UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2004.
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________ to ____________
Commission file number 1-4422
ROLLINS, INC.
(Exact name of registrant as specified in its charter)
Delaware 51-0068479
(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) Identification No.)
2170 Piedmont Road, N.E., Atlanta, Georgia
(Address of principal executive offices)
30324
(Zip Code)
(404) 888-2000
(Registrant's telephone number, including area code)
--------------------------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in rule 12b-2 of the Exchange Act).
Yes [X] No [ ]
Rollins, Inc. had 45,651,470 shares of its $1 Par Value Common Stock outstanding
as of July 15, 2004.
ROLLINS, INC. AND SUBSIDIARIES
INDEX
PART I FINANCIAL INFORMATION Page No.
--------------
Item 1. Financial Statements.
Consolidated Statements of Financial Position as of June 30, 2004
and December 31, 2003 2
Consolidated Statements of Income for the Three and Six Months
Ended June 30, 2004 and 2003 3
Consolidated Statements of Cash Flows for the Six Months Ended
June 30, 2004 and 2003 4
Notes to Consolidated Financial Statements 5
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations. 11
Item 3. Quantitative and Qualitative Disclosures About Market Risk. 17
Item 4. Controls and Procedures. 17
PART II OTHER INFORMATION
Item 1. Legal Proceedings. 18
Item 4. Submission of Matters to a Vote of Security Holders. 18
Item 6. Exhibits and Reports on Form 8-K. 18
SIGNATURES 20
PART I FINANCIAL INFORMATION
Item 1. Financial Statements.
ROLLINS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
(In thousands except share and per share data)
June 30, December 31,
2004 2003
-------------------- ------------------
(Unaudited)
ASSETS
Cash and Short-Term Investments $ 21,865 $ 59,540
Marketable Securities 0 21,866
Trade Receivables, Net of Allowance for
Doubtful Accounts of $5,300 and $4,616,
respectively 62,765 48,471
Materials and Supplies 12,157 9,837
Deferred Income Taxes 21,633 23,243
Other Current Assets 10,441 7,414
-------------------- ------------------
Current Assets 128,861 170,371
Equipment and Property, Net 45,313 35,836
Goodwill 113,853 72,498
Customer Contracts and Other Intangible Assets 82,166 30,333
Deferred Income Taxes 8,860 15,902
Other Assets 30,908 24,964
-------------------- ------------------
Total Assets $ 409,961 $ 349,904
==================== ==================
LIABILITIES
Accounts Payable $ 14,756 $ 12,290
Accrued Insurance 13,050 13,050
Accrued Payroll 33,313 31,019
Unearned Revenue 58,511 46,007
Accrual for Termite Contracts 21,704 21,500
Other Current Liabilities 30,306 21,156
-------------------- ------------------
Current Liabilities 171,640 145,022
Accrued Insurance, Less Current Portion 26,641 26,024
Accrual for Termite Contracts, Less Current Portion 23,621 22,373
Long-Term Accrued Liabilities 18,482 17,711
-------------------- ------------------
Total Liabilities 240,384 211,130
-------------------- ------------------
Commitments and Contingencies
STOCKHOLDERS' EQUITY
Common Stock, par value $1 per share; 99,500,000
shares authorized; 45,638,134 and 45,156,674
shares issued and outstanding, respectively 45,638 45,157
Additional Paid-In Capital 7,491 4,408
Accumulated Other Comprehensive Loss (414) (314)
Unearned Compensation (3,792) (239)
Retained Earnings 120,654 89,762
-------------------- ------------------
Total Stockholders' Equity 169,577 138,774
-------------------- ------------------
Total Liabilities and Stockholders' $ $ 349,904
Equity 409,961
==================== ==================
<FN>
The accompanying notes are an integral part of these consolidated financial
statements.
</FN>
2
ROLLINS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(In thousands except per share data)
(Unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------------- ------------------------------------
2004 2003 2004 2003
---------------- ---------------- ---------------- -----------------
REVENUES
Customer Services $ 207,698 $ 185,105 $ 366,390 $ 340,227
---------------- ---------------- ---------------- -----------------
COSTS AND EXPENSES
Cost of Services Provided 105,442 95,558 190,799 179,484
Depreciation and Amortization 5,764 5,037 10,421 10,193
Sales, General & Administrative 69,155 62,312 123,330 116,688
Gain on Sale of Assets (14,143) (67) (14,142) (69)
Interest Income (47) (94) (197) (160)
---------------- ---------------- ---------------- -----------------
166,171 162,746 310,211 306,136
---------------- ---------------- ---------------- -----------------
INCOME BEFORE INCOME TAXES 41,527 22,359 56,179 34,091
---------------- ---------------- ---------------- -----------------
PROVISION FOR INCOME TAXES
Current 10,250 7,290 14,911 10,753
Deferred 7,467 1,207 8,740 2,202
---------------- ---------------- ---------------- -----------------
17,717 8,497 23,651 12,955
---------------- ---------------- ---------------- -----------------
NET INCOME $ 23,810 $ 13,862 $ 32,528 $ 21,136
================ ================ ================ =================
EARNINGS PER SHARE - BASIC $ 0.52 $ 0.31 $ 0.72 $ 0.47
================ ================ ================ =================
EARNINGS PER SHARE - DILUTED $ 0.51 $ 0.30 $ 0.70 $ 0.46
================ ================ ================ =================
Average Shares Outstanding---Basic 45,552 45,117 45,425 45,015
Average Shares Outstanding---Diluted 46,753 46,404 46,698 46,258
DIVIDENDS PER SHARE $ 0.06 $ 0.05 $ 0.12 $ 0.10
================ ================ ================ =================
<FN>
The accompanying notes are an integral part of these consolidated financial
statements.
</FN>
3
ROLLINS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
Six Months Ended
June 30,
----------------------------------------
2004 2003
------------------ -----------------
OPERATING ACTIVITIES
Net Income $ 32,528 $ 21,136
Adjustments to Reconcile Net Income to Net
Cash Provided by Operating Activities:
Depreciation and Amortization 10,421 10,193
Deferred Income Taxes 8,740 2,364
Other, Net 202 163
Gain on Sale of Assets (14,142) 0
(Increase) Decrease in Assets, Net of Businesses Acquired:
Trade Receivables (7,390) (6,517)
Materials and Supplies (655) (358)
Other Current Assets (2,578) (1,566)
Other Non-Current Assets (2,235) (60)
Increase (Decrease) in Liabilities, Net of Businesses Acquired:
Accounts Payable and Accrued Expenses 10,172 11,874
Unearned Revenue 5,668 1,799
Accrued Insurance (1,643) 177
Accrual for Termite Contracts 1,076 (466)
Long-Term Accrued Liabilities (4,393) (5,864)
------------------ -----------------
Net Cash Provided by Operating Activities 35,771 32,875
------------------ -----------------
INVESTING ACTIVITIES
Sale of Marketable Securities, Net 21,866 0
Purchases of Equipment and Property (3,751) (2,332)
Acquisitions (103,155) (1,508)
Proceeds From Sale of Assets, Net of Deferred Gain 15,468 0
------------------ -----------------
Net Cash Used in Investing Activities (69,572) (3,840)
------------------ -----------------
FINANCING ACTIVITIES
Dividends Paid (5,451) (4,500)
Other 1,577 2,015
------------------ -----------------
Net Cash Used in Financing Activities (3,874) (2,485)
------------------ -----------------
Net (Decrease) Increase in Cash and Short-Term Investments (37,675) 26,550
Cash and Short-Term Investments At Beginning of Period 59,540 38,315
------------------ -----------------
Cash and Short-Term Investments At End of Period $ 21,865 $ 64,865
================== =================
<FN>
The accompanying notes are an integral part of these consolidated financial
statements.
