DRUG EMPORIUM INC (Form: 10-K, Filing Date: 05/31/1996)

SECURITIES AND EXCHANGE COMMISSION

FORM 10-K Annual report pursuant to section 13 and 15(d)

Filing Date: 1996-05-31 | Period of Report: 1996-03-02 SEC Accession No. 0000950152-96-002724

(HTML Version on secdatabase.com)

FILER DRUG EMPORIUM INC Mailing Address Business Address 155 HIDDEN RAVINES DR 155 HIDDEN RAVINES DR CIK:832922| IRS No.: 311064888 | State of Incorp.:DE | Fiscal Year End: 0228 POWELL OH 43065 POWELL OH 43065 Type: 10-K | Act: 34 | File No.: 000-16998 | Film No.: 96575732 6145487080 SIC: 5912 Drug stores and proprietary stores

SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549

FORM 10-K

(MARK ONE)

[ x ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [FEE REQUIRED]

For the fiscal year ended March 2, 1996

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED]

For the transition period from ______to ______

Commission File Number 0-16998

DRUG EMPORIUM, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

DELAWARE 31-1064888 (STATE OF INCORPORATION) (IRS EMPLOYER IDENTIFICATION NO.)

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155 HIDDEN RAVINES DRIVE POWELL, OHIO 43065 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)

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SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:

NONE

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:

COMMON STOCK, $0.10 PAR VALUE (TITLE OF CLASS)

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject so such filing requirements for the past 90 days. Yes X No ___

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ]

At May 20, 1996, there were 13,184,085 shares of Drug Emporium common stock outstanding. The aggregate market value of shares of common stock held by non-affiliates of the Registrant as of May 20, 1996 was approximately $55,208,356, based on a closing price of $4.1875 per share on Nasdaq National Market on such date.

DOCUMENTS INCORPORATED BY REFERENCE

Part II, Items 6., 7. and 8., and Part IV, Item 14. incorporate by reference portions of the Drug Emporium, Inc. Annual Report to Stockholders for the year ended March 2, 1996. Part III, Items 10., 11., 12., and 13. incorporate by reference portions of the Drug Emporium, Inc. Proxy Statement for the 1996 Annual Meeting of Stockholders. With the exception of the information

Copyright © 2012 www.secdatabase.com. All Rights Reserved. Please Consider the Environment Before Printing This Document specifically incorporated by reference, the Drug Emporium, Inc. Annual Report to Stockholders for the year ended March 2, 1996 is not deemed filed as part of this report.

ITEM 1. BUSINESS ------

INTRODUCTION

In 1977, the first Drug Emporium store was opened in Columbus, Ohio. Today, the Company operates 136 company-owned stores, franchises 88 stores, and has license agreements with 2 stores, with combined revenues in excess of $1.3 billion. The accompanying financial statements include only amounts related to company-owned stores.

Drug Emporium is a category-dominant, value-added retailer selling health and beauty care, over-the-counter medication, prescription drugs, greeting cards, cosmetics and highly-consumable products at everyday low prices. Product lines include a vast array of health items, cosmetics, designer fragrances and seasonal lines. Pharmacy sales contributed 25%, 25% and 24% of total revenue for fiscal 1996, 1995 and 1994.

The Company's common stock trades on the Nasdaq National Market under the symbol DEMP. As of March 2, 1996, there were 13,184,085 shares outstanding. Drug Emporium's 7-3/4% convertible subordinated debentures, due October 1, 2014, are traded on the Nasdaq National Market under the symbol DEMPG.

In January 1993, the Company developed and began executing a plan to improve the operating results of the stores. As a result of these efforts the Company reported seven consecutive profitable quarters. The profitable results were achieved despite continued and consistent losses from the stores in the Washington, D.C. market. Because the stores in the Washington, D.C. market did not sufficiently respond to turnaround efforts and in order to free up capital for investment in better performing markets, the Company sold seven stores in the Washington, D.C. market and announced the closing of fourteen additional stores. The cost associated with disposing of these 21 stores resulted in a pretax charge of $11,850,000 recorded in November 1994. In the fourth quarter of Fiscal 1996, an additional pretax charge of $3,000,000 was taken to cover rent and related charges at several properties which have taken longer than expected to sublease.

Management's goal is to sublease or through other means remove all significant closed-store obligations by the end of Fiscal 1997. Since January 1993, the Company has closed 38 stores of which obligations continue at March 3, 1996 on eight stores. Of the remaining obligations, management intends to open two stores under a close-out format and continues to seek ways to relieve obligations on the remaining six stores.

Late in the third quarter the Company acquired 26 stores from F&M Distributors, Inc. ("F&M") in two separate transactions. The acquired stores were located in Milwaukee, Baltimore and Detroit, with Detroit representing a new market for the Company. Three of the stores were subsequently closed or merged with existing Drug Emporium operations. None of the closed stores carried any future lease obligations to the Company.

The Company reviewed all of the F&M stores for possible acquisition and selected these stores, approximately one-fourth of the available stores, based on historical sales results, an evaluation of competition and an analysis that showed that the acquisition would produce return-on-investment results stronger and more quickly than building new stores in these markets.

Since the F&M stores were acquired, management has installed new pharmacy, labor management and point-of-sale (POS) systems. The goals for Fiscal 1997 for the acquired stores include increasing pharmacy sales, re-introducing a discount image to the customers, improving labor productivity, bringing the inventory mix into balance and having the stores contribute to earnings.

Management believes that the acquired stores may put some pressure

Copyright © 2012 www.secdatabase.com. All Rights Reserved. Please Consider the Environment Before Printing This Document on earnings in the first two quarters as operational investments are made to position the stores for the future.

STORE OPERATIONS

Company stores range in size from 18,000 to 33,000 square feet, with a typical store having approximately 25,000 square feet, including retail selling space and storage space in the rear of each store.

Each store has a manager, one or two assistant managers, a head pharmacist, and approximately 8 to 12 additional full-time employees. The stores are grouped into six operational regions, each overseen by a regional vice president. The regional vice presidents' responsibilities include visiting all Company stores and assuring that Company standards for buying, merchandising, customer service and store appearance are maintained.

The Company's stores are located primarily in shopping centers on major commercial thoroughfares. The capital expenditures required to fixture and equip a store averages $200,000. Pre-opening expenses, including salaries and promotional expenses, average $50,000 per store, and each store requires approximately $1,000,000 in initial inventory.

