UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM __________ TO __________
COMMISSION FILE NUMBER: 1-13011
COMFORT SYSTEMS USA, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 76-0526487
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
777 POST OAK BOULEVARD
SUITE 500
HOUSTON, TEXAS 77056
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
Registrant's telephone number, including area code: (713) 830-9600
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 [ ]
The number of shares outstanding of the issuer's common stock, as of
November 16, 1998, was 37,088,733.
COMFORT SYSTEMS USA, INC.
INDEX TO FORM 10-Q
FOR THE QUARTER ENDED SEPTEMBER 30, 1998
PAGE
Part I -- Financial Information
Item 1 -- Financial Statements
COMFORT SYSTEMS USA, INC. PRO FORMA COMBINED
Introduction to Pro Forma Combined Statements of Operations 1
Pro Forma Combined Statements of Operations..................... 3
Note to Pro Forma Combined Statements of Operations............. 4
COMFORT SYSTEMS USA, INC.
Condensed Consolidated Balance Sheets........................... 5
Condensed Consolidated Statements of Operations................. 6
Condensed Consolidated Statements of Stockholders' Equity ...... 7
Condensed Consolidated Statements of Cash Flows................. 8
Notes to Condensed Consolidated Financial Statements............ 9
Item 2 -- Management's Discussion and Analysis of Financial Condition
and Results Of Operations.................................... 15
Part II -- Other Information
Item 1 -- Legal Proceedings............................................. 20
Item 2 -- Recent Sales of Unregistered Securities....................... 20
Item 6 -- Exhibits and Reports on Form 8-K.............................. 20
Item 9 -- Changes and Disagreements with Accountants on Accounting and
Financial Disclosure............................................ 20
Signature............................................................... 21
COMFORT SYSTEMS USA, INC.
PART I, ITEM 1 -- FINANCIAL INFORMATION
GENERAL INFORMATION
INTRODUCTION TO PRO FORMA COMBINED STATEMENTS OF OPERATIONS
Comfort Systems USA, Inc. ("Comfort Systems" and collectively with its
subsidiaries, the "Company") was founded in December 1996 to become a leading
national provider of heating, ventilation and air conditioning ("HVAC")
services, focusing primarily on the commercial and industrial markets.
On July 2, 1997, the Company completed the initial public offering (the
"IPO") of its common stock (the "Common Stock") and simultaneously acquired 12
companies (collectively referred to as the "Founding Companies") engaged
principally in the commercial and industrial HVAC business. The closing of the
acquisitions of the Founding Companies and the IPO occurred on July 2, 1997. The
acquisitions of the Founding Companies have been accounted for using the
purchase method of accounting.
Subsequent to July 2, 1997, and through September 30, 1998, the Company
acquired 70 additional HVAC and complementary businesses (collectively with the
Founding Companies referred to as the "Acquired Companies"). Of these additional
businesses acquired, 17 acquisitions were accounted for as poolings-of-interests
(the "Pooled Companies"). The remaining businesses acquired were accounted for
as purchases (the "Purchased Companies").
On June 16, 1998, the Company completed a second public offering (the "Second
Public Offering") of 400,000 shares of its Common Stock. The net proceeds from
this offering of $7.6 million were used to repay debt.
The following unaudited pro forma combined statements of operations assume
that the IPO and the acquisitions of the Founding Companies were consummated on
January 1, 1997. This pro forma presentation also gives effect to the
retroactive restatement to January 1, 1997, of 16 of the 17 Pooled Companies and
reflects the acquisitions of the Purchased Companies acquired subsequent to the
IPO through September 30, 1998, from the date of their respective acquisitions.
This presentation is not intended to be in accordance with the regulations
promulgated by the Securities and Exchange Commission.
The Acquired Companies were managed prior to their acquisitions as
independent private companies. Therefore, historical selling, general and
administrative expenses for the periods presented in the condensed consolidated
statements of operations reflect compensation and related benefits those owners
received from their respective businesses prior to acquisition. Historical
selling, general and administrative expenses also include the non-recurring,
non-cash compensation charge of $11.6 million recorded by Comfort Systems in the
first quarter of 1997 related to Common Stock issued to management of and
consultants to the Company (the "Compensation Charge") prior to the IPO. The pro
forma combined adjustments reflect (a) a decrease in selling, general and
administrative expenses to exclude the Compensation Charge for the first quarter
of 1997, (b) certain reductions in salaries and benefits to the former owners of
the Acquired Companies which they agreed would take effect as of the date of
acquisition (the "Compensation Differential"), (c) pro forma combined
compensation expense of $430,000 for the nine months ended September 30, 1997,
to reflect the ongoing salaries received by corporate management of the Company
as though those salaries were paid prior to the IPO, (d) amortization of
goodwill related to the Founding Companies, and (e) pro forma interest expense
on borrowings that would have been necessary to fund certain S Corporation
Distributions related to the Founding Companies, as if those distributions had
been made on January 1, 1997. In addition, an incremental tax provision has been
recorded as if all applicable Purchased and Founding Companies, and Pooled
Companies, which were C Corporations, had been subject to federal and state
income taxes.
1
Historical and pro forma interim periods results are not necessarily
indicative of future results because, among other things, the Acquired Companies
were not under common control or management prior to their acquisition. The
Company's results of operations historically have been subject to seasonal
fluctuations. These pro forma combined statements of operations should be read
in conjunction with the additional information and the respective financial
statements and related notes of Comfort Systems and the Founding Companies
included in the Annual Report on Form 10-K as filed with the Securities and
Exchange Commission.
2
COMFORT SYSTEMS USA, INC.
PRO FORMA COMBINED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
NINE MONTHS ENDED
SEPTEMBER 30,
------------------------
1997 1998
--------- ---------
REVENUES ......................................... $ 262,116 $ 559,339
COST OF SERVICES ................................. 191,066 423,223
--------- ---------
Gross profit .................................. 71,050 136,116
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES ..... 44,466 85,845
GOODWILL AMORTIZATION ............................ 2,623 4,642
--------- ---------
Operating income .............................. 23,961 45,629
OTHER INCOME (EXPENSE):
Interest expense, net ......................... (669) (3,731)
Other income, net ............................. 128 156
--------- ---------
Other income (expense) ..................... (541) (3,575)
--------- ---------
INCOME BEFORE INCOME TAXES ....................... 23,420 42,054
PROVISION FOR INCOME TAXES ....................... 9,390 18,394
--------- ---------
PRO FORMA COMBINED NET INCOME .................... $ 14,030 $ 23,660
========= =========
PRO FORMA COMBINED NET INCOME PER SHARE:
Basic ......................................... $ .56 $ .75
========= =========
Diluted ....................................... $ .55 $ .74
========= =========
SHARES USED IN COMPUTING PRO FORMA COMBINED
NET INCOME PER SHARE:
Basic ......................................... 25,080 31,689
========= =========
Diluted ....................................... 25,297 32,179
========= =========
This pro forma combined financial information may not be comparable to and
may not be indicative of the Company's future results of operations because the
Acquired Companies were not under common control or management prior to their
acquisition.
