-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, JQZSnJopSRUclozX1PQswPImwl0htPtHZBQ8NkzQF4QMNCk4jduyoxwI6bhq/NXc 2jAhzo4qK9P+txLOPzxHPA== 0000898430-97-001979.txt : 19970513 0000898430-97-001979.hdr.sgml : 19970513 ACCESSION NUMBER: 0000898430-97-001979 CONFORMED SUBMISSION TYPE: 10-K405/A PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19961228 FILED AS OF DATE: 19970509 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: LESLIES POOLMART CENTRAL INDEX KEY: 0000866048 STANDARD INDUSTRIAL CLASSIFICATION: RETAIL-RETAIL STORES, NEC [5990] IRS NUMBER: 930976447 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405/A SEC ACT: SEC FILE NUMBER: 000-18741 FILM NUMBER: 97599941 BUSINESS ADDRESS: STREET 1: 20630 PLUMMER ST CITY: CHATSWORTH STATE: CA ZIP: 91311 BUSINESS PHONE: 8189934212 MAIL ADDRESS: STREET 1: 20222 PLUMMER ST CITY: CHATSWORTH STATE: CA ZIP: 91311 10-K405/A 1 AMENDMENT #1 TO FORM 10-K405 ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K/A (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 28, 1996 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _____________________ to __________________________ Commission file number 0-19096 LESLIE'S POOLMART (Exact name of registrant as specified in its charter) California 93-0976447 (State or Other Jurisdiction of (I.R.S. Employer Identification No.) Incorporation or Organization) 20630 Plummer Street, Chatsworth, California 91311 (Address of Principal Executive Offices) (Zip Code) Registrant's Telephone Number, Including Area Code (818) 993-4212 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock (Title of Class) Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ----- ----- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [x] The aggregate market value of the voting stock held by non-affiliates of the Registrant on March 25, 1997 was $70,918,489. APPLICABLE ONLY TO CORPORATE REGISTRANTS: The number of outstanding shares of the Registrant's Common Stock on March 27, 1997 was 6,551,566. ================================================================================ PART I ITEM 1. BUSINESS Leslie's is the leading national specialty retailer of swimming pool supplies and related products. These products primarily consist of regularly purchased, non-discretionary pool maintenance items such as chemicals, equipment, cleaning accessories and parts, and also include fun, safety and fitness-oriented recreational items. The Company currently markets its products under the trade name Leslie's Swimming Pool Supplies through 278 company-owned retail stores in 27 states and through mail order catalogs sent to selected pool owners nationwide. From 1992 to 1996, the Company increased its sales at a compound annual growth rate of 18.8%, from $96.3 million to $191.6 million. During the same period, EBITDA (FIFO basis) increased at a compound annual growth rate of 21.9%, from $6.8 million to $15.0 million. The Company's growth reflects a store count that increased from 1992 to 1996 at the rate of 16.0% annually and comparable store sales increases that averaged 10.1% annually during the same time frame. The Company provides its customers a comprehensive selection of high quality products, competitive every day low prices ("EDLP") and superior customer service through knowledgeable and responsive sales personnel who offer a high level of technical assistance at convenient store locations. The EDLP offered by the Company are comparable to or better than those offered by any of its competitors, including mass merchandisers and home centers. The typical Leslie's store contains 4,000 square feet of space, is located either in a strip center or on a freestanding site in an area of heavy retail activity, and draws its customers primarily from an approximately three-mile trade area. The Company maintains a proprietary mailing list of more than 4.5 million addresses, including approximately 90% of the residential in-ground pools in the U.S. This highly focused list of target customers is central to the Company's direct mail marketing efforts, which support both its retail store and mail order operations. Management believes that the Leslie's name is one of the most recognized brands in pool supplies and represents an image of quality to consumers. In fiscal 1996, Leslie's brand name products accounted for approximately 60% of the Company's total sales. Leslie's successful execution of its business strategy has generated a 33- year history of consistently increasing sales. Management intends to continue increasing sales and profits by further expanding its store base at the rate of 12% to 15% annually and continuing to achieve positive comparable store sales increases. The Company attributes its strong historical results and its positive outlook for growth and profitability to the following factors: Leadership Position in a Highly Fragmented Market. Leslie's current store count of 278 locations is approximately equal to the sum of the next fifteen largest specialty retail competitors combined. However, despite its large relative size, Leslie's presently accounts for only approximately 5% of the estimated $3.7 billion annual pool and spa supply market. Since 1989, Leslie's has accelerated the pace of its new store openings and consequently has gained market share. Management believes that this growth has come primarily at the expense of independent local and regional pool supply retailers, which accounted for over two-thirds of industry sales in 1996. Attractive Store Economics. Leslie's results reflect extremely attractive store-level economics. The Company estimates that cash required to open each new store, including inventory net of trade payables, averages approximately $125,000. Based upon the Company's past experience, new stores generally break even in their first year of operation, pay back their initial investments after three years, and in their fifth year of operation, contribute approximately $181,000 of store operating profit, yielding a return on average initial cash investment of 145%. In 1996, the Company's mature stores (115 stores open for five years or longer) averaged approximately $900,000 of sales, generated approximately $200,000 of store operating profit per location and posted a comparable store sales increase of 5.8%. Growth Potential of Recently Opened Stores. Leslie's new stores have historically grown dramatically in sales and store operating profit during their first five years of operation. In 1996, the 142 stores opened since the end of 1992 averaged $519,000 in sales and $50,000 of store operating profit per location. Management expects these stores generally to follow the Company's historical pattern of maturation and believes there exists a large potential for sales and store operating profit increases from these nonmature stores. Large Sales Volume of Non-Discretionary Products. The consistency of Leslie's sales growth and profitability is due in large part to the sale of non- discretionary and regularly consumed products such as pool chemicals, cleaning accessories, major pool equipment (pumps and heaters) and replacement parts. Pool owners 1 must purchase such products to maintain their pools' water quality and physical appearance and, in the Company's experience, do so regardless of the economic environment. In fiscal 1996, non-discretionary and regularly consumed products comprised approximately 74% of the Company's sales, with pool chemicals representing approximately 44% of the Company's total sales. Proprietary Database of Pool Locations. Through ongoing research as well as the conduct of its retail and mail order business, Leslie's has developed a proprietary database of over 4.5 million addresses. The list includes approximately 90% of the residential in-ground pools in the U.S. This proprietary database allows Leslie's to execute cost-effective and highly targeted direct mail marketing. When combined with the Company's mail order sales results and computerized mapping capability, this database also gives Leslie's a sophisticated store site selection capability. Management believes that the scope and accuracy of its proprietary database is unique in the pool supply industry. Purchasing Power and Vertical Integration. Due to its size, Leslie's purchases more chemicals and other pool supplies than any other specialty retailer. In addition, Leslie's operates a repackaging facility which provides the Company with significant cost savings, greater control over product availability and quality, greater flexibility when sourcing products, and vital information when negotiating with third-party providers. Further, unlike most of its competitors, the Company does not rely upon third-party distribution, but has it own highly efficient distribution system. Management believes that these factors permit Leslie's to achieve a lower cost of goods than any of its competitors, including mass merchandisers and home centers. Superior Level of Customer Service. Leslie's believes that its superior level of customer service, including its comprehensive product selection, gives it a significant advantage over its competitors in winning the loyalty of customers. Due to the complicated nature of pool chemistry and pool equipment maintenance, and consistent with its philosophy of being a full service swimming pool supply retailer, Leslie's offers a high level of technical assistance to its customers. The Company has developed a comprehensive training program educating all store employees on the subjects of maintenance techniques, water chemistry and equipment testing and repair. As part of its regular customer service program the Company offers free detailed water testing, pamphlets on pool maintenance, and in-store equipment repairs, generally free of labor or bench charges. HISTORY The Company is the successor to the original Leslie's Poolmart founded in 1963. From its inception in 1963 through the end of 1987, Leslie's Poolmart grew steadily in sales and number of stores. In September 1988, Leslie's Poolmart was purchased in a highly leveraged transaction by an investment group led by Hancock Park Associates ("HPA"). The Company completed an initial public offering in April 1991 and in August 1992 added 14 stores through the acquisition of a competitor. Leslie's has added 116 stores over the past four years. Leslie's intends to continue to grow by opening additional retail stores in both new and existing markets. SWIMMING POOL SUPPLY INDUSTRY Regardless of the type or size of a swimming pool, there are numerous ongoing maintenance and repair requirements associated with pool ownership. In order to keep a pool safe and sanitized, chemical treatment is required to maintain proper chemical balance, particularly in response to variables such as pool usage, precipitation and temperature. A swimming pool is chemically balanced when the disinfectant, pH, alkalinity, hardness and dissolved solids are at the desired levels. The majority of swimming pool owners use chlorine to disinfect their pools. When the pool is chemically balanced, problems such as algae, mineral and salt saturation, corrosive water, staining, eye irritation and strong chlorine smell are less likely to occur. A regular testing and maintenance routine will result in a stable and more easily maintained pool. However, regardless of how well appropriate levels of chlorine are maintained, "shocking" is periodically required to break up the contaminants which invariably build up in the pool water. To accomplish this, the pool owner can either superchlorinate the pool or use a nonchlorinated oxidizing compound. The maintenance of proper chemical balance and the related upkeep and repair of swimming pool equipment, such as pumps, heaters, and filters, create a non- discretionary demand for pool chemicals and other swimming pool supplies 2 and services. Further, even non-usage considerations such as a pool's appearance and the overall look of a household and yard create an ongoing demand for these maintenance related supplies. In addition, pool usage creates demand for discretionary items such as floats, games and accessories. The swimming pool supply industry can be divided into four major segments by pool type: residential in-ground swimming pools, residential above-ground swimming pools (usually 12 to 24 feet in diameter), commercial swimming pools and spas or hot tubs. The Company's historical strategy was to focus primarily on the residential in-ground pool owner. In recent years the Company has expanded its activities to more aggressively address the commercial and above- ground markets as well. In the residential categories, the Company markets its products primarily to the "do-it-yourself" market as opposed to those pool owners who hire pool servicers. Through its rapidly growing commercial business, products and services are offered to all non-residential pool installations as well as to pool service companies which maintain either residential or commercial pools. The Company's uninterrupted growth through three recessionary periods suggests that due to the ongoing maintenance and repair needs of existing swimming pools, the Company would not be significantly affected by a decline in swimming pool installation. However, there can be no assurance that a prolonged severe economic downturn and resulting decline in new housing construction or swimming pool installation would not adversely affect the Company's long-term expansion plans. SEASONALITY The Company's business exhibits substantial seasonality, which the Company believes is typical of the swimming pool supply industry. In general, sales and net income are highest during the second and third fiscal quarters which represent the peak months of swimming pool use. Sales are substantially lower during the first and fourth quarters when the Company typically incurs net losses. The principal external factor affecting the Company's business is weather. Hot weather and the higher frequency of pool usage in such weather create a need for more pool chemicals and supplies. Unseasonably early or late warming trends can increase or decrease the length of the pool season. In addition, unseasonably cool weather and/or extraordinary amounts of rainfall in the peak season (such as that experienced in much of the U.S. in the spring and early summer of 1995) will tend to decrease swimming pool use. The likelihood that unusual weather patterns will severely impact the Company's results is lessened by the geographical diversification of the Company's store locations. The Company also expects that its quarterly results of operations will fluctuate depending on the timing and amount of revenue contributed by new stores and, to a lesser degree, the timing of costs associated with the opening of new stores. The Company attempts to open its new stores primarily in the first quarter in order to position itself for the following peak season. PRODUCTS Leslie's offers its customers a comprehensive selection of products necessary to satisfy their swimming pool supply needs. During 1996, the Company stocked approximately 3,000 items in each store, with more than 7,000 additional items available by special order. For 1997 and beyond, the newly-created Xpress Parts program will make 5,000 more special order items available to Leslie's customers. In 1996, approximately 550 items were displayed in the Company's residential mail order catalogs and 1,200 items were in the commercial catalog, although special order procedures make nearly all Leslie's products available to mail order customers as well. The Company's major product categories are pool chemicals; major equipment; cleaning and testing equipment; pool covers, reels, and liners; in a limited number of stores, above-ground pools; and recreational items (which include swimming pool floats, games, lounges, masks, fins, snorkels and other "impulse" items). The following table shows the approximate percentage of sales and primary function for each of the Company's major product categories in fiscal 1996: 3
PRODUCT LINE PERCENTAGE PURPOSE - -------------------------- ------------ ------------------------------------ Pool Chemicals [44%] Cleanliness, appearance, health Major Equipment & Parts [30%] Pumps and heaters for cleaning and temperature maintenance; automatic pool cleaners for ease of maintenance Cleaning and Testing [8%] Water evaluation, cleanliness and Equipment appearance Covers, Reels, Liners & Pools [9%] Safety, cleanliness and temperature maintenance for above-ground pools Recreational Items [9%] Pool enjoyment, swim aids
Non-discretionary and regularly consumed products such as pool chemicals, major equipment and parts represented approximately 75% of total sales in fiscal 1996. The high percentage of Leslie's business which is attributable to non- discretionary products results in a very high level of inventory quality at the Company since the Company's non-discretionary products have long shelf lives and are not prone to either obsolescence or shrinkage. The Company believes that product quality and availability are key attributes considered by consumers when shopping for pool supplies and that the Company's ability to provide a high quality, in-stock product offering is fundamental to its concept of value leadership. In addition to third-party brand names, Leslie's carries a broad selection of products under the Leslie's brand name. Marketing studies have shown that the Leslie's brand name is one of the three most recognized brands in pool supplies and represents an image of quality to consumers. In fiscal 1996, Leslie's brand name products accounted for approximately 60% of the Company's total sales. CHANNELS OF DISTRIBUTION Retail Store Operations. At the end of 1996, Leslie's marketed its products through 259 retail stores in 27 states under the trade name Leslie's Swimming Pool Supplies. California represents its single largest concentration of stores with 82, while 45 stores are located in Texas, and 54 stores are in the northeast/mid-Atlantic area. Leslie's retail stores are located in areas with high concentrations of swimming pools and typically are approximately 4,000 square feet in size. In addition to the store manager, the typical Leslie's store employs two assistant managers, both of whom are generally full-time employees. Additionally, Leslie's makes frequent use of part-time and temporary employees to support its full-time employees during peak seasons. During 1996, the Company had 16 regional supervisors, each of whom was responsible for approximately 16 stores. Mail Order Catalog. Leslie's mail order catalogs provide an extension of its service philosophies and products to those areas not currently served by a retail store and allow the scope of the Company's business to be truly nationwide. The Company believes that it operates one of the largest pool supply mail order businesses in the country, with annual sales for 1996 of approximately $7.7 million. Further, the Company believes that its mail order catalogs build awareness of the Leslie's name, provide it with buying efficiencies and, when coupled with information from its retail stores, are instrumental in determining site selection for new stores. CUSTOMER SERVICE Due to the complicated nature of pool chemistry and equipment maintenance and consistent with its philosophy of being a full service swimming pool supply retailer, Leslie's offers a high level of technical assistance to support its customers. The Company considers its training of store personnel to be an integral part of its service philosophy. Leslie's extensive training program for all full-time and part-time store employees includes courses in water chemistry, water testing, trouble shooting on equipment, equipment sizing and parts replacement. The Company maintains the same high customer service standards for its mail order business as it does for its retail stores. 4 During 1996, Leslie's stores in Southern and Northern California; Dallas and Houston, Texas; and Las Vegas, Nevada, were supported by the Leslie's Service Department, which offers poolside equipment installation and repair, leak detection and repair, and seasonal opening and closing services. The Service Department utilizes both Company employees and subcontractors to perform these services. The Company anticipates that operations in these markets will serve as a prototype for a nationwide service expansion. MARKETING Substantially all the Company's marketing is done on a direct mail basis through its proprietary mailing list of more than four and a half million addresses at which, primarily, residential pools are located. Leslie's has found that its ability to mail directly to this highly focused group is an effective and efficient way to conduct its marketing activities to both retail store and mail order customers. The Company constantly updates its address list through primary research techniques and in-store customer sign-ups. Addresses on the Company's proprietary list that are located within a specified service area of a retail store receive circulars once or twice per month from late March or early April through September or, selectively, through October. As a regular part of Leslie's promotional activities, each mailer highlights specific items which are intended to increase store traffic, and reinforces to the customer the advantages of shopping at Leslie's, which include everyday low pricing, a high level of customer service, and the broad selection of high quality products. Addresses outside the Company's store service areas, and recently active mail order customers within those service areas, receive the Company's mail order catalogs. Occasionally, the Company will utilize local print media when it enters a new market, and is doing so in connection with its above-ground pool sales test markets. New store openings typically involve additional advertising pieces in the first two to three months of operation. PURCHASING Leslie's management believes that because it is one of the largest purchasers of swimming pool supplies for retail sales in the United States, the Company is able to obtain very favorable pricing on its purchases from outside suppliers. Nearly all raw materials and those products not repackaged by the Company are purchased directly from manufacturers. It is common in the swimming pool supply industry for certain manufacturers to offer extended dating terms on certain products to quantity purchasers such as Leslie's. These dating terms are typically available to the Company for pre-season or early season purchases. The Company's principal chemical raw materials and granular chlorine compounds are purchased primarily from three suppliers. At the end of 1994, the Company entered into a three-year product purchase agreement with a major producer of one of the principal chlorine compounds, the chlorinated isocyanurates. The Company believes that there are several other reliable suppliers of chlorine products in the marketplace today. Although the Company has one sole source supplier for a nonchlorine shocking compound, termination of supply would not pose any significant problems for the Company because substitute chemicals and alternate shocking techniques are available. The Company believes that reliable alternative sources of supply are available for all of its raw materials and finished products. VERTICAL INTEGRATION Leslie's operates a plant in the Los Angeles area where it converts dry granular chlorine into tablet form and repackages a variety of bulk chemicals into various sized containers suitable for retail sales. Leslie's also formulates a variety of specialty liquids, including water clarifiers, tile cleaners, algaecides and stain preventives. The chemicals that the Company processes have a relatively long shelf life. Leslie's believes that supplying its stores with chemicals from its own repackaging plant provides it with cost savings, as well as greater control over product availability and quality, as compared to non-integrated pool supply retailers. It also offers the Company greater flexibility of sourcing and vital information when negotiating with third-party repackagers and chemical providers. The Leslie's brand name appears on all products processed at its repackaging plant, and on the significant majority of all its chemical products. The Company believes that it is among the largest processors of chlorine products for the swimming pool supply industry. The total output of Leslie's repackaging plant is utilized by the Company and is not sold or distributed to other retailers. 5 Leslie's currently does not intend to sell any significant amount of chemicals from its Los Angeles area facility to other retailers or distributors. In connection with the operation of its second Distribution Center in Dallas, Texas, and third Distribution Center in Bridgeport, New Jersey, the Company has expanded its use of third-party chemical repackagers and its purchase of products already in end-use configurations. These products are also generally packaged under the Leslie's brand name. The Company continually evaluates the cost effectiveness of third-party sourcing versus internal manufacturing in order to minimize its cost of goods. Leslie's will also continue to evaluate the establishment of additional chemical repackaging capabilities, though there are currently no plans for such an investment. In addition to chemicals, a variety of the Company's products are packaged under the Leslie's brand name. DISTRIBUTION The Company distributes all of its products to its retail stores and to its catalog customers through its leased distribution facilities in Ontario, California; Dallas, Texas; and Bridgeport, New Jersey. Leslie's relocated and consolidated its West coast distribution operation, along with the Los Angeles repackaging operation, into a 183,000 square foot facility in Ontario, California in early 1997. Leslie's opened its 100,000 square foot Dallas facility in November 1990 and the 81,000 square foot Bridgeport, New Jersey facility in February 1995. The Company is now purchasing the majority of the chemicals to be distributed from the Dallas and Bridgeport distribution centers from outside manufacturers rather than obtaining them through its repackaging facility in Southern California. During the height of its seasonal activities, each of the Company's retail stores is generally replenished every 5 to 10 days. The Company utilizes company-owned and operated equipment, supplemented by additional equipment leased during the busy season, to transport its goods to stores within an approximately 350-mile radius of a distribution center. Other stores receive deliveries via common carriers. MANAGEMENT INFORMATION SYSTEMS All decisions relating to the buying, pricing and distribution of products are centralized at the Company's headquarters. Leslie's computerized point-of- sale system provides detailed sales and inventory information for each item in each store. This data is used by the Company's buyers in planning their purchases and also updates the Company's inventory management system. COMPETITION Primary elements of competition in the retail swimming pool supply industry are price, technical assistance, customer service, product selection and product availability. Most of the Company's competition comes from local stores or regional chains which do not repackage or manufacture products and which generally buy products in smaller quantities. The Company believes that its vertical integration, varied sourcing strategy, and large volume purchasing enable it to maintain attractive margins as well as competitive price leadership relative to the smaller operators, and that its position is strengthened by its merchandising and marketing emphasis. The chain store competitors include a large franchise operator of approximately 110 retail outlets in the Florida market and a limited number of other retail chains of approximately 15 to 30 stores. In August 1992, Leslie's acquired one of its more prominent competitors, Sandy's Pool Supply, Inc. ("Sandy's"). Sandy's was, at the time of the acquisition, a 20-store chain which was 50% owned by Mr. Philip Leslie, a founder and former shareholder of the Company. Mr. Leslie and the co-owner of Sandy's, Mr. Sander Bass, are both subject to a 10-year non-competition agreement which precludes their participation in any retail activities competitive with the Company's current business. The Company competes on selected principal products such as chlorine with large volume, mass merchant and home center retailers. While the ability of these merchants to accept low margins on the limited number of items they offer makes them aggressive price competitors of the Company, they are not generally priced below Leslie's and do not offer the level of customer service or wide selection of swimming pool supplies available at Leslie's. 6 EMPLOYEES As of December 28, 1996, Leslie's employed 1,055 persons. During the height of the Company's seasonal activities in 1996, it employed 1,739 persons, including seasonal and part-time store employees who generally are not employed during the off season. The Company is not subject to any collective bargaining agreements and believes that its relationships with its employees are excellent. TRADEMARKS In the course of its business, Leslie's employs various trademarks, trade names and service marks as well as its logo in packaging and advertising its products. The Company has registered trademarks and trade names for several of its major products on the Principal Register of the United States Patent and Trademark Office. The Company distinguishes the products produced in its chemical repackaging operation or by third party repackagers at its direction through the use of the Leslie's brand name and logo and the trademarks and trade names of the individual items, none of which is patented, licensed, or otherwise restricted to or by the Company. The Company believes the strength of its trademarks and trade names has been beneficial to its business and intends to continue to protect and promote its marks in appropriate circumstances. ITEM 2. PROPERTIES As of April 30, 1997, the Company will operate 278 stores in 27 states. The following table sets forth information concerning the Company's stores:
STATE NUMBER OF STORES STATE NUMBER OF STORES -------------- ----------------- --------------- ---------------- Alabama 4 Michigan 4 Arizona 16 Missouri 3 California 82 North Carolina 1 Connecticut 7 New Jersey 14 Delaware 2 New Mexico 1 Florida 19 Nevada 5 Georgia 5 New York 17 Indiana 3 Ohio 7 Kansas 1 Oklahoma 4 Kentucky 1 Pennsylvania 12 Louisiana 4 Tennessee 3 Massachusetts 7 Texas 47 Maryland 5 Rhode Island 1 Virginia 3 Total Stores 278
Except for 23 owned stores, all of its retail stores are leased by the Company with lease terms expiring between 1997 and 2006. The Company's typical lease term is five years, and in the majority of instances, the Company has renewal options at increased rents. Five leases provide for rent contingent on sales exceeding specific amounts. No other leases require payment of percentage rent. In January and February of 1997, the Company relocated its corporate offices, the Southern California distribution center and the chemical repackaging operation. The corporate offices were relocated to another location in Chatsworth, California. The new 38,000 square foot office building has been leased for five years and the lease has three five-year renewal options. The Southern California distribution center (previously located in Chatsworth, California) and the chemical repackaging operations (previously located in Los Angeles) were moved and consolidated into a 183,000 square foot facility located in Ontario, California. The Ontario facility was leased for 10 years and the lease has two five- 7 year renewal options. The Company's distribution facility in Dallas, Texas, consists of 100,000 square feet, with a lease term expiring in 2000. This lease includes options to renew for two additional five-year periods. In July 1996, the Company took a short-term lease on an additional contiguous 25,000 square feet, which may be renewed on an annual basis. The 81,000 square foot distribution facility in Bridgeport, New Jersey is leased for a 10-year term, expiring in 2004. The lease includes options to renew for three five-year periods. ITEM 3. LEGAL PROCEEDINGS The Company is routinely involved in legal proceedings related to the ordinary course of its business. Management does not believe any such matters will have a material adverse effect on the Company. 8 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS HIGH AND LOW SALES PRICES OF LESLIE'S POOLMART COMMON STOCK As of March 27, 1997, there were approximately 1,900 holders of the Company's Common Stock. On April 26, 1991, the Company closed its initial public offering of 2,525,000 shares of its Common Stock. The stock is designated as a national market security on the NASDAQ Stock Market and trades under the symbol LESL. The 9 closing price of the Common Stock on March 27, 1997 was $ 13 1/2. The high and low sales prices for the Company's Common Stock for each quarter in 1996 and 1995 are reflected in the following table, adjusted to give effect to the 5% stock dividend effective in August 1995.
1996 1995 ------------------- ----------------- High Low High Low ---- --- ----- --- First Quarter $14 1/2 $ 12 1/2 $15 $12 3/8 Second Quarter 19 1/2 13 1/4 16 5/8 12 1/8 Third Quarter 17 1/4 10 7/16 16 1/4 12 1/2 Fourth Quarter 14 1/2 10 1/2 16 1/4 12 1/2
The Company has paid no cash dividends on its Common Stock for at least the past eight years. The Company currently intends to retain earnings for use in the operation and expansion of its business and therefore does not anticipate paying any cash dividends in the foreseeable future. 10 ITEM 6. SELECTED FINANCIAL DATA SELECTED CONSOLIDATED FINANCIAL DATA The following table presents selected consolidated financial data of the Company as of and for each of the five fiscal years in the period ended December 28, 1996. This financial data was derived from the audited historical consolidated financial statements of the Company and should be read in conjunction with the financial statements of the Company and "Management's Discussion and Analysis of Financial Condition and Results of Operations" elsewhere in this Annual Report.
