** **

**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

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**FORM 10-Q**

 
| **ý**                                   | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF  1934**  |
|----------------------------------------------|------------|-----------------------------------------------------------------------------------------------------|
| ** **                                   | ** ** | ** **                                                                                          |
| **For the quarter ended September 30, 2004** |
|                                         |       |                                                                                                |
| **OR**                                       |
| ** **                                   | ** ** | ** **                                                                                          |
| **o**                                        | ** ** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF  1934** |
|                                         |       |                                                                                                |
| **Commission File No. 1280191**         |

 

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**NESRentals Holdings, Inc.**

(Exact name of registrant as specified in its charter)

 
| **DELAWARE**                                                    | ** ** | **20-0664255**                        |
|-----------------------------------------------------------------|------------|---------------------------------------|
| (State or other Jurisdiction of  Incorporation or Organization) |       | (I.R.S. Employer  Identification No.) |

 

**8770 W. Bryn Mawr, 4th FloorChicago, Illinois 60631**(Address of principal executive offices)

 

**(773) 695-3999**

(Registrant’s telephone number, including area code)

 

Indicateby check mark whether the registrant has filed all documents and reportsrequired to be filed by Section 12, 13 or 15(d) of the Securities ExchangeAct of 1934 subsequent to the distribution of securities under a plan confirmedby a court. Yes ý No o

 

Indicateby check mark whether the registrant is an accelerated filer (as defined inExchange Act Rule 12b-2). Yes o No ý

 

Therewere 18,992,000 shares of Common Stock ($.01 par value) outstanding as ofNovember 2, 2004.

 

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**NESRENTALS HOLDINGS, INC. AND SUBSIDIARIES**

**QUARTERLY REPORT ON FORM 10-Q**

**For the Quarter Ended**

**September30, 2004**

**INDEX**

 
| PART I. FINANCIAL  INFORMATION |
|--------------------------------|
|                           |   |
| Item 1.                        | Financial Statements |
|                           |   |
|                           | Report  of Independent Registered Public Accounting Firm |
|                           |   |
|                           | Consolidated Balance  Sheets (Unaudited) |
|                           |   |
|                           | Consolidated  Statements of Operations (Unaudited) |
|                           |   |
|                           | Consolidated  Statements of Cash Flows (Unaudited) |
|                           |   |
|                           | Notes  to Consolidated Financial Statements (Unaudited) |
|                           |   |
| Item  2.                       | Management’s  Discussion and Analysis of Financial Condition and Results of Operations |
|                           |   |
| Item  3.                       | Quantitative  and Qualitative Disclosures About Market Risk |
|                           |   |
| Item 4.                        | Controls and Procedures |
|                           |   |
| PART II. OTHER INFORMATION     |
|                           |   |
| Item 1.                        | Legal Proceedings |
|                           |   |
| Item  2.                       | Unregistered  Sales of Equity Securities and Use of Proceeds |
|                           |   |
| Item 3.                        | Defaults upon  Senior Securities |
|                           |   |
| Item  4.                       | Submission  of Matters to a Vote of Security Holders |
|                           |   |
| Item 5.                        | Other Information |
|                           |   |
| Item  6.                       | Exhibits |
|                           |   |
| SIGNATURE                      |
|                           |   |
| Index  of Exhibits             |

 

2

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**Report of Independent Registered Public AccountingFirm**

 

TheBoard of Directors

NESRentals Holdings, Inc.:

 

We have reviewed the consolidated balance sheet of NES RentalsHoldings, Inc. and subsidiaries (the Company or the Successor) as of September 30,2004, the related consolidated statements of operations for the three- andeight-month periods ended September 30, 2004 and the related consolidatedstatement of cash flows for the eight-month period ended September 30,2004 and the related consolidated statements of operations and cash flows ofNational Equipment Services, Inc. (the Predecessor) for the one-month periodended January 31, 2004. These consolidated financial statements are theresponsibility of the Company’s management.

 

Weconducted our review in accordance with the standards of the Public CompanyAccounting Oversight Board (United States). A review of interim financial information consists principally ofapplying analytical procedures and making inquiries of persons responsible forfinancial and accounting matters.  It issubstantially less in scope than an audit conducted in accordance with thestandards of the Public Company Accounting Oversight Board (United States), theobjective of which is the expression of an opinion regarding the financialstatements taken as a whole. Accordingly, we do not express such an opinion.

 

Basedon our review, we are not aware of any material modifications that should bemade to the consolidated financial statements referred to above for them to bein conformity with U.S. generally accepted accounting principles.

 

Wehave previously audited, in accordance with the standards of the Public CompanyAccounting Oversight Board (United States), the consolidated balance sheet ofthe Predecessor and subsidiaries as of December 31, 2003, and the relatedconsolidated statements of operations and comprehensive loss, stockholders’equity (deficit) and cash flows for the year then ended (not presented herein);and in our report dated March 29, 2004, we expressed an unqualifiedopinion on those consolidated financial statements.  In our opinion, the information set forth inthe accompanying consolidated balance sheet as of December 31, 2003, isfairly stated, in all material respects, in relation to the consolidatedbalance sheet from which it has been derived.

 
|                    | (signed)  KPMG LLP |
|-------------------------|-------------------------|
|                    |
|                    |
| Chicago,  IL            |
| November 12,  2004 |

 

3

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**Forward Looking Statements**

 

Note: This report contains forward-lookingstatements as encouraged by the Private Securities Litigation Reform Act of1995. All statements contained in this document, other than historicalinformation, are forward-looking statements. These statements representmanagement’s current judgment on what the future holds. A variety of factorscould cause business conditions and the Company’s actual results to differmaterially from those expected by the Company or expressed in the Company’sforward-looking statements. These factors include, without limitation, changesin market price or market demand; loss of business from customers; generaldeclines in rental rates in the market; pricing pressure from competitors;unanticipated expenses; changes in financial markets; the Company’s substantialleverage; potential defaults in the Company’s indebtedness; ability to makescheduled principal amortization payments on indebtedness; and other factorsdiscussed in the Company’s filings with the Securities and Exchange Commission.

Our annual report on Form 10-K, quarterly reports onForm 10-Q, current reports on Form 8-K and amendments to these reports areavailable on our internet website free of charge.  These reports are available as soon aspracticable after we electronically file these reports with the Securities andExchange Commission.  Our website addressis www.nesrentals.com.

**PART I. FINANCIALINFORMATION**

**ITEM 1. FINANCIALSTATEMENTS**

**NES RENTALS HOLDINGS, INC. AND SUBSIDIARIES**

**CONSOLIDATEDBALANCE SHEETS**

**(in thousands)**
| ** **                                                                                                       | ** ** | **Successor**          | ** ** | **Predecessor**            | ** ** |
|------------------------------------------------------------------------------------------------------------------|------------|------------------------|------------|----------------------------|------------|
| ** **                                                                                                       | ** ** | **September 30, 2004** | ** ** | **December 31, 2003** | ** ** |
| ** **                                                                                                       | ** ** | **(Unaudited)**        | ** ** | ** **                 | ** ** |
| **Assets**                                                                                                       |       |                   |       |                       |       |
| Cash and cash equivalents                                                                                        |       | $                      | 7,530      |                       | $          | 50,251 |   |
| Trade accounts receivable, net of allowance for doubtful accounts of  $4,924 and $5,689, respectively            |       | 142,593                |       | 126,775                    |       |
| Inventory, net                                                                                                   |       | 19,665                 |       | 13,928                     |       |
| Prepaid expenses and other assets                                                                                |       | 45,083                 |       | 38,109                     |       |
| Rental equipment, net                                                                                            |       | 415,639                |       | 407,362                    |       |
| Property and equipment, net                                                                                      |       | 34,465                 |       | 35,728                     |       |
| Unamortized debt issuance costs                                                                                  |       | 14,011                 |       | —                     |       |
| Unamortized intangible assets                                                                                    |       | 10,965                 |       | 1,010                      |       |
| Total assets                                                                                                     |       | $                      | 689,951    |                       | $          | 673,163 |   |
|                                                                                                             |       |                   |       |                       |       |
| **Liabilities**                                                                                                  |       |                   |       |                       |       |
| Book overdraft (checks yet to clear)                                                                             |       | $                      | 12,262     |                       | $          | 17,487 |   |
| Trade accounts payable                                                                                           |       | 30,669                 |       | 4,846                      |       |
| Accrued expenses and other liabilities                                                                           |       | 48,100                 |       | 36,915                     |       |
| Debt                                                                                                             |       | 487,612                |       | 1,714                      |       |
| Liabilities subject to compromise                                                                                |       | —                 |       | 897,380                    |       |
| Total liabilities                                                                                                |       | 578,643                |       | 958,342                    |       |
| Commitments and contingencies                                                                                    |       | —                 |       | —                     |       |
| **Stockholders’ equity (deficit)**                                                                          |       |                   |       |                       |       |
| Successor common stock, $0.01 par, 25,000 shares authorized; 18,931  shares issued, 18,931 shares outstanding    |       | 189                    |       | —                     |       |
| Predecessor common stock, $0.01 par, 100,000 shares authorized;  24,170 shares issued, 21,151 shares outstanding |       | —                 |       | 241                        |       |
| Successor additional paid-in capital                                                                             |       | 151,642                |       | —                     |       |
| Predecessor additional paid-in capital                                                                           |       | —                 |       | 123,887                    |       |
| Accumulated deficit                                                                                              |       | (40,748                | )          | (391,896                   | )          |
| Predecessor treasury stock at cost, 3,019 shares                                                                 |       | —                 |       | (19,062                    | )          |
| Accumulated other comprehensive income                                                                           |       | 225                    |       | 1,651                      |       |
| Total stockholders’ equity (deficit)                                                                        |       | 111,308                |       | (285,179                   | )          |
| Total liabilities and stockholders’ equity (deficit)                                                        |       | $                      | 689,951    |                       | $          | 673,163 |   |

See accompanying notes to consolidated financial statements and reviewreport of KPMG LLP.

