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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
(Mark one)
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the fiscal year ended December 31, 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 No. 1-4422
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ROLLINS, INC.
(Exact name of registrant as specified in its charter)
Delaware 51-0068479
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
2170 Piedmont Road, N.E., Atlanta, Georgia 30324
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code:
(404) 888-2000 Securities registered pursuant to Section 12(b) of the Act:
Name of each
Title of each class Exchange on which registered
Common Stock, $1 Par Value The New York Stock Exchange
Securities registered pursuant to section 12(g) of the Act: None.
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 if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. |X| Indicate by check mark whether the registrant is an accelerated
filer (as defined in Rule 12b-2 of the Act).
Yes |X| No |_|
The aggregate market value of Rollins, Inc. Common Stock held by non-affiliates
on June 30, 2004 was $445,083,408 based on the reported last sale price of
common stock on June 30, 2004, which is the last business day of the
registrant's most recently completed second fiscal quarter.
Rollins, Inc. had 68,354,307 shares of Common Stock outstanding as of February
21, 2005.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for the 2005 Annual Meeting of Stockholders of
Rollins, Inc. are incorporated by reference into Part III, Items 10-14.
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Rollins, Inc.
Form 10-K
For the Year Ended December 31, 2004
Table of Contents
Page
Part I
Item 1. Business. 11
Item 2. Properties. 17
Item 3. Legal Proceedings. 17
Item 4. Submission of Matters to a Vote of Security Holders. 18
Item 4.A. Executive Officers of the Registrant. 19
Part II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of
Equity Securities. 20
Item 6. Selected Financial Data. 21
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. 22
Item 7.A. Quantitative and Qualitative Disclosures about Market Risk. 30
Item 8. Financial Statements and Supplementary Data. 31
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures. 55
Item 9.A. Controls and Procedures. 55
Item 9.B. Other Information. 56
Part III
Item 10. Directors and Executive Officers of Registrant. 57
Item 11. Executive Compensation. 57
Item 12. Security Ownership of Certain Beneficial Owners and Management. 57
Item 13. Certain Relationships and Related Transactions. 57
Item 14. Principal Auditor Fees and Services. 57
Part IV
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K. 58
Signatures. 60
Schedule II. 62
Exhibit Index. 63
PART I
Rollins, Inc. (the "Company") was originally incorporated in 1948 under the
laws of the state of Delaware as Rollins Broadcasting, Inc.
The Company is a national service company with headquarters located in
Atlanta, Georgia, providing pest and termite control services to both
residential and commercial customers in North America. Services are performed
through a contract that specifies the pricing arrangement with the customer.
Orkin, Inc. ("Orkin"), a wholly owned subsidiary of the Company founded in
1901, is one of the world's largest pest and termite control companies. It
provides customized services from over 400 locations to approximately 1.6
million customers. Orkin serves customers in the United States, Canada and
Mexico, providing essential pest control services and protection against termite
damage, rodents and insects to homes and businesses, including hotels, food
service establishments, food manufacturers, retailers and transportation
companies. Orkin operates under the Orkin(R) and PCO Services, Inc.(R)
trademarks and the AcuridSM service mark. The Orkin(R) brand name makes Orkin
the most recognized pest and termite company in the country. The PCO Services
brand name provides similar brand recognition in Canada. The Company is the
largest pest control provider in Canada.
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. Since Western's founding in 1928, it
has been a leader in the pest control business and is recognized for quality
customer service. Western provides pest elimination services to over 130,000
customers from New York to Virginia with additional operations in Florida and
Georgia. Many of Western's locations complement Orkin's network, including their
strong commercial presence in the Northeast. A service niche in which Western is
particularly strong is healthcare facilities. Western is the sole vendor for the
New Jersey Hospital Association and provide services to over 400 nursing homes
and over 1,400 healthcare facilities. Western also provides commercial services
to the food processing industry, office buildings and restaurants.
The Company has only one reportable segment, its pest and termite control
business. Revenue, operating profit and identifiable assets for this segment,
which includes the United States, Canada and Mexico, are included in Item 8 of
this document, "Financial Statements and Supplementary Data" on pages 28 and 29.
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.
Orkin's "every other month" (EOM) service continues to attract new
customers, and we expect this business will likewise increase in popularity
during 2005. Currently, approximately 60% of Orkin's existing residential
customers are utilizing our EOM service and over 70% of our new customers have
opted for this service.
We are expanding regional call centers covering multiple branch locations
to improve leads sold and sales started more efficiently than single branch
efforts. Initial results suggest better capturing of inbound calls and increased
sales. We are carefully examining the progress of these Call Centers, however we
expect the majority of our leads will be handled through this network of Call
Centers next year. We are developing new ways to add customers which include
personalized mailers to new homeowners, outbound calls to cancelled accounts and
unsold leads, and offering multi service discounts for our existing termite and
pest control customers when buying the second service program.
In 2004, we emphasized selling by our technicians as a means for generating
incremental pest control business and are pleased with our progress. We have the
opportunity for improving and now have the monthly reporting in place to monitor
this program more closely.
11
In 2003, Orkin formed a Commercial Steering Committee (CSC) to review how
we conduct commercial business across the entire organization and to recommend
improvements. The CSC presented a course of action to the Executive Steering
Committee in June 2004 which outlined a plan to enhance and streamline our
business and better serve our commercial customers. Additionally, the CSC was
charged to coordinate the various initiatives which touch our commercial
business and to integrate them into a more efficient whole. To carry out their
charter provided by the Executive Steering Committee, the CSC established five
action teams to target key business processes, Sales, Product Packaging,
Customer Management, Service Delivery and Finance and Billing. These teams
designed related business processes to improve efficiency and made technology
requirement recommendations to support these new processes. The design phase of
the commercial project was completed at year end. An implementation team is now
in the process of being formed and IT projects for Customer reporting and
Routing and Scheduling are now being initiated.
Orkin's educational partnerships also provided new opportunities and
additional brand awareness, and our Company is especially proud of three
outstanding initiatives. First, our partnership with the National Science
Teachers Association (NSTA), a nationwide organization with over 50,000 members,
offers teachers the opportunity to have an Orkin Man visit their classroom to
teach children about the importance of insects in our environment. At NSTA's
national conference in April 2004, 956 teachers signed up for an Orkin Man
presentation and 4,000 Orkin pest identification posters were distributed as
teaching guides. Second, the O. Orkin Insect Zoo at the Smithsonian Museum of
Natural History in Washington D.C. welcomed more visitors than almost any
exhibit in the museum. Upgraded in 2003, the exhibit continues to educate
children and adults on the value of insects in their surroundings. And thirdly,
we have initiated a new collaboration alliance with the U.S. Centers for Disease
Control and Prevention (CDC) to develop educational projects that target
health-related risks. As we announced in July 2004, Orkin will co-develop
materials to help our pest management professionals provide more comprehensive
information to our customers and expand health-related information on Orkin's
website. For the next 12 months, we will also co-develop and distribute public
information regarding pests and the prevention of associated infectious
diseases.
Orkin's commercial pest control programs enable us to deliver customized
service to industries such as food processing and distribution, discount and
grocery retailers, fast food, healthcare and restaurants. As the nation's
largest commercial pest control provider, the Company services national chains
(primarily sold through the Orkin National Accounts department) as well as
locally-owned businesses. A primary goal of the Company is to grow national
account revenue at a pace that will enable us to further expand our market
share.
Orkin introduced the Gold Medal Protection program in the United States in
2003, which continues to attract new customers. This custom-designed pest
control service is targeted to specific high-end commercial customers primarily
in the food manufacturing and processing industry. The program provides a
comprehensive reporting system that meets federal and state regulatory
requirements. When a customer buys the Gold Medal program they are engaging
Orkin's quality assurance people, including professional entomologists,
sanitarians, food safety experts and commercial and industry specialists, to
meet the client's expectations. The pest control assurance program is improving
the service being provided to commercial customers and building stronger
relationships. The Company is also improving our handheld computer capabilities
to support these customers. The program also guarantees free retreatment if the
customer is not satisfied and Orkin commits to paying any regulatory penalties
as a result of a shortfall in our service. This was the first pest control
program of its kind in North America to receive ISO 9002 certification.
Research has shown that termites cause more damage to American structures
than fires and storms combined. Orkin offers a treatment customized to a home's
needs including inside, outside and within the foundation. Our directed liquid
and directed liquid plus bait programs have been developed in conjunction with
the entomology departments at leading universities. As a result, our approach to
treating for subterranean termites has become the standard adopted by most pest
control operators today.
In 2004, we began promoting our AutoPay customer purchase option, which
allows new customers to use their debit or credit card to pay for their service
automatically. We believe customers will increasingly utilize this convenient
option. We are also finding that this offer of convenience is appreciated, as we
have a better retention rate for the AutoPay customers.
12
As more people turn to the Internet to help manage their active lives, the
Orkin website (www.orkin.com) provides important online services while gaining
recognition for the Orkin brand. We believe that the Internet presents an
excellent opportunity for generating future growth for our company, and we are
just beginning to appreciate this potential and take advantage of it. In 2002,
Orkin received less than 100 leads from our company website; but by 2004, our
focus and investment in this area led to over 46,000 leads. Our "interactive
capability" means that customers can schedule their service online or ask a
technical question - any time of the day or night. Almost 2,000 customers or
prospects were visiting our website daily by year end.
The Global Positioning System ("GPS") technology, introduced four years
ago, has resulted in improved driver safety and service production. Now, newer
generation GPS units are installed that allow 24 / 7 monitoring and reporting of
speed, location, and seatbelt usage as well as allowing remote updating of
mapping software. This technology also details the route a service technician
takes rather than just noting stops. These units create reports that are easier
to read and allow data to be sent directly to a server. This equipment is being
utilized in all of our Orkin branches and we are optimistic that it will be a
building block to creating a comprehensive "routing and scheduling" system in
the future.
The dollar amount of service contracts and backlog orders as of the end of
the Company's 2004 and 2003 calendar years was up by 38% to approximately $43.1
million and $31.3 million, respectively. Backlog services and orders are usually
provided within the month following the month of receipt, except in the area of
prepaid pest control and bait monitoring services, which are usually provided
within twelve months of receipt. The Company does not have a material portion of
its business that may be subject to renegotiation of profits or termination of
contracts at the election of a governmental entity.
Orkin was recognized by Training magazine as one of the Top 100 companies
to excel in training and employee development for the third year in a row for
2004. The award is given to select companies that have created positive learning
environments for their workforce. Orkin attained further recognition in 2004 for
its training program by achieving first place honors for the BEST Award given by
the American Society for Training and Development. The Rollins Training Center,
located in Atlanta, was specifically referenced as evidence of the Company's
dedication to employee performance improvement. The Rollins Training Center has
a full-size house and several other real examples of building structures where
technicians can see the relationship between pests and home construction. They
can also practice performing pest treatments under the supervision of qualified
instructors. In the classrooms, technicians acquire guidance in customer
relations, pest problem solving and advanced technical skills through highly
interactive instructor-led training.
In 2004, we expanded our 27,000 square foot Atlanta training facility to
include a 13,000 square foot commercial training center. This new facility
includes a commercial kitchen, bakery, hotel room, hospital room, locker room,
pharmacy, restaurant, supermarket and warehouse space. We are confident that
this industry-specialized training will help ensure that commercial technicians
provide the best integrated pest management (IPM) service to their customers as
they learn how to both identify and correct potential pest problems before they
occur. Training in the commercial section began in August 2004, and the Company
anticipates that an increasing number of technicians will receive training
through our Atlanta commercial or residential centers during 2005.
Rollins' business development managers, working hand-in-hand with our
division vice presidents and regional managers, continue to add to the Company's
sales and marketing program success. As a result of improvement in lead
generation and increased sales, sales employee retention has improved in our
branches across the country.
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
49 Company franchises at the end of 2004 compared to 44 at the end of 2003.
Subsequently, the Company opened two more franchises on January 1, 2005 to
expand our total to 51 franchises.
13
Seasonality
The business of the Company is affected by the seasonal nature of the
Company's pest and termite control services. The increase in pest pressure and
activity, as well as the metamorphosis of termites in the spring and summer (the
occurrence of which is determined by the timing of the change in seasons), has
historically resulted in an increase in the revenue of the Company's pest and
termite control operations during such periods as evidenced by the following
chart. In addition, revenues were favorably impacted in 2004 after the
acquisition of Western Pest Services on April 30, 2004.
Total Net Revenues
-----------------------------------
2004 2003 2002
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First Quarter $160,416* $155,122 $153,302
Second Quarter 202,725* 185,105 184,189
Third Quarter 203,925* 178,262 174,063
Fourth Quarter 183,818 158,524 153,871
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* Restated for change in accounting principle.
Inventories
The Company has relationships with multiple vendors for pest and termite
control treatment products and maintains a sufficient level of chemicals,
materials and other supplies to fulfill its immediate servicing needs and to
alleviate any potential short-term shortage in availability from its national
network of suppliers.
In early August 2004, the Company signed an agreement with Univar USA
whereby Univar will provide warehouse, logistical and delivery services for
Orkin's branches throughout the United States. Univar had been successfully
supplying Orkin's Pacific Division and the Western Commercial Region for the
past year. This arrangement enables the Company to concentrate even more on its
core pest and termite control business. It will speed up the delivery of
products to all branches, which will result in an improved service support while
lowering branch inventories and freight costs.
As part of the agreement with Univar, Univar also acquired certain assets
of Dettelbach Pesticide Corp, a wholly owned subsidiary of Orkin. Dettelbach, a
southeastern pest control materials distributor, offered insecticides,
termiticides, and equipment to pest control professionals and previously
contributed approximately $3.0 million in annual revenue to the Company.
Competition
The Company believes that Rollins, through Orkin and Western Pest Services,
competes favorably with competitors as one of the world's largest pest and
termite control companies, including Terminix and Ecolab.
The principal methods of competition in the Company's pest and termite
control business are quality of service and guarantees, including the money-back
guarantee on pest and termite control, and the termite retreatment and damage
repair guarantee to qualified homeowners.
Research and Development
Expenditures by the Company on research activities relating to the
development of new products or services are not significant. Some of the new and
improved service methods and products are researched, developed and produced by
unaffiliated universities and companies. Also, a portion of these methods and
products are produced to the specifications provided by the Company.
Some of the more recent studies that have been conducted on behalf of the
Company include studies on fly pathogens, ant pathogens, and other pests found
in the food-processing environment by the University of Florida. The Company
maintains a close relationship with several universities for research and
validation of treatment procedures and material selection.
14
The Company also conducts tests of new products with the specific
manufacturers of such products. These include a new proprietary mousetrap and a
biological foaming agent for commercial drain cleaning. The Company also works
closely with industry consultants to improve service and establish new and
innovative methods and procedures.
Environmental and Regulatory Considerations
The Company's Pest Control business is subject to various legislative and
regulatory enactments that are designed to protect the environment, public
health and consumer protection. Compliance with these requirements has not had a
material negative effect on the Company's financial position, results of
operations or liquidity.
Federal Insecticide Fungicide and Rodentcide Act ("FIFRA")
This federal law (as amended) grants the responsibility of the states to be
the primary agent in enforcement and conditions under which pest control
companies operate. Each state must meet certain guidelines of the Environmental
Protection Agency in regulating the following: licensing, record keeping,
contracts, standards of application, training and registration of products. This
allows each state to institute certain features that set their regulatory
programs in keeping with special interests of the citizens' wishes in each
state. The pest control industry is impacted by these federal and state
regulations.
Food Quality Protection Act of 1996 ("FQPA")
The FQPA governs the manufacture, labeling, handling and use of pesticides
and does not have a direct impact on how we conduct our business.
Environmental Remediation
The Comprehensive Environmental Response, Compensation and Liability Act
("CERCLA"), also known as Superfund, is the primary Federal statute regulating
the cleanup of inactive hazardous substance sites and imposing liability for
cleanup on the responsible parties. Responsibilities governed by this statute
include the management of hazardous substances, reporting releases of hazardous
substances, and establishing the necessary contracts and agreements to conduct
cleanup. Customarily, the parties involved will work with the EPA and under the
direction of the responsible state agency to agree and implement a plan for site
remediation.
