ITEM 1. BUSINESS
A. General
Sport Chalet, Inc. (the "Company") is a leading operator of full service, specialty sporting goods superstores in Southern California. The Company currently has 22 stores, eleven located in Los Angeles County, five in Orange County, three in San Diego County, and one in each of San Bernardino, Riverside and Ventura Counties. These stores average 38,000 square feet in size. In addition, the Company operates a retail e-commerce store through Global Sports Interactive at www.sportchalet.com. The Company's executive offices are located at 920 Foothill Boulevard, La Canada, California 91011, and its telephone number is (818) 790-2717.
B. Operating History and Growth Plan
During fiscal 1998, the Company adopted a growth strategy designed to capitalize on improved operating capabilities and a more robust local economy. The Company now has 22 stores having added four and relocated one since the beginning of fiscal 1999. In addition, the Company currently plans to open at least two more stores during the next 12 months. The Company's business plan further contemplates opening new stores in Southern California as suitable locations are found over the next several fiscal years. Future store openings are subject to availability of satisfactory store locations based on local competitive conditions, site availability and cost and the Company's ability to provide and maintain high service levels and quality brand merchandising at competitive prices.
Store openings are expected to have a favorable impact on sales volume, but will negatively affect profit in the short run. New stores tend to have higher costs in the early years of operation, due primarily to extra labor used to open new stores, reduced sales on a per employee basis until the store matures and increased promotional costs. As the store matures, sales tend to level off and expenses decline as a percentage of sales. The Company's stores generally require three years to attract a stable, mature customer base. The Company estimates the cost of opening a new store to be approximately $1.8 million consisting primarily of the investment in inventory (net of average vendor payables), the cost of furniture, fixtures and equipment and pre-opening expenses, such as the costs associated with training employees and stocking the store.
The Company's sales are dependent to some degree on the economic environment and level of consumer spending in Southern California. While optimistic business reports regarding the Southern California area suggest a retail environment conducive to the Company's expansion plans, this benefit may be partially offset by higher rental expenses for new stores as the real estate market for retail locations becomes more competitive as the economy continues to expand.
C. Operating Strategies
The Company's stores feature a number of distinct, specialty sporting goods divisions, offering a large assortment of quality brand name merchandise at competitive prices. The stores include traditional sporting goods merchandise (e.g., footwear, apparel and other general athletic products) and nontraditional merchandise such as downhill skiing, mountaineering and SCUBA. The merchandise appeals to both experts and beginners. In addition, the Company's stores provide over 35 services for the serious sports enthusiast, including ski rental and repair, full dive training and certification programs, SCUBA charters, team sales, racquet stringing, and bicycle tune up and repair. Each shop is staffed by sales associates with expertise in the use of the merchandise they sell, permitting the Company to offer its customers a high level of knowledgeable service. Average sales per store were $8.3 million for fiscal 2000.
The Company purchases merchandise from over 1200 vendors. The Company's largest vendor, Nike, Inc., accounted for approximately 8% and 9% of the Company's total inventory purchases for fiscal 2000 and 1999, respectively. The following table sets forth the percentage of total net sales for each major category for each of the last three fiscal years:
The market for retail sporting goods is seasonal in nature. The Company's highest sales levels and operating profit occur predominantly during the winter months of November, December and January, which overlap the third and fourth fiscal quarters ended December 31 and March 31. As with other retailers, the Company's business is heavily affected by sales of merchandise during the Christmas season. In addition, the Company's product mix historically has emphasized cold weather sporting goods merchandise, particularly ski-related products, thus boosting sales levels during the winter months and often increasing the seasonality of the Company's business. Sales of winter related products have decreased over the last five fiscal years from 25% in fiscal 1995 to 17% in fiscal 2000 as a percentage of the total Company net sales. In each of fiscal 1998, 1999 and 2000, 33%, 31% and 31%, respectively, of the Company's sales were attributable to the months of November, December and January. Management anticipates that this seasonal trend in sales will continue. No assurance can be provided that any substantial decrease in sales for the winter months, which could be influenced by the amount and timing of snowfall at the resorts frequented by those living in Southern California, will not have a material adverse effect on the Company's profitability. However, in order to be less dependent upon winter business, management has emphasized, and plans to continue to emphasize, a broadened product mix that offers merchandise generally purchased by consumers in the spring, summer and fall seasons. Moreover, in spite of recent product innovations such as snowboarding and "shaped" skis, as well as the favorable "El Nino" weather conditions in fiscal 1998, management believes that the winter-related product category may have matured with little or no expected growth relative to other specialty areas carried in the Company's stores, thereby further underscoring the need for greater product and seasonal diversification.
The Company uses the "Sport Chalet" name as a service mark in connection with its business operations. The Company has registered "Sport Chalet" as a service mark with the State of California, and has obtained federal registration for certain purposes. The Company also retains common law rights to the name, which it has used for 40 years, and the lack of federal registration for certain purposes, might only pose a problem if the Company were to expand into a geographic area where the name or any confusingly similar name is used by someone with prior rights.
