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Management will continue to focus on the core business and adhere to proven and successful marketing strategies. And the company will continue to emphasize and invest in quality and service-investments in the future.

Because of our strong balance sheet, we will also take advantage of niche marketing opportunities that match our expertise and are affordable avenues for growth.

FINANCIAL HIGHLIGHTS (In thousands, except share information) FISCAL YEARS Income Statement Data: 1991 1990 1989 Net revenues $36,645 $32,674 $30,682 Gross profit 15,083 14,152 13,156 Income from operations excluding settlement of lawsuit 2,373 2,095 1,693 Net income $2,373 $2,095 $1,957 Balance Sheet Data: Working capital $4,129 $2,061 $2,753 Capitalized customer acquisition expenditures 3,283 3,390 3,235 Total assets 11,474 9,925 11,573 Long-term obligations and subordinated notes payable net of current portion o o 2,375 Shareholder's equity $6,541 $4,120 $3,303 Per Common Share Data: Income from operations excluding settlement of lawsuit $1.32 $1.09 $.86 Net income 1.32 1.09 1.00 Net cash flow from operating activities 1.95 1.76 2.10 Book value $4.00 $2.57 $1.84 Weighted average shares and equivalents outstanding 1,804,562 1,930,769 1,953,516 Seattle FilmWorks, Inc. 1260 16th Ave. West Seattle, WA 98119-3401 (206) 281-1390

Gary Christophersen President and Chief Executive Officer

•January, 1992 To Our Shareholders, We're pleased to present our Annual Report for 1991. When I wrote last year, I noted that we intended to focus on expanding our sales. Now, I am very pleased to report the results we have achieved during the difficult recessionary period of the past year. We generated record revenues of $36,645,000, up 12.2% from 1990. That's nearly double 1990's increase over 1989. And once again, earnings per share increased more than 20%, to $1.32 from $1.09 the prior year. Part of the increase was due to our strategic repurchase of some outstanding shares late in 1990, which has turned out to be an excellent investment for both the company and our shareholders. Net Income grew to $2,373,000 from $2,095,000 in 1990. Leading our growth for the year was a continuing fine performance by our primary business, the Seattle FilmWorks brand direct-to-consumer mail-order photofinishing business. The photofinishing industry as a whole had a very difficult year, apparently related to the trying economic times. Seattle FilmWorks notably outpaced the industry by growing. We achieved additional sales growth through our Opticolor wholesale film business and sales of our Home Study Photo courses. We attribute our growth in sales to our continuing focus on quality, innovation, and product differentiation. This has been the cornerstone of our historic growth and will continue to be key to our future success. As we look forward, we will continue our focus on expanding our sales in what remains a difficult economic climate. Additionally, we expect to introduce further product differentiation and begin to see some of the results from our continuing plant automation cost-reduction efforts. We expect fewer cost increases during the coming year primarily due to the unlikelihood of further postal increases. The photo industry is inherently a very seasonal business. This impacts our quarterly earnings in two ways. First, photofinishing volumes are light during the first and second quarters, and secondly, this is the best time for us to invest in the future through our marketing programs. We will continue to manage the company for the long term by taking advantage of marketing opportunities as they occur. This strategy has always functioned to lower profitability in the first half of the year, while strengthening the year as a whole as well as the longer term. We have again chosen to avoid the expense of an elaborate annual report and have included herein a copy of our 10-K report to the Securities and Exchange Commission.

Sincerely,

- V Gary Christophersen .. President 8e CEO

Mike Konishi Film Production Barbara Turner Accounting The company's key marketing strategy is to invest And the company believes that this new system in products and services that appeal to niches in will contribute significantly to customer retention the extensive photofinishing market. [n as well as lifetime value. keeping with this strategy, the company, in the summer of 1991, Opticolor, the company's division that markets introduced anew "Easy Order private-label film to the retail industry, enjoyed System." This new system revenues of more than double the previous introduces a true period. The company breakthrough in anticipates that convenience. An "Easy further Order" can be completed in exploitation of about 12 seconds. this niche market is possible in the This system enables SFW coming fiscal customers to place astanding order for film year. developing. The customer then needs only to place aspecially coded label directly on their roll [n January of 1991, the company began providing of film and then put that roll photofinishing services at the retail and in one of the company's wholesale levels. This effort consists of postage-free mailing providing next-day photofinishing services envelopes. No order ~I.~;I through anumber of photo retailers as forms are required. And, .... well as from anumber of drive-up photo because "Easy Orders" are kiosks located throughout western charged to the customer's Washington. bankcard, there's no need Since that time, the company has focused on for the customer to include the development of effective customer­ payment with the order. acquisition strategies modeled after the Customer response has company's successful "Free Film" been extremely favorable. introductory offer.

Annette Mack Eric Latsha Editha Basilio Tim Mount Kathleen Malek Richard Rivers Sabrina Mirante Robert Fleming Steven Layton Dagmar Achtelik Vern Earl Mich Kele Earl Human Resources Maintenance Incoming Maintenance Reprints Administration Customer Service tncoming Reprints Marketing Film Production Administration SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549

FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 Cd) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended SEPTEMBER 28, 1991

Commission file No. 0-15338 SEATILE FILMWORKS, INC. (Exact name of registrant as specified in its charter)

Washington 91-0964899 (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)

1260 16th Avenue West Seattle. WA 98119 (Address of principal executive offices) (Zip Code)

Registrant's telephone number, including area code: (206) 281-1390

Securities registered pursuant to Section 12(b) of the Act:

Securities registered pursuant to Section 12(g) of the Act: Common Stock, par value $.01 per share.

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 the filing requirements for the past 90 days. Yes __X__ No _

As of November 30, 1991, there were issued and outstanding 1,635,363 shares of Common Stock, par value $.01 per share.

The aggregate market value of Common Stock held by nonaffiliates as of November 30, 1991 was $25,143,706, based on the average of the closing bid and ask prices of such stock as reported by the NASDAQ National Market System.

The registrant's proxy statement relating to its 1991 annual meeting of shareholders, to be held on February 19, 1992, is incorporated by reference into Part III of this Annual Report on Form 1O-K.

Page 1 of 28

1 PART I

ITEM 1 - BUSINESS

Description of Business

The principal operation of Seattle FilmWorks, Inc. (the "Company") is the marketing of 35mm film and photofinishing services on a direct-to-consumer mail order basis under the brand name, Seattle FilmWorks. The Company specializes in the processing of 35mm film originally manufactured for professional motion picture studios which has been adapted by the Company for 35mm still cameras. The Company also provides a variety of reprint and enlargement products to its customers as well as products related to photofinishing. To support its direct-to-consumer business, the Company has developed comprehensive computerized support systems for designing and implementing direct response marketing programs.

Demand for the Company's photofinishing services, which represents the largest portion of the Company's business, is highly seasonal with the highest volume of photofinishing activity occurring during the summer months. This coupled with relatively higher expenditures on marketing programs prior to the summer months, causes considerable seasonal variation in both revenues and earnings.

The Company was incorporated in Washington State in June 1976. The executive offices of the Company are located at 1260 Sixteenth Avenue West, Seattle, Washington 98119, and the Company's telephone number is (206) 281-1390.

