UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

 

 

Form 10-K

 

 

Commission file number: 0-24091

 

 

 

 

Tweeter Home Entertainment Group, Inc.

(Exact name of Registrant as specified in its charter)

 

 

40 Pequot Way
Canton, MA 02021
(Address of principal executive offices)

 

(781) 830-3000
(Registrant’s telephone number including area code)

 

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

 

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes o     No þ

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  Yes þ     No o

 

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

 

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.  o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definitions of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large Accelerated Filer o     Accelerated Filer þ     Non-accelerated Filer o

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).  Yes o     No þ

 

The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant, based upon the last sales price for such stock on March 31, 2006, as reported by NASDAQ, was $170,144,048.

 

On December 15, 2006, the company had outstanding 25,492,178 shares of common stock.

 

DOCUMENTS INCORPORATED BY REFERENCE

 

Portions of the definitive Proxy Statement for the 2007 Annual Meeting of Stockholders to be held on January 25, 2007 are incorporated by reference into Part III.

 

 

TWEETER HOME ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES

 

ANNUAL REPORT ON FORM 10-K

 

TABLE OF CONTENTS

 

 

In this Annual Report on Form 10-K, the “Company,” “Tweeter,” “we,” “us” and “our” mean Tweeter Home Entertainment Group, Inc. and its subsidiaries.

 

This Annual Report on Form 10-K contains forward-looking statements regarding Tweeter’s performance, strategy, plans, objectives, expectations, beliefs and intentions. The actual outcome of the events described in these forward-looking statements could differ materially from our expectations. This Report, and especially the sections entitled “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contains a discussion of some of the factors and risks that could contribute to those differences.

 

General

 

Tweeter is a national specialty consumer electronics retailer providing audio and video solutions for the home and mobile environment. We believe that we can apply our expertise to help our customers “live in hi-def.”

 

As of September 30, 2006, we operated 153 stores in 22 states under the Tweeter, Sound Advice, hifi buys and Showcase Home Entertainment names. Our stores are located in the following markets: New England, the Mid-Atlantic, the Southeast (including Florida), Chicago, Texas, Southern California, Phoenix, and Las Vegas. We operate in a single business segment of retailing audio, video and mobile consumer electronics products. Our stores feature a selection of quality home and mobile audio and video products including cutting edge HDTV plasma, LCD and rear-projection television sets, home theater video and audio solutions, home theater furniture, DVD players and recorders, surround sound systems, audio components, digital video satellite systems, satellite radios, personal video recorders and digital entertainment centers. We differentiate ourselves by focusing on consumers who seek audio and video products with advanced features, functionality and performance and by offering expert in-home installation services. We have created an inviting retail environment in each store with specially designed notional spaces, allowing our customers to visualize the technology in a more natural home setting. Our stores average approximately 11,100 square feet and are staffed with highly trained sales and installation professionals. Our goal is to ensure that each customer receives the best possible experience through their entire purchase and installation process. We believe this commitment to customer service, along with our competitive prices, will build customer loyalty and brand awareness.

 

Trade names.  We currently operate under several trade names, with 116 of our stores being Tweeter stores. We also operate 24 stores in Florida as Sound Advice stores, 9 stores in the Southeast as hifi buys stores and 4 stores in Arizona as Showcase Home Entertainment stores.

 

We have registered the “Tweeter” and “Tweeter etc.” service marks with the United States Patent and Trademark Office. We have also registered the “Prosolutions” trademark and the “AVi.d. Member,” “Slamfest,” “Wise Buys” and “Picture Perfect” service marks with the United States Patent and Trademark Office. We have not registered “hifi buys,” “Sound Advice” and some of our other service marks. We are aware that other consumer electronics retailers use the name hifi buys and Sound Advice. We have submitted applications for registration of some of our other service marks, which applications are currently pending. We may be unable to successfully register such service marks. In addition our service marks, whether registered or unregistered, and our patents may not be effective to protect our intellectual property rights, and infringement or invalidity claims may be asserted by third parties in the future.

 

Competition.  We are a relatively small player in the U.S. consumer electronics market. According to the Consumer Electronics Association, consumer electronics sales are expected to reach $140 billion in 2006. With annual revenue of nearly $800 million, we account for less than 1% of the total. Several large players, including Best Buy, Circuit City, Sears and Wal-Mart, dominate the industry and have significantly greater resources than we have. We do not compete with these larger players in all categories, but there is some overlap between our products. Typically, the overlap includes the higher-end (more sophisticated, with more features and options) of the larger players’ products and the lower end (more entry level, with fewer features and options) of our products. One advantage we believe we have over the larger players is our ability to provide our customers with superior service by

our professionally trained sales and installation experts. We also compete with many small, independent retailers that carry similar products and offer similar service levels.

 

Seasonality.  Our business is subject to seasonal variations. The table below lists the percentage of annual revenue generated in each of our fiscal quarters for the last two fiscal years.

 

Percentage of Annual Revenue

 

 

Due to the importance of the Christmas holiday shopping season, our revenues generally are highest during the fiscal quarter ending December 31. Any factor tending to adversely affect this season could have a significant impact on our revenue and profitability. Our quarterly results of operations may also fluctuate significantly due to a number of factors, including the timing of new store openings and acquisitions, and unexpected changes in volume-related rebates or changes in cooperative advertising policies from suppliers. In addition, operating results may be negatively affected by increases in merchandise costs, price reductions we institute in response to competitive factors and unfavorable local, regional or national economic developments that result in reduced consumer spending.

 

Purchases and Returns.  We generally allow our customers to return products within a specified amount of time from the initial retail sale or 60 days if the product is defective. This can vary for some product categories such as speakers, where we have a trade up policy available. We also offer extended payment terms and other promotional offers as an inducement to purchase. We partner with GE Money Bank to run our private label credit card program. GE Money Bank bears all credit risk under the terms of this agreement.

 

Business Strategy

 

The key elements of our business strategy are as follows:

 

Extensive Selection of Mid- to High-End Home and Mobile Products.  We concentrate on delivering our customers a complete range of home and mobile consumer electronics products. This focus differentiates us from larger format superstores and mass merchandisers, who offer a broad array of consumer electronics and non-electronics products with an emphasis on products priced at introductory price levels. Our emphasis on mid- to higher-end products positions us attractively to those seeking to buy more advanced or limited distribution products. Our salespeople are extensively trained to educate our customers about new technologies. As a result of our mid- to higher-end product focus, a historical early adopter customer base and our extensively trained sales force, we are often among the earliest retailers to offer new product innovations. Tweeter has a long tradition of catering to the audio and/or video enthusiast, and for over three decades we have introduced many new technologies to the marketplace. We were among the first retailers to offer flat panel plasma and LCD televisions, DVD players and CD players. We will often hold a market share in new technology that is disproportionately large compared to our share of audio and video consumer electronics overall. Similarly, we are among the first retailers to see a decline in sales from products after they become well established in the marketplace and our customers move on to newer technology. By staying in the forefront of the technology curve we believe that our focused product offering allows for higher gross margin opportunities, appeals to a more service-conscious consumer and results in enhanced brand awareness of our regional names among members of our targeted customer group.

 

In-Home Services Business.  As consumer electronics products have become more sophisticated and complex, our in-home installation services have become a more significant part of our business. We not only offer customers a broad home entertainment package, we also have a large team of highly trained in-home installation experts who can efficiently install the chosen solution in the customer’s home.

 

Exceptional Customer Service.  We believe that the quality and knowledge of our sales and installation professionals is critical to our success and represents a significant competitive advantage. Our relationship-selling model encourages sales associates to promote a comfortable, trusting, low-pressure environment. We provide new

sales and installation associates with intensive classroom training and all sales and installation associates receive ongoing training, both at the store and at our regional training centers. Our sales and installation associates receive technical product training prior to our introduction of significant new products. We believe that our superior customer service has enabled us to engender long-term customer loyalty.

 

Dynamic, Inviting Stores.  Our stores display products in a dynamic and inviting setting intended to encourage the customer to view and hear products in sound rooms and other notional spaces architecturally and acoustically designed to simulate the customer’s home or mobile environment. Our stores blend a colorful, comfortable lifestyle environment, with innovative and interactive product displays that enable customers to audition and compare a sample of products. Each store contains a flat panel technology showcase, which displays an extensive selection of plasma, LCD and related products, and every store contains a home theater vignette, which showcases our home theater products.

 

Everyday Competitive Pricing.  We utilize an “everyday competitive pricing” strategy with fixed prices clearly marked on our products. Store managers regularly visit local competitors to ensure that our pricing remains competitive within the store’s local market.

 

Store Real Estate and Operational Strategy

 

Store Format and Operations.  As of September 30, 2006, we operated 153 stores, consisting of 116 Tweeter stores in New England, the Mid-Atlantic, the Southeast, Chicago, Texas, Southern California and Las Vegas; 24 Sound Advice stores in Florida; 9 hifi buys stores in the Southeast and 4 Showcase Home Entertainment stores in Phoenix.

