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 September 30, 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 November 7, 2001, 4,847,624 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)
September 30, December 31,
2001 2000
_____________________________
ASSETS
Current assets:
Cash and cash equivalents $ 1,153,000 $ 726,000
Related party receivables 255,000 317,000
Accounts receivable, net 2,591,000 3,721,000
Prepaid expenses and other 251,000 160,000
_________ _________
Total current assets $ 4,250,000 $ 4,924,000
Property and equipment, net 29,860,000 29,673,000
Other assets 4,436,000 4,858,000
__________ __________
Total assets $ 38,546,000 $ 39,455,000
__________ __________
__________ __________
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable, accrued liabilities and other $ 1,504,000 $ 1,477,000
Current maturities of long-term debt 1,887,000 2,992,000
_________ _________
Total current liabilities $ 3,391,000 $ 4,469,000
Long-term debt, less current maturities 22,710,000 23,614,000
Convertible debentures 3,850,000 3,850,000
Redeemable Common Stock, $.001 par value
1,622,448 shares issued and outstanding 3,503,000 3,593,000
Stockholders' equity:
Common stock:Par value $.001; 20,000,000 shares
authorized; 4,847,624 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 7,503,000 7,285,000
Accumulated deficit (2,414,000) (3,359,000)
__________ ___________
Total liabilities and stockholder's equity $ 38,546,000 $ 39,455,000
__________ ___________
__________ ___________
The accompanying notes are an integral part of these consolidated
financial statements.
AVALON CORRECTIONAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
2001 2000 2001 2000
_____________________________________________
Revenues $6,359,000 $6,084,000 $18,623,000 $16,749,000
_____________________________________________
Costs and expenses
Direct operating $4,211,000 $4,003,000 $12,736,000 $11,031,000
General and administrative 527,000 508,000 1,277,000 1,371,000
Depreciation and amortization 508,000 428,000 1,367,000 1,099,000
Interest expense 718,000 890,000 2,298,000 2,549,000
____________________________________________
Income from continuing operations
before income tax expense $395,000 $255,000 $945,000 $699,000
Income tax expense --- --- --- ---
____________________________________________
Net income $395,000 $255,000 $945,000 $699,000
____________________________________________
____________________________________________
Basic income per share:
Net income per share, basic $0.08 $0.05 $0.20 $0.15
____________________________________________
____________________________________________
Weighted average number of common
and common equivalent shares
outstanding, basic 4,838,520 4,765,630 4,794,737 4,741,725
____________________________________________
____________________________________________
Diluted income per share:
Net income per share, diluted $0.07 $0.05 $0.19 $0.15
____________________________________________
____________________________________________
Weighted average number of common
and common equivalent shares
outstanding, diluted 6,445,786 4,873,410 6,277,861 4,813,749
____________________________________________
____________________________________________
The accompanying notes are an integral part of these consolidated
financial statements.
AVALON CORRECTIONAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
For the nine months ended September 30,
2001 2000
_______________________________________
OPERATING ACTIVITIES:
Net income $ 945,000 $ 699,000
Adjustments to reconcile net income to
net cash provided by operating activities:
Depreciation expense 815,000 763,000
Change in other assets 422,000 336,000
Changes in operating assets
and liabilities
Decrease (increase) in
Accounts receivable 1,166,000 (307,000)
Prepaid expenses and other (65,000) 227,000
Increase (decrease) in accounts
payable and accured liabilities 27,000 (36,000)
___________ ____________
Net cash provided by operating
activities $ 3,310,000 $ 1,682,000
INVESTING ACTIVITIES:
Capital expenditures (1,002,000) (1,252,000)
Proceeds from payments on notes
receivable --- 29,000
____________ ____________
Net cash used in investing activities $ (1,002,000) $ (1,223,000)
____________ ____________
FINANCING ACTIVITIES:
Proceeds from borrowings 19,933,000 18,002,000
Repayment of borrowings (21,941,000) (18,382,000)
Proceeds from warrant and option exercises 127,000 67,000
____________ ____________
Net cash used in financing activities $ (1,881,000) $ (313,000)
____________ ____________
NET INCREASE IN CASH 427,000 146,000
CASH, BEGINNING OF PERIOD 726,000 601,000
___________ ____________
CASH, END OF PERIOD $ 1,153,000 $ 747,000
___________ ____________
___________ ____________
The accompanying notes are an integral part of these consolidated
financial statements.
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.
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 are 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. The difference between income tax expense computed at the
statutory rate and income tax expense per book is the result of a change
in valuation allowance.
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,
warrants, and convertible instruments are exercised.
Interim Financial Statements -
The consolidated balance sheet as of September 30, 2001 and the
statements of operations and cash flows for the three months and nine
months ended September 30, 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 periods 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 and
nine months ended September 30, 2001, are not necessarily indicative of
the results that may be expected for the entire year ended December 31,
2001.