Direct Marketing Overview

Direct marketing by mail, print media, television, radio, telephone or other means is used to sell a wide variety of goods and services to targeted groups of consumers and businesses, bypassing the traditional distribution channel of retail outlets. Leading users of direct marketing include mail order houses and catalog mailers, magazine publishers, insurance companies, book and record clubs, financial institutions, and credit card companies. The Company believes the growth in the use of direct marketing is generally attributable to social and economic changes and to the increased cost-effectiveness of direct marketing techniques. Several factors have enhanced consumer responsiveness to direct marketing as a purchasing medium, including growth in the number of people in the most active segment of the purchasing population, growth in the number of two-career families that have more disposable income with less time to shop, and increased availability and use of credit cards.

Direct marketing, unlike general advertising, uses coded advertisements to monitor consumer response and to provide measurable results for a specific advertising program. This allows for the targeting of an advertising effort to specific market segments through selected media. Furthermore, direct marketing enables the advertiser to identify the optimum sales offer for a specific product in a specific market. The application of computer technology has enhanced the productivity of direct marketing by enabling direct marketing firms to maintain and analyze extensive data, and to segment markets using geographic, demographic, and psychographic information about potential customers. With this technology and an appropriate data base, marketing programs can be targeted to selected groups with common characteristics, rather than to an undifferentiated mass audience, an important factor in direct marketing. The Company has established a broad range of marketing systems which it has applied to the marketing of its products and services.

2 Photofinishing Services and Related Products

The Company primarily sells 35mm film and photofinishing services through direct-to-consumer mail order operations under the brand name, Seattle FilmWorks. The Company specializes in the processing of various types of Eastman 35mm motion picture film manufactured by Eastman Kodak Company for professional motion picture studios and adapted by Seattle FilmWorks for 35mm still cameras. In addition, the Company can also process virtually all other conventional 35mm color negative films, including those manufactured by Eastman Kodak Company, Fuji Photo Film Company, Konica U.S.A., Agfa Corporation and other major film producers. The Company has the unique capability to produce slides or prints or both from the same roll of film using proprietary processes. The Company believes the primary reasons consumers use its film and photofinishing services include the Company's attractive introductory film offer, the availability of prints or slides or both from the same roll of 35mm color negative film, the convenience of mail order photofinishing, its strong commitment to customer service, and the quality of its photofinishing services. The Company believes its pricing, which includes a replacement roll of film, is competitive within the industry.

The Company's past growth in its photofinishing operation has been achieved through its direct marketing programs, including its customer acquisition technique of offering two rolls of film free, with a $2.00 shipping and handling charge (the "Introductory Offer"). The Introductory Offer is widely advertised in package inserts, newspaper supplements, magazines, and through various other direct response media. Respondents to the Introductory Offer receive two rolls of 35mm film and postage paid mailers for returning the film to the Company for processing. The response rate to the Introductory Offer has been relatively stable over the last three years.

The Company believes that customer satisfaction is important to the success of its business. Direct marketing typically involves contacts with a high volume of customers. The Company has handled up to 90,000 photofinishing and introductory film orders per week. Seattle FilmWorks has a 100% customer satisfaction guaranteed policy under which it will provide a full refund if the customer's complaint cannot otherwise be resolved.

The Company believes that its ability to market 35mm motion picture film manufactured by Eastman Kodak Company and repackaged by the Company for use in 35mm still cameras is an important element in the promotion of the Company's film products and photofinishing services. The Company has modified conventional printing equipment to accommodate 35mm motion picture film and has determined the unique color control parameters necessary to produce high quality prints from Eastman film and alternate 35mm films. Certain processing techniques used by the Company provide greater latitude to correct exposure errors common to amateur photography.

The Company obtains its supply of Eastman motion picture film as surplus from motion picture studios and television production companies. The Company does not have future supply contracts for 35mm film with any studios or production companies but believes that alternate sources of both 35mm motion picture and conventional films are available. The use of alternate 35mm films might require modifications in the Company's marketing strategy, and could have a material adverse effect on the Company's operations.

The Company also sells a series of Photo Home Study courses authored on behalf of the Company by professional photographers. These courses each consist of two 60-minute audio cassette tapes and approximately 95 pages of four-color text. The Company markets its Photo Home Study courses through direct marketing channels. The Company pays royalties to the authors of its Photo Home Study courses in amounts that vary with the number of units sold, up to a maximum of 5% of net paid sales.

3 The Company recently began selling 35mm rolled film on a wholesale basis to mini photofinishing labs and retail camera stores. The rolled film is packaged by the Company and marketed throughout the United States under the brand, OptiColor Film & Photo.

Competition

The consumer photofinishing industry is highly competitive, with many of the competitors having substantially greater financial resources than the Company. The principal competitive factors in the consumer photofinishing industry are quality of processing, price, convenience, and speed of service. Most of the larger photofinishing companies develop film on a wholesale basis for independent retail outlets and through multiple retail outlets owned by the photofinisher. The Company competes with other mail order photofinishing firms, some of which also specialize in Eastman motion picture films, and in some geographic areas with the larger wholesale/retail based photofinishing companies.

There are a limited number of firms which are capable of processing 35mm motion pictu're film which has been packaged for 35mm still cameras and offer the availability of slides or prints or both from the same roll of film. However, in the last few years several other larger firms have begun to offer a limited range of processing services for 35mm motion picture films. These competitors could have a material adverse effect on the Company's business. While the photofinishing market in general has grown during the 1980s, certain segments have grown more rapidly than others. Since 1981 there has been an increase in the number of mini photofinishing labs offering expedited service at a premium price. For example, in 1981, photofinishing by one-hour labs represented an insignificant share of the market. Recently, Photo Marketing Association International estimated that mini-labs constitute approximately nOlo of the current market in terms of revenue dollars. The Company believes that it competes effectively with these competitors by offering convenient high quality photofinishing services at competitive prices.

The Company's Photo Home Study series competes with other series offered by Time-Life books, AMPHOTO'S Photography Book Club, and The New York Institute of Photography. The principal competitive factors in the home study course market are course quality, price, and convenience of use.

Production Operations

The Company's production operations are conducted by a staff which fluctuates seasonally, from approximately 275 to 350 employees. Currently, the Company is capable of processing up to approximately 90,000 rolls of film per week with its current facilities and equipment on a one-shift basis, The Company's processing facility is designed to handle the processing of up to 150,000 rolls of film per week with further equipment and personnel.

The Company packages bulk 35mm film into cassettes for 35mm still cameras. The cassettes into which bulk 35mm film is spooled are manufactured for the Company by foreign sources. Although the Company believes that several alternate sources are available, the prices at which cassettes would be available from these alternate sources may not be as favorable as those charged by the Company's current suppliers. Should the Company's current suppliers not be able to deliver sufficient quantities of cassettes, the Company's business could be adversely affected. Photographic chemicals and paper used for processing and finishing 35mm film are available from a number of different suppliers.

The Company's Photo Home Study cassette tapes are duplicated by various outside service companies, and all text materials are produced through several printing suppliers. Alternate sources are readily available for all of the Photo Home Study materials at competitive prices.

