-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, K3n7g2TIWoUMA5pXN4EdJCKC9tWgxrCyx9LK/3bp6wn4XUHH++avHS1kC84FKC00 2oyMBKSX+/zzTjvtqFRn7g== 0000764960-98-000009.txt : 19980928 0000764960-98-000009.hdr.sgml : 19980928 ACCESSION NUMBER: 0000764960-98-000009 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 14 CONFORMED PERIOD OF REPORT: 19980627 FILED AS OF DATE: 19980925 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: PHAR MOR INC CENTRAL INDEX KEY: 0000764960 STANDARD INDUSTRIAL CLASSIFICATION: RETAIL-DRUG STORES AND PROPRIETARY STORES [5912] IRS NUMBER: 251466309 STATE OF INCORPORATION: PA FISCAL YEAR END: 0629 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: SEC FILE NUMBER: 000-27050 FILM NUMBER: 98714801 BUSINESS ADDRESS: STREET 1: 20 FEDERAL PLZ W CITY: YOUNGSTOWN STATE: OH ZIP: 44501 MAIL ADDRESS: STREET 1: 20 FEDERAL PLAZA WEST STREET 2: 20 FEDERAL PLAZA WEST CITY: YOUNGSTOWN STATE: OH ZIP: 44503 10-K405 1 FORM 10-K405 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K X Annual report pursuant to Section 13 or 15(d) of the Securities --- Exchange Act of 1934 For the fiscal year ended June 27, 1998 Commission File Number 0-27050 ------- Transition report pursuant to Section 13 or 15(d) of the Securities --- Exchange Act of 1934 For the transition period from _______ to _______ PHAR-MOR, INC. - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) PENNSYLVANIA 25-1466309 - ------------------------------------------------- -------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 20 Federal Plaza West, Youngstown, Ohio 44501-0400 - ------------------------------------------------- -------------------- (Address of principal executive offices) (Zip code) Registrant's telephone number, including area code: (330) 746-6641 -------------- Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Title of each class Name of each exchange on which registered --------------------- ----------------------------------------- Common Stock, Par Value $0.01 per share NASDAQ Warrants to purchase Common Stock NASDAQ Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES X No ------ ------ Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. YES No X ------ ------ APPLICABLE ONLY TO REGISTRANTS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PRECEDING FIVE YEARS: Indicate by check mark whether the Registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. YES X No ------ ------ The aggregate market value of voting stock held by non-affiliates of the registrant as of September 8, 1998 was $105,577,461 (based on the last reported sale price of the Registrant's Common Stock on the NASDAQ National Market System on such date). As of close of business on September 8, 1998, 12,240,865 shares of the Registrant's Common Stock were outstanding. PART I Item 1. Business Introduction Phar-Mor, Inc., a Pennsylvania corporation ("Phar-Mor" or the "Company"), operates a chain of discount retail drugstores devoted to the sale of prescription and over-the-counter drugs, health and beauty care products, baby products, pet supplies, cosmetics, greeting cards, groceries, beer, wine, tobacco, soft drinks, video rental and seasonal and other general merchandise. As of June 27, 1998, the Company operated 106 stores in 22 metropolitan markets in 19 states under the name of Phar-Moru. Approximately 52% of Phar-Mor's stores are located in Pennsylvania, Ohio and West Virginia, and approximately 23% are located in Virginia, North Carolina and South Carolina. The Company's principal executive offices are located at 20 Federal Plaza West, Youngstown, Ohio 44501-0400. Unless otherwise stated, all statistics in this Item were compiled as of June 27, 1998. Except for historical information contained herein, the matters discussed in this Annual Report on Form 10-K are forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those projected as a result of certain 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 the Securities and Exchange Commission ("SEC"). History Phar-Mor was founded in 1982 as a division of a subsidiary of the Giant Eagle, Inc. supermarket chain. The initial Phar-Mor concept was built on the premise that a drugstore offering additional, and at times unexpected, categories of merchandise could attract customers by featuring low prices made possible by acquiring inventory at relatively low cost through deal purchases of overstock, odd lot, discontinued, large unit size or slow-moving merchandise from manufacturers and distributors. The Company grew, rapidly expanding from 12 stores in August 1985 to 311 stores in August 1992. Store size also grew dramatically, increasing from an average of approximately 31,000 square feet in fiscal 1986 to approximately 58,500 square feet in 1992. Phar-Mor's rapid growth was mirrored by apparent extraordinary financial success. However, in early August 1992, Phar-Mor publicly disclosed that it had discovered a scheme by certain senior executives to falsify certain financial results and divert funds to unrelated enterprises and for personal expenses. The officers involved, including Phar-Mor's former President and Chief Operating Officer, former Chief Financial Officer, former Vice President of Finance and former Controller were promptly dismissed. In an effort to restore support from its vendors and lenders and to implement a business turnaround plan, Phar-Mor and its fifteen wholly-owned subsidiaries filed petitions for protection under Chapter 11 of the United States Bankruptcy Code on August 17, 1992 (the "Petition Date"). A new management team, hired by the Board of Directors, assumed day-to-day management of Phar-Mor. Upon discovery of the fraud, it became apparent that Phar-Mor's explosive growth during the preceding several years had been fueled in part by a systematic scheme to falsify Phar-Mor's financial results and to conceal Phar-Mor's true financial condition. The fraud which was perpetrated by the manipulation of information and overriding the system of internal controls by certain of its senior executives, as well as a lack of systems and surrounding controls, masked very substantial losses, created in part by low margins, slow moving merchandise categories, high rentals for the newer and larger stores and operational inefficiencies. By the time Phar-Mor concluded its investigation into the size of the fraud, it determined that cumulative earnings had been overstated by approximately $500 million. Additional charges to cumulative earnings of approximately $500 million resulted from changes in accounting policies and restructuring costs which were recorded as of September 26, 1992. See "Notes to Consolidated Financial Statements." The new management of Phar-Mor faced the task of restructuring its accounting records and strengthening the control systems. New management developed and implemented a strict internal control regimen, buttressed by frequent and widely distributed internal management reports, designed specifically to avoid a situation in which a member of management could override controls and avoid detection. In particular, management (i) implemented three major information system improvements, each of which supports the accurate reporting of inventory and facilitates stricter accounting controls: point-of-sale ("POS") scanning equipment, a pharmacy software system and a Distribution Control System ("DCS") warehousing system (these systems provide greater merchandising data, facilitate pharmacy processing and track and coordinate inventory purchasing and warehouse volume), (ii) undertook a review of various existing systems which included an operations and control enhancement project on the accounts payable system and a vendor correspondence and relations review and (iii) enhanced an internal audit department that assembled extensive protocols to follow in conducting audits of internal controls. In order to further enhance the control process, new management regularly generates numerous internal reports which are distributed to a wide variety of senior, middle and lower level management on a daily, weekly and monthly basis. In addition, operational and financial planning meetings are now attended by members of all levels of management. The Company emerged from bankruptcy on September 11, 1995 with a new President and Chief Operating Officer, Chief Financial Officer and Vice President and Corporate Controller hired after the Petition Date to replace those responsible for the fraud. During the pendency of the Chapter 11 bankruptcy cases of pre-reorganized Phar-Mor and its subsidiaries (the "Chapter 11 Cases"), new management analyzed the performance and prospects of each store to identify a core group of high volume, profitable and geographically concentrated stores that would serve as the basis of reorganized Phar-Mor. Based on this analysis, Phar-Mor closed 209 stores (not including separate liquor stores which were closed at various times) in five stages: 54 stores between October 1992 and December 1992, 34 stores between March 1993 and June 1993, 55 stores in July 1993, 25 stores in October 1994 and 41 stores in July 1995, thereby reducing the number of stores from 311 in September 1992 to 102 stores as of September 11, 1995, the effective date (the "Effective Date") of Phar-Mor's Chapter 11 plan of reorganization (the "Plan of Reorganization"). The Company also implemented a series of fundamental changes designed to achieve operating profitability and to position Phar-Mor for future growth. Following the Petition Date, Phar-Mor reduced the number of warehouses and increased outsourcing of product distribution; reduced the average size of several stores by approximately 19,000 square feet; introduced POS scanning in all stores; installed a new pharmacy software system; installed the DCS warehouse logistics system; and reduced the number of corporate personnel by 75%. In connection with the Company's Plan of Reorganization and its emergence from bankruptcy, the Company restructured its debt obligations and converted approximately $855 million of debt into equity. The Company also entered into a three-year, $100 million revolving credit facility (the "Revolving Credit Facility"). Operations Typically, stores are open 95 hours per week; pharmacies are typically open 77 hours per week. The average store has approximately 50 employees, including a store manager and department managers, a pharmacy manager and pharmacists, and office and cashier supervision. Overall, the Company had 5,479 employees at June 27, 1998. Approximately 246 warehouse and distribution center employees in Youngstown are members of the Teamsters Union under a contract which expires March 4, 2000. Sixty employees at the Company's Niles, Ohio store are members of the United Food and Commercial Workers Union under a contract which expires October 12, 2000. The Company is committed to customer service and encourages employees to be responsive to customer needs and concerns. The remerchandising and remodeling of stores (discussed below) is designed to make the customer's shopping experience easier and more enjoyable. The number of open checkout lanes is closely monitored to facilitate the efficient and comfortable checkout of customers. These philosophies are regularly communicated and reinforced by the Company to its employees. Thorough education and training in store operations is provided to employees at every level. Computer-based training, on and off-site training, video training, and teleconferences are a few of the training methods used. The Company believes that such training enables efficiency, understanding and responsiveness within store operations. The typical trade area for a Company store includes approximately 105,000 people in 41,000 households within a radius of between five and seven miles. On average during the fiscal year ended June 27, 1998 ("Fiscal Year 1998"), each store served approximately 11,200 customers per week. The Company's customers are approximately 52% female, with a median age of 35.5 years, and a median household income of approximately $33,000. Approximately 24% of customer households have children 17 years old and under. Company stores accept payment in cash, check, credit cards and payment from third-party providers of prescription services. The Company's purchasing, pricing, advertising, merchandising, accounting and supervisory activities are centrally directed from Phar-Mor's corporate headquarters. The Company purchases substantially all of its merchandise either directly from manufacturers or from wholesalers under various types of purchase arrangements. McKesson Drug Company ("McKesson"), a pharmaceutical distributor, accounted for approximately 25%, of the Company's purchases during Fiscal Year 1998. During Fiscal Year 1998, no other single vendor accounted for more than 10% of the Company's purchases. Substantially all of the products the Company sells are purchased from approximately 1,200 outside vendors. Alternative sources of supply are generally available for all products sold by the Company. Marketing and Merchandising Phar-Mor's overall merchandising strategy is to offer (i) value to consumers by pricing its products below the prices charged by conventional drugstores and supermarkets and (ii) a broader array of products in each of its major product categories than is offered by mass merchant discounters. Phar-Mor's product strategy is focused on the traditional drugstore lines of prescription and over-the-counter drugs, health and beauty care products and cosmetics. Phar-Mor's stores also typically feature other product categories, including groceries, snacks and beverages, pet food and supplies, beer, wine and liquor (where permitted by law), tobacco, baby products, general merchandise, video and music sales and video rentals. Phar-Mor is one of the leading retailers of film, vitamins, soft drinks and batteries in the United States. Ninety-five percent of the Company's advertising is print advertising, through circulars, newspapers, and POS materials. Newspaper advertisements and circulars appear in major newspapers in most market areas. The Company presently advertises through 75 newspapers and mailers. Phar-Mor introduced the "Warehouse District" concept during Fiscal Year 1997. In approximately 10,000 to 15,000 square feet, each "Warehouse District" offers a variety of grocery items, including fresh, frozen, and refrigerated foods. The Company incorporated this concept into 18 stores during Fiscal Year 1998 bringing the total number of "Warehouse District" stores to 23. The concept has been well received by customers and has improved overall sales in each such store. The Company plans to incorporate the "Warehouse District" concept into 5 stores scheduled to be remodeled during the fiscal year ending July 3, 1999 ("Fiscal Year 1999"). During Fiscal Years 1997 and 1998, the Company also undertook a plan to remodel certain stores unable to accommodate the fresh, frozen and refrigerated foods included in the "Warehouse District" concept due to their small size. This "four-wall" remodeling program includes remerchandising the stores to provide a more convenient shopping experience by creating product adjacencies; adding new and color coded decor and enhancing signage throughout the store; and further enhancing the "store within a store" idea with its signature departments. The Company has completed ten of the "four-wall" remodel projects. Sales The retail sale of traditional drugstore lines is a highly fragmented business, consisting of thousands of chain drugstores and independent drugstores that sell such products as well as mass merchandisers who sell such products as part of their overall product lines. In Fiscal Year 1998, revenues from sales of the Company's traditional drugstore products (i.e., prescription drugs, over-the-counter drugs, health and beauty care products, cosmetics and greeting cards) averaged approximately $5.9 million per store in its 106 stores. In addition to the approximately $624.0 million in traditional drugstore product revenues in Fiscal Year 1998, the Company generated approximately $476.8 million in revenues from the sale of groceries and general merchandise. Set forth below is the percentage of sales by principal category of products for the continuing stores for the last three fiscal years.
Fiscal Year Ended ----------------- (106 Stores) (103 Stores) (102 Stores) Category June 27, 1998 June 28, 1997 June 29, 1996 - -------- ------------- ------------- ------------- Prescription, Health and Beauty Care Products, Cosmetics and Greeting Cards 56.7% 57.0% 56.0% All Other Merchandise 43.3% 43.0% 44.0%
The Company's business is seasonal to a certain extent. The highest volume of sales and net income usually occurs in the second fiscal quarter (generally October, November and December). The following table summarizes the Company's sales by quarter during Fiscal Year 1998. Sales by Quarter During Fiscal Year 1998 Percentage of Total Sales First Quarter 23.3% Second Quarter 26.5% Third Quarter 25.2% Fourth Quarter 25.0% -------- 100.0% Competition Phar-Mor's stores compete primarily with conventional drugstores, supermarkets and mass merchant discounters. Many of these companies have greater financial resources than Phar-Mor. Phar-Mor competes with conventional drugstores by offering a broader product selection and generally lower prices than traditional drugstore lines. Phar-Mor believes it has these same competitive advantages against most supermarkets for non-grocery items. Phar-Mor competes with supermarkets in grocery product lines where Phar-Mor does not have a broader selection, by carrying an often changing mix of items priced lower than most supermarkets. Phar-Mor does not attempt to compete against mass merchant discounters solely on the basis of price. In traditional drugstore lines, particularly health and beauty care products and greeting cards, Phar-Mor offers broader product selection than mass merchant discounters. Mass merchant discounters generally are unwilling to allocate as much display space as Phar-Mor devotes to these categories. The merchandising changes Phar-Mor has implemented, including the creation of "signature" departments in dedicated aisle space with distinguishing signage, such as health and beauty care products, cosmetics, video rentals, groceries, perishable foods in 23 stores and "The Card Shop," "Pet Place," "One Stop Baby Shop," and "Vitamin World," are designed in part to distinguish Phar-Mor from mass merchant discounters and to increase its strength in areas in which Phar-Mor's management believes such merchants do not excel. Capital Expenditures The Company's most significant capital needs are for seasonal purchases of inventories, technological improvements and remerchandising and remodeling of existing stores. The Company's capital expenditures totaled $21.4 million in Fiscal Year 1998, including $3.4 million for the construction of new stores, $8.9 million for remodeling existing stores, and $5.9 million for corporate and store information systems. The Company anticipates spending approximately $16.5 million for capital expenditures in Fiscal Year 1999, including costs of remodeling 5 additional stores, opening two new stores and replacing one store. Real Estate and Growth The Company opened three new stores in Fiscal Year 1998, and plans to open two more new stores in Fiscal Year 1999. Expansion in the near future is expected to be minimal and in existing or contiguous markets in its core areas of Pennsylvania, Ohio and West Virginia. Expansion in existing markets improves the Company's operating margins by decreasing advertising costs on a per store basis, permitting more efficient distribution of products to stores and increasing utilization of existing supervisory and managerial staff. The aggregate cost of any future expansion is dependent upon the method utilized to finance new stores. Build to suit (i.e., landlord constructed) leases cost approximately $750,000 per store for furniture, fixtures, and equipment and each new store requires approximately $1.3 million in inventory. Company-funded conversion of existing buildings is another possible method of expansion; however the cost of such expansion per store varies significantly depending upon the age, condition and configuration of such buildings. Trademarks and Service Marks The Company believes that its registered "Phar-Mor" trademark is well recognized by its customer base and the public at large in the markets where it has been advertised. The Company believes that the existing customer and public recognition of its trademark and related operational philosophy will be beneficial to its strategic plans to expand merchandise categories and add new stores. The Company has also introduced a number of private label brands of products under various registered trademarks and trademarks pending registration. Regulation The Company is subject to the Fair Labor Standards Act, which governs such matters as minimum wages, overtime, and other working conditions. To the extent that pay scales for a portion of the Company's personnel relate to the federal minimum wage, increases in the minimum wage may increase the Company's labor costs. The prescription drug business is subject to the federal Food, Drug and Cosmetic Act, Drug Abuse Prevention and Control Act and Fair Packaging and Labeling Act relating to the content and labeling of drug products, comparable state statutes and state regulation regarding recordkeeping and licensing matters with civil and criminal penalties for violations. Item 2. Properties. As of June 27, 1998, the Company operated 106 stores in 19 states. Approximately 52% of Phar-Mor's stores are located in Pennsylvania, Ohio and West Virginia, and approximately 23% are located in Virginia, North Carolina and South Carolina. The following is a breakdown by state of the locations of the Company's stores. Alabama ............ 1 Missouri ........... 1 Colorado ........... 2 New Jersey ......... 1 Florida ............ 5 North Carolina ..... 9 Georgia ............ 3 Ohio ............... 16 Illinois ........... 4 Oklahoma ........... 1 Indiana ............ 3 Pennsylvania ....... 35 Iowa ............... 2 South Carolina ..... 4 Kansas ............. 2 Virginia ........... 11 Kentucky ........... 1 West Virginia ...... 4 Wisconsin .......... 1 As of June 27, 1998, all of the Company's stores were leased. All store leases are long-term; the original terms of 76 leases and the original terms with options of four leases expire on or before December 31, 2006. The remaining stores have longer lease terms. Most stores are located adjacent to or near shopping centers or are part of strip centers. Some stores are free standing. Depending on the location of a store, the sites may vary, with averages by type of location as follows: free-standing stores are located on sites averaging 2.84 acres; stores located in strip centers are found on sites averaging 23.7 acres; and stores in malls are on sites averaging 46.8 acres. A proto-typical store now includes approximately 40,000 square feet of sales space and 10,000 square feet of storage area and ample off-street parking. The stores are designed in a "supermarket" format familiar to customers and shopping is done with carts in wide aisles with attractive displays. Traffic design is intended to enhance the opportunity for impulse purchases. The Company operates a distribution center in Youngstown, Ohio which it leases. This center delivered approximately 46% of all merchandise to the stores in Fiscal Year 1998, primarily using contract carriers. The balance of the products were delivered directly to the Company's stores by vendors. The Company and a wholly-owned subsidiary of the Company are partners in an Ohio limited partnership, which owns the office building in which the Company occupies approximately 141,000 square feet of space for its corporate offices in Youngstown, Ohio. Item 3. Legal Proceedings In the normal course of business, the Company is subject to various claims. In the opinion of management, any ultimate liability arising from or related to these claims should not have a material adverse effect on future results of operations, cash flows or the consolidated financial position of the Company. Item 4. Submission of Matters to a Vote of Security Holders. There were no matters submitted to a vote of security holders during the fourth quarter of Fiscal Year 1998, through the solicitation of proxies or otherwise. Part II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters. The Company's common stock, par value $.01 per share (the "Common Stock"), is included for quotation on the NASDAQ National Market under the symbol "PMOR." High and low prices of the Common Stock are shown in the table below: Fiscal Year 1998 Fiscal Year 1997 ---------------- ---------------- High Low High Low ---- --- ---- --- 1st Quarter............... $ 7 3/4 $6 1/8 $8 3/4 $6 1/8 2nd Quarter............... 9 5/8 6 3/8 6 1/4 5 5/16 3rd Quarter............... 11 3/4 8 5 11/16 4 5/8 4th Quarter............... 11 11/16 8 3/8 6 3/8 4 3/4 As of September 8, 1998, there were 2,696 holders of record of the Common Stock. The Company has not declared or paid any cash dividends on the Common Stock and does not anticipate paying cash dividends in the foreseeable future. The Company currently intends to retain earnings for future operations and expansion of its business. In addition, the indenture pursuant to which the Company's senior notes were issued, the Revolving Credit Facility and the Amended Revolving Credit Facility restrict the payment of cash dividends on the Company's capital stock. See "Notes to Consolidated Financial Statements." Item 6. Selected Financial Data. The following selected consolidated financial data of Phar-Mor and its subsidiaries should be read in conjunction with the consolidated financial statements and related footnotes appearing elsewhere in this Form 10-K.
(In thousands except per share data) - ------------------------------------------------------------------------------------------------------------------------------------ 52 Weeks 52 Weeks 43 Weeks 9 Weeks 52 Weeks 53 Weeks Ended Ended Ended Ended Ended Ended June 27, 1998 June 28, 1997 June 29, 1996 September 2, 1995 July 1, 1995 (b) July 2, 1994 ------------- ------------- ------------- ----------------- ---------------- ------------ Net sales $ 1,100,851 $ 1,074,828 $ 874,284 || $ 181,968 $ 1,412,661 $ 1,852,244 (Loss) income from || continuing operations (8,830) (2,281) 2,526 || (10,389)(a) (53,144)(c) (142,763)(d) Diluted (loss) income || per share from || continuing operations (.72) (.19) .21 || (.19) (.98) (2.64) As of As of As of As of As of As of June 27, 1998 June 28, 1997 June 29, 1996 September 2, 1995 July 1, 1995 July 2, 1994 ------------- ------------- ------------- ----------------- ------------ ------------ Total assets 349,455 362,605 363,463 390,207 || 531,332 680,105 Long-term debt & capital || leases 130,993 140,213 149,163 151,047 || -- -- Liabilities subject to || settlement -- -- -- -- || 1,154,959 1,182,145
Note: In accordance with fresh-start reporting, reorganization value was used to record the assets and liabilities of the Company at September 2, 1995. Accordingly, the selected consolidated financial data as of September 2, 1995, June 29, 1996, June 28, 1997, and June 27, 1998 and for the 43 weeks ended June 29, 1996, the 52 weeks ended June 28, 1997, and the 52 weeks ended June 27, 1998, are not comparable in material respects to such data for prior periods. Furthermore, the Company's results of operations for periods prior to the Effective Date are not necessarily indicative of results of operations that may be achieved in the future. (a) Excludes extraordinary gain of $775 million on debt discharged pursuant to the Plan of Reorganization; and includes the gain for revaluation of assets and liabilities under fresh-start reporting of $8 million and reorganization costs of $16.8 million. (b) Excludes the results of 25 stores after July 2, 1994 and the results of 41 stores after May 6, 1995, closed as part of the Company's restructuring prior to emergence from the Chapter 11 Cases. (c) Includes reorganization costs of $51.2 million, including $53.7 million for costs of downsizing, less $7.6 million gain on sale of assets held for sale. (d) Includes reorganization costs of $106.5 million, including $43 million for costs of downsizing and $53.2 million to write-down property and equipment to the lower of appraised or net book value. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Introduction The discussion of results of operations that follows is based upon the Company's consolidated financial statements set forth on pages F-1 to F-29. The discussion of liquidity and capital resources is based upon the Company's current financial position. The accompanying financial review reflects the significant impact of the events leading up to and following the Company's emergence from bankruptcy. Certain information regarding the Chapter 11 Cases and the Plan of Reorganization is set forth in Note 1 to the Consolidated Financial Statements. Upon the Company's emergence from bankruptcy, the Company adopted the principles of fresh-start reporting as of the Effective Date to reflect the impact of the reorganization. As a result of the application of fresh-start reporting, the financial condition and results of operations of the Company for dates and periods subsequent to the Effective Date will not necessarily be comparable to those prior to the Effective Date. Recent Developments and Outlook The Company's results of operations and financial condition reflect the impact of the recapitalization effected pursuant to the Plan of Reorganization and the consolidation of operations following the Petition Date. The Company significantly restructured its debt obligations at the Effective Date. As part of the Plan of Reorganization, the Company converted approximately $855 million of debt obligations to equity, obtained a $9.5 million net cash equity infusion, and entered into the Revolving Credit Facility. See "Financial Condition and Liquidity" below. In addition, since August 1992, the Company has put in place a series of programs that are designed to reduce its expense structure and improve its operations. These programs resulted in the closing of 209 stores and three warehouses, the elimination of 75% of corporate level staff and the implementation of three major information system improvements. See "Item 1. Business." Management believes that the recapitalization and the specific steps taken to streamline the Company's business operations since the Petition Date have yielded a significant improvement in the operating and financial profile of the Company. The restructuring of the Company's debt obligations has significantly reduced interest expense and enhanced financial flexibility. As a result of the consolidation program, the Company has significantly reduced the fixed cost elements of cost of sales and selling, general and administrative expenses partially offset by declines in sales and gross margin dollars. Although there can be no assurance, management believes that the Company is now well-positioned to enhance future profitability as economic and competitive conditions improve in its markets. Management also believes that additional gains may be realized through further reduction of expenses and refinement of the Company's business operations, such as expansion of the "Warehouse District" concept. Changes in the federal minimum wage may increase the Company's future labor costs. See "Item 1. Business - Regulation." Results of Operations The following table sets forth the number of retail stores operated each fiscal year:
Fiscal Year Ended June 27,1998 June 28,1997 June 29,1996(a) ------------ ------------ ------------ Stores, beginning of period 103 102 143 Stores opened 3 1 -- Stores closed -- -- (41) ------------ ------------ ------------ Stores, end of period 106 103 102 ============ ============ ============
(a) Includes the nine weeks ended September 2, 1995 (Predecessor) and the forty-three weeks ended June 29, 1996 (Successor). 52 weeks ended June 27, 1998 (Fiscal Year 1998) compared to the 52 weeks ended June 28, 1997 (Fiscal Year 1997) (all dollar amounts in thousands)
Fiscal Year 1998 Fiscal Year 1997 ---------------------------- ------------------------------- Sales $ 1,100,851 100.00% $ 1,074,828 100.00% Less: Cost of goods sold, including occupancy and distribution costs 887,657 80.63% 873,095 81.23% ----------- ----------- Gross Profit 213,194 19.37% 201,733 18.77% Selling, general and administrative expenses 173,982 15.80% 168,218 15.65% Terminated business combination expenses -- -- 3,076 0.29% Executive severance 6,787 0.62% -- -- Loss on disposal of equipment 4,615 0.42% -- -- Depreciation and amortization 22,047 2.00% 20,982 1.95% ----------- ----------- Income from operations before interest and income taxes 5,763 0.52% 9,457 0.88% Interest expense 16,639 1.51% 17,175 1.60% Interest and investment income 2,046 0.19% 5,437 0.51% ----------- ----------- Loss before taxes (8,830) (0.80)% (2,281) (0.21)% Income tax provision -- -- -- -- ----------- ----------- Net loss $ (8,830) (0.80)% $(2,281) (0.21)% =========== ===========
