-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: keymaster@town.hall.org Originator-Key-Asymmetric: MFkwCgYEVQgBAQICAgADSwAwSAJBALeWW4xDV4i7+b6+UyPn5RtObb1cJ7VkACDq pKb9/DClgTKIm08lCfoilvi9Wl4SODbR1+1waHhiGmeZO8OdgLUCAwEAAQ== MIC-Info: RSA-MD5,RSA, Ea19vtLxTM/kzHglLTMXelHf5/4YGWsObP2x3bF+nTSDyG4nJrgfDJMBsL+SnQ95 ZnVUbLTk+DIC3YB65Mlphw== 0000912057-94-002154.txt : 19940701 0000912057-94-002154.hdr.sgml : 19940701 ACCESSION NUMBER: 0000912057-94-002154 CONFORMED SUBMISSION TYPE: S-3/A PUBLIC DOCUMENT COUNT: 4 FILED AS OF DATE: 19940628 FILER: COMPANY DATA: COMPANY CONFORMED NAME: MICHAELS STORES INC CENTRAL INDEX KEY: 0000740670 STANDARD INDUSTRIAL CLASSIFICATION: 5945 IRS NUMBER: 751943604 STATE OF INCORPORATION: DE FISCAL YEAR END: 0131 FILING VALUES: FORM TYPE: S-3/A SEC ACT: 1933 Act SEC FILE NUMBER: 033-53639 FILM NUMBER: 94536022 BUSINESS ADDRESS: STREET 1: 5931 CAMPUS CIRCLE DR CITY: IRVING STATE: TX ZIP: 75063 BUSINESS PHONE: 2147147000 MAIL ADDRESS: STREET 1: PO BOX 619566 CITY: DFW STATE: TX ZIP: 75261 S-3/A 1 S-3D/A AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON JUNE 28, 1994 REGISTRATION NO. 33-53639 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ PRE-EFFECTIVE AMENDMENT NO. 2 TO FORM S-3 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 ------------------------ MICHAELS STORES, INC. (Exact name of registrant as specified in its charter) DELAWARE 75-1943604 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number)
5931 CAMPUS CIRCLE DRIVE IRVING, TEXAS 75063 P.O. BOX 619566 DFW, TEXAS 75261-9566 (214) 714-7000 (Address, including zip code, and telephone number, including area code, of registrant's principal executive offices) R. DON MORRIS 5931 CAMPUS CIRCLE DRIVE IRVING, TEXAS 75063 (214) 714-7000 (Name, address, including zip code, and telephone number, including area code, of agent for service) ------------------------ COPIES TO: CHARLES D. MAGUIRE, JR. KENNETH L. STEWART JACKSON & WALKER, L.L.P. FULBRIGHT & JAWORSKI L.L.P. 901 Main Street 2200 Ross Avenue Suite 6000 Suite 2800 Dallas, Texas 75202 Dallas, Texas 75201
------------------------ APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as practicable after the effective date of this Registration Statement. ------------------------ If the only securities being registered on this Form are being offered pursuant to dividend or interest reinvestment plans, please check the following box: / / 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, other than securities offered only in connection with dividend or interest reinvestment plans, 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 SECTION 8(A), MAY DETERMINE. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE. SUBJECT TO COMPLETION, DATED JUNE 27, 1994 2,000,000 Shares Common Stock ($.10 PAR VALUE) -------------- OF THE 2,000,000 SHARES OF COMMON STOCK, $.10 PAR VALUE ("COMMON STOCK"), OF MICHAELS STORES, INC. ("MICHAELS" OR THE "COMPANY") OFFERED HEREBY, 1,500,000 SHARES ARE BEING SOLD BY THE COMPANY AND 500,000 ARE BEING SOLD BY THE SELLING STOCKHOLDERS NAMED HEREIN UNDER "SELLING STOCKHOLDERS." THE COMPANY WILL NOT RECEIVE ANY PROCEEDS FROM THE SALE OF SHARES BY THE SELLING STOCKHOLDERS. OF THE 2,000,000 SHARES OF COMMON STOCK BEING OFFERED, 1,600,000 SHARES ARE INITIALLY BEING OFFERED IN THE UNITED STATES AND CANADA (THE "U.S. SHARES") BY THE U.S. UNDERWRITERS (THE "U.S. OFFERING") AND 400,000 SHARES ARE INITIALLY BEING CONCURRENTLY OFFERED OUTSIDE THE UNITED STATES AND CANADA (THE "INTERNATIONAL SHARES") BY THE MANAGERS (THE "INTERNATIONAL OFFERING" AND, TOGETHER WITH THE U.S. OFFERING, THE "COMMON STOCK OFFERING"). THE OFFERING PRICE AND UNDERWRITING DISCOUNTS OF THE U.S. OFFERING AND THE INTERNATIONAL OFFERING ARE IDENTICAL. THE CLOSING OF THE U.S. OFFERING IS A CONDITION TO THE CLOSING OF THE INTERNATIONAL OFFERING AND VICE VERSA. ON JUNE 24, 1994, THE REPORTED LAST SALE PRICE OF THE COMMON STOCK ON THE NASDAQ NATIONAL MARKET WAS $33 7/8 PER SHARE. -------------- THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR AD- EQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
UNDERWRITING PROCEEDS TO PRICE TO DISCOUNTS AND PROCEEDS TO SELLING PUBLIC COMMISSIONS COMPANY(1) STOCKHOLDERS ---------------- ---------------- ---------------- ---------------- PER SHARE................................ $ $ $ $ TOTAL(2)................................. $ $ $ $ (1) BEFORE DEDUCTION OF EXPENSES PAYABLE BY THE COMPANY ESTIMATED AT $ . (2) THE COMPANY HAS GRANTED THE U.S. UNDERWRITERS AND THE MANAGERS AN OPTION, EXERCISABLE BY CS FIRST BOSTON CORPORATION, FOR 30 DAYS FROM THE DATE OF THIS PROSPECTUS TO PURCHASE A MAXIMUM OF 300,000 ADDITIONAL SHARES TO COVER OVER-ALLOTMENTS OF SHARES. IF THE OPTION IS EXERCISED IN FULL, THE TOTAL PRICE TO PUBLIC WILL BE $ , UNDERWRITING DISCOUNTS AND COMMISSIONS WILL BE $ , AND PROCEEDS TO COMPANY WILL BE $ .
-------------- THE U.S. SHARES ARE OFFERED BY THE SEVERAL U.S. UNDERWRITERS WHEN, AS AND IF ISSUED BY THE COMPANY, DELIVERED TO AND ACCEPTED BY THE U.S. UNDERWRITERS AND SUBJECT TO THEIR RIGHT TO REJECT ORDERS IN WHOLE OR IN PART. IT IS EXPECTED THAT THE U.S. SHARES WILL BE READY FOR DELIVERY ON OR ABOUT , 1994. CS First Boston Robertson, Stephens & Company Nomura Securities International, Inc. THE DATE OF THIS PROSPECTUS IS JULY , 1994. [map] IN CONNECTION WITH THIS OFFERING, CS FIRST BOSTON CORPORATION ON BEHALF OF THE U.S. UNDERWRITERS AND THE MANAGERS MAY OVER-ALLOT OR EFFECT TRANSACTIONS WHICH STABILIZE OR MAINTAIN THE MARKET PRICE OF THE COMMON STOCK AT A LEVEL ABOVE THAT WHICH MIGHT OTHERWISE PREVAIL IN THE OPEN MARKET. SUCH TRANSACTIONS MAY BE EFFECTED ON THE NASDAQ STOCK MARKET OR OTHERWISE. SUCH STABILIZING, IF COMMENCED, MAY BE DISCONTINUED AT ANY TIME. IN CONNECTION WITH THIS OFFERING, CERTAIN U.S. UNDERWRITERS AND MANAGERS (AND SELLING GROUP MEMBERS, IF ANY) AND THEIR RESPECTIVE AFFILIATES MAY ENGAGE IN PASSIVE MARKET MAKING TRANSACTIONS IN THE COMMON STOCK ON THE NASDAQ STOCK MARKET IN ACCORDANCE WITH RULE 10B-6A UNDER THE SECURITIES EXCHANGE ACT OF 1934. (SEE "UNDERWRITING.") 2 AVAILABLE INFORMATION The Company is subject to the informational requirements of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), and in accordance therewith, files reports, proxy statements and other information with the Securities and Exchange Commission (the "Commission"). Such reports, proxy statements and other information filed by the Company with the Commission may be inspected and copied at the office of the Commission at Room 1024, 450 Fifth Street, N.W., Washington, D.C. 20549, and at the following regional offices of the Commission: Northwestern Atrium Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661; and 7 World Trade Center, 13th Floor, New York, New York 10048. Copies of such material can also be obtained from the Public Reference Section of the Commission at Judiciary Plaza, Room 1024, 450 Fifth Street, N.W., Washington, D.C. 20549, at prescribed rates. This Prospectus does not contain all of the information set forth in the Registration Statement on Form S-3 and exhibits thereto (collectively, the "Registration Statement") that the Company filed with the Commission in connection with the sale of the securities offered hereby under the Securities Act of 1933, as amended (the "Securities Act"), to which Registration Statement reference is hereby made. Copies of such Registration Statement are available from the Commission. The terms "Michaels" and the "Company" when used herein shall mean Michaels Stores, Inc. and its subsidiaries. The Company's principal executive offices are located at 5931 Campus Circle Drive, Irving, Texas, and its mailing address is P.O. Box 619566, DFW, Texas 75261-9566 and the Company's telephone number is (214) 714-7000. INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE The following documents have been filed with the Commission by the Company and are incorporated herein by reference and made a part hereof as of their respective dates: (i) Annual Report on Form 10-K for the year ended January 30, 1994; (ii) definitive Proxy Statement, dated April 25, 1994, relating to the Company's Annual Meeting of Stockholders held on May 24, 1994; (iii) Current Report on Form 8-K filed May 23, 1994, as amended by Form 8-K/A filed June 23, 1994; (iv) Quarterly Report on Form 10-Q for the quarter ended May 1, 1994; and (v) Registration Statement on Form 8-A (No. 0-11822), effective as of September 11, 1991 and any amendments filed thereto. All documents filed by the Company pursuant to Sections 13(a), 13(c), 14 and 15(d) of the Exchange Act subsequent to the date of this Prospectus and prior to the termination of the Common Stock Offering shall be deemed to be incorporated by reference herein and to be a part hereof from the date of filing thereof. Any statement contained herein or in a document incorporated or deemed incorporated by reference herein shall be deemed to be modified or superseded for all purposes of this Prospectus to the extent that a statement contained herein or in any other subsequently filed document which also is or is deemed to be incorporated by reference herein modifies or supersedes such statement. Any such statement so modified or superseded shall not be deemed, except as so modified or superseded, to constitute a part of this Prospectus. The Company will provide, without charge, to each person to whom a copy of this Prospectus is delivered, upon the written or oral request of such person, a copy of any or all of the documents incorporated by reference in this Prospectus (other than exhibits and schedules thereto, unless such exhibits or schedules are specifically incorporated by reference into the information that this Prospectus incorporates). Written or telephonic requests for copies should be directed to Michaels' principal office: Michaels Stores, Inc., P.O. Box 619566, DFW, Texas 75261-9566, Attention: Investor Relations (telephone: (214) 714-7100). 3 PROSPECTUS SUMMARY THE FOLLOWING SUMMARY IS INTENDED TO HIGHLIGHT CERTAIN INFORMATION CONTAINED ELSEWHERE IN THIS PROSPECTUS. THIS SUMMARY IS NOT INTENDED TO BE A COMPLETE STATEMENT OF ALL MATERIAL INFORMATION IN THIS PROSPECTUS AND IS QUALIFIED IN ITS ENTIRETY BY THE MORE DETAILED INFORMATION HEREIN AND IN THE DOCUMENTS INCORPORATED BY REFERENCE. UNLESS OTHERWISE INDICATED, THE INFORMATION CONTAINED IN THIS PROSPECTUS ASSUMES THAT THE U.S. UNDERWRITERS' AND THE MANAGERS' OVER-ALLOTMENT OPTION IS NOT EXERCISED. THE COMPANY Michaels Stores, Inc. ("Michaels" or the "Company") is the nation's leading retailer of arts, crafts and decorative items. Michaels stores offer a wide selection of competitively priced items, including general crafts, wearable art, silk and dried flowers, picture framing materials and services, art and hobby supplies, and party, seasonal and holiday merchandise. The Company's stores average approximately 15,500 square feet of selling space and offer an assortment of over 30,000 stock keeping units ("SKUs"). Michaels' merchandising strategy is to provide a broad selection of products in an appealing store environment with superior customer service, including in-store "how-to" demonstrations, project samples displayed throughout the store and instructional classes for adults and children. Michaels currently operates 268 stores in 36 states and Canada. As a result of the recently announced acquisition (the "Leewards Acquisition") of Leewards Creative Crafts, Inc. ("Leewards"), the Company intends to add approximately 80 Leewards store locations. In addition, Michaels anticipates closing approximately 5 to 10 overlapping Michaels stores. On a pro forma basis for the Leewards Acquisition, Michaels' sales for the fiscal year ended January 30, 1994 would have been approximately $780 million. In addition to the Leewards stores and the 25 stores acquired earlier this year, Michaels currently anticipates opening approximately 55 new store locations in 1994, of which 23 have been opened. Assuming the consummation of the Leewards Acquisition, the Company intends to add approximately 50 to 60 new stores during 1995. Over the past five fiscal years, the Company's sales have grown from $290 million to $620 million. This sales growth resulted from increases in comparable store sales in each year since 1989 and an increase in the Company's store locations from 122 to 220 at the end of the most recent fiscal year. In addition, operating income over the past five fiscal years has increased from $15 million to $41 million. RECENT ACQUISITIONS On May 10, 1994, Michaels announced that it had signed a definitive merger agreement for the acquisition of Leewards, an Illinois-based arts and crafts retailer with approximately 100 stores located primarily in the midwestern and northeastern United States. It is expected that the Leewards Acquisition will close on or before July 8, 1994, prior to completion of the Common Stock Offering. Assuming the Leewards Acquisition closes prior to completion of the Common Stock Offering, and assuming a five day average closing price of the Common Stock on The Nasdaq National Market of $33 7/8, the acquisition consideration will consist of approximately $7.8 million in cash and 1,256,159 shares of Common Stock. It is currently estimated that 500,000 of these shares will be sold by the Leewards stockholders to the public in this Common Stock Offering. Upon consummation of the Leewards Acquisition, Michaels will also repay an estimated $50 million of Leewards' indebtedness. The Leewards Acquisition will establish Michaels' presence in a number of new markets, including the northeastern United States, a market in which Michaels does not currently have a significant presence, and significantly expand its presence in several existing markets. Following the Leewards Acquisition, Michaels expects to close approximately 20 Leewards stores and approximately 5 to 10 Michaels stores due to overlapping locations. Substantially all of the conditions to the consummation of the Leewards Acquisition have been satisfied, including approval of Leewards' stockholders and termination of the waiting period under the Hart-Scott-Rodino Antitrust Improvements Act of 1976 ("Hart-Scott-Rodino"). See "Recent Developments -- Recent Acquisitions," "Leewards Acquisition" and "Selling Stockholders." In February 1994, the Company acquired Treasure House Stores, Inc. ("Treasure House"), a chain of nine arts and crafts stores operating primarily in the Seattle market, for 280,000 shares of Michaels Common Stock. In April 1994, the Company acquired the affiliated arts and crafts store chains of Oregon Craft & Floral Supply Co. ("Oregon Craft & Floral"), with eight stores located primarily in the Portland, Oregon area, and H&H Craft & Floral Supply Co. ("H&H Craft & Floral"), with eight stores located in southern California, for a total of 455,000 shares of Michaels Common Stock. The Treasure House stores have been converted to the Michaels format and the Oregon Craft & Floral and H&H Craft & Floral stores 4 are being converted to the Michaels format with grand openings scheduled for July through August of this year. The Company believes that these acquisitions have significantly increased its presence in Oregon and Washington and further strengthened its position in southern California. See "Recent Developments -- Recent Acquisitions." INTEGRATION OF LEEWARDS The Company has designed a ten-week transition plan to reconfigure the Leewards stores to be more consistent with the merchandising strategy of Michaels. In order to minimize disruption to the Company's business, this plan will be implemented by the Leewards field organization under the supervision of Michaels' management using detailed plans developed by Michaels. Key aspects of this plan include: - Revising and enhancing the product mix to correlate to Michaels' merchandising strategy; - Converting merchandise ordering and management information systems; - Eliminating redundant overhead; - Retraining employees to provide the level of customer service found in Michaels stores and to improve operational efficiencies; and - Closing approximately 20 Leewards and approximately 5 to 10 Michaels store locations to eliminate overlapping stores. The continuing 80 Leewards stores will be converted to the Michaels store format beginning with a four-week phase to eliminate incompatible merchandise. The second phase will involve the arrival of new merchandise and the reformatting of the stores to the Michaels prototype. This will be accomplished department by department, with the stores remaining open for business throughout the process. The Company anticipates completing the plan prior to the busy fall/Christmas selling season. See "Leewards Acquisition -- Integration of Leewards." THE COMMON STOCK OFFERING
U.S. INTERNATIONAL OFFERING OFFERING TOTAL ------------ ------------ ----------- Shares of Common Stock Offered: By the Company.................................. 1,200,000 300,000 1,500,000 By the Selling Stockholders..................... 400,000 100,000 500,000 ------------ ------------ ----------- Total(1).................................... 1,600,000 400,000 2,000,000 ------------ ------------ ----------- ------------ ------------ -----------
Common Stock to be Outstanding: After the Leewards Acquisition(2)......... 18,748,967 shares After the Leewards Acquisition and the Common Stock Offering(2)................. 20,248,967 shares Use of Proceeds............................. Payment of outstanding bank debt which is expected to include indebtedness to be incurred in connection with the Leewards Acquisition. See "Use of Proceeds." Nasdaq National Market Symbol............... MIKE - -------------------------- (1) Pursuant to an agreement between the U.S. Underwriters and the Managers, some or all of the shares underwritten by the Managers may be sold by the Managers to the U.S. Underwriters for resale in the United States and Canada, and some or all of the shares underwritten by the U.S. Underwriters may be sold by the U.S. Underwriters to the Managers for resale outside the United States and Canada. See "Underwriting." (2) Reflects shares outstanding as of June 16, 1994 and assumes that the Leewards Acquisition is consummated and that the consideration payable to Leewards' stockholders consists of the issuance of 1,256,159 shares of Common Stock and cash of $7.8 million. Excludes shares held by wholly-owned subsidiaries of the Company. If the Leewards Acquisition does not close prior to the closing of the Common Stock Offering, the Leewards stockholders may receive cash in lieu of up to 500,000 shares of the Common Stock issuable in the acquisition. See "Recent Developments -- Recent Acquisitions," "Leewards Acquisition" and "Description of Capital Stock."
5 SUMMARY FINANCIAL AND STORE DATA (IN THOUSANDS, EXCEPT STORE DATA AND PER SHARE AMOUNTS)
FISCAL YEAR (1) QUARTER ENDED ------------------------------------------------------------------- --------------------------------- 1993 MAY 1, 1994 -------------------- ---------------------- PRO MAY 2, PRO 1989 1990 1991 1992 ACTUAL FORMA(2) 1993 ACTUAL FORMA(2) -------- -------- ----------- -------- -------- --------- -------- -------- ----------- STATEMENT OF INCOME DATA: Net sales.............. $289,754 $362,028 $410,899 $493,159 $619,688 $780,302 $112,961 $159,798 $199,305 Operating income....... 14,900 20,694 25,643 34,263 41,356 44,333 5,962 9,071 9,582 Weighted average shares outstanding assuming full dilution......... 10,645 10,229 12,411 16,853 19,809 21,065 17,131 17,856 19,112 Earnings per common share assuming full dilution.............. $0.00 $0.57 $0.87(3) $1.21 $1.52 $1.41 $0.22 $0.28 $0.25 STORE DATA: Stores open at period end................... 122 137 140 168 220 299(4) 180 259 338(4) Average sales per square foot (5)....... $193 $206 $213 $226 $218 $206 $ 45 $ 44 $43 Comparable store sales increase (6).......... 6% 9% 9% 7% 3% 3% 2% 10% 8%
MAY 1, 1994 ----------------------------------------- PRO FORMA ACTUAL PRO FORMA (7) AS ADJUSTED(8) --------- -------------- -------------- BALANCE SHEET DATA: Working capital..................................................... $ 169,726 $ 137,082 $ 184,908 Total assets........................................................ 463,119 603,525 603,525 Convertible subordinated notes...................................... 97,750 97,750 97,750 Shareholders' equity................................................ 206,596 249,148 296,974 - ------------------------------ (1) The Company operates on a 52/53 week fiscal year ending on the Sunday closest to January 31. For example, references to "fiscal 1993" mean the fiscal year ended January 30, 1994. Fiscal 1990 included 53 weeks; all other fiscal years set forth above included 52 weeks. (2) On a pro forma basis to reflect the consummation of the Leewards Acquisition. See "Pro Forma Combined Financial Information." Fiscal 1993 pro forma amounts do not reflect the acquisitions of Treasure House, Oregon Craft & Floral or H&H Craft & Floral by the Company in February and April 1994 as such acquisitions were not material in the aggregate. (3) Before extraordinary item of $3.8 million, or $0.31 per common and common equivalent share, relating to the redemption premium paid for the early retirement of the Company's 12.75% Senior Subordinated Notes, which had an effective interest rate of 15.8%, and the accelerated amortization of related debt issuance costs. (4) Includes Leewards stores and Michaels stores open at period end net of 20 Leewards stores anticipated to be closed. (5) Calculated for stores open the entire period and based on selling square footage. (6) The increase for fiscal 1990 was calculated on a comparable 52-week period. (7) Pro forma for the Leewards Acquisition. Assumes that the Leewards Acquisition is consummated and that the consideration payable to Leewards' stockholders consists of the issuance of 1,256,159 shares of Common Stock and cash of $7.8 million. (8) Pro forma for the Leewards Acquisition and as adjusted for the Common Stock Offering. Assumes that the Leewards Acquisition is consummated and that the consideration payable to Leewards' stockholders consists of the issuance of 1,256,159 shares of Common Stock and cash of $7.8 million.
6 RECENT DEVELOPMENTS RECENT ACQUISITIONS On May 10, 1994, the Company announced that it had signed a definitive merger agreement for the acquisition of Leewards, an Illinois-based arts and crafts retailer with approximately 100 stores located primarily in the midwestern and northeastern United States. It is expected that the Leewards Acquisition will close on or before July 8, 1994, prior to completion of the Common Stock Offering. Assuming the Leewards Acquisition closes prior to completion of the Common Stock Offering, and assuming a five day average closing price of the Common Stock price on The Nasdaq National Market of $33 7/8, the acquisition consideration will consist of approximately $7.8 million in cash and 1,256,159 shares of Common Stock. It is currently estimated that 500,000 of these shares will be sold by the Leewards stockholders to the public in this Common Stock Offering. Upon consummation of the Leewards Acquisition, Michaels will also repay the indebtedness under Leewards' bank credit facility and subordinated notes, expected to total approximately $50 million at closing. Substantially all of the conditions to the consummation of the Leewards Acquisition have been satisfied, including approval of Leewards' stockholders and termination of the waiting period under Hart-Scott-Rodino. Consummation of the acquisition is nevertheless subject to certain customary conditions to closing including there having occurred no material adverse changes in the condition (financial or otherwise), operations, assets or liabilities of Michaels or Leewards. The Leewards stockholders have agreed they will not engage in a public distribution of the shares of Common Stock they acquire in connection with the Leewards Acquisition for a period of 90 days from the date of this Prospectus. In the event that the Leewards Acquisition closes after the closing of the Common Stock Offering, the Leewards stockholders may receive cash in lieu of a portion of the shares of Common Stock issuable in the acquisition. See "Leewards Acquisition," "Pro Forma Combined Financial Information," "Selling Stockholders" and "Underwriting." In February 1994, the Company acquired Treasure House, a chain of nine arts and crafts stores operating primarily in the Seattle market, for 280,000 shares of Michaels Common Stock. In April 1994, the Company acquired the affiliated arts and crafts store chains of Oregon Craft & Floral, with eight stores located primarily in the Portland, Oregon area, and H&H Craft & Floral, with eight stores located in southern California, for a total of 455,000 shares of Michaels Common Stock. The Treasure House stores have been converted to the Michaels format and the Oregon Craft & Floral and the H&H Craft and Floral stores are being converted to the Michaels format with grand openings scheduled for July through August of this year. The Company believes that these acquisitions have significantly increased its presence in Oregon and Washington and further strengthened the Company's position in southern California. OPERATING RESULTS FOR FIRST QUARTER Michaels reported record first quarter earnings for the quarter ended May 1, 1994 of $5.0 million, or $0.28 per share, compared to $3.8 million, or $0.22 per share for the first quarter of fiscal 1993. The earnings increase can be attributed to a 41% increase in net sales to $159.8 million, including a 10% increase in comparable store sales, and a 52% increase in operating income to $9.1 million. Operating income as a percentage of net sales increased to 5.7% in the fiscal 1994 first quarter from 5.3% in the year earlier period. Earnings for the 1994 first quarter included one-time transaction costs, severance costs and duplicate pre-merger general and administrative costs associated with the acquisition of Treasure House during the quarter, which was accounted for as a pooling of interests and, accordingly, had its sales and earnings included in the Company's results as of the beginning of the quarter. Without these one-time costs totaling $0.02 per share, earnings per share would have been $0.30 for the quarter, an increase of 36% over the year earlier period. The Oregon Craft & Floral and H&H Craft and Floral acquisitions were purchase transactions that closed near the end of the quarter and thus had no significant effect on the Company's results for the quarter. ANTICIPATED STORE CLOSING AND CONVERSION COSTS Michaels expects to incur a pretax charge in the quarter in which the Leewards Acquisition is consummated. The charge will relate to the cost of closing approximately 5 to 10 existing Michaels store locations in connection with the integration of Leewards and reconfiguring the 80 continuing 7 Leewards stores to be more consistent with the merchandising strategy of Michaels. In accordance with generally accepted accounting principles, the cost of closing the Company's existing store locations will be expensed while the cost of closing the acquired Leewards store locations will be included as an adjustment to the purchase price of the acquisition. NEW CREDIT FACILITY In June 1994, Michaels entered into a new three-year, unsecured $150 million revolving credit facility to replace its existing $100 million revolving credit facility. THE COMPANY OVERVIEW Michaels is the nation's leading retailer of arts, crafts and decorative items. Michaels stores offer a wide selection of competitively priced items, including general crafts, wearable art, silk and dried flowers, picture framing materials and services, art and hobby supplies, and party, seasonal and holiday merchandise. Michaels' merchandising strategy is to provide a broad selection of products in an appealing store environment with superior customer service, including in-store "how-to" demonstrations, project samples displayed throughout the store and instructional classes for adults and children. The Company's primary customers are women aged 25 to 54 with above average median household incomes, and the Company believes that repeat customers account for a substantial portion of its sales. The average sale is approximately $13.75. Michaels currently operates 268 stores in 36 states and Canada. As a result of the Leewards Acquisition, the Company intends to add approximately 80 Leewards store locations. In addition, Michaels anticipates closing 5 to 10 overlapping Michaels stores. On a pro forma basis for the Leewards Acquisition, Michaels' sales for fiscal 1993 would have been approximately $780 million. See "Leewards Acquisition" and "Pro Forma Combined Financial Information." NEW STORE EXPANSION In addition to the Leewards stores and the 25 stores acquired earlier this year, Michaels currently anticipates opening approximately 55 new stores in the United States and Canada during fiscal 1994, of which 23 have been opened. At present, the Company intends to add 50 to 60 new stores during fiscal 1995 assuming consummation of the Leewards Acquisition; otherwise, fiscal 1995 store growth is expected to be between 80 and 100 new stores. Michaels' expansion strategy is to give priority to adding stores in existing markets or clustering stores in new markets in order to enhance economies of scale associated with advertising, distribution, field supervision and other regional expenses. Management believes that few of its existing markets are saturated, and that many attractive new markets are available to the Company for expansion. The anticipated development of Michaels stores in 1995 and the rate at which stores are developed thereafter will depend upon a number of factors, including the success of existing Michaels stores and the stores to be added pursuant to the Leewards Acquisition, the availability of suitable store sites, the availability of suitable acquisition candidates and the ability to hire and train qualified managers. The Company intends to continue to review acquisition opportunities in existing and new markets. The Company has no arrangements or understandings pending with respect to any acquisitions other than Leewards. In October 1993, the Company opened its first Michaels Craft and Floral Warehouse store ("CFW") using a newly-developed "warehouse superstore" format. It is anticipated that each store following the CFW format will occupy approximately 30,000 to 40,000 square feet of selling space, carry a wider selection of certain categories of merchandise than the typical store, and generally offer merchandise at "everyday" discounted retail prices. To achieve a lower cost structure than a typical Michaels store, the Company's CFW format is premised on reduced occupancy expenses per square foot and less extensive advertising programs. In addition, the CFW format utilizes new computer systems that provide full point-of-sale scanning and automated receiving of merchandise, and eliminates the retail price marking of individual products. The Company plans to open four or five additional CFW stores during 1994, of which three have been opened, and may accelerate the opening of such stores in the future if the format continues to be favorably received by consumers. 8 MERCHANDISING Michaels' merchandising strategy is to provide a broad selection of products in an appealing store environment with superior customer service. The commitment to customer service is evidenced through in-store "how-to" demonstrations, project samples displayed throughout each store, and instructional classes for adults and children. The typical Michaels store offers an assortment of over 30,000 SKUs. In general, each store offers products from ten departments. Nine of the departments offer essentially the same type of merchandise throughout the year, although the products may vary from season to season. The merchandise offered by these nine departments includes general craft materials, wearable art, silk and dried flowers, picture framing materials and services, fine art materials, hobby items, party items, needlecraft items and ribbon. In addition to these nine departments, the Company regularly features seasonal merchandise. Seasonal merchandise is ordered for several holidays, including Valentine's Day, Easter, Mother's Day, Halloween and Thanksgiving, in addition to the Christmas season. For example, seasonal merchandise for the Christmas season includes trees, wreaths, candles, lights and ornaments. Included in seasonal merchandise is promotional merchandise that is offered with the intention of generating customer traffic. The following table shows sales by the largest departments as a percentage of total sales for fiscal 1992 and 1993:
PERCENTAGE OF SALES -------------------- DEPARTMENT 1992 1993 - ------------------------------------------------------------------------------------ --------- --------- General craft materials and wearable art............................................ 22% 21% Silk and dried flowers and plants................................................... 18 21 Picture framing..................................................................... 14 15 Seasonal and promotional items...................................................... 15 14 Fine art materials.................................................................. 11 11 Hobby, party, needlecraft and ribbon................................................ 20 18 --- --- Total............................................................................. 100% 100% --- --- --- ---
CUSTOMER SERVICE Michaels believes that customer service is critically important to its merchandising strategy. Many of the craft supplies sold in Michaels stores can be assembled into unique end-products with an appropriate amount of guidance and direction. Michaels has hundreds of displays in every store in an effort to stimulate new project ideas, and supplies project sheets with detailed instructions on how to assemble the products. In addition, many sales associates are craft enthusiasts with the experience to help customers with ideas and instructions. The Company also offers free demonstrations and inexpensive classes in stores as a means of promoting new craft ideas. Michaels believes that the in-store "how-to" demonstrations, instructional classes, knowledgeable sales associates, and customer focus groups have allowed the Company to better understand and serve its customers. In addition, the Company measures its customer service in each store at least four times a year through a "mystery shopper" program. ADVERTISING The Company believes that its advertising promotes craft and hobby project ideas among its customers. Traditionally, the Company has focused on circular and newspaper advertising. The Company has found full-color circular advertising, primarily as an insert to newspapers but also through direct mail or on display within its stores, to be the most effective medium of advertising. Such circulars advertise numerous products in order to emphasize the wide selection of products available at Michaels stores. The Company believes that advertising efficiencies associated with the clustering of its stores in its markets together with its ability to advertise through circulars and newspapers approximately once a week in each of its markets provides the Company with an advantage over its smaller competitors. 9 The Company has generally limited television advertising to network television in those major markets in which it had clusters of stores or in which it was adding new stores. Beginning with the 1994 fall/Christmas season, the Company expects to implement a marketing program coordinating national cable television, including The Discovery Channel-TM-, Lifetime Television, and USA Network-R-, and circular advertisements together with project booklets, in-store demonstrations, and new point-of-sale techniques. More than one-half of the $4.5 million cost of this new marketing program will be underwritten by Michaels' vendors. Michaels intends to allocate a portion of its network television budget to this program. STORE OPERATIONS The Company's 268 stores (before the Leewards Acquisition) average approximately 15,500 square feet of selling space, although newer stores average approximately 17,000 square feet of selling space. Net sales for fiscal 1993 averaged approximately $3.2 million per store (for stores open the entire fiscal year) and $218 per square foot of selling space. Store sites are selected based upon meeting certain economic, demographic and traffic criteria and upon the Company's strategy of clustering stores in markets where certain operating efficiencies can be achieved. The Michaels stores currently in operation are located primarily in strip shopping centers in areas with easy access and ample parking. Michaels has developed a standardized procedure which enables the Company to efficiently open new stores and integrate them into its information and distribution systems. The Company develops the floor plan and inventory layout, and organizes the advertising and promotions in connection with the opening of each new store. In addition, Michaels maintains an experienced store opening staff to provide new store personnel with in-store training. Michaels generally opens new stores during the period from February through October because new store personnel require significant in-store training prior to the first Christmas selling season for each such store. Costs for opening stores at particular locations depend upon the type of building and general cost levels in the area. In fiscal 1993, the average net cost to the Company of opening a new store was approximately $535,000 per store, which included leasehold improvements, furniture, fixtures and equipment, and pre-opening expenses. The Company used more existing real estate, versus build-to-suit locations, in fiscal 1993 resulting in an average cost of opening a new store that was $160,000 higher than historical levels due to the increased level of leasehold improvements. This increase was offset, in part, by lower rent rates. The initial inventory investment associated with each new store in fiscal 1993 was approximately $320,000 to $740,000 depending on the time of year in which the store was opened. The initial inventory investment in new stores is offset, in part, by extended vendor terms and allowances. The cost for new store openings, excluding initial inventory investments, in fiscal 1993 was approximately $29 million and the cost for new store openings in fiscal 1994 is estimated to be approximately $30 million. PURCHASING AND DISTRIBUTION The Company's purchasing strategy is to negotiate directly with its vendors in order to take advantage of volume purchasing discounts and improve control over product mix and inventory. For certain substantial product lines, the Company negotiates directly with a number of major manufacturers to shorten the distribution chain. Although this requires an increased inventory investment in the warehouse, it results in substantial savings and allows the Company to develop products specifically formulated to Michaels' design and quality standards. Approximately 90% of the merchandise is acquired from vendors on the Company's "approved list." Of this merchandise, approximately one-half is received by the stores from the Company's distribution centers and one-half is received directly from vendors. In addition, each store has the flexibility to purchase approximately 10% of its merchandise directly from local vendors, which allows the store managers to tailor the products offered in their stores to local tastes and trends. All store purchases are monitored by district and regional managers. The Company currently operates three distribution centers which supply the stores with certain merchandise, including substantially all seasonal and promotional items. The Company's distribution centers are located in Irving, Texas, Buena Park, California, and Lexington, Kentucky. The Company 10 also operates a bulk warehouse in Phoenix, Arizona, which allows the Company to store bulk purchases of seasonal and promotional merchandise prior to distribution. Michaels stores receive deliveries from the distribution centers generally once a week. In fiscal 1993, over 85% of the products sold in Michaels stores were purchased from manufacturers or distributors located in the United States and the remainder from manufacturers or distributors located in the Far East and Mexico. Goods manufactured in the Far East generally require long lead times and are ordered four to six months in advance of delivery. Such products are either imported directly by the Company or acquired from distributors based in the United States. In all cases, purchases are denominated in U.S. dollars (or Canadian dollars for purchases of certain items delivered directly to stores in Canada). INVENTORY CONTROL/MANAGEMENT INFORMATION SYSTEMS Michaels' management information systems include automated point-of-sale, merchandising, distribution and financial applications. All orders from the stores to the Company's distribution centers are processed electronically to ensure timely delivery of distribution center sourced inventory. The Company's point-of-sale system captures sales information by department. Due to the large number of inexpensive items in the stores, the non-fashion nature of the merchandise, and the long lead times involved for ordering seasonal goods (up to nine months), the Company does not currently capture item-level sales information, inventory or margin electronically in all stores. Sales trend tracking combines item level point-of-sale scanning data from the CFW stores with point-of-sale department-level sales from all other stores, weekly test counts of certain SKUs in 40 selected stores, and regular communication from store managers through the district and regional managers. Inventory and margins are monitored on a perpetual basis in the distribution centers and in the stores via physical inventories at least quarterly in groups of 30 to 40 stores and a year-end complete physical count in most stores. The Company believes that these procedures and automated systems, together with its other control processes, allow Michaels to effectively manage and monitor its inventory levels and margin performance. COMPETITION Michaels is the largest nationwide retailer dedicated to serving the arts and crafts marketplace. The specialty arts, crafts and decorative item retail business is highly competitive. Michaels competes primarily with regional and local merchants that tend to specialize in particular aspects of arts and crafts, other nationwide retailers of craft items and related merchandise, and mass merchandisers that typically dedicate a portion of their selling space to a limited selection of arts, crafts, picture framing and seasonal products. The Company believes that its stores compete based on price, quality and variety of merchandise assortment, and customer service, such as instructional demonstrations. Michaels believes the combination of its broad selection of products, emphasis on customer service, loyal customer base, and capacity to advertise frequently in all of its markets provides the Company with a competitive advantage. LEEWARDS ACQUISITION PROPOSED ACQUISITION On May 10, 1994 the Company announced that it had signed a definitive merger agreement for the acquisition of Leewards, an Illinois-based arts and crafts retailer with approximately 100 stores located primarily in the midwestern and northeastern United States. The Leewards stores, which average approximately 14,000 square feet of selling space, are similar in both size and type of location to the average Michaels store. The Company believes that the Leewards Acquisition provides it with an opportunity to accelerate its nationwide expansion strategy in the fragmented arts and crafts retailing industry. The Leewards Acquisition will establish Michaels' presence in a number of new markets, particularly in the northeastern United States, including Pennsylvania, Massachusetts, and New Jersey, and significantly expand its presence in several existing markets, including northern California, Illinois, Florida, Michigan, Missouri, Minnesota and New York. Following the Leewards Acquisition, Michaels expects to close approximately 20 Leewards stores and approximately 5 to 10 Michaels stores due to overlapping locations. 11 In connection with the Leewards Acquisition, Michaels has designed a plan that is intended to increase the sales and profitability of the Leewards stores. The plan includes reconfiguring the layout and staffing of the acquired stores and increasing the average inventory level at the Leewards stores to be more consistent with Michaels' fundamental merchandising strategy of providing a broad selection of products through separate in-store departments with a commitment to superior customer service. The Company believes that the Leewards stores will also benefit from the addition of art supplies and party goods departments, the strengthening of its custom floral and custom framing services, extensive in-store promotional activities and the implementation of Michaels' targeted advertising strategies. In addition, Michaels expects the Leewards stores to benefit from Michaels' centralized purchasing and nationwide distribution network. Michaels also believes that it will realize cost savings through the elimination of duplicate corporate overhead in connection with the acquisition, and that it will benefit from increased purchasing power with its suppliers. For the fiscal year ended January 1994, the average sales of the Leewards stores open for the full fiscal year were $2.1 million compared to the average sales for Michaels stores open for the full year during the same period of $3.2 million. The average profitability per Leewards store has also historically trailed the average profitability of Michaels stores. However, Michaels believes that the Leewards Acquisition provides the Company with many attractive retail store locations, and that Michaels' plan to convert the Leewards stores to the Michaels format and to implement Michaels' merchandising strategies will result in increased sales and profitability in the acquired stores. Michaels' objective for fiscal 1994 with respect to the continuing Leewards stores is to increase average sales per store and to increase operating margins to a level achieved by Michaels stores during their first full fiscal year of operation. If these objectives, together with the cost savings described in the preceding paragraph, are achieved in fiscal 1994 and maintained in fiscal 1995, the Company believes the consummation of both the Leewards Acquisition and the Common Stock Offering at a per share price of $33 7/8 would not have a dilutive impact on the per share earnings in fiscal 1994 or fiscal 1995. Although management currently believes these results can be achieved, no assurance can be given that sales volumes or operating margins at the continuing Leewards store locations will be improved or that the cost savings will be realized. The merger agreement provides for an aggregate merger consideration not to exceed 1,550,000 shares of Michaels Common Stock. The aggregate consideration is (i) subject to certain downward adjustments and (ii) payable, in part, in cash in lieu of shares with respect to certain shares of preferred stock and the net value of outstanding options to purchase Leewards common stock. It is expected that the Leewards Acquisition will close on or before July 8, 1994, prior to completion of the Common Stock Offering. Assuming the Leewards Acquisition closes prior to completion of the Common Stock Offering, and assuming a five day average closing price of the Common Stock on The Nasdaq National Market of $33 7/8, the acquisition consideration will consist of approximately $7.8 million in cash and 1,256,159 shares of Common Stock. It is currently estimated that 500,000 of these shares will be sold by the Leewards stockholders to the public in this Common Stock Offering. The merger consideration exceeds the net tangible assets of Leewards by approximately $60 million. The Company believes that the economic benefits expected to be derived from the Leewards Acquisition, including gain in market share and immediate presence in new markets, supports the payment of such consideration. Upon consummation of the Leewards Acquisition, Michaels will also repay the indebtedness under Leewards' bank credit facility and subordinated notes, expected to total approximately $50 million at closing. Substantially all of the conditions to the consummation of the Leewards Acquisition have been satisfied, including approval of Leewards' stockholders and termination of the waiting period under Hart-Scott-Rodino. Consummation of the acquisition is nonetheless subject to certain customary conditions to closing including there having occurred no material adverse changes in the condition (financial or otherwise), operations, assets or liabilities of Michaels or Leewards. See "Pro Forma Combined Financial Information." In the event that the Leewards Acquisition closes after the closing of the Common Stock Offering, the Leewards stockholders would not include any Common Stock in this Common Stock Offering. In such case, the Leewards stockholders may receive cash in lieu of a portion of the shares of Common Stock issuable in the Leewards Acquisition. The merger agreement provides that if the net proceeds 12 per share in the Common Stock Offering equal or exceed $39.00, the total number of shares issued in connection with the Leewards Acquisition will be reduced by 25% of the number of shares offered by the Company in the Common Stock Offering (excluding the over-allotment option), but not to exceed 500,000 shares of Michaels Common Stock (the "Reduced Share Amount"). In lieu thereof, cash equal to the net proceeds per share received in the Common Stock Offering times the Reduced Share Amount will be paid to the Leewards stockholders. If the Leewards Acquisition does not close prior to closing of the Common Stock Offering, the Company may increase the number of shares of Common Stock offered by it in the Common Stock Offering by up to an additional 500,000 shares in order to provide additional proceeds to fund this cash payment if required. If the Company determines not to increase the number of shares of Common Stock issued by it in the Common Stock Offering, any such required cash payment to the Leewards stockholders will be funded by proceeds of the offering not being utilized for other purposes and, if required, from other sources of capital available to the Company. INTEGRATION OF LEEWARDS The Company has designed a ten-week transition plan to reconfigure the Leewards stores to be more consistent with the merchandising strategy of Michaels. In order to minimize disruption to the Company's business, this plan will be implemented by the Leewards field organization under the supervision of Michaels' management using detailed plans developed by Michaels. Key aspects of this plan include: - Revising and enhancing the product mix to correlate to Michaels' merchandising strategy; - Converting merchandise ordering and management information systems; - Eliminating redundant overhead; - Retraining employees to provide the level of customer service found in Michaels stores and to improve operational efficiencies; and - Closing approximately 20 Leewards and approximately 5 to 10 Michaels store locations to eliminate overlapping stores. The continuing 80 Leewards stores will be converted to the Michaels store format beginning with a four-week phase to eliminate incompatible merchandise. The second phase will involve the arrival of new merchandise and the reformatting of the stores to the Michaels prototype. This will be accomplished department by department, with the stores remaining open for business throughout the process. The reformatting of the Leewards stores will include the addition of art supplies and party goods departments, the strengthening of the custom floral and custom framing services and the expansion of other departmental assortments to correlate with Michaels' standard store format. Michaels' merchandise ordering systems will be installed during this time and other in-store systems will be converted to Michaels' systems. Upon completion of the store conversion plan, Leewards' distribution facilities will be closed as Michaels' existing distribution facilities have adequate capacity to service the remaining Leewards stores. The Company believes that the cost to implement the integration of the Leewards stores, including the cost of the physical conversion of the stores, retraining employees, converting merchandise ordering and management information systems, and providing new inventory will be approximately $33 million to $35 million. In addition, the Company expects that it will incur costs of approximately $13 million to $24 million in connection with lease termination and store closing costs, severance payments, and closing of Leewards' corporate office and distribution center. The Company anticipates completing the plan prior to the busy fall/Christmas selling season. During the last year, the Company increased its upper level management capabilities by adding a Vice President -- Store Operations, Vice President -- Store Development and Corporate Operations, Vice President -- Information Systems and Vice President -- Real Estate. In addition, the Company expects to retain a number of the field managers from the Leewards organization to supplement the Company's existing field management. During the conversion process, the Leewards field organization will be strengthened by an increase in district and regional management to provide close supervision. The Company believes that these additions to its management structure, together with the additional Michaels field management that has been trained to implement the Company's 1994 13 growth plan, will provide Michaels with sufficient management capabilities to absorb the 80 Leewards stores in addition to the approximately 55 new stores to be opened and 25 stores already acquired by Michaels during 1994. The Company believes this process will permit the conversion of the Leewards stores without disruption of the existing Michaels field management or operations during the busy fall/Christmas selling season. After the conversion and integration of the Leewards stores is complete, the entire Michaels field organization will be reorganized with permanent assignments based on the combined entities. Although the Company has not previously completed an acquisition of similar size to the Leewards Acquisition, the Company believes that its substantial experience in opening new stores and recent experience in incorporating acquired stores into the Michaels format and systems will facilitate the integration of the Leewards stores into the Company's existing structure. USE OF PROCEEDS The net proceeds to the Company from the Common Stock Offering are estimated to be approximately $47.8 million ($57.5 million assuming the over-allotment option is exercised in full), assuming a public offering price of $33 7/8 per share and after deducting the estimated underwriting discounts and commissions and offering expenses. Assuming the Leewards Acquisition closes prior to the Common Stock Offering, the Company intends to use all of the net proceeds to reduce bank debt. The Company's outstanding revolving bank debt at May 1, 1994 was approximately $56 million with a current interest rate of 5.6%. The bank debt is expected to increase by approximately $62 million prior to the closing of the Common Stock Offering as a result of borrowings to fund cash required in connection with the Leewards Acquisition. The Company's new bank debt agreement expires in June 1997. See "Recent Developments -- New Credit Facility" and "Leewards Acquisition." If the Leewards Acquisition does not close prior to the completion of the Common Stock Offering, the Company intends to use the net proceeds for the payment of Leewards' outstanding indebtedness. The additional funds necessary to pay Leewards' outstanding indebtedness in its entirety will be either drawn from the Company's credit facility or obtained from working capital. See "Recent Developments -- Recent Acquisitions" and "Leewards Acquisition." Leewards' outstanding indebtedness at the time of closing of the acquisition is expected to consist of (i) an estimated $32 million under Leewards' existing credit facility due August 19, 1994 with a current interest rate of 8.5% and (ii) approximately $18 million (including a prepayment penalty) under Leewards' outstanding 13.5% Senior Subordinated Notes due 2000. In addition, if the Leewards Acquisition does not close prior to the completion of the Common Stock Offering, the Company may increase the number of shares of Common Stock sold by the Company in this Common Stock Offering by up to 500,000 shares, to a total of up to 2,000,000 shares. If an additional 500,000 shares are sold, the additional net proceeds to the Company would be $16.2 million after deducting the related estimated underwriting discounts and commissions and offering expenses. If the net proceeds per share from the Common Stock Offering equal or exceed $39.00, substantially all of the net proceeds from the sale of the additional shares will be used to fund a cash payment to the Leewards stockholders in lieu of the Reduced Share Amount. See "Leewards Acquisition." If the additional shares are sold and the net proceeds per share from the Common Stock Offering are less than $39.00, the net proceeds from the sale of the additional shares will be used to fund planned new store expansion, working capital requirements and future acquisition opportunities and for other general corporate purposes. If the Leewards Acquisition is not consummated, all proceeds from the Common Stock Offering will be used to reduce existing bank debt, fund planned new store expansion, working capital requirements and future acquisition opportunities and for other general corporate purposes. Pending the use of such proceeds for the above purposes, the net proceeds initially will be invested in short-term interest bearing securities or mutual funds which invest in such securities. The Company's practice in the past has been to place its cash balances in a broad range of investment and non- investment grade securities including equity securities and financial instruments of various maturities. If attractive opportunities present themselves, the Company may continue this investment practice in the future. The Company will not receive any of the proceeds from the sale of shares of Common Stock by the Selling Stockholders. 14 CAPITALIZATION The following table sets forth (i) the capitalization of the Company as of May 1, 1994, (ii) the capitalization on a pro forma basis for the Leewards Acquisition, and (iii) the capitalization on a pro forma basis for the Leewards Acquisition and as adjusted for the issuance of the shares of Common Stock being offered hereby, assuming consideration payable to Leewards' stockholders of 1,256,159 shares of Common Stock and $7.8 million in cash. See "Leewards Acquisition" and "Use of Proceeds."