 

Our store concept combines the comfort of the home environment with practical displays, enabling consumers to sample and compare the features and functions of products in various combinations. Unlike many other consumer electronics stores, which contain large, open spaces where many different audio and video products are displayed, our stores feature individual sound rooms. The sound rooms architecturally and acoustically resemble a home environment to enable our customers to see and hear how products will perform at home and they allow them to listen to and compare various combinations of audio and video equipment. In addition, each store contains a flat panel technology showcase, which displays an extensive selection of plasma and LCD televisions and related video products, and every store contains home theater vignettes, which showcase our home theater products. The majority of our stores have areas that feature state-of-the-art audio and video mobile systems. Most stores provide mobile systems installation through on-premises installation bays.

 

In 2005 we introduced a new prototype store, a consumer electronics playground concept. This prototype has a unique selling space to make it easier and more enjoyable for customers. It showcases whole-home control and automation through notional spaces specifically designed to replicate the rooms throughout a customer’s home. The customer experience begins at the concierge service desk. As customers enter the store they are greeted by a concierge, to enhance service and optimize their shopping experience. Initial results from our new prototype store were favorable and in 2006 we extended the test by renovating one existing store and relocating one other store using the same format. Based on the performance of these prototype stores we have adopted this format as our new prototype and we will look to introduce it in additional existing and new locations going forward.

 

Stores are typically staffed with a general sales manager, an assistant sales manager, an operations manager, approximately 12 sales associates and mobile electronics installers. Some sales associates specialize in either in-home or mobile systems. We provide new sales associates with intensive classroom training and all sales associates receive ongoing training, both at the store and at the regional training centers. The sales force receives technical product and sales training prior to the introduction of significant new products.

 

Most of our store managers are compensated through base pay, commissions and monthly bonuses based on store performance. Store managers can earn a substantial portion of their annual compensation through such bonuses. Sales associates are compensated through a commission program that is based on the revenue and gross margins of products they have sold.

 

Our strategy is to capitalize on our highly trained sales force and installation specialists to drive sales of new consumer electronics technologies from existing stores. We were one of the first retailers to sell products such as

CD players, DVD players, plasma televisions, digital televisions, mobile video and satellite radio. We expect that we will continue to be among the first retailers to offer new consumer electronics products as they are developed. We continue to put considerable effort into having a knowledgeable sales team that has expertise in selling new technologies to our customers. They are backed-up by an equally expert team of installation specialists so that our customers can enjoy their purchases quickly and easily. We believe that as a result we will continue to attract buyers who wish to be “early adopters” of new products.

 

Additionally, our other operations include a corporate sales division, which sells to businesses, institutions and other organizations, and an Internet-based business, whose website is located at www.tweeter.com.

 

Site Selection.  Our stores average approximately 11,100 square feet and we typically lease space located in freestanding buildings or strip shopping centers within high traffic shopping areas. New store sites are selected on the basis of several factors, including physical location, demographic characteristics of the local market, proximity to other retailers, access to highways or other major roadways and available lease terms. We look for co-tenants that are likely to draw customers whom we would otherwise target and we believe that the proximity to other consumer electronics retailers is, on balance, a positive factor due to increased customer traffic.

 

Renovating and Relocating Stores.  As store leases come up for renewal we conduct a disciplined review and evaluation of each location. Based upon this evaluation we may choose to exercise our renewal option, relocate the store to a better location in the same market or close the store. We have approximately 44% of our store leases coming up for renewal over the next five years. We also intend to renovate certain stores as we continue to build on our consumer electronics playground concept model. During fiscal 2006, we renovated 1 existing store and relocated 1 store, converting them into the consumer electronics playground concept, and we closed 6 stores, in the following markets:

 

 

By taking a disciplined approach toward real estate our goal is to stabilize our store count, convert existing stores to our new prototype through either renovation or relocation and begin to open new stores within our current markets. We have tentatively planned to complete 4 renovations, relocate 4 stores and close 4 stores in fiscal 2007. We also plan to open 4 new stores in fiscal 2007. These plans may vary based upon our operating performance.

 

Store closing program.  In fiscal 2005 we performed a major study of our real estate portfolio and took a number of actions. Between April 2005 and October 2005 we closed 19 underperforming stores, six of which were classified as discontinued operations since we vacated the markets in which those six stores operated. In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, we classified the operating results of these stores as discontinued operations in the accompanying consolidated statement of operations. As of September 30, 2006, of the 19 store closings, we had executed 13 lease termination agreements or sublease agreements, leaving six locations remaining to be negotiated. These six locations have taken longer to resolve than originally expected. Accordingly, we increased our reserves for restructuring and discontinued operations in fiscal 2006. We believe that these reserves are adequate to cover costs associated with the remaining lease obligations.

 

Additionally, in the fourth quarter of fiscal 2004 we closed or committed to close eight stores, five of which were closed as of September 30, 2004 and three of which were closed during the first quarter of fiscal 2005. These eight stores are classified as discontinued operations along with the six stores mentioned above.

Merchandise

 

Our stores feature home audio systems and components, mobile audio and video systems, video products such as flat-panel plasma and LCD televisions, digital projection televisions, digital satellite systems, digital video recorders, DVD players and other consumer electronics products such as wireless remote control devices, digital media players, home audio speakers, stereo and surround sound receivers and portable audio equipment. We offer home and mobile stereo installation services and provide warranty and non-warranty repair services through all of our stores. Our in-home installation business provides design, installation and educational services in connection with new construction and home renovations, as well as for existing homes. Products provided by our in-home installation group include home theater systems, satellite TV, Internet access systems, touch screen controls and whole-house control systems, which may include music, security, lighting and utility control systems. Our emphasis on mid- to high-end products enables us to offer limited distribution products and to be among the earliest retailers to offer new product innovations.

 

We stock products from many suppliers, including, Alpine, Apple Computer, Bose, Clarion, Denon, Focal, Krell, Mirage, Martin Logan, Mitsubishi, Panasonic, Pioneer, Polk, Samsung, Sony, Tivoli, Velodyne and Yamaha. We seek to manage our product mix to maximize gross margin performance and inventory turns. Historically, video products have yielded lower gross margin than audio products. Total sales of video products have increased at rates faster than the increases in audio product sales during the last several years as a result of the increased customer interest in big screen televisions. Accordingly, we have enhanced our in-home installation business to increase sales of higher margin audio products and in-home services. The strategy involves training and incentive programs for sales associates to work with customers to demonstrate audio products that enhance the performance of the video products they are purchasing, so that a customer purchasing a video product is more likely to purchase an audio product as well.

 

The table below lists the approximate percentage of revenue for each of our primary product categories for our fiscal years ended September 30, 2006, 2005 and 2004, respectively. The percentage of revenue represented by each product category may be affected by, among other factors, competition, economic conditions, consumer trends, the introduction of new products into the market, changes in our product mix, and the timing of marketing events. The historical percentages listed below may not be indicative of revenue percentages for future periods:

 

Percentage of Revenue by Product

 

 

 

 

Purchasing and Inventory

 

Our purchasing and inventory control functions are based out of our corporate offices in Canton, Massachusetts. The purchasing decisions are made by our purchasing group, which has primary responsibility for product selection, stocking levels and pricing. Purchasing decisions are facilitated by our information systems, which analyze stocking levels and product sell-through. The purchasing group continuously reviews new and existing products with a view towards maintaining a wide range of high quality, brand-name consumer electronics products within the product mix. In order to remain current with new and developing products, we regularly host

presentations by our major suppliers. In recent years, we have traveled to the Far East to assist in product development for our class of products.

 

In addition to making direct purchases, we are a member of the Progressive Retailers Organization (“PRO”) group, a volume-buying group of specialty electronics retailers across the country. This affiliation often provides us with the opportunities to obtain additional supplier rebates, product discounts and promotional products. We are not obligated to make purchases through PRO. Our Chairman also serves on the Board of Directors of PRO.

 

We source products from many suppliers. Our largest supplier and our ten largest suppliers, ranked by purchasing volume, represented 22% and 77%, respectively, of our total purchases in fiscal 2006. We do not maintain long-term commitments or exclusive contracts with any particular supplier, but instead consider numerous factors, including price, credit terms, distribution, quality and compatibility within the existing product mix in making our purchasing decisions. We utilize an automatic replenishment system for store inventory, maintaining stock levels and minimizing total dollars invested in inventory. We believe that our relationships with our large suppliers are excellent and that our focused merchandising and high degree of customer service make us an important distribution channel, particularly for the introduction of new products.

 

We distribute products to our stores through our regional distribution centers. The following table lists each distribution center, the region it serves and the square footage of the facility.

 

 

 

 

We believe that these distribution facilities are sufficient to accommodate any expansion in these markets through at least the year 2008.

 

Advertising and Marketing

 

We target consumers seeking informed advice, products and services that result in the creation, integration and installation of home and mobile entertainment solutions. We continue to utilize newspaper ads and free-standing inserts at certain times of the year. However, with newspaper readership declining as consumers are relying more upon the Internet and the variety offered by cable television for their information and entertainment, we began a shift in media strategy in fiscal 2004 to increase our use of electronic media and direct marketing to reach qualified customers and prospects. In fiscal 2004 we allocated less than one-third of our overall advertising budget to broadcast media. In fiscal 2005 we increased this amount to over 50% and in fiscal 2006 to approximately 60%. We now run radio advertisements in markets representing approximately 80% of retail store sales. The direct marketing program consists of catalogs and direct mail to promote new technologies and to convey timely offers. We also use email to send targeted messages to our customers and we use banner ads to advertise on the Internet. All of these efforts are supplemented by local marketing efforts conducted by our store associates, who are supported by our corporate marketing staff. The specific allocation of advertising dollars among the various types of advertising media is reviewed from time to time by management and, if necessary, adjusted to reflect our assessment of advertising results and market conditions.