Employees
The number of persons employed by the Company as of February 28, 2005 was
approximately 7,800 compared to 7,200 at December 31, 2003. This increase in the
number of employees was due to the addition of approximately 700 employees from
the Western Pest acquisition. This increase in employees was partially offset by
the continued transition to every-other-month pest control service, which has
resulted in the need for fewer technicians along with other organizational
changes, such as the move to regional call centers.
Recent Developments
The Board of Directors, at its quarterly meeting on January 25, 2005,
authorized a three-for-two stock split by the issuance on March 10, 2005 of one
additional common share for each two common shares held of record on February
10, 2005. Accordingly, the par value for additional shares issued will be
adjusted to common stock, and fractional shares resulting from the stock split
will be settled in cash. All share and per share data appearing throughout this
Form 10-K have been retroactively adjusted for this split.
Also, at the same meeting, the Board of Directors authorized a 25% increase
in the Company's quarterly dividend. The increased regular quarterly dividend of
$0.05 per share, as adjusted for the stock split, will be payable March 10, 2005
to stockholders of record at the close of business February 10, 2005. The
Company's new annual dividend rate is $0.20 per share as adjusted for the stock
split.
15
Available Information
Our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current
Reports on Form 8-K and amendments to these reports, are available free of
charge on our web site at www.rollins.com as soon as reasonably practicable
after those reports are electronically filed with or furnished to the Securities
and Exchange Commission.
Risk Factors
We may not be able to compete in the competitive and technical pest control
industry in the future.
We operate in a highly competitive industry. Our revenues and earnings may
be affected by the following factors: changes in competitive prices, weather
related issues, general economic issues and governmental regulation. We compete
with other large pest control companies, as well as numerous smaller pest
control companies for a finite number of customers. We believe that the
principal competitive factors in the market areas that we serve are product and
service quality and availability, reputation for safety, technical proficiency
and price. Although we believe that our experience and reputation for safety and
quality service is excellent, we cannot assure that we will be able to maintain
our competitive position.
We may not be able to identify, complete or successfully consolidate
acquisitions.
Acquisitions have been and will continue to be an important element of our
business strategy. We cannot assure that we will be able to identify and acquire
acceptable acquisition candidates on terms favorable to us in the future. We
cannot assure that we will be able to consolidate successfully the operations
and assets of any acquired business with our own business. Any inability on our
part to consolidate and manage the growth from acquired businesses could have a
material adverse effect on our results of operations and financial condition.
Our operations are affected by adverse weather conditions.
Our operations are directly affected by the weather conditions across the
United States and Canada. The business of the Company is affected by the
seasonal nature of the Company's pest and termite control services. The increase
in pest pressure and activity, as well as the metamorphosis of termites in the
spring and summer (the occurrence of which is determined by the timing of the
change in seasons), has historically resulted in an increase in the revenue and
income of the Company's pest and termite control operations during such periods.
Our inability to attract and retain skilled workers may impair growth potential
and profitability.
Our ability to remain productive and profitable will depend substantially
on our ability to attract and retain skilled workers. Our ability to expand our
operations is in part impacted by our ability to increase our labor force. The
demand for skilled employees is high, and the supply is very limited. A
significant increase in the wages paid by competing employers could result in a
reduction in our skilled labor force, increases in the wage rates paid by us, or
both. If either of these events occurred, our capacity and profitability could
be diminished, and our growth potential could be impaired.
Our operations could be affected by pending and ongoing litigation.
In the normal course of business, Orkin is a defendant in a number of
lawsuits, including Butland et al. v. Orkin Exterminating Company, Inc. et al.
pending in the Circuit Court of Hillsborough County, Tampa, Florida which
alleges that plaintiffs have been damaged as a result of the rendering of
services by Orkin personnel and equipment. Orkin is actively contesting these
actions. Some 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. Additionally, arbitration has been filed in Jacksonville, Florida, by
Cynthia Garrett against Orkin (Cynthia Garrett v. Orkin, Inc.) in which the
plaintiff is seeking certification of a class. The Company believes these
matters to be without merit and intends to vigorously contest certification and
defend itself through trial or arbitration, 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.
16
Our operations may be adversely affected if we are unable to comply with
regulatory and environmental laws.
Our business is significantly affected by environmental laws and other
regulations relating to the pest control industry and by changes in such laws
and the level of enforcement of such laws. We are unable to predict the level of
enforcement of existing laws and regulations, how such laws and regulations may
be interpreted by enforcement agencies or court rulings, or whether additional
laws and regulations will be adopted. We believe our present operations
substantially comply with applicable federal and state environmental laws and
regulations. We also believe that compliance with such laws has had no material
adverse effect on our operations to date. However, such environmental laws are
changed frequently. We are unable to predict whether environmental laws will, in
the future, materially affect our operations and financial condition. Penalties
for noncompliance with these laws may include cancellation of licenses, fines,
and other corrective actions, which would negatively affect our future financial
results.
Item 2. Properties.
The Company's administrative headquarters are owned by the Company, and are
located at 2170 Piedmont Road, N.E., Atlanta, Georgia 30324. The Company owns or
leases several hundred branch offices and operating facilities used in its
business as well as the Rollins Training Center located in Atlanta, Georgia.
None of the branch offices, individually considered, represents a materially
important physical property of the Company. The facilities are suitable and
adequate to meet the current and reasonably anticipated future needs of the
Company. The Company acquired and now owns 15 new branch locations as part of
the Western acquisition, as well as 13 that are leased.
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 $0.11 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 small portion of
the proceeds. The real estate was under a lease agreement with annual rentals of
$131,939 that would have 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. In
addition, the Company on October 22, 2004 purchased real estate located at 2158
Piedmont Road, N.E., Atlanta, Georgia 30324, adjacent to the Company's
headquarters, from LOR, Inc. for $4.6 million. 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 sold an additional piece of real estate in Sussex County,
Delaware to LOR, Inc. or an entity wholly owned by LOR, Inc. for $10.6 million
in cash. The transaction took place on December 29, 2004 and resulted in a $6.3
million gain, net of costs and after taxes.
Item 3. Legal Proceedings.
Orkin, one of the Company's subsidiaries, is 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. In December the
Court issued a new ruling certifying the class action. Orkin intends to appeal
this new ruling to the Florida Second District Court of Appeals. 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.
17
Orkin was also a named defendant in Helen Cutler and Mary Lewin v. Orkin
Exterminating Company, Inc. et al. in the District Court of Houston County,
Alabama. The plaintiffs in the above mentioned case filed suit in March of 1996
and were seeking monetary damages and injunctive relief for alleged breach of
contract arising out of alleged missed or inadequate reinspections. The parties
settled this matter and it is now concluded. In the opinion of Management, the
ultimate resolution of this action did 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,
results of operations or liquidity.
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. Some 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. An arbitration has also been filed in Jacksonville, Florida,
by Cynthia Garrett against Orkin (Cynthia Garrett v. Orkin, Inc.) in which the
plaintiff is seeking certification of a class. The Company believes these
matters to be without merit and intends to vigorously contest certification and
defend itself through trial or arbitration, 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.
Item 4. Submission of Matters to a Vote of Security Holders.
There were no matters submitted to a vote of security holders, through the
solicitation of proxies or otherwise, during the fourth quarter of 2004.
18
Item 4.A. Executive Officers of the Registrant.
Each of the executive officers of the Company was elected by the Board of
Directors to serve until the Board of Directors' meeting immediately following
the next Annual Meeting of Stockholders or until his earlier removal by the
Board of Directors or his resignation. The following table lists the executive
officers of the Company and their ages, offices with the Company, and the dates
from which they have continually served in their present offices with the
Company.
Name Age Office with Registrant Date First Elected
to Present Office
------------------------------------------------------------------------------------------------------------------
R. Randall Rollins (1) 73 Chairman of the Board 10/22/91
Gary W. Rollins (1) (2) 60 Chief Executive Officer, President and 7/24/01
Chief Operating Officer
Michael W. Knottek (3) 60 Senior Vice President and Secretary 4/23/02
Harry J. Cynkus (4) 55 Chief Financial Officer and Treasurer 5/28/98
Glen W. Rollins (5) 38 Vice President 4/23/02
- --------------
(1) R. Randall Rollins and Gary W. Rollins are brothers.
(2) Gary W. Rollins was elected to the office of President and Chief Operating
Officer in January 1984. He was elected to the additional office of Chief
Executive Officer in July 2001. In February 2004, he was named Chairman of
Orkin, Inc.
(3) Michael W. Knottek joined the Company in June 1997 as Vice President and,
in addition, was elected Secretary in May 1998. He became Senior Vice
President in April of 2002. From 1992 to 1997, Mr. Knottek held a variety
of executive management positions with National Linen Service, including
Senior Vice President of Finance and Administration and Chief Financial
Officer. Prior to 1992, he held a variety of senior positions with Initial
USA, finally serving as President from 1991 to 1992.
(4) Harry J. Cynkus joined the Company in April 1998 and, in May 1998, was
elected Chief Financial Officer and Treasurer. From 1996 to 1998, Mr.
Cynkus served as Chief Financial Officer of Mayer Electric Company, a
wholesaler of electrical supplies. From 1994 to 1996, he served as Vice
President - Information Systems for Brach & Brock Confections, the acquirer
of Brock Candy Company, where Mr. Cynkus served as Vice President - Finance
and Chief Financial Officer from 1992 to 1994. From 1989 to 1992, he served
as Vice President - Finance of Initial USA, a division of an international
support services company. Mr. Cynkus is a Certified Public Accountant.
(5) Glen W. Rollins is the son of Gary W. Rollins. He joined the Company in
1989 and has held a variety of field management and staff positions within
the organization. He was elected Executive Vice President of Orkin, Inc. in
June 2001. In April 2002, he was named Vice President of Rollins, Inc. In
February 2004, he was named President and Chief Operating Officer of Orkin,
Inc.
19
PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and
Issuer Purchases of Equity Securities.
The Common Stock of the Company is listed on the New York and is traded on
the Philadelphia, Chicago and Boston Exchanges under the symbol ROL. The high
and low prices of the Company's common stock and dividends paid for each quarter
in the years ended December 31, 2004 and 2003 (all prices were adjusted for the
stock split effective March 10, 2005) were as follows:
STOCK PRICES AND DIVIDENDS
Rounded to the nearest $.01
Stock Price Dividends Stock Price Dividends
----------------------- Paid ------------------------- Paid
2004 High Low Per Share 2003 High Low Per Share
---------------------------------------------------- -------------------------------------------------------
First Quarter $17.67 $14.83 $.04 First Quarter $15.93 $11.38 $.03
Second Quarter 18.07 14.07 .04 Second Quarter 16.60 12.14 .03
Third Quarter 16.66 14.56 .04 Third Quarter 13.15 10.91 .03
Fourth Quarter 18.30 15.96 .04 Fourth Quarter 15.65 11.87 .03
------------------------------------------------------------------------------------------------------------
<FN>
The number of stockholders of record as of February 21, 2005 was 1,731.
</FN>
Issuer Purchases Of Equity Securities
Total Number of
Shares Purchased as Maximum Number of
Total Number Part of Publicly Shares that May Yet
of Shares Average Price Announced Be Purchased Under
Month Purchased (1) Paid per Share Repurchase Plan the Repurchase Plan
- ------------------------- ---------------- ----------------- --------------------- -----------------------
October 2004 7,139 $17.56 0 974,526
November 2004 18,102 $17.39 0 974,526
December 2004 15,582 $17.33 57,000 917,526
================ ================= ===================== =======================
Total 40,823 $17.39 57,000 917,526
<FN>
(1) All repurchases shown are repurchases in connection with exercise of
employee stock options.
</FN>
- ----------------------------------------------------------------------------------------------------------------------
20
Item 6. Selected Financial Data.
The following summary financial data of Rollins highlights selected
financial data and should be read in conjunction with the financial statements
included elsewhere in this document.
FIVE-YEAR FINANCIAL SUMMARY
Rollins, Inc. and Subsidiaries
All earnings per share and dividends per share have been restated for 2002, 2001
and 2000 for the three-for-two stock split effective March 10, 2003 for all
shares held on February 10, 2003 and all shares have been restated for the
three-for-two stock split effective March 10, 2005.
- ----------------------------------------------------------------------------------------------------------------
Years Ended December 31,
------------------------------------------------------------
(in thousands except per share data) 2004 2003 2002 2001 2000
- ----------------------------------------------------------------------------------------------------------------
OPERATIONS SUMMARY
Revenues $750,884 $677,013 $665,425 $649,925 $646,878
Income Before Income Taxes 98,712 60,030 43,726 27,326 15,403
Income before cumulative effect of a change in
accounting principles 58,259 35,761 27,110 16,942 9,550
Cumulative effect on prior years of changing to
a different revenue and cost recognition method (6,204) --- --- --- ---
---------------------------------------------------------------
Net Income $ 52,055 $ 35,761 $ 27,110 $ 16,942 $ 9,550
Income Per Share--Basic:
Income before change in accounting principle 0.85 0.53 0.40 0.25 0.14
Cumulative effect of change in accounting
principle (0.09) --- --- --- ---
---------------------------------------------------------------
Net Income 0.76 0.53 0.40 0.25 0.14
Income Per Share--Diluted:
Income before change in accounting principle 0.83 0.51 0.40 0.25 0.14
Cumulative effect of change in accounting
principle (0.09) --- --- --- ---
---------------------------------------------------------------
Net Income $ 0.74 $ 0.51 $ 0.40 $ 0.25 $ 0.14
Pro forma amounts assuming the new accounting
method is applied retroactively
---------------------------------------------------------------
Net Income $ 58,259 $ 38,019 $ * $ * $ *
Income per share - Basic $ .85 $ 0.56 $ * $ * $ *
Income per share - Diluted $ .83 $ 0.55 $ * $ * $ *
Dividends per Share $ 0.16 $ 0.13 $ 0.09 $ 0.09 $ 0.09
- ----------------------------------------------------------------------------------------------------------------
<FN>
*The pro forma amounts for periods prior to 2003 are not determinable as the
newly adopted accounting method requires discrete information on claims
outstanding and certain other post-contract liabilities that is not available.
</FN>
21
- ----------------------------------------------------------------------------------------------------------------
FINANCIAL POSITION
At December 31,
------------------------------------------------------------
2004 2003 2002 2001 2000
------------------------------------------------------------
Total Assets $418,780 $349,904 $318,338 $296,559 $298,819
Noncurrent Capital Lease Obligations -- -- -- -- 256
Long-Term Debt 1,700 1,734 2,913 4,895 4,656
Stockholders' Equity $167,549 $138,774 $ 90,690 $ 85,498 $ 78,599
Number of Shares Outstanding at Year-End 68,504 67,735 67,199 67,658 67,581
- ----------------------------------------------------------------------------------------------------------------
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
RESULTS OF OPERATIONS
% Better/(Worse) as
Years Ended December 31, Compared to Prior Year
--------------------------------------------------------------
(in thousands) 2004 2003 2002 2004 2003
- ------------------------------------------------------------------------------------------------------------------
Revenues $750,884 $677,013 $665,425 10.9% 1.7%
Cost of Services Provided 395,334 362,422 361,318 (9.1) (0.3)
Depreciation and Amortization 23,034 20,179 21,635 (14.1) 6.7
Sales, General and Administrative 258,893 236,514 238,180 (9.5) 0.7
(Gain)/Loss on Sale of Assets (24,716) (1,700) 762 N/M N/M
Interest Income (373) (432) (196) (13.7) 120.4
--------------------------------------------------------------
Income Before Income Taxes 98,712 60,030 43,726 64.4 37.3
Provision for Income Taxes 40,453 24,269 16,616 (66.7) (46.1)
Cumulative Effect of a Change in Accounting
Principle (6,204) --- --- N/M N/M
- ------------------------------------------------------------------------------------------------------------------
Net Income $52,055 $35,761 $27,110 45.6% 31.9%
- ------------------------------------------------------------------------------------------------------------------
General Operating Comments
The Company's addition of Western Pest Services, along with continued
emphasis on customer retention and building recurring revenues, was the primary
driver of revenue growth of 16.0% in the fourth quarter and 10.9% for the year
ended December 31, 2004 as compared to the prior year periods, despite severe
weather from four hurricanes in Florida and other parts of the country in 2004.
