================================================================================
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-----------------
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 29, 2001
Commission File Number 0-23669
SHOE PAVILION, INC.
(Exact name of registrant as specified in its charter)
Delaware 94-3289691
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3200-F Regatta Boulevard,
Richmond, California 94804
(Address of principal executive offices) (Zip Code)
-----------------
Telephone Number: (510) 970-9775
Securities Registered Pursuant to Section 12(b) of the Act:
Name of each exchange
Title of each class on which registered
------------------- -------------------
None None
Securities Registered Pursuant to Section 12(g) of the Act:
Common Stock
(Title of Class)
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. [X]
At March 19, 2002 the aggregate market value of the registrant's Common
Stock held by non-affiliates of the registrant was approximately $3,818,000.
At March 19, 2002 the number of shares outstanding of registrant's Common
Stock was 6,800,000.
DOCUMENTS INCORPORATED BY REFERENCE
Definitive Proxy Statement for the Company's 2001 Annual Meeting of
Stockholders--Part III of this Form 10-K.
================================================================================
Shoe Pavilion, Inc.
Index to Annual Report on Form 10-K
For the year ended December 29, 2001
Page
----
PART I
Item 1 Business.................................................................. 3
Item 2 Properties................................................................ 8
Item 3 Legal Proceedings......................................................... 8
Item 4 Submission of Matters to a Vote of Security Holders....................... 8
PART II
Item 5 Market for the Registrant's Common Equity and Related Stockholder Matters. 9
Item 6 Selected Financial Data................................................... 10
Item 7 Management's Discussion and Analysis of Financial Condition and Results of
Operations.............................................................. 11
Item 7A Quantitative and Qualitative Disclosure About Market Risk................. 20
Item 8 Financial Statements and Supplementary Data............................... 21
Item 9 Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure.............................................................. 34
PART III
Item 10 Directors and Executive Officers of the Registrant........................ 34
Item 11 Executive Compensation.................................................... 34
Item 12 Security Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters..................................................... 34
Item 13 Certain Relationships and Related Transactions............................ 34
PART IV
Item 14 Exhibits, Financial Statement Schedules and Reports on Form 8-K........... 34
2
PART I
Item 1--Business
General
Shoe Pavilion, Inc. is the largest independent off-price footwear retailer
on the West Coast that offers a broad selection of women's and men's designer
label and name brand merchandise. The Company was among the first footwear
retailers on the West Coast to expand the off-price concept into the designer
and name brand footwear market. As of December 29, 2001 the Company operated 83
retail stores in California, Washington and Oregon under the trade name Shoe
Pavilion. In addition, as of December 29, 2001, the Company operated the shoe
department of 38 Gordmans, Inc. (formerly Richman Gordman 1/2 Price Stores,
Inc.) department stores in Colorado, Illinois, Iowa, Kansas, Missouri,
Nebraska, North Dakota, Oklahoma and South Dakota under a licensing agreement
entered into in July 1999. On June 29, 2002, the initial term of the license
agreement with Gordmans department stores will expire and the Company will no
longer operate the 38 licensed shoe departments in Gordmans department stores.
See "Item 7--Management's Discussion and Analysis of Financial Condition and
Results of Operations--Overview."
The Company offers quality designer and name brand footwear such as Diesel,
Fila, Ralph Lauren, Rockport, Steve Madden, Vans and Via Spiga, typically at
30% to 70% below regular department store prices. Such price discounts appeal
to value-oriented consumers seeking quality brand name footwear not typically
found at other off-price retailers or mass merchandisers. The Company is able
to offer lower prices by (i) selectively purchasing from manufacturers at
significant discounts, large blocks of production over-runs, over-orders, mid-
and late-season deliveries and last season's stock, (ii) sourcing in-season
name brand and branded design merchandise directly from factories in Italy,
Brazil, China and Spain and (iii) negotiating favorable prices with
manufacturers by ordering merchandise during off-peak production periods and
taking delivery. During 2001, the Company purchased footwear merchandise from
over 100 domestic and international vendors, independent resellers and
manufacturers that frequently have excess inventory for sale.
The Company's stores utilize a self-service format that allows inventory to
be stored directly under a displayed shoe, thereby eliminating the need for a
stockroom and significantly increasing retail floor space. The functionality
and simplicity of this format enable flexible store layouts that can be easily
reconfigured to accommodate a new mix of merchandise. Moreover, this format
allows customers to locate all available sizes of a particular shoe and to try
them on for comfort and fit without a salesperson's assistance, thereby
reducing in-store staffing needs and allowing customers to make independent,
purchasing decisions.
Shoe Pavilion is a standardized concept that offers a bright, clean, low
maintenance and functional shopping environment to customers interested in
purchasing quality men's and women's value priced footwear. The Company's
stores are strategically located in strip malls, outlet centers and downtown
locations, frequently in close proximity to other off-price apparel retailers
that attract similar customers. Shoe Pavilion stores average approximately
7,500 square feet, while the Gordmans licensed shoe departments average
approximately 3,000 square feet. The Company opened, net of closures, 5 stores
(including 2 Gordmans shoe departments) in 2001, 5 stores (including 3
Gordmans' shoe departments) in 2000 and 42 stores (including 33 Gordmans' shoe
departments) in 1999. During 2002, the Company intends to open 5 to 10 new
stores, primarily in California. It also expects to close 3 Shoe Pavilion
stores and all 38 of the Gordmans licensed shoe departments as of June 29, 2002.
The Company was incorporated in Delaware in November 1997 and is the
successor to Shoe Pavilion Corporation (formerly Shoe Inn, Inc.), which was
incorporated in Washington in 1983. The Company's executive offices are located
at 3200-F Regatta Boulevard, Richmond, California 94804, and its telephone
number is (510) 970-9775.
3
Operating Strategy
The Company's objective is to be the leading off-price retailer of designer
label and name brand footwear in each of the markets it serves. The operating
strategy is designed to allow the Company to offer its customers quality
footwear typically at 30% to 70% below department store prices for the same
shoes. The following summarizes key elements of the Company's operating
strategy:
. Off-Price Concept, Premium Name Brands. The Company differentiates
itself from other off-price retailers and deep discount chains by
focusing on higher price point merchandise, extending the off-price
concept into the designer and name brand footwear market. As a result,
the Company generally does not compete with other discount stores in
obtaining the majority of its merchandise. Similarly, while some
department store and brand name retail chains operate discount outlets,
such operations generally obtain merchandise from the existing inventory
of their retail affiliates rather than from external sources. Some of the
Company's most successful stores have benefited from the heightened
consumer awareness and preference to shop at discount malls or outlet
centers, both of which typically include other off-price retailers.
. Broad Selection of Designer Footwear. The Company offers a broad
selection of quality footwear from over 75 name brands such as Diesel,
Fila, Ralph Lauren, Rockport, Steve Madden, Vans and Via Spiga. The
availability and wide variety of premium brand names distinguish Shoe
Pavilion and serve to attract first time buyers and consumers who
otherwise might shop at more expensive department stores. The wide
variety of brand names also enables the Company to tailor its merchandise
from store to store to accommodate consumer preferences that may vary by
location.
. Selective Bulk Purchases; Diverse Vendor Network. The Company is able to
offer lower prices by selectively purchasing large blocks of over-runs,
over-orders, mid- and late-season deliveries and last season's stock from
over 100 domestic and international vendors, independent resellers and
manufacturers at significant discounts. The diversity and scope of its
vendor network help to provide a constant source of quality merchandise,
and the purchase of name brand, traditional styles helps to mitigate the
likelihood of inventory writedowns. To augment available merchandise with
the latest in-season styles, the Company purchases branded design
footwear directly from factories in Italy, Brazil, China and Spain.
. Self-Service Stores. The Company believes that the self-service format
reinforces its off-price strategy and appeals to value-oriented
consumers. The Company's format allows inventory to be stored directly
under a displayed shoe, thereby eliminating the need for a stockroom and
significantly increasing retail floor space. The functionality and
simplicity of this format enable flexible store layouts that can be
easily rearranged to complement the current merchandise. Moreover, this
format allows customers to locate all available sizes of a particular
shoe and to try them on for comfort and fit without a salesperson's
assistance, thereby reducing in-store staffing needs and allowing
customers to make independent, purchasing decisions.
Growth Strategy
Since opening its first store in 1979 in Washington, the Company has
expanded to 121 stores, including 38 licensed shoe departments, in twelve
states. The Company intends to continue to expand by opening new stores and
increasing comparable store sales. On June 29, 2002, the initial term of the
license agreement with Gordmans department stores will expire and the Company
will no longer operate the 38 licensed shoe departments in Gordmans department
stores. Net sales for the licensed shoe departments in 2001 were $14.5 million.
. Continue New Store Openings. The Company intends to increase its
presence in its current markets and to enter new markets by selectively
opening new stores, which can be served by the Company's business support
and distribution infrastructure. When entering a new market, the Company
prefers to open multiple stores, thereby creating an immediate market
presence and enabling television advertising
4
costs to be spread economically across a number of stores. The Company
opened 6 stores and 2 licensed shoe departments in 2001, 7 stores and 3
licensed shoe departments in 2000 and 17 stores and 33 licensed shoe
department locations in 1999. The Company closed 3 stores in 2001, 5
stores in 2000, and 8 stores in 1999. During 2002, the Company intends to
open 5 to 10 new stores, primarily in California. Management believes
that new store openings in the Company's current markets will further
increase name recognition, which, in turn, will facilitate expansion into
new markets.
. Increase Comparable Store Sales. During the past several years,
comparable store sales have been subject to wide fluctuations. Comparable
store sales decreased 5.9% in 2001 and increased 9.4% in 2000 after
experiencing a 1.2% downturn in 1999. In an effort to improve comparable
store sales performance, management intends to focus on refining its
sales efforts, including merchandise selection, advertising and
promotions.
The Company's ability to execute its operating and growth strategy is
subject to numerous risks and uncertainties. Also certain events such as local
economic downturns or September 11, 2001 are beyond the control of management.
Consequently, there can be no assurance that the Company will be successful in
implementing its strategy or that its strategy, even if implemented, will lead
to successful achievement of the Company's objectives.
Merchandising
Unlike deep-discount retailers, Shoe Pavilion offers high quality
merchandise and a consistent selection of name brand dress and casual shoes for
men and women. List prices generally range between $19.99 and $69.99 for
women's shoes, and between $39.99 and $99.99 for men's shoes. The principal
categories of footwear offered by Shoe Pavilion stores, and selected brands for
each, are summarized in the following table:
Women's Men's Athletic
------- ----- --------
BCBG Airwalk Adidas
Diesel Bass Asics
Hush Puppies Dexter Avia
Life Stride Lugz Converse
Ralph Lauren Nunn Bush Fila
Rockport Rockport New Balance
Steve Madden Skechers Saucony
Via Spiga Timberland Vans
Site Selection, Opening Costs and Leases
The Company uses an exclusive broker on the West Coast to identify potential
retail sites as well as possible acquisition candidates. Before entering a new
market, management reviews detailed reports on demographics; spending, traffic,
and consumption patterns; and other site and market related data. As of
December 29, 2001, 43 of the Company's stores were located in strip malls, 12
were located in outlet centers, 10 were located in free standing stores and 18
were located in other types of facilities.
