COST U LESS INC
Cost-U-Less operates mid-sized warehouse club-style stores in the United States Territories, foreign island countries in the Pacific and the Caribbean, the Hawaiian Islands and Sonora, California. Our primary strategy is to operate in island markets, offering predominately U.S. branded goods. We currently operate eleven retail stores as follows: two stores in each of Hawaii and Guam, and one store in each of St. Thomas, St. Croix, American Samoa, Fiji, Curacao, St. Maarten and Sonora, California. Our management focus relative to our core island store operations includes reviewing our merchandising strategies, both those that apply to all stores and those specific to each store, in light of the different conditions in each market. We also continue to explore ways to maximize long-term value for our shareholders, including focusing on means to increase earnings, responding to competition, and improving same store sales and gross margins. While we believe these actions can improve profitability, there can be no assurance that these actions will be successful. We are also currently evaluating methods of implementing future growth, including expansion opportunities in selected markets and relocation opportunities for stores in existing markets with leases expiring in the next few years, as we did with our St. Croix store in 2005. Additionally, we believe that although there are a number of new island markets that have the attributes necessary to support a growth strategy for our business, licensing restrictions and political resistance to foreign retailers, among other things, make it difficult for us to enter some of these markets. In July 2005, the Cayman Islands Trade and Business Licensing Board granted us approval to operate a retail and wholesale business in the Cayman Islands through a controlled subsidiary. This is the first in a series of steps that we must take before we can open a store operating under the Cost-U-Less name in the Cayman Islands. We do not have an approximate timing as to when a new store would open in the Cayman Islands, if at all, but expect that it will take at least twelve to eighteen months once the permitting, governmental approval and lease process is complete. In the meantime, we are actively working with local architects and engineers to more precisely define the type of building we could construct as a prelude to applying for construction permits. We currently have no plans to open stores in new markets during fiscal 2006.  3       Industry Overview Traditional warehouse clubs such as Costco Wholesale Corporation, BJ’s Wholesale Club, Inc. and Sam’s Club, a division of Wal-Mart Stores, Inc., focus on both retail and small-business customers, with store formats averaging approximately 130,000 square feet. These retailers typically   •     offer a range of national brand and selected private label products at low prices, often in case, carton or multiple-pack quantities;   •     provide no-frills, self-service warehouse facilities with pallet-stacked product aisles; and   •     charge annual membership fees.    Although we employ many of the retailing methods of the larger participants in the warehouse club industry, we operate smaller stores (averaging approximately 32,000 square feet), we do not charge a membership fee, we typically locate our stores in smaller geographic areas with less concentrated population centers, and we rely to a greater degree on long-haul water transportation than do other such companies. While the typical U.S. warehouse club customer has virtually unlimited access to popular U.S. brand-name products, we believe that these products are carried by relatively few local retailers in a number of island markets. Moreover, island markets often demonstrate unique consumer preferences, which typically require retailers to conduct local research and incorporate flexible merchandise purchasing policies in order to offer a diverse selection of local products, as well as popular U.S. brand-name products. Business Strategy Our current business strategy is to   •   enter small island markets familiar with the warehouse club concept;   •   offer U.S. goods where availability of such goods is minimal and significant demand exists;   •   leverage island-operations and long-haul logistics expertise;   •   utilize modern systems and merchandising methods;   •   offer competitive prices while maintaining favorable margins; and  •   provide a local product mix.    Expand to New Markets.  The pace at which we will open new stores will be dictated by availability and ease of entry. We plan to refine our expansion efforts to focus on markets we believe have a high U.S. brand awareness and demand, as well as other attributes that typify the markets in which our most successful stores are located. Future development of our business will be directed to markets in which we believe we can compete effectively by offering competitive prices while maintaining low costs of goods and services to consumers. We believe that there are a number of new island markets with the attributes prescribed by our existing growth strategy, however, licensing restrictions and political resistance to foreign retailers make it difficult for us to enter some of these markets. In July 2005 the Cayman Islands Trade and Business Licensing Board granted approval for us to operate a retail and wholesale business in the Cayman Islands through a controlled subsidiary. This is the first in a series of steps that we must take before we can open a store operating under the Cost-U-Less name in the Cayman Islands. We do not have an approximate timing as to when a new store would open in the Cayman Islands, if at all, but expect that it will take at least twelve to eighteen months once the permitting, governmental approval and lease process is complete. Additionally, we are currently in the process of renovating and expanding the size of our store in St. Thomas by approximately 6,400 square feet (an increase of approximately 18%) and remodeling our Kauai store to add retail enhancements such as fresh produce by the pound. In addition to these projects, we continue to explore expansion opportunities in selected markets and additional relocation opportunities for stores in existing markets. We currently have no plans to open stores in new markets during fiscal 2006. Enter Markets Familiar With Warehouse Concept.  We plan to seek markets that have some familiarity with the warehouse club concept. Residents of potential island markets often gain familiarity with the warehouse club concept through travel to the U.S. and other markets where warehouse clubs are present. We believe that the presence of this attribute has helped accelerate market acceptance of our stores in the past. Offer U.S. Goods in Markets with Minimal Supply and Significant Demand.  We believe that markets that have awareness and acceptance of U.S. goods but have limited access to those goods offer substantial sales and profit  4       potential. We believe that procuring U.S. goods in large volumes and shipping them long distances to island stores are two of our core competencies. Leverage Island-Operations and Long-Haul Logistics Expertise.  Through our experience in opening and operating retail warehouse club-style stores in the U.S. Territories, foreign island countries and the Hawaiian Islands, we believe that we have developed a depth of expertise in dealing with the inherent challenges of island market operations. We have refined a mid-sized building prototype that is designed to endure most severe island weather conditions and that incorporates low construction costs and easily replicated specifications. Through our long-standing relationships with steamship lines, we negotiate what we believe to be competitive transportation rates while selecting efficient shipping routes and utilizing cost-effective freight handling techniques, including the use of both Company-operated cross-dock depots and independently operated distribution facilities. Utilize Modern Systems and Merchandising Methods.  We believe that many merchants in our most promising target markets have not adopted modern retail operating efficiencies and do not have access to vendor network and distribution channels equivalent to those we have developed. By utilizing the modern systems and merchandising methods we have developed, we believe that we can achieve greater efficiencies and higher margins than other local island retailers. Emphasize Strong Margins While Maintaining Everyday Low Prices.  In addition to providing a pleasant shopping atmosphere, we strive to sell products at prices that we believe are lower than those offered by our local island competitors. By leveraging our retail operating efficiencies, access to volume-purchasing discounts and distribution capabilities, we believe that we are able to acquire some products at a significantly lower cost than that paid by other local island retailers. Use Localized Product Sourcing While Deriving Benefits of Centralized Purchasing.  We conduct market research through our vendors, store managers and resident employees to ascertain the product preferences of each particular locale, including which U.S. brands are favored and which regional and ethnic items are desired. To the extent possible, our buyers then procure these products through our centralized purchasing department, thus deriving the benefits of volume purchase discounts, streamlined distribution and enhanced selection. The remaining products, including locally produced items that are available only in a particular region, are generally purchased by store managers and our corporate buyers directly from suppliers located in the region. Market and Site Selection We believe that there are certain key attributes for successful stores, such as acceptance and demand for U.S. goods, familiarity with the warehouse concept, and absence of large warehouse club competition. Once we identify a target location as a possible site for expansion and we are satisfied with the political and regulatory environment in the target location, we compare the prices charged by local competitors to the prices we would need to charge in order to achieve an acceptable return on our investment (after factoring in cost of the product, cost of freight, duties, port charges, transportation and taxes). If our market research indicates that we would be able to charge an adequate price for our products, we then commence a formal search for a suitable store site. Desirable attributes of suitable sites include a central location in a population center, sufficient space for our facility, including parking and loading docks, access to utilities and acceptable geological conditions for successful construction. We generally do not intend to own the land or buildings for our stores. However, to the extent that we believe it to be advantageous to purchase land for our new store sites or to construct new store buildings, we may use our cash resources or financing sources during the construction period and subsequently attempt to obtain permanent financing after the stores are opened. Our ability or the ability of a potential landlord to secure financing for new stores is subject to the availability of commercial real estate financing on acceptable terms. Failure to secure adequate financing on a timely basis would delay or potentially prevent new store openings. We opened our first retail warehouse store in 1989 in Hawaii and now operate eleven stores throughout the U.S. Territories, foreign island countries in the Pacific and the Caribbean, the Hawaiian Islands and Sonora, California. Our primary strategy is to operate in island markets, offering predominately U.S. branded goods. Our management focus relative to our core island store operations includes reviewing our merchandising strategies, both those that apply to all stores and those specific to each store, in light of the different conditions in each market. We also continue to explore ways to maximize long-term value for our shareholders, including  5       focusing on means to increase earnings, responding to competition, and improving same store sales and gross margins. We are currently evaluating methods of implementing future growth, including expansion opportunities in selected markets and relocation opportunities for stores in existing markets. Additionally, we are reviewing a number of new island markets that have the attributes necessary to support a growth strategy for our business. However, licensing restrictions and political resistance to foreign retailers, among other things, make it difficult for us to enter some of these markets. In July 2005, the Cayman Islands Trade and Business Licensing Board granted approval for us to operate a retail and wholesale business in the Cayman Islands through a controlled subsidiary. This is the first in a series of steps that we must take before we can open a store operating under the Cost-U-Less name in the Cayman Islands. We do not have an approximate timing as to when a new store would open in the Cayman Islands, if at all, but expect that it will take at least twelve to eighteen months once the permitting, governmental approval and lease process is complete. In the meantime, we are actively working with local architects and engineers to more precisely define the type of building we could construct as a prelude to applying for construction permits. While we believe these actions can improve profitability, there can be no assurance that these actions will be successful. On May 26, 2005, we moved our St. Croix store into a newly constructed building on a parcel of land located closer to the main trade area in the center of the island than our former store. The size of the new store is 38,000 square feet, a 45% increase in square footage over the previous store. Additionally, we are currently in the process of renovating and expanding the size of our store in St. Thomas by approximately 6,400 square feet (an increase of approximately 18%) and remodeling our Kauai store to add retail enhancements such as fresh produce by the pound. In addition to these projects, we continue to explore expansion opportunities in selected markets and additional relocation opportunities for stores in existing markets. Store Layout We have incorporated into our prototype store many standard features found in domestic warehouse clubs that have not been previously used in many island markets. Store layout and interior designs were planned and calculated using computer models, with the goal of maximizing the sales per square foot and providing uniformity among the stores. Further, we believe that we are able to gain a competitive advantage over most of our competitors by utilizing:   •   loading docks;   •   comparatively large freezer and refrigeration space with state-of-the-art equipment;   •   efficient shelving and display racks;   •   computerized cash registers and inventory tracking systems;   •   multiple checkout lanes;   •   fresh meat departments, including rotisserie meat items in selected markets; and   •   produce items for sale by the pound, in selected markets.    Each of our stores is outfitted with adjustable metal shelving that allows us to vary the display of our products based on each location’s specific consumer needs. Each island store has backup generators designed to protect perishables and the store’s security system during disruption of electric service caused by severe weather conditions that can occur in island markets. We have used considerable care in developing our store layout, which features a logical flow to encourage shopping of all departments. When ready for check out, the customer proceeds to the check-out area in the front of the store, which usually features ten lanes. During a typical store visit, the average customer spent approximately $53 in 2005. We accept various forms of payment in each store, including food stamps and debit and credit cards, and we selectively extend credit to some local businesses and government agencies. Utilizing a “no-frills” approach, we display items in steel racking, usually on vendors’ pallets or in open cases, to maximize warehouse space and minimize labor costs. We utilize in-store signage to reinforce our basic value image, and we strive to generate customer excitement through the use of end-cap displays featuring new merchandise and special promotions, food demonstrators offering product samples, and ongoing introduction of new items. We have also attempted to design our stores to minimize our costs. For example, we achieve lower construction and maintenance costs because we do not use expensive fixtures such as floor tiles and false ceilings. In addition, our refrigeration supplier has designed specialized refrigeration units using modern equipment that allows for cost-effective monitoring, maintenance and repair, and helps keep our energy costs to a minimum. We have also  6       developed standardized construction specifications and have negotiated competitive prices on building materials, such as metal exterior panels, building components, store equipment and shelving, allowing us better control of material costs on a per-facility basis and helping us obtain more uniformity of materials throughout our facilities. Merchandising We typically carry approximately 3,000 stock-keeping units, or SKUs, compared to the 4,000 to 5,000 SKUs industry sources estimate are carried by traditional warehouse clubs. Our stores do not have certain departments found in most large-format warehouse clubs, such as automobile tire, bakery, photo finishing and prescription drug departments. Our stores feature the following main product categories: Food-Perishables.  Meat, produce, deli, dairy and frozen items represent approximately 27% of a typical store’s net sales. The “reach-in” freezers and coolers are substantially larger than those found in the stores of most of our local island competitors. During fiscal 2003, we added rotisserie chicken and ribs in Curacao, Samoa and our two Guam stores. We also began offering our produce for sale by the pound in our Guam stores during fiscal 2003, in our Sonora store during fiscal 2004 and in our St. Croix and Curacao stores in fiscal 2005. Food-Non-perishables.  Dry grocery goods, including soda, wine, beer, liquor, candy and snacks, represent approximately 40% of a typical store’s net sales. Also included in this area are ethnic and specialty items catering to local consumer demands. Nonfood.  Other nonfood items comprise the remaining 33% of a typical store’s net sales, and include tobacco, pet products, sundries, health and beauty aids, office products, hardware, electronics, housewares, furniture and sporting goods. Purchasing.  We balance our product mix by providing popular U.S. brand name products together with local ethnic items found in each island region. Approximately 25% of our items are produced locally or purchased through local suppliers in each market. We believe offering locally purchased merchandise enables us to better serve our island customers and offer an innovative variation to the warehouse store format. Our store managers are able to purchase product that may be available only on their particular islands. Our corporate buyers monitor sales and inventory levels on a daily basis from all of our stores. In an effort to cater to retail customers who generally purchase products for home use, we carry products in various product sizes, including single packages, “bulk packages” and mid-sized “value-packs.” We purchase merchandise from manufacturers and suppliers on a purchase order basis. Pricing.  