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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 December 31, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from___________________to___________________
Commission file number 000-23157
A. C. MOORE ARTS & CRAFTS INC.
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(Exact name of registrant as specified in its charter)
PENNSYLVANIA 22-3527763
- ------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
130 A.C. MOORE DRIVE, BERLIN, NJ 08009
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (856) 768-4930
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common stock, no 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
requirements for the past 90 days. [X] Yes [ ] No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (Section 229.405 of this Chapter) is not contained herein, and
will not be contained, to the best of the registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K. [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). [X] Yes [ ] No
As of June 30, 2004, the aggregate market value of the voting stock held by
non-affiliates of the registrant was approximately $320,000,000 based on $27.51,
the closing price per share of the registrant's common stock on such date, as
reported on the Nasdaq Stock Market. (1)
The number of shares of the registrant's common stock outstanding as of March
10, 2005 was 19,666,892.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive proxy statement for the 2005 Annual Meeting of
Shareholders are incorporated into Part III of this Form 10-K; provided,
however, that the Compensation Committee Report, the Audit Committee Report, the
graph showing the performance of the Company's stock and any other information
in such proxy statement that is not required to be included in this Annual
Report on Form 10-K, shall not be deemed to be incorporated herein by reference.
- ----------
(1) The aggregate market value of the voting stock set forth above
equals the number of shares of the registrant's common stock outstanding,
reduced by the number of shares of common stock held by executive officers,
directors and shareholders owning in excess of 10% of the registrant's common
stock, multiplied by the last reported sale price for the registrant's common
stock on the last business day of the registrant's most recently completed
second fiscal quarter. The information provided shall in no way be construed as
an admission that any person whose holdings are excluded from this figure is an
affiliate of the registrant or that any person whose holdings are included in
this figure is not an affiliate of the registrant and any such admission is
hereby disclaimed. The information provided herein is included solely for record
keeping purposes of the Securities and Exchange Commission.
PART I
ITEM 1. BUSINESS.
OUR COMPANY
We are a rapidly growing specialty retailer offering a vast selection of
arts, crafts, and floral merchandise to a broad demographic of consumers. Our
target customers are primarily women between the ages of 25 and 55 who are
looking for ideas to decorate their homes, create handmade items, or otherwise
engage in arts and crafts activities. We have grown from 17 stores in January
1997 to 96 stores in December 2004. In 2004, for stores open for the full
calendar year, our average sales per square foot were $256, which we believe to
be the highest in our industry, and our average sales per store were
approximately $5.8 million.
Our stores are located in the eastern United States from New England to
Alabama. For the next few years we intend to locate our new stores within a
distance that can be supported by our suburban Philadelphia distribution center,
an area encompassing approximately 50% of the United States population. We
believe we can support at least 175 stores in this geographic area from our new
distribution center which we opened in the third quarter of 2004.
Our assortment of merchandise consists of more than 60,000 stock keeping
units, or SKUs, with approximately 45,000 SKUs offered at each store at any one
time. We believe we offer a superior shopping experience that is differentiated
by our broad merchandise assortment, high in-stock positions, exciting stores,
attentive and knowledgeable sales associates and competitive prices.
Due to the importance of our peak selling season, which includes
Fall/Halloween, Thanksgiving and Christmas, the fourth quarter has historically
contributed, and is expected to continue to contribute, a significant portion of
our profitability for the entire year. As a result, any factors negatively
affecting us during the fourth quarter of any year, including adverse weather
and unfavorable economic conditions, would have a material adverse effect on our
results of operations for the entire year.
We have a highly experienced management team which is comprised of
executives who have each participated in the expansion of several large
retailers. Collectively, our top management team, consisting of our Chief
Executive Officer, President and Chief Operating Officer, Chief Financial
Officer, two Executive Vice Presidents of Merchandising, and our Executive Vice
President of Store Operations, has more than 150 years experience in retailing.
We became a holding company in July 1997 by incorporating in
Pennsylvania and exchanging 4,300,000 shares of our common stock for all the
capital stock of our operating subsidiary which was organized in Delaware in
1984.
OUR MARKET
The Hobby Industry Association (HIA), in its most recent study,
announced that its Consumer Usage & Purchase Study revealed that industry sales
for 2002 were approximately $29.0 billion, a 13% increase from $25.7 billion in
2001. Our market is comprised primarily of arts and crafts products, silk and
dried flowers and picture frames. Our market is highly fragmented and is served
by multi-store arts and crafts retailers, mass merchandisers, small, local
specialty retailers, mail order vendors, hardware stores and a variety of other
retailers.
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The size and growth of our market is sustained by the popularity of arts
and crafts. According to the 2002 HIA report, 60% of U.S. households
participated in crafts and craft-related hobbies. Further, a June 2001 Harris
Poll reports that the popularity of crafts is similar to the popularity of
watching sports, listening to music, playing golf, boating, hunting, and other
similar leisure activities. The current popularity of crafts is reflected in the
national media in addition to the many craft publications. For example, major
newspapers such as the Wall Street Journal, the New York Times and the Chicago
Tribune have published articles highlighting the success of craft retailers and
how the industry is at the right place at the right time.
OUR MERCHANDISE
Our merchandising strategy is to offer the broadest and deepest
assortment of arts, crafts and floral merchandise and to provide our customers
with all of the components necessary for their crafting projects on a regular
basis. Below is a representative list of our merchandise:
o Art Supplies, Scrapbooking and Frames: paints, brushes, canvas,
drawing tools, rubber stamps and stationery, scrapbooking
supplies, stencils and frames.
o Traditional Crafts: stitchery, yarn, cake and candy making
supplies, glass crafts, wood crafts, kids crafts, felt, glitter,
dollmaking, dollhouses and furniture, and instructional books.
o Floral and Accessories: silk and dried flowers, accessories like
vases and other products to assist in the arrangement of
flowers, pre-made and custom made floral arrangements, ribbon
and lace, wedding related items, potpourri, candles, candle
making supplies and wicker baskets.
o Fashion Crafts: t-shirts and sweatshirts, decorative items like
patches and rhinestones and jewelry making supplies like beads.
o Seasonal Items: craft making materials, decorations and floral
products for all major holidays and seasons, including
Christmas, Fall/Halloween, Spring/Easter, Valentine's Day and
St. Patrick's Day.
BUSINESS AND OPERATING STRATEGY
We believe that our customers expect exceptional service and a broad
assortment of in-stock merchandise at competitive prices in an exciting and
easy-to-shop store. Our goal is to consistently deliver an overall value
proposition that exceeds our customers' expectations and offers them a superior
shopping experience. In order to achieve this goal we pursue the following five
primary business and operating strategies:
WE STRIVE TO OFFER THE BROADEST AND DEEPEST ASSORTMENT OF ARTS, CRAFTS
AND FLORAL MERCHANDISE.
We believe that key elements in a customer's decision where to shop are
variety and selection of merchandise. We believe our stores offer the broadest
and deepest selection of arts, crafts and floral merchandise in our industry.
Each of our stores stocks more than 60,000 SKUs across five major merchandise
categories during the course of a year, with approximately 45,000 SKUs offered
at each store at any one time. Our buyers actively seek new merchandising
opportunities by monitoring industry trends, working with domestic and
international vendors, attending trade shows and craft fairs and
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regularly interacting with our customers. We believe that our ability to provide
new merchandise and crafting ideas to our customers on a continuous basis
differentiates us from our competitors.
WE STRIVE TO MAINTAIN A SUPERIOR IN-STOCK MERCHANDISE POSITION.
Craft projects usually require multiple components. Providing all of the
components for a particular craft project in a single store on a regular basis
is critical to meeting the demands of our customers. Therefore, we designed our
merchandise distribution systems to ensure rapid replenishment of inventory and
the highest levels of in-stock positions in our stores. Our distribution center
delivers merchandise to each of our stores three to five times per week during
our peak selling season of October to December, and two to three times per week
throughout the balance of the year. In our peak selling season, our store
managers can replenish 67% of their shelf merchandise assortment within two to
three days.
WE STRIVE TO OPERATE EXCITING, EASY-TO-SHOP STORES.
We provide our customers with project ideas by displaying samples of
completed craft projects throughout our stores. We believe that these displays
generate excitement and foster impulse buying and return visits to our stores.
We regularly provide video and live in-store crafting demonstrations. We offer
frequent in-store classes for children and adults in most of our stores on a
wide variety of craft skills. Our stores are designed to be uncluttered, well
organized, and well lit. Wide aisles and easy to read signage help our customers
locate merchandise and make our stores easy-to-shop.
To ensure prompt and personalized service, we staff our stores with a
high ratio of store personnel to customers, typically including a store manager,
two or three associate managers, eight department managers and a staff of
full-time and part-time team members. Store personnel, many of whom are crafters
themselves, assist customers with merchandise selection and project ideas.
WE STRIVE TO ATTRACT AND RETAIN EXPERIENCED AND ENTREPRENEURIAL STORE
MANAGEMENT.
To provide optimal customer service, we strive to foster merchandising
creativity and an entrepreneurial culture throughout all levels of our
organization. Store managers are empowered and encouraged to identify
merchandising opportunities and to tailor displays to local preferences for
craft projects. While receiving direction and support from corporate level
management, this autonomy allows store managers to use individual creativity to
cater to the needs and demands of customers. If proven successful, merchandising
ideas generated by a store manager can be implemented quickly throughout our
chain. We believe this helps us to increase sales and profitability. Store
managers and associate managers earn incentive bonuses based on annual increases
in the profitability of their stores. We believe our focus on empowering and
rewarding our employees, all of whom are "team members," helps in recruiting,
hiring and retaining talented personnel.
WE STRIVE TO PROVIDE SUPERIOR PRICE/VALUE FOR OUR CUSTOMERS.
We believe that our customers consider the relationship between the
quality and price of our merchandise to be important factors in their buying
decisions. Therefore, we strive to be the price/value leader in all of our
merchandise categories. Our purchasing professionals and store managers actively
monitor competitors' prices to ensure we maintain low prices while preserving
merchandise quality and value. Our policy to beat any competitor's advertised
price by 10% is clearly displayed in our stores. In addition, on a weekly basis,
we advertise select items at 20% to 50% off their everyday low prices. We
believe that our price/value strategy exceeds our customers' expectations and
enhances customer loyalty.
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GROWTH STRATEGY
The market in which we operate is large and fragmented. We believe that
this presents an opportunity to continue to grow our business for the
foreseeable future. Our objective is to improve our market share in existing
geographic markets and to expand into new geographic markets while enhancing our
profitability through greater leverage of our corporate infrastructure. We
believe by increasing our store base we can obtain economies of scale in
advertising, distribution, purchasing and management costs and, as a result,
improve our operating margins.