Comparable store sales for Fiscal Year 1998 increased $4,919, or 0.5% from Fiscal Year 1997. This increase was primarily due to the success of the store remodel and reformatting program partially offset by the impact of discontinuing certain promotional discount programs since the beginning of Fiscal Year 1997. The Company incorporated the "Warehouse District" food and drug format into 18 stores during Fiscal Year 1998 bringing the total number of "Warehouse District" stores to 23. The Company's "Warehouse District" format expands the existing grocery offering and adds fresh, frozen and refrigerated food. Sales in the stores that were remodeled to include the "Warehouse District" format in the first nine months of Fiscal Year 1998 increased 23% for the thirteen weeks ended June 27, 1998, over the comparable period of the prior year. Gross profit for Fiscal Year 1998 was 0.60% of sales higher than for Fiscal Year 1997. A 0.65% of sales reduction in inventory shrink expense and a 0.55% of sales increase in vendor income were partially offset by lower product gross margins. Selling, general and administrative expenses increased 0.15% of sales in Fiscal Year 1998 over Fiscal Year 1997. The increase in selling, general and administrative expenses was primarily due to increases in store wage expense due to increases in the minimum wage. During Fiscal Year 1998 the Company incurred $6,787 in severance costs associated with the departure of the Company's former Chairman and Chief Executive Officer. The Company recorded a charge of $4,615 associated with the write off of the Company's old mainframe computer and other equipment which was replaced with the latest technology IBM mainframe computer equipment. The new mainframe computer has lower operating and maintenance costs and provides the Company greater capacity for growth and expansion over the next three to five years. Investment income declined by $3,391 in Fiscal Year 1998 from Fiscal Year 1997. The decrease in investment income was due to a $2,286 decline in interest income due to lower cash balances and $1,105 in investment losses incurred on the Company's equity investments. 52 weeks ended June 28, 1997 (Fiscal Year 1997) compared to pro forma results for the 52 weeks ended June 29, 1996 (Fiscal Year 1996) (all dollar amounts in thousands) The Company's results of operations for the fifty-two weeks ended June 28, 1997 and the forty-three weeks ended June 29, 1996 are not comparable due to the different number of weeks included in each period. For the purposes of the following discussion, the following pro forma results of operations for Fiscal Year 1996 will be compared to the actual results for Fiscal Year 1997. Unaudited Pro Forma Statements of Operations The following unaudited pro forma statements of operations present consolidated results of operations of Phar-Mor and its subsidiaries for Fiscal Year 1996 as if the Plan of Reorganization was effective July 1, 1995 and include adjustments to reflect the implementation of fresh-start reporting as of July 1,1995; the effects of non-recurring transactions resulting from the Plan of Reorganization; and certain payments to creditors pursuant to the Plan of Reorganization as of July 1, 1995 (see Notes 1 and 2 to the Consolidated Financial Statements). Fiscal Year 1996 ------------------------- Sales $ 1,056,252 100.00% Less: Cost of goods sold, including occupancy and distribution costs 869,237 82.30% ------- Gross profit 187,015 17.70% Selling, general and administrative expenses 155,369 14.71% Chapter 11 professional fee accrual adjustment (1,530) (0.15)% Depreciation and amortization 18,319 1.73% ------ Income from operations before interest and income taxes 14,857 1.41% Interest expense 17,465 1.65% Interest income 8,614 0.81% ------ Income before income taxes 6,006 0.57% Income tax provision 2,676 0.25% ----- Net income $ 3,330 0.32% =========== Comparable store sales for Fiscal Year 1997 increased $14,000, or 1.3%, from Fiscal Year 1996. This increase was due to the continued success of the Company's new marketing approach begun in Fiscal Year 1996 and the success of the Company's store remodel program. The increase in comparable store sales achieved by the new marketing approach and the store remodel program was partially offset by a reduced level of promotional activity in the second half of the year and the discontinuance of certain promotional discounts. Sales improved significantly in the five stores that were remodeled during Fiscal Year 1997 with sales increasing 20.6% in the 13 weeks ended June 28, 1997 over the comparable period in Fiscal Year 1996. Gross profit for Fiscal Year 1997 was 1.07% of sales higher than for Fiscal Year 1996. Reductions in inventory shrink expense, promotional discount expense and increases in vendor income were partially offset by a .06% of sales reduction in product gross margins. Inventory shrink expense was reduced by .61% of sales due to the success of several shrink reduction initiatives begun in Fiscal Year 1996. Promotional discount expense was reduced .20% of sales due to the discontinuance of certain promotional discount programs. Selling, general and administrative expenses for Fiscal Year 1997 were .94% of sales higher than for Fiscal Year 1996. Increases in store payroll and corporate overhead costs were partially offset by lower advertising expenses. Interest income decreased $3,177 in Fiscal Year 1997 from Fiscal Year 1996. Fiscal Year 1996 included $3,135 in interest income received on federal income tax refunds. Financial Condition and Liquidity (all dollar amounts in thousands) The Company's cash position as of June 27, 1998 was $44,655. On September 11, 1995, the Company entered into a three-year Revolving Credit Facility (the "Facility") with BankAmerica Business Credit, Inc. ("BABC"), as agent, and other financial institutions (collectively, the "Lenders"), that established a credit facility in the maximum amount of $100,000. Borrowings under the Revolving Credit Facility could have been used for working capital needs and general corporate purposes. Up to $50,000 of the Facility at any time could have been used for standby and documentary letters of credit. The Facility included restrictions on, among other things, additional debt, capital expenditures, investments, dividends and other distributions, mergers and acquisitions, and contained covenants requiring the Company to meet a specified quarterly minimum EBITDA Coverage Ratio (the sum of earnings before interest, taxes, depreciation and amortization, as defined, divided by interest expense), calculated on a rolling four quarter basis, and a monthly minimum net worth test. Credit availability under the Revolving Credit Facility at any time was the lesser of the Aggregate Availability (as defined in the Facility) or $100,000. The Revolving Credit Facility established a first priority lien and security interest in the current assets of the Company, including, among other items, cash, accounts receivable and inventory. Advances made under the Revolving Credit Facility would have borne interest at the BankAmerica reference rate plus 1/2% or London Interbank Offered Rate ("LIBOR") plus the applicable margin (as defined in the Facility), which ranged between 1.50% and 2.00%. Under the terms of the Revolving Credit Facility, the Company was required to pay a commitment fee of 0.28125% per annum on the unused portion of the facility, letter of credit fees and certain other fees. As of June 27, 1998, there were no outstanding advances and letters of credit in the amount of $5,709 were outstanding under the Revolving Credit Facility. The Company entered into an Amended and Restated Revolving Credit Facility (the "Amended Revolving Credit Facility") effective September 10, 1998 with BABC, as agent, and other financial institutions that established a credit facility in the maximum amount of $100,000. Borrowings under the Amended Revolving Credit Facility may be used for working capital needs and general corporate purposes. Up to $50,000 of the facility at any time may be used for standby and documentary letters of credit. The facility includes restrictions on, among other things, additional debt, investments, dividends and other distributions, mergers and acquisitions. The facility contains no financial covenants. Credit availability under the Amended Revolving Credit Facility at any time is the lesser of the Aggregate Availability (as defined in the Facility) or $100,000. The Amended Revolving Credit Facility establishes a first priority lien and security interest in the current assets of the Company, including, among other items, cash, accounts receivable and inventory. Advances made under the Amended Revolving Credit Facility bear interest at the BankAmerica reference rate plus 1/2% or LIBOR plus 2.00%. Under the terms of the Amended Revolving Credit Facility, the Company is required to pay a commitment fee of between 0.25% and 0.35% per annum on the unused portion of the facility, letter of credit fees and certain other fees. The Amended Revolving Credit Facility expires on September 10, 2001. Pursuant to the Plan of Reorganization, the Company and its lenders agreed to a restructuring of the Company's obligations. The resulting new debts are discussed in Notes 8 and 9 to the Consolidated Financial Statements. The Company's cash position decreased $35,192 during Fiscal Year 1998 as cash provided by operating activities of $10,054 was offset by $35,655 in cash used for investing activities and $9,591 in cash used for financing activities. The Company invested $9,065 in marketable securities in Fiscal Year 1998 in an effort to increase its return on its excess cash position. Merchandise inventories increased $6,769 during Fiscal Year 1998 primarily due to the opening of three new stores. The Company invested $4,000 in the common stock of Avatex Corporation, the Company's largest shareholder. The Company also invested $4,275 in equity securities of other privately held companies. The Company's cash position decreased $24,418 during Fiscal Year 1997 as cash provided by operating activities of $11,443 was offset by $27,161 in cash used for investing activities and $8,700 in cash used for financing activities. Merchandise inventories increased $16,258 during Fiscal Year 1997 due to the opening of one new store, the stocking of an additional store that opened in early July 1997 and increases in warehouse inventory levels as a result of deal purchases that were made in June 1997. The Company's cash position decreased $3,665 during the 43 weeks ended June 29, 1996 as cash provided by operating activities of $16,014 was offset by $13,829 in cash used for investing activities and $5,850 in cash used for financing activities. The Company generated cash from operations of $16,014 after payments of Chapter 11 professional fees of $19,476. Inventories declined $15,534 during the 43 weeks ending June 29, 1996 due to continued emphasis on inventory control and review of product category profitability. As part of this review, the Company determined that the music category of goods was not providing an adequate return on the inventory invested and decided to exit the music category of goods. The liquidation of this inventory resulted in a $5,713 reduction in inventory during the 43 weeks ended June 29, 1996. The Company increased its cash position by $5,606 from operating and investing activities during the 9 weeks ended September 2, 1995 and used $121,933 for reorganization activities including cash distributions pursuant to the Plan of Reorganization. Consequently, the net decrease in cash position during the 9 week period ended September 2, 1995 was $116,327. The Company generated $8,129 from operations after net interest expense (including adequate protection payments) and professional fees actually paid that were associated with the Chapter 11 Cases, which totaled $6,479. The Company invested $649 in property and equipment and $1,874 in rental video tapes. The Company generated $11,951 in net proceeds from going out of business ("GOB") sales. The Company paid $1,079 of equipment capital leases obligations. Trends, Demands, Commitments, Events or Uncertainties (all dollar amounts in thousands) Management believes the availability of the Amended Revolving Credit Facility, together with the Company's current cash position and expected cash flows from operations for Fiscal Year 1999 will enable the Company to fund its working capital needs and capital expenditures. Achievement of expected cash flows from operations is dependent upon, among other things, the Company's attainment of sales, gross profit and expense levels that are consistent with its financial projections, and there can be no assurance that the Company will achieve its expected cash flows. Investment activities for Fiscal Year 1999 are expected to total $24,500. The major expenditures are expected to be (i) video rental tapes ($8,100), (ii) remodeling of existing stores ($3,100), (iii) systems and technology ($8,000) and (iv) new stores ($3,900). The Company expects to finance and meet its obligations for these capital expenditures through internally generated funds and the use of the Company's current cash position. Certain Company information systems have potential operational problems in connection with applications that contain a date and/or use a date in a comparative manner as the date transitions into the Year 2000. The Company has implemented a comprehensive program to identify and remediate potential problems related to the Year 2000 in its information systems, infrastructure, logistics and retail facilities. In addition, the Company has initiated formal communication with all of its significant vendors and other external interfaces to determine the extent to which the Company is vulnerable to a third-party's failure to remediate their own potential problems related to the Year 2000. The inability of the Company or significant vendors and/or external interfaces of the Company to adequately address Year 2000 issues could cause disruption of the Company's systems. Management believes, based on its assessment of all of its systems, that its purchasing and pharmacy systems pose the greatest risk of disrupting its business if Year 2000 system modifications are not completed in time. Without modification, the Company may not be able to issue purchase orders with delivery dates after December 31, 1999 or dispense prescriptions with refill dates extending beyond December 31, 1999. The Company has developed or is in the process of developing contingency plans that include manually performing work in place of affected systems and the renting of back-up systems and generators. Many of the Company's systems are Year 2000 compliant, or have been scheduled for replacement in the Company's on-going systems plans. As of June 27, 1998, the Company has incurred approximately $450 related to the assessment of, and preliminary efforts in connection with, its Year 2000 program and remediation plan. Future spending for software modifications and testing required for Year 2000 are currently estimated to be approximately $600 with the majority expected to be incurred by the end of fiscal 1999. The Company will accelerate by one year the purchase of approximately $5,000 in replacement hardware in order to ensure the associated system is Year 2000 compliant. The Company's target date for completing its Year 2000 modifications is April 30, 1999, including additional testing and refinements to identify the systems planned for 1999. These expenditures are not expected to have a material impact on the Company's operating results, liquidity and capital resources. The Company is exposed to certain market risks from transactions that are entered into during the normal course of business. The Company's policies do not permit active trading of, or speculation in, derivative financial instruments. The Company's primary market risk exposure relates to interest rate risk. The Company manages its interest rate risk in order to balance its exposure between fixed and variable rates while attempting to minimize its interest costs. In June 1997, the Financial Accounting Standards Board ("FASB") issued a Statement of Financial Accounting Standards "(SFAS") No. 130, "Reporting Comprehensive Income," in June 1997, the FASB issued SFAS No. 131, "Disclosures about an Enterprise and Related Information," in February 1998, the FASB issued SFAS No. 132, "Employers' Disclosures about Pensions and Other Postretirement Benefits" and in June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." Management does not believe the adoption of any of these standards will have a material effect on its financial position or results of operations. Item 8. Financial Statements and Supplementary Data. See Index to Consolidated Financial Statements. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure. None. PART III Item 10. Directors and Executive Officers of the Registrant. The executive officers and directors of the Company as of the date hereof are listed below:
Name Age Position(s) - ---- --- ----------- Abbey J. Butler 61 Co-Chairman and Co-Chief Executive Officer Melvyn J. Estrin 56 Co-Chairman and Co-Chief Executive Officer M. David Schwartz 53 President and Chief Operating Officer Sankar Krishnan 51 Senior Vice President and Chief Financial Officer Warren E. Jeffery 49 Senior Vice President of Operations and Pharmacy John R. Ficarro 46 Senior Vice President, Chief Administrative Officer, General Counsel and Secretary Daniel H. Levy 55 Director Monroe Osterman 71 Director Arthur G. Rosenberg 60 Director John D. Shulman 35 Director
Abbey J . Butler has been a director of the Company since September 1995 and Co-Chairman of the Board and Co-Chief Executive Officer of the Company since October 1, 1997. Mr. Butler is Co-Chairman of the Board and Co-Chief Executive Officer of Avatex Corporation ("Avatex"), formerly known as FoxMeyer Health Corporation. Mr. Butler also serves as managing partner of Centaur Partners, L.P., an investment partnership with ownership interests in Avatex, and as President and a director of C.B. Equities Corp., a private investment company. Mr. Butler presently serves as a director and a member of the Executive Committee of GrandBanc, Inc.; and as a director of Carson, Inc., a global manufacturer of ethnic hair care products for African-Americans and persons of African descent, and Cyclone, Incorporated, a distributor and installer of chain link fence systems, highway guard rails and industrial gates and posts. Mr. Butler is a trustee and a member of the Executive Committee of the Board of Trustees of the American University, and a director of the Starlight Foundation, a charitable organization. He was appointed by President George Bush to serve on the President's Advisory Committee on the Arts, and he now serves as the president and chief executive officer of the National Committee for the Performing Arts, John F. Kennedy Center, Washington, D.C. On August 27, 1996, FoxMeyer Corporation and FoxMeyer Drug Company, subsidiaries of Avatex, each filed a petition under Chapter 11 of the United States Bankruptcy Code. At the time of the filing Mr. Butler was an executive officer and director of FoxMeyer Corporation and FoxMeyer Drug Company. On July 26, 1996, Ben Franklin Retail Stores, Inc. filed a petition for protection under Chapter 11 of the United State Bankruptcy Code. At the time of the filing, Mr. Butler was a director of Ben Franklin Retail Stores, Inc. Melvyn J. Estrin has been a director of the Company since September 1995 and Co-Chairman of the Board and Co-Chief Executive Officer of the Company since October 1, 1997. Melvyn J. Estrin is Co-Chairman of the Board and Co-Chief Executive Officer of Avatex. Mr. Estrin also serves as Chairman of the Board and Chief Executive Officer of Human Service Group, Inc., a private management and investment firm, and of University Research Corporation, a consulting firm. Mr. Estrin presently serves as Chairman of the Board and Chairman of the Executive Committee of GrandBanc, Inc.; and as a director of Washington Gas Light Company, Carson, Inc., a global manufacturer of ethnic hair care products for African-Americans and persons of African descent, Caring Technologies, Inc., a manufacturer of miniature continuous-wear vital signs monitors and Mr. Estrin has served as a Trustee of the University of Pennsylvania and was appointed by President George Bush to serve as Commissioner of the National Capital Planning Commission. On August 27, 1996, FoxMeyer Corporation and FoxMeyer Drug Company, subsidiaries of Avatex Corporation, each filed a petition under Chapter 11 of the United States Bankruptcy Code. At the time of the filing Mr. Estrin was an executive officer and director of FoxMeyer Corporation and FoxMeyer Drug Company. On July 26, 1996, Ben Franklin Retail Stores, Inc. filed a petition for protection under Chapter 11 of the United States Bankruptcy Code. At the time of the filing, Mr. Estrin was a director of Ben Franklin Retail Stores, Inc. M. David Schwartz has served as President and Chief Operating Officer of the Company since February 1993. From 1991 to 1993, he was a Director and the President and Chief Executive Officer of Smitty's Super Valu, Inc., a food and general merchandising retailer, and between 1987 and 1991 Mr. Schwartz served as a Director and the President and Chief Operating Officer of Perry Drug Stores Inc., a regional chain of 200 drug stores. Mr. Schwartz was Vice President of Drug/General Manager for the Kroger Company between 1985 and 1987 and, between 1971 and 1985, held positions with Albertson's Inc. including Senior Vice President of Marketing, Senior Vice President of Non-Foods Merchandising, Distribution and Procurement, Vice President of Merchandising, and Non-Foods Merchandise Manager. Mr. Schwartz attended Arizona State University. Sankar Krishnan has served as Senior Vice President and Chief Financial Officer of the Company since June 1997. From August 1993 to June 1997, Mr. Krishnan served as Vice President - Corporate Controller of the Company. From February until August 1993, Mr. Krishnan served as Pharmacy Business Administrator of the Company. From 1991 until the time he joined Phar-Mor, Mr. Krishnan served as Senior Vice President and Chief Financial Officer of Thrifty Drug Stores. From 1988 to 1991, he served as Senior Vice President and Chief Financial Officer of Lord & Taylor, a division of May Department Stores. He was employed with Macy's from 1970 to 1988, serving as Senior Vice President and Chief Financial Officer of Macy's New Jersey division from 1983 to 1988. Mr. Krishnan received a Masters degree in Applied Science from the University of Waterloo in Ontario, Canada, and a Bachelor of Technology degree from the University of Madras, India. Warren E. Jeffery has served as Senior Vice President of Operations of the Company since April 1996. Prior to that, Mr. Jeffery served as Vice President of Operations, beginning February 1993. From 1992 to 1993, he served as Regional Director-Store Operations for Revco D.S., Inc., operator of one of the country's largest retail drug store chains. Mr. Jeffery was employed by Perry Drug Stores from 1976 until 1992, holding various management positions, including Vice President of Store Operations from 1988 to 1992. Mr. Jeffery received a B.S. degree in pharmacy from Ferris State University. John R. Ficarro has served as Senior Vice President and Chief Administrative Officer (in addition to his existing duties as General Counsel and Secretary of the Company) since June 1997. Prior to that, Mr. Ficarro served as Vice President, General Counsel and Secretary of the Company beginning in February 1995. From 1981 to 1995, Mr. Ficarro was employed by General Host Corporation where he served as Vice President, General Counsel and Secretary since 1989 and prior to that time served as Counsel to several of its retail businesses. Prior to 1981, Mr. Ficarro practiced law at Titone & Roarke in Ft. Lauderdale, Florida. Mr. Ficarro received a B.A. from the Maxwell School at Syracuse University and a J.D. from its College of Law. Daniel H. Levy has been a director of the Company since September 25, 1997. Mr. Levy has been working as a consultant to retailers since 1994 and is currently serving as a director of Marks Brothers Jewelers and Donkenny Apparel, both of which are listed on Nasdaq. Mr. Levy served as chairman and chief executive officer of Best Products, Inc. from April 1996 to December 1996. In September 1996, Best Products, Inc. filed a petition under Chapter 11 of the United States Bankruptcy Code. Mr. Levy served as Chairman and Chief Executive Officer of Conrans, Mr. Levy served as Vice Chairman and Chief Operating Officer of Montgomery Ward in Chicago, Illinois from 1991 to 1993. Prior to serving as Vice Chairman and Chief Operating Officer of Montgomery Ward, Mr. Levy served in various executive capacities with Kaufmann's, Gimbel's and Bloomingdales. Monroe Osterman has been a director of the Company since September 25, 1997. Mr. Osterman has served as President of Gala Trading Corporation, an investment company specializing in large purchases of diamonds from Europe, since 1982. Prior to serving as President of Gala Trading Corporation, Mr. Osterman served as President of Paras USA and Bermont Corporation and was also a partner at J. Winston & Company, an importing and merchandising company. Arthur G. Rosenberg has been a director of the Company since November 23, 1997. Mr. Rosenberg has been a principal of The Associated Companies, a real estate development firm, since 1987 and recently became a principal of Millenium Development Group, LLC. Prior thereto, Mr. Rosenberg was a practicing lawyer in Huntington, New York and served as General Counsel for ITT Levitt & Sons, Inc., an international builder. Mr. Rosenberg currently serves on the Board of Directors of Mike's Original, Inc. and Antra Holding Company. John D. Shulman has been a director of the Company since November 23, 1997. Mr. Shulman has served as President and Chief Executive Officer of ONYX International, L.L.C., a merchant banking and venture firm focusing primarily on private equity placements in high growth companies, since 1994. Prior to serving as President and Chief Executive Officer of ONYX International, L.L.C., Mr. Shulman served as the Director of Development for Tower Companies, a diversified group of companies including real estate development, banking and related activities since 1986. Mr. Shulman currently serves on the Board of Directors of U.S. Interactive, Inc., Performance Distribution, Inc., Taiwan Mezzanine Fund I, L.P., Micro Macro Technologies, LTD, and on the Board of Managers of ChemLink Laboratories, LLC. Mr. Shulman is the husband of Mr. Estrin's niece. Item 11. Executive Compensation. The information required by Item 11 is incorporated herein by reference from the information set forth under the sections titled "Executive Compensation," "Committees of the Board; Meetings," "Executive Compensation Plans," "Compensation of Directors," "Employment Contracts and Termination of Employment and Change -In-Control Arrangements," "Compensation Committee Report on Executive Compensation," "Executive Summary Compensation Table," "Option Grants in Fiscal Year 1998," "Option Exercises and Values for Fiscal Year 1998," and "Performance Graph" of the Company's definitive proxy statement to be filed pursuant to Regulation 14A within 120 days after the close of its fiscal year. Item 12. Security Ownership of Certain Beneficial Owners and Management. The information required by Item 12 is incorporated herein by reference from the information set forth under sections titled "Voting Securities and Principal Holders Thereof" of the Company's definitive proxy statement to be filed pursuant to Regulation 14A within 120 days after the close of its fiscal year. Item 13. Certain Relationships and Related Transactions. The information required by Item 13 is incorporated herein by reference from the information set forth under the section titled "Certain Relationships and Related Transactions" of the Company's definitive proxy statement to be filed pursuant to Regulation 14A within 120 days after the close of its fiscal year. PART IV ITEM 14. Financial Statements, Financial Statement Schedule, Exhibits and Reports on Form 8-K. (a) Documents filed as part of this Form 10-K 1. Financial Statements The Financial Statements listed in the accompanying Index to Consolidated Financial Statements are filed as part of this Form 10-K. 2. Financial Statement Schedule The Financial Statement Schedule listed in the accompanying Index to Consolidated Financial Statements is filed as part of this Form 10-K 3. Exhibits The Exhibits filed as part of this Form 10-K are listed on the Exhibit Index immediately preceding such exhibits, incorporated herein by reference. (b) Reports on Form 8-K
Date of Report Date of Filing Description August 22, 1997 August 29, 1997 Robert M. Haft and Avatex Corporation entered into agreement resolving Avatex's exercise of buy-sell provisions of Hamilton Morgan, LLC Operating Agreement. September 19, 1997 September 23, 1997 Resignation of Robert M. Haft as Chief Executive Officer of the Company and of Linda Haft as a Director of the Company.
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. PHAR-MOR, INC. Date: September 25, 1998 By:/s/ John R. Ficarro ------------------------- John R. Ficarro Senior Vice President and Chief Administrative Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates listed below. Date: September 25, 1998 /s/ M. David Schwartz ------------------------- M. David Schwartz, President Date: September 25, 1998 /s/ Abbey J Butler ------------------------- Abbey J Butler, Co-Chairman and Co-Chief Executive Officer (Co-Principal executive officer) Date: September 25, 1998 /s/ Melvyn J. Estrin ------------------------- Melvyn J.Estrin,Co-Chairman and Co-Chief Executive Officer (Co-Principal executive officer) Date: September 25, 1998 /s/ Daniel H. Levy ------------------------- Daniel H. Levy, Director Date: September 25, 1998 /s/ Monroe Osterman ------------------------- Monroe Osterman, Director Date: September 25, 1998 /s/ Arthur G. Rosenberg ------------------------- Arthur G. Rosenberg, Director Date: September 25, 1998 /s/ John D. Shulman ------------------------- John D. Shulman, Director Date: September 25, 1998 /s/ Sankar Krishnan ------------------------- Sankar Krishnan Senior Vice President and Chief Financial Officer (principal financial and accounting officer) PHAR-MOR, INC. INDEX TO EXHIBITS Exhibit No. *2.1 Third Amended Joint Plan of Reorganization of Phar-Mor, Inc. and certain affiliated entities dated May 25, 1995, as modified **2.2 Disclosure Statement in Support of Plan of Reorganization **2.3 Exhibits to Third Amended Plan of Reorganization *3.1 Amended and Restated Articles of Incorporation *****3.2 Amended and Restated By-laws *4.1 Indenture dated September 11, 1995 between Phar-Mor, Inc. and IBJ Schroder Bank & Trust Company *4.2 Warrant Agreement dated September 11, 1995 between Phar-Mor, Inc. and Society National Bank *9.1 Amended and Restated Limited Liability Company Agreement of Hamilton Morgan dated May 5, 1995, among Robert M. Haft, Mary Z. Haft and FoxMeyer Health Corporation *10.1 New Security Agreements and New Equipment Notes entered into and issued by Phar-Mor, Inc. with the CIT Group/Equipment Financing, Inc., Ford Equipment Leasing Corp./General Electrical Capital Corporation, NBD Bank Evanston, N.A., Heleasco Twenty-Three, Inc., HCFS Business Equipment Corp., Romulus Holdings, Inc. and FINOVA Capital/Corporation *10.2 Loan Security Agreement, dated September 11, 1995, by and among the financial institutions listed on the signature pages therein, BankAmerica Business Credit, Inc., as agent, and Phar-Mor, Inc., Phar-Mor of Florida, Inc., Phar-Mor of Ohio, Inc., Phar-Mor of Virginia, Inc. and Phar-Mor of Wisconsin, Inc. **10.2.1 Exhibits to Loan and Security Agreement ****10.3 Employment Agreement between Phar-Mor, Inc. and M. David Schwartz, dated June 5, 1997 ****10.4 Employment Agreement between Phar-Mor, Inc. and John R. Ficarro, dated June 5, 1997 10.5 Employment Agreement between Phar-Mor, Inc. and Sankar Krishnan, dated June 13, 1997 10.6 Employment Agreement between Phar-Mor, Inc. and Abbey J. Butler, dated October 1, 1997 10.7 Employment Agreement between Phar-Mor, Inc. and Melvyn J. Estrin, dated October 1, 1997 10.8 Employment Agreement between Phar-Mor, Inc. and Warren E. Jeffery, dated June 23, 1998 10.9 Amendment to Employment Agreement between Phar-Mor, Inc. and David Schwartz, dated June 23, 1998 10.10 Amendment to Employment Agreement between Phar-Mor, Inc. and Sankar Krishnan, dated June 23, 1998 10.11 Amendment to Employment Agreement between Phar-Mor, Inc. and John R. Ficarro, dated June 23, 1998 10.12 Amendment to Employment Agreement between Phar-Mor, Inc. and Warren E. Jeffery, dated August 27, 1998 10.13 Second Amendment to Employment Agreement between Phar-Mor, Inc. and M. David Schwartz, dated August 27, 1998 10.14 Second Amendment to Employment Agreement between Phar-Mor, Inc. and Sankar Krishnan, dated August 27, 1998 10.15 Second Amendment to Employment Agreement between Phar-Mor, Inc. and John R. Ficarro, dated August 27, 1998 ***10.16 Employment Agreement between Phar-Mor, Inc. and Robert M. Haft, dated September 11, 1995 *10.17 Registration Rights Agreement by and among Phar-Mor, Inc. and FoxMeyer Drug Company and Hamilton Morgan L.L.C. dated September 11, 1995 *10.18 Registration Rights Agreement between Phar-Mor, Inc. and Alvarez & Marsal, Inc. dated September 11, 1995 *10.19 Third Amendment to Management Services Agreement dated as of September 11, 1995 among Phar-Mor, Inc. and certain affiliated entities, Alvarez & Marsal, Inc., Antonio C. Alvarez and Joseph A. Bondi *10.20 Form of Indemnification Agreement dated as of September 11, 1995 *****10.21 Phar-Mor, Inc. 1995 Amended and Restated Stock Incentive Plan *****10.22 Phar-Mor, Inc. 1995 Director Stock Plan, as Amended *****10.23 Phar-Mor, Inc. 1996 Director Retirement Plan *****10.24 Employee Stock Purchase Plan ****10.25 Supply Agreement dated as of June 19, 1997 between Phar-Mor and McKesson Drug Company ****10.26 Severance Agreement between Phar-Mor, Inc. and Robert M. Haft dated September 19, 1997 ***21.1 List of Subsidiaries 23 Independent Auditors' Consent 27 Financial Data Schedule - ----------------------------------------------------------------- * Previously filed in connection with the filing of Phar-Mor's Form 10, on October 23, 1995 ** Previously filed in connection with the filing of Amendment No. 1 to Phar-Mor's Form 10, on December 15, 1995 *** Previously filed in connection with the filing of Amendment No. 2 to Phar-Mor's Annual Report on Form 10-K405/A2, on March 27, 1997 **** Previously filed in connection with the filing of Phar-Mor's annual report on Form 10-K 405, on September 25, 1997 ***** Previously filed in connection with the filing of Phar-Mor's quarterly report on Form 10-Q, on May 1, 1998 PHAR-MOR, INC. AND SUBSIDIARIES INDEX TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- Page ----- INDEPENDENT AUDITORS' REPORT F - 2 CONSOLIDATED BALANCE SHEETS AS OF JUNE 27, 1998 AND JUNE 28, 1997 F - 3 CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE FIFTY-TWO WEEKS ENDED JUNE 27, 1998, THE FIFTY-TWO WEEKS ENDED JUNE 28, 1997, THE FORTY-THREE WEEKS ENDED JUNE 29, 1996, AND THE NINE WEEKS ENDED SEPTEMBER 2, 1995 F - 4 CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIENCY) FOR THE FIFTY- TWO WEEKS ENDED JUNE 27, 1998, THE FIFTY-TWO WEEKS ENDED JUNE 28, 1997, THE FORTY-THREE WEEKS ENDED JUNE 29, 1996, AND THE NINE WEEKS ENDED SEPTEMBER 2, 1995 F - 5 CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE FIFTY-TWO WEEKS ENDED JUNE 27, 1998, THE FIFTY-TWO WEEKS ENDED JUNE 28, 1997, THE FORTY-THREE WEEKS ENDED JUNE 29, 1996, AND THE NINE WEEKS ENDED SEPTEMBER 2, 1995 F - 6 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS F - 7 SCHEDULE II F - 30 F-1 INDEPENDENT AUDITORS' REPORT To the Board of Directors and Stockholders of Phar-Mor, Inc. : We have audited the accompanying consolidated balance sheets of Phar-Mor, Inc. and subsidiaries (the "Company") as of June 27, 1998 and June 28, 1997 (Successor Phar-Mor balance sheets), and the related consolidated statements of operations, changes in stockholders' equity (deficiency) and cash flows for the fifty-two weeks ended June 27, 1998, the fifty-two weeks ended June 28, 1997, the forty-three weeks ended June 29, 1996 (Successor Phar-Mor operations) and the nine weeks ended September 2, 1995 (Predecessor Phar-Mor operations). Our audits also included financial statement Schedule II, Valuation and Qualifying Accounts. These financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits. Except as discussed in the following paragraph, 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. As discussed in Note 1 to the financial statements, in August 1992, the Board of Directors of the Company disclosed that a fraud and embezzlement of the Company's assets, which had been concealed for a period of years by falsification of the accounting records, had been discovered. As a result, and as discussed in Notes 1 and 6, reliable accounting records and sufficient evidential matter to support the acquisition cost of property and equipment were not available; accordingly, we were not able to complete our auditing procedures for depreciation and amortization related to property and equipment for the nine weeks ended September 2, 1995. As discussed in Note 6, during the fifty-three weeks ended July 2, 1994, the Company recorded a $53,211,000 write down of its property and equipment based upon an independent appraisal. It was not possible to determine whether the aggregate amount of property and equipment at July 2, 1994 was greater than the original acquisition cost of such assets less accumulated depreciation and amortization. In our opinion, except for the effect of any adjustments that might have been determined to be necessary had reliable accounting records and sufficient evidential matter to support the acquisition cost of property and equipment been available, the Predecessor Phar-Mor financial statements referred to above present fairly, in all material respects, the results of operations and cash flows of Predecessor Phar-Mor for the nine weeks ended September 2, 1995, in conformity with generally accepted accounting principles. In our opinion, the Successor Phar-Mor financial statements referred to above present fairly, in all material respects, the financial position of Phar-Mor, Inc. and subsidiaries as of June 27, 1998 and June 28, 1997 and the results of their operations and their cash flows for the fifty-two weeks ended June 27, 1998 and June 28, 1997 and the forty-three weeks ended June 29, 1996, in conformity with general accepted accounting principles. In our opinion, the financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly in all material respects the information set forth therein. As discussed in Note 1 to the financial statements, on August 29, 1995, the Bankruptcy Court entered an order confirming the Plan of Reorganization which became effective on September 11, 1995. Accordingly, the accompanying financial statements have been prepared in conformity with AICPA Statement of Position 90-7, "Financial Reporting for Entities in Reorganization Under the Bankruptcy Code," for the Successor Phar-Mor as a new entity with assets, liabilities and a capital structure having carrying values not comparable with prior periods as described in Note 1. Deloitte & Touche LLP Pittsburgh, Pennsylvania August 14, 1998 (September 10, 1998 as to Notes 3 and 8) F-2 PHAR-MOR, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (Dollars in thousands, except par value) - --------------------------------------------------------------------------------
June 27, June 28, 1998 1997 --------- --------- ASSETS Current assets: Cash and cash equivalents $ 44,655 $ 79,847 Marketable securities 9,065 -- Accounts receivable - net 20,927 21,614 Merchandise inventories 176,069 169,103 Prepaid expenses 2,214 5,228 Deferred tax asset 489 515 --------- --------- Total current assets 253,419 276,307 Property and equipment - net 75,512 72,835 Deferred tax asset 9,281 9,255 Investments 4,275 -- Investment in Avatex 3,525 -- Other assets 3,443 4,208 --------- --------- Total assets $ 349,455 $ 362,605 ========= ========= LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 67,091 $ 61,808 Accrued expenses 36,069 36,019 Reserve for costs of rightsizing program 967 1,866 Current portion of self insurance reserves 2,280 2,649 Current portion of long-term debt 3,276 2,624 Current portion of capital lease obligations 7,051 6,531 --------- --------- Total current liabilities 116,734 111,497 Long-term debt 103,859 107,554 Capital lease obligations 27,134 32,659 Long-term self insurance reserves 7,680 8,098 Unfavorable lease liability - net 11,074 12,493 --------- --------- Total liabilities 266,481 272,301 --------- --------- Commitments and contingencies Minority interests 535 535 --------- --------- Stockholders' equity: Preferred stock, $.01 par value, authorized shares, 10,000,000, none outstanding -- -- Common stock, $.01 par value, authorized shares, 40,000,000; issued and outstanding shares, 12,235,865 at June 27, 1998, and 12,159,199 at June 28, 1997 122 122 Additional paid-in capital 89,976 89,402 Stock options outstanding 1,401 -- Unrealized loss on investment in Avatex (475) -- Retained (deficit)/earnings (8,585) 245 --------- --------- Total stockholders' equity 82,439 89,769 --------- --------- Total liabilities and stockholders' equity $ 349,455 $ 362,605 ========= =========
The accompanying notes are an integral part of these consolidated financial statements. F-3 PHAR-MOR, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (Dollars in thousands, except per share amounts) - --------------------------------------------------------------------------------
|| Predecessor Successor Company || Company -------------------------------------------- || ---------------- Fifty-two Fifty-two Forty-three || Nine weeks ended weeks ended weeks ended || weeks ended June 27,1998 June 28,1997 June 29,1996 || September 2,1995 ------------ ------------ ------------ || ---------------- Sales $ 1,100,851 $ 1,074,828 $ 874,284 || $ 181,968 || Less: || Cost of goods sold, including occupancy and || distribution costs 887,657 873,095 722,214 || 147,124 || Selling, general and administrative expenses 173,982 168,218 128,312 || 27,057 || Chapter 11 professional fee accrual adjustment -- -- (1,530)|| -- || Executive severance 6,787 -- -- || -- || Loss on disposal of equipment 4,615 -- -- || -- || Terminated business combination expenses -- 3,076 -- || -- || Depreciation and amortization 22,047 20,982 14,891 || 3,732 ------------ ------------ ------------ || ------------ || Income from operations before interest || expense, investment loss, interest || income, reorganization items, || fresh-start revaluation, income taxes || and extraordinary item 5,763 9,457 10,397 || 4,055 || Interest expense (excludes contractual interest || not accrued on prepetition debt of $3,897 in || the nine weeks ended September 2, 1995) 16,639 17,175 14,343 || 5,689 || Investment loss 1,105 -- -- || -- Interest income 3,151 5,437 8,614 || -- ------------ ------------ ------------ || ------------ || (Loss) income before reorganization items, || fresh-start revaluation, income taxes and || extraordinary item (8,830) (2,281) 4,668 || (1,634) || Reorganization items -- -- -- || 16,798 || Fresh-start revaluation -- -- -- || (8,043) ------------ ------------ ------------ || ------------ || (Loss) income before income taxes and || extraordinary item (8,830) (2,281) 4,668 || (10,389) || Income tax provision -- -- 2,142 || -- ------------ ------------ ------------ || ------------ || (Loss) income before extraordinary item (8,830) (2,281) 2,526 || (10,389) Extraordinary item - gain on debt discharge -- -- -- || 775,073 ------------ ------------ ------------ || ------------ || || Net (loss) income $ (8,830) $ (2,281) $ 2,526 || $ 764,684 ============ ============ ============ || ============ || Basic and diluted (loss) income per common share: || (Loss) income before extraordinary item $ (.72) $ (.19) $ .21 || $ (.19) || Extraordinary item -- -- -- || 14.33 ------------ ------------ ------------ || ------------ Net (loss) income $ (.72) $ (.19) $ .21 || $ 14.14 ============ ============ ============ || ============ || || Weighted average number of common shares || outstanding 12,197,371 12,157,419 12,156,614 || 54,066,463 ========== ========== ========== || ==========