Providing competitive product pricing is a critical component of our marketing and advertising strategy. Store managers regularly visit the local competition to ensure that their store’s pricing remains competitive. This is supported by a 30-day price protection guarantee. We also offer financing to our customers through GE Money Bank and provide to our customers an annual calendar of available Tweeter and manufacturer finance offers.

 

Customer Support Center

 

During fiscal 2006, we established a customer support center, located in our corporate headquarters in Canton, Massachusetts that uses state-of-the-art telephone and data networks. Our call center responds to more than 1,000 phone calls and emails daily. The responses include scheduling service calls, in-home installations and home deliveries, and answering customers’ unique requests for hard to find parts and accessories.

 

Information Systems

 

We utilize a sophisticated, fully integrated mainframe based management information system for recording point-of-sale transactions, managing inventory and determining commission-based wages. Our system updates after every transaction and is accessible on a real time basis to management, sales associates and product buyers. Extensive sales reporting and sales tracking are provided real time on screen to store managers and individual sales associates. They use the system to track category sales and benchmark key sales data. This system enables management and store managers to review sales volume, gross margin and product mix on a per store or per sales associate basis, allows for the viewing of open orders, inventory value and mix and tracks sales by product category, by sales associate and by store. We provide ongoing training and support in the use of this system.

 

In May 2005, we implemented a new general ledger and accounts payable system. This system interfaces with and draws data from our point-of-sale system.

 

Employees

 

As of September 30, 2006, we had approximately 3,200 employees. None of our employees are covered by collective bargaining agreements, and we believe our relations with our employees are good.

 

Tweeter.com Website

 

Our commercial website address is www.tweeter.com. Our investor relations website is www.twtr.com. We make our Annual Report on Form 10-K, our Quarterly Reports on Form 10-Q, our Current Reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or Section 15(d) of the Securities Exchange Act of 1934 available on our www.tweeter.com website as soon as reasonably practicable after we electronically file such documents with, or furnish them to, the Securities and Exchange Commission.

 

The value of an investment in our company will be subject to the significant risks inherent in our business. Investors should consider carefully the risks and uncertainties described below.

 

This Annual Report contains forward-looking statements regarding our performance, strategy, plans, objectives, expectations, beliefs and intentions. The actual outcome of the events described in these forward-looking statements could differ materially from our expectations. The following is a discussion of some of the factors and risks that could contribute to those differences.

 

We face intense competition that could reduce our market share.

 

We compete against a diverse group of retailers, including several national and regional large format merchandisers and superstores, such as Best Buy, Circuit City and Wal-Mart, which sell, among other products, audio and video consumer electronics products similar and often identical to those we sell. We also compete with many small, independent retailers that carry similar products and offer similar service levels. We also compete in particular markets with a substantial number of retailers that specialize in one or more types of consumer electronics products that we sell. Certain of these competitors have substantially greater financial resources than we have,

which may increase their ability to purchase inventory at lower costs or to initiate and sustain predatory price competition. In addition, the large format stores are continuing to expand their geographic markets, and this expansion may increase price competition within those markets.

 

We have incurred losses from continuing operations for the last five years and those losses could continue in the future.

 

We have experienced losses from continuing operations for the last five years. Our net loss in 2006 amounted to $16.5 million. Despite efforts to improve our operations, we could incur substantial losses in the future. In four of the last five years we have not provided sufficient cash from operating activities to fund our purchases of property and equipment. Our losses and the related use of cash over the last several years were funded, in part, by increased borrowings under our senior secured revolving credit facility and term loans. There can be no assurance that additional indebtedness will be available to us at all or on acceptable terms.

 

We may need additional capital and we may not be able to obtain it on acceptable terms, if at all.

 

Financing for the opening and acquisition of new stores, as well as for the improvement of existing stores, may be in the form of debt or equity or both and may not be available on terms acceptable to us, if at all. We estimate that the average cash investment for capital expenditures required to open a store is in the range of $0.8 million to $1.5 million, depending upon the level of construction required. The actual cost of opening a store may be significantly greater than such estimates, however, and we may need to seek additional debt and/or equity financing in order to fund our continued expansion through 2007 and beyond. In some cases, we lease stores in an existing building and incur costs for leasehold improvements to convert the space to our retail format. Additional factors vary depending on the region in which a new store is being opened, and can therefore cause a corresponding region-to-region variation in the cost of opening a new store, including the following:

 

 

In addition, our ability to incur additional indebtedness or issue equity or debt securities could be limited by covenants in present and future loan agreements and debt instruments.

 

Our success depends on our ability to increase sales in our existing stores. We may not be able to do so.

 

Our continued growth depends on our ability to increase sales in our existing stores. Our ability to increase sales in existing stores may also be affected by our:

 

 

Our comparable sales results may fluctuate significantly, which could adversely affect our reportable revenue and profitability.

 

“Comparable store sales” is a term we use to compare the year over year sales performance of our stores. A store is included in the comparable store sales base after it is in operation for 12 full months. An acquired store is included after 12 full months from the date of acquisition. In addition, comparable store sales include Internet-originated sales. Remodeled or relocated stores are excluded from the comparable store base until they have completed 12 full months of operation from the date the remodeling was completed or the store re-opened after relocation. In 2005 we initiated a store closing program. We removed those closing stores from the comparable store sales base in May 2005, after we determined that they would close. Stores that are part of discontinued operations are also excluded from the comparable store sales base.

A number of factors have historically affected, and will continue to affect, our comparable store sales results, including, among other factors:

 

 

Recent economic conditions make forecasting comparable store sales particularly difficult. Comparable store sales may decrease in the future. Changes in our comparable store sales results could cause the price of our common stock and profitability to fluctuate substantially.

 

We may not be able to open new stores and, even if we do open new stores, we may not be able to operate those stores profitably.

 

While the opening of new stores has slowed considerably, we expect to continue to open new stores from time to time. The opening of additional stores in new geographical markets could present competitive and merchandising challenges different from those we currently or previously faced within our existing geographic markets. In addition, we may incur higher costs related to advertising, administration and distribution as we enter new markets.

 

There are a number of factors that could affect our ability to open or acquire new stores. These factors also affect the ability of any newly opened or acquired stores to achieve sales and profitability levels comparable with our existing stores, or to become profitable at all. These factors include:

 

 

We depend on key personnel and our business may be severely disrupted if we lose the services of our key executives.

 

The Company’s success and ability to properly manage its growth depends to a significant extent on both the performance of its current executive and senior management team and its ability to attract, hire, motivate, and retain additional qualified and talented management personnel in the future. The Company’s inability to recruit and retain such personnel, or the loss of services of any of its current key employees, could have a material adverse impact on the Company’s operations.

 

Our business is subject to quarterly fluctuations and seasonality.

 

Seasonal shopping patterns affect our business. The fourth calendar quarter, which is our first fiscal quarter and which includes the Christmas holiday shopping season, has historically contributed, and is expected to continue to contribute, a significant portion of our total revenue. As a result, any factors negatively affecting us during this time of year, including adverse weather or unfavorable economic conditions, would have a materially adverse impact on our revenue and profitability for the entire year.

 

More generally, our quarterly results of operations may fluctuate based upon such factors as:

 

 

We may not be able to anticipate and respond to changes in consumer demand, preference and patterns.

 

Our success depends on our ability to anticipate and respond in a timely manner to consumer demand and preferences regarding audio and video consumer electronics products and changes in consumer demand and preferences. Consumer spending patterns, particularly discretionary spending for products such as those we sell, are affected by, among other things, prevailing economic conditions. In addition, the periodic introduction and availability of new products and technologies at price levels that generate wide consumer interest stimulate the demand for audio and video consumer electronics products. Also, many products that incorporate the newest technologies are subject to significant technological and pricing limitations and to the actions and cooperation of third parties such as television broadcasters. It is possible that these products or other new products will never achieve widespread consumer acceptance. Furthermore, the introduction or expected introduction of new products or technologies may depress sales of existing products and technologies. Significant deviations from the projected demand for products we sell would result in lost sales or lower margins due to the need to mark down excess inventory.

 

If any of our relationships with our key suppliers are terminated, we may not be able to find suitable replacements.

 

The success of our business and growth strategy depends to a significant degree upon our suppliers, particularly our brand-name suppliers of audio and video equipment. We do not have any supply agreements or exclusive arrangements with any suppliers. We typically order our inventory through the issuance of individual purchase orders to suppliers. In addition, we rely heavily on a relatively small number of suppliers. Our largest supplier and our ten largest suppliers, ranked by purchasing volume, represented 22% and 77%, respectively, of our total purchases in fiscal 2006. The loss of any of these key suppliers could affect our business, as we may not be able to find suitable replacements.

Suppliers may not be willing to supply products at acceptable prices.

 

It is possible that we will be unable to acquire sufficient quantities or an appropriate mix of products at acceptable prices. Specifically, our ability to establish additional stores in existing markets and to penetrate new markets depends, to a significant extent, on the willingness and ability of suppliers to supply inventory at acceptable prices, and suppliers may not be willing or able to do so.

 

Our service marks and patents may not be effective to protect our intellectual property rights.