OPENING NEW STORES:
During the next two years we intend to increase our store base of 96
locations at December 31, 2004 by approximately 15% to 20% per year. Our current
strategy is to open new stores within the reach of our corporate headquarters
and distribution center located in suburban Philadelphia. This geographic area
contains approximately 50% of the U.S. population. Ultimately, we believe that
we can almost double the number of our existing stores within this geographic
area without significantly diluting the sales in our existing stores. In the
future, we may open stores in other regions.
Our site selection strategy is overseen by a Vice President of Real
Estate who is responsible for identifying favorable store locations in both
existing and new geographic markets. Our site selection criteria include an
assessment of population and demographic characteristics of the market area,
customer traffic, performance of other retailers within the area, co-tenants at
the proposed site, projected profitability and cash return on investment. We
have also hired an outside consulting firm to assist us in real estate selection
through customer profiling, drive-time trade area, and index performance models.
We have developed a standardized procedure for opening new stores. Our
new store opening team develops the floor plan and inventory layout based on our
store prototype and hires and trains team members in connection with the opening
of each new store. For each new store we plan to open in the next two years, we
expect to spend approximately $1.3 million, which includes $365,000 for fixtures
and equipment, $240,000 in pre-opening costs (including lease costs from date of
possession) and $700,000 for in-store inventory, net of accounts payable.
INCREASING SALES IN EXISTING STORES:
In 2004, for stores open at least one full calendar year, our average
sales per square foot were $256, which we believe to be the highest in our
industry, and our average sales per store were approximately $5.8 million. Our
comparable store sales growth was 4% in 2004, 2% in 2003, 5% in 2002, 8% in 2001
and 3% in 2000. Stores are added to the comparable store base at the beginning
of their fourteenth full month of operation. Our primary method of increasing
sales in our existing stores is to successfully execute our business and
operating strategies, including:
o providing the broadest and deepest merchandise assortment,
o maintaining a superior in-stock position,
o operating exciting and easy-to-shop stores,
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o hiring and retaining entrepreneurial and knowledgeable store
managers and sales teams, and
o providing superior price/value for our customers.
MERCHANDISING
Our merchandising strategy is to offer the broadest and deepest
assortment of arts, crafts and floral merchandise and to provide our customers
with all of the components necessary for their crafting projects on a regular
basis. We believe our merchandise appeals to a wide range of recreational and
professional crafters of all ages and economic backgrounds. However, our primary
customers are women ages 25 to 55. We maintain a fresh and exciting shopping
environment by frequently introducing new merchandise into our stores and by
regularly updating our displays of completed craft projects. Our buyers actively
seek new merchandising opportunities by monitoring industry trends, working with
domestic and international vendors, and regularly attending trade shows and
craft fairs.
The following table describes net sales for each of our merchandise
categories as a percentage of our total net sales for the years ended December
31, 2002 through 2004:
YEAR ENDED DECEMBER 31,
--------------------------------
2004 2003 2002
-------- -------- --------
Art supplies, scrapbooking and frames ...... 34.0% 35.0% 35.0%
Traditional crafts ......................... 34.0 30.0 29.0
Floral and accessories ..................... 21.0 24.0 24.0
Fashion crafts ............................. 8.0 7.0 7.0
Seasonal items ............................. 3.0 4.0 5.0
-------- -------- --------
Total ...................................... 100.0% 100.0% 100.0%
Our buyers develop a planogram for each of our basic and seasonal
merchandise categories which is implemented at the store level. A planogram is a
diagram that shows how and where each specific retail product should be placed
on shelves or displays. The planograms are developed by a team consisting of our
buyers and members of our planogram department, with input from key vendors. The
planograms are developed using information about the products, such as size,
shape, colors, or theme, sales volume and inventory levels. By analyzing past
and current sales patterns, we can then adjust our planograms to present
merchandise in a manner that helps maximize sales.
Our point of sale, or POS, system allows us to make better merchandising
decisions by identifying sales volume and seasonality patterns of particular
items of merchandise. With this information we can make better decisions
regarding when to stock, reorder, mark-down and discontinue merchandise.
Our purchasing staff and store managers actively monitor competitors'
prices to ensure we maintain low prices while preserving merchandise quality and
value. Our policy of beating any competitor's advertised price by 10% is clearly
displayed in our stores. On a weekly basis, we advertise select items at 20% to
50% off their everyday low prices. We also accept competitors' coupons. We
believe that our strategy of price/value leadership enhances customer loyalty
and provides superior value.
Our stores regularly feature seasonal merchandise that complements our
core merchandising strategy. Seasonal merchandise is offered for all major
holidays and seasons, including Christmas, Fall/Halloween, Spring/Easter,
Valentine's Day and St. Patrick's Day. By far the greatest portion of our
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seasonal merchandise is sold during the Christmas season. This includes
merchandise in our seasonal department as well as seasonal products sold in
other merchandise categories. Our Christmas holiday merchandise is given floor
and shelf space in our stores beginning in late summer. The Christmas holiday
season is longer for our stores than for many traditional retailers because of
the project-oriented nature of Christmas crafts and gift-making ideas. We
believe that our holiday merchandise assortment differs from some of our
competitors because a substantial amount of our seasonal merchandise is used to
create holiday crafts and gifts rather than consisting of traditional Christmas
trees and decorations.
STORES
Our stores are typically 20,000 to 25,000 square feet. Most of our
stores are located in strip centers that are easily accessible from main traffic
arteries and have convenient parking. Our store size varies based on market
demographics and real estate availability. Most of our store leases have an
average initial term of ten years, with two five year renewal options, and
provide for predetermined escalations in future minimum annual rent or
additional rent contingent upon store sales levels. Rent escalations are
amortized over the initial lease term commencing on the date we take possession.
Our stores are generally open from 9:30 a.m. to 9:00 p.m., Monday through
Saturday, and from 10:00 a.m. to 6:00 p.m. on Sunday.
STORE LAYOUT AND OPERATIONS
Our stores provide a "one-stop-shopping" destination for arts, crafts
and floral merchandise in an exciting and spacious shopping environment. We
design our stores to be attractive and easy-to-shop with a layout intended to
lead customers through the entire store in order to expose them to all of our
merchandise categories. Wide aisles and easy to read signage help our customers
locate merchandise. We use end-of-aisle displays to feature best-selling items
and promotional merchandise. Generally, the center of the store contains the
floral area, which includes a ribbon center and counter for free floral
arrangement services. Our stores also contain a customer service area and eight
to 11 registers for quick checkout. Our prototype store is apportioned
approximately 80% to selling space with the remainder devoted to delivery,
storage, classroom and office areas.
In 2004, we developed and implemented a new visual signage program in
one of our stores that introduced more color, icons and a more aesthetic, softer
point of view in our message. We will be implementing the new sign package in
all of our new stores as well as retrofitting it into a select number of our
existing stores.
We emphasize the display of completed craft projects in each department
to provide customers with crafting ideas. Because many customers browse for new
craft ideas, we believe eye-catching displays of completed craft projects are
effective at motivating impulse purchases. Our knowledgeable store team members,
many of whom are crafters themselves, are available to explain the displays in
detail to customers and to offer assistance on related craft projects.
We offer frequent in-store classes for children and adults in most of
our stores in a dedicated classroom. Classes are taught by team members and
outside professionals. Typical classes provide instruction on oil painting, cake
decorating, advanced stamping, or scrapbooking.
STORE MANAGEMENT AND TRAINING
Each store is managed by a store manager who is assisted by two or three
associate store managers, eight department managers, and a staff of full-time
and part-time team members. Our store managers and associate store managers are
responsible primarily for customer service, training, hiring
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store level team members, and inventory management. The department managers are
responsible for merchandise ordering, inventory management and customer service.
We develop new store managers by promoting from within our organization. We
selectively hire experienced store managers from other retailers who start at
our stores as associate store managers.
A key part of our strategy and management style is to foster an
entrepreneurial culture and merchandising creativity throughout all levels of
our organization which we believe helps to promote customer loyalty. Store
managers are empowered and encouraged to identify merchandising opportunities
and to tailor displays to local preferences for craft projects. While receiving
direction and support from corporate level management, this autonomy allows
store managers to use their own creativity to cater to the needs and demands of
their customers. If proven successful, merchandising ideas generated by a store
manager can be implemented throughout our chain. We believe this helps to
increase sales and profitability. Our store managers and associate store
managers earn incentive bonuses based upon annual increases in the profitability
of their stores. We believe our focus on empowering and rewarding our team
members helps in recruiting, hiring and retaining talented personnel.
Our training program for store managers and associate store managers
includes several annual company-sponsored conferences to refine and develop
their skills in merchandising, merchandise trends, store operations, financial
controls, human resources and general management. Many of our team members are
crafters themselves and we provide them with the industry's most extensive
product training to create a sales staff with a strong focus on customer service
and a willingness to assist customers in assembling and coordinating their craft
projects.
PURCHASING
Our purchasing programs are designed to support our business strategy of
providing customers with the broadest and deepest assortment of high quality
arts, crafts and floral merchandise at value prices while maintaining high
in-stock positions. Our buying staff of 21 professionals oversees all of our
purchasing. Buyers and store management regularly attend trade shows and craft
fairs to monitor industry trends and to obtain new craft ideas.
In-store department managers are responsible for daily reordering of
merchandise for their departments. In 2004, approximately 99% of our merchandise
orders were placed through our EDI (electronic data interchange) system.
Approximately 65% of our orders were shipped directly from vendors to our
stores; the remaining 35%, approximately one-third of which are floral and
seasonal items, were shipped from our distribution center. Merchandise
assortments at our stores can be enhanced by products ordered by store managers
to meet the unique needs of their customers. All purchases are monitored through
centralized system controls.
In 2004, we purchased our inventory from more than 500 vendors
worldwide. One of the key criteria for the selection of vendors is their
responsiveness to our delivery requirements and timing needs. In 2004:
o the largest 25 domestic vendors accounted for approximately 54%
of our purchases,
o the largest vendor, SBAR'S, Inc., a specialty distributor of
arts and crafts merchandise primarily to independent arts and
crafts retailers, accounted for approximately 21% of our
purchases, and
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o approximately 8% of our merchandise, primarily floral and
seasonal items, was directly imported from foreign manufacturers
or their agents, almost exclusively from the People's Republic
of China.
All of our overseas purchases are denominated in U.S. dollars.
DISTRIBUTION
Our distribution strategy is focused on supporting our stores and
maintaining high in-stock positions in all of our merchandise categories. Our
stores receive merchandise deliveries three to five times per week from our
distribution center during our peak selling season, and two to three times per
week throughout the balance of the year, depending on store size.
In the third quarter of 2004 we moved into our new distribution center
and office complex. This facility contains 710,000 square feet for distribution
and warehousing plus 60,000 square feet of office space. This state of the art
facility is positioned to handle the future expansion of the company and will
enable us to more effectively service all of our existing locations and a total
of approximately 175 store locations located within reach of the new facility.
