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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[XX] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR (52 WEEKS) ENDED JANUARY 29, 2005
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 1-10876
SHOPKO STORES, INC.
(Exact name of registrant as specified in its Charter)
Wisconsin 41-0985054
- --------------------------------------------------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
700 Pilgrim Way, Green Bay, Wisconsin 54304
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (920) 429-2211
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange on
Title of each class which registered
--------------------------------------- -------------------
Common Stock, par value $0.01 per share New York Stock Exchange
Series B Preferred Stock Purchase Rights New York Stock Exchange
Securities registered pursuant to Section 12 (g) of the Act: None.
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
(Cover page 1 of 2 pages)
1
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K [X].
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ]
The aggregate market value of the voting stock held by non-affiliates of
the Registrant as of July 31, 2004 was approximately $454,598,652 (based upon
the closing price of Registrant's common stock on the New York Stock Exchange on
such date).
Number of shares of $0.01 par value common stock outstanding as of March
25, 2005: 29,795,809.
DOCUMENTS INCORPORATED BY REFERENCE
Part III incorporates by reference portions of the definitive Proxy
Statement for the Registrant's Annual Meeting of Shareholders to be held on May
25, 2005.
(Cover page 2 of 2 pages)
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PART I
ITEM 1. BUSINESS
GENERAL
ShopKo Stores, Inc. ("ShopKo" or the "Company"), a Wisconsin corporation,
was incorporated in 1961 and in 1971 became a wholly-owned subsidiary of
Supervalu Inc. ("Supervalu"). On October 16, 1991, the Company sold 17,250,000
common shares or 54% of equity ownership in an initial public offering. On July
2, 1997, Supervalu exited its remaining 46% investment in the Company through a
stock buyback and secondary public offering. The Company's principal executive
offices are located at 700 Pilgrim Way, Green Bay, Wisconsin 54304, and its
telephone number is (920) 429-2211. The Company's internet website can be found
at www.shopko.com. ShopKo's annual report on Form 10-K, quarterly reports on
Form 10-Q, current reports on Form 8-K and any amendments to such reports are
available free of charge on this website as soon as reasonably practicable after
they have been filed with the Securities and Exchange Commission. In addition,
the Company makes information about quarterly webcasts and recent press releases
available free of charge on its website. The Company is not including the
information contained on its website as a part of or incorporating by reference
into this annual report on Form 10-K.
The Company has two business segments: a ShopKo Retail segment and a
Pamida Retail segment. The ShopKo Retail segment consists of a multi-department
retailer operating under the "ShopKo" name, located primarily in mid-size and
larger communities. The ShopKo retail stores are committed to offering quality
merchandise, services and value to meet customers' needs for home, family
basics, casual apparel and seasonal products along with a special emphasis on
retail health, operating in-store pharmacies and optical centers. As of January
29, 2005, the Company had 140 ShopKo retail stores operating in 15 Midwest,
Pacific Northwest and Western Mountain states. The ShopKo Retail segment also
includes three ShopKo Express Rx stores, a new and convenient neighborhood
drugstore concept.
The Pamida Retail segment is a general merchandise retailer, headquartered
in Omaha, Nebraska, which serves smaller and more rural communities, offering a
convenient, one-stop shopping format. The Pamida Retail segment was acquired in
fiscal 1999. As of January 29, 2005, the Company had 220 Pamida retail stores
operating in 16 Midwest, North Central and Rocky Mountain states. Financial
information about these two business segments is included in Note I of the Notes
to Consolidated Financial Statements for fiscal year 2004.
SHOPKO RETAIL
MERCHANDISING PHILOSOPHY - SHOPKO RETAIL
ShopKo Retail is committed to offering quality merchandise, service and
value to meet customers' requirements for health, home, family basics, casual
apparel and seasonal needs in its stores with speed, friendliness and
simplicity. ShopKo Retail strives to differentiate itself from its competition
by meeting customer needs more quickly and conveniently, and by anticipating the
needs of its customers' changing lifestyles.
ShopKo's strategy is to focus on selected merchandise categories tied to
its customers' changing lifestyle needs.
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ShopKo aims to deliver a superior customer experience in its retail stores
by:
- being a customer-driven organization, responding to the wants and needs of
its customers,
- exceeding customers' expectations in terms of merchandise assortment,
service and value,
- ensuring that merchandise, particularly advertised merchandise, is
available for purchase, and
- providing simplicity, speed and friendliness in the shopping experience.
ShopKo provides quality trend-correct, casual lifestyle merchandise at value
prices in an attractive, customer-friendly shopping environment.
MERCHANDISING AND SERVICES - SHOPKO RETAIL
The ShopKo Retail store net sales mix for the last three fiscal
years was:
2004 2003 2002
---- ---- ----
HARDLINES 50% 52% 53%
SOFTLINES 20% 19% 20%
RETAIL HEALTH 30% 29% 27%
ShopKo Retail stores carry a wide assortment of name brand and private
brand softline goods, including:
- women's, men's and children's apparel,
- shoes,
- jewelry,
- watches, and
- accessories.
ShopKo also carries a wide assortment of seasonal and everyday basic
categories of hardline goods such as:
- housewares,
- home textiles,
- household supplies,
- health and beauty aids,
- home entertainment products,
- small appliances,
- furniture,
- cosmetics,
- music/videos,
- toys,
- sporting goods,
- greeting cards and gift wrap,
- candy,
- snack foods, and
- lawn and garden.
ShopKo carries a broad assortment of merchandise to provide customers with
a convenient one-stop shopping destination for everyday items. For example, in
2004 the Company expanded the beverage area to include beer and wine in select
stores. ShopKo's accommodating customer service policies provide customers with
a pleasant shopping experience.
ShopKo continually seeks to offer customers leading national brand names
in its merchandise lines. It concentrates on brands that have wide customer
acceptance and provide
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quality and value. In addition, ShopKo seeks to maintain the appropriate mix of
private brand goods through its well-developed private brand programs. The
Company participates in a global sourcing group to pursue private brand
development and procurement of consumables, health and beauty aids and household
commodities. ShopKo's in-house quality assurance and technical design team
analyzes and develops the quality of its fashion offerings. This allows ShopKo
to deliver a better and more consistent product for the customer, with greater
control and efficiency.
The Company also provides retail health services in the majority of its
ShopKo stores. Of the Company's 143 stores (including three ShopKo Express Rx
stores) as of January 29, 2005, 142 include retail pharmacies and 140 include
optical centers. In addition to generating store traffic and building customer
loyalty, these services contribute significantly to the Company's overall
profitability and provide the opportunity for additional growth. ShopKo's
pharmacies filled over 12.3 million prescriptions in fiscal 2004 and 12.7
million in fiscal 2003. The decrease in prescriptions is primarily due to the
closing of one ShopKo store in June of fiscal 2004 and various industry trends
including the increased use of mandatory mail order programs, the shift of
Claritin and Prilosec from prescription to over-the-counter status, and the
decrease in pharmacy utilization due to increased patient co-pays and Canadian
reimportation.
ShopKo's optometrists perform in-store eye exams and prescribe
correctional lenses, most of which are fabricated in the Company's centralized
optical laboratory and in approximately 67 in-store finishing labs. In fiscal
2004, ShopKo dispensed over 667,000 eyewear prescriptions, compared to 663,000
eyewear prescriptions in fiscal 2003. The in-store finishing labs typically
service other ShopKo stores in the vicinity and provide customers with same day
or next day optical service for single vision lenses.
Included in the ShopKo Retail segment is the Company's new and convenient
neighborhood drugstore concept, ShopKo Express Rx. The Company is testing three
drugstores located in suburban neighborhoods in Wisconsin and will continue to
evaluate the concept in fiscal 2005. The drugstores offer professional pharmacy
services, health and wellness products and information, home business solutions,
photo processing, as well as a convenient assortment of food and beverages and
traditional drugstore related products.
MARKETING AND ADVERTISING - SHOPKO RETAIL
ShopKo markets its general merchandise and retail pharmacy and optical
services by using week-end and mid-week newspaper circulars, which enables
ShopKo to reach a broad-based group of customers. The four-color week-end
circulars average 24 pages, supplemented with smaller mid-week circulars. The
circulars feature values throughout ShopKo's stores and have a circulation of
4.4 million. The circulars are designed to communicate value and newness, and
convey the updated, trend-correct look and feel of our product offerings. ShopKo
uses direct mail advertisements selectively during key promotional periods.
These direct mail advertisements average 56 pages and have a circulation of 5.8
million. All printed advertising materials are designed by the Company's
in-house design team and photographed in the Company's own photography studios.
SHOPKO RETAIL STORE LAYOUT AND DESIGN
ShopKo stores are designed for simplicity, speed and ease of the shopping
experience. The stores emphasize ShopKo's customers' lifestyles and brand
awareness. The stores feature competitive assortments of softlines, home and
hardlines products as well as pharmacy and optical
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centers. The pharmacy and optical centers are located in the front of the store
for added convenience. Health and Beauty Aids and Over-the-counter products have
been positioned adjacent to the pharmacy, in most stores, to provide a total
health care environment. ShopKo designs the remainder of the store in a
"racetrack" configuration that assists customers in navigating easily throughout
the store.
The Company completed 10 major store remodels in fiscal year 2004, which
tested various store layouts, display techniques and merchandise mixes and will
be incorporated in future store remodels. The Company's current average ShopKo
store size is over 90,000 square feet (excluding ShopKo Express Rx stores).
Future store size may vary depending on changes to the Company's store design,
the community in which the store is located, and the retail competition in the
immediate area.
SHOPKO RETAIL STORE OPERATIONS AND MANAGEMENT
ShopKo's store operations organization focuses on:
- Delivering a great customer experience
- Consistent, timely execution of merchandising plans
- Maximizing profitability of stores for today and in the future
ShopKo store operations group strives to drive profitable sales through
the execution of the merchandising plans to help ensure customer satisfaction by
having the right item in stock at the right time. ShopKo's operating philosophy
encourages trust and empowerment of teammates to do what's right for the
customer while holding each other accountable for the results. The store
operations organization framework is based on three key components: customers,
financial performance and teammates.
Customers. The Company has focused on serving our customers at a level
that will exceed their expectations. ShopKo has developed and implemented a
customer service program that rewards teammates for the great service they
provide. Fiscal 2004 was the first full year of this program that was
implemented in fall of fiscal 2003. This program is monitored by an outside
company to help ensure that ShopKo is meeting the ever changing needs of the
customer.
Financial performance. The Company is committed to maximizing its
financial performance. ShopKo has focused on improving productivity through use
of technology, training and by developing best practices to help ensure the
reduction in costs and the improvement in productivity.
Teammates. The Company believes in providing all teammates with the
training necessary for them to perform their jobs with excellence. ShopKo
encourages individual thinking while rewarding teammates for high performance
and serving its customers with excellence.
