Back to GetFilings.com
================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-------------------
FORM 10-K
-------------------
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended May 30, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Commission file number 0-17098
KINDERCARE LEARNING CENTERS, INC.
(Exact name of registrant as specified in its charter)
Delaware 63-0941966
(State or other (I.R.S. Employer
jurisdiction of incorporation) Identification No.)
2400 Presidents Drive
Montgomery, Alabama 36116
(Address of principal executive offices)
(334) 277-5090
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.01 Par Value
(Title of class)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing required for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's known information statements incorporated by reference in
Part III of this Form 10-K or any amendment to this Form 10-K. [ ]
The aggregate market value of the voting stock held by non-affiliates of
the Registrant (assuming for purposes of this calculation, without conceding,
that all executive officers and directors are "affiliates") at July 29, 1997 was
$182,684,000.
The number of shares of Registrant's Common Stock, $.01 par value per
share, outstanding at July 29, 1997 was 9,368,421.
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmation by the court. Yes [X] No [ ]
Part III incorporates information by reference from the definitive Proxy
Statement in connection with the Registrant's Annual Meeting of Shareholders to
be held on November 11, 1997.
================================================================================
PART 1
ITEM 1. BUSINESS
General
KinderCare Learning Centers, Inc. ("KinderCare" or the "Company"), founded
in 1969, is the largest provider of for-profit preschool educational and child
care services in the United States based upon number of centers operated,
children served and operating revenues. The Company provides center-based
preschool educational and child care services five days a week throughout the
year to children between the ages of six weeks and twelve years. At July 25,
1997, the Company operated a total of 1,144 child care centers, of which 728 are
owned, 413 are leased and three are operated under management contracts. The
centers are located in 38 states in the United States and two centers are
located in the United Kingdom. At July 25, 1997, enrollment in all centers was
approximately 105,000 full-time and part-time children. The Company's total
licensed center capacity, at July 25, 1997, was approximately 143,000 full-time
children.
KinderCare seeks to differentiate its educational and other child care
services through its Whole Child Development concept with professionally
planned, age-specific educational programs provided in a caring, nurturing and
safe environment. This concept includes programs that provide children with
activities that support physical, intellectual, emotional and social
development. New programs are developed and existing programs are frequently
enhanced by the Company's education department, under the leadership of a
professional with a Ph.D. in early childhood education.
The Company operates three types of child care centers - KinderCare
community centers, KinderCare At Work(R) centers and Kid's Choice(TM) centers.
KinderCare community centers, which comprise approximately 93% of the Company's
centers, and KinderCare At Work(R) centers typically provide educational and
child care services to children between the ages of six weeks and 12 years.
Kid's Choice(TM) centers are for school age children and are provided in
separate facilities designed specifically for this age group. The Company has
limited the development of its Kids Choice(TM) centers to contracts in progress.
See "Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations." The Company's centers are open throughout the year,
generally Monday through Friday from 6:30 a.m. to 6:00 p.m., although hours vary
by location. Children are usually enrolled on a weekly basis for either full-day
or half-day sessions and are accepted, where capacity permits, on an hourly
basis. The Company's tuition rates vary for children of different ages and by
location.
On October 3, 1996, the Company and KCLC Acquisition Corp. ("KCLC")
entered into an Agreement and Plan of Merger (the "Merger Agreement"). KCLC was
a wholly owned subsidiary of KLC Associates, L.P. (the "Partnership"), a
partnership formed at the direction of Kohlberg Kravis Roberts & Co., a private
investment firm ("KKR"). Pursuant to the Merger Agreement, on February 13, 1997,
KCLC was merged with and into the Company (the "Merger"), with the Company
continuing as the surviving corporation. Upon completion of the Merger, the
Partnership owned 7,828,947 shares, or approximately 83.6%, of the Company's
common stock outstanding after the Merger.
2
The principal executive offices of the Company are presently located at
2400 Presidents Drive, Montgomery, Alabama 36116, and its telephone number is
(334) 277-5090. The Company is in the process of relocating its principal
executive offices to Portland, Oregon and expects to complete the relocation in
November 1997. The Company's Portland telephone number is (503) 872-1300. The
interim address is 825 N.E. Multnomah, Suite 1050, Portland, Oregon 97232. The
permanent address will be 600 N.E. Holladay, Suite 1400, Portland, Oregon 97232.
When used in this report, press releases and elsewhere by management or the
Company from time to time, the words "believes," "anticipates," "expects" and
similar expressions are intended to identify forward-looking statements
concerning the Company's operations, economic performance and financial
condition, including, in particular, the likelihood of the Company's success in
developing and expanding its business. These statements are based on a number of
assumptions and estimates which are inherently subject to significant
uncertainties and contingencies, many of which are beyond the control of the
Company, and reflect future business decisions which are subject to change. A
variety of factors could cause actual results to differ materially from those
anticipated in the Company's forward-looking statements, some of which include
federal and state legislation regarding welfare reform or impending minimum wage
increases, unforeseen changes in occupancy levels and other risk factors that
are discussed from time to time in the Company's Securities and Exchange
Commission ("SEC") reports and other filings. Readers are cautioned not to place
undue reliance on these forward-looking statements, which speak only as of the
date thereof. The Company undertakes no obligation to publicly release the
results of any revisions to these forward-looking statements that may be made to
reflect events or circumstances after the date hereof, or thereof, as the case
may be, or to reflect the occurrence of unanticipated events.
Business Strategy
The Company's objective is to build on its position as the nation's leading
preschool educational and child care services provider by offering high quality
services in a caring, nurturing and safe environment. To meet this objective,
management's business strategy includes the following:
Accelerate New Center Development and Pursue Selective Acquisitions. The
Company plans to expand by accelerating the development of new child care
centers in attractive markets and selectively acquiring child care businesses.
The Company seeks to identify attractive sites for its centers in large
metropolitan and smaller, growth markets that meet the Company's operating and
financial goals and where the Company believes the market for child care
services will support higher tuition rates than the Company's existing rates.
In addition to accelerating new center development, the Company may
seek to acquire existing child care centers where demographics, operating
standards and customer services complement the KinderCare business strategy.
Management believes that the Company's competitive position, economies of scale
and financial strength will allow it to capitalize on selective acquisition
opportunities in the fragmented child care industry.
3
Increase Occupancy. The Company plans to increase center occupancy by: (i)
enhancing marketing programs targeted to local markets prior to major enrollment
periods, (ii) enhancing recruiting, retention and training of staff, and (iii)
improving customer retention and loyalty. The Company's marketing activities are
currently designed to increase new enrollments primarily through local marketing
efforts, including direct mail solicitation, telephone directory yellow pages
and customer referrals. See "---Marketing, Advertising and Promotions." These
methods communicate to parents the Company's commitment to quality preschool
education and child care by emphasizing KinderCare's nurturing environment,
educational programs, quality staff and excellent facilities and equipment.
Moreover, in late fiscal year 1997, the Company began implementation of an
automated consumer inquiry tracking system to provide efficient responses to
inquiries from potential customers and began development of a comprehensive and
useable consumer database.
Because a high quality teaching and administrative staff is a key factor in
maintaining and increasing center occupancy, the Company emphasizes recruiting
and retaining qualified center personnel. KinderCare's recruiting process seeks
to identify high quality candidates for its teaching, center director and area
manager positions. Additionally, the Company rewards center directors and area
managers through an annual bonus program which is based on center operating
profit performance.
The Company also strives to increase occupancy by improving its customers'
retention and loyalty by strengthening its current parents' emotional commitment
to KinderCare. During fiscal year 1997, the Company initiated parent orientation
meetings at centers during the fall enrollment season, introduced organized
parent involvement programs and parent advisory forums and began conducting
ongoing market research on customer satisfaction. The Company believes that
retention and loyalty will be enhanced by a renewed focus on quality and
consistency in its centers.
Enhance Educational Programs and Quality of Services. The Company
continually evaluates and strives to improve the quality of its preschool
educational and child care services. KinderCare has invested significant
resources in formulating a proprietary educational program, maintaining safe and
up-to-date facilities and hiring, training and retaining high quality employees.
The Company plans to continue to test and implement innovative services and
offerings, such as its new continuous curriculum for infants and toddlers called
Welcome To Learning(TM) and its new program for school-aged children called KC
Imagination Highway(R), which encourages children to engage in meaningful,
purposeful, long-lasting projects that require an active imagination. The
Company also plans to continue encouraging its centers to become accredited by
the National Association for the Education of Young Children, a national
organization that has established comprehensive criteria for providing quality
child care and has implemented a formal, though voluntary, child care center
accreditation process.
Improve Operational Effectiveness. In May 1997, the Company began to
implement several organizational changes, including the addition of 22 area
managers to reduce the span of control of field management and, thereby, provide
more support and supervision to centers. The Company also created regional human
resource manager and controller positions to provide more effective support for
field operations.
4
The Company plans to continue to improve its operating performance
primarily by reducing center labor costs through improved staff scheduling. The
Company also plans to continue to leverage its economies of scale and purchasing
power.
Investment in Facilities. The Company plans to invest in a renovation
program designed to bring all centers to a standard for physical plant and
equipment over the next three to four years. The Company also plans to improve
the delivery of required maintenance services to its centers.
Capitalize on KinderCare's Strong Brand Identity. KinderCare's strong brand
identity plays a significant role in the Company's continued growth of its
preschool education and child care business, as management believes that, among
other benefits, this factor contributes to higher enrollment for new child care
centers. Furthermore, management believes there are opportunities to leverage
the Company's brand identity. Possibilities include licensing of the KinderCare
name for educational materials, clothes, toys and other consumer products, as
well as potential brand extensions into other forms of educational or child care
services, such as the operation of primary and private schools.
Educational Programs
The Company's educational programs are designed to provide opportunities
for the development of the whole child, as embraced in the Company's slogan, The
Whole Child Is The Whole Idea(R). The child-centered environment consists of
classrooms that have been designed and furnished to meet the creative and
developmental needs of young children. Classrooms encourage children to explore
and learn at their own pace. The schedule of activities provides for quiet,
active, group and individual participation with opportunities for outdoor play
or specially designed Playscapes. The Company's age-specific programs offer a
wide variety of curriculum activities based upon monthly topics and weekly
themes such as transportation, seasons, colors, numbers, pets, safety, shapes
and sizes.
Each KinderCare center is designed to function as a neighborhood operation
where the center director has the necessary autonomy to tailor the programs to
the needs of the local community. The Company emphasizes selection of staff who
are responsive to children and each teacher is given the opportunity, training
and resources to plan active and creative programs. Opportunity for professional
growth is available through company-wide training programs, the Certification of
Excellence Program (a professional development program established by the
Company) and tuition reimbursement for employment-related college course work or
course work in connection with obtaining a Child Development Associate
certificate. The Company also maintains an Education and Training Department in
its corporate headquarters. This department is led by a professional with a Ph.D
in early childhood education and is staffed by curriculum specialists.
KinderCare's new program for infants and toddlers, Welcome To Learning(TM),
is a continuous curriculum designed for children six weeks to thirty-six months
and encourages children to learn with age and stage appropriate learning
environments and activities. The new program replaces KinderCare's infant care
program, Look At Me(R) and Let Me Do It(R). Welcome To Learning(TM), Level I is
designed for infants (ages six weeks through fifteen
5
months) and Level II is designed for toddlers (ages twelve months to thirty-six
months). Welcome To Learning(TM) is built upon four important components which
provide the foundation or cornerstones of the new program: environment,
interactions, parent involvement and developmental activities. Welcome To
Learning(TM) involves parents in many ways including the daily My Day form,
weekly and monthly parent activities and Welcome To Learning(TM) for Parents--a
combination resource book, baby book and diary designed just for them.
The Company has two preschool programs suitable for multi-age groups (ages
three to five years). My Window On The World(R) is designed to encourage
inquisitive children to discover questions and formulate answers using the world
of nature. KinderCare utilizes Your Big Backyard, the National Wildlife
Federation's magazine for preschoolers, as a resource for this program. Through
this program, children learn expression through art, dramatic play, science,
table games, books and music, as well as important language, literacy and math
skills. The Company's Once Upon A Time...(TM) program based on children's
literature, both classic and modern, is the second preschool program. The
concepts developed in the stories provide a foundation for learning math
relationships, colors and shapes, language and literacy skills, comparisons,
social awareness, fine-motor skills and creative expression.
Approximately two-thirds of the Company's centers have a Kindergarten at
KinderCare program where children learn through play, as well as activities and
experiences that are hands-on and sensory in nature. Children participate
primarily in small group instruction and carefully designed free exploration
activities that promote specific skills. Language arts, math, science, physical
education, fine arts and music, health and safety and social studies are all
curriculum components of the nationally recognized curriculum that supports
Kindergarten at KinderCare, developed by Development Learning Materials, a
division of Science Research Associates, Inc.
The Company's KC Imagination Highway(R) program is designed to meet the
needs of school-aged children. Because six to twelve-year-olds spend most of
their school day sitting at desks and tables engaged in relatively quiet,
traditional academic activities, the program is designed to include a number of
stimulating and challenging activities and projects, ranging from loud and
active to quiet, thoughtful and social. The foundation of this program is based
upon group or individual involvement in projects. The goal is for children to
use their imaginations to complete projects and present a culminating event or
finale to parents.
Tuition
The Company determines tuition charges based upon a number of factors
including age of child, full or part-time attendance, location and competition.
Tuition is generally collected on a weekly basis in advance, and tuition rates
are generally adjusted company-wide in the first week of November each year. For
the fiscal years ended May 30, 1997 and May 31, 1996, the Company's weighted
average weekly tuition rate was $103 and $101, respectively.
6
Seasonality
New enrollments are generally highest in September and January. Enrollment
generally decreases 5% to 10% during holiday periods and summer months.
Marketing, Advertising and Promotions
Management believes that its national presence and reputation for high
quality preschool educational and child care services have created valuable and
strong name recognition and parent loyalty. In an industry where personal trust
and word-of-mouth referrals play a key role in attracting new customers, the
Company believes that its reputation and strong name recognition are important
competitive advantages.
The Company intends to continue its marketing efforts through various
promotional activities and customer retention and customer referral programs.
Having implemented a lower cost marketing program in fiscal year 1997, in part
by discontinuing national television advertising, the fall enrollment period in
fiscal year 1998 will be supported by a direct mail and local merchandising
campaign, as well as national magazine advertisements and radio advertisements
in select markets. When new centers are opened, they receive the benefit of
pre-opening direct mail support as well as local public relations support and
newspaper advertisements. Every new center hosts an open house and provides for
center tours where parents have opportunities to talk with staff, visit
classrooms and play with educational toys and computers. Other aspects of the
marketing programs offered by each KinderCare center include morning coffee for
parents, periodic extended evening hours and a five o'clock snack that is
provided to the children as they are picked up by their parents. Moreover, the
Company sponsors a referral program under which parents receive free tuition for
a week for every new customer referral that leads to a new enrollment and a new
program for the 1997 fall season under which parents can give a free week to a
newly referred customer.
Center directors and staff also are trained to market to parents via
telephone, local speaking engagements and interaction with local regulatory
agencies that may then refer potential customers to the Company. A telephone
inquiry tracking system is employed and center tours and "meet the teachers"
events are held periodically. New parent orientation meetings are held in the
fall at which center directors and staff explain educational and development
programs as well as policies and procedures. In addition, the Company has
established parent programs in centers to involve parents in center activities
and events. At these events, the Company is able to build a high awareness of
the center in the local community. In addition, each center has a five to seven
member parent forum which functions as a sounding board for new ideas.
Site Selection
The Company seeks to identify attractive new sites for its centers in
large, metropolitan markets and smaller, growth markets that meet the Company's
operating and financial goals and where the Company believes the market for
child care services will support higher tuition rates than the Company's
existing rates. The Company's real estate department performs comprehensive
studies of geographic markets to determine potential
7
areas for new center development. These studies include analyses of existing
center areas, competitors, tuition pricing and demographic and marketplace data.
Population, age, household income, employment levels, growth, land prices and
development costs are all considered, as well as long-term growth opportunities
for that market. In addition, the Company reviews state and local laws,
including zoning requirements, development regulations and child care licensing
regulations to determine the timing requirements and probability of receiving
the necessary approvals to construct and operate a new child care center. The
Company may identify several new specific areas from each broader geographical
market study.
KinderCare makes location decisions for new centers based upon a detailed
site analysis that includes feasibility and demographic studies, as well as
comprehensive financial modeling. Within a prospective specific area, the
Company often analyzes several alternative sites. Each potential site is
evaluated against the Company's standards for location, convenience, visibility,
traffic patterns, size, layout, affordability and functionality, as well as
potential competition. The real estate and development staff, working closely
with operations, marketing and financial personnel, aims to open new centers
with the highest achievable occupancy and profitability levels.
Employer-Sponsored Child Care Services
The Company organized its employer-sponsored child care services, referred
to as KinderCare At Work(R), to offer businesses, universities and hospitals
alternatives for providing on-site/near-site child care. These alternatives
include developing and operating on-site/near-site centers, managing
drop-in/back-up care centers and operating employers' on-site centers through
management contracts.
