-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, LbN+pZAYSyfvzztfzg9gEXwHELu/a4JsPHNuP2HJ6+9x72QUH5dYhwRamFI7x+rX DXg5QeZ0hkzXxYrBknx4OQ== 0000950124-04-003850.txt : 20040816 0000950124-04-003850.hdr.sgml : 20040816 20040816110843 ACCESSION NUMBER: 0000950124-04-003850 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 7 CONFORMED PERIOD OF REPORT: 20040728 FILED AS OF DATE: 20040816 FILER: COMPANY DATA: COMPANY CONFORMED NAME: KMART HOLDING CORP CENTRAL INDEX KEY: 0001229206 STANDARD INDUSTRIAL CLASSIFICATION: RETAIL-VARIETY STORES [5331] IRS NUMBER: 320073116 STATE OF INCORPORATION: DE FISCAL YEAR END: 0131 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-50278 FILM NUMBER: 04976800 MAIL ADDRESS: STREET 1: 3100 WEST BIG BEAVER ROAD CITY: TROY STATE: MI ZIP: 48084 10-Q 1 k86812e10vq.txt QUARTERLY REPORT FOR PERIOD ENDED 07/28/04 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended July 28, 2004 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ________ to________ Commission File No. 000-50278 KMART HOLDING CORPORATION ---------------------------------------------------- (Exact name of registrant as specified in its charter) Delaware 32-0073116 - -------------------------------------------------------------------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 3100 West Big Beaver Road -- Troy, Michigan 48084 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (248) 463-1000 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 [ ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ] Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes [X] No [ ] As of August 6, 2004, 89,647,641 shares of Common Stock of the Registrant were outstanding. 1 INDEX
PAGE ----- PART I FINANCIAL INFORMATION Item 1. Financial Statements Condensed Consolidated Statements of Operations (Unaudited) -- for the 13- weeks ended July 28, 2004 and July 30, 2003 3 Condensed Consolidated Statements of Operations (Unaudited)-- Successor Company -- for the 26-weeks ended July 28, 2004 and 13-weeks ended July 30, 2003 Predecessor Company -- for the 13-weeks ended April 30, 2003 4 Condensed Consolidated Balance Sheets (Unaudited)-- as of July 28, 2004, January 28, 2004 and July 30, 2003 5 Condensed Consolidated Statements of Cash Flows (Unaudited)-- Successor Company -- for the 26-weeks ended July 28, 2004 and the 13-weeks ended July 30, 2003 Predecessor Company -- for the 13-weeks ended April 30, 2003 6 Notes to Unaudited Condensed Consolidated Financial Statements 7-19 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 20-27 Item 3. Quantitative and Qualitative Disclosures about Market Risk 28 Item 4. Controls and Procedures 28 PART II OTHER INFORMATION Item 1. Legal Proceedings 29 Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities 29 Item 4. Submission of Matters to a Vote of Security Holders 29 Item 6. Exhibits and Reports on Form 8-K 29-30 Signatures 31
2 PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA) (UNAUDITED)
13-WEEKS ENDED 13-WEEKS ENDED JULY 28, 2004 JULY 30, 2003 -------------- -------------- Sales $ 4,785 $ 5,652 Cost of sales, buying and occupancy 3,543 4,419 ------------ ------------ Gross margin 1,242 1,233 Selling, general and administrative expenses 1,039 1,225 Net gains on sales of assets (72) (2) ------------ ------------ Operating income 275 10 Interest expense, net 31 21 Bankruptcy-related recoveries (5) - Equity income in unconsolidated subsidiaries - (2) ------------ ------------ Income (loss) from operations before income taxes 249 (9) Provision for (benefit from) income taxes 94 (4) ------------ ------------ Net income (loss) $ 155 $ (5) ============ ============ Basic net income (loss) per common share $ 1.73 $ (0.06) ============ ============ Diluted net income (loss) per common share $ 1.54 $ (0.06) ============ ============ Basic weighted average shares (millions) 89.5 89.7 Diluted weighted average shares (millions) 101.5 89.7
See accompanying Notes to Unaudited Condensed Consolidated Financial Statements. 3 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA) (UNAUDITED)
PREDECESSOR SUCCESSOR COMPANY COMPANY ------------------------------ --------------- 26-WEEKS ENDED 13-WEEKS ENDED 13-WEEKS ENDED JULY 28, 2004 JULY 30, 2003 APRIL 30, 2003 -------------- -------------- --------------- Sales $ 9,400 $ 5,652 $ 6,181 Cost of sales, buying and occupancy 7,021 4,419 4,762 ----------- ----------- ----------- Gross margin 2,379 1,233 1,419 Selling, general and administrative expenses 2,043 1,225 1,421 Net gains on sales of assets (104) (2) - Restructuring, impairment and other charges - - 37 ----------- ----------- ----------- Operating income (loss) 440 10 (39) Interest expense, net 57 21 57 Bankruptcy-related recoveries (12) - - Equity income in unconsolidated subsidiaries (3) (2) (7) Reorganization items, net - - 769 ----------- ----------- ----------- Income (loss) from continuing operations before income taxes 398 (9) (858) Provision for (benefit from) income taxes 150 (4) (6) ----------- ----------- ----------- Income (loss) from continuing operations 248 (5) (852) Discontinued operations (net of income taxes of $0) - - (10) ----------- ----------- ----------- Net income (loss) $ 248 $ (5) $ (862) =========== =========== =========== Basic income (loss) per common share from continuing operations $ 2.77 $ (0.06) $ (1.63) Discontinued operations - - (0.02) ----------- ----------- ----------- Basic net income (loss) per common share $ 2.77 $ (0.06) $ (1.65) =========== =========== =========== Diluted income (loss) per common share from continuing operations $ 2.47 $ (0.06) $ (1.63) Discontinued operations - - (0.02) ----------- ----------- ----------- Diluted net income (loss) per common share $ 2.47 $ (0.06) $ (1.65) =========== =========== =========== Basic weighted average shares (millions) 89.5 89.7 522.7 Diluted weighted average shares (millions) 101.1 89.7 522.7
See accompanying Notes to Unaudited Condensed Consolidated Financial Statements. 4 CONDENSED CONSOLIDATED BALANCE SHEETS (DOLLARS IN MILLIONS, EXCEPT SHARE DATA) (UNAUDITED)
JULY 28, JANUARY 28, JULY 30, 2004 2004 2003 ---------- ---------- ---------- ASSETS CURRENT ASSETS Cash and cash equivalents $ 2,626 $ 2,088 $ 1,200 Merchandise inventories 3,212 3,238 4,063 Accounts receivable, net 225 301 305 Other current assets 130 184 254 ---------- ---------- ---------- TOTAL CURRENT ASSETS 6,193 5,811 5,822 Property and equipment, net 240 153 43 Other assets and deferred charges 212 120 90 ---------- ---------- ---------- TOTAL ASSETS $ 6,645 $ 6,084 $ 5,955 ========== ========== ========== LIABILITIES AND SHAREHOLDERS' EQUITY CURRENT LIABILITIES Long-term debt and mortgages payable due within one year $ 4 $ 4 $ 66 Accounts payable 977 820 1,083 Accrued payroll and other liabilities 772 671 636 Taxes other than income taxes 291 281 333 ---------- ---------- ---------- TOTAL CURRENT LIABILITIES 2,044 1,776 2,118 LONG-TERM LIABILITIES Long-term debt and mortgages payable 103 103 51 Capital lease obligations 335 374 401 Pension obligations 880 873 861 Unfavorable operating leases 316 342 334 Other long-term liabilities 430 424 482 ---------- ---------- ---------- TOTAL LIABILITIES 4,108 3,892 4,247 SHAREHOLDERS' EQUITY Preferred stock 20,000,000 shares authorized; no shares outstanding - - - Common stock $0.01 par value, 500,000,000 shares authorized; 89,647,641, 89,633,760 and 89,677,509 shares issued, respectively 1 1 1 Treasury stock, at cost (1) (1) - Capital in excess of par value 2,041 1,943 1,712 Retained earnings (Accumulated deficit) 496 248 (5) Accumulated other comprehensive income - 1 - ---------- ---------- ---------- TOTAL SHAREHOLDERS' EQUITY 2,537 2,192 1,708 ---------- ---------- ---------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 6,645 $ 6,084 $ 5,955 ========== ========== ==========
See accompanying Notes to Unaudited Condensed Consolidated Financial Statements. 5 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (DOLLARS IN MILLIONS) (UNAUDITED)
PREDECESSOR SUCCESSOR COMPANY COMPANY ---------------------------- -------------- 26-WEEKS 13-WEEKS 13-WEEKS ENDED ENDED ENDED JULY 28, 2004 JULY 30, 2003 APRIL 30, 2003 ------------- ------------- -------------- CASH FLOWS FROM OPERATING ACTIVITIES Net income (loss) $ 248 $ (5) $ (862) Adjustments to reconcile net income (loss) to net cash provided by (used for) operating activities: Depreciation and amortization 24 5 177 Store closings inventory charges 17 - - Net gains on sales of assets (104) (2) - Deferred income taxes 22 - - Equity income in unconsolidated subsidiaries (3) (2) (7) Restructuring, impairments and other charges - - 44 Reorganization items, net - - 769 Dividends received from Meldisco 3 - 36 Cash used for store closings and other charges - (5) (64) Cash used for payments of exit costs and other reorganization items - (451) (19) Change in: Merchandise inventories 10 368 480 Accounts receivable 41 75 114 Accounts payable 156 (77) (117) Taxes payable 133 (11) (16) Other assets 13 26 9 Other liabilities (24) (93) 32 ------------ ------------ ------------ NET CASH PROVIDED BY (USED FOR) OPERATING ACTIVITIES 536 (172) 576 ------------ ------------ ------------ CASH FLOWS FROM INVESTING ACTIVITIES Proceeds from sales of assets 153 44 64 Capital expenditures (124) (27) (4) ------------ ------------ ------------ NET CASH PROVIDED BY INVESTING ACTIVITIES 29 17 60 ------------ ------------ ------------ CASH FLOWS FROM FINANCING ACTIVITIES Payments on capital lease obligations (25) (14) (16) Payments on mortgages (2) (4) (1) Proceeds from issuance of debt - 60 - Debt issuance costs - (46) - Fees paid to Plan Investors - (13) - Issuance of common shares - 140 - ------------ ------------ ------------ NET CASH (USED FOR) PROVIDED BY FINANCING ACTIVITIES (27) 123 (17) ------------ ------------ ------------ NET CHANGE IN CASH AND CASH EQUIVALENTS 538 (32) 619 CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 2,088 1,232 613 ------------ ------------ ------------ CASH AND CASH EQUIVALENTS, END OF PERIOD $ 2,626 $ 1,200 $ 1,232 ============ ============ ============
See accompanying Notes to Unaudited Condensed Consolidated Financial Statements. 6 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 1. BASIS OF PRESENTATION Kmart Holding Corporation ("Kmart," "we," "us," "our," the "Company" or the "Successor Company") is the nation's third largest discount retailer. We operate in the general merchandise retailing industry through 1,503 Kmart discount stores and Supercenters with locations in 49 states, Puerto Rico, the U.S. Virgin Islands, Guam and through our e-commerce shopping site, www.kmart.com. These interim Unaudited Condensed Consolidated Financial Statements have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission ("SEC"). Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (which include normal recurring adjustments) considered necessary for a fair presentation have been included. All significant intercompany accounts and transactions have been eliminated. Operating results for the interim period are not necessarily indicative of the results that may be expected for the full year. Readers of these interim period statements should refer to the audited consolidated financial statements and notes thereto which are included in our Annual Report on Form 10-K for the year ended January 28, 2004. Certain prior period amounts have been reclassified to conform to the current interim period presentation. The American Institute of Certified Public Accountants Statement of Position 90-7, "Financial Reporting by Entities in Reorganization under the Bankruptcy Code" ("SOP 90-7") requires that the financial statements for the period following filing for Chapter 11 bankruptcy protection through the date a plan of reorganization is confirmed distinguish transactions and events that are directly associated with the reorganization from the ongoing operations of the business. Accordingly, revenues, expenses, realized gains and losses and provisions for losses directly associated with reorganization and restructuring of the business during the Predecessor Company's (defined below) bankruptcy proceedings have been reported separately as Reorganization items, net in the Unaudited Condensed Consolidated Statements of Operations. See below for a more detailed discussion of the Company's Chapter 11 proceedings. 2. EMERGENCE FROM CHAPTER 11 BANKRUPTCY PROTECTION AND FRESH-START ACCOUNTING Confirmation of Plan of Reorganization On May 6, 2003 (the "Effective Date"), Kmart Corporation (the "Predecessor Company") emerged from reorganization proceedings under Chapter 11 of the federal bankruptcy laws ("Bankruptcy Code" or "Chapter 11") pursuant to the terms of the Plan of Reorganization (defined below). The Predecessor Company became a wholly-owned subsidiary of Kmart Management Corporation, which is a wholly-owned subsidiary of Kmart Holding Corporation. On January 22, 2002 (the "Petition Date"), the Predecessor Company and 37 of its U.S. Subsidiaries (collectively the "Debtors") filed voluntary petitions for reorganization under Chapter 11 in the United States Bankruptcy Court for the Northern District of Illinois (the "Court"). During the reorganization proceedings, the Debtors continued to operate their business as debtors-in-possession under the jurisdiction of the Court and in accordance with the applicable provisions of the Bankruptcy Code and orders of the Court. On January 24, 2003, the Debtors filed a Plan of Reorganization and related Disclosure Statement and on February 25, 2003, filed an Amended Joint Plan of Reorganization (the "Plan of Reorganization") and related amended Disclosure Statement with the Court. The Plan of Reorganization received the formal endorsement of the statutory creditors' committees and, as modified, was confirmed by the Court by order docketed on April 23, 2003. 7 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) Plan Investors At the time of emergence, ESL Investments, Inc. ("ESL") and Third Avenue Trust, on behalf of certain of its investment series ("Third Avenue," and together with ESL, the "Plan Investors") made a substantial investment in the Successor Company in furtherance of our financial and operational restructuring plan. The Plan Investors and their affiliates received approximately 32 million shares of our newly issued common stock ("Common Stock") in satisfaction of pre-petition claims they held, and we issued 14 million shares of Common Stock to affiliates of ESL and to Third Avenue, in exchange for $127 million, net of commitment fees and Plan Investor expenses of $13 million. In addition, we issued a 9 percent, $60 million principal convertible note (the "Note") to affiliates of ESL. The term of the Note was extended two years to May 2006 by notice given in December 2003, consistent with the terms of the agreement. With respect to the Note, the principal is convertible at any time, at the option of the holder, into 6 million shares of Common Stock at a conversion price equal to $10 per share. ESL was also granted the option to purchase, prior to May 6, 2005, approximately 6.6 million shares of Common Stock at a price of $13 per share. A portion of the option was assigned to Third Avenue. The investment was made pursuant to an Investment Agreement dated January 24, 2003, as amended (the "Investment Agreement"). Each of the Plan Investors is represented on our Board of Directors. Discharge of Liabilities Under Chapter 11, actions by creditors to collect indebtedness owed prior to the Petition Date were stayed and certain other pre-petition contractual obligations were not enforced against the Debtors. The Predecessor Company received approval from the Court to pay certain pre-petition liabilities including employee salaries and wages, benefits and other employee obligations. On the Effective Date, all then-outstanding equity securities of the Predecessor Company, as well as substantially all of its pre-petition liabilities, were cancelled. Common Stock was issued in satisfaction of certain of those claims. On the Effective Date, 89,677,509 shares of Common Stock and 8,173,145 options to purchase shares of Common Stock were issued pursuant to the Plan of Reorganization. All of the shares of Common Stock issued on May 6, 2003 were or will be distributed pursuant to the Plan of Reorganization in satisfaction of pre-petition claims, except that 14 million shares were issued to affiliates of ESL and to Third Avenue pursuant to the Investment Agreement described above. The options to purchase shares of Common Stock were issued to the Plan Investors and the Successor Company's Chief Executive Officer. All shares were issued without registration under the Securities Act of 1933 in reliance on the provisions of Section 1145 of the Bankruptcy Code and Section 4(2) of the Securities Act of 1933. In addition, as part of the Plan of Reorganization, an independent creditor litigation trust was established for the benefit of the Predecessor Company's pre-petition creditors and equity holders, and to pursue claims which arose from the Predecessor Company's prior accounting and stewardship investigations. Fresh-Start Adjustments In connection with our emergence from Chapter 11, we reflected the terms of the Plan of Reorganization in our consolidated financial statements, applying the terms of SOP 90-7 with respect to financial reporting. Upon applying Fresh-Start accounting, a new reporting entity (the Successor Company) is deemed to be created and the recorded amounts of assets and liabilities are adjusted to reflect their estimated fair values. The reported historical financial statements of the Predecessor Company for periods ended prior to May 1, 2003 generally are not comparable to those of the Successor Company. In this Quarterly Report on Form 10-Q, references to the 13-weeks ended April 30, 2003 and prior periods refer to the Predecessor Company. References to the Successor Company refer to the Company on and after April 30, 2003 after giving effect to the provisions of the Plan of Reorganization and the application of Fresh-Start accounting. 8 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) To facilitate the calculation of the enterprise value of the Successor Company, we developed a set of financial projections. Based on these financial projections and with the assistance of a financial advisor, we determined the enterprise value using various valuation methods, including (i) a comparison of the Company and its projected performance to the market values of comparable companies, (ii) a review and analysis of several recent transactions of companies in similar industries to the Company, and (iii) a calculation of the present value of the future cash flows under the projections. The estimated enterprise value is highly dependent upon achieving the future financial results set forth in the projections as well as the realization of certain other assumptions which are not guaranteed. The estimated enterprise value of the Company was calculated to be approximately $2.3 billion to $3.0 billion. We selected the midpoint of the range, $2.6 billion, as the estimated enterprise value. In applying Fresh-Start accounting, adjustments to reflect the fair value of assets and liabilities, on a net basis, and the write-off of the Predecessor Company's equity accounts resulted in a charge of $5.6 billion. The fair value adjustments included the recognition of approximately $2.2 billion of intangible assets that were previously not recorded in the Predecessor Company's financial statements, such as favorable leasehold interests, Kmart brand rights, pharmacy customer relationships and other lease and license agreements. The restructuring of the Predecessor Company's capital structure and resulting discharge of pre-petition debt resulted in a gain of $5.6 billion. The charge for the revaluation of the assets and liabilities and the gain on the discharge of pre-petition debt are recorded in Reorganization items, net in the Unaudited Condensed Consolidated Statements of Operations. In addition, the excess of fair value of net assets over reorganization value (i.e., "negative goodwill") of approximately $5.6 billion was allocated on a pro-rata basis reducing our non-current, non-financial instrument assets, including the previously unrecorded intangible assets, to $10 million as of April 30, 2003. Refer to our Annual Report on Form 10-K for the year ended January 28, 2004 for a more detailed discussion. Claims Resolution We continue to make progress in the reconciliation and settlement of the various classes of claims associated with the discharge of the Predecessor Company's liabilities subject to compromise pursuant to the Plan of Reorganization. Since June 30, 2003, the first distribution date established in the Plan of Reorganization, approximately 19.7 million shares of the 31.9 million shares previously issued to us as disbursing agent with respect to such claims have been distributed to holders of Class 5 claims and approximately $4.1 million in cash has been distributed to holders of Class 7 claims. Due to the significant volume of claims filed to-date, it is premature to estimate with any degree of accuracy the ultimate allowed amount of such claims for each class of claims under the Plan of Reorganization. Accordingly, our current distribution reserve for claim settlements is approximately 20 percent of shares issued. Differences between amounts filed and our estimates are being investigated and will be resolved in connection with our claims resolution process. In this regard, it should be noted that the claims reconciliation process may result in material adjustments to current estimates of allowable claims. During the second quarter of fiscal 2004, we reduced the distribution reserve from 30 percent to 20 percent, resulting in the distribution of approximately 2.2 million shares to claimants who had previously received shares for allowed claims. The remaining shares in the distribution reserve will be issued to claimants on a pro-rata basis if, upon settlement of all claims, the ultimate amount allowed for Class 5 claims is consistent with the Plan of Reorganization. The next scheduled distribution under the Plan of Reorganization is expected to commence on or about October 1, 2004. Bankruptcy-Related Recoveries For the 13-weeks and 26-weeks ended July 28, 2004, we recognized recoveries of $5 million and $12 million, respectively, from vendors who had received cash payments for pre-petition obligations or preference payments. See Note 18 - Commitments and Contingencies for a more detailed discussion. 3. NEW ACCOUNTING PRONOUNCEMENTS In December 2003, the SEC issued Staff Accounting Bulletin ("SAB") No. 104, "Revenue Recognition" ("SAB 104"). SAB 104 supercedes SAB 101, "Revenue Recognition in Financial Statements" ("SAB 101") to include the guidance from Emerging Issues Task Force Issue No. 00-21, "Accounting for Revenue Arrangements with Multiple Deliverables." The primary purpose of SAB 104 is to rescind accounting guidance contained in SAB 101 related to multiple element revenue arrangements. There was no impact to the Company upon adoption of SAB 104. 9 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) 4. REAL ESTATE AND PROPERTY TRANSACTIONS Home Depot U.S.A., Inc. On June 3, 2004, the Company entered into multiple definitive agreements with Home Depot U.S.A., Inc. (a subsidiary of The Home Depot, Inc.) ("Home Depot") to sell up to four owned properties and assign up to 20 leased properties for a maximum purchase price of $365 million in cash. Pursuant to the first of these agreements, on June 15, 2004, the Company completed the sale of four owned properties to Home Depot for $59 million in cash, resulting in a net gain of $43 million. On August 10, 2004, the second agreement was amended, which limited the number of leased properties to be assigned to not more than 15 properties with a maximum purchase price of $230 million in cash. We completed the assignment of nine of these properties on August 13, 2004, resulting in proceeds to the Company of $114 million in cash. We anticipate that Home Depot may close on the remaining six leases by the end of August 2004, subject to closing conditions being satisfied. In the event Home Depot does not close on certain of these properties, we have the option to assign up to two of these properties to Home Depot for a maximum of $42 million in cash. Sears, Roebuck and Co. On June 29, 2004, the Company entered into an agreement with Sears, Roebuck and Co. ("Sears") to sell up to two owned properties and assign up to 52 leased properties for a maximum purchase price of $621 million in cash. Pursuant to this agreement, certain closing conditions for a minimum of 43 of the properties must be satisfied by August 31, 2004. However, if the closing conditions have not been satisfied by August 31, 2004, the Company, at its option, may give written notice to Sears by September 9, 2004 to proceed with the closing with respect to those properties for which closing conditions have been satisfied. In the event the closing conditions for the 43 properties have not been satisfied by August 31, 2004 and written notice has not been given to Sears by the Company, either party may terminate the purchase agreement subsequent to September 9, 2004, but prior to the date closing conditions are satisfied for at least 43 properties. Assuming such conditions are met, the Company will receive 30% of the purchase price in September 2004. The remaining 70% of the purchase price will be received when Sears has been assigned the leases and occupies the properties, which shall take place no later than April 15, 2005. Other The Company also sold certain other assets, resulting in net gains of $29 million and $61 million for the 13-weeks and 26-weeks ended July 28, 2004, respectively. Included within this gain for the 26-week period was $17 million related to the sale of the Company's Trinidad subsidiary and its associated property, $12 million related to the sale of the Company's corporate airplanes and $32 million from sales of other real and personal property. During this same time period, the Company acquired 22 previously-leased properties for $84 million. 5. PENSION PLAN The following table summarizes the net periodic benefit cost recognized for our qualified employee pension plan.
Predecessor Successor Company Company ---------------------------------------------------- --------------- 26-Weeks Ended 13-Weeks Ended 13-Weeks Ended 13-Weeks Ended (dollars in millions) July 28, 2004 July 28, 2004 July 30, 2003 April 30, 2003 --------------------- ------------- ---------------- ------------- --------------- Components of Net Periodic Expense Interest costs $ 77 $ 39 $ 38 $ 38 Expected return on plan assets (69) (35) (29) (33) Net loss recognition - - - 18 Amortization of unrecognized transition asset - - - (2) ------------ -------------- ------------ --------------- Net periodic expense $ 8 $ 4 $ 9 $ 21 ============ ============== ============ ===============
During the 13-weeks and 26-weeks ended July 28, 2004 contributions to the plan were approximately $1 million. Contributions to the plan were not required for the 13-weeks ended July 30, 2003 or April 30, 2003. The estimated contribution for fiscal 2004 is $11 million. 10 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) 6. EARNINGS PER SHARE Basic earnings per share is calculated by dividing net income by the weighted average number of common shares outstanding during each period. Diluted earnings per share assumes the exercise of stock options, the conversion of convertible debt and the impact of restricted stock when dilutive. A reconciliation of basic weighted average common shares outstanding to diluted weighted average common shares outstanding is as follows:
13-Weeks Ended 26-Weeks Ended (in millions) July 28, 2004 July 28, 2004 ------------- -------------- -------------- Basic weighted average common shares 89.5 89.5 Dilutive effect of stock options 6.0 5.6 9% convertible note 6.0 6.0 ----- ----- Diluted weighted average common shares 101.5 101.1 ===== =====
A reconciliation of net income available to common shareholders to net income available to common shareholders with assumed conversions is as follows:
13-Weeks Ended 26-Weeks Ended (dollars in millions) July 28, 2004 July 28, 2004 --------------------- ------------- ------------- Net income available to common shareholders $ 155 $ 248 Interest on 9% convertible note, net of tax 1 2 ------------- ------------- Income available to common shareholders with assumed conversions $ 156 $ 250 ============= =============
Common stock equivalents were excluded from the calculation of diluted earnings per share for the 13-weeks ended July 30, 2003 and April 30, 2003 as they were anti-dilutive. Upon our emergence from bankruptcy, all common stock equivalents of the Predecessor Company were cancelled. 7. DEBT Credit Facility Our credit agreement (the "Credit Facility") is a $1.0 billion revolving credit facility with an $800 million letter of credit sub-limit under which Kmart Corporation is the borrower. From its inception, we have only used the Credit Facility to support issuances of letters of credit. In July 2004, we voluntarily reduced the size of the Credit Facility from $1.5 billion to $1.0 billion to reduce the overall cost of the facility. In conjunction with the reduction of our Credit Facility, we accelerated the amortization of $9 million of the associated debt issuance costs. Availability under the Credit Facility is subject to an inventory borrowing base formula. The Credit Facility is guaranteed by the Successor Company, Kmart Management Corporation, Kmart Services Corporation (a subsidiary of Kmart Management Corporation) and Kmart Corporation's direct and indirect domestic subsidiaries. The Credit Facility is secured primarily by first liens on inventory, the proceeds thereof and certain related assets of Kmart Corporation and the guarantors. Borrowings under the Credit Facility are subject to a sliding pricing scale based on our earnings before interest, taxes, depreciation, amortization and other charges ("EBITDA") levels and such adjustments are implemented quarterly. Borrowings currently bear interest at either (i) the Prime rate plus 1.5% per annum or (ii) the LIBOR rate plus 2.5% per annum, at our discretion, and utilization of the letter of credit sub-facility in support of trade and standby letters of credit currently bears interest at 1.25% and 2.50% per annum, respectively. In addition, we are currently required to pay a fee based on the unutilized commitment under the Credit Facility equal to 0.50% per annum. The Credit Facility gives the Company the ability to repurchase up to $500 million of the Company's Common Stock, depending on our EBITDA levels and subject to the approval of the Company's Board of Directors. 11 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) As of July 28, 2004, we had utilized $341 million of the Credit Facility for letters of credit issued for ongoing import purchasing operations, and contractual and regulatory purposes, including letters of credit utilized as collateral to support our self-insurance programs. During the first six months of fiscal 2004, we replaced letters of credit used as collateral for certain programs with cash collateral to reduce fees on our letters of credit. We continue to classify the cash collateral in Cash and cash equivalents due to our ability to convert the cash to letters of credit at any time at our discretion. As of July 28, 2004, $214 million of cash was posted as collateral. Total availability under the Credit Facility as of July 28, 2004 was approximately $630 million. The Credit Facility financial covenants include a requirement that we maintain certain availability minimums, and failure to do so triggers additional required minimum levels of EBITDA. The Credit Facility also contains other customary covenants, including certain reporting requirements and covenants that restrict our ability to incur or create liens, indebtedness and guarantees, make investments, pay dividends or make other equity distributions, sell or dispose of stock or assets, change the nature of our business and enter into affiliate transactions, mergers and consolidations. Failure to satisfy these covenants would (in some cases, after the receipt of notice and/or the expiration of a grace period) result in an event of default that could result in our inability to access the funds. As of July 28, 2004, and in all periods since our emergence from Chapter 11, we have been in compliance with all Credit Facility covenants. Predecessor Company Debt Borrowings of the Predecessor Company during Chapter 11 proceedings were available through the Court-approved $2 billion debtor-in-possession financing facility ("DIP Credit Facility") for the payment of permitted pre-petition claims, working capital needs, letters of credit and other general corporate purposes. On May 6, 2003, in connection with the Debtors' emergence from Chapter 11, the DIP Credit Facility was terminated. Due to its filing for Chapter 11, the Predecessor Company was in default on all of its debt agreements entered into prior to January 22, 2002. While operating under Chapter 11, the Predecessor Company was prohibited under the Bankruptcy Code from paying interest on unsecured pre-petition debts. On the Petition Date, the Predecessor Company stopped accruing interest on all unsecured pre-petition debt until it emerged from bankruptcy in accordance with SOP 90-7. Contractual interest expense not accrued or recorded by the Predecessor Company on certain pre-petition debt totaled $67 million for the 13-weeks ended April 30, 2003. Interest Expense, Net
Predecessor Successor Company Company ----------------------------------------------------- -------------- 26-Weeks Ended 13-Weeks Ended 13-Weeks Ended 13-Weeks Ended (dollars in millions) July 28, 2004 July 28, 2004 July 30, 2003 April 30, 2003 --------------------- -------------- -------------- ------------- -------------- Components of Interest Expense, Net Interest expense $ 28 $ 13 $ 18 $ 21 Accretion of obligations at net present value 25 13 - - Amortization of debt issuance costs 16 12 5 37 Interest income (12) (7) (2) (1) ------------- ------------- ----------- -------------- Interest expense, net $ 57 $ 31 $ 21 $ 57 ============= ============= =========== ==============
Cash paid for interest was $28 million, $13 million, $17 million and $19 million for the 26-weeks ended July 28, 2004 and the 13-weeks ended July 28, 2004, July 30, 2003 and April 30, 2003, respectively. 8. INCOME TAXES We recorded a tax provision of $94 million and $150 million during the 13-weeks and 26-weeks ended July 28, 2004, respectively, based on the estimated effective tax rate for fiscal 2004 of 37.6%. We recorded a $4 million tax benefit from our losses during the 13-weeks ended July 30, 2003 based upon the estimated effective tax rate for the 39-weeks ended January 28, 2004 (successor period). The $6 million tax benefit recorded during the first quarter of fiscal 2003 relates to an Internal Revenue Code provision allowing for the 10-year carryback of certain losses. 12 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) The Predecessor Company recorded a full valuation allowance against its net deferred tax assets in accordance with SFAS No. 109, "Accounting for Income Taxes," as realization of such assets in future years was uncertain. Accordingly, no tax benefit was realized from the Predecessor Company's losses in the first quarter of fiscal 2003. Given the Company's actual and forecasted levels of profitability in fiscal 2004, management believes that a portion of the pre-emergence net deferred tax assets will more likely than not be realized. As such, the Company reduced the valuation allowance on its pre-emergence net deferred tax assets by $92 million in the second quarter of fiscal 2004 to reflect its estimated utilization through the end of fiscal 2004. The Company will continue to assess the likelihood of realization of its pre-emergence net deferred tax assets and would reduce the valuation allowance on such assets in the future if it becomes more likely than not that the net deferred tax assets will be utilized. In accordance with SOP 90-7, subsequent to emergence from Chapter 11, the benefit from the reduction of the valuation allowance is recorded as a direct credit to Capital in excess of par value with no impact on the Company's earnings or cash flows. During the 26-weeks ended July 28, 2004, we reduced our reserves for Predecessor Company income tax liabilities by $5 million, primarily due to favorable claims settlements. We recorded this adjustment to Capital in excess of par value in our Unaudited Condensed Consolidated Balance Sheet as of July 28, 2004. As of July 28, 2004, the Company has post-emergence net deferred tax assets of $57 million. It is the Company's position that this net deferred tax asset will be utilized in the near future and no valuation allowance is required. Cash paid for income taxes was $2 million, $1 million and $1 million for the 26-weeks ended July 28, 2004, and the 13-weeks ended July 28, 2004 and July 30, 2003, respectively. Cash received for tax refunds and credits was $2 million for the 13-weeks ended April 30, 2003. 9. TREASURY STOCK On August 28, 2003, the Company's Board of Directors approved the repurchase of up to $10 million of the Company's outstanding stock for the primary purpose of providing restricted stock grants to certain employees. On June 29, 2004, the Company's Board of Directors increased the existing share repurchase authorization to $100 million and broadened the scope of future repurchases to include the repurchase of shares in furtherance of general corporate purposes. During fiscal 2003, we repurchased 128,400 shares of Common Stock (weighted-average price of $28.87 per share) primarily for the purpose of providing restricted stock grants, at a cost of approximately $4 million. We issued 17,109 and 32,061 shares of restricted stock during the 13-weeks and 26-weeks ended July 28, 2004, respectively; see Note 10 - Stock-Based Compensation. There were 29,868 and 43,749 shares in treasury as of July 28, 2004 and January 28, 2004, respectively. There were no shares in treasury as of July 30, 2003. 10. STOCK-BASED COMPENSATION The Company accounts for stock-based compensation using the fair value method. Total stock-based compensation expense of approximately $1 million will be recognized in fiscal 2004 for outstanding stock options. The Predecessor Company accounted for stock options using the intrinsic value method in accordance with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" and related interpretations, which did not require the recognition of expense for the fair value of stock-based compensation. In accordance with the disclosure requirements of SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure, an Amendment of FASB Statement No. 123" the pro forma effects of recognizing the fair value of stock-based compensation on net loss and loss per share had the Predecessor Company applied the fair value method to stock options granted by the Predecessor Company would have resulted in a pro forma adjustment of $38 million for stock-based employee compensation income, a pro forma net loss of $824 million and a pro forma basic/diluted loss per share of $1.58 for the 13-weeks ended April 30, 2003. Pro forma stock-based employee compensation income of $38 million for the 13-weeks ended April 30, 2003 is due to the reversal of expense for options that were not vested upon cancellation of the outstanding stock awards of the Predecessor Company. Upon our emergence from Chapter 11, all outstanding stock options of the Predecessor Company were cancelled in accordance with the Plan of Reorganization. 13 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) During the 26-weeks ended July 28, 2004, we issued 32,061 shares of restricted stock at grant prices ranging from $29.23 to $33.44. We accounted for these restricted stock grants as fixed awards, and recorded deferred employee compensation to Capital in excess of par value. Deferred employee compensation of $1 million is being amortized to compensation expense on a straight-line basis over the vesting period of three years for these grants. 11. PROPERTY HELD FOR SALE Property held for sale was $35 million, $56 million and $117 million as of July 28, 2004, January 28, 2004 and July 30, 2003, respectively, and is included within Other current assets in our Unaudited Condensed Consolidated Balance Sheets. During the 13-weeks and 26-weeks ended July 28, 2004, we sold $15 million and $17 million of these assets for their book value, respectively. During the second quarter of fiscal 2003, we sold $43 million of these assets for a net gain of $1 million. 12. COMPREHENSIVE INCOME (LOSS) Comprehensive income (loss) represents net income or loss, adjusted for the effect of other items that are recorded directly to shareholders' equity. During the 26-weeks ended July 28, 2004, we sold available-for-sale equity securities and in conjunction with these sales, reduced accumulated other comprehensive income by $1 million. Comprehensive income and net income are equivalent for the 13-weeks ended July 28, 2004. For the 13-weeks ended April 30, 2003, comprehensive loss included a minimum pension liability adjustment of $94 million. No adjustments were made to comprehensive income (loss) for the 13-weeks ended July 30, 2003. 13. INVESTMENTS IN AFFILIATED RETAIL COMPANIES Kmart footwear departments are operated under a master agreement and license agreement with certain Meldisco subsidiaries of Footstar, Inc. ("FTS"), substantially all of which are 49% owned by Kmart and 51% owned by FTS. On March 2, 2004, FTS and its direct and indirect subsidiaries, including all Meldisco subsidiaries, filed for Chapter 11 protection in the United States Bankruptcy Court for the Southern District of New York. FTS continues to operate its businesses and manage its properties as debtors-in-possession. Given the profitability of the Meldisco subsidiaries with which we do business, and the likelihood of future receipts of the amounts due from those Meldisco subsidiaries, no valuation reserve has been established for $24 million due to us from FTS as of July 28, 2004. On August 12, 2004, FTS filed a motion with the Bankruptcy Court to assume the master agreement and the license agreements. In order to effect such assumption, FTS must cure all past defaults. FTS asserts that the amount required to cure past defaults is $18 million, and that such amount should be reduced by overpayments FTS alleges it made to the Company for certain fees. We filed a proof of claim in the FTS bankruptcy case for an amount in excess of our recorded receivable; however, at this time, we are not able to accurately determine the ultimate amount to be realized as we have not received all information from FTS necessary for us to complete our claim. The Company believes the cure amount may be substantially in excess of $18 million. If no resolution is achieved consensually with FTS with respect to the assumption of the master agreement and the license agreements and the cure amount, the issue will be resolved by the Bankruptcy Court. On May 7, 2004, FTS sold 353 of its Footaction stores to Foot Locker, Inc. for $225 million. Following the sale of the Footaction stores, FTS consists primarily of the Meldisco business. We have been advised that FTS will be restating its financial statements for certain prior periods. As a result, we have not received final financial statements for fiscal 2002, 2003 or the first and second quarters of fiscal 2004 for the Meldisco subsidiaries with which we do business at the time of our filing of this Quarterly Report on Form 10-Q. We have received preliminary financial results from FTS which we believe provide a reliable basis to estimate equity income as recognized in all periods presented in our Unaudited Condensed Consolidated Statements of Operations. For the 26-weeks ended July 28, 2004 and the 13-weeks ended July 28, 2004, July 30, 2003 and April 30, 2003, those Meldisco subsidiaries had net sales at our footwear departments of $384 million, $198 million, $222 million and $246 million, respectively. We had no equity income from the Meldisco subsidiaries for the 13-weeks ended July 28, 2004. For the 26-weeks ended July 28, 2004 and the 13-weeks ended July 30, 2003 and April 30, 2003, our equity income in those Meldisco subsidiaries was $3 million, $2 million and $7 million, respectively. Although there can be no assurance until FTS restates its financial statements, at this time, we do not expect the restatement to have a material effect on our equity income or other fees earned from the Meldisco subsidiaries. The Company has reviewed FTS' monthly operating reports for periods following their Chapter 11 filing, and noted that FTS has allocated certain of their reorganization costs to the Meldisco business. These charges have adversely impacted our estimated earnings recorded in fiscal 2004. We disagree with their approach and have notified FTS of our position. 14 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) 14. RELATED PARTY TRANSACTIONS During the second quarter of fiscal 2004, ESL hired an employee of the Company. This employee has assumed the role of Vice President of ESL, and will continue to serve Kmart as Vice President - In-Store Business Development. As further discussed in the Company's MD&A, the Company is considering various uses of its cash, including investments in various forms of securities. The Board of Directors of the Company has delegated authority to invest the Company's surplus cash to Edward Lampert, subject to various limitations including those in the Company's existing Credit Facility as well as additional limitations that have been or may be from time to time adopted by the Board of Directors and/or the Finance Committee of the Board of Directors. Mr. Lampert is Chairman of the Company's Board of Directors and is the Chairman and Chief Executive Officer of ESL. Neither Mr. Lampert nor ESL will receive compensation for any such investment activities undertaken on behalf of the Company. Further, to clarify the expectations that the Board of Directors has with respect to the investment of our surplus cash, the Board has renounced, in accordance with Delaware law, any interest or expectancy of the Company associated with any investment opportunities in securities that may come to the attention of Mr. Lampert or any employee, officer, director or adviser to ESL and its affiliated investment entities who also serves as an officer or director of the Company (each, a "Covered Party") other than (a) investment opportunities that come to such Covered Party's attention directly and exclusively in such Covered Party's capacity as a director of, officer or employee of the Company, (b) control investments in companies in the mass merchandise or discount retailing industry and (c) investment opportunities in companies or assets with a significant role in the Company's retailing business, including investment in real estate currently leased by the Company or in suppliers for which the Company is a substantial customer representing over 10% of such companies' revenues, unless in any such instance ESL has a pre-existing investment. 15. DISCONTINUED OPERATIONS During the first quarter of fiscal 2003, the Predecessor Company closed 316 stores, of which 66 stores met the criteria to be accounted for as discontinued operations. The Company applied the provisions of SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets," which requires closed stores to be classified as discontinued operations when the operations and cash flows of the stores have been (or will be) eliminated from ongoing operations and the company no longer has any significant continuing involvement in the operations associated with the stores after closure. The table below sets forth the components of the net loss associated with the discontinued operations for the 13-weeks ended April 30, 2003.