ShopKo holds its store operations management teams accountable for
execution of merchandising plans, operational objectives and achievement of
financial goals. ShopKo emphasizes ongoing development of its management teams
to help ensure that they have the skills necessary to meet these objectives.
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PURCHASING AND DISTRIBUTION - SHOPKO RETAIL
ShopKo purchases merchandise from more than 1,990 vendors. ShopKo's ten
largest vendors accounted for approximately 38.6% of ShopKo's purchases during
fiscal 2004. ShopKo believes that most merchandise, other than branded goods, is
available from a variety of sources. ShopKo is working with its entire supply
chain to link its vendors into ShopKo's general merchandise business planning
process to reduce costs and to replenish its inventory more efficiently. The
majority of ShopKo's vendors are linked to its electronic data interchange
purchase order systems. Select vendors electronically receive point-of-sale
information from ShopKo, which allows them to respond to changing inventory
levels in the stores. In addition, the majority of ShopKo's vendors are
electronically transmitting invoices directly into the Company's automated
invoice matching system.
Purchasing and distribution of merchandise is a critical aspect of
ShopKo's business. The Company controls the flow of main store and optical
merchandise through the use of centralized purchasing, replenishment and
allocation processes and information systems. Allocation and distribution
management is closely tied to the merchandise buying organization to effectively
control and plan merchandise logistics. ShopKo's pharmacy merchandise is
replenished primarily through the use of a distributor. Pharmacies are
electronically linked to the distributor and place orders as product is needed.
Direct imports accounted for approximately 7.0% of ShopKo's purchases,
based upon cost of goods, during fiscal 2004. ShopKo buys its imported goods
principally in the Far East and ships the goods to its distribution centers for
distribution to the stores.
ShopKo has three distribution centers strategically located throughout the
United States to efficiently support its retail operations. Utilization of
distribution centers has enabled ShopKo to:
- purchase the majority of its merchandise directly from manufacturers,
which reduces its cost of goods,
- reduce direct vendor-to-store deliveries, which reduces freight expense
and cost of goods through consolidated volume purchasing, and
- increase its pick and pull capabilities, enhancing the effectiveness and
efficiency of its store replenishment process.
ShopKo believes that these cost reductions help it remain
price-competitive. During fiscal 2004, approximately 90% of the merchandise sold
by ShopKo, excluding optical and pharmaceutical products, flowed through its
distribution centers.
The Company operates a fleet of tractors and trailers to transport
merchandise from the distribution centers to the ShopKo stores. This provides
control over the timing of inventory deliveries, resulting in store labor
savings. Third party transportation companies are utilized as needed.
Expansion of the ShopKo distribution center in Omaha, Nebraska was
completed and operational in July 2004. The expansion added 135,000 square feet
and accommodated the consolidation of the Pamida distribution operations
formerly located at a separate facility in Omaha into the ShopKo facility.
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Pursuant to a license agreement, Payless ShoeSource, Inc. operates a shoe
department (other than certain nationally-branded athletic shoes) in every
ShopKo store. ShopKo retains a percentage of the gross proceeds collected as
rent.
MANAGEMENT INFORMATION SYSTEMS - SHOPKO RETAIL
ShopKo uses information technology to improve customer service, reduce
operating costs and provide useful information to help ShopKo make timely
decisions regarding merchandising. In order to support these objectives, the
Company expects to make significant investments over the next several years to
enhance, replace or add new management information systems.
ShopKo uses point-of-sale terminal systems for electronic price lookup and
tracking sales information at store and Stock Keeping Unit (SKU) level. ShopKo
uses a high-speed, private, frame relay communications network to provide
real-time, on-line credit card and check authorization as well as pharmacy
adjudication. ShopKo uses portable radio-frequency terminals extensively in its
stores for merchandise receiving, stocking, replenishment, pricing and label
printing. ShopKo operates self checkout units in fourteen stores, with
additional installations under consideration for fiscal 2005.
ShopKo's merchandising systems provide for integrated perpetual inventory
management, automated replenishment, promotional planning, space planning,
merchandise financial planning and assortment planning. ShopKo assimilates daily
customer sales transactions into actionable information and decision support
tools for the Company's management.
ShopKo's pharmacy and optical businesses are supported by integrated
systems built to support customer prescription and eye care needs. These systems
provide automation for prescription fulfillment, insurance claims processing,
and the manufacture and delivery of prescription eyeglasses.
ShopKo's warehouse management system provides complete warehouse
functionality such as conveyor control and direction of picking and put-away
processes by using portable radio-frequency terminals. In addition, this system
is integrated with the Company's central information systems through its data
communications network, thereby ensuring up-to-date perpetual inventory records,
as well as facilitating merchandise allocation and distribution decisions.
ShopKo uses electronic commerce technology to support supply chain
management. This includes integrated replenishment systems, vendor-managed
inventories, scan-based-trading, and electronic data interchange.
The Company expects that a substantial portion of future information
technology investments will be made in support of merchandising, main-store,
transportation and logistics, and health services systems.
EXPANSION - SHOPKO RETAIL
The Company plans to remodel up to 16 existing ShopKo stores in fiscal
2005. In addition to the remodels, the Company plans to invest in merchandise
initiatives in key categories. The Company does not currently anticipate the
addition of any new full-size ShopKo stores in the upcoming fiscal year. See
Item 7- Management's Discussion and Analysis of Financial Condition and Results
of Operations-Liquidity and Capital Resources. Costs for conversion of existing
stores
8
to a remodeled design concept, as well as the timing of renovations of existing
stores, will depend on a variety of factors, including the success of the stores
remodeled in the 2004 fiscal year. The Company's plans with respect to new store
growth are subject to change, and there can be no assurances that the Company
will achieve its plans.
The Company opened three new ShopKo Express Rx Stores during the fiscal
2004. In fiscal 2005, the Company will continue to evaluate ShopKo Express Rx
for possible expansion in fiscal 2006.
COMPETITION - SHOPKO RETAIL
The discount general merchandise business is very competitive. ShopKo
competes in most of its markets with a variety of national, regional and local
discount stores, high-volume national category discounters, specialty niche
retailers, catalog merchants and internet retailers. In addition, department
stores compete with ShopKo on some branded merchandise lines, discount specialty
retail chains compete with some merchandise lines such as health and beauty
aids, household and cleaning supplies, electronics, bed and bath, housewares,
casual furniture and toys, and pharmaceutical and optical operations compete
with some of ShopKo's pharmacy and optical centers. ShopKo believes that the
principal competitive factors in its markets include:
- store location;
- differentiated merchandising;
- competitive pricing;
- quality of product selection;
- attractiveness and cleanliness of the stores;
- responsiveness to changing lifestyle needs and regional and local trends;
- customer service;
- in-stock availability of merchandise; and
- advertising.
ShopKo's principal national general merchandise discount chain competitors
are Wal-Mart, Kmart and Target, each of which is substantially larger than, and
has greater resources than, the Company.
The percentage of ShopKo stores where these competitors are present within
the applicable market is as follows:
- Wal-Mart 97%
- Target 75%
- Kmart 70%
ShopKo also competes with regional chains in some markets in the Midwest and the
Pacific Northwest. These competitors continue to open new stores in ShopKo's
markets.
Historically, the entry of one of these chains into an area served by a
ShopKo store generally has had an adverse effect on the affected store's sales
growth for approximately 12 to 24 months. After such initial 12 month time
period, the ShopKo store generally has resumed its previous sales
9
trend, although not necessarily to previous sales levels. Entry by one of these
competitors into a ShopKo market often has resulted in permanently intensified
price competition. In addition, ShopKo store sales are generally negatively
affected by a competitor's increased saturation through expansion, relocation
and additional stores in an existing market.
SEASONALITY - SHOPKO RETAIL
ShopKo's retail general merchandise operations are highly seasonal.
Historically, ShopKo's second and fourth fiscal quarters have contributed a
significant part of the Company's earnings, with the latter due to the Christmas
selling season.
PAMIDA RETAIL
MERCHANDISING PHILOSOPHY - PAMIDA RETAIL
Pamida's strategy is to offer consumers in small, rural communities a
convenient one-stop shopping format. A typical store carries a broad assortment
of value-priced softlines and hardlines merchandise, including consumables, and
in 2003 Pamida began to expand the beverage area to include alcohol. As of
January 29, 2005, Pamida also had retail pharmacies in 113 of its 220 stores.
Pamida stores generally are located in small towns where there often is
less competition from another major general merchandise retailer and which
Pamida considers to be either too small to support more than one major general
merchandise retailer (thereby creating a potential barrier to entry by a major
competitor) or too small to attract competitors whose stores generally are
designed to serve larger populations.
Pamida's merchandising strategy is to provide customers with a reliable
and convenient family shopping experience featuring nationally advertised
brand-name products as well as select private-label merchandise at competitive
prices. Pamida stores are self-service. Advertising circulars are run weekly.
Pamida places special emphasis on maintaining a strong in-stock position in all
merchandise categories.
MERCHANDISING AND SERVICES - PAMIDA RETAIL
The Pamida Retail store net sales mix for the last three fiscal years was:
2004 2003 2002
---- ---- ----
HARDLINES 63% 65% 67%
SOFTLINES 15% 16% 17%
PHARMACY 22% 19% 16%
Pamida's softlines division includes:
- men's, women's, children's and infant's clothing,
- men's and women's footwear, and
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- jewelry and accessories
Pamida's hardlines division includes categories such as:
- home furnishings,
- hardware,
- domestics,
- electronics,
- lawn and garden,
- cosmetics,
- seasonal,
- consumables,
- health and beauty aids,
- automotive, and
- toys.
Pamida added 10 new pharmacies in fiscal 2004. Pharmacies have proven to
be effective in building customer loyalty and attracting customers who are
likely to purchase other items in addition to prescription drugs. Pamida intends
to continue its aggressive growth of its pharmacy base for at least the next
couple of years.
MARKETING AND ADVERTISING - PAMIDA RETAIL
Pamida's advertising primarily utilizes four-color weekly circulars
coordinated by an internal advertising staff. Circulars advertise brand-name and
other merchandise at competitive prices.
PAMIDA RETAIL STORE LAYOUT AND DESIGN
Pamida remodeled 51 stores in fiscal 2004 using various layouts and
merchandising mixes. Customer response to the Hometown Value remodels which
emphasize convenience, value and selection, has been positive. These remodels
reflect a new merchandise mix featuring compelling pricing on consumables and
convenience items. Five of the 51 remodeled stores utilize a new extreme
Hometown Value concept which includes a merchandising mix heavily weighted away
from national brands to improve margins, a pricing strategy of everyday low
prices, minimal advertising and reduced inventory investment. The Company
intends to remodel up to 35 stores in the next fiscal year, using a mixture of
the remodeling concepts.
