ITEM 1. BUSINESS
EXCEPT FOR THE HISTORICAL INFORMATION CONTAINED HEREIN, THE MATTERS DISCUSSED IN THIS REPORT ON FORM 10-K ARE FORWARD-LOOKING STATEMENTS WHICH INVOLVE RISKS AND UNCERTAINTIES, INCLUDING BUT NOT LIMITED TO ECONOMIC, COMPETITIVE, GOVERNMENTAL AND TECHNOLOGICAL FACTORS AFFECTING THE COMPANY'S OPERATIONS, MARKETS, PRODUCTS, SERVICES AND PRICES, AND OTHER FACTORS DISCUSSED IN THE COMPANY'S FILINGS WITH SECURITIES AND EXCHANGE COMMISSION.
GENERAL
Certified, a California corporation organized in 1922 and incorporated in 1925, is a wholesale grocery distributor which does business primarily on a cooperative basis with those patrons who qualify and have been accepted as "member-patrons." Certified is owned by its member-patrons, which are primarily independent grocers, and is operated and taxed on a cooperative basis. Certified also does some business on a cooperative basis with some patrons who are not member-patrons and who are referred to as "associate patrons." Pursuant to Certified's Bylaws, the net earnings of Certified on business done on a cooperative basis are distributed as patronage dividends to member-patrons and associate patrons based on the volume of such business transacted with the patron. For the fiscal year ended August 31, 1996, declared patronage dividends totalled $13,200,000.
Certified also does business on a nonpatronage basis with other customers and in some instances with member-patrons and associate patrons. Certified's subsidiaries do business on a nonpatronage basis with member-patrons, associate patrons and other customers.
Patrons engaged in the retail grocery business who purchase 350 or more dry grocery cases weekly (approximately $5,000), or whose combined average weekly purchases (excluding cigarettes) are $5,000 or more, are required to become member-patrons. Associate patrons generally purchase 200 or more dry grocery cases weekly and have combined average weekly purchases of less than $5,000. At August 31, 1996, Certified had 491 member-patrons operating a total of 2,361 retail food stores and 265 associate patrons operating a total of 624 retail food stores.
The following table shows the number of patrons and stores operated by such patrons at the end of each of the respective fiscal years:
STRATEGY
During fiscal 1995, Certified developed a strategic initiative designed to "re-invent" the Company and fundamentally change the way it conducted its business. This initiative is called "C(3)" -- Certified's Commitment to Customers. At the heart of the C(3) plan is a new corporate mission statement that serves as a guide for Certified's progress well into the next century:
TO BE THE MOST COST EFFECTIVE, QUALITY-DRIVEN COMPANY THAT PROVIDES WORLD-CLASS SERVICES AND COMPLETE PRODUCT SELECTION BY CREATING A PARTNERSHIP WITH RETAILERS AND STRATEGIC ALLIANCES WITH SUPPLIERS.
During the past year, Certified has worked hard to develop and maintain partnerships with the various business segments that are critical to the continuing success of Certified and its members, such as member retailers, vendors, consumers and employees. Certified, its vendors and its members are working to form a "virtual chain," an organization that rivals chain operations in terms of operating efficiencies, commitment to technology, transfer and exchange of information and delivery of world-class services.
Certified is developing effective partnerships by establishing and maintaining an effective working relationship with each business segment, a relationship that provides mutual benefits for both parties over both the short and long-term. The Company is trying new ideas, making new commitments and, in many cases, doing things quite differently from the way they were done in the past.
In fiscal 1996, Certified made significant progress in a number of key functional areas of the Company, gains that were due largely to new partnerships forged with customers, suppliers and employees. These partnerships, along with a number of other programs and strategic initiatives now underway, have not only improved the Company's financial position, they have restored its seven decade reputation as an innovative, aggressively growing force within the wholesale grocery industry.
While 12 months is too short a period to constitute a long-term business trend, the Company is encouraged by the early success of its ongoing partnership program and has committed additional resources toward expanding the overall effort into the current fiscal year and beyond.
AN INNOVATIVE PARTNER
An effective way to establish and maintain a successful partnership with a key business segment is to come up with an innovative idea and help facilitate its implementation. During fiscal 1996, Certified developed a number of innovative ideas and then worked closely with members and customers to launch them successfully.
Early in the year, Certified subsidiary Grocers Equipment Company ("GEC") unveiled a banner store program designed to introduce modern technologies and merchandising strategies to older stores by converting them into state-of-the-art retail operations with new layouts and interior decor. The first two formats in the program -- conventional (Apple Market) and limited assortment (Total Value) -- emerged from the design phase to full-fledged pilot programs and are now in the process of being implemented Company-wide.
APPLE MARKETS
The Apple Market program was designed to increase store traffic by upgrading the design and format of older retail stores from the inside-out. Although Apple Markets are independently owned and operated, they have the look and feel of a chain store because each one carries the same name and logo, offers the same quality products, uses a consistent merchandising approach and employs the same design and decor package throughout the store.
Certified also provides each store with a host of advertising tools, marketing and promotional programs and plenty of in-store merchandising support, such as produce and meat specialists who assist with operations, merchandising, scheduling and training.
In early tests of the Apple Market concept, shoppers reacted positively to the format, giving the stores high marks for a clean, upscale look, a pleasant shopping atmosphere and a consistent, well thought-out store design. This has prompted an initial surge of interest from Certified members who desire to convert their stores to the Apple Market format.
The first Apple Markets opened for business in Southern California in the fall of 1996, while three Apple Markets are currently open in Northern California. Certified anticipates a roll-out of approximately 20 such stores during fiscal 1997.
TOTAL VALUE
In addition to the Apple Market program, Certified began testing a limited assortment format, Total Value, during 1996. This particular format, which consists primarily of private label items, has been extremely successful in other areas of the country. Certified's efforts in 1996 focused on developing a limited assortment store to meet the specific needs of Certified's diverse customer base, and initial tests revealed positive results.
IMPACT PRICING
In 1996, Certified inaugurated its new partnership with retailers with the introduction of a customer-centered impact-based pricing program. Impact-based pricing is a new approach for Certified, and one that makes sense for a company committed to forging partnerships with its customers. The new pricing program is based on the premise that customers who order efficiently contribute to, and should benefit from, Certified's cost efficiencies. Impact-based pricing is a volume incentive pricing program that recognizes the benefits and efficiencies of order size and calculates fees primarily at the category level. This allows lower fees to be charged for price sensitive categories, as well as specific high volume and high value items.
Certified is committed to the success of impact-based pricing as a mutually beneficial way to satisfy the varying needs of both wholesaler and customer. For that reason, in conjunction with the launch of impact-based pricing, Certified representatives met with retailers on an individual basis to explain both how the program works -- and how they could make the program work best for them. Initial results showed the program is working effectively, as evidenced by significant changes in many retailers' ordering patterns.
EMPLOYEES
Certified is also using innovative ideas to establish a progressive, long-term partnership with its employees, a business segment that plays a key role in the future success of the company.
For example, in February 1996, Certified President and Chief Executive Officer, Alfred A. Plamann, invited the Company's 2,400 employees to join him in creating a partnership to form a "new" Certified during a satellite teleconference that was transmitted to the Company's Commerce, Stockton and Fresno warehouses. During the meeting, Mr. Plamann made it clear that the "new" Certified is a company that embraces change -- and that employees of the Company are the drivers of that change.
Another innovative idea, launched a few months ago, brought together employees from the Company's warehouses and the purchasing department to discuss how their functions are interrelated and could be made more efficient with better communication. The program, however, wasn't limited to meetings and cursory discussions. Employees from purchasing and operations "switched jobs" for a day to gain hands-on experience and a firsthand perspective of what it takes to get the right products to customers on a daily basis. The net result? Enhanced distribution efficiencies, better and smarter purchases, and better served customers.
A PARTNER IN TECHNOLOGY
Because keeping abreast of technology is crucial in an increasingly competitive marketplace, one of Certified's primary goals during fiscal 1996 was to make technology more accessible to independent retailers -- and to upgrade its own information systems. To accomplish this, the Company focused on developing two technology-based partnerships -- an external partnership designed to facilitate technology enhancement with member retailers and an internal partnership designed to facilitate the implementation of new, state-of-the-art information systems throughout the Company.
On the external side, Certified made an all-new interactive ordering system available to customers to help them maximize their efficiencies. Certified's interactive ordering system enables retailers to access the warehouse inventory electronically to determine what's available and what's out-of-stock, calculate the efficiency of their order by cube size and then electronically transmit their order by simply pressing a button. The system shows average weekly purchases, as well as base cost, which helps customers maximize load building and make the most of impact-based pricing.
Early results of the partnership program are showing a significant positive impact. In some instances, retailers have consistently been able to reduce their ordering time by half. Other retailers report that the system is saving them money because it enables them to capitalize on discounts and construct more efficient orders. The program also is benefiting Certified because more efficient orders are resulting in consolidation of smaller orders and fewer deliveries, all of which result in lower handling and transportation costs.
Internally, Certified worked hard to create a partnership with employees and outside vendors that enabled the Company to make the first substantial changes in the Company's information system in more than two decades. Among the results achieved by the Company are a complete restructuring of the Information Services department to create a focus on virtual chain technology, the installation of new general ledger, payroll and human resources systems, and the conversion of the Company's host-based database system to one that is infinitely more flexible and capable of linking directly with Certified's retailers.
A PARTNER IN CUSTOMER SERVICE
Certified's mission statement clearly identifies "world-class services" as a cornerstone of the "new" Certified. Consequently, the only realistic method for achieving this superlative was to create and develop an all-new system devoted exclusively to serving the informational needs of Certified's members and customers.
One of the most exciting achievements for Certified in this area was the implementation of the Single Point of Contact ("SPOC") customer service center - -- a comprehensive and reliable communications system designed specifically to answer customer questions. Priority number one was quick response time, and throughout the year, a cross-functional team of Certified employees worked on designing a system that would yield a wide range of information in a very short period of time.
The result is that customers now have just one number to call for virtually any information request. Trained SPOC representatives have information on-hand to immediately answer inquiries on such topics as invoices, delivery status, how to become a new customer, company capabilities and new product information. For questions falling outside the range of expertise of the SPOC representative, a "network" of trained personnel throughout the Company work to quickly and efficiently obtain the requested information. To ensure quality control, a computerized tracking system was installed to follow inquiries and their responses.
In short, the system was designed to make it as easy as possible for customers to receive information from Certified -- a critical first step for a Company that is staking its future on its ability to provide world-class services to its customers in a virtual chain environment.
Exceptional service, however, isn't just limited to activities involving the SPOC center. To better serve retail customers when orders are delivered to their stores, Certified recently initiated a new program whereby Company truck drivers distribute Customer Feedback Forms to retailers when orders are delivered.
The forms ask retailers for input on the condition of the load, how it was stacked on the pallet, if any damage occurred en route, and if the order was accurately picked. Once collected, the information is immediately presented to appropriate contacts at the warehouse so problems can be resolved as quickly as possible.
Early results from the program show that retailers appreciate the Company's efforts to improve the quality of its shipping operation and that Company employees -- drivers and warehouse personnel -- are welcoming the chance to participate in an effort to improve the Company's overall rates of efficiency.
Along the same lines, Certified's bakery division recently launched a full-service merchandising program to better serve retailers at the point of delivery. Now, representatives from Certified's bakery not only deliver quality bread products, they also stock shelves, rotate product and provide merchandising support.
Customer input is important to Certified and essential to serving them effectively. Last year, Certified recruited an advisory group of retailers to help develop a new marketing guide for members and customers in Northern and Southern California. By asking retailers what they would like to see in the guide, Certified was able to best accommodate their needs. The result was a "new and improved" marketing guide with news retailers can use, such as promotional information, category analysis, and trends.
Providing an array of business growth opportunities to customers is yet another way Certified is able to effectively serve the needs of its membership. For example, Certified created a tremendous growth opportunity for members when it purchased 9 Petrini's supermarkets from Bay Area Foods, Inc. By re-selling these supermarkets to existing members, and other retailers who became new Certified members, Certified helped achieve a major part of Certified's goal to help retailers grow. Along with the Petrini's stores, these purchasing retailers brought some 18 new stores to Certified.
AN EFFICIENT, GROWING PARTNER
A good partnership is one that is forward-moving and committed to maximizing the capabilities of the parties involved for the benefit of all. In 1996, Certified successfully stepped up its efforts to expand productivity and efficiency in various areas.
In Certified's Manufacturing Division, the dairy was able to increase its production to nearly 100 percent of capacity with the addition of a $45 million customer, Ross Swiss Dairies. Producing approximately one million gallons of milk a week, Certified's dairy is now one of the largest -- and most efficient - -- in the state.
Certified's bakery has recently added a significant amount of business to its day-to-day operations, as well. This fall, Certified's bakery announced a partnership with St. Louis-based Earthgrains-TM- to produce and distribute the company's line of premium bread products. This addition to the bakery's production will significantly enhance its overall efficiency.
Yet another area involves the expansion of Certified's Meat Division into Northern California. As fiscal 1997 commenced, the first deliveries of meat and service deli products to customers in the North were made from the newly established Meat Division, Certified's Southern California Meat Division expanded its presence into Mexico, and currently supplies approximately 120,000 pounds of poultry per week to customers there.
In a continuing effort to reduce costs and inefficiencies from its distribution system, Certified in fiscal 1996 restructured its warehouse operations to emphasize speed, quality and simplicity. However, this is just one piece of a much larger puzzle. Distributing high-quality grocery products to consumers quickly and accurately requires a synergy between all links in the virtual chain, beginning with Certified's vendors.
Forging new alliances with vendors was a main objective at Certified last year, and as a team they worked together to create new and innovative programs. With a common goal in mind -- moving grocery products through the warehouse as quickly and efficiently as possible, Certified increased its focus on ECR (Efficient Consumer Response) and other emerging industry practices that are streamlining the distribution business and making it far more efficient.
SUMMARY
At the heart of Certified's mission is partnership -- working together to achieve a common goal. In the past year, partnerships played a vital role at Certified Grocers. Working with retailers, fostering employer/ employee relationships within the Company and teaming with vendors all contributed to Certified's significant achievements in fiscal 1996.