</FN>
4
ROLLINS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1. BASIS OF PREPARATION AND OTHER
Basis of Preparation - The consolidated financial statements included
herein have been prepared by Rollins, Inc. (the "Company"), without
audit, pursuant to the rules and regulations of the Securities and
Exchange Commission applicable to quarterly reporting on Form 10-Q.
These consolidated financial statements have been prepared in
accordance with Statement of Financial Accounting Standard No. 94,
Consolidation of All Majority-Owned Subsidiaries ("SFAS 94") and Rule
3A-02(a) of Regulation S-X. In accordance with SFAS 94 and with Rule
3A-02(a) of Regulation S-X, the Company's policy is to consolidate all
subsidiaries and investees where it has voting control. The Company
does not have any subsidiaries or investees where it has less than a
100% equity interest or less than 100% voting control, nor does it
have any interest in other investees, joint ventures, or other
entities that require consolidation.
Footnote disclosures normally included in financial statements
prepared in accordance with accounting principles generally accepted
in the United States have been condensed or omitted as permitted by
such rules and regulations. These consolidated financial statements
should be read in conjunction with the financial statements and
related notes contained in the Company's annual report on Form 10-K
for the year ended December 31, 2003.
In the opinion of management, the consolidated financial statements
included herein contain all adjustments, consisting of a normal
recurring nature, necessary to present fairly the financial position
of the Company as of June 30, 2004 and December 31, 2003, and the
results of its operations and cash flows for the three and six months
ended June 30, 2004 and 2003. Operating results for the three and six
months ended June 30, 2004 are not necessarily indicative of the
results that may be expected for the year ending December 31, 2004.
The Company has only one reportable segment, its pest and termite
control business. The Company's results of operations and its
financial condition are not reliant upon any single customer or a few
customers or the Company's foreign operations.
Estimates Used in the Preparation of Consolidated Financial Statements
- The preparation of the consolidated financial statements in
conformity with accounting principles generally accepted in the United
States requires Management to make estimates and assumptions that
affect the amounts reported in the accompanying notes and financial
statements. Actual results could differ from those estimates.
Cash and Short-Term Investments - The Company considers all
investments with a maturity of three months or less to be cash
equivalents. Short-term investments, all of which are cash
equivalents, are stated at cost, which approximates fair market value.
Marketable Securities - From time to time, the Company maintains
investments held by several large, well-capitalized financial
institutions. The Company's investment policy does not allow
investment in any securities rated less than "investment grade" by
national rating services.
Management determines the appropriate classification of debt
securities at the time of purchase and re-evaluates such designations
as of each balance sheet date. Debt securities are classified as
available-for-sale because the Company does not have the intent to
hold the securities to maturity. Available-for-sale securities are
stated at their fair values, with the unrealized gains and losses, net
of tax, reported as a separate component of stockholders' equity.
Realized gains and losses and declines in value judged to be other
than temporary on available-for-sale securities are included in
interest income. In the first quarter of 2004, the Company sold the
balance of its marketable securities, the proceeds of which were used
to pay the primary portion of the Western Industries, Inc. acquisition
completed in the second quarter of 2004. The cost of securities sold
is based on the specific identification method. Interest and dividends
on securities classified as available-for-sale are included in
interest income. The Company's marketable securities generally consist
of United States government, corporate and municipal debt securities.
Comprehensive Income (Loss) - Other Comprehensive Income (Loss)
results from foreign currency translations and unrealized gain/losses
on marketable securities.
New Accounting Standards - In December 2002, the FASB issued
Interpretation No. 46, Consolidation of Variable Interest Entities
("FIN 46"). The Interpretation requires that a variable interest
entity be consolidated
5
by a company if that company is subject to a majority of the risk of
loss from the variable interest entity's activities or entitled to
receive a majority of the entity's residual returns or both. The
consolidation requirements of FIN 46 were effective in 2003 for all
variable interest entities created or acquired after January 31, 2003.
In December 2003, the Financial Accounting Standards Board issued a
revision to FIN 46 referred to as Interpretation No. 46 (R). Among
other provisions, the revision extended the adoption date of FIN 46
(R) to the first quarter of 2004 for variable interest entities
created prior to February 1, 2003. The Company adopted FIN 46 (R) in
the first quarter of 2004 for variable interest entities created prior
to February 1, 2003. The adoption did not have a significant effect on
the Company's financial position or results of operations.
Franchising Program - Orkin had 46 franchises as of June 30, 2004,
including international franchises in Mexico, established in 2000, and
Panama, established in 2003. Transactions with franchises involve
sales of customer contracts to establish new franchises, initial
franchise fees and royalties. The customer contracts and initial
franchise fees are typically sold for a combination of cash and notes
due over periods ranging up to 5 years. As of June 30, 2004 and
December 31, 2003, notes receivable from franchises aggregated $4.7
million and $3.9 million, respectively. The Company recognizes gains
from the sale of customer contracts at the time they are sold to
franchises and collection on the notes is reasonably assured. The gain
amounted to approximately $41,000 in the second quarter of 2004
compared to $481,000 in second quarter of 2003, and is included as
revenues in the accompanying Consolidated Statements of Income. The
Company has recognized gains from the sale of customer contracts of
approximately $0.9 million for the six months ended June 30, 2004, as
compared to approximately $2.1 million for the six months ended June
30, 2003. Initial franchise fees are deferred for the duration of the
initial contract period and are included as unearned revenue in the
Consolidated Statements of Financial Position. Deferred franchise fees
amounted to $1.5 million and $1.4 million at June 30, 2004 and
December 31, 2003, respectively. Royalties from franchises are accrued
and recognized as revenues as earned on a monthly basis. Revenues from
royalties were $464,000 in the second quarter of 2004 compared to
$419,000 in the second quarter of 2003 and were $811,000 and $656,000
for the six months ended June 30, 2004 and 2003, respectively. The
Company's maximum exposure to loss relating to the franchises
aggregated $3.2 million and $2.5 million at June 30, 2004 and December
31, 2003, respectively.
Fair Value of Financial Instruments - The Company's financial
instruments consist of cash, short-term investments, marketable
securities, trade and notes receivables, accounts payable and other
short-term liabilities. The carrying amounts of these financial
instruments approximate their fair values.
Seasonality - The revenues of the Company are affected by the seasonal
nature of the Company's pest and termite control services as evidenced
by the following chart.
Total Net Revenues
------------------------------------------
2004 2003 2002
- ------------------------------------------------------------------------------
First Quarter $158,692 $155,122 $153,302
Second Quarter 207,698 185,105 184,189
Third Quarter N/A 178,262 174,063
Fourth Quarter N/A 158,524 153,871
- ------------------------------------------------------------------------------
NOTE 2. EARNINGS PER SHARE
In accordance with SFAS No. 128, Earnings Per Share ("EPS"), the
Company presents basic EPS and diluted EPS. Basic EPS is computed on
the basis of weighted-average shares outstanding. Diluted EPS is
computed on the basis of weighted-average shares outstanding plus
common stock options outstanding during the year which, if exercised,
would have a dilutive effect on EPS. A reconciliation of the number of
weighted-average shares used in computing basic and diluted EPS is as
follows:
6
Three Months Ended Six Months Ended
--------------------------- --------------------------
June 30, June 30,
--------------------------- --------------------------
(In thousands except per share data amounts) 2004 2003 2004 2003
- -------------------------------------------------------------------------------------------------- --------------------------
Basic and diluted earnings available to stockholders
(numerator): $23,810 $13,862 $32,528 $21,136
Shares (denominator):
Weighted-average shares outstanding 45,552 45,117 45,425 45,015
Effect of Dilutive securities:
Employee Stock Options 1,201 1,287 1,273 1,243
--------------------------- --------------------------
Adjusted Weighted-Average Shares and
Assumed Exercises 46,753 46,404 46,698 46,258
Per share amounts:
Basic earnings per common share $0.52 $0.31 $0.72 $0.47
Diluted earnings per common share $0.51 $0.30 $0.70 $0.46
- -------------------------------------------------------------------------------------------------- --------------------------
NOTE 3. LEGAL PROCEEDINGS
Orkin, one of the Company's subsidiaries, is a named defendant in
Helen Cutler and Mary Lewin v. Orkin Exterminating Company, Inc. et
al. pending in the District Court of Houston County, Alabama. The
plaintiffs in the above mentioned case filed suit in March of 1996 and
are seeking monetary damages and injunctive relief for alleged breach
of contract arising out of alleged missed or inadequate reinspections.