We strive to be the “low price leader” for the markets we serve. We do not charge our customers a membership fee, thereby allowing all consumers to receive the benefits of our value-pricing philosophy. We believe that we provide everyday low prices that are often lower than regular prices offered at most retailers, such as grocery stores, and are generally intended to be slightly lower than those offered by mass merchant discount retailers, such as Wal-Mart and Kmart, that operate in some of our island markets. In our ongoing effort to achieve the lowest prices offered in a particular market, we regularly compare prices and products being offered by our local competitors. Generally, given the economic efficiencies that we can bring to bear with our ability to purchase product in large quantities as well as our efficient distribution system that allows us to take advantage of favorable freight and transportation costs, we believe that we have a competitive advantage when pricing most of our products compared to local competition. However, if the comparison of local competitors’ prices discloses that our prices exceed those of our local competition, then our store managers have the authority to reduce prices to remain competitive. We believe this decentralization of pricing decisions allows us to respond quickly and efficiently to competitive challenges in each of our island markets. Distribution We operate a distribution facility in San Leandro, California, and we use third-party operated facilities in Port Everglades, Florida and Sacramento, California. To a lesser extent, we use third-party facilities in Auckland, New Zealand and Sydney, Australia to serve our Fiji and Samoa markets. We have no written agreements with the independently operated distribution facilities, but instead have month-to-month service relationships. At each distribution facility, merchandise is received, consolidated and cross-docked, and ultimately shipped in fully loaded containers to our stores under the supervision of our own Cost-U-Less trained employees. The depot has a “lane” designated for each store. When a full container load is queued into a specific lane, goods are loaded by forklift into a cargo container, which, when filled, is then delivered to the closest port for shipment to the designated store. Our management has significant experience and long-term relationships with steamship lines and, with our present  7       volume, has negotiated what we believe to be competitive transportation rates. We do not have a warehouse, but control inventory levels in our stores by maintaining sufficient back stock in the stores combined with efficient cross-dock facilities. For perishable items, such as meats and frozen and chill goods, we use independently operated refrigerated depots. Fruits and vegetables are purchased direct from established suppliers who ship the refrigerated containers on a direct basis to each store. Management Information Systems We consider our management information systems to be a key component of our business model. Each day we track inventory movement, sales and purchase orders by SKU number, vendor number, store and date. We use electronic point-of-sale equipment in all our stores. During 2006, we plan to replace our current point-of-sale (POS) system with a new and improved version that will cost approximately $0.7 to $1.0 million (most of which will be financed with a capital lease). Our current POS system has been in place since 1993 and is nearing the end of its useful life. We believe our new POS system will allow us to transmit data more reliably, remotely manage our store systems from our corporate office and will provide a foundation for future growth and operational enhancement tools. We take pride in being a leader in technology in the island markets we serve and our new POS system will help preserve our position as a leader. All data and communications from each location are sent via our company wide area network, to the computer system located at our headquarters in Washington State. Our company wide area network provides communications capabilities that allow for quick responses to ever-changing customer needs and local retail opportunities. The ability to quickly and consistently communicate between our headquarters and store locations is necessary since our stores are located in such remote locations. Employee Organization, Training and Compensation Management of each of our stores generally consist of a store manager, one assistant manager and two to three department managers, depending on the store. The merchandising manager oversees the training and day-to-day operations of the stockers and forklift operators. The receiving manager oversees the day-to-day receiving operations and the receiving clerks. The administrative manager oversees the training and day-to-day operations of the vault clerks, cashiers and security personnel, if applicable. In addition, we have both a Caribbean and a Pacific regional manager in our corporate office that supervise our store managers. Our goal is to hire most of our employees from the island market in which the particular store resides, thus creating job opportunities for local residents. New store employees initially receive one to two weeks of training, which typically includes working alongside individuals in comparable positions before working without direct supervision. We have found that such on-the-job training, together with the use of detailed operating and training manuals, is an effective way to introduce new employees and managers to our systems and procedures. In total, we employ approximately 600 people worldwide. As of March 20, 2006, we had approximately 55 full-time equivalent employees at our corporate office and depots located in the United States. None of our employees are currently covered by a collective bargaining agreement. However, several of our hourly employees in our St. Maarten store have joined the local union. We strive to attract and retain highly motivated, performance-oriented employees and managers by offering competitive compensation, including bonus programs based on performance. Our Store Manager Bonus Program provides for annual bonuses for store managers based on store and company performance. We also provide an incentive bonus program for all store employees based on sales and inventory control targets. Customer Service We bring a commitment to customer service that we believe gives us a competitive advantage in each of the local markets we serve. Our store layout is designed to maximize floor space used for selling product as well as to give customers a spacious feel while shopping. We accept various forms of payment, including food stamps and credit and debit cards, and we selectively extend credit to some local businesses and government agencies. For most items, we have a 30-day, no-questions-asked return policy. Each of our stores has approximately ten checkout lanes, which allows for quick and efficient shopping. Each store features a customer desk where customers can have questions answered, usually by a management team member. We also train our employees to help customers locate store products.  8       Marketing and Advertising We generally rely on word-of-mouth advertising in order to save on advertising and marketing costs and pass on the savings to our customers. We have historically spent less than 0.2% of net sales on advertising; which consists of approximately fifteen advertisements per year in each market. However, in more competitive markets we generally experience higher marketing and advertising costs. To remain competitive in the St. Thomas and Guam markets, among other things, we implemented a customer loyalty program for our customers. Our customers earn “points” based on the dollar amount of items purchased in our stores, which affords them with the opportunity to receive gift certificates for merchandise in our stores and other promotional items. We rolled out a similar customer loyalty program in Curacao during the second quarter of fiscal 2005. Competition The warehouse club and discount retail businesses are highly competitive. We have historically faced significant competition from warehouse clubs and discount retailers such as Wal-Mart, Kmart and Costco in Hawaii, from Kmart in the U.S. Virgin Islands and Guam, and from PriceSmart in St. Thomas and Guam. We believe that we compete effectively with membership warehouse clubs and discount retailers in the markets in which our stores reside by offering a balanced product mix, convenient shopping facilities, a high level of customer service and competitive pricing. Our competition also includes local, national and international grocery store chains. Some of our competitors have substantially greater resources, buying power and name recognition than we have. The cost of doing business in island markets is typically higher than on the U.S. mainland because of ocean freight and duty costs and higher facility costs. While we expect that the size of some of the markets in which we operate or expect to enter will delay or deter entry by many of our larger competitors, there can be no assurance that our larger competitors will not decide to enter these markets or that other competitors will not compete more effectively against us. Our gross margin and operating income are generally lower for those stores in markets where traditional warehouse clubs and discount retailers also operate stores, due to increased price competition and reduced market share. If a traditional warehouse club or discount retailer were to enter one of our existing markets, our operating results would likely suffer. To remain competitive in our markets, we may be required to reduce prices and take other actions. Historically, we have remodeled stores and implemented customer loyalty programs for our customers in response to increased competition. There is an indication that Costco has acquired a parcel of land in Kauai, Hawaii, and that it may open a new store in 2006. Although we have historically faced competition from Costco in Hawaii, our gross margin and operating income for our Kauai store will likely be lower in fiscal 2006 if Costco opens a store in Kauai due to the increased competition and reduced market share and the actions we may be required to take to remain competitive in Kauai. Intellectual Property We obtain proprietary rights protection for trademarks by filing applications for registrable marks with the U.S. Patent and Trademark Office. We have been granted federal registration of the name and stylized logo “Cost-U-Less.” In addition, we rely on trade secret laws to protect our proprietary rights. While we believe that our trademarks and other proprietary know-how have significant value, changing technology and the competitive marketplace make our future success dependent principally upon our employees’ technical competence and our business strategy. There can be no assurance that third parties will not assert claims against us with respect to existing and future trademarks, trade names and sales techniques. In the event of litigation to determine the validity of any third party’s claims, such litigation could result in significant expense and divert the efforts of our management, whether or not such litigation is determined in our favor. Governmental Regulation We are subject to various applicable laws and regulations administered by federal, state and foreign regulatory authorities, including, but not limited to, laws and regulations regarding tax, tariffs, currency repatriation, zoning, employment and licensing requirements. Additionally, should we pursue future expansion in foreign countries, our  9       operations would be subject to additional foreign regulatory standards, laws and regulations, in addition to customs, duties and immigration laws and regulations. Changes in the foregoing laws and regulations, or their interpretation by agencies and the courts, occur from time to time. While we believe that we presently comply in all material respects with such laws and regulations, there can be no assurance that future compliance will not have a material adverse effect on our business, financial condition and operating results. Available Information We file reports with the Securities and Exchange Commission, including annual reports on Form 10-K, quarterly reports on Form 10-Q and other reports from time to time. You may read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 450 Fifth Street, NW, Washington, DC 20549. You may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. We are an electronic filer and the SEC maintains an Internet site at http://www.sec.gov that contains the reports, proxy and information statements, and other information filed electronically. Additional information about Cost-U-Less, Inc. is available at www.costuless.com. Item 1A. Risk Factors You should carefully consider the following factors that may affect future results and other information included in this annual report. The risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties not presently known to us or that are currently deemed immaterial also may impair our business operations or could cause actual results to differ from historical results or those anticipated. If any of the following risks actually occur, our business, financial condition and operating results could be materially adversely affected. Because we have a small store base, adverse store performance or increased expenses will have a more significant adverse impact on our operating and financial results than if we had a larger store base.  We opened our first store in 1989 and opened a total of 21 stores through December 2005 and presently operate eleven stores. Our closure of the ten other stores prior to March 2001 adversely affected our operating results. Should any existing store experience a significant decline in profitability or any new store be unprofitable, the negative effect on our business would be more significant than would be the case if we had a larger store base, and could have a material adverse effect on our business, financial condition and results of operations. In addition, if our general and administrative expenses increase, the negative effect on our business and results of operations would be more significant than if we had a larger store base. Although we intend to carefully plan for the implementation of additional stores, there can be no assurance that such plans can be executed as envisioned or that the implementation of those plans will not have a material adverse effect on our business, financial condition and results of operations. In addition, our ability to acquire products at a lower cost than competitors or obtain volume-based pricing can be adversely affected because of our small store base. Our ability to operate profitably in existing markets and to expand into new markets may be adversely affected by competing warehouse clubs or discount retailers.  The warehouse club and discount retail businesses are highly competitive. If we fail to successfully respond to competitive pressures in this industry, or to effectively implement our strategies to respond to these pressures, our operating results may be negatively affected. Many of our competitors have substantially greater resources, buying power and name recognition than we have. The cost of doing business in island markets is typically higher than on the U.S. mainland because of ocean freight and duty costs and higher facility costs. In addition, our gross margin and operating income are generally lower for stores in markets where traditional warehouse clubs and discount retailers also operate stores, due to increased price competition and reduced market share. We may be required to implement price reductions and other actions in order to remain competitive in our markets. For example, there is an indication that Costco may open a new store in Kauai in 2006, which would likely cause our gross margin and operating income for our Kauai store to be lower in fiscal 2006 due to the increased competition and reduced market share and the actions we may be required to take to remain competitive in Kauai. Furthermore, our ability to expand into and operate profitably in new markets may be adversely affected by the existence or entry of competing warehouse clubs or discount retailers. These factors could result in reduced sales and margins or loss of market share, any of which could negatively affect our results of operations. One or more of our stores may be damaged or destroyed by volatile weather conditions or natural disasters, which would severely harm our business and financial results.  Our stores are primarily located on islands subject to volatile weather conditions and natural disasters, such as tsunamis, hurricanes, floods, typhoons and earthquakes.  10       If the islands on which any of our stores is located experienced any of these or other severe weather conditions or natural disasters, one or more of our stores could be damaged significantly or destroyed. For example, on December 8, 2002, our two stores on the island of Guam suffered damage from Supertyphoon Pongsona, resulting in the immediate closure of both stores. Our Tamuning store lost its generator in the storm and our Dededo store had to be closed for reconstruction. Additionally, we have four stores in the Caribbean, which has experienced increased activity from hurricanes and tropical storms in the past few years. The damage or destruction of one or more of our stores would materially harm our business, operating results and financial condition. We could also experience business interruptions, delays in shipping, delays in construction or loss of life as a result of severe weather conditions, any of which could materially affect our business. If we were to experience a catastrophic loss as a result of severe weather conditions or otherwise, we may exceed our insurance policy limits and we may have difficulty obtaining similar insurance coverage in the future.  We maintain property, casualty and business interruption insurance coverage in amounts we consider customary in our industry for these types of events. However, insurance payments generally do not fully reimburse us for all of the damages and lost profits caused by adverse weather events. If any insurance reimbursement we receive does not fully cover the losses and business interruption caused by severe weather events or natural disasters, or if our insurance coverage is not adequate to cover such losses or we exceed our insurance policy limits, we may be required to pay substantial amounts and our financial condition and liquidity would suffer. Additionally, we utilize a combination of insurance policies and self-insurance mechanisms to provide for the potential liabilities for property insurance, general liability, director and officers’ liability, workers’ compensation and employee health care insurance. The costs related to obtaining our current insurance coverage have been increasing. If the costs of maintaining this insurance coverage continue to increase significantly, we would experience an associated increase in our store and administrative expenses that may negatively impact our results of operations. In addition, there is no assurance as to how casualty insurance carriers may react to increasing weather related damages in areas where are stores are located. If we are unable to maintain our current or similar insurance coverage, or if an event were to occur that was not covered by our current insurance policy coverage levels (including acts of terrorism, war and actions such as government nationalizations), our business and results of operations could suffer. If energy costs and fuel surcharges continue to rise, the profitability of our stores may decline and our business and financial condition could suffer.  We have experienced increasing energy and fuel surcharge costs over the last few years and have largely been able to pass these additional costs on to our customers with higher prices. For example, in fiscal 2005 our energy (utility) expenses were 17% higher than the same period in fiscal 2004. If these costs continue to rise, we may not be able to continue the practice of passing on these additional costs to our customers. Our inability to effectively pass on these costs to our customer could have a significant adverse effect on our business, results of operations and financial condition. If we fail to effectively manage the logistical and local operating challenges we face because our business primarily consists of island and international operations, our business and results of operations would suffer.  Our net sales from island operations represented approximately 94.5% of our total net sales for fiscal 2005. We expect that our island and international operations together will continue to account for nearly all of our total net sales. The distance, as well as the time-zone differences, involved with island locations impose significant challenges to our ability to manage our operations. Logistical challenges are presented by operating individual store units in remote locations, whether in terms of information flow or transportation of goods. In addition, island operations involve uncertainties arising from items such as:   •   Changes in local labor markets, including unionization and inadequate labor pools;   •   Local business practices, language and cultural considerations, including the capacity or willingness of local business and government officials to provide necessary services;   •   Ability to acquire, install and maintain modern capabilities such as dependable and affordable electricity, telephone, computer, Internet and satellite connections often in undeveloped regions;   •   Political, military and trade tensions;   •   Currency exchange rate fluctuations and repatriation restrictions;   •   Local economic conditions;   •   Difficulty enforcing agreements or protecting intellectual property;   •   Collection of debts and other obligations in foreign countries; and     11         •   Volatile island operating expenses, including utilities.    Our inability to effectively manage these logistical challenges and local uncertainties inherent in our island and international operations could have a significant adverse effect on our business, results of operations and financial condition. We do not have operating experience in many of the markets in which we may consider opening new stores. If we are unable to adapt our operations to support any future expansion plans or if any new stores we open are not profitable, our business and financial condition could suffer.  We have not opened stores in foreign island markets at a rapid pace. Although we have no plans to open stores in new markets during 2006, we continue to explore expansion opportunities in selected markets and additional relocation opportunities for stores in existing markets. For example, in May 2005 we moved our St. Croix store into a newly constructed building on a parcel of land located closer to the main trade area in the center of the island than our former store and in July 2005 the Cayman Islands Trade and Business Licensing Board granted approval for us to operate a retail and wholesale business in the Cayman Islands through a controlled subsidiary. New markets such as the Cayman Islands and others we may enter may present operational, competitive, regulatory and merchandising challenges that are different from those we currently encounter. We do not have operating experience in many of the markets in which we may consider opening new stores. In fact, in June 2000, we closed the two stores that we had opened in New Zealand in 1999, as they had performed below expectations, due in part to competitive and merchandising challenges that are different from our other stores. Additionally, in February 2001, we closed one of our two Fiji stores, due primarily to the impact that political turmoil and the resulting economic downturn in Fiji were having on the tourist industry. We have encountered, and may continue to encounter, substantial delays, increased expenses or loss of potential store sites due to the complexities, cultural differences, and local political issues associated with the regulatory and permitting processes in the island markets in which we may locate our stores. There can be no assurance that we will be able to adapt our operations to support our future expansion plans or that any new stores will be profitable. Any failure on our part to manage our growth could have a material adverse effect on our business, financial condition and results of operations. A decline in the general economic condition in the United States or in island markets in which we operate could have a significant impact on our financial performance.  The success of our operations depends to a significant extent on a number of factors relating to discretionary consumer spending, including employment rates, business conditions, interest rates, inflation, population and gross domestic product levels in each of our island markets, taxation, consumer spending patterns and customer preferences. We cannot fully foresee the changes in business and economic conditions that may result from domestic or foreign factors. There can be no assurance that consumer spending in our markets will not be adversely affected by these factors, thereby affecting our growth, net sales and profitability. A downturn in tourism or a decline in the national or regional economies of the United States and the U.S. Territories or any foreign countries in which we currently or will operate, could have a material adverse effect on our business, financial condition and results of operations. A prolonged decrease in tourism and air travel could have an indirect but significant impact on our financial performance, operations and liquidity.  