4 Sales of the Company's consumer products and services are largely dependent on the United States Postal Service for receipt of orders and delivery of processed film or other products. Any significant changes in the operations or rates of the Postal Service or extended interruptions in postal deliveries could have an adverse effect on the Company's operations.

Disposition of Media and Publishing Segments

Prior to fiscal 1988, the Company reported its business operations as three separate business areas or segments. These segments were photofinishing (described under Photofinishing Services and Related Products), media services, and publishing. In fiscal 1987, the Company made a decision to dispose of the media services and the majority of the publishing segments.

On August 3, 1988, the Company entered into a Stock Exchange Agreement with the Company's wholly owned subsidiary, American Passage Media Corporation ("Media") and former shareholders pursuant to which the Company transferred all assets and liabilities of the Company, not related to the Company's Photofinishing operation or Photo Home Study products, the name "American Passage" and working capital of $1,000,000 to Media. The former shareholders delivered an aggregate of 750,000 shares of the Company's Common Stock in exchange for 100% of the stock of Media. Also on August 3, 1988, the Company purchased 1,098,160 shares of the Company's Common Stock from certain shareholders for an aggregate purchase price of $4,392,640. Under the terms of the purchase, the certain shareholders received an aggregate of $1,000,000 cash and subordinated promissory notes aggregating $3,392,640. These subordinated promissory notes were repaid in full during fiscal 1989 and fiscal 1990. See "Liquidity and Capital Resources" under Item 7 below.

Employees

At November 30, 1991, the Company had 290 full-time employees, of whom approximately 251 were engaged in production operations and 39 in marketing, general and administrative functions. The Company's employees are not covered by a collective bargaining agreement, and the Company believes its relations with its employees are good.

Government Regulation and Other Factors

The Company's direct mail operations are subject to regulation by the United States Postal Service, the Federal Trade Commission and various state, local and private consumer protection and other regulatory authorities. In general, these regulations govern the manner in which orders may be solicited, the form and content of advertisements, information which must be provided to prospective customers, the time within which orders must be filled, obligations to customers if orders are not shipped within a specified period of time and the time within which refunds must be paid if the ordered merchandise is unavailable or if it is returned. From time to time the Company has modified its methods of doing business and marketing operations in response to inquiries and requests from regulatory authorities. To date, such changes have not had an adverse effect on the Company's business. However, there can be no assurance that future regulatory requirements or actions will not require changes which could have an adverse effect on the Company's marketing programs or operations.

The Company's photofinishing operations involve the use of several chemicals which are subject to handling and disposal regulations imposed by the Environmental Protection Agency and various other slale and local regulatory authorities. The Company does not anticipate that it will expend material amounts during fiscal 1992 for additional chemical treatment facilities to handle and dispose of regulated waste chemicals.

5 Directors and Executive Officers of the Registrant

The principal executive officers and directors of the Company, as of November 30, 1991 were:

Name Age Position

Gary R. Christophersen 45 President, CEO and Director Sam Rubinstein 74 Director Douglas A. Swerland 46 Director Craig E. Tall 45 Director Peter H. van Oppen 39 Director Michael F. Lass 37 Vice President-Operations James H. Smith 41 Vice President-Finance and Treasurer Bruce A. Ericson 42 Vice-President-Marketing

All directors are elected annually and hold office until the next annual meeting of the shareholders of the Company and until their successors are elected and qualified. Officers serve at the discretion of the Board of Directors.

Mr. Gary R. Christophersen, the Company's President and Chief Executive Officer, joined the Company in January 1982 as Vice President-Operations and has served as a Director of the Company since 1982. In May 1983, Mr. Christophersen became a Senior Vice President of the Company and General Manager of Seattle FilmWorks. In August 1988, Mr. Christophersen became the President and Chief Executive Officer of the Company.

Mr. Sam Rubinstein became a Director of the Company in March 1986. From June 1985 until May 1988 he was the Chairman of the Board and Chief Executive Officer of Farwest Fisheries, Inc., a seafood processing and marketing firm. From 1974 until December 1987, Mr. Rubinstein was the Chairman of the Board and Chief Executive Officer of Bonanza Stores, Inc., an operator of variety and drug stores. From February 1984 to January 1986 Mr. Rubinstein was the Chairman of the Board and Chief Executive Officer of Whitney-Fidalgo Seafoods, Inc., another seafood processor.

Mr. Douglas A. Swerland became a Director of the Company in October 1988. Since 1978, Mr Swerland has been the President of Jay Jacobs, Inc., which operates a chain of over 292 specialty retail apparel stores in the West with its headquarters located in Seattle, Washington. Mr. Swerland has been employed with Jay Jacobs, Inc., in various capacities since 1969.

Mr. Craig E. Tall became a Director of the Company in October 1988. Since April, 1987, Mr. Tall has been an Executive Vice President of Washington Mutual Savings Bank. In addition, from April 1985 through the present, Mr. Tall has served as Executive Vice President of WM Financial, a financial services holding company, owned by Washington Mutual Savings Bank. During 1984, Mr. Tall was the President of Shulman and Tall, a securities brokerage firm.

Mr. Peter H. van Oppen became a Director of the Company in October 1988. Since September 1989, Mr. van Oppen has been President and Chief Executive Officer of Interpoint Corporation, a manufacturer of proprietary and custom electronic components, located in Redmond, Washington. Mr. van Oppen was President and Chief Operating Officer of Interpoint Corporation, from March 1987 until September 1989. From 1985 until March 1987, Mr. van Oppen served as Executive Vice President for Finance and Operations of Interpoint Corporation. Mr. van Oppen has been a Director of Interpoint Corporation since 1984. From 1984 to 1985, he was Senior Vice President and Chief Operating Officer of Seattle Silicon Technology, Inc., a computer aided engineering company.

6 Mr. Michael F. Lass has been Vice President-Operations since August 1988. Mr. Lass joined the Company in 1984 as Manager of Operations. From 1982 to 1984, Mr. Lass was Vice President and General Manager of Breezin Sportswear. From 1980 to 1982, Mr. Lass was General Manager and a Director of Mountain Safety Research, Inc., a manufacturer of outdoor recreational products.

Mr. James H. Smith, Vice President-Finance and Treasurer, joined the Company in October 1988. From 1981 to 1988, Mr. Smith was Vice President, Secretary and a Director of THAW Corporation, a manufacturer of recreational products; and Treasurer, Secretary and a Director of Mountain Safety Research, Inc., a manufacturer of outdoor recreational products.

Mr. Bruce A. Ericson, has been Vice President-Marketing since November 1989. Mr. Ericson joined the Company in May 1984 as Director of Publishing. From January 1988 until October 1989, Mr. Ericson served the Company as Director of Marketing.

ITEM 2 - PROPERTIES

The Company's headquarters are currently situated in a 48,000 square foot building located in Seattle, Washington. This facility also currently houses the Company's photofinishing and mail order operations. This building is occupied under a lease which expires in September 1995. Monthly base rent under this lease is $16,053, subject to a consumer price index adjustment in March 1993. In April 1989, the Company obtained an option to extend the lease term an additional five years with the monthly rental subject to a consumer price index adjustment at the beginning of the option period.