The accompanying note is an integral part of these pro forma combined statements
of operations.
3
COMFORT SYSTEMS USA, INC.
NOTE TO PRO FORMA COMBINED STATEMENTS OF OPERATIONS
The computation of the weighted average shares outstanding for pro forma
combined net income per share for the nine months ended September 30, 1997 and
1998, is calculated as follows (in thousands):
NINE MONTHS ENDED
SEPTEMBER 30,
1997 1998
------ ------
Shares issued in connection with the acquisitions of the
Founding Companies ............................................ 9,721 9,721
Shares sold pursuant to the IPO ................................ 6,100 6,100
Shares held by Notre Capital Ventures II, L.L.C. ("Notre"),
Comfort Systems' management and consultants ................... 4,240 4,240
Shares issued in connection with the acquisitions
of the Pooled Companies ....................................... 5,946 5,946
Shares sold in connection with the underwriter's overallotment
for the IPO and Second Public Offering ........................ 272 1,037
Weighted average portion of shares issued in connection with
the acquisition of the Purchased Companies .................... 4 4,482
Weighted average portion of shares sold in the
Second Public Offering ........................................ -- 152
Weighted average portion of shares issued in connection with the
Employee Stock Purchase Plan .................................. -- 6
Weighted average portion of shares issued in connection with the
exercise of stock options ..................................... -- 5
Less: Shares sold in the IPO that were not used for the
cash portion of the acquisition of the Founding Companies ..... 1,203
------ ------
Weighted average shares outstanding - Basic .................... 25,080 31,689
Weighted average portion of shares related to stock options
under the treasury stock method ............................... 217 490
------ ------
Weighted average shares outstanding - Diluted .................. 25,297 32,179
====== ======
4
COMFORT SYSTEMS USA, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
(UNAUDITED)
DECEMBER 31, SEPTEMBER 30,
1997 1998
-------- --------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents ................................ $ 18,097 $ 9,687
Accounts receivable, less allowance of $1,698 and
$3,526 .................................................. 84,422 191,079
Other receivables ........................................ 884 2,360
Inventories .............................................. 7,360 13,209
Prepaid expenses and other ............................... 4,749 10,602
Costs and estimated earnings in excess of billings ....... 14,034 26,595
Total current assets ............................... 129,546 253,532
PROPERTY AND EQUIPMENT, net ................................. 13,649 26,054
GOODWILL, less accumulated amortization of $1,851 and
$6,493 ..................................................... 163,126 310,452
OTHER NONCURRENT ASSETS ..................................... 2,226 10,611
-------- --------
Total assets ....................................... $308,547 $600,649
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current maturities of long-term debt ..................... $ 2,329 $ 6,821
Accounts payable ......................................... 28,354 56,728
Accrued compensation and benefits ........................ 7,522 21,280
Billings in excess of costs and estimated
earnings ................................................ 11,525 31,220
Income taxes payable ..................................... 4,889 3,259
Other current liabilities ................................ 11,676 16,856
-------- --------
Total current liabilities .......................... 66,295 136,164
DEFERRED INCOME TAXES ....................................... 1,061 889
LONG-TERM DEBT, NET OF CURRENT MATURITIES ................... 21,934 127,969
OTHER LONG-TERM LIABILITIES ................................. 1,501 1,309
-------- --------
Total liabilities .................................. 90,791 266,331
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred Stock, $.01 par, 5,000,000 shares authorized, none
issued and outstanding ................................. -- --
Common stock, $.01 par, 102,969,912 shares authorized,
28,013,436 and 34,922,169 shares issued and
outstanding, respectively .............................. 280 349
Additional paid-in capital ............................... 205,827 300,644
Retained earnings ........................................ 11,649 33,325
-------- --------
Total stockholders' equity ......................... 217,756 334,318
-------- --------
Total liabilities and stockholders' equity ......... $308,547 $600,649
======== ========
Reflects a 121.1387-for-one stock split effective on March 19, 1997
The accompanying notes are an integral part of these condensed consolidated
financial statements.
5
COMFORT SYSTEMS USA, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------------- -----------------------------
1997 1998 1997 1998
--------- --------- --------- ---------
REVENUES ........................................... $ 97,454 $ 232,381 $ 175,411 $ 559,339
COST OF SERVICES ................................... 70,249 175,308 128,481 423,223
--------- --------- --------- ---------
Gross profit .............................. 27,205 57,073 46,930 136,116
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES ........................................ 17,832 34,405 46,758 87,609
GOODWILL AMORTIZATION .............................. 883 1,854 883 4,642
--------- --------- --------- ---------
Operating income (expense) ................ 8,490 20,814 (711) 43,865
OTHER INCOME (EXPENSE):
Interest income .............................. 586 233 778 625
Interest (expense) ........................... (561) (1,941) (825) (4,356)
Other ........................................ 24 137 18 156
--------- --------- --------- ---------
Other income (expense) .................... 49 (1,571) (29) (3,575)
--------- --------- ---------
INCOME (LOSS) BEFORE INCOME TAXES .................. 8,539 19,243 (740) 40,290
PROVISION FOR INCOME TAXES ......................... 4,899 8,444 4,575 17,687
--------- --------- --------- ---------
NET INCOME (LOSS) .................................. $ 3,640 $ 10,799 $ (5,315) $ 22,603
========= ========= ========= =========
NET INCOME (LOSS) PER SHARE:
Basic ........................................ $ .14 $ .32 $ (.33) $ .71
========= ========= ========= =========
Diluted ...................................... $ .13 $ .31 $ (.33) $ .70
========= ========= ========= =========
SHARES USED IN COMPUTING NET INCOME
(LOSS) PER SHARE:
Basic ........................................ 26,834 33,964 16,013 31,689
========= ========= ========= =========
Diluted ...................................... 27,485 34,454 16,230 32,179
========= ========= ========= =========
Reflects a 121.1387-for-one stock split effective on March 19,1997
The accompanying notes are an integral part of these condensed consolidated
financial statements.
6
COMFORT SYSTEMS USA, INC.
