate of 40.2% for the third quarter of
Fiscal 2001 and 40.0% for the third quarter of Fiscal 2000.
FOR THE NINE MONTHS ENDED OCTOBER 31, 2000 AND OCTOBER 31, 1999
Revenues
Total revenues were $492.2 million and $524.9 million for the nine months
ended October 31, 2000 and October 31, 1999, respectively. The decrease of $32.7
million was primarily attributable to decreases in net revenues of $22.0 million
due to store closures since October 31, 1999, same-store sale decreases of $7.6
million and the reduction of net rental revenue of $3.1 million.
A summary of total sale merchandise and rental revenue by category is
provided below:
SALE MERCHANDISE AND RENTAL REVENUES
BY CATEGORY
(DOLLARS IN MILLIONS)
NINE MONTHS ENDED
OCTOBER 31,
------------------
2000 1999
------- -------
Sale merchandise revenue:
Music.................................................... $420.6 $458.9
Other, principally sales of new videocassettes, DVDs,
video game software and hardware, general merchandise
and ticket commissions................................ 67.2 58.5
------ ------
Total sale merchandise revenue................... 487.8 517.4
Rental revenue, net........................................ 4.4 7.5
------ ------
Total revenue.................................... $492.2 $524.9
====== ======
B. Sale merchandise revenue. For the nine months ended October 31, 2000,
sale merchandise revenue represented 99.1% of aggregate revenues, compared to
98.6% during the nine months ended October 31, 1999, an increase of 0.5%. This
increase results from the continuing decline in rental revenue, net discussed
below. Negatively impacting revenues was the closure of 42 stores since October
31, 1999.
On a same-store basis, excluding the 28 stores closed and the two stores
opened during the nine months ended October 31, 2000, sale merchandise revenue
decreased by approximately 1.6% during the nine months ended October 31, 2000 as
compared to the same period last year. The primary reasons for this decrease are
a weak new release schedule for music products in Fiscal 2001, the favorable
sales impact of grand opening promotions, which took place at all the Acquired
Stores during the second quarter of Fiscal 2000 and certain "big box" retailers
beginning to sell selected new music releases at prices below cost. Partially
offsetting these decreases were improvements in music category inventory
management, re-merchandising activities which occurred in certain stores, and
strong performance in the sales of used products, DVD, and special products.
C. Rental revenue, net. Rental revenue, net was $4.4 million in the nine
months ended October 31, 2000 and $7.5 million in the nine months ended October
31, 1999, representing a decrease of $3.1 million or 41.3% due to increased
competition in the rental market and fewer of the Company's stores offering
rental products.
Cost of Sale Merchandise Revenue
Cost of sale merchandise revenue was $315.4 million for the nine months
ended October 31, 2000 as compared with $333.9 million for the same period last
year, a decrease of $18.5 million. As a percentage of sale merchandise revenue,
cost of sale merchandise revenue was 64.7% for the nine months ended October 31,
2000 as compared with 64.5% for the nine months ended October 31, 1999. The
increase was caused
10
13
principally by a change in product mix as certain products have higher unit
costs as a percentage of total sales. In addition, vendor price increases on CDs
have resulted in lower profit margins. Costs were negatively impacted by
approximately $2.5 million of incremental costs in the nine months ended October
31, 1999 associated with the use of a third-party distributor to handle music
and sales video replenishment and other costs related to the transition of the
Acquired Stores to Wherehouse Music stores. These incremental distribution costs
resulted from the Seller's inability to support the fulfillment of the Acquired
Stores sale merchandise product from its distribution facility. These
incremental costs were discontinued by July of 1999, when all the Acquired
Stores were converted to the Company's POS system and expansion of the Company's
distribution facility was completed.
Operating Expenses
SG&A expenses for the nine months ended October 31, 2000 were $167.7
million, compared to $180.0 million for the nine months ended October 31, 1999,
a decrease of $12.3 million. The decrease was principally attributable to store
closures since October 31, 1999, $5.2 million of Acquisition-related integration
costs in the prior year, a reduction in variable expenses due to the decline in
sale merchandise revenue, and decreases in freight costs, partially offset by
increases in other distribution costs in Fiscal 2001. SG&A expenses were 34.1%
of revenue in the nine months ended October 31, 2000, compared to 34.3% of
revenue for the same period last year, a decrease of 0.2%.
Depreciation and amortization expense was $22.4 million in the nine months
ended October 31, 2000 compared to $17.1 million in the nine months ended
October 31, 1999, an increase of $5.3 million. The increase is principally
related to capital expenditures over the last twelve months for the acquisition
of property, equipment and improvements to support name changes and
re-merchandising activities related to the Acquired Stores and systems
improvements, including new POS systems for the Acquired Stores.
Interest Expense
Interest expense for the nine months ended October 31, 2000 was $6.6
million, compared to $5.9 million for the nine months ended October 31, 1999, an
increase of $0.7 million. This increase was primarily attributable to interest
expense of $4.8 million incurred due to borrowings under the Congress Facility
versus $4.0 million during the same period last year. Such borrowings were used
for the funding of working capital and, in Fiscal 2001, to fund the investment
in CheckOut.com.
Interest Income
Interest income for both the nine months ended October 31, 2000 and October
31, 1999 was $0.3 million. Interest income is related to short-term investments
of excess cash.