At July 25, 1997, the Company operated 38 on-site/near-site
employer-sponsored child centers for corporations such as Delco Electronics
Corp., Fred Meyer, Inc., Lego Systems, Inc., The Walt Disney Company, Inc. and
several universities and hospitals. Of the 38 on-site/near-site centers, 35 are
Company-owned or leased, with three operated by the Company under management fee
contracts. The management contracts for KinderCare At Work(R) centers generally
provide for a three-to-five-year initial period with renewal options ranging
from two to five years. The Company's compensation under such agreements is
generally based on a fixed fee with annual escalations. One KinderCare At
Work(R) center was opened in fiscal year 1997.
Human Resources
Currently, the Company's center operations are organized into four regions
and 53 areas reporting to a vice president of operations. The Company is
currently adding 22 area manager positions and additional regional support
personnel to support field management's focus on quality.
Individual centers are managed by a director and an assistant director. All
center directors participate in periodic training programs or meetings and must
comply with applicable state and local licensing regulations. All center
teachers and other
8
nonmanagement staff are required to attend an initial half-day training session
prior to beginning work and to complete a six week on-the-job basic training
program. Additionally, the Company has developed and implemented extensive
training programs to certify personnel as teachers of various age groups in
accordance with the Company's internal standards and in connection with its
age-specific educational programs.
Due to high employee turnover rates in the child care industry in general,
the Company focuses on and emphasizes recruiting and retaining qualified
personnel. The turnover of personnel experienced by the Company results in part
from the fact that a significant portion of the Company's employees earn
entry-level wages and are part-time employees. Management believes, however,
that the turnover of the Company's employees is in line with other companies in
the industry. Corporate Human Resources monitors salaries and benefits for
competitiveness. The Company plans to develop an assessment program which will
aid in identification of high quality area manager and center director
candidates.
The Company strives to ensure the care and safety of the children enrolled
in its centers. Extensive precautions are taken to ensure the safety and
well-being of all children; however, a small number of incidents of alleged
child abuse have been reported. It is the Company's policy to report any
allegation of abuse to the appropriate authorities, to investigate all
allegations of abuse, and, if appropriate, to place any accused employee on
administrative leave pending resolution of the incident. Although no assurances
can be made that allegations of abuse will not occur in the future, the
Company's procedures are designed to prevent child abuse and the Company has not
historically experienced a material adverse impact from allegations of child
abuse.
Competition
The U.S. child care and preschool education industry is highly fragmented
and competitive. The Company's competition consists principally of local nursery
schools and child care centers, some of which are nonprofit (including
church-affiliated centers), providers of services that operate out of their
homes and other for-profit companies which may operate a number of centers. Many
church-affiliated and other local nonprofit nursery schools and child care
centers have no or lower rental costs than the Company and may receive donations
or other funding to cover operating expenses. Consequently, tuition rates at
these facilities are commonly less than the Company's rates. Additionally, fees
for home-based care are normally lower than fees for center-based care because
providers of home care are not always required to satisfy the same health,
safety or operational regulation as the Company's centers.
The Company's competition also consists of other large, national,
for-profit child care companies that may have more aggressive tuition
discounting and other pricing policies than the Company. The Company competes by
offering professionally planned educational and recreational programs,
contemporary, well-equipped facilities, trained teachers and supervisory
personnel and a range of services, including infant and toddler care, drop-in
service and the transportation of older children enrolled in the Company's
before and after-school program between the Company's child care centers and
schools.
9
Employees
At July 25, 1997, the Company employed approximately 22,400 persons, of
whom 270 were employed at corporate headquarters, 170 were regional or area
managers and support personnel and the remainder were employed at the centers.
Center employees include center directors; assistant directors; regular
full-time and part-time teachers; temporary and substitute teachers; teachers'
aides and non-teaching staff, including cooks and van drivers. Approximately 10%
of the 22,400 employees, including all management and supervisory personnel are
salaried, all other employees are paid on an hourly basis. The Company does not
have an agreement with any labor union and believes that its relations with its
employees are good.
Governmental Laws and Regulation
Child care centers are subject to numerous state and local regulations and
licensing requirements and the Company has policies and procedures in place in
order to comply with such regulations and requirements. Although these
regulations vary from jurisdiction to jurisdiction, government agencies
generally review the fitness and adequacy of buildings and equipment, the ratio
of staff personnel to enrolled children, staff training, record keeping, the
dietary program, the daily curriculum and compliance with health and safety
standards. In most jurisdictions, these agencies conduct scheduled and
unscheduled inspections of the centers and licenses must be renewed
periodically. Repeated failures of a center to comply with applicable
regulations can subject it to sanctions, which might include probation or, in
more serious cases, suspension or revocation of the center's license to operate.
The Company believes that its operations are in substantial compliance with all
material regulations applicable to its business.
There are certain tax incentives for child care programs. Section 21 of the
Internal Revenue Code of 1986, as amended (the "Code"), provides a federal
income tax credit ranging from 20% to 30% of certain child care expenses for
"qualifying individuals" (as defined therein). The fees paid to the Company for
child care services by eligible taxpayers qualify for the tax credit, subject to
the limitations of Section 21 of the Code. During fiscal year 1997,
approximately 13% of the Company's net operating revenues were generated from
federal and state child care assistance programs, primarily the Child Care and
Development Block Grant and At-Risk Programs. These programs are designed to
assist low-income families with child care expenses and are administered through
various state agencies. Although, under new legislation signed by President
Clinton in August 1996, additional funding for child care will be available for
low income families as part of welfare reform, no assurance can be given that
the Company will benefit from any such additional funding.
The Federal Americans With Disabilities Act (the "Disabilities Act")
prohibits discrimination on the basis of disability in public accommodations and
employment. The Disabilities Act became effective as to public accommodations in
January, 1992 and as to employment in July, 1992. Since effectiveness of the
Disabilities Act, the Company has not experienced any material adverse impact as
a result of the legislation.
10
Insurance
The Company's insurance program currently includes the following types of
policies: workers' compensation, comprehensive general liability, automobile
liability, property, excess "umbrella" liability and a medical payment program
for accidents which applies to each child enrolled in a Company center. The
policies provide for a variety of coverages, are subject to various limits, and
include substantial deductibles or self-insured retention. Special insurance is
sometimes obtained with respect to specific hazards, when and if deemed
appropriate and available at reasonable cost. At July 25, 1997, the Company had
approximately $7.5 million of letters of credit available to secure its
obligations under retrospective and self-insurance programs. There is no
assurance that claims in excess of, or not included within, the Company's
coverage will not be asserted, the effect of which could have an adverse effect
on the Company.
Communication and Information Systems
The Company has a fully automated information, communication and financial
reporting system for its centers. The system uses personal computers and links
every center and regional office to the corporate headquarters. This system
provides timely information on such items as weekly revenues, expenses,
enrollments, attendance, payroll and staff hours. The Company is also updating
its financial reporting and human resources systems to provide more
comprehensive and timely information throughout the Company.
The Company also seeks to improve its operating efficiencies by continually
reviewing the effectiveness and coverage of its support services and providing
management with more timely information through its nationwide communications
network and its automated information systems. The Company employs company-wide
e-mail and on-line inquiry for all managers.
KinderCare has also expanded its nationwide network to include the Internet
and company-wide Intranet applications. Through the use of Netscape Navigator(R)
software, the Company's intranet, called "KinderNet," allows center directors to
have immediate access to corporate information and provides center directors
with the ability to distribute reports and questionnaires, update databases and
revise center listings on a daily basis. The Company believes that the
sophistication and scope of its communications network and information system
makes its system one of the more advanced in the child care industry and enables
it to improve further the efficiency and quality of child care and enhance the
educational experience of KinderCare students.
Trademarks
The Company has various registered and unregistered trademarks covering the
name KinderCare, its schoolhouse logo, and a number of other names, slogans and
designs, including, but not limited to: KinderCare At Work(R), My Window On The
World(R), Helping America's Busiest Families(R), Look At Me(R), Let Me Do It(R),
Let's Move, Let's Play(R), Small Talk(R), The Whole Child Is The Whole Idea(R),
Once Upon A Time...(TM), Kid's Choice(TM), KC Imagination Highway(R), Playscapes
At KinderCare(R) and Welcome To
11
Learning(TM). A federally registered trademark in the United States is effective
for ten years subject only to a required filing and the continued use of the
mark by the registrant. A federally registered trademark provides the
presumption of ownership of the mark by the registrant in connection with its
goods or services and constitutes constructive notice throughout the United
States of such ownership. In addition, the Company has registered various
trademarks in certain other countries, including Canada, Germany, Japan, the
Peoples Republic of China and the United Kingdom. The Company believes that its
name and logo are important to its operations and intends to continue to renew
the trademark registrations thereof.
ITEM 2. PROPERTIES
The Company's home office is presently located in Montgomery, Alabama, in a
68,000 square foot building owned by the Company. The Company is in the process
of relocating its corporate headquarters to Portland, Oregon.
The Company currently expects to sell its Montgomery headquarters building
following relocation of its headquarters functions. The Company has entered into
a 10-year lease of approximately 70,000 square feet of office space currently
under construction in Portland, Oregon. The lease term will run from the date of
occupancy, currently expected to be early November 1997. The lease calls for
annual rental payments of $22.50 per square foot for the first five years of the
lease term and $26.50 for the final five years, with one five-year extension
option at market rent. At July 25, 1997, the Company owned 728 of its operating
child care centers, leased or subleased 413 operating child care centers and
operated three child care centers under management contracts. The Company owns
or leases certain other child care centers which have not yet been opened or
which are being held for disposition. In addition, the Company owns certain real
property held for future development of centers.
A typical KinderCare community center is a one-story, air-conditioned
building located on approximately one acre of land (larger capacity centers are
situated on parcels ranging from one to four acres of land) constructed in
accordance with model designs generally developed by the Company. The community
centers contain open classroom and play areas and complete kitchen and bathroom
facilities and can accommodate from 130 to 280 children, with most centers able
to accommodate 90 to 135 children. Over the past few years, the Company opened
community centers that are larger in size with a capacity ranging from 165 to
280 children. New prototype community centers accommodate approximately 180
children, depending on site and location. Each center is equipped with a variety
of audio and visual aids, educational supplies, games, puzzles, toys and
vehicles used for field trips and transporting children enrolled in the
Company's after-school program. All KinderCare community centers are equipped
with computers for children's educational programs.
KinderCare At Work(R) provides child care programs individualized for each
corporate sponsor. Facilities are on or near the corporate sponsor's site and
range in capacity from 80 to 220 children. Kid's Choice(TM) centers contain
homework, computer and game rooms and are able to accommodate from 75 to 180
children. Each provides school-age children with areas to perform activities of
interest to them.
12
The KinderCare community, KinderCare At Work(R) and Kid's Choice(TM)
centers operated by the Company at July 25, 1997 were located as follows:
Kids
Community KinderCare At Choice(TM)
Location Centers Work(R) Centers Centers Total
--------------------- --------- --------------- --------- ---------
Alabama 11 -- 1 12
Arizona 16 2 -- 18
Arkansas 4 -- -- 4
California 92 -- 2 94
Colorado 24 -- 1 25
Connecticut 13 2 -- 15
Delaware 5 -- -- 5
Florida 67 6 2 35
Georgia 37 -- 2 39
Illinois 73 3 8 84
Indiana 26 1 1 28
Iowa 7 2 1 10
Kansas 18 -- -- 18
Kentucky 13 1 1 15
Louisiana 13 2 -- 15
Maryland 23 -- 1 24
Massachusetts 17 -- -- 17
Michigan 32 2 1 35
Minnesota 31 -- 1 32
Mississippi 4 -- -- 4
Missouri 48 -- -- 48
Nebraska 10 1 -- 11
Nevada 10 -- -- 10
New Jersey 29 4 -- 33
New Mexico 7 -- -- 7
New York 2 1 -- 3
North Carolina 33 -- 2 35
Ohio 56 3 6 65
Oklahoma 10 -- -- 10
Oregon 13 3 -- 16
Pennsylvania 41 -- -- 41
Rhode Island -- 1 -- 1
Tennessee 27 1 2 30
Texas 121 1 7 129
Utah 6 1 -- 7
Virginia 52 -- 2 54
Washington 47 -- 2 49
Wisconsin 23 1 -- 24
United Kingdom 2 -- -- 2
--------- --------------- --------- ---------
Total 1,063 38 43 1,144
========= =============== ========= =========
Subsequent to January 1, 1993, the Company renegotiated approximately 70
leases related to under-performing centers in order to amend the terms and allow
the Company to terminate these leases at any time with minimal notice. In
connection with the termination option, the Company, in certain instances,
prepaid rent totaling approximately $3.2 million. Such amounts are being
amortized over the termination period or over the appropriate remaining months
of the lease period. Commitments under these amended leases totaled
13
approximately $16.8 million over the original lease terms. Upon giving the
landlord termination notice of at least six months, the amendments provide that
the Company would be permitted to utilize the facilities for the final six-month
period rent-free, as well as relieve itself of all future commitments remaining
under the lease. At July 25, 1997, the Company has elected to close 34 of these
centers and the remaining unamortized prepaid balance is $2.3 million.
The Company utilizes a centralized maintenance program to ensure consistent
high-quality maintenance of its facilities located across the country. The
department's maintenance technicians, each with a van stocked with spare parts,
handle routine and preventative maintenance functions through the central
telephone dispatch and systematic checklist system. Each technician is
responsible for the support of approximately 25 centers. A level of supervision
also has been added to provide guidance and additional technical support to the
technicians. Specific geographic areas are supervised by four regional directors
and nine facility managers, each of whom manages between three and eight
technicians.
The Company plans to undertake a renovation program to ensure that all of
its centers meet specified standards to be established by the Company. The
Company anticipates that it will take three to four years to complete this
planned renovation. The Company believes that its properties are in good
condition and are adequate to meet its current and reasonably anticipated future
needs.
ITEM 3. LEGAL PROCEEDINGS
The Company is presently, and is from time to time, subject to claims and
suits arising in the ordinary course of business, including suits alleging child
abuse. In certain of such actions, plaintiffs request damages that are covered
by insurance. The Company believes that none of the claims or suits of which it
is aware will materially affect its financial position, operating results or
cash flows, although absolute assurance cannot be given with respect to the
ultimate outcome of any such actions.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
14
ITEM 4A. EXECUTIVE OFFICERS OF THE REGISTRANT
Set forth below are the names, ages, positions with the Company and
employment history of each of the executive officers of the Company, together
with certain other key personnel:
Year First
Elected
Director or
Name Age Position with Company Officer
- ---- --- --------------------- -----------
David J. Johnson 51 Chief Executive Officer and Chairman of the Board 1997
Beth A. Ugoretz 42 Executive Vice President, Corporate Services 1997
Bruce Walters 40 Senior Vice President and Chief Development Officer 1997
Edward L. Brewington 54 Vice President, Human Resources 1997
Robert H. Fries 48 Vice President, Treasurer 1996
Marcia P. Guddemi, Ph.D. 44 Vice President, Education, Research and Training 1991
Mark F. Hoffmann 33 Vice President, Real Estate 1996
S. Wray Hutchinson 36 Vice President, Operations 1996
Dan R. Jackson 43 Vice President, Financial Controls and Planning 1997
Eva M. Kripalani 38 Vice President, General Counsel and Secretary 1997
Bobby J. Willey 56 Vice President, Information Services 1995
Mr. Johnson joined the Company as Chief Executive Officer and Chairman in
February 1997. Between September 1991 and November 1996, Mr. Johnson served as
President, Chief Executive Officer and Chairman of the Board of Red Lion Hotels,
Inc. (formerly a KKR affiliate) or its predecessor. From 1989 to September 1991,
Mr. Johnson was a general partner of Hellman & Friedman, a private equity
investment firm based in San Francisco. From 1986 to 1988, he served as
President, Chief Operating Officer and director of Dillingham Holdings, a
diversified company headquartered in San Francisco. From 1984 to 1987, Mr.
Johnson was President and Chief Executive Officer of Cal Gas Corporation, a
principal subsidiary of Dillingham Holdings.
Ms. Ugoretz joined the Company as Executive Vice President of Corporate
Services in March 1997. Ms. Ugoretz served as Senior Vice President, General
Counsel and Secretary of Red Lion Hotels, Inc. or its predecessor from June 1993
to December 1996. Prior to that time, Ms. Ugoretz was a partner with the law
firm of Stoel Rives LLP in Portland, Oregon, where she had worked since 1983.
Mr. Walters joined the Company as Senior Vice President and Chief
Development Officer in July 1997. From June 1995 to February 1997, Mr. Walters
served as the Executive Vice President of Store Development for Hollywood
Entertainment Corporation in Portland, Oregon. Prior to that time, Mr. Walters
spent 14 years with McDonald's Corporation in various domestic and international
development positions.
Mr. Brewington joined the Company as Vice President of Human Resources in
April 1997. From June 1993 to April 1997 Mr. Brewington was with Times Mirror
Training Group where his last position held was Vice President, Human Resources.
Prior to that time, Mr. Brewington spent 25 years with IBM in various human
resource, sales and marketing positions.
15
Mr. Fries was promoted to Vice President and Treasurer in April 1996. Mr.
