UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the fiscal year ended December 31, 1997
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the Transition period from _________ to _________.
Commission file number: 0-25790
CREATIVE COMPUTERS, INC.
(Exact name of Registrant as specified in its charter)
Delaware 95-4518700
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2555 West 190th Street, Torrance, California 90504
(Address of principal executive offices)(Zip Code)
Registrant's telephone number, including area code: (310) 354-5600
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Title of each class
-------------------
Common Stock, $.001 par value
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [_]
As of March 25, 1998, the aggregate market value of the Common Stock held
by non-affiliates of the Registrant was approximately $34 million. The number
of shares outstanding of the Registrant's Common Stock as of March 25, 1998 was
10,120,215.
Documents incorporated by reference into Part III: Portions of the
definitive Proxy Statement for the Registrant's 1998 Annual Meeting of
Stockholders are incorporated by reference into Part III hereof.
1
CREATIVE COMPUTERS, INC.
TABLE OF CONTENTS
Page
----
PART I
Item 1. Business.......................................................... 3
Item 2. Properties........................................................ 20
Item 3. Legal Proceedings................................................. 20
Item 4. Submission of Matters to a Vote of Security Holders............... 20
PART II
Item 5. Market for Registrant's Common Stock
and Related Stockholder Matters................................... 21
Item 6. Selected Financial Data........................................... 21
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations..................... 23
Item 8. Financial Statements and Supplementary Data....................... 28
Item 9. Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure............................ 28
PART III
Item 10. Directors and Executive Officers of the Registrant................ 29
Item 11. Executive Compensation............................................ 29
Item 12. Security Ownership of Certain Beneficial Owners and Management.... 29
Item 13. Certain Relationships and Related Transactions.................... 29
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K... 30
SIGNATURES ..................................................................... 31
2
PART I
ITEM 1. BUSINESS
GENERAL
Creative Computers, Inc. (the "Company") founded in 1987, is a direct
marketer of personal computer hardware, software and peripheral products. During
1997, the Company acquired and assimilated two marketers of personal computer
hardware and software products, Elek-Tek, Inc. and ComputAbility, Inc. In
November 1997, the Company formed a wholly-owned subsidiary, uBid, to sell
computer-related products and consumer electronics through an auction format on
the Internet. The Company offers products to individual consumers, home offices,
small businesses and large corporations through direct response catalogs,
dedicated inbound and outbound telemarketing sales executives, a direct sales
force, retail showrooms and advertising on the Internet. The Company offers a
broad selection of products through its distinctive full-color catalogs,
MacMall, PC Mall, DataCom Mall and ComputAbility and other promotional materials
and the Company's worldwide websites on the Internet. The Company's staff of
knowledgeable telemarketing sales executives, customer service and technical
support personnel work together to serve customers by assisting in product
selection and offering technical assistance. The Company believes that its high
level of customer service results in customer loyalty and repeat customer
orders.
During 1997, the Company operated four retail showrooms in Southern
California under the name Creative Computers and three retail showrooms in
Illinois and one retail showroom in Indiana under the name of Elek-Tek. During
February 1998, the Company closed its Indiana showroom. On March 20, 1998, the
Company closed six retail showrooms to focus its efforts on its catalog,
corporate and Internet channels. Net sales from the Company's retail showroom
operations were $67.6 million, $57.9 million and $67.8 million for the years
ended December 31, 1995, 1996 and 1997 representing 16.0%, 13.0% and 12.4% of
net sales, respectively. Income (loss) from operations for retail showroom
operations for the years ended December 31, 1995, 1996 and 1997 was $0.6
million, $(3.2) million and $(0.1) million, respectively. The Company expects to
incur a one-time restructuring charge during the first quarter of 1998 relating
to exit costs, asset write-offs, other charges and goodwill related to the
retail showroom closures.
STRATEGY
The Company's strategy is to be a leading high-volume, cost-effective direct
marketer of a broad range of personal computers, software and related products.
Specific elements of the Company's operating strategy include:
Focus on the Windows/Intel (WINTEL) Market. The Company launched its first
PC catalog, PC Mall, primarily for WINTEL customers, in May 1995. The Company
published seven editions of PC Mall with a total circulation of 11.1 million
copies in 1995 and thirteen editions with a circulation of 15.3 million copies
in 1996 and more than doubled its year-over-year WINTEL-based revenue. During
1997, the Company published fourteen editions of PC Mall with a circulation of
21.9 million copies and three editions of its ComputAbility catalog with a
circulation of 1.5 million copies during the third and fourth quarters,
resulting in a combined WINTEL catalog circulation increase of 53%. The
increased catalog circulation coupled with the Company's acquisitions of Elek-
Tek and ComputAbility caused its WINTEL revenue mix to exceed 50% for the first
time during the fourth quarter of 1997. WINTEL revenue for the year increased to
$221 million, a 116% increase over 1996.
During 1996 and 1997, the Company received additional authorizations to
resell major brand name products and is currently authorized or otherwise has
the ability to sell IBM, Compaq, Hewlett-Packard, NEC, Sony, Digital Equipment,
AST, Hitachi, Toshiba, Texas Instruments, Fujitsu and other name brand
computers. With these authorizations, the acquisitions of Elek-Tek and
ComputAbility and increased PC Mall and DataCom Mall sales, the Company has
become one of the leading catalog resellers of WINTEL products.
3
Continued Macintosh Marketshare Expansion. Throughout 1997, the Company
continued to be a leading direct marketer of Macintosh products offering the
full line of Apple and Apple-clone computers as well as related products. The
Company's sales of Mac-related products remained relatively stable, declining a
modest 5% to $325 million for 1997 from $343 million last year. The Company
plans to continue its efforts to expand its Macintosh marketshare. During
1997, the Company published fourteen editions of its MacMall catalog with a
circulation of 36.0 million copies, a 19% increase over last year's 30.3 million
circulation and a 32% increase over the 27.3 million copies circulated in 1995.
Database Marketing Growth. The Company has compiled a proprietary mailing
list of over 4 million names of previous and potential customers and has added
to the database through the acquisitions of Elek-Tek and ComputAbility. The
database is continually analyzed to target customer types and increase response
and purchase rates. The Company's response rate (calculated by dividing the
number of orders generated by the number of catalogs distributed) for its
proprietary mailing list during 1997 was higher than its response rate with
respect to the use of third party mailing lists.
Expansion into Outbound Telemarketing. In the fourth quarter of 1996, the
Company established a dedicated outbound telemarketing group. Throughout 1997,
the Company dedicated greater resources to outbound telemarketing, increasing
its sales force of highly trained people. The focus of this team is on the
relatively under-serviced small and mid-sized business market. The Company
believes that this market represents the highest growth potential. In 1998, the
Company plans to expand its outbound telemarketing.
Increased Relationship-Based Selling. The Company's sales executives are
highly trained in relationship building with their customers and are
continuously coached to offer higher levels of service. The 1997 acquisition of
Elek-Tek with its corporate sales force reinforced the Company's commitment to
relationship-based selling. The sales executive is trained and empowered to
handle all customer needs including customer service and returns-related
issues. Additionally, sales executives bring other expertise to bear as needed
from within the Company including Novell-trained Certified Network Engineers
(CNE), Microsoft Windows NT specialists and Apple-certified technicians.
Focus on the Internet Market. The Company continued to expand its electronic
commerce presence throughout 1997 by introducing uBid, an Internet auction
website, and Electronic Software Distribution (ESD) to compliment its
pcmall.com, datacommall.com and macmall.com websites. On February 17, 1998, the
Company signed an agreement with American Online (AOL), the world's leading
Internet online service, to give AOL's more than 11 million members a direct
link to the Company's PC Mall website and uBid Internet online auction website
through the AOL Shopping Channel.
4
In November 1997, the Company formed uBid, a wholly-owned subsidiary, to sell
computers, computer-related products and consumer electronics through an auction
format on the Internet. When visiting the uBid website, shoppers review an item
or group of items and offer bids, driving the price toward a true market value.
During the auction, bidders are notified via e-mail when they are outbid by a
competing shopper. Customers can increase their bid by simply replying to the
e-mail or by returning to the fast-paced action at the uBid website. When the
auction closes, the highest bidders win the merchandise at the price they bid
for it.
MARKETING AND SALES
The Company's various marketing programs are designed to attract new customers
and to stimulate additional purchases by previous customers. The Company
continuously attracts new customers by selectively mailing catalogs to
prospective customers as well as through advertising on the Internet and in
major user magazines, such as PC World, PC Magazine, Computer Shopper and
MacWorld. In addition, the Company obtains the names of prospective customers
through the use of selected mailing lists acquired from various sources,
including manufacturers, suppliers and computer magazine publishers.
The Company sells its products to individual consumers, home offices, small
businesses and large corporations. During 1997, the Company shipped
approximately 1,026,000 mail order/catalog orders with an average order size of
$466. The Company distributes its catalogs throughout the United States.
Catalog. The Company published fourteen editions of its PC Mall catalog
during 1997 and distributed approximately 21.9 million catalogs. PC Mall
customers receive a catalog several times a year depending on purchasing
history. In addition, the Company includes a catalog with every order shipped,
as well as special promotional flyers and manufacturers' product brochures.
In January 1996, the Company introduced a new catalog, DataCom Mall, featuring
networking and data communications related hardware and software products. The
catalog is targeted at LAN, MIS and Database managers located at small to medium
sized businesses. During 1997, the Company published eight editions of its
DataCom Mall catalog with a total circulation of 2.9 million copies.
The Company published fourteen editions of MacMall in 1997 and distributed
approximately 36.0 million catalogs. Active MacMall customers receive a catalog
several times a year depending upon purchasing history and the Company includes
a catalog with every order shipped, as well as special promotional flyers and
manufacturers' product brochures.
The Company creates its MacMall, PC Mall, DataCom Mall and ComputAbility
catalogs in-house with its own design team and production artists using a
computer-based desktop publishing system. The in-house preparation of the
catalogs streamlines the production process, provides greater flexibility and
creativity in catalog production, and results in significant cost savings over
outside production.
5
The Internet. The Company offers a worldwide website on the Internet that can
be accessed via its four catalog names, www.pcmall.com, www.datacommall.com,
www.macmall.com and www.computability.com. During 1997, the Company expanded its
Internet retail offerings by launching uBid, an Internet site that sells
computer and other electronic products through an auction format and Electronic
Software Distribution (ESD), a technology that enables customers to immediately
download software from the Company's PC Mall website on the Internet. On
February 17, 1998, the Company signed an agreement with America Online (AOL),
the world's leading Internet online service, to give AOL's more than 11 million
subscribers a direct link to its PC Mall website and uBid Internet online
auction website through the AOL Shopping Channel.
