UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.
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 SEPTEMBER 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER: 1-11735
99 CENTS ONLY STORES
(Exact name of registrant as specified in its charter)
CALIFORNIA 95-2411605
(State or other jurisdiction (I.R.S. Employer Identification No.)
or organization)
4000 UNION PACIFIC AVENUE
CITY OF COMMERCE, CALIFORNIA 90023
(Address of Principal executive offices)
Registrant's telephone number, including area code: (213) 980-8145
NONE
Former name, address and fiscal year, if changed since last report
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Security 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 last 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.
Common Stock, No Par Value, 19,773,074, Shares as of SEPTEMBER 30, 1998
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
99 Cents Only Stores
Consolidated Balance Sheets
(Amounts In Thousands)
September 30, December 31,
1998 1997
(Unaudited)
Assets ---------- ----------
Current assets:
Cash................................ $776 $882
Short-term investments.............. 36,814 26,191
Accounts receivable, net of
allowance for doubtful accounts of
$164 and $178 as of September 30,
1998 and December 31, 1997,
respectively...................... 2,579 1,510
Inventories......................... 77,213 43,114
Other............................... 2,508 673
-------- --------
Total current assets................ 119,890 72,370
Property and equipment, at cost:
Land................................ 9,590 8,072
Building and improvements........... 11,816 10,804
Leasehold improvements.............. 17,457 10,986
Fixtures and equipment.............. 15,708 8,473
Transportation equipment............ 905 558
Construction in progress............ 652 776
-------- --------
56,128 39,669
Less - accumulated depreciation
and amortization............. (13,398) (10,228)
-------- --------
Total property and equipment, net... 42,730 29,441
Other assets:
Deferred income taxes............... 7,041 5,947
Long term investments in marketable
Securities........................ 5,214 6,393
Investment in Universal............. - 3,708
Goodwill............................ 8,926 -
Deposits............................ 234 234
Other............................... 1,879 1,120
Receivable from affiliated entity... - 230
-------- --------
23,294 17,632
-------- --------
Total assets........................ $185,914 $119,443
======== ========
The accompanying notes are an integral part of these balance sheets.
99 Cents Only Stores
Consolidated Balance Sheets
(Amounts In Thousands)
September 30, December 31,
1998 1997
(Unaudited)
Liabilities and Shareholders' Equity ---------- ----------
Current liabilities:
Current portion of capital
lease obligation....................... $910 $704
Accounts payable......................... 12,897 5,534
Accrued expenses:
Payroll and payroll related............ 1,993 1,352
Sales tax.............................. 1,651 1,467
Liability for claims................... 356 396
Other.................................. 1,088 824
Workers' compensation.................. 597 1,091
Income taxes payable................... - 211
-------- --------
Total current liabilities................ 19,492 11,579
Long-term liabilities:
Deferred rent............................ 1,960 1,476
Accrued interest on capitalized lease
Obligation............................. 2,623 2,075
Capital lease obligation, net of
current portion........................ 7,585 8,005
-------- --------
12,168 11,556
Commitments and contingencies:
Shareholders' equity:
Preferred stock, no par value
Authorized - 1,000,000 shares
Issued and outstanding - none.......... - -
Common Stock, no par value
Authorized - 40,000,000 shares
Issued and outstanding - 19,773,074
Shares at September 30, 1998 and
18,578,759 shares at December 31, 1997. 107,515 66,207
Retained earnings...................... 46,739 30,101
-------- --------
Total shareholders' equity............... 154,254 96,308
-------- --------
Total liabilities and shareholders' equity $185,914 $119,443
======== ========
The accompanying notes are an integral part of these balance sheets.
99 Cents Only Stores
Consolidated Statements of Income
(Unaudited)
(Amounts In Thousands, except for per share data)
Three Months Ended Nine Months Ended
September 30 September 30
1998 1997 1998 1997
-------- -------- -------- --------
Net sales:
99 Cents Only Stores........... $59,147 $46,991 $167,324 $128,726
Universal...................... 2,456 - 2,456 -
Bargain Wholesale.............. 16,357 11,995 42,819 34,818
-------- -------- -------- --------
Net sales...................... 77,960 58,986 212,599 163,544
Cost of sales.................. 49,865 37,794 136,139 105,623
-------- -------- -------- --------
Gross profit................... 28,095 21,192 76,460 57,921
Selling, general and
Administrative expenses...... 17,865 13,313 48,206 36,800
-------- -------- -------- --------
Operating income............... 10,230 7,879 28,254 21,121
Interest income, net........... 480 218 1,099 513
-------- -------- -------- --------
Income before minority
Interest..................... 10,710 8,097 29,353 21,634
Minority interest.. (98) - (1,334) -
-------- -------- -------- --------
Income before provision for
Income taxes................. 10,612 8,097 28,019 21,634
Provision for income taxes..... 3,900 3,347 11,381 8,839
-------- -------- -------- --------
Net income..................... $6,712 $4,750 $16,638 $12,795
======== ======== ======== ========
Earnings per common share:
Basic $0.34 $0.26 $0.87 $0.69
Diluted $0.34 $0.25 $0.86 $0.68
Weighted average number of
common
Shares outstanding:
Basic 19,544 18,532 19,041 18,524
Diluted 19,952 19,074 19,458 18,824
The accompanying notes are an integral part of these statements.