Fries began his employment with the Company in March 1994 as Assistant
Treasurer, Debt and Income Taxes and Assistant Secretary. Prior to joining
KinderCare, Mr. Fries served as Director of Taxes for Blount, Inc. from 1986
until 1994.
Dr. Guddemi joined the Company in August 1991 as Vice President of
Education and Research. For over five years prior to joining the Company, she
was an assistant professor of early childhood education at the University of
South Florida and at the University of South Carolina.
Mr. Hoffmann joined the Company in February 1996 as Vice President of Real
Estate. Prior to joining the Company, Mr. Hoffmann served as the Director of
Real Estate for B.C. Great Lakes, LLC from 1993 until 1996 and in various real
estate management positions of increased responsibility with Taco Bell
Corporation from 1989 through 1993.
Mr. Hutchinson was promoted to Vice President of Operations in April 1996.
He began his employment with the Company in 1992 as a District Manager in New
Jersey and was later promoted to Region Manager for the Chicago area. From 1990
until 1992, Mr. Hutchinson was self-employed.
Mr. Jackson joined the Company in February 1997 as Vice President of
Financial Controls and Planning. Prior to that time, Mr. Jackson served as Vice
President Controller for Red Lion Hotels, Inc., or its predecessor, from
September 1985 to January 1997. From 1978 to 1985, Mr. Jackson held several
financial management positions with Harsch Investment Corporation, a real estate
holding company based in Portland, Oregon.
Ms. Kripalani joined the Company as Vice President, General Counsel and
Secretary in July 1997. Prior to joining the Company, Ms. Kripalani was a
partner in the law firm of Stoel Rives LLP in Portland, Oregon, where she had
worked since 1987.
Mr. Willey joined the Company in June 1995 as Vice President of Information
Services. From 1992 to 1995, Mr. Willey served as MIS Director for PETSTUFF,
Inc. and was Corporate Information Officer for ANCO Management Service, Inc.
from 1989 to 1992.
16
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND
RELATED STOCK HOLDER MATTERS
Price Range of Common Stock
Until February 13, 1997, the date of the Merger, the common stock traded on
the Nasdaq National Market System under the symbol KCLC. Following the Merger,
the common stock was delisted from the Nasdaq National Market System and
thereafter has been traded only in the over-the-counter market under the symbol
KDCR. The following table sets forth, for the fiscal periods indicated, the high
and low sales prices, rounded to the nearest eighth, reported by the Nasdaq
National Market System with respect to sales of the common stock prior to
February 13, 1997:
Common Stock
---------------------------
High Low
----------- ---------
Fiscal year ended May 30, 1997
First Quarter $ 15 11/16 $ 13 7/8
Second Quarter 20 15 1/4
Third Quarter (through February 13, 1997) 20 18 1/8
Fiscal year ended May 31, 1996
First Quarter $ 14 5/8 $ 12 1/4
Second Quarter 14 1/4 11 3/4
Third Quarter 13 3/8 11 3/4
Fourth Quarter 15 2/5 12 1/4
Since February 13, 1997, the Company's common stock has been traded in the
over-the-counter market, in the "pink sheets" published by the National
Quotation Bureau, and has been listed on the OTC Bulletin Board under the symbol
KDCR. The market for the Company's common stock must be characterized as a
limited market due to the relatively low trading volume and the small number of
brokerage firms acting as market makers. The following table sets forth, for the
periods indicated, certain information with respect to the high and low bid
quotations for the common stock as reported by a market maker for the Company's
common stock. The quotations represent inter-dealer quotations without retail
markups, markdowns or commissions and may not represent actual transactions. No
assurances can be given that the prices for the Company's common stock will be
maintained at their present levels.
Common Stock
-----------------------------
High Bid Low Bid
------------ ------------
Fiscal year ended May 30, 1997
February 13, 1997 to March 7, 1997 $ 19 $ 19
Fourth Quarter N/A* N/A*
* The Company was unable to identify any trades in the common stock
in the over-the counter market during this period.
17
Approximate Number of Security Holders
At July 25, 1997, there were approximately 80 holders of record of the
Company's common stock. All warrants outstanding prior to the Merger were
cancelled and converted into the right to receive an amount in cash determined
as specified in the Merger Agreement at the effective time of the Merger.
Dividend Policy
During the past three fiscal years, the Company has not declared or paid
any cash dividends or distributions on its capital stock. The Company currently
intends to retain earnings of the Company for operations and does not anticipate
paying cash dividends on the common stock in the foreseeable future. Further,
the 9-1/2% senior subordinated notes due 2009 and the credit facilities entered
into by the Company in connection with the Merger restrict any payment of
dividends.
18
ITEM 6. SELECTED HISTORICAL CONSOLIDATED
FINANCIAL AND OTHER DATA
The following table sets forth selected historical consolidated financial
and other data for the Company. This information should be read in conjunction
with the Company's Consolidated Financial Statements and Notes thereto and the
information set forth in "Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations."
The consolidated statement of operations for the year ended May 28, 1993 is
presented for comparison to the fiscal years ended May 30, 1997, May 31, 1996,
June 2, 1995 and June 3, 1994 to reflect the Company's change in fiscal year. On
November 10, 1992, the Company filed a pre-arranged petition under Chapter 11 of
the United States Bankruptcy Code. On March 31, 1993 the Company emerged from
bankruptcy pursuant to its plan of reorganization. Due to the implementation on
April 2, 1993 of fresh start reporting in accordance with AICPA Statement of
Position 90-7 Financial Reporting by Entities in Reorganization Under the
Bankruptcy Code ("SOP 90-7"), the consolidated statement of operations for the
year ended May 28, 1993 includes both pre- and post-bankruptcy amounts, and is
therefore not comparable to the other periods presented.
The consolidated balance sheet data for the Company at May 30, 1997, May
31, 1996, June 2, 1995, June 3, 1994 and May 28, 1993 and the consolidated
statements of operations data for the fiscal years ended May 30, 1997, May 31,
1996, June 2, 1995, June 3, 1994 and the eight weeks ended May 28, 1993, after
giving effect to the Company's plan of reorganization, pursuant to which it
emerged from bankruptcy on March 31, 1993, are not comparable to the historical
financial condition or results of operations of the Company prior to the plan of
reorganization.
19
Selected Historical Consolidated Financial and Other Data
KinderCare Learning Centers, Inc. and Subsidiaries
(Dollars in thousands, except per share amounts and child care center data)
Post-Confirmation
------------------------------------------------------------------------
Fiscal Year Ended
--------------------------------------------------------- Eight Weeks
June 3, 1994 Ended
May 30, 1997 May 31, 1996 June 2, 1995 (53 Weeks) May 28, 1993
------------------------------------------------------------------------
Statement of Operations Data (b):
Operating revenues, net $ 563,135 $ 541,264 $ 506,505 $ 488,726 $ 72,612
Operating expenses, exclusive of
recapitalization expenses,
restructuring and other
charges (income), net 515,481 488,071 456,607 441,560 68,609
Recapitalization expenses (d) 17,277 -- -- -- --
Restructuring and other charges
(income), net (e) 10,275 1,484 (888) -- --
------------------------------------------------------------------------
Operating income (loss) 20,102 51,709 50,786 47,166 4,003
Net investment income 232 250 2,635 3,176 140
Interest expense 22,394 16,727 17,318 17,675 3,253
Reorganization items -- -- -- -- --
------------------------------------------------------------------------
Income (loss) before taxes and
extraordinary items (2,060) 35,232 36,103 32,667 890
Income tax expense (benefit) 3,375 13,549 14,037 12,837 273
------------------------------------------------------------------------
Income (loss) before extraordinary items (5,435) 21,683 22,066 19,830 617
Extraordinary items, net of income taxes (7,532)(h) -- -- (2,397)(h) --
------------------------------------------------------------------------
Net income (loss) $ (12,967) $ 21,683 $ 22,066 $ 17,433 $ 617
========================================================================
Earnings (loss) per share (b):
Primary - Income (loss) before
extraordinary item, net $ (0.33) $ 1.10 $ 1.07 $ 0.97 $ 0.03
Extraordinary item, net (0.46) -- -- (0.12) --
------------------------------------------------------------------------
Net income (loss) $ (0.79) $ 1.10 $ 1.07 $ 0.85 $ 0.03
========================================================================
Fully diluted - Net income (loss) $ 1.05
===============
Other Financial Data (b):
EBITDA (j) $ 47,055 $ 85,931 $ 81,492 $ 73,093 $ 8,373
Adjusted EBITDA (j) 81,907(k) 87,165(k) 77,969 72,314 8,233
Adjusted EBITDA margin 14.5% 16.1% 15.4% 14.8% 11.3%
Capital expenditures $ 43,748 $ 67,304 $ 74,376 $ 35,710 $ 5,839
Child Care Center Data (b):
Number of centers at end of period 1,144 1,148 1,137 1,132 1,166
Center licensed capacity at end of
period 143,000 141,000 N/C(1) N/C(1) N/C(1)
Occupancy (m) 70% 70% N/C(1) N/C(1) N/C(1)
Average tuition rate (n) $ 103 $ 101 N/C(1) N/C(1) N/C(1)
Balance Sheet Data (at end of period) (b):
Total assets $ 569,878 $ 527,476(o) $ 503,274(o) $ 458,920(o) $ 459,388(o)
Total debt (p) 394,889 146,617 160,394 178,692 218,037
Shareholders' equity 27,707(q) 262,435(o) 241,216(o) 203,882(o) 176,464(o)
See accompanying notes to selected historical consolidated financial and other data.
20
Selected Historical Consolidated Financial and Other Data, cont'd.
KinderCare Learning Centers, Inc. and Subsidiaries
(Dollars in thousands, except per share amounts and child care center data)
Pre-Confirmation
------------------------------------------
Thirteen Fiscal Year
Year Ended Weeks Ended Ended
May 28, April 2, January 1,
1993(a) 1993(a) 1993(a)
------------ ------------ ------------
Statement of Operations Data (b):
Operating revenues, net $ 447,243 $ 114,705 $ 437,203
Operating expenses, exclusive of
recapitalization expenses,
restructuring and other
charges (income), net 423,841 104,675 413,800(c)
Recapitalization expenses (d) -- -- --
Restructuring and other charges
(income), net (e) -- -- --
------------------------------------------
Operating income (loss) 23,402 10,030 23,403
Net investment income 8,686 3,309 5,908
Interest expense 24,709(f) 692(f) 38,400(f)
Reorganization items 103,483(g) 101,604(g) 1,879
------------------------------------------
Income (loss) before taxes and
extraordinary items (96,104) (88,957) (10,968)
Income tax expense (benefit) (216) 404 (246)
------------------------------------------
Income (loss) before extraordinary items (95,888) (89,361) (10,722)
Extraordinary items, net of income taxes 157,573(i) 157,573(i) --
------------------------------------------
Net income(loss) $ 61,685 $ 68,212 $ (10,722)
==========================================
Earnings (loss) per share (b):
Primary - Income (loss) before
extraordinary item, net N/A(a) $ (1.71) $ (0.21)
Extraordinary item, net N/A(a) 3.01 --
------------------------------------------
Net income (loss) N/A(a) $ 1.30 $ (0.21)
==========================================
Fully diluted - Net income (loss)
Other Financial Data (b):
EBITDA (j) $ 114,175 $ 76,173 $ 54,281
Adjusted EBITDA (j) 51,399 16,895 50,252
Adjusted EBITDA margin 11.5% 14.7% 11.5%
Capital expenditures 38,112 5,927 34,498
Child Care Center Data (b):
Number of centers at end of period 1,166 1,166 1,196
Center licensed capacity at end of period N/C(1) N/C(1) N/C(1)
Occupancy (m) N/C(1) N/C(1) N/C(1)
Average tuition rate (n) N/C(1) N/C(1) N/C(1)
Balance Sheet Data (at end of period) (b):
Total assets $ 459,388(o)
Total debt (p) 218,037
Shareholders' equity 176,464(o)
See accompanying notes to selected historical consolidated financial and other data.
21
Notes to Selected Historical Consolidated
Financial and Other Data
(a) Due to the implementation of fresh start reporting, the consolidated
financial statements of the Company after April 2, 1993 are not comparable
in all material respects to any financial statements prior to that time and
the operating results for the year ended May 28, 1993 include both pre- and
post-bankruptcy amounts. Additionally, the presentation of historical
earnings per share information for periods including both pre- and
post-bankruptcy amounts are not meaningful. Primary earnings (loss) per
share data on a pro-forma basis, assuming 20,000,000 shares of new common
stock (issued at April 2, 1993, the effective time of the plan of
reorganization) had been outstanding since the beginning of the year ended
May 28, 1993 would be as follows:
Loss before extraordinary item, net $(4.79)
Extraordinary item, net 7.87
------
Net income $ 3.08
======
(b) The Company's fiscal year ends on the Friday closest to May 31.
(c) In fiscal year 1992, $4.0 million of the 1990 closed center reserves were
recaptured which reduced operating expenses. In addition, debt
restructuring costs incurred in connection with the Company's efforts to
reorganize its debt prior to filing for Chapter 11 on November 10, 1992 of
$5.3 million are included in operating expenses for fiscal year 1992.
(d) In fiscal year 1997, the Company incurred non-recurring recapitalization
costs in order to fund the transactions contemplated by the Merger.
(e) Restructuring and other charges (income), net, include restructuring
charges of $3.4 million and $6.5 million in fiscal years 1997 and 1996,
respectively, losses on asset impairments of $6.9 million and $6.3 million
in fiscal years 1997 and 1996, respectively, gains on litigation
settlements of $(1.5) million, $(11.3) million and $(0.9) million in fiscal
years 1997, 1996 and 1995, respectively, and charges of $1.5 million to
write-off certain assets in fiscal year 1997.
(f) During the Chapter 11 petition from November 10, 1992 through March 31,
1993, the Company did not pay or accrue interest on approximately $356.5
million of debt obligations classified as liabilities subject to settlement
under reorganization proceedings.
(g) Reorganization items for the year ended May 28, 1993 and the 13 weeks ended
April 2, 1993 include $97.7 million of net adjustments to state assets and
liabilities at fair value in connection with the adoption of fresh start
reporting.
(h) In fiscal years 1994 and 1997, the Company retired debt prior to maturity,
the losses on which were recorded as extraordinary items.
(i) In connection with the Company's emergence from bankruptcy in fiscal year
1993, the value of cash distributed, new debt and equity securities issued
and liabilities assumed was $157.6 million less than the allowed claims of
$457.6 million and the resulting gain was recorded as an extraordinary
item.
(j) "EBITDA" represents earnings before interest expense, income taxes,
depreciation and amortization. "Adjusted EBITDA" represents EBITDA
exclusive of recapitalization
22
expenses, restructuring and other charges (income), net, investment income
and extraordinary items. Neither EBITDA nor Adjusted EBITDA is intended to
represent cash flow from operations as defined by generally accepted
accounting principles and should not be considered as an alternative to net
income as an indicator of the Company's operating performance or to cash
flows as a measure of liquidity. Adjusted EBITDA is presented because the
Company believes that Adjusted EBITDA represents a more consistent
financial indicator of the Company's ability to service its debt.
(k) See "Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations."
(l) Prior to June 3, 1995, the Company utilized average occupancy and the three
year old tuition rate to measure performance. Average occupancy was defined
as actual operating revenues for the respective period divided by the
building capacity of each of the Company's centers multiplied by such
center's basic tuition rate for full-time, three-year-old students for the
respective period. The three-year-old tuition rate represents the weekly
tuition rate paid by a parent for a three-year-old child to attend a
KinderCare center five full days during one week. The three-year-old
tuition rate represented an approximate average of all tuition rates at
each center. The child care center data utilized in prior fiscal years to
measure performance is as follows:
Fiscal Year Ended
---------------------------------------------
May 31,1996 June 2, 1995 June 3, 1994 Year Ended
(53 weeks) May 28, 1993
-------------------------------------------------------------
Center building capacity
at end of period 141,000 137,000 136,000 138,000
Average occupancy 76% 76% 77% 74%
Average three-year-old
tuition rate $ 100 $ 96 $ 90 $ 83
At June 3, 1995, the Company changed its method of measuring performance to
the utilization of occupancy and average tuition rate (see notes (m) and
(n) below).
(m) Occupancy, a measure of the utilization of center capacity, is defined by
the Company as the full-time equivalent ("FTE") attendance at all of the
Company's centers divided by the sum of the licensed capacity of all of the
Company's centers. FTE attendance is not a strict head count. Rather, the
methodology is to determine an approximate number of full-time children
based on weighted averages. For example, an enrolled full-time child
equates to one FTE, while a part-time child enrolled for a half-day would
equate to 0.5 FTE. The FTE measurement of center capacity utilization does
not necessarily reflect the actual number of full- and part-time children
enrolled.
(n) Average tuition rate is defined by the Company as actual net operating
revenues, exclusive of fees (primarily reservation and registration),
divided by FTE attendance for the respective period. The average tuition
rate represents the approximate weighted average tuition rate, at each
center, paid by a parent for a child to attend a KinderCare center five
full days during one week. Center occupancy mix, however, can significantly
affect these averages with respect to any specific child care center.