As a team dedicated to serving the needs of today's consumers, Certified and independent retailers developed new programs and implemented new technologies. Employees within Certified participated in
cross-functional group training programs to gain a better understanding of how the jobs they do affect the Company as a whole. Lastly, fiscal 1996 marked the beginning of a new commitment by Certified and its vendors to work together to build programs that provide consumers with the best products at the best price, every day.
During fiscal 1997, Certified will continue to target growth as its number one objective and will continue to use the partnership concept as a means toward that end.
PRODUCT LINES
The following table summarizes the Company's sales by product line, for each of the respective three fiscal years indicated below:
The Company, with headquarters in Los Angeles, distributes product from facilities in Southern and Northern California. Certified sells a full line of branded grocery and nonfood items supplied by unrelated manufacturers and also sells merchandise under its own private labels, including the Springfield, Gingham, Special Value, La Corona, and Golden Creme labels. Certified also operates its own bakery and dairy facilities. Grocers Specialty Company ("GSC"), a subsidiary, carries a product line consisting of specialty-type items, such as ethnic and gourmet foods, and also carries a general product line sold to non-member retailers. General merchandise items including housewares, hardware and health and beauty care products are primarily sold by another subsidiary, Grocers General Merchandise Company ("GM").
WHOLESALE DISTRIBUTION
Certified's cooperative wholesale business represented approximately 82% of fiscal 1996 sales. The wholesale business includes a broad range of branded and private label products in dry grocery, frozen, delicatessen, boxed meat, service deli, ice cream, bakery and dairy.
The Company also conducted certain food and related nonfood distribution operations through GSC and GM, which collectively accounted for approximately 14% of fiscal 1996 sales. GSC operates out of a combination of mechanized and conventional warehouses in Commerce, California. GM distributes its products from a highly automated general merchandise facility located in Fresno, California.
The Fresno facility is operated by a joint venture known as Golden Alliance Distribution ("GAD"). GAD was formed in 1992 and is owned 50% by GM and 50% by Food 4 Less GM, Inc. ("F4LGM"). Fixed costs of operating GAD are shared equally by each partner, while variable costs are shared based on a formula that takes into consideration each partner's volume. The basic term of the joint venture expires in 2002, but may be terminated earlier pursuant to other provisions outlined in the joint venture agreement.
During 1995, the parent of LGM merged with Ralphs Grocery Company ("Ralphs"). Since the completion of the merger in June 1995, Ralphs has reduced its weekly purchases from the Fresno warehouse by approximately 80%. Certified is currently in discussions with Ralphs regarding their long-term plans for
utilizing the Fresno facility. The resolution of these discussions may impact the Company's operations in the Fresno facility and may have an adverse effect on the future profitability of GM if Certified is unable to replace this volume.
During the year, the Company sold its common stock ownership in Hawaiian Grocery Stores, Ltd. ("HGS"). HGS is a distributor of a variety of dry grocery, frozen and delicatessen products in the Hawaiian islands. Pursuant to the transaction, the Company retained a preferred stock ownership interest in HGS, as well as supply and joint purchasing arrangements.
The Company distributes its various product lines from four warehouse complexes and two manufacturing plants (dairy and bakery) located in the Los Angeles metropolitan area, a dry and refrigerated warehouse in Stockton, California, and one mechanized warehouse in Fresno, California.
The Company is not dependent upon any single source of supply in any of its businesses. Management believes that alternative suppliers are available for substantially all of its products and that the loss of any one supplier would not have a material adverse effect on the Company's business.
MARKETING AND DISTRIBUTION OF PRODUCTS
The Company currently markets and distributes in six principal geographical areas: Southern California, Northern California, Arizona, Southern Nevada, Hawaii and various foreign countries in the South Pacific and elsewhere. The competitive climate in each of these regions is individually unique and as a result, the Company offers a diversified selection of products and services to better enable the customer to meet its consumers needs and maintain a competitive edge.
As a cooperative organization, the Company principally markets its goods and services to the membership through bi-weekly order books, weekly buying guides and price bulletins. Buying guides list current promotional items and other product related information. The price bulletins show promotional and advertising allowances available from the various manufacturers and suppliers.
The Company, through its Sales and Service department, assists its membership with many special service needs. A sales and service representative presents to the customer the available services that the Company offers.
The Company offers multiple methods for customers to place their orders. During fiscal 1996, the Company developed an interactive ordering system that enables customers to identify errors, warehouse out-of-stocks and percentage of trailer capacity prior to transmitting an order. This system is expected to be available to all members during fiscal 1997. The Company also offers its customers the option of submitting orders electronically with an order transmitting device, or by telephoning the order to a customer service representative.
The Company offers a service program in its ice cream, bakery, specialty food and general merchandise businesses. Customers utilizing the service program account for 52% of ice cream sales, 5% of bakery sales, 25% of specialty sales, and 12% of its general merchandise sales for 1996. In aggregate, service programs account for 3% of the Company's total 1996 sales. The service program consists of a Company service representative visiting a participating store, checking stock quantities, refacing shelf stock and ordering a replenishment shipment. When necessary, service personnel will perform a reset and remerchandising of a store's products to increase store-level sales. The above services are provided at an additional charge depending on service level agreements.
SERVICES AVAILABLE TO MEMBERS
The Company provides a variety of services to its members to help them maintain a competitive position within the retail grocery industry. The Company's services to members include:
PRICING SERVICES. Subscribing members provide the Company with either the retail price or the percentage profit margin they wish to maintain on each item, and such figures are shown on each invoice and on each case of goods delivered. The patron may update this pricing structure weekly in accordance with changes in wholesale costs and competitive activity in its particular market area.
ORDERING ASSISTANCE. The Company provides various programs to increase the speed and efficiency of the order transmittal process. It offers electronic units which retailers can use to transmit orders electronically by telephone. GEC offers a menu of retail technology options for selection by members. To eliminate order errors and minimize freight and service charges the Company has introduced "InterActive Ordering." The system utilizes a multifunctional FM hand-held scanner that transmits to a Windows 95-TM- PC in the store that is linked to the Company's mainframe computer and allows for electonic data interchange of timely, valuable information.
POINT OF SALE COMPUTER SERVICES. The Company provides retailers with assistance and computer services in connection with the use of scanners at the checkout counter.
VELOCITY REPORTS. The Company provides detailed summaries of all items ordered by the retailer from the Company, together with historical pricing and profit margin data.
STORE DEVELOPMENT. The Company assists members in equipment procurement, store engineering and site development activities. For a fee, the Company provides plot plans, floor plans, and other drawings for new or remodeled stores, construction cost estimates and design consultation. In addition, many types of store fixtures and equipment can be obtained at a price reflecting volume purchase discounts earned by the Company.
FINANCE PROGRAMS. The Company assists qualified members in remodeling and expanding existing retail locations and developing new retail outlets, as well as assisting in the financing of inventory and equipment needs.
RETAIL COUNSELING. The Company provides members with experienced retail counselors, knowledgeable in all phases of retail grocery operations, to assist patrons in planning their sales and profit growth. The counselors work closely with owner/managers to solve problems and identify opportunities for improving operations. They also advise patrons of current trends and developments in the retail grocery industry.
RETAIL ADVERTISING. The Company assists in the formation of retail ad groups consisting of several members within a given area. Each group is provided with an ad group coordinator who assists in preparing advertising layouts, assures that advertising dollars are identified and collected from vendors and other sources, and serves as liaison between the ad group and suppliers.
INSURANCE SERVICES. The Company's insurance programs are serviced by Grocers and Merchants Insurance Services, Inc. ("GMIS"). GMIS, which is licensed as an insurance agency, acts as agent or broker for unrelated underwriters, which are the issuers of the insurance policies. Certain of the insurance companies reinsure portions of insured risks pursuant to reinsurance contracts with Springfield Insurance Company, Limited ("Springfield-Bermuda"), which is incorporated and licensed in Bermuda, or Springfield Insurance Company, Inc. ("Springfield-California"), which is incorporated and licensed in California. Both insurance companies are wholly owned subsidiaries of the Company. GMIS provides an insurance program for members, employees of members, and employees of the Company. Under the commercial store package, coverage includes fire, store liability, automobile, fidelity, theft, bonds, workers' compensation and business interruption. Insurance offered by the life and health department includes individual and group health plans, life insurance, mutual funds, disability income and estate planning. The personal insurance department offers homeowners, automobile, motorcycle, motorhome, boat and aircraft coverages.
SITE IDENTIFICATION AND ANALYSIS. The Company assists its retailers who are growth oriented in identifying potential new store locations. Once the Company or a retailer has identified a particular site as having potential for new store development, the Company can commission an independent site feasibility analysis of the location, which includes a study of the demographics of the general area, the market competitors located in the primary and secondary trading areas, and what volume a new store should expect in the location being considered.
DATA PROCESSING. The Company provides data processing services and customized software programs for its customers using a direct computer link to many of its customers' stores. The Company can provide a
retailer with a product and price file for virtually every product, with pricing by the appropriate zone in which a retailer is located. Retailers can also order all inventory directly from the Company using their store-to-warehouse computer link and an order entry system.
TRUCKING OPERATIONS
The Company's trucking fleet is used in the transportation of food and related items from suppliers to the Company and in the delivery of such items to its customers. These operations are conducted principally in California, Arizona and Nevada. The Company's vehicle fleet consists of approximately 290 tractors, 745 trailers, and 13 pickup vans. Approximately 55% of the fleet is owned by the Company; the balance is leased. Such leases generally have initial terms of 8 to 10 years and provide for renewal or purchase options at fair market value at expiration of the lease.
SUPPORT BUSINESSES
The Company's subsidiary retail support businesses collectively accounted for approximately 2% of the Company's total sales in fiscal 1996, 1995, and 1994. Principal retail support operations include Grocers Capital Company ("GCC"), which provides financing for inventory purchases, equipment purchases, store remodeling and new store acquisitions, and GEC, which provides additional support in store planning and development services, retail pricing comparisons, scanning support and also sells and leases equipment to the Company's customers. The Company also provides insurance brokerage services for retailers through GMIS and underwrites selected insurance risks through two insurance subsidiaries.
RETAIL BUSINESSES
During the year, the Company introduced a banner store program designed to convert older stores into state-of-the-art retail operations. The first two formats in the program -- conventional (Apple Market) and limited assortment (Total Value) emerged from the design phase to a pilot program and are now in the process of being introduced to the marketplace. Apple Markets are independently owned and operated; however, they have the look of a chain store because each store carries the same name, logo, and design layout throughout the stores. The limited assortment format, Total Value, consists primarily of private label items and some branded products sold at attractive prices with limited service. This format has been extremely successful when employed by wholesalers in other areas of the country. Other formats to meet the diverse needs of independent retailers are also in the development stage.
COMPETITION
The food industry is characterized by intense competition and low profit margins. In order to compete effectively, the Company must provide its patrons with the capability to meet rapidly fluctuating competitive market prices, provide a wide range of perishable and nonperishable products, make prompt and efficient deliveries, and provide the services which are required by modern market operations. The Company competes with local, regional and national grocery wholesalers and with a number of major manufacturers which market their products directly to retailers. The Company's success is dependent upon its ability to supply food and nonfood products and services to its patrons in a cost-effective manner and upon the ability of its independent retail customers to compete with the large chain store operations.
CUSTOMERS
The Company's members consist primarily of independent retail grocery store operators ranging in size from single store operators to multiple store and chain store operators. The typical member in Southern California serves a high-density urban population and the Company's typical Northern California member serves a less densely populated area. A typical member-patron retail grocery store consists of approximately 20,000 square feet.
The Company's ten largest customers accounted for approximately 34% of net sales in fiscal 1996 and 33% of net sales in fiscal 1995 and fiscal 1994. Management believes there is no single customer whose loss would have a material adverse effect on the Company's business.
STOCK OWNERSHIP
CLASS A SHARES
Class A Shares are issued to and may be held only by member-patrons of Certified. In order to qualify for and retain membership as a member-patron, a person or other entity (1) must patronize Certified in such amounts and manner, and otherwise must comply with the Bylaws and with such rules, regulations and policies, as may be established by Certified; (2) must have and maintain acceptable financial standing; (3) must make application in such form as is prescribed; and (4) must be accepted as a member after approval by the Board of Directors.
Each member-patron of Certified is required to hold exactly one hundred Class A Shares. The price for such shares will be the book value per share of the outstanding shares at the close of the fiscal year ended prior to acceptance as a member-patron.
CLASS B SHARES
The Board of Directors may approve the issuance of Class B Shares to any person and for any purpose. However, the Board of Directors does not intend to authorize the issuance of Class B Shares except to member-patrons.
With the exception of new members (see below), each member-patron is required to hold Class B Shares having combined Issuance Values (as defined below) in an amount equal to the lesser of the member-patron's required subordinated cash deposit (see Item 1. BUSINESS -- "Patron Deposits") or twice the member-patron's average weekly purchases ("Class B Share Requirement"). For purposes of this requirement, each Class B Share held by a member-patron is valued at the book value of Certified's outstanding shares as of the close of the fiscal year ended prior to the issuance of such Class B Share ("Issuance Value").
Class B Shares are generally issued to new member-patrons as part of the patronage dividends (see Item 1. BUSINESS -- "Patronage Dividends") paid to such member-patron over a period of five consecutive fiscal years, beginning with the second fiscal year following admission as a member-patron. The Class B issuance formula provides that the member-patron will hold Class B Shares having Issuance Values equal to 20% of the member-patron's Class B Share Requirement after the first patronage dividend, 40% of the Class B share Requirement after the second patronage dividend, and so on until the member-patron reaches 100% of their Class B Share Requirement after the fifth patronage dividend.
If following the issuance of Class B Shares as part of the patronage dividend for any given fiscal year, the member-patron would not hold Class B Shares having combined Issuance Values equal to the amount of Class B Shares required to be held by the member-patron, then additional Class B Shares would be issued to the member-patron in a quantity sufficient to achieve the required amount. Issuance of these additional Class B Shares would be paid for by charging the member-patron's cash deposit account in an amount equal to the Issuance Values of such additional Class B Shares.
During the fiscal year ending August 30, 1997, the book value of Certified's Class A and Class B Shares, and hence the price, per share is $167.94.
