-----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, TrLVh+gGsjOLR6iYt2DHGXjRysyGCBDsvD2y1v/ObsbOdpY1Gn6b5cZ/bi8CgV3o mxv0+UDnRHq6iXtgLmcQ6A== 0000950137-01-504869.txt : 20020412 0000950137-01-504869.hdr.sgml : 20020412 ACCESSION NUMBER: 0000950137-01-504869 CONFORMED SUBMISSION TYPE: S-1/A PUBLIC DOCUMENT COUNT: 5 FILED AS OF DATE: 20011127 FILER: COMPANY DATA: COMPANY CONFORMED NAME: TRUSERV CORP CENTRAL INDEX KEY: 0000025095 STANDARD INDUSTRIAL CLASSIFICATION: WHOLESALE-LUMBER, PLYWOOD, MILLWORK & WOOD PANELS [5031] IRS NUMBER: 362099896 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: S-1/A SEC ACT: 1933 Act SEC FILE NUMBER: 333-49846 FILM NUMBER: 1800158 BUSINESS ADDRESS: STREET 1: 8600 WEST BRYN MAWR AVE CITY: CHICAGO STATE: IL ZIP: 60631-3505 BUSINESS PHONE: 7736955000 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 S-1/A 1 c66246a3s-1a.txt AMENDMENT TO REGISTRATION STATEMENT AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON NOVEMBER 27, 2001 REGISTRATION NO. 333-49846 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 PRE-EFFECTIVE AMENDMENT NO. 3 ON FORM S-1 TO FORM S-2 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 TRUSERV CORPORATION (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 5072 36-2099896 (State of Incorporation) (Primary Industrial (IRS Employer Identification Classification Code Number) No.)
8600 WEST BRYN MAWR AVENUE CHICAGO, ILLINOIS 60631-3505 (773) 695-5000 (Address, including zip code, and telephone number, including area code, of Registrant's Principal Executive Offices) PAMELA FORBES LIEBERMAN Chief Executive Officer and President TruServ Corporation 8600 West Bryn Mawr Avenue Chicago, Illinois 60631-3505 (773) 695-5000 Fax: (773) 695-6563 (Name, Address, including Zip Code, and Telephone Number, including Area Code, of Agent for Service) ------------------------ Copy to: NATALIA DELGADO Goldberg, Kohn, Bell, Black, Rosenbloom & Moritz, Ltd. 55 E. Monroe Street Suite 3700 Chicago, Illinois 60603 (312) 201-3989 Fax: (312) 332-2196 ------------------------ Approximate date of commencement of proposed sale to the public: As soon as practicable after the effective date of this Registration Statement. If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box. [X] If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] If delivery of the prospectus is expected to be made pursuant to Rule 434, check the following box. [ ] THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a), MAY DETERMINE. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. WE MAY NOT SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER TO SELL THESE SECURITIES AND IT IS NOT SOLICITING AN OFFER TO BUY THESE SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED. SUBJECT TO COMPLETION, DATED , 2001 PROSPECTUS TRUSERV CORPORATION $50,000,000 VARIABLE DENOMINATION SUBORDINATED FIXED RATE TERM NOTES(1) The notes are designed to provide you with a convenient means of investing funds directly with us. If you invest in the notes, your investment will be recorded in your name and with your member number, if applicable in a program account at The Northern Trust Company, which is our agent bank. You will not receive a certificate or other evidence of ownership. Your program account is not a deposit or other bank account and is not insured by the Federal Deposit Insurance Corporation or any other governmental agency. We will issue notes each calendar quarter with two, three and four year terms. We will pay interest on the notes from the date of issuance at fixed rates of interest for each maturity. The interest rate on the notes for sale each quarter may be reset each calendar quarter at the discretion of TruServ Corporation. That interest rate will remain in effect for the notes sold until their maturity date. As of the date of this prospectus and for the quarter commencing January 1, 2002, TruServ has set the interest rate at 9.00% per annum for two-year notes, 9.50% per annum for three-year notes and 10.00% per annum for four-year notes. The interest rate on the unsold notes may be reset no later than the first business day of the month that is two months prior to the beginning of each calendar quarter, which will be approximately 60 days prior to the effective day of the new rates. There is neither a market for these notes nor is a market expected to develop. The notes have restricted transferability, and they may be redeemed by us. We also reserve the right to modify, withdraw or cancel this offer. The notes are unsecured obligations and are subordinated to senior notes, bank debt, amounts due trade creditors and capital leases. Consider carefully the Risk Factors beginning on page 4 in this Prospectus. NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES COMMISSION HAS APPROVED OR DISAPPROVED THESE SECURITIES, OR DETERMINED IF THIS PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. THESE SECURITIES ARE OFFERED FOR SALE IN THE DISTRICT OF COLUMBIA PURSUANT TO REGISTRATION WITH THE DISTRICT OF COLUMBIA DEPARTMENT OF INSURANCE AND SECURITIES REGULATION, BUT REGISTRATION IS PERMISSIVE ONLY AND DOES NOT CONSTITUTE A FINDING THAT THIS PROSPECTUS IS TRUE, COMPLETE, AND NOT MISLEADING, NOR HAS THE DEPARTMENT OF INSURANCE AND SECURITIES REGULATION PASSED IN ANY WAY UPON THE MERITS OF, RECOMMENDED, OR GIVEN APPROVAL TO THESE SECURITIES. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. IN FLORIDA THE SECURITIES COVERED BY THIS PROSPECTUS HAVE NOT BEEN REGISTERED WITH THE STATE OF FLORIDA BUT ARE BEING OFFERED UNDER A LIMITED OFFERING EXEMPTION WHICH ALLOWS FLORIDA PURCHASERS TO CANCEL THEIR PURCHASES OF THIS STOCK WITHIN 3 DAYS AFTER MAKING ANY PAYMENT ON ACCOUNT OF THE PURCHASE PRICE. - -------------------------------------------------------------------------------- - --------------------------------------------------------------------------------
PER UNIT TOTAL - ----------------------------------------------------------------------------------------------- Public Price................................................ $1,000 $50,000,000(2) Underwriting discounts...................................... none none (3) Proceeds to TruServ......................................... $1,000 $50,000,000(4)
- -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- (1) Interest on the notes will be set by TruServ Corporation in its discretion and the interest rate on the notes for sale each quarter may be reset in succeeding quarters. (2) The minimum purchase required is $1,000. (3) There are no underwriters in this offering. We are offering the notes directly to you. (4) There are no firm commitments for the sale of these notes. If the entire offering is sold, we will receive $50,000,000 before estimated expenses of $90,200. THESE SECURITIES ARE OFFERED THROUGH TRUSERV CORPORATION 8600 WEST BRYN MAWR AVENUE CHICAGO, ILLINOIS 60631-3505 THE DATE OF THIS PROSPECTUS IS SUMMARY The summary highlights information contained elsewhere in this prospectus. Because this is only a summary, it does not contain all the information that you should consider before buying notes in this offering. You should read the entire prospectus carefully, including our consolidated financial statements and the related notes beginning at page F-1. TRUSERV TruServ is principally engaged as a wholesaler of hardware and related products and is a manufacturer of paint products. TruServ is one of the largest member-owned wholesaler of these items in the United States. RECENT FINANCIAL RESULTS As of December 31, 2000, TruServ Corporation had net earnings of $34,117,000 compared to a loss of $130,803,000 at December 31, 1999. In 2000, TruServ experienced one-time gains in the aggregate amount of approximately $34,000,000, resulting from the settlement of certain pension claims and the sale of its lumber and building materials division. As of September 29, 2001, TruServ had a loss of $13,840,000 compared to income of $12,446,000 as of September 30, 2000. DEBT COVENANT VIOLATION Under certain senior notes and the revolving credit facility TruServ is required to meet certain restrictive financial ratios and covenants relating to minimum EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization), minimum fixed charge coverage, minimum borrowing base to debt ratio, maximum capital expenditures and maximum asset sales, as well as other customary covenants, representations and warranties, funding conditions and events of default. As of December 31, 2000, TruServ was in compliance with the covenant requirements. However, as of February 24, 2001, TruServ failed to comply with a covenant under the revolving credit facility and the senior note agreements which requires TruServ to achieve a minimum monthly borrowing base ratio. As a result, either the senior note holders or the participants in the revolving credit facility could declare this failure to comply with the covenant as an "event of default," in which case the senior notes and the amounts outstanding under the credit facility would become callable as immediately payable. See "Risk Factors--Debt Covenant Default." On March 30, 2001 the participants in the revolving credit facility issued to TruServ a "reservation of rights" letter under which the participants effectively stated their intention to not call as immediately payable TruServ's outstanding debt obligations until May 1, 2001, although they were not precluded from doing so. All other rights of the participants were preserved. Additional letters were issued on April 30, 2001, July 3, 2001 and August 30, 2001, which extended the reservation of rights until July 30, 2001, September 30, 2001 and February 28, 2002, respectively. The senior note holders also issued letters reserving their right to accelerate the maturity of the notes although agreeing not to do so at this time. The reservation of rights letters provided by the participants in the revolving credit facility permanently reduced the credit limit under this facility on May 11, 2001 from $275,000,000 to $250,000,000 and on September 4, 2001 from $250,000,000 to $200,000,000. Additionally, the interest rate on the amounts outstanding under the revolving credit facility was increased by approximately 2%; this increased interest rate also applies to the outstanding senior notes. As a result of this increased interest rate, TruServ will incur additional interest expense in fiscal year 2001. If this increased interest rate continues through December 31, 2001, the additional interest expense would aggregate approximately $6.5 million. On September 28, 2001, TruServ signed a $350,000,000 fully underwritten revolving credit facility commitment from Bank of America for borrowings against TruServ's accounts receivable and inventory. However, TruServ is still in discussions with the current lenders to amend the existing agreements and with other potential lenders regarding refinancing the existing agreements and could replace the existing agreements with an asset-based lending agreement with a new lending group in the fourth quarter of 2001. 2 However, no assurances can be given as to the outcome. TruServ's failure to successfully refinance or amend its current borrowing arrangements could cause the current lending group to call as immediately payable TruServ's currently outstanding debt obligations. TruServ's resulting inability to satisfy its debt obligations would force TruServ to pursue other alternatives to improve liquidity, possibly including among other things, restructuring actions, sales of assets and seeking additional sources of funds or liquidity. In particular, TruServ has engaged an investment banking firm to assist us in exploring the sale of the paint manufacturing business. No assurances can be given that TruServ would be successful in pursuing such possible alternatives or, even if successful, that such undertakings would not have a material adverse impact on TruServ. Accordingly, the balances outstanding under the senior note agreements and the revolving credit facility have been classified as current liabilities as of December 31, 2000 and September 29, 2001. However, the financial statements do not include any other adjustments that might result from the outcome of this uncertainty. THE NOTES We are offering the notes exclusively to current TruServ members who own Class A common stock and to current holders of other TruServ notes. We will issue notes each calendar quarter in two, three, and four-year terms. You must pay for the notes with U.S. funds or through the delivery (by rollover or transfer) of other TruServ notes. You will have the option of receiving your semi-annual interest payments, or you may have the interest payments added to your account balance. The notes will be subordinated as to payment to TruServ's senior notes, bank debt, capital leases (collectively, the "Senior Debt") and amounts due trade creditors. In the event that TruServ defaults on its Senior Debt, we may not be able to make any principal payments on the notes when due, unless the principal payment is consented to by the Senior Debt creditors. Therefore, if the default is not cured under the Senior Debt before the first interest payment is due on the notes, we may not be able to pay you interest when due until the default is cured. Interest would continue to accrue and be paid on the unpaid principal amount outstanding. Upon the cure or other resolution of the default to the satisfaction of the Senior Debt creditors, any delayed principal payments and accrued interest related thereto would be remitted to the subordinated noteholders. At the time of this offering, TruServ is in default on certain of its Senior Debt. See "Risk Factors--The notes are subordinated to TruServ's substantial Senior Debt and in the event of a default under the Senior Debt the notes may not be repaid." There is no existing trading market for these notes, and we do not expect any market will develop. You may not transfer any of the notes that you purchase, except to another TruServ member or current TruServ noteholder and only with the prior written consent of TruServ. You cannot pledge any of the notes as collateral for any of your debts. Additionally, only TruServ may redeem all or part of the notes prior to the maturity date. If we elect to redeem the notes, you will be paid the principal amount plus accrued interest up to the date of redemption. 3 CONSOLIDATED RATIO OF EARNINGS TO FIXED CHARGES The ratio of earnings to fixed charges for each of the periods indicated is as follows:
FOR THE THIRTY-NINE FOR THE YEARS WEEKS ENDED -------------------------------- SEPTEMBER 29, 2001 2000 1999 1998 1997 1996 - ------------------- ---- ---- ---- ---- ---- .75 1.45 (.60) 1.20 1.91 2.57
The ratio of earnings to fixed charges has been computed by dividing earnings before income taxes plus fixed charges by fixed charges. Fixed charges consist of interest expense and the portion of rental expense deemed to represent interest expense. For 1999, earnings were insufficient to cover fixed charges and taxes by $130,803,000. RISK FACTORS You should consider the following risks before investing in the notes: TRUSERV'S FAILURE TO SUCCESSFULLY REFINANCE OR AMEND ITS CURRENT BORROWING ARRANGEMENTS COULD CAUSE THE CURRENT LENDING GROUP TO CALL AS IMMEDIATELY PAYABLE TRUSERV'S CURRENTLY OUTSTANDING DEBT OBLIGATIONS. As of February 24, 2001, TruServ failed to comply with a covenant under its revolving credit facility and its senior note agreements, which requires TruServ to achieve a minimum monthly borrowing base ratio. As a result, TruServ's senior note holders or the participants in the revolving credit facility could declare this failure to comply with the covenant as an "event of default". In case they were to do so, all of the senior notes and the amounts outstanding under the credit facility would become callable as immediately payable. TruServ's failure to successfully refinance or amend its current borrowing arrangements could cause the current lending group to call as immediately payable TruServ's currently outstanding debt obligations. TruServ's resulting inability to satisfy its debt obligations could require TruServ to face restructuring or even bankruptcy. In such case, you may not be able to achieve a return on your investment in TruServ. See "Summary--Debt Covenant Violation." OUR AUDITORS HAVE EXPRESSED DOUBTS ABOUT TRUSERV'S ABILITY TO CONTINUE AS A GOING CONCERN. The financial statements of TruServ have been prepared assuming that TruServ will continue as a going concern. However, TruServ's auditors have expressed substantial doubt about TruServ's ability to continue as a going concern as a result of the violation by TruServ of restrictive debt covenants in its lending agreements. While TruServ is in the process of negotiating with its lending group, the lending group could call as immediately payable TruServ's currently outstanding debt obligations. See "Summary--Debt Covenant Violation" and "Risk Factors--Debt Covenant Default." IF TRUSERV'S CASH FLOW IS NEGATIVELY IMPACTED IT WILL NOT BE ABLE TO PAY PRINCIPAL AND INTEREST ON THE NOTES. TruServ will pay principal and interest payments on the notes with cash flow from operations. TruServ will not create a sinking fund to repay the notes upon maturity or upon earlier redemption. TruServ's cash flow fluctuates quarterly due to the seasonal sales and promotional programs offered to members from time to time. TruServ generates the majority of its positive cash flow in the fourth quarter of each year. Moreover TruServ's gross margin percentage have been decreasing in recent years and continuing decreases could negatively impact cash flow. THE NOTES ARE SUBJECT TO VARIOUS TRANSFER RESTRICTIONS INCLUDING A RIGHT OF SET OFF BY TRUSERV AND YOU MAY THEREFORE NOT BE ABLE TO LIQUIDATE YOUR INVESTMENT IN THE NOTES FOR AN INDEFINITE PERIOD OF TIME. There is currently no trading market for the notes and we do not foresee a market developing at any time in the future. The ownership of the notes may not be transferred unless to another TruServ member or current TruServ noteholder and only with the prior written consent of TruServ. You cannot pledge any of the notes as 4 collateral. Any probate proceeding or court decrees affecting ownership of the notes will cause the notes to be redeemed subject to a penalty. Therefore, you will not be able to liquidate your investment in the notes for an indefinite period of time. Investors should be aware that all of your investments in us, including the notes, are subject to our lien rights ensuring payment of any amounts that you owe to us. The Retail Member Agreement that each member signed with TruServ provides that TruServ shall have a lien on, and a right of setoff against, any stock or notes issued to the member, including those issued as patronage dividends. With regard to patronage dividends, this lien and right of setoff encompasses any cash portion of the patronage dividend which is issued and exceeds twenty percent (20%) of the overall patronage dividend payable in any year. TruServ takes this lien/right of setoff in order to secure any member or former member indebtedness that may, for whatever cause, exist in favor of TruServ or its subsidiaries. See "The Note Program--Note Subordination and Lien Rights." The notes are not insured. An investment in the notes is an investment in TruServ Corporation. The notes are not obligations of a bank or another company. THE NOTES ARE SUBORDINATED TO TRUSERV'S SUBSTANTIAL SENIOR DEBT AND IN THE EVENT OF A DEFAULT UNDER THE SENIOR DEBT THE NOTES MAY NOT BE REPAID. TruServ is financed by debt capital obtained from various external sources. TruServ Corporation has a revolving credit facility with various banks currently aggregating $200,000,000 and expiring on June 30, 2002. As of September 29, 2001, TruServ had drawn down $140,000,000 under the revolving credit facility. The revolving credit facility is secured by the assets of TruServ. Draws on the revolving credit facility are subject to compliance with financial covenants. The financial covenants under the revolving credit facility include a fixed charge coverage ratio, minimum EBITDA requirement, a minimum borrowing base to debt ratio and a debt to total capitalization ratio. Also, TruServ has senior secured notes in the aggregate principal amount of $284,000,000 as of September 29, 2001 that are held by several financial institutions. The senior secured notes are also secured by the assets of TruServ and subject to substantially the same financial covenant compliance as the revolving credit agreement. The interest rates on the senior secured notes ranges from 9.98% to 11.85% with various maturity dates between 2002 and 2012. On September 29, 2001, TruServ also had outstanding $3,059,000 under capital leases and TruServ's Canadian subsidiary had $7,823,000 of short term borrowings. See "Summary--Debt Covenant Violation." TruServ is currently in default under its Senior Debt. If it does not cure the default prior to the date interest becomes due on the notes, it may not be able to make interest payments on the notes. See "Terms of the Trust Indenture--Subordination." In addition to the Senior Debt owed to the banks and other financial institutions, TruServ had outstanding on September 29, 2001, $121,936,000 of debt subordinate to the Senior Debt with various maturity dates between 2001 and 2005, all of which subordinate debt is held by members and former members of TruServ. The amount of the subordinated debt will increase by the amount of the notes sold hereunder from time to time net of maturities. TRUSERV HAS EXPERIENCED A DECREASE IN GROSS MARGIN PERCENTAGES WHICH COULD NEGATIVELY IMPACT ITS ABILITY TO MAKE INTEREST AND PRINCIPAL PAYMENTS ON THE NOTES. In order for TruServ to maintain the current gross margin percentage, TruServ needs to maintain its current fill rates in order to meet consistently the members' demands on shipments from its distribution centers. If TruServ can not meet the members' fill rate demands, the members will likely shift their purchases to direct shipments, which generate lower gross margins and will further erode TruServ's gross margin percentage. TruServ's gross margin percentage has declined seven out of the last eight years, predominately due to a change in the sales mix. The sales mix has shifted to increase direct shipments to members for hardware merchandise categories, which generated lower gross margin percentages for TruServ. Also, TruServ has continued to provide members with lower pricing to deal with the intense competitive pressure that the members are experiencing in the retail marketplace. Lower gross margins will negatively impact the ability of TruServ to issue patronage dividends and maintain financial covenants in our revolving credit facility and 5 senior note agreements (See Summary--"Debt Covenant Violation" above). If gross margin continues to erode, it could also negatively impact our ability to make interest and principal payments on our debt instruments as operations may not generate positive cash flow. TruServ has not generated positive cash flow from operations in three of the last eight years. TRUSERV HAS EXPERIENCED A DECLINE IN ITS MEMBER BASE AND FACES STIFF RETAIL COMPETITION AND ITS SUCCESS DEPENDS ON THE SUCCESS OF ITS MEMBERS IN THE RETAIL MARKET PLACE. The success of TruServ Corporation is dependent upon continued support from its members and their purchases to generate positive net margin and cashflow for TruServ. The trend in the number of members participating in TruServ's programs has recently declined. TruServ has lost approximately 1,000 members per year since January 1, 1999. Approximately 50% of this reduction in membership is due to retailer competition and TruServ discontinuing relationships with members that did not meet the minimum purchase requirements. Approximately another 25% of these former members switched to another buying group. The hardware industry is subject to intense competition conditions. Independent hardware retailers such as TruServ members must remain competitive with the so-called "Big Box" stores such as Home Depot, Menards and Lowes, as well as the diversified retailers such as Sears and WalMart. These retail competitors may have greater resources, larger market shares and more widespread presence than TruServ members. The success of TruServ Corporation is highly dependent upon the success of its members in the retail marketplace. TRUSERV TruServ Corporation was organized as Cotter & Company, 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"). SCC was a hardware wholesaler organized in 1935 with a strong presence in retail lumber and building materials. Following the merger, Cotter & Company was renamed TruServ Corporation. TruServ's main executive offices are located at 8600 West Bryn Mawr Avenue, Chicago, Illinois, 60631-3505. Its main telephone number is (773) 695-5000. The merger united two similar organizations under the name of TruServ Corporation, creating one of the largest hardware/home center cooperatives in the United States. The goals were to: (i) lower pricing for the members by increasing buying power, (ii) increase potential for rebates by combining vendor purchases and (iii) better leverage operating expenses by consolidating distribution centers and reducing duplicate corporate overhead costs. In fiscal year 2000, TruServ sold its lumber and building materials division, consisting primarily of inventory, to Builder Marts of America, Inc ("BMA"). TruServ concluded that BMA would be able to provide lumber and building materials to TruServ members at lower cost. The lumber and building materials division had been a low-margin business for TruServ. In connection with the sale of the lumber and building materials business to BMA, TruServ entered into non-compete, cooperation, trademark and license, and lease agreements with BMA. These agreement terms range from two to ten years. GENERAL DESCRIPTION OF THE BUSINESS TruServ, organized as a cooperative, is one of the largest member-owned wholesalers of hardware and related merchandise in the United States, serving approximately 7,600 members. TruServ also manufactures paint and paint applicators, but TruServ has engaged an investment banking firm to assist it in exploring the sale of the paint and paint applicator manufacturing business. TruServ sells its products to hardware retailers who have entered into Retail Member Agreements with it. TruServ 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. 6 Generally, members are entitled to use one of certain TruServ trademarks and trade names, including the federally registered True Value(R), Grand Rental Station(R), Taylor Rental Center(R), Home & Garden Showplace(R) and Induserve Supply(R) trademarks, service marks and collective membership marks. See "Trademarks, Service Marks and Collective Membership Marks" below. Members have access to certain TruServ private label products and are entitled to receive annual patronage dividends based upon their 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 other provisions as may be authorized by the Board of Directors. See "Distribution of Patronage Dividend" below. TruServ serves approximately 7,600 True Value(R) hardware store members 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 and Michigan (approximately 4% each). SALES AND SUPPLIERS TruServ provides each of its members with an illustrated price catalog showing the products available from TruServ. The members can access this catalog through the newly developed internet site for members. At their request, a member will receive a printed version of the catalog. These products, comprised of more than 61,000 stockkeeping units ("SKUs"), are divided into seven classes of merchandise which represent the products sold within TruServ's operating segments. Those seven categories are set forth in the table below, along with the corresponding percentage of total revenues for each category during the last three fiscal years:
FOR THE FISCAL YEARS ENDED DECEMBER 31 --------------------------- 2000 1999 1998 ---- ---- ---- Lumber and Building Materials............................... 30.4% 33.2% 30.2% Hardware Goods.............................................. 16.8% 16.2% 17.8% Farm and Garden............................................. 15.5% 14.8% 14.5% Electrical and Plumbing..................................... 13.3% 12.7% 13.4% Painting and Cleaning....................................... 10.6% 10.0% 10.8% Appliances and Housewares................................... 8.6% 8.6% 8.4% Sporting Goods and Toys..................................... 4.8% 4.5% 4.9%
TruServ's sales to its members are divided into three categories, as follows: - warehouse shipment sales (approximately 41% of total sales); - direct shipment sales (approximately 56% of total sales); and - relay sales (approximately 3% of total sales). Warehouse shipment sales are sales of products that are purchased, warehoused and resold by TruServ in response to orders from the members. Direct shipment sales are sales of products that are purchased through TruServ by the members but delivered directly to members from manufacturers. Relay sales are sales of products that are purchased through TruServ in response to the requests of several members for a product which is - included in future promotions, - not normally held in inventory and - not conducive to direct shipment. Generally, TruServ will give notice to all members of its intention to purchase products for relay shipment and will then purchase only as many items as the members order. When the product shipment arrives at TruServ, it is not warehoused; rather, TruServ breaks up the shipment and "relays" the appropriate quantities to the members who placed orders. 7 TruServ has numerous individual agreements with or commitments from its suppliers, most of which are terminable by such suppliers or TruServ without cause. These termination provisions, either individually or in the aggregate, have not had any material adverse effect on TruServ's ability to conduct its business. The goods and services purchased by TruServ from these suppliers are generally available from a wide variety of sources. TruServ is not dependent upon any one supplier or group of suppliers and in the past has not experienced a problem in obtaining necessary goods. TruServ also manufactures paint and paint applicators. The principal raw materials used by TruServ in its manufacturing activities are chemicals. All raw materials are purchased from outside sources. In the past, TruServ has been able to obtain adequate sources of raw materials and other items used in production and no shortages of such materials are currently anticipated that will materially impact its manufacturing operations. OTHER SERVICES TruServ annually sponsors two "markets" (one in the spring and one in the fall) for its members in order to keep them better informed as to industry trends and the availability of new merchandise. In the year 2001, these markets were held in Atlanta, Georgia, and Las Vegas, Nevada. Members are invited to the markets and generally place substantial orders for delivery during the period between markets. During such markets, new merchandise and seasonal merchandise are displayed to attending members. BACKLOG As of September 29, 2001 and September 30, 2000, respectively, TruServ had a backlog of firm orders (including relay orders) of approximately $5,760,000 and $46,547,000. TruServ's backlog at any given time is made up of two principal components: - normal resupply orders and - 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 are in the nature of resupply orders) are not intended to be filled for several months. Market orders for future delivery are member orders made at one of TruServ's two markets for new or seasonal merchandise, to be delivered during the subsequent period between markets. Thus, TruServ generally has a relatively high backlog at the end of each market, which decreases in subsequent months until the next market occurs. COMPETITION The retail hardware industry is characterized by intense competition. Independent retail hardware businesses, including those served by TruServ, face intense competition from chain stores, discount stores, home centers and warehouse operations such as Walmart, Home Depot, Menards, Sears and Lowe's. 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 for members and brought pressure on TruServ to achieve lower merchandise costs for its members. In response, TruServ has developed 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. Competitive conditions in the wholesale hardware industry are similarly intense and increasing, particularly as a result of the intense pressure on hardware retailers to obtain low-cost wholesale supply sources for merchandise acquisition. TruServ 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 the failure of several non-member-owned wholesalers. In several markets in the United States, TruServ 8 competes directly with other member-owned wholesalers such as Ace Hardware Corp, Do it Best Corporation and United Hardware Distributing Co. TRADEMARKS, SERVICE MARKS, AND COLLECTIVE MEMBERSHIP MARKS TruServ's trademarks, service marks and collective membership marks are of prime importance to TruServ. Many of the marks are highly recognized and utilized in extensive advertising and marketing campaigns, and TruServ vigorously defends its marks. There are approximately 7,600 members that operate as retail hardware stores throughout the United States, most of which sell merchandise and services under the marks. The marks include the True Value(R) collective membership mark, the ServiStar(R) mark, the Coast to Coast(R) mark, the InduServe Supply(R) mark, the Grand Rental Station(R) mark, the Taylor Rental(R) mark, the Home & Garden Showplace(R) mark and the Commercial Sales(R) mark. All of the marks are currently used in commerce and TruServ intends to use the marks in commerce in the future. Each of the marks is renewable at TruServ's option; TruServ intends to renew them upon expiration. Members have continued to conduct their businesses under the same retail banners as before the merger of Cotter and SCC; however, beginning in year 2000, many members with the retail banners of Coast to Coast(R) and ServiStar(R) started to conduct their business under the single retail banner of True Value(R). SUBSIDIARIES TruServ, through a Canadian subsidiary, owns a majority equity interest in TruServ Canada Cooperative, Inc., a Canadian wholesaler of hardware, variety and related merchandise. The Canadian cooperative serves approximately 630 True Value(R) and V&S(R) stores, all located in Canada. The cooperative has approximately 325 employees. The cooperative generated less than 3% of TruServ's consolidated revenue in fiscal year 2000. TruServ operates several other subsidiaries, most of which are engaged in businesses providing additional services to TruServ's members. In the aggregate, these subsidiaries are not significant to TruServ's results of operations. EMPLOYEES TruServ employs approximately 4,100 persons in the United States on a full-time basis. Due to the widespread geographical distribution of TruServ's operations, employee relations are governed by the practices prevailing in the particular area where the employees are located and are generally implemented locally. Approximately 23% of TruServ's hourly-wage employees are covered by collective bargaining agreements which are generally effective for periods of three or four years. In general, TruServ 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: (1) will be required to purchase 60 shares of Class A common stock at a purchase price of $100 per share for each store owned by the member, up to a maximum of three hundred shares for five stores or more that are owned by a member; (2) will conduct its businesses subject to the terms of the Retail Member Agreement; (3) will conduct a retail hardware, home or garden center, rental or industrial/commercial operation at a designated location; (4) will comply with TruServ's By-Laws, as may be amended from time to time; (5) will accept patronage dividends in a form complying with the requirement of the Internal Revenue Code for deduction from gross income by TruServ; 9 (6) may receive different services or charges based upon the amount of merchandise purchased by the member; (7) agrees to have its Retail Member Agreement terminated in certain circumstances by unilateral action by TruServ's Board of Directors; (8) agrees to have its Retail Member Agreement automatically modified upon notice from TruServ to the member of any relevant change in the Certificate of Incorporation and/or By-Laws of TruServ, or by resolution of the Board of Directors; (9) agrees to have its Retail Member Agreement governed by Illinois law, enforced or interpreted only in courts located in Cook County or any Illinois county contiguous to Cook County, Illinois, and only interpreted in accordance with the substantive laws of Illinois without giving effect to its conflict of laws principles; and (10) may terminate the Retail Member Agreement upon 60 days written notice mailed to any executive officer of TruServ at TruServ's principal office. PROPERTIES TruServ's national headquarters are located in Chicago, Illinois. Information with respect to TruServ'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 Chicago, Illinois.................................. 228,100 Leased December 31, 2010 Corsicana, Texas................................... 775,000 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 Hagerstown, Maryland............................... 840,000 Leased April 28, 2003 Harvard, Illinois.................................. 1,310,000 Leased August 23, 2013 Harvard, Illinois.................................. 160,000 Leased August 23, 2005 Henderson, North Carolina.......................... 300,000 Leased November 11, 2001 Indianapolis, Indiana.............................. 420,000 Owned Jonesboro (Atlanta), Georgia....................... 670,000 Owned Kansas City, Missouri.............................. 415,000 Owned Kingman, Arizona................................... 375,000 Owned Manchester, New Hampshire.......................... 730,000 Owned Mankato, Minnesota................................. 320,000 Owned Peachtree City, Georgia............................ 60,500 Leased November 24, 2005 Springfield, Oregon................................ 504,000 Owned Westlake (Cleveland), Ohio......................... 405,000 Owned Winnipeg, Manitoba................................. 432,000 Owned Woodland, California............................... 350,000 Owned
No location owned by TruServ is subject to a mortgage. The Ft. Smith, Arkansas and Peachtree City, Georgia properties, which were closed in 1997, are under lease and are currently under a sublease. The Westfield, Massachusetts, distribution center was closed and sold in 2000. Also in 2000, TruServ announced the closing of its Indianapolis, Indiana, distribution center. In January 2001, TruServ announced the closure of its Henderson, North Carolina, distribution center and in August 2001, TruServ announced the closure of its Brookings, South Dakota, distribution center. 10 Information with respect to TruServ'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