The typical trade area for a Drug Emporium store encompasses 200,000 people in 75,000 households within a defined area, usually five miles. The customer profile: 80 percent middle-to-upper income women between the ages of 25 and 54 who shop on a two-and-a-half week cycle.

Drug Emporium stores accommodate 8,000 to 12,000 shoppers per week and provide an environment for shoppers seeking a pleasant and social shopping experience. Drug Emporium fills a unique tenant category in a shopping center's merchandising mix. Preferably placed adjacent to a supermarket chain store, Drug Emporium stores are well received by both hard and soft goods national retailers.

Most stores are open seven days and 80 hours a week. Each store has a similar layout, with the pharmacy located in the rear of the store. Company stores accept payment in cash, check or credit card and from third-party providers.

The table set forth below lists the 226 Drug Emporium stores by market as of March 2, 1996:

Subsequent to March 2, 1996, the Company acquired six stores in the Philadelphia market.

The Company considers various geographic and demographic factors, including population around the site, income level within that area, proximity to major shopping malls, traffic count, accessibility of site, proximity of competitors and available

parking spaces. Extensive market research is utilized through an outside market research firm which identifies, among other things, trade area, trade area potential, demographic factors, competitors and competitors' sales/strengths/weaknesses, and projects three-year anticipated sales volumes.

Company and, to a limited extent, franchisee pharmacy matters are supervised by the Director of Pharmacy who directs compliance with state and federal pharmacy regulations and training. The Company has implemented a computerized pharmacy system across its network of Company stores. Most franchisees have installed similar systems. The system simplifies the preparation of labels and maintenance of patient profiles.

Drug Emporium continues to have a strong franchise network consisting of 88 stores. In 1993, Drug Emporium, Inc. established a Franchise Advisory Board designed to provide a forum to investigate and discuss issues and concerns of the Company and its franchisees. One of the major accomplishments of the Franchise Advisory Board was the formation of a program called DESIRE, which stands for Drug Emporium Shares in Research and Education.

Under its franchise system, the Company permits franchisees to operate Drug Emporium stores in a specific geographic area based on ADIs (areas of dominant influence of television signals). Prospective franchisees must make a minimum equity investment of $1,000,000 per store and establish an acceptable line of credit in the amount of $500,000 per store. The Company assists franchisees in site selection, store layout, and establishing purchasing and advertising policies.

The Company selects its franchisees carefully and works closely with them to increase the likelihood of success for each franchisee. Prospective franchisees sign confidentiality agreements in addition to a non-compete clause contained within the executed franchise agreement. Upon execution of a franchise agreement, the franchisee must pay a nonrefundable $25,000 fee for the first store and a $10,000 commitment fee for each additional store designated for that market. The balance of the $25,000 store fee ($15,000) is payable upon the opening of each subsequent designated store in the market.

The current franchise agreement provides for franchise royalties at a minimum rate of $6,000 per store for the second year and $25,000 per year

Copyright © 2012 www.secdatabase.com. All Rights Reserved. Please Consider the Environment Before Printing This Document per store for stores open three years or more against the following percentage royalties: 1% on gross sales from $3.5 million to $6 million, 2% from $6 million to $8 million, 3% from $8 million to $10 million, and 1.25% on gross sales over $10 million.

In addition, each franchisee must pay .1% of gross sales to the Company to offset the cost of developing advertising. Each franchisee must also spend at least 1% of gross sales for advertising. The current franchise agreement permits the Company to require that .6% of the 1% advertising expenditure be contributed to a national advertising program if such program is established by the Company.

The Company may either open its own stores or allow other franchisees to open stores in a franchisee's territory outside a defined area for each existing store if the franchisee fails to comply with the development schedule agreed upon by the Company and the franchisee.

During fiscal 1996, the Company had one new franchise market open and two stores open under a license agreement.

The license agreement allows the Drug Emporium retail concept to be operated within a grocery store with the Drug Emporium portion of sales generating a royalty fee. During fiscal 1996, licensees were charged a flat royalty fee of 1.25% of sales.

ACQUISITION OF FRANCHISEES

The Company, from time to time, has acquired or sought to acquire certain of its franchise operations. The Company's decision to pursue the acquisition of a franchisee is based on the Company's evaluation of the growth opportunities in a particular market, the impact the acquisition would have on earnings per share and the quality of the franchisee's existing management. Since 1983, the Company has acquired franchisees located in Los Angeles, Washington, D.C., Atlanta, Cincinnati, Milwaukee, Minneapolis, St. Louis, Charleston, S.C., Indianapolis, Orlando, Baton Rouge, Louisville, and Oklahoma City. The Company plans to evaluate future opportunities to acquire appropriate franchisees from time to time and may use cash or securities to pay for such acquisitions.

MERCHANDISING AND MARKETING

The Company's merchandising goal is to provide customers with the widest available selection of health and beauty aids, cosmetics, prescription drugs and general merchandise at everyday low prices. The Company estimates that approximately 67% of a typical store's sales mix is health and beauty aids and general merchandise, 25% pharmacy items and 8% cosmetics.

The Company is continuing to aggressively oversee strategies designed to lower the total cost of acquiring merchandise in order to continue to be competitive with other national and regional chain discounters. The Company completed implementation of POS scanning during fiscal 1996. POS has provided information to better manage gross margins by electronically capturing transactions at the store level.

During fiscal 1996, the Company's primary pharmacy supplier, McKesson Drug, accounted for approximately 20% of the Company's purchases. No other single vendor accounted for more than 10% of the Company's purchases. The Company purchases from over 500 vendors, although the great majority of the business is conducted with approximately 100 vendors. The Company believes it is a significant customer for each of these 100 vendors.

The Company advertises through the use of television, radio, newspaper and direct mail. Point of sale advertising is also used. The Company's strategy of clustering stores within ADI markets is an important factor in maximizing the effect of its advertising expenditures. The Company works with an advertising agency that coordinates advertising for the entire chain. Benefits of centralization include efficiencies of buys with media, coordination of chain-wide promotional activities, and ability to negotiate better prices with vendors.