The new facility includes an automated picking and sortation system which will
enable us to achieve significant increases in labor productivity. The total cost
of this facility was $45.0 million.
The lease on our previous distribution facility of 253,000 square feet
expires at the end of March 2005.
Our distribution center and warehouse operations are supported by our
real-time warehouse management system which uses hand-held computers and radio
frequency communication technology to track merchandise. Our warehouse
management system enables us to update our inventory records instantly to
reflect all of the merchandise receiving and shipping activities that occur at
our distribution center throughout the day. We believe our warehouse management
system, which was upgraded in 2004, helps to make our distribution center and
warehouse operations efficient and is instrumental in helping us meet our
commitment to provide superior inventory replenishment to each of our stores.
We lease a fleet of tractors and trailers to deliver merchandise to 56
of our 96 stores directly from our distribution center. Additionally, we have
contracted with a dedicated third-party carrier to deliver merchandise to the 40
stores where an overnight stay is required because of travel time. In 2004,
approximately 35% of our merchandise was delivered from our distribution center
to our stores.
MARKETING
Our marketing and advertising is designed to attract our target
customers consisting primarily of women between the ages of 25 and 55. A study
published in Craftrends in November 2001 surveyed 1,000 craft customers across
the country. Of the 1,000 participants, 66% were between the ages of 26 and 54,
89% were female and 46% had an income greater than $60,000. We believe that our
target customer is consistent with this demographic profile.
We advertise 51 weeks per year, typically in midweek editions of local
and/or regional newspapers. In 2004 we ran 20 multi-page newspaper inserts in
local and regional newspapers. In addition, prior to store openings, we use
radio advertisements to develop customer awareness and we place special
pre-opening advertisements, normal advertising copy and/or grand opening inserts
in newspapers. We create all of our advertising in-house.
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Our website, www.acmoore.com, is designed to drive additional store
traffic by providing information, inspiration and ideas to our visitors. It also
serves as another marketing channel to build brand name awareness. Our website
has recently been completely redesigned, providing visitors with easier
navigation, more information and one of the largest selections of crafting
how-to videos on the web. This proprietary video collection allows customers to
view over two hundred different segments to learn the latest crafting tips,
techniques and project ideas. Our website also features weekly advertisements, a
store locator and an in-store class schedule, as well as suggested craft
projects for children and adults with accompanying instructions and shopping
lists for merchandise to be purchased at our stores. Additionally, visitors are
able to preview various departments inside an A.C. Moore store through the use
of iPIX photography, which displays a 360 degree immersed view of select
merchandise. We do not sell our merchandise on our website, although gift cards
may be purchased online.
MANAGEMENT INFORMATION SYSTEMS
We believe that we have implemented leading information technology
systems which support merchandising, store ordering, warehouse inventory
management, finance and administration. Our management information systems are
secure, redundant and scalable. We expect to continue to enhance the performance
of our systems through software and hardware upgrades and other improvements,
such as the systems integration of our stores and distribution center to improve
our inventory processing capabilities.
Our in-store POS system includes merchandise universal product code or
bar code scanning at the registers along with the expansion of our radio
frequency re-order system, allows our stores to reduce or re-deploy employee
team members that had previously been used to price mark each SKU. With the POS
data capturing capabilities, fast and detailed sales and margin information is
available. We support our merchandising efforts by polling the POS system on a
regular basis to evaluate sale and pricing trends for each SKU. In addition, we
are able to generate data to assess the performance of our advertising and
promotional programs. This system also provides a speedy check-out process,
minimizes pricing errors and provides strong control over register operations.
Our real-time management information and control system has been
designed to support our key business objective of maintaining a high in-stock
position. Utilizing a radio frequency based hand-held computer, our department
managers electronically record and then transmit their orders to the corporate
office. These orders are then automatically sent to the appropriate vendor. This
internally developed system is based upon electronic data interchange, or EDI,
and connects with most of our vendors as well as with our distribution center.
Those vendors that lack EDI capability are given an option to use a web-based
solution that links with our systems.
COMPETITION
The market in which we compete is highly fragmented, containing
multi-store arts and crafts retailers, mass merchandisers, small local specialty
retailers, mail order vendors, hardware stores and a variety of other retailers.
We believe we are one of only seven retailers in the United States dedicated to
serving the arts and crafts market that have annual sales in excess of $100.0
million. We compete with many retailers and classify our principal competition
within the following three categories:
o Multi-store arts and crafts retailers. This category includes
several multi-store arts and crafts chains operating more than
35 stores and comprises: Michaels Stores, Inc., a chain which
operates 844 Michaels stores throughout the United States;
Jo-Ann Stores, Inc., which operates 737 traditional Jo-Ann
Fabrics and Crafts stores and 114 Jo-Ann superstores nationwide;
Hobby Lobby Stores, Inc., a chain which operates approximately
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340 stores primarily in the midwest United States; Garden Ridge,
Inc., which operates approximately 35 stores primarily in the
southeast and midwest United States; and Rag Shops, Inc., which
operates approximately 65 stores located primarily in New Jersey
and Florida.
o Mass merchandisers. This category includes Wal-Mart Stores,
Inc., and other mass merchandisers. These retailers typically
dedicate only a relatively small portion of their selling space
to a limited assortment of arts and crafts supplies and floral
merchandise.
o Small, local specialty retailers. This category includes
thousands of local "Mom & Pop" arts and crafts retailers.
Typically, these are single store operations managed by the
owner. The stores generally offer a limited selection and have
limited resources for advertising, purchasing and distribution.
Many of these stores have established a loyal customer base
within a given community and compete on customer service.
We believe that the principal competitive factors of our business are
pricing, breadth of merchandise selection, in-stock position and customer
service. We believe that we are well positioned to compete on each of these
factors.
TEAM MEMBERS
As of December 31, 2004, we had 2,371 full-time and 2,860 part-time team
members, 4,881 of whom worked at our stores, 158 at the distribution center and
192 at the corporate offices. None of our team members are covered by a
collective bargaining agreement, and we believe our relationship with our team
members to be good.
TRADEMARKS
"A.C. Moore," "Fashion Forward" and "Creations for All Generations" are
trademarks that have been registered with the U. S. Patent and Trademark Office.
We use the "A.C. Moore" name and logo as a tradename and as a service mark in
connection with sale of our merchandise. The "Fashion Forward" name and logo is
used on the exclusive packaging of some of our picture frames. The "Creations
for All Generations" logo is used in advertising campaigns.
WEBSITE AND AVAILABILITY OF INFORMATION
Our internet address is www.acmoore.com. We make available free of
charge on or through www.acmoore.com our annual report on Form 10-K, quarterly
reports on Form 10-Q and current reports on Form 8-K, and amendments to those
reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange
Act, as soon as reasonably practicable after we electronically file such
material with, or furnish it to, the SEC.
In addition, we will provide, at no cost, paper or electronic copies of
our reports and other filings made with the SEC. Requests should be directed to:
Leslie H. Gordon
A.C. Moore Art & Crafts, Inc.
130 A.C. Moore Drive
Berlin, NJ 08009
10
The information on the website listed above is not, and should not be
considered, part of this annual report on Form 10-K, and is not incorporated by
reference in this document. This website is only intended to be an inactive
textual reference.
CAUTIONARY STATEMENT RELATING TO FORWARD-LOOKING STATEMENTS
Certain oral statements made by our management from time to time and
certain statements contained herein or in other reports filed by us with the
Securities and Exchange Commission or incorporated by reference herein or
therein are "forward-looking statements" within the meaning of Section 27A of
the Securities Act of 1933, as amended and Section 21E of the Securities
Exchange Act of 1934, as amended ("Exchange Act"), with respect to our results
of operations and our business. All such statements, other than statements of
historical facts, including those regarding market trends, our financial
position and results of operations, business strategy, projected costs, and
plans and objectives of management for future operations, are forward-looking
statements. In general, such statements are identified by the use of
forward-looking words or phrases including, but not limited to, "intended,"
"will," "should," "may," "believes," "expects," "expected," "anticipates" and
"anticipated" or the negative thereof or variations thereon or similar
terminology. These forward-looking statements are based on our current
expectations. Although we believe that the expectations reflected in such
forward- looking statements are reasonable, there can be no assurance that such
expectations will prove to be correct. These forward-looking statements
represent our current judgment. We disclaim any intent or obligation to update
our forward-looking statements. Because forward-looking statements involve risks
and uncertainties, our actual results could differ materially. Important factors
that could cause actual results to differ materially from our expectations
("Cautionary Statements") include those that are discussed below. All subsequent
written and oral forward-looking statements attributable to us or persons acting
on our behalf are expressly qualified in their entirety by the Cautionary
Statements.
AN INCREASE IN OUR SALES, PROFITABILITY AND CASH FLOW WILL DEPEND ON OUR ABILITY
TO INCREASE THE NUMBER OF STORES WE OPERATE AND INCREASE THE PRODUCTIVITY AND
PROFITABILITY OF OUR EXISTING STORES.
The key components of our growth strategy are to increase the number of
stores we operate and increase the productivity and profitability of our
existing stores. If we are unable to implement this strategy, our ability to
increase our sales, profitability and cash flow could be significantly impaired.
To the extent we are unable to open new stores as planned, our sales growth
would come only from increases in comparable store sales. Growth in
profitability in that case would depend significantly on our ability to increase
margins or reduce our costs as a percentage of sales. There are many factors,
some of which are beyond our control, which could impact our ability to
implement our strategy for opening new stores. These factors include:
o our ability to identify suitable markets in which to expand,
o the availability of suitable sites for additional stores,
o the ability to negotiate acceptable lease terms for sites we
identify,
o the availability of acceptable financing to support our growth,
o our ability to hire, train and retain a sufficient number of
qualified managers and other store personnel, and
o the effectiveness of our advertising strategies.
11
OUR RESULTS COULD BE IMPACTED BY THE EXPENSING OF STOCK-BASED PAYMENTS.
On December 16, 2004, the Financial Accounting Standards Board (FASB)
issued FASB Statement No. 123(R), Share-Based Payment (FAS 123(R)). FAS 123(R)
revised FASB Statement No. 123, Accounting for Stock-Based Compensation (FAS
123) and requires companies to expense the fair value of employee stock options
and other forms of stock-based compensation. FAS 123(R) must be adopted no later
than for periods beginning after June 15, 2005.
Previously, in complying with FAS 123, the Company disclosed the fair
value of stock options granted and its pro-forma impact on the Company's net
income in a footnote to its financial statements. The Company is currently
considering which transition method it expects to select in adopting FAS 123(R),
and whether this new accounting requirement will result in any changes in
compensation strategies. Information contained in the Company's footnotes
provides the impact on pro forma net income for past financial statements. The
impact of the adoption of FAS 123(R) on future financial statements is expected
to be material.