CLASS C SHARES
Class C Shares are held one share each by the members of the Board of Directors. Each Board Member purchases one Class C Share for $10. Class C Shares are non-voting shares and would share in liquidation only to the extent of $10 per share.
PATRONAGE DIVIDENDS
Certified distributes patronage dividends based upon its net earnings from patronage business during the fiscal year. The divisional patronage amounts are approved by the Board of Directors. Certified's net earnings from patronage business are distributed to each patron in proportion to the dollar volume of patronage purchases from each division of Certified by the patron. Patronage dividends are distributed after the close of the fiscal year, except for dividends on dairy products which are distributed after the close of each fiscal quarter.
The following table shows the patronage dividend experience of the Company during the past three fiscal years.
Certified's bylaws provide that patronage dividends may be distributed in cash or in any other form which constitutes a written notice of allocation under Section 1388 of the Internal Revenue Code. Section 1388 defines the term "written notice of allocation" to mean any capital stock, revolving fund certificate, retain certificate, certificate of indebtedness, letter of advice, or other written notice, which discloses to the recipient the stated dollar amount allocated to the recipient by Certified and the portion thereof, if any, which constitutes a patronage dividend.
Patronage dividends are currently paid out in the following order and manner: first, member-patrons receive 20% in cash; second, member-patrons receive the required amount of Class B Shares (see Item 1. BUSINESS -- "Stock Ownership"); third, the remainder is credited to the member-patron's deposit account (see Item 1. BUSINESS -- "Patron Deposits").
In addition, Certified issued subordinated patronage dividend certificates ("Patronage Certificates") evidencing the retention of a portion of patronage dividends for fiscal years 1993, 1994 and 1995. The amounts retained were deducted from each member-patron's patronage dividend prior to the issuance of Class B Shares to such member-patron.
Patronage Certificates are unsecured general obligations of Certified, are subordinated to certain other indebtedness of Certified, and are nontransferable without the consent of Certified. The Patronage Certificates are subject to redemption, at any time in whole and from time to time in part, without premium, at the option of Certified, and are subject to being set off, at the option of Certified, against all or any portion of the amounts owing to the Company by the holder.
The Board of Directors determined that in fiscal 1993, 1994 and 1995, the portion of the patronage dividend retained and evidenced by the issuance of Patronage Certificates was 20% of the fourth quarter fiscal 1993 dairy division patronage dividend, 20% of the fiscal 1994 dairy division patronage dividends and 20% of the first and second quarter fiscal 1995 patronage dividends for the dairy division. The Patronage Certificates were 40% of the fiscal 1993, 1994 and 1995 patronage dividends for non-dairy products. The Patronage Certificates have a seven year term, and bear interest payable annually on December 15 in each year.
The following table represents a summary of the Patronage Certificates issued and their respective terms in fiscal 1993, 1994 and 1995.
During fiscal 1996, the Company set off approximately $12,000 in Patronage Certificates against a portion of amounts owed to the Company by the holders.
For the third and fourth quarters of fiscal 1995, the Company suspended the retention of any of the dairy division patronage dividends due to competitive market conditions. During fiscal 1996 the retention program was suspended for all divisions, including the dairy. While the Company suspended the retention program for fiscal 1996, the retention program has not been discontinued.
ALLOWANCES
The Company provides allowances to patrons based on the quantity and manner in which goods are ordered. In addition, the Company makes available to patrons advertising and promotional allowances of suppliers and manufacturers.
PROMOTIONS AND REBATES. The Company's weekly purchasing guide sets forth advertising allowances and conditions of performance made available by various suppliers and manufacturers. The allowances are either funded during the promotional period as a reduction in price or after the promotion. The patron is required to submit proof of performance based on the specific conditions of each allowance program.
REFLECTED ALLOWANCES. Manufacturer and supplier allowances which do not require specific performance are passed to patrons in the form of a reduction in product price.
PRICE RESERVATION. The Company offers the ability for customers to reserve price reductions on various products that a manufacturer or supplier has placed on deal. The customer notifies the Company of the quantities to be reserved, and the Company continues to ship to the customer at the lower price after the temporary price reduction has been removed. For this, the customer must make additional deposits to the Company and pays a storage cost for the cases reserved.
ANNUAL VOLUME DISCOUNT. Annual volume discounts are given to accounts who meet certain purchasing levels.
PALLET INCENTIVE. The Company has a pallet incentive program in the dry grocery, frozen food and delicatessen divisions. This program is designed to recognize distribution efficiencies for the Company in selecting full pallet quantities of product.
TERMS OF SALE
The Company renders to its cooperative members weekly statements of account. Statements include deliveries through and including the date of the statement. Members have seven days from date of the statement to pay, and those not paid within seven days are considered delinquent. Since members have seven days in which to mail payment, and since additional deliveries occur during this time which are billed on a subsequent statement, the Company may have receivables outstanding at any given time which average approximately two weeks' sales.
ADDITIONAL CHARGES
The Company currently makes several charges in addition to the listed prices for merchandise.
SERVICE FEES. Dry grocery, frozen food and delicatessen divisions have moved to a new C(3) Impact-Based Pricing program. This program is a volume incentive pricing program that recognizes the benefits and efficiencies of order size. Impact-based pricing calculates fees primarily at the category level. This allows lower fees to be charged for price sensitive categories, as well as specific high volume and high value items. There are two C(3) Impact-Based Pricing programs for which a store can qualify: They are 1) the Co-op Program and 2) the Partnership Program. The Co-op Program includes pricing brackets for purchases of grocery, frozen food, and delicatessen. Savings opportunities can be realized as a store increases average order size and moves into a better pricing bracket. The Partnership Program is available to retailers that meet requirements relating to items such as member status, order size, and division purchase requirements. In fiscal 1997, the Company plans to expand its C(3) Impact-Based Pricing program to other areas of the Company as the next phase of management's re-invention process.
TRANSPORTATION CHARGES. The Company charges its customers for product delivery based on published schedules. Such schedules charge delivery fees on a variable basis depending primarily upon the distance from the Company's supplying warehouse and the amount of capacity or cube used by the load.
PATRON DEPOSITS
The Company requires that its cooperative patrons maintain a subordinated cash deposit equal to the greater of twice the amount of each patron's average weekly purchases or twice the amount of the patron's average purchases, if such purchases are not on a regular basis. Required deposits are determined twice a year, at the end of the Company's second and fourth fiscal quarters, based upon a review of the patron's purchases from certain of the cooperative divisions during the preceding two quarters.
Member-patrons meeting certain qualifications established by the Board of Directors may elect to maintain a reduced required deposit of $500,000 or one and one-quarter weeks' average purchases, whichever is greater. Presently, two of the Company's largest member-patrons have elected to maintain such reduced deposits. With the consent of the Company, which may be granted or withheld in the Company's sole discretion, a qualified member-patron who has elected to maintain this reduced deposit may later have the deposit increased up to an amount equal to twice the amount of its average weekly purchases. Following such increase, the member-patron will not be permitted to reduce the deposit (even though otherwise eligible to maintain a reduced deposit) for a period of two years without the Company's consent. Further, in all cases, reduction of the deposit will be governed by the subordination provisions to which it is subject. The Company charges interest to those member-patrons who maintain a reduced deposit. Interest is presently charged at the prime rate established by Bankers Trust Company, subject to periodic review and change by the Board of Directors. Interest is charged on the difference between the balance that would have been maintained based on two weeks' purchases and the balance actually maintained.
Under the Company's Deposit Fund Loan Program, member-patrons whose credit has been approved by the Company may finance all or a portion of their deposit requirement. Payments under this program are billed to the member-patron on the weekly statement from the Company. Subject to credit approval, member-patrons may also deposit an amount equal to one and one-half of the patron's average weekly purchases or one and one-half of the patron's average purchases, whichever is greater, and pay the balance of the deposit over a period of 26 weeks, at no interest, by payments on the weekly statement from the Company.
Member-patrons holding Class B Shares are presently given credit against the above described cash deposit requirement based upon the respective book values of such shares as of the fiscal years last ended prior to their issuance. The Company pays no interest on the required deposits. Interest is paid on cash deposits which are in excess of patrons' required deposits.
In addition, patrons who participate in the Company's price reservation program are required to maintain a noninterest-bearing deposit based upon the value of their inventory included in this program. Under the Company's price reservation program, patrons are permitted to submit price reservations in advance for their dry grocery, frozen, delicatessen and general merchandise purchases. For the patron to get the benefit of the price reservation, an actual order must be placed. The price which the patron will be charged is the price in effect at the time of the reservation.
The required deposits of patrons are contractually subordinated and subject to the prior payment in full of certain senior indebtedness of the Company. As a condition of becoming a patron, each patron is required to execute a subordination agreement providing for the subordination of the patron's required deposits. Generally, the subordination is such that no payment can be made by the Company with respect to the required deposits in the event of an uncured default by the Company with respect to senior indebtedness, or in the event of dissolution, liquidation, insolvency or other similar proceedings, until all senior indebtedness has been paid in full.
Upon request, the Company will return to patrons the amount of cash deposits which are in excess of the required deposits, provided the patron is not in default of its obligations to the Company. On termination of membership, patrons are entitled to a return of deposits, less all amounts that may be owing by the patron to the Company. In all cases, however, return of that portion of the patron's cash deposits which consists of required deposits will be governed by the applicable subordination provisions.
TAX MATTERS
The Company is a corporation operating primarily on a cooperative basis. The Company is subject to federal and state income and franchise taxes and must pay other taxes applicable to corporations, such as sales, excise, real and personal property taxes.
As a corporation operating on a cooperative basis, the Company is subject to Subchapter T of the Internal Revenue Code ("Subchapter T"). Under Subchapter T, the Company pays patronage dividends to patrons pertaining to its fiscal year within 8 1/2 months of the close of such fiscal year. To qualify as patronage dividends, payments are made on the basis of the value of the business done with or for patrons, under a pre-existing obligation to make such payment, and with reference to the net earnings from business done with or for the cooperative's patrons. Patronage dividends are paid in cash or written notices of allocation. A written notice of allocation is distributed to the patron and provides notice of the amount allocated to the patron by the Company and the portion thereof which constitutes a patronage dividend.
Under Subchapter T, the Company may deduct, in the fiscal year for which they are paid, the amount of patronage dividends paid in cash and qualified notices of allocation. A written notice of allocation will be qualified if the Company pays at least 20% of the patronage dividend in cash, and the patron consents to take the stated dollar amount of the written notice into income in the year in which it is received. The Company deducts for tax purposes the entire amount of its patronage dividends by paying at least 20% in cash and issuing qualified notices of allocation for the remainder.
The Company intends to continue to make patronage distributions to member-patrons comprised of cash and qualified notices of allocation (including its Class B Shares). At least 20% of patronage dividends will be paid in cash. The Company will notify patrons of the stated dollar amount allocated to them and the portion thereof which is a patronage dividend. Patrons are required to consent to include in their gross income, in the year received, all cash as well as the stated dollar amount of all qualified notices of allocation including the Patronage Certificates and the book value of the Class B Shares distributed to them as patronage dividends.
Patronage Certificates and Class B Shares distributed as part of the patronage dividend are also subject to state income and corporation franchise taxes in California and may be subject to such taxes in other states.
The Company is subject to federal income tax and California franchise tax on net earnings of business with or for patrons which is not distributed as deductible patronage dividends and on net earnings derived from nonpatronage business. The Company files consolidated returns with its subsidiaries, none of which is a cooperative and each of which is therefore subject to tax.
To the extent that Class B Shares are received by the patron as patronage dividends under Subchapter T, the Internal Revenue Service ("IRS") has held that if such Class B Shares are redeemed in full or in part or are otherwise disposed of, there will be included in the computation of the gross income of the patron, as ordinary income, in the year of redemption or other disposition, the excess of the amount realized on the redemption or other disposition over the amount previously included in the computation of gross income. However, since Class B Shares may be issued other than as a part of patronage dividends, it is possible that the IRS could take the position that the proceeds from a partial redemption of Class B Shares should be taxed as a dividend. PATRONS ARE STRONGLY URGED TO CONSULT WITH THEIR TAX ADVISORS FOR FURTHER CLARIFICATION OF THIS ISSUE AND FOR THE IMPACT THE POSITION OF THE IRS MAY HAVE ON THEIR OWN FEDERAL AND STATE TAX RETURNS.
The Company's subsidiaries do not pay patronage dividends and are not taxed in accordance with Subchapter T.
EMPLOYEES
The Company employs approximately 2,400 employees, of whom approximately 1,220 are members of one of several unions, the largest being the International Brotherhood of Teamsters ("IBT"). The IBT contracts cover approximately 1,140 employees and have various expiration dates. The Stockton and Southern California warehouse workers' and truck drivers' IBT contract covers approximately 960 employees and expires on September 13, 1998. The IBT contract which covers approximately 145 Fresno warehouse workers and truck drivers expires on February 3, 1999. The contract which covers approximately 40 mechanical maintenance workers expires on March 29, 1999. The Company believes its labor relations to be good.
ENERGY MATTERS
The Company's operations are dependent upon the continued availability of electric power, diesel fuel, and gasoline. The Company's trucking operations are extensive. Diesel fuel storage capacity represents approximately two weeks average usage. A shortage of diesel fuel and gasoline could materially affect deliveries of merchandise and the activities of the Company's service representatives and, thus, adversely affect the Company's sales.
ITEM 2.
ITEM 2. PROPERTIES
FACILITIES
The Company's corporate offices, warehouses, retail stores, and manufacturing facilities as of August 31, 1996 are summarized as follows:
The majority of the Company's dry grocery, frozen foods and delicatessen warehouse facilities are located in Southern California. The Company owns a 643,000 square foot dry grocery warehouse and a 149,000 square foot refrigerated warehouse in Stockton, California and leases 323,000 square feet of warehouse space in Fresno, California.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
The Company is a defendant in a number of cases currently in litigation or potential claims encountered in the normal course of business which are being vigorously defended. In the opinion of management, the resolutions of these matters will not have a material adverse effect on the Company's financial position or results of operations.
