ITEM 1. BUSINESS
OVERVIEW
99 Cent Stuff is a Florida-based single-priced value retailer of primarily name-brand, consumable merchandise. Our stores offer a wide assortment of regularly available consumer goods as well as a broad variety of first-quality, closeout merchandise. Every product is sold at 99 cents, including extra value savings of two or three items for 99 cents. We feature consumer staples such as produce and bread to encourage our customers to visit our stores frequently. We believe that our strategy of value cultivates customers as long-term clients of our stores by virtue of our assortment of consistently replenishable merchandise, branded goods, 99 cent pricing and convenient accessible locations. The value concept also increases the frequency of consumer visits and impulse purchases and reduces our exposure to seasonality and economic cycles. By offering merchandise in an attractive, convenient and familiar environment, we believe that our stores appeal to a wide demographic of customers.
We opened our first store in 1999 and operate 16 retail stores in south Florida. Our 99 Cent Stuff stores are located in neighborhood shopping centers where consumers are more likely to do their regular household shopping. These stores have an average size of approximately 20,000 saleable square feet and in 2004 average net sales per store was $4.2 million for stores open the full year. In 2004, our average sale per customer was $9.87.
99 Cent Stuff Stores' management team has many years of retail experience including in the value merchandise sector. Our chairman and chief executive officer, Raymond Zimmerman was chief executive of Service Merchandise Company, a multi-billion dollar retail chain. All of our other senior management have extensive retail experience.
INDUSTRY BACKGROUND
Value retail is generally distinguished from other retail formats by the purchase of closeout and other special-situation merchandise at prices substantially below original wholesale cost, and the subsequent sale of this merchandise at prices significantly below regular retail. As a result, our stores offer a continually changing selection of brands and products. We believe that over the last few years this segment has grown at roughly twice the pace of the remainder of the retail industry and is one of the fastest growing retail sectors in the United States. The recent economic downturn and difficult consumer environment has not materially impacted this segment as demonstrated by the financial results of other companies in this sector.
The sale of closeout or special-situation merchandise developed in response to the need of manufacturers, wholesalers and others to distribute merchandise outside their normal channels. This merchandise becomes available for a variety of reasons, including
o a manufacturer's over-production for seasonal or other reasons, o discontinuance due to a change in style, color, size or packaging, o the inability of a manufacturer or wholesaler to move merchandise effectively through regular channels, and o the financial needs of the manufacturer.
Many value retailers also sell merchandise that can be purchased from a manufacturer or wholesaler on a regular basis. Although this merchandise is usually purchased at less than the original wholesale cost and sold below normal retail cost, the discount, if any, however, is generally less than with closeout merchandise. Value retailers sell regularly available merchandise to ensure a degree of consistency in their product offerings and to establish themselves with customers as a reliable source of basic goods.
The critical factor that drives success in the deep discount industry is effective inventory purchasing and management. Purchasing is based on the ability to make timely payment and to immediately take delivery of merchandise.
OUR STRATEGY
Our goal is to operate stores providing continuous value to customers on a wide variety of merchandise. We strive to exceed our customers' expectations of the range and quality of name-brand consumables that can be purchased for 99 cents. Our strategies to achieve this goal include the following:
Emphasize "Name-Brands". We believe that customers visit our stores in search of name-brand consumable merchandise that can be purchased for 99 cents. During 2004, we purchased from more than 500 suppliers, including merchandise with the brand names General Mills, Colgate-Palmolive, Dial, Eveready Battery, Heinz, General Electric, Gerber Products, Gillette, Hershey Foods, Johnson & Johnson, Kraft General Foods, Lever Brothers, Mattel, Nabisco, Nestle, Pillsbury, Hunts, Del Monte, Procter & Gamble and Revlon.
Carry A Wide Selection Of Regularly Available Merchandise. Our retail stores offer consumer items in many staple product categories, including food, beverages, health and beauty aids, household products, housewares, hardware, stationary and party goods, seasonal goods, baby products and toys, giftware, pet products and clothing. To ensure that our merchandise offering is complete, we also offer non-name brand items or private label items from other retailers. By consistently offering a wide selection of consumable items, we encourage customers to frequently visit our stores for their everyday household needs.
Effective Store Layout. Our stores are designed for visual appeal and functionality and are attractively merchandised, brightly lit and well-maintained. The stores are organized in a "supermarket" format with items in the same category grouped together. Our prototype stores average 20,000 saleable square feet, which is significantly larger than most of our competitors. This size store allows us to more effectively display a wide assortment of merchandise, carry deep stock positions and provide customers with a more inviting and convenient environment that encourages customers to shop longer and buy more. Our stores feature central checkout lanes, scanning at point of sale and shopping carts.
Strong Supplier Relationships. Our goal is to develop a reputation as a reliable purchaser of name-brand, quality merchandise at discount prices. We strive to achieve this goal using our experienced buying staff to make immediate buying decisions and take timely possession of merchandise, pay promptly, honor all issued purchase orders and purchase goods close to a target season or out of season. We have been able to improve our supplier relationships by quickly selling name-brand merchandise without advertising.
Careful Purchasing To Increase Margins. We strive to maintain a lean operating environment focused on increasing operating margins. To reach this goal, we purchase merchandise at substantially discounted prices as a result of our buyers' knowledge, experience and negotiating skills and ability to select desirable merchandise. We have recently begun purchasing merchandise in the Far East.
EXPANSION STRATEGY
The Florida market is rapidly growing and is the fourth most populous state, with over 17 million residents or nearly 6% of the nation's population. All of our current stores are in Miami-Dade, Broward, Palm Beach and Martin counties, which include Miami, Ft. Lauderdale and West Palm Beach. These densely populated counties have experienced high growth and are expected to continue to grow in the future. We currently plan to open at least eight stores in 2005. We believe that we could open up to 25 additional locations in south Florida in the next few years. By continuing to focus our store openings in south Florida for the immediate future, we can leverage our brand awareness and take advantage of our existing warehouse and distribution facility and other management and operating efficiencies.
We believe that our value concept is easily replicated in most other populated areas of Florida and the southeastern U.S. Other areas of Florida are also experiencing explosive growth and we are developing plans to open up in other major metropolitan areas in Florida such as the Tampa, Orlando, Jacksonville and Naples/Fort Myers areas.
As a result of our expansion plans, we developed a warehouse and information systems for a substantially larger chain. Management believes that the operating infrastructure we have in place today is capable of integrating a significant number of new stores with minimal increase in corporate, warehouse and other infrastructure expenses. Virtually all of our senior management executives have held similar positions at retail chains of substantially greater size. We believe that our buying teams have sufficient levels of experience to support our expected new store growth.
TARGET CUSTOMERS
We target value-conscious consumers from a wide range of socio-economic backgrounds with a diverse ethnic mix and other demographic characteristics. We have placed our stores in areas where there are at least 50,000 to 100,000 residents within a three-mile radius and where most households have income ranging from $20,000 to $50,000. While most of our targeted customers are low middle to middle income workers, higher income customers are also attracted by the everyday values. The ages of our customers are distributed over the full spectrum of ages. We believe that our stores have a relatively small shopping radius, which allows us to concentrate multiple stores in a single market.
OUR STORES
Our stores offer customers a wide assortment of regularly available consumer goods as well as a broad variety of quality, closeout merchandise, all at discounted prices. All merchandise sold in our stores sells for 99 cents per item or multiple units for 99 cents.
The following table sets forth relevant information with respect to the growth of our existing 99 Cent Stuff store operations:
Merchandising. We believe that the appeal of our 99 Cent Stuff stores arises from the perceived value in selling products that generally retail elsewhere from $1.19 to $9.99, for only 99 cents per item or group of items. Each store typically carries over 6,000 to 8,000 different stock keeping units or SKUs. The merchandise sold in the stores primarily consists of a wide variety of basic consumer items, including:
o Arts and crafts supplies o Frozen foods o Bakery products o Gifts o Beverages o Glassware o Books o Grocery o Candy and snacks o Health and beauty aids o Canned goods o Home hardware and automotive o Cereals and crackers o Household/kitchen plastic products o Cleaning supplies o Office and School Supplies o Costume jewelry o Paper products o Domestics o Fresh produce and flowers o Ethnic foods o Pet food and supplies o Seasonal goods
Approximately 75% of our products sold are food and candy, health and beauty aids, household basics and seasonal goods.
Although our stores regularly carry a variety of basic household consumer items, unlike typical discount retail stores, we do not continuously stock complete lines of merchandise. Although some of the merchandise we purchase is available for reorder, the mix of brands and products frequently changes, depending upon the availability of merchandise at suitable prices. In some of the stores we offer additional ethnic food products that are targeted to the store's local customer base. To date, we have found that there is an adequate supply of name brand closeouts and re-orderable merchandise available to purchase at attractive prices. We believe that continuously changing specific name-brands found in stores from one week to the next encourages impulse and larger volume purchases and results in customers shopping more frequently. Unlike many discount retailers, we rarely impose a limit on the quantity of specific items that may be purchased by a single consumer.
Store Characteristics. All 16 of our 99 Cent Stuff stores (15 at December 31, 2004) are located in south Florida. Our stores average 20,000 square feet. We currently target new store locations of 20,000 square feet. The larger stores allow us to more effectively display a wider assortment of merchandise, carry deeper stock positions and provide customers with a more inviting and convenient environment that encourages customers to shop longer and buy more.
The stores are located in neighborhood shopping centers where consumers are more likely to do their regular household shopping. We seek locations where there is another anchor tenant such as a discount superstore due to the traffic at that location. The stores are located primarily in more densely populated, demographically diverse neighborhoods. Five of the stores are in Miami-Dade County, five are in Palm Beach County, five are in Broward County and one in Martin County.
Our stores are attractively merchandised, brightly lit, well-maintained, "destination" locations. The layout of each of the stores is customized to the size and configuration of the individual location and the desire to focus on particular product lines from time to time. The interior of each store is, however, designed to reflect a uniform format, like a typical supermarket, featuring traditional merchandise display techniques, bright lighting, lower shelving height that allows unobstructed visibility throughout the store, distinctive color scheme, interior and exterior signage and customized check-out counters and price tags. Merchandising displays are maintained throughout the day, change frequently and often incorporate seasonal themes. We believe that due to the continuously changing brand-names and layout, the typical customer tends to shop the whole store.
Customer purchases are by cash, credit and debit cards, food cards or check. The stores do not accept manufacturers' coupons. The stores are generally open 9 A.M. to 9 P.M. every day.
Store Management. Typically a store is staffed with a manager and an assistant manager. We currently employ one district manager responsible for store operations. In the future, each district manager will be responsible for approximately fifteen stores. The store managers report to the district manager and the district manager report to the CEO. The district manager visits each store at least twice a week and focuses on the implementation of policies, operations and merchandising philosophy. The district manager also helps train store management and assist store management with scheduling.
