-----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, VUQ44NC9sK0v1v8uP0pYRktYDMefrV/tHUqwRIclIQOcT2Q1GyLqy65ye+FrBurA 9FngDDT1i81w9Wi6Kivevg== 0000950137-99-000716.txt : 19990402 0000950137-99-000716.hdr.sgml : 19990402 ACCESSION NUMBER: 0000950137-99-000716 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990331 FILER: COMPANY DATA: COMPANY CONFORMED NAME: TRUSERV CORP CENTRAL INDEX KEY: 0000025095 STANDARD INDUSTRIAL CLASSIFICATION: WHOLESALE-HARDWARE [5072] IRS NUMBER: 362099896 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: SEC FILE NUMBER: 333-18397 FILM NUMBER: 99579975 BUSINESS ADDRESS: STREET 1: 8600 WEST BRYN MAWR AVE CITY: CHICAGO STATE: IL ZIP: 60631 BUSINESS PHONE: 773-695-5000 MAIL ADDRESS: STREET 1: 8600 W. BRYN MAWR AVENUE CITY: CHICAGO STATE: IL ZIP: 60631-3505 FORMER COMPANY: FORMER CONFORMED NAME: COTTER & CO DATE OF NAME CHANGE: 19920703 10-K405 1 FORM 10-K 1 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM 10-K (MARK ONE) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED) FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED) FOR THE TRANSITION PERIOD FROM TO ------------------------ COMMISSION FILE NUMBER 2-20910 TRUSERV CORPORATION (PRIOR TO JULY 1, 1997 KNOWN AS COTTER & COMPANY) (Exact name of Registrant as specified in its charter) DELAWARE 36-2099896 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.)
8600 WEST BRYN MAWR AVENUE, CHICAGO, ILLINOIS 60631-3505 (Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (773) 695-5000 Securities registered pursuant to Section 12(b) of the Act: NONE Securities registered pursuant to Section 12(g) of the Act: NONE INDICATE BY CHECK MARK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS REQUIRED TO BE FILED BY SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 DURING THE PRECEDING 12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE REGISTRANT WAS REQUIRED TO FILE SUCH REPORTS), AND (2) HAS BEEN SUBJECT TO SUCH FILING REQUIREMENTS FOR THE PAST 90 DAYS. YES X . NO __. INDICATE BY CHECK MARK IF DISCLOSURE OF DELINQUENT FILERS PURSUANT TO ITEM 405 OF REGULATION S-K (SEC.229.405 OF THIS CHAPTER) IS NOT CONTAINED HEREIN, AND WILL NOT BE CONTAINED, TO THE BEST OF REGISTRANT'S KNOWLEDGE, IN DEFINITIVE PROXY OR INFORMATION STATEMENTS INCORPORATED BY REFERENCE IN PART III OF THIS FORM 10-K OR ANY AMENDMENT TO THIS FORM 10-K. [X] STATE THE AGGREGATE MARKET VALUE OF THE VOTING STOCK HELD BY NON-AFFILIATES OF THE REGISTRANT. THERE IS NO PUBLIC MARKET FOR REGISTRANT'S CLASS A COMMON STOCK. SUCH SHARES ARE OFFERED BY THE REGISTRANT IN SIXTY-SHARE UNITS, EXCLUSIVELY TO RETAILERS OF HARDWARE AND RELATED MERCHANDISE, IN CONNECTION WITH BECOMING MEMBERS OF THE COMPANY. SAID STOCK IS LIMITED AS TO TRANSFERABILITY BY ITS TERMS. INDICATE THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE REGISTRANT'S CLASSES OF COMMON STOCK, AS OF THE LATEST PRACTICABLE DATE.
OUTSTANDING AT CLASS FEBRUARY 27, 1999 ----- ----------------- CLASS A COMMON STOCK, $100 PAR VALUE................ 547,200 CLASS B NONVOTING COMMON STOCK, $100 PAR VALUE...... 1,921,031
- -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 2 PART I THIS ANNUAL REPORT AND THE DOCUMENTS INCORPORATED HEREIN BY REFERENCE CONTAIN FORWARD-LOOKING STATEMENTS ABOUT FUTURE RESULTS THAT ARE SUBJECT TO RISKS AND UNCERTAINTIES. TRUSERV'S ACTUAL RESULTS MAY DIFFER SIGNIFICANTLY FROM THE RESULTS DISCUSSED IN THE FORWARD-LOOKING STATEMENTS. ITEM 1. BUSINESS. TruServ Corporation ("TruServ" or the "Company") was organized as Cotter & Company ("Cotter"), a Delaware corporation, in 1953. Upon its organization, it succeeded to the business of Cotter & Company, an Illinois corporation organized in 1948. On July 1, 1997 Cotter & Company merged with ServiStar Coast to Coast Corporation ("SCC") (the "Merger"). SCC was a hardware wholesaler organized in 1935 with a strong presence in retail lumber and building materials. Following the Merger, the Company was renamed TruServ Corporation. The Company's principal executive offices are located at 8600 West Bryn Mawr Avenue, Chicago, Illinois, 60631-3505. Its telephone number is (773) 695-5000. The Company is a Member-owned wholesaler of hardware, lumber/building materials and related merchandise. It is the largest wholesaler of hardware, lumber/building materials and related merchandise in the United States. The Company also manufactures paint and paint applicators. For reporting purposes, the Company operates in a single industry as a Member-owned wholesaler cooperative. Membership, depending on the terms of the Member's Retail Member Agreement with TruServ (the "Retail Member Agreement"), entitles TruServ Members to use certain TruServ trademarks and trade names, including the federally registered Coast to Coast(R), ServiStar(R) and True Value(R) trademarks, service marks and collective membership marks. The True Value(R) collective membership mark has a present expiration date of January 2, 2003; the ServiStar(R) mark has a present expiration date of September 13, 2003; the Coast to Coast(R) mark expires on November 3, 2004; the InduServe Supply(R) mark has a present expiration date of February 13, 2000; the Grand Rental Station(R) mark has a present expiration date of June 4, 2005; the Taylor Rental(R) mark has a present expiration date of January 15, 2004; the Home & Garden Showplace(R) mark has a present expiration date of February 13, 2000 and the Commercial Sales(R) mark has a present expiration date of December 16, 2007. Members are continuing to conduct their businesses under the same retail banners as before the Merger, except to the extent permitted by TruServ on a case by case basis. Members have access to all private labels, except with respect to paint, outdoor power equipment, the private labels which will be limited to use by their respective retail organizations. Membership also entitles the Member to receive annual patronage dividends based upon the Member's purchases from TruServ. In accordance with TruServ's By-Laws and the Retail Member Agreements, the annual patronage dividend is paid to Members out of the gross margins from operations and other patronage source income, after deduction for expenses, reserves and provisions authorized by the Board of Directors. The Company serves approximately 9,800 Coast to Coast(R), ServiStar(R) and True Value(R) Hardware Stores throughout the United States. Primary concentrations of Members exist in New York (approximately 8%), Pennsylvania (approximately 7%), California and Texas (approximately 5% each) and Illinois, Michigan and Ohio (approximately 4% each). 1 3 The Company's total sales of merchandise to its U.S. Members were divided among the following general classes of merchandise:
FOR THE FISCAL YEARS ------------------------ 1998 1997 1996 ------ ------ ------ Lumber and Building Materials.................. 30.2% 24.5% 12.8% Hardware Goods................................. 17.8% 19.5% 22.4% Farm and Garden................................ 14.5% 13.1% 13.8% Electrical and Plumbing........................ 13.4% 15.8% 18.2% Painting and Cleaning.......................... 10.8% 12.0% 14.0% Appliances and Housewares...................... 8.4% 9.4% 11.2% Sporting Goods and Toys........................ 4.9% 5.7% 7.6%
The Company serves its Members by functioning as a low cost distributor of goods and maximizing its volume purchasing abilities, primarily through vendor rebates and discount programs, for the benefit of its Members. These benefits are passed along to its Members in the form of lower prices and/or patronage dividends. The Company has numerous individual agreements or commitments from its suppliers, virtually all of which are terminable by such suppliers or the Company without cause. Such provisions, either individually or in the aggregate, have not had any material adverse effect on the Company's ability to conduct its business. The goods and services purchased by the Company from these suppliers are generally available from a wide variety of sources. The Company is not dependent upon any one supplier or group of suppliers and has not experienced a problem in obtaining necessary goods. The Company holds conventions and meetings for its Members in order to keep them better informed as to industry trends and the availability of new merchandise. The Company also provides each of its Members with an illustrated price catalog showing the products available from the Company. The Company's sales to its Members are divided into three categories, as follows: (1) warehouse shipment sales (approximately 40% of total sales); (2) direct shipment sales (approximately 54% of total sales); and (3) relay sales (approximately 6% of total sales). Warehouse shipment sales are sales of products purchased, warehoused, and resold by the Company upon orders from the Members. Direct shipment sales are sales of products purchased by the Company but delivered directly to Members from manufacturers. Relay sales are sales of products purchased by the Company in response to the requests of several Members for a product which is (i) included in future promotions, (ii) not normally held in inventory and (iii) is not susceptible to direct shipment. Generally, the Company will give notice to all Members of its intention to purchase products for relay shipment and then purchases only so many of such products as the Members order. When the product shipment arrives at the Company, it is not warehoused; rather, the Company breaks up the shipment and "relays" the appropriate quantities to the Members who placed orders. The Company also manufactures paint and paint applicators. The principal raw materials used by the Company are chemicals. All raw materials are purchased from outside sources. The Company has been able to obtain adequate sources of raw materials and other items used in production and no shortages of such materials which will materially impact operations are currently anticipated. The Company annually sponsors two "markets" (one in the Spring and one in the Fall). In fiscal year 1999, these markets will be held in Atlanta, Georgia and Las Vegas, Nevada. Members are invited to the markets and generally place substantial orders for delivery during the period prior to the next market. During such markets, new merchandise and seasonal merchandise for the coming season is displayed to attending Members. As of February 27, 1999 and February 28, 1998, respectively, the Company had a backlog of firm orders (including relay orders) of approximately $18,700,000 and $16,000,000. It is anticipated that the entire backlog existing at February 27, 1999 will be filled by April 30, 1999. The Company's backlog at any given time is made up of two principal components: (i) normal resupply orders and (ii) market orders for future delivery. Resupply orders are orders from Members for merchandise to keep inventories at normal levels. Generally, such orders are filled the day following receipt, except that relay orders for future delivery (which 2 4 are in the nature of resupply orders) are not intended to be filled for several months. Market orders for future delivery are Member orders for new or seasonal merchandise given at the Company's two markets, for delivery during the several months subsequent to the markets. Thus, the Company will have a relatively high backlog at the end of each market which will diminish in subsequent months until the next market. The retail hardware industry is characterized by intense competition. Independent retail hardware businesses served by the Company continue to face intense competition from chain stores, discount stores, home centers, and warehouse operations. Increased operating expenses for the retail stores, including increased costs due to longer open-store hours and higher rental costs of retail space, have cut into operating margins and brought pressures for lower merchandise costs, to which the Company has been responsive through a retail-oriented competitive pricing strategy on high-turnover, price-sensitive items. The trueAdvantage(R) program was introduced in 1995 and upgraded in 1997 to promote higher retail standards in order to build consumer goodwill and create a positive image for all Member stores. The Company competes with other Member-owned and non-member-owned wholesalers as a source of supply and merchandising support for independent retailers. Competitive factors considered by independent retailers in choosing a source of supply include pricing, servicing capabilities, promotional support and merchandise selection and quality. Increased operating expenses and decreased margins have resulted in several non-member-owned wholesalers withdrawing from business. The Company, through a Canadian subsidiary, owns a majority equity interest in Cotter Canada Hardware and Variety Cooperative, Inc., a Canadian wholesaler of hardware, variety and related merchandise. This cooperative serves approximately 540 True Value(R) and V&S(R) Stores, all located in Canada. The cooperative has approximately 350 employees and generated less than 5% of the Company's consolidated revenue in fiscal year 1998. The Company operates several other subsidiaries, most of which are engaged in businesses providing additional services to the Company's Members. In the aggregate, these subsidiaries are not significant to the Company's results of operations. The Company employs approximately 6,500 persons in the United States on a full-time basis. Due to the widespread geographical distribution of the Company's operations, employee relations are governed by the practices prevailing in the particular area and are generally dealt with locally. Approximately 31% of the Company's hourly-wage employees are covered by collective bargaining agreements which are generally effective for periods of three or four years. In general, the Company considers its relationship with its employees to be good. RETAIL MEMBER AGREEMENT; FRANCHISE AND LICENSE AGREEMENTS The TruServ Retail Member Agreement provides, among other things, that each Member: (i) will be required to own 60 shares of Class A common stock of TruServ for each store owned by such Member (up to a maximum of 300 shares for five or more stores); (ii) will conduct its businesses under the True Value(R), ServiStar(R) or Coast to Coast(R) names (or other affiliated names or marks) subject to the terms of the Retail Member Agreement; (iii) will conduct a retail hardware, lumber, building materials, home center, rental or industrial/ commercial operation at a designated location; (iv) will comply with TruServ's By-Laws as in effect from time to time; (v) will accept patronage dividends in a form complying with the requirement of the Internal Revenue Code for deduction from gross income by TruServ; (vi) may receive different services and pay different charges based on the volume of merchandise purchased by the Member; 3 5 (vii) agrees to have its Retail Member Agreement terminated in certain circumstances by unilateral action by TruServ's Board of Directors; (viii) agrees to have its Retail Member Agreement automatically modified upon notice to the Member by TruServ of any change in its Certificate of Incorporation or By-Laws or any resolution of the Board of Directors; (ix) agrees to have its Retail Member Agreement governed by Illinois law, and enforced or interpreted only in courts located in Cook County, Illinois or any contiguous county; and (x) may terminate the Retail Member Agreement upon 60 days written notice to TruServ. Some of the licenses and franchise agreements of former SCC Members have been assigned by TruServ to a new wholly-owned limited liability company which was created for the purpose of continuing to operate any license or franchise activities which have been continued in that format after July 1. TruServ will review any retail activities which continue to be carried out as franchises. It is anticipated that additional licenses may be entered into periodically with respect to the Taylor Rental Centers and Grand Rental Stations. It is less likely that any additional franchise or license agreements will be entered into with respect to the other retail programs operated as franchises by SCC prior to the Merger. Rather, it is contemplated that these programs will initially be operated as part of the cooperative activities of TruServ. DISTRIBUTION OF PATRONAGE DIVIDENDS TruServ operates on a cooperative basis with respect to business done with or for Members. All Members are entitled to receive patronage dividend distributions from TruServ on the basis of gross margins of merchandise and/or services purchased by each Member. In accordance with TruServ's By-Laws and Retail Member Agreement, the annual patronage dividend is paid to Members out of the gross margins from operations and other patronage source income, after deduction for expenses, reserves and provisions authorized by the Board of Directors. Patronage dividends are usually paid to Members within 90 days after the close of TruServ's fiscal year; however, the Internal Revenue Code (the "Code") permits distribution of patronage dividends as late as the 15th day of the ninth month after the close of TruServ's fiscal year, and TruServ may elect to distribute the annual patronage dividend at a later time than usual in accordance with the provisions of the Code. TruServ's By-Laws provide for the payment of