The Company offers many advanced Internet features such as on-line ordering,
access to inventory availability and a large product selection with detailed
product information. Sales generated through the Internet have grown rapidly
for the Company as it offers its customers a convenient means of shopping and
ordering its products. In addition, the Company's website also serves as
another source of new customers.
Inbound and Outbound Telemarketing. The Company believes that much of its
success has come from the quality and training of its telemarketing sales
executives. These sales executives are responsible for assisting customers in
purchasing decisions, answering product pricing and availability questions and
processing product orders. Telemarketing sales executives have the authority to
vary prices within specified parameters in order to meet prices of competitors.
In addition to product training, the sales executives are trained in systems and
networking solutions, sales techniques, phone etiquette and customer service.
Telemarketing sales executives attend frequent training sessions to stay up-to-
date on new products. The Company's toll-free order numbers are staffed by
sales executives 24 hours a day, seven days a week. Inbound and outbound
telemarketing sales executives are assisted by customer service and technical
support personnel.
The Company's phone and computer systems are used for order entry, customer
tracking and inventory management. The computer system maintains a database
listing previous customer purchases, which allows telemarketing sales executives
to make product suggestions that fit each customer's specific buying preferences
and to offer the latest upgrades for products previously purchased from the
Company.
Vendor Supported Marketing. The Company currently has a marketing team which
sells advertising space in the Company's catalogs to vendors according to a
published rate schedule. These ad sales generate revenues which offset a
substantial portion of the expense of publishing and distributing the catalogs.
The same marketing team develops marketing campaigns to maximize product sales.
National Off-Page Advertising. The Company continuously attracts new catalog
customers and generates orders through large multi-page color advertisements in
major publications such as PC World, PC Magazine, Computer Shopper and MacWorld.
During 1997, the Company purchased 348 pages of magazine advertising.
Corporate Sales. The specific needs of corporate buyers are fulfilled through
a combination of inbound and outbound full-time sales personnel as well as a
direct sales force in California, Colorado, Illinois, Indiana and Kansas. The
Company's sales staff builds long-term relationships with corporate customers
through regular phone contact and personalized service. Corporate customers may
choose from several purchase or lease options for financing product purchases,
and the Company extends credit terms to certain corporate customers.
Customer Return Policy. The Company offers a 30-day return policy on a number
of its products. Returns are monitored to identify trends in product acceptance
and defects, to enhance customer satisfaction and to reduce overall returns.
6
PRODUCTS AND MERCHANDISING
The Company offers hardware, software, peripherals, components and accessories
for users of computer products. The Company screens new products and selects
products for inclusion in its catalogs based on features, quality, sales trends,
price, margins, cooperative/market development funds and warranties. The
Company offers its customers other value-added services, such as the ability to
purchase systems that have been specifically configured to meet the customer's
requirements and special on-site services in the states where it has a direct
sales force. Through frequent mailings of its catalogs, the Company is able to
quickly introduce new products and replace slower selling products with new
products.
Through its on-line auction site, uBid, the Company offers both computer-
related products and other consumer electronics in an auction format.
The following table sets forth the Company's net sales and percentage of net
sales by major product category for the periods presented.
Year Ended December 31,
(in millions of dollars)
1995 % 1996 % 1997 %
---- ----- ---- ---- ---- ----
Computer systems............ $173.0 41.1% $166.9 37.5% $231.1 42.3%
Peripherals, components
and accessories.......... 193.2 45.9 227.8 51.2 247.9 45.4
Software.................... 46.7 11.1 45.4 10.2 60.9 11.2
Other (1)................... 8.0 1.9 4.9 1.1 6.2 1.1
------ ----- ------ ----- ------ -----
Total.................. $420.9 100.0% $445.0 100.0% $546.1 100.0%
====== ===== ====== ===== ====== =====
(1) Other consists primarily of other electronic products, income from labor
charges and sales of extended warranties.
Computer Systems. In connection with the Company's expansion into the WINTEL
market, the Company has obtained catalog sales authorizations or otherwise has
the ability to sell WINTEL products from the major WINTEL-platform hardware
manufacturers, including IBM, Compaq, Hewlett-Packard, NEC, Sony, Digital
Equipment, AST, Hitachi, Toshiba, Texas Instruments, Fujitsu and others. The
Company is also authorized or otherwise has the ability to sell the full line of
Apple hardware.
Peripherals, Components and Accessories. The Company offers a large
selection of peripheral and component products from manufacturers such as Apple,
Hewlett-Packard, Sony, Epson, 3Com, US Robotics, IBM, Iomega and Compaq.
Peripherals and components include printers, modems, monitors, data storage
devices, add-on circuit boards, connectivity products and communications
products. The accessories offered by the Company include a broad range of
computer-related items and supplies such as diskettes, cables and connectors.
Software. The Company sells a wide variety of software packages in the
business and personal productivity, utility, language, educational and
entertainment categories, including word processing, spreadsheet and database
software. The Company offers a large number of software programs from
established vendors, such as Microsoft, Corel, Adobe, Symantec, Quark, Lotus,
Macromedia and Intuit as well as numerous specialty products from new and
emerging vendors. The Company also markets upgrades from certain vendors, such
as Symantec, Corel, Lotus and Microsoft, which the Company believes offer
incremental revenue opportunities.
7
PURCHASING AND INVENTORY
The Company believes that effective purchasing is a key element of its
business strategy to provide name brand computer products and related software
and peripherals at competitive prices. The Company believes that its high
volume of sales results in increased purchasing power with its primary
suppliers, resulting in volume discounts, favorable product return policies and
vendor promotional allowances. The Company purchases products from over 900
vendors. During 1995, 1996 and 1997, products manufactured by Apple represented
approximately 45.9%, 30.1% and 21.4% of net sales, respectively.
Most key vendors have agreements to provide market development funds to the
Company, whereby such vendors finance portions of the cost of catalog
publication and distribution based upon the amount of coverage given in the
catalogs for their products. Termination or interruption of the Company's
relationships with its vendors, or modification of the terms of or
discontinuance of the Company's agreements with its vendors, could adversely
affect the Company's operating results. The Company's success is, in part,
dependent upon the ability of its vendors to develop and market products that
meet the changing requirements of the marketplace. As is customary in the
industry, the Company has no long-term supply contracts with any of its vendors.
Substantially all of the Company's contracts with its vendors are terminable
upon 30 days' notice or less.
The Company attempts to manage its inventory position to generate the highest
levels of customer satisfaction possible while limiting inventory risk. The
Company believes that it has increased its ability to provide constrained
products, which it believes is an important competitive advantage; and the
Company invested in this strategy heavily during 1997. The Company's average
annual inventory turns were 10.5 times during 1995, 7.7 times in 1996 and 9.9
times in 1997. Inventory levels may vary from period to period, due in part to
increases or decreases in sales levels, the Company's practice of making large-
volume purchases when it deems the terms of such purchases to be attractive and
the addition of new manufacturers and products. The Company has negotiated
agreements with many of its vendors which contain price protection provisions
intended to reduce, in part, the Company's risk of loss due to manufacturer
price reductions. The Company currently has rights with respect to products
which it purchases from Apple, IBM, Compaq, Hewlett Packard and certain other
vendors; however, such rights vary by product line, have other conditions and
limitations and can be terminated at any time.
The market for personal computers, peripherals and software is characterized
by rapid technological change and a growing diversity of products. The
Company's success depends in large part on its ability to identify and obtain
the right to market products that will meet the changing requirements of the
marketplace and to obtain sufficient quantities of product to meet changing
demands. There can be no assurance that the Company will be able to identify
and offer products necessary to remain competitive or avoid losses related to
excess or obsolete inventory.
DISTRIBUTION
The Company operates a full-service 325,000 square foot distribution center in
Memphis, Tennessee. The centralized distribution operations, strategically
located near the Federal Express hub in Memphis, allow most orders of in-stock
product accepted by 11:00 p.m. Eastern Standard Time to be shipped for delivery
by 10:30 a.m. the following day via Federal Express. Upon request, orders may
also be shipped at a lower cost by United Parcel Ground Service and are shipped
on the same day if orders are accepted by 5:00 p.m. The Company also operates a
15,000 square foot warehouse at its ComputAbility headquarters in Milwaukee,
Wisconsin. This facility is dedicated to shipping ComputAbility orders.
When an order is entered into the system, a computer credit check or credit
card verification is performed and, if approved, the order is electronically
transmitted to the warehouse area and a packing slip is printed for order
fulfillment. All inventory items are bar coded and located in computer-
designated
8
areas which are easily identified on the packing slip. All orders are checked
with bar code scanners prior to final packing to ensure that each order is
packed correctly.
The Company believes that its existing distribution facilities are currently
adequate for its needs.
MANAGEMENT INFORMATION SYSTEMS
The Company has committed significant resources to the development of a
sophisticated computer system which is used to manage all aspects of its
business. The Company's computer system supports telemarketing, marketing,
purchasing, accounting, customer service, warehousing and distribution, and
allows the preparation of daily operating control reports which provide concise
and timely information regarding key aspects of its business. The system allows
the Company to, among other things, monitor sales trends, make informed
purchasing decisions and provide product availability and order status
information. In addition to the main computer system, the Company has a system
of networked personal computers, which facilitates data sharing. The Company
also applies its management information systems to the task of managing its
inventory. The Company currently operates its management information system
using a Hewlett Packard HP995 and has a back-up system available in the event of
a system failure. The Company believes that in order to remain competitive it
will be necessary to upgrade its management information systems on a continuing
basis.
The Company's success is in part dependent on the accuracy and proper
utilization of its management information systems, including its telephone
system. In addition to the costs associated with system upgrades, the
transition to and implementation of new or upgraded hardware or software systems
can result in system delays or failures. Any interruption, corruption,
degradation or failure of the Company's management information systems could
impact its ability to receive and process customer orders on a timely basis.
YEAR 2000
The Company continues to assess its exposure related to the impact of the
Year 2000 date issue. The Year 2000 date issue arises from the fact that many
computer programs use only two digits to identify a year in a date field. The
Company's products and key financial and operational systems are being reviewed
and, where required, detailed plans are being developed and will be implemented
on a schedule intended to permit the Company's computer systems and products to
continue to function properly. The Year 2000 date conversion effort is expected
to increase costs in 1998 and 1999. While final cost estimates are not complete,
management does not expect these costs will have a material adverse impact on
the Company's financial position, results of operations or cash flows. However,
the Company could be adversely impacted by the Year 2000 date issue if the
Company or its suppliers, customers and other businesses do not address this
issue successfully. Management continues to assess these risks in order to
reduce the impact on the Company.