Pamida's stores average approximately 32,900 gross square feet and range
in size from approximately 3,000 to 50,000 square feet of sales area. Pamida
continues to make adjustments to its model as it identifies new strategies and
trends.
PAMIDA RETAIL STORE OPERATIONS AND MANAGEMENT
The methods Pamida employs to build customer loyalty and satisfaction are
weekly advertised specials, competitive pricing, clean and orderly stores and
friendly, well-trained personnel.
PURCHASING AND DISTRIBUTION - PAMIDA RETAIL
Pamida maintains a centralized purchasing, merchandise allocation and
space planning staff at its central offices. Pamida's point-of-sale data
equipment provides daily information to Pamida's
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buyers and inventory management specialists to assist them in managing
inventories, effecting prompt reorders of popular items, eliminating
slow-selling merchandise and reducing markdowns.
Pamida purchases merchandise from more than 1,900 vendors. Pamida's ten
largest vendors accounted for approximately 36.1% of Pamida's purchases during
fiscal 2004. Pamida believes that most merchandise, other than branded goods, is
available from a variety of sources. Pamida is working with its entire supply
chain to link its vendors into Pamida's general merchandise business planning
process to reduce costs and to replenish its inventory more efficiently. A
significant percentage of Pamida's vendors are linked via electronic data
interchange for purchase order and invoicing processing. Select vendors
electronically receive point-of-sale information from Pamida, which allows them
to respond to changing inventory levels in the stores. In addition, many of
Pamida's vendors are electronically transmitting invoices directly into the
Company's automated invoice matching system.
Pamida has an agreement with Payless ShoeSource, Inc. to be the primary
vendor within the shoe category.
Purchasing and distribution of merchandise is a critical aspect of
Pamida's business. The Company controls the flow of main store merchandise
through the use of centralized computerized purchasing, replenishment and
allocation processes. Allocation and distribution management is closely tied to
the merchandise buying organization to effectively control and plan merchandise
logistics. Pamida's pharmacy merchandise is replenished primarily through the
use of a distributor. Pharmacies are electronically linked to the distributor
and place orders, as product is needed.
Direct imports accounted for approximately 4.7% of Pamida's purchases,
based upon cost of goods, during fiscal 2004. Pamida buys its imported goods
principally in the Far East and ships the goods to its distribution centers for
distribution to the stores.
Pamida operates a 418,000 square foot distribution facility in Lebanon,
Indiana which is used as a full-service operation providing both full-case and
less-than-case merchandise distribution. This facility mainly services Pamida's
eastern districts.
Expansion of the ShopKo distribution center in Omaha, Nebraska was
completed in July of fiscal 2004. The expansion of the ShopKo facility added
135,000 square feet to accommodate the consolidation of the Pamida distribution
operations into the automated ShopKo facility. The move included investment in
expanding conveyors, fixtures, and systems. As a result, Pamida closed its Omaha
facility and consolidated distribution operations with ShopKo's expanded
distribution center in the Omaha area. The Pamida Omaha facility was sold in
December of fiscal 2004.
Each facility serves primarily as a distribution center for bulk shipments
and promotional and replenishment merchandise on which cost savings can be
realized through quantity purchasing. During fiscal 2004, approximately 84% of
Pamida's merchandise, excluding pharmaceutical products, was distributed to the
stores through the distribution centers, while the remaining merchandise was
supplied directly to the stores by manufacturers or distributors.
MANAGEMENT INFORMATION SYSTEMS - PAMIDA RETAIL
Similar to ShopKo, Pamida employs integrated retail information systems,
including merchandise procurement, inventory management, automated
replenishment, merchandise and space planning, warehouse management, pharmacy
management and point of sale.
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Pamida's data center and selected information technology support functions
are located at the corporate headquarters in Green Bay, Wisconsin. Pamida will
continue to selectively upgrade and enhance its existing information systems,
while seeking opportunities to leverage future technology investments in
conjunction with the ShopKo division.
EXPANSION - PAMIDA RETAIL
The Company has announced plans to open up to eight new Pamida stores in
fiscal 2005. In addition, the Company plans to acquire pharmacy customer lists
to expand its retail pharmacy business or may acquire pharmacy locations to
expand the Pamida store base. Pamida is using an inexpensive alternative of
leasing existing vacant retail locations for expansion and growth. The risks
associated with this alternative will be minimized through the negotiation of
shorter lease terms and options for lease extensions.
The Company has identified certain communities as potential sites for
Pamida stores and in which it believes it can achieve an attractive market
position. There is, however, no assurance that the Company will open stores in
such communities or on any particular time schedule. Pamida will also continue
to evaluate other merchandise mix and store formats.
COMPETITION - PAMIDA RETAIL
The general merchandise retail business is highly competitive. Pamida's
stores generally compete with other general merchandise retailers, supermarkets,
dollar stores, drug and specialty stores, mail order and catalog merchants,
internet retailers and, in some communities, department stores. The type and
degree of competition and the number of competitors with which Pamida's stores
compete vary by market.
Pamida stores generally are located in small towns where there is less
direct local competition from other major general merchandise retailers
primarily due to the towns being too small to support more than one major
general merchandise retailer (thereby creating a potential barrier to entry by a
major competitor) or too small to attract competitors whose stores generally are
designed to serve larger populations.
The percentage of Pamida stores where national general merchandise
discount chains are present (within 10 miles) is as follows:
- Wal-Mart 12%
- Kmart 6%
- Target 2%
In recent years Pamida's business strategy has been to focus its store
expansion program on communities with less likelihood of the entry of a new
major competitor, but there can be no assurance that in the future major
competitors will not open additional stores in Pamida's markets.
SEASONALITY - PAMIDA RETAIL
Pamida's business, like that of most other general merchandise retailers,
is seasonal. First quarter sales are lower than sales during the other three
fiscal quarters, while second and fourth quarter sales have contributed a
significant part of the segment's earnings, with the latter due to the Christmas
selling season.
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CONSOLIDATED
EMPLOYEES
The Company employs approximately 17,000 persons in its ShopKo division,
of whom approximately 7,700 are full-time employees and 9,300 are part-time
employees and approximately 5,800 persons in its Pamida division, of whom
approximately 2,800 are full-time employees and 3,000 are part-time employees.
During the Christmas shopping season, the Company typically employs additional
persons on a temporary basis. No employees of the Company are covered by
collective bargaining agreements.
GOVERNMENT REGULATION
The Company's pharmacy and optical services businesses are subject to
extensive federal and state laws and regulations governing, among other things:
Licensure and Regulation of Retail Pharmacies and Optical Centers
There are extensive federal and state regulations applicable to the
practice of pharmacy and optometry at the retail level. Most states have laws
and regulations governing the operation and licensing of pharmacies and optical
centers, and regulate standards of professional practice by pharmacy and optical
service providers. These regulations are issued by an administrative body in
each state, typically a pharmacy board or board of optometry, which is empowered
to impose sanctions for non-compliance.
Future Legislative Initiatives
Legislative and regulatory initiatives pertaining to such healthcare
related issues as reimbursement policies, payment practices, therapeutic
substitution programs, and other healthcare cost containment issues are
frequently introduced at both the state and federal level. The Company is unable
to predict accurately whether or when legislation may be enacted or regulations
may be adopted relating to the Company's pharmacy and optical services
operations or what the effect of such legislation or regulations may be.
Substantial Compliance
The Company's management believes the Company is in substantial compliance
with all existing statutes and regulations material to the operation of the
Company's pharmacy and optical services businesses and, to date, no state or
federal agency has taken enforcement action against the Company for any material
non-compliance, and to the Company's knowledge, no such enforcement against the
Company is presently contemplated.
14
FORWARD-LOOKING STATEMENTS AND RISK FACTORS
In accordance with the Private Securities Litigation Reform Act of 1995,
the Company can obtain a "safe-harbor" for forward-looking statements by
identifying those statements and by accompanying those statements with
cautionary statements which identify factors that could cause actual results to
differ from those in the forward-looking statements. Accordingly, the following
information contains or may contain forward-looking statements: (1) information
included or incorporated by reference in this Annual Report on Form 10-K,
including, without limitation, statements made under Item 1, Business, and under
Item 7, Management's Discussion and Analysis of Financial Condition and Results
of Operations, (2) information included or incorporated by reference in future
filings by the Company with the Securities and Exchange Commission ("SEC")
including, without limitation, statements with respect to growth, acquisition
and expansion plans, store layouts and evolving prototypes, financing plans and
projected sales, revenues, earnings, costs and capital expenditures, and (3)
information contained in written material, releases and oral statements issued
by, or on behalf of, the Company including, without limitation, statements with
respect to growth, acquisition and expansion plans, store layouts and evolving
prototypes, financing plans and projected sales, revenues, earnings, costs and
capital expenditures. The Company's actual results may differ materially from
those contained in the forward-looking statements identified above. Factors
which may cause such a difference to occur include, but are not limited to, (i)
the impact of recent accounting pronouncements as described herein, (ii) the
risk factors described below, and (iii) other risks described from time to time
in the Company's SEC filings.
An investment in ShopKo's common stock or other securities carries certain
risks. Investors should carefully consider the risks described below and other
risks, which may be disclosed from time to time in ShopKo's filings with the
SEC, before investing in ShopKo's common stock or other securities.
The Company has a significant amount of debt, which could adversely affect
its business and growth prospects. At January 29, 2005, the Company had
approximately $332.3 million of total debt and lease obligations, including
$85.7 million outstanding on an amended and restated senior secured revolving
credit facility (the "Amended Secured Credit Facility"). The restrictions and
limitations in the Amended Secured Credit Facility, as well as the significant
amount of debt in general, could have material adverse effects on the Company's
business. For example, it:
- makes it more difficult for the Company to obtain additional financing on
favorable terms,
- restricts capital expenditures,
- requires the Company to dedicate a substantial portion of its cash flows
from operations to the repayment of its debt and the interest on its debt,
- limits the Company's ability to open new stores or to make acquisitions,
- limits the Company's ability to capitalize on significant business
opportunities,
- makes the Company more vulnerable to economic downturns, adverse retail
industry conditions and competitive pressures, and subjects the Company to
certain covenants which restrict its ability to operate its business.
The Company finances a significant portion of its operations through
vendor financing. The credit terms provided by the Company's vendors are an
important source of financing for the Company's operations. Future operating
performance could negatively impact the favorable credit terms the Company now
maintains with these vendors. If the credit terms provided to the Company
15
by a significant portion of its vendors were to deteriorate, the Company would
be materially adversely affected.