TruServ's facilities are suitable for their respective uses and are, in general, adequate for TruServ's present needs. TruServ owns and leases transportation equipment for use at its regional distribution centers for the primary purpose of delivering merchandise from TruServ's regional distribution centers to its members. Additional information concerning these leases can be found in note 6 to the consolidated financial statements included elsewhere herein. LEGAL PROCEEDINGS Between June, 2000 and March, 2001, actions were filed by approximately 50 plaintiffs against TruServ by former members of TruServ in the Circuit Court of the 19th Judicial Circuit (McHenry County, Illinois). The plaintiffs in the action each allege that, based upon representations made to them by TruServ and its predecessors that the Coast to Coast brand name would be maintained, they voted for the merger of Servistar Coast to Coast and Cotter & Company. The plaintiffs allege, however, that after the merger the Coast to Coast brand name was eliminated and that each plaintiff thereafter terminated or had its membership in TruServ terminated. The plaintiffs further claim that TruServ breached its obligations by failing to redeem their stock and by creating loss allocation accounts for the plaintiffs. Based upon this alleged conduct, the plaintiffs have each asserted claims for fraud/misrepresentation, negligent misrepresentation, claims under the state securities laws applicable to each plaintiff, claims under the state franchise/dealership laws applicable to each plaintiff, breach of fiduciary duty, unjust enrichment, estoppel and recoupment. The complaint states that each plaintiff is entitled to in excess of $50,000 in damages; however, the damages being sought are not further specified. Discovery has recently commenced in this action and it is too early to determine the extent of the damages being claimed. In March of 2001, a similar action was brought on behalf of former SCC members in the same court, by the same law firm. The complaint alleges substantially similar cases as those made by the former TruServ members. The lawsuit is in an early stage and the extent of damages being claimed has not yet been determined. In August, 2000, an action was brought in Delaware Chancery Court (New Castle County) by an alleged former TruServ member against certain present and former directors of TruServ and against TruServ. The plaintiff in the lawsuit seeks to proceed on a class-action basis on behalf of all those affected by the moratorium and the creation of the loss allocation accounts. The complaint alleges that the named directors breached their fiduciary duties in connection with the accounting adjustments made by TruServ in the fourth quarter of 1999 and that TruServ breached, and the named directors caused TruServ to breach, agreements with members by suspending payment of the members' 1999 annual patronage dividend, by declaring a moratorium on the redemption of members' TruServ stock and by imposing minimum annual purchase requirements upon members. The plaintiff seeks monetary and non-monetary relief in connection with the various claims asserted in the complaint. The lawsuit is in an early stage and the extent of the damages being claimed has not yet been determined. In October, 1999, Paul Pentz, the former president of TruServ, filed a claim in the Circuit Court of the 20th Judicial Circuit (Collier County, Florida) against TruServ alleging he is due bonus and retirement compensation payments in addition to amounts already paid to him. TruServ has filed a counterclaim against Mr. Pentz alleging that he breached his fiduciary duties as president of TruServ. Mr. Pentz's motion to dismiss the counterclaim was denied. 11 TruServ intends to vigorously defend all of these cases and, accordingly, has recorded no related reserves at December 31, 2000 and September 29, 2001. THE NOTE PROGRAM The note program is designed to provide you with a convenient means of investing in the notes. A summary of the TruServ Investment Program is also provided in the Application Package filed as an exhibit to the registration statement. At your request, we will send you, at no charge, a copy of the program. Please direct your request to: Office of the Chief Financial Officer, TruServ Corporation, 8600 West Bryn Mawr Avenue, Chicago, Illinois 60613-3505, Telephone: 773-695-5000, Facsimile: 773-695-6563. A summary of the material terms of the notes is set forth under this caption and under the caption "Terms of the Indenture". FORM OF THE NOTES Initially, we will issue the notes quarterly in denominations of $1,000 or increments thereof not to exceed the aggregate principal amount of $50,000,000. We will issue the notes with maturities of two, three and four-year terms. The notes will be issued in uncertificated form; therefore, you will not receive a certificate representing your ownership of the notes. Your investment in the notes will be reflected by book-entry in the records of The Northern Trust Company, our agent bank. The notes may be transferred, in whole or in part, only to another TruServ member or current noteholder and only with the prior written consent of TruServ. The notes may not be pledged, in whole or in part, either directly or by operation of law. Note denominations cannot be changed or broken down once purchased. However, upon purchase of the notes, you may elect to have accrued interest added to the principal amount of the notes and your note denomination will be increased accordingly. You do not have the right to require us to redeem your notes prior to their maturity date. The notes may only be redeemed by TruServ in its discretion. See "Optional Redemption of the Notes" below. INTEREST The interest rate on the unsold notes for sale each quarter may be reset each calendar quarter at the discretion of TruServ Corporation. That interest rate will remain in effect for the notes from their sale until their maturity date. As of the date of this prospectus and for the quarter commencing January 1, 2002, TruServ has set the interest rate at 9.00% per annum for two-year notes, 9.50% per annum for three-year notes and 10.00% per annum for four-year notes. The interest rate on the unsold notes may be reset no later than the first business day of the month that is two months prior to the beginning of each calendar quarter, which will be approximately 60 days prior to the effective day of the new rates. We will file a prospectus supplement to reflect changes in the interest rate on the notes. Each prospectus supplement will be forwarded to all noteholders. We will pay interest on the notes semi-annually and will mail interest payments to you by regular mail. Upon purchase of the notes, you may also elect to have accrued interest added to the principal amount of the notes in your account. All interest income on the notes is subject to federal and applicable state and local taxes. OPTIONAL REDEMPTION OF THE NOTES We can redeem the notes in whole or in part at any time. If we choose to redeem the notes prior to their maturity date, we will pay you the principal amount of the notes plus accrued and unpaid interest to the date of redemption. (Thereafter, the notes will not accrue interest.) Any redemption of notes made "in part", will be made by us by lot or pro rata, or by any other method that the trustee deems appropriate. We have not created a sinking fund for redemption of any notes. You as a noteholder do not have the right to require us to redeem your notes, in whole or in part, prior to the scheduled maturity date. Your only option to cash out the notes prior to maturity is through the transfer of your notes to another TruServ member or current TruServ noteholder. 12 FINANCIAL COVENANTS The following are the financial covenants under the agreements with respect to the Senior Debt: - Minimum Fixed Charge Coverage Ratio--defined as the ratio of (1) net earnings plus interest expense, taxes operating lease expense, depreciation and amortization to (2) interest expense plus operating lease expense. The minimum requirement varies over the term of the agreements covering the Senior Debt and is calculated on a trailing four quarter basis. The minimum requirements are as follows:
QUARTERS ENDED: 12/31/00 - 12/31/01 03/31/02 AND THEREAFTER ------------------- ----------------------- 1.75 to 1.00 1.85 to 1.0
- Minimum EBITDA--defined as net earnings before interest expense, taxes, depreciation and amortization on a trailing four quarter basis of not less than $85 million. - Minimum Borrowing Base to Debt Ratio--defined as the ratio of (1) the sum of specified percentages of accounts and notes receivable, inventory and fixed assets, all net of liens and debt secured by these assets to (2) average levels of senior funded debt less cash. The minimum requirement varies over the terms of the agreements covering the Senior Debt and is calculated monthly. The minimum requirements are as follows:
MONTHS ENDED: 02/24/00 - 12/31/01 01/26/02 02/23/02 AND THEREAFTER - ------------------- -------- ----------------------- 1.20 to 1.00 1.10 to 1.00 1.20 to 1.0
NOTE SUBORDINATION AND LIEN RIGHTS The notes are subordinated to all of the debt of TruServ. As a result, in the event that TruServ is liquidated, or the Senior Debt is accelerated, the holders of the notes will not receive payment on their notes until all of the holders of the Senior Debt have been paid in full. Also, by virtue of the subordination provisions of the Senior Debt in the case that TruServ breaches any other covenant, the holders of the notes may not receive principal payments on the notes without the consent of the Senior Debt creditors. In this event, interest would continue to accrue and be paid on the unpaid principal amount outstanding. Upon the cure or other resolution of the default to the satisfaction of the Senior Debt creditors, any delayed principal payments and accrued interest related thereto would be remitted to the subordinated noteholders. As of September 29, 2001, TruServ had aggregate Senior Debt of $424,000,000. The Senior Debt total included $140,000,000 borrowed under a revolving credit facility for TruServ's US operation and the aggregate principal amount of $284,000,000 senior secured notes issued to financial institutions and secured by the assets of TruServ. TruServ's revolving credit facility for its US operations was initially issued by various banks for an aggregate principal amount of $300,000,000. The facility expires on June 30, 2002 and the aggregate credit limit under the facility dropped to $275,000,000 on January 1, 2001. The reservation of rights letters provided by the participants in the revolving credit facility permanently reduced the credit limit under this facility on May 11, 2001 to $250,000,000 and on September 4, 2001 to $200,000,000. The facility is secured by the assets of TruServ and draws under the facility require compliance by TruServ with certain financial covenants. The financial covenants under the facility include a fixed charge coverage ratio, a minimum EBITDA requirement, a minimum borrowing base to debt ratio and a debt to total capitalization ratio. The senior secured notes bear interest ranging from 9.98% to 11.85% and have various maturity dates from 2002 to 2012. The senior secured notes are also secured by the assets of TruServ and subject to the same financial covenants as those imposed by the revolving credit facility. Investors should be aware that all of your investments in us, including the notes, are subject to our lien rights ensuring payment of any amounts that you owe to us. The Retail Member Agreement that each member signed with TruServ provides that TruServ shall have a lien on, and a right of setoff against, any stock 13 or notes issued to the member, including those issued as patronage dividends. With regard to patronage dividends, this lien and right of setoff encompasses any cash portion of the patronage dividend that is issued and exceeds 20% of the overall patronage dividend payable in any year. TruServ takes this lien/right of setoff in order to secure any member or former member indebtedness that may, for whatever cause, exist in favor of TruServ or its subsidiaries. TYPES OF ACCOUNTS You may hold the notes in one of the following four accounts: (1) single tenancy, (2) joint tenancy with right of survivorship, (3) tenancy by custodian (under the Uniform Gifts to Minors Act), or (4) in living trust. You cannot hold the notes in a retirement savings plan. ACCOUNT INFORMATION You may call our agent bank, The Northern Trust Company, toll-free at 1-800-507-9000 to obtain current information about the notes and your account. HOW TO INVEST You must request an application package by calling The Northern Trust Company toll-free at 1-800-507-9000. Upon request for an application, you will receive the prospectus, the Program Description, an IRS W-9 Certification Form and an application, which you will need to complete and return to us. The completed application, the IRS W-9 certification form and the check for your investment amount must be received by us at our designated lockbox bank on or before the last business day before the start of each calendar-year quarter. You may also exchange all or part of any other notes of TruServ you currently hold, at maturity, for the notes being purchased hereunder. If exchanging notes, please indicate which notes you are exchanging on the enclosed Application Package. TERMS OF THE INDENTURE GENERAL The notes are issued under an indenture between us and our trustee, U.S. Bank Trust National Association. The form of the indenture has been filed as an exhibit to the registration statement. In the summary below, we have included references to section numbers of the indenture, so that you can easily locate these provisions. At your request, we will send you, at no charge, a copy of the indenture. Please direct your request to: Office of the Chief Financial Officer, TruServ Corporation, 8600 West Bryn Mawr Avenue, Chicago, Illinois 60631-3505 or Telephone: 773-695-5000, Facsimile: 773-695-6563. REDEMPTION TruServ may redeem at any time all or part of the notes, upon notice of at least 30 days and no more than 90 days. TruServ may only redeem the notes in part by lot or pro rata. Upon redemption, TruServ will pay the principal amount of the notes plus accrued and unpaid interest to the date of redemption (Sections 3.01, 3.02 and 3.03). 14 SUBORDINATION The notes are subordinated to the Senior Debt and all liabilities of TruServ and its subsidiaries incurred in the ordinary course of business as follows: Upon any (1) distribution of assets of TruServ upon any dissolution, winding up, liquidation or reorganization of TruServ; (2) an assignment by TruServ for the benefit of creditors; (3) an event of default has occurred and is continuing pursuant to the Senior Debt; or (4) if the principal of the notes is declared due and payable, the holders of all of the Senior Debt will be entitled to receive payment in full of the principal thereof and interest due thereon before any payment is made to the note holders. If an event of default has occurred and is continuing under the Senior Debt documents, the holders of the notes may not receive payments of principal and interest on the notes, without the prior consent of the Senior Debt. In such event, interest would continue to accrue on the unpaid principal amount of the notes. Upon the cure of the event of default or its remediation to the satisfaction of the holders of the Senior Debt any delayed principal payments and accrued interest would be paid to the holders of the notes. (Section 10.02) MODIFICATION OF THE INDENTURE The indenture permits us and the trustee, with the consent of the holders of not less than 66 2/3% of the aggregate principal amount of the notes outstanding at that time, to add, change in any manner or eliminate any of the provisions of the indenture or to modify in any materially negative way the rights of the note holders. However, we may not add or modify any provision that would, among other things: (1) reduce the principal amount of and interest payable on any note; or (2) reduce the aggregate principal amount of the notes outstanding, the holders of which need to consent to our adding, changing or eliminating any provision of the indenture (Section 8.02). Notwithstanding the foregoing, the indenture provides that the note holders thereunder have the unconditional right to receive payment of principal and interest on the applicable due date and to institute suit to enforce such payment; provided, however, that in the event of a covenant default that is continuing under the Senior Debt, TruServ may not be able to make any principal payments on the notes when due, unless the principal payment is consented to by the Senior Debt creditors (Section 5.08). 15 EVENTS OF DEFAULT AND REMEDIES An event of default is defined in the indenture to include non-payment of any principal or interest amount on any note when due. Other events of default include: (1) default in the performance or breach of any other note covenant or warrants 60 days or more after we have been given written notice of the default by the trustee; and (2) the bankruptcy, insolvency or reorganization of TruServ. An administrative error is not considered an event of default unless the error has continued uncorrected for 60 days after written notice of the error was sent to the agent bank or trustee, with a copy to us (Section 5.01). The indenture requires us to file an annual written statement with the trustee as to the presence or absence of certain defaults under the terms of the indenture. Generally, within 90 days after a default has occurred, the trustee is required to notify the note holders of all uncured and unwaived defaults of which it is aware (Section 6.02). The indenture provides that, while an event of default continues either the trustee or the holders of 50% or more of the aggregate principal amount of the outstanding notes may declare the principal of all the notes to be immediately due and payable. At anytime after a declaration of acceleration of the notes and before a judgment for payment has been provided, the holders of a majority of the principal amount of the outstanding notes may annul the declaration if: (1) TruServ has paid or deposited with the trustee a sum sufficient to cover the principal and interest that have become due; or (2) all events of default, other than the non-payment of the principal amount of the notes and accrued interest thereon, have been cured or waived as provided in Section 5.13 (Section 5.02). The indenture also provides that past defaults, except for an uncured default in payment of principal or interest, may be waived on behalf of the note holders by the holders of a majority of the principal amount of outstanding notes (Section 5.13). LIMITATIONS ON SUITS You may not file a lawsuit with respect to your rights under the indenture, unless: (1) you have first given notice to the trustee of a continuing event of default; (2) note holders of at least 50% of the outstanding principal amount of the notes have made written request to the trustee to institute the action; (3) note holders requesting the action have offered to indemnify the trustee against the costs, expenses, and liabilities that will be incurred as part of the action; (4) the trustee has failed to institute the action for at least 60 days; and 16 (5) no direction inconsistent with the written request has been given to the trustee during that 60 day period by note holders holding a majority of the principal amount of the notes (Section 5.07); provided that no such limitation has the effect under applicable law of resulting in the impairment, waiver or loss of the lien under such indenture. If TruServ defaults in the payment of principal or interest when due, it must, upon demand of the trustee, pay to the trustee for the benefit of the note holders the whole amount then due and payable. If TruServ fails to pay such amounts, the trustee may institute a judicial proceeding to collect such amounts. If an event of default occurs and is continuing, the trustee may initiate appropriate judicial proceedings to enforce its rights and the rights of the holders. CONCERNING THE TRUSTEE Except while an event of default is continuing, the trustee undertakes to perform only such duties as are set forth in the indenture. In the absence of bad faith on its part, the trustee may conclusively rely as to the truth of statements and correctness of the opinions expressed therein upon certificates and opinions furnished to the trustee as provided in the indenture. While an event of default is continuing, the trustee is required to exercise its rights and powers under the indenture using the same degree of care as would a prudent person in the conduct of his or her own affairs (Section 6.01). Within 90 days after the occurrence of a default with respect to the notes, the trustee is required to give notice to all holders of record of the notes. Provided the default is not a default on payment of principal and interest, the trustee may withhold notice if it makes a good faith determination that it is in the best interests of the note holders. In the case of defaults caused by the occurrence of legal judgments, the trustee is prohibited to give notice until at least 30 days after they occur (Section 6.02). The trustee acts as trustee under one of our other indentures. SATISFACTION AND DISCHARGE Satisfaction and discharge of the indenture will occur when: (1) we terminate the program in accordance with its terms; (2) all the notes become due and payable; (3) we deposit with the trustee the entire amount needed to pay all the notes, including principal and interest due or to become due to the date of payment; and (4) we pay all other sums payable under the terms of the indenture (Section 4.01). The trustee is required to pay to the note holders any sums deposited by TruServ with it for that purpose. The trustee is not required to pay interest on the money held in trust or to invest those funds. (Section 4.02) AGENT BANK AND ADMINISTRATION We have engaged The Northern Trust Company as our agent bank to administer the program. The agent bank will send the following information to you: (1) investment confirmation; (2) quarterly statements listing all notes held in your account and all transaction information on a year-to-date basis; (3) advance maturity notices with renewal forms; (4) Form 1099INT; and (5) Form 1099B, if applicable. 17 Additionally, the agent bank will provide an automated voice-response system at 1-800-507-9000. You may call this number to obtain aggregate account balances and individual note information. The agent bank will also respond to inquiries and provide you with information on your notes and accounts. Additional or other inquiries from you to the agent bank will be forwarded to us. TAXES The program is not qualified under Section 401(a) of the Internal Revenue Code. Accordingly, you will have to report all interest credited to your notes or paid to you as taxable income for federal income tax purposes. No part of the taxable interest is excludable from taxable income. Your December statement sent by the agent bank each year will indicate the full amount reportable as taxable income. The agent bank will also file tax information returns as required by law. State and local income taxes and tax reporting also may apply. You are individually responsible for complying with applicable federal, state and local tax laws and should consult with your individual tax advisor regarding the tax consequences that may apply to your particular situation. 18 SELECTED FINANCIAL DATA
FOR THE FISCAL YEARS THIRTY-NINE ----------------------------------------------------------------------- WEEKS ENDED 1999 1998 1997(B) SEPTEMBER 29, 2001 2000 (RESTATED)(E) (RESTATED)(E) (RESTATED)(E) 1996(C) ------------------ ---- ------------- ------------- ------------- ------- (IN THOUSANDS) Revenues.............. $2,024,092 $3,993,642 $4,502,326 $4,328,238 $3,331,686 $2,441,707 Gross margins......... 200,626 277,397 181,465 298,135 241,020 196,636 Net margins/(loss).... (13,840) 34,117 (130,803) 12,020 38,086 52,410 Patronage dividends(a)........ -- 34,705 -- 35,024 43,782 53,320 Total assets.......... 1,063,756 1,236,014 1,335,397 1,587,674 1,425,483 853,985 Long-term debt(d)..... 6,683 9,091 309,796 316,959 169,209 80,145 Promissory (subordinated) and installment notes payable............. 60,983 65,846 83,804 124,422 172,579 185,366 Redeemable Class A common stock........ 49,755 49,084 47,270 49,880 47,423 4,876 Redeemable Class B common stock........ 174,448 174,448 177,779 195,643 187,259 114,053
- ------------------------- (a) No patronage dividend was issued in 1999 due to the reported net loss of $130,803,000. (b) 1997 financial results are for Cotter & Company from January 1, 1997 through June 30, 1997 and the merged company of TruServ for July 1, 1997 through December 31, 1997. (c) 1996 financial results are for Cotter & Company. (d) As discussed in Note 2 to the consolidated financial statements, all amounts outstanding under the senior note agreements have been classified as current as of December 31, 2000 and September 29, 2001. (e) As discussed in Note 1 to the consolidated financial statements, the fiscal year 1997, 1998 and 1999 results have been restated to reflect the recording as expenses in fiscal 1997 and 1998 of $13.6 million of costs that were previously accrued for as of July 1, 1997 in connection with the SCC merger. QUARTERLY FINANCIAL SUMMARY
2001 2000 1999 ------------------------------ --------------------------------------------- ----------------------- THIRD SECOND FIRST FOURTH THIRD SECOND FIRST FOURTH THIRD QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER ------- ------- ------- ------- ------- ------- ------- ------- ------- Revenues............. $621,977 $747,765 $654,350 $884,506 $944,269 $1,137,262 $1,027,605 $1,049,830 $1,117,496 Gross margins........ 72,576 77,400 50,650 65,942 71,881 76,908 62,666 (24,705) 70,247 Net margins/ (loss).............. (2,477) 2,573 (13,936) 21,671 9,447 11,923 (8,924) (130,642) 5,864 1999 ----------------------- SECOND FIRST QUARTER QUARTER ------- ------- Revenues............. $1,264,108 $1,070,892 Gross margins........ 81,691 54,232 Net margins/ (loss).............. 18,270 (24,295)
19 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Note: In consultation with TruServ's prior and current auditors, and as more fully explained in footnote 1 of the annual financial statements, TruServ has restated the consolidated financial statements as of and for the years ended December 31, 1999, 1998 and 1997. Additionally, TruServ has made certain reclassifications to the prior year consolidated financial statements to conform with the current year's presentation. THIRTEEN WEEKS ENDED SEPTEMBER 29, 2001 COMPARED TO THIRTEEN WEEKS ENDED SEPTEMBER 30, 2000 RESULTS OF OPERATIONS: Revenues for the thirteen weeks ended September 29, 2001 totaled $621,977,000. This represented a decrease of $322,292,000, or 34.1%, compared to the same period last year. The key contributor to the decreased revenue is the sale of the lumber and building materials business to Builder Marts of America, Inc. in December 2000, which accounts for $259,541,000 of the negative variance in comparison to the prior year. Revenues were also negatively impacted due to the decrease in the number of participating members, which accounts for approximately $47,204,000 of the variance to the prior year. The remaining revenue reduction occurred in same store direct shipment sales, which generates a lower gross margin for TruServ. Although revenue declined, gross margins for the thirteen weeks ended September 29, 2001 increased by $695,000, or 1.0%, over the prior year. Gross margin as a percent of revenue increased to 11.7% from 7.6% for the comparable period last year. The increase in the gross margin percentage resulted from a change in sales mix, as the higher margin handled sales are 61% of revenue in 2001 compared to 43% in 2000. The change in sales mix is due to the reduction in direct shipment sales, which includes the sale of the lumber and building materials business and a shift away from direct hardware shipment sales, which have lower margin percentages. Logistics and manufacturing expenses increased $846,000, or 3.8%, as compared to the same period last year. Direct regional distribution center expenses decreased by $4,044,000 compared to the same period last year, but were more than offset by a reduction in estimated capitalizable indirect inventory-related costs, as inventory levels have decreased $46,974,000 for the thirteen weeks ended September 29, 2001 and decreased $22,825,000 for the corresponding period in 2000. Selling, general and administrative (S,G&A) expenses increased $7,002,000, or 25.4%, as compared to the same period last year. TruServ's expenses were higher due to benefit costs, which relate to both a one time pension annuitization gain of $5,000,000 recorded last year and net additional cost related to benefit programs of $3,257,000 this year. TruServ has also experienced unusual legal and refinancing costs of $2,680,000. These charges were partially offset by TruServ's workforce reductions at the company's corporate headquarters, which generated savings of $2,685,000. Restructuring expenses of $3,261,000 in the third quarter of 2001 relate to the announced closing of the Brookings, South Dakota distribution center. Interest paid to members decreased by $837,000, or 30.2%, as compared to the same period last year, primarily due to a lower average principal balance of debt outstanding. Other interest expense decreased $1,329,000, or 8.9%, as compared to the same period last year. The interest expense savings from the lower average principal balance of Senior Debt outstanding as compared to the same period last year was partially offset by the interest rate increase of approximately 2% imposed as a result of the debt covenant violation under the revolving credit facility and the senior note agreements. The incremental increase in interest expense for the thirteen weeks ended September 29, 2001 aggregate approximately $2,011,000 as a result of this rate increase. The quarter resulted in a net loss of $2,477,000, down from net margin of $9,447,000 from the same period a year ago. Net margin was impacted by a one-time pension annuitization gain recognized in the third quarter of last year. In addition, TruServ incurred restructuring charges, increased benefit costs and unusual 20 legal and refinancing costs in the third quarter of this year. These charges were partially offset by TruServ's workforce reductions at the company's corporate headquarters. THIRTY-NINE WEEKS ENDED SEPTEMBER 29, 2001 COMPARED TO THIRTY-NINE WEEKS ENDED SEPTEMBER 30, 2000 RESULTS OF OPERATIONS: Revenues for the thirty-nine weeks ended September 29, 2001 totaled $2,024,092,000. This represented a decrease of $1,085,044,000, or 34.9%, compared to the same period last year. The key contributor to the decrease in revenue is the sale of the lumber and building materials business to Builder Marts of America, Inc. in December 2000, which accounts for $846,472,000 of the negative variance in comparison to the prior year. Revenues were also negatively impacted due to the decrease in the number of participating members, which accounts for approximately $134,223,000 of the variance to prior year. The remaining revenue reduction occurred in same store sales, with 86% of this reduction in direct sales, which generates a lower gross margin for TruServ. Gross margins decreased by $10,829,000, or 5.1%, as compared to the same period last year, but the gross margin as a percent of revenue increased to 9.9% from 6.8% for the comparable period last year. The increase in the gross margin percentage resulted from a change in sales mix, as the higher margin handled sales are 56% of revenue in 2001 compared to 40% in 2000. The change in sales mix on a year-to-date basis is predominately driven by the sale of the lumber and building materials business. Logistics and manufacturing expenses increased $110,000, or .2%, as compared to the same period last year. Direct regional distribution center expenses decreased by $10,589,000 compared to the same period last year, but were more than offset by a reduction in estimated capitalizable indirect inventory-related costs, as inventory levels have decreased $72,956,000 for the thirty-nine weeks ended September 29, 2001 and increased $4,694,000 for the corresponding period in 2000. Selling, general and administrative (S,G&A) expenses increased $6,446,000, or 7.5%, as compared to the same period last year. The company reduced headcount in corporate staff and operational expenses as a result of the sale of the lumber and building materials business in December 2000 and reduced corporate staff and operational expenses as a result of the restructuring initiative in 2001. However, the expenses that were eliminated did not fully offset the higher benefit costs and the unusual legal and refinancing costs. The higher benefit costs relate to both a one time pension annuitization gain recorded last year and net additional cost related to benefit programs recorded in 2001. Restructuring expenses of $8,211,000 for 2001 relate to regional distribution center closings and workforce reductions at TruServ's corporate headquarters. Interest paid to members decreased by $2,536,000, or 30.2%, as compared to the same period last year, primarily due to a lower average principal balance of debt outstanding. Other interest expense decreased $927,000, or 2.2%, as compared to same period last year. The interest expense savings from the lower average principle balance of Senior Debt outstanding, as compared to the same period last year, was partially offset by the interest rate increase of approximately 2% imposed as a result of the debt covenant violation under the revolving credit facility and the senior note agreements. The net loss for the first nine months was $13,840,000, down from net margin of $12,446,000 from the same period a year ago. Net margin was impacted by a one-time pension annuitization gain in the first nine months of last year, restructuring charges, increased benefit costs and unusual legal and refinancing costs incurred in the first nine months of this year. These charges were partially offset by TruServ's workforce reductions at the company's corporate headquarters. LIQUIDITY AND CAPITAL RESOURCES: Cash provided by operating activities for the thirty-nine weeks ended September 29, 2001 was $128,859,000, compared to cash provided of $6,270,000 for the thirty-nine weeks ended September 30, 2000. Inventories decreased by $72,956,000 from December 31, 2000 as a result of TruServ's initiative to improve 21 inventory turns by reducing excess and slow moving inventory. Accounts payable decreased by $74,579,000 since December 31, 2000, as a result of lower inventory levels. Additionally, both the reduced direct shipments and the sale of the lumber and building material business in December 2000, that were billed through TruServ, have also reduced the accounts payable balance along with reducing the accounts receivable balance by $102,358,000 since December 31, 2000. TruServ used the cash generated from operating activities in the first thirty-nine weeks of fiscal 2001 in its financing activities. Investing activities used cash of $7,361,000 for the thirty-nine weeks ended September 29, 2001, compared to cash used of $2,621,000 for the same period last year. TruServ sold its distribution center located in Westfield, Massachusetts in the second quarter of fiscal 2000, which generated proceeds of $6,250,000. Additions to properties owned used of cash of $8,843,000, which is down $1,210,000 compared to the same period last year. These capital expenditures are comprised of various building improvements and purchases of additional equipment and technology at the company's regional distribution centers and at its corporate headquarters. In the thirteen weeks ended September 29, 2001 TruServ had a net increase in cash and cash equivalents of $29,085,000. At September 29, 2001, TruServ's working capital deficit was ($176,592,000), as compared to a deficit of ($188,739,000) at December 31, 2000. The current ratio was 0.806 at September 29, 2001, as compared to 0.822 at December 31, 2000. At July 1, 1997, TruServ established a $300,000,000 five-year revolving credit facility with a group of banks. This agreement was amended and restated in April 2000 after a default was triggered as a result of the loss in 1999. The amendment includes increased interest rates, new financial ratios and covenants, and the collateralization of TruServ's assets. TruServ had borrowed under the agreement $140,000,000 and $127,000,000 at September 29, 2001 and December 31, 2000, respectively. However, the net borrowing after excess cash at September 29, 2001 was $119,000,000. TruServ also pays a commitment fees of .05% per annum on the unused portion of the commitments. Under the senior note agreements and the revolving credit facility, TruServ is required to meet certain restrictive financial ratios and covenants relating to minimum EBITDA, minimum fixed charge coverage, minimum borrowing base to debt ratio, maximum capital expenditures and maximum asset sales, as well as other customary covenants, representations and warranties, funding conditions and events of default. As of December 31, 2000, TruServ was in compliance with the covenant requirements. However, as of February 24, 2001, TruServ failed to comply with a covenant under the revolving credit facility and the senior note agreements which requires TruServ to achieve a minimum monthly borrowing base ratio. As a result, either the senior note holders or the participants in the revolving credit facility could declare this failure to comply with the covenant as an "event of default," in which case the senior notes and the amounts outstanding under the revolving credit facility would become callable as immediately payable. On March 30, 2001, the participants in the revolving credit facility issued to TruServ "reservation of rights" letters under which the participants effectively stated their intention to not call as immediately payable TruServ's outstanding debt obligations until May 1, 2001, although they were not precluded from doing so. All other rights of the participants were preserved. Additional letters were issued on April 30, 2001, July 3, 2001 and August 30, 2001, which extended the reservation of rights until July 30, 2001, September 30, 2001 and February 28, 2002, respectively. The senior note holders also issued letters reserving their right to accelerate the maturity of the notes although agreeing not to do so at this time. The reservation of rights letters provided by the participants in the revolving credit facility permanently reduced the credit limit under this facility on May 11, 2001 from $275,000,000 to $250,000,000 and on September 4, 2001 from $250,000,000 to $200,000,000. Additionally, the interest rate on the amounts outstanding under the revolving credit facility was increased by approximately 2%; this increased interest rate also applies to the outstanding senior notes. As a result of this increased interest rate, TruServ will incur additional interest expense in fiscal year 2001. If this increased interest rate continues through December 31, 2001, the additional interest expense would aggregate approximately $6.5 million. 