YEAR YEAR ENDED ENDED YEARS ENDED DECEMBER 31, DEC. 28, DEC. 30, --------------------------- 1996 1995 1994 1993 1992 -------- -------- -------- -------- ------- (IN THOUSANDS EXCEPT PER SHARE AMOUNTS) STATEMENTS OF INCOME Net Sales.................... $191,640 $162,456 $141,553 $119,955 $96,337 Gross Profit................. 72,760 60,399 55,469 48,289 39,017 Gross Margin................. 38.0% 37.2% 39.2% 40.3% 40.5% Loss (Gain) on Disposition of Fixed Assets................ 750 27 (106) 120 26 Depreciation and Amortization................ 4,326 3,374 2,393 2,389 2,423 Income from Operations....... 9,400 6,691 9,569 6,350 4,330 Interest Expense............. 2,786 2,708 1,733 1,189 829 Net Income................... 3,869 3,407 4,584 3,035 2,146 PER SHARE DATA/(1)/ Net Income Per Share......... $ .57 $ .52 $ .70 $ .47 $ .34 Book Value Per Share......... $ 5.55 $ 4.91 $ 4.18 $ 3.41 $ 2.90 Weighted Average Shares Outstanding................. 6,790 6,614 6,515 6,464 6,399 BALANCE SHEET DATA Working Capital.............. $ 12,718 $ 13,007 $ 8,072 $ 8,957 $ 7,387 Total Assets................. 83,157 79,529 61,717 49,532 44,888 Current Ratio................ 1.45 1.47 1.38 1.73 1.56 Long-term Debt............... 15,581 17,843 11,272 12,751 10,220 Stockholders' Equity......... 36,315 31,921 26,339 21,041 17,820 SELECTED OPERATING DATA Capital Expenditures......... $ 8,807 $ 9,550 $ 7,394 $ 5,532 $ 3,343 EBITDA/(2)/.................. 14,476 10,092 11,856 8,859 6,779 EBITDA (FIFO basis)/(3)/..... 14,960 10,472 11,476 8,612 6,779 EBITDA (FIFO basis) Margin/(4)/................. 7.81% 6.45% 8.11% 7.18% 7.04% Number of Employees at Year- end......................... 1,055 780 678 565 533 Stores Operated at Year-end.. 259 224 180 158 143 Comparable Store Sales Growth...................... 9.9% 6.0% 12.9% 11.7% 2.4%
- -------- /(1)/ Prior year amounts have been adjusted to reflect the 5% stock dividends effective in April 1994 and August 1995. /(2)/ Earnings before interest, taxes, depreciation, amortization and loss (gain) on disposition of fixed assets. /(3)/ EBITDA (FIFO basis) represents EBITDA plus the LIFO provision. /(4)/ EBITDA (FIFO basis) Margin represents EBITDA (FIFO basis) as a percentage of sales. 11 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The Private Securities Litigation Reform Act of 1995 provides a "safe harbor" for forward-looking statements. Certain information included in this document (as well as information included in oral statements or other written statements made or to be made by the Company) contains statements that are forward-looking, such as statements relating to plans for future activities. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward- looking statements made by or on behalf of the Company. These risks and uncertainties include, but are not limited to, those relating to domestic economic conditions, activities of competitors, changes in federal or state tax laws and of the administration of such laws and the general condition of the economy and its effect on the securities market. RESULTS OF OPERATIONS The Company is the leading specialty retailer of swimming pool supplies and related products in the United States. At December 28, 1996 the Company marketed its products through 259 Company-owned retail stores in 27 states and through a nationwide mail order catalog. The Company is vertically integrated, operating a chemical repackaging facility in Los Angeles, California. In 1996, the Company supplied its retail stores from three distribution facilities, located in Chatsworth, California; Dallas, Texas; and Bridgeport, New Jersey. For the year ended December 28, 1996, sales increased 18.0% to $191,640,000 from $162,456,000 in 1995. The sales increase is attributable to comparable store sales growth of 9.9% and 35 (net) new store additions in 1996. Operating income for the period increased 40.5% to $9,400,000 or 4.9% of sales, from $6,691,000 or 4.1% of sales in 1995. Net income for 1996 increased 13.6% to $3,869,000 or $.57 per share, as compared to $3,407,000 or $.52 per share in 1995. In August 1995, a 5% stock dividend was effected and the 1995 earnings per share have been adjusted to reflect the impact of the stock dividend. The 18.0% sales growth and improved gross margin produced a 40.5% increase in operating profits to $9,400,000 or 4.9% of sales in 1996. The $9,400,000 operating income in 1996 reflects charges totaling $750,000 associated with the disposition of certain fixed assets in 1996. Excluding the impact of these charges, the 1996 operating income margin would have been expanded to 5.3% of sales versus the 4.1% operating income margin realized in 1995, and after tax net income would have equaled $4,308,000 or $.63 per share. During 1996, the Company expanded its business by opening 37 new stores. Additionally, two stores were closed and three relocated in 1996. This resulted in a net increase of 35 stores at the end of December 1996 as compared to December 1995. 1996 compared to 1995
SALES ----------------- 1996 1995 -------- -------- (IN THOUSANDS) Retail Stores................................................ $179,119 $150,263 Mail Order Catalog........................................... 7,723 7,945 Service Departments and Other................................ 4,798 4,248 -------- -------- $191,640 $162,456 ======== ========
Sales for the year ended December 28, 1996 increased 18% over the same period in 1995. Retail store sales, which are comprised of residential sales and commercial sales, grew 19.2%, reflecting increases in comparable store sales of 9.9% as well as an increase in the total number of stores in operation from 224 in 1995 to 259 for most of the 1996 selling season. The increased growth rate of comparable store sales (9.9% in 1996) as compared to the prior year (6.0% in 1995) was the result of improved weather experienced in most market areas, and the commercial sales program, which continued to show solid growth of approximately 20% in 1996. 12 Mail order catalog sales declined 2.8% to $7,723,000 from $7,945,000 in 1995. New store openings in a number of strong mail order markets continued to cannibalize mail order sales. Service department sales increased 12.9% in 1996 due to an increased number of service technicians operating in existing service areas, including a significant expansion in Houston, Texas, as well as generally improved execution. Gross profit for the year ended December 28, 1996 increased to 38.0% of sales, from 37.2% in 1995. Gross profit represents sales less the cost of services and purchased goods, chemical repackaging costs, and non- administrative occupancy costs. The gross margin increase in 1996 reflects increased retail pricing taken in early 1996, offsetting some product cost increases seen in 1995 and again in 1996. In 1996, selling, general and administrative expenses equaled $62,358,000, versus $53,442,000 in 1995, an increase of 16.6%, largely the result of the 15.6% increase in the number of stores. As a percentage of sales, selling, general and administrative expenses decreased 0.4% to 32.5%, compared to 32.9% of sales in 1995, due to the improved comparable store sales performance in 1996. EBITDA (FIFO basis) was $15.0 million in 1996, representing an increase of $4.5 million, or 42.9%, as compared to $10.5 million for 1995. EBITDA (FIFO basis) margin increased to 7.8% of sales in 1996 as compared to 6.4% of sales in 1995. The increase in EBITDA (FIFO basis) and EBITDA (FIFO basis) margin was primarily due to the Company's higher sales volume in 1996 and an increase in the Company's gross margin. Amortization of acquisition costs, which represents the amortization of goodwill, equalled $252,000 in 1996, essentially flat as compared to 1995. In 1996 the Company recognized losses on the disposition of fixed assets totaling approximately $750,000. This was primarily comprised of a $650,000 write off of leasehold improvements related to the relocations of its corporate offices, Southern California distribution operations and Pool Brite chemical repackaging operation in early 1997. Additionally a $100,000 loss was realized on the sale of an excess property located in Oklahoma City. Income from operations for the period increased 40.5% to $9,400,000 or 4.9% of sales, from $6,691,000 or 4.1% of sales in 1995. Interest expense equalled $2,786,000 in 1996, up slightly from $2,708,000 in 1995. The increase was primarily the result of slightly increased borrowings due to the capital spending and working capital requirements associated with the continued growth of the business. The tax provision increased to $2,745,000 in 1996, an effective rate of 41.5%, from $576,000 and an effective tax rate of 14.5% in 1995. The lower effective tax rate in 1995 as compared to 1996 reflects the reversal in 1995 of certain tax reserves which were no longer needed. 1995 compared to 1994
SALES ----------------- 1995 1994 -------- -------- (IN THOUSANDS) Retail Stores................................................ $150,263 $129,545 Mail Order Catalog........................................... 7,945 8,283 Service Departments and Other................................ 4,248 3,725 -------- -------- $162,456 $141,553 ======== ========
Sales for the year ended December 30, 1995 increased 14.8% over the same period in 1994. Retail store sales grew 16.0%, reflecting increases in comparable store sales of 6.0% as well as an increase in the total number of stores in operation from 180 in 1994 to 223 for most of the 1995 selling season. The lower growth rate of comparable store sales (6.0%) as compared to prior years (12.9% in 1994 and 11.7% in 1993) was the result of the cool, wet weather experienced in most market areas in the March through June timeframe. Despite the reduced growth in residential sales, the commercial sales program continued to show strong growth of approximately 45% throughout 1995. Mail order catalog sales declined 4.1% to $7,945,000 from $8,283,000 in 1994. The poor spring weather impacted mail order sales as did new store openings in a number of strong mail order markets which continued to cannibalize mail order sales. Service department sales increased 14.0% in 1995 due to an increased number of service technicians operating in existing service areas, as well as generally improved execution. 13 Gross profit for the year ended December 30, 1995 declined as a percentage of sales, to 37.2% from 39.2% in 1994. Gross profit represents sales less the cost of services and purchased goods, chemical repackaging costs, and non- administrative occupancy costs. The decrease in gross margin in 1995 was the result of higher occupancy costs associated with the opening of 44 new stores plus the new northeast distribution center, increased merchandise costs in a variety of product categories, and the strong growth of commercial sales, which generate a somewhat lower gross margin. In 1995, selling, general and administrative expenses equaled $53,442,000, versus $45,764,000 in 1994, an increase of 16.8%, largely the result of the 24.4% increase in the number of stores. As a percentage of sales, selling, general and administrative expenses increased 0.6% to 32.9%, compared to 32.3% of sales in 1994, due to the lower than expected comparable store sales performance in 1995. It is management's objective to grow selling, general and administrative expenses at a rate lower than the rate of store growth and, as a result, reduce these expenses as a percentage of sales over time. EBITDA (FIFO basis) was $10.5 million in 1995, representing a decrease of $1.0 million, or 8.7%, as compared to $11.5 million for 1994. EBITDA (FIFO basis) margin decreased to 6.4% of sales in 1995 as compared to 8.1% of sales in 1994. The decrease in EBITDA (FIFO basis) and EBITDA (FIFO basis) margin was primarily due to the Company's lower gross margin and higher selling, general and administrative expenses as a percent of sales. Amortization of acquisition costs, which represents the amortization of goodwill, equaled $239,000 in 1995, essentially flat as compared to 1994. Income from operations was $6.7 million in 1995, representing a decrease of $2.9 million, or 30.2%, as compared to $9.6 million for 1994. Income from operations as a percentage of net sales decreased to 4.1% in 1995 as compared to 6.8% in 1994. The decrease was primarily due to the Company's lower gross margin and higher selling, general and administrative expenses as a percent of sales. Interest expense equaled $2,708,000 in 1995, up from $1,733,000 in 1994. The increase was primarily the result of increased borrowings associated with higher capital spending and working capital requirements due to continued growth in the business, and the lower earnings realized in 1995. The tax provision declined to $576,000 in 1995, an effective rate of 14.5%, from $3,252,000 and an effective tax rate of 41.5% in 1994. The lower effective tax rate in 1995 as compared to 1994 reflects the third quarter reversal of certain tax reserves which were no longer needed. FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES Changes in Financial Condition. From December 30, 1995 to December 28, 1996, total current assets increased $71,000 from $40,809,000 to $40,880,000. The slight overall increase in current assets results from decreases in inventories offset by increases in accounts receivable and deferred tax assets. The principal component of current assets is inventory, which decreased $355,000 from $34,303,000 to $33,948,000. The inventory decrease results mainly from a decrease in the average store inventory, partially offset by an increase in the number of stores. Average store inventories were higher in 1995 compared to 1996 primarily due to an oversupply of some winterizing and recreational items which the Company sold through in 1996. Total current liabilities increased $360,000 between December 30, 1995 and December 28, 1996. The increase is due principally to the $1,840,000 increase in accounts payable from $4,215,000 at December 30, 1995 to $6,055,000 at December 28, 1996. The increase in accounts payable is generally attributable to improved payment terms received from the Company's vendors. Liquidity and Capital Resources. For the year ended December 28, 1996, net cash provided by operating activities was $11,970,000 compared with cash used in operating activities of $4,144,000 in the prior year. Higher earnings and decreased per store inventory balances resulted in increased cash flow from operations in 1996. In 1996, cash used in investing activities was $8,586,000 compared with $9,229,000 in the prior year. This decrease resulted primarily from reduced capital expenditures in 1996 as compared to 1995 due to the slightly lower number of new store openings. Cash used in financing activities was $3,371,000 in 1996 compared with cash provided of $13,384,000 in 1995. In the second quarter of 1995, the Company completed a private placement of its $10 million 8% Convertible Subordinated Debentures. The debentures have a six-year term, and are convertible into Leslie's California Common Stock at $20.95 per share. The debentures are unsecured and subordinated to the present and future senior debt of the Company. The proceeds were used to refinance some existing long-term debt and provide capital for continued growth of the Company. 14 Line-of-credit borrowings decreased $1,516,000 since December 30, 1995 primarily as a result of the higher cash flow from operations. In January of 1997 the company amended its credit agreement with Wells Fargo Bank to consolidate the existing line of credit facility, the project financing facility, and the term loan into one expanded $38,000,000 line of credit facility. The term of the expanded line of credit facility was extended through February 16, 2000. Interest accrues at the lender's reference rate (8.25% at December 28, 1996) or at LIBOR plus 1.75%, at the Company's election. The Company believes that its internally generated funds, as well as its borrowing capacity, are adequate to meet its working capital needs, maturing obligations and capital expenditure requirements, including those relating to the opening of new stores. Seasonality and Quarterly Fluctuations. The Company's business exhibits substantial seasonality which the Company believes is typical of the swimming pool supply industry. In general, sales and net income are highest during the second and third quarters, which represent the peak months of swimming pool use. Sales are substantially lower during the first and fourth quarters when the Company will typically incur net losses. The principal external factor affecting the Company's business is weather. Hot weather and the higher frequency of pool usage in such weather create a need for more pool chemicals and supplies. Unseasonably early or late warming trends can increase or decrease the length of the pool season. In addition, unseasonably cool weather and/or extraordinary amounts of rainfall in the peak season decrease swimming pool use. The likelihood that unusual weather patterns will severely impact the Company's results is lessened by the geographical diversification of the Company's store locations. The Company expects that its quarterly results of operations will fluctuate depending on the timing and amount of revenue contributed by new stores and, to a lesser degree, the timing of costs associated with the opening of new stores. The Company attempts to open its new stores primarily in the first quarter in order to position itself for the following peak season. As additional stores and the resultant operating expenses are added, the Company expects its usual losses incurred in the first and fourth quarters to increase. SUMMARIZED QUARTERLY FINANCIAL DATA (UNAUDITED) (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
THREE MONTHS ENDED -------------------------------------- MARCH 30 JUNE 29 SEPT. 28 DEC. 28 -------- ------- -------- ------- 1996 Sales............................ $18,064 $88,835 $63,657 $21,084 Gross Profit..................... 4,258 38,236 25,868 4,398 (Loss) Income from Operations.... (8,610) 17,265 7,712 (6,967)/(1)/ Net (Loss) Income................ (5,525) 9,658 4,176 (4,440) Net (Loss) Income Per Common Equivalent Share................ $ (.82) $ 1.41 $ .62 $ (.66) Weighted Average Common Equivalent Shares............... $ 6,769 6,867 6,776 6,756 EBITDA (FIFO basis)/(2)/......... (7,564) 18,534 8,919 (4,929) Comparable Store Sales Growth.... 6.6% 16.1% 4.2% 6.4% THREE MONTHS ENDED -------------------------------------- APRIL 1 JULY 1 SEPT. 30 DEC. 30 -------- ------- -------- ------- 1995 Sales............................ $15,360 $71,945 $56,862 $18,289 Gross Profit..................... 3,826 29,883 22,230 4,460 (Loss) Income from Operations.... (6,921) 12,138 6,974 (5,500) Net (Loss) Income................ (4,416) 6,692 4,817 (3,686) Net (Loss) Income Per Common Equivalent Share/(3)/........... $ (.67) $ 1.01 $ .73 $ (.56) Weighted Average Common Equivalent Shares/(3)/.......... $ 6,592 6,622 6,618 6,624 EBITDA (FIFO basis)/(2)/......... (6,257) 12,846 7,791 (3,908) Comparable Store Sales Growth.... (0.6)% (0.3)% 16.0% 9.5%
- -------- /(1)/ The quarter ended December 28, 1996 loss from operations included approximately a $650,000 loss on disposition of fixed assets. /(2)/ EBITDA (FIFO basis) represents income before interest, expense, depreciation and amortization expense, the LIFO provision, (gains) and losses on disposition of fixed assets and the provision for income taxes. /(3)/ The 1995 amounts have been adjusted to reflect a 5% stock dividend effective August 1995. 15 Recent Accounting Pronouncement. The Company adopted Statement of Financial Accounting Standard No. 121 "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of" ("SFAS 121") in the first quarter of 1996. The adoption of SFAS 121 did not impact the Company's financial position or its results of operations. In addition, in 1996 the Company adopted the disclosures required by Statement of Financial Accounting Standard No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"). The disclosures required by SFAS 123 are presented below in Note 12 of Notes to the Consolidated Financial Statements. SUBSEQUENT EVENT On February 26, 1997, the Company's Board of Directors approved an Agreement of Merger providing for the reincorporation of the Company in Delaware by merger into a wholly-owned Delaware subsidiary (the "Reincorporation"), and an Agreement and Plan of Merger providing for the merger of Poolmart USA Inc., a newly-formed corporation, with and into the Company (the "Merger"). Consummation of the Reincorporation and Merger are subject to shareholder approval and other conditions, including financing. A special meeting of shareholders is currently scheduled for June 10, 1997, at which shareholders of the Company as of the record date of April 22, 1997 will be voting on the Reincorparation and Merger proposals. Assuming consummation of the reincorporation and upon effectiveness of the Merger, (i) each outstanding share of common stock of the Company will be converted into $14.50 cash (other than 359,505 shares owned primarily by members of management, including Michael Fourticq, the Chairman of the Company, and Brian McDermott, the President and CEO of the Company and other than shares as to which the holders perfect dissenters' rights) and (ii) outstanding options covering approximately 846,000 shares of common stock, including those not yet vested, would be cancelled for payment of the difference between the exercise price and $14.50 per share. The total value of the shares and options approximates $101 million. Certain directors and members of management have an interest in the Reincorporation and Merger. See Item 13--Certain Relationships and Related Transactions. 16 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA INDEX TO FINANCIAL STATEMENTS
PAGE ---- Report of Independent Public Accountants................................. 15 Management's Report...................................................... 16 Consolidated Balance Sheets--December 28, 1996 and December 30, 1995..... 17 Consolidated Statements of Income--Years Ended December 28, 1996, December 30, 1995 and December 31, 1994................................. 18 Consolidated Statements of Shareholders' Equity--Years Ended December 28, 1996, December 30, 1995 and December 31, 1994........................... 19 Consolidated Statements of Cash Flows--Years Ended December 28, 1996, De- cember 30, 1995 and December 31, 1994................................... 20 Notes to Consolidated Financial Statements............................... 21
17 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Board of Directors and Shareholders of Leslie's Poolmart: We have audited the accompanying consolidated balance sheets of Leslie's Poolmart (a California corporation) and subsidiaries as of December 28, 1996 and December 30, 1995 and the related consolidated statements of income, shareholders' equity and cash flows for each of the three fiscal years in the period ended December 28, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Leslie's Poolmart and subsidiaries as of December 28, 1996 and December 30, 1995, and the results of their operations and their cash flows for each of the three fiscal years in the period ended December 28, 1996, in conformity with generally accepted accounting principles. /s/ Arthur Andersen LLP Arthur Andersen LLP Los Angeles, California March 6, 1997 18 MANAGEMENT'S REPORT Management is responsible for the preparation and integrity of the financial statements appearing in this Proxy Statement. The financial statements were prepared in accordance with generally accepted accounting principles and include certain amounts based on management's best estimates and judgments. The Company maintains a system of internal accounting controls designed to provide reasonable assurance that assets are safeguarded and that transactions are executed as authorized and are recorded and reported properly. Management believes that existing internal accounting control systems are achieving their objectives and that they provide reasonable assurance concerning the accuracy of the financial statements. Arthur Andersen LLP, independent public accountants, has audited the Company's financial statements and their report is presented herein. The Board of Directors has an Audit Committee composed entirely of outside Directors. Arthur Andersen LLP has direct access to the Audit Committee and periodically meets with the Committee to discuss accounting, auditing and financial reporting matters. /s/ Robert D. Olsen Robert D. Olsen Chief Financial Officer 19 LESLIE'S POOLMART CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
DEC. 28, 1996 DEC. 30, 1995 ------------- ------------- ASSETS - ------ CURRENT ASSETS: Cash............................................. $ 87 $ 74 Accounts and other receivables, net.............. 2,550 2,235 Inventories, net................................. 33,948 34,303 Prepaid expenses and other....................... 1,693 1,876 Deferred tax assets.............................. 2,602 2,321 ------- ------- Total current assets........................... 40,880 40,809 ------- ------- PROPERTY, PLANT AND EQUIPMENT:..................... 46,058 39,550 Less--Accumulated depreciation and amortization.. 12,751 10,005 ------- ------- Net property, plant and equipment................ 33,307 29,545 ------- ------- OTHER ASSETS: Goodwill, net.................................... 8,298 8,550 Other............................................ 672 625 ------- ------- Total other assets............................. 8,970 9,175 ------- ------- $83,157 $79,529 ======= ======= LIABILITIES AND SHAREHOLDERS' EQUITY - ------------------------------------ CURRENT LIABILITIES: Accounts payable................................. $ 6,055 $ 4,215 Accrued liabilities.............................. 4,480 4,546 Short-term borrowings............................ 15,440 16,956 Current portion of long-term debt................ 2,187 2,085 ------- ------- Total current liabilities...................... 28,162 27,802 ------- ------- DEFERRED TAX LIABILITIES........................... 3,099 1,963 LONG-TERM DEBT, net of current portion............. 5,581 7,843 CONVERTIBLE SUBORDINATED DEBENTURES................ 10,000 10,000 COMMITMENTS AND CONTINGENCIES...................... -- -- SHAREHOLDERS' EQUITY: Preferred stock, authorized 1,000,000 shares; none issued and outstanding..................... -- -- Common stock, no par value: Authorized--40,000,000 shares Issued and outstanding--6,547,928 and 6,507,074 at Dec. 28,1996 and Dec. 30, 1995, respectively................................... 32,625 32,100 Retained earnings (deficit)...................... 3,690 (179) ------- ------- Total shareholders' equity..................... 36,315 31,921 ------- ------- $83,157 $79,529 ======= =======
The accompanying notes are an integral part of these consolidated balance sheets. 20 LESLIE'S POOLMART CONSOLIDATED STATEMENTS OF INCOME (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
YEARS ENDED ----------------------------------------- DEC. 28, 1996 DEC. 30, 1995 DEC. 31, 1994 ------------- ------------- ------------- Net sales........................... $191,640 $162,456 $141,553 Cost of sales....................... 118,880 102,057 86,084 -------- -------- -------- Gross profit........................ 72,760 60,399 55,469 Selling, general and administrative expenses........................... 62,358 53,442 45,764 Amortization of acquisition costs... 252 239 242 Loss (gain) on disposition of fixed assets............................. 750 27 (106) -------- -------- -------- Income from operations.............. 9,400 6,691 9,569 Interest expense, net............... 2,786 2,708 1,733 -------- -------- -------- Income before taxes................. 6,614 3,983 7,836 Income tax provision................ 2,745 576 3,252 -------- -------- -------- Net income.......................... $ 3,869 $ 3,407 $ 4,584 ======== ======== ======== Net income per share................ $ .57 $ .52 $ .70
The accompanying notes are an integral part of these consolidated statements. 21 LESLIE'S POOLMART CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT) (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
COMMON STOCK ------------------ RETAINED TOTAL NUMBER OF (DEFICIT) SHAREHOLDERS' SHARES AMOUNT EARNINGS EQUITY --------- -------- --------- ------------- Balance, at December 31, 1993....... 5,603,131 $ 21,467 $ (426) $ 21,041 Stock dividend.................... 283,853 3,447 (3,447) -- Issuance of common stock.......... 1,650 17 -- 17 Stock options exercised........... 107,101 292 -- 292 Tax benefit from stock options ex- ercised.......................... -- 405 -- 405 Net income........................ -- -- 4,584 4,584 --------- -------- ------- -------- Balance, at December 31, 1994....... 5,995,735 25,628 711 26,339 Stock dividend.................... 300,793 4,297 (4,297) -- Issuance of common stock.......... 2,050 27 -- 27 Stock options exercised........... 82,735 514 -- 514 Exercise of convertible securi- ties............................. 125,761 1,383 -- 1,383 Tax benefit from stock options ex- ercised.......................... -- 251 -- 251 Net income........................ -- -- 3,407 3,407 --------- -------- ------- -------- Balance, at December 30, 1995....... 6,507,074 32,100 (179) 31,921 Issuance of common stock.......... 50 1 -- 1 Stock options exercised........... 40,804 304 -- 304 Tax benefit from stock options ex- ercised.......................... -- 220 -- 220 Net income........................ -- -- 3,869 3,869 --------- -------- ------- -------- Balance, at December 28, 1996....... 6,547,928 $ 32,625 $ 3,690 $ 36,315 ========= ======== ======= ========
The accompanying notes are an integral part of these consolidated statements. 22 LESLIE'S POOLMART CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
YEARS ENDED ----------------------------------------- DEC. 28, 1996 DEC. 30, 1995 DEC. 31, 1994 ------------- ------------- ------------- OPERATING ACTIVITIES: Net income......................... $ 3,869 $ 3,407 $ 4,584 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Depreciation and amortization...... 4,326 3,374 2,393 Loss (gain) on disposition of fixed assets............................ 750 27 (106) (Increase) decrease in: Accounts and other receivables..... (315) (902) (339) Inventories, net................... 355 (10,114) (6,309) Prepaid expenses and other......... 183 (231) (989) Other assets....................... (47) (290) 262 Increase (decrease) in: Accounts payable and accrued lia- bilities.......................... 1,774 2,121 1,725 Income taxes....................... 1,075 (1,536) (680) ------- -------- ------- Net cash provided by (used in) op- erating activities................ 11,970 (4,144) 541 ------- -------- ------- INVESTING ACTIVITIES: Purchase of property, plant and equipment......................... (8,807) (9,550) (7,394) Proceeds from dispositions of property, plant and equipment..... 221 321 583 ------- -------- ------- Net cash used in investing activi- ties.............................. (8,586) (9,229) (6,811) ------- -------- ------- FINANCING ACTIVITIES: Net line-of-credit borrowings...... (1,516) 7,435 3,151 Additions to long-term debt........ -- 10,000 4,890 Payments of long-term debt......... (2,160) (4,592) (2,055) Issuance of common stock and stock options exercised................. 305 541 292 ------- -------- ------- Net cash (used in) provided by fi- nancing activities................ (3,371) 13,384 6,278 ------- -------- ------- NET INCREASE IN CASH................. 13 11 8 CASH AT BEGINNING OF PERIOD.......... 74 63 55 ------- -------- ------- CASH AT END OF PERIOD................ $ 87 $ 74 $ 63 ======= ======== =======
The accompanying notes are an integral part of these consolidated statements. 23 LESLIE'S POOLMART NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. BUSINESS AND OPERATIONS Leslie's Poolmart (the Company) is a specialty retailer of swimming pool supplies and related products. As of December 28, 1996, the Company marketed its products under the trade name Leslie's Swimming Pool Supplies through 259 retail stores in 27 states and through mail order catalogs sent to selected swimming pool owners nationwide. The Company also repackages certain bulk chemical products for retail sale. The Company's business is highly seasonal as the majority of its sales (79% in 1996 and 1995) and all of its operating profits are generated in the second and third quarters. The Company purchased the capital stock of Sandy's Pool Supply, Inc. (Sandy's) effective August 31, 1992. The adjusted purchase price for Sandy's was approximately $1,189,000. The Company paid cash of $730,000 (net of Sandy's cash on hand of approximately $120,000) at August 31, 1992, and in 1993 the Company received a refund of $75,000 upon the settlement of the purchase price. The remainder of the purchase price will be paid in installments through 2002. 2. STOCK DIVIDEND In August 1995 and April 1994, 5% stock dividends were declared for shareholders of record as of August 31, 1995 and April 29, 1994, respectively. The fair market value of the stock dividends was transferred from retained earnings to common stock in the accompanying 1995 and 1994 consolidated financial statements. The earnings per share, weighted average number of shares outstanding, and the outstanding options reflect the impact of these stock dividends. 3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES a. Principles of Consolidation The consolidated financial statements of the Company include Leslie's Poolmart and Sandy's Pool Supply, Inc., its wholly-owned subsidiary. b. Fiscal Periods In January 1995, to be consistent with the reporting practices of many major retailers, the Company changed its fiscal year from a calendar year to a 52- or 53-week year which will end on the Saturday closest to December 31. Each fiscal quarter will have 13 weeks and will close on the Saturday closest to March 31, June 30 and September 30. c. Cash Line-of-credit borrowings include outstanding checks of $25,000 and excess cash balances of $205,000 at December 28, 1996, and December 30, 1995, respectively. d. Accounts and Other Receivables, Net Accounts and other receivables include allowances for doubtful accounts of $49,000 and $70,000 at December 28, 1996 and December 30, 1995, respectively. e. Inventories Inventories are stated at the lower of cost or market. Cost is determined on the last-in, first-out (LIFO) basis. The effect of utilizing this method resulted in inventory balances which were $544,000 lower at December 28, 1996, $60,000 lower at December 30, 1995, and $320,000 higher at December 31, 1994, than would have been reported under the first-in, first-out (FIFO) method. 24 LESLIE'S POOLMART NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) f. Property, Plant and Equipment Property, plant and equipment are stated at cost. Costs of normal maintenance and repairs are charged to expense as incurred. Major replacements or improvements of property, plant and equipment are capitalized. When items are sold or otherwise disposed of, the cost and related accumulated depreciation or amortization are removed from the accounts, and any resulting gain or loss is included in the statements of income. Depreciation and amortization are computed using the straight-line method (considering appropriate salvage values) based on the following estimated average useful lives: Buildings and improvements....................................... 15-30 years Vehicles, machinery and equipment................................ 3-10 years Office furniture and equipment................................... 3-10 years Leasehold improvements........................................... 4-10 years
g. Goodwill The excess of the acquisition price over the fair value of the net assets at the date of acquisition is included in the accompanying consolidated balance sheets as "Goodwill." Goodwill is being amortized (straight-line) over forty years. The Company continually evaluates whether later events and circumstances have occurred that indicate the remaining estimated useful life of goodwill may warrant revision or that the remaining balance of goodwill may not be recoverable. When factors indicate that goodwill should be evaluated for possible impairment, the Company uses an estimate of the related business segment's undiscounted net income over the remaining life of the goodwill in measuring whether the goodwill is recoverable. The balance recorded at December 28, 1996 and December 30, 1995 was net of accumulated amortization of $1,397,000 and $1,145,000, respectively. h. Income Taxes The Company provides for deferred income taxes relating to timing differences in the recognition of income and expense items (primarily depreciation and amortization) for financial and tax reporting purposes. Also, differences between the tax basis and the financial reporting basis of various assets were created when the Company was acquired in 1988 and when the Company purchased Sandy's in 1992; deferred tax assets and liabilities were provided related to these differences. Deferred taxes at December 28, 1996 and December 30, 1995 include a provision for the differences between tax and financial asset values except that deferred taxes were not provided with respect to amounts allocated to goodwill. As the difference between tax and financial reporting basis changes, appropriate charges/credits are made to the deferred tax account. i. Mail Order Catalog Sales Revenue on mail order catalog sales is recognized at the time goods are shipped. j. Cost of Sales Included in cost of sales are the costs of services and purchased goods, direct manufacturing and chemical repackaging costs and non-administrative occupancy costs. k. Advertising Advertising costs are recognized as the advertising expense is incurred. The net advertising expense incurred was $5,812,000 for the year ended December 28, 1996; $4,344,000 for the year ended December 30, 1995; and $4,223,000 for the year ended December 31, 1994. 25 LESLIE'S POOLMART NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) l. Use of Estimates in the Preparation of Consolidated Financial Statements The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of expenses during the reporting period. Actual results could differ from those estimates. m. Recent Accounting Pronouncements The Company adopted Statement of Financial Accounting Standard No. 121 "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of" (SFAS 121) in the first quarter of 1996. The adoption of SFAS 121 did not impact the Company's financial position or its results of operations. In addition, in 1996 the Company adopted Statement of Financial Accounting Standard No. 123, "Accounting for Stock-Based Compensation" (SFAS 123). The disclosures required by SFAS 123 are presented in Note 12. n. Reclassifications Certain prior period amounts in the consolidated financial statements have been reclassified to conform to the 1996 presentations. 4. INVENTORIES Inventories consist of the following:
DECEMBER 28, DECEMBER 30, 1996 1995 ------------ ------------ Raw materials and supplies......................... $ 1,659,000 $ 1,433,000 Finished goods..................................... 32,289,000 32,870,000 ----------- ----------- $33,948,000 $34,303,000 =========== ===========
5. PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment consists of the following:
DECEMBER 28, DECEMBER 30, 1996 1995 ------------ ----------- Land................................................ $ 6,578,000 $ 6,734,000 Buildings and improvements.......................... 6,868,000 6,716,000 Equipment........................................... 1,785,000 1,484,000 Leasehold improvements.............................. 14,796,000 12,836,000 Office furniture, equipment and other............... 15,118,000 11,278,000 Construction-in-process............................. 913,000 502,000 ----------- ----------- 46,058,000 39,550,000 Less--Accumulated depreciation and amortization..... 12,751,000 10,005,000 ----------- ----------- $33,307,000 $29,545,000 =========== ===========
6. BANK CREDIT AGREEMENT Effective June 30, 1995, the Company entered into a Second Amended and Restated Credit Agreement with Wells Fargo Bank which has three facilities: a Line-of-Credit, a Revolving Term Loan, and a Project financing 26 LESLIE'S POOLMART NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) facility, which may be drawn to finance specific real estate development projects undertaken in connection with the addition of new retail stores. The Credit Agreement contains certain financial covenants and requires that certain other debts of the Company be subordinated in right of repayment to the lender. As of December 28, 1996 the Company was in compliance with these covenants. As of December 28, 1996, the Line-of-Credit's outstanding principal balance was $15,440,000. The Credit Agreement was amended in November 1995, increasing the amount of borrowings allowed under the line-of-credit up to $19,000,000. In early 1996, the line of credit was amended and temporarily expanded (to $22,000,000 through May 15, 1996 and $19,000,000 thereafter) and the term was extended through October 1, 1997. Subsequent to year-end, the Company amended its Credit Agreement to consolidate the existing line of credit facility, the project financing facility, and the revolving term loan into one expanded $38,000,000 line of credit facility. The term of the expanded line of credit facility was extended through February 16, 2000. Interest is payable monthly on all borrowings. The amended Line-of-Credit accrues interest at the lender's reference rate (8.25% at December 28, 1996) or at LIBOR plus 1.75%, at the borrower's election. 7. LONG-TERM DEBT Long-term debt consists of the following:
DECEMBER 28, DECEMBER 30, 1996 1995 ------------ ------------ Revolving Loan................................... $6,000,000 $8,000,000 Notes payable collateralized by security interests in certain assets, with maturities from March, 1999 to September, 2002. Interest accrues at rates of 6.5% to 8.25%............... 719,000 860,000 Notes payable collateralized by security interest in various properties, due in monthly installments with maturities from December 2003 to December 2009. Interest accrues at the rate of 7.625% to 9.125%............................. 1,049,000 1,068,000 ---------- ---------- 7,768,000 9,928,000 Less--Current portion............................ 2,187,000 2,085,000 ---------- ---------- $5,581,000 $7,843,000 ========== ==========
Principal maturities of long-term debt as of December 28, 1996 are as follows: 1997.............................................................. $2,187,000 1998.............................................................. 4,193,000 1999.............................................................. 124,000 2000.............................................................. 106,000 2001.............................................................. 113,000 Thereafter........................................................ 1,045,000 ---------- $7,768,000 ==========
27 LESLIE'S POOLMART NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Convertible Subordinated Debentures On May 25, 1995, the Company completed a private placement of its $10 million 8% convertible subordinated debentures. Interest is payable semi- annually. The debentures have a six-year term, expiring May 15, 2001 and are convertible into the Company's common stock at $20.95 per share. The debentures are unsecured and subordinated to the present and future senior debt of the Company. 7 1/2% Convertible Notes In conjunction with the Company's initial public offering in April, 1991, the Company and one of its former shareholders agreed to terminate the shareholder's covenant not to compete in exchange for $2,767,000 of the Company's 7 1/2% convertible notes. In December, 1993, approximately $1,384,000 of these 7 1/2% convertible notes was repaid. The remaining portion of the 7 1/2% convertible notes was converted to shares of the Company's common stock at a conversion price of $11.00 per share on December 29, 1995. 8. LEASES The Company leases certain store, office, distribution and manufacturing facilities under operating leases which expire at various dates through 2007. Lease agreements generally provide for increases related to cost of living indices and require the Company to pay for property taxes, repairs and insurance. Future minimum lease payments at December 28, 1996 are as follows: 1997............................................................. $13,798,000 1998............................................................. 11,286,000 1999............................................................. 10,030,000 2000............................................................. 7,597,000 2001............................................................. 5,320,000 Thereafter....................................................... 10,205,000 ----------- $58,236,000 ===========
As of March 3, 1997, the Company had entered into operating leases for additional new store sites which have future minimum lease payment requirements of approximately $677,000 in 1997, $1,016,000 in 1998, 1999, and 2000, $976,000 in 2001, and $1,434,000 thereafter. Certain leases are renewable at the option of the Company for periods of one to ten years. Rent expense charged against income totaled $16,024,000, $13,397,000, and $10,119,000, in 1996, 1995 and 1994, respectively. 9. INCOME TAXES The provision for income taxes is comprised of the following:
1996 1995 1994 ---------- ----------- ---------- Federal: Current............................... $2,386,000 $ 2,263,000 $3,074,000 Deferred.............................. (222,000) (1,750,000) (567,000) ---------- ----------- ---------- 2,164,000 513,000 2,507,000 ---------- ----------- ---------- State: Current............................... 641,000 610,000 858,000 Deferred.............................. (60,000) (547,000) (113,000) ---------- ----------- ---------- 581,000 63,000 745,000 ---------- ----------- ---------- $2,745,000 $ 576,000 $3,252,000 ========== =========== ==========
28 LESLIE'S POOLMART NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) A reconciliation of the provision for income taxes to the amount computed at the federal statutory rate is as follows:
1996 1995 1994 ---------- ----------- ---------- Federal income tax at statutory rate..... $2,248,000 $ 1,354,000 $2,664,000 Reversal of tax reserves no longer need- ed...................................... -- (1,100,000) -- Effect of differences created by acquisition accounting including amortization of differences between fair values assigned in purchase accounting and historical tax values............... 146,000 96,000 96,000 State taxes, net of federal benefit...... 351,000 226,000 492,000 ---------- ----------- ---------- $2,745,000 $ 576,000 $3,252,000 ========== =========== ==========
The tax effect of temporary differences which give rise to significant portions of the deferred tax liability are summarized below.
1996 1995 ------------------------- ------------------------- DEFERRED TAX DEFERRED TAX DEFERRED TAX DEFERRED TAX ASSETS LIABILITIES ASSETS LIABILITIES ------------ ------------ ------------ ------------ Property, plant and equipment differences.. $ -- $ 1,857,000 $ -- $ 941,000 State income taxes...... 197,000 -- 207,000 -- Inventory overhead differences............ 1,942,000 -- 1,834,000 -- Difference in timing of certain deductions..... 463,000 1,242,000 280,000 1,022,000 ---------- ----------- ---------- ---------- $2,602,000 $ 3,099,000 $2,321,000 $1,963,000 ========== =========== ========== ==========
The Company has net operating losses (NOL) available for offset against future tax liabilities at December 28, 1996 of $7,452,000, extending through 2007, limited to approximately $83,000 per year. As this NOL is utilized, such amounts will reduce goodwill. 10. CONTINGENCIES The Company is a defendant in lawsuits or potential claims encountered in the normal course of business, such matters are being vigorously defended. In the opinion of management, the resolutions of these matters will not have a material effect on the Company's financial position or results of operations. The Company's general liability insurance program and employee group medical plan have self-insurance retention features of $100,000 and $75,000 per incident, respectively. The Company's liability is limited to $600,000 per year for the general liability program. 11. 401(K) PLAN The Company provides for the benefit of its employees a voluntary retirement plan under Section 401(k) of the Internal Revenue Code. During 1996, the plan covered all eligible employees and provided for a matching contribution by the Company of 50% of each participant's contribution up to 4% of the individual's compensation as defined. The expenses related to this program were $263,000, $212,000, and $199,000 for 1996, 1995 and 1994, respectively. 29 LESLIE'S POOLMART NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 12. STOCK BASED COMPENSATION PLANS The Company has granted stock options to various employees and directors. The Company accounts for these plans under APB Opinion No. 25, under which no compensation cost has been recognized. Had compensation cost for these plans been determined consistent with SFAS 123, the Company's net income and earnings per share would have been reduced to the following proforma amounts:
1996 1995 ---------- ---------- Net income As Reported.......................................... $3,869,000 $3,407,000 Pro forma............................................ $3,490,000 $3,362,000 Primary EPS As Reported.......................................... $ 0.57 $ 0.52 Pro forma............................................ $ 0.50 $ 0.51
Because the SFAS 123 method of accounting has not been applied to options granted prior to January 1, 1995, the resulting pro forma compensation cost may not be representative of that to be expected in future years. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions used for grants in 1996 and 1995: risk free interest rates of 5.8% and 6.5%, respectively; expected volatility of 49% and 50%, respectively; weighted average fair value of options of $7.55 and $7.88 in 1996 and 1995, respectively; expected lives of 7 years for both years and no expected dividend yield for either year. In June 1990, the Company adopted a stock option plan which provided for the issuance of up to 165,375 common shares at an option price equal to at least 100 percent (incentive options) or at least 85 percent (nonqualified options) of the fair value of the common stock at the date of grant. In May 1993, May 1994 and May 1996, the shareholders approved the reservation of an additional 165,375 shares, 330,750 shares and 600,000 shares, respectively, for options issuable under the 1990 plan. Options granted vest ratably over a three-year period, and all expire after 10 years. In March 1992, the Board of Directors adopted the 1992 Directors' Stock Option Plan (which was approved by the shareholders in May 1992) which provides for the issuance to non-employee directors of up to 110,250 common shares at an option price equal to 100 percent of fair market value of the common stock at the date of grant. Options are granted pursuant to a formula under which such directors and the Company's Chairman receive an option to purchase 5,513 shares of stock upon becoming an eligible director and 3,308 shares on the first business day of each succeeding year on which such person is an eligible director.