Because our operations are primarily located in U.S. Territories and foreign island countries throughout the Pacific and Caribbean, the success of our operations depends to a significant extent on tourism and the travel industry. Prolonged adverse occurrences affecting tourism or air travel, particularly to non-U.S. destinations, including political instability, armed hostilities, terrorism, weather conditions, or other activity that involves or affects air travel or the tourism industry generally, could have an indirect but adverse and significant impact on our financial performance, operations, liquidity or capital resources. The loss of key personnel or our inability to successfully hire skilled store managers could harm our business and results of operations.  Our success depends in large part on the abilities and continued service of our executive officers and other key employees. Additionally, we rely significantly on the skill and expertise of our on-site store managers, particularly in island markets where language, education and cultural factors may impose additional challenges. We do not carry key-man life insurance on any of our personnel. There can be no assurance that we will be able to hire, train and retain skilled managers and personnel to support our existing business and any growth, or that we will be able to retain the services of our executive officers and other key employees, the loss of any of whom could have a material adverse effect on our business, financial condition and results of operations. If our information systems are disrupted or outgrown, our business and results of operations could suffer.  Our business is highly dependent on communications and information systems, primarily systems provided by third-  12       party vendors. Any failure or interruption of our systems or systems provided by third-party vendors could cause delays or other problems in our operations, which could have a material adverse effect on our business, financial condition and results of operations. In addition, our point of sale information and transaction processing system may not be adequate for our business if we experience rapid expansion in the number of our stores. If our point of sale system is outgrown, we would need to develop and install a new point of sale system in our stores, which could be expensive and time consuming and could cause our results of operations to suffer. If our store employees decided to become unionized, we may experience increased operating costs or other operation problems.  None of our employees are currently covered by a collective bargaining agreement. However, several of our hourly employees in our St. Maarten store have joined the local union. Unionization of any of our stores could result in higher employee compensation and restrictive working condition demands that could increase our operating costs and have a material adverse effect on our business, financial condition and results of operations. We are subject to various governmental regulations and licensing requirements, which may have an adverse effect on our business.  Governmental regulations and licensing requirements in foreign countries where we plan to expand our operations might prevent or delay entry into the market or prevent or delay the introduction, or require modification, of certain of our operations. For example, in July 2005 the Cayman Islands Trade and Business Licensing Board granted approval for us to operate a retail and wholesale business in the Cayman Islands through a controlled subsidiary. However, this is the first in a series of steps that we must take before we can open a store operating under the Cost-U-Less name in the Cayman Islands and we expect that it could take at least twelve to eighteen months once the permitting, governmental approval and lease process is complete. Additionally, our ability to compete may be adversely affected by foreign governmental regulations and licensing requirements that encourage or mandate the employment of citizens of, or purchase of supplies from vendors, in a particular jurisdiction. We may also be subject to taxation in these foreign jurisdictions, and the final determination of our tax liabilities may involve the interpretation of the statutes and requirements of the various domestic and foreign taxing authorities. We may also be subject to currency repatriation restrictions. If governmental regulations or licensing requirements prevent or delay our entry into market, require modification of our existing operations, or subject us to taxation or currency repatriation issues, our business, financial condition and results of operations could suffer. If we are unable to overcome challenges resulting from the isolation of store operations from our corporate management and our increased dependence on local managers, we may experience decreased productivity or other operational problems.  Our headquarters and administrative offices are located in Washington State; however, ten of our eleven stores and a majority of our employees are located on islands. Although we invest resources to hire and train our on-site managers, the inability of our executives to be physically present at our current and planned store sites on a regular basis may result in the following:   •   Isolation of store operations from corporate management and an increased dependence on store managers;   •   Diminished ability to oversee employees, which may lead to decreased productivity or other operational problems;   •   Construction delays or difficulties caused by inadequate supervision of the construction process; and   •   Communication challenges.    We may need to invest significant resources to update and expand our communications systems and information networks and to devote a substantial amount of time, effort and expense to national and international travel in order to overcome these challenges; failure to do so could have a material adverse effect on our business, financial condition and results of operations. We may encounter disruption in the transportation of our products, which would significantly harm our business.  Our island locales require the transportation of products over great distances on water, which results in the following:   •   Substantial lags between the procurement and delivery of product, thus complicating merchandising and inventory control methods;   •   Possible loss of product due to potential damage to, or destruction of, ships or containers delivering our goods;   •   Tariff, customs and shipping regulation issues;   •   Substantial ocean freight and duty costs;     13         •   Port and container security issues; and   •   Interruption in the delivery of product due to labor disruption or weather related issues.    Moreover, only a limited number of transportation companies service our regions, none of which has entered into a long-term contract with us. The inability or failure of one or more key transportation companies to provide transportation services to us, changes in the regulations that govern shipping tariffs or any other disruption in our ability to transport our merchandise could have a material adverse effect on our business, financial condition and results of operations. Our failure to adequately address barriers and challenges associated with expansion outside of the United States or its territories could cause our business to suffer.  Three of our stores are located outside the United States or its territories. Our future expansion plans may involve entry into additional foreign countries, which may involve additional or heightened barriers and challenges that are different from those we currently encounter, including risks associated with being further removed from the political and economic systems in the United States and anti-American sentiment as a result of political or military action. We do not currently engage in currency hedging activities. The failure to adequately address the additional challenges involved with international operations could have a material adverse effect on our business, financial condition and results of operations. Certain provisions in our charter documents and elsewhere may discourage third parties from attempting to acquire control of our Company, which may have an adverse effect on the price of our stock.   Our board of directors has the authority, without obtaining shareholder approval, to issue up to 2,000,000 shares of preferred stock and to fix the rights, preferences, privileges and restrictions of such shares without any further vote or action by our shareholders. Our articles of incorporation and bylaws also provide for a classified board and special advance notice provisions for proposed business at annual meetings. In addition, Washington law contains certain provisions that may have the effect of delaying, deferring or preventing a hostile takeover of our company. Further, we have a shareholder rights plan that is designed to cause substantial dilution to a person or group that attempts to acquire our company without approval of our board of directors, and thereby make a hostile takeover attempt prohibitively expensive for a potential acquirer. These provisions, among others, may have the effect of making it more difficult for a third party to acquire, or discouraging a third party from attempting to acquire, control of our company, even if shareholders may consider such a change in control to be in their best interests, which may cause the price of our common stock to suffer.
None.  14
We currently lease a majority of our existing store locations. We also lease the land for our St. Thomas and St. Maarten stores, but own the store facilities. We own both the land and building for our St. Croix store. The stores average approximately 32,000 square feet and range in size from approximately 22,000 square feet to approximately 39,000 square feet. Traditional warehouse stores found in the United States average approximately 130,000 square feet. Our store leases typically have a term of 10 years with options to lease for an additional 5 to 10 years and typically are net leases. With the exception of our Sonora store, which opened in an existing facility, all of our stores have been built to our specifications. We recently developed a new and larger store “footprint” based on our re-built Guam store. This footprint averages 35,000 to 40,000 square feet. The larger and improved footprint allows us to add retail enhancements such as fresh produce by the pound and rotisserie chicken, features we successfully added to our stores in St. Croix , Curacao, California and both Guam stores. We have developed a standard lease that we use as a starting point for our lease negotiations with each potential landowner/developer. We routinely negotiate 10-year leases with at least two five-year renewal options. The following is a summary of our store locations:    Location              Date Opened        Approximate Store Square Footage        Current Lease Term        Current Expiration Date        Remaining Options to Extend    Dededo, Guam                    May 1, 1992              38,800            15 years        May 31, 2017        10 years    Hilo, Hawaii                    August 27, 1992              23,000            15 years        August 31, 2007        10 years    Kapaa, Kauai                    March 18, 1993              22,000            17 years        April 22, 2010        10 years    St. Thomas, USVI (Land Lease) (1)                    August 19, 1993 (2)              36,000            20 years        September 30, 2017        30 years    Sonora, CA                    January 27, 1994              23,150            10 years        April 30, 2009        5 years    St. Croix, USVI (3)                    November 3, 1994              38,000             —        Own the Land & Building         —    Tamuning, Guam                    March 15, 1995              35,000            15 years        March 1, 2010        10 years    Pago Pago, American Samoa                    March 20, 1995              32,055            10 years        February 28, 2015        5 years    Suva, Fiji                    November 12, 1998              30,000            10 years        November 1, 2008        10 years    Curacao, Netherlands Antilles                    March 2, 1999              38,711            10 years        February 1, 2009        10 years    St. Maarten, Netherlands Antilles (Land Lease)                    June 29, 2000              36,000            25 years        February 25, 2024        30 years        (1)   We are currently in the process of renovating and expanding the size of our store in St. Thomas by approximately 6,400 square feet (an increase of approximately 18%). On November 29, 2005, we amended our St. Thomas lease to provide for increased rent as a result of the increased size of our store. No other terms and conditions of the original lease were amended.   (2)   We relocated and reopened our St. Thomas store on June 25, 1998.   (3)   On May 26, 2005, we relocated our St. Croix store to a newly constructed building on a parcel of land, which is located closer to the main trade area in the center of the island. This new building expanded the size of our St. Croix store by about 45% to approximately 38,000 square feet.    While we currently own the land and building of our new St. Croix store, it is our intent to eventually refinance our St. Croix store, and any future relocations and new stores, either through an operating lease, a sale-leaseback arrangement or long-term funding from a financial institution. We intend to continue leasing as many of our store locations as feasible. In those instances where a lease is not available on acceptable terms, we intend to finance our stores utilizing long-term funding from a financial institution (as we currently do for our St. Thomas and St. Maarten buildings). Although we currently have no plans to open stores in new markets during fiscal 2006, in July 2005 the Cayman Islands Trade and Business Licensing Board granted approval for us to operate a retail and wholesale business in the Cayman Islands through a controlled subsidiary. This is the first in a series of steps that we must take before we can open a store operating under the Cost-U-Less name in the Cayman Islands. We do not have an approximate timing as to when a new store would open in the Cayman Islands, if at all, but expect that it will take at least twelve to eighteen months once the permitting, governmental approval and lease process is complete. In the meantime, we are actively working with local architects and engineers to more precisely define the type of building we could construct as a prelude to applying for construction permits.  15       On April 5, 2004, we relocated our principal offices to a new location approximately ten miles from our former offices. Our lease consists of approximately 9,000 square feet of office space in Bellevue, Washington, and expires on March 31, 2009. In addition, we lease our San Leandro distribution facility. The facility is approximately 56,000 square feet, and the lease expires on January 31, 2007. We also use third-party operated distribution facilities in Florida, California, New Zealand and Australia.  16
We may be subject to legal proceedings or claims, either asserted or unasserted, that arise in the ordinary course of business. While the outcome of these potential claims cannot be predicted with certainty, we do not believe that any pending legal matters will have a material adverse effect on us. However, any adverse outcome to future lawsuits against us may result in a material adverse affect on our financial condition.
No matters were submitted to a vote of our shareholders during the fourth quarter of the fiscal year ended January 1, 2006.  17       PART II
Market Information Our common stock is currently traded on the Nasdaq Capital Market under the symbol “CULS.” The last sale price of our common stock on the Nasdaq Capital Market on March 20, 2006 was $8.05 per share. High and low sales prices for our common stock for the periods indicated are as follows. Such prices reflect inter-dealer prices, without retail mark-up, mark-down or commission and may not necessarily represent actual transactions.               Stock Price        Year          High      Low   Fiscal 2005 (ended January 1, 2006)                                                    First Quarter                  $  10.96           $  6.26      Second Quarter                     11.94              7.05      Third Quarter                     9.05              6.01      Fourth Quarter                     7.85              5.58        Fiscal 2004 (ended December 26, 2004)                                                    First Quarter                  $  7.35           $  2.90      Second Quarter                     7.23              4.65      Third Quarter                     7.00              4.75      Fourth Quarter                     6.52              4.95       We have never declared nor paid any cash dividends on our common stock. We currently anticipate that we will retain all future earnings for use in the expansion and operations of our business and do not anticipate paying cash dividends in the foreseeable future. Holders As of March 20, 2006, there were 44 holders of record of our common stock. This figure does not include the number of shareholders whose shares are held of record by a broker or clearing agency, but does include each such brokerage house or clearing agency as a single holder of record.  18
Jan 01, 2006      Dec.26, 2004      Dec.28, 2003      Dec.29, 2002      Dec.30, 2001   Income Statement Data:                                                                                                            Net sales                  $ 219,414           $ 209,390           $ 177,066           $ 176,190           $ 177,856      Gross profit                     40,801              38,524              31,503              29,215              28,932      Operating Expenses:                                                                                                                Store                     28,567              26,408              22,304              22,181              21,288      General and administrative                     6,828              7,103              6,853              5,934              5,786      Store opening                     335               188               287               14               68       Store closing                     81               0               0               0               0       Operating income                     4,990              4,825              2,059              1,086              1,790      Interest expense, net                     (367 )             (437 )             (458 )             (375 )             (589 )     Other income (expense)                     42               80               710               (236 )             (155 )     Income before income taxes                     4,665              4,468              2,311              475               1,046      Income tax provision                     1,650              1,780              930               190               490       Net income                  $  3,015           $  2,688           $  1,381           $  285            $  556       Earnings per common share:                                                                                                                Basic                  $  0.77           $  0.72           $  0.38           $  0.08           $  0.15      Diluted                  $  0.72           $  0.69           $  0.38           $  0.08           $  0.15      Weighted average common shares outstanding, basic                     3,939              3,732              3,614              3,606              3,606      Weighted average common shares outstanding, diluted                     4,169              3,916              3,671              3,615              3,607        Selected Operating Data:                                                                                                            Stores opened (1)                     0               0               1               0               0       Stores closed (1)                     0               0               0               1               1       Stores open at end of period                     11               11               11               10               11       Average net comparable store sales per square foot(2)(3)                  $  605            $  590            $  530            $  490            $  485       Comparable-store net sales increase (decrease)(2)(3)                     4.7 %             13.6 %             8.2 %             1.4 %             (4.7 )%       Consolidated Balance Sheet Data:                                                                                                            Working capital                  $  9,253           $  8,614           $  6,567           $  4,707           $  2,568      Total assets                     49,632              46,202              40,940              40,190              41,606      Line of credit                     80               0               960               2,367              2,173      Long-term debt, less current portion                     2,011              2,277              2,544              2,811              3,077      Capital lease, less current portion                     1,329              607               0               0               0       Total shareholders’ equity                     24,043              19,933              17,000              15,595              15,341          (1)   On December 8, 2002, our two stores on the island of Guam suffered damage from Supertyphoon Pongsona, resulting in the immediate closure of both stores. Our Tamuning store lost its generator in the storm but reopened shortly thereafter on December 12, 2002. Our Dededo store, however, suffered more significant damage, and had to be closed for reconstruction. The store was rebuilt and it reopened for business on October 3, 2003.   (2)   Fiscal 2005 was a 53-week year; all other fiscal years were 52-week years. Comparable store net sales and average sales per square foot for fiscal 2005 have been adjusted to reflect a 52-week year. Our fiscal quarters are 13 weeks, except 4th quarter 2005, which was a 14 week quarter.   (3)   A new store becomes comparable after it has been open for a full 13 months. Comparable-store net sales increases for fiscal 2002, fiscal 2003 and fiscal 2004 are calculated on stores excluding the Guam market as our Dededo store was closed from December 8, 2002, until its reopening on October 3, 2003.     19