The United States Environmental Protection Agency ("EPA") notified the Company in 1993 that, together with others, it was a potentially responsible party ("PRP") for the disposal of hazardous substances at a landfill site located in Monterey Park, California. Cleanup of this site consists of five phases: site control and monitoring; management and leachate treatment; landfill gas control and landfill cover; final remedy and ground water treatment; and, thirty-year post cleanup site control and monitoring. As of August 1996, the Company's share of cleanup costs for the first three phases was approximately $379,000 as previously established in July 1994. This amount was paid in October 1996. While the Company's share of the cost for the last two phases of cleanup has not yet been established, based upon overall estimates of the range of potential cost, the Company believes that its share of the total cost for all five phases of cleanup will not exceed the amounts which the Company has reserved. As of August 31, 1996, the total reserve established with respect to environmental liabilities is $1.6 million. The Company is pursuing recovery of a portion of its reserve from its insurance carriers.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS
There is no market for the Company's Class A Shares, Class B Shares, or Class C Shares. As of November 1, 1996, the Company's Class A Shares were held of record by 491 shareholders, Class B Shares were held of record by 528 shareholders, and the Company's Class C Shares were held of record, one share each, by the 15 directors of the Company. In the past, the Company has not paid cash dividends on its stock, and it has no intention to do so in the future.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion of the Company's financial condition and results of operations should be read in conjunction with the Financial Statements and notes thereto included under Item 8
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEPENDENT AUDITORS' REPORT
The Board of Directors Certified Grocers of California, Ltd.
We have audited the consolidated balance sheet of Certified Grocers of California, Ltd. and subsidiaries as of August 31, 1996, and the related consolidated statements of earnings, shareholders' equity, and cash flows for the fiscal year then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit 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 audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Certified Grocers of California, Ltd. and subsidiaries as of August 31, 1996 and the results of their operations and their cash flows for the fiscal year then ended in conformity with generally accepted accounting principles.
DELOITTE & TOUCHE LLP
Los Angeles, California October 31, 1996
INDEPENDENT AUDITORS' REPORT
The Board of Directors Certified Grocers of California, Ltd.
We have audited the consolidated balance sheet of Certified Grocers of California, Ltd. and subsidiaries as of September 2, 1995 and the related consolidated statements of earnings, shareholders' equity, and cash flows for each of the two fiscal years in the period ended September 2, 1995. 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 consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Certified Grocers of California, Ltd. and subsidiaries as of September 2, 1995 and the results of their operations and their cash flows for each of the two fiscal years in the period ended September 2, 1995, in conformity with generally accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, the Company changed its method of accounting for income taxes and postretirement benefits other than pensions in 1994 and postemployment benefits in 1995.
COOPERS AND LYBRAND L.L.P.
Los Angeles, California November 27, 1995
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (DOLLARS IN THOUSANDS) AUGUST 31, 1996 AND SEPTEMBER 2, 1995
ASSETS
The accompanying notes are an integral part of these statements.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF EARNINGS (DOLLARS IN THOUSANDS) FOR FISCAL YEARS ENDED AUGUST 31, 1996, SEPTEMBER 2, 1995, AND SEPTEMBER 3, 1994
The accompanying notes are an integral part of these statements.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DOLLARS IN THOUSANDS) FOR FISCAL YEARS ENDED AUGUST 31, 1996, SEPTEMBER 2, 1995, AND SEPTEMBER 3, 1994
The accompanying notes are an integral part of these statements.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (DOLLARS IN THOUSANDS) FOR FISCAL YEARS ENDED AUGUST 31, 1996, SEPTEMBER 2, 1995, AND SEPTEMBER 3, 1994
The accompanying notes are an integral part of these statements.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
PRINCIPLES OF CONSOLIDATION:
The consolidated financial statements include the accounts of Certified Grocers of California, Ltd. and its subsidiaries ("Certified" or the "Company"). Intercompany transactions and accounts with subsidiaries have been eliminated.
NATURE OF BUSINESS:
The Company is a cooperative organization engaged primarily in the distribution of food products and related nonfood items primarily to retail establishments owned by shareholders of the Company. All establishments with which directors are affiliated, as members of the Company, purchase groceries, related products and store equipment from the Company in the ordinary course of business at prices and on terms available to members generally.
The Company's fiscal year ends on the Saturday nearest to August 31. Fiscal years 1996 and 1995 included 52 weeks, while fiscal year 1994 included 53 weeks.
RECLASSIFICATIONS:
Certain reclassifications have been made to prior years' financial statements to present them on a basis comparable with the current year's presentation.
CASH EQUIVALENTS:
The Company considers all highly liquid investments purchased with an original maturity of three months or less to be cash equivalents.
INVENTORIES:
Inventories are valued at the lower of cost (first-in, first-out) or market.
DEPRECIATION:
Depreciation is computed using the straight-line method over the estimated useful lives of the assets which are 40 years for buildings and 10 years for equipment. Leasehold improvements are amortized based on the estimated life of the asset or the life of the lease, whichever is shorter. Expenditures for replacements or major improvements are capitalized; expenditures for normal maintenance and repairs are charged to operations as incurred. Upon sale or retirement of properties, the cost and accumulated depreciation are removed from the accounts, and any gain or loss is included in operations.
POSTRETIREMENT BENEFITS:
Effective August 29, 1993, the Company implemented Statement of Financial Accounting Standards No. 106, "Employers' Accounting for Postretirement Benefits Other Than Pensions" ("SFAS No. 106"). This statement requires that the cost of these benefits, which are primarily for health care and life insurance, be recognized in the financial statements throughout the employees' active working careers. The Company's previous practice was to expense these costs on a cash basis, principally after retirement. The transition obligation is being amortized on a straight-line basis over twenty years as allowed under SFAS No. 106.
POSTEMPLOYMENT BENEFITS:
The Financial Accounting Standards Board ("FASB") issued Statement No. 112 "Employers Accounting for Postemployment Benefits", which is effective for fiscal years beginning after December 15, 1993. Accordingly, the Company conformed to the new requirements in fiscal 1995. The new accounting standard requires an accrual rather than a pay-as-you-go basis of recognizing expenses for postemployment benefits (provided by an employer to former or inactive employees after termination of employment but before retirement).
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
ENVIRONMENTAL COSTS:
The Company expenses, on a current basis, certain recurring costs incurred in complying with environmental regulations and remediating environmental pollution. The Company also reserves for certain non-recurring future costs required to remediate environmental pollution for which the Company is liable whenever, by diligent legal and technical investigation, the scope or extent of pollution has been determined, the Company's contribution to the pollution has been ascertained, remedial measures have been specifically identified as practical and viable, and the cost of remediation and the Company's proportionate share can be reasonably estimated.
INCOME TAXES:
Effective August 29, 1993, the Company adopted Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes". The cumulative effect of this change in accounting principle increased the Company's fiscal 1994 net earnings by $2.5 million. Accordingly, the Company provides for income taxes using the asset and liability method under which deferred income taxes are recognized for the estimated future tax effects attributable to temporary differences and carryforwards that result from events that have been recognized either in the financial statements or in the income tax returns but not both. The measurement of current and deferred income tax liabilities and assets is based on provisions of enacted tax laws. Valuation allowances are recognized if based on the weight of available evidence, it is more likely than not that some portion of the deferred tax assets will not be realized.
INVESTMENTS:
The Company adopted the provisions of Statement of Financial Accounting Standards No. 115, "Accounting for Certain Investments in Debt and Equity Securities" ("SFAS No. 115"), on September 3, 1994. Investments in debt securities and equity securities with readily determinable fair values are classified into categories based on the Company's intent. Investments available for sale are carried at estimated fair value. Unrealized holding gains and losses are excluded from earnings and reported, net of income taxes, as a separate component of shareholders' equity until realized. For all investment securities, unrealized losses that are other than temporary are recognized in net income. Realized gains and losses are determined on the specific identification method and are reflected in net earnings.
In accordance with SFAS 115, prior period financial statements have not been restated to reflect the change in accounting principle. The cumulative effect as of September 3, 1994 of adopting SFAS 115 decreases shareholders' equity by $304,000. There was no effect on net income.
The cost of securities sold is determined by the specific identification method.
USE OF ESTIMATES:
The preparation of the financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.
IMPAIRMENT OF LONG-LIVED ASSETS:
The FASB issued Statement of Financial Accounting Standards No. 121 "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of", which is effective for fiscal years beginning after December 15, 1995. Accordingly, the Company will conform to the new requirements in fiscal 1997. The Statement establishes guidelines to be used when evaluating long-lived assets, identifiable intangibles, and related goodwill that an entity plans to continue to use in operations for impairment and prescribes the accounting when such assets are determined to be impaired. The Statement also provides guidance on the accounting for similar assets that a company plans to dispose of, except for those assets of a discontinued operation. Management estimates that the adoption of this pronouncement will not have a material effect on the Company's consolidated financial position and results of operations.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
TRANSFERS AND SERVICING OF FINANCIAL ASSETS:
The FASB issued Statement of Financial Accounting Standards No. 125 "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities", which is effective for transfers and servicing of assets and liabilities occurring after December 31, 1996. The Statement provides for standards that are based on consistent application of a financial-components approach that focuses on control. Under that approach, after a transfer of financial assets, an entity recognizes the financial and servicing assets it controls and the liabilities it has incurred, derecognizes financial assets when control has been surrendered, and derecognizes liabilities when extinguished. This Statement provides consistent standards for distinguishing transfers of financial assets that are sales from transfers that are secured borrowings. Accordingly, the Company will conform to the new requirements for applicable transactions occurring after December 31, 1996.
2. PROPERTIES:
Properties at August 31, 1996, and September 2, 1995 stated at cost, are comprised of:
3. INVESTMENTS:
The amortized cost and fair values of investments available-for-sale, including equity securities, were as follows:
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Fixed maturity investments are due as follows:
Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Mortgage-backed securities are shown as being due at their average expected maturity dates.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Investment income is summarized as follows:
Investments carried at fair values of $11,586,000 and $11,272,000 at August 31, 1996 and September 2, 1995 respectively, are on deposit with regulatory authorities in compliance with insurance company regulations. Equity securities which do not have readily determinable fair values are accounted for using the cost method.
4. ACCRUED LIABILITIES:
Accrued liabilities at August 31, 1996 and September 2, 1995 are summarized as follows:
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
5. NOTES PAYABLE:
Notes payable at August 31, 1996 and September 2, 1995 are summarized as follows:
Maturities of long-term debt as of August 31, 1996 are:
During fiscal 1996, the Company maintained two credit agreements with certain banks that provide for committed lines of credit for general working capital, acquisitions, and maturing long-term debt. At the end of fiscal 1996, the Company had a $135 million committed line of credit, of which $107.3 million was not utilized. The unused portion of this credit line is subject to annual commitment fees of 0.375%.
The credit agreement contains various financial covenants pertaining to working capital, debt-to-equity ratios, tangible net worth, earnings, and similar provisions. In addition, on the required portion of member
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) deposits and redemption of Class A and Class B Shares, no payment may be made if there exists a default with respect to any senior indebtedness, as defined, until such default has been cured or waived or until such senior indebtedness has been paid in full.
The $135 million credit agreement is collateralized by accounts receivable, inventory and certain other assets of the Company and two of its principal subsidiaries, excluding equipment, real property and the assets of GCC. The maturity date is March 17, 1999, but is subject to extension by the mutual consent of the Company and the banks. The agreement provides for Eurodollar basis or prime basis borrowings at the Company's option.
On August 30, 1996, a $25 million credit agreement was paid off in full and terminated by Grocers Capital Company ("GCC"). Funds for the payoff were provided through a loan purchase agreement with a bank. The loan purchase agreement maturity date is August 29, 2001, but is subject to extension by mutual agreement of the Company and the bank for an additional one year on each anniversary date of the initial purchase date. Total loan purchases under the agreement are limited to a total aggregate principal outstanding of $50 million.
On September 20, 1996, the Company entered into a credit agreement for $10 million. This credit line is available for funding loans. The credit agreement is collateralized by GCC's member loan receivables. The maturity date is September 20, 2001, but is subject to an annual extension of one year by the mutual consent of the Company and the bank. The agreement provides for prime basis or Eurodollar basis borrowings at the Company's option.
As a result of maturing long-term debt (a non-cash financing activity), the Company reclassified from long to short-term debt $11,440,000, $11,570,000, and $2,978,000 in fiscal 1996, 1995, and 1994, respectively.
6. LEASES:
The Company has entered into both operating and capital leases for certain warehouse, transportation and data processing computer equipment. The Company has also entered into operating leases for approximately 40 retail supermarkets. The majority of these locations are subleased to various member-patrons of the Company. The operating leases and subleases are noncancelable, renewable, include purchase options in certain instances, and require payment of real estate taxes, insurance and maintenance. In addition, the Company is contingently liable with respect to lease guarantees for certain member-patrons. The total commitment for such lease guarantees approximates $38.2 million to $40.2 million. The Company's security respecting these lease guarantees is discussed in Note 13 under "Concentration of Credit Risk."
Total rent expense was $20,539,000, $21,051,000, and $22,707,000 in 1996, 1995, and 1994, respectively. Sublease rental income was $6,214,000, $5,308,000, and $4,713,000 in 1996, 1995, and 1994, respectively.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Minimum rentals (exclusive of real estate taxes, insurance, and other expenses payable under the terms of the leases) as of August 31, 1996 are summarized as follows:
Minimum sublease rentals (exclusive of real estate taxes, insurance and other expenses payable under the terms of the leases) as of August 31, 1996 are summarized as follows:
In fiscal 1995, the Company completed a sale leaseback transaction with Trinet Corporate Realty Trust, Inc. ("Trinet"), an unaffiliated third party. The total sales price for the property was $11,500,000. Concurrent with the sale of the real property, the Company and Trinet entered into a twenty year lease of the property, with two ten year extension options. The monthly rental is approximately $108,000 and is subject to CPI adjustment commencing on the first day of the sixth, eleventh and sixteenth years. However, such CPI adjustments shall not exceed four percent per annum on a cumulative basis during each five year period. The gain on this transaction was $1.2 million of which $55,000 and $41,000 of the deferred gain was recognized during fiscal 1996 and 1995.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
7. INCOME TAXES:
The significant components of income tax expense (benefit) are summarized as follows:
The Company's income taxes currently payable in 1995 and 1994 are in part due to alternative minimum tax.