Predecessor Company ------------------- 13-Weeks Ended (dollars in millions) April 30, 2003 -------------------- ------------------- Sales $ 232 Cost of sales, buying and occupancy 150 ---------- Gross margin 82 Selling, general and administrative expenses 43 Restructurings, impairments and other charges 5 Reorganization items, net 44 ---------- Discontinued operations, net of tax $ (10) ==========
16. SPECIAL CHARGES Special charges are transactions which, in management's judgment, may make meaningful comparisons of operating results between reporting periods difficult. In determining what amounts constitute a special charge, management considers the nature, magnitude and frequency of their occurrence. During fiscal 2002, the Predecessor Company instituted certain restructuring actions to improve operations and executed significant inventory liquidations as a result of the stores closed under Chapter 11 proceedings. The effects of these actions on the 13-weeks ended April 30, 2003 are summarized below. 15 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) Corporate Cost Reduction Initiatives During fiscal 2002 and the 13-weeks ended April 30, 2003, the Predecessor Company eliminated approximately 950 positions with an initial charge of $50 million recorded in fiscal 2002. The Predecessor Company reduced its reserve for such corporate cost reductions by $10 million in the 13-weeks ended April 30, 2003, as a result of a change in the estimated expenses. This reduction is included in Restructuring, impairment and other charges in the Unaudited Condensed Consolidated Statements of Operations. Accelerated Depreciation The Predecessor Company recorded charges of $52 million during the 13-weeks ended April 30, 2003 for accelerated depreciation on unimpaired assets to be disposed of following the 316 store closings. Of the $52 million recorded, $47 million is included in Restructurings, impairments and other charges and $5 million is included in Discontinued operations in the Unaudited Condensed Consolidated Statements of Operations. Reserve Activity As part of Fresh-Start accounting, reserves established in connection with certain restructurings were discharged as of April 30, 2003 in accordance with the Plan of Reorganization. See Note 2 - Emergence from Chapter 11 Bankruptcy Protection and Fresh-Start Accounting for a detailed discussion of the discharge of Liabilities subject to compromise under the Plan of Reorganization. Restructuring reserves related to the fiscal 2002 employee severance program were assumed by the Successor Company. There was no activity to the reserve for the 13-weeks ended July 28, 2004. Payments made against the reserve were $1 million and $19 million for the 26-weeks ended July 28, 2004 and the 13-weeks ended July 30, 2003, respectively. During the 13-weeks ended April 30, 2003, the Predecessor Company recorded non-cash reductions of $2 million and decreased the reserve by $10 million, as noted above. As of July 28, 2004, January 28, 2004 and July 30, 2003, the liability for the fiscal 2002 employee severance program was $1 million, $4 million and $17 million, respectively. 17. REORGANIZATION ITEMS, NET Reorganization items represent amounts the Predecessor Company incurred as a result of its Chapter 11 reorganization, and are presented separately in the Unaudited Condensed Consolidated Statements of Operations. For the 13-weeks ended April 30, 2003, the following were recorded:
Predecessor Company ------------------- 13-Weeks Ended (dollars in millions) April 30, 2003 --------------------- ------------------- Gain on extinguishment of debt $ (5,642) Revaluation of assets and liabilities 5,642 Fleming settlement 385 Estimated claims for rejected executory contracts 200 2003 store closings 158 Other 26 ---------- Reorganization items, net $ 769 ==========
The following paragraphs provide additional information relating to costs that were recorded in Reorganization items, net in the Unaudited Condensed Consolidated Statement of Operations for the 13-weeks ended April 30, 2003. Gain on extinguishment of debt/Revaluation of assets and liabilities See Note 2 - Emergence from Chapter 11 Bankruptcy Protection and Fresh-Start Accounting for a discussion on the extinguishment of debt and the revaluation of assets and liabilities. 16 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) Fleming settlement On February 3, 2003, the Predecessor Company announced the termination of the supply relationship with Fleming Companies, Inc. ("Fleming") by means of a rejection of the 2001 contract through the Debtor's Chapter 11 reorganization. As part of the bankruptcy proceedings, Fleming filed a claim of $1.5 billion on March 11, 2003. The Predecessor Company and Fleming came to an agreement on a settlement of Fleming's claims, and on March 27, 2003, the Court approved the settlement of all claims asserted by Fleming. Under the settlement, the Predecessor Company paid Fleming $15 million of Fleming's net post-petition administrative claim, which exceeded $30 million. Additionally, Fleming's general unsecured claim was reduced from approximately $1.5 billion to $385 million, which was recorded in the first quarter of fiscal 2003. Estimated claims for rejected executory contracts For the 13-weeks ended April 30, 2003, the Predecessor Company recorded expense of $200 million for estimated allowable claims for rejected executory contracts, primarily equipment leases and service contracts. The estimate was based on a review of each class of contract. On April 30, 2003, upon adoption of Fresh-Start accounting, these liabilities were discharged in accordance with the Plan of Reorganization; see Note 2 - Emergence from Chapter 11 Bankruptcy Protection and Fresh-Start Accounting. 2003 store closings As a result of the decision to close the 316 stores, the Predecessor Company recorded a charge of $214 million in the first quarter of fiscal 2003 for lease terminations and other costs, of which $56 million is included in Discontinued operations and the remaining $158 million is included in Reorganization items, net in the Unaudited Condensed Consolidated Statements of Operations. Other reorganization items For the 13-weeks ended April 30, 2003, the Predecessor Company recorded professional fees of $43 million, employee costs of $66 million relating to the Key Executive Retention Program, a gain of $17 million for the sale of pharmacy customer lists, income of $65 million for lease auction proceeds related to the 2003 and 2002 closed stores, a gain of $15 million for the settlement of pre-petition liabilities and net expenses of $14 million for other miscellaneous reorganization items. 18. COMMITMENTS AND CONTINGENCIES Securities Action Litigation On March 18, 2002, a class action was filed in the United States District Court for the Eastern District of Michigan on behalf of participants or beneficiaries of the Kmart Corporation Retirement Savings Plan against various current and former employees and former directors of Kmart Corporation alleging breach of fiduciary duty under the Employee Retirement Income Security Act for excessive investment in the Predecessor Company's stock; failure to provide complete and accurate information about the Predecessor Company's common stock; and failure to provide accurate information regarding the Predecessor Company's financial condition. Subsequently, amended complaints were filed that added additional current and former employees and former directors of the Predecessor Company as defendants. Kmart is not a defendant in this litigation. On July 29, 2002, the plaintiffs filed proofs of claim with the Court in an aggregate amount equal to $180 million. On August 20, 2003, the defendants' motion to dismiss the purported class action in the United States District Court for the Eastern District of Michigan was denied. That court certified the class on April 16, 2004, but the class has yet to be defined. 17 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) Other and Routine Actions Two of our past providers of surety bonds, Fireman's Fund Insurance Company ("Fireman's Fund"), and the Hartford Insurance Company ("Hartford") elected not to participate in the continuation of our surety program during the pendency of the Predecessor Company's bankruptcy case. Fireman's Fund has now filed a motion with the Bankruptcy Court seeking (i) recovery of $34 million that Fireman's Fund alleges it has paid pursuant to pre-petition surety bonds it issued with regard to the Predecessor Company's workers' compensation insurance programs, and (ii) an order obligating us to make all payments of Fireman's Fund's future obligations under the bonds, which Fireman's Fund contends could be in excess of $35 million. We have filed an opposition to the motion contending, among other things, that Fireman's Fund's claim is an unsecured pre-petition claim that was resolved under the Plan of Reorganization that was approved by the Bankruptcy Court, and therefore Fireman's Fund has the same rights as any other general unsecured creditor under that Plan. Kmart has been advised by Hartford that they may file a similar motion. On November 7, 2003, the Company filed suit in the United States District Court for the Eastern District of Michigan against Capital One Bank, Capital One, F.S.B., and Capital One Services, Inc. (collectively, "Capital One"). The complaint alleges breach of contract, breach of the covenant of good faith and fair dealing, unjust enrichment, promissory estoppel and tortious interference with business relationships and prospective economic advantage arising out of Capital One's alleged failure to market and support a co-branded credit card under an agreement the parties had with respect to a Kmart MasterCard. Kmart is seeking monetary damages. On December 26, 2003 Kmart voluntarily dismissed the federal court complaint and refiled the complaint in Oakland County Circuit Court (State of Michigan) based on a lack of diversity of citizenship amongst the parties. On January 29, 2004 Capital One filed a petition for removal of the state court action back to the federal court and, in response, Kmart filed a motion to remand on February 9, 2004. The case was remanded to the Oakland County Circuit Court on June 10, 2004 and is scheduled for trial on March 1, 2005. In Capital Factors v. Kmart Corporation, the United States District Court for the Northern District of Illinois ruled that the Court did not have the authority to authorize the payment of pre-petition claims of certain trade vendors by the Company. That ruling was appealed by the Company to the Seventh Circuit Court of Appeals. Oral arguments were heard by the Seventh Circuit on January 22, 2004 and an opinion was issued on February 24, 2004. The Seventh Circuit upheld the decision of the District Court. A critical vendor sought a rehearing by the Seventh Circuit, which was denied, and a petition for Writ of Certiorari was filed in the Supreme Court of the United States that is currently pending. Kmart is not involved in the motion for a rehearing and will not further appeal the Seventh Circuit's ruling. In order to satisfy our fiduciary responsibility to pursue claims against the critical vendors during the pendency of the appeal, on January 26, 2004 we filed 45 lawsuits against a total of 1,189 vendors that received these payments. Subsequently, many of the cases were severed into lawsuits against individual defendants although all cases are proceeding on a common pretrial procedural track. The lawsuits seek to recover critical vendor payments in excess of $174 million. The Company notified affected vendors that we are willing to settle these claims for a percentage of the money they received, based on the amount of the claim. The ultimate amount of recovery can not be determined at this time. As of July 28, 2004, Kmart has settled 179 critical vendor claims. We are a party to a substantial number of other claims, lawsuits and pending actions which are routine and incidental to our business. To the extent that any claim relates to a contract which was assumed by us when we emerged or relates to a time period occurring after the Petition Date, the Successor Company shall be responsible for any damages which may result. In addition, certain contracts allow for damage provisions or other repayments as a result of our termination of the contracts. We assess the likelihood of potential losses on an ongoing basis, and when they are considered probable and reasonably estimable, we record an estimate of the ultimate outcome. If there is no single point estimate of loss that is considered more likely than others, an amount representing the low end of the range of possible outcomes is recorded. Our Unaudited Condensed Balance Sheet as of July 28, 2004 only reflects potential losses for which the Successor Company may have ultimate responsibility. 18 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) 19. SUBSEQUENT EVENTS Corporate Cost Reductions We initiated a corporate cost reduction program in August 2004, and in connection with this program, eliminated approximately 250 positions at our corporate headquarters in Troy, Michigan. Severance benefits, outplacement services and continuing health insurance benefits, which amounts are based on employees' years of service and job grade, aggregating $6 million will be paid to affected employees primarily over the next six months. The anticipated annual savings of this action is $18 million on a pre-tax basis. We are also continuing efforts to reduce other corporate non-payroll expenses. Letter of Credit Facility On August 13, 2004, the Company entered into a letter of credit agreement (the "LC Agreement") with a commitment amount of up to $200 million through January 7, 2005 and increasing to $600 million thereafter. The standby letters of credit issued under the LC Agreement bear interest at 0.20% per annum. The LC Agreement is subject to a pledge and security agreement pursuant to which, after January 7, 2005, the Company must post as collateral cash in an amount equal to 100.5% of the face value of the letters of credit outstanding under the LC Agreement. Prior to January 7, 2005, the collateral posted by the Company is a leasehold mortgage on certain properties leased by the Company. 19 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS Part I, Item 2 of this report should be read in conjunction with Part II, Item 7 of our Annual Report on Form 10-K for the year ended January 28, 2004. The information contained herein is not a comprehensive discussion and analysis of the financial condition and results of operations of the Company, but rather an update of the previous disclosures. CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION This Form 10-Q, as well as other statements or reports made by or on behalf of Kmart, which address activities, events or developments that we expect or anticipate may occur in the future are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 that reflect, when made, Kmart's current views with respect to current events and financial performance. Such forward-looking statements are based upon assumptions concerning future conditions that may ultimately prove to be inaccurate and involve risks, uncertainties and factors that could cause actual results to differ materially from any anticipated future results, express or implied by such forward-looking statements. Factors that could cause actual results to differ materially from these forward-looking statements include, but are not limited to, factors relating to Kmart's internal operations and the external environment in which it operates; Kmart's ability to successfully implement business strategies and otherwise fund and execute planned changes in various aspects of the business; marketplace demand for the products of Kmart's key brand partners, as well as the engagement of appropriate new brand partners; changes in consumer spending and Kmart's ability to anticipate buying patterns and implement appropriate inventory strategies; Kmart's ability to reverse its negative same-store sales trend; competitive pressures and other third party actions, including pressures from pricing and other promotional activities of competitors, as well as new competitive store openings; the resolution of allowed claims for which we are obligated to pay cash under the Plan of Reorganization; Kmart's ability to properly monitor its inventory needs in order to timely acquire desired goods in appropriate quantities and/or fulfill labor needs at planned costs; Kmart's ability to attract and retain customers; Kmart's ability to maintain normal terms with vendors and service providers; Kmart's ability to maintain contracts, including leases, that are critical to its operations; Kmart's ability to develop a market niche; regulatory and legal developments; general economic conditions; weather conditions, including those which affect buying patterns of Kmart's customers; other factors affecting business beyond Kmart's control; and Kmart's ability to attract, motivate and/or retain key executives and associates. Kmart undertakes no obligation to release publicly the results of any revisions to these forward-looking statements to reflect events or circumstances after the date such statements were made. Consequently, all of the forward-looking statements are qualified by these cautionary statements and there can be no assurance that the results or developments anticipated will be realized or that they will have the expected effects on our business or operations. The forward-looking statements contained herein or otherwise that we make or are made on our behalf speak only as of the date of this report, or if not contained herein, as of the date when made, and we do not undertake to update these risk factors or such forward-looking statements. 20 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (CONTINUED) RESULTS OF OPERATIONS Due to the application of Fresh-Start accounting upon our emergence from bankruptcy, the reported historical financial statements of the Predecessor Company for periods prior to May 1, 2003 generally are not comparable to those of the Successor Company. The following table is presented solely to complement management's discussion and analysis.
PREDECESSOR SUCCESSOR COMPANY COMPANY ----------------------------------------------- -------------- 13-WEEKS ENDED 13-WEEKS ENDED 13-WEEKS ENDED 13-WEEKS ENDED (dollars in millions) JULY 28, 2004 JULY 30, 2003 APRIL 28, 2004 APRIL 30, 2003 --------------------- -------------- -------------- -------------- -------------- Sales $ 4,785 $ 5,652 $ 4,615 $ 6,181 Cost of sales, buying and occupancy 3,543 4,419 3,478 4,762 --------- --------- ---------- --------- Gross margin 1,242 1,233 1,137 1,419 Selling, general and administrative expenses 1,039 1,225 1,004 1,421 Net gains on sales of assets (72) (2) (32) - Restructuring, impairment and other charges - - - 37 --------- --------- ---------- --------- Operating income (loss) 275 10 165 (39) Interest expense, net 31 21 26 57 Bankruptcy related recoveries (5) - (7) - Equity income in unconsolidated subsidiaries - (2) (3) (7) Reorganization items, net - - - 769 --------- --------- ---------- --------- Income (loss) from continuing operations before income taxes 249 (9) 149 (858) Provision for (benefit from) income taxes 94 (4) 56 (6) --------- --------- ---------- --------- Income (loss) from continuing operations 155 (5) 93 (852) Discontinued operations - - - (10) --------- --------- ---------- --------- Net income (loss) $ 155 $ (5) $ 93 $ (862) ========= ========= ========== =========
13-WEEKS ENDED JULY 28, 2004 COMPARED TO 13-WEEKS ENDED JULY 30, 2003 Same-store sales and total sales decreased 14.9% and 15.3%, respectively, for the 13-weeks ended July 28, 2004 as compared to the 13-weeks ended July 30, 2003. Same-store sales include sales of all open stores that have been open for more than 13 full months. Factors affecting same-store sales and total sales included reductions in promotional events and newspaper advertising; the effect of unseasonably cool weather in the current quarter on sales of summer seasonal products including lawn and garden merchandise; and a transition in our apparel lines leading up to back-to-school product launches. Gross margin increased $9 million to $1.24 billion, for the 13-weeks ended July 28, 2004, from $1.23 billion for the 13-weeks ended July 30, 2003. Gross margin, as a percentage of sales, increased to 26.0% for the 13-weeks ended July 28, 2004, from 21.8% in the prior year. The improvement in our gross margin rate was primarily attributable to reduced markdowns on promotions and clearance items and improvements in shrinkage at our distribution centers and stores. Included in gross margin was a $16 million charge recorded in the second quarter of fiscal 2004 in conjunction with the store closings inventory liquidations. Selling, general and administrative expenses ("SG&A") decreased $186 million to $1.04 billion, or 21.7% of sales for the 13-weeks ended July 28, 2004, from $1.23 billion, also 21.7% of sales, for the 13-weeks ended July 30, 2003. The decline resulted from a reduction in store payroll and related expenditures due to increased operating efficiencies and reduced sales volume at our stores, and to reductions in our weekly and mid-week circular advertising, partially offset by an increase in electronic media advertising. The remaining net reduction in SG&A is due to continued efforts to reduce our operating expenses. 21 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (CONTINUED) Operating income for the 13-weeks ended July 28, 2004 was $275 million, or 5.7% of sales, as compared to $10 million, or 0.2% of sales, for the same period in the prior year. Operating income increased primarily due to the decrease in SG&A and the increase in the gross margin rate, partially offset by reduced gross margin dollars as a result of lower same-store sales, as discussed above. Also increasing Operating income were net gains of $72 million from sales of real and personal property, including $43 million of net gains from the sale of four owned properties to Home Depot; see Note 4 - Real Estate and Property Transactions for a more detailed discussion. Interest expense, net for the 13-weeks ended July 28, 2004 and July 30, 2003 was $31 million and $21 million, respectively. In July 2004, we voluntarily reduced the size of our credit agreement from $1.5 billion to $1.0 billion to reduce the overall cost of the facility. In conjunction with this action, we accelerated the amortization of $9 million of the associated debt issuance costs, which is included in Interest expense, net for the 13-weeks ended July 28, 2004. During the 13-weeks ended July 28, 2004, $13 million of interest expense was recorded for the accretion of obligations recorded at net present value. Interest expense is net of interest income of $7 million and $2 million for the 13-weeks ended July 28, 2004 and July 30, 2003, respectively. The effective income tax rate was 37.6% and (44.4%) for the 13-weeks ended July 28, 2004 and July 30, 2003, respectively; see Note 8 - Income Taxes for a more detailed discussion. 13-WEEKS ENDED APRIL 28, 2004 COMPARED TO 13-WEEKS ENDED APRIL 30, 2003 Same-store sales and total sales decreased 12.9% and 25.3%, respectively, for the 13-weeks ended April 28, 2004 as compared to the 13-weeks ended April 30, 2003. The decrease in same-store sales is due primarily to several Company-wide promotional events occurring in the first quarter of fiscal 2003 along with a reduction in advertising, including the frequency of mid-week circulars in the current year. The decrease in total sales is attributable to the decrease in same-store sales and the closure of 316 stores in the first quarter of fiscal 2003. Gross margin decreased $282 million to $1.14 billion, for the 13-weeks ended April 28, 2004, from $1.42 billion for the 13-weeks ended April 30, 2003. Gross margin, as a percentage of sales, increased to 24.6% for the 13-weeks ended April 28, 2004, from 23.0% for the 13-weeks ended April 30, 2003. Favorably affecting the gross margin rate were fewer clearance markdowns and reduced depreciation as a result of the write-off of long-lived assets in conjunction with the application of Fresh-Start accounting. SG&A decreased $417 million to $1.0 billion, or 21.8% of sales for the 13-weeks ended April 28, 2004, from $1.42 billion, or 23.0% of sales, for the 13-weeks ended April 30, 2003. The decrease in SG&A resulted from reduced payroll and related expenses in our stores during the first quarter of the current year, as well as the effect of store closings and corporate cost reduction initiatives implemented in the first quarter of fiscal 2003. Also affecting the decline was a reduction in advertising expenses and lower depreciation as a result of the write-off of long-lived assets in conjunction with the application of Fresh-Start accounting. Operating income for the 13-weeks ended April 28, 2004 was $165 million, or 3.6% of sales, as compared to a loss of $39 million, or (0.6%) of sales, for the same period in the prior year. The improvement was primarily due to the decrease in SG&A and the improvement in our gross margin rate, as discussed above, partially offset by an overall decline in gross margin dollars due to our reduced store base. Operating income was also affected by net gains on sales of assets of $32 million in the first quarter of the current year and Restructuring, impairment and other charges of $37 million in the first quarter of fiscal 2003. Interest expense, net for the 13-weeks ended April 28, 2004 and April 30, 2003 was $26 million and $57 million, respectively. During the 13-weeks ended April 28, 2004, $12 million of interest expense was recorded for the accretion of obligations recorded at net present value. Included in interest expense for the 13-weeks ended April 30, 2003 was $37 million of amortization of debt issuance costs associated with the Predecessor Company's Court-approved $2 billion debtor-in-possession financing facility. Interest at the stated contractual amount on unsecured debt that was not charged to earnings for the 13-weeks ended April 30, 2003 was $67 million. Interest expense is net of interest income of $5 million and $1 million for the 13-weeks ended April 28, 2004 and April 30, 2003, respectively. The effective income tax rate was 37.6% and (0.7%) for the 13-weeks ended April 28, 2004 and April 30, 2003, respectively; see Note 8 - Income Taxes for a more detailed discussion. 22 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (CONTINUED) 26-WEEKS ENDED JULY 28, 2004 (SUCCESSOR COMPANY) Total sales were $9.40 billion for the 26-weeks ended July 28, 2004. Same-store sales decreased 13.9%. Reductions in promotions and advertising, including the frequency of mid-week circulars in the current year, have affected same-store sales and total sales. Gross margin for the 26-weeks ended July 28, 2004 was $2.38 billion or 25.3% of sales. A reduction in clearance markdowns and improvements in shrinkage at our distribution centers and stores favorably affected gross margin in the current period. Included in gross margin was a $17 million charge in conjunction with the store closings inventory liquidations. SG&A was $2.04 billion, or 21.7% of sales for the period. Reduced payroll and related expenses at our stores, as well as a reduction in advertising expenses favorably affected SG&A for the period. Operating income for the 26-weeks ended July 28, 2004 was $440 million, or 4.7% of sales. Operating income was favorably affected by the gross margin improvements and reductions in SG&A, as discussed above. Also included in operating income are net gains of $104 million from sales of real and personal property, including $43 million of net gains from the sale of four owned properties to Home Depot; see Note 4 - Real Estate and Property Transactions. Interest expense, net for the 26-weeks ended July 28, 2004 was $57 million. In July 2004, we voluntarily reduced the size of our credit agreement from $1.5 billion to $1.0 billion to reduce the overall cost of the facility. In conjunction with this action, we accelerated the amortization of $9 million of the associated debt issuance costs, which is included in Interest expense, net for the 26-weeks ended July 28, 2004. During the 26-weeks ended July 28, 2004, $25 million of interest expense was recorded for the accretion of obligations recorded at net present value. Interest expense is net of interest income of $12 million. The effective income tax rate was 37.6% for the 26-weeks ended July 28, 2004; see Note 8 - Income Taxes for a more detailed discussion. LIQUIDITY AND FINANCIAL CONDITION Kmart continued to maintain strong liquidity for the 26-weeks ended July 28, 2004 with cash flow from operations of $536 million and $153 million from proceeds from asset sales. Our principal cash needs are for our operations and capital expenditures, which are satisfied through working capital generated by our business and our existing $2.6 billion balance in cash and cash equivalents as of July 28, 2004. Working capital generated by our business, is significantly affected by our level of sales and the credit extended by our vendors. In addition, we have funds available under our $1.0 billion Credit Facility as of July 28, 2004. From its inception, we have only used the Credit Facility to support issuances of letters of credit. However, should we experience significant negative sales trends, a significant disruption of terms with our vendors, the Credit Facility for any reason becomes unavailable and/or actual results differ materially from those projected, our compliance with financial covenants and our cash resources could be adversely affected. In the normal course of business, the Company considers opportunities to purchase leased operating properties, as well as offers to sell owned or if leased, assign operating and non-operating properties. These transactions may, individually or in the aggregate, result in material proceeds or outlays of cash. In addition, the Company reviews leases that will expire in the short-term in order to determine the appropriate action to take with respect to the lease. CREDIT FACILITY Our Credit Facility is a $1.0 billion revolving credit facility with an $800 million letter of credit sub-limit under which Kmart Corporation is the borrower. From its inception, we have only used the Credit Facility to support issuances of letters of credit. In July 2004, we voluntarily reduced the size of the Credit Facility from $1.5 billion to $1.0 billion to reduce the overall cost of the facility. Availability under the Credit Facility is subject to an inventory borrowing base formula. The Credit Facility is guaranteed by the Successor Company, Kmart Management Corporation, Kmart Services Corporation (a subsidiary of Kmart Management Corporation) and Kmart Corporation's direct and indirect domestic subsidiaries. The Credit Facility is secured primarily by first liens on inventory, the proceeds thereof and certain related assets of Kmart Corporation and the guarantors. 23 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (CONTINUED) Borrowings under the Credit Facility are subject to a pricing grid based on our earnings before interest, taxes, depreciation, amortization and other charges ("EBITDA") levels and such adjustments are implemented quarterly. Borrowings currently bear interest at either (i) the Prime rate plus 1.5% per annum or (ii) the LIBOR rate plus 2.5% per annum, at our discretion, and utilization of the letter of credit sub-facility in support of trade and standby letters of credit currently bears interest at 1.25% and 2.50% per annum, respectively. In addition, we are currently required to pay a fee based on the unutilized commitment under the Credit Facility equal to 0.50% per annum. The Credit Facility gives the Company the ability to repurchase up to $500 million of the Company's Common Stock, depending on our EBITDA levels and subject to the approval of the Company's Board of Directors. In accordance with the terms and conditions of the Credit Facility, we are submitting the required information to support a reduction in the current interest rates. We anticipate borrowings, if any, under the Credit Facility will bear interest at either (i) the Prime rate plus 1.0% per annum or (ii) the LIBOR rate plus 2.0% per annum, at our discretion, and utilization of the letter of credit sub-facility in support of trade and standby letters of credit will bear interest at 1.25% and 2.00% per annum, respectively. The unutilized commitment fee will equal 0.375% per annum. As of July 28, 2004, we had utilized $341 million of the Credit Facility for letters of credit issued for ongoing import purchasing operations, and contractual and regulatory purposes, including letters of credit utilized as collateral to support our self-insurance programs. During the first six months of fiscal 2004, we replaced letters of credit used as collateral for certain programs with cash collateral to reduce fees on our letters of credit. We continue to classify the cash collateral in Cash and cash equivalents due to our ability to convert the cash to letters of credit at any time at our discretion. As of July 28, 2004, $214 million of cash was posted as collateral. Total availability under the Credit Facility as of July 28, 2004 was approximately $630 million. The Credit Facility financial covenants include a requirement that we maintain certain availability minimums, and failure to do so triggers additional required minimum levels of EBITDA. The Credit Facility also contains other customary covenants, including certain reporting requirements and covenants that restrict our ability to incur or create liens, indebtedness and guarantees, make investments, pay dividends or make other equity distributions, sell or dispose of stock or assets, change the nature of our business and enter into affiliate transactions, mergers and consolidations. Failure to satisfy these covenants would (in some cases, after the receipt of notice and/or the expiration of a grace period) result in an event of default that could result in our inability to access the funds. As of July 28, 2004 and in all periods since our emergence from Chapter 11, we have been in compliance with all Credit Facility covenants. CASH FLOWS Operating activities provided net cash of $536 million and $576 million for the 26-weeks ended July 28, 2004 and the 13-weeks ended April 30, 2003, respectively. During the 13-weeks ended July 30, 2003, operating activities used $172 million of net cash. Improved net earnings and a reduction in working capital primarily drove the cash flow increase for the 26-weeks ended July 28, 2004. For the 13-weeks ended July 30, 2003, the use of cash was primarily due to payments of $451 million for exit costs and reorganization items, partially offset by a reduction of inventory, net of accounts payable. For the 13-weeks ended April 30, 2003, a decrease in inventory due to liquidation sales in conjunction with store closings and improved inventory management, partially offset by a decrease in accounts payable, had a favorable affect on operating cash flow. Investing activities generated $29 million, $17 million and $60 million for the 26-weeks ended July 28, 2004 and the 13-weeks ended July 30, 2003 and April 30, 2003, respectively. During the current period, we received proceeds of $153 million from sales of real and personal property, including $59 million from the sale of four owned properties to Home Depot. We have not received any other proceeds as of July 28, 2004 for the sale and assignment of other properties to Home Depot or Sears as remaining transactions had not yet been consummated. See Note 4 - Real Estate and Property Transactions and Note 11 - Property Held for Sale for a more detailed discussion of these transactions. During the 26-weeks ended July 28, 2004, we purchased 22 previously-leased operating properties for $84 million. Proceeds of $64 million were received during the 13-weeks ended April 30, 2003, from the sale of four owned Kmart store locations and the sale of furniture and fixtures from closed store locations. 24 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (CONTINUED) Payments on capital lease obligations and mortgages of $27 million and $17 million were the uses of cash for financing activities during the 26-weeks ended July 28, 2004 and the 13-weeks ended April 30, 2003, respectively. Financing activities provided $123 million in cash for the 13-weeks ended July 30, 2003. Upon emergence from bankruptcy in May 2003, the Company received net proceeds of $127 million from the issuance of Common Stock to the Plan Investors and proceeds of $60 million from the issuance of the convertible note to affiliates of ESL. The positive affect of these items was partially offset by payments made for other financing arrangements. Refer to Note 2 - Emergence from Chapter 11 Bankruptcy Protection and Fresh-Start Accounting for a more detailed discussion. On August 28, 2003, the Company's Board of Directors approved the repurchase of up to $10 million of the Company's outstanding stock for the primary purpose of providing restricted stock grants to certain employees. On June 29, 2004, the Company's Board of Directors increased the existing share repurchase authorization to $100 million and broadened the scope of future repurchases to include the repurchase of shares in furtherance of general corporate purposes. As of July 28, 2004, we had repurchased approximately $4 million of Common Stock. FUTURE LIQUIDITY ITEMS PENSION PLAN Prior to 1996, the Predecessor Company maintained defined benefit pension plans covering eligible associates. Effective January 31, 1996, the pension plans were frozen, and associates no longer earn additional benefits under the plans (except for purposes of the subsidized early retirement program provided by the plan). The plans' assets consist primarily of equity and fixed income securities. Prior to 2004, no contributions had been made to the plans for the past eight years. During the 13-weeks and 26-weeks ended July 28, 2004 contributions to the plans were approximately $1 million. The estimated contribution for fiscal 2004 is $11 million. Contributions to the plans were not required for the 13-weeks ended July 30, 2003 or April 30, 2003. Pension expense was $8 million, $4 million, $9 million and $21 million for the 26-weeks ended July 28, 2004 and the 13-weeks ended July 28, 2004, July 30, 2003 and April 30, 2003, respectively. REAL ESTATE TRANSACTIONS Home Depot U.S.A., Inc. On June 3, 2004, the Company entered into multiple definitive agreements with Home Depot U.S.A., Inc. (a subsidiary of The Home Depot, Inc.) ("Home Depot") to sell up to four owned properties and assign up to 20 leased properties for a maximum purchase price of $365 million in cash. Pursuant to the first of these agreements, on June 15, 2004, the Company completed the sale of four owned properties to Home Depot for $59 million in cash, resulting in a net gain of $43 million. On August 10, 2004 the second agreement was amended, which limited the number of leased properties to be assigned to not more than 15 properties with a maximum purchase price of $230 million in cash. We completed the assignment of nine of these properties on August 13, 2004, resulting in proceeds to the Company of $114 million in cash. We anticipate that Home Depot may close on the remaining six leases by the end of August 2004, subject to certain closing conditions being satisfied. In the event Home Depot does not close on certain of these properties, we have the option to assign up to two of these properties to Home Depot for a maximum of $42 million in cash. 25 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (CONTINUED) Sears, Roebuck and Co. On June 29, 2004, the Company entered into an agreement with Sears, Roebuck and Co. ("Sears") to sell up to two owned properties and assign up to 52 leased properties for a maximum purchase price of $621 million in cash. Pursuant to this agreement, certain closing conditions for a minimum of 43 of the properties must be satisfied by August 31, 2004. However, if the closing conditions have not been satisfied by August 31, 2004, the Company, at its option, may give written notice to Sears by September 9, 2004 to proceed with the closing with respect to those properties for which closing conditions have been satisfied. In the event the closing conditions for the 43 properties have not been satisfied by August 31, 2004 and written notice has not been given to Sears by the Company, either party may terminate the purchase agreement subsequent to September 9, 2004, but prior to the date closing conditions are satisfied for at least 43 properties. Assuming such conditions are met, the Company will receive 30% of the purchase price in September 2004. The remaining 70% of the purchase price will be received when Sears has been assigned the leases and occupies the properties, which shall take place no later than April 15, 2005. OTHER In light of the Company's liquidity position and subject to compliance with our Credit Facility, we may consider various uses of cash and other resources in the future which could include investments in various forms of securities, share repurchases, the acquisition of related or unrelated businesses, and the payment of dividends. STORE ACTIVITY During the 26-weeks ended July 28, 2004 the Company purchased 22 previously leased store locations; closed four operating stores; and allowed leases to expire on four stores. As of July 28, 2004, we operated 1,503 stores. In the second quarter of fiscal 2003, we closed one store. In the first quarter of fiscal 2003, the Predecessor Company closed 316 stores. CRITICAL ACCOUNTING POLICIES AND ESTIMATES In preparing our financial statements, certain of our accounting policies require considerable judgment to select the appropriate assumptions to calculate financial estimates. By their nature, these estimates are complex and subject to an inherent degree of uncertainty. We base our estimates on historical experience, terms of existing contracts, our evaluation of trends and other assumptions that we believe to be reasonable under the circumstances. We continually evaluate the information used to make these estimates as our business and the economic environment change. Management believes the current assumptions and other considerations used to estimate amounts reflected in our financial statements are appropriate. However, if actual experience differs from the assumptions and other considerations used in estimating amounts, the resulting changes could have a material adverse effect on our consolidated results of operations, and in certain situations, could have a material adverse effect on our financial condition. We have disclosed our critical accounting policies and estimates, which include inventory valuation, self-insurance reserves, pension accounting and deferred taxes, in our Annual Report on Form 10-K for the year ended January 28, 2004. RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS For a comprehensive discussion see Note 3 - New Accounting Pronouncements. DISCONTINUED OPERATIONS During the first quarter of fiscal 2003, the Predecessor Company closed 316 stores. Of the total stores closed, 66 met the criteria for discontinued operations. For a comprehensive discussion see Note 15 - Discontinued Operations. For the 13-weeks ended April 30, 2003, 250 of the 316 stores closed were accounted for in continuing operations as they did not meet the criteria for discontinued operations. Total sales, gross margin and SG&A for these 250 stores were $854 million, $301 million and $146 million, respectively. 26 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (CONTINUED) SPECIAL CHARGES Special charges are transactions which, in management's judgment, may make meaningful comparisons of operating results between reporting periods difficult. In determining what amounts constitute a special charge, management considers the nature, magnitude and frequency of their occurrence. For the 13-weeks ended April 30, 2003, the Predecessor Company recorded special charges of $42 million. For a comprehensive discussion see Note 16 - Special Charges. REORGANIZATION ITEMS, NET Reorganization items represent amounts the Predecessor Company incurred as a result of Chapter 11, and are presented separately in the Unaudited Condensed Consolidated Statements of Operations as required by SOP 90-7. The Predecessor Company recorded $813 million for the 13-weeks ended April 30, 2003 for reorganization items. For a comprehensive discussion see Note 17 - Reorganization Items, net. OTHER MATTERS Martha Stewart was convicted on March 5, 2004 of conspiracy, obstruction of justice and two counts of making false statements to federal investigators. Ms. Stewart has been sentenced to five months in prison, five months of home confinement and two years probation. Ms. Stewart is appealing the sentence. The Martha Stewart Everyday brand is considered a distinctive brand for Kmart and we currently sell Martha Stewart Everyday home, garden, colors, baby, kitchen, keeping and decorating product lines, along with candles and accessories. To date, we have not experienced any significant adverse impact from this matter on the sales of Martha Stewart Everyday brand products. Although product sales have not been significantly affected by past events, the Company is not able to determine the potential effects that these events may have on the future sales of its Martha Stewart Everyday brand products. In March 2002, the Court issued an order providing for the continuation of the Predecessor Company's existing surety bond coverage, which permitted the Predecessor Company to self-insure its workers' compensation programs in various states. We have reached agreements with four issuers of pre-petition surety bonds on the terms and conditions of a continuation of their respective bonds. 27 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK At July 28, 2004, we did not have any derivative instruments that increased our exposure to market risks for interest rates, foreign currency rates, commodity prices or other market price risks. We do not use derivatives for speculative purposes. Currently, our exposure to market risks results primarily from changes in interest rates, principally with respect to the Credit Facility, which is a variable rate financing agreement. We do not use swaps or other interest rate protection agreements to hedge this risk. ITEM 4. CONTROLS AND PROCEDURES Under the supervision of, and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), as of the end of the period covered by this report (the "Evaluation Date"). Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of the Evaluation Date, our disclosure controls and procedures were effective in alerting them on a timely basis to material information relating to the Company (including its consolidated subsidiaries) required to be included in the Company's periodic filings under the Exchange Act. No changes in the Company's internal controls have come to management's attention that occurred during the Company's last fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting. 28 PART II. OTHER INFORMATION ITEM 1.LEGAL PROCEEDINGS See Note 18 of the Notes to Unaudited Condensed Consolidated Financial Statements for information concerning legal proceedings. ITEM 2.CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY SECURITIES On August 28, 2003, the Company's Board of Directors approved the repurchase of up to $10 million of the Company's outstanding stock for the primary purpose of providing restricted stock grants to certain employees. On June 29, 2004, the Company's Board of Directors increased the existing share repurchase authorization to $100 million and broadened the scope of future repurchases to include the repurchase of shares in furtherance of general corporate purposes. We have the authorization to repurchase approximately $96 million of Common Stock under the program as of July 28, 2004.