22 On September 28, 2001, TruServ signed a $350,000,000 fully underwritten revolving credit facility commitment from Bank of America for borrowings against TruServ's accounts receivable and inventory. However, TruServ is still in discussions with the current lenders to amend the existing agreements and with other potential lenders regarding refinancing the existing agreements and could replace the existing agreements with an asset-based lending agreement with a new lending group in the fourth quarter of 2001. However, no assurances can be given as to the outcome. TruServ's failure to successfully amend or refinance its current borrowing arrangements could cause the current lending group to call as immediately payable TruServ's currently outstanding debt obligations. TruServ's resulting inability to satisfy its debt obligations would force TruServ to pursue other alternatives to improve liquidity, possibly including among other things, restructuring actions, sales of assets and seeking additional sources of funds or liquidity. In particular, TruServ has engaged an investment banking firm to assist us in exploring the sale of the paint manufacturing business. No assurances can be given that TruServ would be successful in pursuing such possible alternatives or, even if successful, that such undertakings would not have a material adverse impact on TruServ. Accordingly, the balances outstanding under the senior note agreements and the revolving credit facility have been classified as current liabilities as of December 31, 2000 and September 29, 2001. However, the financial statements do not include any other adjustments that might result from the outcome of this uncertainty. FISCAL YEAR 2000 COMPARED TO FISCAL YEAR 1999 RESULTS OF OPERATIONS Revenues for 2000 totaled $3,993,642,000. This represented a decrease in revenues of $508,684,000 or 11.3% over 1999. This decrease was the result of various factors. The primary contributing factor was lower revenues from TruServ's sales of lumber and building material products, which declined $272,331,000 or 20.1% over the prior year. Lower commodity pricing in the lumber and building materials industry and a decrease in unit volume contributed to the decrease in hardware sales. A second contributing factor was a decrease in hardware sales, which declined $240,273,000 or 8.7% over the prior year. A reduction in TruServ's member base contributed to this decline. The member base erosion was partially due to management's decision to eliminate stores that were not profitable to the co-op. Average hardware handled sales per store in 2000 were equivalent to 1999 at approximately $16,000 per month excluding non-profitable members who did not meet minimum purchasing levels. In 2000, TruServ experienced an increase in gross margins of $95,932,000 or 52.9% over the prior year. Gross margins as a percentage of revenue also increased to 6.9% from 4.0% for 1999. TruServ's improvement of inventory controls in 2000 and a significant reduction in member claims contributed to the increase in gross margins. In addition, TruServ conducted a physical inventory count in the fourth quarter of 2000, which resulted in a $22.2 million adjustment that positively impacted gross margins. TruServ recorded an inventory adjustment in 1999 resulting in a charge of $74.0 million related to the consolidation of the distribution network which was caused by larger than usual employee turnover, less than adequate training procedures and increased member claims. TruServ's implementation of one common ordering system for all of its members and a reduction in employee turnover resulted in reduced member claims. The reductions in member claims are also the result of TruServ increasing training procedures for employees in the last year, particularly in the handling of inventory. Logistics and manufacturing expenses decreased $9,338,000 or 9.4%, as compared to the prior year. TruServ's initiatives in consolidating its distribution network, developed with the merger plan from 1997, led to the reduction in these expenses as the merger integration costs incurred in fiscal 1999 of $18,683,000 were no longer incurred by TruServ in fiscal 2000. The merger integration costs TruServ had previously incurred related to: - additional costs TruServ incurred implementing the merger plan from 1997 that related to former Cotter distribution center closings, severance pay and the temporary incremental increase in warehousing costs to convert the go forward product assortment; and 23 - the integration of the three distribution networks by consolidating operating systems, revising truck runs for overlapping distribution centers and resizing and reconfiguring warehouse racking. The decrease was partially offset by increased handling and packaging expenses and lower capitalization of warehouse costs due to lower inventory levels. As a result of the decreases in sales that TruServ experienced in early 2000, TruServ implemented significant cost cutting measures in 2000 that resulted in a decrease in selling, general and administrative ("SG&A") expenses. SG&A expenses decreased $19,274,000 or 13.6% over the prior year. SG&A expenses as a percentage of sales were 3.1%, which is consistent with the prior year including merger integration costs which amounted to $7,513,000 in fiscal 1999. As a result of a reduction in the aggregate principal balance of debt to members of TruServ, the amount of interest that TruServ paid to members decreased $3,367,000 or 23.2% in comparison to the prior year. However, other interest expense increased by $10,371,000, representing a 22.4% increase. This increase was the result of higher interest rates under the various financing agreements, which was partially offset by decreased borrowing amounts. Gain on sale of assets increased $18,613,000. The gain was due primarily to TruServ's sale of its lower gross margin lumber and building materials division. Other income increased by $6,179,000, primarily due to a one-time gain resulting from the settlement of certain pension obligations to fully vested employees through the purchase of annuity contracts. In 2000, income tax expense decreased by $16,104,000, primarily due to TruServ recording in 1999 a full valuation allowance on deferred taxes of $16,490,000 existing as of December 31, 1998. The valuation allowance was required under FAS 109, since TruServ had cumulative losses for the three most recent fiscal years and consequently did not have sufficient evidence to support the realization of this asset. In 2000, there was no change in the valuation allowance. TruServ's net margin in 2000 was $34,117,000 compared to a net loss of $130,803,000 in 1999. TruServ attributes this result to the following: improvement in its gross margins, a reduction in logistics and manufacturing expenses, a decrease in SG&A expenses, the gain from the sale of the lumber and building materials division and the settlement of the pension claims through the purchase of annuity contracts. FISCAL YEAR 1999 COMPARED TO FISCAL YEAR 1998 RESULTS OF OPERATIONS Revenues for 1999 totaled $4,502,326,000. This represented an increase in revenues of $174,088,000 or 4.0% over 1998. The increase was primarily due to an increase of 7.8% in direct shipment sales and 15.1% in lumber and building materials sales. Gross margins decreased by $116,670,000 or 39.1% and, as a percentage of revenues, decreased to 4.0% from 6.9% for the comparable 1998 period. This decrease was primarily attributable to: inventory adjustments related to consolidation of the distribution network leading to increased member claims, a change in sales mix, and the impact of retail competitive pressures. The inventory adjustment of $74,000,000 related to the resolution of certain unreconciled differences arising from the consolidation of the distribution network, integration of one inventory platform, larger than usual employee turnover, less than adequate training procedures and increased member claims. The increased member claims incurred by TruServ were due to the consolidation of three ordering systems of the various merged entities, containing 130,000 items, into one ordering system containing 60,000 items. Member claims resulted in $20,000,000 of the $74,000,000 inventory adjustment. These claims predominantly arose from a difference between the merchandise the member ordered and the merchandise received by the member (although additional claims arose from damages, overages and allowances). This trend of member claims is not expected to continue because TruServ has taken measures to improve inventory controls by taking more 24 physical inventory counts, using more extensive cycle count procedures and increasing employee training to improve shipping/receiving accuracy and thereby reducing member returns. The sales mix has continued to shift from the handled and paint sales that generate a higher gross margin to the lower gross margin direct shipments and lumber and building material sales to members. The decrease in handled and paint sales, consolidation of the distribution center network, refinement of estimates for allowances and additional costs associated with inventory capitalization negatively impacted the gross margin by $40.3 million. TruServ has continued to provide members with lower pricing to deal with the intense competitive pressure that the members are experiencing in the retail marketplace from "Big Box" stores such as Home Depot, Menards and Lowes, as well as the diversified retailers such as Sears and Walmart. The negative gross margin impact from the aforementioned inventory adjustments, decrease in handled and paint sales and lower pricing to combat competition was partially offset by the gross margin increase attributable to increased direct shipment sales and lumber and building materials sales. The gross margin increased $3,883,000 or 1.6% as a percentage of revenue due to the increase in direct shipment sales and lumber and building materials sales of $248.0 million. Logistics and manufacturing expenses increased $2,953,000 or 3.1% as compared to the prior year. This increase was due to the start-up of a new distribution center in Hagerstown, Maryland, and the shut down of three other distribution centers which caused merger integration costs to increase from $17,589,000 in fiscal 1998 to $18,683,000 in fiscal 1999. The merger integration costs relate to: - additional costs TruServ incurred implementing the merger plan from 1997 that related to former Cotter distribution center closings, severance pay and the temporary incremental increase in warehousing costs to convert to the go forward product assortment; and - the integration of the three distribution networks by consolidating operating systems, revising truck runs for overlapping distribution centers and resizing and reconfiguring warehouse racking. In fiscal 1999, SG&A expenses increased $5,449,000 or 4.0% over the prior year. The increase was primarily attributable to depreciation and amortization and bad debt expense. Depreciation and amortization increased $9,019,000 or 28.1% as a result of the amortization of conversion funds provided to members and increased capital expenditures in 1998 being depreciated in 1999. An additional increase occurred with merger integration costs which were $7,513,000 in fiscal 1999 compared to $2,445,000 in fiscal 1998. These increases were partially offset by decreased travel expenses of approximately $6,000,000. Total interest expense increased in 1999 by $5,602,000 or 10.2% over fiscal 1998. Other interest expense increased by $7,494,000 due to an increase in TruServ's borrowing rate. This increase was partially offset by a decrease in interest paid to members by $1,892,000 or 11.5% due to a lower average interest rate and lower principal balance. The gain on sale of properties totaled $11,724,000 for fiscal year 1999 and is attributable to the sale of redundant distribution centers and associated property. Income tax expense increased by $16,423,000 because of the uncertainty of the future realization of the tax benefit. The previously recorded tax asset related to the merger was written off due to the extent of the net operating loss that had occurred in 1999. The cumulative effect on prior years of a change in accounting principle of $6,484,000 reflects the start-up costs of converting the information technology/inventory management systems used by SCC distribution centers prior to the merger to those systems currently used by TruServ. This reduction in net margins is in compliance with SOP 98-5, "Reporting the Costs of Start-up Activities." The combination of decreased gross margins, increased borrowing costs, increased income tax expense and the cumulative effect of a change in accounting principle resulted in a net loss of $130,803,000 compared to a net margin of $12,020,000 for the same period last year. 25 LIQUIDITY AND CAPITAL RESOURCES Cash provided by operating activities for the fiscal year ended December 31, 2000 was $83,573,000, compared to cash provided by operating activities of $181,607,000 for the fiscal year ended December 31, 1999 and cash used by operating activities of $118,905,000 for the fiscal year ended December 31, 1998. Inventory decreased by $38,752,000 in fiscal year 2000, which continued the decrease in inventory levels started in fiscal 1999 of $112,703,000. These decreases are the result of TruServ consolidating its distribution network to respond to the decline in sales it had experienced, along with its efforts to commonize inventory assortment and implement TruServ's distribution network strategic plan from the merger. TruServ also realized benefits from implementing a new inventory forecasting system that improved service levels to the members. In fiscal 1998, inventory increased $52,572,000 due to the effect of starting the commonization of the inventory assortment and to implementing TruServ's distribution network strategic plan from the merger. Both efforts required TruServ to bring in additional inventory before the old inventory could be removed from the network, which occurred in 1999. In fiscal 2000 and 1999, TruServ experienced a decrease of $52,187,000 and $63,059,000, respectively, in accounts and notes receivable due to both a decline in sales and the implementation of improved collection efforts. In fiscal 1998, accounts and notes receivable increased by $69,585,000 due to a change in terms that extended the dating on seasonal payment terms to TruServ's members. Other significant impacts in operating activities in fiscal 2000 and 1999 were in accounts payable. In fiscal 2000, accounts payable decreased by $81,944,000 resulting from reduced inventory purchases in 2000 and the decrease in lumber and direct shipment sales described above. In fiscal 1999, accounts payable increased by $56,087,000 due to improved terms with vendors and better inventory turns. Cash flows provided by investing activities were $871,000 in fiscal 2000 compared to a use of funds of $10,532,000 in 1999 and $44,011,000 in 1998. Total capital expenditures, including expenditures under capital leases, were $12,526,000 for the fiscal year ended December 31, 2000, as compared to $45,235,000 and $71,343,000 for the fiscal years ended December 31, 1999 and December 31, 1998, respectively. These capital expenditures are comprised of various building improvements and purchases of additional equipment and technology at TruServ's regional distribution centers and at its corporate headquarters. In addition, TruServ benefited from the receipt of proceeds from the sale of properties in fiscal 2000 of $23,113,000. The principal amount of cash was generated from the sale of the lumber and building materials division on December 29, 2000 in the amount of $13,948,000; additionally, this same transaction generated cash in the amount of $5,164,000 received for non-competition, cooperation, lease and other agreements. In fiscal 1999 and 1998, the proceeds from the sale of properties were $39,714,000 and $32,645,000, respectively. These proceeds were predominately generated from the sale of closed distribution centers. TruServ generated cash flows from operating and investing activities and primarily used them to reduce TruServ's debt by $67,943,000 and $170,910,000 for fiscal years 2000 and 1999, respectively. This amount predominately represented a decrease in both long-term and short-term debt. TruServ anticipates that this trend of lower debt will continue due to the sale of the lumber and building materials division. This sale eliminates the float TruServ carried on the direct shipment sales of this division, since the vendor's invoices were paid before the members pay TruServ. In fiscal 1998, TruServ provided cash from financing activities of $162,342,000 to fund the cash used in operations. At July 1, 1997, TruServ established a $300,000,000 five-year revolving credit facility with a group of banks. The agreements were amended and restated in April 2000 after a default was triggered as a result of the loss in 1999. The amendments include increased interest rates, new financial ratios and covenants, and the collateralization of TruServ's assets. TruServ had borrowed under the agreement $127,000,000 and $135,000,000 at December 31, 2000 and 1999, respectively. TruServ also pays a commitment fee of .05% per annum on the unused portion of the commitments. Also, at December 31, 1999, TruServ had amounts due under a commercial paper program of $19,000,000, which it paid in 2000. The weighted average interest rate on these borrowings was 8.9% and 6.4% for the years ended December 31, 2000 and 1999, respectively. Under the senior notes and the revolving credit facility TruServ is required to meet certain restrictive financial ratios and covenants relating to minimum EBITDA, minimum fixed charge coverage, minimum 26 borrowing base to debt ratio, maximum capital expenditures and maximum asset sales, as well as other customary covenants, representations and warranties, funding conditions and events of default. As of December 31, 2000, TruServ was in compliance with the covenant requirements. However, as of February 24, 2001, TruServ failed to comply with a covenant under the revolving credit facility and the senior note agreements which requires TruServ to achieve a minimum monthly borrowing base ratio. As a result, either the senior note holders or the participants in the revolving credit facility could declare this failure to comply with the covenant as an "event of default," in which case the senior notes and the amounts outstanding under the credit facility would become callable as immediately payable. On March 30, 2001 the participants in the revolving credit facility issued to TruServ a "reservation of rights" letter under which the participants effectively stated their intention to not call as immediately payable TruServ's outstanding debt obligations until May 1, 2001, although they were not precluded from doing so. All other rights of the participants were preserved. Additional letters were issued on April 30, 2001 and on July 3, 2001, which extended the reservation of rights until July 30, 2001 and September 30, 2001, respectively. The senior note holders also issued letters reserving their right to accelerate the maturity of the notes although agreeing not to do so at this time. The reservation of rights letters provided by the participants in the revolving credit facility required that the upper limit of the total amount that may be borrowed under the Credit Agreement at any time prior to September 30, 2001 be lowered from $275,000,000 to $225,000,000. The credit limit under this facility was reduced on May 11, 2001 from $275,000,000 to $250,000,000. Additionally, the interest rate on the amounts outstanding under the revolving credit facility was increased by approximately 2%; this increased interest rate also applies to the outstanding senior notes. As a result of this increased interest rate, TruServ will incur additional interest expense in fiscal year 2001. If this increased interest rate continues through December 31, 2001, the additional interest expense would aggregate approximately $6.0 million. TruServ is in discussions with the current lenders and with potential lenders regarding refinancing the senior note agreements and the revolving credit facility and, if successful, will replace the current senior note agreements and the revolving credit facility with an asset-based lending agreement with a new lending group in the fourth quarter of 2001. An alternative may be to amend the existing agreements with the existing lenders. However, no assurances can be given as to the outcome. TruServ's failure to successfully finance or amend its current borrowing arrangements could cause the current lending group to call as immediately payable TruServ's currently outstanding debt obligations. TruServ's resulting inability to satisfy its debt obligations would force TruServ to pursue other alternatives to improve liquidity, possibly including, among other things, restructuring actions, sales of assets and seeking additional sources of funds or liquidity. In particular, TruServ has engaged an investment banking firm to assist in exploring the sale of the paint business. No assurances can be given that TruServ would be successful in pursuing such possible alternatives or, even if successful, that such undertakings would not have a material adverse impact on TruServ. Accordingly, the balances outstanding under the senior note agreements and the revolving credit facility have been classified as current liabilities as of December 31, 2000. However, the financial statements do not include any other adjustments that might result from the outcome of this uncertainty. At December 31, 2000, TruServ's working capital was ($188,739,000), as compared to $85,789,000 at December 31, 1999. The current ratio was 0.82 at December 31, 2000, as compared to 1.10 at December 31, 1999. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK TruServ's operations are subject to certain market risks, primarily interest rate risk and credit risk. Interest rate risk pertains to TruServ's variable rate debt which totals approximately $148,000,000 at September 29, 2001. A 50 basis point movement in interest rates would result in an approximate $740,000 annualized increase or decrease in interest expense and cash flows. For the most part, TruServ manages interest rate risk through a combination of variable and fixed-rate debt instruments with varying maturities. Credit risk pertains mostly to TruServ's trade receivables. TruServ extends credit to its members as part of its 27 day-to-day operations. TruServ 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, TruServ believes that its allowance for doubtful accounts is adequate with respect to member credit risks. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA TruServ's consolidated financial statements and report of independent accountants are listed in the index on page F-1. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE TruServ dismissed Ernst & Young LLP as its independent accountants, as recommended by its Audit and Finance Committee and approved by its Board of Directors. The reports of Ernst & Young LLP of the financial statements for 1998 and 1999 contained no adverse opinion or disclaimer of opinion. Additionally, their opinion was not qualified or modified as to uncertainty, audit scope or accounting principles, except the opinion on the 1999 financial statements was modified to reflect TruServ's change in accounting principle for start-up costs. In connection with its audits for 1998 and 1999, there were no disagreements with Ernst & Young LLP on any matters of accounting principles or practices, financial statement disclosure, or audit scope or procedure which, if not resolved to the satisfaction of Ernst & Young LLP, would have caused Ernst & Young LLP to make reference to the matter in their report. Ernst & Young LLP notified TruServ and its Audit and Finance Committee in a letter dated April 14, 2000 that internal controls necessary for TruServ to develop reliable financials statements did not exist during the year ended December 31, 1999. TruServ's Audit and Finance Committee recommended, and the Board of Directors approved, the appointment of PricewaterhouseCoopers LLP as its new independent accountants on June 29, 2000. 28 DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The directors and senior executive officers of TruServ are:
NAME AGE POSITION(S) HELD AND BUSINESS EXPERIENCE ---- --- ---------------------------------------- Bryan R. Ableidinger................. 53 Director since August, 2000. Term expires at the 2002 annual stockholders' meeting. Benjamin J. Andre.................... 65 Director since August, 2000. Term expires at the 2002 annual stockholders' meeting. Joe W. Blagg......................... 52 Chairman since January, 2000. Director since April, 1996. Term expires at the 2002 annual stockholders' meeting. James D. Burnett..................... 66 Director since April, 1998. Term expires at the 2002 annual stockholders' meeting. Harold A. Douthitt................... 54 Director since August, 2000. Term expires at the 2002 annual stockholders' meeting. Jay B. Feinsod....................... 58 Director since July, 1997. Term expires at the 2002 annual stockholders' meeting. Formerly Director of SCC since October, 1986. William F. Godwin.................... 46 Senior Vice President, Supply Chain since March, 2001. Prior positions were Vice President of Advertising, Merchandising and Inventory Management with the company. Neil A. Hastie....................... 52 Senior Vice President, Chief Information Officer since December, 1999. Prior position was Director of E-Business since 1998. James D. Howenstine.................. 58 Vice-Chairman since January, 2000. Director since July, 1997. Term expires at the 2002 annual stockholders' meeting. Formerly Director of SCC since October, 1995. Peter G. Kelly....................... 58 Director since July, 1997. Term expires at the 2002 annual stockholders' meeting. Formerly Director and Chairman of SCC since January, 1981. Formerly Vice-Chairman of the company. Robert J. Ladner..................... 55 Director since April, 1994. Term expires at the 2002 annual stockholders' meeting. Formerly Chairman of Cotter & Company. Formerly Vice-Chairman of the company. Pamela Forbes Lieberman.............. 47 President and Chief Executive Officer since November 16, 2001. Prior positions with the company were Chief Operating Officer since July 3, 2001, Chief Financial Officer since April 18, 2001 and Senior Vice President, Finance since March 12, 2001. Previous positions were Senior Vice President, Finance and Chief Financial Officer of Shoptalk, Inc., Martin-Brower Company and Fel-Pro Incorporated. Robert M. Liebgott................... 51 Senior Vice President, Sales, Marketing & Merchandising since March, 2001. Prior position was Vice President of Merchandising with the company. Robert Ostrov........................ 52 Chief Administrative Officer and General Counsel since April, 2000, and Senior Vice President since February, 1997. Prior position was Vice President of Human Resources for a retail company.
29
NAME AGE POSITION(S) HELD AND BUSINESS EXPERIENCE ---- --- ---------------------------------------- Michael D. Rosen..................... 49 Senior Vice President of Logistics since March, 2001. Prior positions were Vice President of Logistics and Retail Systems, Assistant Vice President of Retailing, Assistant Vice President of Merger Administration, and General Manager of Lumber and Building Materials. David A. Shadduck.................... 41 Senior Vice President and Chief Financial Officer since November 20, 2001. Prior position with the company was Vice President, Corporate Controller since June, 2001. Previous positions were Controller for Tenneco Automotive Aftermarket and Fel-Pro Incorporated. George V. Sheffer.................... 49 Director since July, 1994. Term expires at the 2002 annual stockholders' meeting. John M. West, Jr. ................... 48 Director since October, 1991. Term expires at the 2002 annual stockholders' meeting. Barbara B. Wilkerson................. 53 Director since July, 1997. Term expires at the 2002 annual stockholders' meeting. Formerly Director of SCC since October, 1986.
- ------------------------- During the past five years, the principal occupation of each director of TruServ was the operation of retail hardware stores or lumber/building materials stores. 30 EXECUTIVE COMPENSATION COMPENSATION COMMITTEE The Compensation Committee of the board of directors consists of four non-employee directors and assists the board of directors in fulfilling its responsibilities for setting and administering the policies which govern annual compensation and monitoring TruServ's pension and other benefit plans. The committee, which meets regularly, calls upon outside consultants for assistance in carrying outs its obligations. The philosophy of the committee is to maintain an executive compensation program to help TruServ attract, retain and motivate the executive resources needed to maintain industry leadership, provide high levels of service to members, and achieve the financial objectives determined by the board of directors. The committee sets performance goals, assesses achievement relative to the performance goals, and recommends to the board salary, bonus and long-term incentives for the senior executives of TruServ. To achieve its goals, the committee has developed three executive compensation policies for TruServ: - Salaried compensation should be competitive with the median for executives of companies of a comparable size within TruServ's industry; - Annual incentive compensation should vary and reflect TruServ's performance; and - A long-term (multiple year) incentive program should be available to help TruServ retain selected executives. The combination of these three compensation policies is intended to provide competitive earning opportunities when performance reaches desired levels. Both the annual and long-term incentive plans may be terminated by the board of directors at any time. The bonus and long-term components of the total compensation package are computed in the year following the year in which they are earned and are paid out to the individual with respect to the prior year. TruServ provides salary levels that fall within the median (between the 50th to 60th percentile) of the executive marketplace of comparable size in TruServ's industry. The following types of organizations are considered within TruServ's industry: member-owned organizations, wholesale distribution firms, mass merchandising firms and general manufacturing organizations. Competitiveness is measured using data from a number of sources, including published information, proxy statements and surveys by consulting firms. The 2000 compensation of Donald Hoye, TruServ's former chief executive officer, was determined as follows: The salary component of his total compensation was maintained at $500,000, the same level he had in 1999. Mr. Hoye earned a bonus for year 2000 of $417,500 as a result of TruServ's improved services to the members in 2000 over 1999. Mr. Hoye did not receive a bonus in 1999. In 2000, Mr. Hoye did not receive a long-term incentive award. Harold A. Douthitt Peter G. Kelly Robert J. Ladner John M. West Joe W. Blagg (ex officio) COMPENSATION COMMITTEE 31 EXECUTIVE COMPENSATION 2000 The following table sets forth the total annual compensation paid to TruServ's five most highly compensated executive officers during fiscal year 2000 and the total compensation paid to each such individual for TruServ's two previous fiscal years: SUMMARY COMPENSATION TABLE
NAME AND OTHER PRINCIPAL POSITION YEAR SALARY BONUS(1) COMPENSATION(2) ------------------ ---- ------ -------- --------------- Donald J. Hoye...................................... 2000 $500,000 $417,500 $ 44,855 Former President and 1999 500,000 -- 38,418 Chief Executive Officer 1998 408,750 -- 58,395 Brian T. Schnabel................................... 2000 384,375 303,400 39,165 Former Executive Vice President and 1999 304,400 195,000 37,372 Chief Operating Officer 1998 75,800 72,000 230,729 Robert Ostrov....................................... 2000 264,080 172,550 30,592 Senior Vice President, Chief Administrative 1999 244,000 36,000 19,302 Officer and General Counsel 1998 234,000 -- 15,020 Leonard G. Kuhr..................................... 2000 268,750 137,550 16,697 Former Senior Vice President and 1999 -- -- -- Chief Financial Officer 1998 -- -- -- Robert M. Liebgott.................................. 2000 255,000 129,000 27,843 Vice President, 1999 246,000 15,000 10,940 Merchandising 1998 237,000 50,000 11,460
- ------------------------- (1) Annual bonus amounts are earned and accrued during the fiscal years indicated, and paid subsequent to the end of each fiscal year. In 2000, a special recognition bonus was earned and paid as a result of TruServ's increased service to members. (2) Other compensation consists of TruServ's contributions to the TruServ Corporation Employee's Savings and Compensation Deferral Plan (the "Savings Plan"), life insurance plan, financial planning services 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 TruServ's contributions) per year, of which $10,000 of the executive officer's salary in fiscal year 1999 may be deferred. TruServ's contribution to the Savings Plan, from January 1 through June 30 of 2000, was 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. Effective July 1, 2000, the Savings Plan was amended to apply only a profit sharing match tied to TruServ's net earnings. The officers did not received a company match for the second half of fiscal 2000. In 1999, other compensation for Mr. Hoye consisted primarily of a transition bonus of $20,000. For Mr. Schnabel the 1999 other compensation consisted primarily of relocation payments of $23,380. In 1998, other compensation for Mr. Hoye consisted primarily of a transition bonus of $40,000. For Mr. Schnabel the 1998 other compensation consisted primarily of relocation payments of $228,116. TruServ has a severance policy providing termination benefits based upon annual compensation and years of service. Officers of TruServ 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 TruServ to its executive officers or to its directors during the last three fiscal years. 32 BOARD COMPENSATION In 2000, directors of TruServ (except the chairman and vice chairman) were each paid $2,000 per month. The Chairman of the Board was paid $100,000 and the Vice Chairman of the Board was paid $54,000 for 2000. DEFINED BENEFIT RETIREMENT PLANS TruServ has a defined benefit pension plan, the TruServ Corporation Defined Lump Sum Pension Plan, which is qualified under the Internal Revenue Code. The plan was amended and restated effective January 1, 1998. The amount of TruServ'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 SCC. These employees received 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 received 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 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. TruServ amended and restated, effective July 24, 1998, a Supplemental Retirement Plan for certain employees as designated by TruServ's President and Chief Executive Officer. The supplemental plan was amended on July 1, 1997 to include certain former SCC employees. For each year of 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 and 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 66%. This amount is reduced by any benefits payable under the supplemental 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 Internal Revenue Code. Benefits payable under the supplemental plan are financed through operations. The estimated annual retirement benefits which may be payable pursuant to the supplemental plan to the officers named in the Summary Compensation Table are currently limited under Section 401(a)(17) of the Internal Revenue Code, which outlines the maximum earnings amounts which may be considered under the supplemental plan in determining retirement benefits. 33 This limit was $170,000 for 2000. Section 415 of the Internal Revenue Code outlines the maximum annual benefit which may be payable from the supplemental plan during the year; the dollar limit is $140,000 for 2001 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................................ $392,152 $545,467 $613,260 $613,260 $613,260 900,000................................ 352,242 489,878 550,544 550,544 550,544 800,000................................ 312,331 434,288 487,827 487,827 487,827 700,000................................ 272,421 378,699 425,111 425,111 425,111 600,000................................ 232,511 323,110 362,395 362,395 362,395 500,000................................ 192,600 267,520 299,679 299,679 299,679 400,000................................ 152,690 211,931 236,962 236,962 236,962 300,000................................ 112,780 156,341 174,246 174,246 174,246 200,000................................ 72,869 100,752 111,530 111,530 111,530 100,000................................ 32,959 45,163 48,814 48,814 48,814
The present credited years of service for the officers listed in the above table are as follows: Robert Ostrov, 4 years; Robert M. Liebgott, 4 years. PERFORMANCE GRAPH There is no existing market for TruServ's common stock and there is no expectation that any market will develop. There are no broad market or peer group indices TruServ believes would render meaningful comparisons. Accordingly, a performance graph of TruServ's cumulative total stockholder return for the previous five years, with a performance indicator of the overall stock market for TruServ's peer group, has not been prepared. EMPLOYMENT AGREEMENT On July 3, 2001, Donald J. Hoye resigned from the position of Chief Executive Officer of TruServ. Pursuant to the terms of his separation agreement with TruServ, Mr. Hoye is entitled to receive $1,300,000 as severance pay, to be paid over two years. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT As of September 29, 2001, each of the directors of TruServ was the beneficial owner of at least 60 shares of Class A common stock of TruServ, consisting of 0.2% of the issued and outstanding shares of Class A Common Stock. No senior officer owns any shares of Class A common stock. The directors own, in the aggregate, approximately .7% of Class B common stock as of September 29, 2001. No senior officer owns any shares of Class B common stock. USE OF PROCEEDS We plan to use proceeds from the offering of the notes for general working capital purposes, including the purchase of merchandise for resale to our members. 34 PLAN OF DISTRIBUTION We are offering the notes exclusively to our current members who own Class A common stock and current holders of other TruServ Corporation notes. Initially, you may purchase the notes only in denominations of $1,000 or increments thereof. We are offering and selling the notes directly to you. We have no underwriters. LEGAL MATTERS The legality of the notes has been passed upon for us by Goldberg, Kohn, Bell, Black, Rosenbloom & Moritz, Ltd., Chicago, Illinois. INDEMNIFICATION TruServ's Certificate of Incorporation and Bylaws provided for indemnification of directors and officers to the full extent permitted by Delaware law. Insofar as indemnification for liabilities arising under the Securities Act of 1933 (the "Act") may be permitted to directors, officers or persons controlling TruServ as described above, TruServ has been informed that it is in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Act and is therefore unenforceable. WHERE YOU CAN FIND MORE INFORMATION We file annual, quarterly and special reports, and other information with the SEC. Our SEC filings are available to the public over the Internet on the SEC's web site at http://www.sec.gov. You may also read and copy any document we file at the SEC's public reference rooms in Washington, D.C., New York, New York and Chicago, Illinois. Please call the SEC at 1-800-SEC-0330 for further information on the public reference rooms. Each year, we distribute an annual report containing consolidated financial statements reported upon by our independent auditors to our stockholder-members. We may, from time to time, also furnish interim reports to our stockholder-members, as determined by our management. Our web page address is http://www.truserv.com. Request for additional information from TruServ should be made to the Chief Financial Officer, TruServ Corporation, 8600 West Bryn Mawr Avenue, Chicago, Illinois 60631-3505, Telephone: (773) 695-5000, Facsimile: (773) 695-6563. 35 FINANCIAL STATEMENTS INDEX TO CONSOLIDATED FINANCIAL STATEMENTS.