(o) At the Company's emergence from bankruptcy in 1993, the Company did not
record a liability for accrued but untaken employee vacation. Accordingly,
the accompanying financial statements for periods prior to June 1, 1996 and
subsequent to the Company's
23
emergence from bankruptcy have been restated. The net effect of the
restatement was to decrease additional paid-in capital by $3.0 million,
reflecting the vacation accrual of $5.0 million net of the deferred tax
effect of $2.0 million. The effect of the restatement is not material to
the results of operations.
(p) Total debt includes long-term debt, current portion of long-term debt and,
at January 1, 1993, debt obligations of $356.5 million classified as
liabilities subject to settlement under reorganization proceedings.
(q) As part of the Merger and related transactions, KKR, through KCLC,
contributed $148.75 million in common equity for approximately 83.6% of the
shares outstanding immediately after the Merger and existing stockholders
retained approximately 16.4% of the shares outstanding immediately after
the Merger.
24
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Introduction
The following discussion should be read in conjunction with the
Consolidated Financial Statements and Notes thereto included elsewhere in this
document. The Company's fiscal year ends on the Friday closest to May 31. The
information presented herein refers to the years ended May 30, 1997 ("fiscal
1997"), May 31, 1996 ("fiscal 1996"), and June 2, 1995 ("fiscal 1995"), each of
which was a 52-week fiscal year.
Occupancy, a measure of the utilization of center capacity, is defined by
the Company as the full-time equivalent ("FTE") attendance at all of the
Company's centers divided by the sum of the licensed capacity of all of the
Company's centers. FTE attendance is not a strict head count. Rather, the
methodology is to determine an approximate number of full-time children based on
weighted averages. For example, an enrolled full-time child equates to one FTE,
while a part-time child enrolled for a half-day would equate to 0.5 FTE. The FTE
measurement of center capacity utilization does not necessarily reflect the
actual number of full- and part-time children enrolled.
Average tuition rate is defined by the Company as actual net operating
revenues, exclusive of fees (primarily reservation and registration), divided by
FTE attendance for the respective period. The average tuition rate represents
the approximate weighted average tuition rate at each center paid by a parent
for a child to attend a KinderCare center five full days during one week. Center
occupancy mix, however, can significantly affect these averages with respect to
any specific child care center.
Fiscal 1997 compared to Fiscal 1996
The following table shows the comparative operating results of the Company
(dollars in thousands):
Fiscal Fiscal Change
Year Ended Percent Year Ended Percent Amount
May 30, of May 31, of Increase/
1997 Revenues 1996 Revenues (Decrease)
---------- -------- ----------- ---------- ----------
Operating revenues, net $ 563,135 100.0% $ 541,264 100.0% $ 21,871
---------- ---------- ----------- ---------- ----------
Operating expenses:
Salaries, wages and benefits 300,580 53.4 284,115 52.5 16,465
Depreciation 34,253 6.1 33,972 6.3 281
Rent 28,140 4.9 26,515 4.9 1,625
Other 152,508 27.1 143,469 26.5 9,039
Recapitalization expenses 17,277 3.1 -- -- 17,277
Restructuring and other charges
(income), net 10,275 1.8 1,484 0.2 8,791
---------- ---------- ----------- ---------- ----------
Total operating expenses 543,033 96.4 489,555 90.4 53,478
---------- ---------- ----------- ---------- ----------
Operating income $ 20,102 3.6% $ 51,709 9.6% $ (31,607)
========== ========== =========== ========== ==========
Operating revenues, net - Net operating revenues increased $21.9 million,
or 4.0%, to $563.1 million in fiscal 1997 versus fiscal 1996. The increase in
net operating revenues is primarily attributable to a 4.7% weighted average
tuition increase implemented in the fall of
25
1996 and to new center openings and acquisitions. The average tuition rate
increased to $103 in fiscal 1997 from $101 in fiscal 1996. The positive effect
of those factors on net operating revenues was offset in part by declines in
total company average occupancy and center closings.
Total Company occupancy decreased slightly to 70.0% in fiscal 1997 from
70.3% in fiscal 1996. The Company believes the decline in occupancy was caused
by a variety of factors including, in particular, the following recently
implemented initiatives: (a) a reduced, lower cost marketing program, (b) an
expanded employee child care discount program that may have precluded the
enrollment of tuition paying children, and (c) changes in field operations
management which provided less direct center supervision. The Company is in the
process of evaluating such initiatives and has made certain revisions including
funding a targeted marketing program for early fiscal year 1998, limiting the
employee child care discount effective July 1997 and adding certain area manager
positions and additional regional field support to increase center supervision
and support.
During fiscal 1997, the Company opened 16 new centers: 15 KinderCare
community centers and one KinderCare At Work(R) center; and closed or sold 20
centers. During fiscal 1996, the Company opened 37 new centers: 22 KinderCare
community centers, six KinderCare At Work(R) centers and nine Kid's Choice(TM)
centers (including the conversion of one community center to a Kid's Choice(TM)
center); and closed or sold 26 centers. Consequently, total licensed capacity
increased to 143,000 at the end of fiscal 1997 from 141,000 at the end of fiscal
1996.
Salaries, wages and benefits - Salaries, wages and benefits expense
increased $16.5 million, or 5.8%, to $300.6 million in fiscal 1997 versus fiscal
1996. Approximately $7.0 million and $7.7 million of the year-to-date increases
are attributable to increased center staff hours and wage rates, respectively.
Average hourly center staff wages increased approximately 4.1% for fiscal 1997
versus fiscal 1996. Further, benefit costs have increased slightly due to the
partial implementation of new employee health insurance plans. As a percentage
of net operating revenues, salaries, wages and benefits expense increased to
53.4% in fiscal 1997 from 52.5% in fiscal 1996.
Depreciation - Depreciation expense increased to $34.3 million in fiscal
1997 from $34.0 million in fiscal 1996 due to asset additions related to
renovations of existing centers, purchases of short lived assets and to the
opening of 16 new centers, offset partially by the closing of 20 older centers
in fiscal 1997 and by a reduction in depreciation expense related to certain
assets reaching the end of their estimated depreciable lives.
Rent - Rent expense increased to $28.1 million in fiscal 1997 from $26.5
million in fiscal 1996. The increase is primarily a result of lease renewals at
current market rates. During fiscal 1997, five leased centers were opened and 17
leased centers were closed. The rental rates experienced on leases entered into
in fiscal 1997 are higher than those experienced in previous years. For fiscal
year 1998, rent expense will include rent associated with the Company's new
corporate headquarters in Portland, Oregon. See "Item 2. Properties."
26
Other operating expenses - Other operating expenses increased to $152.5
million in fiscal 1997 from $143.5 million in fiscal 1996. As a percentage of
net operating revenues, other operating expenses increased to 27.1% in fiscal
1997 from 26.5% in fiscal 1996. This increase is principally due to increased
center level operating and insurance costs and a provision for lease termination
costs, offset partially by a reduced, lower cost marketing program and improved
administrative and center support efficiencies from re-engineering efforts
initiated during fiscal 1996.
Recapitalization expenses - During fiscal 1997 and in connection with the
merger of the Company and KCLC Acquisition Corp. ("KCLC"), a wholly owned
subsidiary of a partnership formed at the direction of Kohlberg Kravis Roberts &
Co., a private investment firm ("KKR") (the "Merger"), the Company repaid the
$91.6 million balance on the Company's previous $150.0 million credit facility
and paid $382.4 million to redeem common stock, warrants and options. In order
to fund the transactions contemplated by the Merger (the "Recapitalization"),
the Company issued $300.0 million principal amount 9-1/2% senior subordinated
notes ("9-1/2% Senior Subordinated Notes"), entered into a $300.0 million
revolving credit facility, executed a term loan facility of $90.0 million,
against which $50.0 million was immediately drawn, and issued 7,828,947 shares
of common stock to KKR affiliates. Non-recurring recapitalization costs of
approximately $17.3 million were incurred and expensed and financing costs of
approximately $27.2 million have been deferred and will be amortized over the
lives of the new debt facilities (see Notes 2 and 8 to the Company's
Consolidated Financial Statements).
Restructuring and other charges (income), net - During the fourth quarter
of fiscal 1997, the Company decided to relocate its corporate offices from
Montgomery, Alabama to Portland, Oregon in fiscal year 1998. In connection with
the relocation, the Company recognized $3.4 million in restructuring costs,
primarily severance related, and recorded a $5.0 million charge to write-down
its Montgomery, Alabama headquarters facility to net realizable value. During
fiscal 1997, $0.2 million was paid in relation to the relocation. The Company
anticipates incurring an additional $5.8 million in restructuring charges
related to the relocation in fiscal year 1998. Additionally, the Company
recorded impairment losses of $1.9 million comprised of $1.3 million with
respect to a certain long-lived assets and $0.6 million related to Kids
Choice(TM) anticipated lease termination costs. The Company also recorded
charges of approximately $1.5 million to write-off marketing materials and
deferred pre-opening costs on new centers. Finally, in the second quarter of
fiscal 1997, the Company received a $1.5 million interest payment from Enstar
Group, Inc. ("Enstar"), the Company's former parent, in connection with a
settlement of the Company's claim against Enstar in the U.S. Bankruptcy Court in
Montgomery, Alabama.
During the first quarter of fiscal 1996, the Company received a cash
distribution of $11.3 million from Enstar in connection with the Company's claim
against Enstar referred to above, the Company limited the development of its
Kid's Choice(TM) centers to contracts in process until the concept is more fully
developed and recorded an impairment loss of $6.3 million, consisting of a
writedown of $5.3 million for the recoverability of certain long lived assets,
primarily leasehold improvements (which were valued based on anticipated
discounted cash flows), and $1.0 million for anticipated lease termination
costs. Additionally, during fiscal 1996, the Company made substantial changes to
its field
27
operations and facilities management and to its support functions. As a result
of these changes, the Company provided $6.5 million for restructuring costs,
primarily to cover severance arrangements for the approximately 100 positions
which were eliminated. Currently, the Company is in the process of evaluating
these operational changes and certain other support functions and systems in an
effort to improve the quality of services and future operating effectiveness and
efficiency.
Operating income - Operating income decreased $31.6 million, or 61.1%, to
$20.1 million for fiscal 1997 as compared to fiscal 1996. Operating income
before recapitalization expenses, restructuring and other charges (income), net,
decreased $5.5 million, or 10.3%, to $47.7 million in fiscal 1997 as compared to
fiscal 1996 due to decreased occupancy, increases in employee child care
discounts and increased labor expenses, as discussed above. The Company has
taken certain steps to address these issues including funding a targeted
marketing program for early fiscal year 1998, limiting the employee child care
discount effective July 1997 and adding 22 area manager positions and additional
regional field support to increase center supervision and support.
Fiscal 1997 EBITDA, defined as earnings before interest expense, income
taxes, depreciation and amortization, of $47.1 million was $38.9 million below
fiscal 1996. As a percentage of net operating revenues, EBITDA for fiscal 1997
was 8.4% versus 15.9% for fiscal 1996. Adjusted EBITDA, defined as EBITDA
exclusive of recapitalization expenses, restructuring and other charges
(income), net, investment income and extraordinary items was $81.9 million in
fiscal 1997, a decrease of $5.3 million from fiscal 1996. In addition to the
factors discussed above, as part of the Company's normal review of the adequacy
of reserves, during fiscal 1996, self insurance reserves were reduced by $2.0
million, the impact of which was to increase EBITDA and Adjusted EBITDA by a
like amount. In fiscal 1997, as part of the normal review of the adequacy of
reserves, the Company increased self insurance reserves, which reduced EBITDA
and Adjusted EBITDA by $2.0 million. In addition, during fiscal 1997, the
Company recorded provisions of $1.2 million for anticipated lease termination
costs which are included in other operating expenses. As a percentage of net
operating revenues, Adjusted EBITDA declined to 14.5% in fiscal 1997 from 16.1%
in fiscal 1996. Neither EBITDA nor Adjusted EBITDA is intended to indicate that
cash flow is sufficient to fund all of the Company's cash needs or represent
cash flow from operations as defined by generally accepted accounting
principles.
Net investment income - Net investment income was $0.2 million in each of
fiscal 1997 and fiscal 1996.
Interest expense - Interest expense increased to $22.4 million in fiscal
1997 from $16.7 million in fiscal 1996. This increase is substantially
attributable to the increase of approximately $350.0 million of long-term debt
which was incurred in the third quarter of fiscal 1997 to fund the Merger and
repay $91.6 million on the Company's then existing line of credit. The Company's
weighted average interest rate on its long-term debt, including amortization of
debt issuance costs, was 8.5% for fiscal 1997 versus 10.8% for fiscal 1996. As a
result of the Recapitalization, the Company expects to incur higher interest
expense in fiscal year 1998 than in prior fiscal years.
28
Income tax expense - Income tax expense for fiscal 1997 of $3.4 million was
in excess of amounts computed by applying statutory federal income tax rates to
income before income taxes due primarily to non-deductible recapitalization
expenses and state income taxes, reduced by tax credits.
Fiscal 1996 compared to Fiscal 1995
The following table shows the comparative operating results of the
Company (dollars in thousands):
Fiscal Year Fiscal Change
Ended Percent Year Ended Percent Amount
May 31, of June 2, of Increase
1996 Revenues 1995 Revenues (Decrease)
----------- ---------- ------------ -------- ----------
Operating revenues, net $ 541,264 100.0% $ 506,505 100.0% $ 34,759
----------- ---------- ------------ -------- ----------
Operating expenses:
Salaries, wages and benefits 284,115 52.5 263,527 52.0 20,588
Depreciation 33,972 6.3 28,071 5.5 5,901
Rent 26,515 4.9 26,099 5.2 416
Other 143,469 26.5 138,910 27.5 4,559
Restructuring and other charges
(income), net 1,484 0.2 (888) (0.2) 2,372
----------- ---------- ------------ -------- ----------
Total operating expenses 489,555 90.4 455,719 90.0 33,836
----------- ---------- ------------ -------- ----------
Operating income $ 51,709 9.6% $ 50,786 10.0% $ 923
=========== ========== ============ ======== ==========
Operating revenues, net - Fiscal 1996 net operating revenues increased
$34.8 million or 6.9% over fiscal 1995. The increase in net operating revenues
was primarily attributable to a 4.2% weighted average tuition increase
implemented during the second quarter fiscal of 1996 and to new center openings
and acquisitions, offset by center closings.
Total Company occupancy decreased slightly in fiscal 1996 from fiscal 1995.
The Company believes the slight decrease in occupancy was attributable to heavy
competitor promotional activities and increasing market price sensitivities
during the fall of 1995.
During fiscal 1996, the Company opened 37 new centers: 22 KinderCare
community centers, six KinderCare At Work(R) centers and nine Kid's Choice(TM)
centers (including the conversion of one community center to a Kid's Choice(TM)
center); and closed or sold 26 centers. During fiscal 1995, the Company opened
or acquired 45 new centers: 29 KinderCare community centers (including 12
acquired centers), three KinderCare At Work(R) centers and 13 Kid's Choice(TM)
centers (including the conversion of three community centers to Kid's Choice(TM)
centers); and closed or sold 40 centers. Total licensed capacity increased
to141,000 at the end of fiscal 1996 from 136,000 at the end of fiscal 1995.
Salaries, wages and benefits - Salaries, wages and benefits increased, as a
percentage of net operating revenues, to 52.5% in fiscal 1996 from 52.0% in
fiscal 1995. The increase was attributable to increased hours and wage rates
since the end of fiscal 1995, offset partially by improvements in field overhead
and administrative costs due to management reorganizations.
Depreciation - Depreciation expense increased $5.9 to $34.0 million in
fiscal 1996 million from $28.1 million in fiscal 1995. This increase was
primarily attributable to the
29
opening of 36 new centers and to the expenditure of $27.3 million in fiscal 1996
for center renovations and short-lived assets, such as the computers for
children's educational programs, offset somewhat by the closing of 25 older
centers in fiscal 1996.
Rent - Rent expense increased $0.4 million in fiscal 1996 from fiscal 1995.
This increase was attributable to rent incurred on new Kid's Choice(TM) and
community center leases, offset partially by the closing of 17 leased community
centers and the favorable effects of the disposal of some leased vehicles.
Other operating expenses - Other operating expenses, as a percentage of net
operating revenues, decreased to 26.5% in fiscal 1996 from 27.5% in fiscal 1995.
This improvement was mostly due to: (a) a decrease in insurance costs due to
improving claims experience, (b) gains on the sales of assets and (c)
improvements associated with the field management reorganization, such as,
decreases in travel costs and office supplies. These improvements were partially
offset by increased costs associated with upgrades in the food and educational
programs and increased marketing costs.
Restructuring and other charges (income), net - During fiscal 1995, the
Company received $0.9 million in connection with litigation settlements with
Enstar and KinderCare's former Chairman of the Board.
Operating income - Fiscal 1996 operating income increased 1.8% or $0.9
million. As a percentage of net operating revenues, fiscal 1996 operating margin
of 9.6% decreased from the prior year operating income margin of 10.0% for the
reasons discussed above. Before restructuring and other charges (income), net,
as discussed above, fiscal 1996 operating income of $53.2 million was $3.3
million greater than fiscal 1995 operating income of $49.9 million and, as a
percentage of net operating revenues, operating income margin remained about
flat at 9.8%.
