CompManagement leases a 70,000 square foot office building in Dublin, Ohio, which is used as its principal office facilities. The lease for the building is for a term of 15 years which began in 1997, provides for annual rent payments, and requires CompManagement to pay all operating expenses for the building. The lease also provides for, among other things, three renewal options of five years each, an option to purchase the building, and a right of first offer with respect to the sale of such building. The lease restricts CompManagement's ability to distribute funds and/or assets to Health Power, Inc. or another affiliate unless CompManagement meets certain tangible net worth requirements. CompManagement also leases office space in Akron, Cincinnati, Cleveland, and Toledo, Ohio; Seattle, Washington; Charleston, West Virginia; Lexington, Kentucky; and Indianapolis, Indiana. These spaces are used as regional offices and service centers for its operations.
Possible Dreams owns land and a 55,000 square foot building in Foxboro, Massachusetts where it maintains all its distribution, sales and administrative facilities. Possible Dreams currently utilizes approximately 48,000 square feet as distribution space and approximately 7,000 square feet as sales and administrative offices. Substantially all of the properties and other assets of Possible Dreams are pledged to Possible Dreams' principal lender as security for a line of credit and related loans.
Possible Dreams leases 2,400 square feet in New York, New York for a showroom.
Revenues increased by $4,559,000 or 12% to $41,904,000 for the year ended December 31, 2000. The Company's seasonal products segment revenues increased by $642,000 or 2% to $33,759,000, due to increased demand for its products during the third and fourth quarters of 2000, which are that segment's traditionally strongest quarters. Educational segment revenues increased by $2,616,000 or 62% to $6,844,000, for the year ended December 31, 2000, due to both the demand for its services and its inclusion for the full year of 2000 compared to nine months for 1999 due to its April 1999 acquisition. As a measure of the increasing success of the educational segment's concept, the Company monitors the revenues generated by its franchisees. Total education system revenue, or gross revenue of all educational-based child care center franchises increased $13,741,000 or 23% to $72,242,000, for the year ended December 31, 2000, as compared to the same period of the prior year. Total royalty revenue of the educational segment earned from system revenues increased $962,000 or 23%, for the year ended December 31, 2000, as compared to the same period of the prior year. These increases were generated from a 12% increase in the number of educational-based childcare centers, which was 82 and 73 as of December 31, 2000 and 1999, respectively. Additionally, as of December 31, 2000, this segment had awarded 42 franchise agreements in various stages of development and construction with associated unearned revenue of $2,319,000 recorded on the Company's balance sheet as of December 31, 2000. In December 2000, the Company acquired Health Power, a provider of cost containment-related services, and now has three segments. This new segment accounted for $1,301,000 of the increase in revenues.
The seasonal products segment consists of Possible Dreams and Pumpkin. This segment experiences a significant seasonal pattern in its working capital requirements and operating results. The seasonal segment for the two previous years received orders representing approximately 36% and 37% of its annual bookings during the first and second quarters, respectively. It ships products throughout the year, with approximately 56% of its shipments in the third quarter. Temporary employees are hired to accommodate peak shipping periods. This segment provides 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, the seasonal product segment has had greater working capital needs in its peak season and has experienced greater cash availability in its fourth calendar quarter. As a result of this sales pattern, a substantial portion of its revenues is typically recorded in the third and fourth calendar quarters. The Company expects this seasonal pattern to continue for the foreseeable future. The seasonal products segment has historically financed its operations through internally generated cash flow and short term seasonal borrowings.
Cash and cash equivalents increased $3,964,000 from $1,813,000 at December 31, 1999 to $5,777,000 at December 31, 2000. Approximately $3,047,000 of the increase in cash was the cash balance at December 31, 2000 on the Company's employer cost containment-related services segment which was acquired in December 2000. Additionally, the Company assumed certain liabilities of the predecessor Company, which when paid, resulted in a net $5,700,000 outflow of cash recorded on the Statements of Cash Flows as an operating activity. The remaining $917,000 increase in cash was primarily attributable to the seasonal products segment's revolving line of credit.
The Company's consolidated working capital decreased by $9,693,000, from $3,866,000 at December 31, 1999 to a deficit of $5,827,000 at December 31, 2000. Approximately $6,995,000 of the decrease was attributable to the Company's employer cost containment-related services segment which was acquired in December 2000. This segment generally has a deficit working capital due to prepayment of fees which are recorded as unearned revenue on the balance sheet. The unearned revenue recorded on the Company's December 31, 2000 balance sheet attributable to this segment was $10,570,000. The seasonal products segment working capital decreased by $1,843,000 which was primarily attributable to the warrant reclassification of $855,000 from long-term to current liabilities. The educational segment working capital decreased by approximately $520,000 primarily due to a $688,000 increase in its unearned revenues. The remaining decrease of $335,000 was primarily due to the holding company's activities and its acquisition of Health Power.