RETAIL COMPUTER SHOWROOMS
During 1997, the Company operated four retail computer showrooms in Southern
California and four retail computer showrooms in the Midwest, ranging in size
from approximately 3,400 to 40,000 square feet of space. However, the Company
has focused its expansion efforts and resources on the direct mail channel.
During the first quarter of 1998, the Company closed seven retail showrooms to
focus its efforts on its catalog, corporate and Internet channels of
distribution. The Company expects to incur a one-time restructuring charge
during the first quarter of 1998 relating to exit costs, asset write-offs, other
charges and goodwill relating to the retail showroom closures.
COMPETITION
The retail business for personal computers and related products is highly
competitive. The Company competes with other direct marketers, including
MicroWarehouse, CDW Computer Centers, Multiple Zones, Insight Direct, PC
Connection and Global Direct. In addition, the Company competes with computer
retail stores and resellers including superstores such as CompUSA, and Micro
Center, corporate resellers such as Compucom, Entex, Vanstar, certain hardware
and software vendors such as Gateway 2000 and Dell Computer which sell directly
to end users, and other direct marketers of hardware, software and computer-
related products. Barriers to entry are relatively low in the marketing industry
and the risk of new competitors entering the market is high. The market in which
the Company's retail showrooms operate is also highly competitive.
9
The manner in which personal computers, software and related products are
distributed and sold is changing, and new methods of sales and distribution have
emerged, such as the Internet. Technology now allows software vendors the
ability to sell and download programs directly to consumers, if so desired. In
addition, in recent years the industry has generated a number of new, cost-
effective channels of distribution such as computer superstores, consumer
electronic and office supply superstores, national direct marketers and mass
merchants. Computer resellers are consolidating operations and acquiring or
merging with other resellers to achieve economies of scale and increased
efficiency. In addition, traditional retailers have entered and may increase
their penetration into the direct mail channel. The current industry
reconfiguration and the trend toward consolidation could cause the industry to
become even more competitive, further increase pricing pressures and make it
more difficult for the Company to maintain its operating margins or to increase
or maintain the same level of net sales or gross profit.
Although many of the Company's competitors have greater financial resources
than the Company, the Company believes that its ability to offer the consumer a
wide selection of products, at low prices, with prompt delivery and a high level
of customer service, and its good relationships with its vendors and suppliers,
allow it to compete effectively. There can be no assurance that the Company can
continue to compete effectively against existing or new competitors that may
enter the market. The Company believes that competition may increase in the
future, which could require the Company to reduce prices, increase advertising
expenditures or take other actions which may have an adverse effect on the
Company's operating results.
EMPLOYEES
As of December 31, 1997, the Company employed 1,209 full-time people,
including 247 people at the Company's retail computer showrooms and 213 at its
distribution center. During the first quarter of 1998, the Company closed seven
retail showrooms. The Company emphasizes the recruiting and training of high
quality personnel and, to the extent practical, promotes people to positions of
increased responsibility from within the Company. Each employee initially
receives training appropriate for his or her position, followed by varying
levels of training in computer technology. New account executives participate in
an intensive four-week training program, during which time they are introduced
to the Company's philosophy, available resources, products and services.
Training for specific product lines and continuing education programs for all
employees are conducted on an ongoing basis, supplemented by vendor-sponsored
training programs for all sales executives and technical support personnel.
The Company's employees are generally compensated on a basis that rewards
performance and the achievement of identified goals. For example, sales
executives receive compensation pursuant to a commission schedule which is based
primarily upon aggregate gross profit dollars generated from their sales
efforts. The Company believes that these incentives positively impact its
performance and operating results.
The Company considers its employee relations to be good. None of the
Company's employees is represented by a labor union, and the Company has
experienced no work stoppages.
10
Since its formation, the Company has experienced rapid growth. As a result of
this growth, the Company has added a significant number of employees and has
been required to expend considerable effort in training these new employees.
PROPERTIES
The Company's facilities at December 31, 1997 were as follows:
Description Sq. Ft. Location
- ----------- ------- ----------------
Creative Computers Corporate Headquarters............ 60,000 Torrance, CA
Distribution Center.................................. 325,000 Memphis, TN
Retail Showroom #1................................... 13,050 Santa Monica, CA
*Retail Showroom #2.................................. 20,000 San Diego, CA
*Retail Showroom #3.................................. 6,751 Lawndale, CA
*Retail Showroom #4.................................. 3,400 Lake Forest, CA
Elek-Tek Corporate Headquarters...................... 14,744 Elk Grove Village, IL
*Retail Showroom #5.................................. 15,430 Willowbrook, IL
*Retail Showroom #6.................................. 40,000 Indianapolis, IN
*Retail Showroom #7.................................. 29,386 Rolling Meadows, IL
*Retail Showroom #8.................................. 8,733 Chicago, IL
Kansas Corporate Sales............................... 32,800 Lenexa, KS
Colorado Corporate Sales............................. 2,315 Engelwood, CO
ComputAbility Corporate Headquarters................. 15,000 Milwaukee, WI
ComputAbility Warehouse.............................. 15,000 Milwaukee, WI
*Closed during the first quarter 1998.
The Company leases all of its facilities, except for the following: 9,750
square feet of the Santa Monica retail showroom, Lenexa retail showroom, and
ComputAbility Corporate headquarters which it owns. The Company's distribution
center serves the Company's catalog, Elek-Tek, ComputAbility and uBid operations
as well as its retail showrooms. The Memphis facility includes shipping,
receiving, warehousing and administrative space. The following leases have
remaining terms greater than two years: Creative Computers Corporate
headquarters, Santa Monica showroom, Memphis distribution center, Elek-Tek
corporate headquarters and Colorado corporate sales. All of the other leases
have remaining terms less than two years. During the fourth quarter of 1997, the
Company consolidated its headquarters facility and its telemarketing operations
into a 160,000 square foot building in a nearby location in Torrance, CA. The
Company will phase into the facility over two years and initially occupy 60,000
square feet. The one-time charge for the move was $0.8 million.
During the first quarter of 1998, the Company closed all of its retail
showrooms except for its Santa Monica showroom. Where necessary, the Company is
currently negotiating early lease terminations or attempting to sublet leased
facilities no longer in use. The Company is also selling its Lenexa, Kansas
building. The Company expects to incur a one-time restructuring charge during
the first quarter of 1998.
REGULATORY AND LEGAL MATTERS
The direct response business as conducted by the Company is subject to the
Merchandise Mail Order Rule and related regulations promulgated by the Federal
Trade Commission and laws or regulations directly applicable to access to or
commerce on the Internet. While the Company believes it currently is in
compliance with such laws and regulations and has implemented programs and
systems to address its ongoing compliance with such regulations, no assurances
can be given that new laws or regulations will not be enacted or adopted which
might adversely affect the Company's operations. Due to the increasing
popularity and use of the Internet, it is possible that a number of laws and
regulations may be adopted
11
with respect to the Internet. The growth and development of the market for
Internet commerce may prompt calls for more stringent consumer protection laws
that may impose additional burdens on those companies conducting business over
the Internet. The adoption of any additional laws or regulations may decrease
the growth of the Internet, which, in turn, could decrease the demand for and
growth of the Company's Internet-based sales.
The Company, or various subsidiaries, currently collects and remits sales tax
only on sales of products to residents of the states of California, Tennessee,
Illinois, Wisconsin, Colorado, Kansas and Indiana. Various states have sought to
impose on direct marketers the burden of collecting state sales taxes on the
sale of products shipped to those states' residents and it is possible that such
a requirement could be imposed in the future.
There are no material legal proceedings pending against the Company.
EXECUTIVE OFFICERS
The executive officers of the Company and their respective ages and positions
are as follows as of March 26, 1998:
Name Age Position
---- --- --------
Frank F. Khulusi............. 31 Chairman of the Board, President and
Chief Executive Officer
Richard M. Finkbeiner........ 51 Chief Financial Officer
Daniel J. DeVries............ 36 Executive Vice President - Marketing and Sales
David R. Burcham............. 33 Executive Vice President - Operations
The following is a biographical summary of the experience of the executive
officers:
Frank F. Khulusi is a co-founder of the Company and has served as Chairman
of the Board, President and Chief Executive Officer of the Company since the
Company's inception in 1987.
Richard M. Finkbeiner joined the Company in June 1996 as Chief Financial
Officer. From January 1996 to June 1996, he was Chief Financial Officer for
Petro Stopping Centers, a national travel plaza retailer. From 1993 to 1996, he
was Chief Financial Officer for NordicTrack, a direct marketer and retailer of
fitness equipment,. From 1989 to 1993, he was Chief Financial Officer for
Current, Inc., a direct marketer of greeting cards, and from 1984 to 1989 he was
Controller and then Chief Financial Officer for Fox Photo, a photofinisher. Mr.
Finkbeiner spent the first 12 years of his career with Hallmark Cards, a
manufacturer and retailer of social expression products.
Daniel J. DeVries has served as Executive Vice President since February
1996 and was Senior Vice President from October 1994 to that time. Mr. DeVries
is responsible for all marketing, sales, purchasing and retail showrooms. Mr.
DeVries' marketing responsibilities include vendor co-op marketing,
merchandising, database marketing and Internet marketing. From April 1993 to
October 1994, he held various sales and marketing positions with the Company.
From July 1988 to April 1993, Mr. DeVries was a regional manager for Sun
Computers, a computer retailer.
David R. Burcham has served as Executive Vice President since March 1997
and was Senior Vice President from February 1996 to that time. Mr. Burcham is
responsible for all
12
distribution and MIS. From June of 1990 to February of 1996, he held various
sales and operational positions for Multiple Zones International, Inc. including
Vice President of Sales and Vice President of Operations. Prior to that, he was
Vice President of Sales and Marketing for BID International, Inc., a publishing
and information services company.
CERTAIN FACTORS AFFECTING FUTURE RESULTS
The Private Securities Litigation Reform Act of 1995 (the "Act") provides a
"safe harbor" for "forward-looking statements" to encourage companies to provide
prospective information, so long as such information is identified as forward
looking and is accompanied by meaningful cautionary statements identifying
important factors that could cause actual results to differ materially from
those discussed in the statement. Except for historical information, certain
statements contained in this Annual Report on Form 10-K may be "forward-looking
statements" within the meaning of the Act. In order to take advantage of the
"safe harbor" provisions of the Act, the Company identifies the following
important factors which could affect the Company's actual results and cause such
results to differ materially from those projected, forecasted, estimated,
budgeted or otherwise expressed by the Company in "forward-looking statements"
made by or on behalf of the Company:
(1) The loss of a key vendor or decline in demand for products of a key
vendor, such as Apple, may reduce sales and adversely affect operating
results.