1996 1995 1994 ----------------- ----------------- ------------------ WTD AVG WTD AVG WTD AVG SHARES EX PRICE SHARES EX PRICE SHARES EX PRICE ------- -------- ------- -------- -------- -------- Outstanding at beg. of year................... 833,166 $ 7.58 859,947 $ 7.06 782,696 $ 5.08 Granted................. 208,168 12.92 71,332 13.02 201,497 12.16 Exercised............... (40,804) (7.44) (83,640) (6.15) (116,342) (2.51) Cancelled............... (28,463) (11.68) (14,473) (11.61) (7,904) (7.66) ------- ------ ------- ------ -------- ------ Outstanding at end of year................... 972,067 8.62 833,166 7.58 859,947 7.06 ------- ------ ------- ------ -------- ------ Exercisable at end of year................... 709,074 $ 9.94 565,431 $ 9.00 444,982 $ 8.74
30 LESLIE'S POOLMART NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) The following table summarizes information about all stock options outstanding as of December 28, 1996:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE -------------------------------- -------------------- WEIGHTED AVERAGE WEIGHTED WEIGHTED REMAINING AVERAGE AVERAGE RANGE OF NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE EXERCISE PRICE OUTSTANDING LIFE PRICE EXERCISABLE PRICE -------------- ----------- ----------- -------- ----------- -------- Less than $1.00....... 135,536 2.6 years $ 0.64 135,536 $ 0.64 $5.00 to $7.99........ 361,805 6.2 years 6.80 355,924 6.82 $8.00 to $10.99....... 89,484 7.4 years 9.20 57,229 8.49 $11.00 to $14.00...... 385,242 8.6 years 13.00 160,385 12.86 ------- --------- ------ ------- ------ 972,067 6.8 years $ 8.62 709,074 $ 7.14 ------- --------- ------ ------- ------
During 1996, 40,804 options were exercised at exercise prices ranging between $5.44 and $12.62. In December 1990, the Company adopted a stock bonus plan which provides for the issuance of 20,000 shares of common stock at the fair market value at the date of grant to employees in consideration for services rendered. At December 28, 1996, 12,348 shares of common stock had been issued pursuant to this plan. 13. CALCULATION OF PER SHARE AMOUNTS Net income per share amounts are computed based on the weighted average number of shares outstanding plus the shares that would be outstanding assuming exercise of dilutive stock options, which are considered common stock equivalents. The weighted average number of shares outstanding was 6,789,664, 6,614,497 and 6,515,558 for 1996, 1995 and 1994, respectively. 14. PREFERRED STOCK The rights, preferences and privileges of the preferred stock authorized in the Company's Articles of Incorporation are to be determined by the Board of Directors and do not require shareholder approval. No preferred stock is currently outstanding. 15. SUPPLEMENTAL CASH FLOW DISCLOSURES The Company paid interest charges of $2,835,000, $2,419,000 and $1,538,000, in 1996, 1995, and 1994, respectively. The Company paid income taxes of $2,425,000, $2,086,000, and $4,041,000, in 1996, 1995 and 1994, respectively. 16. PROPOSED REINCORPORATION AND MERGER On February 26, 1997, the Company's Board of Directors approved an Agreement of Merger providing for the reincorporation of the Company in Delaware by merger into a wholly-owned Delaware subsidiary, and an Agreement and Plan of Merger providing for the merger of Poolmart USA Inc., a newly-formed corporation, with and into the Company. Following consummation of the reincorporation and upon effectiveness of the latter merger, (i) each outstanding share of common stock of the Company would be converted into $14.50 cash (other than 359,505 shares owned primarily by members of management, including Michael Fourticq, the Chairman of the Company, and Brian McDermott, the President and CEO of the Company and other than shares as to which the holders perfect dissenters' rights) and (ii) outstanding options covering approximately 846,000 shares of 31 LESLIE'S POOLMART NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) common stock, including those not yet vested, would be cancelled for payment of the difference between the exercise price and $14.50 per share. The total amount expected to be paid for these shares and options approximates $101 million. The proposed mergers are subject to various conditions, including financing and approval by the Company's shareholders. The shareholders are expected to vote on the mergers during the second quarter of 1997. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. 32 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The directors and executive officers of the Company are as follows:
Name Age Position with the Company ---- --- ------------------------- Michael J. Fourticq 53 Chairman of the Board of Directors Brian P. McDermott 40 Chief Executive Officer, President and Director Dann V. Angeloff 61 Director John A. Canning, Jr. 52 Director Richard H. Hillman 53 Director Dr. Dale R. Laurance 51 Director Clarence T. Schmitz 50 Director Murray H. Dashe 54 Chief Operating Officer Robert D. Olsen 44 Executive Vice President, Chief Financial Officer Cynthia G. Watts 34 Vice President, General Counsel and Secretary
Michael J. Fourticq has been Chairman of the Board of Directors of the Company since May 1988. Between May 1988 and August 1992, he served as the Company's Chief Executive Officer. From 1986 to 1987, Mr. Fourticq was President and Chief Executive Officer of the Mortell Company, a manufacturer of specialty chemical products. Since 1985 he has been the sole general partner of Hancock Park Associates, which is the general partner and affiliate of several investment partnerships. Mr. Fourticq was the Chairman of the Board and Chief Executive Officer of Alliance Northwest Industries, Inc., a holding company, principally for a specialty lighting distributor and retailer, which filed a petition for reorganization under Chapter 11 of the Federal Bankruptcy Code in March 1996. Brian P. McDermott has been President and a Director of the Company since April 1989 and its Chief Executive Officer since August 1992. Between May 1988 and April 1989, he served as the Company's Executive Vice President of Operations and also was its Secretary from May 1988 until October 1989. From 1987 to 1988, Mr. McDermott served as Director of Acquisitions and Divestitures at Castle & Cooke, Inc., a publicly-held holding company with diverse real estate and corporate interests. Mr. McDermott is Chairman of the Board of Busybody, Inc., a privately held fitness equipment retailer, of which he was acting Chief Executive Officer from November 1994 through March 1996. Dann V. Angeloff has been a Director of the Company since November 1996. Since 1976 he has been President and founder of The Angeloff Company, a corporate financial advisory firm. He currently serves on the Boards of Directors of Compensation Resource Group, 33 Eagle Lifestyle Nutrition Inc., Nicholas/Applegate Growth Equity Fund, Nicholas/Applegate Investment Trust, Public Storage, Inc., Ready Pac Produce, Inc., Royce Medical, Inc. and Seda Specialty Packaging. John A. Canning, Jr. has been a Director of the Company since January 1996. He is President and founder of Madison Dearborn Partners, Inc. which specializes in management buyout and special equity investing. Prior to founding Madison Dearborn Partners in January 1993, Mr. Canning spent 24 years with First Chicago Corporation, most recently as Executive Vice President of The First National Bank of Chicago and President of First Chicago Venture Capital. He currently serves on the Boards of Directors of The Interlake Corporation, the Milnot Company and Tyco Toys, Inc. Richard H. Hillman has been a Director of the Company since May 1988. From May 1988 to April 1989, he served as President of the Company. Since 1985, Mr. Hillman has been President of Hillman Capital Partners, a private investment and management advisory firm. From 1978 through 1984, Mr. Hillman served as Chairman, President and Chief Executive Officer of Phone-Mate, Inc., a manufacturer and marketer of telephone answering machines, telephones and related products. Dr. Dale R. Laurance has been a Director of the Company since January 1996. He has been a Director of Occidental Petroleum Corporation since 1990 and its President since 1996. He was its Senior Operating Officer from 1990 to 1996 and Vice President of Operations from 1984 to 1990. He is a Director of Canadian Occidental Petroleum Ltd., Jacobs Engineering Group Inc., The Armand Hammer Museum of Art and Cultural Center, Inc., Chemical Manufacturers Association, American Petroleum Institute, U.S.-Arab Chamber of Commerce, Boy Scouts of America-Western Los Angeles County Council and a member of the Advisory Board of the Chemical Heritage Foundation. He is a past Chairman of the Advisory Board for the Department of Chemical and Petroleum Engineering at the University of Kansas and is a recipient of the Distinguished Engineering Service Award from the School of Engineering at the Universtiy of Kansas. Dr. Laurance has served as a Managing Director of the Joffrey Ballet Company. Clarence T. Schmitz has been a Director of the Company since November 1996. Since February 1995 he has been Executive Vice President and Chief Financial Officer of Jefferies Group, Inc., a brokerage and investment banking firm. From 1993 through 1995, Mr. Schmitz served as national Managing Partner of KPMG, a financial services firm in its Manufacturing, Retailing & Distribution line of business. From 1990 through 1993, Mr. Schmitz served as Managing Partner of KPMG in its Los Angeles Business Unit. He is a Director of RVI Limited, a Bermuda insurance company. Murray H. Dashe has been Chief Operating Officer of the Company since August 1992 and was a Director between August 1989 and November 1996. From April 1990 through August 1992, he was President and Chief Executive Officer of RogerSound Labs, a Southern California retailer of audio/video consumer electronics, which filed a petition for dissolution under Chapter 7 of the Federal Bankruptcy laws in June 1992. From 1985 through April 1990, Mr. Dashe held several positions with SILO, a consumer electronics and appliance retailer, including Regional President. From 1970 to 1978, and 1983 to 1985, Mr. Dashe held positions of increasing operating responsibility with Allied Stores Corp. (now Federated Department Stores, Inc.), an operator of department and specialty stores throughout the United States. Robert D. Olsen has been Executive Vice President and Chief Financial Officer of the Company since April 1993. From 1990 through April 1993 he was Executive Vice President and Chief Financial Officer of TuneUp Masters, a California-based chain of fast automotive tuneup and lube outlets, which filed a petition for reorganization under Chapter 11 of the Federal Bankruptcy laws in November 1994. From 1985 through 1989, Mr. Olsen held several positions 34 with AutoZone, an automotive parts and accessories retailer, including Controller, Vice President - Finance, and Senior Vice President and Chief Financial Officer. From 1981 through 1984 he held a variety of positions with PepsiCo International and Pepsi Cola USA. Cynthia G. Watts has been Vice President and General Counsel of the Company since February 1993 and Secretary of the Company since March 1993. From 1988 to January 1993, Ms. Watts was an attorney at Paul, Hastings, Janofsky and Walker, a Los Angeles-based law firm, where her practice was concentrated in the areas of general corporate representation and corporate finance, including securities, venture capital and mergers and acquisitions. All executive officers of the Company are chosen by the Board of Directors and serve at the Board's discretion. No family relationships exist between any of the officers or directors of the Company. Messrs. Fourticq and McDermott are partners together in investment partnerships that do not own shares of the Company. Occidental Petroleum Corporation holds the Company's Convertible Subordinated Debentures in the amount of $10 million, and one of its subsidiaries is a supplier of chemicals to the Company. 35 ITEM 11. EXECUTIVE COMPENSATION SUMMARY COMPENSATION TABLE The following summary compensation table sets forth for the fiscal years ended December 28, 1996, December 30, 1995, and December 31, 1994, the compensation for services to the Company of the Chief Executive Officer and the four most highly compensated executive officers as of December 30, 1995.
Long-Term All Other Annual Compensation Compensation Compensation -------------------- ------------- -------------------- Salary Bonus Stock Options 401(k) Insurance Year ($) ($) (1) (#) (2) ($)(3) ($)(4) ---- ------- ------- ------------- ------ --------- Michael J. Fourticq 1996 157,500 0 3,308 0 0 Chairman of the Board 1995 150,000 0 3,308 0 0 1994 150,000 0 3,308 0 0 Brian P. McDermott 1996 367,500 0 30,000 3,000 204 Chief Executive Officer, 1995 350,000 0 0 3,000 132 President and Director 1994 325,000 40,000 28,875 2,772 132 Murray H. Dashe 1996 288,750 0 22,500 3,000 576 Chief Operating Officer 1995 275,000 0 0 3,000 576 1994 255,000 27,500 21,000 2,772 576 Robert D. Olsen 1996 231,000 0 22,500 3,000 204 Executive Vice President 1995 220,000 0 0 3,000 204 and Chief Financial 1994 200,000 22,500 21,000 1,945 204 Officer Cynthia G. Watts 1996 157,500 0 15,000 3,000 108 Vice President, General 1995 150,000 0 0 3,000 108 Counsel and Secretary 1994 135,000 15,000 13,125 1,967 108 - ------------
(1) Annual bonuses are indicated for the year in which they were earned and accrued. Bonuses for the 1994 fiscal year were paid in 1995. (2) Options granted prior to April 1994 and August 1995 have been adjusted to reflect the Company's stock dividends effective those months. All options were granted at their fair market value on the date of grant. (3) Represents Company matching contributions to individuals' 401(k) accounts. (4) Represents premiums paid by the Company for life insurance not generally available to all Company employees. 36 OPTION GRANTS IN 1996 The following table sets forth the stock options granted to the Chief Executive Officer and the four other most highly compensated executive officers as of December 28, 1996, during the fiscal year ended December 28, 1996, pursuant to the Company's 1990 Stock Option Plan, 1992 Directors' Stock Incentive Plan, or otherwise.
Potential Realizable Value at Assumed Annual Rates of Stock Price Appreciation for Option Individual Grants Term (1) -------------------------------------------------- -------------------------- % of Total Options Exercise Granted to or Options Employees in Base Price Expiration Name Granted Fiscal Year ($/Sh)(2) Date 5% ($) 10% ($) ---- --------- ------------ ---------- ---------- ------- ------- Michael J. Fourticq 3,308(3) 1.8% 13.25 1/1/06 27,570 69,860 Brian P. McDermott 30,000(4) 16.4% 13.50 1/9/06 254,700 645,470 Murray Dashe 22,500(4) 12.0% 13.50 1/9/06 191,030 484,100 Robert D. Olsen 22,500(4) 12.0% 13.50 1/9/06 191,030 484,100 Cynthia G. Watts 15,000(4) 8.2% 13.50 1/9/06 127,350 322,730
- ------------- (1) Potential realizable value is based on an assumption that the stock price of the common stock appreciates at the annual rate shown (compounded annually) from the date of grant until the end of the ten-year option term. These numbers are calculated based on requirements promulgated by the Securities and Exchange Commission and do not reflect the Company's estimate of future stock price growth. (2) All stock options were granted at fair market value on the date of grant. (3) Granted pursuant to 1992 Directors' Stock Incentive Plan. (4) Granted pursuant to 1990 Stock Option Plan. Vests over three years. AGGREGATED OPTION EXERCISES IN 1996 AND FISCAL YEAR-END OPTION VALUE The following table sets forth the stock option exercises by the named executive officers during 1996. In addition, the table indicates the total number and value of exercisable and non-exercisable options held by each such officer as of December 28, 1996.
Value of Unexercised Number of Unexercised In-the-Money Options at Value Options at December 28, 1996 December 28, 1996 ($) (1) Shares Acquired Realized ---------------------------- ----------------------------- Name on Exercise (#) ($) Exercisable Unexercisable Exercisable Unexercisable ---- --------------- -------- ----------- ------------- ----------- ------------- Michael J. Fourticq 0 0 16,540 0 48,172 0 Brian P. McDermott 0 0 196,869 28,925 1,527,801 3,400 Murray H. Dashe 0 0 119,733 22,001 729,215 2,667 Robert D. Olsen 0 0 124,363 22,001 554,065 2,667 Cynthia G. Watts 500 4,997 39,874 14,376 150,605 1,667
- ------------ (1) Potential unrealized value is (i) the fair market value at fiscal 1996 year-end ($13.00 per share) less the option exercise price times (ii) the number of shares. 37 DESCRIPTION OF CERTAIN COMPENSATION ARRANGEMENTS Murray H. Dashe Arrangements In Connection with his agreeing to serve as the Company's Chief Operating Officer, the Company entered into a severance agreement with Murray H. Dashe in August 1992 pursuant to which, if the Company terminates Mr. Dashe's employment without cause (as defined in the agreement) the Company will pay Mr. Dashe his annual salary for a period of one year from the date of termination. The Company further agreed that if Mr. Dashe is terminated for any reason other than death, disability or cause, the Company will (at Mr. Dashe's option) purchase his residence for a price of $835,000. The Agreement's term runs until Mr. Dashe's employment terminates voluntarily or due to death, disability or cause or when the value of all exercisable (and exercised) options granted Mr. Dashe is at least $1.5 million for a four-month period. DIRECTORS' COMPENSATION Cash Compensation For their services as directors during the 1996 fiscal year, each non- employee director was paid a fee at the annual rate of $18,000 and received, in addition, $750 for each Board meeting attended and $500 for each Committee meeting attended. 1992 Directors' Stock Incentive Plan The Company's 1992 Directors' Stock Incentive Plan was adopted by the Board of Directors of the Company in March 1992 and ratified by its shareholders in May 1992 (the "1992 Plan"). The purpose of the 1992 Plan is to provide incentives that will attract and retain highly competent persons as directors of the Company by providing them with opportunities to acquire a proprietary interest in the Company. The 1992 Plan provides for the grant to any non- employee director of the Company and the Chairman of the Board of the Company (each, a "Participating Director") of stock options receiving no special tax benefit (the "Options"). The aggregate number of options to purchase shares of the Company's Common Stock which may be issued under the 1992 Plan is 110,250. The The 1992 Plan is administered by the Board of Directors or a committee appointed by the Board of Directors. However, the time of grant, number of shares granted, and exercise price are established by the terms of the 1992 Plan and are not subject to the discretion of any committee or person. Whenever any person becomes a Participating Director of the Company, that person will automatically receive an Option, granted the date such person becomes a Participating Director, to purchase 5,512 shares of Common Stock. In addition, on the first business day of each calendar year during the term of the 1992 Plan, each Participating Director then in office is automatically granted an Option to purchase 3,308 shares of Common Stock. All Options have an exercise price equal to their market value on the date of grant, and have a term of ten years (subject to earlier termination). The Options generally will be fully exercisable six months after the date of grant. On December 28, 1996, options to purchase 61,748 shares at a weighted average exercise price of $11.03 per share were outstanding under the 1992 Plan. 38 ITEM 12. PRINCIPAL SHAREHOLDERS AND STOCK OWNERSHIP OF MANAGEMENT The following table sets forth information as of March 27, 1997 with respect to (i) all persons known by the Company to be the beneficial owner of more than 5% of the Company's Common Stock; (ii) all executive officers of the Company; (iii) all directors; and (iv) all directors and executive officers as a group. The address for the directors and executive officers is in care of the Company.
AMOUNT AND NATURE OF BENEFICIAL OWNERSHIP OF NAME AND ADDRESS COMMON PERCENT OF BENEFICIAL OWNER STOCK(1)(2) OF CLASS ------------------- ------------ -------- Michael J. Fourticq (3)(4)(5)........................... 842,338 12.8 David L. Babson & Co. Inc. ............................ 686,124 10.5 One Memorial Drive Cambridge, MA 02142 Liberty West Partners (6)............................... 334,141 5.1 1925 Century Park East, Suite 810 Los Angeles, CA 90067 Richard H. Hillman (3)(7)............................... 322,758 4.9 Wellington Management Company........................... 397,112 6.1 75 State Street Boston, MA 02109 Brian P. McDermott (3)(5)(8)............................ 378,974 5.6 Robert D. Olsen (5)(9).................................. 127,988 1.9 Murray A. Dashe (5)(10)................................. 123,826 1.9 Cynthia G. Watts (5)(11)................................ 43,268 * John A. Canning, Jr. (3)(12)............................ 16,538 * Dr. Dale R. Laurance (3)(13)............................ 8,513 * Dann V. Angeloff (3).................................... 0 * Clarence T. Schmitz (3)................................. 0 * All Directors and Executive Officers as a Group (10 persons) (14).......................................... 1,864,203 26.3 Hancock Group (15)...................................... 1,770,430 25.7
- -------- * Amount represents less than one percent of the Common Stock. (1) Information with respect to beneficial ownership is based upon the Company's stock records and data supplied to the Company by the holders. (2) Beneficial ownership is determined in accordance with rules of the Securities and Exchange Commission, and includes generally voting power and/or investment power with respect to securities. Shares of Common Stock subject to options currently exercisable or exercisable within 60 days are deemed outstanding for computing the percentage of the person holding such options but are not deemed outstanding for computing the percentage of any other person. Except as indicated by footnote, and subject to joint ownership with spouses and community property laws where applicable, the persons named in the table above have sole voting and investment power with respect to all shares of Common Stock shown as beneficially owned by them. (3) Director. (4) Includes 444,842 shares owned outright by Mr. Fourticq; 623 shares owned by Mr. Fourticq's spouse; 46,192 shares held by Hancock Park Associates, a partnership of which Mr. Fourticq is the sole general partner; and 334,141 shares held by Liberty West Partners, a partnership of which Mr. Fourticq is a general partner; all of which shares Mr. Fourticq may be deemed to beneficially own; and 16,540 shares subject to options exercisable within 60 days. 39 (5) Executive officer. (6) All such shares may be deemed to be beneficially owned by Mr. Fourticq. See footnote (4). (7) Includes 1,323 shares held in trust for the benefit of Mr. Hillman's son and 18,745 shares subject to options exercisable within 60 days. (8) Shares are held through a trust. Includes 201,775 shares subject to options exercisable within 60 days. (9) All shares are subject to options exercisable within 60 days. (10) Includes 123,358 shares subject to options exercisable within 60 days. (11) Includes 42,217 shares subject to options exercisable within 60 days. (12) Includes 11,025 shares held by Mr. Canning's spouse and 5,513 shares subject to options exercisable within 60 days. (13) Shares are held through a trust. Includes 5,513 shares subject to options exercisable within 60 days. (14) Includes 541,649 shares subject to options exercisable within 60 days. (15) Hancock Group consists of Hancock Park Associates II, L.P., a Delaware limited partnership ("HPA"), and Michael J. Fourticq and Brian P. McDermott who are the general partners of HPA, Richard H. Hillman, Gregory Fourticq and Robert D. Olsen. According to information appearing in a Schedule 13D filed with the Securities and Exchange Commission and delivered to the Company, the Hancock Group beneficially owns 1,770,430 shares of Common Stock. According to an amendment to this Schedule 13D received by the Company and a separate Schedule 13D from Green Equity Investors II, L.P. ("Green"), as a result of certain activities described in these filings that involve Hancock Group and Green, Hancock Group and Green may be deemed to be a group within the meaning of Section 13(d) of the Exchange Act. According to the Schedule 13D filed by Green, although Green itself does not own any Common Stock of the Company, if such group exists, such group beneficially owns 1,770,430 shares of Common Stock. 40 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS In November, 1996, a special committee of newly elected independent members of the Board (the "Special Committee") was appointed to evaluate proposals for business combinations involving the Company, including a proposal submitted by a management group led by Hancock Park Associates II, L.P. ("HPA"). On February 26, 1997, the Board met and after considering the recommendation of the Special Committee and fairness opinions provided by professionals, the Board unanimously approved an Agreement of Merger providing for the reincorporation of the Company in Delaware by merger into a wholly-owned Delaware subsidiary (the "Reincorporation") and an Agreement of Plan of Merger providing for the merger (the "Merger") of Poolmart USA Inc., a newly-formed Corporation with it into the Company ("Leslie's Delaware"). Consummation of the Reincorporation at Merger (sometimes collectively referred to as the "Merger Transaction") are subject to shareholder approval and other conditions including financing. A special meeting of shareholders is currently scheduled for June 10, 1997 at which shareholders of the Company as of the record date of April 22, 1997 are expected to vote on the Reincorporation and Merger proposals. Assuming the Reincorporation and Merger are consummated, (i) each outstanding share of the Company's Common Stock will be cancelled and converted automatically into the right to receive $14.50 in cash payable to the holder thereof, without interest (the "Cash Merger Consideration"), other than 359,505 shares (the "Continuing Shares") held primarily by members of management of the Company which share remain outstanding (currently representing 5.5% of the outstanding Common Stock) and other than shares held by shareholders who are entitled to and who have perfected their dissenters' rights; and (ii) the Company will be owned by certain officers and directors of the Company and affiliates, associates, and persons related to the Company's officer and directors (collectively the "Hancock Group") and Green Equity Investors II, L.P., and affiliate of Leonard Green & Partners, L.P. 41 The interests of the Hancock Group in connection with the Merger which may present them with actual or potential conflicts of interest are summarized below. The Special Committee and the Board were aware of these interests and considered them among the other matters. It is anticipated that the following individuals and entities will hold the indicated number of fully diluted shares of Common Stock or other securities of Leslie's Delaware shown in the following table immediately after the Merger:
NUMBER OF FULLY- NUMBER OF SHARES OF PERCENTAGE OF FULLY- DILUTED SHARES OF LESLIE'S DELAWARE DILUTED LESLIE'S NAME OF LESLIE'S DELAWARE SERIES A DELAWARE INDIVIDUAL OR ENTITY COMMON STOCK PREFERRED STOCK COMMON STOCK(1) -------------------- ----------------- ------------------- -------------------- Michael J. Fourticq(2)(3)......... 165,515 7.9% Brian P. McDermott(3)(4).......... 243,552 11.6 Gregory Fourticq(3)............... 10,000 0.5 Richard H. Hillman(3)............. 22,414 1.1 Occidental Petroleum(5)(6)........ 316,092 28,000 15.0 Robert D. Olsen(3)(7)............. 117,529 5.6
- -------- (1) Computed based upon the total number of shares of Leslie's Delaware Common Stock outstanding and the number of shares of Leslie's Delaware Common Stock underlying warrants and options outstanding immediately after the effective date of the merger. (2) Includes 4,976 shares subject to options exercisable within 60 days after the consummation of the Merger. (3) Member of the Hancock Group, which in the aggregate with management will own 34.9% of the fully diluted shares of Leslie's Delaware Common Stock. (4) Includes 77,000 shares subject to stock options issued under the ISO Option Plan described below. (5) Pursuant to Rule 14a-1(a), Occidental is an associate of Dr. Laurance, a director of the Company. (6) Common Stock shown is obtainable upon the exercise of warrants. (7) Includes 52,761 shares subject to stock options issued under the NQ Option Plan described below and 50,000 shares subject to stock options issued under the ISO Option Plan described below. The information appearing below with respect to beneficial ownership of the Company's Common Stock has been determined as of March 27, 1997 and includes options exercisable within 60 days of that date. However, information as to the receipt of Cash Merger Consideration for shares subject to outstanding options has been determined after giving effect to acceleration of the vesting of all outstanding options as a result of the Merger, and therefore may reflect a higher total number. Mr. Michael J. Fourticq, Chairman of the Board, had beneficial ownership directly or indirectly of 842,338 shares of the Company's Common Stock (approximately 12.8% of the Company's Common Stock). Certain of these shares are held by partnerships of which Mr. Fourticq is a general partner and certain of these shares are subject to stock options. Mr. Fourticq's brother, Gregory Fourticq, is a partner of one of these partnerships which holds 334,141 of these shares. Out of his total beneficial holdings, Mr. Fourticq will retain 160,539 Continuing Shares of Leslie's Delaware Common Stock which will not be converted into the right to receive the Cash Merger Consideration in the Merger. Certain of Mr. Fourticq's options will be cancelled immediately prior to the Effective Date, and he will receive a ten-year option to purchase 4,976 shares of Leslie's Delaware at an exercise price of $5.00 per share (an "NQ Option") under the Leslie's Delaware Non-Qualified Stock Option Plan (the "NQ Option Plan"). Mr. Fourticq and his affiliated partnerships will receive the Cash Merger Consideration (or, with respect to shares subject to options, the Cash Merger Consideration less the option exercise price) with respect to approximately 667,350 shares of Leslie's Delaware Common Stock. 42 Mr. Brian P. McDermott, a Director and the President and Chief Executive Officer of the Company, had beneficial ownership directly or indirectly of 378,974 shares of the Company's Common Stock (approximately 5.6% of the Company's Common Stock). Certain of these shares are subject to stock options. Out of his total beneficial holdings, Mr. McDermott will retain 166,552 Continuing Shares of Leslie's Delaware Common Stock which will not be converted into the right to receive the Cash Merger Consideration in the Merger. Mr. McDermott will receive the Cash Merger Consideration (or, with respect to shares that are subject to options, the Cash Merger Consideration less the option exercise price) with respect to approximately 236,441 shares of Leslie's Delaware Common Stock. Mr. McDermott will receive options to purchase 77,000 shares of Leslie's Delaware under the Leslie's Delaware incentive stock option plan (the "ISO Option Plan"). Mr. Gregory Fourticq had beneficial ownership indirectly of 446,596 shares of the Company's Common Stock (approximately 7.0% of the Company's Common Stock). Of these shares, 334,141 are held by a partnership of which each of Mr. Fourticq and his brother, Michael J. Fourticq, is a general partner. Out of these beneficial holdings, Mr. Gregory Fourticq will retain 10,000 Continuing Shares of Leslie's Delaware Common Stock which will not be converted into the right to receive the Cash Merger Consideration in the Merger. Mr. Fourticq's affiliated partnership will receive the Cash Merger Consideration with respect to approximately 324,141 shares of Leslie's Delaware Common Stock, including shares attributable to the ownership interest of Mr. Michael J. Fourticq in such partnership. The remaining shares beneficially owned by Mr. Gregory Fourticq are held in trusts for which he is trustee for the benefit of his nephews and niece. All such shares will receive the Cash Merger Consideration. Mr. Richard H. Hillman, a Director of the Company's, had beneficial ownership directly or indirectly of 322,758 shares of the Company's Common Stock (approximately 4.9% of the Company's Common Stock). Certain of these shares are subject to stock options. Out of his total beneficial holdings, Mr. Hillman will retain 22,414 Continuing Shares of Leslie's Delaware Common Stock which will not be converted into the right to receive the Cash Merger Consideration in the Merger. Mr. Hillman will receive the Cash Merger Consideration (or, with respect to shares subject to options, the Cash Merger Consideration less the option exercise price) with respect to approximately 303,652 shares of Leslie's Delaware Common Stock, which includes 1,323 shares held in a trust for the benefit of his son. Mr. Robert D. Olsen, Chief Financial Officer of Leslie's California, had beneficial ownership of 127,988 shares of the Company's Common Stock. All such shares are subject to stock options. Certain of Mr. Olsen's options will be cancelled immediately prior to the Effective Date. Mr. Olsen will receive the Cash Merger Consideration less the option exercise price with respect to 72,545 shares of Leslie's Delaware Common Stock subject to options. He will receive a ten-year NQ Option to purchase 52,761 shares of Leslie's Delaware Common Stock under the NQ Option Plan and an option to purchase 50,000 shares under the ISO Option Plan. Mr. Olsen will also purchase 14,768 shares of Leslie's Delaware Common Stock (the "Subscription Stock") at $14.50 per share. Occidental Petroleum, of which Dr. Dale R. Laurance is an officer and a director, is a holder of $10 million of 8% Convertible Subordinated Debentures issued by the Company's that are due in 2001 and bear interest at the rate of 8% per annum, payable semi-annually, and are convertible, upon 91 days' prior notice, into the Company's Common Stock at $20.95 per share (the "Debentures"). Occidental has agreed to invest a total of $28 million in Leslie's Delaware on the effective date of the Merger in exchange for 28,000 shares of Leslie's Delaware Series A Preferred Stock and warrants to purchase up to 316,092 shares of Leslie's Delaware Common Stock which will represent 15% of the Fully-Diluted Shares. The consideration for these securities will consist of cash and the exchange of the Debentures. In addition to the foregoing, as of March 27, 1997, other directors, officers and employees of the Company held options to purchase a total of 560,700 shares of the Company's Common Stock at prices ranging from $0.907 to $14.047 per share issued under the Company's 1990 Stock Option Plan and the Company's 1992 Directors' Stock Incentive Plan or otherwise. 43 Upon the effectiveness of the Merger, the holders of all of these options (other than options that are exercised or cancelled prior to the Effective Date) will each be entitled to receive in respect of each option cash equal to the Cash Merger Consideration per option share less the exercise price of the applicable option multiplied by the total number of shares that are subject to the option. Any option not exercised prior to the effective date of the Merger or for which no such payment is due will automatically be cancelled. NQ Option Plan and ISO Option Plan. Immediately prior to the Merger, Leslie's Delaware will adopt the NQ Option Plan and the ISO Option Plan and will reserve 83,599 shares and 273,946 shares, respectively, of Leslie's Delaware Common Stock for issuance upon the exercise of options to be granted to certain employees of Leslie's Delaware upon consummation of the Merger and thereafter. It is expected that options to purchase Leslie's Delaware Common Stock will be granted to the following individuals at an exercise price of $5.00 per share for options granted under the NQ Option Plan ("NQ Options") and $14.50 per share in the case of options granted under the ISO Option Plan ("ISO Options") (or $15.95 in the case of ISO options granted to any holder of 10% or more of the outstanding Leslie's Delaware Common Stock):
NAME OF RECIPIENT NQ OPTION SHARES ISO OPTION SHARES ----------------- ---------------- ----------------- Michael J. Fourticq....................... 4,976 -- Brian P. McDermott........................ -- 77,000 Robert D. Olsen........................... 52,761 50,000 Other members of management............... 25,862 146,946
Leslie's Delaware will reserve 83,599 shares of Leslie's Delaware Common Stock for the NQ Option Plan. Under the NQ Option Plan, NQ Options vest immediately. However, Leslie's Delaware (and in some instances Green and certain members of the Hancock Group) will have a right ("Call Option") to repurchase a portion of each NQ Option (and a portion of any shares of Leslie's Delaware Common Stock issued upon the exercise of any NQ Option ("NQ Option Shares")) upon the option holder or stockholder ceasing to provide services to Leslie's Delaware. If the NQ Option holder's service termination occurs prior to the first anniversary of the Effective Date, two-thirds of the NQ Option and two-thirds of any NQ Option Shares may be repurchased; if the termination occurs on or after the first anniversary and before the second anniversary, the Call Option applies to one-third of the NQ Options and NQ Option Shares; and the Call Option will not apply to any NQ Options or NQ Option Shares if termination occurs on or after the second anniversary of the Effective Date. The per share Call Option exercise price is (i) for NQ Options, (x) if the termination is voluntary, the amount by which the Cash Merger Consideration exceeds $5.00, and (y) if the termination is other than voluntary ("Other Termination"), the greater of (A) the amount by which the Cash Merger Consideration exceeds $5.00, or (B) the amount by which the fair market value of a share of the Leslie's Delaware Common Stock on the date of termination, as determined by the Board of Directors of Leslie's Delaware, exceeds $5.00; and (ii) for NQ Option Shares, (x) if the termination is voluntary, the Cash Merger Consideration, and (y) in the case of an Other Termination, the greater of (A) the Cash Merger Consideration, or (B) the fair market value of a share of Leslie's Delaware Common Stock on the date of termination, as determined by the Leslie's Delaware Board of Directors. NQ Options have a term of ten years and remain exercisable without regard to any termination of employment of the holder, subject to the exercise of the Call Option as described above. Leslie's Delaware will reserve 273,946 shares of Leslie's Delaware Common Stock for the ISO Option Plan. Under the ISO Option Plan, ISO Options vest in one-third increments on the first, second and third anniversaries of the Effective Date, except for options to purchase 71,647 shares ("Performance Options") which will also be subject to a further vesting condition based upon Leslie's Delaware achieving certain operating and store-opening goals. Options intended to qualify as "incentive stock options" and options not intended to so qualify may be granted under the ISO Option Plan. Pursuant to law, options intended to qualify as "incentive stock options" are subject to limitations on aggregate amounts granted and must be issued to any holder of 10% or more of the issuer's outstanding common stock at 110% of fair market value. Vested ISO Options may be exercised for 90 days post termination of employment, except in the case of the death of the option holder, in which case the vested portion may be exercised within twelve months from the date of termination. ISO Options will have a term of ten years. 44 Subscription Stock. Immediately after the consummation of the Merger, Mr. Robert D. Olsen, as described above, will purchase 14,768 shares of Leslie's Delaware Common Stock at a price of $14.50 per share, and one or more additional members of the Company's current management will purchase a total of an additional 4,198 shares of Subscription Stock at the same per share price. The shares of Subscription Stock will be subject to the same Call Option as described above for the NQ Option Shares. Management Agreement. Pursuant to the terms of a Management Agreement (the "Management Agreement") to be entered into between LCP and Leslie's Delaware, (i) upon consummation of the Merger Leslie's Delaware will pay LGP a transaction fee in the amount of $1.4 million, one-half of which will be paid to HPA for distribution among HPA, Michael Fourticq, Brian McDermott and Robert Olsen, and (ii) Leslie's Delaware will agree to pay LGP an annual management fee equal to 1.6% of the total sum invested by Green in Leslie's Delaware. Stockholders Agreement. Upon consummation of the Merger, Leslie's Delaware, all holders of Leslie's Delaware Common Stock and of options to purchase Leslie's Delaware Common Stock and Occidental, as the holder of Leslie's Delaware Series A Preferred Stock and warrants to purchase up to 316,092 shares of Leslie's Delaware Common Stock, will become parties to a Stockholders Agreement ("Stockholders Agreement"). Occidental Supply Agreement. Prior to its purchase of the Debentures, as described above, a wholly-owned subsidiary of Occidental was and continues to be a party to a supply agreement with Leslie's California under which that subsidiary supplies all of the Company's requirements for certain chemical chlorine compounds. It is expected that after the effective date of the Merger Leslie's Delaware and this subsidiary will extend this supply agreement upon terms and conditions that will be mutually satisfactory. Indemnification and Insurance. The Merger Agreement requires that the Company, Leslies Delaware as the surviving corporation in the Reincorporation and Leslie's Delaware as the surviving corporation in the Merger provide indemnification to the current and prior directors and officers of Leslie's California and Leslie's Delaware against costs, expenses, suits, claims and proceedings arising out of or pertaining to, or the approval and consummation of the transactions contemplated by, the Merger Agreement and the Reincorporation Agreement. In addition, Leslie's Delaware is obligated for a period of at least eighteen months from the effective date of the Merger to continue in effect (or provide insurance coverage that, subject to Leslie's Delaware's ability to obtain higher levels of deductibles, is comparable to) the directors and officers liability insurance that is currently in place with respect to claims arising from facts or events which occurred at or before the effective date of the Merger, provided that Leslie's Delaware is not obligated to expend annually more than 150% of the current cost of such coverage. Treatment of Stock Options. Certain of the directors and executive officers of Company hold options to purchase the Company's Common Stock that will be terminated upon the effectiveness of the Merger and, as to a portion of which, such persons will receive cash pursuant to the terms of the Merger Agreement. Prior to the effective date of the Merger, the Company's has agreed, pursuant to the terms of the Merger Agreement, to take all necessary action to cancel all outstanding options to purchase the Company's Common Stock, whether or not exercisable. Upon the surrender and cancellation of each such option, unless another arrangement is made with the holder (see "NQ Option Plan and ISO Option Plan" above) each holder thereof shall be entitled to receive an amount in cash equal to the product of (i) the excess of $14.50 over the exercise price per share of Leslie's Delaware Common Stock purchasable pursuant to such option after the same has been converted into an option to purchase Leslie's Delaware Common Stock upon the effectiveness of the Reincorporation and (ii) the number of shares of Leslie's Delaware Common Stock subject to such option at the time of such termination. As of March 27, 1997, there were options outstanding to purchase an aggregate of 974,759 shares of the Company's Common Stock at a weighted average exercise price of $8.66 per share, which options were held by 71 persons. 45 The following table sets forth information as to the options outstanding on March 27, 1997 for which cash payment will be received upon consummation of the Merger, and the proceeds to be received upon termination of such options by the members of the Hancock Group and by all directors and executive officers of the Company as a group:
OUTSTANDING CASH PAYMENT TO BE OPTIONS FOR WHICH CASH RECEIVED UPON NAME PAYMENT WILL BE RECEIVED CONSUMMATION OF THE MERGER ---- ------------------------ -------------------------- Michael J. Fourticq....... 12,091 $ 30,252 Brian P. McDermott........ 225,794 1,854,892 Richard H. Hillman........ 22,053 108,503 Robert D. Olsen........... 72,545 263,797 All directors and executive officers as a group (10 persons)....... 553,042 3,415,933
Special Committee. For their service as members of the Special Committee, Messrs. Angeloff and Schmitz each received from the Company the sum of $50,000. No further compensation is payable on a per meeting basis or otherwise for service on the Special Committee, but they will receive a retainer of $1,500 per month and per meeting fee of $750 for meetings of the Board, including those at which the Reincorporation and Merger transactions are considered. These payments to Messrs. Angeloff and Schmitz are not dependent upon the successful consummation of the Reincorporation or Merger. Each of the members of the Special Committee, as an outside director, automatically received stock options to purchase 8,513 shares of the Company's Common Stock, of which options to purchase 5,513 shares are exercisable at $11.50 per share and options to purchase 3,308 shares are exercisable at $12.875 per share. Under the terms of the Merger Agreement, each of these options will, upon consummation of the Merger, be terminated, and Messrs. Angeloff and Schmitz will each receive $21,915. 46 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a)(1),(2) THE FOLLOWING FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES ARE INCLUDED HEREWITH AND ARE FILED AS PART OF THIS ANNUAL REPORT: Consolidated Balance Sheets at December 28, 1996 and December 30, 1995 Consolidated Statements of Income for the years ended December 28, 1996, December 30, 1995, and December 31, 1994 Consolidated Statements of Shareholders' Equity (Deficit) for the years ended December 28, 1996, December 30, 1995, and December 31, 1994 Consolidated Statements of Cash Flows for the years ended December 28, 1996, December 30, 1995, and December 31, 1994 Notes to Consolidated Financial Statements Report of Independent Public Accountants Schedule II - Valuation and Qualifying Accounts (a)(3) THE FOLLOWING EXHIBITS SET FORTH BELOW ARE FILED AS PART OF THIS ANNUAL REPORT OR ARE INCORPORATED HEREIN BY REFERENCE: Exhibit Number Description ------- ----------- 2.1/(1)/ Stock Purchase Agreement dated as of August 31, 1992 among Registrant, Philip Leslie ("Leslie") and Sander Bass ("Bass") 3.1/(2)/ Restated Articles of Incorporation 3.2/(2)/ Bylaws 10.1/(2)/ Form of Stock Option Agreement between Registrant and the individuals set forth on the schedule thereto. 10.2/(2)/ 1990 Stock Option Plan, and forms of Incentive Stock Option Agreement and Nonstatutory Stock Option Agreement. 10.3/(2)/ Lease for distribution center in Dallas, Texas, dated August 15, 1990, between Registrant and Adams Property Associates. 10.4/(2)/ Form of Indemnification Agreement. 10.5/(3)/ 1992 Directors' Incentive Stock Option Plan, and form of Stock Option Agreement 10.6/(3)/ Severance Agreement, dated August 21, 1992, between Registrant and Murray H. Dashe. 10.7/(3)/ Noncompetition Agreement, dated August 31, 1992, among Sandy's Pool Supply, Inc. ("Sandy's"), Leslie and Registrant. 10.8/(3)/ Noncompetition Agreement, dated August 31, 1992, among Sandy's, Bass and Registrant. 10.9/(3)/ Stock Option Agreement, dated September 21, 1992, between Registrant and Murray H. Dashe. 10.10/(4)/ Stock Option Agreement, dated May 3, 1993, between Registrant and Robert D. Olsen. 10.11/(5)/ Debenture Purchase Agreement dated as of May 25, 1995 by and between Registrant and Occidental Petroleum Corporation, a Delaware corporation. 10.12/(6)/ Second Amended and Restated Credit Agreement between Registrant 47 and Wells Fargo Bank, N.A. ("Wells Fargo") dated June 30, 1995. 10.13/(7)/ First Amendment to Second Amended and Restated Credit Agreement between Registrant and Wells Fargo, dated October 1, 1995. 10.14/(8)/ Second Amendment to Second Amended and Restated Credit Agreement between Registrant and Wells Fargo, dated November 30, 1995. 10.15/(8)/ Third Amendment to Second Amended and Restated Credit Agreement between Registrant and Wells Fargo, dated February 23, 1996. 10.16/(9)/ Lease between Registrant and Striks Properties dated August 21, 1996. 10.17 Lease between Registrant and Bedford Property Investors, Inc., dated November 26, 1996. 22.1/(8)/ Subsidiaries of Registrant. ________________ /(1)/ Incorporated herein by reference to the Company's Report on Form 8-K filed with the Securities and Exchange Commission ("the Commission") on September 15, 1992. /(2)/ Incorporated herein by reference to the Company's Registration Statement on Form S-1 (No. 33-39412) filed with the Commission on March 15, 1991, as amended by Amendment No. 1 thereto filed on April 17, 1991. /(3)/ Incorporated herein by reference to the Company's Report on Form 10-Q for the fiscal quarter ended March 31, 1993, filed with the Commission on May 13, 1993. /(4)/ Incorporated herein by reference to the Company's Report on Form 10-Q for the fiscal quarter ended June 30, 1993, filed with the Commission on August 12, 1993. /(5)/ Incorporated herein by reference to the Company's Report on Form 8-K, filed with the Commission on June 8, 1995. /(6)/ Incorporated herein by reference to the Company's Report on Form 10-Q for the fiscal quarter ended July 1, 1995, filed with the Commission on August 15, 1995. /(7)/ Incorporated herein by reference to the Company's Report on Form 10-Q for the fiscal quarter ended September 30, 1995, filed with the Commission on November 15, 1995. /(8)/ Incorporated herein by reference to the Company's Report on Form 10-K for the fiscal year ended December 30, 1995, as filed with the Commission on March 28, 1996. /(9)/ Incorporated herein by reference to the Company's Report on Form 10-Q for the fiscal quarter ended September 28, 1996, as filed with the Commission on November 11, 1996. (b) REPORTS ON FORM 8-K None. 48 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Los Angeles, State of California, on May 8, 1997. LESLIE'S POOLMART (Registrant) By: /s/ Robert D. Olsen ----------------------- Robert D. Olsen, Chief Financial Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant in the capacities and on the date indicated.