4

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**NES RENTALS HOLDINGS, INC. AND SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)**

**(in thousands)**

 
| ** **                                                   | ** ** | **Successor**                                                      | ** ** | **Predecessor**                                                   | ** ** | **Successor**                                             | ** ** | **Predecessor**                                       | ** ** |
|--------------------------------------------------------------|------------|--------------------------------------------------------------------|------------|-------------------------------------------------------------------|------------|-----------------------------------------------------------|------------|-------------------------------------------------------|------------|
| ** **                                                   | ** ** | **For the three months ended   September 30, 2004** | ** ** | **For the three months ended  September 30, 2003** | ** ** | **For the eight  months ended  September 30,  2004** | ** ** | **For the one   month ended  January 31,  2004** | ** ** | **For the nine  months ended  September 30,  2003** | ** ** |
|                                                         |       |                                                               |       |                                                              |       |                                                      |       |                                                  |       |   |   |
| **Revenues**                                                 |       |                                                               |       |                                                              |       |                                                      |       |                                                  |       |   |   |
| Rental and service revenues                                  |       | $                                                                  | 138,536    |                                                              | $          | 131,880                                                   |       | $                                                     | 327,732    |   | $ | 33,068 |   | $ | 365,185 |   |
| New equipment sales                                          |       | 6,414                                                              |       | 8,146                                                             |       | 19,263                                                    |       | 3,318                                                 |       | 26,658 |   |
| Rental equipment sales                                       |       | 8,757                                                              |       | 7,452                                                             |       | 25,733                                                    |       | 2,120                                                 |       | 24,921 |   |
| Other revenues                                               |       | 5,542                                                              |       | 5,244                                                             |       | 13,962                                                    |       | 1,424                                                 |       | 16,168 |   |
| Total revenues                                               |       | 159,249                                                            |       | 152,722                                                           |       | 386,690                                                   |       | 39,930                                                |       | 432,932 |   |
| **Cost of revenues**                                         |       |                                                               |       |                                                              |       |                                                      |       |                                                  |       |   |   |
| Cost of rental and service revenues                          |       | 67,832                                                             |       | 64,080                                                            |       | 168,641                                                   |       | 17,454                                                |       | 184,065 |   |
| Rental equipment depreciation                                |       | 39,335                                                             |       | 26,206                                                            |       | 89,355                                                    |       | 8,138                                                 |       | 79,761 |   |
| Cost of new equipment sold                                   |       | 5,470                                                              |       | 6,570                                                             |       | 15,832                                                    |       | 2,802                                                 |       | 22,451 |   |
| Cost of rental equipment sold                                |       | 6,925                                                              |       | 6,293                                                             |       | 19,088                                                    |       | 1,328                                                 |       | 18,308 |   |
| Other operating expenses                                     |       | 6,220                                                              |       | 5,319                                                             |       | 14,420                                                    |       | 1,498                                                 |       | 16,443 |   |
| Total cost of revenues                                       |       | 125,782                                                            |       | 108,468                                                           |       | 307,336                                                   |       | 31,220                                                |       | 321,028 |   |
|                                                         |       |                                                               |       |                                                              |       |                                                      |       |                                                  |       |   |   |
| **Gross profit**                                             |       | 33,467                                                             |       | 44,254                                                            |       | 79,354                                                    |       | 8,710                                                 |       | 111,904 |   |
| Selling, general and administrative expenses                 |       | 33,382                                                             |       | 32,777                                                            |       | 84,725                                                    |       | 9,670                                                 |       | 104,769 |   |
| Reorganization expenses                                      |       | —                                                             |       | 2,644                                                             |       | —                                                    |       | 1,973                                                 |       | 2,644 |   |
| Fresh start accounting adjustments                           |       | —                                                             |       | —                                                            |       | —                                                    |       | (50,667                                               | )          | — |   |
| Goodwill impairment                                          |       | —                                                             |       | —                                                            |       | —                                                    |       | —                                                |       | 138,115 |   |
| Non-rental depreciation and amortization                     |       | 1,626                                                              |       | 1,515                                                             |       | 9,531                                                     |       | 858                                                   |       | 4,967 |   |
| **Operating (loss) income**                                  |       | (1,541                                                             | )          | 7,318                                                             |       | (14,902                                                   | )          | 46,876                                                |       | (138,591 | ) |
| Other income, net                                            |       | 209                                                                |       | 118                                                               |       | 344                                                       |       | 80                                                    |       | 517 |   |
| (Loss) gain on discharge of debt                             |       | (5,468                                                             | )          | —                                                            |       | (5,468                                                    | )          | 241,128                                               |       | — |   |
| Interest expense                                             |       | 8,351                                                              |       | 9,026                                                             |       | 20,722                                                    |       | 2,629                                                 |       | 51,493 |   |
| (Loss) income from continuing operations before income taxes |       | (15,151                                                            | )          | (1,590                                                            | )          | (40,748                                                   | )          | 285,455                                               |       | (189,567 | ) |
| Income tax expense                                           |       | —                                                             |       | —                                                            |       | —                                                    |       | —                                                |       | — |   |
| (Loss) income from continuing operations                     |       | (15,151                                                            | )          | (1,590                                                            | )          | (40,748                                                   | )          | 285,455                                               |       | (189,567 | ) |
| Loss from discontinued operations, net of tax                |       | —                                                             |       | —                                                            |       | —                                                    |       | —                                                |       | (518 | ) |
| **Net (loss) income**                                        |       | (15,151                                                            | )          | (1,590                                                            | )          | (40,748                                                   | )          | 285,455                                               |       | (190,085 | ) |
| Other comprehensive (loss) income                            |       | 539                                                                |       | 57                                                                |       | 225                                                       |       | (279                                                  | )          | 5,895 |   |
| Comprehensive (loss) income                                  |       | $                                                                  | (14,612    | )                                                                 | $          | (1,533                                                    | )          | $                                                     | (40,523    | ) | $ | 285,176 |   | $ | (184,190 | ) |
|                                                         |       |                                                               |       |                                                              |       |                                                      |       |                                                  |       |   |   |
| Basic loss per common share                                  |       | $                                                                  | (0.80      | )                                                                 |       |                                                      | $          | (2.15                                                 | )     |   |   |   |   |
| Diluted loss per common share                                |       | $                                                                  | (0.80      | )                                                                 |       |                                                      | $          | (2.15                                                 | )     |   |   |   |   |
| Weighted average shares outstanding:                         |       |                                                               |       |                                                              |       |                                                      |       |                                                  |       |   |   |
| Basic calculation                                            |       | 18,931                                                             |       |                                                              |       | 18,931                                                    |       |                                                  |       |   |   |
| Diluted calculation                                          |       | 18,931                                                             |       |                                                              |       | 18,931                                                    |       |                                                  |       |   |   |
|                                                              |            |                                                                    |            |                                                                   |            |                                                           |            |                                                       |            |  |  |  |  |  |  |  |  |  |

 

See accompanying notes to consolidated financial statements and reviewreport of KPMG LLP.

 

5

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**NES RENTALS HOLDINGS, INC. AND SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)**

**(in thousands)**

 
| ** **                                                                                | ** ** | **Successor**                                          | ** ** | **Predecessor**                                   | ** ** |
|-------------------------------------------------------------------------------------------|------------|--------------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                                                | ** ** | **For the eight months ended September 30, 2004** | ** ** | **For the one month ended January 31, 2004** | ** ** | **For the nine months ended   September 30, 2003** | ** ** |
|                                                                                      |       |                                                   |       |                                              |       |   |   |
| **Cash flows from operating activities:**                                                 |       |                                                   |       |                                              |       |   |   |
| Net (loss) income                                                                         |       | $                                                      | (40,748    | )                                                 | $          | 285,455 |   | $ | (190,085 | ) |
| Adjustments to reconcile net (loss) income to net cash provided by  operating activities: |       |                                                   |       |                                              |       |   |   |
| Depreciation and amortization                                                             |       | 98,886                                                 |       | 8,996                                             |       | 84,728 |   |
| Goodwill impairment                                                                       |       | —                                                 |       | —                                            |       | 138,115 |   |
| Amortization of debt issuance costs and debt discount                                     |       | 1,128                                                  |       | —                                            |       | 5,891 |   |
| Loss on discharge of debt                                                                 |       | 5,468                                                  |       | —                                            |       | — |   |
| Gain on sale of equipment                                                                 |       | (6,210                                                 | )          | (861                                              | )          | (6,845 | ) |
| Changes in operating assets and liabilities:                                              |       |                                                   |       |                                              |       |   |   |
| Trade accounts receivable                                                                 |       | (18,605                                                | )          | 2,787                                             |       | (11,579 | ) |
| Inventory                                                                                 |       | (5,251                                                 | )          | (61                                               | )          | 2,596 |   |
| Prepaid expenses and other assets                                                         |       | (3,843                                                 | )          | (2,745                                            | )          | (11,922 | ) |
| Trade accounts payable                                                                    |       | 3,954                                                  |       | (583                                              | )          | 1,086 |   |
| Accrued expenses and other liabilities                                                    |       | 9,459                                                  |       | 1,857                                             |       | 9,383 |   |
| Chapter 11 items:                                                                         |       |                                                   |       |                                              |       |   |   |
| Fresh start accounting adjustments                                                        |       | —                                                 |       | (50,667                                           | )          | — |   |
| Gain on discharge of debt                                                                 |       | —                                                 |       | (241,128                                          | )          | — |   |
| Net cash flows provided by operating activities                                           |       | 44,238                                                 |       | 3,050                                             |       | 21,368 |   |
|                                                                                      |       |                                                   |       |                                              |       |   |   |
| **Cash flows from investing activities:**                                                 |       |                                                   |       |                                              |       |   |   |
| Purchases of rental equipment                                                             |       | (82,566                                                | )          | (4,362                                            | )          | (26,103 | ) |
| Proceeds from sale of rental equipment                                                    |       | 23,438                                                 |       | 2,120                                             |       | 24,921 |   |
| Purchases of property and equipment                                                       |       | (10,442                                                | )          | (819                                              | )          | (6,387 | ) |
| Proceeds from sale of property and equipment                                              |       | 4,599                                                  |       | 111                                               |       | 1,411 |   |
| Net cash flows used in investing activities                                               |       | (64,971                                                | )          | (2,950                                            | )          | (6,158 | ) |
|                                                                                      |       |                                                   |       |                                              |       |   |   |
| **Cash flows from financing activities:**                                                 |       |                                                   |       |                                              |       |   |   |
| Proceeds from debt                                                                        |       | 475,000                                                |       | 481,172                                           |       | — |   |
| Payments on debt                                                                          |       | (477,146                                               | )          | (482,363                                          | )          | (1,700 | ) |
| Net proceeds under revolving credit facility                                              |       | 7,085                                                  |       | —                                            |       | — |   |
| Payments of debt issuance costs                                                           |       | (14,333                                                | )          | (6,278                                            | )          | (600 | ) |
| (Decrease) increase in book overdraft (checks yet to clear)                               |       | (3,905                                                 | )          | (1,320                                            | )          | 9,111 |   |
| Net cash (used in) provided by financing activities                                       |       | (13,299                                                | )          | (8,789                                            | )          | 6,811 |   |
| Net (decrease) increase in cash and cash equivalents                                      |       | (34,032                                                | )          | (8,689                                            | )          | 22,021 |   |
| Cash and cash equivalents at beginning of period                                          |       | 41,562                                                 |       | 50,251                                            |       | 15,184 |   |
| Cash and cash equivalents at end of period                                                |       | $                                                      | 7,530      |                                              | $          | 41,562 |   | $ | 37,205 |   |
|                                                                                      |       |                                                   |       |                                              |       |   |   |
| **Supplemental Cash Flow Information:**                                                   |       |                                                   |       |                                              |       |   |   |
| Cash paid for interest                                                                    |       | $                                                      | 18,407     |                                              | $          | 2,663 |   | $ | 37,903 |   |
| Cash paid for income taxes                                                                |       | 242                                                    |       | 49                                                |       | 884 |   |

 

See accompanying notes to consolidated financial statements and reviewreport of KPMG LLP.

6

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**NES RENTALS HOLDINGS, INC. AND SUBSIDIARIES**

# **NOTES TOCONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)**

**(Amounts in thousands, except per share amounts)**

 

**1.  Organization**

 

NESRentals Holdings, Inc. (the “Company” or the “Successor”) is principally aholding company organized under the laws of Delaware. The Company conducts itsoperations through its wholly-owned subsidiaries. The Company operatesequipment rental, sales and service facilities primarily located throughout theUnited States of America. The Company rents various types of general rental andtraffic safety equipment to a diverse customer base, including construction, governmentaland industrial users. The Company also sells new equipment and used equipmentfrom its rental fleet, sells related parts and provides other services. The natureof the Company’s business is such that short-term obligations are met typicallyby cash flow generated from long-term assets. Consequently, consistent withindustry practice, the accompanying consolidated balance sheets are presentedon an unclassified basis.