99 Cents Only Stores
Consolidated Statements of Cash Flows
(Unaudited)
(Amounts In Thousands)
Nine Months Ended
September 30,
1998 1997
-------- --------
Cash flows from operating activities:
Net income ........................................ $16,638 $12,795
Adjustment to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization...................... 3,170 2,111
Loss from minority interest. ...................... 1,334 -
Changes in assets and liabilities
Associated with operating activities:
Accounts receivable................................ (790) (979)
Inventories........................................ (5,938) (2,078)
Other current assets............................... (846) (559)
Receivable from affiliated entity.................. 230 -
Other assets....................................... (633) 15
Accounts payable................................... 3,420 (129)
Accrued expenses................................... (768) (600)
Workers' compensation.............................. (494) (2)
Income taxes payable............................... (211) (237)
Deferred rent...................................... 54 32
Deferred taxes..................................... (1,094) -
Accrued interest................................... 457 427
-------- --------
Net cash provided by operating activities 14,529 10,796
Cash flows from investing activities:
Investment in marketable securities................ (21,792) (1,968)
Purchase of property and equipment................. (8,446) (7,774)
Cash paid in exchange for Odd's-N-End's shares..... (843) -
-------- --------
Net cash used in investing activities.............. (31,081) (9,742)
Cash flows from financing activities:
Retirement of revolving line of credit............. (12,500) -
Payments of capital lease obligation............... (523) (488)
Net proceeds from sale of stock.................... 27,307 -
Net proceeds from exercise of stock options........ 2,162 397
-------- --------
Net cash provided by (used in) financing activities 16,446 (91)
Net increase (decrease) in cash ................... (106) 963
Cash, beginning of period.......................... 882 3,375
-------- --------
Cash, end of period................................ $776 $4,338
======== ========
The accompanying notes are an integral part of these statements.
99 CENTS ONLY STORES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. Basis of Presentation
The accompanying unaudited consolidated financial statements have been
prepared in conformity with generally accepted accounting principles.
However, certain information and footnote disclosures normally included in
financial statements prepared in conformity with generally accepted
accounting principles have been omitted or condensed pursuant to the rules
and regulations of the Securities and Exchange Commission (SEC). These
statements should be read in conjunction with the Company's December 31, 1997
audited and pro forma financial statements and notes thereto included in the
Company's Form 10-K filed March 26, 1998. In the opinion of management, these
interim consolidated financial statements reflect all adjustments (consisting
of normal recurring adjustments) necessary for a fair presentation of the
consolidated financial position and results of operations for each of the
periods presented. The results of operations and cash flows for such periods
are not necessarily indicative of results to be expected for the full year.
Principles of Consolidation
The consolidated financial statements include the accounts of 99 Cents
Only Stores and its subsidiaries, Universal International, Inc. and Odd's-N-
End's Inc., from the date of acquisition, September 16, 1998 (see note 5
below). All significant inter-company accounts and transactions have been
eliminated in consolidation.
Concentration of Operations in Southern California
All of the Company's 99 Cents Only Stores are located in Southern
California. In addition, the Company's current retail expansion plans for the
99 Cents Only Stores anticipates that planned new stores will be located in
this geographic region. Consequently, the Company's results of operations and
financial condition are substantially dependent upon general economic trends
and various environmental factors in Southern California.
Through its subsidiary, Universal International, Inc. the Company
operates an additional 74 Only Deals and Odd's-N-End's multi price discount
stores located in the upper Midwest, New York and Texas (see Note 5 below).
2. Statements of Cash Flow
The Company prepares its statements of cash flows using the indirect
method as prescribed by the Statement of Financial Accounting Standards No.
95. The Company considers all investments with original maturities of three
months or less to be cash equivalents. Cash payments for income taxes were
$10,635,000 and $8,940,000 for the nine months ended September 30, 1998 and
1997 respectively. Interest payments for the nine months ended September 30,
1998 were $107,000 and $142,000 in 1997.
3. Earnings Per Common Share
Earnings per share calculations are in accordance with SFAS No. 128,
"Earnings per Share" (SFAS 128). Accordingly, "basic earnings per share" is
computed by dividing net income by the weighted average number of shares
outstanding for the year. "Diluted" earnings per share is computed by
dividing net income by the total of the weighted average number of shares
outstanding plus the dilutive effect of outstanding stock options (applying
the treasury stock method). Earnings per share amounts for 1997 have been
restated to reflect the adoption of SFAS No. 128.
A reconciliation of the basic weighted average number of shares
outstanding and the diluted weighted average number of shares outstanding for
each of the three and nine months periods ended September 30, follows
(amounts in thousands):
Three Months Nine Months
Ended Ended
September, 30 September, 30
(Unaudited)
-----------
1998 1997 1998 1997
----- ----- ----- -----
Weighted average number of common shares
outstanding-Basic....................... 19,544 18,532 19,041 18,524
Dilutive effect of outstanding stock
options................................. 408 542 417 300
------ ------ ------ ------
Weighted average number of common shares
outstanding-Diluted..................... 19,952 19,074 19,458 18,824
====== ====== ====== ======
4. New Authoritative Pronouncements
In fiscal year 1998, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income" (SFAS 130) and will adopt SFAS No. 131, "Disclosure
about Segments of an Enterprise and Related Information" (SFAS 131) in its
fourth quarter. The adoption of SFAS 130 did not have a material impact on
Company's financial statement. The adoption of SFAS 131 is primarily
additional disclosure information and will not affect the Company's financial
position or results of operation.