The Company believes that its commitment to customer service is an important ingredient of its success. The Company encourages its managers and other employees to be responsible to customers. The stores are designed to make products easily accessible. Store employees are trained to be friendly and helpful to customers. Each store has numerous cashiers to speed up and facilitate customer check-out.

COMPETITION

The sale of deep discount health and beauty aids, cosmetics and prescription drugs is highly competitive. The Company believes that the principal bases of competition in this market are price, product variety, service, site location and customer recognition. The Company also believes there exist only a few similar companies, the major one being Phar-Mor Inc. The Company's stores compete not only with those similar companies but with numerous other drug stores with national or regional images, and also with supermarkets, combination stores and discount stores. Many of the Company's supermarket, combination store and discount and retail drug store competitors have more outlets and substantially greater financial resources than the Company or have more convenient locations than Company stores. The Company believes that its prices are competitive and that it offers greater product variety and better service than its competitors. The Company also believes that the smaller size of its stores compared to the major discount competitors provides a better shopping experience and allows a better selection of sites in tight real estate markets that exist in some major cities. The Company's ability to expand successfully into new markets is especially sensitive to the competitive factors in those markets.

EMPLOYEES AND TRAINING

At March 2, 1996, the Company had a total of approximately 5,600 employees, both full-time and part-time, of which 160 were corporate staff personnel. None of the employees are covered by a collective bargaining agreement. The Company considers its relations with its employees to be good.

Drug Emporium believes that the training of store employees and franchisees is one of the most important elements of its business. The Company conducts training classes at its headquarters, and senior management works closely with regional and district managers in this regard.

REGULATION

The sale of franchises by the Company is subject to regulation by the Federal Trade Commission and various states in which it does, or may in the future do, business. Such regulations generally require the prior registration or an exemption from registration for the sale of franchises and delivery to prospective franchisees of a franchise disclosure document. No assurances can be given that any future changes in the existing laws or the promulgation of new laws will not adversely affect the Company.

The Company is also subject to the Fair Labor Standards Act, which governs such matters as minimum wages, overtime and other working conditions. A portion of the Company's personnel are paid at rates related to the federal minimum wage, and

accordingly, further increases in the minimum wage 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.

SERVICE MARKS

The Company has obtained federal registrations of the servicemark "Drug Emporium" and "Savings So Big You Need A Shopping Cart" for retail drug

Copyright © 2012 www.secdatabase.com. All Rights Reserved. Please Consider the Environment Before Printing This Document store services "Drug Emporium" for technical aid and assistance in the establishment and operation of retail drug stores and "Drug Emporium", plus design, for retail drug store services. Federal registration of the servicemarks "Food and Drug Emporium," "Drug Emporium RX," and "Drug Emporium Express" are currently pending.

The mark "Drug Emporium" has been registered in the states of Alabama, Arizona, Arkansas, California, Colorado, Florida, Georgia, Indiana, Kansas, Kentucky, Louisiana, Maryland, Minnesota, Missouri, Nebraska, Nevada, New Jersey, New Mexico, New York, North Carolina, Ohio, Oklahoma, Pennsylvania, South Carolina, Tennessee, Texas, Virginia, Washington, West Virginia and Wisconsin, as well as Mexico and Puerto Rico. The mark "Savings So Big You Need A Shopping Cart" has been filed and is pending in Canada and Mexico. The mark "Drug Emporium," plus design, and the shopping cart design have been filed in Mexico, Japan and France, and the shopping cart design is registered in Canada. The Company believes that these marks are of material importance to its business.

Federal registration of a mark does not create new substantive rights to use the mark or to assert rights based on ownership, but it does provide additional remedies for the protection of the mark.

EXECUTIVE OFFICERS OF THE COMPANY

The Company's executive officers are:

DAVID L. KRIEGEL ------

Since December 1992, Mr. Kriegel has been the Chairman and Chief Executive Officer of the Company. Mr. Kriegel is Chairman and Chief Executive Officer of Kriegel Holding Company, Inc., a privately-owned corporation dealing with consumer products, real estate and distribution. Until January 1993, Mr. Kriegel was Vice President of Cardinal Health and Marketing Group, a division of Cardinal Distribution, Inc., a publicly owned company. From September 1988 to December 1990, Mr. Kriegel was Corporate Vice President of Roundy's Inc., a cooperative food distributor. Mr. Kriegel is a director of Bank One, Lima, N.A.

ROBERT E. LYONS, III ------

Mr. Lyons assumed a new position with the Company in January 1993 as Senior Vice President with key marketing and merchandising responsibilities. From January 1990 to December 1992, Mr. Lyons was President and Chief Operating Officer of the Company. Mr. Lyons has been with the Company and/or associated with a franchise since 1983.

TIMOTHY S. McCORD ------

Copyright © 2012 www.secdatabase.com. All Rights Reserved. Please Consider the Environment Before Printing This Document Since June 1994, Mr. McCord, a Certified Public Accountant, has served as Chief Financial Officer. From June 1993 to June 1994, Mr. McCord was Controller of the Company. Previous to joining the Company, Mr. McCord was employed by Ernst & Young, LLP, the external auditors to the Company, for ten years.

JANE H. LAGUSCH ------

Mrs. Lagusch has been associated with the Company in various capacities since 1980 and she was appointed a Vice President of the Company January 30, 1993. Mrs. Lagusch has responsibility for corporate administrative functions.

KEITH E. ALESSI ------

Mr. Alessi is a member of the board of directors and Treasurer of the Company. He served as Chief Financial Officer from January to June of 1994. Since 1988, Mr. Alessi has been associated with Farm Fresh, Inc., a privately-held grocery chain, in various capacities, and currently as Vice Chairman and director. Mr. Alessi is also Chairman and Chief Executive Officer of Virginia Supermarkets, Inc. and is a director of New Cort Holding, Inc.

A. JOEL ARNOLD ------

Mr. Arnold was appointed to the office of Senior Vice President on June 15, 1995. He formerly held the position of Director of Merchandising and Operations in which he served for two years. A registered pharmacist, Mr. Arnold has 37 years' experience in the retail drug industry in positions ranging from store manager to senior vice president and general manager.

ITEM 2. PROPERTIES ------

Most of the Company's stores are occupied pursuant to long-term leases that vary as to rental provisions, expiration dates, renewal options, and rental amounts and payment provisions. The Company does not deem any individual stores lease to be significant in relation to its overall operations. For information as to the amount of the Company's rental obligations for retail store leases, see Note 5 of Notes to Consolidated Financial Statements.