IF WE FAIL TO MAINTAIN AN EFFECTIVE SYSTEM OF INTERNAL CONTROLS, WE MAY NOT BE
ABLE TO ACCURATELY REPORT OUR FINANCIAL RESULTS OR PREVENT FRAUD. AS A RESULT,
CURRENT AND POTENTIAL SHAREHOLDERS COULD LOSE CONFIDENCE IN OUR FINANCIAL
REPORTING, WHICH COULD HARM OUR BUSINESS AND THE TRADING PRICE OF OUR COMMON
STOCK.
Beginning in the middle of 2003, we began a process to document and
evaluate our internal controls over financial reporting in order to satisfy the
requirements of Section 404 of the Sarbanes-Oxley Act of 2002 and the related
regulations, which require annual management assessments of the effectiveness of
our internal controls over financial reporting and a report by our independent
registered public accounting firm addressing these assessments. In this regard,
management has dedicated internal resources, engaged outside consultants and
adopted a detailed work plan to (i) assess and document the adequacy of internal
controls over financial reporting, (ii) take steps to improve control processes,
where appropriate, (iii) validate through testing that controls are functioning
as documented and (iv) implement a continuous reporting and improvement process
for internal control over financial reporting. Our efforts to comply with
Section 404 of the Sarbanes-Oxley Act of 2002 and the related regulations
regarding our assessment of our internal controls over financial reporting and
our independent registered public accounting firm's audit of that assessment
have resulted, and are likely to continue to result, in increased expenses. We
cannot be certain that these measures will ensure that we maintain adequate
controls over our financial processes and reporting in the future. Any failure
to implement required new controls, or difficulties encountered in their
implementation, could harm our operating results or cause us to fail to meet our
reporting obligations. If compliance with policies or procedures deteriorate and
we fail to correct any associated issues in the design or operating
effectiveness of internal controls over financial reporting or fail to prevent
fraud, current and potential shareholders could lose confidence in our financial
reporting, which could harm our business and the trading price of our common
stock.
OUR SUCCESS WILL DEPEND ON HOW WELL WE MANAGE OUR GROWTH.
Even if we are able to implement, to a significant degree, our key
growth strategies of expanding our store base and increasing the productivity
and profitability of our existing stores, we may experience problems relating to
our growth, which may prevent any significant increase in profitability or
negatively impact our cash flow. For example:
12
o The costs of opening and operating new stores may offset the
increased sales generated by the additional stores;
o The opening of additional stores in an existing market could
reduce net sales from existing stores in that market;
o The opening of stores in new geographic markets may present
competitive and merchandising challenges that are different than
those we face in our existing geographic markets;
o The closing or relocation of under-performing stores may result
in us retaining liability for expensive leases;
o Our growth may outpace our ability to expand, upgrade and
improve our administrative, operational and management systems,
controls and resources;
o We may be unable to hire and train sufficient qualified managers
and other store personnel;
o Our suppliers may be unable to meet our increased demand for
merchandise as a result of the additional stores and increased
productivity of our existing stores; and
o We may be unable to expand our existing distribution
capabilities, or employ third-party distribution services on a
cost-effective basis, to provide sufficient merchandise for sale
by our new stores.
A WEAK FOURTH QUARTER WOULD HAVE A MATERIAL ADVERSE EFFECT ON OUR OPERATING
RESULTS FOR THE YEAR.
Our business is affected by the seasonality pattern common to most
retailers. Due to the importance of our peak selling season, which includes
Fall/Halloween, Thanksgiving and Christmas, the fourth quarter has historically
contributed, and is expected to continue to contribute, a significant portion of
our net income for the entire year. In anticipation of increased sales activity
during the fourth quarter, we incur significant additional expense both prior to
and during the fourth quarter. These expenses may include acquisition of
additional inventory, advertising, in-store promotions, seasonal staffing needs
and other similar items. As a result, any factors negatively affecting us during
the fourth quarter of any year, including adverse weather and unfavorable
economic conditions, would have a material adverse effect on our results of
operations for the entire year.
OUR QUARTERLY RESULTS FLUCTUATE DUE TO A VARIETY OF FACTORS AND ARE NOT A
MEANINGFUL INDICATOR OF FUTURE PERFORMANCE.
Our quarterly results have fluctuated in the past and may fluctuate
significantly in the future depending upon a variety of factors, including,
among other things:
o the mix of merchandise sold,
o the timing and level of markdowns,
o promotional events,
o adverse weather conditions,
13
o store openings and closings,
o remodels or relocations of our stores,
o length and timing of the holiday seasons,
o competitive factors, and
o general economic and political conditions.
We believe that period-to-period comparisons of past operating results cannot be
relied upon as indicators of future performance. If our operating results in any
future period fall below the expectations of securities analysts and investors,
the market price of our securities would likely decline.
OUR SUCCESS DEPENDS ON KEY PERSONNEL WHOM WE MAY NOT BE ABLE TO RETAIN OR HIRE.
We are currently dependent upon the continued services, ability and
experience of our senior management team, particularly John E. ("Jack") Parker,
our Chief Executive Officer and Lawrence H. Fine, our President and Chief
Operating Officer. The loss of the services of Mr. Parker or Mr. Fine or other
members of senior management could have a material adverse effect on us. We do
not maintain any key man life insurance on any members of our senior management
team. Our success in the future will also be dependent upon our ability to
attract and retain other qualified personnel, including store managers.
WE FACE AN EXTREMELY COMPETITIVE RETAIL BUSINESS MARKET.
The arts and crafts retailing business is highly competitive. We
currently compete against a diverse group of retailers, including multi-store
arts and crafts retailers, mass merchandisers, small local specialty retailers,
mail order vendors, hardware stores and a variety of other retailers. Almost all
of our stores face aggressive competition in their market area from one or more
of our major competitors. In addition, alternative methods of selling crafts,
such as over the Internet or direct marketing, could result in additional future
competitors and increased price competition because our customers could more
readily comparison shop. Some of our competitors, particularly the mass
merchandisers and national arts and crafts chains, have substantially greater
financial resources and operate more stores than we do. We also compete with
these and other retailers for customers, suitable retail locations, suppliers
and qualified employees and management personnel. Moreover, increased
competition may result in potential or actual litigation between us and our
competitors relating to such activities as competitive sales and hiring
practices, exclusive relationships with key suppliers and manufacturers and
other matters. As a result, increased competition may adversely affect our
future financial performance, and we cannot assure you that we will be able to
compete effectively in the future.
WE MAY NOT BE ABLE TO SUCCESSFULLY ANTICIPATE CHANGES IN MERCHANDISE TRENDS AND
CONSUMER DEMANDS AND OUR FAILURE TO DO SO MAY LEAD TO LOSS OF SALES AND THE
CLOSING OF UNDER-PERFORMING STORES.
Our success depends, in large part, on our ability to anticipate and
respond in a timely manner to changing merchandise trends and consumer demand.
Accordingly, any delay or failure by us in identifying and correctly responding
to changing merchandise trends and consumer demand could adversely affect
consumer acceptance of the merchandise in our stores. In addition, we make
decisions regarding merchandise well in advance of each of the seasons in which
such merchandise will be sold. Significant deviations from projected demand for
merchandise would have a material adverse effect on
14
our results of operations and financial condition, either from lost sales due to
insufficient inventory or lower margins due to the need to mark down excess
inventory.
A material decline in sales and other adverse conditions resulting from
our failure to accurately anticipate changes in merchandise trends and consumer
demands may require us to close under-performing stores. Closing stores would
subject us to additional costs including, but not limited to, taking reserves on
impaired assets, loss of customer goodwill and costs associated with outstanding
lease obligations.
BECAUSE OF OUR SMALL STORE BASE ADVERSE EVENTS COULD HAVE A GREATER IMPACT ON US
THAN IF WE HAD A LARGER store base.
As of December 31, 2004, we operated a chain of 96 stores. The results
achieved to date by our relatively small store base may not be indicative of the
results of the larger number of stores which we intend to operate in existing
and new geographic markets. Because our current and planned stores are located
in the eastern United States, the effect on us of adverse events in this region
(such as weather or unfavorable regional economic conditions) may be greater
than if our stores were more geographically dispersed. Because overhead costs
are spread over a smaller store base, increases in our general and
administrative expenses could affect our profitability more negatively than if
we had a larger store base. Due to our relatively small store base, one or more
unsuccessful new stores, or a decline in sales at an existing store, will have a
more significant effect on our results of operations than would be the case if
we had a larger store base.
A DISRUPTION IN THE OPERATIONS OF OUR DISTRIBUTION CENTER COULD HAVE A MATERIAL
ADVERSE EFFECT ON OUR FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
Our distribution center in suburban Philadelphia handles 35% of the
merchandise sold in our stores. Our distribution center, and thus our
distribution operations, are vulnerable to damage or interruption from fire,
flood, power loss, break-ins and similar events. We have no formal disaster
recovery plan. The occurrence of unanticipated problems at our distribution
center, all of which may not be covered by insurance, could cause interruptions
or delays in our business which would have a material adverse effect on our
financial condition and results of operations.
WE DEPEND ON A NUMBER OF KEY VENDORS TO SUPPLY OUR MERCHANDISE, AND THE LOSS OF
ANY ONE OF OUR KEY VENDORS MAY RESULT IN A LOSS OF SALES AND SIGNIFICANTLY HARM
OUR OPERATING RESULTS.
Our performance depends on our ability to purchase our merchandise in
sufficient quantities at competitive prices. Although we have many sources of
merchandise, SBAR'S, our largest supplier of merchandise, accounted for
approximately 21% of the aggregate dollar volume of our purchases in 2004. We
depend on SBAR'S to provide us with low-cost merchandise that would be less
efficient for us to obtain directly from other vendors or manufacturers. Our
future success is dependent upon our ability to maintain a good relationship
with SBAR'S and our other principal suppliers. We do not have any long-term
purchase agreements or other contractual assurances of continued supply, pricing
or access to new products, and any vendor or distributor could discontinue
selling to us at any time. We may not be able to acquire desired merchandise in
sufficient quantities or on terms acceptable to us in the future, or be able to
develop relationships with new vendors to replace discontinued vendors. Our
inability to acquire suitable merchandise in the future or the loss of one or
more key vendors and our failure to replace any one or more of them may have a
material adverse effect on our business, results of operations and financial
condition. Our smaller vendors generally have limited resources, production
capacities and operating histories, and some of our vendors have limited the
distribution of their merchandise in the past. These vendors may be susceptible
to cash flow problems, downturns in economic conditions,
15
production difficulties, quality control issues and difficulty delivering
agreed-upon quantities on schedule. We also cannot assure you that we would be
able, if necessary, to return product to these vendors and obtain refunds of our
purchase price or obtain reimbursement or indemnification from any of our
vendors if their products prove defective.
WE FACE RISKS ASSOCIATED WITH SOURCING AND OBTAINING MERCHANDISE FROM FOREIGN
SOURCES.
