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10. MANAGEMENT’S DISCUSSION AND ANALYSIS OF KLC’s
In January 2005, KLC acquired KinderCare and incurred $540 million of term debt (the “Acquisition Term
Debt") and $250 million of subordinated bridge debt to finance the acquisition. At the time of the
KinderCare acquisition, KinderCare had approximately $300 million of nonrecourse mortgage debt
outstanding (the “KinderCare CMBS Debt"). KLC refinanced the bridge debt in February 2005 with $260
million of 7-3/4% senior subordinated notes due 2015 (the “Notes”). In November 2005, KLC completed
a transaction (the “Real Estate Transaction") in which KLC divided its business, with substantially all of its
real estate owned by special purpose subsidiaries (collectively, KLC PropCo)} and all of its customer
contracts and operations remaining at KLC and certain other subsidiaries (collectively, KLC OpCo).
Management believes that this division represents the best way to analyze the business going forward.
In connection with the Real Estate Transaction, KLC PropCo entities incurred $650 million of mortgage
debt, $50 million of senior mezzanine debt and $150 million of junior mezzanine debt, which
indebtedness is nonrecourse to KLC OpCo, the proceeds of which were primarily used to repay the
Acquisition Term Debt and the KinderCare CMBS Debt, and KLC PropCo leased its owned centers back
to KLC OpCo. See “KLC: Management's Discussion and Analysis of Financial Condition and Results of
Gperations for the Fiscal Years Ended 2005, 2004 and 2003” in Appendix B, “KLC: Management's
Discussion and Analysis of Financial Condition and Results of Operations for the Quarterly Period Ended
April 1, 2006” in Appendix C, "KLC: Management's Discussion and Analysis of Financial Condition and
Results of Operations for the Quarterly Period Ended July 1, 2006" in Appendix D and Notes 11 and 21 to
KLC's Financial Statements in Appendix E.
The discussion below presents the pro forma results of consolidated KLC (KLC OpCo and KLC PropCo)
as if the KinderCare acquisition and the Real Estate Transaction occurred on January 1, 2004. The pro
forma results are not adjusted for the costs of operating KLC and KinderCare in parallel for a significant
portion of 2005, or for restructuring costs incurred in combining the two businesses. These and other
items are reflected as adjustments to EBITDA in our presentation of pro forma Adjusted EBITDA,
Our pro forma results for KLC were not prepared in conformity with Article 11 of Regulation S-X of the
SEC (which would not, among other limitations, permit a 2004 pro forma presentation after completion of
our 2005 financial statements). In addition, by presenting a pro forma comparison, this discussion and
analysis does not include a comparison of KLC's historical GAAP consolidated operating results or
segment information that would be required by Item 3-03 of Regulation S-X of the SEC. The presentation
of non-GAAP information herein does not purport to comply with Item 10(e) of Regulation S-K or
Regulation G of the SEC. For further information see “KLC: Management's Discussion and Analysis of
Financial Condition and Results of Operations for the Fiscal Years Ended 2005, 2004 and 2003" in
Appendix B, “KLC: Management's Discussion and Analysis of Financial Condition and Results of
Operations for the Quarterly Period Ended April 1, 2006” in Appendix C, "KLC: Management's Discussion
and Analysis of Financial Condition and Results of Operations for the Quarterly Period Ended July 1,
2006" in Appendix D and the KLC and KinderCare GAAP financial statements in Appendix E.
The pro forma presentation is not shown with adjustments to historical financial statements. Instead, it is
based on a “ground up” combination of corporate level expenditures (overhead and capital expenditures)
and internal financial statements derived from a center-by-center build up of KLC’s results. The primary
reasons for the presentation based on internal reports instead of KLC and KinderCare financial
statements are the different fiscal year ends and expense classifications between KLC and KinderCare.
The “ground up” analysis presented is consistent with management's view of the business.
Key Operating Variables
Net Revenue Trends and Drivers
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