Signature Capacity Date --------- -------- ---- /s/ Michael J. Fourticq Chairman of the Board of May 8, 1997 - ---------------------------------- Directors Michael J. Fourticq /s/ Brian P. McDermott Chief Executive Officer, May 8, 1997 - ---------------------------------- President, and Director Brian P. McDermott /s/ Dann V. Angeloff Director May 8, 1997 - ---------------------------------- Dann V. Angeloff /s/ John A. Canning, Jr. Director May 8, 1997 - ---------------------------------- John A. Canning, Jr. /s/ Dr. Dale R. Laurance Director May 8, 1997 - ---------------------------------- Dr. Dale R. Laurance /s/ Clarence T. Schmitz Director May 8, 1997 - ---------------------------------- Clarence T. Schmitz /s/ Robert D. Olsen Chief Financial Officer May 8, 1997 - ---------------------------------- and Principal Accounting Officer Robert D. Olsen
49 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Board of Directors and Shareholders of Leslie's Poolmart: We have audited in accordance with generally accepted auditing standards, the consolidated financial statements of Leslie's Poolmart and subsidiary included in this Form 10-K and have issued our report thereon dated March 6, 1997. Our audits were made for the purpose of forming an opinion on the basic financial statements taken as a whole. The schedule listed in Item 14 is the responsibility of the Company's management and is presented for purposes of complying with the Securities and Exchange Commission's rules and is not part of the basic consolidated financial statements. This schedule has been subjected to the auditing procedures applied in the audit of the basic consolidated financial statements and, in our opinion, fairly states in all material respects the financial data required to be set forth therein in relation to the basic financial statements taken as a whole. /s/ Arthur Andersen LLP ARTHUR ANDERSEN LLP Los Angeles, California March 6, 1997 50 LESLIE'S POOLMART SCHEDULE - VALUATION AND QUALIFYING ACCOUNTS
Balance Balance at Charged to at end beginning costs and of of period expenses Deductions Period ---------- ---------- ---------- ---------- Year ended December 31, 1994: Accumulated amortization of goodwill... $ 667,000 $239,000 $--- $ 906,000 Accumulated amortization of deferred loan costs........................... $ 14,000 $ 41,000 $--- $ 55,000 Year ended December 30, 1995: Accumulated amortization of goodwill... $ 906,000 $239,000 $--- $1,145,000 Accumulated amortization of deferred loan costs........................... $ 55,000 $ 51,000 $--- $ 106,000 Year ended December 28, 1996: Accumulated amortization of goodwill... $1,145,000 $252,000 $___ $1,397,000 Accumulated amortization of deferred loan costs........................... $ 106,000 $ 55,000 $___ $ 161,000
51 EXHIBIT INDEX
Sequentially Exhibit No. Description Numbered Pages ----------- ----------- -------------- 2.1/(1)/ Stock Purchase Agreement dated as of August 31, 1992 among Registrant, Philip Leslie ("Leslie") and Sander Bass ("Bass") 3.1/(2)/ Restated Articles of Incorporation 3.2/(2)/ Bylaws 10.1/(2)/ Form of Stock Option Agreement between Registrant and the individuals set forth on the schedule thereto. 10.2/(2)/ 1990 Stock Option Plan, and forms of Incentive Stock Option Agreement and Nonstatutory Stock Option Agreement. 10.3/(2)/ Lease for distribution center in Dallas, Texas, dated August 15, 1990, between Registrant and Adams Property Associates. 10.4/(2)/ Form of Indemnification Agreement. 10.5/(3)/ 1992 Directors' Incentive Stock Option Plan, and form of Stock Option Agreement 10.6/(3)/ Severance Agreement, dated August 21, 1992, between Registrant and Murray H. Dashe. 10.7/(3)/ Noncompetition Agreement, dated August 31, 1992, among Sandy's Pool Supply, Inc. ("Sandy's"), Leslie and Registrant. 10.8/(3)/ Noncompetition Agreement, dated August 31, 1992, among Sandy's, Bass and Registrant. 10.9/(3)/ Stock Option Agreement, dated September 21, 1992, between Registrant and Murray H. Dashe. 10.10/(4)/ Stock Option Agreement, dated May 3, 1993, between Registrant and Robert D. Olsen. 10.11/(5)/ Debenture Purchase Agreement dated as of May 25, 1995 by and between Registrant and Occidental Petroleum Corporation, a Delaware corporation. 10.12/(6)/ Second Amended and Restated Credit Agreement between Registrant and Wells Fargo Bank, N.A. ("Wells Fargo") dated June 30, 1995. 10.13/(7)/ First Amendment to Second Amended and Restated Credit Agreement between Registrant and Wells Fargo, dated October 1, 1995. 10.14/(8)/ Second Amendment to Second Amended and Restated Credit Agreement between Registrant and Wells Fargo, dated November 30, 1995. 10.15/(8)/ Third Amendment to Second Amended and Restated Credit Agreement between Registrant and Wells Fargo, dated February 23, 1996. 10.16/(9)/ Lease between Registrant and Striks Properties dated August 21, 1996. 10.17 Lease between Registrant and Bedford Property Investors, Inc., dated November 26, 1996. 22.1/(8)/ Subsidiaries of Registrant.
________________ /(1)/ Incorporated herein by reference to the Company's Report on Form 8-K filed with the Securities and Exchange Commission ("the Commission") on September 15, 1992. /(2)/ Incorporated herein by reference to the Company's Registration Statement on Form S-1 (No. 33-39412) filed with the Commission on March 15, 1991, as amended by Amendment No. 1 thereto filed on April 17, 1991. /(3)/ Incorporated herein by reference to the Company's Report on Form 10-Q for the fiscal quarter ended March 31, 1993, filed with the Commission on May 13, 1993. /(4)/ Incorporated herein by reference to the Company's Report on Form 10-Q for the fiscal quarter ended June 30, 1993, filed with the Commission on August 12, 1993. /(5)/ Incorporated herein by reference to the Company's Report on Form 8-K, filed with the Commission on June 8, 1995. /(6)/ Incorporated herein by reference to the Company's Report on Form 10-Q for the fiscal quarter ended July 1, 1995, filed with the Commission on August 15, 1995. /(7)/ Incorporated herein by reference to the Company's Report on Form 10-Q for the fiscal quarter ended September 30, 1995, filed with the Commission on November 15, 1995. /(8)/ Incorporated herein by reference to the Company's Report on Form 10-K for the fiscal year ended December 30, 1995, as filed with the Commission on March 28, 1996. /(9)/ Incorporated herein by reference to the Company's Report on Form 10-Q for the fiscal quarter ended September 28, 1996, as filed with the Commission on November 11, 1996. EX-10.17 2 MULTI-TENANT LEASE STANDARD INDUSTRIAL/COMMERCIAL MULTI-TENANT LEASE--MODIFIED NET AMERICAN INDUSTRIAL REAL ESTATE ASSOCIATION [LOGO OF AMERICAN INDUSTRIAL REAL ESTATE ASSOCIATION APPEARS HERE] 1. Basic Provisions ("Basic Provisions"). 1.1 Parties: This Lease ("Lease"), dated for reference purposes only, November 26 , 1996 is made by and between Bedford Property - ------------------------ -- -------------------------- Investors, Inc., a Maryland corporation ("Lessor") and Leslie's Poolmart - --------------------------------------------- -------------------- (Inc.), a California corporation ("Lessee"), (collectively the "Parties," or - -------------------------------- individually a "Party"). 1.2(a) Premises: That certain portion of the Building, including all improvements therein or to be provided by Lessor under the terms of this Lease, commonly known by the street address of 1595 Dupont Avenue , located ------------------------------ in the City of Ontario County of San Bernadino , State of California , ------- ----------------- -------------- with zip code 91761 , as outlined on Exhibit A attached hereto, plus the area indicated on Exhibit A as the "Truck Parking Area"; provided that Lessor shall have access to this Truck Parking Area during normal business hours, and at other times upon reasonable advance notice to Lessee, for the purpose of repairing, replacing and maintaining the Truck Parking Area and the landscaping appurtenant thereto ("Premises"). The "Building" is that certain building containing the Premises and generally described as (describe briefly the nature of the Building): approximately 183,244 sq. ft. concrete tilt-up building at ---------------------------------------------------------- 1595 Dupont Ave., Ontario, CA; part of a larger complex located at - ------------------------------------------------------------------ 1505/1555/1595 Dupont Ave.. In addition to Lessee's rights to use and occupy the - -------------------------- Premises as hereinafter specified, Lessee shall have non-exclusive rights to the Common Areas (as defined in Paragraph 2.7 below) as hereinafter specified, but shall not have any rights to the roof, exterior walls or utility raceways of the Building or to any other buildings in the Industrial Center. The Premises, the Building, the Common Areas, the land upon which they are located, along with all other buildings and improvements therein, are herein collectively referred to as the "Industrial Center." (Also see Paragraph 2.) 1.2(b) Parking: No more than 202 unreserved vehicle parking spaces ------------------ ("Unreserved Parking Spaces"); (Also see Paragraph 2.6.) 1.3 Term: See Addendum (Also see Paragraph 3.) ----------------------------------- 1.4 Early Possession: See Addendum (Also see Paragraphs 3.2 and 3.3) ---------------- 1.5 Base Rent: $See Addendum per month ("Base Rent"), payable on the -------------- First (1st) day of each month commencing on the Commencement Date (Also see - ------------- ------------------------ Paragraph 4.) [_] If this box is checked, this Lease provides for the Base Rent to be adjusted per Addendum _________, attached hereto. 1.6(a) Base Rent Paid Upon Execution: $43,798 as Base Rent for the period ------ of the third (3rd) month of the term. - ------------------------------------ 1.6(b) Lessee's Share of Common Area Operating Expenses: See Addendum ----------------- 1.7 Security Deposit: $_______________ 1.8 Permitted Use: See Addendum ---------------------------------------------------- - -------------------------------------------------------------------------------- ("Permitted Use") (Also see Paragraph 6.) - --------------- 1.9 Insuring Party. Lessor is the "Insuring Party." (Also see Paragraph 8.) 1.10(a) Real Estate Brokers. The following real estate broker(s) (collectively, the "Brokers") and brokerage relationships exist in this transaction and are consented to by the Parties (check applicable boxes): [X] CB Commercial represents Lessor exclusively ("Lessor's ----------------------------------- Broker"); [X] Grubb & Ellis Company represents Lessee exclusively ("Lessee's ----------------------------------- Broker"); or 1.12 Addends and Exhibits. Attached hereto is an Addendum or Addenda consisting of Paragraphs 1 through 18 , and Exhibits A ---------- ---------- ---------- through E , all of which constitute a part of this Lease. ----------- 2. Premises, Parking and Common Areas. 2.1 Letting. Lessor hereby leases to Lessee, and Lessee hereby leases from Lessor, the Premises, for the term, at the rental, and upon all of the terms, covenants and conditions set forth in this Lease. Unless otherwise provided herein, any statement of square footage set forth in this Lease, or that may have been used in calculating rental and/or Common Area Operating Expenses, is an approximation which Lessor and Lessee agree is reasonable and the rental and Lessee's Share (as defined in Paragraph 1.6(b)) based thereon is not subject to revision whether or not the actual square footage is more or less. 2.2 Condition. Lessor shall deliver the Premises to Lessee clean and free of debris on the Commencement Date and warrants to Lessee that the existing plumbing, electrical systems, fire sprinkler system, lighting, air conditioning and heating systems and loading doors, if any, in the Premises, other than those constructed by Lessee, shall be in good operating condition on the Commencement Date. If a non-compliance with said warranty exists as of the Commencement Date, Lessor shall, except as otherwise provided in this Lease, promptly after receipt of written notice from Lessee setting forth with specificity the nature and extent of such non-compliance, rectify same at Lessor's expense. If Lessee does not give Lessor written notice of a non-compliance with this warranty within sixty (60) days after the Commencement Date, correction of that non-compliance shall be the obligation of Lessee at Lessee's sole cost and expense. Notwithstanding the foregoing, Lessor hereby warrants that (i) the heating, ventilating and air conditioning system ("HVAC") currently existing in the Premises (and not any HVAC system installed by or for Lessee as part of the Improvements to be constructed by Lessee pursuant to Exhibit C hereto, which Lessee shall repair or replace at its sole cost and expense) shall be in good working order, condition and repair for a period of nine (9) months following the Commencement Date, and (ii) Lessor shall be responsible for repairing or replacing latent defects in the construction of the Building (other than latent defects in the Improvements to be constructed by Lessee pursuant to Exhibit C hereto, which Lessee shall repair or replace at its sole cost and expense). 2.3 Compliance with Covenants, Restrictions and Building Code. Lessor warrants that any improvements (other than those constructed by Lessee or at Lessee's direction) on or in the Premises which have been constructed or installed by Lessor or with Lessor's consent or at Lessor's direction shall comply with all applicable covenants or restrictions of record and applicable building codes, regulations and ordinances in effect on the Commencement Date. Lessor further warrants to Lessee that Lessor has no knowledge of any claim having been made by any governmental agency that a violation or violations of applicable building codes, regulations, or ordinances exist with regard to the Premises as of the Commencement Date. Said warranties shall not apply to any Alterations or Utility Installations (defined in Paragraph 7.3(a)) made or to be made by Lessee. If the Premises do not comply with said warranties, Lessor shall, except as otherwise provided in this Lease, promptly after receipt of written notice from Lessee given within nine (9) months following the Commencement Date and setting forth with specificity the nature and extent of such non-compliance, take such action, at Lessor's expense, as may be reasonable or appropriate to rectify the non-compliance. Lessor makes no warranty that the Permitted Use in Paragraph 1.8 is permitted for the Premises under Applicable Laws (as defined in Paragraph 2.4). 2.4 Acceptance of the Premises. Lessee acknowledges that it has -------------------------- inspected and knows the condition of the Premises, and has satisfied itself with respect thereto and the suitability of the Premises for Lessee's intended use. Except as expressly provided in this Lease, Lessee accepts the Premises in their condition existing as of the Early Possession Date, subject to all applicable zoning, municipal, county, state and federal laws, ordinances and regulations governing and regulating the use or occupancy of the Premises, including without limitation the Americans With Disabilities Act, all laws, ordinances and regulations governing Hazardous Substances and any covenants or restrictions of record (hereinafter "Applicable Laws"), and accepts this Lease subject thereto and to all matters disclosed thereby and by any exhibits attached hereto. Lessee acknowledges that neither Lessor nor any employee or agent of Lessor has made any representation or warranty to Lessee as to the condition of the Premises, except as expressly set forth in Sections 2.2 and 2.3, above, or the present or future suitability of the Premises for the conduct of Lessee's business. Lessee, at its sole cost and expense, shall comply with all Applicable Laws related to the particular manner in which Lessee uses or occupies the Premises. Lessor acknowledges receipt of a letter from Lessee to Dave Ariss, Managing Director of California Commerce Center of which the Industrial Center is a part, wherein Lessee's and its subtenant, Leslie's Pool Brite's, use of the Premises for their intended purposes was approved by Dave Ariss on behalf of California Commerce Center, and agrees that Lessor shall not object to the use of the Premises made by Lessee and Leslie's Pool Brite as being in violation of the California Commerce Center covenants, conditions and restrictions. 2.5 Lessee as Prior Owner/Occupant. The warranties made by Lessor in this Paragraph 2 shall be of no force or effect if immediately prior to the date set forth in Paragraph 1.1 Lessee was the owner or occupant of the Premises. In such event, Lessee shall, at Lessee's sole cost and expense, correct any non-compliance of the Premises with said warranties. (C) American Industrial Real Estate Association 1993 2.6 Vehicle Parking. Lessee shall be entitled to use the number of Unreserved Parking Spaces specified in Paragraph 1.2(b) on those portions of the Common Areas designated from time to time by Lessor for parking. Lessee shall not use more parking spaces than said number. Said parking spaces shall be used for parking by vehicles no larger than full-size passenger automobiles or pick-up trucks, herein called "Permitted Size Vehicles." Vehicles other than Permitted Size Vehicles shall be parked and loaded or unloaded in the area identified on Exhibit A hereto as the "Truck Parking Area." (Also see Paragraph 2.9.) (a) Lessee shall not permit or allow any vehicles that belong to or controlled by Lessee or Lessee's employees, suppliers, shippers, customers, contractors or invitees to be loaded, unloaded, or parked in areas other than those designated by Lessor for such activities. (b) If Lessee permits or allows any of the prohibited activities described in this Paragraph 2.8, then Lessor shall have the right, upon notice to Lessee at the Premises, in addition to such other rights and remedies that it may have to remove or tow away the vehicle involved and charge the cost to Lessee, which cost shall be immediately payable upon demand by Lessor. (c) Lessor shall at the Commencement Date of this Lease, provide the parking facilities required by Application Law. 2.7 Common Area - Definition. The term "Common Areas" is defined as all areas and faciliates outside the Premises and within the exterior boundary line of the Industrial Center and interior utility raceways within the Premises that are provided and designated by the Lessor from time to time for the general non-exclusive use of Lessor, Lessee and other lessees of the Industrial Center and their respective employees, suppliers, shippers, customers, contractors and invitees, including parking areas, loading and unloading areas, trash areas, roadways, sidewalks, walkways, parkways, driveways, and landscaped areas. 2.8 Common Areas - Lessee's Rights. Lessor hereby grants to Lessee, for the benefit of Lessee and its employees, suppliers, shippers, contractors, customers and invitees, during the term of this Lease, the non-exclusive right to use, in common with others entitled to such use, the Common Areas as they exist from time to time, subject to any rights, powers, and priviledges reserved by Lessor under the terms hereof or under the terms of any reasonable and non- discriminatory rules and regulations or restrictions governing the use of the Industrial Center, and which Lessee has notice of. Lessee hereby agrees that Lessee has notice of the terms and conditions of this Lease, including without limitation, the rules and regulations attached hereto as Exhibit D, all covenants, conditions and restrictions currently of record affecting the Premises, and all zoning and other building and land use regulations governing the Premises. Under no circumstances shall the right herein granted to use the Common Areas be deemed to include the right to store any property, temporarily or permanently, in the Common Areas. Any such storage shall be permitted only by the prior written consent of Lessor or Lessor's designated agent, which consent may be revoked at any time, in the event that any unauthorized storage shall occur, then Lessor shall have the right, without notice, in addition to such other rights and remedies that it may have, to remove the property and charge the cost to Lessee, which cost shall be immediately payable upon demand by Lessor. 2.9 Common Areas - Rules and Regulations. Lessor or such other person(s) as Lessor may appoint shall have the exclusive control and management of the Common Areas and shall have the right, from time to time, to establish, modify, amend, and enforce reasonable and non-discriminatory Rules and Regulations with respect thereto in accordance with Paragraph 40. Lessee agrees to abide by and conform to all such Rules and Regulations, and to cause its employees, suppliers, shippers, customers, contractors and invitees to so abide and conform. Lessor shall not be responsible to Lessee for the non-compliance with said rules and regulations by other lessees of the Industrial Center. 2.10 Common Area - Changes. Lessor shall have the right, in Lessor's sole discretion, from time to time: (a) To make changes to the Common areas, including, without limitation, changes in the location, size, shape and number of driveways, entrances, parking spaces, parking areas, loading and unloading areas, ingress, egress, direction of traffic, landscaped areas, walkways and utility raceways; (b) To close temporarily any of the Common Areas for maintenance purposes so long as reasonable access to the Premises remains available; (c) To designate other land outside the boundaries of the Industrial Center to be a part of the Common areas; (d) To add additional buildings and improvements to the Common Areas; (e) To use the Common Areas while engaged in making additional improvements, repairs or alterations to the Industrial Center, or any portion thereof; and (f) To do and perform such other acts and make such other changes in, to or with respect to the Common Areas and Industrial Center as Lessor may, in the exercise of sound business judgment, deem to be appropriate. Notwithstanding the foregoing, in no event shall any changes to the Industrial Center or the Common Areas thereof voluntarily undertaken by Lessor (and not under threat of condemnation) materially and adversely affect Lessee's access to, or the parking or loading for, the Premises. With respect to the area noted on Exhibit A hereto as the "Truck Parking Area", such area shall be deemed to be part of the Premises and not part of the Common Areas; provided, however, that such Truck Parking Area shall be maintained by Lessor along with the Common Areas. The cost of such maintenance shall be a Reimbursable Cost (as defined in Paragraph 4 of the Addendum attached hereto) attributable to the Building. 3. Term 3.1 Term. The Commencement Date, Expiration Date and Original Term of this Lease are as specified in Paragraph 1.3 3.2 Early Possession. If an Early Possession Date is specified in Paragraph 1.4 and if Lessee totally or partially occupies the Premises after the Early Possession Date but prior to the Commencement Date, the obligation to pay Rent shall be abated for the period of such early occupancy. All other terms of this Lease, however, (including but not limited to the obligations to carry the insurance required by paragraph 8) shall be in effect during such period. Any such early possession shall not affect nor advance the Expiration Date of the Original Term. 3.3 Delay in Possession. If for any reason Lessor cannot deliver possession of the Premises to Lessee by the Early Possession Date. Lessor shall not be subject to any liability therefor, nor shall such failure affect the validity of this Lease, or the obligations of Lessee hereunder, or extend the term hereof, but in such case, Lessee shall not, except as otherwise provided herein, be obligated to pay rent or perform any other obligation of Lessee under the terms of this Lease until Lessor delivers possession of the Premises to Lessee. If possession of the Premises is not delivered to Lessee within sixty (60) days after the Date, Lessee may, at its option, by notice in writing to Lessor within ten (10) days after the end of the said sixty (60) day period, cancel this Lease, in which event the parties shall be discharged from all obligations hereunder; provided furthur, however, that if such written notice of Lessee is not received by Lessor within said ten (10) day period, Lessee's right to cancel this Lease hereunder shall terminate and be of no further force or effect. 4. Rent. 4.1 Base Rent. Lessee shall pay Base Rent and other rent charges, as the same may be adjusted from time to time, to Lessor in lawful money of the United States, without offset or deduction, except as specifically provided in Paragraph 10 of Exhibit C hereto on or before the day on which it is due under the terms of this Lease. Base Rent and all other rent and charges for any period during the term hereof which is for less than one full month shall be prorated based upon the actual number of days of the month involved. Payment of Base Rent and other charges shall be made to Lessor at its address stated herein or to such other persons or at such other addresses as Lessor may from time to time designate in writing to Lessee. 4.2 Common Area Operating Expenses. Lessee shall pay to Lessor during the term hereof, in addition to the Base Rent, Lessee's Share (as specified in Paragraph 1.6(b)) of all Common Area Operating Expenses, as hereinafter defined, during each calendar year of the term of this Lease, in accordance with the following provisions: (a) "Common Area Operating Expenses" are defined, for purpose of this Lease, as all costs incurred by Lessor relating to the ownership and operation of the Industrial Center, including, but not limited to, the following: (i) The operation, repair and maintenance, in neat, clean, good order and condition, of the following: (aa) The Common Areas, including parking areas, loading and unloading areas, trash areas, roadways, sidewalks, walkways, parkways, driveways, landscaped areas, striping, bumpers, irrigation systems, Common Area lighting facilities, fences and gates, elevators and roof. (bb) Exterior signs and any tenant directories. (cc) Fire detection and sprinkler systems. (ii) The cost of water, gas, electricity and telephone to service the Common Areas. (iii) Property management and security services and the costs of any environmental inspections of Common Areas. (iv) Real Property Taxes (as defined in Paragraph 10.2) to be paid by Lessor for the Building and the Common Areas under Paragraph 10 hereof. (v) The cost of the premiums for the insurance policies maintained by Lessor under Paragraph 8 hereof. (vi) Any commercially reasonable deductable portion of an insured loss (not including any deductible any Lessor's earthquake coverage) concerning the Building of the Common Areas, it being agreed between Lessor and Lessee that Lessor's insurance deductible as specified in Section 8.3 hereof is deemed to be commercially reasonable. (vii) Any other services to be provided by Lessor that are stated elsewhere in this Lease to be a Common Area Operating Expense. (b) Any Common Area Operating Expenses and Real Property Taxes that are specifically attributable to the Building or to any other building in the Industrial Center or to the operation, repair and maintenance thereof, shall be allocated entirely to the Building or to such other building. However, any Common Area Operating Expenses and Real Property Taxes that are not specifically attributable to the Building or to any other building or to the operation, repair and maintenance thereof, shall be equitable allocated by Lessor to all buildings in the Industrial Center. (c) The inclusion of the improvements, facilities and services set forth in Subparagraph 4.2(a) shall not be deemed to impose an obligation upon Lessor to either have said improvements or facilities or to provide these services unless the Industrial Center already has the same, Lessor already provides the services, or Lessor has agreed elsewhere in this Lease to provide the same or some of them. (d) Lessee's Share of Common Area Operating Expenses shall be payable by Lessee within thirty (30) days after a reasonably detailed statement of actual expenses is presented to Lessee by Lessor. At Lessor's option, however, an amount may be estimated by Lessor prior to the Commencement Date and thereafter the end of each calendar year during the term hereof, based upon the prior year's Reimbursable Costs of Lessee's Share of annual Common Area Operating Expenses and the same shall be payable monthly during each 12-month period of the Lease term, on the same day as the Base Rent is due hereunder, Lessor shall deliver to Lessee within one hundred twenty (120) days after the expiration of each calendar year a reasonably detailed statement showing Lessee's Share of the actual Common Area Operating Expenses incurred during the preceding year. If Lessee's payments under this paragraph 4.2(d) during said preceding year exceed Lessee's Share as indicated on said statement, Lessee shall be credited the amount of such over- payment against Lessee's Share of Common Area Operating Expenses next becoming due. If Lessee's payments under this Paragraph 4.2(d) during said preceding year were less than Lessee's Share as indicated on said statement, Lessee shall pay to Lessor the amount of the deficiency within thirty (30) days after delivery by Lessor to Lessee of said statement. See Addendum 6. Use. 6.1 Permitted Use. (a) Lessee shall use and occupy the Premises only for the Permitted Use set forth in Paragraph 1.8 and for no other purpose. Lessee shall not use or permit the use of the Premises in a manner that is unlawful, creates waste or a nuisance, or that unreasonably disturbs owners and/or occupants of, or causes damage to the Premises or neighboring premises or properties. 6.2 Hazardous Substances. (a) Reportable Uses Require Consent. The term "Hazardous Substance" as used in this Lease shall mean any product, substance, chemical, material or waste whose presence, nature, quantity and/or intensity of existence, use, manufacture, disposal, transportation, spill, release or effect, either by itself or in combination with other materials expected to be on the Premises, is either; (i) potentially injurious to the public health, safety or welfare, the environment, or the Premises; (ii) regulated or monitored by any governmental authority; or (iii) a basis for potential liability of Lessor to any governmental agency or third party under any applicable statute or common law theory. Hazardous Substance shall include, but not be limited to, hydrocarbons, petroleum, gasoline, crude oil or any products or by-products thereto and asbestos or asbestos containing materials. Lessee shall not engage in any activity in or about the Premises which constitutes a Reportable Use (as hereinafter defined) of Hazardous Substances without the express prior written consent of Lessor and compliance in a timely manner (at Lessee's sole cost and expense) with all Applicable Requirements (as defined in Paragraph 6.3). "Reportable Use" shall mean (i) the installation or use of any above or below ground storage tank, (ii) the generation, possession, storage, use, transportation, or disposal of a Hazardous Substance that requires a permit from, or with respect to which a report, notice, registration or business plan is required to be filed with, any governmental authority, and (iii) the presence in, on or about the Premises of a Hazardous Substance with respect to which any Applicable Laws require that a notice be given to persons entering or occupying the Premises or neighboring properties. Notwithstanding the foregoing, Lessee may, without Lessor's prior consent, but upon notice to Lessor and in compliance with all Applicable Requirements, use any ordinary and customary materials reasonably required to be used by Lessee in the normal course of the Permitted Use, so long as such use is not a Reportable Use and does not expose the Premises or neighboring properties to any meaningful risk of contamination or damage or expose Lessor to any liability therefor. In addition, Lessor may (but without any obligation to do so) condition its consent to any Reportable Use of any Hazardous Substance by Lessee upon Lessee's giving Lessor such additional assurances as Lessor, in its reasonable discretion, deems necessary to protect itself, the public, the Premises and the environment against damage, contamination or injury and/or liability therefor, including but not limited to the installation (and, at Lessor's option, removal on or before Lease expiration or earlier termination) of reasonably necessary protective modifications to the Premises (such as concrete encasements) and/or the deposit of an additional Security Deposit under Paragraph 5 hereof. Notwithstanding the foregoing, and subject to the terms and conditions of this Lease, Lessor agrees that Lessee may use, process and store within the Premises only the following Hazardous ---- Substances without the need for additional security deposits or additional installations in the Premises (other than Lesses's Special Improvements, as defined in Exhibit C hereto), provided that Lessee complies with all applicable federal, state and local laws, regulations and ordinances and all other Applicable Requirements governing the generation, use, manufacture, transportation, storage, disposal, spill or release of such Hazardous Substances: a. Sodium Dichloroisocyanurate, dihydrate b. Sodium Dichloro-s-triazainetrione, dihydrate c. Sodium Persulfate d. Trichloroisocyanuric Acid e. Trichloro-s-triazainetrione f. 1-Bromo-3-Chloro-5,5-Dimethylhydantoin g. Calcium Hypochlorite h. Sodium Dichloroisocyanuric Acid, Anhydrous i. Sodium Dichloro-s-triazainetrione, Anhydrous From and after the Early Possession Date, Lessee shall be solely responsible for any release of, or contamination caused by, the aforementioned Hazardous Substances and any other Hazardous Substances brought onto the Industrial Center by or for Lessee. In the event that Lessee shall desire to generate, use, manufacture, transport, store, or dispose of Hazardous Substances other than those specifically listed above, Lessee shall obtain Lessor's prior written consent thereto, which consent shall not be unreasonably withheld or delayed, but which consent may be conditioned upon Lessee's providing Lessor with adequate assurances that such Hazardous Substances will not expose the Building, the Industrial Center, and/or the tenants, users and customers thereof to any risk of physical harm or property damage. (b) Duty to Inform Lessor. If Lessee knows, or has reasonable cause to believe, that a Hazardous Substance brought onto the Industrial Center by or for Lessee, has come to be located in, on, under or about the Premises or the Building, other than as previously consented to by Lessor, Lessee shall immediately give Lessor written notice thereof, together with a copy of any statement, report, notice, registration, application, permit, business plan, license, claim, action, or proceeding given to, or received from, any governmental authority or private party concerning the presence, spill, release, discharge of, or exposure to, such Hazardous Substance including but not limited to all such documents as may be involved in any Reportable Use involving the Premises. Lessee shall not cause or permit any Hazardous Substance to be spilled or released in, on, under or about the Premises (including, without limitation, through the plumbing or sanitary sewer system). Lessor acknowledges that Leslie's Pool Brite, a California corporation, a Lessor approved subtenant of Lessee, may vent certain fumes as part of its operations in the Premises. Lessor hereby agrees that the venting of such fumes shall not constitute a spill or release of a Hazardous Substance by Lessee or it subtenant, provided that such venting of fumes is properly performed and permitted in accordance with all Applicable Laws relating thereto, including without limitation all requirements of the South Coast Air Quality Management District. (c) Indemnification. Lessee shall indemnify, protect, defend and hold Lessor, its agents, employees, lenders and ground lessor, if any, and the Premises, harmless from and against any and all damages (whether direct or consequential, including, without limitation, any diminution in the value of the Premises or the Industrial Center) liabilities, judgements, costs, claims, liens, expenses, penalties, loss of permits and attorneys' and consultants' fees arising out of or involving any Hazardous Substance brought onto the Premises by or for Lessee or by anyone under Lessee's control. Lessee's obligations under this Paragraph 6.2(c) shall include, but not be limited to, the effects of any contamination or injury to person, property or the environment created or suffered by Lessee, and the cost of investigation (including consultants' and attorneys' fees and testing), removal, remediation, restoration and/or abatement thereof, or of any contamination therein involved, and shall survive the expiration or earlier termination of this Lease. No termination, cancellation or release agreement entered into by Lessor and Lessee shall release Lessee from its obligations under this Lease with respect to Hazardous Substances, unless specifically so agreed by Lessor in writing at the time of such agreement. Lessor shall indemnify, protect, defend and hold Lessee harmless from and against any and all claims, judgements, damages, penalties, fines, liabilities, losses, suits, administrative proceedings and costs (including, but not limited to, reasonable attorneys' and consultants' fees) arising out of or involving any Hazardous Substance brought onto the Premises by Lessor, its employees, agents or contractors; provided, however, that the foregoing indemnity shall not apply to any Hazardous Substances that were not brought onto the Premises by Lessor, its employees, agents or contractors, notwithstanding that Lessor may be held legally responsible for such Hazardous Substances because Lessor is the owner of the Premises, or otherwise. 6.3 Lessee's Compliance with Requirements. Lessee shall, at Lessee's sole cost and expense, fully, diligently and in a timely manner, comply with all "Applicable Requirements," which term is used in this Lease to mean all laws, rules, regulations, ordinances, directives, covenants, easements and restrictions of record, permits, the requirements of any applicable fire insurance underwriter or rating bureau, and the recommendations of Lessor's engineers and/or consultants (in the event, and only in the event, that there has been a spill or release of Hazardous Substances for which Lessee is responsible hereunder, it being understood and agreed between Lessor and Lessee that absent such a spill or release, Lessor's engineers or consultants shall not direct the manner in which Lessee utilizes or stores those Hazardous Substances which Lessee is allowed to use hereunder) relating in any manner to Lessee's particular use and/or occupancy of the Premises (including but not limited to matters pertaining to (i) industrial hygiene, (ii) environmental conditions on, in, under or about the Premises, including soil and groundwater conditions, and (iii) the use, generation, manufacture, production, installation, maintenance, removal, transportation, storage, spill, or release of any Hazardous Substance), now in effect or which may hereafter come into effect. Lessee shall, within fifteen (15) days after receipt of Lessor's written request (except in the case of an emergency, in which event Lessee shall provide such information immediately) provide Lessor with copies of all documents and information, including but not limited to permits, registrations, manifests, applications, reports and certificates, evidencing Lessee's compliance with any Applicable Requirements specified by Lessor, and shall immediately upon receipt, notify Lessor in writing (with copies of any documents involved) of any threatened or actual claim, notice, citation, warning, compliant or report pertaining to or involving failure by Lessee or the Premises to comply with any Applicable Requirements. 6.4 Inspection; Compliance with Law. Lessor, Lessor's agents, employees, contractors and designated representatives, and the holders of any mortgages, deeds of trust or ground leases on the Premises ("Lenders") shall have the right to enter the Premises at any time in the case of an emergency, and otherwise at reasonable times, for the purpose of inspecting the condition of the Premises and for verifying compliance by Lessee with this Lease and all Applicable Requirements (as defined in Paragraph 6.3), and Lessor shall be entitled to employ experts and/or consultants in connection therewith to advise Lessor with respect to Lessee's activities, including but not limited to Lessee's installation, operation, use, monitoring, maintenance, or removal of any Hazardous Substance on or from the Premises. Notwithstanding the foregoing, in no event shall Lessor's inspection rights hereunder materially interfere with Lessee's business operations in the Premises, unless there has been a spill or release of Hazardous Substances. The costs and expenses of any such inspections shall be paid by the party requesting same, unless a Default or Breach of this Lease by Lessee or a violation of Applicable Requirements or a contamination, caused or materially contributed to by Lessee, if found to exist or to be imminent, or unless the inspection in requested or ordered by a governmental authority as the result of any such existing or imminent violation or contamination. In such case, Lessee shall upon request reimburse Lessor or Lessor's Lender, as the case may be, for the costs and expenses of such inspections. If at any time during the term Lessee knows or believes that any spill or release of any Hazardous Substance for which Lessee is responsible hereunder has come or will come to be located upon, about, or beneath the Premises, then Lessee shall, as soon as reasonably possible, either prior to the release or spill or following the discovery thereof by Lessee, giver verbal and follow-up written notice of that condition to Lessor. Lessee covenants to investigate, clean up and otherwise remediate any spill or release of any Hazardous Substance for which Lessee is responsible hereunder at Lessee's cost and expense. Any such investigation, cleanup and remediation shall be performed only after Lessee has obtained Lessor's written consent, which shall not be unreasonably withheld; provided, however, that Lessee shall be entitled to respond immediately to an emergency without first obtaining Lessor's written consent. All cleanup and remediation shall be done in accordance with all Applicable Laws relating thereto and to the standard required by the governmental authorities having jurisdiction thereover; provided, however, that Lessee shall be solely responsible for reimbursing the Lessor for any diminution in the value of the Industrial Center or the Premises caused a result of such spill or release of Hazardous Substances. 