5. Acquisition of Universal International, Inc.
In November 1997, the Company acquired approximately 48% of the
outstanding common stock of Universal International, Inc. ("Universal") for
$4 million in cash and inventory. This initial investment in Universal was
accounted for using the equity method of accounting. The investment was
increased (reduced) by a credit (charge) to income for 48% of the Universal
income (loss) through September 16, 1998. On September 16, 1998 the Company
completed its tender offer for the remaining shares of Universal and as a
result, the Company now owns approximately 94 percent of Universal. The
results of operations from the day after the acquisition, September 17, 1998,
through September 30, 1998, have been consolidated in the accompanying
financial statements. Summary information relating to the results of
operations and the financial condition of Universal for fiscal 1997 and for
the first nine months of 1998 and 1997 are as follows (amounts in thousands):
September 30, September 30, December 31,
1998 1997 1997
----- ----- -----
(Unaudited)
-----------
Sales................ $49,220 $41,760 $68,705
Net loss............. (3,827) (10,971) (11,887)
Total assets......... 38,402 35,009 31,388
Shareholders' equity. 4,915 5,517 8,601
On September 16, 1998, the Company reported its exchange offer to
purchase all of the shares of the outstanding common stock of Universal had
been completed. The Company acquired an additional 46% of the outstanding
common stock of Universal in exchange for 269,589 shares of 99 Cents Only
Stores common stock. The Company now owns approximately 94% of the
outstanding shares of Universal's common stock. In addition the Company
completed a merger with Odd's-N-End's Inc. on September 30, 1998. The Company
paid $0.30 per share or $843,243 for all of the remaining outstanding shares
of Odd's-N-End's common stock. Included in 99 Cents Only Stores' results of
operations for the nine months ended September 30, 1998 is a $1.3 million
charge representing the Company's 48% share of the Universal loss for the
period from January 1, 1998 through September 16, 1998. Universal's results
of operations, including the results of Odd's-N-End's, from September 17,
1998 through September 30, 1998 are consolidated with that of the Company.
During the period from the purchase of 48% of the Universal common stock in
November 1997 to September 16, 1998, the Company made $14.0 million in
advances to Universal. This amount was eliminated in consolidation at
September 30, 1998. Also during September the Company retired Universal's
secured revolving note payable of approximately $12.5 million. Goodwill
associated with the acquisition of Universal is being amortized over a 30-
year period.
6. Short-Term Investments
Investments in debt and equity securities are recorded as required by
SFAS No. 115, "Accounting for Certain Investments in Debt and Equity
Securities." The Company's investments are comprised primarily of investment
grade federal and municipal bonds and commercial paper, primarily with short-
term maturities. The Company generally holds investments until maturity and
has not experienced any significant gain or loss from sales of its
investments. Any premium or discount recognized in connection with the
purchase of an investment is amortized over the term of the investment.
Certain long-term investments in marketable securities at December 31, 1997
have been reclassified to conform to the presentation at September 30, 1998.
As of September 30, 1998 and December 31, 1997, the fair value of investments
approximated the carrying values and were invested as follows (amounts in
thousands):
(Unaudited)
----------
Maturity Maturity
-------- --------
Sept. 30, Within 1 1 to 2 Dec. 31, Within 1 1 to 2
1998 year years 1997 year years
--------- ------ ----- --------- ------ -----
Federal Bonds $ 1,500 $ - $ 1,500 $ 1,500 $ - $1,500
Municipal Bonds 15,671 11,957 3,714 18,583 13,690 4,893
Commercial Paper 24,857 24,857 - 12,501 12,501 -
------- ------- ------- ------- ------- ------
-
$42,028 $36,814 $5,214 $32,584 $26,191 $6,393
7. Stock Split
On October 26, 1998 the Company announced a five-for-four split on its common
stock, payable November 12, 1998, to shareholders of record on November 5,
1998. The five-for-four split has not been reflected in the above share
information or the earnings per share data as of September 30, 1998.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
General
The Company has been engaged since 1976 in the purchase and sale of
name-brand, close-out and regularly available general merchandise. Since that
time, the Company has sold its merchandise on a wholesale basis through its
Bargain Wholesale division. On August 13, 1982, the Company opened its first
99 Cents Only Stores location and as of September 30, 1998, operates a chain
of 60 single price-point, deep-discount 99 Cents Only Stores. The Company's
growth during the last three years has come primarily from new store openings
and growth in its Bargain Wholesale division. The Company opened ten stores
in 1997. The Company opened nine stores (including two relocations) in the
first nine months of 1998 and plans to open an additional 4 stores during the
last three months of 1998. The Company has secured sites for all of these
additional store locations.
In September 1998 the Company completed its acquisition of Universal
International, Inc. Through its Universal subsidiary the Company operates 74
Only Deals and Odd's-N-End's multi price discount stores located in Minnesota
and the surrounding upper Midwest, upstate New York and Texas.