Opening costs for stores are typically minimal, excluding the initial
stocking of inventory. The Company estimates that its total capital
requirements to open a typical new store average $360,000, consisting of
approximately $300,000 for inventory and $60,000 for fixtures and equipment,
excluding leasehold improvements which are occasionally paid for by the
landlord allowances. Costs vary from store to store depending on, among other
things, the location, size, property condition, and the tenant improvement
package offered by the landlord. The Company does not own any of its real
estate.
In July 1999, the Company entered into a license agreement to operate 33
shoe departments at Gordmans, Inc., a Midwest name brand family apparel,
accessories and home fashions off-price retailer. All of the shoe
5
departments are located within Gordmans department stores, which are primarily
located in strip centers or free standing locations. Because there are no
leasehold improvement or equipment requirements and licensed shoe departments
average approximately one-half the size of Company stores, opening costs are
substantially less than Shoe Pavilion stores. Opening costs for licensed shoe
departments are primarily for fixtures and inventory, and average $125,000,
consisting of approximately $25,000 for fixtures and $100,000 for inventory.
Sourcing And Purchasing
Vendors. During 2001, the Company purchased its inventory from over 100
domestic and international vendors and independent resellers who over bought
merchandise. In 2001, the Company's top ten suppliers accounted for
approximately 30% of its inventory purchases. No vendor accounted for more than
10% of total inventory purchases in 2001. The Company purchases from its
suppliers on an order-by-order basis and has no long-term purchase contracts or
other contractual assurances of continued supply or pricing. Since the Company
has locations in a number of markets along the West Coast and the Midwest, Shoe
Pavilion can accommodate and distribute a wide variety of merchandise that
meets the needs of customers in different geographic areas. Management believes
that the strength and variety of its supplier network mitigates much of the
Company's exposure to inventory supply risks. See "Item 7--Management's
Discussion and Analysis of Financial Condition and Results of
Operations--Factors Affecting Financial Performance--Inventory and Sourcing
Risk."
Direct Sourcing. The Company purchases in-season name brand and branded
design merchandise directly from factories in Italy, Brazil, China and Spain.
These purchases include both branded and non-branded goods and provide a
consistent source of in-season merchandise. Directly sourced goods accounted
for approximately 9.1% and 13.4% of the Company's net sales in 2001 and 2000
respectively. The Company purchases from its manufacturing sources on an
order-by-order basis and has no long-term purchase contracts or other
contractual assurances of continued supply or pricing. See "Item
7--Management's Discussion and Analysis of Financial Condition and Results of
Operations--Factors Affecting Financial Performance--International Purchasing."
Marketing
The Company believes that television advertising benefits all stores in a
common viewing market. In 2001 the Company spent 3.2% of net sales or $2.8
million, net of vendor contributions. In 2000 the amount was 4.7% of net sales,
or $4.3 million, net of vendor contributions. In 1999, the amount was 3.3% of
net sales, or $2.4 million, net of vendor contributions. The Company believes
that advertising costs for a particular market will be more effectively and
economically leveraged as the number of stores increases in that market. The
Company occasionally uses print advertising, usually at the time of a new store
opening; however, it has found print advertising to be less effective than
television advertising. Shoe Pavilion's signage is consistent at all of its
locations, with highly visible signage at the front and, when appropriate, rear
of the store.
Merchandise Distribution
During the year ended December 29, 2001 the Company's corporate offices and
distribution facility were located in a 92,000 square foot facility in
Richmond, California, which the Company occupied under a lease that expired in
February 2002. The Company decided not to renew the lease and instead engaged a
third party that began providing the warehousing and distribution services for
the Company in February 2002. The Company will lease separate office space for
its merchandising and administrative staff. The Company believes greater
operating efficiencies and cost savings will be achieved by outsourcing its
warehouse activities. The Company is currently leasing its present office space
on a month to month basis.
Information Systems
During 1999, the Company completed an upgrade of its information systems on
an enterprise-wide basis, including all critical areas of corporate office,
network infrastructure and point of sale (POS). This fully
6
integrated upgrade, uses an IBM AS 400 that is reliable and scalable, allowing
simple upgrades of processing power as the business grows. In addition, the
corporate network infrastructure was upgraded to a Windows NT environment with
standardized workstations and a common set of desktop applications that may be
used throughout the Company. This upgrade provided a stable networking
environment as well as a foundation for future growth.
Competition
The retail footwear market is highly competitive, and the Company expects
the level of competition to increase. The Company competes with off-price and
discount retailers (e.g., Nordstrom Rack, Payless ShoeSource, Ross Dress for
Less and Famous Footwear), branded retail outlets (e.g., Nine West), national
retail stores (e.g., Nordstrom, Marshalls, Macy's, Sears, J.C. Penney,
Loehmann's, Robinsons-May and Mervyn's), traditional shoe stores and mass
merchants. Many of these competitors have stores in the markets in which the
Company now operates and in which it plans to expand. Additionally, many of the
competitors are larger and have more resources than the Company.
Employees
As of December 29, 2001, the Company had approximately 321 full-time
employees and 517 part-time employees. The number of part-time employees
fluctuates depending upon seasonal needs. The Company's 31 warehouse employees
in Richmond, CA were represented by Local 315, International Brotherhood of
Teamsters. In December 1998, the Company signed a collective bargaining
agreement with Local 315 that terminated on January 31, 2002. Because the
Company has outsourced its warehousing and distribution activities to a third
party vendor, the contract with the International Brotherhood of Teamsters was
not renewed.
Executive Officers
Certain information regarding the executive officers of the Company is set
forth below:
Name Age Position
---- --- --------
Dmitry Beinus... 49 Chairman of the Board and Chief Executive Officer
Robert R. Hall.. 49 Vice President and Chief Operating Officer
John D. Hellmann 52 Vice President of Finance, Chief Financial Officer, and Secretary
Dmitry Beinus has served as Chairman of the Board, President and Chief
Executive Officer of the Company since founding the Company in 1979. From 1976
to 1978, Mr. Beinus was employed in the shoe department of Nordstrom, Inc.
Robert R. Hall has served as Vice President and Chief Operating Officer of
the Company since January 1997. Mr. Hall joined the Company as a Regional
Manager in 1990, and has held various positions within the Company including
Operations Manager and Vice President of Merchandising.
John D. Hellmann has served as Vice President of Finance and Chief Financial
Officer of the Company since June 2000. From September 1995 until June 2000,
Mr. Hellmann served as Vice President and Chief Financial Officer of The Lamaur
Corporation, a manufacturer and wholesaler of hair care products. Mr. Hellmann
is a Certified Public Accountant.
The Company's executive officers serve at the discretion of the Board of
Directors. There is no family relationship between any of the Company's
executive officers or between any executive officer and any of the Company's
directors.
7
Item 2--Properties
As of December 29, 2001 the Company's corporate offices and distribution
facility were located in a 92,000 square foot facility in Richmond, California,
which the Company occupied under a lease that expired in February 2002. The
Company decided not to renew the lease and instead engaged a third party that
began providing the warehousing and distribution services for the Company in
February 2002. The Company will lease separate office space for its
merchandising and administrative staff. The Company believes greater operating
efficiencies and cost savings will be achieved by outsourcing its warehouse
activities. The Company is currently leasing office space on a month to month
basis. As of December 29, 2001 the Company's 83 stores occupied an aggregate of
approximately 623,000 square feet of space. The 38 licensed shoe departments
occupied an aggregate of approximately 114,000 square feet of space as of
December 29, 2001. The Company leases all of its stores, with leases expiring
between 2002 and 2011. The Company has options to renew most of its leases.
Store Locations
As of December 29, 2001, the Company operated 83 retail stores in the states
of California, Washington and Oregon and 38 licensed shoe departments in
Colorado, Illinois, Iowa, Kansas, Missouri, Nebraska North Dakota, Oklahoma and
South Dakota. The license agreement for the 38 shoe departments in Gordmans
department stores expires on June 29, 2002. The number of stores in each
geographic area is set forth below:
Stores at Year End
------------------------
Location 2001 2000 1999 1998 1997
-------- ---- ---- ---- ---- ----
Northern California 34 32 31 27 24
Southern California 35 33 30 25 16
Nevada............. 0 0 0 0 1
Oregon............. 4 4 4 4 2
Washington......... 10 10 13 13 12
Oklahoma........... 0 1 0 0 0
-- -- -- -- --
Total........... 83 80 78 69 55
== == == == ==
Licensed Shoe
Departments
--------------
Location 2001 2000 1999
-------- ---- ---- ----
Colorado.... 3 3 3
Illinois.... 3 3 1
Iowa........ 7 7 6
Kansas...... 5 5 5
Missouri.... 7 7 7
Nebraska.... 8 8 8
North Dakota 2 0 0
Oklahoma.... 2 2 2
South Dakota 1 1 1
-- -- --
38 36 33
== == ==
Item 3--Legal Proceedings
The Company is not a party to any material pending legal proceedings.
Item 4--Submission of Matters to a Vote of Security Holders
Inapplicable.
8
PART II
Item 5--Market for the Registrant's Common Equity and Related Stockholder
Matters
The common stock of the Company is traded on the Nasdaq SmallCap Market(R)
under the symbol SHOE. The following table sets forth, for the periods
indicated, the highest and lowest closing sale prices for the common stock, as
reported by the Nasdaq Market(R).
High Low
----- -----
2001
First Quarter. $2.44 $1.19
Second Quarter 1.42 0.90
Third Quarter. 1.14 0.86
Fourth Quarter 1.18 0.83
2000
First Quarter. $2.72 $1.75
Second Quarter 2.38 1.50
Third Quarter. 3.38 2.00
Fourth Quarter 3.06 1.13
After the Company went public its common stock was listed on the Nasdaq
National Market. On March 1, 2001 the Company received a Nasdaq Staff
Determination indicating that the Company had failed to comply with the Minimum
Market Value of Public Float requirement for continued listing and that its
shares were subject to delisting from The Nasdaq National Market. On April 6,
2001 the Company participated in a hearing with the Nasdaq Listing
Qualifications Panel to appeal the Nasdaq Staff Determination. On April 30,
2001 the Company was notified that the Panel determined to transfer the listing
of the Company's securities to The Nasdaq SmallCap Market. On May 3, 2001 the
listing of Company's securities were transferred from The Nasdaq National
Market to The Nasdaq SmallCap Market. The Company's securities continue to be
listed under the symbol SHOE.
As of December 29, 2001, there were approximately 15 holders of record of
the Company's common stock.
From August 1988 through February 1998, the Company made distributions to
its sole stockholder primarily to allow the stockholder to pay taxes on
earnings of the Company included or includable in the taxable income of the
stockholder as a result of the Company's S corporation status. Upon completion
of its initial public offering, the Company made an S corporation distribution
in the amount of $7.8 million to its previous sole stockholder, which
approximately equaled the estimated earned and previously undistributed taxable
S corporation income of the Company through the day preceding the termination
date of its S corporation status. Except as mentioned in the previous
sentences, the Company has not paid any cash dividends in the past. The Company
currently intends to retain any earnings for use in its business and does not
anticipate paying any cash dividends on its Common Stock in the foreseeable
future. In addition, the Company's line of credit restricts the Company's
ability to pay dividends. See Note 3 of Notes to Consolidated Financial
Statements.
9
Item 6--Selected Financial Data
The selected consolidated financial and operating data set forth below
should be read in conjunction with "Item 8--Financial Statements and
Supplementary Data--Consolidated Financial Statements of the Company and
related Notes thereto" and "Item 7--Management's Discussion and Analysis of
Financial Condition and Results of Operations" included herein.