The financial results for the fourth quarter and the twelve months ended
December 31, 2004 were positively impacted by the continued benefit of our
every-other-month residential pest control service, which was 80.8% of all new
residential sales in the fourth quarter, Gold Medal premium commercial pest
control services, and termite directed liquid and baiting treatment.
For the fourth quarter of 2004, the Company had net income of $13.9 million
compared to net income of $4.8 million in the fourth quarter of 2003, which
represents a 187.4% increase. In addition to the revenue increase of 16.0%, the
Company achieved margin improvement in Cost of Services Provided of 0.4
percentage points and Sales, General and Administrative Expenses of 1.4
percentage points, expressed as a percentage of revenues. In addition, the
effective income tax rate was 38.7% in the fourth quarter of 2004 as compared to
52.4% in fourth quarter of 2003.
22
For the year ended December 31, 2004, the Company had income before the
change in accounting principle of $58.3 million compared to net income of $35.8
million in 2003, which represents a 62.9% increase. In addition to the revenue
increase of 10.9%, the Company achieved margin improvements, expressed as a
percentage of revenues, in Cost of Services Provided of 0.9 percentage points
and in Sales, General and Administrative of 0.4 percentage points.
For the year ended December 31, 2004, the Company's cash, short-term
investments and marketable securities declined by $24.7 million, mainly due to
the $110 million cash purchase of Western Pest Services in April 2004. The
Company had total Cash and Short-Term Investments of $56.7 million as of
December 31, 2004, a 30.3% decrease from December 31, 2003.
The Company began its Orkin franchise program in the U.S. in 1994, and
established its first international franchise in Mexico in 2000 and its second
international franchise in Panama in 2003. At December 31, 2004, Orkin had 49
franchises in total as compared to 44 as of December 31, 2003. Subsequently, the
Company opened two more franchises on January 1, 2005 to expand our total to 51
franchises.
Results of Operations--2004 Versus 2003
Revenues for the year ended December 31, 2004 were $750.9 million, an
increase of $73.9 million or 10.9% from last year's revenues of $677.0 million.
The Company's acquisition of Western Pest Services increased Revenue by $49.0
million for the year. The Company's historical business prior to the acquisition
of Western Pest was $701.4 million for the year, a $23.4 million increase or
3.5% compared to 2003. The Company's historical business information is included
for core business comparisons to the prior year. The Company's Commercial
revenue growth increased 18%, due primarily to the acquisition of Western Pest
Services, better customer retention in Orkin's U.S. operations, and strong
growth in its Canadian business operations. The Company's commercial pest
control division continued to receive favorable reaction to the rollout of its
premium Gold Medal service, which specifically targets food processing and
manufacturing companies. Residential pest control revenues rose by 9.4% in 2004,
helped by the Western acquisition as well growth in the customer base, 4.8%
growth in units sold, better average selling prices, continued improvements in
customer retention, and successful price increase campaigns in Orkin's
operations. Every-other-month service, our primary residential pest control
service offering, continues to grow in importance, comprising over 60% of our
residential pest control customer base at December 31, 2004.
Termite revenues increased by 3.4% for the year ended December 31, 2004
primarily due to the addition of Western Pest Services. Orkin's termite revenues
declined slightly due to loss in customer base from the expiration of fixed-term
contracts and lower unit sales, partially offset by slightly higher average
selling prices.
The Company's foreign operations accounted for approximately 6.5% of total
revenues for the year ended December 31, 2004 as compared to 6.3% in 2003.
The business of the Company is affected by the seasonal nature of the
Company's pest and termite control services. In addition, revenues were
favorably impacted in 2004 after the acquisition of Western Pest Services on
April 30, 2004.
Cost of Services Provided for the year ended December 31, 2004 increased
$32.9 million or 9.1%, although the expense margin expressed as a percentage of
revenues improved by 0.9 percentage points, representing 52.6% of revenues for
the year ended December 31, 2004 compared to 53.5% of revenues in the prior
year. The dollar increase was mainly due to the addition of Western Pest
Services, which accounted for $30.2 million of the total, as well as increases
in service salaries, fleet expenses due to higher fuel costs, and fringe benefit
costs due to higher group medical insurance and pension costs, partially offset
by improvements in insurance and claims costs. Service technician productivity
and average pay continued to improve, which leads to better employee retention
and, in Management's opinion, improved customer retention.
Sales, General and Administrative for the year ended December 31, 2004
increased $22.4 million or 9.5% while improving as a percentage of revenues by
0.4 percentage points, averaging 34.5% of total revenues compared to 34.9% for
the prior year. The increase for the year was primarily a result of the
acquisition of Western Pest Services, which was $16.4 million, as well as
increases in administrative salaries, fringe benefits, fleet costs, travel,
advertising and promotions, bad debts and maintenance and repairs and other
expenses.
23
Depreciation and Amortization expenses for the year ended December 31, 2004
were $23.0 million or 14.1% higher than the prior year. The increase was due to
the acquisition of Western Pest Services, which accounted for $4.5 million while
depreciation decreased in other areas as assets continue to become fully
depreciated and amortized at a faster rate than new capital expenditures. The
Company had approximately $14.2 million in capital expenditures during the year
ended December 31, 2004 compared to $10.6 million in 2003.
In addition, the Company realized a net gain of $24.7 million, before
income taxes, from the sale or disposal of assets for the year ended December
31, 2004, as compared to $1.7 million for the year ended December 31, 2003.
The Company's effective tax rate was 40.5% for the first quarter of 2004,
42.7% for the second quarter, 40.5% for the third quarter, and 38.7% for the
fourth quarter. As a result, the effective tax rate for the year increased to
41.0%, as compared to 40.4% in 2003.
Results of Operations--2003 Versus 2002
Revenues for the year ended December 31, 2003 were $677.0 million, an
increase of $11.6 million or 1.7% from the prior year's revenues of $665.4
million. The Company's revenue growth was very similar across its primary
services, which are residential pest control, commercial pest control, and
termite service. The growth in pest control revenues for the year reflected
growth in the customer base, better average selling prices, continued
improvements in customer retention, and successful price increase campaigns.
Every-other-month service, our primary residential pest control service
offering, continued to grow in importance, comprising 55% of our residential
pest control customer base at December 31, 2003. In commercial pest control, the
Company continued to receive favorable reaction to the rollout of its premium
Gold Medal service, which specifically targets food processing and manufacturing
companies, and also achieved improvements in average prices on new sales and
successful price increases from existing customers. In the summer of 2003, Orkin
began test marketing a mosquito control program in the northern United States
and Canada. While working to address the threat of mosquito-borne diseases in
the U.S., a highly successful West Nile virus preventative program was also
implemented in Ontario, Canada. Two provinces were provided thousands of
larvicide treatments to mosquito breeding grounds reducing the population of
adult mosquitoes and their eggs. The Company expanded the mosquito control
program in Canada and other U.S. markets in the spring of 2004. As another sign
of strengthening in the commercial market, the Company achieved a monthly record
high of sales to national accounts in September 2003.
Termite revenues increased in the fourth quarter as a result of higher new
job completions and continued growth in recurring revenues from bait monitoring
and renewal revenues, although termite revenues for the twelve months ended
December 31, 2003 decreased slightly, mainly as a result of the unusually wet
and cold weather in parts of the U.S. in the first half of 2003. Per the
National Climatic Data Center's 109 years of tracking weather data, temperatures
in the Northeast Region of the country were the 10th coldest on record, and the
Southeast experienced the second wettest six month period on record. The
Company's foreign operations accounted for approximately 6.3% of total revenues
for the year ended December 31, 2003.
Cost of Services Provided for the year ended December 31, 2003 increased
$1.1 million or 0.3%, although the expense margin expressed as a percentage of
revenues improved by 0.8 percentage points, representing 53.5% of revenues for
the year ended December 31, 2003 compared to 54.3% of revenues in the prior
year. The dollar increase was mainly due to an increase in fleet expenses, as a
result of higher fuel costs and a temporary spike in vehicle counts in the first
quarter as the Company transitioned to a new fleet agreement, and an increase in
fringe benefit costs due to higher pension and group medical costs, partially
offset by improvements in service salaries, administrative salaries, and
materials and supplies. Service technician productivity and average pay
continued to improve, which leads to better employee retention and, in
Management's opinion, improved customer retention.
Sales, General and Administrative for the year ended December 31, 2003
decreased $1.7 million or 0.7% and, as a percentage of revenues, improved by 0.9
percentage points or 2.5%, averaging 34.9% of total revenues compared to 35.8%
for the prior year. The improvement for the year was a result of the home office
process improvement initiative started in 2002, lower field administrative costs
as a result of technology and organizational investments, lower sales payroll
due to lower staffing and partly from the formation of in-bound call centers,
and lower bad debt expenses due to better collections and improvement in the
receivables aging statistics. These were partially offset by higher fringe
benefit costs, advertising, and an increase in the summer sales program costs.
24
Depreciation and Amortization expenses for the year ended December 31, 2003
were $1.5 million or 6.7% lower than the prior year. The decrease was due to
certain technology assets becoming fully depreciated in of 2003. The Company had
approximately $10.6 million in capital expenditures during the year ended
December 31, 2003 compared to $10.4 million in 2002.
In addition, the Company realized a net gain of $1.7 million from the sale
or disposal of assets in the fourth quarter of 2003.
The Company's effective tax rate was 38.0% for the periods prior to the
fourth quarter of 2003. The effective tax rate was increased to 40.4% in 2003 to
reflect an increase in the effective state income tax rate for the year, as well
as "true up" adjustments in the fourth quarter of approximately $1.1 million. As
a result, the effective tax rate for the fourth quarter increased to 52.4%.
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 $0.11 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 small portion of
the proceeds. The real estate was under a lease agreement with annual rentals of
$131,939 that would have 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. In
addition, the Company on October 22, 2004 purchased real estate located at 2158
Piedmont Road, N.E., Atlanta, Georgia 30324, adjacent to the Company's
headquarters, from LOR, Inc. for $4.6 million. 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 sold an additional piece of real estate in Sussex County,
Delaware to LOR, Inc. or an entity wholly owned by LOR, Inc. for $10.6 million
in cash. The transaction took place on December 29, 2004 and resulted in a $6.3
million gain, net of costs and after taxes.
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 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 claims representing the estimated costs of reapplications, repairs
and associated labor and chemicals, settlements, awards and other costs
relative to termite control services. 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 precisely 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 and baiting
program, more effective termiticides, and expanding training.
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
25
changes in business practices and existing claims compared to current
balances. The reserve is established based on all these factors. Due to the
uncertainty associated with the estimation of future loss and expense
payments and inherent limitations of the data, actual developments may vary
from the Company's projections. This is particularly true since critical
assumptions regarding the parameters used to develop reserve estimates are
largely based upon judgment. Therefore, changes in estimates may be
sufficiently material. 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. 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.
Prior to 2004, traditional termite treatments were recognized as
revenue at the renewal date and an accrual was established for estimated
costs of reapplications and repairs to be incurred. Under the newly adopted
accounting method, the revenue received is deferred and recognized on a
straight-line basis over the remaining contract term; and, the cost of
reinspections, reapplications and repairs and associated labor and
chemicals are expensed as incurred. For outstanding claims, an estimate is
made of the costs to be incurred (including legal costs) based upon current
factors and historical information. The performance of reinspections tends
to be close to the contract renewal date and, while reapplications and
repairs involve an insubstantial number of the contracts, these costs are
incurred over the contract term. The newly adopted accounting principle
eliminates the need to obtain actuarial estimates of the claim costs to be
incurred and management's estimates of reapplication costs. Also,
management believes the newly adopted accounting method more closely
conforms to the current pattern under which revenues are earned and
expenses are incurred, and conforms the accounting methodology of Orkin and
its recently acquired subsidiary, Western Pest Services. The costs of
providing termite services upon renewal are compared to the expected
revenue to be received and a provision is made for any expected losses.
Due to this change, the Company recorded a cumulative adjustment of
$6.2 million (net of income taxes). As the revenue is being deferred, the
future cost of reinspections, reapplications and repairs and associated
labor and chemicals applicable to the deferred revenue are expensed as
incurred and no longer accrued. The Company will continue to accrue for
noticed claims.
26
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 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.
Stock-Based Compensation-- In December 2004, the FASB issued SFAS No. 123
(revised 2004), "Share-Based Payment" ("SFAS 123R"), which replaces SFAS
No. 123, "Accounting for Stock-Based Compensation," ("SFAS 123") and
supercedes APB Opinion No. 25, "Accounting for Stock Issued to Employees."
SFAS 123R requires all share-based payments to employees, including grants
of employee stock options, to be recognized in the financial statements
based on their fair values beginning with the first interim or annual
period after June 15, 2005, with early adoption encouraged. The pro forma
disclosures previously permitted under SFAS 123 no longer will be an
alternative to financial statement recognition. Rollins is required to
adopt SFAS 123R in the third quarter of fiscal 2005, beginning July 1,
2005. Under SFAS 123R, Rollins must determine the appropriate fair value
model to be used for valuing share-based payments, the amortization method
for compensation cost and the transition method to be used at date of
adoption. The transition methods include prospective and retroactive
adoption options. Under the retroactive option, prior periods may be
restated either as of the beginning of the year of adoption or for all
periods presented. The prospective method requires that compensation
expense be recorded for all unvested stock options and restricted stock at
the beginning of the first quarter of adoption of SFAS 123R, while the
retroactive methods would record compensation expense for all unvested
stock options and restricted stock beginning with the first period
restated. Rollins is evaluating the requirements of SFAS 123R and expects
that the adoption of SFAS 123R will not have a material impact on Rollins'
consolidated results of operations and earnings per share. Rollins has not
yet determined the method of adoption or the effect of adopting SFAS 123R,
and it has not determined whether the adoption will result in amounts that
are similar to the current pro forma disclosures under SFAS 123.
Liquidity and Capital Resources
Cash and Cash Flow
Years ended December 31,
----------------------------------------------
(in thousands) 2004 2003 2002
- -------------------------------------------------------------------------------------------------------------
Net Cash Provided by Operating Activities $ 71,927 $ 60,319 $ 53,694
Net Cash Used in Investing Activities (64,702) (32,306) (12,155)
Net Cash Used in Financing Activities (12,436) (7,306) (11,884)
Effect of Exchange Rate Changes on Cash 2,408 518 10
----------------------------------------------
Net Increase/(Decrease) in Cash and Short-Term Investments $ (2,803) $ 21,225 $ 29,665
- -------------------------------------------------------------------------------------------------------------
The Company believes its current cash balances, future cash flows from
operating activities and available borrowings under its $70.0 million line of
credit will be sufficient to finance its current operations and obligations, and
fund expansion of the business for the foreseeable future. The Company's
operations generated cash of $71.9 million for the year ended December 31, 2004,
compared with cash provided by operating activities of $60.3 million in 2003 and
$53.7 million in 2002.
The Company invested approximately $14.2 million in capital expenditures
during the year ended December 31, 2004. Capital expenditures for the year
consisted primarily of the purchase of property at 2158 Piedmont Road as well as
equipment replacements and upgrades and improvements to the Company's management
information systems. The Company expects to invest between $10.0 million and
$14.0 million in 2005 in capital expenditures. During the year, the Company made
several acquisitions totaling $98.1 million compared to $1.5 million during
2003. The acquisitions were funded primarily with cash from operations and a $15
million loan taken for the Western Pest acquisition. The $15 million was paid
within the same month from cash provided from operations. The Company continues
to seek new acquisitions and will also give consideration to any attractive
acquisition opportunities presented. A total of $10.9 million was paid in cash
dividends ($0.04 per share a quarter) during the
27
year, compared to $9.0 million or $0.03 per share a quarter during 2003. The
Company repurchased 57,000 shares of Common Stock in 2004 and there remain
917,526 shares authorized to be repurchased under prior Board authorization. The
Company maintains $70.0 million of credit facilities with commercial banks, of
which no borrowings were outstanding as of December 31, 2004 or February 15,
2005. The Company maintains approximately $34.5 million in Letters of Credit
which reduced its borrowing capacity under the credit facilities. These Letters
of Credit are required by the Company's fronting insurance companies and/or
certain states, due to the Company's self-funded status, to secure various
workers' compensation and casualty insurance contracts. These letters of credit
are established by the bank for the Company's fronting insurance companies as
collateral, although the Company believes that it has adequate liquid assets,
funding sources and insurance accruals to accommodate such claims.