This Management’s Discussion and Analysis contains forward-looking statements. All statements other than statements of historical fact made in this annual report are forward-looking. Forward-looking statements reflect management’s current expectations and are subject to risks and uncertainties discussed below and those identified in Item 1A of this annual report on Form 10-K that could cause actual results to differ materially from historical results or those anticipated. Overview We operate mid-sized warehouse club-style stores in the United States Territories, foreign island countries in the Pacific and the Caribbean, the Hawaiian Islands and Sonora, California. Our primary strategy is to operate in island markets, offering predominately U.S. branded goods. We currently operate eleven retail stores as follows: two stores in each of Hawaii and Guam, and one store in each of St. Thomas, St. Croix, American Samoa, Fiji, Curacao, St. Maarten and Sonora, California. Our stores are patterned after the warehouse club concept, although our stores   •   are smaller (averaging approximately 32,000 square feet vs. large format warehouse clubs of approximately 130,000 square feet);   •   generally target niche markets, mainly U.S. Territories, U.S. island states and foreign island countries, where demographics do not support large format warehouse clubs;   •   carry a wide assortment of local and ethnic food items; and   •   do not charge a membership fee.    Although we do not have large seasonal fluctuations in sales, the fourth quarter is typically the highest sales quarter due to additional holiday sales. During fiscal 2005, we built a new St. Croix store on a parcel of land located closer to the main trade area in the center of the island than our existing store. This new building expanded the size of our St. Croix store by about 45% to approximately 38,000 square feet. The new store opened on May 26, 2005. Until it opened, we operated in our former location under a short-term lease with our former landlord. On December 8, 2002, our two stores on the island of Guam suffered damage from Supertyphoon Pongsona, resulting in the immediate closure of both stores. Our Tamuning store lost its generator in the storm, but reopened shortly thereafter on December 12, 2002. Our Dededo store, however, suffered more significant damage, and had to be closed for reconstruction. The store was rebuilt and it reopened for business on October 3, 2003. During fiscal 2005 we experienced a 4.7% increase in comparable store sales (as adjusted to reflect a 52-week year) as compared to a 13.6% increase in fiscal 2004. The increase in comparable store sales for fiscal 2005 was due to several factors including general inflationary trends and ongoing merchandising initiatives. Increasing energy prices have impacted our cost of doing business in the form of higher freight charges and store utility costs, however operating margins were maintained due to improved merchandising and reduced expenses in other areas. Store Economics We generally report our results based on a 52-week year; however, fiscal 2005 was a 53-week year. The following store economic information has been adjusted for comparability to a 52-week year, by excluding the 53rd week (the last week of December 2005) from the same store sales calculations in order to provide a normalized comparison against the corresponding fiscal periods in 2004. During fiscal 2005, on a 52-week year basis, our eleven stores generated annual average net sales of approximately $19.2 million, average net sales per square foot of approximately $605, average annual per store contribution of approximately $1.1 million, and average annual per store contribution before depreciation of approximately $1.2 million. Store contribution is store gross profit less direct store operating expenses.  20       Results of Operations The following table sets forth, for the periods indicated, the percentage of our net sales represented by certain consolidated income statement data.               Fiscal Year Ended                   January 1, 2006 (1)      December 26, 2004      December 28, 2003   Net sales                     100.0  %             100.0  %             100.0  %     Gross margin                     18.6              18.4              17.8      Operating Expenses:                                                                        Store                     13.0              12.6              12.6      General and administrative                     3.1              3.4              3.9      Store opening                     0.2              0.1              0.2      Store closing                     —               —               —       Operating income                     2.3              2.3              1.2      Interest expense, net                     (0.2 )             (0.2 )             (0.3 )     Other income (expense)                     —               —               0.4      Income before income taxes                     2.1              2.1              1.3      Income tax provision                     0.7              0.8              0.5      Net income                     1.4  %             1.3  %             0.8  %         (1)   Fiscal 2005 was a 53-week year; all other fiscal years were 52-week years.    Fiscal 2005 Compared to Fiscal 2004 Net Sales.  Net sales for the 53 weeks in fiscal 2005 were $219.4 million, an increase of 4.8%, as compared to net sales of $209.4 million for the 52 weeks in fiscal 2004. Approximately 36% of the increase was due to the benefit of an additional week of sales in fiscal 2005 as compared to fiscal 2004. The balance of the increase was due to comparable-store sales increases offset by a decline in business-to-business sales as compared to fiscal 2004. We expect the level of business-to-business activity for fiscal 2006 to be similar or slightly less than the levels in 2005. Comparable-store sales (stores open for a full 13 months) increased 4.7% during fiscal 2005 (as adjusted to reflect a 52-week year) as compared to fiscal 2004. All but one of our stores experienced increased sales as compared to the prior year, primarily due to general inflationary trends, improvements in our assortment of goods and operating improvements including better in-stock inventory levels. Gross Margin.  Gross margin improved to $40.8 million, or 18.6% of sales, in fiscal 2005 from $38.5 million, or 18.4% of sales, in fiscal 2004. The increase in gross profit as a percent of sales resulted primarily from a stronger mix of retail store sales, with typically higher margins, as compared to business-to-business sales, which generally provide a lower gross margin but are executed at minimal direct expense. Store Expenses.  Store expenses increased to $28.6 million, or 13.0% of sales, for fiscal 2005 as compared to $26.4 million, or 12.6% of sales, for fiscal 2004. Approximately 30% of the dollar increase in store expenses was attributable to increased payroll and related costs attributable to the higher volume of sales in fiscal 2005. As a percent of store sales, payroll and related costs were 5.2% of store sales in both fiscal 2005 and fiscal 2004. Increased energy (utility) expenses, which were 17% higher than the same period in the prior year, accounted for an additional 28% of the dollar increase in store expenses. We expect energy costs to continue to increase for the foreseeable future. The remainder of the dollar increase was primarily attributable to an increase of 10% in bankcard fees (primarily attributable to higher sales volume), an 8% increase in commercial insurance expense, and increases in depreciation and advertising in fiscal 2005 as compared to fiscal 2004. General and Administrative Expenses.  General and administrative expenses decreased to $6.8 million, or 3.1% of sales, in fiscal 2005, as compared to $7.1 million, or 3.4% of sales, in fiscal 2004. The decrease in general and administrative expenses in fiscal 2005 was primarily due to lower compensation costs largely resulting from decreased performance based awards pursuant to our incentive bonus program as compared to the same awards in the prior year.  21       Store Opening Expense.  Store opening expenses were $0.3 million in fiscal 2005, as compared to $0.2 million in fiscal 2004. The increase in store opening expenses in fiscal 2005 primarily related to costs associated with the relocation of our St. Croix store, which opened on May 26, 2005. Expenses for both years include costs associated with the evaluation of potential new store locations. Store Closing Expenses:  Store closing expenses of $0.1 million in fiscal 2005 are due to the costs incurred with closing our former St. Croix location after we relocated our store on May 26, 2005. Net Interest Expense.  Interest expense, net, remained flat at $0.4 million for both fiscal 2005 and fiscal 2004, as increased interest costs associated with rising interest rates in fiscal 2005 were offset by the capitalization of approximately $104,000 in interest related to the construction of our St. Croix store, as compared to $12,000 capitalized in the prior year. Other income (expense):  Other income (expense) declined to $42,000 for fiscal 2005, as compared to $80,000 for the same period in the prior year. The decrease in fiscal 2005 as compared to the prior year, was primarily due to losses exceeding gains on foreign currency transactions and translation of intercompany balances for transactions that exceed the permanent investments in foreign countries in fiscal 2005, partially offset by the receipt of a $100,000 non-recurring insurance reimbursement. The income and losses on foreign currency in both fiscal years was primarily attributable to appreciation/depreciation in the Fijian dollar as compared to the U.S. dollar. Income Tax Provision.  We recorded a tax provision in fiscal 2005 of $1.7 million, or 35.4% of pre-tax income. The tax provision primarily represents taxes associated with income generated in the U.S. and U.S. Territories. Additionally, during fiscal 2005, due to certain tax planning strategies, we were able to offset a portion of our foreign subsidiary losses against foreign subsidiary income, which resulted in a decrease in our effective tax rate as compared to prior years. As of January 1, 2006, we have foreign net operating loss carryforwards (NOLs) of approximately $7.5 million, some of which, if not utilized, will begin expiring in the year 2006. The NOLs include approximately $3.9 million related to Curacao and St. Maarten which are not subject to expiration time limits. Our ability to utilize the NOLs is dependent upon generating taxable income in these foreign jurisdictions. As a result, we have recorded a valuation allowance of $2.4 million attributable to the $2.6 million of tax benefits recorded for net operating loss carryforwards. Net Income.  Our net income was $3.0 million, or $0.72 per fully diluted share, in fiscal 2005, compared to net income of $2.7 million, or $0.69 per fully diluted share, in fiscal 2004. Fiscal 2004 Compared to Fiscal 2003 Net Sales.  Net sales in fiscal 2004 of $209.4 million increased 18.3%, as compared to net sales of $177.1 million for the comparable period in the prior year. Approximately 50% of the increase was due to the reopening of our store in Dededo, Guam in October 2003. The balance of the increase was due to comparable-store sales increases offset by a decline in business-to-business sales as compared to fiscal 2003. Comparable-store sales (stores open for a full 13 months) increased 13.6% during fiscal 2004 as compared to fiscal 2003. Comparable-store sales are calculated on stores excluding the Guam market as our Dededo, Guam store was closed during the corresponding periods in the prior year and during those periods our Tamuning, Guam store benefited from the temporary closure of our Dededo store. All of our other stores experienced increased sales as compared to the prior year, primarily due to improvements in our assortment of food and general merchandise, operating improvements including better in-stock inventory levels and improved economic conditions in some of our markets. Gross Margin.  Gross margin improved to $38.5 million, or 18.4% of sales, in fiscal 2004 from $31.5 million, or 17.8% of sales, in fiscal 2003. The increase in gross profit as a percent of sales resulted primarily from better sourcing, pricing and merchandising of goods in our stores and a stronger mix of retail store sales, with typically higher margins, as compared to business-to-business sales, which generally provide a lower gross margin but are executed at minimal direct expense. Store Expenses.  Store expenses increased to $26.4 million for fiscal 2004 as compared to $22.3 million for fiscal 2003, but remained flat as a percent of sales at 12.6% of sales for both fiscal 2004 and fiscal 2003. Approximately 50% of the dollar increase in store expenses was attributable to increased expenses associated with  22       operating eleven stores during all of fiscal 2004 as compared to ten stores for ten of the twelve months in fiscal 2003. The remainder of the dollar increase was primarily attributable to a 43% increase in commercial insurance expense, a 13% increase in energy (utility) expense and a 3% increase in rent expense, accelerated depreciation related to the planned 2005 relocation of our St. Croix store, and higher volume-related expenses such as payroll and bankcard fees. As a percent of store sales, payroll and related costs declined in 2004 to 5.2% as compared to 5.5% of store sales in 2003. General and Administrative Expense.  General and administrative expenses increased to $7.1 million in fiscal 2004, as compared to $6.9 million in fiscal 2003. The increase was primarily due to a 34% increase in compensation costs largely resulting from increased performance based awards pursuant to our incentive bonus program. Additionally, we had a 36% increase in commercial insurance costs, partially offset by non-recurring costs incurred in 2003 in connection with a $0.5 million write-down of idle fixed assets from previously closed stores and the acceleration of depreciation of leasehold improvements related to our corporate office move, as well as fiscal 2003 transaction costs incurred in connection with our discussions with ASSI, Inc. regarding a potential strategic business combination that did not occur. General and administrative expenses as a percent of sales decreased to 3.4% in fiscal 2004, as compared to 3.9% in the corresponding period in the prior year, primarily due to the leveraging of corporate expenses over increased store sales. Store Opening Expense.  Store opening expenses were $188,000 in fiscal 2004, as compared to $287,000 in fiscal 2003. Store opening expense in fiscal 2004 related to costs associated with the evaluation of potential new store locations and current store relocations. Store opening expenses in fiscal 2003 primarily related to the reopening of our Dededo, Guam store. Net Interest Expense.  Interest expense, net, decreased to $0.4 million in fiscal 2004 as compared to $0.5 million in fiscal 2003, as borrowings on our line of credit decreased compared to the prior year. Other income (expense):  Other income of $0.1 million in fiscal 2004 was primarily attributable to gains on foreign currency transactions and translation of intercompany balances for transactions that exceeded the permanent investments in those countries. Other income of $0.7 million in fiscal 2003 included a gain of $0.4 million related to the receipt of insurance reimbursements for damage to inventory and equipment sustained from the supertyphoon in Guam and gains of $0.3 million on foreign currency transactions and translation of intercompany balances for transactions that exceeded the permanent investments in those countries. The income on foreign currency in both fiscal years was primarily attributable to appreciation in the Fijian dollar as compared to the U.S. dollar. Income Tax Provision.  We recorded a tax provision in fiscal 2004 of $1.8 million, or 39.8% of pre-tax income. The tax provision represents taxes associated with income generated in the U.S. and U.S. Territories. No taxes or tax benefits were provided on foreign pre-tax losses in fiscal 2004, as we cannot predict whether we will be able to generate an adequate amount of taxable income in the future to utilize such benefits. As of December 26, 2004, we had foreign NOLs of approximately $8.2 million, some of which, if not utilized, begin expiring in the year 2006. The NOLs include approximately $4.5 million related to Curacao and St. Maarten which are not subject to expiration time limits. Our ability to utilize the NOLs is dependent upon generating taxable income in the foreign jurisdictions. As a result, we recorded a valuation allowance of $2.4 million attributable to the $2.8 million of tax benefits recorded for net operating loss carryforwards. Net Income.  Our net income was $2.7 million, or $0.69 per fully diluted share, in fiscal 2004, compared to net income of $1.4 million, or $0.38 per fully diluted share, in fiscal 2003. Liquidity and Capital Resources We currently finance our operations with proceeds from various credit facilities and internally generated funds. Although we utilized existing working capital to finance the $5.6 million used to purchase the land and construct our new St. Croix store, we hope to re-finance our St. Croix store, and any future relocations and new stores, either through an operating lease, a sale-leaseback arrangement or long-term funding from a financial institution. We intend to continue leasing as many of our store locations as feasible. In those instances where a lease is not available on acceptable terms, we intend to finance our stores utilizing long-term funding from a financial institution (as we currently do for our St. Thomas and St. Maarten buildings). We generated $4.1 million, $5.7 million and $3.9 million of net cash from operations during fiscal 2005, fiscal 2004 and fiscal 2003, respectively. The $1.6 million decrease in net cash provided by operations in 2005 as compared  23       to 2004, was primarily due to a decrease in accounts payable and other accrued expenses of $5.2 million, partially offset by a decrease in cash used for inventory purchases of $3.7 million. The increase in net cash provided by operations in 2004 as compared to 2003, was primarily due to an increase in net income of $1.3 million and an increase in accounts payable of $3.3 million, partially offset by an increase in cash used for inventory of $2.7 million. Net cash used in investing activities was $6.2 million, $2.5 million and $1.9 million, for fiscal years 2005, 2004 and 2003, respectively. The cash used in investing activities during fiscal 2005, was primarily due to costs associated with the construction of the new building in St. Croix where we relocated our St. Croix store on May 26, 2005. The cash used in investing activities in fiscal 2004 was primarily due to the purchase of land in St. Croix for approximately $0.9 million and costs associated with the construction of the building on this parcel of land. The relocated store is closer to the main trade area in the center of the island than the existing store and has now been increased in size by about 45% to 38,000 square feet. The cash used in investing activities in 2003 primarily related to the reopening of our Dededo, Guam store. The proceeds from insurance settlements received in fiscal 2004 and 2003 relate to insurance reimbursements received on fixed assets lost in the Supertyphoon in Guam. Although we currently have no plans to open stores in new markets during fiscal 2006, in July 2005 the Cayman Islands Trade and Business Licensing Board granted approval for us to operate a retail and wholesale business in the Cayman Islands through a controlled subsidiary. This is the first in a series of steps that we must take before we can open a store operating under the Cost-U-Less name in the Cayman Islands. We do not have an approximate timing as to when a new store would open in the Cayman Islands, if at all, but expect that it will take at least twelve to eighteen months once the permitting, governmental approval and lease process is complete. In the meantime, we are actively working with local architects and engineers to more precisely define the type of building we could construct as a prelude to applying for construction permits. In addition, we are currently in the process of renovating and expanding the size of our store in St. Thomas by approximately 6,400 square feet (an increase of approximately 18%). We anticipate that the cost associated with building construction and updating equipment will be approximately $1.4 to $2.0 million. Additionally, we anticipate spending approximately $0.2 million to remodel our Kauai store in order to add retail enhancements such as fresh produce by the pound. During fiscal 2006, we also plan to replace our current point of sale system with a new and improved version, which we anticipate will cost approximately $0.7 to $1.0 million, most of which will be financed with a capital lease. In addition to these projects, we continue to explore expansion opportunities in selected markets and additional relocation opportunities for stores in existing markets. Net cash provided by financing activities of $1.3 million in fiscal 2005 was primarily due to $1.0 million received on equipment purchased for our St. Croix store and $0.4 million received from the exercise of common stock options. Net cash used by financing activities of $1.1 million in fiscal 2004 was primarily due to a $1.0 million reduction in the balance on our line of credit and a $0.8 million decrease in bank checks outstanding, partially offset by $0.8 million of funds received on the sale-leaseback of equipment in Guam. In fiscal 2003, $1.4 million was used to reduce the balance on our line of credit, which was offset by an increase of $1.5 million in bank checks outstanding. Foreign currency translation resulted in a gain of $15,000 in fiscal 2004 and losses of $24,000 and $235,000 in fiscal years 2005 and 2003, respectively. The foreign currency translation gains and losses are a result of the translation of our subsidiaries’ operating results and balance sheets from local currencies to U. S. dollars. We have had a line of credit with Wells Fargo Business Credit since April 9, 2003. On May 26, 2005, we amended the line of credit to extend the maturity date of the facility from April 9, 2006, to May 18, 2007. Additionally, the amendment   •   reduced the interest rate to an annual interest rate equal to the prime rate;   •   reduced the minimum interest charge to not less than $25,000 per calendar year;   •   increased the unused line fee to a rate of three-eighths of one percent (0.375%) per annum on the average daily unused line; and   •   eliminated the one day interest charge on all payments received on the line of credit.    