Year Ended
---------------------------------------------------
2001 2000 1999 1998(1) 1997
------- ------- ------- ------- -------
(In thousands, except per share and operating data)
Statement of Operations Data:
Net sales....................................... $88,135 $91,058 $71,611 $55,907 $45,074
Cost of sales and related occupancy expenses.... 60,686 61,662 48,076 35,777 28,922
------- ------- ------- ------- -------
Gross profit.................................... 27,449 29,396 23,535 20,130 16,152
Selling expenses................................ 17,606 19,134 13,999 11,472 8,800
General and administrative expenses............. 6,861 7,014 5,655 3,664 3,106
------- ------- ------- ------- -------
Income from operations.......................... 2,982 3,248 3,881 4,994 4,246
Interest and other expense, net................. (626) (1,295) (633) (453) (520)
------- ------- ------- ------- -------
Income before income taxes...................... 2,356 1,953 3,248 4,541 3,726
Provision for income taxes...................... (895) (779) (1,233) (1,147) (261)
------- ------- ------- ------- -------
Net income...................................... $ 1,461 $ 1,174 $ 2,015 $ 3,394 $ 3,465
======= ======= ======= ======= =======
Net income per share:
Basic........................................ $ 0.21 $ 0.17 $ 0.30 $ 0.53 $ 0.77
Diluted...................................... $ 0.21 $ 0.17 $ 0.30 $ 0.52 $ 0.77
Weighted average shares outstanding:
Basic........................................ 6,800 6,800 6,800 6,462 4,500
Diluted...................................... 6,801 6,810 6,801 6,474 4,500
Pro Forma:
Historical income before income taxes........... -- -- -- $ 4,541 $ 3,726
Pro forma provision for income taxes(2)......... -- -- -- (1,748) (1,435)
------- ------- ------- ------- -------
Pro forma net income(2)......................... -- -- -- $ 2,793 $ 2,291
======= ======= ======= ======= =======
Pro forma net income per share(2)............... -- -- -- $ 0.42 --
Pro forma weighted average shares outstanding(2) -- -- -- 6,600 --
Selected Operating Data:
Number of stores:
Opened during period(3)...................... 8 10 50 16 16
Closed during period......................... 3 5 8 2 2
Open at end of period........................ 121 116 111 69 55
Comparable store sales increase (decrease)...... (5.9)% 9.4% (1.2)% 6.1% 4.6%
Year Ended
---------------------------------------------------
2001 2000 1999 1998 1997
------- ------- ------- ------- -------
Balance Sheet Data:
Working Capital................................. $22,839 $29,890 $14,305 $13,739 $ 6,045
Total assets.................................... 39,162 46,915 41,613 33,534 22,646
Total indebtedness (including current portion).. 4,647 14,037 8,075 8,494 7,658
Stockholders' equity............................ 21,678 20,217 19,043 17,028 7,328
--------
(1) In 1998, the Company changed its year end to a 52-53 week year ending on
the Saturday nearest to December 31. Due to this change, sales for the
fourth quarter and year ended January 2, 1999 include two
10
additional days; had these days not been included comparable store sales
would have increased 5.3% for the year ended January 2, 1999. All references
herein to 1998 refer to the year ended January 2, 1999.
(2) Prior to February 1998, the Company operated as an S corporation and was
not subject to federal and certain state income taxes. Upon the completion
of its initial public offering, the Company became subject to federal and
state income taxes. Pro forma net income reflects federal and state income
taxes as if the Company had not elected S corporation status for income tax
purposes. Pro forma net income per share is based on the weighted average
number of shares of common stock outstanding during the period plus the
estimated number of shares offered by the Company (1,271,722 shares) which
were necessary to fund the $7.8 million distribution paid to the Company's
stockholder upon termination of the Company's status as an S corporation.
(3) 2001, 2000 and 1999 include 2, 3 and 33 licensed shoe departments,
respectively, operated pursuant to a license agreement with Gordmans, Inc.
Item 7--Management's Discussion and Analysis of Financial Condition and Results
of Operations
The statements contained in this Form 10-K which are not historical facts
are forward-looking statements that are subject to risks and uncertainties that
could cause actual results to differ materially from those set forth in or
implied by forward-looking statements. Factors that could cause or contribute
to such differences include those discussed in the Company's filings with the
Securities and Exchange Commission, including, without limitation, the factors
discussed in this Form 10-K under the captions--"Factors Affecting Financial
Performance" and "Liquidity and Capital Resources," as well as those discussed
elsewhere in this Form 10-K.
Overview
Shoe Pavilion is the largest independent off-price footwear retailer on the
West Coast that offers a broad selection of women's and men's designer label
and name brand merchandise. The Company was among the first footwear retailers
on the West Coast to expand the off-price concept into the designer and name
brand footwear market. As of December 29, 2001 the Company operated 83 retail
stores in California, Washington and Oregon under the trade name Shoe Pavilion.
In addition, as of December 29, 2001, the Company operated the shoe department
of 38 Gordmans, Inc. (formerly Richman Gordman 1/2 Price Stores, Inc.)
department stores in Colorado, Illinois, Iowa, Kansas, Missouri, Nebraska,
North Dakota, Oklahoma and South Dakota under a licensing agreement entered
into in July 1999. On June 29, 2002, the initial term of the license agreement
with Gordmans department stores will expire and the Company will no longer
operate the 38 licensed shoe departments in Gordmans department stores.
The Company opened, net of closures, 5 stores in both 2001 and 2000, and 42
new stores in 1999. During 2002, the Company intends to open approximately 5 to
10 new stores, primarily in California. It also expects to close 3 stores and
38 licensed shoe departments in 2002.
The Company's growth in net sales historically has resulted primarily from
the opening of new stores. In 2000 and 1999 the Company also experienced growth
in net sales as a result of the opening of 36 shoe departments pursuant to a
licensing agreement entered into with Gordmans in 1999. The Company expects
that the primary source of future sales growth will continue to be new store
openings. Because the Company's comparable store sales have fluctuated widely,
the Company does not expect that comparable store sales will contribute
significantly to future growth in net sales. The Company defines comparable
stores as those stores that have been open for at least 14 consecutive months.
Stores open less than 14 consecutive months are treated as new stores, and
stores closed during the period are excluded from comparable store sales. The
Company's comparable store sales decreased 5.9% in 2001, increased 9.4% in 2000
and decreased 1.2% in 1999. Net sales will be impacted as the Company will no
longer operate the 38 licensed shoe departments after June 29, 2002. Net sales
generated from the licensed shoe departments were $14.5 million for the year
ended December 29, 2001. In addition, these stores generated a store operating
contribution before overhead, distribution costs,
11
interest and taxes of approximately $2.9 million. The Company does not allocate
overhead, distribution costs, interest or taxes to stores. The majority of the
overhead costs which consist of costs such as merchandising, accounting,
information systems, rent and insurance are shared expenses of the Shoe
Pavilion stores and the licensed shoe departments. The Company does not expect
to incur significant costs in connection with the termination of the license
agreement.
The Company seeks to acquire footwear merchandise on favorable financing
terms and in quantities large enough to support future growth. This strategy
causes an increase in inventory levels at various times throughout the year. As
a result, similar to other off-price retailers, the Company's inventory
turnover rates are typically less than full-price retailers.
Critical Accounting Policies and Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires the appropriate application of certain
accounting policies, many of which require management to make estimates and
assumptions about future events and their impact on amounts reported in the
Company's financial statements and related notes. Since future events and their
impact cannot be determined with certainty, the actual results will inevitably
differ from the Company's estimates. Such differences could be material to the
financial statements.
Management believes that the Company's application of accounting policies,
and the estimates inherently required therein, are reasonable. These accounting
policies and estimates are constantly reevaluated, and adjustments are made
when facts and circumstances dictate a change. Historically, management has
found the Company's application of accounting policies to be appropriate, and
actual results have not differed materially from those determined using
necessary estimates.
The Company's accounting policies are more fully described in Note 2 to the
financial statements, located elsewhere in this Form 10-K. The Company has
identified certain critical accounting policies which are described below.
Merchandise inventory. Merchandise inventory is carried at the lower of
average cost or market. The Company makes certain assumptions to adjust
inventory based on historical experience and current information in order to
assess that inventory is recorded properly at the lower of cost or market.
These assumptions can have a significant impact on current and future operating
results and financial position.
Fixed assets. In evaluating the fair value and future benefits of fixed
assets, the Company performs an analysis of the anticipated undiscounted future
net cash flows of the related fixed assets and reduce their carrying value by
the excess, if any, of the result of such calculation. The Company believes at
this time that the fixed assets' carrying values and useful lives continue to
be appropriate.
12
Results of Operations
The following table sets forth, for the periods indicated, the relative
percentages that certain income and expense items bear to net sales:
2001 2000 1999
----- ----- -----
Net sales.......................... 100.0% 100.0% 100.0%
Gross profit....................... 31.1 32.3 32.9
Selling expenses................... 20.0 21.0 19.6
General and administrative expenses 7.8 7.7 7.9
----- ----- -----
Income from operations............. 3.3 3.6 5.4
Interest and other expenses, net... (0.7) (1.4) (0.9)
----- ----- -----
Income before income taxes......... 2.6 2.2 4.5
Provision for income taxes......... (1.0) (0.9) (1.7)
----- ----- -----
Net income......................... 1.6% 1.3% 2.8%
===== ===== =====
2001 Compared with 2000
Net Sales. Net sales decreased 3.2% to $88.1 million for 2001 from net
sales of $91.1 million for 2000. The decrease in net sales is principally
attributable to the decline in comparable store net sales of 5.9% or
$4.6 million. The decline in comparable store net sales was partially offset by
net sales generated from five stores opened in 2001 (net of three closed) and
the effect of a full year of sales for five stores opened in 2000 (net of five
closed). Net sales in 2002 will be impacted by the effects of the expiration of
the initial term of the license agreement with Gordmans department stores. As a
result of this expiration the Company will no longer operate the 38 licensed
shoe departments after June 29, 2002. Net sales for the licensed shoe
departments in 2001 were $14.5 million.
Gross Profit. Cost of sales includes landed merchandise and occupancy costs
and the license fee paid to Gordmans for the licensed shoe departments. Gross
profit decreased 6.6% to $27.4 million from $29.4 million in 2000. Gross profit
as a percentage of net sales decreased to 31.1% in 2001 from 32.3% in 2000,
principally due to the increase in occupancy costs of 1.6% as a percentage of
net sales. This increase in occupancy costs as a percentage of net sales was
primarily driven by the decrease in comparable store net sales in 2001.
Selling Expenses. Selling expenses decreased 8.0% to $17.6 million in 2001
from $19.1 million in 2000 and decreased as a percentage of net sales to 20% in
2001 from 21.0% in 2000. The decrease in selling expenses is principally due to
a $1.5 million reduction in advertising in 2001 compared to 2000. For 2001
advertising costs were $2.8 million or 3.2% of net sales compared to $4.3
million or 4.7% of net sales in 2000. This was in part due to a decrease in
advertising for the licensed shoe departments of approximately $.8 million. The
Company intends to increase advertising as a percentage of net sales in 2002 in
an effort to increase sales.