The accompanying notes are an integral part of these consolidated financial statements. F-4 PHAR-MOR, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIENCY) (In thousands) - --------------------------------------------------------------------------------
Common Stock ------------ Total Par Additional Stock Unrealized Retained Stockholders' Value Paid-in Options loss on (Deficit) (Deficiency) Shares Amount Capital Outstanding Investments Earnings Equity ------ ------ ------- ----------- ----------- -------- ------ Balance at July 1, 1995 54,066 $ 5,407 $ 487,477 $ -- $ -- $(1,257,568) $(764,684) Net income -- -- -- -- -- 764,684 764,684 Cancellation of the former common equity under the Plan of Reorganization (54,066) (5,407) (487,477) -- -- 492,884 -- Issuance of the new equity interests in connection with emergence from Chapter 11 Cases 12,156 122 89,378 -- -- -- 89,500 -------- ------- --------- -------------- -------------- ----------- --------- Balance at September 2, 1995 12,156 122 89,378 -- -- -- 89,500 Net income -- -- -- -- -- 2,526 2,526 Shares issued 1 -- 7 -- -- -- 7 -------- ------- --------- -------------- -------------- ----------- --------- Balance at June 29, 1996 12,157 122 89,385 -- -- 2,526 92,033 Net loss -- -- -- -- -- (2,281) (2,281) Shares issued 2 -- 17 -- -- -- 17 -------- ------- --------- -------------- -------------- ----------- --------- Balance at June 28, 1997 12,159 122 89,402 -- -- 245 89,769 Net loss -- -- -- -- -- (8,830) (8,830) Stock options outstanding -- -- -- 1,401 -- -- 1,401 Unrealized loss on investments -- -- -- -- (475) -- (475) Shares issued 77 -- 574 -- -- -- 574 -------- ------- --------- -------------- -------------- ----------- --------- Balance at June 27, 1998 12,236 $ 122 $ 89,976 $ 1,401 $ (475) $ (8,585) $ 82,439 ======== ======= ========= ============== ============== =========== =========
The accompanying notes are an integral part of these consolidated financial statements. F-5 PHAR-MOR, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Dollars in thousands) - --------------------------------------------------------------------------------
|| Predecessor Successor Company || Company ---------------------------------------------- || ----------------- Fifty-two Fifty-two Forty-three || Nine weeks ended weeks ended weeks ended || weeks ended June 27,1998 June 28, 1997 June 29, 1996 || September 2, 1995 -------- --------- --------- || --------- OPERATING ACTIVITIES || Net (loss) income .................................. $ (8,830) $ (2,281) $ 2,526 || $ 764,684 Adjustments to reconcile net (loss) income || to net cash provided by operating activities: || Items not requiring the outlay of cash: || Extraordinary gain on debt discharge ............. -- -- -- || (775,073) Fresh-start revaluation .......................... -- -- -- || (8,043) Noncash charges included in reorganization items . -- -- -- || 16,500 Depreciation ..................................... 14,030 12,182 8,802 || 2,388 Loss on disposal of equipment .................... 4,615 -- -- || -- Stock option expense ............................. 1,401 -- -- || -- Amortization of video rental tapes ............... 7,970 8,800 6,055 || 1,333 Amortization of deferred financing || costs and goodwill ............................. 467 408 363 || 73 Deferred income taxes ............................ -- -- 2,142 || -- Deferred rent and unfavorable lease || liabilities .................................... (1,419) 1,412 606 || (89) Changes in assets and liabilities: || Accounts receivable .............................. 687 (780) 6,905 || 11,997 Marketable securities ............................ (9,065) -- -- || -- Merchandise inventories .......................... (6,769) (16,258) 15,534 || (6,922) Prepaid expenses ................................. 3,014 (44) 1,356 || 2,441 Deferred income taxes ............................ -- -- 2,088 || -- Other assets ..................................... 298 (707) (681) || 449 Accounts payable ................................. 5,283 8,047 (4,370) || (8,865) Accrued expenses ................................. 58 2,610 (1,999) || 1,133 Accrued bankruptcy professional fees ............. -- (181) (19,476) || 4,442 Reserve for costs of rightsizing program ......... (899) (1,585) (2,921) || 550 Self insurance reserves .......................... (787) (180) (916) || 1,131 -------- --------- --------- || --------- Net cash provided by operating activities .......... 10,054 11,443 16,014 || 8,129 -------- --------- --------- || --------- INVESTING ACTIVITIES || Additions to rental videotapes ..................... (8,167) (8,694) (7,316) || (1,874) Additions to property and equipment ................ (19,213) (18,467) (6,368) || (649) Investment in Avatex ............................... (4,000) -- -- || -- Investment in equity securities .................... (4,275) -- -- || -- Purchase of partnership interests .................. -- -- (145) || -- -------- --------- --------- || --------- Net cash used for investing activities ............. (35,655) (27,161) (13,829) || (2,523) -------- --------- --------- || --------- FINANCING ACTIVITIES || Principal payments on term debt .................... (3,043) (2,698) (1,467) || -- Principal payments on capital lease || obligations ...................................... (7,122) (6,019) (4,390) || -- Issuance of common stock ........................... 574 17 7 || -- -------- --------- --------- || --------- Net cash used for financing activities ............. (9,591) (8,700) (5,850) || -- -------- --------- --------- || --------- REORGANIZATION ACTIVITIES || Cash distribution pursuant to the plan of || reorganization ..................................... -- -- -- || (105,381) Payment of reclamation claims ...................... -- -- -- || (23,961) Decrease in all other liabilities subject || to settlement under reorganization proceedings ... -- -- -- || (2,076) Proceeds from the sale of new common stock ......... -- -- -- || 9,500 Debtor-in-possession financing costs ............... -- -- -- || (15) -------- --------- --------- || --------- Net cash used for reorganization activities ........ -- -- -- || (121,933) -------- --------- --------- || --------- || (Decrease) increase in cash and cash equivalents ... (35,192) (24,418) (3,665) || (116,327) Cash and cash equivalents, beginning of period ..... 79,847 104,265 107,930 || 224,257 -------- --------- --------- || --------- Cash and cash equivalents, end of period ........... $ 44,655 $ 79,847 $ 104,265 || $ 107,930 ======== ========= ========= || ========= Supplemental Information || Interest paid ...................................... $ 16,155 $ 16,762 $ 9,067 || $ 4,592 Income tax refunds ................................. 48 86 2,669 || --
The accompanying notes are an integral part of these consolidated financial statements. F-6 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts) - -------------------------------------------------------------------------------- 1. REORGANIZATION AND BASIS OF PRESENTATION In early August 1992 Phar-Mor, Inc. and its subsidiaries (collectively, the "Company") publicly disclosed that it had discovered a scheme by certain of its senior executives to falsify financial results. The officers believed to be involved were promptly dismissed and are no longer employed by the Company. A new management team, hired by the Board of Directors, assumed day-to-day management of the Company. Upon discovery of the fraud, it became apparent that the Company's explosive growth during the preceding several years had been fueled in part by a systematic scheme to falsify the Company's financial results and to conceal the Company's true financial condition. The fraud, which was perpetrated by the manipulation of information and override of the system of internal controls by certain of its senior executives, as well as a lack of systems and surrounding controls, masked very substantial losses, created in part by low margins, slow moving merchandise categories, high rentals for the newer and larger stores and operational inefficiencies. By the time the Company concluded its investigation into the size of the fraud, it determined that cumulative earnings had been overstated by approximately $500,000. In response to the fraud, new management developed and executed a business plan that resulted in closing retail store locations and distribution centers, improved gross margins, reduced operating costs and invested in systems designed to strengthen internal controls and improve management reporting. Additional charges to cumulative earnings of approximately $500,000 resulted from changes in accounting policies and restructuring costs which were recorded as of September 26, 1992 (See Note 6). On August 17, 1992, the Company filed petitions for relief under Chapter 11 of the United States Bankruptcy Code ("Chapter 11"). From that time until September 11, 1995, the Company operated its business as a debtor-in-possession subject to the jurisdiction of the United States Bankruptcy Court for the Northern District of Ohio (the "Bankruptcy Court"). On September 11, 1995, (the "Effective Date") the Company emerged from reorganization proceedings under Chapter 11 pursuant to the confirmation order entered on August 29, 1995 by the Bankruptcy Court confirming the Third Amended Joint Plan of Reorganization dated May 25, 1995 (the "Joint Plan") . Consequently, the Company applied the reorganization and fresh-start reporting adjustments to the consolidated balance sheet as of September 2, 1995, the closest fiscal month end to the Effective Date. The consolidated financial statements of the Company during the bankruptcy proceedings (the "Predecessor Company financial statements") are presented in accordance with American Institute of Certified Public Accountants Statement of Position 90-7, "Financial Reporting by Entities in Reorganization under the Bankruptcy Code" ("SOP 90-7"). Pursuant to guidance provided by SOP 90-7, the Company adopted fresh-start reporting as of September 2, 1995. Under fresh-start reporting, a new reporting entity is deemed to be created and the recorded amounts of assets and liabilities are adjusted to reflect their estimated fair values at the Effective Date (see Note 2). Consolidated financial statements for periods ended prior to September 2, 1995, have been designated as those of the Predecessor Company. Black lines have been drawn to separate the Successor Company consolidated financial statements from the Predecessor Company consolidated financial statements to signify that they are different reporting entities which have not been prepared on a comparable basis. The Joint Plan provided for, among other things, settlement of all liabilities subject to settlement under reorganization proceedings in exchange for cash, new debt, 12,156,250 shares of common stock and 1,250,000 common stock warrants and an interest in a Limited Liability Company ("LLC") which was established as part of the Joint Plan (see Notes 9 and 12). The Company's cause of action against its former auditor and certain other causes of action were assigned to such LLC. The Predecessor Company's creditors and former shareholders were beneficiaries of the LLC. F-7 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- The net cash disbursements upon the effectiveness of the Joint Plan were comprised as follows: Payment to the holders of claims under the prepetition credit agreement and prepetition senior secured notes $ 103,708 Payment to fund litigation of LLC causes of action 400 Payment of origination costs for revolving credit facility for the Successor Company 1,273 ---------- 105,381 Receipt of net proceeds from the sale of new common stock (9,500) ---------- $ 95,881 ========== The value of cash, notes and securities required to be distributed under the Joint Plan was less than the value of the allowed claims on and interests in the Predecessor Company; accordingly, the Predecessor Company recorded an extraordinary gain of $775,073 related to the discharge of prepetition liabilities in the period ended September 2, 1995. Payments and distributions associated with the prepetition claims and obligations were made or provided for in the consolidated balance sheet as of September 2, 1995 (see Note 2). The consolidated financial statements at September 2, 1995, give effect to the issuance of all common stock, senior notes and tax notes in accordance with the Joint Plan. The extraordinary gain recorded by the Predecessor Company was determined as follows: Liabilities subject to settlement under reorganization proceedings at the Effective Date $1,126,414 Less: Cash distribution pursuant to the Joint Plan (105,381) Issuance of new debt (108,523) New capital lease obligations (49,599) Assumption of prepetition liabilities (7,838) Value of new common stock issued to prepetition creditors (80,000) --------- Extraordinary item - gain on debt discharge $ 775,073 ========= 2. FRESH-START REPORTING As indicated in Note 1, the Company adopted fresh-start reporting as of September 2, 1995. The Successor Company fresh-start reorganization equity value of $89,500 was determined with the assistance of the financial advisors employed by the Company. The financial advisors reviewed financial data of the Company, including financial projections through the fiscal year 1999. The reorganization value of the Company, net of current liabilities, which was determined to be in a range of $260,000 to $330,000, was based primarily on the following methods of valuation: discounted cash flow analysis using projected five year financial information and a discount rate of 9.8%; market valuation of certain publicly traded companies whose operating businesses were believed to be similar to that of the Company; and review of certain acquisitions of companies whose operating businesses were viewed to be similar to that of the Company. In addition to these methods of analysis, certain general economic and industry information relevant to the business of the Company was considered. Based on the analysis outlined above, the financial advisors determined the equity value of the Company to be between $90,000 and $160,000. This equity value represented the reorganization value of $260,000 to $330,000 less $170,000 of debt assumed to be issued under the Joint Plan. The fresh-start reorganization equity value of $89,500 correlates to the $90,000 referred to above, less $1,000 in expenses reimbursed to certain shareholders plus $500 reflecting the purchase of common stock by present and former members of management as further described in the Joint Plan. F-8 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- The five year cash flow projections were based on estimates and assumptions about circumstances and events that had not yet taken place. Such estimates and assumptions were inherently subject to significant economic and competitive uncertainties beyond the control of the Company including, but not limited to, those with respect to the future course of the Company's business activity. Any difference between the Company's projected and actual results following its emergence from Chapter 11 has not and will not alter the determination of the fresh-start reorganization equity value because such value is not contingent upon the Company achieving the projected results. F-9 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- The Predecessor Company balance sheet as of September 2, 1995, and adjustments thereto to give effect to the discharge of prepetition debt and fresh-start reporting, are as follows:
Predecessor Company Adoption Of Successor Pre- Restructuring Fresh-Start Company confirmation (see Note 1) Reporting Reorganized ------------ ------------ --------- ----------- ASSETS Current assets: Cash and cash equivalents $ 203,811 $ (95,881) $ -- $ 107,930 Account receivable - net 27,702 -- -- 27,702 Due from related parties -- -- -- -- Merchandise inventories 167,177 -- -- 167,177 Prepaid expenses 6,540 -- -- 6,540 Deferred tax asset -- -- 1,814 1,814 ----------- ----------- ----------- ----------- Total current assets 405,230 (95,881) 1,814 311,163 Property and equipment - net 69,770 -- (4,592) 65,178 Deferred tax asset 180 -- 12,006 12,186 Other assets 2,992 3 (1,315) 1,680 ----------- ----------- ----------- ----------- Total assets $ 478,172 $ (95,878) $ 7,913 $ 390,207 =========== =========== =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY) Current liabilities: Accounts payable $ 56,483 $ 1,623 $ -- $ 58,106 Accrued expenses 27,619 6,255 -- 33,874 Accrued bankruptcy professional fees 19,657 -- -- 19,657 Reserve for costs of rightsizing program 7,301 -- -- 7,301 Current portion of self insurance reserves 5,030 -- -- 5,030 Current portion of long-term debt -- 1,541 -- 1,541 Current portion of capital lease obligations -- 5,534 -- 5,534 ----------- ----------- ----------- ----------- Total current liabilities 116,090 14,953 -- 131,043 Liabilities subject to settlement under reorganization proceedings 1,126,414 (1,126,414) -- -- Long-term debt -- 106,982 -- 106,982 Capital lease obligations -- 44,065 -- 44,065 Long-term self insurance reserves 8,142 -- -- 8,142 Unfavorable lease liability - net -- -- 10,475 10,475 Deferred rent 10,642 (37) (10,605) -- ----------- ----------- ----------- ----------- Total liabilities 1,261,288 (960,451) (130) 300,707 ----------- ----------- ----------- ----------- Stockholders' equity (deficiency): Common stock 5,407 (5,285) -- 122 Additional paid-in capital 487,477 (398,099) -- 89,378 Retained earnings (deficit) (1,276,000) 1,267,957 8,043 -- ----------- ----------- ----------- ----------- Total stockholders' equity (deficiency) (783,116) 864,573 8,043 89,500 ----------- ----------- ----------- ----------- Total liabilities and stockholders' equity (deficiency) $ 478,172 $ (95,878) $ 7,913 $ 390,207 =========== =========== =========== ===========
F-10 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- The significant fresh-start reporting adjustments are summarized as follows: (1) Revaluation of fixed assets and leasehold interests based, in part, upon the estimated fair market values of properties and leases. This revaluation resulted in recording unfavorable lease liabilities for certain locations. See Notes 3 and 6. (2) Write-off of lease acquisition costs. (3) Valuation and recording of a deferred tax asset representing the estimated net realizable value of net operating loss carryforwards. (4) Adjustments to the fair market value of other noncurrent assets in excess of reorganization value in accordance with fresh-start reporting. 3. BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES a. Fiscal Periods Presented - The accompanying consolidated balance sheets were prepared as of June 27, 1998 and June 28, 1997. The accompanying consolidated statements of operations, changes in stockholders' equity (deficiency) and cash flows were prepared for the fifty-two weeks ended June 27, 1998, the fifty-two weeks ended June 28, 1997, the forty-three weeks ended June 29, 1996, and the nine weeks ended September 2, 1995. The Company's year ends on the Saturday closest to June 30. b. Business - The Company operates a chain of "deep discount" drugstores primarily located in the midwest and along the east coast of the continental United States in which it sells merchandise in various categories. c. Principles of Consolidation - The consolidated financial statements include the accounts of Phar-Mor, Inc., its wholly-owned subsidiaries and its majority-owned partnerships. All intercompany accounts and transactions have been eliminated. d. Cash and Cash Equivalents - The Company considers all short-term investments with an original maturity of three months or less to be cash equivalents. e. Marketable Securities - Under the provisions of Statement of Financial Accounting Standards ("SFAS") No. 115, "Accounting for Certain Investments in Debt and Equity Securities," marketable securities are carried at fair market value as trading securities. The cost of the securities sold is determined using the specific identification method. Marketable securities consist primarily of equity instruments of corporations and real estate investment trusts. For the fifty-two weeks ended June 27, 1998, unrealized losses of $1,363 are included in Investment loss in the Consolidated Statement of Operations. f. Merchandise Inventories - Merchandise inventories are valued at the lower of first-in, first-out ("FIFO") cost or market. g. Video Rental Tapes - Videotapes held for rental which are included in inventories, are recorded at cost and are amortized over their estimated economic life with no provision for salvage value. With respect to "hit" titles for which four or more copies per store are purchased, the fourth and any succeeding copies are amortized over nine months on a straight-line basis. All other video cassette purchases up to three copies per store are amortized over thirty-six months on a straight-line basis. h. Investments - Investments consist of equity interests in unconsolidated affiliates that do not have readily determinable market values. The Company uses the equity method of accounting for investments in which it has 20% or more interest in voting common stock and the cost method of accounting for investments in which it has less than a 20% interest in voting common stock or investments in preferred stock (see Note 11). F-11 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- i. Investment in Avatex - During the fifty-two weeks ended June 27, 1998, the Company invested $4,000 to purchase approximately 11.9% of Avatex Corporation, formerly known as FoxMeyer Health Corporation ("Avatex"), an affiliate of one of the Company's former largest suppliers and the largest stockholder of the Company (see Note 11). Under the provisions of SFAS No. 115, this investment is carried at market value as available-for-sale securities. Unrealized losses on these securities are excluded from earnings and are reported as a separate component of stockholders' equity until realized. As of September 10, 1998, the quoted market price of Avatex Corporation common stock was $1.0625 per share as compared to $2.1875 per share at June 27, 1998, representing an additional unrealized loss of $1,812 on the Company's original $4,000 investment. j. Deferred Debt Expense - Deferred debt expense is included in other assets and is amortized on a straight-line basis over the term of the related debt. k. Goodwill - Goodwill is included in other assets and is amortized on a straight-line basis over 40 years. l. Pre-Opening Costs - Expenses incurred for new stores prior to their opening are expensed as incurred. m. Property and Equipment - The Company's policy is to record property and equipment (including leasehold improvements) at cost. Depreciation is recorded on the straight-line method over the estimated useful lives of the assets. Leasehold improvements are amortized over the estimated useful lives of the improvements or the lives of the leases, whichever is shorter. The Company capitalizes the costs of software and software upgrades purchased for use in its operations. The Company expenses the internal costs of software developed or modified for use in its operations. Maintenance and repairs are expensed as incurred. Replacements and betterments are capitalized and depreciated over the remaining estimated useful life of the asset . Because of the fraud and embezzlement referred to in Note 1 above, which resulted in unreliable and insufficient evidential matter to support the acquisition cost of property and equipment, as of July 2, 1994, the Company revalued property and equipment based upon an independent appraisal. Consequently, Predecessor Company property and equipment and related depreciation and amortization at and for periods subsequent to July 2, 1994 are based upon such assets valued at the lower of the appraised value or net book value at July 2, 1994 as adjusted for additions and disposals since that date (see Note 6). Property and equipment was revalued at September 2, 1995 in connection with the adoption of fresh-start reporting (see Note 2). n. Leased Property Under Capital Leases - The Company accounts for capital leases, which transfer substantially all of the benefits and risks incident to the ownership of property to the Company, as the acquisition of an asset and the incurrence of an obligation. Under this method of accounting the cost of the leased asset is amortized principally using the straight-line method over its estimated useful life, and the obligation, including interest thereon, is liquidated over the life of the lease. o. Operating Leases and Deferred Rent - Operating leases are accounted for on the straight-line method over the lease term. Deferred rent represents the difference between rents paid and the amounts expensed for operating leases. p. Unfavorable Lease Liability - The unfavorable lease liability was recorded as part of fresh-start reporting (see Note 2) and represents the excess of the present value of the liability related to lease commitments over the present value of market rate rents as of the date of the Reorganization for such locations. This liability will be amortized as a reduction of rent expense over the remaining lease terms. q. Self insurance reserves - The Company is generally self-insured for losses and liabilities related primarily to workers' compensation and comprehensive general and product liability. Losses are accrued based upon the Company's estimates of the aggregate liability for claims incurred using certain actuarial assumptions followed in the insurance industry and based on Company experience. F-12 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- r. Revenue Recognition - Sales are recognized on merchandise inventories sold upon receipt by the customer and are recorded net of returns. s. Reclassifications - Certain amounts in prior year financial statements have been reclassified to conform with the current year presentation. t. Estimates - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the period. Actual results could differ from those estimates. u. New Accounting Pronouncements - In June 1997, the Financial Accounting Standards Board ("FASB") issued SFAS No. 130, "Reporting Comprehensive Income." SFAS No. 130 establishes standards for reporting comprehensive income and its components, some of which have been historically excluded from the Statement of Operations and recorded directly to the equity section of an entity's statement of financial position. SFAS No. 130 also requires that the cumulative balance of these items of other comprehensive income are reported separately from retained earnings and additional paid-in capital in the equity section of a statement of financial position. This statement is effective for fiscal years beginning after December 15, 1997. Management anticipates that the adoption of SFAS No. 130 will have an impact on the disclosures in the consolidated financial statements but will not have a material impact on its financial position or results of operations. In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." SFAS No. 131 establishes standards for the way public companies report selected information about operating segments in both quarterly and annual financial statements to their shareholders. It also established standards for related disclosures about products and services, geographic areas and major customers. SFAS No. 131 is effective for fiscal years beginning after December 15, 1997. This statement is not required to be applied to interim financial statements in the initial year of its application. Management does not believe that SFAS No. 131 will have an impact on the disclosures in the consolidated financial statements or a material impact on its financial position or results of operations. In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosures about Pensions and Other Postretirement Benefits." SFAS No. 132 revises employers' disclosures about pension and other postretirement benefit plans by standardizing the disclosure requirements for pensions and other postretirement benefits to the extent practicable, requires additional information on changes in the benefit obligations and fair values of plan assets that will facilitate financial analysis and eliminates certain disclosures that are no longer considered useful. It does not change the measurement or recognition of these plans. SFAS No. 132 is effective for fiscal years beginning after December 15, 1997. Management has not yet determined the impact that SFAS No. 132 will have on the disclosures in its consolidated financial statements, but does not believe adoption will have a material impact on its financial position or results of operations. In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," which establishes accounting and reporting standards for derivative instruments and for hedging activities. It requires that an entity recognize all derivatives as either assets of liabilities in the statement of financial position and measure those instruments at fair value, with the potential effect on operations dependent upon certain conditions being met. SFAS No. 133 is effective for all fiscal quarters of fiscal years beginning after June 15, 1999. Management does not believe that the adoption of SFAS No. 133 will have a material impact on its financial position or results of operations. F-13 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- 4. ACCOUNTS RECEIVABLE Accounts receivable consists of the following: June 27,1998 June 28,1997 ------------ ------------ Accounts receivable - vendors $11,712 $13,162 Third-party prescriptions 9,205 8,489 Vendor coupons 1,238 1,202 Other 174 1,464 ------- ------- 22,329 24,317 Less allowance for doubtful accounts 1,402 2,703 ------- ------- $20,927 $21,614 ======= ======= 5. MERCHANDISE INVENTORIES Merchandise inventories consists of the following: June 27,1998 June 28,1997 ------------ ------------ Store inventories $ 146,969 $ 140,158 Warehouse inventories 34,659 37,361 Video rental tapes - net 6,065 6,442 ------------ ------------ 187,693 183,961 Less reserves for markdowns, shrinkage and vendor rebates 11,624 14,858 ------------ ------------ $ 176,069 $ 169,103 ============ ============ The video rental tape inventory is net of accumulated amortization of $13,340 and $12,797 at June 27, 1998 and June 28, 1997, respectively. 6. PROPERTY AND EQUIPMENT Property and equipment consists of the following: June 27, 1998 June 28, 1997 ------------- ------------- Furniture, fixtures and equipment $ 40,083 $ 28,394 Building improvements to leased property 33,622 27,641 Land 166 166 Capital leases: Buildings 11,076 11,076 Furniture, fixtures and equipment 21,860 27,380 ------------ ------------ 106,807 94,657 Less accumulated depreciation and amortization 30,923 21,308 Less allowance for disposal of property and equipment 372 514 ------------ ------------ $ 75,512 $ 72,835 ============ ============ Due to the lack of reliable accounting records referred to in Note 1 and because the adverse business conditions which had been concealed by the fraud and embezzlement dictated an assessment as to whether the carrying amount of property and equipment had been overstated, an independent appraisal was undertaken in 1994. The appraisal included the physical inspection of property and equipment at the Company's corporate headquarters, warehouse and F-14 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- selected retail store locations. The appraised value of certain property and equipment was less than the net book value of the assets. Accordingly, the Company recorded a charge of $53,211 to write down property and equipment as of July 2, 1994. The following is a reconciliation of the net book value of property and equipment and the effects of the write down:
July 2, 1994 ------------------------------------ Historical Lower of Net Appraised Book Or Net Value Write Down Book Value ----- ---------- ---------- Furniture, fixtures and equipment $ 54,935 $ (31,150) $ 23,785 Building improvements to leased property 36,582 (22,061) 14,521 Capital leases: Buildings 11,201 -- 11,201 Furniture, fixtures and equipment 40,850 -- 40,850 --------- --------- --------- $ 143,568 $ (53,211) $ 90,357 ========= ========= =========
The historical net book value amounts are net of accumulated depreciation and amortization for each caption. Accumulated depreciation and amortization is $0 for each caption for the lower of appraised or net book value amounts. Also, as a result of the fraudulent reporting described in Note 1, the following types of errors extended to property and equipment: (1) Journalization of fictitious income via systematic capitalization of non-existent additions to store property and equipment accounts. (2) Repair and maintenance and short-term equipment rental items which were improperly capitalized. (3) Landlord reimbursements received in prior years for leasehold improvements, which reimbursements were not credited as a reduction to the related asset account, and in some cases, could not be traced to the accounting records at all. Adjustments were made in the September 26, 1992 balance sheet for the above known errors. September 26, 1992 was the end of the Company's first fiscal quarter of fiscal year 1993, the date closest to the dates on which the Company conducted a physical inventory at its stores and distribution centers following the disclosure of the fraud and the earliest date a consolidated balance sheet could be prepared by new management. While it is not possible to say with certainty that it was a conscious part of the fraudulent reporting scheme, the conditions which prevented new management from reconstructing the property and equipment records were: 1) incomplete and unreconcilable detailed fixed asset registers or equivalent records (i.e., there was inadequate detail maintained regarding the composition of fixed assets below the general ledger account level); and 2) inadequate documentation to support the acquisition cost of those assets (e.g., lack of invoices, contracts or the like). Despite the expenditure of substantial resources to locate sufficient underlying documentation to reconstruct those records, the Company ultimately concluded that it was not possible to determine that the recorded amounts were reflective of the original acquisition cost. Accordingly, any adjustment that might have been determined to be necessary to adjust to original acquisition cost if reliable records could have been reconstructed would be limited to: 1) the recorded cost of property and equipment ; 2) accumulated depreciation thereon; and 3) the related periodic depreciation expense. Note that any adjustment to cost or accumulated depreciation as of September 26, 1992 would have affected those balance sheet line-items and retained deficit, but would not have affected subsequent statements of operations beyond the impact on depreciation expense. F-15 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- 7. OTHER ASSETS Other assets consists of the following: June 27, 1998 June 28, 1997 ------------- ------------- Goodwill $ 1,667 $ 1,712 Deferred debt expense 79 401 Pharmacy files 496 641 Cash surrender value of officers life insurance -- 659 Utility and other deposits 664 86 Other 537 709 ------------ ------------ $ 3,443 $ 4,208 ============ ============ Goodwill, deferred debt expense and pharmacy files are net of accumulated amortization of $123, $989 and $425, respectively, at June 27, 1998 and $78, $667 and $180, respectively, at June 28, 1997. The deferred debt expense consists of debt origination costs associated with the credit facility (See Note 8). 8. REVOLVING CREDIT FACILITIES On September 11, 1995, the Company entered into a Loan and Security Agreement (the "Facility") with BankAmerica Business Credit, Inc. ("BABC"), as agent, and other financial institutions (collectively, the "Lenders"), that established a credit facility in the maximum amount of $100,000. Borrowings under the Facility could have been used for working capital needs and general corporate purposes. Up to $50,000 of the Facility at any time could have been used for standby and documentary letters of credit. The Facility included restrictions on, among other things, additional debt, capital expenditures, investments, restricted payments and other distributions, mergers and acquisitions, and contained covenants requiring the Company to meet a specified quarterly minimum EBITDA Coverage Ratio (the sum of earnings before interest, taxes, depreciation and amortization, as defined, divided by interest expense), calculated on a rolling four quarter basis, and a monthly minimum net worth test. Credit availability under the Facility at any time was the lesser of the Aggregate Availability (as defined in the Facility) or $100,000. Availability under the Facility, after subtracting amounts used for outstanding letters of credit, was $91,704 and $88,003 at June 27, 1998 and June 28, 1997, respectively. The Facility establishes a first priority lien and security interest in the current assets of the Company, including, among other items, cash, accounts receivable and inventory. Advances made under the Facility would have borne interest at the BankAmerica reference rate plus 1/2% or London Interbank Offered Rate ("LIBOR") plus the applicable margin. The applicable margin ranged between 1.50% and 2.00% and was determined by a formula based on a ratio of (a) the Company's earnings before interest, taxes, depreciation and amortization to (b) interest. Under the terms of the Facility, the Company was required to pay a commitment fee of 0.28125% per annum on the unused portion of the Facility, letter of credit fees and certain other fees. There have been no borrowings under the Facility. At June 27, 1998 and June 28, 1997 there were letters of credit in the amount of $5,709 and $4,924, respectively, outstanding under the Facility. The Company entered into an Amended and Restated Revolving Credit Facility (the "Amended Revolving Credit Facility") effective September 10, 1998 with BABC, as agent, and other financial institutions that established a credit facility in the maximum amount of $100,000. F-16 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- Borrowings under the Amended Revolving Credit Facility may be used for working capital needs and general corporate purposes. Up to $50,000 of the facility at any time may be used for standby and documentary letters of credit. The facility includes restrictions on, among other things, additional debt, investments, dividends and other distributions, mergers and acquisitions. The facility contains no financial covenants. Credit availability under the Amended Revolving Credit Facility at any time is the lesser of the Aggregate Availability (as defined in the Facility) or $100,000. The Amended Revolving Credit Facility establishes a first priority lien and security interest in the current assets of the Company, including, among other items, cash, accounts receivable and inventory. Advances made under the Amended Revolving Credit Facility bear interest at the BankAmerica reference rate plus 1/2% or LIBOR plus 2.00%. Under the terms of the Amended Revolving Credit Facility, the Company is required to pay a commitment fee of between 0.25% and 0.35% per annum on the unused portion of the facility, letter of credit fees and certain other fees. The Amended Revolving Credit Facility expires on September 10, 2001. 9. LONG-TERM DEBT The composition of the debt obligations included on the consolidated balance sheet as of June 27, 1998 and June 28, 1997 is as follows:
June 27, 1998 June 28, 1997 ------------- ------------- Senior unsecured notes, interest rate of 11.72%, due September 2002 $ 91,462 $ 91,462 Equipment notes, interest rate of 7%, due in installments through October 2003 5,484 7,166 Tax notes, interest rates at 5.89% to 8%, due through September 2001 5,257 6,342 Real estate mortgage notes and bonds payable at rates ranging from 3% to 9.98% and the prime rate plus 1% 4,932 5,208 ------------ ------------ Total debt 107,135 110,178 Less current portion 3,276 2,624 ------------ ------------ Total long-term debt $ 103,859 $ 107,554 ============ ============
The Company must offer to purchase the senior unsecured notes at a price equal to 101% of the principal amount upon the occurrence of a change in control. The new senior notes contain restrictions on, among other things, incurrence of debt, payment of dividends and repurchases of common stock. The Company has mortgage notes and bonds payable collateralized by real estate with an aggregate net book value of $4,222 at June 27, 1998. F-17 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- Future maturities of long-term debt subsequent to June 27, 1998 are summarized as follows: 1999 $ 3,276 2000 1,502 2001 1,120 2002 3,079 2003 92,591 Thereafter 5,567 -------- $107,135 ======== 10. LEASES The Company leases its retail store properties, certain warehouse facilities and certain equipment under capital and operating leases. Generally, leases are net leases that require the payment of executory expenses such as real estate taxes, insurance, maintenance and other operating costs, in addition to minimum rentals. The initial terms of the leases range from three to twenty-five years and generally provide for renewal options. Minimum annual rentals for all capital and operating leases having initial noncancelable lease terms in excess of one year at June 27, 1998 are as follows: Capital Operating Leases Leases ------ ------ 1999 $ 9,398 $ 35,080 2000 8,822 35,313 2001 5,887 34,802 2002 5,240 34,253 2003 3,423 31,513 Thereafter 10,610 124,321 -------- -------- Total minimum lease payments 43,380 $295,282 Less amounts representing interest 9,195 ======== -------- Present value of minimum lease payments 34,185 Less current portion 7,051 -------- Long-term capital lease obligations $ 27,134 ======== The operating leases on substantially all store properties, provide for additional rentals when sales exceed specified levels and contain escalation clauses. Rent expense for the fifty-two weeks ended June 27, 1998, the fifty-two weeks ended June 28, 1997, the forty-three weeks ended June 29, 1996, and the nine weeks ended September 2, 1995 was $31,921, $32,557, $26,278, and $5,660, respectively, including $123, $145, $103, and $36 of additional rentals. 11. TRANSACTIONS WITH RELATED PARTIES Successor Company From September 11, 1995, to September 19, 1997, Hamilton Morgan LLC ("Hamilton Morgan") beneficially owned approximately 39.9% of the Company's common stock. During this period, (a) Avatex owned 69.8% of Hamilton Morgan, and Abbey J. Butler and Melvyn J. Estrin, Avatex's Co-Chairmen of the Board and Co-Chief Executive Officers, served as directors of the Company, and (b) Robert Haft owned 31.2% of Hamilton Morgan and served as Hamilton Morgan's President and the Company's Chairman of the Board and Chief Executive Officer. On September 19, 1997, under the terms of an agreement between Hamilton Morgan, Robert Haft and Avatex (the "Hamilton Morgan Agreement"), Avatex acquired the 3,750,000 shares of the Company's common stock previously owned by Hamilton Morgan in exchange for (i) the redemption of Avatex's membership interest in Hamilton F-18 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- Morgan, (ii) the satisfaction of a certain promissory note from Hamilton Morgan to Avatex and (iii) the transfer of certain other assets from Avatex to Hamilton Morgan. Avatex now beneficially owns approximately 39.1% of the Company's common stock. In conjunction with the Hamilton Morgan Agreement, the Company entered into a Severance Agreement with Robert Haft whereby he resigned his position as Chairman of the Board of Directors and Chief Executive Officer and received a lump sum cash payment of $4,417. Under the terms of the Severance Agreement, the Company will continue to provide benefits to him through September 19, 2000. He is indemnified and entitled to tax reimbursement in respect to any payments that constitute excess parachute payments under Federal Income Tax laws. The Company is obligated to provide a letter of credit in the amount of approximately $2,900 to secure its contractual obligations under the Severance Agreement. A subsidiary of Avatex, FoxMeyer Drug Company, supplied the Company with pharmaceuticals and health and beauty care products under a long term contract until November 1996, when substantially all of FoxMeyer Drug Company's assets were acquired by McKesson Corporation. For the fifty-two weeks ended June 28, 1997, and the forty-three weeks ended June 29, 1996, the Company purchased $71,298 and $179,841, respectively, of products from FoxMeyer Drug Company under the contract. In March 1998, 13 persons and entities purchased (or committed to purchase) a total of $2,200 million of Series A membership interests in Chemlink Acquisition Company, LLC, which in turn purchased a membership interest in Chemlink Laboratories, LLC. These persons and entities included the Company; Avatex; two of the Company's executive officers, Abbey J. Butler and Melvyn J. Estrin (and/or their designees); one Avatex officer, Edward L. Massman; one non-officer director of Avatex; and five additional parties related to, or referred to by, Abbey J. Butler or Melvyn J. Estrin. Of the total amount invested, the Company's share was approximately 35.8%, Avatex's share was approximately 35.8%, the Avatex officers/designees' share (including Messrs. Butler and Estrin) was approximately 14.8%, the Avatex non-officer director's share was approximately 1.1%, and the related parties' share was approximately 12.5%. The largest share invested by a Company officer or director (or his designee) was approximately 6.8% of the total amount invested. Messrs. Butler, Estrin and Shulman serve on the Board of Managers of Chemlink Laboratories, LLC. The Company accounts for this investment using the equity method of accounting. In April 1998, 13 persons and entities purchased (or committed to purchase) a total of $3,000 of Series B Preferred Stock and warrants to purchase Series B Preferred Stock of RAS Holding Corp. These persons and entities included the Company; Avatex; two of the Company's executive officers, Melvyn J. Estrin and Abbey J. Butler; all of Avatex's executive officers and its Director of Accounting (and/or their designees); one non-officer director of Avatex; and two additional parties related to, or referred to by, Abbey J. Butler or Melvyn J. Estrin. Mr. Butler is also a director of RAS Holding Corp. Of the total amount invested, Avatex's share was approximately 46.7%, the Company's share was 25%, the Avatex officers/designees' share was 19.8%, the Avatex non-officer director's share was 1% and the related parties' share was approximately 7.5%. The largest share invested by an officer or director of the Company (or his designee) was 5% of the total amount invested. The Company accounts for this investment using the cost method of accounting. In April 1998, the Company and Avatex each purchased $1,250 of preferred stock of HPD Holdings Corp. ("HPD") in connection with the acquisition by a HPD subsidiary of certain of the assets of Block Drug Company, Inc. ("Block") used in or related to the manufacture, sale or distribution of Block's household product lines. In addition, the Company and Avatex each acquired 2.5% of the common stock of HPD as part of the transaction. The largest shareholder of HPD is HPD Partners, LP, a Delaware limited partnership and Abbey J. Butler and Melvyn J. Estrin are limited partners of HPD Partners, LP and directors of HPD Laboratories, Inc., a wholly owned subsidiary of HPD. The Company accounts for this investment using the cost method of accounting. During Fiscal Year 1998, the Company paid $10 to University Research Corporation and $10 to Human Service Group, Inc. for secretarial services provided to Mr. Estrin. Human Service Group, Inc. and University Research Corporation are corporations wholly owned by Mr. Estrin. F-19 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- The Company purchased $314 of product from AM Cosmetics, Inc. Mr. Butler and Mr. Estrin were directors of AM Cosmetics, Inc. until September 1998. The Company purchased $241 of product from Carson Products, a subsidiary of Carson, Inc. Mr. Butler and Mr. Estrin are directors of Carson, Inc. A subsidiary of Avatex purchased a total of 372,000 shares of Carson class A common stock in December 1997 and January 1998. The Company paid CB Equities Corporation $52 for office and equipment support for Mr. Butler. Mr. Butler is President of CB Equities Corporation. Predecessor Company Operating Leases - The Company leased various property and equipment from related parties. Rental payments for the nine weeks ended September 2, 1995 were $2,280. 12. COMMON STOCK, WARRANTS AND OPTIONS Common Stock ------------ A total of 12,156,250 common shares were issued and outstanding as of the Effective Date. Pursuant to the Joint Plan, 10,000,000 common shares were issued to prepetition creditors. Further, pursuant to the Joint Plan, 1,250,000 common shares were issued by the Company to Hamilton Morgan, 50,000 common shares were issued to Alvarez & Marsal, Inc., and 12,500 common shares were issued to certain members of existing management in exchange for cash consideration at $8.00 per share net of $1,000 in expenses incurred by Hamilton Morgan. Additionally, 843,750 shares were distributed to Avatex as settlement for a prepetition reclamation claim. Warrants -------- Pursuant to the Joint Plan, warrants to purchase an aggregate of 1,250,000 common shares were issued as of the Effective Date to certain prepetition unsecured creditors. Each warrant entitles the holder thereof to acquire one common share at a price of $13.50, subject to certain adjustments, as defined in the Joint Plan. The warrants are exercisable at any time until the close of business on September 10, 2002. As of June 27, 1998, no warrants have been exercised. Stock Options ------------- The Company has an incentive stock option plan for officers and key employees which allows for the issuance of a maximum of 3,500,000 options. As of June 27, 1998, options for 1,343,834 common shares were reserved for future grant, and options for 2,079,500 shares were outstanding and are exercisable upon vesting. Under the terms of the option plan, all options have a seven-year term from date of grant. Generally, the options granted vest with respect to 20% or 33 1/3% of the underlying shares on the grant date, and will vest in additional increments of 20% or 33 1/3% of the underlying shares on each of the subsequent anniversaries of the grant date until 100% vested. To the extent then vested, the options are generally exercisable within one year following the death or disability of the holder of the option, and within six months of any termination event, except where a termination is for cause, in which case the option will then terminate. To the extent then not vested, the options generally will terminate upon the holders death, disability or termination of employment. The employment agreements of certain executive officers provide for accelerated vesting of options upon specified termination events. The firm of Alvarez & Marsal, Inc. were granted fully vested stock options for 416,667 shares of common stock on the Effective Date. The options are exercisable at $8.00 per share and expire on September 11, 2002. F-20 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- The Company has a stock option plan for directors. Before October 1, 1997, each director received an annual grant of an option to purchase 5,000 shares of Common Stock. Commencing with the grant on October 1, 1997, each director now receives an annual grant of an option to purchase 10,000 shares of Common Stock The options vest immediately, expire five years after the grant date and are exercisable at an exercise price equal to the market price on the grant date. A maximum of 500,000 common shares may be granted under the stock option plan for directors. As of June 27, 1998, options for 120,000 shares were outstanding. Each director may also elect to receive common stock, in lieu of all or portions of the director's annual retainer at a price equal to the market price as of October 1 of the year of the election. The Company applies Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" and related interpretations in accounting for its stock-based compensation. Accordingly, $1,401 in compensation cost for the Company's stock option plans has been recognized in the accompanying consolidated financial statements. Had compensation cost for the Company's plans been determined based on the fair value at the grant date instead of the intrinsic value method described above for the awards granted in 1996, 1997, and 1998 the Company's net (loss) income and net (loss) income per share would have been reduced to the pro forma amounts indicated below.
Fifty-two weeks Fifty-two weeks Forty-three weeks ended June 27, 1998 ended June 28, 1997 ended June 29, 1996 ------------------- ------------------- ------------------- Net income As reported $ (8,830) $ (2,281) $ 2,526 Pro forma $ (11,654) $ (2,541) $ 2,364 Basic and diluted earnings per share As reported $ (0.72) $ (0.19) $ 0.21 Pro forma $ (0.96) $ (0.21) $ 0.19
The fair value of each option has been estimated on the date of grant using the Black-Scholes options pricing model with the following assumptions for the periods presented: expected volatility of 30%; no dividend yield; expected life of 7 years; and a risk-free interest rate of 6.5%. All of the Company's Stock Option Plans are administered by the Compensation Committee of the Company's Board of Directors. As of June 27, 1998, 1,452,579 options were exercisable at a weighted average exercise price per share of $7.70. F-21 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- The following table summarizes stock option activity under the plans:
Weighted Weighted Average Average Remaining Options Exercise Option Price Contractual Outstanding Price Per Share per Share Life (Years) ----------- --------------- --------- ------------ Balance at September 2,1995 1,225,917 $ 8.00 $ 8.00 7.00 Granted 248,800 $ 7.53 $ 7.06 - $8.00 Forfeited (116,100) $ 8.00 $ 8.00 ------------ Balance at June 29, 1996 1,358,617 $ 7.91 $ 7.06 - $8.00 6.22 Granted 100,000 $ 5.66 $ 5.44 - $6.17 Forfeited (137,800) $ 7.82 $ 7.06 - $8.00 ------------ Balance at June 28, 1997 1,320,817 $ 7.75 $ 5.44 - $8.00 5.30 Granted 1,840,000 $ 7.83 $ 5.44 - $9.63 Forfeited (467,984) $ 7.00 $ 5.44 - $8.00 Exercised (76,666) $ 7.50 $ 6.50 - $8.00 ------------ Balance at June 27, 1998 2,616,167 $ 7.92 $ 5.44 - $9.63 5.71 ============
On February 17, 1998, the Company granted options to purchase 375,000 shares at $5.4375 and options to purchase 400,000 shares at $6.84375. These options were issued below the market price of $9.6875 on this date. All of the remaining options were granted at the market price on the date of the grant. EMPLOYEE STOCK PURCHASE PLAN ---------------------------- The Company sponsors an Employee Stock Purchase Plan ("ESPP") under which it is authorized to issue up to 500,000 shares of common stock to all employees with a minimum of three months of service. The ESPP allows eligible employees to contribute through payroll deductions up to 10% of their annual salary toward stock purchases. Stock purchases will be made quarterly at 90% of the closing price at the last day of any calendar quarter. 13. INCOME TAXES Deferred taxes at June 27, 1998 and June 28, 1997, reflect the net tax effect of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Deferred tax assets are recognized to the extent that realization of such benefits is more likely than not. Changes in tax rates or laws will result in adjustments to the recorded deferred tax assets or liabilities in the period that the change is enacted. F-22 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- The components of deferred tax assets and liabilities are as follows: June 27, 1998 June 28, 1997 ------------- ------------- Deferred Tax Assets: Operating and restructuring reserves $ 5,495 $ 7,448 Net operating losses 114,293 116,399 Depreciation and amortization 28,411 27,078 Lease escalation accruals 4,470 5,030 Jobs tax credit 4,432 4,432 Other items 3,730 767 ------------ ------------ 160,831 161,154 Valuation allowance (151,061) (151,384) ------------ ------------ Net deferred tax assets $ 9,770 $ 9,770 ============ ============ Composition of amounts in Consolidated Balance Sheet: Deferred tax assets - current $ 489 $ 515 Deferred tax liabilities - current -- -- ------------ ------------ Net deferred tax assets - current $ 489 $ 515 ============ ============ Deferred tax assets - noncurrent $ 9,281 $ 9,255 Deferred tax liabilities - noncurrent -- -- ------------ ------------ Net deferred tax assets - noncurrent $ 9,281 $ 9,255 ============ ============ Deferred tax assets, arising both from future deductible temporary differences and net operating losses ("NOLs"), have been reduced by a valuation allowance to an amount more likely than not to be realized through the future reversal of existing taxable temporary differences. Any future reversal of the valuation allowance existing at the Effective Date to increase the net deferred tax asset will be added to additional paid-in capital. There is no current income tax provision. A reconciliation of the total tax provision with the amount computed by applying the statutory federal income tax rate to (loss) income before taxes is as follows:
Fifty-two Fifty-two Forty-three || Nine weeks ended weeks ended weeks ended || weeks ended June 27, 1998 June 28, 1997 June 29, 1996 || September 2,1995 ------------- ------------- ------------- || ---------------- Statutory tax rate (35.0%) (35.0%) 35.0% || 35.0% State income taxes, net of federal benefit -- -- 5.1 || -- Nontaxable forgiveness of indebtedness -- -- -- || (29.1) Depreciation -- -- -- || (0.4) Restructuring reserves -- -- -- || (5.3) Change in valuation allowance 35.0% 35.0% -- || 0.3 Other, net -- -- 5.8 || (0.5) ------------- ------------- ------------- || ---------------- Effective tax rate 0.0% 0.0% 45.9% || 0.0% ============= ============= ============= || ================
The Company has approximately $279,000 of tax basis NOLs available to offset future taxable income. Approximately $263,000 of this amount ("Section 382 NOLs") is subject to restrictions enacted in the Internal Revenue Code of 1986, as amended, dealing specifically with stock ownership changes and debt cancellations that occurred in connection with the Company's emergence from bankruptcy. Additional restrictions imposed by Internal Revenue Code Section 382 (I)(6), and the regulations thereunder, could further limit the Company's ability to use its Section 382 NOLs to offset future income to an amount approximating $5,100 annually. The remaining $16,000 of NOLs were incurred subsequent to September 2, 1995, and may be used to offset future taxable income without restriction. These NOLs will expire beginning in 2008. The Company also has $4,432 of federal targeted jobs tax credit carryovers, which will expire beginning in 2001. F-23 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- The Internal Revenue Service has completed its field examination of the Company's federal income tax returns for all years to and including June 1992. 14. EMPLOYEE BENEFIT PLANS Defined Benefit Plans The Company provides pension benefits under noncontributory defined benefit pension plans to its union employees who have met the applicable age and service requirements specified in the plans. Benefits are earned on the basis of credited service and average compensation over a period of years. Vesting occurs after five years of service as specified under the plans. The Company makes contributions to the plans as necessary to satisfy the minimum funding requirement of ERISA. The Company provided pension benefits under noncontributory defined benefit pension plans to its non-union employees who have met the applicable age and service requirements specified in the plans. During fiscal 1996 the Company's Board of Directors voted to freeze the benefits accruing under its defined benefit plan that covers non-union personnel effective June 29, 1996 and to increase the Company's matching contribution to the defined contribution plan for those employees. The Company terminated its defined benefit plan that covers non-union personnel on April 30, 1998. Lump sum cash payments were made to the majority of plan participants prior to June 27, 1998. Annuities will be purchased for the remaining participants during the fifty-three weeks ended July 3, 1999. The following table sets forth the funded status of the Company's defined benefit pension plans and the amounts recognized in the Company's consolidated balance sheets:
June 27, 1998 June 28, 1997 ------------- ------------- Actuarial present value of benefit obligations: Accumulated benefit obligation, including vested benefits of $4,011 and $9,076 $ 4,013 $ 9,498 Additional amounts related to future salary increases 1,162 764 -------------- -------------- Projected benefit obligation 5,175 10,262 Plan assets, at fair value 3,589 8,829 -------------- -------------- Projected benefit obligation in excess of plan 1,586 1,433 assets Unrecognized net (loss)/ gain (309) 1,335 Unrecognized prior service costs (1) (1) Unrecognized transition asset 1 5 -------------- -------------- Accrued pension costs $ 1,277 $ 2,772 ============== ==============
The significant assumptions used in determining the pension obligations are:
June 27, 1998 June 28, 1997 ------------- ------------- Discount rate 6.5 % 6.3 % Expected long-term rate of return on assets 8.5 % 8.5 % Rate of increase in future compensation levels 4.0 % 4.0 %
Assets of the plans consist primarily of investments in stock and bond pooled funds. F-24 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- The net pension expense consists of the following:
|| Predecessor Successor Company || Company -------------------------------------------------- || ----------------- Fifty-two Fifty-two Forty-three || Nine weeks ended weeks ended weeks ended || weeks ended June 27, 1998 June 28, 1997 June 29, 1996 || September 2, 1995 -------------- -------------- -------------- || ----------------- || Service costs $ 170 $ 85 $ 875 || $ 179 Interest cost on projected benefit obligation 668 622 698 || 104 Actual net return on assets (1,783) (1,584) (1,746) || (97) Net amortization (deferral) 1,010 933 1,186 || 2 -------------- -------------- -------------- || ----------------- || Net periodic pension cost $ 65 $ 56 $ 1,013 || $ 188 Settlement effect from lump sum || cashouts (1,446) -- -- || -- -------------- -------------- -------------- || ----------------- Net pension (income) expense $ (1,381) $ 56 $ 1,013 || $ 188 ============== ============== ============== || =================
Defined Contribution Plans -------------------------- The Company has defined contribution employee savings plans covering employees who meet the eligibility requirements as described in the plans. The Company contributes to these plans an amount equal to 25% of an employee's contribution up to a maximum of 4% of the employee's compensation. The Company increased its contribution to the nonunion employee savings plan beginning in fiscal 1997 to 100% of the employees contribution up to 2% of the employees pay and 20% of the employees contribution in excess of 2% up to 4% of employees pay. Employee savings plan expenses for the fifty-two weeks ended June 27, 1998, the fifty-two weeks ended June 28, 1997, the forty-three weeks ended June 29, 1996, and the nine weeks ended September 2, 1995 were $1,009, $980, $281, and $65, respectively. Health and Welfare Plans ------------------------ The Company also contributes to a multiemployer union sponsored health and welfare plan covering truck drivers and warehouse personnel. Total expenses for the fifty-two weeks ended June 27, 1998, the fifty-two weeks ended June 28, 1997, the forty-three weeks ended June 29, 1996, and the nine weeks ended September 2, 1995, were $1,858, $1,303, $896, and $196, respectively. The Company has no postretirement health and welfare or benefits programs. 15. PREDECESSOR COMPANY INTEREST EXPENSE Interest expense for the Predecessor Company, for which disclosure is required by SOP 90-7, consists of the following: Nine weeks ended September 2, 1995 ----------------- Prepetition credit facility interest $ 3,164 Senior notes 1,695 Adequate protection term loans and capitalized equipment leases 776 Amortization of deferred debt expense 44 Other 10 ------- $ 5,689 ======= F-25 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- Generally, as a result of the bankruptcy, the contractual terms of prepetition debt obligations are suspended. Only creditors who are secured by collateral, the value of which exceeds their prepetition claims, are entitled to accrue interest on those claims after a bankruptcy filing. Subsequent to the bankruptcy filing, the Company continued to accrue interest on the revolving credit loan and senior notes at the contractual rates. During October 1992, the Company entered into agreements with lenders to make adequate protection payments at rates less than those specified as interest in the respective agreements. The difference between these amounts is reflected in liabilities subject to settlement under reorganization proceedings. With respect to the remainder of the secured debt and capitalized lease obligations, the Company accrued only the adequate protection payments it anticipated would be required. The difference between the interest which would have accrued at the contractual rates and the adequate protection payments related to the remaining secured debt and capitalized lease obligations was $2,846 for the nine weeks ended September 2, 1995. The Company did not accrue or pay interest on the unsecured debt subsequent to the bankruptcy filing. The unaccrued interest on the unsecured debt was $1,051 for the nine weeks ended September 2, 1995. 16. REORGANIZATION ITEMS AND RELATED RESERVES Reorganization items consist of the following: Nine weeks ended September 2, 1995 ----------------- Chapter 11 professional fees $ 9,373 Amortization of prepetition exclusivity income (283) Interest income (2,171) Amortization of post-petition credit facility origination fees 29 Insurance claim recovery (6,650) Costs of downsizing 16,500 ------ $ 16,798 ======== Costs of downsizing In September 1992, the Company made a decision to downsize the chain, and in October 1992 commenced a store closing program. The program involved the closing of 143 of the Company's stores that management considered not viable. In conjunction with the program to downsize the chain, the Company also consolidated its distribution centers into one location in Youngstown, Ohio and reduced corporate overhead. The Company identified for closure an additional 25 stores in fiscal 1994 and 41 stores in fiscal 1995. In August 1995 management identified 50 stores which were scheduled to be reduced in size (rightsized) and provided for the cost of rightsizing and provided a markdown reserve for the inventories which would be liquidated in the affected stores. In 1997, the rightsizing program was replaced with the "Warehouse District" concept. The "Warehouse District" concept involves liquidating slow-moving merchandise and utilizes the excess space to expand the existing grocery offering and adds frozen and refrigerated food. F-26 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- The consolidated statements of operations reflect reorganization expenses related to the downsizings as follows: Nine weeks ended September 2, 1995 ----------------- Downsizing reserve $ 2,500 Inventory markdown reserve 14,000 -------- $ 16,500 ======== The activity in the reserve for costs of downsizing is as follows:
|| Predecessor Successor Company || Company --------------------------------------------------- || ----------------- Fifty-two Fifty-two Forty-three || Nine weeks ended weeks ended weeks ended || weeks ended June 27, 1998 June 28, 1997 June 29, 1996 || September 2, 1995 -------------- -------------- -------------- || ----------------- Balance, beginning of period $ 1,866 $ 3,451 $ 7,301 || $ 6,564 Additions to reserve -- -- -- || 2,500 Charges associated with closed stores -- (462) (1,772) || (1,690) Store rightsizing costs (899) (895) (640) || -- Corporate and distribution center costs -- (228) (1,438) || (73) -------------- -------------- -------------- || ----------------- Balance, end of period $ 967 $ 1,866 $ 3,451 || $ 7,301 ============== ============== ============== || =================
The remainder of the reserve for the costs of downsizing at June 27, 1998 is considered by management to be a reasonable estimate of the costs to be incurred related to the downsizings. To the extent additional stores or distribution centers are identified for closure at a later date or the estimates for write-downs or reserves for the current downsizing program require adjustment, such adjustments will be recognized in future periods. 17. FINANCIAL INSTRUMENTS The Company has financial instruments which include marketable securities, investments and long-term debt. The carrying values of all instruments at June 27, 1998 approximated their fair market value. The fair values of the instruments were based upon quoted market prices of the same or similar instruments or on the rate available to the Company for instruments of the same maturities. F-27 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- 18. NONCASH INVESTING AND FINANCING ACTIVITIES On September 29, 1995 the Company and one of its subsidiaries purchased all of the partnership interests in the partnership that owns the building in which the Company's headquarters is located for $145. Also, the partnership has a 50% interest in another partnership which owns a commercial building. In conjunction with the acquisition, assets and liabilities were assumed in the forty-three weeks ended June 29, 1996, as follows: Fair value of assets acquired: ------------------------------ Accounts receivable 37 Land, buildings and leasehold interests 4,735 Goodwill and other assets 1,958 Liabilities and minority interest assumed: ------------------------------------------ Accounts payable 25 Accrued expenses 205 Mortgage notes and bonds payable 5,820 Minority interest 535 For the fifty-two weeks ended June 27, 1998, the Company entered into a capital lease which increased property and equipment and capital lease obligations $2,178. 19. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
Fiscal 1998 ----------- Thirteen Thirteen Thirteen Thirteen weeks ended weeks ended weeks ended weeks ended September 27,1997 December 27,1997 March 28,1998 June 27,1998 ----------------- ----------------- -------------- -------------- Sales $ 256,332 $ 292,212 $ 277,319 $ 274,988 Gross profit $ 48,130 $ 57,992 $ 53,623 $ 53,449 Net (loss) income $ (7,571) $ 2,778 $ (4,712) $ 675 Net (loss) income per basic share $ (0.62) $ 0.23 $ (0.39) $ 0.06 Weighted average number of basic shares outstanding 12,159,199 12,165,353 12,229,071 12,235,865 Net (loss) income per diluted share $ (0.62) $ 0.23 $ (0.39) $ 0.05 Weighted average number of diluted shares outstanding 12,159,199 12,212,527 12,229,071 12,790,933 Fiscal 1997 ----------- Thirteen Thirteen Thirteen Thirteen weeks ended weeks ended weeks ended weeks ended September 28,1996 December 28,1996 March 29,1997 June 28,1997 ----------------- ----------------- -------------- -------------- Sales $ 264,551 $ 290,933 $ 264,043 $ 255,301 Gross profit $ 45,460 $ 54,990 $ 50,451 $ 50,832 Net (loss) income $ (2,195) $ (548) $ 49 $ 413 Net (loss) income per basic share $ (0.18) $ (0.05) $ -- $ 0.03 Weighted average number of basic shares outstanding 12,157,054 12,157,054 12,157,054 12,158,515 Net (loss) income per diluted share $ (0.18) $ (0.05) $ -- $ 0.03 Weighted average number of diluted shares outstanding 12,157,054 12,157,054 12,157,054 12,158,515
F-28 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share amounts, continued) - -------------------------------------------------------------------------------- 20. (LOSS) INCOME PER SHARE During 1997, the Company adopted SFAS No. 128 "Earnings per Share." This standard requires the Company to present basic and diluted earnings per share. Basic earnings per share is computed by dividing net income by the average number of common shares outstanding during the period. The diluted earnings per share calculation assumes the conversion of dilutive stock options and warrants into common shares. Previously reported earnings per share information have been restated as a result of the adoption. The earnings per share calculations for all periods are as follows:
Fifty-two Fifty-two Forty-three || Nine weeks ended weeks ended weeks ended || weeks ended June 27, 1998 June 28, 1997 June 29, 1996 || September 2, 1995 ------------- ------------- ------------- || --------------- BASIC (LOSS) INCOME PER SHARE || ----------------------------- || Net (loss) income available for common shares $ (8,830) $ (2,281) $ 2,526 || $ 764,684 Basic weighted average common shares outstanding 12,197,371 12,157,419 12,156,614 || 54,066,463 Basic earnings per share $ (.72) $ (.19) $ .21 || $ 14.14 || DILUTED (LOSS) INCOME PER SHARE || ------------------------------- || Net (loss) income available for common shares $ (8,830) $ (2,281) $ 2,526 || $ 764,684 Diluted weighted average common shares 12,197,371 12,157,419 12,162,095 || 54,066,463 Diluted earnings per share $ (.72) $ (.19) $ .21 || $ 14.14
There were 2,616,167; 1,320,817 and 1,358,617 options for the fifty-two weeks ended June 27, 1998, the fifty-two weeks ended June 28, 1997 and the forty-three weeks ended June 29, 1996, respectively, and 1,250,000 warrants for the fifty-two weeks ended June 27, 1998, the fifty-two weeks ended June 28, 1997 and the forty-three weeks ended June 29, 1996 excluded from the calculation of diluted (loss) income per share as they would have had an anti-dilutive effect on (loss) income per share. 21. LITIGATION The Company and its subsidiaries are involved in legal proceedings, claims and litigation arising in the ordinary course of business. In the opinion of management, the outcome of such current legal proceedings, claims and litigation will not have a material impact on the Company's consolidated financial position. 22. TERMINATED BUSINESS COMBINATION The Company entered into an Agreement and Plan of Reorganization dated September 7, 1996 (as amended as of October 9, 1996) with ShopKo Stores, Inc. ("ShopKo") and Cabot Noble, Inc. ("Cabot Noble"). On April 1, 1997, the Company, ShopKo and Cabot Noble entered into a Termination Agreement mutually terminating the Agreement Plan of Reorganization effective as of April 1, 1997. The Company has expensed all fees and costs it has incurred and is obligated to pay in connection with the Proposed Transaction. F-29 Schedule II VALUATION AND QUALIFYING ACCOUNTS
Balance at Charged to Balance at beginning costs and Deductions- end of Description of period expense Charge-offs period ----------- --------- ------- ----------- ------ Allowance for doubtful accounts ------------------------------- 9 weeks ended September 2, 1995 $ 4,917 $ 350 $ (645) $ 4,622 43 weeks ended June 29, 1996 4,622 3,106 (3,537) 4,191 52 weeks ended June 28, 1997 4,191 1,382 (2,870) 2,703 52 weeks ended June 27, 1998 2,703 (186) (1,115) 1,402 Inventory shrink reserve ------------------------ 9 weeks ended September 2, 1995 $ 5,495 $ 3,100 $ (836) $ 7,759 43 weeks ended June 29, 1996 7,759 16,385 (17,675) 6,469 52 weeks ended June 28, 1997 6,469 13,122 (13,968) 5,623 52 weeks ended June 27, 1998 5,623 6,310 (8,009) 3,924 Inventory markdown reserve -------------------------- 9 weeks ended September 2, 1995 $ -- $ 14,000 $ -- $ 14,000 43 weeks ended June 29, 1996 14,000 -- (8,639) 5,361 52 weeks ended June 28, 1997 5,361 -- (4,616) 745 52 weeks ended June 27, 1998 745 -- (745) --