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
(UNAUDITED)
COMMON STOCK ADDITIONAL RETAINED TOTAL
------------------------- PAID-IN EARNINGS STOCKHOLDERS'
SHARES AMOUNT CAPITAL (DEFICIT) EQUITY
---------- ---------- ---------- ---------- ----------
BALANCE AT DECEMBER 31, 1996 .......................... 5,859,881 $ 58 $ 188 $ 14,843 $ 15,089
Issuance of Common Stock:
Initial Public Offering ......................... 7,015,000 70 79,805 -- 79,875
Acquisition of Founding Companies ............... 9,720,927 98 100,999 -- 101,097
Issuance of management shares.................... 4,118,708 41 11,556 -- 11,597
Acquisition of Purchased Companies .............. 1,092,489 11 13,253 -- 13,264
S Corporation distributions made by certain
Pooled Companies ................................ -- -- -- (2,173) (2,173)
Pooling not restated ............................... 206,431 2 26 853 881
Net loss ........................................... -- -- -- (1,874) (1,874)
---------- ---------- ---------- ---------- ----------
BALANCE AT DECEMBER 31, 1997 .......................... 28,013,436 280 205,827 11,649 217,756
Issuance of Common Stock:
Second Public Offering .......................... 861,479 9 15,892 -- 15,901
Acquisition of Purchased Companies .............. 6,000,485 60 78,225 -- 78,285
Employee Stock Purchase Plan shares ............. 29,362 -- 482 -- 482
Exercise of Options ............................. 17,407 -- 218 -- 218
S Corporation distributions made by certain
Pooled Companies ................................ -- -- -- (927) (927)
Net income ......................................... -- -- -- 22,603 22,603
---------- ---------- ---------- ---------- ----------
BALANCE AT SEPTEMBER 30, 1998 ......................... 34,922,169 $ 349 $ 300,644 $ 33,325 $ 334,318
========== ========== ========== ========== ==========
Reflects a 121.1387-for-one stock split effective on March 19, 1997
The accompanying notes are an integral part of these condensed consolidated
financial statements.
7
COMFORT SYSTEMS USA, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
NINE MONTHS ENDED
SEPTEMBER 30,
----------------------
1997 1998
--------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) ................................................ $ (5,315) $ 22,603
Adjustments to reconcile net income (loss) to net cash provided by
(used in) operating activities --
Depreciation and amortization expense ......................... 2,867 9,219
Bad debt expense .............................................. 302 384
Compensation expense related to issuance of management shares . 11,556 --
Deferred tax expense (benefit) ................................ (2,700) (118)
Loss (gain) on sale of property and equipment ................. 9 (158)
Current taxes on acquired S corporations ...................... 610 --
Changes in operating assets and liabilities, net of effects of
acquisitions of Founding and Purchased Companies--
(Increase) decrease in --
Receivables, net ........................................ (7,859) (39,302)
Inventories ............................................. 264 (1,420)
Prepaid expenses and other current assets ............... 1,724 (6,744)
Cost and estimated earnings in excess of billings ....... (3,340) (4,241)
Other noncurrent assets ................................. 167 499
Increase (decrease) in --
Accounts payable and accrued liabilities ................ 5,281 (3,642)
Billings in excess of costs and estimated earnings ...... 936 4,299
Other, net .............................................. (73) (1,262)
--------- ---------
Net cash provided by (used in) operating activities .............. 4,429 (19,883)
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment ........................... (3,011) (7,069)
Proceeds from sales of property and equipment ................. 235 699
Cash paid for Purchased Companies, net of cash acquired ....... (43,037) (62,683)
--------- ---------
Net cash used in investing activities ...................... (45,813) (69,053)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments on long-term debt .................................... (49,097) (63,185)
Borrowings of long-term debt .................................. 50,845 127,928
S Corporation Distributions paid by certain Pooled Companies .. (1,603) (821)
Proceeds from issuance of Common Stock ........................ 79,916 16,604
--------- ---------
Net cash provided by financing activities ........................ $ 80,061 $ 80,526
--------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS ............. $ 38,677 $ (8,410)
CASH AND CASH EQUIVALENTS, beginning of period ................... 7,003 18,097
--------- ---------
CASH AND CASH EQUIVALENTS, end of period ......................... $ 45,680 $ 9,687
========= =========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
8
COMFORT SYSTEMS USA, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
(UNAUDITED)
1. BUSINESS AND ORGANIZATION:
The Company is a national provider of comprehensive HVAC installation and
maintenance, repair and replacement services. Founded in December 1996, the
Company is consolidating the fragmented commercial and industrial HVAC markets,
and performs most of its services within manufacturing plants, office buildings,
retail centers, apartment complexes, and healthcare, education and government
facilities. In addition to standard HVAC services, the Company also provides
specialized applications such as process cooling, control systems, electronic
monitoring and process piping. Certain locations also perform related services
such as electrical and plumbing.
On July 2, 1997, Comfort Systems completed the IPO and simultaneously
acquired the 12 Founding Companies. Subsequent to the IPO and through September
30, 1998, the Company has acquired 70 HVAC and complementary businesses.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
BASIS OF PRESENTATION
These interim statements should be read in conjunction with the historical
Consolidated Financial Statements and related notes included in the Company's
Annual Report on Form 10-K for the year ended December 31, 1997.
There were no significant changes in the accounting policies of the Company
during the periods presented. For a description of the significant accounting
policies of the Company, refer to Note 2 of Notes to Consolidated Financial
Statements of Comfort Systems included in the Company's Annual Report on Form
10-K for the year ended December 31, 1997.
The regulations for unaudited interim financial statements such as those in
this report allow certain information and footnotes required by generally
accepted accounting principles for year end financial statements to be excluded.
The Company believes all adjustments necessary for a fair presentation of
these interim statements have been included and are of a normal and recurring
nature.
The results of operations for interim periods are not necessarily indicative
of the results for the fiscal year.
CASH FLOW INFORMATION
Cash paid for interest for the nine months ended September 30, 1997 and 1998
was approximately $0.9 million and $3.7 million, respectively. Cash paid for
income taxes for the nine months ended September 30, 1997 and 1998 was
approximately $0.4 million and $24.1 million, respectively.
9
3. BUSINESS COMBINATIONS:
POOLINGS
During the second half of 1997, the Company acquired all of the outstanding
stock of 14 Pooled Companies in exchange for 4,507,406 shares of Common Stock.
These acquisitions have been accounted for as poolings-of-interests as described
in Note 2 of Notes to Consolidated Financial Statements of Comfort Systems
included in the Company's Annual Report on Form 10-K for the year ended December
31, 1997. These companies provide HVAC and complementary services.