The attorneys for the plaintiffs contend that the case is suitable for
a class action and the court has ruled that the plaintiffs would be
permitted to pursue a class action lawsuit against Orkin. Orkin
believes this case to be without merit and intends to defend itself
vigorously at trial. The trial has been continued and a new date has
not been set. At this time, the final outcome of the litigation cannot
be determined. However, in the opinion of Management, the ultimate
resolution of this action will not have a material adverse effect on
the Company's financial position, results of operations or liquidity.
Orkin is also a named defendant in Butland et al. v. Orkin
Exterminating Company, Inc. et al. pending in the Circuit Court of
Hillsborough County, Tampa, Florida. The plaintiffs filed suit in
March of 1999 and are seeking monetary damages and injunctive relief.
The Court ruled in early April 2002, certifying the class action
lawsuit against Orkin. Orkin appealed this ruling to the Florida
Second District Court of Appeals which remanded the case back to the
trial court for further findings. Orkin believes this case to be
without merit and intends to defend itself vigorously through trial,
if necessary. At this time, the final outcome of the litigation cannot
be determined. However, in the opinion of Management, the ultimate
resolution of this action will not have a material adverse effect on
the Company's financial position, results of operations or liquidity.
Orkin is involved in certain environmental matters primarily arising
in the normal course of business. In the opinion of Management, the
Company's liability under any of these matters would not materially
affect its financial condition or results of operations.
Orkin has received from the Office of the Florida Attorney General a
subpoena for documents relating to the company's termite work in the
state of Florida. Orkin is cooperating fully with the Office of the
Attorney General.
Additionally, in the normal course of business, Orkin is a defendant
in a number of lawsuits, which allege that plaintiffs have been
damaged as a result of the rendering of services by Orkin personnel
and equipment. Orkin is actively contesting these actions. Certain of
these lawsuits have been filed (Ernest W. Warren and Dolores G. Warren
et al. v. Orkin Exterminating Company, Inc., et al.; Francis D.
Petsch, et al. v. Orkin Exterminating Company, Inc. et al.; and Bob J.
Stevens v. Orkin Exterminating Company, Inc. and Rollins, Inc.) in
which the Plaintiffs are seeking certification of a class. The cases
originate in Georgia, Florida, and Texas. Furthermore, the Company has
been named a defendant in Larry Hanna, et. al. v. Rollins, Inc. dba
Rollins Service Bureau pending in the District Court for the Northern
District of Indiana (Hammond Division) in which the Plaintiffs are
seeking certification of a class. The Company does not believe that
any of these actions, individually, is material to the Company. The
action alleges violation of the Fair Debt Collection Practices Act.
The Company believes all of these cases to be without merit and
intends to vigorously contest certification and defend itself through
trial, if necessary. In the opinion of Management, the outcome of
these actions will not have a material adverse effect on the Company's
financial position, results of operations or liquidity.
7
NOTE 4. STOCKHOLDERS' EQUITY
During the second quarter and six months ended June 30, 2004,
approximately 125,000 and 374,000 shares of common stock were issued
upon exercise of stock options by employees. As permitted by SFAS No.
123, Accounting for Stock-Based Compensation, the Company accounts for
employee stock compensation plans using the intrinsic value method
prescribed by Accounting Principles Board Opinion No. 25, Accounting
for Stock Issued to Employees. No stock-based employee compensation
cost is reflected in net income, as all options granted had an
exercise price equal to the market value of the underlying common
stock on the date of grant. The following table illustrates the effect
on net income and earnings per share if the Company had applied the
fair value recognition provisions of FASB Statement No. 123,
Accounting for Stock-Based Compensation, to stock-based employee
compensation.
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------------------------------
(In thousands, except per share data) 2004 2003 2004 2003
---------------------------------------------------
Net income, as reported $23,810 $13,862 $32,528 $21,136
Deduct: Total stock-based employee
compensation expense determined under fair
value based method for all awards, net of
related tax effects (202) (483) (404) (966)
-------------------------- ------------------------
Pro forma net income $23,608 $13,379 $32,124 $20,170
-------------------------- ------------------------
Earnings per share:
Basic-as reported $0.52 $0.31 $0.72 $0.47
Basic-pro forma $0.52 $0.30 $0.71 $0.45
Diluted-as reported $0.51 $0.30 $0.70 $0.46
Diluted-pro forma $0.50 $0.29 $0.69 $0.44
NOTE 5. ACCUMULATED OTHER COMPREHENSIVE LOSS
Accumulated other comprehensive loss consists of the following (in
thousands):
Unrealized
Minimum Foreign Loss on
Pension Currency Marketable
Liability Transaltion Securities Total
- ----------------------------------------------------------------------------------------------------------------
Balance at January 1, 2003 $ (16,182) $ (765) $ 0 $ (16,947)
Change during 2003:
Before-tax amount.. 26,079 842 (108) 26,813
Tax benefit (expense) (9,897) (324) 41 (10,180)
---------------------------------------------------------------
16,182 518 (67) 16,633
Balance at December 31, 2003 $ 0 $ (247) $ (67) $ (314)
Change during first six months of 2004:
Before-tax amount.. 0 (281) 108 (173)
Tax benefit (expense) 0 114 (41) 73
---------------------------------------------------------------
0 (167) 67 (100)
---------------------------------------------------------------
Balance at June 30, 2004 $ 0 $ (414) $ 0 $ (414)
- ----------------------------------------------------------------------------------------------------------------
8
NOTE 6. ACCRUAL FOR TERMITE CONTRACTS
The Company maintains an accrual for termite contracts representing
the estimated costs of reapplications, repair claims and associated
labor, chemicals, and other costs relative to termite control services
performed prior to the balance sheet date. A reconciliation of the
beginning and ending balances of the accrual for termite contracts is
as follows:
Six Months Ended
June 30,
-------------------------------
(In thousands) 2004 2003
-----------------------------------------------------------------------------
Beginning Balance $43,873 $46,446
Current Period Provision 9,793 12,592
Settlements, Claims and Expenditures Made
During the Period (8,734) (13,058)
Western 393 0
-------------------------------
Ending Balance $45,325 $45,980
-----------------------------------------------------------------------------
NOTE 7. PENSION AND POST-RETIREMENT BENEFIT PLANS
The following represents the net periodic pension benefit costs and
related components in accordance with SFAS 132 ( R ):
Components of Net Pension Benefit Cost
Three Months Ended Six Months Ended
June 30, June 30,
-----------------------------------------------------------
(in thousands) 2004 2003 2004 2003
--------------------------------------------------------------------------------------------------------
Service Cost $1,297 $1,171 $2,594 $2,342
Interest Cost 2,074 1,950 4,148 3,900
Expected Return on Plan Assets (2,394) (2,123) (4,788) (4,246)
Amortization of:
Prior Service Benefit (217) (217) (434) (434)
Unrecognized Net Loss 845 506 1,690 1,012
-----------------------------------------------------------
Net Periodic Benefit Cost $1,605 $1,287 $3,210 $2,574
--------------------------------------------------------------------------------------------------------
A contribution of $3.0 million was made to the pension plan in April
2004. The Company expects to contribute an additional amount up to
$3.0 million to the pension plan in 2004.