MAY 1, 1994 ------------------------------------------- PRO FORMA AS ADJUSTED ACTUAL PRO FORMA (1) (1)(2) -------- --------------- --------------- (IN THOUSANDS) Short-term bank debt (3).............................................................. $ 56,000 $ 98,914 $ 51,088 -------- --------------- --------------- -------- --------------- --------------- Convertible subordinated notes........................................................ $ 97,750 $ 97,750 $ 97,750 Shareholders' equity: Common stock, $0.10 par value, 50,000,000 shares authorized, 17,462,331 shares issued and outstanding, 18,718,490 shares issued and outstanding pro forma and 20,218,490 shares issued and outstanding pro forma as adjusted..................... 1,746 1,872 2,022 Additional paid-in capital.......................................................... 126,126 168,552 216,228 Retained earnings................................................................... 78,724 78,724 78,724 -------- --------------- --------------- Total shareholders' equity.......................................................... 206,596 249,148 296,974 -------- --------------- --------------- Total capitalization.................................................................. $304,346 $346,898 $394,724 -------- --------------- --------------- -------- --------------- --------------- - ------------------------ (1) On a pro forma basis to reflect the consummation of the Leewards Acquisition and the repayment of approximately $36 million of Leewards' indebtedness as of May 1, 1994. (2) On a pro forma basis to reflect the receipt by the Company of approximately $48 million in net proceeds from the Common Stock offered hereby at an assumed offering price of $33 7/8 after deducting the estimated underwriting discounts and commissions and offering expenses. (3) Subsequent to May 1, 1994, the Company sold a portion of its marketable and other securities and used the proceeds to retire short-term bank debt. As of June 24, 1994, short-term bank debt was approximately $53.8 million.
15 PRICE RANGE OF COMMON STOCK AND DIVIDENDS The Common Stock of Michaels is quoted through The Nasdaq National Market under the symbol "MIKE." The following table sets forth, for the periods indicated, the high and low sales prices per share of the Common Stock, as reported by The Nasdaq National Market through June 24, 1994.
HIGH LOW ------- ------- FISCAL YEAR ENDED JANUARY 31, 1993: First Quarter.................................................................. $26 $19 Second Quarter................................................................. 23 1/2 16 1/2 Third Quarter.................................................................. 29 3/4 20 1/2 Fourth Quarter................................................................. 34 3/4 24 5/8 FISCAL YEAR ENDED JANUARY 30, 1994: First Quarter.................................................................. $34 $26 1/4 Second Quarter................................................................. 33 25 1/4 Third Quarter.................................................................. 39 26 3/8 Fourth Quarter................................................................. 36 1/2 31 7/8 FISCAL YEAR ENDED JANUARY 29, 1995: First Quarter.................................................................. $44 3/4 $31 Second Quarter (through June 24, 1994)......................................... 46 1/2 33 1/2
On June 24, 1994, the reported last sale price of the Common Stock as reported by The Nasdaq National Market was $33 7/8 per share. Michaels has never paid dividends on its Common Stock. The Company's current policy is to retain earnings for use in the Company's business and the financing of its growth. However, such policy is subject to the discretion of the Board of Directors. The Company's credit facility contains certain restrictions on the Company's ability to pay dividends. 16 SELECTED FINANCIAL AND STORE DATA The selected financial data presented below are derived from the financial statements of the Company for the five fiscal years ended January 30, 1994 which were audited by Ernst & Young, independent auditors, and from unaudited financial statements for the quarters ended May 2, 1993 and May 1, 1994, respectively. The data should be read in conjunction with the financial statements and the related notes incorporated by reference in this Prospectus. The Company believes that all adjustments, consisting only of normal recurring accruals, necessary for a fair presentation thereof have been made to the unaudited financial data. The results for the quarter ended May 1, 1994 are not necessarily indicative of the results of the full year. Certain amounts in prior years have been reclassified to conform with the presentation for the current year. The following unaudited pro forma statement of income data have been prepared as if the Leewards Acquisition occurred at the beginning of fiscal 1993. The following unaudited pro forma combined balance sheet data have been prepared as if the Leewards Acquisition occurred on May 1, 1994. The unaudited pro forma financial data do not purport to represent the financial position or results of operations which would have occurred had such transaction been consummated on the dates indicated or the Company's financial position or results of operations for any future date or period. These unaudited pro forma financial data should be read in conjunction with the historical financial statements of the Company and Leewards.
FISCAL YEAR (1) QUARTER ENDED ---------------------------------------------------------- ---------------------------- 1993 MAY 1, 1994 ------------------ ------------------ PRO MAY 2, PRO 1989 1990 1991 1992 ACTUAL FORMA(2) 1993 ACTUAL FORMA(2) -------- -------- -------- -------- -------- -------- -------- -------- -------- (IN THOUSANDS, EXCEPT STORE DATA AND PER SHARE AMOUNTS) STATEMENT OF INCOME DATA: Net sales.......................... $289,754 $362,028 $410,899 $493,159 $619,688 $780,302 $112,961 $159,798 $199,305 Cost of sales and occupancy expense........................... 195,864 246,656 274,375 323,577 403,869 511,067 73,279 103,511 130,987 Selling, general and administrative expense........................... 78,990 94,678 110,881 135,319 174,463 224,902 33,720 47,216 58,736 -------- -------- -------- -------- -------- -------- -------- -------- -------- Operating income................... 14,900 20,694 25,643 34,263 41,356 44,333 5,962 9,071 9,582 Interest expense................... 9,896 9,739 6,971 263 6,378 8,042 1,522 2,026 2,535 Other (income) and expense, net.... 4,444 1,213 913 538 (7,666) (7,031) (1,735) (1,031) (986) -------- -------- -------- -------- -------- -------- -------- -------- -------- Income before income taxes and extraordinary item................ 560 9,742 17,759 33,462 42,644 43,322 6,175 8,076 8,033 Provision for income taxes......... 547 3,887 7,020 13,084 16,357 17,227 2,377 3,109 3,222 -------- -------- -------- -------- -------- -------- -------- -------- -------- Income before extraordinary item... 13 5,855 10,739 20,378 26,287 26,095 3,798 4,967 4,811 Extraordinary item(3).............. -- -- 3,843 -- -- -- -- -- -- -------- -------- -------- -------- -------- -------- -------- -------- -------- Net income......................... $ 13 $ 5,855 $ 6,896 $ 20,378 $ 26,287 $ 26,095 $ 3,798 $ 4,967 $ 4,811 -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- Earnings per common share assuming full dilution..................... $ 0.00 $ 0.57 $ 0.87(4) $ 1.21 $ 1.52 $ 1.41 $ 0.22 $ 0.28 $ 0.25 Weighted average shares outstanding assuming full dilution............ 10,645 10,229 12,411 16,853 19,809 21,065 17,131 17,856 19,112 STORE DATA: Stores open at period end.......... 122 137 140 168 220 299(5) 180 259 338(5) Average sales per square foot(6)... $ 193 $ 206 $ 213 $ 226 $ 218 $ 206 $ 45 $ 44 $ 43 Comparable store sales increase(7)....................... 6% 9% 9% 7% 3% 3% 2% 10% 8% BALANCE SHEET DATA (AT END OF PERIOD): Working capital.................... $ 58,680 $ 44,080 $ 74,786 $104,462 $181,816 $ -- $103,134 $169,726 $137,082 Total assets....................... 150,817 144,238 180,913 322,099 397,830 -- 321,868 463,119 603,525 Total long-term debt............... 73,168 52,983 -- 97,750 97,750 -- 97,750 97,750 97,750 Shareholders' equity............... 40,377 46,615 126,299 155,277 185,415 -- 159,075 206,596 249,148 - ------------------------------ (1) The Company operates on a 52/53 week fiscal year ending on the Sunday closest to January 31. For example, references to "fiscal 1993" mean the fiscal year ended January 30, 1994. Fiscal 1990 included 53 weeks; all other fiscal years set forth above included 52 weeks. (2) On a pro forma basis to reflect the consummation of the Leewards Acquisition. See "Pro Forma Combined Financial Information." Fiscal 1993 pro forma amounts do not reflect the acquisitions of Treasure House, Oregon Craft & Floral or H&H Craft & Floral by the Company in February and April 1994 as such acquisitions were not material in the aggregate. (3) Extraordinary item relates to the redemption premium paid for the early retirement of the Company's 12.75% Senior Subordinated Notes, which had an effective interest rate of 15.8%, and the accelerated amortization of related debt issuance costs. (4) Before extraordinary item of $3.8 million, or $0.31 per common and common equivalent share, relating to the redemption premium paid for the early retirement of the Company's 12.75% Senior Subordinated Notes, which had an effective interest rate of 15.8%, and the accelerated amortization of related debt issuance costs. (5) Includes Michaels and Leewards stores open at period end net of 20 Leewards stores anticipated to be closed. (6) Calculated for stores open the entire period and based on selling square footage. (7) The increase for fiscal 1990 was calculated on a comparable 52-week period.
17 PRO FORMA COMBINED FINANCIAL INFORMATION The accompanying unaudited pro forma combined statements of income of the Company for the year ended January 30, 1994 and the quarter ended May 1, 1994 have been prepared as if the Leewards Acquisition, which will be accounted for by the purchase method of accounting, occurred on February 1, 1993, the beginning of fiscal year 1993. The accompanying unaudited pro forma combined balance sheet of the Company as of May 1, 1994 has been prepared as if the Leewards Acquisition occurred on that date. The historical financial information of the Company and Leewards has been derived from the respective historical financial statements incorporated by reference or included herein. Certain amounts in the statements of operations of Leewards for fiscal year 1993 and the quarter ended May 1, 1994 included in the pro forma combined statements of income have been reclassified to conform to the method of presentation used by Michaels. The pro forma adjustments are preliminary and are based upon available information and assumptions that management of the Company believes are reasonable. The unaudited pro forma combined financial statements do not purport to represent the financial position or results of operations which would have occurred had such transactions been consummated on the dates indicated or the Company's financial position or results of operations for any future date or period. These unaudited pro forma financial statements should be read in conjunction with the historical financial statements of the Company and Leewards. The pro forma combined financial statements do not include the financial statements of 1) Treasure House, which was acquired by the Company in February 1994 and will be accounted for using the pooling-of-interests method of accounting, or 2) Oregon Craft & Floral and H&H Craft & Floral, which were acquired as of May 1, 1994 and will be accounted for using the purchase method of accounting, since the acquisitions are not considered material, individually or in the aggregate, to the operating results or financial position of the Company. Sales of Treasure House were approximately $15.6 million and $3.8 million for the year ended January 30, 1994 and the quarter ended May 1, 1994, respectively. Combined sales of Oregon Craft & Floral and H&H Craft & Floral for the same periods were approximately $41.8 million and $7.4 million, respectively. 18 PRO FORMA COMBINED STATEMENT OF INCOME FOR THE YEAR ENDED JANUARY 30, 1994 (UNAUDITED)
PRO PRO FORMA FORMA MICHAELS LEEWARDS ADJUSTMENTS TOTAL -------- -------- ------------ -------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Net sales....................................................................... $619,688 $191,136 $(30,522)(A) $780,302 Cost of sales and occupancy expense............................................. 403,869 130,638 (21,537)(A) 511,067 (1,903)(B) Selling, general and administrative expense..................................... 174,463 57,000 (8,515)(A) 224,902 443(C) 1,511(D) -------- -------- ------------ -------- Operating income................................................................ 41,356 3,498 (521) 44,333 Interest expense................................................................ 6,378 3,439 (1,775)(E) 8,042 Other (income) and expense, net................................................. (7,666) 635 (7,031) -------- -------- ------------ -------- Income before income taxes...................................................... 42,644 (576) 1,254 43,322 Provision for income taxes...................................................... 16,357 (236) 1,106(F) 17,227 -------- -------- ------------ -------- Net income before non-recurring charge (J)...................................... $ 26,287 $ (340) $ 148 $ 26,095 -------- -------- ------------ -------- -------- -------- ------------ -------- Earnings per common and common equivalent share................................. $ 1.53 $ 1.41 Earnings per common share -- assuming full dilution............................. $ 1.52 $ 1.41 Weighted average common and common equivalent shares............................ 17,231 1,256 18,487 Weighted average shares assuming full dilution.................................. 19,809 1,256 21,065
See accompanying Notes to Pro Forma Combined Financial Statements. 19 PRO FORMA COMBINED STATEMENT OF INCOME FOR THE QUARTER ENDED MAY 1, 1994 (UNAUDITED)
PRO PRO FORMA FORMA MICHAELS LEEWARDS ADJUSTMENTS TOTAL -------- -------- ------------ -------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Net sales....................................................................... $159,798 $ 46,507 $ (7,000)(A) $199,305 Cost of sales and occupancy expense............................................. 103,511 33,207 (5,112)(A) 130,987 (619)(B) Selling, general and administrative expense..................................... 47,216 14,332 (1,856)(A) 58,736 (1,334)(C) 378(D) -------- -------- ------------ -------- Operating income................................................................ 9,071 (1,032) 1,543 9,582 Interest expense................................................................ 2,026 994 (485)(E) 2,535 Other (income) and expense, net................................................. (1,031) 45 (986) -------- -------- ------------ -------- Income before income taxes...................................................... 8,076 (2,071) 2,028 8,033 Provision for income taxes...................................................... 3,109 (849) 962(F) 3,222 -------- -------- ------------ -------- Net income before non-recurring charge (J)...................................... $ 4,967 $ (1,222) $ 1,066 $ 4,811 -------- -------- ------------ -------- -------- -------- ------------ -------- Earnings per common and common equivalent share................................. $ 0.28 $ 0.25 Earnings per common share -- assuming full dilution............................. $ 0.28 $ 0.25 Weighted average common and common equivalent shares............................ 17,785 1,256 19,041 Weighted average shares assuming full dilution.................................. 17,856 1,256 19,112
See accompanying Notes to Pro Forma Combined Financial Statements. 20 PRO FORMA COMBINED BALANCE SHEET INFORMATION MAY 1, 1994 (UNAUDITED) ASSETS
PRO PRO FORMA FORMA MICHAELS LEEWARDS ADJUSTMENTS TOTAL -------- -------- ------------ -------- (IN THOUSANDS) Current assets: Cash and equivalents.............................................................. $ 2,867 $ 3,217 $ -- $ 6,084 Marketable and other securities................................................... 67,734 -- -- 67,734 Merchandise inventories........................................................... 230,406 48,833 (6,770)(H) 272,469 Deferred income taxes............................................................. -- 523 (523)(H) 15,356 15,356(H) Prepaid expenses and other........................................................ 21,971 5,785 (1,211)(H) 26,545 -------- -------- ------------ -------- Total current assets............................................................ 322,978 58,358 6,852 388,188 -------- -------- ------------ -------- Property and equipment, net......................................................... 87,840 18,454 (3,757)(H) 102,537 Costs in excess of net assets of acquired operations, net........................... 43,954 -- 60,448(H) 104,402 Other assets........................................................................ 8,347 6,387 (6,336)(H) 8,398 -------- -------- ------------ -------- $463,119 $ 83,199 $ 57,207 $603,525 -------- -------- ------------ -------- -------- -------- ------------ -------- LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable.................................................................. $ 47,741 $ 9,551 $ -- $ 57,292 Short-term bank debt.............................................................. 56,000 18,118 7,835(G) 98,914 16,961(I) Subordinated debentures........................................................... -- 16,961 (16,961)(I) -- Income taxes payable.............................................................. 4,252 -- 1,309(H) 5,561 Accrued liabilities and other..................................................... 45,259 14,572 3,976(G) 89,339 25,532(H) -------- -------- ------------ -------- Total current liabilities....................................................... 153,252 59,202 38,652 251,106 -------- -------- ------------ -------- Convertible subordinated notes...................................................... 97,750 -- -- 97,750 Deferred income taxes and other..................................................... 5,521 2,852 (2,852)(H) 5,521 -------- -------- ------------ -------- Total long-term liabilities..................................................... 103,271 2,852 (2,852) 103,271 -------- -------- ------------ -------- Redeemable preferred stock.......................................................... -- 29,845 (29,845)(H) -- Shareholders' equity: Common stock...................................................................... 1,746 2 (2)(H) 1,872 126(G) Additional paid-in capital........................................................ 126,126 733 (733)(H) 168,552 42,426(G) Retained earnings................................................................. 78,724 (9,435) 9,435(H) 78,724 -------- -------- ------------ -------- Total shareholders' equity...................................................... 206,596 (8,700) 51,252 249,148 -------- -------- ------------ -------- $463,119 $ 83,199 $ 57,207 $603,525 -------- -------- ------------ -------- -------- -------- ------------ --------
See accompanying Notes to Pro Forma Combined Financial Statements. 21 NOTES TO PRO FORMA COMBINED FINANCIAL STATEMENTS (UNAUDITED) Adjustments to the pro forma combined statement of income to reflect the consummation of the Leewards Acquisition as of February 1, 1993 are as follows: (A) To eliminate revenues and related operating expenses of 20 overlapping Leewards stores to be closed subsequent to the consummation of the Leewards Acquisition. Revenues are expected to increase in nearby Michaels stores; however, the anticipated revenue increase has not been reflected. (B) To eliminate nonrecurring costs, primarily rental and related occupancy costs, associated with the Leewards distribution center, net of incremental costs to be incurred at the Company's distribution center. Upon consummation of the Leewards Acquisition and completion of the conversion of the Leewards stores, the Leewards distribution center is to be closed. (C) To adjust selling, general and administrative expense to (i) account for pre-opening costs incurred by Leewards consistent with the Company's accounting policy whereby pre-opening costs are expensed in the fiscal year in which the store opens by increasing (decreasing) expense by $2.0 million and $(840,000) for the year ended January 30, 1994 and the quarter ended May 1, 1994, respectively, and (ii) eliminate nonrecurring costs, primarily salaries and related benefits, associated with reductions of Leewards corporate personnel and other costs of approximately $1.6 million and $494,000 for the year ended January 30, 1994 and the quarter ended May 1, 1994, respectively. (D) To amortize costs in excess of net assets acquired over a 40-year period on a straight-line basis. The Company will assess the recoverability of costs in excess of net assets acquired annually based on existing facts and circumstances. The Company will generally consider projected earnings before interest, taxes, depreciation and amortization, on an undiscounted basis, as the on-going measure of recoverability. (E) To reduce the interest expense on the Leewards indebtedness consisting of approximately $17 million of subordinated debentures and short-term borrowings (average outstanding borrowings approximated $11.5 million for the year ended January 30, 1994 and $16.8 million for the quarter ended May 1, 1994) from their stated rates of 13.5% and 7.75%, respectively, to 4.9%, which rate approximates the Company's incremental borrowing rate for both of the periods presented. In connection with the Leewards Acquisition, the Leewards subordinated debentures and short-term borrowings are required to be repaid. (F) To reflect the tax effects applicable to the above entries, exclusive of the amortization of costs in excess of net assets acquired, at a 40% effective tax rate. Adjustments to the pro forma balance sheet to reflect the consummation of the Leewards Acquisition as of May 1, 1994 are as follows: (G) To record the costs of the Leewards Acquisition. Cash payments and shares issued are based on an assumed five day average closing stock price of $33 7/8. 1. Cash consideration to be paid (funded with short-term bank debt) $ 7,835 2. Shares to be issued in connection with the Leewards Acquisition (1,256,159 shares) 42,552 3. Liabilities incurred by Leewards in connection with the Leewards Acquisition by Michaels $ 2,726 4. Transaction costs 1,250 3,976 --------- --------- Total acquisition costs $ 54,363 --------- ---------
22 NOTES TO PRO FORMA COMBINED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) (H) To adjust the carrying values of the net assets acquired to estimated fair value as of May 1, 1994 and to accrue various liabilities assumed in connection with the Leewards Acquisition. 1. Write-down inventories to liquidate incompatible merchandise of Leewards $ 6,770 2. Write-off deferred pre-opening costs to conform Leewards' accounting policy to that of Michaels 1,211 3. Write-off tradenames and other deferred costs of Leewards 6,336 4. Accrue costs of closing Leewards' corporate office and distribution center (including lease termination costs, severance pay and other costs) and costs associated with the anticipated closing of certain Leewards' stores (accrued closing costs relate only to Leewards' stores) 25,532 5. Write-off of the carrying values of leasehold improvements related to facilities to be closed and other adjustments to state other property and equipment at estimated fair value 3,757 6. Record deferred tax assets related to the above adjustments (15,356) 7. Eliminate net deferred tax liabilities of Leewards as of the Leewards Acquisition date (2,329) 8. Record income tax liabilities assumed by Michaels in connection with the Leewards Acquisition related primarily to the termination of the LIFO method of inventory valuation for tax reporting purposes, net of the tax benefits related to certain transaction costs 1,309 9. Eliminate redeemable preferred stock and common stockholders' deficit of Leewards as of the Leewards Acquisition date (21,145) --------- Excess of fair value of liabilities over net assets acquired 6,085 Total acquisition costs 54,363 --------- Costs in excess of the net assets acquired $ 60,448 --------- ---------
(I) To reflect additional borrowings on Michaels' credit facility to fund the required repayment of the Leewards subordinated notes in connection with the Leewards Acquisition. (J) Upon completion of the Leewards Acquisition, the Company will implement a plan to reconfigure the Leewards stores to be more consistent with the merchandising strategy of Michaels. The Company expects to incur a one-time pretax charge in connection with the reconfiguration of the Leewards stores of approximately $3.2 million. 23 SELLING STOCKHOLDERS The following table sets forth certain information regarding the Selling Stockholders' beneficial ownership of the Company's Common Stock assuming that an aggregate of 1,152,810 shares of Common Stock will be issued to the Leewards stockholders (net of shares to be held in escrow) in the Leewards Acquisition, and as adjusted to reflect the sale by the Company and the Selling Stockholders of the Common Stock offered pursuant to the Common Stock Offering:
SHARES BENEFICIALLY OWNED PRIOR TO THE COMMON STOCK OFFERING SHARES BENEFICIALLY OWNED AFTER THE COMMON STOCK OFFERING -------------------------- NUMBER OF SHARES -------------------------------- NAME OF BENEFICIAL OWNER NUMBER PERCENT(1) BEING OFFERED NUMBER PERCENT(1) - -------------------------------------- ----------- ------------- ----------------- ----------------- ------------- Alan Altschuler....................... 3,812 * % 1,654 2,158 * % Stephen J. Berman..................... 3,812 * 1,654 2,158 * David E. Bolen........................ 24,381 * 10,574 13,807 * The Teachers' Retirement System of the State of Illinois.................... 261,156 1.4 113,269 147,887 * Frontenac Venture V Limited Partnership.......................... 179,899 1.0 78,026 101,873 * GIPEN & Co............................ 39,954 * 17,329 22,625 * Alan L. Magdovitz..................... 3,812 * 1,654 2,158 * MONY Life Insurance Company of America.............................. 13,293 * 5,765 7,528 * The Mutual Life Insurance Company of New York............................. 168,755 * 73,193 95,562 * John A. Popple........................ 32,965 * 14,298 18,667 * Prudential-Bache Capital Partners I, L.P.................................. 87,221 * 37,829 49,392 * Prudential-Bache Capital Partners II, L.P.................................. 58,400 * 25,329 33,071 * The Prudential Insurance Company of America.............................. 271,538 1.4 117,772 153,766 * John E. Welsh, III.................... 3,812 * 1,654 2,158 * -- -- ----------- -------- -------- Total............................... 1,152,810 6.1% 500,000 652,810 3.2% -- -- -- -- ----------- -------- -------- ----------- -------- -------- - ------------------------ * less than 1% (1) Percentage based on the Company's Common Stock outstanding.
Each of the Selling Stockholders will acquire the shares listed in the table above pursuant to the Leewards Acquisition in exchange for shares of capital stock of Leewards owned by it. Pursuant to the merger agreement with Leewards, Michaels agreed that in the event Michaels engaged in an underwritten public offering of Common Stock after the merger the Leewards stockholders would be offered the opportunity to include in the underwritten public offering the shares of Common Stock received by them in the merger. Thus, assuming the Leewards Acquisition closes prior to the closing of the Common Stock Offering, the Leewards stockholders will have the right to include in the Common Stock Offering all of the shares received by them in the Leewards Acquisition, subject to the right of the managing underwriters to require the Leewards stockholders to reduce the number of shares sold by the Leewards stockholders if the managing underwriters determine that inclusion of the full amount of shares requested would materially and adversely affect the offering. However, in no event may the managing underwriters require the Leewards stockholders to reduce the number of shares included in the Common Stock Offering to an amount less than 25% of the number of shares being sold in the offering (excluding shares in the underwriters' over-allotment option). The Leewards stockholders are not obligated to include any shares in the Common Stock Offering. For purposes of the table above, the Company has assumed the Leewards stockholders will sell 500,000 shares in the Common Stock Offering, which is equal to 25% of the total number of shares intended to be sold in the 24 Common Stock Offering (excluding shares in the over-allotment option). The actual number of shares to be sold by the Leewards stockholders may change depending upon existing circumstances at or near the date of pricing of the Common Stock Offering. Assuming the Leewards Acquisition is consummated prior to the closing of the Common Stock Offering, this right to include shares will expire upon consummation of the Common Stock Offering. Following the closing of the Leewards Acquisition, the Company will be obligated to cause a "shelf" registration to be filed on behalf of Leewards' stockholders and to cause the registration statement to remain effective for a period of three years following the closing of the acquisition. All of Leewards' stockholders who will receive shares of Common Stock in the acquisition have agreed not to offer, sell, pledge or otherwise dispose of, directly or indirectly, any shares of Common Stock received in connection with the acquisition without the prior written consent of CS First Boston Corporation for a period of 90 days after the date of this Prospectus, except that such stockholders may dispose of such shares in a transaction not involving a public distribution if the transferee executes a similar agreement. See "Underwriting." DESCRIPTION OF CAPITAL STOCK Michaels is authorized to issue 50,000,000 shares of Common Stock, par value $0.10 per share, and 2,000,000 shares of Preferred Stock, par value $0.10 per share. As of June 16, 1994, 17,492,808 shares of Common Stock were outstanding (excluding 50,779 shares held by wholly-owned subsidiaries of the Company) and no shares were held in treasury, and no shares of Preferred Stock were outstanding. The outstanding shares of Common Stock are, and the shares offered hereby will be, when issued, fully paid and nonassessable. COMMON STOCK Holders of the Common Stock are entitled to one vote per share on all matters submitted to a vote of shareholders. Shares of Common Stock do not have cumulative voting rights, which means that the holders of a majority of the shares voting for the election of the Board of Directors can elect all members of the Board of Directors. Upon any liquidation, dissolution or winding up of the Company, holders of Common Stock are entitled to receive pro rata all of the assets of the Company available for distribution to shareholders, subject to any prior rights of holders of any outstanding Preferred Stock. Shareholders do not have any preemptive rights to subscribe for or purchase any stock, obligations, warrants or other securities of the Company. Holders of record of shares of Common Stock are entitled to receive dividends when and if declared by the Board of Directors out of funds of the Company legally available therefor. Michaels has never paid dividends on its Common Stock. The Company's present policy is to retain earnings for the foreseeable future for use in the Company's business and the financing of its growth. However, such policy is subject to the discretion of the Board of Directors. PREFERRED STOCK The Board of Directors of the Company is authorized to issue Preferred Stock in one or more series and to fix the voting rights, liquidation preferences, dividend rates, conversion rights, redemption rights and terms, including sinking fund provisions, and certain other rights and preferences. The issuance of Preferred Stock, while providing flexibility in connection with possible acquisitions and other corporate purposes, could, among other things, adversely affect the voting power of the holders of the Common Stock and, under certain circumstances, make it more difficult for a third party to gain control of the Company. TRANSFER AGENT The transfer agent for the Common Stock is Society National Bank. 25 CERTAIN SPECIAL FEDERAL TAX CONSIDERATIONS FOR NON-UNITED STATES HOLDERS The following is a general discussion of certain special United States federal income and estate tax considerations relevant to non-United States holders of the Common Stock, but does not purport to be a complete analysis of all the potential tax considerations relating thereto. As used herein, "non-United States holder" means a corporation, individual or partnership that is, as to the United States, a foreign corporation, a nonresident alien individual or a foreign partnership, and any estate or trust if such estate or trust is not subject to United States taxation on income from sources without the United States that is not effectively connected with the conduct of a trade or business within the United States. This discussion is based upon the Code, Treasury Regulations, IRS rulings and judicial decisions now in effect, all of which are subject to change (possibly with retroactive effect) or different interpretations. This discussion does not purport to deal with all aspects of federal income and estate taxation that may be relevant to a particular non-United States holder's decision to purchase the Common Stock. ALL PROSPECTIVE NON-UNITED STATES HOLDERS OF THE COMMON STOCK ARE ADVISED TO CONSULT THEIR OWN TAX ADVISORS REGARDING THE UNITED STATES FEDERAL, STATE, LOCAL AND FOREIGN TAX CONSEQUENCES OF THE PURCHASE, OWNERSHIP AND DISPOSITION OF THE COMMON STOCK. DIVIDENDS Dividends paid to a non-United States holder of the Common Stock will be subject to withholding of United States federal income tax at a 30% rate or such lower rate as may be specified by an applicable income tax treaty. Currently, dividends paid to an address in a foreign country are presumed to be paid to a resident of such country in determining the applicability of a treaty for such purposes. However, proposed Treasury Regulations which have not been finally adopted would require non-United States holders to satisfy certain certification and other requirements to obtain the benefit of any applicable income tax treaty providing for a lower rate of withholding tax on dividends. Except as may be otherwise provided in an applicable income tax treaty, a non-United States holder will be taxed at ordinary federal income tax rates (on a net income basis) on dividends that are effectively connected with the conduct of a trade or business of such non-United States holder within the United States and might not be subject to the withholding tax described above. If such non-United States holder is a foreign corporation, it may also be subject to a United States branch profits tax at a 30% rate or such lower rate as may be specified by any applicable income tax treaty. Non-United States holders must comply with certain certification and disclosure requirements to claim treaty benefits or an exemption from withholding tax under the foregoing rules. DISPOSITION OF COMMON STOCK Non-United States holders generally will not be subject to United States federal income tax in respect of gain recognized on a disposition of the Common Stock unless (i) the gain is effectively connected with a trade or business conducted by the non-United States holder within the United States (in which case the branch profits tax described under "Dividends" above may also apply if the holder is a foreign corporation), (ii) in the case of a non-United States holder who is a nonresident alien individual and holds the Common Stock as a capital asset, such holder is present in the United States for 183 or more days in the taxable year of the disposition and either the income from the disposition is attributable to an office or other fixed place of business maintained by the holder in the United States or the holder has a "tax home" in the United States (within the meaning of the Code), or (iii) the Company is or has been a "United States real property holding corporation" and certain other requirements are met. The Company does not believe it has been or is currently, and does not anticipate becoming, a United States real property holding corporation. 26 FEDERAL ESTATE TAXES Common Stock that is owned or treated as being owned by a non-United States holder who is a natural person (as determined for United States federal estate tax purposes) at the time of death will be included in such holder's gross estate for United States federal estate tax purposes, unless an applicable estate tax treaty provides otherwise. Common Stock that has been transferred by such a non-United States holder in a "generation-skipping transfer" may be subject to a generation-skipping transfer tax in addition to estate tax. INFORMATION REPORTING REQUIREMENTS AND BACKUP WITHHOLDING United States information reporting requirements and 31% backup withholding tax generally will not apply to dividends paid on the Common Stock if the dividends are subject to either the 30% withholding tax or such lower rate as may be specified by an applicable income tax treaty, or are exempt from such withholding tax under the rules discussed above relating to dividends that are effectively connected with the conduct of a trade or business of such holder within the United States, or are paid to a non-United States holder at an address outside the United States provided that the holder certifies to its non-United States status on the appropriate form and the payer has no actual knowledge that the holder is a United States person. As a general matter, information reporting and backup withholding will also not apply to a payment of the proceeds of a sale effected outside the United States of Common Stock by a foreign office of a foreign broker. However, information reporting requirements (but under current proposed Treasury regulations not backup withholding) will apply to a payment of the proceeds of a sale effected outside the United States of Common Stock by a foreign office of a broker that (i) is a United States person, (ii) is a foreign person that derives 50% or more of its gross income for certain periods from the conduct of a trade or business in the United States, or (iii) is a "controlled foreign corporation" (generally, a foreign corporation controlled by United States shareholders) with respect to the United States, unless the broker has documentary evidence in its records that the holder is a non-United States holder and certain conditions are met, or the holder otherwise establishes an exemption. Payment by a United States office of a broker of the proceeds of a sale of Common Stock is subject to both backup withholding and information reporting unless the holder certifies to the payor in the manner required as to its non-United States status under penalties of perjury or otherwise establishes an exemption. A non-United States holder may obtain a refund of any excess amounts withheld under the backup withholding rules by filing an appropriate claim for refund with the IRS. 27 UNDERWRITING Under the terms and subject to the conditions contained in an Underwriting Agreement dated , 1994 (the "U.S. Underwriting Agreement"), the underwriters named below (the "U.S. Underwriters"), for whom CS First Boston Corporation, Robertson, Stephens & Company, L.P. and Nomura Securities International, Inc. are acting as representatives (the "Representatives"), have severally but not jointly agreed to purchase from the Company and the Selling Stockholders the following respective numbers of U.S. Shares:
NUMBER OF UNDERWRITER U.S. SHARES - ------------------------------------------------------------------------------------------ ------------ CS First Boston Corporation............................................................... Robertson, Stephens & Company, L.P........................................................ Nomura Securities International, Inc...................................................... ------------ Total................................................................................. 1,600,000 ------------ ------------
The U.S. Underwriting Agreement provides that the obligations of the U.S. Underwriters are subject to certain conditions precedent and that the U.S. Underwriters will be obligated to purchase all the U.S. Shares offered hereby if any are purchased. The U.S. Underwriting Agreement provides that, in the event of a default by a U.S. Underwriter, in certain circumstances, the purchase commitments of non-defaulting U.S. Underwriters may be increased or the U.S. Underwriting Agreement may be terminated. The Company and the Selling Stockholders have entered into a Subscription Agreement (the "Subscription Agreement") with the Managers of the International Offering (the "Managers") providing for the concurrent offer and sale of the International Shares outside the United States and Canada. The closing of the U.S. Offering is a condition to the closing of the International Offering and vice versa. The Managers named below have, pursuant to the Subscription Agreement, severally and not jointly, agreed with the Company and the Selling Stockholders to subscribe and pay for the following respective numbers of International Shares:
NUMBER OF INTERNATIONAL MANAGER SHARES - ------------------------------------------------------------------------------------------ ------------ CS First Boston Limited................................................................... Robertson, Stephens & Company, L.P........................................................ Nomura International plc.................................................................. ------------ Total................................................................................. 400,000 ------------ ------------
The Company has granted to the U.S. Underwriters and the Managers an option, exercisable by CS First Boston Corporation, expiring at the close of business on the 30th day after the date of the initial public offering of the Common Stock offered hereby, to purchase up to 300,000 additional shares at the public offering price, less the underwriting discounts and commissions, all as set forth on the cover page of this Prospectus. The U.S. Underwriters and the Managers may exercise such option only to cover over-allotments in the sale of the shares of Common Stock offered hereby. To the extent 28 that this option to purchase is exercised, each U.S. Underwriter and each Manager will become obligated, subject to certain conditions, to purchase approximately the same percentage of additional shares being sold to the U.S. Underwriters and the Managers as the number of U.S. Shares set forth next to such U.S. Underwriter's name in the preceding table bears to the total number of U.S. Shares in such table and as the number set forth next to such Manager's name in the corresponding table in the prospectus relating to the International Offering bears to the total number of International Shares in such table. The Company and the Selling Stockholders have been advised by the Representatives that the U.S. Underwriters propose to offer the U.S. Shares in the United States and Canada to the public initially at the public offering price set forth on the cover page of this Prospectus and, through the Representatives, to certain dealers at such price less a concession of $ per share, that the Underwriters and such dealers may allow a discount of $ per share on sales to certain other dealers, and that after the initial public offering, the public offering price and concession and discount to dealers may be changed by the Representatives. In connection with the Common Stock Offering, CS First Boston Corporation and certain of the U.S. Underwriters, Managers and selling group members (if any) and their respective affiliates may engage in passive market making transactions in the Common Stock on The Nasdaq Stock Market in accordance with Rule 10b-6A under the Exchange Act during a period before commencement of offers or sales of the Common Stock offered hereby. The passive market making transactions must comply with applicable volume and price limits and be identified as such. The public offering price, the aggregate underwriting discounts and commissions per share and per share concession and discount to dealers for the U.S. Offering and the concurrent International Offering will be identical. Pursuant to an Agreement between the U.S. Underwriters and the Managers (the "Agreement Between") relating to the Common Stock Offering, changes in the public offering price, concession and discount to dealers will be made only upon the mutual agreement of CS First Boston Corporation, as representative of the U.S. Underwriters, and CS First Boston Limited ("CSFBL"), on behalf of the Managers. Pursuant to the Agreement Between, each of the U.S. Underwriters has agreed that, as part of the distribution of the U.S. Shares and subject to certain exceptions, (a) it is not purchasing any shares of Common Stock for the account of anyone other than a U.S. or Canadian Person (as defined below) and (b) it has not offered or sold, and will not offer to sell, directly or indirectly, any shares of Common Stock or distribute any prospectus relating to the Common Stock to any person outside the United States or Canada or to anyone other than a U.S. or Canadian Person nor to any dealer who does not so agree. Each of the Managers has agreed or will agree that, as part of the distribution of the International Shares and subject to certain exceptions, (i) it is not purchasing any shares of Common Stock for the account of any U.S. or Canadian Person and (ii) it has not offered or sold, and will not offer or sell, directly or indirectly, any shares of Common Stock or distribute any prospectus relating to the Common Stock in the United States or Canada or to any U.S. or Canadian Person nor to any dealer who does not so agree. The foregoing limitations do not apply to stabilization transactions or to transactions between the U.S. Underwriters and the Managers pursuant to the Agreement Between. As used herein, "United States" means the United States of America (including the States and the District of Columbia), its territories, possessions and other areas subject to its jurisdiction, "Canada" means Canada, its provinces, territories, possessions and other areas subject to its jurisdiction, and "U.S. or Canadian Person" means a citizen or resident of the United States or Canada, or a corporation, partnership or other entity created or organized in or under the laws of the United States or Canada (other than a foreign branch of such an entity) or an estate or trust the income of which is subject to United States or Canadian federal income taxation, regardless of its source of income, and includes any United States or Canadian branch of a non-U.S. or non-Canadian Person. Pursuant to the Agreement Between, sales may be made between the U.S. Underwriters and the Managers of such number of shares of Common Stock as may be mutually agreed upon. The price of 29 any shares so sold will be the initial public offering price, less such amount as may be mutually agreed upon by CS First Boston Corporation, as representative of the U.S. Underwriters, and CSFBL, on behalf of the Managers, but not exceeding the selling concession applicable to such shares. To the extent there are sales between the U.S. Underwriters and the Managers pursuant to the Agreement Between, the number of shares of Common Stock initially available for sale by the U.S. Underwriters or by the Managers may be more or less than the amount appearing on the cover page of this Prospectus. There are no limits on the number of shares of Common Stock that may be sold between the U.S. Underwriters and the Managers. Neither the U.S. Underwriters nor the Managers are obligated to purchase from the other any unsold shares of Common Stock. This Prospectus may also be used in connection with resales of International Shares in the United States by dealers. The Company and certain of its directors, executive officers and shareholders have agreed not to offer, sell, contract to sell, pledge or otherwise dispose of, directly or indirectly, or file with the Securities and Exchange Commission a registration statement under the Securities Act relating to, any additional shares of its Common Stock or securities convertible or exchangeable into or exercisable for any shares of its Common Stock without the prior written consent of CS First Boston Corporation for a period of 90 days after the date of this Prospectus other than (a) issuances and sales by the Company of Common Stock in accordance with the terms of certain of the Company's benefit plans, (b) issuances of Common Stock by the Company upon the conversion of securities or the exercise of warrants outstanding at the date of this Prospectus and (c) the filing of a registration statement to permit the resale of shares of Common Stock by the Leewards stockholders. See "Selling Stockholders." The stockholders of Leewards have agreed not to offer, sell, contract to sell, pledge or otherwise dispose of, directly or indirectly, any shares of Common Stock received in connection with the acquisition without the prior written consent of CS First Boston Corporation for a period of 90 days after the date of this Prospectus except that such stockholders may dispose of such shares in a transaction not involving a public distribution if the transferee executes a similar agreement. The Company and the Selling Stockholders have agreed to indemnify the U.S. Underwriters and the Managers against certain liabilities, including civil liabilities under the Securities Act, or to contribute to payments that the U.S. Underwriters and the Managers may be required to make in respect thereof. Certain of the U.S. Underwriters and Managers and their affiliates have from time to time performed, and continue to perform, various investment banking and commercial banking services for the Company, for which customary compensation has been received. NOTICE TO CANADIAN RESIDENTS RESALE RESTRICTIONS The distribution of the Common Stock in Canada is being made only on a private placement basis exempt from the requirement that the Company prepare and file a prospectus with the securities regulatory authorities in each province where trades of Common Stock are effected. Accordingly, any resale of the Common Stock in Canada must be made in accordance with applicable securities laws which will vary depending on the relevant jurisdiction, and which may require resales to be made in accordance with available statutory exemptions or pursuant to a discretionary exemption granted by the applicable Canadian securities regulatory authority. Purchasers are advised to seek legal advice prior to any resale of the Common Stock. REPRESENTATIONS OF PURCHASERS Each purchaser of Common Stock in Canada who receives a purchase confirmation will be deemed to represent to the Company, the Selling Stockholders and the dealer from whom such purchase confirmation is received that (i) such purchaser is entitled under applicable provincial securities laws to purchase such Common Stock without the benefit of a prospectus qualified under such securities laws, (ii) where required by law, that such purchaser is purchasing as principal and not as agent, and (iii) such purchaser has reviewed the text under "Resale Restrictions." 30 RIGHTS OF ACTION AND ENFORCEMENT The securities being offered are those of a foreign issuer and Ontario purchasers will not receive the contractual right of action prescribed by section 32 of the Regulation under the SECURITIES ACT (Ontario). As a result, Ontario purchasers must rely on other remedies that may be available, including common law rights of action for damages or rescission or rights of action under the civil liability provisions of the U.S. Federal securities laws. All of the issuer's directors and officers as well as the experts named herein may be located outside of Canada and, as a result, it may not be possible for Ontario purchasers to effect service of process within Canada upon the issuer or such persons. All or a substantial portion of the assets of the issuer and such persons may be located outside of Canada and, as a result, it may not be possible to satisfy a judgment against the issuer or such persons in Canada or to enforce a judgment obtained in Canadian courts against such issuer or persons outside of Canada. NOTICE TO BRITISH COLUMBIA RESIDENTS A purchaser of Common Stock to whom the SECURITIES ACT (British Columbia) applies is advised that such purchaser is required to file with the British Columbia Securities Commission a report within ten days of the sale of any Common Stock acquired by such purchaser pursuant to this offering. Such report must be in the form attached to British Columbia Securities Commission Blanket Order BOR #88/5, a copy of which may be obtained from the Company. Only one such report must be filed in respect of Common Stock acquired on the same date and under the same prospectus exemption. LEGAL MATTERS The validity of the Common Stock offered hereby and the issuance thereof have been passed upon for the Company by Jackson & Walker, L.L.P., Dallas, Texas and for the Underwriters by Fulbright & Jaworski L.L.P., Dallas, Texas. Michael C. French, a partner in Jackson & Walker, L.L.P., is a director of the Company. EXPERTS The consolidated financial statements of Michaels Stores, Inc. appearing or incorporated by reference in the Company's Annual Report on Form 10-K for the year ended January 30, 1994, have been audited by Ernst & Young, independent auditors, as set forth in their report thereon incorporated by reference therein and incorporated herein by reference. Such consolidated financial statements are incorporated herein by reference in reliance upon such report given upon the authority of such firm as experts in accounting and auditing. The financial statements of Leewards Creative Crafts, Inc. at January 30, 1994 and January 31, 1993, and for each of the years ended January 30, 1994, and January 31, 1993 appearing elsewhere herein have been audited by Deloitte & Touche, independent auditors, as set forth in their report thereon appearing elsewhere herein, which report expresses an unqualified opinion and includes an explanatory paragraph relating to the Agreement and Plan of Merger whereby Leewards Creative Crafts, Inc. will become a subsidiary of Michaels Stores, Inc., and are included in reliance upon such report given upon the authority of such firm as experts in accounting and auditing. 31 LEEWARDS CREATIVE CRAFTS, INC. INDEX TO FINANCIAL STATEMENTS