7. Maintenance, Repairs, Utility Installations, Trade Fixtures and Alterations. 7.1 Lessee's Obligations. (a) Subject to the provisions of Paragraphs 2.2 (Condition), 2.3 (Compliance with Covenants, Restrictions and Building Code), 7.2 (Lessor's Obligations), 9 (Damage or Destruction), and 14 (Condemnation) and reasonable wear and tear Lessee shall, at Lessee's sole cost and expense and at all times, keep the Premises and every part thereof in good order, condition and repair (whether or not such portion of the Premises requiring repair, or the means of repairing the same, are reasonably or readily accessible to Lessee, and whether or not the need for such repairs occurs as a result of Lessee's use, any prior use, the elements or the age of such portion of the Premises), including, without limiting the generality of the foregoing, all equipment or facilities specifically serving the Premises, such as plumbing, heating, air conditioning, ventilating, electrical, lighting facilities, boilers, fired or unfired pressure vessels, fire hose connections if within the Premises, fixtures, interior walls, interior surfaces of exterior walls, ceilings, floors, windows, doors, plate glass, and skylights, but excluding any items which are the responsibility of Lessor pursuant to Paragraph 7.2 below. Lessee, in keeping the Premises in good order, condition and repair, shall exercise and perform good maintenance practices. Lessee's obligations shall include restorations, replacements or renewals when necessary to keep the Premises and all improvements thereon or a part thereof in good order, condition and state of repair. (b) Lessee shall, at Lessee's sole cost and expense, procure and maintain a contract, with copies to Lessor, in customary form and substance for and with a contractor specializing and experienced in the inspection, maintenance and service of the heating, air conditioning and ventilation system for the Premises. However, Lessor reserves the right, upon notice to Lessee, to procure and maintain the contract for the heating, air conditioning and ventilating systems, and if Lessor so elects, Lessee shall reimburse Lessor, upon demand, for the cost thereof. (c) If Lessee fails to perform Lessee's obligations under this Paragraph 7.1, Lessor may enter upon the Premises after thirty (30) days' prior written notice to Lessee (except in the case of an emergency, in which case no notice shall be required), perform such obligations on Lessee's behalf, and put the Premises in good order, condition and repair; in accordance with Paragraph 13.2 below. 7.2 Lessor's Obligations. Subject to the provisions of Paragraph 2.2 (Condition), 2.3 (Compliance with Covenants, Restrictions and Building Code), 4.2 (Common Area Operating Expenses), 6 (Use), 7.1 (Lessee's Obligations), 9 (Damage or Destruction) and 14 (Condemnation), Lessor, subject to reimbursement pursuant to Paragraph 4.2, shall keep in good order, condition and repair the foundations, exterior walls, structural condition of interior bearing walls, exterior roof, fire sprinkler and/or standpipe and hose (if located in the Common Areas) or other automatic fire extinguishing system including fire alarm and/or smoke detection systems and equipment, fire hydrants, parking lots, walkways, parkways, driveways, landscaping, fences, signs and utility systems serving the Common Areas and all parts thereof, as well as providing the services for which there is a Common Area Operating Expense pursuant to Paragraph 4.2. Lessor shall not be obligated to paint the exterior surfaces of exterior walls nor shall Lessor be obligated to maintain, repair or replace windows, doors or plate glass of the Premises. Lessee expressly waives the benefit of any statute now or hereafter in effect which would otherwise afford Lessee the right to make repairs at Lessor's expense or to terminate this Lease because of Lessor's failure to keep the Building, Industrial Center or Common Areas in good order, condition and repair. 7.3 Utility Installations, Trade Fixtures, Alterations. (a) Definitions; Consent Required. The term "Utility Installations" is used in this Lease to refer to all air lines, power panels, electrical distribution, security, fire protection systems, communications systems, lighting fixtures, heating, ventilating and air conditioning equipment, plumbing, and fencing in, on or about the Premises. The term "Trade Fixtures" shall mean Leasee's machinery and equipment which can be removed without doing material damage to the Premises. The term "Alterations" shall mean any modification of the improvements on the Premises which are provided by Lessor under the terms of this Lease, other than Utility Installations or Trade Fixtures. "Lessee-Owned Alterations and/or Utility Installations" are defined as Alterations and/or Utility Installations made by Lessee that are not yet owned by Lessor pursuant to Paragraph 7.4(a). Lessee shall not make nor cause to be made any Alterations or Utility Installations in, on, under or about the Premises without Lessor's prior written consent. Lessee may, however, make Alterations and Utility Installations to the interior of the Premises (excluding the roof) without Lessor's consent but upon notice to Lessor, provided that Lessee complies with all the following terms and conditions: (i) all such Alterations and Utility Installations shall be made at Lessee's sole cost and expense, including any additional requirements or conditions imposed upon Lessee or Lessor as a result of Lessee's desire to make such Alterations and Utility Installations, (ii) all such Alterations and Utility Installations shall not be visible from the exterior of the Premises, (iii) all such Alterations and Utility Installations shall not affect the roof or structural portions of the Premises, (iv) all such Alterations and Utility Installations shall not affect the existing utility and mechanical systems serving the Premises, including without limitation the HVAC, plumbing, electrical, fire safety and sprinkler systems, (v) all such Alterations and Utility Installations shall be properly approved and permitted by all governmental authorities having jurisdiction thereover, shall be expeditiously commenced and completed, shall be performed in a good and workmanlike manner using new materials and otherwise in conformance with all Applicable Laws, and shall be constructed by a California licensed contractor which carries a policy of commercial general liability insurance in an amount not less than $500,000.00 per occurrence, with Lessor named as additional insured thereunder, (vi) all such Alterations and Utility Installations shall not cost, in the aggregate, more than Thirty Thousand Dollars ($30,000.00) in any one calendar year, or more than One Hundred Fifty Thousand Dollars ($150,000.00) in the aggregate during the Lease term, (vii) Lessee shall give Lessor not less than ten (10) days prior written notice of the date that Lessee intends to commence such Alterations and Utility Installations so that Lessor may post notices of non-responsibility with respect thereto, (viii) unless otherwise agreed to in writing by Lessor, all such Alterations and Utility Installations shall be removed by Lessee prior to the expiration or earlier termination of this Lease, and the Premises restored to the condition existing prior to the making of such Alterations and Utility Installations. In the event that Lessee desires not to remove all such Alterations and Utility Installations, Lessee shall provide Lessor, along with the notice specified in subsection (vii) above, with (a) a written request that such Alterations and Utility Installations need not be removed, (b) plans and specifications for such Alterations and Utility Installations, and (c) such other information as is reasonably necessary for Lessor to understand the nature and extent of the proposed Alterations and Utility Installations. Lessor shall respond in writing to Lessee within five (5) business days following receipt of all the information specified above, notifying Lessee whether or not such Alterations and Utility Installations need be removed and the Premises restored upon the expiration or earlier termination of this Lease. (b) Consent. Any Alterations or Utility Installations that Lessee shall desire to make which require the consent of the Lessor shall be presented to Lessor in written form with detailed plans. All consents given by Lessor, whether by virtue of Paragraph 7.3(a) or by subsequent specific consent, shall be deemed conditioned upon: (i) Lessee's acquiring all applicable permits required by governmental authorities; (ii) the furnishing of copies of such permits together with a copy of the plans and specifications for the Alteration or Utility Installation to Lessor prior to commencement of the work thereon; and (iii) the compliance by Lessee with all conditions of said permits in a prompt and expeditious manner. Any Alterations or Utility Installations by Lessee during the term of this Lease shall be done in a good and workmanlike manner, with good and sufficient materials, and be in compliance with all Applicable Requirements. Lessee shall promptly upon completion thereof furnish Lessor with as-built plans and specifications therefor. (c) Lien Protection. Lessee shall pay when due all claims for labor or materials furnished or alleged to have been furnished to or for Lessee at or for use on the Premises, which claims are or may be secured by any mechanic's or materialmen's lien against the Premises or any interest therein. Lessee shall give Lessor not less than ten (10) days' notice prior to the commencement of any work in, on, or about the Premises, and Lessor shall have the right to post notices of non-responsibility in or on the Premises as provided by law. If Lessee shall, in good faith, contest the validity of any such lien, claim or demand, then Lessee shall, at its sole expense, defend and protect itself, Lessor and the Premises against the same and shall pay and satisfy any such adverse judgment that may be rendered thereon before the enforcement thereof against the Lessor or the Premises. If Lessor shall require, Lessee shall furnish to Lessor a surety bond satisfactory to Lessor in an amount equal to one and one-half times the amount of such contested lien claim or demand, indemnifying Lessor against liability for the same, as required by law for the holding of the Premises free from the effect of such lien or claim. In addition, Lessor may require Lessee to pay Lessor's attorneys' fees and costs in participating in such action if Lessor shall decide if it is to its best interest to do so. 7.4 Ownership, Removal, Surrender, and Restoration. (a) Ownership. Subject to Lessor's right to require their removal and to cause Lessee to become the owner thereof as hereinafter provided in this Paragraph 7.4, all Alterations and Utility installations made to the Premises by Lessee shall be the property of and owned by Lessee, but considered a part of the Premises. Unless otherwise instructed per Subparagraph 7.4(b) hereof, all Lessee-Owned Alterations and Utility Installations shall, at the expiration or earlier termination of this Lease, become the property of Lessor and remain upon the Premises and be surrendered with the Premises by Lessee; provided, however, that in the event that this Lease is terminated as a result of damage or destruction to the Premises, any insurance proceeds related to Lessee's Special Improvements and Lessee-Owned Alterations and Utility Installations shall belong solely to Lessee. (b) Removal. Unless otherwise agreed in writing, Lessor may require that any or all Lessee-Owned Alterations or Utility Installations be removed by the expiration or earlier termination of this Lease, notwithstanding that their installation may have been consented to by Lessor. Lessor may require the removal at any time of all or any part of any Alterations or Utility Installations made without the required consent of the Lessor. (c) Surrender/Restoration. Lessee shall surrender the Premises by the end of the last day of the Lease term or any earlier termination date, clean and free of debris and in good operating order, condition and state of repair, ordinary wear and tear and damage, destruction or condemnation covered by Paragraphs 9 and 13 herein excepted. Ordinary wear and tear shall not include any damage or deterioration that would have been prevented by Lessee performing all of its obligations under this Lease. Except as otherwise agreed or specified herein, the Premises, as surrendered, shall include the Alterations and Utility Installations. The obligation of Lessee shall include the repair of any damage occasioned by the Installation, maintenance or removal of Lessee's Trade Fixtures, furnishings, equipment, and Lessee-Owned Alterations and Utility Installations, as well as the removal of any storage tank installed by or for Lessee, and the removal, replacement, or remediation of any soil, material or ground water contaminated by Lessee, all as may then be required by Applicable Requirements and/or good practice. Lessee's Trade Fixtures shall remain the property of Lessee and shall be removed by Lessee subject to its obligation to repair and restore the Premises per this Lease. 8. Insurance; Indemnity. 8.1 Payment of Premiums. The cost of the premiums for the insurance policies maintained by Lessor under this Paragraph 8 shall be a Common Area Operating Expense pursuant to Paragraph 4.2 hereof. Premiums for policy periods commencing prior to, or extending beyond, the term of this Lease shall be pro-rated to coincide with the corresponding Commencement Date or Expiration Date. 8.2 Liability Insurance. (a) Carried by Lessee. Lessee shall obtain and keep in force during the term of this Lease a Commercial General Liability policy of insurance protecting Lessee, Lessor and any Lender(s) whose names have been provided to Lessee in writing (as additional insureds) against claims for bodily injury, personal injury and property damage based upon, involving or arising out of the ownership, use, occupancy or maintenance of the Premises and all areas appurtenant thereto. Such insurance shall be on an occurrence basis providing single limit coverage in an amount not less than See Addendum with an "Additional Insured-Managers or Lessors of Premises' endorsement and contain the "Amendment of the Pollution Exclusion" endorsement for damage caused by heat, smoke or fumes from a hostile fire. The policy shall not contain any intra-insured exclusions as between insured persons or organizations, but shall include coverage for liability assumed under this Lease as an "insured contract" for the performance of Lessee's indemnity obligations under this Lease. The limits of said insurance required by this Lease or as carried by Lessee shall not, however, limit the liability of Lessee nor relieve Lessee of any obligation hereunder. All insurance to be carried by Lessee shall be primary to and not contributory with any similar insurance carried by Lessor, whose insurance shall be considered excess insurance only. (b) Carried by Lessor. Lessor shall also maintain liability insurance in addition to and not in lieu of, the insurance required to be maintained by Lessee. Lessee shall be named as an additional insured therein; provided, however, that Lessee's liability insurance policy shall be primary, non- contributing with and not in excess of Lessor's policy. 8.3 Property Insurance-Building, Improvements and Rental Value. (a) Building and Improvements. Lessor shall obtain and keep in force during the term of this Lease a policy or policies in the name of Lessor, with loss payable to Lessor and to any Lender(s), insuring against loss or damage to the Premises. Such insurance shall be a standard "All Risk" policy of property insurance, in an amount equal to the full replacement value of the Building (exclusive of foundations and footings), with a deductible not in excess of Ten Thousand Dollars ($10,000.00.) Lessee-Owned Alterations and Utility Installations, Trade Fixtures and Lessee's personal property shall be insured by Lessee pursuant to Paragraph 8.4. If the coverage is available and commercially appropriate, Lessor's policy or policies shall insure against the perils of earthquake. (b) Rental Value. Lessor shall also obtain and keep in force during the term of this Lease a policy or policies in the name of Lessor, with loss payable to Lessor and any Lender(s), insuring the loss of the full rental and other charges payable by all lessees of the Building to Lessor for a period of twelve (12) months. (c) Adjacent Premises. Lessee shall pay for any increase in the premiums for the property insurance of the Building and for the Common Areas or other buildings in the Industrial Center if said increase is caused by Lessee's acts, omissions, use or occupancy of the Premises. (d) Lessee's Improvements. Since Lessor is the Insuring Party, Lessor shall not be required to insure Lessee-Owned Alterations and Utility Installations unless the item in question has become the property of Lessor under the terms of this Lease. 8.4 Lessee's Property Insurance. Subject to the requirements of Paragraph 8.5, Lessee at its cost shall either by separate policy or, at Lessor's option, by endorsement to a policy already carried, maintain insurance coverage on all of Lessee's personal property, Trade Fixtures and Lessee-Owned Alterations and Utility Installations in, on, or about the Premises similar in coverage to that carried by Lessor as the insuring Party under Paragraph 8.3(a). Such insurance shall be a full replacement cost coverage with a deductible not to exceed Ten Thousand Dollars ($10,000.00) per occurrence; provided that in no event shall Lessor be responsible to Lessee for any amount paid by Lessee as part of a deductible payment made by Lessee in connection with the aforesaid property insurance. The proceeds from any such insurance shall be used by Lessee for the replacement of personal property and the restoration of Trade Fixtures and Lessee-Owned Alterations and Utility Installations. Upon request from Lessor, Lessee shall provide Lessor with written evidence that such insurance is in force. Lessee shall also carry business interruption/loss of income insurance in an amount equal to Lessee's lost revenues for a period of twelve (12) months (including without limitation, lost revenues in Lessee's retail facilities) as a result of Lessee's inability to utilize the Premises to any extent. Notwithstanding the foregoing, Lessee may elect to self insure for its personal property insurance and business interruption/loss of income insurance. 8.5 Insurance Policies. Insurance required hereunder shall be in companies duly licensed to transact business in the state where the Premises are located, and maintaining during the policy term a "General Rating" of at least B+, V, or such other rating as may be required by a Lender, as set forth in the most current issue of "Best's Insurance Guide." Lessee shall not do or permit to be done anything which shall invalidate the insurance policies referred to in MULTI-TENANT-MODIFIED NET Initials: /s/ BPM (C) AMERICAN INDUSTRIAL REAL ESTATE ASSOCIATION ---------- /s/ J ---------- this Paragraph 8, Lessee shall cause to be delivered to Lessor, within seven (7) days after the earlier of the Early Possession Date or the Commencement Date, certified copies of, or certificates evidencing the existence and amounts of, the insurance required under Paragraph 8.2(a) and 8.4. No such policy shall be cancellable or subject to modification except after thirty (30) days' prior written notice to Lessor. Lessee shall at least thirty (30) days prior to the expiration of such policies furnish Lessor with evidence of renewals or "Insurance binders" evidencing renewal thereof or certificates of insurance evidencing that Lessee continues to carry the insurance required to be carried by Lessee herein, or Lessor may order such insurance and charge the cost thereof to Lessee, which amount shall be payable by Lessee upon demand. 8.6 Waiver of Subrogation. Without affecting any other rights or remedies, Lessee and Lessor each hereby release and relieve the other, and waive their entire right to recover damages (whether in contract or in tort) against the other, for loss or damage to their property or for loss of revenue or income arising out of or incident to the perils required to be insured against under Paragraph 8. The effect of such releases and waivers of the right to recover damages shall not be limited by the amount of insurance carried of required, or by any deductibles applicable thereto. Lessor and Lessee agree to have their respective insurance companies issuing property damage and business interruption/loss of income insurance or rental loss insurance, as applicable insurance waive any right to subrogation that such companies may have against Lessor or Lessee, as the case may be, so long as the insurance is not invalidated thereby. 8.7 Indemnity, Lessee's Indemnity. Subject to the provisions of Section ----------------------------- 8.6 of this Lease and Paragraph 15 of the Addendum hereto, Lessee, as a material part of the consideration to be rendered to Lessor, shall indemnify, defend, protect and hold harmless Lessor and all partners, shareholders, directors, officers, employees and agents of Lessor (collectively, "Lessor Parties") against all actions, claims, demands, damages, liabilities, losses, penalties, fees (including without limitation reasonable attorneys' fees and costs) and expenses (collectively, "Claims and Damages") of any kind which may be brought or imposed upon the Lessor Parties or which the Lessor Parties may pay or incur by reason of injury to person or property, from whatever cause, all or in any way connected with the condition or use of the Premises, or the improvements or personal property therein or thereon, including without limitation any liability or injury to the person or property of Lessee, its partners, shareholders, directors, officers, employees and agents (the "Lessee Parties"), to the extent the same would be covered under a customary commercial general liability insurance policy with the Lessor named as an additional insured thereunder. Subject to the provisions of Section 8.6 of this Lease and Paragraph 15 of the Addendum hereto, Lessee also agrees to indemnify, defend and protect the Lessor Parties and hold them harmless from any and all Claim and Damages incurred in connection with or arising out of the negligence or willful misconduct of the Lessee Parties. Lessor's Indemnity. Subject to the provisions of Section 8.6 of this Lease ------------------ and Paragraph 15 of the Addendum hereto, Lessor, as a material part of the consideration to be rendered to Lessee, shall indemnify, defend, protect and hold harmless the Lessee Parties against all Claims and Damages of any kind which may be brought or imposed upon the Lessee Parties or which the Lessee Parties may pay or incur by reason of injury to person or property, from whatever cause, all or in any way connected with the condition or use of the Common Areas, or the improvements or personal property therein or thereon, including without limitation any liability or injury to the person or property of the Lessor Parties, to the extent the same would be covered under a customary commercial general liability insurance policy with the Lessee named as an additional insured thereunder. Subject to the provisions of Section 8.6 of this Lease and Paragraph 15 of the Addendum hereto, Lessor also agrees to indemnify, defend and protect the Lessee Parties and hold them harmless from any and all Claims and Damages incurred in connection with or arising out of the negligence or willful misconduct of the Lessor Parties. 9.8 Termination - Advance Payments. Upon termination of this Lease pursuant to this Paragraph 9, Lessor shall return to Lessee any advance payment made by Lessee to Lessor and so much of Lessee's Security Deposit as has not been, or is not then required to be, used by Lessor under the terms of this Lease. 9.9 Waiver of Statutes. Lessor and Lessee agree that the terms of this Lease shall govern the effect of any damage to or destruction of the Premises and the Building with respect to the termination of this Lease and hereby waive the provisions of any present or future statute to the extent it is inconsistent herewith. 10. Real Property Taxes. 10.1 Payments of Taxes. Lessor shall pay the Real Property Taxes, as defined in Paragraph 10.2, applicable to the Industrial Center prior to delinquency and except as otherwise provided in Paragraph 10.3, any such amounts shall be included in the calculation of Common Area Operating Expenses in accordance with the provisions of Paragraph 4.2. 10.2 Real Property Tax Definition. As used herein, the term "Real Property Taxes" shall include any form of real estate tax or assessment, general, special, ordinary or extraordinary, and any license fee, commercial rental tax, improvement bond or bonds, levy or tax (other than inheritance, personal income or estate taxes) imposed upon the Industrial Center by any authority having the direct or indirect power to tax, including any city, state or federal government, or any school, agricultural, sanitary, fire, street drainage, or other Improvement district thereof, levied against any legal or equitable interest of Lessor in the Industrial Center or any portion thereof, Lessor's right to rent or other income therefrom, and/or Lessor's business of leasing the Premises. The term "Real Property Taxes" shall also include any tax, fee, levy, assessment or charge, or any increase therein, imposed by reason of events occurring, or changes in Applicable Law taking effect, during the term of this Lease, including but not limited to a change in the ownership of the Industrial Center or in the improvements thereon, the execution of this Lease, or any modification, amendment or transfer thereof, and whether or not contemplated by the Parties. In calculating Real Property Taxes for any calendar year, the Real Property Taxes for any real estate tax year shall be included in the calculation of Real Property Taxes for such calendar year based upon the number of days which such calendar year and tax year have in common. 10.4 Joint Assessment. If the Building is not separately assessed, Real Property Taxes allocated to the Building shall be an equitable proportion of the Real Property Taxes for all of the land and improvements included within the tax parcel assessed, such proportion to be determined as follows: Lessee shall pay, as additional rent to Lessor, its "pro rata share" of all Real Property Taxes stated in the tax bill in which the Premises are included, including the parking and Common Areas, as well as the improvements on all of said land, or otherwise arising under the provisions of this Article 10. Pro rata share is defined as that fraction the numerator of which is the square footage in the Premises and the denominator of which is the gross leasable square footage included within the tax bill. 10.5 Lessee's Property Taxes. Lessee shall pay prior to delinquency all taxes assessed against and levied upon Lessee-Owned Alterations and Utility Installations, Trade Fixtures, furnishings, equipment and all personal property of Lessee contained in the Premises or stored within the Industrial Center. When possible, Lessee shall cause its Lessee-Owned Alterations and Utility Installations, Trade Fixtures, furnishings, equipment and all other personal property to be assessed and billed separately from the real property of Lessor. If any of Lessee's said property shall be assessed with Lessor's real property, Lessee shall pay Lessor the taxes attributable to Lessee's property within ten (10) days after receipt of a written statement setting forth the taxes applicable to Lessee's property. 11. Utilities. Lessee shall pay directly for all utilities and services supplied to the Premises, including but not limited to electricity, telephone, security, gas and cleaning of the Premises, together with any taxes thereon. If any such utilities or services are not separately metered to the Premises or separately billed to the Premises, Lessee shall pay to Lessor a reasonable proportion to be determined by Lessor of all such charges jointly metered or billed to the premises in the Building, in the manner and within the time periods set forth in Paragraph 4.2(d). 12. Assignment and Subletting. 12.1 Lessor's Consent Required. Lessor and Lessee acknowledge that, although Lessee's stock is currently publicly traded, Lessee has informed Lessor of a proposed transaction whereby the current management of the Lessee intends to purchase all of the outstanding stock of Lessee such that the stock of the Lessee would no longer be publicly traded (the "Management Buyout.") The provisions of Sections 12.1 (b) and (c) below shall not apply to the Management Buyout. (a) Lessee shall not voluntarily or by operation of law assign, transfer, mortgage or otherwise transfer or encumber (collectively, "assign") or sublet all or any part of Lessee's interest in this Lease or in the Premises without Lessor's prior written consent given under the subject to the terms of Paragraph 36. (b) Provided that Lessee is or becomes a company whose stock shares are no longer publicly traded, a change in the control of Lessee shall constitute an assignment requiring Lessor's consent. During the initial three (3) years of the term hereof, the transfer, on a cumulative basis, of more than twenty-five percent (25%), but less than fifty percent (50%), of the outstanding shares of Lessee, shall not constitute an assignment requiring Lessor's consent, provided that the current President and CEO of Lessee, Brian McDermott ("McDermott") remains employed by Lessee in his current capacity. In addition, during the initial three (3) years of the term hereof, the transfer, on a cumulative basis, of more than twenty-five percent (25%) of the outstanding shares of Lessee which causes or is accompanied by McDermott no longer being employed by Lessee in his current capacity shall constitute an assignment requiring Lessor's consent; provided, however, that Lessor may not withhold its consent to any such transaction if Lessee agrees to post with Lessor such security for Lessee's performance of this Lease (including, without limitation, cash, or a letter of credit, or a Lease guaranty) as is reasonable given the nature of the transaction proposed by Lessee, the reduction in the Net Worth of Lessee (as defined below), if any, which will occur thereby, and the increased risk to Lessor of Lessee's performance hereunder which is caused thereby. From and after the expiration of the initial three (3) years of the term hereof, a transfer of up to forty nine percent (49%) of the outstanding shares of Lessee shall not constitute an assignment requiring Lessor's consent, notwithstanding any changes in the employment status of McDermott. In any event, the transfer, on a cumulative basis, at any time during the term hereof, of fifty percent (50%) or more of the outstanding shares of Lessee shall constitute an assignment requiring Lessor's consent. The foregoing provisions shall not apply to the Management Buyout. (c) The involvement of the Lessee or its assets in any transaction, or series of transactions (by way of merger, sale, acquisition, financing, re-financing, transfer, leveraged buy-out or otherwise), whether or not a formal assignment or hypothecation of this Lease or Lessee's assets occurs, which results or will result in a reduction in the Net Worth of Lessee, as hereinafter defined, by an amount equal to or greater than twenty-five percent (25%) of such Net Worth of Lessee as it was represented to Lessor at the time of full execution and delivery of this Lease, shall be considered an assignment of this Lease by Lessee to which Lessor may reasonably withhold its consent; provided, however, that Lessor may not withhold its consent to any transaction contemplated by this Section 12.1 (b) if Lessee agrees to post with Lessor such security for Lessee's performance of this Lease (including, without limitation, cash, or a letter of credit, or a Lease guaranty) as is reasonable given the nature of the transaction proposed by Lessee, the reduction in the Net Worth of Lessee which will occur thereby, and the increased risk to Lessor of Lessee's performance hereunder which is caused thereby. "Net Worth of Lessee" for purposed of this Lease shall be the net worth of Lessee (excluding any guarantors) established under generally accepted accounting principles consistently applied. The foregoing provisions shall not initiate the Management Buyout. (d) An assignment or subletting of Lessee's interest in this Lease without Lessor's specific prior written consent shall, at Lessor's option, be a Default curable after notice per Paragraph 13.1, or a non-curable Breach without the necessity of any notice and grace period. If Lessor elects to treat such unconsented to assignment or subletting as a non-curable Breach, Lessor shall have the right to terminate this Lease. (e) Lessee's remedy for any breach of this Paragraph 12.1 by Lessor shall be limited to compensatory damages and/or injunctive relief. 12.2 Terms and Conditions Applicable to Assignment and Subletting. (a) Regardless of Lessor's consent, any assignment or subletting shall not (i) be effective without the express written assumption by such assignee or sublessee of the obligations of Lessee under this Lease, (ii) release Lessee of any obligations hereunder, nor (iii) alter the primary liability of Lessee for the payment of Base Rent and other sums due Lessor hereunder or for the performance of any other obligations to be performed by Lessee under this Lease. (b) Lessor may accept any rent or performance of Lessee's obligations from any person other than Lessee pending approval or disapproval of an assignment. Neither a delay in the approval or disapproval of such assignment nor the acceptance of any rent for performance shall constitute a waiver or estoppel of Lessor's right to exercise its remedies for the Default or Breach by Lessee of any of the terms, covenants or conditions of this Lease. (c) The consent of Lessor to any assignment or subletting shall not constitute a consent to any subsequent assignment or subletting by Lessee or to any subsequent or successive assignment or subletting by the assignee or sublessee. However, Lessor may consent to subsequent sublettings and assignments of the sublease or any amendments or modifications thereto upon notification to Lessee unless Lessee has been released from its obligations hereunder pursuant to Paragraph 9.F of the Addendum herein, or otherwise, and without obtaining their consent, and such action shall not relieve such persons from liability under this Lease or the sublease. (d) In the event of any Default or Breach of Lessee's obligation under this Lease, Lessor may proceed directly against Lessee, any Guarantors or anyone else responsible for the performance of the Lessee's obligations under this Lease, including any sublessee, without first exhausting Lessor's remedies against any other person or entity responsible therefor to Lessor, or any security held by Lessor. (e) Each request for consent to an assignment or subletting shall be in writing, accompanied by information relevant to Lessor's determination as to the financial and operational responsibility and appropriateness of the proposed assignee or sublessee, including but not limited to the intended use and/or required modification of the Premises. Lessee agrees to provide Lessor with such other or additional information and/or documentation as may be reasonably requested by Lessor. (f) Any assignee of, or sublessee under, this Lease shall, by reason of accepting such assignment or entering into such sublease, be deemed, for the benefit of Lessor, to have assumed and agreed to conform and comply with each and every term, covenant, condition and obligation herein to be observed or performed by Lessee during the term of said assignment or sublease, other than such obligations as are contrary to or inconsistent with provisions of an assignment or sublease to which Lessor has specifically consented in writing. 12.3 Additional Terms and Conditions Applicable to Subletting. The following terms and conditions shall apply to any subletting by Lessee of all or any part of the Premises and shall be deemed included in all subleases under this Lease whether or not expressly incorporated therein: (a) Lessee hereby assigns and transfers to Lessor all of Lessee's interest in all rentals and income arising from any sublease of all or a portion of the Premises heretofore or hereafter made by Lessee, and Lessor may collect such rent and income and apply same toward Lessee's obligations under this Lease; provided, however, that until a Breach (as defined in Paragraph 13.1) shall occur under Paragraphs 13.1(b), 13.1(d)(to the extent that Lessor expends sums in curing such Breach) and 13.1(e) in the performance of Lessee's obligations under this Lease, Lessee may, except as otherwise provided in this Lease, receive, collect and enjoy the rents accruing under such sublease, Lessor shall not, by reason of the foregoing provision or any other assignment of such sublease to Lessor, nor by reason of the collection of the rents from a sublessee, be deemed liable to the sublessee for any failure of Lessee to perform and comply with any of Lessee's obligations to such sublessee under such Sublease. Lessee hereby irrevocably authorizes and directs any such sublessee, upon receipt of a written notice from Lessor stating that a Breach exists in the performance of Lessee's obligations under this Lease, to pay to Lessor the rents and other charges due and to become due under the sublease. Sublessee shall rely upon any such statement and request from Lessor and shall pay such rents and other charges to Lessor without any obligation or right to inquire as to whether such Breach exists and notwithstanding any notice from or claim from Lessee to the contrary. Lessee shall have no right or claim against such sublessee, or, until the Breach has been cured, against Lessor, from any such rents and other charges so paid by said sublessee to Lessor. (b) In the event of a Breach by Lessee in the performance of its obligations under this Lease, Lessor, at its option and without any obligation to do so, may require any sublessee to attorn to Lessor, in which event Lessor shall undertake the obligations of the sublessor under such sublease from the time of the exercise of said option to the expiration of such sublease; provided, however, Lessor shall not be liable for any prepaid rents or security deposit paid by such sublessee to such sublessor or for any other prior defaults or breaches of such sublessor under such sublease. (d) No sublessee under a sublease approved by Lessor shall further assign or sublet all or any part of the Premises without Lessor's prior written consent. 13. Default;Breach;Remedies. 