The Company also occupies a 22,000 square foot building utilized as a warehouse storage facility for excess inventory and photofinishing supplies. This building, located in Seattle, Washington, is occupied under a lease which expires in August, 1995. The company has an option to extend the lease for an additional five years with the monthly rental subject to a consumer price index adjustment at the beginning of the option period. Currently the monthly base rent for the warehouse building is $6,480.

The Company believes that the corporate headquarters and warehouse facilities will be adequate to support existing and anticipated levels of business for at least the next 12 months.

ITEM 3 - LEGAL PROCEEDINGS

None.

ITEM 4 - SUBMISSION OF MATIERS TO A VOTE OF SECURITY HOLDERS

No matters were submitted to a vote of shareholders during the fourth quarter of the Company's fiscal year.

7 ITEM 5 - MARKET PRICES AND DIVIDENDS ON COMMON STOCK

The Company's common stock is traded on the over-the-counter NASDAQ National Market System, under the NASDAQ symbol FOTO. The following table sets forth the range of the high and low closing bid quotations for the Company's Common Stock from October 1, 1989 through November 30, 199] as reported by NASDAQ.

Period High Bid Price Low Bid Price

October 1 - December 31, 1989 61/4 51/2

January 1 - March 31, 1990 71/4 57/8

April 1 - June 30, 1990 9 57/8

July 1 - September 30, 1990 91/8 61/8

October 1 - November 30,1990 71/4 53/4

January 1 - March 31, 1991 113/8 73/4

April 1 - June 30, 1991 19 11

July 1 - September 30, 1991 151/4 13 1/4

October 1 - November 30, 1991 153/4 ]4

At November 30, 1991, the Common Stock of the Company was held by an estimated 1,300 shareholders with approximately 90 holders of record.

The present policy of the Company is to retain earnings to provide funds for the operation and expansion of its business. The Company has not paid cash dividends to date and does not anticipate that it will pay any cash dividends in the foreseeable future. The Company is restricted under the covenants of a bank loan agreement from declaring any dividends on shares of its capital stock without the bank's prior consent.

ITEM 6 - SELECTED FINANCIAL DATA

The selected financial data set forth below with respect to the Company's statements of income for the years ended September 28, 1991, September 29, 1990 and September 30, 1989 and the Company's balance sheets at September 28, 1991, September 29, 1990 are derived from the audited financial statements included elsewhere in this report and should be read in conjunction with those financial statements and their related footnotes. The selected income statement data for the years ended September 24, 1988 and September 26, 1987 and selected balance sheet data at September 30, 1989, September 24, 1988 and September 26, 1987 are derived from audited consolidated financial statements which are not included in this report.

8 SEATILE FILMWORKS, INC. SELECTED FINANCIAL DATA (In thousands, except share information)

Fiscal Years

Income Statement Data: 1991 1990 1989 1988 1987

Net revenues $36,645 $32,674 $30,682 $28,214 $29,934

Gross profit 15,083 14,152 13,156 11,105 12,561

Operating expenses 11,666 10,919 10,007 8,739 8,229

Net income (loss) $2.373 $2,095 $1,957 $(1,050) $ 1,840

Earnings (loss) per share $1.32 $1.09 $1.00 ~ $ .49

Weighted average shares outstanding 1,804,562 1,930,769 1,953,516 3,284,730 3,738,963

Balance Sheet Data:

Working capital $4,129 $2,061 $2,753 $ 2,144 $ 4,880

Capitalized customer acquisition expenditures 3,283 3,390 3,235 3,255 2,968

Total assets 11,474 9,925 11,573 1],050 17,612

Long-term obligations and subordinated notes payable net of current portion 0 0 2,375 4,990 2,384

Shareholders' equity $6,541 $4,120 $3.303 $1,4~ $ 8,585

See notes to financial statements,

9 ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Results of Operations

The Company's net revenue increased 12.2% from $32,674,000 in fiscal 1990 to $36,645,000 in fiscal 1991. Net revenues in fiscal 1990 increased 6.5% to $32,674,000 from $30,682,000 in fiscal 1989. The increases were primarily due to greater investment in customer acquisition and other selling activities during the last half of fiscal 1989 throughout fiscal 1990 and 1991 which increased the number of new customers and photofinishing orders processed in fiscal 1990 and 1991. In addition, increased distribution of rolled film and photo related products on a wholesale basis during fiscal 1991 favorably impacted net revenues.

The Company experienced an increase in revenues from its photofinishing operations in each year since inception except for fiscal 1988. The Company believes that this growth is attributable principally to its direct marketing programs, including its customer acquisition technique of offering two rolls of film for a $2.00 shipping charge (the "Introductory Offer"). The Introductory Offer has been nationally advertised in package inserts, newspaper supplements, magazines and through various other direct response media. Respondents to the Introductory Offer receive two rolls of 35mm film and postage paid mailers for returning the film to the Company for processing. The volume of business provided by each new customer generated by the Introductory Offer has been relatively stable during the last three years.

The direct costs of the Introductory Offer including cost of film and printed materials, but excluding advertising costs, are deferred and amortized over a period of three years as part of customer acquisition costs. These expenditures have been capitalized as assets on the Company's balance sheet, with the portion of such expenditures to be amortized within one year reflected as a current asset. The Company establishes a rate of amortization based on historical customer response rates and periodically revises the rate of amortization, if appropriate, based on actual customer processing volumes. During fiscal 1991, 1990 and 1989 the difference between the expenditures relating to the introductory offer which were deferred and the amortization expense of previously deferred customer acquisition costs was less than 5% in each fiscal year. Therefore, if the Company's accounting treatment were to expense rather than capitalize these expenditures, earnings during each of these three years would be within 5% of earnings as currently reported. For tax purposes these customer acquisition expenditures are expensed as incurred, thereby having the effect of substantially reducing current federal income tax liabilities.

Gross profit as a percent of net revenue for fiscal 1991, 1990 and 1989 was 41.2%, 43.3% and 42.9%, respectively. The decrease in gross profit as a percent of net revenue in fiscal 1991 was primarily a result of increased sales of products which had relatively lower gross margins. Specifically, sales of rolled film, which have a significantly lower gross margin than photofinishing services, increased in fiscal 1991. In addition, postage costs increased as a result of a postage rate increase by the United States Postal Service. The increase in gross margin in fiscal 1990 was due primarily to greater net revenues with only a slight increase in fixed costs and direct cost components. It is anticipated that the gross margin percent should remain relatively stable during 1992 at approximately the same percentage of net revenues as experienced in fiscal 1991. However, the gross margin percent is dependent upon the mix of products sold during the fiscal year. Internal work flow improvements are expected to offset inflationary pressure on supply costs.