 

Our “Tweeter,” “Tweeter etc.,” “AVi.d. Member,” “Slamfest,” “Wise Buys” and “Picture Perfect” service marks have been registered with the United States Patent and Trademark Office. We have not registered “hifi buys,” “Sound Advice” and some of our other service marks. We are aware that other consumer electronics retailers use the name “hifi buys” and “Sound Advice.” We have submitted applications for registration of some of our other service marks, which applications are currently pending. We may be unable to successfully register such service marks. In addition our service marks, whether registered or unregistered, and our patents may not be effective to protect our intellectual property rights, and infringement or invalidity claims may be asserted by third parties in the future.

 

Anti-takeover provisions of the Delaware General Corporation Law, our certificate of incorporation and our shareholders’ rights plan could delay or deter a change in control.

 

Our corporate charter and by-laws, as well as certain provisions of the Delaware General Corporation Law, contain provisions that may deter, discourage or make more difficult a change in control of the Company, even if such a change in control would be in the interest of a significant number of our stockholders or if a change in control would provide stockholders with a substantial premium for their shares over then current market prices. For example, our charter authorizes our Board of Directors to issue one or more classes of preferred stock, having such designations, rights and preferences as they determine.

 

Our stockholders have no right to take action by written consent and may not call special meetings of stockholders. Any amendment of the by-laws by the stockholders or certain provisions of the charter requires the affirmative vote of at least 75% of the shares of voting stock then outstanding. Our charter also provides for the staggered election of directors to serve for one, two and three-year terms, and for successive three-year terms thereafter, subject to removal only for cause upon the vote of not less than 75% of the shares of common stock represented at a stockholders’ meeting.

 

In addition, under the terms of our shareholders’ rights plan, in general, if a person or group acquires more than 20% of the outstanding shares of our common stock, all other stockholders of the Company would have the right to purchase securities from us at a discount to such securities’ fair market value, thus causing substantial dilution to the holdings of the acquiring person or group.

 

None.

 

The following table lists the number and location of stores we operated at the end of each of the last three fiscal years, by state:

 

 

At September 30, 2006 we occupied approximately 1,697,000 square feet of retail store space. Our stores range in size from 3,500 square feet to 24,000 square feet and average approximately 11,100 square feet. They include sales space, inventory storage, management offices and employee areas. The majority of the leases provide for a fixed minimum rent with scheduled escalation dates and amounts. Leases for 24 of our stores have percentage rent provisions, which range from 1.5% to 5% of gross sales in excess of certain specified sales amounts. The initial terms of our leases range from 5 to 25 years and generally allow us to renew for up to three additional five-year terms. The terms of our leases, including exercised renewal options, expire between December 2006 and January 2025. We currently are leasing a few locations on a month-to-month basis. The average lease term for our stores is 14.2 years and the average remaining lease term is 6.7 years, excluding renewal options.

 

Our corporate offices and the New England distribution and service centers are located in two leased facilities totaling 151,400 square feet in Canton, MA. In addition, we lease approximately 603,000 square feet of regional operating facilities, including major distribution, service centers and offices in King of Prussia, PA, Atlanta, GA, Pembroke Park, FL, Chicago, IL, Houston, TX, San Diego, CA and Phoenix, AZ.

 

We are involved in various claims and legal actions arising in the ordinary course of business. While management currently believes that resolving claims against us, individually or in the aggregate, will not have a

material adverse impact on our financial position, our results of operations, or our cash flows, these matters are subject to inherent uncertainties and management’s view of these matters may change in the future.

 

None.

 

Our common stock is traded on the NASDAQ National Market under the symbol “TWTR.” The following table lists the high, low and last sale prices for our common stock for the last eight quarters in which our common stock was publicly traded.

 

 

The last sale price of the common stock on December 7, 2006, as reported by NASDAQ, was $2.40 per share. As of December 7, 2006, there were approximately 2,700 holders of record of our common stock.

 

We do not anticipate paying any cash dividends for the foreseeable future. Please see “Liquidity and Capital Resources” below.

 

The following table summarizes our stock option plans as of September 30, 2006. Further details of our stock option plans are discussed in the notes to the consolidated financial statements. The adoption of each of our stock option plans was approved by our shareholders.

 

 

Recent Sales of Unregistered Securities

 

None.

 

The following table presents our selected financial data. The table should be read in conjunction with Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations, and Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K.

 

 

 

 

This Annual Report contains forward-looking statements regarding our performance, strategy, plans, objectives, expectations, beliefs and intentions. The actual outcome of the events described in these forward-looking statements could differ materially. This report, and especially this section and the section entitled “Risk Factors” contains a discussion of some of the factors and risks that could contribute to those differences.

 

General

 

We are a national specialty consumer electronics retailer providing audio and video solutions for the home and mobile environment. We believe that we can apply our expertise to help our customers “live in hi-def.”

 

We opened our first Tweeter store in New England in 1972. As of September 30, 2006, we operated 153 stores in 22 states under the Tweeter, Sound Advice, hifi buys and Showcase Home Entertainment names. Our stores are located in the following markets: New England, the Mid-Atlantic, the Southeast (including Florida), Chicago, Texas, Southern California, Phoenix, and Las Vegas. We operate in a single business segment of retailing audio, video and mobile consumer electronics products. Our stores feature a selection of quality home and mobile audio and video products including cutting edge HDTV plasma, LCD and rear-projection television sets, home theater video and audio solutions, home theater furniture, DVD players and recorders, surround sound systems, audio components, digital video satellite systems, satellite radios, personal video recorders and digital entertainment centers. We differentiate ourselves by focusing on consumers who seek audio and video products with advanced features, functionality and performance and by offering expert in-home installation services. We have created an inviting retail environment in each store with specially designed notional spaces, allowing our customers to visualize the technology in a more natural home setting. Our stores average approximately 11,100 square feet and are staffed with highly trained sales and installation professionals. Our goal is to ensure that each customer receives the best possible experience through their entire purchase and installation process. We believe this commitment to customer service, along with our competitive prices, will build customer loyalty and brand awareness.

 

In 2005 we introduced a new prototype store, a consumer electronics playground concept. This prototype has a unique selling space to make it easier and more enjoyable for customers. It showcases whole-home control and automation through notional spaces specifically designed to replicate the rooms throughout a customer’s home. The customer experience begins at the concierge service desk. As customers enter the store they are greeted by a concierge, to enhance service and optimize their shopping experience. Initial results from our new prototype store were favorable and in 2006 we extended the test by renovating one existing store and relocating one other store using the same format. Those stores also performed well so we have adopted this format as our new prototype and we will look to introduce it in additional existing and new locations going forward.

 

Results of Operations

 

The following table sets forth the percentage relationship to net sales of certain items in our consolidated statements of earnings for the fiscal periods shown below:

 

Fiscal 2006 as Compared to Fiscal 2005

 

Total Revenue.  Our total revenue includes delivered merchandise, home installation labor, commissions on extended warranties sold, completed service center work orders, direct business-to-business sales, delivery charges and Internet-originated sales and excludes collected sales taxes. Generally, revenue from products sold in our retail stores is recognized at the point of sale, when transfer of title takes place and the customer receives the product. In some instances, customers request that we deliver the product to specified locations, in which case revenue would be recognized when the customer receives the product. Revenue from installation labor is recognized as labor is provided. Service revenue is recognized when the repair service is completed. Product sold through our business-to-business division and our Internet web site is shipped “free on board” shipping point and the related revenue is recognized upon shipment.

 

We use the term “comparable store sales” to compare year-over-year sales performance of our stores. We include a store in our comparable store sales after it has been in operation for 12 full months, while we include an acquired store after 12 full months from the acquisition date. In addition, comparable store sales include Internet-originated sales. We exclude remodeled or relocated stores from our comparable store sales until they have been operating for 12 full months from the date we completed the remodeling or the date the store re-opened after relocation. In 2005 we implemented a store closing program. We removed those closing stores from the comparable store sales base in May 2005 after we determined that they would close. Stores that are part of discontinued operations are also excluded from the comparable store sales base.

 

Our total revenue from continuing operations decreased $19.8 million, or 2%, to $775.3 million in the year ended September 30, 2006 from $795.1 million for the year ended September 30, 2005. The decrease was primarily the result of a $34.6 million reduction in sales related to closed stores. This decrease in revenue was partially offset by an increase of $8.3 million related to revenues from new stores, a comparable store sales increase of $4.5 million, or 1%, and an increase of $2.0 million associated with direct business-to-business sales.

 

In both the years ended September 30, 2006 and 2005 we generated 95% of our total revenue from our retail store sales, 3% from repair service, 2% from direct business-to-business sales and less than 1% from all other revenue. For the year ended September 30, 2006, retail store sales declined $21.8 million, or 3%, repair service revenue declined $0.6 million, or 3%, and direct business-to-business sales increased $2.0 million, or 15%.

 

Video is our largest category of retail store sales, contributing 57% and 55% of total retail store sales in the years ended September 30, 2006 and 2005, respectively. For the year ended September 30, 2006 we experienced a decline of $7.0 million, or 2%, in video sales. Excluding closed stores, video sales increased $11.2 million. This increase of $11.2 million included an increase of $58.3 million, or 31%, for sales of plasma and LCD televisions, which was partially offset by decreases of $22.7 million, or 16%, for sales of projection televisions, $8.4 million, or 77%, for sales of TV monitors, $5.0 million, or 99%, for sales of camcorders, a category that we discontinued selling in 2005, $4.1 million, or 63%, for sales of satellite TV systems, $3.7 million, or 21%, for sales of DVD players and recorders and $2.7 million, or 15%, for sales of furniture.