13.1 Default; Breach. Lessor and Lessee agree that if an attorney is consulted by Lessor in connection with a Lessee Default or Breach (as hereinafter defined), $350,000 is a reasonable minimum sum per such occurrence for legal services and costs in the preparation and service of a notice of Default, and that Lessor may include the cost of such services and costs in said notice as rent due and payable to cure said default. A "Default" by Lessee is defined as a failure by Lessee to observe, comply with or perform any of the terms, covenants, conditions or rules applicable to Lessee under this Lease. A "Breach" by Lessee is defined as the occurrence of any one or more of the following Defaults, and, where a grace period for cure after notice is specified herein, the failure by Lessee to cure such Default prior to the expiration of the applicable grace period, and shall entitle Lessor to pursue the remedies set forth in Paragraphs 13.2 and/or 13.3: (a) The vacating of the Premises without the intention to reoccupy same, or the abandonment of the Premises. (b) Except as expressly otherwise provided in this Lease, the failure by Lessee to make any payment of Base Rent, Lessee's Share of Common Area Operating Expenses, or any other monetary payment required to be made by Lessee hereunder (hereinafter, "Additional Rent") as and when due, the failure by Lessee to provide Lessor with reasonable evidence of insurance or surety bond required under this Lease, or the failure of Lessee to fulfill any obligation under this Lease which endangers or threatens life or property, where such failure continues for a period of three (3) days following written notice thereof by or on behalf of Lessor to Lessee. Notwithstanding the foregoing, no more often than once each twelve (12) months during the term hereof, Lessor shall provide Lessee with written notice of Lessee's failure to timely pay Base Rent or Additional Rent, and provided that Lessee pays such Base Rent or Additional Rent to Lessor within ten (10) days following Lessee's receipt of Lessor's written notice, Lessee shall not be deemed to be in default hereunder. In all events Lessor shall give Lessee such notice of non-payment of Base Rent and/or Additional Rent, and/or of Lessee's non-performance of any provision of this Lease as is required by California law, prior to instituting any action in unlawful detainer to dispossess Lessee from the Premises. (c) Except as expressly otherwise provided in this Lease, the failure by Lessee to provide Lessor with reasonable written evidence (in duly executed original form, If applicable) of (I) compliance with Applicable Requirements per Paragraph 6.3 (II) the inspection, maintenance and service contracts required under Paragraph 7.1(b) (III) the rescission of an unauthorized assignment or subletting per Paragraph 12.1, (IV) a Tenancy Statement per Paragraphs 16 or 37, (V) the subordination or non-subordination of this Lease per Paragraph 30, (VI) the guaranty of the Performance of Lessee's obligations under this Lease if required under Paragraphs 1.11 and 37, (VII) the execution of any document requested under Paragraph 42 (easements), or (VIII) any other documentation or information which Lessor may reasonably require of Lessee under the terms of this lease, where any such failure continues for a period of ten (10) days following written notice by or on behalf of Lessor to Lessee. (d) A Default by Lessee as to the terms, covenants, conditions or provisions of this Lease, or of the rules adopted under Paragraph 40 hereof that are to be observed, compiled with or performed by Lessee, other than those described in Subparagraphs 13.1(a), (b) or (c), above, where such Default continues for a period of thirty (30) days after written notice thereof by or on behalf of Lessor to Lessee; provided, however, that if the nature of Lessee's Default is such that more than thirty (30) days are reasonably required for its cure, then it shall not be deemed to be a Breach of this Lease by Lessee if Lessee commences such cure within said thirty (30) day period and thereafter diligently prosecutes such cure to completion. (e) The occurrence of any of the following events:(i) the making by Lessee of any general arrangement or assignment for the benefit of creditors; (ii) Lessee's becoming a "debtor" as defined in 11 U.S. Code Section 101 or any successor statute thereto (unless, in the case of a petition filed against Lessee, the same is dismissed within sixty (60) days); (iii) the appointment of a trustee or receiver to take possession of substantially all of Lessee's assets located at the Premises or of Lessee's interest in this Lease, where possession is not restored to Lessee within sixty (60) days; or (iv) the attachment, execution or other judicial seizure of substantially all of Lessee's assets located at the Premises or of Lessee's interest in this Lease, where such seizure is not discharged within sixty (60) days; provided, however,in the event that any provision of this Subparagraph 13.1(e) is contrary to any applicable law, such provision shall be of no force or effect, and shall not affect the validity of the remaining provisions. (f) The discovery by Lessor that any financial statement of Lessee or of any Guarantor, given to Lessor by Lessee or any Guarantor, was materially false. (g) If the performance of Lessee's obligations under this Lease is guaranteed: (i) the death of a Guarantor, (ii) the termination of a Guarantor's liability with respect to this Lease other than in accordance with the terms of such guaranty, (iii) a Guarantor's becoming insolvent or the subject of a bankruptcy filing, (iv) a Guarantor's refusal to honor the guaranty, or (v) a Guarantor's breach of its guaranty obligation on an anticipatory breach basis, and Lessee's failure, within sixty (60) days following written notice by or on behalf of Lessor to Lessee of any such event, to provide Lessor with written alternative assurances of security, which, when coupled with the then existing resources of Lessee, equals or exceeds the combined financial resources of Lessee and the Guarantors that existed at the time of execution of this Lease. 13.2 Remedies. If Lessee fails to perform any affirmative duty or obligation of Lessee under this Lease, within thirty (30) days after written notice to Lessee (or in case of an emergency, without notice), Lessor may at its option (but without obligation to do so), perform such duty or obligation on Lessee's behalf, including but not limited to the obtaining of reasonably required bonds, insurance policies, or governmental licenses, permits or approvals. The costs and expenses of any such performance by Lessor shall be due and payable by Lessee to Lessor within thirty (30) days following Lessee's receipt of Lessor's invoice therefor. If any check given to Lessor by Lessee shall not be honored by the bank upon which it is drawn, Lessor, at its own option, may require all future payments to be made under this Lease by Lessee to be made only by cashier's check in the event of a Breach of this Lease by Lessee (as defined in Paragraph 13.1), with or without further notice or demand, and without limiting Lessor in the exercise of any right or remedy which Lessor may have by reason of such Breach, Lessor may; (a) Terminate Lessee's right to possession of the Premises by any lawful means, in which case this Lease and the term hereof shall terminate and Lessee shall immediately surrender possession of the Premises to Lessor. In such event Lessor shall be entitled to recover from Lessee; (i) the worth at the time of the award of the unpaid rent which had been earned at the time of termination; (ii) the worth at the time of award of the amount by which the unpaid rent which would have been earned after termination until the time of award exceeds the amount of such rental loss that the Lessee proves could have been reasonably avoided; (iii) the worth at the time of award of the amount by which the unpaid rent for the balance of the term after the time of award exceeds the amount of such rental loss that the Lessee proves could be reasonably avoided: and (iv) any other amount necessary to compensate Lessor for all the detriment proximately caused by the Lessee's failure to perform its obligations under this Lease or which in the ordinary course of things would be likely to result therefrom, including but not limited to the cost of recovering possession of the Premises, expenses of reletting, including necessary renovation and alteration of the Premises, reasonable attorney's fees, and that portion of any leasing commission paid by Lessor in connection with this Lease applicable to the unexpired term of this Lease. The worth at the time of award of the amount referred to in provision (iii) of the immediately preceding sentence shall be computed by discounting such amount at the discount rate of the Federal Reserve Bank of San Francisco or the Federal Reserve Bank District in which the Premises are located at the time of award plus one percent (1%). Efforts by Lessor to mitigate damages caused by Lessee's Default or Breach of this Lease shall not waive Lessor's right to recover damages under this Paragraph 13.2. If termination of this Lease is obtained through the provisional remedy of unlawful detainer, Lessor shall have the right to recover in such proceeding the unpaid rent and damages as are recoverable therein, or Lessor may reserve the right to recover all or any part thereof in a separate suit for such rent and/or damages. (b) Continue the Lease and Lessee's right to possession in effect (in California under California Civil Code Section 1951.4) after Lessee's Breach and recover the rent as it becomes due, provided Lessee has the right to sublet or assign, subject only to reasonable limitations. Lessor and Lessee agree that the limitations on assignment and subletting in this Lease are reasonable. Acts of maintenance or preservation, efforts to relet the Premises, or the appointment of a receiver to protect the Lessor's interest under this Lease, shall not constitute a termination of the Lessee's right to possession. (c) Pursue any other remedy now or hereafter available to Lessor under the laws or judicial decisions of the state wherein the Premises are located. Page 7 (d) The expiration or termination of this Lease and/or the termination of Lessee's right to possession shall not relieve Lessee from liability under any indemnity provisions of this Lease as to matters occurring or accruing during the term hereof or by reason of Lessee's occupancy of the Premises. 13.4 Late Charges. Lessee hereby acknowledges that late payment by Lessee to Lessor of rent and other sums due hereunder will cause Lessor to Incur costs not contemplated by this Lease, the exact amount of which will be extremely difficult to ascertain. Such costs include, but are not limited to, processing and accounting charges, and late charges which may be imposed upon Lessor by the terms of any ground lease, mortgage or deed of trust covering the Premises. Accordingly, if any installment of rent or other sum due from Lessee shall not be received by Lessor of Lessor's designee within ten (10) days after such amount shall be due, then, without any requirement for notice to Lessee, Lessee shall pay to Lessor a late charge equal to (i) One Thousand Dollars ($1000.00), if Lessee has failed to timely make a payment of Base Rent, or (ii) two percent (2%) of the past due sum, for all other payments due from Lessee to Lessor hereunder. The parties hereby agree that such late charge represents a fair and reasonable estimate of the costs Lessor will Incur by reason of late payment by Lessee. Acceptance of such late charge by Lessor shall in no event constitute a waiver of Lessee's Default or Breach with respect to such overdue amount, nor prevent Lessor from exercising any of the other rights and remedies granted hereunder. 13.5 Breach by Lessor. Lessor shall not be deemed in breach of this Lease unless Lessor fails within a reasonable time to perform an obligation required to be performed by Lessor. For purposes of this Paragraph 13.5, a reasonable time shall in no event be less than thirty (30) days after receipt by Lessor, and by any Lender(s) whose name and address shall have been furnished to Lessee in writing for such purpose, of written notice specifying wherein such obligation of Lessor has not been performed; provided, however, that if the nature of Lessor's obligation is such that more than thirty (30) days after such notice are reasonably required for its performance, then Lessor shall not be in breach of this Lease if performance is commenced within such thirty (30) day period and thereafter diligently pursued to completion. Notwithstanding the foregoing, in the event of an "emergency situation" (as defined below) that Lessee believes is Lessor's obligation to cure or remedy pursuant to the terms hereof, Lessee shall make reasonable attempts to notify Lessor of such emergency situation, but Lessee shall not be required to wait for Lessor to respond to such emergency situation. In the event of an emergency situation, Lessee may undertake to cure such emergency situation and thereafter bill Lessor for the reasonable cost thereof. In the event that Lessor shall dispute that it was Lessor's obligation under this Lease to cure or remedy the emergency situation, the dispute, if not resolved by Lessor and Lessee through negotiation, shall, upon written notice from either party to the other, be submitted to arbitration under the commercial arbitration rules of the American Arbitration Association. If such dispute is arbitrated, the losing party in such dispute shall pay all the fees and costs of the American Arbitration Association in such arbitration, including without limitation, the fee for the arbitrator. As used herein, an "emergency situation" is any situation that poses a present danger of personal injury or property damage. 14. Condemnation. If the Premises or any portion thereof are taken under the power of eminent domain or sold under the threat of the exercise of said power (all of which are herein called "condemnation"), this Lease shall terminate as to the part so taken as of the date the condemning authority takes title or possession, whichever first occurs. If more than ten percent (10%) of the floor area of the Premises, or more than twenty-five percent (25%) of the portion of the Common Areas designated for Lessee's parking, is taken by condemnation, Lessee may, at Lessee's option, to be exercised in writing within ten (10) days after Lessor shall have given Lessee written notice of such taking (or in the absence of such notice, within ten (10) days after the condemning authority shall have taken possession) terminate this Lease as of the date the condemning authority takes such possession. If Lessee does not terminate this Lease in accordance with the foregoing, this Lease shall remain in full force and effect as to the portion of the Premises remaining, except that the Base Rent shall be reduced in the same proportion as the rentable floor area of the Premises taken bears to the total rentable floor area of the Premises. No reduction of Base Rent shall occur if the condemnation does not apply to any portion of the Premises. Any award for the taking of all or any part of the Premises under the power of eminent domain or any payment made under threat of the exercise of such power shall be the property of Lessor, whether (such award shall be made as compensation for diminution of value of the leasehold or for the taking of the fee, or as severance damages; provided, however, that Lessee shall be entitled to any compensation, separately awarded to Lessee for Lessee's relocation expenses and/or loss of Lessee's Trade Fixtures. In the event that this Lease is not terminated by reason of such condemnation, Lessor shall to the extent of its net severance damages received, over and above Lessee's Share of the legal and other expenses incurred by Lessor in the condemnation matter, repair any damage to the Premises caused by such condemnation authority, Lessee shall be responsible for the payment of any amount in excess of such net severance damages required to complete such repair. 15. Brokers'. 15.4 Representations and Warranties. Lessee and Lessor each represent and warrant to the other that it has had no dealings with any person, firm, broker or finder other than as named in Paragraph 1.10(a) in connection with the negotiation of this Lease and/or the consummation of the transaction contemplated hereby, and that no broker or other person, firm or entity other than said named Broker(s) is entitled to any commission or finder's fee in connection with said transaction, Lessee and Lessor do each hereby agree to indemnify, protect, defend and hold the other harmless from and against liability for compensation or charges which may be claimed by any such unnamed broker, finder or other similar party by reason of any dealings or actions of the indemnifying Party, including any costs, expenses, and/or attorneys' fees reasonably incurred with respect thereto. 16. Tenancy and Financial Statements. 16.1 Tenancy Statement. Each Party (as "Responding Party") shall within thirty (30) days after written notice from the other Party (the "Requesting Party") execute, acknowledge and deliver to the Requesting Party a statement in writing, acknowledging the commencement and termination dates of this Lease, that it is in full force and effect, has not been modified (or if it has, stating such modifications), stating the Base Rent and Additional Rent payable thereunder, plus such additional information, confirmation and/or statements as may be reasonably requested by the Requesting Party. 16.2 Financial Statement. If Lessor desires to finance, refinance, or sell the Premises or the Building, or any part thereof, Lessee and all Guarantors shall deliver to any potential lender or purchaser designated by Lessor either (i) if Lessee is then a publicly owned company, a copy of Lessee's most recent 10Q or 10K filing with the SEC, or (ii) if Lessee is then a company whose stock is not publicly traded, a copy of Lessee's audited financial statement for the preceding calendar year, or if available, more current audited financial statements. All such financial statements shall be received by Lessor and such lender or purchaser in confidence and shall be used only for the purposes herein set forth. 17. Lessor's Liability. The term "Lessor" as used herein shall mean the owner or owners at the time in question of the fee title to the Premises. In the event of a transfer of Lessor's title or interest in the Premises or in this Lease, Lessor shall deliver to the transferee or assignee (in cash or credit) any unused Security Deposit held by Lessor at the time of such transfer or assignment. Except as provided in Paragraph 15.3, upon such transfer or assignment and delivery of the Security Deposit, as aforesaid, and the assumption by such transferee or assignee from the date of such assignment or transfer of the landlord's obligations under this Lease, the prior Lessor shall be relieved of all liablity with respect to the obligations and/or covenants under this Lease thereafter to be performed by the Lessor. Subject to the foregoing, the obligations and/or covenants in this Lease to be performed by the Lessor shall be binding only upon the Lessor as hereinabove defined. 18. Severability. The invalidity of any provision of this Lease, as determined by a court of competent jurisdiction, shall in no way affect the validity of any other provision hereof. 19. Interest on Past-Due Obligations. Any monetary payment due Lessor or Lessee hereunder, other than late charges, not received by Lessor or Lessee within ten (10) days following the date on which it was due, shall bear interest from the date due at the prime rate charged by the largest state chartered bank in the state in which the Premises are located plus four percent (4%) per annum, but not exceeding the maximum rate allowed by law, in addition to the potential late charge provide for in Paragraph 13.4. 20. Time of Essence. Time is of the essence with respect to the performance of all obligations to be performed or observed by the Parties under this Lease. 21. Rent Defined. All monetary obligations of Lessee to Lessor under the terms of this Lease are deemed to be rent. 22. No Prior or other Agreements. This Lease contains all agreements between the Parties with respect to any matter mentioned herein, and no other prior or contemporaneous agreement or understanding shall be effective. 23. Notices. 23.1 Notice Requirements. All notices required or permitted by this Lease shall be in writing and may be delivered in person (by hand or by messenger or courier service) or may be sent by regular, certified or registered mail or U.S. Postal Service Express Mail, with postage prepaid, or by facsimile transmission during normal business hours, and shall be deemed sufficiently given if served in a manner specified in this Paragraph 23. The addresses noted adjacent to a Party's signature on this Lease shall be that Party's address for delivery or mailing of notice purposes. Either Party may by written notice to the other specify a different address for notice purposes, except that upon Lessee's taking possession of the Premises, the Premises shall constitute Lessee's address for the purpose of mailing or delivering notices to Lessee. A copy of all notices required or permitted to be given to Lessor hereunder shall be concurrently transmitted to such party or parties at such addresses as Lessor may from time to time hereafter designate by written notice to Lessee. 23.2 Date of Notice. Any notice sent by registered or certified mail, return receipt requested, shall be deemed given on the date of delivery shown on the receipt card, or if no delivery date is shown, the postmark thereon. If sent by regular mail, the notice shall be deemed given forty-eight (48) hours after the same is addressed as required herein and mailed with postage prepaid. Notice delivered by United States Express Mail or overnight courier that guarantees next day MULT-TENANT-MODIFIED NET (R) American Industrial Real Estate Association 1993 delivery shall be deemed given twenty-four (24) hours after delivery of the same to the United States Postal Service or courier. If any notice is transmitted by facsimile transmission or similar means, the same shall be deemed served or delivered upon telephone or facsimile confirmation of receipt of the transmission thereof, provided a copy is also delivered via delivery or mail. If notice is received on a Saturday or a Sunday or a legal holiday, it shall be deemed received on the next business day. 24. Waivers. No waiver by either party hereto of the Default or Breach of any term, covenant or condition hereof by the other party hereto shall be deemed a waiver of any other term covenant or condition hereof, or of any subsequent Default or Breach by such party of the same or any other term, covenant or condition hereof Either party's consent to, or approval of, any such act shall not be deemed to render unnecessary the obtaining of such party's consent to, or approval of, any subsequent or similar act by Lessee, or be construed as the basis of an estoppel to enforce the provision or provisions of this Lease requiring such consent. Regardless of Lessor's knowledge of a Default or Breach at the time of accepting rent, the acceptance of rent by Lessor shall not be a waiver of any Default or Breach by Lessee of any provision hereof. Any payment given Lessor by Lessee may be accepted by Lessor on account of moneys or damages due Lessor, notwithstanding any qualifying statements or conditions made by Lessee in connection therewith, which such statements and/or conditions shall be of no force or effect whatsoever unless specifically agreed to in writing by Lessor at or before the time of deposit of such payment. 25. Recording. Either Lessor or Lessee shall, upon request of the other, execute, acknowledge and deliver to the other a short form memorandum of this Lease for recording purposes. The Party requesting recordation shall be responsible for payment of any fees or taxes applicable thereto. 26. No Right To Holdover. Lessee has no right to retain possession of the Premises or any part thereof beyond the expiration or earlier termination of this Lease. In the event that Lessee holds over in violation of this Paragraph 26 then the Base Rent payable from and after the time of the expiration or earlier termination of this Lease shall be increased to one hundred twenty five percent (125%) of the Base Rent applicable during the month immediately preceding such expiration or earlier termination. Nothing contained herein shall be construed as a consent by Lessor to any holding over by Lessee. 27. Cumulative Remedies. No remedy or election hereunder shall be deemed exclusive but shall, wherever possible, be cumulative with all other remedies law or in equity. 28. Covenants and Conditions. All provisions of this Lease to be observed or performed by Lessee are both covenants and conditions. 29. Binding Effect; Choice of Law. This Lease shall be binding upon the Parties, their personal representatives, successors and assigns and be governed by the laws of the State in which the Premises are located. Any litigation between the Parties hereto concerning this Lease shall be initiated in the county in which the Premises are located. 30. Subordination; Attornment; Non-Disturbance. 30.1 Subordination. This Lease and any Option granted hereby shall be subject and subordinate to any ground lease, mortgage, deed of trust, or other hypothecation or security device (collectively, "Security Device"), now or hereafter placed by Lessor upon the real property of which the Premises are a part, to any and all advances made on the security thereof, and to all renewals, modifications, consolidations, replacements and extensions thereof. Lessee agrees that the Lenders holding any such Security Device shall have no duty, liability or obligation to perform any of the obligations of Lessor under this Lease, but that in the event of Lessor's default with respect to any such obligation, Lessee will give any Lender whose name and address have been furnished Lessee in writing for such purpose notice of Lessor's default pursuant to Paragraph 13.5. If any Lender shall elect to have this Lease and/or any Option granted hereby superior to the lien of its Security Device and shall give written notice thereof to Lessee, this Lease and such Options shall be deemed prior to such Security Device, notwithstanding the relative dates of the documentation or recordation thereof. 30.2 Attornment. Subject to the non-disturbance provision of Paragraph 30.3, Lessee agrees to attorn to a Lender or any other party who acquires ownership of the Premises by reason of a foreclosure of a Security Device, and that in the event of such foreclosure, such new owner shall not: (I) be liable for any act or omission of any prior lessor or with respect to events occurring prior to acquisition of ownership, (II) be subject to any offsets or defenses which Lessee might have against any prior lessor, or (III) be bound by prepayment of more than one month's rent. 30.3 Non-Disturbance. With respect to Security Devices currently encumbering the Premises, it is acknowledged and agreed between the parties hereto that The Prudential Insurance Company of America ("Prudential") is currently the beneficiary under a deed of trust encumbering the Premise, and that Lessor has requested that Prudential enter into a non-disturbance agreement with Lessee with respect to this Lease. With respect to any Security Devices entered into by Lessor after the execution of this lease, Lessee's subordination of this Lease shall be subject to receiving assurance (a "non-disturbance agreement") from the Lender in a commercially reasonable form, that Lessee's possession and this Lease, including any options to extend the term hereof, will not be disturbed so long as Lessee is not in Breach hereof and attorns to the record owner of the Premises. With respect to the Security Device currently encumbering the Premises in favor Prudential, Lessor shall deliver to Lessee, prior to the parties' full execution and delivery of this Lease, a non- disturbance agreement in favor of Lessee, in the form attached hereto as Exhibit E, executed and acknowledged by Purdential. In the event Lessor does not deliver to Lessee such executed and acknowledged non-disturbance agreement within thirty (30) days following the Early Possession Date, Lessee shall have the right to terminate this Lease, exercisable within ten (10) days thereafter upon ten (10) days written notice to Lessor, which termination shall be effective if Lessor does not provide Lessee with the executed and acknowledged non-distrubance agreement within such ten (10) day period. In the event that Lessee shall elect to so terminate this Lease, (i) Lessee shall remove, at its sole cost and expense, all Improvements (as defined in Exhibit C hereto) constructed by Lessee to the date of such termination and restore the Premises to the condition existing prior to such construction, and (ii) Lessor, notwithstanding anything to the contrary contained in this Lease, shall have no obligation to partially or totally reimburse Lessee for the cost of constructing any Improvements. 30.4 Self-Executing. The agreements contained in this Paragraph 30 shall be effective without the execution of any further documents; provided, however, that upon written request from Lessor or a Lender in connection with a sale, financing or refinancing of Premises, Lessee and Lessor shall execute such further writings as may be reasonably required to separately document any such subordination or non-subordination, attornment and/or non-disturbance agreement as is provided for herein. 31. Attorneys' Fees. If any Party brings an action or proceeding to enforce the terms hereof or declare rights hereunder, the Prevailing Party (as hereafter defined) in any such proceeding, action, or appeal thereon, shall be entitled to reasonable attorneys' fees. Such fees may be awarded in the same suit or recovered in a separate suit, whether or not such action or proceeding is pursued to decision or judgment. The term "Prevailing Party" shall include, without limitation, a Party who substantially obtains or defeats the relief sought, as the case may be, whether by compromise, settlement, judgment, or the abandonment by the other Party of its claim or defense. The attorneys' fee award shall not be computed in accordance with any court fee schedule, but shall be such as to fully reimburse all attorneys' fees reasonably incurred. 32. Lessor's Access; Showing Premises; Repairs. Lessor and Lessor's agents shall have the right to enter the Premises at any time in the case of an emergency, and otherwise at reasonable times upon reasonable advance notice to Lessee at the Premises, for the purpose of showing the same to prospective, purchasers, lenders, or lessees (provided, however, with respect to showing the Premises to proposed lessees, such inspection shall only take place during the last one hundred eighty (180) days of the term hereof) and making such alterations, repairs, improvements or additions to the Premises or to the Building, as Lessor may reasonably deem necessary. Lessor may at any time place on or about the Premises or Building any ordinary "For Sale" signs and Lessor may at any time during the last one hundred eighty (180) days of the term hereof place on or about the Premises any ordinary "For Lease" signs. All such activities of Lessor shall be without abatement of rent or liability to Lessee; provided that Lessor shall use commercially reasonable efforts not to materially and adversely affect Lessee's use and occupation of the Premises as a result of such entry by Lessor, but Lessor shall not be obligated to expend any additional sums beyond what Lessor would otherwise pay in performing any alterations, repairs, replacements or improvements to the Premises in order not to affect Lessee's use and occupation of the Premises. 33. Auctions. Lessee shall not conduct, nor permit to be conducted, either voluntarily or involuntarily, any auction upon the Premises without first having obtained Lessor's prior written consent. Notwithstanding anything to the contrary in this Lease, Lessor shall not be obligated to exercise any standard of reasonableness in determining whether to grant such consent. 34. Signs. Lessee shall not place any sign upon the exterior of the Premises or the Building, except that Lessee may, with Lessor's prior written consent, install (but not on the roof) such signs as are reasonably required to advertise Lessee's own business so long as such signs are in a location designated by Lessor and comply with Applicable Requirements and the signage criteria established for the Industrial Center by Lessor. The installation of any sign on the Premises by or for Lessee shall be subject to the provisions of Paragraph 7 (Maintenance, Repairs, Utility Installations, Trade Fixtures and Alterations). Unless otherwise expressly agreed herein, Lessor reserves all rights to the use of the roof of the Building; provided, however, that Lessee shall be entitled to install or place all items on or through the roof as are shown on Final Plans for the Improvements, as specified in Exhibit C hereto. 35. Termination; Merger. Unless specifically stated otherwise in writing by Lessor, the voluntary or other surrender of this Lease by Lessee, the mutual termination or cancellation hereof, or a termination hereof by Lessor for Breach by Lessee, shall automatically terminate any sublease or lesser estate in the Premises; provided, however, Lessor shall, in the event of any such surrender, termination or cancellation, have the option to continue any one or all of any existing subtenancies. Lessor's failure within ten (10) days following any such event to make a written election to the contrary by written notice to the holder of any such lesser interest, shall constitute Lessor's election to have such event constitute the termination of such interest. 35. Consents. (a) Except for Paragraph 33 hereof (Auctions) or as otherwise provided herein, wherever in this Lease the consent of a Party is required to an act by or for the other Party, such consent shall not be unreasonably withheld or delayed. Lessor's actual reasonable costs and expenses (including but not limited to architects', attorneys', engineers' and other consultants' fees) incurred in the consideration of, or response to, a request by Lessee for any Lessor consent pertaining to this Lease or the Premises, including but not limited to consents to an assignment & subletting or the presence or use of a Hazardous Substance, shall be paid by Lessee to Lessor upon receipt of an invoice and supporting documentation therefor. Lessor's consent to any act, assignment of this Lease or subletting of the Premises by Lessee shall not constitute an acknowledgment that no Default or Breach by Lessee of this Lease exists, nor shall such consent be deemed a waiver of any then existing Default or Breach, except as may be otherwise specifically stated in writing by Lessor at the time of such consent. (b) All conditions to Lessor's consent authorized by this Lease are acknowledged by Lessee as being reasonable. The failure to specify herein any particular condition to Lessor's consent shall not preclude the impositions by Lessor at the time of consent of such further or other conditions as are then reasonable with reference to the particular matter for which consent is being given. See Addendum 38. Quiet Possession. Upon payment by Lessee of the rent for the Premises and the performance of all of the covenants, conditions and provisions on Lessee's part to be observed and performed under this Lease, Lessee shall have quiet possession of the Premises for the entire term hereof subject to all of the provisions of this Lease. 40. Rules and Regulations. Lessee agrees that it will abide by, and keep and observe all reasonable rules and regulations ("Rules and Regulations") which Lessor may make from time to time for the management, safety, care, and cleanliness of the grounds, the parking and unloading of vehicles and the preservation of good order, as well as for the convenience of other occupants or tenants of the Building and the Industrial Center and their invitees. Lessor's current Rules and Regulations are attached hereto as Exhibit D. 41. Security Measures. Lessee hereby acknowledges that the rental payable to Lessor hereunder does not include the cost of guard service or other security measures, and that Lessor shall have no obligation whatsoever to provide same. Lessee assumes all responsibility for the protection of the Premises, Lessee, its agents and invitees and their property from the acts of third parties. 42. Reservations, Lessor reserves the right, from time to time, to grant, without the consent or joinder of Lessee, such easements, rights of way, utility raceways, and dedications that Lessor deems necessary, and to cause the recordation of parcel maps and restrictions, so long as such easements, rights of way, utility raceways, dedications, maps and restrictions do not reasonably interfere with the use of the Premises by Lessee. Lessee agrees to sign any documents reasonably requested by Lessor to effectuate any such easement rights, dedication, map or restrictions. Lessor shall reimburse Lessee for Lessee's actual and reasonable attorneys' fees and cost incurred in connection with Lessee's review of any such documents, not to exceed the sum of Fifteen Hundred Dollars ($1,500.00), upon receipt of bills or invoices evidencing such expenditure by Lessee. 43. Performance Under Protest. If at any time a dispute shall arise as to any amount or sum of money to be paid by one Party to the other under the provisions hereof, the Party against whom the obligation to pay the money is asserted shall have the right to make payment "under protest" and such payment shall not be regarded as a voluntary payment and there shall survive the right on the part of said Party to institute suit for recovery of such sum. If it shall be adjudged that there was no legal obligation on the part of said Party to pay such sum or any part thereof, said Party shall be entitled to recover such sum or so much thereof as it was not legally required to pay under the provisions of this Lease. 44. Authority. If either Party hereto is a corporation, trust, or general or limited partnership, each individual executing this Lease on behalf of such entity represents and warrants that he or she is duly authorized to execute and deliver this Lease on its behalf. If Lessee is a corporation, trust or partnership, Lessee shall, within thirty (30) days after request by Lessor, deliver to Lessor evidence satisfactory to Lessor of such authority. 45. Conflict. Any conflict between the printed provisions of this Lease and the typewritten or handwritten provisions shall be controlled by the typewritten or handwritten provisions. 46. Offer. Preparation of this Lease by either Lessor or Lessee or Lessor's agent or Lessee's agent and submission of same to Lessee or Lessor shall not be deemed an offer to lease. This Lease is not intended to be binding until executed and delivered by all Parties hereto. 47. Amendments. This Lease may be modified only in writing, signed by the parties in interest at the time of the modification. The Parties shall amend this Lease from time to time to reflect any adjustments that are made to the Base Rent or other rent payable under this Lease. As long as they do not materially change. Lessee's obligations hereunder, Lessee agrees to make such reasonable non-monetary modifications to this Lease as may be reasonably required by an institutional insurance company or pension plan Lender in connection with the obtaining of normal financing or refinancing of the property of which the Premises are a part. 48. Multiple Parties. Except as otherwise expressly provided herein, if more than one person or entity is named herein as either Lessor or Lessee, the obligations of such multiple parties shall be the joint and several responsibility of all persons or entities named herein as such Lessor or Lessee. See Addendum -10- LESSOR AND LESSEE HAVE CAREFULLY READ AND REVIEWED THIS LEASE AND EACH TERM AND PROVISION CONTAINED HEREIN, AND BY THE EXECUTION OF THIS LEASE SHOW THEIR INFORMED AND VOLUNTARY CONSENT THERETO, THE PARTIES HEREBY AGREE THAT, AT THE TIME THIS LEASE IS EXECUTED, THE TERMS OF THIS LEASE ARE COMMERCIALLY REASONABLE AND EFFECTUATE THE INTENT AND PURPOSE OF LESSOR AND LESSEE WITH RESPECT TO THE PREMISES. IF THIS LEASE HAS BEEN FILLED IN, IT HAS BEEN PREPARED FOR YOUR ATTORNEY'S REVIEW AND APPROVAL. FURTHER, EXPERTS SHOULD BE CONSULTED TO EVALUATE THE CONDITION OF THE PROPERTY FOR THE POSSIBLE PRESENCE OF ASBESTOS, UNDERGROUND STORAGE TANKS OR HAZARDOUS SUBSTANCES. NO REPRESENTATION OR RECOMMENDATION IS MADE BY THE AMERICAN INDUSTRIAL REAL ESTATE ASSOCIATION OR BY THE REAL ESTATE BROKERS OR THEIR CONTRACTORS, AGENTS OR EMPLOYEES AS TO THE LEGAL SUFFICIENCY, LEGAL EFFECT, OR TAX CONSEQUENCES OF THIS LEASE OR THE TRANSACTION TO WHICH IT RELATES; THE PARTIES SHALL RELY SOLELY UPON THE ADVICE OF THEIR OWN COUNSEL AS TO THE LEGAL AND TAX CONSEQUENCES OF THIS LEASE. IF THE SUBJECT PROPERTY IS IN A STATE OTHER THAN CALIFORNIA, AN ATTORNEY FROM THE STATE WHERE THE PROPERTY IS LOCATED SHOULD BE CONSULTED. The parties hereto have executed this Lease at the place and on the dates specified above their respective signatures. Executed at: Lafayette CA Executed at: Chatsworth, California ------------------------- ------------------------- on: 11/27/96 on: 11/26/96 ---------------------------------- ---------------------------------- By LESSOR: By LESSEE: BEDFORD PROPERTY INVESTORS, INC., LESLIE'S POOLMART (INC.), - -------------------------------------- ------------------------------------- a Maryland corporation a California corporation - -------------------------------------- ------------------------------------- By: /s/ Jim Moore By: /s/ Brian McDermott ----------------------------------- ---------------------------------- Name Printed: Jim Moore Name Printed: Brian McDermott ------------------------- ------------------------ Title: VP Mgr Title: CEO & President -------------------------------- ------------------------------- By: By: /s/ Cynthia G. Watts ----------------------------------- ---------------------------------- Name Printed: Name Printed: Cynthia G. Watts ------------------------- ------------------------ Title: Title: VP & Secretary -------------------------------- ------------------------------- Address: Address: ------------------------------ ----------------------------- - -------------------------------------- ------------------------------------- Telephone:( ) Telephone:(818) 993-4212 ----------------------- ----------------------- Facsimile:( ) Facsimile:(818) 885-0292 ----------------------- ----------------------- NOTE: These forms are often modified to meet changing requirements of law and needs of industry. Always write or call to make sure you are utilizing the most current form: AMERICAN INDUSTRIAL REAL ESTATE ASSOCIATION, 700 South Flower Street, Suite 600, Los Angeles, CA 90017. (213) 687-8777. (C)1993 by American Industrial Real Estate Association. All rights reserved. No part of these words may be reproduced in any form without permission in writing. -11- ADDENDUM TO LEASE DATED NOVEMBER , 1996 ---------------- BETWEEN BEDFORD PROPERTY INVESTORS, INC., a Maryland corporation ("LESSOR") AND LESLIE'S POOLMART (INC), a California corporation ("LESSEE") ------------------------------------------------- FOR PREMISES GENERALLY LOCATED AT 1595 DUPONT AVENUE, ONTARIO, CALIFORNIA ---------------------------- This Addendum is intended to supplement, but not supersede (unless specifically so stated), the provisions of the Lease described above (the "Lease"), and the provisions hereof are hereby incorporated into the Lease. Any capitalized term is hereby given the same meaning as set forth in the Lease. In the event of any conflict between any provision of this Addendum and any provision of the Lease, the provision of this Addendum shall control. 