CVS/Arbor Merger
On March 31, 1998, CVS completed a merger with Arbor Drugs, Inc. (“Arbor”), pursuant to which 37.8 million shares of CVS common stock were exchanged for all the outstanding common stock of Arbor. The merger was a tax-free reorganization that was accounted for as a pooling of interests under APB Opinion No. 16, “Business Combinations.”
In accordance with APB Opinion No. 16, Emerging Issues Task Force (“EITF”) Issue 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (Including Certain Costs Incurred in a Restructuring)” and SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of,” CVS recorded a $147.3 million charge to operating expenses during the second quarter of 1998 for direct and other merger-related costs pertaining to the CVS/ Arbor merger transaction and certain restructuring activities (the “CVS/Arbor Charge”). The Company also recorded a $10.0 million charge to cost of goods sold during the second quarter of 1998 to reflect markdowns on noncompatible Arbor merchandise.
Following is a summary of the significant components of the CVS/Arbor Charge:
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In millions | |
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Merger transaction costs | $ 15.0 |
Restructuring costs: | |
Employee severance and benefits | 27.1 |
Exit costs: | |
Noncancelable lease obligations | 40.0 |
Duplicate facility | 16.5 |
Asset write-offs | 41.2 |
Contract cancellation costs | 4.8 |
Other | 2.7 |
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Total | $ 147.3 |
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Merger transaction costs included $12.0 million for estimated investment banker fees, $2.5 million for estimated professional fees, and $0.5 million for estimated filing fees, printing costs and other costs associated with furnishing information to shareholders.
Employee severance and benefits included $15.0 million for estimated excess parachute payment excise taxes and related income tax gross-ups, $11.0 million for estimated employee severance and $1.1 million for estimated employee outplacement costs. The excess parachute payment excise taxes and related income tax gross-ups relate to employment agreements that Arbor had in place with 22 senior executives. Employee severance and benefits and employee outplacement costs relate to 236 employees that were located in Arbor’s Troy, Michigan corporate headquarters, including the 22 senior executives that were covered by employment agreements.
Exit Costs ~ In conjunction with the merger transaction, management made the decision to close Arbor’s Troy, Michigan corporate headquarters and 55 Arbor store locations. As a result, the following exit plan was executed:
Noncancelable lease obligations included $40.0 million for the estimated continuing lease obligations of the 55 Arbor store locations discussed above. As required by EITF Issue 88-10, “Costs Associated with Lease Modification or Termination,” the estimated continuing lease obligations were reduced by estimated probable sublease rental income.
Duplicate facility included the estimated costs associated with Arbor’s Troy, Michigan corporate headquarters during
the shutdown period. This facility was considered to be a duplicate facility that was not required by the combined company. Immediately after the merger transaction, the Company assumed all decision-making responsibility for Arbor and Arbor’s corporate employees. The combined company did not retain these employees since they were incremental to their CVS counterparts. During the shutdown period, these employees primarily worked on shutdown activities. The $16.5 million charge included $1.8 million for the estimated cost of payroll and benefits that would be incurred in connection with complying with the Federal Worker Adjustment and Retraining Act (the “WARN Act”), $6.6 million for the estimated cost of payroll and benefits that would be incurred in connection with shutdown activities, $1.5 million for the estimated cost of temporary labor that would be incurred in connection with shutdown activities and $6.6 million for the estimated occupancy-related costs that would be incurred in connection with closing the duplicate corporate headquarters facility.
Asset write-offs included $38.2 million for estimated fixed asset write-offs and $3.0 million for estimated intangible asset write-offs. The Company allocates goodwill to individual stores based on historical store contribution, which approximates store cash flow. Other intangibles (i.e., favorable lease interests and prescription files) are typically store specific and, therefore, are directly assigned to stores. The asset write-offs relate to the 55 store locations discussed above and the Troy, Michigan corporate headquarters. Management’s decision to close the store locations was considered to be an event or change in circumstances as defined in SFAS No. 121. Since management intended to use these locations on a short-term basis during the shutdown period, impairment was measured using the “Assets to Be Held and Used” provisions of SFAS No. 121. The analysis was prepared at the individual store level, which is the lowest level at which individual cash flows can be identified. The analysis first compared the carrying amount of the store’s assets to the store’s estimated future cash flows (undiscounted and without interest charges) through the anticipated closing date. If the estimated future cash flows used in this analysis were less than the carrying amount of the store’s assets, an impairment loss calculation was prepared. The impairment loss calculation compared the carrying value of the store’s assets to the store’s estimated future cash flows (discounted and with interest charges).
Management’s decision to close Arbor’s Troy, Michigan corporate headquarters was also considered to be an event or change in circumstances as defined in SFAS No. 121. Since management intended to dispose of these assets, impairment was measured using the “Assets to Be Disposed Of” provisions of SFAS No. 121. Since management intended to discard the assets located in this facility, their entire net book value was considered to be impaired.
Contract cancellation costs included $4.8 million for estimated termination fees and/or penalties associated with terminating various contracts that Arbor had in place prior to the merger, which would not be used by the combined company.
Other costs included $1.3 million for the estimated write-off of Arbor’s Point-of-Sale software and $1.4 million for travel and related expenses that would be incurred in connection with closing Arbor’s corporate headquarters and store facilities.
The above costs did not provide future benefit to the retained stores or corporate facilities.
Following is a reconciliation of the beginning and ending liability balances as of the respective balance sheet dates:
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In millions | Merger Transaction Costs |
Employee Severance & Benefits(1) |
Noncancelable Lease Obligations(2) |
Duplicate Facility |
Asset Write-offs |
Contract Cancellation Costs |
Other | Total | ||||||||
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CVS/Arbor Charge | $ 15.0 | $ 27.1 | $ 40.0 | $ 16.5 | $ 41.2 | $ 4.8 | $ 2.7 | $ 147.3 | ||||||||
Utilization -- Cash | (15.9) | (16.8) | (2.7) | (15.1) | - | (1.2) | (3.4) | (55.1) | ||||||||
Utilization -- Noncash | - | - | - | - | (41.2) | - | - | (41.2) | ||||||||
Transfer(3) | 0.9 | - | - | (1.4) | - | (0.2) | 0.7 | - | ||||||||
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Balance at 01/01/00 | - | 10.3 | 37.3 | - | - | 3.4 | - | 51.0 | ||||||||
Utilization -- Cash | - | (0.9) | (3.4) | - | - | - | - | (4.3) | ||||||||
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Balance at 12/30/00(4) | $ — | $ 9.4 | $ 33.9 | $ — | $ — | $ 3.4 | $ - | $ 46.7 | ||||||||
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Other Business Combinations
The Company also acquired other businesses that were accounted for as purchase business combinations and immaterial pooling of interests. These acquisitions did not have a material effect on the Company’s consolidated financial statements either individually or in the aggregate. The results of operations of these businesses have been included in the consolidated financial statements since their respective dates of acquisition.