Total Approximate Number of Shares Dollar Value Average Purchased as Part of Shares that Total Price of Publicly May Yet Be Number of Shares Paid per Announced Purchased Under Period Purchased (1) Share Program the Program - ------------------------------ ---------------- ----------- ----------------- --------------- April 29, 2004 to May 26, 2004 - - - $ 6,000,000 May 27, 2004 to June 23, 2004 7,761 $ 65.00 - $ 6,000,000 June 24, 2004 to July 28, 2004 - - - $96,000,000
(1) During the second quarter of fiscal 2004, the Company repurchased 7,761 shares of Common Stock for purposes of paying withholding taxes for certain former associates that were part of the Class 5 claimholders incremental distribution. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS The following information is furnished with respect to the 2004 Annual Meeting of Shareholders of Kmart Holding Corporation held on May 25, 2004. The shareholders voted to ratify the appointment of BDO Seidman, LLP as independent auditors of the Corporation for fiscal year 2004. The vote was 65,656,595 for, 225,751 against and 51,686 abstentions. There were no broker non-votes. The shareholders also voted to approve the Company's incentive plans and grant of shares. The vote was 57,932,608 for, 501,452 against and 72,004 abstentions. There were 7,427,968 broker non-votes. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits: Exhibit 10.1 Employment Agreement dated as of June 1, 2004, between Kmart Management Corporation and David Whipple Exhibit 10.2 Asset Purchase Agreement dated as of June 29, 2004 between Kmart Corporation and Sears, Roebuck and Co. Exhibit 10.3 Letter of Credit Agreement dated as of August 13, 2004 among Kmart Corporation, Bank of America, National Association and Fleet National Bank as issuing banks Exhibit 31.1 Chief Executive Officer Certification pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as Amended 29 Exhibit 31.2 Chief Financial Officer Certification pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as Amended Exhibit 32.1 Certifications pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (b) Reports on Form 8-K: We filed the following Current Reports on Form 8-K with the SEC: 1. On May 17, 2004, Kmart Holding Corporation furnished a Current Report on Form 8-K to report the first quarter 2004 operating results. 2. On June 4, 2004, Kmart Holding Corporation furnished a Current Report on Form 8-K to announce it has signed definitive agreements to sell up to 24 stores to The Home Depot, Inc. 3. On June 30, 2004, Kmart Holding Corporation furnished a Current Report on Form 8-K to announce it has signed a definitive agreement to sell up to 54 store to Sears, Roebuck and Co. and to announce that the Company's Board of Directors has increased the Company's existing share repurchase authorization to $100 million. 30 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. The signatory hereby acknowledges and adopts the typed form of his/her name in the electronic filing of this document with the Securities and Exchange Commission. Date: AUGUST 16, 2004 Kmart Holding Corporation ---------------------------------------------- (Registrant) By: /s/ Julian C. Day ---------------------------------------------- Julian C. Day President and Chief Executive Officer (Principal Executive Officer) /s/ James D. Donlon, III ---------------------------------------------- James D. Donlon, III Senior Vice President, Chief Financial Officer (Principal Financial Officer) /s/ Richard J. Noechel ---------------------------------------------- Richard J. Noechel Vice President, Controller (Principal Accounting Officer) 31 EXHIBIT INDEX Exhibit Number Description - ------- ----------------------------------------------------------------- 10.1 Employment Agreement dated as of June 1, 2004, between Kmart Management Corporation and David Whipple 10.2 Asset Purchase Agreement dated as of June 29, 2004 between Kmart Corporation and Sears, Roebuck and Co. 10.3 Letter of Credit Agreement dated as of August 13, 2004 among Kmart Corporation, Bank of America, National Association and Fleet National Bank as issuing banks 31.1 Chief Executive Officer Certification pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as Amended 31.2 Chief Financial Officer Certification pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as Amended 32.1 Certifications pursuant to 18 U. S. C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 EX-10.1 2 k86812exv10w1.txt EMPLOYMENT AGREEMENT EXHIBIT 10.1 EXECUTION COPY EMPLOYMENT AGREEMENT THIS AGREEMENT, made and entered into on June 1, 2004, by and between Kmart Management Corporation, a Michigan corporation (together with its successors and assigns permitted under this Agreement, the "Company"), and David Whipple (the "Executive"). WHEREAS, the Company desires that the Executive become employed by the Company and provide services to the Company and Holding Corp. (as hereinafter defined), in the best interest of the Company and its affiliates and constituencies; WHEREAS, the Executive desires to be employed by the Company as provided herein; and WHEREAS, the Executive and the Company desire to enter into this Agreement to set forth the terms and conditions of the Executive's services with the Company; NOW, THEREFORE, in consideration of the premises and mutual covenants contained herein and for other good and valuable consideration, the receipt of which is mutually acknowledged, the Company and the Executive (individually a "Party" and together the "Parties") agree as follows: 1. Definitions. The following definitions shall apply to this Agreement in its entirety. (a) "Base Salary" shall mean the salary granted to the Executive pursuant to Section 4. (b) "Board" shall mean the Board of Directors of the Company. (c) "Cause" shall mean (i) the Executive is convicted of a felony involving moral turpitude or any other felony (other than motor vehicle related) and, in the case of such other felony, the Executive is unable to show that he (A) acted in good faith and in a manner he reasonably believed to be in the best interests of the Company and its affiliates and (B) had no reasonable cause to believe his conduct was unlawful; or (ii) the Executive engages in conduct that constitutes willful gross neglect or willful misconduct in carrying out his duties under this Agreement, resulting, in either case, in material harm to the Company or its affiliates, unless the Executive believed in good faith that such act or non-act was in, or was not opposed to, the best interests of the Company and its affiliates. (d) "Committee" shall mean the Compensation and Incentives Committee of the Holding Corp. Board or any other committee of the Holding Corp. Board performing similar functions. (e) "Constructive Termination" by the Executive shall mean termination, during the Term of Employment, based on the occurrence without the Executive's express written consent of any of the following: (i) a material diminution or adverse change in the Executive's responsibilities, duties, authorities or any reduction in title, other than for Cause or Disability; (ii) a reduction in the Executive's Base Salary or Target Bonus (as defined in Section 7) other than for Cause or Disability and other than as part of an across-the-board salary reduction generally imposed on senior executives of the Company; (iii) the failure of the Company to obtain the assumption in writing of its obligation to perform this Agreement by any successor to all or substantially all of the assets of the Company on or prior to a merger, consolidation, sale or similar transaction; or (iv) if the Executive no longer reports to the CEO or to the COO or other direct report of the CEO. The Executive shall further be required to comply with the provisions of Section 11(d)(i) of this Agreement with respect to a Constructive Termination. (f) "Disability" shall mean the Executive's inability, with or without a reasonable accommodation, to substantially perform his duties and responsibilities under this Agreement by reason of any physical or mental incapacity for a period of 180 consecutive days. (g) "Effective Date" shall mean June 1, 2004. (h) "Holding Corp." shall mean Kmart Holding Corporation, a Delaware corporation and the Company's parent corporation. (i) "Holding Corp. Board" shall mean the board of directors of Holding Corp. 2. Term of Employment. Subject to Holding Corp. Board approval as set forth in Section 19 and subject to termination pursuant to Section 11, the Company shall employ the Executive, and the Executive hereby accepts such employment, for the period commencing on the Effective Date and ending on the third anniversary thereof (the "Term of Employment"); provided, however, that the Term of Employment shall be automatically extended for additional one-year periods on each subsequent annual anniversary of the Effective Date, unless written notice of non-extension is provided by either Party to the other Party at least 60 days prior to any such anniversary. 3. Position, Duties and Responsibilities. (a) During the Term of Employment, the Executive shall be employed by the Company and shall serve as Senior Vice President, Associate Resources (or such other position or positions as may be agreed upon in writing by the Executive and Holding Corp. and/or the Company, as applicable). The Executive shall have all authority commensurate with the position of Senior Vice President, Associate Resources, subject to the direction of the Holding Corp. Board, the Board and/or the Chief Executive Officer ("CEO") of the Company. The Executive shall initially report directly to the CEO, but this may be changed such that he reports to the COO or other direct report of the CEO. The Executive shall devote substantially all of his business time, attention and skill to the performance of such duties and responsibilities, and shall use his best efforts to promote the interests of the Company and its affiliates. The Executive shall not, without the prior written approval of the Holding Corp. Board, engage in any other business activity which is in violation of policies established from time to time by the Company or its affiliates. (b) Anything herein to the contrary notwithstanding, nothing shall preclude the Executive from (i) serving on the boards of directors of a reasonable number of other corporations or the boards of a reasonable number of trade associations and/or charitable organizations (subject to the reasonable approval of the Holding Corp. Board), (ii) engaging in charitable activities and community affairs, and (iii) managing his personal investments and affairs, provided that such activities do not materially interfere with the proper performance of his duties and responsibilities as a senior executive officer of Holding Corp. and the Company. 4. Base Salary. During the Term of Employment, the Executive shall be paid an annualized Base Salary, payable in accordance with the regular payroll practices of the Company, in the amount of $390,000. The Base Salary shall be reviewed no less frequently than annually for increase in the discretion of the Holding Corp. Board and/or the Committee. The Base Salary, including any increase, shall not be decreased during the Term of Employment. 5. Transition Payment. The Company shall pay $50,000 to the Executive promptly following commencement of the Executive's employment with the Company to compensate the Executive for expenses associated with his transition to employment with the Company which are not otherwise covered by the Company's executive benefit plans, programs and arrangements. 6. Additional Payments. If any payment or benefit received or to be received by the Executive (whether pursuant to the terms of this Agreement or any other plan, arrangement or agreement with the Company or any affiliate) (all such payments and benefits, excluding the Gross-Up Payment (as hereinafter defined), being hereinafter called "Total Payments") will be subject (in whole or part) to any excise tax (the "Excise Tax") imposed under section 4999 of the Internal Revenue Code of 1986, as amended, then the Company shall pay to the Executive an additional amount (the "Gross-Up Payment") such that the net amount retained by the Executive, after deduction of any Excise Tax on the Total Payments and any federal, state and local income and employment taxes and Excise Tax upon the Gross-Up Payment, shall be equal to the Total Payments. 7. Annual Incentive Awards. During the Term of Employment, the Executive shall be eligible for an annual target bonus ("Target Bonus") of 60% of his then-current Base Salary under the annual cash-based incentive program of the Company (or its affiliate, if applicable) payable if the performance goals thereunder for the relevant fiscal year are met. Payment of the annual bonus shall be made at the same time that other senior executives receive their incentive awards. The actual bonus, if any, earned by the Executive for fiscal year 2004 shall be subject to pro-ration by reason of the Executive's not having been employed by the Company for the entire fiscal year. 8. Long-Term Incentive Programs. Starting with the performance period that begins on February 1, 2005 and continuing throughout the remainder of the Term of Employment, the Executive shall be eligible to participate in the Kmart Long Term Incentive Plan ("LTIP"). While awards granted under the LTIP are subject to the provisions of the LTIP and the discretion of the LTIP Committee (and thus this sentence shall not be construed as creating any binding obligation of Company), the Parties anticipate that such awards, will provide for the payment (in common stock and/or cash at the Executive's election as provided in the LTIP) of an amount equal to the average annual salary and target bonuses paid to the Executive during a three-year performance period, payment at or about the conclusion of the third fiscal year in the performance period (commencing, therefore, with a payment at or about the conclusion of fiscal year 2007) if the Company meets or exceeds its cumulative EBITDA target for the three-year period. 9. Employee Benefit Programs. During the Term of Employment, the Executive shall be eligible to participate in all employee pension and welfare benefit plans and programs made available generally to the Company's senior executives (other than those made available only to the CEO) or to its employees generally (on terms consistent, respectively, with those offered to the Company's other senior executives and/or its employees generally), as such plans or programs may be in effect from time to time, including, without limitation, pension, profit sharing, savings and other retirement plans or programs, medical, dental, hospitalization, short-term and long-term disability and life insurance plans, accidental death and dismemberment protection, travel accident insurance, and any other pension or retirement plans or programs and any other employee welfare benefit plans or programs that may be sponsored by the Company from time to time, including any plans that supplement the above-listed types of plans or programs, whether funded or unfunded. 10. Reimbursement of Business and Other Expenses: Perquisites; Vacations. (a) The Executive is authorized to incur reasonable expenses in carrying out his duties and responsibilities under this Agreement and the Company shall promptly reimburse him for all reasonable business expenses incurred in connection with carrying out the business of the Company and its affiliates, subject to documentation in accordance with the Company's policy. (b) During the Term of Employment, the Company shall reimburse the Executive for reasonable personal financial (including tax) counseling (other than legal fees) by a firm or consultant to be chosen by the Executive, such reimbursement to be no more than the amount authorized under Company policy in effect from time to time. (c) During the Term of Employment, the Executive shall be entitled to four weeks' paid vacation per year. (d) Relocation Expenses. (i) From the Effective Date until August 31, 2004, the Company shall provide to, or reimburse (following receipt of appropriate documentation), the Executive for temporary housing in the Troy, Michigan area; and coach airfare for the Executive for weekend travel home or for the reasonable travel of his spouse and two children. (ii) The Executive shall be afforded a relocation package consisting of the following: (A) reimbursement of reasonable moving expenses, including an amount equal to $7,500 for the purpose of covering incidental moving expenses; (B) reimbursement of reasonable travel expenses incurred by the Executive's spouse for the purpose of searching for a permanent residence in the area of Company headquarters; (C) Company assistance with the sale of the Executive's current residence in accordance with the Company's executive relocation program; and (D) benefits offered under the Company's Tier 4 Domestic Relocation Program. 11. Termination of Employment. (a) Termination Due to Death. In the event the Executive's employment is terminated due to his death, his estate or his beneficiaries as the case may be, shall be entitled to the following: (i) Base Salary through the date of death; (ii) an amount equal to a prorated annual incentive award for the year in which death occurs, based on the actual performance for such year, the amount of which prorated bonus, if any, shall be determined and paid promptly following the end of the year to which such bonus relates; (iii) the balance of any annual or long-term cash incentive awards (if any) earned (but not yet paid) pursuant to the terms of the applicable programs (Executive shall be vested pro-rata on any outstanding long-term cash incentive award if the Company was ahead of plan at date of termination); (iv) any amounts earned, accrued or owing to the Executive but not yet paid under this Agreement; and (v) other or additional benefits in accordance with applicable plans and programs of the Company or its affiliates. (b) Termination Due to Disability. In the event the Executive's employment is terminated due to his Disability, he shall be entitled in such case to the following: (i) Base Salary through the date of termination; (ii) through the Company's long-term disability plans or otherwise, an amount equal to 60% of the Base Salary for the period beginning on the date of termination through the Executive's attainment of age 65; (iii) an amount equal to a prorated annual incentive award for the year in which termination due to Disability occurs, based on the actual performance for such year, the amount of which prorated bonus, if any, shall be determined and paid promptly following the end of the year to which such bonus relates; (iv) the balance of any annual or long-term cash incentive awards (if any) earned (but not yet paid) pursuant to the terms of the applicable programs (Executive shall be vested pro-rata on any outstanding long-term cash incentive award if the Company was ahead of plan at date of termination); (v) any amounts earned, accrued or owing to the Executive but not yet paid under this Agreement; and (vi) other or additional benefits in accordance with applicable plans and programs of the Company or its affiliates. In no event shall a termination of the Executive's employment for Disability occur unless the Party terminating his employment gives written notice to the other Party in accordance with Section 18 below. (c) Termination by the Company for Cause. In the event the Company terminates the Executive's employment for Cause, he shall be entitled to: (i) Base Salary through the date of the termination of his employment; (ii) the balance of any annual or long-term cash incentive awards (if any) earned (but not yet paid) pursuant to the terms of the applicable programs; (iii) an amount equal to a prorated annual incentive award for the year in which such termination occurs, based on the actual performance for such year, the amount of which prorated bonus, if any, shall be determined and paid promptly following the end of the year to which such bonus relates; (iv) any amounts earned, accrued or owing to the Executive but not yet paid under this Agreement; and (v) other or additional benefits in accordance with applicable plans or programs of the Company or its affiliates; (vi) a termination for Cause shall not take effect unless the provisions of this paragraph (vi) are complied with. The Executive shall be given written notice by the Holding Corp. Board of the intention to terminate him for Cause, such notice (A) to state in detail the particular act or acts or failure or failures to act that constitute the grounds on which the proposed termination for Cause is based and (B) to be given within six months of the Holding Corp. Board learning of such act or acts or failure or failures to act. The Executive shall have 10 days after the date that such written notice has been given to the Executive in which to cure such conduct, to the extent such cure is possible. If he fails to cure such conduct, the Executive shall then be entitled to a hearing before the Holding Corp. Board. Such hearing shall be held within 15 days of notice to the Company by the Executive, provided he requests such hearing within 10 days of the written notice from the Holding Corp. Board of the intention to terminate his employment for Cause. If, within five days following such hearing, the Executive is furnished written notice by the Holding Corp. Board confirming that the Holding Corp. Board has determined, by majority vote at a meeting of the Holding Corp. Board duly called and held as to which termination of the Executive is an agenda item, that grounds for Cause on the basis of the original notice exist, he shall thereupon be terminated for Cause. (d) Termination Without Cause; Constructive Termination. (i) A Constructive Termination shall not take effect unless the provisions of this paragraph 11(d)(i) are complied with. The Company shall be given written notice by the Executive of the intention to terminate his employment on account of a Constructive Termination, such notice (A) to state in detail the particular act or acts or failure or failures to act that constitute the grounds on which the proposed Constructive Termination is based and (B) to be given within six months of the Executive learning of such act or acts or failure or failures to act. The Company shall have 30 days after the date that such written notice has been given to the Company in which to cure such conduct, to the extent such cure is possible. (ii) In the event the Executive's employment is terminated (1) by the Company without Cause (other than due to Disability or death), (2) by reason of a Constructive Termination or (3) upon expiration of the Term of Employment following the Company's having given a notice of non-extension of the Term of Employment, the Executive shall be entitled to: (A) Base Salary through the date of termination of the Executive's employment; (B) Base Salary, at the monthly rate in effect on the date of termination of the Executive's employment (or in the event a reduction in Base Salary is the basis for a Constructive Termination, then the Base Salary in effect immediately prior to such reduction), payable for the 12-month period following such termination (the "Severance Period"); provided, however, that the Company's obligations under this clause (B) shall be reduced on a dollar-for-dollar basis (but not below zero) to the extent that the Executive earns fees, salary or wages from a subsequent employer (including those arising from self-employment) during the Severance Period; (C) an amount equal to a prorated annual incentive award for the year in which such termination occurs, based on the actual performance for such year, the amount of which prorated bonus, if any, shall be determined and paid promptly following the end of the year to which such bonus relates; (D) the balance of any annual or long-term cash incentive awards earned but not yet paid pursuant to the terms of the applicable programs (Executive shall be vested pro-rata on any outstanding long-term cash incentive award if the Company was ahead of plan at date of termination); (E) any amounts earned, accrued or owing to the Executive but not yet paid under this Agreement; (F) continued participation during the Severance Period in medical, dental, hospitalization and life insurance coverage and in all other employee welfare plans and programs (other than disability plans and programs) in which he was participating on the date of termination; provided, that the Company's obligations under this clause (F) shall be reduced to the extent that the Executive receives similar coverage and benefits under the plans and programs of a subsequent employer; and provided, further, that (x) if the Company determines that the Executive is precluded from continuing his participation in any employee benefit plan or program as provided in this clause on account of his employment status or for any other reason, he shall be provided with the after-tax economic equivalent of the benefits provided under the plan or program in which he is unable to participate for the period specified in this clause (F) of this Section 11(d); (y) the economic equivalent of any benefit foregone shall be deemed to be the lowest cost that would be incurred by the Executive in obtaining such benefit himself on an individual basis through payment of COBRA continuation coverage premiums or by other means, and (z) payment of such after-tax economic equivalent shall be made quarterly in advance; and (G) other or additional benefits in accordance with applicable plans and programs of the Company or its affiliates. The Executive agrees to notify the Company immediately upon subsequent employment (including self-employment) so that the Company may determine and administer the offsets provided under subparagraphs (B) and (F) of this Section 11(d)(ii). (e) Voluntary Termination. In the event of a termination of employment by the Executive on his own initiative, other than a termination due to death or Disability or a Constructive Termination, the Executive shall have the same entitlements as provided in Section 11(c) above for a termination for Cause. A voluntary termination under this Section 11(e) shall be effective upon 30 days' prior written notice to the Company and shall not be deemed a breach of this Agreement. (f) Mitigation; No Offset. In the event of any termination of employment under this Section 11, the Executive shall be obligated to seek other employment which is suitable for Executive based on his education and work experience. There shall be no offset against amounts due the Executive under this Agreement on account of any remuneration attributable to any subsequent employment that he may obtain except as specifically provided in this Section 11. (g) Nature of Payments. Any amounts due under this Section 11 are in the nature of severance payments considered to be reasonable by the Company. Failure to qualify for any such payment is not in the nature of a penalty. (h) Exclusivity of Severance Payments. Upon termination of the Executive's employment during the Term of Employment, he shall not be entitled to any payments or benefits from the Company or its affiliates, other than as provided herein, or any payments by the Company or its affiliates on account of any claim by him of wrongful termination, including claims under any federal, state or local human and civil rights or labor laws, other than the payments and benefits provided hereunder, except for any benefits which may be due under any employee benefit plan of the Company or its affiliates which provides benefits after termination of employment (as set forth above and incorporated herein). (i) Non-competition. The Executive agrees that any right to receive any payments and/or benefits hereunder, other than Base Salary and/or any pension, and/or any other compensation already earned by the Executive and required to be paid by state law other than under this Agreement, will cease and be immediately forfeited if the Executive breaches the provisions of Section 12. The Executive agrees that any violation of the provisions of Section 12 will result in the immediate forfeiture of any rights to exercise or receive stock options or restricted stock. The foregoing is in addition to the rights of the Company under Section 12. (j) Release of Claims. As a condition of the Executive's entitlement to the payment and/or delivery of any of the severance rights and benefits provided in this Section 11 (other than in the event of the Executive's death), the Executive shall be required to execute and honor a release of claims in the form reasonably requested by the Company. (k) Termination at Will. Notwithstanding anything herein to the contrary, the Executive's employment with the Company is terminable at will with or without Cause; provided, however, that a termination of the Executive's employment shall be governed in accordance with the terms hereof. 12. Restrictive Covenants. (a) Non-Compete. By and in consideration of the substantial compensation and benefits provided by the Company hereunder, and further in consideration of the Executive's exposure to the proprietary information of the Company and its affiliates, the Executive agrees that he shall not, during the Term of Employment and for a period ending 12 months following termination of employment for any reason, directly or indirectly own, manage, operate, join, control, be employed by, or participate in the ownership, management, operation or control of or be connected in any manner, including, but not limited to, holding the positions of officer, director, shareholder, consultant, independent contractor, employee, partner, or investor, with any Competing Enterprise; provided, however, that the Executive may invest in stocks, bonds or other securities of any corporation or other entity (but without participating in the business thereof) if such stocks, bonds, or other securities are listed for trading on a national securities exchange or NASDAQ-National Market and the Executive's investment does not exceed 1% of the issued and outstanding shares of capital stock, or in the case of bonds or other securities, 1% of the aggregate principal amount thereof issued and outstanding. For purposes of this Section 12, "Competing Enterprise" shall mean any and/or all of the following: (i) Albertson's Inc., American Retail Group, Inc., Carrefour se, Fleming Companies, Inc., Kohl's Corporation, The May Department Store Company, J.C. Penny Company, Royal Ahold, Safeway, Inc., Sears, Roebuck and Co., ShopKo Stores, Inc., Supervalue Inc., Target Corp., The Home Depot, Inc., Toys R Us Inc., TJX Companies, Inc., and Wal-Mart Stores, Inc., and any of their parents and/or subsidiaries that are engaged in retail operations, and/or (ii) an entity or enterprise whose business is in competition with the business of the Company which operates retail stores selling general merchandise and/or food if at least 10 of such stores have an area of 50,000 or more square feet and at least 10 of such stores with 50,000 or more square feet are within 25 miles of any one or more Kmart stores. (b) Nonsolicitation. By and in consideration of the substantial compensation and benefits to be provided by the Company and its affiliates hereunder, and further in consideration of the Executive's exposure to the proprietary information of the Company and its affiliates, the Executive agrees that he shall not, during the Term of Employment and for a period of 12 months following termination of employment for any reason, without the express prior written approval of the Company, (i) directly or indirectly, in one or a series of transactions, recruit, solicit or otherwise induce or influence any proprietor, partner, stockholder, lender, director, officer, employee, sales agent, joint venturer, investor, lessor, supplier, agent, representative or any other person which has a business relationship with the Company or any of its subsidiaries or affiliates, or had a business relationship with the Company or any of its subsidiaries or affiliates within the 24-month period preceding the date of the incident in question, to discontinue, reduce or modify such employment, agency or business relationship with the Company or such subsidiary(ies) or affiliate(s), or (ii) directly or indirectly, employ or seek to employ (including through any employer of the Executive) or cause any Competing Enterprise to employ or seek to employ any person or agent who is then (or was at any time within six months prior to the date the Executive or the Competing Enterprise employs or seeks to employ such person) employed or retained by the Company or any of its subsidiaries or affiliates. (c) Confidential Information. During the Term of Employment and at all times thereafter, Executive agrees that he will not divulge to anyone or make use of any Confidential Information except in the performance of his duties as an senior executive of Holding Corp. or the Company or when legally required to do so (in which case the Executive shall give prompt written notice to the Company in order to allow the Company the opportunity to object or otherwise resist such disclosure). "Confidential Information" shall mean any knowledge or information of any type relating to the business of the Company or any of its subsidiaries or affiliates, as well as any information obtained from customers, clients or other third parties, including, without limitation, all types of trade secrets and confidential commercial information. The Executive agrees that he will return to the Company, immediately upon termination, any and all documents, records or reports (including electronic information) that contain any Confidential Information. Confidential Information shall not include information (i) that is or becomes part of the public domain, other than through the breach of this Agreement by the Executive or (ii) regarding the business or industry of the Company or any of its subsidiaries or affiliates properly acquired by the Executive in the course of his career as a senior executive in the Company's industry and independent of the Executive's employment by the Company. The Executive acknowledges that the Company and its affiliates have expended, and will continue to expend, significant amounts of time, effort and money in the procurement of its Confidential Information, that the Company and its affiliates have taken all reasonable steps in protecting the secrecy of the Confidential Information, that said Confidential Information is of critical importance to the Company and its affiliates. (d) Non-Disparagement. The Parties agree that, during the Term of Employment and thereafter (including following the Executive's termination of employment for any reason): (i) the Executive will not make statements or representations, or otherwise communicate, directly or indirectly, in writing, orally, or otherwise, or take any action which may, directly or indirectly, disparage the Company or any subsidiary or affiliate or their respective officers, directors, employees, advisors, businesses or reputations; and (ii) the officers of the Company will not make any statements or representations or otherwise communicate, directly or indirectly, in writing, orally, or otherwise, or take any action which may, directly or indirectly, disparage the Executive. Notwithstanding the foregoing, nothing in this Agreement shall preclude (A) either the Executive or the Company from making truthful statements or disclosures that are required by applicable law, regulation or legal process, or (B) the Executive from making truthful statements or disclosures to any director, employee, consultant, professional advisor or other third party representative of the Company, in each case having a need to know, which disclosures are reasonably necessary for the Executive to perform his duties as the chief human resources officer for the Company. (e) Cooperation. The Executive agrees to cooperate with the Company, during the Term of Employment and thereafter (including following the Executive's termination of employment for any reason), by being reasonably available to testify on behalf of the Company or any subsidiary or affiliate in any action, suit, or proceeding, whether civil, criminal, administrative, or investigative, and to assist the Company, or any subsidiary or affiliate, in any such action, suit or proceeding, by providing information and meeting and consulting with the Holding Corp. Board or the Board or their representatives or counsel, or representatives or counsel to the Company, or any subsidiary or affiliate, as reasonably requested. The Company agrees to reimburse the Executive for all expenses actually incurred in connection with his provision of testimony or assistance (including attorneys' fees incurred in connection therewith) upon submission of appropriate documentation to the Company. (f) Remedies. The Executive agrees that any breach of the terms of this Section 12 would result in irreparable injury and damage to the Company for which the Company would have no adequate remedy at law; the Executive therefore also agrees that in the event of said breach or any threat of said breach, the Company shall be entitled to an immediate injunction and restraining order to prevent such breach and/or threatened breach and/or continued breach by the Executive and/or any and all persons and/or entities acting for and/or with the Executive. The terms of this paragraph shall not prevent the Company from pursuing any other available remedies for any breach or threatened breach hereof, including, but not limited to, remedies available under this Agreement and the recovery of damages. The Executive and the Company further agree that the provisions of the covenant not to compete are reasonable. Should a court or arbitrator determine, however, that any provision of the covenant not to compete is unreasonable, either in period of time, geographical area, or otherwise, the parties hereto agree that the covenant shall be interpreted and enforced to the maximum extent which such court or arbitrator deems reasonable. (g) Continuing Operation. The provisions of this Section 12 shall survive any termination of this Agreement and the Term of Employment, and the existence of any claim or cause of action by the Executive against the Company, whether predicated on this Agreement or otherwise, shall not constitute a defense to the enforcement by the Company of the covenants and agreements of this Section 12. (h) Notice to Employer. The Executive agrees that as long as the provisions of Section 12(a) or 12(b) continue to bind the Executive, he will provide written notice of the terms and provisions of this Section 12 to any prospective employer. 13. Indemnification. (a) The Company agrees that if the Executive is made a party, or is threatened to be made a party, to any action, suit or proceeding, whether civil, criminal, administrative or investigative (a "Proceeding"), by reason of the fact that he is or was a director or employee of the Company or any of its affiliates or is or was serving at the request of the Company as a director, employee or agent of another corporation, partnership, joint venture, trust or other enterprise, including service with respect to employee benefit plans, whether or not the basis of such Proceeding is the Executive's alleged action in an official capacity while serving as a director, employee or agent, the Executive shall be indemnified and held harmless by the Company to the fullest extent legally permitted or authorized by the Company's certificate of incorporation or bylaws or resolutions of the Board or, if greater, by the laws of the State of Michigan against all cost, expense, liability and loss (including, without limitation, attorney's fees, judgments, fines, ERISA excise taxes or penalties and amounts paid or to be paid in settlement) reasonably incurred or suffered by the Executive in connection therewith, and such indemnification shall continue as to the Executive even if he has ceased to be a director, employee or agent of the Company or other entity and shall inure to the benefit of the Executive's heirs, executors and administrators. The Company shall advance to the Executive all reasonable costs and expenses incurred by him in connection with a Proceeding within 20 days after receipt by the Company of a written request for such advance. Such request shall include an undertaking by the Executive to repay the amount of such advance if it shall ultimately be determined that he is not entitled to be indemnified against such costs and expenses. (b) Neither the failure of the Company (including the Board or the Holding Corp. Board or their respective independent legal counsel or stockholders) to have made a determination prior to the commencement of any Proceeding concerning payment of amounts claimed by the Executive under Section 13(a) above that indemnification of the Executive is proper because he has met the applicable standard of conduct, nor a determination by the Company (including the Board or the Holding Corp. Board or their respective independent legal counsel or stockholders) that the Executive has not met such applicable standard of conduct, shall create a presumption that the Executive has not met the applicable standard of conduct. The Company agrees to continue and/or maintain a directors and officers' liability insurance policy covering the Executive to the same extent the Company provides such coverage for its other senior executive officers and directors and for not less than the amounts in effect for its other senior executive officers and directors. 14. Assignability; Binding Nature. This Agreement shall be binding upon and inure to the benefit of the Parties and their respective successors, heirs (in the case of the Executive) and assigns. No rights or obligations of the Company under this Agreement may be assigned or transferred by the Company except that such rights or obligations may be assigned or transferred pursuant to a merger or consolidation in which the Company is not the continuing entity, or the sale or liquidation of all or substantially all of the assets of the Company, provided that the assignee or transferee is the successor to all or substantially all of the assets of the Company and such assignee or transferee assumes the liabilities, obligations and duties of the Company, as contained in this Agreement, either contractually or as a matter of law. The Company further agrees that, in the event of a sale or reorganization transaction as described in the preceding sentence, it shall take whatever action it legally can in order to cause such assignee or transferee to expressly assume the liabilities, obligations and duties of the Company hereunder. No rights or obligations of the Executive under this Agreement may be assigned or transferred by the Executive other than his rights to compensation and benefits, which may be transferred only by will or operation of law, except as otherwise provided herein. 15. Miscellaneous Provisions. (a) This Agreement contains the final and entire understanding and agreement between the Parties concerning the subject matter hereof and supersedes all prior representations, agreements, discussions, negotiations and undertakings, whether written or oral, between the Parties with respect thereto; provided, however, that this Agreement shall not supersede any separate written commitments by the Company with respect to indemnification. (b) No provision in this Agreement may be amended unless such amendment is authorized by the Holding Corp. Board or the Committee and agreed to in writing and signed by the Executive and an authorized officer of the Company. No waiver by either Party of any breach by the other Party of any condition or provision contained in this Agreement to be performed by such other Party shall be deemed a waiver of a similar or dissimilar condition or provision at the same or any prior or subsequent time. Any waiver must be in writing and signed by the Executive or an authorized officer of the Company, as the case may be. (c) In the event that any provision or portion of this Agreement shall be determined to be invalid or unenforceable for any reason, in whole or in part, the remaining provisions of this Agreement shall be unaffected thereby and shall remain in full force and effect to the fullest extent permitted by law. (d) The respective rights and obligations of the Parties hereunder shall survive any termination of the Executive's employment to the extent necessary to the intended preservation of such rights and obligations. (e) The Executive shall be entitled, to the extent permitted under any applicable law, to select and change a beneficiary or beneficiaries to receive any compensation or benefit payable hereunder following the Executive's death by giving the Company written notice thereof. In the event of the Executive's death or a judicial determination of his incompetence, reference in this Agreement to the Executive shall be deemed, where appropriate, to refer to his beneficiary, estate or other legal representative. (f) All amounts required to be paid by the Company shall be subject to reduction in order to comply with applicable Federal, state and local tax withholding requirements, except as otherwise provided herein. (g) The headings of the sections contained in this Agreement are for convenience only and shall not be deemed to control or affect the meaning or construction of any provision of this Agreement. (h) This Agreement may be executed in two or more counterparts. (i) Notwithstanding any provision of this Agreement to the contrary, any action to be taken by the Board shall require the concurrence of the Holding Corp. Board. 16. Governing Law/Jurisdiction. This Agreement shall be governed by and construed and interpreted in accordance with the laws of Michigan without reference to principles of conflict of laws. Subject to Section 17, the Company and the Executive hereby consent to the jurisdiction of any or all of the following courts for purposes of resolving any dispute under this Agreement: (i) the United States District Court of Detroit, Michigan or (ii) the State of Michigan Courts of Oakland County, Michigan. The Company and the Executive further agree that any service of process or notice requirements in any such proceeding shall be satisfied if the rules of such court relating thereto have been substantially satisfied. The Company and the Executive hereby waive, to the fullest extent permitted by applicable law, any objection which it or the Executive may now or hereafter have to such jurisdiction and any defense of inconvenient forum. 17. Resolution of Disputes. Any disputes arising under or in connection with this Agreement shall be resolved by binding arbitration, to be held in the metropolitan area of Company headquarters in accordance with the rules and procedures of the American Arbitration Association. Judgment upon the award rendered by the arbitrator(s) may be entered in any court having jurisdiction thereof. All costs and expenses of any arbitration or court proceeding (including fees and disbursements of counsel) shall be borne by the respective Party incurring such costs and expenses, but the Company shall reimburse the Executive for such reasonable costs and expenses in the event he substantially prevails in such arbitration or court proceeding. Notwithstanding the foregoing, the Company shall be entitled to seek equitable relief pursuant to Section 12(f) hereof in a Court of competent jurisdiction without otherwise waiving the right to exclusive arbitration of all other disputes. 18. Notices. Any notice given to a Party shall be in writing and shall be deemed to have been given when delivered personally or sent by certified or registered mail, postage prepaid, return receipt requested, duly addressed to the Party concerned at the address indicated below or to such changed address as such Party may subsequently give such notice of: If to the Company: Kmart Management Corporation 3100 West Big Beaver Road Troy, MI 48084-3163 Attention: Chief Executive Officer With a copy to: James E. Defebaugh, Esquire Senior Vice President, Deputy General Counsel & Chief Compliance Officer Kmart Management Corporation 3100 W. Big Beaver Road Troy, MI 48084 If to the Executive: With a copy to: 19. Approvals. Except with respect to the Company's obligations under Section 10(d), the effectiveness of this Agreement shall be subject to the approval of this Agreement by the Holding Corp. Board. The Company agrees to seek such approval no later than the first meeting of the Board that takes place following the Effective Date. Absent such approval by the Holding Corp. Board, this Agreement shall not be effective except with respect to the Company's obligations under Section 10(d). IN WITNESS WHEREOF, the undersigned have executed this Agreement as of the date first set forth above. KMART MANAGEMENT CORPORATION By: __________________________________ Title: Chief Executive Officer ______________________________________ David Whipple EX-10.2 3 k86812exv10w2.txt ASSET PURCHASE AGREEMENT EXHIBIT 10.2 ASSET PURCHASE AGREEMENT DATED AS OF JUNE 29, 2004 BY AND BETWEEN SEARS, ROEBUCK AND CO. AND KMART CORPORATION TABLE OF CONTENTS
Page ---- ARTICLE I PURCHASE AND SALE ................................................................ 1 Section 1.1. Purchase and Sale of Transferred Assets................................... 1 Section 1.2. Excluded Assets........................................................... 2 Section 1.3. Assumed Liabilities....................................................... 2 Section 1.4. Excluded Liabilities...................................................... 3 ARTICLE II PHARMACY ASSETS ................................................................. 4 Section 2.1. Right to Acquire Pharmacy Assets.......................................... 4 Section 2.2. No Additional Consideration............................................... 5 Section 2.3. Pharmacy Transfer Deliveries.............................................. 5 Section 2.4. Operation of Pharmacies................................................... 5 Section 2.5. Cooperation............................................................... 5 Section 2.6. Seller's Representations and Warranties Relating to Pharmacy Assets....... 6 Section 2.7. Transfer to Designee...................................................... 7 ARTICLE III PURCHASE PRICE ................................................................. 7 Section 3.1. Purchase Price............................................................ 7 Section 3.2. Payment of Purchase Price................................................. 8 ARTICLE IV CLOSINGS ........................................................................ 9 Section 4.1. Initial Closing and Subsequent Closings................................... 9 Section 4.2. Closing Documents......................................................... 10 Section 4.3. Closing Prorations and Adjustments........................................ 13 Section 4.4. Closing Costs............................................................. 15 Section 4.5. Certain Retained Claims................................................... 15 Section 4.6. Take-Back Leases.......................................................... 16 Section 4.7. Cooperation Between the Parties........................................... 17 Section 4.8. Separate Transactions..................................................... 17 Section 4.9. Pre-Closing Allocation of Purchase Price.................................. 17 ARTICLE V PRE-CLOSING COVENANTS ............................................................ 17 Section 5.1. Operation of Transferred Assets........................................... 17 Section 5.2. Reasonable Best Efforts to Consummate the Transactions.................... 20 Section 5.3. Tax-Deferred Exchange..................................................... 24 Section 5.4. Disclosure................................................................ 24 Section 5.5. Additional Approved Sublease Documents.................................... 25 Section 5.6. Purchase of Fee Interest in Leased Properties............................. 25 Section 5.7. Employee Matters.......................................................... 25 Section 5.8. Environmental Due Diligence for Approved Sublease Space................... 27
ARTICLE VI STATUS OF TITLE TO THE PROPERTIES................................................ 27 Section 6.1. Preliminary Evidence of Title............................................. 27 Section 6.2. Title Defects............................................................. 27 Section 6.3. Permitted Exceptions...................................................... 28 ARTICLE VII CASUALTY LOSS AND CONDEMNATION.................................................. 29 Section 7.1. Condemnation or Material Casualty......................................... 29 Section 7.2. Non-Material Casualty..................................................... 30 ARTICLE VIII REPRESENTATIONS AND WARRANTIES................................................. 30 Section 8.1. Seller's Representations and Warranties................................... 30 Section 8.2. Purchaser's Representations and Warranties................................ 34 Section 8.3. Definitions of Knowledge and Notice....................................... 35 Section 8.4. "As-Is" Condition......................................................... 35 ARTICLE IX INVESTIGATION OF EACH PROPERTY................................................... 36 Section 9.1. Access to Properties...................................................... 36 ARTICLE X CLOSING CONDITIONS ............................................................... 36 Section 10.1. Purchaser's Closing Conditions............................................ 36 Section 10.2. Seller's Closing Conditions............................................... 38 ARTICLE XI INDEMNIFICATION ................................................................. 39 Section 11.1. Indemnification........................................................... 39 Section 11.2. Proceedings Involving Third Parties....................................... 39 Section 11.3. Objections to Claims for Indemnification; Resolution by the Parties....... 41 Section 11.4. Treatment of Indemnification Claims....................................... 41 Section 11.5. Exclusive Remedy.......................................................... 41 Section 11.6. Survival.................................................................. 41 Section 11.7. Limitation on Indemnification............................................. 42 ARTICLE XII DEFAULTS AND REMEDIES .......................................................... 43 Section 12.1. Defaults and Remedies..................................................... 43 ARTICLE XIII I MISCELLANEOUS .............................................................. 44 Section 13.1. Assignment................................................................ 44 Section 13.2. Entire Agreement.......................................................... 44 Section 13.3. Time is of the Essence.................................................... 44 Section 13.4. Further Assurances........................................................ 44 Section 13.5. Construction.............................................................. 44