 

**2.  Reorganization**

 

OnJune 27, 2003, National Equipment Services, Inc. (the “Predecessor Company”)and its U.S. subsidiaries (collectively, the “Debtors”) filed for voluntaryreorganization under Chapter 11 (the “Reorganization”) of the U.S. BankruptcyCode (the “Bankruptcy Code”) in the Northern District of Illinois (“BankruptcyCourt”).  The Canadian subsidiary, whichrepresents less than 2% of total revenues and total assets of the PredecessorCompany, was not included in the petition. Due to the size of the Canadian subsidiary, the consolidated financialstatements of the Predecessor Company presented herein are essentiallyequivalent to the consolidated financial statements of the Debtors.

 

Theinitial plan of reorganization was filed on October 17, 2003.  On January 23, 2004, the Debtors filed afourth amended plan of reorganization (the “Plan of Reorganization”), whichreceived the requisite support from the creditors authorized to votethereon.  The Plan of Reorganization wasconfirmed by the Bankruptcy Court on January 23, 2004, and the Debtorsemerged from bankruptcy on February 11, 2004 (the “Effective Date”).

 

Onthe Effective Date, the Company entered into a new senior secured creditfacility (the “New Credit Facility”). The New Credit Facility consisted of $285,000 of term loan facilitiesand a $205,000 revolving credit facility. There were quarterly scheduled principal repayments on the term loanfacilities through the May 15, 2007 maturity date of the New Credit Facility.

 

FromJune 27, 2003 through February 11, 2004, the Debtors continued tooperate as debtors-in-possession pursuant to Sections 1107 and 1108 of theBankruptcy Code.  National EquipmentServices, Inc. obtained Debtor-in-Possession financing which provided up to$30,000 of availability to fund operations during the bankruptcy period.  The Debtors did not borrow any funds fromthis financing source during the period it was in place.

 

ThePlan of Reorganization provided for the cancellation of all of the issued andoutstanding shares of common stock, par value $0.01 per share, of thePredecessor Company (the “Old Common Stock”), all of the issued and outstandingshares of preferred stock of the Predecessor Company, and all other outstandingsecurities of the Predecessor Company, including common stock options as of theEffective Date.

 

Onthe Effective Date, National Equipment Services, Inc. merged into NES Rentals,Inc.  NES Rentals, Inc. was the surviving company in the merger andwas renamed National Equipment Services, Inc.  NES Rentals, Inc. was asubsidiary of both NES IT Services, Inc. and NES Real Estate Management, Inc.,which are subsidiaries of the newly formed NES Rentals

Holdings,Inc., which is the successor to National Equipment Services, Inc.  The Company is the new public company parentof National Equipment Services, Inc. and has 25,000 authorized shares of commonstock (the “New Common Stock”).

 

Inaccordance with the Plan of Reorganization, (i) holders of general unsecuredclaims, including the holders of the Company’s Senior Subordinated Notes due2004, Series B (the “Series B Notes”) and Senior Subordinated Notes due 2004,Series D (the “Series D Notes”), received 97.5% of the New Common Stock of theCompany, (ii) the holders of the Company’s preferred stock received 2.0% of theNew Common Stock of the Company, and (iii) the holders of the Company’s OldCommon Stock received 0.5% of the New Common Stock of the Company.

 

7

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**3.  Basis of Presentation**

 

As a result of the Company’sReorganization as described in Note 2, the Company has applied fresh startreporting pursuant to the American Institute of Certified Public Accountants’Statement of Position 90-7, “Financial Reporting by Entities in ReorganizationUnder the Bankruptcy Code” (“SOP 90-7”) as of January 31, 2004.  As a result of the application of fresh startreporting on January 31, 2004, the post-emergence financial results of theCompany for the three- and eight-month periods ended September 30, 2004 are presentedas the results of the “Successor” and the pre-emergence financial results forthe month ended January 31, 2004 and the three- and nine-month periods endedSeptember 30, 2003 are presented as the results of the “Predecessor.”  Per share and share information for thePredecessor Company for all periods presented herein have been omitted as suchinformation is deemed to be not meaningful. Refer to Note 4 for further discussion regarding the application offresh start reporting.

 

The accompanying unaudited financial statements havebeen prepared in accordance with accounting principles generally accepted inthe United States of America for interim financial statements and with theinstructions to Form 10-Q and Rule 10-01 of Regulation S-X.  Accordingly, they do not include all of theinformation and disclosures required by accounting principles generallyaccepted in the United States of America for annual financial statements.  In the opinion of management, all adjustmentsconsidered necessary for a fair presentation, consisting only of normalrecurring adjustments, except as described in Note 4 related to the applicationof fresh start reporting, have been included. For further information, refer to the consolidated financial statementsand notes thereto included in the Annual Report on Form 10-K of the PredecessorCompany for the year ended December 31, 2003.

 

                The preparation of consolidatedfinancial statements in conformity with accounting principles generallyaccepted in the United States of America requires management to make estimatesand assumptions that affect the reported amounts of assets and liabilities,disclosure of contingent assets and liabilities at the date of the consolidatedfinancial statements and the reported amounts of revenues and expenses duringthe reporting period. Significant estimates relate to useful lives andrecoverability of long-lived assets, residual values of rental equipment andreserves and allowances for trade accounts receivable,inventory and deferred tax assets. Actual results could differ from those estimates.

 

Results of operations forthe interim periods are not necessarily indicative of the results that may beexpected for a full year.  Due to theseasonality that impacts a significant portion of the Company’s locations, thesecond and third quarters are typically the most active quarters for theCompany.  The consolidated financialstatements include the accounts of the Company and its subsidiaries. Allsignificant intercompany transactions and balances have been eliminated.

 

Theconsolidated financial statements have been prepared on a going concern basis,which contemplates continuity of operations, realization of assets, and paymentof liabilities in the ordinary course of business.  While the Company’s history of significantlosses and the Reorganization discussed herein raise doubt about the Company’sability to continue as a going concern, the recent refinancing (see Note 9)substantially reduces the Company’s debt reduction requirements in effect underits previous credit facility, resulting in significantly improved liquidity tomeet on-going obligations as they become due and to continue investing in theCompany’s rental equipment.

 

**Rental equipment**— Rentalequipment is recorded at cost. Depreciation of rental equipment is computed using the straight-linemethod over one to fifteen year estimated useful lives.

 

**Book overdraft (checks yet to clear)**— The book overdraftconsists of checks issued but not yet presented to banks for payment.

 

**Interest expense —**Contractual interest expensewas $15,901, $4,921 and $58,368 for the three months ended September 30, 2003,the one month ended January 31, 2004 and the nine months ended September 30,2003, respectively.

 

**Changes in estimates**— In conjunction with theapplication of fresh start accounting in the first quarter (see Note 4),certain depreciable assets were revalued and estimated useful lives wereassigned.  In the second quarter, theCompany reassessed the depreciable lives of these assets and determined thatthe useful lives should be decreased. The impact was to increase depreciation expense for the three-monthperiod ended June 30, 2004 by approximately $4,700 or $0.25 pershare.  In the third quarter, the Companyfinalized its assessment of these depreciable assets revalued in conjunction withthe application of fresh start accounting and determined that the useful livesshould be decreased.  The impact was toincrease depreciation expense for the three-month period ended September 30,2004 by approximately $4,300 or $0.23 per share.

 

8

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**Comprehensive (loss) income**— Unrealized foreigncurrency translation gains (losses) are included in other comprehensive (loss) incomefor the periods presented herein.  Inaddition, the change in the fair value of a derivative instrument of $4,609 wasincluded in other comprehensive income for the nine-month period endedSeptember 30, 2003.  The contractfor the derivative instrument expired in April 2003.

 

**Stock-Based Compensation**—The Company accounts forits stock-based employee compensation plan, which is described more fully inNote 11, under the recognition and measurement principles of AccountingPrinciples Board (“APB”) Opinion No. 25, “Accounting for Stock Issued toEmployees,” and related interpretations. In accordance with the intrinsic value method, no compensation expenseis recognized for the Company’s stock option plan.  Had compensation expense been determinedbased on the fair value at the grant date for awards under this plan consistentwith the method of SFAS No. 123, “Accounting for Stock-Based Compensation,”the Company’s net loss and net loss per share would have been as follows forthe three and eight months ended September 30, 2004:

 

| ** **                                                                                                  | ** ** | **Three Months Ended   September 30,   2004** | ** ** | **Eight Months Ended   September 30, 2004** | ** ** |
|-------------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------|------------|-------------------------------------------------------|------------|
|                                                                                                        |       |                                          |       |                                                  |       |
| Net loss, as  reported                                                                                      |       | $                                             | (15,151)   |                                                  | (40,748    | ) |
| Deduct: Total stock-based employee compensation expense determined  under the fair value method, net of tax |       | (938                                          | )          | (938                                                  | )          |
| Pro forma net loss                                                                                          |       | $                                             | (16,089    | )                                                     | (41,686    | ) |
|                                                                                                        |       |                                          |       |                                                  |       |
| Basic loss per share, as reported                                                                           |       | $                                             | (0.80      | )                                                     | (2.15      | ) |
| Pro forma basic loss per share                                                                              |       | $                                             | (0.85      | )                                                     | (2.20      | ) |
| Diluted loss per share, as reported                                                                         |       | $                                             | (0.80      | )                                                     | (2.15      | ) |
| Pro forma diluted loss per share                                                                            |       | $                                             | (0.85      | )                                                     | (2.20      | ) |

 

                Thedetermination of compensation expense for the pro forma information was basedupon the estimated fair value of the options granted on the date of their grantusing the Black-Scholes option pricing model and the following weightedaverage assumptions: 

 

| ** **              | ** ** | **2004** | ** ** |
|-------------------------|------------|----------|------------|
| Risk-free interest rate |       | 3.4      | %          |
| Expected life           |       | 5  years |       |
| Expected volatility     |       | 60       | %          |
| Expected dividend yield |       | -        |       |

 

                Theweighted average fair value of options granted was $3.97 in 2004. The number ofoptions exercisable at September 30, 2004 was 280.  These disclosures are omitted for 2003 as allpreviously issued options were cancelled upon the Company’s emergence frombankruptcy on February 11, 2004 and thus this information is deemed to be notmeaningful.

 

**4.  Fresh Start Reporting**

 

Pursuantto SOP 90-7, the accounting for the effects of the Company’s reorganizationoccurred once the Plan of Reorganization was confirmed by the Bankruptcy Courtand there were no remaining contingencies material to completing theimplementation of the Plan of Reorganization. As discussed in Note 2, the Company’s Plan of Reorganization was approvedon January 23, 2004, and the Company emerged from bankruptcy onFebruary 11, 2004.  For financialreporting purposes, fresh start reporting was applied on January 31, 2004.

 

Inaccordance with SOP 90-7, the results of operations for the month ended January 31,2004 include a pre-emergence gain of $241,128 resulting from the discharge ofdebt and other liabilities under the Plan of Reorganization and a pre-emergencegain of $50,667 resulting from the aggregate remaining changes to the netcarrying value of the Company’s pre-emergence assets and liabilities to reflectthe fair values under fresh start reporting. The Company’s estimated reorganization value at January 31, 2004,which approximates the amount a willing buyer would pay for the assets of theCompany immediately after the Reorganization, was $716,252.  The Company estimated the reorganizationvalue for purposes of fresh start reporting utilizing the estimated value ofthe Company on an enterprise basis (the “Enterprise Value”), adjusting toexclude known liabilities other than the New Credit Facility atJanuary 31, 2004.