Advertising/Promotion. To date, we have done limited advertising. Initial awareness of new store openings is created using local newspaper "grand opening" ads and pre-opening handout flyers. For future store openings, we plan to use a grand opening promotional campaign that will include distribution of an advertising flyer and possibly radio and television spots. Our stores feature bright colorful signage to grab customers' attention and emphasize everyday values. We also use in-store coupons to entice customers to purchase multiple items and to return for future purchases of the same item.
New Store Costs. The total cost of a new store ranges from approximately $400,000 to $600,000. The capital investment for each new store ranges from $150,000 to $300,000, depending on landlord allowances and existing improvements, and a least $250,000 required for opening inventory. We also spend approximately $30,000 for pre-opening expenses. To date, we have not financed any of the capital expenditures through third parties but may do so in the future in order to leverage our resources.
PURCHASING
Our purchasing department staff consists of five buyers. Substantially all merchandise buying decisions are made at headquarters. We believe a primary factor contributing to our success will be our ability to identify and take advantage of opportunities to purchase merchandise with high customer interest at lower than regular wholesale prices. We purchase most of our merchandise from wholesalers, manufacturers, importers and other retailers. All of our purchases are for cash. Over time, we expect that our purchases directly from the manufacturer will increase substantially to up to 50% of our purchases. We continually seek to develop new sources of merchandise primarily by attending industry trade shows, and through advertising, marketing brochures and referrals. Our buyers also regularly travel to New York, Los Angeles, Chicago and Las Vegas to source identify, inspect and purchase new merchandise.
We do not have any contracts for the purchase of merchandise and we continuously seek out buying opportunities from both existing suppliers and new sources. Other than our produce supplier, which represented approximately 25% of our total purchases due to the high turnover of inventory, no single supplier accounted for more than 5% of total purchases in 2004. During 2004, we purchased from more than 500 suppliers, including merchandise with the General Mills, Colgate-Palmolive, Dial, Eveready Battery, Heinz, General Electric, Gerber Products, Gillette, Hershey Foods, Johnson & Johnson, Kraft General Foods, Lever Brothers, Mattel, Nabisco, Nestle, Pillsbury, Hunts, Del Monte, Procter & Gamble and Revlon brand names. Some purchases are directly from the manufacturer and some are from suppliers and distributors.
Approximately half of the merchandise we purchased is re-orderable and the remainder was closeout or special-situation merchandise. Our buyers search continuously for closeout opportunities and quality re-orderable merchandise. Our experience and expertise in buying merchandise has enabled us to develop relationships with many manufacturers that offer some or all of their closeout and special-situation merchandise to us prior to attempting to sell it through other channels because it can be moved quickly through our stores. Our relationships with many manufacturers and distributors, along with our ability to purchase in large volumes, also enables us to purchase re-orderable name-brand goods at discounted wholesale prices. We believe that our relationship with suppliers is further enhanced by our ability to minimize channel conflict for the manufacturer by quickly selling name-brand merchandise without, if requested by the supplier, advertising the item.
We believe that our relationships with our current suppliers is excellent. Due to our cash flow problems that occurred until completion of our offering, we were unable to purchase merchandise from certain suppliers because we were unable to meet the payment schedules that the supplier required. Instead, we purchased only from vendors that were willing to accept our payment terms, which may have hurt our margins. In order to achieve the lowest prices, many suppliers require payment prior to delivery of the goods or payment at the time of delivery. Our inability to pay in advance has thus required us to pay higher prices at certain times, limited our ability to purchase from those suppliers that require payments not on terms or forced us to make late payment penalties. A portion of the proceeds of our offering are being used to improve our purchasing power, which should allow us to purchase from additional suppliers at better prices by increasing our ability to pay on accelerated terms.
WAREHOUSING AND DISTRIBUTION
We lease a 65,000 square foot, single level warehouse and distribution facility in Medley, Florida. This site is conveniently located near freeway, rail systems and ports. The distribution facility has 13 dock doors available for receiving. Most of our merchandise is shipped directly from manufacturers and other suppliers to this facility and the remainder is delivered directly to our stores. We contract with local shippers to deliver merchandise to our stores from the warehouse. Deliveries are made from our distribution center to each store two to five times a week, depending on need. Most merchandise is automatically replenished to our stores using a computerized stock distribution model that orders new merchandise for delivery based on recent sales. The size of the distribution center allows storage of bulk one-time closeout purchases and seasonal or holiday items without incurring additional costs. We believe that the current warehouse and distribution facility will be able to support distribution to approximately 35 total stores in south Florida.
INVENTORY MANAGEMENT AND INFORMATION SYSTEMS
Our inventory management system records transactions by SKU from the receipt of goods at the warehouse through the shipment to the stores. Most goods have UPC barcodes to record sales allowing our point of sale or POS system to track the merchandise. Tracking by UPC allows us to manage and track sales by SKU, vendor and department. This allows us to identify sales trends early and to attempt to purchase additional inventory of fast-moving items. It also identifies slow-moving inventory on a timely basis so that we can develop orderly programs to sell any slow-moving inventory in the ordinary course of business or to cut back on future purchases of these items.
Our information technology is based on SBT Pro Series system. We have a custom-designed POS system with a simple and efficient interface very specific to the 99 cents price point. Checkout registers are fully integrated into the POS system. The warehouse uses the SBT Purchase Order and Inventory Control modules.
We intend to upgrade our information management technology in 2006 to better manage our inventories for growth beyond 25 stores. The new systems implemented in this project will provide us with valuable sales information to assist our buyers and improve merchandise allocation to our stores. Controlling our inventory levels will result in more efficient distribution and store operations.
COMPETITION
There are no major competitors in big-box, single-price deep discount sector in our south Florida market at this time. However, we do face competition in both the acquisition of inventory and sale of merchandise from other value discount stores, traditional retail stores, grocery stores and mass merchandisers. Similar concepts exist in other regional markets, such as
o 99 Cents Only Stores (NYSE: NDN), located primarily in California, Arizona and Nevada; o Dollar Tree (Nasdaq: DLTR), Family Dollar (NYSE: FDO) and Dollar General (NYSE: DG) located nationally including Florida; and o over 4,000 small retailers
We believe that our concept is most similar to 99 Cents Only. Family Dollar and Dollar General offer multi-priced merchandise at prices of up to $30 and generally both operate smaller stores in urban locations catering to lower income customers. Dollar Tree also offers less closeout merchandise than our stores.
Industry competitors also include a large number of privately held companies and individuals. There is increasing competition with other wholesalers and retailers, including other value retailers, for the purchase of quality closeout and other special-situation merchandise. Some of these competitors have substantially greater financial resources and buying power than us. Our ability to compete will depend on many factors including the success of our purchase and resale of such merchandise at lower prices than the competition. We may face intense competition in the future from new entrants in the value retail industry, among others, that could take away our customers, which could hurt our revenues.
TRADEMARKS AND SERVICE MARKS
The trademarks we own and use in connection with our goods and services are not registered. There are several federally-registered trademarks containing "99 Cents" and the owners of these trademarks may challenge the use of our name and other marks which include "99 Cent". If challenged, we may be forced to change the name of our stores and our other marks. We cannot assure you that we will have the right to use our current name and other marks in the future. Management believes that our current name and other trademarks have name recognition value in our market but are not critical elements of our merchandising strategy. We have applied for trademarks for some of our names but cannot assure you that they will be granted.
EMPLOYEES
At February 14, 2005, we had 482 employees of whom 432 were in our retail operations, 30 in our warehouse and distribution facility and 20 in our corporate offices. None of our employees is party to a collective bargaining agreement. We consider relations with our employees to be good. We offer certain benefits, including health insurance, to our full time employees.
ITEM 2.
ITEM 2. PROPERTIES
All of our stores are leased. We typically seek leases with an initial five-year to ten-year term and with one or more five-year options. We identify potential sites through a network of contacts within the brokerage and real estate communities. We expect that many of our new sites will be former big box retailers or grocery stores. For some of the sites we have taken space that exceeds our needs due to a desirable location or a favorable rent arrangement. The following table describes the location and size of our properties.
The initial terms of the leases expire from 2005 to 2015 and the base rent varies from $2.75 to $9.00 per square foot. Most of the leases have renewal options. Some of our leases are currently guaranteed by Raymond Zimmerman, our chairman and principal shareholder. Mr. Zimmerman is paid a fee equal to 2% of the amounts guaranteed.
At our Boca Raton corporate office we have our administrative, purchasing, finance and information technology departments.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
We are not currently a party to any legal actions that if determined adversely that would materially affect us.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Our common stock trades on the OTC Bulletin Board under the symbol NNCT and our warrants under the symbol NNCTW. The following table sets forth the range of high and low closing sale price as reported by the OTC Bulletin Board for our common stock and the warrants for the quarters indicated. The common stock prices have been adjusted for the 1-for-30 reverse split and the additional 1-for-4 reverse split effective September 15, 2003. The OTC Bulletin Board quotations represent quotations between dealers without adjustment for retail mark-up, markdowns or commissions and may not represent actual transactions.
COMMON STOCK
2002 HIGH LOW ----------- ----------- January 1 to March 31 $ 9.60 $ 6.00 April 1 to June 30 $ 6.00 $ 6.00 July 1 to September 30 $ 9.00 $ 4.80 October 1 to December 31 $ 14.40 $ 6.00 January 1 to March 31 $ 10.80 $ 4.80 April 1 to June 30 $ 12.00 $ 7.20 July 1 to September 30 $ 9.75 $ 6.05 October 1 to December 31 $ 9.60 $ 5.10 January 1 to March 31 $ 6.05 $ 5.00 April 1 to June 30 $ 5.35 $ 4.60 July 1 to September 30 $ 6.50 $ 4.65 October 1 to December 31 $ 5.90 $ 5.00
WARRANTS
January 1 to March 31 $ 1.00 $ .85 April 1 to June 30 $ 1.10 $ 1.10 July 1 to September 30 $ 1.60 $ 1.60 October 1 to December 31 $ 1.35 $ 1.35
As of February 15, 2005, there were approximately 500 record holders of the Common Stock. In addition, there were approximately 700 shareholders in street name whose shares are held in the name of other nominees. The transfer agent for the common stock is Signature Stock Transfer, Inc., Dallas, Texas.
DIVIDEND POLICY
We intend to retain all our earnings to finance the growth and development of our business. We do not anticipate paying any cash dividends on our common stock in the foreseeable future. Any future change in our dividend policy will be made at the discretion of our board of directors and will depend on any applicable contractual restrictions on us contained in our financing credit facilities and other agreements, our results of operations, earnings, capital requirements and other factors considered relevant by our board of directors.