General and Administrative Expenses. General and administrative expenses
consist primarily of corporate and administrative expenses, including payroll,
employee benefits and warehousing costs. General and administrative expenses
remained relatively unchanged at $6.9 million or 7.8% of sales compared with
$7.0 million or 7.7% for 2000.
Interest Expense. Interest expense decreased 39.2% to $.7 million in 2001
from $1.1 million in 2000. This decrease was primarily attributable to a lower
average interest rate and reduced average borrowings on the Company's revolving
line of credit. The weighted average interest on the Company's borrowings in
2001 decreased to 6.4% from 8.4% in 2000. The Company was able to reduce its
average borrowings primarily through funds generated from the $6.8 million
reduction in inventory during 2001.
13
Income Taxes. The effective tax rate in 2001 decreased to 38.0% compared to
39.9% in 2000. The decrease in the effective tax rate in 2001 is primarily due
to the benefit of certain state tax credits realized in 2001.
2000 Compared with 1999
Net Sales. Net sales increased 27.2% to $91.1 million for 2000 from net
sales of $71.6 million for 1999. Approximately $18.8 million of the increase in
net sales is attributable to the increase in new store sales, including sales
from the new licensed shoe departments. In addition, the Company's comparable
store net sales increased $4.8 million or 9.4%. These increases were partially
offset by store closings.
Gross Profit. Cost of sales includes landed merchandise and occupancy costs
and the license fee paid to Gordmans for the licensed shoe departments. Gross
profit increased 24.9% to $29.4 million from $23.5 million for 1999. This
increase in gross profit dollars is attributable to the increase in net sales
in 2000. Gross profit as a percentage of net sales decreased slightly to 32.3%
for 2000 from 32.9% for 1999. This reduction in the gross profit percentage is
principally due to higher merchandise cost as a percentage of sales, which was
partially offset by the decrease in occupancy costs as a percentage of sales.
The Company was able to reduce its occupancy costs as a percent of sales by
leveraging both its increase in comparable store sales and the license fee paid
for the shoe departments the Company operates.
Selling Expenses. Selling expenses consist principally of payroll and
related costs, advertising and promotional expenses, freight out and credit
card processing fees. Selling expenses increased by 36.7% to $19.1 million for
2000 from $14.0 million in 1999 and increased as a percentage of sales to 21.0%
in 2000 from 19.6% in 1999. The increase in selling expenses is primarily
attributable to the increase in advertising, payroll costs, freight out and
credit card fees, which were in part directly related to the increase in net
sales in 2000. The increase in selling expenses as a percentage of net sales is
principally the result of the increase in advertising costs. For 2000,
advertising costs were $4.3 million or 4.7% of net sales compared to $2.4
million or 3.3% of net sales for 1999.
General and Administrative Expenses. General and administrative expenses
increased 24% to $7.0 million for 2000 from $5.7 million for 1999 and decreased
slightly as a percentage of net sales to 7.7% in 2000 from 7.9% in 1999. The
increase in general and administrative expenses was primarily attributable to
increased administrative and warehouse payroll costs, information system costs
related to the computer system installed in 1999 and increased enrollment in
the Company's employee benefit plan.
Interest and Other Expense, Net. Interest and other expense, net, increased
to $1.3 million for 2000 from $.6 million for 1999. The increase was primarily
attributable to higher average borrowings on the Company's revolving line of
credit to fund increased inventory levels related in part to the higher sales
in 2000. In addition, the weighted average interest rate in 2000 increased to
8.4% from 6.8% in 1999.
Income Taxes. In 2000 a greater portion of the Company's business was
generated in states with a higher tax rate compared with 1999. As a result the
effective tax rate for 2000 increased to 39.9% from 38.0% in 1999.
Inflation
The Company does not believe that inflation has had a material impact on its
results of operations. There can be no assurance, however, that inflation will
not have such an effect in future periods.
Liquidity and Capital Resources
Historically, the Company has funded its cash requirements primarily through
cash flows from operations and borrowings under its credit facility. Net cash
provided (used) by operating activities was $10.0 million,
14
($4.8) million and $2.4 million for 2001, 2000 and 1999, respectively. Net cash
provided (used) by operating activities historically has been driven primarily
by net income before depreciation and fluctuations in inventory and accounts
payable. The increase in the cash provided from operating activities in 2001
was principally due to the $6.8 million reduction in inventory for the year
ended December 29, 2001. This reduction in inventory was in part a result of
the Company's focus on strengthening its financial condition. In 2000 and 1999
the Company's inventory levels had increased primarily due to the net increase
in the number of stores and the increase in net sales.
The Company had $22.8 million in working capital as of December 29, 2001 and
$29.9 million in working capital as of December 30, 2000. The decrease in
working capital as of December 29, 2001 is principally due to the $6.8 million
reduction in inventory. The Company's working capital needs are typically
higher in the second and third quarters as a result of increased inventory
purchases for the spring and fall selling seasons.
Capital expenditures were $.6 million, $1.3 million and $2.9 million in
2001, 2000 and 1999, respectively. Expenditures for 2001 were primarily for the
build out of 6 new stores and 2 new Gordmans' shoe departments and the
remodeling of 7 stores. Expenditures for 2000 were primarily for the build out
of 7 new stores and 3 new Gordmans' shoe departments and the remodeling of 12
stores. Expenditures for 1999 were primarily for the build-out of 17 new
stores, 33 new Gordmans' shoe departments and the Company's new information
systems. The Company currently expects capital expenditures to be between
$400,000 and $700,000 in 2002, net of construction allowances from the
landlord. The actual amount will depend in part upon the number of stores
opened in 2002 and the construction allowances received from the landlord. The
Company expects to open between 5 and 10 stores in 2002. The number of stores
actually opened is, in part, dependent upon the availability of desirable
locations and management's ability to negotiate acceptable lease terms.
Financing activities provided (used) cash of ($9.4) million, $6.0 million
and ($419,000) in 2001, 2000 and 1999, respectively. The cash used by financing
activities in 2001 relates to the pay down on the Company's revolving line of
credit primarily driven by the $6.8 million reduction in inventory as of
December 29, 2001 compared with December 30, 2000. The cash provided by
financing activities in 2000 primarily relates to the net increase in
borrowings under the Company's revolving line of credit. The cash used by
financing activities in 1999 primarily related to paying down balances on the
Company's revolving line of credit.
On February 27, 2001, the Company and its lender entered a new a loan
agreement for a revolving line of credit up to $20.0 million, including a $5.0
million sublimit for the issuance of letters of credit, with an original
maturity date of June 1, 2002. The new agreement adjusted certain economic
terms and financial covenants. Borrowings are based upon eligible inventory.
Borrowings under the credit facility are secured by the Company's accounts
receivable, general intangibles, inventory and other rights to payment. The
agreement prohibits the declaration and payment of cash or stock dividends. The
agreement contains various restrictive and financial covenants including
minimum EBITDA as determined on a rolling four quarters basis and minimum
quarterly pre tax profit and minimum net income. On June 1, 2001 the credit
agreement was amended to extend the maturity date of the line of credit to June
1, 2003. On September 1, 2001 the credit agreement was amended to lower the
EBITDA requirement for the third and fourth quarters of 2001. On March 1, 2002,
the credit agreement was amended to lower the EBITDA requirements for 2002 and
to lower the pre-tax profit requirement for the first quarter of 2002.
Interest on outstanding borrowings is at the bank's floating prime rate or
LIBOR plus from 1.3% to 1.8%, depending on the Company's achievement of certain
financial ratios. The weighted average interest rate on outstanding borrowings
at December 29, 2001 was 3.37%. As of December 29, 2001, outstanding borrowings
on the revolving line of credit were $4.6 million and the unused and available
portion of the credit facility was approximately $10.9 million.
The Company expects that anticipated cash flow from operations and available
borrowings under the Company's credit facility will satisfy its cash
requirements for at least the next 12 months. The Company's capital
requirements may vary significantly from anticipated needs, depending upon such
factors as operating results, the number and timing of new store openings.
15
Recently Issued Accounting Standards
Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting
for Derivative Instruments and Hedging Activities," was issued in June 1998 and
amended by SFAS Nos. 137 and 138, issued in June 2000. The standard establishes
accounting and reporting standards for derivative instruments, including
certain derivative instruments embedded in other contracts and for hedging
activities. Under the standard, certain contracts that were not formerly
considered derivatives may now meet the definition of a derivative. The Company
adopted the standard effective December 31, 2000. The adoption of SFAS No. 133,
as amended by SFAS Nos. 137 and 138, did not have a material impact on the
financial position or results of operations of the Company.
In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 141, "Business Combinations" and SFAS No. 142, "Goodwill and Other
Intangible Assets." SFAS No. 141 requires that all business combinations
initiated after June 30, 2001 be accounted for under the purchase method and
addresses the initial recognition and measurement of goodwill and other
intangible assets acquired in a business combination. SFAS No. 142 addresses
the initial recognition and measurement of intangible assets acquired outside
of a business combination and the accounting for goodwill and other intangible
assets subsequent to their acquisition. SFAS No. 142 provides that intangible
assets with finite useful lives be amortized and that goodwill and intangible
assets with indefinite lives will not be amortized, but will rather be tested
at least annually for impairment. SFAS No. 142 is effective for the Company
beginning December 30, 2001. Adoption of this new standard will not have a
significant impact on the Company's financial statements.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations," and in October 2001 issued SFAS No. 144, "Accounting for the
Impairment of Disposal of Long-Lived Assets." These Statements will be
effective for the Company's fiscal year 2003. The Company has not determined
the impact, if any, that these Statements will have on its consolidated
financial statements.
Weather and Seasonality
The Company has experienced, and expects to continue to experience, seasonal
fluctuations in its net sales and net income. Historically, net sales and net
income have been weakest during the first quarter. The Company's quarterly
results of operations may also fluctuate significantly as a result of a variety
of factors, including timing of new store openings, the level of net sales
contributed by new stores, merchandise mix, the timing and level of price
markdowns, availability of inventory, store closures, advertising costs,
competitive pressures and changes in the demand for off-price footwear.
Factors Affecting Financial Performance
In addition to the other information in this Form 10-K, the following
factors should be considered carefully in evaluating an investment in the
shares of common stock of the Company. The statements contained in this
Form10-K which are not historical facts are forward-looking statements that are
subject to risks and uncertainties that could cause actual results to differ
materially from those set forth in or implied by forward-looking statements.
Factors that could cause or contribute to such differences include those
discussed below, as well as those discussed elsewhere in this Form 10-K.
Risks Associated with Expansion
The Company has experienced rapid and substantial growth in net sales as
well as in its employee headcount. The Company's continued growth will depend
to a significant degree on its ability to expand its operations through the
opening of new stores and to operate these stores on a profitable basis. The
success of the Company's planned expansion will be significantly dependent upon
the Company's ability to locate suitable store sites and negotiate acceptable
lease terms. In addition, several other factors could affect the Company's
ability to expand, including the adequacy of the Company's capital resources,
the ability to hire, train and
16
integrate employees and the ability to adapt the Company's operational systems.