 

TheEnterprise Value was determined by valuation specialists using the followingthree methodologies:  (a) the applicationof public market valuation multiples to the Predecessor Company’s recenthistorical financial results, (b) the

9

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applicationof completed merger and acquisition transaction valuation multiples to thePredecessor Company’s recent historical financial results, and (c) acalculation of the present value of the debt-free cash flows on management’sprojections, including an assumption for a terminal value (the “DCF Analysis”).  The DCF Analysis involves deriving thedebt-free cash flows that the Company would generate assuming the projectionsdeveloped by management are realized. These cash flows and an estimated value of the Company at the end of theprojected period (the “Terminal Value”) are discounted at the Company’sestimated post-Reorganization weighted average cost of capital.  The financial projections utilized in the DCFanalysis were developed by management and are based on estimates andassumptions, which include, but are not limited to, estimates and assumptionswith respect to pricing by market, capital spending and working capital levels,and the development of a discount rate that is utilized to convert futureprojected cash flows to their estimated present value.  The estimated projections and assumptions,while considered reasonable by management, may not be realized and areinherently subject to uncertainties and contingencies, which couldsignificantly affect the measurement of the Enterprise Value and thereorganization value.  Based on the abovemethodologies, the Enterprise Value was determined to be $633,000.

 

Underfresh start reporting, the estimated reorganization value has been allocated tothe Company’s assets based on their respective fair values in conformity withthe purchase method of accounting for business combinations in accordance withStatement of Financial Accounting Standards No. 141, “Business Combinations.”  Valuations performed by valuation specialistswere required to determine the fair value of certain of the Company’s assets aspresented below.  The consolidatedbalance sheet presented below gives effect to the Plan of Reorganization andthe application of fresh start reporting at January 31, 2004.

 
| ** **                                                | ** ** | **Predecessor  January 31, 2004** | ** ** | **Discharge of   Debt and Exit Financing** | ** ** | **Cancellation   of Old Equity** | ** ** | **Fresh Start Adjustments** | ** ** | **Successor   January 31, 2004** | ** ** |
|-----------------------------------------------------------|------------|----------------------------------------|------------|--------------------------------------------|------------|----------------------------------|------------|-----------------------------|------------|---------------------------------------|------------|
| **Assets**                                                |       |                                   |       |                                       |       |                             |       |                        |       |                                  |       |
| Cash and cash equivalents                                 |       | $                                      | 47,840     |                                       | $          | (6,278)                          | (a)        | $                           | —     |                                  | $          | — |   | $ | 41,562 |   |
| Trade accounts receivable                                 |       | 123,988                                |       | —                                     |       | —                           |       | —                      |       | 123,988                               |       |
| Inventory                                                 |       | 13,989                                 |       | —                                     |       | —                           |       | 425                         | (g)        | 14,414                                |       |
| Unamortized debt issuance costs                           |       | —                                 |       | 6,278                                      | (b)        | —                           |       | —                      |       | 6,278                                 |       |
| Prepaid expenses and other assets                         |       | 40,854                                 |       | —                                     |       | —                           |       | 386                         | (h)        | 41,240                                |       |
| Rental equipment                                          |       | 402,911                                |       | —                                     |       | —                           |       | 25,306                      | (i)        | 428,217                               |       |
| Property and equipment                                    |       | 35,050                                 |       | —                                     |       | —                           |       | 9,330                       | (i)        | 44,380                                |       |
| Unamortized intangible assets                             |       | 953                                    |       | —                                     |       | —                           |       | 15,220                      | (j)        | 16,173                                |       |
| Total assets                                              |       | $                                      | 665,585    |                                       | $          | —                           |       | $                           | —     |                                  | $          | 50,667 |   | $ | 716,252 |   |
|                                                      |       |                                   |       |                                       |       |                             |       |                        |       |                                  |       |
| **Liabilities**                                           |       |                                   |       |                                       |       |                             |       |                        |       |                                  |       |
| Liabilities not subject to compromise                     |       |                                   |       |                                       |       |                             |       |                        |       |                                  |       |
| Book overdraft                                            |       | $                                      | 16,167     |                                       | $          | —                           |       | $                           | —     |                                  | $          | — |   | $ | 16,167 |   |
| Trade accounts payable                                    |       | 4,263                                  |       | 22,268                                     | (c)        | —                           |       | —                      |       | 26,531                                |       |
| Accrued interest                                          |       | 184                                    |       | —                                     |       | —                           |       | —                      |       | 184                                   |       |
| Accrued expenses and other liabilities                    |       | 38,866                                 |       | —                                     |       | —                           |       | —                      |       | 38,866                                |       |
| New credit facility                                       |       | —                                 |       | 481,172                                    | (d)        | —                           |       | —                      |       | 481,172                               |       |
| Capital leases                                            |       | 1,501                                  |       | —                                     |       | —                           |       | —                      |       | 1,501                                 |       |
| Liabilities subject to compromise                         |       | 896,399                                |       | (896,399)                                  | (e)        | —                           |       | —                      |       | —                                |       |
| Total liabilities                                         |       | 957,380                                |       | (392,959)                                  |       | —                           |       | —                      |       | 564,421                               |       |
|                                                      |       |                                   |       |                                       |       |                             |       |                        |       |                                  |       |
| **Stockholders’ equity (deficit):**                  |       |                                   |       |                                       |       |                             |       |                        |       |                                  |       |
| Successor common stock                                    |       | —                                 |       | 189                                        | (e)        | —                           |       | —                      |       | 189                                   |       |
| Predecessor common stock                                  |       | 241                                    |       | —                                     |       | (241)                            | (f)        | —                      |       | —                                |       |
| Successor additional paid-in capital                      |       | —                                 |       | 151,642                                    | (e)        | —                           |       | —                      |       | 151,642                               |       |
| Predecessor additional paid-in capital                    |       | 123,887                                |       | —                                     |       | (123,887)                        | (f)        | —                      |       | —                                |       |
| Accumulated deficit                                       |       | (398,233                               | )          | 241,128                                    | (e)        | 105,066                          | (f)        | 52,039                      | (k)   | —                                |       |
| Predecessor treasury stock                                |       | (19,062                                | )          | —                                     |       | 19,062                           | (f)        | —                      |       | —                                |       |
| Accumulated other comprehensive income                    |       | 1,372                                  |       | —                                     |       | —                           |       | (1,372)                     | (k)        | —                                |       |
| Total stockholders’ equity (deficit)                 |       | (291,795                               | )          | 392,959                                    |       | —                           |       | 50,667                      |       | 151,831                               |       |
| Total liabilities and stockholders’ equity (deficit) |       | $                                      | 665,585    |                                       | $          | —                           |       | $                           | —     |                                  | $          | 50,667 |   | $ | 716,252 |   |

 

 

10

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Adjustmentsreflected in the consolidated balance sheet are as follows:

 

(a)          Represents payment of debt issuance costs for the New Credit Facility.

(b)         Represents recognition of debt issuance costs consisting of fees andexpenses of the New Credit Facility.

(c)          Representsthe accrual of liabilities upon emergence under the Plan of Reorganizationrelated to priority, administrative and vendor claims.

(d)         Represents the proceeds under the New CreditFacility which were used to repay the existing indebtedness.

(e)          Represents the elimination of pre-petitionliabilities discharged under the Plan of Reorganization as follows:

 

| Liabilities subject to compromise                                                                                                        |   | $        | 896,399 |   |
|------------------------------------------------------------------------------------------------------------------------------------------|--------|----------|---------|--------|
|                                                                                                                                     |   |     |    |
| Form of settlement:                                                                                                                      |   |     |    |
| Issuance of New Common Stock                                                                                                             |   | (151,831 | )       |
| Issuance of New Credit Facility                                                                                                          |   | (481,172 | )       |
| Amounts reclassified to accounts payable for certain estimated cure  payments with respect to priority, administrative and vendor claims |   | (22,268  | )       |
|                                                                                                                                     |   |     |    |
| Gain on discharge of debt                                                                                                                |   | $        | 241,128 |   |

 

(f)            Represents cancellation of Predecessor Companycommon stock under fresh start reporting.

(g)         Represents adjustment to reflect the Company’sestimated fair value of inventory held for sale to third parties under freshstart reporting.

(h)         Represents adjustment to reflect the increase in thefair value of capitalized software development costs under fresh startreporting based on the results of valuation procedures performed by valuationspecialists.

(i)             Represents adjustment to reflect rental equipmentand property and equipment at fair values under fresh start reporting based onthe results of valuation procedures performed by valuation specialists.

(j)             Represents adjustment to reflect the fair value ofidentified intangible assets under fresh start reporting based on results ofvaluation procedures performed by valuation specialists.  See Note 6 for additional information.

(k)          Represents the elimination of pre-emergence equityaccounts under fresh start reporting.

 

**5****.  Prepaid Expenses and OtherAssets**

 

Prepaidexpenses and other assets consist of the following:

 

| ** **        | ** ** | **Successor**               | ** ** | **Predecessor**            | ** ** |   |
|-------------------|------------|-----------------------------|------------|----------------------------|------------|--------|
| ** **        | ** ** | **September 30, 2004** | ** ** | **December 31, 2003** | ** ** |   |
|              |       |                        |       |                       |       |   |
| Deposits          |       | $                           | 34,902     |                       | $          | 26,845 |   |   |
| Prepaid expenses  |       | 6,553                       |       | 6,260                      |       |   |
| Other assets      |       | 1,733                       |       | 3,286                      |       |   |
| Other receivables |       | 1,895                       |       | 1,718                      |       |   |
|              |       | $                           | 45,083     |                       | $          | 38,109 |   |
|                   |            |                             |            |                            |            |        |  |  |  |  |  |  |  |  |

 

Deposits consist primarily of cash collateralrelated to performance bonding requirements and insurance.  

11

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**6****.  Intangible Assets**

 

Intangibleassets, net of accumulated amortization, consist of the following:

 

| ** **               | ** ** | **Successor**               | ** ** | **Predecessor**            | ** ** |
|--------------------------|------------|-----------------------------|------------|----------------------------|------------|
| ** **               | ** ** | **September 30, 2004** | ** ** | **December 31, 2003** | ** ** |
|                     |       |                        |       |                       |       |
| Non-compete agreements   |       | $                           | 1,933      |                       | $          | 8,491 |   |
| Customer relationships   |       | 10,927                      |       | —                     |       |
| Backlog                  |       | 3,220                       |       | —                     |       |
|                     |       | $                           | 16,080     |                       | $          | 8,491 |   |
| Accumulated amortization |       | 5,115                       |       | 7,481                      |       |
|                     |       | $                           | 10,965     |                       | $          | 1,010 |   |

 

Non-competeagreements and customer relationships are amortized on a straight-line basisover five years.  Backlog is amortized ona straight-line basis over one year.