(2) Intense competition may lead to reduced prices and lower gross margins.
(3) The Company's narrow margins magnify the impact on operating results of
variations in operating performance. A number of factors may reduce the
Company's margins even further.
(4) Seasonal variations in the demand for products and services, as well as
the introduction of new products, may cause variations in the Company's
quarterly results.
(5) The availability (or lack thereof) of capital on acceptable terms may
hamper the Company in its efforts to fund its increasing working capital
needs.
(6) The failure of the Company to adequately manage its growth, including
the integration of acquired companies and development of uBid, may
adversely impact the Company's results of operations.
(7) A failure of the Company's information systems may adversely impact the
Company's results of operations.
(8) The loss of a key executive officer or other key employee may adversely
impact the Company's operations.
(9) The inability of the Company to obtain products on favorable terms may
adversely impact the Company's results of operations.
(10) The Company's operations may be adversely impacted by an acquisition
that is either (i) not suited for the Company or (ii) improperly
executed.
(11) The Company's financial condition may be adversely impacted by a decline
in value of a portion of the Company's inventory.
(12) The failure of certain shipping companies to deliver product to the
Company, or from the
13
Company to its customers, may adversely impact the Company's results
of operations.
(13) Rapid technological change may alter the market for the Company's
products and services, requiring the Company to anticipate such
technological changes, to the extent possible.
It is not reasonably possible to itemize all of the many factors and specific
events that could affect the Company and/or the microcomputer industry as a
whole. However, the discussion below discusses in more detail some of the
foregoing factors, as well as additional factors which may affect the Company's
actual results and cause such results to differ materially from those projected,
forecasted, estimated, budgeted or otherwise expressed in "forward-looking
statements."
DEPENDENCE ON APPLE
The Company is dependent on sales of Apple computers and software and
peripheral products used with Apple computers. Products manufactured by Apple
represented approximately 45.9%, 30.1% and 21.4% of the Company's net sales in
1995, 1996 and 1997, respectively. A decline in sales of Apple computers or a
decrease in supply of or demand for software and peripheral products for such
computers could have a material adverse impact on the Company's business.
During parts of 1996 and 1997, certain Apple computers were in short supply. A
continuation of such shortages or future shortages could adversely affect the
Company's operating results. The Company is an authorized dealer for the full
retail line of Apple products; however, the Company's dealer agreement with
Apple is terminable upon 30 days' notice. The Company's business would be
adversely affected if all or a portion of the line of Apple products were no
longer available to the Company. The Company's success is, in part, dependent
upon the ability of Apple to develop and market products that meet the changing
requirements of the marketplace. To the extent that these products are not
available to the Company, the Company could encounter increased price and other
competition, which would adversely affect operating results.
RAPID GROWTH
Since its formation, the Company has experienced rapid growth. Net sales
have grown from $8.7 million in 1990 to $546.1 million in 1997. The Company's
catalog sales grew from $37.8 million in 1993 to $478.3 million in 1997. As a
result of the Company's shift from the retail showroom to the catalog
distribution channel, retail showroom sales have decreased from 46.3% of net
sales in 1993 to 12.4% in 1997. During the first quarter of 1998, the Company
closed seven retail showrooms to focus its efforts on its catalog, corporate and
Internet channels of distribution. The Company expects to incur a charge during
the first quarter of 1998 relating to exit costs, asset write-offs, other
charges and related goodwill. In response to the growth in catalog sales, the
Company has rapidly added a significant number of employees and has been
required to expend considerable efforts in training these new employees. This
growth has placed strains on the Company's management, resources and facilities.
As part of its growth strategy, the Company acquired Elek-Tek and ComputAbility
in 1997 and may, in the future, acquire other companies in the same or
complementary lines of business. These acquisitions and any such acquisition and
the ensuing integration of the operations of the acquired company with those of
the Company place additional demands on the Company's management, operating and
financial resources. The Company's success will, in part, be dependent upon the
ability of the Company to manage growth effectively. In addition, the Company's
business and growth could be affected by the spending patterns of existing or
prospective customers, the cyclical nature of capital expenditures of
businesses, continued competition and pricing pressures, changes in the rate of
development of new technologies and new products by manufacturers, acceptance by
end-users and other trends in the general economy. There can be no assurance
that the Company's historical growth rates will continue in the future.
In connection with the Company's recent expansion into the WINTEL market, the
Company has obtained catalog sales authorizations or otherwise has the ability
to sell WINTEL products from certain major hardware manufacturers, including
IBM, Compaq, Hewlett-Packard, NEC, Sony, Digital Equipment, AST, Hitachi,
Toshiba, Texas Instruments, Fujitsu and others. Many of its current vendors of
14
peripherals, components, accessories and software also offer WINTEL products.
While the Company has been successful to date in becoming a major catalog
reseller of WINTEL products, no assurances can be given that the Company will be
able to maintain that position.
COMPETITION
The retail business for personal computers and related products is highly
competitive, based primarily on price, product availability, speed and accuracy
of delivery, effectiveness of sales and marketing programs, credit availability,
ability to tailor specific solutions to customer needs, quality and breadth of
product lines and services, and availability of technical or product
information. The Company competes with other direct marketers, including
MicroWarehouse, CDW Computer Centers, Multiple Zones, Insight Direct, PCs
Compleat, PC Connection and Global Direct. In addition, the Company competes
with computer retail stores and resellers, including superstores, such as
CompUSA, Micro Center, corporate resellers such as Compucom, Entex and Vanstar,
certain hardware and software vendors, such as Gateway 2000 and Dell
Computer, which sell directly to end users, and other direct marketers of
hardware, software and computer-related products. In the direct marketing
industry, barriers to entry are relatively low and the risk of new competitors
entering the market is high. Certain existing competitors of the Company have
substantially greater financial resources than the Company. There can be no
assurance that the Company can continue to compete effectively against existing
competitors or new competitors that may enter the market. In addition, price is
an important competitive factor in the personal computer hardware, software and
peripherals market and there can be no assurance that the Company will not be
subject to increased price competition, which may have an adverse effect on the
Company's operating results. There can be no assurance that the Company will
not lose market share or that it will not be forced in the future to reduce its
prices in response to the actions of its competitors and thereby experience a
further reduction in its gross margins.
NARROW OPERATING MARGINS
As a result of intense price competition in the microcomputer products
industry, the Company's margins have historically been narrow and are expected
to continue to be narrow. These narrow margins magnify the impact on operating
results of variations in operating costs and of adverse or unforeseen events.
15
POTENTIAL QUARTERLY FLUCTUATIONS
The Company experiences variability in its net sales and net income on a
quarterly basis as a result of many factors. These factors include the frequency
of catalog mailings, introduction or discontinuation of new catalogs, the
introduction of new products or services by the Company and its competitors,
changes in prices from suppliers, the loss or consolidation of a significant
supplier or customer, general competitive conditions including pricing, the
Company's ability to control costs, the timing of capital expenditures, the
condition of the personal computer industry in general, seasonal shifts in
demand for hardware and software products, industry announcements and market
acceptance of new products or upgrades, including deferral of customer orders in
anticipation of new product applications, product enhancements or operating
systems, the relative mix of products sold during the period, inability of the
Company to obtain adequate quantities of products carried in its catalogs or
delays in the release by suppliers of new products and inventory adjustments.
The Company's planned operating expenditures each quarter are based on sales
forecasts for the quarter. If sales do not meet expectations in any given
quarter, operating results for the quarter may be materially adversely affected.
The Company's narrow margins may magnify the impact of these factors on the
Company's operating results. The Company believes that period-to-period
comparisons of its operating results should not be relied upon as an indication
of future performance. In addition, the results of any quarterly period are not
necessarily indicative of results to be expected for a full fiscal year. In
certain future quarters, the Company's operating results may be below the
expectations of public market analysts or investors. In such event, the market
price of the common stock could be materially adversely affected.
DEPENDENCE ON VENDORS
The Company purchases all of its products from vendors. Certain key vendors,
including IBM, Hewlett Packard and Apple, provide the Company with trade credit
as well as substantial incentives in the form of discounts, credits and
cooperative advertising. Most key vendors have agreements to provide or
otherwise have consistently provided market development funds to the Company,
whereby such vendors finance portions of the cost of catalog publication and
distribution based upon the amount of coverage given in the catalogs to their
respective products. Termination or interruption of the Company's relationships
with one or more of these vendors, including Apple, or modification of the terms
or discontinuance of the agreements with these vendors, could adversely affect
the Company's operating income and cash flow. The Company's success is, in part,
dependent upon the ability of its vendors to develop and market products that
meet the changing requirements of the marketplace. Substantially all of the
Company's contracts with its vendors are terminable upon 30 days' notice or
less. In most cases, the Company has no guaranteed price or delivery
arrangements with its suppliers. As a result, the Company has experienced and
may in the future experience short-term inventory shortages on certain products.
In addition, manufacturers who currently sell their products through the Company
may decide to sell their products directly or through resellers or channels
other than the Company. Further, the personal computer industry experiences
significant product supply shortages and customer order backlogs from time to
time due to the inability of certain manufacturers to supply certain products as
needed. There can be no assurance that suppliers will be able to maintain an
adequate supply of products to fulfill the Company's customers' orders on a
timely basis or that the Company will be able to obtain particular products or
that a product line currently offered by suppliers will continue to be
available. Similarly, there can be no assurance that the Company will be able to
obtain authorizations from new vendors which may introduce new products that
create market demand.
BUSINESS INTERRUPTION; FACILITIES
The Company believes that its success to date has been, and future results of
operations will be, dependent in large part upon its ability to provide prompt
and efficient service to its customers. The
16
Company has taken several precautionary steps to help minimize the impact of
disasters that might cause business interruptions. There can be no assurance
that a disruption will not occur; however, any disruption of the Company's day-
to-day operations including those caused by natural disasters could have a
material adverse effect upon the Company and any interruption, corruption,
degradation or failure of the Company's management information systems,
distribution center or telephone system could impair its ability to receive and
process customer orders and ship products on a timely basis. The Company does
not have a redundant telephone system and does not have a backup or redundant
call center.
