SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
QUARTERLY REPORT UNDER SECTION 13 or 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended March 31, 2001
Commission File Number: 0-20307
AVALON CORRECTIONAL SERVICES, INC.
(Exact name of small business issuer as
specified in its charter)
Nevada 13-3592263
(State of Incorporation) (I.R.S. Employer I.D. Number)
13401 Railway Drive, Oklahoma City, Oklahoma 73114
(Address of principal executive offices)
(405) 752-8802
(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15 (d) of the Exchange Act during the past 12 months (or such shorter
period as the registrant was required to file such reports), and (2) been
subject to such filing requirements for the past 90 days:
Yes X No ___
As of April 25, 2001, 4,765,630 shares of the issuer's Class A common stock, par
value $.001, were issued and outstanding.
Transitional Small Business Disclosure Format: Yes ___; No X .
PART I - FINANCIAL INFORMATION
AVALON CORRECTIONAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
March 31, December 31,
2001 2000
---------------------------------
ASSETS
Current assets:
Cash and cash equivalents $ 943,000 $ 726,000
Related party receivables 402,000 317,000
Accounts receivable, net 2,283,000 3,719,000
Current maturities of notes receivable 2,000 2,000
Prepaid expenses and other 216,000 160,000
---------------------------------
Total current assets 3,846,000 4,924,000
Property and equipment, net 29,409,000 29,673,000
Other assets 4,719,000 4,858,000
---------------------------------
Total assets $ 37,974,000 $ 39,455,000
---------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable, accrued liabilities and 1,026,000 $ 1,477,000
other
Current maturities of long-term debt 1,889,000 2,992,000
--------------------------------
Total current liabilities 2,915,000 4,469,000
Long-term debt, less current maturities 23,444,000 23,614,000
Convertible debentures 3,850,000 3,850,000
---------------------------------
Redeemable Common Stock, $.001 par value
1,622,448 shares issued and outstanding 3,480,000 3,593,000
Stockholders' equity:
Common stock: Par value $.001; 20,000,000
shares authorized; 4,765,630 and
4,765,630 shares issued and outstanding,
less 1,622,448 shares subject to repurchase. 3,000 3,000
Preferred stock; par value $.001; 1,000,000
shares authorized; none issued --- ---
Paid-In capital 7,398,000 7,285,000
Accumulated deficit (3,116,000) (3,359,000)
----------------------------------
Total liabilities and stockholders'equity 37,974,000 $ 39,455,000
----------------------------------
The accompanying notes are an integral part of these consolidated financial
statements.
Page 1
AVALON CORRECTIONAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended
March 31,
2001 2000
---------------------------
Revenues $ 5,949,000 $ 5,248,000
---------------------------
Costs and expenses
Direct operating 4,043,000 3,517,000
General and administrative 442,000 393,000
Depreciation and amortization 395,000 334,000
Interest expense 825,000 789,000
---------------------------
Income from continuing operations
before income tax expense 244,000 215,000
Income tax expense --- ---
------------ --------------
Net income $ 244,000 $ 215,000
---------------------------
Basic income per share:
Net income per share, basic $ 0.05 $ 0.05
---------------------------
Weighted average number of common and
common equivalent shares outstanding, basic 4,765,630 4,715,630
---------------------------
Diluted income per share:
Net income per share, diluted $ 0.05 $ 0.05
---------------------------
Weighted average number of common and
common equivalent shares outstanding, diluted 4,765,630 4,741,430
---------------------------
The accompanying notes are an integral part of these consolidated financial
statements.