 

**7.  Accrued Expensesand Other Liabilities**

 

Accruedexpenses and other liabilities consist of the following:

 

| ** **                         | ** ** | **Successor**               | ** ** | **Predecessor**            | ** ** |
|------------------------------------|------------|-----------------------------|------------|----------------------------|------------|
| ** **                         | ** ** | **September 30, 2004** | ** ** | **December 31, 2003** | ** ** |
|                               |       |                        |       |                       |       |
| Accrued compensation and benefits  |       | $                           | 6,677      |                       | $          | 7,835 |   |
| Accrued self-insurance liabilities |       | 8,898                       |       | 6,328                      |       |
| Accrued property and sales taxes   |       | 6,674                       |       | 7,093                      |       |
| Accrued restructuring expenses     |       | —                      |       | 1,622                      |       |
| Accrued payables                   |       | 16,910                      |       | 6,017                      |       |
| Other accrued expenses             |       | 8,941                       |       | 8,020                      |       |
|                               |       | $                           | 48,100     |                       | $          | 36,915 |   |

 

**8.  Liabilities Subjectto Compromise**

 

Liabilitiessubject to compromise consist of the following as of December 31, 2003:

 

|                                          |   |    |    |
|-----------------------------------------------|--------|---------|---------|
| Accounts payable                              |   | $       | 21,437  |   |
| Accrued interest                              |   | 15,448  |    |
| Accrued expenses                              |   | 6,299   |    |
| Debt                                          |   | 757,150 |    |
| Senior mandatorily redeemable preferred stock |   | 97,046  |    |
|                                          |   | $       | 897,380 |   |

 

Asa result of the Reorganization, no principal or interest payments were madeafter November 2002 on the Company’s Series B Notes and Series DNotes.  As a result, interest on theSeries B Notes and the Series D Notes was not accrued or recorded afterJune 27, 2003.

 

**9.  Debt and Liquidity**

 

Asof December 31, 2002, the Company was in default under the financialcovenants governing its credit facility. As of January 23, 2003, the Company and the lenders under thecredit facility entered in a forbearance agreement with an initial expirationof March 14, 2003.  As ofMarch 14, 2003, the Company and the lenders under the credit facilityentered into a second forbearance agreement which extended the forbearanceperiod until May 14, 2003, subject to earlier expiration upon the occurrence ofcertain circumstances.  This forbearanceperiod was subsequently extended to June 15, 2003.

 

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TheCompany also had $100,000 of Senior Subordinated Notes due 2004 (the “Series BNotes”) and $175,000 of Senior Subordinated Notes due 2004 (the “Series D Notes”)outstanding prior to the Reorganization. In accordance with the Plan of Reorganization, the holders of theCompany’s Series B Notes and Series D Notes received 97.5% of the new common stockof the Company created upon emergence from bankruptcy.  The Company ceased accruing interest on theSeries B Notes and the Series D Notes upon filing for bankruptcy protection.

 

Priorto seeking protection in bankruptcy on June 27, 2003, the Company obtainedDebtor-in-Possession financing which provided up to $30,000 of availability tothe Company to fund operations during the bankruptcy period.  The financing required that the Company meetcertain financial tests monthly during the period that the facility was inplace.  The Company did not borrow anyfunds from this financing source during the period it was in place.

 

Inconnection with the Company’s emergence from bankruptcy on February 11,2004, the Company entered into a new senior secured credit facility (the “NewCredit Facility”).  The New CreditFacility consisted of $285,000 of term loan facilities and a $205,000 revolvingcredit facility.

 

OnAugust 17, 2004, the Company entered into a new senior secured credit facility(the “2004 Credit Facility”).  The 2004Credit Facility consists of a $300,000 first lien credit facility, comprised ofa $200,000 term loan and a $100,000 revolving loan, and a $275,000 second lienterm loan.  Proceeds under the 2004Credit Facility were used to repay the balance outstanding under the New CreditFacility.  The Company has scheduledprincipal repayments of $500 quarterly on the first lien credit facilitythrough the August 17, 2009 maturity date. The interest rate on the 2004 Credit Facility averages base rate plus0.5% or LIBOR plus 2.5%.  The second lienterm loan expires on August 17, 2010 and the interest rate is base rate plus 5%or LIBOR plus 6%.  The Company hasscheduled principal repayments of $688 quarterly on the second lien creditfacility through the maturity date.  Asof September 30, 2004, the average LIBOR-based interest rates on the 2004Credit Facility and on the second lien term loan were 4.4% and 7.9%,respectively.

 

The2004 Credit Facility contains certain covenants that require the Company to,among other things, satisfy certain financial tests relating to fixed chargecoverage ratios and debt leverage ratios. The credit facility also contains various other covenants that restrictthe Company’s ability to, among other things, 1) incur additionalindebtedness, 2) permit liens to attach to its assets and 3) paydividends or make other restricted payments on its common stock and certainother securities unless certain financial conditions are satisfied. The 2004Credit Facility is collateralized by substantially all of the Company’sassets.  The Company is currently incompliance with all covenants governing the 2004 Credit Facility.

 

TheCompany is a holding company with no independent operations, and the Company’sassets (excluding the intercompany receivables and common stock of itssubsidiaries) are insignificant. All of the Company’s subsidiaries are directlyor indirectly wholly owned by the Company. There are no restrictions on the Company’s ability to obtain funds fromits subsidiaries by dividend or loan. The separate financial statements of each of these wholly ownedsubsidiaries are not presented as management believes that separate financialstatements and other disclosures concerning these subsidiaries are notindividually meaningful for presentation or material to investors. In addition,the Company has pledged the stock of each of its subsidiaries as furthersecurity for the Company’s obligations under the 2004 Credit Facility.

 

**10.  ReorganizationExpenses**

 

Expensesincurred as a result of the Reorganization have been segregated from normaloperations and are disclosed separately. These expenses consist primarily of professional fees incurred forfinancial advisors, legal counsel and consultants during theReorganization.  These professional feeswere cash charges.

 

**11. Stock Option Plan**

 

                During2004, the Company established a plan in which options to purchase shares ofCommon Stock can be granted to directors, officers and key employees of theCompany, and other individuals.  Up to1,400 shares of Common Stock may be issued under this plan. During the thirdquarter of 2004, 1,400 options were granted under the plan at an exercise priceof $7.80.  These options vest over fouryears from the grant date and expire seven years from the grant date. AtSeptember 30, 2004, 280 stock options are exercisable.  The Company’s stock options were excludedfrom the computation of diluted loss per share in the periods presented hereinbecause inclusion would be anti-dilutive by reducing the loss per share.

 

13

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**12. Director’s deferred compensation plan**

** **

During 2004, the Companyestablished a plan in which each of the new directors received 20 deferredcompensation units, with each unit equivalent to one share of commonstock.  The deferred compensation unitsgenerally vest over time.  In the eventof a “change of control” (as defined in the plan) of the Company, the deferredcompensation units will immediately vest in full, and provide that any paymentto the new directors, in respect of their units will be equal to the per shareamount received by holders of common stock, with a minimum payment equal to$250 for each director.

 

**13.  Segment information**

 

Alloperations are managed on a branch basis. The Company has two reportingsegments: General Rental and Other and Traffic Safety. The General Rental andOther operations are primarily involved in the rental and sale of various typesof lift and specialty equipment to construction, automotive and otherindustrial users. The Traffic Safety operations are primarily involved in therental of traffic safety equipment and providing the related services to managetraffic flow during construction.  TheTraffic Safety operations have different contractual, regulatory and capitalrequirements than the General Rental and Other operations. The accountingpolicies for these segments are the same as those described in Note 3.

 

TheCompany’s operations in Canada represent less than 2% of total revenues andtotal assets of the Company.  Due to thesize of the Company’s Canadian operations, these operations are consideredinsignificant for separate geographical segment reporting.  The Company has no single customer thatrepresents greater than 10% of the Company’s consolidated revenues.Identifiable assets are those used in the Company’s operations in eachsegment.  Inter-segment revenues are notmaterial.

 

Thefollowing table presents financial information for the reporting segments:

 

| ** **                                                     | ** ** | **General Rental and Other** | ** ** | **Traffic   Safety** | ** ** | **Consolidated** | ** ** |
|----------------------------------------------------------------|------------|-----------------------------------|------------|----------------------|------------|------------------|------------|
| **Three Months Ended September 30, 2004 (Successor):**    |       |                              |       |                 |       |             |       |
| Rental and service revenues                                    |       | $                                 | 104,098    |                 | $          | 34,438           |       | $ | 138,536 |   |
| New equipment sales                                            |       | 5,610                             |       | 804                  |       | 6,414            |       |
| Rental equipment sales                                         |       | 8,727                             |       | 30                   |       | 8,757            |       |
| Other revenues                                                 |       | 3,688                             |       | 1,854                |       | 5,542            |       |
| Total revenues                                                 |       | 122,123                           |       | 37,126               |       | 159,249          |       |
| Operating (loss) income                                        |       | (5,892                            | )          | 4,351                |       | (1,541           | )          |
| Net (loss) income                                              |       | (19,639                           | )          | 4,488                |       | (15,151          | )          |
| Identifiable assets                                            |       | 599,744                           |       | 90,207               |       | 689,951          |       |
| Depreciation and amortization                                  |       | 31,866                            |       | 9,095                |       | 40,961           |       |
| Capital expenditures                                           |       | 28,433                            |       | 3,542                |       | 31,975           |       |
| **Three Months Ended September 30, 2003  (Predecessor):** | ** ** | ** **                        | ** ** | ** **           | ** ** | ** **       | ** ** |
| Rental and service revenues                                    |       | $                                 | 103,448    |                 | $          | 28,432           |       | $ | 131,880 |   |
| New equipment sales                                            |       | 7,609                             |       | 537                  |       | 8,146            |       |
| Rental equipment sales                                         |       | 7,433                             |       | 19                   |       | 7,452            |       |
| Other revenues                                                 |       | 3,783                             |       | 1,461                |       | 5,244            |       |
| Total revenues                                                 |       | 122,273                           |       | 30,449               |       | 152,722          |       |
| Operating income                                               |       | 2,887                             |       | 4,431                |       | 7,318            |       |
| Net (loss) income                                              |       | (6,036                            | )          | 4,446                |       | (1,590           | )          |
| Identifiable assets                                            |       | 615,016                           |       | 75,030               |       | 690,046          |       |
| Depreciation and amortization                                  |       | 24,862                            |       | 2,859                |       | 27,721           |       |
| Capital expenditures                                           |       | 6,036                             |       | 4,666                |       | 10,702           |       |
|                                                                |            |                                   |            |                      |            |                  |            |  |  |  |  |  |

 