The Company also owns a 20,000 square foot executive office building for its use as its principal office. The site includes five acres of property and is located in Powell, Ohio, just north of Columbus.

ITEM 3. LEGAL PROCEEDINGS ------

Nortex Drug Distributors, Inc v. Drug Emporium, Inc., Case No. C2-93-767, filed August 6, 1993 which is pending in the United States District Court, Southern District of Ohio, Eastern Division. The plaintiff is a franchisee of the Company. The plaintiff is seeking treble damages and a declaration that the noncompetition clause in the franchise agreements is unenforceable. The plantiff is charging breach of contract on the franchise agreement, Antitrust violations, conversion, fraud, interference with contract and deceptive trade practices. Plaintiff also seeks a declaration that the noncompete provision in the franchise agreement is unenforcable. No specific amount of damages is claimed. The Company is aggressively defending this suit.

Texas Drug Distributors Inc. v. Drug Emporium, Inc. was settled and dismissed with no material effect on the Company.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS ------

Not applicable.

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS ------

Copyright © 2012 www.secdatabase.com. All Rights Reserved. Please Consider the Environment Before Printing This Document The Company's common stock is traded on the Nasdaq National Market under the symbol DEMP. The following table sets forth, for the quarterly periods shown, the high and low sale price per share as reported on Nasdaq National Market:

The Company paid no dividends in fiscal 1996 or 1995.

The Company's bank credit agreement prohibits payment of dividends, stock repurchases and acquisition of the Company's convertible subordinated debt.

At April 29, 1996, the number of holders of record of the Company's common stock, without determination of the number of individual participants in security positions, was approximately 5,191.

ITEM 6. SELECTED FINANCIAL DATA ------

The information required by this Item 6 is incorporated by reference from page 10 of the Drug Emporium, Inc. Annual Report to Stockholders for the year ended March 2, 1996.

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

The information required by this Item 7 is incorporated by reference from pages 11 and 12 of the Drug Emporium, Inc. Annual Report to Stockholders for the year ended March 2, 1996.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA ------

The information required by this Item 8 is incorporated by reference from pages 13 through 22 of the Drug Emporium, Inc. Annual Report to Stockholders for the year ended March 2, 1996.

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

None.

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT ------

Certain of the information required by this Item 10 is set forth under Item 1. "Executive Officers of the Company."

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT ------

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS ------

* Reference is made to information under the captions "Election of Directors," "Executive Compensation," "Security Ownership of Certain Beneficial Owners and Management," and "Certain Relationships and Related Transactions," in the Company's Proxy Statement for the Annual Meeting of Stockholders to be held June 26, 1996. The Company mailed its definitive proxy statement to stockholders on or about May 20, 1996.

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K ------

(a)(1) Financial Statements ------

The following Consolidated Financial Statements of Drug Emporium, Inc. are incorporated by reference in Item 8 from the pages set forth below of the Drug Emporium, Inc. Annual Report to Stockholders for the year ended March 2, 1996.

(2) Financial Statement Schedules ------

Schedules for which provision is made in Regulation S-X are not required under the instructions contained therein, are inapplicable, or the information is included in the footnotes to the Consolidated Financial Statements.

(3) Exhibits List ------

3.3 Restated Certificate of Incorporation (Incorporated by reference to Exhibit 3.3 to the Company's S-1 Registration Statement No. 33-21755)

(10) Material Contracts ------

10.1 Drug Emporium, Inc. 1983 Incentive Stock Option Plan (incorporated by reference to Exhibit 10.2 to the Company's S-1 Registration Statement Registration No. 33-21755) **

10.2 Drug Emporium, Inc. 1984 Incentive Stock Option Plan (incorporated by reference to Exhibit 10.3 to the Company's S-1 Registration Statement Registration No. 33-21755) **

10.3 Drug Emporium, Inc. 1987 Incentive Stock Option Plan (incorporated by reference to Exhibit 10.4 to the Company's S-1 Registration Statement Registration No. 33-21755) **

10.4 Drug Emporium, Inc. 1990 Incentive Stock Option Plan (incorporated by reference to Exhibit 10.41 to the Company's Annual Report on Form 10-K for the fiscal year ended February 28, 1990) **

10.5 Drug Emporium, Inc. Non-Qualified Stock Option Plan (incorporated by reference to Exhibit 10.5 to the Company's S-1 Registration Statement Registration No. 33-21755) **

10.7 Form of License and Franchise Agreement (incorporated by reference to Exhibit 10.7 to the Company's S-1 Registration Statement Registration No. 33-21755)

10.8 Form of Option Agreement (incorporated by reference to

Exhibit 10.8 to the Company's S-1 Registration Statement Registration No. 33-21755)

10.10 Third Amended and Restated Revolving Credit and Team Loan Agreement dated as of November 13, 1995, between Drug Emporium, Inc. and Bank One, Columbus, N.A. (incorporated by reference to Exhibit 10.1 of the Company's Form 10-Q for the period ended November 25, 1995)

10.11 Employment contract dated March 11, 1993 between David L. Kriegel and Drug Emporium, Inc. (incorporated by reference to the Company's Annual Report on Form 10-K for the fiscal year ended February 27, 1993) **

10.12 Drug Emporium, Inc. 1993 Incentive Stock Option Plan (incorporated by reference to Exhibit 10.12 to the Company's Annual Report on Form 10-K for the fiscal year ended February 27, 1993) **

10.13 Drug Emporium, Inc. 1993 Non-Qualified Stock Option Plan (incorporated by reference to Exhibit 10.13 to the Company's Annual Report on Form 10-K for the fiscal year ended February 27, 1993) **

*(11) Statement re Computation of Per Share Earnings ------

11.1 Computation of Per Share Earnings is

Copyright © 2012 www.secdatabase.com. All Rights Reserved. Please Consider the Environment Before Printing This Document readily computable from information disclosed in the financial statements and therefore is not included as a separate exhibit.