ii Section 13.6. Legal Fees................................................................ 44 Section 13.7. Notices................................................................... 45 Section 13.8. Governing Law............................................................. 46 Section 13.9. Counterparts.............................................................. 46 Section 13.10. Invalid Provisions........................................................ 46 Section 13.11. Headings, Gender, Etc..................................................... 46 Section 13.12. No Third Party Beneficiaries.............................................. 46 ARTICLE XIV ESCROW AGENT ................................................................... 46 Section 14.1. Duties and Obligations of Escrow Agent.................................... 46
INDEX OF DEFINED TERMS
Page ---- ACQUISITION RIGHT........................................................................... 4 AGREEMENT................................................................................... 1 APPLICABLE LAWS............................................................................. 18 APPROVED SUBLEASES.......................................................................... 32 ASSIGNMENT OF APPROVED SUBLEASE............................................................. 11 ASSIGNMENT OF LEASE......................................................................... 11 ASSUMED LIABILITIES......................................................................... 3 BUSINESS DAY................................................................................ 10 CAA ........................................................................................ 33 CERCLA...................................................................................... 33 CLOSING..................................................................................... 10 CLOSING CONDITIONS.......................................................................... 9 CLOSING DATE................................................................................ 10 CLOSING STATEMENT........................................................................... 13 CODE ....................................................................................... 12 CONFIDENTIALITY AND ACCESS AGREEMENT........................................................ 36 CONTROLLING PARTY........................................................................... 40 CURRENT TAX YEAR............................................................................ 16 DEFAULTING PROPERTIES....................................................................... 43 DELINQUENT AMOUNTS.......................................................................... 15 DEPOSIT..................................................................................... 8 DESIGNEE.................................................................................... 7 EFFECTIVE DATE.............................................................................. 1 ELECTION DEADLINE........................................................................... 4 EMPLOYEES................................................................................... 3 EMPLOYMENT LAW.............................................................................. 3 ENVIRONMENTAL LAWS.......................................................................... 33 EPCRA....................................................................................... 33 ERISA....................................................................................... 3 ESA ........................................................................................ 33
iii ESCROWEE.................................................................................... 27 EXCHANGE.................................................................................... 24 EXCHANGER................................................................................... 24 EXCLUDED ASSETS............................................................................. 2 EXCLUDED LIABILITIES........................................................................ 3 FIFRA....................................................................................... 33 FIRPTA CERTIFICATE.......................................................................... 12 FIRST OCCUPANCY DELIVERY DATE............................................................... 16 FIRST OCCUPANCY DELIVERY DATE PROPERTIES.................................................... 16 FWPCA....................................................................................... 33 GOVERNMENTAL ENTITY......................................................................... 18 GROUND LEASES............................................................................... 34 HAZARDOUS MATERIALS......................................................................... 33 HMTA ....................................................................................... 33 HSR ACT..................................................................................... 21 IMPROVEMENTS................................................................................ 2 INDEMNIFIED PERSONS......................................................................... 39 INDEMNIFYING PERSON......................................................................... 40 INITIAL CLOSING............................................................................. 9 INITIAL CLOSING DATE........................................................................ 10 INITIAL CLOSING PROPERTIES.................................................................. 7 INTANGIBLE PERSONAL PROPERTY................................................................ 2 LANDLORD.................................................................................... 2 LEASED PROPERTIES........................................................................... 2 LEASED PROPERTY............................................................................. 2 LEASEHOLD COMMITMENTS....................................................................... 27 LEASES...................................................................................... 2 LIABILITIES................................................................................. 3 LLC ........................................................................................ 17 LOSSES...................................................................................... 39 MATERIAL CASUALTY........................................................................... 29 MATERIAL TITLE DEFECT....................................................................... 27 MAXIMUM VIOLATION CURE AMOUNT............................................................... 18 MERCHANDISE TRADE FIXTURES.................................................................. 2 NON-CONTROLLING PARTY....................................................................... 40 NON-SELLER VIOLATION........................................................................ 19 OBJECTION................................................................................... 41 OCCUPANCY DELIVERY DATE..................................................................... 16 ORDER....................................................................................... 22 OSHA ....................................................................................... 33 OWNED PROPERTIES............................................................................ 1 OWNED PROPERTY.............................................................................. 1 OWNER'S TITLE COMMITMENTS................................................................... 27 PERMITTED EXCEPTIONS........................................................................ 28 PERMITTED PROPERTY CONDITION................................................................ 17 PERSONAL PROPERTY........................................................................... 2
iv PHARMACY.................................................................................... 4 PHARMACY APPROVALS.......................................................................... 31 PHARMACY ASSETS............................................................................. 4 PHARMACY RECORDS............................................................................ 4 POSSESSION PAYMENT CONDITIONS............................................................... 8 PRE-CLOSING ALLOCATION STATEMENT............................................................ 17 PRESCRIPTION FILES.......................................................................... 4 PROPERTIES.................................................................................. 2 PROPERTY.................................................................................... 2 PROPERTY TERMINATION PROCEDURE.............................................................. 18 PURCHASE PRICE.............................................................................. 7 PURCHASER................................................................................... 1 PURCHASER CLOSING CONDITIONS................................................................ 36 PURCHASER INDEMNIFIED PARTIES............................................................... 39 PURCHASER SUBSIDIARY........................................................................ 44 PURCHASER'S REPRESENTATIVES................................................................. 36 QUALIFIED CONTRACTOR........................................................................ 30 QUALIFIED INTERMEDIARY...................................................................... 24 RCRA ....................................................................................... 33 RELATED AGREEMENTS.......................................................................... 31 RELEASE..................................................................................... 33 REMAINING PROPERTIES........................................................................ 7 RENEWAL NOTICE.............................................................................. 19 REQUIRED CONSENTS........................................................................... 23 RETAINED PHARMACY BUSINESS ASSETS........................................................... 2 SDWA ....................................................................................... 33 SECOND OCCUPANCY DELIVERY DATE.............................................................. 16 SECOND OCCUPANCY DELIVERY DATE PROPERTIES................................................... 16 SELLER...................................................................................... 1 SELLER CLOSING CONDITIONS................................................................... 38 SELLER INDEMNIFIED PARTIES.................................................................. 39 SELLER PLAN................................................................................. 3 SELLER SUBSIDIARY........................................................................... 1 SELLER SUBTENANT ESTOPPEL................................................................... 11 SELLER TENANT ESTOPPEL...................................................................... 11 SELLER VIOLATION............................................................................ 18 SELLER'S TITLE CURE ELECTION PERIOD......................................................... 28 SERVICE CONTRACT............................................................................ 4 SNDA ....................................................................................... 23 STORE EMPLOYEE.............................................................................. 25 SUBLEASE RENTS.............................................................................. 15 SUBLEASED PREMISES.......................................................................... 27 SUBLEASES................................................................................... 32 SUBSEQUENT CLOSING.......................................................................... 10 SUBSEQUENT CLOSING DATE..................................................................... 10 SUBTENANTS.................................................................................. 15
v SURVEYS..................................................................................... 27 TAKE-BACK LEASE............................................................................. 16 THIRD PARTY ENVIRONMENTAL CLAIMS............................................................ 39 THIRD PARTY PROCEEDING...................................................................... 40 TITLE COMMITMENTS........................................................................... 27 TITLE COMPANY............................................................................... 27 TITLE REVIEW PERIOD......................................................................... 28 TRANSFERRED ASSETS.......................................................................... 1 TSCA ....................................................................................... 33 VIOLATIONS.................................................................................. 18 WARN ACT.................................................................................... 3
vi ASSET PURCHASE AGREEMENT This ASSET PURCHASE AGREEMENT (this "AGREEMENT") is made and entered into as of the 29 day of June, 2004 (the "EFFECTIVE DATE"), by and between SEARS, ROEBUCK AND CO., a New York corporation ( "PURCHASER") and KMART CORPORATION, a Michigan corporation ("SELLER"). R E C I T A L S: WHEREAS, Seller and certain wholly owned subsidiaries of Seller (each, a "SELLER SUBSIDIARY"; and any reference to "Seller" herein shall be deemed to include any applicable Seller Subsidiary) are (a) the owners of fee simple title to the Owned Properties, (b) the lessees under the Leases with respect to the Leased Properties, and (c) the owners of all of the other Transferred Assets and Pharmacy Assets (as such terms are hereinafter defined); WHEREAS, Seller desires to sell and/or assign, as applicable, the Transferred Assets and Pharmacy Assets to Purchaser, and Purchaser desires to purchase the Transferred Assets and Pharmacy Assets from Seller and to assume certain liabilities in connection therewith, upon the terms and subject to conditions set forth in this Agreement; NOW, THEREFORE, in consideration of and in reliance upon the above Recitals, which are acknowledged to be accurate and are incorporated herein, the terms, covenants and conditions contained in this Agreement, and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, Seller and Purchaser agree as follows: ARTICLE I PURCHASE AND SALE Section 1.1. Purchase and Sale of Transferred Assets. Subject to the terms and conditions of this Agreement, Seller shall sell, convey and assign to Purchaser, and Purchaser shall purchase, all right, title and interest of Seller in and to the assets described in the following clauses (a) through (e) (all of which are hereinafter collectively referred to as the "TRANSFERRED ASSETS"): (a) those two (2) parcels of real estate located at the addresses listed on Schedule 1.1(a)-1 attached hereto and legally described on Schedule 1.1(a)-2 hereto, together with (i) all easements, covenants, agreements, rights, privileges, tenements, hereditaments and appurtenances belonging or appertaining thereto, (ii) all oil, gas and mineral rights relating to the real estate, and any rights to use and appropriate water from or relating to the real estate, and (iii) any land lying in the bed of any street, alley, road or avenue (whether open, closed or proposed) within, in front of, behind or otherwise adjoining any such parcel of real estate or any portion of it (individually, an "OWNED PROPERTY" and collectively, the "OWNED PROPERTIES"); (b) those fifty-two (52) lease agreements, together with all modifications and amendments thereto and assignments thereof, identified on Schedule 1.1(b)-1 attached hereto, together with all easements, covenants, agreements, rights, privileges, tenements, hereditaments and appurtenances belonging or appertaining thereto (collectively, the "LEASES"), pursuant to which Seller leases certain real properties identified on Schedule 1.1(b)-2 attached hereto (individually, a "LEASED PROPERTY" and collectively, the "LEASED PROPERTIES"); (c) the buildings, structures, fixtures, facilities, installations and other improvements now or hereafter in, on, or under the Owned Properties and the Leased Properties, including, without limitation, any plumbing, air conditioning, heating, ventilating, mechanical, electrical, sprinklers and other utility systems, vertical transportation systems, loading docks, parking lots and facilities, landscaping, roadways, sidewalks, signs, security devices and fixtures that are attached to the Owned Properties or Leased Properties (collectively, the "IMPROVEMENTS"); (d) (i) all existing surveys, blueprints, drawings, plans and specifications (including, without limitation, structural, HVAC, mechanical, electrical, vertical transportation and plumbing plans and specifications) relating to the Properties (as hereinafter defined) to the extent in Seller's possession or control; (ii) all currently effective use, occupancy, building and operating permits, licenses and approvals relating to the Properties, to the extent assignable or transferable; and (iii) all currently effective guarantees and warranties issued to Seller in connection with the purchase, construction, alteration, installation or repair of any portion of the Properties, to the extent assignable or transferable (collectively, the "INTANGIBLE PERSONAL PROPERTY"); and (e) all racks, shelves, brackets, displays and other merchandise trade fixtures located in the Properties as of the Effective Date (collectively, the "MERCHANDISE TRADE FIXTURES," and, together with the Intangible Personal Property, the "PERSONAL PROPERTY"). For purposes of this Agreement, each Owned Property and Leased Property, together with related Improvements, is referred to individually as a "PROPERTY," and collectively as the "PROPERTIES." Section 1.2. Excluded Assets. Except as provided in Article II, Seller will retain all right, title and interest in all assets of Seller located at or relating to the Properties other than the Transferred Assets (the "EXCLUDED ASSETS"), including without limitation, all inventory, all personal property located at the Properties other than the Personal Property (including all point of sale and inventory scanning systems, cash registers, computer equipment and hardware systems), any consideration payable to Seller, as tenant, prior to the applicable Closing (and relating to any period prior to the Closing) by any landlord under a Lease (a "LANDLORD") pursuant to, or in connection with, such Lease, and any rights or claims retained by Seller, as tenant, under any Lease pursuant to Section 4.3(b) or Section 4.5 hereof, and, solely with respect to Seller's pharmacy business at locations other than the Properties, all prescription files, "pharmacy scrips," patient profiles, customer lists and other books, records and files (the "RETAINED PHARMACY BUSINESS ASSETS"). Section 1.3. Assumed Liabilities. Subject to the terms and conditions of this Agreement, Purchaser shall assume, perform, pay and discharge any and all liabilities, debts, - 2 - obligations, judgments, fines, penalties and claims (collectively, "LIABILITIES") relating to any Transferred Asset to the extent that such Liabilities accrue or arise from or out of events occurring on or after the Closing Date related to such Transferred Asset (the "ASSUMED LIABILITIES"), excluding in all cases the Excluded Liabilities. Section 1.4. Excluded Liabilities. Purchaser shall not assume or be obligated to pay, perform or otherwise assume or discharge the following Liabilities of Seller or any of its affiliates (the "EXCLUDED LIABILITIES"): (a) any indebtedness of Seller or its affiliates for borrowed money; (b) any Liabilities not related to the Transferred Assets; (c) any Liabilities with respect to the employment, engagement or termination by Seller or any affiliate thereof of any current or former employees, independent contractors or licensed employees of Seller or any such affiliate (collectively, "EMPLOYEES"), including, without limitation, any Liabilities with respect to any alleged violation of any Employment Law (as hereinafter defined). For purposes of this Agreement, the phrase "EMPLOYMENT LAW" shall mean any federal, state or local law, statute, ordinance, rule or regulation and any common laws regarding employment, including, without limitation, Title VII of the Civil Rights Act of 1964, 42 U.S.C. 1981, the Age Discrimination in Employment Act of 1967, the Older Workers Benefit Protection Act of 1990, the Family and Medical Leave Act, the National Labor Relations Act, the Worker Adjustment and Retraining Notification Act ("WARN ACT"), the Americans With Disabilities Act, the Fair Labor Standards Act, and common law claims for breach of contract, wrongful discharge or other claims, and other comparable federal state or local laws, each as amended, and all rules and regulations promulgated pursuant thereto or published thereunder; (d) any Liabilities relating to any Transferred Asset to the extent that such Liabilities accrue or arise from or out of events occurring during the period prior to the Closing with respect to such Transferred Asset, including, without limitation, the litigation disclosed on Schedule 8.1(g) attached hereto; (e) any Liabilities with respect to any compensation or benefits due and payable by Seller to any Employees, including, without limitation, any of such Liabilities with respect to (i) any plan or program maintained by Seller or any of its affiliates that is (x) an "employee benefit plan" within the meaning of Section 3(3) of ERISA or (y) a fringe benefit program providing vacation, sick leave or other paid time off benefits (a "SELLER PLAN") or (ii) any alleged violation of the Employee Retirement Income Security Act of 1974, as amended ("ERISA") or other applicable federal, state or local laws, each as amended, and all rules and regulations promulgated pursuant thereto or published thereunder; (f) any and all taxes owed by Seller or any of its affiliates, except for real estate taxes to the extent prorated as provided in Section 4.3 hereof, and except as otherwise provided herein; - 3 - (g) all Liabilities of Seller under the Take-Back Leases (as hereinafter defined); (h) all Liabilities of Seller under any service contract or service agreement relating to the Properties (each a "SERVICE CONTRACT"); and (i) all Liabilities of Seller under any Sublease (as hereinafter defined) except for those Liabilities arising or accruing from or out of events occurring after Closing with respect to any Approved Sublease (as hereinafter defined). ARTICLE II PHARMACY ASSETS Section 2.1. Right to Acquire Pharmacy Assets. From and after the time of the sale, conveyance and assignment by Seller of a Property to Purchaser at a Closing pursuant to this Agreement, Purchaser shall have the right (the "ACQUISITION RIGHT") to require Seller to convey and assign to Purchaser, to the extent permitted under applicable law, all right, title and interest of Seller in and to the following assets (collectively, the "PHARMACY ASSETS") used in the retail drugstore and pharmaceutical operations of Seller conducted at such Property (each such operation relating to a particular Property being a "PHARMACY"): (a) all of the prescription files (including historical and active prescriptions and pharmacy "scripts"); patient profiles; customer lists; transferable licenses and registrations; and phone numbers used by Seller in connection with the operation of such Pharmacy (the "PRESCRIPTION FILES"); and (b) all books, records, files, papers, databases and compilations and collections of data, whether in hard copy or computer format, relating to the Prescription Files or customers of such Pharmacy in Seller's possession or control as of the date of transfer of the Pharmacy Assets from Seller to Purchaser ("PHARMACY RECORDS"). In order to exercise its Acquisition Right with respect to the Pharmacy Assets relating to a particular Property, Purchaser must deliver written notice of exercise to Seller on or after the time of the Closing with respect to the related Property and prior to the date that is 60 days prior to the Occupancy Delivery Date for such Property (the "ELECTION DEADLINE"). If Purchaser does not so exercise its Acquisition Right with respect to any particular Pharmacy Assets prior to the applicable Election Deadline, Purchaser's Acquisition Right with respect to such Pharmacy Assets shall terminate and all of Seller's obligations hereunder with respect to such Pharmacy Assets and the related Pharmacy (including under Section 2.4) shall cease and be of no further effect (except that Seller shall remain liable for any breaches of Section 2.4, Section 2.5(b) and the third sentence of Section 2.5(d) prior to such termination), and Seller shall have the right to retain such Pharmacy Assets or convey them to a third party. If Purchaser does so exercise its Acquisition Right with respect to any particular Pharmacy Assets prior to the applicable Election Deadline, Seller shall convey and assign such Pharmacy Assets to Purchaser on a Business Day to be later specified by Purchaser in a written notice of closing (the "NOTICE") to Seller, which - 4 - date shall be no earlier than 10 Business Days after Purchaser's delivery of its Notice to Seller and no later than 10 Business Days prior to the Occupancy Delivery Date. Section 2.2. No Additional Consideration. The portion of the Purchase Price allocable to, and payable by Purchaser with respect to, each Property shall be deemed to include payment for the Pharmacy Assets relating to such Property and no additional consideration shall be payable by Purchaser to Seller in connection with the exercise by Purchaser of any Acquisition Rights or the transfer of any Pharmacy Assets. Furthermore, Purchaser shall not assume or be obligated to pay, perform or otherwise assume or discharge any Liabilities of Seller or any of its affiliates accruing or arising from or out of events occurring during the period of Seller's ownership of any Pharmacy Assets or operation of the related Pharmacy prior to Seller's transfer of such Pharmacy Assets to Purchaser, and all such Liabilities shall be Excluded Liabilities hereunder. Section 2.3. Pharmacy Transfer Deliveries. (a) Seller Deliveries. At the time of transfer of any Pharmacy Assets, Seller shall execute and deliver, or cause to be executed and delivered, to Purchaser such customary documents necessary to effect the transfer from Seller to Purchaser of the Pharmacy Assets as may be reasonably requested by Purchaser, including, without limitation, assignment agreements relating to the Pharmacy Assets in the form attached hereto as Exhibit G. (b) Purchaser Deliveries. At the time of transfer of any Pharmacy Assets, Purchaser shall execute and deliver, or cause to be executed and delivered, to Seller such customary documents necessary to effect the transfer from Seller to Purchaser of the Pharmacy Assets as may be reasonably requested by Seller, including, without limitation, assignment agreements relating to the Pharmacy Assets in the form attached hereto as Exhibit G. Section 2.4. Operation of Pharmacies. From and after the Effective Date until December 31, 2004, Seller shall operate each Pharmacy in the usual and ordinary course of business, consistent with past practices with respect to such Pharmacy; provided, that nothing in this Section 2.4 shall preclude Seller from commencing a store closing sale with respect to Seller's non-Pharmacy operations prior to December 31, 2004 at any Property in which a Pharmacy is located. Section 2.5. Cooperation. (a) Seller and Purchaser shall reasonably cooperate to effect an orderly transfer of any Pharmacy Assets for which Purchaser exercises its Acquisition Right. In addition, Seller and Purchaser shall cooperate in good faith to develop within 30 days after the Initial Closing hereunder a preliminary schedule for the transfer of Pharmacy Assets relating to each Property and shall thereafter consult with each other and cooperate to update such schedule from time to time in light of continuing developments with respect to the Pharmacies and the transactions contemplated hereunder. Seller shall reasonably cooperate with Purchaser to transfer in an electronic format usable to Purchaser all such Pharmacy Assets that are, or reasonably can be, embodied in an electronic format; provided, that Purchaser shall reimburse Seller for all - 5 - documented and reasonable out-of-pocket costs and expenses incurred by Seller in complying with its obligations under this sentence. (b) From and after the Effective Date, Seller shall (i) subject to the terms of the Confidentiality and Access Agreement (as hereinafter defined) and applicable law, allow Purchaser and its representatives and advisors and any prospective Designee (as hereinafter defined) of Purchaser reasonable access at reasonable times and upon reasonable prior notice to Seller, to the employees, assets and facilities of Seller related to Seller's operation of any Pharmacy, provided that such access shall not unreasonably interfere with Seller's operation of any Pharmacy, and (ii) furnish promptly to Purchaser and its representatives and advisors and any prospective Designee of Purchaser such information concerning the business, records and personnel of each Pharmacy (including, without limitation, financial, operating and other data and information) as may be reasonably requested by Purchaser, to the extent such information is within Seller's possession or control; provided, that as a condition precedent to Seller's obligation to allow such access or furnish such information to any prospective Designee of Purchaser, such prospective Designee shall have executed and delivered to Seller a customary confidentiality agreement reasonably similar to the Confidentiality and Access Agreement. (c) From and after the exercise by Purchaser of its Acquisition Right with respect to any Pharmacy, Seller shall, subject to receipt of any necessary approvals from Landlords or other third parties, permit Purchaser to post reasonably-sized signs around the Pharmacy at each such Property to notify customers that Purchaser intends to open a pharmacy at such location. (d) From and after the exercise by Purchaser of its Acquisition Right with respect to any Pharmacy, Seller shall, subject to receipt of any necessary approvals from Landlords or other third parties, permit Purchaser (at Purchaser's sole cost) to construct a reasonably-sized temporary facility to be used for the operation of a pharmacy in a location reasonably acceptable to Purchaser and Seller outside the store at such Property. From and after the transfer from Seller to Purchaser of Pharmacy Assets relating to any Property, Seller shall, subject to the receipt of any necessary approvals from Landlords or other third parties, permit Purchaser (at Purchaser's sole cost) to operate a pharmacy from such temporary facility. From and after the Effective Date, Seller shall reasonably cooperate with Purchaser to obtain, at Purchaser's sole cost and expense, any requisite Landlord consents and regulatory permits and approvals necessary for the construction and operation of any temporary pharmacy facility. Purchaser agrees to operate any temporary pharmacy facility in accordance with all applicable laws and regulations and (notwithstanding anything to the contrary in the Take-Back Lease) agrees to indemnify and hold harmless all Seller Indemnified Parties (as hereinafter defined) against any and all Losses (as hereinafter defined) incurred or suffered by the Seller Indemnified Parties, or any of them, due to any claim or other assertion of liability by a third party to the extent such third party claim or assertion relates to or results from Purchaser's construction or operation of any temporary pharmacy facility (which indemnification obligation of Purchaser shall survive the Closing). Section 2.6. Seller's Representations and Warranties Relating to Pharmacy Assets. Seller represents and warrants to Purchaser that the following shall be true, complete and correct as of the date of transfer of any Pharmacy Assets: (a) Seller shall have good and valid title to the Pharmacy Assets; and - 6 - (b) The Prescription Files and Pharmacy Records that Seller will transfer shall be, in all material respects, complete and correct copies of all such items in Seller's records as of the time of such transfer. Section 2.7. Transfer to Designee. Purchaser may, upon written notice to Seller given at least 30 days prior to the First Occupancy Delivery Date, request that Seller convey the Pharmacy Assets to any Purchaser Subsidiary (as hereinafter defined) or any third party (a "DESIGNEE"), and in such event Seller shall convey the Pharmacy Assets on the applicable transfer date to such Designee (to the extent permitted under applicable law and subject to receipt of any requisite Landlord consents under the applicable Lease), provided that Purchaser (and not such Designee) shall retain any rights or obligations hereunder with respect to such Pharmacy Assets, and Seller shall have no liability to such Designee in connection therewith. From and after the time that Purchaser requests that Seller convey the Pharmacy Assets to its Designee, Seller shall be obligated to Purchaser to cooperate with the Designee for all purposes under this Article II in the same manner as Seller would be obligated to cooperate with Purchaser if Purchaser would acquire such Pharmacy Assets. ARTICLE III PURCHASE PRICE Section 3.1. Purchase Price. (a) The purchase price for the Transferred Assets (the "PURCHASE PRICE") to be paid by Purchaser to Seller under this Agreement, in consideration for the conveyance by Seller to Purchaser of the Properties and the other Transferred Assets, shall be $621,000,000, in cash, subject to adjustment pursuant to Section 3.1(b) hereof and subject to any adjustments and prorations as provided under Section 4.3. The portion of the Purchase Price allocable to each Property is set forth on Schedule 3.1(a) attached hereto. The Purchase Price shall be payable by Purchaser to Seller in the manner set forth in Section 3.2. (b) Pursuant to Section 4.1(a) hereof, at the Initial Closing (as hereinafter defined) Seller shall convey, and Purchaser shall acquire, in accordance with and subject to the terms of this Agreement, (i) at least forty-three (43) Properties or (ii) a lesser number of Properties if Seller shall exercise its option (pursuant to the proviso in the first sentence of Section 4.1(a) below) to proceed to Closing with respect to less than forty-three (43) Properties. If, as of the Initial Closing Date, the Closing Conditions (as hereinafter defined) have not been satisfied with respect to certain of the Properties (and subject to the provisions of Article XII below) (for example, if the Closing Conditions shall have been satisfied for forty-four (44) Properties and the Closing Conditions shall not yet have been satisfied for the remaining ten (10) Properties) then the parties shall proceed with the Initial Closing with respect only to the Properties for which the Closing Conditions shall have been satisfied (the "INITIAL CLOSING PROPERTIES"), and the Purchase Price payable by Purchaser to Seller at the Initial Closing shall be reduced by the allocable portion of the Purchase Price (as set forth on Schedule 3.1(a)) of those Properties not conveyed by Seller to Purchaser at the Initial Closing (the "REMAINING PROPERTIES"). - 7 - (c) In the event that, in accordance with this Agreement, any of the Remaining Properties are conveyed by Seller to Purchaser in a Subsequent Closing (as hereinafter defined), the Purchase Price payable by Purchaser to Seller in respect of the conveyance of any such Remaining Property shall be the allocable portion of the Purchase Price for such Remaining Property as set forth on Schedule 3.1(a). Section 3.2. Payment of Purchase Price. (a) Within two (2) Business Days after the execution hereof, Purchaser shall pay an amount equal to $62,100,000 (the "DEPOSIT"), by wire transfer of federal funds, into escrow with the Title Company, as Escrow Agent (as such terms are hereinafter defined), to be held and disbursed by the Escrow Agent in accordance with Article XIV hereof. Notwithstanding anything in this Agreement to the contrary, any interest earned on the Deposit shall be paid to Purchaser. (b) At the Initial Closing, (i) the Deposit (less ten percent (10%) of the Purchase Price allocable to the Remaining Properties pursuant to Schedule 3.1(a)), shall be paid by the Escrow Agent to Seller, (ii) Purchaser shall pay, or cause to be paid, to Seller an additional 20% of the Purchase Price allocable to the Properties conveyed at the Initial Closing pursuant to Schedule 3.1(a) by wire transfer of federal funds to an account designated by Seller in writing by notice to Purchaser, and (iii) all adjustments and prorations (relating to the Properties being conveyed at the Initial Closing) as provided in Section 4.3 shall be made and credited between Seller and Purchaser. (c) At any Subsequent Closing, (i) the applicable Deposit for any Remaining Property being conveyed shall be paid by the Escrow Agent to Seller, (ii) Purchaser shall pay, or cause to be paid, to Seller an additional 20% of the Purchase Price for such Remaining Property (pursuant to Schedule 3.1(a)), by wire transfer of federal funds to an account designated by Seller in writing by notice to Purchaser, and (iii) all adjustments and prorations (relating to such Remaining Property) as provided in Section 4.3 shall be made and credited between Seller and Purchaser. (d) The balance of the Purchase Price with respect to each Property conveyed at the Initial Closing or any Subsequent Closing shall be paid by Purchaser to Seller as follows: (i) on the First Occupancy Delivery Date (as hereinafter defined), and provided that (x) Seller shall have delivered occupancy to Purchaser of such First Occupancy Delivery Date Property (as hereinafter defined) in the manner set forth in the Take-Back Lease applicable to such Property, (y) Seller is not otherwise in default in any material respect of any of its covenants or obligations under such applicable Take-Back Lease, under this Agreement, or under any Seller Tenant Estoppel or any Seller Subtenant Estoppel, as applicable, with respect to such Property, and (z) there is no uncured Seller Violation (as defined below) (collectively, the "POSSESSION PAYMENT CONDITIONS"), Purchaser shall pay to Seller the balance of the Purchase Price allocable to such First Occupancy Delivery Date Property pursuant to Schedule 3.1(a), and (ii) on the Second Occupancy Delivery Date (as hereinafter defined), and provided that Seller shall have satisfied the Possession Payment Conditions with respect to any Second Occupancy Delivery Date Property, Purchaser shall pay to Seller the balance of the Purchase Price allocable to such Property pursuant to Schedule 3.1(a). - 8 - (e) In the event the Possession Payment Conditions are not satisfied in all material respects with respect to any Property at the applicable Occupancy Delivery Date (as hereinafter defined), the following shall occur: (i) in the event Seller has not delivered occupancy of such Property to Purchaser, Purchaser shall not be required to pay to Seller any of the balance of the Purchase Price allocable to such Property until occupancy is so delivered to Purchaser, and (ii) in the event Seller has not satisfied the Possession Payment Conditions described in clause (y) or (z) of Section 3.2(d)(i) above, Purchaser shall withhold from the balance of the Purchase Price allocable to such Property (which balance, less such withheld amount, shall be paid by Purchaser to Seller on the Occupancy Delivery Date) an amount equal to one hundred fifty percent (150%) of the reasonably estimated cost to cure or otherwise satisfy such Possession Payment Conditions, which amount shall be deposited by Purchaser with, and held by, the Title Company in escrow until the earliest of (1) its receipt of a joint direction from both Seller and Purchaser, (2) Seller substantially cures the applicable default (in which event Purchaser and Seller will provide a joint direction to the Title Company), or (3) a court of competent jurisdiction issues an order directing the disbursement of such funds, whereupon the Title Company shall pay such withheld funds to Seller or as otherwise directed pursuant to such joint direction or court order. Notwithstanding the foregoing, in the event Purchaser, pursuant to the terms of a Take-Back Lease, has expended funds to cure a default of Seller under a Take-Back Lease, the reasonable costs incurred by Purchaser in curing such default (including, without limitation, any reasonable attorneys' fees incurred in connection therewith) may be deducted from the balance of the Purchase Price for such Property and such costs shall not be deposited with the Title Company in escrow but shall be retained by Purchaser. (f) Notwithstanding the foregoing, if any Closing is part of an Exchange pursuant to Section 5.3, the funds paid at such Closing and on the First Occupancy Delivery Date or the Second Occupancy Delivery Date (as applicable) shall be wire transferred to an account designated by the Qualified Intermediary (as hereinafter defined). (g) The provisions of this Section 3.2 shall survive the Closings. ARTICLE IV CLOSINGS Section 4.1. Initial Closing and Subsequent Closings. (a) The initial closing of the conveyance of the Properties from Seller to Purchaser as contemplated hereby (the "INITIAL CLOSING") shall occur at the offices of Jenner & Block LLP in Chicago, Illinois, on the tenth (10th) Business Day (as hereinafter defined) after the satisfaction (or waiver) of the closing conditions set forth in Article X hereof (the "CLOSING CONDITIONS") with respect to at least forty-three (43) of the Properties; provided, however, that if the Closing Conditions shall not have been satisfied or waived with respect to at least forty-three (43) of the Properties by August 31, 2004, then Seller, at its option and upon written notice given to Purchaser within seven (7) Business Days thereafter, may elect to proceed with the Closing with respect to those Properties for which the Closing Conditions shall have been satisfied or waived as of such date, and in such event such Closing shall (i) occur on the tenth (10th) Business Day after such notice from Seller to Purchaser shall have been delivered, and (ii) be deemed to be the - 9 - Initial Closing. At the Initial Closing, all of the Properties with respect to which the Closing Conditions shall have been satisfied (or waived) shall be conveyed by Seller to Purchaser in the manner set forth in this Article IV and elsewhere in this Agreement. The term "BUSINESS DAY", as used herein, shall mean any day other than a Saturday, Sunday or day on which banks in New York City are authorized or required by law to be closed. (b) The closing of the conveyance of any Remaining Property from Seller to Purchaser as contemplated hereby (a "SUBSEQUENT CLOSING") shall occur at the offices of Jenner & Block LLP in Chicago, Illinois, on the tenth (10th) Business Day after the satisfaction (or waiver) of the Closing Conditions with respect to any such Remaining Property. The Initial Closing or any Subsequent Closing shall be referred to herein as a "CLOSING", and references herein to a Closing shall mean only the Closing with respect to the Property or Properties being conveyed at such Closing (and not any prior or subsequent closing). The term "INITIAL CLOSING DATE" shall mean the date on which the Initial Closing occurs, the term "SUBSEQUENT CLOSING DATE" shall mean the date on which any Subsequent Closing occurs, and the term "CLOSING DATE" shall mean either the Initial Closing Date or any Subsequent Closing Date. In the event the Closing Conditions with respect to at least forty-three (43) Properties shall not have been satisfied or waived by August 31, 2004, then (provided that Seller shall not have delivered the notice to Purchaser described in the proviso to the first sentence in Section 4.1(a)) either Seller or Purchaser may terminate this Agreement upon written notice given to the other party subsequent to September 9, 2004, but prior to the date such Closing Conditions are satisfied or waived for at least forty three (43) of the Properties, whereupon the Deposit shall be returned by the Escrow Agent to Purchaser, and neither party shall have any further liability to the other party hereunder, except for liabilities arising from a default by either party hereunder or other liabilities that expressly survive the termination of this Agreement. In the event that the Closing Conditions with respect to any Subsequent Closing shall not have been satisfied or waived by September 15, 2004, then either Seller or Purchaser may terminate this Agreement with respect to any such Subsequent Closing upon written notice given to the other party subsequent to September 15, 2004, but prior to the date such Closing Conditions are satisfied or waived, whereupon the Deposit allocable to such Remaining Property shall be returned by the Escrow Agent to Purchaser, and neither party shall have any further liability to the other party hereunder with respect to such Remaining Property or Subsequent Closing, except for liabilities arising from a default by either party hereunder or other liabilities that expressly survive the termination of this Agreement. Section 4.2. Closing Documents. (a) Seller's Closing Deliveries. At a Closing, Seller shall deliver or cause to be delivered to Purchaser each of the following with respect to each Property being conveyed at such Closing, in form and substance reasonably acceptable to Purchaser and Seller, if not attached as a Schedule to this Agreement, to be executed (if necessary) by Seller at such Closing: (i) with respect to each Owned Property being conveyed at such Closing, a special warranty deed for such Property, subject only to the Permitted Exceptions, and otherwise in a form customary for the jurisdiction where the Property is located and acceptable to the Title Company; - 10 - (ii) with respect to each Lease being transferred at such Closing, an Assignment and Assumption of the Lease (the "ASSIGNMENT OF LEASE") executed by Seller in the form attached hereto as Exhibit A together with any other appropriate documents necessary to convey and transfer to Purchaser Seller's interest in any improvements owned by Seller; (iii) the Required Consents (as hereinafter defined), if any, applicable to any Lease or Property being transferred at such Closing; (iv) with respect to each Lease being transferred at such Closing for which a Required Consent was not required, a letter advising the Landlord of the Assignment of Lease; (v) with respect to each Approved Sublease being transferred at such Closing, an Assignment and Assumption of Approved Sublease ("ASSIGNMENT OF APPROVED SUBLEASE") executed by Seller in the form attached hereto as Exhibit F; (vi) with respect to each Approved Sublease being transferred at such Closing, an estoppel letter executed by the respective subtenant in substantially the form set forth in such Approved Sublease, or if no such form is set forth in such Approved Sublease, then in substantially the form as Exhibit E attached hereto, except that in the event the Seller cannot deliver the foregoing estoppel letter at Closing, then in lieu thereof Seller shall deliver an estoppel letter executed by Seller with respect to such Approved Sublease in substantially the form attached hereto as Exhibit E (a "SELLER SUBTENANT ESTOPPEL"); (vii) a bill of sale and general assignment with respect to the Personal Property being conveyed at such Closing, in the form attached hereto as Exhibit B; (viii) with respect to each Leased Property, an estoppel letter substantially in the form set forth in the applicable Lease, and if no form is set forth in the applicable Lease, then substantially in the form attached hereto as Exhibit D, except that in the event that Seller cannot deliver the foregoing estoppel letter from a Landlord with respect to any of the Leases, then in lieu thereof Seller shall deliver an estoppel letter executed by Seller with respect to the applicable Lease substantially in the form attached hereto as Exhibit D (a "SELLER TENANT ESTOPPEL"); (ix) a Take-Back Lease for each Property executed by Seller in the form attached hereto as Exhibit C; (x) with respect to the Leased Properties, an assignment of any existing and effective SNDA (as hereinafter defined, and provided that such SNDA is assignable) from Seller to Purchaser in a form reasonably acceptable to Seller and Purchaser; - 11 - (xi) a counterpart of the Closing Statement (as hereinafter defined) for each Owned and Leased Property being conveyed at such Closing; (xii) a copy of notice of termination from Seller to the applicable contractor with respect to any service contracts affecting or pertaining to the Property being conveyed at such Closing; (xiii) to the extent in the possession of Seller, (A) the original Leases (for each Leased Property being conveyed at such Closing) (or if Seller is not in possession of original Leases, then a copy of such Leases certified by Seller as being true, complete and correct), and (B) (for any of the Properties being conveyed at such Closing) building plans, blueprints, drawings, surveys, site plans, engineering plans, utility plans, landscaping plans, other plans and specifications, and all currently effective use, occupancy, building and operating permits, licenses and approvals, bonds, guarantees, and warranties; (xiv) a certificate of non-foreign status (a "FIRPTA CERTIFICATE") from the Seller in the form and manner that complies with Section 1445 of the Internal Revenue Code of 1986, as amended (the "CODE"), and the Treasury Regulations promulgated thereunder. Notwithstanding anything to the contrary contained herein, if any Seller fails to provide Purchaser with a FIRPTA Certificate, Purchaser shall be entitled to withhold from the Purchase Price the amount required to be withheld pursuant to Section 1445 of the Code and the Treasury Regulations promulgated thereunder; (xv) all properly completed transfer tax forms, if required, that are applicable to the Properties being conveyed at such Closing; (xvi) any reasonable affidavits and other documents customarily required by the Title Company from a Seller in order to issue an Owner's Policy or a Leasehold Policy (with extended coverage over the "general exceptions"), as applicable, in the applicable jurisdiction (provided that no such title affidavit or document shall modify or expand Seller's obligations with respect to Title Objections beyond those set forth in Article VI hereof), together with a copy of any material Bankruptcy Court order with respect to the assumption by Seller of any such Lease in connection with Seller's bankruptcy (which copy shall be certified to be correct and complete by Seller, or by the applicable bankruptcy court if so required by the Title Company in order to issue the Leasehold Policies), and an executed memorandum of Lease, in recordable form, with respect to such Lease if provided by the applicable Landlord (and Seller covenants to use reasonable and good faith efforts prior to Closing to obtain any such executed memorandum of Lease from each Landlord under a Lease for which no memorandum of Lease is currently recorded); and - 12 - (xvii) all other customary closing documents reasonably approved by Purchaser and Seller in connection with the consummation of the transactions contemplated by this Agreement, including, without limitation, those customarily provided by sellers of owned or leased commercial real property in the applicable state and local jurisdictions in order to convey, transfer and assign the Properties being conveyed at such Closing to Purchaser. (b) Purchaser's Closing Deliveries. Purchaser shall deliver or cause to be delivered to Seller (or to the Title Company in escrow, if applicable) at Closing: (i) the portion of the Purchase Price due at such Closing pursuant to Article III hereof, plus or minus prorations and adjustments as set forth herein; (ii) a duly executed counterpart of the Assignment of Lease executed by Purchaser with respect to each Leased Property being conveyed at such Closing; (iii) a duly executed counterpart of the Assignment of Sublease executed by Purchaser with respect to each Approved Sublease being conveyed at such Closing; (iv) a duly executed counterpart of a Take-Back Lease executed by Purchaser for each Property being conveyed at such Closing; (v) a counterpart of the Closing Statement for each Property being conveyed at such Closing executed by Purchaser; (vi) all properly completed transfer tax forms, if required, that are applicable to the Properties being conveyed at such Closing; (vii) any and all reasonable and customary affidavits and other documents reasonably requested of Purchaser by the Title Company in order to cause the Title Company to issue its