Fiscal 1996 EBITDA increased 5.4% or $4.4 million over fiscal 1995. As a
percentage of net operating revenues, EBITDA decreased to 15.9% for fiscal 1996
from 16.1% for fiscal 1995. Adjusted EBITDA increased 11.8% or $9.2 million to
$87.2 million from $78.0 million in fiscal 1995, and, as a percentage of net
operating revenues, improved to 16.1% from 15.4%. Neither EBITDA nor Adjusted
EBITDA is intended to indicate that cash flow is sufficient to fund all of the
Company's cash needs or represent cash flow from operations as defined by
generally accepted accounting principles.
Net investment income - Net investment income was $0.2 million for fiscal
1996 compared to $2.6 million for fiscal 1995. The decrease was primarily due to
gains on the sale of certain securities during fiscal 1995.
Interest expense - Interest expense decreased to $16.7 million for fiscal
1996 from $17.3 million for fiscal 1995. This decrease was attributable to a
reduction of long-term debt obligations offset by higher average interest rates.
The Company's weighted average interest rate on its long-term debt, including
amortization of debt issuance costs, was 10.8% for fiscal 1996 versus 10.0% for
fiscal 1995.
30
Income tax expense - Income tax expense for fiscal 1996 of $13.5 million
was in excess of amounts computed by applying statutory federal income tax rates
to income before income taxes due primarily to state income taxes. Additional
paid-in capital was increased by $4.1 million for tax benefits recognized in
fiscal 1996 relating to valuation allowances established for deferred taxes at
April 2, 1993, the effective date of the Company's emergence from bankruptcy.
Liquidity and Capital Resources
The Company's principal sources of liquidity are cash flow generated from
operations and future borrowings under the $300.0 million revolving credit
facility. The Company's principal uses of liquidity are meeting debt service
requirements, financing the Company's capital expenditures and renovations and
providing working capital.
In connection with the Merger, the Company's consolidated indebtedness has
increased to approximately $394.9 million at May 30, 1997 from $146.6 million at
May 31, 1996. This indebtedness includes $390.0 million under credit facilities
comprised of a $90.0 million term loan facility (the "Term Loan Facility"), of
which $50.0 million was drawn at the time of the Merger, and a $300.0 million
revolving credit facility (the "Revolving Credit Facility," and, together with
the Term Loan Facility, the "Credit Facilities"), of which, at May 30, 1997,
$42.2 million was committed on outstanding letters of credit, and $300.0 million
of 9-1/2% Senior Subordinated Notes.
The Term Loan Facility is subject to mandatory repayment with the proceeds
of certain asset sales and certain debt offerings and a portion of excess cash
flow (as defined in the Credit Facilities). The Term Loan Facility will mature
on February 13, 2006 and provides for nominal annual amortization. The Revolving
Credit Facility will terminate on February 13, 2004.
The Company utilized approximately $64.8 million of net operating loss
carryforwards to offset taxable income in its 1994 through 1997 fiscal years.
Approximately $12.1 million of net operating loss carryforwards are available to
be utilized in the 1998 and future fiscal years. If such net operating loss
carryforwards were reduced, the Company would be required to pay additional
taxes and interest, thereby reducing available cash.
The Company's consolidated net cash flow from operations for fiscal 1997
was $50.2 million, compared to $75.9 million for fiscal 1996. The decrease in
net cash flow from operations is primarily a result of the net loss before
extraordinary items, net, of $5.4 million in fiscal 1997 as compared to net
income of $21.7 million in fiscal 1996, the components of which are discussed
above. Cash and cash equivalents totaled $24.2 million at May 30, 1997 compared
to $15.6 million at May 31, 1996 and the ratio of current assets to current
liabilities was .67 to one at May 30, 1997, versus .57 to one at May 31, 1996.
During the first quarter of fiscal 1997, the Company repurchased $30.0
million aggregate principal amount of its 10-3/8% senior subordinated notes
("10-3/8% Senior Subordinated Notes") at an aggregate price of $31.5 million
which resulted in an extraordinary loss of $1.2 million, net of income taxes.
During the second quarter of fiscal
31
1997 and in connection with the Merger, the Company announced and completed a
tender offer and consent solicitation for the remainder of its outstanding
10-3/8% Senior Subordinated Notes seeking the elimination of substantially all
of the restrictive covenants, and 99.7% of the notes were purchased at an
aggregate price of $76.8 million. This second transaction resulted in an
extraordinary loss of $5.2 million, net of income taxes.
On June 3, 1996, the Board of Directors authorized the repurchase of $23.0
million of the Company's common stock. At the end of the first quarter of fiscal
1997, 842,500 shares and 370,000 warrants had been repurchased for $14.1
million. All shares that were repurchased have been retired. Other than in
connection with the Merger, no shares of common stock or warrants have been
purchased by the Company since July 22, 1996 and the stock buyback programs were
terminated at the effective time of the Merger.
Capital Expenditures
The Company anticipates substantial increases in its capital expenditures
budget over the next several years. During fiscal year 1998, the Company
anticipates opening 20 to 25 new centers. Over the next three years, the Company
expects to increase its rate of opening and/or acquiring new centers to between
50 and 75 new centers per year in the aggregate (excluding center closings),
which the Company expects will be primarily community centers, and to continue
its practice of closing centers that are identified as underperforming. The
length of time from site selection to the opening of a center ranges from 18 to
24 months. The average total cost per community center ranges from $1.5 million
to $1.8 million depending on the size and location of the center; however, the
actual costs of a particular center may vary from such range. New centers are
based upon detailed site analyses that include feasibility and demographic
studies and financial modeling. No assurance can be given by the Company that it
will be able to successfully negotiate and acquire properties, or meet targeted
deadlines. Frequently, new site negotiations are delayed or canceled or
construction delayed for a variety of reasons, many outside the control of the
Company.
The Company also plans to make significant capital expenditures in
connection with the renovation of its existing facilities. The Company expects
to make these improvements over the next three to four years.
During fiscal 1997, the Company opened 15 community centers and one
KinderCare At Work(R) center. There are no planned additions to the Company's
Kids' Choice(TM) format as management does not believe that the concept is
meeting its full potential and needs further refinement. The Company currently
anticipates that any Kid's Choice(TM) center that is underperforming when its
lease expires will be closed at that time. Fiscal 1996 new center openings
totaled 37 centers; consisting of 22 KinderCare community centers, six
KinderCare At Work(R) centers and nine Kid's Choice(TM) centers (including the
conversion of one community center to a Kid's Choice(TM)). This total compares
to 45 center openings or acquisitions in fiscal 1995; consisting of 29
KinderCare community centers (including 12 acquired centers of which 10 centers
were acquired in a single transaction), three KinderCare At Work(R) centers and
13 Kid's Choice(TM) centers.
32
Capital expenditures during fiscal 1997 amounted to approximately $43.7
million. Approximately $27.8 million was spent on new center development, $12.1
million was spent in renovations and improvements to existing facilities, $3.0
million was spent on corporate information systems and the remaining $0.8
million was spent on computers for children's educational programs.
Capital expenditures during fiscal 1996 amounted to approximately $67.3
million. Approximately $40.0 million was spent on new center development, $14.9
million was spent in renovations and improvements to existing facilities and the
remaining $12.4 million was spent on equipment purchases, including $0.5 million
on computers for children's educational programs. Capital expenditures during
fiscal 1995 amounted to approximately $74.4 million. During fiscal 1995,
approximately $43.5 million was spent on new center development, $13.5 million
was spent on renovations and improvements to existing facilities and the
remaining $17.4 million was spent on equipment purchases, including $6.8 million
on computers for children's educational programs.
Capital expenditure limits under the Credit Facilities for fiscal years
1997 and 1998 are $95 million and $100 million, respectively. Capital
expenditure limits may be increased by carryover of a portion of unused amounts
from previous periods and are subject to certain exceptions. Also, the Company
is permitted greater flexibility under the provisions of the indenture under
which the Senior Subordinated Notes were issued (the "Indenture") and the Credit
Facilities with respect to the incurrence of additional indebtedness, including
through certain mortgages or sale-leaseback transactions.
Management believes that cash flow generated from operations and future
borrowings under the Revolving Credit Facility will adequately provide for its
working capital and debt service needs and will be sufficient to fund the
Company's expected capital expenditures over the next several years. Although no
assurance can be given that such sources will be sufficient, the capital
expenditure program has substantial flexibility and is subject to revision based
on various factors, including but not limited to, business conditions, changing
time constraints, cash flow requirements, debt covenants, competitive factors
and seasonality of openings. If the Company experiences a lack of working
capital, it may reduce its capital expenditures. In the long term, if these
expenditures were substantially reduced, in management's opinion, its operations
and its cash flow would be adversely impacted.
Recently Issued Accounting Standards
In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 128, Earnings per
Share, which requires companies to present two new measures of earnings per
share, basic and diluted. If SFAS No. 128 had been adopted for all periods
presented, basic and diluted earnings per share would not have materially
differed from reported earnings per share. The Company will adopt SFAS No. 128
in the third quarter of fiscal year 1998 and, at that time, will restate all
prior periods presented.
33
In June 1997, the FASB issued SFAS No. 130, Reporting Comprehensive Income.
SFAS No. 130 establishes requirements for disclosure of comprehensive income.
The new standard becomes effective for the Company's fiscal year 1999 and
requires reclassification of earlier financial statements for comparative
purposes.
In June 1997, the FASB issued SFAS No. 131, Disclosures About Segments of
an Enterprise and Related Information. SFAS No. 131 establishes standards for
disclosure about operating segments in annual financial statements and requires
disclosure of selected information about operating segments in interim financial
reports. It also establishes standards for related disclosures about products
and services, geographic areas and major customers. This statement supercedes
SFAS No. 14, Financial Reporting for Segments of a Business Enterprise. The new
standard becomes effective for the Company's fiscal year 1999 and requires that
comparative information from earlier years be restated to conform to the
requirements of this standard. The Company does not believe any substantial
changes to its disclosures will be made at the time SFAS No. 131 is adopted.
Seasonality
New enrollments are generally highest in September and January, with
attendance declining 5% to 10% during the summer months and the year-end holiday
period. The decreased attendance in the summer months and during the year-end
holiday period may result in decreased liquidity during these periods.
Governmental Law & Regulations
There are certain tax incentives for child care programs. Section 21 of the
Internal Revenue Code of 1986, as amended (the "Code"), provides a federal
income tax credit ranging from 20% to 30% of certain child care expenses for
"qualifying individuals" (as defined therein). The fees paid to the Company for
child care services by eligible taxpayers qualify for the tax credit, subject to
the limitations of Section 21 of the Code. During fiscal 1997, approximately 13%
of the Company's net operating revenues are generated from federal and state
child care assistance programs, primarily the Child Care and Development Block
Grant and At-Risk Programs. These programs are designed to assist low-income
families with child care expenses and are administered through various state
agencies. Although under new legislation, signed by President Clinton in August
1996, additional funding for child care will be available for low income
families as part of welfare reform, no assurance can be given that the Company
will benefit from any such additional funding.
Inflation and Wage Increases
Management does not believe that the effect of inflation on the results of
the Company's operations has been significant in recent periods.
Approximately 55% of operating expenses during fiscal 1997 consisted of
salary, wages and benefits. At May 30, 1997, the Company's average wage rate for
hourly employees was $6.45 per hour, compared to the current federal minimum
wage rate of $4.75 per hour. During 1996, Congress enacted an increase in the
minimum hourly wage from
34
$4.25 to $4.75 effective October 1, 1996, with an additional increase to $5.15
to be effective on September 1, 1997. Management currently believes that the
increase to the $4.75 minimum wage rate, including the effects of wage
compression (commensurate wage increase granted to certain hourly employees
(with two or more years experience at KinderCare at the time of such increase)
earning more than minimum wage), resulted in increased expenses of approximately
$0.3 million in fiscal 1997 and, in fiscal year 1998, will add an additional
$0.2 million in increased expenses. Management currently believes that the
increase to the $5.15 minimum wage rate, including the effects of wage
compression, will result in increased expenses of approximately $0.7 million in
fiscal year 1998.
The Company believes that, through increases in its tuition rates, it can
recover any increase in expenses caused by the 1996 to 1997 wage adjustments and
additional compensation adjustments necessitated by such increases in the
minimum wage rate. However, there can be no assurance that the Company will be
able to increase its rates sufficiently to offset such increased costs. The
Company continually evaluates its wage structure and may implement further
changes in addition to those discussed above.
35
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
KinderCare Learning Centers, Inc. and Subsidiaries
Consolidated Balance Sheets
(Dollars in thousands, except share amounts)
May 30, 1997 May 31, 1996
------------ ------------
Assets:
Current assets:
Cash and cash equivalents $ 24,150 $ 15,597
Receivables 13,649 15,129
Prepaid expenses and supplies 6,114 9,116
Deferred income taxes 14,127 6,664
------------ ------------
Total current assets 58,040 46,506
Property and equipment, net 471,558 468,525
Deferred income taxes 11,621 4,422
Deferred financing costs and other assets 28,659 8,023
------------ ------------
$ 569,878 $ 527,476
============ ============
Liabilities and Shareholders' Equity:
Current liabilities:
Accounts payable $ 10,746 $ 14,330
Bank overdrafts 5,357 9,768
Current portion of long-term debt 1,760 853
Accrued expenses and other liabilities 69,056 56,186
------------ ------------
Total current liabilities 86,919 81,137
Long-term debt 393,129 145,764
Self insurance liabilities 21,880 17,652
Other noncurrent liabilities 40,243 20,488
-------------- ------------
Total liabilities 542,171 265,041
-------------- ------------
Commitments and contingencies (Note 12)
Shareholders' equity:
Preferred stock, $.01 par value; authorized
10,000,000 shares; none outstanding -- --
Common stock, $.01 par value; authorized 40,000,000 shares;
Issued 9,368,421 shares at May 30, 1997 and 19,981,807 shares
at May 31, 1996; outstanding 9,368,421 shares at May 30, 1997
and 19,946,807 shares at May 31, 1996 94 199
Additional paid-in capital -- 200,980
Retained earnings 27,753 61,799
Cumulative translation adjustment (140) (20)
-------------- ------------
27,707 262,958
Treasury stock, at cost; 35,000 shares at May 31, 1996 -- (523)
-------------- ------------
Total shareholders' equity 27,707 262,435
============== ============
$ 569,878 $ 527,476
============== ============
See accompanying notes to consolidated financial statements.
36
KinderCare Learning Centers, Inc. and Subsidiaries
Consolidated Statements of Operations
(Dollars in thousands, except share and per share amounts)
Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
May 30, 1997 May 31, 1996 June 2, 1995
------------ ------------ ------------
Operating revenues, net $ 563,135 $ 541,264 $ 506,505
------------ ------------ ------------
Operating expenses:
Salaries, wages and benefits 300,580 284,115 263,527
Depreciation 34,253 33,972 28,071
Rent 28,140 26,515 26,099
Provision for doubtful accounts 4,697 3,908 3,612
Other 147,811 139,561 135,298
Recapitalization expenses 17,277 -- --
Restructuring and other charges
(income), net 10,275 1,484 (888)
------------ ------------ ------------
Total operating expenses 543,033 489,555 455,719
------------ ------------ ------------
Operating income 20,102 51,709 50,786
Investment income, net 232 250 2,635
Interest expense 22,394 16,727 17,318
------------ ------------ ------------
Income (loss) before income taxes and
extraordinary item (2,060) 35,232 36,103
Income tax expense 3,375 13,549 14,037
------------ ------------ ------------
Income (loss) before extraordinary item (5,435) 21,683 22,066
Extraordinary item - loss on early
retirement of debt, net of
income taxes of $4,815 (7,532) -- --
------------ ------------ ------------
Net income (loss) $ (12,967) $ 21,683 $ 22,066
============ ============ ============
Primary income (loss) per common share:
Income (loss) before extraordinary item $ (0.33) $ 1.10 $ 1.07
Extraordinary item - loss on early
retirement of debt, net of income taxes (0.46) -- --
------------ ------------ ------------
Net income (loss) $ (0.79) $ 1.10 $ 1.07
============ ============ ============
Weighted average common and common
equivalent shares outstanding 16,479,000 19,752,000 20,683,000
============ ============ ============
Fully-diluted income per common share:
Net income $ 1.05
===========
Weighted average common and common
equivalent shares outstanding 20,683,000
===========
See accompanying notes to consolidated financial statements.