NOTE 8. RELATED PARTY TRANSACTIONS
On April 28, 2004, the Company sold real estate in Okeechobee County,
Florida to LOR, Inc., a company controlled by R. Randall Rollins,
Chairman of the Board of Rollins, Inc. and Gary W. Rollins, Chief
Executive Officer, President and Chief Operating Officer of Rollins,
Inc. for $16.6 million in cash. The sale resulted in a net gain after
tax of $8.1 million or $0.17 per share since the real estate had
appreciated over approximately 30 years it had been owned by the
Company. The Company deferred a portion of the gain pending the
completion of a survey that may result in the return of a portion of
the proceeds. The real estate was under a lease agreement with annual
rentals of $131,939 that expired June 30, 2007. On May 28, 2004, the
Company sold real estate in Sussex County, Delaware to LOR, Inc. for
$111,000 in cash. The sale resulted in an immaterial net gain after
tax. The Board of Directors, at its quarterly meeting on January 27,
2004, approved the formation of a committee (the "Committee") made up
of Messrs. Bill J. Dismuke and James B. Williams, who are independent
directors, to evaluate the transactions. The Committee was furnished
with full disclosure of the transactions, including independent
appraisals, and determined that the terms of the transactions were
reasonable and fair to the Company. The Company is also contemplating
the sale of an additional piece of real estate in Sussex County,
Delaware to LOR, Inc. or an entity wholly owned by LOR, Inc. In
addition, the Company is contemplating the purchase of real estate
located at 2158 Piedmont Road, N.E., Atlanta, Georgia 30324, adjacent
to the Company's headquarters, from LOR, Inc.
9
NOTE 9. ACQUISITIONS
On April 30, 2004, the Company acquired substantially all of the
assets and assumed certain liabilities of Western Pest Services
("Western"), and the Company's consolidated financial statements
include the operating results of Western from the date of the
acquisition. Neither Western nor its principals had any prior
relationship with the Company or its affiliates. Western was engaged
in the provision of pest control services and the Company intends to
continue this business. The acquisition was made pursuant to an Asset
Purchase Agreement (the "Western Agreement") dated March 8, 2004,
between Rollins, Inc. and Western Industries, Inc. and affiliates. The
consideration for the assets and certain noncompetition agreements
(the "Purchase Price") was approximately $106.6 million, including
approximately $7.0 million of assumed liabilities and excluding all
consideration of Residex Corporation. The Purchase Price was funded
with cash on hand, the sale of property located in Okeechobee County,
Florida and a $15.0 million senior unsecured revolving credit
facility.
Pursuant to the Western Agreement, the Company acquired substantially
all of Western's property and assets, including accounts receivable,
real property leases, seller contracts, governmental authorizations,
data and records, intangible rights and property and insurance
benefits. As described in the Western Agreement, the Company assumed
only specified liabilities of Western, including current balance sheet
liabilities of the seller and obligations under disclosed assigned
contracts.
The Company engaged an independent valuation firm to determine the
allocation of the purchase price to Goodwill and identifiable
Intangible assets. Such valuation resulted in the allocation of $41.3
million to Goodwill and $55.2 million to other intangible assets,
principally customer contracts. The finite-lived intangible assets,
principally customer contracts, are being amortized over periods
principally ranging from 8 to 12.5 years on a straight-lined basis.
On April 30, 2004, in a transaction ancillary to the Western
acquisition, the Company acquired Residex Corporation ("Residex"), a
company that distributes chemicals and other products to pest
management professionals, pursuant to an Asset Purchase Agreement (the
"Residex Agreement") dated March 8, 2004, between Rollins, Inc. and
Western Industries, Inc., JBD Incorporated and Residex Corporation.
Subsequently on April 30, 2004, the Company sold Residex to an
industry distribution group. The amounts involved were not material
and no gain or loss was recognized on the transaction.
Prior to the acquisition, Western Pest Services was recognized as a
premier pest control business and ranked as the 8th largest company in
the industry. Based in Parsippany, NJ, the Company provides pest
elimination and prevention to homes and businesses to over 130,000
customers from New York to Virginia with additional operations in
Georgia and Florida. Western is primarily a commercial pest control
service company and its existing businesses complement most of the
services that Orkin offers, in an area of the country in which Orkin
has not been particularly strong, the Northeast. The Company's
consolidated statements of income include the results of operations of
Western for the period beginning May 1, 2004 through June 30, 2004.
NOTE 10. PRO FORMA FINANCIAL INFORMATION
The pro forma financial information presented below gives effect to
the Western acquisition as if it had occurred as of the beginning of
our fiscal year 2004 and 2003, respectively. The information presented
below is for illustrative purposes only and is not necessarily
indicative of results that would have been achieved if the acquisition
actually had occurred as of the beginning of such years or results
which may be achieved in the future.
10
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------------- ------------------------------------
2004 2003 2004 2003
---------------- ---------------- ---------------- -----------------
REVENUES
Customer Services $ 215,240 $ 204,982 $ 393,068 $ 377,817
================ ================ ================ =================
INCOME BEFORE INCOME TAXES 41,071 21,049 56,137 32,103
================ ================ ================ =================
NET INCOME $ 23,549 $ 13,050 $ 32,513 $ 19,904
================ ================ ================ =================
EARNINGS PER SHARE - BASIC $ 0.52 $ 0.29 $ 0.72 $ 0.44
================ ================ ================ =================
EARNINGS PER SHARE - DILUTED $ 0.50 $ 0.28 $ 0.70 $ 0.43
================ ================ ================ =================
Average Shares Outstanding---Basic 45,552 45,117 45,425 45,015
Average Shares Outstanding---Diluted 46,753 46,404 46,698 46,258
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
Overview
The Company's investment in its new marketing and sales initiatives and
continued emphasis on customer retention as well as the acquisition of Western,
resulted in revenue growth of 12.2% in the second quarter of 2004 compared to
the second quarter of 2003.
For the second quarter of 2004, the Company had net income of $23.8 million
compared to net income of $13.9 million in the second quarter of 2003, which
represents a 71.8% increase. Included in second quarter's net income was a
one-time gain from the sale of assets of $8.1 million, net of tax, or $0.17 per
share. In addition to the revenue increase of 12.2%, the Company's Cost of
Services Provided decreased 0.8 percentage points, as a percentage of revenues,
and the Company achieved an improvement in Sales, General and Administrative
expenses of 0.4 percentage point, as a percentage of revenues.
The financial results for the second quarter of 2004 were positively impacted by
the continued benefit of our recent service and sales and marketing initiatives,
which included every-other-month residential pest control service, Gold Medal
premium commercial pest control services, the investment in Business Development
Managers for every Orkin division, the Commercial Pest Control Quality Assurance
Program, termite directed liquid and baiting treatment, and the creation of or
enhancement of regional call centers, which have enabled better accountability
over leads and better coordination of scheduling starts for new customers.