Total operating expenses as a percent of net revenue for fiscal 1991, 1990, and 1989 were 31.8%, 33.4%, and 32.6%, respectively. Although each component of operating expenses increased in fiscal 1991 compared to fiscal 1990, total operating expenses decreased in fiscal 1991 as a percent of net revenue primarily due to an increase in net revenue which was greater than the planned increase in operating expenses. The growth in operating expenses in fiscal 1990 was primarily due to a planned increase in other selling expenses as a percent of net revenues. Customer acquisition expenses consist of costs incurred to acquire new customers which are primarily advertising for the Introductory Offer and amortization of

10 capitalized customer acquIsItion expenditures. Other selling expenses are primarily general marketing expenses, advertising to existing customers and testing of new marketing strategies. Each year the Company prepares detailed plans for its various marketing activities including the mix between customer acquisition expenditures and other selling expenses. However, the Company occasionally changes the mix between periods in order to take advantage of unique or cost effective marketing opportunities as they become available. Customer acquisition expenses decreased in fiscal 1991 to 19.8% of net revenue compared to 21.3% in 1990 and 23.1% in 1989. In fiscal 1991, the customer acquisition expenses decreased as a percent of net revenue primarily due to an increase in net revenue which was greater than the increase in customer acquisition expenses. Actual customer acquisition expenditures in fiscal 1991 were in accordance with plan. Customer acquisition expenses in fiscal 1990 were decreased by a planned shift of expenditures to other selling expenses. Other selling expenses increased to 6.5% of net revenue compared to 6% in fiscal 1990 and 3.2% in fiscal 1989. The increases in fiscal 1991 and 1990 were primarily due to an increase of expenditures to selling activities promoting the sale of rolled film and other photographic related products.

General and administrative expense increased slightly to $2,005,000 in fiscal 1991 compared to $1,990,000 in 1990 and $1,936,000 in fiscal 1989. The minor increases in fiscal 1991 and 1990 are indicative of the effectiveness of expense control procedures initiated in fiscal 1989.

Total other income in fiscal 1991 was $24,000 compared to $24,000 of total other expense in fiscal 1990 and $127,000 of total other expense in fiscal 1989. Total other expense decreased in fiscal 1991 and 1990 primarily due to lower interest expense resulting from repayment of subordinated notes payable and long-term obligations during fiscal 1990 and 1989. The fiscal 1989 other expense was favorably impacted by a $400,000 gain from the settlement of a lawsuit (see Note H to the financial statements).

Net income increased to $1.32 per share in fiscal 1991 compared to $1.09 per share in fiscal 1990 and $1.00 per share in fiscal 1989. The increases resulted primarily from higher nel revenue, increased income from operations, and lower interest expense. The 1991 and 1990 earnings per share were also impacted by the repurchase of approximately 191,000 shares of common stock during the fourth quarter of fiscal 1990.

Liquidity and Capital Resources

As of November 30, 1991, the Company's principal sources of liquidity included $3,087,000 in cash and short term investments together with an unused operating line of credit of $4,700,000, which were essentially unchanged from the end of the 1991 fiscal year. The ratio of current assets to current liabilities for the Company was 2.1 to 1 at the end of fiscal 1991, which reflects an increase from the fiscal 1990 current ratio of 1.5 to 1. The ratio of current assets to current liabilities of 1.5 to 1 at the end of fiscal 1990 was a slight decrease from the fiscal 1989 current ratio of 1.6 to 1, primarily due to increased spending for marketing programs during the last quarter of fiscal 1990. The Company has financed its business principally through cash generated by operations and borrowings.

Capital expenditures during fiscal 1991 totaled $1,118,000 including equipment for new photofinishing services and a new computer system. In fiscal 1990, the Company made capital expenditures of $182,000 relating to photofinishing equipment and leasehold improvements. The Company currently has plans to acquire additional photofinishing and computer equipment in fiscal 1992 which will aggregate approximately $1,000,000.

11 During fiscal 1989, the Company borrowed $1,900,000 from a commercial bank (the "term loan") to repay the Company's other bank indebtedness and to retire the Series A Subordinated notes aggregating $1,000,000 which bore interest at a commercial bank's prime lending rate plus 5%. During the fourth quarter of fiscal 1989 the Company made additional payments against the term loan such that the principal balance outstanding at the end of fiscal 1989 was $415,000. During fiscal 1990 the Company paid off the remaining outstanding balance of the term loan.

During fiscal 1990, the Company repaid in full the Series B Subordinated Notes which were issued in fiscal 1988 in an amount aggregating $2,393,000. The Series B Subordinated Notes bore interest at a commercial bank's prime lending rate plus 1/2%. The Company used available cash generated by operations to repay the notes.

The Company currently anticipates that existing funds together with anticipated cash flow from operations and available line of credit of $4,700,000 will be sufficient to finance its operations, including planned capital expenditures, and to service its indebtedness for the foreseeable future. However, if the Company does not generate sufficient cash from operations to satisfy its ongoing expenses, the Company will be required to seek external sources of financing. Possible sources of financing include the sale of equity securities or additional bank borrowings. There can be no assurance that the Company will be able to obtain adequate financing in the future. Additional financing may be unavailable or available only on terms unattractive or unacceptable to the Company.

Inflation

The results of the Company's operations have not been significantly affected by inflation during any of the last three fiscal years except as noted above in the discussion of gross profit. Although the Company has incurred moderately increased costs for labor, materials and overhead, it has been able to somewhat offset the impact of such increases through enhanced operating efficiencies.

ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

See pages 13 through 27.

12 REPORT OF ERNST & YOUNG,

INDEPENDENT AUDITORS

Shareholders and Board of Directors SEATTLE FILMWORKS, INC.

We have audited the fmancial statements of SEATTLE FILMWORKS, INC. listed in the accompanying index to the financial statements (Item 14(a)). These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements listed in the accompanying index to the financial statements (Item 14(a)) present fairly, in all material respects, the financial position of SEATTLE FILMWORKS, INC. at September 28, 1991 and September 29, 1990, and the results of its operations and its cash flows for each of the three years in the period ended September 28, 1991, in conformity with generally accepted accounting principles.

Seattle, Washington November 8,1991

13 SEATTLE FILMWORKS, INC. BALANCE SHEETS (in thousands)

September 28, September 29, ASSETS 1991 1990

CURRENT ASSETS Cash and short-term investments $3,103 $1,034 Accounts receivable, net of allowance for doubtful accounts of $224 and $214 in 1991 and 1990, respectively 367 165 Inventories (Note B) 1,957 2,644 Capitalized promotional expenditures 406 607 Capitalized customer acquisition expenditures, amortizable in one year 2,182 2,294 Prepaid expenses and other 242 ----.lli

TOTAL CURRENT ASSETS 8,257 6,955

FURNITURE, FIXTURES, AND EQUIPMENT, at cost, less accumulated depreciation (Note C) 2,097 1,859

CAPITALIZED CUSTOMER ACQUISITION EXPENDITURES, net of portion amortizable in one year 1,101 1,096

DEPOSITS AND OTHER ASSETS __1_5

TOTAL ASSETS $11,474

14 SEATILE FILMWORKS, INC. BALANCE SHEETS (continued) (in thousands, except share information)

September 28, September 29, LIABILITIES AND SHAREHOLDERS' EQUITY 1991 1990

CURRENT LIABILITIES Accounts payable $1,871 $ 2,068 Accrued expenses (Note D) 1,143 1,158 Deferred income taxes 563 524 Current portion of capital lease obligations 394 Income taxes payable -----.lli ~

TOTAL CURRENT LIABILITIES 4,128 4,894

DEFERRED INCOME TAXES ~ • 911

TOTAL LIABIUTIES 4,933 5,R05

SHAREHOLDERS' EQUITY (Note G) Preferred Stock, $.01 par value, authorized 2,000,000 shares, none issued Common Stock, $.01 par value, authorized 10,000,000 shares, issued and outstanding 1,635,363 and 1,606,092 in 1991 and 1990, respectively 17 16 Additional paid-in capital 47 Retained earnings 6,477 4,104

TOTAL SHAREHOLDERS' EQUITY 6,541 4,120

TQTAL LIABILITIES AND SHAREHOLDERS' EQUITY $11,474 $9,925

See notes to financial statements.