The effects of temporary differences and other items that give rise to deferred tax assets and deferred tax liabilities are presented below:
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Net deferred tax assets of $5,356 and $2,850 are included in deferred taxes, current and $2,663 and $1,346 in other assets on the Company's Consolidated Balance Sheets as of August 31, 1996 and September 2, 1995, respectively.
A valuation allowance is provided to reduce the deferred tax assets to a level which, more likely than not, will be realized. The remaining balance of the net deferred tax assets should be realized through future operating results, the reversal of taxable temporary differences, and tax planning strategies.
The provision for income taxes at the Company's effective tax rate differed from the provision for income taxes at the statutory rate as follows:
At August 31, 1996, the Company has alternative minimum tax credit carryforwards of approximately $1.2 million available to offset future regular income taxes payable to the extent such regular taxes exceed alternative minimum taxes payable.
8. SUBORDINATED PATRONAGE DIVIDEND CERTIFICATES:
In December 1992, the Company's Board of Directors authorized a patronage dividend retention program to be effective commencing with the dividends payable for fiscal 1993, whereby, subject to annual Board approval, Certified retains a portion of the patronage dividends and issues Patronage Certificates (the "Certificates") evidencing its indebtedness respecting the retained amounts. In addition, the program provides for the issuance of the Certificates to patrons on an annual basis in a portion and at an interest rate to be determined annually by the Board of Directors. However, as to any particular patron, if the amount of the retention is less than a specified minimum (presently $500), then no retention occurs and a Certificate is not issued. Certificates for each year are unsecured general obligations of Certified, are subordinated to certain other Certified indebtedness, and are nontransferable without the consent of Certified. The certificates are subject to redemption, at any time in whole and from time to time in part, without premium, at the option of Certified.
The Board of Directors determined that in fiscal 1993, 1994 and 1995, the portion of the patronage dividend retained and evidenced by the issuance of Patronage Certificates was 20% of the fourth quarter fiscal 1993 dairy division dividend, 20% of the fiscal 1994 dairy division dividends and 20% of the first and second quarter fiscal 1995 dividends for the dairy division. The Patronage Certificates were 40% of the fiscal 1993, 1994 and 1995 dividends for non-dairy products. The Patronage Certificates have a seven year term, and bear interest payable annually on December 15 in each year.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The following table represents a summary of the Certificates issued and their respective terms in fiscal 1993, 1994 and 1995.
During fiscal 1996, the Company set off approximately $12,000 in Patronage Certificates against a portion of amounts owed to the Company by the holders. The Company expects to continue to distribute patronage dividends in the future, although there can be no assurance of the amounts of such dividends.
For the third and fourth quarters of fiscal 1995, the Company suspended the retention of any of the dairy division partronage dividends due to competitive market conditions. During fiscal 1996 the retention program was suspended for all divisions, including the dairy. While the Company suspended the retention program for fiscal 1996, the retention program has not been discontinued.
9. CAPITAL SHARES:
The Company requires that each member-patron hold 100 Class A shares. Each member-patron must also hold Class B Shares having combined issuance values equal to the lesser of the amount of the member-patron's required deposit or twice the member-patron's average weekly purchases (the "Class B Share requirement"). For this purpose, each Class B Share held by a member-patron has an issuance value equal to the book value of Certified's outstanding shares as of the close of the fiscal year last ended prior to the issuance of such Class B Share.
After payment of at least 20% of the patronage dividend in cash and the issuance of the Patronage Certificates, Class B Shares are issued as a portion of each member-patron's patronage dividend and, to the extent necessary to fulfill the member-patron's Class B Share requirement, by crediting the member-patron's cash deposit account for the issuance values of such shares.
All shares of a terminated member will be redeemed by the Company (subject to certain legal limitations, provisions of the Company's redemption policy, and provisions of certain of the Company's committed lines of credit) at a price equal to the book value of the shares as of the close of the fiscal year ended prior to the redemption, less all amounts that may be owing by the member to the Company. All shares are pledged to the Company to secure the Company's redemption rights and as collateral for all obligations to the Company. The Company is not obligated in any fiscal year to redeem more than 5% of the sum of the number of Class B Shares outstanding as of the close of the preceding fiscal year and the number of Class B Shares issued as a part of the patronage dividend for the preceding year (the "5% limit"). Thus, shares tendered for redemption in a given fiscal year may not necessarily be redeemed in that fiscal year. The 5% limit for fiscal year 1997 will allow for redemption of 19,191 shares. Additionally, through October 1996,
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 335 shares have been tendered for redemption. The following table summarizes the Class B Shares tendered and presently approved for redemption, shares redeemed, and the remaining number of shares pending redemption:
Because the 5% limit for fiscal year 1997 has been met, the remaining 58,290 shares (or approximately $9.8 million, using fiscal 1996 year end book value) not redeemed in fiscal year 1997 as well as the redemption of any additional Class B Shares tendered during fiscal 1997 will require the prior approval of the Company's Board of Directors. At present, such approvals are not expected to be given. Accordingly, since the Company's fiscal 1997 5% share redemption limitation has been met, future redemptions for the 1997 fiscal year will be postponed. The total of Class B Shares tendered and awaiting redemption has caused the 5% limit for fiscal 1997, and will cause the limits for fiscal 1998 through 2000 to be met, thereby delaying the redemption of Class B Shares in excess of such limit. The redemptions required for fiscal years 1998 through 2000 approximate $9.8 million based on 1996 year end book value and estimated share issuances for those years. Cash flow to fund redemption of shares is provided from operations, patron deposits, Patronage Certificates, current shareholdings and borrowings under the Company's credit lines. Any additional large tenderings of Class B Shares could also potentially cause future year 5% limitations to be exceeded. Therefore, the Company's ability to redeem additional shares in excess of the 5% limit without prior approval of the Board may also be limited.
There are 500,000 authorized Class A Shares, of which 49,100 and 50,300 were outstanding at August 31, 1996 and September 2, 1995, respectively. There are 2,000,000 authorized Class B Shares, of which 383,815 and 384,767 including 18,286 and 15,895 respectively issued after year end, were outstanding at August 31, 1996 and September 2, 1995, respectively. Once redeemed, such shares are not available for reissuance to member-patrons.
No member-patron may hold more than one hundred Class A Shares. However, it is possible that a member may have an interest in another member, or that a person may have an interest in more than one member, and thus have an interest in more than one hundred Class A Shares. The Board of Directors is authorized to accept member-patrons without the issuance of Class A Shares when the Board of Directors determines that such action is justified by reason of the fact that the ownership of the patron is the same, or sufficiently the same, as that of another member-patron holding one hundred Class A Shares. The price for such shares will be the book value per share of outstanding shares at the close of the fiscal year last ended.
There are also 15 authorized Class C Shares of which 15 are outstanding. These shares are valued at $10 per share, and ownership is limited to members of the Board of Directors with no rights as to dividends or other distributions.
Holders of Class A Shares are entitled to vote such shares cumulatively for the election of 12 of the directors on the Board of Directors. Holders of the Class B Shares are entitled to vote such shares cumulatively for the election of 3 of the directors on the Board of Directors. Except as required by California law, the Class C Shares have no voting rights.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
10. BENEFIT PLANS:
The Company has a noncontributory, defined benefit pension plan covering substantially all of its nonunion employees. The benefits under the plan generally are based on the employee's years of service and average earnings for the three highest consecutive calendar years of compensation during the ten years immediately preceding retirement. The Company makes contributions to the pension plan in amounts which are at least sufficient to meet the minimum funding requirements of applicable laws and regulations but no more than amounts deductible for federal income tax purposes. Benefits under the plan are included in a trust providing benefits through annuity contracts, and part of the plan assets are held by a trustee.
The funded status of the plan and the amounts recognized in the balance sheet are:
The method used to compute the vested benefit obligation is the actuarial present value of the vested benefits to which the employee is entitled if the employee separates immediately. The vested benefit obligation was $22,927,000, $24,007,000, and $24,029,000 in 1996, 1995 and 1994, respectively.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The Company also made contributions of $5,713,000, $5,368,000, and $4,820,000 in 1996, 1995, and 1994, respectively to collectively bargained, multiemployer defined benefit pension plans in accordance with the provisions of negotiated labor contracts. Information from the plans' administrators is not available to permit the Company to determine its proportionate share of termination liability, if any.
The Company has an Employees' Sheltered Savings Plan, which is a defined contribution plan, adopted pursuant to Section 401(k) of the Internal Revenue Code for its nonunion employees. The Company matches each dollar deferred up to 4% of compensation and, at its discretion, matches 40% of amounts deferred between 4% and 8%. At the end of each fiscal year, the Company also contributes an amount equal to 2% of the compensation of those participants employed at that date. The Company contributed approximately $2,100,000, $2,100,000, and $2,200,000, in 1996, 1995, and 1994, respectively.
Also, the Company has an Employee Savings Plan ("ESP"), which is a defined contribution plan, for all union and nonunion employees hired prior to March 1, 1983. Subsequent to March 1, 1983, the Company's contribution to the ESP in any fiscal year is based on net earnings as a percentage of total sales and is applicable to union employees only. In the event net earnings are less than 1.5% of total sales, no contribution is required. All corporate (nonunion) employees who had a previous balance in the ESP Plan had their balances transferred to the SSP Plan effective first quarter of fiscal 1992. No expense was incurred in fiscal years 1996, 1995 and 1994.
In September 1994, the Board of Directors authorized a new supplemental executive pension plan (effective January 4, 1995) which provides retirement income to certain officers based on each participant's final salary and years of service with the Company. The plan, called the Company's Executive Salary Protection Plan ("ESPP II"), provides additional post-termination retirement income based on each participant's final salary and years of service with the Company. The funding of this benefit will be facilitated through the purchase of life insurance policies, the premiums of which will be paid by the Company and participant contributions.
The amounts recognized in the balance sheet are:
The additional minimum liability represents the excess of the unfunded Accumulated Benefit Obligation over previously accrued pension costs. A corresponding intangible asset was recorded as an offset to this additional liability as prescribed. Because the asset recognized may not exceed the amount of unrecognized prior service cost, the balance, net of tax benefits, of $255,000 is reported as a separate reduction of shareholders' equity at August 31, 1996.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The components of the net periodic pension cost for the fiscal years ending include:
The method used to compute the vested benefit obligation is the actuarial present value of the vested benefits to which the employee is entitled if the employee separates immediately. The vested benefit obligation was $3,807,000 and $3,026,000 in 1996 and 1995, respectively.
11. POSTRETIREMENT BENEFIT PLANS OTHER THAN PENSIONS:
The Company sponsors postretirement benefit plans that cover both nonunion and union employees. Nonunion employees are eligible for a plan providing medical benefits. A certain group of retired nonunion employees participate in a plan providing life insurance benefits for which currently active nonunion employees are no longer eligible. Most union and all nonunion employees have separate plans providing a lump sum payout for unused days in the sick leave bank. The postretirement health care plan is contributory for nonunion employees retiring after January 1, 1990, with the retiree contributions adjusted annually; the life insurance plan and the sick leave payout plans are noncontributory.
The plans are unfunded. The amounts recognized in the balance sheet are:
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
For measurement purposes, an 8.0% annual rate of increase in the per capita cost of covered health care benefits was assumed for fiscal year 1997; the rate was assumed to decrease gradually to 5.5% in fiscal 2001 and remain at the level thereafter. The health care cost trend rate assumption has a significant effect on the amounts reported. To illustrate, increasing the assumed health care cost trend rates by one percentage point in each year would increase the accumulated postretirement benefit obligation as of August 31, 1996 by $3,438,000 and the aggregate benefit cost for the year then ended by $421,000.
The weighted-average discount rate used in determining the accumulated postretirement benefit obligation was 8%.
The Company's union employees participate in a multiemployer plan that provides health care benefits. Amounts charged to postretirement benefit cost and contributed to the plan totaled $1.1 million in fiscal 1996 and $1.3 million in fiscal years 1995 and 1994.
12. CONTINGENCIES:
LITIGATION. The Company is a defendant in a number of cases currently in litigation or potential claims encountered in the normal course of business which are being vigorously defended. In the opinion of management, the resolutions of these matters will not have a material adverse effect on the Company's financial position, results of operations, or cash flow.
ENVIRONMENTAL MATTERS. The Company, together with others, was notified by the Environmental Protection Agency ("EPA") that it was a potentially responsible party ("PRP") for the disposal of hazardous substances during the 1970s and early 1980s at OPERATING INDUSTRIES, INC. SUPERFUND SITE in Monterey Park, California ("OII Site"). The Company has not disposed of any materials at the site since and believes its current disposal policies to be in accordance with federal, state and local governmental laws and regulations. Clean up of this site will occur in five phases and could entail estimated total cleanup costs of $650 million to $800 million.
The Company appealed the initial findings of the EPA on August 16, 1993 concerning the quantity of disposed waste allocated to the Company. Management recorded an initial liability of $400,000 for fiscal 1993 for the first three phases of the five-phase cleanup. The initial liability was based on estimated cleanup costs of $2 per gallon on approximately 200,000 gallons disposed at the site. In August 1995, the EPA finalized the Company's allocated share of the cleanup cost for the first three phases of the cleanup. The Company's allocated share of $379,000 was paid in October 1996.
The EPA also informed the Company of phases 4 and 5, which include final remedy and ground water treatment, and a 30 year post-cleanup site control and monitoring. The estimated costs of these two phases, together with the first three phases, are reserved in the financial statements. As of August 31, 1996, the total reserve established in respect to environmental liabilities is $1.6 million. The Company is pursuing recovery of a portion of this amount from its insurance carriers.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Because of the uncertainties associated with environmental assessment and remediation activities, future expenses to remediate the currently identified site could be higher than the accrued liability. Although it is difficult to estimate the liability of the Company related to these environmental matters, management believes that these matters will not have a materially adverse effect on the Company's financial position or results of operations.
SALE OF MEMBER NOTES RECEIVABLE. GCC entered into a loan purchase and servicing agreement with a bank under which it sells certain of its notes receivable from members subject to limited recourse provisions. These notes are secured with collateral which usually consists of personal property, real property and personal guarantees. GCC in return receives a monthly service fee and guarantee fee. In 1996, the Company sold member notes to the bank totaling approximately $27,900,000. At August 31, 1996, the balances of member notes sold that were outstanding and subject to recourse provisions were $27,900,000.