year-end patronage dividends, after payment of at least 20% of such patronage dividends in cash, in qualified written notices of allocation including (i) Class B common stock based on par value thereof, to a maximum of 2% of the Member's net purchases of merchandise from TruServ for the year (except in unusual circumstances of individual hardships, in which case the Board of Directors reserves the right to make payments in cash), (ii) promissory (subordinated) notes, or (iii) other property. Such promissory (subordinated) notes are for a five year term, bear interest at a fixed rate based on a premium spread above comparable U.S. Treasury notes as approved by the Board of Directors, and are subordinated to all other debt of TruServ. TruServ may also issue nonqualified written notices of allocation to its Members as part of its annual patronage dividend. See "Payment of Patronage Dividends in Accordance with the Internal Revenue Code." In determining the form of the annual patronage dividend, a Member's required investment in Class B common stock of TruServ had historically been limited by the Board of Directors to an amount, the cumulative value of which will not exceed two percent (2%) of the Member's net purchases of merchandise from the Company. Commencing in 1996, the Board established minimum Class B ownership requirements (currently $25,000 for hardware stores and $15,000 for lumber stores) which may be varied from time to time and is comprised of the aggregate of a Member's various types of annual purchases multiplied by a specific percentage, that varies from 1% to 14%, decreasing as total dollar purchases by category increase. The amount of such required investment is determined by majority vote of the Board of Directors, and may be increased or decreased by such vote. The basis for determining the necessity of an increase or decrease is through evaluation of the financial needs of TruServ, while considering the needs of its membership. The consideration 4 6 and method of payment for such shares is by way of the required amount being calculated as part of the annual patronage dividend distribution amount. Until at least December 31, 1999, new Members who join TruServ will have their patronage dividend computed and distributed in accordance with the method used prior to the Merger by the constituent corporation thereof offering the retail program (e.g., Coast to Coast(R), ServiStar(R) or True Value(R)) chosen by such new Members. PAYMENT OF PATRONAGE DIVIDENDS IN ACCORDANCE WITH THE INTERNAL REVENUE CODE The Code specifically provides for the taxation of cooperatives (such as TruServ) and their patrons (such as TruServ's Members) so as to ensure that the business earnings of cooperatives are currently taxable either to the cooperatives or to the patrons. The shares of Class B nonvoting common stock and other written notices, which disclose to the recipient the stated amount allocated to him by TruServ and the portion thereof which is a patronage dividend, distributed by TruServ to its Members are "written notices of allocation" within the meaning of that phrase as used in the Code. For such written notices to be "qualified written notices of allocation" within the meaning of the Code, it is necessary that TruServ pay 20% or more of the annual patronage dividend in cash and that the Members consent to having the allocations (at their stated dollar amount) treated as being constructively received by them and includable in their gross income. Such written notices that do not meet these requirements are "nonqualified written notices of allocation" within the meaning of the Code. Cash, qualified written notices, and other property (except nonqualified written notices of allocation) are currently deducted from earnings in determining the taxable income of TruServ and, accordingly such qualified written notices of allocation are includable in gross income of the patron (Member). Section 1385(a) of the Code provides, in substance, that the amount of any patronage dividend which is paid in cash, qualified written notices of allocation or other property (except nonqualified written notices of allocation) shall be included in the gross income of the patron (Member) for the taxable year in which it receives such cash or such qualified written notices of allocation. In general, with respect to nonqualified written notices of allocation, no amounts are deductible by TruServ or includable in gross income of the patron (Member) until redeemed by TruServ. Thus, every year each Member may receive, as part of the Member's patronage dividend, non-cash "qualified written notices of allocation", which may include Class B nonvoting common stock, the stated dollar amount of which must be recognized as gross income for the taxable year in which received. The portion of the patronage dividend paid in cash (at least 20%) may be insufficient, depending on the tax bracket in each Member's case, to provide funds for the payment of income taxes for which the Member will be liable as a result of the receipt of the entire patronage dividend, including cash and Class B nonvoting common stock. In response to the provisions of the Code, TruServ's By-Laws provide for the treatment of the shares of Class B nonvoting common stock and such other notices as the Board of Directors may determine, distributed in payment of patronage dividends as "qualified written notices of allocation." The By-Laws provide in effect: (i) for payment of patronage dividends partly in cash, partly in qualified written notices of allocation (including the Class B nonvoting common stock as described above), other property or in nonqualified written notices of allocation, and (ii) that membership in the organization (i.e. the status of being a Member of TruServ) shall constitute consent by the Member to take the qualified written notices of allocation or other property into account in the Member's gross income as provided in Section 1385(a) of the Code. Under the provisions of the Code, persons who become or became Members of TruServ or who retained their status as Members after adoption of the By-Laws providing that membership in the organization constitutes consent, and after receiving written notification and a copy of the By-Laws are deemed to have consented to the tax treatment of the cash and the qualified written notices of allocation in which the patronage dividends are paid, in accordance with Section 1385(a) of the Code. Written notification of the adoption of the By-Laws and its significance, and a copy of the By-Laws, were sent to each then existing Member and have been, and will continue to be, delivered to each party that became, or becomes a Member 5 7 thereafter. Such consent is then effective except as to patronage occurring after the distributee ceases to be a Member of the organization or after the By-Laws of the organization cease to contain the provision with respect to the above described consent. Such consent may be revoked by the Member only by terminating its membership in TruServ in the manner provided in its Retail Member Agreement. Each year since 1978, TruServ has paid its Members 30% of the annual patronage dividend in cash in respect to patronage (excluding nonqualified written notices of allocation) occurring in the preceding year. It is the judgment of management that the payment of 30% or more of patronage dividends in cash will not have a material adverse effect on the operations of TruServ or its ability to maintain adequate working capital for the normal requirements of its business. However, TruServ is obligated to distribute only 20% of the annual patronage dividend (excluding nonqualified written notices of allocation) in cash and it may distribute this lesser percentage in future years. In order to avoid the administrative inconvenience and expense of issuing separate certificates representing shares of Class B nonvoting common stock to each Member, TruServ deposits a bulk certificate with Harris Trust and Savings Bank, Chicago, Illinois for safekeeping for and on behalf of its Members and sends a written notice to each Member of these deposits and the allocation thereof to such Member. 6 8 ITEM 2. PROPERTIES. The Company's national headquarters is located in Chicago, Illinois. Information with respect to the Company's owned and leased warehousing and office facilities is set forth below:
SQUARE FEET OF LEASE WAREHOUSE AND EXPIRATION LOCATION OFFICE AREA INTEREST DATE -------- -------------- -------- ---------- Brookings, South Dakota....................... 518,000 Owned Butler, Pennsylvania.......................... 72,000 Owned Chicago, Illinois............................. 228,100 Leased December 31, 2010 Chicago, Illinois............................. 83,000 Leased October 31, 2000 Corsicana, Texas.............................. 450,000 Owned Denver, Colorado.............................. 360,000 Leased June 30, 2004 East Butler, Pennsylvania..................... 476,200 Owned Fogelsville (Allentown), Pennsylvania......... 600,000 Owned Ft. Smith, Arkansas........................... 206,500 Leased November 30, 2002 Harvard, Illinois............................. 1,310,000 Leased August 23, 2013 Harvard, Illinois............................. 160,000 Leased August 23, 2005 Henderson, North Carolina..................... 300,000 Owned Indianapolis, Indiana......................... 420,000 Owned Jonesboro (Atlanta), Georgia.................. 360,000 Owned Kansas City, Missouri......................... 415,000 Owned Kingman, Arizona.............................. 375,000 Owned Manchester, New Hampshire..................... 525,000 Owned Mankato, Minnesota............................ 320,000 Owned Parkesburg, Pennsylvania...................... 567,200 Owned Peachtree City, Georgia....................... 60,500 Leased November 24, 2005 Piedmont, South Carolina...................... 350,400 Owned Portland, Oregon.............................. 405,000 Owned Schiller Park, Illinois....................... 42,500 Leased April 30, 2001 Springfield, Oregon........................... 504,000 Owned Westfield, Massachusetts...................... 448,700 Owned Westlake (Cleveland), Ohio.................... 405,000 Owned Winnipeg, Manitoba............................ 432,000 Owned Woodland, California.......................... 350,000 Owned
No location owned by the Company is subject to a mortgage. In December 1983, the Company completed construction of a 150,000 square foot addition to its regional distribution center in Manchester, New Hampshire. This addition was financed with the proceeds from the sale of $4,000,000 State of New Hampshire Industrial Development Authority Revenue Bonds (TruServ Corporation Project) Series 1982. On October 1, 1997, and every three-year period thereafter, the interest rate on the 4.50% industrial revenue bonds will be adjusted based on a bond index. These bonds may be redeemed at face value at either the option of the Company or the bondholders at each interest reset date through maturity in 2003. In 1998, the Company announced the closing of three distribution centers. These are located in Parkesburg, Pennsylvania; Piedmont, South Carolina and Portland, Oregon. In 1997, the Company announced the closing of four distribution centers located in Ocala, Florida; Charleston, Illinois; Peachtree City, Georgia; and Ft. Smith, Arkansas. The Charleston, Illinois and Ocala, Florida properties were sold in 1998. The Fort Smith and Peachtree City properties are under lease and are currently under a sublease. The Butler, Pennsylvania office building was closed in 1997 and is available for sale. 7 9 Information with respect to the Company's manufacturing facilities is set forth below:
SQUARE FEET OF MANUFACTURING PRINCIPAL LOCATION AREA PRODUCT INTEREST -------- -------------- --------- -------- Chicago, Illinois............................. 105,000 Paint Owned Cary, Illinois................................ 580,000 Paint and Owned Paint Applicators
The Company's facilities are suitable for their respective uses and are, in general, adequate for the Company's present needs. The Company owns and leases transportation equipment for use at its regional distribution centers for the primary purpose of delivering merchandise from the Company's regional distribution centers to its Members. Additional information concerning these leases can be found in note 5 to the consolidated financial statements included elsewhere herein. ITEM 3. LEGAL PROCEEDINGS. There are no material pending legal proceedings, other than ordinary routine litigation incidental to the business, to which the Company or any of its subsidiaries is a party or of which any of their property is the subject. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. None. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. There is no existing market for the common stock of the Company and there is no expectation that any market will develop. The Company's Class A common stock is owned almost exclusively by retailers of hardware, lumber/building materials and related products each of whom is a Member of the Company and purchases sixty shares of the Company's Class A common stock (the only class of voting stock) upon becoming a Member. The Company is organized as a Delaware stock corporation and operates as a Member-owned wholesaler cooperative corporation. The shares of the Company's Class B nonvoting common stock now outstanding were issued to Members in partial payment of the annual patronage dividend to which they became entitled as a result of patronage business done by such Members with the Company. In accordance with the Company's By-Laws, the annual patronage dividend is paid to Members out of the gross margins from operations and other patronage source income, after deduction for expenses, reserves and provisions authorized by the Board of Directors. The number of holders of record (as of February 27, 1999) of each class of stock of the Company is as follows:
NUMBER OF HOLDERS OF RECORD TITLE OF CLASS ---------- Class A common stock, $100 Par Value........................ 8,178 Class B nonvoting common stock, $100 Par Value.............. 8,173
Dividends (other than patronage dividends) on the Class A common stock and Class B nonvoting common stock, subject to the provisions of the Company's Certificate of Incorporation, may be declared out of gross margins of the Company, other than gross margins from operations with or for Members and other patronage source income, after deduction for expenses, reserves and provisions authorized by the Board of Directors. Dividends may be paid in cash, in property, or in shares of the common stock, subject to the 8 10 provisions of the Certificate of Incorporation. Other than the payment of patronage dividends, including the redemption of all nonqualified written notices of allocation, the Company has not paid dividends on its Class A common stock or Class B nonvoting common stock. The Board of Directors does not plan to pay dividends on either class of stock. See the discussion of patronage dividends under Item 1--Business. ITEM 6. SELECTED FINANCIAL DATA. SELECTED FINANCIAL DATA
FOR THE FISCAL YEARS ------------------------------------------------------------------ 1998 1997 1996 1995 1994 ---------- ---------- ---------- ---------- ---------- (IN THOUSANDS EXCEPT PER SHARE DATA) Revenues........................... $4,328,238 $3,331,686 $2,441,707 $2,437,002 $2,574,445 Gross margins...................... 298,135 241,020 196,636 202,068 223,331 Net margins(a)..................... 20,480 42,716 52,410 59,037 60,318 Patronage dividends................ 35,024 43,782 53,320 60,140 60,421 Total assets....................... 1,600,764 1,438,913 853,985 819,576 868,785 Long-term debt..................... 316,959 169,209 80,145 79,213 75,756 Promissory (subordinated) and installment notes payable........ 124,422 172,579 185,366 186,335 199,099 Redeemable Class A common stock.... 49,880 47,423 4,876 5,294 6,370 Redeemable Class B nonvoting common stock............................ 195,643 187,259 114,053 113,062 116,663
- --------------- (a) The net margins for fiscal years 1998 and 1997 include deductions of $20,034,000 and $13,650,000, respectively, for non-recurring merger integration costs. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS BUSINESS COMBINATION On July 1, 1997, TruServ Corporation (the "Company"), formerly Cotter & Company ("Cotter") merged with Servistar Coast to Coast Corporation ("SCC") (the "Merger"). The transaction was accounted for using the purchase accounting method. Accordingly, the financial information for the year ended December 31, 1998 reflects the results of the post-Merger Company and the financial information for the year ended December 31,1997 reflects the results of the pre-Merger Company for the twenty-six weeks ended June 28, 1997 and the results of the post-Merger Company for the twenty-six weeks ended December 31, 1997. To facilitate the comparison of results for 1998 and 1997, supplemental comparisons have been provided using pro forma financial information. This pro forma information has been prepared for comparative purposes only and does not purport to be indicative of the results of operations that actually would have resulted had the Merger been in effect on the dates indicated, or which may result in the future.