During the third quarter of 1998, the Company acquired all of the outstanding
stock of three Pooled Companies in exchange for 1,437,767 shares of Common
Stock. These acquisitions have been accounted for as poolings-of-interests. Two
of the three Pooled Companies have been retroactively restated to January 1,
1997. These companies provide HVAC and complementary services. The combined
revenue and income before income taxes of the two restated Pooled Companies for
the period prior to their acquisition by the Company was as follows (in
thousands):
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------- -----------------
1997 1998 1997 1998
---- ---- ---- ----
Revenues ................... $14,492 $18,273 $36,991 $50,657
Income before taxes ........ 684 1,601 769 1,742
PURCHASES
Simultaneous with the IPO, Comfort Systems acquired the 12 Founding Companies
for $45.3 million in cash and 9,720,927 shares of Common Stock. The Founding
Companies provide HVAC and complementary services.
Subsequent to the IPO and through December 31, 1997, Comfort Systems acquired
13 of the Purchased Companies. These companies provide HVAC and complementary
services. The aggregate consideration paid in these transactions was $14.5
million in cash, 1,092,489 shares of Common Stock valued at $13.3 million and
$5.0 million in the form of convertible subordinated notes (the "Notes"). These
Notes are convertible at various dates in the fourth quarter of 1998 or 1999 and
thereafter into 225,473 or 220,449 shares of Common Stock, respectively.
For the three months ended March 31, 1998, Comfort Systems acquired 11
additional companies, which were accounted for as purchase transactions. These
companies also provide HVAC and complementary services. The aggregate
consideration in these transactions was $16.6 million in cash, 2,220,416 shares
of Common Stock valued at $25.8 million, and $1.9 million in Notes.
Approximately $1.3 million of these Notes are convertible at various dates in
2000, 2001 and 2002 into 53,700 shares of Common Stock, respectively. The
allocation of the respective purchase prices to the assets assumed and
liabilities acquired resulted in $43.7 million of goodwill related to the
companies acquired during the first three months of 1998.
For the three months ended June 30, 1998, Comfort Systems acquired 17
additional companies, which were accounted for as purchase transactions. These
companies also provide HVAC and complementary services. The aggregate
consideration in these transactions was $36.8 million in cash, 2,016,141 shares
of Common Stock valued at $29.1 million, and $17.7 million in Notes.
Approximately all of these Notes are convertible at various dates in 1999, 2000
and 2001 into 603,430 shares of Common Stock. The allocation of the respective
purchase prices to the assets assumed and liabilities acquired resulted in $69.0
million of goodwill related to the companies acquired during the second quarter
of 1998.
10
For the three months ended September 30, 1998, Comfort Systems acquired 12
additional companies, which were accounted for as purchase transactions. These
companies also provide HVAC and complementary services. The aggregate
consideration in these transactions was $22.6 million in cash, 1,763,928 shares
of Common Stock valued at $23.5 million, and $3.9 million in Notes. The Notes
are convertible beginning in 1999 into 149,533 shares of Common Stock. The
allocation of the respective purchase prices to the assets assumed and
liabilities acquired resulted in $41.8 million of goodwill related to the
companies acquired during the third quarter of 1998.
The accompanying balance sheets include allocations of the respective
purchase prices to the assets acquired and liabilities assumed based on
preliminary estimates of fair value and is subject to final adjustment.
The unaudited pro forma data presented below consists of the income statement
data presented in these consolidated financial statements plus income statement
data for the Founding Companies and Purchased Companies as if those companies
had been acquired on January 1, 1997 through the respective dates of
acquisitions (in thousands, except per share data):
NINE MONTHS ENDED
SEPTEMBER 30,
---------------------
1997 1998
-------- --------
(UNAUDITED)
Revenues ............................................. $595,582 $682,249
Net income ........................................... $ 23,522 $ 22,329
Net income per share - Diluted ....................... $ .73 $ .64
Shares used in computing net income - Diluted ........ 32,385 34,802
Pro forma adjustments included in the preceding tables regarding the Acquired
Companies primarily relate to (a) the Compensation Differential relating to the
former owners of the Acquired Companies which they agreed would take effect as
of the acquisition date, (b) pro forma compensation expense of $430,000 for the
nine months ended September 30, 1997, to reflect the ongoing salaries received
by corporate management as though those salaries were being paid prior to the
IPO, (c) amortization of goodwill related to the Purchased and Founding
Companies, (d) elimination of the non-recurring, non-cash Compensation Charge of
$11.6 million recorded by Comfort Systems in the first quarter of 1997 related
to Common Stock issued to management of and consultants to the Company, (e)
interest expense on borrowings of $22.8 million that would have been necessary
to fund certain S Corporation Distributions of the Acquired Companies as if
those distributions had occurred on January 1, 1997, (f) interest expense on
borrowings of $75.9 million related to the purchase price of the Purchased
Companies acquired during the three quarters of 1998, and (g) interest expense
related to the subordinated convertible notes issued in connection with the
acquisition of certain Acquired Companies. In addition, an incremental tax
provision has been recorded as if all applicable Purchased and Founding
Companies, and Pooled Companies, which were C Corporations, had been subject to
federal and state corporate income taxes for the applicable periods presented.
The pro forma combined results presented above are not necessarily indicative
of actual results which might have occurred had the operations and management
teams of the Company and the Acquired Companies been combined at the beginning
of the periods presented.
ADDITIONAL ACQUISITIONS
Subsequent to September 30, 1998, and through November 16, 1998, the Company
completed 7 additional acquisitions (the "Additional Acquisitions") for
approximately $83.8 million in cash, 2,646,508 shares of Common Stock and $33.4
million in Notes. Annualized revenues from the businesses acquired in the
Additional Acquisitions were approximately $249 million. All of these
acquisitions will be accounted for as purchase transactions.
11
4. LONG-TERM DEBT OBLIGATIONS:
Long-term debt obligations consist of the following (in thousands):
DECEMBER 31, SEPTEMBER 30,
1997 1998
--------- ---------
Revolving credit facility..................... $ 15,300 $ 103,850
Notes......................................... 4,978 28,539
Other......................................... 3,985 2,401
--------- ---------
Total debt.................................... 24,263 134,790
Less: current maturities..................... 2,329 6,821
--------- ---------
$ 21,934 $ 127,969
========= =========
In July 1997, the Company entered into a credit agreement with Bank One,
Texas, N.A. (the "Credit Facility"). The Credit Facility was amended and
restated in September 1997 primarily to provide for additional banks to lend to
the Company under the Credit Facility. The Credit Facility was further amended
in April 1998 in order to increase borrowing capacity and to provide for
additional banks to lend to the Company under the Credit Facility. The Credit
Facility provides the Company with an unsecured revolving line of credit of $175
million. The Company has a choice of two interest rate options when borrowing
under the Credit Facility. Under one option, the interest rate is determined
based on the higher of the Federal Funds Rate plus one-half percentage point or
the bank's prime rate. Under the other interest rate option, borrowings bear
interest based on designated short-term Eurodollar rates (which generally
approximate the London Interbank Offered Rates or LIBOR, as published in major
financial media) plus 0.75 to 1.5 percentage points. The amount of percentage
points added depends on the ratio of the Company's debt to earnings before
interest, taxes, depreciation and amortization for the preceding twelve months
("EBITDA"). For purposes of this ratio, EBITDA may include the preceding twelve
months' results for any companies acquired during the last year. In addition,
commitment fees of 0.125% to 0.375% per annum, also depending on the ratio of
debt to EBITDA, are payable on the unused portion of the facility. The Credit
Facility prohibits the payment of dividends by the Company without lender's
approval and requires the Company to comply with certain financial covenants.