F-30 EX-10.5 2 SANKAR KRISHNAN EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT This Employment Agreement (the "Agreement") is entered into by and between Phar-Mor, Inc., a Pennsylvania corporation (the "Company"), and Sankar Krishnan (the "Employee") as of June 13, 1997 (the "Effective Date"). WHEREAS, Employee is currently employed by Company without a written employment agreement; and WHEREAS, the Company desires to continue employing Employee upon modified terms and conditions of employment; and WHEREAS, the Company and Employee desire to set forth in this Agreement the terms and conditions of Employee's continued employment. NOW, THEREFORE, in consideration of the mutual promises and covenants contained herein, the parties agree as follows: I. EMPLOYMENT AND TERM. The Company hereby employs Employee and Employee hereby accepts such employment, upon the terms and conditions hereinafter set forth. This Agreement shall commence on the Effective Date and continue in force and effect for two years (the "Stated Term") through June 12, 1999 unless sooner terminated pursuant to the provisions of Section IV of the Agreement. II. DUTIES. Subject to the provisions of Section IV of this Agreement: A. The Company shall employ Employee and Employee shall serve the Company for the Stated Term in the capacity of Senior Vice President and Chief Financial Officer of the Company. In his capacity of Senior Vice President and Chief Financial Officer of the Company, Employee shall be responsible for performing those duties customarily performed by a Chief Financial Officer of a public corporation. Employee shall have such corporate power and authority as reasonably required to enable the discharge of duties in the office which he holds. B. Employee agrees to devote substantially all of his business time, energies and abilities to the business of the Company. Nothing herein shall prevent Employee, upon approval of the Board, from serving, or continuing to serve upon termination of employment, as a director or trustee of other corporations or businesses that are not in competition with the business of the Company as set forth in Section V of this Agreement or in competition with any present or future affiliate of the Company. C. Employee shall report to the Chief Executive Officer of the Company. III. COMPENSATION. A. Base Salary. The Company shall pay to Employee a base salary of $236,500.00 per year for the first year of the Stated Term. Said base salary shall be increased to $250,000.00 on June 13, 1998 for the second year of the Stated Term. Such salary shall be earned weekly and shall be payable in arrears in periodic installments no less frequently than monthly in accordance with the Company's customary practices. Amounts payable shall be reduced by standard withholding and other deductions authorized by Employee or required by applicable law. B. Bonus. The Company will pay to Employee annually a bonus in an amount not less than the amount Employee is entitled to under the Company's incentive/bonus plan. For the Company's fiscal year ending in 1997, the Company will pay the Employee a bonus equal to the greater of (i) 35% of his base salary earned during such fiscal year (the "Minimum Bonus"), or (ii) the amount to which he is entitled under the incentive/bonus plan then in effect. Thereafter, the Company will pay the Employee a bonus equal to the amount to which he is entitled under the incentive/bonus plan of the Company in effect from time to time. The "target amount" payable to the Employee shall be increased to 40% for the fiscal year ending in 1998. If the fiscal year of the Company is changed, the Employee will receive a bonus pro-rated to the amount to which he would otherwise be entitled hereunder based on the number of months in the short year, or such other equitable method as may be mutually agreed upon by Employee and the Company. C. Stock Options. Employee has previously earned and is entitled to receive, subject to the applicable vesting schedule, options to purchase 25,000 shares of the Company at $8.00 per share. Additionally, Employee shall also be eligible and entitled to receive on June 5, 1997 a nonqualified stock option for 75,000 shares of Company common stock at a per share exercise price equal to the fair market value of a share of common stock on said effective date (the "Option") The Option shall vest as to one-third of the shares on said grant date, one-third of the shares on the first anniversary of said date and one-third on the second anniversary of said date. Notwithstanding the foregoing, if, at any time, the Employee's employment is terminated by the Company without Cause (as defined in Section IV.B. hereof) or the Employee terminates employment with the Company for Good Reason (as defined in Section IV.C. hereof), all said options shall immediately vest. During the term of this Agreement Employee shall remain eligible, subject to the discretion of the Company, to receive additional option awards ("Additional Options"). D. Other Stock or Equity Plans. Employee shall be eligible to participate under any other stock or equity incentive plan or benefit provided by the Company to senior officers at the discretion of the Company. For purposes of this Agreement, "senior officer" means an officer of the Company of the rank of senior vice president or above. E. Welfare Benefit Plans. Employee and/or his family, as the case may be, shall (subject only to exceptions of general applicability or applicable legal requirements) be eligible to participate in and shall receive all benefits under welfare benefit plans, practices, policies and programs provided by the Company (including, without limitation, pension, medical, prescription, dental, disability, and life insurance plans and programs) to the extent available generally to senior officers of the Company. F. Expenses. Employee shall be entitled to receive prompt reimbursement for all reasonable employment expenses incurred by him in accordance with the policies, practices and procedures of the Company as in effect generally with respect to senior officers. G. Vacation. Employee shall be entitled during the term of this Agreement to four (4) weeks paid vacation per annum. Employee may accumulate vacation only to the extent permitted by the policies, practices and procedures of the Company as in effect generally with respect to senior officers. H. Car or Car Allowance. Employee shall be entitled to a car or car allowance to the extent applicable generally to senior officers. I. Attorneys' Fee Reimbursement. Within ten days after presentation of the invoice therefore, the Company shall pay to the law firm of designated by Employee, an amount not to exceed $9,500.00 for legal fees incurred by Employee. J. Reservation of Right to Amend. With respect to the benefits provided to Employee in accordance with Section III.E., the Company reserves the right to modify, suspend or discontinue any and all of the plans, practices, policies and programs at any time without recourse by Employee so long as such action is taken with respect to senior officers or management generally and does not single out Employee. IV. TERMINATION. A. Death or Disability. Employee's employment shall terminate automatically upon Employee's death. If the Company determines in good faith that a Disability of Employee has occurred (pursuant to the definition of Disability set forth below), Company may terminate Employee's employment by providing Employee written notice in accordance with Section XVI of the Company's intention to terminate Employee's employment. In such event, Employee employment with the Company shall terminate effective on the 30th day after receipt of such notice by Employee, provided that, within the 30 days after such receipt, Employee shall not have returned to full-time performance of his duties. For purposes of this Agreement, "Disability" means a physical or mental impairment which (i) substantially limits a major life activity of Employee, (ii) renders Employee unable to perform the essential functions of his position, even with reasonable accommodation that does not impose an undue hardship on the Company, and (iii) has contributed to Employee's absence from his duties with the Company on a full-time basis for more than 60 consecutive days. The Company reserves the right, in good faith, to make the determination of Disability under this Agreement based upon information (as to items (i) and (ii) above) supplied by a physician selected by the Company or its insurers and acceptable to Employee or his legal representative (such agreement as to acceptability not to be withheld unreasonably). B. Cause. The Company may terminate Employee's employment for Cause (pursuant to the definition of Cause set forth below) by providing Employee written notice in accordance with Section XVI of the Company's intention to terminate Employee's employment, setting forth in such notice the specific grounds therefor. In such event, Employee's employment with the Company shall terminate effective as of the date of receipt of such notice by Employee. For purposes of this Agreement, "Cause" means (1) a material breach by Employee of Employee's obligations under Section II of this Agreement (other than as a result of incapacity due to physical or mental illness), which is demonstrably willful and deliberate on the Employee's part and is committed in bad faith or without reasonable belief that such conduct is in the best interests of the Company, or which is the result of Employee's gross neglect of duties, and, in either case, not remedied in a reasonable period of time not more than five days after receipt of written notice from the Board specifying such breach, (2) the conviction of Employee of a felony or other crime involving fraud, dishonesty or moral turpitude, or (3) the commission by Employee of a fraud which results in a material financial loss to the Company. C. Good Reason. Employee may terminate Employee's employment for Good Reason. Employee shall provide the Company written notice in accordance with Section XVI of Employee's intention to terminate Employee's employment for Good Reason, setting forth in such notice the grounds therefor. Employee's employment with the Company shall terminate effective as of the earlier of (i) the 15th day after the Company's receipt of such notice or (ii) such later date as set forth in such notice, unless the Company has cured the grounds therefor. For purposes of this Agreement, "Good Reason" means (1) Employee's position (including responsibilities, title, reporting requirements or authority) is reduced below the level set forth in Section II.A. hereof (2) Employee and/or his job functions are transferred to a location more than 25 miles from the location of his current office (3) the Company fails in any material respect to comply with the provisions of Section III of this Agreement (4) the Company has within the prior twelve months undergone a Change of Control (pursuant to the definition of Change of Control set forth below), or (5) the Company purports to terminate Employee's employment otherwise than as expressly permitted by this Agreement or without payment of any amounts required to be paid under Section IV.F. For purposes of this Agreement, "Change of Control" shall mean (a) the acquisition by any individual, entity or group of beneficial ownership of 20% or more of either (i) the then outstanding shares of common stock of the Company, or (ii) the combined voting power of the then outstanding voting securities of the Company entitled to vote generally in the election of directors of the Company or (b) individuals who, as of the date of this Agreement, constitute the Board of Directors of the Company (the "Board") cease for any reason to constitute at least a majority of the Board; or (c) approval by the shareholders of the Company of a reorganization, merger or consolidation which results in a change of the ownership and/or voting rights of 30% or more of (i) the then outstanding shares of common stock of the Company, or (ii) a majority of the members of the Board of the Company do not remain members of the Board of the entity resulting from such reorganization, merger or consolidation or (d) approval by the shareholders of the Company of a liquidation or dissolution of the Company, or the sale or other disposition of all or substantially all of the assets of the Company. For the purposes of this Agreement, Change of Control shall not include any change in ownership of the Company's common stock resulting from any transaction between the current principals of the Hamilton Morgan LLC. D. Other Than Cause or Good Reason or Death or Disability. The Company may terminate Employee's employment without cause by providing Employee written notice in accordance with Section XVI of the Company's intention to terminate Employee's employment. In such event, Employee's employment shall terminate effective on the 30th day after receipt of such notice by Employee. E. Termination by Employee Other Than for Good Reason. The Employee may voluntarily terminate his employment with the Company for any reason whatsoever, other than in a situation where he has Good Reason for doing so, by providing Employer written notice thereof in accordance with Section XVI. In such event, Employee's employment shall terminate effective on the thirtieth day after the receipt of such notice by Company unless the parties mutually agree to an earlier termination. F. Obligations of the Company Upon Termination. Upon termination of Employee's employment for any reason, the Company shall have no further obligations to Employee (or his estate or legal representative) under this Agreement other than the following: 1. Death or Disability. If Employee's employment is terminated by reason of Employee's Death or Disability, the Company shall (a) pay the sum of (i) Employee's annual base salary through the end of the calendar month during which the termination occurs (to the extent not theretofore paid), (ii) any accrued vacation pay not theretofore paid, and (iii) any accrued incentive compensation that has been fixed and determined, which the Company shall pay to Employee or his estate or beneficiary, as applicable, in a lump sum in cash within 30 days of the date of termination, or earlier as may be required by applicable law (b) pay any amounts then due or payable pursuant to the terms of any applicable welfare benefit plans notwithstanding such termination of employment and (c) perform its obligations under any then outstanding stock option awards, in accordance with the terms of any applicable stock or equity incentive plan (the sum of the amounts and benefits described in clauses (a), (b) and (c) shall be hereinafter referred to as the "Accrued Obligations"). 2. Cause. If Employee's employment is terminated by the Company for Cause, the Company shall timely pay any Accrued Obligations. If it is subsequently determined that the Company did not have Cause for termination under Section IV.B., then the Company's decision to terminate shall be deemed to have been made under Section IV.D, and the amounts payable under Section IV.F.3 below shall be the only amounts Employee may receive for his termination. 3. Other Than for Cause or by Reason of Death or Disability. If the Company terminates Employee's employment (other than for Cause or because of his Death or Disability), or Employee terminates his employment for Good Reason, the Company shall (a) timely pay any Accrued Obligations (including but not limited to any immediately vested stock options in accordance with Section III C. hereof) and (b) if such termination occurs prior to June 13, 1998, pay Employee a lump sum equal to two times (or if such termination occurs on or after June 13, 1998, one and one half times) the sum of (i) the annual base salary contained in Section III.A. hereof (or any higher base salary currently in effect on the date of termination) ("Base Salary") and (ii) the greater of (x) the average of the annual bonus payable to the Employee by the Company in respect to the three fiscal years preceding the fiscal year in which the termination occurs, annualized if any of the fiscal years is shorter than twelve months (or the average of bonuses paid by the Company for such shorter period preceding the fiscal year in which the Employee was employed) or (y) the Minimum Bonus (the greater of (x) or (y) being the "Bonus Amount"). In addition, any Additional Options granted to Employee under any applicable stock or equity incentive plan shall continue to vest (in accordance with the applicable option agreements) during the remainder of the Stated Term as if such termination had not occurred and the termination of service for purposes of any such plan and such option agreements shall be deemed to occur at the expiration of the Stated Term. The Company shall also pay on behalf of Employee the full cost of the continuation for two years of that level of health benefit coverage provided by the Company to Employee and/or his family immediately prior to termination of his employment. Employee shall be entitled to exercise his rights to continued coverage under COBRA upon the expiration of said two years of continued health benefit coverage. Further, the Company shall pay to Employee, within fourteen days of presentation of receipts or other substantiation reasonably required hereunder, an amount equal to all out of pocket expenses for packing and moving his household effects and automobiles by commercial moving service from Youngstown, Ohio. 4. Termination by Employee Other Than for Good Reason. If the Employee voluntarily terminates his employment with the Company without Good Reason, the Company shall timely pay any Accrued Obligations. 5. Withholdings and Deductions. Any payment made pursuant to this Section IV.F. shall be paid, less standard withholdings and other deductions authorized by Employee or required by law. All amounts due Employee under this Section IV.F. shall be paid within 14 days after the date of termination or as earlier required by law. 6. Exclusive Remedy. Employee agrees that the payments contemplated by this Agreement shall constitute the exclusive and sole remedy for any termination of his employment, and Employee covenants not to assert or pursue any other remedies, at law or in equity, with respect to any termination of employment. V. NONCOMPETITION. Employee agrees that so long as he remains in the employ of the Company, he will not, directly or indirectly, without the prior written consent of the Board, provide consulting services with or without pay, own, manage, operate, join, control, participate in, or be connected as a stockholder, partner, employee, director, officer or otherwise with any other person, entity or organization engaged directly or indirectly in the business of operating a regional or national discount drug store chain. VI. UNIQUE SERVICES; INJUNCTIVE RELIEF; SPECIFIC PERFORMANCE. Employee agrees (i) that the services to be rendered by Employee pursuant to this Agreement, the rights and privileges granted to the Company pursuant to this Agreement and the rights and privileges granted to Employee by virtue of his position, are of a special, unique, extraordinary, managerial and intellectual character, which gives them a peculiar value, the loss of which to the Company cannot be adequately compensated in damages in any action at law, (ii) that the Company will or would suffer irreparable injury if Employee were to terminate this Agreement without Good Reason or to compete with the business of the Company or solicit employees of the Company in violation of Section V. or VII. of this Agreement, and (iii) that the Company would by reason of such breach or violation of this Agreement be entitled to the remedies of injunction, specific performance and other equitable relief in a court of appropriate jurisdiction. Employee consents to the jurisdiction of a court of equity to enter provisional equitable relief to prevent a breach or anticipatory breach of Section V. of this Agreement by Employee. VII. SOLICITING EMPLOYEES. Employee, while employed by the Company and for one year following termination of his employment, will not directly or indirectly solicit any employee of the Company or of any subsidiary or affiliate of the Company in an executive, managerial, sales or marketing capacity to work for any business, individual, partnership, firm, corporation, or other entity then in competition with the business of the Company or of any subsidiary or affiliate of the Company. VIII. CONFIDENTIAL INFORMATION. Employee agrees that during the Stated Term of this Agreement and at all times thereafter (notwithstanding the termination of this Agreement or the expiration of the Stated Term of this Agreement): A. Employee shall hold in a fiduciary capacity for the benefit of the Company all secret or Confidential Information, knowledge or data relating to the Company or any of its affiliated companies, and their respective businesses that are obtained by Employee during his employment by the Company or any of its affiliated companies and that are not or do not become public knowledge (other than by acts by Employee or his representatives in violation of this Agreement). For the purposes of this Agreement, "Confidential Information" includes financial information about the Company (including gross profit margins), contract terms with the Company's vendors and others, customer lists and data, trade secrets and such other competitively sensitive information to which Employee has access as a result of his positions with the Company. After termination of Employee's employment with the Company, he shall not, without the prior written consent of the Company, or as may otherwise be required by law or legal process, communicate or divulge any such information, knowledge or data to anyone other than the Company and those designated by it. B. Employee agrees that all styles, designs, lists, materials, books, files, reports, computer equipment, pharmacy cards, Company automobiles, keys, door opening cards, correspondence, records and other documents ("Company material") used, prepared or made available to Employee, shall be and shall remain the property of the Company. Upon the termination of employment or the expiration of this Agreement, all Company materials shall be returned immediately to the Company, and Employee shall not make or retain any copies thereof. IX. SUCCESSORS. A. This Agreement is personal to Employee and neither it nor any benefits hereunder shall, without the prior written consent of the Company, be assignable by Employee. B. This Agreement shall inure to the benefit or and be binding upon the Company and its successors and assigns and any such successor or assignee shall be deemed substituted for the Company under the terms of this Agreement for all purposes. As used herein, "successor" and "assignee" shall include any person, firm, corporation or other business entity that at any time, whether by purchase, merger or otherwise, directly or indirectly acquires the stock of the Company or to which the Company assigns this Agreement by operation of law or otherwise. X. WAIVER. No waiver of any breach of any term or provision of this Agreement shall be construed to be, nor shall be, a waiver of any other breach of this Agreement. No waiver shall be binding unless in writing and signed by the party waiving the breach. XI. MODIFICATION. This Agreement may not be amended or modified other than by a written agreement executed by the Employee and (a) the Chairman of the Board or (b) a duly authorized member of the Board who is not an officer or employee of the Company or a subsidiary of the Company. XII. SAVINGS CLAUSE. If any provision of this Agreement or the application thereof is held invalid, the invalidity shall not affect other provisions or applications of the Agreement that can be given effect without the invalid provisions or applications, and to this end the provisions of this Agreement are declared to be severable. XIII. COMPLETE AGREEMENT. This Agreement constitutes and contains the entire agreement and understanding concerning Employee's employment and the other subject matters addressed herein between the parties and supersedes and replaces all prior negotiations and all agreements proposed or otherwise, whether written or oral, concerning the subject matters of this Agreement, including the Existing Agreement. XIV. GOVERNING LAW. This Agreement shall be deemed to have been executed and delivered within the State of Ohio, and the rights and obligations of the parties hereunder shall be construed and enforced in accordance with, and governed by, the laws of the State of Ohio without regard to principles of conflict of laws. XV. CAPTIONS. The captions of this Agreement are not part of the provisions of this Agreement and shall have no force or effect. XVI. COMMUNICATIONS. All notices, requests, demands and other communications hereunder shall be in writing and shall be deemed to have been duly given if delivered or if mailed by registered or certified mail, postage prepaid, addressed: If to Employee, to Sankar Krishnan 6069 Pitcock Creek Road New Hope, PA 18938; If to Company, to 20 Federal Plaza West Youngstown, Ohio 4450l, Attention: Chairman of the Board of Directors. Either party may change the address at which notice shall be given by written notice given in the above manner. XVII. ARBITRATION. Except as otherwise provided in Section VI. of this Agreement, any dispute, controversy or claim arising out of or in respect of this Agreement (or its validity, interpretation or enforcement), the employment relationship or the subject matter of this Agreement shall at the request of either party be submitted to and settled by arbitration conducted in either Cleveland, Ohio or Pittsburgh, Pennsylvania, as directed by the party requesting the arbitration, in accordance with the Employment Dispute Resolution Rules of the American Arbitration Association. The arbitration shall be governed by the Federal Arbitration Act (9 U.S.C. ss.ss. 1-16). The arbitration of such issues, including the determination of any amount of damages suffered, shall be final and binding upon the parties to the maximum extent permitted by law. The arbitrator in such action shall not be authorized to ignore, change, modify, add to or delete from any provision of this Agreement. Judgment upon the award rendered by the arbitrator may be entered by any court having jurisdiction thereof. The arbitrator shall award reasonable expenses (including reimbursement of the assigned arbitration costs) to the prevailing party upon application therefor. XVIII. EXECUTIONS. This Agreement may be executed in one or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same Agreement. Photographic copies of such signed counterparts may be used in lieu of the originals for any purpose. XIX. LEGAL COUNSEL. In entering this Agreement, the parties represent that they have relied upon the advice of their respective attorneys, who are attorneys of their own choice, and that the terms of this Agreement have been completely read and explained to them by their attorneys, and that those terms are fully understood and voluntarily accepted by them. XX. LIMITATION ON PAYMENTS. A. Notwithstanding anything contained herein to the contrary, prior to the payment of any amounts pursuant to Section IV.F.3. hereof, an independent national accounting firm designated by the Company (the "Accounting Firm") shall compute whether there would be any "excess parachute payments" payable to the Employee, within the meaning of Section 280G of the Internal Revenue Code of 1986, as amended (the "Code"), taking into account the total "parachute payments," within the meaning of Section 280G of the Code, payable to the Employee by the Company or any successor thereto under this Agreement and any other plan, agreement or otherwise. If there would be any excess parachute payments, the Accounting Firm will compute the net after-tax proceeds to the Employee, taking into account the excise tax imposed by Section 4999 of the Code, if (i) the payments hereunder were reduced, but not below zero, such that the total parachute payments payable to the Employee would not exceed three (3) times the "base amount" as defined in Section 280G of the Code, less One Dollar ($1.00), or (ii) the payments hereunder were not reduced. If reducing the payments hereunder would result in a greater after-tax amount to the Employee, such lesser amount shall be paid to the Employee. If not reducing the payments hereunder would result in a greater after-tax amount to the Employee, such payments shall not be reduced. The determination by the Accounting Firm shall be binding upon the Company and the Employee subject to the application of Section XX.B. hereof. B. As a result of the uncertainty in the application of Sections 280G of the Code, it is possible that excess parachute payments will be paid when such payment would result in a lesser after-tax amount to the Employee; this is not the intent hereof. In such cases, the payment of any excess parachute payments will be void ab initio as regards any such excess. Any excess will be treated as a loan by the Company to the Employee. The Employee will return the excess to the Company, within fifteen (15) business days of any determination by the Accounting Firm that excess parachute payments have been paid when not so intended, with interest at an annual rate equal to the rate provided in Section 1274(d) of the Code (or 120% of such rate if the Accounting Firm determines that such rate is necessary to avoid an excise tax under Section 4999 of the Code) from the date the Employee received the excess until it is repaid to the Company. C. All fees, costs and expenses (including, but not limited to, the cost of retaining experts) of the Accounting Firm shall be borne by the Company and the Company shall pay such fees, costs and expenses as they become due. In performing the computations required hereunder, the Accounting Firm shall assume that taxes will be paid for state and federal purposes at the highest possible marginal tax rates which could be applicable to the Employee in the year of receipt of the payments, unless the Employee agrees otherwise. IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the date first above written. PHAR-MOR, INC. By: ___________________________ __________________________________ Robert M. Haft Sankar Krishnan Its: Chief Executive Officer EX-10.6 3 ABBEY J. BUTLER EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT This EMPLOYMENT AGREEMENT (this "Employment Agreement") is made as of the 1st day of October, 1997 by and between PHAR-MOR, INC., a Pennsylvania corporation (the "Corporation"), and ABBEY J. BUTLER ("A. J. Butler"). WHEREAS, the Corporation desires to employ A. J. Butler, and A. J. Butler desires to be employed by the Corporation, on the terms and subject to the conditions set forth herein. NOW, THEREFORE, in consideration of the mutual promises herein contained, the parties agree as follows: 1. Position, Term and Duties. 1.1 The Corporation hereby employs A. J. Butler, and A. J. Butler hereby accepts employment, as the Co-Chairman of the Board and Co-Chief Executive Officer of the Corporation for a term that shall commence as of the date hereof and shall continue such that this Employment Agreement shall at all times have a rolling term of three (3) years (the "Term"). 1.2 A. J. Butler will render such services to the Corporation as are customarily rendered by the Co-Chairman of the Board and Co-Chief Executive Officer of the Corporation, and A. J. Butler shall be deemed to satisfy such obligations so long as he continues to hold such titles (it being understood that a termination of A. J. Butler from either position "Without Cause" will be a default by the Corporation under this Employment Agreement). In furtherance and not in limitation of the foregoing, A. J. Butler, together with Melvyn J. Estrin ("M.J. Estrin") pursuant to his Employment Agreement with the Corporation of even date herewith (the "Estrin Employment Agreement"), shall have the authority and power for the supervision, hiring and termination of the Corporation's senior management. A. J. Butler may render such services from such offices and locations as he deems appropriate and desirable, and in no event shall A. J. Butler be required to relocate. Nothing in this Employment Agreement shall prohibit A. J. Butler from engaging, directly or indirectly, in any such activities with other companies, ventures or investments in any capacity whatsoever; provided, however, that A. J. Butler shall not accept an offer to be retained as an employee, director, consultant or agent by, or purchase more than a ten percent (10%) ownership interest in any entity that derives more than fifty percent (50%) of its gross revenues from the retail sale, at a discount, of pharmaceuticals (other than an entity in which A. J. Butler or his immediate family currently owns or controls, directly or indirectly, an ownership interest of at least one percent (1%)) without obtaining the prior written consent of the Corporation's Board of Directors. 1.3 To the fullest extent permitted or required by the laws of the state of incorporation of the Corporation, as may apply from time to time, the Corporation shall indemnify and hold harmless (including advance payment of expenses) A. J. Butler, in accordance with the terms of such laws, if A. J. Butler is made a party, or threatened to be made a party, to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative, by reason of the fact that A. J. Butler is or was an officer or director of the Corporation or any subsidiary or affiliate of the Corporation, against expenses (including reasonable attorneys' fees), judgments, fines and amounts paid in settlement actually and reasonably incurred by him in connection with any such action, suit or proceeding, which indemnification shall include the protection of the applicable indemnification provisions of the Amended and Restated Certificate of Incorporation and the Amended and Restated By-laws of the Corporation from time to time in effect. In the event, however, that the Amended and Restated Certificate of Incorporation and the Amended and Restated Bylaws in effect from time to time provide less protection to A. J. Butler than this Section 1.3, then this Section 1.3 shall govern for all purposes hereof. This Section 1.3 shall survive the termination of this Employment Agreement for any reason whatsoever. 1.4 If: 1.4.1 (i) except as the result of a termination "With Cause" (as defined in Section 5.1.1), the Corporation changes or diminishes A. J. Butler's titles, duties or responsibilities as set forth in Sections 1.1 and 1.2 above without his consent or (ii) the Corporation removes A. J. Butler as Co-Chairman of the Board or Co-Chief Executive Officer; or 1.4.2 the Corporation requires A. J. Butler to relocate; or 1.4.3 the Corporation imposes requirements on A. J. Butler, or gives instructions or directions to A. J. Butler, which are (i) contrary to or in violation of any law, rule, ordinance or regulation and (ii) not withdrawn by the Corporation after request by A. J. Butler; or 1.4.4 there occurs a breach (including, but not limited to, a failure to make any payment or provide any benefit referred to in this Employment Agreement) by the Corporation of any of its obligations under this Employment Agreement, which breach has not been cured within sixty (60) days of such failure and, if such breach has not been cured, the Corporation shall, in addition to the other rights of A. J. Butler hereunder, be required to reimburse A. J. Butler for all costs and expenses (including reasonable attorneys' fees) incurred by him with respect to such breach; or 1.4.5 there occurs a "change in control" (as hereinafter defined) of the Corporation; or 1.4.6 any of the events described in Section 1.4.1, 1.4.2, 1.4.3, or 1.4.4 of the Estrin Employment Agreement occurs, and M.J. Estrin exercises the right described in such Section 1.4 of the Estrin Employment Agreement to terminate his employment with the Corporation, then, in any such event, A. J. Butler shall have the sole right, exercisable within ninety (90) days after the occurrence of such event, to terminate his employment with the Corporation; provided, however, that such termination by reason of any of such event(s) shall not be considered a voluntary resignation or termination of such employment or of this Employment Agreement by A. J. Butler, but rather shall be conclusively considered a discharge of A. J. Butler by the Corporation "Without Cause". If A. J. Butler does not terminate his employment with the Corporation in writing within such ninety (90)-day period, A. J. Butler's continued voluntary employment with the Corporation from and after the expiration of such ninety (90)-day period will be deemed to be a waiver of A. J. Butler's right to terminate his employment with the Corporation "Without Cause," with respect to, and only with respect to, the occurrence of the specific event which gave rise to his termination right and shall not bar such right of A. J. Butler if such specific event occurs at any time in the future. 1.5 In furtherance and not in limitation of any of the foregoing, for purposes of this Employment Agreement, it shall be considered a termination by the Corporation "Without Cause" if the Corporation terminates A. J. Butler as Co-Chairman of the Board or Co-Chief Executive Officer or both for any reason or without any reason whatsoever other than "With Cause" (as defined in Section 5.1.1 below). 