D. Industry and Competition
The market for retail sporting goods is highly competitive, fragmented and segmented. The Company competes with many different types of retail stores, including full-line sporting goods chains (Gart Sports, The Sports Authority, Chick's, Big 5), specialty stores (REI, Footaction, Turner's, Foot Locker, West Marine), supplier owned stores (Nike, Reebok) and discount and department stores (Wal-Mart, Nordstrom, Macy's, Target, Sears). The Company's industry is dominated by sporting good superstore retailers, i.e. full-line sporting goods chains with stores typically larger than 30,000 square feet often located in freestanding locations. Superstore chains generally provide a greater selection of higher quality merchandise than other retailers, while remaining price competitive. Historically, the Company has provided a broader selection of higher-end specialty items that require higher levels of customer service and sales associate expertise than other superstore retailers in the Southern California area.
In the last few years, several superstore retailers have attempted to enter or expand their presence in Southern California. However, more recently three competitors have announced store closings and are eliminating expansion plans.
The Company believes that its broad selection of high quality name brands and numerous specialty items at competitive prices, showcased by its well-trained sales associates, distinguish it from discount and department stores, traditional and specialty sporting goods stores and other superstore operations. Management believes the Company's format takes advantage of several significant trends and conditions in the sporting goods industry. These trends include the size of the industry, fragmented competition, superstore dominance, limited assortments offered by many sporting goods retailers, consumer preference for one-stop shopping, and the importance of delivering value through selection, quality, service and price.
The Internet has been mentioned as a growth area for sporting goods and other retail products and many retailers are currently selling online. In November 1999 the Company began operating its online store through Global Sports Interactive ("GSI") at www.sportchalet.com. GSI creates and operates all aspects of the www.sportchalet.com shopping experience, including fulfillment and purchasing, while remaining transparent to the customer. Sport Chalet receives a license fee based on a percentage of sales generated by the website.
E. Employees
As of March 31, 2000, the Company had 1,745 full and part-time employees, 1,494 of whom were employed in the Company's stores and 251 of whom were employed in warehouse and delivery operations or in executive office positions. None of the employees are unionized. A typical store has approximately 60 employees, of whom 15 to 30 are in the store at any time on a normal operating basis. Each store employs a store manager, two assistant managers, and five to seven area managers who supervise the sales associates. Additional part-time employees typically are hired during the holiday season.
ITEM 2.
ITEM 2. PROPERTIES
At March 31, 2000, the Company had 22 store locations. The following table summarizes the key information on the Company's retail properties:
(1) The original store opened in 1959. The existing store consists of two nearby facilities. See the discussion below regarding future expansion and relocation.
(2) Includes swimming pool facility for SCUBA and kayaking instruction.
(3) The store was originally opened in a different location in the shopping mall and has been relocated and expanded.
(4) Store opened within the distribution center building as an outlet store for the purpose of selling slow moving or discontinued merchandise.
(5) Relocated to a newly constructed facility on the same property in August 1995.
(6) Relocated to a newly constructed facility approximately 2 miles away in November 1996.
All retail facilities are located on leased property. The initial terms of the retail leases expire in 2002 through 2015 and are subject to options that extend their terms through 2009 to 2027. All retail store leases provide for base rent which may or may not be credited against percentage rent based upon gross sales from the premises. In some cases, base rental amounts increase as the lease term progresses, but in some cases, the Company expects that percentage rent will more than offset the base rental amounts.
The Company leases from corporations controlled by Norbert J. Olberz, the Chairman of the Board and the Company's Principal Stockholder (the "Principal Stockholder"), its corporate office space in La Canada, its warehouse and distribution facility in Montclair, and its stores in La Canada, Huntington Beach and Porter Ranch. The Company has incurred rental expense to the Principal Stockholder of $2.1 million, $1.7 million and $1.5 million in fiscal 2000, 1999 and 1998, respectively. The Company believes that the occupancy costs to the Company under each lease are no higher than those which would be charged by an unrelated third party under similar circumstances.
During fiscal 1998, the Company's non-employee directors approved a proposal to relocate and expand the La Canada store (three store fronts) and corporate offices (five separate buildings) currently leased from La Canada Properties, Inc., a California Corporation under the control of the Principal Stockholder to the "Sport Chalet Village," a shopping center in La Canada currently under development by La Canada Properties, Inc. The development of the shopping center has been indefinitely delayed as a result of the problems experienced by La Canada Properties, Inc. in obtaining permits and entitlements from the City of La Canada. Assuming the Sport Chalet Village project proceeds on a timely basis, the existing lease for the La Canada store and corporate offices will be terminated and under a new lease the new rental rate during the initial fifteen-year lease for the store will be the amount by which four percent times monthly gross sales exceeds the $54,250 monthly minimum rent, which is expected to be less, on a per foot basis, than under the old lease. The new store will be 50,000 square feet and, subject to necessary government approvals, will contain an outdoor pool area of approximately 1,500 square feet. The new office rental rate will be $10,850 per month compared to $4,500 under the old lease. The new office will be 20,000 square feet compared to the current 17,000 square feet. Management believes that the new facilities, if built, will result in improved operational efficiencies because the site will be larger and all functions can be housed under one roof.
Management believes that the occupancy costs for the leases described above would be no higher than those which would be charged by an unrelated third party under similar circumstances.