PAGE --------- INDEPENDENT AUDITORS' REPORT............................................................................... F-2 FINANCIAL STATEMENTS FOR THE YEARS ENDED JANUARY 31, 1993, JANUARY 30, 1994 AND (UNAUDITED) FOR THE THREE MONTHS ENDED MAY 2, 1993 AND MAY 1, 1994 Balance Sheets........................................................................................... F-3 Statements of Operations................................................................................. F-5 Statements of Redeemable Preferred Stock and Common Stockholders' Equity................................. F-6 Statements of Cash Flows................................................................................. F-7 Notes to Financial Statements............................................................................ F-8
F-1 INDEPENDENT AUDITORS' REPORT Board of Directors Leewards Creative Crafts, Inc. Elgin, Illinois We have audited the accompanying balance sheets of Leewards Creative Crafts, Inc. as of January 31, 1993 and January 30, 1994 and the related statements of operations, of redeemable preferred stock and common stockholders' equity, and of cash flows for the years then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such financial statements present fairly, in all material respects, the financial position of Leewards Creative Crafts, Inc. as of January 31, 1993 and January 30, 1994 and the results of its operations and its cash flows for the years then ended in conformity with generally accepted accounting principles. As discussed in Note 11, the Company has entered into an Agreement and Plan of Merger (the "Agreement") whereby it will become a wholly owned subsidiary of Michaels Stores, Inc. ("Michaels"). The Agreement also provides that simultaneously with the merger closing, Michaels shall cause the Company to repay its long-term debt. DELOITTE & TOUCHE Chicago, Illinois March 4, 1994 (May 11, 1994 as to Note 11) F-2 LEEWARDS CREATIVE CRAFTS, INC. BALANCE SHEETS (IN 000'S EXCEPT SHARE DATA) ASSETS
JANUARY 31, JANUARY 30, MAY 1, 1993 1994 1994 ----------- ----------- ----------- (UNAUDITED) CURRENT ASSETS: Cash and cash equivalents.................................... $ 2,619 $ 2,946 $ 3,217 Accounts receivable, net of allowance for doubtful accounts of $3, $2 and $2, respectively.............................. 654 1,372 1,008 Merchandise inventories...................................... 37,530 53,090 48,833 Prepaid expenses and other current assets.................... 2,745 3,898 4,777 Deferred income taxes........................................ 495 343 523 ----------- ----------- ----------- Total current assets..................................... 44,043 61,649 58,358 PROPERTY AND EQUIPMENT: Land......................................................... 733 732 732 Buildings and improvements................................... 972 987 1,009 Leasehold improvements....................................... 5,169 6,918 6,975 Machinery and equipment...................................... 13,860 20,822 20,731 Construction in progress..................................... 20 84 397 ----------- ----------- ----------- 20,754 29,543 29,844 Less accumulated depreciation and amortization............... 8,631 10,598 11,390 ----------- ----------- ----------- Property and equipment -- net............................ 12,123 18,945 18,454 OTHER ASSETS: Trade name, less accumulated amortization of $719, $871 and $908, respectively.......................................... 5,340 5,188 5,151 Other intangibles, less accumulated amortization of $11,113, $11,557 and $11,629, respectively........................... 1,040 596 524 Deferred financing costs, less accumulated amortization of $2,299, $2,687 and $2,740, respectively..................... 892 656 603 Notes receivable............................................. -- 70 -- Miscellaneous assets......................................... 7 7 109 ----------- ----------- ----------- Total other assets....................................... 7,279 6,517 6,387 ----------- ----------- ----------- TOTAL.......................................................... $ 63,445 $ 87,111 $ 83,199 ----------- ----------- ----------- ----------- ----------- -----------
See notes to financial statements. F-3 LEEWARDS CREATIVE CRAFTS, INC. BALANCE SHEETS (IN 000'S EXCEPT SHARE DATA) LIABILITIES AND SHAREHOLDERS' EQUITY
JANUARY 31, JANUARY 30, MAY 1, 1993 1994 1994 ----------- ----------- ----------- (UNAUDITED) CURRENT LIABILITIES: Accounts payable............................................. $ 9,147 $ 15,157 $ 9,551 Accrued expenses............................................. 11,193 12,851 13,673 Taxes other than income taxes................................ 798 712 899 Current maturities of long-term debt......................... 7,348 17,602 20,195 Long-term debt classified as current (Note 4)................ -- 14,884 14,884 Income taxes payable......................................... 1,098 -- -- ----------- ----------- ----------- Total current liabilities................................ 29,584 61,206 59,202 LONG-TERM DEBT................................................. 16,961 -- -- DEFERRED INCOME TAXES.......................................... 3,926 3,538 2,852 ----------- ----------- ----------- Total liabilities........................................ 50,471 64,744 62,054 COMMITMENTS AND CONTINGENCIES (Note 10) REDEEMABLE PREFERRED STOCK: Class A Cumulative Exchangeable Senior Preferred Stock, $0.01 par value; shares authorized: 1993 -- 2,135; 1994 -- 4,000; shares outstanding: 1993 -- 2,135; 1994 -- 2,349............ 9 10 68 Class B Cumulative Exchangeable Senior Preferred Stock, $0.01 par value; shares authorized: 1993 -- 2,514; 1994 -- 4,700; shares outstanding: 1993 -- 2,514; 1994 -- 2,765............ 10 11 80 Exchangeable Preferred Stock, $0.01 par value; shares authorized: 1993 -- 393,472; 1994 -- 800,000; shares outstanding: 1993 -- 393,472; 1994 -- 427,322 and 470,054, respectively................................................ 255 325 4 Class C Senior Convertible Preferred Stock, $0.01 par value; 562,500 shares authorized: 549,629 shares outstanding....... 5 5 5 Class D Senior Convertible Preferred Stock, $0.01 par value; shares authorized: 1994 -- 194,050; shares outstanding, 194,035..................................................... -- 2 2 Class E Senior Convertible Preferred Stock, $0.01 par value; shares authorized and outstanding: 1994 -- 129,712.......... -- 1 1 Undesignated Preferred Stock, $0.01 par value; shares authorized and outstanding: 1993 -- 2,039,379; 1994 -- 1,605,038; 0 shares issued.................................. Additional paid-in capital................................... 18,579 29,229 29,685 ----------- ----------- ----------- Total redeemable preferred stock......................... 18,858 29,583 29,845 COMMON STOCKHOLDERS' DEFICIENCY: Common stock, $0.01 par value; shares authorized: 1993 -- 2,800,000; 1994 -- 4,000,000; shares outstanding: 78,281.... 1 1 1 Class B Common Stock, $0.01 par value; shares authorized: 1993 -- 200,000; 1994 -- 300,000; shares outstanding: 73,275...................................................... 1 1 1 Class C Common Stock, $0.01 par value; shares authorized: 1994 -- 600,000; 0 shares issued............................ Additional paid-in capital................................... 746 733 733 Deficit...................................................... (6,632) (7,951) (9,435) ----------- ----------- ----------- Common stockholders' deficiency.......................... (5,884) (7,216) (8,700) ----------- ----------- ----------- TOTAL.......................................................... $ 63,445 $ 87,111 $ 83,199 ----------- ----------- ----------- ----------- ----------- -----------
See notes to financial statements. F-4 LEEWARDS CREATIVE CRAFTS, INC. STATEMENTS OF OPERATIONS (IN 000'S)
YEAR ENDED QUARTER ENDED ------------------------ -------------------- JANUARY 31, JANUARY 30, MAY 2, MAY 1, 1993 1994 1993 1994 ----------- ----------- --------- --------- (UNAUDITED) NET SALES....................................................... $ 169,014 $ 190,261 $ 39,064 $ 46,246 COST OF SALES................................................... 86,431 99,093 19,615 24,252 ----------- ----------- --------- --------- 82,583 91,168 19,449 21,994 OPERATING EXPENSES: Selling and delivery.......................................... 63,845 76,219 16,288 19,483 General and administrative.................................... 5,754 6,900 1,511 1,801 Amortization of deferred pre-opening expenses................. 1,092 1,387 105 840 Depreciation and amortization................................. 3,431 3,549 834 954 ----------- ----------- --------- --------- 74,122 88,055 18,738 23,078 ----------- ----------- --------- --------- OPERATING EARNINGS (LOSS)....................................... 8,461 3,113 711 (1,084) OTHER INCOME (EXPENSE): Restructuring expenses (Notes 1, 4 and 6)..................... (1,632) (24) -- (12) Gain (loss) on asset disposal................................. 503 (226) -- 19 Other......................................................... 22 -- -- -- Interest expense: Related parties............................................. (2,137) (2,285) (572) (572) Other....................................................... (1,759) (1,154) (218) (422) ----------- ----------- --------- --------- INCOME (LOSS) BEFORE INCOME TAXES............................... 3,458 (576) (79) (2,071) INCOME TAXES Currently payable............................................. 1,159 93 -- -- Deferred income taxes (benefit)............................... 394 (329) (32) (849) ----------- ----------- --------- --------- 1,553 (236) (32) (849) ----------- ----------- --------- --------- NET INCOME (LOSS)............................................... $ 1,905 $ (340) $ (47) $ (1,222) ----------- ----------- --------- --------- ----------- ----------- --------- ---------
See notes to financial statements. F-5 LEEWARDS CREATIVE CRAFTS, INC. STATEMENTS OF REDEEMABLE PREFERRED STOCK AND COMMON STOCKHOLDERS' EQUITY (IN 000'S)
REDEEMABLE PREFERRED STOCK ------------------------------------------------------------------------------------------------- EXCHANGEABLE ADDITIONAL EXCHANGEABLE EXCHANGEABLE PREFERRED CONVERTIBLE CONVERTIBLE CONVERTIBLE PAID-IN CLASS A CLASS B STOCK CLASS C CLASS D CLASS E CAPITAL ------------ ------------ ------------ ----------- ----------- ----------- ---------- BALANCE, FEBRUARY 2, 1992..... $ 439 $ 759 $ 371 $-- -$- -$- $ 5,890 Amortization of issuance fees....................... -- -- -- -- -- -- 56 Class A, Class B and exchangeable preferred dividends accrued.......... 330 390 447 -- -- -- -- Sale of Class C preferred stock...................... -- -- -- $ 30 -- -- 10,146 Sale of common stock........ -- -- -- -- -- -- -- Repurchase and cancellation of outstanding shares...... -- -- -- -- -- -- -- Paid-in-kind dividend....... (760) (1,139) (563) -- -- -- 2,462 Reverse split-common stock and Class C preferred...... -- -- -- (25) -- -- 25 Repurchase options.......... -- -- -- -- -- -- -- Net income.................. -- -- -- -- -- -- -- ------ ------------ ------ ----------- ----- ----- ---------- BALANCE, JANUARY 31, 1993..... 9 10 255 5 -- -- 18,579 Amortization of issuance fees....................... -- -- -- -- -- -- 104 Class A, Class B and Exchangeable preferred dividends accrued.......... 215 252 408 -- -- -- -- Sale of Class D preferred stock...................... -- -- -- -- 2 -- 5,840 Sale of Class E preferred stock...................... -- -- -- -- -- 1 3,903 Paid-in-kind dividend, May 1, 1993.................... -- -- (338) -- -- -- 338 Repurchase options.......... -- -- -- -- -- -- -- Paid-in-kind dividend, January 15, 1994........... (214) (251) -- -- -- -- 465 Net loss.................... -- -- -- -- -- -- -- ------ ------------ ------ ----------- ----- ----- ---------- BALANCE, JANUARY 30, 1994 10 11 325 5 2 1 29,229 (UNAUDITED): Net loss.................... -- -- -- -- -- -- -- Amortization of issuance fees....................... -- -- -- -- -- -- 29 Class A, Class B and Exchangeable preferred dividends accrued.......... 58 69 106 -- -- -- -- Paid-in-kind dividend, May 1, 1994.................... -- -- (427) -- -- -- 427 ------ ------------ ------ ----------- ----- ----- ---------- BALANCE, MAY 1, 1994.......... $ 68 $ 80 $ 4 $ 5 $ 2 $ 1 $29,685 ------ ------------ ------ ----------- ----- ----- ---------- ------ ------------ ------ ----------- ----- ----- ---------- COMMON STOCKHOLDERS' EQUITY -------------------------------------- CLASS ADDITIONAL COMMON B PAID-IN STOCK COMMON CAPITAL DEFICIT ------ ------ ---------- ------- BALANCE, FEBRUARY 2, 1992..... $5 $5 $1,190 $(7,314) Amortization of issuance fees....................... -- -- -- (56) Class A, Class B and exchangeable preferred dividends accrued.......... -- -- -- (1,167) Sale of Class C preferred stock...................... -- -- -- -- Sale of common stock........ -- -- 100 -- Repurchase and cancellation of outstanding shares...... (1) -- (527) -- Paid-in-kind dividend....... -- -- -- -- Reverse split-common stock and Class C preferred...... (3) (4) 7 -- Repurchase options.......... -- -- (24) -- Net income.................. -- -- -- 1,905 -- -- ---------- ------- BALANCE, JANUARY 31, 1993..... 1 1 746 (6,632) Amortization of issuance fees....................... -- -- -- (104) Class A, Class B and Exchangeable preferred dividends accrued.......... -- -- -- (875) Sale of Class D preferred stock...................... -- -- -- -- Sale of Class E preferred stock...................... -- -- -- -- Paid-in-kind dividend, May 1, 1993.................... -- -- -- -- Repurchase options.......... -- -- (13) -- Paid-in-kind dividend, January 15, 1994........... -- -- -- -- Net loss.................... -- -- -- (340) -- -- ---------- ------- BALANCE, JANUARY 30, 1994 1 1 733 (7,951) (UNAUDITED): Net loss.................... -- -- -- (1,222) Amortization of issuance fees....................... -- -- -- (29) Class A, Class B and Exchangeable preferred dividends accrued.......... -- -- -- (233) Paid-in-kind dividend, May 1, 1994.................... -- -- -- -- -- -- ---------- ------- BALANCE, MAY 1, 1994.......... $1 $1 $ 733 $(9,435) -- -- -- -- ---------- ------- ---------- -------
See notes to financial statements. F-6 LEEWARDS CREATIVE CRAFTS, INC. STATEMENTS OF CASH FLOWS (IN 000'S)
YEAR ENDED QUARTER ENDED ------------------------- -------------------- JANUARY 31, JANUARY 30, MAY 2, 1993 1994 1993 MAY 1, 1994 ----------- ----------- ------- ----------- (UNAUDITED) CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss)........................................................ $ 1,905 $ (340) $ (47) $ (1,222) Adjustments to reconcile net income (loss) to net cash flows from operating activities: Depreciation and amortization.......................................... 3,290 3,549 834 954 Deferred income taxes.................................................. 503 (236) (64) (1,209) Loss (gain) on disposal of fixed assets................................ (503) 226 -- (19) Changes in: Accounts receivable.................................................. 521 (718) (202) 707 Merchandise inventories.............................................. 6,969 (15,560) (272) 4,257 Prepaid expenses and other current assets............................ 1,303 (1,153) 47 (879) Accounts payable..................................................... (11,952) 6,010 306 (5,606) Accrued expenses and other liabilities............................... (448) 4 (2,475) (447) Taxes other than income.............................................. (46) (86) 100 187 Notes receivable..................................................... 88 (70) -- -- Miscellaneous assets................................................. (1) -- (154) (32) ----------- ----------- ------- ----------- Net cash flows from operating activities........................... 1,629 (8,374) (1,927) (3,309) CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment....................................... (1,141) (9,670) (872) (282) Proceeds from sale of property........................................... 1,503 57 -- -- ----------- ----------- ------- ----------- Net cash flows from investing activities........................... 362 (9,613) (872) (282) CASH FLOWS FROM FINANCING ACTIVITIES: Financing fees paid for restructuring revolving and term credit agreements.............................................................. (433) (152) (8) -- Proceeds from issuance of stock.......................................... 10,276 9,746 -- -- Repurchase of stock...................................................... (551) (13) -- -- Issuance of subordinated debt accrual notes.............................. 2,077 -- -- -- Net borrowings (repayments) under revolving credit agreement............. (13,934) 8,177 2,375 2,593 Increase in checks outstanding........................................... 474 556 3 1,269 ----------- ----------- ------- ----------- Net cash flows from financing activities........................... (2,091) 18,314 2,370 3,862 ----------- ----------- ------- ----------- NET INCREASE (DECREASE) IN CASH............................................ (100) 327 (429) 271 CASH AND CASH EQUIVALENTS -- Beginning of year............................. 2,719 2,619 2,619 2,946 ----------- ----------- ------- ----------- CASH AND CASH EQUIVALENTS -- End of year................................... $ 2,619 $ 2,946 $ 2,190 $ 3,217 ----------- ----------- ------- ----------- ----------- ----------- ------- ----------- SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid during the period for interest: Related parties........................................................ $ -- $ 2,290 $ -- $ -- ----------- ----------- ------- ----------- ----------- ----------- ------- ----------- Other.................................................................. $ 1,804 $ 1,130 $ 270 $ 496 ----------- ----------- ------- ----------- ----------- ----------- ------- ----------- Cash paid during the year for income taxes............................... $ 188 $ 1,103 $ 25 $ 19 ----------- ----------- ------- ----------- ----------- ----------- ------- -----------
See notes to financial statements. F-7 LEEWARDS CREATIVE CRAFTS, INC. NOTES TO FINANCIAL STATEMENTS 1. SUMMARY OF ACCOUNTING POLICIES: QUARTERLY FINANCIAL STATEMENTS BASIS OF PRESENTATION -- The accompanying financial statements and related footnote disclosures of Leewards Creative Crafts, Inc. (the "Company") as of May 1, 1994 and for the three months then ended and for the three months ended May 2, 1993 are unaudited. In the opinion of management, these statements have been prepared on the same basis as the audited financial statements and include all adjustments, which are of a normal and recurring nature necessary for the fair presentation of financial position, results of operations and cash flows. The results of operations for the three months ended May 1, 1994 and May 2, 1993 are not necessarily indicative of the results which may be expected for the entire year. OPERATIONS AND RESTRUCTURING The Company engages in the retail sale of craft and home decor products. The Company maintained the following number of Company-operated and franchised stores at:
COMPANY- OPERATED FRANCHISES TOTAL --------------- --------------- ----- January 31, 1993......................................................... 85 2 87 January 30, 1994......................................................... 99 3 102
During the year ended January 31, 1993, the Company effected a restructuring of its debt (Note 4), capital structure (Note 6) and ongoing operations. Costs associated with these efforts, other than those directly associated with the debt and capital restructurings, are included in restructuring expenses. Such expenses include store closing, severance and other costs incurred in connection with these efforts. FISCAL YEAR-END -- The Company's fiscal year-end is the Sunday closest to January 31. CASH AND CASH EQUIVALENTS -- Cash and cash equivalents include cash; amounts due from major credit card companies, which are collected within 1 to 2 days after date of sale; and highly liquid investments which, at time of purchase, have maturities of three months or less. MERCHANDISE INVENTORIES -- Merchandise inventories are stated at the lower of last-in, first-out (LIFO) cost or market. During the year ended January 31, 1993, LIFO inventories were reduced from levels at the beginning of the year, which reduction of LIFO inventory quantities had no material effect on 1993 operating earnings. Inventories at January 31, 1993, January 30, 1994, May 2, 1993 and May 1, 1994 were valued at market which was lower than LIFO cost. PRE-OPENING COSTS -- Pre-opening costs incurred for the opening of retail locations are deferred and amortized over 12 months, commencing in the month after the location opens. Unamortized deferred pre-opening costs included in prepaid expenses were $97,000 and $2,208,000 at January 31, 1993 and January 30, 1994, respectively. PROPERTY AND EQUIPMENT -- Property and equipment are stated at cost. Depreciation and amortization are provided on the straight-line method over the estimated useful lives of the respective assets, which are as follows: Buildings and improvements.................. 25-30 years Leasehold improvements...................... Shorter of lease term or 10 years Machinery and equipment..................... 3-10 years
INTANGIBLE ASSETS -- Intangible assets, primarily the trade name, and favorable lease agreements, are reported net of accumulated amortization. The assets are being amortized on a straight-line basis over their useful lives which range from 3 to 40 years. INCOME TAXES -- The Company adopted SFAS No. 109, "Accounting for Income Taxes," in the year ended January 31, 1993 and, accordingly, computes deferred taxes using the liability method. F-8 LEEWARDS CREATIVE CRAFTS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) 1. SUMMARY OF ACCOUNTING POLICIES: (CONTINUED) Deferred tax assets and liabilities are recorded based on differences between the financial statements and income tax basis of assets and liabilities and the tax rate in effect when these differences are expected to reverse. 2. ACCRUED EXPENSES Accrued expenses include the following (in 000's):
JANUARY 31, JANUARY 30, 1993 1994 --------------- --------------- Outstanding checks................................................... $ 4,339 $ 4,895 Accrued payroll...................................................... 2,970 2,396 Other................................................................ 3,884 5,560 --------------- --------------- Total................................................................ $ 11,193 $ 12,851 --------------- --------------- --------------- ---------------
3. INCOME TAXES The provision (benefit) for income taxes consists of the following (in 000's):
JANUARY 31, JANUARY 30, 1993 1994 --------------- --------------- Current: Federal............................................................ $ 829 State.............................................................. 330 $ 93 ------- ------ 1,159 93 ------- ------ Deferred: Federal............................................................ 310 (273) State.............................................................. 84 (56) ------- ------ 394 (329) ------- ------ Total provision (benefit) for income taxes........................... $ 1,553 $ (236) ------- ------ ------- ------
Provision for deferred taxes results from temporary differences in the recognition of revenue and expense for financial statement and tax purposes. Temporary differences arise principally from the following (in 000's):
JANUARY 31, JANUARY 30, 1993 1994 --------------- --------------- Amortization of intangibles.......................................... $ (285) $ (203) Deferred store pre-opening costs..................................... (321) 708 Accrued liabilities.................................................. 137 (294) Inventory capitalization............................................. 205 (416) Inventory reserves................................................... 118 127 Depreciation......................................................... 183 343 State taxes and effect of changes in state tax rates................. 109 70 Alternative minimum tax.............................................. 171 (47) Net operating loss................................................... (667) Other................................................................ 77 50 ------ ------ Total................................................................ $ (394) $ (329) ------ ------ ------ ------
F-9 LEEWARDS CREATIVE CRAFTS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) 3. INCOME TAXES (CONTINUED) The difference between the statutory federal income tax rate and the effective tax rate is as follows:
JANUARY 31, JANUARY 30, 1993 1994 ------------- ------------- Statutory federal income tax rate.......................................... 34.0% (34.0)% State taxes, net of federal benefit........................................ 6.1 (6.9) Deferred tax adjustment.................................................... 4.8 -- ----- ----- Effective income tax rate.................................................. 44.9% (40.9)% ----- ----- ----- -----
At January 31, 1993 and January 30, 1994, the components of the deferred income tax liability and asset were as follows (in 000's):
JANUARY 31, JANUARY 30, 1993 1994 ----------- ----------- Deferred tax liability: Intangibles.............................................................. $ 2,558 $ 2,368 Property and equipment................................................... 1,487 1,894 Other, net............................................................... (119) (54) Net operating loss carryforward.......................................... -- (670) ----------- ----------- Total.................................................................. $ 3,926 $ 3,538 ----------- ----------- ----------- ----------- Deferred tax asset: Inventory................................................................ $ 337 Accrued expenses......................................................... $ 487 860 Prepaid expenses......................................................... (184) (1,129) AMT credit carryforward.................................................. 91 218 Other -- net............................................................. 101 57 ----------- ----------- Total.................................................................. $ 495 $ 343 ----------- ----------- ----------- -----------
At January 30, 1994, the Company has $218,000 of AMT credits available for carryforward to future years and an NOL carryforward of $1,635,000 which expires in 2009. 4. LONG-TERM DEBT Long-term debt consists of (in 000's):
JANUARY 31, JANUARY 30, 1993 1994 ----------- ----------- Revolving and term loan(a)................................................. $ 7,348 $ 15,525 Subordinated debentures(b),(c)............................................. 16,961 16,961 ----------- ----------- Total long-term debt (See Note 11)......................................... 24,309 32,486 Less current maturities.................................................... (7,348) (32,486) ----------- ----------- Total.................................................................... $ 16,961 $ -- ----------- ----------- ----------- -----------
(a) In August 1988, the Company entered into a secured revolving credit and term loan agreement (the "agreement") which enabled the Company to borrow up to a maximum of $25,000,000. On June 13, 1990, the Company restructured the agreement to provide for additional borrowings up to $32,000,000 through August 19, 1993. On April 2, 1993 the borrowing limit was reduced to $29,920,000. F-10 LEEWARDS CREATIVE CRAFTS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) 4. LONG-TERM DEBT (CONTINUED) Borrowings outstanding under the agreement are (in 000's):
JANUARY 31, JANUARY 30, 1993 1994 ----------- ----------- Revolving loans............................................................ $ 4,235 $ 14,067 Term loan.................................................................. 3,113 1,458 ----------- ----------- Total.................................................................... $ 7,348 $ 15,525 ----------- ----------- ----------- -----------
The borrowings under the agreement are collateralized by the assets of the Company. Interest is payable monthly based on the rate of interest publicly announced by Citibank in New York, New York as Citibank's "base rate" ("Base Rate"). In the year ended January 30, 1994, the interest rate was Base Rate plus 2% for the period from February 1, 1993 to April 2, 1993 and Base Rate plus 1.75% for the period from April 3, 1993 to January 30, 1994. During the prior year ended January 31, 1993, the interest rate was Base Rate plus 5% for the period from February 3, 1992 to June 22, 1992 and Base Rate plus 2% for the period from June 23, 1992 to January 31, 1993. In the year ended January 30, 1994, the interest rate fluctuated between 7.75% and 8.0% and was 7.75% at year-end; in the prior year, the rate fluctuated between 8.0% and 11.5% and was 8.0% at year-end. Under the revolving credit loan, as restructured, the full availability of this credit line is contingent on the cost of collateralized inventory, less certain adjustments. Commitment fees on the revolving loan are one-half of one percent of the average daily unused portion of the total facility, payable monthly. The term loan, as restructured, requires quarterly principal payments of $413,750 and the balance on August 19, 1994. The Company is in the preliminary stages of negotiating a new and expanded credit facility. In consideration for expanding the credit facility, the Company paid a one-time fee of $200,000 and issued warrants to Citicorp to purchase 3,250 shares of Class B Common Stock, par value $0.01 per share, subject to adjustment under certain antidilution provisions. The warrants are exercisable from the date of issuance at $141.65 per share and expire the later of June 13, 1995 or upon full payment of the credit facility. The agreement has covenants providing for mandatory prepayment provisions and requiring the Company to meet specified financial ratios and income tests. Such tests include, but are not limited to, net worth and earnings before interest, depreciation and taxes. The covenants impose limitations on, among other things, the amount of capital expenditures for each year, creating or incurring liens, and selling assets or granting guarantees, and prohibit declaring or paying dividends on common stock unless specifically permitted under the terms of the agreement. The Company has received waivers for all events of noncompliance with such covenants during the fiscal year ended January 31, 1993. The Company was not in compliance with all covenants at January 30, 1994 and at May 1, 1994. Accordingly, at those dates, all amounts outstanding under the agreement were due on demand (See Note 11). (b) In August 1988, the Company sold $14,884,000 of subordinated debentures to a related party. Interest is payable semi-annually at 13.5%. Annual principal payments of $3,742,000 begin May 15, 1997 and the remaining balance is due May 15, 2000. Included in interest expense are $2,285,000 and $2,137,000 for the years ended January 30, 1994 and January 31, 1993, respectively, for the indebtedness. The debentures contain covenants, including limitations on indebtedness, liens, and the incurrence of other subordinated indebtedness, and restrict payments such as dividends on common stock. The Company has received waivers for all events of noncompliance with such covenants during the F-11 LEEWARDS CREATIVE CRAFTS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) 4. LONG-TERM DEBT (CONTINUED) fiscal year ended January 31, 1993. At January 30, 1994, and at May 1, 1994, because of cross default provisions with respect to the agreement referred to in (a) above, all amounts outstanding at those dates under the subordinated debentures also were due on demand and have been classified as currently payable (See Note 11). (c) RESTRUCTURING -- On June 22, 1992, the subordinated debentures were restructured and amended to provide, among other things, for the interest payments due on May 15 and November 15, 1992 to be made in the form of additional promissory notes ("accrual notes") in the principal amount of the interest payable at each date. The accrual notes bear interest at 13.5% per annum, payable semi-annually, and $1,038,000 was due on March 15, 1994 with the balance due on November 15, 1994. All amounts due under these debentures remain unpaid at May 1, 1994. In addition, an acquirer of the Class C Senior Convertible Stock (Note 6) acquired $5,000,000 of the subordinated debentures. Scheduled principal maturities of long-term debt classified as current for fiscal years subsequent to January 30, 1994 are as follows (in 000's):
YEARS ENDED - --------------------------------------------------------------------------------------------- February 1, 1998............................................................................. $ 3,742 January 31, 1999............................................................................. 3,742 Thereafter................................................................................... 7,400 --------- Total........................................................................................ $ 14,884 --------- ---------
Unamortized deferred financing costs of $892,000 and $656,000 at January 31, 1993 and January 30, 1994, respectively, consist of professional and commitment fees incurred in connection with the Company's revolving and term loan facility and subordinated debentures. Such costs are being amortized on a straight-line basis over the terms of the related debt. 5. PENSION PLAN The Company has a defined benefit pension plan for its hourly workers with benefits based on a fixed dollar rate per year of service. The plan assets are invested primarily in short-term bonds and in equity securities. The Company's funding policy is to contribute annually the minimum amount required by the applicable Internal Revenue Code regulation. In April 1992, as part of a series of cost reductions, the Company froze the hourly pension plan. As a result, there will be no new entrants to the plan and no additional benefits accruing to current participants beyond those earned as of the date the plan was frozen. F-12 LEEWARDS CREATIVE CRAFTS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) 5. PENSION PLAN (CONTINUED) The following presents the funded status of the plan (in 000's):
JANUARY 31, JANUARY 30, 1993 1994 ----------- ----------- Actuarial present value of benefit obligation: Estimated accumulated benefit obligation, including vested benefits......... $ 1,866 $ 2,076 ----------- ----------- ----------- ----------- Estimated accumulated vested obligation....................................... $ 1,709 $ 1,857 ----------- ----------- ----------- ----------- Projected benefit obligation.................................................. $ (1,866) $ (2,076) Plan assets at market value................................................... 2,012 2,084 ----------- ----------- Plan assets in excess of projected benefit obligation......................... 146 8 Unrecognized prior service cost............................................... 16 13 Unrecognized net gain......................................................... (234) (75) ----------- ----------- Accrued pension cost.......................................................... $ (72) $ (54) ----------- ----------- ----------- -----------
Pension expense includes the following components (in 000's):
JANUARY 31, JANUARY 30, 1993 1994 ------------ ------------ Interest cost on projected benefit obligation................................ $ 142 $ 143 Actual return on assets..................................................... (102) (151) Net amortization and deferral............................................... (59) (9) ------ ------ Net periodic pension income................................................. $ (19) $ (17) ------ ------ ------ ------ Actuarial assumptions: Discount rate............................................................... 8.0% 7.25% Asset rate of return........................................................ 8.0% 8.0%
The Company has a trusteed profit-sharing plan, providing employees a deferred compensation (401(k)) provision and Company matching provision. Under the plan, eligible employees are permitted to contribute up to 15% of gross compensation into the plan, and the Company will match each employee contribution up to 4% of gross compensation at a rate established by the Board of Directors. The Company and its employees made the following contributions to the plan during the years ended (in 000's):
JANUARY 31, JANUARY 30, 1993 1994 ------------- ------------- Employee contributions........................................................ $ 672 $ 752 Company matching contributions................................................ 117 141 ----- ----- Total profit-sharing contributions............................................ $ 789 $ 893 ----- ----- ----- -----
6. REDEEMABLE PREFERRED AND COMMON STOCK a. EXCHANGEABLE PREFERRED STOCK -- Each share of Exchangeable Preferred Stock is exchangeable for subordinated debentures due May 2, 2003 at the option of the Company, but, if not exchanged, must be redeemed at that date or upon sale of the Company, if earlier. The exchange rate and redemption price is $10.00 per share. b. CLASS A AND CLASS B CUMULATIVE EXCHANGEABLE SENIOR PREFERRED STOCK -- On June 13, 1990, the Company authorized and issued 1,375 shares each of Class A and Class B 30% Cumulative Exchangeable Senior Preferred Stock, $0.01 par value per share, for $1,000 per share. Each share of F-13 LEEWARDS CREATIVE CRAFTS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) 6. REDEEMABLE PREFERRED AND COMMON STOCK (CONTINUED) Class A and Class B preferred stock is, at the option of the Company, exchangeable for subordinated debentures due May 2, 2003, but if not exchanged, must be redeemed on that date or upon sale of the Company, if earlier. The exchange rate and redemption price is $1,000 per share. On June 22, 1992, the terms of the preferred stock were amended to reduce the annual dividend rate on the Class A and Class B Cumulative Exchangeable Senior Preferred Stock to 10% annually ($100 per share) from 30% annually ($300 per share), payable on January 15, and to reduce the dividend rate on the Exchangeable Preferred Stock to 10% annually ($1.00 per share) from 14% annually ($1.40 per share), payable on May 1. All dividends in arrears as of June 22, 1992 on the preferred shares were paid in kind in lieu of cash payments. For so long as the Class C, Class D, and Class E Preferred Stock is outstanding, future dividends on the Class A and Class B Cumulative Exchangeable Senior Preferred Stock and Exchangeable Preferred Stock must be paid in kind. Accrued and undeclared dividends at January 30, 1994 and January 31, 1993 were as follows (in 000's):
1993 1994 --------- --------- Class A Cumulative Exchangeable Senior Preferred Stock.................................. $ 9 $ 10 Class B Cumulative Exchangeable Senior Preferred Stock.................................. 10 11 Exchangeable Preferred Stock............................................................ 251 321
Such accrued and undeclared dividends have been added to the carrying values of the stock to which they accrue. Issuance fees totalling approximately $287,000 related to the Redeemable Preferred Stock were deducted from the related paid-in capital at the time of issuance of these shares. Such fees are being amortized over the period ending May 2, 2003. c. CLASS C SENIOR CONVERTIBLE PREFERRED STOCK -- On June 22, 1992, the Company issued 549,629 shares of Class C Senior Convertible Preferred Stock ("Class C Preferred Stock"), par value $0.01 per share, for $10,561,700. The Class C Preferred Stock is convertible into common stock at the option of the holder on a one-for-one basis. If unconverted, the Class C Preferred Stock must be redeemed on June 15, 1999 or upon sale of the Company, if earlier. The initial redemption price is $19.22 per share, increasing 10.0% per annum. Issuance fees totalling approximately $386,000 related to the Class C Senior Convertible Preferred Stock were deducted from the related paid-in capital at the time of issuance of these shares. Such fees are being amortized over the period ending June 15, 1999. d. CLASS D AND CLASS E SENIOR CONVERTIBLE PREFERRED STOCK -- On May 28, 1993, the Company issued 194,035 and 129,712 shares of Class D and Class E Senior Convertible Stock, respectively ("Class D and Class E Preferred Stock"), par value $0.01 per share, for $6,000,000 and $4,010,000, respectively. The Class D and Class E Preferred Stock is convertible into common stock at the option of the holder on a one-for-one basis. If unconverted, the Class D and Class E Preferred Stock must be redeemed on June 15, 1999 or upon sale of the Company, if earlier. The initial redemption price is $30.92 per share, increasing 10.0% per annum. Issuance fees totalling approximately $158,000 and $106,000, respectively, related to the Class D and Class E Preferred Stock, were deducted from the related paid-in capital at the time of issuance of these shares. Such fees are being amortized over the period ending June 15, 1999. The Class C, Class D and Class E Preferred Stock rank pari passu and are senior to the Exchangeable Preferred Stock and Class A and Class B Cumulative Exchangeable Senior Preferred Stock. F-14 LEEWARDS CREATIVE CRAFTS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) 6. REDEEMABLE PREFERRED AND COMMON STOCK (CONTINUED) e. COMMON STOCK -- Common stockholders have voting rights. Class B Common Stock is non-voting and convertible into common stock at the option of the stockholder at a conversion rate of 4.88884 shares of common stock for each share of Class B Common Stock. Class C Common Stock is nonvoting and convertible into common stock at the option of the stockholder at a conversion rate of 1 share of common stock for each share of Class C Common Stock. 7. STOCK SPLIT On September 18, 1992, the Company amended and restated its charter which, among other things, reduced the number of preferred shares authorized for issuance to 3,000,000 and reduced the number of common shares authorized for issuance to 3,000,000. In addition, a reverse stock split of the Company's common stock, Class B Common Stock, and Class C Senior Convertible Preferred Stock was accomplished, whereby one share was issued to replace each 5.333332 shares outstanding at the date of the split. All share and per share data, for the year ended January 31, 1993, has been restated to reflect this split. 8. STOCK OPTIONS (ALL DATA REFLECTS THE STOCK SPLIT DESCRIBED IN NOTE 7) In January 1989, the Company adopted a compensatory stock option plan (the "1989 Plan"). Under the 1989 Plan, the Company granted restricted stock options to purchase 41,759 shares of common stock at an exercise price of $2.00 or $19.22 per share to key executives and employees. The right to exercise a stock option was contingent upon the Company's achieving a cumulative earnings level within four years of the date of the Plan or upon length of service. Options are exercisable within ten years of the date of the grant. In addition, in June and December 1992, the Company granted certain key executives 71,875 restricted stock options at an exercise price of $19.22. The right to exercise these options is contingent upon the Company's achieving a cumulative earnings target through January 29, 1995. Options are exercisable within ten years of date of the grant. In August 1993, the Company adopted an additional compensatory stock option plan (the "1993 Plan"). Under the 1993 Plan, the Company granted restricted options to purchase 58,500 shares of common stock at an exercise price of $19.22 or $30.92 per share to key executives, directors and employees. The right to exercise these options is contingent upon the Company's achieving a cumulative earnings target through January 29, 1995. Options are exercisable within ten years of the date of grant. The following summarizes activity in the plans for the years ended:
JANUARY 31, JANUARY 30, 1993 1994 --------------- --------------- Shares authorized.................................................... 113,634 172,134 --------------- --------------- Outstanding shares granted, beginning of year........................ 50,000 111,258 Shares granted....................................................... 79,475 39,300 Shares canceled...................................................... (18,217) (7,204) --------------- --------------- Outstanding shares granted, end of year.............................. 111,258 143,354 --------------- --------------- Shares available for grant........................................... 2,376 28,780 --------------- --------------- --------------- ---------------
Options for approximately 43,237 and 45,770 shares of common stock are vested at January 31, 1993 and January 30, 1994, respectively. 9. LEASES The Company leases certain store premises and computer equipment. Certain leases contain renewal options. The store leases generally provide that the Company shall pay for property taxes, insurance and common area maintenance. F-15 LEEWARDS CREATIVE CRAFTS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) 9. LEASES (CONTINUED) Future minimum rentals required under noncancelable operating leases which have an original term of more than one year are as follows at January 30, 1994 (in 000's):
YEAR ENDED - --------------------------------------------------------------------------------- January 29, 1995................................................................. $ 18,146 January 28, 1996................................................................. 17,252 February 2, 1997................................................................. 15,822 February 1, 1998................................................................. 14,131 January 31, 1999................................................................. 11,701 Thereafter....................................................................... 40,542 ----------- Total............................................................................ $ 117,594 ----------- -----------
Rental expense for operating leases was $13,547,000 and $15,882,000 for the years ended January 31, 1993 and January 30, 1994, respectively. Certain store leases have percentage rent lease provisions. Percentage rent paid totalled $182,000 and $258,000 for the years ended January 31, 1993 and January 30, 1994, respectively. 10. COMMITMENTS AND CONTINGENCIES The Company is a defendant in a number of claims encountered in the normal course of business. Management believes, based on advice of counsel, that the ultimate outcome of all these matters will have no material adverse effect on the Company. The Company had arranged for letters of credit totalling $153,000 and $343,000 as of January 31, 1993 and January 30, 1994, respectively, to secure inventory purchases. 11. SUBSEQUENT EVENT On May 10, 1994, the Company entered into an Agreement and Plan of Merger (the "Agreement") whereby it will merge with a subsidiary of Michaels Stores, Inc. ("Michaels") and thereby become a wholly owned subsidiary of Michaels. The merger is expected to close in July, 1994. The Agreement also provides that simultaneously with the closing, Michaels shall cause the Company to repay its long-term debt. F-16 - ------------------------------------------- - ------------------------------------------- NO DEALER, SALESPERSON OR OTHER INDIVIDUAL HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATION NOT CONTAINED IN THE PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE COMPANY, ANY SELLING STOCKHOLDER OR ANY UNDERWRITER. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO BUY ANY OF THE SECURITIES OFFERED HEREBY IN ANY JURISDICTION TO ANY PERSON TO WHOM IT IS UNLAWFUL TO MAKE SUCH OFFER IN SUCH JURISDICTION. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THE INFORMATION HEREIN IS CORRECT AS OF ANY TIME SUBSEQUENT TO THE DATE HEREOF OR THAT THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF THE COMPANY SINCE SUCH DATE. -------------- TABLE OF CONTENTS
PAGE ------- Available Information................................................. 3 Incorporation of Certain Documents by Reference....................... 3 Prospectus Summary.................................................... 4 Recent Developments................................................... 7 The Company........................................................... 8 Leewards Acquisition.................................................. 11 Use of Proceeds....................................................... 14 Capitalization........................................................ 15 Price Range of Common Stock and Dividends............................. 16 Selected Financial and Store Data..................................... 17 Pro Forma Combined Financial Information.............................. 18 Selling Stockholders.................................................. 24 Description of Capital Stock.......................................... 25 Certain Special Federal Tax Considerations For Non-United States Holders.............................................................. 26 Underwriting.......................................................... 28 Notice to Canadian Residents.......................................... 30 Legal Matters......................................................... 31 Experts............................................................... 31 Index to Financial Statements......................................... F-1
2,000,000 Shares Common Stock ($.10 par value) PROSPECTUS CS First Boston Robertson, Stephens & Company Nomura Securities International, Inc. - ------------------------------------ - ------------------------------------ PART II INFORMATION NOT REQUIRED IN PROSPECTUS ITEM 14. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION. The estimated expenses to be incurred in connection with the issuance and distribution of the Common Stock covered by this Registration Statement, all of which will be paid by Michaels Stores, Inc. (the "Registrant"), are as follows: Printing, Shipping and Engraving Expenses................................ $ * Accounting Fees and Expenses............................................. * Legal Fees and Expenses of Qualification under State Securities Laws..... * Legal Fees and Expenses.................................................. * Transfer Agent and Registrar Fees and Expenses........................... * SEC Registration Fee..................................................... $ 50,788 NASD filing fee.......................................................... 15,463 Miscellaneous............................................................ * --------- Total.................................................................. $ 700,000 --------- --------- - ------------------------ * To be filed by amendment.