Borrowings continue to be limited to the lesser of $6.0 million or the amount calculated under the borrowing base. The borrowing base is equal to the lesser of (a) $6.0 million or (b) the sum of 70% of eligible inventory in the United States of America, plus 60% of eligible inventory in the U.S. Virgin Islands and Guam, less specified reserves.  24       The line of credit consists of a $6.0 million committed, secured revolving credit line with a sublimit for letters of credit and bankers acceptances in an amount up to $0.7 million. At January 1, 2006, there was $0.1 million outstanding on the line of credit and $0.1 million in letters of credit outstanding. Borrowings under the amended line of credit were charged interest at Wells Fargo’s prime rate plus 0.5% from the beginning of the most recent fiscal year through May 17, 2005, and at the prime rate from May 18, 2005, through January 1, 2006. At January 1, 2006, the rate charged by Wells Fargo was 7.25%. The line of credit contains various covenants, including a requirement that we maintain minimum pre-tax income and tangible net worth, as well as limitations on acquisitions, additional debt, changes in control and capital expenditures. We believe that we are currently in compliance with all such covenants. A significant portion of our cash flow is generated by our operations. If our operating results deteriorate as a result of a decrease in customer demand, declining economic conditions in the markets in which we have stores, or pricing pressures from our customers or our competitors, our ability to generate positive cash flow from operations may be jeopardized. We believe that amounts available under our various credit facilities, existing cash available for working capital purposes, and cash flow from operations will most likely be sufficient to fund our operations through the next twelve months. However, if such sources of liquidity are unavailable or insufficient to satisfy our liquidity requirements, we may need to issue equity or debt securities, obtain additional credit facilities or consider alternative financing arrangements. There can be no assurance that we will be able to obtain additional financing when needed, or that any available financing will be on terms acceptable to us. Contractual Obligations As of January 1, 2006, our commitments to make future payments under contractual obligations were as follows (in thousands):               Payments Due by Period        Contractual Obligations          Total      Less than 1 year      1 to 3 years      4 to 5 years      After 5 years   Long-term debt                  $  2,278           $  267            $  534            $  534            $  943       Operating leases                     29,987              4,893              8,799              5,136              11,159      Capital leases                     1,885              321               642               642               280       Total                  $ 34,150           $ 5,481           $ 9,975           $ 6,312           $ 12,382       Critical Accounting Policies We have chosen accounting policies that we believe are appropriate to report accurately and fairly our operating results and financial position, and we apply those accounting policies in a consistent manner. The significant accounting policies are summarized in Note 1 to the consolidated financial statements included in this annual report on Form 10-K. The preparation of financial statements in accordance with accounting principles generally accepted in the United States requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. We base our estimates on historical experience and other factors believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from those estimates. We believe that the following accounting policies are the most critical in the preparation of our financial statements because they involve the most difficult, subjective or complex judgments about the effect of matters that are inherently uncertain. Inventories Inventories are carried at the lower of average cost or market. We provide for estimated inventory losses between physical inventory counts on the basis of a percentage of sales. The provision is adjusted periodically to reflect the trend of actual physical inventory count results.  25       Long Lived Assets When facts and circumstances indicate that the carrying values of long-lived assets, including intangibles, may be impaired, we perform an evaluation of the recoverability by comparing the carrying value of the assets to projected future cash flows. Upon indication that the carrying value of such assets may not be recoverable, we recognize an impairment loss by a charge against current operations. Foreign Currency Translation The U.S. dollar is the functional currency for all our locations, except for Fiji and Netherlands Antilles, where the local currency is the functional currency. Assets and liabilities denominated in foreign currencies are translated at the applicable exchange rate on the balance sheet date. Net sales costs and expenses are translated at the average rates of exchange prevailing during the period. Adjustments resulting from this process are reported, net of taxes, as Accumulated Other Comprehensive Income (Loss), a component of Shareholders’ Equity. Realized and unrealized gains on foreign currency transactions are included in Other Income (Expense). The cumulative translation adjustment resulting from a net investment in a country is recognized as income or expense in the period we substantially liquidate operations in that country. Income Taxes Income tax expense includes U.S. and foreign income taxes. We account for income taxes under the liability method. Under the liability method, deferred tax assets and liabilities are determined based on differences between financial reporting and tax basis of assets and liabilities, and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. We apply judgment in determining whether it is more likely than not that the deferred tax assets will be realized, and valuation allowances are established when necessary. Our effective tax rate is currently higher than the expected federal statutory rate because valuation allowances have been established against the tax benefits of foreign losses, as we have no assurance that we will be able to generate an adequate amount of taxable income in the future to utilize such benefits. We are developing and implementing certain tax planning strategies, which may affect our ability to recognize some of the deferred tax assets that are currently allowed for and may ultimately change our estimate of the valuation allowance in future periods. Accounting Pronouncements In December 2004, the Financial Accounting Standards Board (the FASB) issued Statement 123 (revised 2004), “Share-Based Payment” (FAS 123(R)). FAS 123(R) requires that the compensation cost relating to share-based payment transactions be recognized in financial statements. The cost will be measured based on the fair value of the instruments issued. FAS 123(R) covers a wide range of share-based compensation arrangements including share options, restricted share plans, performance-based awards, share appreciation rights and employee share purchase plans. FAS 123(R) replaces FAS 123 and supersedes APB 25. As originally issued in 1995, FAS 123 established as preferable the fair-value-based method of accounting for share-based payment transactions with employees. However, that statement permitted entities the option of continuing to apply the guidance in APB 25, as long as the footnotes to the financial statements disclosed what net income would have been had the preferable fair-value-based method been used. We are required to apply FAS 123(R) as of the beginning of fiscal 2006. We expect to use the modified-prospective method effective with our first quarter of fiscal 2006. We believe that the adoption of this new accounting standard will not have a significant impact on our results of operations or financial position, as we have a limited amount of unvested options and options available for issuance in the future. On November 24, 2004, the FASB issued Statement No. 151 (FAS 151), “Inventory Costs,” an amendment of ARB No. 43, Chapter 4 which clarifies the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material. FAS 151 requires that abnormal items be recognized as current-period charges, as well as unallocated overheads recognized in the period in which they are incurred. The provisions of this statement are effective for inventory costs incurred during fiscal periods beginning after June 15, 2005. Our adoption of FAS 151 in our first quarter of fiscal 2006 is not expected to have a significant impact on our results of operations or financial position.  26
We operate stores in foreign countries and have market risks associated with foreign currencies. However, sales are primarily made in U.S. dollars or foreign currencies with minimal trade credit extended and no borrowings exist in foreign currencies. Cash deposited from sales are remitted back to the U.S. bank account routinely. We record gains and losses on foreign currency transactions, and translation of intercompany balances for transactions that exceed the permanent investments in those countries in Other Income (Expense). Gains and losses are primarily attributable to appreciation and (depreciation) in the Fijian dollar as compared to the U.S. dollar. We operate in three foreign countries that function under currencies other than the US dollar. Two of the these foreign countries operate under the Netherlands Antilles Guilder that has historically had an exchange rate fixed to the U.S. dollar but there can be no assurance that this will continue. If the Netherlands Antilles Guilder is allowed to float this would lead to an increase in foreign exchange volatility and risk which could have a materially adverse effect on our business, financial condition and operating results. There is also the possibility these three foreign countries that function under currencies other than the U.S. dollar could devalue their currency against the U.S. dollar at any time and if this was to occur there could be a materially adverse effect on our business, financial condition and operating results. We have also assessed our vulnerability to interest rate risk associated with our financial instruments, including, cash and cash equivalents, lines of credit and long term debt. Due to the nature of these financial instruments, we believe that the risk associated with interest rate fluctuations does not pose a material risk. Our line of credit and long-term debt can be expected to vary in the future as a result of future business requirements, market conditions and other factors. We did not have any derivative financial instruments as of January 1, 2006.  27
Page   Report of Independent Registered Public Accounting Firm                     29       Consolidated Financial Statements:                                Consolidated Statements of Operations                     30       Consolidated Balance Sheets                     31       Consolidated Statements of Shareholders’ Equity                     32       Consolidated Statements of Cash Flows                     33       Notes to Consolidated Financial Statements                     34         28       REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors and Shareholders Cost-U-Less, Inc. We have audited the accompanying consolidated balance sheets of Cost-U-Less, Inc. and subsidiaries as of January 1, 2006 and December 26, 2004, and the related consolidated statements of operations, shareholders’ equity, and cash flows for each of the three fiscal years in the period ended January 1, 2006. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We have conducted our audits 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 the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Cost-U-Less, Inc. and subsidiaries as of January 1, 2006 and December 26, 2004 and the results of their operations and their consolidated cash flows for each of the three fiscal years in the period ended January 1, 2006 in conformity with accounting principles generally accepted in the United States of America. Our audits were conducted for the purpose of forming an opinion on the basic consolidated financial statements taken as a whole. The consolidated financial statement schedule listed in Item 15 for three fiscal years in period ended January 1, 2006 is presented for purposes of additional analysis and is not a required part of the basic consolidated financial statements. This schedule has been subjected to the auditing procedures applied in the audit of the basic consolidated financial statements and, in our opinion, is fairly stated in all material respects in relation to the basic consolidated financial statements taken as a whole. /s/ Grant Thornton LLP Seattle, Washington March 6, 2006  29        COST-U-LESS, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands, except share data)               Fiscal Year Ended                   January 1, 2006      December 26, 2004      December 28, 2003   Net sales                  $  219,414           $  209,390           $  177,066      Merchandise costs                     178,613              170,866              145,563      Gross profit                     40,801              38,524              31,503      Operating expenses:                                                                        Store                     28,567              26,408              22,304      General and administrative                     6,828              7,103              6,853      Store openings                     335               188               287       Store closings                     81               —               —       Total operating expenses                     35,811              33,699              29,444        Operating income                     4,990              4,825              2,059      Other income (expenses):                                                                        Interest expense, net                     (367 )             (437 )             (458 )     Other                     42               80               710       Income before income taxes                     4,665              4,468              2,311      Income tax provision                     1,650              1,780              930       Net income                  $  3,015           $  2,688           $  1,381        Earnings per common share:                                                                        Basic                  $  0.77           $  0.72           $  0.38      Diluted                  $  0.72           $  0.69           $  0.38        Weighted average common shares outstanding, basic                     3,939,190              3,731,754              3,613,988      Weighted average common shares outstanding, diluted                     4,168,611              3,915,808              3,670,908        The accompanying Notes to Consolidated Financial Statements are an integral part of these statements. 30       COST-U-LESS, INC. CONSOLIDATED BALANCE SHEETS (in thousands, except share data)               January 1, 2006      December 26, 2004   ASSETS                                                Current assets:                                                    Cash and cash equivalents                  $  5,304           $  6,081      Accounts receivable (net of allowance of $80 and $205 in 2005 and 2004, respectively)                     843               805       Inventories                     23,027              23,140      Prepaid expenses                     260               365       Deferred taxes, net                     876               688       Total current assets                     30,310              31,079      Buildings and equipment, net                     18,550              14,345      Deposits and other assets                     772               778       Total assets                  $  49,632           $  46,202        LIABILITIES AND SHAREHOLDERS’ EQUITY                                                  Current liabilities:                                                    Accounts payable                  $  15,062           $  16,132      Accrued expenses                     5,402              5,937      Income taxes payable                     20               27       Line of credit                     80               —       Current portion of long-term debt                     267               267       Current portion capital leases                     226               102       Total current liabilities                     21,057              22,465      Deferred rent                     527               527       Deferred taxes, net                     665               393       Long-term debt, less current portion                     2,011              2,277      Capital lease, less current portion                     1,329              607       Total liabilities                     25,589              26,269        Commitments and Contingencies                     —               —         Shareholders’ equity:                                                    Preferred stock—$0.001 par value; Authorized shares—2,000,000; Issued and outstanding shares—none                     —               —       Common stock—$0.001 par value; Authorized shares—25,000,000; Issued and outstanding shares, 3,990,171 and 3,751,306 in 2005 and 2004, respectively                     13,931              12,795      Retained earnings                     10,926              7,911      Accumulated other comprehensive loss                     (814 )             (773 )     Total shareholders’ equity                     24,043              19,933      Total liabilities and shareholders’ equity                  $  49,632           $  46,202        The accompanying Notes to Consolidated Financial Statements are an integral part of these statements. 31       COST-U-LESS, INC. CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (in thousands, except share data)               Common Stock— Shares      Common Stock— Amount      Retained Earnings      Accumulated Other Comprehensive Loss      Total   Balance at December 29, 2002                     3,606,376           $  12,446           $  3,842           $  (693 )          $  15,595      Net income                     —               —               1,381              —               1,381      Foreign currency translation adjustments                     —               —               —               (127 )             (127 )     Comprehensive income                                                                                     1,254      Exercise of common stock options including income tax benefit                     82,000              151               —               —               151       Balance at December 28, 2003                     3,688,376              12,597              5,223              (820 )             17,000      Net income                     —               —               2,688              —               2,688      Foreign currency translation adjustments                     —               —               —               47               47       Comprehensive income                                                                                     2,735      Stock based compensation                     —               9               —               —               9       Exercise of common stock options including income tax benefit                     62,930              189               —               —               189       Balance at December 26, 2004                     3,751,306              12,795              7,911              (773 )             19,933      Net income                     —               —               3,015              —               3,015      Foreign currency translation adjustments                     —               —               —               (41 )             (41 )     Comprehensive income                                                                                     2,974      Stock based compensation                     —               24               —               —               24       Exercise of common stock options including income tax benefit                     238,865              1,112              —               —               1,112      Balance at January 1, 2006                     3,990,171           $  13,931           $ 10,926           $  (814 )          $  24,043        The accompanying Notes to Consolidated Financial Statements are an integral part of these statements. 