We have in recent years placed increased emphasis on obtaining floral
and seasonal items from overseas vendors, with approximately 8% of all of our
merchandise being purchased directly by us from overseas vendors in 2004. In
addition, many of our domestic suppliers purchase a portion of their merchandise
from foreign sources. Our future success will depend in large measure upon our
ability to maintain our existing foreign supplier relationships and to develop
new ones. While we rely on our long-term relationships with our foreign vendors,
we have no long-term contracts with them. In addition, virtually all of the
merchandise which we purchase from foreign sources is manufactured in the
People's Republic of China. Since adoption of an "open-door policy" in 1978, the
Chinese government has been pursuing economic reform policies, including the
encouragement of foreign trade and investment and greater economic
decentralization. We cannot assure you, however, that China will continue to
pursue these policies. Many of our imported products are subject to duties,
tariffs and quotas that may limit the quantity of some types of goods which we
may import into the United States. Our dependence on foreign imports also makes
us vulnerable to risks associated with products manufactured abroad, including,
among other things:
o changes in import duties, tariffs and quotas,
o loss of "most favored nation" trading status by the United
States in relation to a particular foreign country, including
the People's Republic of China,
o work stoppages,
o delays in shipments,
o revaluation of the Chinese currency,
o freight cost increases,
o economic uncertainties, including inflation,
o foreign government political unrest, and
o trade restrictions, including the United States retaliating
against protectionist foreign trade practices.
If any of these or other factors were to render the conduct of business in
particular countries undesirable or impractical, our financial condition and
results of operations could be materially and adversely affected because we
would have difficulty sourcing the merchandise we need to remain competitive. An
interruption or delay in supply from our foreign sources, or the imposition of
additional duties, taxes or other charges on these imports could have a material
adverse effect on our business, financial condition and results of operations
unless and until alternative supply arrangements are secured. Products from
alternative sources may be of lesser quality and/or more expensive than those we
currently purchase, resulting in a loss of sales to us.
16
WE FACE RISKS RELATING TO INVENTORY.
We depend upon our in-store department managers to reorder the majority
of our merchandise. The failure of these department managers to accurately
respond to inventory requirements could adversely affect consumer acceptance of
the merchandise in our stores and negatively impact sales which could have a
material adverse effect on our results of operations and financial condition. If
we misjudge the market, we may significantly overstock unpopular products and be
forced to take significant inventory markdowns, which would have a negative
impact on our operating results and cash flow. Conversely, shortages of key
items could have a material adverse impact on our operating results. In
addition, we conduct a physical inventory in our stores once a year, and
quarterly results are based on an estimated gross margin and accrual for
estimated inventory shrinkage.
OUR MANAGEMENT INFORMATION SYSTEMS MAY PROVE INADEQUATE.
We depend on our management information systems for many aspects of our
business. Some of our key software has been developed by our own programmers and
this software may not be easily integrated with other software and systems. Our
business will be materially and adversely affected if our management information
systems are disrupted or if we are unable to improve, upgrade, integrate or
expand upon our systems, particularly in light of our intention to significantly
increase the number of stores that we operate.
OUR TWO LARGEST SHAREHOLDERS HAVE SUBSTANTIAL INFLUENCE OVER MATTERS REQUIRING A
SHAREHOLDER VOTE.
Our two largest shareholders own approximately 24% of our outstanding
common stock. These shareholders, therefore, have the ability to exert
significant influence over our board of directors and the outcome of shareholder
votes.
AN INCREASE IN THE COST OF FUEL OIL AND OIL-BASED PRODUCTS COULD IMPACT OUR
EARNINGS AND MARGINS.
Prices for oil have fluctuated dramatically in the past and have risen
in recent months as a result of disruptions in oil producing countries. These
fluctuations impact our distribution costs and the distribution costs of our
vendors. If the price of fuel oil continues to increase, our distribution costs
will increase, which could impact our earnings. In addition, many of the
products we sell, such as paints, are oil-based. If the price of oil continues
to increase, the price of the oil-based products we purchase and sell may
increase, which could impact our margins.
TERRORIST ATTACKS AND THREATS OR ACTUAL WAR MAY IMPACT ALL ASPECTS OF OUR
OPERATIONS, REVENUES, COSTS AND STOCK PRICE IN UNPREDICTABLE WAYS.
Terrorist attacks in the United States, as well as future events
occurring in response or in connection to them, including, without limitation,
future terrorist attacks against U.S. targets, rumors or threats of war, actual
conflicts involving the United States or its allies or military or trade
disruptions impacting our domestic or foreign suppliers of merchandise, may
impact our operations, including, among other things, causing delays or losses
in the delivery of merchandise to us and decreased sales of the products we
carry. More generally, any of these events could cause consumer confidence and
spending to decrease or result in increased volatility in the United States and
worldwide financial markets and economy. They also could result in a deepening
of any economic recession in the United States or abroad. These events could
also temporarily increase demand for our products as consumers respond by
traveling less and engaging in home-based leisure activities which could
contribute to a temporary increase in our sales which may not be sustainable.
Any of these occurrences could have a
17
significant impact on our operating results, revenues and costs and may result
in the volatility of the market price for our common stock and on the future
price of our common stock.
EXECUTIVE OFFICERS OF THE REGISTRANT
Our executive officers are as follows:
NAME AGE POSITION
- -------------------------------------- --- -----------------------------------------------------
John E. (Jack) Parker................. 63 Chief Executive Officer and Director
Lawrence H. Fine...................... 51 President, Chief Operating Officer and Director
Patricia A. Parker.................... 62 Executive Vice President, Merchandising
Leslie H. Gordon...................... 61 Executive Vice President and Chief Financial Officer
Janet Parker.......................... 42 Executive Vice President, Merchandising and Marketing
Jeffrey C. Gerstel.................... 40 Executive Vice President, Store Operations
Mr. Parker, our co-founder, has been Chief Executive Officer and a
director since our inception and was our President from inception until June
2001. From 1959 to 1984, Mr. Parker worked for the F.W. Woolworth Company, a
general merchandise retailer, in various management positions, most recently as
President and Chief Executive Officer of the United States General Merchandise
Group where he was responsible for more than 1,000 stores, including the entire
domestic chain of Woolworth retail stores. Mr. Parker is the husband of Patricia
A. Parker and the father of Janet Parker.
Mr. Fine has served as our President since June 2001 and our Chief
Operating Officer since February 2003. Mr. Fine was elected as a director in
August 2002. Previously Mr. Fine was Executive Vice President - General
Merchandise Manager for arts and crafts retailer Michaels Stores, Inc., a
position he held since December 1996. From 1995 until joining Michaels in
December 1996, he was Senior Vice President of Merchandising for Party City
Corp., a specialty retailer of party merchandise. Prior to joining Party City,
Mr. Fine held a variety of merchandising positions with the Jamesway
Corporation, a retail mass-merchandiser, for nearly 16 years.
Ms. Patricia Parker has served as our Executive Vice President,
Merchandising since September 1990. From 1985 to 1990, she served as our Vice
President. Ms. Parker is responsible for purchasing all of our floral and
seasonal merchandise and our import purchasing program. Ms. Parker served as a
director of the Company until August 2002. Ms. Parker is the wife of Jack Parker
and the mother of Janet Parker.
Mr. Gordon has served as our Executive Vice President and Chief
Financial Officer since February 1999. From March 1996 to January 1999, Mr.
Gordon served as our Senior Vice President, Treasurer and Chief Financial
Officer. From 1992 to 1995, Mr. Gordon was Senior Vice President, Finance of C &
J Clark America, Inc., a shoe manufacturer, wholesaler and retailer. From 1986
to 1992, Mr. Gordon served as Senior Vice President, Finance, of SILO, Inc., an
electronics retailer.
Ms. Janet Parker has served as our Executive Vice President,
Merchandising and Marketing since February 2003. From 2001 to January 2003 Ms.
Parker served as Senior Vice President, Merchandising and Marketing and from
1994 to 2001 Ms. Parker served as Senior Vice President, Merchandising. From
1990 to 1994, Ms. Parker served as our Vice President of Administration and from
1985 to 1990, she served as our Accounting Manager. Ms. Parker is the daughter
of Jack and Patricia A. Parker.
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Mr. Gerstel has been Executive Vice President, Store Operations since
January 2005. Previously Mr. Gerstel was President/Chief Operating Officer for
fabrics and crafts retailer Rag Shops, Inc., a position he held since 2001. From
1999 until joining Rag Shops in 2001, he was Chief Operating Officer for The
Parts Plus Group, Inc., a distributor/retailer of automotive replacement parts
and from 1997 to 1999 he was their Chief Financial Officer. Prior to joining The
Parts Plus Group, Mr. Gerstel held a variety of financial and operating
positions with Family Bargain Corporation, an off-price apparel retailer, for
seven years.
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ITEM 2. PROPERTIES.
As of December 31, 2004, we operated 96 stores in 17 states, all of
which are leased and located within an 800 mile radius of our suburban
Philadelphia distribution center. The number of our stores located in each state
and the city in which each store is located is shown in the following table:
ALABAMA (2) MASSACHUSETTS (9) NEW YORK (17) PENNSYLVANIA (18)
- ------- ------------- -------- -------------
Birmingham Bellingham Amherst Allentown
Montgomery Brockton Binghamton Altoona
Danvers Carle Place Bensalem
CONNECTICUT (4) Framingham DeWitt Broomall
- ----------- Holyoke Hamburg Erie
Manchester Hyannis Hauppauge Exton
New London North Dartmouth Holbrook Hanover
Orange Woburn Ithaca Harrisburg
Plainville Worcester Latham Lancaster
Middletown Langhorne
DELAWARE (2) NEW HAMPSHIRE (2) Nanuet Mechanicsburg
- -------- ------------- Plainedge Montgomeryville
Dover Nashua Poughkeepsie Muncy
Wilmington Salem Saratoga Springs Philadelphia
Syracuse Reading
GEORGIA (1) NEW JERSEY (12) Utica Scranton
- ------- ---------- Yorktown Heights Stroudsburg
Columbus Brick Town Wilkes Barre
Clifton NORTH CAROLINA (10)
MAINE (1) Deptford --------------- RHODE ISLAND (1)
- ----- East Brunswick Ashville ------------
Portland English Creek Cary Warwick
Hamilton Concord
Linden Durham SOUTH CAROLINA (3)
MARYLAND (7) Moorestown Fayetteville --------------
- -------- Paramus Greensboro Columbia
Bowie Parsippany Hickory Greenville
Frederick Shrewsbury Raleigh N. Charleston
Glen Burnie Watchung Wilmington
Hagerstown Winston-Salem TENNESSEE (1)
Rockville ---------
Waldorf Knoxville
White Marsh
VIRGINIA (4)
--------
Fairfax
Falls Church
Manassas
Virginia Beach
WEST VIRGINIA (2)
-------------
Clarksburg
Huntington
Most store leases have an average initial term of ten years, with two
five-year renewal options, and provide for predetermined escalations in future
minimum annual rent or additional rent contingent upon store sales levels. Rent
escalations are amortized over the initial lease term commencing on the date we
take possession. The pro rata portion of scheduled rent escalations has been
included in other long-term liabilities in our balance sheet.
