The following table sets forth certain selected consolidated financial data for the Company. This selected consolidated financial data should be read in conjunction with the Consolidated Financial Statements and the Notes thereto included in Item 8 of this Form 10-K and "Management's Discussion and Analysis of Financial Condition and Results of Operations" included in
The Company's net product sales increased by $4,295,000, or 17%, to $30,018,000 for the twelve month period ended December 31, 1998 compared to $25,723,000 for the prior twelve month period. The increase in net product sales was primarily attributable to increased sales of and demand for Pumpkin's new carving kits and related accessories and Halloween falling on a Saturday also had a positive impact on product sales. The Company's cost of goods sold increased by $2,137,000, or 17%, primarily due to increased sales and development costs associated with new product sales. Selling, general and administrative expenses ("SG&A") increased by $1,858,000, or 21% to $10,579,000 for the twelve month period ended December 31, 1998 from $8,721,000 for the twelve month period ended December 31, 1997. The acquisition of Pumpkin occurred during June 1997 and therefore the Company's prior year SG&A expense was not representative of an entire twelve month period of the Company's SG&A expense. Depreciation and amortization increased by 32% to $888,000 for the twelve month period ended December 31, 1998 from $671,000 for the twelve month period ended December 31, 1997. The Company's 1998 depreciation and amortization expense was 32% greater than the previous year as a result of Pumpkin's acquisition occurring during the middle of the prior year. Interest expense was also impacted by the timing of Pumpkin's acquisition. Although interest expense for calendar year 1998 was up slightly by $232,000 to $2,385,000, the Company's increased interest cost was partially due to the impact of the timing of the Pumpkin acquisition in June 1997 of the prior year netted against interest cost savings due to the payment during 1998 of $2,027,000 of the Company's term loans. The Company recognized a tax benefit of $500,000 for calendar years 1998 and 1997 in recognition of the Company's future Federal net operating loss carry-forwards. This tax benefit had the effect of increasing earnings per share by $0.09 in calendar year 1998 and $0.11 in calendar year 1997.
Net product sales increased to $25,723,000 for the twelve month period ended December 31, 1997 as compared to $5,073,000 and $9,854,000 for the three month transitional period ended December 31, 1996 and the twelve month period ended September 30, 1996, respectively. The acquisition of Pumpkin had a significant impact on the Company's product sales and profitability. The acquisition was completed just prior to Pumpkin's busiest period since 90% of its sales historically occur between July and October. The Company's 1997 calendar year product sales also reflected a full year of Possible Dreams' product sales compared to only the five month period from May 1, 1996 the date of inception to the end of fiscal year 1996. The Company reduced its cost of goods sold by 2% for calendar year 1997, which had the effect of increasing the Company's gross margin. Selling, general and administrative expenses increased to $8,721,000 for the twelve month period ended December 31, 1997 compared to $1,630,000 and $3,642,000 for the three month transitional period ended December 31, 1996 and the twelve month period ended September 30, 1996. Selling, general and administrative expenses increased because Possible Dreams' expense for the current calendar year represented a full year of its expense while the 1996 fiscal year
represented only the five month period from May 1, 1996 (the date of inception) through September 30, 1996. The acquisition of Pumpkin increased selling, general and administrative expense during calendar year 1997 by approximately $1,405,000. The Company acquired a considerable amount of goodwill in its acquisitions of Pumpkin and Possible Dreams. During calendar year 1997 the Company incurred $671,000 of depreciation and amortization expense compared to $181,000 and $290,000 for the three month transitional period ended December 31, 1996 and the twelve month period ended September 30, 1996, respectively. Interest expense increased to $2,153,000 for calendar year 1997 as compared to $507,000 and $731,000 for the three month transitional period ended December 31, 1996 and the twelve month period ended September 30, 1996, respectively. This increased interest cost can be attributed to debt service for short-term working capital and long-term bank debt incurred in connection with the purchase of both Possible Dreams and Pumpkin.