1. The following is hereby added to Section 1.3, Term: Term. The "Original Term" shall commence on the earlier to occur of (i) the ---- date that Lessee substantially completes the Improvements (as defined in Exhibit C hereto) such that Lessee can utilize the Premises for Lessee's intended use, notwithstanding minor incomplete or defective items that do not materially prevent Lessee from utilizing the Premises, or (ii) subject to "Force Majeure" (as defined below), eight (8) weeks following the Early Possession Date (the "Commencement Date"), and shall continue for One --- Hundred Twenty (120) months, plus any partial month at the beginning of the -------------------- term if the Commencement Date is other than the first day of a calendar month (the "Expiration Date.") Notwithstanding the foregoing, Lessor and Lessee acknowledge and agree that both Lessor and Lessee shall have a right to terminate this Lease pursuant to and in accordance with the terms and conditions set forth in Section 5 of Exhibit C hereto. Within thirty (30) days following the Commencement Date, Lessee shall execute and deliver to Lessor a written acknowledgment of the Commencement Date in the form attached hereto as Exhibit "B" and incorporated herein by this reference. In the event that the Commencement Date is delayed because (i) Lessor has agreed to perform the Compliance Obligations (as defined in Section 5.B. of Exhibit C), or (ii) of Force Majeure, the Commencement Date shall be delayed one day for each day that Lessor's performance of the Compliance Obligations within the Premises, or Force Majeure, delays the Commencement Date. Lessee shall notify Lessor in writing in the event that a Force Majeure occurrence arises that will likely delay the Commencement Date beyond eight (8) weeks following the Early Possession Date. In the event that Force Majeure delays the Commencement Date beyond eight (8) weeks following the Early Possession Date, but Lessee is utilizing all or a portion of the Premises for its business operations from and after eight (8) weeks following the Early Possession Date, Lessee shall pay to Lessor a proportionate share of the Base Rent and Additional Rent payable by Lessee hereunder, based upon the portion of the Premises being utilized by Lessee. As used herein, the term "Forces Majeure" shall mean any delay resulting from or caused by an Act of God, fire, earthquake, flood, explosion, action of the elements, war, invasion, insurrection, riot, mob violence, sabotage, malicious mischief, inability to procure or general shortage of labor, equipment, facilities, materials, or supplies in the open market, failure of transportation, strike, lockout, action of labor unions, litigation not within the reasonable control of Lessee, condemnation, requisition, law, order or regulation of government or civil, military or naval authority, or any other cause (excluding financial inability) whether similar or dissimilar to the foregoing not within the reasonable control of Lessee. 2. The following is hereby added to Section 1.4, Early Possession: Early Possession. Lessor shall deliver possession of the Premises to Lessee ---------------- on or before three (3) business days following the full execution of this Lease (the "Early Possession Date.") 3. The following is hereby added to Section 1.5, Base Rent: Months 1 through 2: $-0- Months 3 through 60: $43,978.00 Months 61 through 90: $47,643.00 Month 91: $-0- Months 92 through 120: $51,308.00 Notwithstanding the foregoing, Lessor and Lessee agree that, in the event that Lessee completes the contemplated Management Buyout (as defined in Paragraph 3 on Page 6A of the Lease), Base Rent in the amount of $43,978.00 per month shall be payable during months 1 and 2 of the term hereof, and no Base Rent shall be due from Lessee to Lessor for months 36 and 48 of the Lease term. In the event that the Management Buyout has not occurred prior to the Commencement Date, and thereafter the Management Buyout occurs, Lessee shall (i) provide written notice to Lessor that the Management Buyout has occurred within five (5) business days following the completion thereof, and (ii) pay to Lessor, with the next installment of Base Rent becoming due under the Lease, all Base Rent for months 1 and/or 2 of the term hereof not previously paid to Lessor by Lessee. 4. The following is hereby added to Section 1.6(b), Lessee's Share of Common Area Operating Expenses: A. Notwithstanding anything to the contrary contained herein, "Lessee's Share" of (i) Common Area Operating Expenses and (ii) expenses reimbursable to Lessor by Lessee pursuant to Section 7.2 of the Lease (collectively, the "Reimbursable Costs") shall be (a) Forty and 6/10 Percent (40.6%), based upon the square footage of the Premises (not including the square footage of the Truck Parking Area) as compared to the square footage of the Industrial Center available for lease, with respect to those Reimbursable Costs identified below as applicable to the Industrial Center, and (b) one hundred percent (100%) with respect to those Reimbursable Costs identified below as applicable to the Building. B. Those categories of Reimbursable Costs applicable to the Industrial Center include Real Property Taxes, insurance premiums payable by Lessor, property association dues and fees payable by Lessor in connection with the recorded covenants, conditions and restrictions for California Commerce Center, miscellaneous cleaning of Common Area facilities, including without limitation, windows, walls, sidewalks, landscaping and parking lots that are part of Common Areas, miscellaneous repair and maintenance of electrical facilities and service serving the Common Areas, including without limitation, replacement of exterior lights, miscellaneous repair and maintenance of plumbing facilities and service serving the Common Areas, miscellaneous repair and maintenance of doors (excluding roll-up doors), painting of the Industrial Center, the cost of providing water, gas, and electricity for Common Area facilities, the cost of maintaining, repairing and replacing landscaping in the Industrial Center, the cost of maintaining, repairing and replacing the parking lots, paved or concreted areas and walkways within the Industrial Center, the cost of any capital improvements or replacements made to the Common Areas, and any other costs or expenses incurred by Lessor in the operation and maintenance of the Common Areas which are not part of the Reimbursable Costs applicable to the Building. C. Those categories of Reimbursable Costs applicable to the Building include sprinkler monitoring costs for the Building, including without limitation, all testing costs, inspection costs, telephone and monitoring charges and repair or replacement costs, the cost of repairing or replacing the roof on the Building, the cost of repairing or replacing the heating, ventilating and air conditioning system serving the Building, the cost of repairing or replacing the electrical service and meters serving the Building, the cost of repairing the water and sewer service and meters to the Building, the cost of maintaining, repairing and replacing the Truck Parking Area, the cost of any capital improvements or replacements made to the Building and Truck Parking Area, and any other costs or expenses incurred by Lessor in the operation and maintenance of the Building or Truck Parking Area which are not part of the Reimbursable Costs applicable to the Common Areas. D. Notwithstanding anything to the contrary set forth above, with respect to Reimbursable Costs that constitute replacements of equipment and improvements which Lessor is required to perform pursuant to the terms of this Lease, and any other replacements or improvements which Lessor determines to be reasonably necessary to the operation of the Industrial Center, or which are mandated or required by applicable law, ordinance or code, shall hereinafter be known as "Capital Costs." Certain Capital Costs shall be reimbursed by Lessee to Lessor hereunder as part of Reimbursable Costs each year, only to the extent of that fraction allocable to the year in question. Lessee shall reimburse Lessor each year for that portion of the Capital Cost determined by taking (i) the total Capital Cost amount incurred by Lessor, with interest on such Capital Cost amount at a rate equal to ten percent (10%) per annum over the commercially reasonable useful life of the improvement for which such Capital Cost was incurred, and (ii) multiplying such amount by a fraction, the numerator of which is the then remaining term of this Lease (or if Lessee elects to extend the term hereof, by such extended term or the remainder thereof), and the denominator of which is the commercially reasonable useful life of the improvement for which such Capital Cost was incurred. The Capital Costs subject to such amortization procedure are restricted to the following two categories: (a) those costs for capital improvements to the Industrial Center or the Building of a type which do not normally recur more frequently than every five (5) years in the normal course of operation and maintenance of facilities such as the Industrial Center or the Building (specifically excluding painting of all or a portion of the Industrial Center or Building); and (b) costs incurred for the purpose of reducing other operating expenses or utility costs, from which Lessee can expect a reasonable benefit, or that are required by governmental law, ordinance, regulation or mandate, not applicable to the Industrial Center or Building at the time of the original construction. E. With respect to Capital Costs incurred solely for the purpose of reducing other operating expenses or utility costs, from which Lessee can expect a reasonable benefit, Lessor shall obtain Lessee's prior written consent to the incurring of such Capital Costs by Lessor, which consent shall not be unreasonably withheld or delayed. Lessee shall approve or disapprove Lessor's request to incur such Capital Costs within five (5) business days of Lessee's receipt of written notice from Lessor that it desires to incur such Capital Costs, which notice from Lessor shall describe with reasonable specificity the nature and extent of the Capital Costs proposed to be incurred. In the event that Lessee shall disapprove of Lessor's incurring of such Capital Costs, Lessee's written disapproval shall include the specific reasons for Lessee's disapproval. F. With respect to Capital Costs incurrred for the purpose of seismically upgrading or retro-fitting the Building and which is required by governmental mandate or ordinance, Lessor and Lessee agree that the commercially reasonable useful life of such improvements shall be a period of thirty (30) years. With respect to Capital Costs incurred for the purpose of re-roofing the Building, Lessor and Lessee agree that the commercially reasonable useful life of such roof shall be a period of (i) ten (10) years, if Lessor determines to put a three-ply roof on the Building, or (ii) twenty (20) years, if Lessor determines to put a four-ply roof on the Building. G. Lessor and Lessee acknowledge that the water pressure currently provided by the local water utility company is sufficient for Lessee's use and for the fire protection system servicing the Premises. In the event that, in the future, the water pressure provided by the local water utility company reasonably becomes insufficient for Lessee's use and the fire protection system serving the Premises, Lessor agrees, as Reimbursable Cost applicable to the Building, to install an ancillary water pump to provide water pressure reasonably sufficient for Lessee's use and for the fire protection system serving the Premises. The cost of such pump shall be deemed to be a Capital Cost, amortized in accordance with the provisions set forth above in subsection D. 5. The following is hereby added to Section 1.8, Permitted Use: Use. The Premises shall be used solely for general warehouse use and --- distribution, storage, packaging, service and repair of products, for the forming of granular chlorine into tablets, the packaging of chlorine into Department of Transportation ("DOT") approved consumer sized containers, the repackaging of granular chemicals (including chlorine compounds) into DOT approved consumer sized containers, the mixing, dilution and packaging of liquid pool products and for any other uses which are incidental or reasonably related thereto, and for no other purpose." 6. The following is hereby added as new Section 4.2(e): Also included within the definition of Common Area Operating Expenses shall be a yearly management fee paid Lessor for the operation and management of the Industrial Center, which in no event shall exceed ten percent (10%) of the sum of (i) Common Area Operating Expenses of the Building and/or the Industrial Center, as applicable (not including Real Property Taxes), which are payable by Lessee hereunder, plus (ii) those costs incurred by Lessor pursuant to Section 7.2 of the Lease which are applicable to the Building and/or the Industrial Center and which are payable by Lessee hereunder. The aforementioned management fee is the only management or administrative fee charged to Lessee by Lessor in connection with its management and operation of the Premises and the Industrial Center. 7. The following is hereby added to Section 8.2(a) where indicated: "ONE MILLION DOLLARS ($1,000,000.00) per occurrence with a ONE MILLION DOLLAR ($1,000,000.00) annual aggregate and an umbrella policy of FIVE MILLION DOLLARS ($5,000,000.00) any occurrence," 8. The following is hereby added as new Section 9 where indicated: A. Rights of Termination. In the event the Premises suffers (a) an --------------------- "uninsured property loss" (as hereinafter defined) or (b) a property loss which cannot be repaired within two hundred seventy (270) days from the date of destruction under the laws and regulations of state, federal, county or municipal authorities, or other authorities with jurisdiction, Lessor may terminate this Lease as at the date of the damage upon written notice to Lessee following the casualty. In the event of property loss to the Premises which cannot be repaired within two hundred seventy (270) days of the occurrence thereof, Lessee shall have the right to terminate the Lease by written notice to Lessor within thirty (30) days following notice from Lessor that the time for restoration shall exceed two hundred seventy (270) days. Lessor shall deliver such notice to Lessee within forty-five (45) days following the date of such damage or destruction. For purposes of this Lease, the term "uninsured property loss" shall mean any loss arising from a peril not covered by the standard form of "All Risk" property insurance policy, or not covered by Lessor's policy of earthquake insurance, including any deductible related thereto (subject to the provisions of Subsection B, below.) B. Earthquake Damage. Subject to Subparagraph A, above, in the event ----------------- of any earthquake damage to the Premises (not including Lessee's Special Improvements or Lessee-Owned Alterations or Utility Installations, for which Lessee shall be solely responsible) which is not covered by Lessor's policy of earthquake insurance, including any deductible related thereto, and which costs less than Fifty Thousand Dollars (50,000.00) to repair, Lessor shall be obligated to make such repairs at its sole cost and expense. Subject to Subparagraph A, above, in the event of any earthquake damage to the Premises which is not covered by Lessor's policy of earthquake insurance, including any deductible related thereto, and which costs in excess of Fifty Thousand Dollars (50,000.00) to repair, Lessor shall have no obligation to make such repairs, and may elect to terminate this Lease pursuant to Subsection A, above, unless agrees in writing, within thirty (30) days following receipt of notice from Lessor that the cost to repair is reasonably estimated by Lessor to exceed the sum of Fifty Thousand Dollars (50,000.00), to the "Capitalization Procedure" (as described below.) In the event that Lessee timely and properly notifies Lessor that it agrees to the Capitalization Procedure, Lessor shall have no right to terminate this Lease as a result of such earthquake damage, and shall commence to repair all such damage as soon as reasonably possible and thereafter to diligently prosecute such repairs to completion. In the event that Lessee timely and properly notifies Lessor that it agrees to the Capitalization Procedure, all costs of repairing such earthquake damage in excess of Fifty Thousand Dollars (50,000.00) shall be treated as a Capital Cost, as specified in Paragraph 4 of this Addendum, recoverable from Lessee in accordance therewith, with the reasonable useful life of such repairs being agreed between Lessor and Lessee to be thirty (30) years (the "Capitalization Procedure.") C. Repairs. In the event of a property loss which may be repaired ------- within two hundred seventy (270) days from date of the damage, or, in the alternative, in the event the parties do not elect to terminate this Lease under the terms set forth above, then this Lease shall continue in full force and effect and Lessor shall forthwith undertake to make such repairs to reconstitute the Premises to as near the condition as existed prior to the property loss as practicable. Such partial destruction shall in no way annul or void this Lease except that Lessee shall be entitled to a proportionate reduction of Base Rent and Additional Rent following the property loss and until the time the Premises are restored. Such reduction shall be an amount which reflects the degree of interference with Lessee's business. So long as Lessee conducts its business in the Premises, there shall be no abatement until the parties agree on the amount thereof. If the parties cannot agree with forty five (45) days of property loss, the matter shall be submitted to arbitration under the commercial arbitration rules of the American Arbitration Association. Upon the resolution of the dispute, the settlement shall be retroactive and Lessor shall within ten (10) days thereafter refund to Lessee any sums due in respect of the reduced rental from the date of the property loss. If such dispute is arbitrated, the losing party in such dispute shall pay all the fees and cost of the American Arbitration Association in such arbitration, including without limitation the fee for the arbitrator. Lessor's obligations to restore shall in no way include any construction originally performed by Lessee or subsequently undertaken by Lessee, including without limitation Lessee's Special Improvements (as defined in Exhibit C hereto) and any Lessee-Owned Alterations and/or Utility Installations, but shall include solely that property constructed by Lessor prior to commencement of the Term hereof. D. Repair Costs. The cost of any repairs to be made by Lessor, pursuant to ------------ this Section 9 of this Lease (specifically excluding Subparagraph B, above), shall be paid by Lessor utilizing available insurance proceeds. In no event shall Lessor be required to expend in restoration of the Premises more than it receives from Lessor's property insurance policies. E. Total Destruction. Total destruction of the Premises shall teminiate ----------------- this Lease. F. Waiver. Lessee hereby waives all statutory or common law rights of ------ termination in respect to any partial destruction or property loss which Lessor is obligated to repair or may elect to repair under the terms of this Article. Further, in event of a property loss to the Premises which costs in excess of Two Hundred Thousand Dollars ($200,000.00) to repair and occurring during the last two (2) years of the original term hereof or of any extension, Lessor need not undertake any repairs and may cancel this Lease unless Lessee has the right under the terms of this Lease to extend the term for an additional period of at least five (5) years and does so within thirty (30) days following the date of the property loss. In event of a property loss to the Premises during the last twelve (12) months of the original term hereof or of any extension thereof, which will take in excess of one hundred eighty (180) days to repair or restore, either Lessor or Lessee may elect to terminate this Lease upon written notice to the other. 9. The following is hereby added as new Section 12.4: A. "In addition to any other conditions to Lessor's consent to a proposed or sublet of all or a portion of the Premises contained herein, Lessor and Lessee agree that should Lessor withhold its consent for any of the following reasons, which list is not exclusive, such withholding shall be deemed to be reasonable: (1) The tangible net worth of the proposed assignee or sublessee of all of the Premises is not at least equal to Thirty Million Dollars (provided, however, that the foregoing requirement shall not apply to a sublease of less than all of the Premises); (2) A proposed transferee whose occupation of the Premises would cause a diminution in the reputation of the Industrial Center or the other businesses located therein; (3) A proposed transferee whose impact on the Premises, the common facilities or the other occupants of the Industrial Center would be in excess of the impact caused by Lessee; or (4) A proposed transferee whose occupancy will require a variation in the terms of the Lease. B. Procedure for Obtaining Consent. Lessor need not commence its review of ------------------------------- any proposed assignment or sublet, or respond to any request by Lessee with respect to such, unless and until it has received from Lessee reasonably adequate descriptive information concerning the business to be conducted by the proposed transferee, the transferee's financial capacity, and such other information as may reasonably be required in order to form a prudent judgment as to the acceptability of the proposed assignment or sublet, including, without limitation, the following: (1) The past two years' Federal Income Tax returns of the proposed transferee (or in the alternative the past two years' audited annual Balance Sheets and Profit and Loss statements, certified correct by a Certified Public Accountant); (2) Banking references of the proposed transferee; and (3) A resume of the business background and experience of the proposed transferee. Lessee shall reimburse Lessor as additional rent for Lessor's reasonable costs and attorneys' fees incurred in conjunction with the processing and documentation of any proposed Transfer of the Premises, whether or not consent is granted, provided that the same shall not exceed Fifteen Hundred Dollars ($1500.00) per transaction. Lessor shall approve or disapprove of Lessee's request for consent to a Transfer within five (5) business days of Lessor's receipt of all of the above referenced information from Lessee. C. Recapture. By written notice to Lessee (the "Termination Notice") --------- within five (5) business days following submission to Lessor by Lessee of the information specified above, Lessor may terminate this Lease in the event of a proposed assignment of this Lease or sublet of the entire Premises. D. Effect of Transfer. If Lessor consents to a proposed assignment or ------------------ sublet, the following conditions shall apply: (1) Each and every covenant, condition or obligation imposed upon Lessee by this Lease and each and every right, remedy or benefit afforded Lessor by this Lease shall not be impaired or diminished as a result of such assignment or sublet. (2) On a monthly basis, any sums of money, or other economic consideration received by Lessee from the transferee in such month (whether or not for a period longer than one month), including higher rent, bonuses, key money, or the like which exceed, in the aggregate, the total sums which Lessee pays Lessor under this Lease in such month, or the prorated portion thereof if the premises transferred is less than the entire Premises, shall be payable fifty percent (50%) to Lessor and fifty percent (50%) to Lessee, and Lessor's share shall be paid with Lessee's payment of Base Rent after deduction of the reasonable out-of-pocket costs incurred by Lessee for (i) any space planning, architectural or design fees or expenses incurred in connection with such assignment or sublease, (ii) any improvement allowance or other monetary consideration provided to the transferee by Lessee, (iii) reasonable legal fees incurred in connection with such assignment or sublease, (iv) costs of advertising the Premises or portion thereof which is the subject of the assignment or sublease (hereinafter, the "Transfer Costs"), pursuant to the following procedure:the Transfer Costs shall be amortized on a monthly straight line basis over the term of the assignment or sublease, and only that amortized portion of the Transfer Costs applicable to each month of the term of the assignment or sublease shall be deducted from the payment hereinabove specified to be made by Lessee to Lessor. (3) Subject to the provisions of Paragraph F, below, no Transfer, whether or not consent of Lessor is required hereunder, shall relieve Lessee of its primary obligation to pay the rent and to perform all other obligations to be performed by Lessee hereunder. The acceptance of rent by Lessor from any person shall not be deemed to be a waiver by Lessor of any provision of this Lease or to be a consent to any assignment or sublet of the Premises. (4) If Lessor consents to a sublease, such sublease shall not extend beyond the expiration of the term of this Lease. (5) No proposed assignment or sublet shall be valid and no transferee shall take possession of the Premises or any part thereof unless, within ten (10) days after the execution of the documentary evidence thereof, Lessee shall deliver to Lessor a duly executed duplicate original of the instrument by which the proposed assignment or sublet is to be documented, in form reasonably satisfactory to Lessor which provides that (i) any assignee (but not necessarily any subtenant) assumes Lessee's obligations for the payment of rent and for the full and faithful observance and performance of the covenants, terms and conditions contained herein, (ii) such transferee will, at Lessor's election, attorn directly to Lessor in the event Lessee's Lease is terminated for any reason on the terms set forth in the instrument of transfer and (iii) such instrument of transfer contains such other assurances as Lessor reasonably deems necessary. E. Excluded Transfers. Notwithstanding any provision of this Lease to ------------------ the contrary, Lessor's consent shall not be required for, Lessor's recapture right specified in subparagraph C., above, shall not apply to, and Lessor shall not share in any profits of the type described in subparagraph D.2, above, with respect to, any (i) sublease of all or a portion of the Premises to Leslie's Pool Brite, a California corporation, (ii) sublease to a company that provides to Lessee (and possibly third parties) pool equipment or other parts incidental to Lessee's business operations within the Premises, (iii) lease of storage space within the Premises where the party leasing such space does not enter into possession of the Premises or any portion thereof, but merely consigns items for storage to Lessee (provided that such items consigned for storage do not include any Hazardous Substances), or (iv) any assignment of this Lease or sublease of any portion of the Premises to any entity or person which controls, is controlled by, or under common control with, Lessee. Lessee shall notify Lessor in writing of any assignment of this Lease or any sublease of all or a portion of the Premises (except for leases of storage space as contemplated by subsection (ii) above, which shall require no notice to Lessor) within ten (10) days following such assignment or sublease. Included in such notice shall be an executed copy of the document by which such assignment or sublease has been effectuated. As used above, "control" means ownership and the right to vote stock possessing at lease fifty percent (50%) of the total combined voting power of all classes of Lessee's capital stock issued, outstanding and entitled to vote for election of directors. F. Release of Lessee. In the event that Lessee proposes an assignment ----------------- of this Lease to an assignee that Lessor agrees meets the requirements set forth in Subparagraph A, above, upon receiving Lessor's written consent to such assignment Lessee shall be released from all of its obligations thereafter accruing under this Lease. 10. The following is hereby added as new Section 36(c): "Notwithstanding anything to the contrary contained in this Lease, if any provision of this Lease expressly or impliedly obligates Lessor not to unreasonably withhold its consent or approval, an action for declaratory judgment or specific performance will be Lessee's sole right and remedy in any dispute as to whether Lessor has breached such obligation." 11. The following is hereby added as new Section 49: "Limited Liability. In the event of default, breach, or violation by Lessor ----------------- (which term includes Lessor's partners, co-venturers, co-tenants, officers, directors, employees, agents or representatives) of any Lessor's obligations under this Lease, Lessor's liability to Lessee shall be limited to its ownership interest in the Industrial Center or the proceeds of a public sale of such interest pursuant to foreclosure of a judgment against Lessor. Lessor(as defined above) shall not be personally liable for any deficiency beyond its interest in the Industrial Center." 13. The following is hereby added as new Section 50: "Interruptions. It is understood that Lessor does not warrant that any of -------------- the services or utilities in this Lease will be free from interruption. Lessee acknowledges that any one or more such services or utilities may be suspended or reduced by reason of repairs, alterations or improvements necessary to be made, by strikes or accidents, by action of the local utility supplier, by orders or regulations of any federal, state, county or municipal authority, and other cause beyond the reasonable control of Lessor. Any such interruption or suspension of services or utilities shall not be deemed an eviction or disturbance of Lessee's use and possession of the Premises or any part hereof, not render Lessor liable to Lessee for damages by abatement of Rent or otherwise, nor relieve Lessee of performance of Lessee's obligations under this Lease." 14. The following is hereby added as new Section 51: "Condition of Premises. Except as to the specific warranties of Lessor ---------------------- contained herein, and the construction obligations of Lessor, if any, stated in Exhibit "C" to this Lease, Lessee shall accept the Premises in "as is" condition as of the date of execution of this Lease by Lessee, and Lessee acknowledges that the Premises in such condition are in good and sanitary order, condition and repair." 15. The following is hereby added as new Section 52: "Waiver of Claims. Provided that Lessee elects to self insure for damage ----------------- to its personal property, trade fixtures, Lessee's Special Improvements, Lessee-Owned Alterations or Utility Installations, and for business interruption/loss of income due to damage or destruction to the Premises, interruptions with necessary utility services, or other events which cause Lessee economic loss because it is unable to utilize the Premises to any extent, Lessee, as a material part of the consideration to be rendered to Lessor, hereby waives all claims against Lessor for damages to goods, wares, merchandise and loss of business (including loss of income in other retail outlets of Lessee as a result of its inability to utilize the Premises to any extent) in, upon or about the Premises and injury to Lessee, its agents, employees, invitees or third persons, in, upon or about the Premises, from any cause arising at any time, including the negligence of the parties hereto." 16. The following is hereby added as new Section 53: "Notice and Right to Cure Default. Lessee agrees to give any mortgagee(s) --------------------------------- and/or trust deed holders, by registered mail, a copy of any notice of default served upon Lessor, provided that prior to such notice Lessee has been notified, in writing (by way of Notice of Assignment of Rents and Leases, or otherwise), of the address of such mortgagees and/or trust deed holders. Lessee further agrees that if Lessor shall have failed to cure such default within the time provided for in this Lease, then the mortgagees and/or trust deed holders shall have an additional thirty (30) days within which to cure such default or, if such default cannot be cured within that time, then such additional time as may be necessary if within such thirty (30) days, any mortgagee and/or trust deed holder has commenced and is diligently pursuing the remedies necessary to cure such default (including but not limited to commencement of foreclosure proceedings, if necessary to effect such cure), in which event this Lease shall not be terminated while such remedies are being so diligently pursued." 17. The following is hereby added as new Section 54: "Waiver of California Code Sections. In this Lease, numerous provisions ----------------------------------- have been negotiated by the parties, some of which provisions are covered by statute. Whenever a provision of this Lease and a provision of any statute or other law cover the same matter, the provisions of this Lease shall control. Therefore, Lessee waives (for itself and all persons claiming under Lessee) the provisions of Civil Code Sections 1932(2) and 1933(4) with respect to the destruction of the Premises; Civil Code Sections 1941 and 1942 with respect to Lessor's repair duties and Lessee's right to repair, Code of Civil Procedure Section 1265.130, allowing either party to petition the Superior Court to terminate this Lease in the event of a partial taking of the Premises by condemnation as herein defined; and any right of redemption or reinstatement of Lessee under any present or future case law or statutory provision (including Code of Civil Procedure Sections 1179) in the event Lessee is dispossessed from the Premises for any reason. This waiver applies to future statutes enacted in addition to or in substitution for the statutes specified herein." 18. The following is hereby added as new Section 55: "OPTION TO EXTEND THE TERM. -------------------------- 1. Notice to Exercise. Lessee shall have the right to extend the initial ------------------ term hereof for two (2) additional and consecutive periods of five (5) years each upon the same terms and conditions as stated herein, except for the Base Rent, which shall be determined for the first Extended Term in accordance with paragraph 3, below, and which shall be determined for the second Extended Term in accordance with paragraphs 4 through 9, below; and further, except that the number of additional periods shall be reduced by one for each extension option that is exercised. Each such extension is herein referred to as an "Extended Term". Failure to timely exercise any extension option hereunder shall cause all subsequent options to immediately become null and void. Lessee must exercise its right, if at all, by written notification (the "Notice to Exercise") to Lessor not less than One Hundred Eighty (180) nor more than Two Hundred Seventy (270) days prior to the expiration of the initial term hereof, or the then current Extended Term, if any, provided that Lessee is not in Breach of this Lease as of the date (i) that Lessee exercises its right to extend the term hereof, or (ii) of the commencement of the applicable Extended Term. 2. Options are Personal. The options to extend granted herein are personal to -------------------- the original Lessee executing this lease, and notwithstanding anything to the contrary contained in the Lease, the rights contained in this Addendum are not assignable or transferable by such original Lessee. Lessor grants the rights contained herein to Lessee in consideration of Lessee's strict compliance with the provisions hereof, including without limitation, the manner of exercise of this option. 3. CPI Adjustment. The Base Rent provided herein shall be subject to increase -------------- at the commencement of the first Extended term hereof, and upon the expiration of the thirtieth (30th) month of the first Extended Term (hereinafter, the "adjustment dates"), as follows: The basis for computing the increase in Base Rent is the Consumer Price Index, All Urban Consumers, All Items, Los Angeles-San Diego-Riverside Area, published by the United States Department of Labor, Bureau of Labor Statistics (1984=100) (the "Index"). The Index which is published nearest to the commencement of the ninety-second (92nd) full calendar month of the initial term of this Lease (for the rental adjustment as of the commencement of the first Extended Term), or the immediately prior adjustment date (for the rental adjustment as of the end of the thirtieth (30th) month of the first Extended Term) shall be deemed to be the "Beginning Index". The Index published nearest to the applicable adjustment date shall be deemed to be the "Extension Index". If the Extension Index has increased over the applicable Beginning Index, the Base Rent until the next rent adjustment date, if any, shall be established by multiplying the Base Rent in effect immediately prior to the applicable adjustment date by a fraction, the numerator of which is the Extension Index and the denominator is the Beginning Index. In no event, however, shall the Base Rent as established at the (i) first adjustment date be less than seven percent (7%) more than, or more than fourteen percent (14%) more than, the Base Rent due immediately prior to the first adjustment date, and (ii) second adjustment date be less than seven and one-half percent (7.5%) more than, or more than fifteen percent (15%) more than, the Base Rent due immediately prior to the second adjustment date. Lessor shall notify Lessee of the amount of such adjustment, and Lessee shall acknowledge such adjustment within five (5) days of such notice from Lessor. Following adjustment of the Base Rent as specified herein, the parties shall immediately execute an amendment to the Lease on request of either party stating the new Base Rent. In the event the Extension Index has not been published as of the applicable adjustment date, the previous Base Rent shall remain in effect until publication thereof. On the first calendar month following publication of the Extension Index (the "Retroactive Date"), Lessee shall pay to Lessor (i) the Base Rent for the current month as increased as provided herein, and (ii) the monthly increase in the Base Rent resulting from the calculation upon publication of the Extension Index multiplied by the number of months that have elapsed between the last adjustment date and the Retroactive Date, such that the newly revised Base Rent shall have been paid in full commencing with the immediately preceding adjustment date. If the Index is changed so that the Beginning Index differs from that used for the Extension Index, the Index shall be converted in accordance with the conversion factor published by the United States Department of Labor, Bureau of Labor Statistics. If the Index is discontinued or revised during the term of the Lease, such other government index or computation with which it is replaced shall be used in order to obtain substantially the same result as would have been obtained if the Index had not been discontinued or revised. 4. Fair Market Rental. If Lessee exercises the right to extend the term of ------------------ the Lease for the second Extended Term contemplated hereby, then the Base Rent shall be adjusted to equal the Fair Market Rental for the Premises as of the date of the commencement of the second Extended Term, pursuant to the procedures hereinafter set forth. The term "Fair Market Rental" means the Base Rent chargeable for the Premises based upon the following factors applicable to the Premises or any comparable premises: (a) Rental rates being charged for comparable premises in the same geographical location; (b) The relative locations of the comparable premises; (c) Improvements, or allowances provided for improvements, or to be provided; (d) Rental adjustments, if any, or rental concessions; (e) Services and utilities provided or to be provided; (f) Use limitations or restrictions; (g) Any other relevant Lease terms or conditions. In no event, however, shall the Fair Market Rental be less than the Base Rent in effect immediately prior to the commencement date of the second Extended Term. The Fair Market Rental may include provision for further Base Rent adjustments during the Extended Term if such adjustments are commonly required in the market place for similar types of leases, if such adjustments are commonly required in the market place for similar types of leases. 