CHANGING METHODS OF DISTRIBUTION
The manner in which personal computers and related software and products are
distributed and sold is changing, and new methods of sale and distribution, such
as the Internet, have emerged. Hardware and software vendors have sold, and may
intensify their efforts to sell, their products directly to end users. From time
to time, certain vendors have instituted programs for the direct sale of large
quantities of hardware and software to certain major corporate accounts. These
types of programs may continue to be developed and used by various vendors.
Vendors also may attempt to increase the volume of software products distributed
electronically to end users' personal computers. Any of these competitive
programs, if successful, could have a material adverse effect on the Company's
business and financial results.
DEPENDENCE ON INDEPENDENT SHIPPING COMPANIES
The Company relies almost entirely on arrangements with independent shipping
companies, especially Federal Express, for the delivery of its products. The
disruption or termination of the Company's arrangements with Federal Express or
other shipping companies, or the failure or inability of one or more shipping
companies to deliver products from the Company to its customers, or from
suppliers to the Company, could have a material adverse effect on the Company's
business, financial condition or results of operations.
POSTAGE, SHIPPING AND PAPER COSTS
Postage and shipping are significant expenses in the operation of the
Company's business. The Company ships its products to customers by overnight
delivery and ground delivery services and generally mails its catalogs through
the U.S. Postal Service. As is customary in the direct response marketing
industry, the Company generally passes on only a portion of the costs of
overnight delivery and parcel shipments directly to customers as separate
shipping and handling charges. Any increases in postal or shipping rates in the
future could have an adverse effect on the Company's operating results. The
cost of paper is also a significant expense of the Company in printing its
catalogs. The cost of paper has fluctuated significantly over the last several
years. While the Company believes that it will be able to recoup a significant
portion of any increased postage and paper costs through increases in vendor
advertising rates, no assurance can be given that such advertising rate
increases can be sustained or that they will offset all of the increased costs.
RISK OF TECHNOLOGICAL CHANGES AND INVENTORY OBSOLESCENCE
The market for personal computers, peripherals and software is characterized
by rapid technological change and a growing diversity of products. The recent
growth in sales of personal computers and related software and peripherals has
been, in part, due to the introduction of new hardware and software, including
multimedia personal computer systems and upgraded Apple computers. The Company's
success depends in large part on its ability to identify and obtain the right to
market products that will meet the changing requirements of the marketplace. In
connection with the Company's recent entry into the WINTEL, networking and data
communications market, it will need to continue to identify and
17
purchase products from existing and new vendors for which the Company does not
have a purchasing history. There can be no assurance that the Company will be
able to identify and offer products necessary to remain competitive or avoid
losses related to excess and obsolete inventory. The Company currently has
return rights with respect to products which it purchases from Apple, IBM,
Compaq, Hewlett Packard and certain other vendors; however, such rights vary by
product line, have other conditions and limitations and can be terminated or
changed at any time.
STATE SALES TAX COLLECTION
The Company, or various subsidiaries, currently collects and remits sales tax
on sales of products to residents of the states of California, Tennessee,
Illinois, Wisconsin, Colorado, Kansas and Indiana. Various states have sought to
impose on direct marketers the burden of collecting state sales taxes on the
sale of products shipped to those states' residents. The U.S. Supreme Court has
ruled that the various states, absent Congressional legislation, may not impose
tax collection obligations on an out-of-state mail order company whose only
contacts with the taxing state are distribution of catalogs and other
advertisement materials through the mail, and whose subsequent delivery of
purchased goods is by mail or interstate common carriers. A New York Court of
Appeals case imposed tax collection obligations on two Vermont companies, one of
which was a mail order company, whose contacts with New York consisted of
visiting the state several times a year to aid customers or visiting showrooms
stocking their goods. The Company believes its operations are different from the
operations of the companies in the New York case and thus do not give rise to
tax collection obligations. However, the Company cannot predict the level of
contact with any state which would give rise to future or past tax collection
obligations within the parameters of the Supreme Court case. It is possible that
federal legislation could be enacted that would permit states to impose sales
tax collection obligations on out-of-state mail order companies and if enacted,
the imposition of a tax collection obligation on the Company may result in
additional administrative expenses to the Company and price increases to its
customers that could adversely affect the Company.
INDUSTRY EVOLUTION AND PRICE REDUCTIONS
The personal computer industry is undergoing significant change. In addition,
in recent years a number of new, cost-effective channels of distribution have
developed in the industry, such as computer superstores, consumer electronic and
office supply superstores, national direct marketers and mass merchants.
Computer resellers are consolidating operations and acquiring or merging with
other resellers and/or direct marketers to achieve economies of scale and
increased efficiency. The current industry reconfiguration and the trend towards
consolidation could cause the industry to become even more competitive, further
increase pricing pressures and make it more difficult for the Company to
maintain its operating margins or to increase or maintain the same level of net
sales or gross profit. Declining prices, resulting in part from technological
changes, may require the Company to sell a greater number of products to achieve
the same level of net sales and gross profit. Such a trend could make it more
difficult for the Company to continue to increase its net sales and earnings
growth. In addition, the personal computer market has experienced rapid growth.
If the growth rate of the personal computer market were to decrease, the
Company's operating results could be adversely affected.
MANAGEMENT INFORMATION SYSTEMS
The Company's success is in part dependent on the accuracy and proper
utilization of its management information systems, including its telephone
system. The Company's ability to analyze data derived from its management
information systems to increase product promotions, manage inventory and
accounts receivable collections, to purchase, sell and ship products efficiently
and on a timely basis, and to maintain cost-efficient operations are each
dependent upon the quality and utilization of the
18
information generated by its management information systems. During 1995, the
Company significantly upgraded its management information system hardware and
software. The Company believes that to remain competitive it will be necessary
to upgrade its management information systems on a continuing basis. In addition
to the costs associated with such upgrades, the transition to and implementation
of new or upgraded hardware or software systems can result in system delays or
failures which could impair the Company's ability to receive and process orders
and ship products in a timely manner. The Company does not currently have a
redundant or back-up telephone system, and any interruption in telephone service
including those caused by natural disasters could have a material adverse effect
on the Company's results of operations.
DEPENDENCE ON SENIOR MANAGEMENT
The Company's future performance will depend to a significant extent upon the
efforts and abilities of certain key management personnel, including Frank
Khulusi, Chairman of the Board, President and Chief Executive Officer. The
Company has a $3 million key man life insurance policy on Mr. Khulusi. The loss
of service of one or more of the Company's key management personnel could have
an adverse effect on the Company's business. The Company's success and plans for
future growth will also depend in part on management's continuing ability to
hire, train and retain skilled personnel in all areas of its business.
MANAGEMENT OF GROWTH
The rapid growth of the Company's business has required the Company to make
significant recent additions in personnel and has significantly increased the
Company's working capital requirements. Although the Company has experienced
significant sales growth in recent years, such growth should not be considered
indicative of future sales growth. Such growth has resulted in new and
increased responsibilities for management personnel and has placed and
continues to place significant strain upon the Company's management, operating
and financial systems, and other resources. There can be no assurance that this
strain will not have a material adverse effect on the Company's business,
financial condition, and results of operations, nor can there be any assurance
that the Company will be able to attract or retain sufficient personnel to
continue the expansion of its operations. Also crucial to the Company's success
in managing its growth will be its ability to achieve additional economies of
scale. There can be no assurance that the Company will be able to achieve such
economies of scale, and the failure to do so could have a material adverse
effect upon the Company's business, financial condition and results of
operations.
ACQUISITIONS
As part of its growth strategy, the Company acquired two marketers of
computers and computer-related products in 1997 and may continue to pursue
acquisitions of companies that would either complement or expand its existing
business. The Company is in the process of integrating the operations of their
acquired entities with its own operations. No assurance can be given that the
benefits expected from such integration will be realized. In addition,
acquisitions involve a number of risks and difficulties, including expansion
into new geographic markets and business areas, the diversion of management's
attention to the assimilation of the operations and personnel of the acquired
company, the integration of the acquired company's management information
systems with those of the Company, potential short-term adverse effects on the
Company's operating results and the amortization of acquired intangible assets.
Any delays or unexpected costs incurred in connection with the integration of
acquired operations could have a material adverse effect on the Company's
business, financial condition and results of operations. There can be no
assurance that the Company will be able to implement or sustain its acquisition
strategy or that its strategy will ultimately prove profitable to the Company.
POSSIBLE VOLATILITY OF STOCK PRICE
The Company believes certain factors, such as sales of Common Stock into the
market by existing stockholders, fluctuations in quarterly operating results and
market conditions generally, including
19
market conditions affecting stocks of computer hardware and software
manufacturers and resellers in particular, and other technology or related
stocks, could cause the market price of the Common Stock to fluctuate
substantially. The stock market in general, and the stocks of computer and
software resellers in particular, and other technology or related stocks, has in
the past experienced extreme price and volume fluctuations which have been
unrelated to corporate operating performance. Such market volatility may
adversely affect the market price of the Common Stock.
ITEM 2. PROPERTIES
See "Properties" in Item 1 above.
ITEM 3. LEGAL PROCEEDINGS
Various claims and actions, considered normal to the Company's business, have
been asserted and are pending against the Company. The Company believes that
such claims and actions should not have any material adverse effect upon the
Company's financial position or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders during the fourth
quarter of 1997.
20
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
The Common Stock of the Company has been traded on the Nasdaq National Market
since the Company's initial public offering on April 4, 1995 (the "IPO"). Prior
to the IPO, there was no public market for the Company's Common Stock. The
following table sets forth the range of high and low closing sales prices for
the Common Stock for the periods indicated, as reported by the Nasdaq National
Market.
Price Range of
Common Stock
--------------
High Low
---- ---
Year Ended December 31, 1995
- ----------------------------
Second Quarter (from April 4, 1995)... $ 29 1/2 $22 1/4
Third Quarter......................... 33 24 1/2
Fourth Quarter........................ 29 3/4 16
Year Ended December 31, 1996
- ----------------------------
First Quarter......................... 18 3/4 6 3/4
Second Quarter........................ 10 5/8 6
Third Quarter......................... 9 7/8 4 1/2
Fourth Quarter........................ 11 3/4 7 5/16
Year Ended December 31, 1997
- ----------------------------
First Quarter......................... 8 1/8 5
Second Quarter........................ 7 3/4 5
Third Quarter......................... 13 11/16 7 1/8
Fourth Quarter........................ 16 5/16 8 1/2
On March 25, 1998, the closing price of the Company's Common Stock as
reported on the Nasdaq National Market was $7 1/4 per share. As of March 25,
1998, there were approximately 1,550 holders of record of the Common Stock.