The Credit Facility expires on April 14, 2001, at which time all amounts
outstanding under the facility are due.
As of September 30, 1998, the Company had borrowed $103.9 million under the
Credit Facility at an average interest rate of approximately 6.5% per annum for
the first nine months of 1998. As of November 10, 1998, $105.8 million was
outstanding under this facility.
As of September 30, 1998, Notes in the amount of $28.5 million referred to
above were issued to former owners of certain Purchased Companies as partial
consideration for the acquisition of their companies. Of these Notes, $27.9
million bear interest, payable quarterly, at a weighted average interest rate of
5.9% and are convertible by the holder into shares of the Company's Common Stock
at a weighted average price of $27.38 per share. The terms of these Notes
require $6.3 million of principal payments in 1999, $10.7 million of principal
payments in 2000, $10.0 million of principal payments in 2001 and $0.4 million
of principal payments in 2002 and 2003. The remaining Notes of $0.6 million are
non-interest bearing, with $0.2 million of principal payments due in 1999,
followed by four equal annual installments beginning in 2000.
As of September 30, 1998, other long-term debt of $2.4 million referred to
above includes secured debt, unsecured debt and capitalized lease obligations of
the Company.
12
5. COMMITMENTS AND CONTINGENCIES:
CLAIMS AND LAWSUITS
The Company is from time to time party to litigation in the ordinary course
of business. There are currently no pending legal proceedings that, in
management's opinion, would have a material adverse effect on the Company's
operating results or financial condition. The Company maintains various
insurance coverages in order to minimize financial risk associated with certain
claims. The Company has provided accruals for probable losses and legal fees
associated with certain of these actions in the accompanying consolidated
financial statements.
6. STOCKHOLDERS' EQUITY:
COMMON STOCK AND PREFERRED STOCK
Comfort Systems effected a 121.1387-for-one stock split on March 19, 1997 for
each share of Common Stock of the Company then outstanding. In addition, the
Company increased the number of authorized shares of Common Stock to 102,969,912
and authorized 5,000,000 shares of $.01 par value preferred stock. The effects
of the Common Stock split and the increase in the number of shares of authorized
Common Stock have been retroactively reflected on the balance sheet and in the
accompanying notes as applicable.
In connection with the organization and initial capitalization of Comfort
Systems, the Company issued 121,139 shares of Common Stock at $.01 per share to
Notre. In January 1997, the Company issued 2,848,773 additional shares to Notre
for $.01 per share.
In January and February 1997, the Company issued a total of 1,269,935 shares
of Common Stock to management of and consultants to the Company at a price of
$.01 per share. As a result, the Company recorded a non-recurring, non-cash
compensation charge of $11.6 million in the first quarter of 1997, representing
the difference between the amount paid for the shares and the estimated fair
value of the shares on the date of sale.
RESTRICTED COMMON STOCK
In March 1997, Notre exchanged 2,742,912 of its shares of Common Stock for an
equal number of shares of restricted voting common stock ("Restricted Voting
Common Stock"). The holder of Restricted Voting Common Stock is entitled to
elect one member of the Company's Board of Directors and to 0.55 of one vote for
each share on all other matters on which they are entitled to vote. Holders of
Restricted Voting Common Stock are not entitled to vote on the election of any
other directors.
Each share of Restricted Voting Common Stock will automatically convert to
Common Stock on a share-for-share basis (i) in the event of a disposition of
such share of Restricted Voting Common Stock by the holder thereof (other than a
distribution which is a distribution by a holder to its partners or beneficial
owners, or a transfer to a related party of such holders (as defined in Sections
267, 707, 318 and/or 4946 of the Internal Revenue Code of 1986, as amended)),
(ii) in the event any person acquires beneficial ownership of 15% or more of the
total number of outstanding shares of Common Stock of the Company, or (iii) in
the event any person offers to acquire 15% or more of the total number of
outstanding shares of Common Stock of the Company. After July 1,1998, the Board
of Directors may elect to convert any remaining shares of Restricted Voting
Common Stock into shares of Common Stock in the event 80% or more of the
originally outstanding shares of Restricted Voting Common Stock have been
previously converted into shares of Common Stock.
13
EARNINGS PER SHARE
In February 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards ("SFAS") No. 128, "Earnings Per Share." SFAS
No. 128 revises the methodology to be used in computing earnings per share (EPS)
such that the computations previously required for primary and fully diluted EPS
are to be replaced with "basic" and "diluted" EPS. Basic EPS is computed by
dividing net income by the weighted average number of shares of common stock
outstanding during the year. Diluted EPS is computed in the same manner as fully
diluted EPS, except that, among other changes, the average share price for the
period is used in all cases when applying the treasury stock method to
potentially dilutive outstanding options. The Company has adopted SFAS No. 128
and restated EPS for all periods presented.
The following table summarizes weighted average shares outstanding for each
of the periods presented (in thousands):
THREE MONTHS NINE MONTHS
ENDED ENDED
SEPTEMBER 30, SEPTEMBER 30,
1997 1998 1997 1998
------- ------- ------- -------
Shares issued in connection with the acquisitions
of the Founding Companies ................................ 9,721 9,721 3,431 9,721
Shares sold pursuant to the IPO ............................ 6,100 6,100 2,120 6,100
Shares held by Notre, Comfort Systems'
management and consultants ............................... 4,240 4,240 4,240 4,240
Shares issued in connection with the acquisitions
of Pooled Companies ...................................... 5,946 5,946 5,946 5,946
Shares sold in connection with the underwriter's
overallotment for the IPO and Second Public
Offering ................................................. 814 1,276 272 1,037
Weighted average portion of shares issued in
connection with the acquisition of the
Purchased Companies ...................................... 13 6,245 4 4,482
Weighted average portion of shares sold in the
Second Public Offering ................................... -- 400 -- 152
Weighted average portion of shares issued in
connection with the Employee Stock Purchase Plan ......... -- 20 -- 6
Weighted average portion of shares issued in
connection with the exercise of stock options ............ -- 16 -- 5
--------- -------- -------- --------
Weighted average shares outstanding - Basic ................ 26,834 33,964 16,013 31,689
Weighted average portion of shares related to stock
options under the treasury stock method .................. 651 490 217 490
--------- -------- -------- --------
Weighted average shares outstanding - Diluted .............. 27,485 34,454 16,230 32,179
========= ======== ======== ========
7. SUBSEQUENT EVENTS:
Subsequent to September 30, 1998, and through November 16, 1998, the Company
completed 7 additional acquisitions (the "Additional Acquisitions") for
approximately $83.8 million in cash, 2,646,508 shares of Common Stock and $33.4
million in Notes. Annualized revenues from the businesses acquired in the
Additional Acquisitions were approximately $249 million. All of these
acquisitions will be accounted for as purchase transactions.