ITEM 15. INDEMNIFICATION OF DIRECTORS AND OFFICERS. Section 145 of the Delaware General Corporation Law empowers a corporation to indemnify its directors and officers or former directors or officers and to purchase insurance with respect to liability arising out of their capacity or status as directors and officers. Such law provides further that the indemnification permitted thereunder shall not be deemed exclusive of any other rights to which the directors and officers may be entitled under the corporation's certificate of incorporation, bylaws, any agreement or otherwise. Reference is made to Article Nine of the Registrant's Restated Certificate of Incorporation, as amended, Exhibit 4.1 of this Registration Statement, which provides for indemnification of directors and officers. Reference is made to Article IX of the Registrant's Bylaws, Exhibit 4.2 to this Registration Statement, which provides for indemnification of directors and officers. In addition, the Registrant has entered into Indemnity Agreements with certain of its directors and executive officers. The Registrant has procured insurance that purports (i) to insure it against certain costs of indemnification that may be incurred by it pursuant to the provisions referred to above or otherwise and (ii) to insure the directors and officers of the Registrant against certain liabilities incurred by them in the discharge of their functions as directors and officers except for liabilities arising from their own malfeasance. ITEM 16. EXHIBITS. The following is a list of all exhibits filed as a part of this Registration Statement on Form S-3, including those incorporated herein by reference.
EXHIBIT NUMBER DESCRIPTION OF EXHIBIT - ----------- ---------------------------------------------------------------------------------------------------------- 1.1 -- Underwriting Agreement.(2) 1.2 -- Subscription Agreement.(2) 2.1 -- Agreement and Plan of Merger among Michaels Stores, Inc. LWA Acquisition Corporation and Leewards Creative Crafts, Inc.(2)
II-1
EXHIBIT NUMBER DESCRIPTION OF EXHIBIT - ----------- ---------------------------------------------------------------------------------------------------------- 2.2 -- First Amendment to Agreement and Plan of Merger dated as of June 2, 1994 among Michaels Stores, Inc., LWA Acquisition Corporation and Leewards Creative Crafts, Inc.(3) 2.3 -- Stock Purchase Agreement, dated as of February 16, 1994, among Michaels Stores, Inc., Treasure House Stores, Inc. and the stockholders of Treasure House Stores, Inc.(4) 2.4 -- Amendment No. 1 to Stock Purchase Agreement.(4) 2.5 -- Agreement and Plan of Merger, dated as of March 3, 1994, among Michaels Stores, Inc. and the other parties listed therein.(2) 2.6 -- Amendment No. 1 to Agreement and Plan of Merger, dated as of March 3, 1994, among Michaels Stores, Inc. and the other parties listed therein.(2) 4.1 -- Restated Certificate of Incorporation of Michaels Stores, Inc.(5) 4.2 -- Bylaws of Michaels Stores, Inc. as amended and restated.(6) 4.3 -- Form of Common Stock Certificate.(6) 4.4 -- Common Stock and Warrant Agreement dated as of October 16, 1984 between Michaels Stores, Inc. and Peoples Restaurants, Inc., including form of Warrant.(7) 4.5 -- First Amendment to Common Stock and Warrant Agreement dated October 31, 1984 between The First Dallas Group, Ltd. and Michaels Stores, Inc.(7) 4.6 -- Second Amendment to Common Stock and Warrant Agreement dated November 28, 1984 between First Dallas Investments -- Michaels I, Ltd. and Michaels Stores, Inc.(7) 4.7 -- Third Amendment to Common Stock and Warrant Agreement dated February 27, 1985 between First Dallas Investments -- Michaels I, Ltd., The First Dallas Group, Ltd., Sam Wyly, Charles J. Wyly, Jr. and Michaels Stores, Inc.(8) 4.8 -- Amendment to Common Stock and Warrant Agreement dated September 1, 1992 between Michaels Stores, Inc., The Andrew David Sparrow Wyly Trust, Charles J. Wyly, Jr., The Martha Caroline Wyly Trust, The Charles Joseph Wyly, III Trust, The Emily Ann Wyly Trust, The Jennifer Lynn Wyly Trust, Donald R. Miller, Jr., Evan A. Wyly, The Laurie Louise Wyly Trust, The Lisa Lynn Wyly Trust, The Sam Wyly and Rosemary Wyly Children's Trust No. 1 of 1965 fbo Kelly Wyly and Tallulah, Ltd.(5) 4.9 -- Indenture, dated as of January 22, 1993, between Michaels Stores, Inc. and NationsBank of Texas, N.A., as Trustee, including the form of 4 3/4%/6 3/4% Step-up Convertible Subordinated Note, included therein.(7) 5 -- Opinion of Jackson & Walker.(2) 8 -- None. 12 -- None. 15 -- None. 23.1 -- Consent of Ernst & Young.(1) 23.2 -- Consent of Deloitte & Touche.(1) 23.3 -- Consent of Jackson & Walker (included in the opinion of Jackson & Walker, L.L.P. filed as Exhibit 5 to this Registration Statement). 24 -- Power of Attorney.(2) 25 -- None. 26 -- None. 27 -- None. 28 -- None. 99 --Credit Agreement dated as of June 17, 1994 among Michaels Stores, Inc., NationsBank of Texas, N.A. and the other lenders signatory thereto.(1) - ------------------------ (1) Filed herewith.
II-2 (2) Previously filed. (3) Previously filed as an exhibit to the Registrant's Quarterly Report on Form 10-Q for the quarter ended May 1, 1994 and incorporated herein by reference. (4) Previously filed as an exhibit to the Registrant's Registration Statement on Form S-3 (No. 33-52311) and incorporated herein by reference. (5) Previously filed as an exhibit to the Registrant's Registration Statement on Form S-8 (No. 33-54726) and incorporated herein by reference. (6) Previously filed as an exhibit to the Registrant's Annual Report on Form 10-K for the year ended January 31, 1994 and incorporated herein by reference. (7) Previously filed as an exhibit to the Registrant's Annual Report on Form 10-K for the year ended January 31, 1993 and incorporated herein by reference. (8) Previously filed as an exhibit to the Registrant's Registration Statement on Form S-1 (No. 33-9456) and incorporated herein by reference.
ITEM 17. UNDERTAKINGS. (a) The undersigned Registrant hereby undertakes that, for purposes of determining any liability under the Securities Act of 1933, each filing of the Registrant's annual report pursuant to Section 13(a) or Section 15(d) of the Securities Exchange Act of 1934 that is incorporated by reference in the Registration Statement shall be deemed to be a new Registration Statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. (b) Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of the Registrant pursuant to the foregoing provisions, or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer or controlling person of the Registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Registrant 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 such indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of such issue. (c) The undersigned Registrant hereby undertakes that: (1) For the purpose of determining any liability under the Securities Act of 1933, the information omitted from the form of prospectus filed as a part of this registration statement in reliance upon Rule 430A and contained in a form of prospectus filed by the registrant pursuant to Rule 424(b)(1) or (4) or 497(h) under the Securities Act shall be deemed to be part of this registration statement as of the time it was declared effective. (2) For the purpose of determining any liability under the Securities Act of 1933, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. II-3 SIGNATURES Pursuant to the requirements of the Securities Act of 1933, as amended, the Registrant certifies that it has reasonable grounds to believe that it meets all of the requirements for filing on Form S-3 and has duly caused this Registration Statement to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Irving, State of Texas on the 27th day of June, 1994. MICHAELS STORES, INC. By: /s/ JACK E. BUSH* -------------------------------------- Jack E. Bush PRESIDENT, CHIEF OPERATING OFFICER AND DIRECTOR II-4 SIGNATURES Pursuant to the requirements of the Securities Act of 1933, as amended, this Registration Statement has been signed by the following persons in the capacities and on the dates indicated. SIGNATURES TITLE DATE - ----------------------------------- ------------------------- ---------------- Chairman of the Board of /s/ SAM WYLY* Directors and Chief - ----------------------------------- Executive Officer June 27, 1994 Sam Wyly (Principal Executive Officer) /s/ CHARLES J. WYLY, JR.* - ----------------------------------- Vice Chairman of the June 27, 1994 Charles J. Wyly, Jr. Board of Directors /s/ JACK E. BUSH* President, Chief - ----------------------------------- Operating Officer and June 27, 1994 Jack E. Bush Director /s/ WILLIAM O. HUNT* - ----------------------------------- Director June 27, 1994 William O. Hunt - ----------------------------------- Director Richard E. Hanlon - ----------------------------------- Director F. Jay Taylor /s/ MICHAEL C. FRENCH* - ----------------------------------- Director June 27, 1994 Michael C. French /s/ EVAN C. WYLY* - ----------------------------------- Director June 27, 1994 Evan C. Wyly /s/ DONALD R. MILLER, JR.* Vice President -- Market - ----------------------------------- Development, and June 27, 1994 Donald R. Miller, Jr. Director Executive Vice President /s/ R. DON MORRIS* and Chief Financial - ----------------------------------- Officer (Principal June 27, 1994 R. Don Morris Financial and Accounting Officer) *By: /s/ MARK V. BEASLEY - ----------------------------------- Mark V. Beasley, ATTORNEY-IN-FACT II-5 INDEX TO EXHIBITS
SEQUENTIALLY EXHIBIT NUMBERED NUMBER DESCRIPTION OF EXHIBIT PAGE - ----------- --------------------------------------------------------------------------------------------- ------------ 1.1 -- Underwriting Agreement.(2) 1.2 -- Subscription Agreement.(2) 2.1 -- Agreement and Plan of Merger among Michaels Stores, Inc. LWA Acquisition Corporation and Leewards Creative Crafts, Inc.(2) 2.2 -- First Amendment to Agreement and Plan of Merger dated as of June 2, 1994 among Michaels Stores, Inc., LWA Acquisition Corporation and Leewards Creative Crafts, Inc.(3) 2.3 -- Stock Purchase Agreement, dated as of February 16, 1994, among Michaels Stores, Inc., Treasure House Stores, Inc. and the stockholders of Treasure House Stores, Inc.(4) 2.4 -- Amendment No. 1 to Stock Purchase Agreement.(4) 2.5 -- Agreement and Plan of Merger, dated as of March 3, 1994, among Michaels Stores, Inc. and the other parties listed therein.(2) 2.6 -- Amendment No. 1 to Agreement and Plan of Merger, dated as of March 3, 1994, among Michaels Stores, Inc. and the other parties listed therein.(2) 4.1 -- Restated Certificate of Incorporation of Michaels Stores, Inc.(5) 4.2 -- Bylaws of Michaels Stores, Inc. as amended and restated.(6) 4.3 -- Form of Common Stock Certificate.(6) 4.4 -- Common Stock and Warrant Agreement dated as of October 16, 1984 between Michaels Stores, Inc. and Peoples Restaurants, Inc., including form of Warrant.(7) 4.5 -- First Amendment to Common Stock and Warrant Agreement dated October 31, 1984 between The First Dallas Group, Ltd. and Michaels Stores, Inc.(7) 4.6 -- Second Amendment to Common Stock and Warrant Agreement dated November 28, 1984 between First Dallas Investments -- Michaels I, Ltd. and Michaels Stores, Inc.(7) 4.7 -- Third Amendment to Common Stock and Warrant Agreement dated February 27, 1985 between First Dallas Investments -- Michaels I, Ltd., The First Dallas Group, Ltd., Sam Wyly, Charles J. Wyly, Jr. and Michaels Stores, Inc.(8) 4.8 -- Amendment to Common Stock and Warrant Agreement dated September 1, 1992 between Michaels Stores, Inc., The Andrew David Sparrow Wyly Trust, Charles J. Wyly, Jr., The Martha Caroline Wyly Trust, The Charles Joseph Wyly, III Trust, The Emily Ann Wyly Trust, The Jennifer Lynn Wyly Trust, Donald R. Miller, Jr., Evan A. Wyly, The Laurie Louise Wyly Trust, The Lisa Lynn Wyly Trust, The Sam Wyly and Rosemary Wyly Children's Trust No. 1 of 1965 fbo Kelly Wyly and Tallulah, Ltd.(5) 4.9 -- Indenture, dated as of January 22, 1993, between Michaels Stores, Inc. and NationsBank of Texas, N.A., as Trustee, including the form of 4 3/4%/6 3/4% Step-up Convertible Subordinated Note, included therein.(7) 5 -- Opinion of Jackson & Walker.(2) 8 -- None. 12 -- None. 15 -- None. 23.1 -- Consent of Ernst & Young.(1)
SEQUENTIALLY EXHIBIT NUMBERED NUMBER DESCRIPTION OF EXHIBIT PAGE - ----------- --------------------------------------------------------------------------------------------- ------------ 23.2 -- Consent of Deloitte & Touche.(1) 23.3 -- Consent of Jackson & Walker (included in the opinion of Jackson & Walker, L.L.P. filed as Exhibit 5 to this Registration Statement). 24 -- Power of Attorney.(2) 25 -- None. 26 -- None. 27 -- None. 28 -- None. 99 --Credit Agreement dated as of June 17, 1994 among Michaels Stores, Inc., NationsBank of Texas, N.A. and the other lenders signatory thereto.(1) - ------------------------ (1) Filed herewith. (2) Previously filed. (3) Previously filed as an exhibit to the Registrant's Quarterly Report on Form 10-Q for the quarter ended May 1, 1994 and incorporated herein by reference. (4) Previously filed as an exhibit to the Registrant's Registration Statement on Form S-3 (No. 33-52311) and incorporated herein by reference. (5) Previously filed as an exhibit to the Registrant's Registration Statement on Form S-8 (No. 33-54726) and incorporated herein by reference. (6) Previously filed as an exhibit to the Registrant's Annual Report on Form 10-K for the year ended January 31, 1994 and incorporated herein by reference. (7) Previously filed as an exhibit to the Registrant's Annual Report on Form 10-K for the year ended January 31, 1993 and incorporated herein by reference. (8) Previously filed as an exhibit to the Registrant's Registration Statement on Form S-1 (No. 33-9456) and incorporated herein by reference.
DESCRIPTION OF GRAPHIC: Inside front cover Map of the United States showing the locations of the Company's stores as of June 17, 1994, stores added through acquisitions on the West coast and stores expected to be added through the acquisition of Leewards (net of closings). EX-23.1 2 CONSENT EXHIBIT 23.1 CONSENT OF INDEPENDENT AUDITORS We consent to the reference to our firm under the captions "Selected Financial and Store Data" and "Experts" in the Pre-Effective Amendment No. 2 to the Registration Statement on Form S-3 (No. 33-53639) and related Prospectus of Michaels Stores, Inc. and to the incorporation by reference therein of our reports dated February 28, 1994, with respect to the consolidated financial statements and schedules of Michaels Stores, Inc. included or incorporated by reference in its Annual Report (Form 10-K) for the year ended January 30, 1994 filed with the Securities and Exchange Commission. ERNST & YOUNG Dallas, Texas June 27, 1994 EX-23.2 3 CONSENT OF DELOITTE & TOUCHE EXHIBIT 23.2 INDEPENDENT AUDITORS' CONSENT We consent to the use in this Pre-Effective Amendment No. 2 to Registration Statement No. 33-53639 of Michaels Stores, Inc. on Form S-3 of our report dated March 4, 1994 (May 11, 1994 as to Note 11) on the audit of the financial statements of Leewards Creative Crafts, Inc. (the "Company") as of and for the years ended January 30, 1994 and January 31, 1993, which expresses an unqualified opinion and includes an explanatory paragraph relating to the Agreement and Plan of Merger whereby the Company will become a subsidiary of Michaels Stores, Inc., appearing in the Prospectus, which is part of such Registration Statement. We also consent to the reference to us under the heading "Experts" in such Prospectus. DELOITTE & TOUCHE Chicago, Illinois June 27, 1994 EX-99 4 CREDIT AGREEMENT EXHIBIT 99 - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- CREDIT AGREEMENT $150,000,000 MICHAELS STORES, INC. NATIONSBANK OF TEXAS, N.A., AS ADMINISTRATIVE LENDER JUNE 17, 1994 - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- MICHAELS STORES, INC. TABLE OF CONTENTS Page ---- ARTICLE I DEFINITION OF TERMS Section 1.01 CERTAIN DEFINITIONS. . . . . . . . . . . . . . . . . . 1 Section 1.02 ACCOUNTING TERMS AND OTHER DETERMINATIONS. . . . . . . 18 ARTICLE II REVOLVING LOAN Section 2.01 COMMITMENT FOR REVOLVING LOAN. . . . . . . . . . . . . 18 Section 2.02 NOTES. . . . . . . . . . . . . . . . . . . . . . . . . 19 Section 2.03 EXPIRATION OF COMMITMENT TO LEND UNDER THE LOAN. . . . 19 Section 2.04 REQUEST FOR ADVANCES . . . . . . . . . . . . . . . . . 19 Section 2.05 USE OF PROCEEDS OF THE ADVANCES. . . . . . . . . . . . 20 Section 2.06 BORROWING BASE AND BORROWING BASE REPORT . . . . . . . 20 Section 2.07 COMMITMENT FEE . . . . . . . . . . . . . . . . . . . . 20 Section 2.08 ADDITIONAL FEES. . . . . . . . . . . . . . . . . . . . 20 Section 2.09 REDUCTION/TERMINATION OF COMMITMENT. . . . . . . . . . 20 Section 2.10 REPAYMENT. . . . . . . . . . . . . . . . . . . . . . . 21 Section 2.11 INTEREST . . . . . . . . . . . . . . . . . . . . . . . 21 Section 2.12 POST-DEFAULT RATE. . . . . . . . . . . . . . . . . . . 21 Section 2.13 PAYMENTS ON NON-BUSINESS DAYS. . . . . . . . . . . . . 22 Section 2.14 OPTIONAL PREPAYMENTS . . . . . . . . . . . . . . . . . 22 Section 2.15 MANDATORY PREPAYMENT . . . . . . . . . . . . . . . . . 22 Section 2.16 MANNER AND PLACE OF PAYMENTS AND PREPAYMENTS . . . . . 23 Section 2.17 COMPUTATION OF INTEREST. . . . . . . . . . . . . . . . 23 Section 2.18 INTEREST RECAPTURE . . . . . . . . . . . . . . . . . . 23 Section 2.19 INDEMNITY PROVISIONS . . . . . . . . . . . . . . . . . 23 Section 2.20 LIMITATION ON EURODOLLAR RATE BORROWINGS . . . . . . . 24 Section 2.21 DETERMINATION OF INTEREST RATES. . . . . . . . . . . . 24 Section 2.22 CONTINUATION/CONVERSION. . . . . . . . . . . . . . . . 25 Section 2.23 EFFECT OF FAILURE TO GIVE NOTICE . . . . . . . . . . . 25 Section 2.24 CAPITAL ADEQUACY . . . . . . . . . . . . . . . . . . . 25 Section 2.25 SHARING OF PAYMENTS. . . . . . . . . . . . . . . . . . 26 Section 2.26 NON-RECEIPT OF FUNDS BY ADMINISTRATIVE LENDER. . . . . 26 Section 2.27 CALCULATION OF RATES . . . . . . . . . . . . . . . . . 27 Section 2.28 BOOKING ADVANCES . . . . . . . . . . . . . . . . . . . 27 Section 2.29 QUOTATION OF RATES . . . . . . . . . . . . . . . . . . 27 Section 2.30 REPLACEMENT BY COMPANY OF A LENDER . . . . . . . . . . 28 ARTICLE III LETTERS OF CREDIT Section 3.01 LETTER OF CREDIT COMMITMENT. . . . . . . . . . . . . . 29 Section 3.02 APPLICATION FOR AND ISSUANCE OF COMMERCIAL LETTERS OF CREDIT AND STAND-BY LETTERS OF CREDIT . . . . . . . 29 Section 3.03 COMMISSION; PAYMENT OF DRAFTS DRAWN UNDER LETTERS OF CREDIT; INCORPORATION OF TERMS OF THE APPLICATIONS . . . . . . . . . . . . . . . . . . . 30 Section 3.04 REIMBURSEMENT OBLIGATION OF LENDERS. . . . . . . . . . 31 Section 3.05 SHARING OF PAYMENTS. . . . . . . . . . . . . . . . . . 32 Section 3.06 DUTIES OF ADMINISTRATIVE LENDER. . . . . . . . . . . . 32 Section 3.07 LENDERS, GENERALLY . . . . . . . . . . . . . . . . . . 33 Section 3.08 GENERAL PROVISIONS . . . . . . . . . . . . . . . . . . 33 ARTICLE IV CONDITIONS PRECEDENT Section 4.01 CONDITIONS TO THE CLOSING DATE . . . . . . . . . . . . 33 Section 4.02 CONDITIONS PRECEDENT TO EACH ADVANCE . . . . . . . . . 36 Section 4.03 CONDITIONS PRECEDENT TO EACH LETTER OF CREDIT. . . . . 36 ARTICLE V REPRESENTATIONS AND WARRANTIES Section 5.01 ORGANIZATION, AUTHORITY, AND QUALIFICATION . . . . . . 37 Section 5.02 FINANCIAL STATEMENTS . . . . . . . . . . . . . . . . . 38 Section 5.03 DEFAULT. . . . . . . . . . . . . . . . . . . . . . . . 38 Section 5.04 AUTHORIZATION AND COMPLIANCE WITH LAWS; MATERIAL AGREEMENTS; ENFORCEABILITY . . . . . . . . . . . . . . 38 Section 5.05 LITIGATION AND JUDGMENTS . . . . . . . . . . . . . . . 39 Section 5.06 OWNERSHIP OF PROPERTIES; LIENS . . . . . . . . . . . . 39 Section 5.07 USE OF PROCEEDS; MARGIN SECURITIES . . . . . . . . . . 39 Section 5.08 TAXES. . . . . . . . . . . . . . . . . . . . . . . . . 40 Section 5.09 NO APPROVALS REQUIRED. . . . . . . . . . . . . . . . . 40 Section 5.10 ERISA. . . . . . . . . . . . . . . . . . . . . . . . . 40 Section 5.11 LANDLORD'S LIENS . . . . . . . . . . . . . . . . . . . 40 Section 5.12 SUBSIDIARIES . . . . . . . . . . . . . . . . . . . . . 40 Section 5.13 SUBORDINATED DEBT. . . . . . . . . . . . . . . . . . . 40 ii ARTICLE VI AFFIRMATIVE COVENANTS Section 6.01 REPORTING REQUIREMENTS . . . . . . . . . . . . . . . . 41 Section 6.02 PERFORMANCE OF OBLIGATIONS . . . . . . . . . . . . . . 43 Section 6.03 PRESERVATION OF EXISTENCE AND FRANCHISES AND CONDUCT OF BUSINESS. . . . . . . . . . . . . . . . . . 43 Section 6.04 MAINTENANCE OF PROPERTIES. . . . . . . . . . . . . . . 43 Section 6.05 PAYMENT OF TAXES AND OTHER CHARGES . . . . . . . . . . 44 Section 6.06 INSURANCE. . . . . . . . . . . . . . . . . . . . . . . 44 Section 6.07 MAINTENANCE OF BOOKS AND RECORDS . . . . . . . . . . . 44 Section 6.08 INSPECTION OF PROPERTIES, BOOKS AND RECORDS. . . . . . 44 Section 6.09 COMPLIANCE WITH LAW. . . . . . . . . . . . . . . . . . 45 Section 6.10 EXPENSES AND LEGAL FEES. . . . . . . . . . . . . . . . 45 Section 6.11 COMPLIANCE WITH ERISA. . . . . . . . . . . . . . . . . 45 Section 6.12 FURTHER ASSURANCES . . . . . . . . . . . . . . . . . . 46 Section 6.13 SYNDICATION. . . . . . . . . . . . . . . . . . . . . . 46 Section 6.14 SUBORDINATED DEBT. . . . . . . . . . . . . . . . . . . 46 ARTICLE VII NEGATIVE COVENANTS Section 7.01 FINANCIAL COVENANTS. . . . . . . . . . . . . . . . . . 47 Section 7.02 ADDITIONAL DEBT. . . . . . . . . . . . . . . . . . . . 47 Section 7.03 PERMITTED LIENS. . . . . . . . . . . . . . . . . . . . 48 Section 7.04 CASH DIVIDENDS, REDEMPTION, AND RESTRICTED PAYMENTS. . 49 Section 7.05 MERGERS, SALES OF ASSETS AND DISSOLUTIONS. . . . . . . 49 Section 7.06 CHANGES IN BUSINESS. . . . . . . . . . . . . . . . . . 51 Section 7.07 SUBSIDIARIES . . . . . . . . . . . . . . . . . . . . . 51 Section 7.08 SUBORDINATED DEBT. . . . . . . . . . . . . . . . . . . 51 Section 7.09 INVESTMENTS AND ACQUISITIONS . . . . . . . . . . . . . 52 Section 7.10 BORROWING BASE . . . . . . . . . . . . . . . . . . . . 52 Section 7.11 AMENDMENT TO MATERIAL AGREEMENTS . . . . . . . . . . . 52 Section 7.12 SALE AND LEASEBACK . . . . . . . . . . . . . . . . . . 53 Section 7.13 TRANSACTIONS WITH AFFILIATES . . . . . . . . . . . . . 53 ARTICLE VIII DEFAULT Section 8.01 EVENTS OF DEFAULT. . . . . . . . . . . . . . . . . . . 53 Section 8.02 REMEDIES UPON DEFAULT. . . . . . . . . . . . . . . . . 57 Section 8.03 WAIVERS. . . . . . . . . . . . . . . . . . . . . . . . 58 iii Section 8.04 PERFORMANCE BY ADMINISTRATIVE LENDER . . . . . . . . . 58 Section 8.05 LENDERS NOT IN CONTROL . . . . . . . . . . . . . . . . 59 Section 8.06 CUMULATIVE RIGHTS. . . . . . . . . . . . . . . . . . . 59 Section 8.07 EXPENDITURES BY LENDERS. . . . . . . . . . . . . . . . 59 ARTICLE IX AGREEMENT AMONG LENDERS Section 9.01 AGREEMENT AMONG LENDERS. . . . . . . . . . . . . . . . 60 Section 9.02 LENDER CREDIT DECISION . . . . . . . . . . . . . . . . 62 Section 9.03 BENEFITS OF ARTICLE. . . . . . . . . . . . . . . . . . 62 ARTICLE X MISCELLANEOUS Section 10.01 NO ORAL MODIFICATIONS. . . . . . . . . . . . . . . . . 63 Section 10.02 BENEFIT; ASSIGNMENTS AND PARTICIPATIONS. . . . . . . . 63 Section 10.03 SURVIVAL OF REPRESENTATIONS AND WARRANTIES . . . . . . 65 Section 10.04 NOTICES. . . . . . . . . . . . . . . . . . . . . . . . 65 Section 10.05 APPLICABLE LAW . . . . . . . . . . . . . . . . . . . . 66 Section 10.06 SEVERABILITY . . . . . . . . . . . . . . . . . . . . . 66 Section 10.07 NON-APPLICATION OF CHAPTER 15 OF TEXAS CREDIT CODE . . 66 Section 10.08 EXCEPTIONS TO COVENANTS. . . . . . . . . . . . . . . . 67 Section 10.09 INDEMNITY. . . . . . . . . . . . . . . . . . . . . . . 67 Section 10.10 AMENDMENT. . . . . . . . . . . . . . . . . . . . . . . 68 Section 10.11 WAIVER OF TRIAL BY JURY. . . . . . . . . . . . . . . . 69 Section 10.12 COUNTERPARTS . . . . . . . . . . . . . . . . . . . . . 69 Section 10.13 ENTIRE AGREEMENT . . . . . . . . . . . . . . . . . . . 69 Section 10.14 SURVIVAL AND APPLICATION OF REPRESENTATIONS AND WARRANTIES . . . . . . . . . . . . . . . . . . . . . . 69 Section 10.15 RATE PROVISION . . . . . . . . . . . . . . . . . . . . 70 iv SCHEDULES AND EXHIBITS Schedule 1.01 Stock Option Plans Schedule 4.01 Offices Where UCC-11 Searches Were Conducted Schedule 5.01 Subsidiaries and Capital Structure Schedule 5.05 Litigation Schedule 5.06 Liens Schedule 5.11 Disclosure of Landlord Actions Schedule 7.02 Existing Debt Exhibit A Note Form Exhibit B Notice of Borrowing/Conversion Exhibit C Borrowing Base Report Exhibit D Guaranties Exhibit E Loan Compliance Certificate Exhibit F Assignment and Acceptance Agreement v MICHAELS STORES, INC. $150,000,000 CREDIT AGREEMENT THIS CREDIT AGREEMENT (the "Agreement") is entered into effective as of June 17, 1994 among MICHAELS STORES, INC., a Delaware corporation ("Company"), NationsBank of Texas, N.A., as Administrative Lender (as defined below) and Lenders (as defined below). RECITALS WHEREAS, Company has requested a revolving credit facility of up to $150,000,000, such revolving credit facility to include a letter of credit facility of up to $25,000,000; and WHEREAS, Lenders are willing to provide such credit facility; NOW, THEREFORE, in consideration of the mutual covenants and agreements herein contained, and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, and subject to the terms of all the Loan Papers (as hereinafter defined) Company, Lenders and Administrative Lender agree as follows: ARTICLE I DEFINITION OF TERMS Section 1.01 CERTAIN DEFINITIONS. As used in this Agreement, the following terms shall have the respective meanings indicated below (such meanings to be applicable equally to both the singular and plural forms of such terms): "ACCOUNTS PAYABLE" means trade payables owed by Company in connection with the acquisition of inventory by Company. "ACQUISITION" means any acquisition of all or substantially all the assets of any Person, or all or a majority of the voting stock or Capital Stock of any Person. "ADMINISTRATIVE LENDER" means NationsBank of Texas, N.A. or such other successor Administrative Lender determined in accordance with the provisions of Section 9.01(b) hereof. "ADVANCE" or "ADVANCES" means the disbursement or disbursements of a sum or sums loaned by Lenders to Company pursuant to Article II of this Agreement. "AFFILIATE" means a Person that directly, or indirectly through one or more intermediaries, Controls, or is Controlled By or is Under Common Control with any other Person. "APPLICABLE LAW" means (i) all provisions of constitutions, statutes, rules, regulations and orders of governmental bodies or regulatory agencies applicable to any such Person, and all orders and decrees of all courts and arbitrators in proceedings or actions to which the Person in question is a party, including, without limitation, Applicable Environmental Laws, and (ii) in respect of contracts made or performed in the State of Texas, "Applicable Law" also means the laws of the United States of America, including, without limiting the foregoing, 12 USC SECTION SECTION 85 and 86(a), as amended to the date hereof and as the same may be amended at any time and from time to time hereafter, and any other statute of the United States of America now or at any time hereafter prescribing the maximum rates of interest on loans and extensions of credit, and the laws of the State of Texas, including, without limitation, Articles 5069-1.04 and 5069-1.07(a), Title 79, Revised Civil Statutes of Texas, 1925, as amended ("Art. 1.04"), and any other statute of the State of Texas now or at any time hereafter prescribing maximum rates of interest on loans and extensions of credit, provided however, that pursuant to Article 5069-15.10(b), Title 79, Revised Civil Statutes of Texas, 1925, as amended, Company agrees that the provisions of Chapter 15, Title 79, Revised Civil Statutes of Texas, 1925, as amended, shall not apply to the Loan hereunder. "APPLICABLE MARGIN" means with respect to (a) Eurodollar Rate Borrowings, 1% per annum, (b) Stand-By Letters of Credit, 1% on the face amount of any such Stand-By Letter of Credit and (c) Commercial Letters of Credit, 1/4 of 1% per annum. Notwithstanding the foregoing, commencing June 1, 1995, every June 1 and December 1 of each year during the term hereof, effective on such date, the Applicable Margin shall be adjusted to reflect the Applicable Margin prescribed by the chart below for the Fixed Charges Coverage Ratio as demonstrated by the most recently delivered Compliance Certificate. The Applicable Margin for each type of Advance and Letter of Credit shall mean the respective amount set forth below opposite such relevant Fixed Charges Coverage Ratio in Columns A, B and C below, until the first succeeding semi-annual anniversary that the Compliance Certificate demonstrates a change in the Fixed Charges Coverage Ratio to an amount so that another Applicable Margin shall be applied. In order to obtain an adjustment to a lower Applicable Margin, Company must demonstrate to the reasonable satisfaction of Administrative Lender the required applicable Fixed Charges Coverage Ratio. 2
COLUMN A COLUMN B COLUMN C Per Annum Rate Per Annum Rate Fixed Charges Eurodollar Rate Commercial Letters Stand-By Letters Coverage Ratio Borrowings of Credit of Credit - -------------- --------------- ------------------ ---------------- Less than 1.75 to 1.00 1.50% 0.38% 1.50% Greater than or equal to 1.75 to 1.00 but less than 3.00 to 1.00 1.00% 0.25% 1.00% Greater than or equal to 3.00 to 1.00 0.75% 0.20% 0.75%
"APPLICATION" means any Application and Agreement for Commercial Letters of Credit, or Letter of Credit Master Agreement, dictating the terms and conditions for computerized requests for Commercial Letters of Credit, in favor of Administrative Lender, in Administrative Lender's standard form for commercial letters of credit, and any stand-by letter of credit application delivered to Administrative Lender for or in connection with any Stand-By Letter of Credit pursuant to Article III hereof, in Administrative Lender's standard form for stand-by letters of credit. "ASSIGNMENT AND ACCEPTANCE AGREEMENT" means any agreement substantially in the form of EXHIBIT F hereto, pursuant to which any Lender assigns any interest in its rights and obligations hereunder (including the Obligation) in accordance with the terms and provisions of Section 10.02 hereof. "ASSUMED DEBT" means any Debt of any Person assumed by Company in connection with any Acquisition permitted pursuant to the terms of Section 7.02(v) hereof. "AUDITOR" means Ernst & Young, or any other nationally recognized accounting firm acceptable to Lenders. "AUTHORIZED FINANCIAL OFFICER" means the president, chief financial officer, vice president-finance and business planning, treasurer or assistant treasurer of Company, or such other person from time to time designated in writing by any of the foregoing. "AVAILABLE ADVANCE AMOUNT" means, with respect to Company on any date of determination, an amount equal to the lesser of (a) the Commitment minus the sum of (i) the aggregate face amount of all outstanding Letters of Credit on such date plus (ii) all outstanding Advances on such date and (b) the Borrowing Base minus the sum of (i) the 3 aggregate face amount of all outstanding Letters of Credit on such date plus (ii) all outstanding Advances on such date. "BASE RATE" means a fluctuating rate per annum as shall be in effect from time to time equal to the lesser of (a) the Highest Lawful Rate and (b) the higher of (i) the rate of interest as then in effect announced publicly by NationsBank of Texas, N.A. in Dallas, Texas from time to time as its U.S. dollar prime commercial lending rate (which rate may or may not be the lowest rate of interest charged by NationsBank of Texas, N.A. from time to time) and (ii) the sum of (A) the Federal Funds Rate, plus (B) 0.50%. The Base Rate shall be adjusted automatically as of the opening of business on the effective date of each change in the prime commercial lending rate or Federal Funds Rate, as applicable, to account for such change. "BORROWING" means a borrowing consisting of one or more Advances made to Company at the same time by Lenders under Article II of this Agreement. A Borrowing is a "BASE RATE BORROWING" if it bears interest at the Base Rate. A Borrowing is a "EURODOLLAR RATE BORROWING" if it bears interest at the Eurodollar Rate. "BORROWING BASE" means, at the time of determination thereof, an amount equal to 50% of the positive difference between (a) Eligible Inventory and (b) Accounts Payable. "BORROWING BASE REPORT" means a report, required to be delivered monthly by Company to each Lender pursuant to Section 2.06 hereof, in the form attached hereto as EXHIBIT C. "BORROWING DATE" means a date upon which an Advance is made hereunder. "BUSINESS DAY" means (a) with respect to any Base Rate Borrowing, a day on which national banks in Dallas, Texas are open for the conduct of commercial banking business, and (b) with respect to any Eurodollar Rate Borrowing, a day on which business is conducted in the interbank Eurodollar market and on which national banks in Dallas, Texas are open for the conduct of commercial banking business. "CAPITAL STOCK" means, as to any Person, the equity interests in such Person, including, without limitation, the shares of each class of capital stock of any Person that is a corporation and partnership interests (general and limited) in any Person that is a partnership. "CASH EQUIVALENTS" means (a) money market funds that invest only in debt securities (including, without limitation, bankers' acceptances, bearer deposit notes, loan participations, promissory notes and medium-term notes) which mature within 400 days after the date of purchase and (i) for any such investment issued by a financial institution, the issuer (A) maintains a long-term debt rating of at least "BBB" (or its then equivalent) according to Standard & Poor's Corporation or a Thompson Bankwatch rating of at least "C" and (B) has a combined capital and surplus and undivided profits of not less than $1,000,000, or any other financial institution if the amount on deposit is fully insured by the Federal Deposit 4 Insurance Corporation, and (ii) for any corporate issuer, such investment is rated "P-1" (or its then equivalent) according to Moody's Investors Service, Inc., "A-1" (or its then equivalent) according to Standard & Poor's Corporation, "F-1" (or its then equivalent) according to Fitch's Investors Service, Inc. or "D-1" (or its then equivalent) according to Duff & Phelps, or a better rating, or, which, if unrated, are determined by the fund to be of comparable quality to debt securities which have such ratings, and (b) investments (directly or through a money market mutual fund) in (i) certificates of deposit, repurchase agreements, and other interest bearing deposits or accounts with United States commercial banks having a combined capital and surplus of at least $100,000,000, whose debt obligations have one of the three highest ratings obtainable from Standard & Poor's Corporation or Moody's Investors Service, Inc., which certificates, repurchase agreements, deposits, and accounts mature within one year from the date of investment, (ii) obligations issued or unconditionally guaranteed by the United States government, or issued by any agency or instrumentality thereof and backed by the full faith and credit of the United States government, which obligations mature within one year from the date of investment, (iii) direct obligations issued by any state or political subdivision of the United States, which mature within one year from the date of investment and have the highest rating obtainable from Standard & Poor's Corporation or Moody's Investors Service, Inc. on the date of investment, and (iv) commercial paper which has one of the highest ratings obtainable from Standard & Poor's Corporation or Moody's Investors Service, Inc. "CHANGE IN CONTROL" means (a)(i) the acquisition of all or substantially all assets of Company by any Person or affiliated group of Persons, or (ii) the acquisition by any person (as "person" is defined in section 13(d) of the Securities Exchange Act of 1934, as amended), in a single transaction or series of transactions, of the beneficial ownership of 50% or more of the outstanding voting stock of Company (other than acquisitions by (A) any Persons or group of Persons acting together, who hold beneficially or of record, in excess of 10% of the outstanding voting stock of Company in the aggregate on the Closing Date, or (B) any of Sam Wyly, Charles J. Wyly, Jr., any Person under the Control of Sam Wyly or Charles J. Wyly, Jr. or any family member of Sam Wyly or Charles J. Wyly, Jr.) or (b) any "Change in Control" as described and set forth in the Subordinated Debt documentation. "CLOSING DATE" means June 17, 1994. "COMMERCIAL LETTERS OF CREDIT" means commercial letters of credit issued by Administrative Lender on behalf of Lenders from time to time at the request of and for the account of Company pursuant to Article III hereof, and all such renewals and extensions thereof. "COMMITMENT" means $150,000,000 as such amount may be terminated or reduced in accordance with Section 2.09 hereof from time to time, which such amount includes the Letter of Credit Commitment. 5 "CONTROL" or "CONTROLLED BY" or "UNDER COMMON CONTROL" means possession, directly or indirectly, of power to direct or cause the direction of management or policies (whether through ownership of voting securities, by contract or otherwise); provided, however, that in any event any Person which beneficially owns, directly or indirectly, 10% or more (in number or votes) of the securities having ordinary voting power for the election of directors of a corporation shall be conclusively presumed to control such corporation. "CURRENT ASSETS" means, as of the date of any determination thereof, such assets of Company and its Subsidiaries as would be required by GAAP to be included as current assets on the consolidated balance sheet of a corporation conducting a business the same as or similar to that of Company. "CURRENT LIABILITIES" means, as of the date of determination thereof, all indebtedness which by its terms is payable on demand or matures not more than one year from the date of determination thereof, fixed sinking fund payments or other prepayments to be made with respect to any indebtedness within one year after the date of determination thereof and all of the items which in accordance with GAAP would be included as current liabilities on the consolidated balance sheet of Company and its Subsidiaries. "DEBT" means, with respect to Company and its Subsidiaries, (i) all indebtedness, direct or indirect, whether or not represented by bonds, debentures, notes or other securities, for the repayment of money borrowed, (ii) all deferred indebtedness for the payment of the purchase price of property or assets purchased, (iii) all indebtedness under any lease which, under GAAP, is required to be capitalized for balance sheet purposes, (iv) all guaranties, endorsements, assumptions or other contingent obligations, in respect of, or to purchase or otherwise acquire, indebtedness of others, (v) all contingent obligations (as defined in accordance with GAAP) of any type whatsoever (excluding contingent obligations arising as a result of litigation listed on SCHEDULE 5.05 or with respect to which Company's reasonable expectation is that such litigation will result in a liability or other obligation of less than $1,000,000 in the aggregate for Company or any such Subsidiary), and (vi) all indebtedness secured by any mortgage, pledge, security interest or lien existing on property owned by any of Company and its Subsidiaries, whether or not the indebtedness secured thereby shall have been assumed by any of Company and its Subsidiaries; provided that under no circumstances shall trade payables of Company and its Subsidiaries incurred in the ordinary course of business be included in this definition of "Debt". "DEFAULT" means the occurrence of any event which, with the lapse of time or notice or both, would become an Event of Default. "DIVIDEND" means, as to any Person, (a) any declaration or payment of any dividend (other than a dividend in stock or the right to acquire stock) on, or the setting aside or the creation of a sinking fund with respect to, or the making of any pro rata distribution, loan, advance or investment to or in any holder (in its capacity as a shareholder) of, any Capital Stock of such Person, or (b) any purchase, redemption, or other acquisition or retirement for 6 value of any Capital Stock of such Person, or the setting aside of funds or the creation of a sinking fund with respect thereto. "DOLLAR(S)" and the sign "$", means lawful money of the United States of America, unless otherwise explicitly specified. "ELIGIBLE ASSIGNEE" means (a) a commercial bank organized under the laws of the United States, or any state thereof, and having total assets in excess of $1,000,000,000; (b) a savings and loan association or savings bank organized under the laws of the United States, or any state thereof, having total assets in excess of $500,000,000, and not in receivership or conservatorship; (c) a commercial bank organized under the laws of any other country which is a member of the Organization for Economic Cooperation and Development, or a political subdivision of any such country, and having total assets in excess of $1,000,000,000, provided that such bank is acting through a branch or agency located in the country in which it is organized or another country which is described in this clause; and (d) the central bank of any country which is a member of the Organization for Economic Cooperation and Development. "ELIGIBLE INVENTORY" means at any date the lesser of the actual cost or the current fair market value of inventory of Company and its Subsidiaries determined in accordance with GAAP, provided that such inventory shall constitute Eligible Inventory only if on the date as of which the determination is being made it (i) shall not be damaged or obsolete, (ii) shall not have exceeded its normal shelf life, and (iii) shall not be subject to any Lien, except Permitted Liens. Eligible Inventory will include the face amount of Commercial Letters of Credit outstanding in support of the purchase of Eligible Inventory, but shall not include any inventory of Company or any Subsidiary which is subject to a security interest securing any indebtedness of Company or such Subsidiary. "ENVIRONMENTAL LAWS" means any and all present and future Federal, state, local and foreign laws, rules or regulations, and any orders or decrees, in each case as now or hereafter in effect, relating to the regulation or protection of human health, safety and the environment or to emissions, discharges, releases or threatened releases of pollutants, contaminants, chemicals or toxic or hazardous substances or wastes (as defined in such laws, rules or regulations) into the indoor or outdoor environment, including, without limitation, ambient air, soil, surface water, ground water, wetlands, land or subsurface strata, or otherwise relating to the manufacture, processing, distribution, use, treatment, storage, disposal, transport or handling of pollutants, contaminants, chemicals or toxic or hazardous substances or wastes (as defined in such laws, rules or regulations). "ERISA" means the Employee Retirement Income Security Act of 1974, together with all amendments from time to time thereto, including any rules or regulations promulgated thereunder. 7 "EURODOLLAR RATE" means, at the time any determination thereof is to be made by Administrative Lender and for any Interest Period during which the Eurodollar Rate is applicable, the lesser of (a) the Highest Lawful Rate and (b) the sum of (i) the Applicable Margin plus (ii) the interest rate per annum (rounded upwards, if necessary to the nearest one-sixteenth of one percent) which is the quotient of (A) the rate per annum at which dollar deposits in immediately available funds are offered to Administrative Lender two Business Days before the first day of such applicable Interest Period by prime banks in the interbank Eurodollar market as at or about 11:00 A.M., Dallas, Texas time, for delivery on the first day of such applicable Interest Period, for the number of days comprised therein and in an amount equal to the aggregate amount bearing such interest rate to be outstanding for such applicable Interest Period, divided by (B) the remainder of 1.00 MINUS the Eurodollar Reserve Percentage applicable to such amounts. "EURODOLLAR RESERVE PERCENTAGE" means, with respect to each Interest Period during which the Eurodollar Rate is applicable, that percentage (expressed as a decimal) determined by Administrative Lender to be the actual reserve requirement in effect on the first day of such Interest Period for Administrative Lender, as prescribed by the Board of Governors of the Federal Reserve System (or any successor), (including any basic, supplemental and emergency reserves applicable to "eurocurrency liabilities") pursuant to Regulation D or any other then applicable regulation of the Board of Governors which prescribes reserve requirements applicable to "eurocurrency liabilities," as defined in Regulation D. The Eurodollar Reserve Percentage shall be a fixed percentage calculated at, and effective from the first day of, such Interest Period. Each determination by Administrative Lender of the Eurodollar Reserve Percentage shall, in the absence of manifest error, be conclusive and binding. "EVENT OF DEFAULT" means the occurrence of any such event set forth in Article VIII hereof, which has not been waived by Lenders in writing in accordance with the provisions of this Agreement. "FEDERAL FUNDS RATE" means, for any period, a fluctuating interest rate per annum equal for each day during such period to the weighted average of the rates on overnight federal funds transactions with members of the Federal Reserve System arranged by federal funds brokers, as published for such day (or, if such day is not a Business Day, for the next preceding Business Day) by the Federal Reserve Bank of Dallas, or, if such rate is not so published for any day which is a Business Day, the average of the quotations for such date on such transactions received by Administrative Lender from three federal funds brokers of recognized standing selected by it. "FEE LETTERS" means that certain fee letter described in Section 2.08 of this Agreement, and any other fee letters executed by Company from time to time, as any such letters may be amended, extended, modified, revised, replaced or substituted from time to time. 8 "FISCAL MONTH" means one of the twelve four- or five-week accounting periods comprising a fiscal year of Company. "FIXED CHARGES" means for Company and its Subsidiaries as of any determination date for the preceding 12-month period, the sum of (a) interest expense for such period plus (b) operating lease expense for such period all as determined and consolidated in accordance with GAAP. "FIXED CHARGES COVERAGE RATIO" means for Company and its Subsidiaries as of any determination date for the preceding 12-month period, the ratio of (a) the sum of (i) consolidated income of Company and its Subsidiaries before income taxes for such period (excluding extraordinary cash gains or losses for such period), plus (ii) interest expense for such period plus (iii) operating lease expense for such period to (b) Fixed Charges. "GAAP" means generally accepted accounting principles, applied on a consistent basis, set forth in Opinions of the Accounting Principles Board of the American Institute of Certified Public Accountants and/or in statements of the Financial Accounting Standards Board and/or their successors which are applicable in the circumstances as of the date in question; and the requisite that such principles be applied on a consistent basis means that the accounting principles observed in a current period are comparable in all material respects to those applied in a preceding period. "GUARANTIES" means each of the Guaranty Agreements in substantially the form of EXHIBIT D attached hereto executed by each of the Guarantors, and "GUARANTY" means any of the Guaranties, as each may be amended, modified, renewed, extended or replaced from time to time. "GUARANTORS" means each Subsidiary and each Person that may hereafter be required to execute a Guaranty under the terms of this Agreement, and "GUARANTOR" means any one of the Guarantors. "HAZARDOUS MATERIAL" means, collectively, (a) any petroleum or petroleum products, flammable explosives, radioactive materials, asbestos in any form that is or could become friable, insulation, transformers or other equipment that in each case contains dielectric fluid containing polychlorinated biphenyls (PCB's), (b) any chemicals or other material or substances which are now or hereafter become defined as or included in the definition of "hazardous substances", "hazardous wastes", "restricted hazardous wastes", "toxic substances", "toxic pollutants", "contaminants", "pollutants" or words of similar import under any Environmental Law and (c) any other chemical or other material or substance, exposure to which is now or hereafter prohibited, limited or regulated under any Environmental Law. "HIGHEST LAWFUL RATE" means at the particular time in question the maximum rate of interest which, under Applicable Law, Lenders are then permitted to charge on the 9 Obligations. If the maximum rate of interest which, under Applicable Law, Lenders are permitted to charge on the Obligations shall change after the date hereof, the Highest Lawful Rate shall be automatically increased or decreased, as the case may be, from time to time as of the effective time of each change in the Highest Lawful Rate without notice to Company. For purposes of determining the Highest Lawful Rate under the Applicable Law of the State of Texas, the applicable rate ceiling shall be (i) the indicated rate ceiling described in and computed in accordance with the provisions of Section (a)(1) of Art. 1.04 or (ii) if the parties subsequently contract if allowed by Applicable Law after notice, the quarterly ceiling or the annualized ceiling computed pursuant to Section (d) of Art. 1.04; provided, however, that at any time the indicated rate ceiling, the quarterly ceiling or the annualized ceiling shall be less than 18% per annum or more than 24% per annum, the provisions of Sections (b)(1) and (2) of said Art. 1.04 shall control for purposes of such determination, as applicable. "INDENTURE" has the meaning ascribed thereto in the definition of Subordinated Debt herein. "INTEREST PERIOD" means, (a) as to any portion of the Loan bearing interest at the Base Rate, as described in subsection (i) below, (b) as to any portion of the Loan bearing interest at the Eurodollar Rate, a period of one month, two months, three months or six months, as Company may elect in the manner set forth in Section 2.04 or Section 2.22 hereof, as the case may be, provided that: (i) the Interest Period for Advances hereunder which are to bear interest at the Base Rate shall commence on the date each such Advance is made or converted to a Base Rate Borrowing and shall end on the earlier of the Maturity Date or the first Payment Date after the Advance during the term of this Agreement; (ii) the initial Interest Period for Advances hereunder which are to bear interest at the Eurodollar Rate shall commence on the date each such Advance is made or converted to a Eurodollar Rate Borrowing, and each Interest Period occurring thereafter for such Advance shall commence on the day on which the next preceding Interest Period for such Advance expires; and (iii) no Interest Period shall extend beyond the Maturity Date. "INVESTMENT" in any Person means any investment, whether by means of securities purchase, loan, advance, extension of credit, capital contribution or otherwise, in or to such Person or the subordination of any claim against such Person to other indebtedness of such Person, excluding Acquisitions, provided that, Company is permitted to subordinate any claim against any Person to other indebtedness of such Person so long as (a) there exists no Default or Event of Default before and immediately after such action and (b) such action is taken only in connection with the settlement of litigation involving Company or any Subsidiary. 