There can be no assurance that the Company will achieve its planned expansion
or that any such expansion will be profitable. In addition, there can be no
assurance that the Company's expansion within its existing markets will not
adversely affect the individual financial performance of the Company's existing
stores or its overall operating results, or that new stores will achieve net
sales and profitability levels consistent with existing stores. To manage its
planned expansion, the Company regularly evaluates the adequacy of its existing
systems and procedures, including product distribution facilities, store
management, financial controls and management information systems. However,
there can be no assurance that the Company will anticipate all of the changing
demands that expanded operations may impose on such systems. Failure to adapt
its internal systems or procedures as required could have a material adverse
effect on the Company's business, financial condition and results of operations.
The Company actively monitors individual store performance and has closed
underperforming stores in the past. The Company intends to continue to close
underperforming stores in the future, and if it were to close a number of
stores, it could incur significant closure costs and reductions in net sales.
In certain instances, the Company may be unable to close an underperforming
store on a timely basis because of lease terms. A significant increase in
closure costs or the inability to close one or more underperforming stores on a
timely basis could have a material adverse effect on the Company's business,
financial condition and results of operations.
License Agreement
In July 1999, the Company entered into a license agreement to operate the
shoe departments in Gordmans Inc. department stores located in the Midwest. On
June 29, 2002, the initial term of the license agreement with Gordmans
department stores will expire and the Company will no longer operate the 38
licensed shoe departments in Gordmans department stores. Net sales will be
impacted as the Company will no longer operate the 38 licensed shoe departments
subsequent to June 29, 2002. Net sales generated from the licensed shoe
departments were $14.5 million for the year ended December 29, 2001. In
addition, these stores generated a store operating contribution before
overhead, distribution costs, interest and taxes of approximately $2.9 million.
The Company does not allocate overhead, distribution costs, interest or taxes
to stores. The majority of the overhead costs which consist of costs such as
merchandising, accounting, information systems, rent and insurance are shared
expenses of the Shoe Pavilion stores and the licensed shoe departments. The
focus of the Company during the coming year will be to replace the Gordmans
business by improving comparable store sales results and opening new stores in
carefully targeted markets. There can be no assurance that the Company will be
able to increase comparable store sales or open new stores to an extent
sufficient to offset the loss of net sales and operating contribution received
under the Gordmans license agreement. Failure to successfully implement these
plans could have a material adverse impact on the Company's results of
operations.
Uncertainty of Future Operating Results; Fluctuations in Comparable Store
Sales
Although the Company has been profitable, there can be no assurance that the
Company will continue to remain profitable. Future operating results will
depend upon many factors, including general economic conditions, the level of
competition and the ability of the Company to acquire sufficient inventory,
achieve its expansion plans and effectively monitor and control costs. There
can be no assurance that the Company's recent gross margin levels will be
sustainable in the future.
Although the Company achieved a substantial portion of its 1999 net sales
growth through the licensing agreement with Gordmans, historically its growth
in net sales has resulted primarily from new store openings. At the present
time, the Company expects that the primary source of future sales growth will
be from new store openings.
Historically, the Company's comparable store sales have fluctuated widely.
Although the Company is endeavoring to achieve consistent growth in comparable
store sales, there can be no assurance that the Company will not continue to
experience volatility in comparable store sales. The Company defines comparable
stores as
17
those stores that have been open for at least 14 consecutive months. Stores
open less than 14 consecutive months are treated as new stores, and stores
closed during the period are excluded from comparable store sales. The
Company's comparable store sales decreased 5.9% in 2001, increased 9.4% in 2000
and decreased 1.2% in 1999.
Inventory and Sourcing Risk
The Company's future success will be significantly dependent on its ability
to obtain merchandise that consumers want to buy, particularly name brand
merchandise with long-term retail appeal, and to acquire such merchandise under
favorable terms and conditions. In 2001, the Company's top ten suppliers
accounted for approximately 30% of its inventory purchases. The deterioration
of the Company's relationship with any key vendor or vendors could result in
delivery delays, merchandise shortages or less favorable terms than the Company
currently enjoys. The Company deals with its suppliers on an order-by-order
basis and has no long-term purchase contracts or other contractual assurances
of continued supply or pricing. As the Company's operations expand, its demand
for off-price inventory will continue to increase. The Company's footwear
purchases typically involve manufacturing over-runs, over-orders, mid- or
late-season deliveries or last season's stock. The inability of the Company to
obtain a sufficient supply of readily salable, high margin inventory, to
negotiate favorable discount and payment agreements with its suppliers or to
sell large inventory purchases without markdowns could have a material adverse
effect on the Company's business, financial condition and results of
operations. See "Item 1--Business--Sourcing and Purchasing."
Warehousing and Distribution Services
As of December 29, 2001 the Company's corporate offices and distribution
facility were located in a 92,000 square foot facility in Richmond, California,
which the Company occupied under a lease that expired in February 2002. The
Company decided not to renew the lease and instead engaged a third party that
began providing the warehousing and distribution services for the Company in
February 2002. Although the Company believes greater operating efficiencies and
cost savings will be achieved by outsourcing its warehouse activities there can
be no assurances that these operating efficiencies and cost savings will be
realized or that the Company will not encounter any transition difficulties
that could affect the flow of inventory to its store.
Reliance on Key Personnel
The Company's future success will be dependent, to a significant extent, on
the efforts and abilities of its executive officers. The loss of the services
of any one of the Company's executive officers could have a material adverse
effect on the Company's operating results. In addition, the Company's continued
growth will depend, in part, on its ability to attract, motivate and retain
skilled managerial and merchandising personnel. Competition for such personnel
is intense, and there can be no assurance that the Company will be able to
retain a substantial percentage of its existing personnel or attract additional
qualified personnel in the future.
Risks Associated with Possible Acquisitions
The Company may pursue the acquisition of companies and assets that
complement its existing business. Acquisitions involve a number of special
risks, including the diversion of management's attention to the assimilation of
the operations and personnel of the acquired businesses, potential adverse
short-term effects on the Company's operating results and amortization of
acquired intangible assets. The Company has limited experience in identifying,
completing and integrating acquisitions. The Company does not have any current
plans to acquire any other companies, and there can be no assurance that the
Company will identify attractive acquisition candidates, that acquisitions will
be consummated on acceptable terms or that any acquired companies will be
integrated successfully into the Company's operations.
Seasonality and Quarterly Fluctuations
The Company has experienced, and expects to continue to experience, seasonal
fluctuations in its net sales and net income. Historically, net sales and net
income have been weakest during the first quarter. The
18
Company's quarterly results of operations may also fluctuate significantly as a
result of a variety of factors, including timing of new store openings, the
level of net sales contributed by new stores, merchandise mix, the timing and
level of price markdowns, availability of inventory, store closures,
advertising costs, competitive pressures and changes in the demand for
off-price footwear.
Dependence on Consumer Spending and Preferences
The success of the Company's operations depends upon a number of general
economic factors relating to consumer spending, including employment levels,
business conditions, interest rates, inflation and taxation. There can be no
assurance that consumer spending will not decline in response to economic
conditions, thereby adversely affecting the Company's operating results.
All of the Company's products are subject to changing consumer preferences.
Consumer preferences could shift to types of footwear other than those that the
Company currently offers. Any such shift could have a material adverse effect
on the Company's operating results. The Company's future success will depend,
in part, on its ability to anticipate and respond to changes in consumer
preferences, and there can be no assurance that the Company will be able to
effectively anticipate or respond to such changes on a timely basis or at all.
Failure to anticipate and respond to changing consumer preferences could lead
to, among other things, lower net sales, excess inventory and lower gross
margins, any of which could have a material adverse effect on the Company's
business, financial condition and results of operations.
International Purchasing
The Company purchases in-season name brand and branded-design merchandise
directly from factories in Italy, Brazil, China and Spain. Directly-sourced
goods accounted for approximately 9.1% and 13.4% of net sales in 2001 and 2000,
respectively. The Company has no long-term contracts with direct manufacturing
sources and competes with other companies for production facilities. All of the
manufacturers with which the Company conducts business are located outside of
the United States, and the Company is subject to the risks generally associated
with an import business, including foreign currency fluctuations, unexpected
changes in foreign regulatory requirements, disruptions or delays in shipments
and the risks associated with United States import laws and regulations,
including quotas, duties, taxes, tariffs and other restrictions. There can be
no assurance that the foregoing factors will not disrupt the Company's supply
of directly-sourced goods or otherwise adversely impact the Company's business,
financial condition and results of operations in the future. See "Item 1--
Business--Sourcing and Purchasing."
Inventory Shrinkage
The retail industry is subject to theft by customers and employees. Because
the Company uses a self-service format, where shoppers have access to both
shoes of a pair, the Company must maintain substantial store security. Although
the Company has implemented enhanced security procedures, there can be no
assurance that the Company will not suffer from significant inventory shrinkage
in the future, which could have a material adverse effect on the Company's
business, financial condition and results of operations.
Competition
The retail footwear market is highly competitive, and the Company expects
the level of competition to increase. The Company competes with off-price and
discount retailers (e.g., Nordstrom Rack, Payless ShoeSource, Ross, Dress for
Less and Famous Footwear), branded retail outlets (e.g., Nine West), national
retail stores (e.g., Nordstrom, Marshalls, Macy's, Sears, J.C. Penney,
Loehmann's, Robinsons-May and Mervyn's), traditional shoe stores and mass
merchants. Many of these competitors have stores in the markets in which the
Company now operates and in which it plans to expand. Many of the Company's
competitors have significantly greater financial, marketing and other resources
than the Company. In addition, there can be no assurance that in the future new
participants will not enter the off-price segment of the footwear market.
Competitive pressures resulting from competitors' pricing policies could
materially adversely affect the Company's gross margins.
19
There can be no assurance that the Company will not face greater competition
from other national, regional or local retailers or that the Company will be
able to compete successfully with existing and new competitors. The inability
of the Company to respond to such competition could have a material adverse
effect on the Company's business, financial condition and results of operations.
Future Capital Needs
The Company expects that anticipated cash flows from operations and
available borrowings under the Company's credit facility will satisfy its cash
requirements for at least the next 12 months. To the extent that the foregoing
cash resources are insufficient to fund the Company's activities, including new
store openings planned for 2002, additional funds will be required. There can
be no assurance that additional financing will be available on reasonable terms
or at all. Failure to obtain such financing could delay or prevent the
Company's planned expansion, which could adversely affect the Company's
business, financial condition and results of operations.
Substantial Control by Single Stockholder
Dmitry Beinus, the Company's Chairman of the Board, President and Chief
Executive Officer owns approximately 66.2% of the Company's outstanding Common
Stock. As a result, Mr. Beinus is able to decide all matters requiring
stockholder approval, including the election of directors and approval of
significant corporate transactions. Concentration of stock ownership could also
have the effect of preventing a change in control of the Company.
Possible Volatility of Stock Price
The Company's common stock is quoted on the Nasdaq SmallCap Market, which
has experienced and is likely to experience in the future significant price and
volume fluctuations, either of which could adversely affect the market price of
the common stock without regard to the operating performance of the Company. In
addition, the trading price of the Company's common stock could be subject to
wide fluctuations in response to quarterly variations in operating results,
fluctuations in the Company's comparable store sales, announcements by other
footwear retailers, the failure of the Company's earnings to meet the
expectations of investors, as well as other events or factors.
Item 7A--Quantitative and Qualitative Disclosure about Market Risk
The Company is exposed to market risks, which include changes in U.S.
interest rates and foreign exchange rates. The Company does not engage in
financial transactions for trading or speculative purposes.