14
COMFORT SYSTEMS USA, INC.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
INTRODUCTION
The following discussion should be read in conjunction with the consolidated
historical and pro forma combined financial statements of the Company and
related notes thereto included elsewhere in this Form 10-Q and the Annual Report
on Form 10-K for the year ended December 31, 1997 (the "Form 10-K"). This
discussion contains forward-looking statements regarding the business and
industry of the Company within the meaning of the Private Securities Litigation
Reform Act of 1995. These statements are based on the current plans and
expectations of the Company and involve risks and uncertainties that could cause
actual future activities and results of operations to be materially different
from those set forth in the forward-looking statements. Important factors that
could cause actual results to differ include risks set forth in "Factors Which
May Affect Future Results," included in the Form 10-K.
The Company is a leading national provider of comprehensive HVAC
installation, as well as maintenance, repair and replacement services. Founded
in December 1996, the Company is consolidating the fragmented commercial and
industrial HVAC markets and performs most of its services within manufacturing
plants, office buildings, retail centers, apartment complexes, and healthcare,
education and government facilities. In addition to standard HVAC services, the
Company also provides specialized applications such as process cooling, control
systems, electronic monitoring and process piping. Certain locations also
perform related services such as electrical and plumbing.
On July 2, 1997, the Company completed its IPO and simultaneously acquired
the 12 Founding Companies. Subsequent to the IPO, and through December 31, 1997,
the Company acquired 27 additional HVAC and complementary businesses. Of these
additional acquisitions, 14 were accounted for as poolings-of-interests and the
remaining 13 acquisitions were accounted for as purchases. The historical
financial statements of the Company have not been retroactively restated to give
effect to the operations of one of the Pooled Companies which is considered
immaterial. Subsequent to December 31, 1997 and through September 30, 1998, the
Company acquired 40 additional HVAC businesses which have been accounted for as
purchases. Additionally, during the third quarter of 1998, the Company completed
three acquisitions which were accounted for as poolings-of-interests.
Pro forma combined and historical results are not necessarily indicative of
future results of the Company because, among other things, the Acquired
Companies were not under common control or management prior to their
acquisition.
The timing and magnitude of acquisitions, assimilation costs, and the
seasonal nature of the HVAC industry may materially affect operating results.
Accordingly, the operating results for any period are not necessarily indicative
of the results that may be achieved for any subsequent period.
PRO FORMA COMBINED RESULTS OF OPERATIONS
The following unaudited pro forma combined information is presented
supplementally to reflect the pro forma results of operations as if the
acquisition of the Founding Companies occurred on January 1, 1997, as reflected
in the Company's publicly disclosed earnings announcements. Therefore, the
accompanying unaudited pro forma combined statements of operations and the
related management's discussion and analysis of the Company for the three and
nine months ended September 30, 1998 and 1997, respectively, include the
combined operations of the Pooled Companies and the Founding Companies from
January 1, 1997, and the Purchased Companies from the dates of their
acquisitions. One of the Pooled Companies is considered immaterial and has not
been restated for all periods presented.
15
The Acquired Companies were managed prior to their acquisitions as
independent private companies. Therefore, historical selling, general and
administrative expenses for the periods presented in the condensed consolidated
financial statements of the Company reflect compensation and related benefits
the owners of those businesses received prior to acquisition. Historical
selling, general and administrative expenses also include the Compensation
Charge recorded by the Company in the first quarter of 1997 related to Common
Stock issued to management of and consultants to the Company prior to the IPO.
The pro forma combined results of operations reflect: (i) the Compensation
Differential of the Founding and Pooled Companies which the former owners of
those companies agreed would take effect as of the date of acquisitions, (ii)
pro forma combined compensation expense of $430,000 for the nine months ended
September 30, 1997 to reflect the ongoing salaries received by the corporate
management as though those salaries were being paid prior to the IPO, (iii)
interest expense on borrowings of $11.0 million that would have been necessary
to fund various S Corporation Distributions of the Founding Companies as if they
had occurred on January 1, 1997, (iv) amortization of goodwill related to the
Founding Companies, and (v) the elimination of the Compensation Charge referred
to above. In addition, an incremental tax provision has been recorded as if all
applicable Purchased and Founding Companies and the Pooled Companies, that were
C Corporations, had been subject to federal and state income taxes.
PRO FORMA COMBINED (IN THOUSANDS)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------------------------------- -----------------------------------------------
1997 1998 1997 1998
-------------------- ---------------------- -------------------- ---------------------
Revenues ..................... $ 97,454 100.0% $ 232,381 100.0% $ 262,116 100.0% $ 559,339 100.0%
Cost of Services ............. 70,249 72.1 175,308 75.4 191,066 72.9 423,223 75.7
--------- -------- --------- -------- --------- -------- --------- --------
Gross Profit .............. 27,205 27.9 57,073 24.6 71,050 27.1 136,116 24.3
Selling, general and
administrative expenses ..... 15,513 15.9 33,663 14.5 44,466 17.0 85,845 15.3
Goodwill amortization ........ 875 0.9 1,854 0.8 2,623 1.0 4,642 0.8
--------- -------- --------- -------- --------- -------- --------- --------
Operating income ............. 10,817 11.1 21,556 9.3 23,961 9.1 45,629 8.2
Other income (expense) ...... 54 -- (1,571) (0.7) (541) (0.2) (3,575) (0.6)
--------- -------- --------- -------- --------- -------- --------- --------
Income before taxes .......... 10,871 11.2 19,985 8.6 23,420 8.9 42,054 7.5
Provision for income taxes ... 4,378 -- 8,698 -- 9,390 -- 18,394 --
--------- --------- --------- -------- --------- -------- --------- --------
Net income ................... $ 6,493 6.7% $ 11,287 4.9% $ 14,030 5.4% $ 23,660 4.2%
========= ======== ========= ======== ========= ======== ========= ========
PRO FORMA COMBINED REVENUES - Pro forma combined revenues increased $134.9
million, or 138.5%, to $232.4 million for the three months ended September 30,
1998 and increased $297.2 million, or 113.4%, to $559.3 million for the first
nine months of 1998, compared to the same periods of the prior year. Revenues
from the Founding Companies and Pooled Companies increased approximately 17% and
16% for the three months and nine months ended September 30, 1998, respectively,
primarily due to greater demand for specialized multi-unit installation services
in Texas and the Northeast, strong general activity in the Houston, Grand Rapids
and Cincinnati markets and higher demand for commercial and industrial design
and build services in the Company's Tennessee-based operations. The acquisition
of the Purchased Companies, excluding "tuck-ins," acquired subsequent to the IPO
through the end of the third quarter of 1998 contributed approximately $114.0
million and $240.9 million of revenue for the three months and nine months ended
September 30, 1998, respectively.