13. CONCENTRATION OF CREDIT RISK:
Financial instruments which potentially expose the Company to concentrations of credit risk consist primarily of trade receivables and lease guarantees for certain member-patrons. These concentrations of credit risk may be affected by changes in economic or other conditions affecting the Western United States, particularly California. However, management believes that receivables are well diversified and the allowances for doubtful accounts are sufficient to absorb estimated losses. Obligations of member-patrons to the Company, including lease guarantees, are generally supported by the Company's right of offset, upon default, against the member-patrons' cash deposits, shareholdings and Patronage Certificates, as well as personal guarantees and reimbursement and indemnification agreements.
14. FAIR VALUE OF FINANCIAL INSTRUMENTS:
The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value:
CASH AND CASH EQUIVALENTS
The carrying amount approximates fair value due to the short maturity of these instruments.
INVESTMENTS AND NOTES RECEIVABLE
The fair values for investments and notes receivable are based primarily on quoted market prices for those or similar instruments. Equity securities which do not have readily determinable fair values are accounted for using the cost method.
NOTES PAYABLE, NOTES PAYABLE DUE AFTER ONE YEAR AND SUBORDINATED PATRONAGE DIVIDEND CERTIFICATES The fair values for notes payable, notes payable due after one year, and subordinated patronage dividend certificates are based primarily on rates currently available to the Company for debt with similar terms and remaining maturities.
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The following table presents the carrying values and the estimated fair values as of August 31, 1996 and September 2, 1995, of the Company's financial instruments reportable pursuant to Statement of Financial Accounting Standards No. 107, Disclosures about Fair Value of Financial Instruments:
The methods and assumptions used to estimate the fair values of the Company's financial instruments at August 31, 1996 and September 2, 1995 were based on estimates of market conditions, estimates using present value and risks existing at that time. These values represent an approximation of possible value and may never actually be realized.
15. RELATED PARTY TRANSACTIONS:
A number of companies with which directors are associated have received loans from the Company through its regular member loan program and/or obtained lease guarantees or subleases for certain store locations. In consideration of lease guarantees and subleases, the Company receives a monthly fee equal to 5% of the monthly rent under the leases and subleases. Obligations of member-patrons to the Company, including lease guarantees, are generally supported by the Company's right of offset, upon default, against the member-patrons' cash deposits, shareholdings and Patronage Certificates, as well as personal guarantees and reimbursement and indemnification agreements.
GCC guarantees a portion of a loan made by National Consumer Cooperative Bank ("NCCB") to K.V. Mart Co., of which director Darioush Khaledi is the President and a shareholder, and KV Property Company, of which director Darioush Khaledi is a general partner. The term of the loan is eight years, maturing January 1, 2002, and the loan bears interest at a floating rate based on the commercial loan base rate of NCCB. The loan is collateralized by certain real and personal property. The guarantee by GCC is limited to 10% of the $2.1 million principal amount of the loan. In consideration of its guarantee, GCC receives an annual fee from K.V. Mart Co. equal to 5% of the guarantee amount.
GCC guarantees a portion of a $5,000,000 revolving loan made by NCCB to K.V. Mart Co. in November 1995. The loan has an initial maturity of two years, with the outstanding balance then converting to a five year term loan. The loan bears interest at a floating rate based on the commercial loan rate of NCCB. The loan is collateralized by certain real and personal property of K.V. Mart Co. The guaranty of GCC is limited to 10% of the outstanding principal amount of the loan. Since its inception, the highest outstanding principal amount of the loan has been and is presently $785,000. In consideration of its guaranty, GCC receives an annual fee from K.V. Mart Co. equal to 5% of the guaranty amount.
In April 1996, the Company guaranteed rent and certain other obligations of K.V. Mart Co. for a period of seven years under a lease of store premises under construction in Lynwood, California. Annual rent under the lease is $408,000. The lease term will commence upon the earlier of the opening of the store for business
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) or 90 days after occupancy. The guarantee will become effective upon the commencement date of the lease. In consideration of its guaranty, the Company will receive an annual fee from K.V. Mart Co. equal to 5% of the annual rent.
In April 1996, the Company guaranteed rent and certain other obligations of K.V. Mart Co. for a period of seven years under a lease of store premises under construction in Canoga Park, California. The landlord under the lease is a corporation in which a family trust established by Mr. Khaledi has an indirect interest through certain partnerships which in turn have an interest in the landlord corporation. Annual rent under the lease is $353,976. The lease term will commence upon the earlier of the opening of the store for business or 180 days after occupancy. The guarantee will become effective upon the commencement date of the lease. In consideration of its guaranty, the Company will receive an annual fee from K.V. Mart equal to 5% of the annual rent.
The Company proposes to enter into a guaranty of rent and certain other obligations of K.V. Mart Co. under a lease of store premises in Los Angeles, California. The guaranty would be in place during the first fifteen years of the lease term, which is thirty-four years and eight months. Annual rent under the lease will be $212,664 during the first twenty months of the lease term; $332,664 during the next thirty-eight months; $382,560, $439,944, and $505,4544 respectively, during the three succeeding sixty month periods; and thereafter increasing by 15% every sixty months during the balance of the term. In consideration of its guaranty, the Company will receive an annual fee from K.V. Mart Co. equal to 5% of the annual rent.
In December 1995, GCC purchased 10% of the common stock of K.V. Mart Co. for a purchase price, based upon appraised values, of approximately $3,000,000. In connection with this purchase, K.V. Mart Co., GCC, Mr. Khaledi and the other shareholders of K.V. Mart Co. agreed that GCC will have certain preemptive rights to acquire additional common shares, rights to have its common shares included proportionately in any transfer of common shares by the other shareholders, and rights to have its common shares included in certain registered public offerings of common stock which may be made by K.V. Mart Co. In addition, GCC has the option to require the repurchase of its shares for any reason after December 2000, and until that time has the option to require repurchase upon the occurence of certain specified events, including a material breach of the supply agreement referred to below, changes in management or control and noncompliance with financial ratios. After December 1999, the repurchase price is fair market value as determined by appraisal, and until that time is the greater of a declining premium over fair market value or the original purchase price of the shares plus an agreed annual compounded rate of return. K.V. Mart Co. has the option to repurchase GCC's shares at any time and also in the event of a change in control of GCC or the Company or a material breach by the Company under the supply agreement referred to below. In the absence of a change in control or a material breach under the supply agreement, and until December 1999, the repurchase price is the greater of a declining premium over fair market value or the original purchase price of the shares plus an agreed annual compounded rate of return, and after December 1999 is fair market value. In the event of a change in control or a material breach under the supply agreement, and until December 1999, the repurchase price is the lesser of a declining discount from fair market value or the original purchase price of the shares, and after December 1999 is fair market value. In connection with these transactions, K.V. Mart Co. entered into a seven year supply agreement with the Company whereunder K.V. Mart Co. is required to purchase a substantial portion of its merchandise requirements from the Company. Fiscal 1996 purchases totalled approximately $75,300,000. The supply agreement is subject to earlier termination in certain situations.
The Company guarantees annual rent and certain other obligations of Stump's Market, Inc., of which director James R. Stump is the President and a shareholder, as leasee under a lease of store premises located in San Diego, California. Annual rent under the lease is $26,325, and the lease term expires in May 1998. The Company also guarantees annual rent and certain other obligations of Stump's Market, Inc. as lessee under a
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) lease of store premises at a second location in San Diego, California. Annual rent under this lease is $36,075, and the lease term expires in November 1997. In consideration of these guaranties, the Company receives a fee from Stump's Market, Inc. equal to 5% of the base monthly rent under these leases.
In June 1989, the Company guaranteed the payment by Cala Foods, Inc. a subsidiary of a member-patron, of certain promissory notes related to an acquisition of Bell Markets, Inc. Board member Harley DeLano is an executive officer of Cala Foods, Inc. The promissory notes matured in June 1996 and totalled $8 million; however, the Company's guaranty obligation was limited to $4 million and is now expired. In addition, and in connection with the acquisition, the Company guaranteed certain lease obligations of Bell Markets, Inc. during a 20-year period under a lease relating to two retail grocery stores. Annual rent under the lease is $327,019.
In September 1992, the Company guaranteed a lease for Mar-Val Food Stores, Inc. (whose President, Mark Kidd, is a director of the Company) on store premises in Valley Springs, California. The guarantee is for a period of fifteen years and is limited to the lessee's obligation to pay base rent of $10,080 per month, common area costs, real estate taxes and insurance. The Company's total obligation under the guarantee is limited to $736,800. In consideration of the guarantee, the Company receives a monthly fee from Mar-Val Food Store, Inc. equal to 5% of the base monthly rent under the lease.
The Company guarantees annual rent and certain other obligations of Willard R. "Bill" MacAloney, the Chairman of the Company's Board of Directors, as lessee under a lease of store premises located in La Puente, California. Annual rent under the lease is $62,487, and the lease term expires in April 1997. The Company also guarantees annual rent and certain other obligations of G & M Company, Inc., of which Mr. MacAloney is a shareholder, under a lease of store premises located in Santa Fe Springs, California. The initial term of the lease expires in October 2007, but may be extended for one option term expiring in October 2012. Annual rent under the lease is $100,000, increasing to $110,000 in November 1997. Thereafter, annual rent increases by $15,000 every five years during the balance of the term, including the extension term. However, the Company's guaranty is such that the Company's obligation thereunder is limited to a maximum of sixty monthly payments (which need not be consecutive) of the obligations guaranteed. In consideration of its guarantees, the Company receives a monthly fee from G & M Company, Inc. equal to 5% of the base monthly rent under each lease.
The Company proposes to enter into a lease of store premises located in Riverside, California, which it will in turn sublease to G & M Company on the same terms and conditions. The sublease will be for an initial term of 15 years, but may be extended for three periods of 5 years each and one period of 4 years and 11 months. Monthly rent during the initial term is $22,234, increasing to $24,457, $26,903, $29,596 and $32,561, respectively, during the extension terms. Under the sublease, the Company will also receive a monthly fee from G & M Company equal to 5% of the monthly rent.
The Company guarantees certain obligations under a sublease of market premises located in Pasadena, California, and under which Berberian Enterprises, Inc., of which Director John Berberian is the President and a shareholder, is the sublessor. The guaranty is of the obligations of the sublessee to pay minimum rent, common area costs, real estate taxes and insurance during the first seven years of the term of the sublease, which commenced in September 1995. Minimum rent under the sublease is $10,000 per month. In consideration of its guaranty, the Company receives a monthly fee from the sublessee equal to 5% of the monthly amounts guaranteed.
The Company proposes to lease store locations in Arvin, Delano and Shafter, California, which it will in turn sublease on the same rental terms to a corporation to be formed by director Michael A. Provenzano. The Arvin and Delano subleases will have twenty year terms, while the Shafter lease will have a term of twenty-five years. Annual rent under the Arvin lease will be $165,088 during the first ten years and $166,448 during the balance of the term. Annual rent under the Delano lease will be $183,334 during the first ten years
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) and $174,080 during the balance of the term. Annual rent under the Shafter lease will be $104,997 during the first ten years, $100,890 during the next ten years and $108,457 during the balance of the term. In addition, under each of these subleases, the Company will receive an annual fee equal to 5% of the annual rent.
In July 1993, the Company entered into an agreement to lease a warehouse to Joe Notrica, Inc., of which director Morrie Notrica is the President and a shareholder. The lease period is for five years at a monthly rent of $24,000. The lease has one five year option and makes provision for inflation adjustments to monthly rent during the option term.
Grocers General Merchandise Company, ("GM"), a subsidiary of the Company, and Food 4 Less GM, Inc. ("F4LGM"), an indirect subsidiary of Ralphs Grocery Company, are partners to a joint venture partnership agreement. Under the agreement, GM andLGM are partners operating as Golden Alliance Distribution ("GAD"). The partnership was formed for the purpose of providing for the shared use of the Company's general merchandise warehouse located in Fresno, California and each of the partners has entered into a supply agreement with GAD providing for the purchase of general merchandise products from GAD. The Company is currently in discussions with Ralphs regarding the future of the GAD partnership.
The Company leases certain market premises located in Sacramento and Vallejo, California, and in turn subleases these premises to SavMax Foods, Inc. ("SavMax"). The Sacramento sublease provides for a term of 20 years and the Vallejo sublease provides for a term of 10 years. Neither sublease contains options to extend, although SavMax has the option under each sublease to acquire the Company's interest under its lease on the condition that the Company is released from all further liability thereunder. The term of the Sacramento sublease commenced in September of 1994. The Sacramento premises consist of approximately 50,000 square feet and annual base rent under the sublease is at the following per square foot rates: $8.00 during years 1 and 2; $8.40 during years 3 through 5; $8.82 during years 6 through 10; $9.26 during years 11 through 15; and, $9.72 during years 16 through 20. The term of the Vallejo sublease commenced in September of 1995 and annual base rent under the sublease is $279,000. In addition, under each of these subleases, the Company receives monthly an additional amount equal to 5% of the base monthly rent.
The Company guarantees certain obligations of SavMax under three leases of market premises located in Sacramento, San Jose and San Leandro, California. Each of these guarantees relates to the obligation of SavMax to pay base rent, common area maintenance charges, real estate taxes and insurance during the initial 20 year terms of these leases. However, the guarantees are such that the Company's obligation under each of them is limited to an amount equal to sixty monthly payments (which need not be consecutive) of the obligations guaranteed. Base rent is $40,482 per month under the Sacramento lease and $56,756 per month under the San Jose lease, in each case subject to a 7 1/2% increase at the end of each five years. Base rent is $42,454 per month under the San Leandro lease, subject to a 10% increase at the end of each five years. In consideration of these guarantees, the Company receives a monthly fee from SavMax equal to 5% of the base monthly rent under these leases. If SavMax were to default under the leases, the Company's remaining liability under its guarantees would range from $10.2 million to $11.9 million, assuming other support provided to the Company by way of offset rights and the reimbursement and indemnification agreements proved to be of no value to the Company.