Bargain Wholesale's business is focused on medium size to large domestic
and international accounts. The Company generally realizes a lower gross
profit margin on Bargain Wholesale's net sales compared to 99 Cents Only
Stores net sales. However, Bargain Wholesale complements the Company's retail
operations by allowing the Company to purchase in larger volumes at more
favorable pricing and to generate additional net sales with relatively small
incremental increases in operating expenses.
Same stores net sales increased 1.5% for the year ended December 31,
1997 and increased 1.5% and 5.8% in the first and second quarter of 1998.
During the third quarter ended September 30, 1998 comparable store sales
increased 4.2% compared to 1.5% in the third quarter of 1997. Management
believes this improvement primarily resulted from the effect of the
introduction of the frozen and deli product category to the stores.
In the past, as part of its strategy to expand retail operations, the
Company has at times opened larger new stores in close proximity to existing
stores where the Company determined that the trade area could support a
larger facility. In some of these situations, the Company retained its
existing store as long as it continued to contribute store-level operating
income. While this strategy was designed to increase revenues and store-level
operating income, it has had a negative impact on comparable store net sales
as some customers migrated from the existing store to the larger new store.
The Company believes that this strategy has impacted its historical
comparable sales growth.
For the year ended December 31, 1997, average net sales per estimated
saleable square foot was $354 per square foot. As the Company targets larger
locations for new store development it is expected that the sales per square
foot will be negatively impacted. Existing stores average approximately
15,000 gross square feet. Since January 1, 1995, the Company has opened 26
new stores (including two relocations in 1995, one in 1996 and two in 1998)
that average over 19,000 gross square feet. The Company currently targets new
store locations between 15,000 and 25,000 gross square feet. Although it is
the Company's experience that larger stores generally have lower average net
sales per square foot than smaller stores, larger stores generally achieve
higher average annual store revenues and operating income. 99 Cents Only
Stores increased its net sales, operating income and net income in the first
nine months of 1998. During this period in 1998 the Company had net sales of
$212.6 million, operating income of $28.3 million and net income of $16.6
million, representing a 30.0%, 33.8% and 30.0% increase over the same period
in 1997, respectively.
Three Months Ended September 30, 1998 Compared to three Months Ended
September 30, 1997
NET SALES: Net sales increased $19.0 million, or 32.2%, to $78.0 million in
the 1998 period from $59.0 million in the 1997 period. 99 Cents Only Stores
retail net sales increased approximately $12.2 million, or 25.9%, to $59.1
million in the 1998 period from $47.0 million in the 1997 period, and Bargain
Wholesale net sales increased $4.4 million, to $16.4 million in the 1998
period from $12.0 million in the 1997 period. The increase in 99 Cents Only
Stores net sales was attributable to the net effect of seven new stores
opened in 1998, the full quarter effect of 10 new stores opened in 1997, and
a 4.2% increase in comparable same store sales in the quarter ended September
30, 1998. Comparable store sales improved with the introduction of frozen and
deli products in the stores during 1997. Included in the Bargain Wholesale
net sales were $7.0 million of sales, billed at cost, to Universal
International, Inc. Wholesale sales to non affiliates were affected
negatively by a reduction in sales to exporters. Also included in sales were
$2.5 million of sales from Universal, which represented sales from September
17, 1998 through September 30, 1998.
GROSS PROFIT: Gross profit increased approximately $6.9 million, or 32.6%, to
$28.1 million in the 1998 period from $21.2 million in the 1997 period. The
increase in gross profit was due to higher volume of retail net sales. The
gross profit margin was 36.0% in 1998 compared to 35.9% in 1997. The 0.1%
point increase in the gross profit margin is due to the effect of $0.8
million of proceeds from business interruption insurance included in gross
margin offset by the effect of the Universal shipments billed at cost.
SELLING, GENERAL AND ADMINISTRATIVE: SG&A increased by $4.6 million, or
34.2%, to $17.9 million in the 1998 quarterly period from $13.3 million in
the 1997 period. This was primarily due to increased costs associated with
new store growth and the consolidation of $1.1 million of Universal expenses
from September 17, 1998 to September 30, 1998. As a percentage of net sales,
SG&A increased slightly to 22.9% from 22.6%. The expense increase as a
percentage of net sales was primarily due to the effect of the Universal
operating expenses. The total spending for SG&A was affected by minimum wage
increases in California, which increased to $5.75 per hour in March 1998.
Legislation has been introduced in California to further increase the minimum
wage from $5.75 to $6.75 per hour effective January 1999.
OPERATING INCOME: As a result of the items discussed above, operating income
increased $2.4 million, or 29.8%, to $10.2 million in 1998 from $7.9 million
in 1997. Operating margin was 13.1% in 1998 and 13.4% in 1997. The margin was
affected by the variation in the SG&A percentage and the effect of the
Universal expenses. Universal operating expenses were approximately equal to
their gross margin for the period included. The seasonal aspects of
Universal's business had a negative impact on the interim operating margin
percentage.
INTEREST INCOME (EXPENSE): Interest income (expense) relates to interest on
the Company's capitalized warehouse lease, net of interest earned on the
Company's cash balances and short-term and long-term investments, as well as
the interest paid by Universal on its revolving line of credit. This
revolving line of credit was retired in September 1998. The change in
interest expense between 1998 and 1997 was due to interest earned on the
marketable securities. The Company's investments are comprised primarily of
investment grade federal and municipal bonds and commercial paper, primarily
with various maturities. The Company generally holds investments until
maturity and has not experienced any significant gain or loss from sales of
its investments. Any premium or discount recognized in connection with the
purchase of an investment is amortized over the term of the investment.