RECENT SALES OF UNREGISTERED SECURITIES
None
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
(1) The balance sheet data has been restated to give effect to the conversion of a related party notes payable and accrued interest to shareholders' equity of $10,905 at December 31, 2000 and $14,592 at December 31, 2001 and 2002.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
99 Cent Stuff is a Florida-based single-priced deep-discount retailer of primarily, consumable general merchandise. Our stores offer a wide assortment of regularly available consumer goods as well as a broad variety of quality, closeout merchandise. Our product offerings are comprised of brand name merchandise and closeouts merchandise that may be available for reorder. Every product is sold for 99 cents or less. We provide our customers value on their everyday household needs and a positive shopping experience in customer-service-oriented stores, which are attractively merchandised, brightly lit and well maintained. We believe that our name-brand focus, along with a product mix emphasizing value-priced food and beverage and other everyday household items, increases the frequency of consumer visits and impulse purchases and reduces some of our exposure to seasonality and economic cycles. We believe that our format appeals to value-conscious customers in all socio-economic groups and results in a high volume of sales.
We operate 16 retail stores in south Florida. We opened our first three stores in 1999, five stores in 2000, two stores in 2001, one in 2002, one in 2003, four in 2004 and one in 2005. In the past, as part of our strategy to expand retail operations, we have opened new stores in close proximity to existing stores so that would be more efficient in distribution, marketing and branding. We have built corporate and warehouse support staff and systems that we believe can handle our planned expansion. As a result of our start-up costs, operating costs and these expenses, we have recorded losses since inception.
Our customers use cash, checks and third-party credit and debit cards and food cards to purchase our products. We do not issue private credit cards or make use of complicated financing arrangements.
99 Cent Stuff only operates in one business segment, which is retail operations.
The key to achieving profitability in the value business is to be able to rapidly purchase goods and be able to pay within terms in order to obtain the lowest prices. From time to time, due to our lack of operating cash, we were not able to purchase inventory in the most efficient fashion and we have generally incurred lower margins than some of our competitors. This has also affected our revenues. We have been instituting various changes to our buying and merchandising to increase our gross margins to satisfactory levels.
Our success depends in large part on our ability to locate and purchase quality closeout and special-situation merchandise at attractive prices. We must continuously seek out buying opportunities from our existing suppliers and from new sources. We compete for these opportunities with other wholesalers and retailers, value, discount and deep-discount chains, mass merchandisers, food markets, drug chains, club stores and various privately-held companies and individuals.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of our consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts. The estimates and assumptions are evaluated on an on-going basis and are based on historical experience and on various other factors that are believed to be reasonable. Estimates and assumptions include, but are not limited to, fixed asset lives, intangible assets, income taxes, and contingencies. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. 99 Cent Stuff believes the following critical accounting policies affect its more significant judgments and estimates used in the preparation of the financial statements.
Revenue recognition: Revenue is recognized at the point of sale.
Inventory: Our accounting for inventory and cost of goods sold requires us to estimate the value of such assets and cost of such assets sold and to continually assess whether such assets are impaired and the cost of goods sold is presented fairly. We believe that at December 31, 2004 and December 31, 2003 no inventory was impaired.
Further information is provided in Note 2 to the Consolidated Financial Statements.
RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 2004 COMPARED TO YEAR ENDED DECEMBER 31, 2003
Net sales. Net sales increased $7.5 million, or 19.1%, to $47.1 million in 2004 from $39.6 million in 2003. Same store net sales, for stores open all of both periods, increased $2.9 million in 2004, or 7.6%, compared to the prior year. The increase in net sales was primarily due to increased levels of inventory resulting in more goods available for sale and increased volume in produce. During 2004 and 2003, approximately 27.5% of our sales were of produce, which has a much higher turnover than other items sold in our stores. We anticipate that sales of produce will decrease as a percentage of net sales due to increased purchasing of higher margin items. Fourth quarter sales were $13.6 million in 2004. High margin merchandise ordered from the Far East and anticipated to be in our stores during the quarter arrived late and was delayed in customs, which limited to some extent our fourth quarter gains in sales and margin. These goods will now flow through operations in the first quarter 2005.
Gross profit. Gross profit, which consists of net sales less cost of goods sold, increased $2.2 million, or 19.8%, to $13.2 million in 2004 from $11.0 million in 2003. As a percentage of net sales, gross profit increased to 27.9% in 2004 from 27.8% in 2003 and was primarily attributable to a change in the product mix and cost variations, partially offset by increased sales in produce, which generally has lower margins and increased shrinkage than non-perishable products.
Selling, general and administrative. Selling, general and administrative expenses, or SG&A, which include operating expenses and depreciation and amortization, increased $2.7 million, or 20.0%, to $16.3 million in 2004 from $13.6 million in 2003 and was primarily attributable to increased wages and related benefits of $1.4 million, occupancy costs of $0.6 million, new store pre-opening expenses of $0.4 million insurance expense of $0.2 million and additional costs of being a public company for the full year in 2004. As a percentage of sales SG&A was 34.6% in 2004 compared to 34.3% in 2003. We expect that SG&A as a percentage of sales will decrease as we open additional stores.
Operating loss. Operating loss increased $0.5 million, or 20.9%, to $3.1 million in 2004 from $2.6 million in 2003. As a percentage of net sales, operating loss was 6.5% in both 2004 and 2003 and was primarily attributable to the items discussed above.
Other (income) expense. Interest expense decreased $0.7 million, or 55.5%, to $0.5 million in 2004 from $1.2 million in 2003. The decrease was primarily attributable to decreased borrowings and lower interest rates. Interest expense decreased to 1.1% of net sales in 2004 from 3.1% in 2003.
Net loss. As a result of the items discussed above, net loss decreased $0.2 million, or 4.2%, to $3.5 million in 2004 from $3.7 million in 2003.
YEAR ENDED DECEMBER 31, 2003 COMPARED TO YEAR ENDED DECEMBER 31, 2002
Net sales. Net sales increased $0.9 million, or 2.4%, from $38.7 million in 2002 to $39.6 million in 2003. Same store net sales, for stores open all of both periods, increased $2.6 million in 2003, or 8.1%, compared to the prior year. The increase in net sales was primarily due to increased volume in produce. During the 2003 period, approximately 26.5% of our sales were of produce, which has a much higher turnover the other items sold in our stores. We anticipate that sales of produce will decrease as a percentage of net sales due to increased purchasing of higher margin items.
Gross profit. Gross profit, which consists of total sales less cost of sales, increased $ 1.0 million, or 10.2%, from $10.0 million in 2002 to $11.0 million in 2003. The increase in gross profit dollars was primarily due to higher sales volume. As a percentage of net sales, gross profit increased 2.0% from 25.8% in 2002 to 27.8% in 2003 and was primarily attributable to a change in the product mix, cost variations, primarily in food products, and reduced shrinkage, partially offset by increased sales in produce, which generally has lower margins.
Selling, general and administrative. Selling, general and administrative expenses, or SG&A, which include operating expenses and depreciation and amortization, decreased $0.4 million in 2003, or 2.9%, from $14.0 million in 2002 to $13.6 million in 2003 and was primarily attributable to decreased wages and related benefits, rents and related expenses and professional fees of $1.0 million, $0.2 million and $0.1 million respectively, partially offset by increases in insurance and miscellaneous other - net, of $0.5 million and $0.4 million respectively.
Operating loss. Operating loss decreased $1.5 million, or 37.0%, from $4.1 million in 2002 to $2.6 million in 2003. As a percentage of net sales, operating loss decreased 4.0% from 10.5% in 2002 to 6.5% in 2003 and is primarily attributable to increased net sales and gross profit and decreased SG&A expenses.
Other (income) expense. Interest expense decreased $0.1 million, or 7.8%, from $1.3 million in 2002 to $1.2 million in 2003. The increase is primarily attributable to increased borrowings, partially offset by lower interest rates. As a percentage of net sales, interest expense decreased 0.4%, from 3.5% in 2002 to 3.1% in 2003.
Net loss. As a result of the items discussed above, net loss decreased $1.6 million, or 30.5%, from $5.3 million in 2002 to $3.7 million in 2003.
LIQUIDITY AND CAPITAL RESOURCES
Our capital requirements result primarily from purchases of inventory, expenses related to new store openings and working capital requirements for new and existing stores. We take advantage of closeout and other special-situation opportunities, which frequently result in volume purchases requirements, and as a consequence, our cash requirements are not constant or predictable during the year and can be affected by the timing and size of our purchases.
From inception on June 28, 1999 until the first closing of our public offering February 2004, we were funded principally from loans provided by Raymond Zimmerman, our principal shareholder and bank loans personally guaranteed by Mr. Zimmerman, and did not have other external sources of financing. Virtually all of our fixed assets, including fixtures and equipment, were purchased using advances made to 99 Cent Stuff from Mr. Zimmerman. In September 2004, we had utilized all of the proceeds of the offering and borrowed $0.5 million from Mr. Zimmerman to fund fourth quarter growth. In November 2004 we borrowed an additional $250,000 and an additional $0.5 million in January 2005. These amounts bear interest at the prime rate plus 2% and are payable on demand commencing January 1, 2007.
At December 31, 2004, we had negative working capital of $5.8 million, primarily due to the existing bank loans being due in 2005. At that date we had no cash and $0.2 million in borrowing availability.
At December 31, 2004, Mr. Zimmerman had advanced an aggregate of $6.1 million, which was carried on the balance sheet as accounts payable and accrued expenses, related party. Interest was accrued at a rate equal to the prime rate. Of this amount $5.0 million was converted into an unsecured convertible note. This note was originally due December 1, 2005 and has been extended to December 31, 2006 and bears interest at the prime rate. The note is convertible into common stock at the option of the holder at a conversion price equal to $5.00, subject to adjustment. We will have the right to prepay the note at any time. In 2003, notes payable of $14.6 million was converted into 4,750,000 shares of common stock as part of the merger with iVideoNow.
Mr. Zimmerman has personally guaranteed our aggregate $6.0 million lines of credit with Bank of America. As a result of these guarantees, the interest rate on these lines has been prime minus 1%, which we believe would be several points higher without the guarantee. As a result of the personal guarantees, these lines of credit do not have any financial covenants or ratios and the only events of default are standard payment defaults. Mr. Zimmerman has also guaranteed some of our property leases. The lease guarantees will terminate when our shareholders' equity is at least $3 million. We have been accruing fees of 2% of the lines of credit and the guaranteed property leases. The accrued fees of $0.1 million as of December 31, 2004 have been included in the accounts payable and accrued expenses, related party.