The Company may not achieve the expected benefits of current or future
reorganizations. During the fourth quarter of fiscal 2000, the Company announced
a strategic reorganization plan to improve the productivity of its assets and
reduce debt. The plan included store and distribution center closings and a
charge to earnings of approximately $125 million. Based on the overall softness
in the real estate market and an independent valuation analysis, the Company
added $6.0 million to the reserve in the fourth quarter of fiscal 2002 and an
additional $0.7 million to the reserve in the second quarter of fiscal 2004. Due
to many variables and uncertainties, the Company may not achieve all of the
expected benefits of its plan and additional charges may be necessary in the
future. There can be no assurances that additional reorganizations of this
nature, together with related charges to earnings, will not be required in the
future to improve the productivity and efficiency in the Company's ShopKo and
Pamida segments. Such reorganizations and charges to earnings could have a
material adverse effect on our financial position or results of operations.
The Company may be unable to execute its expansion plans, which may have a
significant adverse effect on its financial performance and its growth strategy
and prospects. The Company considers expansion in the number of its retail
stores, in one format or another, to be an integral part of its plan to achieve
projected operating results in future years. The Company expects that any new
stores will typically require an extended period of time to reach the sales and
profitability levels of its existing stores. The opening of any new stores does
not ensure that those stores will ever be as profitable as existing stores,
especially when those new stores are opened in highly competitive markets. The
failure to expand by opening new retail stores as planned and the failure to
generate anticipated sales and earnings growth in markets where new stores are
opened could have a material adverse effect on the Company's future sales growth
and profitability.
If the Company is not able to remodel its existing store base on schedule
or to carry out such plans in a cost-effective manner, then the Company's
results of operations and financial condition could be materially adversely
affected. The Company believes that the identification of new store designs to
fit its customers' changing lifestyles and preferences and the remodeling of its
stores is a necessary aspect of its growth plans. The failure to upgrade the
Company's existing retail stores could have a material adverse effect on the
Company's anticipated sales and profitability. To the extent the Company is able
to upgrade its existing stores, the associated expenses could result in a
significant impact on our net income in the future and there can be no assurance
that these upgrades will generate any of the anticipated benefits.
The Company's quarterly performance fluctuates, which may cause volatility
or a decline in the price of its securities. Fluctuations in the Company's
quarterly operating results have occurred in the past and may occur in the
future based on a variety of factors, including:
- seasonality in the Company's operations, especially during the
Christmas selling season which has historically contributed a
significant part of the Company's earnings and primarily impacts the
fourth fiscal quarter,
- inventory imbalances caused by unanticipated fluctuations in consumer
demand or inefficiencies in the Company's distribution centers and
methods,
- margin rate compression resulting from competitive pricing pressure,
- increases and decreases in advertising and promotional expenses,
16
- changes in the Company's product mix,
- the ability to manage operating expenses, and
- the competitive and general economic conditions discussed below.
These fluctuations could cause the Company's operating results to vary
considerably from quarter to quarter and could materially adversely affect the
market price of its securities.
Competition in the retail industry could limit the Company's growth
opportunities and reduce its profitability. The Company competes in the discount
retail merchandise business. This business is highly competitive. The
competitive environment subjects the Company to the risk of reduced
profitability. The Company competes with other discount retail merchants as well
as mass merchants, catalog merchants, internet retailers and other general
merchandise, apparel and household merchandise retailers. The discount retail
merchandise business is subject to excess capacity and some of the Company's
competitors are much larger and have substantially greater resources than the
Company. The competition for customers and store locations has intensified in
recent years as larger competitors, such as Wal-Mart, Kmart and Target, have
moved into the Company's geographic markets. The Company expects a further
increase in competition from these national discount retailers. There can be no
assurance the Company will be able to continue to compete successfully.
The long-term economic effects of U.S. and international political unrest
and an extended economic slowdown could negatively affect the Company's
financial condition. The ongoing military operations in Iraq, terrorist attacks,
the national and international responses to terrorist attacks and other acts of
war or hostility have created many economic uncertainties. These events could
adversely affect the Company's business and operating results in ways that
presently cannot be predicted. If terrorist attacks, political unrest,
international conflict or other factors cause overall economic decline, the
Company's financial condition and operating results could be materially
adversely affected.
General economic conditions and adverse weather could have a significant
adverse effect on the Company's business. The Company operates its retail stores
in limited regions of the country. To the extent adverse economic conditions and
weather have a regional impact on the regions in which the Company operates, the
Company may be disproportionately affected compared to peers that have a larger,
national base of operations. General economic factors in the regions in which
the Company operates that are beyond its control may materially adversely affect
its forecasts and actual performance. The factors that may materially adversely
affect its forecasts and actual performance include energy prices, interest
rates, recession, inflation, deflation, consumer credit availability, consumer
debt levels, tax rates and policy, unemployment trends and other matters that
influence consumer confidence and spending. Increasing volatility in financial
markets may cause these factors to change with a greater degree of frequency and
magnitude. Because the Company's business is subject to adverse weather
conditions in its retail markets, particularly in the Midwest, Western Mountain
and Pacific Northwest regions, its operating results may be unexpectedly and
materially adversely affected. Frequent or unusually heavy snow, ice or rain
storms in its markets could have a material adverse effect on its sales and
earnings.
The Company is dependent on the smooth functioning of its distribution
network. The Company relies upon the ability to replenish its depleted inventory
through deliveries to its distribution centers from vendors, and from the
distribution centers to its stores and, to a limited extent, direct-to-store
deliveries from vendors. Problems that cause delays or interruptions in the
17
distribution network could have a material adverse effect on the Company's
business and results of operations.
Labor conditions may have a material adverse impact on its performance. If
the Company cannot attract and retain quality employees, its business will
suffer. The Company depends on attracting and retaining quality employees. Many
of its employees are in entry level or part-time positions with historically
high rates of turnover. The Company may be unable to meet its labor needs while
controlling costs due to external factors such as unemployment levels, minimum
wage legislation and changing demographics.
Anti-takeover provisions in the Company's organizational documents and
statutes may inhibit premium offers for its common stock. Anti-takeover
provisions in its amended and restated articles of incorporation, by-laws and
Wisconsin law and its shareholder rights agreement (See Exhibit 4.2) may deter
unfriendly offers or other efforts to obtain control of the Company. This could
make the Company less attractive to a potential acquirer and deprive its
shareholders of opportunities to sell their shares of common stock at a premium
price.
Pending or future changes in federal, state or local laws or regulations
could negatively impact the Company. Various aspects of the Company's operations
are subject to federal, state and local laws, rules and regulations. Any of
these laws, rules or regulations could change at any time. Such changes could
have the effect of increasing the Company's exposure to liabilities, increasing
the cost of operations or restricting the ability to set prices. This is
especially true with respect to our pharmacy business, which could be subject to
any number of legislative proposals regarding prescription drugs.
Pending or future litigation could subject the Company to significant
monetary damages. If the Company becomes subject to liability claims that are in
excess of its insurance coverage or are not covered by its insurance policies,
the Company may be liable for damages and other expenses which could have a
material adverse effect on its business, operating results and financial
condition. In addition, any claims against the Company, regardless of merit or
eventual outcome, may have a material adverse effect on its reputation and
business. The sale of retail merchandise and provision of in-store pharmacy and
optical services entail a risk of litigation and liability. The Company is
currently subject to a number of lawsuits, and expects that from time to time it
will be subject to similar suits in the ordinary course of business. The Company
currently maintains insurance intended to cover a majority of liability claims,
subject to a $250,000 deductible for general liability claims and for liability
claims arising from prescription dispensing errors. The Company believes that
its insurance coverage is adequate. The Company cannot assure that it will be
able to maintain appropriate types or levels of insurance in the future, that
adequate replacement policies will be available on acceptable terms, or that
insurance will cover all claims against the Company.
18
ITEM 2. PROPERTIES
As of January 29, 2005, the Company operated 140 ShopKo and 3 ShopKo
Express Rx retail stores in 15 Midwest, Western Mountain and Pacific Northwest
states. The following table sets forth the geographic distribution of these
stores as of the indicated date:
# OF # OF
STATE STORES STATE STORES
- ---------- ------ ------------ ------
California 1 Nebraska 11
Colorado 3 Nevada 2
Idaho 9 Oregon 4
Illinois 10 South Dakota 6
Iowa 5 Utah 15
Michigan 4 Washington 10
Minnesota 13 Wisconsin 45
Montana 5 ---
TOTAL 143
As of January 29, 2005, the Company operated 220 Pamida retail stores in
16 Midwest, North Central and Rocky Mountain states. The following table sets
forth the geographic distribution of the present Pamida stores:
# OF # OF
STATE STORES STATE STORES
- --------- ------ ------------ ------
Illinois 8 Montana 9
Indiana 10 Nebraska 15
Iowa 41 North Dakota 7
Kansas 5 Ohio 12
Kentucky 9 South Dakota 6
Michigan 19 Tennessee 5
Minnesota 26 Wisconsin 19
Missouri 20 Wyoming 9
---
TOTAL 220
Of the Company's 363 ShopKo and Pamida retail stores at January 29, 2005
the number of stores owned and leased are listed below:
OWNS BUILDING SUBJECT
OWNS LAND AND BUILDING TO GROUND LEASES LAND
OUTRIGHT LEASE AND BUILDING TOTAL
---------------------- --------------------- ------------ -----
SHOPKO STORES 116* 8 19 143
PAMIDA STORES 63 1 156 220
TOTAL 179 9 175 363
* Fifteen of which are subject to mortgages.
The ground leases expire at various dates ranging from 2006 through 2018
and the other leases expire at various dates ranging from 2005 through 2038.
19
As of January 29, 2005, the Company's other principal properties were as
follows:
SQ. FT. OF
BUILDING
LOCATION USE SPACE TITLE
- --------------- ------------------------------------------ ---------- ------
Green Bay, WI ShopKo Corporate Headquarters 228,000 Owned
De Pere, WI ShopKo Distribution Center / Return Center 494,000 Owned
Boise, ID ShopKo Distribution Center 347,000 Owned
Omaha, NE ShopKo/Pamida Distribution Center 529,000 Owned
Ashwaubenon, WI ShopKo Optical Lab 29,000 Owned
Omaha, NE Pamida Corporate Headquarters 215,000 Owned
Lebanon, IN Pamida Distribution Center 418,000 Leased
ITEM 3. LEGAL PROCEEDINGS
In the normal course of business, the Company has been named as a
defendant in various lawsuits. Some of these lawsuits involve claims for
substantial amounts. Although the ultimate outcome of these lawsuits cannot be
ascertained at this time, it is the opinion of management, after consultation
with counsel, that the resolution of such suits will not have a material adverse
effect on the consolidated financial statements of the Company.
20
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of the security holders of
Registrant during the fourth quarter of fiscal year 2004.