*(13) Annual Report to Security Holders, Form 10Q or Quarterly Report to ------Security Holders ------

13.1 Annual Report to Stockholders for Fiscal Year Ended March 2, 1996 (limited to those portions incorporated herein)

*(22) Subsidiaries of Registrant ------22.1 The Company has the following wholly-owned subsidiaries:

*(24) Consent of Experts ------

24.1 Consent of Ernst & Young LLP

(27) Financial Data Schedule ------

27.1 Financial Data Schedule of the Company

*Included with this Annual Report on Form 10-K **Compensatory plans, contracts or agreements

(b) Reports on Form 8-K ------

No reports on Form 8-K were filed during the fourth quarter of fiscal 1996.

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.

DRUG EMPORIUM, INC. (Registrant)

Date: May 30, 1996 By: /s/ David L. Kriegel ------

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:

Date: May 30, 1996

/s/ Timothy S. McCord /s/ David L. Kriegel ------Timothy S. McCord David L. Kriegel Chief Financial Officer Chairman and Chief Executive Officer

/s/ Michael P. Leach /s/ John B. Gerlach ------Michael P. Leach John B. Gerlach Controller Director

/s/ Thomas D. Igoe ------Thomas D. Igoe Director

/s/ Robert S. Meeder, Sr. ------Robert S. Meeder, Sr. Director

/s/ William L. Sweet, Jr. ------William L. Sweet, Jr. Director

/s/ V. J. Wiechart, Sr. ------V. J. Wiechart, Sr. Director

FINANCIAL REVIEW

Contents

Selected Consolidated Financial Data 10 Management's Discussion and Analysis of Financial Condition and Results of Operations 11-12 Consolidated Balance Sheets 13 Consolidated Statements of Operations 14 Consolidated Statements of Shareholders' Equity 15 Consolidated Statements of Cash Flows 16 Notes to Consolidated Financial Statements 17-21 Report of Independent Auditors 22 Report of Management 23 Board of Directors and Company Management 24 Corporate Information 25

DRUG EMPORIUM, INC. AND SUBSIDIARIES 9

SELECTED CONSOLIDATED FINANCIAL DATA

The following table sets forth selected financial data and other operating information of the Company. The selected financial data is derived from the consolidated financial statements of the Company. The financial data should be read in conjunction with the consolidated financial statements and related notes contained elsewhere in this report and Management's Discussion and Analysis of Financial Condition and Results of Operations.

STATEMENT OF OPERATIONS DATA

10 DRUG EMPORIUM, INC. AND SUBSIDIARIES

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

RESULTS OF OPERATIONS The following table sets forth selected items from the Company's Consolidated Statement of Operations expressed as a percentage of net sales for the years indicated.

SALES Sales for Fiscal 1996 increased one percent over Fiscal 1995 while comparable-store sales were down one percent due to increased competition in most markets. Average sales per store, per week, for Fiscal 1996 (based on a weighted average number of stores) were up three percent over Fiscal 1995 as a result of the closing of underperforming stores late in Fiscal 1995 and the acquisition of higher-volume stores in Fiscal 1996. In Fiscal 1996, the additional one week of sales contributed $14.9 million to net sales. In Fiscal 1995, comparable-store sales increased one percent while overall sales decreased due to the closing of unprofitable stores in the third and fourth quarters, offset by increased sales from newer stores.

Pharmacy sales as a percentage of total sales were 25 percent in Fiscal 1996 and 1995 and 24 percent in Fiscal 1994. Management expects that pharmacy sales will continue to account for approximately one-fourth of sales in the coming year.

The following table lists stores opened or acquired and stores closed for the years indicated:

GROSS MARGIN Gross margin as a percentage of sales increased .6% in Fiscal 1996 over Fiscal 1995 and .3% in Fiscal 1995 over Fiscal 1994 amounts. The gross margin increases have resulted from an emphasis on improving margins through lower product costs, selectively strengthened product pricing, improved security through the use of electronic article surveillance systems, and better category management, partially offset by reductions in the retail price of the most competitive items.

For Fiscal 1997, management expects downward pressure on the pharmacy margins as sales through managed care networks continue to increase as a percentage of pharmacy sales. Management's goal is to offset this downward pressure on margins by utilizing scanning data to improve overall category gross margins where opportunities allow, while at the same time protecting the low price image of the stores.

SELLING, ADMINISTRATIVE AND OCCUPANCY Selling, administrative and occupancy expenses increased in Fiscal 1996 compared to Fiscal 1995 and Fiscal 1994 in total dollars and as a percentage of net sales as a result of the implementation and routine cost of scanning, increased credit card usage, and increased security costs. Management's goal is for these costs to decline modestly as a percentage of net sales by the end of Fiscal 1997.

INTEREST, NET Interest, net decreased during Fiscal 1996 and increased during Fiscal 1995. The decrease in Fiscal 1996 is due to lower borrowings during the first three quarters, partially offset by increased fourth quarter borrowings due to the stores acquired from F&M Distributors, Inc. The increase in Fiscal 1995 is primarily due to increases in interest rates during the year.

STORE CLOSURE In January 1993, the Company developed and began executing a plan to improve the operating results of the stores. As a result of these efforts the Company reported seven consecutive profitable quarters. The profitable results were achieved despite continued and consistent losses from the stores in the Washington, D.C. market. Because the stores in the Washington, D.C. market did not sufficiently respond to turnaround efforts and in order to free up capital for investment in better-performing markets, the Company sold seven stores in the Washington, D.C. market and announced the closing of fourteen additional stores. The cost associated with the 21 stores resulted in a pretax charge of $11,850,000 recorded in November 1994. In the fourth quarter of Fiscal 1996, an additional pretax charge of $3,000,000 was taken to cover rent and related charges at several properties which have taken longer than expected to sublease.

DRUG EMPORIUM, INC. AND SUBSIDIARIES 11

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)

F&M ACQUISITION DISCUSSION Late in the third quarter the Company acquired 26 stores from F&M Distributors, Inc. ("F&M") in two separate transactions. The acquired stores were located in Milwaukee, Baltimore and Detroit, with Detroit representing a new market for the Company. Three of the stores were subsequently closed or merged with existing Drug Emporium operations. None of the closed stores carried any future lease obligations to the Company.

Since being acquired, management has installed new pharmacy, labor management and point-of-sale systems. The goals for Fiscal 1997 include increasing pharmacy sales, re-introducing a discount image to the customers, improving labor productivity, bringing the inventory mix into balance and having the stores contribute to earnings.