 

Audio, our next largest category of retail store sales, contributed 18% of total retail store sales in the years ended September 30, 2006 and 2005. For the year ended September 30, 2006 we experienced a decline of $11.5 million, or 8%, in audio sales. Excluding closed stores, audio sales decreased $5.1 million, or 4%. This decrease of $5.1 million included decreases of $4.2 million, or 73%, for sales of music systems and $3.5 million, or 5%, for sales of speakers, which were partially offset by an increase of $1.9 million, or 107% for sales of audio/video networking products.

 

Mobile contributed 9% and 10% of total retail store sales in the years ended September 30, 2006 and 2005, respectively. For the year ended September 30, 2006 we experienced a decline of $11.4 million, or 15%, in mobile sales. Excluding closed stores, mobile sales decreased $6.4 million, or 9%. This decrease of $6.4 million included decreases of $2.4 million, or 24%, for sales of car decks, $1.4 million, or 12%, for sales of car speakers, $1.1 million, or 6%, for sales of mobile multimedia products, $0.9 million, or 6%, for car installation labor revenue and $0.9 million, or 13%, for sales of car amplifier equipment.

 

Home installation labor revenue increased $7.4 million, or 18%, for the year ended September 30, 2006, reaching 7% of total retail store revenue, compared to 5% of total retail store revenue in the previous year. Excluding closed stores, home installation labor revenue increased $8.6 million, or 22%.

Cost of Sales and Gross Profit.  Our cost of sales includes merchandise costs, distribution costs, home installation labor costs, purchase discounts and vendor allowances. Our cost of sales decreased $25.5 million, or 5%, to $455.9 million in the year ended September 30, 2006 from $481.4 million in the year ended September 30, 2005. Our gross profit increased $5.7 million, or 1.8%, to $319.4 million in the year ended September 30, 2006 from $313.7 million for the year ended September 30, 2005. Our gross profit percentages were 41.2% and 39.4%
for the years ended September 30, 2006 and 2005, respectively.

 

Our gross profit percentage from the video category in our retail stores increased 1.3%. This was largely due to an increase of 1.2% in the gross profit percentage for plasma and LCD televisions.

 

Our gross profit percentage from the audio category in our retail stores increased 0.5%. This was largely due to an increase of 0.6% in the gross profit percentage for speakers.

 

Our gross profit percentage from the mobile category in our retail stores decreased by 0.4%. The gross profit percentage for mobile multimedia products declined 1.1%, which was partially offset by flat gross profit percentages for car decks and car labor.

 

Selling, General and Administrative Expenses.  Our selling, general and administrative expenses (“SG&A”) include the compensation of store personnel and store specific support functions, occupancy costs, depreciation, advertising, credit card fees and the costs of the finance, information systems, merchandising, marketing, human resources and training departments, related support functions and executive officers. Our SG&A expenses decreased $12.3 million, or 4%, to $331.3 million for the year ended September 30, 2006 from $343.6 million for the year ended September 30, 2005.

 

As a percentage of total revenue, SG&A expenses decreased 0.5%, to 42.7%, for the year ended September 30, 2006, from 43.2% in the prior year. Advertising expenses decreased $5.5 million, or 0.6% as a percentage of total revenue, largely because we reduced our spending on newspaper advertisements due to declining newspaper readership.

 

Amortization of Intangibles.  Amortization of intangibles was $0.6 million for the year ended September 30, 2006 compared to $0.7 million for the year ended September 30, 2005. This decrease was due to the related intangible asset becoming fully amortized during the year ended September 30, 2006.

 

Restructuring charges.  In 2006 we recorded an additional $1.2 million associated with a change in estimate of the restructuring reserve related to our closed store program. In 2005 we incurred restructuring charges totaling $16.5 million associated with the closing of 13 stores that are in continuing markets. Our 2005 restructuring charges included $8.1 million for lease termination fees and other related charges, $1.8 million for professional fees related to lease termination negotiations and inventory liquidation, $0.3 million for severance costs and a non-cash charge of $6.3 million related to the write-down of leasehold improvements and lease adjustments. Revenue from these closed stores amounted to $0.2 million and $23.7 million for the years ended September 30, 2006 and 2005, respectively.

 

Interest expense.  Our interest expense was $4.6 million for the year ended September 30, 2006 compared to $2.7 million for the year ended September 30, 2005. Our interest expense increased due to an increase in our average borrowings and higher interest rates.

 

Gain on Sale of Investments.  In 2006 we realized a gain on sale of investments of $0.2 million related to the sales of our available for sale securities in September 2006. We realized a gain on sale of equity investment of $9.9 million for the year ended September 30, 2005. On May 4, 2005, we sold 68,750 shares, representing 25% of our total investment, in Tivoli Audio, LLC (“Tivoli”) for $10.3 million. The transaction decreased our total ownership in Tivoli from 25% to 18.75% after completion of the sale.

 

Income Tax Expense (Benefit).  We are required to record a valuation allowance when it is “more likely than not that some portion or all of the deferred tax assets will not be realized.” At September 30, 2006, we have provided a full valuation allowance of approximately $52.0 million related to net federal and state deferred tax assets. The effective tax rate (benefit) for the years ended September 30, 2006 and 2005 was 0.0% and 50.8%, respectively. In 2006 we did not record a tax benefit from our pre-tax loss. We provided a valuation allowance on the tax benefit related to the 2006 and 2005 operating losses because of the uncertainty of realization of such benefit.

Income from Equity Investment.  Our income from equity investment increased to $2.0 million for the year ended September 30, 2006 from $1.4 million for the year ended September 30, 2005, reflecting the increased profitability of Tivoli.

 

Discontinued Operations.  In 2006, we recorded an additional $0.5 million associated with a change in estimate of our discontinued operations reserve. In 2005 we closed or committed to close six stores classified as discontinued operations. The decision to exit these stores was primarily related to poor operating results. There was no revenue from closed stores included in pre-tax loss from discontinued operations for the year ended September 30, 2006. Revenue from the closed stores, included in pre-tax loss from discontinued operations amounted to $11.1 million for the year ended September 30, 2005.

 

Fiscal 2005 as Compared to Fiscal 2004

 

Total Revenue.  Our total revenue from continuing operations increased $29.8 million, or 4%, to $795.1 million in the year ended September 30, 2005 from $765.3 million for the year ended September 30, 2004. The increase was primarily the result of revenues from new and acquired stores of $30.9 million, of which $13.3 million related to the NOW! Audio Video acquisition that occurred on July 1, 2004. In addition, comparable store sales increased $7.8 million, or 1%. The increase in revenue was partially offset by a $5.2 million reduction in sales associated with direct business-to-business sales and a $4.8 million reduction in sales related to closed stores.

 

Video was our largest category of retail store sales, contributing 55% and 57% of total retail store sales in the years ended September 30, 2005 and 2004, respectively. For the year ended September 30, 2005 we experienced a decline of $0.1 million, or 0%, in video sales. Excluding closed stores, video sales increased $4.2 million. This increase of $4.2 million included an increase of $44.3 million, or 31%, for sales of plasma and LCD televisions, which was partially offset by decreases of $17.5 million, or 61%, for sales of TV monitors, $9.9 million, or 6%, for sales of projection televisions, $7.1 million, or 59%, for sales of camcorders, a category that we discontinued selling in 2005, and $5.5 million, or 24%, for sales of DVD players and recorders.

 

Audio, our next largest category of retail store sales, contributed 18% and 19% of total retail store sales in the years ended September 30, 2005 and 2004, respectively. For the year ended September 30, 2005 we experienced a decline of $2.0 million, or 1%, in audio sales. Excluding closed stores, audio sales decreased $0.5 million, or 0%. This decrease of $0.5 million included decreases of $2.7 million, or 59% sales of audio/video networking equipment, $2.5 million, or 8%, for sales of receivers, $2.0 million, or 12%, for sales of home theater-in-a-box systems and $1.1 million, or 2%, for sales of speakers, which were partially offset by increases of $2.8 million for sales of audio source equipment, which was a new category we introduced in 2005, $2.5 million, or 88%, for sales of personal electronics, $2.0 million, or 72%, for sales of audio accessories and $0.7 million.

 

Mobile contributed 10% and 11% of total retail store sales in the years ended September 30, 2005 and 2004, respectively. For the year ended September 30, 2005 we experienced a decline of $4.7 million, or 6%, in mobile sales. Excluding closed stores, mobile sales decreased $2.6 million, or 4%. This decrease of $2.6 million included decreases of $3.2 million, or 24%, for sales of car decks and $1.6 million, or 12%, for sales of car speakers, which were partially offset by increases of $1.5 million, or 11%, for car installation labor revenue and $1.2 million, or 7%, for sales of mobile multimedia products.

 

Home installation labor revenue increased $15.5 million, or 62%, for the year ended September 30, 2005, reaching 5% of total retail store revenue, compared to 4% of total retail store revenue in the previous year. Excluding closed stores, home installation labor revenue increased $15.5 million, or 65%.