EXECUTIVE OFFICERS OF THE REGISTRANT
SERVED IN EMPLOYED
CURRENT BY THE
POSITION COMPANY
NAME AGE* POSITION* SINCE SINCE
---- ---- --------- ----- -----
Sam K. Duncan 53 President and Chief Executive Officer 2002 2002
Steven R. Andrews 52 Senior Vice President, Law & Human
Resources, General Counsel 2003 2002
Brian W. Bender 56 Senior Vice President, Chief Financial Officer 2000 2000
Michael J. Bettiga 51 Senior Vice President, Retail Health Operations 2003 1977
Larry L. Gentry 45 Senior Vice President, Store Operations 2004 2003
Michael J. Hopkins 54 President, Pamida Division 1999 1995
Rodney D. Lawrence 47 Senior Vice President, Property Development 1996 1996
Matthew J. Lynch 45 Senior Vice President, Chief Information Officer 2003 1998
Paul G. White 48 Senior Vice President, Chief Merchandising Officer 2004 2003
Douglas N. Wurl 43 Senior Vice President, General Merchandise Manager -
Hardlines and Home 2003 2000
* as of January 29, 2005
There are no family relationships between or among any of the directors or
executive officers of the Company.
The term of office of each executive officer is from one annual meeting of
the directors until the next annual meeting of directors or until a successor
for each is selected.
There are no arrangements or understandings between any of the executive
officers of the Company and any other person (not an officer or director of the
Company acting as such) pursuant to which any of the executive officers were
selected as an officer of the Company.
Mr. Duncan has been President, Chief Executive Officer since October 2002.
Prior to joining ShopKo, Mr. Duncan most recently served as President of Fred
Meyer Corporation, a large general merchandise and food retailer and a division
of Kroger, Inc., from February 2001 to October 2002. From 1969 to 1991, Mr.
Duncan served in numerous roles for Albertson's, eventually being named
Albertson's director of operations in 1991. He joined Fred Meyer in 1992 as Vice
President Grocery department and was promoted through the executive
merchandising ranks. Mr. Duncan was named
21
Executive Vice President of Fred Meyer's food division in 1997. In 1998, Fred
Meyer Corporation acquired Ralph's Super Markets and Mr. Duncan was named
President of Ralph's Super Markets, serving in that position from 1998 to 2001.
Mr. Andrews was promoted to Senior Vice President, Law and Human Resources
and General Counsel in June 2003. He had been Senior Vice President, General
Counsel since joining the Company in October 2002. Prior to joining ShopKo, Mr.
Andrews was Senior Vice President, General Counsel and Secretary of
PepsiAmericas, Inc. (formerly Whitman Corporation) from May 1999 to August 2001.
Before joining Whitman, Mr. Andrews was the interim President and Chief
Executive Officer of Multigraphics, Inc. from February to May of 1999 and Vice
President, General Counsel and Secretary of Multigraphics from 1994 to 1999.
Multigraphics was a worldwide manufacturer and distributor of graphic arts and
printing products.
Mr. Bender has been Senior Vice President, Chief Financial Officer since
October 2000. Prior to joining ShopKo, Mr. Bender most recently served as Vice
President and Chief Financial Officer at Egghead.com from November 1996 to
December 1999. Mr. Bender also served in that role at Egghead.com from May 1995
to May 1996. Mr. Bender was Senior Vice President and Chief Financial Officer at
Proffitt's, Inc. in 1996 and Senior Vice President and Controller at Younkers,
Inc. from 1993 to 1995. From 1976 to 1993, Mr. Bender served in numerous roles
for May Department Stores and its divisions, including Corporate Vice President
for Capital Planning and Analysis at May from 1987 to 1989; and Senior Vice
President and Chief Financial Officer at Sibley's from 1989 to 1990 and at May
D&F from 1990 to 1993.
Mr. Bettiga has been Senior Vice President, Retail Health Operations since
November, 1999. From November, 1999 to March, 2003, Mr. Bettiga was also
responsible for Store Operations. Prior to that, he served as Senior Vice
President, General Merchandise Manager, Retail Health Services since November,
1997. From February, 1995 to November 1997, he was Senior Vice President Health
Services. Prior to that, he was Vice President Health Services, a position he
held since October, 1993. Mr. Bettiga has held several other positions within
ShopKo's health services division since joining the Company in 1977.
Mr. Gentry has been Senior Vice President, Store Operations since August
2004. He had been Vice President, Store Operations since joining the Company in
April 2003. Prior to joining ShopKo, Mr. Gentry held various store operations
positions from 1976 to 2003 with Fred Meyer, Inc. (a division of The Kroger Co.
since 1999), including: Senior Vice President of Store Operations from 2002 to
2003; Group Vice President Stores from 2000 to 2002; Regional Vice President
from 1992 to 2000.
Mr. Hopkins has been President of Pamida, Inc. since July, 1999. Prior to
that he served as Senior Vice President, Home for ShopKo Stores, Inc. since
November, 1995. From 1992 to 1995, Mr. Hopkins was Senior Vice President
Merchandise Planning and Distribution at Broadway Stores, Inc. (renamed Carter
Hawley Hale). Prior thereto, Mr. Hopkins served as Senior Vice President and
General Merchandise Manager of Home with Broadway Southwest division of Carter
Hawley Hale from 1985 to 1992.
Mr. Lawrence has been a Senior Vice President, since joining the Company
in May, 1996. Currently, his title is Senior Vice President, Property
Development. Prior to joining ShopKo, he was Vice President Store Planning with
Broadway Stores, Inc. from 1994 to 1996. Mr. Lawrence was Director of Store
Planning with Carter Hawley Hale Stores, Inc. in Los Angeles in 1992 to 1994 and
Vice President Visual Merchandising with Broadway Southwest, Mesa, Arizona in
1989 to 1992.
22
Mr. Lynch has been Senior Vice President, Chief Information Officer since
October, 2003. Mr. Lynch joined the Company in 1998 as Vice President,
Operations and Technology Services. From 1993 to 1998, Mr. Lynch served as Vice
President, Information and Technology Services for Runzheimer International.
Prior to that, Mr. Lynch held various information systems management positions
since 1985 with Air Wisconsin Airlines, America West Airlines and Honeywell,
Aerospace Electronics Systems.
Mr. White was promoted to Senior Vice President, Chief Merchandising
Officer in August, 2004. He had been Senior Vice President, General Merchandise
Manager - Softlines since joining the Company in October, 2003. Prior to joining
the Company, Mr. White was with the Famous-Barr division of May Department
Stores from 1995 to 2003. Most recently he was Senior Vice President,
Advertising and Sales Promotion from August, 1998 to June, 2003. Prior to that,
Mr. White held several senior management and merchandising positions since 1985
with The May Department Stores, Federated Department Stores and Elder Beerman
Department Stores.
Mr. Wurl is currently Senior Vice President, General Merchandise Manager -
Hardlines and Home. He has had responsibility for the Home segment since
December 2001, and in January 2003, he assumed responsibility for the Hardlines
segment as well. He was Vice President, Division Merchandise Manager since he
joined the Company in May 2000. From 1998 to May 2000, Mr. Wurl served as Vice
President Merchandise Manager for Rich's Department Store, a division of
Federated Department Stores. Prior to that, Mr. Wurl was Director of Merchandise
and Product Development for Home Textiles for Federated Merchandising Group, a
division of Federated Department Stores from 1993-1998. From 1983 to 1993, Mr.
Wurl held various positions with divisions of May Department Stores.
23
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER
MATTERS
ShopKo Stores, Inc. common shares are listed on the New York Stock
Exchange under the symbol "SKO" and in the newspapers as "ShopKo." As of March
25, 2005, ShopKo's common shares were held by 2,409 record owners.
The following table sets forth the high and low reported closing sales
prices for the common stock for the last two fiscal years as reported on the New
York Stock Exchange Composite Tape.
HIGH LOW
-------- --------
FISCAL YEAR 2003
First Quarter (ended May 3, 2003) $12.2000 $10.0800
Second Quarter (ended August 2, 2003) $14.2300 $11.0800
Third Quarter (ended November 1, 2003) $16.6700 $12.1900
Fourth Quarter (ended January 31, 2004) $17.0100 $14.0000
FISCAL YEAR 2004
First Quarter (ended May 1, 2004) $15.4500 $13.2600
Second Quarter (ended July 31, 2004) $16.0000 $12.2200
Third Quarter (ended October 30, 2004) $18.6000 $14.9500
Fourth Quarter (ended January 29, 2005) $19.8300 $17.0400
The closing sales price of the common stock on the New York Stock Exchange
on March 24, 2005 was $21.80 per share.
The Company's Amended Secured Credit Facility (see Note D of the Notes to
the Consolidated Financial Statements) has a restrictive covenant that limits
the payment of dividends. The Company has not paid any cash dividends in the
last two years. The Company currently intends to retain earnings for future
growth and expansion of its business and the payment of debt, and not to declare
or pay any cash dividends. Management will continue to evaluate the use of
dividends and stock repurchase practices.
EQUITY COMPENSATION PLAN INFORMATION
(a) (c)
--- (b) ---
Number of securities --- Number of securities remaining
to be issued upon Weighted-average exercise available for future issuance
exercise of price of outstanding under equity compensation plans
outstanding options, options, warrants and (excluding securities reflected
Plan Category warrants and rights rights in column (a))
------------- -------------------- ------------------------- -------------------------------
Equity compensation plans approved
by security holders 2,355,811 $ 16.63 1,895,570
Equity compensation plans not
approved by security holders - 0 - - 0 - - 0 -
--------- ------- ---------
Total 2,355,811 $ 16.63 1,895,570
--------- ------- ---------
In fiscal 2004, the Company repurchased an aggregate of 5,627 shares of its
common stock through the surrender of shares by employees pursuant to agreements
under the Company's stock incentive plans to satisfy tax withholding
obligations. These share repurchases were not made pursuant to a publicly
announced repurchase plan or program.