Page 2
AVALON CORRECTIONAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOW
(Unaudited)
For the three months ended March 31,
2001 2000
-----------------------------------
OPERATING ACTIVITIES:
Net income $ 244,000 $ 215,000
Adjustments to reconcile net income to
net cash provided by operating activities:
Depreciation 303,000 334,000
Amortization of debt issue costs 139,000 67,000
Changes in operating assets and
liabilities:
Decrease (increase) in -
Accounts receivable 1,351,000 (177,000)
Prepaid expenses and other (56,000) 334,000
Increase (decrease) in accounts payable,
accrued liabilities and other (451,000) (456,000)
-----------------------------------
Net cash provided by operating activities $ 1,530,000 $ 317,000
-----------------------------------
INVESTING ACTIVITIES:
Capital Expenditures $ (39,000) $ (715,000)
Proceeds from payments on notes receivable --- 28,000
-----------------------------------
Net cash used in investing activities $ (39,000) $ (687,000)
-----------------------------------
FINANCING ACTIVITIES:
Proceeds from borrowings 6,849,000 5,332,000
Repayment of borrowings (8,123,000) (4,973,000)
Proceeds from warrant and option exercise --- 67,000
-----------------------------------
Net cash provided (used for) financing (1,274,000) $ 426,000
activities ----------------------------------
NET INCREASE (DECREASE) IN CASH $ 217,000 $ 56,000
CASH, BEGINNING OF PERIOD 726,000 601,000
-----------------------------------
CASH, END OF PERIOD $ 943,000 $ 657,000
-----------------------------------
The accompanying notes are an integral part of these consolidated financial
statements.
Page 3
AVALON CORRECTIONAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Business -
Avalon Correctional Services, Inc. ("Avalon" or the "Company") (formerly
Avalon Community Services, Inc.) is an owner and operator of private community
correctional services. Avalon specializes in privatized community correctional
facilities and intensive correctional programming. Avalon is currently operating
in Oklahoma, Texas and Colorado with plans to significantly expand into
additional states. Avalon's business strategy is designed to elevate the Company
into a dominant provider of community correctional services by expanding its
operations through new state and Federal contracts and selective acquisitions.
Avalon owns a 248-bed minimum security facility in Oklahoma City, Oklahoma; a
266-bed minimum security facility in Tulsa, Oklahoma; a 168-bed adult minimum
security facility in Tulsa, Oklahoma; a 150-bed medium security facility in El
Paso, Texas; a 300-bed medium security facility in El Paso, Texas; a 160-bed
medium security juvenile facility in Union City, Oklahoma; a 115-bed minimum
security facility in Henderson, Colorado; and a 300-bed minimum security
multi-use facility in Greeley, Colorado. Avalon also operates a 37-bed minimum
security facility in Denver, Colorado, and a day reporting center in Northglen,
Colorado. The Colorado community corrections programs also provide
non-residential services to approximately 520 offenders in the State of
Colorado.
Principles of Consolidation -
The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiaries after elimination of all material intercompany
balances and transactions.
Use of Estimates -
The preparation of the consolidated financial statements requires the use
of management's estimates and assumptions in determining the carrying values of
certain assets and liabilities and disclosures of contingent assets and
liabilities at the date of the consolidated financial statements and the
reported amounts for certain revenues and expenses during the reporting period.
Actual results could differ from those estimated.
Cash and Cash Equivalents -
The Company considers all highly liquid investments with original
maturities of three months or less when purchased and money market funds to be
cash equivalents.
Concentrations of Credit Risk -
Financial instruments potentially subjecting the Company to concentrations
of credit risk consist principally of temporary cash investments, accounts
receivable and notes receivable. The Company places its temporary cash
investments with high credit quality financial institutions and money market
funds and limits the amount of credit exposure to any one institution or fund.
Concentrations of credit risk with respect to accounts receivable are limited
due to the fact that a significant portion of the Company's receivables are from
state governments. The Company maintains an allowance for doubtful accounts for
potential credit losses. Actual bad debt expenses have not been material.
Page 4
Property and Equipment -
Property and equipment are recorded at cost. Expenditures for major
additions and improvements are capitalized, while minor replacements,
maintenance and repairs are charged to expense as incurred. When property and
equipment is retired or otherwise disposed of, the cost and related accumulated
depreciation are removed from the accounts and any resulting gain or loss is
reflected in current operations. Depreciation is provided using the
straight-line method over the following estimated useful lives:
Buildings and Improvements 40 Years
Furniture and Equipment 5 to 7 Years
Transportation Equipment 3 to 15 Years
Impairment losses are recorded on long-lived assets when indicators of
impairment are present and the undiscounted cash flows estimated to be generated
by those assets are less than the assets'carrying amounts. Impairment losses
are recognized based upon the estimated fair value of the asset when required.