The Company finalized the acquisition of Western on April 30, 2004 and reported
an additional $13.7 million in revenues for the second quarter of 2004. Western
also contributed approximately $3.0 million to the Company's cash flow for the
second quarter of 2004 however, it did not contribute to the Company's earnings,
due to goodwill amortization and some post acquisition related expenses. The
Company was able to fund all but $15.0 million of the $110.0 million that it
paid for Western primarily with cash on-hand. The Company's strong cash flow
allowed it to end the second quarter of 2004 with zero debt from the
acquisition, and $21.9 million in cash and short-term investments.
The improving results that the Company reported for both the quarter and first
six months of 2004 are primarily attributable to the success it is having in
implementing its 2004 initiatives. The Company set the bar high for Orkin this
year, as it does each year, and is on track to improve its performance in sales,
customer and employee retention and profitability.
Residential pest control growth is being driven by service improvements,
primarily in lead generation. The "market segmentation" work that the Company
had done previously, in which it identified the ideal customer groups for Orkin
is contributing to the financials and quality of phone leads. The three segments
the Company is targeting are 1) Big Branders, those who want the best and are
willing to pay for it; 2) Relationship Seekers, prospects concerned about pest
prevention and driven by reputation, responsiveness and trust, 3) and Safety
First customers, those seeking a pest control company with the most
professional, best
11
trained and knowledgeable technicians. These characteristics are all attributes
that Orkin delivers every day and the Company believes its advertising is
hitting these objectives.
This year the Company is also attracting more prospective customers to its
Orkin.com web site. In the first quarter of 2002, the Company had 25 leads on
its site. This year it generated approximately 3,600 leads. Having a user
friendly web site, at a time where people are using the Internet more and more
to manage their active lives, shall prove to be an important channel for
generating leads and improving sales in the future.
The Company has also achieved greater efficiency in the handling and capturing
of phone inquiries from prospective customers. It has moved more of its branch
telephone calls to regional centers. The use of these centers means fewer
dropped leads, and the ability to route calls when demand peaks to a "backup"
call center that can take the call. The Company has also upgraded the phone
equipment and skill set of the people who handle these calls. As a result of
these two actions, the Company is experiencing an improved rate of closure at
these locations and positive increases in leads in part because it can better
control their documentation and handling. This improved accountability should
enable the Company to build a better database for future direct mail
solicitation or telemarketing.
The Company continues to invest in its commercial business area, where its
strategy has moved from building awareness to industry specific targeted
programs. The Company continues to see increased interest in its Gold Medal
initiative, which was introduced last year and addresses the food processing
industry. The Company is also enjoying favorable revenue momentum as a result of
its national account business.
On July 1, 2004, the Company announced that Orkin will formally work with the
U.S. Centers for Disease Control and Prevention ("CDC") on educational projects
targeting pest-related health risks. Over the next 12 months the Company will
collaborate with the CDC on three major shared efforts.
o First, the Company will be co-developing materials for Orkin training and
customer service, which will assist Orkin's pest management professionals
in providing more comprehensive information to their customers. Included in
this information will be prevention guidance on vector-borne and zoonotic
diseases. These are diseases that are transmitted to humans by fleas and
ticks.
o Second, together with the CDC, it will develop and distribute public
information regarding pests and prevention of associated infectious
diseases.
o And at the same time, the Company will be expanding health-related
information on Orkins' web site www.orkin.com.
With increased concern over pest-related diseases over the past few years, the
Company and the CDC recognize the importance to do a better job informing the
public. The Company believes that this collaboration will enhance its ability to
share important information with the public about health risks from certain
pests and allow it to enhance its award-winning training and customer service
while further distinguishing Orkin as the pest control leader.
The Company continues to expand its growth through the Orkin franchise program.
This program is primarily used in smaller markets where it is currently not
economically feasible to locate a conventional Orkin branch. There is a
contractual buyback provision at the Company's option with a pre-determined
purchase price using a formula applied to revenues of the franchise. There were
46 Company franchises at the end of the first quarter of 2004 compared to 44 at
December 31, 2003.
Results of Operations
% Better/ % Better/
Three Months Ended Worse as Six Months Ended Worse as
June 30, Compared to June 30, Compared to
Prior Year Prior Year
------------------------------------------------------------------------------------
(in thousands) 2004 2003 2004 2004 2003 2004
------------------------------------------------------------------------------------
Revenues $207,698 $185,105 12.2% $366,390 $340,227 7.7%
Cost of Services Provided 105,442 95,558 (10.3) 190,799 179,484 (6.3)
Depreciation and Amortization 5,764 5,037 (14.4) 10,421 10,193 (2.2)
Sales, General and Administrative 69,155 62,312 (11.0) 123,330 116,688 (5.7)
Gain on Sale of Assets (14,143) (67) N/M (14,142) (69) N/M
Interest Income (47) (94) (50.0) (197) (160) 23.1
------------------------------------------------------------------------------------
Income Before Income Taxes 41,527 22,359 85.7 56,179 34,091 64.8
Provision for Income Taxes 17,717 8,497 (108.5) 23,651 12,955 (82.6)
------------------------------------------------------------------------------------
Net Income $23,810 $ 13,862 71.8% $ 32,528 $ 21,136 53.9%
12
Revenues for the quarter ended June 30, 2004 increased to $207.7 million, an
increase of $22.6 million or 12.2%, inclusive of the Western acquisition
completed on April 30, 2004 and the additional termite renewals deferred from
the first quarter of 2004 and recognized in the second quarter of 2004, from
last year's second quarter revenues of $185.1 million. For the second quarter of
2004 the primary revenue driver was the acquisition of Western as well as the
residential pest control business, which grew at 6.8%. The Company's movement
over the last year to regional incoming call centers has led to greater
efficiency in the handling and capturing of calls and with the improved closure,
greater sales and revenue. Every-other-month service, our primary residential
pest control service offering, continues to grow in importance, comprising 55.3%
of our residential pest control customer base at June 30, 2004. Revenues for the
six month period ended June 30, 2004 increased to $366.4 million, an increase of
$26.2 million or 7.7% from last year's first six month period revenues of $340.2
million. The Company's foreign operations accounted for approximately 6% of
total second quarter revenues of 2004 compared to approximately 6% in the second
quarter of 2003.
The revenues of the Company are affected by the seasonal nature of the Company's
pest and termite control services as evidenced by the following chart.
Total Net Revenues
------------------------------------------
2004 2003 2002
- ------------------------------------------------------------------------------
First Quarter $158,692 $155,122 $153,302
Second Quarter 207,698 185,105 184,189
Third Quarter N/A 178,262 174,063
Fourth Quarter N/A 158,524 153,871
- ------------------------------------------------------------------------------
Cost of Services Provided for the second quarter ended June 30, 2004 increased
$9.9 million or 10.3%, although the expense expressed as a percentage of
revenues decreased by 0.8 percentage points, representing 50.8% of revenues for
the second quarter 2004 compared to 51.6% of revenues in the prior year second
quarter. For the first six months of 2004, Cost of Services Provided increased
$11.3 million or 6.3%, while margins improved by 0.7 percentage points,
representing 52.1% of revenues for the first six months of 2004 compared to
52.8% of revenues in the prior year. Cost of Services Provided as a percentage
of revenues decreased primarily due to continuing improvements in insurance and
claims, as well as continued employee productivity improvements at Orkin. These
were partially offset by Western's higher Cost of Services Provided as a
percentage of revenues. One area in which the Company experienced some minor
expense increases was fleet, which was the result of higher lease, fuel and the
cost of the Western fleet.