Equity in Loss from Unconsolidated Joint Venture
For the nine months ended October 31, 2000, the Company recognized a $9.1
million loss related to its share of the losses of CheckOut.com.
Income Taxes
The Company recorded a tax benefit of $11.9 million for the nine months
ended October 31, 2000 compared to $4.7 million for the nine months ended
October 31, 1999. The tax benefit represents an effective rate of 40.2% for the
nine months ended October 31, 2000 and 40.0% for the nine months ended October
31, 1999.
LIQUIDITY AND CAPITAL RESOURCES
During the nine months ended October 31, 2000, the Company's net cash used
in operating activities was $13.1 million. The most significant use of cash
during this period was related to seasonal and non-seasonal inventory purchases
as evidenced by the decrease in accounts payable and higher inventory levels.
Seasonal
11
14
inventory purchases typically begin during the third quarter and continue into
the fourth quarter, while payment is typically due near the beginning of the
following year. Non-seasonal inventory purchases are made throughout the year
and fluctuate with the timing and strength of new releases.
Net cash used in investing activities during the nine months ended October
31, 2000 was $27.8 million due to capital expenditures totaling $10.1 million
for the acquisition of property, equipment and improvements, the $17.8 million
invested in CheckOut.com, partially offset by a $0.1 million reduction in other
assets. Financing of capital expenditures has generally been provided by cash
from operations and borrowings under the Congress Facility.
Net cash provided by financing activities for the nine months ended October
31, 2000 was $41.3 million primarily due to net borrowings under the Congress
Facility of $41.0 million and $5.0 million received from the proceeds of sale of
common stock to investors in CheckOut.com, offset by payments of $4.4 million on
capital lease obligations and long-term debt.
The Company believes that cash on hand, cash flow from operations and the
availability of lease financing, together with borrowings available under the
Congress Facility, will be adequate to support existing operations and the
planned capital expenditures of the Company for Fiscal 2001.
SEASONALITY AND INFLATION
The Company's business is seasonal, and revenues and operating income are
highest during the fourth quarter of the Company's fiscal year. Working capital
and related bank borrowings in prior years were usually lowest during the period
beginning with the end of the Christmas holiday season and ending with the close
of the Company's fiscal year. Beginning in February, working capital and related
bank borrowings have historically trended upward during the year until the
fourth quarter. Borrowings have historically been highest in October and
November due to capital expenditures and the building of inventory for the
holiday season. Management believes that inflation has not had a material effect
on its operations and its internal and external sources of liquidity and working
capital.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is subject to risks resulting from interest rate fluctuations
since interest on the Company's borrowings under the Congress Facility are based
on variable rates. If the Eurodollar rate were to increase 1% in Fiscal 2001 as
compared to the rate at October 31, 2000, the Company's interest expense for
Fiscal 2001 would increase $0.7 million based on the outstanding balance of the
Congress Facility at October 31, 2000. The Company does not hold any derivative
instruments and does not engage in hedging activities.
12
15
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In September, 2000, a private class action suit was served on the Company,
seven major record labels/distributors and three other music specialty retailers
in the U.S. District Court for the Northern District of Alabama. The suit
alleges that the distributors and retailers conspired to violate Federal
anti-trust laws and to fix prices by adopting and/or adhering to the label's
minimum advertised pricing policies. The complaint alleges that consumers were
damaged in an unspecified amount and seeks treble damages civil penalties. The
Company denies any liability and plans to undertake a vigorous defense.
Over 50 similar class actions and private actions have been filed against
major record labels, distributors and retailers, including a suit filed by 30
state Attorneys General in the Southern District of New York. To date, the
Company has not been named in any of these other actions. These class actions
and private actions, including the Company's suit, described above, are being
consolidated in the U.S. Court in Maine under the Multidistrict Litigation
Rules. At this time, management is unable to predict the potential damages or
costs that the Company would incur if it did not prevail in this litigation.
ITEM 5. OTHER INFORMATION
On December 6, 2000, the Fifth Amendment to the Amended and Restated Loan
and Security Agreement ("Fifth Amendment") was entered into between the Company
and its subsidiaries and Congress Financial Corporation (Western). The Fifth
Amendment, among other things, extended the maturity of the Congress Facility to
October 31, 2003. The Fifth Amendment also permits the Company to include used
merchandise held for retail sale in the determination of amount of revolving
loans available to the Company and, effective October 26, 2001, eliminates the
$10.0 million Tranche B loan facility, which the Company has never utilized.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
EXHIBIT
NUMBER DESCRIPTION
------- -----------
10.1 Fifth Amendment to the Amended and Restated Loan and
Security Agreement dated as of December 4, 2000 between the
Company and its subsidiaries and Congress Financial
Corporation (Western).
27.0 Financial Data Schedule.
(b) Reports on Form 8-K
None.
13
16
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.
WHEREHOUSE ENTERTAINMENT, INC.
Date: December 11, 2000 /s/ ANTONIO C. ALVAREZ, II
--------------------------------------
Antonio C. Alvarez, II
Chairman of the Board and
Chief Executive Officer, and Director
(Principal Executive Officer)
Date: December 11, 2000 /s/ MARK A. VELARDE
--------------------------------------
Mark A. Velarde
Executive Vice President and
Chief Financial Officer
(Principal Financial Officer)
Date: December 11, 2000 /s/ MEHDI MAHDAVI
--------------------------------------
Mehdi Mahdavi
Vice President, Controller
(Principal Accounting Officer)
14