On August 29, 1997, the Company issued 271,739 shares of its Common Stock
valued at $2.5 million to purchase ComputAbility Limited.
The Company has never paid and has no present plans to pay any cash dividends
on its capital stock. The Company intends to retain its earnings to finance the
growth and development of its business.
The Company announced in July 1996 that, depending on various factors
including market price, it would repurchase up to 1,000,000 shares of its stock.
The Company has repurchased 15,000 shares to date under this program. However,
there is no assurance that the Company will purchase additional shares.
ITEM 6. SELECTED FINANCIAL DATA
The following selected consolidated financial data is qualified by reference
to, and should be read in conjunction with, the Company's Consolidated Financial
Statements and the notes thereto, and "Management's Discussion and Analysis of
Financial Condition and Results of Operations" contained elsewhere herein. The
selected income statement data for the years ended December 31, 1995, 1996 and
1997 and the selected balance sheet data as of December 31, 1996 and 1997 are
derived from the Company's audited consolidated financial statements which are
included elsewhere herein. The selected
21
income statement data for the years ended December 31, 1993 and 1994 along with
the balance sheet data as of December 31, 1993, 1994 and 1995 are derived from
the audited consolidated financial statements of the Company which are not
included herein. The selected operating data are derived from the accounting
records of the Company and have not been audited.
YEAR ENDED DECEMBER 31,
---------------------------------------------------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
1993 1994 1995 1996 1997
---- ---- ---- ---- ----
Net sales..................................... $70,406 $163,706 $420,877 $444,971 $546,131
Cost of goods sold............................ 59,235 140,229 361,803 395,000 476,061
------- -------- -------- -------- --------
Gross profit.................................. 11,171 23,477 59,074 49,971 70,070
Selling, general and administrative expenses.. 11,389 19,384 48,455 60,585 61,255
Expenses associated with the relocation of the
Company's distribution center............... -- -- 1,389 -- --
Relocation expenses related to corporate
headquarters................................ -- -- -- -- 815
Expenses related to acquisition of Elek-Tek... -- -- -- -- 1,470
------- -------- -------- -------- --------
Income (loss) from operations before interest
and income taxes............................ (218) 4,093 9,230 (10,614) 6,530
Interest income (expense)..................... (501) (759) 371 593 118
------- -------- -------- -------- --------
Income (loss) before income taxes............. (719) 3,334 9,601 (10,021) 6,648
Income taxes (benefit)........................ (294) 1,328 3,754 (3,972) 2,523
------- -------- -------- -------- --------
Net income (loss)............................. $ (425) $ 2,006 $ 5,847 $ (6,049) $ 4,125
======= ======== ======== ======== ========
Basic earnings (loss) per share(1)............ $ (0.09) $ 0.41 $ 0.71 $ (0.62) $ 0.42
======= ======== ======== ======== ========
Diluted earnings (loss) per share(1).......... $ (0.09) $ 0.39 $ 0.66 $ (0.62) $ 0.41
======= ======== ======== ======== ========
Basic weighted average number of shares
outstanding(1).............................. 4,900 4,900 8,291 9,767 9,895
======= ======== ======== ======== ========
Diluted weighted average number of shares
outstanding(1).............................. 4,900 5,160 8,890 9,767 10,030
======= ======== ======== ======== ========
Selected Operating Data (in thousands, except
average order size):
Mail order/catalog net sales.............. $37,837 $117,863 $353,324 $387,103 $478,300
Retail net sales.......................... $32,569 $ 45,843 $ 67,553 $ 57,868 $ 67,831
Number of catalogs distributed............ 190 7,700 38,398 48,800 62,200
Orders filled (mail order/catalog)........ 50 194 784 931 1,026
Average order size (mail order/catalog)... $ 757 $ 608 $ 451 $ 416 $ 466
Mailing list size......................... 151 397 1,300 2,518 4,177
(1) Earnings (loss) per share and weighted average shares outstanding have been
restated for all periods presented to reflect the adoption of SFAS 128,
"Earnings per Share". See Note 1 in the Notes to Consolidated Financial
Statements.
22
Year Ended December 31,
---------------------------------------------------------------
Balance Sheet Data (at period end) 1993 1994 1995 1996 1997
---------- -------- -------- -------- ----------
(in thousands):
Working capital (deficit) $(4,122) $ 161 $ 46,307 $ 42,600 $ 31,624
Total assets $20,907 $42,942 $112,569 $113,431 $131,154
Short-term debt $ 3,285 $ 4,190 $ 281 $ 283 $ 10,186
Long-term debt, excluding current portion $ 1,342 $ 1,878 $ 589 $ 325 $ 496
Subordinated debt $ -- $ 2,950 $ -- $ -- $ --
Stockholders' equity (deficit) $(1,166) $ 890 $ 56,560 $ 52,805 $ 59,770
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion and analysis of the Company's financial condition
and results of operations should be read in conjunction with the Company's
consolidated financial statements and notes thereto included elsewhere herein.
OVERVIEW
The Company began operations in May 1987 as a mail-order company and then
opened its first retail computer showroom in August 1987 and a second showroom
in 1988. These showrooms and mail-order operations primarily offered Commodore
Amiga personal computers and related products. After opening its first retail
store, the Company conducted mail order operations from one of its retail
showroom locations. The Company became an authorized Apple dealer in 1991,
opened two additional retail computer showrooms in the second quarter of 1993
and relocated and expanded an existing showroom in the fourth quarter of 1993.
Net sales from the Company's retail computer showrooms as a percentage of net
sales were 16.0%, 13.0% and 12.4% in 1995, 1996 and 1997, respectively. During
1997, the Company completed two acquisitions. On August 29,1997, the Company
acquired the assets and assumed the liabilities of Milwaukee-based ComputAbility
Limited, a privately owned direct reseller of PC/WINTEL hardware, peripheral and
software products, for $8.0 million. On October 15, 1997, the Company acquired
substantially all the assets of Elek-Tek, Inc., a marketer of PC/WINTEL
hardware, peripheral and software products located in the Midwest for
$29.4 million plus direct costs of the acquisition.
In late 1997, the Company formed a wholly-owned subsidiary named uBid to sell
computers, computer related products and consumer electronics through an online
auction site on the Internet and plans to make significant investments in 1998
to grow this business.
Subsequent to year end, the Company closed seven of its eight retail
showrooms to focus its efforts on its catalog, corporate and Internet channels
of distribution.
In the fourth quarter of 1993, the Company shifted its principal distribution
and marketing focus from retail showrooms to direct mail marketing distribution
and relocated its mail order/catalog operations to a central location. In March
1994, the Company received authorization from Apple to offer the full retail
line of Apple products via direct mail and the Company distributed the first
edition of its MacMall catalog in April 1994. During 1994, the Company mailed
five editions of its MacMall catalog with a total circulation of approximately
7.7 million to previous and potential customers. During 1995, the Company
distributed ten editions of its MacMall catalog with a total MacMall circulation
of approximately 27.3 million. In 1996, total MacMall circulation increased to
30.3 million with thirteen editions. In 1997, total MacMall circulation
increased to 36.0 million with fourteen editions.
In May 1995, the Company distributed its first PC Mall catalog focusing on
the WINTEL personal computer market. During 1995, the Company distributed seven
PC Mall catalogs to approximately 11.1 million previous and prospective
customers. In 1996, the Company distributed thirteen PC Mall catalogs with a
total circulation of 15.3 million. In 1997, total PC Mall circulation was 21.9
million with fourteen editions. In 1997, total DataCom Mall circulation was 2.9
million with eight editions. In September 1997, the Company distributed its
first ComputAbility catalog. During 1997, the Company distributed three
ComputAbility catalogs to approximately 1.4 million previous and prospective
customers.
23
All catalogs feature new products and contain detailed information about
product capabilities, specifications, key features and system requirements.
Net sales from mail order/catalog operations, as a percentage of net sales,
were 84.0%, 87.0% and 87.6% in 1995, 1996 and 1997, respectively, with average
order size being $451, $416 and $466 for those same respective years.
Net sales of the Company are derived primarily from the sale of personal
computer hardware, software, peripherals and accessories to individual
consumers, home offices, small businesses and large corporations through direct
response catalogs, dedicated inbound and outbound telemarketing sales
executives, a direct sales force, retail showrooms and advertising on the
Internet. Gross profit consists of net sales less product and shipping costs.
The Company receives marketing development funds ("MDF") from manufacturers of
products included in the Company's catalogs, as well as co-operative advertising
funds ("Co-Op") on products purchased from manufacturers and vendors.
The Company is dependent on sales of Apple computers and software and
peripheral products used with Apple computers. Products manufactured by Apple
represented approximately 45.9%, 30.1% and 21.4% of the Company's net sales in
1995, 1996 and 1997, respectively.
RESULTS OF OPERATIONS
The following table sets forth for the years indicated information derived
from the Company's consolidated statement of operations expressed as a
percentage of net sales. There can be no assurance that trends in sales growth
or operating results will continue in the future.
Percentage of Net Sales
------------------------
Year Ended December 31
------------------------
1995 1996 1997
----- ----- -----
Net sales 100.0% 100.0% 100.0%
Cost of goods sold 86.0 88.8 87.2
----- ----- -----
Gross profit 14.0 11.2 12.8
Selling, general and administrative expenses 11.5 13.6 11.2
Expenses associated with the relocation of the
Company's distribution center 0.3 --- ---
Expenses associated with the relocation of the
Company's headquarters --- --- 0.1
Expenses associated with the acquisition of
Elek-Tek --- --- 0.3
----- ----- -----
Income (loss) from operations 2.2 (2.4) 1.2
Interest income 0.1 0.1 0.1
----- ----- -----
Income (loss) before income taxes 2.3 (2.3) 1.3
Income taxes (benefit) 0.9 (0.9) 0.5
----- ----- -----
Net income (loss) 1.4% (1.4)% 0.8%
===== ===== =====
The Company markets its products through the distribution of catalogs,
outbound telemarketing, a direct sales force, retail showrooms and the Internet.