Interest Rate Risk. The interest payable on the Company's bank line of
credit is based on variable interest rates and therefore is affected by changes
in market rates. The Company does not use derivative financial instruments in
its investment portfolio and believes that the market risk is insignificant.
Commodity Prices. The Company is not exposed to fluctuation in market
prices for any commodities.
Foreign Currency Risks. As of December 29, 2001, the Company had a foreign
exchange contract outstanding to hedge certain purchases in Eurodollars. The
purpose of the Company's foreign currency hedging activities is to protect the
Company from the risk that the eventual dollar net cash outflow resulting from
inventory purchases will be affected by changes in exchange rates.
As of December 29, 2001 the notional amount and fair value of the Company's
foreign exchange contract in U.S. dollars were $500,000 and $12,535,
respectively.
The Company makes minimal purchases outside of the United States that
involve foreign currencies and, therefore, has only minimal exposure to foreign
currency exchange risks. The Company does not typically hedge against foreign
currency risks and believes that foreign currency exchange risk is
insignificant.
20
Item 8--Financial Statements and Supplementary Data
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Shoe Pavilion, Inc.
Independent Auditors' Report.................................................................... 22
Consolidated Balance Sheets at December 29, 2001 and December 30, 2000.......................... 23
Consolidated Statements of Income for Years Ended December 29, 2001, December 30, 2000 and
January 1, 2000............................................................................... 24
Consolidated Statements of Changes in Stockholders' Equity for Years Ended December 29, 2001,
December 30, 2000 and January 1, 2000......................................................... 25
Consolidated Statements of Cash Flows for Years Ended December 29, 2001, December 30, 2000 and
January 1, 2000............................................................................... 26
Notes to Consolidated Financial Statements for Years Ended December 29, 2001, December 30, 2000
and January 1, 2000........................................................................... 27
21
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
Shoe Pavilion, Inc.
We have audited the accompanying consolidated balance sheets of Shoe
Pavilion, Inc. and subsidiary (the "Company") as of December 29, 2001 and
December 30, 2000 and the related consolidated statements of income,
stockholders' equity, and cash flows for each of the three years in the period
ended December 29, 2001. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of the Company as of December 29,
2001 and December 30, 2000, and the results of its operations and its cash
flows for each of the three years in the period ended December 29, 2001 in
conformity with accounting principles generally accepted in the United States
of America.
DELOITTE & TOUCHE LLP
San Francisco, California
February 8, 2002 (March 1, 2002 as to the last sentence of the first paragraph
of Note 3)
22
SHOE PAVILION, INC.
CONSOLIDATED BALANCE SHEETS
December 29, December 30,
2001 2000
------------ ------------
ASSETS
CURRENT ASSETS:
Cash..................................................................... $ 802,671 $ 814,228
Receivables.............................................................. 609,389 740,460
Inventories.............................................................. 31,398,178 38,187,378
Deferred taxes and prepaid expenses...................................... 1,063,741 940,636
----------- -----------
Total current assets................................................. 33,873,979 40,682,702
FIXED ASSETS:
Store fixtures and equipment............................................. 4,373,962 4,136,138
Leasehold improvements................................................... 3,628,986 3,296,800
Information technology systems........................................... 2,256,274 2,240,028
----------- -----------
Total................................................................ 10,259,222 9,672,966
Less accumulated depreciation............................................ 5,899,556 4,389,243
----------- -----------
Net fixed assets......................................................... 4,359,666 5,283,723
Deferred income taxes and other............................................. 927,912 948,785
----------- -----------
TOTAL................................................................ $39,161,557 $46,915,210
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable......................................................... $ 8,515,004 $ 8,750,084
Accrued expenses......................................................... 2,473,666 2,027,768
Current portion of capitalized lease obligations......................... 46,759 14,754
----------- -----------
Total current liabilities............................................ 11,035,429 10,792,606
Long-term debt.............................................................. 4,600,000 13,975,231
Deferred rent............................................................... 1,847,893 1,883,546
Capitalized lease obligations, less current portion......................... -- 46,759
Commitments and contingencies............................................... -- --
STOCKHOLDERS' EQUITY:
Preferred stock--$.001 par value; 1,000,000 shares authorized; no shares
issued or outstanding.................................................. -- --
Common stock--$.001 par value: 15,000,000 shares authorized;
6,800,000 shares issued and outstanding................................ 6,800 6,800
Additional paid-in capital............................................... 13,967,258 13,967,258
Retained earnings........................................................ 7,704,177 6,243,010
----------- -----------
Total stockholders' equity........................................... 21,678,235 20,217,068
----------- -----------
TOTAL................................................................ $39,161,557 $46,915,210
=========== ===========
See notes to consolidated financial statements.
23
SHOE PAVILION, INC.
CONSOLIDATED STATEMENTS OF INCOME
December 29, December 30, January 1,
2001 2000 2000
------------ ------------ -----------
Net sales........................................ $88,135,199 $91,058,092 $71,611,220
Cost of sales and related occupancy expenses..... 60,685,541 61,662,190 48,076,135
----------- ----------- -----------
Gross profit.............................. 27,449,658 29,395,902 23,535,085
Selling expenses................................. 17,606,694 19,134,430 13,999,417
General and administrative expenses.............. 6,860,705 7,013,724 5,654,248
----------- ----------- -----------
Income from operations.................... 2,982,259 3,247,748 3,881,420
Other income (expense):
Interest...................................... (682,578) (1,121,904) (618,647)
Other--net.................................... 56,906 (173,257) (14,312)
----------- ----------- -----------
Total other expense--net.................. (625,672) (1,295,161) (632,959)
----------- ----------- -----------
Income before income taxes....................... 2,356,587 1,952,587 3,248,461
Provision for income taxes....................... (895,420) (778,504) (1,233,846)
----------- ----------- -----------
Net income....................................... $ 1,461,167 $ 1,174,083 $ 2,014,615
=========== =========== ===========
Net income per share:
Basic......................................... $ 0.21 $ 0.17 $ 0.30
Diluted....................................... $ 0.21 $ 0.17 $ 0.30
Weighted average shares outstanding:
Basic......................................... 6,800,000 6,800,000 6,800,000
Diluted....................................... 6,800,804 6,810,258 6,801,417
See notes to consolidated financial statements.
24
SHOE PAVILION, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
Common Stock
---------------- Additional
Number Paid-in Retained
of Shares Amount Capital Earnings Total
--------- ------ ----------- ---------- -----------
Balance at January 2, 1999.. 6,800,000 $6,800 $13,967,258 $3,054,312 $17,028,370
Net income............... 2,014,615 2,014,615
--------- ------ ----------- ---------- -----------
Balance at January 1, 2000.. 6,800,000 6,800 13,967,258 5,068,927 19,042,985
Net income............... 1,174,083 1,174,083
--------- ------ ----------- ---------- -----------
Balance at December 30, 2000 6,800,000 6,800 13,967,258 6,243,010 20,217,068
Net income............... 1,461,167 1,461,167
--------- ------ ----------- ---------- -----------
Balance at December 29, 2001 6,800,000 $6,800 $13,967,258 $7,704,177 $21,678,235
========= ====== =========== ========== ===========
See notes to consolidated financial statements.
25
SHOE PAVILION, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
December 29, December 30, January 1,
2001 2000 2000
------------ ------------ -----------
OPERATING ACTIVITIES:
Net income........................................................ $ 1,461,167 $ 1,174,083 $ 2,014,615
Adjustments to reconcile net income to net cash provided (used) by
operating activities:
Depreciation................................................... 1,562,497 1,432,809 1,209,842
Other.......................................................... 526 116,863 17,849
Deferred income taxes.......................................... (55,779) (466,840) (662,620)
Effect of changes in:
Inventories.................................................... 6,789,200 (5,202,595) (6,092,682)
Receivables.................................................... 131,071 (162,390) (421,104)
Prepaid expenses and other..................................... (46,453) 158,461 (189,940)
Accounts payable............................................... (235,080) (2,389,222) 5,172,095
Accrued expenses and deferred rent............................. 410,245 555,806 1,310,730
----------- ----------- -----------
Net cash provided (used) by operating activities........... 10,017,394 (4,783,025) 2,358,785
----------- ----------- -----------
INVESTING ACTIVITIES:
Purchase of fixed assets....................................... (638,966) (1,293,422) (2,932,849)
----------- ----------- -----------
FINANCING ACTIVITIES:
Borrowings (payments) on credit facility, net.................. (9,375,231) 5,975,231 (407,262)
Principal payments on capital leases........................... (14,754) (13,232) (11,868)
----------- ----------- -----------
Net cash provided (used) by financing activities........... (9,389,985) 5,961,999 (419,130)
----------- ----------- -----------
Net decrease in cash.............................................. (11,557) (114,448) (993,194)
Cash, beginning of period......................................... 814,228 928,676 1,921,870
----------- ----------- -----------
Cash, end of period............................................... $ 802,671 $ 814,228 $ 928,676
=========== =========== ===========
CASH PAID FOR:
Interest....................................................... $ 777,725 $ 1,066,700 $ 573,769
Income taxes................................................... $ 939,650 $ 1,502,792 $ 1,618,000
See notes to consolidated financial statements.
26
SHOE PAVILION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION AND OPERATIONS
General--Shoe Pavilion, Inc. (the "Company"), a Delaware corporation,
operates as a single business segment of off-price shoe stores located in
California, Washington and Oregon, under the name Shoe Pavilion. The Company
had 83 and 80 stores open as of December 29, 2001 and December 30, 2000,
respectively. In July 1999, the Company entered into a licensing agreement to
operate the shoe department of Gordmans, Inc. (formerly Richman Gordman 1/2
Price Stores, Inc.) department stores located in the Midwest. The Company
operated 38 and 36 shoe departments of Gordmans, Inc. at December 29, 2001 and
December 30, 2000, respectively. On June 29, 2002, the initial term of the
license agreement with Gordmans department stores will expire and the Company
will no longer operate the 38 licensed shoe departments in Gordmans department
stores. Net sales for the licensed shoe departments in 2001 were $14.5 million.
The Company purchases inventory from international and domestic vendors. For
2001, the Company's top ten suppliers accounted for approximately 30.0% of
inventory purchases.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Use of Estimates--The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
Consolidation Policy--The consolidated financial statements include the
Company and its wholly-owned subsidiary, Shoe Pavilion Corporation. All
significant intercompany balances and transactions have been eliminated.
Year End--The Company's year end is based upon a 52/53 week year ending on
the Saturday nearest to December 31. All references herein to 2001, 2000 and
1999 refer to the years ended December 29, 2001, December 30, 2000 and January
1, 2000, respectively, which are all 52 week years.
Cash represents cash on hand and cash held in banks.
Estimated Fair Value of Financial Instruments--The carrying value of cash,
accounts receivable, accounts payable and debt approximates their estimated
fair values at December 29, 2001. As of December 29, 2001, the notional amount
and fair value of the Company's foreign exchange contract in U.S. dollars were
$500,000 and $12,535, respectively.
Inventories are stated at the lower of average cost or market.
Fixed Assets are stated at cost. Depreciation and amortization are provided
on the straight-line method over the estimated useful lives of the assets
ranging from three to seven years. Leasehold improvements are amortized on the
straight-line method over the shorter of the useful lives of the assets or
lease term, generally five years.
Income Taxes--Income taxes are accounted under the asset and liability
method in accordance with Statement of Financial Accounting Standards ("SFAS")
No. 109, "Accounting for Income Taxes". Deferred income taxes result primarily
from fixed asset basis differences, deferred rent and UNICAP adjustments.