The Company maintains insurance coverage for its various facilities for fire and theft, but does not maintain earthquake insurance.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
The Company is involved in various routine legal proceedings incidental to the conduct of its business. Management does not believe that any of these legal proceedings will have a material adverse impact on the business or financial condition or results of operations of the Company, either due to the nature of the claims, or because Management believes that such claims should not exceed the limits of the Company's insurance coverage.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS
No matters were submitted to the Company's stockholders during the fourth quarter of fiscal 2000.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
Market Price for Common Shares
The Company's Common Stock is traded on The Nasdaq Stock Market's National Market under the symbol "SPCH." The following table reflects the range of high and low sale prices of the Company's Common Stock by quarter over the last two fiscal years as reported by Nasdaq:
On June 12, 2000, the closing price of the Company's Common Stock as reported by Nasdaq was $4.75. Stockholders are urged to obtain current market quotations for the Common Stock.
Approximate Number of Holders of Common Shares
The approximate number of stockholders of the Company's Common Stock as of June 12, 2000 was 300 (excluding individual participants in nominee security position listings) and as of that date, the Company estimates that there were approximately 1,000 beneficial owners holding stock in nominee or "street" name.
Dividend Policy
The Company has not paid any dividends to stockholders since its initial public offering in November 1992. It is currently contemplated that the Company will retain earnings for use in the operation and potential expansion of its business and, therefore, does not anticipate declaring or paying any cash dividends in the foreseeable future. The declaration and payment of any such dividends in the future will depend upon the Company's earnings, financial condition, capital needs and other factors deemed relevant by the Board of Directors.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The following sets forth selected financial data as of and for the periods presented. This data should be read in conjunction with the financial statements and related notes thereto and other financial information included herein.
(1) Represents the fair market value of 293,625 unregistered common shares awarded to certain employees by the Principal Stockholder and his spouse, through their family trust.
(2) A store's sales are included in the comparable store sales calculation after its twelfth full month of operation.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION
The following should be read in conjunction with "Item 6. Selected Financial Data" and the Company's financial statements and related notes thereto.
Results of Operations
The following tables set forth statements of income data and relative percentages of net sales for the periods indicated (dollar amounts in thousands, except per share amounts).
Fiscal 2000 Compared to Fiscal 1999. Sales increased from $154.6 million to $175.8 million, a 13.7% increase. The increase is primarily related to the opening of three new stores during fiscal 2000. Comparable store sales increased 2.0% reflecting continuing improvements in merchandising and customer service, offset partially by the unusually warm and dry weather conditions experienced in the third quarter as compared to the third quarter of the prior year. Comparable store sales of non-winter related merchandise increased 4.0%.
Gross profit for the period decreased as a percent of sales from 30.8% to 29.8% as significant markdowns were required to stimulate the sales of winter related merchandise.
Selling, general and administrative ("SG&A") expenses decreased as a percent of sales from 24.8% in fiscal 2000 compared to 25.2% in the prior year, primarily the result of reduced incentive-based labor costs.
Interest income increased to $284,000 from $243,000 last year due to investments of cash reserves at higher interest rates.
The effective tax rate as a percent of pretax income is 39.8% for fiscal 2000 and 40.0% for fiscal 1999. These rates differ from the statutory rate of 39.8% primarily as a result of permanent differences between financial reporting and tax-basis income.
Net income remained relatively flat at $5.5 million compared to $5.4 million in the prior year primarily due to increased sales offset by reduced gross profit margins. Diluted earnings per share increased to $.81 from $.80 due primarily to increased net income.
Fourth Quarter 2000 Compared to Fourth Quarter 1999. Sales increased from $39.1 million to $49.0 million, a 25.3% increase. Comparable store sales increased 10.2% as markdowns combined with the first significant winter weather of the season in Southern California caused significant increases in sales of winter related merchandise during the fourth quarter of fiscal 2000. Sales of non-winter related products increased 5.7% on a comparable store basis as well. Also contributing to the total sales increase were the three new stores that were opened during the fiscal year.
Gross profit for the period decreased as a percent of sales from 31.1% to 28.4% primarily from increased markdowns taken to stimulate the sales of winter related merchandise.
Selling, general and administrative expenses decreased from 26.2% to 22.8% as a percent of sales primarily because of the leveraging effect of strong sales for the quarter ending March 31, 2000.
Interest income decreased slightly from $125,000 to $110,000.
The effective income tax rate as a percent of pretax income for the fourth quarter 2000 is 39.7% compared to 36.2% for the same period of fiscal 1999, the result of timing differences between quarters of fiscal 1999.
Net income increased to $1.7 million from $1.3 million and earnings per share increased to $.26 from $.20 as a result of increased sales.
Fiscal 1999 Compared to Fiscal 1998. Sales increased from $143.0 million to $154.6 million, an 8.1% increase. Comparable store sales increased 3.2% reflecting, in management's opinion, stronger consumer demand in Southern California favoring the Company's product mix and continuing improvements in merchandising and customer service, offset partially by the lack of "El Nino" driven weather conditions which favorably impacted sales levels of winter- related merchandise in the third and fourth quarters of the prior fiscal year. In addition, one new store was opened during June 1998 and another during November 1997, while the under-performing El Cajon store was closed in September 1997.