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. Other lawsuits
against Orkin, and in some instances the Company, are also being vigorously
defended, including the Warren, Petsch, and Stevens cases and the Garrett
arbitration. For further discussion, see Note 7 to the accompanying financial
statements.
The Company made a contribution of $3.0 million to its defined benefit
retirement plan (the "Plan") during 2004 as a result of the Plan's funding
status. The Company believes that it will make contributions in the amount of
approximately $4.0 million to $6.0 million in 2005. 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.
The decline in the Accrual for Termite Contracts of $18.6 million or 42.3%
is reflective of the change in accounting principle as well as improvement in
the experience rate. The number of new termite claims declined for the sixth
year in a row and was 19.6% lower than 2003, which is a result of improved
treatment techniques, more effective termiticides, shorter-term guarantees and
quality assurance initiatives. For further discussion, see Note 6 to the
accompanying financial statements. Accrued Insurance decreased $1.4 million or
3.7% during the year as a result of improved experience rate, attributable to
the Company's proactive management of issues associated with self-insured risks.
Contractual Obligations
The impact that the Company's contractual obligations as of December 31,
2004 are expected to have on our liquidity and cash flow in future periods is as
follows:
Payments due by period
-----------------------------------------------------------
Less than More than
Contractual Obligations (in thousands) Total 1 year 1-3 years 3-5 years 5 years
--------------------------------------------------------------------------------------------------------
Long-Term Debt $ 470 $ 187 $ 225 $ 58 $ --
Non-cancelable operating leases 66,383 20,244 24,355 9,679 12,105
Acquisition notes payable 2,517 1,100 1,213 72 132
-----------------------------------------------------------
Total (1) $69,370 $21,531 $25,793 $9,809 $12,237
--------------------------------------------------------------------------------------------------------
<FN>
(1) Minimum pension funding requirements are not included as such amounts have
not been determined. The Company estimates that it will contribute
approximately $4.0 million to $6.0 million to the plan in fiscal 2005.
</FN>
Impact of Recent Accounting Pronouncements
In November 2002, the Emerging Issues Task Force issued EITF 00-21,
Revenue Arrangements with Multiple Deliverables, which is effective for revenue
arrangements entered into in fiscal periods beginning after June 15, 2003. The
Company adopted EITF 00-21 in the third quarter of 2003. This EITF addresses how
to account for arrangements that involve the delivery or performance of multiple
products, services, and/or rights to use assets. The Company's termite baiting
service involves multiple deliverables, consisting of an initial directed liquid
termiticide treatment, installation of termite monitoring stations, and
subsequent periodic monitoring inspections. The portion of the termite baiting
service sales price applicable to subsequent periodic monitoring inspections,
which is determined based on fair value, is deferred and recognized over the
first year of each contract. The portion of the sales price
28
applicable to the termiticide treatment and installation of the monitoring
services is determined under the residual method (the total sales price less the
fair value of the monitoring inspections). Revenues from the termiticide
treatment and installation of the termite monitoring stations are recognized
upon performance of the service and installation. The adoption of this EITF did
not have a significant effect on the Company's financial position, results of
operations or liquidity.
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 are 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. During 2003, the Company adopted FIN
46 with respect to variable interest entities created after January 31, 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.
In December 2004, the FASB issued SFAS No. 123 (revised 2004), "Share-Based
Payment" ("SFAS 123R"), which replaces SFAS No. 123, "Accounting for Stock-Based
Compensation," ("SFAS 123") and supercedes APB Opinion No. 25, "Accounting for
Stock Issued to Employees." SFAS 123R requires all share-based payments to
employees, including grants of employee stock options, to be recognized in the
financial statements based on their fair values beginning with the first interim
or annual period after June 15, 2005, with early adoption encouraged. The pro
forma disclosures previously permitted under SFAS 123 no longer will be an
alternative to financial statement recognition. Rollins is required to adopt
SFAS 123R in the third quarter of fiscal 2005, beginning July 1, 2005. Under
SFAS 123R, Rollins must determine the appropriate fair value model to be used
for valuing share-based payments, the amortization method for compensation cost
and the transition method to be used at date of adoption. The transition methods
include prospective and retroactive adoption options. Under the retroactive
option, prior periods may be restated either as of the beginning of the year of
adoption or for all periods presented. The prospective method requires that
compensation expense be recorded for all unvested stock options and restricted
stock at the beginning of the first quarter of adoption of SFAS 123R, while the
retroactive methods would record compensation expense for all unvested stock
options and restricted stock beginning with the first period restated. Rollins
is evaluating the requirements of SFAS 123R and expects that the adoption of
SFAS 123R will not have a material impact on Rollins' consolidated results of
operations and earnings per share. Rollins has not yet determined the method of
adoption or the effect of adopting SFAS 123R, and it has not determined whether
the adoption will result in amounts that are similar to the current pro forma
disclosures under SFAS 123.
Forward-Looking Statements
This Annual 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 impact of potential future
pension plan contributions, future contributions of Western, expected
contributions of the commercial business segment, and the outcome of litigation
arising in the ordinary course of business and the outcome of 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 2005 capital expenditures; the impact of recent accounting
pronouncements; the expected outcome of the growth of national account revenue.
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 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. 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.
29
Item 7A. Quantitative and Qualitative Disclosures about Market Risk.
Market Risk
As of December 31, 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 facility. Due to the absence of such
borrowings as of December 31, 2004, this risk was not significant in 2004 and is
not expected to have a material effect upon the Company's results of operations
or financial position going forward. However, the Company does maintain
approximately $34.5 million in Letters of Credit. 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.
30
Item 8. Financial Statements and Supplementary Data.
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
Rollins, Inc. and Subsidiaries
- -----------------------------------------------------------------------------------------------------------------
At December 31, (in thousands except share and per share data) 2004 2003
- -----------------------------------------------------------------------------------------------------------------
ASSETS
Cash and Short-Term Investments $ 56,737 $ 59,540
Marketable Securities -- 21,866
Trade Receivables, Short Term, Net of Allowance for Doubtful Accounts
of $4,032 and $3,729, respectively 45,469 39,380
Materials and Supplies 8,876 9,837
Deferred Income Taxes 28,355 23,243
Other Current Assets 7,368 7,414
------------------------
Total Current Assets 146,805 161,280
Equipment and Property, Net 49,163 35,836
Goodwill 121,532 72,498
Customer Contracts and Other Intangible Assets 73,938 30,333
Deferred Income Taxes 13,328 15,902
Trade Receivables, Long Term, Net of Allowance for Doubtful Accounts
of $1,076 and $887, respectively 9,755 9,091
Prepaid Pension --- 24,964
Other Assets 4,259 ---
------------------------
Total Assets $418,780 $349,904
------------------------
LIABILITIES
Accounts Payable $ 15,438 $ 12,290
Accrued Insurance 14,963 13,050
Accrued Compensation and Related Liabilities 38,453 31,019
Unearned Revenue 81,195 46,007
Accrual for Termite Contracts 11,992 21,500
Other Current Liabilities 25,939 21,156
------------------------
Total Current Liabilities 187,980 145,022
Accrued Insurance, Less Current Portion 22,667 26,024
Accrual for Termite Contracts, Less Current Portion 13,319 22,373
Accrued Pension 10,579 ---
Long-Term Accrued Liabilities 16,686 17,711
------------------------
Total Liabilities 251,231 211,130
------------------------
Commitments and Contingencies
31
STOCKHOLDERS' EQUITY
Common Stock, par value $1 per share; 99,500,000 shares authorized; 69,060,112 and
68,356,027 shares issued, respectively 69,060 68,356
Treasury Stock, at par value of $1 per share, 556,000 shares at December 31, 2004
and 621,000 shares at December 31, 2003 (556) (621)
Additional Paid-In Capital 10,659 4,408
Accumulated Other Comprehensive Loss (16,066) (314)
Unearned Compensation (3,475) (107)
Retained Earnings 107,927 67,052
------------------------
------------------------
Total Stockholders' Equity 167,549 138,774
------------------------
------------------------
Total Liabilities and Stockholders' Equity $418,780 $349,904
------------------------
<FN>
The accompanying notes are an integral part of these consolidated financial
statements.
</FN>
32
CONSOLIDATED STATEMENTS OF INCOME
Rollins, Inc. and Subsidiaries
- -------------------------------------------------------------------------------------------------------------------
Years Ended December 31, (in thousands except per share data) 2004 2003 2002
- -----------------------------------------------------------------------------------------------------------------
REVENUES
Customer Services $750,884 $677,013 $665,425
-----------------------------------
COSTS AND EXPENSES
Cost of Services Provided 395,334 362,422 361,318
Depreciation and Amortization 23,034 20,179 21,635
Sales, General and Administrative 258,893 236,514 238,180
(Gain)/Loss on Sale of Assets (24,716) (1,700) 762
Interest Income (373) (432) (196)
-----------------------------------
652,172 616,983 621,699
-----------------------------------
INCOME BEFORE INCOME TAXES AND CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING
PRINCIPLE 98,712 60,030 43,726
-----------------------------------
PROVISION FOR INCOME TAXES
Current 27,375 13,864 13,680
Deferred 13,078 10,405 2,936
-----------------------------------
40,453 24,269 16,616
-----------------------------------
INCOME BEFORE CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE 58,259 35,761 27,110
CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE, NET OF TAXES OF $4,017 (6,204) -- --
-----------------------------------
NET INCOME $ 52,055 $ 35,761 $ 27,110
-----------------------------------
INCOME PER SHARE--BASIC
Income Before Cumulative Effect of Change in Accounting Principle 0.85 0.53 0.40
Cumulative Effect of Change in Accounting Principle (0.09) -- --
-----------------------------------
Net Income Per Share Basic $ 0.76 $ 0.53 $ 0.40
-----------------------------------
INCOME PER SHARE--DILUTED
Income Before Cumulative Effect of Change in Accounting Principle 0.83 0.51 0.40
Cumulative Effect of Change in Accounting Principle (0.09) -- --
-----------------------------------
Net Income Per Share Diluted $ 0.74 $ 0.51 $ 0.40
-----------------------------------
Weighted Average Shares Outstanding--Basic 68,321 67,604 67,532
Weighted Average Shares Outstanding--Diluted 70,167 69,309 68,114
33
2004 2003 2002
- -----------------------------------------------------------------------------------------------------------------
DIVIDENDS PAID PER SHARE $ 0.16 $ 0.13 $ 0.09
PRO FORMA AMOUNTS ASSUMING THE NEW ACCOUNTING
METHOD IS APPLIED RETOACTIVELY
NET INCOME $ 58,259 $ 38,019 $ *
INCOME PER SHARE BASIC $ 0.85 $ 0.56 $ *
INCOME PER SHARE DILUTED $ 0.83 $ 0.55 $ *
<FN>
* The pro forma amounts for periods prior to 2003 are not determinable as
the newly adopted accounting method requires discrete information on claims
outstanding and certain other post-contract liabilities that is not available.
The accompanying notes are an integral part of these consolidated financial
statements.
</FN>
34
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Rollins, Inc. and Subsidiaries
Accumulated
(in thousands) Common Stock Treasury Stock Additional Other
--------------- -------------- Paid-In Comprehensive Comprehensive Unearned Retained
Shares Amount Shares Amount Capital Income (Loss) Income (Loss) Compensation Earnings Total
---------------------------------------------------------------------------------------------------
Balance at December 31, 2001 45,266 $45,266 (161) $(161) $ 678 $ -- $ (4,822) $ 44,537 $ 85,498
---------
Net Income 27,110 27,110 27,110
Other Comprehensive Income,
Net of Tax Minimum Pension
Liability Adjustment (12,135) (12,135)
Foreign Currency Translation
Adjustments 10 10
---------
Other Comprehensive Loss (12,125) (12,125)
---------
Comprehensive Income $ 14,985
---------
Cash Dividends (6,004) (6,004)
Common Stock Purchased (90) (90) (241) (241) (2,519) (3,316) (6,166)
Issuance of 401(k) Company Match 90 90 1,634 1,724
Three-for-Two Stock Split - 2003 (27) (27) (75) (75) 102 --
Three-for-Two Stock Split - 2005 22,593 22,593 (193) (193) (22,400) --
Unearned Compensation (278) (278)
Other 37 37 506 388 931
---------------------------------------------------------------------------------------------------
Balance at December 31, 2002 67,779 $67,779 (580) $(580) $ 299 $ -- $(16,947) (278)$ 40,417 $ 90,690
---------
Net Income 35,761 35,761 35,761
Other Comprehensive Income,
Net of Tax Minimum Pension
Liability Adjustment 16,182 16,182
Foreign Currency Translation
Adjustments 518 518
Unrealized Loss on Investments (67) (67)
---------
Other Comprehensive Income 16,633 16,633
---------
Comprehensive Income $ 52,394
---------
Cash Dividends (9,010) (9,010)
Issuance of 401(k) Company Match 72 72 2,087 2,159
Three-for-Two Stock Split - 2003 24 24 (99) (99) 75 --
Three-for-Two Stock Split - 2005 192 192 (14) (14) (178) --
Unearned Compensation 171 171
Other 361 361 2,022 (13) 2,370
---------------------------------------------------------------------------------------------------
Balance at December 31, 2003 68,356 $68,356 (621) $(621) $ 4,408 $ -- $ (314) (107)$ 67,052 $138,774
---------
35
Accumulated
(in thousands) Common Stock Treasury Stock Additional Other
--------------- -------------- Paid-In Comprehensive Comprehensive Unearned Retained
Shares Amount Shares Amount Capital Income (Loss) Income (Loss) Compensation Earnings Total
---------------------------------------------------------------------------------------------------
Net Income 52,055 52,055 52,055
Other Comprehensive Income,
Net of Tax Minimum Pension
Liability Adjustment (18,355) (18,355)
Foreign Currency Translation
Adjustments(1) 2,408 2,408
NSO Stock Options 131 131
Unrealized Gain on Investments 64 64
---------
Other Comprehensive Income/(Loss) (15,752) (15,752)
---------
Comprehensive Income $ 36,303
---------
Cash Dividends (10,924) (10,924)
Common Stock Purchased (38) (38) (899) (937)
Issuance of 401(k) Company Match 83 83 2,052 2,135
Three-for-Two Stock Split - 2005 234 234 22 22 (256) --
Unearned Compensation 152 152 3,701 (3,368) 485
Other 318 318 (2) (2) 1,397 1,713
---------------------------------------------------------------------------------------------------
Balance at December 31, 2004 69,060 $69,060 (556) $(556) $10,659 $ -- $(16,066) $(3,475)$107,927 $167,549
- ------------------------------------------------------------------------------------------------------------------------------------
<FN>
(1)Includes translation adjustment (net of tax) of $1,683,000 relating to
non-current assets as of December 31, 2003.
The accompanying notes are an integral part of these consolidated financial
statements.