20
We select store sites on the basis of various factors, including
physical location, demographics, anchor and other tenants, location within the
center, parking and available lease terms. We look for co-tenants that generate
a high rate of shopping traffic, such as specialty value-oriented women's
retailers, leading chain supermarkets, discount chains, home improvement
centers, book stores and domestics stores. We believe our stores are attractive
to developers because they attract high rates of customer traffic and generate
above average net sales per square foot.
In the third quarter of 2004 we moved into our new distribution center
and office complex. This facility contains 710,000 square feet for distribution
and warehousing plus 60,000 square feet of office space. This state of the art
facility is positioned to handle the future expansion of the company and will
enable us to more effectively service all of our existing locations and a total
of approximately 175 store locations located within reach of the new facility.
The new facility includes an automated picking and sortation system which will
enable us to achieve significant increases in labor productivity. The total cost
of this facility was $45.0 million.
The lease on our previous distribution facility of 253,000 square feet
expires at the end of March 2005.
ITEM 3. LEGAL PROCEEDINGS.
From time to time, we are involved in litigation arising in the ordinary
course of our business. None of the pending litigation, in the opinion of
management, is likely to have a materially adverse effect on our results of
operations or financial condition. We maintain general liability insurance in
amounts deemed adequate by management.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted to a vote of security holders during the
fourth quarter of 2004, through the solicitation of proxies or otherwise.
21
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER
MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.
Our common stock is quoted on the Nasdaq National Market and trades
under the symbol "ACMR." The following table sets forth the high and low sales
prices per share of our common stock as reported on the Nasdaq National Market
for the periods indicated.
YEAR ENDED DECEMBER 31, 2004 HIGH LOW
----------------------------------------------------- -------- --------
First Quarter........................................ $ 27.00 $ 18.15
Second Quarter....................................... 29.53 23.27
Third Quarter........................................ 27.76 19.97
Fourth Quarter....................................... 31.37 23.06
YEAR ENDED DECEMBER 31, 2003
-----------------------------------------------------
First Quarter........................................ $ 15.15 $ 9.95
Second Quarter....................................... 20.47 13.52
Third Quarter........................................ 27.83 19.15
Fourth Quarter....................................... 26.10 18.26
The number of record holders of our common stock as of March 10, 2005
was approximately 104.
Since becoming a public company we have never declared or paid any cash
dividends on our common stock. We currently intend to retain our future
earnings, if any, to finance the expansion of our business and do not expect to
pay any cash dividends in the foreseeable future.
See Part III, Item 12 for a description of our equity compensation
plans.
22
ITEM 6. SELECTED FINANCIAL DATA.
The following selected financial data are derived from the consolidated
financial statements of A.C. Moore Arts & Crafts, Inc. and have been restated to
reflect adjustments to the originally filed financial statements. These
restatements are discussed in "Note 2. Restatement of Financial Statements"
under Notes to Consolidated Financial Statements included in Item 8, "Financial
Statements and Supplementary Data" of this Form 10-K. The data set forth below
should be read in conjunction with "Management's Discussion and Analysis of
Financial Condition and Results of Operations," the section "Cautionary
Statement Relating to Forward-Looking Statements" and the Company's Consolidated
Financial Statements and Notes thereto.
YEAR ENDED DECEMBER 31,
----------------------------------------------------------------------------
2003 2002 2001 2000
2004 as restated as restated as restated (5) as restated (5)
---------- ----------- ----------- --------------- ----------------
Statement of Income Data:
Net sales ....................................... $ 497,626 $ 433,928 $ 393,392 $ 332,413 $ 262,057
Gross margin (1) ................................ 197,754 161,894 148,791 124,098 96,207
Selling, general and administrative expenses(1).. 166,485 131,890 122,984 105,383 83,478
Store pre-opening expenses ...................... 4,036 2,842 2,884 3,308 2,187
Income from operations .......................... 27,233 27,162 22,923 15,407 10,542
Net income ...................................... 16,848 17,034 14,208 9,060 6,420
Net income per share, diluted(2) ................ $ 0.84 $ 0.86 $ 0.75 $ 0.58 $ 0.43
Weighted average shares outstanding, diluted(2) ... 20,012 19,729 18,828 15,505 14,888
Balance Sheet Data (as of):
Working capital ................................. $ 150,414 $ 112,751 $ 123,811 $ 56,422 $ 47,168
Total assets .................................... 304,112 235,163 198,559 124,354 107,599
Total debt ...................................... 29,357 504 1,846 3,174 1,201
Shareholders' equity ............................ 186,215 165,259 142,856 72,801 63,202
Other Data:
Cash flows from operating activities ............ $ 18,495 $ 23,227 $ 9,656 $ 7,141 $ 6,864
Number of stores open at end of period .......... 96 81 71 61 50
Net sales per total square foot(3) .............. $ 256 $ 260 $ 272 $ 273 $ 271
Average net sales per store (000's)(3) .......... $ 5,802 $ 5,839 $ 6,064 $ 6,070 $ 5,919
Comparable store sales increase(4) .............. 4% 2% 5% 8% 3%
- ----------
(1) For all vendor contracts entered into or modified after December 31,
2002, the Company has adopted the Emerging Issues Task Force (EITF)
02-16, Accounting by a Customer (including a Reseller) for Cash
Consideration Received from a Vendor. EITF 02-16 addresses the
accounting for cash consideration received by a customer from a vendor
(e.g., slotting fees, cooperative advertising payments, buydowns) and
rebates or refunds from a vendor that is payable only if the customer
completes a specified cumulative level of purchases or remains a
customer for a specified time period. The change in accounting means
that vendor monies which support the Company's advertising programs are
now being recorded as a reduction in the cost of inventory, and are
recognized as a reduction of cost of goods sold when the inventory is
sold. Previously, they were accounted for as an offset to advertising
costs. This accounting change results in a timing difference as to when
these monies are recognized in the Company's income statement. The
adoption of EITF 02-16 reduced the Company's 2004 net income by $3.4
million or $0.17 per share. The change increased gross margin by $11.9
million, increased selling, general and administrative costs by $17.4
million, and decreased inventory by $5.5 million.
(2) All share and per share data reflect the two-for-one stock split paid
July 31, 2002.
(3) Includes only stores open during the entire period.
(4) Stores are added to the comparable store base at the beginning of their
fourteenth full month of operation.
23
(5)
2001 DATA 2000 DATA
-------------------------------------- --------------------------------------
AS AS
PREVIOUSLY PREVIOUSLY
REPORTED ADJUSTMENT AS RESTATED REPORTED ADJUSTMENT AS RESTATED
---------- ---------- ----------- ---------- ---------- -----------
Selling, general and administrative expenses.. $ 105,447 $ (64) $ 105,383 $ 83,516 $ (38) $ 83,478
Pre-opening expenses ......................... 2,518 790 3,308 1,928 259 2,187
Income from operations ....................... 16,133 (726) 15,407 10,763 (221) 10,542
Net income ................................... 9,507 (447) 9,060 6,557 (137) 6,420
Net income per share, diluted ................ 0.61 (0.03) 0.58 0.44 (0.01) 0.43
Total assets ................................. 123,811 543 124,354 107,392 207 107,599
Shareholders' equity ......................... 73,727 (926) 72,801 63,681 (479) 63,202
Cash flows from operating activities ......... 6,768 373 7,141 6,709 155 6,864
24
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
RESTATEMENT OF FINANCIAL STATEMENTS
We have determined that our method of accounting for leasehold
improvements funded by landlord incentives or allowances (tenant improvement
allowances) and our method of accounting for rent holidays were not in
accordance with accounting principles generally accepted in the United States of
America. As a result, we have restated our consolidated financial statements for
each of the years ended December 31, 2003 and 2002in this annual report on
Form 10-K.
We have historically accounted for tenant improvement allowances as a
reduction of the property, plant and equipment account on our balance sheet,
amortized the allowances as a reduction to depreciation expense in our income
statement and reflected the cash received within investing activities in our
statement of cash flows. FASB Technical Bulletin 88-1 ("FTB 88-1"), "Issues
Relating to Accounting for Leases," requires these allowances to be recorded as
deferred rent liabilities on the consolidated balance sheets and amortized as a
reduction to rent expense on the income statement. In addition, the cash
received by us should have been recorded as a component of operating activities
on our consolidated statements of cash flows. Depreciation of the leasehold
improvement begins effective with the opening of the store as we have accounted
for it in the past. However, amortization of the landlord allowance commences on
the date we have the right to control the use of the leased property, which is
consistent with the recording of rent expense as described below. Previously, we
had commenced amortization on the date the store was opened.
We have historically recognized rent holiday periods on a straight-line
basis over the lease term commencing with the opening date for each store. The
period during which the store was being fixtured and stocked with merchandise
was excluded from the straight-line rent schedule. FASB Technical Bulletin 85-3
("FTB 85-3"), "Accounting for Operating Leases with Scheduled Rent Increases,"
states that rent holidays should be recognized on a straight-line basis over the
lease term, which commences on the date we have the right to control the use of
the leased property. For us, this is generally one to three months prior to a
store opening date. The amount of rent expensed prior to store opening will be
included in "Pre-opening expenses" on our consolidated statements of income.
The effect of these adjustments is a reduction to retained earnings of
$926,000, net of tax, as of January 1, 2002 and decreases to net income of
$249,000 or $0.02 per share, and $277,000 or $0.02 per share, in 2003 and 2002,
respectively.
See Note 2 to Consolidated Financial Statements of this annual report on
Form 10-K for a summary of the effects of these changes on our consolidated
balance sheet as of December 31, 2003, as well as on our consolidated statements
of income, changes in shareholders' equity and cash flows for 2003 and 2002. The
discussion contained in "Management's Discussion and Analysis of Financial
Condition and Results of Operations" gives effect to these corrections.
OVERVIEW
We are a rapidly growing specialty retailer offering a vast selection of
arts, crafts and floral merchandise to a broad demographic of consumers. Our
target customers are primarily women between the ages of 25 and 55 who are
looking for ideas to decorate their homes, create handmade items, or otherwise
engage in arts and crafts activities. We have grown from 17 stores in January
1997 to 96 stores in December 2004. Our stores are located in the eastern United
States from Maine to Alabama.
25
We established our first store in Moorestown, New Jersey in 1984 and
grew to five stores by the end of 1993. We added a total of 12 additional stores
in 1994 and 1995. In 1995, we began implementing an aggressive expansion plan
and built our infrastructure to position us for that growth. By the end of 1996,
we had recruited experienced senior retail executives in the areas of
operations, merchandising and finance, and made key additions and changes in
other areas such as buying, information systems, human resources and real
estate. From 1997 through 2004 we continued to strengthen and expand our
management team, including the addition of Lawrence H. Fine as our President in
June 2001.