Gross profit for the period increased as a percent of sales from 29.9% to 30.8% reflecting strong consumer demand and continued improvements in inventory procurement systems and practices, which led to more efficient inventory levels as well as further reductions in inventory shrinkage.
Selling, general and administrative ("SG&A") expenses increased slightly as a percent of sales, 25.2% in fiscal 1999 compared to 24.9% in the prior year as increased sales and net income in fiscal 1999 resulted in increases in incentive-based labor costs.
For fiscal 1998 the Stock Award by the Principal Stockholder and his spouse, through their family trust, of 293,625 unregistered shares to more than one hundred employees and certain Directors resulted in compensation expense and a decrease to net income of $1.5 million. As a consequence, earnings per share was reduced by $.13 on an after-tax basis. No such award was made in fiscal 1999.
Interest income increased to $243,000 from an expense of $175,000 last year due to investments of cash reserves generated by increased net income.
The effective tax rate as a percent of pretax income is 40.0% for fiscal 1999 and 40.9% for fiscal 1998. These rates differ from the statutory rate of 39.8% as a result of permanent differences between financial reporting and tax- basis income.
Net income increased to $5.4 million from $3.2 million in the prior year primarily due to increased sales, improved gross profit margins and the impact of the Stock Award in the prior fiscal year. Diluted earnings per share increased to $.80 from $.49 due primarily to increased net income.
Liquidity and Capital Resources
The Company's primary capital requirements are for inventory and store expansion, relocation and remodeling. Historically, cash from operations, credit terms from vendors and bank borrowing have met the Company's liquidity needs. The Company believes that these sources will be sufficient to fund currently anticipated cash requirements for the foreseeable future.
Net cash provided by operating activities was $1.0 million, $9.6 million and $9.2 million for fiscal 2000, 1999 and 1998, respectively. Net income provided cash of $5.5 million, $5.4 million and $3.2 million in fiscal 2000, 1999 and 1998. Included in net income was non-cash depreciation of $3.7 million, $3.2 million and $2.9 million for fiscal 2000, 1999, and 1998, respectively. In fiscal 1998, non-cash stock awards provided an additional $1.6 million.
Accounts receivable increased by $1.5 million and $880,000 in fiscal 2000 and 1999 as a result of amounts due to the Company from John Wells Golf Shops, the operator of the leased golf department within the Company's stores. On April 1, 2000, the Company purchased the inventory and fixtures of the golf department from the lessee and will operate the golf department on its own.
During fiscal 2000 and 1999, inventories increased $7.0 million and $2.1 million primarily as the result of adding new stores.
Accounts payable increased $2.0 million during fiscal 1999 directly related to the increase in inventory. During fiscal 2000 and 1998, accounts payable decreased $69,000 and $976,000, respectively, due to changes in the timing of vendor payments.
Net cash used in investing activities was $6.6 million, $3.8 million and $3.4 million for fiscal 2000, 1999 and 1998, respectively. In fiscal 2000 three stores were opened and one was relocated while in fiscal 1999 one store was added and during 1998 one store was relocated. In fiscal 2000, 1999 and 1998, ongoing capital expenditures for the Company's existing stores totaled $2.8 million, $2.3 million and $2.6 million, respectively.
As a result of the Company's expansion plans, capital expenditures are forecasted to be much higher than in the past. During fiscal 2001, the Company has forecasted capital expenditures of $10.4 million. Approximately $1.0 million of this amount will be used to open at least one new store. In addition, approximately $6 million will be used to implement the Company's three-year strategic plan regarding information technology.
Historically, net cash used in or provided by financing activities has resulted primarily from the advance or pay down of a revolving credit line. For fiscal 2000 and 1999, there were no borrowings. For fiscal 1998, peak borrowings on that credit line were $4.9 million.
In June 2000, the Company modified a credit facility from Bank of America National Trust and Savings Association, Inc. (the "Lender") which provides for advances up to $10 million less the amount of any outstanding draws up to a $1.5 million maximum in authorized letters of credit. Interest accrues at prime less 1/2% or can be fixed for a period of time at the then current rate established under one of several indices, all at the Company's option. This credit facility expires on August 31, 2002 and the Company expects to renegotiate and extend the term of this agreement before that date.
The Company's obligation to the Lender is presently secured by a first priority lien on substantially all of the Company's non-real estate assets, and the Company is subject to several restrictive covenants. The principal operating covenants require the Company to maintain certain minimum cash flow coverage and debt to equity ratios and restrict the level of losses and capital
expenditures, calculated on a quarterly basis. In addition, the Company must reduce borrowings to $2 million or less for 30 consecutive days during each fiscal year. The Company currently is in full compliance with these covenants and expects to remain in compliance during the term of the credit facility. The Company believes its credit line with the Lender is sufficient to fund capital expenditures for the foreseeable future and to meet seasonal fluctuations in cash flow requirements. However, unexpected conditions could cause the Company to request additional borrowing capacity from the Lender or alter its expansion plans or operations.