YEAR ENDED YEAR ENDED DECEMBER 31, 1998 DECEMBER 31, 1997 ----------------- -------------------------- ACTUAL ACTUAL PRO FORMA(1) ----------------- ---------- ------------ (000'S OMITTED) Revenue.............................................. $4,328,238 $3,331,686 $4,224,215 Gross margin......................................... 298,135 241,020 284,356 Warehouse, general and administrative expense........ 204,520 148,767 175,774 Interest expense..................................... 55,100 36,965 43,459 Merger integration cost.............................. 20,034 13,650 -- Net margin........................................... 20,480 42,716 67,357
- --------------- (1) Assumes the Merger was consummated at January 1, 1997. 9 11 FISCAL YEAR 1998 COMPARED TO FISCAL YEAR 1997 RESULTS OF OPERATIONS Revenues in fiscal year 1998 totaled $4,328,238,000. This represented an increase of $996,552,000 or 29.9% compared to the comparable period last year. The increase was primarily due to the addition of Servistar Coast to Coast revenues that resulted from the July 1, 1997 merger of Cotter and SCC. The departments with the largest increase are the lumber/building material department, manufactured products, and the Canadian business. In the hardware department the largest increase was reflected in the direct shipment categories with TruServ Members responding to improved pricing programs. Gross margins increased by $57,115,000 or 23.7% but as a percentage of revenues decreased to 6.9% from 7.2% for the comparable period last year. This is the seventh year in a row that the gross margin as a percentage of revenue has decreased. The decrease in gross margin percentage resulted primarily from a change in the sales mix. The change in sales mix consisted of large volume increases in Lumber/Building Materials and Direct Shipments, which have lower gross margins. Pricing improvements resulted in lower direct shipment markups and a lower pricing on manufactured products. Warehouse, general and administrative expenses as a percentage of revenues increased to 4.7% from 4.5% compared with the prior year. The Company incurred additional warehousing expenses in association with commonizing inventory assortments, increased inventory levels, and the implementation of the distribution network strategy. Many of the potential cost efficiencies related to the Merger have not yet been realized and costs should be reduced as the Merger strategy is further implemented. Certain estimates of warehouse, general and administrative expenses are recorded throughout the year including expenses related to capitalizable inventory related costs and other expense items. During the fourth quarter of fiscal 1998, the Company recorded approximately $60,000,000 of net reductions in warehouse, general and administrative expenses relating to the refinement of these estimates recorded in the prior three quarters. Interest paid to Members decreased by $1,475,000 or 8.3% primarily due to a lower average interest rate and lower principal balance. Other interest expense increased $19,610,000 due to higher borrowings compared to the same period last year. The higher borrowings were required because of the increased cash requirement resulting from the merger and increased inventory levels. The effective borrowing rate for 1998 was lowered due to the renegotiation of the rates since the date of the Merger. The Company is required to meet certain financial ratios and covenants pertaining to certain debt arrangements. The Company's lenders have waived compliance with a covenant as of December 31, 1998 in lieu of amendments to the debt agreements, which were finalized by the Company during the first quarter of 1999. The combination of increased gross margins, offset by increased expenses and increased borrowing costs, resulted in a net margin before Merger integration costs of $40,514,000 in fiscal year 1998 compared to $56,366,000 in fiscal year 1997. Merger integration costs consist of one time non-recurring expenses directly attributable to the Merger including distribution center closings, severance pay, information systems costs and general and administrative costs. Merger integrations costs were $20,034,000 and $13,650,000 for fiscal years 1998 and 1997, respectively. The net margin after Merger integration cost was $20,480,000 and $42,716,000 for fiscal year 1998 and 1997, respectively. ACTUAL FISCAL 1998 COMPARED TO PRO FORMA FISCAL 1997 RESULTS OF OPERATIONS Revenues for the fiscal year totaled $4,328,238,000. This represented an increase of $104,023,000 or 2.5% compared to the prior year on a pro forma basis. The increase was attributable to revenue increases in lumber/ building materials and direct shipments. Gross margins increased by $13,779,000 or 4.8% and as a percentage of revenues, increased to 6.9% from 6.7% for the prior year on a pro forma basis. The increased gross margins came about primarily from the increase in revenue along with a reduction in the estimated capitalizable inventory-related costs. 10 12 Warehouse, general and administrative expenses increased by $28,746,000 or 16.4% and as a percentage of revenues increased to 4.7% from 4.2% for the prior year on a pro forma basis. The Company incurred additional warehousing expenses in association with commonizing inventory assortments, increased inventory levels, and the implementation of the distribution network strategy. Many of the potential cost efficiencies related to the Merger have not yet been realized and costs should be reduced as the Merger strategy is further implemented. Interest expense increased from $43,459,000 to $55,100,000 primarily due to higher short-term borrowings because of the increased cash requirement resulting from increased inventory levels. Integration costs consist of costs associated with the implementation of the Merger plan. The combination of increased gross margin partially offset by higher warehouse, general and administrative expense and higher interest expense, resulted in a net margin of $20,480,000 compared to $67,357,000 for the prior year on a pro forma basis. FISCAL YEAR 1997 COMPARED TO FISCAL YEAR 1996 RESULTS OF OPERATIONS In fiscal year 1997, TruServ Corporation revenues were $3,331,686,000, an increase of 36.4% from fiscal year 1996. The majority of the increase was due directly to the addition of SCC revenues since the July 1, 1997 Merger. The department with the largest increase is the lumber/building material department which is directly connected to the enhanced lumber program effective with the Merger. In the hardware segment the largest increase was reflected in the direct shipment categories with TruServ Members responding to the improved pricing programs. Additionally, TruServ Corporation continued to pursue business opportunities such as trueAdvantage, which increased 3.3% and the Canadian business which increased 6.6%. Overall gross margins as a percentage of revenues decreased for the sixth year in a row to 7.2% from 8.1% last year. The reduction in the gross margin percent was due to a combination of changes in sales mix, pricing improvements and conforming accounting policies. The change in sales mix consisted of large volume increases in lumber/building materials and direct shipments, which have lower gross margins. Pricing improvements resulted in lower direct shipment markups and a lower pricing on manufactured products. Warehouse, general and administrative expenses as a percentage of revenues were 4.5%, the lowest in over 10 years. The decrease in operating expenses was attributable to continued efforts to reduce operating costs. Certain estimates of warehouse, general and administrative expenses are recorded throughout the year including expenses related to capitalizable inventory-related costs and other expense items. During the fourth quarter of fiscal 1997, the Company recorded approximately $4,000,000 of net reductions in warehouse, general and administrative expenses relating to the refinement of these estimates recorded in the prior three quarters and cost recoveries from manufacturers of approximately $8,000,000 related to the Fall market. Interest paid to Members decreased by $595,000 or 3.2% primarily due to a lower average interest rate and the lower principal balance. Other interest expense increased $8,925,000 due to higher borrowings compared to the same period last year. The higher borrowings were required because of the increased cash requirements and inventory levels resulting from the Merger. The effective borrowing rate was lower due to the renegotiations of the rates since the date of the Merger. As a result, the net margin before Merger integration costs is $56,366,000 in fiscal year 1997 compared to $52,410,000 in fiscal year 1996. Merger integration costs of $13,650,000 consist of one time non-recurring expenses directly attributable to the Merger including distribution center closings, severance pay, information systems costs and general and administrative costs. These one time costs reduced the net margin to $42,716,000 for the year ended December 31, 1997. 11 13 LIQUIDITY AND CAPITAL RESOURCES Cash and cash equivalents decreased from $2,224,000 at December 31, 1997 to $1,650,000 at December 31, 1998. The decrease was primarily due to the cash requirements of the Company's operating activities. Cash used for operating activities was $102,092,000 for the year ended December 31, 1998 compared to cash provided for operating activities of $19,771,000 for the year ended December 31, 1997. The decrease resulted from an increase in accounts and notes receivable of $69,585,000 due to the seasonal payment terms extended to the Company's Members. During fiscal year 1998, inventories increased by $52,572,000 to support anticipated future orders of seasonal merchandise, the commonization of inventory and the implementation of the Distribution Network Strategic plan.. Cash flows used for investing activities were $44,011,000. Total capital expenditures, including those made under capital leases, were $71,343,000 for the fiscal year 1998 compared to $38,493,000 during the comparable period in 1997. These capital expenditures relate to additional equipment and technological improvements at the regional distribution centers and at the corporate headquarters, in addition to capital requirements resulting from the Merger. Funding of 1999 capital expenditures is anticipated to come from operations and external sources, if necessary. Proceeds from the sale of properties were $32,645,000. The Charleston, Illinois and Ocala, Florida distribution centers were sold in 1998. The Harvard, Illinois distribution center was also sold in 1998 and is currently being leased back to the company. The cash flows used for operating and investing activities were funded by various financing activities. The financing activities provided cash flow of $145,529,000. Short-term borrowings increased by $42,680,000. The Company's long-term borrowings increased by $158,821,000. At July 1, 1997, the Company had established a $300,000,000 five-year revolving credit facility with a group of banks. In addition, on September 30, 1998, the Company established a $100,000,000 three hundred sixty four day revolving credit facility. The borrowings under these agreements were $227,000,000 and $210,000,000 at December 31, 1998 and December 31, 1997, respectively. A commitment fee of .025% per annum is paid on the unused portion of the commitments. Also the Company has borrowings from a Commercial Paper program of $25,000,000 at December 31, 1998. The weighted average interest rate on these borrowings was 6.0% and 6.4%, respectively. Included in the financing activities were payments for patronage dividends of $12,142,000 and payments of debt obligations of $41,966,000. At December 31, 1998, net working capital increased to $241,533,000 from $175,975,000 at December 31, 1997. The current ratio was 1.26 at December 31, 1998 and 1.20 at December 31, 1997. The Company's capital is primarily derived from Class A common stock and retained earnings, together with promissory (subordinated) notes and nonvoting Class B common stock issued in connection with the Company's annual patronage dividend. The Company believes the funds derived from these capital resources, as well as operations and the credit facilities noted above, will be sufficient to satisfy capital needs. YEAR 2000 A portion of the Company's information systems are not "Year 2000 Ready". The definition of the term "Year 2000 Readiness" is that neither performance nor functionality, to the best of our knowledge, is affected by dates prior to, during or after the Year 2000: In particular (1) No value for current date will cause any interruption in operation, (2) Date-based functionality must behave consistently for dates prior to, during and after year 2000, (3) In all interfaces and data storage, the century in any date must be specified either explicitly or by unambiguous algorithms or inferencing rules, (4) Year 2000 must be recognized as a leap year. This means that the Company will need to incur certain costs to modify these systems prior to the Year 2000 in order to ensure that those systems continue to serve the needs of the Company and its Membership. Based upon current FASB guidelines, costs incurred to modify systems to be Year 2000 Ready must be expensed. Accordingly, such costs will reduce patronage dividends in years in which they are incurred. 12 14 The Company relies on both information technology and non-information technology computer systems in its operations. The mission critical information technology systems include the Company's operating, telecommunications and accounting systems. The non-information technology computer systems include such items as security systems, elevators and climate control at all warehouse locations and remote facilities. There can be no assurance that all systems needing modification prior to the Year 2000 will be properly and timely completed by the Company or third parties. Failure to do so could have a material adverse effect on the Company's financial condition. The Company cannot predict the actual effects on the Company of all Year 2000 issues because of a number of uncertainties such as: (1) whether major third parties address this issue properly and timely and (2) whether broad-based economic failures may occur. The Company is currently unaware of any events, trends, or conditions regarding this issue that may have a material effect on the Company's results of operations, liquidity or financial position. If the Year 2000 issue is not resolved by January 1, 2000 the adverse affect on the Company's results of operations or financial condition could be material. TruServ has established a corporate-wide Year 2000 program to help assure that TruServ is able to conduct business in a Year 2000 compliant environment. As a part of this effort, we are requiring our suppliers to assess their ability to continue trading with the Company as we approach the new millennium. In addition, the Company is planning to establish an alternative supplier plan in the event our key vendors have difficulty providing product to us. The program is on schedule for a completion date of July 1, 1999. The Year 2000 budget has been established at $16,900,000. Actual costs to date are $12,144,000. The approximate percentage of the Year 2000 costs to the total Information Services budget is 14%. The source of these funds will be provided by the normal operating and financing activities of TruServ Corporation. The expense for the Year 2000 program is as follows: 1996................................................... $ 1.0 million 1997................................................... $ 3.2 million 1998................................................... $ 7.9 million 1999................................................... $ 4.6 million projected 2000................................................... $ 0.2 million projected ----------------------- Total.................................................. $16.9 million =======================
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company's operations are subject to certain market risks, primarily interest rate risk and credit risk. Interest rate risk pertains to the Company's variable rate debt which totals approximately $200 million at December 31, 1998. A 50 basis point movement in the interest rates would result in an approximate $1 million annualized increase or decrease in interest expense and cash flows. For the most part, interest rate risk is managed through a combination of variable and fixed-rate debt instruments with varying maturities. Credit risk pertains mostly to the Company's trade receivables. The Company extends credit to its members as part of its day-to-day operations. The Company believes that as no specific receivable or group of receivables comprises a significant percentage of total trade accounts, its risk in respect to trade receivables is limited. Additionally, the Company believes that its allowance for doubtful accounts is adequate in respect to member credit risks. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. The Company's consolidated financial statements and report of independent auditors are listed on Page F-1. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. 13 15 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. The directors and senior and executive officers of the Company are:
POSITION(S) HELD AND NAME AGE BUSINESS EXPERIENCE ---- --- -------------------- Donald C. Belt..................... 52 Senior Vice President, Strategic and Business Initiatives since July, 1997. Prior position was with SCC as Senior Vice President, Marketing and Strategic Planning since 1985. Joe W. Blagg....................... 49 Director since April, 1996. Term expires April, 2001. James D. Burnett................... 63 Director since April, 1998. Term expires April, 2000. Daniel T. Burns.................... 48 Senior Vice President and General Counsel since July, 1997. Vice President and General Counsel since November, 1990 and Corporate Secretary since February, 1995. William M. Claypool, III........... 76 Director since March, 1970. Term expires April, 2000. Daniel A. Cotter................... 64 Chairman since July, 1997; Chief Executive Officer since January 1983, President from January 1983 to June 1997, and Director since September, 1989. Term expires April, 2001. Bernard D. Day..................... 51 Senior Vice President, Lumber/Building Materials since July, 1997. Prior position was Senior Vice President of Lumber/Building Materials for SCC. Jay B. Feinsod..................... 55 Director since July, 1997. Term expires April, 2001. Formerly Director of SCC since October, 1986. William M. Halterman............... 51 Director since June, 1990. Term expires April, 1999. Nominated by the Board of Directors for reelection to a three-year term. William H. Hood.................... 59 Director since July, 1997. Term expires April, 2000. Formerly Director of SCC since July, 1996. James D. Howenstine................ 55 Director since July, 1997. Term expires April, 1999. Formerly Director of SCC since October, 1995. Nominated by the Board of Directors for reelection to a three-year term. Donald J. Hoye..................... 50 President and Chief Operating Officer since January, 1999. Director since January 1999. Term expires April, 2002. Executive Vice President, Business Development since July, 1997. Prior position was with SCC as Executive Vice President. Jerrald T. Kabelin................. 61 Director since April, 1985. Term expires April, 1999. Nominated by the Board of Directors for reelection to a three-year term. Peter G. Kelly..................... 55 Vice Chairman and Director since July, 1997. Term expires April, 1999. Formerly Director and Chairman of SCC since January, 1981. Nominated by the Board of Directors for reelection to a three-year term.