37
KinderCare Learning Centers, Inc. and Subsidiaries
Consolidated Statements of Shareholders' Equity
(Dollars in thousands, except share amounts)
Common Stock Additional Cumulative
--------------------------- Paid-in Retained Translation Treasury
Shares Amount Capital Earnings Adjustment Stock Total
------------ ------------ -------------- ------------ ------------ ---------- ------------
Balance at June 3, 1994,
as previously presented 20,009,517 $ 200 $ 188,655 $ 18,050 $ -- $ -- $ 206,905
Prior period adjustment -- -- (3,023) -- -- -- (3,023)
------------ ------------ -------------- ------------ ------------ ---------- ------------
Balance at June 3, 1994,
as restated 20,009,517 200 185,632 18,050 -- -- 203,882
Net income -- -- -- 22,066 -- -- 22,066
Tax benefits of the valuation
allowance for deferred
tax assets -- -- 13,932 -- -- -- 13,932
Cumulative translation
adjustment -- -- -- -- 32 -- 32
Exercise of stock
options and warrants 110,301 1 1,303 -- -- -- 1,304
------------ ------------ -------------- ------------ ------------ ---------- ------------
Balance at June 2, 1995 20,119,818 201 200,867 40,116 32 -- 241,216
Net income -- -- -- 21,683 -- -- 21,683
Tax benefits of the
valuation allowance
for deferred tax assets -- -- 4,121 -- -- -- 4,121
Cumulative translation
adjustment -- -- -- -- (52) -- (52)
Repurchase and retirement
of stock and warrants (969,883) (10) (13,477) -- -- (523) (14,010)
Exercise of stock
options and warrants 831,872 8 8,476 -- -- -- 8,484
Tax benefit of option
exercises -- -- 993 -- -- -- 993
------------ ------------ -------------- ------------ ------------ ---------- ------------
Balance at May 31, 1996 19,981,807 199 200,980 61,799 (20) (523) 262,435
Net loss -- -- -- (12,967) -- -- (12,967)
Cumulative translation
adjustment -- -- -- -- (120) -- (120)
Issuance of common stock 7,986,842 80 151,670 -- -- -- 151,750
Purchase and retirement
of common stock (20,217,416) (201) (361,685) (21,079) -- 523 (382,442)
Purchase of outstanding -- -- (11,143) -- -- -- (11,143)
warrants
Exercise of stock
options and warrants 1,617,188 16 19,735 -- -- -- 19,751
Tax benefit of
option exercises -- -- 443 -- -- -- 443
------------ ------------ -------------- ------------ ------------ ---------- ------------
Balance at May 30, 1997 9,368,421 $ 94 $ -- $ 27,753 $ (140) $ -- $ 27,707
============ ============ ============== ============ ============ ========== ============
See accompanying notes to consolidated financial statements.
38
KinderCare Learning Centers, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Dollars in thousands)
Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
May 30, 1997 May 31, 1996 June 2, 1995
-------------- -------------- ---------------
Cash flows from operations:
Net income (loss) $ (12,967) $ 21,683 $ 22,066
Adjustments to reconcile net income (loss) to net
cash provided by operating activities:
Depreciation 34,253 33,972 28,071
Write-down of property and equipment 6,300 5,312 --
Amortization of deferred financing costs and
intangibles 1,822 1,533 1,681
Gain on sales and disposals of property and
equipment, net (12) (1,684) --
Deferred tax expense 1,982 12,285 9,862
Extraordinary item - loss on early retirement of 7,532 -- --
debt, net of income taxes
Changes in operating assets and liabilities:
Decrease (increase) in receivables 1,616 (2,473) 4,440
Decrease (increase) in prepaid expenses 3,002 (1,354) 2,900
and supplies
Decrease (increase) in other assets 2,604 116 (978)
Increase in accounts payable, accrued expenses
and other liabilities 4,418 7,735 7,813
Other, net (313) (1,228) (2,892)
-------------- -------------- ---------------
Net cash provided by operating activities 50,237 75,897 72,963
-------------- -------------- ---------------
Cash flows from investing activities:
Purchases of property and equipment (43,748) (67,304) (74,376)
Proceeds from sales of property and equipment 12,438 3,883 12,454
Proceeds from sales or redemption of
investments -- 3,396 2,211
Proceeds from collection of notes receivable
and other 396 2,042 82
-------------- -------------- ---------------
Net cash used by investing activities (30,914) (57,983) (59,629)
-------------- -------------- ---------------
Cash flows from financing activities:
Proceeds from long-term borrowings 350,000 -- --
Deferred financing costs (27,160) -- --
Proceeds from issuance of common stock 151,750 -- --
Exercise of stock options and warrants 20,194 8,484 1,303
Purchase and retirement of common stock (382,442) -- --
Payments on long-term borrowings (107,558) (13,777) (18,298)
Purchases of treasury stock and warrants (11,143) (14,010) --
Bank overdrafts (4,411) 2,753 5,931
-------------- -------------- ---------------
Net cash used by financing activities (10,770) (16,550) (11,064)
-------------- -------------- ---------------
Increase in cash and cash equivalents 8,553 1,364 2,270
Cash and cash equivalents at the beginning
of the fiscal year 15,597 14,233 11,963
-------------- -------------- ---------------
Cash and cash equivalents at the end of the
fiscal year $ 24,150 $ 15,597 $ 14,233
============== ============== ===============
Supplemental cash flow information:
Interest paid $ 14,325 $ 8,944 $ 14,850
Income taxes paid, net of refunds received 3,160 3,795 2,551
See accompanying notes to consolidated financial statements.
39
KinderCare Learning Centers, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
1. Summary of Significant Accounting Policies
Nature of Business and Basis of Presentation
KinderCare Learning Centers, Inc. ("KinderCare" or the "Company") is the
largest provider of for-profit preschool educational and child care services in
the United States. At the end of fiscal 1997, KinderCare operated 1,142 centers
in 38 states in the United States and two centers are located in the United
Kingdom. The consolidated financial statements include the financial statements
of the Company and its wholly owned subsidiaries: Mini-Skools Limited;
KinderCare Development Corporation; KinderCare Real Estate; KinderCare Learning
Centres, Limited and KinderCare Properties, Limited. All significant
intercompany balances and transactions have been eliminated in consolidation.
Fiscal Year
The Company's fiscal year ends on the Friday closest to May 31. The first
quarter is 16 weeks long and the second, third and fourth quarters are each
twelve weeks long. The fiscal years ended May 30, 1997 ("fiscal 1997"), May 31,
1996 ("fiscal 1996") and June 2, 1995 ("fiscal 1995") were 52-week fiscal years.
Revenue Recognition
The Company recognizes revenue for child care services as earned.
Cash and Cash Equivalents
Cash and cash equivalents consist of cash held in banks and liquid
investments with original maturities not exceeding 90 days.
Property and Equipment
Property and equipment are stated at cost. Depreciation on buildings and
equipment is provided on the straight-line basis over the estimated useful lives
of the assets. Leasehold improvements are amortized over the shorter of the
estimated useful life of the improvements or the lease term, including expected
lease renewal options where the Company has the unqualified right to exercise
the option.
The Company's property and equipment is depreciated using the following
estimated useful lives:
Life
-----------
Buildings 10-40 years
Building renovations 5-10 years
Leasehold improvements 5-10 years
Computer equipment 3 years
All other equipment 5-10 years
40
Asset Impairments
Effective June 3, 1995, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 121, Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of. This statement
requires that long-lived assets and certain identifiable intangibles to be held
and used by an entity be reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. The Company has evaluated all its assets based upon SFAS No. 121
and has recorded all material adjustments as required.
Deferred Financing Costs
Deferred financing costs are amortized on a straight-line basis over the
lives of the related debt facilities.
Pre-Opening Costs
Pre-opening costs include training salaries, grand opening and promotion
expenses and the initial purchase of forms and supplies needed to operate the
center. During fiscal 1997, the Company changed its method of accounting for
pre-opening costs to the direct write-off method, resulting in expense of
approximately $0.7 million (see Note 3). Prior to fiscal 1997, pre-opening costs
were deferred and amortized over one year.
Self-Insurance Programs
The Company is self-insured for certain levels of general liability,
workers' compensation, property and employee medical coverage. Estimated costs
of these self-insurance programs are accrued at the undiscounted value of
projected settlements for known and anticipated claims.
Income Taxes
Income taxes are accounted for under the provisions of SFAS No. 109,
Accounting for Income Taxes.
Stock-Based Compensation
The Company adopted SFAS No. 123, Accounting for Stock-Based Compensation,
effective June 1, 1996. The Company will continue to measure compensation
expense for its stock-based employee compensation plans using the method
prescribed by APB Opinion No. 25, Accounting for Stock Issued to Employees, and
will, if material, provide pro forma disclosures of net income and earnings per
share as if the method prescribed by SFAS No. 123 had been applied in measuring
compensation expense.
Net Income (Loss) Per Share
Net income (loss) per share is computed on the basis of the weighted
average number of common and common equivalent shares outstanding. Outstanding
options for common stock, if
41
dilutive to earnings per share, have been included in the calculation of common
and common equivalent shares outstanding using the treasury stock method.
Recently Issued Accounting Pronouncements
In February 1997, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 128, Earnings per Share, which requires companies to present two new
measures of earnings per share, basic and diluted. If SFAS No. 128 had been
adopted for all periods presented, basic and diluted earnings per share would
not have materially differed from reported earnings per share. The Company will
adopt SFAS No. 128 in the third quarter of fiscal year 1998 and, at that time,
will restate all prior periods presented.
In June 1997, the FASB issued SFAS No. 130, Reporting Comprehensive Income.
SFAS No. 130 establishes requirements for disclosure of comprehensive income.
The new standard becomes effective for the Company's fiscal year 1999 and
requires reclassification of earlier financial statements for comparative
purposes.
In June 1997, the FASB issued SFAS No. 131, Disclosures About Segments of
an Enterprise and Related Information. SFAS No. 131 establishes standards for
disclosure about operating segments in annual financial statements and requires
disclosure of selected information about operating segments in interim financial
reports. It also establishes standards for related disclosures about products
and services, geographic areas and major customers. This statement supercedes
SFAS No. 14, Financial Reporting for Segments of a Business Enterprise. The new
standard becomes effective for the Company's fiscal year 1999 and requires that
comparative information from earlier years be restated to conform to the
requirements of this standard. The Company does not believe any substantial
changes to its disclosures will be made at the time SFAS No. 131 is adopted.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the 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.
Reclassifications
Certain prior period amounts have been reclassified to conform to the
current year's presentation.
2. Recapitalization
On October 3, 1996, the Company and KCLC Acquisition Corp. ("KCLC") entered
into an Agreement and Plan of Merger (the "Merger Agreement"). KCLC was a wholly
owned subsidiary of KLC Associates, L.P. (the "Partnership"), a partnership
formed at the direction of Kohlberg Kravis Roberts & Co., a private investment
firm ("KKR"). Pursuant to the Merger Agreement, on February 13, 1997, KCLC was
merged with and into the Company (the
42
"Merger"), with the Company continuing as the surviving corporation. Upon
completion of the Merger, affiliates of KKR owned 7,828,947 shares, or
approximately 83.6% of the Company's common stock outstanding after the Merger.
Subject to certain provisions of the Merger Agreement, each issued and
outstanding share of common stock was converted, at the election of the holder,
into either the right to receive $19.00 in cash or the right to retain one share
of common stock, subject to proration.
In connection with the Merger, the Company repaid the outstanding $91.6
million balance on the Company's previous $150.0 million credit facility and
paid $382.4 million to redeem common stock, warrants and options. In order to
fund the transactions contemplated by the Merger (the "Recapitalization"), the
Company issued $300.0 million 9 1/2% senior subordinated notes, executed a
revolving credit facility of $300.0 million, executed a term loan facility of
$90.0 million, against which $50.0 million was immediately drawn, and issued
7,828,947 shares of common stock to KKR affiliates for $148.8 million.
During fiscal 1997, non-recurring costs in connection with the
Recapitalization of approximately $17.3 million were incurred and expensed.
Additionally, financing costs of approximately $27.2 million have been deferred
and classified as other assets and will be amortized over the lives of the new
debt facilities (see Note 8).
3. Restructuring and Other Charges (Income), Net
During the fourth quarter of fiscal 1997, the Company decided to relocate
its corporate offices from Montgomery, Alabama to Portland, Oregon in fiscal
year 1998. In connection with the relocation, the Company recognized $3.4
million in restructuring costs, primarily severance related, and recorded a $5.0
million charge to write-down its Montgomery, Alabama headquarters facility to
net realizable value. During fiscal 1997, $0.2 million was paid in relation to
the relocation. The Company anticipates incurring an additional $5.8 million in
restructuring charges related to the relocation in fiscal year 1998.
Additionally, the Company recorded impairment losses of $1.9 million comprised
of $1.3 million with respect to a certain long-lived assets and $0.6 million
related to Kids Choice(TM) anticipated lease termination costs. The Company also
recorded charges of approximately $1.5 million to write-off marketing materials
and deferred pre-opening costs on new centers. Finally, in the second quarter of
fiscal 1997, the Company received a $1.5 million interest payment from Enstar
Group, Inc. ("Enstar"), the Company's former parent, in connection with a
settlement of the Company's claim against Enstar in the U.S. Bankruptcy Court in
Montgomery, Alabama.
During the first quarter of fiscal 1996, the Company received a cash
distribution of $11.3 million from Enstar in connection with the Company's claim
against Enstar referred to above, the Company limited the development of its
Kid's Choice(TM) centers to contracts in process until the concept is more fully
developed and recorded an impairment loss of $6.3 million, consisting of a
writedown of $5.3 million for the recoverability of certain long lived assets,
primarily leasehold improvements (which were valued based on anticipated
discounted cash flows), and $1.0 million for anticipated lease termination
costs. Additionally, during fiscal 1996, the Company made substantial changes to
its field operations and facilities management and to its support functions. As
a result of these changes, the Company provided $6.5 million for restructuring
costs, primarily to cover severance arrangements for the approximately 100
positions which were eliminated. Currently, the Company is in the process of
evaluating these
43
operational changes and certain other support functions and systems in an effort
to improve the quality of services and future operating effectiveness and
efficiency.
In the third quarter of 1995, the Company received approximately $0.9
million in connection with litigation settlements with Enstar and KinderCare's
former Chairman of the Board.
4. Receivables
Receivables consist of the following (dollars in thousands):
May 30, 1997 May 31, 1996
----------------- -----------------
Tuition $15,383 $16,450
Allowance for doubtful accounts (2,133) (1,884)
----------------- -----------------
13,250 14,566
Other 399 563
----------------- -----------------
$13,649 $15,129
================= =================
5. Prepaid Expenses and Supplies
Prepaid expenses and supplies consist of the following (dollars in
thousands):
May 30, 1997 May 31, 1996
----------------- -----------------
Prepaid rent $ 3,233 $ 3,676
Inventories 1,862 2,491
Other 1,019 2,949
----------------- -----------------
$ 6,114 $ 9,116
================= =================
6. Property and Equipment
Property and equipment, at cost, consist of the following (dollars in
thousands):
May 30, 1997 May 31, 1996
----------------- -----------------
Land $ 139,481 $ 142,856
Buildings and leasehold improvements 337,010 305,292
Equipment 91,354 82,594
Construction in progress 7,947 16,825
----------------- ----------------
575,792 547,567
Accumulated depreciation and amortization (104,234) (79,042)
----------------- ----------------
$ 471,558 $ 468,525
================= ================
44
7. Accrued Expenses and Other Liabilities
Accrued expenses and other liabilities consist of the following (dollars in
thousands):
May 30, 1997 May 31, 1996
-------------- --------------
Accrued compensation and related taxes $ 22,481 $ 22,305
Accrued interest 8,902 5,585
Deferred revenue 8,704 6,451
Accrued property taxes 6,622 5,633
Accrued restructuring and lease termination 7,320 3,091
Self insurance 5,707 6,707
Accrued income taxes 3,136 2,402
Other 6,184 4,012
-------------- --------------
$ 69,056 $ 56,186
============== =============
8. Long-Term Debt
Long-term debt consists of the following (dollars in thousands):
May 30, 1997 May 31, 1996
----------------- -----------------
Secured:
Borrowings under term loan facility, interest at adjusted LIBOR
plus 3.00% (8.69% at May 30, 1997) $ 50,000 $ --
Industrial refunding revenue bonds at variable rates of interest
from 4.15% to 5.79% at May 30, 1997 and 3.85% to 5.57% at
May 30, 1996; supported by letters of credit, maturing 33,025 33,025
1999 to 2009
Real and personal property mortgages payable in monthly
installments through 2004, interest rates of 8.75% to 12.25% 6,161 7,854
Industrial revenue bonds secured by real property with maturities
to 2005 at interest rates of 4.20% to 12.75% 5,492 5,738
Unsecured:
Senior subordinated notes due 2009, interest at 9-1/2%,
payable semi-annually 300,000 --
Senior subordinated notes due 2001, interest at 10-3/8%,
payable semi-annually 211 100,000
------------- -------------
394,889 146,617
Less current portion of long-term debt 1,760 853
------------- -------------
$ 393,129 $ 145,764
============= =============
Credit Facilities
The Company has credit facilities which are provided by a syndicate of
financial institutions and include a Term Loan Facility of up to $90.0 million
and a Revolving Credit Facility of $300.0 million (the "Credit Facilities"). The
Company must pay an annual commitment fee equal to 1/2 of 1% per annum of the
undrawn portion of the commitments in respect of the Credit Facilities, subject
to reduction under a performance-based pricing grid, and a letter of credit fee
based on the aggregate face value of the outstanding letters of credit under the
Revolving Credit Facility.