</FN>
36
CONSOLIDATED STATEMENTS OF CASH FLOWS
Rollins, Inc. and Subsidiaries
- ------------------------------------------------------------------------------------------------------------------
Years Ended December 31, (in thousands) 2004 2003 2002
- ------------------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net Income $ 52,055 $ 35,761 $ 27,110
Adjustments to Reconcile Net Income to Net Cash
Provided by Operating Activities:
Change in Accounting Principle, Net 6,204 -- --
Depreciation and Amortization 23,034 20,179 21,635
Provision for Deferred Income Taxes 13,078 10,405 3,643
Gain on Sale of Assets (24,716) (1,700) --
Other, Net 1,938 654 955
(Increase) Decrease in Assets:
Trade Receivables (6,088) 339 (115)
Materials and Supplies 2,645 878 1,244
Other Current Assets 482 2,056 945
Other Non-Current Assets (304) (199) (44)
Increase (Decrease) in Liabilities:
Accounts Payable and Accrued Expenses 14,959 9,776 (6,645)
Unearned Revenue 5,582 2,959 15,579
Accrued Insurance (3,703) (2,889) (663)
Accrual for Termite Contracts (5,046) (2,573) (4,429)
Long-Term Accrued Liabilities (8,193) (15,327) (5,521)
--------------------------------------
Net Cash Provided by Operating Activities 71,927 60,319 53,694
--------------------------------------
INVESTING ACTIVITIES
Purchases of Equipment and Property (14,204) (10,597) (10,367)
Acquisitions/Dispositions of Companies, Net (98,090) (1,543) (1,788)
Sales/(Purchases) of Marketable Securities, Net 21,866 (21,866) --
Proceeds From Sales of Assets 25,726 1,700 --
--------------------------------------
Net Cash Used in Investing Activities (64,702) (32,306) (12,155)
--------------------------------------
FINANCING ACTIVITIES
Dividends Paid (10,924) (9,010) (6,004)
Common Stock Purchased (937) -- (6,166)
Payments on Capital Leases -- -- (256)
Other (575) 1,704 542
--------------------------------------
Net Cash Used in Financing Activities (12,436) (7,306) (11,884)
--------------------------------------
Effect of Exchange Rate Changes on Cash 2,408 518 10
--------------------------------------
Net Increase/(Decrease) in Cash and Short-Term Investments (2,803) 21,225 29,665
Cash and Short-Term Investments at Beginning of Year 59,540 38,315 8,650
--------------------------------------
Cash and Short-Term Investments at End of Year $ 56,737 $ 59,540 $ 38,315
--------------------------------------
37
2004 2003 2002
- ------------------------------------------------------------------------------------------------------------------
Supplemental Disclosure of Cash Flow Information
Cash Paid for Interest $ 257 $ 349 $ 436
Cash Paid for Income Taxes $ 29,011 $ 20,213 $ 10,893
Supplemental Disclosures of Non-Cash Items
Pension--Non-cash (increases) decreases in the minimum pension liability which
were (charged) credited to other comprehensive income (loss) were $(32.1)
million, $26.1 million and $(19.9) million in 2004, 2003 and 2002, respectively.
Significant Acquisition-- The Company purchased all of the assets and assumed
certain liabilities of Western Pest Services ("Western"). The fair values of
Western's assets and liabilities at the date of acquisition are presented below:
Real Estate $ 11,170
Customer Contracts 50,500
Trade Name 3,900
Patents 130
Non Compete Agreement 400
Goodwill 35,706
----------
101,806
Net Liabilities Assumed 8,357
----------
Net Purchase Price $ 110,163
==========
The accompanying notes are an integral part of these consolidated financial
statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years ended December 31, 2004, 2003, and 2002, Rollins, Inc. and Subsidiaries
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business Description--Rollins, Inc. (the "Company") is a national service
company with headquarters located in Atlanta, Georgia, providing pest and
termite control services to both residential and commercial customers.
Orkin, Inc. ("Orkin"), a wholly owned subsidiary of the Company founded in
1901, is one of the world's largest pest and termite control companies. It
provides customized services from over 400 locations to approximately 1.6
million customers. Orkin serves customers in the United States, Canada, and
Mexico, providing essential pest control services and protection against termite
damage, rodents and insects to homes and businesses, including hotels, food
service establishments, food manufacturers, retailers and transportation
companies. Orkin operates under the Orkin(R) and PCO Services, Inc.(R)
trademarks and the AcuridSM service mark.
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.
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.
38
Principles of Consolidation--The Company's policy is to consolidate all
subsidiaries, investees or other entities where it has voting control, is
subject to a majority of the risk of loss or is entitled to receive a majority
of residual returns. 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.
The consolidated financial statements include the accounts of the Company
and subsidiaries owned by the Company. All material intercompany accounts and
transactions have been eliminated.
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 of America
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.
Revenues--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.
Prior to 2004, traditional termite treatments were recognized as revenue at
the renewal date and an accrual was established for estimated costs of
reapplications and repairs to be incurred. Under the newly adopted accounting
method, the revenue received is deferred and recognized on a straight-line basis
over the remaining contract term; and, the cost of reinspections, reapplications
and repairs and associated labor and chemicals are expensed as incurred. For
outstanding claims, an estimate is made of the costs to be incurred (including
legal costs) based upon current factors and historical information. The
performance of reinspections tends to be close to the contract renewal date and,
while reapplications and repairs involve an insubstantial number of the
contracts, these costs are incurred over the contract term. The newly adopted
accounting principle eliminates the need to obtain actuarial estimates of the
claim costs to be incurred and management's estimates of reapplication costs.
Also, management believes the newly adopted accounting method more closely
conforms to the current pattern under which revenues are earned and expenses are
incurred, and conforms the accounting methodology of Orkin and its recently
acquired subsidiary, Western Pest Services. The costs of providing termite
services upon renewal are compared to the expected revenue to be received and a
provision is made for any expected losses.
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 is reasonably assured.
Allowance for Doubtful Accounts--The Company maintains an allowance for doubtful
accounts based on the expected collectibility of accounts receivable.
39
Advertising--Advertising expenses are charged to expense during the year in
which they are incurred. The total advertising costs were approximately $33.4
million, $31.9 million and $30.0 million in 2004, 2003 and 2002, respectively.
Cash and Short-Term Investments--The Company considers all investments with an
original maturity of three months or less to be cash equivalents. Short-term
investments are stated at cost, which approximates fair market value.
Marketable Securities--The Company maintains investments held with 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. 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. The Company had no
marketable securities as of December 31, 2004.
Materials and Supplies--Materials and supplies are recorded at the lower of cost
(first-in, first-out basis) or market.
Income Taxes--The Company provides for income taxes based on Statement of
Financial Accounting Standards (SFAS) No. 109, Accounting for Income Taxes,
which requires recognition of deferred tax liabilities and assets for the
expected future tax consequences of events that have been included in the
consolidated financial statements or tax returns.
Equipment and Property--Depreciation and amortization, which includes the
amortization of assets recorded under capital leases, are provided principally
on a straight-line basis over the estimated useful lives of the related assets.
Annual provisions for depreciation of $12.1 million in 2004, $13.3 million in
2003 and $14.9 million in 2002, have been reflected in the Consolidated
Statements of Income in the line item entitled Depreciation and Amortization.
These annual provisions for depreciation are computed using the following asset
lives: buildings, ten to forty years; and furniture, fixtures, and operating
equipment, three to ten years. Expenditures for additions, major renewals and
betterments are capitalized and expenditures for maintenance and repairs are
expensed as incurred. The cost of assets retired or otherwise disposed of and
the related accumulated depreciation and amortization are eliminated from the
accounts in the year of disposal with the resulting gain or loss credited or
charged to income.
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 practice 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.
Accrual for Termite Contracts-- The Company maintains an accrual for termite
claims representing the estimated costs of reapplications, repairs and
associated labor and chemicals, settlements, awards and other costs relative to
termite control services. Factors that may impact future cost include
termiticide 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 precisely 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 and baiting program, more effective termiticides and expanded
training.
40
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 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.
Treasury Shares--The Company records treasury stock repurchases at par value and
records the difference between cost and par value as a reduction of additional
paid-in-captial. During 2004 57,000 shares were repurchased for $937,000. No
shares were repurchased in 2003.
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. Basic and diluted EPS for all years has been restated for the stock
split effective March 10, 2005 and March of 2003. A reconciliation of the number
of weighted-average shares used in computing basic and diluted EPS is as
follows:
(in thousands except per share data and per share amounts) 2004 2003 2002
--------------------------------------------------------------------------------------------------------
Basic and diluted earnings available to stockholders (numerator): $52,055 $ 35,761 $ 27,110
Shares (denominator):
Weighted-average shares outstanding - Basic 68,321 67,604 67,532
Effect of Dilutive securities:
Employee Stock Options 1,846 1,705 582
-------------------------------------
Weighted-Average Shares - Diluted 70,167 69,309 68,114
Per share amounts:
Basic income per common share $ 0.76 $ 0.53 $ 0.40
Diluted income per common share $ 0.74 $ 0.51 $ 0.40
--------------------------------------------------------------------------------------------------------
Translation of Foreign Currencies--Assets and liabilities reported in functional
currencies other than U.S. dollars are translated into U.S. dollars at the year
end rate of exchange. Revenues and expenses are translated at the
weighted-average exchange rates for the year. The resulting translation
adjustments are charged or credited to other comprehensive income. Gains or
losses from foreign currency transactions, such as those resulting from the
settlement of receivables or payables denominated in foreign currency, are
included in the earnings of the current period.
Stock-Based Compensation--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
under those plans 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.
41
Years Ended December 31,
------------------------------------
(in thousands, except per share data) 2004 2003 2002
------------------------------------------------------------------------------------------------------
Net income, as reported $52,055 $35,761 $27,110
Deduct: Total stock-based employee compensation expense
determined under fair value based method for all awards,
net of related tax effects (801) (1,240) (1,853)
------------------------------------
Pro forma net income $51,254 $34,521 $25,257
------------------------------------
Income per share:
Basic--as reported $ 0.76 $ 0.53 $ 0.40
Basic--pro forma $ 0.75 $ 0.51 $ 0.37
Diluted--as reported $ 0.74 $ 0.51 $ 0.40
Diluted--pro forma $ 0.73 $ 0.50 $ 0.37
------------------------------------------------------------------------------------------------------
<FN>
The per share weighted-average fair value of stock options granted during
2003 and 2002 was $2.70 and $1.69, respectively, on the date of grant, using the
Black-Scholes option-pricing model with the following weighted-average
assumptions:
</FN>
2004 2003 2002
----------------------------------------------------------------------------------------------------------------
Risk-Free Interest Rate * 3.96% 3.98%
Expected Life, in Years * Range from 4 to 8 Range from 4 to 8
Expected Volatility * 10.70% 12.50%
Expected Dividend Yield * 1.07% 1.04%
----------------------------------------------------------------------------------------------------------------
<FN>
* The Company did not grant any stock options during 2004, therefore no
Black-Scholes calculation was necessary.
</FN>
Comprehensive Income (Loss)--Other Comprehensive Income (Loss) results from
foreign currency translations, minimum pension liability adjustments,
Nonqualified Stock Options (NSO) and unrealized loss on marketable securities.
New Accounting Standards-- In November 2002, the Emerging Issues Task Force
issued EITF 00-21, Revenue Arrangements with Multiple Deliverables, which is
effective for revenue arrangements entered into in fiscal periods beginning
after June 15, 2003. The Company adopted EITF 00-21 in the third quarter of
2003. This EITF addresses how to account for arrangements that involve the
delivery or performance of multiple products, services, and/or rights to use
assets. The Company's termite baiting service involves multiple deliverables,
consisting of an initial directed liquid termiticide treatment, installation of
termite monitoring stations, and subsequent periodic monitoring inspections. The
portion of the termite baiting service sales price applicable to subsequent
periodic monitoring inspections, which is determined based on fair value, is
deferred and recognized over the first year of each contract. The portion of the
sales price applicable to the termiticide treatment and installation of the
monitoring services is determined under the residual method (the total sales
price less the fair value of the monitoring inspections). Revenues from the
termiticide treatment and installation of the termite monitoring stations are
recognized upon performance of the service and installation. The adoption of
this EITF did not have a significant effect on the Company's financial position,
results of operations or liquidity.
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 are effective for all variable interest
entities created or acquired after January 31, 2003. In December 2003, the
Financial Accounting Standards Boards issued a revision to FIN 46 referred to as
Interpretation No. 46 (R). Among other provisions, the revision extends the
adoption date of FIN 46 (R) to the first quarter of 2004 for variable interest
entities created prior to February 1,
42
2003. The adoption of FIN 46 and FIN 46 (R) did not have a significant effect on
the Company's financial position or results of operations.
In December 2004, the FASB issued SFAS No. 123 (revised 2004), "Share-Based
Payment" ("SFAS 123R"), which replaces SFAS No. 123, "Accounting for Stock-Based
Compensation," ("SFAS 123") and supercedes APB Opinion No. 25, "Accounting for
Stock Issued to Employees." SFAS 123R requires all share-based payments to
employees, including grants of employee stock options, to be recognized in the
financial statements based on their fair values beginning with the first interim
or annual period after June 15, 2005, with early adoption encouraged. The pro
forma disclosures previously permitted under SFAS 123 no longer will be an
alternative to financial statement recognition. Rollins is required to adopt
SFAS 123R in the third quarter of fiscal 2005, beginning July 1, 2005. Under
SFAS 123R, Rollins must determine the appropriate fair value model to be used
for valuing share-based payments, the amortization method for compensation cost
and the transition method to be used at date of adoption. The transition methods
include prospective and retroactive adoption options. Under the retroactive
option, prior periods may be restated either as of the beginning of the year of
adoption or for all periods presented. The prospective method requires that
compensation expense be recorded for all unvested stock options and restricted
stock at the beginning of the first quarter of adoption of SFAS 123R, while the
retroactive methods would record compensation expense for all unvested stock
options and restricted stock beginning with the first period restated. Rollins
is evaluating the requirements of SFAS 123R and expects that the adoption of
SFAS 123R will not have a material impact on Rollins' consolidated results of
operations and earnings per share. Rollins has not yet determined the method of
adoption or the effect of adopting SFAS 123R, and it has not determined whether
the adoption will result in amounts that are similar to the current pro forma
disclosures under SFAS 123.
Franchising Program--Franchising Program--Orkin had 49 franchises as of December
31, 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 December 31, 2004 and 2003, notes receivable from franchises aggregated $5.2
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, which amounted to approximately
$1.7 million in 2004, $2.2 million in 2003, and $1.1 million in 2002, and are
included as revenues in the accompanying Consolidated Statements of Income.
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 $1.6 million and $1.4
million at December 31, 2004 and 2003, respectively. Royalties from franchises
are accrued and recognized as revenues as earned on a monthly basis. Revenues
from royalties were $1.7 million in 2004, $1.4 million in 2003, and $1.2 million
in 2002. The Company's maximum exposure to loss relating to the franchises
aggregated $3.6 million and $2.5 million in December 31, 2004 and 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.
Reclassifications--Certain amounts for previous years have been reclassified to
conform with the 2004 consolidated financial statement presentation.
Three-for-Two Stock Split--The Board of Directors, at its quarterly meeting on
January 25, 2004, authorized a three-for-two stock split by the issuance on
March 10, 2005 of one additional common share for each two common shares held of
record at February 10, 2005. Accordingly, the par value for additional shares
issued will be adjusted to common stock, and fractional shares resulting from
the stock split will be settled in cash. All share and per share data appearing
in the consolidated financial statements and related notes have been
retroactively adjusted for this split.
The Board of Directors, at its quarterly meeting on January 28, 2003, authorized
a three-for-two stock split by the issuance on March 10, 2003 of one additional
common share for each two common shares held of record at February 10, 2003. All
share and per share data for 2002 appearing in the consolidated financial
statements and related notes have been retroactively adjusted for this stock
split.
43
2. TRADE RECEIVABLES
Trade receivables, net, at December 31, 2004, totaling $55.2 million and at
December 31, 2003, totaling $48.5 million, are net of allowances for doubtful
accounts of $5.1 million and $4.6 million, respectively. Trade receivables
include installment receivable amounts, which are due subsequent to one year
from the balance sheet dates. These amounts were approximately $7.1 million and
$6.2 million at the end of 2004 and 2003, respectively. Trade receivables also
include notes receivable due from franchises which amounted to $5.2 million and
$3.9 million as of December 31, 2004 and 2003, respectively. The carrying amount
of notes receivable approximates fair value as the interest rates approximate
market rates for these types of contracts. The Allowance For Doubtful Accounts
is principally calculated based on the application of estimated loss percentages
to delinquency aging totals, based on contractual terms, for the various
categories of receivables. Bad debt write-offs occur according to company
policies that are specific to pest control, commercial and termite accounts. At
any given time, the Company may have immaterial amounts due from related
parties, which are invoiced and settled on a regular basis. Receivables due from
related parties were approximately $46,000 as of December 31, 2004, and
approximately $55,000 as of December 31, 2003.