14

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| ** **                                                   | ** ** | **General Rental and Other** | ** ** | **Traffic Safety** | ** ** | **Consolidated** | ** ** |
|--------------------------------------------------------------|------------|-----------------------------------|------------|-------------------------|------------|------------------|------------|
| **Eight Months Ended September 30, 2004  (Successor):**      |       |                              |       |                    |       |             |       |
| Rental and service revenues                                  |       | $                                 | 255,441    |                    | $          | 72,291           |       | $ | 327,732 |   |
| New equipment sales                                          |       | 16,766                            |       | 2,497                   |       | 19,263           |       |
| Rental equipment sales                                       |       | 25,678                            |       | 55                      |       | 25,733           |       |
| Other revenues                                               |       | 9,450                             |       | 4,512                   |       | 13,962           |       |
| Total revenues                                               |       | 307,335                           |       | 79,355                  |       | 386,690          |       |
| Operating loss                                               |       | (18,814                           | )          | 3,912                   |       | (14,902          | )          |
| Net loss                                                     |       | (40,826                           | )          | 78                      |       | (40,748          | )          |
| Identifiable assets                                          |       | 599,744                           |       | 90,207                  |       | 689,951          |       |
| Depreciation and amortization                                |       | 84,356                            |       | 14,530                  |       | 98,886           |       |
| Capital expenditures                                         |       | 84,860                            |       | 8,148                   |       | 93,008           |       |
| **One Month Ended January 31, 2004  (Predecessor):**    |       |                              |       |                    |       |             |       |
| Rental and service revenues                                  |       | $                                 | 29,186     |                    | $          | 3,882            |       | $ | 33,068 |   |
| New equipment sales                                          |       | 3,276                             |       | 42                      |       | 3,318            |       |
| Rental equipment sales                                       |       | 2,090                             |       | 30                      |       | 2,120            |       |
| Other revenues                                               |       | 1,171                             |       | 253                     |       | 1,424            |       |
| Total revenues                                               |       | 35,723                            |       | 4,207                   |       | 39,930           |       |
| Operating income (loss) (b)                                  |       | 48,476                            |       | (1,600                  | )          | 46,876           |       |
| Net income (loss) (c)                                        |       | 287,029                           |       | (1,574                  | )          | 285,455          |       |
| Identifiable assets                                          |       | 633,467                           |       | 82,785                  |       | 716,252          |       |
| Depreciation and amortization                                |       | 8,086                             |       | 910                     |       | 8,996            |       |
| Capital expenditures                                         |       | 4,552                             |       | 629                     |       | 5,181            |       |
| **Nine Months Ended September 30, 2003 (Predecessor):** |       |                              |       |                    |       |             |       |
| Rental and service revenues                                  |       | $                                 | 293,818    |                    | $          | 71,367           |       | $ | 365,185 |   |
| New equipment sales                                          |       | 24,194                            |       | 2,464                   |       | 26,658           |       |
| Rental equipment sales                                       |       | 24,828                            |       | 93                      |       | 24,921           |       |
| Other revenues                                               |       | 13,539                            |       | 2,629                   |       | 16,168           |       |
| Total revenues                                               |       | 356,379                           |       | 76,553                  |       | 432,932          |       |
| Operating loss (a)                                           |       | (103,432                          | )          | (35,159                 | )          | (138,591         | )          |
| Net loss (a)                                                 |       | (155,076                          | )          | (35,009                 | )          | (190,085         | )          |
| Identifiable assets                                          |       | 615,016                           |       | 75,030                  |       | 690,046          |       |
| Goodwill impairment                                          |       | 98,471                            |       | 39,644                  |       | 138,115          |       |
| Depreciation and amortization                                |       | 75,886                            |       | 8,842                   |       | 84,728           |       |
| Capital expenditures                                         |       | 26,423                            |       | 6,067                   |       | 32,490           |       |
|                                                              |            |                                   |            |                         |            |                  |            |  |  |  |  |  |

 

----

(a)          Includes goodwill impairment charges of $39,644 and$98,471 for Traffic Safety and General Rental and Other operations,respectively.

(b)         Includes $50,667 of fresh start accountingadjustments.

(c)          Includes $50,667 of fresh start accountingadjustments and a $241,128 gain on the discharge of debt.

 

15

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**ITEM 2. MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS(Amounts in thousands)**

 

Thisdiscussion should be read in conjunction with the Annual Report on Form 10-K ofNational Equipment Services, Inc. (the “Predecessor Company”) for theyear-ended December 31, 2003 as filed with the Securities and ExchangeCommission and other information included herein.

 

**General**

 

ThePredecessor Company was founded in June 1996 to acquire and integratebusinesses that focus on the rental of general and specialty equipment toindustrial and construction end-users. Since inception, the Predecessor Companyacquired 42 businesses in separate transactions. All acquisitions wereaccounted for using the purchase method of accounting. The results ofoperations of the businesses acquired are included in the financial statementsonly from their respective dates of acquisition.

 

OnAugust 17, 2004, the Company entered into a new senior secured credit facility(the “2004 Credit Facility”).  The 2004 CreditFacility consists of a $300,000 first lien credit facility, comprised of a$200,000 term loan and a $100,000 revolving loan, and a $275,000 second lienterm loan.  Proceeds under the 2004Credit Facility were used to repay the balance outstanding under the New CreditFacility.  The Company has scheduledprincipal repayments of $500 quarterly on the first lien credit facilitythrough the August 17, 2009 maturity date.  The 2004 Credit Facility provides the Company with increased liquidityand flexibility in order to invest in its rental fleet, while eliminating thesignificant year-end debt reduction requirements which existed under the NewCredit Facility.

 

OnFebruary 11, 2004, the Predecessor Company merged into NES Rentals,Inc.  NES Rentals, Inc. was the surviving company in the merger andwas renamed National Equipment Services, Inc.  NES Rentals, Inc. was asubsidiary of both NES IT Services, Inc. and NES Real Estate Management, Inc.,which are subsidiaries of the newly formed NES Rentals Holdings, Inc. (the “Company”),which is the successor to National Equipment Services, Inc.  The Company is the new public company parentof National Equipment Services, Inc.

 

TheCompany derives its revenues from four sources: 1) equipment rental andservice, 2) new equipment sales, 3) rental equipment sales and 4) sales ofcomplementary parts and merchandise. The Company’s primary source of revenue isthe rental and service of equipment to industrial and construction end-users.The growth of rental revenues depends on several factors, including demand forrental equipment, the amount and quality of equipment available for rent,rental rates and general economic conditions. Revenues generated from the saleof new equipment are affected by price and general economic conditions.Revenues generated from the sale of used rental equipment are affected byprice, general economic conditions and the Company’s fleet management program.Revenues from the sale of complementary parts and services are primarilyaffected by equipment rental and sales volume.

 

Costof revenues consists primarily of rental equipment depreciation, the cost ofrental and service revenue, the cost of new equipment, the net book value ofrental equipment sold and other direct operating costs. Given the varied, andin some cases specialized, nature of its rental equipment, the Company uses arange of periods from one to fifteen years over which it depreciates itsequipment on a straight-line basis.

 

**Reorganization**

 

OnJune 27, 2003, the Predecessor and its U.S. subsidiaries (collectively,the “Debtors”) filed for voluntary reorganization under Chapter 11 (the “Reorganization”)of the U.S. Bankruptcy Code (the “Bankruptcy Code”) in the Northern District ofIllinois (“Bankruptcy Court”).  TheCanadian subsidiary, which represents less than 2% of total revenues and totalassets, was not included in the petition. Due to the size of the Canadian subsidiary, the consolidated financialstatements of the Predecessor Company presented herein are essentially equivalentto the consolidated financial statements of the Debtors.

 

Theinitial plan of reorganization was filed on October 17, 2003.  On January 23, 2004, the Debtors filed afourth amended plan of reorganization (the “Plan of Reorganization”), whichreceived the requisite support from the creditors authorized to votethereon.  The Plan of Reorganization wasconfirmed by the Bankruptcy Court on January 23, 2004, and the Debtorsemerged from bankruptcy on February 11, 2004 (the “Effective Date”).

 

16

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Onthe Effective Date, the Company entered into a new senior secured creditfacility (the “New Credit Facility”). The New Credit Facility consisted of $285,000 of term loan facilitiesand a $205,000 revolving credit facility. There were

quarterlyscheduled principal repayments on the term loan facilities through the May 15,2007 maturity date of the New Credit Facility.

 

FromJune 27, 2003 through February 11, 2004, the Debtors continued tooperate as debtors-in-possession pursuant to Sections 1107 and 1108 of theBankruptcy Code.  The Predecessor Companyobtained Debtor-in-Possession financing which provided up to $30,000 ofavailability to fund operations during the bankruptcy period.  The Debtors did not borrow any funds fromthis financing source during the period it was in place.

 

ThePlan of Reorganization provided for the cancellation of all of the issued andoutstanding shares of common stock, par value $0.01 per share, of thePredecessor Company (the “Old Common Stock”), all of the issued and outstandingshares of preferred stock of the Predecessor Company, and all other outstandingsecurities of the Predecessor Company, including common stock options as of theEffective Date.

 

Inaccordance with the Plan of Reorganization, (i) holders of general unsecuredclaims, including the holders of the Company’s Senior Subordinated Notes due2004, Series B (the “Series B Notes”) and Senior Subordinated Notes due 2004,Series D (the “Series D Notes”), received 97.5% of the New Common Stock of theCompany, (ii) the holders of the Company’s preferred stock received 2.0% of theNew Common Stock of the Company, and (iii) the holders of the Company’s OldCommon Stock received 0.5% of the New Common Stock of the Company.

 

**Critical Accounting Policies**

 

Weprepare our consolidated financial statements in accordance with accountingprinciples generally accepted in the United States of America, which requiresour management to make estimates and general assumptions about the effects ofmatters that are inherently uncertain. We have summarized our significantaccounting policies in Note 3 to our consolidated financial statements, aspresented in the Annual Report on Form 10-K of the Predecessor Company for theyear ended December 31, 2003. Of these accounting policies, we believe thefollowing may involve a significant degree of judgment and complexity.

 

*Allowance for Doubtful Accounts*

AtSeptember 30, 2004, we had an allowance for doubtful accounts totaling$4,924, which we have established in the event that we are unable to collectcertain receivables. This allowance represents our estimate of the totalreceivables recorded as of September 30, 2004 that we will be unable tocollect based on historical collection experience. Future general events, suchas changes in the economy, and specific events, such as changes in the economiccondition of our customers, could significantly impact our ability to collecton these receivables, and therefore, cause us to change our allowance estimate.

 

*Useful Lives of Rental Equipment and Property and Equipment*

AtSeptember 30, 2004, we had $415,639 of net rental equipment and $34,465 ofnet property and equipment recorded on our balance sheet. Rental equipment isdepreciated using the straight-line method over one to fifteen years. Propertyand equipment is depreciated over three to thirty years, depending on the typeof asset. Our depreciable lives are based on our estimates of the useful livesof the respective assets over which they will generate revenues. Theseestimates may require adjustment based on changing circumstances in themarketplace. Changes to these estimates could result in our having to recognizean increase or decrease in depreciation expense.

 

*Impairment of Long-Lived Assets*

Inaccordance with SFAS No. 144, “Accounting for the Impairment or Disposal ofLong-lived Assets,” we test long-lived assets or asset groups forrecoverability whenever events or changes in circumstances indicate thatcarrying amounts may not be recoverable. When such events occur, we compare the sum of the undiscounted cashflows expected to result from the use and eventual disposition of the asset orasset group to the carrying amount of the long-lived asset or asset group.  If this comparison indicates that animpairment exists, the amount of the impairment is measured by comparing thecarrying value to the fair market value of the asset.

 

17

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* *

*Valuation Allowance on Net Deferred Tax Assets*

AtSeptember 30, 2004, we provided a full valuation allowance on our netdeferred tax assets.  Realization of netdeferred income tax assets is dependent upon generating sufficient futuretaxable income in the periods in which the underlying temporary differencesreverse, or prior to the dates that net operating loss carry-forwardsexpire.  We must assess the likelihoodthat our net deferred tax assets will be recovered in the future.  Because of our history of operating losses,we have established a full valuation allowance.

 

**Resultsof Operations**

 

                During 2004, the Company’sfinancial performance has improved as a result of increased activity levels inthe economy, an increase in non-residential construction, and higher pricing ofrental rates in the industry.  Thisimprovement along with the impact of the Reorganization, the realization ofcosts savings associated with the Company’s prior restructuring activities andthe flexibility provided by the 2004 Credit Facility have positively impactedthe Company’s cash flows from operations during the period.  Additionally, the Company has benefited fromsignificant investment in its fleet during 2004, new leadership, and animproved focus on ongoing operations.