1.6 The term "change in control" means the first to occur of the following events: 1.6.1 any Person (as such term is defined in Section 13(d) of the Securities Exchange Act of 1934, as amended (the "Exchange Act")) or group of commonly controlled Persons (whether through common ownership, by agreement or otherwise, but other than a Person or group of Persons owned or controlled directly or indirectly by A. J. Butler ) becomes the "beneficial owner" (as determined pursuant to Rule 13d-3 promulgated under the Exchange Act) of forty percent (40%) or more of the voting capital stock of the Corporation; or 1.6.2 the Corporation's stockholders approve (a) an agreement to merge, consolidate or otherwise combine with, or otherwise enter into a transaction with, another Person (other than a Person or group of Persons owned or controlled directly or indirectly by A. J. Butler), which will result(whether separately or in connection with a series of related transactions) in a change in ownership of forty percent (40%) or more of the current voting control of, or beneficial rights to, the voting capital stock of the Corporation, or (b) an agreement to sell or otherwise dispose of all or substantially all of the Corporation's assets (including, without limitation, a plan of liquidation or dissolution) which will result in a change in ownership of forty percent (40%)or more of either control of the Corporation's assets or its voting capital stock, or (c) a fundamental alteration in the nature of the Corporation's business. 2. Compensation and Expenses. 2.1 A. J. Butler's "Base Salary" shall be Four Hundred Twenty-Five Thousand Dollars ($425,000) per annum through the period ending September 30, 1998 which Base Salary shall be increased as of each October 1 thereafter during the Term by eight percent (8%) of the Base Salary for the previous October 1. The Base Salary shall be payable in accordance with the Corporation's standard payroll practices for its senior executive officers. 2.2 The Corporation will pay the following bonuses to A. J. Butler: 2.2.1 For each fiscal year during the Term commencing with the 1998 fiscal year of the Corporation, based on the Corporation's target bonus plan, the Corporation's Board of Directors shall authorize an annual bonus target (the "Annual Bonus") of sixty percent (60%) of A. J. Butler's then Base Salary, with a minimum bonus of twenty-one percent (21%) of such Base Salary if the "entry level" goal for budgeted operating income is met (subject to pro rata upward adjustment for performance between the entry level goal and targeted goal for receipt of bonuses, with A. J. Butler receiving an Annual Bonus equal to sixty percent (60%) of his then Base Salary if the target goal is met), to be paid to him if during the applicable fiscal year the Corporation's performance meets the target objectives in respect of applicable performance goal(s) under and subject to the terms of the Corporation's 1997 (or more recent) Corporate Executive Bonus Plan or any successor incentive compensation plan applicable to the Corporation's senior officers thereafter (the "Executive Bonus Plan"); provided, however, if the target goal under such Executive Bonus Plan is exceeded, then such Annual Bonus shall be increased to a level commensurate with the amount of bonuses payable to those senior officers of the Corporation who are situated similarly to A. J. Butler. The Annual Bonus shall be paid within sixty (60) days after the end of the applicable fiscal year. In addition to and not in limitation of the foregoing, the Corporation covenants and agrees that (a) A. J. Butler shall have the right to participate in any other incentive compensation plan(s) of the Corporation that may exist from time to time, (b) regardless of the amount(s), if any, actually set aside by the Corporation under any incentive compensation plan (including the Executive Bonus Plan), A. J. Butler shall nevertheless receive all (and not less than all) of the amount of Annual Bonus payable to him under the foregoing formula, (c) the Corporation will adopt reasonable targets for, and adequately fund, the Executive Bonus Plan and (d) if the Corporation does not adopt the Executive Bonus Plan for any subsequent year, then the Corporation's Board of Directors and A. J. Butler shall, in good faith, agree upon a comparable bonus arrangement (using the most recent year for which the Executive Bonus Plan was in effect as a standard) for A. J. Butler with reasonable targets and funding to provide A. J. Butler with benefits comparable to those described above. 2.2.2 Commencing with the three (3)-year period ending September 30, 2000, and for each three (3)-year period thereafter during the Term, the Corporation will pay (if earned) a performance payment relating to each such three-(3)-year period (the "Long-Term Performance Payment") to A. J. Butler in an amount determined in accordance with the formula set forth in Schedule 2.2.2 attached hereto. 2.3 Promptly upon submission of an itemized list of expenses reasonably incurred by A. J. Butler for all business-related expenses, including, but not limited to, telephone, equipment or supply usage, entertainment, travel, business and professional associations, miscellaneous items, and other reasonable charges (including charges for office space and support services at locations other than the Corporation's headquarters), the Corporation shall reimburse A. J. Butler for all such expenses. 2.4 The parties recognize that the Corporation's retail stores, warehouses, headquarters and other potential business opportunities are spread over a large geographical area and are in a number of metropolitan areas. In order to facilitate A. J. Butler's performance of his duties, A. J. Butler will be provided with the use of a vehicle owned or leased by the Corporation or a comparable vehicle allowance and will be reimbursed for all reasonable and customary charges A. J. Butler incurs in connection with the operation of such vehicle (such as for fuel, insurance and maintenance) and, in addition, the Corporation will provide other convenient, time-efficient and cost-effective transportation for A. J. Butler's business travel requirements commensurate with transportation made available to other chief executive officers, such as the lease of an aircraft; provided, however, the Corporation shall not, without the prior written consent of the Board of Directors, purchase an aircraft. 3. Insurance. During the Term, the Corporation shall pay such amounts to A. J. Butler as may be required to permit A. J. Butler, or a trust established by him, to acquire and maintain a whole life insurance policy or policies in the face amount of $1,5000,000, or, at A. J. Butler's election, a term policy requiring an equivalent premium, on A. J. Butler's life, issued by a nationally-recognized insurance carrier(s) having the highest or second highest available Best rating; such payment shall be paid in such amounts so that A. J. Butler incurs no net after tax cost in connection therewith. 4. Additional Compensation; Benefits. 4.1 The Corporation has adopted for its employees an incentive and non-qualified stock option plan (the "Stock Option Plan"). Simultaneously with the execution of this Employment Agreement, A. J. Butler shall be granted rights and options ("Options") pursuant to the Stock Option Plan to purchase up to Two Hundred Thousand (200,000) shares of the Corporation's common stock (par value $0.01 per share) ("Option Shares") at a purchase price of Six and 84,375/100,000 Dollars ($6.84375) per share, pursuant to that certain Initial Stock Option Agreement attached hereto as Exhibit A. The Options shall vest and become first exercisable as to thirty-three and thirty-four one hundredths percent (33.34%) on the date hereof and an additional thirty-three and thirty-three one hundredths percent (33.33%) on each of the first two (2) anniversaries of the date hereof; provided, however, that such Options shall become fully vested on the earlier of any termination of A. J. Butler's employment "Without Cause", upon his death or Permanent Disability, or upon a "change in control" (as defined in Section 1.6 above) and provided further, that any Options that, as of the effective date of a termination "With Cause" (other than by reason of death or Permanent Disability), have not become exercisable pursuant to this Section shall expire. The Options may be exercised at any time or from time to time during the period following the date the Options are vested; provided, however, that the Options will only be exercisable for one (1) year following A. J. Butler's death or determination of Permanent Disability and for six (6) months following either A. J. Butler's written voluntary resignation (other than pursuant to Section 1.4 above) or the Corporation's termination of A. J. Butler "With Cause" other than by reason of death or a Permanent Disability (or, if such termination is contested in a lawsuit filed within such six (6)-month period, then six (6) months following the entry of a final non-appealable judgment by a court of competent jurisdiction upholding the Corporation's termination "With Cause"); and provided further, however, that, following a termination of A. J. Butler "Without Cause", the Options will only be exercisable until the later of (i) fifty-four (54) months from the date hereof or (ii) six (6) months from the date of such termination (or, if such termination is contested in a lawsuit filed within such six (6)-month period, then six (6) months following the entry of a final non-appealable judgment by a court of competent jurisdiction finding that A. J. Butler's termination was "Without Cause"). The Options are in addition to any other rights and options which, at the Corporation's sole election and in its sole discretion, may be granted to A. J. Butler under any qualified, non-qualified, incentive, bonus and other stock option plans which may be adopted by the Corporation. 4.1.1 The Corporation covenants and agrees that, unless A. J. Butler elects otherwise, the Options shall, to the fullest extent possible under applicable Federal income tax laws and under the Stock Option Plan, be treated and reported as incentive stock options as defined under Section 422 of the Internal Revenue Code of 1986, as amended (the "Code"), and any remaining options shall be treated as nonqualified stock options. The Corporation covenants and agrees that, upon written request by A. J. Butler, the Corporation shall loan to A. J. Butler an amount or amounts equal to the exercise price payable for the Option Shares being acquired by A. J. Butler. The principal amount of such loan or loans shall become due on the earliest of (a) the fifth (5th) anniversary of the date of such loan, (b) within five (5) business days after settlement on A. J. Butler's sale, if any, of the Option Shares acquired in connection therewith and only to the extent of the proceeds therefrom and any remaining balance on such loan(s) (whether principal or interest) after payment of the net proceeds from such sale shall be forgiven and A. J. Butler's liability therefor discharged (provided, however, that, if Option Shares are sold or otherwise disposed of by A. J. Butler in order to satisfy any tax liability associated with the exercise of the Options, such loan(s) shall not, at A. J. Butler's election, become due under this Section 4.1.1(b)), (c) within thirty (30) days following the effective date of A. J. Butler's written voluntary resignation (other than a termination pursuant to Section 1.4 above) or termination (other than by death or Permanent Disability) by the Corporation "With Cause" (or, if later, ten (10) days following the entry of a final non-appealable judgment by a court of competent jurisdiction upholding the Corporation's termination "With Cause") or (d) upon A. J. Butler's actual receipt of the payment described in Section 5.2(a) below (in which case the Corporation may withhold from such payment the unpaid balance of the loan(s), but only in accordance with Section 5.4 below). In addition, interest shall be payable semi-annually on the outstanding principal balance of any loan provided for in this Section 4.1.1 at the mid-term applicable Federal rate (as defined under Section 1274(d) of the Code) in effect on the date of such loan or loans. 4.1.2 With respect to the Options (and the shares of the Corporation's capital stock to be received upon exercise of the Options), A. J. Butler shall have such rights, benefits and protections, pro rata and in pari passu and on the same terms and conditions, as are equal to the best rights, benefits and protections as have been provided or may in the future be provided to any executive of the Corporation or its subsidiaries regarding their respective options, warrants, stock rights and/or shares of capital stock in the Corporation (collectively or individually, "Equity"), concerning vesting, duration of rights and options (including duration following a termination or resignation), loans by the Corporation in connection with the acquisition of Equity, terms of payment for the acquisition of Equity, registration rights and anti-dilution protection granted with respect to the Equity. 4.1.3 In the event of any conflict, inconsistency or ambiguity between the terms and provisions of this Employment Agreement and the terms and provisions of the Stock Option Plan and/or the Initial Stock Option Agreement, the terms and provisions of this Employment Agreement shall govern and control for all purposes and in all respects in order to provide A. J. Butler with the maximum benefit of all of the foregoing. 4.2 The Corporation shall, at its sole cost and expense, pay for all (and not less than all) of the medical, hospitalization and dental costs and expenses of A. J. Butler and his spouse and children (which may, at the Corporation's sole election, include insurance, supplemental coverage and/or direct payment/reimbursement), and the Corporation shall reimburse A. J. Butler for any net after tax cost incurred by him in connection with any of the foregoing. In addition, the Corporation shall maintain a disability insurance policy (the "Disability Income Policy") which shall pay to A. J. Butler sixty percent (60%) of his Base Salary during any period of disability up to age 75, which insurance shall be in lieu of any disability insurance otherwise provided by the Corporation. 4.3 A. J. Butler shall participate in all retirement and other benefit plans of the Corporation available from time to time to employees and/or senior executives of the Corporation. 4.4 To the fullest extent possible under applicable law, the Corporation will waive any and all vesting periods, minimum service periods and waiting periods, if any, that may otherwise apply to A. J. Butler under any insurance, benefit or pension plan established for the benefit of the Corporation's employees. 4.5 A. J. Butler shall be entitled to such periods of vacation and sick leave allowance each year as provided under the Corporation's vacation and sick leave policy for senior executive officers. 5. Termination. 5.1 A. J. Butler's employment under this Agreement may be terminated by the Corporation: (a) immediately "With Cause" (as defined below) at any time by action of the Corporation's Board of Directors; or (b) immediately "Without Cause". 5.1.1 For purposes hereof, "With Cause" shall mean: (a) the conviction (after exhaustion of any and all appeals) of A. J. Butler for a felony involving the Corporation; (b) the voluntary written resignation of A. J. Butler as a director, officer or employee of the Corporation (excluding a termination pursuant to Section 1.4 above); (c) the death of A. J. Butler; (d) the "Permanent Disability" of A. J. Butler. 5.1.2 For purposes hereof, "Permanent Disability" shall mean A. J. Butler's inability for more than one hundred eighty (180) consecutive days to perform substantially all of his services under Section 1.2 above, as determined by a procedure initiated by the Corporation's Board of Directors in writing (with sufficient detail as to the Corporation's basis for asserting that A. J. Butler has a Permanent Disability) after expiration of such one hundred eighty (180)-day period, whereby, if A. J. Butler contests such assertion, the Corporation and A. J. Butler shall each select a medical doctor who renders a written determination and, if such doctors disagree as to their respective determinations, they shall jointly select a third medical doctor whose determination shall be binding. 5.2 If A. J. Butler's employment is terminated "Without Cause" (which term "Without Cause" shall mean any termination by the Corporation of A. J. Butler other than "With Cause," including any termination pursuant to Section 1.4 above), A. J. Butler shall be entitled to receive (a) a lump sum cash payment within one hundred twenty (120) days of termination equal to (i) the present value (assuming a five percent (5%) discount rate) of the total sum of what would have been his Base Salary payments under Section 2.1 for the remaining three (3) years of the Term, plus (ii) the maximum Annual Bonus payable for the remaining three (3) years of the Term, (b) the Long-Term Performance Payment otherwise payable in accordance with Section 2.2.2 above and (c) any and all other compensation, benefits, stock options (granted under this Employment Agreement or any other plan or arrangement of the Corporation) and health and disability benefits accruing under this Employment Agreement for the remaining three (3) years of the Term; however, in lieu of the exercise of any such options, A. J. Butler shall be entitled to receive, at his sole election, the value of such stock options in an amount equal to that determined under the "Black Shoal's Formula", with payment of the same to be made within one hundred twenty (120) days of termination. 5.2.1 If there occurs a "change in control" (as defined in Section 1.6 above), and A. J. Butler elects to treat such change in control as a termination by the Corporation "Without Cause" pursuant to Section 1.4 above, then the Long Term Performance Payment payable pursuant to Subsection 5.2(b) above shall be calculated as of the date of any such sale, other disposition or transaction and paid as soon as practicable but no later than ninety (90) days thereafter. 5.3 If A. J. Butler's employment is terminated "With Cause" (other than by reason of death or Permanent Disability), the Corporation shall not have any other or further obligations to A. J. Butler under this Agreement (except as provided in Section 4.1 above and except as to that portion of any unpaid salary and other compensation and benefits accrued and earned under this Employment Agreement as of the date of such termination). If A. J. Butler's employment is terminated by reason of death or Permanent Disability, the provisions of this Employment Agreement relating to Base Salary, Annual Bonus, Long-Term Performance Payment and any and all other compensation, benefits, stock options (granted under this Employment Agreement or any other plan or arrangement of the Corporation) and health and disability benefits accruing under this Employment Agreement shall continue for the remaining three (3) years of the Term; provided, however, in the case of a termination by reason of a Permanent Disability, the Base Salary payable during such remaining three (3) years shall be reduced by any payments received by A. J. Butler under the Disability Income Policy. 5.4 A. J. Butler's rights under Sections 5.2 and 5.3 are absolute and shall survive any termination of this Employment Agreement, and A. J. Butler shall have no duty to seek substitute employment or otherwise to mitigate any loss, and all amounts and benefits payable under such Sections shall be paid to A. J. Butler without offset or reduction (regardless of any claims that the Corporation may possess) and even if A. J. Butler obtains substitute employment. The Corporation shall not garnish, offset or otherwise withhold for the benefit of any third party (other than withholding imposed by any governmental authority) any amounts payable to A. J. Butler under this Agreement unless compelled to do so by judicial order; provided, however, that the Corporation may withhold from any payment under Section 5.2(a) above an amount equal to the then outstanding balance (plus accrued interest thereon) under any loan(s) made to A. J. Butler pursuant to Section 4.1.1, above, but only if the Corporation has actually paid to A. J. Butler any remaining balance of such Section 5.2(a) payment. 6. Tax Adjustment Payments. If all or any portion of the amounts payable to A. J. Butler under this Employment Agreement (together with all other compensation or payments of cash or property, whether pursuant to this Employment Agreement or otherwise, including, without limitation, the issuance of Options or Option Shares or the granting, exercise or termination of options therefor) constitutes "excess parachute payments" within the meaning of Section 280G of the Code that are subject to the excise tax imposed by Section 4999 of the Code (or any similar tax or assessment), the amounts payable hereunder shall be increased to the extent necessary to place A. J. Butler in the same after-tax position as he would have been in had no such tax assessment been imposed on any such payment paid or payable to A. J. Butler under this Employment Agreement or any other payment that A. J. Butler may receive in connection with his employment with the Corporation.. The determination of the amount of any such tax or assessment and the incremental payment required hereby in connection therewith shall be made jointly by an accounting firm employed by A. J. Butler and by an accounting firm employed by the Corporation within thirty (30) calendar days after such payment; provided, however, if the respective accounting firms employed by A. J. Butler and the Corporation cannot agree upon the applicable amount with such thirty (30)-day calendar period, then both firms shall, within ten (10) days thereafter, mutually select a nationally recognized accounting firm which shall make the aforesaid determination within thirty (30) calendar days after its selection, and such determination shall be binding and conclusive on the parties. Upon such determination by the accountants or accountant, as the case may be, the aforesaid incremental payment shall be made within thirty (30) business days thereafter. The Corporation shall bear all costs and expenses of the aforesaid accounting firms, and to the extent that any of such costs and expenses are includable in the taxable income of A. J. Butler, then such costs and expenses shall be part of the after-tax computation described above. If, after the date upon which the payment required by this Section 6 has been made, it is determined (pursuant to final regulations or published rulings of the Internal Revenue Service, final judgment of a court of competent jurisdiction, Internal Revenue Service, state or local audit assessment, or otherwise) that the amount of excise or other similar taxes or assessments payable by A. J. Butler is greater than the amount initially so determined, then the Corporation shall pay A. J. Butler an amount equal to the sum of: (i) such additional excise or other taxes, plus (ii) any interest, fines and penalties resulting from such underpayment, plus (iii) professional fees incurred with respect to determining and/or defending the same, plus (iv) an amount necessary to reimburse A. J. Butler for any income, excise or other tax assessment or professional fees payable by A. J. Butler with respect to the amounts specified in (i), (ii) and (iii) above, and the reimbursement provided by this clause (iv), in the manner described above in this Section 6 with respect to the after-tax position of Estrin. Payment thereof shall be made within ten (10) business days after the date upon which such subsequent determination is made. 7. Miscellaneous. 7.1 The provisions of this Employment Agreement are severable and if any one or more provisions may be determined by a court of competent jurisdiction to be illegal or otherwise unenforceable, in whole or in part, the remaining provisions and any partially unenforceable provision to the extent enforceable in any jurisdiction nevertheless shall be binding and enforceable. 7.2 During the Term, the Corporation shall maintain customary directors' and officers' liability insurance if such insurance is available to the Corporation at reasonable costs. 7.3 This Agreement, together with the Stock Option Plan and the Initial Stock Option Agreement, embody the entire agreement of the parties with respect to A. J. Butler's employment and supersedes any other prior oral or written agreements, arrangements or understandings between A. J. Butler and the Corporation. This Agreement may not be changed or terminated orally but only by an agreement in writing signed by the parties hereto. 7.4 All notices and other communications required or permitted under this Employment Agreement shall be in writing, and shall be deemed properly given if delivered personally, mailed by registered or certified mail in the United States mail, postage prepaid, return receipt requested, sent by facsimile, or sent by overnight Express delivery service, as follows: If to the Corporation or the Board: Phar-Mor, Inc. 20 Federal Plaza West Youngstown, Ohio 44501 Attn: Chief Financial officer With a duplicate notice to the same address, attention General Counsel. If to A. J. Butler: Abbey J. Butler 7200 Wisconsin Ave., Suite 600 Bethesda, MD 20814 With a copy to: Tucker, Flyer & Lewis a professional corporation 1615 L Street, N.W. Suite 400 Washington, D.C. 20036 Attn: Paul T. Kaplun, Esquire Notice given by hand or overnight express delivery service shall be effective upon actual receipt. Notice given by registered or certified mail shall be effective three (3) business days after the date of mailing. Notice given by facsimile transmission shall be effective upon actual receipt if received during the recipient's normal business hours, or at the beginning of the recipient's next business day after receipt if not received during the recipient's normal business hours. All notices by facsimile transmission shall be confirmed promptly after transmission in writing by certified mail or personal delivery. Any party may change any address to which notice is to be given to it by giving notice as provided above of such change of address. 7.5 The parties acknowledge and agree that they are each familiar with and desire their relationship to be governed by the laws of the State of Delaware. Accordingly, this Employment Agreement shall be construed under and governed by the laws of the State of Delaware, without reference to its choice of law provisions or principles, and the parties hereto irrevocably consent (and waive any objection) to the jurisdiction and venue of the State of Delaware courts and/or the United States District Court for the District of Delaware for any action arising under this Employment Agreement. 7.6 The Employment Agreement is personal in nature and shall not be assignable in whole or in part by either party without the consent of the other. 7.7 This Employment Agreement shall inure to the benefit and bind the successors and (subject to Section 7.6 above) assigns of the parties. In particular, the provisions of Section 3 applicable to A. J. Butler, or any trust established by A. J. Butler, shall inure to the benefit and bind any assignee (including donee and legatee) of the policy or policies from A. J. Butler. 7.8 Captions to the paragraphs and subparagraphs of this Employment Agreement are solely for the convenience of the parties, are not a part of this Employment Agreement, and shall not be used for the interpretation of any of the provisions of this Employment Agreement. IN WITNESS WHEREOF, the undersigned parties have executed this Employment Agreement as of the date first above written. PHAR-MOR, INC. By:________________________________ Name: Sankar Krishnan Title: Sr. V.P. CFO Attest:____________________________ Name: John R Ficarro Title: Secretary --------------------- ---------------------------- Witness Abbey J. Butler SCHEDULE 2.2.2 -------------- Commencing with the three (3)-year period ending September 30, 2000, and for each three (3)-year period thereafter during the Term, the Corporation will pay to A. J. Butler an amount relating to each such three (3)-year period in accordance with the following formula (the "Long-Term Performance Payment"): The Long-Term Performance Payment (if any) shall be (x) one and fifty one hundredths percent (1.5%) of any excess of (i) the aggregate market value of the Corporation's publicly-traded common stock based on the average closing price for the thirty (30)-day period ending on the last day of the subject period (less the sum of (a) the proceeds from the exercise during such period of any options or warrants plus (b) any cash or property consideration actually received by the Corporation during such period from the issuance of any shares of its common stock) over (ii) the aggregate market value of the Corporation's publicly-traded common stock based on the average closing price for the thirty (30)-day period ending on the last day of the immediately prior subject period (provided, that, for the three (3)-year period ending on September 30, 2000 such average closing price shall be deemed to be $6.84375 per share for the thirty (30)-day period ending on September 30, 1997), less (y) one-half of the Annual Bonus paid or payable to A. J. Butler, if any, for each of the three years comprising such period (but not in any event less than zero). The Long-Term Performance Payment shall be paid to A. J. Butler as expeditiously as possible after the close of each such third year, but in any event not later than ninety (90) days following the close of each such third year. EX-10.7 4 MELVYN J. ESTRIN EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT This EMPLOYMENT AGREEMENT (this "Employment Agreement") is made as of the 1st day of October, 1997 by and between PHAR-MOR, INC., a Pennsylvania corporation (the "Corporation"), and MELVYN J. ESTRIN ("M.J. Estrin"). WHEREAS, the Corporation desires to employ M.J. Estrin, and M.J. Estrin desires to be employed by the Corporation, on the terms and subject to the conditions set forth herein. NOW, THEREFORE, in consideration of the mutual promises herein contained, the parties agree as follows: 1. Position, Term and Duties. 1.1 The Corporation hereby employs M.J. Estrin, and M.J. Estrin hereby accepts employment, as the Co-Chairman of the Board and Co-Chief Executive Officer of the Corporation for a term that shall commence as of the date hereof and shall continue such that this Employment Agreement shall at all times have a rolling term of three (3) years (the "Term"). 1.2 M.J. Estrin will render such services to the Corporation as are customarily rendered by the Co-Chairman of the Board and Co-Chief Executive Officer of the Corporation, and M.J. Estrin shall be deemed to satisfy such obligations so long as he continues to hold such titles (it being understood that a termination of M.J. Estrin from either position "Without Cause" will be a default by the Corporation under this Employment Agreement). In furtherance and not in limitation of the foregoing, M.J. Estrin, together with Abbey J. Butler ("A.J. Butler") pursuant to his Employment Agreement with the Corporation of even date herewith (the "Butler Employment Agreement"), shall have the authority and power for the supervision, hiring and termination of the Corporation's senior management. M.J. Estrin may render such services from such offices and locations as he deems appropriate and desirable, and in no event shall M.J. Estrin be required to relocate. Nothing in this Employment Agreement shall prohibit M.J. Estrin from engaging, directly or indirectly, in any such activities with other companies, ventures or investments in any capacity whatsoever; provided, however, that M.J. Estrin shall not accept an offer to be retained as an employee, director, consultant or agent by, or purchase more than a ten percent (10%) ownership interest in any entity that derives more than fifty percent (50%) of its gross revenues from the retail sale, at a discount, of pharmaceuticals (other than an entity in which M.J. Estrin or his immediate family currently owns or controls, directly or indirectly, an ownership interest of at least one percent (1%)) without obtaining the prior written consent of the Corporation's Board of Directors. 1.3 To the fullest extent permitted or required by the laws of the state of incorporation of the Corporation, as may apply from time to time, the Corporation shall indemnify and hold harmless (including advance payment of expenses) M.J. Estrin, in accordance with the terms of such laws, if M.J. Estrin is made a party, or threatened to be made a party, to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative, by reason of the fact that M.J. Estrin is or was an officer or director of the Corporation or any subsidiary or affiliate of the Corporation, against expenses (including reasonable attorneys' fees), judgments, fines and amounts paid in settlement actually and reasonably incurred by him in connection with any such action, suit or proceeding, which indemnification shall include the protection of the applicable indemnification provisions of the Amended and Restated Certificate of Incorporation and the Amended and Restated By-laws of the Corporation from time to time in effect. In the event, however, that the Amended and Restated Certificate of Incorporation and the Amended and Restated Bylaws in effect from time to time provide less protection to M.J. Estrin than this Section 1.3, then this Section 1.3 shall govern for all purposes hereof. This Section 1.3 shall survive the termination of this Employment Agreement for any reason whatsoever. 1.4 If: 1.4.1 (i) except as the result of a termination "With Cause" (as defined in Section 5.1.1), the Corporation changes or diminishes M.J. Estrin's titles, duties or responsibilities as set forth in Sections 1.1 and 1.2 above without his consent or (ii) the Corporation removes M.J. Estrin as Co-Chairman of the Board or Co-Chief Executive Officer; or 1.4.2 the Corporation requires M.J. Estrin to relocate; or 1.4.3 the Corporation imposes requirements on M.J. Estrin, or gives instructions or directions to M.J. Estrin, which are (i) contrary to or in violation of any law, rule, ordinance or regulation and (ii) not withdrawn by the Corporation after request by M.J. Estrin; or 1.4.4 there occurs a breach (including, but not limited to, a failure to make any payment or provide any benefit referred to in this Employment Agreement) by the Corporation of any of its obligations under this Employment Agreement, which breach has not been cured within sixty (60) days of such failure and, if such breach has not been cured, the Corporation shall, in addition to the other rights of M.J. Estrin hereunder, be required to reimburse M.J. Estrin for all costs and expenses (including reasonable attorneys' fees) incurred by him with respect to such breach; or 1.4.5 there occurs a "change in control" (as hereinafter defined) of the Corporation; or 1.4.6 any of the events described in Section 1.4.1, 1.4.2, 1.4.3, or 1.4.4 of the Butler Employment Agreement occurs, and A.J. Butler exercises the right described in such Section 1.4 of the Butler Employment Agreement to terminate his employment with the Corporation, then, in any such event, M.J. Estrin shall have the sole right, exercisable within ninety (90) days after the occurrence of such event, to terminate his employment with the Corporation; provided, however, that such termination by reason of any of such event(s) shall not be considered a voluntary resignation or termination of such employment or of this Employment Agreement by M.J. Estrin, but rather shall be conclusively considered a discharge of M.J. Estrin by the Corporation "Without Cause". If M.J. Estrin does not terminate his employment with the Corporation in writing within such ninety (90)-day period, M.J. Estrin's continued voluntary employment with the Corporation from and after the expiration of such ninety (90)-day period will be deemed to be a waiver of M.J. Estrin's right to terminate his employment with the Corporation "Without Cause," with respect to, and only with respect to, the occurrence of the specific event which gave rise to his termination right and shall not bar such right of M.J. Estrin if such specific event occurs at any time in the future. 1.5 In furtherance and not in limitation of any of the foregoing, for purposes of this Employment Agreement, it shall be considered a termination by the Corporation "Without Cause" if the Corporation terminates M.J. Estrin as Co-Chairman of the Board or Co-Chief Executive Officer or both for any reason or without any reason whatsoever other than "With Cause" (as defined in Section 5.1.1 below). 1.6 The term "change in control" means the first to occur of the following events: 1.6.1 any Person (as such term is defined in Section 13(d) of the Securities Exchange Act of 1934, as amended (the "Exchange Act")) or group of commonly controlled Persons (whether through common ownership, by agreement or otherwise, but other than a Person or group of Persons owned or controlled directly or indirectly by M.J. Estrin ) becomes the "beneficial owner" (as determined pursuant to Rule 13d-3 promulgated under the Exchange Act) of forty percent (40%) or more of the voting capital stock of the Corporation; or 1.6.2 the Corporation's stockholders approve (a) an agreement to merge, consolidate or otherwise combine with, or otherwise enter into a transaction with, another Person (other than a Person or group of Persons owned or controlled directly or indirectly by M.J. Estrin), which will result (whether separately or in connection with a series of related transactions) in a change in ownership of forty percent (40%) or more of the current voting control of, or beneficial rights to, the voting capital stock of the Corporation, or (b) an agreement to sell or otherwise dispose of all or substantially all of the Corporation's assets (including, without limitation, a plan of liquidation or dissolution) which will result in a change in ownership of forty percent (40%) or more of either control of the Corporation's assets or its voting capital stock, or (c) a fundamental alteration in the nature of the Corporation's business. 2. Compensation and Expenses. 2.1 M.J. Estrin's "Base Salary" shall be Four Hundred Twenty-Five Thousand Dollars ($425,000) per annum through the period ending September 30, 1998 which Base Salary shall be increased as of each October 1 thereafter during the Term by eight percent (8%) of the Base Salary for the previous October 1. The Base Salary shall be payable in accordance with the Corporation's standard payroll practices for its senior executive officers. 