No cash dividends have been declared on common stock in fiscal 2000. The Company intends to retain earnings for use in the operation and expansion of its business and, therefore, does not anticipate paying any cash dividends in the foreseeable future.
Seasonality and Quarterly Fluctuations
As noted previously, the months of November, December and January historically have accounted for the largest percentage of the Company's net sales and a significant portion of its net income. As is typical with other sporting goods retailers, the Company's sales volume increases significantly during the Christmas holiday season and the peak ski and snowboard season generally corresponds to this three-month period.
The Company's operating results historically have been influenced by the amount and timing of snowfall at the resorts frequented by those living in Southern California, particularly the Mammoth Mountain resort in the eastern Sierra Nevada mountains. An early snowfall at Mammoth often has influenced sales because it generally extends the demand for winter apparel and equipment while a late snowfall may have the opposite effect.
Although the third and fourth quarters of fiscal 1998 experienced strong sales of winter-related products as a result of the "El Nino" weather conditions which provided unusually consistent snowfall throughout the period, management currently projects little or no growth in winter-related product sales relative to other specialty product areas of the Company's business. Accordingly, the effect of snow conditions on the Company's operating results has been and is being partially mitigated by management's actions to diversify the Company's product mix. Sales of winter related products have decreased over the last five fiscal years from 25% in fiscal 1995 to 17% in fiscal 2000 as a percentage of the total Company sales revenue.
Suppliers in the ski and snowboard industry require that commitments be made for purchases of apparel and equipment by April for fall delivery, and only limited quantities of merchandise can be reordered during the fall. Consequently, the Company places its orders in the spring anticipating snowfall in the winter. If the snowfall does not at least provide an adequate base or occurs late in the season, or if sales do not meet projections, the Company may be required to mark down its winter related merchandise.
Year 2000
In prior years, the Company discussed the nature and progress of its plans to become Year 2000 ready. In late 1999, the Company completed its remediation and testing of systems. As a result of those planning and implementation efforts, the Company experienced no significant disruptions in mission critical information technology and non-information technology systems and believes those systems successfully responded to the Year 2000 date change. The Company expensed approximately $200,000 in this effort. The Company is not aware of any material problems resulting from Year 2000 issues, either with its products, internal systems, or the products and services of third parties. The Company will continue to monitor its mission critical computer applications and those of its suppliers and vendors throughout the year 2000 to ensure that any latent Year 2000 matters that may arise are addressed promptly.
Other Factors That May Affect Future Results
The statements which are not historical facts contained in this Annual Report on Form 10-K are "forward looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, that involve risks and uncertainties. The words "anticipate", "believes", "expect", "intend", "may" or similar expressions used in this Annual Report as they relate to the Company or its management are generally intended to identify such forward looking statements.
These risks and uncertainties contained in this Annual Report, include but are not limited to, product demand and market acceptance risks, the effect of economic conditions generally and in Southern California, and retail and sporting goods business conditions specifically, the impact of competition, technological difficulties, capacity and supply constraints or difficulties, the results of financing efforts, changes in consumer preferences and trends, the effect of the Company's accounting policies, weather conditions, acts of God, trade restrictions and other risks detailed in the Company's Security and Exchange Commission filings.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements required by this section are submitted as part of Item 14 of this report.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
PART III --------
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT - ------------------------------------------------------------
The following table sets forth the names and ages of all directors and executive officers as of June 26, 2000, indicating all positions and offices presently held by each.
Norbert J. Olberz is the Company's founder and has been its Controlling Stockholder and Chairman of the Board since it was founded in 1959, Interim President from April 1995 through November 1997 and Interim Chief Executive Officer from April 1995 to August 1999.
Eric S. Olberz has been a Director since 1992. Mr. Olberz recently received a Bachelors degree with an emphasis in accounting from National University and sat for the Certified Public Accountants Examination. Mr. Olberz was President and owner of Camp 7, Inc., a soft goods manufacturing operation located in Santa Ana, California from July 1995 through October 1996 and Vice Chairman of the Company from October 1994 to July 1995, Vice President from 1984 through October 1994 and Secretary from October 1992 to July 1995. Mr. Olberz resigned as an officer and employee concurrently with Camp 7, Inc.'s acquisition of the Company's soft goods manufacturing operations in July 1995. Mr. Olberz is the son of Norbert J. Olberz, the Principal Stockholder and Chairman of the Board.
John R. Attwood has been a Director of the Company and Chairman of the Board's Compensation Committee since February 1993. Mr. Attwood is the President of Attwood Enterprises, a consulting business. He was the former Chairman of Coca-Cola Bottling of Los Angeles and Senior Vice President and a Group President at Beatrice Companies, Inc., the parent company of Coca-Cola Bottling of Los Angeles, until his retirement in 1986. Mr. Attwood currently serves on the board of directors of Verdugo Hills Hospital, a non-profit hospital organization.
Kenneth Olsen has been a Director of the Company and Chairman of the Board's Audit Committee since June 1994. Mr. Olsen served as President and Chief Executive Officer of the Vons Company, Inc., a leading grocery store chain, from 1974 to 1983, at which time he retired from full time responsibilities after thirty-eight years with that company. Mr. Olsen currently serves as a director of several nonprofit organizations and is a management consultant advising both national and international companies on marketing and merchandising consumer products.