10 "LAW" means all statutes, laws, ordinances, regulations, orders, writs, injunctions or decrees of the United States, any state or commonwealth, any municipality, any foreign country, any territory or possession, or any Tribunal. "LENDERS" means Administrative Lender and each other Lender signatory hereto or from time to time a party hereto in accordance with the terms of Section 10.02 hereof and pursuant to an Assignment and Acceptance Agreement (such Lenders together with NationsBank of Texas, N.A. collectively referred to herein as "Lenders" and individually, each a "Lender"). "LETTERS OF CREDIT" means the Stand-By Letters of Credit and Commercial Letters of Credit, as each may be amended, modified, renewed or extended from time to time. "LETTER OF CREDIT COMMITMENT" means an amount equal to the lesser of (a) $25,000,000 or (b) the difference between $150,000,000 minus the aggregate outstanding Advances under the Loan or (c) the difference between the Commitment minus the aggregate outstanding Advances under the Loan. "LIEN" means any mortgage, deed of trust, pledge, security interest, encumbrance, lien, option, easement, preference, priority, hypothecation, assignment, tax lien, mechanic's lien, materialmen's lien or charge or encumbrance of any kind (including any conditional sale or other title retention agreement, any financing lease having substantially the same economic effect as any of the foregoing, and the filing of, or agreement to give, any financing statement under the Uniform Commercial Code of Texas or comparable law of any jurisdiction). "LITIGATION" means any action, suit or proceeding, at law or in equity, and/or any claim or investigation, conducted or threatened by or before any Tribunal, including, but not limited to, proceedings, claims, lawsuits, and/or investigations under or pursuant to any occupational safety and health, antitrust, unfair competition, securities, tax, or other laws, or under or pursuant to any contract, agreement, or other instrument. "LOAN COMPLIANCE CERTIFICATE" means any and each certificate in the form of EXHIBIT E hereto from time to time delivered by Company to Administrative Lender pursuant to the terms of this Agreement. "LOAN PAPERS" means this Agreement and all documents executed in connection with or pursuant to or contemplated by this Agreement, whether executed prior to or contemporaneously herewith, or subsequent to the execution hereof, including, without limitation, each of the Notes, the Guaranties, all Applications, all Letters of Credit, all Assignment and Acceptance Agreements, all Fee Letters, each certificate or report relating to the Borrowing Base, each Loan Compliance Certificate and all other security agreements, pledges, documents, certificates, agreements, mortgages, deeds of trust, other fee letters, waiver letters, other instruments or documents granting a security interest and/or lien in any 11 assets of any Person securing the Obligations, and other instruments contemplated hereby, or executed or delivered by Company or its Subsidiaries pursuant hereto or in connection herewith from time to time, as each may be amended, modified, renewed, substituted or extended from time to time. "LOAN" means the loan made or to be made by Lenders to Company pursuant to Section 2.01 of this Agreement, the Letter of Credit facility pursuant to Article III hereof, and any other extensions of credit made by Lenders to Company pursuant to this Agreement and any amendment thereto or extension thereof. "M/A ENTITY" has the meaning ascribed thereto in Section 7.05 hereof. "MAJORITY LENDERS" means any combination of Lenders having at least 66.67% of the aggregate amount of Advances outstanding hereunder; provided, however, that if no Advances are outstanding, such term means any combination of Lenders having aggregate Specified Percentages equal to at least 66.67%. "MATERIAL ADVERSE CHANGE" means any circumstance or event that (a) can reasonably be expected to cause a Default or Event of Default, (b) otherwise can reasonably be expected to (i) be material and adverse to the continued operation of Company and its Subsidiaries taken as a whole, or (ii) be material and adverse to the financial condition, business operations, prospects or properties of Company and its Subsidiaries taken as a whole, (c) could reasonably be expected to adversely affect the performance by Company of its obligations under the Loan Papers, or (d) in any manner whatsoever does or can reasonably be expected to materially and adversely affect the validity or enforceability of any of the Loan Papers. "MATURITY DATE" means June 16, 1997 or such earlier date as the Loan becomes due and payable, regardless of how such maturity is brought about, whether at stated maturity, by acceleration, scheduled reduction or otherwise. "MAXIMUM AMOUNT" means, under Applicable Law, the maximum amount of interest which Lenders are permitted to charge and collect from Company on the Obligations. "MULTI-EMPLOYER PLAN" means a multiemployer plan, as defined in Section 4001(a)(3) of ERISA, to which Company, any Subsidiary, or any ERISA Affiliate is making or accruing an obligation to make contributions, or has within any of the preceding six plan years made or accrued an obligation to make contributions, such plan being maintained pursuant to one or more collective bargaining agreements. "NCMI" means NationsBanc Capital Markets, Inc. "NET WORTH" means the consolidated net worth of Company and its Subsidiaries, determined in accordance with GAAP. 12 "NOTES" means each promissory note in substantially the form of EXHIBIT A attached hereto, evidencing indebtedness of Company to each Lender under the Loan, and any amendments, modifications, extensions, renewals or replacements thereof. "NOTICE OF BORROWING/CONVERSION" shall have the meaning given to such term in Section 2.04 of this Agreement and shall be in substantially the form of EXHIBIT B attached hereto. "OBLIGATIONS" means all present and future obligations and indebtedness (including, without limitation, the Reimbursement Obligations), and all renewals, modifications and extensions thereof, or any part thereof, of Company and all Subsidiaries to Lenders now existing or hereafter arising, pursuant to or in connection with the Loan Papers, including all interest accruing thereon and reasonable attorneys' fees and expenses of Administrative Lender incurred in connection with this Agreement and the Loan Papers and reasonable attorneys' fees and expenses of Lenders incurred in connection with the enforcement of Loan Papers and collection of Debt hereunder, as provided in the Loan Papers, regardless of whether such obligations and indebtedness are direct, indirect, fixed, contingent, liquidated, unliquidated, joint, several, or joint and several, including, but not limited to, the indebtedness and obligations evidenced by this Agreement, the Notes, the Applications, the Letters of Credit, and any and all other Loan Papers. "PAYMENT DATE" means the first Business Day of each February, May, August and November during the term of this Agreement, commencing with the first such date to occur after the Closing Date and ending after payment in full of all Advances and Obligations. "PBGC" means the Pension Benefit Guaranty Corporation established under ERISA. "PERMITTED LIENS" means any one or more of the following: (a) Liens for taxes or assessments either not yet delinquent or the validity or amount of which is being contested in good faith by appropriate proceedings diligently prosecuted and as to which adequate reserves shall have been set aside in conformity with GAAP; (b) Deposits or pledges to secure the payment of workers compensation, unemployment insurance or other social security benefits or obligations, or to secure the performance of bids, trade contracts, public or statutory obligations, surety or appeal bonds and other obligations of a like nature incurred in the ordinary course of business; (c) Materialmen's, mechanics', workmen's, repairmen's, or other like liens arising in the ordinary course of business or by operation of Law to secure obligations not yet delinquent or which within ten days of any lien filing by the lien claimant are being contested by Company or Subsidiary in good faith and for which (a) adequate 13 reserves shall have been set aside in conformity with GAAP or (b) as to which adequate bonds shall have been obtained; (d) (i) Existing Liens as disclosed on SCHEDULE 5.06, (ii) other Liens in existence on the Closing Date that do not constitute blanket Liens on any of Company's or its Subsidiaries' equipment, inventory, accounts or other receivables, and (iii) Liens on real property in existence on the Closing Date, or renewals and extensions of any thereof, so long as such Liens are not expanded to cover any additional property or assets of Company; (e) Liens securing the deferred purchase price payment for assets, which Liens are created at the time of, or substantially simultaneously with, acquisition of such assets, provided that in any such case (i) no such Lien shall extend to or cover any other property or assets of Company or of any Subsidiary, as the case may be, and (ii) the aggregate principal amount of the indebtedness secured by all such Liens in respect of any such property or assets shall not exceed the greater of (A) the fair market value of such property or assets at the time of such acquisition, or (B) the good faith allocated purchase price of such assets; and (f) consensual landlord's Liens and landlord's Liens arising by operation of law. "PERSON" means an individual, partnership, joint venture, corporation, trust, Tribunal, unincorporated organization, and government, or any department, agency, or political subdivision thereof. "PLAN" means any plan subject to Title VI of ERISA and maintained for employees of Company or any Subsidiary, or of any member of a controlled group of corporations, as the term "controlled group of corporations" is defined in Section 1563 of the Internal Revenue Code of 1986, as amended, of which Company or a Subsidiary is a part. "PRO RATA" and "PRO RATA PART" as to each Lender means according to its Specified Percentage of the aggregate amount of the Loan and Reimbursement Obligations, PLUS its Specified Percentage of the stated amount of Letters of Credit outstanding hereunder; provided, however, that if there are no Advances or Letters of Credit outstanding hereunder, such terms means, as to each Lender, according to its Specified Percentage of the aggregate Commitment hereunder. "REIMBURSEMENT NOTICE" has the meaning ascribed thereto in Section 2.24 hereof. 14 "REIMBURSEMENT OBLIGATION" means the obligation (whether or not choate) of Company to reimburse Administrative Lender for the account of Lenders in their Specified Percentages for draws under Letters of Credit. "RELEASE" means any release, spill, emission, leaking, pumping, injection, deposit, disposal, discharge, dispersal, leaching or migration into the indoor or outdoor environment, including, without limitation, the movement of Hazardous Materials through ambient air, soil, surface water, ground water, wetlands, land or subsurface strata. "REPORTABLE EVENT" means a reportable event as defined in Section 4043 of ERISA and the regulations issued under such section, with respect to a Plan, including any failure to meet the minimum funding standard of Section 412 of the Code and of Section 302 of ERISA. "RESTRICTED PAYMENT" means (a) the declaration or payment of Dividends by, or distribution (in cash, property, obligations or other securities, Capital Stock or any combination thereof) on account of, or (b) other payments or distributions (whether made by Company or any of its Subsidiaries and whether by reduction of capital or otherwise) on account of, or (c) the setting apart of money for a sinking or other analogous fund (whether by Company or any of its Subsidiaries) for the purchase, redemption, retirement or other acquisition of any shares of, any class of Capital Stock of Company or any warrant, option or other right to acquire such Capital Stock, but excluding Dividends or other distributions payable solely in common stock or partnership interests of Company (having identical rights as the then-outstanding partnership interests of Company) or rights to acquire common stock or partnership interests of Company (having identical rights as the then-outstanding partnership interests of Company). "RIGHTS" means with respect to any Person, the rights, remedies (equitable or legal), claims, causes of action, powers, and privileges granted to such Person pursuant to any or all of this Agreement, the Notes, the other Loan Papers or any other document, instrument or other agreement heretofore, now, or hereafter executed in connection herewith, whether granted or arising pursuant to the express provisions of any of the foregoing, or at law, or in equity, by constitution, statute, case or otherwise. "SPECIAL COUNSEL" means the law firm of Donohoe, Jameson & Carroll, P.C. or any other counsel selected from time to time by Administrative Lender. 15 "SPECIFIED PERCENTAGE" means with respect to each Lender, the percentage set forth opposite such Lender's name on the signature pages below, or as adjusted pursuant to Section 2.30(a) hereof or pursuant to, and as set forth therein, each Assignment and Acceptance Agreement. "STAND-BY LETTERS OF CREDIT" means those certain standby letters of credit issued by Administrative Lender on behalf of Lenders for the account of Company in accordance with Article III hereof, and all such letters of credit issued by Administrative Lender on behalf of Lenders in renewal or extension thereof. "STOCK OPTION PLANS" means those certain stock option plans, programs or arrangements in effect on the Closing Date and described on SCHEDULE 1.01 hereto. "SUBORDINATED DEBT" shall mean indebtedness of Company pursuant to those certain 4 3/4% / 6 3/4% Step-up Convertible Subordinated Notes Due 2003, issued as of January 22, 1993, under and pursuant to that certain Indenture, dated as of January 22, 1993 among Company as Issuer and NationsBank of Texas, N.A. as Trustee (the "Indenture"), as the same shall be amended, restated, modified, extended, renewed or replaced. "SUBSIDIARY" means any Person, and "SUBSIDIARIES" means all such Persons that meet either of the following criteria: (a) more than 50% of the outstanding voting securities of which shall at the time be owned or controlled, directly or indirectly, by Company or by one or more Subsidiaries, or by Company and one or more Subsidiaries, or any voluntary association, joint stock company, voting trust or similar organization which is so owned or controlled or (b) (i) any of the outstanding voting securities of which shall at the time be owned or controlled, directly or indirectly, by Company or by one or more Subsidiaries, or by Company and one or more Subsidiaries, or any voluntary association, joint stock company, voting trust or similar organization which is so owned or controlled and (ii) such Subsidiary has received any advance or loan from Company or any Subsidiary and such loan or advance is outstanding on such date. "TERMINATION EVENT" means (a) a reportable event described in Section 4043 of ERISA and the regulations issued thereunder (other than a Reportable Event not subject to the provision for 30-day notice to the PBGC under such regulations), or (b) the withdrawal of Company or any Subsidiary from a Plan during a Plan year in which it was a "substantial employer" as defined in Section 4001(a)(2) of ERISA or (c) the filing of a notice of intent to terminate a Plan or the treatment of Plan amendment as termination under Section 4041 of ERISA or (d) the institution of proceedings to terminate a Plan by the PBGC or (e) any other event or condition which might constitute grounds under Section 4042 of ERISA for the termination of, or the appointment of a Trustee to administer, any Plan. "TOTAL LIABILITIES" means, as of the date of any determination thereof, the aggregate (after eliminating intercompany items) of all liabilities of Company and its Subsidiaries determined in accordance with GAAP (including capitalized leases). Notwithstanding 16 anything contained herein or in the other Loan Papers to the contrary, such term shall include all guaranties and liabilities relating to letters of credit (other than commercial letters of credit). "TRIBUNAL" means any state, federal, foreign or other court, or governmental department, board, bureau, agency, commission or instrumentality. "TRUSTEE" has the meaning ascribed thereto in the Indenture. Section 1.02 ACCOUNTING TERMS AND OTHER DETERMINATIONS. Unless otherwise specified herein, all accounting terms used herein shall be interpreted, all accounting determinations hereunder shall be made, and all financial statements required to be delivered hereunder shall be prepared in accordance with GAAP. References herein to one gender shall be deemed to include the other gender. All other terms used herein shall have the meanings as otherwise stated herein. ARTICLE II REVOLVING LOAN Section 2.01 COMMITMENT FOR REVOLVING LOAN. Subject to the terms and conditions of this Agreement, and provided that there exists no Default or Event of Default, Lenders agree to loan to Company in accordance with their Specified Percentages, in several Advances from time to time during the term of this Agreement until the Maturity Date, such amounts as Company may request up to an amount equal to the Available Advance Amount. Subject to the foregoing limitations, and the other terms and provisions of this Agreement, Company may borrow, repay, and reborrow Advances under the Loan under this Section 2.01. Each Eurodollar Rate Borrowing under the Loan shall be in the aggregate principal amount of $1,000,000, or in integral multiples of $100,000 in excess thereof. Each Base Rate Borrowing under the Loan shall be in the aggregate principal amount of $500,000, or in integral multiples of $100,000 in excess thereof. Section 2.02 NOTES. The indebtedness arising by reason of Advances by Lenders to Company pursuant to Section 2.01 hereof shall be evidenced by Notes, duly authorized and executed by Company in substantially the form attached hereto as EXHIBIT A, payable to the order of each Lender in the original principal amount of each Lender's Specified Percentage of the Commitment. All principal evidenced by the Notes shall be due and payable on the Maturity Date. Section 2.03 EXPIRATION OF COMMITMENT TO LEND UNDER THE LOAN. Lenders shall have no obligation to make additional Advances under Section 2.01 hereof after 1:00 P.M., Dallas, Texas time on the Maturity Date; provided, however, that Company's Obligations 17 and the Rights of Lenders under the Loan Papers shall continue in full force and effect until Company has paid and performed the Obligations in full. Section 2.04 REQUEST FOR ADVANCES. Company shall give Administrative Lender a telephonic or written notice ("Notice of Borrowing/Conversion") of any proposed Borrowing under the Loan which, in the case of telephonic notice, shall be promptly confirmed in writing and, in each case, shall be irrevocable. All telephonic notices of borrowing shall be made to NationsBank of Texas, N.A., attn.: Molly Oxford, telephone (214) 508-3255, or (800) 547-2005, facsimile (214) 508-2515, or such other person as Administrative Lender may from time to time specify. Administrative Lender shall promptly notify Lenders upon receipt of such notice, and each Lender shall, on the date of any such Borrowing, deliver to Administrative Lender at its principal office, such Lender's Specified Percentage of such Borrowing in immediately available funds in accordance with Administrative Lender's instructions. Each Notice of Borrowing/Conversion under the Loan shall be given to Administrative Lender by an Authorized Financial Officer not later than 12:00 noon, Dallas, Texas time on the date of any proposed Base Rate Borrowing requested by Company, and not later than 12:00 noon, Dallas, Texas time at least three Business Days prior to any proposed Eurodollar Rate Borrowing requested by Company. Each such Notice of Borrowing/Conversion shall specify: (i) the rate (Base Rate or Eurodollar Rate) which Company desires; (ii) the principal amount proposed to be covered; (iii) the Borrowing Date (which shall be a Business Day); (iv) a proposed Interest Period for any Advance bearing interest at an Eurodollar Rate; and (v) and certify as to satisfaction of the condition precedent set forth in Section 4.02(e) hereof. After Administrative Lender has notified Lenders of such Borrowing and upon satisfaction of the conditions precedent set forth in Article IV hereof, Administrative Lender will make such funds available to Company on the date of such Borrowing by, at Company's option, (i) wiring the funds to or for the account of Company or (ii) depositing such funds in Company's account(s) with Administrative Lender at Administrative Lender's banking house. Section 2.05 USE OF PROCEEDS OF THE ADVANCES. The proceeds of the Advances shall be used for working capital and other general corporate purposes of Company. Section 2.06 BORROWING BASE AND BORROWING BASE REPORT. Notwithstanding anything to the contrary in this Agreement or in any of the other Loan Papers, the sum of the (a) aggregate amount of all Advances outstanding at any time under the Loan, plus (b) the aggregate face amount of all outstanding Letters of Credit at any such time, shall not exceed the lesser of (i) the Commitment and (ii) the Borrowing Base. The Borrowing Base shall be computed on the Closing Date, and thereafter shall be recomputed as of the last day of each Fiscal Month utilizing a Borrowing Base Report, with appropriate completions, which shall be furnished to Administrative Lender and each Lender within 30 days after the end of each Fiscal Month and certified as to correctness by an Authorized Financial Officer; provided that the correctness of the Borrowing Base Report submitted for the 12th Fiscal Month of each fiscal year shall be qualified to the extent of adjustments reflected in the audited financial statements for such fiscal year. 18 Section 2.07 COMMITMENT FEE. Subject to Section 10.15 hereof, Company agrees to pay to Administrative Lender for the account of Lenders in their Pro Rata Part a commitment fee on the average daily amount of the Commitment minus the sum of (a) the aggregate amount of all Advances outstanding, plus (b) the aggregate face amount of all outstanding Letters of Credit, from the Closing Date to and including the Maturity Date, at the rate of one-quarter of one percent (1/4%) per annum payable in arrears, computed and payable quarterly on each Payment Date and on the Maturity Date. Section 2.08 ADDITIONAL FEES. Subject to Section 10.15 hereof, Company shall pay fees for the arranging of this facility and the underwriting of this facility in an amount agreed to in that certain Fee Letter of even date hereof, between Company, NCMI and Administrative Lender. Section 2.09 REDUCTION/TERMINATION OF COMMITMENT. (a) PARTIAL REDUCTION. Company shall have the right, upon not less than 20 Business Days' notice to Administrative Lender, which shall promptly notify Lenders, to reduce the Commitment in part; provided, however, that (i) each partial termination shall be in an aggregate amount which is not less than $5,000,000 and, if in excess thereof, an integral multiple of $1,000,000, (ii) no reduction in the Commitment shall cause any Loan to be repaid prior to the last day of its Interest Period, and (iii) in no event may the Commitment be reduced to an amount less than the sum of the aggregate amount of outstanding Advances under the Loan hereunder plus the aggregate face amount of all outstanding Letters of Credit as of such date. (b) TERMINATION. Company shall have the right, at any time, to wholly terminate the Commitment of Lenders hereunder; provided that as of the effective date of such termination, all principal and interest with respect to the Loan shall have been paid in full and Company shall have fully discharged all obligations to Lenders to the satisfaction of Lenders with respect to the Letters of Credit. Company shall give Administrative Lender written notice (which shall promptly notify Lenders) of its desire to terminate Lenders' Commitment and obligations hereunder no later than 20 Business Days prior to the date termination is desired to be effective, and the Maturity Date shall then occur. (c) GENERAL. Each reduction in any Commitment pursuant to this Section 2.09 shall reduce such Commitment of each Lender according to its Specified Percentage immediately prior to such reduction. Once reduced or terminated, the Commitment of Lenders may not be increased or reinstated. Any notice provided by Company under this Section 2.09 shall be irrevocable. Section 2.10 REPAYMENT. 19 (a) ALL ADVANCES AND OTHER OBLIGATIONS. All outstanding Advances under the Loan, all Reimbursement Obligations and all other outstanding Obligations shall be due and payable to Administrative Lender on behalf of Lenders in full on the Maturity Date. (b) BORROWINGS. Each Eurodollar Rate Borrowing shall be due and payable on the last day of its Interest Period and on the Maturity Date. Section 2.11 INTEREST. Interest, computed on the outstanding principal balance from day to day outstanding under the Notes, shall be due and payable as it accrues on the last day of each Interest Period and on the Maturity Date with respect to any Borrowing under the Loan; provided that, with respect to any Eurodollar Rate Borrowing, to the extent any Interest Period exceeds three months, interest shall also be payable on each Payment Date occurring during such Interest Period. The outstanding principal balance of the Notes shall bear interest prior to the Maturity Date at a varying rate per annum equal to the Base Rate, Eurodollar Rate as selected by Company. Section 2.12 POST-DEFAULT RATE. Subject to Section 10.15 hereof, upon the occurrence of an Event of Default and during the continuance thereof, after notice to Company by Administrative Lender, all Advances outstanding under the Loan shall bear interest at a rate per annum equal to the lesser of the Highest Lawful Rate and the Base Rate plus 5%. Section 2.13 PAYMENTS ON NON-BUSINESS DAYS. Whenever any payment to be made hereunder or under any Note shall be stated to be due on a day which is not a Business Day, the due date thereof shall be extended to the next succeeding Business Day and, with respect to payments of principal, interest shall be payable at the applicable rate during such extension; except that as to a Eurodollar Rate Borrowing, if the next succeeding Business Day is in the next calendar month, then the due date shall be the immediately preceding Business Day. Section 2.14 OPTIONAL PREPAYMENTS. Except as required by Section 2.15 or Section 2.20(c) hereof, Company shall not make any prepayments on any portion of any Eurodollar Rate Borrowing on a day which is not the last day of the applicable Interest Period with respect thereto. Subject to the provisions of the first sentence hereof, Company shall have the right, at its option, to prepay the amounts outstanding under the Notes in part at any time and from time to time, and in whole at any time, without premium or penalty. Each optional prepayment shall be in an aggregate principal amount at least equal to the lesser of (i) $100,000, or (ii) the remaining unpaid principal amount of the Notes being prepaid. Upon the prepayment of the Notes in full, accrued interest on the principal amount of such Notes shall become due and payable on such prepayment date. Unless otherwise specified by Company at the time of prepayment, each prepayment shall be applied first to payment of the principal balance of the Notes, then to the payment of accrued interest owing on the Notes, and thereafter to all other Obligations. 20 Section 2.15 MANDATORY PREPAYMENT. (a) MONTHLY. Company shall make mandatory prepayments under the Loan if, as of the last day of any Fiscal Month, the sum of the (i) total principal amount of all outstanding Advances, plus (ii) the aggregate face amount of all outstanding Letters of Credit, exceeds the lesser of (A) the Commitment or (B) the Borrowing Base. In such event, Company shall make a principal prepayment on the Loan to Administrative Lender for the account of Lenders in the amount of such excess within the earlier of (I) 5 Business Days after Company's actual knowledge thereof, or (II) 30 days after the last day of any Fiscal Month. (b) ANNUAL. During each 12-month period any Obligations are outstanding hereunder, Company shall, for one consecutive 30 day period during the period commencing December 1 and ending the following February 28 of each such 12-month period, reduce the outstanding Advances under the Loan to an amount equal to or less than the product of $200,000 times the number of store locations operating business as of December 1 of such 12-month period. Section 2.16 MANNER AND PLACE OF PAYMENTS AND PREPAYMENTS. All payments and prepayments of principal and interest on the Notes shall be made to Administrative Lender for the account of Lenders in their Pro Rata Parts, at its office at 901 Main Street, Dallas, Texas 75202, in immediately available funds. Section 2.17 COMPUTATION OF INTEREST. Subject to Section 10.15 hereof, interest on (a) Base Rate Borrowings shall be calculated on the basis of a year of 365 or 366 days, as the case may be, for the actual number of the days elapsed, and (b) interest on Eurodollar Rate Borrowings, fees and other amounts owed hereunder shall be calculated on the basis of a year of 360 days, for the actual number of days elapsed. Any changes in the rate of interest on the Notes resulting from changes in the Base Rate shall become effective as of the opening of business on the day on which such change in the Base Rate shall occur. Section 2.18 INTEREST RECAPTURE. If at any time the interest rate applicable to any Advance under the Loan or any other extension of credit pursuant to this Agreement shall exceed the Highest Lawful Rate, thereby causing the interest on such Advance or other extension of credit to be limited to the Highest Lawful Rate, then any subsequent reduction in such interest rate as provided hereunder shall not reduce the rate of interest on the Loan below the Highest Lawful Rate until the aggregate amount of interest accrued on the Loan equals the aggregate amount of interest which would have accrued on the Loan if the interest rate had not been limited to the Highest Lawful Rate. Section 2.19 INDEMNITY PROVISIONS. Company agrees to indemnify Lenders against, and pay to Administrative Lender on behalf of any such Lender on demand, amounts equal to: (i) the cost of any present and future reserve or special deposit requirements or any taxes (other than federal, state, or local taxes on or measured by the overall income of Lender or the portion thereof allocable to the applicable jurisdiction), domestic or foreign, which any 21 Lender is required to keep or pay by reason of its funding any Eurodollar Rate Borrowing (other than reserves which are already reflected in determining the rate of interest in accordance with the terms hereof); (ii) any costs or expenses incurred by any Lender as a result of Company's failure to borrow a portion of an Advance to bear interest at a Eurodollar Rate once requested and/or Company's payment or conversion for any reason (including without limitation a payment under Section 2.15 hereof or a conversion under Section 2.20(c) hereof) of all or a portion of any Eurodollar Rate Borrowings prior to the end of the Interest Period and/or Company's failure to make any payment hereunder when due, including, without limitation, any loss arising from the reemployment of funds at rates lower than the cost to such Lender of such funds. A certificate of such Lender, setting forth in reasonable detail the basis for the determination of such costs and expenses, shall constitute PRIMA FACIE evidence of such costs and expenses, absent manifest error. Section 2.20 LIMITATION ON EURODOLLAR RATE BORROWINGS. If, at any time during the term of this Agreement Administrative Lender or any Lender reasonably determines that: (a) eurodollar deposits in the appropriate amount and for the appropriate period are not being offered in the interbank eurodollar market, Administrative Lender shall promptly give notice thereof to Company (and such determination shall be conclusive on Company), and thereafter no new Eurodollar Rate Borrowings shall be permitted until such time as eurodollar deposits for the appropriate amount and for the appropriate period are again offered in the interbank eurodollar market; or (b) as a result of changes in the Law, or the adoption or making of any interpretations, directives, or regulations (whether or not having the force of law) by any court, governmental authority, or reserve bank charged with the interpretation or administration thereof, the Eurodollar Rate will not adequately and fairly reflect the cost to Lenders of making, maintaining, or funding a proposed Eurodollar Rate Borrowing that Company has requested be made or continued, then Administrative Lender shall promptly give notice to Company of such determination, and any such requested Advance shall bear interest at the Base Rate; or (c) as a result of changes in the Law, or the adoption or making of any interpretations, directives, or regulations (whether or not having the force of law) by any court, governmental authority, or reserve bank charged with the interpretation or administration thereof, it shall be or become unlawful or impossible to make, maintain, or fund any Eurodollar Rate Borrowing, Lenders' obligations to make or continue the affected Eurodollar Rate Borrowing shall be automatically canceled, and the affected Eurodollar Rate Borrowing or Borrowings shall be automatically converted to an Advance bearing interest at the Base Rate, and Company shall pay Administrative Lender any additional cost or expense which any Lender incurs as a result of any such conversion prior to the last day of the then current Interest Period for such Eurodollar Rate Borrowings, in accordance with Section 2.19 hereof. 22 Section 2.21 DETERMINATION OF INTEREST RATES. Administrative Lender shall determine each interest rate applicable to Eurodollar Rate Borrowings hereunder, and its determination thereof shall be conclusive in the absence of manifest error. Administrative Lender shall, at the request of Company, furnish such information concerning the calculation of the interest rate on any Eurodollar Rate Borrowing as Company may reasonably request. Section 2.22 CONTINUATION/CONVERSION. Subject to the limitations and provisions of this Agreement, Company shall have the option, at any time or from time to time, of continuing or converting the applicable interest rate to all or any portion of the outstanding Advances, by giving Administrative Lender a Notice of Borrowing/Conversion of any proposed continuation or conversion of such rate which, in the case of telephonic notice, shall be promptly confirmed in writing and, in each case, shall be irrevocable. All telephonic notices of continuation or conversion shall be made to NationsBank of Texas, N.A., attn.: Molly Oxford, telephone (214) 508-3255, or (800) 547-2005, facsimile (214) 508- 2515, or such other person as Administrative Lender may from time to time specify. Each Notice of Borrowing/Conversion shall be given by an Authorized Financial Officer not later than 12:00 noon, Dallas, Texas time on the date of any proposed continuation of or conversion to a Base Rate Borrowing, and not later than 12:00 noon, Dallas, Texas time at least three Business Days prior to any proposed continuation of or conversion to a Eurodollar Rate Borrowing. Each Notice of Borrowing/Conversion shall specify: (i) the rate (Base Rate or Eurodollar Rate) which Company desires; (ii) the principal amount proposed to be covered; (iii) the effective date of such continuation or conversion (which shall be a Business Day); and (iv) a proposed Interest Period for any Borrowing bearing interest at an Eurodollar Rate. Any continuation or conversion of any Advances to a Eurodollar Rate shall be in the aggregate amount of $1,000,000. Any continuation or conversion of any Advances to a Eurodollar Rate Borrowing shall be in the aggregate amount of $1,000,000 and in integral multiples of $100,000 in excess thereof. Section 2.23 EFFECT OF FAILURE TO GIVE NOTICE. If Company fails to give Administrative Lender a Notice of Borrowing/Conversion prior to the expiration of any then-relevant Interest Period with respect to any Eurodollar Rate Borrowing or the information provided in any Notice of Borrowing/Conversion is incomplete, Company shall be deemed to have elected to convert such Eurodollar Rate Borrowing, in whole, to a Base Rate Borrowing at the end of the then-relevant Interest Period. Section 2.24 CAPITAL ADEQUACY. If any Lender shall have determined that the adoption of any Applicable Law or guideline regarding the amount of capital required to be maintained by any Lender, or any change in such Law or guideline, or any change in the interpretation or administration thereof by any Tribunal, central bank or comparable agency charged with the interpretation or administration thereof, or compliance therewith by any such Lender (or any lending office of such any Lender) with any directive regarding capital adequacy (whether or not having the force of Law) of any such Tribunal, central bank or comparable agency, has or would have the effect of reducing the rate of return on such Lender's capital as a direct consequence of its obligations hereunder to a level below that which such Lender 23 could have achieved but for such adoption, change or compliance (taking into consideration such Lender's policies with respect to capital adequacy), then, such Lender shall immediately notify Company and Administrative Lender (such notice referred to herein as the "Reimbursement Notice"), and, subject to Section 2.30 hereof, Company shall pay to such Lender such additional amount or amounts as will compensate such Lender for such reduction to the extent not compensated for in the Base Rate or Eurodollar Rate, or in amounts paid by Company pursuant to Sections 2.19 or 2.20 hereof. Amounts payable to any such Lender under this Section and comparable provisions in agreements with other borrowers of such Lender shall be allocated among such Lender's borrowers in good faith and on an equitable basis (which may include a consideration of relative credit risk). A certificate of such Lender in reasonable detail setting forth the amount or amounts as shall be necessary to compensate such Lender (or participating banks or other entities pursuant to Section 10.02 hereof) as specified in this Section 2.24 shall be delivered to Company and shall be conclusive absent manifest error. Subject to Section 2.29 hereof, Company shall pay such Lender the amount shown as due on any such certificate upon demand by such Lender. Section 2.25 SHARING OF PAYMENTS. Any Lender obtaining a payment (whether voluntary or involuntary, due to the exercise of any right of set-off, or otherwise) on account of Loan or Reimbursement Obligations in excess of its Pro Rata Part shall purchase from each other Lender such participation in the Loan and Reimbursement Obligations as shall be necessary to cause such purchasing Lender to share the excess payment Pro Rata with each other Lender; provided, however, that if all or any portion of such excess payment is thereafter recovered from such purchasing Lender, the purchase shall be rescinded and the purchase price restored to the extent of such recovery, but without interest. Company agrees that any Lender so purchasing a participation from another Lender pursuant to this Section 2.25, to the fullest extent permitted by Law, may exercise all its Rights of payment (including the Right of set-off) with respect to such participation as fully as if such Lender were the direct creditor of Company in the amount of such participation. A Lender shall not be required to share any such non-routine payment to the extent that it exceeds the aggregate amount of all Loan and Reimbursement Obligations then outstanding. Section 2.26 NON-RECEIPT OF FUNDS BY ADMINISTRATIVE LENDER. Unless Administrative Lender shall have been notified by a Lender prior to the date of any proposed Advance to be made by such Lender or payment of its Specified Percentage to Administrative Lender under any provision of this Agreement (which notice shall be effective upon receipt), that such Lender does not intend to make the proceeds of any such Advance or reimbursement required under any provision of this Agreement available to Administrative Lender, Administrative Lender may assume that such Lender has made such proceeds available to Administrative Lender on such date and Administrative Lender may in reliance upon such assumption (but shall not be required to) make available to Company a corresponding amount. If such corresponding amount is not in fact made available to Administrative Lender by such Lender, Administrative Lender shall be entitled to recover such amount on demand from such Lender (or, if such Lender fails to pay such amount forthwith upon such demand, from Company) together with interest thereon in respect of each day during the 24 period commencing on the date such amount was available to Company and ending on (but excluding) the date Administrative Lender recovers such amount at a per annum rate equal to the effective rate for overnight federal funds as reported by the Federal Reserve Bank of Dallas for each applicable Business Day (or, if such day is not a Business Day, for the next preceding Business Day). Section 2.27 CALCULATION OF RATES. The provisions of this Agreement relating to calculation of the Eurodollar Rate are included only for the purpose of determining the rate of interest or other amounts to be paid hereunder that are based upon such rate, it being understood that each Lender shall be entitled to fund and maintain its funding of all or any part of a Eurodollar Rate Borrowing as it sees fit. All such determinations hereunder, however, shall be made as if each Lender had actually funded and maintained funding of each Eurodollar Rate Borrowing through the purchase in the London Interbank Market of one or more Eurodollar deposits in an amount equal to the principal amount of such Advance and having a maturity corresponding to such Interest Period. Section 2.28 BOOKING ADVANCES. Any Lender may make, carry or transfer Advances at, to or for the account of any of its branch offices or the office of any affiliate. Section 2.29 QUOTATION OF RATES. It is hereby acknowledged that the Authorized Financial Officer on behalf of Company may call Administrative Lender on or before the date on which notice of an elective interest rate is to be delivered by the Authorized Financial Officer on behalf of Company in order to receive an indication of the Eurodollar Rate then in effect, but that such projection shall not be binding upon Administrative Lender or Lenders nor affect the rate of interest which thereafter is actually in effect when the election is made. Section 2.30 REPLACEMENT BY COMPANY OF A LENDER. (a) CAPITAL ADEQUACY. If any Lender has requested compensation in accordance with the terms of Section 2.24 hereof and (i) such request is not the result of any uniform changes in the statutes or regulations for capital adequacy, (ii) there exists no Default or Event of Default hereunder, and (iii) Company and such Lender are unable to reach a written agreement regarding such request within 30 days following written notice by such Lender to Company and Administrative Lender of such request, then after the expiration of 30 days following the delivery of the Reimbursement Notice, Company may (A) replace such Lender in whole with another Eligible Assignee reasonably acceptable to Administrative Lender pursuant to an Assignment and Acceptance Agreement, or (B) reduce the Commitment in the full amount of such Lender's Specified Percentage of the Commitment and repay such Lender in full. So long as Company accomplishes the replacement or repayment of such Lender within 60 days following the delivery of the Reimbursement Notice, Company shall not owe any such Lender any amounts under Section 2.24 hereof. If Company does not accomplish either replacement or repayment of such Lender within such 60 days, Company shall owe such Lender in accordance with the terms of any written agreement reached 25 between such Lender and Company, and, if no such agreement has been reached, Company shall owe such Lender in accordance with the terms and provisions of Section 2.24 hereof. If the Commitment is reduced by Company pursuant to this Section 2.30(a), Company and Lenders agree that the Specified Percentages of each Lender will be automatically ratably adjusted to reflect such reduction of the Commitment. Each Lender agrees to the automatic readjustment of each remaining Lender's contingent liabilities under Section 3.04 hereof according to the new (adjusted) Specified Percentages. (b) ACQUIRED LENDER. If any Lender is acquired by or merges with any other Person (including any other Lender) and (i) such Lender is not the surviving Person, and (ii) there exists no Default or Event of Default hereunder, Company may replace such Lender in whole with another Eligible Assignee acceptable to Administrative Lender pursuant to an Assignment and Acceptance Agreement within thirty days following the date of consummation of any such Acquisition. (c) CERTAIN CIRCUMSTANCES. If (a) there exists no Default or Event of Default on any such date and no Default or Event of Default shall be caused by the action permitted below and (b) any Lender refuses to consent to any amendment, waiver or consent to any provision hereof or in any Loan Paper in accordance with the terms of Section 10.10 hereof (other than an amendment to increase the Commitment of such Lender), but to which each other Lender has previously agreed, then, Company may, with the prior written consent of Administrative Lender, within 90 days after the date of such consent, amendment or waiver, replace such Lender in whole with another Eligible Assignee, pursuant to an Assignment and Acceptance Agreement and otherwise in accordance with the terms of Section 10.02 hereof. ARTICLE III LETTERS OF CREDIT Section 3.01 LETTER OF CREDIT COMMITMENT. Subject to the terms and conditions of this Agreement and each Application, each Lender agrees that Administrative Lender shall, and Administrative Lender agrees on behalf of Lenders in their Pro Rata Part to, issue Commercial Letters of Credit and Stand-By Letters of Credit as requested by Company, provided that at no time shall the aggregate face amount of all Letters of Credit exceed the Letter of Credit Commitment. No Letter of Credit shall have an expiration date later than the Maturity Date. Section 3.02 APPLICATION FOR AND ISSUANCE OF COMMERCIAL LETTERS OF CREDIT AND STAND-BY LETTERS OF CREDIT. (a) COMMERCIAL LETTERS OF CREDIT. Commercial Letters of Credit issued under this Article III (i) shall be in forms acceptable to Administrative Lender, (ii) shall be issued upon at least one Business Day's notice on such date as Company may 26 designate, (iii) shall not be issued in an aggregate face amount exceeding the difference between Letter of Credit Commitment minus the aggregate face amount of all outstanding Stand-By Letters of Credit, (iv) shall be dated the date of issuance and (v) shall expire on such date as may be requested by Company, but in no event later than the earlier of (a) 365 days after their respective issuance dates or (b) the Maturity Date. Company's request for the issuance of each Commercial Letter of Credit hereunder shall be via a duly executed and completed Application. Notwithstanding anything herein or in any other Loan Papers to the contrary, in no event shall Company be entitled to request the issuance of a Commercial Letter of Credit if the issuance of such Letter of Credit would cause the sum of (i) the aggregate face amount of all Letters of Credit, plus (ii) the aggregate amount of all Advances outstanding, to exceed the lesser of (A) the Commitment and (B) the Borrowing Base. (b) STAND-BY LETTERS OF CREDIT. Each Stand-By Letter of Credit issued under this Article III (i) shall be in a form acceptable to Administrative Lender, (ii) shall be issued upon at least one Business Day's notice on such date as Company may designate, (iii) shall not be issued in an aggregate face amount of all Stand-By Letters of Credit outstanding at any one time exceeding the difference between Letter of Credit Commitment minus the aggregate face amount of all outstanding Commercial Letters of Credit, (iv) shall be dated the date of issuance and (v) shall expire on such date as may be requested by Company, but in no event later than the Maturity Date. Company's request for each issuance of a Stand-By Letter of Credit hereunder shall be via a duly executed and completed Application. Notwithstanding anything herein or in any other Loan Papers to the contrary, in no event shall Company be entitled to request the issuance of a Stand-By Letter of Credit if the issuance of such Letter of Credit would cause the sum of (i) the aggregate face amount of all Letters of Credit, plus (ii) the aggregate amount of all Advances outstanding, to exceed the lesser of (A) the Commitment and (B) the Borrowing Base. Section 3.03 COMMISSION; PAYMENT OF DRAFTS DRAWN UNDER LETTERS OF CREDIT; INCORPORATION OF TERMS OF THE APPLICATIONS. (a) Subject to Section 10.15 hereof, for the issuance of each Commercial Letter of Credit, Company shall pay: (i) to Administrative Lender for the account of Lenders in their Pro Rata Part, the Applicable Margin on the face amount of each Commercial Letter of Credit, payable by Company as it accrues upon receipt of an invoice from Administrative Lender; and (ii) to Administrative Lender for its own account an issuance fee equal to $100 for each Commercial Letter of Credit, such issuance fee to be payable by Company upon receipt of an invoice from Administrative Lender. 