Title Policy; and (viii) all other customary closing documents reasonably approved by Seller and Purchaser in connection with the consummation of the transactions contemplated by this Agreement, including, without limitation, those customarily provided by purchasers in the applicable state and local jurisdictions in order to perfect the conveyance, transfer and assignment of the Properties being conveyed at such Closing to Purchaser. Section 4.3. Closing Prorations and Adjustments. A statement of prorations and other adjustments shall be prepared by Seller (for each Property being conveyed at a Closing) in conformity with the provisions of this Agreement and submitted to Purchaser for review and approval not less than five (5) Business Days prior to the Initial Closing Date and three (3) Business Days prior to any Subsequent Closing Date (the "CLOSING STATEMENT"). For purposes of prorations, Purchaser shall be deemed the owner of the respective Property on the Closing Date. In addition to other adjustments that may be provided for in this Agreement, the following items with respect to each Property are to be prorated or adjusted, as the case may require, for each Property as of the Closing Date for such Property: (a) real estate taxes and assessments (initially prorated on the basis of 100% of the most recent ascertainable bill, but subject to reproration upon issuance of the actual bills therefor to effectuate the actual proration); to the extent that Seller has escrowed any real estate taxes with the Landlord under a Lease, Seller shall assign all rights under such escrow to Purchaser and, provided the amount so escrowed is confirmed by such Landlord in writing or is confirmed by other reasonably satisfactory substantiation, Seller shall be credited accordingly in connection with the proration of taxes or assessments. Real estate taxes shall be apportioned on the basis of the fiscal period for which assessed. If as of the applicable Closing Date any of the Properties or any portion thereof shall be affected by any special or general assessments which are or - 13 - may become payable in installments of which the first installment is then a lien and has become payable, Seller shall be responsible to pay the unpaid installments of such assessments which are due prior to the applicable Closing Date and Purchaser shall be responsible to pay the installments which are due on or after the applicable Closing Date and Purchaser or Seller shall make a payment to the other to the extent necessary so that the total amount of such special or general assessment is apportioned as provided above; (b) the rent and other sums, including, without limitation, monthly installments payable by Seller on account of operating costs and taxes, payable by Seller under the Leases. Any percentage rent owed under any Lease with respect to any time period prior to the applicable Closing shall be paid by Seller. To the extent that Seller has paid to or escrowed with the Landlord under any Lease any monthly estimate of taxes or other operating expenses, and the Landlord refunds or credits to Purchaser or its designee (after the applicable Closing) a portion of such estimated or escrowed payments resulting from a reconciliation of the actual expenses or taxes for the period prior to such Closing, Purchaser shall deliver to Seller its pro-rata share of such refund within twenty (20) days of receipt of said refund. In the event that a Landlord is owed any additional funds as a result of any deficiency shown in such reconciliation for the period of time prior to the applicable Closing, Seller shall deliver to Purchaser the deficient funds within twenty (20) days of receipt of notice from Purchaser, subject to any rights of the tenant under the Lease to contest such determination by the Landlord (which rights shall be retained and shall be exercisable by Seller) with respect to any reconciliation for the period of time prior to the applicable Closing. Seller shall retain, subsequent to any Closing with respect to a Leased Property, any other rights, claims and remedies against the Landlord with respect to any refunds, rebates or credits due from the Landlord to Seller (as a tenant under the Lease) with respect to any periods prior to the Closing Date (including, without limitation, audit rights and rights to claim adjustments from the Landlord for overcharged amounts of additional rent under the Lease), and Purchaser shall promptly pay to Seller any such amounts received by (or credited for the benefit of) Purchaser after the Closing Date and attributable to periods prior to the Closing Date; (c) security deposits paid under the Leases, and not theretofore applied, shall be credited by Purchaser to Seller on the applicable Closing Date; (d) water, electric, telephone and all other utility and fuel charges shall be prorated ratably on the basis of the last ascertainable bills (and reprorated upon receipt of the actual bills or invoices) unless final meter readings and final invoices can be obtained. To the extent practicable, Seller shall cause meters for utilities to be read not more than ten (10) Business Days prior to the applicable Closing Date; (e) assignable license and permit fees; (f) deposits made by Seller with utility companies, Governmental Entities or any other person, which deposits shall be assigned to Purchaser at Closing and shall be credited to Seller, provided, however, that Seller shall have received written notice from the party holding such deposits confirming the amount of such deposits and stating that no default has occurred by Seller and no other condition has occurred which would - 14 - prohibit all or any portion of such deposit from being refunded (or such other substantiation of the foregoing facts reasonably satisfactory to Purchaser). If Seller is unable to obtain such a notice or provide such other substantiation, amounts on deposit with utility companies shall not be prorated; provided, however, that prior to Closing, Purchaser shall substitute its own deposit for any amounts on deposit with utility companies and Seller shall be entitled to arrange for a refund of Seller's deposit from such utility companies; (g) the rent and other sums, including, without limitation, monthly installments payable by subtenants on account of operating costs and taxes payable under the Approved Subleases, subject to Section 4.5 below; (h) security deposits paid under the Approved Subleases, and not theretofore applied, shall be credited by Seller to Purchaser on the applicable Closing Date; and (i) other operating expenses and any other customarily apportioned items. Except with respect to general real estate taxes (which shall be reprorated upon the issuance of the actual bills, if necessary), any proration which must be estimated at a Closing shall be reprorated and finally adjusted as soon as practicable after the applicable Closing, with any refunds payable to Seller or Purchaser to be made as soon as practicable; otherwise all prorations shall be final. The provisions of this Section 4.3 shall survive the Closings. Section 4.4. Closing Costs. Purchaser shall pay the cost of the Owner's Policies and Leasehold Policies, with extended coverage (all other endorsements requested by Purchaser shall be paid for by Purchaser), and (ii) the Surveys (as hereinafter defined); and at Closing, Seller shall pay 75% of the cost of transfer taxes, documentary stamps, intangible taxes and similar taxes or charges, and Purchaser shall pay 25% of such costs. Purchaser shall pay the costs of recording the deeds and all costs of Purchaser's due diligence activities, including, without limitation, engineering and environmental inspections and reports, and Seller and Purchaser shall each pay one-half of any escrow charges (including any charges for a "New York Style" closing). Seller and Purchaser shall each be responsible for the fees and costs of their respective attorneys, accountants, financial advisors, brokers and other agents and advisors and any expenses and costs incurred by such party except as otherwise specifically set forth herein. Section 4.5. Certain Retained Claims. (a) Seller shall have the right to collect and retain all charges due and payable by the subtenants ("SUBTENANTS") under any subleases, licenses or concession agreements relating to any Property and attributable to the period prior to the Closing Date, including without limitation, rent, payments of common area maintenance charges and payments in the nature of the Subtenant's share of real estate taxes (collectively, "SUBLEASE RENTS"). If, at the Closing Date, any of the Subtenants are in arrears in the payment of any Sublease Rents (such arrearages being herein referred to as "DELINQUENT AMOUNTS"), Seller shall have the right to collect the same after the Closing Date. Sublease Rents received after the Closing Date by Purchaser from any of the Subtenants shall first be applied to the amount due to Purchaser from such Subtenant for the time period after Closing and shall then be applied to Delinquent Amounts and be - 15 - promptly paid over by Purchaser to Seller. Seller shall have and reserves the right to pursue any right or remedy against the Subtenants for Delinquent Amounts; provided, however, that with respect to any of the Approved Subleases to be assigned to Purchaser as set forth herein, Seller shall have no right to file an eviction action against such Subtenants after the Closing. (b) Seller shall retain all rights, claims and remedies, from and after the Closing Date (and, with respect to any Leased Property, to the extent of the tenant's rights under the applicable Lease), with regard to any refunds of real estate taxes, with respect to any period prior to the Closing Date. The amount of any tax refund (net of reasonable attorneys' fees and other reasonable costs of obtaining such tax refunds) with respect to the tax year for any Property in which the Closing Date occurs (a "CURRENT TAX YEAR") shall be apportioned between Seller and Purchaser as of the Closing Date. If, in lieu of a tax refund, a tax credit is received by Seller or Purchaser with respect to any Property for the Current Tax Year, then (x) within thirty (30) days after receipt by Seller or Purchaser, as the case may be, of evidence of the actual amount of such tax credit (net of reasonable attorneys' fees and other reasonable costs of obtaining such tax credit), the tax credit apportionment shall be readjusted between Seller and Purchaser, and (y) upon realization by Purchaser or Seller of a tax savings on account of such credit, Purchaser or Seller, as the case may be, shall pay to Seller or Purchaser an amount equal to the savings realized (as apportioned). All refunds, credits or other benefits applicable to any tax year for any Property prior to the Current Tax Year shall belong solely to Seller (and Purchaser shall have no interest therein) and, if the same shall be paid or credited to Purchaser or anyone acting on behalf of Purchaser, same shall be paid to Seller within twenty (20) days following receipt thereof or following the realization of such credit by Purchaser. All refunds, credits or other benefits applicable to any tax year for any Property after the Current Tax Year shall belong solely to Purchaser (and Seller shall have no interest therein) and, if the same shall be paid to Seller or anyone acting on behalf of Seller, same shall be paid by Seller to Purchaser within twenty (20) days following receipt thereof. (c) The provisions of this Section 4.5 shall survive the Closing. Section 4.6. Take-Back Leases. At each Closing, Seller, as tenant, and Purchaser, as landlord, shall enter into a lease or sublease for each Property conveyed by Seller to Purchaser at such Closing, in the form attached hereto as Exhibit C (the "TAKE-BACK LEASE"). The term of the Take-Back Leases shall expire (a) on March 15, 2005 (the "FIRST OCCUPANCY DELIVERY DATE") with respect to the Properties described on Schedule 4.6(a) (the "FIRST OCCUPANCY DELIVERY DATE PROPERTIES"), and (b) on April 15, 2005 (the "SECOND OCCUPANCY DELIVERY DATE", and each of the First Occupancy Delivery Date and the Second Occupancy Delivery Date, an "OCCUPANCY DELIVERY DATE"), with respect to the Properties described on Schedule 4.6(b) (the "SECOND OCCUPANCY DELIVERY DATE PROPERTIES"). In the event that Purchaser acquires less than 54 Properties as a result of a failure of certain Closing Conditions or for any other reason as set forth in this Agreement, Seller and Purchaser may mutually agree in good faith to revise the allocation of Occupancy Delivery Dates as shown on Schedules 4.6(a) and 4.6(b). Notwithstanding anything herein to the contrary, in the event a Take-Back Lease is terminated as a result of a default by Seller under such Take-Back Lease, Purchaser may elect to accelerate the Occupancy Delivery Date for such Property to a date prior to the First Occupancy Delivery Date or the Second Occupancy Delivery Date. - 16 - Section 4.7. Cooperation Between the Parties. Seller and Purchaser shall cooperate with one another in order to minimize the transfer taxes payable in connection with the transactions contemplated by this Agreement, and to minimize any increase in real estate taxes, property valuations or assessments (special or ordinary) including, without limitation, effecting the acquisition by Purchaser of any Transferred Assets through the merger, consolidation or stock acquisition of or with a newly formed limited liability company ("LLC") that is wholly owned by Seller which has no assets other than the Transferred Assets and no liabilities other than the Assumed Liabilities; provided that such alternative structure has no adverse tax consequences or other adverse consequences to either party, is otherwise reasonably acceptable to both parties and does not adversely impact the ability of either party to structure such transfer as a like-kind exchange under Section 1031 of the Code. In the event that the acquisition by Purchaser of any Transferred Assets occurs through the merger, consolidation or stock acquisition of or with a wholly owned LLC, Seller shall provide reasonable representations and warranties with respect to such wholly owned LLC covering the matters contained in Section 2.5 and Section 8.1, and such LLC shall be bound by the covenants contained herein that bind the Seller, as applicable. Section 4.8. Separate Transactions. Seller and Purchaser intend and agree that for federal and state income tax purposes the sale or Exchange of an individual Transferred Asset does not take place until the Closing for such Transferred Asset, and agree to report the transactions accordingly. Section 4.9. Pre-Closing Allocation of Purchase Price. Not less than ten (10) days prior to each Closing, Purchaser and Seller will jointly prepare and approve a statement (the "PRE-CLOSING ALLOCATION STATEMENT") setting forth the portion of the Purchase Price that is being paid for Transferred Assets that are subject to a transfer tax. ARTICLE V PRE-CLOSING COVENANTS Section 5.1. Operation of Transferred Assets. With respect to each Property, from the Effective Date through and including the first to occur of (i) the termination of this Agreement or (ii) the Closing relating to such Property (provided, however, where covenants specifically noted in this Section 5.1 run through the Occupancy Delivery Date for such Property, such covenants shall not expire on the Closing for such Property, but shall survive the Closing and expire on the Occupancy Delivery Date for such Property): (a) Seller shall keep each Property in substantially the same condition and repair as on the date hereof, ordinary wear and tear and damage due to a casualty or a taking by condemnation excepted (the "PERMITTED PROPERTY CONDITION"), provided that Seller shall not be required subsequent to the Effective Date to make any improvements (including capital improvements) to any Property that would upgrade the condition and repair of any Property beyond the Permitted Property Condition (other than Seller's obligation to cure Seller Violations (as defined below) under Section 5.1(d)); (b) without the prior written consent of Purchaser, Seller shall not sell, mortgage, pledge, lease, hypothecate or otherwise transfer or dispose of all or any part of - 17 - any Property or any interest therein or enter into any agreement or arrangement to do so, other than non material subleases, licenses or concession agreements or other similar agreements entered into in the ordinary course of business, each of which will be terminated on or before the applicable Occupancy Delivery Date; (c) Seller shall not initiate, consent to, approve or otherwise take any material action with respect to zoning or any other governmental laws, rules or regulations presently applicable to any Property, other than such action as is necessary to maintain a Property in compliance with such laws, rules and regulations applicable to such Property, in each case without the prior written consent of Purchaser, which consent shall not be unreasonably withheld or delayed; (d) Seller shall cure, or cause to be cured, prior to Closing any violations ("VIOLATIONS", which shall include, with respect to a Leased Property, only those violations that are the responsibility of the tenant under the Lease) of laws, ordinances, requirements, rules, regulations, notices and orders (collectively, "APPLICABLE LAWS") of any federal, state or local governmental agency, quasi-governmental agency or regulatory authority (a "GOVERNMENTAL ENTITY"), applicable to the Transferred Assets and issued in writing by the applicable Governmental Entity to Seller (i) on or prior to the date of this Agreement, or (ii) subsequent to the date of this Agreement and prior to Occupancy Delivery Date, if arising from Seller's actions or the conduct of Seller's business at the Property subsequent to the date hereof (each, a "SELLER VIOLATION"); provided that if any Seller Violation is not capable of being cured by Seller prior to the Closing, then the parties shall nevertheless proceed to Closing with respect to the applicable Property in accordance with this Agreement, and Seller shall indemnify, defend and hold harmless the Purchaser Indemnified Parties from and against any Losses with respect to such uncured Seller Violations, subject to the limitations set forth in this Section 5.1(d) (and such indemnification obligation of Seller shall survive the Closing), but without limiting Purchaser's rights under Section 3.2(e) above. Notwithstanding the foregoing, in the event that the estimated cost of curing all Seller Violations with respect to a Property (as determined by an independent architect or engineer selected by Seller and approved by Purchaser) exceeds five percent (5%) of the allocated Purchase Price with respect to any Property (the "MAXIMUM VIOLATION CURE AMOUNT"), then Seller, upon written notice to Purchaser given within five (5) Business Days after Seller's receipt of such determination, shall have the right to terminate this Agreement with respect to the applicable Property, in which event (i) the portion of the Deposit allocated to such Property shall be returned to Purchaser, (ii) the Purchase Price shall be deemed to be reduced by the allocated Purchase Price applicable to such Property, (iii) the term "Property" as used herein shall be deemed to be amended to omit any references to the applicable Property, (iv) the parties shall proceed to Closing with respect to the other Properties pursuant to the terms of this Agreement, and (v) neither party hereto shall have any further obligation to the other with respect to the applicable Property, with the exception of those obligations which expressly survive the termination of this Agreement (clauses (i) through (v) collectively, the "PROPERTY TERMINATION PROCEDURE"). Notwithstanding the foregoing, within ten (10) Business Days after Purchaser's receipt of such a termination notice from Seller, Purchaser may notify Seller that it elects to void Seller's termination notice and to proceed to Closing subject to such Seller Violation, in - 18 - which event the Purchase Price allocable to such Property shall be reduced by five percent (5%). Any Violation with respect to a Transferred Asset that is not a Seller Violation shall be hereinafter referred to as a "NON-SELLER VIOLATION". (e) Seller shall terminate any leases (for the Owned Properties), subleases and/or license agreements (except for the Approved Subleases set forth on Schedule 8.1(j) attached hereto) relating to each Property prior to the applicable Occupancy Delivery Date relating to such Property, such that Purchaser shall have sole and exclusive possession of each Property at the applicable Occupancy Delivery Date, except for any Approved Subleases; (f) Seller shall comply in all material respects with all terms and conditions of the Leases and Approved Subleases and Seller shall not terminate, extend or modify any of the Leases or Approved Subleases without the prior written consent of Purchaser, which consent shall not be unreasonably withheld or delayed. Seller shall provide written notice ("RENEWAL NOTICE") to Purchaser of any pending renewal options with respect to any Lease at least thirty (30) days prior to the last date on which any such renewal option may be exercised, and unless Seller is notified in writing by Purchaser not to exercise any such renewal option within fifteen (15) days after Purchaser's receipt of the Renewal Notice, Seller shall exercise such renewal option. Seller shall also promptly forward to Purchaser copies of any material notices received by Seller from any Landlord subsequent to the Effective Date; (g) all Service Contracts and other contracts (other than the Leases, the Approved Subleases and the Permitted Exceptions) which affect or pertain to any Property shall be terminated, or caused to be terminated, by Seller prior to and be of no further force or effect as of the applicable Occupancy Delivery Date relating to such Property; (h) any mortgage financing relating to any Owned Property, and any financing secured by Seller's leasehold interest with respect to any Leased Property, shall be paid off and all related security documents encumbering the Owned Properties or Leased Properties, as applicable, shall be released at the Closing relating to such Property; (i) prior to the applicable Occupancy Delivery Date for each Property, Seller shall vacate the Property and remove all personal property and inventory therefrom, except for Merchandise Trade Fixtures, which may be left by Seller in their existing location as of the completion of Seller's store closing sale, or in any other reasonable location within the Property as reasonably determined by Seller. At the applicable Occupancy Delivery Date for each Property, Seller shall deliver the applicable Property to Purchaser in broom-clean condition; (j) Seller shall be responsible for and shall pay all amounts due through the applicable Occupancy Delivery Date relating to such Property for each Employee's salaries, wages, fees, vacation pay, severance pay, withholding and payroll taxes and other benefits, and shall otherwise comply with any and all applicable requirements of - 19 - the WARN Act (including all notice requirements), any similar Applicable Law and the medical and dental continuation requirements of COBRA; (k) subject to Section 5.7 hereof, Seller shall (i) terminate the employment of, or transfer to another Seller store, all of the individuals rendering services to Seller as employees or independent contractors in connection with any Property before the applicable Occupancy Delivery Date related to such Property, and (ii) provide Purchaser with written notice of the number of employees terminated by Seller during the ninety (90) days preceding and including any applicable Occupancy Delivery Date; (l) Seller shall promptly give written notice to Purchaser of the occurrence of any event known to Seller which affects in any material respect the truth or accuracy of any of the representations or warranties made or to be made by Seller under this Agreement; and (m) Notwithstanding any provisions of the Take-Back Leases, Purchaser and its representatives and contractors shall have reasonable access to each Property during the time period after the Closing for such Property through the Occupancy Delivery Date for such Property for purposes of inspection of the Property in connection with Purchaser's intended renovations and operations at the Property, upon reasonable prior notice to Seller and during business hours (or, at Seller's election and to the extent reasonable, after business hours), provided that such access by Purchaser shall not interfere in any material respect with Seller's business operations at the Property. Seller shall (at no cost to Seller) reasonably cooperate with Purchaser prior to the Occupancy Delivery Date for each Property in connection with Purchaser obtaining any permits from Governmental Entities to perform renovations on the Property, which renovations shall be performed by Purchaser after the Occupancy Delivery Date for such Property. Purchaser's entry on the Properties shall be subject to the terms and conditions of the Confidentiality and Access Agreement. (n) Seller shall use commercially reasonable efforts to obtain a no further action letter or no further remediation letter, from the appropriate Governmental Entity providing that the former underground storage tanks identified in Schedule 5.1(n) were closed in accordance with all applicable Environmental Laws. Section 5.2. Reasonable Best Efforts to Consummate the Transactions. (a) Subject to the terms and conditions provided herein and to Applicable Laws, each of the parties shall use its reasonable best efforts to take, or cause to be taken, all actions, and do, or cause to be done, and assist and cooperate with the other party in doing, in the most expeditious manner practicable, all things necessary, proper or advisable to ensure that the conditions set forth in Article X hereof are satisfied and to consummate the transactions contemplated hereby. (b) Without limiting the generality of the foregoing, and subject to the terms and conditions in this Agreement, each of Purchaser and Seller shall: - 20 - (i) to the extent required under Applicable Laws, promptly make any required filings under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended, and the rules and regulations promulgated thereunder (the "HSR ACT"), with respect to the transactions contemplated by this Agreement and thereafter respond as promptly as practicable to any inquiries or requests received from any Governmental Authority for additional information or documentation; (ii) not extend any waiting period under the HSR Act or enter into any agreement with any Governmental Authority not to consummate the transactions contemplated by this Agreement, except with the prior consent of the other party hereto (which consent shall not be unreasonably withheld or delayed); (iii) use their reasonable best efforts to cooperate with one another in (A) determining which filings and notifications are required to be made under Applicable Laws with, and which consents, licenses, approvals, permits, waivers, orders or authorizations are required to be obtained under Applicable Laws from, Governmental Entities in connection with the execution and delivery of this Agreement and the consummation of the transactions contemplated by this Agreement, (B) timely making all such filings and notifications and timely seeking all such consents, licenses, approvals, permits, waivers, orders or authorizations and (C) as promptly as practicable, responding to any request for information from such Governmental Entities; (iv) subject to any restrictions under Applicable Laws, to the extent practicable, promptly notify each other of any communication to that party from any Governmental Entity with respect to the transactions contemplated by this Agreement and permit the other party to review in advance any proposed written communication to any Governmental Entity; (v) not agree to participate in any meeting with any Governmental Entity in respect of any filing, investigation or other inquiry with respect to the transactions contemplated by this Agreement unless it consults with the other party in advance and, to the extent permitted by such Governmental Entity, gives the other party the opportunity to attend and participate thereat, in each case to the extent practicable; (vi) subject to any restrictions under Applicable Laws, furnish the other party with copies of all correspondence, filings and communications (and memoranda setting forth the substance thereof) between it and its affiliates and their respective - 21 - representatives on the one hand, and any Governmental Entity or members of its staff on the other hand, with respect to the transactions contemplated by this Agreement (excluding documents and communications that are subject to preexisting confidentiality agreements and to the attorney-client privilege or work product doctrine); (vii) furnish the other party with such necessary information and reasonable assistance as such other party and its affiliates may reasonably request in connection with their preparation of necessary filings, registration, or submissions of information to any Governmental Entities in connection with this Agreement and the transactions contemplated hereby, including, without limitation, any filings necessary or appropriate under the provisions of the HSR Act; (viii) use its reasonable best efforts to avoid the entry of, or to have vacated, lifted, reversed, overturned or terminated, any order, judgment, injunction or decree (whether temporary, preliminary or permanent) or any other judicial, administrative or legislative action or proceeding ("ORDER") that would restrain, prevent or delay the closing of the transactions contemplated by this Agreement, including, without limitation, defending through litigation on the merits any claim asserted in any court by any party; and (ix) use its reasonable best efforts to take any steps necessary to avoid or eliminate any impediment under any Applicable Law that may be asserted by any Governmental Entity or private party with respect to the transactions contemplated by the Agreement so as to enable the Closings to occur as soon as reasonably practicable after the date hereof. (c) Seller and Purchaser agree that they will seek with respect to each Lease set forth on Schedule 5.2(c) attached hereto a written consent and/or waiver from either the Landlord under such Lease, any ground lessor and/or from other property owners pursuant to a recorded declaration, pursuant to which such Landlord, ground lessors or property owners, as applicable, consents to (as applicable, based upon the terms of such Lease, ground lease or declaration): (i) the assignment of such Lease from Seller to Purchaser and Landlord waives any termination or recapture rights in favor of such Landlord under the Lease, (ii) the closing of business at the Leased Property by Purchaser (after such assignment and transfer of the Lease) for up to ninety (90) days (subject to extension for up to forty-five (45) days due to unusually severe weather conditions, labor strikes, latent defects or conditions in or on the Property discovered by Purchaser during construction, and other materially adverse events not within Purchaser's reasonable control, provided that if any such latent defects or conditions require that Purchaser obtain a building permit from a Governmental Entity in order to remedy such defect or condition, then the extension period shall end on the date forty five (45) days after the issuance by the Governmental Entity to Purchaser of such building permit) for purposes of renovating the - 22 - Property for Purchaser's intended use, (iii) Purchaser making exterior and/or structural alterations to the Improvements on the Property for purposes of (x) compliance with the Americans with Disabilities Act, (y) constructing an awning or rain shelter at the front entrance of the Property, and/or (z) constructing a customer pick up dock, and consents to a change in the signage on the Property, and/or (iv) the recording of a memorandum of lease or similar instrument sufficient to enable the Title Company to issue a Leasehold Policy (and execution of such document by the Landlord) with respect to those Leased Properties located in Puerto Rico for which no memorandum of lease or similar instrument is currently recorded (such consents being hereinafter referred to collectively as the "REQUIRED CONSENTS"). The form of Required Consents to be sent to Landlords, ground lessors or property owners, as applicable, shall be approved by Seller and Purchaser, and, once approved, Seller shall send the Required Consent forms to the Landlords, ground lessors and property owners. Seller and Purchaser shall each use their reasonable best efforts to obtain the Required Consents as soon as practicable after the Effective Date, provided, however, that neither Seller nor Purchaser shall have any obligation to pay any sum of money or commence any action or proceeding in order to obtain the same. In connection with seeking each Required Consent, Purchaser shall cooperate with the reasonable requests of the Landlords, ground lessors or property owners (including, without limitation, reasonable modifications to the Lease or other applicable documents), provided that in no event shall Purchaser be required, in connection with obtaining a Required Consent, to (i) pay any sum of money to any Landlord, ground lessor or property owner (including through any increase in rent or additional charges), or (ii) make any agreements that could increase Purchaser's liability under a Lease or other applicable documents or materially interfere with or otherwise adversely affect in any material respect Purchaser's ability to conduct its intended business on the Property. Seller and Purchaser (x) shall jointly meet and/or communicate with each Landlord, ground lessor or property owner with respect to any initial request for a Required Consent, and (y) following such initial meeting or communication, shall establish and adhere to mutually acceptable procedures for communicating with Landlords, ground lessors or property owners and their representatives and attorneys with respect to such Required Consents and keeping the other party (to the extent that such other party is not involved in such subsequent meetings or communications) advised with respect thereto. (d) Seller and Purchaser shall promptly request, and use reasonable and good faith efforts to obtain prior to Closing with respect to any Leased Property, (i) an estoppel letter from each Landlord of the Leased Properties, in substantially the form specified in the particular Lease (provided such form of estoppel is customary for retail leases of such age and location) or, if no form of estoppel is prescribed in a Lease, in substantially the form attached hereto as Exhibit E, and dated within thirty (30) days of such Closing; (ii) with respect to any Properties as requested by Purchaser, including without limitation the Properties set forth on Schedule 5.2(d) attached hereto, a subordination, non-disturbance and attornment agreement (an "SNDA") from the Landlord's lender and/or, in the event the Lease is actually a sublease subject to a Ground Lease (as hereinafter defined), from Landlord's ground lessor, in form and substance reasonably acceptable to Purchaser; (iii) a release from the Landlord in favor of Seller with respect to the Lease, in form and substance reasonably satisfactory to Seller, and (iv) an estoppel letter from each subtenant of the Approved Subleases, in form and substance similar to the form attached to the applicable Approved Sublease, or if no form of estoppel letter is attached to such Approved Sublease, an estoppel letter in substantially the form attached hereto as Exhibit F, in each case dated within thirty (30) days of Closing. Notwithstanding the foregoing, (x) the receipt by - 23 - Purchaser of executed estoppels with respect to any Lease or Approved Sublease shall not be a condition to Purchaser's obligation to close with respect to the transfer and assignment of the applicable Lease provided that Seller delivers a Seller Tenant Estoppel or Seller Subtenant Estoppel at Closing for any Leases or Approved Subleases for which such estoppels are not obtained, (y) the receipt by Seller of an executed release with respect to any Lease shall not be a condition of Seller's obligation to close with respect to the transfer and assignment of such Lease, and (z) the receipt by Purchaser of any SNDAs shall not be a condition to Purchaser's obligation to close with respect to the transfer and assignment of the applicable Lease except with respect to those Leased Properties described in Section 10.1(a)(iii)(y). (e) Notwithstanding the foregoing, nothing in this Agreement shall require Purchaser to agree to the sale, transfer, divestiture or other disposition of any assets (including any lines of business and any Transferred Assets or Pharmacy Assets to be acquired hereunder) of Purchaser. Furthermore, notwithstanding anything to the contrary in this Agreement, Seller shall not, without Purchaser's prior written consent, take any action or commit to take any action that would limit the Purchaser's freedom of action with respect to, or its ability to retain, any of the Transferred Assets or Pharmacy Assets. Section 5.3. Tax-Deferred Exchange. Upon the written request of Seller or Purchaser, the other party agrees to cooperate with the requesting party to effectuate a tax deferred like kind exchange (an "EXCHANGE") as contemplated by Section 1031 of the Code, or other tax efficient transaction, including, in the case of an Exchange, by use of a qualified intermediary (a "QUALIFIED INTERMEDIARY"), with respect to (a) the sale of any Property by Seller and/or (b) the acquisition of any Property by Purchaser or a permitted assignee of Purchaser; provided, however, that (i) neither party shall have any liability to the other if such other party is unable to effectuate an Exchange (or other tax efficient transaction) for any reason, other than by reason of a default under this Agreement by the other party, including, without limitation, that neither party shall have liability under any circumstances for any part of any tax savings or tax benefit that the other party might have enjoyed by reason of an Exchange; (ii) either party's ability to effectuate an Exchange (or other tax efficient transaction) shall not be a condition to its obligation to consummate any transaction contemplated by this Agreement, and (iii) neither party shall be obligated to incur any costs, expenses or liabilities of the other party with respect to the Exchange. Either party's election to exchange, rather than sell or buy any Property for other real estate of a like kind shall be at no cost or liability to the other, and the Exchanger (as defined below) shall pay all additional costs associated with the use of the Qualified Intermediary. Should a Property become part of an Exchange, each party electing to exchange the Property (the "EXCHANGER") hereby agrees that the other party may enforce and all representations, warranties, covenants and other obligations of the Exchanger under this Agreement directly against the Exchanger, and the other party agrees that the Exchanger may enforce any and all representations, warranties, covenants and other obligations of the other party under this Agreement directly against the other party. If both parties request an Exchange with respect to the same Property, the parties agree to cooperate to effectuate such Exchange in accordance with the preceding principles. Section 5.4. Disclosure. Purchaser and Seller will each use their reasonable best efforts to coordinate and simultaneously release their first public announcement or press release relating to the transactions contemplated by this Agreement. In addition, prior to the Initial - 24 - Closing Date, Purchaser and Seller shall consult with each other before issuing, and provide each other a reasonable opportunity to review and comment upon, any press release or other similar written public statements with respect to the transactions contemplated hereby (including, without limitation, the first public announcement or press release) and shall not issue any such press release or written public statement prior to such consultation, except as may be required by Applicable Law, by court process or by obligations pursuant to any listing agreement with any national securities exchange. Section 5.5. Additional Approved Sublease Documents. With respect to any documents (or portions thereof) set forth on Schedule 5.5 or noted on Schedule 8.1(j) as having not been made available by Seller to Purchaser prior to the Effective Date (collectively, "ADDITIONAL APPROVED SUBLEASE DOCUMENTS"), Seller shall use good faith efforts to provide to Purchaser, at least ten (10) Business Days prior to the applicable Closing, true and complete copies of such Additional Approved Sublease Documents. Notwithstanding the foregoing, Seller shall deliver to Purchaser, at least ten (10) Business Days prior to the then applicable Closing, true and complete copies of the Additional Approved Sublease Documents set forth on Schedule 5.5 attached hereto. Section 5.6. Purchase of Fee Interest in Leased Properties. Prior to the Closing Date with respect to a Leased Property, Purchaser shall not acquire or attempt to acquire the underlying fee simple interest with respect to such Leased Property, or make any offer or purchase inquiry with respect thereto. Seller (or its affiliates) shall be entitled to acquire or enter into a contract to acquire the underlying fee simple interest with respect to any Leased Property prior to the Closing Date with respect to such Leased Property, provided, that, in the event of such acquisition, Seller shall, as the fee owner of such Leased Property, consent to (without requiring Purchaser to agree to amend or otherwise modify the Lease) (i) the assignment of the leasehold interest in the Lease to Purchaser, (ii) the closing of business at the Leased Property by Purchaser in connection with any renovation of the Leased Property for Purchaser's intended use as contemplated hereunder, and (iii) structural or exterior alterations or changes in signage in accordance with the standard plans and specifications for Purchaser's use as a [Sears] brand store to the extent such Lease requires the consent of the Landlord to any of the foregoing. Notwithstanding the foregoing, neither Seller nor any affiliate of any of Seller shall purchase or enter into a contract to purchase the fee simple interest with respect to more than twenty five (25) of the Leased Properties prior to the final Closing Date, without the prior written approval of Purchaser. Section 5.7. Employee Matters. (a) From and after the applicable Closing Date until the Occupancy Delivery Date with respect to a Property, Seller shall cooperate with Purchaser to attempt to make available to Purchaser (or any of its officers, employees or agents or its Designee) each Employee (including all pharmacy personnel) employed by Seller at such Property (a "STORE EMPLOYEE") for the purpose of interviewing such individuals for possible employment with Purchaser or its Designee, to the extent that such individuals desire to interview for possible employment with Purchaser or its Designee. Prior to the Occupancy Delivery Date with respect to a Property, Purchaser shall arrange an interview with each interested Store Employee employed at such Property for possible employment with Purchaser or its Designee. However, notwithstanding the - 25 - foregoing, nothing in this Agreement shall obligate or constitute the agreement of Purchaser or any of its affiliates or its Designee to recruit or hire any Store Employee or any other employee or former employee of Seller. Furthermore, in the event that Purchaser or any of its affiliates or its Designee determines to hire any Store Employee or any other employee or former employee of Seller, any such hiring and employment shall be at the sole discretion of Purchaser or its Designee and any terms or conditions of such employment shall be determined by Purchaser or its Designee, in its respective sole discretion. (b) From and after the Effective Date until thirty (30) days (or sixty (60) with respect to Pharmacy Employee) after the applicable Closing with respect to a Property, Seller shall not transfer or reassign any pharmacy personnel employed by Seller in connection with Seller's operation of its pharmacy business from any Property (a "PHARMACY EMPLOYEE") or any store manager or assistant store manager (either, a "STORE MANAGER") employed by Seller at such Property to any other stores of Seller or any of its subsidiaries, unless such a Pharmacy Employee or Store Manager requests a transfer or reassignment for health or family reasons or for similar reasons, in which case Seller may transfer or reassign such employee and Seller shall promptly notify Purchaser of any such transfer or reassignment. From and after the Effective Date until the applicable Closing Date with respect to a Property, Seller may communicate with, but shall not make an offer to, any Pharmacy Employee or Store Manager employed by Seller at such Property to continue to work for Seller after the applicable Occupancy Delivery Date; provided, however, in the event Seller notifies Purchaser that it desires to make an offer to a Store Manager prior to the applicable Closing Date and provides Purchaser with no less than ten (10) days after Purchaser's receipt of such notice to interview such Store Manager for possible employment with Purchaser, Seller may make an offer to such Store Manager at any time after such ten (10) day period. Except as set forth in the preceding sentence, Purchaser shall not recruit, solicit, interview, make an offer to or otherwise communicate with Seller's Employees prior to the Closing Date for the applicable Property. After the Closing Date for the applicable Property, both Seller and Purchaser shall have the right to recruit, solicit, interview, make an offer to and communicate with Seller's Employees with respect to prospective employment, except that (notwithstanding anything to the contrary set forth in this Section 5.7(b)) with respect to Pharmacy Employees Seller may not make an offer of employment to such Pharmacy Employee (or engage such Pharmacy Employee as an independent contractor or leased employee) for any other store of Seller or any of its subsidiaries during the period beginning on the Effective Date and ending on the sixtieth (60th) day after the applicable Closing Date, subject to the limitations on Seller's right to transfer or reassign Pharmacy Employees or Store Managers, for health or family or similar reasons, pursuant to the first sentence of this Section 5.7(b). (c) Seller shall be liable for all claims relating to COBRA continuation coverage (within the meaning of Treas. Reg. Section 59.4980B-9) attributable to "qualifying events" with respect to any Employee and his or her beneficiaries and dependents that occur on or before the Occupancy Delivery Date with respect to the Property at which the Employee rendered service; provided that Purchaser shall not take, or encourage any other person to take, any measures that discourage or are intended to discourage any Employee hired by Purchaser from enrolling in Purchaser's health and medical plans, programs, policies or arrangements, nor shall Purchaser take, or encourage or facilitate any other person to take, any measures that encourage or are intended to encourage any Employee to apply for COBRA continuation coverage. - 26 - Section 5.8. Environmental Due Diligence for Approved Sublease Space. Purchaser shall have the right subject to the Confidentiality and Access Agreement to perform Phase I and Phase II environmental investigations with respect to the portions of the Properties subleased pursuant to the Approved Subleases (each a "SUBLEASED PREMISES") identified on Schedule 5.8. In the event any such report discloses an environmental condition in, on, under or relating to any such Subleased Premises which is in violation of any Environmental Law and the estimated cost to remediate such environmental condition is reasonably estimated by Purchaser's consultant to exceed five percent (5%) of the Purchase Price allocable to such Property, Purchaser shall notify Seller in writing of the same, and Purchaser shall have the right, within thirty (30) days after the Effective Date, to terminate this Agreement with respect to such Property, in which event the Property Termination Procedure shall apply. ARTICLE VI STATUS OF TITLE TO THE PROPERTIES Section 6.1. Preliminary Evidence of Title. Within thirty (30) days following the Effective Date, Purchaser shall use commercially reasonable efforts to obtain each of the following documents (and shall provide to Seller a copy of such documents promptly after Purchaser's receipt thereof): (a) with respect to the Owned Properties, title insurance commitments (the "OWNER'S TITLE COMMITMENTS") for ALTA Form B (1992) Owner's Title Insurance Policies proposing to insure Purchaser and committing to insure each Owned Property, issued by First American Title Insurance Company (referred to herein as the "TITLE COMPANY" or "ESCROWEE"). (b) with respect to the Leased Properties, leasehold title insurance commitments (the "LEASEHOLD COMMITMENTS," and, together with the Owner's Title Commitments, the "TITLE COMMITMENTS") for ALTA Leasehold Owners Title Insurance Policies proposing to insure Purchaser and committing to insure the leasehold interest in each Leased Property, issued by the Title Company. (c) current survey plats (collectively, the "SURVEYS") of each of the Properties certified to Purchaser and the Title Company (and such other persons or entities as Purchaser may designate) by a surveyor registered in the state in which such Property is located, prepared in accordance with the Minimum Standard Detail Requirements for ALTA/ACSM Land Title Surveys. Section 6.2. Title Defects. If any Title Commitment or Survey discloses any (i) mortgages, deeds of trust, financing statements, judgments, mechanic's liens, materialmen's liens, tax liens, or similar monetary liens, (ii) material encroachments, or (iii) other title exceptions or defects that materially and adversely affect the future use or operation of a Property as a Sears brand retail store, including, without limitation, the sale of consumables and transactional merchandise (a "MATERIAL TITLE DEFECT"), Purchaser shall use commercially reasonable efforts to notify Seller in writing of such Material Title Defect within ten (10) days after Purchaser's receipt of a Title Commitment and Survey for a Property, but in no event later - 27 - than forty five (45) days after the Effective Date (the "TITLE REVIEW PERIOD"), and Seller shall have ten (10) days from the receipt of Purchaser's notice ("SELLER'S TITLE CURE ELECTION PERIOD") to elect whether to have the Material Title Defect removed or cured (or to commit to do the same), to the reasonable satisfaction of Purchaser. In the event Seller elects, within Seller's Title Cure Election Period, not to remove or cure such Material Title Defect, Purchaser shall have the option, within ten (10) days after the expiration of Seller's Title Cure Election Period, to either (i) waive such Material Title Defect and proceed to Closing for such Property in accordance with this Agreement, or (ii) elect not to acquire such Property and related Transferred Assets, in which event the Property Termination Procedure shall apply. In the event Seller elects, within Seller's Title Cure Election Period, to remove or cure such Material Title Defect, Seller shall be entitled to a period ending on the later of (1) 30 days after the expiration of Seller's Title Cure Election Period, or (2) the Closing Date with respect to such Property, to remove or cure such Material Title Defect, upon which removal or cure the parties shall proceed to Closing for such Property in accordance with this Agreement. Any liens, encumbrances, title defects or other title exceptions disclosed in any Title Commitment or Survey and which do not constitute Material Title Defects (and any Material Title Defects which Purchaser elects to waive pursuant to this Section 6.2), shall be referred to herein as the "PERMITTED EXCEPTIONS". Notwithstanding the foregoing, Seller shall cause to be removed and discharged of record prior to Closing (i) any lien encumbering the Property and securing money borrowed by Seller, and (ii) any mechanic's lien, judgment lien or other lien securing a liquidated sum relating to work performed by or on behalf of Seller or otherwise required to be removed by Seller pursuant to the applicable Lease for such Property, provided that Seller shall not be required to remove or discharge at Closing any bona fide mechanic's liens, judgment liens or other liens (excluding judgment liens relating to non-appealable judgments) encumbering the Property and described in this clause (ii) if the aggregate amount of such liens exceeds five percent (5%) of the Purchase Price allocated to such Property, and if Seller so elects not to remove and discharge such liens at Closing pursuant to this proviso, then Purchaser shall have the same rights (as set forth in the second sentence of this Section 6.2) as if Seller shall have elected not to cure a Material Title Defect, except that if Purchaser elects to waive such Material Title Defect and to proceed to Closing, the Purchase Price allocated to such Property shall be reduced by five percent (5%). Section 6.3. Permitted Exceptions. As used in this Agreement, the term "PERMITTED EXCEPTIONS" shall mean the following: (a) the matters deemed to be Permitted Exceptions pursuant to Section 6.2; (b) any title exceptions or defects (A) over which the Title Company is willing to insure (without additional cost to Purchaser or where Seller pays such cost for Purchaser's account), (B) against which the Title Company is willing to provide affirmative insurance (without additional cost to Purchaser or where Seller pays such cost for Purchaser's account) (provided that any insurance by the Title Company pursuant to clauses (A) and (B) shall be in a form acceptable to Purchaser in its reasonable discretion), (C) which will be extinguished upon the Closing of the Property, or (D) which are the responsibility