The Term Loan Facility will mature on February 13, 2006 and provides for
$0.5 million annual interim amortization. The initial interest rate, at the
option of the Company, is adjusted LIBOR (as defined) plus 3.00% or ABR (as
defined) plus 1.75%, subject to reduction under a
45
performance-based pricing grid. The Company drew $50.0 million under the Term
Loan Facility and the availability of the remaining $40.0 million expired on
August 13, 1997. The Term Loan Facility is subject to mandatory prepayment from
(i) 100% of the net cash proceeds on the sale of certain non-ordinary-course
assets, (ii) 100% of the net cash proceeds from certain sale/leaseback
transactions, (iii) 50% of excess cash flow (as defined) and (iv) 100% of the
net proceeds from the issuance of certain debt obligations.
The Revolving Credit Facility commitment will mature February 13, 2004. The
initial interest rate, at the option of the Company, is adjusted LIBOR plus 2.5%
or ABR plus 1.25%, subject to reduction under a performance-based pricing grid.
At May 30, 1997, of the $300.0 million available under the Revolving Credit
Facility, the Company had approximately $42.2 million utilized by outstanding
letters of credit.
The Company's obligations under the Credit Facilities are secured by a
perfected first priority pledge of and security interest in the common stock of
each existing and subsequently acquired direct domestic subsidiary of the
Company and 65% of the common stock of each existing and subsequently acquired
direct foreign subsidiary and, in certain circumstances, non-cash consideration
received for certain sales of assets.
The Credit Facilities contain customary covenants and restrictions on the
Company's ability to engage in certain activities and include customary events
of default. In addition, the Credit Facilities provide that the Company must
meet or exceed defined interest coverage ratios and must not exceed defined
leverage ratios. The Company was in compliance with such covenants at May 30,
1997.
Industrial Revenue Bonds
Series A Through E Industrial Revenue Bonds - The Company is obligated to
various issuers of industrial revenue bonds (the "Refunded IRBs") in an amount
totaling approximately $33.0 million outstanding at May 30, 1997 and May 31,
1996. The Refunded IRBs were issued to provide funds for refunding an equal
principal amount of industrial revenue bonds which were used to finance the cost
of acquiring, constructing and equipping certain facilities of the Company. The
Refunded IRBs bear interest at variable rates from 4.15% to 5.79% and each is
secured by a letter of credit under the Revolving Credit Facility.
Other IRBs - The Company also is obligated to various issuers of other
industrial revenue bonds (the "IRBs") in the aggregate principal amount of
approximately $5.5 million and $5.7 million at May 30, 1997 and May 31, 1996,
respectively. The principal amount of such IRBs was used to finance the cost of
acquiring, constructing and equipping certain child care facilities and the IRBs
are secured by these facilities. The IRBs bear interest at rates of 4.20% to
12.75%.
Senior Subordinated Notes
In fiscal 1997, the Company issued $300.0 million in unsecured senior
subordinated notes due February 15, 2009 (the "9-1/2% Senior Subordinated
Notes") under an indenture (the "Indenture") between the Company and Marine
Midland Bank, as trustee. The 9-1/2% Senior Subordinated Notes bear interest at
the fixed rate of 9-1/2% per annum, payable semi-annually
46
on February 15 and August 15 of each year, and are effectively subordinated to
the secured indebtedness of the Company, including indebtedness under the Credit
Facilities.
The 9-1/2% Senior Subordinated Notes are callable by the Company at
104.750% of par from February 15, 2002 through February 15, 2003. The redemption
price is reduced to 103.167% of par on February 15, 2003, to 101.583% of par on
February 15, 2004 and on February 15, 2005, until maturity, the notes may be
redeemed at par. Upon a change of control, as defined in the Indenture, each
holder of the 9-1/2% Senior Subordinated Notes may require the Company to
repurchase all or a portion of such holder's notes for a cash purchase price
equal to 101% of par, together with accrued and unpaid interest to the date of
repurchase.
The 9-1/2% Senior Subordinated Notes contain a number of covenants similar
to those of the Credit Facilities and include certain limitations with respect
to payment of dividends, incurrence of additional indebtedness, creation of
liens, asset or subsidiary sales, transactions with affiliates, investments and
guarantees, all of which are described in the Indenture.
In fiscal 1994, the Company issued $100.0 million in unsecured senior
subordinated notes due June 1, 2001, which bear interest at a fixed rate of
10-3/8% per annum, payable semi-annually on December 1 and June 1 of each year
("the 10-3/8% Senior Subordinated Notes"). The 10-3/8% Senior Subordinated Notes
were issued under an indenture between the Company and AmSouth Bank N.A. as
trustee (the "AmSouth Indenture") and are effectively subordinated to the
secured indebtedness of the Company, including indebtedness under the Credit
Facilities.
The 10-3/8% Senior Subordinated Notes are callable by the Company at
105.1875% of par from June 1, 1998 through June 1, 1999. On June 1, 1999, the
redemption price is reduced to 102.5940% of par, and on June 1, 2000, until
maturity, the notes may be redeemed at par. Upon a change of control, as defined
in the AmSouth Indenture, each holder of the 10-3/8% Senior Subordinated Notes
may require the Company to repurchase all or a portion of such holder's notes at
a purchase price in cash equal to 101% of par, together with accrued and unpaid
interest to the date of repurchase. In a series of transactions preceding and in
contemplation of the Merger, the Company retired 99.7% of the 10-3/8% Senior
Subordinated Notes.
Principal Payments
The aggregate minimum annual maturities of long-term debt for the five
fiscal years subsequent to May 30, 1997 are as follows (dollars in thousands):
Fiscal Year:
1998 $ 1,760
1999 1,853
2000 11,646
2001 14,786
2002 822
Thereafter 364,022
----------------
Total $394,889
================
47
9. Income Taxes
The provision (benefit) for income taxes attributable to income (loss)
before income taxes and extraordinary items consists of the following (dollars
in thousands):
Fiscal Years Ended
-----------------------------------------------------
May 30, 1997 May 31, 1996 June 2, 1995
--------------- ---------------- ----------------
Current:
Federal $ 3,980 $ 832 $ 2,909
State 815 (132) 662
Foreign 562 564 604
--------------- ---------------- ----------------
5,357 1,264 4,175
--------------- ---------------- ----------------
Deferred:
Federal (1,390) 10,292 8,293
State (530) 2,137 1,859
Foreign (62) (144) (290)
--------------- ---------------- ----------------
(1,982) 12,285 9,862
--------------- ---------------- ----------------
$ 3,375 $ 13,549 $ 14,037
=============== ================ ================
A reconciliation between the statutory federal income tax rate and the
effective income tax rates on income (loss) before income taxes and
extraordinary items is as follows:
Fiscal Years Ended
---------------------------------------------------
May 30, 1997 May 31, 1996 June 2, 1995
--------------- --------------- ---------------
Expected tax provision (benefit) on income
(loss) before income taxes and
extraordinary item at federal rate - 35% $ (721) $12,334 $12,636
State income taxes, net of federal tax (235) (1,303) 1,639
benefit
Non-deductible recapitalization 4,594 -- --
expenses
Tax credits (620) (465) (508)
Other, net 357 377 270
--------------- --------------- ---------------
$3,375 $13,549 $14,037
=============== =============== ===============
48
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities at May 30, 1997
and May 31, 1996 are summarized as follows (dollars in thousands):
May 30, 1997 May 31, 1996
----------------- ----------------
Deferred tax assets:
Self-insurance reserves $ 11,282 $ 9,099
Net operating loss carryforwards 4,760 7,895
Capital loss carryforwards 4,818 4,818
Tax credits 6,547 3,172
Property and equipment, basis differences 1,355 2,458
Other 13,058 8,098
----------------- ----------------
Total gross deferred tax assets 41,820 35,540
Less valuation allowance (7,050) (10,310)
----------------- ----------------
Net deferred tax assets 34,770 25,230
----------------- ----------------
Deferred tax liabilities:
Property and equipment, basis differences of
foreign subsidiary (8,944) (9,088)
Stock basis of foreign subsidiary (3,622) (3,622)
Other (2,056) (1,434)
----------------- ----------------
Total gross deferred tax liabilities (14,622) (14,144)
================= ================
Financial statement net deferred tax assets $ 20,148 $ 11,086
================= ================
The valuation allowance decreased by $3.3 million during fiscal 1997.
Deferred tax assets have been recognized to the extent of existing deferred tax
liabilities and income taxes paid that are subject to recovery through
carryback. Future recognized tax benefits relating to the valuation allowance of
$7.1 million, which was created in fiscal year 1993, will be recorded as direct
additions to additional paid-in capital.
At May 30, 1997, the Company had $12.1 million of net operating losses
available for carryforward which expire in 2008. Utilization of the net
operating losses is subject to an annual limitation of $9.6 million. The Company
also has capital losses of $8.7 million, which are available to offset future
capital gains, and expire in varying amounts through 2000. Additionally, the
Company has tax credits available for carryforward for federal income tax
purposes of $6.5 million, which are available to offset future federal income
taxes through 2010.
10. Employee Benefit Plans
Stock Option Plans
During 1993, the Company adopted the KinderCare Learning Centers, Inc. 1993
Stock Option and Incentive Plan (the "1993 Plan"). Prior to the Merger, this
plan authorized a committee of the Board of Directors of the Company to grant or
award to eligible employees of the Company and its subsidiaries and affiliates,
stock options and restricted stock and related warrants of the Company beginning
on March 31, 1993. In connection with the 1993 Plan, the Company reserved
approximately 1.9 million shares of common stock for issuance to employees of
the Company upon exercise of options available for grants made by the Board of
Directors of the Company.
At the effective time of the Merger, all stock options granted by the
Company under the 1993 Plan were cancelled and each option was exchanged for a
payment from the Company
49
after the Merger (subject to any applicable withholding taxes) equal to the
product of (i) the total number of shares of common stock previously subject to
such stock option and (ii) the excess of $19.00 over the exercise price per
share of the common stock previously subject to such stock option. The
cancellation of the stock options resulted in payments of approximately $3.8
million. The 1993 Plan was terminated at the effective time of the Merger.
During the fiscal year ended May 30, 1997, the Company adopted the 1997
Stock Purchase and Option Plan for Key Employees of KinderCare Learning Centers,
Inc. and Subsidiaries (the "1997 Plan"), subject to stockholder approval. The
1997 Plan authorizes grants of stock or stock options covering 2,500,000 shares
of the Company's common stock. Grants or awards under the 1997 Plan may take the
form of purchased stock, restricted stock, incentive or nonqualified stock
options or other types of rights specified in the 1997 Plan. During fiscal 1997,
the Board of Directors granted 421,053 stock options under the 1997 Plan, all of
which were nonqualified options. Each of such options had a weighted average
fair value, calculated using the Black Scholes option pricing model, of
approximately $8.35 on the date of grant. All of the stock options granted vest
20% per year over a five-year period. No other options were outstanding at May
30, 1997.
Grants or awards under the 1997 Plan are made at prices determined by the
Board of Directors. All options granted under the 1997 Plan during the fiscal
year ended May 30, 1997 have an exercise price of $19.00 per share.
A summary of options outstanding is as follows:
Weighted
Number of Average
Shares Exercise Price
------------- ----------------
Outstanding June 3, 1994 1,295,008 $ 9.74
Granted 196,500 12.66
Exercised (108,110) 10.02
Canceled (75,760) 10.57
-------------- ----------------
Outstanding June 2, 1995 1,307,638 10.11
Granted 256,700 13.03
Exercised (746,560) 9.60
Canceled (73,640) 11.62
-------------- ----------------
Outstanding May 31, 1996 744,138
11.48
Granted 460,053 18.60
Exercised (596,058) 11.70
Canceled (187,080) 11.36
-------------- ----------------
Outstanding May 30, 1997 421,053 $ 19.00
============== ================
Options outstanding at May 30, 1997 have a remaining contractual life of
9.7 years. No options were exercisable at May 30, 1997.
As discussed in Note 1, the Company has adopted the disclosure-only
provisions of SFAS No. 123. Accordingly, no compensation cost has been
recognized for stock options granted with an exercise price equal to the fair
value of the underlying stock on the date of grant. Had compensation cost for
the Company's stock option plans been determined based on
50
the estimated fair value of the options at the date of grant, the Company's net
income (loss) and net income (loss) per share for the years ended May 30, 1997
and May 31, 1996 would not have materially differed from the amounts reported.
Savings and Investment Plan
The Board of Directors of the Company adopted the KinderCare Learning
Centers, Inc. Savings and Investment Plan (the "Savings Plan") effective January
1, 1990. All full-time employees of the Company and its subsidiaries are
eligible to participate in the Savings Plan upon completion of one year of
service and the attainment of age 18. Participants may contribute, in increments
of 1% up to 10% of their compensation to the Savings Plan. In accordance with
the provisions of the Savings Plan, the Board of Directors has elected, since
April 1, 1991, not to match employee contributions.
Nonqualified Deferred Compensation Plan
The Board of Directors of the Company adopted the KinderCare Learning
Centers, Inc. Nonqualified Deferred Compensation Plan (the "DC Plan") effective
August 1, 1996. Under the DC Plan, certain highly compensated or key management
employees are provided the opportunity to defer receipt and income taxation of
such employees' compensation.
11. Disclosures About Fair Value of Financial Instruments
Fair value estimates, methods and assumptions are set forth below for the
Company's financial instruments at May 30, 1997 and May 31, 1996.
Cash and cash equivalents, receivables and current liabilities
Fair value approximates cost as reflected in the consolidated balance
sheets at May 30, 1997 and May 31, 1996 because of the short-term maturity of
these instruments.
Long-term debt
The carrying value for the Company's 9-1/2% Senior Subordinated Notes, at
May 30, 1997, approximated fair value due to the recent Merger and refinancing.
The carrying value of the 10-3/8% Senior Subordinated Notes, at May 30, 1997,
approximated fair value based on current market activity, while the fair value,
at May 31, 1996, approximated the carrying value based on market activity. The
carrying values for the Company's remaining long-term debt of $94.7 million and
$46.6 million at May 30, 1997, and May 31, 1996, respectively, approximated
market value based on current rates that management believes could be obtained
for similar debt.
12. Commitments and Contingencies
The Company conducts a portion of its operations from leased or subleased
day care centers. Additionally, the Company leases its fleet of vehicles. Each
vehicle in the Company's fleet is leased pursuant to the terms of a 12-month
non-cancelable master lease which may be renewed on a month-to-month basis after
the initial 12 month lease period. Payments under the
51
vehicle leases vary with the number of vehicles leased and changes in interest
rates. The vehicle leases require that the Company guarantee specified residual
values upon cancellation. In most cases, management expects that substantially
all of the leases will be renewed or replaced by other leases as part of the
normal course of business. All such leases are classified as operating leases.
Subsequent to January 1, 1993, the Company re-negotiated certain day care
center leases to amend the terms to allow the Company the right to terminate the
lease at any time with minimal notice. In connection with the termination
option, the Company, in certain instances, prepaid up to 12 months rent. Such
amounts, totaling approximately $3.2 million, will be amortized over the
termination transition period or over the appropriate remaining months of the
lease period. At May 30, 1997, the remaining unamortized balance of the prepaid
amount was $2.3 million. In addition, several leases were re-negotiated to
decrease the monthly fixed rental payments.
At May 30, 1997, the Company had a Revolving Credit Facility of $300.0
million, of which $42.2 million was utilized by outstanding letters of credit.
Following is a schedule of future minimum lease payments under operating
leases, that have initial or remaining non-cancelable lease terms in excess of
one year at May 30, 1997 (dollars in thousands):
Fiscal Year:
1998 $ 17,631
1999 17,227
2000 15,255
2001 13,029
2002 11,235
Subsequent years 61,891
Expenses incurred in connection with the fleet vehicle leases were $10.1
million, $10.3 million and $10.1 million for fiscal 1997, fiscal 1996 and fiscal
1995, respectively.
The Company is presently, and is from time to time, subject to claims and
suits arising in the ordinary course of business, including suits alleging child
abuse. In certain of such actions, plaintiffs request damages that are covered
by insurance. The Company believes that none of the claims or suits of which it
is aware will materially affect its financial position, operating results or
cash flows, although absolute assurance cannot be given with respect to the
ultimate outcome of any such actions.
13. Stock Repurchase Programs
On February 15, 1995 the Board of Directors of KinderCare authorized the
repurchase of up to $10 million of the Company's common stock. This repurchase
was completed and all shares retired during the second quarter of fiscal 1996.
On May 2, 1996, the Board of Directors authorized an additional repurchase of
$10 million and increased it to $23.0 million on June 3, 1996. At May 31, 1996,
under the second stock buyback program, 259,000 shares and 120,000 warrants had
been repurchased for $4.2 million. At July 27, 1996, under the second stock
buyback program, 1,111,500 shares and 435,000 warrants had been repurchased for
$18.3 million. All shares repurchased were retired. Other than in connection
with the Merger, no
52
additional shares or warrants were repurchased subsequent to July 27, 1996 and
the stock buyback programs were terminated at the effective time of the Merger.
14. Extraordinary Losses
During the first and second quarters of fiscal 1997, the Company purchased
99.7% of its 10-3/8% Senior Subordinated Notes for an aggregate price of $108.3
million. This transaction included the write off of deferred financing costs of
$1.7 million and resulted in an extraordinary loss of $6.4 million, net of
income taxes.
During the third quarter of fiscal 1997, in connection with the Merger and
retirement of existing debt, an extraordinary loss of $1.1 million, net of
income taxes, was recognized for the write-off of deferred financing costs
relating to the Company's previous credit facility.