Possible Dreams experiences a significant seasonal pattern in its working capital requirements and operating results. Possible Dreams has historically received orders representing approximately 50% of its annual bookings during the first quarter for each of the last three calendar years. It ships products throughout the year, with a majority of the shipping occurring in the third and fourth calendar quarters of each year. Possible Dreams hires temporary employees during its third and fourth calendar quarters to accommodate peak shipping periods. Possible Dreams offers extended payment terms to some of its customers for seasonal merchandise and, accordingly, collects a substantial portion of its accounts receivable in the fourth calendar quarter. Due to the seasonal pattern, Possible Dreams has had greater working capital needs in its second and third calendar quarters and has experienced greater cash availability in its fourth calendar quarter. As a result of this sales pattern, Possible Dreams typically records a substantial portion of its revenues in its third and fourth calendar quarters and expects this seasonal pattern to continue for the foreseeable future. Possible Dreams has historically financed its operations through internally generated cash flow and short term seasonal borrowings.
Pumpkin also experiences a significant seasonal pattern in its working capital requirements and operating results. Pumpkin's seasonal period has historically been between July and October, with approximately 90% of its sales occurring during this period. Pumpkin offers extended payment terms to some of its customers for seasonal merchandise and collects a substantial portion of its accounts receivable in the fourth calendar quarter. Pumpkin has had a greater working capital need in the second and third calendar quarters and has experienced its greater cash availability in the fourth calendar quarter. It is anticipated that this seasonal pattern will continue for the foreseeable future.
compliance is currently estimated to be approximately $200,000, with $100,000 having been incurred in calendar year 1998 and the remainder to be incurred in calendar year 1999. It is expected that internal Year 2000 compliance issues will be resolved by mid-year of calendar year 1999.
The Year 2000 issue also creates risk for the Company from unforeseen problems with Year 2000 non-compliance of its vendors, suppliers, customers and other third parties with which the Company has a material relationship. The Company intends to initiate formal communications with all of its significant vendors, suppliers, customers and other material third parties to determine the extent to which the Company is vulnerable to their own potential problems related to the Year 2000 as soon as it receives and evaluates responses from its vendors, suppliers, customers and other material third parties. Due to the general uncertainty surrounding the Year 2000 process, resulting in part from the uncertainty surrounding the Year 2000 readiness of the Company's vendors, suppliers, customers and other material third parties, the Company is unable to determine a reasonable worst case scenario at this time.
The Company expects no major increase in capital expenditures during calendar year 1999. The Company believes that with cash flow from operations, cash and cash equivalents and investment earnings, there will be sufficient cash on hand to meet the Company's working capital and operating expenditure requirements during calendar year 1999 and to compete for other acquisition opportunities.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Security Capital Corporation and subsidiaries at December 31, 1998 and 1997 and the results of their operations and their cash flows for the years ended December 31, 1998 and 1997, the three months ended December 31, 1996 and the year ended September 30, 1996 in conformity with generally accepted accounting principles.
DELOITTE & TOUCHE LLP Houston, Texas March 12, 1999 (Except for the penultimate paragraph of Note 5 as to which the date is March 18, 1999)
Current liabilities: Note payable.................... $ 1,000 $ 1,000 Current portion of long-term debt........................... 1,659 1,339 Current portion of other long-term obligation........... 98 89 Accounts payable................ 1,265 811 Federal income taxes payable.... 50 Accrued expenses and other liabilities.................... 576 407 ---------- ---------- Total current liabilities........ 4,598 3,696 Long-term debt, less current portion............................ 10,036 12,383 Other long-term obligations.......... 160 258 ---------- ---------- Total Liabilities..... 14,794 16,337 ---------- ---------- Minority interest.................... 1,764 1,419 ---------- ---------- Commitments and Contingencies........ Stockholders' Equity Common stock, $.01 par value, 7,500 shares authorized; 539 shares issued; 380 shares outstanding..... Class A common stock, $.01 par value, 10,000,000 shares authorized; 5,624,361 shares issued; 5,305,945 shares outstanding................. 56 56 Preferred stock, $.01 par value, 2,500,000 shares authorized; none issued............................. Additional paid-in capital........... 67,520 67,520 Accumulated deficit.................. (45,418) (47,567) Less: Treasury stock, at cost, 318,575 shares..................... (5,215) (5,215) ---------- ---------- Total Stockholders' Equity............. 16,943 14,794 ---------- ---------- Total Liabilities and Stockholders' Equity............. $ 33,501 $ 32,550 ========== ==========