PAGE(S) ------- Annual Financial Statements: Report of Independent Accountants........................... F-2 Report of Independent Auditors.............................. F-3 Consolidated Balance Sheet at December 31, 2000 and December 31, 1999.................................................. F-4 Consolidated Statement of Operations for each of the three years in the period ended December 31, 2000............... F-5 Consolidated Statement of Cash Flows for each of the three years in the period ended December 31, 2000............... F-6 Consolidated Statement of Members' Equity for each of the three years in the period ended December 31, 2000......... F-7 Notes to Consolidated Financial Statements.................. F-8 to F-27 Schedule II--Valuation and Qualifying Accounts.............. F-28 Interim Financial Statements: Condensed Consolidated Balance Sheet at September 29, 2001 and December 31, 2000..................................... F-29 Condensed Consolidated Statement of Operations for the thirteen weeks ended September 29, 2001 and September 30, 2000 and for the thirty-nine weeks ended September 29, 2001 and September 30, 2000............................... F-30 Condensed Consolidated Statement of Cash Flows for the thirty-nine weeks ended September 29, 2001 and September 30, 2000.................................................. F-31 Notes to Condensed Consolidated Financial Statements........ F-32 to F-37
F-1 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Members of TruServ Corporation In our opinion, the consolidated financial statements of TruServ Corporation as of and for the year ended December 31, 2000 listed in the accompanying index appearing on page F-1 present fairly, in all material respects, the financial position of TruServ Corporation and its subsidiaries at December 31, 2000, and the results of their operations and their cash flows for the year then ended in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule as of December 31, 2000 and for the year then ended listed in the accompanying index appearing on page F-1 presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements and financial statement schedule are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audit. We conducted our audit of these statements in accordance with auditing standards generally accepted in the United States of America, which 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. The financial statements and financial statement schedule as of December 31, 1998 and 1999 and for both of the years then ended were audited by other independent accountants whose report dated April 14, 2000 (except as to Note 1 which is as of July 3, 2001) expressed an unqualified opinion on those financial statements and financial statement schedule. The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 2 to the consolidated financial statements, as of February 24, 2001 the Company was in violation of certain restrictive covenants contained in its lending agreements and, as also discussed in Note 2, is currently in the process of renegotiating such agreements with its lending group. These factors raise substantial doubt about the Company's ability to continue as a going concern. As a result, all of the Company's debt obligations to its lending group have been classified as current liabilities. However, the financial statements do not include any other adjustments that might result from the outcome of this uncertainty. /s/ PricewaterhouseCoopers LLP Chicago, Illinois February 22, 2001, except as to note 2 which is as of July 3, 2001 and note 7 which is as of April 19, 2001 F-2 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 as of December 31, 1999 (as restated), and the related consolidated statements of operations, cash flows, and members' equity for each of the two years in the period ended December 31, 1999 (as restated). Our audit also included the financial statement schedule listed in the accompanying index appearing on page F-1. These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. 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, 1999 (as restated), and the consolidated results of its operations and its cash flows for each of the two years in the period ended December 31, 1999 (as restated), in conformity with accounting principles generally accepted in the United States. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respect the information set forth therein. As discussed in Note 1 to the financial statements, the Company has restated the financial statements for the years ended December 31, 1999, 1998 and 1997 to charge to expense as incurred certain costs that had been previously accrued in connection with a 1997 merger. As discussed in Note 1 to the financial statements, in 1999 the Company changed its method of accounting for start-up costs. /s/ Ernst & Young LLP Chicago, Illinois April 14, 2000, except for Note 1, as to which the date is July 3, 2001 F-3 TRUSERV CORPORATION CONSOLIDATED BALANCE SHEET
DECEMBER 31, DECEMBER 31, 2000 1999 ------------ ------------ (RESTATED) (000'S OMITTED) ASSETS Current assets: Cash and cash equivalents................................. $ 18,316 $ 1,815 Restricted cash (Note 13)................................. 1,000 -- Accounts and notes receivable, net of allowance for doubtful accounts of $7,170,000 and $5,613,000......... 396,587 460,419 Inventories (Note 3)...................................... 443,663 482,415 Other current assets...................................... 12,274 9,937 ---------- ---------- Total current assets................................. 871,840 954,586 Properties, net (Note 4).................................... 216,146 244,845 Goodwill, net............................................... 94,051 101,787 Other assets................................................ 53,977 34,179 ---------- ---------- Total assets......................................... $1,236,014 $1,335,397 ========== ========== LIABILITIES AND CAPITALIZATION Current liabilities: Accounts payable.......................................... $ 356,196 $ 442,140 Outstanding checks........................................ 129,490 102,764 Accrued expenses.......................................... 85,161 68,798 Short-term borrowings (Note 5)............................ 138,085 167,007 Current maturities of long-term debt, notes and capital lease obligations (Notes 5, 6 and 8)................... 341,188 88,088 Patronage dividend payable in cash........................ 10,459 -- ---------- ---------- Total current liabilities............................ 1,060,579 868,797 Long-term debt, including capital lease obligations, less current maturities (Notes 5 and 6)........................ 9,091 309,796 Deferred credits (Note 13).................................. 9,821 1,872 ---------- ---------- Total liabilities and deferred credits............... 1,079,491 1,180,465 ---------- ---------- Minority interest........................................... 4,999 4,677 Commitments and contingencies (Note 7)...................... -- -- Members' capitalization: Promissory (subordinated) and installment notes (Note 8)..................................................... 65,846 83,804 Members' equity: Redeemable Class A voting common stock, $100 par value; 750,000 shares authorized; 411,180 and 405,060 shares issued and fully paid; 98,880 and 106,380 shares issued (net of subscriptions receivable of $1,922,000 and $3,874,000)....................................... 49,084 47,270 Redeemable Class B non-voting common stock and paid-in capital, $100 par value; 4,000,000 shares authorized; 1,731,482 and 1,764,797 shares issued and fully paid.................................................. 174,448 177,779 Loss allocation (Note 1)............................... (92,460) -- Deferred patronage (Note 1)............................ (27,288) (27,663) Accumulated deficit.................................... (17,134) (130,089) Accumulated other comprehensive loss................... (972) (846) ---------- ---------- Total Members' equity................................ 85,678 66,451 ---------- ---------- Total Members' capitalization........................ 151,524 150,255 ---------- ---------- Total liabilities and Members' capitalization........ $1,236,014 $1,335,397 ========== ==========
The accompanying notes are an integral part of the Consolidated Financial Statements F-4 TRUSERV CORPORATION CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE YEARS ENDED -------------------------------------------- DECEMBER 31, DECEMBER 31, DECEMBER 31, 2000 1999 1998 ------------ ------------ ------------ (RESTATED) (RESTATED) (000'S OMITTED) Revenues................................................ $3,993,642 $4,502,326 $4,328,238 ---------- ---------- ---------- Cost and expenses: Cost of revenues...................................... 3,716,245 4,320,861 4,030,103 Logistics and manufacturing expenses.................. 89,944 99,282 96,329 Selling, general and administrative expenses.......... 122,860 142,134 136,685 Interest paid to Members.............................. 11,131 14,498 16,390 Other interest expense................................ 56,575 46,204 38,710 Gain on sale of assets (Note 13)...................... (30,337) (11,724) (954) Other income, net..................................... (7,809) (1,630) (1,642) ---------- ---------- ---------- 3,958,609 4,609,625 4,315,621 ---------- ---------- ---------- Net margin/(loss) before income taxes and cumulative effect of a change in accounting principle............ 35,033 (107,299) 12,617 Income tax expense (Note 9)............................. 916 17,020 597 ---------- ---------- ---------- Net margin/(loss) before cumulative effect of a change in accounting principle............................... 34,117 (124,319) 12,020 Cumulative effect on prior years of a change in accounting principle, net of tax...................... -- 6,484 -- ---------- ---------- ---------- Net margin/(loss)....................................... $ 34,117 $ (130,803) $ 12,020 ========== ========== ==========
See Note 1 for restatement of 1999 and 1998 operations. The accompanying notes are an integral part of the Consolidated Financial Statements F-5 TRUSERV CORPORATION CONSOLIDATED STATEMENT OF CASH FLOWS
FOR THE YEARS ENDED -------------------------------------------- DECEMBER 31, DECEMBER 31, DECEMBER 31, 2000 1999 1998 ------------ ------------ ------------ (RESTATED) (RESTATED) (000'S OMITTED) Operating activities: Net margin/(loss)..................................... $ 34,117 $(130,803) $ 12,020 Adjustments to reconcile net margin/(loss) to net cash and cash equivalents provided by/(used for) operating activities: Depreciation and amortization...................... 43,033 41,131 32,112 Provision for losses on accounts and notes receivable....................................... 9,147 5,148 2,808 Gain on sale of assets............................. (30,337) (11,724) (954) Changes in operating assets and liabilities: Accounts and notes receivable.................... 52,187 63,059 (69,585) Inventories...................................... 38,752 112,703 (52,572) Other current assets............................. (2,337) 26,110 (19,795) Accounts payable................................. (81,944) 56,087 20,010 Accrued expenses................................. 16,839 2,229 (41,698) Other adjustments, net............................. 4,116 17,667 (1,251) -------- --------- --------- Net cash and cash equivalents provided by/(used for) operating activities..................... 83,573 181,607 (118,905) -------- --------- --------- Investing activities: Additions to properties............................... (12,526) (44,930) (70,733) Proceeds from sale of properties (Note 13)............ 23,113 39,714 32,645 Changes in restricted cash (Note 13).................. (1,000) -- -- Changes in other assets............................... (8,716) (5,316) (5,923) -------- --------- --------- Net cash and cash equivalents provided by/(used for) investing activities........................ 871 (10,532) (44,011) -------- --------- --------- Financing activities: Payment of patronage dividend......................... -- (14,507) (12,142) Payment of notes, long-term debt and lease obligations........................................ (67,355) (57,340) (41,966) Proceeds from long-term borrowings.................... 1,098 731 158,821 Increase/(decrease) in outstanding checks............. 26,726 (3,912) 16,813 Increase/(decrease) in short-term borrowings.......... (28,922) (91,140) 42,680 Purchase of common stock.............................. (599) (5,359) (3,618) Proceeds from sale of Redeemable Class A common stock.............................................. 1,109 617 1,754 -------- --------- --------- Net cash and cash equivalents provided by/(used for) financing activities........................ (67,943) (170,910) 162,342 -------- --------- --------- Net increase/(decrease) in cash and cash equivalents.... 16,501 165 (574) Cash and cash equivalents at beginning of year.......... 1,815 1,650 2,224 -------- --------- --------- Cash and cash equivalents at end of year................ $ 18,316 $ 1,815 $ 1,650 ======== ========= =========
See Note 10 for supplemental cash flow information. The accompanying notes are an integral part of the Consolidated Financial Statements F-6 TRUSERV CORPORATION CONSOLIDATED STATEMENT OF MEMBERS' EQUITY
REDEEMABLE COMMON STOCK PAR VALUE ---------------------------------------------- CLASS A CLASS B RETAINED --------------------- ---------------------- LOSS DEFERRED EARNINGS/ # OF SHARES $ # OF SHARES $ ALLOCATION PATRONAGE (DEFICIT) ----------- - ----------- - ---------- --------- --------- (000'S OMITTED, EXCLUDING SHARE DATA) Balances at December 31, 1997 as originally reported................................... 537,115 $47,423 1,859,589 $187,259 $ -- $ -- $ 685 Effect of restatement--Note 1................ (4,800) 170 ------- ------- --------- -------- --------- -------- --------- Balances at December 31, 1997 (Restated)..... 537,115 47,423 1,859,589 187,259 -- (4,800) 855 Net margin................................... 12,020 Foreign currency translation adjustment...... Patronage dividend........................... 195,135 19,512 (23,238) (11,786) Stock issued for increase in Class A requirements............................... 7,810 781 (7,810) (781) Stock issued for paid-up subscriptions....... 62,385 6,637 Stock purchased and retired.................. (49,610) (4,961) (103,470) (10,347) ------- ------- --------- -------- --------- -------- --------- Balances at and for the year ended December 31, 1998 (Restated)........................ 557,700 49,880 1,943,444 195,643 -- (28,038) 1,089 Net loss..................................... (130,803) Foreign currency translation adjustment...... Amortization of deferred patronage........... 375 (375) Stock issued for paid-up subscriptions....... 8,650 2,881 Stock purchased and retired.................. (54,910) (5,491) (178,647) (17,864) ------- ------- --------- -------- --------- -------- --------- Balances at and for the year ended December 31, 1999 (Restated)........................ 511,440 47,270 1,764,797 177,779 -- (27,663) (130,089) Net margin................................... 34,117 Foreign currency translation adjustment...... Amortization of deferred patronage........... 375 (375) Loss allocation.............................. (113,918) 113,918 Patronage dividend........................... 30 3 225,510 22,551 (34,705) Class B stock applied against loss allocation................................. (214,580) (21,458) 21,458 Stock issued for paid-up subscriptions....... 14,550 3,407 Stock purchased and retired.................. (15,960) (1,596) (44,245) (4,424) ------- ------- --------- -------- --------- -------- --------- Balances at and for the year ended December 31, 2000................................... 510,060 $49,084 1,731,482 $174,448 $ (92,460) $(27,288) $ (17,134) ======= ======= ========= ======== ========= ======== ========= ACCUMULATED OTHER TOTAL TOTAL COMPREHENSIVE MEMBERS' COMPREHENSIVE INCOME/(LOSS) EQUITY INCOME/(LOSS) ------------- -------- ------------- (000'S OMITTED, EXCLUDING SHARE DATA) Balances at December 31, 1997 as originally reported................................... $(1,056) $ 234,311 Effect of restatement--Note 1................ (4,630) ------- --------- Balances at December 31, 1997 (Restated)..... (1,056) 229,681 Net margin................................... 12,020 12,020 Foreign currency translation adjustment...... (318) (318) (318) Patronage dividend........................... (15,512) Stock issued for increase in Class A requirements............................... -- Stock issued for paid-up subscriptions....... 6,637 Stock purchased and retired.................. (15,308) ------- --------- --------- Balances at and for the year ended December 31, 1998 (Restated)........................ (1,374) 217,200 $ 11,702 ========= Net loss..................................... (130,803) $(130,803) Foreign currency translation adjustment...... 528 528 528 Amortization of deferred patronage........... -- Stock issued for paid-up subscriptions....... 2,881 Stock purchased and retired.................. (23,355) ------- --------- --------- Balances at and for the year ended December 31, 1999 (Restated)........................ (846) 66,451 $(130,275) ========= Net margin................................... 34,117 $ 34,117 Foreign currency translation adjustment...... (126) (126) (126) Amortization of deferred patronage........... -- Loss allocation.............................. -- Patronage dividend........................... (12,151) Class B stock applied against loss allocation................................. Stock issued for paid-up subscriptions....... 3,407 Stock purchased and retired.................. (6,020) ------- --------- --------- Balances at and for the year ended December 31, 2000................................... $ (972) $ 85,678 $ 33,991 ======= ========= =========
Redeemable Class A common stock amounts are net of unpaid subscription amounts of $1,925,000 relating to 98,880 issued shares at December 31, 2000; $3,874,000 relating to 106,380 issued shares at December 31, 1999; $5,890,000 relating to 178,020 issued shares at December 31, 1998; and $6,289,000 relating to 149,875 issued shares at December 31, 1997. The accompanying notes are an integral part of the Consolidated Financial Statements F-7 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. DESCRIPTION OF BUSINESS AND ACCOUNTING POLICIES Principal business activity TruServ Corporation ("TruServ" or the "company") is a member-owned wholesaler of hardware 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 (300 shares)) of the company's Class A common stock upon becoming a member. The Class A stock is redeemable by the company and has voting rights (the "Redeemable Class A voting common stock"). 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. Business Combination On July 1, 1997, pursuant to an Agreement and Plan of Merger dated December 9, 1996 between Cotter & Company ("Cotter"), a Delaware corporation, and ServiStar Coast to Coast Corporation ("SCC"), SCC merged with and into Cotter (the "Merger), 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 non-assessable share of TruServ Redeemable Class A voting 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's Class B common stock, which is redeemable by the company and has no voting rights (the "Redeemable Class B common stock"). A total of 270,500 and 1,170,670 shares of TruServ Redeemable Class A voting common stock and Redeemable Class B common stock, respectively, were issued in connection with the Merger. Also, 231,000 additional shares of TruServ Redeemable Class A voting common stock were issued in exchange for Redeemable Class B common stock to pre-Merger stockholders of Cotter to satisfy the Redeemable Class A voting 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. In connection with the Merger, the company originally reported an estimated liability of $38,249,000 for costs associated with the Merger plan that was recorded in Accrued expenses. The company's Merger plan, the timing of which did not change significantly subsequent to the adoption of the plan, intended to take the following actions: 1) Optimize the distribution network, including closing five distribution centers, resizing 18 distribution centers to commonize the inventory assortment, reducing inventory levels and reducing freight costs. 2) Consolidate corporate staff, including reducing costs in the areas of advertising, merchandising and general administration, finance, human resources and printing and office services. In combining these various corporate functions, relocation and severance costs were incurred. 3) Consolidate all paint manufacturing. All paint that was manufactured or distributed to SCC would be manufactured out of the company's Cary manufacturing facility. During the remainder of fiscal 1997 and all of fiscal 1998, the company completed the following actions in its Merger plan: 1) In 1997, the company announced the closing of four distribution centers (Ocala, FL; Charleston, IL; Peachtree City, GA and Ft. Smith, AK). The Charleston, IL, and Ocala, FL, distribution centers were sold in 1998. 2) In 1998, the company announced the closing of three distribution centers (Parkesburg, PA; Piedmont, SC; and Portland, OR). 3) The company closed its Butler, PA office building. 4) The company converted to one inventory assortment and began replenishing the RDC inventory. 5) The F-8 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) merger plan specified staff reductions of approximately 1,500 former SCC employees. As of December 31, 1998, 88% of these positions had been terminated. During fiscal year 1999, the Company completed the following actions in its plan: 1) The company sold its Parkesburg, Piedmont and Portland properties. The company announced the closing of its Westfield, MA distribution center. 2) The company consolidated all paint manufacturing at the Cary manufacturing facility. 3) The merger plan specified the elimination of 1,500 SCC employees. As of December 31, 1999 approximately 99% of these employees had been terminated. 4) The company also opened a new distribution center in May 1999. Three of the above mentioned distribution centers (Ocala, Peachtree and Portland) were closed during this timeframe but the related costs were not accrued for as EITF 95-3 charges because they were Cotter & Company (acquiror) locations. Additionally, the Westfield distribution center related costs were not accrued for as EITF 95-3 charges because the closure announcement was beyond the allowed twelve-month time frame. Accordingly, the merger has taken a long time because the Company had to close seven distribution centers, commonize the inventory assortment, consolidate all paint manufacturing, build a new distribution center and, lastly, reduce corporate overhead. The company has restated the estimated liability described above from $38,249,000 to $24,649,000. A description of this restatement of $13,600,000 in goodwill is discussed later in this footnote under the caption "Restatement of financial information." The schedule below shows the restated composition of the estimated liability for costs associated with the plan and the utilization of those reserves during subsequent periods:
RDC MOVING & SHUTDOWN SEVERANCE RELOCATION TOTAL -------- --------- ---------- ----- July 1, 1997 Charge to Goodwill........................ $ 5,645 $14,804 $ 4,200 $24,649 Utilization of Reserves................................ (600) (5,700) (2,000) (8,300) ------- ------- ------- ------- Balance as of December 31, 1997........................ 5,045 9,104 2,200 16,349 Utilization of Reserves................................ (1,500) (6,100) (2,200) (9,800) Adjustments to Goodwill................................ (1,393) (1,156) -- (2,549) ------- ------- ------- ------- Balance as of December 31, 1998........................ 2,152 1,848 -- 4,000 Utilization of Reserves................................ (1,469) (1,848) -- (3,317) ------- ------- ------- ------- Balance as of December 31, 1999........................ 683 -- -- 683 Utilization of Reserves................................ (683) -- -- (683) ------- ------- ------- ------- Balance as of December 31, 2000........................ $ -- $ -- $ -- $ -- ======= ======= ======= =======
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 TruServ Canada Cooperative, Inc., a Canadian member-owned wholesaler of hardware, variety and related merchandise, in which the company has a majority equity interest. Restatement of financial information The company has restated the accompanying consolidated financial statements as of and for the years ended December 31, 1999, 1998 and 1997 to expense as incurred certain costs previously accrued in connection with the SCC merger. The net loss in 1999 was reduced by $340,000 and the net margin in 1998 and 1997 was reduced by $8,460,000 and $4,630,000, respectively. Such costs relate to data center costs and F-9 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) related amortization that represented incremental costs to exit an activity that would not have been incurred by the company had it decided not to close the SCC corporate office at the time of the merger. As a result of the restatement, goodwill was reduced by $13,600,000 at December 31, 1997, net of amortization of $170,000 in 1997 and $340,000 in 1998 and 1999. The impact of these adjustments on the company's financial results as previously reported is summarized as follows:
1999 1998 1997 -------------------------- -------------------------- -------------------------- AS REPORTED AS RESTATED AS REPORTED AS RESTATED AS REPORTED AS RESTATED ----------- ----------- ----------- ----------- ----------- ----------- (000'S OMITTED) Revenues............... $4,502,326 $4,502,326 $4,328,238 $4,328,238 $3,331,686 $3,331,686 Net margin/(loss) before income taxes and cumulative effect of a change in accounting principle............ (107,639) (107,299) 21,077 12,617 44,316 39,686 Net margin/(loss) before cumulative effect of a change in accounting principle............ (124,659) (124,319) 20,480 12,020 42,716 38,086 Net margin/(loss)...... (131,143) (130,803) 20,480 12,020 42,716 38,086 Members' equity........ 79,201 66,451 230,290 217,200 234,311 229,681
Reclassifications Certain reclassifications have been made to the prior year's consolidated financial statements to conform with the current year's presentation, including the reclassification of merger integration costs into logistic and manufacturing expenses and selling, general and administrative expenses. These reclassifications had no effect on Net margin/(loss) for any period or on Total Members' equity at the balance sheet dates. Capitalization The company's capital (Capitalization) is derived from Members' equity and Promissory (subordinated) and installment notes. Members' equity is comprised of Redeemable Class A voting common stock, Redeemable Class B common stock, Accumulated deficit, Loss allocation, Deferred patronage and Accumulated other comprehensive loss. Promissory (subordinated) notes and Redeemable Class B common stock are 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. Patronage dividend Patronage dividends in the amount of $34,705,000 were paid on March 31, 2001, approximately thirty percent of which were paid in cash (TruServ by-laws and the IRS require that the payment of at least twenty percent of patronage dividends be in cash). The remainder was paid through the issuance of the company's Redeemable Class B common stock and, in certain cases, a small portion of the dividend was paid by means of Promissory (Subordinated) Notes of the company. The Redeemable Class B common stock issued for the December 31, 2000 patronage dividend has been designated as qualified notices of allocation. No patronage dividends were declared for the fiscal year ended December 31, 1999. Patronage dividends earned for fiscal year 1998 were declared and were paid to TruServ members in the first quarter of 1999 with at least thirty percent of the patronage dividend paid in cash and the remainder paid through the issuance of the company's Redeemable Class B common stock. The Redeemable Class B common stock issued for the December 31, 1998 patronage dividend has been designated as non-qualified notices of allocation and is not taxable to the F-10 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 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 Redeemable Class B common stock. Any further distributions after meeting the Redeemable Class B common stock requirements agreed upon in the Merger Agreement will be paid in cash, up to the limits set by financial covenants of the bank debt or 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. Deferred patronage has been adjusted to include the amounts identified in the note "Restatement of financial information" above. Membership may be terminated without cause by either the company or the member upon sixty 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 Redeemable Class A voting common stock and Redeemable Class B common stock at par value. Payment for the Redeemable Class A voting common stock will be in cash. Payment for the qualified Redeemable Class B common stock will be in the form of a note payable in five equal annual installments and with interest set at comparable treasury rates plus 2.0%. However, the company has initiated a moratorium, effective March 17, 2000, on the redemption of its stock. The Board of Directors will review this matter from time to time in light of the then current financial condition of the company. Loss allocation to members During the third quarter of fiscal year 2000, company management developed and the Board of Directors approved a plan to equitably allocate to members the loss incurred in 1999. This loss was previously recorded as a reduction of Retained Earnings. The company has allocated the 1999 loss by establishing a Loss allocation account as a contra-equity account in the consolidated balance sheet with the offsetting credit recorded to Retained earnings/(deficit). The Loss allocation account reflects the sum of each member's proportionate share of the 1999 loss, after being reduced by certain amounts that are not allocable to members. The Loss allocation account is not a receivable from members and does not represent an amount currently due from members. Rather, the Loss allocation account will be satisfied, on a member by member basis, by withholding the portion of future patronage dividends that would have been paid in qualified Redeemable Class B common stock, at par value, and applying such amount as a reduction in the Loss allocation account until fully satisfied. The current levels of members' stock investments in the company will not be affected. However, in the event a member should terminate as a stockholder of the company, any unsatisfied portion of that member's Loss allocation account will be satisfied by reducing the redemption amount paid for the member's stock investment in the company. Cash equivalents The company classifies all highly liquid investments 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. The cost of inventory also includes indirect costs (such as logistics, manufacturing and support costs) incurred to bring inventory to its existing location for resale. These costs are initially included in logistics, manufacturing, general and administrative expenses, and are then reclassified to inventory and subsequently recorded as cost of revenues as the inventory is sold (see Note 3). F-11 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 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 and software--5 to 10 years; transportation equipment--3 to 7 years; and leasehold improvements--the lesser of the life of the lease, without regard to options for renewal, or the useful life of the underlying property. 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. Amortization of goodwill was approximately $3,054,000, $2,591,000 and $2,398,000 for fiscal year 2000, 1999 and 1998, respectively. Conversion funds In connection with the Merger, the company made available to the members funds to assist their stores in defraying various conversion costs associated with the Merger and costs associated with certain upgrades and expansions of their store. The total amount of conversion funds distributed was $27,175,000 with an amortization period of 5 years. The annual amortization expense for fiscal year 2000, 1999 and 1998 was $4,385,000, $3,466,000 and $0, respectively. Asset impairment For purposes of determining impairment, management groups long-lived assets based on a geographic region or revenue producing activity as appropriate. Such impairment 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) are not sufficient to recover the carrying value of the long-lived assets, including associated goodwill, of the region or activity, such assets would be determined to be impaired and would be written down to fair value. There were no impairments of long-lived assets as of December 31, 2000 or 1999. Start-up costs In April 1998, the AICPA issued Statement of Position ("SOP") 98-5, "Reporting the Costs of Start-up Activities." The SOP was 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 be expensed as incurred. The unamortized balance of start-up costs was written off as of January 1, 1999 as a cumulative effect of an accounting change and resulted in an increase in the 1999 net loss of approximately $6,500,000, net of tax. Revenue recognition The company recognizes revenue when the customer takes possession of the merchandise or when services are rendered (the revenue of which was not material), net of reserves for returns. Advertising expenses Advertising costs are expensed in the period the advertising takes place. Such costs amounted to $82,675,000, $81,337,000 and $86,220,000 in fiscal year 2000, 1999 and 1998, respectively, and are included in Cost of revenues. F-12 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Amortization of bank financing fees Amounts paid for bank fees incurred in connection with the company's financing arrangements are capitalized and amortized to interest expense over the lives of the underlying financing agreements. Repairs and maintenance expense Repairs and maintenance expenditures which extend the useful lives of the company's property and equipment are capitalized and depreciated over the remaining useful lives of the underlying assets. Otherwise such expenditures are expensed as incurred. Research and development costs Research and development costs related to the company's manufacturing operations are expensed as incurred. Such costs amounted to $993,000, $965,000 and $1,171,000 in fiscal year 2000, 1999 and 1998, respectively, and are included in Logistic and manufacturing expenses. Shipping and handling costs Amounts billed to customers for shipping and handling costs are included in Revenues. Amounts incurred for shipping and handling are included in Cost of revenues. Income taxes Deferred tax assets and liabilities are determined based on the differences between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. Per share information 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 Redeemable Class A voting common stock is owned by members and former members whose stock has not yet been redeemed as a result of the moratorium. The company's Redeemable Class B non-voting common stock now outstanding was issued to members in partial payment of the annual patronage dividend. Accordingly, no earnings per share information is presented in the consolidated financial statements. 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 multiplied by hours worked. The company's policy is to fund annually all tax-qualified plans to the extent deductible for income tax purposes. Fair value of financial instruments The carrying amounts of the company's financial instruments at December 31, 2000 and 1999 approximate fair value. Fair value was estimated using discounted cash flow analyses, based on the company's incremental borrowing rate for similar borrowings. The carrying amount of debt and credit facilities approximate fair value due to their stated interest rates approximating market rates and as a result of such facilities being renegotiated in fiscal 2000. These estimated fair value amounts have been determined using available market information or other appropriate valuation methodologies. F-13 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Concentration of credit risk 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 with respect to trade receivables is limited. Additionally, the company believes that its allowance for doubtful accounts is adequate with respect to member credit risks. Use of estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America 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. New accounting pronouncements In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial Statements," which was amended by SAB No. 101A in March 2000 and SAB No. 101B in June 2000. These SABs, which provide guidance on the recognition, presentation and disclosure of revenue in financial statements, were effective in the fourth quarter of fiscal 2000 and were adopted by the company at that time. As the company's existing revenue recognition, presentation and disclosures are in compliance with these SABs, their adoption did not affect the company's results of operations for fiscal 2000 or its financial position as of December 31, 2000. In October 2000, the FASB's Emerging Issues Task Force ("EITF") issued EITF Issue No. 99-19, "Reporting Revenue Gross as a Principal versus Net as an Agent." This standard provides guidance on whether a company should recognize revenue based on the gross amount billed to a customer because it has earned revenue from the sale of the goods or services or the net amount retained (that is, the amount billed to the customer less the amount paid to a supplier) because it has earned a commission or fee. The standard provides a number of factors or indicators that should be used to determine the appropriate treatment. This standard was effective in the fourth quarter of fiscal 2000 and was adopted by the company as of January 1, 2000. Since the underlying selling terms and conditions, shipping terms, risk of loss, payment terms and credit risk related to its warehouse shipment sales, direct shipment sales and relay sales support the company's presentation of such sales as gross, the adoption of this standard did not affect the company's presentation of its results of operations for fiscal 2000 or its financial position as of December 31, 2000. In November 2000, the EITF issued EITF Issue No. 00-10, "Accounting for Shipping and Handling Fees and Costs." This standard states that all amounts billed to customers in sale transactions related to shipping and handling represent revenues earned for goods provided and, accordingly, should be classified as revenues. The standard also addresses disclosure of the classification of shipping and handling costs; if shipping and handling costs are significant and are not included as part of cost of sales, disclosure should be made for both the amount of such costs and the line items on the income statement that include them. This standard was effective in the fourth quarter of fiscal 2000 and was adopted by the company at that time. As the company's existing treatment of shipping and handling revenues and costs are in compliance with Issue No. 00-10, the adoption of this standard did not affect the company's results of operations for fiscal 2000 or its financial position as of December 31, 2000. 2. DEBT COVENANT VIOLATION Under the senior notes and the revolving credit facility (further discussed at Note 5) the company is required to meet certain restrictive financial ratios and covenants relating to minimum EBITDA, minimum fixed charge coverage, minimum borrowing base to debt ratio, maximum capital expenditures and maximum F-14 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) asset sales, as well as other customary covenants, representations and warranties, funding conditions and events of default. As of December 31, 2000, the company was in compliance with the covenant requirements. However, as of February 24, 2001, the company failed to comply with a covenant under the revolving credit facility and the senior note agreements which requires the company to achieve a minimum monthly borrowing base ratio. As a result, either the senior note holders or the participants in the revolving credit facility could declare this failure to comply with the covenant as an "event of default," in which case the senior notes and the amounts outstanding under the credit facility would become callable as immediately payable. On March 30, 2001 the participants in the revolving credit facility issued to the company a "reservation of rights" letter under which the participants effectively stated their intention to not call as immediately payable the company's outstanding debt obligations until May 1, 2001, although they were not precluded from doing so. All other rights of the participants were preserved. Additional letters were issued on April 30, 2001 and on July 3, 2001, which extended the reservation of rights until July 30, 2001 and September 30, 2001, respectively. The senior note holders also issued letters reserving their right to accelerate the maturity of the notes although agreeing not to do so at this time. The reservation of rights letters provided by the participants in the revolving credit facility required that the upper limit of the total amount that may be borrowed under the Credit Agreement at any time prior to September 30, 2001 be lowered from $275,000,000 to $225,000,000. The credit limit under this facility was reduced on May 11, 2001 from $275,000,000 to $250,000,000. Additionally, the interest rate on the amounts outstanding under the revolving credit facility was increased by approximately 2%; this increased interest rate also applies to the outstanding senior notes. As a result of this increased interest rate, the company will incur additional interest expense in fiscal year 2001. If this increased interest rate continues through December 31, 2001, the additional interest expense would aggregate approximately $6.0 million. The company is in discussions with the current lenders and with potential lenders regarding refinancing the senior note agreements and the revolving credit facility and, if successful, will replace the current senior note agreements and the revolving credit facility with an asset-based lending agreement with a new lending group in the fourth quarter of 2001. An alternative may be to amend the existing agreements with the existing lenders. However, no assurances can be given as to the outcome. The company's failure to successfully refinance or amend its current borrowing arrangements could cause the current lending group to call as immediately payable the company's currently outstanding debt obligations. The company's resulting inability to satisfy its debt obligations would force the company to pursue other alternatives to improve liquidity, possibly including among other things, restructuring actions, sales of assets and seeking additional sources of funds or liquidity. In particular, the company has engaged an investment banking firm to assist us in exploring the sale of the paint business. No assurances can be given that the company would be successful in pursuing such possible alternatives or, even if successful, that such undertakings would not have a material adverse impact on the company. Accordingly, the balances outstanding under the senior note agreements and the revolving credit facility have been classified as current liabilities as of December 31, 2000. However, the financial statements do not include any other adjustments that might result from the outcome of this uncertainty. F-15 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 3. INVENTORIES Inventories consisted of the following at December 31:
2000 1999 ---- ---- (000'S OMITTED) Manufacturing inventories: Raw materials.......................................... $ 2,242 $ 2,473 Work-in-process and finished goods..................... 30,705 39,456 -------- -------- 32,947 41,929 Merchandise inventories.................................. 410,716 440,486 -------- -------- $443,663 $482,415 ======== ========
The company performed physical inventory counts at certain of its distribution centers in October 2000; adjustments to recorded inventory quantities and amounts resulting from such counts were recorded after the amount and composition of such adjustments were analyzed. The adjustment recorded in the fourth quarter of fiscal year 2000 was an increase to inventory and a decrease to Cost of revenues of approximately $22,200,000. In the fourth quarter of fiscal year 1999, the company wrote off approximately $74,000,000 of inventory following the resolution of certain unreconciled differences. Indirect costs included in the cost of inventory for fiscal year 2000, 1999 and 1998 were $133,907,000, $140,934,000 and $156,560,000, respectively, of which $134,763,000, $150,191,000 and $148,970,000 was included in Cost of revenues for the respective years. The amount of indirect costs included in ending inventory at December 31, 2000, 1999 and 1998 was $29,144,000, $30,000,000 and $39,257,000, respectively. 4. PROPERTIES Properties consisted of the following at December 31:
2000 1999 ---- ---- (000'S OMITTED) Buildings and improvements............................. $ 189,732 $ 193,676 Machinery and warehouse equipment...................... 96,696 100,705 Office and computer equipment.......................... 157,417 152,439 Transportation equipment............................... 38,204 38,913 --------- --------- 482,049 485,733 Less accumulated depreciation.......................... (276,170) (252,834) --------- --------- 205,879 232,899 Land................................................... 10,267 11,946 --------- --------- $ 216,146 $ 244,845 ========= =========
Depreciation expense for fiscal year 2000, 1999 and 1998 was $35,594,000, $35,074,000 and $29,714,000, respectively. F-16 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 5. LONG-TERM DEBT AND BORROWING ARRANGEMENTS Long-term debt consisted of the following at December 31:
2000 1999 ---- ---- (000'S OMITTED) Senior Notes (rates at December 31, 2000/1999): 11.85%/9.10%.......................................... $ 32,000 $ 36,000 10.63%/7.88%.......................................... 50,000 50,000 10.16%/7.41%.......................................... 25,000 25,000 10.10%/7.35%.......................................... 105,000 105,000 10.04%/7.29%.......................................... 50,000 50,000 9.98%/7.23%........................................... 25,000 25,000 Redeemable (subordinated) term notes: Fixed interest rates ranging from 5.24% to 7.79%...... 18,624 28,712 Industrial Revenue Bonds 4.50%.......................... -- 4,000 Capital lease obligations (Note 6)...................... 2,645 5,000 --------- -------- 308,269 328,712 Less amounts due within one year........................ (299,178) (18,916) --------- -------- $ 9,091 $309,796 ========= ========
Principal payments for the 11.85%/9.10% senior note are due quarterly in incrementally increasing amounts through maturity in 2007. Principal payments for the 10.63%/7.88% senior note are due annually in the amount of $4,545,000 starting in November 2002 through maturity 2012. Principal payments for the 10.16%/7.41% senior note are due annually in the amount of $3,571,000 starting November 2001 through maturity in 2007. Principal payments for the 10.10%/7.35% senior note are due annually in increasing amounts starting January 2002 through maturity in July 2008. Principal payments for the 10.04%/7.29% senior note are due annually in the amount of $10,000,000 starting June 2006 through maturity in June 2010. The 9.98%/7.23% senior note is due in full in November 2002. Total maturities of long-term debt for fiscal years 2001, 2002, 2003, 2004, 2005 and thereafter are $19,340,000, $52,718,000, $31,371,000, $28,417,000, $30,153,000 and $146,270,000 respectively. At July 1, 1997, the company had established a $300,000,000 five-year revolving credit facility with a group of banks. The facility was amended and restated in April 2000 to include increased interest rates, new financial ratios and covenants, and the collateralization of the company's assets. The borrowings under the facility were $127,000,000 and $135,000,000 at December 31, 2000 and 1999, respectively. A commitment fee of .05% per annum is paid on the unused portion of the commitments. Also, the company had amounts due under a commercial paper program of $19,000,000 at December 31, 1999 that were paid in fiscal 2000. The weighted average interest rate on these borrowings was 8.9% and 6.4% for the years ended December 31, 2000 and 1999, respectively. 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 Redeemable Class A voting common stock. They are also available for purchase by investors that are affiliated with the company. The industrial revenue bonds were paid in fiscal 2000. The company's Canadian subsidiaries have short-term borrowings of $7,736,000 and $8,629,000 at December 31, 2000 and 1999, respectively. The subsidiaries have a combined line of credit of C$27,400,000. F-17 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) The weighted average interest rate on these borrowing was 7.10% and 6.40% for the years ended December 31, 2000 and 1999, respectively. The company provides guarantees for certain member loans, but is not required to provide a compensating balance for the guarantees. The amount of member loans guaranteed by the company was approximately $6,709,511 and $6,443,000 as of December 31, 2000 and 1999, respectively. 6. LEASE COMMITMENTS The company rents buildings and warehouses, and 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, 2000:
CAPITAL OPERATING ------- --------- (000'S OMITTED) 2001................................................. $ 1,020 $ 21,582 2002................................................. 621 19,583 2003................................................. 439 14,737 2004................................................. 439 13,573 2005................................................. 332 12,966 Thereafter........................................... 73 57,454 ------- -------- Net minimum lease payments................................ $ 2,924 $139,895 ======== Less amount representing interest......................... (279) ------- Present value of net minimum lease payments............... 2,645 Less amount due within one year........................... (1,332) ------- $ 1,313 =======
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 the lessor's book value at the expiration of the lease term. During 1999, the company entered into an agreement for the sale and leaseback of its Henderson facility, which resulted in a recognized loss of $1,295,000. The 30-month Henderson lease commenced in May 1999 and has annual payments of approximately $612,000. 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 will be amortized over the 15-year lease term. The lease commenced in November 1998 and has annual payments of approximately $2,700,000. The Hagerstown, Maryland distribution center is subject to a synthetic lease with monthly payments that are recorded in Other interest expense. The lease payment commitments are for three years with two one-year renewal options and a principal payment due at the expiration of the lease agreement. All obligations under this lease arrangement are guaranteed by the company. Rent expense under operating leases was $29,942,000, $31,702,000 and $28,291,000 for the years ended December 31, 2000, 1999 and 1998, respectively. F-18 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 7. COMMITMENTS AND CONTINGENCIES The company is involved in various claims and lawsuits incidental to its business. The following significant matters existed at December 31, 2000: In June, 2000, nineteen former members filed a claim against the company alleging that they voted for the Merger (see Note 1) based upon representations made to them by the company and its predecessors that the Coast to Coast name brand would be maintained. (Certain other former TruServ members have filed similar claims.) The plaintiffs allege, however, that, following the Merger, the Coast to Coast name brand was eliminated and that each plaintiff thereafter terminated or had its membership in TruServ terminated. Additionally, the plaintiffs allege that the company breached its obligations by failing to redeem those members' stock and by creating the Loss Allocation Account (see Note 1). Based upon the above, the plaintiffs have asserted claims for fraud, misrepresentation, breach of fiduciary duty and unjust enrichment. The claim seeks unidentified damages. The company intends to vigorously contest this claim and believes that, in the event of an unfavorable outcome, it carries adequate insurance coverage; accordingly, no related reserve has been recorded at December 31, 2000. In March, 2001, a similar action was brought on behalf of former SCC members in the same court by the same firm representing the plaintiffs discussed above. The complaint alleges substantially similar claims as those made by the other former TruServ members. The lawsuit is at an early stage and the extent of the damages being claimed has not yet determined; accordingly, no related reserve has been recorded at December 31, 2000. In August, 2000, a former member in New York filed a claim against the company's Board of Directors alleging that the Board failed in its fiduciary duty to oversee and manage the company's affairs in fiscal 1999. The claim seeks unidentified damages and the plaintiffs in the lawsuit seek to proceed on a class action basis. The company intends to vigorously contest this claim and believes that, in the event of an unfavorable outcome, it carries adequate insurance coverage; accordingly, no related reserve has been recorded at December 31, 2000. In October, 1999, the former president of the company, Paul Pentz, filed a claim against the company alleging that Mr. Pentz is due additional bonus and SERP payments (see Note 11) in addition to amounts already received. The company has filed a countersuit claiming Mr. Pentz breached his fiduciary duties as president of the company. Mr. Pentz's motion for summary judgement was denied on April 19, 2001. The company intends to vigorously contest Mr. Pentz's claim and, accordingly, has recorded no related reserve at December 31, 2000. F-19 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 8. PROMISSORY (SUBORDINATED) AND INSTALLMENT NOTES Promissory (subordinated) and installment notes consisted of the following at December 31:
2000 1999 ---- ---- (000'S OMITTED) Promissory (subordinated) notes: Due on December 31, 2000--6.50%........................ $ -- $ 21,823 Due on December 31, 2000--7.42%........................ -- 14,019 Due on December 31, 2000--7.58%........................ -- 27,271 Due on December 31, 2001--5.74%........................ 14,376 14,514 Due on December 31, 2001--8.06%........................ 22,237 22,448 Due on December 31, 2002--7.86%........................ 23,259 24,559 Due on December 31, 2003--7.90%........................ 22,525 -- Due on December 31, 2005--7.90%........................ 1,692 -- Term (subordinated) notes Due on June 30, 2002--8.06%.... 12,408 12,513 Installment notes at interest rates of 4.75% to 8.20% with maturities through 2004........................... 11,359 15,829 -------- -------- 107,856 152,976 Less amounts due within one year......................... (42,010) (69,172) -------- -------- $ 65,846 $ 83,804 ======== ========
Prior to 1997, 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. 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 and, accordingly, these notes are classified as a component of capitalization. Total maturities of promissory and installment notes for fiscal years 2001, 2002, 2003, 2004 and 2005 are $42,010,000, $39,655,000, $24,451,000, $48,000 and $1,692,000, respectively. Term notes were issued in connection with the redemption of excess Redeemable Class B common 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. F-20 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 9. INCOME TAXES Income tax expense/(benefit) consisted of the following for the years ended December 31:
2000 1999 1998 ---- ---- ---- (000'S OMITTED) Current: Federal............................................. $231 $ -- $ -- State............................................... 315 460 710 Foreign............................................. 306 281 290 ---- ------- ------ Total current....................................... 852 741 1,000 ---- ------- ------ Deferred: Federal............................................. -- 14,010 -- State............................................... -- 2,472 -- Foreign............................................. 64 (203) (403) ---- ------- ------ Total deferred...................................... 64 16,279 (403) ---- ------- ------ $916 $17,020 $ 597 ==== ======= ======
The company operates as a nonexempt cooperative and is allowed a deduction in determining its taxable income for amounts paid as qualified patronage dividends based on margins from business done with or on behalf of 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% was as follows for the years ended December 31:
2000 1999 1998 ---- ---- ---- (000'S OMITTED) Tax at U.S. statutory rate....................... $ 12,262 $ -- $ 4,416 Effects of: Patronage dividend............................. (12,233) -- (12,258) State income taxes, net of federal tax benefit..................................... 205 1,906 462 Increase/(decrease) in valuation allowance..... (2,503) 14,010 6,675 Non-deductible goodwill........................ 2,819 -- -- Other, net..................................... 366 1,104 1,302 -------- ------- -------- $ 916 $17,020 $ 597 ======== ======= ========
Deferred income taxes reflect the net tax effects of net operating loss carryforwards, which expire in years through 2020; 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 allowance for deferred tax assets will result in a reduction of goodwill. F-21 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) The significant components of the company's deferred tax assets and liabilities were as follows for the years ended December 31:
2000 1999 1998 ---- ---- ---- (000'S OMITTED) Deferred tax assets: Net operating loss carryforwards.......................... $ 58,462 $ 65,569 $ 15,868 AMT credit carryforward................................... 784 553 911 Nonqualified notices of allocation........................ 13,548 13,830 16,697 Bad debt provision........................................ 2,744 2,129 2,049 Vacation pay.............................................. 2,996 3,460 3,122 Contributions to fund retirement plans.................... -- 792 3,871 Book depreciation in excess of tax depreciation........... 532 -- -- Inventory reserves........................................ 1,272 -- -- Rent expense.............................................. 2,458 2,289 2,072 Merger-related valuations and accruals.................... 2,936 2,141 5,865 Inventory capitalization.................................. 2,657 2,808 -- Other..................................................... 5,739 4,156 3,752 -------- -------- -------- Total deferred tax assets................................... 94,128 97,727 54,207 Valuation allowance for deferred tax assets................. (89,700) (93,213) (33,067) -------- -------- -------- Net deferred tax assets..................................... 4,428 4,514 21,140 Deferred tax liabilities: Tax depreciation in excess of book depreciation........... -- 3,383 1,450 Inventory capitalization.................................. -- -- 1,725 Contributions to fund retirement plans.................... 3,296 -- -- Other..................................................... 1,132 1,131 1,475 -------- -------- -------- Total deferred tax liabilities.............................. 4,428 4,514 4,650 -------- -------- -------- Net deferred taxes.......................................... $ -- $ -- $ 16,490 ======== ======== ========
10. SUPPLEMENTAL CASH FLOW INFORMATION The patronage dividend and promissory (subordinated) and redeemable (subordinated) term note renewals relating to non-cash operating and financing activities were as follows for the years ended December 31:
2000 1999 1998 ---- ---- ---- (000'S OMITTED) Patronage dividend payable in cash................ $10,459 $ -- $14,507 Promissory (subordinated) notes................... (1,820) (5,436) (3,252) Redeemable Class A voting common stock............ 3 -- -- Redeemable Class B common stock................... (2,733) (15,974) 9,950 Installment notes................................. 2,515 9,722 5,532 Loss allocation................................... 21,458 -- -- Member indebtedness............................... 4,823 11,688 8,287 ------- -------- ------- Patronage dividend................................ $34,705 $ -- $35,024 ======= ======== ======= Note renewals and interest rollover............... $22,525 $ 36,385 $24,058 ======= ======== =======
F-22 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Additionally, in fiscal year 2000, the company's non-cash financing and investing activities are due to an asset sale and related agreements with Builder Marts of America, Inc. that included a note receivable of $19,500,000 and debit memos of $4,000,000. The company's non-cash financing and investing activities in fiscal year 1999 and 1998 include $305,000 and $610,000, respectively, related to the acquisition of transportation equipment by entering into capital leases. Cash paid for interest during fiscal years 2000, 1999 and 1998 totaled $60,059,000, $58,730,000 and $52,722,000, respectively. Cash paid for income taxes during fiscal years 2000, 1999 and 1998 totaled $777,000, $848,000 and $903,000, respectively. 11. BENEFIT PLANS The change in the projected benefit obligation and in the plan assets for the company administered pension plans was as follows for the years ended December 31:
2000 1999 ---- ---- (000'S OMITTED) Change in projected benefit obligation: Projected benefit obligation at beginning of year..... $ 160,727 $200,951 Service cost.......................................... 6,414 8,377 Interest cost......................................... 9,474 12,312 Benefit payments...................................... (4,980) (7,382) Actuarial losses/(gains).............................. 18,946 (23,601) Curtailments.......................................... -- 2,495 Settlements........................................... (114,083) (34,022) Special retirement benefits........................... -- 1,597 --------- -------- Projected benefit obligation at end of year........... $ 76,498 $160,727 --------- -------- Change in plan assets: Fair value of plan assets at beginning of year........ $ 178,426 $196,953 Actual return on assets............................... 3,068 16,891 Employer contributions................................ 14,070 5,986 Benefit payments...................................... (4,980) (7,382) Settlements........................................... (114,083) (34,022) --------- -------- Fair value of plan assets at end of year.............. $ 76,501 $178,426 --------- -------- Reconciliation of funded status: Funded status......................................... $ 3 $ 17,699 Unrecognized transition asset......................... (788) (2,642) Unrecognized prior service cost....................... 5,792 6,743 Unrecognized actuarial gain/(loss).................... 5,815 (23,781) --------- -------- Prepaid benefit/(accrued cost)........................ $ 10,822 $ (1,981) ========= ========
The company has classified $4,280,000 of prepaid pension expense as of December 31, 2000 in Other current assets. F-23 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) The components of net periodic pension cost for the company administered pension plans were as follows for the years ended December 31:
2000 1999 1998 ---- ---- ---- (000'S OMITTED) Components of net periodic pension cost: Service cost.................................. $ 6,414 $ 8,377 $ 7,418 Interest cost................................. 9,474 12,312 13,259 Expected return on assets..................... (12,987) (15,951) (16,083) Amortization of transition assets............. (529) (720) (835) Amortization of prior service cost............ 951 984 984 Amortization of actuarial gain/(loss)......... (91) 53 -- Special termination benefit................... -- 1,597 -- Curtailment loss.............................. -- 112 -- Settlement gain............................... (1,965) (5,075) (1,745) -------- -------- -------- Net pension cost........................... $ 1,267 $ 1,689 $ 2,998 ======== ======== ========
One of the company's pension plans is the supplemental executive retirement plan ("SERP"), which is an unfunded unqualified defined benefit plan. The funded status in the table above is net of an accrued pension liability of $1,279,000 and $10,165,000 related to the SERP at December 31, 2000 and 1999, respectively. The company also participates in union-sponsored defined contribution plans. Costs related to these plans were $169,000, $315,000 and $861,000 for fiscal year 2000, 1999 and 1998, respectively. In the third quarter of fiscal year 2000, the company purchased from an insurance company non-participating annuity contracts to satisfy pension obligations related to certain former employees who were fully vested in their pension benefits. As a result of this transaction, the company recognized a pre-tax gain of approximately $5 million in fiscal year 2000 related to the settlement of these pension obligations. Such gain has been recorded as Other income, net. This gain was offset in the fourth quarter by approximately $3 million due to market value decreases on assets and settlement losses on employees leaving the plan. Plan assets consist primarily of publicly traded common stocks and corporate debt instruments. The assumptions used to determine the company's pension obligations were as follows for the years ended December 31:
2000 1999 ---- ---- Weighted average assumptions: Discount rate............................................. 7.50% 8.00% Expected return on assets................................. 9.50% 9.50% Rate of compensation increase............................. 4.50% 4.50%
The company also maintains a defined benefit retirement medical plan for former SCC employees who met certain age and service criteria that was frozen at the time of the Merger. The company contributes $105 per month per person for such employees who elect coverage for themselves and their dependants. The company also maintains similar benefits for some former SCC executives who were also contractually eligible for such coverage. The components of the retiree medical plan costs for the company administered plan consist of interest cost of $354,000 and $335,000 in fiscal year 2000 and 1999, respectively. F-24 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) The accumulated post retirement benefit obligation ("APBO") of $5,189,000 on December 31, 1998 was increased by interest cost in 1999 of $335,000, and offset by claims paid of $460,000 and an actuarial gain of $510,000, resulting in an APBO of $4,554,000 at December 31, 1999. Reductions to the APBO in 2000 were claims paid of $427,000, offset by interest cost of $354,000 and an actuarial loss of $266,000, resulting in an APBO of $4,747,000 at December 31, 2000. The funded status at December 31, 1999 was a liability of $4,797,000, which includes the APBO of $4,554,000 plus an unrecognized gain of $243,000. The funded status at December 31, 2000 was a liability of $4,724,000, which includes the APBO of $4,747,000, offset by an actuarial loss of $23,000. The plan has no assets. During 2000 and 1999, the company contributed to the plan $427,000 and $460,000, respectively, and there were benefit payments of $427,000 and $460,000, respectively. The effect of a one percentage point increase in the medical trend rate would increase the service and interest cost components by $13,000 and the post-retirement benefit obligation by $158,000. The effect of a one percentage point decrease in the medical trend rate would decrease the service and interest cost components by $10,000 and the post-retirement benefit obligation by $131,000. The assumptions used to determine the company's health benefit obligations were as follows for the years ended December 31:
2000 1999 ---- ---- Weighted average assumptions: Discount rate............................................. 7.50% 8.00% Medical trend rate........................................ 5.00% 5.00%
12. SEGMENT INFORMATION The company is principally engaged as a wholesaler of hardware and related products and is a manufacturer of paint products. The company identifies segments based on management responsibility and the nature of the business activities of each component of the company. The company measures segment earnings as operating earnings including an allocation for interest expense and income taxes. Information regarding the identified segments and the related reconciliation to consolidated information are as follows:
DECEMBER 31, 2000 --------------------------------------------------------------------- ELIMINATION OF INTERSEGMENT CONSOLIDATED HARDWARE PAINT OTHER ITEMS TOTALS -------- ----- ----- -------------- ------------ (000'S OMITTED) Net sales to external customers..... $3,745,524 $139,109 $109,009 $ -- $3,993,642 Intersegment sales.................. -- 1,856 -- (1,856) -- Interest expense.................... 62,184 4,661 861 -- 67,706 Depreciation & amortization......... 40,482 1,752 799 -- 43,033 Segment net margin/(loss)........... 24,984 9,000 133 -- 34,117 Identifiable segment assets......... 1,162,319 52,020 21,675 -- 1,236,014 Expenditures for long-lived assets............................ 11,365 627 534 -- 12,526
F-25 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1999 --------------------------------------------------------------------- ELIMINATION OF INTERSEGMENT CONSOLIDATED HARDWARE PAINT OTHER ITEMS TOTALS -------- ----- ----- -------------- ------------ (000'S OMITTED) Net sales to external customers..... $4,242,572 $148,001 $111,753 $ -- $4,502,326 Intersegment sales.................. -- 1,810 -- (1,810) -- Interest expense.................... 53,993 6,014 695 -- 60,702 Depreciation & amortization......... 38,576 1,704 851 -- 41,131 Segment net margin/(loss)........... (146,200) 14,707 690 -- (130,803) Identifiable segment assets......... 1,247,320 63,975 24,102 -- 1,335,397 Expenditures for long-lived assets............................ 41,906 2,207 817 -- 44,930
DECEMBER 31, 1998 --------------------------------------------------------------------- ELIMINATION OF INTERSEGMENT CONSOLIDATED HARDWARE PAINT OTHER ITEMS TOTALS -------- ----- ----- -------------- ------------ (000'S OMITTED) Net sales to external customers..... $4,062,390 $157,627 $108,221 $ -- $4,328,238 Intersegment sales.................. -- 2,340 -- (2,340) -- Interest expense.................... 46,809 7,512 779 -- 55,100 Depreciation & amortization......... 29,691 1,652 769 -- 32,112 Segment net margin/(loss)........... 342 11,502 176 -- 12,020 Identifiable segment assets......... 1,488,108 80,121 19,445 -- 1,587,674 Expenditures for long-lived assets............................ 67,199 2,710 824 -- 70,733
The company does not have a significant concentration of members in any geographic region of the United States or in any foreign countries. 13. ASSET SALE Effective December 29, 2000, the company sold the assets, primarily inventory, of the Lumber and Building Materials ("LBM") division, comprising fiscal year 2000 sales of approximately $1.1 billion, to Builder Marts of America, Inc. ("BMA"). In connection with this sale, the company received consideration of $20.2 million in cash (of which $1.0 million will be held in escrow until December 31, 2001 to satisfy any contingencies or disputes between the parties and which, accordingly, is classified as Restricted cash), a $19.5 million note receivable (payable in annual installments through December 31, 2007 and carrying an interest rate of 7.75% per annum) and $4.0 million in debit memos to be used as an offset against amounts payable to BMA existing at the date of the sale. Additionally, the company recorded deferred credits totaling $9.5 million related to certain non-compete, cooperation, trademark and license, and lease agreements entered into with BMA; such amount will be amortized to income over the lives of the underlying agreements, generally 5-10 years. The company also relieved $4.6 million of goodwill (net) and $0.7 million of inventory related to the LBM division at the time of the sale. As a result of the above, the company recognized a gain of $28.9 million in the fourth quarter, which is classified as Gain on sale of assets. F-26 TRUSERV CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 14. QUARTERLY FINANCIAL SUMMARY Selected quarterly financial information for each of the four quarter in fiscal 2000 and 1999 is as follows (000's omitted):
FIRST SECOND THIRD FOURTH QUARTER(1) QUARTER QUARTER QUARTER ---------- ------- ------- ------- 2000 Revenues.................................... $1,027,605 $1,137,262 $ 944,269 $ 884,506 Net margin/(loss) before income taxes....... (8,869) 11,940 9,663 22,299(2) Net margin/(loss)........................... (8,924) 11,923 9,447 21,671 1999 (restated) Revenues.................................... $1,070,892 $1,264,108 $1,117,496 $1,049,830 Net margin/(loss) before income taxes and cumulative effect of a change in accounting principle..................... (17,724) 19,862 4,483 (113,920)(3) Net margin/(loss) before cumulative effect of a change in accounting principle...... (17,811) 18,270 5,864 (130,642) Net margin/(loss)........................... (24,295) 18,270 5,864 (130,642)
- ------------------------- (1) On January 1, 1999, the company wrote off the unamortized balance of start-up costs upon the adoption of SOP 98-5. (2) In the fourth quarter of fiscal 2000, the company recorded an inventory adjustment of approximately $22.2 million (as an increase to inventory and a reduction to cost of sales) resulting from physical inventory counts taken at certain of its distribution centers. (3) In the fourth quarter of fiscal 1999, the company wrote off approximately $74.0 million of inventory following the resolution of certain unreconciled differences. F-27 TRUSERV CORPORATION SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS FOR FISCAL YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998
FISCAL YEAR ENDED DECEMBER 31 ----------------------------- 2000 1999 1998 ---- ---- ---- Reserve for Doubtful Accounts Balance at beginning of year.............................. $ 5,613 $ 5,111 $ 8,691 Provision for doubtful accounts........................... 9,147 5,148 2,808 Write-offs of doubtful accounts(1)........................ (7,590) (4,646) (6,388) ------- ------- ------- Balance at end of year.................................... $ 7,170 $ 5,613 $ 5,111 ======= ======= =======
- ------------------------- (1) Notes and accounts written off as uncollectible, net of recoveries of accounts previously written off as collectible.
FISCAL YEAR ENDED DECEMBER 31 ------------------------------ 2000 1999 1998 ---- ---- ---- Business Combination Reserves Balance at beginning of year.............................. $ 683 $ 4,000 $16,349 Utilization of reserves................................... (683) (3,317) (9,800) Adjustment to Goodwill.................................... -- -- (2,549) ----- ------- ------- Balance at end of year.................................... $ -- $ 683 $ 4,000 ===== ======= =======
F-28 TRUSERV CORPORATION CONDENSED CONSOLIDATED BALANCE SHEET
SEPTEMBER 29, DECEMBER 31, 2001 2000 ------------- ------------ (UNAUDITED) (000'S OMITTED) ASSETS Current assets: Cash and cash equivalents................................. $ 40,636 $ 18,316 Restricted cash........................................... 7,765 1,000 Accounts and notes receivable, net of allowance for doubtful accounts of $12,761,000 and $7,170,000........ 294,229 396,587 Inventories (Note 6)...................................... 370,707 443,663 Other current assets...................................... 19,357 12,274 ---------- ---------- Total current assets................................. 732,694 871,840 Properties, net............................................. 199,771 216,146 Goodwill, net............................................... 92,119 94,051 Other assets................................................ 39,172 53,977 ---------- ---------- Total assets......................................... $1,063,756 $1,236,014 ========== ========== LIABILITIES AND MEMBERS' CAPITALIZATION Current liabilities: Accounts payable.......................................... $ 281,617 $ 356,196 Outstanding checks........................................ 40,680 129,490 Accrued expenses.......................................... 96,140 85,161 Short-term borrowings..................................... 150,981 138,085 Current maturities of notes, long-term debt and capital lease obligations (Note 2)............................. 339,868 341,188 Patronage dividend payable in cash........................ -- 10,459 ---------- ---------- Total current liabilities............................ 909,286 1,060,579 Long-term debt, including capital lease obligations, less current maturities (Note 2)............................... 6,683 9,091 Deferred credits............................................ 9,022 9,821 ---------- ---------- Total liabilities and deferred credits............... 924,991 1,079,491 Minority interest........................................... 4,844 4,999 Commitments and contingencies............................... -- -- Members' capitalization: Promissory (subordinated) and installment notes........... 60,983 65,846 Members' equity: Redeemable Class A voting common stock, $100 par value; 750,000 shares authorized; 451,680 and 411,180 shares issued and fully paid; 58,380 and 98,880 shares issued (net of subscriptions receivable of $1,251,000 and $1,922,000)........................................... 49,755 49,084 Redeemable Class B non-voting common stock and paid-in capital, $100 par value; 4,000,000 shares authorized; 1,731,490 and 1,731,482 shares issued and fully paid.................................................. 174,448 174,448 Loss allocation (Note 5).................................. (92,074) (92,460) Deferred patronage........................................ (26,727) (27,288) Retained deficit.......................................... (31,535) (17,134) Accumulated other comprehensive loss...................... (929) (972) ---------- ---------- Total members' equity................................ 72,938 85,678 ---------- ---------- Total members' capitalization..................... 133,921 151,524 ---------- ---------- Total liabilities and members' capitalization... $1,063,756 $1,236,014 ========== ==========
See Notes to Condensed Consolidated Financial Statements F-29 TRUSERV CORPORATION CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS (UNAUDITED)
FOR THE THIRTEEN WEEKS ENDED FOR THE THIRTY-NINE WEEKS ENDED ------------------------------ -------------------------------- SEPTEMBER 29, SEPTEMBER 30, SEPTEMBER 29, SEPTEMBER 30, 2001 2000 2001 2000 ------------- ------------- ------------- ------------- (000'S OMITTED) Revenues................................... $621,977 $944,269 $2,024,092 $3,109,136 Costs and expenses: Cost of revenues......................... 549,401 872,388 1,823,466 2,897,681 Logistics and manufacturing expenses..... 22,832 21,986 68,630 68,520 Selling, general and administrative expenses.............................. 34,534 27,532 92,525 86,079 Restructuring expenses (Note 7).......... 3,261 -- 8,211 -- Interest paid to Members................. 1,939 2,776 5,871 8,407 Other interest expense................... 13,652 14,981 41,979 42,906 Gain on sale of properties............... (135) (233) (188) (1,300) Other income, net........................ (1,162) (4,824) (3,004) (5,891) -------- -------- ---------- ---------- 624,322 934,606 2,037,490 3,096,402 -------- -------- ---------- ---------- Net margin/(loss) before income taxes...... (2,345) 9,663 (13,398) 12,734 Income tax expense......................... 132 216 442 288 -------- -------- ---------- ---------- Net margin/(loss).......................... $ (2,477) $ 9,447 $ (13,840) $ 12,446 ======== ======== ========== ==========
See Notes to Condensed Consolidated Financial Statements. F-30 TRUSERV CORPORATION CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS (UNAUDITED)
FOR THE THIRTY-NINE WEEKS ENDED ------------------------------ SEPTEMBER 29, SEPTEMBER 30, 2001 2000 ------------- ------------- (000'S OMITTED) Operating activities: Net margin/(loss)......................................... $(13,840) $12,446 Adjustments to reconcile net loss to cash and cash equivalents used for operating activities: Depreciation and amortization.......................... 31,548 32,915 Provision for allowance for doubtful accounts.......... 5,744 7,372 Net change in working capital components............... 105,407 (46,463) -------- ------- Net cash and cash equivalents provided by operating activities............................................. 128,859 6,270 -------- ------- Investing activities: Additions to properties owned............................. (8,843) (10,053) Proceeds from sale of properties owned.................... 123 8,165 Changes in restricted cash................................ (6,765) -- Changes in other assets................................... 1,359 (733) -------- ------- Net cash and cash equivalents used for investing activities............................................. (14,126) (2,621) -------- ------- Financing activities: Payment of patronage dividend............................. (9,484) -- Proceeds from long-term borrowings........................ -- 1,068 Payment of notes, long-term debt and lease obligations.... (7,686) (14,885) Decrease in outstanding checks............................ (88,810) (39,894) Proceeds from short-term borrowings, net of repayments.... 12,896 51,110 Purchase of common stock.................................. -- (1,505) Proceeds from Class A common stock subscription receivable............................................. 671 387 -------- ------- Net cash and cash equivalents used for financing activities............................................. (92,413) (3,719) -------- ------- Net increase/(decrease) in cash and cash equivalents........ 22,320 (70) Cash and cash equivalents at beginning of period............ 18,316 1,815 -------- ------- Cash and cash equivalents at end of period.................. $ 40,636 $ 1,745 ======== =======
See Notes to Condensed Consolidated Financial Statements. F-31 TRUSERV CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) NOTE 1--GENERAL The condensed consolidated balance sheet at September 29, 2001, the condensed consolidated statement of operations for the thirteen and thirty-nine weeks ended September 29, 2001 and September 30, 2000, and the condensed consolidated statement of cash flows for the thirty-nine weeks ended September 29, 2001 and September 30, 2000 are unaudited and, in the opinion of the management of TruServ, include all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of financial position at the balance sheet dates and results of operations and cash flows for the respective interim periods. The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. These financial statements should be read in conjunction with the consolidated financial statements for the year ended December 31, 2000 included in TruServ's 2000 Annual Report on Form 10-K. NOTE 2--DEBT COVENANT VIOLATION Under the senior note agreements and the revolving credit facility, TruServ is required to meet certain restrictive financial ratios and covenants relating to minimum EBITDA, minimum fixed charge coverage, minimum borrowing base to debt ratio, maximum capital expenditures and maximum asset sales, as well as other customary covenants, representations and warranties, funding conditions and events of default. As of December 31, 2000, TruServ was in compliance with the covenant requirements. However, as of February 24, 2001, TruServ failed to comply with a covenant under the revolving credit facility and the senior note agreements, which requires TruServ to achieve a minimum monthly borrowing base ratio. As a result, either the senior note holders or the participants in the revolving credit facility could declare this failure to comply with the covenant as an "event of default," in which case the senior notes and the amounts outstanding under the revolving credit facility would become callable as immediately payable. On March 30, 2001, the participants in the revolving credit facility issued to TruServ "reservation of rights" letters under which the participants effectively stated their intention to not call as immediately payable TruServ's outstanding debt obligations until May 1, 2001, although they were not precluded from doing so. All other rights of the participants were preserved. Additional letters were issued on April 30, 2001, July 3, 2001 and August 30, 2001 which extended the reservation of rights until July 30, 2001, September 30, 2001 and February 28, 2002, respectively. The senior note holders also issued letters reserving their right to accelerate the maturity of the notes although agreeing not to do so at this time. The reservation of rights letters provided by the participants in the revolving credit facility permanently reduced the credit limit under this facility on May 11, 2001 from $275,000,000 to $250,000,000 and on September 4, 2001 from $250,000,000 to $200,000,000. Additionally, the interest rate on the amounts outstanding under the revolving credit facility was increased by approximately 2%; this increased interest rate also applies to the outstanding senior notes. As a result of this increased interest rate, TruServ will incur additional interest expense in fiscal year 2001. If this increased interest rate continues through December 31, 2001, the additional interest expense would aggregate approximately $6.5 million. On September 28, 2001, TruServ signed a $350,000,000 fully underwritten revolving credit facility commitment from Bank of America for borrowings against TruServ's accounts receivable and inventory. However, TruServ is still in discussions with the current lenders to amend the existing agreements and with other potential lenders regarding refinancing the existing agreements and could replace the existing agreements with an asset-based lending agreement with a new lending group in the fourth quarter of 2001. F-32 TRUSERV CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) (UNAUDITED) However, no assurances can be given as to the outcome. TruServ's failure to successfully amend or refinance its current borrowing arrangements could cause the current lending group to call as immediately payable TruServ's currently outstanding debt obligations. TruServ's resulting inability to satisfy its debt obligations would force TruServ to pursue other alternatives to improve liquidity, possibly including, among other things, restructuring actions, sales of assets and seeking additional sources of funds or liquidity. In particular, TruServ has engaged an investment banking firm to assist it in exploring the sale of the paint manufacturing business. No assurances can be given that TruServ would be successful in pursuing such possible alternatives or, even if successful, that such undertakings would not have a material adverse impact on TruServ. Accordingly, the balances outstanding under the senior note agreements and the revolving credit facility have been classified as current liabilities as of December 31, 2000 and September 29, 2001. However, the financial statements do not include any other adjustments that might result from the outcome of this uncertainty. NOTE 3--RECLASSIFICATIONS Certain reclassifications have been made to the prior year's condensed consolidated financial statements to conform with the current year's presentation. These reclassifications had no effect on net margin/(loss) for any period or on total members' equity at the balance sheet dates. NOTE 4--ESTIMATED PATRONAGE DIVIDENDS If financial and operating conditions permit, patronage dividends are declared and paid by TruServ after the close of each fiscal year. Patronage dividends in the amount of $34,705,000 were paid on March 31, 2001 relating to the fiscal year ended December 31, 2000, approximately thirty percent of which were paid in cash (TruServ's by-laws and the IRS require that the payment of at least twenty percent of patronage dividends be in cash). The remainder was paid primarily through the issuance of TruServ's Redeemable Class B common stock and, in certain cases, a small portion of the dividend was paid by means of Promissory (Subordinated) Notes of the company. The Redeemable Class B common stock issued as part of the December 31, 2000 patronage dividend has been designated as qualified notices of allocation. Over ninety-five percent of the Redeemable Class B common stock issued with the fiscal year 2000 patronage dividend was applied to the loss allocation account. There is no estimated patronage dividend for the period ended September 29, 2001 and the estimated patronage dividend for the corresponding period in 2000 was $12,799,000. NOTE 5--LOSS ALLOCATION TO MEMBERS During the third quarter of fiscal year 2000, TruServ management developed and the Board of Directors approved a plan to equitably allocate to members the loss incurred in 1999. This loss was previously recorded as a reduction of retained earnings. TruServ has allocated the 1999 loss by establishing a loss allocation account as a contra-equity account in the consolidated balance sheet with the offsetting credit recorded to retained deficit. The loss allocation account reflects the sum of each member's proportionate share of the 1999 loss, after being reduced by certain amounts that are not allocable to members. The loss allocation account is not a receivable from members and does not represent an amount currently due from members. Rather, the loss allocation account will be satisfied, on a member by member basis, by withholding the portion of future patronage dividends that would have been paid in qualified Redeemable Class B common stock, at par value, and applying such amount as a reduction in the loss allocation account until fully satisfied. The current levels of members' stock investments in TruServ will not be affected. However, in the event a member should terminate as a stockholder of the company, any unsatisfied portion of that member's loss allocation account will be satisfied by reducing the redemption amount paid for the member's stock investment in TruServ. F-33 TRUSERV CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) (UNAUDITED) NOTE 6--INVENTORIES Inventories consisted of:
SEPTEMBER 29, DECEMBER 31, 2001 2000 ------------- ------------ (000'S OMITTED) Manufacturing inventories: Raw materials............................................. $ 2,765 $ 2,242 Work-in-process and finished goods........................ 26,622 30,705 -------- -------- 29,387 32,947 Merchandise inventories..................................... 341,320 410,716 -------- -------- Total................................................ $370,707 $443,663 ======== ========
Inventories are stated at the lower of cost, determined on the first-in, first-out basis, or market. The cost of inventory also includes indirect costs incurred to bring inventory to its existing location for resale. The amount of indirect costs included in ending inventory at September 29, 2001 and December 31, 2000 was $24,639,000 and $29,144,000, respectively. NOTE 7--RESTRUCTURING CHARGE During fiscal 2001, TruServ continued the workforce reductions initiated in fiscal year 2000 related to regional distribution center closures and workforce reductions at the company's corporate headquarters. In the third quarter of fiscal 2001, TruServ announced that it was closing the Brookings, South Dakota distribution center. This announcement in the third quarter will result in the severance of 160 additional employees, all of whom were notified as to the terms and conditions of their severance and the benefits they would receive. In the second quarter, a corporate headquarters workforce reduction resulted in the severance of 150 additional employees, all of whom were notified as to the terms and conditions of their severance and the benefits they would receive. Additional shutdown costs necessary to exit the distribution centers were also identified. The above-described actions taken by TruServ have been reflected in the schedule below and are included in restructuring expenses in TruServ's condensed consolidated statement of operations. TruServ expects annual savings of approximately $14.9 million from the above-described restructuring activities.