32       COST-U-LESS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands)               January 1, 2006      December 26, 2004      December 28, 2003   OPERATING ACTIVITIES:                                                                        Net income                  $  3,015           $  2,688           $  1,381      Adjustments to reconcile net income to net cash provided by (used for) operating activities:                                                                        Depreciation and amortization                     1,934              1,849              1,816      Gain on property damaged by Supertyphoon Ponsonga                     —               —               (411 )     (Gain) loss on buildings and equipment                     66               (31 )             436       Deferred tax (benefit) provision                     84               264               (5 )     Tax benefit from exercise of stock options                     684               98               62       Allowance for doubtful accounts                     (125 )             (3 )             (16 )     Stock option expense                     24               9               —       Cash provided by changes in operating assets and liabilities:                                                                        Insurance receivable                     —               410               607       Accounts receivable                     87               36               891       Income tax receivable                     (7 )             555               276       Inventories                     113               (3,600 )             (914 )     Prepaid expenses                     105               35               (108 )     Deposits and other assets                     6               26               (16 )     Accounts payable                     (1,310 )             1,708              (1,624 )     Accrued expenses                     (535 )             1,676              1,637      Deferred rent                     —               29               (31 )     Net cash provided by operating activities                     4,141              5,749              3,981        INVESTING ACTIVITY:                                                                        Cash used to purchase buildings and equipment                     (6,293 )             (3,258 )             (1,987 )     Proceeds from sale of buildings and equipment                     71               —               —       Proceeds from insurance settlement                     —               725               121       Net cash used by investing activities                     (6,222 )             (2,533 )             (1,866 )       FINANCING ACTIVITIES:                                                                        Proceeds from exercise of common stock options                     428               91               89       Proceeds (payments) from (on) line of credit, net                     80               (960 )             (1,407 )     Increase (decrease) in bank checks outstanding                     240               (816 )             1,415      Proceeds from capital lease obligations                     1,000              805               —       Payments on capital lease obligations                     (154 )             (96 )             —       Payments on long-term debt                     (266 )             (267 )             (267 )     Net cash provided (used) by financing activities                     1,328              (1,243 )             (170 )     Foreign currency translation adjustments                     (24 )             15               (235 )     Net increase (decrease) in cash and cash equivalents                     (777 )             1,988              1,710      Cash and cash equivalents:                                                                        Beginning of period                     6,081              4,093              2,383      End of period                  $  5,304           $  6,081           $  4,093        SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:                                                                        Cash paid during the period for:                                                                        Interest                  $  454            $  486            $  458       Income taxes                     888               857               597         The accompanying Notes to Consolidated Financial Statements are an integral part of these statements. 33      COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS      1.     Nature of Business and Summary of Significant Accounting Policies    Nature of Business Cost-U-Less, Inc. (the “Company”) operates mid-sized warehouse club-style stores in the United States Territories (“U.S. Territories”), foreign island countries in the Pacific and the Caribbean, the Hawaiian Islands and Sonora, California. At January 1, 2006, the Company operated eleven retail stores as follows: two stores in each of Hawaii and Guam, and one store in each of St. Thomas, St. Croix, American Samoa, Fiji, Curacao, St. Maarten and Sonora, California. On December 8, 2002, the Company’s two stores on the island of Guam suffered damage from Supertyphoon Pongsona, resulting in the immediate closure of both stores. The Company’s Tamuning store lost its generator in the storm, but reopened shortly thereafter on December 12, 2002. The Company’s Dededo store, however, suffered more significant damage and had to be closed for reconstruction. The store was rebuilt and it reopened for business on October 3, 2003. Fiscal Year The Company reports on a 52/53-week fiscal year, consisting of four thirteen-week periods and ending on the Sunday nearest to the end of December. The years ended December 26, 2004 and December 28, 2003 were 52-week fiscal years. Fiscal 2005, ending on January 1, 2006, was a 53-week fiscal year with the extra week included in the fourth quarter. Principles of Consolidation The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries in the U.S. Virgin Islands, Netherlands Antilles, Guam, American Samoa, Nevada, Fiji and New Zealand. All inter-company accounts and transactions have been eliminated in consolidation. Foreign Currency Translations and Comprehensive Income The U.S. dollar is the functional currency for all locations, except for Fiji and Netherlands Antilles, where the local currency is the functional currency. Assets and liabilities denominated in foreign currencies are translated at the applicable exchange rate on the balance sheet date. Net sales, costs and expenses are translated at the average rates of exchange prevailing during the period. Adjustments resulting from this process are reported, net of taxes, as Accumulated Other Comprehensive Income (Loss), a component of Shareholders’ Equity. Realized and unrealized gains on foreign currency transactions are included in Other Income (Expense). The cumulative translation adjustment resulting from a net investment in a country is recognized as income or expense in the period the Company has substantially liquidated operations in that country. Use of Estimates The preparation of financial statements in accordance with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Estimates are used for, but not limited to: allowance for doubtful accounts; depreciable lives of assets; reserves for store closure expenses; and tax valuation allowances. Future events and their effects cannot be determined with certainty. Accordingly, the accounting estimates require the exercise of judgment. The accounting estimates used in the preparation of the consolidated financial statements may change as new events occur, as more experience is acquired, as additional information is obtained and as the Company’s operating environment changes. Actual results could differ from those estimates.  34      COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(continued)  Cash Equivalents The Company considers all highly liquid investments with an initial maturity three months or less to be cash equivalents. Financial Instruments The carrying value of financial instruments, including cash, cash equivalents, receivables, payables, and long-term debt, approximates market value at January 1, 2006 and December 26, 2004. The carrying value of cash, cash equivalents, receivables and payables approximates their fair value based on the liquidity of these financial instruments or based on their short-term nature. The carrying value of long-term debt approximates fair value based on the variable interest rates charged on the debt. Inventories Inventory consists of retail merchandise inventory and is carried at the lower of average cost or market. Accounts Receivable, net Accounts receivable consist primarily of receivables from local businesses and government agencies, vendor rebates and promotional allowances and other miscellaneous amounts due to the Company. Management determines the allowance for doubtful accounts based on known troubled accounts and historical experience applied to an aging of accounts. Buildings and Equipment Buildings and equipment are stated at cost, less accumulated depreciation and amortization. Depreciation and amortization are computed using the straight-line method for financial reporting purposes. Buildings are generally depreciated over thirty-five years; equipment and fixtures are depreciated over three to ten years; and leasehold improvements are amortized over the lesser of the initial term of the lease or the assets’ estimated useful life. Equipment acquired under capitalized leases is depreciated over the shorter of the asset’s estimated useful life or the life of the related lease. Long Lived Assets When facts and circumstances indicate that the carrying values of long-lived assets may be impaired, an evaluation of the recoverability is performed by comparing the carrying value of the assets to projected future cash flows. Upon indication that the carrying value of such assets may not be recoverable, the Company recognizes an impairment loss by a charge against current operations. Accounts Payable The Company’s major bank accounts are replenished as checks are presented. Accordingly, included in accounts payable at January 1, 2006 and December 26, 2004 are $3.8 million and $3.5 million, respectively, representing the excess of outstanding checks over cash on deposit in the accounts on which the checks were drawn.  35      COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(continued)  Insurance/Self Insurance Liabilities The Company uses a combination of insurance and self-insurance mechanisms to provide for the potential liabilities for workers’ compensation, general liability, property insurance, director and officers’ liability, vehicle liability and employee health care benefits. Liabilities associated with the risks that are retained by the Company are not discounted and are estimated, in part, by considering historical claims experience and outside expertise, demographic factors, severity factors and other actuarial assumptions. The estimated accruals for these liabilities could be significantly affected if future occurrences and claims differ from these assumptions and historical trends. Revenue Recognition The Company recognizes revenue from product sales when the customer purchases the products, generally at the point of sale. Merchandise Costs Merchandise costs consist of the purchase price of inventory sold, inbound shipping charges and all costs related to our depot operations, including freight from depots to selling warehouses. Merchandise costs also include salaries and other related expenses incurred in certain fresh food departments. Vendor Allowances Periodic payments from vendors in the form of volume rebates or other allowances that are evidenced by signed agreements are reflected in the carrying value of the inventory when earned or as the Company progresses towards earning the rebate and as a component of cost of sales as the merchandise is sold. Other consideration received from vendors is generally recorded as a reduction of merchandise costs upon completion of the terms of the related agreement, or by other systematic and rational approach. Vendor allowances received for advertising programs reduce the Company’s expense for the related advertising program. Advertising Costs The cost of advertising is expensed as incurred. Advertising expenses incurred during fiscal years 2005, 2004 and 2003 were not considered material to the Company’s operating results. Store Opening Costs Pre-opening costs incurred in connection with the startup and promotion of new stores are expensed as incurred. Stock-Based Compensation The Company has elected to apply the disclosure-only provisions of Financial Accounting Standards Board Statement No. 123 (FAS 123), “Accounting for Stock-Based Compensation.” Accordingly, the Company accounts for stock-based compensation using the intrinsic value method prescribed by Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees, and related interpretations under APB No. 25” (APB 25), whereby compensation cost for stock options is measured as the excess, if any, of the fair value of the Company’s common stock at the date of grant over the stock option exercise price. The Company usually grants stock options at exercise prices equal to fair market value on the date of grant; as a result, compensation cost is generally not recognized.  36      COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(continued)  Had stock option compensation expense for the Company’s stock option plans been recognized based on the estimated fair value on the grant date under the fair value methodology allowed by FAS 123, as amended by FAS 148, the Company’s net income and earnings per share amounts would have been as follows:               2005      2004      2003              (Net income in thousands)    Net income, as reported                  $  3,015           $  2,688           $  1,381      Add: Stock-based compensation, as reported                     24               9               —       Less: Total stock-based employee compensation expense determined under fair value method for all awards, net of tax                     (51 )             (223 )             (132 )     Net income pro forma                  $  2,988           $  2,474           $  1,249      Earnings per common share, basic as reported                  $  0.77           $  0.72           $  0.38      Earnings per common share, basic pro forma                  $  0.76           $  0.66           $  0.35      Earnings per common share, diluted as reported                  $  0.72           $  0.69           $  0.38      Earnings per common share, diluted pro forma                  $  0.72           $  0.63           $  0.34       The fair value of each option is estimated on the date of grant under the Black-Scholes option-pricing model using the following assumptions:              2005      2004      2003   Risk-free interest rate                     3.65 %             3.13 %             3.90 %     Expected life                     5  years             5  years             5  years     Expected dividend yield                     0 %             0 %             0 %     Volatility                     74 %             74 %             74 %      The weighted average fair values of options granted in 2005, 2004, and 2003 were $3.21, $1.61 and $0.78, respectively. Income Taxes Income tax expense includes U.S. and foreign income taxes. The Company accounts for income taxes under the liability method. Under the liability method, deferred tax assets and liabilities are determined based on differences between financial reporting and tax basis of assets and liabilities, and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. Valuation allowances are established when necessary to reduce deferred tax assets to the amounts that more likely than not will be realized. Segment Reporting The Company operates mid-sized warehouse club-style stores in the United States (U.S.), U.S. Territories, and foreign island countries throughout the Pacific and the Caribbean. The Company’s retail operations are its only reportable segment. The financial information used by the Company’s chief operating decision maker in allocating resources and assessing performance is only provided for one reportable segment.  37      COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(continued)  New Accounting Pronouncements In December 2004, the Financial Accounting Standards Board (the FASB) issued Statement 123 (revised 2004), “Share-Based Payment” (FAS 123(R)). FAS 123(R) requires that the compensation cost relating to share-based payment transactions be recognized in financial statements. The cost will be measured based on the fair value of the instruments issued. FAS 123(R) covers a wide range of share-based compensation arrangements including share options, restricted share plans, performance-based awards, share appreciation rights and employee share purchase plans. FAS 123(R) replaces FAS 123 and supersedes APB 25. As originally issued in 1995, FAS 123 established as preferable the fair-value-based method of accounting for share-based payment transactions with employees. However, that statement permitted entities the option of continuing to apply the guidance in APB 25, as long as the footnotes to the financial statements disclosed what net income would have been had the preferable fair-value-based method been used. The Company will be required to apply FAS 123(R) as of the beginning of fiscal 2006. The Company expects to use the modified-prospective method effective with its first quarter of fiscal 2006. The Company believes that the adoption of this new accounting standard will not have a significant impact on the Company’s results of operations or financial position, as the Company has a limited amount of unvested options and options available for issuance in the future. On November 24, 2004, the FASB issued Statement No. 151 (FAS 151), “Inventory Costs,” an amendment of ARB No. 43, Chapter 4 which clarifies the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material. FAS 151 requires that abnormal items be recognized as current-period charges, as well as unallocated overheads recognized in the period in which they are incurred. The provisions of this statement are effective for inventory costs incurred during fiscal periods beginning after June 15, 2005. The Company’s adoption of FAS 151 in its first quarter of fiscal 2006 is not expected to have a significant impact on the Company’s results of operations or financial position. Reclassifications Certain reclassifications of prior years’ balances have been made for consistent presentation with the current year.   3.     Buildings and Equipment    Buildings and equipment consist of the following (in thousands) at:               January 1, 2006      December 26, 2004   Buildings                  $  10,783           $  7,175      Equipment                     16,375              15,528      Leasehold improvements                     1,095              1,234      Land improvements                     839               —       Land                     906               —       Equipment under capital lease                     1,805              805       Buildings, equipment, land and improvements                     31,803              24,742      Less accumulated depreciation and amortization                     13,409              12,681      Net book value of depreciable assets                     18,394              12,061      Construction in progress                     72               2,253      Computer system and software development in progress                     84               31       Total Buildings and Equipment                  $  18,550           $  14,345        38      COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(continued)    4.     Line of Credit    The Company has had a line of credit with Wells Fargo Business Credit since April 9, 2003. On May 26, 2005, the Company entered into the Fourth Amendment to the Credit and Security Agreement (the Fourth Amendment) as it relates to its current line of credit. The Fourth Amendment provides for an extension of the maturity date of the Company’s line of credit from April 9, 2006, to May 18, 2007. Additionally, the Fourth Amendment (1) reduces the interest rate to an annual interest rate equal to the “prime rate” as defined by Wells Fargo Bank National Association, (2) reduces the minimum interest charge to not less than $25,000 per calendar year, (3) increases the unused line fee to a rate of three-eighths of one percent (0.375%) per annum on the average daily unused line and (4) eliminates the one day interest charge on all payments received on the line of credit. Borrowings continue to be limited to the lesser of $6.0 million or the amount calculated under the borrowing base. The borrowing base is equal to the lesser of (a) $6.0 million or (b) the sum of 70% of eligible inventory in the United States of America, plus 60% of eligible inventory in the U.S. Virgin Islands and Guam, less specified reserves. The line of credit consists of a $6.0 million committed, secured revolving credit line with a sublimit for letters of credit and bankers acceptances in an amount up to $0.7 million. At January 1, 2006, there was $0.1 million outstanding on the line of credit and $0.1 million in letters of credit outstanding. Borrowings under the amended line of credit were charged interest at the financial institution’s prime rate plus 0.5% from the beginning of the fiscal year through May 17, 2005, and at the prime rate from May 18, 2005, through January 1, 2006. At January 1, 2006, the rate charged by the financial institution was 7.25%. The line of credit contains various covenants, including a requirement that the Company maintain minimum pre-tax income and tangible net worth and limitations on acquisitions, additional debt, changes in control and capital expenditures. The Company believes that it was in compliance with all such covenants as of January 1, 2006.   5.     Long-Term Debt    In conjunction with the construction of the relocated St. Thomas store in 1998, the Company entered into a $2.0 million note payable to a bank which matures in June 2013. Interest on the note at January 1, 2006 is at the prime rate plus 1% (8.25%). As of January 1, 2006, there was a balance owed of $1.0 million, which is secured by a first leasehold priority mortgage on the St. Thomas building. The Company makes principal payments of approximately $11,000 per month, plus interest. In November 1999, the Company entered into a $2.0 million credit facility with a financial institution to fund the construction of the St. Maarten store. The note payable matures in June 2015. As of January 1, 2006, there was a balance owed of $1.3 million against this credit facility. Interest on the note at January 1, 2006 is at the prime rate plus 1% (8.25%). The credit facility is secured by a first leasehold security interest on the St. Maarten property. The Company makes principal payments of approximately $11,000 per month, plus interest. Maturities of long-term debt are as follows (in thousands):    2006                  $  267                          2007                     267                          2008                     267                          2009                     267                          2010                     267                          Thereafter                     943                          Total                  $ 2,278                           39      COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(continued)    6.     