 

During2002 and 2003, the Company’s financial performance was negatively affected bylower activity levels in the economy, a slowdown in non-residentialconstruction, competitive pricing pressure due to over-capacity of rentalequipment in the industry and lower demand. The resulting decrease in earnings negatively impacted the Company’scash flows from operations during this period, limiting the Company’s abilityto invest in its rental fleet. Management initiated several actions in response to these circumstances,including actions to reduce its operating expenses through personnel reductionsand consolidation of branch and support operations, as well as asset sales toreduce its debt.  Although these actionsreduced debt levels by more than $100,000 in 2002 and 2003, the Company’sliquidity remained strained.

 

Beginningin late 2002, the Company entered into a series of discussions with its debtand equity holders to evaluate various restructuring alternatives.  In June 2003, it was determined that itwas in the best interest of the Company’s creditors and other constituents toseek protection through voluntary petitions under Chapter 11 of the U.S.Bankruptcy Code.  As a result of defaultsunder its credit facilities, the Company operated with limited capitalresources due to its inability to borrow under its senior credit facility untilits emergence from bankruptcy on February 11, 2004.

 

### ***Comparison of theThree and Nine Months Ended September 30, 2004 and 2003***

 

Thefollowing table shows information derived from the historical consolidatedstatements of operations as a percentage of total revenues.

 

18

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| ** **                                   | ** ** | **Successor**                                         | ** ** | **Predecessor**                                               | ** ** | **Successor**                                             | ** ** | **Predecessor**                                      | ** ** |
|----------------------------------------------|------------|-------------------------------------------------------|------------|---------------------------------------------------------------|------------|-----------------------------------------------------------|------------|------------------------------------------------------|------------|
| ** **                                   | ** ** | **Three Months  Ended**

**September 30,  2004** | ** ** | **Three Months**

**Ended**

**September 30,**

**2003** | ** ** | **Eight Months  Ended**

**September 30,**

**2004** | ** ** | **One Month**

**Ended**

**January 31,  2004** | ** ** | **Nine Months**

**Ended**

**September 30,**

**2003** | ** ** |
|                                         |       |                                                  |       |                                                          |       |                                                      |       |                                                 |       |   |   |
| Rental and service revenues                  |       | 87.0                                                  | %          | 86.4                                                          | %          | 84.8                                                      | %          | 82.8                                                 | %          | 84.3 | % |
| New equipment sales                          |       | 4.1                                                   |       | 5.3                                                           |       | 5.0                                                       |       | 8.3                                                  |       | 6.2 |   |
| Rental equipment sales                       |       | 5.5                                                   |       | 4.9                                                           |       | 6.7                                                       |       | 5.3                                                  |       | 5.8 |   |
| Other revenues                               |       | 3.4                                                   |       | 3.4                                                           |       | 3.5                                                       |       | 3.6                                                  |       | 3.7 |   |
| Total revenues                               |       | 100.0                                                 |       | 100.0                                                         |       | 100.0                                                     |       | 100.0                                                |       | 100.0 |   |
| Cost of revenues                             |       | 79.0                                                  |       | 71.0                                                          |       | 79.5                                                      |       | 78.2                                                 |       | 74.2 |   |
| Gross margin                                 |       | 21.0                                                  |       | 29.0                                                          |       | 20.5                                                      |       | 21.8                                                 |       | 25.8 |   |
| Selling, general and administrative expenses |       | 21.0                                                  |       | 21.5                                                          |       | 21.9                                                      |       | 24.2                                                 |       | 24.2 |   |
| Reorganization expenses                      |       | —                                                |       | 1.7                                                           |       | —                                                    |       | 4.9                                                  |       | 0.6 |   |
| Fresh start accounting adjustments           |       | —                                                |       | —                                                        |       | —                                                    |       | (126.9                                               | )          | — |   |
| Goodwill impairment                          |       | —                                                |       | —                                                        |       | —                                                    |       | —                                               |       | 31.9 |   |
| Non-rental depreciation and amortization     |       | 1.0                                                   |       | 1.0                                                           |       | 2.5                                                       |       | 2.1                                                  |       | 1.1 |   |
| Operating income (loss)                      |       | (1.0                                                  | )          | 4.8                                                           |       | (3.9                                                      | )          | 117.5                                                |       | (32.0 | ) |
| Other income, net                            |       | 0.1                                                   |       | 0.1                                                           |       | 0.1                                                       |       | 0.2                                                  |       | 0.1 |   |
| (Loss) gain on discharge of debt             |       | (3.4                                                  | )          | —                                                        |       | (1.4                                                      | )          | 603.9                                                |       | — |   |
| Interest expense                             |       | 5.2                                                   |       | 5.9                                                           |       | 5.3                                                       |       | 6.6                                                  |       | 11.9 |   |
| Income (loss) before income taxes            |       | (9.5                                                  | )          | (1.0                                                          | )          | (10.5                                                     | )          | 715.0                                                |       | (43.8 | ) |
| Income tax expense                           |       | —                                                |       | —                                                        |       | —                                                    |       | —                                               |       | — |   |
| Loss from continuing operations              |       | (9.5                                                  | )          | (1.0                                                          | )          | (10.5                                                     | )          | 715.0                                                |       | (43.8 | ) |
| Loss on discontinued operations, net of tax  |       | —                                                |       | —                                                        |       | —                                                    |       | —                                               |       | (0.1 | ) |
| Net income (loss)                            |       | (9.5                                                  | )%         | (1.0                                                          | )%         | (10.5                                                     | )%         | 715.0                                                | %          | (43.9 | )% |

 

Asa result of the application of fresh start reporting on January 31, 2004,and in accordance with SOP 90-7, the post-emergence financial results for thethree- and eight-month periods ended September 30, 2004 are presented as theresults of the “Successor” and the pre-emergence financial results for themonth ended January 31, 2004 and the three- and nine-month periods endedSeptember 30, 2003 are presented as the results of the “Predecessor”.  Comparative financial statements do notstraddle the emergence date because in effect the Successor represents a newentity.  As a result of applying freshstart reporting, the Successor has increased depreciation and amortizationexpense in comparison to the Predecessor. For purposes of discussion herein, the results of operations for thePredecessor for the month ended January 31, 2004 and the results ofoperations for the Successor for the eight months ended September 30, 2004are combined.  The Company has tworeporting segments: General Rental and Other and Traffic Safety.  These segments are more fully described inNote 13 to the financial statements.

 

*Revenues*

Totalrevenues of $159,249 for the three months ended September 30, 2004 were up$6,527 or more than 4% from the same period in the prior year.  Rental and service revenues were the largestcontributor to this year-over-year improvement. Rental rates were up 8-10% year-over-year on the Company’s largestcategory classes of fleet, and physical utilization remained at or above prioryear levels.  These factors offset a 5%decline in fleet size in the third quarter of 2004 as compared to the sameperiod in 2003.  Modest increases in newequipment sales and other revenues were offset by a decline in fleet salesyear-over year.

 

Withinthe General Rental and Other segment, total revenues of $122,123 for the thirdquarter of 2004 were consistent with those achieved during the same period in2003.   Rental revenues increased 2%year-over-year, primarily as a result of the rate improvement noted above.  Total revenues within the Company’s TrafficSafety operations increased $6,677 to $37,126 for the third quarter of 2004from $30,449 recognized during the third quarter of 2003, as highway projectsthat were delayed earlier in the year due to unfavorable weather conditions incertain markets are now being completed.

 

19

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Totalrevenues for the nine months ended September 30, 2004 were $426,620, down1% as compared to the same period in 2003. Rental and service revenues, particularly within the Company’s GeneralRental segment, comprise the majority of this shortfall.  Revenues are down slightly year-over-year inall categories excluding rental equipment sales, where activity is up in 2004as management continues its efforts to improve fleet mix.  Within the Traffic Safety segment, totalrevenues are up 9% to $83,562 for the nine months ended September 30, 2004,with activity continuing to increase late in the season in most of the Company’sTraffic Safety markets.

 

*GrossProfit*

Grossprofit decreased to $33,467 for the third quarter of 2004 from $44,254 for thesame period in 2003.  Gross marginsdecreased to 21% from 29%.  Incrementaldepreciation expense of $13,129, primarily associated with the write-up offleet in conjunction with the Company’s adoption of fresh start accountingcontributed to the decline, offsetting other operating improvements.  Gross margins on rental and service revenuesremained a consistent 51% in each of the quarters.  Excluding depreciation expense, gross marginswithin the General Rental segment are up slightly primarily as a result of theimproved rental rates year-over-year.  Grossmargins within the Traffic Safety segment are down 2%, excluding depreciationexpense, as decreases in state funding have resulted in more aggressivecompetitive bidding of projects in the current year.

 

Year-to-date,gross profit of $88,064 is down 21% from the $111,904 recognized during thefirst nine months of 2003.  Gross profitwithin the General Rental segment declined to $74,915 from $95,592, while grossprofit within the Traffic Safety operations declined to $13,149 from$16,312.  Increased fleet depreciationexpense of $15,261 and $2,471, respectively, contributed to both declines.  Overall, gross margins declined to 21% forthe first nine months of 2004, as compared to 26% for the same period in 2003.

 

*Selling,General and Administrative Expenses*

Selling,general and administrative expenses increased 2% to $33,382 for the threemonths ended September 30, 2004 from $32,777 for the three months endedSeptember 30, 2003.  Selling,general and administrative expenses for the General Rental and Other operationswere $29,958 for the three months ended September 30, 2004, up 3% from the$29,177 recognized for the three months ended September 30, 2003 dueprimarily to increased insurance costs. Selling, general and administrative expenses for the Traffic Safetyoperations declined 5% to $3,424 for the third quarter of 2004 as compared to$3,600 for the same period in 2003.  Forthe year-to-date period, selling, general and administrative expenses decreased10% to $94,395 as compared to $104,769 for the same period in 2003.  These savings were primarily the result ofdecreases in consulting and professional fees, as well as cost savings realizedfrom the consolidation of the General Rental back office functions in late2003.

 

*Reorganization Expenses*

In connection with the bankruptcy filing, the Company incurred chargesrelated to the reorganization prior to the emergence from bankruptcy onFebruary 11, 2004.  These expensesrelated to professional fees incurred, amortization of debt issuance costsassociated with the credit facility in place at the time of the Filing andemployee retention-related expenses.  Allcontinuing expenses incurred related to the bankruptcy are reporting inSelling, General and Administrative expenses.

 

*Goodwill Impairment*

As a result of the Company’s bankruptcy filing on June 27, 2003,the Company completed an impairment analysis of goodwill as of June 30,2003.  Based on the results of thisanalysis, the Company recorded a non-cash impairment charge of $138,115 duringthe second quarter of 2003, which reflected the impairment of the remaininggoodwill of the Company.

 

*Non-rental Depreciation and Amortization*

Non-rental depreciation and amortization increased to $1,626 for thethird quarter of 2004 as compared to $1,515 for the same period in 2003.  For the nine months ended September 30, 2004,non-rental depreciation and amortization was up to $10,389 from $4,967 for thenine months ended September 30, 2003. These increases are primarily the result of additional depreciationexpense resulting from the write-up of property and equipment in conjunctionwith the adoption of fresh start accounting, as well as amortization expenseresulting from the other intangible assets identified in conjunction with freshstart accounting.