Deferred Rent--Certain of the Company's store leases provide for free or
reduced rent during an initial portion of the lease term. Deferred rent
consists of the aggregate obligation for lease payments under these leases
27
SHOE PAVILION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
amortized on a straight-line basis over the lease term, in excess of amounts
paid. In addition, deferred rent includes construction allowances received from
landlords, which are amortized on a straight-line basis over the initial lease
term.
Preopening Costs--Store preopening costs are charged to expense as incurred.
Long-lived Assets--The Company periodically reviews its long-lived assets
for impairment to determine whether any events or circumstances indicate that
the carrying amount of the assets may not be recoverable. Such review includes
estimating expected future cash flows. No impairment loss provisions have been
required to date.
Net Income Per Share--Basic income per share is computed as net income
divided by the weighted average number of common shares outstanding during the
period. Diluted income per share reflects the potential dilution that could
occur from the exercise of outstanding stock options and is computed by
dividing net income by the weighted average number of common shares outstanding
for the period plus the dilutive effect of outstanding stock options.
Comprehensive Income is equal to net income.
Stock-Based Compensation--The Company accounts for its stock option plans in
accordance with Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees" and its related interpretations. Accordingly, no
compensation expense has been recognized in the financial statements for stock
option arrangements.
Recently Issued Accounting Standards--SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities," was issued in June 1998 and
amended by SFAS Nos. 137 and 138, issued in June 2000. The standard establishes
accounting and reporting standards for derivative instruments, including
certain derivative instruments embedded in other contracts and for hedging
activities. Under the standard, certain contracts that were not formerly
considered derivatives may now meet the definition of a derivative. The Company
adopted the standard effective December 31, 2000. The adoption of SFAS No. 133,
as amended by SFAS Nos. 137 and 138, did not have a material impact on the
financial position or results of operations of the Company.
In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 141, "Business Combinations" and SFAS No. 142, "Goodwill and Other
Intangible Assets." SFAS No. 141 requires that all business combinations
initiated after June 30, 2001 be accounted for under the purchase method and
addresses the initial recognition and measurement of goodwill and other
intangible assets acquired in a business combination. SFAS No. 142 addresses
the initial recognition and measurement of intangible assets acquired outside
of a business combination and the accounting for goodwill and other intangible
assets subsequent to their acquisition. SFAS No. 142 provides that intangible
assets with finite useful lives be amortized and that goodwill and intangible
assets with indefinite lives will not be amortized, but will rather be tested
at least annually for impairment. SFAS No. 142 is effective for the Company
beginning December 30, 2001. Adoption of this new standard will not have a
significant impact on the Company's financial statements.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations," and in October 2001 issued SFAS No. 144, "Accounting for the
Impairment of Disposal of Long-Lived Assets." These Statements will be
effective for the Company's fiscal year 2003. The Company has not determined
the impact, if any, that these Statements will have on its consolidated
financial statements.
28
SHOE PAVILION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
3. FINANCING AGREEMENTS
On February 27, 2001, the Company and its lender entered into a new loan
agreement for a revolving line of credit up to $20.0 million, including a $5.0
million sublimit for the issuance of letters of credit, with an original
maturity date of June 1, 2002. The new agreement adjusted certain economic
terms and financial covenants. Borrowings are based upon eligible inventory.
Borrowings under the credit facility are secured by the Company's accounts
receivable, general intangibles, inventory and other rights to payment. The
agreement prohibits the declaration and payment of cash or stock dividends. The
agreement contains various restrictive and financial covenants including
minimum EBITDA as determined on a rolling four quarters basis and minimum
quarterly pre tax profit and minimum net income. On June 1, 2001 the credit
agreement was amended to extend the maturity date of the line of credit to June
1, 2003. On September 1, 2001 the credit agreement was amended to lower the
EBITDA requirement for the third and fourth quarters of 2001. On March 1, 2002
the credit agreement was amended to lower the EBITDA requirements for 2002 and
to lower the pretax profit requirement for the first quarter of 2002.
Interest on outstanding borrowings is at the bank's floating prime rate or
LIBOR plus from 1.3% to 1.8%, depending on the Company's achievement of certain
financial ratios. The weighted average interest rate on outstanding borrowings
at December 29, 2001 was 3.37%. As of December 29, 2001, the unused and
available portion of the credit facility was approximately $10.9 million.
4. COMMITMENTS AND CONTINGENCIES
Leases--The Company is obligated under operating leases for store and
warehouse locations and equipment. While most of the agreements provide for
minimum lease payments and include rent escalation clauses, certain of the
store leases provide for additional rentals contingent upon prescribed sales
volumes. Additionally, the Company is required to pay common area maintenance
and other costs associated with the centers in which the stores operate. Most
of the leases provide for renewal at the option of the Company.
The Company's assets under capital leases as of December 29, 2001 and
December 30, 2000 are as follows:
December 29, December 30,
2001 2000
------------ ------------
Total assets under capital leases................ $105,995 $105,995
Less accumulated amortization.................... 59,838 47,417
-------- --------
$ 46,157 $ 58,578
======== ========
29
SHOE PAVILION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Future minimum lease payments required are as follows:
Capital Operating
Leases Leases
------- -----------
Year ending:
2002.......................................... $48,050 $10,286,292
2003.......................................... 8,793,002
2004.......................................... 7,165,670
2005.......................................... 5,341,551
2006.......................................... 4,106,229
Thereafter................................ 7,630,745
------- -----------
Total minimum lease payments..................... 48,050 $43,323,489
===========
Less amounts representing interest............... 1,291
-------
Present value of capital lease obligations....... 46,759
Less current portion............................. 46,759
-------
Total long-term portion.......................... $ 0
=======
Rental expense for the years ended December 29, 2001, December 30, 2000 and
January 1, 2000 was $11,723,231, $11,395,249 and $9,361,284, respectively,
including contingent rentals of $1,590,724, $1,584,793 and $821,863,
respectively.
Letters of Credit--The Company has obtained letters of credit in connection
with overseas purchase arrangements. The total amount outstanding was $383,936
as of December 29, 2001. The Company also has a standby letter of credit
relating to a rental agreement of $14,667 as of December 29, 2001.
Contingencies--The Company is party to various legal proceedings arising
from normal business activities. Management believes that the resolution of
these matters will not have an adverse material effect on the Company's
financial position or results of operations.
5. INCOME TAXES
The provision for income taxes consisted of the following:
December 29, December 30, January 1,
2001 2000 2000
------------ ------------ ----------
Current:
Federal............... $791,576 $1,003,195 $1,535,150
State................. 159,623 242,149 361,316
-------- ---------- ----------
Total current..... 951,199 1,245,344 1,896,466
Deferred................. (55,779) (466,840) (662,620)
-------- ---------- ----------
Total provision.......... $895,420 $ 778,504 $1,233,846
======== ========== ==========
30
SHOE PAVILION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
A reconciliation of the statutory federal income tax rate with the Company's
effective tax rate is as follows:
December 29, December 30, January 1,
2001 2000 2000
------------ ------------ ----------
Statutory federal rate............................... 34.0% 34.0% 34.0%
State income taxes, net of federal income tax benefit 5.8 5.7 4.6
State tax credits.................................... (1.9) 0.0 0.0
Other................................................ 0.1 0.2 (0.6)
---- ---- ----
Effective tax rate................................... 38.0% 39.9% 38.0%
==== ==== ====
The components of deferred tax assets (liabilities) are as follows:
December 29, December 30,
2001 2000
------------ ------------
Current:
Uniform capitalization of inventory costs. $ 649,635 $ 662,112
Accrued vacation.......................... 111,865 83,724
Inventory reserves........................ 227,415 98,539
Prepaid expenses.......................... (19,379) (4,015)
State taxes............................... (163,922) (112,904)
Other..................................... 27,731 0
---------- ----------
Current, net.............................. 833,345 727,456
---------- ----------
Non-Current:
Difference in basis of fixed assets....... 207,217 229,220
Deferred rent and tenant improvements..... 630,123 658,230
---------- ----------
Total non-current......................... 837,340 887,450
---------- ----------
Net deferred tax asset....................... $1,670,685 $1,614,906
========== ==========
6. STOCKHOLDERS' EQUITY
Stock Options--In January 1998, the Company adopted the 1998 Equity
Incentive Plan (the "1998 Plan") authorizing the issuance of 1,000,000 shares
of common stock to key employees and consultants of the Company. The 1998 Plan
provides for awards of incentive stock options and nonqualified stock option
grants to purchase common stock at prices equal to fair market value at the
date of grant. During 2001, the Company granted options under this plan for the
purchase of 25,000 shares of common stock at an exercise price of $1.04 per
share, the fair market value of the shares at the date of grant. Such options
vest 25% each year, beginning on each anniversary date from the date of grant
and expire ten years from that date. At December 29, 2001, 748,000 options were
available for grants and 114,334 options were exercisable.
Directors' Stock Options--In January 1998, the Company adopted the
Directors' Stock Option Plan (the "Directors' Plan") authorizing the issuance
of 100,000 shares of common stock to non-employee directors of the Company. The
Directors' Plan provides for awards of nonqualified stock options to purchase
common stock at prices equal to fair market value at the date of grant. During
2001, the Company granted options under this plan for the purchase of 12,500
shares of common stock at an exercise price of $1.22 per share, the fair market
value of the shares at the date of grant. Such options vest 100% one year from
grant date and expire six years from that date. At December 29, 2001, 62,500
options were available for grant and 25,000 options were exercisable.
31
SHOE PAVILION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The following tables summarize information about the stock options under
both plans outstanding at December 29, 2001:
Weighted
Number Average
of shares Exercise price
--------- --------------
Balance at January 2, 1999.. 308,000 $6.91
Options granted.......... 86,000 4.36
Options canceled......... (82,750) 6.67
--------
Balance at January 1, 2000.. 311,250 6.27
Options granted.......... 170,500 1.91
Options canceled......... (186,000) 4.64
--------
Balance at December 30, 2000 295,750 4.78
Options granted.......... 37,500 1.10
Options canceled......... (43,750) 5.73
--------
Balance at December 29, 2001 289,500 $4.16
========
Weighted average fair value of options granted during 2001, 2000 and 1999
were $0.99, $1.61 and $4.35, respectively.
Weighted Average Weighted Weighted
Number Remaining Average Number Average
Range of Exercise Outstanding at Contractual Life Exercise Exerciseable at Exercise
Prices December 29, 2001 (in years) Price December 29, 2001 Price
----------------- ----------------- ---------------- -------- ----------------- --------
$1.04-$1.94.... 155,500 8.25 $1.72 39,084 $1.91
$5.00-$6.75.... 15,500 5.89 6.13 10,250 5.85
$7.00-$10.25... 118,500 5.66 7.11 90,000 7.09
------- ---- ----- ------- -----
$1.04-$10.25... 289,500 7.06 $4.16 139,334 $5.54
======= ==== ===== ======= =====
SFAS No. 123, "Accounting for Stock-Based Compensation," requires the
disclosure of pro forma net income and net income per share as though the
Company had adopted the fair value method as of the beginning of 1995. Under
SFAS No. 123, the fair value of stock-based awards to employees is calculated
through the use of option pricing models, even though such models were
developed to estimate the fair value of freely tradable, fully transferable
options without vesting restrictions, which significantly differ from the
Company's stock option awards. These models also require subjective
assumptions, including future stock price volatility and expected time to
exercise, which greatly affect the calculated values. The Company's
calculations were made using the Black-Scholes option pricing model with the
following weighted average assumptions and forfeitures being recognized as they
occur.