27 (b) Subject to Section 10.15 hereof, for the issuance of each Stand-By Letter of Credit, Company shall pay: (i) to Administrative Lender for the account of Lenders in their Pro Rata Part, the product of the Applicable Margin for any Stand-By Letter of Credit on such date of issuance, multiplied by the face amount of such Stand-By Letter of Credit, such credit fee to be payable by Company upon receipt by Company of an invoice from Administrative Lender; and (ii) to Administrative Lender for its own account an issuance fee equal to one-tenth of one percent (1/10 of 1%) per annum of the face amount of each Stand-By Letter of Credit, such issuance fee to be payable by Company upon receipt by Company of an invoice from Administrative Lender. All the terms and provisions of any and all Applications under this Article III are incorporated herein by reference; provided, however, that in the event of a conflict between the provisions of this Agreement and any Application, the provisions of this Agreement shall control. Company shall pay to Administrative Lender for the account of Lenders in their Pro Rata Part on demand an amount equal to the face amount of each draft drawn or purporting to be drawn under a Letter of Credit in accordance with the terms of the Application unless all conditions precedent under Article IV have been satisfied and there exists no Default or Event of Default, at which such time Company may request an Advance under the Loan. If for any reason Company may not or does not request an Advance under the Loan, Administrative Lender may debit Company's account(s) with Administrative Lender (up to the credit balance thereof) in order to pay each such draft, but Administrative Lender shall not be required to effect any such debit. If Company's account(s) have insufficient funds with which to pay such draft and if payment thereof is not otherwise made or provided for on the maturity date of the draft, the face amount of the maturing draft shall automatically be deemed to be an Advance under the Loan so long as there exists no Default or Event of Default, the conditions precedent under Article IV have been met and satisfied, and the total principal amount of all outstanding Advances (after treating the face amount of the draft as an Advance) would not exceed the lesser of (a) the Commitment minus the sum of the aggregate outstanding face amount of all Letters of Credit plus the aggregate outstanding amount of Advances under the Loan or (b) the Borrowing Base minus the sum of the aggregate outstanding face amount of all Letters of Credit plus the aggregate outstanding amount of Advances under the Loan. Such Advance shall be evidenced by a Notice of Borrowing/Conversion to be received by Administrative Lender not more than two Business Days following the date the draft matured. The failure of Company to transmit such Notice of Borrowing/Conversion shall not affect Company's obligation to repay such amount, and such amount shall be deemed to be a Base Rate Borrowing. Section 3.04 REIMBURSEMENT OBLIGATION OF Lenders. Each Lender (including NationsBank of Texas, N.A. in its capacity as a Lender) agrees that it shall be 28 unconditionally and irrevocably liable, without regard to the occurrence of any Default or Event of Default, to reimburse Administrative Lender on demand for such Lender's Specified Percentage of the amount of each draft paid by Administrative Lender in respect of any Letter of Credit, to the extent that such amount is not reimbursed to Administrative Lender by Company. If Administrative Lender is required at any time (whether before or after the expiration date of any Letter of Credit) to return to Company or to a trustee, receiver, liquidator, custodian or other similar official any portion of the payments made by or on behalf of Company to Administrative Lender in reimbursement of payments made by Administrative Lender under any Letter of Credit and interest thereon, each Lender shall, upon demand by Administrative Lender, forthwith pay over to Administrative Lender such Lender's Specified Percentage of such amount. All amounts payable by any Lender under this Section 3.04 shall include interest thereon from the day the applicable draw is made (or the date such Lender was to have made such reimbursement payment, as appropriate), to but not including the date such amount is paid by such Lender to Administrative Lender, at a per annum rate equal to the effective rate for overnight federal funds as reported by the Federal Reserve Bank for each applicable Business Day (or, if such day is not a Business Day, for the next preceding Business Day). The obligations of Lenders under this Section 3.04 shall continue after the Maturity Date and survive any termination of this Agreement. Section 3.05 SHARING OF PAYMENTS. Each payment made by a Lender pursuant to Section 3.04 shall be treated as the purchase by such Lender of a participating interest in the Reimbursement Obligation in an amount equal to such payment. Each Lender shall share in any interest which accrues and is paid by Company according to such Lender's Specified Percentage. All amounts recovered by Administrative Lender or any Lender hereunder or under any other Loan Papers and which are applied to the Reimbursement Obligation shall be distributed to Lenders according to their Specified Percentages. Section 3.06 DUTIES OF ADMINISTRATIVE LENDER. Administrative Lender agrees with each Lender that it will exercise and give the same care and attention to each Letter of Credit as it gives to its other letters of credit and Administrative Lender's sole liability to each Lender shall be to distribute promptly to each Lender, as and when received by Administrative Lender, each Lender's Specified Percentage of any payments made to Administrative Lender by Company under this Article III. Each Lender and Company agrees that, in paying any draft, Administrative Lender shall not have any responsibility to obtain any document (other than the drafts, certificates and other documents required by the Letter of Credit and/or this Agreement) or to ascertain or inquire as to the validity or accuracy of any such document or the authority of the person delivering any such document. None of Administrative Lender and its representatives, directors, officers, employees, attorneys or agents shall be liable to any Lender or Company for (i) any action taken or omitted in connection herewith at the request or with the approval of any Lender in its capacity as Administrative Lender, (ii) any action taken or omitted in the absence of gross negligence and the absence of wilful misconduct, (iii) any recitals, statements, representations or warranties contained in any document distributed to any Lender, (iv) the 29 creditworthiness of Company or (v) the execution, effectiveness, genuineness, validity or enforceability of any Loan Papers or any other document contemplated hereby or thereby. Administrative Lender and its officers, directors, employees, attorneys and agents shall be entitled to rely and shall be fully protected in relying on any writing, resolution, notice, consent, certificate, affidavit, letter, cablegram, telegram, telex or teletype message, statement, order, or other document or conversation believed by it or them to be genuine and correct and to have been signed or made by the proper person and, with respect to legal matters, upon opinions of counsel selected by Administrative Lender. Section 3.07 LENDERS, GENERALLY. No Lender shall be liable for the performance or nonperformance of the obligations of any other Lender under this Article III. Section 3.08 GENERAL PROVISIONS. (a) MAXIMUM AMOUNT AND TERM. At no time shall the aggregate outstanding face amount of all Letters of Credit exceed the lesser of (i) $25,000,000, (ii) the Commitment minus the aggregate outstanding Advances under the Loan and (iii) the Borrowing Base minus the aggregate outstanding Advances under the Loan. No Letter of Credit shall have an expiration date later than the Maturity Date. (b) COMPUTATION OF APPLICABLE MARGIN FOR LETTERS OF CREDIT. Subject to Section 10.15 hereof, the Applicable Margin on Commercial Letters of Credit issued hereunder shall be calculated on the basis of a year of 365 or 366 days, as the case may be, for the actual number of days such Commercial Letters of Credit remain outstanding. ARTICLE IV CONDITIONS PRECEDENT Section 4.01 CONDITIONS TO THE CLOSING DATE AND THE INITIAL ADVANCE. The obligation of each Lender to enter into this Agreement, to make each and every Advance and issue Letters of Credit hereunder is subject to the accuracy, as of the date hereof, of the representations and warranties herein contained, to the performance by Company of its obligations to be performed hereunder on or before the date of each Advance, issuance or creation, and to the satisfaction of the following further conditions: (a) REPRESENTATIONS AND WARRANTIES; NO DEFAULT OR EVENT OF DEFAULT. The representations and warranties contained in Article V hereof shall be true in all material respects on and as of the date of each Advance and each issuance of a Letter of Credit hereunder as if such representations and warranties had been made on and as of such dates; and on each such date no Default or Event of Default shall have occurred and be continuing. 30 (b) COMPANY'S RESOLUTIONS AND PROCEEDINGS. On the Closing Date, Company shall have delivered to Administrative Lender, in form and substance satisfactory to Administrative Lender and each Lender: (i) resolutions of the Executive Committee of the Board of Directors of Company, certified by its secretary or assistant secretary, which resolutions shall authorize the execution, delivery and performance by Company of this Agreement, the Notes, and the other Loan Papers to which Company is a party; (ii) a certificate of incumbency certified by the secretary or assistant secretary of Company with specimen signatures of the president or vice president and secretary or other officers of Company who will sign this Agreement, the Notes, and the other Loan Papers; (iii) certificate of incorporation of Company certified as of a recent date by the Secretary of State of the State of Delaware; (iv) bylaws of Company certified by the secretary or assistant secretary of Company; (v) recent certificate of the appropriate government officials of the State of Delaware as to the existence and good standing of Company; (vi) recent certificates of the appropriate government officials of each state in which Company conducts business evidencing the authority of Company to do business in such state; and (vii) copies of all Stock Option Plans. (c) NOTES AND LOAN PAPERS. Company shall have executed and delivered to each Lender its Note in the amount of each such Lender's Specified Percentage of the Commitment, a Loan Compliance Certificate, a Borrowing Base Report and all other Loan Papers required to be delivered on the Closing Date. (d) OPINION OF COMPANY'S COUNSEL. On the Closing Date, Company shall have delivered to Administrative Lender a favorable opinion of counsel to Company satisfactory to Administrative Lender and Lenders, dated the Closing Date, in form and substance acceptable to Administrative Lender and Special Counsel. (e) GUARANTIES. Each Subsidiary shall have executed and delivered to Administrative Lender a Guaranty in form and substance satisfactory to Special Counsel. 31 (f) SUBSIDIARY'S RESOLUTIONS AND PROCEEDINGS. Each Subsidiary shall have delivered to Administrative Lender, in form and substance satisfactory to Administrative Lender and Lenders: (i) resolutions of the Board of Directors of such Subsidiary certified by its secretary or assistant secretary, which resolutions shall authorize the execution, delivery and performance by such Subsidiary of the Guaranty and any other Loan Papers to which such Subsidiary is a party; (ii) a certificate of incumbency certified by the secretary or assistant secretary of such Subsidiary with specimen signatures of the president or vice president and secretary or other officers of such Subsidiary who will sign the other Loan Papers to which such Subsidiary is a party; (iii) certificate or articles of incorporation of such Subsidiary certified as of a recent date by the Secretary of State of the state of such Subsidiary's incorporation; (iv) bylaws of such Subsidiary certified by the secretary or assistant secretary of such Subsidiary; and (v) recent certificates of the appropriate government officials of the state of incorporation of such Subsidiary and any other state in which such Subsidiary conducts business as to the existence and good standing of such Subsidiary in such state. (g) INSURANCE. Company and each Subsidiary shall have delivered to Administrative Lender certificates of insurance or other evidence reasonably satisfactory to Administrative Lender reflecting compliance with Section 6.06 of this Agreement, including, without limitation, detailed descriptions of all self-insurance programs or proposed self-insurance programs in existence on the Closing Date. (h) LIEN SEARCH REPORT. On the Closing Date, Company shall have delivered to Administrative Lender the results of Uniform Commercial Code searches showing all financing statements and other documents or instruments on file against Company in the office of the Secretary of State for the States listed on SCHEDULE 4.01 hereto, and such Lien search reports shall show no Liens against any properties of Company except Permitted Liens. (i) LEGAL DETAILS. All proceedings to be taken in connection with the transactions contemplated by this Agreement and all documents incident thereto shall be reasonably satisfactory in form and substance to Administrative Lender, each Lender, Special Counsel and each Lender's counsel, and Administrative Lender and each Lender shall have received copies of all documents which they may reasonably request in connection with such 32 transactions and all corporate proceedings with respect thereto in form and substance satisfactory to Administrative Lender, each Lender and Special Counsel. Section 4.02 CONDITIONS PRECEDENT TO EACH ADVANCE. The obligation of each Lender to make each Advance shall be subject to the further conditions precedent that on the date of such Advance the following statements shall be true (and the delivery of each notice of borrowing under Section 2.04 hereof, or notice of continuation or conversion under Section 2.22 hereof, or the acceptance by Company of the proceeds of any Advance shall constitute a representation that on the disbursement date they are true): (a) The representations and warranties contained in Article V hereof are true and correct on such date, as though made on and as of such date, (b) No event has occurred and is continuing, or would result from such Advance (including the intended application of the proceeds of such Advance), that does or could reasonably be expected to constitute a Default or Event of Default, (c) No Material Adverse Change, as determined by Lenders shall have occurred and be continuing since January 30, 1994, (d) Upon giving effect to such Advance, the aggregate amount of the sum of (i) all outstanding Advances under the Loan plus (ii) the aggregate face amount of all outstanding Letters of Credit will not exceed the lesser of (A) the Commitment or (B) the Borrowing Base as of such date, and (e) Each Lender shall have received, in form and substance acceptable to it, such other approvals, documents, certificates, opinions and information as it may have reasonably deemed necessary or appropriate and requested in writing. Section 4.03 CONDITIONS PRECEDENT TO EACH LETTER OF CREDIT. The obligation of Administrative Lender to issue each Letter of Credit shall be subject to the further conditions precedent that on the date of such Letter of Credit issuance the following statements shall be true (and the delivery of each notice of borrowing under Section 2.04 hereof, or notice of continuation or conversion under Section 2.22 hereof, or the acceptance by Company of the proceeds of any Advance shall constitute a representation that on the disbursement date they are true): (a) The representations and warranties contained in Article V hereof are true and correct on such date, as though made on and as of such date, (b) No event has occurred and is continuing, or would result from the issuance of such Letter of Credit, that does or could constitute a Default or Event of Default, 33 (c) No Material Adverse Change, as determined by Lenders, shall have occurred and be continuing since January 30, 1994, (d) A duly completed, executed and delivered Application (executed by Company) with respect to such Letter of Credit shall have been received by Administrative Lender, (e) Upon giving effect to such Letter of Credit, the aggregate amount of the sum of (i) the aggregate face amount of all outstanding Letters of Credit, plus (ii) all outstanding Advances under the Loan will not exceed the lesser of (A) the Commitment or (B) the Borrowing Base as of such date, and (f) Administrative Lender shall have received, in form and substance acceptable to it, such other approvals, documents, certificates, opinions and information as it may have reasonably deemed necessary or appropriate and requested in writing. ARTICLE V REPRESENTATIONS AND WARRANTIES Company represents and warrants to each Lender as follows: Section 5.01 ORGANIZATION, AUTHORITY, AND QUALIFICATION. (a) Company is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware, (b) Company has the corporate power and authority to execute, deliver and perform this Agreement, the Notes, and the other Loan Papers to which it is a party, and to borrow hereunder, (c) each of Company and its Subsidiaries is in all respects duly qualified and licensed under all applicable laws or regulations to own its properties as now owned and to carry on its business as now conducted, except where the failure to so qualify could not reasonably be expected to cause a Material Adverse Change, (d) each of Company and its Subsidiaries is duly qualified as a foreign corporation to do business and is in good standing in every jurisdiction where the character of its properties or nature of its activities make such qualification necessary, except where the failure to so qualify could not reasonably be expected to cause a Material Adverse Change, (e) Company presently has no Subsidiaries except those listed on SCHEDULE 5.01 attached hereto, which schedule correctly reflects the jurisdiction of organization, the percent ownership position of Company in each such Subsidiary, the classes of Company's and each Subsidiary's Capital Stock, and the numbers of shares or partnership interests authorized and outstanding of Company and each Subsidiary, (f) each Subsidiary is a corporation duly organized, validly existing and in good standing under the laws of the state of its incorporation, and (g) each Subsidiary has the corporate power and authority to execute, deliver and perform its respective Guaranty and any other Loan Papers to which it is a party. 34 Section 5.02 FINANCIAL STATEMENTS. Company has delivered to Lender audited consolidated financial statements as at and for the fiscal year ended January 30, 1994. Such financial statements fairly reflect the financial condition of Company and its Subsidiaries as at such dates and fairly reflect the results of the operations of Company and its Subsidiaries for the periods then ended, all in conformity with GAAP. There has been no Material Adverse Change since January 30, 1994. Section 5.03 DEFAULT. Neither Company nor any Subsidiary is in default in any material respect under the provisions of any document or instrument evidencing any material obligation, indebtedness, or liability of Company or such Subsidiary, or of any agreement relating thereto, or under any order, writ, injunction, or decree of any court, and is not in default in any material respect under or in violation of any order, regulation, or demand of any Tribunal, which default or violation would have consequences which could cause a Material Adverse Change. Section 5.04 AUTHORIZATION AND COMPLIANCE WITH LAWS; MATERIAL AGREEMENTS; ENFORCEABILITY. (a) The execution, delivery and performance of this Agreement, the borrowing hereunder and the execution, delivery and performance of the Notes and the other Loan Papers by Company have been duly authorized by all requisite corporate action on the part of Company and will not violate the certificate of incorporation or bylaws of Company and will not violate any material provision of law or order of any Tribunal. The execution, delivery and performance of this Agreement, the borrowing hereunder and the execution, delivery and performance of the Notes and the other Loan Papers by Company will not conflict with, result in a breach of the provisions of, constitute a default under (or result in the imposition of any Lien, or encumbrance upon the assets of Company or any Subsidiary pursuant to the provisions of, except Permitted Liens) any indenture, mortgage, deed of trust, franchise, permit, license, note, or other agreement or instrument to which Company or any Subsidiary is a party, except to the extent any conflict, breach, or default could not reasonably be expected to cause a Material Adverse Change; and (b) the execution, delivery and performance of its respective Guaranty and any other Loan Papers to which it is a party have been duly authorized by all requisite corporate action on the part of each Subsidiary, will not violate the certificate of incorporation or articles of incorporation, as the case may be, of such Subsidiary or bylaws of such Subsidiary, and will not violate any material provision of law or order of any Tribunal. The execution, delivery and performance of its respective Guaranty and any other Loan Papers to which it is a party will not conflict with, result in a breach of the provisions of, constitute a default under (or result in the imposition of any Lien, or encumbrance upon the assets of such Subsidiary pursuant to, except Permitted Liens) the provisions of any material indenture, mortgage, deed of trust, franchise, permit, license, note, or other agreement or instrument to which any Subsidiary is a party. This Agreement, the Notes and each other Loan Paper is the legal, valid and binding obligation of Company and each Subsidiary executing and delivering the same, each enforceable in accordance with its respective terms. 35 Section 5.05 LITIGATION AND JUDGMENTS. There is no Litigation by or before any Tribunal pending, or, to the knowledge of Company, threatened against or affecting Company or any Subsidiary or involving the validity or enforceability of any of the Loan Papers, which, if adversely determined, could reasonably be expected to cause a Material Adverse Change, or materially adversely affect the ability of Company to perform its obligations as contemplated by this Agreement, other than litigation disclosed on SCHEDULE 5.05 hereto. There are no outstanding judgments against Company or any Subsidiary in excess of $1,000,000. Section 5.06 OWNERSHIP OF PROPERTIES; LIENS. Company and each Subsidiary has good and indefeasible title or valid leasehold interests in all its material properties and assets, real and personal, and none of such property or assets or leasehold interests is subject to any security interests or Liens of any kind, except Liens described on SCHEDULE 5.06 hereof and Permitted Liens. Section 5.07 USE OF PROCEEDS; MARGIN SECURITIES. The proceeds of the Loan will be used for the purposes set forth in Section 2.05 of this Agreement and for no other purposes. Neither Company nor any Subsidiary is engaged principally, or as one of its important activities, in the business of extending credit for the purpose of purchasing or carrying margin stock (within the meaning of Regulations G, U, or X of the Board of Governors of the Federal Reserve System), and no part of the proceeds of any extension of credit under this Agreement will be used to purchase or carry any such margin stock or to extend credit to others for the purpose of purchasing or carrying any such margin stock. Neither Company nor any Person acting on its behalf has taken or will take any action which might cause this Agreement or the Notes to violate any of said Regulations G, U, or X, or any other regulation of the Board of Governors of the Federal Reserve System or to violate the Securities Exchange Act of 1934, in each case as now in effect or as the same may hereafter be in effect. Section 5.08 TAXES. Company and each Subsidiary has filed all Federal and state tax returns or reports required of them, including but not limited to income, franchise, employment, and sales taxes, and have paid all tax liability to the extent the same has become due and before it may have become delinquent in accordance with such returns, and except for routine sales and use tax audits, Company knows of no pending investigations of Company or any Subsidiary by any taxing authority, or of any material pending but unassessed tax liability. Section 5.09 NO APPROVALS REQUIRED. No registration with or approval of any Tribunal is necessary for the execution or validity of this Agreement, the Notes and the other Loan Papers. Section 5.10 ERISA. Company and each Subsidiary have complied with all applicable minimum funding requirements and all other applicable and material requirements of ERISA, and there are no existing conditions which would give rise to any 36 liability thereunder. No Reportable Event (as defined in Section 4043 of ERISA) has occurred in connection with any such plan which might constitute grounds for the termination thereof by the PBGC or for the appointment by the appropriate United States District Court of a trustee to administer such plan. Section 5.11 LANDLORD'S LIENS. On the Closing Date, no landlord is exercising any of its rights with respect to any statutory or contractual landlord's liens covering the assets of Company or any Subsidiary at any warehouse facility of Company or any of its Subsidiaries, except as set forth on SCHEDULE 5.11 hereof. At all times after the Closing Date, no landlord is exercising any of its rights with respect to any statutory or contractual landlord's liens covering the assets of Company or any Subsidiary at any warehouse facility of Company or any of its Subsidiaries, except where such exercise could not reasonably be expected to cause a Material Adverse Change. Section 5.12 SUBSIDIARIES. Company has no Subsidiaries, except as described on SCHEDULE 5.01 hereto. Section 5.13 SUBORDINATED DEBT. The Obligations are designated as, and constitute "Senior Indebtedness" as defined in the Indenture, and as such, the Obligations are senior and superior in right of payment to the Subordinated Debt to the extent described in the Indenture. ARTICLE VI AFFIRMATIVE COVENANTS Company covenants and agrees that, as long as Company may borrow hereunder and until payment in full of the Obligations: Section 6.01 REPORTING REQUIREMENTS. Promptly as set forth below, Company will deliver to Administrative Lender and each Lender: (a) As soon as available, and in any event within 90 days after the end of each fiscal year, Company will furnish to each Lender a copy of the annual consolidated audit report of Company and its Subsidiaries for such fiscal year containing balance sheets, statements of income, statements of stockholders' equity, and statements of cash flow, and prepared in accordance with GAAP, certified by the Auditor to Lenders to present fairly the financial condition and results of the operations of Company and its Subsidiaries at the date and for the periods indicated therein, such audit report to be accompanied by a Loan Compliance Certificate (herein so called) in substantially the form attached hereto as EXHIBIT E, with appropriate completions, signed by an Authorized Financial Officer. 37 (b) As soon as available, and in any event within 45 days after the end of each of the first three fiscal quarters in each fiscal year, Company will furnish to each Lender a copy of an unaudited consolidated financial report of Company and its Subsidiaries as at the end of such fiscal quarter and for both the quarterly period then ended and the then-elapsed portion of the fiscal year, containing balance sheets and statements of income, and prepared in accordance with GAAP (except for the absence of footnotes and subject to changes resulting from audit and normal year-end adjustments), certified by an Authorized Financial Officer to present fairly the financial condition and results of the operations of Company and its Subsidiaries at the date and for the periods indicated therein, each such financial report to be accompanied by a Loan Compliance Certificate, with appropriate completions, signed by an Authorized Financial Officer. (c) Promptly upon the request of any Lender from time to time, copies of all material reports or letters submitted to Company or any of its Subsidiaries by the Auditor or any other accountants in connection with any annual, interim or special audit, including without limitation the comment letter submitted to management in connection with any such audit; (d) (i) Together with each set of financial statements delivered pursuant to subsection (a) and (b) above, a duly executed and completed Loan Compliance Certificate for such period, and (ii) in accordance with the terms of Section 2.06 hereof, a monthly Borrowing Base Report; (e) Immediately upon knowledge by an Authorized Financial Officer of Company of (i) the occurrence of any Default or Event of Default, or (ii) any material change in any material fact or circumstance represented or warranted in any Loan Papers, or (iii) the occurrence of any event or the existence of any circumstance which could reasonably be expected to cause a Material Adverse Change, or (iv) any default or any breach of any material provision or term under any material agreement, including without limitation, any such notice relating to any documentation related to the Subordinated Debt, a notice from an Authorized Financial Officer, setting forth the details of such occurrence and the action being taken or proposed to be taken with respect thereto; (f) Immediately after knowledge thereof by an Authorized Financial Officer of Company, notice of any Litigation pending or threatened against Company or any Subsidiary which, if determined adversely, could reasonably be expected to constitute a Material Adverse Change, together with a statement of an Authorized Financial Officer, describing the allegations of such Litigation, and the action being taken or proposed to be taken with respect thereto; (g) Immediately following notice or knowledge thereof by an Authorized Financial Officer of Company, notice of any actual or threatened loss or termination 38 of or refusal to grant or renew any material authorization or license, together with a statement of an Authorized Financial Officer, describing the circumstances surrounding the same, and the action being taken or proposed to be taken with respect thereto; (h) Promptly after filing or receipt thereof by an Authorized Financial Officer of Company, copies of all reports and notices that Company or any of its Subsidiaries (i) files or receives in respect of any Plan with or from the Internal Revenue Service, the PBGC or the United States Department of Labor, or (ii) furnishes to or receives from any holders of any Debt, if in the case of clauses (i) and (ii), any information or dispute referred to therein could reasonably be expected to result in a Default or an Event of Default or cause a Material Adverse Change; (i) As soon as possible and in any event within 10 days after Company knows that any Reportable Event has occurred with respect to any Plan of Company or any Subsidiary, a statement of an Authorized Financial Officer, describing such Reportable Event and the action being taken or proposed to be taken with respect thereto; (j) As soon as possible, and in any event within 10 days after receipt by Company, a copy of (a) any notice or claim to the effect that Company or any Subsidiary is or may be liable to any Person as a result of the Release by Company, any of its Subsidiaries, or any other Person of any hazardous substance or hazardous waste into the environment, and (b) any notice alleging any violation of any Environmental Law by Company or any Subsidiary, which could, in either case, reasonably be expected to cause a Material Adverse Change; and (k) Promptly upon request, such other information concerning the condition or operations of any of Company, its Subsidiaries, the Guarantors, and any of their Affiliates, financial or otherwise, as Administrative Lender or any Lender may from time to time reasonably request. Section 6.02 PERFORMANCE OF OBLIGATIONS. Company will duly and punctually cause to be paid and performed each of the Obligations, including, without limitation, its obligations under this Agreement and each of the other Loan Papers, as the same may be amended or modified from time to time. Section 6.03 PRESERVATION OF EXISTENCE AND FRANCHISES AND CONDUCT OF BUSINESS. Subject to the actions permitted by Section 7.05 hereof, Company will, and will cause each Subsidiary to, do or cause to be done all things necessary to preserve and keep in full force and effect its corporate existence, rights, leases, patents, and all other licenses or rights necessary to comply with all laws, regulations, rules, statutes, or other provisions applicable to Company or such Subsidiary in the operation of its business, and Company will, and will cause each Subsidiary to, continue to conduct and operate its business 39 substantially as conducted and operated during the preceding calendar year including without limitation the right to enforce all rights and remedies it may have against franchisees, tenants and subtenants as specified in any franchise agreement, lease or sublease. Section 6.04 MAINTENANCE OF PROPERTIES. Company will, and will cause each Subsidiary to, cause all of the material properties used or useful in the conduct of the business of Company or such Subsidiary to be maintained and kept in satisfactory condition, repair and working order, and supplied with all necessary equipment, and cause to be made all necessary repairs, renewals, replacements, betterments and improvements thereof, all as Company may reasonably deem to be necessary so that the business carried on in connection therewith may be properly and advantageously conducted at all times. Section 6.05 PAYMENT OF TAXES AND OTHER CHARGES. Company will, and will cause each Subsidiary to, promptly pay and discharge, or cause to be paid and discharged, all lawful taxes, assessments, and governmental charges or services imposed upon Company or such Subsidiary or upon the property, real, personal or mixed, belonging to Company or such Subsidiary or upon any part thereof, before the payment thereof shall be in default, as well as all lawful claims for labor, materials and supplies which, if unpaid, might become a lien or charge upon such property, or upon any part thereof; provided, however, that Company or such Subsidiary shall not be required to pay and discharge, or cause to be paid and discharged, any such tax, assessment, charge, levy or claim, (i) so long as the validity or amount thereof shall be contested in good faith by appropriate proceedings diligently pursued, if appropriate reserves have been provided therefor, or (ii) as to which adequate bonds have been obtained; and further provided that, with respect to liens or charges securing an amount less than $500,000, Company shall have thirty days grace to accomplish such discharge. Section 6.06 INSURANCE. Company will, and will cause each Subsidiary to, keep adequately insured either (a) by financially sound and reputable insurers such assets, business, and property of Company and each Subsidiary as are customarily insured by owners of similar property against loss or damage of the kinds customarily insured against by owners of similar property, or (b) pursuant to a plan of self-insurance established in accordance with sound and appropriate practices and in accordance with Applicable Law. Company will promptly notify Administrative Lender of any proposed cancellation or substantial modification of any material insurance policies, and/or the implementation of any plan of self-insurance. Section 6.07 MAINTENANCE OF BOOKS AND RECORDS. Company will, and will cause each Subsidiary to, maintain proper books of record and account in which entries in accordance with GAAP will be made of all dealings and transactions in relation to its business and activities. 40 Section 6.08 INSPECTION OF PROPERTIES, BOOKS AND RECORDS. Company will, and will cause each Subsidiary to, permit any Lender and/or its representatives to visit and inspect any of the properties of Company or such Subsidiary, to examine all books, records, reports, accounts and other papers, including but not limited to financial and accounting records and other contracts and records of Company or such Subsidiary, to make copies and extracts therefrom, and to discuss the affairs, finances and accounts of Company or such Subsidiary with the officers, employees, directors and auditors of Company or such Subsidiary, all at such reasonable times and with reasonable notice under the circumstances, as any Lender may reasonably request. Company will, and will cause each Subsidiary to, permit an inspection of the inventory of Company and its Subsidiaries, at the request of Majority Lenders, but no more often than once each fiscal year of Company. Section 6.09 COMPLIANCE WITH LAW. Company will, and will cause each Subsidiary to, comply with all Law applicable to its or their business, the failure to comply with which could reasonably be expected to cause a Material Adverse Change. Section 6.10 EXPENSES AND LEGAL FEES. Company agrees to pay (a) all reasonable out-of-pocket expenses of Administrative Lender, Special Counsel and other counsel to Administrative Lender in connection with the negotiation, preparation and interpretation of this Agreement and the Loan Papers, including schedules, exhibits and amendments hereto and thereto, the making of the Loan and Advances hereunder, the issuance of any Letters of Credit as issuing Lender hereunder, the review of any documents, the negotiation and preparation of any amendments, consents and waivers to this Agreement or any Loan Papers from time to time requested or required, the release of any security for the Obligation, the review and interpretation of any of the Loan Papers deemed advisable by Administrative Lender from time to time, the negotiation, preparation and interpretation of this Agreement and the Loan Papers (and any new Loan Papers) in connection with a "work-out", the collection of the Obligation or enforcement of any Loan Papers, and the reasonable fees and expenses of Special Counsel to Administrative Lender and other counsel to Administrative Lender from time to time in connection with any of the foregoing, including the consideration of legal questions relevant thereto, and (b) all such out-of-pocket expenses, and fees and expenses of counsel, incurred by each Lender in connection with the collection of the Obligation or enforcement of any Loan Papers. The obligation of Company under this Section 6.10 shall continue after the Maturity Date, and survive any termination of this Agreement. Section 6.11 COMPLIANCE WITH ERISA. Company will, and will cause each Subsidiary to, comply with all applicable minimum funding requirements and all other applicable and material requirements of ERISA so as not to give rise to any liability thereunder. Promptly after the filing thereof Company shall furnish to each Lender with regard to each employee benefit plan maintained by it or any of its Subsidiaries a copy of each annual report required to be filed pursuant to Section 103 of ERISA in connection with each such plan for each plan year. Company will notify Administrative Lender immediately of any fact, including, but not limited to, any Reportable Event arising in 41 connection with any such plan which might constitute grounds for the termination thereof by the PBGC or for the appointment by the appropriate United States District Court of a trustee to administer such plan, and will furnish to any Lender promptly upon its request therefor such additional information concerning any such plan as may be reasonably requested. Section 6.12 FURTHER ASSURANCES. Company will on request of any Lender promptly correct any defect, error or omission which may be discovered in the contents of any of the Loan Papers or in the execution or acknowledgment thereof, and will execute, acknowledge and deliver such further instruments and do such further acts as may be necessary or as may be reasonably requested by any Lender to carry out more effectively the purposes of this Agreement and the Loan Papers. Company will, promptly upon the request of Administrative Lender on behalf of any Lender, furnish to Administrative Lender copies of all such instruments, documents, and other information as Administrative Lender may reasonably request from time to time. Section 6.13 SYNDICATION. Company agrees to use its reasonable efforts to assist Administrative Lender in its syndication efforts of this facility. In such regard, Company agrees to make its senior management available at reasonable times to meet with prospective lenders and to provide Administrative Lender and any potential assignees or participants with all reasonable information deemed necessary to complete the syndication. Company further agrees to attend meetings and make presentations regarding the business and prospects of Company with prospective assignees. Administrative Lender and Lenders agree to cause any such prospective lender or participant to agree to treat any such information delivered to them pursuant to this Section 6.13 (which is otherwise not publicly available) with the same degree of confidentiality as it treats such information relating to its borrowers. Section 6.14 SUBORDINATED DEBT. Company agrees to notify the Trustee of the existence of the Obligations and Company's designation of the Obligations and the Loan as Senior Indebtedness (as defined in the Indenture), and agrees further to provide the Trustee from time to time during the term of this Agreement with all information regarding Lenders, this facility and the Obligations as is reasonably required or appropriate under the terms of the Indenture. Company agrees to promptly deliver to Administrative Lender copies of all material letters and notices, and other material information received under or pursuant to the Indenture or the Subordinated Debt. 42 ARTICLE VII NEGATIVE COVENANTS Company covenants and agrees that as long as Company may borrow hereunder and until payment in full of all the Obligations: Section 7.01 FINANCIAL COVENANTS. Company will comply with the following financial covenants and demonstrate such compliance as of the end of each fiscal quarter of Company pursuant to a Loan Compliance Certificate delivered to Lenders in accordance with the terms of Section 6.01(d)(i) hereof: (a) RATIO OF TOTAL LIABILITIES TO NET WORTH. Company will not permit the ratio of Total Liabilities to Net Worth at any time during Company's (i) second and third fiscal quarters each year during the term of this Agreement to be greater than 2.25 to 1.00, and (ii) first and fourth fiscal quarters each year during the term of this Agreement to be greater than 1.25 to 1.00. (b) FIXED CHARGES COVERAGE RATIO. Company will not permit the Fixed Charges Coverage Ratio at any time to be less than 1.30 to 1.00. (c) CURRENT RATIO. Company will not permit the ratio of (a) Current Assets to (b) the sum of (i) Current Liabilities plus (ii) amounts outstanding under this Agreement as Advances, at any time to be less than 1.50 to 1.00. Section 7.02 ADDITIONAL DEBT. Company will not, and will not permit any Subsidiary to, incur or otherwise become liable in respect of or permit to exist any Debt except (a) existing Debt shown on SCHEDULE 7.02, including the Subordinated Debt, and (b) accounts payable and accrued liabilities incurred in the ordinary course of business. So long as there exists no Default or Event of Default in existence on any such date and the incurrence of such Debt does not cause any Default or Event of Default, Michaels of Canada, Inc. may incur unsecured Debt in an aggregate amount not to exceed an amount equal to the Canadian Dollar equivalent of five million Dollars outstanding at any one time, and additionally Company and its Subsidiaries may incur or permit to exist (i) Debt secured by Permitted Liens; (ii) capitalized lease obligations existing as of the date hereof plus up to an aggregate of $10,000,000 in new capitalized leases over the term of this Agreement for Company and its Subsidiaries; (iii) Debt in the form of stand-by letters of credit from an issuing bank other than a Lender in an amount not in excess of $5,000,000 in the aggregate for Company and its Subsidiaries; (iv) Debt in the form of guaranties of indebtedness of any Subsidiary (except indebtedness of any Subsidiary which is secured as permitted in Section 7.03(b) below, provided that, if Company's obligations under such guaranty are subordinated to the Obligations upon terms and conditions acceptable to Majority Lenders, Company may guaranty indebtedness of any such Subsidiary) not in excess of $10,000,000 at any one 43 time outstanding; and (v) unsecured Debt (or secured Debt to the extent Liens are permitted under Section 7.03 below) owed by any Person (other than an Affiliate of Company) acquired by Company or any Subsidiary in a transaction permitted under Section 7.09(b) below, so long as (A) such Debt was not incurred by such Person in anticipation of such Acquisition, (B) the aggregate amount of such Debt outstanding at any time shall never exceed the lesser of (I) an amount equal to 15% of the consolidated equity base of Company and its Subsidiaries and (II) $75,000,000, and (C) if such Debt is revolving in nature, Company shall, within a reasonable period of time, use any Available Advance Amount to reduce such Debt. Any such Debt permitted to exist under Section 7.02(v) hereof may not be increased. Company shall make a prepayment on Debt permitted under Section 7.02(v) above, on any date and to the extent that (a) the aggregate of such Debt exceeds the maximum permitted levels under Section 7.02(v) above immediately, and (b) to the extent that any such Debt is revolving in nature, if and to the extent there becomes any Available Advance Amount, within a reasonable period of time thereafter. Section 7.03 PERMITTED LIENS. Company will not, and will not permit any Subsidiary to, create, assume, or permit to exist any Lien of any kind against any of the property of any character of Company or such Subsidiary, including without limitation all fixed assets and leasehold improvements, whether owned as of the date of this Agreement or hereafter acquired, except: (a) Company and its Subsidiaries may create, assume or permit to exist: (i) Permitted Liens, (ii) Liens on real property acquired directly or indirectly by Company in accordance with the terms and provisions of Section 7.09(b) hereof securing Debt permitted to exist in accordance with the provisions of Section 7.02(v) hereof that were previously existing, so long as (A) such Liens are not securing Debt of Company in excess of the fair market value of the real property and (B) such Liens are not incurred in anticipation of such Acquisition, and (iii) Liens (other than blanket Liens on Company's or its Subsidiaries' equipment, inventory, accounts or other receivables, provided that a blanket Lien on an individual Subsidiary's assets is permitted) securing Debt of Company and its Subsidiaries in the aggregate not in excess of $15,000,000 at any one time outstanding; and (b) any Subsidiary acquired by Company in accordance with the terms of Section 7.09(b) hereof, may permit to exist Liens securing any indebtedness of such Subsidiary existing in accordance with the terms of Section 7.02(v) hereof, provided that (i) such Liens were not incurred in anticipation of such Acquisition and (ii) no such Lien shall extend to or cover any other property or assets of Company or of any other Subsidiary. 