Net sales from the Company's mail order/catalog operations were $353.3 million,
$387.1 million and $478.3 million for the years ended December 31, 1995, 1996
and 1997, representing 84.0%, 87.0% and 87.6% of net sales, respectively. Net
sales from the Company's
24
retail showroom operations were $67.6 million, $57.9 million and $67.8 million
for the years ended December 31, 1995, 1996 and 1997, representing 16.0%, 13.0%
and 12.4% of net sales, respectively. Merchandise sold through both channels of
distribution is similarly priced and many retail customers also purchase items
through catalogs. Gross profit as a percentage of net sales for the Company's
mail order/catalog operations was 14.1%, 11.7% and 13.0% for the years ended
December 31, 1995 , 1996 and 1997, respectively. Gross profit as a percentage of
net sales for the Company's retail showroom operations was 13.6%, 8.1% and 11.5%
for the years ended December 31, 1995, 1996 and 1997, respectively. Income
(loss) from operations for mail order/catalog operations for the years ended
December 31, 1995, 1996 and 1997 was $8.6 million, $(7.4) million and $6.6
million, or 2.4%, (1.9)% and 1.4% of net mail order/catalog sales, respectively,
after deducting the direct costs of mail order/catalog operations and allocating
indirect and corporate costs based on relative sales. Income (loss) from
operations for retail showroom operations for the years ended December 31, 1995,
1996 and 1997 was $0.6 million, $(3.2) million and $(0.1) million, or 0.9%,
(5.5)% and (0.1)% of net retail sales, respectively, after deducting the direct
costs of retail showroom operations and allocating indirect and corporate costs
based on relative sales. The computation of income from operations excludes non-
operating income and expenses and income taxes.
Year Ended December 31, 1997 Compared to the Year Ended December 31, 1996
Net sales for the year ended December 31, 1997 were $546.1 million, an
increase of $101.1 million or 23% over net sales for the year ended December 31,
1996 of $445.0 million. Mail order/catalog sales for 1997 were $478.3 million,
an increase of $91.2 million or 24% over 1996 mail order/catalog sales of $387.1
million. The increase in net sales was primarily due to an increase in the
number of catalogs distributed during the year, the growth from the PC Mall
catalog, an increase in telemarketing sales executives and $37 million in sales
from the two acquisitions in the third and fourth quarters of 1997. The Company
distributed approximately 62.2 million catalogs during 1997, of which MacMall
comprised 36.0 million, PC Mall 21.9 million, DataCom Mall 2.9 million and
ComputAbility 1.4 million. This compared to 48.8 million catalogs distributed in
1996. Retail net sales in 1997 were $67.8 million, an increase of $9.9 million
or 17% from retail net sales of $57.9 million in 1996. WINTEL net sales
increased 116% to $221.3 million in 1997, versus $102.4 million in 1996. WINTEL
net sales for 1997 comprised 40.5% of total net sales as compared to 23.0% in
1996. By December 1997, WINTEL net sales comprised 51.8% of total Company net
sales.
Gross profit for the year ended December 31, 1997 was $70.1 million, an
increase of $20.1 million or 40% from gross profit of $50.0 million for the year
ended December 31, 1996. Gross profit as a percentage of net sales was 12.8% in
1997, versus 11.2% in 1996. The increase in gross profit was primarily due to
the increase in sales in 1997 over 1996 and the large write-downs in 1996 for
slow-moving and excessive inventory, products returned to vendors for which the
Company did not receive payment, and for theft and shrinkage of inventory.
Selling, general and administrative (SG&A) expenses were $61.3 million for
the year ended December 31, 1997, an increase of $.7 million or 1% over SG&A
expenses of $60.6 million for the year ended December 31, 1996. As a percentage
of net sales, SG&A expenses were 11.2% in 1997 versus 13.6% in 1996. This
decrease is primarily due to write-offs in 1996 associated with the allowance
for doubtful accounts, credit card fraud and due to net advertising costs being
down significantly in 1997.
In the fourth quarter of 1997, the Company incurred approximately $0.8
million in expenses associated with the relocation and consolidation of its
headquarters and telemarketing operations into a 160,000 square foot building in
a nearby location in Torrance, CA. The Company will phase into the facility over
two years and initially occupy 60,000 square feet.
The Company expensed $1.5 million of non-recurring charges associated with
the Elek-Tek acquisition in the fourth quarter of 1997. These acquisition
related expenses were primarily associated with transitioning Elek-Tek's sales
force and customer base into Creative Computers.
25
Interest income (net of interest expense) was $.1 million in 1997 compared to
$.6 million in 1996. The reduction in interest income resulted from cash
outlays and increased borrowings for the acquisitions of ComputAbility and Elek-
Tek.
Year Ended December 31, 1996 Compared to the Year Ended December 31, 1995
Net sales for the year ended December 31, 1996 were $445.0 million, an
increase of $24.1 million or 5.7% over net sales for the year ended December 31,
1995 of $420.9 million. Mail order/catalog sales for 1996 were $387.1 million,
an increase of $33.8 million or 9.6% over 1995 mail order/catalog sales of
$353.3 million. The increase in net sales was primarily due to an increase in
the number of catalogs distributed during the year, the growth from the PC Mall
catalog and the introduction of the DataCom Mall Catalog. The Company
distributed approximately 48.8 million catalogs during 1996, of which MacMall
comprised 30.3 million, PC Mall 15.3 million and DataCom Mall 3.2 million. This
compared to 38.4 million catalogs distributed in 1995. Retail net sales in 1996
were $57.9 million, a decline of $9.7 million or 14.3% from retail net sales of
$67.6 million in 1995. WINTEL net sales increased 136% to $102.4 million in
1996 versus $43.3 million in 1995. WINTEL net sales for 1996 comprised 23.0% of
total net sales as compared to 10.3% in 1995. By December 1996, monthly WINTEL
net sales comprised almost 30% of total Company net sales.
Gross profit for the year ended December 31, 1996 was $50.0 million, a
decrease of $9.1 million or 15.4% from gross profit of $59.1 million for the
year ended December 31, 1995. Gross profit as a percentage of net sales was
11.2% in 1996 versus 14.0% in 1995. The decrease in gross profit dollars was
primarily due to $7.5 million in write-offs in the first and second quarters due
to unusually high theft and inventory shrinkage associated with the Company's
warehouse move in late 1995, an increase in inventory reserves for slow moving
and excessive inventory, and reserves established for products returned to
vendors for which the Company did not get paid. Excluding these write-offs,
gross profit margin for 1996 would have been 12.9% versus 14.0% in 1995. The
remaining decline in gross profit margin was primarily the result of WINTEL
products comprising a larger percentage of the Company's total net sales.
Typically, WINTEL products carry a lower profit margin than Apple and Macintosh
compatible products.
Selling, general and administrative (SG&A) expenses were $60.6 million for
the year ended December 31, 1996, an increase of $12.1 million or 25.0% over
SG&A expenses of $48.5 million for the year ended December 31, 1995 that
excluded a one time charge in 1995 associated with the relocation of the
Company's distribution center. As a percentage of net sales, SG&A expenses were
13.6% in 1996 versus 11.5% in 1995. Approximately $4.0 million of the $12.1
million increase was due to one time charges in the first and second quarters of
1996 relating to unusually high credit card losses including external fraud and
losses caused by an error generated by a minor software update installed in the
first quarter, which allowed some customer orders to bypass the Company's fraud
review system, and an increase in reserves for past due accounts. Excluding
these charges, SG&A for 1996 would have been 12.7% versus 11.5% in 1995. The
remaining increase in SG&A as a percentage of net sales was primarily due to an
increase in personnel costs associated with the strengthening of the Company's
management team and laying the foundation for future growth. Net advertising
expense as a percentage of net sales declined in 1996 versus 1995.
During 1995, the Company incurred approximately $1.4 million in expenses, or
0.3% of net sales, associated with the relocation of its distribution center to
Memphis, Tennessee from its headquarters in Torrance, California. These charges
primarily related to duplicative labor, freight and certain other costs
associated with operating dual warehouse facilities while starting operations in
Memphis.
26
Interest income (net of interest expense) was $0.6 million in 1996 compared
to $0.4 million in 1995. The increase was due to higher average cash balances
invested in securities in 1996. During 1995, the Company received a total of
$46.6 million in net proceeds from an initial public offering in April 1995 and
its follow-on offering in August 1995.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary capital need has been funding the working capital
requirements created by its rapid growth in sales. In April and August 1995,
the Company completed an initial public offering and a follow-on offering of its
common stock which resulted in net proceeds to the Company of approximately
$46.6 million. Cash flows from operations were $(12.8) million, $(7.8) million
and $18.8 million for 1995, 1996 and 1997, respectively. Cash flows from
operations in 1997 were favorable due to improved management of inventory as
well as a return to profitability. Cash flows from operations in 1995 and 1996
were negative primarily due to investments in inventory and accounts receivable
necessitated by the rapid sales growth of the Company, including those
associated with the introduction of the Company's MacMall, PC Mall and DataCom
Mall catalogs.
Excluding the impact of acquisitions, inventories decreased $17.4 million
as a result of continued efforts to improve inventory turns. Accounts
receivable, excluding the impact of acquisitions, increased $5.1 million
primarily due to the increase in sales to corporate customers and an increase in
vendor advertising in more catalogs.
During the year ended December 31, 1997, the Company's capital expenditures
were $3.3 million as compared to $2.1 million in 1996. The Company's primary
capital needs will continue to be funding its working capital requirements for
anticipated sales growth and possible acquisitions.
On August 29, 1997, the Company acquired the assets and liabilities of
ComputAbility Limited for $5.5 million cash and issued 271,739 shares of its
Common Stock.
On October 14, 1997, the Company increased its credit line with a financial
institution to $80.0 million from $50.0 million. The line of credit allows
working capital advances up to $47.5 million and floorplan inventory financing
up to $50.0 million, however, total advances and floorplan financing cannot
exceed $80.0 million. Working capital advances are also limited to eligible
accounts receivable and inventory collateral. The line of credit is secured by
substantially all of the Company's assets and is cancelable upon 90 days'
advance notice. Interest for amounts owed for working capital advances are
calculated at the finance company's prime rate (8.25% at December 31, 1997).
Floorplan financing does not bear interest if paid within an average of 45 days
of the inventory purchase date. Interest on floorplan financing not paid within
an average of 45 days is charged at the finance company's prime rate plus 2%
(10.25% at December 31, 1997 and December 31, 1996). The line of credit requires
that the Company maintain a minimum tangible net worth, a minimum pretax
earnings to interest expense ratio and limits debt as a ratio to tangible net
worth.
On October 15, 1997, the Company borrowed $20.7 million from the credit
line and paid $8.7 million from its cash reserves to purchase the assets of
Elek-Tek, Inc. for $29.4 million. As of December 31, 1997, the Company had
repaid $10.8 million of the funds borrowed to purchase Elek-Tek. Total credit
line advances at December 31, 1997 were $16.3 million comprised of $9.9 million
of working capital loans borrowed for the acquisition of Elek-Tek and $6.4
million of floorplan inventory financing to purchase inventory. The Company was
in compliance with its credit line covenants at December 31, 1997.