15 SEATILE FILMWORKS, INC. STATEMENTS OF INCOME (in thousands, except share information)

Fiscal Years Ended September 28, September 29, September 30, 1991 1990 1989

Net revenues $36,645 $32,674 $30,682

Cost of goods and services 21,562 18,522 17,526

GROSS PROFIT 15,083 14,152 13,156

Operating expenses: Customer acquisition costs 7,268 6,972 7,079 Other selling expenses 2,393 1,957 992 General and administrative 2,005 1,990 1,936 Total operating expenses 11,666 10,919 10,007

INCOME FROM OPERATIONS 3,417 3,233 3,149

Other income (expense): Interest expense (34) (202) (685) Interest income 44 93 146 Nonoperating income, net 14 85 12 Settlement of lawsuit (Note H) 400 Total other income (expense) ---.11 (24) (127)

INCOME BEFORE INCOME TAXES 3,441 3,209 3,022

Provision for income taxes (Note F) 1,068 1,114 ~

NET INCOME $2,373 $ 2,095 $ 1,957

EARNINGS PER SHARE $ 1.32 $ 1.09 $ 1.00

WEIGHTED AVERAGE SHARES AND EQUIVALENTS OUTSTANDING 1,804,562 1,930,769 1,953,516

See notes to financial statements.

16 SEATTLE FILMWORKS, INC. STATEMENTS OF SHAREHOLDERS' EQUITY (in thousands, except share information)

Common Stock Shares Par Paid In Retained Outstanding Value Capital Earnings Total

BALANCE AS OF SEPTEMBER 24, 1988 1,783,137 $18 $ 39 $1,427 $1,484

Stock options exercised 79,165 1 12 13 Income tax benefit of stock options 88 88 Purchase and retirement of Common Stock (68,340) (1) (139) (99) (239) Net income 1,957 1,957

BALANCE AS OF SEPTEMBER 30, 1989 1,793,962 $18 $ 0 $3,285 $3,303 ! F Stock options exercised 3,280 3 3 Income tax benefit of stock options 56 56 Purchase and retirement of Common Stock (191,150) (2) (59) (1,276) (1,337) Net income 2,095 2,095

BALANCE AS OF SEPTEMBER 29, 1990 1,606,092 $16 $ 0 $4,104 $4,120

Stock options exercised 29,271 1 13 14 Income tax benefit of stock options 34 34 Net income 2,373 2,373

BALANCE AS OF SEPTEMBER 28, 1991 1,635,363 .ill $ 47 $6,477 $6,541

See notes to financial statements.

17 SEATILE FILMWORKS, INC. STATEMENTS OF CASH FLOW (in thousands)

Fiscal Years Ended September 28, September 29, September 30, OPERATING ACTIVITIES: 1991 1990 1989

Net income $2,373 $2,095 $1,957 Charges to income not affecting cash: Depreciation and amortization 821 1,072 1,164 Amortization of capitalized customer acquisition expenditures 3,467 3,132 3,191 Deferred income taxes (67) (85) 686 Net change in receivables, inventories, payables, and other 77 942 (55) Capitalized promotional expenditures, net 202 (479) 304 Loss on disposal of equipment 9 28 Additions to capitalized customer acquisition expenditures (3.361) (3,287) (3,171)

NET CASH FROM OPERATING ACTIVITIES 3,521 3,390 4,104

INVESTING ACTIVITIES: Purchase of furniture, fixtures, and equipment (1,118) (182) (468) Proceeds from sale of equipment ~ __1 ~

NET CASH USED IN INVESTING ACTIVITIES (1,072) (181) (386)

FINANCING ACTIVITIES: Proceeds from issuance of long-term obligations 1,900 Principal payments on capital leases (394) (702) (585) Payments on long-term debt and subordinated notes payable (2,807) (3,485) Proceeds from issuance of Common Stock 14 3 n Payment on purchase of Common Stock (1,337) (239)

NET CASH USED IN FINANCING ACTIVITIES (380) (4,843) (2,396)

INCREASE (DECREASE) IN CASH AND SHORT-TERM INVESTMENTS 2,069 (1,634) 1,322

Cash and short-term investments at beginning of period 1,034 2,668 1,346

CASH AND SHORT-TERM INVESTMENTS AT END OF PERIOD $3.103 $1,034 $2,668

See notes to financial statements.

18 SEATTLE FILMWORKS, INC. NOTES TO FINANCIAL STATEMENTS

NOTE A -- OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

SEATTLE FILMWORKS, INC. (the "Company") principally markets 35mm photographic film, photofinishing services and related photographic products on a direct-to-consumer mail order basis under the brand name of Seattle FilmWorks.

INVENTORIES: Inventories are stated at the lower of cost (determined using the first -in, first-out method) or market.

CAPITALIZED PROMOTIONAL EXPENDITURES: The Company's promotional programs run for periods of one to six months. Promotional expenditures primarily consist of advertising and media costs related to generating consumer interest in the Company's photofinishing services. In order to match the costs of these programs with the benefits received, the Company defers these costs as capitalized promotional expenditures and amortizes them over the term of the promotion.

DEPRECIATION: Depreciation is provided using the straight-line and accelerated methods based on estimated useful asset lives ranging from three to seven years. Expenditures for major remodeling and improvements are capitalized as leasehold improvements. Leasehold improvements are amortized over the shorter of the life of the lease (including option period) or the life of the asset.

LEASES: Leases that meet the criteria for capitalization are classified as capital leases. The resulting assets and liabilities are recorded at amounts equal to the lesser of the present value of the minimum lease payments or the fair value of the leased properties at the beginning of the respective lease terms. Such assets are amortized evenly over the related lease terms or their economic lives, whichever is less. Interest expense relating to the lease liabilities is recorded to effect constant rates of interest over the terms of the leases. Leases that do not meet such criteria are classified as operating leases and related rentals are charged to expense as incurred. During fiscal 1991, 1990, and 1989, interest paid on obligations was approximately $34,000, $134,000, and $319,000, respectively.

CAPITALIZED CUSTOMER ACQUISITION EXPENDITURES: The Company's method of obtaining film processing customers is to provide two rolls of film to a new customer for a minimal charge. The costs ·of obtaining these customers are capitalized (exclusive of promotional expenditures) and are amortized over succeeding periods on an accelerated basis. The rate of amortization is based on actual rolls received from customers during the initial three-year period. The pattern of customer responses, which has remained relatively consistent over the past eight years, has resulted in a cumulative average amortization rate of 55% by the end of 12 months, 84% by the end of 24 months and 100% by the end of 36 months.