During 1998 and 1997, the Company had no bank debt.
LOSS FROM MINORITY INTEREST: The Company owned a 48% interest in Universal
International, Inc. until September 16, 1998. After that date, and due to the
acquisition of 94% of all outstanding Universal shares, results of
Universal's operations were consolidated with the Company's. The Company's
minority share of the Universal loss from operations for the quarter ended
September 30, 1998 was $98,000. No tax benefit is applied to this loss.
Universal has tax loss carry-forwards of approximately $17.7 million as of
September 30, 1998.
PROVISION FOR INCOME TAXES: The provision for income taxes for the three
months ended June 30, 1998, was $3.9 million in 1998 compared to $3.3 million
in 1997. The effective rates of the provision for income taxes, exclusive of
the Company's loss from minority interest, were approximately 36.4% in 1998
and 41.3% in 1997. The change in the effective rate in 1998 from 1997 results
from the benefit of available Los Angeles Revitalization Zone tax credit
carry forwards and non taxable interest on marketable securities. The
Company's loss on investment in minority interest is recorded net of
effective tax.
NET INCOME: As a result of the items discussed above, net income increased
$2.0 million, or 41.3% to $6.7 million in 1998 from $4.8 million in the 1997
period. Net income as a percentage of sales was 8.6% in 1998 and was 8.1% in
1997.
Nine Months Ended September 30, 1998 Compared to Nine Months Ended September
30, 1997
NET SALES: Net sales increased $49.1 million, or 30.0%, to $212.6 million in
the 1998 period from $163.5 million in the 1997 period. 99 Cents Only Stores
net sales increased approximately $38.6 million, or 30.0%, to $167.3 million
in the 1998 period from $128.7 million in the 1997 period. Bargain Wholesale
net sales increased $8.0 million, to $42.8 million in the 1998 period from
$34.8 million in the 1997 period. The increase in 99 Cents Only Stores net
sales, was attributable to the net effect of seven new larger stores opened
and the closure of two smaller stores, the full nine month effect of 10 new
stores opened in 1997, and a 3.9% increase in the nine month comparable same
store sales in 1998. Comparable store sales improved the introduction of
frozen and deli products in the stores during 1997. Included in the Bargain
Wholesale net sales were $12.0 million of sales, billed at cost, to Universal
International, Inc. Wholesale sales to non affiliates were affected
negatively by a reduction in sales to exporters. Also included in sales were
$2.5 million of sales from Universal, which represented sales from September
17, 1998 through September 30, 1998.
GROSS PROFIT: Gross profit for the nine months increased approximately $18.5
million, or 32.0%, to $76.5 million in the 1998 period from $57.9 million in
the 1997 period. The increase in gross profit was due to higher net retail
sales and an increase in the gross profit margin to 36.0% in the 1998 period
from 35.4% in the 1997 period. The 0.6% increase in the gross profit margin
is due to a higher proportion of retail net sales, which typically have a
higher gross margin than wholesale sales, merchandise cost factors and the
effect of the $0.8 million of proceeds from business interruption insurance.
SELLING, GENERAL AND ADMINISTRATIVE: SG&A for the nine months increased by
$11.4 million, or 31.0%, to $48.2 million in 1998 period from $36.8 million
in 1997 period. This was primarily due to increased costs associated with new
store growth and the consolidation of $1.1 million of Universal expenses from
September 17, to September 30, 1998. As a percentage of net sales, SG&A were
22.7% in 1998 and 22.5% in 1997. The total spending for SG&A was affected by
minimum wage increases in California, which increased to $5.75 per hour in
March 1998. Legislation has been introduced in California to further increase
the minimum wage from $5.75 to $6.75 per hour effective January 1999.
OPERATING INCOME: As a result of the items discussed above, operating income
increased $7.1 million, or 33.8%, to $28.3 million in 1998 from $21.1 million
in 1997. The operating margin increased to 13.3% in 1998 from 12.9% in 1997.
INTEREST INCOME (EXPENSE): Interest income (expense) relates to interest on
the Company's capitalized warehouse lease, net of interest earned on the
Company's cash balances and short-term and long-term investments. The change
in interest expense between 1998 and 1997 was due to interest earned on the
marketable securities. The Company's investments are comprised primarily of
investment grade federal and municipal bonds and commercial paper, primarily
with various maturities. The Company generally holds investments until
maturity and has not experienced any significant gain or loss from sales of
its investments. Any premium or discount recognized in connection with the
purchase of an investment is amortized over the term of the investment.
During 1998 and 1997, the Company had no bank debt.
LOSS FROM MINORITY INTEREST: The Company owned a 48% interest in Universal
International, Inc. until September 16, 1998. After that date, and due to the
acquisition of 94% of all outstanding Universal shares, results of
Universal's operations were consolidated with the Company's. The Company's
minority share of the Universal loss from operations for the nine months
ended September 30, 1998 was $1.3 million. No tax benefit is applied to this
loss. Universal has tax loss carry-forwards of approximately $17.7 million as
of September 30, 1998.