PRO FORMA COMBINED GROSS PROFIT - Pro forma combined gross profit increased
$29.9 million, or 109.8%, to $57.1 million for the three months ended September
30, 1998 and increased $65.1 million, or 91.6%, to $136.1 million for the first
nine months of 1998, primarily due to increased revenues at the Founding
Companies, the addition of the Purchased Companies and incremental increases in
volume and gross margin at some of the Pooled Companies. As a percentage of
revenues, pro forma combined gross profit decreased from 27.9% in the third
quarter of 1997 to 24.6% in the third quarter of 1998 and decreased from 27.1%
in the first nine months of 1997 to 24.3% in the first nine months of 1998.
These declines
16
resulted primarily from the acquisition of the Purchased Companies, which, taken
as a whole, have gross margins that are lower than the Company's historical
average.
PRO FORMA COMBINED SELLING, GENERAL AND ADMINISTRATIVE EXPENSES (SG&A) Pro
forma combined SG&A, excluding goodwill amortization, increased $18.2 million,
or 117.0%, to $33.7 million for the third quarter of 1998 and increased $41.4
million or 93.1% to $85.8 million for the first nine months of 1998. These
increases were due principally to the addition of the Purchased Companies along
with corporate office and management expenses associated with the Company's
establishment as a public company. As a percentage of revenues, pro forma
combined SG&A, excluding goodwill amortization, decreased from 15.9% to 14.5% in
the third quarter of 1998, and from 17.0% to 15.3% in the first nine months of
1998, compared to the same period of the prior year. This decrease is due to the
Company's acquisition of the Purchased Companies, which, taken as a whole, have
SG&A as a percentage of revenues that is lower than the Company's historical
average.
PRO FORMA COMBINED OTHER INCOME (EXPENSE) - Pro forma combined other expense,
net increased to $1.6 million for the third quarter of 1998 and to $3.6 million
for the first nine months of 1998 primarily due to the increase in interest
expense related to the acquisition of the Purchased Companies acquired
subsequent to the IPO through the end of the third quarter of 1998.
HISTORICAL RESULTS OF OPERATIONS (IN THOUSANDS)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
--------------------------------------------- ---------------------------------------------------
1997 1998 1997 1998
-------------------- --------------------- ----------------------- -----------------------
Revenues ................... $ 97,454 100.0% $ 232,381 100.0% $ 175,411 100.0% $ 559,339 100.0%
Cost of Services ........... 70,249 72.1 175,308 75.4 128,481 73.2 423,223 75.7
--------- -------- --------- -------- --------- -------- --------- --------
Gross Profit .......... 27,205 27.9 57,073 24.6 46,930 26.8 136,116 24.3
Selling, general and
administrative expenses .. 17,832 18.3 34,405 14.8 46,758 26.7 87,609 15.7
Goodwill amortization ...... 883 0.9 1,854 0.8 883 0.5 4,642 0.8
--------- -------- --------- -------- --------- -------- --------- --------
Operating income (loss) .... 8,490 8.7 20,814 9.0 (711) (0.4) 43,865 7.8
Other income (expense) ..... 49 0.1 (1,571) (0.7) (29) -- (3,575) (0.6)
--------- -------- --------- -------- --------- -------- --------- --------
Income (loss) before taxes . 8,539 8.8 19,243 8.3 (740) (0.4) 40,290 7.2
Provision for income taxes . 4,899 -- 8,444 -- 4,575 -- 17,687 --
--------- -------- --------- -------- --------- -------- --------- --------
Net income (loss) .......... $ 3,640 3.7% $ 10,799 4.6% $ (5,315) (3.0)% $ 22,603 4.0%
========= ======== ========= ======== ========= ======== ========= ========
REVENUES - Revenues increased $134.9 million, or 138.5%, to $232.4 million
for the three months ended September 30, 1998 and increased $383.9 million, or
218.9%, to $559.3 million for the first nine months of 1998, compared to the
same periods of the prior year. The increase in revenues was primarily due to
the acquisition of the Founding Companies and Purchased Companies.
GROSS PROFIT - Gross profit increased $29.9 million, or 109.8%, to $57.1 for
the three months ended September 30, 1998 and increased $89.2 million, or
190.0%, to $136.1 million for the first nine months of 1998, compared to the
same periods of the prior year. The increase in gross profit was primarily due
to the acquisitions described above. As a percentage of revenues, gross profit
decreased from 27.9% in the third quarter of 1997 to 24.6% in the third quarter
of 1998 and from 26.8% in the first nine months of 1997 to 24.3% in the first
nine months of 1998. These declines resulted primarily from the acquisition of
the Purchased Companies, which, taken as a whole, have gross margins that are
lower than the Company's historical average.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES - SG&A, excluding goodwill
amortization, for the three months and nine months ended September 30, 1997
includes $2.1 million and $7.3 million, respectively, and the three months and
nine months ended September 30, 1998 includes $0.7 million and $1.8 million,
respectively, of Compensation Differential and acquisition related costs which
will be eliminated prospectively. Additionally, the Company recorded the
17
non-recurring, non-cash Compensation Charge of $11.6 million in the first
quarter of 1997. Excluding the Compensation Differential, the Compensation
Charge, and goodwill amortization, SG&A increased $18 million, to $33.7
million for the three months ended September 30, 1998 and increased $46.4
million to $85.8 million for the nine months ended September 30, 1998. Most of
this increase was related to the Founding Companies and Purchased Companies
acquired since the IPO along with corporate office and management expenses
associated with the Company's establishment as a public company.
OTHER INCOME (EXPENSE) - Other expense, net increased to $1.6 million and
$3.6 million for the three months and nine months ended September 30, 1998
primarily due to the increase in interest expense related to the acquisition of
the Purchased Companies.