Frederick H. Schneider has been a Director and member of the Audit Committee since May 2000. Mr. Schneider currently is an independent private equity investor. He served as Chief Financial Officer and Principal of Leonard Green & Partners, L.P., a merchant banking firm, from September 1994 to January 1998, where he played a key role in various acquisitions. From June 1978 to September 1994, he was employed by KPMG Peat Marwick, including as an Audit and Due Diligence Partner from June 1989 to September 1994.
Craig L. Levra, Director since November 1998 and President and Chief Operating Officer since November 1997 and Chief Executive Officer since August 1999. Prior to joining the Company, Mr. Levra had been employed by The Sports Authority, the nation's largest sporting goods retailer. During his five-year tenure with that company, he held positions of increasing responsibility in merchandising and operations and was Vice President of Store Operations at the time of his departure. Mr. Levra received a Bachelor's degree and a Master's degree in Business Administration from the University of Kansas.
Dennis D. Trausch, Executive Vice President - Operations since June 1988. Since joining the Company in 1976, Mr. Trausch has served in various positions of increasing responsibility in store and Company operations. He oversees all store and distribution center operations, including human resources and customer service, as well as being responsible for site selection and leasing.
Howard K. Kaminsky, Chief Financial Officer since joining the Company in 1985, Executive Vice President - Finance since May 2000 and Secretary since July 1995. Mr. Kaminsky was also the Company's Vice-President - Finance from January through April 1997, Senior Vice President - Finance from April 1997 to May 2000 and Treasurer from October 1992 through January 1997. Prior to joining the Company, Mr. Kaminsky was employed in the auditing division of Ernst & Young LLP. He is a Certified Public Accountant and received his Bachelor of Science degree in Business Administration from California State University, Northridge. Mr. Kaminsky is a member of the California Society of Certified Public Accountants and the Retail Financial Executives Professional Association.
Ronald G. Mann, Senior Vice President - General Merchandise Manager since August 1998. Before joining the Company, Mr. Mann had been employed since 1976 at the large sporting goods retailer Big 5 Sporting Goods, where he held positions of increasing responsibility in operations and merchandising and was the Assistant Merchandise Manager at the time of his departure. Mr. Mann received his Bachelor of Arts degree from California State University, Northridge immediately prior to joining Big 5.
Norbert J. Olberz, the Principal Stockholder, owns approximately 67% of the Company's outstanding Common Stock at March 31, 2000. As a result, the Principal Stockholder has sufficient voting power to determine the outcome of any matters submitted to the Company's stockholders for approval.
Other information responding to Item 10 was included in the Registrant's Proxy Statement with respect to its 2000 Annual Meeting of Stockholders and is incorporated by reference herein pursuant to General Instruction G(3).
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information concerning executive compensation is incorporated herein by reference from the section entitled "Proposal 1 - Election of Directors" contained in the Proxy Statement.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information concerning the security ownership of certain beneficial owners and management is incorporated herein by reference from the sections entitled "General Information-Security Ownership of Principal Stockholders and Management" and "Proposal 1-Election of Directors" contained in the Proxy Statement.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information concerning certain relationships and related transactions is incorporated herein by reference from the section entitled "Proposal 1-Election of Directors-Certain Relationships and Related Transactions" contained in the Proxy Statement.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) (1) Financial Statements - The financial statements listed on the accompanying Index to Financial Statements are filed as part of this report.
(2) Schedules - Not applicable.
(3) Exhibits - See Index on Page E-1 hereof.
(b) Reports on Form 8-K
None.
Sport Chalet, Inc.
Index to Audited Financial Statements
Report of Independent Auditors
The Stockholders and Board of Directors Sport Chalet, Inc.
We have audited the accompanying balance sheets of Sport Chalet, Inc. as of March 31, 2000 and 1999, and the related statements of income, stockholders' equity, and cash flows for each of the three years in the period ended March 31, 2000. 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. 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, the financial statements referred to above present fairly, in all material respects, the financial position of Sport Chalet, Inc. at March 31, 2000 and 1999, and the results of its operations and its cash flows for each of the three years in the period ended March 31, 2000, in conformity with accounting principles generally accepted in the United States.
Los Angeles, California /s/ Ernst & Young LLP May 19, 2000
Sport Chalet, Inc.
Statements of Income
See accompanying notes.
Sport Chalet, Inc.
Balance Sheets
See accompanying notes.
Sport Chalet, Inc.
Statements of Stockholders' Equity
See accompanying notes.
Sport Chalet, Inc.
Statements of Cash Flows
See accompanying notes.
1. Description of Business
Sport Chalet, Inc. (the Company) is an operator of full service, specialty sporting goods superstores in Southern California. As of March 31, 2000, the Company had 22 stores, 11 of which are located in Los Angeles County, 5 in Orange County, 3 in San Diego County, 1 in San Bernardino County, 1 in Ventura County and 1 in Riverside County.
The Chairman of the Board (Principal Stockholder) owned approximately 67% of the Company's outstanding common stock at March 31, 2000.