2.2 The Corporation will pay the following bonuses to M.J. Estrin: 2.2.1 For each fiscal year during the Term commencing with the 1998 fiscal year of the Corporation, based on the Corporation's target bonus plan, the Corporation's Board of Directors shall authorize an annual bonus target (the "Annual Bonus") of sixty percent (60%) of M.J. Estrin's then Base Salary, with a minimum bonus of twenty-one percent (21%) of such Base Salary if the "entry level" goal for budgeted operating income is met (subject to pro rata upward adjustment for performance between the entry level goal and targeted goal for receipt of bonuses, with M.J. Estrin receiving an Annual Bonus equal to sixty percent (60%) of his then Base Salary if the target goal is met), to be paid to him if during the applicable fiscal year the Corporation's performance meets the target objectives in respect of applicable performance goal(s) under and subject to the terms of the Corporation's 1997 (or more recent) Corporate Executive Bonus Plan or any successor incentive compensation plan applicable to the Corporation's senior officers thereafter (the "Executive Bonus Plan"); provided, however, if the target goal under such Executive Bonus Plan is exceeded, then such Annual Bonus shall be increased to a level commensurate with the amount of bonuses payable to those senior officers of the Corporation who are situated similarly to M.J. Estrin. The Annual Bonus shall be paid within sixty (60) days after the end of the applicable fiscal year. In addition to and not in limitation of the foregoing, the Corporation covenants and agrees that (a) M.J. Estrin shall have the right to participate in any other incentive compensation plan(s) of the Corporation that may exist from time to time, (b) regardless of the amount(s), if any, actually set aside by the Corporation under any incentive compensation plan (including the Executive Bonus Plan), M.J. Estrin shall nevertheless receive all (and not less than all) of the amount of Annual Bonus payable to him under the foregoing formula, (c) the Corporation will adopt reasonable targets for, and adequately fund, the Executive Bonus Plan and (d) if the Corporation does not adopt the Executive Bonus Plan for any subsequent year, then the Corporation's Board of Directors and M.J. Estrin shall, in good faith, agree upon a comparable bonus arrangement (using the most recent year for which the Executive Bonus Plan was in effect as a standard) for M.J. Estrin with reasonable targets and funding to provide M.J. Estrin with benefits comparable to those described above. 2.2.2 Commencing with the three (3)-year period ending September 30, 2000, and for each three (3)-year period thereafter during the Term, the Corporation will pay (if earned) a performance payment relating to each such three-(3)-year period (the "Long-Term Performance Payment") to M.J. Estrin in an amount determined in accordance with the formula set forth in Schedule 2.2.2 attached hereto. 2.3 Promptly upon submission of an itemized list of expenses reasonably incurred by M.J. Estrin for all business-related expenses, including, but not limited to, telephone, equipment or supply usage, entertainment, travel, business and professional associations, miscellaneous items, and other reasonable charges (including charges for office space and support services at locations other than the Corporation's headquarters), the Corporation shall reimburse M.J. Estrin for all such expenses. 2.4 The parties recognize that the Corporation's retail stores, warehouses, headquarters and other potential business opportunities are spread over a large geographical area and are in a number of metropolitan areas. In order to facilitate M.J. Estrin's performance of his duties, M.J. Estrin will be provided with the use of a vehicle owned or leased by the Corporation or a comparable vehicle allowance and will be reimbursed for all reasonable and customary charges M.J. Estrin incurs in connection with the operation of such vehicle (such as for fuel, insurance and maintenance) and, in addition, the Corporation will provide other convenient, time-efficient and cost-effective transportation for M.J. Estrin's business travel requirements commensurate with transportation made available to other chief executive officers, such as the lease of an aircraft; provided, however, the Corporation shall not, without the prior written consent of the Board of Directors, purchase an aircraft. 3. Insurance. During the Term, the Corporation shall pay such amounts to M.J. Estrin as may be required to permit M.J. Estrin, or a trust established by him, to acquire and maintain a whole life insurance policy or policies in the face amount of $1,5000,000, or, at M.J. Estrin's election, a term policy requiring an equivalent premium, on M.J. Estrin's life, issued by a nationally-recognized insurance carrier(s) having the highest or second highest available Best rating; such payment shall be paid in such amounts so that M.J. Estrin incurs no net after tax cost in connection therewith. 4. Additional Compensation; Benefits. 4.1 The Corporation has adopted for its employees an incentive and non-qualified stock option plan (the "Stock Option Plan"). Simultaneously with the execution of this Employment Agreement, M.J. Estrin shall be granted rights and options ("Options") pursuant to the Stock Option Plan to purchase up to Two Hundred Thousand (200,000) shares of the Corporation's common stock (par value $0.01 per share) ("Option Shares") at a purchase price of Six and 84,375/100,000 Dollars ($6.84375) per share, pursuant to that certain Initial Stock Option Agreement attached hereto as Exhibit A. The Options shall vest and become first exercisable as to thirty-three and thirty-four one hundredths percent (33.34%) on the date hereof and an additional thirty-three and thirty-three one hundredths percent (33.33%) on each of the first two (2) anniversaries of the date hereof; provided, however, that such Options shall become fully vested on the earlier of any termination of M.J. Estrin's employment "Without Cause", upon his death or Permanent Disability, or upon a "change in control" (as defined in Section 1.6 above) and provided further, that any Options that, as of the effective date of a termination "With Cause" (other than by reason of death or Permanent Disability), have not become exercisable pursuant to this Section shall expire. The Options may be exercised at any time or from time to time during the period following the date the Options are vested; provided, however, that the Options will only be exercisable for one (1) year following M.J. Estrin's death or determination of Permanent Disability and for six (6) months following either M.J. Estrin's written voluntary resignation (other than pursuant to Section 1.4 above) or the Corporation's termination of M.J. Estrin "With Cause" other than by reason of death or a Permanent Disability (or, if such termination is contested in a lawsuit filed within such six (6)-month period, then six (6) months following the entry of a final non-appealable judgment by a court of competent jurisdiction upholding the Corporation's termination "With Cause"); and provided further, however, that, following a termination of M.J. Estrin "Without Cause", the Options will only be exercisable until the later of (i) fifty-four (54) months from the date hereof or (ii) six (6) months from the date of such termination (or, if such termination is contested in a lawsuit filed within such six (6)-month period, then six (6) months following the entry of a final non-appealable judgment by a court of competent jurisdiction finding that M.J. Estrin's termination was "Without Cause"). The Options are in addition to any other rights and options which, at the Corporation's sole election and in its sole discretion, may be granted to M.J. Estrin under any qualified, non-qualified, incentive, bonus and other stock option plans which may be adopted by the Corporation. 4.1.1 The Corporation covenants and agrees that, unless M.J. Estrin elects otherwise, the Options shall, to the fullest extent possible under applicable Federal income tax laws and under the Stock Option Plan, be treated and reported as incentive stock options as defined under Section 422 of the Internal Revenue Code of 1986, as amended (the "Code"), and any remaining options shall be treated as nonqualified stock options. The Corporation covenants and agrees that, upon written request by M.J. Estrin, the Corporation shall loan to M.J. Estrin an amount or amounts equal to the exercise price payable for the Option Shares being acquired by M.J. Estrin. The principal amount of such loan or loans shall become due on the earliest of (a) the fifth (5th) anniversary of the date of such loan, (b) within five (5) business days after settlement on M.J. Estrin's sale, if any, of the Option Shares acquired in connection therewith and only to the extent of the proceeds therefrom and any remaining balance on such loan(s) (whether principal or interest) after payment of the net proceeds from such sale shall be forgiven and M.J. Estrin's liability therefor discharged (provided, however, that, if Option Shares are sold or otherwise disposed of by M.J. Estrin in order to satisfy any tax liability associated with the exercise of the Options, such loan(s) shall not, at M.J. Estrin's election, become due under this Section 4.1.1(b)), (c) within thirty (30) days following the effective date of M.J. Estrin's written voluntary resignation (other than a termination pursuant to Section 1.4 above) or termination (other than by death or Permanent Disability) by the Corporation "With Cause" (or, if later, ten (10) days following the entry of a final non-appealable judgment by a court of competent jurisdiction upholding the Corporation's termination "With Cause") or (d) upon M.J. Estrin's actual receipt of the payment described in Section 5.2(a) below (in which case the Corporation may withhold from such payment the unpaid balance of the loan(s), but only in accordance with Section 5.4 below). In addition, interest shall be payable semi-annually on the outstanding principal balance of any loan provided for in this Section 4.1.1 at the mid-term applicable Federal rate (as defined under Section 1274(d) of the Code) in effect on the date of such loan or loans. 4.1.2 With respect to the Options (and the shares of the Corporation's capital stock to be received upon exercise of the Options), M.J. Estrin shall have such rights, benefits and protections, pro rata and in pari passu and on the same terms and conditions, as are equal to the best rights, benefits and protections as have been provided or may in the future be provided to any executive of the Corporation or its subsidiaries regarding their respective options, warrants, stock rights and/or shares of capital stock in the Corporation (collectively or individually, "Equity"), concerning vesting, duration of rights and options (including duration following a termination or resignation), loans by the Corporation in connection with the acquisition of Equity, terms of payment for the acquisition of Equity, registration rights and anti-dilution protection granted with respect to the Equity. 4.1.3 In the event of any conflict, inconsistency or ambiguity between the terms and provisions of this Employment Agreement and the terms and provisions of the Stock Option Plan and/or the Initial Stock Option Agreement, the terms and provisions of this Employment Agreement shall govern and control for all purposes and in all respects in order to provide M.J. Estrin with the maximum benefit of all of the foregoing. 4.2 The Corporation shall, at its sole cost and expense, pay for all (and not less than all) of the medical, hospitalization and dental costs and expenses of M.J. Estrin and his spouse and children (which may, at the Corporation's sole election, include insurance, supplemental coverage and/or direct payment/reimbursement), and the Corporation shall reimburse M.J. Estrin for any net after tax cost incurred by him in connection with any of the foregoing. In addition, the Corporation shall maintain a disability insurance policy (the "Disability Income Policy") which shall pay to M.J. Estrin sixty percent (60%) of his Base Salary during any period of disability up to age 75, which insurance shall be in lieu of any disability insurance otherwise provided by the Corporation. 4.3 M.J. Estrin shall participate in all retirement and other benefit plans of the Corporation available from time to time to employees and/or senior executives of the Corporation. 4.4 To the fullest extent possible under applicable law, the Corporation will waive any and all vesting periods, minimum service periods and waiting periods, if any, that may otherwise apply to M.J. Estrin under any insurance, benefit or pension plan established for the benefit of the Corporation's employees. 4.5 M.J. Estrin shall be entitled to such periods of vacation and sick leave allowance each year as provided under the Corporation's vacation and sick leave policy for senior executive officers. 5. Termination. 5.1 M.J. Estrin's employment under this Agreement may be terminated by the Corporation: (a) immediately "With Cause" (as defined below) at any time by action of the Corporation's Board of Directors; or (b) immediately "Without Cause". 5.1.1 For purposes hereof, "With Cause" shall mean: (a) the conviction (after exhaustion of any and all appeals) of M.J. Estrin for a felony involving the Corporation; (b) the voluntary written resignation of M.J. Estrin as a director, officer or employee of the Corporation (excluding a termination pursuant to Section 1.4 above); (c) the death of M.J. Estrin; (d) the "Permanent Disability" of M.J. Estrin. 5.1.2 For purposes hereof, "Permanent Disability" shall mean M.J. Estrin's inability for more than one hundred eighty (180) consecutive days to perform substantially all of his services under Section 1.2 above, as determined by a procedure initiated by the Corporation's Board of Directors in writing (with sufficient detail as to the Corporation's basis for asserting that M.J. Estrin has a Permanent Disability) after expiration of such one hundred eighty (180)-day period, whereby, if M.J. Estrin contests such assertion, the Corporation and M.J. Estrin shall each select a medical doctor who renders a written determination and, if such doctors disagree as to their respective determinations, they shall jointly select a third medical doctor whose determination shall be binding. 5.2 If M.J. Estrin's employment is terminated "Without Cause" (which term "Without Cause" shall mean any termination by the Corporation of M.J. Estrin other than "With Cause," including any termination pursuant to Section 1.4 above), M.J. Estrin shall be entitled to receive (a) a lump sum cash payment within one hundred twenty (120) days of termination equal to (i) the present value (assuming a five percent (5%) discount rate) of the total sum of what would have been his Base Salary payments under Section 2.1 for the remaining three (3) years of the Term, plus (ii) the maximum Annual Bonus payable for the remaining three (3) years of the Term, (b) the Long-Term Performance Payment otherwise payable in accordance with Section 2.2.2 above and (c) any and all other compensation, benefits, stock options (granted under this Employment Agreement or any other plan or arrangement of the Corporation) and health and disability benefits accruing under this Employment Agreement for the remaining three (3) years of the Term; however, in lieu of the exercise of any such options, M.J. Estrin shall be entitled to receive, at his sole election, the value of such stock options in an amount equal to that determined under the "Black Shoal's Formula", with payment of the same to be made within one hundred twenty (120) days of termination. 5.2.1 If there occurs a "change in control" (as defined in Section 1.6 above), and M.J. Estrin elects to treat such change in control as a termination by the Corporation "Without Cause" pursuant to Section 1.4 above, then the Long Term Performance Payment payable pursuant to Subsection 5.2(b) above shall be calculated as of the date of any such sale, other disposition or transaction and paid as soon as practicable but no later than ninety (90) days thereafter. 5.3 If M.J. Estrin's employment is terminated "With Cause" (other than by reason of death or Permanent Disability), the Corporation shall not have any other or further obligations to M.J. Estrin under this Agreement (except as provided in Section 4.1 above and except as to that portion of any unpaid salary and other compensation and benefits accrued and earned under this Employment Agreement as of the date of such termination). If M.J. Estrin's employment is terminated by reason of death or Permanent Disability, the provisions of this Employment Agreement relating to Base Salary, Annual Bonus, Long-Term Performance Payment and any and all other compensation, benefits, stock options (granted under this Employment Agreement or any other plan or arrangement of the Corporation) and health and disability benefits accruing under this Employment Agreement shall continue for the remaining three (3) years of the Term; provided, however, in the case of a termination by reason of a Permanent Disability, the Base Salary payable during such remaining three (3) years shall be reduced by any payments received by M.J. Estrin under the Disability Income Policy. 5.4 M.J. Estrin's rights under Sections 5.2 and 5.3 are absolute and shall survive any termination of this Employment Agreement, and M.J. Estrin shall have no duty to seek substitute employment or otherwise to mitigate any loss, and all amounts and benefits payable under such Sections shall be paid to M.J. Estrin without offset or reduction (regardless of any claims that the Corporation may possess) and even if M.J. Estrin obtains substitute employment. The Corporation shall not garnish, offset or otherwise withhold for the benefit of any third party (other than withholding imposed by any governmental authority) any amounts payable to M.J. Estrin under this Agreement unless compelled to do so by judicial order; provided, however, that the Corporation may withhold from any payment under Section 5.2(a) above an amount equal to the then outstanding balance (plus accrued interest thereon) under any loan(s) made to M.J. Estrin pursuant to Section 4.1.1, above, but only if the Corporation has actually paid to M.J. Estrin any remaining balance of such Section 5.2(a) payment. 6. Tax Adjustment Payments. If all or any portion of the amounts payable to M.J. Estrin under this Employment Agreement (together with all other compensation or payments of cash or property, whether pursuant to this Employment Agreement or otherwise, including, without limitation, the issuance of Options or Option Shares or the granting, exercise or termination of options therefor) constitutes "excess parachute payments" within the meaning of Section 280G of the Code that are subject to the excise tax imposed by Section 4999 of the Code (or any similar tax or assessment), the amounts payable hereunder shall be increased to the extent necessary to place M.J. Estrin in the same after-tax position as he would have been in had no such tax assessment been imposed on any such payment paid or payable to M.J. Estrin under this Employment Agreement or any other payment that M.J. Estrin may receive in connection with his employment with the Corporation.. The determination of the amount of any such tax or assessment and the incremental payment required hereby in connection therewith shall be made jointly by an accounting firm employed by M.J. Estrin and by an accounting firm employed by the Corporation within thirty (30) calendar days after such payment; provided, however, if the respective accounting firms employed by M.J. Estrin and the Corporation cannot agree upon the applicable amount with such thirty (30)-day calendar period, then both firms shall, within ten (10) days thereafter, mutually select a nationally recognized accounting firm which shall make the aforesaid determination within thirty (30) calendar days after its selection, and such determination shall be binding and conclusive on the parties. Upon such determination by the accountants or accountant, as the case may be, the aforesaid incremental payment shall be made within thirty (30) business days thereafter. The Corporation shall bear all costs and expenses of the aforesaid accounting firms, and to the extent that any of such costs and expenses are includable in the taxable income of M.J. Estrin, then such costs and expenses shall be part of the after-tax computation described above. If, after the date upon which the payment required by this Section 6 has been made, it is determined (pursuant to final regulations or published rulings of the Internal Revenue Service, final judgment of a court of competent jurisdiction, Internal Revenue Service, state or local audit assessment, or otherwise) that the amount of excise or other similar taxes or assessments payable by M.J. Estrin is greater than the amount initially so determined, then the Corporation shall pay M.J. Estrin an amount equal to the sum of: (i) such additional excise or other taxes, plus (ii) any interest, fines and penalties resulting from such underpayment, plus (iii) professional fees incurred with respect to determining and/or defending the same, plus (iv) an amount necessary to reimburse M.J. Estrin for any income, excise or other tax assessment or professional fees payable by M.J. Estrin with respect to the amounts specified in (i), (ii) and (iii) above, and the reimbursement provided by this clause (iv), in the manner described above in this Section 6 with respect to the after-tax position of Estrin. Payment thereof shall be made within ten (10) business days after the date upon which such subsequent determination is made. 7. Miscellaneous. 7.1 The provisions of this Employment Agreement are severable and if any one or more provisions may be determined by a court of competent jurisdiction to be illegal or otherwise unenforceable, in whole or in part, the remaining provisions and any partially unenforceable provision to the extent enforceable in any jurisdiction nevertheless shall be binding and enforceable. 7.2 During the Term, the Corporation shall maintain customary directors' and officers' liability insurance if such insurance is available to the Corporation at reasonable costs. 7.3 This Agreement, together with the Stock Option Plan and the Initial Stock Option Agreement, embody the entire agreement of the parties with respect to M.J. Estrin's employment and supersedes any other prior oral or written agreements, arrangements or understandings between M.J. Estrin and the Corporation. This Agreement may not be changed or terminated orally but only by an agreement in writing signed by the parties hereto. 7.4 All notices and other communications required or permitted under this Employment Agreement shall be in writing, and shall be deemed properly given if delivered personally, mailed by registered or certified mail in the United States mail, postage prepaid, return receipt requested, sent by facsimile, or sent by overnight Express delivery service, as follows: If to the Corporation or the Board: Phar-Mor, Inc. 20 Federal Plaza West Youngstown, Ohio 44501 Attn: Chief Financial officer With a duplicate notice to the same address, attention General Counsel. If to M.J. Estrin: Melvyn J. Estrin 7200 Wisconsin Ave., Suite 600 Bethesda, MD 20814 With a copy to: Tucker, Flyer & Lewis a professional corporation 1615 L Street, N.W. Suite 400 Washington, D.C. 20036 Attn: Paul T. Kaplun, Esquire Notice given by hand or overnight express delivery service shall be effective upon actual receipt. Notice given by registered or certified mail shall be effective three (3) business days after the date of mailing. Notice given by facsimile transmission shall be effective upon actual receipt if received during the recipient's normal business hours, or at the beginning of the recipient's next business day after receipt if not received during the recipient's normal business hours. All notices by facsimile transmission shall be confirmed promptly after transmission in writing by certified mail or personal delivery. Any party may change any address to which notice is to be given to it by giving notice as provided above of such change of address. 7.5 The parties acknowledge and agree that they are each familiar with and desire their relationship to be governed by the laws of the State of Delaware. Accordingly, this Employment Agreement shall be construed under and governed by the laws of the State of Delaware, without reference to its choice of law provisions or principles, and the parties hereto irrevocably consent (and waive any objection) to the jurisdiction and venue of the State of Delaware courts and/or the United States District Court for the District of Delaware for any action arising under this Employment Agreement. 7.6 The Employment Agreement is personal in nature and shall not be assignable in whole or in part by either party without the consent of the other. 7.7 This Employment Agreement shall inure to the benefit and bind the successors and (subject to Section 7.6 above) assigns of the parties. In particular, the provisions of Section 3 applicable to M.J. Estrin, or any trust established by M.J. Estrin, shall inure to the benefit and bind any assignee (including donee and legatee) of the policy or policies from M.J. Estrin. 7.8 Captions to the paragraphs and subparagraphs of this Employment Agreement are solely for the convenience of the parties, are not a part of this Employment Agreement, and shall not be used for the interpretation of any of the provisions of this Employment Agreement. IN WITNESS WHEREOF, the undersigned parties have executed this Employment Agreement as of the date first above written. PHAR-MOR, INC. By:__________________________________ Name: Sankar Krishnan Title: Sr. V.P. CFO Attest:____________________________ Name: John R Ficarro Title: Secretary --------------------- ------------------------------------- Witness Melvyn J. Estrin SCHEDULE 2.2.2 Commencing with the three (3)-year period ending September 30, 2000, and for each three (3)-year period thereafter during the Term, the Corporation will pay to M.J. Estrin an amount relating to each such three (3)-year period in accordance with the following formula (the "Long-Term Performance Payment"): The Long-Term Performance Payment (if any) shall be (x) one and fifty one hundredths percent (1.5%) of any excess of (i) the aggregate market value of the Corporation's publicly-traded common stock based on the average closing price for the thirty (30)-day period ending on the last day of the subject period (less the sum of (a) the proceeds from the exercise during such period of any options or warrants plus (b) any cash or property consideration actually received by the Corporation during such period from the issuance of any shares of its common stock) over (ii) the aggregate market value of the Corporation's publicly-traded common stock based on the average closing price for the thirty (30)-day period ending on the last day of the immediately prior subject period (provided, that, for the three (3)-year period ending on September 30, 2000 such average closing price shall be deemed to be $6.84375 per share for the thirty (30)-day period ending on September 30, 1997), less (y) one-half of the Annual Bonus paid or payable to M.J. Estrin, if any, for each of the three years comprising such period (but not in any event less than zero). The Long-Term Performance Payment shall be paid to M.J. Estrin as expeditiously as possible after the close of each such third year, but in any event not later than ninety (90) days following the close of each such third year. EX-10.8 5 WARREN E. JEFFERY EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT This Employment Agreement (the "Agreement") is entered into by and between Phar-Mor, Inc., a Pennsylvania corporation (the "Company"), and Warren E. Jeffery (the "Employee") as of June 23, 1998 (the "Effective Date"). WHEREAS, Employee is currently employed by Company pursuant to a written letter agreement dated June 16, 1997, as amended (the "Existing Agreement"); and WHEREAS, the Company desires to continue employing Employee upon modified terms and conditions of employment; and WHEREAS, the Company and Employee desire to set forth in this Agreement the terms and conditions of Employee's continued employment. NOW, THEREFORE, in consideration of the mutual promises and covenants contained herein, the parties agree as follows: I. EMPLOYMENT AND TERM. The Company hereby employs Employee and Employee hereby accepts such employment, upon the terms and conditions hereinafter set forth. This Agreement shall commence on the Effective Date and continue in force and effect for two years (the "Stated Term") through June 22, 2000 unless sooner terminated pursuant to the provisions of Section IV of the Agreement. II. DUTIES. Subject to the provisions of Section IV of this Agreement: A. The Company shall employ Employee and Employee shall serve the Company for the Stated Term in the capacity of Senior Vice President of Operations and Pharmacy of the Company. The Company agrees that the duties that may be assigned to Employee shall be usual and customary duties of the offices or positions to which he may from time to time be appointed or elected. Employee shall have such corporate power and authority as reasonably required to enable the discharge of duties in any office that may be held. B. Employee agrees to devote substantially all of his business time, energies and abilities to the business of the Company. Nothing herein shall prevent Employee, upon approval of the Board, from serving, or continuing to serve upon termination of employment, as a director or trustee of other corporations or businesses that are not in competition with the business of the Company as set forth in Section V of this Agreement or in competition with any present or future affiliate of the Company. C. Employee shall report to the President and Chief Operating Officer of the Company. III. COMPENSATION. A. Base Salary. The Company shall pay to Employee a base salary of $212,000 per year for the first year of the Stated Term. Said base salary shall be increased to $224,720 on June 23, 1999 for the second year of the Stated Term. Such salary shall be earned weekly and shall be payable in arrears in periodic installments no less frequently than monthly in accordance with the Company's customary practices. Amounts payable shall be reduced by standard withholding and other deductions authorized by Employee or required by applicable law. B. Bonus. The Company will pay to Employee annually a bonus in an amount not less than the amount Employee is entitled to under the Company's incentive/bonus plan. The Employee's "Target Bonus", as defined in such plan, shall be no less than 40% during the term of this Agreement ("Minimum Bonus"). If the fiscal year of the Company is changed, the Employee will receive a bonus pro-rated to the amount to which he would otherwise be entitled hereunder based on the number of months in the short year, or such other equitable method as may be mutually agreed upon by Employee and the Company. C. Stock Options. Employee has previously earned and is entitled to receive, subject to the applicable vesting schedules, options to purchase 100,000 shares of Company at common stock. Additionally, Employee shall also be eligible and entitled to receive on June 23, 1998, a nonqualified stock option for 75,000 shares of Company common stock at a per share exercise price equal to the fair market value of a share of common stock on said grant date (the "Option"). The Option shall vest as to one-third of the shares on said grant date, one-third of the shares on the first anniversary of said grant date and one-third on the second anniversary of said grant date. Notwithstanding the foregoing, if, at any time, the Employee's employment is terminated by the Company without Cause (as defined in Section IV.B. hereof) or the Employee terminates employment with the Company for Good Reason (as defined in Section IV.C. hereof), all said options shall immediately vest. During the term of this Agreement Employee shall remain eligible, subject to the discretion of the Company, to receive additional option awards ("Additional Options"). D. Other Stock or Equity Plans. Employee shall be eligible to participate under any other stock or equity incentive plan or benefit provided by the Company to senior officers at the discretion of the Company. For purposes of this Agreement, "senior officer" means an officer of the Company of the rank of senior vice president or above. E. Welfare Benefit Plans. Employee and/or his family, as the case may be, shall (subject only to exceptions of general applicability or applicable legal requirements) be eligible to participate in and shall receive all benefits under welfare benefit plans, practices, policies and programs provided by the Company (including, without limitation, pension, medical, prescription, dental, disability, and life insurance plans and programs) to the extent available generally to senior officers of the Company. F. Expenses. Employee shall be entitled to receive prompt reimbursement for all reasonable employment expenses incurred by him in accordance with the policies, practices and procedures of the Company as in effect generally with respect to senior officers. G. Vacation. Employee shall be entitled during the term of this Agreement to four (4) weeks paid vacation per annum. Employee may accumulate vacation only to the extent permitted by the policies, practices and procedures of the Company as in effect generally with respect to senior officers. H. Car or Car Allowance. Employee shall be entitled to a car or car allowance to the extent applicable generally to senior officers. I. Attorneys' Fee Reimbursement. Within ten days after presentation of the invoice therefore, the Company shall pay to the law firm of Honigman Miller Schwartz and Cohn in Detroit, Michigan, an amount not to exceed $5,000.00 for legal fees incurred by Employee. J. Reservation of Right to Amend. With respect to the benefits provided to Employee in accordance with Section III.E., the Company reserves the right to modify, suspend or discontinue any and all of the plans, practices, policies and programs at any time without recourse by Employee so long as such action is taken with respect to senior officers or management generally and does not single out Employee. IV. TERMINATION. A. Death or Disability. Employee's employment shall terminate automatically upon Employee's death. If the Company determines in good faith that a Disability of Employee has occurred (pursuant to the definition of Disability set forth below), Company may terminate Employee's employment by providing Employee written notice in accordance with Section XVI of the Company's intention to terminate Employee's employment. In such event, Employee employment with the Company shall terminate effective on the 30th day after receipt of such notice by Employee, provided that, within the 30 days after such receipt, Employee shall not have returned to full-time performance of his duties. For purposes of this Agreement, "Disability" means a physical or mental impairment which (i) substantially limits a major life activity of Employee, (ii) renders Employee unable to perform the essential functions of his position, even with reasonable accommodation that does not impose an undue hardship on the Company, and (iii) has contributed to Employee's absence from his duties with the Company on a full-time basis for more than 60 consecutive days. The Company reserves the right, in good faith, to make the determination of Disability under this Agreement based upon information (as to items (i) and (ii) above) supplied by a physician selected by the Company or its insurers and acceptable to Employee or his legal representative (such agreement as to acceptability not to be withheld unreasonably). B. Cause. The Company may terminate Employee's employment for Cause (pursuant to the definition of Cause set forth below) by providing Employee written notice in accordance with Section XVI of the Company's intention to terminate Employee's employment, setting forth in such notice the specific grounds therefor. In such event, Employee's employment with the Company shall terminate effective as of the date of receipt of such notice by Employee. For purposes of this Agreement, "Cause" means (1) a material breach by Employee of Employee's obligations under Section II of this Agreement (other than as a result of incapacity due to physical or mental illness), which is demonstrably willful and deliberate on the Employee's part and is committed in bad faith or without reasonable belief that such conduct is in the best interests of the Company, or which is the result of Employee's gross neglect of duties, and, in either case, not remedied in a reasonable period of time not more than five days after receipt of written notice from the Board specifying such breach, (2) the conviction of Employee of a felony or other crime involving fraud, dishonesty or moral turpitude, or (3) the commission by Employee of a fraud which results in a material financial loss to the Company. C. Good Reason. Employee may terminate Employee's employment for Good Reason. Employee shall provide the Company written notice in accordance with Section XVI of Employee's intention to terminate Employee's employment for Good Reason, setting forth in such notice the grounds therefor. Employee's employment with the Company shall terminate effective as of the earlier of (i) the 15th day after the Company's receipt of such notice or (ii) such later date as set forth in such notice, unless the Company has cured the grounds therefor. For purposes of this Agreement, "Good Reason" means (1) Employee's position (including responsibilities, title, reporting requirements or authority) is reduced below the level set forth in Section II.A. hereof (2) employee and/or his job functions are transferred to a location more than 25 miles from the location of his current office and that requires Employee to drive 25 miles (one way) further than his current commute from Strongsville, Ohio (3) the Company fails in any material respect to comply with the provisions of Section III of this Agreement (4) the Company has within the prior twelve months undergone a Change of Control (pursuant to the definition of Change of Control set forth below), or (5) the Company purports to terminate Employee's employment otherwise than as expressly permitted by this Agreement or without payment of any amounts required to be paid under Section IV.F. For purposes of this Agreement, "Change of Control" shall mean (a) the acquisition by any individual, entity or group of beneficial ownership of 20% or more of either (i) the then outstanding shares of common stock of the Company, or (ii) the combined voting power of the then outstanding voting securities of the Company entitled to vote generally in the election of directors of the Company or (b) individuals who, as of the date of this Agreement, constitute the Board cease for any reason to constitute at least a majority of the Board; or (c) approval by the shareholders of the Company of a reorganization, merger or consolidation which results in a change of the ownership and/or voting rights of 30% or more of (i) the then outstanding shares of common stock of the Company, or (ii) a majority of the members of the Board of the Company do not remain members of the Board of the entity resulting from such reorganization, merger or consolidation; or (d) approval by the shareholders of the Company of a liquidation or dissolution of the Company, or the sale or other disposition of all or substantially all of the assets of the Company. For the purposes of this Agreement, Change of Control shall not include any change in ownership of the Company's common stock resulting from any transaction between the current principals of the Hamilton Morgan LLC. D. Other Than Cause or Good Reason or Death or Disability. The Company may terminate Employee's employment without cause by providing Employee written notice in accordance with Section XVI of the Company's intention to terminate Employee's employment. In such event, Employee's employment shall terminate effective on the 30th day after receipt of such notice by Employee. E. Termination by Employee Other Than for Good Reason. The Employee may voluntarily terminate his employment with the Company for any reasons whatsoever, other than in a situation where he has Good Reason for doing so, by providing Employer written notice thereof in accordance with Section XVI. In such event, Employee's employment shall terminate effective on the thirtieth day after the receipt of such notice by Company unless the parties mutually agree to an earlier termination. F. Obligations of the Company Upon Termination. Upon termination of Employee's employment for any reason, the Company shall have no further obligations to Employee (or his estate or legal representative) under this Agreement other than the following: 1. Death or Disability. If Employee's employment is terminated by reason of Employee's Death or Disability, the Company shall (a) pay the sum of (i) Employee's annual base salary through the end of the calendar month during which the termination occurs (to the extent not theretofore paid), (ii) any accrued vacation pay not theretofore paid, and (iii) any accrued incentive compensation that has been fixed and determined, which the Company shall pay to Employee or his estate or beneficiary, as applicable, in a lump sum in cash within 30 days of the date of termination, or earlier as may be required by applicable law (b) pay any amounts then due or payable pursuant to the terms of any applicable welfare benefit plans notwithstanding such termination of employment and (c) perform its obligations under any then outstanding stock option awards, in accordance with the terms of any applicable stock or equity incentive plan (the sum of the amounts and benefits described in clauses (a), (b) and (c) shall be hereinafter referred to as the "Accrued Obligations"). 