At December 31, 2004, approximately $0.2 million was available under these lines. In February and March 2004, we paid down the lines by approximately $3.4 million from the proceeds of the public offering, but over the remainder of the year an additional $3.6 million was borrowed to fund expansion and operations. In March 2005, the bank agreed to extend the maturity of the loans from June 2005 to June 2007. As a result, these loans will be reclassified to long-term liabilities.
In addition, Mr. Zimmerman has agreed to provide up to $3 million of additional capital during 2005 to fund any deficits in operating cash flow. Other than the existing Bank of America lines of credit and this commitment, there are not currently any other borrowing arrangements or commitments for any capital. While Mr. Zimmerman has indicated he will provide additional capital or guarantees in the future, he is under no obligation to do so. We may not be able to raise additional funds when needed, or on acceptable terms, or at all. Also, any additional equity financings may be dilutive to shareholders, and debt financing, if available, may involve restrictive covenants.
Net cash used by operations was $2.6 million in 2004 and $2.2 million in 2003. Net cash used by operations during the 2004 period included a net loss of $3.6 million, depreciation of $1.0 million, and increase in inventory of $1.2 million, of accounts payable of $1.2 million and accrued interest, related party of $0.4 million. Net cash used by operations during 2003 included a net loss of $3.7 million, accrued interest, related party of $1.1 million, depreciation of $0.9 million an increase in inventories of $0.3 million, and a decrease in accounts payable of $0.1 million. Inventory was increased during the period as proceeds from the offering were used to increase inventory levels in all stores and to provide inventory for the new stores opened in 2004.
Net cash used in investing activities for purchases of property and equipment was $1.8 million in 2004 and $0.3 million in 2003. The increase was principally attributable to new store openings.
Net cash provided by financing activities was $4.3 million in 2003, primarily due to $3.3 million from the sale of common stock in the public offering, $0.1 million of borrowings under a line of credit, increases in cash overdrafts of $0.1 million and increases in accounts payable and accrued interest, related party of $0.8 million. Net cash provided by financing activities was $2.5 million in 2003, primarily due to $2.4 million of borrowings under a line of credit offset by decreases in cash overdrafts of $0.4 million and increases in accounts payable and accrued interest, related party of $0.5 million. Net cash provided by financing activities reflects increases in borrowings under a line of credit personally guaranteed by Mr. Zimmerman in the amount of $0.1 million in 2004 and $2.4 million during 2003. We used all of the proceeds of the public offering in 2004.
Our future capital expenditures will depend primarily on the number and timing of new stores we open. We plan to open between eight and ten additional new stores by the end of 2005. Net capital expenditures for a new store are expected to average approximately $150,000 to $300,000, depending on landlord allowances and existing improvements. The average inventory investment for a new store is approximately $250,000. Pre-opening expenses, such as marketing, salaries, supplies and utilities, are expected to average approximately $30,000 per new store and are expensed as incurred. To date, we have not entered into any type of capital or operating leases for the new store build-out but anticipate doing so in the future to leverage our resources. Total cost of a new store ranges from $400,000 to $600,000.
In connection with store openings, we have projected our capital expenditure needs in 2005 to be approximately $2.0 million.
CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
The following tables summarize our contractual obligations and commercial commitments as of December 31, 2004:
We are committed under noncancelable operating leases for all store and office spaces, expiring at various dates through 2015. These leases generally provide minimum rent plus payments for real estate taxes and operating expenses, subject to escalations. We do not have any capital leases.
We moved to a larger warehouse facility in 2004. Our current warehouse facility should be sufficient at least through 2006. We expect to upgrade our information technology system in 2006. The cost of this upgrade cannot be estimated at this time.
We are currently seeking additional financing and have retained an investment banking firm, which is currently soliciting interest from institutional investors in a private placement of convertible securities. No assurances can be given that the offering will be successful or that the terms of any such offering will not be dilutive to existing shareholders.
SEASONALITY AND QUARTERLY FLUCTUATIONS
99 Cent Stuff has historically experienced some seasonal fluctuation in our net sales, operating expenses and net loss. The highest sales periods are the Christmas and Halloween seasons, although the Christmas season does not increase as much as many other retailers because a high proportion of our products are for every day use and not gifts. A greater amount of our net sales and operating income is generally realized during the fourth quarter. Quarterly results of operations may also fluctuate significantly as a result of a variety of other factors, including the timing of certain holidays, such as Easter and the timing of new store openings and the merchandise mix.
RECENT ACCOUNTING PRONOUNCEMENTS
In December 2003, the SEC issued SAB No. 104. SAB No. 104 revises or rescinds portions of the interpretive guidance included in Topic 13 of the codification of staff accounting bulletins in order to make this interpretive guidance consistent with current authoritative accounting and auditing guidance and SEC rules and regulations. It also rescinds the Revenue Recognition in Financial Statements Frequently Asked Questions and Answers document issued in conjunction with Topic 13. Selected portions of that document have been incorporated into Topic 13. The adoption of SAB No. 104 did not have a material impact on the Company's financial position, results of operations or cash flows.
In July 2004, the Emerging Issues Task Force ("EITF") published its consensus on Issue No. 03-1, "The Meaning of Other-Than-Temporary Impairment and its Application to Certain Investments." EITF Issue No. 03-1 addresses the meaning of other than temporary impairment and its application to debt and equity securities within the scope of SFAS No. 115, certain debt and equity securities within the scope of SFAS No. 124, and equity securities that are not subject to the scope of SFAS No. 115 and accounted for under the equity method. In September 2004, the FASB issued FASB Staff Position ("FSP") EITF Issue No. 03-1-1, which delays the effect date for the recognition and measurement guidance in EITF Issue No. 03-1. In addition, the FASB has issued a proposed FSP to consider whether further application guidance is necessary for securities analyzed for impairment under EITF issue No. 03-1. The Company continues to assess the potential impact that the adoption of the proposed FSP could have on our financial statements.
In December 2004, the FASB issued SFAS No. 123 (Revised 2004), "Share-Based Payment," that addresses the accounting for share-based payment transactions in which a Company receives employee services in exchange for (a) equity instruments of the Company or (b) liabilities that are based on the fair value of the Company's equity instruments or that may be settled by the issuance of such equity instruments. SFAS No. 123R addresses all forms of share-based payment awards, including shares issued under employee stock purchase plans, stock options, restricted stock and stock appreciation rights. SFAS No. 123R eliminates the ability to account for share-based compensation transactions using APB Opinion No. 25, "Accounting for Stock Issued to Employees", that was provided in Statement 123 as originally issued. Under SFAS No. 123R companies are required to record compensation expense for all share based payment award transactions measured at fair value. This statement is effective for quarters ending after June 15, 2005. The Company has not yet determined the impact of applying the various provisions of SFAS No. 123R.
In November 2004, the FASB issued SFAS No. 151 "Inventory Costs". This Statement amends the guidance in ARB No. 43, Chapter 4, "Inventory Pricing", to clarify the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage). In addition, this Statement requires that allocation of fixed production overhead to the costs of conversion be based on the normal capacity of the production facilities. The provisions of this Statement will be effective for the Company beginning with its fiscal year ending 2005. The Company is currently evaluating the impact of this new standard, but believes that it will not have a material impact on the Company's financial position, results of operations or cash flows.
In December 2004, the FASB issued SFAS No. 153 "Exchanges of Non-monetary Assets--an amendment of APB Opinion No. 29". This Statement amended APB Opinion No. 29 to eliminate the exception for non-monetary exchanges of similar productive assets and replaces it with a general exception for exchanges of non-monetary assets that do not have commercial substance. A non-monetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. The Company is currently evaluating the impact of this new standard, but believes that it will not have a material impact upon the Company's financial position, results of operations or cash flows.
FACTORS THAT MAY AFFECT OUR FUTURE RESULTS
If any of the following risks and uncertainties actually occur, our business' financial condition or operating results may be materially and adversely affected. In this event, the trading price of our common stock may decline and investors may lose part or all of its investment.
WE HAVE HAD LOSSES SINCE INCEPTION IN 1999, WHICH HAS AFFECTED OUR WORKING CAPITAL.
We had losses of $3.6 million in 2004 and $3.7 million in 2003. We cannot assure you that we will have a profit in 2005 or any future year. Due to these losses, we had a negative working capital of $5.8 million at December 31, 2004 and have continued to need cash for operations. This amount excludes approximately $6.1 million owed to Raymond Zimmerman, our chairman and principal shareholder. Our losses since inception in 1999 were due to
o costs associated with the opening of all of its stores, o inability from time to time to properly purchase inventory and stock the stores due to cash shortfalls, o costs associated with establishing our warehouse and corporate operations, and o costs associated with developing and implementing our information technology systems for the warehouse and stores.
WE WILL BE UNABLE TO GENERATE PROFITS UNLESS WE INCREASE OUR GROSS MARGINS AND VOLUME.
The key to achieving profitability in the value business is to be able to rapidly purchase goods and be able to pay within terms in order to obtain the lowest prices. Given our operating expenses, we need to increase our gross margins in order to be profitable.
WE HAVE BEEN FINANCIALLY DEPENDENT ON OUR PRINCIPAL SHAREHOLDER FOR MUCH OF OUR CAPITAL.
Since inception in 1999, we have been funded principally from loans provided by Raymond Zimmerman, our principal shareholder and bank loans personally guaranteed by Mr. Zimmerman. Other than the public offering that raised approximately $3.4 of net proceeds, we have not generally relied upon other external sources of financing. Although Mr. Zimmerman converted $14.6 million to equity, he is still owed approximately $6.1 million and has ongoing personal guarantees of $6.0 million of bank loans and of property leases. Mr. Zimmerman has also committed to provide up to $3 million during 2005 to fund deficits in operating cash flow. While Mr. Zimmerman has indicated that he will continue the guarantees indefinitely, his failure to continue these guarantees will cause the loans and leases to default and thus materially harm our financial position if we were unable to renegotiate acceptable terms.
WE WILL NEED ADDITIONAL CAPITAL TO IMPLEMENT OUR LONG TERM PLANS.
We will need additional capital if we are to implement our long-term expansion plans. It is also possible that we will be unable to obtain the additional funding when we need it. If we are unable to obtain additional funding as and when needed, we could be forced to delay opening new stores. Additional capital could be raised through the sale of additional equity or debt securities or the exercise of warrants. Additional equity may be obtained on terms that would be dilutive to existing investors or purchasers in this offering.
WE NEED NEW STORE OPENINGS OR WE WILL NOT ACHIEVE FUTURE GROWTH.
Our operating results depend largely on our ability to open and operate new stores successfully and to manage a larger business profitably. Our strategy depends on our ability to secure financing to open and operate these stores. Any failure by us to:
o identify suitable markets and sites for our new stores; o negotiate leases with acceptable terms; o achieve our expansion goals on a timely basis; o obtain acceptance in markets in which we currently have limited or no presence; o appropriately upgrade our financial and management information systems; and o control or manage operating expenses
could decrease our future operating results and hurt our ability to execute our business strategy. Some of these factors are beyond our control and we cannot assure you that we will be able to achieve our goals.