Total term debt increased by $21,260,000 from $22,074,000 at December 31, 1999 to $43,334,000 at December 31, 2000. Term debt increased by $25,121,000 due to the Health Power acquisition and decreased by $3,861,000 due to payments on all term debt. Term debt in aggregate has an approximate 11.53% interest rate and current maturities of $7,840,000. Term debt also has certain covenants at the subsidiary operating Company level, the more significant of which requires the subsidiary operating Companies to maintain minimum earnings before interest, taxes, depreciation and amortization ("EBITDA"), leverage ratio, interest coverage ratio, fixed charge ratio and maximum lease expense. At December 31, 2000, Primrose was not in compliance with their respective minimum EBITDA and leverage covenants. Primrose has received waivers and amendments to their credit agreement. Primrose estimates full compliance with its newly-amended covenants.
The Company had no major capital expenditures during the calendar year 2000 and expects no major capital expenditures during the calendar year 2001.
Excess of cost over the fair value of net assets acquired (goodwill) is amortized on a straight-line basis over 20 to 25 years. Management continues to believe that the amortization periods utilized are appropriate (see the consolidated financial statements and notes thereto).
We have audited the accompanying consolidated balance sheet of Security Capital Corporation and subsidiaries (the "Company") as of December 31, 2000 and the related consolidated statements of income, stockholders' equity, and cash flows for the year then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Security Capital Corporation and subsidiaries at December 31, 2000 and the consolidated results of their operations and their cash flows for the year then ended in conformity with accounting principles generally accepted in the United States.
Stamford, Connecticut March 30, 2001 except for Note 20 as to which the date is April 1, 2001
SECURITY CAPITAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (In thousands, except per share amounts)
Security Capital Corporation ("Security Capital") operates as a financial buyer of established companies as portfolio investments. Primarily, Security Capital participates in the management of its portfolio companies at the board level, and encourages operating autonomy and preservation of entrepreneurial environments. Currently, Security Capital has four portfolio subsidiary activities (together with Security Capital, referred to as the "Company"), known as Health Power, Primrose, Pumpkin, and Possible Dreams. WC Holdings Inc. is a wholly-owned subsidiary with an 80% equity interest in Health Power, Inc. Health Power - through its wholly-owned subsidiary CompManagement, Inc. - provides services to corporations and their employees primarily relating to workplace health and safety occupational medical care, workers' compensation insurance and employee benefits costs. CompManagement's activities are centered primarily in Ohio and to a lesser extent in Indiana, Kentucky, Pennsylvania, West Virginia, and Washington. Primrose is a 98%-owned subsidiary involved in the franchising of educational child care centers, with related activities in real estate consulting and site selection services. Primrose also operates one child care center. The Primrose activities are primarily based in the southern, central and western United States. Pumpkin is an 80%-owned subsidiary in the business of manufacturing and distributing pumpkin carving kits and related accessories. Pumpkin's activities are centered in the United States. Possible Dreams is a wholly-owned subsidiary that operates as an importer, designer, and distributor of collectible Christmas, everyday and other figurines and ornaments primarily in the United States.
The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported period. Actual results could differ from those estimates.
A summary of the changes in the allowance for doubtful accounts at December 31 is as follows:
Inventories are principally comprised of finished goods, are stated at the lower of cost or market, using the first-in, first-out method.
Prepaid catalog expenses consist of the cost to produce, print and distribute catalogs. These costs are considered direct-response advertising and, as such, are capitalized as incurred and amortized over a period which is generally less than one year.
between the carrying amount of the asset and its fair value. Fair value is determined primarily by using the anticipated cash flows discounted at a rate commensurate with the risk involved. As of December 31, 2000, the Company had not recognized any impairment losses.
Warrants to acquire subsidiary shares issued in connection with the acquisitions of the subsidiaries can be settled in cash at the option of the holders. Accordingly, the estimated fair value of the warrants have been recorded as liabilities and changes in the estimated fair value of the warrants are recorded as other income or expense in the respective statements of income.
The Company measures compensation cost for stock options issued to employees using the intrinsic value method of accounting for stock options under Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees."