TOTAL FACILITY EXIT ASSET RESTRUCTURING SEVERANCE COSTS IMPAIRMENT RESERVE --------- ------------- ---------- ------------- Restructuring reserve at December 31, 2000... $ 861,000 $1,051,000 $ -- $ 1,912,000 Q1 2001: Restructuring charge......................... 560,000 -- -- 560,000 Use of reserves.............................. (83,000) (89,000) -- (172,000) Q2 2001: Restructuring charge......................... 3,527,000 863,000 -- 4,390,000 Use of reserves.............................. (1,090,000) (856,000) -- (1,946,000) Q3 2001: Restructuring charge......................... 1,502,000 1,405,000 354,000 3,261,000 Use of reserves.............................. (1,501,000) (921,000) -- (2,422,000) ----------- ---------- -------- ----------- Restructuring reserve at September 29, 2001....................................... $ 3,776,000 $1,453,000 $354,000 $ 5,583,000 =========== ========== ======== ===========
F-34 TRUSERV CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) (UNAUDITED) NOTE 8--SEGMENT INFORMATION TruServ is principally engaged as a wholesaler of hardware and related products and is a manufacturer of paint products. TruServ identifies segments based on management responsibility and the nature of the business activities of each component of the company. TruServ measures segment earnings as operating earnings including an allocation for interest expense and income taxes. Information regarding the identified segments and the related reconciliation to consolidated information are as follows:
THIRTEEN WEEKS ENDED SEPTEMBER 29, 2001 ---------------------------------------------------------------- ELIMINATION OF INTERSEGMENT CONSOLIDATED HARDWARE PAINT OTHER ITEMS TOTALS -------- ----- ----- -------------- ------------ (000'S OMITTED) Net sales to external customers......... $558,539 $37,189 $26,249 $ -- $621,977 Intersegment sales...................... -- 351 -- (351) -- Interest expense........................ 14,702 753 136 -- 15,591 Depreciation and amortization........... 9,658 394 150 -- 10,202 Segment net margin/(loss)............... (5,682) 3,235 (30) -- (2,477) Expenditures for long-lived assets...... 1,491 179 184 -- 1,854
THIRTEEN WEEKS ENDED SEPTEMBER 30, 2000 ------------------------------------------------------------------ ELIMINATION OF INTERSEGMENT CONSOLIDATED HARDWARE PAINT OTHER ITEMS TOTALS -------- ----- ----- -------------- ------------ (000'S OMITTED) Net sales to external customers........ $ 877,622 $39,369 $27,278 $ -- $944,269 Intersegment sales..................... -- 352 -- (352) -- Interest expense....................... 16,647 893 217 -- 17,757 Depreciation and amortization.......... 9,641 425 194 10,260 Segment net margin..................... 5,676 3,634 137 -- 9,447 Expenditures for long-lived assets..... 3,050 107 257 3,414
THIRTY-NINE WEEKS ENDED SEPTEMBER 29, 2001 ------------------------------------------------------------------- ELIMINATION OF INTERSEGMENT CONSOLIDATED HARDWARE PAINT OTHER ITEMS TOTALS -------- ----- ----- -------------- ------------ (000'S OMITTED) Net sales to external customers....... $1,840,515 $106,249 $77,328 $ -- $2,024,092 Intersegment sales.................... -- 1,536 -- (1,536) -- Interest expense...................... 44,307 3,096 447 -- 47,850 Depreciation and amortization......... 29,771 1,272 505 -- 31,548 Segment net margin/(loss)............. (22,478) 8,427 211 -- (13,840) Identifiable segment assets........... 989,439 47,805 26,512 -- 1,063,756 Expenditures for long-lived assets.... 8,044 451 348 -- 8,843
F-35 TRUSERV CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) (UNAUDITED)
THIRTY-NINE WEEKS ENDED SEPTEMBER 30, 2000 ------------------------------------------------------------------- ELIMINATION OF INTERSEGMENT CONSOLIDATED HARDWARE PAINT OTHER ITEMS TOTALS -------- ----- ----- -------------- ------------ (000'S OMITTED) Net sales to external customers....... $2,914,534 $113,030 $81,572 $ -- $3,109,136 Intersegment sales.................... -- 1,699 -- (1,699) -- Interest expense...................... 46,576 4,106 631 -- 51,313 Depreciation and amortization......... 31,020 1,310 585 32,915 Segment net margin.................... 2,386 9,704 356 -- 12,446 Identifiable segment assets........... 1,217,420 61,159 29,100 1,307,679 Expenditures for long-lived assets.... 9,044 553 456 10,053
NOTE 9--ASSET SALE Effective December 29, 2000, TruServ sold the assets, primarily inventory, of the lumber and building materials business to Builder Marts of America, Inc. The lumber and building materials business generated approximately $1.1 billion of TruServ's revenue in fiscal year 2000; however, the sale of the business will not materially impact net margin. NOTE 10--NEW ACCOUNTING PRONOUNCEMENTS Effective January 1, 2000, TruServ adopted Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities," as amended by SFAS No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging Activities." These new standards require that all derivative instruments be recognized as either assets or liabilities in the balance sheet and measured at their fair value. The new standards also require that changes in the fair value of derivatives be recorded in each period in current earnings or comprehensive income, depending on the intended use of the derivatives. The adoption of these new standards had no impact on TruServ's results of operations, its financial position or its cash flows. In June 2001, the Financial Accounting Standards Board ("FASB") issued SFAS No. 141, "Business Combinations." SFAS No. 141 requires the use of the purchase method of accounting and prohibits the pooling of interest method of accounting for business combinations initiated after June 30, 2001 and for purchase business combinations completed on or after July 1, 2001. SFAS No. 141 also requires recognition of acquired intangible assets apart from goodwill if the acquired intangible assets meet certain criteria. TruServ will apply the provisions of SFAS No. 141 in accounting for all future business combinations. In June 2001, the FASB approved SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 142 addresses the accounting for goodwill and other intangible assets subsequent to their acquisition. SFAS No. 142 requires, among other things, that goodwill and other indefinite-lived intangible assets no longer be amortized and that such assets be tested for impairment at least annually. SFAS No. 142 is effective January 1, 2002 for TruServ, and TruServ is currently evaluating the impact this standard will have on its financial statements. In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations." SFAS No. 143 addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. SFAS No. 143 is effective January 1, 2003 for TruServ and TruServ is currently evaluating the impact this standard will have on its financial statements. In October 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets," replacing SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for F-36 TRUSERV CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) (UNAUDITED) Long-Lived Assets to be Disposed Of" and portions of Accounting Principles Board ("APB") Opinion No. 30, "Reporting the Results of Operations." SFAS No. 144 provides a single accounting model for long-lived assets to be disposed of and changes the criteria to be met to classify an asset as held-for-sale. SFAS No. 144 retains the requirement of APB Opinion No. 30 to report discontinued operations separately from continuing operations and extends that reporting to a component of an entity that either has been disposed of or is classified as held-for-sale. SFAS No. 144 is effective January 1, 2002 for TruServ and TruServ is currently evaluating the impact this standard will have on its financial statements. F-37 --------------------------------------------------------- --------------------------------------------------------- NO DEALER, SALESPERSON OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED OR INCORPORATED BY REFERENCE IN THIS PROSPECTUS, IN CONNECTION WITH THE OFFER MADE BY THIS PROSPECTUS, AND, IF GIVEN OR MADE, THE INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY TRUSERV CORPORATION. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER OR SOLICITATION BY ANYONE IN ANY STATE IN WHICH THIS OFFER OR SOLICITATION IS NOT AUTHORIZED OR IN WHICH THE PERSON MAKING SUCH OFFER OR SOLICITATION IS NOT QUALIFIED TO DO SO OR TO ANYONE TO WHOM IT IS UNLAWFUL TO MAKE THIS OFFER OR SOLICITATION. TABLE OF CONTENTS
PAGE ---- SUMMARY..................................................... 2 TruServ.................................................... 2 Recent Financial Results................................... 2 Debt Covenant Violation.................................... 2 The Notes.................................................. 3 CONSOLIDATED RATIO OF EARNINGS TO FIXED CHARGES............. 4 RISK FACTORS................................................ 4 TruServ's failure to successfully refinance or amend its current borrowing arrangements could cause the current lending group to call as immediately payable TruServ's currently outstanding debt obligations................... 4 Our auditors have expressed doubts about TruServ's ability to continue as a going concern........................... 4 If TruServ's cash flow is negatively impacted it will not be able to pay principal and interest on the notes....... 4 The notes are subject to various transfer restrictions including a right of set off by TruServ and you may therefore not be able to liquidate your investment in the notes for an indefinite period of time................... 4 The notes are subordinated to TruServ's substantial Senior Debt and in the event of a default under the Senior Debt the notes may not be repaid.............................. 5 TruServ has experienced a decrease in gross margin percentages which could negatively impact its ability to make interest and principal payments on the notes........ 5 TruServ has experienced a decline in its member base and faces stiff retail competition and its success depends on the success of its members in the retail market place.... 6 TRUSERV..................................................... 6 General Description of the Business........................ 6 Sales and Suppliers........................................ 7 Other Services............................................. 8 Backlog.................................................... 8 Competition................................................ 8 Trademarks, Service Marks, and Collective Membership Marks.................................................... 9 Subsidiaries............................................... 9 Employees.................................................. 9 Retail Member Agreement; Franchise and License Agreements............................................... 9 Properties................................................. 10 Legal Proceedings.......................................... 11 THE NOTE PROGRAM............................................ 12 Form of the Notes.......................................... 12 Interest................................................... 12 Optional Redemption of the Notes........................... 12 Financial Covenants........................................ 13 Note Subordination and Lien Rights......................... 13 Types of Accounts.......................................... 14 Account Information........................................ 14 HOW TO INVEST............................................... 14 TERMS OF THE INDENTURE...................................... 14 General.................................................... 14 Redemption................................................. 14 Subordination.............................................. 15 Modification of the Indenture.............................. 15 Events of Default and Remedies............................. 16 Limitations on Suits....................................... 16 Concerning the Trustee..................................... 17 Satisfaction and Discharge................................. 17 AGENT BANK AND ADMINISTRATION............................... 17 TAXES....................................................... 18 SELECTED FINANCIAL DATA..................................... 19 QUARTERLY FINANCIAL SUMMARY................................. 19 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.................................. 20 Thirteen Weeks Ended September 29, 2001 Compared to Thirteen Weeks Ended September 30, 2000.................. 20 Thirty-nine Weeks Ended September 29, 2001 Compared to Thirty-nine Weeks Ended September 30, 2000............... 21 Liquidity and Capital Resources............................ 21 Fiscal Year 2000 Compared to Fiscal Year 1999.............. 23 Fiscal Year 1999 Compared to Fiscal Year 1998.............. 24 Liquidity and Capital Resources............................ 26 QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK....................................................... 27 FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA................. 28 CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE................................... 28 DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.......... 29 EXECUTIVE COMPENSATION...................................... 31 Compensation Committee..................................... 31 Executive Compensation 2000................................ 32 Board Compensation......................................... 33 Defined Benefit Retirement Plans........................... 33 Performance Graph.......................................... 34 Employment Agreement....................................... 34 SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT................................................. 34 USE OF PROCEEDS............................................. 34 PLAN OF DISTRIBUTION........................................ 35 LEGAL MATTERS............................................... 35 INDEMNIFICATION............................................. 35 WHERE YOU CAN FIND MORE INFORMATION......................... 35 FINANCIAL STATEMENTS........................................ F-1 Index to Consolidated Financial Statements................. F-1
--------------------------------------------------------- --------------------------------------------------------- --------------------------------------------------------- --------------------------------------------------------- $50,000,000 TRUSERV CORPORATION VARIABLE DENOMINATION SUBORDINATED FIXED RATE TERM NOTES FOR INFORMATION CONCERNING THE TRUSERV CORPORATION INVESTMENT PROGRAM, WRITE TO: THE TRUSERV CORPORATION INVESTMENT PROGRAM P.O. BOX 75933 CHICAGO, ILLINOIS 60675-5933 OR CALL: TOLL FREE 1-800-507-9000 ------------------ PROSPECTUS ------------------ DATED , 2001 --------------------------------------------------------- --------------------------------------------------------- PART II INFORMATION NOT REQUIRED IN PROSPECTUS ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION The following are the actual or estimated expenses in connection with the issuance and distribution of the Variable Denomination Subordinated Fixed Rate Term Notes being registered: Registration Fee............................................ $13,200 Printing of Registration Statement and Prospectus........... 16,000 Accounting Fees and Expenses................................ 18,000 Legal Fees.................................................. 30,000 Trustee Fee................................................. 3,000 Fees and Expenses for Qualifying Securities under "Blue Sky" Laws of Various States.................................... 10,000 ------- Total....................................................... $90,200 =======
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS TruServ Corporation's Certificate of Incorporation, as amended, provides that TruServ Corporation shall indemnify, in accordance with and to the full extent permitted by the Delaware General Corporation Law, any person who was or is a party or is threatened to be made a party to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative (including, without limitation, an action by or in the right of TruServ), by reason of the fact that the person is or was a director, officer, employee or agent of TruServ, or is or was serving at the request of TruServ as a director, officer, employee or agent of another company, partnership, joint venture, trust or other enterprise, against any liability or expense actually and reasonably incurred by the person in respect thereof. The indemnification is not exclusive of any other right of the director, officer, or employee to indemnification provided by law or otherwise. Under TruServ's by-laws, as against third parties, TruServ shall indemnify any director, officer, employee or agent for any expenses (including attorneys' fees, judgments, fines and amounts paid in settlement) actually and reasonably incurred in defending any threatened, pending or completed suit or proceeding, whether civil, criminal, administrative or investigative, brought against the person by reason of the fact that he was or is a director, officer, employee or agent, if the person acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interest of TruServ, and with respect to any criminal action or proceeding if he had no reasonable cause to believe his conduct unlawful. In any action or suit by or in the right of TruServ, TruServ shall indemnify any director, officer, employee or agent who is or was a party or threatened to be made a party to the threatened, pending or completed action or suit, for expenses (including attorney's fees and amounts paid in settlement) reasonably and actually incurred in connection with the defense or settlement of the suit or action, if the person acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interest of TruServ, except that no indemnification shall be made if the person has been adjudged to be liable for negligence or misconduct in the performance of his duty to TruServ unless and only to the extent that the Court of Chancery of Delaware or the court where the suit was brought finds that, in view of all the circumstances of the case, the person is entitled to indemnification. Any indemnification, unless ordered by a court, shall be made by TruServ only as authorized in the specific case upon a determination that indemnification is proper in the circumstances because the party to be indemnified has met the applicable standard of conduct. The determination shall be made by the Board of Directors by a majority vote of a quorum, consisting of directors who were not parties to the action, suit or proceeding, or if a quorum is not obtainable and if a quorum of disinterested directors so directs, by independent legal counsel in a written opinion, or by the stockholders. II-1 Additionally, TruServ's Certificate of Incorporation eliminates personal liability of directors to TruServ Corporation or its stockholders for monetary damages for breach of fiduciary duty of care. The Certificate of Incorporation provides that a director of TruServ shall not be liable to TruServ or its stockholders for monetary damages for breach of fiduciary duty as a director, except to the extent that the exemption from liability or limitation thereof is not permitted under the Delaware General Corporation Law as the same exists or may hereafter be amended. Insofar as indemnification for liabilities arising under the Securities Act of 1933 is concerned, see Item 17 "Undertakings" below. ITEM 16. EXHIBITS.
EXHIBIT NUMBER DESCRIPTION ------- ----------- 4-A Amended and Restated Certificate of Incorporation of TruServ, 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 TruServ, effective February 23, 2001. Incorporated by reference--Exhibit 4-B to the Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 2000. 4-C Specimen certificate of Class A common stock. Incorporated by reference--Exhibit 4-B to Post-Effective Amendment No. 8 to Registration Statement on Form S-2 to Form S-4 (No. 333-18397). 4-D Specimen certificate of Class B common stock. Incorporated by reference--Exhibit 4-C to Post-Effective Amendment No. 8 to Registration Statement on Form S-2 to Form S-4 (No. 333-18397). 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 Form of Trust Indenture between TruServ Corporation and U.S. Bank Trust National Association dated , 2000. 4-J Amended and Restated Trust Indenture between TruServ Corporation and U.S. Bank Trust National Association for $50,000,000 principal amount of Variable Denomination Floating Rate Demand Notes. Incorporated by reference--Exhibit 4-K to Post-Effective Amendment No. 10 to Registration Statement on Form S-2 to Form S-4 (No. 333-18397). 4-K Trust Indenture between TruServ Corporation (formerly Cotter & Company) and U.S. Bank Trust National Association (originally with Bank of America Illinois) dated November 16, 1994. Incorporated by reference--Exhibit T3C to Cotter & Company Form T-3 (No. 22-26210). 4-L Amended and Restated Credit Agreement dated as of April 14, 2000 for $300,000,000 Revolving credit between TruServ Corporation, various financial institutions, and Bank of America. Incorporated by reference--Exhibit 4-K to Post-Effective Amendment No. 10 to Registration Statement on Form S-2 to Form S-4 (No. 333-18397).
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EXHIBIT NUMBER DESCRIPTION ------- ----------- 4-M 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) 4-N Amendment dated April 14, 2000 to the Amended and Restated Private Shelf Agreement between TruServ Corporation and Prudential Insurance Company of America dated November 13, 1997 for $150,000,000 and to Note Agreement of $50,000,000, dated as of April 13, 1992, between Cotter & Company and Prudential. Incorporated by reference on Exhibit 4-N to Post-Effective Amendment No. 10 to Registration Statement on Form S-2 to Form S-4 (No. 333-18397) 4-O 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-P Amended and Restatement dated April 14, 2000 to Credit Agreement dated September 10, 1998 for $105,000,000 Note Purchase Agreement between TruServ Corporation and various purchasers. Incorporated by reference on Exhibit 4-Q to Post Effective Amendment No. 10 to Registration Statement on Form S-2 to Form S-4 (No. 333-18397). 4-Q 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) *5 Opinion of Goldberg, Kohn, Bell, Black, Rosenbloom & Moritz, Ltd. 10-A Current form of "Retail Member Agreement with TruServ Corporation" between TruServ and its members that offer primarily hardware and related items. Incorporated by reference--Exhibit 10-A to Post-Effective Amendment No. 11 to Registration Statement on Form S-2 to 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 TruServ Corporation Defined Lump Sum Pension Plan as Amended and Restated Effective as of January 1, 1998. Incorporated by reference--Exhibit 10-C to the Registrants's Annual Report on Form 10-K for the fiscal year ended December 31, 1999. 10-E TruServ Supplemental Retirement Plan between TruServ and selected executives of the company (As Amended Effective July 24, 1998). Incorporated by reference--Exhibit 10-E to Post-Effective Amendment No. 10 to Registration Statement on Form S-2 to Form S-4 (No. 333-18397). 10-F Retail Conversion Funds Agreement dated as of December 9, 1996 between Cotter and Company and SCC. Incorporated by reference--Exhibit 10-L to Registration Statement on Form S-4 (No. 333-18397). 10-G Employment Agreement between SCC and Donald J. Hoye dated September 1, 1996. Incorporated by reference--Exhibit 10-P to Post-Effective Amendment No. 2 to Registration Statement on Form S-4 (No. 333-18397). *12 Schedule of Computation of Consolidated Ratio of Earnings to Fixed Charges for the Fiscal Years 2000, 1999, 1998, 1997, 1996 and for the Twenty-Six Weeks Ended June 30, 2001 (See II-7). 13-A Annual Report on Form 10-K for the year ended December 31, 2000. Incorporated by reference--(No. 2-20910). *23-A Consent of Goldberg, Kohn, Bell, Black, Rosenbloom & Moritz, Ltd. (contained in opinion). *23-B Consent of Ernst & Young LLP. *23-C Consent of PricewaterhouseCoopers LLP.
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EXHIBIT NUMBER DESCRIPTION ------- ----------- *24 Powers of Attorney (contained on signature page of this registration statement). 25 Statement of Eligibility of Trustee. Incorporated by reference--Exhibit 25 to Registration Statement on Form S-2 (No. 333-49846). 99 Current Application Package for TruServ Variable Denomination Subordinated Fixed Rate Term Note Investment Program. Incorporated by reference--Exhibit 99 to Registration Statement on Form S-2 (No. 333-49846).
- ------------------------- * Filed herewith. ITEM 17. UNDERTAKINGS. The undersigned Registrant hereby undertakes: (1) To file, during any period in which offers or sales are being made, a post-effective amendment to this Registration Statement: (i) To include any prospectus required by section 10(a)(3) of the Securities Act of 1933; (ii) To reflect in the prospectus any facts or events arising after the effective date of the Registration Statement (or the most recent post-effective amendment thereof) which, individually or in the aggregate, represent a fundamental change in the information set forth in the Registration Statement; and (iii) To include any material information with respect to the plan of distribution not previously disclosed in the Registration Statement or any material change to the information in the Registration Statement. (2) That, for the purpose of determining any liability under the Securities Act of 1933, each of the post-effective amendments shall be deemed to be a new Registration Statement relating to the securities offered therein, and the offering of the securities at that time shall be deemed to be the initial bona fide offering thereof. (3) To remove from registration by means of a post-effective amendment any of the securities being registered which remain unsold at the termination of the offering. Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of TruServ pursuant to the foregoing provisions described in Item 15, or otherwise, TruServ has been advised that in the opinion of the Securities and Exchange Commission, the indemnification is against public policy as expressed in the Act and is, therefore, unenforceable. In the event that a claim for indemnification against the liabilities (other than the payment by TruServ of expenses incurred or paid by a director, officer or controlling person of TruServ in the successful defense of any action, suit or proceeding) is asserted by the director, officer or controlling person in connection with the securities being registered, TruServ will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether the indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of the issue. II-4 SIGNATURES PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THE REGISTRANT CERTIFIES THAT IT HAS REASONABLE GROUNDS TO BELIEVE THAT IT MEETS ALL OF THE REQUIREMENTS FOR FILING THIS AMENDMENT TO THE FORM S-1 AND HAS DULY CAUSED THIS AMENDMENT TO REGISTRATION STATEMENT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED, ON NOVEMBER 26, 2001. TRUSERV CORPORATION By: /s/ PAMELA FORBES LIEBERMAN ------------------------------------ Pamela Forbes Lieberman Chief Executive Officer and President PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THIS AMENDMENT TO REGISTRATION STATEMENT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS IN THE CAPACITIES AND ON THE DATES INDICATED.
SIGNATURE TITLE DATE --------- ----- ---- /s/ JOE W. BLAGG* Chairman of the Board and November 26, 2001 - ----------------------------------------------------- Director Joe W. Blagg /s/ PAMELA FORBES LIEBERMAN* Chief Executive Officer and November 26, 2001 - ----------------------------------------------------- President Pamela Forbes Lieberman /s/ DAVID A. SHADDUCK* Chief Financial Officer and November 26, 2001 - ----------------------------------------------------- Senior Vice President David A. Shadduck /s/ BRYAN R. ABLEIDINGER* Director November 26, 2001 - ----------------------------------------------------- Bryan R. Ableidinger /s/ BENJAMIN J. ANDRE* Director November 26, 2001 - ----------------------------------------------------- Benjamin J. Andre /s/ JAMES D. BURNETT* Director November 26, 2001 - ----------------------------------------------------- James D. Burnett /s/ HAROLD A. DOUTHITT* Director November 26, 2001 - ----------------------------------------------------- Harold A. Douthitt /s/ JAY B. FEINSOD* Director November 26, 2001 - ----------------------------------------------------- Jay B. Feinsod /s/ JAMES D. HOWENSTINE* Director November 26, 2001 - ----------------------------------------------------- James D. Howenstine /s/ PETER G. KELLY* Director November 26, 2001 - ----------------------------------------------------- Peter G. Kelly /s/ ROBERT J. LADNER* Director November 26, 2001 - ----------------------------------------------------- Robert J. Ladner /s/ GEORGE V. SHEFFER* Director November 26, 2001 - ----------------------------------------------------- George V. Sheffer
II-5
SIGNATURE TITLE DATE --------- ----- ---- /s/ JOHN M. WEST, JR.* Director November 26, 2001 - ------------------------------------------------ John M. West, Jr. /s/ BARBARA B. WILKERSON* Director November 26, 2001 - ------------------------------------------------ Barbara B. Wilkerson * By: /s/ DAVID A. SHADDUCK ------------------------------------------ David A. Shadduck, Pursuant to power of attorney previously granted
II-6 TRUSERV CORPORATION SCHEDULE OF COMPUTATION OF CONSOLIDATED RATIO OF EARNINGS TO FIXED CHARGES FOR THE FISCAL YEARS 2000, 1999, 1998, 1997, 1996 AND FOR THE THIRTY-NINE WEEKS ENDED SEPTEMBER 29, 2001 (000'S OMITTED)
FOR THE THIRTY-NINE WEEKS ENDED FOR THE FISCAL YEARS SEPTEMBER 29, --------------------------------------------------------- 2001 2000 1999 1998 1997 1996 ----------------- ---- ---- ---- ---- ---- Net margins/(loss) after tax...................... $(13,840) $ 34,117 $(130,803) $12,020 $38,086 $52,410 Add: Tax provision......... 442 916 17,020 597 1,600 362 -------- -------- --------- ------- ------- ------- Pretax income/(loss)....... (13,398) 35,033 (113,783) 12,617 39,686 52,772 ======== ======== ========= ======= ======= ======= Add: Fixed charges Interest paid to members............... 5,871 11,131 14,498 16,390 17,865 18,460 Other interest paid...... 41,979 56,575 46,204 38,710 19,100 10,175 -------- -------- --------- ------- ------- ------- Total interest expense........ 47,850 67,706 60,702 55,100 36,965 28,635 -------- -------- --------- ------- ------- ------- Rental expenses.......... 20,080 29,942 31,702 28,291 19,890 14,971 % of rental expenses..... 33.33% 33.33% 33.33% 33.33% 33.33% 33.33% -------- -------- --------- ------- ------- ------- Applicable rental expenses.............. 6,693 9,980 10,566 9,429 6,629 4,990 -------- -------- --------- ------- ------- ------- Total fixed charges........ 54,543 77,686 71,268 64,529 43,594 33,625 -------- -------- --------- ------- ------- ------- Pretax earnings/(loss) before fixed charges..... $ 41,145 $112,719 $ (42,515) $77,146 $83,280 $86,397 ======== ======== ========= ======= ======= ======= Ratio of pretax earnings/(loss) to fixed charges.................. .75 1.45 (0.60)(a) 1.20 1.91 2.57 ======== ======== ========= ======= ======= =======
- ------------------------- (a) For 1999, earnings were insufficient to cover fixed charges and taxes by $130,803,000 II-7 EX-4.(I) 3 c66246a3ex4-i.txt FORM OF TRUST INDENTURE Exhibit 4-I TRUST INDENTURE U.S. BANK TRUST NATIONAL ASSOCIATION TRUSTEE INDENTURE DATED AS OF DECEMBER 1, 2001 VARIABLE DENOMINATION SUBORDINATED FIXED RATE TERM NOTES TABLE OF CONTENTS ARTICLE I DEFINITIONS AND OTHER PROVISIONS OF GENERAL APPLICATION.................................................5 Section 1.01 Definitions.................................................................................5 Section 1.02 Compliance Certificates and Opinions.......................................................10 Section 1.03 Form of Documents Delivered to Trustee.....................................................11 Section 1.04 Acts of Holders............................................................................11 Section 1.05 Notices, Etc., to Trustee and Company......................................................12 Section 1.06 Notice to Holders; Waiver..................................................................13 Section 1.07 Conflict with Trust Indenture Act..........................................................13 Section 1.08 Effect of Headings, Table of Contents, and Reconciliation and Tie..........................13 Section 1.09 Successors and Assigns.....................................................................13 Section 1.10 Separability Clause........................................................................14 Section 1.11 Benefits of Indenture......................................................................14 Section 1.12 Governing Law..............................................................................14 Section 1.13 Legal Holidays.............................................................................14 Section 1.14 Persons Deemed Owners......................................................................14 ARTICLE II AMOUNT, PAYMENT AND RESTRICTION OF TRANSFER OF SECURITIES.............................................14 Section 2.01 Amount Limited.............................................................................14 Section 2.02 Payment....................................................................................14 Section 2.03 Restriction on Transfer and Pledge of Securities...........................................15 ARTICLE III REDEMPTION OF SECURITIES.............................................................................15 Section 3.01 Redemption at Option of the Company........................................................15 Section 3.02 Notice of Redemption.......................................................................15 Section 3.03 Payment of Redemption Price................................................................15 Section 3.04 Redemption of Notes if Holder is Not Eligible to Participate in the Program................16 ARTICLE IV SATISFACTION AND DISCHARGE OF INDENTURE...............................................................16 Section 4.01 Satisfaction and Discharge of Indenture....................................................16 Section 4.02 Application of Trust Money.................................................................16 Section 4.03 Repayment by Paying Agents.................................................................17 ARTICLE V REMEDIES...............................................................................................17 Section 5.01 Events of Default..........................................................................17 Section 5.02 Acceleration of Maturity; Rescission and Annulment.........................................19 Section 5.03 Collection of Indebtedness and Suits for Enforcement by Trustee............................20 Section 5.04 Trustee May File Proofs of Claim...........................................................21 Section 5.05 Trustee May Enforce Claim Without Possession of Securities.................................21
-2- Section 5.06 Application of Money Collected.............................................................22 Section 5.07 Limitation on Suits........................................................................22 Section 5.08 Unconditional Right of Holders to Receive Principal, and Interest..........................22 Section 5.09 Restoration of Rights and Remedies.........................................................23 Section 5.10 Rights and Remedies Cumulative.............................................................23 Section 5.11 Delay or Omission Not Waiver...............................................................23 Section 5.12 Control by Holders.........................................................................23 Section 5.13 Waiver of Past Defaults....................................................................24 Section 5.14 Undertaking for Costs......................................................................24 Section 5.15 Waiver of Stay or Extension Laws...........................................................24 ARTICLE VI THE TRUSTEE...........................................................................................25 Section 6.01 Certain Duties and Responsibilities........................................................25 Section 6.02 Notice of Defaults.........................................................................26 Section 6.03 Certain Rights of Trustee..................................................................27 Section 6.05 May Hold Securities........................................................................28 Section 6.06 Money Held in Trust........................................................................28 Section 6.07 Compensation and Reimbursement.............................................................28 Section 6.08 Disqualification; Conflicting Interests....................................................29 Section 6.09 Corporate Trustee Required; Eligibility....................................................29 Section 6.10 Resignation and Removal; Appointment of Successor..........................................30 Section 6.11 Acceptance of Appointment by Successor.....................................................31 Section 6.12 Merger, Conversion, Consolidation or Succession to Business................................32 ARTICLE VII HOLDERS' LISTS, PROGRAM INFORMATION AND REPORTS BY TRUSTEE AND COMPANY...............................32 Section 7.01 Company to Furnish Trustee Names and Addresses of Holders and Other Information............32 Section 7.02 Preservation of Information; Communications to Holders.....................................33 Section 7.03 Reports by Trustee.........................................................................34 Section 7.04 Reports by Company.........................................................................35 ARTICLE VIII SUPPLEMENTAL INDENTURES.............................................................................35 Section 8.01 Supplemental Indentures without Consent of Holders.........................................35 Section 8.02 Supplemental Indentures with Consent of Holders............................................36 Section 8.03 Execution of Supplemental Indentures.......................................................37 Section 8.04 Effect of Supplemental Indentures..........................................................37 Section 8.05 Conformity with Trust Indenture Act........................................................37 ARTICLE IX COVENANTS.............................................................................................37 Section 9.01 Administration of Program; Payment of Principal and Interest...............................37 Section 9.02 Maintenance of Security Register, Maintenance of Office or Agency..........................38 Section 9.03 Money for Securities Payments to Be Held in Trust..........................................38 Section 9.04 Certificate of Officers of the Company.....................................................39 Section 9.05 Waiver of Certain Covenants................................................................40
-3- ARTICLE X SUBORDINATION..........................................................................................40 Section 10.01 Agreement to Subordinate...................................................................40 Section 10.02 Subordination..............................................................................40 Section 10.03 Payments by Trustee or Securities Holders to Holders of Senior Indebtedness................42 Section 10.04 Subrogation................................................................................42 Section 10.05 Obligation of Company Unconditional........................................................42 Section 10.06 Payments on Securities Permitted...........................................................43 Section 10.07 Effectuation of Subordination by Trustee...................................................43 Section 10.08 Trustee Not Charged with Knowledge of Prohibition..........................................43 Section 10.09 Trustee May Hold Senior Indebtedness.......................................................43 Section 10.10 Rights of Holders of Senior Indebtedness Not Impaired......................................44 Section 10.11 Rights and Obligations Subject to Power of Court...........................................44
-4- INDENTURE, dated as of December 1, 2001 between TruServ Corporation, a corporation duly organized and existing under the laws of the State of Delaware,(herein called the "Company"), having its principal office at 8600 West Bryn Mawr Avenue, Chicago, Illinois 60631 and U.S. Bank Trust National Association, having its principal offices at 180 East Fifth Street, St. Paul, Minnesota 55101, a national banking organization organized under the laws of the United States, as Trustee (herein called the "Trustee"). RECITALS OF THE COMPANY The Company has duly authorized the execution and delivery of this Indenture to provide for the issuance from time to time of its unsecured subordinated variable denomination fixed rate term Securities (herein called the "Securities") pursuant subordinated to the Program (as defined below). All things necessary to make this Indenture a valid agreement of the Company, in accordance with its terms, have been done. NOW, THEREFORE, THIS INDENTURE WITNESSETH: For and in consideration of the premises and the purchase of the Securities by the Holders thereof, it is mutually covenanted and agreed, for the equal and proportionate benefit of all Holders of the Securities, as follows: ARTICLE I DEFINITIONS AND OTHER PROVISIONS OF GENERAL APPLICATION Section 1.01 Definitions. For all purposes of this Indenture, except as otherwise expressly provided or unless the context otherwise requires: (1) the terms defined in this Article have the meanings assigned to them in this Article and include the plural as well as the singular; (2) all other terms used herein which are defined in the Trust Indenture Act or by Commission rule under the Trust Indenture Act, either directly or by reference therein, have the meanings assigned to them therein; (3) all accounting terms not otherwise defined herein have the meanings assigned to them in accordance with generally accepted accounting principles, and, except as otherwise herein expressly provided, the term "generally accepted accounting principles" with respect to any computation required or permitted hereunder shall mean such accounting principles as are generally accepted in the United States of America at the date of such computation; and -5- (4) the words "herein", "hereof" and "hereunder" and other words of similar import refer to this Indenture as a whole and not to any particular Article, Section or other subdivision. Certain terms, used principally in Article Six, are defined in that Article. "Act", when used with respect to any Holder, has the meaning specified in Section 1.04. "Affiliate" of any specified Person means any other Person directly or indirectly controlling or controlled by or under direct or indirect common control with such specified Person. For the purposes of this definition, "control" when used with respect to any specified Person means the power to direct the management and policies of such Person, directly or indirectly, whether through the ownership of voting securities, by contract or otherwise; and the terms "controlling" and "controlled" have meanings correlative to the foregoing. "Agent Bank" means a bank or corporation, and its successors and assigns, appointed by the Company to act as agent under the Program and to perform all functions required of such agent pursuant to the provisions of the Program and to serve as Paying Agent pursuant to the provisions of this Indenture. "Board of Directors" means either the board of directors of the Company or any duly authorized committee of that board. "Board Resolution" means a copy of a resolution certified by the Secretary or an Assistant Secretary of the Company to have been duly adopted by the Board of Directors and to be in full force and effect on the date of such certification, and delivered to the Trustee. "Business Day" means each Monday, Tuesday, Wednesday, Thursday and Friday which is not a day on which the Agent Bank or Trustee is authorized or obligated by law to close. "Commission" means the Securities and Exchange Commission, as from time to time constituted, created under the Securities Exchange Act of 1934, or, if at any time after the execution of this instrument such Commission is not existing and performing the duties now assigned to it under the Trust Indenture Act, then the body performing such duties at such time. "Company" means the Person named as the "Company" in the first paragraph of this instrument until a successor corporation shall have become such pursuant to the applicable provisions of this Indenture, and thereafter shall mean such successor corporation. "Company Member" means any member in good standing of TruServ Corporation. -6- "Company Request" or "Company Order" means a written request or order signed in the name of the Company by its Chairman of the Board, its President or a Vice President, and by its Treasurer, an Assistant Treasurer, its Secretary or an Assistant Secretary, and delivered to the Trustee. "Consolidated Net Tangible Assets" means as of any particular time the aggregate amount of assets after deducting therefrom (a) all current liabilities (excluding any such liability that by its terms is extendable or renewable at the option of the obligor thereon to a time more than 12 months after the time as of which the amount thereof is being computed) and (b) all goodwill, excess of cost over assets acquired, patents, copyrights, trademarks, trade names, unauthorized debt discount and expense and other like intangibles, all as shown in the most recent consolidated financial statements of the Company and its Subsidiaries prepared in accordance with generally accepted accounting principles. "Corporate Trust Office" means the principal office of the Trustee at which at any particular time its corporate trust business shall be administered, which at the date hereof is located at 180 East Fifth Street, St. Paul, Minnesota 55101. With respect to the paying agent, the corporate trust office means the principal office of the paying agent at which any particular time its paying agent business shall be administered, which at the date hereof is located at 50 South LaSalle Street, Chicago, Illinois 60675. "Corporation" includes corporations, associations, companies and business trusts. "Event of Default" has the meaning specified in Section 5.01. "Holder" means, with respect to a Security, a Person in whose name at the time a particular Security is registered in the Security Register. "Indebtedness" with respect to any Person at any date means and includes all items of indebtedness or liability which, in accordance with generally accepted accounting principles, would be included in determining total liabilities as shown on the liabilities side of a balance sheet of such Person at such date, and shall include (a) amounts due trade creditors, (b) all indebtedness guaranteed or endorsed (other than for purposes of collection in the ordinary course of business), directly or indirectly, in any manner, by such Person, and contingent obligations of such Person in respect of, or to purchase or otherwise acquire, indebtedness of others (regardless of whether such indebtedness would appear on a balance sheet), and (c) all indebtedness secured by any mortgage, lien, pledge, charge or encumbrance upon property owned by such Person, whether or not the indebtedness so secured has been assumed by such Person (but if such Person has not assumed such indebtedness, the amount thereof shall be deemed the lesser of the amount of such indebtedness or the fair market value of the property that is subject to such lien, based on the appraisal of a reputable appraiser that is independent of the Company, which appraisal is as of a date not more than twelve months prior to the date of determination). -7- "Indenture" means this instrument as originally executed or as it may from time to time be supplemented or amended by one or more indentures supplemental hereto entered into pursuant to the applicable provisions hereof. "Officers' Certificate" means a certificate signed by the Chairman of the Board, the President or a Vice President, and by the Treasurer, an Assistant Treasurer, the Secretary or an Assistant Secretary, of the Company, and delivered