SECURITY CAPITAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
SECURITY CAPITAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (IN THOUSANDS EXCEPT SHARES)
- ------------ * Includes both Common Stock and Class A Common Stock
Security Capital Corporation ("Security Capital" or, when referred to together with its subsidiaries, the "Company") owns, through its 90% owned subsidiary, P.D. Holdings, Inc., 90% (77.5% effective after consideration of the outstanding warrants issued in connection with the acquisition) of the outstanding shares of Possible Dreams, Ltd. ("Possible Dreams"), a Delaware corporation. Possible Dreams acquired substantially all of the assets and assumed certain liabilities of Possible Dreams, Ltd. and Columbia National Corporation, both Massachusetts corporations, during May 1996. Possible Dreams operates as an importer, designer, warehouser and distributor of collectible Christmas figurines and ornaments and, to a lesser extent, religious articles. Pumpkin, Ltd. ("Pumpkin") a Delaware corporation was established in June 1997 and was initially capitalized by the contribution of $1,500,000 from Pumpkin Masters Holdings, Inc. ("Holdings") and the issuance of a warrant for 100 shares of Class B nonvoting stock of Pumpkin at the warrant holder's option. Security Capital owns, through its 80% owned subsidiary Holdings, 100%, of the capital stock of Pumpkin. Pumpkin acquired the assets and assumed certain liabilities of Pumpkin, Ltd. d/b/a Pumpkin Masters, Inc. (the "Predecessor Company") in June 1997 for a total purchase price of $7,717,493. Pumpkin is engaged in the business of manufacturing and distributing pumpkin and watermelon carving kits (comprised primarily of tools and patterns) and related accessories. On June 12, 1998, Pumpkin acquired the business and related assets, patents and trademarks of Our Kids for $250,000, of which $121,891 was allocated to inventory and the remainder to intangibles. Our Kids is engaged in the business of selling kits primarily consisting of sidewalk chalk. The Company does not consider this acquisition to be material.
Source of acquisition funds: Cash............................ $ 2,700,000 Debt issued (Note 5)............ 13,860,000 Minority interests investment... 300,000 -------------- $ 16,860,000 ============== Allocation of purchase price: Goodwill and other intangible assets........................ $ 8,837,175 Inventories..................... 3,443,796 Accounts receivable............. 2,824,506 Property and equipment.......... 1,100,000 Other assets.................... 113,605 Working capital................. 540,918 -------------- $ 16,860,000 ==============
Source of acquisition funds: Cash............................ $ 444,007 Debt issued..................... 5,000,000 Future minimum additional payments...................... 391,014 Liabilities assumed............. 1,646,342 Transaction costs............... 236,130 ------------ $ 7,717,493 ============
In addition to the cash purchase price paid at the closing, the purchase agreement provides for additional payments (the "Earnout Amount") to the Predecessor Company which are contingent upon future earnings before interest, taxes, depreciation and amortization ("EBITDA"), as defined. The Predecessor Company will be entitled to an Earnout Amount of $2,000,000 payable in 2002 should average annual EBITDA from the four year period January 1, 1997 through December 31, 2000 exceed $2,000,000. The Earnout Amount will be reduced proportionately if annual EBITDA is less than $2,000,000 but greater than $1,500,000. If average annual EBITDA is less than $1,500,000, the Earnout Amount will be zero.
In connection with the transaction, Pumpkin granted an option to purchase 36 shares of its Class A Common Stock to a key employee at an exercise price of $1,754 per share. The option has a term of ten years and is immediately exercisable.
On July 17, 1997, the Company sold its beneficial interest in Foster Insurance Services, Inc. ("FIS"), a Texas corporation, to Bowen, Miclette, Descant and Britt Inc. for consideration of $1,525,845 and recognized a gain of approximately $1,149,000, net of tax. The results of FIS have been classified as a discontinued operation in the accompanying financial statements. Income (loss) from discontinued operations for calendar year 1997, the three month transitional period ended December 31, 1996 and fiscal year 1996 were $66,000, ($108,000), and $236,000, net of tax, respectively. In an unrelated transaction, in December 1997 the Company sold Foster Insurance Managers Inc. ("FIM" ) for $265,000 in cash to Tri-Star Insurance Services, Ltd., a Kentucky corporation. The Company recognized no gain as part of this transaction. The Company no longer has any interest in the insurance brokerage business as a result of these two transactions.