3. EQUIPMENT AND PROPERTY
Equipment and property are presented at cost less accumulated depreciation
and are detailed as follows:
(in thousands) 2004 2003
-----------------------------------------------------------------------
Buildings $17,479 $13,194
Operating Equipment 41,425 39,273
Furniture and Fixtures 6,027 5,845
Computer Equipment and Systems 29,543 30,417
--------------------
94,474 88,729
Less--Accumulated Depreciation 60,767 57,747
--------------------
33,707 30,982
Land 15,456 4,854
--------------------
$49,163 $35,836
-----------------------------------------------------------------------
4. GOODWILL AND OTHER INTANGIBLE ASSETS
Intangibles consist primarily of goodwill and customer contracts and also
include trademarks and non-compete agreements, all related to businesses
acquired. Goodwill represents the excess of the purchase price over the fair
value of net assets of businesses acquired. The carrying amount of goodwill was
$121.5 million as of December 31, 2004 and $72.5 million as of December 31,
2003. Goodwill arising from acquisitions prior to November 1970 has never been
amortized for financial statement purposes, since, in the opinion of Management,
there has been no decrease in the value of the acquired businesses. Prior to
2002, the values assigned to all intangible assets, including goodwill for
acquisitions completed subsequent to November 1970 and prior to June 30, 2001,
were amortized on a straight-line basis over the estimated useful lives of the
assets, not exceeding 40 years.
On January 1, 2002, the Company adopted FASB Statement No. 142, Goodwill
and Other Intangible Assets. As of January 1, 2002, amortization of goodwill and
trademarks was terminated, and instead the assets are subject to periodic
testing for impairment. The Company completed its annual impairment analyses as
of September 30, 2004. Based upon the results of these analyses, the Company has
concluded that no impairment of its goodwill or trademarks has occurred.
Customer contracts and non-compete agreements are amortized on a
straight-line basis over the period of the agreements, as straight-line best
approximates the ratio that current revenues bear to the total of current and
anticipated revenues, based on the estimated lives of the assets. In accordance
with Statement 142, the expected lives of customer contracts and non-compete
agreements were reviewed, and it was determined that customer contracts should
be amortized over a life of 8 to 12 1/2 years dependent upon customer type. The
impact of this review in 2002 was an increase in amortization expense on
customer contracts of $2.0 million. The carrying amount and accumulated
amortization for customer contracts and non-competes were as follows:
44
December 31,
-----------------------
(in thousands) 2004 2003
-------------------------------------------------------------------------
Customer contracts and Non-Competes $102,467 $ 53,550
Less: accumulated amortization (28,529) (23,217)
-----------------------
$ 73,938 $ 30,333
-------------------------------------------------------------------------
Total intangible amortization expense was approximately $10.9 million in
2004, $6.9 million in 2003 and $6.7 million in 2002. Amortization of customer
contracts and non-competes was approximately $10.9 million in 2004, $6.9 million
in 2003 and $6.7 million in 2002. Estimated amortization expense for each of the
five succeeding fiscal years is as follows:
December 31,
--------------------------------------------
2005 $12,346
2006 11,963
2007 11,029
2008 10,413
2009 9,467
--------------------------------------------
5. INCOME TAXES
The Company's income tax provision consisted of the following:
(in thousands) 2004 2003 2002
-----------------------------------------------------------------------
Current:
Federal $22,704 $10,238 $ 9,969
State 3,109 2,188 2,644
Foreign 1,562 1,438 1,067
Deferred:
Federal 10,459 9,955 2,707
State 3,026 607 232
Foreign (407) (157) (3)
-----------------------------------
Total income tax provision $40,453 $24,269 $16,616
-----------------------------------------------------------------------
The primary factors causing income tax expense to be different than the
federal statutory rate for 2004, 2003 and 2002 are as follows:
(in thousands) 2004 2003 2002
-----------------------------------------------------------------------
Income taxes at statutory rate $34,548 $21,010 $15,304
State income tax expense
(net of Federal benefit) 3,986 1,817 1,719
Foreign tax expense 726 1,200 874
Other 1,193 242 (1,281)
------------------------------------
$40,453 $24,269 $16,616
-----------------------------------------------------------------------
The Provision for Income Taxes resulted in an effective tax rate of 41.0%
on Income Before Income Taxes for the year ended December 31, 2004. For 2003 the
effective tax rate was 40.4% and for 2002 the effective tax rate was 38.0%. The
effective income tax rate differs from the annual federal statutory tax rate
primarily because of state and foreign income taxes. During 2004, 2003 and 2002,
the Company paid income taxes of $29.0 million, $20.2 million and $10.9 million,
respectively, net of refunds.
45
Deferred income taxes reflect the net tax effects of the temporary
differences between the carrying amounts of assets and liabilities for financial
reporting purposes and income tax purposes. Significant components of the
Company's deferred tax assets and liabilities at December 31, 2004 and 2003 are
as follows:
December 31,
-------------------------
(in thousands) 2004 2003
-------------------------------------------------------------------
Deferred tax assets:
Termite Accrual $ 8,867 $ 15,977
Insurance and Contingencies 18,096 20,471
Unearned Revenue 11,181 --
Compensation and Benefits 3,149 2,772
Net Pension Liability 4,158 --
State Operating Loss Carryforwards 5,761 7,784
Other 3,300 3,958
-----------------------
Total Deferred Tax Assets 54,512 50,962
Deferred tax liabilities:
Prepaid Pension -- (9,611)
Depreciation and Amortization (11,219) (2,206)
Foreign Currency Translation (1,407) --
Other (203) --
-----------------------
Total Deferred Tax Liabilities (12,829) (11,817)
-----------------------
Net deferred tax asset $ 41,683 $ 39,145
-------------------------------------------------------------------
As of December 31, 2004, the Company has net operating loss carryforwards
for state income tax purposes of approximately $153 million, which will be
available to offset future state taxable income. If not used, these
carryforwards will expire between 2008 and 2023. Due to the current and expected
usage of these loss carryforwards, management believes that it is more likely
than not that these net operating loss carryforwards will be utilized before
their expiration.
6. ACCRUAL FOR TERMITE CONTRACTS
The Company maintains an accrual for termite claims representing the
estimated costs of reapplications, repairs and associated labor and chemicals,
settlements, awards and other costs relative to termite control services.
Factors that may impact future cost include termiticide 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 expanding training methods and
techniques.
A reconciliation of changes in the accrual for termite contracts for the
years ended December 31, 2004, 2003 and 2002 is as follows:
(in thousands) 2004 2003 2002
---------------------------------------------------------------------------
Beginning Balance $ 43,873 $ 46,446 $ 50,875
Effect of Change in Accounting Principle (15,309) -- --
Western Pest Services Opening Entry 372 -- --
Current Year Provision 13,433 21,600 21,050
Settlements, Claims and Expenditures (17,058) (24,173) (25,479)
-----------------------------------
Ending Balance $ 25,311 $ 43,873 $ 46,446
---------------------------------------------------------------------------
46
7. COMMITMENTS AND CONTINGENCIES
The Company has several operating leases expiring at various dates through
2017. The minimum lease payments under non-cancelable operating leases with
terms in excess of one year, in effect at December 31, 2004, are summarized as
follows:
(in thousands)
-----------------------------------------------------------
2005 $20,244
2006 15,225
2007 9,130
2008 5,602
2009 4,077
Thereafter 12,105
----------
$66,383
-----------------------------------------------------------
Total rental expense under operating leases charged to operations was $30.3
million, $28.0 million, and $27.4 million for the years ended December 31, 2004,
2003 and 2002, respectively.
The Company maintains credit facilities with two banks that allow it to
borrow up to $70.0 million on an unsecured basis at the bank's prime rate of
interest or the indexed London Interbank Offered Rate (LIBOR) under which $34.5
million in Letters of Credit were outstanding at December 31, 2004. No
borrowings were outstanding under this credit facility as of December 31, 2004,
2003 or 2002.
Orkin, one of the Company's subsidiaries, is 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. In December the
Court issued a new ruling certifying the class action. Orkin intends to appeal
this new ruling to the Florida Second District Court of Appeals. 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.
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. Some 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. An arbitration has also been filed in Jacksonville, Florida,
by Cynthia Garrett against Orkin (Cynthia Garrett v. Orkin, Inc.) in which the
plaintiff is seeking certification of a class. The Company believes these
matters to be without merit and intends to vigorously contest certification and
defend itself through trial or arbitration, 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.
8. EMPLOYEE BENEFIT AND STOCK COMPENSATION PLANS
The Company maintains a noncontributory tax-qualified defined benefit
retirement plan (the "Plan") covering employees meeting certain age and service
requirements. The Plan provides benefits based on the average compensation for
the highest five years during the last ten years of credited service (as
defined) in which compensation was received, and the average anticipated Social
Security covered earnings. The Company funds the Plan with at least the minimum
amount required by ERISA. The Company made contributions of $3.0 million to the
47
Plan in 2004. Effective January 1, 2002, the Company adopted amendments to the
Plan including a change to the benefit calculation and limiting plan
participation to current participants. These amendments are reflected in benefit
obligations below.
The funded status of the Plan and the net amount recognized in the
statement of financial position are summarized as follows as of December 31:
(in thousands) 2004 2003
---------------------------------------------------------------------------
CHANGE IN BENEFIT OBLIGATION
Obligation at Beginning of Year $127,832 $109,294
Service Cost 5,186 4,682
Interest Cost 8,298 7,800
Actuarial Loss 12,056 10,205
Benefits Paid (4,451) (4,149)
-----------------------
Obligation at End of Year 148,921 127,832
CHANGE IN PLAN ASSETS
Fair Value of Plan Assets at Beginning of Year 115,762 88,713
Actual Return on Plan Assets 9,400 16,398
Employer Contribution 3,000 14,800
Benefits Paid (4,450) (4,149)
-----------------------
Fair Value of Plan Assets at End of Year 123,712 115,762
-----------------------
Funded Status (25,209) (12,070)
Unrecognized Net Actuarial Loss 51,364 42,511
Unrecognized Prior Service Benefit (4,610) (5,477)
Adjustment Required to Recognize Minimum Liability -- --
---------------------------------------------------------------------------
Net Amount Recognized $ 21,545 $ 24,964
---------------------------------------------------------------------------
Amounts Recognized in the Statements of Financial Condition Consist of:
---------------------------------------------------------------------------
(in thousands) 2004 2003
---------------------------------------------------------------------------
Prepaid cost $ 21,545 $ 24,964
Minimum pension liability (32,124) --
-----------------------
Net Prepaid (Accrued) Amount Recognized $(10,579) $ 24,964
---------------------------------------------------------------------------
The accumulated benefit obligation for the defined benefit pension plan was
$134,291 and $115,653 at December 31, 2004 and 2003, respectively. Rollins, Inc.
uses a December 31 measurement date for its Qualified Plan.
(Increases) decreases in the minimum pension liability which were (charged)
credited to other comprehensive income (loss) were $(32.1) million, $26.1
million and $(19.9) million in 2004, 2003 and 2002, respectively.
The following weighted-average assumptions as of December 31 were used to
determine the projected benefit obligation and net benefit cost:
2004 2003
-------------------------------------------------------------------
PROJECTED BENEFIT OBLIGATION
Discount Rate 5.750% 6.250%
Rate of Compensation Increase 3.500% 3.500%
NET BENEFIT COST
Discount Rate 6.250% 6.875%
Expected Return on Plan Assets 8.000% 8.000%
Rate of Compensation Increase 3.500% 3.875%
-------------------------------------------------------------------
The return on plan assets reflects the weighted-average of the expected
long-term rates of return for the broad categories of investments held in the
plan. The expected long-term rate of return is adjusted when there are
fundamental changes in the expected returns on the plan investments.
The components of net periodic benefit cost for the past three years are
summarized as follows:
48
(in thousands) 2004 2003 2002
---------------------------------------------------------------------------
Service Cost $ 5,186 $ 4,682 $ 3,825
Interest Cost 8,298 7,800 7,246
Expected Return on Plan Assets (9,576) (8,492) (7,553)
Net Amortizations:
Amortization of Net Loss 3,379 2,023 838
Amortization of Net Prior Service Benefit (868) (868) (868)
------------------------------
Net Periodic Benefit Cost $6,419 $5,145 $3,488
---------------------------------------------------------------------------
At December 31, 2004 and 2003, the Plan's assets were comprised of listed
common stocks and U.S. government and corporate securities. Included in the
assets of the Plan were shares of Rollins, Inc. Common Stock with a market value
of $12.0 million and $10.2 million at December 31, 2004 and 2003, respectively.
The Plan's weighted average asset allocation at December 31, 2004 and 2003
by asset category, along with the target allocation for 2005, are as follows:
Asset Category Percentage of Percentage of
Target Plan Assets as of Plan Assets as of
Allocations December 31, December 31,
for 2005 2004 2003
- -----------------------------------------------------------------------------------------------------------
Equity Securities--Rollins stock 10.0% 9.7% 8.8%
Equity Securities--all other 43.8% 46.1% 48.5%
Debt Securities--core fixed income 24.6% 26.7% 37.8%
Tactical-Fund of Equity & Debt Securities 4.9% 2.4% 0%
Real Estate 4.9% 4.6% 0%
Other 11.8% 10.5% 4.9%
-------------------------------------------------------------
Total 100.0% 100.0% 100.0%
- -----------------------------------------------------------------------------------------------------------
Our investment strategy for our pension plan is to maximize the long-term
rate of return on plan assets within an acceptable level of risk in order to
minimize the cost of providing pension benefits. The investment policy
establishes a target allocation for each asset class, which is rebalanced as
required. The plan utilizes a number of investment approaches, including
individual market securities, equity and fixed income funds in which the
underlying securities are marketable, and debt funds to achieve this target
allocation. The Company expects to contribute $4.0 million to $6.0 million to
the pension plan in 2005. The estimated future benefit payments over the next
ten years are as follows:
(in thousands)
--------------------------------------------------
2005 $ 4,556
2006 4,884
2007 5,389
2008 5,831
2009 6,448
Thereafter 45,176
----------
$72,284
--------------------------------------------------
The Company sponsors a deferred compensation 401(k) plan that is available
to substantially all employees with six months of service. The plan provides for
a matching contribution (made in the form of Common Stock of the Company) of
thirty cents ($.30) for each one dollar ($1.00) of a participant's contributions
to the plan that do not exceed 6 percent of his or her annual compensation
(which includes commissions, overtime and bonuses). The Company match percentage
remained the same in 2004. The charges to expense for the Company match was
approximately $2.7 million in 2004 and approximately $2.3 million in both 2003
and 2002. At December 31, 2004,
49
2003 and 2002 approximately, 28.4%, 26.6% and 22.9%, respectively of the plan
assets consisted of Rollins, Inc. Common Stock. Total administrative fees for
the plan were approximately $248,000 in 2004, $265,000 in 2003 and $278,500 in
2002.
The Company acquired the assets and related liabilities associated with a
Supplemental Executive Retirement Plan ("SERP") for one retired employee of
Western Pest Services. Under this SERP agreement, the individual will be paid
$101,000 per annum through 2022.
The Company has one Employee Stock Incentive Plan, adopted in April 1998
(the "1998 Plan") as a supplement to the 1994 Plan, which expired in 2004. An
aggregate of 3.38 million shares of Common Stock may be granted under various
stock incentive programs pursuant to this plan, at a price not less than the
market value of the underlying stock on the date of grant. Options may be issued
under the 1998 Plan through April 2008. The majority of options expire ten years
from the date of grant, if not exercised, and vest 20% each year over 5 years.
Options are also outstanding under prior Employee Stock Incentive Plans
(the "1984 Plan" and the "1994 Plan"). Under these plans, 6.08 million shares of
Common Stock were subject to options granted during the ten-year periods ended
October 1994 and January 2004, respectively. The options under all plans were
granted at the fair market value of the shares on the date of grant and expire
ten years from the date of grant, if not exercised. No additional options will
be granted under the 1984 Plan and 1994 Plan.