 

Cost of Sales and Gross Profit.  Our cost of sales related to continuing operations increased $13.7 million, or 3%, to $481.4 million in the year ended September 30, 2005 from $467.7 million in the year ended September 30, 2004. Our gross profit increased $16.1 million, or 5.4%, to $313.7 million in the year ended September 30, 2005 from $297.6 million for the year ended September 30, 2004. Our gross profit percentages for the years ended September 30, 2005 and 2004 were 39.4% and 38.9%, respectively. This increase was primarily related to higher contribution from home installation labor and parts, plasma and LCD TVs, cables, remote control devices and furniture. We were also able to reduce the adverse impact of discount coupons on our gross profit. These increases

were partially offset by lower contribution from projection TVs, TV monitors, DVD equipment and audio speakers and receivers.

 

Selling, General and Administrative Expenses.  Our selling, general and administrative expenses increased $25.8 million, or 8%, to $343.6 million for the year ended September 30, 2005 from $317.8 million for the year ended September 30, 2004. As a percentage of total revenue, selling general and administrative expenses increased to 43.2% for the year ended September 30, 2005 from 41.5% in the prior year period. The percentage increase was attributable to several factors. Payroll and fringe benefits expenses rose $9.0 million, driven by increased sales and a larger support staff associated with our growing in-home installation business. Advertising costs increased $5.0 million due to an increase in the number of advertising initiatives. Insurance expense increased $3.0 million due to an increase in our workers compensation self-insurance expenses. Bank and credit cards fees increased $2.7 million, reflecting our increase in sales and the increase in interest rates. Occupancy expense increased $2.1 million, primarily due to increases in rent and real estate taxes. Our depreciation expense increased $2.2 million as we began adding more displays in our stores. Vehicle expenses rose by $1.3 million, largely associated with increases in fuel prices and additional vehicles required to support our growing in-home installation business. Utility costs increased by $1.1 million, primarily due to increases in telephone costs. Professional fees increased $1.7 million largely due to increased spending on Sarbanes-Oxley compliance efforts. Partially offsetting these increases was a decrease in non-cash compensation charges of $5.2 million.

 

Amortization of Intangibles.  Amortization of intangibles was $0.7 million for the years ended September 30, 2005 and 2004.

 

Restructuring charges.  In 2005 we incurred restructuring charges totaling $16.5 million associated with the closing of 13 stores described above that are in continuing markets. Our restructuring charges included $8.1 million for lease termination fees and other related charges, $1.8 million for professional fees related to lease termination negotiations and inventory liquidation, $0.3 million for severance costs and a non-cash charge of $6.3 million related to the write-down of leasehold improvements and lease adjustments.

 

Interest expense.  Our interest expense was $2.7 million for the year ended September 30, 2005 compared to interest expense of $3.4 million for the year ended September 30, 2004. The decrease was primarily due to a reduction in amortization expense associated with loan financing costs.

 

Gain on Sale of Investments.  We realized a gain on sale of equity investment of $9.9 million for the year ended September 30, 2005. On May 4, 2005, we sold 68,750 shares, representing 25% of our total investment, in Tivoli for $10.3 million. The transaction decreased our total ownership in Tivoli from 25% to 18.75% after completion of the sale.

 

Income Tax Expense (Benefit).  We are required to record a valuation allowance when it is “more likely than not that some portion or all of the deferred tax assets will not be realized.” At September 30, 2005, we had provided a full valuation allowance of approximately $45.9 million related to net federal and state deferred tax assets. The effective tax rate (benefit) for the years ended September 30, 2005 and 2004 was 50.8% and (38.0%), respectively. In 2005 we recorded tax expense of $25.0 million, $22.3 million of which related to the establishment of a full valuation allowance on net federal and state deferred tax assets established prior to 2005 and the balance of which related to further adjustments of our tax asset and liability accounts. We provided a valuation allowance on the tax benefit related to the 2005 operating loss because of the uncertainty of realization of such benefit.

 

Income from Equity Investment.  Our income from equity investment increased to $1.4 million for the year ended September 30, 2005 from $0.5 million for the year ended September 30, 2004, reflecting the increased profitability of Tivoli.

 

Discontinued Operations.  In the third quarter of fiscal 2005 we closed or committed to close six stores classified as discontinued operations. In the fourth quarter of fiscal 2004 we closed or committed to close eight stores classified as discontinued operations. The decision to exit these stores was primarily related to poor operating results. Prior year information has been reclassified to conform to current year presentation. Revenue from the closed stores, included in pre-tax loss from discontinued operations, amounted to $11.1 million and $26.6 million for the years ended September 30, 2005 and 2004, respectively. The revenue in 2005 from discontinued operations

was lower than in 2004 because eight of the 14 stores classified as discontinued operations were closed by early 2005 whereas all 14 were open for nearly all of 2004.

 

Liquidity and Capital Resources

 

Our cash needs are primarily to support our inventory requirements and capital expenditures, pre-opening expenses and beginning inventory for new stores, remodeling or relocating older stores and, in recent years, to fund operating losses.

 

For the fiscal year ended September 30, 2006, we generated $15.6 million of cash from operating activities. This includes a net loss of $16.5 million. Net non-cash expenses recorded for the year totaled $29.5 million. These non-cash expenses consisted primarily of $26.8 million for depreciation, amortization and accretion, a $3.1 million increase in our allowance for doubtful accounts and $1.0 million of stock-based compensation, offset in part by $2.0 million for income from equity investments. The increase in our allowance for doubtful accounts was largely due to increased reserves for monies due from our former extended warranty provider. The increase in stock-based compensation is due to the issuance of new stock options during the year accounted for under Statement of Financial Accounting Standards (“SFAS”) No. 123 (revised 2004), Share-Based Payment (“SFAS 123(R)”). Other sources of cash totaled $8.9 million, which primarily consisted of decreases in accounts receivable of $4.9 million due to better collection efforts of vendor receivables and $2.6 million for inventory due to fewer stores. Our prepaid expenses and other assets decreased by $1.1 million primarily due to changing providers for medical insurance effective the beginning of fiscal 2006, whereby in September 2005 we were required to prepay over $1.0 million to cover the expected run out of claims. Uses of cash totaled $7.1 million consisting primarily of decreases in customer deposits of $3.6 million due to fewer stores and a slowdown in the business experienced in the fourth quarter of fiscal 2006 and decreases in accounts payable and accrued expenses of $2.5 million due to the paydown of accrued restructuring charges.

 

For the year ended September 30, 2006, we used $3.4 million of cash for investing activities. Capital expenditures were $17.4 million, primarily for investments in information technology, relocated and remodeled stores, merchandising displays and vehicles. We have tentative plans to spend approximately $6.0 million in capital expenditures in 2007. These plans may vary based upon operating performance. Sources of cash totaled $14.0 million and consisted primarily of net proceeds of $13.5 million from the sale-leaseback transaction on our corporate office and our New England distribution facility, $0.3 million as our share of the proceeds from the liquidation of Sapphire Audio, LLC (“Sapphire”), a manufacturer of consumer electronic products and $0.2 million from the sale of equity investments in marketable securities.

 

Our net cash used in financing activities during the year ended September 30, 2006 was $12.2 million. We paid down $13.7 million of long-term debt and $2.8 million of the current portion of long-term debt. We received $4.0 million in proceeds from stock options exercised and $0.3 million from employee purchases of stock through our employee stock purchase plan.

 

Our senior secured revolving credit facility (“credit facility”), as amended July 25, 2005, provides for up to $90 million in revolving credit loans, which may include up to $15 million in letters of credit, and $13 million in term loans. The credit facility is secured by substantially all of our assets and contains various covenants and restrictions, including that: (i) we cannot create, incur, assume or permit additional indebtedness, (ii) we cannot create, incur, assume or permit any lien on any property or asset, (iii) we cannot merge or consolidate with any other person or permit any other person to merge or consolidate with us, (iv) we cannot purchase, hold or acquire any investment in any other person except those specifically permitted, (v) we cannot sell, transfer, lease, or otherwise dispose of any asset except permitted exceptions, and (vi) we cannot declare or make any restricted payments, which includes any dividend or certain other distributions. Borrowings are restricted to applicable advance rates based principally on eligible receivables and inventory, reduced by a $5 million reserve, a portion of customer deposits and outstanding letters of credit. At September 30, 2006, $16.5 million was available for future borrowings and $6.9 million was held as letters of credit. The facility expires on April 1, 2008.

 

The interest rate on our revolving credit loans ranges from 1.5% to 2% over LIBOR or at the prime rate, depending on our commitment at various dates during the course of the agreement. In addition, there is a commitment fee of 0.25% for the unused portion of the line. Our term loans are in two tranches — Tranche A-1 and

Tranche B. The Tranche A-1 term loan is for $5 million at an interest rate of either 0.75% over the prime rate or 3.00% over LIBOR, whichever rate we choose. The Tranche B term loan is for $8 million at an interest rate of 4.00% over the prime rate or 10.00%, whichever is greater. Neither term loan will require any scheduled principal payments until maturity.

 

Our weighted-average interest rates on all outstanding borrowings for the years ended September 30, 2006 and 2005 were approximately 7.6% and 5.1%, respectively.