2. Cause. If Employee's employment is terminated by the Company for Cause, the Company shall timely pay any Accrued Obligations. If it is subsequently determined that the Company did not have Cause for termination under Section IV.B., then the Company's decision to terminate shall be deemed to have been made under Section IV.D, and the amounts payable under Section IV.F.3 below shall be the only amounts Employee may receive for his termination. 3. Other Than for Cause or by Reason of Death or Disability. If the Company terminates Employee's employment (other than for Cause or because of his Death or Disability), or Employee terminates his employment for Good Reason, the Company shall (a) timely pay any Accrued Obligations (including but not limited to any immediately vested stock options in accordance with Section III C. hereof) and (b) pay Employee a lump sum equal to two times (or if such termination occurs on or after June 23, 1999, one and one-half times) the sum of (i) the annual base salary contained in Section III.A. hereof (or any higher base salary currently in effect on the date of termination) ("Base Salary") and (ii) the greater of (x) the average of the annual bonus payable to the Employee by the Company in respect to the two fiscal years preceding the fiscal year in which the termination occurs, annualized if any of the fiscal years is shorter than twelve months (or the average of bonuses paid by the Company for such shorter period preceding the fiscal year in which the Employee was employed) or (y) the Minimum Bonus (the greater of (x) or (y) being the "Bonus Amount"). In addition, any Additional Options granted to Employee under any applicable stock or equity incentive plan shall continue to vest (in accordance with the applicable option agreements) during the remainder of the Stated Term as if such termination had not occurred and the termination of service for purposes of any such plan and such option agreements shall be deemed to occur at the expiration of the Stated Term. The Company shall also pay on behalf of Employee the full cost of the continuation for two years of that level of health benefit coverage provided by the Company to Employee and/or his family immediately prior to termination of his employment. Employee shall be entitled to exercise his rights to continued coverage under COBRA upon the expiration of said two years of continued health benefit coverage. Notwithstanding anything to the contrary contained in this Agreement, should a Change of Control occur during the first year of the term of this Agreement involving any entity with which the Company is currently engaged and subject to a confidentiality agreement, then such Change of Control shall be deemed to have occurred in the second year of the term of this Agreement for the purpose of calculating any payments due Employee hereunder. 4. Termination by Employee Other Than for Good Reason. If the Employee voluntarily terminates his employment with the Company without Good Reason, the Company shall timely pay any Accrued Obligations. 5. Withholdings and Deductions. Any payment made pursuant to this Section IV.F. shall be paid, less standard withholdings and other deductions authorized by Employee or required by law. All amounts due Employee under this Section IV.F. shall be paid within 14 days after the date of termination or as earlier required by law. 6. Exclusive Remedy. Employee agrees that the payments contemplated by this Agreement shall constitute the exclusive and sole remedy for any termination of his employment, and Employee covenants not to assert or pursue any other remedies, at law or in equity, with respect to any termination of employment. V. NONCOMPETITION. Employee agrees that for that portion of the Stated Term during which he remains in the employ of the Company, he will not, directly or indirectly, without the prior written consent of the Board, provide consulting services with or without pay, own, manage, operate, join, control, participate in, or be connected as a stockholder, partner, employee, director, officer or otherwise with any other person, entity or organization engaged directly or indirectly in the business of operating a regional or national discount drug store chain. VI. UNIQUE SERVICES; INJUNCTIVE RELIEF; SPECIFIC PERFORMANCE. Employee agrees (i) that the services to be rendered by Employee pursuant to this Agreement, the rights and privileges granted to the Company pursuant to this Agreement and the rights and privileges granted to Employee by virtue of his position, are of a special, unique, extraordinary, managerial and intellectual character, which gives them a peculiar value, the loss of which to the Company cannot be adequately compensated in damages in any action at law, (ii) that the Company will or would suffer irreparable injury if Employee were to terminate this Agreement without Good Reason or to compete with the business of the Company or solicit employees of the Company in violation of Section V. or VII. of this Agreement, and (iii) that the Company would by reason of such breach or violation of this Agreement be entitled to the remedies of injunction, specific performance and other equitable relief in a court of appropriate jurisdiction. Employee consents to the jurisdiction of a court of equity to enter provisional equitable relief to prevent a breach or anticipatory breach of Section V. of this Agreement by Employee. VII. SOLICITING EMPLOYEES. Employee, while employed by the Company and for one year following termination of his employment, will not directly or indirectly solicit any employee of the Company or of any subsidiary or affiliate of the Company in an executive, managerial, sales or marketing capacity to work for any business, individual, partnership, firm, corporation, or other entity then in competition with the business of the Company or of any subsidiary or affiliate of the Company. VIII. CONFIDENTIAL INFORMATION. Employee agrees that during the Stated Term of this Agreement and at all times thereafter (notwithstanding the termination of this Agreement or the expiration of the Stated Term of this Agreement): A. Employee shall hold in a fiduciary capacity for the benefit of the Company all secret or Confidential Information, knowledge or data relating to the Company or any of its affiliated companies, and their respective businesses that are obtained by Employee during his employment by the Company or any of its affiliated companies and that are not or do not become public knowledge (other than by acts by Employee or his representatives in violation of this Agreement). For the purposes of this Agreement, "Confidential Information" includes financial information about the Company (including gross profit margins), contract terms with the Company's vendors and others, customer lists and data, trade secrets and such other competitively sensitive information to which Employee has access as a result of his positions with the Company. After termination of Employee's employment with the Company, he shall not, without the prior written consent of the Company, or as may otherwise be required by law or legal process, communicate or divulge any such information, knowledge or data to anyone other than the Company and those designated by it. B. Employee agrees that all styles, designs, lists, materials, books, files, reports, computer equipment, pharmacy cards, Company automobiles, keys, door opening cards, correspondence, records and other documents ("Company material") used, prepared or made available to Employee, shall be and shall remain the property of the Company. Upon the termination of employment or the expiration of this Agreement, all Company materials shall be returned immediately to the Company, and Employee shall not make or retain any copies thereof. IX. SUCCESSORS. A. This Agreement is personal to Employee and neither it nor any benefits hereunder shall, without the prior written consent of the Company, be assignable by Employee. B. This Agreement shall inure to the benefit or and be binding upon the Company and its successors and assigns and any such successor or assignee shall be deemed substituted for the Company under the terms of this Agreement for all purposes. As used herein, "successor" and "assignee" shall include any person, firm, corporation or other business entity that at any time, whether by purchase, merger or otherwise, directly or indirectly acquires the stock of the Company or to which the Company assigns this Agreement by operation of law or otherwise. X. WAIVER. No waiver of any breach of any term or provision of this Agreement shall be construed to be, nor shall be, a waiver of any other breach of this Agreement. No waiver shall be binding unless in writing and signed by the party waiving the breach. XI. MODIFICATION. This Agreement may not be amended or modified other than by a written agreement executed by the Employee and (a) the Chairman of the Board or (b) a duly authorized member of the Board who is not an officer or employee of the Company or a subsidiary of the Company. XII. SAVINGS CLAUSE. If any provision of this Agreement or the application thereof is held invalid, the invalidity shall not affect other provisions or applications of the Agreement that can be given effect without the invalid provisions or applications, and to this end the provisions of this Agreement are declared to be severable. XIII. COMPLETE AGREEMENT. This Agreement constitutes and contains the entire agreement and understanding concerning Employee's employment and the other subject matters addressed herein between the parties and supersedes and replaces all prior negotiations and all agreements proposed or otherwise, whether written or oral, concerning the subject matters of this Agreement, including the Existing Agreement. XIV. GOVERNING LAW. This Agreement shall be deemed to have been executed and delivered within the State of Ohio, and the rights and obligations of the parties hereunder shall be construed and enforced in accordance with, and governed by, the laws of the State of Ohio without regard to principles of conflict of laws. XV. CAPTIONS. The captions of this Agreement are not part of the provisions of this Agreement and shall have no force or effect. XVI. COMMUNICATIONS. All notices, requests, demands and other communications hereunder shall be in writing and shall be deemed to have been duly given if delivered or if mailed by registered or certified mail, postage prepaid, addressed: If to Employee, to Warren E. Jeffery 17756 Monterey Pine Drive Strongsville, OH 44136 If to Company, to 20 Federal Plaza West Youngstown, Ohio 4450l, Attention: Chairman of the Board of Directors. Either party may change the address at which notice shall be given by written notice given in the above manner. XVII. ARBITRATION. Except as otherwise provided in Section VI. of this Agreement, any dispute, controversy or claim arising out of or in respect of this Agreement (or its validity, interpretation or enforcement), the employment relationship or the subject matter of this Agreement shall at the request of either party be submitted to and settled by arbitration conducted in either Cleveland, Ohio or Pittsburgh, Pennsylvania, as directed by the party requesting the arbitration, in accordance with the Employment Dispute Resolution Rules of the American Arbitration Association. The arbitration shall be governed by the Federal Arbitration Act (9 U.S.C. ss.ss. 1-16). The arbitration of such issues, including the determination of any amount of damages suffered, shall be final and binding upon the parties to the maximum extent permitted by law. The arbitrator in such action shall not be authorized to ignore, change, modify, add to or delete from any provision of this Agreement. Judgment upon the award rendered by the arbitrator may be entered by any court having jurisdiction thereof. The arbitrator shall award reasonable expenses (including reimbursement of the assigned arbitration costs) to the prevailing party upon application therefor. XVIII. EXECUTIONS. This Agreement may be executed in one or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same Agreement. Photographic copies of such signed counterparts may be used in lieu of the originals for any purpose. XIX. LEGAL COUNSEL. In entering this Agreement, the parties represent that they have relied upon the advice of their respective attorneys, who are attorneys of their own choice, and that the terms of this Agreement have been completely read and explained to them by their attorneys, and that those terms are fully understood and voluntarily accepted by them. XX. LIMITATION ON PAYMENTS. A. Notwithstanding anything contained herein to the contrary, prior to the payment of any amounts pursuant to Section IV.F.3. hereof, an independent national accounting firm designated by the Company (the "Accounting Firm") shall compute whether there would be any "excess parachute payments" payable to the Employee, within the meaning of Section 280G of the Internal Revenue Code of 1986, as amended (the "Code"), taking into account the total "parachute payments," within the meaning of Section 280G of the Code, payable to the Employee by the Company or any successor thereto under this Agreement and any other plan, agreement or otherwise. If there would be any excess parachute payments, the Accounting Firm will compute the net after-tax proceeds to the Employee, taking into account the excise tax imposed by Section 4999 of the Code, if (i) the payments hereunder were reduced, but not below zero, such that the total parachute payments payable to the Employee would not exceed three (3) times the "base amount" as defined in Section 280G of the Code, less One Dollar ($1.00), or (ii) the payments hereunder were not reduced. If reducing the payments hereunder would result in a greater after-tax amount to the Employee, such lesser amount shall be paid to the Employee. If not reducing the payments hereunder would result in a greater after-tax amount to the Employee, such payments shall not be reduced. The determination by the Accounting Firm shall be binding upon the Company and the Employee subject to the application of Section XX.B. hereof. B. As a result of the uncertainty in the application of Sections 280G of the Code, it is possible that excess parachute payments will be paid when such payment would result in a lesser after-tax amount to the Employee; this is not the intent hereof. In such cases, the payment of any excess parachute payments will be void ab initio as regards any such excess. Any excess will be treated as a loan by the Company to the Employee. The Employee will return the excess to the Company, within fifteen (15) business days of any determination by the Accounting Firm that excess parachute payments have been paid when not so intended, with interest at an annual rate equal to the rate provided in Section 1274(d) of the Code (or 120% of such rate if the Accounting Firm determines that such rate is necessary to avoid an excise tax under Section 4999 of the Code) from the date the Employee received the excess until it is repaid to the Company. C. All fees, costs and expenses (including, but not limited to, the cost of retaining experts) of the Accounting Firm shall be borne by the Company and the Company shall pay such fees, costs and expenses as they become due. In performing the computations required hereunder, the Accounting Firm shall assume that taxes will be paid for state and federal purposes at the highest possible marginal tax rates which could be applicable to the Employee in the year of receipt of the payments, unless the Employee agrees otherwise. IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the date first above written. PHAR-MOR, INC. By:_______________________________ __________________________________ Abbey J. Butler Warren E. Jeffery Co-Chairman and Chief Executive Officer By:_______________________________ Melvyn J. Estrin Co-Chairman and Chief Executive Officer EX-10.9 6 DAVID SCHWARTZ ADMENDMENT TO EMPLOYMENT AGREEMENT AMENDMENT TO EMPLOYMENT AGREEMENT This Amendment to Employment Agreement (the "Amendment") is entered into by and between Phar-Mor, Inc., a Pennsylvania corporation (the "Company") and M. David Schwartz (the "Employee") as of June 23, 1998 (the "Effective Date"). WHEREAS, Employee is currently employed by the Company pursuant to a written Employment Agreement dated as of June 5, 1997 (the "Existing Agreement"); and WHEREAS, the Company and the Employee desire to amend the Existing Agreement. NOW, THEREFORE, in consideration of the mutual promises and covenants contained herein, the parties agree as follows: 1. Section I., EMPLOYMENT AND TERM, of the Existing Agreement is amended, to wit, to provide that the Stated Term (the "Term") shall continue through June 4, 2000. 2. Section III., COMPENSATION, as it relates to sub-paragraph A., Base Salary, shall be amended to provide that the base salary paid to Employee for the contract year beginning June 5, 1999 through June 4, 2000 shall be $715,500. 3. Section III., COMPENSATION, as it relates to sub-paragraph C., Stock Options, shall be amended to provide that the stock options granted to the Employee on June 23, 1998 shall be treated as existing options under the existing Agreement and not as additional options, so that such options shall immediately vest if at any time the Employee's employment is terminated by the Company without Cause or the Employee terminates employment with the Company for Good Reason. 4. Section IV., TERMINATION, as it relates to sub-paragraph F.3., Other Than for Cause or by Reason of Death or Disability, shall be amended to provide that notwithstanding anything to the contrary contained in this Agreement, should a Change of Control occur during the first year of the term of this Agreement involving any entity with which the Company is currently engaged and subject to a confidentiality agreement, then such Change of Control shall be deemed to have occurred in the second year of the term of this Agreement for the purpose of calculating any payments due Employee hereunder 5. All other terms and conditions of the Existing Employment Agreement shall remain the same and any defined terms used herein shall have the meaning as defined in the Existing Agreement. IN WITNESS WHEREOF, the parties hereto have executed this Amendment as of the date first above written. PHAR-MOR, INC. By:_______________________________ _________________________________ Abbey J. Butler M. David Schwartz Co-Chairman and Chief Executive Officer By:_______________________________ Melvyn J. Estrin Co-Chairman and Chief Executive Officer EX-10.10 7 SANKAR KRISHNAN AMENDMENT TO EMPLOYMENT AGREEMENT AMENDMENT TO EMPLOYMENT AGREEMENT This Amendment to Employment Agreement (the "Amendment") is entered into by and between Phar-Mor, Inc., a Pennsylvania corporation (the "Company") and Sankar Krishnan (the "Employee") as of June 23, 1998 (the "Effective Date"). WHEREAS, Employee is currently employed by the Company pursuant to a written Employment Agreement dated as of June 13, 1997 (the "Existing Agreement"); and WHEREAS, the Company and the Employee desire to amend the Existing Agreement. NOW, THEREFORE, in consideration of the mutual promises and covenants contained herein, the parties agree as follows: 1. Section I., EMPLOYMENT AND TERM, of the Existing Agreement is amended, to wit, to provide that the Stated Term (the "Term") shall continue through June 4, 2000. 2. Section III., COMPENSATION, sub-paragraph A., Base Salary, shall be amended to provide that the base salary paid to Employee for the contract year beginning June 5, 1999 through June 4, 2000 shall be $265,000. 3. Section III., COMPENSATION, sub-paragraph C., Stock Options, shall be amended to provide that the stock options granted to the Employee on June 23, 1998 shall be treated as existing options under the existing Agreement, as amended herein, and not as additional options, so that such options shall immediately vest if at any time the Employee's employment is terminated by the Company without Cause or the Employee terminates employment with the Company for Good Reason. 4. Section IV., TERMINATION, sub-paragraph F.3., Other Than for Cause or by Reason of Death or Disability, shall be amended to provide that notwithstanding anything to the contrary contained in this Agreement, should a Change of Control occur during the first year of the term of this Existing Agreement, as amended herein, involving any entity with which the Company is currently engaged and subject to a confidentiality agreement, then such Change of Control shall be deemed to have occurred in the second year of the term thereof for the purpose of calculating any payments due Employee hereunder 5. All other terms and conditions of the Existing Employment Agreement shall remain the same and any defined terms used herein shall have the meaning as defined in the Existing Agreement. IN WITNESS WHEREOF, the parties hereto have executed this Amendment as of the date first above written. PHAR-MOR, INC. By:_______________________________ __________________________________ Abbey J. Butler Sankar Krishnan Co-Chairman and Chief Executive Officer By:_______________________________ Melvyn J. Estrin Co-Chairman and Chief Executive Officer EX-10.11 8 JOHN R FICARRO AMENDMENT TO EMPLOYMENT AGREEMENT AMENDMENT TO EMPLOYMENT AGREEMENT This Amendment to Employment Agreement (the "Amendment") is entered into by and between Phar-Mor, Inc., a Pennsylvania corporation (the "Company") and John R. Ficarro (the "Employee") as of June 23, 1998 (the "Effective Date"). WHEREAS, Employee is currently employed by the Company pursuant to a written Employment Agreement dated as of June 5, 1997 (the "Existing Agreement"); and WHEREAS, the Company and the Employee desire to amend the Existing Agreement. NOW, THEREFORE, in consideration of the mutual promises and covenants contained herein, the parties agree as follows: 1. Section I., EMPLOYMENT AND TERM, of the Existing Agreement is amended, to wit, to provide that the Stated Term (the "Term") shall continue through June 4, 2000. 2. Section III., COMPENSATION, sub-paragraph A., Base Salary, shall be amended to provide that the base salary paid to Employee for the contract year beginning June 5, 1999 through June 4, 2000 shall be $225,000. 3. Section III., COMPENSATION, sub-paragraph C., Stock Options, shall be amended to provide that the stock options granted to the Employee on June 23, 1998 shall be treated as existing options under the existing Agreement, as amended herein, and not as additional options, so that such options shall immediately vest if at any time the Employee's employment is terminated by the Company without Cause or the Employee terminates employment with the Company for Good Reason. 4. Section IV., TERMINATION, sub-paragraph F.3., Other Than for Cause or by Reason of Death or Disability, shall be amended to provide that notwithstanding anything to the contrary contained in this Agreement, should a Change of Control occur during the first year of the term of this Existing Agreement, as amended herein, involving any entity with which the Company is currently engaged and subject to a confidentiality agreement, then such Change of Control shall be deemed to have occurred in the second year of the term thereof for the purpose of calculating any payments due Employee hereunder 5. All other terms and conditions of the Existing Employment Agreement shall remain the same and any defined terms used herein shall have the meaning as defined in the Existing Agreement. IN WITNESS WHEREOF, the parties hereto have executed this Amendment as of the date first above written. PHAR-MOR, INC. By:_______________________________ __________________________________ Abbey J. Butler John R. Ficarro Co-Chairman and Chief Executive Officer By:_______________________________ Melvyn J. Estrin Co-Chairman and Chief Executive Officer EX-10.12 9 WARREN E JEFFERY ADMENDMENT TO EMPLOYMENT AGMNT. AMENDMENT TO EMPLOYMENT AGREEMENT This Amendment to Employment Agreement (the "Amendment") is entered into by and between Phar-Mor, Inc., a Pennsylvania corporation (the "Company") and Warren E. Jeffery (the "Employee") as of August 27, 1998 (the "Effective Date"). WHEREAS, Employee is currently employed by the Company pursuant to a written Employment Agreement dated as of June 23, 1998 (the "Existing Agreement"); and WHEREAS, the Company and the Employee desire to amend the Existing Agreement. NOW, THEREFORE, in consideration of the mutual promises and covenants contained herein, the parties agree as follows: 1. Section IV., TERMINATION, sub-paragraph F.3., Other Than for Cause or by Reason of Death or Disability, as set forth in the Existing Agreement shall be amended to provide, notwithstanding anything to the contrary contained in the Existing Agreement, should a Change of Control occur on or prior to August 27, 1999, then the Employee shall be entitled to all of those benefits set forth in sub-paragraph F.3.(b) in addition to any other benefits the Employee is entitled to thereunder. The date "June 23, 1998" as contained in sub-paragraph F.3.(b) of the Existing Agreement shall be deleted and "August 27, 1999" shall be inserted in its place as it applies to any Change of Control to provide that in such event the Employee shall receive two times total compensation as described in the Existing Agreement. 2. All other current terms and conditions of the Existing Agreement, shall remain the same and any defined terms used herein shall have the meaning as defined in the Existing Agreement. IN WITNESS WHEREOF, the parties hereto have executed this Amendment as of the date first above written. PHAR-MOR, INC. By:_______________________________ __________________________________ Abbey J. Butler Warren E. Jeffery Co-Chairman and Chief Executive Officer By:_______________________________ Melvyn J. Estrin Co-Chairman and Chief Executive Officer EX-10.13 10 DAVID SCHWARTZ 2ND AMENDMENT TO EMPLOYMENT AGMNT. SECOND AMENDMENT TO EMPLOYMENT AGREEMENT This Second Amendment to Employment Agreement (the "Second Amendment") is entered into by and between Phar-Mor, Inc., a Pennsylvania corporation (the "Company") and M. David Schwartz (the "Employee") as of August 27, 1998 (the "Effective Date"). WHEREAS, Employee is currently employed by the Company pursuant to a written Employment Agreement dated as of June 5, 1997 (the "Existing Agreement") as amended as of June 23, 1998 (the "First Amendment"); and WHEREAS, the Company and the Employee desire to further amend the Existing Agreement, as amended. NOW, THEREFORE, in consideration of the mutual promises and covenants contained herein, the parties agree as follows: 1. Paragraph 4 of the First Amendment relative to Section IV., TERMINATION, sub-paragraph 3 of the Existing Agreement is hereby deleted in its entirety. 2. Section IV., TERMINATION, sub-paragraph F.3., Other Than for Cause or by Reason of Death or Disability, as set forth in the Existing Agreement shall be amended to provide, notwithstanding anything to the contrary contained in the Existing Agreement or the First Amendment, should a Change of Control occur on or prior to August 27, 1999, then the Employee shall be entitled to all of those benefits set forth in sub-paragraph F.3.(b) in addition to any other benefits the Employee is entitled to thereunder. The date "June 5, 1998" as contained in sub-paragraph F.3.(b) of the Existing Agreement shall be deleted and "August 27, 1999" shall be inserted in its place as it applies to any Change of Control to provide that in such event the Employee shall receive two times total compensation as described in the Existing Agreement. 3. All other current terms and conditions of the Existing Employment Agreement, as amended, shall remain the same and any defined terms used herein shall have the meaning as defined in the Existing Agreement, as amended. IN WITNESS WHEREOF, the parties hereto have executed this Amendment as of the date first above written. PHAR-MOR, INC. By:_______________________________ __________________________________ Abbey J. Butler M. David Schwartz Co-Chairman and Chief Executive Officer By:_______________________________ Melvyn J. Estrin Co-Chairman and Chief Executive Officer EX-10.14 11 SANKAR KRISHNAN 2ND AMENDMENT TO EMPLOYMENT AGMNT. SECOND AMENDMENT TO EMPLOYMENT AGREEMENT This Second Amendment to Employment Agreement (the "Second Amendment") is entered into by and between Phar-Mor, Inc., a Pennsylvania corporation (the "Company") and Sankar Krishnan (the "Employee") as of August 27, 1998 (the "Effective Date"). WHEREAS, Employee is currently employed by the Company pursuant to a written Employment Agreement dated as of June 13, 1997 (the "Existing Agreement") as amended as of June 23, 1998 (the "First Amendment"); and WHEREAS, the Company and the Employee desire to further amend the Existing Agreement, as amended. NOW, THEREFORE, in consideration of the mutual promises and covenants contained herein, the parties agree as follows: 1. Paragraph 4 of the First Amendment relative to Section IV., TERMINATION, sub-paragraph 3 of the Existing Agreement is hereby deleted in its entirety. 2. Section IV., TERMINATION, sub-paragraph F.3., Other Than for Cause or by Reason of Death or Disability, as set forth in the Existing Agreement shall be amended to provide, notwithstanding anything to the contrary contained in the Existing Agreement or the First Amendment, should a Change of Control occur on or prior to August 27, 1999, then the Employee shall be entitled to all of those benefits set forth in sub-paragraph F.3.(b) in addition to any other benefits the Employee is entitled to thereunder. The date "June 13, 1998" as contained in sub-paragraph F.3.(b) of the Existing Agreement shall be deleted and "August 27, 1999" shall be inserted in its place as it applies to any Change of Control to provide that in such event the Employee shall receive two times total compensation as described in the Existing Agreement. 3. All other current terms and conditions of the Existing Employment Agreement, as amended, shall remain the same and any defined terms used herein shall have the meaning as defined in the Existing Agreement, as amended. IN WITNESS WHEREOF, the parties hereto have executed this Amendment as of the date first above written. PHAR-MOR, INC. By:_______________________________ __________________________________ Abbey J. Butler Sankar Krishnan Co-Chairman and Chief Executive Officer By:_______________________________ Melvyn J. Estrin Co-Chairman and Chief Executive Officer EX-10.15 12 JOHN R FICARRO 2ND AMENDMENT TO EMPLOYMENT AGMNT. SECOND AMENDMENT TO EMPLOYMENT AGREEMENT This Second Amendment to Employment Agreement (the "Second Amendment") is entered into by and between Phar-Mor, Inc., a Pennsylvania corporation (the "Company") and John R. Ficarro (the "Employee") as of August 27, 1998 (the "Effective Date"). WHEREAS, Employee is currently employed by the Company pursuant to a written Employment Agreement dated as of June 5, 1997 (the "Existing Agreement") as amended as of June 23, 1998 (the "First Amendment"); and WHEREAS, the Company and the Employee desire to further amend the Existing Agreement, as amended. NOW, THEREFORE, in consideration of the mutual promises and covenants contained herein, the parties agree as follows: 1. Paragraph 4 of the First Amendment relative to Section IV., TERMINATION, sub-paragraph 3 of the Existing Agreement is hereby deleted in its entirety. 2. Section IV., TERMINATION, sub-paragraph F.3., Other Than for Cause or by Reason of Death or Disability, as set forth in the Existing Agreement shall be amended to provide, notwithstanding anything to the contrary contained in the Existing Agreement or the First Amendment, should a Change of Control occur on or prior to August 27, 1999, then the Employee shall be entitled to all of those benefits set forth in sub-paragraph F.3.(b) in addition to any other benefits the Employee is entitled to thereunder. The date "June 5, 1998" as contained in sub-paragraph F.3.(b) of the Existing Agreement shall be deleted and "August 27, 1999" shall be inserted in its place as it applies to any Change of Control to provide that in such event the Employee shall receive two times total compensation as described in the Existing Agreement. 3. All other current terms and conditions of the Existing Employment Agreement, as amended, shall remain the same and any defined terms used herein shall have the meaning as defined in the Existing Agreement, as amended. IN WITNESS WHEREOF, the parties hereto have executed this Amendment as of the date first above written. PHAR-MOR, INC. By:_______________________________ __________________________________ Abbey J. Butler John R. Ficarro Co-Chairman and Chief Executive Officer By:_______________________________ Melvyn J. Estrin Co-Chairman and Chief Executive Officer EX-10.23 13 INDEPENDENT AUDITOR'S CONSENT INDEPENDENT AUDITORS' CONSENT We consent to the incorporation by reference in Registration Statement No. 333-30895 on Form S-8 of our report dated August 14, 1998 (September 10, 1998 as to Notes 3 and 8), appearing in this Annual Report on Form 10-K of Phar-Mor, Inc. for the fiscal year ended June 27, 1998. Our report expresses an unqualified opinion on the consolidated balance sheets of Phar-Mor, Inc. and subsidiaries as of June 27, 1998 and June 28, 1997 and the related consolidated statements of operations, changes in stockholders' equity (deficiency) and cash flows for the fifty-two weeks ended June 27, 1998, the fifty-two weeks ended June 28, 1997 and the forty-three weeks ended June 29, 1996. Our report expresses a qualified opinion on the consolidated statements of operations, changes in stockholders' equity (deficiency) and cash flows of Phar-Mor, Inc. and subsidiaries for the nine weeks ended September 2, 1995 as reliable accounting records and sufficient evidential matter to support the acquisition cost of property and equipment were not available. Also, our report includes an explanatory paragraph relating to the comparability of financial information prior to September 2, 1995 as a result of Phar-Mor's emergence from bankruptcy and the creation of a new entity. Deloitte & Touche LLP Pittsburgh, Pennsylvania September 25, 1998 EX-27 14 ART. 5 FDS FOR 1998 10-K
5 1,000 12-MOS JUN-27-1998 JUN-27-1998 44,655 9,065 22,329 1,402 176,069 253,419 106,807 31,295 349,455 116,734 130,993 0 0 122 82,317 349,455 1,100,851 1,100,851 887,657 887,657 0 0 16,639 (8,830) 0 (8,830) 0 0 0 (8,830) (0.72) (0.72)
-----END PRIVACY-ENHANCED MESSAGE-----