The Financial Accounting Standards Board has issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." This statement is effective for the Company
In December 2000, the Company purchased a 100% interest in WC Holdings, Inc. who, in turn, purchased an 80% interest in Health Power, Inc. The results of operations of WC Holdings have been included in the financial statements from the date of acquisition. The Company paid $37,128 in cash. The acquisition has been accounted for as a purchase, with the purchase price, net of cash acquired of $15,963 preliminarily allocated as follows based on estimates for values at the date of acquisition:
Goodwill ( 20 years).......................... $ 28,818 Other assets ................................. 12,172 Unearned revenue ............................. (10,853) Accrued liabilities .......................... (8,972) -------- Total ........................................ $ 21,165 ========
Revenue ................................. $80,983 $75,607 Net income .............................. $ 4,221 $ 2,619 Basic earnings per share ................ $ 0.65 $ 0.42 Diluted earnings per share .............. $ 0.64 $ 0.41
In April 1999, the Company purchased a 98% interest in Primrose. The results of operations of Primrose have been included in the financial statements from the date of acquisition. The Company paid $26,225 in cash, issued 500,000 shares of zero coupon redeemable convertible preferred stock valued at $2,000, and issued a warrant to a bank to purchase shares of Primrose. The acquisition has been accounted for as a purchase, with the purchase price, net of cash acquired of $838 allocated as follows:
Finished goods ................. $5,199 $3,411 Raw materials .................. 395 782 ------ ------
Patents .......................... $ 1,223 $ 1,033 Deferred financing costs ......... 1,403 1,403 Franchise agreements ............. 8,750 8,750 Curriculum ....................... 250 250 Non-compete agreement ............ 89 89 -------- --------
Primrose, Pumpkin, Possible Dreams and WC Holdings each have short-term borrowing facilities under bank credit agreements. Each such agreement contains restrictive covenants which prohibit or limit certain actions, including levels of capital expenditures, investments, incurrence of additional debt, and which require the maintenance of defined levels of profitability and tangible net worth. In March 2000, the agreements for Possible Dreams and Primrose were amended to waive technical violation of certain covenants which existed as of December 31, 1999, and to change the covenant thresholds on a prospective basis. In March 2001, the agreement for Primrose was amended to waive similar covenant violations at December 31, 2000. Based upon the amendments, management expects to be in compliance with the covenants in the foreseeable future. Borrowings under the agreements are secured by a pledge of substantially all of the Company's assets as well as a pledge of the Company's share ownerships in the subsidiaries.
WC Holdings' agreement is an $8,000 line of credit under which $1,000 was borrowed at December 31, 2000 at an interest rate of prime less 1/2% (9.0% at December 31, 2000). Due to a restriction placed on the facility for a $500 letter of credit outstanding at year-end, the additional borrowing capacity under this line was $6,500 at December 31, 2000.
Consistent with the bank lines of credit, most of the Company's long-term obligations carry restrictive covenants which prohibit or limit certain actions, including levels of capital expenditures, investments, incurrence of additional debt, and which require the maintenance of defined levels of profitability and tangible net worth. Most borrowings are secured by a pledge of substantially all assets at the subsidiary level, as well as by a pledge of the Company's share ownerships in the subsidiary.
The Company has 2,500,000 shares of authorized preferred shares, $.01 par value, of which 2,000,000 shares remain issuable at December 31, 2000 and 1999.
Stock-Based Compensation Plans - The Company records compensation expense for its stock-based employee compensation plan in accordance with the intrinsic-value method prescribed by APB No. 25, "Accounting for Stock Issued to Employees." Intrinsic value is the amount by which the market price of the underlying stock exceeds the exercise price of the stock option or award on the measurement date, which is generally the date of grant.
Security Capital Corporation - Pursuant to the provisions of the 2000 Long-Term Incentive Plan, (which allows for the grant of up to 966,000 shares) on July 13, 2000 the Company granted options to acquire 549,000 shares of its Class A common stock at market value, which was $6.125. Of the 549,000 shares granted 48,000 vest over a three-year period while the remaining 501,000 vest over a five-year period. The Company, but not the holder, has the right to settle the options in cash.
Outstanding at the end of the year 549 $6.125 ====== ======
Weighted-average fair value of options granted during the year $2.76 ======
$6.125 is the exercise price for options outstanding as of December 31, 2000. The weighted-average remaining contractual life of those options is 9.5 years.