For purposes of the consolidated statements of cash flows, the Company considers all highly liquid debt instruments with a maturity of three months or less to be cash equivalents. Interest paid during calendar years 1998 and 1997, the three month transitional period ended December 31, 1996 and fiscal year 1996 was $2,385,000, $2,153,000, $507,000 and $731,000, respectively. Federal income taxes of $55,000, $72,500, $30,000 and $0 were paid during calendar year 1998, 1997, the three month transitional period ended December 31, 1996 and fiscal year 1996, respectively.
Inventories, comprised of finished goods, are valued at the lower of cost or market, with cost being determined by the first-in, first-out method ("FIFO") at Possible Dreams and the average cost method at Pumpkin.
Property and equipment are carried at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the assets. Fixed assets are comprised of the following:
Intangible assets consist of the cost in excess of the fair value of net assets acquired in the Pumpkin and Possible Dreams acquisitions (goodwill), patents and deferred financing costs. Goodwill is being amortized on a straight-line basis over 20 years and deferred financing costs are being amortized over the term of the related debt. Patents are being amortized on a straight-line basis over their remaining lives of nine to twelve years. Intangible assets as of December 31, 1998 and 1997, net of accumulated amortization of $1,961,087 and $1,067,264, respectively, consist of the following:
Financial instruments consist of current assets (except inventories), current liabilities, notes payable, additional payment obligations and long-term debt. Current assets and current liabilities are carried at cost, which approximates fair value. Notes payable, the additional payment obligations and long-term debt bear interest at current market rates and, accordingly, the carrying value of the debt approximates fair value.
The Company reviews long-lived assets, including intangible assets, for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability is determined based on future net cash flows from the use and ultimate disposition of the asset. Impairment loss is calculated as the difference between the carrying amount of the asset and its fair value. As of December 31, 1998, the Company has not recognized any impairment losses.
Earnings per common share amounts are based on the weighted average number of Common and Class A Common Shares outstanding and the dilutive effect, if any, of outstanding stock options. The sum
Changes in outstanding shares under option during calendar years 1998 and 1997, the three months ended December 31, 1996 and the fiscal year ended September 30, 1996 and the balance outstanding and available for future grant at December 31, 1998 are summarized as follows:
NUMBER OF OPTION PRICE SHARES* RANGE* --------- ------------ Outstanding at September 30, 1995.... 4,012 $ 5.00 Granted.............................. Exercised............................ Canceled............................. --------- ------------ Outstanding at September 30, 1996.... 4,012 $ 5.00 Granted.............................. Exercised............................ Canceled............................. --------- ------------ Outstanding at December 31,1996...... 4,012 $ 5.00 Granted.............................. Exercised............................ Canceled............................. (4,012) --------- ------------ Outstanding at December 31, 1997..... -0- $ 0.00 Exercisable: At December 31, 1998............ -0- --------- ------------ Available for future grant........... -0- --------- ------------ The remaining outstanding stock options have expired due to reaching the final exercise date. - ------------ * Restated for one-for-eight reverse stock split.
Security Capital files a consolidated Federal income tax return with its subsidiaries using a September 30 fiscal year reporting basis.
At December 31, 1998, the Company had net operating loss carry-forwards for Federal income tax purposes of approximately $29.7 million, the expiration dates of which are as follows:
AMOUNT -------------- (IN THOUSANDS) December 31, 2002............................ $ 1,700 2003............................ 1,800 2004............................ 22,600 2005............................ 2,400 2006............................ 400 2007............................ 200 2008............................ 600 -------------- $ 29,700 --------------
The tax effects of the items comprising the Company's net deferred tax asset at December 31, 1998 and 1997 in the Company's statement of financial position are as follows:
DECEMBER 31, -------------------- SEPTEMBER 30, 1998 1997 1996 --------- --------- ------------- (IN THOUSANDS) Federal income taxes based on 34% of pre-tax income..................... $ 581 $ 1,118 $ 344 Utilization of Federal net operating loss carry-forwards................ (649) (944) (352) State income taxes, net of Federal benefit............................ 88 198 58 Recognition of deferred tax asset for Federal net operating loss carry-forwards..................... (500) (500) Other................................ 45 1 8 --------- --------- ------------- Provision (benefit) for income taxes.............................. $ (435) $ (127) $ 58 ========= ========= =============
these levels were not met, the subordinated notes and goodwill recorded at the acquisition were reduced in 1997 by $500,000.