The Company guarantees certain obligations of SavMax under two leases of market premises located in Ceres and Vacaville, California. The leases have initial terms expiring in January 2005 and April 2007, respectively. Base monthly rent under the Ceres lease is presently $32,175, increasing to $34,425 in January of 2000. Base monthly rent under the Vacaville lease is presently $29,167, increasing by $25,000 per year in April of 1997 and 2002. In consideration of these guarantees, the Company will receive a monthly fee from SavMax equal to 5% of the base monthly rent under these leases. If SavMax were to default under the leases,
CERTIFIED GROCERS OF CALIFORNIA, LTD. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) the Company's contingent liability under its guarantees would approximate $9.5 million, assuming other support provided to the Company by way of offset rights and the reimbursement and indemnification agreements proved to be of no value to the Company.
The Company has guarantees remaining on various other member-patron leases during the period of fiscal 1997 through fiscal 2013. In the event the support provided to the Company by way of offset rights and the reimbursement and indemnification agreements proved to be of no value, the Company would be contingently liable under its guarantees for approximately $11.2 million.
In fiscal 1994, Grocers Capital Company ("GCC"), a subsidiary, acquired an additional 25,000 shares of preferred stock of SavMax. The purchase price was $100 per share. At the time, GCC owned 40,000 shares of preferred stock of SavMax which it acquired in fiscal 1992. As part of the new purchase of preferred stock, the annual cumulative dividend on the 65,000 shares of preferred stock owned by GCC was increased from $8.25 per share to $8.50 per share, payable quarterly. Mandatory partial redemption of this stock at a price of $100 per share began in 1994 and will continue annually thereafter for eight years, at which time the stock is to be completely retired. GCC also purchased from Mr. Michael A. Webb, the President and a shareholder of SavMax, and another member of his immediate family, 10% of the common stock of SavMax for a price of $2.5 million. In connection with this purchase, Mr. Webb, SavMax and GCC agreed that GCC will have certain preemptive rights to acquire additional common shares, rights to have its common shares included proportionately in any transfer of common shares by Mr. Webb, and rights to have its common shares included in certain registered public offerings of common stock which may be made by SavMax. In addition, GCC has certain rights, at its option, to require that SavMax repurchase GCC's shares, and SavMax has certain rights, at its option, to repurchase GCC's shares. In connection with these transactions, SavMax entered into a seven year supply agreement with the Company (to replace an existing supply agreement) whereunder SavMax is required to purchase a substantial portion of its merchandise requirements from the Company. The supply agreement is subject to earlier termination in certain situations.
Since the Company's retail and financial assistance programs are only available to persons and entities which are patrons of the Company, it is not possible to assess whether the foregoing transactions are less favorable to the Company than similar transactions with unrelated third parties. However, management believes that each such transaction is on terms no more favorable to the patron than those which would be available to other similar patrons.
16. STORE PURCHASE TRANSACTION:
On July 17, 1996 Certified and its subsidiary Crown Grocers, Inc. ("Crown") entered into an asset purchase agreement (the "Agreement") with Bay Area Foods, Inc. ("BAF") whereby Certified and Crown agreed to purchase up to twelve supermarkets operated by BAF under the tradename "Petrini's", provided certain conditions were satisfied with respect to each location. The Agreement provided that Certified and Crown had the right to assign their respective rights to purchase any of the assets to operating retailers meeting selected criteria. This transaction was completed on September 30, 1996.
Crown has acquired six properties which were sold or assigned directly to retailers and assumed leases at three locations. The total purchase price for the assets acquired by Crown, Certified and their assignees was $17.1 million plus the cost value of inventory at each transferred location. For the three stores where Crown assumed the leases each facility is operated under the tradename "Apple Market". The Company intends to vigorously pursue a plan to sell these locations to member patrons, and expects to operate the stores until qualified buyers are identified. BAF was unable to satisfy certain conditions to close as to assets relating to three of the sites subject to the Agreement within the time frame set forth in the Agreement. Accordingly, the Company's obligations with respect to such assets have terminated.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Effective April 3, 1996, the Company dismissed Coopers & Lybrand L.L.P. as its principal accountant to audit the financial statements of the Company.
The reports issued by Coopers & Lybrand L.L.P. on the financial statements for the past two years did not contain an adverse opinion or a disclaimer of opinion, and were not qualified or modified as to uncertainty, audit scope, or accounting principles.
The decision to change accountants was recommended by the audit committee of the Company following the solicitation and review of bids from other independent accountants, including Coopers & Lybrand L.L.P., and was approved by the Board of Directors on April 3, 1996.
During the two most recent fiscal years and the current fiscal period, there were no disagreements with Coopers & Lybrand L.L.P. on matters of accounting principles or practices, financial statement disclosure, or auditing scope or procedure.
Effective April 3, 1996, the Company engaged Deloitte & Touche LLP as its principal accountant to audit the financial statements of the Company.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT BOARD OF DIRECTORS
The Company's Board of Directors is elected annually at the Company's Annual Meeting of Shareholders, presently held in April of each year. Each director must be either an employee of the Company, a member-patron, or a member of a partnership which is a shareholder, or an employee of a corporation which is a shareholder. Currently, all directors represent member-patrons. There is no arrangement or understanding between any one of the directors and any other person or persons pursuant to which such director was selected as a director.
The Bylaws provide that the Board of Directors will appoint annually a committee consisting of three or more of its members to nominate the directors to act for the ensuing year. The Chairman of the Board and the Company's President are ex-officio members of the nominating committee. The nominating committee submits its nominations to the Board, and the nominees so selected are submitted by the Board to the members to be voted upon at the Annual Meeting of the Company.
The names of the present directors of the Company, their principal occupations, their ages as of December 31, 1996 and the year such director was first elected to the Board are set forth in the following table.
- ------------------------ (1) Messrs. Lyle A. Hughes and Roger K. Hughes are unrelated.
(2) Yucaipa Trading Co., Inc. is unrelated to The Yucaipa Companies, which is a principal shareholder of Ralphs Grocery Co.
(3) Mr. Scharn retired as President of Gelson's Markets in May 1996 but will serve out his term as a director of the Company.
OFFICERS
The Company has ten officers, each selected by and serving at the pleasure of the Board of Directors, except Alfred A. Plamann (see "Item 11.
ITEM 11. EXECUTIVE COMPENSATION COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
During fiscal year 1996, the Company's Executive Compensation Committee consisted of director Darioush Khaledi, Committee Chairman, and directors Louis A. Amen, Roger K. Hughes, Jay McCormack and James R. Stump, as well as ex-officio member Willard R. "Bill" MacAloney, Chairman of the Board.
As Chairman of the Board, Mr. MacAloney is an officer under the Bylaws of the Company, although he is not an employee and does not receive any compensation or expense reimbursement beyond that to which other directors are entitled. Mr. McCormack was employed by the Company as a senior sales representative from November 1975 to May 1986, but has not been employed by the Company since that time. The Company's President and Chief Executive Officer, Alfred A. Plamann, is a member of the Board of Directors of K.V. Mart Co., of which Committee member and director Darioush Khaledi is Chairman and Chief Executive Officer.
The Company guarantees annual rent and certain other obligations of Mr. MacAloney as lessee under a lease of store premises located in La Puente, California. Annual rent under the lease is $62,487, and the lease term expires in April 1997. The Company also guarantees annual rent and certain other obligations of G & M Company, Inc., of which Mr. MacAloney is a shareholder, under a lease of store premises located in Santa Fe Springs, California. The initial term of the lease expires in October 2007, but may be extended for one option term expiring in October 2012. Annual rent under the lease is $100,000, increasing to $110,000 in November 1997. Thereafter, annual rent increases by $15,000 every five years during the balance of the term, including the extension term. However, the Company's guaranty is such that the Company's obligation thereunder is limited to not exceed sixty monthly payments (which need not be consecutive) of the obligations guaranteed. In consideration of its guarantees, the Company receives a monthly fee from G & M Company, Inc. equal to 5% of the base monthly rent under each lease.
The Company proposes to enter into a lease of store premises located in Riverside, California, which it will in turn sublease to G & M Company on the same terms and conditions. The sublease will be for an initial term of 15 years, but may be extended for three periods of 5 years each and one period of 4 years and 11 months. Monthly rent during the initial term is $22,234, increasing to $24,457, $26,903, $29,596 and $32,561 during the extension terms. Under the sublease, the Company will also receive a monthly fee from G & M Company equal to 5% of the monthly rent.
GCC guarantees a portion of a loan made by National Consumer Cooperative Bank ("NCCB") to K.V. Mart Co., of which director Darioush Khaledi is the President and a shareholder, and KV Property Company, of which director Darioush Khaledi is a general partner. The term of the loan is eight years, maturing January 1, 2002, and the loan bears interest at a floating rate based on the commercial loan base rate of NCCB. The loan is collateralized by certain real and personal property. The guarantee by GCC is limited to 10% of the $2.1 million principal amount of the loan. In consideration of its guarantee, GCC receives an annual fee from K.V. Mart Co. equal to approximately 5% of the guarantee amount.
GCC guarantees a portion of a $5,000,000 revolving loan made by NCCB to K.V. Mart Co. in November 1995. The loan has an initial maturity of two years, with the outstanding balance then converting to a five year term loan. The loan bears interest at a floating rate based on the commercial loan rate of NCCB. The
loan is collateralized by certain real and personal property of K.V. Mart Co. The guaranty of GCC is limited to 10% of the outstanding principal amount of the loan. In consideration of its guaranty, GCC receives an annual fee from K.V. Mart Co. equal to 5% of the guaranty amount.
In April 1996, the Company guaranteed rent and certain other obligations of K.V. Mart Co. for a period of seven years under a lease of store premises under construction in Lynwood, California. Annual rent under the lease is $408,000. The lease term will commence upon the earlier of the opening of the store for business or 90 days after occupancy. The guarantee will become effective upon the commencement date of the lease. In consideration of its guaranty, the Company will receive an annual fee from K.V. Mart Co. equal to 5% of the annual rent.
In April 1996, the Company guaranteed rent and certain other obligations of K.V. Mart Co. for a period of seven years under a lease of store premises under construction in Canoga Park, California. The landlord under the lease is a corporation in which a family trust established by Mr. Khaledi has an indirect interest through certain partnerships which in turn have an interest in the landlord corporation. Annual rent under the lease is $353,976. The lease term will commence upon the earlier of the opening of the store for business or 180 days after occupancy. The guarantee will become effective upon the commencement date of the lease. In consideration of its guaranty, the Company will receive an annual fee from K.V. Mart equal to 5% of the annual rent.
The Company proposes to enter into a guaranty of rent and certain other obligations of K.V. Mart Co. under a lease of store premises in Los Angeles, California. The guaranty would be in place during the first fifteen years of the lease term, which is thirty-four years and eight months. Annual rent under the lease will be $212,664 during the first twenty months of the lease term; $332,664 during the next thirty-eight months; $382,560, $439,944, and $505,944, respectively, during the three succeeding sixty month periods; and thereafter increasing by 15% every sixty months during the balance of the term. In consideration of its guaranty, the Company will receive an annual fee from K.V. Mart Co. equal to 5% of the annual rent.
In December 1995, GCC purchased 10% of the common stock of K.V. Mart Co. for a purchase price, based upon appraised values, of approximately $3,000,000. In connection with this purchase, K.V. Mart Co., GCC, Mr. Khaledi and the other shareholders of K.V. Mart Co. agreed that GCC will have certain preemptive rights to acquire additional common shares, rights to have its common shares included proportionately in any transfer of common shares by the other shareholders, and rights to have its common shares included in certain registered public offerings of common stock which may be made by K.V. Mart Co. In addition, GCC has the option to require the repurchase of its shares for any reason after December 2000, and until that time has the option to require repurchase upon the occurrence of certain specified events, including a material breach of the supply agreement referred to below, changes in management or control, and noncompliance with financial ratios. After December 1999, the repurchase price is fair market value as determined by appraisal, and until that time is the greater of a declining premium over fair market value or the original purchase price of the shares plus an agreed annual compounded rate of return. K.V. Mart Co. has the option to repurchase GCC's shares at any time and also in the event of a change in control of GCC or the Company or a material breach by the Company under the supply agreement referred to below. In the absence of a change in control or a material breach under the supply agreement, and until December 1999, the repurchase price is the greater of a declining premium over fair market value or the original purchase price of the shares plus an agreed annual compounded rate of return, and after December 1999 is fair market value. In the event of a change in control or a material breach under the supply agreement, and until December 1999, the repurchase price is the lesser of a declining discount from fair market value or the original purchase price of the shares, and after December 1999 is fair market value. In connection with these transactions, K.V. Mart Co. entered into a seven year supply agreement with the Company whereunder K.V. Mart Co. is required to purchase a substantial portion of its merchandise requirements from the Company. Fiscal 1996 purchases totalled approximately $75,300,000. The supply agreement is subject to earlier termination in certain situations.
The Company guarantees annual rent and certain other obligations of Stump's Market, Inc., of which director James R. Stump is the President and a shareholder, as leasee under a lease of store premises located
in San Diego, California. Annual rent under the lease is $26,325, and the lease term expires in May 1998. The Company also guarantees annual rent and certain other obligations of Stump's Market, Inc. as lessee under a lease of store premises at a second location in San Diego, California. Annual rent under this lease is $36,075, and the lease term expires in November 1997. In consideration of these guaranties, the Company receives a fee from Stump's Market, Inc. equal to 5% of the base monthly rent under these leases.
Since the Company's retail and financial assistance programs are only available to persons and entities which are patrons of the Company, it is not possible to assess whether the foregoing transactions are less favorable to the Company than similar transactions with unrelated third parties. However, management believes that each such transaction is on terms no more favorable to the patron than those which would be available to other similar patrons.
EXECUTIVE OFFICER COMPENSATION
The following table sets forth information respecting the compensation paid during the Company's last three fiscal years to the President and Chief Executive Officer ("CEO") and to certain other executive officers of the Company.
SUMMARY COMPENSATION TABLE
In September 1994, the Board of Directors authorized a new supplemental executive pension plan (effective January 4, 1995) which provides retirement income based on each participant's final salary and years of service with the Company. The plan, called the Company's Executive Salary Protection Plan ("ESPP II"), provides additional post-termination retirement income based on each participant's final salary and years of service with the Company. The funding of this benefit will be facilitated through the purchase of life insurance policies, the premiums of which will be paid by the Company and participant contributions. The Company also has a defined benefit pension plan covering its non-union and executive employees. Benefits under the defined benefit plan are equal to credited service times the sum of 95% of earnings up to the covered compensation amount plus 1.45% of earnings in excess of the covered compensation amount. The covered compensation is based on IRS Tables.