We also cannot assure you that when we open new stores, we will improve our results of operations. A variety of factors, including store location, store size, rental terms, the level of store sales and the level of initial advertising influence if and when a new store becomes profitable. Assuming that our planned expansion occurs as anticipated, our store base will include a relatively high proportion of stores with relatively short operating histories. We cannot assure you that our new stores will achieve the sales per saleable square foot and store-level operating margins currently achieved at our existing stores. If our new stores on average fail to achieve these results, our planned expansion could produce a decrease in our overall sales per saleable square foot and store-level operating margins. Increases in the level of advertising and pre-opening expenses associated with the opening of new stores could also contribute to a decrease in our operating margins. Finally, the opening of new stores in existing markets may reduce retail sales of existing stores in those markets, negatively affecting comparable store sales.
COST INCREASES COULD IMPACT OUR ABILITY TO PROVIDE QUALITY MERCHANDISE FOR 99 CENTS.
Our ability to provide quality merchandise at the 99 cents price point is subject to certain economic factors, which are beyond our control, including inflation, tariffs on imported goods, general trade conditions and the availability of merchandise at prices that would permit us to maintain our price point with acceptable margins. Due to our inability to raise our prices, inflation or other cost increases could hurt our margins. Our methods to respond to ordinary price increases resulting from inflationary pressures is to adjust the number of items sold at for 99 cents and by changing our selection of merchandise. A sustained trend of significantly increased inflationary pressure could require us to abandon our single price point of 99 cents per item or to raise our price point, which could force us to change our strategy and change our business model.
ALL OF OUR OPERATIONS ARE IN SOUTH FLORIDA, LEAVING US VULNERABLE TO EVENTS SPECIFIC TO THIS REGION.
All of our 99 Cent Stuff Stores are currently located in south Florida, although we intend to open one or more stores in 2005 in central Florida. Accordingly, our results of operations and financial condition largely depend upon trends in the south Florida economy. Although this region's economy has remained strong, this trend may not continue and retail spending could decline in the future. At times, natural disasters such as hurricanes and other events have disrupted the local economy. These events could also pose physical risks to our properties.
BECAUSE ALL OF OUR STORES RELY ON A SINGLE DISTRIBUTION CENTER, ANY DISRUPTION COULD REDUCE OUR NET SALES.
We currently rely on a single distribution center in Medley, Florida. Any natural disaster or other serious disruption to this distribution center due to fire, hurricane or any other cause could damage a significant portion of our inventory and could materially impair both our ability to adequately stock our stores and our sales and profitability, particularly because much of our merchandise consists of closeouts and other irreplaceable products.
OUR SUCCESS DEPENDS UPON THE AVAILABILITY OF CLOSEOUT AND SPECIAL-SITUATION MERCHANDISE AND WE MAY NOT BE ABLE TO FIND AND PURCHASE MERCHANDISE IN QUANTITIES NECESSARY TO ACCOMMODATE OUR GROWTH.
Our success depends in large part on our ability to locate and purchase quality closeout and special-situation merchandise at attractive prices. We cannot be certain that merchandise will continue to be available in the future.
Further, we may not be able to find and purchase merchandise in quantities necessary to accommodate our growth. Additionally, our suppliers sometimes restrict the advertising, promotion and method of distribution of their merchandise. These restrictions in turn may make it more difficult for us to quickly sell these items from our inventory.
Although we believe our relationships with our suppliers are good, we do not have any written agreements with any supplier. As a result, we must continuously seek out buying opportunities from our existing suppliers and from new sources. We compete for these opportunities with other wholesalers and retailers, value, discount and deep-discount chains, mass merchandisers, food markets, drug chains, club stores and various privately-held companies and individuals. One of our suppliers provided approximately 25% of our total purchases in 2004. Although we do not depend on this or any other single supplier or group of suppliers, a disruption in the availability of merchandise at attractive prices could impair our business.
WE RELY HEAVILY ON RAYMOND ZIMMERMAN AND THE LOSS OF HIM WILL DAMAGE OUR OPERATIONS.
Our success depends substantially on Raymond Zimmerman, our Chairman and Chief Executive Officer. Mr. Zimmerman has provided our strategic direction and financial support since our inception. We do not maintain key person life insurance on him.
WE NEED TO HIRE ADDITIONAL MANAGEMENT AND RETAIN EXISTING MANAGEMENT OR WE WILL NOT BE ABLE TO GROW OUR BUSINESS.
We believe that we will need to hire additional management to manage our planned growth. Our success will depend on our ability to identify, attract, hire, train, retain and motivate highly skilled management personnel and the loss of Mr. Zimmerman or other key management without suitable replacements will harm our business.
OUR OPERATING RESULTS MAY FLUCTUATE AND MAY BE AFFECTED BY SEASONAL BUYING PATTERNS, COMPARABLE STORE SALES AND OTHER FACTORS.
Historically, our highest revenues and operating income have occurred during months with major holidays such as Christmas, Easter and Halloween, which affect our operating results. In addition to seasonality, many other factors may cause our results of operations to vary significantly from quarter to quarter. If we miscalculate the demand for our products generally or for our product mix during peak periods, our revenues could decline, resulting in excess inventory, which could harm our margins and cash flow. Some of these factors are beyond our control. These factors include:
o the timing of new store openings; o the integration of new stores into our operations; o the level of advertising and pre-opening expenses associated with new stores; o general economic health of the value and deep-discount retail industries; o changes in the mix of products sold; o unexpected increases in shipping costs; o ability to successfully manage our inventory levels; o changes in our personnel; o fluctuations in the amount of consumer spending; and o the amount and timing of operating costs and capital expenditures relating to the growth of our business.
THE RIGHT TO USE OUR CURRENT NAME MAY BE CHALLENGED, WHICH COULD CAUSE US TO CHANGE OUR NAME AND DISRUPT OUR MARKETING PROGRAM.
The trademarks we own and use in connection with our goods and services are not registered. There are several federally-registered trademarks containing "99 Cents" and the owners of these trademarks may challenge the use of our name and other marks which include "99 Cents". If successfully challenged, we may be forced to change the name of our stores and our other marks, which would force us to develop a new name and market awareness.
WE FACE STRONG COMPETITION FOR CUSTOMERS AND TO PURCHASE INVENTORY, WHICH AFFECTS OUR PROFITABILITY.
We compete in both the acquisition of inventory and sale of merchandise with
o discount and deep-discount stores, o single price point merchandisers, o mass merchandisers, o food markets, o drug chains, and o club stores
In the future, new companies may also enter the value retail industry. Additionally, we currently face increasing competition for the purchase of quality closeout and other special-situation merchandise.
Some of our competitors have substantially greater financial resources and buying power than us. Our capability to compete will depend on many factors including our ability to successfully purchase and resell merchandise at lower prices than our competitors and the perceived value to consumers. We may not be able to compete successfully against our current and future competitors. If we are unable to compete successfully, our operating results will suffer.
WE FACE THE RISK OF LOSS FROM INVENTORY SHRINKAGE.
The retail industry is subject to theft by customers and employees, and damage to goods in the course of operations. Significant inventory shrinkage in the future would increase our cost of goods sold and decrease our profitability.
OUR INFORMATION TECHNOLOGY SYSTEMS ARE VULNERABLE TO DAMAGE THAT COULD HARM OUR ABILITY TO MANAGE OUR INVENTORY SYSTEMS.
Our success, in particular our ability to successfully manage inventory levels, largely depends upon the efficient operation of our computer hardware and software systems. We use management information systems to track inventory information at the store level, communicate customer information and aggregate daily sales information. These systems and our operations are vulnerable to damage or interruption from:
o hurricane, fire, flood and other natural disasters; o power loss, computer systems failures, internet and telecommunications or data network failure, operator negligence, improper operation by or supervision of employees, physical and electronic loss of data or security breaches, misappropriation and similar events; and o computer viruses.
Any failure that causes an interruption in our operations or a decrease in inventory tracking could result in reduced net sales.
OUR ANTI-TAKEOVER PROVISIONS COULD PREVENT OR DELAY A CHANGE IN CONTROL OF OUR COMPANY, EVEN IF SUCH CHANGE OF CONTROL WOULD BE BENEFICIAL TO OUR SHAREHOLDERS.
Provisions of our articles of incorporation and bylaws as well as provisions of Florida law could discourage, delay or prevent a merger, acquisition or other change in control of our company, even if such change in control would be beneficial to our shareholders. These provisions include:
o a board of directors that is classified such that only one-third of directors are elected each year; o authorizing the issuance of blank check preferred stock that could be issued by our board of directors to increase the number of outstanding shares and thwart a takeover attempt; o limitations on the ability of shareholders to call special meetings of shareholders; and o establishing advance notice requirements for nominations for election to the board of directors or for proposing matters that can be acted upon by shareholders at shareholder meetings.
In addition, provisions of the Florida Business Corporation Act restrict business combination transactions with parties that have not been approved by the board of directors. These provisions and other similar provisions make it more difficult for a third party to acquire us without negotiation. These provisions may apply even if the transaction may be considered beneficial by some shareholders.
WE ARE CONTROLLED BY OUR PRIMARY SHAREHOLDER. HIS INTERESTS MAY CONFLICT WITH YOUR INTERESTS.
Raymond Zimmerman and his family beneficially own approximately 81% of our outstanding common stock. For as long as Mr. Zimmerman and his family continue to own shares of common stock representing more than 50% of the voting power of our common stock, he will be able to direct the election of all of the members of our board of directors and determine the outcome of all matters submitted to a vote of our shareholders, including matters involving mergers or other business combinations, the acquisition or disposition of assets, the incurrence of indebtedness, the issuance of any additional shares of common stock or other equity securities and the payment of dividends on common stock. Mr. Zimmerman will also have the power to prevent or cause a change in control, and could take other actions that might be desirable to him but not to other shareholders. Mr. Zimmerman's interests may be different from the interests of the other shareholders. This could limit the voting and other rights of our other shareholders and could depress the market price of our common stock.
OUR FINANCIAL RELIANCE ON OUR PRIMARY SHAREHOLDER MAY ACT AS AN IMPEDIMENT TO A CHANGE OF CONTROL.
We owe Raymond Zimmerman approximately $6.1 million for advances he has made. Approximately $5.0 million of this amount is convertible into common stock at $5.00 per share. He is also the guarantor on our bank loans and property leases. Mr. Zimmerman's ability to cancel his guarantees could act as an impediment to a change of control of the company at such time as Mr. Zimmerman would beneficially own less than a majority of the outstanding common stock.
THERE IS A LIMITED MARKET FOR OUR COMMON STOCK.