At December 31, 1997, the Company had cash and short-term investments of over
$8.0 million and working capital of $31.6 million. The Company believes that
current working capital, together with cash flows from operations and available
lines of credit, will be adequate to support the Company's current operating
plans through 1998, including increased investments in 1998 to develop uBid.
27
However, if the Company needs extra funds, such as for acquisitions or
expansion, or to fund a significant downturn in sales that causes losses, there
are no assurances that adequate financing will be available at acceptable terms.
In July 1996, the Company announced its plan to repurchase up to 1,000,000
shares of its Common Stock. The shares will be repurchased from time to time at
prevailing market prices, through open market or negotiated transactions,
depending upon market conditions. No limit was placed on the duration of the
repurchase program. There is no guarantee as to the exact number of shares that
the Company will repurchase. Subject to applicable securities laws, repurchases
may be made at such times and in such amounts as the Company's management deems
appropriate. The program can also be discontinued at any time management feels
additional purchases are not warranted. The Company will finance the repurchase
plan with existing working capital. As of December 31, 1997, the Company has
repurchased 15,000 shares.
As part of its growth strategy, the Company may, in the future, acquire other
companies in the same or complementary lines of business. Any such acquisition
and the ensuing integration of the operations of the acquired company with those
of the Company would place additional demands on the Company's management,
operating and financial resources. The Company currently has no definitive
agreements with respect to any acquisitions.
YEAR 2000
The Company continues to assess its exposure related to the impact of the
Year 2000 date issue. The Year 2000 date issue arises from the fact that many
computer programs use only two digits to identify a year in a date field. The
Company's products and key financial and operational systems are being reviewed
and, where required, detailed plans are being developed and will be implemented
on a schedule intended to permit the Company's computer systems and products to
continue to function properly. The Year 2000 date conversion effort is expected
to increase costs in 1998 and 1999. While final cost estimates are not complete,
management does not expect these costs will have a material adverse impact on
the Company's financial position, results of operations or cash flows. However,
the Company could be adversely impacted by the Year 2000 date issue if the
Company or its suppliers, customers and other businesses do not address this
issue successfully. Management continues to assess these risks in order to
reduce the impact on the Company.
INFLATION
Inflation has not had a material impact upon operating results, and the
Company does not expect it to have such an impact in the near future. There can
be no assurances, however, that the Company's business will not be so affected
by inflation.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements, notes to consolidated financial
statements and report of independent accountants required hereunder are indexed
on page F-1 of this report and are incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
28
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information regarding directors of the Company is set forth under the caption
"Election of Directors," in the Company's definitive Proxy Statement to be filed
in connection with its 1998 Annual Meeting of Stockholders and such information
is incorporated herein by reference. A list of executive officers of Registrant
is included in Part I of this report. Effective as of March 1, 1998, the
Company accepted Al S. Joseph's resignation as a director of the Company.
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT
Section 16(a) of the Securities Exchange Act of 1934 requires the Company's
officers and directors, and persons who own more than 10% of a registered class
of the Company's equity securities, to file an initial report of ownership on
Form 3 and changes in ownership on Form 4 or 5 with the Securities and Exchange
Commission (the "Commission"). Such officers, directors and 10% stockholders
are also required by the Commission rules to furnish the Company with copies of
all Section 16(a) forms they file.
Based solely on its review of the copies of such forms received by it, or
written representations from certain reporting persons the Company believes that
during 1997 all Section 16(a) filing requirements applicable to its officers,
directors and 10% stockholders were complied with except that Ahmed Alfi was one
day late in filing his Form 5. In 1996, one of the Company's directors, Sam
Khulusi, filed a late Form 4 regarding the purchase of 150,000 shares.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is set forth under the caption
"Executive Compensation and Other Information" in the Company's definitive Proxy
Statement to be filed in connection with its 1998 Annual Meeting of Stockholders
and such information is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is set forth under the caption
"Security Ownership of Certain Beneficial Owners and Management" in the
Company's definitive Proxy Statement to be filed in connection with its 1998
Annual Meeting of Stockholders and such information is incorporated herein by
reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is set forth under the captions
"Executive Compensation and Other Information -- Certain Relationship and
Related Transactions and Compensation Committee Interlocks and Insider
Participation" in the Company's definitive Proxy Statement to be filed in
connection with its 1998 Annual Meeting of Stockholders and such information is
incorporated herein by reference.
29
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
The following consolidated financial statements of Registrant are filed as part
of this report:
(a) (1) Consolidated Financial Statements Page
----
(1) Report of Independent Accountants-Price Waterhouse LLP F-2
(2) Consolidated Balance Sheet at December 31, 1997 and 1996 F-3
(3) Consolidated Statement of Operations for the Years Ended F-4
December 31, 1997, 1996 and 1995
(4) Consolidated Statement of Stockholders' Equity F-5
for the Years Ended December 31, 1997, 1996 and 1995
(5) Consolidated Statement of Cash Flows for the Years F-6
Ended December 31, 1997, 1996 and 1995
(6) Notes to the Consolidated Financial Statements F-7
(2) Financial Statement Schedules
SCHEDULE II - Valuation and Qualifying Accounts F-20
All other schedules are omitted since the required information is not
present or is not present in amounts sufficient to require submission
of the schedule, or because the information required is included in the
consolidated financial statements and notes thereto.
(3) Exhibits
Reference is made to the Exhibit Index immediately preceding the
exhibits hereto for the exhibits included herein.
(b) Reports on Form 8-K.
The Company filed a Form 8-K on October 27, 1997 in connection with the
acquisition of Elek-Tek, Inc. On December 29, 1997, the Company filed
an amended Form 8-K/A to file pro forma financial information.
30
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Torrance,
State of California, on March 30, 1998.
CREATIVE COMPUTERS, INC.
By: FRANK F. KHULUSI
-------------------------------------
Frank F. Khulusi
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
FRANK F. KHULUSI Chairman of the Board of March 30, 1998
- ------------------------
Frank F. Khulusi Directors, President and
Chief Executive Officer
(Principal Executive Officer)
RICHARD M. FINKBEINER Chief Financial Officer March 30, 1998
- -------------------------
Richard M. Finkbeiner (Principal Financial and
Accounting Officer)
SAM U. KHULUSI* Director March 30, 1998
- -------------------------
Sam U. Khulusi
AHMED O. ALFI* Director March 30, 1998
- -------------------------
Ahmed O. Alfi
*By Richard M. Finkbeiner,
Attorney-in-Fact
31
CREATIVE COMPUTERS, INC.
Exhibit Index
Exhibit Number Description
- -------------- -----------
3.1 Certificate of Incorporation of the Company*
3.2 Bylaws of the Company*
10.1 1994 Stock Incentive Plan and form of stock option agreement*
10.2 Employment Agreement dated January 1, 1995, between Creative Computers,
Inc. and Frank F. Khulusi*
10.4 Employment Agreement dated January 1, 1994, between Creative Computers,
Inc. and Dan DeVries*
10.5 Standard Industrial/Commercial Single-Tenant Lease-Net dated February
10, 1993 between Herman Platt and Marjorie Platt, as Co-Trustees of the
Herman Platt and Marjorie Platt Trust dated October 11, 1985 and
Creative Computers, Inc. for the premises located at 2645 Maricopa
Street, Torrance, California**
10.6 ITT Commercial Financial Corporation ("ITT") financing arrangements:
a. Agreement for Wholesale Financing (Security Agreement-Arbitration)
dated April 4, 1991, as amended, between ITT and Creative
Computers, Inc.*
10.13 Warrant to Purchase Common Stock of Creative Computers, Inc. dated
September 29, 1994 in favor of Creative Partners, L.P.*
10.14 Security Agreement dated as of September 26, 1994 by Creative
computers, Inc. in favor of Creative Partners, L.P.*
10.18 Form of Directors' Non-Qualified Stock Option Plan*
10.22 Agreement dated August 1, 1995 between Creative Computers, Inc. and
Deutsche Financial Services (formerly known as ITT Commercial Finance
Corp.)**
10.25 Industrial Lease Agreement between Corporate Estates, Inc. and Creative
Computers, Inc. dated September 15, 1995 for the premises located at
4515 E. Shelby Drive, Memphis, Tennessee, filed in connection with the
Company's 10-Q for the quarter ended September 30, 1995****
10.26 Employment Agreement dated February 21, 1996, between Creative
Computers, Inc. and David R. Burcham, filed in connection with the
Company's 10-Q for the quarter ended March 31, 1996 as Exhibit 10.1
thereto****
10.27 Employment Agreement dated May 21, 1996, between Creative Computers,
Inc. and Richard M. Finkbeiner, filed in connection with the Company's
10-Q for the quarter ended June 30, 1996 as Exhibit 10.1 thereto****
10.28 Authorized Apple Dealer U.S. Sales Agreement dated August 29, 1996;
Authorized Apple Catalog Reseller Sales Agreement dated August 29,
1996; Dealer Apple Authorized Service Provider Agreement dated August
29, 1996; Apple Corporate Alliance Program Addendum to the Authorized
Apple Dealer Sales Agreement dated August 29, 1996****
10.29 Amendment to Agreement for Wholesale Financing dated February 25,
1997****
10.30 Asset Purchase Agreement dated September 27, 1997 between Creative
Computers, Inc. and Elek-Tek, Inc.***
10.31 Business Credit and Security Agreement dated October 14, 1997 between
Deutsche Financial Service Corporation and Elek-Tek Acquisition
Corp.***
10.32 Business Credit and Security Agreement dated October 14, 1997 between
Deutsche Financial Service Corporation and Creative Computers, Inc.***
10.33 Asset Purchase Agreement dated August 29, 1997 between Creative
Computers, Inc. and ComputAbility, Ltd.
32
CREATIVE COMPUTERS, INC.
Exhibit Index
Exhibit Number Description
- -------------- -----------
13.1 Consolidated Financial Statements and Report of Independent Accountants
21.1 Subsidiaries**
23.1 Consent of Price Waterhouse LLP
24.1 Power of Attorney
27.1 Financial Data Schedule (filed with EDGAR version only)
* Incorporated by reference from the Company's Registration Statement on
Form S-1 (33-89572) declared effective on April 4, 1995.
** Incorporated by reference from the Company's Registration Statement on
Form S-1 (33-95416) declared effective on August 23, 1995.
*** Incorporated by reference from the Company's Form 8-K dated [October 11,
1997]
**** Incorporated by reference from the Company's 1996 Form 10-K dated [March
27, 1996].
33