24
ITEM 6. SELECTED FINANCIAL DATA
FISCAL YEARS ENDED
-----------------------------------------------------------
JAN. 29, JAN. 31, FEB. 1, FEB. 2, FEB. 3,
F2005 F2004 F2003 F2002 F2001
(52 WKS) (52 WKS) (52 WKS) (52 WKS) (53 WKS)(1)
-------- -------- -------- -------- -----------
SUMMARY OF OPERATIONS (MILLIONS)
Net sales $ 3,167 $ 3,184 $ 3,240 $ 3,374 $ 3,517
Licensed department rentals and other income 13 13 13 13 13
Gross margin 828 818(8) 833 806 865(2)
Selling, general and administrative expenses 653 645(8) 636 612 674
Special charges -0- -0- -0- -0- 9(3)
Restructuring charge -0- -0- 6 -0- 115(2)
Depreciation and amortization expenses 86 83 83 92 94
Interest expense - net 34 38 52 66 66
Earnings (loss) from continuing operations before
income taxes 69 64 68 50 (79)
Earnings (loss) from continuing operations 43 39 41 28 (50)
Discontinued operations - net -0- -0- -0- -0- 34
Earnings (loss) before accounting change 43 39 41 28 (16)
Net earnings (loss) 43 39 (145)(4) 28 (16)
PER SHARE DATA (DOLLARS)
Basic earnings (loss) per common share from
continuing operations $ 1.48 $ 1.35 $ 1.43 $ 0.98 $ (1.72)
Basic net earnings (loss) per common share 1.48 1.35 (5.03) 0.98 (0.55)
Diluted earnings (loss) per common share from
continuing operations 1.46 1.33 1.41 0.98 (1.72)
Diluted net earnings (loss) per common share 1.46 1.33 (4.95) 0.98 (0.55)
Cash dividends declared per common share (5) -0- -0- -0- -0- -0-
FINANCIAL DATA (MILLIONS)
Working capital $ 149 $ 73 $ 69 $ 121 $ 182
Property and equipment-net 742 781 812 892 974
Total assets 1,433 1,478 1,505 1,820 2,027
Long-term debt & capital lease obligations 247 311 415 585 665
Total debt (6) 332 393 455 633 836
Total shareholders' equity 638 591 548 690 662
Capital expenditures 74 61 31 17 196
FINANCIAL RATIOS
Current ratio 1.3 1.1 1.1 1.2 1.3
Return on beginning assets 2.9% 2.6% (8.0)% 1.4% (0.8)%
Return on beginning shareholders' equity 7.3% 7.1% (21.0)% 4.3% (2.3)%
Total debt as % of total capitalization (7) 33.4% 39.0% 44.5% 47.0% 55.0%
OTHER YEAR END DATA
ShopKo stores open at year end 143 141 141 141 164
Average ShopKo store size-square feet (9) 90,755 91,009 91,009 91,009 90,175
Pamida stores open at year end 220 218 223 225 229
Average Pamida store size-square feet 32,900 33,468 33,311 33,282 33,232
(1) Includes the results of P.M. Place stores acquired in June, 2000.
(2) The total restructuring charge of $125 million was recorded as inventory
liquidation charges of $10.4 million shown in the Gross margin line and
Restructuring charge of $115 million shown separately.
(3) Special charges relate to various costs incurred in connection with
business acquisitions, including process and system integration, employee
retention and store conversions.
(4) Includes cumulative effect of accounting change of $186.1 million ($6.36
per dilutive share).
(5) The terms of the Company's Amended Secured Credit Facility limit the
Company's ability to pay dividends, based on availability.
(6) Total debt includes short-term debt, total long-term debt obligations and
capital leases.
(7) Total capitalization includes shareholders' equity, total debt and
non-current deferred income taxes.
(8) Includes effect of adoption of EITF No. 02-16, which resulted in an
increase to gross margin of $14.4 million, an increase to selling, general
& administrative expense of $19.2 million, and a decrease to pre-tax
earnings of $4.8 million.
(9) Average ShopKo store size does not include the three ShopKo Express Rx
stores.
25
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
EXECUTIVE SUMMARY
ShopKo Stores, Inc. is a retailer headquartered in Green Bay, Wis., with
363 stores and approximately 23,000 teammates throughout the Midwest, Mountain
and Pacific Northwest regions. The Company's reportable Retail segments include
a ShopKo Retail segment and a Pamida Retail segment. The ShopKo Retail segment
includes 140 ShopKo stores providing quality name-brand merchandise, great
values, pharmacy and optical services in mid-sized to larger cities and three
ShopKo Express Rx stores, a new and convenient neighborhood drugstore concept.
The Pamida Retail segment includes 220 Pamida stores bringing value close to
home in small, rural communities.
During fiscal 2004, diluted earnings per share were $1.46 compared with
diluted earnings per share of $1.33 for fiscal 2003. Net income was $43.3
million compared with last year's net income of $39.1 million. Consolidated
sales were $3,166.6 million compared with $3,184.1 million in fiscal 2003.
Consolidated comparable store sales decreased 0.4 percent from the prior year.
ShopKo comparable store sales decreased 0.9 percent primarily due to a planned
reduction in promotional activity, especially during the second half of the
year. Pamida comparable store sales increased 1.2 percent, primarily due to an
increase in the retail health category, partially offset by declines in general
merchandise sales.
Consistent with the past several years, the retail health category
continued to increase as a percentage of the Company's sales in fiscal 2004. For
fiscal 2004, retail health sales made up 29.7 percent and 22.3 percent of ShopKo
and Pamida retail segments, respectively.
The Company's fiscal 2004 results highlight the Company's focus on gross
margin improvement, delivering profitable sales and reducing debt. In fiscal
2004, the Company increased consolidated gross margin by 1.3 percent or $10.9
million compared with fiscal 2003 and reduced debt levels by 15.5 percent or
$60.7 million versus a year ago. This debt reduction strategy resulted in a $4.0
million interest expense reduction as compared with a year ago and further
strengthened the Company's balance sheet.
The Company experienced a slight increase in selling, general and
administrative expenses as a percent of sales during fiscal 2004 primarily due
to increased payroll to support pharmacy growth and pre-opening costs associated
with remodeling activity and new stores. Additionally, in the fourth quarter of
fiscal 2004, the Company recorded a pre-tax charge of $2.7 million related to
asset impairments. The Company also recorded a pre-tax charge to depreciation
expense of $1.3 million to conform the Company's lease accounting practices to
Securities and Exchange Commission interpretive guidance.
Over the past year, the Company made the following capital investments
which totaled $74.2 million for the year;
- Completed 61 remodels for both ShopKo and Pamida
- Added 10 new Pamida pharmacy locations
- Completed the consolidation of the Omaha distribution centers
- Launched our freestanding drug store concept, ShopKo Express Rx, and
- Invested in various merchandising initiatives and technology updates
26
As the Company enters fiscal 2005, the new year brings opportunities and
new challenges. The Company remains committed to building on this past year's
progress and improving the long term prospects of the Company by meeting these
primary objectives:
- Continued focus on delivering profitable sales through refinement of
promotional strategies and gross margin improvement initiatives,
- Managing inventory levels, and
- Controlling expenses
To support these objectives, the Company has announced a disciplined
capital spending plan of approximately $60.0 million, which is outlined below
under the heading Liquidity and Capital Resources.
In fiscal 2005, the Company also plans to continue its investments in its
teammates. Last year the Company launched a training initiative designed to
provide teammates with the opportunity to strengthen their skills and enhance
their business management abilities. This year, the Company intends to focus on
leadership training throughout the organization, in an effort to create
accomplished teammates at every level of the Company.
The retail industry is highly competitive and ShopKo competes in most of
its markets with a variety of national and regional retailers. Pamida's
competition varies by market, which includes other general merchandise
retailers, supermarkets, drug and specialty stores, and mail order merchants.
The Company expects to continue to be challenged by competitor store openings
for the foreseeable future. While there can be no assurance that the Company's
efforts will succeed, the Company remains committed to improving profitability
and further decreasing debt levels. The Company believes debt reduction for
fiscal 2005 could be up to $80.0 million.
RESULTS OF OPERATIONS
The following table sets forth items from our Consolidated Statements of
Operations as percentages of consolidated net sales:
FISCAL YEARS ENDED
------------------------------------------------
JAN. 29, 2005 JAN. 31, 2004 FEB. 1, 2003
(52 WEEKS) (52 WEEKS) (52 WEEKS)
------------- ------------- ------------
Revenues:
Net sales 100.0% 100.0% 100.0%
Licensed department rentals and other income 0.4 0.4 0.4
----- ----- -----
100.4 100.4 100.4
Costs and Expenses:
Cost of sales 73.8 74.3 74.3
Selling, general and administrative expenses 20.6 20.3 19.6
Restructuring charge 0.0 0.0 0.2
Depreciation and amortization expenses 2.7 2.6 2.6
----- ----- -----
97.1 97.2 96.7
----- ----- -----
Earnings from operations 3.2 3.2 3.7
Interest expense - net 1.1 1.2 1.6
----- ----- -----
Earnings before income taxes 2.2 2.0 2.1
Provision for income taxes 0.8 0.8 0.8
----- ----- -----
Earnings before accounting change 1.4% 1.2% 1.3%
===== ===== =====
27
The Company's reportable segments are based on the Company's strategic
business operating units and include a ShopKo Retail segment and a Pamida Retail
segment, each of which includes the following product categories:
hardlines/home, softlines and retail health/pharmacy.
The following tables set forth items from the Company's business segments
as percentages of net sales:
SHOPKO RETAIL SEGMENT
FISCAL YEARS ENDED
------------------------------------------------
JAN. 29, 2005 JAN. 31, 2004 FEB. 1, 2003
(52 WEEKS) (52 WEEKS) (52 WEEKS)
------------- ------------- ------------
Revenues:
Net sales 100.0% 100.0% 100.0%
Licensed department rentals and other income 0.5 0.5 0.4
----- ----- -----
100.5 100.5 100.4
Costs and Expenses:
Cost of sales 73.7 74.4 74.3
Selling, general and administrative expenses 19.3 18.9 17.7
Depreciation and amortization expenses 2.7 2.5 2.4
----- ----- -----
95.7 95.8 94.4
Earnings from operations 4.8% 4.7% 6.0%
===== ===== =====
PAMIDA RETAIL SEGMENT
FISCAL YEARS ENDED
------------------------------------------------
JAN. 29, 2005 JAN. 31, 2004 FEB. 1, 2003
(52 WEEKS) (52 WEEKS) (52 WEEKS)
------------- ------------- ------------
Revenues:
Net sales 100.0% 100.0% 100.0%
Licensed department rentals and other income 0.2 0.2 0.2
----- ----- -----
100.2 100.2 100.2
Costs and Expenses:
Cost of sales 74.1 74.2 74.2
Selling, general and administrative expenses 21.3 21.6 21.7
Depreciation and amortization expenses 2.9 2.9 2.9
----- ----- -----
98.3 98.7 98.8
Earnings from operations 1.9% 1.5% 1.4%
===== ===== =====
28
FISCAL 2004 COMPARED TO FISCAL 2003
NET SALES
% INCREASE/
FISCAL YEAR (DECREASE)
---------------------- ------------------
2004 2003 TOTAL ** COMP *
--------- --------- -------- ------
ShopKo Retail $ 2,356.3 $ 2,383.5 (1.1)% (0.9)%
Pamida Retail 810.3 800.6 1.2% 1.2%
--------- --------- -------- ------
Consolidated $ 3,166.6 $ 3,184.1 (0.5)% (0.4)%
* Comparable store sales represent sales of those stores open during both
fiscal years and do not include sales from the ShopKo wholesale optical
lab.