LIQUIDITY AND CAPITAL RESOURCES - HISTORICAL
For the nine months ended September 30, 1998, net cash used in operating
activities was $19.9 million due to a decrease in accounts payable and accrued
liabilities of $3.6 million and an increase in accounts receivables of $39.3
million. Accounts payable balances decreased from the date of acquisition at
various locations as certain companies took advantage of the consolidated cash
management system to receive cash discounts for early payments. The increase in
receivables is due, in part, to the higher levels of seasonal operating activity
that the Company experiences in the second and third quarters.
Cash used in investing activities was $69.1 million for the nine months ended
September 30, 1998, primarily in connection with the acquisition of the Acquired
Companies for $62.7 million, net of cash acquired. The remainder of cash used in
the investing activities was for additions to equipment.
Cash provided by financing activities for the nine months ended September 30,
1998 was $80.5 million and was primarily attributable to the net borrowings of
long-term debt.
At September 30, 1998, working capital was $117.4 million and total debt
outstanding was $134.8 million.
Subsequent to September 30, 1998, and through November 16, 1998, the Company
completed the acquisition of 7 companies for approximately $83.8 million in
cash, 2,646,508 shares of Common Stock and $33.4 million in Notes. All of these
acquisitions will be accounted for as purchase transactions.
In July 1997, the Company entered into the Credit Facility with Bank One,
Texas, N.A. which was amended and restated in September 1997 primarily to
provide for additional banks to lend to the Company. The Credit Facility was
further amended in April 1998 to increase borrowing capacity and to provide for
additional banks to lend to the Company. The Credit Facility provides the
Company with an unsecured revolving line of credit of $175 million. The Company
has a choice of two interest rate options when borrowing under the Credit
Facility. Under one option, the interest rate is determined based on the higher
of the Federal Funds Rate plus one-half percentage point or the bank's prime
rate. Under the other interest rate option, borrowings bear interest based on
designated short-term Eurodollar rates (which generally approximate LIBOR) plus
0.75 to 1.5 percentage points. The amount of percentage points added depends on
the ratio of the Company's debt to EBITDA for the preceding twelve months. For
purposes of this ratio, EBITDA may include the preceding twelve months' results
for any companies acquired during the last year. In addition, commitment fees of
0.125% to 0.325% per annum, also depending on the ratio of debt to EBITDA, are
payable on the unused portion of the Credit Facility. The Credit Facility
prohibits the payment of dividends by the Company without lender's approval and
requires the Company to comply with certain financial covenants. The Credit
Facility expires on April 14, 2001, at which time, all amounts outstanding under
the facility are due. As of September 30, 1998, $103.9 million was outstanding
under the Credit Facility. As of November 10, 1998, $105.8 million was
outstanding under the Credit Facility.
18
The Company intends to pursue additional acquisition opportunities, the cash
portion of which will be financed with borrowings under the Credit Facility as
well as cash flow from operations. The Company anticipates that cash flow from
operations will provide cash in excess of the Company's normal working capital
needs, debt service requirements and planned capital expenditures for equipment.
Should the Company accelerate or revise its acquisition program, the Company may
need to seek financing in addition to the Credit Facility through the public or
private sale of equity or debt securities. There can be no assurance that the
Company can secure financing if and when needed, or that such financing will be
available on terms the Company deems acceptable.
YEAR 2000
Computers, software, and other equipment utilizing microprocessors that use
only two digits to identify a year in a date field may be unable to accurately
process certain date-based information at or after the year 2000. This is
commonly referred to as the "Year 2000 issue." The Company has implemented a
Year 2000 program and is using both internal and external resources to assess
and replace or reprogram computers, software and other equipment as needed. Key
areas of the Company's operations that are being addressed include external
customers, external suppliers and internal computers, software and other
equipment.
Year 2000 considerations may have an effect on some of the Company's
customers and suppliers, and thus indirectly on the Company. The Company is
assessing the potential effect on the Company with respect to customers and
suppliers with Year 2000 issues and does not expect a material effect on the
Company's financial condition or results of operations at this time. The Company
has initiated communications with its significant customers and suppliers to
assess the extent to which the Company is vulnerable to those third parties with
which the Company transacts business.
The Company's initial assessment identified Year 2000 issues within the
Company's operating systems. The total cost of anticipated Year 2000
enhancements is approximately $500,000 and is being funded from operating cash
flows. The majority of such costs is for the enhancement of hardware and
software and will be capitalized. The remaining costs will be expensed as
incurred and are not expected to have a material effect on the results of
operations. The Company expects, but cannot provide assurance, to be
substantially complete with Year 2000 enhancements for internal operating
systems by June 1999, which is prior to any significant anticipated impact on
its operating systems.
The ability of third parties with which the Company transacts business to
adequately address Year 2000 issues is outside of the Company's control. There
can be no assurance that the failure of the Company, or such third parties, to
adequately address their respective Year 2000 issues will not have a material
adverse effect on the Company's financial condition or results of operations. At
this time, the Company does not expect such an adverse impact.
SEASONALITY AND CYCLICALITY
The HVAC industry is subject to seasonal variations. Specifically, the demand
for new installation and replacement is generally lower during the winter months
due to reduced construction activity during inclement weather and less use of
air conditioning during the colder months. Demand for HVAC services is generally
higher in the second and third calendar quarters due to increased construction
activity and increased use of air conditioning during the warmer months.
Accordingly, the Company expects its revenues and operating results generally
will be lower in the first and fourth calendar quarters.
Historically, the construction industry has been highly cyclical. As a
result, the Company's volume of business may be adversely affected by declines
in new installation projects in various geographic regions of the United States.
19
COMFORT SYSTEMS USA, INC.
PART II -- OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is involved in various legal proceedings that have arisen in the
ordinary course of business. The Company does not believe that any of these
proceedings will have a material adverse effect on the financial position or
results of operations of the Company.
ITEM 2. RECENT SALES OF UNREGISTERED SECURITIES
On September 30, 1998, the Company issued 718,391 unregistered shares of its
Common Stock in connection with the acquisition of an HVAC business which was
not material. These shares were issued without registration under the Securities
Act in reliance on the exemption provided by Section 4(2), no public offering
being involved.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27.1 Financial Data Schedule. (Filed herewith)
(b) Reports on Form 8-K
None.
ITEM 9. CHANGES AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
20
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
COMFORT SYSTEMS USA, INC.
By: /s/ J. GORDON BEITTENMILLER
J. GORDON BEITTENMILLER
EXECUTIVE VICE PRESIDENT AND
CHIEF FINANCIAL OFFICER
Dated: November 16, 1998
21