We continued to develop our operating systems including a point of sale
system, a radio frequency re-order system, a real time merchandise information
and control system, a warehouse management system and an automated ordering
system using EDI (electronic data interchange) to link us electronically with
most of our vendors. We also implemented updated general ledger and payroll
systems.
In 1997, we received financing for our growth through an initial public
offering of our common stock with net proceeds, after the payment of outstanding
debt, of approximately $16.0 million. We received an additional $52.1 million
from the sale of shares in March 2002.
Our expansion plans continued as we opened 33 new stores in the period
2000 to 2002, 10 new stores in 2003 and 15 new stores in 2004. In 2002 we closed
two stores; one was destroyed by fire and the other was in an area which had
negative demographic changes and the lease had expired. During the next two
years, we intend to increase our store base by approximately 15% to 20% per
year, all within the reach of our suburban Philadelphia distribution center, an
area encompassing approximately 50% of the U.S. population. We believe we can
operate at least 175 stores in this area without significantly diluting sales in
our existing stores. To accommodate this growth, we constructed a new
distribution center which opened in the third quarter of 2004. The new
distribution center is 710,000 square feet plus 60,000 square feet of office
space.
Starting in 2004, vendor monies which support our advertising programs
are recorded as a reduction in the cost of inventory, and are recognized as a
reduction to cost of goods sold when the inventory is sold. Previously, they
were accounted for as an offset to advertising costs. This accounting change
results in a timing difference as to when these monies are recognized in our
income statement. In 2004, this accounting change resulted in a reduction in the
Company's net income by $3.4 million, or $0.17 per share. For the year, the
change increased gross margin by $11.9 million, increased selling general and
administrative costs by $17.4 million and decreased inventory by $5.5 million.
In 2003 we recorded vendor advertising support as a reduction of selling general
and administrative expenses in the amount of $13.6 million.
Our sales for the year ended December 31, 2004 were $497.6 million, an
increase of 14.7% over 2003 sales of $433.9 million. Same store sales increased
4%. Net income for the year 2004 decreased by 1.1% to $16.8 million or $0.84 per
fully-diluted share after the impact of an accounting change for vendor monies
which support our advertising programs. In 2003, our net income was $17.0
million or $0.86 per fully-diluted share.
On July 27, 2004, a section of the roof on our Blackwood, New Jersey
warehouse and corporate headquarters facility collapsed. The facility employed
over 150 team members, none of whom were injured in the incident. At the time of
the incident, we had been in the process of moving into our new distribution
center in Winslow Township, New Jersey. The move of the offices was expedited
and completed on August 4, 2004.
26
The roof collapse in our then existing distribution center was a major
disruption to our business. We lost the ability to ship any merchandise from our
warehouses for one week. During the next seven weeks, over $7.0 million in
merchandise at cost was unavailable to be shipped to the stores as we had to
relocate the merchandise to the new distribution center and ensure that the
merchandise was salable.
The effort of recovering from the roof collapse resulted in delaying our
ability to bring our new facility up to the level of operation that we had
anticipated. We did not ship merchandise to stores in our customary manner. We
lost over $800,000 of imported fall ribbon, flags, fall seasonal and basic
floral merchandise that could not be replaced domestically. As we could not
ensure merchandise availability, we reduced two key promotions in August and
September of 2004. We estimate the unavailability of merchandise and the
reduction in promotional events negatively impacted third quarter sales in
excess of $4.0 million. The events surrounding the roof collapse also required
us to add to staff and delayed our ability to achieve the productivity we
anticipated in the new facility in the fourth quarter of 2004.
We insure our warehouse inventory at selling value and therefore
anticipate collection on our insurance claim at amounts which cover our lost
profits. Included in our results is an estimate of the insurance claim recovery
for lost merchandise and other expenses related to the roof collapse at its
retail value of$3.3 million, which exceeds carrying value by $1.3 million. This
$1.3 million was recorded as a reduction in the cost of goods sold during the
third quarter of 2004.
Our success depends, in large part, on our ability to anticipate and
respond in a timely manner to changing merchandise trends and consumer demands.
Accordingly, any delay or failure by us in identifying and correctly responding
to changing merchandise trends and consumer demand could adversely affect
consumer acceptance of the merchandise in our stores. In addition, we make
decisions regarding merchandise well in advance of each of the seasons in which
such merchandise will be sold. Significant deviations from projected demand for
merchandise would have a material adverse effect on our results of operations
and financial condition, either from lost sales due to insufficient inventory or
lower margins due to the need to mark down excess inventory.
In addition, our success depends on our ability to locate and open new
store locations. We plan to open 15 new stores in 2005. We expect to open two
stores in the second quarter and the remainder split between quarters three and
four. We will also relocate one store.
On December 16, 2004, the Financial Accounting Standards Board (FASB)
issued FASB Statement No. 123(R), Share-Based Payment (FAS 123(R)). FAS 123(R)
revised FASB Statement No. 123, Accounting for Stock-Based Compensation (FAS
123) and requires companies to expense the fair value of employee stock options
and other forms of stock-based compensation. FAS 123(R) must be adopted no later
than for periods beginning after June 15, 2005.
Previously, in complying with FAS 123, we disclosed the value of stock
options granted and its pro-forma impact on our net income in a footnote to our
financial statements. We are currently considering which transition method we
expect to select in adopting FAS 123(R), and whether this new accounting
requirement will result in any changes in compensation strategies. Information
contained in our footnotes provide the impact on pro forma net income for past
financial statements. The impact of the adoption of FAS 123(R) on future
financial statements is expected to be material.
27
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, selected
statement of operations data expressed as a percentage of net sales:
YEAR ENDED DECEMBER 31,
----------------------------------
2004 2003 2002
-------- -------- --------
Net sales ........................................ 100.0% 100.0% 100.0%
Cost of sales .................................... 60.3 62.7 62.2
-------- -------- --------
Gross margin ..................................... 39.7 37.3 37.8
Selling, general and administrative expenses ..... 33.4 30.4 31.3
Store pre-opening expenses ....................... 0.8 0.6 0.7
-------- -------- --------
Income from operations ........................... 5.5 6.3 5.8
Interest expense (income), net ................... (0.0) (0.1) (0.1)
-------- -------- --------
Income before income taxes ....................... 5.5 6.4 5.9
Provision for income taxes ....................... 2.1 2.5 2.3
-------- -------- --------
Net income ....................................... 3.4% 3.9% 3.6%
======== ======== ========
2004 COMPARED TO 2003
Net Sales. Net sales increased $63.7 million, or 14.7%, to $497.6
million in 2004 from $433.9 million in 2003. This increase resulted from (i) net
sales of $27.7 million from 15 new stores opened in 2004, (ii) net sales of
$20.0 million from stores opened in 2003 not included in the comparable store
base, and (iii) a comparable store sales increase of $16.0 million, or 4%. Sales
benefited from positive weather conditions in the first and fourth quarters but
were negatively impacted by weather conditions in the second quarter compared
with the comparable periods in 2003. Sales in the third quarter were impacted by
the roof collapse. For the year, customer transactions in comparable stores
increased by 2% compared with 2003 and the average sale increased 2%. Sales
growth was strongest in our scrapbooking, yarn, basic crafts, wedding and
jewelry making categories. Stores are added to the comparable store base at the
beginning of the fourteenth full month of operation.
Gross Margin. Gross margin is net sales minus the cost of merchandise
which includes purchasing and receiving costs, inbound freight, duties related
to import purchases, internal transfer costs and warehousing costs. Gross margin
as a percent of net sales increased 2.4% in 2004, to 39.7% from 37.3% in 2003.
The impact of the change in accounting for cash consideration received from
vendors increased gross margin by $11.9 million, or an increase of 2.4% of
sales. An additional 0.2% is attributable to an estimated $0.9 million of
insurance proceeds in excess of cost from the insurance claim associated with
the roof collapse in our former warehouse in 2004 as compared with proceeds from
an insurance claim from the fire in a warehouse in 2003. Fewer sales at
promotional prices and the mix of merchandise sold increased margins by 0.1%.
Additional distribution costs associated with the move to our new distribution
center and a loss of productivity due to the events surrounding the roof
collapse reduced our gross margin by 0.3%.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses include (i) direct store level expenses, including rent
and related operating costs, payroll, advertising, depreciations and other
direct costs, and (ii) corporate level costs not directly associated with or
allocable to cost of sales including executive salaries, accounting and finance,
corporate information systems, office facilities and other expenses.
28
Selling, general and administrative expenses, as a percent of net sales,
increased 3.0% in 2004, to 33.4% from 30.4% in 2003. The impact of the change in
accounting for vendor monies received to support our advertising programs
increased expenses by $17.4 million, which represents 3.5% of this increase. As
a percent of net sales, store expense decreased by 0.3% and corporate office
costs decreased by 0.2% as both costs were leveraged over the larger sales base.
The decrease in corporate office costs was achieved despite an increase of
$670,000 in external fees and significant amounts of internal resources related
to the company's compliance with Section 404 of the Sarbanes-Oxley Act of 2002.
Net Interest (Income). In 2004 we had net interest income of $163,000
compared with net interest income of $404,000 in 2003. The decrease is
principally due to interest expense from our mortgages, which expense commenced
in August 2004.
Store Pre-Opening Expenses. We expense store pre-opening costs as they
are incurred, which would include rent holidays prior to store opening.
Pre-opening expenses for the 15 new stores opened in 2004 and the two stores
which were relocated during the year, amounted to $4.0 million. In 2003, we
opened ten new stores and relocated one store and incurred pre-opening expenses
of $2.8 million.
Income Taxes. Our effective income tax rate was 38.5% for 2004 and 38.2%
for 2003.
2003 COMPARED TO 2002
Net Sales. Net sales increased $40.5 million, or 10.3%, to $433.9
million in 2003 from $393.4 million in 2002. This increase resulted from (i) net
sales of $19.4 million from ten new stores opened in 2003, (ii) net sales of
$14.6 million from stores opened in 2002 which were not included in the
comparable store base, and (iii) a comparable store sales increase of $6.5
million, or 2%. Sales were significantly impacted by the adverse weather
conditions we experienced in the first and fourth quarters of 2003.