** ShopKo Retail segment total sales variance reflects sales from one closed
ShopKo location in fiscal 2004 and three new ShopKo Express Rx locations.
Pamida Retail segment total sales variance also reflects sales from five
closed Pamida locations and seven new locations in fiscal 2004.
ShopKo comparable store sales decreased 0.9 percent during fiscal 2004 due
in part to a planned reduction in promotional activity in the fourth quarter.
ShopKo continues to focus on achieving the right promotional sales and margin
balance. Changes in ShopKo comparable store sales in fiscal 2004 by category
were as follows: Retail Health, 1.1%; Softlines, (0.4)%; and Hardlines/Home,
(2.3)%. The 1.2 percent increase in Pamida comparable store sales during fiscal
2004 was primarily due to increased pharmacy sales, which were aided by the
purchase of customer pharmacy files and pharmacy installations in existing
stores. Changes in Pamida comparable store sales in fiscal 2004 by category were
as follows: Pharmacy, 18.2%; Hardlines, (1.2)%; and Softlines, (9.0)%.
Consolidated gross margin dollars increased 1.3 percent to $828.4 million
during fiscal 2004 from $817.6 million for fiscal 2003. Consolidated gross
margin, as a percent of net sales for fiscal 2004, was 26.2 percent compared
with 25.7 percent for last year. The increase in gross margin as a percent of
net sales for fiscal 2004 was primarily attributable to less promotional
activity and better managed clearance markdowns at both ShopKo and Pamida.
ShopKo's gross margin dollars increased 1.3 percent to $618.6 million
during fiscal 2004 from $610.8 million for fiscal 2003. ShopKo's gross margin,
as a percent of net sales, was 26.3 percent compared with 25.6 percent for last
year. The percent of sales increase was primarily due to higher merchandise
margins (72 basis points) attributable to better managed clearance markdowns in
the fourth quarter of fiscal 2004 and less promotional activity in the second
half of fiscal 2004. Pamida's gross margin dollars increased 1.5 percent to
$209.9 million during fiscal 2004 from $206.7 million for fiscal 2003. As a
percent of sales, Pamida's gross margin was 25.9 percent during fiscal 2004
compared with 25.8 percent last year. The increase was primarily due to higher
merchandise margins (33 basis points) and a reduction in distribution expenses
(13 basis points) in fiscal 2004 offset by a reduction in inventory shrinkage
provision in the first quarter of fiscal 2003 (32 basis points).
The Company uses the last-in, first-out (LIFO) method for substantially
all inventories. There was no LIFO charge or credit for fiscal 2004. There was
no difference between the LIFO and first-in, first-out (FIFO) cost methods at
January 29, 2005 and January 31, 2004. In fiscal 2002, the Company's LIFO
reserve was reduced by $2.9 million to zero, as a result of price index
deflation for various products in ending inventory.
Consolidated selling, general, and administrative expenses as a percent of
net sales for fiscal 2004 were 20.6 percent compared with 20.3 percent in fiscal
2003. The percent of sales increase in
29
fiscal 2004 was attributable to increased payroll to support pharmacy growth (20
basis points), employee incentives and benefits (15 basis points), and
pre-opening costs associated with new stores and store remodeling activity (12
basis points), offset by lower ShopKo main store payroll due to lower sales and
higher employee productivity (18 basis points).
The Company reviewed its accounting practices related to leasing
transactions in connection with the recent attention placed on accounting for
leases and the interpretive guidance issued by the Securities and Exchange
Commission in February 2005 regarding lease accounting. In connection with this
review, the Company identified certain practices (associated with the lease term
used for amortization of leasehold improvements and straight-line rent expense)
which were not consistent with the interpretive guidance.
To conform past practice with applicable accounting guidance, the Company
recorded additional depreciation expense of approximately $1.3 million and
additional rent expense of approximately $0.3 million in the fourth quarter of
fiscal 2004. Of the total $1.5 million pre-tax charges, $0.3 million is
attributable to fiscal 2004 and $1.2 million is related to prior periods. Prior
years financial results have not been restated due to the immateriality of this
issue to the results of operations and statement of financial position for the
current year or any individual prior year. The adjustment did not affect
historical or future cash flows or timing of payments under related leases.
ShopKo's selling, general, and administrative expenses as a percent of net
sales for fiscal 2004 were 19.3 percent compared with 18.9 percent for fiscal
2003. The percent of sales increase in fiscal 2004 was primarily due to
increased employee incentives and benefits (26 basis points), the reduction in
sales (24 basis points), and pre-opening costs associated with new stores and
store remodels (15 basis points) offset by lower main store payroll due to lower
sales and higher productivity (25 basis points). Pamida's selling, general, and
administrative expenses as a percent of net sales for fiscal 2004 were 21.3
percent compared with 21.6 percent for the same period last year. The decrease
was attributable to reduced store closing and impairment costs (32 basis
points), sales leveraging (26 basis points), lower employee incentives and
benefits (24 basis points) and store-controlled expenses (15 basis points)
offset by higher payroll due to pharmacy growth (39 basis points) and
pre-opening expenses (22 basis points) and other various individually immaterial
expense variations that in the aggregate comprise the remainder of the
difference.
Consolidated depreciation and amortization expenses were $86.2 million for
fiscal 2004 compared with $83.2 million for fiscal 2003. As a percent of net
sales, consolidated depreciation and amortization expenses were 2.7 percent for
fiscal 2004 compared with 2.6 percent for last year. The increase in
depreciation and amortization is attributable to the increased level of capital
expenditures due to store remodeling activity, new store openings, and the lease
adjustment discussed above.
Interest expense for fiscal 2004 decreased by $4.0 million, or 10.7
percent, to $33.9 million compared with $37.9 million in fiscal 2003. The $4.0
million decrease was primarily attributable to lower debt balances.
The Company's effective tax rate for fiscal 2004 was 36.8 percent compared
with 38.9 percent for fiscal 2003. The decrease in the Company's effective tax
rate in the fourth quarter and full year of fiscal 2004 is due to a reduction to
the provision for income taxes of approximately $1.4 million or $0.04 diluted
earnings per share due to the settlement of open tax years.
30
FISCAL 2003 COMPARED TO FISCAL 2002
NET SALES
------------------------------------------------
% INCREASE/
FISCAL YEAR (DECREASE)
----------------------- -------------------
2003 2002 TOTAL ** COMP *
--------- --------- -------- ------
ShopKo Retail $ 2,383.5 $ 2,456.1 (3.0)% (3.0)%
Pamida Retail 800.6 784.1 2.1% 2.8%
--------- --------- ---- ----
Consolidated $ 3,184.1 $ 3,240.2 (1.7)% (1.6)%
========= ========= ==== ====
* Comparable store sales represent sales of those stores open during both
fiscal years.
** Pamida division total sales variance reflects sales in the prior year
periods from nine locations, which have been closed and not replaced, and
two new Pamida locations opened in September 2003.
The 3.0 percent decrease in ShopKo comparable store sales during fiscal
2003 was primarily related to the decreased general merchandise sales, as a
result of lower promotional sales and competitive store openings, partially
offset by increased sales in retail health services. Changes in ShopKo
comparable store sales in fiscal 2003 by category were as follows: Retail
Health, 4.5%; Hardlines, (7.5)%; and Softlines, (6.0)%. The 2.8 percent increase
in Pamida comparable store sales during fiscal 2003 was driven by increased
pharmacy and advertised sales, as a result of new convenience and value
merchandising and marketing efforts. Changes in Pamida comparable store sales in
fiscal 2003 by category were as follows: Pharmacy, 21.7%; Hardlines, (0.1)%; and
Softlines, (4.6)%. The increase in Pharmacy sales for the Pamida division is
inclusive of new pharmacy openings in existing stores and the purchase of
pharmacy customer lists in existing pharmacies.
EFFECT OF THE ADOPTION OF EITF NO. 02-16
EITF No. 02-16, as it applies to the Company, addresses the recognition of
certain vendor allowances and requires these allowances to be treated as a
reduction of inventory cost unless specifically identified as reimbursement for
services or other costs incurred. The adoption of EITF No. 02-16 by the Company
resulted in a reclassification of certain vendor allowances that increased net
advertising expense included in selling, general and administrative expenses
and, correspondingly, decreased cost of sales, resulting in increased gross
margin. In addition, the adoption of EITF No. 02-16 resulted in the deferral of
certain vendor allowances into inventory cost that cannot be recognized until
the merchandise is sold, which resulted in a negative effect on earnings.
The following table presents the effects of adopting EITF No. 02-16 for
fiscal 2003 (dollars in millions):
FISCAL YEAR ENDED
JANUARY 31, 2004
----------------------------
$ INCREASE / PERCENT OF
GROSS MARGIN (DECREASE) NET SALES*
------------ ------------ ----------
ShopKo Retail 17.8 .75
Pamida Retail (3.4) (.42)
----
Consolidated 14.4 .45
====
31
SELLING, GENERAL & $ INCREASE / PERCENT OF
ADMINISTRATIVE EXPENSES (DECREASE) NET SALES*
- ----------------------- ------------ ----------
ShopKo Retail 22.1 .93
Pamida Retail (2.9) (.35)
----
Consolidated 19.2 .61
====
$ INCREASE /
PRE-TAX EARNINGS (DECREASE)
- ---------------- ------------
ShopKo Retail (4.3)
Pamida Retail (0.5)
----
Consolidated (4.8)
====
* Percent of net sales represent the dollar amount shown as a percent of
ShopKo Retail and Pamida Retail business segments or consolidated net
sales, respectively. Thus, the percents are not cumulative.
Consolidated gross margin as a percent of net sales was 25.7 percent for
both fiscal 2003 and fiscal 2002. Aside from the effect of EITF No. 02-16, the
Company's gross margin, as a percent of net sales, declined primarily due to
lower merchandise and pharmacy margins (77 basis points) and higher distribution
expense (17 basis points), offset by reduced shrink expense (48 basis points).
Consolidated gross margin dollars decreased 1.9 percent to $817.6 million for
the same period.
ShopKo's gross margin as a percent of net sales was 25.6 percent for
fiscal 2003 compared with 25.7 percent for fiscal 2002. Aside from the effect of
EITF No. 02-16, ShopKo's gross margin, as a percent of net sales, declined
primarily due to lower merchandise and pharmacy margins (90 basis points) and
increased distribution expense (23 basis points), offset by reduced shrink
expense. ShopKo's gross margin dollars decreased 3.2 percent to $610.8 million
for the same period. Pamida's gross margin as a percent of net sales was 25.8
percent in fiscal 2003 and fiscal 2002. The gross margin rate was primarily
impacted by the negative effect of EITF No. 02-16 (42 basis points) and lower
merchandise and pharmacy margins (46 basis points), offset by reduced shrink
expense (101 basis points). Pamida's gross margin dollars increased 2.1 percent
to $206.7 million for the same period.