Recent customer processing statistics are the principal factors used in estimating future processing. The Company classifies the portion of capitalized expenditures that is anticipated to be amortized during the ensuing fiscal year as a current asset. Based on the historical pattern of customer orders processed and the estimate of orders to be processed in the future, future amortization of capitalized customer acquisition expenditures as of September 28, 1991 will be $2,182,000, $907,000, and $194,000 in ]992, 1993 and 1994, respectively.

CASH AND SHORT-TERM INVESTMENTS: Cash and short-term investments include cash on hand and highly liquid short-term investments with a maturity of less than three months.

10 NOTE A -- OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)

INCOME TAXES: The provision for federal income taxes is computed on pre-tax income reported in the financial statements. Investment tax credits are recorded as a reduction of the provision for federal income taxes in the year realized.

The provision for income taxes differs from income taxes currently payable because certain items of income and expense are recognized in different periods for financial reporting purposes than they are for federal income tax purposes. Deferred income taxes have been recorded in recognition of these temporary differences.

EARNINGS PER SHARE: Earnings per share is based on weighted average number of shares and dilutive common stock equivalents outstanding during the fiscal year. Common stock equivalents consist of stock options.

NOTE B- INVENTORIES (in thousands) September 28, September 29, Inventories consist of the following: 1991 1990

Film and photofmishing supplies $1,909 $2,584 Other ~ -® $1,957 $2,644

NOTE C -- FURNITURE, FIXTURES, AND EQUIPMENT

Furniture, fixtures, and equipment consist of the following: (in thousands) September 28, September 29, 1991 1990

Furniture, fIXtures, and equipment $6,045 $3,643 Leasehold improvements 1,471 1,348 7,516 4,991 Less accumulated depreciation and amortization (5,419) (3,374) 2,097 1,617 Furniture and equipment under capital leases 1,972 Less accumulated amortization (1,730) -ill $1,859

NOTE D -- CREDIT AGREEMENTS AND ACCRUED EXPENSES

At September 28, 1991, the Company has a $4,700,000 line of credit, with interest at the lending bank's prime rate. Amounts borrowed on the line of credit are secured by receivables and inventories of the Company. There were no borrowings outstanding at the end of 1991 or 1990 under the line of credit.

Accrued expenses at the end of 1991 and 1990 included accrued compensation of $717,000 and $643,000, respectively.

20 NOTE E -- LEASES

At September 28, 1991, future minimum payments under noncancelable operating leases for the years 1992 through 1996 are $276,000, $277,000, $282,000, $271,000 and $195,000 respectively. All capital lease obligations were paid off in fiscal 1991.

Rental expense relating to operating leases for 1991, 1990, and 1989 was $251,000, $174,000, and $178,000, respectively.

NOTE F-- INCOME TAXES

The provision for income taxes is as follows:

(in thousands)

1991 1990 1989

Provisions (benefits) for income taxes Current $1,135 $1,199 $ 854 Deferred -ill) -ill) --1lJ $1,068 $1,114 $1,065

A reconciliation of the federal statutory tax rates to the effective tax rate is as follows:

1991 1990 1989

Statutory tax rate 34.0% 34.0% 34.0% Other, net ill) ----.:J 1.2 31.0% 34.7% 35.2%

Principal items comprising the deferred income tax provisions (benefits) are as follows:

1991 1990 1989

Customer acquisition expenditures $ 2 $116 $ (7) Promotional expenditures (1) 52 (58) Book over tax depreciation (103) (151) (188) Capital leases 116 203 176 Accrued expenses 63 (144) 286 Other items, net (144) ---DQ1) _2 ~) ~) $211

Taxes paid in 1991, 1990, and 1989 were $1,301,000, $890,000, and $235,000, respectively.

21 NOTE G -- STOCK OPTIONS

Pursuant to the Company's Stock Option Plans adopted in 1982 and 1987, options may be granted to purchase up to 522,500 shares of Common Stock at prices equal to the fair market value of the shares at the time the options are granted. Options are generally exercisable commencing five years after the date of employment and expiring ten years after the date of grant.

The following schedule summarizes the changes in stock options for fiscal years 1989, 1990, and 1991. Option Price Number of Shares Per Share

Outstanding at September 24, 1988 (105,255 shares exercisable) 114,510 $ .13 - $3.50 Granted during 1989 200,400 $2.13 - $5.50 Canceled during 1989 (3,300) $2.13 - $4.38 Exercised during 1989 (79,165) $ .14 - $1.75

Outstanding at September 30, 1989 (44,599 shares exercisable) 232,445 $ .13 - $5.50 Granted during 1990 12,900 $6.75 - $8.75 Canceled during 1990 (3,300) $2.13 - $2.13 Exercised during 1990 (3,280) $ .13 - $2.13

Outstanding at September 29, 1990 (104,942 shares exercisable) 238,765 $ .13 - $8.75 Granted during 1991 10,300 $9.38 -$17.00 Canceled during 1991 (1,914) $2.13 - $8.75 Exercised during 1991 (29,271) $ .13 - $6.75

Outstanding at September 28, 1991 (142,560 shares exercisable) 217,880 $ .26 -$17.00

NOTE H -- SETTLEMENT OF LAWSUIT

On December 4, 1987, the Company entered into an Agreement and Plan of Merger (the "Merger Agreement"), pursuant to which the Company was to have been merged with an affiliate of Citicorp Venture Capital, Ltd. ("Citicorp"). The transaction was not consummated, and negotiations ceased in July 1988. Also during 1988, the Company filed a lawsuit against Citicorp to recover expenses and other damages it incurred in connection with the terminated Merger Agreement, and later, Citicorp filed a lawsuit seeking to recover expenses and other damages. On February 22, 1989, the Company reached a settlement of all lawsuits with Citicorp. As a result of the settlement, the Company recognized a pre-tax gain of $400,000.

22 NOTE I -- SELECTED QUARTERLY FINANCIAL DATA (Unaudited)

The following table sets forth summary financial data for the Company by quarter for the fiscal years 1991 and 1990 (in thousands, except per share data). Quarters First Second Third Fourth Fiscal 1991 Net Revenue $8,073 $8,215 $9,667 $10,690 Gross Profit $3,430 $3,411 $3,924 $4,318 Net Income $283 $116 $633 $1,341 Earnings Per Share $.16 $.07 $.35 $.74

Fiscal 1990 Net Revenue $7,064 $7,032 $8,668 $9,910 Gross Profit $2,802 $2,790 $3,983 $4,577 Net Income $256 $124 $577 $1,138 Earnings Per Share $.13 $.06 $.30 $.60

The sum of quarterly earnings per share will not necessarily equal the earnings per share reported for the year since the weighted average shares outstanding used in the earnings per share computation changes throughout the year.

ITEM 9 -- CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

23 PART III

ITEM 10·· DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

See "Directors and Executive Officers of the Registrant" under Item 1 - Part 1 above.