14 16
POSITION(S) HELD AND NAME AGE BUSINESS EXPERIENCE ---- --- -------------------- Kerry J. Kirby..................... 52 Executive Vice President, Finance and Chief Financial Officer since July, 1997. Prior position was Vice Presi- dent, Treasurer and Chief Financial Officer. Robert J. Ladner................... 53 Vice Chairman and Director since April, 1994. Term expires April, 1999. Nominated by the Board of Directors for reelection to a three-year term. Formerly chairman of the Company. Eugene J. O'Donnell................ 52 Executive Vice President, Merchandising since July 1997. Prior position was with SCC as Executive Vice President. Robert Ostrov...................... 50 Senior Vice President, Human Resources since February, 1997. Prior position was Vice President of Human Re- sources and Benefits Organization for a retail company. Brian T. Schnabel.................. 46 Executive Vice President, Business Development since October, 1998. Prior position was President, and Chief Executive Officer for a manufacturing company. John P. Semkus..................... 53 Senior Vice President, Operations since July, 1997. Prior position was Vice President Distribution and Transporta- tion. George V. Sheffer.................. 46 Director since July, 1994. Term expires April, 2000. Dennis A. Swanson.................. 59 Director since April, 1995. Term expires April, 2001. Timothy N. Troy.................... 52 Executive Vice President, Logistics since October, 1998. Prior position was Vice President, Full Line Store Logis- tics for a retail company. John B. Wake, Jr. ................ 43 Director since July, 1997. Term expires April, 2000. Formerly Director of SCC since May, 1996. John M. West, Jr. ................. 46 Director since October, 1991. Term expires April, 2001. Barbara B. Wilkerson............... 50 Director since July, 1997. Term expires April, 2001. Formerly Director of SCC since October, 1986.
- --------------- During the past five years, the principal occupation of each director of the Company, other than Daniel A. Cotter and Donald J. Hoye, was the operation of retail hardware stores or lumber/building materials stores. ITEM 11. EXECUTIVE COMPENSATION. COMPENSATION COMMITTEE The Management Development and Compensation Committee of the Board of Directors (the "Committee") consists of four non-employee directors: James D. Howenstine, Jerrald T. Kabelin, Peter G. Kelly and Robert J. Ladner. In addition, Daniel A. Cotter, Chairman of the Board of Directors, and Chief Executive Officer, served as an ex-officio member of the Committee. The Committee assists the Board of Directors in fulfilling its responsibilities for setting and administering the policies which govern annual compensation and monitoring the Company's pension and certain other benefit plans. The Committee calls upon outside consultants for assistance, as necessary. The Committee meets at least annually. Primary responsibilities of the Committee include: - Establishing the Chairman and President's salary and annual and long-term incentive opportunities. - Approving other executive officer salaries recommended by the President. - Setting performance goals for the annual and long-term incentive plans. 15 17 - Assessing performance achievement relative to goals and approving incentive payments. The Committee makes recommendations to the Board of Directors regarding compensation of the Company's executive officers. The philosophy of the Committee is to maintain an executive compensation program to help the Company attract, retain and motivate the executive resources needed to maintain industry leadership, provide high levels of service to Members, and achieve the financial objectives as determined by the Board of Directors. To achieve its stated goals, the Company has developed three executive compensation policies. - The Company provides levels of salaried compensation that are competitive. - The Company provides annual incentive compensation for executives that vary in a consistent and predictable manner with the performance of the Company. - The Company provides an incentive program which enables selected executives to achieve incentive awards based on the long-term (multiple year) performance of the Company. The combination of these three compensation policies is intended to provide competitive earnings opportunities when performance reaches desired levels. Both the annual and long-term incentive plans are cancelable by the Board of Directors at any time. The Company provides salary levels that are competitive with the median (50th percentile) of the executive marketplace. The industry comparison groups used to evaluate competitiveness include: member owned organizations, wholesale distribution firms, mass merchandising firms and general industry and manufacturing organizations. Competitiveness is measured using data from a number of sources, including published information, proxies and surveys by consulting firms. The annual incentive plan is designed to ensure that executive compensation varies in relation to achievement of annual performance goals. Each executive's incentive award is determined by Company results and individual goals. The long-term incentive plan assures a continuing focus on the Company's future. Goals are set for performance achievement over three-year intervals. A new performance period starts each year and goals for each three-year cycle currently underway are related to achievement of financial goals. Both the Chairman and the CEO are eligible for the annual and long-term incentive compensation programs described above, consistent with the Company's policy of linking variable compensation to Company performance and achievement of specific individual goals. Variable compensation realized from these incentive programs comprises a significant portion of their annual remuneration. In addition, the Chairman and CEO each receive a base salary competitive with similar positions within like industries. 16 18 EXECUTIVE COMPENSATION The following table sets forth the total annual compensation paid to the Company's five most highly compensated executive officers during fiscal year 1998 and the total compensation paid to each such individual for the Company's two previous fiscal years: SUMMARY COMPENSATION TABLE
NAME AND OTHER LONG-TERM PRINCIPAL POSITION YEAR SALARY(1) BONUS(2) COMPENSATION(3) INCENTIVE(4) ------------------ ---- --------- -------- --------------- ------------ Daniel A. Cotter........................ 1998 $655,000 $ -- $ 29,786 $ -- Chairman of the Board and 1997 612,500 345,000 13,100 843,750 Chief Executive Officer 1996 575,000 310,500 6,656 -- Paul E. Pentz(5)........................ 1998 555,000 -- 165,595 -- President and Chief Operating Officer 1997 262,500 240,000 539,700 52,500 1996 -- -- -- -- Donald J. Hoye.......................... 1998 408,750 -- 58,395 -- Executive Vice President, 1997 180,000 144,300 89,000 29,880 Business Development 1996 -- -- -- -- Eugene J. O'Donnell..................... 1998 355,302 75,000 58,395 -- Executive Vice President, 1997 170,000 149,500 128,700 28,000 Merchandising 1996 -- -- -- -- Kerry J. Kirby.......................... 1998 310,125 -- 17,892 -- Executive Vice President, Finance and 1997 295,000 215,600 12,700 174,900 Chief Financial Officer 1996 262,500 85,100 5,719 --
- --------------- (1) Fiscal 1997 salary for Paul E. Pentz, Donald J. Hoye and Eugene J. O'Donnell is for the period from July 1, 1997 to December 31, 1997. (2) Annual bonus amounts are earned and accrued during the fiscal years indicated, and paid subsequent to the end of each fiscal year. In 1997 special one-time bonuses were granted for the successful completion of the merger. (3) Other compensation consists of Company contributions to the TruServ Corporation Employee's Savings and Compensation Deferral Plan (the "Savings Plan") and automobile allowances. Under the Savings Plan, each participant may elect to make a contribution in an amount of up to fifteen percent (15%) of his annual compensation, not to exceed $30,000 (including Company contributions) a year, of which $10,000 of the executive officer's salary in fiscal year 1998 may be deferred. The Company's contribution to the Savings Plan is equal to seventy-five percent (75%) of the participant's contribution, but not to exceed four and one-half percent (4 1/2%) of the participant's annual compensation. In 1998 other compensation for Mr. Pentz consists primarily of a transition bonus and vacation benefits of $75,000 and $54,327, respectively. For both Mr. Hoye and Mr. O'Donnell the 1998 other compensation consists primarily of a transition bonus of $40,000 that each of them received. In 1997 other compensation for Mr. Pentz consists primarily of life insurance premiums payable under his executive retirement plan and relocation payments of $427,697 and $76,569 respectively. Mr. Hoye's 1997 other compensation consists of $61,491 for relocation payments. Mr. O'Donnell's 1997 other compensation consists of $87,430 for relocation payments. (4) Long-term incentives for each open three year cycle were computed as of the effective date of the merger and paid on a pro-rata basis during the fiscal year. Daniel A. Cotter is employed under a long-term contract which commenced January 1, 1985 for a period of 15 years terminating December 31, 1999. Mr. Cotter has announced that he plans to retire at the end of December 1999. (5) Paul E. Pentz retired on December 31, 1998. 17 19 The Company has a severance policy providing termination benefits based upon annual compensation and years of service. Officers of the Company are also offered agreements providing for severance in the event of termination with the imposition of certain restrictions regarding competition and confidentiality. No loans were made by the Company to its executive officers or to its directors during the last three fiscal years. LONG-TERM PERFORMANCE CASH AWARDS The Board of Directors adopted a long-term incentive plan for the officers of the Company. Officers are eligible for cash payouts based on a percentage of their annual salary if performance goals established for the plan are met. Performance goals for the current plans relate to the achievement of financial goals of sales growth, net earnings and cash flow. A new plan starts each year with goals set for the next three year period. Target payouts which could be earned by the individuals listed in the Summary Compensation Table in fiscal year 2000 and paid in fiscal year 2001 are as follows: Daniel A. Cotter at 60%; Donald J. Hoye, Eugene J. O'Donnell and Kerry J. Kirby at 50%. DEFINED BENEFIT RETIREMENT PLANS The Company has a defined benefit pension plan, the TruServ Corporation Defined Lump Sum Pension Plan (the "Plan"), which is qualified under the Code. The Plan was amended and restated effective January 1, 1996. The amount of the Company's annual contribution to the Plan is determined for the total of all participants covered by the Plan, and the amount of payment with respect to a specified person is not and cannot readily be separated or individually calculated by the actuaries for the Plan. The Plan provides fully vested lump sum benefits to eligible employees who have served a minimum of five years of service. Annuities are also available and are the actuarial equivalent of the lump sum payment. Each of the executive officers listed in the foregoing Summary Compensation Table is a participant in the Plan. For each year of service, a participant receives a percentage of his or her "average compensation" in the form of a lump sum. The percentages range from two percent of average compensation for years of service performed prior to age 26, to twelve percent of average compensation for years of service performed at or after age 61. Participants with average compensation in excess of two-thirds of the Social Security Taxable Wage Base in the year of termination of employment or retirement receive an additional benefit on this excess compensation equal to half of the percentage applied to their full average compensation. Participants who were age 50 with at least fifteen years of service as of January 1, 1996 receive an additional 25% of their average compensation. The benefits under the Plan cannot be less than benefits already earned by the participant under the Plan as it existed prior to its amendment. The Plan was amended effective January 2, 1998 to include former employees of SERVISTAR/Coast to Coast. These employees get credit under the Plan for all years for which they received credit under the SERVISTAR/Coast to Coast Retirement Income Plan ("the SERVISTAR Plan"). In addition, any of these employees who had attained age 50 and completed 15 years of service as of January 1, 1998 receive an additional 25% of their average compensation. Also, the benefits under this Plan cannot be less than benefits already earned by the participant under the SERVISTAR Plan as of December 31, 1997. "Average compensation" means the average of the compensation paid to an eligible employee during the three highest consecutive calendar years within the ten consecutive calendar years immediately preceding the date of termination of employment. Compensation considered in determining benefits includes salary, overtime pay, commissions, bonuses, deferral contributions under the Savings Plan, and pre-tax medical premiums. The Company amended and restated effective July 24, 1998, a Supplemental Retirement Plan (the "Supplemental Plan") for certain employees as designated by the Company's President and Chief Executive Officer. The Plan was amended on July 1, 1997 to include certain former SCC employees. For each year of 18 20 service, participants receive a percentage of their "average compensation" in the form of a lump sum. The percentages are 33 percent of average compensation for years of service performed prior to age 55, to 18.1 21 42 percent of average compensation for years of service performed at or after age 55. Service is limited to 20 years, and the maximum aggregate percentage is 660%. This amount is reduced by any benefits payable under the Plan and eight times the participant's primary Social Security benefit. "Average Compensation" for the Supplemental Plan is defined the same as for the Plan, as discussed above. The benefits under the Supplemental Plan cannot be less than benefits already earned by the participant under the Supplemental Plan as it existed prior to its amendment. The Supplemental Plan is not a qualified plan under the Code. Benefits payable under the Supplemental Plan will be financed through internal operations. The estimated annual retirement benefits which may be payable pursuant to the Plan to the officers named in the Summary Compensation Table is currently limited under Section 401(a)(17) of the Code, which outlines the maximum earnings amounts which may be considered under the Plan in determining retirement benefits. This limit was $160,000 for 1998. Section 415 of the Code outlines the maximum annual benefit which may be payable from the Plan during the year; the dollar limit is $130,000 for 1999 for a participant retiring at age 65, with reduced amounts at younger ages. The actuarial equivalent of the annual amount may be payable as a lump sum. The following table reflects the combined estimated annual retirement benefits which may be payable pursuant to the Plan and the Supplemental Plan to the officers named in the Summary Compensation Table at retirement under various assumed conditions, assuming retirement at age 65.