of a Landlord under a Lease to cure, correct or remove and which will not result in a forfeiture of the tenant's interest under the Lease or in the Property; - 28 - (c) Real property taxes which are a lien but not yet due and payable, subject to proration in accordance with Section 4; (d) any Applicable Laws, rules, regulations, statutes, ordinances, orders or other legal requirements affecting the Property, including, without limitation, those relating to zoning and land use; (e) any installment not due and payable as of the Closing Date of assessments imposed after the date hereof and affecting the Property or any portion thereof; and (f) any utility company rights, easements and franchises for electricity, water, steam, gas, telephone or other service or the right to use and maintain poles, lines, wires, cables, pipes, boxes and other fixtures and facilities in, over, under and upon the Property, provided the same do not materially and adversely affect the present use of the Property and will not materially and adversely affect Purchaser's intended use of the Property. Section 6.4. Cooperation By Seller. If necessary in order for the Title Company to issue a Title Commitment or to deliver to Purchaser copies of the underlying title documents, Seller shall, promptly after request from Purchaser or Purchaser's attorneys, (and, if necessary, shall request that the applicable Landlord) deliver to the Title Company or any applicable Governmental Entity any authorizations reasonably required by the Title Company or the applicable Governmental Entity, in order to release such documents to Purchaser. ARTICLE VII CASUALTY LOSS AND CONDEMNATION Section 7.1. Condemnation or Material Casualty. If, prior to any Closing, any Property or any part thereof shall be condemned, or destroyed or materially damaged by fire or other casualty (that is, damage or destruction which Purchaser and Seller reasonably estimate would cost in excess of $750,000 to repair or restore or which materially impedes access to the respective Property or any material part thereof) (a "MATERIAL CASUALTY"), Purchaser shall have the option, which may be exercised not later than the later of (x) ten (10) days prior to the applicable Closing, or (y) ten (10) days following the date Purchaser receives written notice of the condemnation or material damage, to: (a) proceed to consummate the transactions contemplated by this Agreement with respect to the Property, notwithstanding such casualty or condemnation, and receive a credit at Closing in the amount of the costs to repair any damage (in an amount reasonably acceptable to Seller and Purchaser); or (b) elect not to acquire the Property and other Transferred Assets related to such Property, in which event the Property Termination Procedure shall apply. (c) In the event that Seller and Purchaser cannot agree as to the amount of credit set forth in Section 7.1(a) above, Seller and Purchaser agree to promptly submit the matter to an independent, licensed third party contractor that has performed similar work - 29 - in the area where the Property is located (a "QUALIFIED CONTRACTOR") and that is mutually acceptable to Seller and Purchaser, to determine the amount of such credit. If the parties are unable to agree upon such contractor, each party shall select a Qualified Contractor, and the two (2) contractors shall mutually agree on a third Qualified Contractor, which third contractor shall determine the amount of such credit. Each party shall pay the cost of its respective contractor and the parties shall each pay for one-half of the cost of the mutually acceptable contractor or the third contractor, as applicable. Section 7.2. Non-Material Casualty. If there is any other damage or destruction (that is, damage or destruction which Purchaser and Seller reasonably estimate would cost $750,000 or less to repair or restore, or which does not materially impede access to the Property or any material part thereof), Seller shall either, at Seller's option, (i) completely repair such damage prior to Closing in a manner reasonably satisfactory to Purchaser, or (ii) allow Purchaser a credit against the Purchase Price in an amount equal to the estimated cost of repair (determined as set forth in Section 7.1 above), as of the Closing Date. ARTICLE VIII REPRESENTATIONS AND WARRANTIES Section 8.1. Seller's Representations and Warranties. Seller represents and warrants to Purchaser that the following are true, complete and correct as of the Effective Date and shall be true, complete and correct as of each Closing Date (with respect to the Properties being transferred and conveyed as of such Closing Date): (a) Seller is duly organized, validly existing, and in good standing under the laws of the State in which Seller was incorporated. Seller has all requisite corporate power and authority to execute and deliver this Agreement, to perform its obligations hereunder and to consummate the transactions contemplated hereby. The execution and delivery of this Agreement by Seller and the consummation by Seller of the transactions contemplated hereby has been duly authorized by all necessary corporate action and no other corporate proceedings on the part of Seller are necessary to authorize this Agreement or to consummate the transactions contemplated hereby. This Agreement has been duly executed and delivered by Seller and, assuming the due authorization, execution and delivery of this Agreement by Purchaser, constitutes the legal, valid and binding obligation of Seller, enforceable against Seller in accordance with its terms, except as may be limited by (i) any bankruptcy, insolvency, reorganization, moratorium or other similar laws now or hereafter in effect relating to creditors' rights, and (ii) the law of fraudulent transfer and conveyance. (b) Neither the execution and delivery of this Agreement nor its performance by Seller will conflict with or result in the breach of any contract, agreement, or Applicable Laws to which Seller is a party, other than Leases, ground leases or Permitted Exception documents for which Required Consents are necessary as set forth in Section 5.2(c). - 30 - (c) No approvals, consents, authorizations, declarations, registrations or notices of or to any Governmental Entity that have not been received or made is required by or with respect to Seller in connection with the execution, delivery and performance of this Agreement by Seller or the consummation by Seller of the transactions contemplated hereby except for (i) the filing of any premerger notification and report forms and the expiration or termination of any waiting periods required by the HSR Act, (ii) any applicable approvals, consents, authorizations, declarations, registrations or notices under any pharmacy regulations or to any Governmental Entities or third party administrators in connection with the transactions contemplated under Article II ("PHARMACY APPROVALS"), and (iii) any other approvals, consents, authorizations, declarations, registrations or notices that, if not made or obtained, would not materially and adversely affect the ability of Seller to perform its obligations under this Agreement or under any instrument, document or agreement required to be executed and delivered pursuant hereto (collectively, the "RELATED AGREEMENTS") or to consummate the transactions contemplated hereby or thereby. (d) Seller is the owner of the Personal Property, free and clear of all liens and encumbrances. (e) Seller has not entered into any currently effective agreement to lease (other than the Leases), sell, mortgage or otherwise encumber or dispose of its interest in any of the Transferred Assets or any part thereof (other than currently effective Subleases, or otherwise in the ordinary course of business), except for this Agreement, any Permitted Exceptions and mortgages, deeds of trust or other encumbrances that will be satisfied and released from the Properties at or before the Closing. (f) Except as set forth on Schedule 8.1(f) attached hereto, to the knowledge of Seller, Seller has not received any written notice that the Transferred Assets or any part thereof are presently in violation in any material respect of any Applicable Laws, or any covenants or restrictions of record applicable to the particular Transferred Assets, provided that notwithstanding anything to the contrary herein, the provisions of this Section 8.1(f) relating to Violations shall be applicable only as of the Effective Date, and any Violations issued with respect to the Properties subsequent to the Effective Date shall be governed by Section 5.1(d) hereof. (g) Except as set forth on Schedule 8.1(g), to the knowledge of Seller, there is no action, proceeding or investigation pending or threatened against or involving the Transferred Assets or against Seller with respect to the Transferred Assets before any court or governmental department, commission, board, agency or instrumentality. (h) Except as set forth on Schedule 8.1(h) attached hereto, Seller has not received written notice of any proposed material reassessment of any Property for purposes of real estate taxes. Except as set forth on Schedule 8.1(h-1), Seller has not received written notice of any special or general assessments affecting any Property. (i) Schedule 1.1(b)-1 describes all of the Leases, including all amendments, modifications and revisions thereof (all of which are deemed included within the term - 31 - "Leases" defined herein), and Seller has made available to Purchaser true and complete copies of all Leases, except as set forth on Schedule 1.1(b)-1. Each of the Leases is in full force and effect. To Seller's knowledge, no commissions to any broker or leasing agent and payable by Seller are due or will become due pursuant to an agreement made by Seller on account of any of the Leases or upon extension or renewal of the original term thereof, whether or not pursuant to an option or other rights contained in the Lease. Except as set forth on Schedule 8.1(i)-1 attached hereto, Seller has not received or given any written notice from or to a Landlord that any default exists on the part of the Seller or the respective Landlord under any of the Leases, which default has not been cured. Schedule 8.1(i)-2 discloses all unapplied security and other deposits held by Landlords under the Leases. Seller has not made any advance payment of rent (other than for the current month) on account of any of the Leases. All written or oral leases, subleases, license agreements, concession agreements or tenancies or rights of possession affecting the Leased Properties entered into by Seller other than the Leases (collectively, the "SUBLEASES") shall be terminated effective at or prior to each Occupancy Delivery Date (except for those Subleases and consent agreements listed on Schedule 8.1(j), which shall not be terminated (the "APPROVED SUBLEASES")). All of the Leases are assignable by Seller at Closing as contemplated by this Agreement without the consent of any other party, except for the Required Consents. The square footage amounts for Seller's stores at the Properties set forth on Schedule 8.1(i)-3 do not include any of the space subleased under the Approved Subleases. (j) (i) Schedule 8.1(j) describes the Approved Subleases, including all amendments, modifications and revisions thereof (all of which are deemed included within the term "APPROVED SUBLEASES"), and, except for the Additional Approved Sublease Documents, Seller has made available to Purchaser true and complete copies of all the Approved Subleases, (ii) each of the Approved Subleases is in full force and effect, (iii) except as set forth in Schedule 8.1(j), Seller has not received or given any written notice from or to a subtenant that any default exists on the part of Seller or the subtenant under any of the Approved Subleases, which default has not been cured, and, to Seller's knowledge, no subtenant is currently in default in any material respect under any Approved Sublease, (v) to Seller's knowledge, no right or claim of setoff against rent exists or has been claimed in writing to exist by any subtenant under the Approved Subleases, (vi) Schedule 8.1(j) discloses all security and other deposits made by each subtenant under the Approved Subleases, (vii) Seller has not received any advance payment of rent (other than for the current month) under any of the Approved Subleases except as shown on Schedule 8.1(j), and (viii) the premises subleased pursuant to the Approved Subleases are located outside the walls of Seller's store operated on each Property. Notwithstanding the foregoing, with respect to those Approved Subleases comprising consent agreements and not actual Subleases, Seller's representations and warranties set forth above shall only be made to Seller's knowledge. Notwithstanding anything herein to the contrary, with respect to Seller's representations and warranties set forth in Section 8.1(i) and (j) of this Agreement, upon receipt by Purchaser of an estoppel letter (in the form described in this Agreement) from a Landlord or subtenant, as applicable, for any Property, Seller's representations and warranties with respect to the matters contained in such estoppel letter shall terminate and be of no further force or effect. - 32 - (k) Except as disclosed on Schedule 8.1(k) attached hereto and except as disclosed in any Phase 1 or Phase 2 reports or other due diligence information or materials received by Purchaser, Seller has received no written notice: (i) of the presence of any under or above-ground storage tanks on, in or under any Property; (ii) that there are any uncured violations of Environmental Laws that have been issued and are currently in effect with respect to (x) any Hazardous Materials or any asbestos-containing materials, lead-based paint, or mold contamination on, in or under any Property; or (y) the presence of any polychlorinated biphenyls or radioactive materials located on any Property. To Seller's knowledge, there is no ongoing environmental remediation or investigation being performed by or on behalf of Seller with respect to any of the Properties. For purposes of this Agreement, the phrase "ENVIRONMENTAL LAWS" shall mean any federal, state or local law, statute, ordinance, order, decree, rule or regulation and any common laws regarding health, safety, radioactive materials, or the environment, including, without limitation, the Comprehensive Environmental Response, Compensation and Liability Act of 1980, as amended, 42 U.S.C. Section 9601, et seq. ("CERCLA"); the Resource Conservation and Recovery Act, 42 U.S.C. Section 6901, et seq. ("RCRA"); the Toxic Substances Control Act, 15 U.S.C. Section 2601, et seq. ("TSCA"), the Occupational, Safety and Health Act, 29 U.S.C. Section 651, et seq. ("OSHA"), the Clean Air Act, 42 U.S.C. Section 7401, et seq. ("CAA"), the Federal Water Pollution Control Act, 33 U.S.C. Section 1251, et seq. ("FWPCA"), the Safe Drinking Water Act, 42 U.S.C. Section 3001, et seq. ("SDWA"), the Hazardous Materials Transportation Act, 49 U.S.C. Section 1802, et seq. ("HMTA") and the Emergency Planning and Community Right to Know Act, 42 U.S.C. Section 11001, et seq. ("EPCRA"), the Endangered Species Act of 1973, 16 U.S.C. Section 1531 et seq. ("ESA"), the Federal Insecticide, Fungicide and Rodenticide Act, 7 U.S.C. Section 136 et seq. ("FIFRA") and other comparable federal, state or local laws, each as amended, and all rules, regulations and guidance documents promulgated pursuant thereto or published thereunder. The phrase "HAZARDOUS MATERIALS" shall mean each element, compound, chemical mixture, contaminant, pollutant, material, waste or other substance which is defined, determined or identified as hazardous or toxic under Environmental Laws or the Release of which is regulated under Environmental Laws. The term "Release" shall mean the discharge, disposal, deposit, injection, dumping, spilling, leaking, leaching, placing, presence, pumping, pouring, emitting, emptying, escaping, or other release of any Hazardous Material. For purposes of the representations and warranties set forth in the foregoing clause (l) of Section 8.1 hereof, "HAZARDOUS MATERIALS" shall not include consumer products, office supplies, and cleaning and maintenance supplies stored and used in the ordinary course of operation of the Properties and in compliance with applicable Environmental Laws. (l) Seller has not received any written notice that any fact or condition exists which would result in the termination or discontinuation of any necessary utilities at any Property, including, without limitation, gas, electricity, telephone, water and sanitary and storm sewers. - 33 - (m) No broker, finder or investment banker is entitled to any brokerage, finder's or other fee or commission from Seller in connection with the transactions contemplated by this Agreement based upon arrangements made by Seller. (n) To Seller's knowledge, Schedule 8.1(n) (i) lists (by store number) those Leased Properties that are subject to ground leases (i.e., where the Leases are actually subleases by Seller which are subject to ground leases between the Landlord (or its predecessor in interest), as ground lessee, and the owner of the fee title to the Property, as ground lessor (collectively the "GROUND LEASES", and (ii) Seller has made available to Purchaser such Ground Lease documents (including amendments, modifications and revisions) in Seller's possession and control. To Seller's knowledge, each of the Ground Leases is in full force and effect. Seller has not received any written notice that any default exists on the part of the fee owner of the Property or the respective Landlord under any of the Ground Leases, which default has not been cured. Section 8.2. Purchaser's Representations and Warranties. Purchaser represents and warrants to Seller that the following are true, complete and correct as of the date of this Agreement and shall be true, complete and correct as of each Closing Date (with respect to the Properties being transferred and conveyed as of such Closing Date): (a) Purchaser is duly organized, validly existing and in good standing under the laws of the State of New York. Purchaser has all requisite corporate power and authority to execute and deliver this Agreement, to perform its obligations hereunder and to consummate the transactions contemplated hereby. The execution and delivery of this Agreement by Purchaser and the consummation by Purchaser of the transactions contemplated hereby have been duly authorized by all necessary corporate action and no other corporate proceedings on the part of Purchaser are necessary to authorize this Agreement or to consummate the transactions contemplated hereby. This Agreement has been duly executed and delivered by Purchaser and, assuming the due authorization, execution and delivery of this Agreement by Seller, constitutes the legal, valid and binding obligation of Purchaser, enforceable against Purchaser in accordance with its terms. (b) Neither the execution and delivery of this Agreement nor its performance by Purchaser, will conflict with or result in the breach of any contract, agreement, law, rule or regulation to which Purchaser is a party or by which Purchaser is bound. (c) No approvals, consents, authorizations, declarations, registrations or notices of or to any Governmental Entity that has not been received or made is required by or with respect to Purchaser in connection with the execution, delivery and performance of this Agreement or the consummation of the transactions contemplated hereby except for (i) the filing of any premerger notification and report forms and the expiration or termination of any waiting periods required by the HSR Act, (ii) any Pharmacy Approvals, and (iii) any other approvals, consents, authorizations, declarations, registrations or notices that, if not made or obtained, would not materially and adversely affect the ability of Purchaser to perform its obligations under this Agreement or any Related Agreement or to consummate the transactions contemplated hereby or thereby. - 34 - (d) Except for the fees payable to Morgan Stanley & Co. Incorporated (which shall be paid solely by Purchaser), no broker, finder or investment banker is entitled to any brokerage, finder's or other fee, commission or expense in connection with the transactions contemplated by this Agreement based upon arrangements made by or on behalf of Purchaser. (e) Purchaser presently intends to spend in the aggregate amongst all the Properties the sum of $150,000,000 to renovate the Properties (based on acquiring all 54 Properties). Section 8.3. Definitions of Knowledge and Notice. As used in Section 8.1 above, the term "SELLER'S KNOWLEDGE" (or variations thereof) means with respect to any matter, the actual knowledge of Jeff Stollenwerck, Vice President of Real Estate of Seller. As used in Section 8.1 above, the term "WRITTEN NOTICE RECEIVED BY", "RECEIPT OF WRITTEN NOTICE BY" or "WRITTEN NOTICE GIVEN BY" Seller (or variations thereof) means, with respect to any matter, any written notice received or given by the person described in the first sentence of this Section 8.3. Section 8.4. "As-Is" Condition. Purchaser confirms that prior to the Effective Date, it has inspected the Properties and the Leases, environmental reports, engineering reports, inspection reports and other reports, documents and agreements relating to, or prepared or received in connection with, Purchaser's due diligence investigation of the Transferred Assets, and except as expressly set forth in (a) this Agreement, including, without limitation, in Section 8.1 hereof, (b) the Related Agreements, and (c) the closing documents to be delivered by Seller pursuant to Section 4.2, the Properties shall be conveyed by Seller, and accepted by Purchaser, in their "as-is" condition as of the Effective Date, ordinary wear and tear between the Effective Date and the Closing Date excepted. Other than the express representations and warranties of Seller expressly set forth herein, Purchaser has not relied upon any oral or written information from Seller or its employees, affiliates, agents, consultants, advisors or representatives, nor has Purchaser relied on any representation or warranty, express or implied, regarding any of the Owned Properties or the Leased Properties, including, without limitation, any representation or warranty with respect to (i) the physical condition of the Property, including the physical condition of any improvement comprising all or a part of an Owned Property or a Leased Property, (ii) the compliance or non-compliance with any laws, codes, ordinances, rules or regulations of any Governmental Entity (including, without limitation, Environmental Laws), (iii) the presence or alleged presence of any Hazardous Substances at, within, under or generated by or from any Property, (iv) the current or future use of an Owned Property, or a Leased Property, including, but not limited to, any Property's use for commercial, retail, industrial or other purposes. Except as expressly set forth herein (including in Section 8.1 with regard to the representations and warranties of Seller as to the Leases), Purchaser further acknowledges that all materials which have been provided by or on behalf of Seller with respect to the Properties have been provided without any warranty or representation, expressed or implied, as to their content, suitability for any purpose, accuracy, truthfulness or completeness, and Purchaser shall not have any recourse against Seller in the event of any errors therein or omissions therefrom. Purchaser is acquiring the Properties based solely on its own independent investigation and inspection of the Properties and not in reliance on any information provided by Seller, except for the representations expressly set forth herein. Purchaser expressly disclaims any intent to rely on any such materials provided to it by Seller in connection with its due - 35 - diligence and agrees that it shall rely solely on its own independently developed or verified information, except for the representations of Seller expressly set forth herein. In amplification, and not in limitation, of the foregoing, with respect to any Properties conveyed by Seller to Purchaser hereunder, Purchaser shall acquire such Properties subject to, and without recourse to Seller (except for any violation or breach by Purchaser of any representation, warranty or covenant set forth in this Agreement that survives the Closing, and also subject to the provisions of Section 11.1(d) with respect to Third Party Environmental Claims) with respect to, any matters or conditions described in clauses (i) through (iv) of the second sentence of this Section 8.4, and notwithstanding anything to the contrary in Sections 1.3 and 1.4 hereof, none of such matters or conditions shall constitute Excluded Liabilities or Assumed Liabilities hereunder. The provisions of this Section 8.4 shall survive Closing. ARTICLE IX INVESTIGATION OF EACH PROPERTY Section 9.1. Access to Properties. From the Effective Date through the applicable Closing for each Property, Purchaser and its employees, agents, engineers, surveyors, appraisers, and other representatives (collectively, "PURCHASER'S REPRESENTATIVES"), shall have the right to enter upon the Properties and to inspect the same subject to and in accordance with that certain letter agreement between the parties dated March 16, 2004, as amended by a First Amendment to such letter agreement dated the date hereof (as so amended, the "CONFIDENTIALITY AND ACCESS AGREEMENT"). ARTICLE X CLOSING CONDITIONS Section 10.1. Purchaser's Closing Conditions. The following conditions shall be satisfied at Closing with respect to each Property and other Transferred Asset being conveyed at a Closing: (a) Conditions to Obligations of Purchaser. The obligations of Purchaser to consummate the acquisition of a Property and the related Transferred Assets at a Closing shall be subject to the fulfillment, at or prior to the Closing, of each of the following conditions with respect to such Property and other Transferred Assets (the "PURCHASER CLOSING CONDITIONS"), any or all of which may be waived in writing by Purchaser in whole or in part, to the extent permitted by Applicable Law: (i) the representations and warranties of Seller set forth in this Agreement with respect to such Transferred Assets shall be true, correct and complete in all material respects (other than to the extent already qualified by materiality, in which case each shall be true, correct and complete in all respects) as if made by Seller as of such Closing Date; (ii) Seller shall have performed and satisfied in all material respects each material obligation, term and condition hereunder to be performed and - 36 - satisfied by Seller prior to such Closing with respect to the Transferred Assets being conveyed at such Closing, including, without limitation, delivery of all closing documents referenced in Section 4.2(a) of this Agreement or otherwise required hereunder; (iii) with respect to any Property being transferred and assigned at such Closing that is listed on Schedule 5.2(c) hereto, Purchaser shall have received a Required Consent, executed and delivered by the Landlord or other third party, as applicable; with respect to each Lease being assigned and conveyed at such Closing, (x) an estoppel letter from the Landlord or a Seller Tenant Estoppel in accordance with Section 5.2(d) hereof, and (y) an SNDA in accordance with Section 5.2(d) hereof from (I) the ground lessor with respect to Store No. 7784 (Vega Alta, Puerto Rico) and (II) from mortgage lenders with respect to Store Nos. 7446 (Cayey, Puerto Rico) and 7427 (Londonderry, New Hampshire); and with respect to each Approved Sublease being assigned at such Closing an estoppel letter from the subtenant or a Seller Subtenant Estoppel in accordance with Section 5.2(d) hereof; (iv) at Closing, Seller shall convey to Purchaser (or, to the extent permitted hereunder, Purchaser's designee) fee title or leasehold title, as applicable, to the Property as required by this Agreement, subject only to the Permitted Exceptions (as evidenced by an updated title commitment for such Property ordered by Purchaser and issued by the Title Company showing no title exceptions other than the Permitted Exceptions); (v) at the time of Closing, each Property shall be in substantially the same condition and repair as existed on the Effective Date, ordinary wear and tear and damage from an event of casualty or condemnation (subject to Article VII hereof) excepted; (vi) no Non-Seller Violation affecting the Property which has not been cured shall have been issued by any Governmental Entity with respect to which the estimated cost of correcting or curing such Non-Seller Violation (as estimated by an independent architect or engineer designated by Purchaser and approved by Seller) shall exceed five percent (5%) of the allocated Purchase Price of such Property; (vii) as of the applicable Closing Date, there shall not be any currently effective injunction prohibiting the closing of the transfer of the applicable Property; (viii) any applicable waiting periods under the HSR Act with respect to the transactions contemplated by this Agreement shall have expired or been terminated; and - 37 - (ix) None of the Additional Approved Sublease Documents provided to Purchaser pursuant to Section 5.5 hereof shall prohibit Purchaser from operating a Sears brand store at the Property, including without limitation the sale of consumable and transactional merchandise. Purchaser shall promptly review any Additional Approved Sublease Documents provided by Seller and shall notify Seller in writing, within five (5) Business Days of receipt of any Additional Approved Sublease Documents, whether such documents, in Purchaser's reasonable judgment, prohibit Purchaser from operating a Sears brand store at the Property, including without limitation the sale of consumable and transactional merchandise. Section 10.2. Seller's Closing Conditions. The obligations of Seller to consummate the sale of a Property and the related Transferred Assets at a Closing shall be subject to the fulfillment, at or prior to the applicable Closing, of each of the following conditions with respect to such Property and other Transferred Assets (the "SELLER CLOSING CONDITIONS"), any or all of which may be waived by Seller in whole or in part, to the extent permitted by Applicable Law: (i) Purchaser shall have paid the portion of the Purchase Price due to Seller pursuant to Article III with respect to the applicable Property and other Transferred Assets; (ii) Purchaser shall have performed and satisfied in all material respects each material obligation, term and condition to be performed and satisfied by Purchaser under this Agreement with respect to the Property and other Transferred Assets, including, without limitation, delivery of all closing documents referenced in Section 4.2(b) of this Agreement or otherwise required hereunder; (iii) Each representation or warranty of Purchaser set forth in this Agreement shall be true and correct in all material respects (other than to the extent already qualified by materiality, in which case each shall be true, correct and complete in all respects) as if made by Purchaser as of such Closing Date; (iv) as of the applicable Closing Date, there shall not be any currently effective injunction prohibiting the closing of the transfer of the applicable Property; (v) any applicable waiting periods under the HSR Act with respect to the transactions contemplated by this Agreement shall have expired or been terminated; and (vi) with respect to any Property being transferred and assigned at such Closing that is listed on Schedule 5.2(c) and for which a Required Consent is required, Seller shall have received such Required Consent, executed and delivered by the Landlord or other third party, as applicable; provided, however, that if Purchaser has elected to waive the receipt of - 38 - such Required Consent as a Purchaser Closing Condition and agrees to indemnify, defend and hold harmless Seller from and against all Losses (as defined below) resulting from Seller assigning such Lease to Purchaser without such Required Consent, Seller shall waive this Seller Closing Condition and proceed to the Closing for such Property. ARTICLE XI INDEMNIFICATION Section 11.1. Indemnification. (a) Indemnification by Seller. Subject to the provisions of this Article XI, from and after the applicable Closing, Seller agrees to indemnify and hold harmless Purchaser and its officers, directors, employees and affiliates (collectively, the "PURCHASER INDEMNIFIED PARTIES"), against any and all actual loss, damage, liability, cost and expense (including, without limitation, reasonable attorneys' fees) (collectively, "LOSSES") incurred or suffered by the Purchaser Indemnified Parties, or any of them, to the extent arising or resulting from (i) the breach of any representation or warranty made by Seller in this Agreement, (ii) the breach by Seller of any covenant set forth in Sections 5.1(b), (c), (e), (f), (j), (m) and (n) hereof, which breach is not discovered by Purchaser until after Closing, (iii) the breach by Seller of any covenant set forth in Article II hereof, (iv) any Excluded Liability, other than Third Party Environmental Claims, as hereinafter defined, and (v) any material misrepresentation by Seller contained in a Seller Subtenant Estoppel or a Seller Tenant Estoppel. (b) Indemnification by Purchaser. Subject to the provisions of this Article XI from and after the applicable Closing, Purchaser agrees to indemnify and hold harmless Seller and its officers, directors, employees and affiliates (the "SELLER INDEMNIFIED PARTIES" and together with the Purchaser Indemnified Parties, the "INDEMNIFIED PERSONS"), against any and all Losses incurred or suffered by the Seller Indemnified Parties, or any of them, to the extent arising or resulting from (i) the breach of any representation or warranty made by Purchaser in this Agreement and (ii) any Assumed Liability, other than Third Party Environmental Claims. (c) As used herein, the term "THIRD PARTY ENVIRONMENTAL CLAIMS" shall mean shall mean all suits, actions, claims or proceedings of or by Governmental Entities, Landlords or other third parties with respect to (i) the presence or alleged presence of Hazardous Materials at, in, under, or generated by or from any Property, (ii) any Release at or from any Property, or (iii) any alleged or actual non-compliance with any Environmental Laws with respect to any Property. (d) Nothing in this Section 11.1 or any other provision of this Agreement shall preclude either Seller or Purchaser from exercising any rights or remedies available against each other or any third parties under any Applicable Laws, including, without limitation, Environmental Laws, common law or in equity with respect to Third Party Environmental Claims. Section 11.2. Proceedings Involving Third Parties. The rights and obligations of Purchaser and Seller in connection with their respective indemnities pursuant to Section 11.1 - 39 - hereunder resulting from any claim or other assertion of liability by a third party (a "THIRD PARTY PROCEEDING") shall be subject to the following terms and conditions: (a) The Indemnified Person shall give prompt written notice of such Third Party Proceeding to the party from whom indemnification is sought (the "INDEMNIFYING PERSON"), but the failure to give such notice or a delay in giving such notice shall not affect the Indemnified Person's right to indemnification or the Indemnifying Person's obligation to indemnify as set forth in this Agreement, except to the extent the Indemnifying Person's ability to remedy, contest, defend or settle with respect to such Third Party Proceeding is actually prejudiced thereby. Such written notice shall describe in reasonable detail the facts constituting the basis for such Third Party Proceeding and the amount of the potential Loss, in each case to the extent known. Within twenty (20) days after delivery of such notification, the Indemnifying Person may, upon written notice thereof to the Indemnified Person, elect to assume control of the Third Party Proceeding with counsel reasonably satisfactory to the Indemnified Person. Notwithstanding the foregoing, the Indemnified Person shall retain control of such Third Party Proceeding if (i) the Indemnifying Person elects not to assume control, (ii) the Indemnifying Person shall fail to undertake to defend such Third Party Proceeding, or diligently pursue or maintain such defense, within a reasonable time after receipt of notice thereof, (iii) the Indemnified Person reasonably concludes that the Indemnifying Person and Indemnified Person have conflicting interests with respect to such Third Party Proceeding which may materially and adversely affect the Indemnified Person, or (iv) the Third Party Proceeding involves a claim for injunctive, equitable or other non-monetary relief. (b) The party not controlling such Third Party Proceeding (the "NON-CONTROLLING PARTY") may participate therein at its own expense. The party controlling such Third Party Proceeding (the "CONTROLLING PARTY") shall keep the Non-controlling Party advised of the status of such Third Party Proceeding and shall consider in good faith recommendations made by the Non-controlling Party with respect thereto. The Non-controlling Party shall promptly furnish the Controlling Party with such non-privileged information as it may have with respect to such Third Party Proceeding (including copies of any summons, complaint or other pleading that may have been served on such party and any written claim, demand, invoice, billing or other document evidencing or asserting the same) and shall otherwise cooperate with and assist the Controlling Party with respect to such Third Party Proceeding. The Indemnifying Person shall not agree to any settlement of, or the entry of any judgment arising from, any such Third Party Proceeding without the prior written consent of the Indemnified Person, which shall not be unreasonably withheld, conditioned or delayed; provided that the consent of the Indemnified Person shall not be required if (i) the Indemnifying Person agrees in writing to pay all amounts payable pursuant to such settlement or judgment, and (ii) the proposed settlement of such Third Party Proceeding (x) includes as an unconditional term thereof a complete and irrevocable release of the Indemnified Person from all liability with respect to such Third Party Proceeding, (y) provides for no injunctive, equitable or other non-monetary relief against the Indemnified Person, and (z) has no other adverse effect on the Indemnified Person. The Indemnified Person shall not agree to any settlement of, or the entry of any judgment arising from (and the - 40 - Indemnifying Person shall have no indemnification obligations with respect to), any such Third Party Proceeding without the prior written consent of the Indemnifying Person, which shall not be unreasonably withheld, conditioned or delayed. Section 11.3. Objections to Claims for Indemnification; Resolution by the Parties. An Indemnifying Person may make a written objection ("OBJECTION") to any claim for indemnification, which Objection shall state in reasonable detail the basis therefor. The Objection shall be delivered to the Indemnified Person within thirty (30) days after receipt by the Indemnifying Person of notice of a claim for indemnification from an Indemnified Person. The Indemnifying Person and the Indemnified Person shall attempt in good faith to resolve any claim for indemnification to which an Objection is made. If the Indemnifying Person and the Indemnified Person are unable to resolve a claim for indemnification to which an Objection has been made within thirty (30) days of receiving such Objection (as such period may be extended by mutual agreement between Purchaser and Seller), either the Indemnifying Person or the Indemnified Person shall serve the other with a written demand for arbitration within forty-five (45) days of the expiration of such thirty (30) day period. Any such arbitration shall be held in New York City and shall be conducted before a single arbitrator mutually agreeable to Purchaser and Seller and in accordance with the Commercial Arbitration Rules of the American Arbitration Association. In the event that within thirty (30) days after submission of any dispute to arbitration Purchaser and Seller cannot mutually agree on one arbitrator, Purchaser and Seller shall each select one arbitrator, and the two arbitrators so selected shall select a third arbitrator. The decision of the arbitrator or, if applicable, the majority of the three arbitrators regarding any claim for indemnification to which an Objection has been made shall be binding and conclusive. Such decision shall be written and shall be supported by written findings of fact and conclusions, which shall set forth the award, judgment, decree or order awarded by the arbitrator. The parties agree to complete such arbitration as expeditiously as reasonably practicable. Section 11.4. Treatment of Indemnification Claims. All indemnification payments made under this Agreement shall be treated by the parties as an adjustment to the Purchase Price. Section 11.5. Exclusive Remedy. The parties hereby acknowledge and agree that, from and after the Closing Date with respect to an applicable Property, the exclusive remedy of the parties hereto with respect to any Losses described in Sections 11.1(a) and 11.1(b) relating to such Property shall be pursuant to indemnification under this Article XI; provided, however, that the foregoing shall not limit the remedies of the parties in the event of any breach or default under any Take-Back Lease. Section 11.6. Survival. All representations and warranties set forth in Article II and Article VIII of this Agreement, and the indemnification obligations set forth in Sections 11.1(a)(i), and 11.1(b)(i), shall survive the Closing and shall expire and terminate on the date that is twelve (12) months after the Second Occupancy Delivery Date. The indemnification obligations set forth in Sections 11.1(a)(ii), (iv) and (v) and 11.1(b)(ii) shall survive the Closing Date without limitation except as provided under Applicable Law. The indemnification obligations set forth in Section 11.1(a)(iii) with respect to any Pharmacy Assets shall survive the Closing Date for the related Property and shall expire and terminate at the later to occur of (1) the Occupancy Delivery Date for the related Property and (2) the date that is 30 days after the transfer of such Pharmacy Assets. Notwithstanding anything herein to the contrary, each - 41 - representation or warranty that is the subject of one or more claims asserted in writing prior to the expiration of the twelve (12) month period set forth above shall survive with respect to the related claim or claims until the final resolution thereof. Section 11.7. Limitation on Indemnification. Notwithstanding anything to the contrary set forth in Section 11.1(a) of this Agreement or elsewhere in this Agreement, (a) Purchaser hereby expressly waives, relinquishes and releases any right or remedy available to it at law, in equity or under this Agreement, in the event the Closing occurs, to make a claim against Seller for Losses that Purchaser may incur, or to rescind this Agreement and the transactions contemplated hereby, as the result of any of Seller's representations or warranties in Articles II or VIII hereof or in any Seller Subtenant Estoppel or Seller Tenant Estoppel being untrue, inaccurate or incorrect in any material respect if Purchaser has actual knowledge that such representation or warranty was untrue, inaccurate or incorrect at the time of the Closing and Purchaser nevertheless proceeds with the Closing hereunder, (b) Seller's liability for the breach of any representations or warranties of Seller contained in Articles II or VIII or pursuant to Section 11.1(a)(i) of this Agreement, shall be limited to claims in excess of $1,500,000 in the aggregate; upon reaching such claims which exceed $1,500,000 in the aggregate, Purchaser may pursue such claims against Seller for Losses resulting from Seller's breach of any representations and warranties under this Agreement (including the first $1,500,000 of such claims) and (c) Seller's aggregate liability for all claims arising out of any breach of such representations or warranties shall not exceed $62,100,000, except that there shall be no cap on Seller's liability for such breaches of the representations or warranties set forth in Sections 8.1(a), (b), or (c) hereof or in any Seller Tenant Estoppel or Seller Subtenant Estoppel. As used in this paragraph, the term "actual knowledge" of Purchaser shall mean the actual knowledge of Tony Will with no duty of inquiry or investigation. Notwithstanding anything to the contrary set forth in this Agreement, (a) Seller hereby expressly waives, relinquishes and releases any right or remedy available to it at law, in equity or under this Agreement, in the event the Closing occurs, to make a claim against Purchaser for Losses that Seller may incur, or to rescind this Agreement and the transactions contemplated hereby, as the result of any of Purchaser's representations or warranties in Section 11.1(b)(i) being untrue, inaccurate or incorrect if Seller has actual knowledge (as defined in Section 8.3 hereof) that such representation or warranty was untrue, inaccurate or incorrect at the time of the Closing and Seller nevertheless proceeds with the Closing hereunder, and (b) Purchaser's liability for breach of any representations or warranties of Purchaser contained in Article VIII hereof or pursuant to Section 11.1(b)(i) shall be limited to claims in excess of $1,500,000 in the aggregate. Upon reaching such claims which exceed $1,500,000 in the aggregate, Seller may pursue such claims against Purchaser for Losses resulting from Purchaser's breach of any representations and warranties under this Agreement (including the first $1,500,000 of such claims). Purchaser's aggregate liability for all claims arising out of any breach of such representations or warranties shall not exceed $62,100,000, except that there shall be no cap on Purchaser's liability for breaches of the representations or warranties set forth in Sections 8.2(a), (b), or (c) hereof. - 42 - ARTICLE XII DEFAULTS AND REMEDIES Section 12.1. Defaults and Remedies. (a) Defaults and Remedies Which Relate to Five (5) Or Less Properties. If Purchaser shall default in the performance of its material obligations under this Agreement, which default relates solely to five (5) or less Properties (such Properties relating to the default of either Seller or Purchaser shall be referred to herein as the "DEFAULTING PROPERTIES"), and if such default is not cured by Purchaser within fifteen (15) Business Days after written notice thereof from Seller to Purchaser, then Seller shall have the right, at Seller's option, to terminate this Agreement solely with respect to the Defaulting Properties (in which event clauses (ii) through (v) of the Property Termination Procedure shall apply), and (i) sue Purchaser for actual damages suffered by Seller as a result of such default which relates to the Defaulting Properties (in which event the Deposit allocable to the Defaulting Properties shall continue to be held by Escrow Agent pursuant to Article XIV hereof until such claim for damages is adjudicated and paid) or (ii) retain the Deposit allocable to the Defaulting Properties as liquidated damages. If Seller shall default in the performance of its material obligations under this Agreement, which default relates to five (5) or less Properties, and if such default is not cured by Seller within fifteen (15) Business Days after written notice thereof from Purchaser to Seller, then Purchaser shall have the right, at Purchaser's option, to (x) terminate this Agreement solely with respect to the Defaulting Properties and receive the Deposit allocable to the Defaulting Properties from the Escrow Agent (in which event the Property Termination Procedure shall apply), and Purchaser may sue Seller for actual damages suffered by Purchaser as a result of such default which relates to the Defaulting Properties, or (y) institute a suit against Seller for specific performance of Seller's obligations under this Agreement with respect to the Defaulting Properties. (b) Defaults and Remedies Which Relate to More Than Five (5) Properties. If Purchaser shall default in the performance of its material obligations under this Agreement, which default relates to more than five (5) Properties, and if such default is not cured by Purchaser within fifteen (15) Business Days after written notice thereof from Seller to Purchaser, then Seller shall have the right, at Seller's option, to terminate this Agreement and (i) sue Purchaser for actual damages as a result of such default (in which event the Deposit shall continue to be held by Escrow Agent pursuant to Article XIV hereof until such claim for damages is adjudicated and paid) or (ii) to retain the Deposit (or the remaining portion thereof than being held by the Escrow Agent) as liquidated damages. If Seller shall default in the performance of its material obligations under this Agreement, which default relates to more than five (5) Properties, and such default is not cured by Seller within fifteen (15) Business Days after written notice thereof from Purchaser to Seller, then Purchaser shall have the right, at Purchaser's option, to (x) terminate this Agreement and receive the Deposit (or the remaining portion thereof then being held by the Escrow Agent) from the Escrow Agent, and Purchaser may sue Seller for actual damages suffered by Purchaser as a result of such default, or (y) institute a suit against Seller for specific performance of Seller's obligations under this Agreement. - 43 - ARTICLE XIIII MISCELLANEOUS Section 13.1. Assignment. Except as set forth in Section 5.3 hereof, this Agreement may not be assigned by operation of law or otherwise without the express written consent of Purchaser, in the case of Seller, or Seller, in the case of Purchaser, which consent in each such case may be granted or withheld in the sole discretion of each such party. Notwithstanding the foregoing, Purchaser may, upon written notice to Seller given at least five (5) Business Days prior to the applicable Closing Date, designate one or more of its direct or indirect wholly owned subsidiaries (a "PURCHASER SUBSIDIARY") to take title to any Transferred Asset at the Closing (in lieu of Purchaser), provided that any such transfer and assignment of a Lease to a Purchaser Subsidiary shall either (a) not require the consent or approval of the Landlord under the Lease or of any other third party, or (b) be in accordance with, and be permitted under, the terms of any Required Consent obtained with respect to the transfer and assignment of such Lease. Section 13.2. Entire Agreement. This Agreement constitutes the entire agreement between Seller and Purchaser with respect to the subject matter hereof and shall not be modified or amended except in a written document signed by Seller and Purchaser. Any prior agreement or understanding between Seller and Purchaser concerning the subject matter hereof is hereby rendered null and void, other than the Confidentiality and Access Agreement, which remains in full force and effect. Section 13.3. Time is of the Essence. Time is of the essence with respect to the matters covered by this Agreement. In the computation of any period of time provided for in this Agreement or by law, the day of the act or event from which the period of time runs shall be excluded, and the last day of such period shall be included, unless it is not a Business Day, in which case the period shall be deemed to run until the end of the next Business Day. Section 13.4. Further Assurances. Each party will promptly execute and deliver or cause to be executed and delivered all such other and further instruments, documents or assurances, and promptly do or cause to be done all such other and further things as may be necessary and reasonably required in order to further and more fully vest in the other party, all rights, interests, powers or benefits intended to be conferred upon it by this Agreement. Section 13.5. Construction. The parties acknowledge that each party and its counsel have reviewed and revised this Agreement, and that any rule of construction to the effect that any ambiguities are to be resolved against the drafting party shall not be employed in the interpretation of this Agreement or any amendments or schedules hereto. Section 13.6. Legal Fees. In the event of a default by either party of its obligations under this Agreement, the prevailing party in any action or proceeding in any court in connection therewith shall be entitled to recover from such other party its costs and expenses, including, without limitation, reasonable legal fees and associated court costs. - 44 - Section 13.7. Notices. All notices, requests, demands or other communications required or permitted under this Agreement shall be in writing and delivered personally, by facsimile transmission, or by overnight courier (such as Federal Express), addressed as follows: If to Seller: Kmart Corporation 3100 West Big Beaver Road Troy, Michigan 48084 Attn: Harold W. Lueken, Esq. Senior Vice President and General Counsel Fax: (248) 614-0951 With a copy to: Wachtell, Lipton, Rosen & Katz 51 West 52nd Street New York, New York 10019 Attn: Stephen G. Gellman, Esq. Scott K. Charles, Esq. Fax: (212) 403-2000 And a copy to: Wachtell, Lipton, Rosen & Katz 51 West 52nd Street New York, New York 10019 Attn: Chetan Gulati Fax: (212) 403-2000 If to Purchaser: Sears, Roebuck and Co. 3333 Beverly Road Hoffman Estates, Illinois 60192-3322 Attn: General Counsel Fax: (847) 286-6544 - 45 - With a copy to: Jenner & Block LLP One IBM Plaza Chicago, Illinois 60611 Attn: Donald I. Resnick, Esq. Fax: (312) 840-7656 Section 13.8. Governing Law. This Agreement shall be governed and interpreted in accordance with the laws of the State of New York, without regard to principles of conflicts of law. Section 13.9. Counterparts. This Agreement may be executed in any number of identical counterparts, any or all of which may contain the signatures of fewer than all of the parties but all of which shall be taken together as a single instrument. Section 13.10. Invalid Provisions. If any provision of this Agreement is held to be illegal, invalid, or unenforceable under