Year Ended Year Ended Year Ended
December 29, 2001 December 30, 2000 January 1, 2000
----------------- ----------------- ---------------
Expected life in years following vesting 7.3 years 9.2 years 9.2 years
Stock price volatility.................. 124.08% 94.70% 87.01%
Risk free interest rate................. 4.8% 6.0% 6.0%
Dividends during term................... None None None
32
SHOE PAVILION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
If the computed fair values of all awards had been amortized over the
vesting period of the awards, net income would have been reduced to the pro
forma amounts indicated below.
Year Ended Year Ended Year Ended
December 29, 2001 December 30, 2000 January 1, 2000
----------------- ----------------- ---------------
Net Income:
As reported............... $1,461,167 $1,174,083 $2,014,615
Pro forma................. $1,382,175 $1,152,053 $1,787,608
Net Income per share:
As reported:
Basic and diluted..... $ 0.21 $ 0.17 $ 0.30
Pro forma:
Basic and diluted..... $ 0.20 $ 0.17 $ 0.26
7. EMPLOYEE BENEFIT PLAN
The Company maintains a 401(k) Savings Plan (the "Plan"). Employees become
eligible to participate in the Plan after completing one year of service and
attainment of the age 21. Generally, employees may contribute up to 15% of
their compensation or a maximum of $10,500 in accordance with IRC Sections
402(g), 401(k) and 415. For every dollar contributed to the Plan, the Company
will match 50 cents, up to a maximum of 3% of the employee's compensation. The
Company expensed $18,794, $27,130 and $21,911 for the years ended December 29,
2001, December 30, 2000 and January 1, 2000, respectively. The Company's
contributions vest over a five-year period.
8. QUARTERLY FINANCIAL DATA (UNAUDITED)
Net Income (loss)
Per Share
----------------
Gross Net
Sales Profit Income (loss) Basic Diluted
------- ------ ------------- ------ -------
(In thousands, except per share data)
2001 Quarters
4th Quarter. $23,864 $7,532 $ 315 $ 0.05 $ 0.05
3rd Quarter. 21,304 6,418 229 0.03 0.03
2nd Quarter. 23,604 7,844 946 0.14 0.14
1st Quarter. 19,363 5,655 (29) 0.00 0.00
2000 Quarters
4th Quarter. $23,637 $7,137 $ (590) $(0.09) $(0.09)
3rd Quarter. 23,148 7,621 389 0.06 0.06
2nd Quarter. 24,951 8,551 1,146 0.17 0.17
1st Quarter. 19,322 6,087 229 0.03 0.03
33
Item 9--Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
PART III
Item 10--Directors and Executive Officers of the Registrant
The information required by this item is incorporated by reference from the
Company's Definitive Proxy Statement for the Company's 2001 Annual Meeting of
Stockholders under the captions "Election of Directors" and "Section 16(a)
Beneficial Ownership Reporting Compliance." See also Item 1 above.
Item 11--Executive Compensation
The information required by this item is incorporated by reference from the
Company's Definitive Proxy Statement for the Company's 2001 Annual Meeting of
Stockholders under the caption "Executive Compensation."
Item 12--Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters
The information required by this item is incorporated by reference from the
Company's Definitive Proxy Statement for the Company's 2001 Annual Meeting of
Stockholders under the caption "Ownership of Management and Principal
Stockholders."
Item 13--Certain Relationships and Related Transactions
The information required by this item is incorporated by reference from the
Company's Definitive Proxy Statement for the Company's 2001 Annual Meeting of
Stockholders under the captions "Compensation Committee Interlocks and Insider
Participation" and "Transactions with the Company."
PART IV
Item 14--Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) The following documents are filed as part of this report:
(1) Consolidated Financial Statements of the Company are included in Part
II, Item 8:
Independent Auditors' Report
Consolidated Balance Sheets
Consolidated Statements of Income
Consolidated Statements of Cash Flows
Consolidated Statements of Shareholders' Equity
Notes to Consolidated Financial Statements
(2) Consolidated Supplementary Financial Statement Schedule for the years
ended December 29, 2001 and December 30, 2000:
None.
34
All other schedules are omitted because of the absence of conditions under
which they are required or because the required information is included in the
consolidated financial statements or notes thereto.
(3) Exhibits:
See attached Exhibit Index.
(b) Reports on Form 8-K
(1) No reports on Form 8-K were filed during the quarter ended December
29, 2001.
35
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
Date: March 27, 2002
SHOE PAVILION, INC.
By: /s/ DMITRY BEINUS
-----------------------------------
Dmitry Beinus
Chairman of the Board, 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 and in the capacities indicated.
Signature Capacity Date
--------- -------- ----
/s/ DMITRY BEINUS Chairman, President and Chief March 27, 2002
----------------------------- Executive Officer
Dmitry Beinus (Principal Executive
Officer)
/s/ JOHN D. HELLMANN Vice President, Chief March 27, 2002
----------------------------- Financial Officer
John D. Hellmann (Principal Financial
Officer and Principal
Accounting Officer)
/s/ DENISE ELLWOOD Director March 27, 2002
-----------------------------
Denise Ellwood
/s/ DAVID H. FOLKMAN Director March 27, 2002
-----------------------------
David H. Folkman
/s/ PETER G. HANELT Director March 27, 2002
-----------------------------
Peter G. Hanelt
36
EXHIBIT INDEX
Set forth below is a list of exhibits that are being filed or incorporated
by reference into this Form 10-K:
Exhibit
Number Exhibit
------ -------
2.1 Exchange Agreement dated February 23, 1998 by and among Shoe Pavilion, Inc., Shoe Inn, Inc. and
Dmitry Beinus (Incorporated by reference from Exhibit 2.1 to Registration Statement
No. 333-41877).
3.1 Certificate of Incorporation of the Registrant (Incorporated by reference from Exhibit 3.1 to
Registration Statement No. 333-41877).
3.2 Bylaws of the Registrant (Incorporated by reference from Exhibit 3.2 to Registration Statement
No. 333-41877).
4.1 Specimen Common Stock Certificate (Incorporated by reference from Exhibit 4.1 to Registration
Statement No. 33-41877).
10.1 Lease Agreement between Lincoln-Whitehall Pacific, LLC and Shoe Inn, Inc. dated October 28,
1996 (Incorporated by reference from Exhibit 10.1 to Registration Statement No. 333-41877).
10.2 First Amendment to Lease Agreement between Lincoln-Whitehall Pacific, LLC and Shoe Pavilion
Corporation dated September 17, 1998. (Incorporated by reference from Exhibit 10.2 to the
Company's 10-K filed March 23, 1999.)
10.3 Second Amendment to Lease Agreement between Lincoln-Whitehall Pacific, LLC and Shoe Pavilion
Corporation dated January 11, 1999. (Incorporated by reference from Exhibit 10.3 to the
Company's 10-K filed March 23, 1999.)
10.4 1998 Equity Incentive Plan with forms of non-qualified and incentive stock option agreements
(Incorporated by reference from Exhibit 10.2 to Registration Statement No. 333-41877).
10.5 Directors' Stock Option Plan with form of stock option agreement (Incorporated by reference from
Exhibit 10.3 to Registration Statement No. 333-41877).
10.6 Credit Agreement dated December 1, 1998 between Shoe Pavilion Corporation and Wells Fargo
Bank, National Association. (Incorporated by reference from Exhibit 10.6 to the Company's 10-K
filed March 23, 1999.)
10.7 Revolving Line of Credit Note dated December 1, 1998 between Shoe Pavilion Corporation and
Wells Fargo Bank, National Association. (Incorporated by reference from Exhibit 10.7 to the
Company's 10-K filed March 23, 1999.)
10.8 Continuing Guaranty dated December 1, 1998 between Shoe Pavilion, Inc. and Wells Fargo Bank,
National Association. (Incorporated by reference from Exhibit 10.8 to the Company's 10-K filed
March 23, 1999.)
10.9 Tax Allocation Agreement dated February 18, 1998 between Shoe Inn, Inc. and Dmitry Beinus
(Incorporated by reference from Exhibit 10.5 to Registration Statement No. 333-41877).
10.10 Agreement of Purchase and Sale dated as of April 14, 1997 among Standard Shoe Company and
Shoe Inn, Inc. (Incorporated by reference from Exhibit 10.6 to Registration Statement
No. 333-41877).
10.11 Form of Indemnification Agreement between the Registrant and certain of its officers and directors
(Incorporated by reference from Exhibit 10.7 to Registration Statement No. 333-41877).
10.12 License Agreement dated July 7, 1999 between Richman Gordman 1/2 Price Stores, Inc. and Shoe
Pavilion, Inc. (Incorporated by reference from Exhibit 10.1 to the Company's 10-Q filed August 5,
1999.)
(continued on following page)
37
EXHIBIT INDEX--(Continued)
(continued from previous page)
Exhibit
Number Exhibit
------ -------
10.13 First Amendment to License Agreement between Richman Gordman 1/2 Price Stores, Inc. and
Shoe Pavilion, Inc. dated December 20, 1999. (Incorporated by reference from Exhibit 10.13 to the
Company's 10-K filed March 27, 2000.)
10.14 First Amendment to Credit Agreement between Shoe Pavilion Corporation and Wells Fargo Bank,
National Association dated October 30, 1999. (Incorporated by reference from Exhibit 10.14 to the
Company's 10-K filed March 27, 2000.)
10.15 Second Amendment to Credit Agreement between Shoe Pavilion Corporation and Wells Fargo Bank,
National Association dated February 8, 2000. (Incorporated by reference from Exhibit 10.15 to the
Company's 10-K filed March 27, 2000.)
10.16 Third Amendment to Credit Agreement between Shoe Pavilion Corporation and Wells Fargo Bank,
National Association dated March 9, 2000. (Incorporated by reference from Exhibit 10.16 to the
Company's 10-K filed March 27, 2000.)
10.17 Credit Agreement dated February 27, 2001 between Shoe Pavilion Corporation and Wells Fargo
Bank, National Association. (Incorporated by reference from exhibit 10.17 to the Company's 10-K
filed March 30, 2001.)
10.18 First Amendment to Credit Agreement between Shoe Pavilion Corporation and Wells Fargo Bank,
National Association dated June 1, 2001. (Incorporated by reference from exhibit 10.18 to the
Company's 10-Q filed November 13, 2001.)
10.19 Second Amendment to Credit Agreement between Shoe Pavilion Corporation and Wells Fargo Bank,
National Association dated September 1, 2001. (Incorporated by reference from exhibit 10.19 to
the Company's 10-Q filed November 13, 2001.)
10.20 Revolving Line of Credit Note dated February 27, 2001 between Shoe Pavilion Corporation and
Wells Fargo Bank, National Association
10.21 Revolving Line of Credit Note dated June 1, 2001 between Shoe Pavilion Corporation and Wells
Fargo Bank, National Association
10.22 Third Amendment to Credit Agreement between Shoe Pavilion Corporation and Wells Fargo Bank,
National Association dated March 1, 2002.
21 List of Subsidiaries
23 Independent Auditors' Consent
38