YEARS OF SERVICE AVERAGE -------------------------------------------------------- COMPENSATION 10 15 20 25 30 - ------------------------------------------ -------- -------- -------- -------- -------- $1,000,000................................ $365,211 $507,994 $571,132 $571,132 $571,132 900,000................................. 328,043 456,225 512,726 512,726 512,726 800,000................................. 290,876 404,456 454,320 454,320 454,320 700,000................................. 253,708 352,687 395,914 395,914 395,914 600,000................................. 216,541 300,918 337,507 337,507 337,507 500,000................................. 179,373 249,148 279,101 279,101 279,101 400,000................................. 142,205 197,379 220,695 220,695 220,695 300,000................................. 105,038 145,610 162,289 162,289 162,289 200,000................................. 67,870 93,841 103,882 103,882 103,882 100,000................................. 30,703 42,072 45,476 45,476 45,476
The present credited years of service for the officers listed in the above table are as follows: Daniel A. Cotter, 32 years; Paul E. Pentz, 20 years; Donald J. Hoye, 28 years; Eugene J. O'Donnell, 6 years; Kerry J. Kirby, 23 years. There is no existing market for the Company's common stock and there is no expectation that any market will develop. There are no broad market or peer group indexes the Company believes would render meaningful comparisons. Accordingly, a performance graph of the Company's cumulative total shareholder return for the previous five years, with a performance indicator of the overall stock market for the Company's peer group, has not been prepared. In fiscal year 1998 directors of the Company were each paid $2,000 per month and advisory board members received $1,000 per month. The two Vice Chairmen of the Board are each paid to a maximum of $54,000 per year, when serving in the capacity as Vice Chairmen. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. As of February 28, 1999, each of the directors of the Company was the beneficial owner of 60 shares of Class A common stock of the Company comprising .3% of such shares issued and outstanding. No executive officer owns any shares of Class A common stock. The directors own in the aggregate approximately .5% of Class B nonvoting common stock as of February 28, 1999. No executive officer owns any shares of Class B nonvoting common stock. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. [None] 19 22 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K. (A) 1. FINANCIAL STATEMENTS The consolidated financial statements listed in the accompanying index (page F-1) to the consolidated financial statements are filed as part of this annual report. 2. FINANCIAL STATEMENT SCHEDULES No schedules have been filed because the required information is not applicable or is not material or because the required information is included in the consolidated financial statements or the notes thereto. 3. EXHIBITS The exhibits listed on the accompanying index to exhibits (pages E-1 and E-2) are filed as part of this annual report. (B) REPORTS ON FORM 8-K None. 20 23 SIGNATURES PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15 (D) OF THE SECURITIES EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS ANNUAL REPORT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED. TRUSERV CORPORATION By: /s/ KERRY J. KIRBY -------------------------------------- Kerry J. Kirby, Executive Vice President and Chief Financial Officer DATED: March 30, 1999 PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS ANNUAL REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF THE REGISTRANT AND IN THE CAPACITIES AND ON THE DATES INDICATED.
SIGNATURE TITLE DATE --------- ----- ---- /s/ DANIEL A. COTTER Chairman, Chief Executive March 30, 1999 - ----------------------------------------------------- Officer and Director Daniel A. Cotter /s/ DONALD J. HOYE President, Chief Operating March 30, 1999 - ----------------------------------------------------- Officer and Director Donald J. Hoye /s/ KERRY J. KIRBY Executive Vice President and March 30, 1999 - ----------------------------------------------------- Chief Financial Officer Kerry J. Kirby /s/ JOE W. BLAGG Director March 30, 1999 - ----------------------------------------------------- Joe W. Blagg /s/ JAMES D. BURNETT Director March 30, 1999 - ----------------------------------------------------- James D. Burnett /s/ WILLIAM M. CLAYPOOL, III Director March 30, 1999 - ----------------------------------------------------- William M. Claypool, III /s/ JAY B. FEINSOD Director March 30, 1999 - ----------------------------------------------------- Jay B. Feinsod /s/ WILLIAM M. HALTERMAN Director March 30, 1999 - ----------------------------------------------------- William M. Halterman /s/ WILLIAM H. HOOD Director March 30, 1999 - ----------------------------------------------------- William H. Hood /s/ JAMES D. HOWENSTINE Director March 30, 1999 - ----------------------------------------------------- James D. Howenstine /s/ JERRALD T. KABELIN Director March 30, 1999 - ----------------------------------------------------- Jerrald T. Kabelin
21 24
SIGNATURE TITLE DATE --------- ----- ---- /s/ PETER G. KELLY Director March 30, 1999 - ----------------------------------------------------- Peter G. Kelly /s/ ROBERT J. LADNER Director March 30, 1999 - ----------------------------------------------------- Robert J. Ladner /s/ GEORGE V. SHEFFER Director March 30, 1999 - ----------------------------------------------------- George V. Sheffer /s/ DENNIS A. SWANSON Director March 30, 1999 - ----------------------------------------------------- Dennis A. Swanson /s/ JOHN B. WAKE, JR. Director March 30, 1999 - ----------------------------------------------------- John B. Wake, Jr. /s/ JOHN M. WEST, JR. Director March 30, 1999 - ----------------------------------------------------- John M. West, Jr. /s/ BARBARA B. WILKERSON Director March 30, 1999 - ----------------------------------------------------- Barbara B. Wilkerson
22 25 ITEM 14(A). INDEX TO CONSOLIDATED FINANCIAL STATEMENTS.
PAGE(S) ------- Report of Independent Auditors.............................. F-2 Consolidated Balance Sheet at December 31, 1998 and December 31, 1997.................................................. F-3 Consolidated Statement of Operations for each of the three years in the period ended December 31, 1998............... F-4 Consolidated Statement of Cash Flows for each of the three years in the period ended December 31, 1998............... F-5 Consolidated Statement of Capital Stock and Retained Earnings for each of the three years in the period ended December 31, 1998......................................... F-6 Notes to Consolidated Financial Statements.................. F-7 to F-19
F-1 26 REPORT OF INDEPENDENT AUDITORS To the Members and the Board of Directors TruServ Corporation We have audited the accompanying consolidated balance sheet of TruServ Corporation (formerly Cotter & Company) as of December 31, 1998 and 1997, and the related consolidated statements of operations, cash flows, and capital stock and retained earnings for each of the three years in the period ended December 31, 1998. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of TruServ Corporation at December 31, 1998 and 1997 and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 1998, in conformity with generally accepted accounting principles. /s/ ERNST & YOUNG LLP Chicago, Illinois March 25, 1999 F-2 27 TRUSERV CORPORATION CONSOLIDATED BALANCE SHEET
DECEMBER 31, DECEMBER 31, 1998 1997 ------------ ------------ (000'S OMITTED) ASSETS Current assets: Cash and cash equivalents................................. $ 1,650 $ 2,224 Accounts and notes receivable, net........................ 537,811 476,527 Inventories............................................... 595,118 543,946 Other current assets...................................... 36,047 16,092 ---------- ---------- Total current assets.............................. 1,170,626 1,038,789 Properties, less accumulated depreciation................... 255,405 241,236 Goodwill, net............................................... 117,468 107,711 Other assets................................................ 57,265 51,177 ---------- ---------- Total assets...................................... $1,600,764 $1,438,913 ========== ========== LIABILITIES AND CAPITALIZATION Current liabilities: Accounts payable.......................................... $ 492,729 $ 455,906 Accrued expenses.......................................... 73,092 116,659 Short-term borrowings..................................... 258,147 215,467 Current maturities of notes, long-term debt and capital lease obligations...................................... 90,618 62,640 Patronage dividend payable in cash........................ 14,507 12,142 ---------- ---------- Total current liabilities......................... 929,093 862,814 Long-term debt, including capital lease obligations......... 316,959 169,209 Capitalization: Promissory (subordinated) and installment notes........... 124,422 172,579 Class A common stock, net of subscriptions receivable; authorized 750,000 shares; issued and fully paid 379,680 and 387,240 shares; issued 178,020 shares and 149,875 shares (net of receivable of $5,890,000 and $6,289,000)............................................ 49,880 47,423 Class B nonvoting common stock and paid-in capital; authorized 4,000,000 shares; issued and fully paid 1,748,326 and 1,681,934 shares; issuable as partial payment of patronage dividends 195,118 and 177,655 shares................................................. 195,643 187,259 Deferred patronage........................................ (14,438) -- Retained earnings......................................... 579 685 ---------- ---------- 356,086 407,946 Accumulated other comprehensive income.................... (1,374) (1,056) ---------- ---------- Total capitalization.............................. 354,712 406,890 ---------- ---------- Total liabilities and capitalization.............. $1,600,764 $1,438,913 ========== ==========
See Notes to Consolidated Financial Statements. F-3 28 TRUSERV CORPORATION CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE YEARS ENDED ------------------------------------------ DECEMBER 31, DECEMBER 31, DECEMBER 28, 1998 1997 1996 ------------ ------------ ------------ (000'S OMITTED) Revenues................................................. $4,328,238 $3,331,686 $2,441,707 ---------- ---------- ---------- Cost and expenses: Cost of revenues....................................... 4,030,103 3,090,666 2,245,071 Warehouse, general and administrative.................. 204,520 148,767 115,457 Interest paid to Members............................... 16,390 17,865 18,460 Other interest expense................................. 38,710 19,100 10,175 Gain on sale of properties............................. (954) (990) -- Other income, net...................................... (1,642) (1,688) (228) Income tax expense..................................... 597 1,600 362 ---------- ---------- ---------- 4,287,724 3,275,320 2,389,297 ---------- ---------- ---------- Net margins before merger integration costs.............. 40,514 56,366 52,410 Merger integration costs................................. 20,034 13,650 -- ---------- ---------- ---------- Net margins.............................................. $ 20,480 $ 42,716 $ 52,410 ========== ========== ==========
See Notes to Consolidated Financial Statements. F-4 29 TRUSERV CORPORATION CONSOLIDATED STATEMENT OF CASH FLOWS
FOR THE YEARS ENDED -------------------------------------------- DECEMBER 31, DECEMBER 31, DECEMBER 28, 1998 1997 1996 ------------ ------------ ------------ (000'S OMITTED) Operating activities: Net margins........................................... $ 20,480 $ 42,716 $ 52,410 Adjustments to reconcile net margins to cash and cash equivalents from operating activities: Depreciation and amortization...................... 32,452 25,451 20,561 Provision for losses on accounts and notes receivable....................................... 2,808 2,361 3,201 Changes in operating assets and liabilities -- net of acquisition in 1997: Accounts and notes receivable.................... (69,585) 47,288 (38,581) Inventories...................................... (52,572) (33,953) (32,243) Accounts payable................................. 36,823 (28,464) (10,593) Other current assets............................. (19,795) 1,277 (2,337) Accrued expenses................................. (50,498) (35,463) (2,563) Other adjustments, net............................. (2,205) (1,442) 536 --------- --------- -------- Net cash and cash equivalents provided by (used for) operating activities..................... (102,092) 19,771 (9,609) --------- --------- -------- Investing activities: Additions to properties owned......................... (70,733) (38,493) (23,530) Proceeds from sale of properties owned................ 32,645 2,628 3,151 Changes in other assets............................... (5,923) (8,494) (1,388) --------- --------- -------- Net cash and cash equivalents used for investing activities.................................... (44,011) (44,359) (21,767) --------- --------- -------- Financing activities: Payment of patronage dividend......................... (12,142) (20,619) (18,315) Payment of notes, long-term debt and lease obligations........................................ (41,966) (179,363) (40,271) Proceeds from long-term borrowings.................... 158,821 102,897 1,693 Increase in short-term borrowings..................... 42,680 142,755 67,937 Purchase of common stock.............................. (3,618) (24,585) (660) Proceeds from sale of Class A common stock............ 1,754 4,065 181 --------- --------- -------- Net cash and cash equivalents provided by financing activities.......................... 145,529 25,150 10,565 --------- --------- -------- Net increase (decrease) in cash and cash equivalents.... (574) 562 (20,811) Cash and cash equivalents at beginning of year.......... 2,224 1,662 22,473 --------- --------- -------- Cash and cash equivalents at end of year................ $ 1,650 $ 2,224 $ 1,662 ========= ========= ========
See Notes to Consolidated Financial Statements. F-5 30 TRUSERV CORPORATION CONSOLIDATED STATEMENT OF CAPITAL STOCK AND RETAINED EARNINGS
COMMON STOCK ACCUMULATED $100 PAR VALUE OTHER TOTAL ------------------- DEFERRED RETAINED COMPREHENSIVE COMPREHENSIVE CLASS A CLASS B PATRONAGE EARNINGS INCOME INCOME ------- -------- --------- -------- ------------- ------------- (000'S OMITTED) Balances at December 30, 1995...................... $ 5,294 $113,062 $ -- $ 2,661 $ (842) Net margins............... 52,410 $52,410 Foreign currency translation adjustment............. 2 2 Patronage dividend........ 8,645 (53,320) Stock subscriptions....... 189 Stock purchased and retired................ (607) (7,654) ------- -------- -------- -------- ------- ------- Balances at December 28, 1996...................... 4,876 114,053 -- 1,751 (840) $52,412 ======= Net margins............... 42,716 $42,716 Foreign currency translation adjustment............. (216) (216) Patronage dividend........ 26,304 (43,782) Stock issued for increase in Class A requirements........... 23,100 (23,100) Stock issued for paid-up subscriptions.......... 8,386 Stock issued due to acquisition, net of stock subscription receivable............. 13,608 117,067 Stock purchased and retired................ (2,547) (47,065) ------- -------- -------- -------- ------- ------- Balances at December 31, 1997...................... 47,423 187,259 -- 685 (1,056) $42,500 ======= Net margins............... 20,480 $20,480 Foreign currency translation adjustment............. (318) (318) Patronage dividend........ 19,512 (14,438) (20,586) Stock issued for increase in Class A requirements........... 781 (781) Stock issued for paid-up subscriptions.......... 6,637 Stock purchased and retired................ (4,961) (10,347) ------- -------- -------- -------- ------- ------- Balances at December 31, 1998...................... $49,880 $195,643 $(14,438) $ 579 $(1,374) $20,162 ======= ======== ======== ======== ======= =======