any present or future law, rule, or regulation, such provision shall be fully severable and this Agreement shall be construed and enforced as if such illegal, invalid, or unenforceable provision had never comprised a part hereof. The remaining provisions of this Agreement shall remain in full force and effect, and shall not be affected by the illegal, invalid or unenforceable provision or by its severance herefrom. Furthermore, in lieu of such illegal, invalid, or unenforceable provision, there shall be added automatically as a part of this Agreement a legal, valid, and enforceable provision as similar in terms to such illegal, invalid, or unenforceable provision as may be possible. Section 13.11. Headings, Gender, Etc. The headings used in this Agreement have been inserted for convenience only and do not constitute matter to be construed or interpreted in connection with this Agreement. Unless the context of this Agreement otherwise requires, (a) words of any gender shall be deemed to include each other gender, (b) words using the singular or plural number shall also include the plural or singular number, respectively, (c) references to "hereof," "herein," "hereby" and similar terms shall refer to this entire Agreement, and (d) the term "including," as used herein shall mean "including, without limitation," unless the context otherwise requires. The language used in this Agreement shall be deemed to be the language chosen by the parties hereto to express their mutual intent and no rule of strict construction shall be applied against any party. Section 13.12. No Third Party Beneficiaries. Except with respect to the Purchaser Indemnified Parties and Seller Indemnified Parties, nothing contained herein, express or implied, is intended to confer upon any person other than the parties hereto and their respective successors and permitted assigns any rights or remedies under or by reason of this Agreement. - 46 - ARTICLE XIV ESCROW AGENT Section 14.1. Duties and Obligations of Escrow Agent. (a) Upon receipt by Escrow Agent of the Deposit (which term, as used herein, shall refer either to the entire Deposit or, following the Initial Closing, the remaining portion of the Deposit then held by the Escrow Agent), Escrow Agent shall cause the same to be deposited into an interest bearing account selected by Escrow Agent, it being agreed that Escrow Agent shall not be liable for (y) any loss of such investment (unless due to Escrow Agent's gross negligence or willful misconduct) or (z) any failure to attain a favorable rate of return on such investment. Escrow Agent shall deliver the Deposit (or applicable portion thereof) to Seller or to Purchaser, as the case may be, under the following conditions: (i) The portion of the Deposit applicable to the Properties being conveyed at such Closing shall be delivered to Seller at the Closing upon receipt by Escrow Agent of a statement duly executed by Seller and Purchaser authorizing such portion of the Deposit to be released. (ii) The Deposit (or applicable portion thereof) shall be delivered to Seller within ten (10) Business Days following receipt by Escrow Agent of written demand therefor from Seller (a copy of which shall be simultaneously sent by Seller to Purchaser) stating that Purchaser has defaulted in the performance of its material obligations under this Agreement, and specifying the Section of this Agreement that entitles Seller to be paid the Deposit (or portion thereof), if Purchaser shall not have given notice of objection in accordance with the provisions set forth below; or (iii) The Deposit (or applicable portion thereof) shall be delivered to Purchaser within ten (10) Business Days following receipt by Escrow Agent of written demand therefor from Purchaser (a copy of which shall be simultaneously sent by Purchaser to Seller) stating that Seller has defaulted in the performance of its material obligations under this Agreement or that this Agreement was terminated under circumstances entitling Purchaser to the return of the Deposit (or portion thereof), and specifying the Section of this Agreement that entitles Purchaser to the return of the Deposit (or portion thereof), if Seller shall not have given written notice of objection in accordance with the provisions set forth below; or (iv) The Deposit shall be delivered to Purchaser or Seller as directed by joint written instructions of Seller and Purchaser. (b) Upon the delivery of a written demand for the Deposit (or applicable portion thereof) by Seller or Purchaser, pursuant to subsection (ii) or (iii) above, the other party shall have the right to object to the delivery of the Deposit (or applicable portion thereof), by giving notice of such objection to Escrow Agent (with a copy to the party demanding the Deposit (or applicable portion thereof)) at any time within seven (7) days after such party's receipt of notice of the demand for the Deposit (or applicable portion thereof), but not thereafter. Such notice shall set forth the basis for objecting to the delivery of the Deposit. If Escrow Agent shall have timely received such notice of objection, Escrow Agent shall continue to hold the Deposit until - 47 - (x) Escrow Agent receives a notice jointly signed by Seller and Purchaser directing the disbursement of the Deposit (or applicable portion thereof), in which case Escrow Agent shall then disburse the Deposit (or applicable portion thereof) in accordance with said direction, or (y) litigation is commenced between Seller and Purchaser, in which case Escrow Agent shall deposit the Deposit (or applicable portion thereof) with the clerk of the court in which said litigation is pending, or (z) Escrow Agent takes such affirmative steps as Escrow Agent may elect, at Escrow Agent's sole option, in order to terminate Escrow Agent's duties hereunder, including but not limited to depositing the Deposit (or applicable portion thereof) in court and commencing an action for interpleader, the costs thereof to be borne by whichever of Seller or Purchaser is the losing party in such interpleader action. (c) Escrow Agent may rely and act upon any instrument or other writing reasonably believed by Escrow Agent to be genuine and purporting to be signed and presented by any person or persons purporting to have authority to act on behalf of Seller or Purchaser, as the case may be, and shall not be liable in connection with the performance of any duties imposed upon Escrow Agent by the provisions of this Agreement, except for Escrow Agent's own gross negligence or willful misconduct. Escrow Agent shall have no duties or responsibilities except those set forth herein. Escrow Agent shall not be bound by any modification, cancellation or rescission of this Agreement unless the same is in writing and signed by Purchaser and Seller, and, if Escrow Agent's duties hereunder are affected, unless Escrow Agent shall have given prior written consent thereto. Escrow Agent shall be reimbursed by Seller and Purchaser for any expenses (including reasonable legal fees and disbursements of outside counsel), including all of Escrow Agent's fees and expenses with respect to any interpleader action incurred in connection with this Agreement, and such liability shall be joint and several; provided, however, that, as between Purchaser and Seller, the prevailing party in any dispute over the Deposit shall be entitled to reimbursement by the losing party of any such expenses paid to Escrow Agent. In the event that Escrow Agent shall be uncertain as to Escrow Agent's duties or rights hereunder, or shall receive instructions from Purchaser or Seller that, in Escrow Agent's opinion, are in conflict with any of the provisions hereof, Escrow Agent shall be entitled to hold and apply the Deposit, and may decline to take any other action. After delivery of the Deposit (or applicable portion thereof) in accordance herewith, Escrow Agent shall have no further liability or obligation of any kind whatsoever. (d) Escrow Agent shall have the right at any time to resign as Escrow Agent upon ten (10) Business Days' prior notice to Seller and Purchaser. Seller and Purchaser shall jointly select a successor Escrow Agent and shall notify Escrow Agent of the name and address of such successor Escrow Agent within ten (10) Business Days after receipt of notice of Escrow Agent of its intent to resign. If Escrow Agent has not received notice of the name and address of such successor Escrow Agent within such period, Escrow Agent shall have the right to select on behalf of Seller and Purchaser a bank or trust company to act as successor Escrow Agent hereunder. At any time after the expiration of such ten (10) Business Day period, Escrow Agent shall have the right to deliver the Deposit to any successor Escrow Agent selected hereunder, provided such successor Escrow Agent shall execute and deliver to Seller and Purchaser an assumption agreement whereby it assumes all of Escrow Agent's obligations hereunder. Upon the delivery of all such amounts and such assumption agreement, the successor Escrow Agent shall become the Escrow Agent for all purposes hereunder and shall have all of the rights and obligations of - 48 - the Escrow Agent hereunder, and the resigning Escrow Agent shall have no further responsibilities or obligations hereunder. (e) Seller and Purchaser shall jointly and severally indemnify and hold harmless Escrow Agent from and against any and all costs, losses, claims, damages, liabilities and expenses, including reasonable costs of investigation, court costs, attorneys' fees and disbursements, which may be imposed upon or incurred by Escrow Agent in connection with its acceptance of, or appointment as, Escrow Agent hereunder, or in connection with the performance of its duties hereunder (other than due to the gross negligence or willful misconduct of Escrow Agent), including, without limitation, any litigation arising out of this Agreement or involving the subject matter hereof. (f) The interest earned on the Deposit shall be paid to Purchaser and Purchaser shall pay any income taxes thereon. [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK] - 49 - IN WITNESS WHEREOF, the parties have executed this Agreement as of the date first written above. SEARS, ROEBUCK AND CO., a New York corporation By: ____________________________________ Name: __________________________________ Its: ___________________________________ KMART CORPORATION, a Michigan corporation, on behalf of itself and all Seller Subsidiaries owning any portion of the Transferred Assets and Pharmacy Assets By: ____________________________________ Name: __________________________________ Its: ___________________________________ The undersigned hereby executes this Agreement as Escrow Agent, and agrees to be bound by the terms and conditions of this Agreement that are applicable to the Escrow Agent: FIRST AMERICAN TITLE INSURANCE COMPANY, as Escrow Agent By: ____________________________________ Name: __________________________________ Its: ___________________________________ - 50 - EX-10.3 4 k86812exv10w3.txt LETTER OF CREDIT AGREEMENT EXHIBIT 10.3 LETTER OF CREDIT AGREEMENT dated as of August 13, 2004 among KMART CORPORATION BANK OF AMERICA, NATIONAL ASSOCIATION FLEET NATIONAL BANK as Issuing Banks ---------------------------
TABLE OF CONTENTS PAGE 1. Definitions.................................................................................................1 1.01 Defined Terms.........................................................................................1 1.02 Terms Generally.......................................................................................7 2. Letters of Credit...........................................................................................8 2.01 Issuance of Letters of Credit.........................................................................8 2.02 Reimbursement of Drawings.............................................................................8 2.03 Notice of Drawings....................................................................................8 2.04 Interest on Overdue Amounts...........................................................................8 2.05 Procedures for Issuance...............................................................................9 2.06 Unconditional Obligations.............................................................................9 2.07 Unused Fee...........................................................................................10 2.08 Letter of Credit Fees................................................................................10 2.09 Closing Fees.........................................................................................11 2.10 Nature of Fees.......................................................................................11 2.11 Termination or Reduction of Commitments..............................................................11 2.12 Maintenance of Loan Account; Statements of Account...................................................11 2.13 Increased Costs......................................................................................11 2.14 Payments.............................................................................................12 2.15 Taxes................................................................................................13 2.16 Transfer to Existing Financing Agreement.............................................................14 3. Representations and Warranties.............................................................................14 3.01 Organization; Powers.................................................................................14 3.02 Authorization; Enforceability........................................................................14 3.03 Governmental Approvals; No Conflicts.................................................................15 3.04 Litigation...........................................................................................15 3.05 No Default...........................................................................................15 3.06 Security Documents...................................................................................15 3.07 Federal Reserve Regulations..........................................................................15 3.08 Solvency.............................................................................................15 3.09 Home Depot Sale......................................................................................15 4. Conditions.................................................................................................16 4.01 Closing Date.........................................................................................16 4.02 Conditions Precedent to Each Letter of Credit........................................................17 5. Affirmative Covenants......................................................................................18 5.01 Financial Statements and Other Information...........................................................18 5.02 Existence; Conduct of Business.......................................................................19 5.03 Compliance with Laws.................................................................................19 5.04 Use of Letters of Credit.............................................................................19 5.05 Maintenance of Excluded Account......................................................................19
(i) 5.06 Cash Collateralization of Letter of Credit Outstandings..............................................19 5.07 Perfection of Mortgage; Release of Lien..............................................................19 5.08 Books and Records....................................................................................20 5.09 Further Assurances...................................................................................20 5.10 Mortgage.............................................................................................20 6. Covenants..................................................................................................20 6.01 Liens, Collateral Dispositions.......................................................................20 6.02 Fundamental Changes..................................................................................20 7. Events of Default..........................................................................................20 7.01 Events of Default....................................................................................20 7.02 Remedies on Default..................................................................................23 8. Miscellaneous..............................................................................................23 8.01 Notices..............................................................................................23 8.02 Waivers; Amendments..................................................................................23 8.03 Expenses; Indemnity; Damage Waiver...................................................................24 8.04 Successors and Assigns...............................................................................25 8.05 Survival.............................................................................................25 8.06 Counterparts; Integration............................................................................26 8.07 Severability.........................................................................................26 8.08 Right of Setoff......................................................................................26 8.09 Governing Law; Jurisdiction; Consent to Service of Process...........................................26 8.10 WAIVER OF JURY TRIAL.................................................................................28 8.11 Headings.............................................................................................28 8.12 Interest Rate Limitation.............................................................................28 8.13 Additional Waivers...................................................................................28 8.14 Other Collateral.....................................................................................30 8.15 Confidentiality......................................................................................30
(ii) LETTER OF CREDIT AGREEMENT dated as of August 13, 2004 among KMART CORPORATION, ("Kmart")a Michigan corporation, having a place of business at 3100 West Big Beaver Road, Troy, Michigan 48084; and BANK OF AMERICA, NATIONAL ASSOCIATION and FLEET NATIONAL BANK, as Issuing Banks, each a national banking association having a place of business at 100 Federal Street, Boston, Massachusetts 02110; in consideration of the mutual covenants herein contained and benefits to be derived herefrom. 1. DEFINITIONS. 1.01 Defined Terms. As used in this Agreement, the following terms have the meanings specified below: "Affiliate" means with respect to a specified Person, another Person that directly, or indirectly through one or more intermediaries, Controls or is Controlled by or is under common Control with the Person specified or is a director or officer of such Person. "Agreement" means this Letter of Credit Agreement, as modified, amended, supplemented or restated, and in effect from time to time. "Applicable Law" means as to any Person: (i) all laws, statutes, rules, regulations, orders, or other requirements having the force of law and (ii) all court orders and injunctions, and/or similar rulings, in each instance ((i) and (ii)) of or by any Governmental Authority, or court, or tribunal which has jurisdiction over such Person, or any property of such Person, or of any other Person for whose conduct such Person would be responsible. "Availability" means, at any time of determination, (i) prior to January 7, 2005, $200,000,000, and (ii) on and after January 7, 2005, an amount equal to the difference between the amounts on deposit in the Cash Collateral Account and 100.5% of the Letter of Credit Outstandings. "Bank of America" means Bank of America, National Association. "Board" means the Board of Governors of the Federal Reserve System of the United States of America. "Business Day" means any day that is not a Saturday, Sunday or other day on which commercial banks in Boston, Massachusetts, Charlotte, North Carolina, or Detroit, Michigan are authorized or required by law to remain closed. "Cash Collateral Account" shall mean an account established by Kmart with an Issuing Bank under the sole and exclusive dominion and control of the Issuing Bank designated as the "Kmart Cash Collateral Account", in which account the Issuing Banks have been granted a Lien pursuant to the Pledge and Security Agreement. 1 "Change in Control" means, at any time, (a) the board of directors of Holdings shall cease to consist of a majority of the Continuing Directors, (b) any person or group (within the meaning of Sections 13(d) and 14(d) of the Securities and Exchange Act of 1934, as amended) (i) other than Third Avenue and ESL and their respective Affiliates shall acquire Control of Holdings, or (ii) shall acquire more than the percentage of the then issued and outstanding shares of capital stock of Holdings having the right to vote for the election of directors of Holdings under ordinary circumstances owned directly or indirectly by ESL, Third Avenue and their respective Affiliates or (c) Holdings ceases to own and control directly or indirectly all of the economic and voting rights associated with all of the outstanding capital stock of Kmart or Kmart HQ. "Change in Law" means (a) the adoption of any law, rule or regulation after the date of this Agreement, (b) any change in any law, rule or regulation or in the interpretation or application thereof by any Governmental Authority after the date of this Agreement or (c) compliance by any Issuing Bank (or by such Issuing Bank's holding company, if any) with any request, guideline or directive (whether or not having the force of law) of any Governmental Authority made or issued after the date of this Agreement. "Charges" has the meaning provided therefor in Section 8.12. "Closing Date" means the date on which the conditions specified in Section 4.02 are satisfied or waived. "Code" means the Internal Revenue Code of 1986 and the Treasury regulations promulgated thereunder, as amended from time to time. "Collateral" means (i) the Mortgaged Property, and (ii) any and all "Collateral" as defined in the Pledge and Security Agreement. "Commercial Letter of Credit" means any Letter of Credit issued for the purpose of providing the primary payment mechanism in connection with the purchase of any materials, goods or services by Kmart or any Subsidiary Credit Parties in the ordinary course of business of Kmart or such Subsidiary Credit Parties. "Commitment" means (i) prior to January 7, 2005, $200,000,000, and (ii) on and after January 7, 2005, $600,000,000, or, in each case, such lesser amount on account of a reduction thereof in accordance with the provisions of Section 2.11 hereof. "Continuing Directors" means directors of Holdings who are in office on the Closing Date and each other director, if, in each case (a) commencing on the Closing Date and ending on May 6, 2005, such director's nomination for election to the board of directors of Holdings is recommended by (i) in the case of the directors nominated by the Financial Institutions Committee (as defined in the Plan of Reorganization), a majority of directors elected by the Financial Institutions Committee, (ii) in the case of the directors nominated by the Unsecured Creditors Committee (as defined in the Plan of Reorganization), a majority of directors elected by the Unsecured Creditors Committee, and (iii) in the case of the directors nominated by the Plan Investors (as defined in the Plan of Reorganization), a majority of directors elected by the 2 Plan Investors, and (b) after May 6, 2005, such other director's nomination for election to the Board of Directors of Holdings is recommended by a majority of the then Continuing Directors. "Control" means the possession, directly or indirectly, of the power to direct or cause the direction of the management or policies of a Person, whether through the ability to exercise voting power, by contract or otherwise. The terms "Controlling" and "Controlled" have meanings correlative thereto. "Credit Documents" means this Agreement, the Letters of Credit, each letter of credit application, the Mortgage, and the Pledge and Security Agreement, and any other instrument or agreement now or hereafter executed and delivered in connection herewith or therewith, each as amended and in effect from time to time. "Credit Request" means a request by Kmart for the issuance of a Letter of Credit in accordance with Section 2.05. "Default" means any event or condition that constitutes an Event of Default or that upon notice, lapse of time or both would, unless cured or waived, become an Event of Default. "dollars" or "$" refers to lawful money of the United States of America. "ESL" means ESL Investments, Inc., a Delaware corporation. "Event of Default" has the meaning assigned to such term in Section 7.01. "Excluded Account" means a deposit or investment account established by Kmart with Bank of America having a balance at all relevant times of at least $250,000,000, less any amounts deposited in the Cash Collateral Account. "Excluded Taxes" means, with respect to any Issuing Bank or any other recipient of any payment to be made by or on account of any obligation of Kmart or any Subsidiary Credit Party hereunder, (a) income or franchise Taxes imposed on (or measured by) its gross or net income by the United States of America, or by the jurisdiction under the laws of which such recipient is organized or in which its principal office is located, and (b) any branch profits Taxes imposed by the United States of America or any similar Tax imposed by any other jurisdiction in which Kmart or such Subsidiary Credit Party is located. "Existing Financing Agreement" means the Credit Agreement dated as of May 6, 2003 between, among others, Kmart, the other Credit Parties thereto, the Lenders party thereto, General Electric Capital Corporation, as Administrative Agent and Co-Collateral Agent, and Fleet Retail Group, Inc. (f/k/a Fleet Retail Finance Inc.) as Co-Syndication Agent and Co-Collateral Agent, as amended and in effect. "Existing L/Cs" means the letters of credit issued by Fleet and Bank of America under the Existing Financing Agreement. "Federal Funds Effective Rate" means, for any day, the weighted average (rounded upwards, if necessary, to the next 1/100 of 1%) of the rates on overnight Federal funds 3 transactions with members of the Federal Reserve System arranged by Federal funds brokers, as published on the next succeeding Business Day by the Federal Reserve Bank of New York, or, if such rate is not so published for any day that is a Business Day, the average (rounded upwards, if necessary, to the next 1/100 of 1%) of the quotations for such day for such transactions received by Bank of America from three Federal funds brokers of recognized standing selected by it. "Fleet" means Fleet National Bank, a national banking association. "GAAP" means generally accepted accounting principles of the United States of America, consistently applied. "Governmental Authority" means the government of the United States of America, any other nation or any political subdivision thereof, whether state or local, and any agency, authority, instrumentality, regulatory body, court, central bank or other entity exercising executive, legislative, judicial, taxing, regulatory or administrative powers or functions of or pertaining to government. "Holdings" means Kmart Holding Corporation, a Delaware corporation. "Home Depot Sale" means the sale of certain real property leases and related assets of Kmart pursuant to a Purchase and Sale Agreement between Kmart and Home Depot U.S.A., Inc. dated as of June 3, 2004. "Indemnified Taxes" means Taxes other than Excluded Taxes. "Indemnitee" has the meaning provided therefor in Section 8.03(b). "Issuing Bank" means Fleet, Bank of America or their respective Affiliates, in their capacities as the issuers of Letters of Credit hereunder. "Kmart" is defined in the Preamble hereto. "Kmart HQ" means Kmart Management Corporation, a Michigan corporation. "L/C Disbursement" means a payment made by an Issuing Bank pursuant to a Letter of Credit. "Letter of Credit" shall mean a letter of credit that is (i) issued pursuant to this Agreement for the account of Kmart or any Subsidiary Credit Parties, (ii) a Standby Letter of Credit or Commercial Letter of Credit, (iii) issued for purposes for which Kmart or any Subsidiary Credit Party has historically obtained letters of credit, or for any other purpose that is reasonably acceptable to the applicable Issuing Bank, and (iv) in form reasonably satisfactory to the applicable Issuing Bank. The Existing L/Cs shall, for all purposes be deemed Letters of Credit under this Agreement. "Letter of Credit Fees" shall mean the fees payable in respect of Letters of Credit pursuant to Section 2.08. 4 "Letter of Credit Outstandings" shall mean, at any time, the sum of (a) with respect to Letters of Credit outstanding at such time, the aggregate maximum amount that then is or at any time thereafter may become available for drawing or payment thereunder plus (b) all amounts theretofore drawn or paid under Letters of Credit for which any Issuing Bank has not then been reimbursed. "Lien" means, with respect to any asset, any mortgage, deed of trust, lien, pledge, hypothecation, encumbrance, charge or security interest in, on or of such asset. "Margin Stock" has the meaning assigned to such term in Regulation U. "Material Adverse Effect" means a material adverse effect on (a) the business, operations, property, assets, or financial condition of Holdings and its Subsidiaries taken as a whole, (b) the ability of Kmart or any Subsidiary Credit Party to perform any material obligation or to pay any Obligations under this Agreement or any of the other Credit Documents, or (c) the validity or enforceability of this Agreement or any of the other Credit Documents or any of the material rights or remedies of the Issuing Banks hereunder or thereunder. In determining whether any individual event would result in a Material Adverse Effect, notwithstanding that such event in and of itself does not have such effect, a Material Adverse Effect shall be deemed to have occurred if the cumulative effect of such event and all other then existing events would result in a Material Adverse Effect. "Maximum Rate" has the meaning provided therefor in Section 8.12. "Mortgage" means that certain Leasehold Mortgage of even date herewith from Kmart in favor of the Issuing Banks granting the Issuing Banks a Lien on the Mortgaged Property. "Mortgaged Property" means those leasehold interests and related assets which are the subject of Purchase and Sale Agreement between Kmart and Home Depot U.S.A., Inc. dated as of June 3, 2004 and listed on Exhibit A to the Mortgage. "Obligations" means the due and punctual payment by Kmart and each Subsidiary Credit Party of (i) each payment required to be made by Kmart or any Subsidiary Credit Party under this Agreement in respect of any Letter of Credit, when and as due, including payments in respect of reimbursement of disbursements and interest thereon (including all interest that accrues after the commencement of any case or proceeding by or against Kmart or any Subsidiary Credit Party under any federal or state bankruptcy, insolvency, receivership or similar law, whether or not allowed in such case or proceeding) and (ii) all other monetary obligations, including fees, costs, expenses and indemnities, whether primary, secondary, direct, contingent, fixed or otherwise, of Kmart or any Subsidiary Credit Party to any Issuing Banks under this Agreement and the other Credit Documents. "Organizational Document" means, relative to any Person, its limited partnership agreement, its certificate of incorporation, formation or limited partnership, its operating agreement, its by-laws and all material shareholder or equity holder agreements, voting trusts and similar arrangements to which such Person is a party or which is applicable to its capital stock or its limited partnership agreement. 5 "Other Taxes" means any and all current or future stamp or documentary Taxes or any other excise or property Taxes, charges or similar levies arising from any payment made under any Credit Document or from the execution, delivery or enforcement of, or otherwise with respect to, any Credit Document. "Person" means any natural person, corporation, limited liability company, trust, joint venture, association, company, partnership, Governmental Authority or other entity. "Plan of Reorganization" means that certain Joint Plan of Reorganization of Kmart Corporation and certain of its Affiliates filed on January 24, 2003, together with all schedules and exhibits thereto, and all amendments, modifications, or supplements filed after such date, as the same is in effect on the Closing Date. "Pledge and Security Agreement" means the Pledge and Security Agreement among Kmart and the Issuing Banks, as amended and in effect from time to time and as executed hereafter. "Prime Rate" shall mean, for any day, the higher of (a) the variable annual rate of interest then most recently announced by Bank of America at its head office in Charlotte, North Carolina as its "Prime Rate" and (b) the Federal Funds Effective Rate in effect on such day plus 1/2 of 1% (0.50%) per annum. The Prime Rate is a reference rate and does not necessarily represent the lowest or best rate being charged to any customer. If for any reason any Issuing Bank shall have determined (which determination shall be conclusive absent manifest error) that it is unable to ascertain the Federal Funds Effective Rate for any reason, including the inability or failure of any Issuing Bank to obtain sufficient quotations thereof in accordance with the terms hereof, the Prime Rate shall be determined without regard to clause (b) of the first sentence of this definition, until the circumstances giving rise to such inability no longer exist. Any change in the Prime Rate due to a change in Bank of America's Prime Rate or the Federal Funds Effective Rate shall be effective on the effective date of such change in Bank of America's Prime Rate or the Federal Funds Effective Rate, respectively. "Regulation U" means Regulation U of the Board as from time to time in effect and all official rulings and interpretations thereunder or thereof. "Regulation X" means Regulation X of the Board as from time to time in effect and all official rulings and interpretations thereunder or thereof. "Related Parties" means, with respect to any specified Person, such Person's Affiliates and the respective directors, officers, employees, agents and advisors of such Person and such Person's Affiliates. "Responsible Officer" means Holdings' Treasurer, Assistant Treasurer or Treasury Manager. "Security Documents" means the Pledge and Security Agreement and the Mortgage. "Solvent" means, with respect to any Person on a particular date, that on such date (a) at fair valuations, all of the properties and assets of such Person are greater than the sum of the 6 debts, including contingent liabilities, of such Person, (b) the present fair saleable value of the properties and assets of such Person is not less than the amount that would be required to pay the probable liability of such Person on its debts as they become absolute and matured, (c) such Person is able to realize upon its properties and assets and pay its debts and other liabilities, contingent obligations and other commitments as they mature in the normal course of business, (d) such Person does not intend to, and does not believe that it will, incur debts beyond such Person's ability to pay as such debts mature, and (e) such Person is not engaged in a business or a transaction, and is not about to engage in a business or transaction, for which such Person's properties and assets would constitute unreasonably small capital after giving due consideration to the prevailing practices in the industry in which such Person is engaged. "Standby Letter of Credit" means any Letter of Credit other than a Commercial Letter of Credit. "Subsidiary" means, with respect to any Person (the "parent") at any date, any corporation, limited liability company, partnership, association or other entity the accounts of which would be consolidated with those of the parent in the parent's Consolidated financial statements if such financial statements were prepared in accordance with GAAP as of such date, as well as any other corporation, limited liability company, partnership, association or other entity (a) of which securities or other ownership interests representing more than 50% of the equity or more than 50% of the ordinary voting power or, in the case of a partnership, more than 50% of the general partnership interests are, as of such date, owned, controlled or held, or (b) that is, as of such date, otherwise Controlled, by the parent or one or more subsidiaries of the parent or by the parent and one or more subsidiaries of the parent. "Subsidiary Credit Parties" means any Subsidiary of Kmart for whose account a Letter of Credit is issued by an Issuing Bank. "Taxes" means any and all current or future taxes, levies, imposts, duties, deductions, charges or withholdings imposed by any Governmental Authority. "Termination Date" shall mean the earliest to occur of (i) August 13, 2007 or (ii) the date of the occurrence of any Event of Default pursuant to Section 7.01(g) or 7.01(h), or (iii) the date on which the commitments of the Issuing Bank are terminated pursuant to clause (i) of the final paragraph of Section 7.01 or Section 2.11 hereof. "Third Avenue" means Third Avenue Trust, on behalf of certain of its investment series. "Transfer Notice" has the meaning set forth in Section 2.16 hereof. "Unused Commitment" shall mean, on any day, (a) the balance in the Cash Collateral Account divided by 100.5% minus (b) the then Letter of Credit Outstandings. "Unused Fees" has the meaning set forth in Section 2.07. 1.02 Terms Generally. The definitions of terms herein shall apply equally to the singular and plural forms of the terms defined. Whenever the context may require, any pronoun shall include the corresponding masculine, feminine and neuter forms. The words "include", 7 "includes" and "including" shall be deemed to be followed by the phrase "without limitation". The word "will" shall be construed to have the same meaning and effect as the word "shall". Unless the context requires otherwise (i) any definition of or reference to any agreement, instrument or other document herein shall be construed as referring to such agreement, instrument or other document as from time to time amended, supplemented or otherwise modified (subject to any restrictions on such amendments, supplements or modifications set forth herein), (ii) any reference herein to any Person shall be construed to include such Person's successors and assigns, (iii) the words "herein", "hereof" and "hereunder", and words of similar import, shall be construed to refer to this Agreement in its entirety and not to any particular provision hereof, and (iv) all references herein to Articles, Sections, Exhibits and Schedules shall be construed to refer to Articles and Sections of, and Exhibits and Schedules to, this Agreement. 2. LETTERS OF CREDIT. 2.01 Issuance of Letters of Credit. (a) Upon the terms and subject to the conditions herein set forth, Kmart may request an Issuing Bank, at any time and from time to time after the date hereof and prior to the Termination Date, to issue, and subject to the terms and conditions contained herein, the applicable Issuing Bank shall issue, for the account of Kmart or any of its Subsidiary Credit Parties one or more Letters of Credit; provided that no Letter of Credit shall be issued if after giving effect to such issuance (i) the aggregate Letter of Credit Outstandings shall exceed the Commitment, or (ii) Availability would be less than zero. (b) Each Letter of Credit shall expire at or prior to the close of business on the earlier of (i) the date one (1) year after the date of the issuance of such Letter of Credit (or, in the case of any renewal or extension thereof, one (1) year after such renewal or extension) and (ii) the date that is five (5) Business Days prior to August 13, 2007. 2.02 Reimbursement of Drawings. Drafts drawn under each Letter of Credit shall be reimbursed by Kmart or the applicable Subsidiary Credit Party in dollars by paying to the applicable Issuing Bank an amount equal to such drawing not later than 4:00 p.m., Boston time, on (i) the date that Kmart shall have received notice of such drawing, if such notice is received prior to 12:00 noon, Boston time, on such date, or (ii) the Business Day immediately following the day that Kmart receive such notice, if such notice is received after 12:00 noon, Boston time, on the day of drawing, 2.03 Notice of Drawings. An Issuing Bank shall, promptly following its receipt thereof, examine all documents purporting to represent a demand for payment under a Letter of Credit. The applicable Issuing Bank shall promptly notify Kmart by telephone (confirmed by telecopy) of such demand for payment and whether such Issuing Bank has made or will make payment thereunder, provided that any failure to give or delay in giving such notice shall not relieve Kmart or any Subsidiary Credit Party of its obligation to reimburse such Issuing Bank with respect to any such payment. 2.04 Interest on Overdue Amounts. If an Issuing Bank shall make any L/C Disbursement, then, unless Kmart or a Subsidiary Credit Party shall reimburse the Issuing Bank 8 in full at the time required herein, the unpaid amount thereof shall bear interest, for each day from and including the date such payment is made to but excluding the date that Kmart or a Subsidiary Credit Party reimburses such Issuing Bank therefor, at the rate per annum equal to the Prime Rate. Interest shall be calculated on the basis of a 360 day year and actual days elapsed. 2.05 Procedures for Issuance. Whenever Kmart or a Subsidiary Credit Party desires that an Issuing Bank issue a Letter of Credit (or the amendment, renewal or extension of an outstanding Letter of Credit), Kmart, through a Responsible Officer, shall give to the Issuing Bank at least two (2) Business Days' prior written notice (or such shorter period as may be agreed upon in writing by the Issuing Bank and Kmart) specifying the date on which the proposed Letter of Credit is to be issued, amended, renewed or extended (which shall be a Business Day), the stated amount of the Letter of Credit so requested, the expiration date of such Letter of Credit, the name and address of the beneficiary thereof, and the provisions thereof. If requested by the Issuing Bank, the applicable Subsidiary Credit Party shall also submit a letter of credit application on the Issuing Bank's standard form in connection with any request for the issuance, amendment, renewal or extension of a Letter of Credit. In the event of an inconsistency between any such letter of credit application and this Agreement, the terms of this Agreement shall control. 2.06 Unconditional Obligations. The obligations of Kmart and the Subsidiary Credit Parties to reimburse the Issuing Bank for any L/C Disbursement shall be unconditional and irrevocable and shall be paid strictly in accordance with the terms of this Agreement under all circumstances, including, without limitation: (i) any lack of validity or enforceability of any Letter of Credit; (ii) the existence of any claim, setoff, defense or other right which Kmart or any Subsidiary Credit Party may have at any time against a beneficiary of any Letter of Credit or against the Issuing Bank, whether in connection with this Agreement, the transactions contemplated herein or any unrelated transaction; (iii) any draft, demand, certificate or other document presented under any Letter of Credit proving to be forged, fraudulent, invalid or insufficient in any respect or any statement therein being untrue or inaccurate in any respect; (iv) payment by an Issuing Bank of any Letter of Credit against presentation of a demand, draft or certificate or other document which does not comply with the terms of such Letter of Credit; (v) any other circumstance or happening whatsoever, whether or not similar to any of the foregoing, that might, but for the provisions of this Section, constitute a legal or equitable discharge of, or provide a right of setoff against, Kmart's of the Subsidiary Credit Parties' obligations hereunder; or (vi) the fact that any Event of Default shall have occurred and be continuing. Neither the Issuing Banks nor any of their Affiliates shall have any liability or responsibility by reason of or in connection with the issuance or transfer of any Letter of Credit or any payment or failure to make any payment thereunder (irrespective of any of the circumstances referred to in the preceding sentence), or any error, omission, interruption, loss or delay in transmission or delivery of any draft, notice or other communication under or relating to any Letter of Credit (including any document required to make a drawing thereunder), any error in interpretation of technical terms or any consequence arising from causes beyond the control of the Issuing Banks, provided that the foregoing provisions of this Section 2.06 shall not be construed to excuse the Issuing Banks from liability to Kmart or any Subsidiary Credit Parties to the extent of any direct damages (as opposed to consequential damages, claims in respect of which are hereby waived by Kmart and the Subsidiary Credit Parties to the extent permitted by Applicable Law) suffered by Kmart or the Subsidiary Credit Parties that are caused by the Issuing Banks' failure to exercise 9 care when determining whether drafts and other documents presented under a Letter of Credit comply with the terms thereof or by the Issuing Bank's gross negligence, willful misconduct or bad faith. The parties hereto expressly agree that, in the absence of gross negligence, willful misconduct or bad faith on the part of the Issuing Banks (as finally determined by a court of competent jurisdiction), the Issuing Banks shall be deemed to have exercised care in each such determination. In furtherance of the foregoing and without limiting the generality thereof, the parties agree that, with respect to documents presented that appear on their face to be in compliance with the terms of a Letter of Credit, the Issuing Banks may, in their sole discretion, either accept and make payment upon such documents without responsibility for further investigation, regardless of any notice or information to the contrary, or refuse to accept and make payment upon such documents if such documents are not in strict compliance with the terms of such Letter of Credit. 2.07 Unused Fee. Kmart or the Subsidiary Credit Parties shall pay to the Issuing Banks, an unused fee (the "Unused Fee") equal to (i) prior to January 7, 2005, 0.125% per annum (on the basis of actual days elapsed in a year of 360 days) of the difference between Availability and the average daily balance of the then Letter of Credit Outstandings, for each day commencing on and including the Closing Date; and (ii) on and after January 7, 2005, 0.125% per annum (on the basis of actual days elapsed in a year of 360 days) of the average daily balance of the Unused Commitment for each day and ending on but excluding the Termination Date. The Unused Fee so accrued in any calendar month shall be payable on the first Business Day of the immediately succeeding calendar month, except that all Unused Fees so accrued and unpaid as of the Termination Date shall be payable on the Termination Date. 2.08 Letter of Credit Fees. (a) Kmart and the Subsidiary Credit Parties shall pay the applicable Issuing Bank on the first day of each calendar quarter, in arrears, a fee (each, a "Letter of Credit Fee") equal to the following per annum percentages of the average daily face amount of the following categories of Letters of Credit outstanding during the immediately preceding calendar quarter: (i) Standby Letters of Credit:At a per annum rate equal to 0.20%. (ii) Commercial Letters of Credit: At a per annum rate equal to 0%. (iii) If Kmart or the Subsidiary Credit Parties fail to comply with Section 5.06, below, the Letter of Credit Fees shall be increased by an amount equal to two percent (2.00%) per annum. (iv) After the occurrence and during the continuance of an Event of Default, at the option of the Issuing Banks exercised by written notice to Kmart, the Letter of Credit Fees shall be further increased by an amount equal to one-half of one percent (0.50%) per annum. (v) Upon the occurrence of an Event of Default, Kmart and the Subsidiary Parties shall pay to the Issuing Banks a make whole fee in the amount of .75% of the maximum amount of the Commitment. 10 (vi) Kmart and the Subsidiary Credit Parties shall pay to the Issuing Bank, in addition to all Letter of Credit Fees otherwise provided for hereunder, such other reasonable fees and charges in connection with the issuance, negotiation, settlement, amendment and processing of each Letter of Credit issued by the Issuing Banks as are customarily imposed by the Issuing Banks from time to time in connection with letter of credit transactions. (vii) All Letter of Credit Fees shall be calculated on the basis of a 360-day year and actual days elapsed. 2.09 Closing Fees. In addition to any other fees payable hereunder, Kmart and the Subsidiary Credit Parties shall pay to the Issuing Banks (a) an upfront fee in the sum of $600,000, fully earned on the Closing Date, of which $200,000 shall be payable on the Closing Date and $400,000 shall be payable on January 7, 2005, and (b) a structuring fee in the sum of $150,000 payable on the Closing Date. 2.10 Nature of Fees All fees shall be paid on the dates due, in immediately available funds, to the Issuing Banks as provided herein. All fees shall be fully earned on the date when due (or on the Closing Date if specifically indicated as such) and shall not be refundable under any circumstances. 2.11 Termination or Reduction of Commitments. Upon at least three (3) Business Days' prior written notice to the Issuing Banks Kmart may, at any time, in whole permanently terminate, or from time to time in part permanently reduce, the Commitments. Each such reduction shall be in the principal amount of $5,000,000 or any integral multiple of $1,000,000 in excess thereof. Each such reduction or termination shall be irrevocable when given. No reduction in the Commitments shall result in the Commitments being less than the then Letter of Credit Outstandings. 2.12 Maintenance of Loan Account; Statements of Account. (a) The Issuing Banks shall maintain an account on its books in the name of Kmart (the "Loan Account") which will reflect all Letter of Credit Outstandings, L/C Disbursements, fees and interest that have become payable as herein set forth. (b) After the end of each calendar month, the Issuing Banks shall send to Kmart a statement accounting for the transactions occurring among and between the Issuing Banks and Kmart during that month. The monthly statements shall, absent manifest error, be final, conclusive and binding on Kmart and each Subsidiary Credit Party, unless otherwise objected to in writing by Kmart within forty-five (45) days after receipt of the monthly statement. 2.13 Increased Costs. (a) If any Change in Law shall: 11 (i) impose, modify or deem applicable any reserve, special deposit or similar requirement against assets of, deposits with or for the account of, or credit extended by, the Issuing Banks; or (ii) impose on any Issuing Bank any other condition affecting this Agreement or any Letter of Credit; and the result of any of the foregoing shall be to increase the cost to such Issuing Bank of issuing or maintaining any Letter of Credit by an amount deemed material by such Issuing Bank or to reduce the amount of any sum received or receivable by such Issuing Bank hereunder by an amount deemed material by such Issuing Bank, then Kmart and the Subsidiary Credit Parties will pay to such Issuing Bank, such additional amount or amounts as will compensate such Issuing Bank for such additional costs incurred or reduction suffered. (b) If any Issuing Bank reasonably determines that any Change in Law regarding capital requirements has or would have the effect of reducing the rate of return on such Issuing Bank's capital or on the capital of such Issuing Bank's holding company, if any, as a consequence of this Agreement or the Letters of Credit issued by the Issuing Bank, to a level below that which such Issuing Bank or such Issuing Bank's holding company could have achieved but for such Change in Law (taking into consideration such Issuing Bank's policies and the policies of such Issuing Bank's holding company with respect to capital adequacy), then from time to time Kmart and the Subsidiary Credit Parties will pay to such Issuing Bank such additional amount or amounts as will compensate such Issuing Bank or such Issuing Bank's holding company for any such reduction suffered deemed to be material by such Issuing Bank. (c) A certificate of the Issuing Bank setting forth the amount or amounts necessary to compensate such Issuing Bank or its holding company, as the case may be, as specified in paragraph (a) or (b) of this Section and setting forth in reasonable detail the manner in which such amount or amounts were determined shall be delivered to Kmart and shall be conclusive absent manifest error. Kmart and the Subsidiary Credit Parties shall pay such Issuing Bank the amount shown as due on any such certificate within ten (10) Business Days after receipt thereof. (d) Delay on the part of any Issuing Bank to demand compensation pursuant to this Section within ninety (90) days after such right to compensation has been incurred shall not constitute a waiver of such Issuing Bank's right to demand such compensation. 