Sales, General and Administrative for the second quarter ended June 30, 2004
increased $6.8 million or 11.0% and, as a percentage of revenues, improved by
0.4 percentage points or 0.9%, representing 33.3% of total revenues compared to
33.7% for the prior year quarter. For the first six months of 2004, Sales,
General and Administrative increased $6.6 million or 5.7%, while margins
improved by 0.6 percentage points, representing 33.7% of revenues for the first
six months of 2004 compared to 34.3% of revenues in the prior year. The decrease
in Sales, General and Administrative as a percentage of revenue was mainly
attributable to the absence of an ineffective advertising campaign that was
conducted in Canada in 2003. The savings were partially offset by the higher
Sales, General and Administrative costs of Western.
Depreciation and Amortization expenses for the quarter ended June 30, 2004 were
$727,000, or 14.4%, higher than the prior year quarter. For the first six months
of 2004, Depreciation and Amortization expenses were approximately $228,000, or
2.2%, higher than the prior year. The increase was due to the addition of
depreciation and amortization from the acquisition of Western partially offset
by lower capital spending and certain technology assets becoming fully
depreciated in the last twelve months. As part of the Western acquisition, $55.2
million of finite-lived intangible assets, principally customer contracts, were
acquired. They will be amortized over periods principally ranging from 8 to 12.5
years. This represents a non-cash charge and will increase our amortization by
approximately $6.0 million to approximately $12.8 million per year.
The Company's tax provision of $17.7 million for the second quarter ended June
30, 2004 reflects increased pre-tax income over the prior year period and an
increase in the effective tax rate. The effective tax rate was 42.7% for the
second quarter ended June 30, 2004, up from 38.0% for the second quarter ended
June 30, 2003. The increase reflects increases in the Company's effective state
income tax rate, a "true-up" adjustment to deferred income taxes, as well as the
impact of permanent differences associated with the Company's Canadian
operations.
Critical Accounting Policies
We view critical accounting policies to be those policies that are very
important to the portrayal of our financial condition and results of operations,
and that require Management's most difficult, complex or subjective judgments.
The circumstances that
13
make these judgments difficult or complex relate to the need for Management to
make estimates about the effect of matters that are inherently uncertain. We
believe our critical accounting policies to be as follows:
Accrual for Termite Contracts--The Company maintains an accrual for termite
contracts representing the estimated costs of reapplications, repair claims,
associated labor and chemicals, settlements, awards and other costs relative to
termite control services performed prior to the balance sheet date. The Company
contracts an independent third party actuary on an annual basis to provide the
Company an estimate of the liability based upon historical claims information
for the largest portion of the accrual. In addition, Management estimates and
accrues for costs outside the scope of the actuarial study including the
estimated costs of retreatments, representing costs to be incurred that are
estimatable at the balance sheet date, as well as liability and costs associated
with claims in litigation. The actuarial study and historical experience are
major considerations in determining the accrual balance, along with Management's
knowledge of changes in business practices, contract changes, ongoing claims,
and termite remediation trends. The accrual is established based on all these
factors. Management makes judgments utilizing these operational and other
factors but recognizes that they are inherently subjective due to the difficulty
in predicting settlements and awards. Other factors that may impact future cost
include chemical life expectancy and government regulation. It is significant
that the actual number of claims has decreased in recent years due to changes in
the Company's business practices. However, it is not possible to accurately
predict future significant claims. Positive changes to our business practices
include revisions made to our contracts, more effective treatment methods that
include a directed-liquid baiting program, more effective termiticides, and
expanded training methods and techniques.
Accrued Insurance--The Company self-insures, up to specified limits, certain
risks related to general liability, workers' compensation and vehicle liability.
The estimated costs of existing and future claims under the self-insurance
program are accrued based upon historical trends as incidents occur, whether
reported or unreported (although actual settlement of the claims may not be made
until future periods) and may be subsequently revised based on developments
relating to such claims. The Company contracts an independent third party
actuary on an annual basis to provide the Company an estimated liability based
upon historical claims information. The actuarial study is a major
consideration, along with Management's knowledge of changes in business
practices and existing claims compared to current balances. The reserve is
established based on all these factors. Management's judgment is inherently
subjective and a number of factors are outside Management's knowledge and
control. Additionally, historical information is not always an accurate
indication of future events. It should be noted that the number of claims has
been decreasing due to the Company's proactive risk management to develop and
maintain ongoing programs. However, it is not possible to accurately predict
future significant claims. Initiatives that have been implemented include
pre-employment screening and an annual motor vehicle report required on all its
drivers, utilization of a Global Positioning System that has been fully deployed
to our Company vehicles, post-offer physicals for new employees, and pre-hire,
random and post-accident drug testing. The Company has improved the time
required to report a claim by utilizing a "Red Alert" program that provides
serious accident assessment twenty four hours a day and seven days a week and
has instituted a modified duty program that enables employees to go back to work
on a limited-duty basis.
Revenue Recognition--The Company's revenue recognition policies are designed to
recognize revenues at the time services are performed. For certain revenue
types, because of the timing of billing and the receipt of cash versus the
timing of performing services, certain accounting estimates are utilized.
Residential and commercial pest control services are primarily recurring in
nature on a monthly or bi-monthly basis, while certain types of commercial
customers may receive multiple treatments within a given month. In general, pest
control customers sign an initial one-year contract, and revenues are recognized
at the time services are performed. For pest control customers, the Company
offers a discount for those customers who prepay for a full year of services.
The Company defers recognition of these advance payments and recognizes the
revenue as the services are rendered. The Company classifies the discounts
related to the advance payments as a reduction in revenues. Termite baiting
revenues are recognized based on the delivery of the individual units of
accounting. At the inception of a new baiting services contract upon quality
control review of the installation, the Company recognizes revenue for the
delivery of the monitoring stations, initial directed liquid termiticide
treatment and installation of the monitoring services. The amount deferred is
the fair value of monitoring services to be rendered after the initial service.
The amount deferred for the undelivered monitoring element is then recognized as
income on a straight-line basis over the remaining contract term, which results
in recognition of revenue in a pattern that approximates the timing of
performing monitoring visits. Baiting renewal revenue is deferred and recognized
over the annual contract period on a straight-line basis that approximates the
timing of performing the required monitoring visits. Traditional termite
treatments are recognized as revenue at the time services are performed.
Traditional termite contract renewals are recognized as revenues at the renewal
date in order to match the revenue with the approximate timing of the
corresponding service provided. Interest income on installment receivables is
accrued monthly based on actual loan balances and stated interest rates.
Franchise fees are treated as unearned revenue in the Statement of Financial
Position for the duration of the initial contract period. Royalties from Orkin
franchises are accrued and recognized as revenues as earned on a monthly basis.
Gains on sales of pest control customer accounts to franchises are recognized at
the time of sale and when collection of the proceeds under notes are reasonably
assured.
Contingency Accruals--The Company is a party to legal proceedings with respect
to matters in the ordinary course of business. In accordance with Statement of
Financial Accounting Standards No. 5, Accounting for Contingencies, the Company
estimates and accrues for its liability and costs associated with the
litigation. Estimates and accruals are determined in
14
consultation with outside counsel. It is not possible to accurately predict the
ultimate result of the litigation. However, in the opinion of Management, the
outcome of the litigation will not have a material adverse impact on the
Company's financial condition or results of operations.
Liquidity and Capital Resources
Cash and Cash Flow
Six Months Ended June 30,
-----------------------------------------------------------------------
(in thousands) 2004 2003
-----------------------------------------------------------------------
Net Cash Provided by Operating Activities $ 35,771 $ 32,875
Net Cash Used in Investing Activities (69,572) (3,840)
Net Cash Used in Financing Activities (3,874) (2,485)
--------- --------
Net Increase in Cash and Short-Term Investments $ (37,675) $ 26,550
-----------------------------------------------------------------------
The Company believes its current cash and short-term investments balances,
future cash flows from operating activities and available borrowings under its
$70.0 million credit facilities will be sufficient to finance its current
operations and obligations, and fund expansion of the business for the
foreseeable future and the acquisition of other select pest control businesses.