Income Taxes -
Deferred income taxes are recognized for the tax consequences in future
years of differences between the tax bases of assets and liabilities and their
financial reporting amounts at each year-end based on enacted tax laws and
statutory tax rates applicable to the period in which the differences are
expected to affect taxable income. Valuation allowances are established when
necessary to reduce deferred tax assets to the amount expected to be realized.
Income tax expense is the tax payable for the period and the change during the
period in deferred tax assets and liabilities.
Revenue Recognition -
The Company recognizes revenues as services are provided. Revenues are
earned based upon the number of inmates on a per diem basis at the Company's
correctional facilities. Correctional revenues are received monthly from various
governmental agencies.
Development Costs -
The Company expenses development and new facility opening costs as incurred.
Net Income Per Common Share -
Basic net income per share has been computed on the basis of weighted
average shares outstanding during each period. Diluted income per share has been
computed based on the assumption that all dilutive options and warrants are
exercised.
Interim Financial Statements -
The consolidated balance sheet as of March 31, 2001 and the statements of
operations and cash flows for the three months ended March 31, 2001 and 2000 are
unaudited and, in the opinion of management, reflect all adjustments that are
necessary for a fair presentation of the financial position as of such date and
the results of operations and cash flows for the period then ended. All such
adjustments are of a normal and recurring nature.
The financial statements included herein have been prepared in conformity
with generally accepted accounting principles and should be read in conjunction
with the December 31, 2000 Form 10-KSB filing. Footnote disclosures which would
substantially duplicate the disclosure contained in the most recent annual
report on Form 10-KSB have been condensed or omitted. The results of operations
for the three months ended March 31, 2001, are not necessarily indicative of the
results that may be expected for the entire year ended December 31, 2001.
Page 5
NOTE 2. LONG-TERM DEBT
Long-term debt consists of the following:
March 31, December 31,
2001 2000
----------- ------------
Revolving bank line of credit, collateralized by 259,000 $ 1,070,000
accounts receivable, with interest at 1% over
prime (effective rate of 9.00% at March 31, 2001;
due February 2003.)
Notes payable to banks, collateralized by transportation
equipment, due in installments through March 2012
with interest ranging from 4.90% to 9.49%. 772,000 806,000
Notes payable to banks, collateralized by land,
buildings, and improvements due in installments
through June 2012 with interest ranging from
8.95% to 11%. 14,021,000 14,441,000
Note payable to an investment company, uncollateralized
with interest at 12.5%, due in four installments
beginning in 2005, including original issue premium 10,281,000 10,289,000
------------ -----------
$25,333,000 $26,606,000
Less - current maturities $ 1,889,000 $ 2,992,000
----------- -----------
$23,444,000 $23,614,000
----------- -----------
The Company completed a $15,000,000 private placement of debt and equity
with an investment company on September 16, 1998. Pursuant to the terms of the
agreement, the Company tendered an unsecured subordinated note with a face value
of $10,000,000 bearing interest of 12.5% with interest payable in quarterly
installments until December 31, 2005, when the first of four quarterly principal
installments is due. The Company also tendered 1,622,448 shares of redeemable
common stock to the investment company. These shares are subject to repurchase
by the Company under certain circumstances, or beginning September 16, 2003 at
the holders option, at the then current average traded price of the stock. The
Company is accreting the difference between the carrying value and the estimated
redemption price of the stock by periodic charges / credits to additional
paid-in capital. The financial covenants require the Company, among other
things, to maintain certain earnings and debt coverage ratios.