 

The following table lists our contractual obligations at September 30, 2006 (amounts in thousands):

 

 

 

 

On January 17, 2006 we entered into a sale-leaseback arrangement with Tweet Canton LLC, an unrelated party, with respect to our corporate office and our New England distribution facility, including land and related leasehold improvements, located at 10 and 40 Pequot Way, Canton, Massachusetts. We received approximately $13.5 million, net of related fees, for the sale of these properties, which we used to pay down existing debt. Future lease commitments, which are included in the table above, amount to $1.2 million in each of years one to ten of the lease and $1.3 million in each of the remaining six years of the lease term.

 

We have experienced losses from continuing operations for the last five years. In four of the last five years we have not provided sufficient cash from operating activities to fund our purchases of property and equipment. However, by using other sources to raise cash including selling owned properties and investments we have been able to limit the amount of borrowings. We believe that our existing cash, together with cash generated by operations and available borrowings under our credit facility, will be sufficient to finance our working capital and capital expenditure requirements for at least the next twelve months. Due to the seasonality of our business, our working capital needs are significantly higher in the fiscal first and second quarters and there is the possibility that this could cause unforeseen capital constraints in the future. Within our credit facility, there is an option during our peak holiday season buying periods to have more availability on our credit line to meet these needs. We will continue to monitor our results of operations and spending on capital expenditures, inventory and other initiatives to insure availability on our credit facility is sufficient to meet our needs.

 

Impact of Inflation

 

We do not believe that inflation has had a material adverse effect on our results of operations. However, we cannot predict accurately the effect of inflation on future operating results.

Seasonality

 

Our business is subject to seasonal variations. Historically, we have realized a significant portion of our total revenue and net income for the year during the first and second fiscal quarters, with a majority of net income for such quarters realized in the first fiscal quarter. Due to the importance of the holiday shopping season, any factors negatively impacting the holiday selling season could have an adverse effect on our revenue and our ability to generate a profit. Our quarterly results of operations may also fluctuate significantly due to a number of factors, including the timing of new store openings and acquisitions and unexpected changes in volume-related rebates or changes in cooperative advertising policies from manufacturers. In addition, operating results may be negatively affected by increases in merchandise costs, price changes in response to competitive factors and unfavorable local, regional or national economic developments that result in reduced consumer spending.

 

Critical Accounting Policies

 

Presented below is a discussion about our application of critical accounting policies that require us to make assumptions about matters that are uncertain at the time the accounting estimate is made, and where different estimates that we reasonably could have used in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, would have a material impact on the presentation of our financial condition, changes in financial condition or results of operations. Management has identified the following accounting estimates as critical for Tweeter, and will discuss them separately below: allowance for doubtful accounts, inventory obsolescence reserve, goodwill impairment, accounting for stock-based compensation, asset retirement obligations, income taxes, self-insurance accruals, and deferred cash discounts, volume rebates and coop advertising.

 

Management has discussed the development and selection of these critical accounting estimates with the audit committee of our Board of Directors and the audit committee has reviewed our disclosure relating to it in this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

 

Allowance for Doubtful Accounts

 

Description

 

 

Judgments and Uncertainties

 

 

Effect if Actual Results Differ From Assumptions

 

 

 

Inventory Obsolescence Reserve

 

Description

 

 

Judgments and Uncertainties

 

 

Effect if Actual Results Differ From Assumptions

 

 

Goodwill Impairment

 

Description

 

 

Judgments and Uncertainties

 

 

Effect if Actual Results Differ From Assumptions

 

 

Accounting for Stock-Based Compensation

 

Description

 

 

Judgments and Uncertainties

 

 

Effect if Actual Results Differ From Assumptions

 

 

Income Taxes

 

Description

 

 

Judgments and Uncertainties

 

 

Effect if Actual Results Differ From Assumptions

 

 

Self-Insurance Accruals

 

Description

 

 

Judgments and Uncertainties

 

 

Effect if Actual Results Differ From Assumptions

 

 

Deferred Cash Discounts, Volume Rebates and Cooperative Advertising

 

Description

 

 

 

Judgments and Uncertainties

 

 

Effect if Actual Results Differ From Assumptions

 

 

Recent Accounting Pronouncements

 

In July 2006 the FASB issued FASB Interpretation (“FIN”) No. 48, Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement 109. FIN 48 prescribes a comprehensive model for recognizing, measuring, presenting and disclosing in the financial statements tax positions taken or expected to be taken on a tax return, including a decision whether to file or not to file in a particular jurisdiction. FIN 48 is effective for fiscal years beginning after December 15, 2006. If there are changes in net assets as a result of application of FIN 48 these will be accounted for as an adjustment to retained earnings. We are currently assessing the impact of FIN 48 on our consolidated financial position and results of operations.

 

In September 2006 the FASB issued SFAS No. 157, Fair Value Measurements. SFAS No. 157 defines fair value in generally accepted accounting principles (“GAAP”) and expands disclosures about fair value measurements. SFAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. We are currently assessing the impact of SFAS No. 157 on our consolidated financial position and results of operations.

 

In September 2006 the SEC issued SAB No. 108, Topic 1N, Financial Statements, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements, which provides interpretive guidance on how the effects of the carryover or reversal of prior year misstatements should be considered in quantifying a current year misstatement. SAB 108 is effective for the first fiscal year ending after November 15, 2006. We retroactively as of October 1, 2005, as permitted, recognized an adjustment of $3.4 million to accumulated deficit and rent related accruals in our consolidated balance sheet as of October 1, 2005 resulting in a reduction in net loss of $0.4 million in our consolidated statement of operations for the fiscal year ended September 30, 2006.

 

The market risk inherent in our financial instruments and in our financial position is the potential for loss arising from adverse changes in interest rates, principally related to our borrowings. We do not enter into financial instruments for trading purposes.

 

At September 30, 2006, we had $55.4 million of variable rate borrowings outstanding under our revolving credit facility and term loans. A hypothetical 10% change in interest rates for this variable rate debt, based on the September 30, 2006 balances outstanding, would have an annual impact on our interest expense of approximately $0.5 million.

 

The response to this item is included in a separate section of this report. See “Index to Consolidated Financial Statements” on page F-1.

 

None.

 

Evaluation of Disclosure Controls and Procedures.  Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures, as such term is defined under Rule 13a-15 (e) and 15d-15 (e) under the Securities Exchange Act of 1934, as amended, as of September 30, 2006. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that because of the material weaknesses described below, our disclosure controls and procedures were ineffective as of that date.

 

Management’s Report on Internal Control over Financial Reporting.  Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as that term is defined in Exchange Act Rules 13a-15 (f) and 15d-15 (f). Our internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of consolidated financial statements for external purposes in accordance with generally accepted accounting principles. Our management, including the Chief Executive Officer and the Chief Financial Officer, assessed the effectiveness of our internal control over financial reporting as of September 30, 2006. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in its Internal Control-Integrated Framework.

 

Management has identified certain control deficiencies that represent material weaknesses (as defined in the Public Company Accounting Oversight Board Auditing Standard No. 2, “An Audit of Internal Control Over Financial Reporting Performed in Conjunction with An Audit of Financial Statements”).

 

A material weakness is a control deficiency, or a combination of control deficiencies, that result in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected. As of September 30, 2006, the Company did not maintain effective internal control over financial reporting because of the material weaknesses described below.

 

Controls over the Financial Close and Reporting Process

 

(i) We incorrectly accounted for a new store lease as an operating lease when it should have been recorded as owned property under EITF Issue no. 97-10, The Effect of Lessee Involvement in Asset Construction, resulting in a material weakness. This error was first noted and brought to the attention of management by our independent registered public accounting firm in connection with their audit of our 2006 financial statements and has been corrected in those financial statements. (ii) We also had deficiencies related to the operating effectiveness over the recording of non-routine transactions, reviews of period-end reconciliations and analyses, and processing of reclassifications and adjustments. These deficiencies aggregated to a material weakness. While these deficiencies

did not result in a material misstatement of the financial statements, due to the potential effect on financial statement balances and disclosures and the importance of the financial closing and reporting processes, management has concluded, that, in the aggregate, these deficiencies in internal control resulted in a more than remote likelihood that a material error would not have been prevented or detected, and therefore, constitute a material weakness.

 

Controls for recording fixed asset additions and disposals

 

We had operating deficiencies in our internal control procedures with respect to the assignment of useful lives to leasehold improvements, the timely review of the fixed asset ledger, the assignment of in-service dates and useful lives to fixed asset additions and a design deficiency with respect to effective policies and procedures to ensure that fixed asset disposals were reported and recorded. These significant deficiencies aggregated to a material weakness. While these deficiencies did not result in a material misstatement of the financial statements, management believes that these internal control deficiencies in the aggregate resulted in more than a remote likelihood that a material misstatement of our financial statements might not have been prevented or detected, and therefore constitute a material weakness.

 

Changes in Internal Control over Financial Reporting.  Our management, including the Chief Executive Officer and Chief Financial Officer, discussed the material weaknesses described above with the Audit Committee. We have taken the following actions regarding internal controls over financial reporting:

 

1. From April to September 2006, we added significant experienced finance and accounting staff, including a Chief Financial Officer in August and a corporate controller, SEC reporting personnel and other key accounting positions. Because of the timing of their hiring, the full benefit of their knowledge and expertise has not yet been realized.