 

*Loss (Gain) on Dischargeof Debt*

In conjunction with the refinancing during the third quarter of 2004,the Company recognized a $5,468 loss on the write-off of the unamortized debtissuance costs associated with the previous credit facility.  In connection with the Company’s emergencefrom bankruptcy, the Company recognized a $241,128 gain associated with theelimination of pre-petition liabilities discharged under the Plan ofReorganization.

 

20

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*Interest Expense*

Interestexpense decreased to $8,351 for the three months ended September 30, 2004, ascompared to $9,026 for the three months ended September 30, 2003, due tolower interest rates under the 2004 Credit Facility.  Year-to-date, interest expense is down to$23,351 from $51,493 as a result of lower interest rates on the Company’ssenior debt during the current year as compared to the default interest ratesincurred during the same period of 2003 when the Company was operating underforbearance agreements.  In addition, theCompany incurred interest expense of $13,750 on its Senior Subordinated Notesduring the first half of 2003.

 

*Loss from DiscontinuedOperations*

On June 30, 2002, the Company sold its underground trench shoringbusiness. The proceeds from the sale were used to repay existing indebtednessunder the Credit Facility. In accordance with SFAS No. 144, “Accountingfor the Impairment or Disposal of Long-Lived Assets,” the financial conditionand results of operations of this business are reflected herein as discontinuedoperations.

 

**Liquidity,Financial Condition and Capital Resources**

 

TheCompany’s primary capital requirements are for purchasing new rental equipment.The Company purchases rental equipment throughout the year to replace equipmentthat has been sold or retired as well as to maintain adequate levels ofequipment to meet existing and new customer needs. Rental fleet purchases forthe Company were $86,928 and $26,103 during the first nine months of 2004 and2003, respectively. The Company’s principal sources of cash are cash generatedfrom operations and borrowings available under its credit facility.

 

Forthe nine months ended September 30, 2004 and 2003, the Company’s net cashprovided by operations was $47,288 and $21,368, respectively.  For the nine months ended September 30,2004 and 2003, the Company’s net cash used in investing activities was $67,921and $6,158, respectively.  Net cash usedin investing activities consists primarily of purchases of rental equipment andproperty and equipment.  For the ninemonths ended September 30, 2004 and 2003, the Company’s net cash (used in)provided by financing activities was $(22,088) and $6,811, respectively.

 

OnAugust 17, 2004, the Company entered into a new senior secured credit facility(the “2004 Credit Facility”).  The 2004Credit Facility consists of a $300,000 first lien credit facility, comprised ofa $200,000 term loan and a $100,000 revolving loan, and a $275,000 second lienterm loan.  Proceeds under the 2004Credit Facility were used to repay the balance outstanding under the New CreditFacility.  The Company has scheduledprincipal repayments of $500 quarterly on the first lien credit facilitythrough the August 17, 2009 maturity date. The interest rate on the 2004 Credit Facility averages base rate plus0.5% or LIBOR plus 2.5%.  The second lienterm loan expires on August 17, 2010 and the interest rate is base rate plus 5%or LIBOR plus 6%.

 

The2004 Credit Facility contains certain covenants that require the Company to,among other things, satisfy certain financial tests relating to fixed chargecoverage ratios and debt leverage ratios. The credit facility also contains various other covenants that restrictthe Company’s ability to, among other things, 1) incur additionalindebtedness, 2) permit liens to attach to its assets and 3) paydividends or make other restricted payments on its common stock and certainother securities unless certain financial conditions are satisfied. The 2004Credit Facility is collateralized by substantially all of the Company’sassets.  The Company is currently incompliance with all covenants governing the New Credit Facility.

 

**Factors That May Influence Future Results**

 

*Reorganization*

TheCompany’s Reorganization in 2003 generated concern among the Company’scustomers and suppliers and disrupted business for a period of time.  Disclosure of the terms of the Company’s Planof Reorganization to employees, customers and vendors, as well as thesubsequent emergence from bankruptcy protection in February 2004, havereduced the distractions caused by the Reorganization.  However, the ultimate impact of theReorganization on future results is not known.

 

*Economic Conditions*

Ourend-users consist of construction and industrial customers.  Changes in these markets may lead toincreased or decreased demand for our equipment and services.  In addition, economic declines generallyresult in lower overall rental rates, which generally adversely impact ourbusiness.

 

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*Seasonality*

TheCompany’s revenues and operating results fluctuate from quarter to quarter dueto the seasonal nature of the markets in which the Company operates.  The Company’s presence both in the trafficsafety and control industry and in the general rental market in the Northeastand Midwest are both highly seasonal in nature, with activity tending to belower in the winter as compared to the spring and summer.

 

*Indebtedness*

TheCompany’s substantial indebtedness could adversely affect the Company’soperations in the future in one or more of the following ways:

•                                          Increases ininterest rates could result in increased interest expense and increased cashoutflows for debt service,

•                                          The Company’sability to obtain additional financing could be limited as essentially all ofthe assets of the Company secure the existing indebtedness and

•                                          Failure tocomply with covenants associated with the existing indebtedness could result inthe creditors’ ability to require accelerated repayment of outstandingindebtedness.

 

*Competition*

Theequipment rental industry is highly fragmented and competitive.  Numerous competitors serve many of themarkets in which the Company operates. These competitors range from national and multi-regional operators tosmall, independent businesses with a limited number of locations.  Management believes that participants in theequipment rental industry compete on the basis of availability and quality ofequipment, service, delivery time and price. However, increases in competition from either new or existing industryparticipants could occur, and the potential impact on our existing market shareis unknown.

 

*Legal Proceedings*

Fromtime to time, the Company has been and is involved in various legalproceedings, all of which management believes are routine in nature andincidental to the conduct of its business. Although the Company does not believe that an adverse ruling in any ofthese proceedings would have a material adverse impact on the Company’s resultsof operations, the Company’s ultimate legal and financial liability resultingfrom any of these proceedings cannot be estimated with certainty.

 

*Environmental*

TheCompany’s facilities are subject to federal, state and local environmentalrequirements relating to discharges to air, water and land; the handling anddisposal of solid and hazardous waste; and the cleanup of properties affectedby hazardous substances.  Based onenvironmental assessments conducted in connection with the Company’sacquisitions, the Company believes that its facilities are in substantialcompliance with environmental requirements, and that the Company has nomaterial liabilities arising under environmental requirements.  However, some risk of environmental liabilityis inherent in the nature of the Company’s business, and in the future theCompany may incur material costs to meet current or more stringent compliance,cleanup or other obligations under environmental laws.  The Company intends to review itsenvironmental practices at its various locations from time to time.

 

**ITEM 3. QUANTITATIVE ANDQUALITATIVE DISCLOSURES ABOUT MARKET RISK (Amounts in thousands)**

 

The2004 Credit Facility consists of a $300,000 first lien credit facility,comprised of a $200,000 term loan and a $100,000 revolving loan, and a $275,000second lien term loan.  Borrowings underthe credit facility bear interest, at the Company’s option, at a specified baserate or LIBOR rate plus the applicable borrowing margin. At October 31, 2004,the Company had total borrowings under the credit facility of $476,000. Each100 basis point increase in interest rates on the variable rate debt woulddecrease annual pretax earnings by approximately $4,760.

 

**ITEM 4. CONTROLS ANDPROCEDURES**

 

**Evaluation of disclosure controls and procedures** - Afterevaluating the effectiveness of the Company’s disclosure controls andprocedures (as defined in Exchange Act Rules 13a-14(c) and 15d-14(c) as ofSeptember 30, 2004 (the

 

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“EvaluationDate”), the Company’s chief executive officer and chief financial officer haveconcluded that, as of the Evaluation Date, the Company’s disclosure controlsand procedures were adequate and effective to ensure that material informationrelating to the Company and its subsidiaries would be made known to them byothers within those entities, particularly during the period in which thisquarterly report was being prepared.

 

**Changes in internal controls** — There were no significantchanges in the Company’s internal controls or in other factors that couldsignificantly affect the Company’s disclosure controls and procedures duringthe quarter ended September 30, 2004, nor were there any significantdeficiencies or material weaknesses in such disclosure controls and proceduresrequiring corrective actions.  As aresult, no corrective actions were taken.

 

**PARTII. OTHER INFORMATION**

 

**ITEM 1. LEGAL PROCEEDINGS**

 

Otherthan as reported in the Company’s Form 10-Q for the period ending June 30, 2004under the caption “Item 1. Legal Proceedings,” the Company is not currentlyparty to any material pending legal proceedings other than routine litigationincidental to the business of the Company.

 

**ITEM 2. CHANGES INSECURITIES, USE OF PROCEEDS AND ISSUER OF EQUITY SECURITIES**

 

Notapplicable.

 

**ITEM 3. DEFAULTS UPONSENIOR SECURITIES**

 

Notapplicable.

 

**ITEM 4. SUBMISSION OFMATTERS TO A VOTE OF SECURITY HOLDERS**

 

Notapplicable.

 

**ITEM 5. OTHER INFORMATION**

 

Notapplicable.

 

**ITEM 6. EXHIBITS**

 

SeeIndex of Exhibits on page 25.

 

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**SIGNATURE**

 

**Pursuant to the requirements of the Securities Exchange Act of 1934,the registrant has duly caused this report to be signed on its behalf by theundersigned thereunto duly authorized on November 12, 2004.**

 
|                                                            | NES  Rentals Holdings, Inc. |
|-----------------------------------------------------------------|-----------------------------|
|                                                            |                        |   |
|                                                            |                        |   |
|                                                            | By:                         | /s/ MICHAEL D. MILLIGAN |
|                                                            |                        | Michael D. Milligan |
| * *                                                        | * *                    | *Chief Financial Officer* |
| Form 10-Q:  For the quarter ended September 30, 2004. |                        |   |

 

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**INDEXOF EXHIBITS**

 
| **Exhibit Number** | ** ** | **Description  of Document**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
|--------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|               |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 11.1               |       | Statement  re Computation of Per Share Earnings. Not required because the relevant  computations can be clearly determined from the material contained in the  financial statements included herein.                                                                                                                                                                                                                                                                                                                                                                                     |
| 4.6 (i)            |       | Loan  and Security Agreement dated as of August 17, 2004, $300,000,000, by and  among NES Rentals Holdings, Inc. and Certain Subsidiaries of NES Rentals  Holdings, Inc. as a Borrower on the Signature Pages Hereto, as Borrowers; the  Financial Institutions From Time to Time Party Hereto, as Lenders; Wachovia  Bank, National Association, as Syndication Agent; General Electric Capital  Corporation and Merrill Lynch Capital, a Division of Merrill Lynch Business  Financial Services, Inc., as Co-Documentation Agents; and Bank of America,  N.A., as Administrative Agent |
| 4.6 (ii)           |       | Loan  and Security Agreement dated as of August 17, 2004, $275,000,000 by and among  NES Rentals Holdings, Inc., as Borrower; the Subsidiaries of NES Rentals  Holdings, Inc. From Time to Time Party Hereto, as Subsidiary Guarantors; the  Financial Institutions From Time to Time Party Hereto, as Lenders; Bear,  Stearns & Co., Inc., as Syndication Agent; and Bank of America, N.A., as  Administrative Agent                                                                                                                                                                |
| 31.1               |       | Certification  Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| 31.2               |       | Certification  Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| 32.1               |       | Certification  Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| 32.2               |       | Certification  Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                                                                                                                                       |

 

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