Class A common stock amounts are net of unpaid amounts of $5,890,000 relating to 178,020 issued shares at December 31, 1998, $6,289,000 relating to 149,875 issued shares at December 31, 1997 and $1,000 at December 28, 1996 and December 30, 1995 for 290 and 240 subscribed shares, respectively. See Notes to Consolidated Financial Statements. F-6 31 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. DESCRIPTION OF BUSINESS AND ACCOUNTING POLICIES TruServ Corporation ("TruServ" or the "Company") is a Member-owned wholesaler of hardware, lumber/building materials and related merchandise. The Company also manufactures paint and paint applicators. The Company's goods and services are sold predominantly within the United States, primarily to retailers of hardware, lumber/building materials and related lines, each of whom has purchased 60 shares per store (up to a maximum of 5 stores) of the Company's Class A common stock upon becoming a Member. The Company operates in a single industry as a Member-owned wholesaler cooperative. All Members are entitled to receive patronage dividend distributions from the Company on the basis of gross margins of merchandise and/or services purchased by each Member. In accordance with the Company's By-laws, the annual patronage dividend is paid to Members out of gross margins from operations and other patronage source income, after deduction for expenses and provisions authorized by the Board of Directors. On July 1, 1997, TruServ Corporation, formerly Cotter & Company ("Cotter"), merged with ServiStar Coast to Coast Corporation ("SCC") (the "Merger"). SCC was a hardware wholesaler with a strong presence in retail lumber and building materials. The transaction was accounted for using the purchase accounting method. The Consolidated Balance Sheet reflects the post-Merger Company. The Consolidated Statements of Operations and Cash Flows for the year ended December 31, 1998 reflect the results of the post-Merger Company. The Consolidated Statements of Operations and Cash Flows for the year ended December 31, 1997 reflect the results of the post-Merger Company, which include the results of the former SCC since July 1, 1997. The Consolidated Statements of Operations and Cash Flows for the year ended December 28, 1996 reflect the results of the pre-Merger Company. The significant accounting policies of the Company are summarized below: BUSINESS COMBINATION On July 1, 1997, pursuant to an Agreement and Plan of Merger dated December 9, 1996 between Cotter, a Delaware corporation, and SCC, SCC merged with and into Cotter, with Cotter being the surviving corporation. Cotter was renamed TruServ Corporation effective with the Merger. Each outstanding share of SCC common stock and SCC Series A stock (excluding those shares canceled pursuant to Article III of the Merger Agreement) were converted into the right to receive one fully paid and nonassessable share of TruServ Class A common stock and each two outstanding shares of SCC preferred stock were converted into the right to receive one fully paid and non-assessable share of TruServ Class B common stock. A total of 270,500 and 1,170,670 shares of TruServ Class A common stock and Class B common stock, respectively, were issued in connection with the Merger. Also 231,000 additional shares of TruServ Class A common stock were issued in exchange for Class B common stock to pre-Merger stockholders of Cotter to satisfy the Class A common stock ownership requirement of 60 shares per store (up to a maximum of 5 stores) applicable to such Members as a result of the Merger. The following summarized unaudited pro forma operating data for the years ended December 31, 1997, and December 28, 1996, are presented in the right hand column giving effect to the Merger as if it had been consummated at the beginning of the period. These pro forma results have been prepared for comparative purposes only and do not purport to be indicative of the results of operations that actually would have resulted had the combination been in effect on the dates indicated, or which may result in the future. The pro forma results exclude one-time non-recurring charges or credits directly attributable to the transaction. The pro forma adjustments consist of (i) amortization of the estimated excess of cost over fair value of the net assets of SCC, (ii) interest expense on promissory notes issued to former SCC Members for excess F-7 32 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED Class B common stock in connection with the Merger, (iii) interest expense on short-term borrowings obtained in connection with the Merger and (iv) incremental differences in depreciation expense.
FOR THE YEARS ENDED -------------------------------------------- DECEMBER 31, DECEMBER 31, DECEMBER 28, 1998 1997 1996 ------------ ------------ ------------ AUDITED PRO FORMA PRO FORMA (000'S OMITTED) Revenues................................................ $4,328,238 $4,224,215 $4,211,579 Net margin before merger integration costs.............. $ 40,514 $ 67,357 70,293
To refinance the existing debt of SCC and pay related fees and expenses, the Company entered into a revolving loan agreement of up to $300,000,000 in short-term credit facilities with a group of banks and $100,000,000 of long-term debt. The total purchase price of approximately $141,400,000 was allocated to assets and liabilities of the Company based on the estimated fair value as of the date of acquisition. The allocation was based on preliminary estimates, which were revised in 1998. The excess of consideration paid over the estimated fair value of net assets acquired in the amount of $121,706,000 has been recorded as goodwill and is being amortized on a straight-line basis over forty years. Amortization of goodwill was approximately $3,000,000 and $1,500,000 for the years ended December 31, 1998 and 1997, respectively. In connection with the purchase business combination, an estimated liability of $38,200,000 was recognized for costs associated with the Merger plan. During 1998, an adjustment was recorded reducing this liability and goodwill by $2,500,000. The Merger plan specifies the elimination of certain former SCC employment positions, approximately 1,500 in total, substantially within one year. As of December 31, 1998, approximately 88 percent of these employees have been terminated resulting in a $11,800,000 charge against the liability. The Merger plan specifies the closure of four redundant former SCC distribution centers substantially within a one-year period. Distribution center closing costs include net occupancy and other costs after facilities are vacated. As of December 31, 1998, two distribution centers have been closed and $2,100,000 relating to distribution center closing costs has been charged against the liability. As of December 31, 1998, additional costs of $17,800,000 related to moving and relocation and the closure of the former SCC headquarters have been charged against the liability. The remaining liability balance at December 31, 1998 of $4,000,000 is for costs expected to be incurred by the third quarter of 1999 in connection with elimination of the remaining employment positions and closing the remaining two distribution centers. Merger integration costs of $20,034,000 and $13,650,000 for the years ended December 31, 1998 and 1997, respectively, consist of one time non-recurring expenses directly attributable to the Merger including distribution center closings, severance pay, information service costs and general and administrative costs. Consolidation The consolidated financial statements include the accounts of the Company and all wholly owned subsidiaries. The consolidated financial statements also include the accounts of Cotter Canada Hardware and Variety Cooperative, Inc., a Canadian Member-owned wholesaler of hardware, variety and related merchandise, in which the Company has a majority equity interest. Capitalization The Company's capital (Capitalization) is derived from Class A voting common stock and retained earnings, together with promissory (subordinated) notes and Class B nonvoting common stock issued in connection with the Company's annual patronage dividend. The By-laws provide for partially meeting the Company's capital requirements by payment of the year-end patronage dividend. F-8 33 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED Patronage Dividend Patronage dividends, consisting of substantially all of the Company's patronage source income, have been paid since 1949. In accordance with the Merger Agreement, patronage dividends earned through June 30, 1997 were declared and paid to former Cotter & Company Members in August 1997. Patronage dividends earned from July 1, 1997 through December 31, 1997 were declared and paid to TruServ Members in the first quarter of 1998. Patronage dividends earned for fiscal year 1998 were declared and will be paid to TruServ Members in the first quarter of 1999 with at least 30 percent of the patronage dividend paid in cash and the remainder paid through the issuance of the Company's Class B nonvoting common stock. The Class B nonvoting common stock for December 31, 1998 and 1997, patronage dividend will be and have been, respectively, designated as non-qualified notices of allocation and are not taxable to the Member until redeemed at a future date. The non-qualified notices in addition to not being taxable will be included as part of a Member's required investment in Class B nonvoting common stock. Any further distributions after meeting the Class B nonvoting common stock requirements agreed upon in the Merger Agreement will be in cash rather than in promissory notes. TruServ follows the practice of accounting for deferred patronage charges and credits as a separate component of capitalization. Deferred patronage consists of net charges and expenses primarily related to the merger integration process which are included in the computation of net margin in different periods for financial statement purposes than for patronage purposes. Membership may be terminated without cause by either the Company or the Member upon ninety days' written notice. In the event membership is terminated, the Company undertakes to purchase, and the Member is required to sell to the Company, all of the Member's Class A common stock and Class B nonvoting common stock at par value. Payment for the Class A common stock will be in cash. Payment for the qualified Class B nonvoting common stock will be a note payable in five equal annual installments. Cash equivalents The Company classifies its temporary investments in highly liquid debt instruments, with an original maturity of three months or less, as cash equivalents. Inventories Inventories are stated at the lower of cost, determined on the 'first-in, first-out' basis, or market. Properties Properties are recorded at cost. Depreciation and amortization are computed by using the straight-line method over the following estimated useful lives: buildings and improvements - 10 to 40 years; machinery and warehouse, office and computer equipment - 5 to 10 years; transportation equipment - 3 to 7 years; and leasehold improvements - the life of the lease without regard to options for renewal. Goodwill Goodwill represents the excess of cost over the fair value of net assets acquired and is amortized using the straight-line method over 40 years. Asset Impairment For purposes of determining impairment, management groups long-lived assets based on a geographic region or revenue producing activity as appropriate. Such review includes, among other criteria, management's estimate of future cash flows for the region or activity. If the estimated future cash flows (undiscounted and without interest charges) were not sufficient to recover the carrying value of the long-lived assets, including F-9 34 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED associated goodwill, of the region or activity, such assets would be determined to be impaired and would be written down to fair value. There was no asset impairment as of December 31, 1998. Start-up Costs In April 1998, the AICPA issued SOP 98-5, Reporting the Costs of Start-up Activities. The SOP is effective beginning on January 1, 1999, and requires that start-up costs capitalized prior to January 1, 1999 be written-off and any future start-up costs to be expensed as incurred. The unamortized balance of start-up costs will be written off as a cumulative effect of an accounting change as of January 1, 1999 and will result in a reduction of 1999 net margins of approximately $6,500,000. Revenue Recognition The Company recognizes revenue when merchandise is shipped or services are rendered. Retirement plans The Company sponsors two noncontributory defined benefit retirement plans covering substantially all of its employees. Company contributions to union-sponsored defined contribution plans are based on collectively bargained rates times hours worked. The Company's policy is to fund annually all tax-qualified plans to the extent deductible for income tax purposes. Use of estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Reclassification Certain prior year amounts have been reclassified to conform to the 1998 presentation. Reporting year The Company's reporting year-end was changed to December 31 from the Saturday closest to December 31 starting December 31, 1997. 2. INVENTORIES Inventories consisted of:
DECEMBER 31, DECEMBER 31, 1998 1997 ------------ ------------ (000'S OMITTED) Manufacturing inventories: Raw materials............................................. $ 4,331 $ 4,878 Work-in-process and finished goods........................ 46,942 29,241 -------- -------- 51,273 34,119 Merchandise inventories..................................... 543,845 509,827 -------- -------- $595,118 $543,946 ======== ========
F-10 35 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED 3. PROPERTIES Properties consisted of:
DECEMBER 31, DECEMBER 31, 1998 1997 ------------ ------------ (000'S OMITTED) Buildings and improvements.................................. $216,765 $240,700 Machinery and warehouse equipment........................... 96,513 92,832 Office and computer equipment............................... 151,515 113,386 Transportation equipment.................................... 40,013 28,470 -------- -------- 504,806 475,388 Less accumulated depreciation............................... 263,668 248,168 -------- -------- 241,138 227,220 Land........................................................ 14,267 14,016 -------- -------- $255,405 $241,236 ======== ========
4. LONG-TERM DEBT AND BORROWING ARRANGEMENTS Long-term debt consisted of:
DECEMBER 31, DECEMBER 31, 1998 1997 ------------ ------------ (000'S OMITTED) Senior Notes: 8.60%..................................................... $ 40,000 $ 44,000 7.38%..................................................... 50,000 50,000 6.91%..................................................... 25,000 25,000 6.85%..................................................... 105,000 -- 6.79%..................................................... 50,000 -- 6.73%..................................................... 25,000 25,000 Variable term loan (6.21% and 6.84%, respectively).......... 6,200 6,200 Redeemable (subordinated) term notes: Fixed Interest rates ranging from 5.15% to 7.47%.......... 28,655 29,511 Industrial Revenue Bonds (4.50%)............................ 4,000 4,000 Other, including capital lease obligations.................. 9,456 3,936 -------- -------- 343,311 187,647 Less amounts due within one year............................ 26,352 18,438 -------- -------- $316,959 $169,209 ======== ========