15. Prior Period Adjustment
At the Company's emergence from bankruptcy in 1993, the Company did not
record a liability for accrued but untaken employee vacation. Accordingly, the
accompanying financial statements for periods prior to June 1, 1996 have been
restated. The net effect of the restatement on the accompanying financial
statements was to decrease additional paid-in capital as of June 3, 1994 by $3.0
million reflecting the vacation accrual of $5.0 million net of the deferred tax
effect of $2.0 million. The effect of the restatement is not material to the
results of operations.
53
16. Quarterly Results (Unaudited)
A summary of results of operations for fiscal 1997 and fiscal 1996 is as
follows (dollars in thousands, except per share data):
First Second Third Fourth
Quarter (a) Quarter (b) Quarter (b) Quarter(b)
--------------- -------------- -------------- --------------
Fiscal year ended May 30, 1997:
Operating revenues $ 171,427 $ 128,324 $ 126,657 $ 136,727
Operating income (loss) 9,751 14,366 (3,074) (941)
Income (loss) before extraordinary
items 2,978 6,820 (10,455) (4,778)
Income (loss) before extraordinary
items per share 0.15 0.33 (0.61) (0.51)
Net income (loss) 1,749 1,569 (11,507) (4,778)
Net income (loss) per share 0.09 0.08 (0.67) (0.51)
Fiscal year ended May 31, 1996:
Operating revenues $ 161,313 $ 124,079 $ 123,641 $ 132,231
Operating income 11,141 11,222 13,514 15,832
Net income 3,565 4,551 5,868 7,699
Net income per share (primary) 0.17 0.23 0.30 0.39
Net income per share (fully-diluted) N/A N/A N/A 0.37
N/A - Not applicable
(a) Sixteen week quarter
(b) Twelve week quarters
The computation of fully-diluted earnings per share is based on the higher
of the average or year-end market price of the Company's common stock.
54
Independent Auditors' Report
The Board of Directors and Shareholders
KinderCare Learning Centers, Inc.:
We have audited the consolidated balance sheet of KinderCare Learning Centers,
Inc. and subsidiaries as of May 30, 1997, and the related consolidated
statements of operations, shareholders' equity, and cash flows for the year then
ended. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of KinderCare Learning
Centers, Inc. and subsidiaries as of May 30, 1997, and the results of their
operations and their cash flows for the year then ended, in conformity with
generally accepted accounting principles.
/s/ DELOITTE & TOUCHE LLP
Portland, Oregon
August 15, 1997
55
Independent Auditors' Report
The Board of Directors and Shareholders
KinderCare Learning Centers, Inc.:
We have audited the accompanying consolidated balance sheet of KinderCare
Learning Centers, Inc. and subsidiaries as of May 31, 1996 and the related
consolidated statements of operations, shareholders' equity, and cash flows for
the years ended May 31, 1996 and June 2, 1995. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of KinderCare Learning
Centers, Inc. and subsidiaries as of May 31, 1996, and the results of their
operations and their cash flows for the years ended May 31, 1996 and June 2,
1995, in conformity with generally accepted accounting principles.
/s/ KPMG PEAT MARWICK LLP
Atlanta, Georgia
August 9, 1996
56
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
On April 14, 1997, the Company engaged Deloitte & Touche LLP as independent
accountants to audit the Company's financial statements for the fiscal year
ending May 30, 1997 and elected not to renew the engagement of the Company's
previous accountants, KPMG Peat Marwick LLP. The decision was approved by the
Company's Board of Directors.
In connection with the audits of the fiscal years ended May 31, 1996 and
June 2, 1995, and for all subsequent periods through April 14, 1997, there were
no disagreements with KPMG Peat Marwick LLP on any matter of accounting
principles or practices, financial statement disclosure, or auditing scope or
procedures, which disagreements if not resolved to their satisfaction would have
caused them to make reference in connection with their opinion to the subject
matter of the disagreement. No adverse opinions or disclaimers of opinions were
given by KPMG Peat Marwick LLP during the fiscal years ended May 31, 1996 and
June 2, 1995, and for all subsequent periods through April 14, 1997, nor were
any of their opinions qualified or modified as to uncertainty, audit scope, or
accounting principle during the time KPMG Peat Marwick LLP was engaged.
The Company requested that KPMG Peat Marwick LLP furnish it with a letter
addressed to the SEC stating whether or not it agreed with the above statements.
A copy of such letter, dated April 17, 1997, was filed as Exhibit 16 to the
above referenced filing on Form 8-K.
57
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The Company hereby incorporates by reference the information contained
under the headings "Certain Information Concerning Nominees and Directors,"
"Meetings of the Board of Directors and Committees" and "Beneficial Ownership
Reporting--Section 16(a) Compliance" from its definitive proxy statement to be
delivered to the shareholders of the Company in connection with the 1997 annual
meeting of shareholders to be held on November 11, 1997.
ITEM 11. EXECUTIVE COMPENSATION
The Company hereby incorporates by reference the information contained
under the heading "Executive Compensation" from its definitive proxy statement
to be delivered to the shareholders of the Company in connection with the 1997
annual meeting of shareholders to be held on November 11, 1997. In no event
shall the information contained in the proxy statement under the sections
entitled "Shareholder Return Analysis" and "Compensation Committee's Report on
Executive Compensation" be included in this reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
The Company hereby incorporates by reference the information contained
under the heading "Security Ownership of Certain Beneficial Owners" from its
definitive proxy statement to be delivered to the shareholders of the Company in
connection with the 1997 annual meeting of shareholders to be held on November
11, 1997.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The Company hereby incorporates by reference the information contained
under the heading "Certain Transactions" from its definitive proxy statement to
be delivered to the shareholders of the Company in connection with the 1997
annual meeting of shareholders to be held on November 11, 1997.
58
PART IV
ITEM 14. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
The following is an index of the financial statements, schedules and
exhibits included in this Report or incorporated herein by reference:
(a)(1) Financial Statements.
Page
----
Consolidated Balance Sheets as of May 30, 1997 and
May 31, 1996.................................................36
Consolidated Statements of Operations for the fiscal years
ended May 30, 1997, May 31, 1996 and
June 2, 1995.................................................37
Consolidated Statements of Shareholders' Equity
for the fiscal years ended May 30, 1997, May 31,
1996 and June 2, 1995........................................38
Consolidated Statements of Cash Flows for the fiscal years
ended May 30, 1997, May 31, 1996 and
June 2, 1995.................................................39
Notes to Consolidated Financial Statements....................40-54
Independent Auditors' Reports.................................55-56
(a)(2) Schedules to Financial Statements.
None.
(a)(3) Exhibits.
The following is an index of the exhibits included in this Annual
Report on Form 10-K or incorporated herein by reference.
59
Exhibit
Number Description of Exhibits
- ------ -----------------------
2(a) Agreement and Plan of Merger dated as of October 3, 1996, between
KinderCare Learning Centers, Inc. ("KinderCare") and KCLC
Acquisition Corp. ("KCLC Acquisition") (incorporated by reference
to Exhibit 2.1(a) to KinderCare's Form S-4, filed January 7, 1997,
File no. 333-19345).
2(b) Merger Agreement Amendment dated as of December 27, 1996 between
KinderCare and KCLC Acquisition (incorporated by reference to
Exhibit 2.1(b) to KinderCare's Form S-4, filed January 7, 1997,
File no. 333-19345).
2(c) Voting Agreement, dated as of October 3, 1996, among KCLC
Acquisition and the stockholders parties thereto (incorporated by
reference to Exhibit 2.2(a) to KinderCare's Form S-4, filed
January 7, 1997, File no. 333-19345).
2(d) Voting Agreement Amendment dated as of December 27, 1996 among
KCLC Acquisition and the stockholders parties thereto
(incorporated by reference to Exhibit 2.2(b) to KinderCare's Form
S-4, filed January 7, 1997, File no. 333-19345).
2(e) Stockholders' Agreement between KinderCare and the stockholders
parties thereto (incorporated by reference from Exhibit 2.3 of
Amendment No. 1 to the Registrant's Registration Statement on Form
S-4 dated April 9, 1997, File no. 333-23127).
3(a) Certificate of Merger of KCLC Acquisition into KinderCare
(incorporated by reference from Exhibit 3.1 of Amendment No. 1 to
the Registrant's Registration Statement on Form S-4 dated April 9,
1997, File no. 333-23127).
3(b) By-Laws of KinderCare (incorporated by reference from Exhibit 3.2
of Amendment No. 1 to the Registrant's Registration Statement on
Form S-4 dated April 9, 1997, file no. 333-23127).
4(a) Indenture dated as of February 13, 1997 between KinderCare and
Marine Midland Bank, as Trustee (incorporated by reference from
Exhibit 4.1 of Amendment No. 1 to the Registrant's Registration
Statement on Form S-4 dated April 9, 1997, File no. 333-23127).
4(b) Form of 9 1/2 % Senior Subordinated Note due 2009. (incorporated
by reference from Exhibit 4.2 of Amendment No. 1 to the
Registrant's Registration Statement on Form S-4 dated April 9,
1997, File no. 333-23127).
60
4(c) Form of 9 1/2% Series B Senior Subordinated Note due 2009
(incorporated by reference from Exhibit 4.3 of Amendment No. 1 to
the Registrant's Registration Statement on Form S-4 dated April 9,
1997, File no. 333-23127).
10(a) Credit Agreement, dated as of February 13, 1997, among KinderCare,
the several lenders from time to time parties thereto, and the
Chase Manhattan Bank as administrative agent (incorporated by
reference from Exhibit 10.1 of Amendment No. 1 to the Registrant's
Registration Statement on Form S-4 dated April 9, 1997, File no.
333-23127).
10(b) Registration Rights Agreement, dated as of February 13, 1997,
among KCLC Acquisition, KLC Associated L.P. and KKR Partners II,
L.P. (incorporated by reference from Exhibit 10.2 of Amendment No.
1 to the Registrant's Registration Statement on Form S-4 dated
April 9, 1997, File no. 333-23127).
10(c) Registration Rights Agreement dated February 13, 1997 among
KinderCare, Chase Securities, Inc., BT Securities Corporation,
Salomon Brothers Inc and Smith Barney Inc. (incorporated by
reference from Exhibit 4.4 of Amendment No. 1 to the Registrant's
Registration Statement on Form S-4 dated April 9, 1997, File no.
333-23127).
10(d) Employment Agreement of Philip L. Maslowe dated May 8, 1995
(incorporated by reference from Exhibit 10(w) of the Registrant's
Annual Report on Form 10-K for the fiscal year ended June 2,
1995).
10(e) Letter Agreement relating to termination of employment of
Sandra Scarr dated January 8, 1997.
10(f) Lease between 600 Holladay Limited Partnership and KinderCare
Learning Centers, Inc. dated June 2, 1997.
16 Letter from KPMG Peat Marwick LLP re Change in Certifying
Accountant, hereby incorporated by reference from Exhibit 16 of
the Registrant's Current Report on Form 8-K dated April 17, 1997.
21 Subsidiaries of KinderCare.
27 Financial Data Schedule.
61
(b) Reports on Form 8-K.
The registrant filed the no reports on Form 8-K during the fourth
quarter of fiscal 1997.
(c) Exhibits Required by Item 601 of Regulation S-K.
The Exhibits to this Report are listed under item 14(a)(3) above.
62
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this Registration Statement
to be signed on its behalf by the undersigned, thereunto duly authorized, on
August 28, 1997.
KINDERCARE LEARNING CENTERS, INC.
By: /s/ DAVID J. JOHNSON
------------------------------------
David J. Johnson
Chief Executive Officer and
Chairman of the Board of Directors
Pursuant to the requirements of the Securities Act, this Registration
Statement has been signed on the 28th day of August, 1997 by the following
persons in the capacities indicated:
Signature Title
/s/ DAVID J. JOHNSON Chief Executive Officer, and Chairman
- ----------------------------------- of the Board of Directors (Principal
David J. Johnson Executive Officer)
/s/ DAN JACKSON Vice President, Financial Control and
- ----------------------------------- Planning (Principal Financial Accounting
Officer)
/s/ HENRY R. KRAVIS Director
- -----------------------------------
Henry R. Kravis
/s/ GEORGE R. ROBERTS Director
- -----------------------------------
George R. Roberts
/s/ CLIFTON S. ROBBINS Director
- -----------------------------------
Clifton S. Robbins
/s/ NILS P. BROUS Director
- -----------------------------------
Nils P. Brous
/s/ SANDRA W. SCARR, Ph.D. Director
- -----------------------------------
Sandra W. Scarr
/s/ STEPHEN KAPLAN Director
- -----------------------------------
Stephen Kaplan
63
KinderCare Learning Centers, Inc.
Annual Report on Form 10-K
Fiscal Year Ended May 30, 1997
Exhibit Index
Exhibit
Number Description of Exhibits
- ------ -----------------------
2(a) Agreement and Plan of Merger dated as of October 3, 1996, between
KinderCare Learning Centers, Inc. ("KinderCare") and KCLC
Acquisition Corp. ("KCLC Acquisition") (incorporated by reference
to Exhibit 2.1(a) to KinderCare's Form S-4, filed January 7, 1997,
File no. 333-19345).
2(b) Merger Agreement Amendment dated as of December 27, 1996 between
KinderCare and KCLC Acquisition (incorporated by reference to
Exhibit 2.1(b) to KinderCare's Form S-4, filed January 7, 1997,
File no. 333-19345).
2(c) Voting Agreement, dated as of October 3, 1996, among KCLC
Acquisition and the stockholders parties thereto (incorporated by
reference to Exhibit 2.2(a) to KinderCare's Form S-4, filed
January 7, 1997, File no. 333-19345).
2(d) Voting Agreement Amendment dated as of December 27, 1996 among
KCLC Acquisition and the stockholders parties thereto
(incorporated by reference to Exhibit 2.2(b) to KinderCare's Form
S-4, filed January 7, 1997, File no. 333-19345).
2(e) Stockholders' Agreement between KinderCare and the stockholders
parties thereto (incorporated by reference from Exhibit 2.3 of
Amendment No. 1 to the Registrant's Registration Statement on Form
S-4 dated April 9, 1997, File no. 333-23127).
3(a) Certificate of Merger of KCLC Acquisition into KinderCare
(incorporated by reference from Exhibit 3.1 of Amendment No. 1 to
the Registrant's Registration Statement on Form S-4 dated April 9,
1997, File no. 333-23127).
3(b) By-Laws of KinderCare (incorporated by reference from Exhibit 3.2
of Amendment No. 1 to the Registrant's Registration Statement on
Form S-4 dated April 9, 1997, file no. 333-23127).
4(a) Indenture dated as of February 13, 1997 between KinderCare and
Marine Midland Bank, as Trustee (incorporated by reference from
Exhibit 4.1 of Amendment No. 1 to the Registrant's Registration
Statement on Form S-4 dated April 9, 1997, File no. 333-23127).
64
4(b) Form of 9 1/2 % Senior Subordinated Note due 2009. (incorporated
by reference from Exhibit 4.2 of Amendment No. 1 to the
Registrant's Registration Statement on Form S-4 dated April 9,
1997, File no. 333-23127).
4(c) Form of 9 1/2% Series B Senior Subordinated Note due 2009
(incorporated by reference from Exhibit 4.3 of Amendment No. 1 to
the Registrant's Registration Statement on Form S-4 dated April 9,
1997, File no. 333-23127).
10(a) Credit Agreement, dated as of February 13, 1997, among KinderCare,
the several lenders from time to time parties thereto, and the
Chase Manhattan Bank as administrative agent (incorporated by
reference from Exhibit 10.1 of Amendment No. 1 to the Registrant's
Registration Statement on Form S-4 dated April 9, 1997, File no.
333-23127).
10(b) Registration Rights Agreement, dated as of February 13, 1997,
among KCLC Acquisition, KLC Associated L.P. and KKR Partners II,
L.P. (incorporated by reference from Exhibit 10.2 of Amendment No.
1 to the Registrant's Registration Statement on Form S-4 dated
April 9, 1997, File no. 333-23127).
10(c) Registration Rights Agreement dated February 13, 1997 among
KinderCare, Chase Securities, Inc., BT Securities Corporation,
Salomon Brothers Inc and Smith Barney Inc. (incorporated by
reference from Exhibit 4.4 of Amendment No. 1 to the Registrant's
Registration Statement on Form S-4 dated April 9, 1997, File no.
333-23127).
10(d) Employment Agreement of Philip L. Maslowe dated May 8, 1995
(incorporated by reference from Exhibit 10(w) of the Registrant's
Annual Report on Form 10-K for the fiscal year ended June 2,
1995).
10(e) Letter Agreement relating to termination of employment of
Sandra Scarr dated January 8, 1997.
10(f) Lease between 600 Holladay Limited Partnership and KinderCare
Learning Centers, Inc. dated June 2, 1997.
16 Letter from KPMG Peat Marwick LLP re Change in Certifying
Accountant, hereby incorporated by reference from Exhibit 16 of
the Registrant's Current Report on Form 8-K dated April 17, 1997.
21 Subsidiaries of KinderCare.
27 Financial Data Schedule.