The Company obtained an independent fair value appraisal of the debt and
equity instruments reflecting a fair value allocation of the debt of $10,365,000
and the fair value allocation of the redeemable common stock of $4,635,000. The
original issue premium of $365,000 is being accreted as a reduction of interest
expense over the term of the debt instrument. Debt issue costs of $1,654,000
(including $266,000 representing the fair value of warrants issued to financial
advisors) have been allocated to the debt and redeemable common stock based upon
their fair values. Costs of $511,000 allocated to the redeemable common stock
reduced its original book value to $4,124,000. Costs of $1,143,000 allocated to
the debt instrument are included in other assets and are being amortized to
interest expense over the life of the debt instrument using the effective
interest method.
Page 6
NOTE 3. CONVERTIBLE DEBENTURES
The Company completed a private placement of $4,150,000 of convertible
debentures on September 12, 1997. The convertible debentures bear interest at
7.5% and mature on September 12, 2007. The convertible debentures may be
redeemed by the Company at any time after May, 2000 at 106.5% of principal,
declining to 100% at maturity. The convertible debentures are convertible into
common stock at $3.00 per share at any time until their maturity. The
convertible debenture holders signed agreements to subordinate the debentures to
the $10,000,000 face value note issued on September 16, 1998. The Company
redeemed $300,000 of convertible debentures at face value in September 1998.
NOTE 4. STOCKHOLDERS' EQUITY
The Company issued 200,000 Class D stock purchase warrants in August 1996,
in connection with the acquisition of the El Paso Intermediate Sanction
Facility. The Class D stock purchase warrants provide for the purchase of the
Company's common stock at any time until their expiration at August 2, 2001. The
exercise price of the class D warrants is $4.20 per share as of the end of the
quarter. The warrants may be redeemed by the Company upon certain events for
$.01 per share.
The Company issued Class E Warrants to purchase 79,000 shares of Common
Stock in September 1997, in connection with the private placement of Convertible
Debentures. The Company recognized $148,000 of cost based upon the difference in
the exercise price of the Class E warrants and the current market price of the
common stock on the date of issuance. This cost was recorded as debenture issue
costs and is classified in other assets on the balance sheet. The debenture
issue cost is amortized to expense over the term of the convertible debentures.
The Class E stock purchase warrants provide for the purchase of the Company's
common stock at a price of $3.00 per share at any time until their expiration at
August 2, 2001. The warrants may be redeemed by the Company upon certain events
for $.01 per share.
The Company issued 200,539 stock purchase warrants to financial advisors in
September 1998, in connection with the $15,000,000 private placement. The stock
purchase warrants provide for the purchase of the Company's common stock at any
time until their expiration at September 2002. The exercise price of the
warrants is $3.75 per share as of the end of the quarter. The warrants may be
redeemed by the Company upon certain events for $.01 per share. The fair value
of the warrants was allocated between the proceeds the debt and equity issues as
debt issue cost and a reduction in redeemable common stock.
A 1994 agreement provided for the issuance of an option to issue 750,000
common stock purchase warrants to purchase common stock at $1.50 per share for
each dollar of Company debt guaranteed by the Company's CEO. The warrants have a
five year term from the date of issuance, March 9, 2001.
NOTE 5. STOCK OPTION PLAN
The Company adopted a stock option plan (the "Plan") providing for the
issuance of 250,000 shares of Class A common stock pursuant to both incentive
stock options, intended to qualify under Section 422 of the Internal Revenue
Code, and options that do not qualify as incentive stock options
("non-statutory"). The Option Plan was registered with the Securities and
Exchange Commission in November 1995. The purpose of the Plan is to provide
continuing incentives to the Company's officers, key employees, and members of
the Board of Directors.
The options generally vest within five years and have a ten year expiration
period. The Company amended its stock option plan on December 1, 1996,
increasing the number of shares available under the Plan to 600,000.
Non-statutory options have been granted providing for the issuance of 557,080
shares of Class A common stock at exercise prices ranging from $1.50 to $4.25
per share. Options providing for the issuance of 420,753 shares were exercisable
at March 31, 2001.
NOTE 6. LITIGATION
The Company is a party to litigation arising in the normal course of
business. Management believes that the ultimate outcome of these matters will
not have a material effect on the Company's financial condition or results of
operations.