The principal payments for the 8.60 percent senior note are due quarterly in incrementally increasing amounts through maturity in 2007, payments on the 7.38 percent senior note are due annually in the amount of $4,545,000 starting in 2002 through maturity in 2012, the 6.91 percent senior note payments are due annually in the amount of $3,571,000 starting November 2001 until maturity in 2007, the 6.85 percent senior note payment are due annually in the increasing amounts starting January 2002 through maturity in July 2008, the 6.79 percent senior note payments are due annually in the amount of $10,000,000 starting June 2006 until June 2010, and the 6.73% senior note is due in full in November 2002. Payment on the variable term loan is due in 1999. F-11 36 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED The redeemable (subordinated) term notes have two to four year terms and are issued in exchange for promissory (subordinated) notes that were held by promissory note holders, who do not own the Company's Class A common stock. They are also available for purchase by investors that are affiliated with the Company. On October 1, 1997, and every three-year period thereafter, the interest rate on the industrial revenue bonds will be adjusted based on a bond index. These bonds may be redeemed at face value at the option of either the Company or the bondholders at each interest reset date through maturity in 2003. Total maturities of long-term debt for fiscal years 1999, 2000, 2001, 2002, 2003 and thereafter are $26,352,000, $18,777,000, $11,342,000, $49,750,000, $32,385,000 and $204,705,000, respectively. At July 1, 1997, the Company had established a $300,000,000 five-year revolving credit facility with a group of banks. In addition, on September 30, 1998, the Company established a $100,000,000 three-hundred-sixty-four day revolving credit facility. The borrowings under these agreements were $227,000,000 and $210,000,000 at December 31,1998 and December 31, 1997, respectively. A commitment fee of .025 percent per annum is paid on the unused portion of the commitments. Also, the Company has borrowings from a Commercial Paper program of $25,000,000 at December 31, 1998. The weighted average interest rate on these borrowings was 6.0 percent and 6.4 percent, respectively. The Company is required to meet certain financial ratios and covenants pertaining to certain debt arrangements. The Company's lenders have waived compliance with one covenant as of December 31, 1998 in lieu of amendments to the debt agreements which were finalized by the Company during the first quarter of 1999. See note 7 regarding the fair value of financial instruments. 5. LEASE COMMITMENTS The Company rents buildings and warehouses, office, computer and transportation equipment under operating and capital leases. The following is a schedule of future minimum lease payments under capital and long-term non-cancelable operating leases, together with the present value of the net minimum lease payments as of December 31, 1998:
CAPITAL OPERATING ------- --------- (000'S OMITTED) 1999................................................... $ 4,004 $ 19,536 2000................................................... 3,317 18,047 2001................................................... 1,082 15,308 2002................................................... 766 13,383 2003................................................... 558 12,363 Thereafter............................................. 844 80,215 ------- -------- Net minimum lease payments.................................. $10,571 $158,852 ======== Less amount representing interest........................... 1,865 ------- Present value of net minimum lease payments................. 8,706 Less amount due within one year............................. 3,433 ------- $ 5,273 =======
Capitalized leases expire at various dates and generally provide for purchase options but not renewals. Purchase options provide for purchase prices at either fair market value or a stated value which is related to lessor's book value at expiration of the lease term. During 1998, the Company entered into an agreement for the sale and leaseback of its Harvard facility. The $2,139,000 gain realized on the sale has been deferred and F-12 37 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED will be amortized over the 15-year lease term. The lease commenced in November 1998, and has annual payments of approximately $2,700,000. Rent expense under operating leases was $28,291,000, $19,890,000 and $14,971,000 for the years ended December 31, 1998, December 31, 1997 and December 28, 1996, respectively. 6. CAPITALIZATION Promissory (subordinated) and installment notes consisted of:
DECEMBER 31, DECEMBER 31, 1998 1997 ------------ ------------ (000'S OMITTED) Promissory (subordinated) notes - Due on December 31, 1998--7.47%........................... $ -- $ 14,252 Due on December 31, 1998--8.00%........................... -- 25,128 Due on December 31, 1999--7.86%........................... 13,871 14,104 Due on December 31, 1999--8.00%........................... 23,361 23,809 Due on December 31, 1999--8.20%........................... 21,804 22,528 Due on December 31, 2000--6.50%........................... 22,157 22,493 Due on December 31, 2000--7.42%........................... 14,366 14,951 Due on December 31, 2000--7.58%........................... 27,711 28,357 Due on December 31, 2001--5.74%........................... 15,785 -- Due on December 31, 2001--8.06%........................... 22,821 23,567 Term (subordinated) notes Due on June 30, 2002--8.06%............................... 13,001 13,334 Installment notes at interest rates of 4.75% to 8.20% with maturities through 2002............... 13,811 14,258 -------- -------- 188,688 216,781 Less amounts due within one year............................ 64,266 44,202 -------- -------- $124,422 $172,579 ======== ========
Promissory notes were issued for partial payment of the annual patronage dividend. Promissory notes are subordinated to indebtedness to banking institutions, trade creditors and other indebtedness of the Company as specified by its Board of Directors. Due to a change in the Company's patronage policy effective in 1997, notes will no longer be issued as part of the patronage dividend. Prior experience indicates that the maturities of a significant portion of the notes due within one year are extended, for a three year period, at interest rates substantially equivalent to competitive market rates of comparable instruments. The Company anticipates that this practice of extending notes will continue. Total maturities of promissory and installment notes for fiscal years 1999, 2000, 2001 and 2002 are $64,266,000, $68,304,000, $41,570,000, and $14,548,000 respectively. Term notes were issued in connection with the redemption of excess B stock. Term notes are subordinated to indebtedness to banking institutions, trade creditors and other indebtedness of the Company as specified by its Board of Directors. See note 7 regarding the fair value of financial instruments. F-13 38 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED 7. FAIR VALUE OF FINANCIAL INSTRUMENTS Due to the uncertainty of the ultimate maturities of the promissory (subordinated) notes, management believes it is impracticable to estimate their fair value. The carrying amounts of the Company's other financial instruments approximate fair value. Fair value was estimated using discounted cash flow analyses, based on the Company's incremental borrowing rate for similar borrowings. 8. INCOME TAXES Significant components of the provision (benefit) for income taxes are as follows:
FOR THE YEARS ENDED -------------------------------------------------- DECEMBER 31, DECEMBER 31, DECEMBER 28, 1998 1997 1996 ------------ ------------ ------------ (000'S OMITTED) Current: State............................................. $ 710 $ 491 $237 Foreign........................................... 290 343 275 ------ ------ ---- Total current..................................... 1,000 834 512 ------ ------ ---- Deferred: Federal........................................... -- 703 (147) State............................................. -- 124 (26) Foreign........................................... (403) (61) 23 ------ ------ ---- Total deferred.................................... (403) 766 (150) ------ ------ ---- $ 597 $1,600 $362 ====== ====== ====
The Company operates as a nonexempt cooperative and is allowed a deduction in determining its taxable income for amounts paid as qualified patronage dividend based on margins from business done with or for Members and for the redemption of nonqualified notices of allocation. The reconciliation of income tax expense to income tax computed at the U.S. federal statutory tax rate of 35 percent in fiscal year 1998, 1997 and 1996 is as follows:
FOR THE YEARS ENDED -------------------------------------------------- DECEMBER 31, DECEMBER 31, DECEMBER 28, 1998 1997 1996 ------------ ------------ ------------ (000'S OMITTED) Tax at U.S. statutory rate.......................... $ 7,377 $ 15,511 $ 18,470 Effects of: Patronage dividend................................ (12,258) (15,324) (18,662) State income taxes, net of federal tax benefit.... 462 400 137 Increase in valuation allowance................... 3,714 -- -- Other, net........................................ 1,302 1,013 417 -------- -------- -------- $ 597 $ 1,600 $ 362 ======== ======== ========
Deferred income taxes reflect the net tax effects of net operating loss carryforwards which expire in years through 2018; alternative minimum tax credit carryforwards and nonqualified notices of allocations, which do not expire; and temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. To the extent tax benefits are subsequently recognized in excess of the net deferred tax assets, approximately $28,800,000 of the reduction in the valuation F-14 39 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED allowance for deferred tax assets will result in a reduction of goodwill. Significant components of the Company's deferred tax assets and liabilities are as follows:
FOR THE YEARS ENDED -------------------------------------------- DECEMBER 31, DECEMBER 31, DECEMBER 28, 1998 1997 1996 ------------ ------------ ------------ (000'S OMITTED) Deferred tax assets: Net operating loss carryforwards...................... $ 15,868 $ 9,937 $ 466 AMT credit carryforward............................... 911 911 911 Nonqualified notices of allocation.................... 16,697 6,890 -- Bad debt provision.................................... 2,049 3,305 1,298 Vacation pay.......................................... 3,122 3,225 2,119 Contributions to fund retirement plans................ 3,871 627 886 Rent expense.......................................... 2,072 1,819 -- Merger-related valuations and accruals................ 5,865 21,656 -- Other................................................. 3,752 1,280 851 -------- -------- ------ Total deferred tax assets............................... 54,207 49,650 6,531 Valuation allowance for deferred tax assets............. (33,067) (25,000) -- -------- -------- ------ Net deferred tax assets................................. 21,140 24,650 6,531 Deferred tax liabilities: Tax depreciation in excess of book.................... 1,450 5,102 2,100 Inventory capitalization.............................. 1,725 1,725 835 Other................................................. 1,475 1,333 1,557 -------- -------- ------ Total deferred tax liabilities.......................... 4,650 8,160 4,492 -------- -------- ------ Net deferred taxes...................................... $ 16,490 $ 16,490 $2,039 ======== ======== ======
9. CASH FLOW On July 1, 1997, the Company merged with SCC. The transaction was accounted for using the purchase accounting method. The Merger was accomplished by converting SCC shares into TruServ shares. See note 1 for additional comments. The patronage dividend and promissory (subordinated) and redeemable (subordinated) term note renewals relating to non-cash operating and financing activities are as follows:
FOR THE YEARS ENDED -------------------------------------------- DECEMBER 31, DECEMBER 31, DECEMBER 28, 1998 1997 1996 ------------ ------------ ------------ (000'S OMITTED) Patronage dividend payable in cash...................... $14,507 $ 12,142 $16,142 Promissory (subordinated) notes......................... (3,252) 7,511 15,354 Class B nonvoting common stock.......................... 9,950 (21,592) 1,248 Installment notes....................................... 5,532 11,742 4,605 Member indebtedness..................................... 8,287 29,502 15,971 ------- -------- ------- $35,024 $ 39,305 $53,320 ======= ======== ======= Note renewals and interest rollover..................... $24,058 $ 22,240 $28,165 ======= ======== =======
F-15 40 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED The Company's non-cash financing and investing activities in fiscal years 1998 and 1996 include, respectively, a $610,000 and $178,000 acquisition of transportation equipment by entering into capital leases. Cash paid for interest during fiscal years 1998, 1997 and 1996 totaled $52,722,000, $34,693,000, and $28,694,000, respectively. Cash paid for income taxes during fiscal years 1998, 1997 and 1996 totaled $903,000, $1,148,000 and $694,000, respectively. 10. RETIREMENT PLANS The change in the benefit obligation and plan assets for the Company administered pension plans consisted of:
FOR THE YEARS ENDED ---------------------------- DECEMBER 31, DECEMBER 31, 1998 1997 ------------ ------------ (000'S OMITTED) Change in benefit obligation: Projected benefit obligation at beginning of year......... $189,838 $104,977 Service cost.............................................. 7,418 6,511 Interest cost............................................. 13,259 10,386 Benefit payments.......................................... (5,713) (11,818) Actuarial losses.......................................... 25,503 9,050 Settlements............................................... (29,354) -- Business combinations..................................... -- 70,732 -------- -------- Projected benefit obligation at end of year............... 200,951 189,838 -------- -------- Change in plan assets: Fair value of plan assets at beginning of year............ 198,170 107,954 Actual return on assets................................... 31,454 27,243 Employer contributions.................................... 2,396 4,347 Benefit payments.......................................... (5,713) (11,818) Settlements............................................... (29,354) -- Business combinations..................................... -- 70,444 -------- -------- Fair value at end of year................................. 196,953 198,170 -------- -------- Reconciliation of Funded Status: Funded status............................................. (3,998) 8,332 Unrecognized transition asset............................. (3,883) (5,335) Unrecognized prior service cost........................... 7,840 8,824 Unrecognized actuarial gain............................... (6,236) (17,495) -------- -------- Accrued benefit cost...................................... $ (6,277) $ (5,674) ======== ========
F-16 41 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED The components of net pension cost for the Company administered pension plans consisted of:
FOR THE YEARS ENDED -------------------------------------------- DECEMBER 31, DECEMBER 31, DECEMBER 28, 1998 1997 1996 ------------ ------------ ------------ (000'S OMITTED) Components of net periodic pension cost: Service cost.......................................... $ 7,418 $ 6,511 $ 4,851 Interest cost......................................... 13,259 10,386 7,623 Expected return on assets............................. (16,083) (12,677) (8,821) Amortization of transition asset...................... (835) (835) (914) Amortization of prior service cost.................... 984 795 593 Amortization of actuarial loss........................ -- 79 161 Settlement gain....................................... (1,745) -- (799) -------- -------- ------- Net pension cost...................................... $ 2,998 $ 4,259 $ 2,694 ======== ======== =======
One of the Company's pension plans is the supplemental executive retirement plan ("SERP"), which is an unfunded defined benefit plan. The funded status in the table above is net of an accrued pension expense liability of $13,266,000 and $11,587,000 related to the SERP at December 31, 1998 and 1997, respectively. The Company also participates in union-sponsored defined contribution plans. Pension costs related to these plans were $861,000, $654,000 and $641,000 for fiscal years 1998, 1997 and 1996, respectively.