Our common stock has historically traded on a limited basis. If we are not able to develop an active public trading market for the shares, investors may have limited liquidity and may be forced to hold the shares for an indefinite period of time.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
We are subject to risks resulting from interest rate fluctuations since interest on our borrowings under the bank facility are based on variable rates. If the prime rate were to increase 1.0% in 2005 as compared to the rate at December 31, 2004, our interest expense for 2005 would increase $0.1 million based on the outstanding balance at December 31, 2004. We do not hold any derivative instruments and do not engage in hedging activities.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements are included in this Form 10-K following the signature pages.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Effective September 16, 2003, our board of directors dismissed Caldwell Becker Dervin Petrick & Co. LLP as our independent auditors and engaged Daszkal Bolton LLP to serve as the new independent auditors. Daszkal Bolton had served as the auditor for 99 Cent Stuff, LLC prior to the transaction referred to the merger transaction.
Caldwell Becker's reports on the financial statements of iVideoNow as of and for the two most recent fiscal years ended December 31, 2002 did not contain any adverse opinion or disclaimer of opinion, nor were they qualified or modified as to audit scope, or accounting principles.
During iVideoNow's two fiscal years ended December 31, 2002, the subsequent interim periods ending March 31, 2003 and June 30, 2003, and during the period July 1, 2003 through September 16, 2003, there were no disagreements between Caldwell Becker and iVideoNow on any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedure, which disagreements, if not resolved to Caldwell Becker's satisfaction, would have caused them to make reference to the subject matter of the disagreement in connection with their reports.
We provided Caldwell Becker with a copy of the foregoing disclosures.
ITEM 9A.
ITEM 9A. CONTROLS AND PROCEDURES
Evaluation of disclosure controls and procedures. Our management evaluated, with the participation of our Chief Executive Officer and our Chief Financial Officer, the effectiveness of our disclosure controls and procedures as of the end of the period covered by this Annual Report on Form 10-K. Based on this evaluation, our Chief Executive Officer and our Chief Financial Officer have concluded that our disclosure controls and procedures are effective to ensure that information we are required to disclose in reports that we file or submit under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms.
Changes in internal control over financial reporting. There was no change in our internal control over financial reporting that occurred during the last fiscal quarter covered by this Annual Report on Form 10-K that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
ITEM 9B.
ITEM 9B. OTHER INFORMATION
There is no other information that was required to be disclosed in a report on Form 8-K during the fourth quarter of 2004 that we did not report.
PART III
Because we will file a Proxy Statement within 120 days after the end of the fiscal year ending December 31, 2004, this Annual Report on Form 10-K omits certain information required by Part III and incorporates by reference certain information included in the Proxy Statement.
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Information about our executive officers and directors and all other matters required to be disclosed in Item 10 appears under "Election of Directors" in the Proxy Statement. That portion of the Proxy Statement is hereby incorporated by reference.
SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Information about compliance with Section 16(a) of the Securities Exchange Act of 1934 appears under "Section 16(a) Beneficial Ownership Reporting Compliance" in the "Election of Directors" section of the Proxy Statement and is hereby incorporated by reference.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION.
Information about compensation of our named executive officers appears under "Executive Compensation" in the "Election of Directors" section of the Proxy Statement and is hereby incorporated by reference. Information about compensation of our directors appears under "Director Compensation" in the "Election of Directors" section of the Proxy Statement and is hereby incorporated by reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
Information about security ownership of certain beneficial owners and management appears under "Security Ownership of Directors and Executive Officers" in the "Election of Directors" section of the Proxy Statement and is hereby incorporated by reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Information about certain relationships and related transactions appears under "Certain Relationships and Related Transactions in the "Election of Directors" section of the Proxy Statement and is hereby incorporated by reference.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTANT'S FEES AND SERVICES
Information about the fees and services of our principal accountants appears under "Audit Committee Report" and "Fees of Independent Auditors" in the "Ratification of Appointment of Independent Public Accountants" section of the Proxy Statement and is hereby incorporated by reference.
ITEM 15.
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) The following documents are filed as a part of this report:
1. Consolidated Financial Statements:
2. Financial Statement Schedules:
3. Exhibits:
Exhibit Number Exhibit Description - -------------- ---------------------------------------------------------------
2.1* Agreement between iVideoNow, Inc. and 99 Cent Stuff, LLC dated as of July 1, 2003 3.1(1) Articles of Incorporation 3.2(2) Amendment to Articles of Incorporation 3.3(3) Bylaws 3.4(6) Articles of Incorporation (Florida) 4.2(6) Warrant Agreement 4.3(4) Underwriter's Unit Purchase Option 10.1(4) 2003 Equity Incentive Plan 10.2(4) Lease for Beacon Warehouse 16.1(5) Letter re Change in Certifying Accountants 31.1 Certification by the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 31.2 Certification by the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 32.1 Certification of CEO and CFO pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 - --------------
(1) Incorporated by reference from Exhibit 3 (i) to Registrant's Form 10-SB12G filed June 14, 1999 (2) Incorporated by reference to Registrant's Form 10-QSB filed on November 21, (3) Incorporated by reference from Exhibit 3 (iii) to Registrant's Form 10-SB12G filed June 14, 1999 (4) Incorporated by reference from the Registration Statement on Form S-1 (File No. 333-92048) filed by 99 Cent Stuff, Inc. on September 6, 2002. (5) Incorporated by reference to Registrant's Form 8-K dated September 4, 2003. (6) Incorporated by reference from the Registration Statement on Form S-1 (File No. 333-108517) filed by 99 Cent Stuff, Inc. on September 4, 2003
(b) Reports on Form 8-K
None
Note: Copies of each Exhibit to this Form 10-K are available upon request.
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.
99 CENT STUFF, INC.
By: /s/ Raymond Zimmerman --------------------------- Raymond Zimmerman, Chairman
Date: March 30, 2005
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant in the capacities and on the dates indicated:
SIGNATURE TITLE DATE - --------------------- ------------------------- --------------
/s/ Raymond Zimmerman Chairman of the Board and March 30, 2005 - --------------------- Chief Executive Officer Raymond Zimmerman
/s/ Barry Bilmes Chief Financial Officer and March 30, 2005 - ---------------- Principal Accounting Officer Barry Bilmes
/s/ Kevin Keating Director March 30, 2005 - ----------------- Kevin Keating
/s/ Leonard Florence Director March 30, 2005 - -------------------- Leonard Florence
/s/ Nathan Light Director March 30, 2005 - ---------------- Nathan Light
99 CENT STUFF, LLC
CONSOLIDATED FINANCIAL STATEMENTS
INDEX
Report of Independent Registered Public Accounting Firm.....................F-2
Consolidated Financial Statements:
Consolidated Balance Sheets at December 31, 2004 and 2003 ...............F-3
Consolidated Statements of Operations for the years ended December 31, 2004, 2003 and 2002 ........................F-4
Consolidated Statements of Changes in Shareholders' Equity (Deficit) for the Years Ended December 31, 2004, 2003 and 2002.....................F-5
Consolidated Statements of Cash Flows for the years ended December 31, 2004, 2003 and 2002 ........................................F-6
Notes to Consolidated Financial Statements..................................F-7
[LETTERHEAD OF Daszkal Bolton LLP]
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM -------------------------------------------------------
To the Board of Directors and Shareholders 99 Cent Stuff, Inc. and Subsidiary
We have audited the accompanying balance sheets of 99 Cent Stuff, Inc. and subsidiary as of December 31, 2004 and 2003, and the related consolidated statements of operations, changes in shareholders' equity (deficit) and cash flows for the years ended December 31, 2004, 2003 and 2002. 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 the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. The Company has determined that it is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements, 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 99 Cent Stuff, Inc. at December 31, 2004 and 2003, and the results of their operations and their cash flows for the years ended December 31, 2004, 2003 and 2002 in conformity with accounting principles generally accepted in the United States of America.
/s/ Daszkal Bolton LLP - ----------------------
Boca Raton, Florida February 16, 2005, except for Note 8, which is dated March 29, 2005
99 CENT STUFF, INC. AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS DECEMBER 31, 2004 AND 2003 (AMOUNTS IN THOUSANDS) ================================================================================
ASSETS
2004 2003 -------- -------- Current assets: Cash $ -- $ 26 Inventory 3,771 2,531 Prepaid expenses and other assets 467 427 -------- -------- Total current assets 4,238 2,984 -------- --------
Property and equipment, net 3,396 2,607 -------- --------
Other assets: Security deposits 171 141 -------- --------
Total assets $ 7,805 $ 5,732 ======== ========
LIABILITIES AND SHAREHOLDERS' DEFICIT
Current liabilities: Lines of credit $ 5,798 $ -- Cash overdraft 115 -- Accounts payable 3,698 2,494 Accrued expenses 468 737 -------- -------- Total current liabilities 10,079 3,231 -------- --------
Long term liabilities: Accounts payable and accrued expenses, related party 6,059 4,922 Lines of credit -- 5,648 -------- -------- Total long term liabilities 6,059 10,570 -------- --------
Total liabilities 16,138 13,801 -------- --------
Commitments and Contingencies
Shareholders' deficit: Preferred stock, $.01 par value, 5,000,000 shares authorized, -0- issued and outstanding -- -- Common stock, $.001 par value, 50,000,000 shares authorized 5,833,950 and 5,066,000 issued and outstanding 6 5 Additional paid-in capital (3,947) (7,240) Accumulated deficit (4,392) (834) -------- -------- Total shareholders' deficit (8,333) (8,069) -------- -------- Total liabilities and shareholders' deficit $ 7,805 $ 5,732 ======== ========
See the accompanying notes to the consolidated financial statements.
99 CENT STUFF, INC. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 2004, 2003 AND 2002 (AMOUNTS IN THOUSANDS) ===============================================================================
See the accompanying notes to the consolidated financial statements.
99 CENT STUFF, INC. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT) FOR THE YEARS ENDED DECEMBER 31, 2004, 2003 AND 2002 (AMOUNTS IN THOUSANDS) ===============================================================================
See the accompanying notes to the consolidated financial statements.
99 CENT STUFF, INC. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 2004, 2003 AND 2002 (AMOUNTS IN THOUSANDS) ===============================================================================
See the accompanying notes to the consolidated financial statements.
99 CENT STUFF, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS) ================================================================================
NOTE 1 - DESCRIPTION OF BUSINESS - --------------------------------
99 Cent Stuff, Inc. (the "Company") was originally organized under the laws of the State of Delaware on June 28, 1999 as a limited liability company. In September 2003, the Company merged with a public shell, iVideoNow, Inc., and became a C Corporation. The Company is a specialty, single-priced retailer that primarily targets individuals and small businesses with one-stop shopping for food, produce, consumable hard lines, health and beauty aids, novelty and impulse items. The Company was operating retail outlets in fifteen locations at December 31, 2004 and eleven locations at December 31, 2003 and 2002. The locations are separately incorporated as limited liability companies and are wholly owned by the Company. All of the stores are in southeast Florida.