Management believes that the acquired stores may put some pressure on earnings in the first two quarters as operational investments are made to position the stores for the future.

Copyright © 2012 www.secdatabase.com. All Rights Reserved. Please Consider the Environment Before Printing This Document INVENTORY VALUATION The Company uses the LIFO method of accounting for its inventories. Under this method, the cost of merchandise sold reported in the financial statements approximates current costs.

The Company, in computing its LIFO charges throughout the fiscal year, uses an estimated percentage rate of inflation determined at the beginning of the fiscal year. This LIFO charge is adjusted at each year end based upon the actual weighted average percentage rate of inflation during the fiscal year.

Inventory turnover approximated four turns for each of the years presented. Management's goal is to increase turns in the future by adjusting buying based on movement information provided through scanning and by seeking alternative distribution methods that will allow for reduced inventory of slower moving items.

LIQUIDITY AND CAPITAL RESOURCES As of March 2, 1996, the Company's credit facility consisted of a term loan of $15,000,000 and a revolving credit loan availability of up to $45,000,000. The revolver expires on February 28, 1999, while the term debt is due in quarterly installments of $750,000, beginning May 31, 1996.

During Fiscal 1996, the Company increased borrowings under the revolving credit facility by $21.5 million, as set forth in the consolidated statements of cash flows. This was a result of spending on acquisitions of approximately $41 million and increased inventory levels, partially offset by operational cash flows and capital made available from closed stores. Accrued liabilities, deferred income, and a portion of accounts payable at March 2, 1996 increased over the prior year primarily due to the acquisition of retail stores during the year.

Overall inventory levels increased in stores open at the beginning of the year due to heavier seasonal carryover and purchases made to support the advertising program. Management's goal is to reduce inventory levels in all stores while protecting the in-stock position by adjusting purchases based on a more comprehensive approach to category management utilizing scanning data to identify overstock positions, being more selective on advertising buys, and by seeking alternative distribution methods.

In Fiscal 1997, the Company will evaluate acquisitions of franchises and others giving adequate consideration to overall capital needs and estimated return on investment.

The Company's borrowing rate can fluctuate between the bank's prime rate and a LIBO-based rate, depending on the ability of the Company to meet certain financial covenants. The agreement requires a commitment fee on the revolver of .375% on the unused available credit and has no compensating balance requirements. Borrowings made pursuant to the agreement are secured by inventory and accounts receivable. The agreement prohibits the payment of dividends, stock repurchases and acquisition of the Company's convertible subordinated debentures.

Cash paid for interest on the revolving credit line and long-term debt approximated interest expense in Fiscal 1996, 1995 and 1994. The Company believes that internally generated funds and borrowings available under its agreement are sufficient to finance the Company's current operations.

DEFERRED TAX ASSET The Company's deferred tax asset at March 2, 1996 is primarily comprised of a net operating loss carryforward of $5,009,000. Management expects to generate taxable income through operations of at least this amount during the next few years. However, the Company has the ability to generate taxable income through tax planning strategies, if necessary, to utilize the net operating loss carryforward.

12 DRUG EMPORIUM, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

See accompanying notes.

DRUG EMPORIUM, INC. AND SUBSIDIARIES 13

CONSOLIDATED STATEMENTS OF OPERATIONS

See accompanying notes.

14 DRUG EMPORIUM, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY

See accompanying notes.

DRUG EMPORIUM, INC. AND SUBSIDIARIES 15

CONSOLIDATED STATEMENTS OF CASH FLOWS

See accompanying notes.

16 DRUG EMPORIUM, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Consolidation

The consolidated financial statements include the accounts of Drug Emporium, Inc. and subsidiaries (the Company). All significant intercompany accounts and transactions have been eliminated in consolidation.

Nature of Operations The Company is primarily in the business of operating and franchising retail stores specializing in the sale of health and beauty care products, over-the-counter medication, prescription drugs, greeting cards, cosmetics and highly-consumable products primarily in an everyday-low-price format. The stores operate under the name of Drug Emporium or F&M Super Drug Stores. As of year end, approximately eighty percent of the Company-owned stores were located in the states of California, Georgia, Michigan, Ohio and Pennsylvania.

Fiscal Year The fiscal year of the Company is the 52-53 week period ending on the Saturday closest to February 28 (29). Fiscal 1996 contained 53 weeks of activity. The quarter and fiscal year ends for 1996 and 1995 were as follows:

Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.

Cash and Cash Equivalents For purposes of reporting cash flows, cash and cash equivalents includes cash on hand and deposits at financial institutions with maturities of less than three months.

Accounts Receivable The Company uses the allowance method of accounting for uncollectible accounts. Accounts receivable are stated net of allowance for uncollectible accounts of $924,000 and $845,000 as of March 2, 1996 and February 25, 1995, respectively.

Inventories Inventories are stated at the lower of cost or market. Cost is determined by use of the LIFO method. If current cost had been used, inventories would have been approximately $21,154,000 and $19,581,000 higher than reported at March 2, 1996 and February 25, 1995, respectively. Cost of sales is primarily computed on an estimated basis and adjusted based on physical inventory counts which are generally taken at all locations twice annually.

Property and Equipment Property and equipment are stated at cost. Depreciation is provided on a straight-line basis over the estimated useful lives of owned assets. Leasehold improvements are amortized over the estimated useful life of the asset or the term of the lease, whichever is shorter.

Pre-Opening Expenses Expenditures related to the opening of new stores, other than expenditures for capital assets, are charged against earnings when incurred.

Goodwill Goodwill is amortized over 15 years using the straight-line method. The Company amortized $597,000, $611,000 and $512,000 of goodwill during Fiscal 1996, 1995 and 1994, respectively. Accumulated amortization was $3,225,000 at March 2, 1996 and $2,628,000 at February 25, 1995. The Company uses the cash flow method to assess the recoverability of goodwill.

Debt Issuance Costs Debt issuance costs incurred in connection with the convertible subordinated debt are amortized using a straight-line method over the term of the debt. Amortization expense related to the issuance costs is reported as interest expense and approximated $57,000 in 1996, $58,000 in 1995, and $58,000 in 1994. The amount of accumulated amortization, at March 2, 1996 and February 25, 1995, was $354,000 and $312,000 respectively.