PROVISION FOR INCOME TAXES: The provision for income taxes for the nine
months ended September, 1998, was $11.4 million in 1998 compared to $8.8
million in 1997. The effective rates for the provision for income taxes,
exclusive of the Company's loss from minority interest, was approximately
38.8% in 1998 and 40.8% in 1997. The change in the effective rate in 1998
from 1997 results from the benefit of available Los Angeles Revitalization
Zone tax credits and non taxable interest on marketable securities. The
Company's loss on investment in minority interest is recorded net of
effective tax.
NET INCOME: As a result of the items discussed above, net income increased
$3.8 million, or 30.0% to $16.6 million in 1998 from $12.8 million in the
1997 period. Net income as a percentage of sales were 7.8% in 1998 and 7.8%
in 1997.
Recent Developments
In November 1997 the Company acquired common stock of Universal equal to
48% of the outstanding common stock. On September 16, 1998, the Company
acquired an additional 4.3 million shares or approximately 46% and now owns
94% of the outstanding Common Stock of Universal. Pursuant to the exchange
offer, the Company exchanged one share of its common stock for every 16
outstanding shares of Universal plus the associated common share purchase
rights. The offer closed on September 16, 1998. In addition the Company's
merger with Odd's-N-End's Inc. ("Odd's-N-End's") was complete on September
30, 1998. Together, these two companies operate 43 retail stores in Minnesota
and the surrounding upper Midwest region, nine retail stores in Texas and 22
retail stores in upper New York State. The Company issued shareholders of
Universal a maximum 269,589 shares of the Company's Common Stock and paid
$843,243 to holders of Odd's-N-End's common stock approximately.
Prior to September 16, 1998 the Company's ownership interest in
Universal was accounted for using the equity method. The impact of the
inclusion of Universal in the Company's financial statements for the nine
months ended September 30, 1998 was a charge of $1.3 million. As of September
30, 1998, the Company has consolidated the results of operations of Universal
with those of the Company for the period from September 17, 1998 to September
30, 1998. Historically, Universal's financial statements were consolidated
with Odd's-N-End's financial statements. The Company recorded approximately
$8.9 million in goodwill on its balance sheet, which will be amortized over
30 years and will result in increased amortization expense in future periods.
Universal's business is seasonal. Historically, all of its earnings have been
generated in the fourth quarter, and it has incurred losses during the first
three quarters of the calendar year. In conjunction with the acquisition of
Universal the Company retired Universal's revolving credit line which totaled
approximately $12.5 million. The Company continues to support Universal by
providing trade credit and other advances. Such amounts are provided from the
Company's ongoing cash flows from operations and its existing working
capital.
LIQUIDITY AND CAPITAL RESOURCES
The Company has funded its operations principally from cash provided by
operations, and has not generally relied upon external sources of financing.
The Company's capital requirements result primarily from purchases of
inventory, expenditures related to store openings and the working capital
requirements for new and existing stores. The Company takes advantage of
close-out and other special situation opportunities which frequently results
in large volume purchases, and as a consequence, its cash requirements are
not constant or predictable during the year and can be affected by the timing
and size of its purchases.
The Company maintains cash and short and long-term investments with highly
qualified financial institutions. The Company's investments are comprised
primarily of investment grade federal and municipal bonds and commercial
paper, primarily with short and long-term maturities. The Company generally
holds investments until maturity and has not experienced any significant gain
or loss from sales of its investments. At various times such amounts may be
in excess of insured limits. As of September 30, 1998 the Company owned the
land and buildings for four of its current retail store locations and one
future store location. The Company may purchase other locations in the
future. Available cash not immediately needed for such purposes has been
invested in short-term investments grade securities.
During the nine month period ended September 30, 1998 and 1997, net cash
provided by operations was $14.5 million and $10.8 million respectively.
Inventories increased $5.9 million in 1998 as compared to an increase of $2.1
million in 1997. Receivables increased $0.8 million, in 1998 and $1.0 in 1997
respectively. Also in 1998 the Company's receivable from Universal decreased
$0.2 million. Accounts payable increased $3.4 million in 1998 and decreased
$0.1 million in 1997. Accrued expenses decreased $0.8 million in 1998 and 0.6
million in 1997. Current income taxes payable decreased $0.2 million in both
1998 and 1997. In April 1998 the Company issued 750,000 shares of its common
stock in a secondary public offering and received net proceeds $27.3 million.
Proceeds were temporarily reinvested in marketable securities and
approximately $12.5 was used to retire Universal debt in September 1998 after
the conclusion of the acquisition. Remaining amounts are being used for on
going working capital needs. Expenditures for property and equipment were
$8.4 million for the nine-month period in 1998 and $7.8 million in 1997. The
Net cash used in financing activities, included $2.2 million of proceeds from
the exercise of stock options in 1998 and $0.8 million to acquire the
remaining 46% of the Odd's-N-End's shares not owned by Universal. The Company
also made payments of $0.5 million on the capitalized warehouse lease. The
Company has no bank debt.
The Company leases its 880,000 square foot single level warehouse and
distribution facility under a lease accounted for as a capital lease. The
lease requires monthly payments of $70,000 and accrues interest at an annual
rate of 7.0%. At the lease expiration in December 2000, the Company has the
option to purchase the facility for $10.5 million. The Company currently
intends to exercise the option at the end of the lease. If the Company does
not exercise the purchase option, the Company will be subject to a $7.6
million penalty.