44 Section 7.04 CASH DIVIDENDS, REDEMPTION, AND RESTRICTED PAYMENTS. Company will not, and will not permit any Subsidiary to, declare or pay, or set aside funds to declare or pay, any Dividend with respect to any Capital Stock of Company, or make any Restricted Payment, provided that (a) any Subsidiary may declare and/or pay any Dividend to Company, (b) so long as there exists no Default or Event of Default at any time of such payment and immediately thereafter, Company may (i) declare or pay any Dividend so long as Dividends paid in the aggregate during any 12-month period are not in excess of 50% of the sum of (A) Company's net income for the most recently completed 12-month period plus (B) Company's non-recurring charges for the most recently completed 12- month period and (ii) make any Restricted Payment pursuant to the terms of Company's Stock Option Plans. Section 7.05 MERGERS, SALES OF ASSETS AND DISSOLUTIONS. Company will not, and will not permit any Subsidiary to, (a) dissolve or liquidate; or (b) become a party to any merger or consolidation; provided that (i) any Subsidiary may merge or consolidate with or into Company or any other Subsidiary, or (ii) any Subsidiary may merge or consolidate with or into another Person, provided that such merger or consolidation is part of an Acquisition by Company permitted by Section 7.09 hereof or part of a disposition by Company permitted by Section 7.05(c) below, or (iii) Company may merge or consolidate with another Person, provided that (A) Company is the surviving entity, and (B) there shall have occurred no Default or Event of Default prior to such action and, after giving effect to such transaction, no Default or Event of Default shall have occurred, and a majority of the Board of Directors of Company for a period of six months after the effective date of such merger or consolidation consists of individuals who were directors of Company three months prior to such effective date; or (iv) Company may merge or consolidate with another Person (the Person formed by such consolidation or into which Company is merged, being the "M/A Entity"), provided that (A) the M/A Entity shall be a corporation organized and existing under the laws of the United States of America or any State thereof or the District of Columbia, and shall execute and deliver to the Administrative Lender, concurrently with the consummation of any such 45 transaction, an agreement, in form and substance satisfactory to the Administrative Lender, containing an assumption by the M/A Entity of the due and punctual performance and observance of each obligation, covenant and condition of Company under the Notes, this Agreement and the Loan Papers, and (B) there shall have occurred no Default or Event of Default prior to such action and, after giving effect to such transaction, no Default or Event of Default shall have occurred, and a majority of the Board of Directors of the M/A Entity for a period of six months after the effective date of such merger or consolidation consists of individuals who were directors of Company three months prior to such effective date; and (C) Company shall have delivered to the Administrative Lender a certificate signed by the President of Company, and an opinion of Messrs. Jackson & Walker, L.L.P., or other counsel satisfactory to the Administrative Lender, each stating that such consolidation or merger, and such assumption agreement comply with this Section, and that all conditions precedent provided in this Section 7.05(iv) for relating to such transaction have been complied with; PROVIDED, HOWEVER, that any such opinion of counsel need not opine as to the matters set forth in Section 7.05(iv)(B) above; and (D) the holders of Company's voting securities immediately before the merger or consolidation hold in excess of 50% of the voting securities of the M/A Entity; and (E) within 10 Business Days after the consummation of such transaction, Administrative Lender shall have received, in the form existing as executed by Company on the Closing Date, new Notes, a new Credit Agreement and all other Loan Papers requested by the Administrative Lender to be delivered, all duly completed and executed by the M/A Entity; or (c) sell, transfer, convey or lease all or any part of the property or assets of Company or any Subsidiary other than in the ordinary course of business, except, if at the time of such sale, transfer, conveyance or lease, there exists no Default or Event of Default before and after giving effect to such sale, transfer, conveyance or lease, (i) any Subsidiary may sell, transfer, convey or lease all or any part of the property or assets of such Subsidiary, and (ii) Company may sell, transfer, convey or lease any part of its property or assets (but not all or substantially all of its property or assets). 46 Section 7.06 CHANGES IN BUSINESS. Company will not, and will not permit any Subsidiary to, substantially change the nature of the business in which each is presently engaged. Section 7.07 SUBSIDIARIES. Company will not (directly or indirectly) create or acquire, in any manner whatsoever, any new Subsidiaries; provided, however, that Company or any Subsidiary may create Subsidiaries, so long as (i) there exists no Default or Event of Default at the time of each creation or after giving effect thereto; (ii) each new United States Subsidiary shall execute a Guaranty of the Obligations hereunder; (iii) Company and each new United States Subsidiary shall execute and deliver such other certificates, agreements and documents as Administrative Lender or any Lender may reasonably require; and (iv) no United States Subsidiary shall issue any new stock, of any classification, without Lenders' prior written consent, except issuance to Company or any Subsidiary. Section 7.08 SUBORDINATED DEBT. Company will not make any payment of principal, interest, premium, fee or otherwise with respect to Subordinated Debt except in strict accordance with the terms of the Indenture and other Subordinated Debt documentation. Company will not prepay or defease, or set aside funds for the prepayment or defeasance of, and will not permit any Subsidiary to prepay or defease, or set aside funds for the prepayment or defeasance of all or any portion of the Subordinated Debt, provided however, so long as there exists no Default or Event of Default immediately before and after such prepayment, Company may prepay Subordinated Debt in a maximum amount equal to 5% of the aggregate face amount of such Subordinated Debt, but only if such prepayment is made pursuant to a call for redemption of such Subordinated Debt which Company believes will result in the holders of Subordinated Debt converting such indebtedness to Company's common stock. Company will not make an election under Article 15 of the Indenture to defease all or any portion of the Subordinated Debt. Section 7.09 INVESTMENTS AND ACQUISITIONS. Company will not, nor will it permit any Subsidiary to, (a) make any Investment except investments in trade receivables incurred by Company in the ordinary course of business, endorsements of negotiable instruments for collection in the ordinary course of Company's business; provided that, so long as there exists no Default or Event of Default at the time of such Investment and none is caused thereby, Company may (i) invest in Cash Equivalents, (ii) invest up to $50,000,000 in publicly traded debt and equity securities listed on national exchanges, provided that (A) any such Investment shall not cause any representation or warranty under Section 5.07 hereof to be untrue and (B) Company shall not violate any Applicable Law, (iii) invest up to $25,000,000 in Investments, (iv) invest in any Canadian or United States Subsidiary that has executed a Guaranty in the form of EXHIBIT D hereto, and (v) invest in any 47 foreign organized Subsidiary that has executed a Guaranty in the form of EXHIBIT D hereto in an amount not to exceed in the aggregate at any time $15,000,000, provided, however, such limitation shall not apply to (I) Investments in Canadian Subsidiaries or (II) Investments in foreign organized Subsidiaries otherwise approved by the prior written consent of Majority Lenders; or (b) make any Acquisition, provided that, so long as there exists no Default or Event of Default on such date before and after giving effect to such transactions and Company complies with the terms and conditions of Section 7.07 hereof if applicable, Company may make an Acquisition of (i) any Person or Persons engaged in businesses similar to, related to, or constituting a natural extension of, the business of Company, (ii) any Person or Persons in which Company's aggregate cash consideration does not exceed $20,000,000 over the term of this Agreement (provided that such limitation shall not apply to transactions permitted by (b)(i) above and (b)(iii) below) and/or (iii) any Person or Persons if the consideration for such Acquisition is common stock of Company. Section 7.10 BORROWING BASE. Company will not permit the sum of the aggregate Advances outstanding under the Loan hereunder to exceed the Borrowing Base for a period of five consecutive Business Days after its knowledge thereof. Section 7.11 AMENDMENT TO MATERIAL AGREEMENTS. Company shall not amend or change (or take any action or fail to take any action the result of which is an effective amendment or change) or accept any waiver or consent with respect to, the Indenture, the securities issued pursuant to the Indenture, or any other document or instrument in connection with either of them or the Subordinated Debt that would result in (a) an increase in the outstanding principal amount of the Subordinated Debt, (b) a change in any principal, interest, fees, or other amounts payable under the Subordinated Debt or the Indenture (including without limitation a waiver or action that results in the waiver of any payment default under the Subordinated Debt or the Indenture), (c) a change in any date fixed for any payment of principal, interest, fees, or other amounts payable under the Subordinated Debt or the Indenture (including, without limitation, as a result of any redemption, defeasance or otherwise), (d) a change in any percentage of holders of the Subordinated Debt under the Indenture and the securities issued pursuant thereto required under the terms of such documents to take (or refrain from taking) any action, (e) a change in any financial covenant, (f) a change in any remedy or right of the holders of the Subordinated Debt, (g) a change in the definition of "Change in Control" in the Indenture and the securities issued thereunder, (h) a change in any covenant, term or provision which would result in such term or provision being more restrictive than the terms of this Agreement and the Loan Papers, (i) a change that grants or permits the granting of any security interest or Lien on any asset or property of Company or any Subsidiary to secure the Subordinated Debt, or (j) a change in any term or provision of the Indenture, the securities issued pursuant thereto or other document or instrument in 48 connection with the Subordinated Debt that could have, in any material respect, an adverse effect on the interests of Lenders. Section 7.12 SALE AND LEASEBACK. None of Company or any Subsidiary shall enter into any arrangement whereby any of Company or any Subsidiary shall sell or transfer all or any part of its assets then owned by it the fair market value of which is in excess of ten percent of the book value of Company's and its Subsidiaries' consolidated assets, to any Person other than to Company or another wholly-owned Subsidiary, and thereafter rent or lease such material assets sold or transferred. Section 7.13 TRANSACTIONS WITH AFFILIATES. Notwithstanding any other provision of this Agreement, neither Company nor any Subsidiary shall carry on any transaction with an Affiliate (other than Company or any other Subsidiary, or transactions with officers and directors of Company or any Subsidiary in their capacity as such or in their capacity as a consultant, including, without limitation, salary, bonuses, stock options, fees and other forms of compensation) except (a) to the extent that all such transactions do not exceed an amount equal to $1,000,000 per annum or (b) to the extent that any such transaction is on terms no less favorable to Company or such Subsidiary than otherwise obtainable in the marketplace generally. ARTICLE VIII DEFAULT Section 8.01 EVENTS OF DEFAULT. Each of the following shall be deemed an "Event of Default," the occurrence of which shall, at the option of Lenders, (i) terminate Lenders' obligation to make Advances or issue Letters of Credit and/or (ii) if any Obligations are then outstanding, cause all Obligations to become immediately due and payable on demand: (a) PAYMENTS. Failure to pay (i) any installment of interest on any of the Notes or any fees after the expiration of five days after the due date thereof, or (ii) any installment of principal on any of the Notes or any other portion of the Obligations (including payments of maturing drafts in accordance with Article III hereof and any fees), or any renewals thereof, as the same shall become due and payable, as therein or herein expressed, whether at maturity, by declaration as authorized in the Notes or by this Agreement, or otherwise; (b) NEGATIVE COVENANTS. Company or any Subsidiary shall refuse or fail to observe or perform any of the negative covenants contained in Article VII of this Agreement or shall fail to comply with Section 6.01(e) hereof; 49 (c) OTHER COVENANTS. Company or any Subsidiary shall refuse or fail to observe or perform, or breach, any of the covenants, warranties, representations, conditions and agreements contained in this Agreement, the Notes and the Loan Papers (except those described in Section 8.01(b) above) and such failure continues unremedied for a period of ten Business Days after the earlier of (i) the giving of notice to Company by any Lender of such failure, or (ii) Company's actual knowledge of such failure or breach; (d) MISREPRESENTATION. Any representation or warranty made by Company in any of the Loan Papers is untrue in any material respect, or any schedule, statement, report, notice or writing (other than financial projections prepared in good faith) furnished by Company to any Lender is untrue in any material respect on the date as of which the facts set forth are stated or certified, or information is omitted from such schedules, statements, reports, notices, or writings and the omission of such information would cause the representations and warranties contained therein to be misleading in any material respect; (e) DEBTOR RELIEF. Company or any Subsidiary shall have had an order for relief entered against it under the Bankruptcy Reform Act of 1978 (the "Code"), or a trustee or receiver shall be appointed for Company or any Subsidiary or of all or a substantial part of its property in any involuntary proceeding under the Code or otherwise, or any court shall have taken jurisdiction of all or a substantial part of the property of Company or any Subsidiary in any involuntary proceeding for the reorganization, dissolution, liquidation or winding up of Company or any Subsidiary, and such trustee or receiver shall not be discharged or such jurisdiction relinquished or vacated or stayed on appeal within 30 days; or an involuntary petition for relief under the Code which is filed against Company or any Subsidiary is not challenged by Company or such Subsidiary or has not been dismissed within 30 days from the date of its filing; or Company or any Subsidiary shall execute an assignment for the benefit of creditors or voluntarily seek the benefit of, or become a party to any proceeding under, any liquidation, conservatorship, bankruptcy, moratorium, rearrangement, insolvency, reorganization or similar debtor relief law; or Company or any Subsidiary shall become insolvent or shall admit in writing its inability to pay its debts generally as they become due, or shall generally not be paying its debts as such debts become due, or shall consent to the appointment of a receiver or trustee or liquidator of all of its property or a substantial part thereof, or shall have failed within 30 days to pay or bond or otherwise discharge any attachment of a material item of property which is unstayed on appeal; (f) LOAN PAPERS. An event of default or breach of any term or condition shall occur and be continuing under any of the Loan Papers, and any applicable period allowed to cure such event of default or breach shall have expired; (g) OTHER DEBT. 50 (i) Company or Subsidiary shall fail to make any payment in excess of $5,000,000 in respect of any obligation when due (whether by scheduled maturity, mandatory prepayment, acceleration, demand or otherwise), and such failure shall continue after the applicable grace period, if any, specified in the agreement or instrument relating to such obligation; or Company or Subsidiary shall fail to make any payment in respect of any Debt in excess of $5,000,000 when due (whether by scheduled maturity, mandatory prepayment, acceleration, demand or otherwise), which failure has caused or could cause an acceleration of said Debt, and such failure shall continue after the applicable grace period, if any, specified in the agreement or instrument relating to such Debt; or any other default shall occur under any agreement or instrument relating to any Debt in excess of $5,000,000, which default has caused or could cause or permit an acceleration of such Debt and which default shall continue after the applicable grace period, if any, specified in the agreement or instrument relating to such Debt; provided, however, that any failure to make a payment on or any other breach of or default under an obligation other than for borrowed money by Company or Subsidiary described in the foregoing portion of this subsection (g) shall not be an Event of Default if and so long as (a) Company's or Subsidiary's failure to make such payment, or its action or inaction giving rise to such breach or other default, is based upon Company's or Subsidiary's good faith, reasonable opinion that the creditor has failed to perform its obligations pursuant to the contract or arrangement with Company or Subsidiary and such payment is not justly due, (b) Company or Subsidiary has provided adequate reserves therefore in accordance with GAAP and (c) Company or Subsidiary is diligently contesting its obligation to make such payment, or if, in lieu of (b) and (c), Company or Subsidiary has adequately bonded such obligation; or (ii) Company shall breach any covenant or condition under any instrument or agreement governing Debt, and such breach shall cause Debt in excess of $5,000,000 to be required to be prepaid; (h) JUDGMENTS. Company shall have rendered against it a final judgment in an aggregate amount in excess of $1,000,000, and such judgment has been outstanding for more than 60 days from the date of its entry and has not been bonded or discharged in full or stayed; (i) SUBORDINATED DEBT. There shall exist any "Event of Default" as defined in the Indenture; (j) ENFORCEABILITY OF LOAN PAPERS. Any provision of the Loan Papers shall at any time for any reason (other than any act or inaction on the part of 51 Administrative Lender or any Lender or any representative thereof with respect to a matter solely within the control of Administrative Lender or any Lender or any representative thereof) cease to be valid and binding upon Company or any Guarantor, or shall be declared to be null and void, or the validity or enforceability thereof shall be contested by Company or any Guarantor, or a proceeding shall be commenced by or in any Tribunal having jurisdiction over Company or any Guarantor seeking to establish the invalidity or unenforceability thereof, and such proceeding shall remain undismissed or unstayed for a period of 60 days, or Company or any Guarantor shall deny that it has any or further liability or obligation thereunder; (k) ERISA. (i) Any Termination Event with respect to a Plan shall have occurred, and, 30 days after notice thereof shall have been given to Company by any Lender, (a) such Termination Event (if correctable) shall not have been corrected and (b) the then-present value of such Plan's vested benefits exceeds the then-current value of assets accumulated in such Plan by more than the amount of $500,000 (or in the case of a Termination Event involving the withdrawal of a "substantial employer" as defined in Section 4001(a)(2) of ERISA), the withdrawing employer's proportionate share of such excess shall exceed such amount; or (ii) Company or any Subsidiary as employer under a Multi-Employer Plan shall have made a complete or partial withdrawal from such Multi-Employer Plan and the Plan's sponsor of such Multi-Employer Plan shall have notified such withdrawing employer that such employer has incurred a withdrawal penalty in an annual amount exceeding $100,000; or (l) CHANGE IN CONTROL. There shall occur any Change in Control of Company. Section 8.02 REMEDIES UPON DEFAULT. Upon the occurrence and during the continuance of an Event of Default, Administrative Lender may, at its election or shall, at the direction of all Lenders, do any one or more of the following (and, with respect to (d) below, any Lender may): (a) Declare the entire unpaid balance of the Obligations, or any part thereof, immediately due and payable without prior notice of any kind whatsoever including, without limitation, notice of intent to accelerate, demand, presentment, notice of dishonor or protest, whereupon it shall be due and payable and Administrative Lender shall notify Company of such declaration; 52 (b) Terminate the Commitment and their obligation to make any Advances thereunder in their entirety or as to any portion thereof, and terminate their obligations to issue Letters of Credit hereunder to the extent Administrative Lender or Lenders may deem appropriate; (c) Reduce any claim to judgment; (d) Exercise the rights of offset and/or banker's lien against the interest of Company in and to every account and other property of Company which are in the possession of any Lender to the extent of the full amount of the Obligations (after each offset such Lender shall promptly notify Administrative Lender and Company thereof; provided that the failure of Administrative Lender or any Lender to furnish such notification shall in no way impair, invalidate or prejudice Administrative Lender's or any Lender's offset and application so made); (e) Foreclose any and all liens in favor of Lenders and/or otherwise realize upon any and all of the rights Lenders may have in and to any assets of Company, or any part thereof; (f) Demand immediate payment in cash of an amount equal to the sum of (or any portion thereof) the aggregate outstanding amounts of all Letters of Credit to retain as collateral against payment of such amounts by Company; and/or retain, as collateral for the payment of all Obligations with respect to the Letters of Credit, any amounts received upon foreclosure, or in lieu of foreclosure, through offset, as proceeds of any collateral or otherwise; and (g) Exercise any and all other Rights afforded by any Applicable Laws, or by the Loan Papers, at Law, in equity or otherwise, including, but not limited to, the rights to bring Litigation before any Tribunal, either for specific performance of any covenant or condition contained in the Loan Papers or in aid of the exercise of any Right granted to Lenders in the Loan Papers, all as Lenders shall deem appropriate in their sole discretion. Provided, however, that upon the occurrence of an Event of Default described in Section 8.01(e) hereof, the obligation of Lenders to make Advances or issue Letters of Credit hereunder shall automatically terminate, and the Obligations, without any action by Administrative Lender or any Lender, shall become immediately due and payable without diligence, notice, demand, presentment, notice of dishonor, protest or notice of intent to accelerate, or notice of any other kind, all of which are hereby expressly waived, and all outstanding Borrowings shall, at the option of Administrative Lender or at the direction of Lenders, be automatically converted to Base Rate Borrowings. Upon the occurrence of any Event of Default, Lenders may exercise all Rights available to them at law or in equity, under the Loan Papers and otherwise and all such Rights shall be cumulative. Section 8.03 WAIVERS. The acceptance by any Lender at any time and from time to time of part payment on the Obligations shall not be deemed to be a waiver of any Event of Default then existing. No waiver by any Lender of any Event of Default shall be deemed to be a waiver of any other then-existing or subsequent Event of Default. No delay or omission by any Lender in exercising any Rights under the Loan Papers shall impair such Rights or be construed as a waiver thereof of any acquiescence with respect thereto, nor shall any single or partial exercise or any such Rights preclude other or further exercise thereof, or the exercise of any other Rights or remedies under the Loan Papers or otherwise. Section 8.04 PERFORMANCE BY ADMINISTRATIVE LENDER. Should any covenant, duty or agreement of Company fail to be performed in all material respects in accordance with the 53 terms of the Loan Papers, Administrative Lender may, at its option, perform, or attempt to perform, such covenant, duty or agreement on behalf of Company. In such event, Company agrees, at the request of Administrative Lender, to pay promptly any amount expended by Administrative Lender in such performance or attempted performance to Administrative Lender at Administrative Lender's principal office, together with interest thereon at the Highest Lawful Rate from the date of such expenditure by Administrative Lender until paid. Notwithstanding the foregoing, it is expressly understood that neither Administrative Lender nor any Lender assumes, or shall ever have, except by express written consent of Administrative Lender or such Lender, any liability or responsibility for the performance of any duties of Company hereunder. Section 8.05 LENDERS NOT IN CONTROL. None of the covenants or other provisions contained in this Agreement shall, or shall be deemed to, give Lenders the Rights or power to exercise control over the affairs and/or management of Company, the power of Lenders being limited to the Right to exercise the remedies provided in the other subparagraphs and subsections of this Article VIII; provided, however, that if any Lender becomes the owner of any stock, or other equity interest in, any Person whether through foreclosure or otherwise, such Lender shall be entitled (subject to requirements of Law) to exercise such legal Rights as it may have by being an owner of such stock, or other equity interest in, such Person. Section 8.06 CUMULATIVE RIGHTS. All Rights available to Administrative Lender and Lenders under the Loan Papers shall be cumulative of and in addition to all other Rights granted to Administrative Lender and Lenders at Law or in equity, whether or not the Obligations shall be due and payable and whether or not Administrative Lender or any Lender shall have instituted any suit for collection or other action in connection with the Loan Papers. Section 8.07 EXPENDITURES BY LENDERS. Any sums spent by Administrative Lender or any Lender pursuant to the exercise of any Right provided hereof shall become part of the Obligations and shall bear interest at the Highest Lawful Rate from the date spent until the date repaid by Company. ARTICLE IX AGREEMENT AMONG LENDERS Section 9.01 AGREEMENT AMONG LENDERS. Lenders agree among themselves that: (a) ADMINISTRATIVE LENDER. Each Lender hereby appoints NationsBank of Texas, N.A. as its nominee in its name and on its behalf, to receive all documents, monies and other items to be furnished hereunder; to act as nominee for and on behalf of all Lenders under the Loan Papers; to take such action as may be requested by any 54 Lender, provided that, unless and until Administrative Lender shall have received such requests, Administrative Lender may take such action, or refrain from taking such action, as it may deem advisable and in the best interests of Lenders; to arrange the means whereby the proceeds of Advances of Lenders are to be made available to Company; to distribute promptly to each Lender, at such Lender's principal office, information, requests, documents and items received from Company and others, and its Pro Rata Part of each payment with respect to any Loan, Reimbursement Obligation, fee or other amount; and to deliver to Company and others requests, demands, approvals and consents received from Lenders. (b) REPLACEMENT OF ADMINISTRATIVE LENDER. Should NationsBank of Texas, N.A. or any successor Administrative Lender ever cease to be a Lender hereunder, or should NationsBank of Texas, N.A. or any successor Administrative Lender ever resign as Administrative Lender, or should NationsBank of Texas, N.A. or any successor Administrative Lender ever be removed by unanimous action of all Lenders (other than Lender then acting as Administrative Lender), then Lender appointed by the other Lenders shall forthwith become Administrative Lender, and Company and Lenders shall execute such documents as any Lender may reasonably request to reflect such change. Any resignation or removal of NationsBank of Texas, N.A. or any successor Administrative Lender shall become effective upon the appointment by Lenders of a successor Administrative Lender; provided, however, that if Lenders fail for any reason to appoint a successor within 60 days after such removal or resignation, NationsBank of Texas, N.A. or any successor Administrative Lender (as the case may be) shall thereafter have no obligation to act as Administrative Lender hereunder. (c) EXPENSES. Each Lender shall pay its Pro Rata Part of any expenses incurred by Administrative Lender in connection with any of the Loan Papers if Administrative Lender does not receive reimbursement therefor from other sources within 60 days after the date incurred. Any amount so paid by Lenders to Administrative Lender shall be returned by Administrative Lender Pro Rata to each paying Lender to the extent later paid by Company to Administrative Lender. (d) DELEGATION OF DUTIES. Administrative Lender may execute any of its duties hereunder by or through officers, directors, employees, attorneys or agents, and shall be entitled to (and shall be protected in relying upon) advice of counsel concerning all matters pertaining to its duties hereunder. (e) RELIANCE BY ADMINISTRATIVE LENDER. Administrative Lender and its officers, directors, employees, attorneys and agents shall be entitled to rely and shall be fully protected in relying on any writing, resolution, notice, consent, certificate, affidavit, letter, cablegram, telegram, telex or teletype message, statement, order, or other document or conversation believed by it or them to be genuine and correct and to have been signed or made by the proper person and, with respect to legal matters, 55 upon opinions of counsel selected by Administrative Lender. Administrative Lender may deem and treat the payee of any Note as the owner thereof for all purposes hereof. (f) LIMITATION OF ADMINISTRATIVE LENDER'S LIABILITY. Neither Administrative Lender nor any of its officers, directors, employees, attorneys or agents shall be liable for any action taken or omitted to be taken by it or them hereunder in good faith and believed by it or them to be within the discretion or power conferred by the Loan Papers or be responsible for the consequences of any error of judgment. Except as aforesaid, Administrative Lender shall be under no duty to enforce any Rights with respect to the Loan, Advances, Reimbursement Obligations, other Obligations or any collateral therefor. Administrative Lender shall not be compelled to do any act hereunder or to take any action towards the execution or enforcement of the powers hereby created or to prosecute or defend any suit in respect hereof, unless indemnified to its satisfaction against loss, cost, liability and expense. Administrative Lender makes no warranty or representation to Lenders and shall not be responsible in any manner to any Lender for the effectiveness, enforceability, genuineness, validity or due execution of any of the Loan Papers or Letters of Credit or for any representation, warranty, document, certificate, report or statement made herein or furnished in connection with any Loan Papers, or be under any obligation to any Lender to ascertain or to inquire as to the performance or observation of any of the terms, covenants or conditions of any Loan Papers on the part of Company. Each Lender jointly and severally agrees to indemnify and hold harmless Administrative Lender, to the extent of such Lender's Pro Rata Part, from and against any and all liabilities, obligations, losses, damages, penalties, actions, judgments, suits, costs, expenses and/or disbursements of any kind or nature whatsoever which may be imposed on, asserted against, or incurred by Administrative Lender in any way with respect to or arising out of (i) any Loan Papers or any action taken or omitted by Administrative Lender under the Loan Papers, except and only to the extent the same result from gross negligence or wilful misconduct by Administrative Lender, and (ii) in its capacity as issuing bank of a Letter of Credit, any failure by any Lender to comply with Article III or IV hereof. (g) LIABILITY AMONG LENDERS. No Lender shall incur any liability to any other Lender except for acts or omissions in bad faith, and except as provided in the last sentence of subparagraph (f) of this Section 9.01. (h) RIGHTS AS LENDER. With respect to its Commitment, Advances made by it, Notes issued to it and Letters of Credit issued by it, Administrative Lender shall have and enjoy the same Rights as a Lender and may exercise the same as though it were not Administrative Lender, and the term "Lender" or "Lenders" shall, unless the context otherwise indicates, include Administrative Lender in its individual capacity. Administrative Lender may accept deposits from, act as trustee under indentures of, and generally engage in any kind of business with, Company and any Person who 56 may do business with or own securities of Company all as if Administrative Lender were not Administrative Lender hereunder and without any duty to account therefor to Lenders. Section 9.02 LENDER CREDIT DECISION. Each Lender acknowledges that it has, independently and without reliance upon Administrative Lender or any other Lender and based upon the financial statements referred to in Section 5.02 hereof and such other documents and information as it has deemed appropriate, made its own credit analysis and decision to enter into this Agreement. Each Lender also acknowledges that it will, independently and without reliance upon Administrative Lender or any other Lender and based upon such documents and information as it shall deem appropriate at the time, continue to make its own credit decisions in taking or not taking action under this Agreement. Section 9.03 BENEFITS OF ARTICLE. None of the provisions of this Article IX shall inure to the benefit of Company or any Person other than Lenders; consequently, neither Company nor any other Person shall be entitled to rely upon, or to raise as a defense, in any manner whatsoever, the failure of any Lender to comply with such provisions. ARTICLE X MISCELLANEOUS Section 10.01 NO ORAL MODIFICATIONS. Neither this Agreement nor any provisions hereof may be changed, waived, discharged, or terminated orally, but only by an instrument in writing signed by the party against whom enforcement of the change, waiver, discharge or termination is sought. Section 10.02 BENEFIT; ASSIGNMENTS AND PARTICIPATIONS. (a) Company may not transfer or assign its rights and obligations hereunder, and, subject to such restriction, the provisions hereof shall extend to and be binding upon Company's respective successors and assigns. All covenants and agreements made by or on behalf of any of the parties hereto shall bind and inure to the benefit of, and be enforceable by, the respective successors and assigns of the parties hereto, whether so expressed or not, and, in particular, shall inure to the benefit of, and be enforceable by, the holder or holders of all or any portion of the Notes. (b) Administrative Lender may assign any portion of its rights to any Person with the prior written consent of Company, such consent not to be unreasonably withheld; provided that, after the occurrence of a Default or Event of Default which is continuing, Administrative Lender shall not be required to obtain the 57 consent of Company. Each Lender may assign its Rights and obligations as a Lender under the Loan Papers to any Affiliate of such Lender, and, with the prior written consent of Administrative Lender and pursuant to an Assignment and Acceptance Agreement, to one or more Eligible Assignees, so long as (i) each assignment shall be of a constant, and not a varying percentage of all Rights and obligations thereunder, (ii) no such assignment shall be in an amount less than $15,000,000 unless it is the remaining amount of such Lender's total committed amount, (iii) no Lender shall assign any amount which would result in such Lender holding an amount less than $10,000,000 immediately after any such assignment, (iv) Company has given its prior written consent, provided that, after the occurrence of an Event of Default and during the continuance thereof, no Lender shall be required to obtain the prior written consent of Company. (c) The assigning Lender (the "Assignor") shall give at least ten Business Days notice to Administrative Lender and Company of such proposed assignment, together with the date such assignment shall become effective, the new Specified Percentage of the Assignor and the new assignee, and the name, address and funding office of the assignee. On the effective date of any assignment, the Assignor shall deliver to Administrative Lender and Company a copy of the Assignment and Acceptance Agreement and all related documents, together with, for Administrative Lender, the processing fee described in subsection (e) below. Within five Business Days after notice of any such assignment, Company shall execute and deliver to the Assignor, in exchange for the Notes issued to the Assignor new Notes to the order of the Assignor and its assignee in amounts equal to their respective Specified Percentages, dated as of the effective date of the assignment. It is specifically acknowledged and agreed that on and after the effective date of each assignment, the assignee shall be a party hereto, included in the definition of "Lender" and shall have the Rights and obligations of a Lender under the Loan Papers. (d) Each Lender may sell participations to one or more banks or other entities in all or any of its Rights and obligations under the Loan Papers; provided, however, that (i) such Lender's obligations under the Loan Papers shall remain unchanged, (ii) such Lender shall remain solely responsible to the other parties hereto for the performance of such obligations, (iii) such Lender shall remain the holder of its Note for all purposes of the Loan Papers, (iv) under the terms of any such participation, such Lender's right to consent or agree to any amendment or waiver of any provision of this Agreement or any other Loan Paper, or to consent to any departure by any party therefrom, shall not be subject to or require any consent or agreement of the participant, except in connection with matters described in subsections (a) through (d) of Section 10.10 hereof to the extent it is affected thereby, and (v) Company, Administrative Lender, and other Lenders shall continue to deal solely and directly with such Lender in connection with its Rights and obligations under the Loan Papers. 58 (e) Administrative Lender may maintain at its address set forth herein a copy of each assignment agreement received by it from each Assignor and a register (the "Register") for the recordation of the names and addresses of Lenders and the commitments of, and principal amount of Advances owing to, each Lender from time to time. The entries in the Register shall be conclusive absent demonstrable error, and Company, Administrative Lender and Lenders may treat each Person whose name is recorded in the Register as the owner of the Loan recorded therein for all purposes of this Agreement. Upon Administrative Lender's receipt of an executed Assignment and Acceptance Agreement, together with a payment to Administrative Lender of a registration and processing fee of $2500, Administrative Lender shall (i) promptly accept such assignment and (ii) on the effective date thereof, record the information contained therein in the Register. (f) Any Lender may, in connection with any assignment or participation, or proposed assignment or participation, disclose to the assignee or participant, or proposed assignee or participant, any information relating to Company or any of its Subsidiaries furnished to such Lender by or on behalf of Company or its Subsidiaries. (g) Notwithstanding any other provision set forth in this Agreement, any Lender may at any time create a security interest in all or any portion of its rights under this Agreement (including, without limitation, the Advances owing to it and the Note or Notes held by it) in favor of any Federal Reserve Bank in accordance with Regulation A of the Board of Governors of the Federal Reserve System. Section 10.03 SURVIVAL OF REPRESENTATIONS AND WARRANTIES. All representations and warranties contained herein or in any other instrument contemplated hereby shall survive the execution and delivery of this Agreement, the Notes and all other Loan Papers, and no investigation by any Lender nor any closing shall affect the representations and warranties or the right of Administrative Lender and each Lender to rely on and enforce them. Section 10.04 NOTICES. Except as otherwise expressly provided herein, any and all notices or demands which must or may be given hereunder or under any other instrument contemplated hereby shall be given by delivery in person or by registered or certified mail, return receipt requested, postage prepaid, as follows: 59 To Administrative Lender: NationsBank of Texas, N.A. Corporate Banking Group 901 Main Street 67th Floor Dallas, Texas 75202 Attention: Joseph G. Taylor Senior Vice President With a copy to: Donohoe Jameson & Carroll, P.C. 3400 Renaissance Tower 1201 Elm Street Dallas, Texas 75270 Attention: Melissa Ruman Stewart To Company: Michaels Stores, Inc. 5931 Campus Circle Drive Las Colinas Business Park Irving, Texas 75063 Attention: Kristen L. Magnuson Vice President - Finance and Business Planning With a copy to: Michaels Stores, Inc. 5931 Campus Circle Drive Las Colinas Business Park Irving, Texas 75063 Attention: Mark Beasley, Esq. All such communications, notices, or presentations and demands provided for herein shall be deemed to have been delivered when actually delivered in person to the respective parties, or if mailed, then three days after the date of mailing, provided that such mailing is by registered or certified mail, return receipt requested, with postage prepaid. Either party 60 may change its address hereunder upon 30 days' notice to the other party in compliance with this Section 10.04. SECTION 10.05 APPLICABLE LAW. THIS AGREEMENT, EACH NOTE AND THE OTHER LOAN PAPERS TO WHICH EACH LENDER IS A PARTY SHALL BE DEEMED TO HAVE BEEN MADE AND TO BE PERFORMABLE IN DALLAS, DALLAS COUNTY, TEXAS, AND SHALL BE GOVERNED BY AND CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF TEXAS AND THE APPLICABLE LAWS OF THE UNITED STATES OF AMERICA; PROVIDED THAT, IF ANY LAW APPLICABLE TO ANY LENDER PERMITS SUCH LENDER TO CHARGE A HIGHER MAXIMUM RATE OF INTEREST THAN THAT PERMITTED BY THE LAWS OF THE STATE OF TEXAS, THAT RIGHT OF SUCH LENDER TO CHARGE, TAKE OR RECEIVE INTEREST WITH RESPECT TO ADVANCES AND OTHER OBLIGATIONS DUE AND OWING UNDER THIS AGREEMENT SHALL BE GOVERNED BY SUCH LAWS APPLICABLE TO SUCH LENDER. Section 10.06 SEVERABILITY. Any Section, clause, Subsection, sentence, paragraph, or provision of this Agreement held by a court of competent jurisdiction to be invalid, illegal, or ineffective shall not impair, invalidate or nullify the remainder of this Agreement, but the effect thereof shall be confined to the Section, clause, Subsection, sentence, paragraph or provision so held to be invalid, illegal or ineffective. Section 10.07 NON-APPLICATION OF CHAPTER 15 OF TEXAS CREDIT CODE. The provisions of Chapter 15 of the Texas Credit Code (Texas Revised Civil Statutes, Article 5069-15) are specifically declared by the parties hereto not to be applicable to this Agreement or any of the Loan Papers or to the transactions contemplated hereby. Section 10.08 EXCEPTIONS TO COVENANTS. Company shall not be deemed to be permitted to take any action or fail to take any action that is permitted as an exception to any of the covenants herein or which is within the permissible limits of any of the covenants herein if such action or omission would result in the breach of any other covenant herein. SECTION 10.09 INDEMNITY. COMPANY AGREES TO AND DOES INDEMNIFY AND HOLD HARMLESS EACH LENDER AND ITS OFFICERS, DIRECTORS, AGENTS, EMPLOYEES, ATTORNEYS AND SHAREHOLDERS (THE "INDEMNIFIED PARTIES") AGAINST ANY AND ALL LIABILITIES, OBLIGATIONS, LOSSES, DAMAGES, PENALTIES, ACTIONS, JUDGMENTS, SUITS, CLAIMS (WHETHER MADE OR THREATENED), COSTS, EXPENSES AND DISBURSEMENTS OF ANY KIND OR NATURE WHATSOEVER, INCLUDING WITHOUT LIMITATION THE REASONABLE OUT-OF-POCKET FEES AND EXPENSES OF COUNSEL WHICH MAY BE IMPOSED ON OR INCURRED BY ANY LENDER OR ANY OF THEIR RESPECTIVE OFFICERS, DIRECTORS, AGENTS, EMPLOYEES, ATTORNEYS OR SHAREHOLDERS IN ANY WAY RELATING TO, OR ARISING OUT OF, ANY OF THE LOAN PAPERS OR ANY OTHER ACT, OMISSION, EVENT OR OTHER TRANSACTION CONTEMPLATED THEREBY OR THEREIN, TO THE EXTENT THAT ANY OF THE SAME RESULTS, 61 DIRECTLY OR INDIRECTLY, FROM ANY CLAIMS (WHETHER SUCH CLAIMS ARE MADE OR THREATENED AND INCLUDING WITHOUT LIMITATION, CLAIMS RESULTING FROM THE NEGLIGENCE OF SUCH INDEMNIFIED PARTY) OR ACTIONS, SUITS OR PROCEEDINGS (WHETHER MADE OR THREATENED AND INCLUDING, WITHOUT LIMITATION, ACTIONS, SUITS OR PROCEEDINGS RESULTING FROM THE NEGLIGENCE OF SUCH INDEMNIFIED PARTY) BY OR ON BEHALF OF ANY PERSON OTHER THAN A CLAIM BY ANY LENDER (INCLUDING ADMINISTRATIVE LENDER) OR ANY OF THEIR RESPECTIVE OFFICERS, DIRECTORS, AGENTS, EMPLOYEES, ATTORNEYS OR SHAREHOLDERS, AGAINST ANY SUCH INDEMNIFIED PARTY. WITHOUT LIMITING THE GENERALITY OF THE FOREGOING, SUCH INDEMNITY SHALL EXTEND TO ANY AND ALL COSTS AND EXPENSES WHATSOEVER INCURRED BY ANY LENDER AND ITS OFFICERS, DIRECTORS, AGENTS, EMPLOYEES, ATTORNEYS OR SHAREHOLDERS, INCLUDING WITHOUT LIMITATION THE REASONABLE OUT-OF-POCKET FEES AND EXPENSES OF COUNSEL IN CONNECTION WITH INVESTIGATING, PREPARING FOR OR DEFENDING AGAINST OR PROVIDING EVIDENCE, PRODUCING DOCUMENTS OR TAKING ANY ACTION WITH RESPECT TO ANY SUCH ACTION, CLAIM (WHETHER MADE OR THREATENED), SUIT, LIABILITY, DAMAGE OR LOSS, WHETHER OR NOT RESULTING IN ANY LIABILITY ON THE MERITS. EACH LENDER MAY SELECT ITS OWN LEGAL COUNSEL IN CONNECTION WITH ANY MATTERS INDEMNIFIED AGAINST HEREUNDER. THE OBLIGATION OF COMPANY UNDER THIS SECTION SHALL SURVIVE EXECUTION, DELIVERY, CONSUMMATION AND ANY TERMINATION OF THIS AGREEMENT. COMPANY'S OBLIGATIONS UNDER THIS SECTION ARE AND SHALL REMAIN ABSOLUTE AND UNCONDITIONAL, ENFORCEABLE AGAINST COMPANY WHETHER OR NOT ANY ADVANCE IS EVER MADE, ANY LETTER OF CREDIT IS EVER ISSUED, OR ANY OTHER OBLIGATION EVER ARISES OR ANY CONDITIONS OF LENDING ARE EVER MET AND, EXCEPT AS PROVIDED IN THE LAST SENTENCE OF THIS SECTION, WITHOUT REGARD TO ACT, OMISSION, BREACH, KNOWLEDGE, INVESTIGATION OR EVENT BY, ATTRIBUTABLE TO, OR IN ANY MANNER INVOLVING ANY LENDER OR ANY OF THEIR RESPECTIVE OFFICERS, DIRECTORS, AGENTS, EMPLOYEES, ATTORNEYS OR SHAREHOLDERS. PAYMENT BY COMPANY IN RESPECT OF A CLAIM MADE BY ANY LENDER OR ANY OF THEIR RESPECTIVE OFFICERS, DIRECTORS, AGENTS, EMPLOYEES, ATTORNEYS OR SHAREHOLDERS PURSUANT TO THIS SECTION SHALL BE MADE WITHIN 30 DAYS AFTER DEMAND THEREFOR. IF AND TO THE EXTENT THAT THE FOREGOING UNDERTAKING MAY BE UNENFORCEABLE FOR ANY REASON, COMPANY HEREBY AGREES TO MAKE THE MAXIMUM CONTRIBUTION TO THE PAYMENT AND SATISFACTION OF EACH OF THE FOREGOING AMOUNTS THAT IS PERMISSIBLE UNDER APPLICABLE LAW. NOTWITHSTANDING ANYTHING IN THIS SECTION TO THE CONTRARY, COMPANY'S INDEMNITY OBLIGATION SHALL NOT EXTEND TO LIABILITY, DAMAGE, COST OR LOSS RESULTING FROM THE GROSS NEGLIGENCE OR WILLFUL MISCONDUCT OF ADMINISTRATIVE LENDER OR ANY LENDER OR ANY OF THEIR RESPECTIVE OFFICERS, DIRECTORS, AGENTS, EMPLOYEES, ATTORNEYS, OR SHAREHOLDERS, OR FROM A MATERIAL BREACH BY ADMINISTRATIVE LENDER OR ANY LENDER OF ITS OBLIGATIONS PURSUANT TO THIS AGREEMENT OR THE OTHER LOAN PAPERS, OR FROM THE FAILURE OF ADMINISTRATIVE LENDER OR ANY LENDER TO COMPLY WITH ANY LAW APPLICABLE TO THEM OR THE LOAN PAPERS. THE INDEMNIFIED PARTIES WILL UNDERTAKE TO GIVE COMPANY REASONABLE NOTICE OF THE ASSERTION OF ANY CLAIM AGAINST THEM WITHIN COMPANY'S INDEMNITY OBLIGATION UNDER THIS SECTION, BUT THE FAILURE OF ANY INDEMNIFIED PARTY TO GIVE NOTICE TO COMPANY HEREUNDER SHALL NOT IMPAIR SUCH INDEMNIFIED PARTY'S RIGHT TO INDEMNITY PURSUANT TO THIS SECTION UNLESS COMPANY IS MATERIALLY PREJUDICED BY SUCH FAILURE. 