Gross Margin. Gross margin as a percent of net sales decreased 0.5% to
37.3% in 2003 from 37.8% in 2002. A general decline in our floral and
accessories business and accelerated markdowns to clear seasonal inventory after
major snow storms in the first and fourth quarters of 2003 accounted for 0.5% of
the decrease and an industry wide increase in domestic and international freight
costs accounted for 0.1% of the decrease. Net insurance proceeds of retail value
over cost resulting from an insurance claim from a fire in one of our warehouses
increased our margin by 0.1%.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses, as a percent of net sales, decreased 0.9% in 2003 to
30.4% from 31.3% in 2002. A relative reduction of corporate office expenses
accounted for 0.5% of the decrease, additional vendor co-operative advertising
funds accounted for 0.5% of the decrease and there was a decrease of 0.1% as the
result of a) the proceeds in excess of costs resulting from an insurance claim
for a fire which destroyed one of our stores and b) the costs relating to the
early termination of a lease on a store which we relocated. Other store
expenses, principally store occupancy costs, increased by 0.2% of sales.
Store Pre-Opening Expenses. Pre-opening expenses for the 10 new stores
opened in 2003 and one store which was relocated during the year, amounted to
$2.8 million. In 2002, we opened twelve new stores and incurred pre-opening
expenses of $2.9 million.
Net Interest (Income). In 2003 we had net interest income of $404,000
compared with net interest income of $473,000 in 2002.
29
Income Taxes. Our effective income tax rate was 38.2% for 2003 and 39.3%
for 2002. In 2002, we provided additional state taxes due to changes in state
tax laws which impacted 2002 and prior years.
QUARTERLY RESULTS AND SEASONALITY
The following table sets forth our unaudited quarterly operating results
for our eight most recent quarterly periods, restated for the Company's
corrections to properly account for tenant improvement allowances and rent
holidays (see Note 2 to Consolidated Financial Statements), and the number of
stores open at the end of each period (dollars in thousands, except share and
store data).
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
---------- ---------- ---------- ----------
2004
Net sales .............................................. $ 111,469 $ 101,194 $ 107,713 $ 177,250
Gross margin ........................................... 41,930 39,342 43,703 72,779
Income from operations (as previously reported) ........ 1,838 486 1,617
Income from operations (as restated, see Note 2) ....... 1,878 421 1,420 23,514
Net income (as previously reported) .................... 1,204 375 986
Net income (as restated, see Note 2) ................... 1,228 335 865 14,420
Net income per share, diluted (as previously
reported) ............................................. $ 0.06 $ 0.02 $ 0.05
Net income per share, diluted (as restated, see
Note 2) ............................................... $ 0.06 $ 0.02 $ 0.04 $ 0.72
Diluted average shares outstanding ..................... 20,043 20,108 20,114 20,167
Number of stores open at end of period ................. 84 84 91 96
Comparable store sales increase (decrease) ............. 9.4% (1.0)% 0.3% 5.6%
2003
Net sales .............................................. $ 91,952 $ 93,686 $ 98,600 $ 149,690
Gross margin ........................................... 33,535 34,793 36,613 56,953
Income from operations (as previously reported) ........ 571 1,583 1,950 23,506
Income from operations (as restated, see Note 2) ....... 601 1,532 1,764 23,265
Net income (as previously reported) .................... 420 1,051 1,262 14,578
Net income (as restated, see Note 2) ................... 438 1,019 1,148 14,429
Net income per share, diluted (as previously
reported) .............................................. $ 0.02 $ 0.05 $ 0.06 $ 0.73
Net income per share, diluted (as restated, see Note 2). $ 0.02 $ 0.05 $ 0.06 $ 0.72
Diluted average shares outstanding ..................... 19,603 19,762 19,980 20,011
Number of stores open at end of period ................. 73 74 78 81
Comparable store sales increase (decrease) ............. (2.0)% 4.0% 2.0% 3.0%
Due to the importance of our peak selling season, which includes
Fall/Halloween, Thanksgiving and Christmas, the fourth quarter has historically
contributed, and is expected to continue to contribute, a significant portion of
our profitability for the entire year. As a result, any factors negatively
affecting us during the fourth quarter of any year, including adverse weather
and unfavorable economic conditions, would have a material adverse effect on our
results of operations for the entire year.
Our quarterly results of operations also may fluctuate based upon such
factors as the length of holiday seasons, the date on which holidays fall, the
number and timing of new store openings, the amount of store pre-opening
expenses, the amount of net sales contributed by new and existing stores, the
mix of products sold, the amount of sales returns, the timing and level of
markdowns and other competitive factors.
30
LIQUIDITY AND CAPITAL RESOURCES
Our cash is used primarily for working capital to support our inventory
requirements and fixtures and equipment, pre-opening expenses and beginning
inventory for new stores. In recent years, we have financed our operations and
new store openings primarily with cash from operations, the net proceeds we
received from our initial public offering in 1997 and from a secondary offering
in 2002. In the first half of 2004 we borrowed $30.0 million under two mortgage
agreements we have with Wachovia Bank to finance our new distribution center and
corporate offices.
At December 31, 2004 and 2003, our working capital was $150.4 million
and $112.8 million, respectively. During 2004, 2003 and 2002, cash of $18.5
million, $23.2 million and $9.7 million was generated by operations,
respectively. In these three periods, $21.3 million, $19.0 million and $16.8
million of cash, respectively, was used to increase inventory levels to support
both new and existing stores. In these periods, part of the inventory increase
was financed through increases in accounts payable of $14.5 million, $9.8
million and $2.6 million, respectively. We also had the tax benefit from our
executives exercising stock options in the amount of $2.3 million in 2004 and
$2.7 million in 2003.
Net cash used in investing activities during 2004, 2003 and 2002 was $
44.4 million, $42.5 million and $11.2 million, respectively. In 2004 this use of
cash was for capital expenditures of $41.0 million. We spent $27.0 million for
the construction of our new distribution center, $11.1 million for new stores
and the remainder for remodeling existing stores and upgrading systems. The
total cost of the new distribution center was $45.0 million, including
capitalized interest of $202,000. In 2003 and 2002, cash used in investing
activities was for capital expenditures including $16.6 million for land and the
construction of our distribution center, new stores, remodeling existing stores,
upgrading systems and warehouse equipment. In 2005, we expect to spend
approximately $17.5 million on capital expenditures, which includes $10.5
million for new store openings, and the remainder for remodeling existing
stores, upgrading systems in existing stores, warehouse equipment and corporate
systems development.
On October 28, 2003 we signed two mortgage agreements with Wachovia Bank
relating to the new distribution center and corporate offices. The mortgages,
totaling $30.0 million of which $29.4 million was outstanding at December 31,
2004, are secured by land, building, and equipment. Of the $30.0 million, $22.5
million is repayable over 15 years and $7.5 million is repayable over 7 years.
Monthly payments totaling $214,000 started in October 2004. The mortgages bear
interest at rates that will vary between LIBOR plus 85 basis points and LIBOR
plus 135 basis points, depending on the debt service coverage ratio and the
length of the mortgage payment. We have the option of fixing the interest rate
at any time. The mortgages contain covenants that, among other things, restrict
our ability to incur additional indebtedness or guarantee obligations in excess
of $8.0 million, engage in mergers or consolidations, dispose of assets, make
acquisitions requiring a cash outlay in excess of $10.0 million, make loans or
advances in excess of $1.0 million, or change the nature of our business. We are
restricted in capital expenditures, paying dividends and making other
distributions unless certain financial covenants are maintained including those
relating to tangible net worth, funded debt and a current ratio. The mortgages
also define various events of default, including cross default provisions,
defaults for any material judgments or a change in control. At December 31,
2004, the Company was in compliance with these agreements.
We currently have a $25.0 million line of credit agreement with Wachovia
Bank, which expires on May 1, 2006. Borrowing under this line will bear interest
at LIBOR plus 95 basis points and is subject to the same covenants as the
mortgages described above. As of December 31, 2004, there were no borrowings
outstanding under this agreement.
31
In the year ended December 31, 2002, net cash provided by financing
activities was principally the $52.1 million proceeds from our sale of shares in
March 2002.
We believe the cash generated from operations during the year and
available borrowings under our line of credit agreement with Wachovia Bank will
be sufficient to finance our working capital and capital expenditure
requirements for at least the next 12 months.
We lease our retail stores and some vehicles under noncancelable
operating leases. The lease for our previous corporate headquarters expires
March 31, 2005. At December 31, 2004 our total obligations under these operating
leases were $240.3 million. The following table reflects as of December 31, 2004
the payments due for the periods indicated.
PAYMENTS DUE BY PERIOD ($000)
--------------------------------------------------------------
LESS THAN AFTER 5
CONTRACTUAL OBLIGATIONS TOTAL 1 YEAR 1-3 YEARS 4-5 YEARS YEARS
- ---------------------------------------- ---------- ---------- ---------- ---------- ----------
Long-term debt ......................... $ 29,357 $ 2,571 $ 7,713 $ 5,142 $ 13,931
Store Operating Leases (1) ............. 240,345 28,672 86,393 49,481 75,799
Vehicle and Equipment Leases ........... 1,103 320 618 164 1
Purchase Obligations (2) ............... 204 99 105 -- --
Deferred Income Taxes (3) .............. -- -- -- -- --
Total Contractual Cash Obligations ..... $ 271,009 $ 31,662 $ 94,829 $ 54,787 $ 89,731
- ----------
(1) Most store leases have an average initial term of ten years, with two
five year renewal options, and provide for predetermined escalation in
future minimum annual rent. Rent escalations are amortized over the
initial lease term commencing on the date we take possession. The pro
rata portion of scheduled rent escalations has been included in other
long-term liabilities in the balance sheet.
(2) Purchase obligations include agreements for goods and services that are
enforceable and legally binding on the Company and that specify all
significant terms. As of December 31, 2004, such obligations include
telephone services and software licenses and maintenance contracts for
information technology.
(3) The amount of deferred income taxes has been excluded from the above
table as the timing of any cash payment is uncertain. See Note 7 of the
Notes to Consolidated Financial Statements for additional information
regarding our deferred tax position.
GENERAL
On June 25, 2002, our Board of Directors approved a two-for-one stock
split to shareholders of record as of the close of business on July 15, 2002.
The shares were distributed on July 31, 2002.
CRITICAL ACCOUNTING ESTIMATES
Our accounting policies are more fully described in Note 1 of the Notes
to Consolidated Financial Statements included herein. As disclosed in Note 1 of
the Notes to Consolidated Financial Statements, the preparation of financial
statements in conformity with generally accepted accounting principles requires
management to make estimates and assumptions about future events that affect the
amounts reported in the Consolidated Financial Statements and accompanying
notes. Since future events and their effects cannot be determined with absolute
certainty, actual results may differ from those estimates. Management makes
adjustments to its assumptions and judgments when facts and circumstances
dictate. The amounts currently estimated by us are subject to change if
different assumptions as to the outcome of future events were made. We evaluate
our estimates and judgments on
32
an ongoing basis and predicate those estimates and judgments on historical
experience and on various other factors that are believed to be reasonable under
the circumstances. Management believes the following critical accounting
estimates encompass the more significant judgments and estimates used in
preparation of the Consolidated Financial Statements.
Merchandise I