The Company uses the last-in, first-out (LIFO) method for substantially
all inventories. There was no LIFO charge or credit for fiscal 2003. There was
no difference between the LIFO and first-in, first-out (FIFO) cost methods at
January 31, 2004 and February 1, 2003.
Consolidated selling, general and administrative expenses as a percent of
net sales for fiscal 2003 were 20.3 percent compared with 19.6 percent in fiscal
2002. ShopKo's selling, general and administrative expenses as a percent of net
sales for fiscal 2003 were 18.9 percent compared with 17.7 percent for last year
primarily attributable to the effect of EITF No. 02-16. Pamida's selling,
general and administrative expenses for fiscal 2003 were 21.6 percent of net
sales compared with 21.7 percent in fiscal 2002. The decrease is primarily
related to sales leveraging (45 basis points), the effect of EITF No. 02-16 (35
basis points) and lower insurance costs (31 basis points), offset by increased
payroll costs associated with pharmacy growth (60 basis points) and additional
costs associated with store closings, impairments and remodels (47 basis
points).
Consolidated depreciation and amortization expenses as a percent of net
sales were 2.6 percent in both fiscal 2003 and fiscal 2002.
Interest expense for fiscal 2003 decreased 27.4 percent to $37.9 million
when compared with fiscal 2002. The decrease was primarily due to lower debt
levels.
32
The Company's effective tax rate for fiscal 2003 was 38.9 percent compared
with 39.7 percent for fiscal 2002.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of consolidated financial statements in conformity with
accounting principles generally accepted in the United States of America
requires the appropriate application of certain accounting policies, many of
which require management to make estimates and assumptions about future events
and their impact on amounts reported in our financial statements and related
notes. Since future events and their impact cannot be determined with certainty,
the actual results will inevitably differ from our estimates. Such differences
could be material to the financial statements.
Management believes its application of applicable accounting policies, and
the estimates inherently required therein, are reasonable. Management
periodically reevaluates these accounting policies and estimates in the
preparation of our financial statements and makes adjustments when facts and
circumstances dictate a change. Management has identified certain critical
accounting policies which are described below.
Merchandise inventory. Our merchandise inventory is carried at the lower
of cost or market on a last-in, first-out (LIFO) basis utilizing the average
cost method of accounting. The valuation of inventories at cost requires certain
management judgments and estimates, including among others, the assessment of
shrinkage rates, obsolescence and the impact on inventory values of using the
lower of cost or market valuation method. In valuing the inventory, the Company
undertakes physical inventories at least annually at its stores and distribution
centers and adjusts inventory values regularly to reflect market conditions and
business trends. The Company estimates losses of inventory due to shrinkage
based upon historical experience by store and by merchandise department, which
are then verified by physical inventory counts. The Company's experience has
been that there is little fluctuation or risk in the estimate of obsolescence or
lower of cost or market reserve because (i) of the Company's inventory turnover
rate, (ii) a large percentage of our inventory is returnable to our vendors for
cost and (iii) the Company is able to receive vendor support monies if product
is sold below expected prices. The non-returnable inventory goes through a
markdown process that liquidates the inventory, generally at prices in excess of
cost.
Goodwill & Intangible Assets - Net. The Company adopted SFAS No. 142,
"Goodwill and Other Intangible Assets", effective February 3, 2002. Under SFAS
No. 142, the Company no longer amortizes goodwill and other intangible assets
with indefinite useful lives. Instead, the carrying value is evaluated for
impairment on an annual basis.
During fiscal 2002, the Company completed its assessment of the impairment
of goodwill of the Pamida Retail segment in accordance with the guidelines
provided by SFAS No. 142. As a result of this assessment, the Company recorded a
charge of $186.1 million related to the write down of all goodwill recorded on
the Company's balance sheet, all of which related to the Pamida Retail segment.
During 2004, the Company completed field audits and reached a final
settlement of the income tax uncertainties regarding the realization of certain
acquired tax benefits associated with the Pamida acquisition in fiscal 1999. At
the time, management recorded in its purchase accounting its best estimate of
the tax basis of the acquired benefits that would be accepted by the tax
authority. In accordance with SFAS 109 "Accounting for Income Taxes",
liabilities previously recognized relating to the acquired entity's prior tax
returns should be adjusted when such items are settled with the tax authority.
The effect of the adjustment should be applied first to remaining
33
goodwill, and then to intangible assets relating to the acquisition. Based on
the final settlement reached in 2004, the Company reduced the Pamida trade name
and related deferred income tax liabilities by $6.3 million. This adjustment did
not impact net income.
Restructuring Reserve. In connection with the reorganization plan
announced in the fourth quarter of fiscal 2000 to close 23 ShopKo retail stores,
a distribution center, and to downsize its corporate workforce, the Company
incurred a pre-tax charge of $125.0 million related to inventory and property
write-downs, lease termination and property carrying costs, and employee
separation and other costs. The inventory and fixed asset write-down reserves
were recorded in the fourth quarter of fiscal 2000, and the Company closed all
23 stores and a distribution center in fiscal 2001. The Company utilized all of
the employee severance reserve prior to fiscal 2002. Of the 24 properties
initially covered by the restructuring reserve, sixteen were disposed of in
subsequent years, leaving eight remaining properties (four owned properties and
four leased properties) covered by the restructuring reserve as of the beginning
of fiscal 2004.
In fiscal 2004, the Company sold four owned properties and none of the
remaining leases were terminated. In the second quarter of fiscal 2004, the
Company entered into contracts to sell two of the four owned properties and
recorded an additional $0.7 million increase to the property write-down reserve
based on the expected sale prices, which were less than previously anticipated.
The Company sold one of the remaining owned properties in the third quarter of
fiscal 2004 and the final owned property in the fourth quarter of fiscal 2004.
As of January 29, 2005, there were four remaining leased properties covered by
the restructuring reserve and the remaining reserve for lease termination and
related property carrying costs, as well as other costs, was $13.3 million. For
balance sheet reporting purposes, the portion of the reserve for the lease
termination, property carrying and other costs to be paid in the next 12 months
is reported in accrued expenses ($1.8 million) as a current liability and the
remainder ($11.5 million) is recorded in other long-term obligations as of the
end of fiscal 2004. The amount of the asset write-downs and reserves for lease
termination and property carrying costs are based in part on management's
estimates as to the timing and costs for disposition of the closed facilities.
The Company's intention has been, and continues to be, to relieve all
obligations associated with the closed facilities.
The Company believes the reserves are adequate, and continues to negotiate
lease terminations with landlords. However, due to the Company's inability to
terminate the leases or to sublease the four locations, the level of reserves
could prove to be inadequate and additional charges may be required. The Company
will continue to evaluate the adequacy of the amounts reserved as it proceeds
with the termination of the leases.
Vendor Allowances. The Company records vendor allowances and discounts in
the income statement when the purpose for which those monies were designated is
fulfilled. Allowances provided by vendors generally relate to inventory recently
sold and, accordingly, are reflected as reductions of cost of sales as
merchandise is sold. Vendor allowances received for advertising or fixturing
programs reduce the Company's expense or cost for the related advertising or
fixturing program. As discussed previously, the Company recognizes vendor
allowances based on the provisions of EITF No. 02-16, which was adopted by the
Company in fiscal year 2003.
Impairment of Long-Lived Assets. In accordance with SFAS 144 "Accounting
for the Impairment or Disposal of Long-Lived Assets", the Company evaluates
long-lived assets whenever events or changes in circumstances indicate the
carrying value of an asset may not be recoverable based on projected future
undiscounted cash flows attributable to that asset. The measurement of possible
impairment is based on the ability to recover the balance of assets from
expected future operating cash flows on an undiscounted basis. Impairment
losses, if any, would be measured by comparing the carrying amount of the asset
to its fair value, determined based on appraised values
34
or the present value of the cash flows using discount rates that reflect the
inherent risks of the underlying business. Our impairment loss calculations
require management to apply judgment in estimating future cash flows and asset
fair values, including forecasting useful lives of the assets and selecting the
discount rate that reflects the risk inherent in future cash flows.
Income Taxes. The Company provides deferred income tax assets and
liabilities based on the estimated future tax effects of differences between the
financial and tax bases of assets and liabilities based on currently enacted
laws. The tax balances and income tax expense recognized by the Company are
based on management's interpretation of the tax laws of multiple jurisdictions.
Income tax expense also reflects the Company's best estimates and assumptions
regarding, among other things, the level of future taxable income,
interpretation of the tax laws, and tax planning. The Company pays income taxes
based on tax statutes, regulations and case law of the various jurisdictions in
which it operates. At any one time, multiple tax years are subject to audit by
the various taxing authorities.
LIQUIDITY AND CAPITAL RESOURCES
The Company's liquidity requirements are met primarily by cash generated
from operations, with remaining funding requirements provided by short-term and
long-term borrowings. Cash provided by operating activities was $112.8 million,
$107.0 million and $209.7 million in fiscal 2004, 2003 and 2002, respectively.
The Company finances a significant portion of its operations through vendor
financing. As of January 29, 2005, accounts payable totaled $225.8 million. The
Company currently maintains favorable terms with its vendors, however these
terms could change based on the Company's operating performance in the future.
As of January 29, 2005, the Company had $152.2 million of long-term debt
outstanding, comprising $99.7 million of Senior Unsecured Notes and
approximately $52.5 million of long-term notes payable. During fiscal 2004, the
Company funded the retirement of $55.3 million in aggregate principal amount of
Senior Unsecured Notes due November, 2004. The remaining Senior Unsecured Notes
have a maturity date in March 2022. A more detailed description of these notes
is contained in Note D of the Notes to the Consolidated Financial Statements.
Payments due under the Senior Unsecured Notes could be accelerated in the event
the Company defaults on any obligation in excess of $25.0 million.
In addition to the Senior Unsecured Notes, the Company had $85.7 million
outstanding under its Amended Secured Credit Facility as of the end of fiscal
2004 compared with $82.3 million outstanding as of the end of fiscal 2003.
During the third quarter of fiscal 2003, the Company entered into the Amended
Secured Credit Facility, which is secured by the Company's inventory and
accounts receivable. The Amended Secured Credit Facility provides for revolving
credit borrowings of up to $450.0 million, bearing interest at the bank's base
rate plus a margin of 0.0% to 0.25% or the Eurodollar rate plus a margin of 1.5%
to 2.0%, depending on borrowing availability under the facility.
The Amended Secured Credit Facility terminates August 19, 2007, limits the
payment of dividends, new indebtedness, repurchases of common stock and capital
expenditures, and requires the Company to meet financial performance coven