The Company plans to open new stores at a targeted annual rate of 20%. The
average investment per new store opened in 1996, including leasehold
improvements, furniture, fixtures and equipment, inventory and pre-opening
expenses, was approximately $650,000. Pre-opening expenses are not
capitalized by the Company. The Company's cash needs for new store openings
are expected to total approximately $9.0 million in each of 1998 and 1999.
The Company's total planned expenditures in each of 1998 and 1999 for
additions to fixtures and leasehold improvements of existing stores are
approximately $600,000. The Company believes that its total capital
expenditure requirements (including new store openings) will increase to
approximately $11.4 million and $11.6 million in 1998 and 1999, respectively.
Capital expenditures in 1998 and 1999 are currently expected to be incurred
primarily for new store openings, improvements to existing stores and system
and general corporate infrastructure. The Company believes that cash flow
from operations and the April 30, 1998 secondary stock offering, will be
sufficient to meet operating needs, capital spending requirements.
The Company has made in this Form 10-Q forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933 and Section 21E of
The Securities and Exchange Act of 1934, concerning the Company's operations,
expansion plans, economic performance, financial condition, the recently
consummated of Universal and Odd's-N-End's and their effect on the Company's
results of operations, store openings, purchasing abilities, sales per square
foot and comparable store net sales trends and capital requirements. Such
forward-looking statements may be identified by the use of words such as
"believe", "anticipate," "intend" and "expect". Such forward-looking
statements are subject to various risks and uncertainties, certain of which
are beyond the Company's control. Actual results could differ materially from
those currently anticipated due to a number of factors, including certain
risk factors. Some of those factors include (i) the Company's ability to open
new stores on a timely basis and operate them profitably, (ii) the Company's
ability to integrate Universal and Odd's-N-End's, achieve anticipated
operating synergies and to operate their stores at multiple price points and
in different geographic locations, (iii) the orderly operation of the
Company's receiving and distribution process, (iv) inflation, consumer
confidence and other general economic factors, (v) the availability of
adequate inventory at favorable prices and capital resources, (vi) the risk
of a disruption in sales volume in the fourth quarter and other seasonal
factors (vii) dependence on key personnel and control of the Company by
existing shareholders and (viii) increased competition from new entrants into
the deep-discount retail industry. The Company does not ordinarily make
projections of its future operating results and undertakes no obligation to
publicly update or revise any forward-looking statements, whether as a result
of new information, future events or otherwise.
Year 2000
General
The Year 2000 issue relates to the problems associated with many computer
systems (including computer chips and software) not being designed to use
dates for the Year 2000 and thereafter. Many of these systems internally
record only the last two digits for the year of dates, and will not correctly
distinguish between different years ending with the same two digits (the
years 2000 and 1900 would be recorded identically). Others of these systems
will not be able to accept, print, or display dates greater than 12/31/1999.
While others may cease to function ("crash"), produce miscalculations or
produce other undesired results in connection with such dates. The Year 2000
issues are a concern to the Company due to potential impacts on the Company's
systems and additionally a concern for the potential impact to the systems of
other entities (vendors, service providers, utility providers,
transportation, banks, etc.) that provide products and services to the
Company.
Although the Company believes that the Year 2000 issue will not pose
significant internal operational problems for the Company, if all Year 2000
issues are not properly identified, or assessment, remediation and testing
are not done, in a timely manner, with respect to the potential problems that
are identified, there can be no assurance that the Year 2000 issue will not
have a material adverse impact on the Company's results of operations
including, among other things, a temporary inability to process credit sales
transactions, record inventory transactions and engage in similar normal
business activities. Additionally, there is no assurance that the Year 2000
issues of other entities will not have a material adverse impact on the
Company's systems or operations.
Year 2000 Status
General phases of the project include (1) cataloging Year 2000 issues; (2)
assigning priorities and materiality of the issues to the Company; (3)
implementing and testing the necessary modifications and replacements, and
(4) contingency planning.
The Company's use of computer systems consists of five major areas (1)
operating systems; (2) purchased standard software applications; (3)
internally developed software applications; (4) third party suppliers and
agents; and (5) embedded chips. Application software concerns include both
the conversion of software that is not Year 2000 compliant and or replacement
of software where applicable.
The Company's primary computer systems consist of standard accounting and
financial reporting packages utilizing a PC-based local area network and a
packaged inventory control system, customized for the Company's needs,
processed by a Hewlett Packard RISC-based system. Based on a preliminary
review of the hardware, system software, and application software comprising
these primary systems, the Company believes that, with some corrective
measures, these primary systems will not be materially impacted by Year 2000
issues.
Third party suppliers include merchandise vendors, outside payroll
processing, freight companies, banks, brokerage firms which hold the
company's securities in street names as well as the underlying institutions
issuing the securities, customer credit card and ATM authorization firms,
stock transfer agent, security alarm, fire prevention, phone services,
insurance companies, energy and other utility suppliers and various local,
state and federal governmental regulatory agencies.