to the Trustee. "Opinion of Counsel" means a written opinion of counsel, who may be counsel for or an employee of the Company or other counsel satisfactory to the Trustee, which is delivered to the Trustee. "Outstanding", when used with respect to Securities, means, as of the date of determination, all Securities in which Holders have made investments as shown on the Securities Register, except: (1) Securities or portions thereof theretofore redeemed by the Holders pursuant to the provisions of the Program and this Indenture; (2) Securities or portions thereof theretofore redeemed by the Company pursuant to the provisions of this Indenture; (3) Securities or portions thereof for whose payment or redemption money in the necessary amount has been theretofore deposited with the trustee or any Paying Agent (other than the Company) in trust or set aside and segregated in trust by the Company (if the Company shall act as its own Paying Agent), for the Holders of such Securities; provided that, if such Securities are to be redeemed, notice of such redemption has been duly given pursuant to this Indenture or provision therefor satisfactory to the Trustee has been made; provided, however, that in determining whether the Holders of the requisite principal amount of the Outstanding Securities have given any request, demand, authorization, direction, notice, consent or waiver hereunder, Securities owned by the Company or any other obligor upon the Securities or any Affiliate of the Company or of such other obligor shall be disregarded and deemed not to be Outstanding, except that, in determining whether the Trustee shall be protected in relying upon any such request, demand, authorization, direction, notice, consent or waiver, only Securities which the Trustee knows to be so owned shall be so disregarded. "Paying Agent" means any Person authorized by the Company to pay the principal of (and premium, if any) or interest on any Securities on behalf of the Company. The Agent Bank shall serve as Paying Agent pursuant to the terms of this Indenture. "Person" means any individual, corporation, partnership, joint venture, association, joint-stock company, trust, unincorporated organization or government or any agency or political subdivision thereof. -8- "Program" means the TruServ Corporation Variable Denomination Subordinated Fixed Rate Term Note Program established by the Company and in effect on the date hereof, as the same may be amended or supplemented by the Company from time to time. "Principal Amount", when used with reference to a Security, means, as of a particular time, the sum of the funds invested in a Security, plus the sum of interest accrued, paid and reinvested in a Security, less the sum of redemptions from time to time. "Redemption Date", when used with respect to any Security to be redeemed, means the date fixed for such redemption by or pursuant to this Indenture. "Responsible Officer", when used with respect to the Trustee, means the chairman or any vice-chairman of the board of directors, the chairman or any vice-chairman of the executive committee of the board of directors, the chairman of the trust committee, the president, any vice president, the secretary, any assistant secretary, the treasurer, any assistant treasurer, the cashier, any assistant cashier, any trust officer or assistant trust officer, the controller or any assistant controller or any other officer of the Trustee customarily performing functions similar to those performed by any of the above designated officers and also means, with respect to a particular corporate trust matter, any other officer to whom such matter is referred because of his knowledge of and familiarity with the particular subject. "Secured Debt" means indebtedness for money borrowed which is secured by a mortgage, pledgee, lien, security interest or encumbrance on any property of any character of the Company. "Security" or "Securities" means any Variable Denomination Subordinated Fixed Rate Term Note or Notes, as the case may be, issued pursuant to the Program and under this Indenture, which are evidenced by an individual record or entries in the name of the Particular Holder established on the Security Register. "Security Register" has the meaning specified in Section 9.02. "Senior Indebtedness" means the principal amount of, and the interest on, fees, expenses, indemnities, reimbursement obligations and all other obligations with respect to any Indebtedness of the Company for money borrowed, whether presently outstanding or hereafter incurred, unless it is provided in the appropriate instruments that such Indebtedness for money borrowed is not senior to the Securities. "Subsidiary" means, with respect to the Company, a corporation more than fifty percent (50%) of the outstanding voting stock of which is owned, directly or indirectly, by the Company or by one or more other Subsidiaries, or by the Company and one or more other Subsidiaries. For the purposes of this definition, "voting stock" means stock which ordinarily has voting power for the election of directors, whether at all times or only so long as no senior class of stock has such voting power by reason of any contingency. -9- "Trustee" means the Person named as the "Trustee" in the first paragraph of this instrument until a successor Trustee shall have become such pursuant to the applicable provisions of this Indenture, and thereafter. "Trustee" shall mean or include each Person who is then a Trustee hereunder. "Trust Indenture Act" or "TIA" means the Trust Indenture Act of 1939 as in force at the date as of which this instrument was executed, except as provided in Section 8.05. "United States" means the United States of America (including the States and the District of Columbia), its territories, its possessions and other areas subject to its jurisdiction. "Vice President", when used with respect to the Company, means any vice president, whether or not designated by a number or a word or words added before or after the title "vice president". "Wholly-owned Subsidiary" means any Subsidiary of which, at the time of determination, all of the outstanding voting stock (other than directors' qualifying shares) is owned by the Company, directly or indirectly. For purposes of this definition, "voting stock" has the same meaning as under the definition of "Subsidiary". Section 1.02 Compliance Certificates and Opinions. Upon any application or request by the Company to the Trustee to take any action under any provision of this Indenture, the Company shall furnish to the Trustee an Officers' Certificate stating that all conditions precedent, if any, provided for in this Indenture relating to the proposed action have been complied with and an Opinion of Counsel stating that in the opinion of such counsel all such conditions precedent, if any, have been complied with, except that in the case of any such application or request as to which the furnishing of such documents is specifically required by any provision of this Indenture relating to such particular application or request, no additional certificate or opinion need be furnished. Every certificate or opinion with respect to compliance with a condition or covenant provided for in this Indenture (other than annual certificates provided pursuant to Section 9.04) shall include: (1) a statement that each individual signing such certificate or opinion has read such covenant or condition and the definitions herein relating thereto; (2) a brief statement as to the nature and scope of the examination or investigation upon which the statements or opinions contained in such certificate or opinion are based; -10- (3) a statement that, in the opinion of each such individual, he/she has made such examination or investigation as is necessary to enable him/her to express an informed opinion as to whether or not such covenant or condition has been complied with; and (4) a statement as to whether, in the opinion of each such individual, such condition or covenant has been complied with. Section 1.03 Form of Documents Delivered to Trustee. In any case where several matters are required to be certified by, or covered by an opinion of, any specified Person, it is not necessary that all such matters be certified by, or covered by the opinion of, only one such Person, or that they be so certified or covered by only one document, but one such Person may certify or give an opinion with respect to some matters and one or more other such Persons as to other matters, and any such Person may certify or give an opinion as to such matters in one or several documents. Any certificate or opinion of an officer of the Company may be based, insofar as it relates to legal matters, upon a certificate or opinion of, or representations by, counsel, unless such officer knows, or in the exercise of reasonable care should know, that the certificate or opinion or representations with respect to the matters upon which his/her certificate or opinion is based are erroneous. Any such certificate or Opinion of Counsel may be based, insofar as it relates to factual matters, upon a certificate or opinion of, or representations by, an officer or officers of the Company stating that the information with respect to such factual matters is in the possession of the Company, unless such counsel knows, or in the exercise of reasonable care should know, that the certificate or opinion or representations with respect to such matters are erroneous. Where any Person is required to make, give or execute two or more applications, requests, consents, certificates, statements, opinions or other instruments under this Indenture, they may, but need not, be consolidated and form one instrument. Section 1.04 Acts of Holders. (1) Any request, demand, authorization, direction, notice, consent, waiver or other action provided by this Indenture to be given or taken by Holders may be embodied in and evidenced by one or more instruments of substantially similar tenor signed by such Holders in person or by agent duly appointed in writing; and, except as herein otherwise expressly provided, such action shall become effective when such instrument or instruments are delivered to the Trustee and, where it is hereby expressly required, to the Company. Such instrument or instruments (and the action embodied therein and evidenced thereby) are herein sometimes referred to as the "Act" of the Holders signing such instrument or instruments. Proof of execution of any such instrument or of a writing appointing any such agent shall be sufficient for any purpose of this Indenture and (subject to Section 6.01) -11- conclusive in favor of the Trustee and the Company, if made in the manner provided in this Section. (2) The fact and date of the execution by any Person of any such instrument or writing may be proved by the affidavit of a witness of such execution or by a certificate of a notary public or other officer authorized by law to take acknowledgments of deeds, certifying that the individual signing such instrument or writing acknowledged to him the execution thereof. Where such execution is by a signer acting in a capacity other than his individual capacity, such certificate or affidavit shall also constitute sufficient proof of his authority. The fact and date of the execution of any such instrument or writing, or the authority of the Person executing the same, may also be proved in any other manner which the Trustee deems sufficient. (3) The ownership of Securities shall be proved by reference to the Security Register. (4) Any request, demand, authorization, direction, notice, consent, waiver or other Act of the Holder of any Security shall bind every future Holder of the same Security and the Holder of every Security issued upon the registration of transfer thereof or in exchange therefor or in lieu thereof in respect of anything done, omitted or suffered to be done by the Trustee or the Company in reliance thereon, whether or not notation of such action is made upon such Security. (5) The Company may set a record date for purposes of determining the identity of Holders entitled to give any request, demand, authorization, direction, notice, consent, waiver or other Act which record date shall be the later of ten (10) days prior to the first solicitation of such action or the date of the most recent list of Holders furnished to the Trustee pursuant to Section 7.01 of this Indenture prior to such solicitation. If a record date is fixed, those persons who were Holders of Securities at such record date (or their duly designated proxies), and only those persons shall be entitled to take such action or to revoke any such previous action, whether or not such persons continue to be Holders after such record date. No such request, demand, authorization, direction, notice, consent, waiver or other Act shall be valid or effective for more than one hundred and twenty (120) days after such record date. Section 1.05 Notices, Etc., to Trustee and Company. Any request, demand, authorization, direction, notice, consent, waiver or Act of Holders or other document provided or permitted by this Indenture to be made upon, given or furnished to, or filed with, -12- (1) the Trustee by any Holder or by the Company shall be sufficient for every purpose hereunder if made, given, furnished or filed in writing to or with the Trustee and received at its Corporate Trust Office, Attention: Corporate Trust Department, or (2) the Company by the Trustee or by any Holder shall be sufficient for every purpose hereunder (unless otherwise herein expressly provided) if in writing and mailed, first-class postage prepaid, to the Company addressed to it at the address of its principal office specified in the first paragraph of this instrument or at any other address previously furnished in writing, to the Trustee or Holders by the Company. Section 1.06 Notice to Holders; Waiver. Where this Indenture provides for notice to Holders of any event, such notice shall be sufficiently given (unless otherwise herein expressly provided) if in writing and mailed, first-class postage prepaid, to each Holder affected by such event, at his address, as it appears in the Security Register, not later than the latest date, and not earlier than the earliest date, prescribed for the giving of such notice. In any case where notice to Holders is given by mail, neither the failure to mail such notice, nor any defect in any notice so mailed to any particular Holder shall affect the sufficiency of such notice with respect to other Holders. Where this Indenture provides for notice in any manner, such notice may be waived in writing by the Person entitled to receive such notice, either before or after the event, and such waiver shall be the equivalent of such notice. Waivers of notice by Holders shall be filed with the Trustee, but such filing shall not be a condition precedent to the validity of any action taken in reliance upon such waiver. In case by reason of the suspension of regular mail service or by reason of any other cause it shall be impracticable to give such notice by mail, then such notification as shall be made with the approval of the Trustee shall constitute a sufficient notification for every purpose hereunder. Section 1.07 Conflict with Trust Indenture Act. If any provision hereof limits, qualifies or conflicts with the duties imposed by any of Sections 310 to 317, inclusive, of the Trust Indenture Act through operation of Section 318(c) thereof, such imposed duties shall control. Section 1.08 Effect of Headings, Table of Contents, and Reconciliation and Tie. The Article and Section headings herein and the Table of Contents and Reconciliation and Tie are for convenience only and shall not affect the construction hereof. Section 1.09 Successors and Assigns. All covenants and agreements in this Indenture by the Company shall bind its successors and assigns, whether so expressed or not. -13- Section 1.10 Separability Clause. In case any provision in this Indenture or in the Securities shall be invalid, illegal or unenforceable, the validity, legality and enforceability of the remaining provisions shall not in any way be affected or impaired thereby. Section 1.11 Benefits of Indenture. Nothing in this Indenture or in the Securities, express or implied, shall give to any Person, other than the parties hereto and their successors hereunder and the Holders, any benefit or any legal or equitable right, remedy or claim under this Indenture. Section 1.12 Governing Law. This Indenture and the Securities shall be governed by and construed in accordance with Federal law and with the laws of the State of Illinois. Section 1.13 Legal Holidays. In any case where any Redemption Date shall not be a Business Day, then (notwithstanding any other provision of this Indenture or of the Securities) payment of the redemption price need not be made on such date, but may be made on the next succeeding Business Day with the same force and effect as if made on the Redemption Date, provided that no interest shall accrue for the period from and after such Redemption Date. Section 1.14 Persons Deemed Owners. The Company, the Trustee and any agent of the Company or the Trustee may treat the Person in whose name such Security is registered as the owner of such Security for the purpose of receiving payment of principal of or interest on such Security and for all other purposes whatsoever, whether or not such Security be overdue, and neither the Company, the Trustee nor any agent of the Company or the Trustee shall be affected by notice to the contrary. ARTICLE II AMOUNT, PAYMENT AND RESTRICTION OF TRANSFER OF SECURITIES Section 2.01 Amount Limited. The Securities shall be issued pursuant to the Program and under this Indenture in a principal amount not to exceed the amount of Securities as stated in the Program's prospectus relating to the Variable Denomination Subordinated Fixed Rate Term Notes. Section 2.02 Payment. -14- The Securities shall be payable at the office or agency of the Agent Bank as may from time to time be designated in writing, maintained for such purpose in such coin or currency of the United States of America as at the time of payment is legal tender for the payment of public and private debts. Section 2.03 Restriction on Transfer and Pledge of Securities. The notes may be transferred, in whole or in part, only to another Company Member or current Holder and only with the prior written consent of the Company. The Securities may not be pledged, in whole or in part, either directly or by operation of law or otherwise. ARTICLE III REDEMPTION OF SECURITIES Section 3.01 Redemption at Option of the Company. The Company may redeem, at any time in its discretion, all or any portion of the Securities issued pursuant to the Program and under this Indenture. Any partial redemption of the entirety of the Notes will be effected by lot or pro rata or by any other method that is deemed fair and appropriate by the Trustee. Section 3.02 Notice of Redemption. The Company may give prior written notice of at least thirty (30) days but not more than ninety (90) days to Holders whose Notes are subject to full or partial redemption. A copy of any notices shall be given to the Trustee. Such notice from the Company will specify the effective date of redemption, the amount being redeemed and the effective date the redeemed amount shall become due and payable and that interest shall cease to accrue as of that date. All partial redemption notices will list the remaining, principal amount of the Security. If the Company directs the Trustee to deliver notice of redemption to holders, the Company will provide written notice to the Trustee at least 45 days prior to the Redemption Date. Section 3.03 Payment of Redemption Price. Upon redemption the full or partial Principal Amount of the Securities being redeemed, plus accrued and unpaid interest thereon to the date of redemption, shall be paid by check to the Holder. The Company covenants that it will pay or cause to be paid to the Trustee or to the Agent Bank or to another Paying Agent cash in an amount sufficient to pay the principal amount of the Security or portion thereof to be redeemed on such date. Interest on the redeemed amount shall cease to accrue on and after the effective date the redeemed amount shall have become due and payable. -15- Section 3.04 Redemption of Notes if Holder is Not Eligible to Participate in the Program. The Company also may redeem, at any time in its sole and absolute discretion, any Security issued pursuant to the Program and under this Indenture if the Holder of such Security is not eligible to participate in the Program as defined in the annual Program Description. Notice of such redemption will be given in the manner provided in Section 3.02, and payment of the redemption price shall be made as provided in Section 3.03. ARTICLE IV SATISFACTION AND DISCHARGE OF INDENTURE Section 4.01 Satisfaction and Discharge of Indenture. If at any time: (1) the Company shall have terminated the Program pursuant to its provisions, (2) all the Notes shall have become due and payable, (3) the Company shall have deposited or caused to be deposited with the Trustee as trust funds the entire amount (other than moneys repaid by any Paying Agent to the Trustee in accordance with Section 4.03) sufficient to pay all the Notes, including principal and interest due or to become due to such date of maturity, and (4) the Company shall have paid or caused to be paid all other sums payable hereunder by the Company, then this Indenture shall cease to be of further effect, and the Trustee, on demand of and at the cost and expense of the Company shall execute proper instruments acknowledging satisfaction of and discharge of this Indenture, which instruments shall be prepared by the Company. The Company agrees to reimburse the Trustee for any costs or expenses thereafter reasonably and properly incurred by the Trustee in connection with this Indenture, the Program or the Notes. Section 4.02 Application of Trust Money. All moneys deposited with the Trustee pursuant to Section 4.01 shall be held in trust and applied by it to the payment, either directly or through any Paying Agent (including the Company acting as its own Paying Agent), to the Holders of the Notes for the payment of which such moneys have been deposited with the Trustee of all sums due and to become due thereon for principal and interest. The Trustee shall be under no obligation to invest or pay interest on any moneys so held in trust. -16- Section 4.03 Repayment by Paying Agents. In connection with the satisfaction and discharge of this Indenture all moneys then held by any Paying Agent under the provisions of this Indenture shall, upon demand of the Company, be repaid to it or paid to the Trustee and thereupon such Paying Agent shall be released from all further liability with respect to such moneys. ARTICLE V REMEDIES Section 5.01 Events of Default. "Events of Default", means any one of the following events (whatever the reason for such Event of Default and whether it shall be voluntary or involuntary or be effected by operation of law or pursuant to any judgment, decree or order of any court or any order, rule or regulation of any administrative or governmental body): (1) default in the payment of any part of or all the principal of or interest on any Security as and when the same shall be due and payable, in accordance with the then current provisions and rules and regulations of the Program and this Indenture; provided, however, that: a. the failure of the Company to make any payment of the principal of or interest on any Security, or any delay in making such payment shall not be considered in determining whether an "Event of Default" shall have occurred if: i. the Trustee believes in good faith that the Security is subject to a conflicting claim, attachment, lien or proceeding, or any person demanding such payment is not, or may not be, legally entitled thereto, or the amount of the payment demanded exceeds the principal amount of the Security according to the Security Register, or the demand for payment has not been made in accordance with the then current provisions and rules and regulations of the Program, or the payment cannot be made in accordance with the then current provisions and rules and regulations of the Program, or ii. the Company shall have paid over to the Trustee for deposit to an account not subject to offset, charge or encumbrance by the Trustee the amount of the principal of or interest on any Security which has become due and payable, and if requested by the Trustee the Company shall have furnished the Trustee with an Officers' -17- Certificates as to the matters described in the foregoing clauses (i) and (ii); or b. an administrative error relating to a Security or improperly identifying the Security of a Holder shall not be considered in determining whether an "Event of Default" shall have occurred unless such error shall have continued uncorrected for a period of sixty (60) days after written notification thereof to the Agent Bank or the Trustee by a Holder, the Trustee to be the sole judge of whether the error has been corrected (the above enumeration of specific examples of situations which shall not be considered in determining whether an "Event of Default" shall have occurred shall not be exclusive, and the Trustee may determine in any particular instance and, absence bad faith, shall incur no liability to any person in so determining whether the circumstances concerning a particular Security should be considered in determining whether an "Event of Default" shall have occurred); or (2) default in the performance, or breach, of any covenant or warranty of the Company in this Indenture (other than a covenant or warranty a default in whose performance or whose breach is elsewhere in this Section specifically dealt with), and continuance of such default or breach for a period of sixty (60) days after there has been given, by registered or certified mail, to the Company by the Trustee or to the Company and the Trustee by the Holders of at least twenty-five per cent (25%) in principal amount of the Outstanding Securities a written notice specifying such default or breach and requiring it to be remedied and stating that such notice is a "Notice of Default" hereunder; or (3) the entry by a court having jurisdiction in the premises of: a. a decree or order for relief in respect of the Company in an involuntary case or proceeding under any applicable Federal or State bankruptcy, insolvency, reorganization or other similar law or b. a decree or order adjudging the Company a bankrupt or insolvent, or approving as properly filed a petition seeking reorganization, arrangement, adjustment or composition of or in respect of the Company under any applicable Federal or State law, or appointing a custodian, receiver, liquidator, assignee, trustee, sequestrator or other similar official of the Company or of any substantial part of its property, or ordering the winding up or liquidation of its affairs, and the continuance of any such decree or order for relief or any such decree or order remains -18- unstayed and in effect for a period of sixty (60) consecutive days; or (4) the commencement by the Company of a voluntary case or proceeding under any applicable Federal or State bankruptcy, insolvency, reorganization or other similar law or of any other case or proceeding to be adjudicated a bankrupt or insolvent, or the consent by it to the entry of a decree or order for relief in respect of the Company in an involuntary case or proceeding under any applicable Federal or State bankruptcy, insolvency, reorganization or other similar law or to the commencement of any bankruptcy or insolvency case or proceeding against it, or the filing by it of a petition or answer or consent seeking reorganization or relief under any applicable Federal or State law, or the consent by it to the filing of such petition or to the appointment of or taking possession by a custodian, receiver, liquidator, assignee, trustee, sequestrator or similar official of the Company or of any substantial part of its property, or the making by it of an assignment for the benefit of creditors, or the admission by it in writing of its inability to pay its debts generally as they become due, or the taking of corporate action by the Company in furtherance of any such action; or (5) in connection with any proceeding under any law relating to bankruptcy, insolvency or reorganization or relief of debtors, involving the Company or one of its Subsidiaries an order for relief shall be entered by a court of competent jurisdiction which affects any significant part of the assets of the Company or any of its Subsidiaries. Section 5.02 Acceleration of Maturity; Rescission and Annulment. If an Event of Default with respect to the Notes occurs and is continuing, then in every such case the Trustee or the Holders of not less than fifty percent (50%) in the principal amount of the Outstanding Securities may declare all of the Securities to be due and payable immediately, by a notice in writing to the Company (and to the Trustee if given by Holders), and upon any such declaration such principal amount shall become immediately due and payable. At any time after such a declaration of acceleration with respect to the Securities has been made and before a judgment or decree for payment of the money due has been obtained by the Trustee as hereinafter in this Article provided, the Holders of a majority in principal amount of the Outstanding Securities, by written notice to the Company and the Trustee, shall rescind and annul such declaration and its consequences if: (1) the Company has paid or deposited with the Trustee a sum sufficient to pay -19- a. the principal of any Securities which have become due otherwise than by such declaration of acceleration and interest thereon at the rate or rates prescribed therefor in such Securities; b. to the extent that payment of such interest is lawful, interest upon overdue interest at the rate or rates prescribed therefor in such Securities, and c. all sums paid or advanced by the Trustee hereunder and the reasonable compensation, expenses, disbursements and advances of the Trustee, its agents and counsel; and (2) all Events of Default with respect to the Securities, other than the non-payment of the principal of Securities which have become due solely by such declaration of acceleration, have been cured or waived as provided in Section 5.13. No such rescission shall affect any subsequent default or impair any right consequent thereon. Section 5.03 Collection of Indebtedness and Suits for Enforcement by Trustee. The Company covenants that if default is made in the payment of the principal of or interest on any Security when the same shall have become due and payable the Company will, upon demand of the Trustee, pay to it, for the benefit of the Holders of such Securities, the whole amount then due and payable on such Securities for principal and interest and, to the extent that payment of such interest shall be legally enforceable, interest on any overdue principal and on any overdue interest, at the rate or rates prescribed therefor in such Securities, and, in addition thereto, such further amount as shall be sufficient to cover the costs and expenses of collection, including the reasonable compensation, expenses, disbursements and advances of the Trustee, its agents and counsel. If the Company fails to pay such amounts forthwith upon such demand, the Trustee, in its own name and as trustee of an express trust, may institute a judicial proceeding for the collection of the sums so due and unpaid, may prosecute such proceeding to judgment or final decree and may enforce the same against the Company or any other obligor upon such Securities and collect the moneys adjudged or decreed to be payable in the manner provided by law out of the property of the Company or any other obligor upon such Securities, wherever situated. If an Event of Default with respect to the Securities occurs and is continuing, the Trustee may in its discretion proceed to protect and enforce its rights and the rights of the Holders of the Securities by such appropriate judicial proceedings as the Trustee shall deem most effectual to protect and enforce any such rights, whether for the specific enforcement of any covenant or agreement in this Indenture or in aid of the exercise of any power granted herein, or to enforce any other proper remedy. -20- Section 5.04 Trustee May File Proofs of Claim. In case of the pendency of any receivership, insolvency, liquidation, bankruptcy, reorganization, arrangement, adjustment, composition or other judicial proceeding relative to the Company or any other obligor upon the Securities or the property of the Company or of such other obligor or their creditors, the Trustee (irrespective of whether the principal of the Securities shall then be due and payable as therein expressed or by declaration or otherwise and irrespective of whether the Trustee shall have made any demand on the Company for the payment of overdue principal or interest) shall be entitled and empowered, by intervention in such proceeding or otherwise: (1) to file and prove a claim for the whole amount of principal and interest owing and unpaid in respect of the Securities, to participate as a member, voting or otherwise, of any official committee appointed in such matter, and to file such other papers or documents as may be necessary or advisable in order to have the claims of the Trustee (including any claim for the reasonable compensation, expenses, disbursements and advances of the Trustee and any predecessor Trustee, their agents and counsel) and of the Holders allowed in such judicial proceeding, and (2) to collect and receive any moneys or other property payable or deliverable on any such claims and to distribute the same; and any custodian, receiver, assignee, trustee, liquidator, sequestrator or other similar official in any such judicial proceeding is hereby authorized by each Holder to make such payments to the Trustee and, in the event that the Trustee shall consent to the making of such payments directly to the Holders, to pay to the Trustee any amount due it for the reasonable compensation, expenses, disbursements and advances of the Trustee and any predecessor Trustee, their agents and counsel, and any other amounts due the Trustee and any predecessor Trustee under Section 6.07. Nothing herein contained shall be deemed to authorize the Trustee to authorize or consent to or accept or adopt on behalf of any Holder any plan of reorganization, arrangement, adjustment or composition affecting the Securities or the rights of any Holder thereof or to authorize the Trustee to vote in respect of the claim of any Holder in any such proceeding. Section 5.05 Trustee May Enforce Claim Without Possession of Securities. All rights of action and claims under this Indenture or the Securities may be prosecuted and enforced by the Trustee without the possession of any of the Securities or the production thereof in any proceeding relating thereto, and any such proceeding instituted by the Trustee shall be brought in its own name as trustee of an express trust, and any recovery of judgment shall, after provision for the payment of the reasonable compensation, expenses, -21- disbursements and advances of the Trustee, its agents and counsel, be for the ratable benefit of the Holders of the Securities. Section 5.06 Application of Money Collected. Any money collected by the Trustee pursuant to this Article shall be applied in the following order, at the date or dates fixed by the Trustee: FIRST: To the payment of all amounts due the Trustee and any predecessor Trustee under Section 6.07; and SECOND: To the payment of the amounts then due and unpaid for principal of and interest on the Securities in respect of which or for the benefit of which such money has been collected, ratably, without preference or priority of any kind, according to the amounts due and payable on such Securities for principal and interest, respectively. Section 5.07 Limitation on Suits. No Holder of any Security shall have any right to institute any proceeding, judicial or otherwise, with respect to this Indenture, or for the appointment of a receiver or trustee, or for any other remedy hereunder, unless: (1) such Holder has previously given written notice to the Trustee of a continuing Event of Default with respect to the Securities; (2) the Holders of not less than fifty percent (50%) in principal amount of the Outstanding Securities shall have made written request to the Trustee to institute proceedings in respect of such Event of Default in its own name as Trustee hereunder; (3) such Holder or Holders have offered to the Trustee reasonable indemnity against the costs, expenses and liabilities to be incurred in compliance with such request; (4) the Trustee for sixty (60) days after its receipt of such notice, request and offer of indemnity has failed to institute any such proceeding; and (5) no direction inconsistent with such written request has been given to the Trustee during such sixty (60) day period by the Holders of a majority in principal amount of the Outstanding Securities; it being understood and intended that no one or more of such Holders shall have any right in any manner whatever by virtue of, or by availing of, any provision of this Indenture to affect, disturb or prejudice the rights of any other of such Holders, or to obtain or to seek to obtain priority or preference over any other of such Holders or to enforce any right under this Indenture, except in the manner herein provided and for the equal and ratable benefit of all such Holders. Section 5.08 Unconditional Right of Holders to Receive Principal, and Interest. -22- Notwithstanding any other provision in this Indenture, the Holder of any Security shall have the right, which is absolute and unconditional, to receive payment of the principal of and interest on such Security on the applicable due date provided therefor pursuant to the Program (or, in the case of redemption, on the redemption date) and to institute suit for the enforcement of any such payment, and such rights shall not be impaired without the consent of such Holder. Section 5.09 Restoration of Rights and Remedies. If the Trustee or any Holder has instituted any proceeding to enforce any right or remedy under this Indenture and such proceeding has been discontinued or abandoned for any reason, or has been determined adversely to the Trustee or to such Holder, then and in every such case, subject to any determination in such proceeding, the Company, the Trustee and the Holders shall be restored severally and respectively to their former positions hereunder and thereafter all rights and remedies of the Trustee and the Holders shall continue as though no such proceeding had been instituted. Section 5.10 Rights and Remedies Cumulative. No right or remedy herein conferred upon or reserved to the Trustee or to the Holders is intended to be exclusive of any other right or remedy, and every right and remedy shall, to the extent permitted by law, be cumulative and in addition to every other right and remedy given hereunder or now or hereafter existing at law or in equity or otherwise. The assertion or employment of any right or remedy hereunder, or otherwise, shall not prevent the concurrent assertion or employment of any other appropriate right or remedy. Section 5.11 Delay or Omission Not Waiver. No delay or omission of the Trustee or of any Holder of any Securities to exercise any right or remedy acting upon any Event of Default shall impair any such right or remedy or constitute a waiver of any such Event of Default or an acquiescence therein. Every right and remedy given by this Article or by law to the Trustee or to the Holders may be exercised from time to time, and as often as may be deemed expedient, by the Trustee or by the Holders, as the case may be. Section 5.12 Control by Holders. The Holders of a majority in principal amount of the Outstanding Securities shall have the right to direct the time, method and place of conducting any proceeding for any remedy available to the Trustee, or exercising any trust or power conferred on the Trustee with respect to the Securities, provided that (1) such direction shall not be in conflict with any rule of law or with this Indenture, (2) subject to Section 6.01, the Trustee shall have the right to decline to follow any such direction if the Trustee shall reasonably determine, in -23- good faith, that the action or proceeding so directed would be unjustly prejudicial to any Holders not joining in such direction or would involve the Trustee in any personal liability unless indemnified to its reasonable satisfaction, and (3) the Trustee may take any other action deemed proper by the Trustee which is not inconsistent with such direction. Section 5.13 Waiver of Past Defaults. The Holders of not less than a majority in principal amount of the Outstanding Securities may on behalf of the Holders of all the Securities waive any past default hereunder and its consequences, except a default: (1) in the payment of the principal of or interest on any Security, or (2) in respect of a covenant or provision hereof which under Article Eight cannot be modified or amended without the consent of the Holders of each Outstanding Security affected. Upon any such waiver, such default shall cease to exist, and any Event of Default arising therefrom shall be deemed to have been cured, for every purpose of this Indenture; but no such waiver shall extend to any subsequent or other default or impair any right consequent thereon. Section 5.14 Undertaking for Costs. All Parties to this Indenture agree, and each Holder of any Security by his acceptance thereof shall be deemed to have agreed, that any court may in its discretion require, in any suit for the enforcement of any right or remedy under this Indenture, or in any suit against the Trustee for any action taken, suffered or omitted by it as Trustee, the filing by any party litigant in such suit of an undertaking to pay the costs of such suit, and that such court may in its discretion assess reasonable costs, including reasonable attorneys' fees, against any party litigant in such suit, having due regard to the merits and good faith of the claims or defenses made by such party litigant; but the provisions of this Section shall not apply to any suit instituted by the Company, to any suit instituted by the Trustee, to any suit instituted by any Holder, or group of Holders, holding in the aggregate more than ten percent (10%) in principal amount of the Outstanding Securities, or to any suit instituted by any Holder for the enforcement of the payment of the principal of or interest on the Security on or after the applicable due date therefor provided pursuant to the Program (or, in the case of redemption, on or after, the Redemption Date). Section 5.15 Waiver of Stay or Extension Laws. The Company covenants (to the extent that it may lawfully do so) that it will not at any time insist upon, or plead, or in any manner whatsoever claim or take the benefit or advantage of, any stay or extension law wherever enacted, now or any time hereafter in -24- force, which may affect the covenants or the performance of this Indenture; and the Company (to the extent that it may lawfully do so) hereby expressly waives all benefit or advantage of any such law and covenants that it will not hinder, delay or impede the execution of any power herein granted to the Trustee, but will suffer and permit the execution of every such power as though no such law had been enacted. ARTICLE VI THE TRUSTEE Section 6.01 Certain Duties and Responsibilities. (1) Except during the continuance of an Event of Default, a. the Trustee undertakes to perform such duties and only such duties as are specifically set forth in this Indenture, and no implied covenants or obligations shall be read into this Indenture against the Trustee; and b. in the absence of bad faith on its part, the Trustee may conclusively rely, as to the truth of the statements and the correctness of the opinions expressed therein, upon certificates or opinions furnished to the Trustee and conforming to the requirements of the Indenture; but in the case of any such certificates or opinions which by any provision hereof are specifically required to be furnished to the Trustee, the Trustee shall be under a duty to examine the same to determine whether or not they conform to the requirements of this Indenture. (2) In case an Event of Default has occurred and is continuing, the Trustee shall exercise such of the rights and powers vested in it by this Indenture, and use the same degree of care and would in their exercise, as a prudent person would exercise or use under the circumstances in the conduct of his/her own affairs. (3) No provision of this Indenture shall be construed to relieve the Trustee from liability for its own negligent action, its own negligent failure to act, or its own willful misconduct, except that a. this Subsection shall not be construed to limit the effect of Subsection (1) of this Section; b. the Trustee shall not be liable for any error of judgment made in good faith by a Responsible Officer, unless it shall be proved that the Trustee was negligent in ascertaining the pertinent facts; -25- c. the Trustee shall not be liable with respect to any action taken or omitted to be taken by it in good faith in accordance with the direction of the Holders of a majority in principal amount of the Outstanding Securities, determined as provided in Section 5.12, relating to the time, method and place of conducting any proceeding for any remedy available to the Trustee, or exercising any trust or power conferred upon the Trustee, under this Indenture with respect to the Securities; and d. no provision of this Indenture shall require the Trustee to expend or risk its own funds or otherwise incur any financial liability in the performance of any of its duties hereunder, or in the exercise of any of its rights or powers, if it shall have reasonable grounds for believing that repayment of such funds or adequate indemnity against such risk or liability is not reasonably assured to it. (4) Whether or not therein expressly so provided, every provision of this Indenture relating to the conduct or affecting the liability of or affording protection to the Trustee shall be subject to the provisions of this Section. (5) Except with respect to Section 9.01(2), the Trustee shall have no duty to inquire as to the performance of the Company with respect to the covenants contained in Article Nine. In addition, the Trustee shall not be deemed to have knowledge of an Event of Default except (i) any Event of Default occurring pursuant to Section 5.01(1) or (ii) any Event of Default of which the Trustee shall have received written notification or obtained actual knowledge. (6) Delivery of reports, information and documents to the Trustee under Articles Seven and Nine is for informational purposes only and the Trustee's receipt of the foregoing shall not constitute constructive notice of any information contained therein or determinable from information contained therein, including the Company's compliance with any of its covenants hereunder (as to which the Trustee is entitled to rely exclusively on Officers' Certificates). Section 6.02 Notice of Defaults. Within ninety (90) days after the occurrence of any default hereunder with respect to the Securities, the Trustee shall transmit by mail to all Holders of Securities, as their names and addresses appear in the Security Register, notice of such default hereunder known to the Trustee, unless such default shall have been cured or waived; provided, however, that, except in the case of a default in the payment of the principal of or interest on any Security, the Trustee shall be protected in withholding such notice if and so long as the -26- board of directors, the executive committee or a trust committee of directors or Responsible Officers of the Trustee in good faith determine that the withholding of such notice is in the interest of the Holders of Securities; and provided, further, that in the case of any default of the character specified in Section 5.01(3) with respect to the Securities, no such notice to Holders shall be given until at least thirty (30) days after the occurrence thereof. For the purpose of this Section, the term "default" means any event which is, or after notice or lapse of time or both would become, an Event of Default. Section 6.03 Certain Rights of Trustee. Subject to the provisions of Section 6.01: (1) the Trustee may rely and shall be protected in acting or refraining from acting upon any resolution, certificate, statement, instrument, opinion, report, notice, request, direction, consent, order, bond, debenture, Securities, other evidence of indebtedness or other paper or document believed to be genuine and to have been signed or presented by the proper party or parties; (2) any request or direction of the Company mentioned herein shall be sufficiently