DRUG EMPORIUM, INC. AND SUBSIDIARIES 17

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

Advertising Costs The Company expenses production costs of radio and television advertising in the year incurred. Gross advertising costs, before vendor reimbursements, as a percentage of net sales, were as follows: 1996 - 2.3%; 1995 - 2.3%; and 1994 - 1.6%.

Net Income (Loss) Per Share Net income (loss) per common share is determined by dividing the weighted average number of common shares outstanding during the year into net income (loss). Common share equivalents in the form of stock options are excluded from the calculation since they have no dilutive effect on per-share figures. The assumed conversion of subordinated convertible debt into common stock had no dilutive effect on net earnings per common share.

Franchise Arrangements Arrangements with franchisees and licensees who operate throughout the United States generally provide for initial fees, new store opening fees and continuing

Copyright © 2012 www.secdatabase.com. All Rights Reserved. Please Consider the Environment Before Printing This Document payments to the Company based upon a percentage of sales. The fees, when earned, and related costs are recorded net and included in the Company's selling, administrative and occupancy expenses.

Impairment of Long-Lived Assets In March 1995, the FASB issued Statement No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, which requires impairment losses to be recorded on long-lived assets used in operations when indicators of impairment are present and the undiscounted cash flows estimated to be generated by those assets are less than the asset's carrying amount. Statement 121 also addresses the accounting for long-lived assets that are expected to be disposed. The Company will adopt Statement 121 in the first quarter of Fiscal 1997. Due to the significant number of stores and markets in which the Company operates and the extensive number of estimates that must be made to assess the impact of Statement 121, the financial statement impact of adoption has not yet been determined.

Reclassifications Certain amounts in prior years' financial statements have been reclassified to conform with the Fiscal 1996 presentation.

NOTE 2 - STORE CLOSURES During Fiscal 1995, the Company sold seven stores in the Washington, D.C. market and closed fourteen additional stores. The cost associated with the 21 stores resulted in a pretax charge of $11,850,000 recorded in November 1994. In the fourth quarter of Fiscal 1996, a $3,000,000 pretax charge was recorded to cover additional costs associated with the stores not yet subleased. Sales generated from these closed stores during fiscal years 1996, 1995 and 1994 were as follows: $0, $71,797,000 and $90,894,000, respectively.

NOTE 3 - REVOLVING CREDIT LINE The Company signed a new bank agreement (the Agreement) on November 13, 1995. The Agreement increased the available borrowings to help fund store acquisitions and replaced the previous bank credit agreement that was due to expire February 28, 1997.

The Agreement was structured to initially provide total credit of $75,000,000, depending on available collateral, which included a $60,000,000 revolving credit facility and a $15,000,000 term loan. The $60,000,000 revolver included temporary financing of $15,000,000 for a period from November 13, 1995 up to April 1, 1996. In accordance with the terms of the Agreement, the Company elected to take an early reduction of $15,000,000 in its revolving credit facility in order to achieve a more favorable borrowing rate.

As of March 2, 1996, the Company's credit facility consisted of the term loan of $15,000,000 (see Note 4) and a revolving credit loan availability of up to $45,000,000 of which $21,500,000 was utilized. The revolver expires on February 28, 1999, while the term debt is due in quarterly installments of $750,000, beginning May 31, 1996.

The Company's borrowing rate can fluctuate between the bank's prime rate and a LIBO-based rate, depending on the ability of the Company to meet certain financial covenants. The Agreement requires a commitment fee on the revolver of .375% on the unused available credit and has no compensating balance requirements. The weighted average borrowing rate under the Agreement was 7.89% at year end.

Borrowings made pursuant to the Agreement are secured by inventory and accounts receivable. The Agreement prohibits the payment of dividends, stock repurchases, and acquisition of the Company's convertible subordinated debentures.

18 DRUG EMPORIUM, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

NOTE 4 - LONG-TERM DEBT

In September 1989, the Company issued $52,000,000 of 7-3/4% convertible subordinated debentures. These debentures are unsecured obligations of the Company and may be converted into common stock of the Company at any time prior to maturity, unless previously redeemed. The conversion rate is 65.1466 shares per $1,000 principal amount of debentures (or approximately $15.35 per share), subject to certain adjustments under the terms of these debentures. These debentures are redeemable at the option of the Company at 102.8% of par plus accrued interest. This redemption rate declines by .7% annually to par on October 1, 1999. The debentures are subject to a sinking fund, commencing October 1, 2000, calculated to retire at least 70% of the debentures prior to the final maturity date of October 1, 2014. The Company has reserved 3,387,624 shares of common stock for issuance upon conversion of the debentures and 33,900 shares of Series A Preferred Stock in connection with the rights to be distributed under the Shareholder Rights Plan (Note 8) with respect to the reserved shares of common stock. During Fiscal 1996, the convertible debentures traded in a range of 70% to 81% of par, with a year end price of 73% of par.

During 1996 the Company repurchased $2,579,000 of face value of its convertible subordinated debentures on the open market resulting in an after-tax gain of approximately $300,000.

The term debt is part of the Agreement discussed in Note 3 and is payable in quarterly installments, with annual amounts of $3,000,000 due in Fiscal 1997, 1998, 1999, 2000 and 2001.

As of March 2, 1996, substantially all of the Company's furniture, fixtures and equipment have been pledged as security for the repayment of the equipment finance agreements. These financing agreements contain interest rates ranging from 4.5% to 12.0%. Principal amounts related to these agreements due for fiscal years 1997 through 1999 are $701,000, $37,000 and $7,000, respectively.

The Company has other notes bearing interest at rates ranging from 8.18% to 9.00%. Principal amounts related to the notes due for fiscal years 1997 through 2001 are $908,000, $922,000, $219,000, $236,000 and $253,000, respectively.

NOTE 5 - OPERATING LEASES The Company leases retail stores and certain equipment under non-cancelable operating leases which expire at various dates. Certain of the store leases require contingent rentals based upon sales in excess of specified amounts and generally require the Company to pay utilities, insurance and taxes, and certain are renewable with escalation clauses. Rent expense (excluding rent expense for closed stores from the date closed) was $28,354,000, $27,704,000 and $27,960,000 during Fiscal 1996, 1995 and 1994, respectively.