The Company's operating activities generated cash of $35.8 million for the first
six months ended June 30, 2004, compared with cash provided by operating
activities of $32.9 million for the same period in 2003. Cash flows from
operating activities in 2004 were consistent with 2003 due primarily to higher
net income and provision for deferred income taxes offset by increased gains on
sale of assets.
The Company invested approximately $3.8 million in capital expenditures during
the first six months ended June 30, 2004, compared to $2.3 million during the
same period in 2003, and expects to invest between $4.0 million and $7.0 million
for the remainder of 2004. Capital expenditures for the first six months
consisted primarily of the purchase of equipment replacements and upgrades and
improvements to the Company's management information systems. During the first
six months, the Company made acquisitions totaling $103.2 million, compared to
$1.5 million during the same period in 2003. Acquisitions were primarily funded
by cash on hand, sales of marketable securities of approximately $21.9 million,
proceeds from sale of assets and borrowings under a senior unsecured revolving
credit facility (See below for further discussion). A total of $5.5 million was
paid in cash dividends ($0.12 per share) during the first six months of 2004,
compared to $4.5 million or $0.10 per share during the same period in 2003. The
Company did not repurchase any shares of Common Stock in the first six months of
2004 and there remain 649,684 shares authorized to be repurchased. The capital
expenditures and cash dividends were funded entirely through existing cash
balances and operating activities. The Company maintains $70.0 million credit
facilities with commercial banks, of which no borrowings were outstanding as of
June 30, 2004 or July 15, 2004. The Company maintains approximately $33.6
million in Letters of Credit.
On April 28, 2004, the Company entered into a $15.0 million senior unsecured
revolving credit facility. The entire amount of the credit facility was used to
fund a portion of the Western Industries, Inc. acquisition that the Company
closed on April 30, 2004. The Company repaid the full amount of the credit
facility in May 2004.
On April 28, 2004, the Company sold real estate in Okeechobee County, Florida to
LOR, Inc., a company controlled by R. Randall Rollins, Chairman of the Board of
Rollins, Inc. and Gary W. Rollins, Chief Executive Officer, President and Chief
Operating Officer of Rollins, Inc. for $16.6 million in cash. The sale resulted
in a net gain after tax of $8.1 million or $0.17 per share since the real estate
had appreciated over approximately 30 years it had been owned by the Company.
The Company deferred a portion of the gain pending the completion of a survey
that may result in the return of a portion of the proceeds. The real estate was
under a lease agreement with annual rentals of $131,939 that expired June 30,
2007. On May 28, 2004, the Company sold real estate in Sussex County, Delaware
to LOR, Inc. for $111,000 in cash. The sale resulted in an immaterial net gain
after tax. The Board of Directors, at its quarterly meeting on January 27, 2004,
approved the formation of a committee (the "Committee") made up of Messrs. Bill
J. Dismuke and James B. Williams, who are independent directors, to evaluate the
transactions. The Committee was furnished with full disclosure of the
transactions, including independent appraisals, and determined that the terms of
the transactions were reasonable and fair to the Company. The Company is also
contemplating the sale of an additional piece of real estate in Sussex County,
Delaware to LOR, Inc. or an entity wholly owned by LOR, Inc. In addition, the
Company is contemplating the purchase of real estate located at 2158 Piedmont
Road, N.E., Atlanta, Georgia 30324, adjacent to the Company's headquarters, from
LOR, Inc.
On April 30, 2004, the Company acquired substantially all of the assets and
assumed certain liabilities of Western Pest Services ("Western"), and the
Company's consolidated financial statements include the operating results of
Western from the date of the acquisition. Neither Western nor its principals had
any prior relationship with the Company or its affiliates. Western was engaged
in the provision of pest control services and the Company intends to continue
this business. The
15
acquisition was made pursuant to an Asset Purchase Agreement
(the "Western Agreement") dated March 8, 2004, between Rollins, Inc. and Western
Industries, Inc. and affiliates. The consideration for the assets and certain
noncompetition agreements (the "Purchase Price") was approximately $106.6
million, including approximately $7.0 million of assumed liabilities and
excluding all consideration of Residex Corporation. The Purchase Price was
funded with cash on hand, the sale of property located in Okeechobee County,
Florida and a $15.0 million senior unsecured revolving credit facility.
Pursuant to the Western Agreement, the Company acquired substantially all of
Western's property and assets, including accounts receivable, real property
leases, seller contracts, governmental authorizations, data and records,
intangible rights and property and insurance benefits. As described in the
Western Agreement, the Company assumed only specified liabilities of Western,
including current balance sheet liabilities of the seller and obligations under
disclosed assigned contracts.
The Company engaged an independent valuation firm to determine the allocation of
the purchase price to Goodwill and identifiable Intangible assets. Such
valuation resulted in the allocation of $41.3 million to Goodwill and $55.2
million to other intangible assets, principally customer contracts. The
finite-lived intangible assets, principally customer contracts, are being
amortized over periods principally ranging from 8 to 12.5 years on a
straight-lined basis.
On April 30, 2004, in a transaction ancillary to the Western acquisition, the
Company acquired Residex Corporation ("Residex"), a company that distributes
chemicals and other products to pest management professionals, pursuant to an
Asset Purchase Agreement (the "Residex Agreement") dated March 8, 2004, between
Rollins, Inc. and Western Industries, Inc., JBD Incorporated and Residex
Corporation. Subsequently on April 30, 2004, the Company sold Residex to an
industry distribution group. The amounts involved were not material and no gain
or loss was recognized on the transaction.
Prior to the acquisition, Western Pest Services was recognized as a premier pest
control business and ranked as the 8th largest company in the industry. Based in
Parsippany, NJ, the Company provides pest elimination and prevention to homes
and businesses to over 130,000 customers from New York to Virginia with
additional operations in Georgia and Florida. Western is primarily a commercial
pest control service company and its existing businesses complement most of the
services that Orkin offers, in an area of the country in which Orkin has not
been particularly strong, the Northeast. The Company's consolidated statements
of income include the results of operations of Western for the period beginning
May 1, 2004 through June 30, 2004.
Orkin, one of the Company's subsidiaries, is aggressively defending a class
action lawsuit filed in Hillsborough County, Tampa, Florida. In early April
2002, the Circuit Court of Hillsborough County certified the class action status
of Butland et al. v. Orkin Exterminating Company, Inc. et al. Orkin is also a
defendant in Helen Cutler and Mary Lewin v. Orkin Exterminating Company, Inc. et
al pending in the District Court of Houston County, Alabama. Other lawsuits
against Orkin, and in some instances the Company, are also being vigorously
defended, including the Warren, Petsch, and Stevens cases. The Company has been
named a defendant in Larry Hanna, et. al. v. Rollins, Inc. dba Rollins Service
Bureau pending in the District Court for the Northern District of Indiana
(Hammond Division) in which the Plaintiffs are seeking certification of a class.
For further discussion, see Note 3 to the accompanying financial statements.
A contribution of $3.0 million was made to the pension plan in April 2004. The
Company expects to contribute an additional amount up to $3.0 million to the
pension plan in 2004. In the opinion of Management, additional Plan
contributions will not have a material effect on the Company's financial
position, results of operations or liquidity.