99 Cents Only Stores year 2000 Project is proceeding substantially on
schedule. The Company has undertaken its year 2000 project internally and
has developed a plan to make the Company's business computer systems Year
2000 compliant. The Company is completing the assessment as to its critical
systems. The Company believes the risks associated with internal systems are
minimal. The customized internal modifications are behind schedule, and will
be complete in the last quarter of 1999.
Many of the Company's third party suppliers have been surveyed and identified
as to those having a direct interface level. Letters and questionnaires are
in the process of being sent to all critical entities with which the Company
does business to assess their Year 2000 readiness. The Company anticipates
that these activities will be on going for the remainder of 1998 and all of
1999 and will include follow up telephone interviews and on site meetings.
The Company is not currently aware of any single vendor or other third party
that may have a material impact on the Company. The Company can provide no
assurance that Year 2000 compliance will be successfully completed by its
third party suppliers in a timely manner.
Cost
The total cost associated with required modifications to become Year 2000
compliant is not expected to be material to the Company's financial position.
The estimated total cost of the Year 2000 compliance work has not been
established, but is not expected to be material.
Contingency Plan
The Company has not yet begun a comprehensive analysis for the operational
problems and costs (including loss of revenue) that would be reasonably
likely to result from the failure by the Company and certain third parties to
complete efforts necessary to achieve Year 2000 compliance on a timely basis.
A contingency plan has not been developed for dealing with the most likely
worst case scenario as such a situation has not been clearly identified. The
Company believes that any failures of its internal systems to be Year 2000
compliant will not alone materially adversely affect the continuity of core
retail business or to receive and ship merchandise to its retail stores. The
Company does however plan to begin a contingency analysis and plan by March
1, 1999.
The Year 2000 compliance project is expected to reduce the level of
uncertainty about the effect of Year 2000 on the Company and in particular
about the preparedness of significant third party agents. The Company
believes that with the implementation and completion of the project,
significant interruptions of normal operations should be reduced. However,
if all Year 2000 issues are not properly identified, or assessment,
remediation and testing are not affected in a timely manner with respect to
problems that are identified, there can be no assurance that Year 2000 issue
will not have a material adverse impact on the Company results of operations
or adversely affect the Company's relationships with suppliers, customers or
other third parties. Additionally, there can be no assurance that the Year
2000 issues of other entities will not have a material adverse impact on the
Company's systems or results of operations.
Readers are cautioned that forward-looking statements contained in this Year
2000 disclosure should be read in conjunction with the Company's disclosures
under the heading, "Risk Factors" in the Company's Form 10-K for the year
ended December 31, 1997. Readers should understand that the dates on which
the Company believes the Year 2000 project will be completed are based upon
Management's best estimates, which were derived utilizing numerous
assumptions of future events, including the availability of certain
resources, third-party modifications plans and other factors. However, there
can be no guarantee that these estimates will be achieved, or that there will
not be a delay in, or increased costs associated with, the implementation of
the Company's Year 2000 compliance project. A delay in specific factors that
might cause differences between the estimates and actual results include, but
are not limited to, the availability and cost of personnel trained in these
areas, the ability to correct all relevant computer code, timely responses to
and corrections by third parties and suppliers, the ability to implement
interfaces between the new systems and the systems not being replaced, and
similar uncertainties. Due to the general uncertainty inherent in the Year
2000 problem, resulting in part from the uncertainty of the Year 2000
readiness of third parties and the inter-connection of national and
international businesses, the Company cannot ensure that its ability to
timely and cost effectively resolve problems associated with the Year 2000
issue may not affect its operations and business, or expose it to third party
liability.
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None
ITEM 2. CHANGES IN SECURITIES
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(A) EXHIBIT 27.01 Financial Data Schedule
SIGNATURE
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 thereto duly authorized.
99 CENTS ONLY STORES
Date: November 12, 1998 /s/ Andrew A. Farina
Andrew A. Farina
Chief Financial Officer
EXHIBIT 27.1
99 Cents Only Stores
Financial Data Schedule
<PERIOD TYPE> 3-mos
<FISCAL YEAR END> Dec. 31 1998
<PERIOD START> Jan. 01 1998
<PERIOD END> Sept. 30,1998
[CASH] 776
[SECURITIES] 36,814
[RECEIVABLES] 2,579
[ALLOWANCES] (164)
[INVENTORY] 77,213
<CURRENT ASSETS> 119,890
[PP&E] 56,128
[DEPRECIATION] (13,398)
<TOTAL ASSETS> 185,914
<CURRENT LIABILITIES> 19,492
[BONDS] 0
<PREFERRED MANDATORY> 0
[PREFERRED] 0
[COMMON] 107,515
<OTHER SE> 46,739 <FN1>
<TOTAL LIABILITY AND EQUITY> 154,254
[SALES] 212,599
<TOTAL REVENUE> 212,599
[CGS] 136,139
<TOTAL COSTS> 48,206
<OTHER EXPENSES> 1,334
<LOSS PROVISION> 0
<INTEREST EXPENSE> 1,099
<INCOME PRE TAX> 28,019
<INCOME TAX> 11,381
<INCOME CONTINUING> 16,638
[DISCONTINUED] 0
[EXTRAORDINARY] 0
[CHANGES] 0
<NET INCOME> 16,638
<EPS PRIMARY> 0.87
<EPS DILUTED> 0.86
<FN1> Retained Earnings