At March 2, 1996, future minimum operating lease payments during the next five years and thereafter are: 1997 - $35,755,000; 1998 - $34,670,000; 1999- $33,156,000; 2000 - $26,186,000; 2001 - $22,428,000, and $64,925,000 thereafter. At March 2, 1996, the future minimum lease payments for closed stores total approximately $18,523,000; the Company estimates it will receive approximately $16,350,000 of sublease income (for which there are subleases in force aggregating $6,270,000 at March 2, 1996). This estimate is based on the ability of the Company to sublease remaining closed-store leases within approximately one year.

NOTE 6 - PROPERTY AND EQUIPMENT Property and equipment is summarized as follows:

DRUG EMPORIUM, INC. AND SUBSIDIARIES 19

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

NOTE 7 - INCOME TAXES Deferred income taxes 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.

The tax amounts recorded in the consolidated balance sheets consisted of the following:

There were no significant deferred tax valuation allowances as of March 2, 1996 and February 25, 1995.

Significant components of the provision for income taxes are as follows:

The reconciliation of income tax computed at the U.S. federal statutory tax rates to income tax expense (benefit) is:

The Company received refunds, net of income taxes paid, of $1,889,000 and $49,000 during Fiscal 1996 and Fiscal 1995, respectively, and made income tax payments of $1,203,000 in Fiscal 1994.

At March 2, 1996, the Company has net operating loss carryforwards of $5,009,000 for income tax purposes that expire in years 2009 and 2010 and $2,381,000 of alternative minimum tax credit carryforward which has no expiration date.

NOTE 8 - SHAREHOLDERS' EQUITY The Company has authorized 2,000,000 shares of $1.00 par value preferred stock. The terms of the preferred stock are subject to determination by the Company's Board of Directors. The Company has a shareholder rights plan which provides for the distribution of a right to purchase one-hundredth of a share of preferred stock to each holder of common stock. The rights become exercisable upon the occurrence of certain triggering events, as defined in the plan.

NOTE 9 - STOCK OPTION PLANS The Company has adopted stock option plans for key employees and accounts for such plans under APB Opinion No. 25, Accounting for Stock Options Issued to Employees. Under such plans, the Board of Directors may grant options for shares of common stock at a price not less than 100% of the fair market value of the shares on the date of grant. If an employee owns stock possessing more than 10% of the total combined voting power of the Company, the option price must be 110% of the fair market value on the date of grant. The options vest based on the term of the optionee's continuous employment at 10% to 30% per year. Service prior to date of grant is considered under certain plans. The following is a summary of transactions under the option plans:

At the end of fiscal years 1996, 1995 and 1994, there were 217,000, 221,000 and 775,000 shares, respectively, reserved for future grants.

20 DRUG EMPORIUM, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

NOTE 10 - ACQUISITIONS During Fiscal 1996, the Company acquired 32 stores in five separate transactions for a total purchase price of $42 million. Three of the stores were subsequently closed or merged with existing Drug Emporium operations. The majority of the stores were acquired late in the third fiscal quarter from F&M Distributors, Inc. with the remainder being purchased from Drug Emporium franchisees at various times during the year. These acquisitions were accounted for as purchases.

Copyright © 2012 www.secdatabase.com. All Rights Reserved. Please Consider the Environment Before Printing This Document The consolidated statements of operations reflect the results of operations of the acquired enterprises since the dates acquired. The acquired stores contributed $80 million in sales during Fiscal 1996. Management has not disclosed proforma information because of concerns surrounding the accuracy of available historical operating data.

NOTE 11 - DEFINED CONTRIBUTION PLAN The Company provides a defined contribution 401(k) plan to substantially all employees. Participants may make voluntary contributions to the plan up to 15% of their compensation. Approximately $50,000 was charged to expense for this plan in fiscal years 1996, 1995 and 1994.

NOTE 12 - CONTINGENCY The Company is a defendant in suits filed by two current franchisees of the Company alleging failure to perform as required by the franchise agreements and violation of state and federal antitrust laws. The plaintiffs claim a loss of investment capital, out-of-pocket expenses and lost profits and goodwill and seek an unspecified amount of damages. The Company intends to vigorously defend these suits and believes the ultimate outcome of these suits will not materially affect the financial position or results of operations of the Company.

NOTE 13 - QUARTERLY FINANCIAL DATA (UNAUDITED)

(in thousands, except per share amounts)

Notes:

(a) Amounts differ from previously filed quarterly reports due to reclassifications between accounts. Previous reported net income has not changed.

(b) Includes a before-tax charge of $3,000,000 related to store closings.

DRUG EMPORIUM, INC. AND SUBSIDIARIES 21

REPORT OF INDEPENDENT AUDITORS

Board of Directors Drug Emporium, Inc.

We have audited the accompanying consolidated balance sheets of Drug Emporium, Inc. and subsidiaries as of March 2, 1996 and February 25, 1995, and the related consolidated statements of operations, shareholders' equity and cash flows for each of the three years in the period ended March 2, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.

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

Copyright © 2012 www.secdatabase.com. All Rights Reserved. Please Consider the Environment Before Printing This Document In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Drug Emporium, Inc. and subsidiaries at March 2, 1996 and February 25, 1995, and the consolidated results of their operations and their cash flows for each of the three years in the period ended March 2, 1996, in conformity with generally accepted accounting principles.

/s/ Ernst & Young LLP

Columbus, Ohio April 3, 1996

22 DRUG EMPORIUM, INC. AND SUBSIDIARIES

EXHIBIT 24.1

CONSENT OF INDEPENDENT AUDITORS

We consent to the incorporation by reference in the Registration Statements (Forms S-8, Numbers 33-25768 and 33-69638) of Drug Emporium, Inc. and subsidiaries of our report dated April 3, 1996, with respect to the consolidated financial statements of Drug Emporium, Inc. and subsidiaries incorporated by reference in this Annual Report (Form 10-K) for the year ended March 2, 1996.

ERNST & YOUNG LLP

Columbus, Ohio May 24, 1996

5 1,000
12-MOS MAR-02-1996 FEB-26-1995 MAR-02-1996 767 0 13,018 0 188,498 12,822 61,390 (32,597) 243,898 127,962 67,391 1,318 0 0 47,227 243,898 738,772 738,772 578,626 146,774 3,000 0 6,468 3,904 1,562 2,342 0 0 0 2,342 .18 .18