 

2. With respect to non-routine transactions and new contracts we enter into, we have instituted new review and certification processes designed to identify such items. Every new contract is reviewed and discussed at our quarterly disclosure committee meetings. Regular meetings with accounting staff and executive-level officers involved and familiar with accounting issues related to complex non-routine transactions are being held to review documentation and appropriate accounting.

 

3. We are in the process of implementing additional monitoring procedures and training of our staff to mitigate the potential risk of other reporting errors. Further, we are designing additional procedures and controls to ensure that fixed asset additions and disposals are accounted for appropriately.

 

Deloitte & Touche LLP, an independent registered public accounting firm that audited our financial statements included in this Annual Report on Form 10-K, has issued an attestation report on management’s assessment of our internal control over financial reporting as of September 30, 2006, which is included in this Item 9A under the caption “Report of Independent Registered Public Accounting Firm.”

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

To the Board of Directors and Stockholders of

  Tweeter Home Entertainment Group, Inc.

 

We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control over Financial Reporting, that Tweeter Home Entertainment Group, Inc. and subsidiaries (the “Company”) did not maintain effective internal control over financial reporting as of September 30, 2006, because of the effect of material weaknesses identified in management’s assessment based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.

 

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinions.

 

A company’s internal control over financial reporting is a process designed by, or under the supervision of, the company’s principal executive and principal financial officers, or persons performing similar functions, and effected by the company’s board of directors, management, and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

 

Because of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper management override of controls, material misstatements due to error or fraud may not be prevented or detected on a timely basis. Also, projections of any evaluation of the effectiveness of the internal control over financial reporting to future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

A material weakness is a significant deficiency, or combination of significant deficiencies, that results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected. The following material weaknesses have been identified and included in management’s assessment:

 

Controls over the Financial Close and Reporting Process

 

(i) The Company incorrectly accounted for a new store lease as an operating lease when it should have been recorded as owned property under EITF Issue no. 97-10, The Effect of Lessee Involvement in Asset Construction, resulting in a material weakness. This error has been corrected in the 2006 financial statements. (ii) The Company also had deficiencies related to the operating effectiveness over the recording of non-routine transactions, reviews of period-end reconciliations and analyses, and processing of reclassifications and adjustments. These deficiencies aggregated to a material weakness. These deficiencies resulted in misstatements that were not material to the financial statements; however, in the aggregate, these deficiencies in internal control result in a more than remote

likelihood that a material error would not have been prevented or detected, and therefore, constitute a material weakness.

 

Controls for Recording Fixed Asset Additions and Disposals

 

The Company had operating deficiencies in its internal control procedures with respect to the assignment of useful lives to leasehold improvements, the timely review of the fixed asset ledger, the assignment of in-service dates and useful lives to fixed asset additions and a design deficiency with respect to effective policies and procedures to ensure that fixed asset disposals were reported and recorded. These significant deficiencies aggregated to a material weakness. These deficiencies resulted in misstatements that were not material to the financial statements; however, in the aggregate, these deficiencies in internal control result in a more than remote likelihood that a material error would not have been prevented or detected, and therefore, constitute a material weakness.

 

These material weaknesses were considered in determining the nature, timing, and extent of audit tests applied in our audit of the consolidated financial statements and financial statement schedule as of and for the year ended September 30, 2006, of the Company and this report does not affect our report on such financial statements and financial statement schedule.

 

In our opinion, management’s assessment that the Company did not maintain effective internal control over financial reporting as of September 30, 2006, is fairly stated, in all material respects, based on the criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Also in our opinion, because of the effect of the material weaknesses described above on the achievement of the objectives of the control criteria, the Company has not maintained effective internal control over financial reporting as of September 30, 2006, based on the criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.

 

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements and financial statement schedule as of and for the year ended September 30, 2006, of the Company and our report dated December 20, 2006 expressed an unqualified opinion on those financial statements and financial statement schedule and includes an explanatory paragraph relating to the adoption of Statement of Financial Accounting Standards No. 123(R), “Share-Based Payment” and Securities and Exchange Commission Staff Accounting Bulletin No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in the Current Year Financial Statements” in fiscal 2006.

 

Deloitte & Touche LLP

 

Boston, Massachusetts

December 20, 2006

 

None.

 

The information required by this Item is included in the definitive Proxy Statement for the Company’s 2007 Annual Meeting of Stockholders, to be filed with the Commission on or about December 22, 2006 (the “2007 Proxy Statement”), under “Election of Directors” and is incorporated herein by reference.

 

We have adopted a code of ethics applicable to our principal executive officer, principal financial officer and principal accounting officer or controller, as well as other senior officers. The code of ethics is publicly available on our website at www.tweeter.com. Amendments to this Code and any grant of a waiver from a provision of the Code requiring disclosure under applicable SEC rules will be disclosed on the Company’s website.

 

Information with respect to this item is incorporated by reference from our definitive proxy statement (or amendment to this Annual Report on Form 10-K) to be filed with the Commission within 120 days of the end of the fiscal year ended September 30, 2006.

 

Information with respect to this item is incorporated by reference from our definitive proxy statement (or amendment to this Annual Report on Form 10-K) to be filed with the Commission within 120 days of the end of the fiscal year ended September 30, 2006.

 

Information with respect to this item is incorporated by reference from our definitive proxy statement (or amendment to this Annual Report on Form 10-K) to be filed with the Commission within 120 days of the end of the fiscal year ended September 30, 2006.

 

Information with respect to this item is incorporated by reference from our definitive proxy statement (or amendment to this Annual Report on Form 10-K) to be filed with the Commission within 120 days of the end of the fiscal year ended September 30, 2006.

 

(a)(1) Financial Statements.  The financial statements required to be filed by Item 15 of this Annual Report on Form 10-K, and filed herewith, are as follows:

 

Consolidated Balance Sheets as of September 30, 2006 and 2005

 

Consolidated Statements of Operations for the Years Ended September 30, 2006, 2005 and 2004

 

Consolidated Statements of Stockholders’ Equity for the Years Ended September 30, 2006, 2005 and 2004

 

Consolidated Statements of Cash Flows for the Years Ended September 30, 2006, 2005 and 2004

 

Notes to Consolidated Financial Statements

 

(a)(2) Financial Statement Schedules.

Schedule II attached

 

(a)(3) Exhibits.

 

See the Exhibit Index included immediately preceding the Exhibits to this Form 10-K.

 

(b) Reports on Form 8-K.

 

The Company filed the following reports on Form 8-K during the fourth quarter of 2006:

 

On July 14, 2006, we filed with the Securities and Exchange Commission a Current Report on Form 8-K to announce sales results for the quarter ended June 30, 2006.

 

On July 28, 2006 we filed with the Securities and Exchange Commission a Current Report on Form 8-K to announce our earnings results for the quarter ended June 30, 2006 and the appointment of John Esposito to our audit committee.

 

On August 1, 2006 we filed with the Securities and Exchange Commission a Current Report on Form 8-K to announce an amendment to Gregory Hunt’s Employment Agreement.

 

On September 27, 2006 we filed with the Securities and Exchange Commission a Current Report on Form 8-K to announce the appointment of Karen Kaplan to our compensation committee.

SCHEDULE II

 

TWEETER HOME ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES

 

VALUATION AND QUALIFYING ACCOUNTS

 

Allowance for Doubtful Accounts (amounts in thousands)

 

 

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.

 

Tweeter Home Entertainment Group, Inc.

 

Joseph McGuire
President and Chief Executive Officer

 

Date: December 21, 2006

 

Gregory Hunt
Senior Vice President and Chief Financial Officer

 

Date: December 21, 2006

 

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.

 

 

Tweeter Home Entertainment Group, Inc. and Subsidiaries

 

 

To the Board of Directors and Stockholders of
  Tweeter Home Entertainment Group, Inc.

 

We have audited the accompanying consolidated balance sheets of Tweeter Home Entertainment Group, Inc. and subsidiaries (the “Company”) as of September 30, 2006 and 2005, and the related consolidated statements of operations, stockholders’ equity, and cash flows for each of the three years in the period ended September 30, 2006. Our audits also included the financial statement schedule listed in the Index at Item 15(a)(2). These financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on the financial statements and financial statement schedule based on our audits.

 

We conducted our audits in accordance with standards of the Public Company Accounting Oversight Board (United States). 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, such consolidated financial statements present fairly, in all material respects, the financial position of Tweeter Home Entertainment Group, Inc. and subsidiaries as of September 30, 2006 and 2005, and the results of their operations and their cash flows for each of the three years in the period ended September 30, 2006, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

 

During fiscal 2006, the Company adopted Statement of Financial Accounting Standards No. 123(R), “Share-Based Payment” (as discussed in Notes 2 and 3) and Securities and Exchange Commission Staff Accounting Bulletin No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements” (as discussed in Notes 2 and 15).

 

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of the Company’s internal control over financial reporting as of September 30, 2006, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated December 20, 2006 expressed an unqualified opinion on management’s assessment of the effectiveness of the Company’s internal control over financial reporting and an adverse opinion on the effectiveness of the Company’s internal control over financial reporting because of material weaknesses.

 

Deloitte & Touche LLP

 

Boston, Massachusetts

December 20, 2006

TWEETER HOME ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES

 

 

See notes to consolidated financial statements

TWEETER HOME ENTERTAINMENT GROUP, INC. AND SUBSIDIARIES