The Company's ability to provide quality merchandise at the 99 cents price point is subject to certain economic factors, which are beyond the Company's control, including inflation. Inflation could have a material adverse effect on the Company's business and results of operations, especially given the constraints on the Company to pass on any incremental costs due to price increases or other factors. A sustained trend of significant inflationary pressure could require the Company to abandon its single price point of 99 cents per item, which could have a material adverse effect on the Company's business and results of operations.
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - ---------------------------------------------------
Cash and Cash Equivalents - -------------------------
The Company considers all investments with original maturities of three months or less and credit and debit card receivables to be cash equivalents. At December 31, 2004 and 2003, the total credit and debit card receivables were $59 and $53, respectively.
Fair Value of Financial Instruments - -----------------------------------
The Company's financial instruments consist mainly of cash, short-term payables, borrowings under a line of credit and notes payable. The Company believes that the carrying amounts approximate fair value, due to their short-term maturities and current interest rates.
Inventory - ---------
Inventory is stated at the lower of average cost or market, with cost determined on a first-in, first-out (FIFO) basis, and consists primarily of merchandise held for resale. The Company provides an allowance for certain merchandise that may become obsolete, damaged, or slow moving. At December 31, 2004 and 2004, the allowances for these items were $5 and $50, respectively.
Property and Equipment - ----------------------
Property and equipment are stated at cost. Depreciation on property and equipment is computed using the straight-line method. The following estimated lives have been used for financial statement purposes:
Category Lives --------------------------------- --------- Computer equipment 5 years Furniture, fixtures and equipment 5-7 years Leasehold improvements 7 years
99 CENT STUFF, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS) ================================================================================
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED - --------------------------------------------------------------
Income Taxes - ------------
Prior to the merger with iVideoNow, Inc. on September 3, 2003 the Company was a limited liability company. As an LLC, the Company was treated as a partnership for Federal and State income tax purposes. Members were taxed separately on their distributive share of the Partnership's income whether or not that income was actually distributed. Upon the completion of the merger, the Company became a C Corporation.
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.
Principles of Consolidation - ---------------------------
The accompanying consolidated financial statements include the accounts of the Company and its wholly owned subsidiary limited liability companies, after eliminations of all material intercompany transactions.
Advertising Costs - -----------------
Advertising and sales promotion costs are expensed as incurred. Advertising expense totaled $27, $6 and $13 for the years ended December 31, 2004, 2003 and 2002, respectively.
Revenue Recognition - -------------------
Revenue is recognized at the point of sale.
Pre-Opening Costs - -----------------
The Company expenses, as incurred, all pre-opening costs related to the opening of new retail stores.
Operating Segments - ------------------
The Company has one business segment, retail operations. The majority of the product offerings include recognized brand-name consumable merchandise, regularly available for reorder. The Company had no customers representing more than 10 percent of net sales. Substantially all of the Company's net sales were to customers located in the United States.
Shipping And Handling Costs - ---------------------------
The Company follows the provisions of Emerging Issues Task Force Issue No. 00 - -10, "Accounting for Shipping and Handling Fees and Costs." Any amounts billed to third-party customers for shipping and handling is included as a component of revenue. Shipping and handling costs incurred are included as a component of cost of sales.
Impairment of Long-Lived Assets - -------------------------------
The Company reviews its long-lived assets for impairment whenever events or changes indicate that the carrying amount of an asset or group of assets may not be recoverable. No impairment losses were recorded during the periods ended December 31, 2004, 2003 and 2002.
99 CENT STUFF, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS) ================================================================================
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED - --------------------------------------------------------------
Stock Options - -------------
The Company applies the intrinsic value-based method of accounting prescribed by Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees," and related interpretations including FASB Interpretation No. 44, "Accounting for Certain Transactions involving Stock Compensation - an interpretation of APB Opinion No. 25" issued in March 2000, to account for its fixed plan stock options. Under this method, compensation expense is recorded on the date of grant only if the current market price of the underlying stock exceeded the Stock-Based compensation. As allowed by SFAS No. 123, the Company has elected to continue to apply the intrinsic value-based method of accounting described above, and has adopted the disclosure requirements of SFAS No. 123.
SFAS No. 123 "Accounting for Stock Based Compensation" ("SFAS 123"), requires the Company to disclose pro forma information regarding option grants made to its employees. SFAS 123 specifies certain valuation techniques that produce estimated compensation charges that are included in the pro forma results below. These amounts have not been reflected in the Company's Statement of Operations, because Accounting Principles Board Opinion 25, "Accounting for Stock Issued to Employees," specifies that no compensation charge arises when the price of the employees' stock options equal the market value of the underlying stock at the grant date, as in the case of options granted to the Company's employees SFAS No. 123 pro forma numbers are as follows for the fiscal year periods ended December 31, 2004:
----------
Net loss As reported $ (3,558) ========= Pro forma $ (3,625) ========= Earnings per share As reported $ (0.62) ========= Pro forma $ (0.63) =========
New Accounting Pronouncements - -----------------------------
In January 2003, the Financial Accounting Standards Board ("FASB") issued Interpretation ("FIN") No. 46, "Consolidation of Variable Interest Entities (VIE)," (revised December 2003 by FIN No. 46R), which addresses how a business enterprise should evaluate whether it has a controlling financial interest in an entity through means other than voting rights and accordingly should consolidate the entity. For variable interests in VIEs created before January 1, 2004, the Interpretation will be applied beginning on January 1, 2005. For any VIEs that must be consolidated under FIN No. 46R that were created before January 1, 2004, the assets, liabilities and non-controlling interests of the VIE initially would be measured at their carrying amounts with any difference between the net amount added to the balance sheet and any previously recognized interest being recognized as the cumulative effect of an accounting change. If determining the carrying amounts is not practicable, fair value at the date FIN No. 46R first applies may be used to measure the assets, liabilities and non-controlling interest of the VIE. The adoption of FIN No. 46R did not have a material impact on the Company's financial position, results of operations or cash flows as the Company does not have any VIEs.
In March 2004, the Emerging Issues Task Force ("EITF") reached a consensus on Issue No. 03-01, "The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments." EITF 03-01 provides guidance on other-than-temporary impairment models for marketable debt and equity securities accounted for under SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities," and SFAS No. 124, "Accounting for Certain Investments Held by Not-for-Profit Organizations," and non-marketable equity securities accounted for under the cost method. The EITF developed a basic three-step model to evaluate whether an investment is other-than-temporarily impaired.
99 CENT STUFF, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS) ================================================================================
In September 2004, the FASB issued FASB Staff Position EITF 03-01-1, which delays the effective date until additional guidance is issued for the application of the recognition and measurement provisions of EITF 03-01 to investments in securities that are impaired; however, the disclosure requirements are effective for annual periods ending after June 15, 2004. The adoption of the disclosure provisions of EITF 03-01 did not have a material effect on the Company's results of operations or financial condition.
In November 2004, the FASB issued SFAS 151, Inventory Costs--an amendment of ARB No. 43, Chapter 4 . The Statement amends the guidance of ARB No. 43, Chapter 4, Inventory Pricing , by clarifying that abnormal amounts of idle facility expense, freight, handling costs, and wasted materials (spoilage) should be recognized as current-period charges and by requiring the allocation of fixed production overheads to inventory based on the normal capacity of the production facilities. It does not appear that this Statement will have a material effect on the financial position, operations or cash flows of the Company when it becomes effective in 2006.
In December 2004, the FASB issued SFAS No. 123R "Share-Based Payment" ("SFAS 123R"), a revision to SFAS No. 123 "Accounting for Stock-Based Compensation" ("SFAS 123"), and superseding APB Opinion No. 25 "Accounting for Stock Issued to Employees" and its related implementation guidance. SFAS 123R establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services, including obtaining employee services in share-based payment transactions. SFAS 123R applies to all awards granted after the required effective date and to awards modified, repurchased, or cancelled after that date. Adoption of the provisions of SFAS 123R is effective as of the beginning of the first interim or annual reporting period that begins after June 15, 2005. The Company is currently in the process of evaluating the potential impact that the adoption of SFAS 123R will have on its consolidated financial position and results of operations.
In December 2004, the FASB issued SFAS No. 153 "Exchanges of Non-monetary Assets--an amendment of APB Opinion No. 29". This Statement amended APB Opinion No. 29 to eliminate the exception for non-monetary exchanges of similar productive assets and replaces it with a general exception for exchanges of non-monetary assets that do not have commercial substance. A non-monetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. The Company is currently evaluating the impact of this new standard, but believes that it will not have a material impact upon the Company's financial position, results of operations or cash flows.
NOTE 3 - PROPERTY AND EQUIPMENT - -------------------------------
Property and equipment consist of the following at December 31, 2004 and 2003:
2004 2003 ------- -------
Computer equipment $ 759 $ 516 Furniture, fixtures and equipment 4,523 3,621 Leasehold improvements 2,028 1,410 ------- ------- Total property and equipment 7,310 5,547 Less: accumulated depreciation and amortization (3,914) (2,940) ------- ------- Net property and equipment $ 3,396 $ 2,607 ======= =======
Depreciation expense for the years ended December 31, 2004, 2003 and 2002 was $974, $850 and $899, respectively.
99 CENT STUFF, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS) ================================================================================
NOTE 4 - RELATED PARTY TRANSACTIONS - -----------------------------------
At December 31, 2004 and 2003, the Company was indebted to a shareholder in the amount of $6,059 and $4,922 respectively, for funds advanced to the Company. On December 1, 2003, this indebtedness was converted into a note payable, due December 1, 2006 and bears interest at the prime rate (5.25% at December 31, 2004). As of December 31, 2004, 2003 and 2002, interest expense of $229, $1,053 and $1,134 was accrued and included in this indebtedness to the shareholder. Included in the amount owing to a shareholder is $5,005, which is convertible into Common Stock at the $5.20 per share offering price as stated in the S-1 registration statement filed with the SEC on December 1, 2003.
A shareholder of the Company is the guarantor on several of the lease agreements for warehouse and retail facilities (Note 5), and also for the lines of credit and letters of credit (Note 6). As of December 31, 2004, 2003 and 2002, interest expense of $153, $134 and $115 was accrued for the shareholder's personal guaranty of these obligations and is included in accounts payable and accrued expenses, related party on the accompanying consolidated balance sheets.