5. Determination of Fair Market Rental. Upon exercise of the right to extend ----------------------------------- for the second Extended Term, and included within the Notice of Exercise, Lessee shall notify Lessor of its opinion of Fair Market Rental as above defined for the second Extended Term. If the parties are unable to agree upon a Base Rent for the second Extended Term within thirty (30) days following Lessor's receipt of the Notice to Exercise, within (10) days thereafter, either party at its own cost and expense and by giving notice to the other party in writing, may appoint a real estate appraiser who is a member of the Appraisal Institute, or the Society of Real Estate Appraisers, or an equivalent professional organization, with a lease five (5) years' experience appraising properties devoted to the same general type of use (e.g. office, industrial) as the Premises in the county in which the Premises are located ("Qualified Appraiser"), to set the Fair Market Rental for the second Extended Term. The terms "Base Rent" and "Fair Market Rental" as used in this article shall be interchangeable. If a party does not appoint a Qualified Appraiser within ten (10) days after the first party has given notice of the name of its Qualified Appraiser, the single Qualified Appraiser appointed shall be the sole appraiser and shall set the Fair Market Rental for the second Extended Term. If two Qualified Appraisers are appointed by the parties, they shall meet promptly, on five (5) days' notice to the parties, to take such evidence and other information as the parties may deem reasonable to submit to the Qualified Appraiser. Within thirty (30) days after the selection of the last of the two Qualified Appraisers to be appointed by the parties, the Qualified Appraisers shall render their opinions of the Fair Market Rental of the Premises as above qualified. If the two valuations are within ten percent (10%) of each other, they shall be averaged and the average of the two shall be the Base Rent for the second Extended Term. If only one appraisal is timely submitted that opinion shall constitute the Base Rent for the second Extended Term. If the two valuations are separated by more than ten percent (10%), then the two Qualified Appraisers shall, within ten (10) days following the last date for submissions of the two appraisals of Fair Market Rental, appoint a third Qualified Appraiser. If they are unable to agree upon a third Qualified Appraiser within such ten (10) day period, either of the parties to this Lease, by giving five (5) days' notice to the other party, may demand Arbitration as specified in Section 7 of this Addendum. If neither party applies for Arbitration within the ten (10) day period herein specified, the two appraisals of Fair Market Rental shall be averaged as stated above, and such average shall be the Base Rent for the second Extended Term. 6. Arbitration. In the event the parties are unable to mutually agree upon ----------- a Base Rent for the second Extended Term, and in such event proceed to the Appraisal or Arbitration procedure herein specified, both parties shall be bound to submit the matter for such determination. The procedure specified in this article for appointment of Qualified Appraisals, delivery of appraisals, appointment of an Arbitrator, and determination of Fair Market Base Rental Value thereby, is herein collectively referred to as "Arbitration." The Arbitration shall be conducted and determined in the County where the Premises are situated. If the Arbitration is not concluded before the commencement of the second Extended Term, Lessee shall pay Base Rent to Lessor in an amount equal to the Fair Market Rental set forth in the appraisal be Lessor's Qualified Appraiser until the Fair Market Rental is determined in accordance with the arbitration provisions hereof. If the Fair Market Rental as determined by Arbitration differs from that stated by Lessor's Qualified Appraiser, then any adjustment required to correct the amount previously paid by Lessee shall be made by payment by the appropriate party within thirty (30) days after the determination of Fair Market Rental by Arbitration has been concluded, as provided herein. Lessee shall be obligated to make payment during the entire second Extended Term of the Base Rent determined in accordance with the Arbitration procedures hereunder. 7. Demand for Arbitration. A party demanding Arbitration hereunder shall ---------------------- make its demand in writing ("Demand Notice") within ten (10) days after receipt of notice from the Qualified Appraisers that they have failed to appoint a third Qualified Appraiser as specified in Section 5 above. A copy of the Demand Notice shall be sent to the President of the Real Estate Board for the County in which the Premises are located. If there is no Real Estate Board, or Board President, in said County then a copy of the Demand Notice shall be sent to the Presiding Judge of the highest trial court in such County for the State in which the Premises are located. The Board President or Presiding Judge, whichever is applicable, is hereinafter referred to as the "Appointer." The Appointer, acting in his personal, private capacity, shall appoint within ten (10) days thereafter a Qualified Appraiser. The Arbitrator shall be qualified to serve as an expert witness, over objection, to give opinion testimony addressed to the issue in a court of competent jurisdiction. 8. Decision of the Arbitrator. As used herein, the term Arbitrator refers -------------------------- to a third Qualified Appraiser, selected by any of the methods heretofore set forth. The Arbitrator shall, within sixth (60) days after his appointment, state in writing his determination as to whether the Fair Market Rental stated by Lessor's Qualified Appraiser or the Fair Market Rental stated by Lessee's Qualified Appraiser, most closely approximates his own. The Arbitrator shall have the right to consult experts and competent authorities consultation shall be made in the presence of both parties with full right to cross examine. The Arbitrator may not state his own opinion of Fair Market Rental, but is strictly limited to the selection of one of the two appraisals submitted by the other two Qualified Appraisers. The Arbitrator shall have no right to propose a middle ground or any modification of either of the proposed valuation, and shall have no power to modify this Lease. The valuation so chosen as most closely approximating that of the Arbitrator shall constitute his decision, shall be deemed the Base Rent for the second Extended Term and shall be final and binding upon the parties absent fraud or gross error. The Arbitrator shall render a decision and ward in writing, with counterpart copies to each party. Judgement may be entered thereon in any court of competent jurisdiction. 9. Successor Arbitrator: Fees and Expenses. In the event of failure, --------------------------------------- refusal, or inability of the Arbitrator to act in a timely manner, a successor shall be appointed in the same manner as such Arbitrator was first chosen hereunder. The fees and expenses of the Arbitrator and for the administrative hearing fee, if any, shall be divided equally between the parties. Each party shall bear its own attorneys' fees and other expenses including fees of witnesses in presenting evidence, and the fees and cost of its own Qualified Appraiser." IN WITNESS WHEREOF, the parties have initialed this Addendum to Lease on the date set forth above. LESSOR: J -------- LESSEE: BPM -------- EXHIBIT A - INDUSTRIAL CENTER [DIAGRAM OF INDUSTRIAL CENTER APPEARS HERE] EXHIBIT "B" ACKNOWLEDGMENT OF COMMENCEMENT This Acknowledgment of Commencement is made as of __________, 199_, with reference to that certain Lease Agreement (hereinafter referred to as the "Lease") dated _____________, by and between Bedford Property Investors, Inc., a Maryland corporation as "Lessor" therein, and Leslie's Poolmart (Inc). a -------------------------- California corporation as "Lessee" for the demised premises situated at 1595 - ---------------------- ---- Dupont Avenue, Ontario, California. - ---------------------------------- The undersigned hereby confirms the following: 1. That the Lessee accepted possession of the Premises (as described in said Lease) on __________, 199_, and subject to the express warranties of Lessor contained in Sections 2.2 and 2.3 of the Lease, acknowledges that the Premises are as represented by the Lessor and in good order, condition and repair, and that the improvements, if any, required to be constructed for Lessee by Lessor under this Lease have been so constructed and are satisfactorily completed in all respects. 2. That all conditions of said Lease to be performed by Lessor prerequisite to the full effectiveness of said Lease have been satisfied and that Lessor has fulfilled all of its duties of an inducement nature. 3. That the Commencement Date of the Original Term is ___________, 199_, and that, unless sooner terminated, the Original Term thereof expires on ________________ ("Expiration Date.") 4. That said Lease is in full force and effect and that the same represents the entire agreement between Lessor and Lessee concerning said Lease. 5. That there are no existing defenses which Lessee has against the enforcement of said Lease by Lessor, and no offsets or credits against rentals. 6. That the Base Rent under said Lease is presently in effect and that all rentals, charges and other obligations on the part of Lessee under said Lease commenced to accrue on ____________, 199_. 7. That the undersigned Lessee has not made any prior assignment, hypothecation or pledge of said Lease or of the rents thereunder. LESSEE: ------- By: --------------------------------- Name: (Print): --------------------- Its: -------------------------------- (Title) EXHIBIT "C" CONSTRUCTION OBLIGATIONS The purpose of this Exhibit C is to set forth the responsibilities of the Lessor and Lessee with respect to the design and construction of the Premises. 1. Plans and Specifications ------------------------ (a) Lessor and Lessee have reviewed and approved the preliminary space plan (the "Preliminary Plan") for the construction of certain improvements consisting of office space and other improvements attached hereto as Exhibit C-1 (the "Tenant Improvements.") Lessee shall submit any final plans and specifications for the Tenant Improvements to Lessor as and when completed (the "Tenant Improvement Plans.") Provided that the Tenant Improvement Plans do not materially deviate from the Preliminary Plan, Lessor shall approve the Tenant Improvement Plans within three (3) business following Lessor's receipt thereof. In the event that the Tenant Improvement Plans do materially deviate from the Preliminary Plan, Lessor shall notify Lessee of its approval or reasonable disapproval of the Tenant Improvement Plans within three (3) business following Lessor's receipt thereof, with such notice specifying the revisions that Lessor reasonably requires to the Tenant Improvement Plans in order to approve the same. (b) Within thirty (30) days following full execution of the Lease to which this Exhibit C is attached, Lessee shall submit to Lessor for Lessor's approval, which approval shall not be unreasonably withheld or delayed, two (2) sets of complete plans and specifications for the layout, construction and finish of "Lessee's Special Improvements" (as defined below), consistent with the design and construction of the Base Building Work (as hereinbelow described), including mechanical and electrical drawings and floor and ceiling plans, showing the location of partitions, light fixtures, electrical outlets, telephone outlets, sprinklers, doors, wall finishes, floor coverings and other materials and finishes as Lessee may desire ("Lessee's Plans.") (c) The Tenant Improvement Plans and Lessee's Plans shall be prepared by a licensed architect and/or engineer, and shall be in a form sufficient to secure approval from all governmental authorities having jurisdiction over the approval thereof, and shall be otherwise reasonably satisfactory to Lessor. (d) If Lessor reasonably disapproves Lessee's Plans, or any portion thereof, Lessor shall notify Lessee of such disapproval within five (5) business following Lessor's receipt thereof, specifying the revisions that Lessor requires in order to obtain Lessor's approval (hereinafter the "Revision Notice"). Within ten (10) days after receipt of the Revision Notice, Lessee shall submit to Lessor plans and specifications, revised to incorporate the changes required by Lessor. Such revised plans and specifications shall be subject to Lessor's approval within three (3) business following Lessor's receipt thereof, not to be unreasonably withheld. The revised Tenant Improvement Plans and Lessee's Plans approved by Lessor are herein after referred to as the "Final Plans". (e) All interior decorating services such as the selection of wall paint colors and/or wall coverings, fixtures, carpeting and other decorator selection efforts required by Lessee shall be provided by Lessee at Lessee's sole cost and expense and, if not already included within the Final Plans approved by Lessor, shall be subject to the approval of Lessor within three (3) business following Lessor's receipt thereof, not to be unreasonably withheld. 2. Lessee's Non-Standard Improvements. Lessor and Lessee acknowledge ---------------------------------- and agree that Lessee shall be constructing within the Premises, in the approximate location and configuration as shown on Exhibit C-1 hereto, certain special improvements necessary for the operation of Lessee's business within the Premises, as follows: a containment facility for Lessee's storage of chlorine and/or other chemicals used in operation of Lessee's business (hereinafter, "Lessee's Special Improvements"). Notwithstanding anything herein to the contrary, Lessee's Special Improvements shall be included in Lessee's Plans and in the Final Plans; provided, however, that Lessor shall have no obligation to pay for, or to contribute to the payment for, Lessee's Special Improvements, all of which shall be designed, permitted and constructed by Lessee at its sole cost and expense. Upon the expiration or earlier termination of this Lease, Lessee, at its sole cost and expense, shall remove all of Lessee's Special Improvements and shall restore the Premises to the condition existing prior to the installation of Lessee's Special Improvements. 3. Base Building Work. Subject to the provisions of the Lease to which ------------------ this Exhibit is attached, Lessor shall deliver the Building in which the Premises are located, in "as-is where-is" condition, with such improvements and amenities as are then constructed within the Building (collectively hereinafter referred to as the "Base Building Work.") 4. Building Permit. Following approval by Lessor of the Final Plans, or --------------- concurrently therewith, Lessee shall submit such plans for approval of the governmental agencies having jurisdiction thereover, and shall, as soon as reasonably possible, obtain two (2) building permits (one each for the Tenant Improvements and Lessee's Special Improvements) and any and all other governmental approvals necessary for the construction of the Tenant Improvements and Lessee's Special Improvements, in conformance with the Final Plans, and for the operation of Lessee's business within the Premises (hereinafter the "Permits.") Lessor and Lessee acknowledge and agree that the Permits for construction of the Tenant Improvements may be obtained prior to obtaining the Permits-for the construction of Lessee's Special Improvements and/or the Permits for Lessee's business operations within the Premises, and that Lessee may begin construction of the Tenant Improvements prior to obtaining all Permits for the construction of Lessee's Special Improvements or the operation of Lessee's business within the Premises, subject to the provisions set forth below in Section 5. The Tenant Improvements and Lessee's Special Improvements are sometimes collectively referred to herein as the "Improvements." 5. Termination Rights. Lessor and Lessee shall both have the right to ------------------ terminate this lease, upon not less than ten (10) days prior written notice to the other, in accordance with the following terms and provisions: A. Lessee's Termination Right. In the event that, after using -------------------------- reasonable efforts, Lessee is unable, on or before twelve (12) weeks following the Early Possession Date, to obtain all necessary Permits for the construction of Lessee's Special Improvements and/or for Lessee's business operations within the Premises, Lessee, in conformance with the terms hereof, may elect to terminate this Lease ("Lessee's Termination Right.") In the event that Lessee fails to terminate this Lease in conformance herewith on or before twelve (12) weeks following the Early Possession Date, Lessee's Termination Right shall expire and be deemed null and void and of no further force and effect, and Lessee shall have no further right to terminate this Lease pursuant to this Section. In the event that Lessee shall have undertaken the construction of any of the Improvements prior to the exercise of Lessee's Termination Right as specified herein, Lessee shall be obligated, at its sole cost and expense, to (i) pay for all Improvements so constructed by Lessee (notwithstanding the provisions of Section 11, below, requiring Lessor to partially or totally reimburse Lessee for the cost of constructing the Tenant Improvements), and (ii) remove all such Improvements constructed by Lessee and restore the Premises to the condition existing prior to such construction. B. Lessor's Termination Right. In the event that, as a result of -------------------------- Lessee's attempt to obtain all necessary Permits or otherwise, any governmental or other authority shall require that any alterations, improvements, replacements, repairs or other construction or compliance obligations be performed within or about the Premises, the Building and/or the Industrial Center (the "Compliance Obligations"), which Compliance Obligations in the aggregate cost in excess of Fifty Thousand Dollars ($50,000.00), Lessor may elect, subject to Lessee's right to continue the Lease as set forth below, to terminate this Lease ("Lessor's Termination Right"). Lessee shall provide Lessor with written notice of any such Compliance Obligations immediately upon Lessee's learning of such Compliance Obligations, and Lessor's reasonable estimate of the cost thereof. In the event that the estimated cost is in excess of Fifty Thousand Dollars ($50,000.00), and Lessor notifies Lessee that it intends to exercise Lessor's Termination Right as a result thereof, Lessee may notify Lessor that it desires to continue the Lease in full force and effect, notwithstanding Lessor's Termination Right, and in such event it shall be deemed that Lessee has agreed to pay all costs of the Compliance Obligations in excess of Fifty Thousand Dollars ($50,000.00) pursuant to the following procedure: Lessee shall reimburse Lessor each year for that amortized portion of the costs of the Compliance Obligations in excess of Fifty Thousand Dollars ($50,000.00), determined by taking the total costs of the Compliance Obligations in excess of Fifty Thousand Dollars ($50,000.00), with interest on such costs at a rate equal to ten percent (10%) per annum, and amortizing such costs over the term of this Lease. In the event that Lessor does not elect to exercise Lessor's Termination Right and is willing to perform such Compliance Obligations, Lessor shall notify Lessee of such fact in writing, and Lessor shall thereafter commence such Compliance Obligations and diligently prosecute such Compliance Obligations to completion. Notwithstanding anything to the contrary contained herein, the initial Fifty Thousand Dollar ($50,000.00) cost of Compliance Obligations undertaken by Lessor shall be deemed to be Common Area Operating Expenses and, to the extent required by the terms of this Lease, may be deemed to be Capital Costs and, if so characterized, shall be amortized in conformance with the terms hereof. Lessee and Lessor agree that Lessor shall have no obligation to pay any brokerage commission or fee in connection with this Lease transaction to any person or entity whatsoever, including without limitation any person or entity representing Lessee in connection herewith, unless and until Lessee' Termination Right and/or Lessor's Termination Right shall expire. In the event that Lessee' Termination Right and/or Lessor's Termination Right shall be timely and properly exercised, (i) Lessee hereby agrees to indemnify and hold Lessor harmless from and against any loss, cost, claim, suit, proceeding, liability, fee (including without limitation, reasonable attorney's fees and cost) or expense incurred by Lessor as a result of any person or entity claiming a brokerage fee or commission from Lessor for the representation of Lessee in connection herewith, and (ii) Lessor hereby agrees to indemnify and hold Lessee harmless from and against any loss, cost, claim, suit, proceeding, liability, fee (including without limitation, reasonable attorney's fees and costs) or expense incurred by Lessee as a result of any person or entity claiming a brokerage fee or commission from Lessee for the representation of Lessor in connection herewith. 6. Contractor; Construction. Lessor and Lessee agree that Altman ------------------------ Construction ("Altman") shall be the general contractor for the construction of the Improvements. Following Lessor's and Lessee's written approval of the Final Plans, and Lessee's obtaining of the Permits for the construction of the Tenant Improvements and/or the Lessee's Special Improvements (it being agreed by Lessor and Lessee that Permits for the Tenant Improvements and the Lessee's Special Improvements shall be obtained separately and that Lessee, subject to the provisions hereof, including without limitation Section 5, may commence construction of the Tenant Improvements prior to obtaining all Permits necessary for the construction of Lessee's Special Improvements or for the operation of Lessee's business within the Premises), Lessee shall cause Altman to commence construction of the Improvements and diligently prosecute the same to completion. 7. Changes, Additions and Alterations. If Lessee shall request any ---------------------------------- change, addition or alteration in the Final Plans (each, a "Change Request"), such change, addition or alteration in the Final Plans shall be subject to Lessor's prior written approval within three (3) business following Lessor's receipt of the Change Request, not to be unreasonably withheld. No such Change Request, nor any other delay in the completion of the Improvements except as specifically provided in Paragraph 1 of the Addendum, shall delay the commencement date of this Lease beyond eight (8) weeks following the Early Possession Date. 8. Costs. Subject to reimbursement by Lessor of the "Improvement ----- Allowance" (as defined below), Lessee shall be solely responsible for any and all costs and expenses incurred in connection with the construction of the Improvements, including without limitation, all fees and costs of the Designer. 9. Ownership. All Tenant Improvements, not including Lessee's Special --------- Improvements, shall become the property of Lessor immediately upon the completion thereof, and Lessee hereby agrees to assign to Lessor any warranties or other guaranties obtained by Lessee in connection with the construction of Tenant Improvements. All Lessee's Special Improvements shall be paid for and owned by Lessee. 10. Improvement Allowance. Lessor shall contribute up to a maximum amount --------------------- of One Hundred Fifty Thousand Dollars ($150,000.00) towards the cost of the Tenant Improvements (the "Improvement Allowance"). Notwithstanding anything to the contrary contained herein, in no event shall Lessor be obligated to pay any portion of the Improvement Allowance towards the cost of designing, permitting or constructing Lessee's Special Improvements, which shall be paid for solely by Lessee. Lessor shall pay such portion of the Improvement Allowance as Lessee has expended in the design, permitting and construction of the Tenant Improvements within thirty (30) days following completion of the Tenant Improvements and presentation to Lessor by Lessee of (i) bills and invoices reasonably acceptable to Lessor, detailing the amounts spent by lessee on the design, permitting and construction of the Tenant Improvements, and (ii) unconditional lien releases and waivers from the Contractor and all subcontractors and material suppliers, in the form required by applicable state law, or such other evidence reasonably satisfactory to Lessor either (a) showing that all such parties have been paid in full and have released any rights to lien the Building or the Premises for non-payment, or that (b) Lessee has fully bonded any such lien rights in accordance with applicable State law and otherwise in a manner reasonably acceptable to Lessor. Any costs of constructing the Tenant Improvements in excess of the Improvement Allowance, and all costs of constructing Lessee's Special Improvements, shall be paid for solely by Lessee. In the event that Lessor shall fail to so reimburse to Lessee the Improvement Allowance, Lessee may deduct the amount of the Improvement Allowance (or so much thereof as Lessor has failed to pay to Lessee in conformance with the terms hereof) from the Base rent first becoming due hereunder by Lessee to Lessor. In the event that, following completion thereof, the Tenant Improvements shall cost less than the total Improvement Allowance, as evidenced by bills and invoices therefore reasonably acceptable to Lessor, any portion of the Improvement Allowance not so spent on the Tenant Improvements, up to a maximum of Fifty Thousand Dollars ($50,000.00), shall be credited by Lessor toward the Base Rent first becoming due hereunder by Lessee to Lessor. EXHIBIT D RULES AND REGULATIONS 1. No sign, placard, picture, advertisement, name of notice shall be inscribed, displayed or printed or affixed on the Building or to any part thereof, or which is visible from the outside of the Building, without the written consent of Lessor, first had and obtained and Lessor shall have the right to remove any such sign, placard, picture, advertisement, name or notice without notice to and at the expense of Lessee. All approved signs or lettering on doors shall be printed, affixed or inscribed at the expense of Lessee by a person approved by Lessor. 2. If a directory is located at the Building, it is provided exclusively for the display of the name and location of Lessee only and Lessor reserves the right to exclude any other names therefrom. 3. The sidewalks, passages, exits, entrances, and stairways in and around the Building shall not be obstructed by Lessee or used by it for any purpose other than for ingress to and egress from the Premises. The passages, exits, entrances, stairways and roof are not for the use of the general public and Lessor shall in all cases retain the right to control and prevent access thereto by all persons whose presence in the judgement of Lessor shall be prejudicial to the safety, character, reputation and interests of the building and its tenants, provided that nothing therein contained shall be construed to prevent such access to persons with whom Lessee normally deals in the ordinary course of Lessee's business unless such persons are engaged in illegal activities. Neither Lessee nor any employees or invitees of Lessee shall go upon the roof of the Building without Lessor's prior consent not to be unreasonably withheld; provided, however, that Lessee may go upon the roof in the case of an emergency situation requiring immediate action. Lessee shall be responsible for any damage to the roof caused by Lessee's activities thereon. 4. Lessee shall provide Lessor with the keys to any additional lock or locks installed by Lessee on any door in the Building for the purpose of emergency access by Lessor. 5. The toilets and urinals shall not be used for any purpose other than those for which they were constructed, and no rubbish, newspapers or other substances of any kind shall be thrown into them. Waste and excessive use of water shall not be allowed. Lessee shall be responsible for any breakage, stoppage or damage resulting from the violation of this rule by Lessee or its employees or invitees. 6. Less shall not overload the floor of the Premises or mark, drive nails, screw or drill into the partitions, woodwork or plaster or in any way deface the Premises or any part thereof. 7. The Premises shall not be used for washing clothes, for lodging, or for any improper, objectionable or immoral purposes. 8. Lessee shall not use or keep in the Premises any kerosene, gasoline, or other inflammable or combustible fluid or material (other than those substances necessary to Lessee's business operation), or use any method of heating or air conditioning other than that supplied by Lessor or installed by Lessee with Lessor's consent. 9. Lessor will direct electricians as to the manner and location in which telephone and telegraph wires are to be introduced. No boring or cutting for wires will be allowed without the consent of Lessor. The location of telephones, call boxes, and other office equipment affixed to the Premises shall be subject to the approval of Lessor. 10. Lessee shall not lay linoleum, tile, carpet or other similar floor covering so that the same shall be affixed to the floor of the Premises in any manner except as approved by Lessor. The expense of repairing any damage resulting from a violation of this rule or removal of any floor covering shall be borne by Lessee. 11. Any window covering desired by Lessee which is visible from the exterior of the Premises shall be approved by Lessor. 12. Lessor reserves the right to exclude or expel from the Building any person who, in the judgement of Lessor, is intoxicated or under the influence or liquor or drugs, or who shall in any manner do any act in violation of the rules and regulations of the Building. 13. Lessee shall not disturb, solicit, or canvass any occupant of the Building. 14. Without the written consent of Lessor, Lessee shall not use the name of the Building in connection with or in promoting or advertising the business of Lessee except as Lessee's address. 15. Lessee shall not permit any contractor or other person making any alterations, additions or installations within the Premises to use the Common Areas for storage of materials, for construction activities or otherwise, without the prior written consent of the Lessor. Lessee shall be liable for and shall pay the expense of any additional cleaning or other maintenance required to be performed by Lessor in the Common Areas as a result of the transportation or storage of material or work performed within the Building by or for Lessee. 16. Lessee shall be entitled to use parking spaces as mutually agreed upon between Lessee and Lessor subject to such reasonable conditions and regulations as may be imposed from time to time by Lessor. Lessee agrees that vehicles of Lessee or its employees or agents shall not park in driveways nor occupy parking spaces or other areas reserved for any use such as Visitors, Delivery, Loading, or other tenants. Lessor or its agents shall have the right to cause or be removed any car of Lessee, its employees or agents, that may be parked in unauthorized areas, and Lessee agrees to save and hold harmless Lessor, its agents and employees from any and all claims, losses, damages and demands asserted or arising in respect to or in connection with the removal of any vehicle. Lessee, its employees, or agents shall not park campers, trucks or cars on the Building parking areas overnight or over weekends, unless performing work within the Premises during such periods. Lessee will from time to time, upon request of Lessor, supply Lessor with a list of license plate numbers of vehicles owned or operated by its employees and agents. 17. Canvassing, soliciting and peddling is prohibited in the Building and Lessee shall cooperate to prevent the same. 18. Lessor is not responsible for the violation of any rule contained herein by any tenants. 19. Lessor may waive any one or more of these rules for the benefit of any particular tenant, but no such waiver shall be construed as a waiver of Lessor's right to enforce these rules against any or all tenants occupying the Building. 20. If required by Applicable Law or ordinance, Lessee is responsible for purchasing and installing a security system for the Premises. The cost of purchasing, installing, maintaining and operating any such system shall be at the sole cost and expense of Lessee. 21. The display, carrying, and use of pistols, rifles, shotguns and other firearms is prohibited in and about the Building, the parking lots and other common areas, except for authorized municipal, state and federal law enforcement personnel. Lessee and its employees, agents and invitees shall not display, carry or use any firearms within the Building, parking lots or other common areas. 22. Lessor reserves the right to make reasonable modifications hereto and such other and further reasonable rules and regulations as in its judgement may be required for the safety, care and cleanliness of the Building and the Industrial center and for the preservation of good order therein. Lessee agrees to abide by all such rules and regulations; provided, however, that in any conflict between such rules and regulations and the terms and conditions of the Lease, the terms and conditions of the Lease shall control. EXHIBIT E RECORDING REQUESTED BY AND WHEN RECORDED MAIL TO: The Prudential Insurance Company of America Four Embarcadero Center, Suite 2700 San Francisco, California 94111 SUBORDINATION, NO-DISTURBANCE AND ATTORNMENT AGREEMENT NOTE: THE SUBORDINATION PROVIDED FOR IN THIS AGREEMENT RESULTS IN YOUR LEASEHOLD ESTATE BECOMING SUBJECT TO AN INTEREST IN THE PROPERTY CREATED BY SOME OTHER INSTRUMENT This Subordination, Non-disturbance and Attornment Agreement (this "Agreement") is made as of _______________, 199_, by and among THE PRUDENTIAL INSURANCE COMPANY OF AMERICA, a New Jersey corporation ("Lender"), Bedford Property Investors, Inc., a California Corporation ("Landlord"), and Leslie's Poolmart, Inc., a California Corporation ("Tenant"). R E C I T A L S: A. Lender will make or has made a loan (the "Loan") to Landlord secured or to be secured by that certain Deed of Trust, Security Agreement and Fixture Filing with Assignment of Rents and Proceeds executed by Landlord, as trustor, in favor of a trustee for the benefit of Lender, as beneficiary (as amended from time to time, the "Deed of Trust") encumbering the property commonly known as Dupont Industrial Center (the "Property"), which Property is more particularly described on Exhibit A attached hereto and incorporated herein by this --------- reference. B. Tenant has leased a portion of the Property (the "Premises") pursuant to a Lease dated as of __________________, 199_ (The "Lease"). C. Lender requires the agreements, statements and assurances contained in this Agreement. Tenant understands that, in making the Loan, Lender will rely on the agreements, assurances and statements made in this Agreement. 1 NOW, THEREFORE, Lender, Tenant, and Landlord agree as follows: 1. Subordination. Tenant agrees that the Lease, and the rights of Tenant ------------- in, to and under the Lease and the Property, are hereby subjected and subordinated, and shall remain in all respects and for all purposes subject and subordinate, to the lien of the Deed of Trust, and to any and all renewals, modifications and extensions of the Deed of Trust, and any and all other instruments held by Lender as security for the Loan. 2. Tenant Not To Be Disturbed. Lender agrees that it will not join Tenant -------------------------- as a party defendant in any action or proceeding foreclosing the Deed of Trust unless such joinder is necessary to foreclose the Deed of Trust, and then only for such purpose and not for the purpose of terminating the Lease. If Lender or any other party shall become the owner of the Premises by reason of foreclosure, whether judicial or non-judicial or other proceedings brought to enforce the Deed of Trust or by deed in lieu of foreclosure (collectively a "Succeeding Owner"), such Succeeding Owner agrees that so long as Tenant is not in default under the Lease or this Agreement (beyond the cure period (if any) granted to Tenant under the terms of the Lease), Tenant's possession or occupancy of the Premises shall not be disturbed, diminished or interfered with by Lender during the remaining term of the Lease. 3. Tenant To Attorn To Lender. If a Succeeding Owner shall become the owner -------------------------- of the Premises by reason of foreclosure, whether judicial or non-judicial or other proceedings brought to enforce the Deed of Trust or by deed in lieu of foreclosure, the Lease shall, subject to the provisions set forth in clauses (a) through (e) below, continue in full force and effect, such Succeeding Owner shall perform (but shall not personally assume) the obligations of the original Landlord thereunder, and Tenant hereby agrees to attorn to the Succeeding Owner as Tenant's lessor, provided, however, that in any and all events, the Succeeding Owner shall not be: (a) Liable for any act or omission of any prior lessor (including Landlord) or subject to any offsets or defenses which Tenant might have against any such prior lessor; (b) Liable or obligated to expand the Property, pay tenant improvement allowances, construct additional improvements or otherwise expend funds which are capital in nature, other than expenses for ordinary maintenance and repair; 2 (c) Liable to reconstruct the Premises or the Property to the extent insurance proceeds are not available therefor; (d) Liable for any obligation to indemnify or reimburse Tenant, any leasehold mortgagee, or any other third party or any of their respective successors and assigns from and against any loss, liability, damage or cost relating to or arising from the presence of any toxic or hazardous materials on, under or about the Property; or (e) Liable or bound by any right of first refusal or option to purchase all or any portion of the Property set forth in the Lease; (f) Bound by any material amendment or material modification of the Lease made without its consent; (g) Liable to Tenant for any security deposit paid to any prior landlord (including Borrower) which security deposit was not transferred to Lender or Purchaser (h) Bound by any rent or additional rent which the Tenant might have paid for more than the current month to any prior landlord (including the Borrower); (i) Bound by any provision of Section 6.2(c) of the Lease, or any other indemnification provision of the Lease relating to Landlord's obligation to indemnify Tenant for matters arising out of the presence, use or disposal of hazardous or toxic substances on the Property. The agreements to attorn contained in this Paragraph are intended to be self-effectuating in favor of any Succeeding Owner. Nevertheless, upon written request Tenant shall provide such written evidence as may be reasonably required by any Succeeding Owner of the continuing effectiveness of Tenant's obligations under this Agreement and the Lease as modified by this Agreement. 4. Rental Payments. Tenant agrees that upon written demand from Lender at --------------- any time prior to release of the Deed of Trust, it will pay rent under the Lease to Lender. Landlord hereby releases Tenant from all claims arising out of Tenant's payment of rent as instructed by Lender in writing. 5. Lender's Notice of Default and Options to Cure. Tenant agrees that, ---------------------------------------------- until release of the Deed of Trust, it shall not invoke any 3 remedies under the Lease for breaches or defaults by the Landlord without having first given to Lender (i) written notice of such default and (ii) the greater of (a) 30 days after the period provided under the Lease for cure by the Landlord of such default or (b), if cure of such default requires possession of the property, 30 days after Lender has obtained possession within which to cure such default. Notwithstanding any provision contained in this Agreement to contrary, (x) Lender shall be under no obligation to cure any default under the Lease, and (y) Tenant's obligation contained herein to forbear exercise of its rights and remedies under or with respect to the Lease shall not be defeased by Lender's failure to cure, (A) any default of Landlord described in clauses 3(a) through (e), inclusive, or (B) any other default under the Lease that cannot reasonably be cured through the expenditure of money (i.e., the bankruptcy of Landlord). 6. Assignment of Lease. Tenant understands that Landlord's interest in the ------------------- Lease has been assigned to Lender in connection with the Loan and that no amendment modification or termination of the Lease shall be effective unless approved in writing by Lender. Except as provided herein, however, Lender shall assume no duty, liability or obligation to Tenant under the Lease. 7. Notices. Any notices under this Agreement shall be sent by certified mail ------- to the addresses indicated below. 8. Successors and Assigns. This Agreement shall be binding upon and shall ---------------------- inure to the benefit of the parties and their heirs, administrators, representatives, successors, and assigns. 4 IN WITNESS WHEREOF, this Agreement has been duly executed by the parities hereto as of the day and year first above written. LENDER: THE PRUDENTIAL INSURANCE COMPANY OF AMERICA, a New jersey corporation By: -------------------------------- Its: ---------------------------- Address: Four Embarcadero Center Suite 2700 San Francisco, CA 94111 LANDLORD: , a -------------------------------- -------------------------------- By: -------------------------------- Its: ---------------------------- Address: -------------------------------- -------------------------------- -------------------------------- 5 TENANT: ____________________, a ____________________ By: ________________________ Its: ____________________ Address: _________________________ _________________________ _________________________ 6 EXHIBIT A [REAL PROPERTY DESCRIPTION] 7 -----END PRIVACY-ENHANCED MESSAGE-----