Impact of Recent Accounting Pronouncements
In December 2002, the FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities ("FIN 46"). The Interpretation requires that a
variable interest entity be consolidated by a company if that company is subject
to a majority of the risk of loss from the variable interest entity's activities
or entitled to receive a majority of the entity's residual returns or both. The
consolidation requirements of FIN 46 were in 2003 effective for all variable
interest entities created or acquired after January 31, 2003. In December 2003,
the Financial Accounting Standards Board issued a revision to FIN 46 referred to
as Interpretation No. 46 (R). Among other provisions, the revision extended the
adoption date of FIN 46 (R) to the first quarter of 2004 for variable interest
entities created prior to February 1, 2003. The Company adopted FIN 46 (R) in
the first quarter of 2004 for variable interest entities created prior to
February 1, 2003. The adoption did not have a significant effect on the
Company's financial position or results of operations (see Note 1 to the
accompanying financial statements).
Forward-Looking Statements
This Quarterly Report contains forward-looking statements within the meaning of
the Private Securities Litigation Reform Act of 1995. Such forward-looking
statements include statements regarding the expected amount and impact of
potential future pension plan contributions, the expected impact of related
party transactions, the outcome of litigation arising in the ordinary course of
business and the outcome of the Helen Cutler and Mary Lewin v. Orkin
Exterminating Company, Inc. et al.
16
("Cutler") and the Butland et al. v. Orkin Exterminating Company, Inc. et al.
("Butland") litigation on the Company's financial position, results of
operations and liquidity; the adequacy of the Company's resources to fund
operations and obligations; the Company's projected 2004 capital expenditures;
the expected performance of the commercial business, franchise growth; and the
impact of recent accounting pronouncements. The actual results of the Company
could differ materially from those indicated by the forward-looking statements
because of various risks, timing and uncertainties including, without
limitation, the possibility of an adverse ruling against the Company in the
Cutler, Butland or other litigation; general economic conditions; market risk;
changes in industry practices or technologies; the degree of success of the
Company's termite process reforms and pest control selling and treatment
methods; the Company's ability to identify potential acquisitions; climate and
weather trends; competitive factors and pricing practices; potential increases
in labor costs; and changes in various government laws and regulations,
including environmental regulations and additional risks discussed in the
Company's Form 10-K for 2003. All of the foregoing risks and uncertainties are
beyond the ability of the Company to control, and in many cases the Company
cannot predict the risks and uncertainties that could cause its actual results
to differ materially from those indicated by the forward-looking statements.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
As of June 30, 2004, the Company maintained an investment portfolio subject to
short-term interest rate risk exposure. The Company has been affected by the
impact of lower interest rates on interest income from its short-term
investments. The Company is also subject to interest rate risk exposure through
borrowings on its $70.0 million credit facilities. Due to the absence of such
borrowings as of June 30, 2004, this risk was not significant in the first six
months of 2004 and is not expected to have a material effect upon the Company's
results of operations or financial position going forward. The Company is also
exposed to market risks arising from changes in foreign exchange rates. The
Company believes that this foreign exchange rate risk will not have a material
effect upon the Company's results of operations or financial position going
forward.
Item 4. Controls and Procedures.
Under the supervision and with the participation of our Management, including
our principal executive officer and principal financial officer, we conducted an
evaluation of the effectiveness of the design and operations of our disclosure
controls and procedures, as defined in rules 13a-15(e) and 15d-15(e) under the
Securities Exchange Act of 1934, as of June 30, 2004. Based on this evaluation,
our principal executive officer and principal financial officer concluded that
our disclosure controls and procedures were effective at the reasonable
assurance level such that the material information required to be included in
our Securities and Exchange Commission ("SEC") reports is recorded, processed,
summarized and reported within the time periods specified in SEC rules and forms
relating to Rollins, Inc., including our consolidated subsidiaries, and was made
known to them by others within those entities, particularly during the period
when this report was being prepared.
In addition, there were no significant changes in our internal control over
financial reporting during the quarter that could significantly affect these
controls. As of June 30, 2004, we did not identify any significant deficiency or
material weaknesses in our internal controls, and therefore no corrective
actions were taken.
17
PART II OTHER INFORMATION
Item 1. Legal Proceedings.
See Note 3 to Part I, Item 1 for discussion of certain litigation.
Item 4. Submission of Matters to a Vote of Security Holders.
Because the Company's directors have staggered three-year terms, Mr.
R. Randall Rollins, Mr. James B. Williams, Mr. Gary W. Rollins and Mr.
Henry B. Tippie continue to serve as directors of the Company but were
not up for reelection at the Company's Annual Meeting of Stockholders
on April 27, 2004.
The Company's Annual Meeting of Stockholders was held on April 27,
2004. At the meeting, stockholders voted on the following proposal:
1. To elect two Class III Directors for the three-year term expiring
in 2007. Each nominee for Class III Director was elected by a vote of
the stockholders as follows:
Election of Class III Directors: For Withheld
---------------------------------------------------------------------
Wilton Looney 42,576,086 1,104,078
Bill J. Dismuke 43,168,460 511,704
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
(2) (i) Asset Purchase Agreement by and among Orkin, Inc. (as
assigned to Rollins, Inc.) and Western Industries, Inc., Western
Exterminating Company, Inc. et al. dated March 8, 2004
incorporated herein by reference to Exhibit (2) (i) as filed with
its Form 10-Q for the quarter ended March 31, 2004, as amended.
(2) (ii) Purchase and Sale Agreement by and among Rollins
Continental, Inc. et al. dated April 28, 2004.
(3) (i) Restated Certificate of Incorporation of Rollins, Inc. is
incorporated herein by reference to Exhibit (3) (i) as filed with
its Form 10-K for the year ended December 31, 1997.
(ii) Amended and Restated By-laws of Rollins, Inc. is incorporated
herein by reference to Exhibit (3) (ii) as filed with its Form
10-Q for the quarterly period ended March 31, 2004.
(4) Form of Common Stock Certificate of Rollins, Inc. is incorporated
herein by reference to Exhibit (4) as filed with its Form 10-K
for the year ended December 31, 1998.
(31.1) Certification of Chief Executive Officer Pursuant to Item
601(b)(31) of Regulation S-K, as adopted pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
(31.2) Certification of Chief Financial Officer Pursuant to Item
601(b)(31) of Regulation S-K, as adopted pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
(32.1) Certification of Chief Executive Officer and Chief Financial
Officer Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002.
18
(b) Reports on Form 8-K.
On April 28, 2004, the Company furnished a report on Form 8-K,
which reported under Items 7 and 9 financial results for its
first quarter ended March 31, 2004.
On April 28, 2004, the Company furnished a report on Form 8-K,
which reported under Items 7 and 9 that the Board of Directors on
April 27, 2004 declared a regular quarterly dividend of $0.06 per
share payable June 10, 2004 to stockholders of record at the
close of business May 10, 2004.
On May 5, 2004, the Company filed a report on Form 8-K, which
reported under Items 5 and 7 that on May 3, 2004, Rollins, Inc.
had completed its acquisition of Western Pest Services and
affiliates for a cash payment of approximately $110.0 million.
On May 17, 2004, the Company filed a report on Form 8-K, which
reported under Items 2 and 7 that on April 30, 2004, Rollins,
Inc. had acquired substantially all of the assets and assumed
certain liabilities of Western Pest Services.
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SIGNATURES
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 the
undersigned thereunto duly authorized.
ROLLINS, INC.
(Registrant)
Date: July 30, 2004 By: /s/ Gary W. Rollins
-------------------------------------------
Gary W. Rollins
Chief Executive Officer, President
and Chief Operating Officer
(Member of the Board of Directors)
Date: July 30, 2004 By: /s/ Harry J. Cynkus
-------------------------------------------
Harry J. Cynkus
Chief Financial Officer and Treasurer
(Principal Financial and Accounting
Officer)
20