2. Summary of Significant Accounting Policies
Cash and Cash Equivalents
The Company considers all highly liquid investments with maturities of less than three months when purchased to be cash equivalents.
The Company is potentially exposed to a concentration of credit risk when cash deposits in banks are in excess of federally insured limits in the event of nonperformance by the related financial institution. However, management does not anticipate nonperformance by these financial institutions.
Merchandise Inventories
Merchandise inventories are stated at the lower of cost (first-in, first-out determined by the retail method of accounting) or market and consist principally of merchandise held for resale. The Company considers cost to include the direct cost of merchandise, plus internal costs associated with merchandise procurement, storage and handling.
Furniture, Equipment and Leasehold Improvements
Furniture, equipment, and leasehold improvements are stated on the basis of cost. Depreciation of furniture and equipment is computed primarily on the straight-line method over the estimated useful lives of the assets. Leasehold improvements are amortized on the straight-line method over the shorter of the life of the asset or the remaining lease term. The estimated useful lives of the assets are as follows:
2. Summary of Significant Accounting Policies (continued)
Long Lived Assets
The Company periodically evaluates whether events and circumstances have occurred that indicate the remaining estimated useful life of long lived assets may warrant revision or that the remaining balance may not be recoverable. When factors indicate that the asset should be evaluated for possible impairment, the Company uses an estimate of the undiscounted net cash flows over the remaining life of the asset in measuring whether the asset is recoverable. Based upon the anticipated future income and cash flow from operations, in the opinion of Company management, there has been no impairment.
Pre-opening Costs
Non-capital expenditures incurred prior to the opening of a new store are charged to operations as incurred.
Revenue Recognition
Retail merchandise sales are recognized at the point of sale less estimated sales returns.
Advertising Costs
Advertising costs are expensed as incurred. Advertising expense amounted to $4,469,803, $3,960,886 and $2,786,799 for the years ended March 31, 2000, 1999 and 1998, respectively.
Income Taxes
The Company uses the liability method of accounting for income taxes.
Earnings Per Share
In fiscal 1998, the Company adopted Statement of Financial Accounting Standards No. 128, "Earnings Per Share" (EPS). This statement supersedes Accounting Principles Board Opinion No. 15 and replaces primary and fully diluted EPS with a dual presentation of basic and diluted EPS. Basic EPS equals net income divided by the number of weighted average common shares. Diluted EPS includes potentially dilutive securities such as stock options and convertible securities.
2. Summary of Significant Accounting Policies (continued)
Earnings Per Share (continued)
A reconciliation of the numerators and denominators of the basic and diluted EPS computations is illustrated below:
Use of Estimates
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.
2. Summary of Significant Accounting Policies (continued)
Stock-Based Compensation
The Company accounts for stock-based awards to employees using the intrinsic value method as prescribed by Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees."
Major Supplier
During 2000 and 1999, the Company purchased approximately 8% and 9%, respectively, of its inventory from one supplier. At March 31, 2000 and 1999, the amount due to this supplier constituted approximately 8% and 7% of accounts payable, respectively.
Reclassification
Certain amounts in March 31, 1998 and 1999 financial statements have been reclassified to conform with the March 31, 2000 classification.
3. Loans Payable to Bank
The Company has a credit facility with Bank of America National Trust and Savings Association, Inc. (lender) which provides for advances up to $10 million less the amount of any outstanding draws up to a maximum of $1.5 million in authorized letters of credit. Maximum borrowings generally may not exceed 50% of the value of eligible inventory, as defined, and may also be reduced under certain circumstances to reflect reserves or other adjustments. Interest shall accrue at prime less 1/2% depending on cash flow (8% at March 31, 2000) or may be fixed for a period of time at the then current rate established under one of several indicies, all at the Company's option. This credit facility expires August 31, 2002. The primary covenants in the credit facility with the lender require the Company to maintain certain minimum cash flow coverage and debt to equity ratios, and restricts the level of losses and capital expenditures, calculated on a quarterly basis. This loan is secured by substantially all of the Company's non-real estate assets.
At March 31, 2000, the Company had no letters of credit outstanding.
3. Loans Payable to Bank (continued)
There were no borrowings during either fiscal 2000 or fiscal 1999. The weighted average interest rate on short-term borrowings was 8.43% for the year ended March 31, 1998.
4. Commitments and Contingencies
The Company leases all buildings (including its corporate office space, warehouse and distribution facility and three stores from the Company's Principal Stockholder) under certain noncancelable operating lease agreements. Rentals of the retail locations in most instances require the payment of contingent rentals based on a percentage of sales in excess of minimum rental payment requirements. Most of the leases obligate the Company to pay costs of maintenance, utilities, and property taxes. Most leases contain renewal options of five years and certain leases provide for various rate increases over the lease term.
Future minimum payments, by year and in the aggregate, under those leases with terms of one year or more, consist of the following at March 31, 2000:
Total rent expense amounted to $13,553,746, $11,765,848 and $11,015,404 for the years ended March 31, 2000, 1999 and 1998, respectively, of which $2,102,252, $1,670,113 and $1,524,389, respectively, was paid on the leases with the Principal Stockholder. Also, total rent expense includes contingent rentals calculated as a percentage of gross sales over certain base amounts of $755,933, $748,789 and $752,151 for the years ended March 31, 2000, 1999 and 1998, respectively. Included in the accompanying balance sheets are amounts representing prepaid rent to the Principal Stockholder of $123,334 at March 31, 2000, $115,697 at March 31, 1999 and $76,267 at March 31, 1998.