As of December 31, 2001, the Company had advanced $160 to John Isaac, Jr., former chief operating officer, which was included in other assets on the consolidated balance sheet. This advance bore interest at 8% per annum with interest accrued of $15 as of December 31, 2001. In connection with Mr. Isaac's departure from 99 Cent Stuff in 2002, the note was recorded as compensation and included in selling, general and administrative expenses on the accompanying consolidated statement of operations for the year ended December 31, 2002. As part of his termination, 99 Cent Stuff agreed to forgive the note in exchange for a release from Mr. Isaac.
NOTE 5 - LEASE COMMITMENTS - --------------------------
The Company leases its retail and warehouse facilities under long-term operating lease agreements. Rent expense for all operating leases was $2,753, $2,392 and $2,371 for the years ended December 31, 2004, 2003 and 2002, respectively.
At December 31, 2004, future minimum lease payments for these leases are as follows:
Year Ending December 31, ---------------------------- 2005 $ 2,833 2006 2,654 2007 2,630 2008 2,109 2009 1,775 Thereafter 4,245 -------- Total minimum lease payments $ 16,246 ========
NOTE 6 - CREDIT FACILITIES - --------------------------
At December 31, 2004 and 2003, the Company has a $3,500, $2,000 and a $500 revolving line of credit with a financial institution that requires quarterly interest payments at the bank's prime rate minus one percent (4.25% and 3.00% at December 31, 2004 and 2003, respectively). The lines are secured by a personal guaranty of a shareholder of the Company and are due June 30, 2005. The shareholder is compensated 2% per annum of the total amount available under the line of credit for the personal guaranty. At December 31, 2004 and 2003, the Company owed $5,798 and $5,648, respectively on its revolving lines of credit.
At December 31, 2004 and 2003, the Company had outstanding irrevocable letters of credit approximating $230 and $102, respectively. These letters of credit, which have terms of three months to one year, collateralize the Company's
99 CENT STUFF, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS) ================================================================================
obligation to third parties for the purchase of goods or services. The fair value of these letters of credit approximates contract values based on the nature of the fee arrangements with the issuing banks, usually 1 to 1.5% of the credit issued.
NOTE 7 - LEGAL MATTERS - ----------------------
The Company is involved in various claims and lawsuits arising in the normal course of business. Management believes that any financial responsibility that may be incurred in settlement of such claims and lawsuits are not material to the Company's financial position.
Winn-Dixie Stores v. 99 Cent Stuff -Trail Plaza LLC and Metropolitan Life Insurance Company (Circuit Court of the 11th Judicial Circuit in and for Dade County, Florida). In June 2000, Winn-Dixie Stores filed for an injunction seeking to limit the sale of grocery items to 500 square feet in the Trail Plaza store. No damages were sought. As a result of an injunction and other motions granted in 2002, the Company must limit the sales of grocery items to 500 linear feet. This restriction has negatively impacted the sales and profitability of this store. In 2003, the Company was found in contempt of the injunction and Winn Dixie sought damages and payment of legal fees. On October 16, 2003, the Company settled the contempt charges for $175 and this amount was paid in November 2003.
NOTE 8 - FINANCIAL ANALYSIS AND LIQUIDITY - -----------------------------------------
At December 31, 2004, the Company had negative working capital of $5.8 million, primarily due to the existing bank loans being due in 2005. At that date the Company had no cash and $0.2 million in borrowing availability. Capital requirements result primarily from purchases of inventory, expenses related to new store openings and working capital requirements for new and existing stores. The Company takes advantage of closeout and other special-situation opportunities, which frequently result in volume purchases requirements, and as a consequence, cash requirements are not constant or predictable during the year and can be affected by the timing and size of the purchases.
At December 31, 2004, approximately $0.2 million was available under the Company's lines of credit. In February and March 2004, the Company paid down the lines by approximately $3.4 million from the proceeds of the public offering, but over the remainder of the year an additional $3.6 million was borrowed to fund expansion and operations. In March 2005, the bank agreed to extend the maturity of the loans from June 2005 to June 2007. In addition, Mr. Zimmerman has personally guaranteed to fund the Company up to an additional $3.0 million during 2005 for any operating income shortfalls.
If the Company fails to achieve positive cash flows from operations, it is possible that the Company may be required to raise additional financing in some future period through public or private financings, strategic relationships or other arrangements. A decrease in operating cash flow from current levels would greatly reduce the availability of funds and would force the Company to obtain additional capital. The Company may not be able to raise additional funds when needed, or on acceptable terms, or at all. Also, any additional equity financings may be dilutive to shareholders, and debt financing, if available, may involve restrictive covenants. The Company's management believes that extension on the line of credit and guarantee by Mr. Zimmerman, together with improvements in expected operating results, will be sufficient to meet operating and capital needs for at least the next 12 months.
NOTE 9 - RECLASSIFICATIONS - --------------------------
Certain amounts in the accompanying consolidated financial statements as of December 31, 2003 and 2002 have been reclassified to conform with the current year presentation, with no effect on reported net loss.
99 CENT STUFF, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS) ================================================================================
NOTE 10 - MERGER AGREEMENTS AND SHAREHOLDERS' EQUITY RECAPITALIZATION - ---------------------------------------------------------------------
On July 1, 2003 a majority of the shareholders of iVideoNow, Inc. approved an Agreement and Plan of Reorganization (the "Reorganization Agreement") between iVideoNow, Inc. and 99 Cent Stuff, LLC, whereby iVideoNow, Inc. issued 4,750,000 shares of its common stock and warrants to purchase 5 million shares of common stock at an exercise price of $.001 per share (reflective of the 1 to 30 and the 1 to 4 reverse stock split on September 15, 2003) exercisable only in the event Keating Investments LLC does not arrange for at least $3 million of equity financing on terms reasonable acceptable to 99 Cent Stuff, LLC ("LLC") by December 31, 2003, in exchange for all the outstanding membership interests of the LLC (the "Merger Agreement"). The offering was completed in March 2004 resulting in net proceeds of $3,400 and the Company waived its rights to the warrants. For accounting purposes, the share exchange was treated as a recapitalization of the companies. The value of the net assets of the Companies after the share exchange was completed is the same as their historic book value.
Prior to the merger with iVideoNow, Inc. the Company was a limited liability company. Upon the completion of the merger, the Company became a C Corporation. Under SEC Staff Accounting Bulletin Topic 4 (B), the undistributed earnings (losses) of the limited liability company were treated as a constructive distribution to the owners of the LLC followed by a contribution of the capital to the new C-Corporation. On the effective date of the merger, September 3, 2003, the Company reclassified the accumulated deficit to date of $22,156 to additional paid-in capital, net of the $14,591 of funds advanced from a shareholder of the Company in prior years. As part of the reorganization of the Company this note was converted into equity.
NOTE 11 - EARNINGS PER SHARE - ----------------------------
Basic net earnings (loss) per common share are computed by dividing net earnings (loss) applicable to common shareholders by the weighted-average number of common shares outstanding during the period. Diluted net earnings (loss) per common share is determined using the weighted-average number of common shares outstanding during the period, adjusted for the dilutive effect of common stock equivalents consisting of 98,000 options. In periods when losses are reported, the weighted-average number of common shares outstanding excludes common stock equivalents, because their inclusion would be anti-dilutive.
NOTE 12 - STOCK OPTION PLAN - ---------------------------
In November 2003, the Company established a nonqualified and incentive stock option plan. The plan provides for the issuance of a maximum of 250 shares of common stock to officers, directors and consultants and other key employees. Under the terms of the plan, the options expire after 10 years, as long as the employee remains employed with the Company. The employee option grants provide that the option will be canceled ninety days after an employee leaves employment with the Company. The following is a summary of option activity for the years ended December 31, 2004 and 2003.
99 CENT STUFF, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS) ================================================================================
WEIGHTED-AVERAGE NUMBER OF EXERCISE PRICE SHARES (NOT IN THOUSANDS) --------- ------------------ Outstanding at January 1, 2003 -- -- Granted 92 $ 5.00 Exercised -- -- Forfeited -- -- Outstanding at December 31, 2003 92 $ 5.00 Granted 26 $ 5.00 to 5.85 Exercised -- -- Forfeited (20) -- ----- -------------- Outstanding at December 31, 2004 98 $ 5.00 to 5.85 ===== ============== Exercisable at December 31, 2004 -- ===== Available for issuance at December 31, 2004 152 =====
Under SFAS 123, the fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model. The following weighted average assumptions were used:
Risk free interest rate 5.0% Expected dividends 0.0% Volatility factor 0.302 Weighted average expected Life of Options 10
The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options that 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 necessarily provide a reliable single measure of the fair value of the Company's options.
NOTE 13 - PROVISION FOR INCOME TAXES - ------------------------------------
The Company's evaluation of the tax benefit of its net operating loss carryforward is presented in the following table for the year ended December 31, 2004 and the period from September 3, 2003 (date of conversion from an LLC to a C-corporation) to December 31, 2003. The members of the 99 Cent Stuff, LLC reported the losses of $980 for the period January 1, 2003 to September 2, 2003 (prior to the conversion to a C-corporation). At December 31, the tax amounts have been calculated using the 34% federal and 5.5% state income tax rates.
2004 2003 --------- -------- Income tax (benefit) consists of: Current $ -- $ -- Deferred -- -- --------- -------- Provision (benefit) for income taxes $ -- $ -- ========= ========
Reconciliation of the federal statutory income tax rate to the Company's effective tax rate is as follows:
99 CENT STUFF, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS) ================================================================================
2004 2003 ------- ------- Taxes computed at combined federal and state tax rate $(1,210) $(1,263) Non-deductible expenses 1 980 State income taxes, net of federal income tax benefit (129) (30) Increase (decrease) in deferred tax asset valuation allowance 1,338 313 ------- ------- Provision (benefit) for income taxes $ -- $ -- ======= =======
The components of the deferred tax asset were as follows at December 31:
2004 2003 ------- ------- Deferred tax assets: Net operating loss carryforward $ 1,234 $ 209 Depreciation (38) 33 Accrued expenses 140 52 Inventory reserve 2 19 ------- ------- Total deferred tax assets 1,338 313 ------- -------
Valuation allowance: Beginning of year (313) -- Decrease (increase) during the year (1,025) (313) ------- ------- Ending balance (1,338) (313) ------- ------- Net deferred taxes $ -- $ -- ======= =======
As of December 31, 2004, the Company had an unused net operating loss carryforward of approximately $3,834 available for use on its future corporate income tax returns. This net operating loss carryforward expires beginning in December 2023. Pursuant to Sections 382 and 383 of the Internal Revenue Code, annual use of any of the Company's net operation loss and credit carry forwards may be limited if cumulative changes in ownership of more than 50% occur during any three year period.
NOTE 14 - CONCENTRATIONS - ------------------------
In 2004, 2003 and 2002, one supplier provided approximately 25% of total purchases.