evidenced by a Company Request or Company Order and any resolution of the Board of Directors may be sufficiently evidenced by a Board Resolution; (3) whenever in the administration of this Indenture the Trustee shall deem it desirable that a matter be proved or established prior to taking, suffering or omitting any action hereunder, the Trustee (unless other evidence be herein specifically prescribed) may, in the absence of bad faith on its part, rely upon an Officers' Certificate; (4) the Trustee may consult with counsel and the written advice, or oral advice subsequently confirmed in writing, of such counsel or any Opinion of Counsel shall be full and complete authorization and protection in respect of any action taken, suffered or omitted by it hereunder in good faith and in reliance thereon; (5) the Trustee shall be under no obligation to exercise any of the rights or powers vested in it by this Indenture at the request or direction of any of the Holders pursuant to this Indenture, unless such Holders shall have offered to the Trustee reasonable security or indemnity against the costs, expenses and liabilities which might be incurred by it in compliance with such request or direction; (6) the Trustee shall not be bound to make any investigation into the facts or matters stated in any resolution, certificate, statement, instrument, opinion, report, notice, request, direction, consent, order, bond, debenture, Note, other evidence of indebtedness or other paper or -27- document, but the Trustee, in its discretion, may make such further inquiry or investigation into such facts or matters as it may see fit, and, if the Trustee shall determine to make such further inquiry or investigation, it shall be entitled to examine the books, records and premises of the Company, personally or by agent or attorney; (7) the Trustee may execute any of the trusts or powers hereunder or perform any duties hereunder either directly or by or through agents or attorneys and the Trustee shall not be responsible for any misconduct or negligence on the part of any agent or attorney appointed with due care by it hereunder; and (8) the Trustee shall not be liable for any action taken, suffered or omitted by it in good faith and believed by it to be authorized or within the discretion or rights or powers conferred upon it by the Indenture. Section 6.04 Not responsible for Recitals or Issuance of Securities. The recitals contained herein and the statements in the Program prospectus shall be taken as the statements of the Company, and the Trustee assumes no responsibility for their correctness. The Trustee makes no representations as to the validity or sufficiency of this Indenture or of the Securities. The Trustee shall not be accountable for the use or application by the Company of securities or the proceeds thereof. Section 6.05 May Hold Securities. Subject to the provisions of the Program with respect to Persons who may hold Securities, the Trustee, the Agent Bank, any Paying Agent, any Security Registrar or any other agent of the Company, in its individual or any other capacity, may become the owner of Securities and, subject to Sections 6.08 and 6.13, may otherwise deal with the Company with the same rights it would have if it were not Trustee, Agent Bank, Paying Agent, Security Registrar or such other agent. Section 6.06 Money Held in Trust. Money held by the Trustee in trust hereunder need not be segregated from other funds except to the extent required by law. The Trustee shall be under no liability for interest on any money received by it hereunder except as otherwise agreed in writing with the Company. Section 6.07 Compensation and Reimbursement. The Company agrees: (1) to pay to the Trustee from time to time reasonable compensation for all services rendered by it hereunder (which compensation shall not be -28- limited by any provision of law in regard to the compensation of a trustee of an express trust); (2) except as otherwise expressly provided herein, to reimburse the Trustee upon its request for all reasonable expenses, disbursements and advances incurred or made by the Trustee in accordance with any provision of this Indenture (including the reasonable compensation and the expenses and disbursements of its agents and counsel), except any such expense, disbursement or advance as may be attributable to its negligence or bad faith or willful misconduct; and (3) to indemnify each of the Trustee and any predecessor Trustee for, and to hold it harmless against, any loss, liability or expense incurred without negligence, bad faith or willful misconduct, on Trustee's or any predecessor Trustee's part, arising out of or in connection with the acceptance or administration of the trust or trusts hereunder or the performance of their duties hereunder, including the costs and expenses of enforcing this Indenture against the Company (including this Section 6.07), defending itself against any claim (whether asserted by any Holder or the Company) or liability in connection with the exercise or performance of any of its powers or duties hereunder. To secure the Company's payment obligations in this Section 6.07, the Trustee shall have a lien prior to the Securities on all money or property held or collected by the Trustee, except that held in trust to pay particular Securities. The Company's payment obligations pursuant to this Section 6.07 shall survive the discharge of this Indenture. When the Trustee incurs expenses after the occurrence of a default specified in Sections 5.01(3), (4) or (5), the expenses are intended to constitute expenses of administration, under federal or state bankruptcy laws. Section 6.08 Disqualification; Conflicting Interests. The Trustee shall be subject to the provisions of Section 310(b) of the Trustee Indenture Act during the period of time provided for therein. Nothing herein shall prevent the Trustee from filing with the Commission the application referred to in the second-to-last paragraph of Section 310(b) of the Trust Indenture Act. Section 6.09 Corporate Trustee Required; Eligibility. There shall at all times be a Trustee hereunder which shall be a corporation organized and doing business under the laws of the United States of America, any State thereof or the District of Columbia, authorized under such laws to exercise corporate trust powers, having a combined capital and surplus of at least $25,000,000, subject to supervision or examination by Federal or State authority; provided, however, that if Section 310(a) of the Trust Indenture Act or the rules and regulations of the Commission under the Trust Indenture Act at any time permit a corporation organized and doing business under the laws of any -29- other jurisdiction to serve as trustee of an indenture qualified under the Trust Indenture Act, this Section 6.09 shall be automatically amended to permit a corporation organized and doing business under the laws of any such other jurisdiction to serve as Trustee hereunder. If such corporation publishes reports of condition at least annually, pursuant to law or to the requirements of said supervising or examining authority, then for the purposes of this Section, the combined capital and surplus of such corporation shall be deemed to be its combined capital and surplus as set forth in its most recent report of condition so published. Neither the Company nor any person directly or indirectly controlling, controlled by or under common control with the Company may serve as Trustee. If at any time the Trustee shall cease to be eligible in accordance with the provisions of this Section, it shall resign immediately in the manner and with the effect hereinafter specified in this Article. Section 6.10 Resignation and Removal; Appointment of Successor. (1) No resignation or removal of the Trustee and no appointment of a successor Trustee pursuant to this Article shall become effective until the acceptance of appointment by the successor Trustee in accordance with the applicable requirements of Section 6.11. (2) The Trustee may resign at any time with respect to the Securities by giving written notice thereof to the Company. If the instrument of acceptance by a successor Trustee required by Section 6.11 shall not have been delivered to the Trustee within thirty (30) days after the giving of such notice of resignation, the resigning Trustee may petition any court of competent jurisdiction for the appointment of a successor Trustee with respect to the Securities of such series. (3) The Trustee may be removed at any time with respect to the Securities by Act of the Holders of a majority in principal amount of the Outstanding Securities, delivered to the Trustee and to the Company. (4) If at any time: a. the Trustee shall fail to comply with Section 6.08 after written request therefor by the Company or by any Holder who has been a bona fide Holder of a Security for at least six (6) months, unless the Trustee's duty to resign has been stayed as provided in Section 310(b) of the Trust Indenture Act, or b. the Trustee shall cease to be eligible under Section 6.09 and shall fail to resign after written request therefor by the Company or by any such Holder, or c. the Trustee shall become incapable of acting or shall be adjudged a bankrupt or insolvent or a receiver of the Trustee or of its property shall be appointed or any public officer shall take charge or control of the Trustee or of its property or affairs for -30- the purpose of rehabilitation, conservation or liquidation. then, in any case, (i) the Company by a Board Resolution may remove the Trustee with respect to all Securities, or (ii) subject to Section 5.14, any Holder who has been a bona fide Holder of a Security for at least six (6) months may, on behalf of himself and all others similarly situated, petition any court of competent jurisdiction for the removal of the Trustee with respect to all Securities and the appointment of a successor Trustee or Trustees. (5) If the Trustee shall resign, be removed or become incapable of acting, or if a vacancy shall occur in the office of Trustee for any cause, the Company, by a Board Resolution, shall promptly appoint a successor Trustee and shall comply with the applicable requirements of Section 6.11. If, within one (1) year after such resignation, removal or incapability, or the occurrence of such vacancy, a successor Trustee shall be appointed by Act of the Holders of a majority in principal amount of the Outstanding Securities delivered to the Company and the retiring Trustee, the successor Trustee so appointed shall, forthwith upon its acceptance of such appointment in accordance with the applicable requirements of Section 6.11, become the successor Trustee and to that extent supersede the successor Trustee appointed by the Company. If no successor Trustee shall have been so appointed by the Company or the Holders and accepted appointment in the manner required by Section 6.11, any Holder who has been a bona fide Holder of a Security for at least six (6) months may, on behalf of himself and all others similarly situated, petition any court of competent jurisdiction for the appointment of a successor Trustee. (6) The Company shall give notice of each resignation and each removal of the Trustee and each appointment of a successor Trustee by mailing written notice of such event by first-class mail, postage prepaid, to all Holders of Securities as their names and addresses appear in the Security Register. Each notice shall include the name of the successor Trustee and the address of its Corporate Trust Office. Section 6.11 Acceptance of Appointment by Successor. (1) In case of the appointment hereunder of a successor Trustee, every such successor Trustee so appointed shall execute, acknowledge and deliver to the Company and to the retiring Trustee an instrument accepting such appointment, and thereupon the resignation or removal of the retiring Trustee shall become effective and such successor Trustee, without any further act, deed or conveyance, shall become vested with all the rights, powers, trusts and duties of the retiring Trustee; but, on the request of the Company or the successor Trustee, such retiring -31- Trustee shall, upon payment of its charges, execute and deliver an instrument transferring to such successor Trustee all the rights, powers and trusts of the retiring Trustee and shall duly assign, transfer and deliver to such successor Trustee all property and money held by such retiring Trustee hereunder. (2) Upon request of any such successor Trustee, the Company shall execute any and all instruments for more fully and certainly vesting in and confirming to such successor Trustee all such rights, powers and trusts referred to in paragraph (1) of this Section. (3) No successor Trustee shall accept its appointment unless at the time of such acceptance such successor Trustee shall be qualified and eligible under this Article. Section 6.12 Merger, Conversion, Consolidation or Succession to Business. Any corporation into which the Trustee may be merged or converted or with which it may be consolidated, or any corporation resulting from any merger, conversion or consolidation to which the Trustee shall be a party, or any corporation succeeding to all or substantially all the corporate trust business of the Trustee, shall be the successor of the Trustee hereunder, provided such corporation shall be otherwise qualified and eligible under this Article, without the execution or filing of any paper or any further act on the part of any of the parties hereto. Section 6.13 Preferential Collection of Claim Against Company. Upon and so long as the Indenture is qualified under the TIA, the Trustee is subject to TIA Section 311(a), excluding any creditor relationship listed in TIA Section 311(b). A Trustee who has resigned or been removed is subject to TIA Section 311(a) to the extent indicated. ARTICLE VII HOLDERS' LISTS, PROGRAM INFORMATION AND REPORTS BY TRUSTEE AND COMPANY Section 7.01 Company to Furnish Trustee Names and Addresses of Holders and Other Information. The Company will furnish or cause to be furnished to the Trustee: (1) semi-annually, not later than March 1 and September 1 in each year, a list in such form as the Trustee may reasonably require, of the names and addresses of the Holders as of the preceding February 15 or August 15, as the case may be; -32- (2) at such other times as the Trustee may request in writing, within thirty (30) days after the receipt by the Company of any such request, a list of similar form and content as of a date not more than fifteen (15) days prior to the time such list is furnished; (3) from time to time, all current information and rules and regulations regarding the Program, including all amendments thereto. excluding from any such list names and addresses received by the Trustee in the event that it is the Security Registrar; and (4) any agreement(s) with the Agent Bank, and any amendments thereto. Section 7.02 Preservation of Information; Communications to Holders. (1) The Trustee shall preserve, in as current a form as is reasonably practicable, the names and addresses of Holders contained in the most recent list furnished to the Trustee as provided in Section 7.01 and the names and addresses of Holders received by the Trustee in its capacity as Security Registrar. The Trustee may destroy any list furnished to it as provided in Section 7.01 upon receipt of a new list so furnished. (2) If three (3) or more Holders (herein referred to as "applicants") apply in writing to the Trustee, and furnish to the Trustee reasonable proof that each such applicant has owned a Security for a period of at least six (6) months preceding the date of such application, and such application states that the applicants desire to communicate with other Holders with respect to their rights under this Indenture or under the Securities and is accompanied by a copy of the form of proxy or other communication which such applicants propose to transmit, then the Trustee shall, within five (5) business days after the receipt of such application, at its election, either a. afford such applicants access to the information preserved at the time by the Trustee in accordance with Section 7.02(1), or b. inform such applicants as to the approximate number of Holders whose names and addresses appear in the information preserved at the time by the Trustee in accordance with Section 7.02(1), and as to the approximate cost of mailing to such Holders the form of proxy or other communication, if any, specified in such application. If the Trustee shall elect not to afford such applicants access to such information, the Trustee shall, upon written request of such applicants, mail to each Holder whose name and address appear in the information preserved at the time by the Trustee in accordance with Section 7.02(1) a copy of the form of proxy or other communication which is specified in such request, with reasonable promptness after a tender to the -33- Trustee of the material to be mailed and of payment, or provision for the payment, of the reasonable expenses of mailing, unless within five (5) days after such tender the Trustee shall mail to such applicants and file with the Commission, together with a copy of the material to be mailed, a written statement to the effect that, in the opinion of the Trustee, such mailing would be contrary to the best interest of the Holders or would be in violation of applicable law. Such written statement shall specify the basis of such opinion. If the Commission, after opportunity for a hearing upon the objections specified in the written statement so filed, shall enter an order refusing to sustain any of such objections or if, after the entry of an order sustaining one or more of such objections, the Commission shall find, after notice and opportunity for hearing, that all the objections so sustained have been met and shall enter an order so declaring, the Trustee shall mail copies of such material to all such Holders with reasonable promptness after the entry of such order and the renewal of such tender; otherwise the Trustee shall be relieved of any obligation or duty to such applicants respecting their application. c. Every Holder of Securities, by receiving and holding the same, agrees with the Company and the Trustee that neither the Company nor the Trustee nor any agent of either of them shall be held accountable by reason of the disclosure of any such information as to the names and addresses of the Holders in accordance with Section 7.02(2), regardless of the source from which such information was derived, and that the Trustee shall not be hold accountable by reason of mailing any material pursuant to a request made under Section 7.02. Section 7.03 Reports by Trustee. (1) Within sixty (60) days after May 15 of each year beginning with the year 2002, the Trustee shall transmit by mail to all Holders, as their names and addresses appear in the Security Register, a brief report dated as of such May 15 that complies with TIA Section 313(a), if required by such Section 313(a). The Trustee also shall comply with TIA Section 313(b). (2) A copy of each such report shall, at the time of such transmission to Holders, be filed by the Trustee with each stock exchange upon which any Securities are listed, with the Commission and with the Company. The Company will notify the Trustee when any Securities are listed on any stock exchange. -34- Section 7.04 Reports by Company. The Company shall: (1) file with the Trustee, within fifteen (15) days after the Company is required to file the same with the Commission, copies of the annual reports and of the information, documents and other reports (or copies of such portions of any of the foregoing as the Commission may from time to time by rules and regulations prescribe) which the Company may be required to file with the Commission pursuant to Section 13 or Section 15(d) of the Securities Exchange Act of 1934; or, if the Company is not required to file information, documents or reports pursuant to either of said Sections, then it shall file with the Trustee and the Commission, in accordance with rules and regulations prescribed from time to time by the Commission, such of the supplementary and periodic information, documents and reports which may be required pursuant to Section 13 of the Securities Exchange Act of 1934 in respect of a security listed and registered on a national securities exchange as may be prescribed from time to time in such rules and regulations; (2) file with the Trustee and the Commission, in accordance with rules and regulations prescribed from time to time by the Commission, such additional information, documents and reports with respect to compliance by the Company with the conditions and covenants of this Indenture as may be required from time to time by such rules and regulations; and (3) transmit by mail to all Holders, as their names and addresses appear in the Security Register, within thirty (30) days after the filing thereof with the Trustee, such summaries of any information, documents and reports required to be filed by the Company pursuant to paragraphs (1) and (2) of this Section as may be required by rules and regulations prescribed from time to time by the Commission. ARTICLE VIII SUPPLEMENTAL INDENTURES Section 8.01 Supplemental Indentures without Consent of Holders. Without the consent of any Holders, the Company, when authorized by a Board Resolution, and the Trustee, at any time and from time to time, may enter into one or more indentures supplemental hereto, in form satisfactory to the Trustee, for any of the following purposes: -35- (1) to evidence the succession of another corporation to the Company and the assumption by any such successor of the covenants of the Company herein and in the Securities; or (2) to add to the covenants of the Company for the benefit of the Holders of the Securities or to surrender any right or power herein conferred upon the Company; or (3) to add any additional Events of Default; or (4) to evidence and provide for the acceptance of appointment hereunder by a successor Trustee and to add to or change any of the provisions of this Indenture as shall be necessary to provide for or facilitate the administration of the trusts hereunder by more than one Trustee, pursuant to the requirements of Section 6.11(2); or (5) to cure any ambiguity, or correct or supplement any provision herein which may be defective or inconsistent with any other provision herein, or to make any other provisions with respect to matters or questions arising under this Indenture, provided that such action shall not adversely affect the interests of the Holders of Securities in any material respect. Section 8.02 Supplemental Indentures with Consent of Holders. With the consent of the Holders of not less than sixty-six and two-thirds percent (66 2/3%) in principal amount of the Outstanding Securities, by Act of said Holders delivered to the Company and the Trustee, the Company, when authorized by a Board Resolution, and the Trustee may enter into an indenture or indentures supplemental hereto for the purpose of adding any provisions to or changing in any manner or eliminating any of the provisions of this Indenture or of modifying in any manner the rights of the Holders of Securities under this Indenture; provided, however, that no such supplemental indenture shall, without the consent of the Holder of each Outstanding Security affected thereby, (1) reduce the principal amount of any Security or impair the right to institute suit for the enforcement of any such payment on or after the applicable due date thereof (or, in the case of redemption, on or after the Redemption Date), or (2) reduce the percentage in principal amount of the Outstanding Securities, the consent of whose Holders is required for any such supplemental indenture, or the consent of whose Holders is required for any waiver (of compliance with certain provisions of this Indenture or certain defaults hereunder and their consequences) provided for in this Indenture, or -36- (3) Change any obligation of the Company, with respect to Outstanding Securities, to maintain an office or agency in the places and for the purposes specified in Section 9.02, or (4) modify any of the provisions of this Section, Section 5.13 or Section 9.04, except to increase any such percentage or to provide that certain other provisions of this Indenture cannot be modified or waived without the consent of the Holder of each outstanding Security affected thereby; provided, however, that this clause shall not be deemed to require the consent of any Holder with respect to changes in the references to "the Trustee" and concomitant changes in this Section and Section 9.04, or the deletion of this proviso, in accordance with the requirements of Sections 6.11(2) and 8.01(5). It shall not be necessary for any Act of Holders under this Section to approve the particular form of any proposed supplemental indenture, but it shall be sufficient if such Act shall approve the substance thereof. Section 8.03 Execution of Supplemental Indentures. In executing, or accepting the additional trusts created by, any supplemental indenture permitted by this Article or the modifications thereby of the trusts created by this Indenture, the Trustee shall be entitled to receive, and (subject to Section 6.01) shall be fully protected in relying upon, an Opinion of Counsel stating that the execution of such supplemental indenture is authorized or permitted by this Indenture. The Trustee may, but shall not be obligated to, enter into any such supplemental indenture which affects the Trustee's own rights, duties or immunities under this Indenture or otherwise. Section 8.04 Effect of Supplemental Indentures. Upon the execution of any supplemental indenture under this Article, this Indenture shall be modified in accordance therewith, and such supplemental indenture shall form a part of this Indenture for all purposes; and every Holder of Securities theretofore or thereafter authenticated and delivered hereunder shall be bound thereby. Section 8.05 Conformity with Trust Indenture Act. Every supplemental indenture executed pursuant to this Article shall conform to the requirements of the Trust Indenture Act as then in effect. ARTICLE IX COVENANTS Section 9.01 Administration of Program; Payment of Principal and Interest. -37- (1) The Company covenants and agrees to maintain and administer the Program and the Securities issued pursuant thereto in accordance with the provisions of the Program, as the same may from time to time be in force and effect, and this Indenture; provided, however, that nothing herein shall prevent the Company from exercising any of its rights to amend, modify or terminate the Program, or to adopt, amend or rescind the rules established under the Program, as provided therein. (2) The Company covenants and agrees for the benefit of Holders of Securities that it will duly and punctually pay the principal of and interest on the Securities in accordance with the terms of the Program and this Indenture. Interest will accrue on the Securities in accordance with the provisions of the Program. The interest rate on the Securities shall be determined in accordance with the provisions of the Program. Interest rates will vary from time to time. There are no minimum or maximum interest rates. Section 9.02 Maintenance of Security Register, Maintenance of Office or Agency. (1) The Company will keep at an office or agency proper books of record and account (which books may be in written form or in any other form capable of being converted into written form) in which full and correct entries shall be made of all funds invested in the Securities, together with interest accrued thereon, and all redemptions thereof, in accordance with sound accounting practice and which shall contain the names and addresses of all Holders and the principal amounts of their respective Securities (collectively, the "Security Register"). (2) The Company will maintain in the City of Chicago or such other city where the Company maintains its corporate headquarters an office or agency where notices and demands hereunder may be given to or made upon the Company in respect of the Securities and this Indenture may be served. The Company will give prompt written notice to the Trustee and the Holders of the location, and any change in the location, of any such office or agency. If at any time the Company shall fail to maintain any such required office or agency or shall fail to furnish the Trustee with the address thereof, such notices and demands may be made or served at the Corporate Trust Office of the Trustee. Section 9.03 Money for Securities Payments to Be Held in Trust. Whenever the Company shall have one or more Paying Agents, it will, prior to each due date of the principal of, or interest on any Securities, deposit with a Paying Agent a sum sufficient to pay the principal or interest so becoming due, such sum to be held in trust for the benefit of the Persons entitled to such principal or interest. If the Company fails to -38- deposit such sums with the Paying Agent, unless such Paying Agent is the Trustee, the Company will promptly notify the Trustee of its failure so to act. The Company will cause each Paying Agent other than the Trustee to execute and deliver to the Trustee an instrument in which such Paying Agent shall agree with the Trustee, subject, to the provisions of this Section, that such Paying Agent will: (1) hold all sums held by it for the payment of the principal of or interest on Securities in trust for the benefit of the Persons entitled thereto until such sums shall be paid to such Persons or otherwise disposed of as herein provided; (2) give the Trustee notice of any default by the Company (or any other obligor upon the Securities) in the making of any payment of principal or interest on the Securities; and (3) at any time during the continuance of any such default, upon the written request of the Trustee, forthwith pay to the Trustee all sums so held in trust by such Paying Agent. The Company may at any time, for the purpose of obtaining the satisfaction and discharge of this Indenture or for any other purpose, pay, or by Company Order direct any Paying Agent to pay, to the Trustee all sums held in trust by the Company or such Paving Agent, such sums to be held by the Trustee upon the same trusts as those upon which such sums were held by the Company or such Paying Agent; and, upon such payment by any Paying Agent to the Trustee, such Paying Agent shall be released from all further liability with respect to such money. Any money deposited with the Trustee or any Paying Agent, or then held by the Company, in trust for the payment of the principal of or interest on any Security and remaining unclaimed for three years after such principal or interest has become due and payable shall be paid to the Company upon the Company's request; and the Holder of such Security shall thereafter, as an unsecured general creditor, look only to the Company for payment thereof, and all liability of the Trustee or such Paying Agent with respect to such trust money, and all liability of the Company as trustee thereof, shall thereupon cease; provided, however, that the Trustee or such Paying Agent, before being required to make any such repayment, may at the expense of the Company cause to be published once, in a newspaper published in the English language, customarily published on each Business Day and of general circulation in the City of Chicago, notice that such money remains unclaimed and that, after a date specified therein, which shall not be less than thirty (30) days from the date of such publication, any unclaimed balance of such money then remaining will be repaid to the Company. Section 9.04 Certificate of Officers of the Company. On or before the last day of March of each year beginning with the year 2002, the Company will file with the Trustee a certificate of the principal executive officer, -39- principal financial officer or principal accounting officer stating whether or not the signer has obtained knowledge of any action or failure to act on the part of the Company during the preceding calendar year in violation of any covenant, agreement, provision or condition contained in this Indenture and, if so, specifying, each such default of which the signers may have knowledge and the nature thereof. For purposes of this Section 9.04, compliance shall be determined without regard to any period of grace or requirement of notice provided pursuant to the terms of this Indenture. Section 9.05 Waiver of Certain Covenants. The Company may omit in any particular instance to comply with any term, provision or condition set forth in Sections 9.02 to 9.04, inclusive, if before the time for such compliance the Holders of at least sixty-six and two-thirds percent (66 2/3%) in principal amount of the Outstanding Securities shall, by Act of such Holders, either waive such compliance in such instance or general waive compliance with such term, provision or condition, but no such waiver shall extend to or affect such term, provision or condition except to the extent so expressly waived, and, until such waiver shall become effective, the obligations of the Company and the duties of the Trustee in respect of any such term, provision or condition shall remain in full force and effect. ARTICLE X SUBORDINATION Section 10.01 Agreement to Subordinate The Company covenants and agrees, and each Holder of Securities by his or her acceptance thereof, likewise covenants and agrees, that the Indebtedness represented by the Securities and the payment of the principal of and interest on each and all of the Securities and all claims arising in connection with the Securities, including without limitation, the payment of all fees, other costs, rescission claims and indemnities, is hereby expressly subordinated, to the extent and in the manner hereinafter set forth, in right of payment to the prior payment in full of all Senior Indebtedness and all liabilities of the Company and its Subsidiaries incurred in the ordinary course of business as provided in this Article 10. Section 10.02 Subordination (1) Upon any distribution of assets of the Company upon any dissolution, winding up, liquidation or reorganization of the Company (whether in bankruptcy, insolvency, reorganization or receivership proceedings) or upon an assignment for the benefit of creditors or any other marshalling of the assets and liabilities of the Company or if an event of default shall have occurred and be continuing with respect to any Senior Indebtedness or if the principal of the Securities shall have been declared due and payable pursuant to Section 5.02 hereof and such -40- declaration shall not have been rescinded and annulled as provided in such Section 5.02, then: a. the holders of all Senior Indebtedness shall first be entitled to receive payment in full of the principal thereof and interest due thereon, or adequate provision shall be made for such payment, before the Holders are entitled to receive any further payment on account of the principal of or interest on indebtedness evidenced by the Securities; and b. any further payment by, or distribution of assets of, the Company of any kind or character, whether in cash, property or securities (other than securities of the Company as reorganized or readjusted or securities of the Company or any Person provided for by a plan of reorganization or readjustment the payment of which is subordinate, at least to the extent provided in this Article 10 with respect to the Securities, to the payment of all Senior Indebtedness, provided that the rights of the holders of Senior Indebtedness are not altered by such reorganization or readjustment), to which the Holders or the Trustee would be entitled except for the provisions of this Article 10 shall be paid or delivered by the person making such payment or distribution, whether a trustee in bankruptcy, a receiver or liquidating trustee or otherwise directly to the holders of Senior Indebtedness or their representative or representatives or to the trustee or trustees under any indenture under which any instruments evidencing any of such Senior Indebtedness may have been issued, ratably according to the aggregate amounts remaining unpaid on account of the Senior Indebtedness and held or represented by each, to the extent necessary to make payment in full of all Senior Indebtedness remaining unpaid after giving effect to any concurrent payment or distribution to the holders of such Senior Indebtedness or provision therefor. (2) In the case of an event of default shall have occurred and be continuing with respect to any Senior Indebtedness, the Holders may not receive payments of principal on the Notes, without the consent of the holders of Senior Indebtedness. In such event, the interest would continue to accrue on the unpaid principal amount of the Notes then outstanding. Upon the cure or other remediation of the event of default to the satisfaction of the holders of the Senior Indebtedness, any delayed principal payments and accrued interest related thereto would be remitted to the Holders. -41- Section 10.03 Payments by Trustee or Securities Holders to Holders of Senior Indebtedness In the event that any payment by, or distribution of assets of, the Company of any kind or character, whether in cash, property or securities (other than securities of the Company as reorganized or readjusted or securities of the Company or any Person provided for by a plan of reorganization or readjustment the payment of which is subordinate, at least to the extent provided in this Article 10 with respect to the Securities, to the payment of all Senior Indebtedness, provided that the rights of the holders of Senior Indebtedness are not altered by such reorganization or readjustment), shall be received by the Trustee or the Holders before all Senior Indebtedness is paid in full, contrary to the provisions of this Article 10, such payment or distribution shall be paid over to the holders of such Senior Indebtedness (which shall have been identified in writing to the Trustee) or their representative or representatives or to the trustee or trustees under any indenture under which any instruments evidencing any of such Senior Indebtedness may have been issued, ratably as aforesaid, for application to the payment of all Senior Indebtedness remaining unpaid until all such Senior Indebtedness shall have been paid in full, after giving effect to any concurrent payment or distribution to the holders of such Senior Indebtedness or provision therefor. Section 10.04 Subrogation Subject to the payment in full of all Senior Indebtedness, the Holders shall be subrogated to the rights of the holders of Senior Indebtedness to receive payments or distributions of cash, property or securities of the Company applicable to the Senior Indebtedness until all amounts owing on the Securities shall be paid in full, and, as between the Company, its creditors other than holders of Senior Indebtedness and the Holders, no such payment or distribution made to the holders of Senior Indebtedness by virtue of this Article 10 which otherwise would have been made to the Holders shall be deemed to be a payment by the Company on account of the Senior Indebtedness, it being understood that the provisions of this Article 10 are and are intended solely for the purpose of defining the relative rights of the Holders, on the one hand, and the holders of Senior Indebtedness on the other hand. Section 10.05 Obligation of Company Unconditional Nothing contained in this Article 10 or elsewhere in this Indenture or in the Securities is intended to or shall impair, as between the Company, its creditors other than the holders of Senior Indebtedness and the Holders, the obligation of the Company, which is absolute and unconditional, to pay to the Holders the principal of and interest on the Securities as and when the same shall become due and payable in accordance with their terms, or affect the relative rights of the Holders and creditors of the Company other than the holders of Senior Indebtedness, nor shall anything herein or therein prevent the Trustee or the Holder of any Securities from exercising all remedies otherwise permitted by applicable law upon default under this Indenture, subject to the rights, if any, under this Article 10 of the holders of Senior Indebtedness in respect of cash, property or securities of the Company received upon the exercise of any such remedy. -42- Upon any payment or distribution of assets of the Company referred to in this Article 10, the Trustee and the Holders shall be entitled to rely upon any order or decree made by any court of competent jurisdiction in which any such dissolution, winding-up, liquidation or reorganization proceeding affecting the affairs of the Company is pending or upon a certificate of the liquidating trustee or agent or other person making any payment or distribution to the Trustee or to the Holders for the purpose of ascertaining the persons entitled to participate in such payment or distribution, the holders of the Senior Indebtedness and other indebtedness of the Company, the amount thereof or payable thereon, the amount paid or distributed therein and all other facts pertinent thereto or to this Article 10. Section 10.06 Payments on Securities Permitted Nothing contained in this Indenture, or in any of the Securities, shall affect the obligation of the Company to make, or prevent the Company from making, payments of principal of or interest on the Securities, except as otherwise provided in this Article 10. Section 10.07 Effectuation of Subordination by Trustee Each Holder of Securities, by his or her acceptance thereof, authorizes and directs the Trustee on such Holder's behalf to take such action as may be necessary or appropriate to effectuate the subordination provided in this Article 10 and appoints the Trustee such Holder's attorney-in-fact for any and all such purposes. Section 10.08 Trustee Not Charged with Knowledge of Prohibition Notwithstanding the provisions of this Article or any other provision of this Indenture, but subject to the provisions of Section 6.01 as between the Holders of Securities and the Trustee, neither the Trustee nor any Paying Agent shall be charged with knowledge of any facts which would prohibit the making of any payment of moneys to or by the Trustee or any such Paying Agent, unless and until the Trustee or such Paying Agent shall have received written notice thereof at its Corporate Trust Office from the Company or any holder of Senior Indebtedness or the trustee or representative of any holder of such Senior Indebtedness on his behalf; and, prior to the receipt of any such written notice, the Trustee and any such Paying Agent shall be entitled to assume that no such facts exist. If the Trustee or Paying Agent, as the case may be, shall not have received, at least five Business Days prior to the date upon which by the terms hereof any such moneys may become payable for any purpose (including, without limitation, the payment of the principal of, premium, if any, or the interest on any Security) with respect to such moneys, the notice provided for in this Section, then, anything herein contained to the contrary notwithstanding, the Trustee and such Paying Agent, as the case may be, shall have full power and authority to receive such moneys and to apply the same to the purpose for which they were received and shall not be affected by any notice to the contrary which may be received by it within five Business Days prior to such date. Section 10.09 Trustee May Hold Senior Indebtedness -43- The Trustee shall be entitled to all the rights set forth in this Article 10 with respect to any Senior Indebtedness at the time held by it, to the same extent as any other holder of Senior Indebtedness and nothing in Section 6.13 or elsewhere in this Indenture shall deprive the Trustee of any of its rights as such holder. Nothing in this Article shall apply to claims of, or payments to, the Trustee under or pursuant to Sections 5.06 or 6.07. Section 10.10 Rights of Holders of Senior Indebtedness Not Impaired No right of any present or future holder of any Senior Indebtedness to enforce the subordination herein shall at any time or in any way be prejudiced or impaired by any act or failure to act on the part of the Company or by any noncompliance by the Company with the terms, provisions and covenants of this Indenture, regardless of any knowledge thereof any such holder may have or be otherwise charged with. Section 10.11 Rights and Obligations Subject to Power of Court The right of the holders of Senior Indebtedness and the obligations of the Trustee and the Noteholders set forth in this Article 10 are subject to the power of a court of competent jurisdiction to make other equitable provision reflecting the rights conferred in this Indenture upon the Senior Indebtedness and the holders thereof with respect to the Securities and the Holders thereof by a plan of reorganization under applicable bankruptcy law. -44- IN WITNESS WHEREOF, the parties hereto have caused this Indenture to be duly executed, all as of the day and year first above written. TruServ Corporation By: __________________________________ Vice President U.S. Bank Trust National Association By: __________________________________ Vice President -45- EX-5 4 c66246a3ex5.txt OPIN OF GOLDBERG, KOHN, BELL, BLACK, ROSENBLOOM EXHIBIT 5 TruServ Corporation November 27, 2001 8600 West Bryn Mawr Avenue Chicago, Illinois 60631-3505 RE: PRE-EFFECTIVE AMENDMENT NO. 3 ON FORM S-1 TO FORM S-2 REGISTRATION STATEMENT (REG. NO. 333-49846) Ladies and Gentlemen: We have acted as counsel to TruServ Corporation (the "Company") in connection with Pre-Effective Amendment No. 3 on Form S-1 to the Company's Form S-2 Registration Statement (Reg. No. 333-49846) (such Registration Statement, as amended by Pre-Effective Amendment No. 3, being hereinafter referred to as the "Registration Statement") filed with the Securities and Exchange Commission under the Securities Act of 1933, as amended (the "Act") on November 27, 2001. The Registration Statement relates to the proposed sale of up to $50,000,000 of Variable Denomination Subordinated Fixed Rate Term Notes (the "Notes") which may be sold by the Company from time to time as set forth in the prospectus which forms a part of the Registration Statement (the "Prospectus"). We have reviewed such records, documents and questions of law as we have considered necessary as a basis for the opinion expressed below. In our review, we have assumed the authenticity of all documents submitted to us as originals, the conformity to the original documents of all documents submitted to us as copies, the genuineness of all signatures on documents reviewed by us and the legal capacity of natural persons. We have assumed that the Notes will be issued and sold in accordance with the terms described in the Prospectus under "The Note Program." Based upon, subject to and limited by the foregoing, we are of the opinion that, when the Registration Statement has become effective under the Act, upon issuance and delivery of the Notes against payment of the consideration therefor, such Notes will be duly issued, valid and binding obligations of the Company. We express no opinion as to the applicability of, compliance with or effect of the law of any jurisdiction other than United States Federal law, the General Corporation Law of the State of Delaware and the laws of Illinois. We hereby consent to the filing of this opinion as an exhibit to the Registration Statement. In giving this consent, we do not hereby admit that we come within the category of persons whose consent is required under Section 7 of the Act or the rules and regulations of the Securities and Exchange Commission thereunder. Very truly yours, /s/ Goldberg, Kohn, Bell, Black, Rosenbloom & Moritz, Ltd. EX-23.(B) 5 c66246a3ex23-b.txt CONSENT OF ERNST & YOUNG LLP EXHIBIT 23-B CONSENT OF INDEPENDENT AUDITORS We consent to the use of our report dated April 14, 2000 (except Note 1, as to which the date is July 3, 2001) in Pre-Effective Amendment No. 3 on Form S-1 to Form S-2 (File No. 333-49846) and related Prospectus of TruServ Corporation for the registration of $50,000,000 of Variable Denomination Subordinated Fixed Rate Term Notes. /s/ ERNST & YOUNG LLP Chicago, Illinois November 26, 2001 EX-23.(C) 6 c66246a3ex23-c.txt CONSENT OF PRICEWATERHOUSECOOPERS LLP EXHIBIT 23-C CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the use in this Pre-Effective Amendment No. 3 on Form S-1 to Registration Statement on Form S-2 for $50,000,000 Variable Denomination Subordinated Fixed Rate Term Notes (Registration No. 333-49846) of our report dated February 22, 2001 (except as to note 2 which is as of July 3, 2001 and note 7 which is as of April 19, 2001) relating to the financial statements and financial statement schedule of TruServ Corporation, which appears in such Registration Statement. /s/ PRICEWATERHOUSECOOPERS LLP Chicago, Illinois November 26, 2001 -----END PRIVACY-ENHANCED MESSAGE-----