The Company is involved from time to time in routine legal matters incidental to its business. In the opinion of the Company's management, based on the advice of counsel, resolution of such matters will not have a material effect on its financial position or results of operations.
5. Income Taxes
The provision (benefit) for income taxes for the years ended March 31, 2000, 1999 and 1998 consists of the following:
Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company's deferred tax liabilities and assets as of March 31, 2000 and 1999 are as follows:
A reconciliation of the provision for income taxes for the years ended March 31, 2000, 1999 and 1998 with the amount computed using the federal statutory rate follows:
6. Award Plans and Stock Award
Award Plan
The Company has an Incentive Award Plan (1992 Plan) under which stock options or other awards to purchase or receive up to 1,200,000 shares of the Company's common stock may be granted to employees and non-employee directors. The option price per share shall not be less than fair market value at the date of grant. Options vest over three to five-year periods and if not exercised, expire five to ten years from the date of grant. The 1992 Plan also provides for issuance by the Company of stock appreciation rights, restricted stock and performance awards. At March 31, 2000 there were 395,000 remaining shares available for grant under the Plan.
Pro forma information regarding net income and earnings per share is required by Statement 123, and has been determined as if the Company had accounted for its employee stock options under the fair value method of that Statement. The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted-average assumptions for fiscal 2000, 1999 and 1998: weighted-average risk-free interest rates of 6%; dividend yields of 0%; weighted-average volatility factors of the expected market price of the Company's common stock of .45 for 2000, .46 for 1999 and .47 for 1998; and a weighted average expected life of the option of five years.
For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period. The pro forma information follows:
The effect of compensation expense from stock options in the 1997 pro forma net income reflects the second year of vesting of the 1996 awards and the first year of vesting of 1997 awards. Not until 1999 is the full effect of recognizing compensation expense for stock options representative of the possible effects on pro forma net income for future years.
The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not provide a reliable single measure of the fair value of employee stock options.
6. Award Plans and Stock Award (continued)
Award Plan (continued)
A summary of the Company's stock option activity and related information follows:
Exercise prices for options outstanding as of March 31, 2000 ranged from $2.375 to $6.50 The weighted average remaining contractual life of those options is nine years.
Stock Award
The Principal Stockholder and his spouse, through their Family Trust, awarded 293,625 unregistered shares to more than 100 employees and certain Directors. Award recipients were not required to pay consideration; however, the shares awarded are subject to certain restrictions including a prohibition against transfer for two years and potential forfeiture in the event certain employment conditions are not fulfilled. The fair market value of the shares awarded was treated as a capital contribution by the Principal Stockholder and expensed as compensation to recipients as of March 31, 1998.
The Company granted loans to employees to pay the income taxes associated with these awards. These loans bear interest at 6% and are payable over four years and secured by the awarded shares.
7. Employee Retirement Plan
Effective April 1, 1997, the Company adopted the Sport Chalet, Inc. Employee Retirement Savings Plan (the 401(k) Plan). All employees who have been employed by the Company for at least one year of service (provided that such service represents a minimum of 1,000 hours worked during the year) and are at least 21 years of age are eligible to participate. Employees may contribute to the 401(k) Plan up to 24% of their current compensation, subject to a statutorily prescribed annual limit. The Company matches 25% of employee contributions up to 1% of the employee's current compensation. The Company expense related to this plan was $101,519 and $114,973 for the years ended March 31, 2000 and 1999, respectively.
8. Quarterly Results of Operations (Unaudited)
A summary of the unaudited quarterly results of operations follows (dollar amounts in thousands, except per share amounts):
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, on June 29, 2000.
SPORT CHALET, INC. (Registrant)
By: /s/ Craig L. Levra ---------------------------------- Craig L. Levra, 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 and on the date indicated above.
Signature
PRINCIPAL EXECUTIVE OFFICER DIRECTORS
/s/ Craig L. Levra /s/ Norbert J. Olberz - ---------------------------------------- ----------------------------- Craig L. Levra, Director, President and Norbert J. Olberz Chief Executive Officer Chairman and Director
/s/ John R. Attwood ----------------------------- PRINCIPAL FINANCIAL AND ACCOUNTING OFFICER John R. Attwood, Director
/s/ Howard K. Kaminsky - ----------------------------------------- Howard K. Kaminsky /s/ Kenneth Olsen Executive Vice President - Finance, ----------------------------- Chief Financial Officer and Secretary Kenneth Olsen, Director
/s/ Eric S. Olberz ----------------------------- Eric S. Olberz, Director
/s/ Frederick H. Schneider ----------------------------- Frederick H. Schneider, Director
EXHIBIT INDEX
E-1
(1) Incorporated by reference to the respective exhibit to the Company's Registration Statement on Form S-1 (Registration Statement No. 33- 53120).
E-2
E-3