The provision (benefit) for income taxes for the years ended December 31, is as follows:
Current: Federal ............. $ 62 $ 17 $ 57 State ............... 318 106 167 ------- ------- -------
Deferred: Federal ............. 821 (872) (665) State ............... (61) (19) (6) ------- ------- -------
Total .................. $ 1,140 $ (768) $ (435) ======= ======= =======
At December 31, 2000, the Company had net operating loss carry-forwards for Federal income tax purposes of approximately $21,671, the expiration dates of which are as follows: 2004 - $18,571, 2005 - $2,430, 2007 - $397, 2008 - $133, 2009 and thereafter - $140.
The valuation allowance reduces the deferred tax assets to the amount that is more likely than not to be realized. Reconciliations of the income tax benefit to income taxes based on the 34% statutory rate are as follows:
Net income available to common stockholders $1,116 $1,729 $2,149 - --------------------------------------------------------------------------------
At December 31, 2000 and 1999, 500,000 shares of zero coupon redeemable convertible preferred shares, which were convertible to 500,000 common shares, were excluded from the computation of diluted earnings per share ("EPS") because their inclusion would have had an antidilutive effect on EPS. In addition, subsidiary options and warrants were also excluded from the computation of diluted EPS for the years 1999 and 1998, because their inclusion would have had an antidilutive effect on consolidated EPS.
In 1999, the Company sold 1,136,364 shares of Class A Common Stock for $5,000 in a private placement to an affiliate of the Company's controlling stockholder.
The Company rents showrooms, office space and certain equipment under operating lease agreements. The Company through its subsidiary, WC Holdings, leases a 70,000 square foot office building in Dublin, Ohio that is used as this subsidiary's principal office facilities. The lease for the building is for a term of 15 years, which began in 1997, provides for annual rent payments and requires the Company to pay all operating expenses for the building. The lease also provides for three renewal options of five years each, an option to purchase the building between the fourth and fifth years of the lease term at a price determined under a formula based on the rentable and unimproved square footage of the building, and a right of first offer to purchase the building before the Landlord enters into a contract to sell the building to a third party. The lease restricts WC Holdings' subsidiary, CompManagement, Inc., from paying a dividend, or otherwise distributing funds or assets outside the ordinary course of business to Health Power, Inc. or another affiliate unless CompManagement, Inc. meets certain tangible net worth requirements. WC Holdings also leases office space in Akron, Cincinnati, Cleveland and Toledo, Ohio; Seattle, Washington; Charleston, West Virginia; Lexington, Kentucky; and Indianapolis, Indiana. These spaces are used as regional offices and service centers for its operations. Certain office space, included in the following table, is rented from Security Capital's redeemable preferred stockholder for which the annual rent will be $176 and $46 for
Future minimum rental commitments at December 31, 2000 are as follows:
2001 $ 2,959 2002 2,550 2003 2,130 2004 1,766 2005 1,649 Thereafter 7,311 -------
Pumpkin and Possible Dreams are parties to agreements with certain artists which require payment of royalties based upon a percentage of net sales of certain products and other formulas as stated in the agreements.
The purchase agreement for the Company's 1997 acquisition of Pumpkin provides for additional payments which were contingent upon future EBITDA. At a minimum, the Company will be required to make additional payments totaling $120 annually through 2001. The present value of minimum additional payments of $53 and $160 at December 31, 2000 and 1999, respectively, based on an imputed interest rate of 10.0%, has been recorded as a liability in the accompanying balance sheets. The annual additional payment will increase to $160 in any year in which EBITDA is greater than $2,400. During 2000 and 1999, the Company's EBITDA exceeded $2,400, and accordingly, during the years ended December 31, 2000 and 1999, the Company recorded an additional obligation of $40 for each year. Additionally since Pumpkin's four year average EBITDA exceeded the specified threshold, the seller is entitled to an additional $1,812 earnout amount payable in 2002. This amount is shown on the balance sheet in other long-term obligations and has been recorded as additions to goodwill.
Possible Dreams purchased approximately 76% and 74% of its supplies from two companies during 2000 and 1999, respectively. The loss of either supplier could have an adverse effect on Possible Dreams' results of operations and financial condition.
WC Holdings, Inc. subsidiaries earned 90% of its revenues in the state of Ohio.
The Company is party to several legal actions arising in the ordinary course of business. In management's opinion, the Company has adequate legal defenses to these actions, such that the resolution of such matters will not have a material effect on the financial position or results of operations of the Company.
On April 1, 2001, the Company's subsidiary Health Power, Inc. acquired 100% of the common stock of Trigon Administrators, Inc., a TPA administrator in Virginia and Maryland. 100% of the acquisition, $6,000, was financed through its revolving line of credit.