Possible Dreams' and Pumpkin's credit agreement contains restrictive covenants prohibiting or limiting certain actions of Possible Dreams and Pumpkin, including payment of capital expenditures, investments and incurrences of debt, that provides certain affirmative covenants of both companies, including the maintenance of specified levels of profitability and tangible net worth, as defined. At December 31, 1998, Possible Dreams was not in compliance with the restrictive covenants related to lease payments, total debt coverage ratio, and minimum EBITDA. The lender for Possible Dreams agreed to a waiver of these requirements for calendar year 1998 and amended the credit agreement effective March 18, 1999 for the above covenants for calendar year 1999 as requested by Possible Dreams. At December 31, 1998, Pumpkin was not in compliance with the restrictive covenant related to capital expenditures. The lender agreed to waive this covenant with respect to the 1998 measuring period.
As of December 31, 1997, FGS and its designees converted their 30,000 shares of Class A Preferred Stock and $1,987,500 of accrued dividends into 1,246,875 shares of Class A Common Stock at a valuation of $4 per share.
On April 27, 1990, Security Capital entered into an Advisory Services Agreement effective as of January 26, 1990 (the "Advisory Agreement") with Capital Partners, Inc. ("CP, Inc."), an affiliate of the Company, pursuant to which such entity provides certain advisory services in the areas of investments, general administration, corporate development, strategic planning, stockholder relations, financial matters and general business policy in lieu of the services previously provided by certain of the Company's officers and other support personnel from the Company's former New York office. The annual fee for such services pursuant to the Advisory Agreement was $150,000 (due in quarterly installments in advance) plus certain out-of-pocket costs (which do not include rent and utilities of CP, Inc. and compensation of CP, Inc. employees). In connection with the acquisition of Possible Dreams, the Company entered into an amendment to the Advisory Agreement with CP, Inc. to provide management advisory services to Possible Dreams for an increase in the annual fee of $175,000 to $325,000. In connection with the acquisition of Pumpkin, the Company entered into another amendment to the Advisory Agreement with CP, Inc. to
The Predecessor Company received stock of Pumpkin Holdings constituting 20% of the outstanding Common Stock of Holdings. The Seller of Pumpkin is also entitled to receive a payment of up to $2,000,000 (the "Earnout Amount") if Pumpkin's average earnings before income taxes, depreciation and amortization ("EBITDA"), as defined in the asset purchase agreement, is in excess of $1,500,000 during the four fiscal years following the closing. If earned, the amount is first payable in June of 2002, with the possibility of being deferred until June 2004. In addition, the Seller of Pumpkin will receive a payment of at least $120,000 and up to $160,000 each fiscal year, payable quarterly, until the Earnout Amount is either not to be earned or, if determined to be earned, paid. The Earnout Amount is fully subordinate to debt under such credit agreement and any loans by the Company to Pumpkin. The purchase agreement also provides for certain restrictions on transfers of shares of Pumpkin Holdings owned by the Company and the Seller of
Pumpkin Masters, together with certain preemptive rights, rights of first refusal, puts and calls and "tag along" rights.
In connection with the sale of the Company's proprietary interest in FIS, the Agency Agreement, the Buy-Sell Agreement and the Participation Agreement discussed above were canceled.
The following is a summary of operations by quarter (dollar amounts in thousands, except per share amounts):
1ST 2ND 3RD 4TH QUARTER QUARTER QUARTER QUARTER ------- ------- ------- ------- CALENDAR YEAR 1998: Net product sales.................. $ 3,123 $ 5,870 $17,193 $ 3,832 Net (loss) income.................. (888) (46) 3,259 (176) (Loss) earnings per common share... (0.17) (0.01) 0.61 (0.02) Dividends per share of common stock............................
On May 4, 1992, the Company received a notice from the State of New York that the Company owed $244,116 in additional withholding taxes, interest and penalties for calendar year 1984. The Company has submitted information to the State of New York and during the latter part of 1998, the Company received a new notice from the State of New York seeking payment of $417,252 in taxes, interest and penalties. At this
SECURITY CAPITAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)