Stock option and restricted shares transactions during the last three years
for the 1984, 1994 and 1998 plans are summarized as follows:
2004 2003 2002
- --------------------------------------------------------------------------------
Number of Restricted Shares Under
Stock Options:
Outstanding at Beginning of Year 4,756,010 4,991,825 3,697,875
Granted 228,000 675,000 1,752,750
Exercised (749,360) (480,708) (101,500)
Cancelled (164,515) (430,107) (357,300)
Expired (46,900) -- --
-----------------------------------------
Outstanding at End of Year 4,023,235 4,756,010 4,991,825
Exercisable at End of Year 2,303,184 2,391,933 2,082,378
Weighted-Average Exercise Price:
Granted $ 0.00(1) $12.43 $8.57
Exercised 8.27 7.61 6.97
Cancelled 10.21 8.71 8.10
Expired 12.61 -- --
Outstanding at End of Year 9.39 8.87 8.29
Exercisable at End of Year 8.42 8.36 8.29
- --------------------------------------------------------------------------------
50
Information with respect to options and restricted shares outstanding at
December 31, 2004 is as follows:
Average Remaining
Contractual Life Number
Exercise Price Number Outstanding (In Years) Exercisable
- -----------------------------------------------------------------------
$10.78 5,400 0.08 2,700
9.28 20,700 1.08 10,800
8.55 97,930 2.08 70,255
8.75 741,759 3.33 741,759
7.25 480,383 4.08 480,383
6.55 144,280 5.08 93,655
8.11 246,633 6.08 131,882
8.51 1,347,090 7.08 605,490
9.36 117,000 7.08 70,200
12.43 595,560 8.08 96,060
0.00(1) 154,500 9.33 --
0.00(1) 72,000 9.33 --
- -----------------------------------------------------------------------
4,023,235 2,303,184
- -----------------------------------------------------------------------
(1) During 2004 the Company granted 156,000 restricted shares of Company common
stock, which closed at $17.33 per share on the date of the grant, and 72,000
restricted shares of Company common stock, which closed at $15.95 per share on
the date of the grant, to employees. The shares vest over six years, 20% a year,
with the first installment vesting on the second anniversary of the grant date.
Restricted Stock -- Rollins has granted employees two forms of restricted stock;
performance restricted and time lapse restricted. The performance restricted
shares are granted, but not earned and issued, until certain performance
criteria are met. The performance criteria are predetermined market prices of
Rollins' common stock. Time lapse restricted shares vest after certain
stipulated number of years from the grant date, depending on the terms of the
issue. The Company has issued time lapse restricted shares that vest over ten
years in prior years and in 2004 issued time lapse restricted shares that vest
in 20 percent increments starting with the second anniversary of the grant, over
six years from the date of grant. During these years, grantees receive all
dividends declared and retain voting rights for the granted shares. Compensation
cost on restricted shares is recorded at the fair market value on the date of
issuance and amortized ratably over the respective vesting periods. The
agreements under which the restricted stock is issued provide that shares
awarded may not be sold or otherwise transferred until restrictions established
under the plans have lapsed. During the year ended December 31, 2004, the
Company recognized $440,752 in compensation costs related to restricted stock.
51
9. ACCUMULATED OTHER COMPREHENSIVE INCOME/(LOSS)
Accumulated other comprehensive income/(loss) consists of the following (in
thousands):
Minimum Foreign Other Total
Pension Currency Unrealized
Liability Translation Gain/(Loss)
- --------------------------------------------------------------------------------
Balance at December 31, 2001 $ (4,047) $ (775) $ -- $ (4,822)
Change during 2002:
Before-tax amount (19,867) 14 -- (19,853)
Tax benefit (expense) 7,732 (4) -- 7,728
------------------------------------------------
(12,135) 10 -- (12,125)
------------------------------------------------
Balance at December 31, 2002 (16,182) (765) -- (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 -- (247) (67) (314)
------------------------------------------------
Change during 2004:
Before-tax amount (32,124) 3,967 109 (28,048)
Tax benefit (expense) 13,769 (1,559) 86 12,296
------------------------------------------------
(18,355) 2,408 195 (15,752)
------------------------------------------------
Balance at December 31, 2004 $(18,355) $ 2,161 $ 128 $(16,066)
- --------------------------------------------------------------------------------
10. 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 $0.11 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 would have 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. In
addition, the Company on October 22, 2004 purchased real estate located at 2158
Piedmont Road, N.E., Atlanta, Georgia 30324, adjacent to the Company's
headquarters, from LOR, Inc. for $4.6 million. 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 sold an additional piece of real estate in Sussex County,
Delaware to LOR, Inc. or an entity wholly owned by LOR, Inc. The transaction
took place on December 29, 2004 and resulted in a $6.3 million, net of costs,
gain after taxes.
52
11. UNAUDITED QUARTERLY DATA
All earnings per share data for the quarters prior to the second quarter of
2003 have been restated for the three-for-two stock split on March 10, 2003 and
all earnings per share data for the quarters have been restated for the
three-for-two stock split effective March 10, 2005.
(in thousands except per share data) First Second Third Fourth
- -----------------------------------------------------------------------------------------------------------------
2004 (a)
Revenues $160,416 $202,725 $203,925 $183,818
Gross Profit (Revenues--Cost of Services Provided) 75,281 97,309 98,890 84,070
Cumulative Effect of Change in Accounting Principle (6,204) --- --- ---
Net Income 3,662 20,891 13,633 13,869
Income per Share:
- -----------------------------------------------------------------------------------------------------------------
Before cumulative effect of change in accounting principle:
Income per Share--Basic 0.15 0.30 0.20 0.20
Income per Share--Diluted 0.14 0.30 0.19 0.20
- -----------------------------------------------------------------------------------------------------------------
After cumulative effect of change in accounting principle:
Income per Share--Basic 0.06 0.30 0.20 0.20
Income per Share--Diluted 0.05 0.30 0.19 0.20
- -----------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------
2003
Revenues $155,122 $185,105 $178,262 $158,524
Gross Profit (Revenues--Cost of Services Provided) 71,043 89,515 82,196 71,837
Net Income 7,274 13,862 9,800 4,825
Income per Share:
- -----------------------------------------------------------------------------------------------------------------
Income per Share--Basic 0.11 0.20 0.15 0.07
Income per Share--Diluted 0.11 0.20 0.14 0.06
- -----------------------------------------------------------------------------------------------------------------
<FN>
(a) The quarterly amounts reflect the newly adopted accounting method
beginning on January 1, 2004.
</FN>
12. STOCK SPLIT
The Board of Directors, at its quarterly meeting on January 25, 2005,
authorized a three-for-two stock split by the issuance on March 10, 2005 of one
additional common share for each two common shares held of record on February
10, 2005. Accordingly, the par value for additional shares issued will be
adjusted to common stock, and fractional shares resulting from the stock split
will be settled in cash. All share and per share data appearing throughout this
Form 10-K have been retroactively adjusted for this split.
Also, at the same meeting, the Board of Directors authorized a 25% increase
in the Company's quarterly dividend. The increased regular quarterly dividend of
$0.05 per share, as adjusted for the stock split, will be payable March 10, 2005
to stockholders of record at the close of business February 10, 2005. The
Company's new annual dividend rate is $0.20 per share as adjusted for the stock
split.
53
13. ACQUISITIONS
On April 30, 2004, the Company acquired substantially all of the assets and
assumed certain liabilities of Western Pest Services ("Western"). 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
business of providing pest control and termite 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 $110.2 million, including approximately $8.4 million of assumed
liabilities. 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 and
obligations under disclosed assigned contracts.
The Company engaged an independent valuation firm to determine the
allocation of the Western purchase price. Such valuation resulted in the
allocation of $39.6 million to Goodwill and $51.0 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. The total amount of
goodwill recorded as a result of the acquisition is expected to be tax
deductible over the appropriate periods.
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.
Significant Acquisition--The fair values of Western's assets and liabilities at
the date of acquisition are presented below:
Real Estate $ 11,170
Customer Contracts 50,500
Trade Name 3,900
Patents 130
Non Compete Agreement 400
Goodwill 35,706
----------
101,806
Net Liabilities Assumed 8,357
----------
Net Purchase Price $110,163
==========
54
Pro Forma Results (Unaudited)
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.
Three Months Ended Twelve Months Ended
December 31, December 31,
----------------------- ----------------------
2004 2003 2004 2003
---------- ---------- ---------- ----------
REVENUES
Customer Services $183,818 $175,223 $776,872 $749,555
========== ========== ========== ==========
INCOME BEFORE INCOME TAXES AND
CUMULATIVE EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE
22,590 6,104 99,453 52,718
========== ========== ========== ==========
INCOME BEFORE CUMULATIVE
EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE $ 13,869 $ 2,455 $ 58,718 $ 31,355
========== ========== ========== ==========
INCOME PER SHARE -
BASIC $ 0.20 $ 0.04 $ 0.86 $ 0.46
========== ========== ========== ==========
INCOME PER SHARE -
DILUTED $ 0.20 $ 0.04 $ 0.84 $ 0.45
========== ========== ========== ==========
Weighted Average Shares
Outstanding---Basic 68,516 67,695 68,321 67,604
Weighted Average Shares
Outstanding---Diluted 70,392 69,470 70,167 69,309
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosures.
None
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures--We have established
disclosure controls and procedures to ensure, among other things, that material
information relating to the Company, including its consolidated subsidiaries, is
made known to the officers who certify the Company's financial reports and to
other members of senior management and the Board of Directors.
Based on management's evaluation as of December 31, 2004, in which the
principal executive officer and principal financial officer of the Company
participated, the principal executive officer and principal financial officer
have concluded that the Company's disclosure controls and procedures (as defined
in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) are
effective, at the reasonable assurance level to ensure that the information
required to be disclosed by the Company in the reports that it files or submits
under the Securities Exchange Act of 1934 is recorded, processed, summarized and
reported within the time periods specified in SEC rules and forms.
Management's Report on Internal Control Over Financial
Reporting--Management's Report on Internal Control Over Financial Reporting is
contained on page 65.
55
Changes in Internal Controls-- There were no changes in our internal
control over financial reporting during the fourth quarter of 2004 that
materially affected or are reasonably likely to materially affect these
controls. As of December 31, 2004, we did not identify any significant
deficiency or material weaknesses in our internal controls, and therefore no
corrective actions were taken.
Western Pest Services--We have identified several internal control
deficiencies at Western Pest Control, which was acquired on April 30, 2004, and
the Company has initiated a project to identify internal control deficiencies
and implement changes. Most of these identified deficiencies center around IT
controls and organizational issues that affect smaller companies, such as
separation of duties, management reviews, and documentation of policies and
procedures.
Item 9B. Other Information
None
56
PART III
Item 10. Directors and Executive Officers of the Registrant.
Information concerning directors and executive officers is included in the
Company's Proxy Statement for its 2005 Annual Meeting of Stockholders, in the
section titled "Election of Directors". This information is incorporated herein
by reference. Information about executive officers is contained on page 19 of
this document.
Audit Committee and Audit Committee Financial Expert
Information concerning the Audit Committee of the Company and the Audit
Committee Financial Expert(s) is included in the Company's Proxy Statement for
its 2005 Annual Meeting of Stockholders, in the section titled "Corporate
Governance and Board of Directors Compensation, Committees and Meetings." This
information is incorporated herein by reference.
Code of Ethics
The Company has adopted a code of Business Conduct that applies to all
employees. In addition, the Company has adopted a Supplemental Code of Business
Conduct and Ethics for directors, the Principal Executive Officer and Principal
Financial and Accounting Officer. Both of these documents are available on the
Company's website at www.rollins.com and a copy is available by writing to
Investor Relations at 2170 Piedmont Road, Atlanta Georgia 30324.
Section 16(a) Beneficial Ownership Reporting Compliance
Information regarding compliance with Section 16(a) of the Exchange Act is
included under "Section 16(a) Beneficial Ownership Reporting Compliance" in the
Company's Proxy Statement for its 2005 Annual Meeting of Stockholders, which is
incorporated herein by reference.
Item 11. Executive Compensation.
The information under the caption "Executive Compensation" included in the
Proxy Statement for the Annual Meeting of Stockholders to be held April 26, 2005
is incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management.
The information under the captions "Capital Stock", "Election of Directors"
and "Equity Compensation Plan Information" included in the Proxy Statement for
the Annual Meeting of Stockholders to be held April 26, 2005 is incorporated
herein by reference.
Item 13. Certain Relationships and Related Transactions.
The information under the caption "Certain Relationships and Related Party
Transactions" included in the Proxy Statement for the Annual Meeting of
Stockholders to be held April 26, 2005 is incorporated herein by reference.
Item 14. Principal Auditor Fees and Services.
Information regarding principal auditor fees and services is set forth
under "Principal Auditor Fees and Services" in the Company's Proxy Statement for
its 2005 Annual Meeting of Stockholders, which information is incorporated
herein by reference.
57
PART IV
Item 15. Exhibits and Financial Statement Schedules, and Reports on Form 8-K.
(a) Consolidated Financial Statements, Financial Statement Schedule and
Exhibits.
1. Consolidated financial statements listed in the accompanying
Index to Consolidated Financial Statements and Schedule are filed
as part of this report.
2. The financial statement schedule listed in the accompanying Index
to Consolidated Financial Statements and Schedule is filed as
part of this report.
3. Exhibits listed in the accompanying Index to Exhibits are filed
as part of this report. The following such exhibits are
management contracts or compensatory plans or arrangements:
(10) (a) Rollins, Inc. 1994 Employee Stock Incentive Plan
incorporated herein by reference to Exhibit (10)(b) as filed
with its Form 10-K for the year ended December 31, 1999.
(10) (b) Rollins, Inc. 1998 Employee Stock Incentive Plan
incorporated herein by reference to Exhibit A of the March
24, 1998 Proxy Statement for the Annual Meeting of
Stockholders held on April 28, 1998.
(10) (c) Rollins, Inc. Form of Restricted Stock Agreement
(10) (d) Rollins, Inc. Form of Option Agreement
(10) (e) Rollins, Inc. Executive Compensation Summary
(10) (f) Written Description of Rollins, Inc. Performance-Based
Incentive Cash Compensation Plan for Fiscal Year 2005.
(10) (g) Form A of Executive Bonus Plan
(10)(h) Form B of Executive Bonus Plan
(10) (i) Rollins, Inc. Non-Employee Directors Compensation
(b) Exhibits (inclusive of item 3 above):
(2) (a) Asset Purchase Agreement by and among Orkin, 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. *
(3)(i) (A) Restated Certificate of Incorporation of Rollins, Inc.
dated July 28, 1981, and Certificate of Change of Location
of Registered Office and of Registered Agent dated March 22,
1994, both of which are incorporated herein by reference to
Exhibit (3)(i) as filed with the registrant's Form 10-K for
the year ended December 31, 1997.
(B) Certificate of Amendment of Certificate of Incorporation
of Rollins, Inc. dated August 20, 1987.
(ii) Amended By-laws of Rollins, Inc. incorporated herein by
reference to Exhibit (3) (iii) as filed with its Form 10-Q
for the quarterly period ended March 31, 2004.
(4) Form of Common Stock Certificate of Rollins, Inc.
incorporated herein by reference to Exhibit (4) as filed
with its Form 10-K for the year ended December 31, 1998.
(10) (a) Rollins, Inc. 1994 Employee Stock Incentive Plan
incorporated herein by reference to Exhibit (10)(b) as filed
with its Form 10-K for the year ended December 31, 1999.
(10) (b) Rollins, Inc. 1998 Employee Stock Incentive Plan
incorporated herein by reference to Exhibit A of the March
24, 1998 Proxy Statement for the Annual Meeting of
Stockholders held on April 28, 1998.
58
(10) (c) Rollins, Inc. Form of Restricted Stock Agreement
(10) (d) Rollins, Inc. Form of Option Agreement
(10) (e) Rollins, Inc. Executive Compensation Summary
(10) (f) Written Description of Rollins, Inc. Performance-Based
Incentive Cash Compensation Plan for Fiscal Year 2005.