ESPP II supersedes and replaces the Executive Salary Protection Plan I ("ESPP I"). Under ESPP I, Certified purchased life insurance policies for certain officers. Upon reaching age 65 (or upon termination, if earlier), the employee was given the cash surrender value of the policy, plus any additional income taxes incurred by the employee as a result of such distribution.
The following table sets forth the estimated annual benefits under the defined benefit plan and the ESPP II plan which qualifying officers with selected years of service would receive if they had retired on August 31, 1996 at the age of 65.
PENSION PLAN TABLE
The Company's ESPP II is designed to provide a retirement benefit up to 65% of a participant's final compensation, based on a formula which considers an executive's final compensation and years of service. Remuneration under ESPP II is based upon an executive's highest annual base wage during the previous three completed years, which includes his or her annual salary as determined by the Board of Directors plus an automobile allowance with a 4% annual increase. The benefit is subject to an offset of the annual benefit which would be received from the defined benefit plan, calculated as a single life annuity at age sixty-two (62). To qualify for participation in the benefit, the executive must complete three years of service as an officer elected by the Board of Directors of the Company. Executives will vest at a rate of 5% per year with all years of continuous service credited. The ESPP II annual benefit upon retirement for calendar 1996 shall not exceed $84,800 and will be paid over a 15-year certain benefit. The benefit will increase annually
thereafter at the rate of 6%. Lesser amounts are payable if the executive retires before age sixty-five (65). The maximum annual amount payable by years of service is reflected within the table at the compensation level of $450,000. As of August 31, 1996, credited years of service for named officers are: Mr. Plamann, 7 years; Mr. Bane, 2 years; Mr. Pilliter, 20 years; Mr. Karaffa, 1 year; and Mr. Hawks, 12 years.
EXECUTIVE EMPLOYMENT AND TERMINATION AGREEMENT
The Company is a party to an employment contract with Alfred A. Plamann, the Company's President and Chief Executive Officer. The contract has a three year term, presently expiring in February 1999, but provides for annual extensions to the contract if there is mutual agreement. Under the contract, Mr. Plamann serves as the Company's President and Chief Executive Officer and receives a base salary, currently $365,000, subject to annual review and upward adjustment at the discretion of the Board of Directors. Mr. Plamann is also eligible for annual bonuses at the discretion of the Board of Directors based upon a review of his performance. The exact formula for future bonuses has not yet been determined and will be added as an amendment to the contract at a later date. Additionally, Mr. Plamann will receive employee benefits such as life insurance and Company pension and retirement contributions.
The contract is terminable at any time by the Company, with or without cause, and will also terminate upon Mr. Plamann's resignation, death or disability. Except where termination is for cause or is due to Mr. Plamann's resignation, death or disability, the contract provides that Mr. Plamann will be entitled to receive his highest base salary during the previous three years, plus an annual bonus equal to the average of the most recent three annual bonus payments, throughout the balance of the term of the agreement. Mr. Plamann would also continue to receive employee benefits such as life insurance and Company pension and retirement contributions throughout the balance of the term of the agreement.
DIRECTOR COMPENSATION
Each director receives a fee of $500 for each regular board meeting attended, $200 for each committee meeting attended and $200 for attendance at each board meeting of a subsidiary of the Company on which the director serves. Prior to April 3, 1996, directors received $300 for each regular board meeting, $100 for each committee meeting, and $100 for each board meeting of a subsidiary of the Company. In addition, directors are reimbursed for Company related expenses.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
PRINCIPAL SHAREHOLDERS
As of November 1, 1996, the only shareholders known by the Company to own beneficially more than 5% of the outstanding Class B Shares of the Company were Cala Co., Bay Area Warehouse Stores, Inc. and Ralphs Grocery Co., 777 South Harbor Boulevard, La Habra, California 90631 (28,620 Class B Shares or approximately 7.45% of the outstanding Class B Shares; Cala Co. and Bay Area Warehouse Stores Inc. are wholly-owned by Ralphs Grocery Co. which is in turn wholly-owned by The Yucaipa Companies, 10000 Santa Monica Boulevard, Los Angeles, California 90067) and Hughes Markets, Inc., 14005 Live Oak Avenue, Irwindale, California 91706 (26,106 Class B Shares or approximately 6.80% of the outstanding Class B Shares).
The following table sets forth, as of November 1, 1996, the name of each director of the Company, his position with and name of the member-patron, and the amount of Class A Shares and Class B Shares of the Company owned by the member-patron.
- ------------------------ (1) These shares are owned by Ralphs Grocery Company and its affiliates, Cala Foods, Inc., and Bay Area Warehouse Stores, Inc.
(2) Messrs. Lyle A. Hughes and Roger K. Hughes are unrelated.
(3) Mr. Hughes is also affiliated with Yucaipa Food Fair, Inc. which owns 546 Class B Shares (0.14% of the outstanding class of shares). Yucaipa Trading Co., Inc. and Yucaipa Food Fair Inc. are not affiliated with The Yucaipa Companies.
(4) Mr. McCormack also is affiliated with Glen Avon Food, Inc. which owns 100 Class A Shares (0.20% of the outstanding class of shares) and 361 Class B Shares (0.09% of the outstanding class of shares) and Yucaipa Trading Co., Inc. which owns 100 Class A Shares (0.20% of the outstanding class of shares) and 694 Class B Shares (0.18% of the outstanding class of shares).
(5) These shares are owned by Arden Mayfair, Inc., the parent company of Gelson's Markets.
(6) Mr. Young also is affiliated with Bakersfield Food City Inc. dba Young's Markets which owns 100 Class A Shares (0.20% of the outstanding class of shares) and 355 Class B Shares (0.09% of the outstanding class of shares).
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
All firms with which directors are affiliated, as members of the Company, purchase groceries, related products and store equipment from the Company in the ordinary course of business at prices and on terms available to members generally. As members, firms with which directors are affiliated, may receive benefits for which all members are eligible, including patronage dividends, allowances and retail support services. See, "Item 1. BUSINESS" for a general description of benefits and services available to patrons. One customer accounted for in excess of 5% of the Company's consolidated sales during fiscal 1996. Ralphs Grocery Co. together with its affiliated companies, accounted for a combined total of approximately 5.5%. No other director of the Company (nor the firms with which such director is affiliated) accounted for in excess of 5% of the Company's consolidated sales during fiscal 1996.
In September 1992, the Company guaranteed the obligations of Mar-Val Food Stores, Inc., of which director Mark Kidd is the President and a shareholder, under a lease of market premises located in Valley Springs, California. The guarantee is of the obligations of Mar-Val Food Stores, Inc. to pay base rent, common area costs, real estate taxes and insurance during the initial fifteen year term of the lease. Base rent under the lease is $10,080 per month. The Company's total obligation under the guarantee, however, is limited to the sum of $736,800. In consideration of its guarantee, the Company receives a monthly fee from Mar-Val Food Store, Inc. equal to 5% of the base monthly rent under the lease.
The Company leases its produce warehouse to Joe Notrica, Inc., of which director Morrie Notrica is the President and a shareholder. The lease is for a term of five years expiring in November 1998 and contains an option to extend for an additional five year period. Monthly rent during the initial term is $24,000. If the option to extend is exercised, rent during the option period will be the lesser of fair rental value or the monthly rent during the initial term as adjusted to reflect the change in the Customer Price Index during the initial term.
Cala Foods, Inc. (a patron affiliated with Ralphs Grocery Company) acquired the stock of Bell Markets, Inc. in June 1989. In connection with the acquisition, the Company guaranteed the lease obligations of Bell Markets, Inc. during a 20-year period under a lease relating to two retail grocery stores located in San Francisco, California. Annual rent under the lease is $327,019.
Grocers General Merchandise Company ("GM"), a subsidiary, and Food 4 Less GM, Inc. ("F4LGM"), an indirect subsidiary of Food 4 Less Supermarkets, Inc., are parties to a joint venture agreement. Under the agreement, GM andLGM are partners in a joint venture partnership known as Golden Alliance Distribution ("GAD"). The partnership was formed for the purpose of providing for the shared use of the Company's general merchandise warehouse located in Fresno, California, and each of the partners has entered into a supply agreement with GAD providing for the purchase of general merchandise products from GAD. The Company is currently in discussions with Ralphs regarding the future of the GAD partnership.
The Company guarantees certain obligations under a sublease of market premises located in Pasadena, California, and under which Berberian Enterprises, Inc., of which Director John Berberian is the President and a shareholder, is the sublessor. The guaranty is of the obligations of the sublessee to pay minimum rent, common area costs, real estate taxes and insurance during the first seven years of the term of the sublease, which commenced in September 1995. Minimum rent under the sublease is $10,000 per month. In consideration of its guaranty, the Company receives a monthly fee from the sublessee equal to 5% of the monthly amounts guaranteed.
The Company proposes to lease store locations in Arvin, Delano and Shafter, California, which it will in turn sublease on the same rental terms to a corporation to be formed by director Michael A. Provenzano. The Arvin and Delano subleases will have twenty year terms, while the Shafter lease will have a term of twenty-five years. Annual rent under the Arvin lease will be $165,088 during the first ten years and $166,448 during the balance of the term. Annual rent under the Delano lease will be $183,334 during the first ten years and $174,080 during the balance of the term. Annual rent under the Shafter lease will be $104,997 during the first ten years, $100,890 during the next ten years and $108,457 during the balance of the term. In addition, under each of these subleases, the Company will receive an annual fee equal to 5% of the annual rent.
Since the Company's retail and financial assistance programs are only available to persons and entities which are patrons of the Company, it is not possible to assess whether the foregoing transactions are less favorable to the Company than similar transactions with unrelated third parties. However, management believes that each such transaction is on terms no more favorable to the patron than those which would be available to other similar patrons.
On February 1, 1995, GCC made a loan of $69,000 to Corwin J. Karaffa, the Company's Vice President-Distribution. The loan was for the purpose of assisting Mr. Karraffa in acquiring a home in connection with his becoming employed by the Company. The loan bears interest at 8% per annum and is secured by a second deed of trust on the home. The loan has a term of eight years, with interest only payable during the first five years.
Certain other transactions involving other directors of the Company are described in Item 11 under the caption "Compensation Committee Interlocks and Insider Participation."
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a) Financial Statements
Reports of Independent Accountants.
Consolidated Balance Sheets as of August 31, 1996 and September 2, 1995.
Consolidated Statements of Earnings for the Fiscal Years Ended August 31, 1996, September 2, 1995, and September 3, 1994.
Consolidated Statements of Shareholders' Equity for the Fiscal Years Ended August 31, 1996, September 2, 1995, and September 3, 1994.
Consolidated Statements of Cash Flows for the Fiscal Years Ended August 31, 1996, September 2, 1995, and September 3, 1994.
(b) Reports on Form 8-K
Form 8-K filed June 11, 1996.
Form 8-K filed April 10, 1996.
(c) Exhibits
3.1 Articles of Incorporation of the Registrant (as amended through June 21, 1994) (incorporated by reference to Exhibit 3.1 to the Registrant's Annual Report on Form 10-K for the fiscal year ended September 3, 1994, File No. 0-10815). 3.2 Bylaws of the Registrant (as amended through June 21, 1994) (incorporated by reference to Exhibit 4.2 to Post-Effective Amendment No. 6 to Form S-2 Registration Statement of the Registrant filed on December 15, 1994, File No. 33-38152). 4.1 Retail Grocer Application and Agreement for Continuing Service Affiliation With Certified Grocers of California, LTD. And Pledge Agreement (incorporated by reference to Exhibit 4.7 to Amendment No. 2 to Form S-1 Registration Statement of the Registrant filed on December 31, 1981, File No. 2-70069). 4.2 Retail Grocer Application And Agreement For Service Affiliation With And The Purchase Of Shares Of Certified Grocers Of California, LTD. And Pledge Agreement (incorporated by reference to Exhibit 4.2 to Post-Effective Amendment No. 7 to Form S-2 Registration Statement of the Registrant filed on December 13, 1989, File No. 33-19284). 4.3 Agreement respecting directors' shares (incorporated by reference to Exhibit 4.9 to Amendment No. 2 to Form S-1 Registration Statement of the Registrant filed on December 31, 1981, File No. 2-70069). 4.4 Subordination Agreement (Existing Member-Patron) (incorporated by reference to Exhibit 4.4 to Post-Effective Amendment No. 4 to Form S-2 Registration Statement of the Registrant filed on July 15, 1988, File No. 33-19284). 4.5 Subordination Agreement (Existing Associate Patron) (incorporated by reference to Exhibit 4.5 to Post-Effective Amendment No. 4 to Form S-2 Registration Statement of the Registrant filed on July 15, 1988, File No. 33-19284). 4.6 Subordination Agreement (New Member-Patron) (incorporated by reference to Exhibit 4.6 to Post-Effective Amendment No. 4 to Form S-2 Registration Statement of the Registrant filed on July 15, 1988, File No. 33-19284). 4.7 Subordination Agreement (New Associate Patron) (incorporated by reference to Exhibit 4.7 to Post-Effective Amendment No. 4 to Form S-2 Registration Statement of the Registrant filed on July 15, 1988, File No. 33-19284).
(d) Financial Statement Schedules All required schedule information is presented in the financial statements or notes thereto. Other schedule information is either not applicable or not material.
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.
CERTIFIED GROCERS OF CALIFORNIA, LTD.
By /s/ ALFRED A. PLAMANN ------------------------------------------ Alfred A. Plamann PRESIDENT AND CHIEF EXECUTIVE OFFICER
By /s/ DANIEL T. BANE ------------------------------------------ Daniel T. Bane SENIOR VICE PRESIDENT -- FINANCE & ADMINISTRATION AND CHIEF FINANCIAL OFFICER
By /s/ RANDALL G. SCOVILLE ------------------------------------------ Randall G. Scoville CORPORATE CONTROLLER
Date: October 31, 1996
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 and in the capacities and on the dates indicated.
EXHIBIT INDEX