62 Section 10.10 AMENDMENT. No amendment or waiver of any provision of this Agreement or any other Loan Papers, nor consent to any departure by Company or any of its Subsidiaries therefrom (including, without limitation, any provision of this Agreement specifically requiring the consent of Lenders), shall be effective unless the same shall be in writing and signed by the Majority Lenders (unless, in any such case, the text thereof specifically requires "each Lender" or "all Lenders"), and then any such waiver or consent shall be effective only in the specific instance and for the specific purpose for which given; provided, however, that no amendment, waiver or consent shall, unless in writing and signed by each of Lenders affected thereby, (a) increase the Commitment or the Letter of Credit Commitment, (b) reduce any principal, interest, fees or other amounts payable to such Lenders hereunder, or waive or result in the waiver of any Event of Default under Section 8.01(a) hereof, (c) postpone any date fixed for any payment of principal, interest, fees or other amounts payable to such Lenders hereunder, (d) release any collateral (if any) or Guaranties securing the Obligations hereunder except as specifically provided for in the Loan Papers on the Closing Date, (e) change the meaning of Specified Percentage or the number of Lenders required to take any action hereunder, or (f) amend this Section. No amendment, waiver or consent shall affect the Rights or duties of Administrative Lender under any Loan Papers, unless it is in writing and signed by Administrative Lender in addition to the requisite number of Lenders. This Agreement embodies the entire agreement among the parties hereto, supersedes all prior agreements and understandings, if any, relating to the subject matter hereof, and may be amended only as provided above. Company acknowledges and agrees that all Loan Papers evidence the Obligation. SECTION 10.11 WAIVER OF TRIAL BY JURY. ADMINISTRATIVE LENDER, LENDERS, COMPANY AND SUBSIDIARIES HEREBY KNOWINGLY, VOLUNTARILY AND INTENTIONALLY WAIVE ANY RIGHTS THEY MAY HAVE TO A TRIAL BY JURY IN RESPECT OF ANY LITIGATION BASED HEREON, OR ARISING OUT OF, UNDER, OR IN CONNECTION WITH, THIS AGREEMENT OR ANY OTHER LOAN PAPERS, OR ANY COURSE OF CONDUCT, COURSE OF DEALING, STATEMENTS (WHETHER VERBAL OR WRITTEN) OR ACTIONS OF ADMINISTRATIVE LENDER, LENDERS, COMPANY OR ANY SUBSIDIARY. THIS PROVISION IS A MATERIAL INDUCEMENT FOR ADMINISTRATIVE LENDER AND LENDERS ENTERING INTO THIS AGREEMENT. Section 10.12 COUNTERPARTS. This Agreement and the other Loan Papers may be executed in any number of counterparts, all of which taken together shall constitute one and the same instrument, but in making proof of this Agreement, it shall not be necessary to produce or account for more than one such counterpart. SECTION 10.13 ENTIRE AGREEMENT. THIS WRITTEN AGREEMENT AND THE OTHER WRITTEN DOCUMENTS DESCRIBED HEREIN OR CONTEMPLATED HEREBY REPRESENT THE FINAL AGREEMENT AMONG THE PARTIES AND MAY NOT BE CONTRADICTED BY EVIDENCE OF PRIOR, 63 CONTEMPORANEOUS OR SUBSEQUENT ORAL AGREEMENTS OF THE PARTIES HERETO. THERE ARE NO UNWRITTEN ORAL AGREEMENTS AMONG THE PARTIES. Section 10.14 SURVIVAL AND APPLICATION OF REPRESENTATIONS AND WARRANTIES. All representations and warranties made under this Agreement and the other Loan Papers shall be deemed to be made as of the Closing Date and as provided in Section 4.02 and Section 4.03 hereof, and each shall be true and correct when made, except to the extent (a) previously fulfilled in accordance with the terms hereof, (b) subsequently inapplicable, or (c) waived in writing by Administrative Lender and Majority Lenders with respect to any particular factual circumstance. In addition, all such representations and warranties relating to Company's Subsidiaries shall be deemed to be made with respect to any newly formed or acquired Subsidiary as of its formation or acquisition, and shall be true and correct on such date. All representations and warranties made under this Agreement shall survive, and not be waived by, the execution of the Loan Papers by Administrative Lender and Lenders, any investigation or inquiry by Administrative Lender or any Lender, or any disbursement of an Advance hereunder. Section 10.15 RATE PROVISION. It is not the intention of any party to any Loan Papers to make an agreement violative of the Laws of any applicable jurisdiction relating to usury. Regardless of any provision in any of the Loan Papers, no Lender shall ever be entitled to receive, collect or apply, on the Obligation, any amount deemed to constitute interest in excess of the Maximum Amount. If any Lender ever receives, collects or applies any such excess, such amount which would be excessive interest shall be deemed a partial repayment of principal and treated hereunder as such; and if principal is paid in full, any remaining excess shall be paid to Company. In determining whether or not the interest paid or payable, under any specific contingency, exceeds the Maximum Amount, Company and Lenders shall, to the maximum extent permitted under Applicable Laws, (a) characterize any nonprincipal payment as an expense, fee or premium rather than as interest, (b) exclude voluntary prepayments and the effect thereof, and (c) amortize, prorate, allocate and spread in equal parts, the total amount of interest throughout the entire contemplated term of the Obligation so that the interest rate is uniform throughout the entire term of the Obligation; provided, however, that if the Obligation is paid and performed in full prior to the end of the full contemplated term thereof, and if the interest received for the actual period of existence thereof exceeds the Maximum Amount, Lenders shall refund to Company the amount of such excess or credit the amount of such excess against the total principal amount owing, and, in such event, no Lender shall be subject to any penalties provided by any Laws for contracting for, charging or receiving interest in excess of the Maximum Amount. This Section shall control every other provision of all agreements among the parties to this Agreement pertaining to the transactions contemplated by or contained in the Loan Papers. 64 IN WITNESS WHEREOF, the parties hereto have duly executed this Agreement effective as of the date first above written. MICHAELS STORES, INC. By: /s/ Kristen L. Magnuson ------------------------------- Kristen L. Magnuson Vice President - Finance and Business Planning SPECIFIED PERCENTAGE: NATIONSBANK OF TEXAS N.A., as Administrative Lender, and individually as a Lender 100.00% By: /s/ Joseph G. Taylor ------------------------------- Joseph G. Taylor Senior Vice President C:\DMS\STEMEL.DIR\0005456.09 65 EXHIBIT A THE OBLIGATIONS OF MICHAELS STORES, INC. EVIDENCED BY THIS NOTE ARE SENIOR AND SUPERIOR IN RIGHT OF PAYMENT TO THE OBLIGATIONS OF MICHAELS STORES, INC. UNDER THOSE CERTAIN 4-3/4%/6-3/4% STEP-UP CONVERTIBLE SUBORDINATED NOTES DUE 2003, AS THEY MAY BE AMENDED, RESTATED, EXTENDED, REPLACED OR SUBSTITUTED FROM TIME TO TIME. REVOLVING LOAN NOTE $____________________ Dallas, Texas ________________, _____ FOR VALUE RECEIVED, MICHAELS STORES, INC., a Delaware corporation ("Borrower"), promises to pay to the order of ___________________________ ("Lender"), at the banking house of NATIONSBANK OF TEXAS, N.A., as Administrative Lender ("Administrative Lender") in Dallas, Texas, the principal sum of ______________________________ DOLLARS AND NO CENTS ($____________), or such lesser sums as may be advanced and due and payable from time to time hereunder, in lawful money of the United States of America, together with interest prior to default or maturity on the unpaid principal balance from time to time outstanding at a rate per annum equal to the rate selected by Borrower in accordance with the terms and provisions of the Credit Agreement (as hereinafter defined); provided, however, that in no event shall interest accrue hereunder at a rate in excess of the Highest Lawful Rate. Subject to the provisions hereof limiting interest to the Maximum Amount, interest on (a) Eurodollar Rate Borrowings shall be calculated at a daily rate equal to 1/360th of the rate selected by the Borrower in accordance with the terms of the Credit Agreement, and (b) Base Rate Borrowings shall be calculated at a daily rate equal to 1/365th or 1/366th, as the case may be, of the rate selected by the Borrower in accordance with the terms of the Credit Agreement. Each Advance made by Lender to Borrower pursuant to the Credit Agreement may be recorded by Lender and, with respect to any transfer hereof, endorsed on the grid attached hereto which is part of this Note. Any failure by Lender to endorse the grid attached hereto shall not impair the obligation of Borrower to pay any amount due and owing hereunder. All capitalized terms used herein, but not specifically defined, shall have the same meanings as set forth in the Credit Agreement. Principal and all accrued interest hereunder shall be due and payable upon the terms and on the dates provided for in the Credit Agreement. Subject to the terms of the Credit Agreement, Borrower may borrow, repay and reborrow hereunder. Any amounts remaining unpaid after the maturity of this Note (whether maturity shall occur by default, lapse of time or otherwise) shall bear interest as provided in the Credit Agreement. If at any time the rate selected by the Borrower shall exceed the Highest Lawful Rate, thereby causing the interest hereon to be limited to the Maximum Amount, then notwithstanding any subsequent reduction in such rate below the Highest Lawful Rate, interest shall accrue hereunder at the Highest Lawful Rate until such time as the total amount of interest accrued hereon equals the amount of interest which would have accrued hereon (including the amount of such interest which would have so accrued hereon prior to the time of repayment of any of the principal hereof) if the rate selected by the Borrower had been in effect at all times. This Note is issued pursuant to and evidences the Loan under that certain Credit Agreement among Borrower, NationsBank of Texas, N.A. for itself and as Administrative Lender thereunder, and certain other Lenders ("Lenders") party thereto, dated as of June 17, 1994, as the same may be amended from time to time ("Credit Agreement"), to which reference is made for a statement of the rights and obligations of Administrative Lender and Lenders, and the duties and obligations of Borrower in relation thereto. If an Event of Default under the Credit Agreement shall occur, the unpaid principal of and accrued interest on this Note may be declared due and payable in the manner and with the effect provided in the Credit Agreement. The Borrower, signers, guarantors, sureties and indorsers of this Note severally waive demand, presentment, notice of dishonor, notice of intent to demand payment hereof, notice of intent to accelerate payment hereof, notice of acceleration, diligence in collecting, grace, notice and protest, the bringing of any suit against any party and any notice of or defense on account of any extensions, renewals, partial payments of or changes in any manner in this Note or in any of its Terms, provisions, and covenants, or any releases or substitutions of any security, or any delay, indulgence or other act of the holder hereof, whether before or after maturity; provided, however, that Borrower does not waive any notice or grace periods to which it may be entitled under the express provisions of the Credit Agreement. If this Note is placed in the hands of an attorney for collection after an Event of Default, or if all or any part of the indebtedness represented by this Note is proved, established or collected in any court or in any bankruptcy, receivership, debtor relief, probate or other court proceedings, Borrower and all indorsers, guarantors and sureties of this Note jointly and severally agree to pay reasonable attorneys' fees (including the reasonable allocated cost of staff counsel) and all collection costs to the holder hereof in addition to the principal, interest and any other sums payable hereunder. -2- This Note may not be terminated orally, but only by a discharge in writing signed by the holder of this Note at the time such discharge is sought. It is not the intention of the parties hereto to make an agreement violative of the laws of any applicable jurisdiction relating to the maximum lawful rate of interest a lender may charge. Regardless of any provision in this Note, the Credit Agreement or any other document or instrument securing or evidencing the indebtedness represented hereby, no holder hereof shall ever be entitled to receive, collect or apply, as interest hereon, any amount in excess of the Maximum Amount. If any holder hereof ever receives, collects or applies, as interest, any such excess, such amount which would be excessive interest shall be deemed a partial repayment of principal and treated hereunder as such; and if principal is paid in full, any remaining excess shall be paid to Borrower. In determining whether or not the interest paid or payable under any specific contingency exceeds the Maximum Amount, Borrower and the holder hereof shall, to the extent permitted under Applicable Law, (i) characterize any nonprincipal payment as an expense, fee or premium rather than as interest, (ii) exclude voluntary prepayments and the effect thereof and (iii) to the extent permitted by Applicable Law, amortize, prorate, allocate and spread the total amount of interest throughout the entire term hereof until payment in full of the principal hereof so that the interest hereon for such period shall not exceed the Maximum Amount; provided that if this Note is paid in full prior to the contemplated maturity, and if the interest received for the actual period of existence thereof exceeds the Maximum Amount, the holder hereof shall refund to Borrower the amount of such excess or credit the amount of such excess against the total principal amount owing, and, in any event, the holder hereof shall not be subject to any penalties provided by any laws for contracting for, charging or receiving interest in excess of the Maximum Amount. This paragraph shall control every other provision of this Note, the Credit Agreement or any other agreements, instruments or documents between the holder hereof and Borrower pertaining to the indebtedness evidenced hereby. This Note shall be construed and enforced in accordance with the laws of the State of Texas and the laws of the United States applicable to transactions in Texas. MICHAELS STORES, INC. By: ------------------------------------ Its: ----------------------------------- -3- ADVANCES, MATURITIES, AND PAYMENTS OF PRINCIPAL - -------------------------------------------------------------------------------- Amount of Unpaid Type of Amount of Maturity Principal Paid Principal Notation Date Advance Advance of Advance or Prepaid Balance Made By - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- -4- EXHIBIT B NOTICE OF BORROWING/CONVERSION NationsBank of Texas, N.A., as Administrative Lender Corporate Banking Post Office Box 83100 Dallas, Texas 75283-1000 Attention: Mr. Joseph G. Taylor Senior Vice President Gentlemen: The undersigned is an Authorized Financial Officer of Michaels Stores, Inc. ("Borrower"), and, as such, is authorized to make and deliver this Notice of Borrowing/Conversion pursuant to Section 2.04 or 2.22 of that certain Credit Agreement dated as of June 17, 1994, among Borrower, NationsBank of Texas, N.A. for itself and as Administrative Lender, and certain other Lenders party thereto as the same may hereafter be amended from time to time (the "Agreement"). All terms defined in the Agreement shall have the same meanings herein. In connection with the foregoing and pursuant to the terms and provisions of the Agreement, the undersigned hereby certifies that: (i) Borrower hereby [gives you] [confirms that it has orally given you*] irrevocable notice that Borrower requests an Advance under the Commitment in accordance with Sections 2.01, 2.04 or 2.22 of the Agreement. (ii) The representations and warranties contained in Article V of the Agreement are true at and as of the date hereof as though made as of the date hereof. (iii) No Default or Event of Default has occurred and is continuing. (vi) The amount of the Advance made or to be made pursuant to this request, when added to the principal amount of all outstanding advances, will not exceed the Available Advance Amount. - --------------- * Strike bracketed language as appropriate. (v) Any Eurodollar Rate Borrowing shall be in the principal amount of $1,000,000, and in integral multiples of $100,000 in excess thereof. (vi) All conditions precedent under Section 4.02(d) have been complied with. (viii) All information supplied below is true and accurate as of the date hereof. Amount of Borrowing $_________________ Selected rate of Borrowing (select one of the following:) ___________________________ Base Rate ___________________________ Eurodollar Rate Borrowing Date $_________________ Interest Period* * Not applicable to Base Rate Borrowing WITNESS the execution hereof this ____ day of ______________, 19___. MICHAELS STORES, INC. By: ______________________________ Its: ______________________________ -2- EXHIBIT C BORROWING BASE REPORT This Borrowing Base Report ("Report") for the Fiscal Month ending ________, 199__, and as of such date, is executed and delivered by MICHAELS STORES, INC. ("Borrower") to NATIONSBANK OF TEXAS, N.A. ("Administrative Lender"), pursuant to that certain Credit Agreement dated as of June 17, 1994, among Borrower, NationsBank of Texas, N.A. for itself and as Administrative Lender, and certain other Lenders party thereto ("Lenders") as the same may hereafter be amended from time to time ("Credit Agreement"). All terms used herein have the meanings ascribed to them in the Credit Agreement. In order to induce Administrative Lender and Lenders now and from time to time during the term of the Credit Agreement to make Advanced to Borrower under the Commitment, and to issue Letters of Credit, Borrower warrants and represents to Administrative Lender and Lenders that this Report and all information attached hereto or contained herein is true and correct and that the total Eligible Inventory referred to below represents the Eligible Inventory which qualifies for the purposes of determining the Borrowing Base under the Credit Agreement. LINE OF CREDIT COMMITMENT INVENTORY: 1. Eligible Inventory $_________________ 2. Accounts Payable $_________________ 3. Borrowing Base Determination $_________________ 50% of line 1 - line 2 $_________________ AVAILABLE CREDIT DETERMINATION: 4. Lesser of $150,000,000 or the Borrowing Base (line 3) $_________________ 5. Outstanding Letters of Credit $_________________ 6. Net Borrowing Base (line 4 minus line 5) $_________________ 7. Outstanding Advances $_________________ 8. Available Credit Amount (line 6 minus line 7) $_________________ Borrower further represents and warrants to Administrative Lender and Lenders that the representations and warranties contained in Article V of the Credit Agreement are true at and as of the date of this Report as if made as of the date hereof, and that no Default or Event of Default has occurred and is continuing. MICHAELS STORES, INC. By: ______________________________ Its: ______________________________ -2- EXHIBIT D GUARANTY AGREEMENT WHEREAS, the execution of this Guaranty Agreement is a condition to MICHAELS STORES, INC., a Delaware corporation ("Borrower"), borrowing pursuant to that certain Credit Agreement dated June 17, 1994, among Borrower, NationsBank of Texas, N.A. for itself and as Administrative Lender, and certain other Lenders party thereto as the same may hereafter be amended from time to time (the "Credit Agreement"); NOW, THEREFORE, for valuable consideration, the receipt and adequacy of which are hereby acknowledged, the undersigned __________________, a __________ corporation and [wholly owned] subsidiary of Borrower, the address of which is ________________________ (the "Guarantor"), hereby irrevocably and unconditionally guarantees to Lender the prompt payment of the Guaranteed Indebtedness (hereinafter defined), and the due performance of all terms and conditions of the Credit Agreement and other Loan Papers (as defined in the Credit Agreement, and all other capitalized terms not otherwise defined herein shall have the meanings specified in the Credit Agreement), this Guaranty Agreement being upon the following terms: 1. Notwithstanding anything herein or in any other Loan Papers to the contrary, the maximum liability of Guarantor shall in no event exceed the Maximum Guaranteed Amount. The term "Guaranteed Indebtedness" as used herein means all of the "Obligations", as defined in the Credit Agreement and the Loan papers. "Maximum Guaranteed Amount" as used herein shall mean the greater (a) the amount of any Guaranteed Indebtedness used to make a Valuable Transfer to Guarantor, and (b) the greater of 95% of Guarantor's Adjusted Net Worth (i) at the date hereof (if appropriate under applicable Law), (ii) at the time the Guaranteed Indebtedness was incurred, and (iii) on the date of enforcement hereof. "Adjusted Net Worth" as used herein shall mean as of the date of determination, (a) the value of the assets of Guarantor as of such date, minus (b) all liabilities of Guarantor, contingent or otherwise, as of such date (excluding Guarantor's liability hereunder), as such concepts are determined in accordance with applicable Laws governing determinations of the insolvency of debtors. "Valuable Transfer" as used herein shall mean (a) all loans, advances or capital contributions made to Guarantor with proceeds of any Guaranteed Indebtedness, (b) all debt securities or other obligations of Guarantor acquired from Guarantor or retired by Guarantor with proceeds of any Guaranteed Indebtedness, (c) the fair market value of all property acquired with proceeds of any Guaranteed Indebtedness, and transferred, absolutely and not as collateral, to Guarantor, and (d) all equity securities of Guarantor acquired from Guarantor with proceeds of any Guaranteed Indebtedness. 2. This instrument shall be an absolute, continuing, irrevocable, and unconditional guaranty of payment and performance and not a guaranty of collection, and Guarantor shall remain liable on its obligations hereunder until the payment in full of the Guaranteed Indebtedness. 3. If Guarantor becomes liable for any indebtedness owing by Borrower to any of Lenders by endorsement or otherwise, other than under this Guaranty Agreement, such liability shall not be in any manner impaired or affected hereby, and the Rights of Lenders hereunder shall be cumulative of any and all other Rights that Lenders may ever have against Guarantor. The exercise by Administrative Lender or Lenders of any Right or remedy hereunder or under any other instrument, at Law or in equity, shall not preclude the concurrent or subsequent exercise of any other Right or remedy. 4. Upon the occurrence of an Event of Default, Guarantor shall, on demand and without further notice of dishonor, and without any notice having been given to Guarantor previous to such demand of the acceptance by Lenders of this Guaranty Agreement, pay the Guaranteed Indebtedness to Administrative Lender or Lenders as provided in the Credit Agreement and it shall not be necessary for Administrative Lender or Lenders, in order to enforce such payment by Guarantor, first to institute suit or exhaust their remedies against Borrower or others liable on such Guaranteed Indebtedness, or to enforce any rights against any security which shall ever have been given to secure such Guaranteed indebtedness. In the event such payment is made by Guarantor, then Guarantor shall be subrogated to the rights then held by Administrative Lender and Lenders with respect to the Guaranteed Indebtedness to the extent to which the Guaranteed Indebtedness was discharged by Guarantor and, in addition, upon payment by Guarantor of any sums to Lenders hereunder, all rights of Guarantor against Borrower arising as a result therefrom by way of right of subrogation or otherwise shall in all respects be subordinate and junior in right of payment to the prior indefeasible payment in full of the Guaranteed Indebtedness. 5. Guarantor hereby agrees that its obligations under the terms of this Guaranty Agreement shall not be released, diminished, impaired, reduced, or affected by the occurrence of any reason or event, including without limitation, one or more of the following events: (a) the taking or acceptance of any other security of any or all of the Guaranteed Indebtedness or the release, surrender, exchange or subordination of any security now or hereinafter securing all or any portion of the Guaranteed Indebtedness; (b) any partial release of the liability of Guarantor hereunder, or the release of any other guarantor of all or any portion of the Guaranteed Indebtedness; (c) the change in corporate existence, ownership, or structure of, lack of corporate power of, or the insolvency or bankruptcy of, Borrower, Guarantor, or any party at any time liable for the payment of any or all of the Guaranteed Indebtedness, whether now existing or hereafter occurring; (d) any renewal, extension, modification, settlement, waiver, amendment, and/or rearrangement of the payment of any or all of the Guaranteed Indebtedness with or without notice to or consent of Guarantor, or a ny adjustment, indulgence, forbearance, or compromise that may be granted or given by Administrative Lender or Lenders to Borrower or Guarantor; (e) any renewal, extension, modification, waiver, or amendment of the Credit Agreement or any of the Loan Papers; (f) any neglect, delay, omission, failure,or refusal of Administrative Lender or Lenders to take or prosecute any action for the collection of any of -2- the Guaranteed Indebtedness or to foreclose or take or prosecute any action in connection with any instrument or agreement evidencing or securing all or any part of the Guaranteed Indebtedness; (g) the invalidity or unenforceability of all or any part of the Guaranteed Indebtedness; (h) any payment by Borrower to Administrative Lender or Lenders is held to constitute a preference under the bankruptcy laws or if for any reason Administrative Lender or Lenders are required to refund such payment or pay the amount thereof to someone else; (i) the settlement or compromise of any of the Guaranteed Indebtedness; (j) the existence of any claim, defense, set-off or other rights which Borrower or any Guarantor may have at any time against Borrower, any of the Lenders, any other Guarantor or any other person, whether in connection with this Guaranty Agreement, the Loan Papers, the transactions contemplated thereby or any other transaction; (k) the failure of Administrative Lender or Lenders to perfect, or the release, exchange, substitution, or invalidity of, any security interest or Lien securing all or any portion of the Guaranteed Indebtedness; (l) the failure of Administrative Lender or Lenders to sell any Collateral securing all or any portion of the Guaranteed Indebtedness in a commercially reasonable manner or as otherwise required by Law; or (m) any other circumstance or happening whatsoever, whether or not similar to the foregoing. 6. Guarantor hereby represents and warrants that all representations and warranties set forth in Article V of the Credit Agreement with respect to it are true and correct as of the date hereof, and are incorporated herein by reference. In addition, Guarantor represents and warrants to Administrative Lender and Lenders as follows: (a) Except of previously disclosed to Administrative Lender or Lenders in writing, Guarantor is a corporation duly organized, validly existing and in good standing under the Laws of the State of its incorporation, and is qualified to do business in all jurisdictions in which the nature of the business conducted by it makes such qualification necessary and where failure to so qualify would have a material adverse effect on its business, financial condition, or operations. (b) Guarantor has the corporate power and authority to execute, deliver and perform its obligations under this Guaranty Agreement, and this Guaranty Agreement constitutes the legal, valid and binding obligation of Guarantor, enforceable against Guarantor in accordance with its respective terms, except as limited by bankruptcy, insolvency, or other laws of general application relating to the enforcement of creditors rights and subject to the qualification that general equitable principles may limit the availability of equitable remedies, including without limitation, the remedy of specific performance. (c) The execution, delivery, and performance by Guarantor of this Guaranty Agreement have been duly authorized by all requisite action on the part of Guarantor and will not violate the articles of incorporation or bylaws of Guarantor or any Law or any order of any Tribunal and will not conflict with, result in a breach of, or constitute a default under, or result in the imposition of any Lien upon any assets of Guarantor pursuant to the provisions of any indenture, mortgage, deed of trust, security agreement, franchise, permit, license, or other instrument or agreement to which Guarantor or its properties is bound. -3- (d) No authorization, approval, or consent of, and no filing or registration with, any court, governmental authority or third party is necessary for the execution, delivery or performance by Guarantor of this Guaranty Agreement or the validity or enforceability hereof. (e) The value of the consideration received and to be received by Guarantor as a result of Advances or other extensions of credit under the Credit Agreement and Guarantor's execution and delivery of this Guaranty Agreement is reasonably worth at least as much as the liability and obligation of Guarantor hereunder, and such liability and obligation and the Credit Agreement my reasonably be expected to benefit Guarantor directly or indirectly. 7. Guarantor covenants and agrees that, as long as the Guaranteed Indebtedness or any part thereof is outstanding or Administrative Lender or Lenders have any commitment under the Credit Agreement: (a) Guarantor will comply with the covenants applicable to any Subsidiary contained in Articles VI and VII of the Credit Agreement. (b) Guarantor will furnish to Administrative Lender as soon as available one copy of each financial statement, report, notice or proxy statement sent by Guarantor to its stockholders generally and one copy of each regular, periodic or special report, registration statement, or prospectus filed by Guarantor with any securities exchange or the Securities or Exchange Commission or any successor agency, and any order issued by any court, governmental authority or arbitrator in any material proceeding to which Guarantor is a party. (c) Guarantor will furnish promptly to Administrative Lender written notice of the occurrence of any default under this Guaranty Agreement or an Event of Default of which Guarantor has knowledge. (d) Guarantor will furnish promptly to Administrative Lender such additional information concerning Guarantor as Administrative Lender or any Lender may reasonably request. (e) Guarantor will obtain at any time and from time to time all authorization, licenses, consents or approvals as shall now or hereafter be necessary or desirable under all applicable Law or regulations or otherwise in connection with the execution, delivery and performance of this Guaranty Agreement and will promptly furnish copies thereof of Administrative Lender. 8. Upon the occurrence of an Event of Default under the Credit Agreement, Administrative Lender and Lenders shall have the right to set off and apply against the Guaranty Agreement or the Guaranteed Indebtedness or both, without notice to Guarantor, any and all deposits (general or special, time or demand, provisional or final) or other sums at any time credited by or owing from any Lenders to Guarantor irrespective of whether or not Administrative Lender or Lenders shall have made any demands under this Guaranty Agreement. -4- The rights and remedies of Administrative Lender and Lenders hereunder are in addition to other rights and remedies (including, without limitation, other rights of setoff) which Administrative Lender and Lenders may have. After each setoff and application, Administrative Lender or the appropriate Lender shall promptly give notice to guarantor of such event; provided that the failure of Administrative Lender or the appropriate Lender to furnish such notification shall in no way impair, invalidate or prejudice Administrative Lender's or Lenders' setoff and application so made. 9. No amendment or waiver of any provision of this Guaranty Agreement or consent to any departure by Guarantor therefrom shall in any event be effective unless the same shall be in writing and signed by Administrative Lender. No failure on the part of Administrative Lender or Lenders to exercise, and no delay in exercising, any Right hereunder shall operate as a waiver thereof; no shall any single or partial exercise of any Right hereunder preclude any other or further exercise thereof or the exercise of any other right. The remedies herein provided are cumulative and not exclusive of any remedies provided by Law. 10. Any acknowledgment or new promise, whether by payment or principal or interest or otherwise and whether by Borrower or others (including Guarantor), with respect to any of the Guaranteed Indebtedness shall, if the statute of limitations in favor of the Guarantor against Lenders shall have commenced to run, toll the running of such statute of limitations and, if the period of such statute of limitations shall have expired, prevent the operation of such statute of limitations. 11. Any indebtedness of Borrower now or hereafter held by Guarantor is hereby subordinated to the Obligations, and if Administrative Lender so requests shall be collected, enforced and received by Guarantor as trustee for Lenders and be paid over to Administrative lender on account of the Obligations, but without reducing or affecting in any manner the liability of Guarantor under the other provisions of the is Guaranty Agreement; provided, however, that unless and until an Event of Default has occurred and is continuing, Guarantor may continue to receive and collect amounts pursuant to such subordinated indebtedness. Upon request by Administrative Lender on behalf of Lenders, any instruments now or hereafter evidencing such indebtedness of Borrower to Guarantor shall be marked with a legend that the same are subject to this Guaranty Agreement and, if Administrative Lender so requests, shall be delivered to Administrative Lender. Guarantor will from time to time execute financing statements and continuation statements and such other documents and take other action as Administrative Lender deems necessary or appropriate to perfect, preserve and enforce Lenders' Rights hereunder. 12. Guarantor waives, to the fullest extent permitted by Law, all presentments, demands for performance, protests, notices of protest, notices of dishonor and notices of acceptance of this Guaranty Agreement and of the existence, creation or incurring of new or additional indebtedness, diligence in bringing suits against any person liable on any Guaranteed Indebtedness, and all other notices of any kind whatsoever (including without limitation notice of acceleration and notice of intent to accelerate). Guarantor agrees that the Guaranteed -5- Indebtedness and Loan Papers may be extended or renewed, and Loans repaid and reborrowed in whole or in part, without notice to or assent by Guarantor, and that it will remain bound upon this Guaranty Agreement notwithstanding any extension, renewal or other alteration of any Guaranteed Indebtedness and Loan Papers, or any repayment and reborrowing of Loans; 13. If Guarantor shall make any payment hereunder (whether voluntary, involuntary, due to set-off or otherwise), it shall have a right of contribution against any other Guarantor to the extent that such payment caused the Guaranteed Indebtedness to exceed the Maximum Guaranteed Amount. 14. No obligation of Guarantor shall be altered, limited or affected by any proceeding against Borrower, any other Guarantor or any other person pursuant to any bankruptcy, insolvency, reorganization or similar Laws relating to the relief of debtors. This Guaranty Agreement shall continue to be effective, or shall be reinstated, as the case may be, if at any time payment, or any part thereof, of any Guaranteed Indebtedness is rescinded or must otherwise be restored or returned by the Administrative Lender or Lenders in connection with any proceeding involving Borrower, any Guarantor or any other Person under any bankruptcy, insolvency, reorganization or similar Laws relating to the relief of debtors. 15. As a separate undertaking from similar provisions contained in the Loan Papers, Guarantor agrees to pay reasonable attorneys' fees and all other costs and expenses which may be incurred by Administrative Lender of Lenders in the enforcement or collection of this Guaranty Agreement. 16. Unless otherwise provided herein, all notices, requests, consents and demands shall be given to Guarantor c/o _______________________, Attention: President, in compliance with the terms of the Credit Agreement. 17. This Guaranty Agreement is for the benefit of Lender and their successor and assigns, and in the event of an assignment of the Guaranteed Indebtedness, or any part thereof, the Rights and benefits hereunder, to the extent applicable to the indebtedness so assigned, may be transferred with such indebtedness. This Guaranty Agreement is binding not only on Guarantor, but on Guarantor's successors and assigns. 18. Guarantor acknowledges that it expects to receive significant financial benefits, either directly or indirectly, from the proceeds of the Loans made by Lenders to Borrower pursuant to the Credit Agreement, and further acknowledges that Lenders are relying upon this Guaranty Agreement and the undertakings of Guarantor hereunder in making Advances and other extensions of credit to Borrower under the Credit Agreement and that the execution and delivery of this Guaranty Agreement is a material inducement to Lenders to continue the Commitment pursuant to the Credit Agreement. -6- 19. Each payment on the Guaranteed Indebtedness shall be deemed to have been made by Borrower unless express written notice is given to the Administrative Lender at the time of such payment that such payment is made by Guarantor. 20. This Guaranty Agreement is executed and delivered as an incident to a lending transaction negotiated, consummated, and performable in Dallas County, Texas, and shall be construed according to the laws of the State of Texas. 21. The Credit Agreement, and all of the terms thereof, are incorporated herein by reference, the same as if stated verbatim herein, and Guarantor agrees that Administrative Lender and Lenders may exercise any and all rights granted to them under the Credit Agreement and other Loan Papers without affecting the validity or enforceability of this Guaranty Agreement. 22. This Guaranty Agreement is for the ratable benefit of Lenders, each of which shall share any proceeds hereof pursuant to the terms of the Credit Agreement. 23. WITHOUT EXCLUDING ANY OTHER JURISDICTION, THE GUARANTOR AGREES THAT THE FEDERAL COURTS OF TEXAS LOCATED IN DALLAS, TEXAS SHALL HAVE JURISDICTION OVER PROCEEDINGS IN CONNECTION WITH THIS AGREEMENT AND THE OTHER LOAN DOCUMENTS. WITHOUT EXCLUDING ANY OTHER JURISDICTION, THE GUARANTOR AGREES THAT THE FEDERAL COURTS OF TEXAS LOCATED IN DALLAS, TEXAS SHALL HAVE JURISDICTION OVER PROCEEDINGS IN CONNECTION WITH THIS AGREEMENT AND THE OTHER LOAN PAPERS. EXECUTED as of the ______ day of _______________, 19___. GUARANTOR: ___________________________________ By: ______________________________ -7- EXHIBIT E LOAN COMPLIANCE CERTIFICATE This Loan Compliance Certificate ("Certificate") is executed and delivered by MICHAELS STORES, INC. ("Borrower") for the fiscal quarter ending __________, 19__, and is being given as of such date to NATIONSBANK OF TEXAS, N.A. ("Administrative Lender") pursuant to and in accordance with the terms and provisions of that certain Credit Agreement dated June 17, 1994, among Borrower, NationsBank of Texas, N.A. for itself and as Administrative Lender, and certain other Lenders party thereto ("Lenders") as the same may hereafter be amended from time to time ("Agreement"). All terms used herein shall have the respective meaning ascribed to them in the Agreement. 1. There has been no Default or Event of Default pursuant to the terms of the Agreement of the other Loan Papers that has occurred during the preceding fiscal quarter, or is continuing at the date hereof, nor has any event occurred which upon notice or lapse of time or both would constitute such an Event of Default. 2. The financial statements required by Section 6.01 of the Agreement, as the case my be, which are attached hereto as Schedule 1, present fairly the financial condition and results of operations of Borrower and its Subsidiaries at the date thereof and for the periods indicated therein. 3. Borrower has complied with the covenants contained in Sections 7.01 as detailed below: A. RATIO OF TOTAL LIABILITIES TO NET WORTH (Section 7.01(a)) 1. Net Worth as determined in accordance with GAAP $_________________ 2. Total Liabilities including guaranties, reimbursement obligations and incremental indebtedness $_________________ Ratio of Total Liabilities to Net Worth (Ratio of #2 to #1) ________ to 1.0 REQUIRED RATIO OF TOTAL LIABILITIES TO NET WORTH: 2.25 to 1.00 at any time during each of the second and third fiscal quarters of each fiscal year; and 1.25 to 1.00 at any time during each of the first and fourth fiscal quarters of each fiscal year. B. FIXED CHARGES COVERAGE RATIO (Section 7.01(b)) 1. Consolidated Income before income taxes and excluding extraordinary gains & losses $_________________ 2. Operating Lease Expense $_________________ 3. Interest Expense $_________________ 4. Total of Lines 1, 2 and 3 $_________________ 5. Operating Lease Expense $_________________ 6. Plus Interest Expense $_________________ 7. Fixed Charges $_________________ (Total of Lines 5 and 6) 8. Fixed Charges Ratio (Ratio of Line 4 to Line 7) $_________________ REQUIRED FIXED CHARGES COVERAGE RATIO: 1.30 to 1.0 at any time C. CURRENT RATIO (Section 7.01(c)) 1. Current Assets $_________________ 2. Current Liabilities plus amounts outstanding under this Agreement $_________________ 3. Current Ratio (ratio of line 1 to line 2) ________ to 1.0 REQUIRED CURRENT RATIO: 1.50 to 1.0 at any time 4. If Borrower has any Subsidiaries as of the date hereof, there are attached hereto as Schedule 3 the quarterly financial statements of each such Subsidiary. -2- The information contained herein is true and correct as of the date hereof. MICHAELS STORES, INC. By: ______________________________ Title: ______________________ Date: __________________ -3- EXHIBIT F ASSIGNMENT AND ACCEPTANCE Dated ________________ Reference is made to the Credit Agreement dated at of June 17, 1994, among Michaels Stores, Inc. ("Company"), NationsBank of Texas, N.A. for itself and as Administrative Lender ("Administrative Lender"), and certain other Lenders party thereto ("Lenders") as the same may hereafter be amended from time to time ("Credit Agreement"). Terms defined in the Credit Agreement are used herein with the same meaning. ____________________________ ("Assignor") and _____________________________ ("Assignee") agree as follows: 1. Assignor hereby sells and assigns to Assignee without recourse or warranty, and Assignee hereby purchases and assumes from Assignor, a ____% interest in and to all of Assignor's rights and obligations under the Credit Agreement as of the Effective Date (as defined below), with respect to such percentage interest in Assignor's portion of the Commitment as in effect on the Effective Date, the principal amount of Advances owing to Assignor on the Effective Date, and the Notes held by Assignor, and the Letters of Credit issued pursuant to the Credit Agreement, subject to the terms and conditions of this Agreement and Acceptance. 2. Assignor (a) represents and warrants that as of the date hereof (i) the aggregate amount of its portion of the Commitment (without giving effect to assignments thereof which have not yet become effective) is $_______________ as of the date hereof, (ii) the outstanding principal amount of the Advances owing to it (without giving effect to assignments thereof which have not yet become effective) is $_______________ and $_______________, and (iii) it is the legal and beneficial owner of the interest being assigned by it hereunder; (b) makes no representation or warranty and assumes no responsibility with respect to (i) any statements, warranties, or representations made in or in connection with the Credit Agreement or the execution, legality, validity, enforceability, genuineness, sufficiency, or value of the Credit Agreement, the Loan Papers, or any other instrument or document furnished pursuant thereto or (ii) the financial condition of the Company or the performance or observance by the Company of any of its obligations under the Credit Agreement, the Loan Papers, or any other instrument or document furnished pursuant thereto; and (c) attaches that Notes referred to in Paragraph 1 above to exchange such Notes for new Notes as follows: ___________________________________________. 3. Assignee (a) confirms that it has received a copy of the Credit Agreement and the other Loan Papers (except Fee Letters specifically relating to the Administrative Lender or any other Lender), together with copies of the financial statements referred to in the Credit Agreement and such other documents and information as it has deemed appropriate to make its own credit analysis and decision to enter into this Assignment and Acceptance; (b) agrees that it will, independently and without reliance upon the Administrative Lender, Assignor, or any other Lender, and based on such documents and information as it shall deem appropriate at the time, continue to make its own credit decisions in taking or not taking action under the Credit Agreement and the other Loan Papers; (c) appoints and authorizes the Administrative Lender to take such action as agent on its behalf and to exercise such powers under the Credit Agreement, the other Loan Papers,and this Assignment and Acceptance as are delegated to the Administrative Lender by the terms thereof and hereof, together with such powers as are reasonably incidental thereto and hereto; (d) agrees that it will perform in accordance with its terms all of the obligations which by the terms of the Credit Agreement, the other Loan Papers, and this Assignment and Acceptance are required to be performed by it as a Lender; (e) specifies the addressees set forth in Schedule I attached hereto as its address for the receipt of notices; and (f) if it is not a United States Person, attaches the forms prescribed by the Internal Revenue Service certifying as to Assignee's status for purposes of determining exception from United States withholding taxes with respect to all payments to be made to Assignee under the Credit Agreement, the other Loan Papers, and this Assignment and Acceptance or such other documents as are necessary to indicate that all such payments are subject to such taxes at a rate reduced by an applicable tax treaty. 4. The effective date for this Assignment and Acceptance shall be _____________ (the "Effective Date"). 5. Upon remittance of the $2,500 processing fee to the Administrative Lender and from and after the Effective Date, (a) Assignee shall be a party to the Credit Agreement and, to the extent provided in this Assignment and Acceptance, have the rights and obligations of a Lender thereunder and (b) Assignor shall, to the extent provided in this Agreement and Acceptance, relinquish it rights and be released from its obligations under the Credit Agreement. 6. From and after the Effective Date, whenever the Administrative Lender shall receive a payment, or whenever the Administrative Lender shall make an application of funds, in respect of any aggregate outstanding principal amount of the Advances or in respect of any aggregate amount of interest accrued on the Advances, or in respect of the commitment fee (other than a payment or an application of funds in respect of any amount due and owing and payable directly to any Lender or the Administrative -2- Lender under the Credit Agreement), the Administrative Lender shall, subject to the terms of the Credit Agreement, pay to each of the Lenders an amount equal to (i) such Lender's Specified Percentage of the Commitment of such aggregate amount of principal, (ii) such Lender's Specified Percentage of the Commitment of such aggregate amount of interest, and (iii) such Lender's Specified Percentage of aggregate amount of commitment fees. 7. In the event that, after the Administrative Lender has paid to any Lender it share of any such payment received by the Administrative Lender or any such application made by the Administrative Lender, such payment or application is rescinded or must otherwise be returned or must be paid over by the Administrative Lender for any reason, such Lender shall, upon notice by the Administrative Lender, forthwith pay back to the Administrative Lender such Lender's share of the amount so rescinded or so returned or paid over. 8. THIS ASSIGNMENT AND ACCEPTANCE SHALL BE GOVERNED BY AND CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF TEXAS AND THE UNITED STATES OF AMERICA. WITHOUT EXCLUDING ANY OTHER JURISDICTION, ASSIGNEE AGREES THAT THE COURTS OF TEXAS WILL HAVE JURISDICTION OVER PROCEEDINGS IN CONNECTION HEREWITH. 9. Assignee's Specified Percentage shall be _______%. 10. This Assignment and Acceptance may be executed in any number of counterparts, each of which shall be deemed to be an original, but all such separate counterparts shall together constitute but one and the same instrument. [ASSIGNOR] By: ______________________________ ______________________________ ______________________________ [ASSIGNEE] By: ______________________________ Its: ______________________________ -3- Accepted this ____ day of _____________ NATIONSBANK OF TEXAS, N.A. as Administrative Lender By: ______________________________ Its: ______________________________ MICHAEL'S STORES, INC. By: ______________________________ Its: ______________________________ -4- Schedule I ASSIGNEE'S ADDRESS 1. ADDRESS FOR THE ADVANCES AND RECEIPT OF NOTICES 2. INITIAL LIBOR LENDING OFFICE -5- -----END PRIVACY-ENHANCED MESSAGE-----