Contingencies    The Company is involved from time to time in claims, proceedings and litigation arising from its business and property ownership. The Company does not believe that any such claim, proceeding or litigation, either alone or in the aggregate, will have a material adverse effect on the Company’s business, financial condition or results of operations.   7.     Interest Expense, Net    The components of interest expense, net are as follows (in thousands):            2005      2004      2003   Interest incurred        $    497      $    450      $    459     Capitalized interest         (104 )      (12 )      —     Interest income         (26 )      (1 )      (1 )    Interest expense, net        $  367      $  437      $  458        8.    Income Taxes    Income before income taxes by jurisdiction is as follows (in thousands):            2005      2004      2003   United States        $  1,426       $  1,655       $  1,049      U.S. Territories         2,491       2,444       1,134     Foreign         748       369       128     Income before income taxes        $  4,665      $  4,468      $  2,311      The provision for income taxes is as follows (in thousands):            2005      2004      2003   Current income taxes:                              United States        $  712      $  506        $  470     U.S. Territories         854       1,010       465     Foreign         0       0       0     Current income taxes         1,566       1,516       935     Deferred income taxes                              United States         (223 )      134       (121 )    U.S. Territories         44       18       (45 )    Foreign         263       112       161     Deferred income taxes         84       264       (5 )    Provision for income taxes        $  1,650      $  1,780      $  930      A reconciliation of the Company’s effective tax rate with the federal statutory rate of 34% for the years ended January 1, 2006, December 26, 2004, and December 28, 2003, is as follows (dollars in thousands):               2005             2004             2003          Tax at U.S. Statutory Rate                  $  1,586              34.0 %          $  1,519              34.0 %          $  786               34.0 %     Non-Deductible Permanent Differences                     25               0.5 %             3               0.1 %             3               0.1 %     Foreign Tax Losses not Benefited                     —               —               290               6.5 %             165               7.1 %     Foreign Tax Credit Taken (not utilized)                     10               0.2 %             (17 )             (0.4 )%             (68 )             (2.9 )%     Statutory Rate Difference as Compared to U.S. Statutory Rate                     21               0.5 %             56               1.2 %             38               1.6 %     Other                     8               0.2 %             (71 )             (1.6 )%             6               0.3 %     Effective Income Tax Rate                  $  1,650              35.4 %          $  1,780              39.8 %          $  930               40.2 %        40      COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(continued)      Significant components of the Company’s deferred tax assets and liabilities are as follows (in thousands):              January 1, 2006      December 26, 2004   Deferred tax assets                                                    Inventory adjustments                  $  208            $  207       Vacation accrual                     403               310       Deferred rent                     178               178       Accrued expenses                     276               105       Net operating loss carryforward—foreign                     2,592              2,836      Foreign tax credits                     104               114       Total deferred tax assets                     3,761              3,750      Valuation allowance                     (2,409 )             (2,418 )                           1,352              1,332      Deferred tax liabilities                                                    Cash discounts                     (24 )             (20 )     Fixed asset basis difference                     (1,009 )             (988 )     Other                     (108 )             (29 )     Total deferred tax liabilities                     (1,141 )             (1,037 )     Net deferred tax assets                  $  211            $  295         Net deferred tax assets are classified on the balance sheet as follows (in thousands):             January 1, 2006      December 26, 2004   Current assets                  $  876            $  688       Long-term liabilities, net                       (665 )               (393 )     Net deferred tax assets                  $  211            $  295        As of January 1, 2006, we have foreign net operating loss carryforwards (“NOLs”) of approximately $7.5 million, some of which, if not utilized, will begin expiring in the year 2006. The NOLs include approximately $3.9 million related to Curacao and St. Maarten which are not subject to expiration time limits. Our ability to utilize these NOLs is dependent upon generating taxable income in the foreign jurisdictions. As a result, we have recorded a valuation allowance of $2.4 million attributable to the $2.6 million of tax benefits recorded for net operating loss carryforwards. The Company had tax credit carryforwards of $0.1 million as of January 1, 2006, expiring between 2014 and 2015. During 2005, the Company was able to utilize a portion of the tax credit carryforward. The Company expects to be able to fully utilize the remaining tax credit carryforward of $0.1 million and therefore no valuation allowance is provided.   9.     Shareholders’ Equity    Stock Options In 1998, the Company adopted, and shareholders approved, issuance of the 1998 Stock Incentive Compensation Plan (the “1998 Plan”). The 1998 Plan, as amended, provides for the granting of various stock awards, including stock options and issuance of restricted stock, with a maximum of 1,000,000 shares of common stock available for issuance. Options issued under the 1998 Plan vest at various terms ranging from immediately to five years and generally expire ten years from the date of grant. The options are usually granted at prices equal to the fair value on the date of grant. There were 2,882 options available for future grant under the 1998 Plan at January 1, 2006.  41      COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(continued)  A summary of the status of stock option plans as of January 1, 2006, December 26, 2004 and December 28, 2003, and changes during the years then ended are presented below:               2005      2004      2003                   Options      Weighted Average Exercise Price      Options      Weighted Average Exercise Price      Options      Weighted Average Exercise Price   Outstanding, beginning of year                     838,189           $  2.88              839,243           $  2.92              921,352           $  2.86      Granted at fair value                     14,000              6.67              156,167              4.43              93,192              2.58      Forfeited                     —               —               (94,291 )             6.72              (93,301 )             3.60      Exercised                     (238,865 )             1.79              (62,930 )             1.44              (82,000 )             1.08      Outstanding, end of year                     613,324              3.39              838,189              2.88              839,243              2.92        Exercisable, end of year                     611,234              3.40              826,463              2.89              809,008              2.92       The following summarizes information related to options outstanding and exercisable at January 1, 2006:               Outstanding      Exercisable        Range of Exercise Prices          Options      Weighted Average Exercise Price      Weighted Average Contractual Life      Options      Weighted Average Exercise Price   $1.18–1.88                     219,886           $  1.64              5.87  years             217,796           $  1.64      2.00–3.08                     180,667              2.71              7.52  years             180,667              2.71      4.38–6.10                     159,342              5.34              7.11  years             159,342              5.34      7.00–8.11                     53,429              7.08              2.92  years             53,429              7.08                            613,324              3.39                              611,234              3.40       Preferred Share Purchase Rights On February 23, 1999, the Company’s Board of Directors declared a dividend distribution of preferred share purchase rights (the “Rights”) pursuant to a Shareholder Rights Plan. The Rights initially trade with shares of the Company’s common stock and have no impact upon the way in which shareholders can trade the Company’s common stock. However, ten days after a person or group acquires 15% or more of the Company’s common stock, or such date, if any, as the Board of Directors may designate after a person or group commences or publicly announces its intention to commence a tender or exchange offer which could result in that person or group owning 15% or more of the Company’s common stock (even if no purchases actually occur), the Rights will become exercisable and separate certificates representing the Rights will be distributed. The Rights would then begin to trade independently from the Company’s shares. As of January 1, 2006, no rights have become exercisable.  42      COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(continued)    10.     Earnings Per Share    Basic earnings per share is computed using the weighted average number of common shares outstanding during the period and excludes any dilutive effects of stock options. Diluted earnings per share are computed using the weighted average number of common shares and potentially dilutive shares outstanding during the period. Potentially dilutive shares are excluded from the computation if their effect is anti-dilutive. The following table sets forth the computation of basic and diluted earnings per common share (dollars in thousands):               Fiscal Year Ended                   January 1, 2006      December 26, 2004      December 28, 2003   Numerator:                                                                        Net income                  $  3,015           $  2,688           $  1,381      Denominator:                                                                        Denominator for basic earnings per share—weighted average shares                     3,939,190              3,731,754              3,613,988      Effect of potentially dilutive shares:                                                                        Stock options                     229,421              184,054              56,920      Denominator for diluted earnings per share—adjusted weighted average shares and assumed conversion of stock options                     4,168,611              3,915,808              3,670,908      Basic earnings per common share                  $  0.77           $  0.72           $  0.38      Diluted earnings per common share                  $  0.72           $  0.69           $  0.38       The diluted share calculation for the fiscal years ended January 1, 2006, December 26, 2004 and December 28, 2003, excludes 4,000, 164,947 and 320,875 stock options outstanding, respectively. These options are excluded due to their anti-dilutive effect.   11.     Geographic Information    Geographic information pertaining to the Company’s one reporting segment is as follows (in thousands):               Sales      Long-lived Assets   2005                                                United States                  $  42,222           $  1,470      U.S. Territories and foreign countries                     177,192              17,852                         $ 219,414           $ 19,322        2004                                                United States                  $  43,280           $  1,548      U.S. Territories and foreign countries                     166,110              13,575                         $ 209,390           $ 15,123        2003                                                United States                  $  42,519           $  1,745      U.S. Territories and foreign countries                     134,547              11,916                         $ 177,066           $ 13,661        43      COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(continued)    12.     Lease Commitments    The Company has entered into operating leases for its administrative office and certain of its retail locations. The leases range from 3 to 15 years and include renewal options. The Company is required to pay a base rent, plus insurance, taxes, and maintenance. In January 2004, the Company sold and leased back $0.8 million of equipment residing in its reconstructed store in Dededo, Guam. The lease is for seven years with annual rental payments of approximately $0.1 million. In 2005, the Company entered into a capital lease for $1.0 million of equipment at its new St. Croix store. The lease is also for seven years with annual rental payments of approximately $0.2 million. A summary of the Company’s future minimum lease obligations at January 1, 2006, under noncancellable leases is as follows (in thousands):    Fiscal Year          Operating Leases      Capital Lease   2006                  $  4,893           $  321       2007                     4,525              321       2008                     4,274              321       2009                     3,195              321       2010                     1,941              321       Thereafter                     11,159              280       Total                  $  29,987              1,885      Less imputed interest                                     (330 )     Present value of minimum rental payments                                     1,555      Less current portion                                     (226 )     Capital lease obligation                                  $  1,329       Rent expense under operating leases for the fiscal years ended January 1, 2006, December 26, 2004 and December 28, 2003, totaled $5.4 million, $5.4 million and $4.7 million, respectively.   13.     Employee Benefit Plans    The Company maintains a 40l(k) profit-sharing plan covering all eligible employees over the age of 18 with at least six months of service. Participating employees may elect to defer and contribute up to 100% of their annual compensation to the plan, subject to annual limitations under the Internal Revenue Code. The Company matches employee contributions at a rate of 25%, up to 15% of their annual compensation. The Company’s matching contributions to the plan approximated $0.1 million in each of fiscal years 2005, 2004 and 2003. The Company has a Manager Bonus Program, which provides for annual bonuses for managers based on store and company performance. All amounts payable under the program are accrued in the year earned. Accordingly, bonuses accrued under this program totaled $0.7 million, $1.4 million and $0.5 million for fiscal 2005, 2004 and 2003, respectively. The Company also has a sales incentive bonus program for all store employees based on sales targets and inventory shrink goals. These bonuses are paid monthly and were approximately $0.1 million, $0.2 million and $0.1 million in fiscal 2005, 2004 and 2003, respectively.  44      COST-U-LESS, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(continued)    14.     Quarterly Financial Data (Unaudited)    The following is a summary of the Company’s unaudited quarterly results of operations:                                           Earnings Per Common Share                   Total Store Weeks in Period      Net Sales      Gross Profit      Net Income      Basic      Diluted              (in thousands, except store weeks and per-share data)         Fiscal 2005 (1)                                                                                                                                First quarter                     143            $ 53,239           $ 9,574           $  734            $  0.19           $  0.18      Second quarter                     143               52,295              9,698              512               0.13              0.12      Third quarter                     143               53,011              10,020              639               0.16              0.15      Fourth quarter                     154               60,869              11,509              1,130              0.28              0.27        Fiscal 2004 (1)                                                                                                                                First quarter                     143            $ 50,078           $ 9,066           $  537            $  0.14           $  0.14      Second quarter                     143               50,813              9,353              637               0.17              0.16      Third quarter                     143               51,088              9,459              554               0.15              0.14      Fourth quarter                     143               57,411              10,646              960               0.26              0.24          (1)   The Company’s fiscal quarters are 13 weeks except fourth quarter 2005, which was a 14 week quarter.     45
None.
Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended. Based on this evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this annual report.
None.  46       PART III
Information called for by Part III, Item 10, is incorporated by reference to the information in our proxy statement relating to our 2006 annual meeting of shareholders.
Information called for by Part III, Item 11, is incorporated by reference to the information in our proxy statement relating to our 2006 annual meeting of shareholders.
Information called for by Part III, Item 12, is incorporated by reference to the information in our proxy statement relating to our 2006 annual meeting of shareholders.
Information called for by Part III, Item 13, is incorporated by reference to the information in our proxy statement relating to our 2006 annual meeting of shareholders.
Information called for by Part III, Item 14, is incorporated by reference to the information in our proxy statement relating to our 2006 annual meeting of shareholders.  47       PART IV
Documents filed as part of this Report:   (1)   Financial Statements—all consolidated financial statements of the Company as set forth under Item 8, beginning on p. 28 of this Report.      (2)   Financial Statement Schedules—Schedule II Valuation and Qualifying Accounts.    The independent auditors’ report with respect to the financial statement schedules appears on page 29 of this annual report. All other financial statements and schedules not listed are omitted because either they are not applicable or not required, or the required information is included in the consolidated financial statements.   (3)   Exhibits                                Incorporated by Reference        Exhibit No.          Description      Filed Herewith      Form      Exhibit No.      File No.      Filing Date   3.1                Restated Articles of Incorporation of Cost-U-Less, Inc.             S-1/A           3.1              333-52459               06/05/1998      3.2                Amended and Restated Bylaws of Cost-U-Less, Inc.             10-Q           3.1              000-24543               08/11/2003      4.1                Rights Agreement between Cost-U-Less, Inc. and ChaseMellon Shareholder Services, L.L.C. as rights agent, dated March 15, 1999             8-A           2.1              000-24543               03/15/1999      4.2                Form of Common Stock Certificate of Cost-U-Less, Inc.             S-1/A           4.1              333-52459               07/10/1998      10.1                Amended and Restated 1998 Stock Incentive Compensation Plan*             10-K           10.1              000-24543               04/01/2002      10.2                Form of Stock Option Agreement             10-K           10.2              000-24543               04/01/2002      10.3                Amended and Restated 1989 Stock Option Plan*             S-1           10.2              333-52459               05/12/1998      10.4                Form of Director Stock Option Agreement (Vesting)*             S-1           10.3              333-52459               05/12/1998      10.5                Form of Director Stock Option Agreement (Nonvesting)*             S-1           10.4              333-52459               05/12/1998      10.6                Form of Indemnification Agreement*             10-Q           10.1              000-24543               08/11/2003      10.7                Credit and Security Agreement, dated April 9, 2003, by and between Cost-U-Less, Inc., CULGUAM, Inc., CULNEV, Inc., CULUSVI, Inc., and Wells Fargo Business Credit, Inc.             8-K           10.1              000-24543               04/11/2003      10.8                First Amendment dated as of October 17, 2003 to the Credit and Security Agreement dated April 9, 2003, by and between Cost-U-Less, Inc., CULGUAM, Inc., CULNEV, Inc., CULUSVI, Inc., and Wells Fargo Business Credit, Inc.             10-K           10.8              000-24543               03/26/2004      10.9                Second Amendment dated as of March 2, 2004 to the Credit and Security Agreement dated April 9, 2003, by and between Cost-U-Less, Inc., CULGUAM, Inc., CULNEV, Inc., CULUSVI, Inc., and Wells Fargo Business Credit, Inc.             10-K           10.9              000-24543               03/26/2004      10.10                Third Amendment dated as of November 11, 2004 to the Credit and Security Agreement dated April 9, 2003, by and between Cost-U-Less, Inc., CULGUAM, Inc., CULNEV, Inc., CULUSVI, Inc., and Wells Fargo Business Credit, Inc.             10-K           10.10              000-24543               03/23/2005        48                                 Incorporated by Reference       Exhibit No.          