PENSION BENEFITS FOR THE YEARS ENDED ---------------------------- DECEMBER 31, DECEMBER 31, 1998 1997 ------------ ------------ Weighted average assumptions Discount rate....................................... 6.75% 7.25% Expected return on assets........................... 9.50% 9.50% Rate of compensation increase....................... 4.50% 4.50%
OTHER BENEFITS FOR THE YEARS ENDED ---------------------------- DECEMBER 31, DECEMBER 31, 1998 1997 ------------ ------------ Weighted average assumptions Discount rate....................................... 6.75% 7.25% Medical trend rate.................................. 5.00% 5.00%
The Company sponsors a defined benefit retirement medical plan for those SCC employees and former employees that met certain age and service criteria as of the Merger dated July 1, 1997. The plan was frozen effective with the Merger. The components of the retiree medical plan costs for the Company administered plan consist of interest cost of $351,000 and a curtailment gain totaling $1,582,000 for a $1,231,000 benefit in 1998 compared to an interest cost of $236,000 in 1997. Accumulated post retirement benefit obligation ("APBO") of $6,618,000 was created with the merger on July 1, 1997, interest cost in 1997 was $236,000 offset by claims paid of $201,000 and actuarial gains of $7,000 for an APBO at December 31, 1997 of $6,646,000. Reductions to the APBO in 1998 were a curtailment gain of $1,582,000 and claims paid of $500,000 offset by interest cost of $351,000 and an actuarial loss of $274,000 for an APBO of $5,189,000 at December 31, 1998. The funded status at December 31,1997 was a liability of $6,653,000 which includes the APBO of $6,646,000 plus an unrecognized actuarial gain of $7,000. The funded status at December 31, 1998 F-17 42 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED was a liability of $4,922,000 which includes the APBO of $5,189,000 offset by an unrecognized actuarial loss of $267,000. The plan has no assets. During 1998 and 1997, the Company contributed to the plan $500,000 and $201,000, respectively, and there were benefit payments of $500,000 and $201,000, respectively. The effect of a 1 percent increase in the medical trend rate would increase service and interest cost components by $17,000 and postretirement benefit obligation by $232,000. The effect of a 1 percent decrease in the medical trend rate would decrease service and interest cost components by $14,000 and postretirement benefit obligation by $187,000. 11. SEGMENT INFORMATION AND OTHER NEW ACCOUNTING PRONOUNCEMENTS In 1998, the Company adopted the Statement of Financial Accounting Standards ("SFAS") No. 131 "Disclosure about Segments of an Enterprise and Related Information", SFAS No. 132 "Employers' Disclosures about Pension and Other Postretirement Benefits" and SFAS No. 130 "Reporting Comprehensive Income." SFAS No. 131 requires companies to report financial and descriptive information about its reportable operating segments, including segment profit or loss, certain specific revenue and expense items, and segment assets, as well as information about the revenues derived from the Company's products and services, the countries in which the Company earns revenues and holds assets, and major customers. This statement also requires companies that have been single reportable segment to disclose information about products and services, information about geographic areas, and information about major customers. This statement requires the use of the management approach to determine the information to be reported. The management approach is based on the way management organizes the enterprise to assess performance and make operating decisions regarding the allocation of resources. It is management's opinion that, at this time, the Company has several operating segments, however only one reportable segment. The following discussion sets forth the required single segment information: The Company operates as a single reportable segment as the largest Member-owned wholesaler cooperative of hardware, lumber/building materials and related merchandise in the United States, operations outside the United States were immaterial, with 1998 net sales of $4.3 billion. The Company's sales to its Members are divided into three categories, as follows: (1) warehouse shipment (approximately 40% of total sales); (2) direct shipment sales (approximately 54% of total sales); and (3) relay sales (approximately 6% of total sales). Warehouse shipment sales are sales of products purchased, warehoused and resold by the Company upon orders from the Members. Direct shipment sales are sales of products purchased by the Company but delivered directly to Members from manufacturers. Relay sales are sales of products purchased by the Company in response to the requests of several Members for a product which is (i) included in future promotions, (ii) not normally held in inventory and (iii) is not susceptible to direct shipment. Generally, the Company will give notice to all Members of its intention to purchase products for relay shipment and then purchases only so many of such products as the Members order. When the product shipment arrives at the Company, it is not warehoused; rather, the Company breaks up the shipment and "relays" the appropriate quantities to the Members who placed orders. F-18 43 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED The Company's product offerings, comprised of more than 72,000 stockkeeping units ("SKUs"), may be divided into seven classes of merchandise which are set forth, with their corresponding percentage of total revenues in the following table:
FOR THE FISCAL YEARS -------------------------- 1998 1997 1996 ---- ---- ---- Lumber and Building Materials............................... 30.2% 24.5% 12.8% Hardware Goods.............................................. 17.8% 19.5% 22.4% Farm and Garden............................................. 14.5% 13.1% 13.8% Electrical and Plumbing..................................... 13.4% 15.6% 18.2% Painting and Cleaning....................................... 10.8% 12.0% 14.0% Appliances and Housewares................................... 8.4% 9.4% 11.2% Sporting Goods and Toys..................................... 4.9% 5.7% 7.8%
SFAS No. 132 revises and improves disclosure requirements of SFAS No. 87 "Employers' Accounting for Pensions," No. 88 "Employers' Accounting for Settlements and Curtailments of Defined Benefit Pension Plans and for Termination Benefits," and No. 106 "Employers' Accounting for Postretirement Benefits Other Than Pensions." SFAS No. 132 does not change the recognition or measurement of pension and other postretirement benefit plans, but standardizes disclosure requirements for pensions and other postretirement benefits, eliminates unnecessary disclosures and requires certain additional information. In accordance with SFAS No. 132, the Company adjusted the reporting and display of its pension plans and postretirement benefits. SFAS No. 130 establishes new rules for the reporting and display of comprehensive income and its components; however, the adoption of this statement had no impact on the Company's net margin or capitalization. Comprehensive income (loss) consists of net margin and foreign currency translation adjustments and is presented in the Consolidated Statement of Capital Stock and Retained Earnings. Prior year consolidated financial statements have been reclassified to conform with SFAS No. 130 requirements. F-19 44 INDEX TO EXHIBITS
SEQUENTIALLY EXHIBITS NUMBERED ENCLOSED DESCRIPTION PAGE -------- ----------- ------------ 21 Subsidiaries.
EXHIBITS INCORPORATED BY REFERENCE ------------ 2-A Agreement and Plan of Merger dated as of December 9, 1996 between the Company and ServiStar Coast to Coast Corporation ("SCC"). Incorporated by reference -- Exhibit 2-A to Registration Statement on Form S-4 (No. 333-18397). 4-A Amended and Restated Certificate of Incorporation of the Company, effective July 1, 1997. Incorporated by reference--Exhibit 2-A to Registration Statement on Form S-4 (No. 333-18397). 4-B By-laws of the Company, effective July 1, 1997. Incorporated by reference--Exhibit 2-A to Registration Statement on Form S-4 (No. 333-18397). 4-C Specimen certificate of Class A common stock. Incorporated by reference--Exhibit 4-A to Registration Statement on Form S-2 (No. 2-82836). 4-D Specimen certificate of Class B common stock. Incorporated by reference--Exhibit 4-B to Registration Statement on Form S-2 (No. 2-82836). 4-E Promissory (subordinated) note form effective for the year-ending December 31, 1986 and thereafter. Incorporated by reference--Exhibit 4-H to Registration Statement on Form S-2 (No. 33-20960). 4-F Installment note form. Incorporated by reference--Exhibit 4-F to Registration Statement on Form S-2 (No. 2-82836). 4-G Copy of Note Agreement with Prudential Insurance Company of America dated April 13, 1992 securing 8.60% Senior Notes in the principal sum of $50,000,000 with a maturity date of April 1, 2007. Incorporated by reference--Exhibit 4-J to Post-Effective Amendment No. 2 to Registration Statement on Form S-2 (No. 33-39477). 4-H Cotter & Company $50,000,000 Private Shelf Agreement with Prudential Insurance Company of America dated December 29, 1995 incorporating amendment on existing Note Agreement with Prudential Insurance Company of America dated April 13, 1992 securing 8.60% Senior Notes in the principal sum of $50,000,000 with a maturity date of April 1, 2007. Incorporated by reference--Exhibit 4-H to Post-Effective Amendment No. 5 to Registration Statement on Form S-2 (No. 33-39477). 4-I Trust Indenture between Cotter & Company and First Trust of Illinois (formerly Bank of America). Incorporated by reference--Exhibit T3C to Cotter & Company Form T-3 (No. 22-26210). 4-J Credit Agreement dated July 1, 1997 for $300,000,000 Revolving credit between TruServ Corporation, various financial institutions, and Bank of America. Incorporated by reference--Exhibit 4-L to Post-Effective Amendment No. 5 to Registration Statement on Form S-4 (H3-333-18397) 4-K Amended and Restated Private Shelf Agreement between TruServ Corporation and Prudential Insurance Company of America dated November 13, 1997 for $150,000,000. Incorporated by reference--Exhibit 4-M to Post-Effective Amendment No. 5 to Registration Statement on Form S-4 (No. 333-18397)
* Filed herewith E-1 45
EXHIBITS INCORPORATED BY REFERENCE ------------ 4-L Credit Agreement dated September 10, 1998 for $105,000,000 Note Purchase Agreement between TruServ Corporation and various Purchasers. Incorporated by reference--Exhibit 4-L to Post-Effective Amendment No. 6 to Registration Statement on Form S-4 (No. 333-183997) 4-M Participation Agreement dated April 30, 1998 for $40,000,000 between TruServ Corporation, various financial institutions and Bank of Montreal. Incorporated by reference--Exhibit 4-M to Post-Effective Amendment No. 6 to Registration Statement on Form S-4 (No. 333-18397) 4-N Credit Agreement dated September 30, 1998 for $100,000,000 Revolving Credit between TruServ Corporation, various financial institutions and Bank of America. Incorporated by reference--Exhibit 4-N to Post-Effective Amendment No. 6 to Registration Statement on Form S-4 (No. 333-18397) 10-A Current Form of "Retail Member Agreement with TruServ" between the Company and its Members that offer primarily hardware and related items. Incorporated by reference-- Exhibit 10-A to Registration Statement on Form S-4 (No. 333-18397). 10-B Current Form of "Subscription to Shares of TruServ". Incorporated by reference--Exhibit 10-B to Registration Statement on Form S-2 (No. 333-18397). 10-C Cotter & Company Defined Lump Sum Pension Plan (As Amended and Restated Effective As Of January 1, 1996). Incorporated by reference--Exhibit 10-C to Post-Effective Amendment No. 5 to Registration Statement on Form S-2 (No. 33-39477). 10-D Cotter & Company Employees' Savings and Compensation Deferral Plan (As Amended and Restated Effective April 1, 1994). Incorporated by reference--Exhibit 10-D to Post-Effective Amendment No. 4 to Registration Statement on Form S-2 (No. 33-39477). 10-E Cotter & Company Supplemental Retirement Plan between Cotter & Company and selected executives of the Company (As Amended and Restated January 2, 1996 Effective As Of January 1, 1996). Incorporated by reference--Exhibit 10-E to Post-Effective Amendment No. 5 to Registration Statement on Form S-2 (No. 33-39477). 10-F Annual Incentive Compensation Program and Long-Term Incentive Compensation Program between Cotter & Company and selected executives of the Company. Incorporated by reference--filed as Exhibits A and B to Exhibit 10-N to Registration Statement on Form S-2 (No. 33-39477). 10-G Cotter & Company Long-Term Incentive Compensation Program for Executive Management (Amended) dated November 7, 1994. Incorporated by reference--Exhibit 10-I to Post-Effective Amendment No. 4 to Registration Statement on Form S-2 (No. 33-39477). 10-H Employment Agreement between the Company and Daniel A. Cotter dated October 15, 1984. Incorporated by reference--Exhibit 10-N to Post-Effective Amendment No. 2 to Registration Statement on Form S-2 (No. 2-82836). 10-I Amendment No. 1 to Employment Agreement between the Company and Daniel A. Cotter dated October 15, 1984 effective January 1, 1991. Incorporated by reference--Exhibit 10-N to Registration Statement on Form S-2 (No. 33-39477). 10-J Contract between Daniel T. Burns and the Company. Incorporated by reference--Exhibit 10-J to Post-Effective Amendment No. 5 to Registration Statement on Form S-2 (No. 33-39477). 10-K Contract between Kerry J. Kirby and the Company. Incorporated by reference--Exhibit 10-K to Post-Effective Amendment No. 5 to Registration Statement on Form S-2 (No. 33-39477). 10-L Retail Conversion Funds Agreement dated as of December 9, 1996 between the Company and SCC. Incorporated by reference--Exhibit 10-L to Registration Statement on Form S-4 (No. 333-18397).
E-2 46
SEQUENTIALLY SUPPLEMENTAL NUMBERED INFORMATION PAGE - ------------ ------------
Supplemental Information to be Furnished with Reports Filed Pursuant to Section 15(d) of the Act by Registrants which have not Registered Securities Pursuant to Section 12 of the Act. As of the date of the foregoing Report, no annual report for the Registrant's year ended December 31, 1998 has been sent to security holders. Copies of such Annual Report and proxy soliciting materials will subsequently be sent to security holders and furnished to the Securities and Exchange Commission. E-3 EX-21 2 SUBSIDIARIES 1 Exhibit 21 Subsidiaries of Registrant The registrant owns 100% of the issued and outstanding Capital Stock of TruServ Real Estate Agency, Inc., TruServ Acceptance Company, TruServ Logistics Company, and General Paint and Manufacturing Co., all Illinois corporations, ServiStar Paint Company and Advocate Services Incorporated, both Pennsylvania Corporations, and indirectly through TruServ Real Estate Agency, Inc., 100% of the issued and outstanding capital stock of True Value de Mexico, S.A. de C.V., a Mexican Corporation, Mary Green, LLC, a Delaware Corporation, and is the sole member of True Specialty Company, LLC. The accounts of these subsidiaries have been consolidated with the registrant's in December 31, 1998, and December 31, 1997. In January 1992, the registrant formed a Canadian subsidiary, Cotter Canada Hardware & Variety Company, Inc., owning 100% of the issued and outstanding Capital Stock. Indirectly, through this subsidiary, the registrant owns 100% of the issued and outstanding voting Preferred Stock of the Canadian cooperative, Cotter Canada Hardware and Variety Cooperative, Inc. EX-27 3 FINANCIAL DATA SCHEDULE
5 12-MOS DEC-31-1998 DEC-31-1997 DEC-31-1998 1,650 0 537,811 0 595,118 1,170,626 519,073 263,668 1,600,764 929,093 316,959 0 0 245,523 124,422 1,600,764 4,328,238 4,328,238 4,030,103 4,030,103 222,555 0 55,100 21,077 597 20,480 0 0 0 20,480 0 0
-----END PRIVACY-ENHANCED MESSAGE-----