NOTE 2. LONG-TERM DEBT
Long-term debt consists of the following: September 30, December 31,
2001 2000
_____________ ____________
Revolving Bank line of Credit, $ 23,000 $ 1,070,000
collateralized by accounts receivable,
with interest at 1% over prime(effective
rate of 6.25% at September 30, 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%. 795,000 806,000
Notes payable to banks, collateralized by
land, buildings, and improvements due in
installments through June 2012 with
interest ranging from 6.56% to 11%. 13,516,000 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 preminum 10,263,000 10,289,000
__________ __________
$ 24,597,000 26,606,000
Less - current maturities (1,887,000) (2,992,000)
__________ __________
$ 22,710,000 $ 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.
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 expired on August
2, 2001.
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 on
September 12, 2002. 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 of 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 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 464,560 shares of Class A common stock at exercise prices
ranging from $1.50 to $4.25 per share. Options providing for the issuance
of 376,135 shares were exercisable at September 30, 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.
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 Nine months ended
September 30, September 30,
2001 2000 2001 2000
________ ________ ________ ________
Numerator
Net income $ 395,000 $ 255,000 $ 945,000 $ 699,000
Plus interest on cenvertible
debentures 72,000 -- 217,000 --
_______ _________ ________ _______
Income available to common
stockholders plus assumed
conversions $ 467,000 $ 255,000 $1,162,000 $ 699,000
_______ _________ _________ _______
Denominator for earnings per
share
Weighted average shares
outstanding - basic 4,838,520 4,765,630 4,794,737 4,741,725
Effect of dilutive securities
- stock options and warrants 323,933 107,780 199,791 72,024
- convertible debentures 1,283,333 -- 1,283,333 --
_________ _________ _________ _________
Demoninator for earnings per
share assuming dilution 6,445,786 4,873,410 6,277,861 4,813,749
_________ _________ _________ _________
_________ _________ _________ _________
Income per share, basic $ 0.08 $ 0.05 $ 0.20 $ 0.15
_________ _________ _________ _________
_________ _________ _________ _________
Income per share assuming
dilution $ 0.07 $ 0.05 $ 0.19 $ 0.15
_________ _________ _________ _________
_________ _________ _________ _________
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 Compan'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 $3.1 million of cash and revolving
credit available for new projects at September 30, 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.
Cash flows for the first nine months of the year are significantly
better than the first nine months of the previous year primarily due to
increased collections of accounts receivable. These collections had
slowed at the end of the year 2000, thereby inflating the collections for
the first two months of the current year, when receivables returned to
normal levels.
Results of Operations -
Three Months Ended September 30, 2001 Compared to the Three Months Ended
September 30, 2000.
Total revenues increased by 5% to $6,359,000 for the three months ended
September 30, 2001 from $6,084,000 for the three months ended September
30, 2000. The increase was a result of overall higher inmate populations.
The Company had net income for the three months ended September 30,
2001 of $395,000 or $.08 basic and $.07 diluted income per share, as
compared to net income for the three months ended September 30, 2000 of
$255,000 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 3% for the three months ended September 30, 2001 to
$1,621,000 compared to $1,573,000 for the three months ended September 30,
2000.
Corporate. General and administrative expenses were $527,000 for the
three months ended September 30, 2001, compared to $508,000 for the three
months ended September 30, 2000. These expenses are 8.3 % of revenues
in the third quarter of 2001 and 8.4% of revenues for the third quarter
of 2000. The decrease in interest expense of $172,000 for the three months
ended September 30, 2001 over the third quarter of 2000 resulted from
significantly lower interest rates and slightly less outstanding debt.
Depreciation and amortization expenses have increased commensurate with
the growth of the correctional operations.
Nine Months Ended September 30, 2001 Compared to the Nine Months Ended
September 30, 2000.
Revenues for the first three quarters of 2001 increased 11% to
$18,623,000 compared to $16,749,000 for the same period in 2000. The
Company had net income for the nine months ended September 30, 2001 of
$945,000 or $.20 basic and $.19 diluted income per share, as compared to
net income for the nine months ended September 30, 2000 of $699,000 or
$.15 basic and diluted income per share. The Company's improvement was
the result of the aforementioned higher inmate populations.
Earnings before interest, taxes, depreciation, and amortization
(EBITDA) increased 6% for the nine months ended September 30, 2001 to
$4,610,000 compared to $4,347,000 for the nine months ended September 30,
2000.
Corporate. General and administrative expenses were $1,277,000 for the
nine months ended September 30, 2001 compared to $1,371,000 for the nine
months ended September 30, 2000. These expenses are 6.9% of revenues for
the nine months ended September 30, 2001 compared to 8.2% of revenues for
the nine months ended September 30, 2000. Depreciation and amortization
expenses have increased commensurate with the growth of the correctional
operations. Interest expense declined significantly due to rate decreases
from the primary lender and less quantity of debt.
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.
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: November 7, 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