Description      Filed Herewith      Form      Exhibit No.      File No.      Filing Date  10.11                Fourth Amendment dated as of May 18, 2005 to the Credit and Security Agreement dated April 9, 2003, by and between Cost-U-Less, Inc., CULGUAM, Inc., CULNEV, Inc., CULUSVI, Inc., and Wells Fargo Business Credit, Inc. (Incorporated by reference to Exhibit 10.1 to the Company’s Form 8-K filed on June 1, 2005)             8-K           10.1              000-24543               06/01/2005      10.12                Construction/Permanent Loan Agreement by and among CULUSVI, Inc., Cost-U-Less, Inc. and Banco Popular de Puerto Rico, dated November 6, 1997             S-1           10.8              333-52459               05/12/1998      10.13                Employment Agreement between Cost-U-Less, Inc. and J. Jeffrey Meder, dated October 20, 2004*             8-K           10.1              000-24543               10/26/2004      10.14                Lease Agreement between Westmall Limited and CUL (Fiji) Limited, effective March 1, 1998             S-1/A           10.10              333-52459               06/05/1998      10.15                Lease Agreement between Fiji Public Service Association and CUL (Fiji) Limited, dated June 4, 1998             10-K           10.13              000-24543               03/26/2004      10.16                Lease Agreement between Baroud Real Estate Development N.V. and C.U.L. (Curacao) N.V., dated April 3, 1998             S-1           10.12              333-52459               05/12/1998      10.17                Ground Lease between Market Square East, Inc. and CULUSVI, Inc., dated October 20, 1997             S-1           10.13              333-52459               05/12/1998      10.18                First Amendment to Ground Lease between Market Square East, Inc. and CULUSVI, Inc., dated November 29, 2005      X                                                                                  10.19                Sublease Agreement between Tamuning Capital Investment, Inc. and Cost-U-Less, Inc., dated July 15, 1994             S-1           10.15              333-52459               05/12/1998      10.20                Lease Agreement between Haleck Enterprises Incorporated and Cost-U-Less, Inc., dated February 3, 2005             8-K           99.1              000-24543               02/09/2005      10.21                Lease Agreement between Inmostrat Corporation and Cost-U-Less, Inc., dated August 1993             S-1           10.17              333-52459               05/12/1998      10.22                Lease Agreement between Hassan Rahman and Cost-U-Less, Inc., dated July 30, 1993             S-1           10.18              333-52459               05/12/1998      10.23                Addendum to Lease Agreement between Hassan Rahman and Cost-U-Less, Inc., dated March 21, 2005             10-Q           10.2              000-24543               05/10/2005      10.24                Industrial Real Estate Lease between Hilo Partners and Cost-U-Less, Inc., dated September 1, 1991             S-1           10.19              333-52459               05/12/1998      10.25                Indenture of Lease between H.C.L. Investments, Inc. and Cost-U-Less, Inc., dated August 21, 1992             10-K           10.21              000-24543               04/01/2002      10.26                Amendment to Lease between H.C.L. Investments, Inc. and Cost-U-Less, Inc., dated April 27, 2000             10-K           10.22              000-24543               04/01/2002      10.27                Lease Agreement between Caribe Lumber & Trading N.V. (St. Maarten) and CUL Sint Maarten N.V., dated February 19, 1999             10-K           10.24              000-24543               03/23/2005      10.28                Sublease Agreement between New Breed Distribution Corp of California, Inc. and Cost-U-Less, Inc., dated November 1, 1999             10-K/A           10.27              000-24543               04/05/2000      10.29                Lease Agreement between AMB Property, L.P. and Cost-U-Less, Inc., dated November 12, 1999             10-K/A           10.28              000-24543               04/05/2000        49                                 Incorporated by Reference       Exhibit No.          Description      Filed Herewith      Form      Exhibit No.      File No.      Filing Date  10.30                First Amendment to Lease Agreement between AMB Property, L.P. and Cost-U-Less, Inc., dated November 21, 2001             10-K           10.28              000-24543               04/01/2002      10.31                Lease Agreement between BDC One Preston Properties Limited Partnership and Cost-U-Less, Inc., dated April 27, 2000             10-K           10.26              000-24543               04/02/2001      10.32                Lease Agreement between Tonko Reyes, Inc., a Guam corporation and Cost-U-Less, Inc., dated October 22, 2001             10-K           10.30              000-24543               04/01/2002      10.33                Amendment to Lease Agreement between Tonko Reyes, Inc., a Guam corporation and Cost-U-Less, Inc., dated October 22, 2001             10-K           10.29              000-24543               03/26/2004      10.34                Lease Agreement between Sun Life Assurance Company of Canada and Cost-U-Less, Inc., dated November 18, 2003             10-K           10.30              000-24543               03/26/2004      10.35                Executive Severance Plan*             10-K           10.31              000-24543               03/26/2004      10.36                Real Estate Purchase and Sale Agreement dated April 30, 2004, between Mint Capital, Casco Inc., and Cost-U-Less, Inc.             10-Q           10.1              000-24543               08/10/2004      10.37                Summary of Cost-U-Less, Inc. 2005 Incentive Bonus Program*             8-K           99.1              000-24543               12/21/2004      10.38                Summary of Cost-U-Less, Inc. Non-Employee Director Compensation*             8-K           99.1              000-24543               08/02/2005      10.39                Shareholders Agreement dated July 11, 2005 between Cost-U-Less Cayman Holdings, an exempted company incorporated under the laws of the Cayman Islands; Cayman Drug Limited, a company incorporated in the Cayman Islands; Cayman Cost-U-Less Limited, a company incorporated under the laws of the Cayman Islands; Naul Bodden of c/o NCB Consulting Ltd in the Cayman Islands; and Robert Bodden of c/o NCB Consulting Ltd in the Cayman Islands. **             10-Q           10.1              000-24543               11/08/2005      16.1                Letter re: change in certifying accountant             8-K           16.1              000-24543               06/24/2003      21.1                Subsidiaries of Cost-U-Less, Inc.             10-K           21.1              000-24543               04/01/2002      23.1                Consent of Independent Registered Public Accounting Firm      X                                                                                  24.10                Power of Attorney (See page 51)      X                                                                                  31.1                Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002      X                                                                                  31.2                Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002      X                                                                                  32.1                Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002      X                                                                                  32.2                Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002      X                                                                                      *   Management contract or compensatory plan or arrangement      **   This exhibit (or portions thereof) has been filed separately with the Commission pursuant to an application for confidential treatment. The confidential portions of this Exhibit have been omitted and are marked by an asterisk.     50       SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.                     COST-U-LESS, INC.   Date: March 29, 2006                By:  /s/ J. Jeffrey MederJ. Jeffrey Meder President and Chief Executive Officer    Each person whose individual signature appears below hereby authorizes and appoints J. Jeffrey Meder and Martin P. Moore, and each of them, with full power of substitution and resubstitution and full power to act without the other, as his or her true and lawful attorney-in-fact and agent to act in his or her name, place and stead and to execute in the name and on behalf of each person, individually and in each capacity stated below, and to file, any and all amendments to this Report, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing, ratifying and confirming all that said attorneys-in-fact and agents or any of them or their or his or her substitute or substitutes may lawfully do or cause to be done by virtue thereof. 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 Company and in the capacities indicated below on the 29th day of March 2006.    Signature          Title     /s/ GEORGE C. TEXTORGeorge C. Textor                Chairman of the Board     /s/ J. JEFFREY MEDERJ. Jeffrey Meder                President, Chief Executive Officer and Director (Principal Executive Officer)     /s/ MARTIN P. MOOREMartin P. Moore                Vice President, Chief Financial Officer, Secretary and Treasurer (Principal Financial and Accounting Officer)     /s/ ROBERT C. DONEGANRobert C. Donegan                Director     /s/ DAVID A. ENGERDavid A. Enger                Director     /s/ GARY W. NETTLESGary W. Nettles                Director     51    SCHEDULE II COST-U-LESS, INC. VALUATION AND QUALIFYING ACCOUNTS    Description          Balance at Beginning of Year      Additions (Reductions)      (1) Deductions      Balance at End of Year   Year Ended January 1, 2006                                                                                            Reserves and allowances deducted from asset accounts:                                                                                            Allowance for doubtful accounts                  $ 205,000              ($15,000 )          $ 110,000           $ 80,000        Year Ended December 26, 2004                                                                                            Reserves and allowances deducted from asset accounts:                                                                                            Allowance for doubtful accounts                  $ 208,000           $ 93,000           $ 96,000           $ 205,000        Year Ended December 28, 2003                                                                                            Reserves and allowances deducted from asset accounts:                                                                                            Allowance for doubtful accounts                  $ 224,000           $ 160,000           $ 176,000           $ 208,000          (1)   Uncollectible accounts written off, net of recoveries.         EX-10.18 2 d18908_ex-1018.htm        FIRST AMENDMENT TO LEASE This First Amendment to Lease is dated November 29, 2005, and is entered by and between CULUSVI, INC., a US Virgin Islands corporation d/b/a Cost U Less with mailing address of 3633 136th Place S.E., Suite 110, Bellevue, Washington 98006 (hereinafter referred to as the “Lessee”) and MARKET SQUARE EAST, INC., a US Virgin Islands corporation whose mailing address is P.O. Box 7020, St. Thomas, U.S. Virgin Islands 00801 (hereinafter referred to as “Lessor”) for the purpose of amending that Ground Lease dated October 20, 1997 by and between Lessor and Lessee (the “Lease”). WHEREAS, the Lessor and the Lessee are parties to the Lease; WHEREAS, the Lessee and Lessor wish to modify the terms of the Lease; NOW, THEREFORE, in consideration of the mutual covenants and agreements hereinafter set forth, the parties hereby agree as follows: 1.    Except where otherwise specifically defined herein, all capitalized terms used herein shall have the same meaning as originally defined in the Lease. 2.    From and after January 1, 2006, the Demised Premises shall be revised to include: an additional Six Thousand Four Hundred Forty Six (6,446) square feet for the Building Area, for a total building area of Forty Two Thousand Four Hundred Forty Six (42,446) square feet, more or less; and an additional Four Thousand Four Hundred (4,400) square feet for the Dock Area for a total dock area of Fourteen Thousand Nine Hundred Thirty Eight (14,938) square feet. The revised Demised Premises (the “Revised Demised Premises”) shall total of Fifty Seven Thousand Three Hundred Eight Four (57,384) square feet, more or less. The Revised Demised Premises is shown and described on the survey plan drawing and metes and bounds description attached hereto as Exhibit A and made a part hereof. 3.    From and after January 1, 2006, the Basic Rent (inclusive of all prior CPI adjustments) for the 42,446 square feet of Building Area shall be Four and 707/1000 Dollars ($4.707) per square foot per annum (i.e. $199,793.32 per annum which is $16,649.45 per month). From and after January 1, 2006, the Basic Rent (inclusive of all prior CPI adjustments) for the 14,938 square foot Dock Area shall be Two and 714/1000 Dollars ($2.714) per square foot per annum (i.e. $40,541.73 per annum which is $3,378.48 per month). From and after January 1, 2006. Additional Rent shall be adjusted based on the increased size of the Floor Space of the improvements located on the Revised Demised Premises.        First Addendum to Lease CULUSVI, INC. Page 2 The total monthly Basic Rent for the Revised Demised Premises of Twenty Thousand Twenty Seven and 93/100 ($20,027.93) shall be due and payable on or before the first day of each month commencing January 1, 2006. The Basic Rent shall remain subject to annual CPI increases pursuant to Section Three (c) of the Lease, the first increase of which shall be effective October 1, 2006 4.    Pursuant to Section l3 of the Lease, Lessor hereby consents to the proposed alterations to the Building Area and Dock Area described on Exhibit B attached hereto. The alterations consist of additional floor space for the Building Area of Six Thousand Four Hundred Forty Six (6,446) square feet, additional Dock Area of Four Thousand Four Hundred (4,400) square feet, and appurtenant site work improvements (“Site Work Improvements”), all as described on Exhibit C attached hereto. Lessor and Lessee have agreed that the cost of the Site Work Improvements shall be verified by copies of actual invoices. The cost of the Site Work Improvements shall be paid by Lessee and up to $80,000 of verified costs may be taken as rent credits toward the Basic Rent in the amount of $3,520.87 per month for up to twenty-three (23) months commencing January 1, 2006 and ending not later than November 30, 2007. When the entire amount of the rent credits are exhausted, but not later than December 1, 2007, Lessee shall pay to Lessor Basic Rent amounts for the Revised Demised Premises (without Site Improvement Work costs credits and as adjusted for CPI increases) without further notice from Lessor to Lessee, except that Lessor shall notify Lessee in writing as to the then current Basic Rent per month. 5.    Notwithstanding anything in this First Amendment to Lease to the contrary, if, despite its diligent efforts, Lessee does not commence the proposed alterations to the Building Area (6,446 square feet) by April 1, 2006, and gives Landlord notice of Lessee’s intention not to construct the Building Area alterations, the provisions of this Amendment relating to an increase in the size of the Building Area (including the Revised Demised Premises size, Basic Rent increase and Additional Rent increases attributable to the additional Building Area) shall be voidable by Lessee giving written notice to Lessor (the “Voiding Notice”). In such event, future Basic Rent and Additional Rent amounts for the Revised Demised Premises shall be reduced to reflect the reductions in the Building Area and Lessee shall be entitled to a rent credit for any Basic Rent and Additional Rent overcharges by Lessee for the period from January 1, 2006, through the month in which Lessee delivers the Voiding Notice to Lessor. In addition, the Site Work Improvements costs rent credit shall be reduced to reflect verified Dock Area expenses only, in a total credit amount not to exceed Twenty Two Thousand Five Hundred Ninety Three and 60/100 Dollars ($22,593.60), which amount is calculated as 28.242% of the estimated Site Work Improvements costs and the corresponding percentage of the Basic Rent increase for the Dock Area according to this Amendment.        First Addendum to Lease CULUSVI, INC. Page 3 All terms, covenants and conditions made by the Lessee in connection with the Lease are herein restated and reaffirmed on the date of this First Amendment and apply to the entire Demised Premises. Except as hereby modified, all other terms and provisions of the Lease are hereby ratified and confirmed and incorporated herein by this reference and apply to the entire Demised Premises. Notwithstanding the execution of this First Amendment, the Lessor specifically reserves its right to declare the Lessee in default under the Lease should any state of fact exist at the date hereof, known or unknown to the Lessor, which constitutes a default under the Lease as modified by this First Amendment. IN WITNESS WHEREOF, the parties have executed this agreement as of the date set forth above.    WITNESSES:                LESSOR: MARKET SQUARE EAST, INC.                    By:  Etienne Bertrand, President                    [SEAL]                      Attest:  Debbie Brathwaite, Asst. Secretary                      LESSEE: CULUSVI, INC.                    By:  J. Jeffrey Meder, President                    [SEAL]                      Attest:  Roy Sorensen, Vice President           EXHIBIT “A” SURVEY PLAN DRAWING        EXHIBIT “B” PROPOSED ALTERATIONS TO BUILDING AREA AND DOCK AREA        EXHIBIT “C” SITE WORK IMPROVEMENTS Clearing, Excavation, Compaction Asphalt Erosion Control/Environmental Fencing Safety Barricades Wheel Stops Curbing Striping Architectural Costs Supervision/General Conditions        EX-23.1 3 d18908_ex-231.htm        EXHIBIT 23.1 CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM We have issued our report dated March 6, 2006, accompanying the consolidated financial statements and consolidated financial statement schedule included in the Annual Report of Cost-U-Less, Inc. on Form 10-K for the fiscal year ended January 1, 2006. We hereby consent to the incorporation by reference of said report in the Registration Statements of Cost-U-Less, Inc. on Forms S-8 (File No. 333-61864, effective May 30, 2001 and File No. 333-75201, effective March 29, 1999). /s/ GRANT THORNTON, LLP Seattle, Washington March 6, 2006        EX-31.1 4 d18908_ex-311.htm        Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 I, J. Jeffrey Meder, certify that:   1.   I have reviewed this annual report on Form 10-K of Cost-U-Less, Inc.;      2.   Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;      3.   Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;      4.   The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and we have:      a)   designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;      b)   evaluated the effectiveness of the registrant’s disclosure controls and procedures, and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures as of the end of the period covered by this report; and      c)   disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting;      5.   The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):      a)   all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and      b)   any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.    Date: March 29, 2006 /s/ J. Jeffrey Meder J. Jeffrey Meder President and Chief Executive Officer        EX-31.2 5 d18908_ex-312.htm        Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 I, Martin P. Moore, certify that:   1.   I have reviewed this annual report on Form 10-K of Cost-U-Less, Inc.;      2.   Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;      3.   Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;      4.   The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and we have:      a)   designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;      b)   evaluated the effectiveness of the registrant’s disclosure controls and procedures, and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures as of the end of the period covered by this report; and      c)   disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting;      5.   The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):      a)   all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and      b)   any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.    Date: March 29, 2006 /s/ Martin P. Moore Martin P. Moore Chief Financial Officer        EX-32.1 6 d18908_ex-321.htm        EXHIBIT 32.1 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Annual Report of Cost-U-Less, Inc. (the “Company”) on Form 10-K for the period ended January 1, 2006, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, J. Jeffrey Meder, President and Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1)    The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 (15 U.S.C. 78m or 78o(d)); and (2)    The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Date: March 29, 2006 /s/ J. Jeffrey MederJ. Jeffrey Meder President and Chief Executive Officer        EX-32.2 7 d18908_ex-322.htm        EXHIBIT 32.2 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Annual Report of Cost-U-Less, Inc. (the “Company”) on Form 10-K for the period ended January 1, 2006, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Martin P. Moore, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1)    The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 (15 U.S.C. 78m or 78o(d)); and (2)    The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Date: March 29, 2006 /s/ Martin P. MooreMartin P. Moore Chief Financial Officer        -----END PRIVACY-ENHANCED MESSAGE-----