ITEM 11, 12, AND 13

The information called for by Part III (Items 11, 12, and 13) is included in the Company's Proxy Statement relating to the Company's annual meeting of shareholders and is incorporated herein by reference. The information appears in the Proxy Statement under the captions "Remuneration of Executive Officers and Directors," "Voting Securities and Principal Holders," and "Certain Transactions." Such Proxy Statement will be filed within 120 days of the Company's last fiscal year-end, September 28, 1991.

PART IV

ITEM 14 -- EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM8-K a. Index to Financial Statements and Financial Statement Schedules

(1) Financial Statements

Report of Ernst & Young, Independent Auditors 13

Balance Sheets as of September 28, 1991 and September 29, 1990 14-]5

Statements of Income for the years ended September 28, 1991, September 29, 1990, and September 30, 1989 16

Statements of Shareholders' Equity for the years ended September 28, 1991, September 29, 1990, and September 30, 1989 17

Statements of Cash Flows for the years ended September 28, 1991, September 29, 1990, and September 30, 1989 18

Notes to Financial Statements 19-23

Supplemental Financial Statement Schedules. The following additional information should be read in conjunction with the Financial Statements of the Company included in Part II, Item 8.

(2) Schedules

VII - Valuation and Qualifying Accounts 26

x - Supplemental Income Statement Information 27

All other schedules have been omitted because the required information is included in the financial statements or the notes thereto, or is not applicable or required.

24 b. Reports on Form 8-K

None. c. Exhibits

A list of documents filed as exhibits to the Company's Annual Report on Form lO-K is available without charge upon written request to the Assistant Corporate Secretary at the address indicated on the inside back cover of this report.

25 SEATTLE FILMWORKS, INC.

SCHEDULE VIII

VALUATION AND QUALIFYING ACCOUNTS (in thousands)

Additions Balance at Charged to Charged to Balance Beginning Costs and Other at End Description of Year Expenses Accounts Deductions of Period

FOR THE YEAR ENDED SEPTEMBER 30, 1989

Allowance for doubtful accounts $155 $184 $0 $207 $132

FOR THE YEAR ENDED SEPTEMBER 29,1990

Allowance for doubtful accounts $132 $223 $0 $141 $214

FOR THE YEAR ENDED SEPTEMBER 28, 1991

Allowance for doubtful accounts $214 $244 $0 $234 $224

26 SEATTLE FILMWORKS, INC.

SCHEDULE X

SUPPLEMENTAL INCOME STATEMENT INFORMATION (in thousands)

Charged to Costs and Expenses

Fiscal Years Ended September 28, September 29, September 30, Item (1) 1991 1990 1989

Maintenance and repairs $318 $260 $392

Royalties $59 $44 $27

Advertising costs, not including amortization of capitalized customer acquisition expenditures $1,267 $1,095 $422

Taxes other than payroll and income taxes $342 $343 $277

(1) Other supplemental income statement information is disclosed elsewhere herein or is less than 1% of net revenues.

27 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.

SEATTLE FILMWORKS, INC. (REGISTRANT)

DATED: December 10, 1991 By: !lS!lGary R. Christophersen Gary R. Christophersen President and Chief Executive Officer (Principal Executive 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 indicated.

NAME TITLE DATE

By: !IS!lGary R. Christophersen President December 10, 1991 Gary R. Christophersen Chief Executive Officer Director (Principal Executive Officer)

By:!lS!lSam Rubinstein Director December 10, 1991 Sam Rubinstein

By: !IS!lDouglas A. Swerland Director December 10, 1991 Douglas A. Swerland

By:!lS!lCraig E. Tall Director December 10, 1991 Craig E. Tall

By: !IS!lPeter H. van Oppen Director December 10, ]991 Peter H. van Oppen

By: !IS!IJames H. Smith Vice President-Finance December 10, 1991 James H. Smith Chief Financial Officer (Principal Financial and Accounting Officer)

28 Board of Directors

Gary Christophersen Douglas Swerland President and Chief Executive Officer President, Seattle Film Works, Inc. Jay Jacobs, Inc. Sam Rubinstein Craig Tall Retired, Former Chairman and Chief Executive Vice President, Executive Officer, Farwest Fisheries Washington Mutual Savings Bank Peter van Oppen President and ChiefExecutive Officer, Interpoint Corporation

Stock Transfer Agent and Registrar First Interstate Bank, Ltd. Stock Market Information Seattle FilmWorks stock is traded on the NASDAQ National Market System. NASDAQ Trading Symbol: FOTO Additional copies of this annual report are available, without charge, by writing or calling: Mich Kele Earl Assistant Corporate Secretary Seattle FilmWorks, Inc. 1260 16th Ave. West Seattle, WA 98119 (206) 281-1390

Annual Meeting: February 19,1992,9 a.m., Wednesday The Westin Hotel Seattle, 1900 Fifth Avenue, Seattle, WA

Jonathon Webb Ellen Brown Yung-Shan Hsieh Steve Gourley Mary Boyle Daniel Whitten Bryan Konishi Loran Bond Michael O'Flaherty William Robertson Melvin Sita Linda Wood Wet Lab Data Entry Quality Controt Data Processing Maii Opening Data Processing Data Processing Accounting Maintenance Maintenance Splicing Accounting Executive Officers

Gary Christophersen J '--__------!!!!!I!!!I11!'!!!!!P", President and Chief Executive Officer::------Ili!!I!!III...... James H. Smith Michael Lass Vice President ofFinance Vice President ofOperations Chief Financial Officer and Treasurer

Mich Kele Earl Bruce A. Ericson Assistant Corporate Secretary Vice President ofMarketing Executive Assistant to the President Paul Cullen Corporate Secretary, Attorney at Law

Scott Wilson Lisa Wang Brian Bond Wanda Eyford Jane Thompson Barry Kircher Ann Luu Lawrence Sager Steven Demeter Marie Zervantian Ali Khairzada Marquita Farncom Lab Management Film Production Data Processing Splicing Purchasing Data Processing Data Entry Security Auditing Human Resources Reprints Incoming Income Per Share Net Revenues $1.50 $40,000 (In Thousands) ==

1.32 36,645

32,674

1.09 30,682 $1.00 $30,000 .86*

$0.50 '----L ---J...- .L....-_ $20,000 '------'- ---'-- .l...... -_ 1989 1990 1991 1989 1990 1991 Fiscal Year Fiscal Year * Income per share from operations excluding settlement of lawsuit

Shareholders I Equity Fiscal Year-End Stock Price $8000 (In Thousands) $16.00

14.25 6,541

$6000 $12.00

4,120

$4000 $8.00 3,303 6.375 5.625

$2000 '------1. --'- ....1....-_ $4.00 '------'------'------'--- 1989 1990 1991 1989 1990 1991 Fiscal Year Fiscal Year Last sale price on last day of each fiscal year.

Judy Hughes Gordon Bligh James Moyer John Fenton Steve Xayarath Rosario Anselmo James Perry Debra Steinle Arnetta Ballou John Ballou Loretta Fetty Michael Gray Incoming Duality Conlral Marketing Photo School Film Production Incoming Duality Control Incoming Incoming Reprints Auditing Marketing