2.14 Payments Kmart and each Subsidiary Credit Party shall make each payment required to be made by it hereunder or under any other Credit Document (whether of interest, fees or reimbursement of drawings under Letters of Credit, or of amounts payable under Sections 2.12 or 2.15, or otherwise) prior to 4:00 p.m., Boston time, on the date when due, in immediately available funds, without setoff or counterclaim. Any amounts received after such time on any date may, in the discretion of the Issuing Bank, be deemed to have been received on the next succeeding Business Day for purposes of calculating interest thereon. All such payments shall be made to the Issuing Banks at their offices at 100 Federal Street, Boston, Massachusetts. If any payment under any 12 Credit Document shall be due on a day that is not a Business Day, the date for payment shall be extended to the next succeeding Business Day, and, in the case of any payment accruing interest, interest thereon shall be payable for the period of such extension. All payments under each Credit Document shall be made in dollars. After the occurrence and during the continuance of an Event of Default, the Issuing Banks, without the request of Kmart or any Subsidiary Credit Party, may apply any amounts in the Cash Collateral Account towards any payment due under this Agreement. In addition, for the convenience of the parties, Kmart and each Subsidiary Credit Party authorize the Issuing Bank to charge any account maintained by Kmart or any Subsidiary Credit Party for any payment due under this Agreement, as and when such payment is due and payable, and whether or not an Event of Default has occurred or is continuing. The Issuing Bank acknowledges and agrees that notwithstanding such authorization, neither Kmart nor any Subsidiary Credit Party has granted, directly or indirectly, any lien or security interest in any such account or the proceeds thereof to the Issuing Bank, except as provided in the Pledge and Security Agreement. 2.15 Taxes (a) Any and all payments by or on account of any obligation of Kmart or the Subsidiary Credit Parties hereunder or under any other Credit Document shall be made free and clear of and without deduction for any Indemnified Taxes, provided that if Kmart or a Subsidiary Credit Party shall be required to deduct any Indemnified Taxes from such payments, then (i) the sum payable shall be increased as necessary so that after making all required deductions for Indemnified Taxes (including deductions for Indemnified Taxes applicable to additional sums payable under this Section) the Issuing Banks receive an amount equal to the sum they would have received had no such deductions been made, (ii) Kmart and the Subsidiary Credit Parties shall make such deductions, and (iii) Kmart and the Subsidiary Credit Parties shall pay the full amount deducted to the relevant Governmental Authority in accordance with Applicable Law. (b) In addition, Kmart and the Subsidiary Credit Parties shall pay any Other Taxes to the relevant Governmental Authority in accordance with Applicable Law. (c) Kmart and the Subsidiary Credit Parties shall indemnify the Issuing Banks, within ten (10) Business Days after written demand therefor, for the full amount of any Indemnified Taxes or Other Taxes paid by the Issuing Banks on or with respect to any payment by or on account of any obligation of Kmart or any Subsidiary Credit Party hereunder or under any other Credit Document (including Indemnified Taxes or Other Taxes imposed or asserted on or attributable to amounts payable under this Section) and any penalties, interest and reasonable expenses arising therefrom or with respect thereto. A certificate as to the amount of such payment or liability delivered to Kmart by an Issuing Bank setting forth in reasonable detail the manner in which such amount was determined, shall be conclusive absent manifest error. (d) As soon as practicable after any payment of Indemnified Taxes or Other Taxes by Kmart or a Subsidiary Credit Party to a Governmental Authority, Kmart shall deliver to the Issuing Banks the original or a certified copy of a receipt issued by such Governmental Authority evidencing such payment, a copy of the return reporting such payment or other evidence of such payment reasonably satisfactory to the Issuing Banks. 13 (e) Each of the Issuing Banks agrees that upon the occurrence of any circumstances entitling such party to indemnification or additional amounts pursuant hereto, such party shall use reasonable efforts to take any action (including designating a new lending office and signing any prescribed forms or other documentation appropriate in the circumstances) if such action would reduce or eliminate any Tax (including penalties or interest, as applicable) with respect to which such indemnification or additional amounts may thereafter accrue. (f) If any Issuing Bank reasonably determines that it has actually and finally realized, by reason of a refund, deduction or credit of any Taxes paid or reimbursed by Kmart or any Subsidiary Credit Party pursuant to subsection (a) or (c) above in respect of payments under the Credit Documents, a current monetary benefit that it would otherwise not have obtained and that would result in the total payments under this Section 2.15 exceeding the amount needed to make such Issuing Bank whole, such Issuing Bank shall pay to Kmart, with reasonable promptness following the date upon which it actually realizes such benefit, an amount equal to the lesser of the amount of such benefit or the amount of such excess, in each case net of all out-of-pocket expenses incurred in securing such refund, deduction or credit. 2.16 Transfer to Existing Financing Agreement Kmart may, upon three (3) Business Days written notice (a "Transfer Notice") to the Issuing Banks, request that any or all of the Letters of Credit issued under this Agreement be deemed issued under the Existing Financing Agreement. As long as the issuance of such Letters of Credit would be permitted under the Existing Financing Agreement and all conditions precedent to such issuance would be satisfied (as if such Letters of Credit were newly issued on the date set forth in the Transfer Notice) and such issuance would not result in the occurrence of a Default or Event of Default (as each of those terms is defined in the Existing Financing Agreement), the Issuing Banks shall take such action, at the expense of Kmart, as may be reasonably required to cause such Letters of Credit to become "Letters of Credit" under the Existing Financing Agreement. Unless Kmart otherwise requests, such transfer of any Letters of Credit shall not cause a reduction in the Commitments of the Issuing Banks hereunder. 3. REPRESENTATIONS AND WARRANTIES Kmart and the Subsidiary Credit Parties each represents and warrants to the Issuing Banks that: 3.01 Organization; Powers. Kmart and each Subsidiary Credit Party is duly organized, validly existing and in good standing under the laws of the jurisdiction of its organization, and has all requisite power and authority to carry on its business as now conducted. 3.02 Authorization; Enforceability. The transactions contemplated hereby and by the other Credit Documents to be entered into by Kmart and each Subsidiary Credit Party are within Kmart's and such Subsidiary Credit Party's corporate limited partnership, limited liability company and other powers and have been duly authorized by all necessary action. This Agreement has been duly executed and delivered by Kmart and constitutes, and each other Credit Document to which Kmart or any Subsidiary Credit Party is a party, when executed and delivered by Kmart or such Subsidiary Credit Party will constitute, a legal, valid and binding obligation of Kmart and each such Subsidiary Credit Party (as the case may be), enforceable in 14 accordance with its terms, subject to applicable bankruptcy, insolvency, reorganization, moratorium or other laws affecting creditors' rights generally and subject to general principles of equity, regardless of whether considered in a proceeding in equity or at law. 3.03 Governmental Approvals; No Conflicts. The transactions to be entered into and contemplated by the Credit Documents (a) do not require any consent or approval of, registration or filing with, or any other action by, any Governmental Authority, except for such as have been obtained or made and are in full force and effect, (b) will not violate any Applicable Law or the Organizational Documents of Kmart or any Subsidiary Credit Party or any order of any Governmental Authority, (c) will not violate or result in a default under any indenture, agreement or other instrument binding upon Kmart or any Subsidiary Credit Party or its assets, or give rise to a right thereunder to require any payment to be made by any Kmart or any Subsidiary Credit Party, and (d) will not result in the creation or imposition of any Lien on any asset of any Kmart or any Subsidiary Credit Party, except Liens created under the Credit Documents. 3.04 Litigation. (a) There are no actions, suits or proceedings by or before any arbitrator or Governmental Authority pending against or, to the knowledge of Kmart, threatened against or affecting Kmart or any Subsidiary Credit Party (i) that, if adversely determined, could reasonably be expected, individually or in the aggregate, to result in a Material Adverse Effect under clauses (b) and (c) of the definition thereof, or (ii) that involve the Collateral or any of the Credit Documents. 3.05 No Default. No Default or Event of Default has occurred and is continuing. 3.06 Security Documents. The Security Documents shall create in favor of the Issuing Banks a legal, valid and enforceable security interest in the Collateral, and the Security Documents, if properly filed, or upon other action required for perfection, shall constitute the creation of a fully perfected first priority Lien on, and security interest in, all right, title and interest of the Kmart and the Subsidiary Credit Parties thereunder in such Collateral, in each case prior and superior in right to any other Person. 3.07 Federal Reserve Regulations. (a) Neither Kmart nor any Subsidiary Credit Party is engaged principally, or as one of its important activities, in the business of extending credit for the purpose of buying or carrying Margin Stock. (b) No part of the proceeds of any Letter of Credit will be used, whether directly or indirectly, and whether immediately, incidentally or ultimately, (i) to buy or carry Margin Stock or to extend credit to others for the purpose of buying or carrying Margin Stock or to refund indebtedness originally incurred for such purpose or (ii) for any purpose that entails a violation of, or that is inconsistent with, the provisions of the Regulations of the Board, including Regulation U or X. 3.08 Solvency. To the best of the knowledge of Kmart, as of the Closing Date, after giving effect to the transactions contemplated hereby, Kmart and each Subsidiary Credit Party is, and will be, Solvent. 15 3.09 Home Depot Sale. (a) The Purchase and Sale Agreement between Kmart and Home Depot U.S.A., Inc. dated as of June 3, 2004 has been duly executed and delivered by all parties thereto and constitutes a legal, valid and binding obligation of the parties thereto, enforceable in accordance with its terms, subject to applicable bankruptcy, insolvency, reorganization, moratorium or other laws affecting creditors' rights generally and subject to general principles of equity, regardless of whether considered in a proceeding in equity or at law and is in full force and effect. (b) Kmart has received consents from the lessors of the leased properties described on Exhibit A to the Mortgage which are subject to the Purchase and Sale Agreement between Kmart and Home Depot U.S.A., Inc. dated as of June 3, 2004. (c) The allocated purchase prices for each of the Mortgaged Properties which are subject to the Purchase and Sale Agreement between Kmart and Home Depot U.S.A., Inc. dated as of June 3, 2004 are set forth on Exhibit A to the Mortgage. (d) To the best of Kmart's knowledge, there are no events or circumstances presently existing which could impede or delay consummation of the Home Depot Sale with respect to the Mortgaged Property consisting of the first 4 stores listed on Exhibit A to the Mortgage, on or before October 31, 2004. 4. CONDITIONS 4.01 Closing Date. The obligation of the Issuing Banks to issue each Letter of Credit, on and after the Closing Date, is subject to the following conditions precedent: (a) The Issuing Banks (or their counsel) shall have received from each party hereto either (i) a counterpart of this Agreement and all other Credit Documents (other than the Pledge and Security Agreement) signed on behalf of such party or (ii) written evidence satisfactory to the Issuing Banks (which may include telecopy transmission of a signed signature page of this Agreement) that such party has signed a counterpart of this Agreement and all other Credit Documents. (b) The Issuing Banks shall have received a favorable written opinion of Holdings' in-house counsel covering such matters relating to Kmart and the Subsidiary Credit Parties, the Credit Documents or the transactions contemplated thereby as the Issuing Banks shall reasonably request. (c) The Issuing Banks shall have received such documents and certificates as the Issuing Banks or their counsel may reasonably request relating to the organization, existence and good standing of Kmart and each Subsidiary Credit Party, the authorization of the transactions contemplated by the Credit Documents and any other legal matters relating to Kmart and the Subsidiary Credit Parties, the Credit Documents or the transactions contemplated thereby, all in form and substance reasonably satisfactory to the Issuing Banks and their counsel. (d) All necessary consents and approvals to the transactions contemplated hereby shall have been obtained and shall be satisfactory to the Issuing Banks. 16 (e) The Issuing Banks shall be reasonably satisfied that any financial statements delivered to them fairly present the business and financial condition of Holdings and its Subsidiaries, and that there has been no material adverse change in the assets, business, financial condition, or income of Holdings and its Subsidiaries since the date of the most recent financial information delivered to the Issuing Banks. (f) There shall not be pending any litigation or other proceeding, the result of which could reasonably be expected to have a Material Adverse Effect. (g) There shall not have occurred any default of any material contract or agreement of Kmart or any Subsidiary Credit Party which could reasonably be expected to have a Material Adverse Effect. (h) All fees due at or immediately after the Closing Date and all costs and expenses incurred by the Issuing Banks in connection with the establishment of the credit facility contemplated hereby (including the fees and expenses of counsel to the Issuing Banks) shall have been paid in full. (i) The consummation of the transactions contemplated hereby shall not violate any Applicable Law. (j) The Excluded Account shall have been established and funded. (k) There shall have been delivered to the Issuing Banks such additional instruments and documents as the Issuing Banks or counsel to the Issuing Banks reasonably may require or request. 4.02 Conditions Precedent to Each Letter of Credit. In addition to those conditions described in Section 4.01, the obligation of the Issuing Banks to issue each Letter of Credit, is subject to the following conditions precedent: (a) Notice. The Issuing Banks shall have received a notice with respect to such issuance as required by Section 2.05. (b) Representations and Warranties. All representations and warranties contained in this Agreement and the other Credit Documents or otherwise made in writing in connection herewith or therewith shall be true and correct in all material respects on and as of the date of each issuance of each Letter of Credit hereunder with the same effect as if made on and as of such date, other than representations and warranties that relate solely to an earlier date. (c) No Default. On the date of each issuance of each Letter of Credit, and after giving effect thereto, (i) no Default or Event of Default shall have occurred and be continuing, and (ii) Availability shall not be less than zero. The request by Kmart for, and the acceptance by Kmart and each Subsidiary Credit Party of, each Letter of Credit hereunder shall be deemed to be a representation and warranty by Kmart 17 and each such Subsidiary Credit Party that the conditions specified in this Section 4.02 have been satisfied at that time. 5. AFFIRMATIVE COVENANTS Until (i) the Commitments have expired or been terminated, and (ii) all Obligations payable hereunder shall have been paid in full, and (iii) all Letters of Credit shall have expired or terminated, Kmart and each Subsidiary Credit Party covenants and agrees with the Issuing Banks that: 5.01 Financial Statements and Other Information. Kmart will furnish to the Issuing Banks,: (a) promptly following any request therefor, such information regarding the operations, business affairs and financial condition of Kmart and the Subsidiary Credit Parties, or compliance with the terms of any Credit Document, as the Issuing Banks may reasonably request, provided that Kmart and the Subsidiary Credit Parties need not furnish copies of any information if such information is available either on EDGAR or on Kmart's web site. (b) at least ten (10) days prior written notice of any change (i) in any Kmart's or any Subsidiary Credit Party's corporate name, (ii) in Kmart's or any Subsidiary Credit Party's corporate structure or jurisdiction of incorporation or formation, or (iii) in Kmart's or any Subsidiary Credit Party's Federal Taxpayer Identification Number or organizational identification number assigned to it by its state of organization. 18 5.02 Existence; Conduct of Business. Kmart will, and will cause each of the Subsidiary Credit Parties to, do or cause to be done all things necessary to preserve, renew and keep in full force and effect its legal existence and the rights, licenses, permits, and privileges, except where the failure to do so would not reasonably be expected to result in a Material Adverse Effect, provided that the foregoing shall not prohibit any merger, consolidation, liquidation or dissolution permitted under Section 6.02. 5.03 Compliance with Laws. Kmart will, and will cause each of the Subsidiary Credit Parties to, comply with all Applicable Laws applicable to the transactions contemplated by this Agreement and the other Credit Documents, except where the failure to do so, individually or in the aggregate, could not reasonably be expected to result in a Material Adverse Effect. 5.04 Use of Letters of Credit. The Letters of Credit issued hereunder will be used only (a) to replace or collateralize letters of credit under the Existing Financing Agreement, (b) to finance the acquisition of working capital assets of Kmart and the Subsidiary Credit Parties, including the purchase of Inventory, in the ordinary course of business, and (c) for general corporate purposes. No part of any Letter of Credit will be used, whether directly or indirectly, for any purpose that entails a violation of any of the Regulations of the Board, including Regulations U and X. 5.05 Maintenance of Excluded Account. Kmart shall maintain the Excluded Account with Bank of America until such time as the amounts on deposit in the Cash Collateral Account are at least equal to 100.5% of the Letter of Credit Outstandings. 5.06 Cash Collateralization of Letter of Credit Outstandings. Kmart shall cause the amounts on deposit in the Cash Collateral Account to be at least equal to (i) on and after receipt of the proceeds of the sale of the Mortgaged Properties, unrestricted and free from escrow, the proceeds thereof (net of the closing expenses), and (ii)100.5% of the Letter of Credit Outstandings on and after January 7, 2005. Kmart shall cause all such net proceeds to be deposited in the Cash Collateral Account within 2 Business Days of receipt by Kmart or any Subsidiary Credit Party. 5.07 Perfection of Mortgage; Release of Lien. In the event that the sale of the Mortgaged Properties is not consummated on or before January 7, 2005, at the request of the Issuing Banks, Kmart shall promptly cause the Mortgage to be recorded, at its expense, in all applicable filing offices and shall take all such other action as the Issuing Banks may reasonably require (including, without limitation, obtaining lessor's consents to the Mortgage). Upon consummation of the sale of the Mortgaged Properties and compliance with the provisions of Section 5.06 hereof, the Issuing Banks shall execute and deliver, at Kmart's expense, such documents as may be reasonably necessary to release their Lien under the Mortgage. 19 5.08 Books and Records Kmart will, and will cause each of the Subsidiary Credit Parties to, permit any representatives designated by any Issuing Bank, upon reasonable prior notice, to examine and make extracts from its books and records applicable to the transactions contemplated by this Agreement to the extent deemed reasonably necessary by the Issuing Banks to administer and enforce this Agreement and the other Credit Documents. 5.09 Further Assurances. Kmart and each Subsidiary Credit Party will execute any and all further documents, financing statements, agreements and instruments, and take all such further actions that may be required under any Applicable Law, or which any Issuing Bank may reasonably request, to effectuate the transactions contemplated by the Credit Documents or to grant, preserve, protect or perfect the Liens created or intended to be created by the Pledge and Security Agreement or the validity or priority of any such Lien, all at the expense of Kmart and the Subsidiary Credit Parties. 5.10 Mortgage. Notwithstanding any other provision of this Agreement the Issuing Banks shall not, and Kmart shall have no obligation to, file or otherwise record or perfect the security interest created by the Mortgage, other than pursuant to Section 5.07 above. 6. COVENANTS Until (i) the Commitments have expired or been terminated, and (ii) all Obligations payable hereunder shall have been paid in full, and (iii) all Letters of Credit shall have expired or terminated, Kmart and each Subsidiary Credit Party covenants and agrees with the Issuing Banks that: 6.01 Liens, Collateral Dispositions. Kmart and the Subsidiary Credit Parties will not create, incur, assume or permit to exist any Lien on any Collateral or sell, transfer, assign or otherwise dispose of any Collateral. (other than the Mortgaged Property (but not the proceeds therefrom) in connection with the consummation of the Home Depot Sale) 6.02 Fundamental Changes. Kmart and the Subsidiary Credit Parties will not merge into or consolidate with any other Person, or permit any other Person to merge into or consolidate with it, or liquidate or dissolve, except that, if at the time thereof and immediately after giving effect thereto no Default or Event of Default shall have occurred and be continuing, (i) any Subsidiary Credit Party may merge into any other Subsidiary Credit Party or into Kmart, and (ii) any Subsidiary Credit Party may liquidate or dissolve voluntarily into Kmart. 7. EVENTS OF DEFAULT 7.01 Events of Default. If any of the following events ("Events of Default") shall occur: (a) Kmart or the Subsidiary Credit Parties shall fail to pay any reimbursement obligation in respect of any L/C Disbursement when and as the same shall become due and payable; (b) Kmart or the Subsidiary Credit Parties shall fail to pay any fee or any other amount (other than an amount referred to in Section 7.01(a)) payable under this 20 Agreement or any other Credit Document, when and as the same shall become due and payable; (c) any representation or warranty made or deemed made by or on behalf of Kmart or any Subsidiary Credit Party in or in connection with any Credit Document or in any report, certificate, financial statement or other document furnished pursuant to or in connection with any Credit Document shall prove to have been incorrect in any material respect when made or deemed made; (d) Kmart or the Subsidiary Credit Parties shall fail to observe or perform any covenant, condition or agreement contained in Sections 5.04, 5.05, 5.06, 5.07, 6.01 or 6.02; (e) Kmart or the Subsidiary Credit Parties shall fail to observe or perform any covenant, condition or agreement contained in any Credit Document (other than those specified in Sections 7.01(a), 7.01(b), 7.01(c), or 7.01(d)), and such failure shall continue unremedied for a period of thirty (30) days after notice thereof from the Issuing Banks to Kmart; (f) the occurrence and continuance of any material Event of Default under the Existing Finance Agreement. (g) an involuntary proceeding shall be commenced or an involuntary petition shall be filed seeking (i) liquidation, reorganization or other relief in respect of Kmart or any Subsidiary Credit Party, their respective debts, or of a substantial part of their respective assets, under any federal or state bankruptcy, insolvency, receivership or similar law now or hereafter in effect or (ii) the appointment of a receiver, trustee, custodian, sequestrator, conservator or similar official for Kmart or any Subsidiary Credit Party or for a substantial part of their respective assets, and, in any such case, such proceeding or petition shall continue undismissed for sixty (60) days or an order or decree approving or ordering any of the foregoing shall be entered; (h) Kmart or any Subsidiary Credit Party shall (i) voluntarily commence any proceeding or file any petition seeking liquidation, reorganization or other relief under any federal or state bankruptcy, insolvency, receivership or similar law now or hereafter in effect, (ii) consent to the institution of, or fail to contest in a timely and appropriate manner, any proceeding or petition described in clause (g) of this Section 7.01, (iii) apply for or consent to the appointment of a receiver, trustee, custodian, sequestrator, conservator or similar official for Kmart or any Subsidiary Credit Party or for a substantial part of their respective assets, (iv) file an answer admitting the material allegations of a petition filed against it in any such proceeding, (v) make a general assignment for the benefit of creditors or (vi) take any action for the purpose of effecting any of the foregoing; (i) Kmart or any Subsidiary Credit Party shall become unable, admit in writing its inability or fail generally to pay its debts as they become due; 21 (j) any non-monetary judgment or order shall have been rendered against Kmart or any Subsidiary Credit Parties that is reasonably likely to have a Material Adverse Effect and there shall be any period of twenty (20) consecutive days during which a stay of enforcement of such judgment or other, by reason of a pending appeal or otherwise, shall not be in effect; (k) (i) any challenge by or on behalf of Kmart, any Subsidiary Credit Party or any other Person to the validity of any Credit Document or the applicability or enforceability of any Credit Document strictly in accordance with the subject Credit Document's terms or which seeks to void, avoid, limit, or otherwise adversely affect any security interest created by or in any Credit Document or any payment made pursuant thereto; (ii) any Lien purported to be created under any Security Document shall cease to be, or shall be asserted by Kmart, any Subsidiary Credit Party or any other Person not to be, a valid and perfected Lien on any Collateral, with the priority required by the applicable Security Document; (l) the indictment of, or institution of any legal process or proceeding against, Kmart or any Subsidiary Credit Party, under any federal, state, municipal, and other civil or criminal statute, rule, regulation, order, or other requirement having the force of law, which is reasonably likely to have a Material Adverse Effect ; (m) the determination by Kmart or any Subsidiary Credit Party, to suspend the operation of their business in the ordinary course, liquidate all or substantially all of Kmart's or such Subsidiary Credit Party's assets or employ an agent or other third party to conduct a program of closings, liquidations or "Going-Out-Of-Business" sales of all or substantially all of the business; or (n) Any Change in Control then, and in every such event (other than an event with respect to any Kmart described in clause (g) or (h) of this Section 7.01), and at any time thereafter during the continuance of such event, the Issuing Banks may by written notice to Kmart, take either or both of the following actions, at the same or different times: (i) terminate all or any portion of the Commitments, and thereupon all or such portion of the Commitments shall terminate immediately, and (ii) declare all Obligations then outstanding to be due and payable in whole and thereupon the Obligations so declared to be due and payable shall become due and payable immediately, without presentment, demand, protest or other notice of any kind, all of which are hereby waived by the Kmart and the Subsidiary Credit Parties; and in case of any event with respect to any Kmart or a Subsidiary Credit Party described in clause (g) or (h) of this Article, the Commitments shall automatically terminate and the Obligations then outstanding, shall automatically become due and payable, without presentment, demand, protest or other notice of any kind, all of which are hereby waived by Kmart and the Subsidiary Credit Parties. 22 7.02 Remedies on Default In case any one or more of the Events of Default shall have occurred and be continuing, the Issuing Banks may proceed to protect and enforce their rights and remedies under this Agreement or any of the other Credit Documents by suit in equity, action at law or other appropriate proceeding, whether for the specific performance of any covenant or agreement contained in this Agreement and the other Credit Documents or any instrument pursuant to which the Obligations are evidenced, and proceed to enforce the payment thereof or any other legal or equitable right of the Issuing Banks. No remedy herein is intended to be exclusive of any other remedy and each and every remedy shall be cumulative and shall be in addition to every other remedy given hereunder or now or hereafter existing at law or in equity or by statute or any other provision of law. 8. MISCELLANEOUS 8.01 Notices. Except in the case of notices and other communications expressly permitted to be given by telephone, all notices and other communications provided for herein shall be in writing and shall be delivered by hand or overnight courier service, mailed by certified or registered mail or sent by telecopy, as follows: (a) if to any Kmart or any Subsidiary Credit Party to it at 3100 West Big Beaver Road, Troy, Michigan 48084, Attention: James Gooch, Vice President, Treasurer, Financial Planning and Analysis (Telecopy No. (248) 463-6822), with a copy to James E. Defebaugh, Senior Vice President, Deputy General Counsel and Chief Compliance Officer (Telecopy No. (248) 458-1039); (b) if to the Issuing Banks, to Fleet Retail Group, Inc., 40 Broad Street, Boston, Massachusetts 02109, Attention Daniel T. Platt (Telecopy No. (617) 434-4312), with a copy to Riemer & Braunstein, LLP, Three Center Plaza, Boston, Massachusetts 02108, Attention: David S. Berman, Esquire (Telecopy No. (617) 880-3456); Any party hereto may change its address or telecopy number for notices and other communications hereunder by notice to the other parties hereto. All notices and other communications given to any party hereto in accordance with the provisions of this Agreement shall be deemed to have been given on the date of receipt. 8.02 Waivers; Amendments. (a) No failure or delay by the Issuing Banks in exercising any right or power hereunder or under any other Credit Document shall operate as a waiver thereof, nor shall any single or partial exercise of any such right or power, or any abandonment or discontinuance of steps to enforce such a right or power, preclude any other or further exercise thereof or the exercise of any other right or power. The rights and remedies of the Issuing Banks hereunder and under the other Credit Documents are cumulative and are not exclusive of any rights or remedies that they would otherwise have. No waiver of any provision of any Credit Document or consent to any departure by any Kmart or any Subsidiary Credit Party therefrom shall in any event be effective unless the same shall be permitted by paragraph (b) of this Section, and then such waiver or consent shall be effective only in the specific instance and for the purpose for which given. Without limiting the generality of the foregoing, the issuance of a 23 Letter of Credit shall not be construed as a waiver of any Default or Event of Default, regardless of whether the Issuing Banks may have had notice or knowledge of such Default or Event of Default at the time. (b) Neither this Agreement nor any other Credit Document nor any provision hereof or thereof may be waived, amended or modified except pursuant to an agreement or agreements in writing entered into by the Kmart and the Issuing Banks. 8.03 Expenses; Indemnity; Damage Waiver. (a) Kmart and the Subsidiary Credit Parties shall jointly and severally pay (i) all actual reasonable out-of-pocket expenses incurred by the Issuing Banks and their Affiliates, including the actual reasonable fees, charges and disbursements of counsel for the Issuing Banks, for the preparation and administration of the Credit Documents or any amendments, modifications or waivers of the provisions thereof (whether or not the transactions contemplated hereby or thereby shall be consummated), (ii) all reasonable out-of-pocket expenses incurred by the Issuing Banks in connection with the issuance, amendment, renewal or extension of any Letter of Credit or any demand for payment thereunder, and (iii) all reasonable out-of-pocket expenses incurred by the Issuing Banks, including the reasonable fees, charges and disbursements of any counsel for the Issuing Banks in connection with the enforcement or protection of its rights in connection with the Credit Documents, including its rights under this Section, or in connection with the Letters of Credit issued hereunder, including all such out-of-pocket expenses incurred during any workout, restructuring or negotiations in respect of such Letters of Credit. (b) Kmart and the Subsidiary Credit Parties shall, jointly and severally, indemnify the Issuing Banks and each Related Party of any of the foregoing Persons (each such Person being called an "Indemnitee"), against, and hold each Indemnitee harmless from, any and all losses, claims, damages, liabilities and related expenses, including the reasonable fees, charges and disbursements of any counsel for any Indemnitee, incurred by or asserted against any Indemnitee arising out of, in connection with, or as a result of (i) the execution or delivery of any Credit Document or any other agreement or instrument contemplated hereby, the performance by the parties to the Credit Documents of their respective obligations thereunder or the consummation of the transactions contemplated by the Credit Documents or any other transactions contemplated hereby, (ii) any Letter of Credit or the use of the proceeds therefrom (including any refusal by the Issuing Bank to honor a demand for payment under a Letter of Credit if the documents presented in connection with such demand do not strictly comply with the terms of such Letter of Credit), or (iii) any actual or prospective claim, litigation, investigation or proceeding relating to any of the foregoing, whether based on contract, tort or any other theory and regardless of whether any Indemnitee is a party thereto, provided that such indemnity shall not, as to any Indemnitee, be available to the extent that such losses, claims, damages, liabilities or related expenses resulted from the gross negligence, willful misconduct or bad faith of such Indemnitee. In connection with any indemnified claim hereunder, the Indemnitees shall be entitled to select a single counsel for themselves (absent conflicts of interest) and Kmart and the Subsidiary Credit Parties shall promptly pay the reasonable fees and expenses of such counsel. (c) To the extent permitted by Applicable Law, neither Kmart nor any Subsidiary Credit Party shall assert, and each hereby waives, any claim against any Indemnitee, 24 on any theory of liability, for special, indirect, consequential or punitive damages (as opposed to direct or actual damages) arising out of, in connection with, or as a result of, this Agreement or any agreement or instrument contemplated hereby, the transactions contemplated by the Credit Documents, any Letter of Credit or the use of the proceeds thereof. Kmart and the Subsidiary Credit Parties further agree that no Indemnitee shall have any liability to Kmart or such Subsidiary Credit Parties, any Person asserting claims by or on behalf of Kmart, such Subsidiary Credit Parties or any other Person in connection with this Agreement or the other Credit Documents except (i) for breach of the Indemnitee's obligations under this Agreement and the other Credit Documents, or (ii) the Indemnitee's gross negligence, willful misconduct or bad faith. (d) All amounts due under this Section shall be payable promptly after written demand therefor. 8.04 Successors and Assigns. (a) The provisions of this Agreement shall be binding upon and inure to the benefit of the parties hereto and their respective successors and assigns permitted hereby (including any Affiliate of the Issuing Banks that issues any Letter of Credit), except that Kmart and the Subsidiary Credit Parties may not assign or otherwise transfer any of their rights or obligations hereunder without the prior written consent of each Issuing Bank (and any such attempted assignment or transfer without such consent shall be null and void). Nothing in this Agreement, expressed or implied, shall be construed to confer upon any Person (other than the parties hereto, their respective successors and assigns permitted hereby (including any Affiliate of the Issuing Banks that issues any Letter of Credit) and, to the extent expressly contemplated hereby, the Related Parties of each of the Issuing Banks) any legal or equitable right, remedy or claim under or by reason of this Agreement. (b) Any Issuing Bank may at any time pledge or assign a security interest in all or any portion of its rights under this Agreement to secure obligations of such Issuing Bank, including any pledge or assignment to secure obligations to any of the twelve Federal Reserve Banks organized under Section 4 of the Federal Reserve Act, 12 U.S.C. Section 341, and this Section shall not apply to any such pledge or assignment of a security interest, provided that no such pledge or assignment of a security interest shall release an Issuing Bank from any of its obligations hereunder or substitute any such pledgee or assignee for such Issuing Bank as a party hereto. 8.05 Survival. All covenants, agreements, representations and warranties made by Kmart and the Subsidiary Credit Parties in the Credit Documents and in the certificates or other instruments delivered in connection with or pursuant to this Agreement or any other Credit Document shall be considered to have been relied upon by the other parties hereto and shall survive the execution and delivery of the Credit Documents and the issuance of any Letters of Credit, regardless of any investigation made by any such other party or on its behalf and notwithstanding that the Issuing Banks may have had notice or knowledge of any Default or incorrect representation or warranty at the time any credit is extended hereunder, and shall continue in full force and effect as long as any Obligations are outstanding and unpaid or any Letter of Credit is outstanding and so long as the Commitments have not expired or terminated. The provisions of Sections 2.13, 2.15 and 8.03 shall survive and remain in full force and effect regardless of the consummation of the transactions contemplated hereby, the repayment of the 25 Obligations, the expiration or termination of the Letters of Credit and the Commitments or the termination of this Agreement or any provision hereof. 8.06 Counterparts; Integration. This Agreement may be executed in counterparts (and by different parties hereto on different counterparts), each of which shall constitute an original, but all of which when taken together shall constitute a single contract. This Agreement and the other Credit Documents constitute the entire contract among the parties relating to the subject matter hereof and supersede any and all contemporaneous or previous agreements and understandings, oral or written, relating to the subject matter hereof. Except as provided in Section 4.01, this Agreement shall become effective when it shall have been executed by the Issuing Banks and Kmart and when the Issuing Bank shall have received counterparts hereof that, when taken together, bear the signatures of each of the other parties hereto, and thereafter shall be binding upon and inure to the benefit of the parties hereto and their respective successors and assigns. Delivery of an executed counterpart of a signature page of this Agreement by telecopy shall be effective as delivery of a manually executed counterpart of this Agreement. 8.07 Severability. Any provision of this Agreement held to be invalid, illegal or unenforceable in any jurisdiction shall, as to such jurisdiction, be ineffective to the extent of such invalidity, illegality or unenforceability without affecting the validity, legality and enforceability of the remaining provisions hereof; and the invalidity of a particular provision in a particular jurisdiction shall not invalidate such provision in any other jurisdiction. 8.08 Right of Setoff. If an Event of Default shall have occurred and be continuing, each Issuing Bank and each of its Affiliates is hereby authorized at any time and from time to time, to the fullest extent permitted by law, to set off and apply any and all deposits (general or special, time or demand, provisional or final) at any time held and other obligations at any time owing by such Issuing Bank or Affiliate or for the credit or the account of the Kmart and the Subsidiary Credit Parties against any of and all the obligations of Kmart and the Subsidiary Credit Parties now or hereafter existing under this Agreement held by such Issuing Bank, irrespective of whether or not such Issuing Bank shall have made any demand under this Agreement and although such obligations may be unmatured; provided, that each Issuing Bank hereby waives any and all rights of set-off, banker's lien or counterclaim of any kind or nature until the termination of the Existing Financing Agreement. The rights of each Issuing Bank under this Section are in addition to other rights and remedies (including other rights of setoff) that such Issuing Bank may have under the Security Documents or otherwise. 8.09 Governing Law; Jurisdiction; Consent to Service of Process (a) THIS AGREEMENT SHALL BE GOVERNED BY, AND CONSTRUED IN ACCORDANCE WITH, THE LAWS OF THE COMMONWEALTH OF MASSACHUSETTS. (b) Kmart and the Subsidiary Credit Parties agree that any suit for the enforcement of this Agreement or any other Credit Document may be brought in any Massachusetts state or federal court sitting in the County of Suffolk as any Issuing Bank may elect in its sole discretion and consent to the non-exclusive jurisdiction of such courts. Kmart and the Subsidiary Credit Parties hereby waive any objection which they may now or hereafter 26 have to the venue of any such suit or any such court or that such suit is brought in an inconvenient forum. Kmart and the Subsidiary Credit Parties agree that any action commenced by any of them asserting any claim or counterclaim arising under or in connection with this Agreement or any other Credit Document shall be brought solely in any Massachusetts state or federal court sitting in the County of Suffolk as any Issuing Bank may elect in its sole discretion and consent to the exclusive jurisdiction of such courts with respect to any such action. (c) Each party to this Agreement irrevocably consents to service of process in the manner provided for notices in Section 8.01. Nothing in this Agreement or any other Credit Document will affect the right of any party to this Agreement to serve process in any other manner permitted by law. 27 8.10 WAIVER OF JURY TRIAL. EACH PARTY HERETO HEREBY WAIVES, TO THE FULLEST EXTENT PERMITTED BY APPLICABLE LAW, ANY RIGHT TO A JURY IN ANY TRIAL OF ANY CASE OR CONTROVERSY IN WHICH KMART, ANY SUBSIDIARY CREDIT PARTY, OR ANY ISSUING BANK, IS OR BECOMES A PARTY (WHETHER SUCH CASE OR CONTROVERSY IS INITIATED BY OR AGAINST KMART, ANY SUBSIDIARY CREDIT PARTY OR ANY ISSUING BANK, OR IN WHICH KMART, ANY SUBSIDIARY CREDIT PARTY OR ANY ISSUING BANK IS JOINED AS A PARTY LITIGANT), WHICH CASE OR CONTROVERSY ARISES OUT OF OR IS IN RESPECT OF, ANY RELATIONSHIP AMONGST OR BETWEEN KMART, ANY SUBSIDIARY CREDIT PARTY OR ANY OTHER PERSON AND THE ISSUING BANKS.. EACH PARTY HERETO (A) CERTIFIES THAT NO REPRESENTATIVE, AGENT OR ATTORNEY OF ANY OTHER PARTY HAS REPRESENTED, EXPRESSLY OR OTHERWISE, THAT SUCH OTHER PARTY WOULD NOT, IN THE EVENT OF LITIGATION, SEEK TO ENFORCE THE FOREGOING WAIVER AND (B) ACKNOWLEDGES THAT IT AND THE OTHER PARTIES HERETO HAVE BEEN INDUCED TO ENTER INTO THIS AGREEMENT BY, AMONG OTHER THINGS, THE MUTUAL WAIVERS AND CERTIFICATIONS IN THIS SECTION. 8.11 Headings. Article and Section headings and the Table of Contents used herein are for convenience of reference only, are not part of this Agreement and shall not affect the construction of, or be taken into consideration in interpreting, this Agreement. 8.12 Interest Rate Limitation. Notwithstanding anything herein to the contrary, if at any time the interest rate, together with all fees, charges and other amounts that are treated as interest on such Letter of Credit or L/C Disbursement under Applicable Law (collectively the "Charges"), shall exceed the maximum lawful rate (the "Maximum Rate") that may be contracted for, charged, taken, received or reserved by the Issuing Banks in accordance with Applicable Law, the rate of interest payable, together with all Charges payable, shall be limited to the Maximum Rate and, to the extent lawful, the interest and Charges that would have been payable but were not payable as a result of the operation of this Section shall be cumulated and the interest and Charges payable to such Issuing Bank in respect of other periods shall be increased (but not above the Maximum Rate therefor) until such cumulated amount, together with interest thereon at the Federal Funds Effective Rate to the date of repayment, shall have been received by such Issuing Bank. 8.13 Additional Waivers. (a) The Obligations are the joint and several obligations of Kmart and each Subsidiary Credit Party. Kmart and each Subsidiary Credit Party hereby assumes, guarantees, and agrees to discharge all Obligations of all other obligors. In that regard, any Subsidiary Credit Party for whose account a Letter of Credit is to be issued shall, prior to the date of issuance, execute and deliver to the Issuing Banks a joinder to, and assumption of obligations under, this Agreement (in addition to any letter of credit application or other documents required by the Issuing Banks). (b) To the fullest extent permitted by Applicable Law, the obligations of Kmart and each Subsidiary Credit Party hereunder shall not be affected by (i) the failure of any 28 Issuing Bank to assert any claim or demand or to enforce or exercise any right or remedy against any other obligor under the provisions of this Agreement, any other Credit Document or otherwise, (ii) any rescission, waiver, amendment or modification of, or any release from any of the terms or provisions of, this Agreement, any other Credit Document, or any other agreement, including with respect to any other obligor, or (iii) the failure to perfect any security interest in, or the release of, any of the security held by or on behalf of the Issuing Banks. (c) To the fullest extent permitted by Applicable Law, the obligations of Kmart and each Subsidiary Credit Party hereunder shall not be subject to any reduction, limitation, impairment or termination for any reason (other than the indefeasible payment in full in cash of the Obligations), including any claim of waiver, release, surrender, alteration or compromise of any of the Obligations, and shall not be subject to any defense or set-off, counterclaim, recoupment or termination whatsoever by reason of the invalidity, illegality or unenforceability of the Obligations or otherwise. Without limiting the generality of the foregoing, the obligations of each obligor hereunder shall not be discharged or impaired or otherwise affected by any default, failure or delay, willful or otherwise, in the performance of the Obligations, or by any other act or omission that may or might in any manner or to any extent vary the risk of any obligor or that would otherwise operate as a discharge of any obligor as a matter of law or equity (other than the indefeasible payment in full in cash of all the Obligations). (d) To the fullest extent permitted by Applicable Law, each obligor waives any defense based on or arising out of any defense of any other obligor or the unenforceability of the Obligations or any part thereof from any cause, or the cessation from any cause of the liability of any other obligor, other than the indefeasible payment in full in cash of all the Obligations. The Issuing Banks may, at their election, foreclose on any security held by one or more of them by one or more judicial or nonjudicial sales, accept an assignment of any such security in lieu of foreclosure, compromise or adjust any part of the Obligations, make any other accommodation with any other obligor, or exercise any other right or remedy available to them against any other obligor, without affecting or impairing in any way the liability of any obligor hereunder except to the extent that all the Obligations have been indefeasibly paid in full in cash. Pursuant to Applicable Law, each obligor waives any defense arising out of any such election even though such election operates, pursuant to Applicable Law, to impair or to extinguish any right of reimbursement or subrogation or other right or remedy of such obligor against any other obligor, as the case may be, or any security. 29 8.14 Other Collateral. The Issuing Banks agree at the request of Kmart to negotiate in good faith appropriate market based pricing terms, structuring, due diligence requirements and possible syndication requirements that would apply in the event Kmart elects to substitute different real or personal property collateral for the cash required to be deposited in the Cash Collateral Account subsequent to January 7, 2005. 8.15 Confidentiality. The Issuing Banks agree to keep confidential and not to disclose to any third party any information in respect of the Home Depot Sale and the allocation of prices to Kmart stores in conjunction therewith to the extent such information has not otherwise been made public. [SIGNATURE PAGES FOLLOW] 30 IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed by their respective authorized officers as a sealed instrument as of the day and year first above written. KMART CORPORATION By:_________________________ Name: Title: S-31 BANK OF AMERICA, NATIONAL ASSOCIATION, as Issuing Bank By:________________________ Name: Daniel T. Platt Title: Vice President Address: 40 Broad Street, 10th Floor Boston, Massachusetts 02109 Attn: Daniel T. Platt Telephone: (617) 434-4190 Telecopy: (617) 434-4312 FLEET NATIONAL BANK, as Issuing Bank By:________________________ Name: Daniel T. Platt Title: Vice President Address: 40 Broad Street Boston, Massachusetts 02109 Attn: Daniel T. Platt Telephone: (617) 434-4190 Telecopy: (617) 434-4312 S-32 EX-31.1 5 k86812exv31w1.txt CHIEF EXECUTIVE OFFICER CERTIFICATION Exhibit 31.1 KMART HOLDING CORPORATION SARBANES-OXLEY ACT SECTION 302 CERTIFICATION I, Julian C. Day, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Kmart Holding Corporation; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c) disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a) all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: August 16, 2004 /s/ Julian C. Day - ------------------------------------- Julian C. Day President and Chief Executive Officer EX-31.2 6 k86812exv31w2.txt CHIEF FINANCIAL OFFICER CERTIFICATION Exhibit 31.2 KMART HOLDING CORPORATION SARBANES-OXLEY ACT SECTION 302 CERTIFICATION I, James D. Donlon, III, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Kmart Holding Corporation; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c) disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a) all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: August 16, 2004 /s/ James D. Donlon, III - ---------------------------------------------- James D. Donlon, III Senior Vice President, Chief Financial Officer EX-32.1 7 k86812exv32w1.txt SECTION 1350 CERTIFICATIONS Exhibit 32.1 KMART HOLDING CORPORATION SARBANES-OXLEY ACT SECTION 906 CERTIFICATION (1) In connection with this Quarterly Report on Form 10-Q of Kmart Holding Corporation for the period ended July 28, 2004, each of the undersigned officers of the Company, hereby certify pursuant to 18 U.S.C. 1350, as adopted pursuant to 906 of the Sarbanes-Oxley Act of 2002, that to the best of his knowledge: 1. this Form 10-Q fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2. the information contained in this Form 10-Q fairly presents, in all material respects, the financial condition and results of operations of Kmart Holding Corporation. Date: August 16, 2004 /s/ Julian C. Day - ------------------------------------- Julian C. Day President and Chief Executive Officer /s/ James D. Donlon, III - ------------------------------------- James D. Donlon, III Senior Vice President, Chief Financial Officer Footnote 1: A signed original of this written statement required by Section 906, or other document authenticating, acknowledging, or otherwise adopting the signatures that appear in typed form within the electronic version of this written statement required by Section 906, has been provided to Kmart Holding Corporation and will be retained by Kmart Holding Corporation and furnished to the Securities and Exchange Commission or its staff upon request. -----END PRIVACY-ENHANCED MESSAGE-----