(10) (g) Form A of Executive Bonus Plan
(10) (h) Form B of Executive Bonus Plan
(10) (i) Rollins, Inc. Non-Employee Directors Compensation
(10) (j) Purchase and Sale Agreement by and among Rollins
Continental, Inc. et al. dated April 28, 2004 incorporated
herein by reference to Exhibit (2) (ii) as filed with its
Form 10-Q for the quarter ended June 30, 2004
(10) (k) Purchase and Sale Agreement by and among Rollins
Continental, Inc. et al. dated December 20, 2004
(18) Letter of Preferability
(21) Subsidiaries of Registrant.
(23.1) Consent of Grant Thornton LLP, Independent Registered Public
Accounting Firm.
(23.2) Consent of Ernst & Young LLP, Independent Registered Public
Accounting Firm.
(24) Powers of Attorney for Directors.
(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.
*Confidential treatment, pursuant to 17 C.F.R. Sections 200.80 and
230.406, has been granted regarding certain portions of the
indicated Exhibit, which portions have been filed separately with
the Commission.
59
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
By: /s/ GARY W. ROLLINS
----------------------------------------
Gary W. Rollins
Chief Executive Officer, President and Chief
Operating Officer
(Principal Executive Officer)
Date: March 11, 2005
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
By: /s/ GARY W. ROLLINS By: /s/ HARRY J. CYNKUS
---------------------------------- --------------------------------
Gary W. Rollins Harry J. Cynkus
Chief Executive Officer, President Chief Financial Officer and
and Chief Operating Officer Treasurer
(Principal Executive Officer) (Principal Financial and
Accounting Officer)
Date: March 11, 2005 Date: March 11, 2005
The Directors of Rollins, Inc. (listed below) executed a power of attorney
appointing Gary W. Rollins their attorney-in-fact, empowering him to sign this
report on their behalf.
R. Randall Rollins, Director
Wilton Looney, Director
Henry B. Tippie, Director
James B. Williams, Director
Bill J. Dismuke, Director
- --------------------------------------------------------------------------------
/s/ GARY W. ROLLINS
- ----------------------------------------------------------
Gary W. Rollins
As Attorney-in-Fact & Director
March 11, 2005
60
ROLLINS, INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULE
(Item 15)
Page Number From
This Form 10-K
------------------
(1) Consolidated Financial Statements
Consolidated Statements of Financial Position as of December 31, 2004 and 2003 31
Consolidated Statements of Income for each of the three years in the period ended 33
December 31, 2004
Consolidated Statements of Stockholders' Equity for each of the three years in the period
ended December 31, 2004 35
Consolidated Statements of Cash Flows for each of the three years in the period ended
December 31, 2004 37
Notes to Consolidated Financial Statements 38-55
Report of Grant Thornton LLP Independent Registered Public Accounting Firm on the
Consolidated Financial Statements (2004) 64
Management's Report on Internal Control Over Financial Reporting 65
Management's Responsibility for Financial Reporting 66
Report of Grant Thornton LLP Independent Registered Public Accounting Firm On Internal
Control Over Financial Reporting (2004) 67
Report of Ernst & Young LLP, Independent Registered Public Accounting Firm (2003-2002) 69
(2) Financial Statement Schedules
Schedule II - Valuation and Qualifying Accounts 62
Schedules not listed above have been omitted as either not applicable,
immaterial or disclosed in the Consolidated Financial Statements or notes
thereto.
61
ROLLINS, INC. AND SUBSIDIARIES
SCHEDULE II-VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEARS ENDED DECEMBER 31, 2004, 2003, AND 2002
(in thousands of dollars)
Additions
-------------------------
Balance at Charged to Charged to Balance at
Beginning Costs and Other End of
Description of Period Expenses Accounts (1) Deductions (2) Period
- ----------- ------------ ------------ -------------- ---------------- ------------
Year ended December 31, 2004
Allowance for doubtful accounts $4,616 $5,552 $829 $5,889 $5,108
---------------------------------------------------------------------------
Year ended December 31, 2003
Allowance for doubtful accounts $5,441 $4,822 $ -- $5,647 $4,616
---------------------------------------------------------------------------
Year ended December 31, 2002
Allowance for doubtful accounts $6,973 $5,705 $ -- $7,237 $5,441
---------------------------------------------------------------------------
<FN>
NOTES: (1) Amount represents the transfer in of reserves from the Superior and
Western acquisitions.
(2) Deductions represent the write-off of uncollectible receivables, net
of recoveries.
</FN>
62
ROLLINS, INC. AND SUBSIDIARIES
INDEX TO EXHIBITS
Exhibit
Number Exhibit Description
- -------- --------------------
(2)(a) Asset Purchase Agreement by and among Orkin, 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. *
(3)(i) (A) Restated Certificate of Incorporation of Rollins, Inc. dated July
28, 1981, and Certificate of Change of Location of Registered
Office and of Registered Agent dated March 22, 1994, both of
which are incorporated herein by reference to Exhibit (3)(i) as
filed with the registrant's Form 10-K for the year ended December
31, 1997.
(B) Certificate of Amendment of Certificate of Incorporation of
Rollins, Inc. dated August 20, 1987.
(ii) Amended By-laws of Rollins, Inc. incorporated herein by reference to
Exhibit (3) (iii) as filed with its Form 10-Q for the quarterly period
ended March 31, 2004.
(4) Form of Common Stock Certificate of Rollins, Inc. incorporated herein
by reference to Exhibit (4) as filed with its Form 10-K for the year
ended December 31, 1998.
(10)(a) Rollins, Inc. 1994 Employee Stock Incentive Plan incorporated herein
by reference to Exhibit (10)(b) as filed with its Form 10-K for the
year ended December 31, 1999.
(10)(b) Rollins, Inc. 1998 Employee Stock Incentive Plan incorporated herein
by reference to Exhibit A of the March 24, 1998 Proxy Statement for
the Annual Meeting of Stockholders held on April 28, 1998.
(10)(c) Rollins, Inc. Form of Restricted Stock Agreement
(10)(d) Rollins, Inc. Form of Option Agreement
(10)(e) Rollins, Inc. Executive Compensation Summary
(10)(f) Written Description of Rollins, Inc. Performance-Based Incentive Cash
Compensation Plan for Fiscal Year 2005.
(10)(g) Form A of Executive Bonus Plan
(10)(h) Form B of Executive Bonus Plan
(10)(i) Rollins, Inc. Non-Employee Directors Compensation
(10)(j) Purchase and Sale Agreement by and among Rollins Continental, Inc. et
al. dated April 28, 2004 incorporated herein by reference to Exhibit
(2) (ii) as filed with its Form 10-Q for the quarter ended June 30,
2004
(10)(k) Purchase and Sale Agreement by and among Rollins Continental, Inc. et
al. dated December 20, 2004
(18) Letter of Preferability
(21) Subsidiaries of Registrant.
(23.1) Consent of Grant Thornton LLP, Independent Registered Public
Accounting Firm.
(23.2) Consent of Ernst & Young LLP, Independent Registered Public Accounting
Firm.
(24) Powers of Attorney for Directors.
(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.
*Confidential treatment, pursuant to 17 C.F.R. Sections 200.80 and 230.406, has
been granted regarding certain portions of the indicated Exhibit, which
portions have been filed separately with the Commission.
63
Report of Independent Registered Public Accounting Firm on the Consolidated
Financial Statements
The Board of Directors and Stockholders of Rollins, Inc.
We have audited the accompanying consolidated statement of financial
position of Rollins, Inc. (a Delaware Corporation) and subsidiaries as of
December 31, 2004, 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 audit.
We conducted our audit in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
Rollins, Inc. and subsidiaries as of December 31, 2004, 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 of
America.
Our audit was conducted for the purpose of forming an opinion on the basic
consolidated financial statements taken as a whole. The Schedule II for the year
ended December 31, 2004, listed in the Index at Item 15(a) is presented for
purposes of additional analysis and is not a required part of the basic
financial statements. This schedule has been subjected to the auditing
procedures applied in the audit of the basic consolidated financial statements
and, in our opinion, is fairly stated in all material respects in relation to
the basic consolidated financial statements taken as a whole.
As described in Note 1, the Company changed its method of accounting for
the revenues and costs associated with conventional termite renewal contracts in
2004.
We also have audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the effectiveness of
Rollins, Inc.'s internal control over financial reporting as of December 31,
2004, based on criteria established in Internal Control--Integrated Framework
issued by the Committee of Sponsoring Organizations of the Treadway Commission
(COSO) and our report dated February 25, 2005 expressed an unqualified opinion.
/s/ Grant Thornton LLP
Atlanta, Georgia
February 25, 2005
64
MANAGEMENT'S REPORT ON INTERNAL CONTROLS OVER FINANCIAL REPORTING
To the Stockholders of Rollins, Inc.:
The management of Rollins, Inc. is responsible for establishing and
maintaining adequate internal control over financial reporting for the Company.
Rollins maintains a system of internal accounting controls designed to provide
reasonable assurance, at a reasonable cost, that assets are safeguarded against
loss or unauthorized use and that the financial records are adequate and can be
relied upon to produce financial statements in accordance with accounting
principles generally accepted in the United States of America. The internal
control system is augmented by written policies and procedures, an internal
audit program and the selection and training of qualified personnel. This system
includes policies that require adherence to ethical business standards and
compliance with all applicable laws and regulations.
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
internal controls over financial reporting, as of December 31, 2004 based on
criteria established in Internal Control--Integrated framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission. Based on this
evaluation, management's assessment is that Rollins, Inc. maintained effective
internal control over financial reporting as of December 31, 2004.
In conducting Rollins, Inc.'s evaluation of the effectiveness of its
internal control over financial reporting, Rollins, Inc. has excluded its
wholly-owned subsidiary Western Pest Services which was acquired in 2004. This
acquisition constituted 26% of total assets as of December 31, 2004, and 6.5% of
revenues for the year then ended. Refer to Note 13 in the consolidated financial
statements for further discussion of this acquisition and its impact on Rollins,
Inc.'s financial statements.
The independent registered public accounting firm, Grant Thornton, who has
audited the consolidated financial statements for the year ended December 31,
2004, included in the 2004 annual report, have also issued their report on
management's assessment of the Company's internal control over financial
reporting.
/s/ GARY W. ROLLINS /s/ HARRY J. CYNKUS
- ------------------- -------------------
Gary W. Rollins Harry J. Cynkus
Chief Executive Officer, President and Chief Financial Officer
Chief Operating Officer and Treasurer
Atlanta, Georgia
February 25, 2005
65
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL REPORTING
To the Stockholders of Rollins, Inc.:
The management of Rollins, Inc. is responsible for the integrity and
objectivity of the consolidated financial statements and other financial
information presented in this report. These statements have been prepared in
conformity with accounting principles generally accepted in the United States
consistently applied and include amounts based on the best estimates and
judgments of management.
Rollins maintains a system of internal accounting controls designed to
provide reasonable assurance, at a reasonable cost, that assets are safeguarded
against loss or unauthorized use and that the financial records are adequate and
can be relied upon to produce financial statements in accordance with accounting
principles generally accepted in the United States. The internal control system
is augmented by written policies and procedures, an internal audit program and
the selection and training of qualified personnel. This system includes policies
that require adherence to ethical business standards and compliance with all
applicable laws and regulations.
The consolidated financial statements for the year ended December 31, 2004
have been audited by Grant Thornton LLP, independent registered public
accounting firm, and the financial statements for the years ended December 31,
2003 and 2002 have been audited by other auditors. In connection with its audit,
Grant Thornton LLP develops and maintains an understanding of Rollins'
accounting and financial controls and conducts tests of Rollin's accounting
systems and other related procedures as it considers necessary to render an
opinion on the financial statements.
The Audit Committee of the Board of Directors, composed solely of outside
directors, meets periodically with Rollins' management, internal auditors and
independent auditors to review matters relating to the quality of financial
reporting and internal accounting controls, and the independent nature, extent
and results of the audit effort. The Committee recommends to the Board
appointment of the independent auditors. Both the internal auditors and the
independent auditors have access to the Audit Committee, with or without the
presence of management.
/s/ GARY W. ROLLINS /s/ HARRY J. CYNKUS
- ------------------- -------------------
Gary W. Rollins Harry J. Cynkus
Chief Executive Officer, President and Chief Financial Officer
Chief Operating Officer and Treasurer
Atlanta, Georgia
February 25, 2005
66
Report of Independent Registered Public Accounting Firm on Internal Control
over Financial Reporting
The Board of Directors and Stockholders of Rollins, Inc.
We have audited management's assessment included in Management's Report on
Internal Controls Over Financial Reporting included in Rollins, Inc.'s Form 10K
for 2004, that Rollins, Inc. (a Delaware Corporation) maintained effective
internal control over financial reporting as of December 31, 2004 based on
criteria established in Internal Control--Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission (COSO).
Rollins, Inc.'s management is responsible for maintaining effective internal
control over financial reporting and for its assessment of the effectiveness of
internal control over financial reporting. Our responsibility is to express an
opinion on management's assessment and an opinion on the effectiveness of the
Company's internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether
effective internal control over financial reporting was maintained in all
material respects. Our audit included obtaining an understanding of internal
control over financial reporting, evaluating management's assessment, testing
and evaluating the design and operating effectiveness of internal control, and
performing such other procedures as we considered necessary in the
circumstances. We believe that our audit provides a reasonable basis for our
opinions.
A company's internal control over financial reporting is a process designed
to provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company's internal control over
financial reporting includes those policies and procedures that (1) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the Company's
assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial
reporting may not prevent or detect misstatements. Also, projections of any
evaluation of effectiveness to future periods are subject to the risk that
controls may become inadequate because of changes in conditions, or that the
degree of compliance with the policies or procedures may deteriorate.
As indicated in Management's Report on Internal Controls Over Financial
Reporting, management's assessment of and conclusion on the effectiveness of
internal control over financial reporting did not include the internal controls
of its wholly-owned subsidiary Western Pest Services which was acquired in 2004
and constituted 26% of total assets as of December 31, 2004 and 6.5% of revenues
for the year then ended. Refer to Note 13 to the consolidated financial
statements for further discussion of this acquisition and its impact on Rollins,
Inc.'s consolidated financial statements. Our audit of internal control over
financial reporting of Rollins, Inc. also did not include an evaluation of the
internal control over financial reporting of Western Pest Services.
In our opinion, management's assessment that Rollins, Inc. maintained
effective internal control over financial reporting as of December 31, 2004, is
fairly stated, in all material respects, based on criteria established in
Internal Control--Integrated Framework issued by the COSO. Also in our opinion,
Rollins, Inc. maintained, in all material respects, effective internal control
over financial reporting as of December 31, 2004, based on criteria established
in Internal Control--Integrated Framework issued by the COSO.
We have also audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the consolidated statement
of financial position of Rollins, Inc. and subsidiaries as of December 31, 2004
and the related consolidated statements of income, stockholders' equity, and
cash
67
flows for the year ended December 31, 2004 and our report dated February 25,
2005 expressed an unqualified opinion on those financial statements.
/s/ Grant Thornton LLP
Atlanta, Georgia
February 25, 2005
68
Report of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders of Rollins, Inc.
We have audited the accompanying consolidated statement of financial
position of Rollins, Inc. and Subsidiaries as of December 31, 2003, and the
related consolidated statements of income, stockholders' equity and cash flows
for each of the two years in the period ended December 31, 2003. Our audits also
included the financial statement schedule for each of the two years in the
period ended December 31, 2003, listed in the Index at Item 15(a). These
financial statements and schedule are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements and schedule based on our audits.
We conducted our audits in accordance with the standards of the Public
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Rollins, Inc.
and Subsidiaries at December 31, 2003, and the consolidated results of their
operations and their cash flows for each of the two years in the period ended
December 31, 2003, in conformity with U.S. generally accepted accounting
principles. Also, in our opinion, the related financial statement schedule for
each of the two years in the period ended December 31, 2003, when considered in
relation to the basic financial statements taken as a whole, presents fairly in
all material respects the information set forth therein.
/s/ ERNST & YOUNG LLP
Atlanta, Georgia
March 15, 2004, except with respect to the first paragraph
of Note 12, as to which the date is March 11, 2005
69