Page 7
NOTE 7. EARNINGS PER SHARE
The following table sets forth the computation of income per share and
income per share assuming dilution.
Three months ended
March 31,
2001 2000
--------- ---------
Numerator
Net income $ 244,000 $ 215,000
--------- ---------
Denominator for earnings per share
Weighted average shares outstanding - basic 4,765,630 4,715,630
Effect of dilutive securities
- stock options --- 25,800
--------- ---------
Denominator for earnings per share assuming 4,765,630 4,741,430
dilution
--------- ---------
Income per share, basic $ 0.05 $ 0.05
--------- ---------
Income per share assuming dilution $ 0.05 $ 0.05
--------- ----------
Page 8
AVALON CORRECTIONAL SERVICES, INC. AND SUBSIDIARIES
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Liquidity and Capital Resources -
The Company's business strategy is to focus on the private corrections
industry, expanding its operations into additional states through new Federal
and state contracts and selective acquisitions. The successful implementation of
the Company's growth plan has created the need for additional capital and
financing. The Company has been successful in securing $37 million of new
capital and credit facilities since September 1997.
The Company had approximately $2.0 million of cash and revolving credit
available for new projects at March 31, 2001. The Company believes it has
adequate cash reserves and cash flow from operations to meet its current cash
requirements. The Company expects current contracts to generate sufficient
income to increase cash reserves, while minimizing income taxes through the
utilization of tax loss carryforwards.
The Company secured an $18 million senior credit facility with Fleet
Capital Corporation in February 1999. The credit facility with Fleet Capital
Corporation was amended in December of 1999 to provide for a credit facility
consisting of a $13.5 million term loan and a revolving line of credit equal to
the lesser of $3 million or 80% of eligible accounts receivable.
Results of Operations -
Three Months Ended March 31,2001 Compared to the Three Months Ended March 31,
2000.
Total revenues increased by 13% to $5.95 million for the three months ended
March 31, 2001 from $5.25 million for the three months ended March 31, 2000. The
increase was a result of overall higher inmate populations.
The Company had net income for the three months ended March 31, 2001 of
$244,000 or $.05 basic and diluted income per share, as compared to net income
for the three months ended March 31, 2000 of $215,000 or $.05 basic and diluted
earnings per share. The Company's significant improvement was the result of
overall higher inmate populations.
Earnings before interest, taxes, depreciation, and amortization (EBITDA)
increased 9% for the three months ended March 31, 2001 to $1,464,000 compared to
$1,338,000 for the three months ended March 31, 2000.
Corporate. General and administrative expenses increased to $442,000 for
the three months ended March 31, 2001 from $393,000 for the three months ended
March 31, 2000. General and administrative expenses represented 7.4 % of
revenues in the first quarter of 2001 and 7.5% of revenues for the first quarter
of 2000. General and administrative expenses increased primarily due to
increased staffing for the Company's new contracts and acquisitions. The
increase in interest expense of $36,000 for the three months ended March 31,
2001 over the first quarter of 2000 resulted from higher interest rates.
Depreciation and amortization expense have increased commensurate with the
growth of the correctional operations.
Page 9
AVALON CORRECTIONAL SERVICES, INC. AND SUBSIDIARIES
PART II - OTHER INFORMATION
Item 1. Legal Proceedings - None.
Item 2. Changes in Securities - None.
Item 3. Defaults Upon Senior Securities - None.
Item 4. Submission of Matters to a Vote of Security Holders - None.
Item 5. Other Information - None.
Item 6. Exhibits - None
Page 10
AVALON CORRECTIONAL SERVICES, INC. AND SUBSIDIARIES
SIGNATURES
In accordance with the requirement of the Exchange Act, the registrant has
caused this report to be signed on its behalf by the undersigned thereunto duly
authorized.
Date: May 3, 2001 AVALON CORRECTIONAL SERVICES, INC.
By: //s// Donald E. Smith
Donald E. Smith, Chief Executive Officer
By: //s// Lloyd Lovely
Lloyd Lovely, Vice President of Finance