1
HPSC ANNUAL REPORT
TO OUR STOCKHOLDERS
During 1995 the Company achieved an operating profit of $680,000; however, due
to a non-cash, non-operating foreign currency translation charge relating to the
liquidation of its Canadian subsidiary, the Company experienced a net loss of
$125,000 for the year. This charge, which in prior years had been recorded as a
reduction of retained earnings, had a positive effect on the Company's
stockholders' equity for 1995, which increased by $537,000 from 1994.
The primary challenge for HPSC management has been to invest the Company's
resources for long term portfolio growth with a commitment to control expenses,
while at the same time striving to achieve competitive returns on stockholders'
equity. In 1995 we made strong advances toward many of our goals by executing
our strategic plan to make the Company a leader in its key markets over the next
five years. The Company made investments for its future such as its repurchase
of 1,225,182 shares of its stock, which it completed in 1995, and is committed
to continuing to build investor confidence so that HPSC stock will be priced at
an appropriate premium to book value in the future.
During 1995 we expanded our sales force and increased the number of our sales
offices from six to thirteen. This drove record increases in the Company's
volume of originations and resulted in corresponding portfolio growth.
Originations totaled $68,554,000, an increase of 110% over 1994. Our fourth
quarter volume of $22,524,000 was the largest in the Company's history. Earning
assets increased by 31% from $91,193,000 to $119,886,000 in 1995. At year end
1995 our bank lines were $60,000,000, a $40,000,000 increase over 1994.
These increased bookings and portfolio growth were supported by the Company's
investments in state-of-the-art data processing systems. These automated systems
enable the Company to provide timely responses to requests for credit approval
and improve its handling of customer service inquiries.
As our portfolio has grown, we have also improved its quality. Our primary
market in 1995 continued to be the healthcare professions, particularly the
dental profession; but the Company's expanded portfolio now includes financing
for a variety of medical specialties as well as asset-based lending. We now
provide financing for more than 500 vendors. HPSC has established relationships
with some of America's finest companies by providing excellent service and
competitive rates.
During 1995 the Company significantly achieved its geographic and asset
diversification strategies. Today the Company has a national presence.
As the healthcare industry continues to react to profound structural and
economic pressures, HPSC is well positioned to respond to the changing needs of
its customers. The Company will strive to achieve continued growth by
aggressively seeking to become the finance company of choice in the markets we
serve, including medical, dental and asset-based lending.
Our successes in 1995, including 31% portfolio growth and 110% volume growth,
would not have been possible without the professionalism and commitment of our
employee shareholders, who are so vital to our future success. The continued
support of our dedicated Board of Directors, senior management and employees
gives us reason to face the considerable challenges of 1996 with enthusiasm. Our
priorities will be to achieve profitability through service, portfolio growth
and portfolio quality.
JOHN W. EVERETS
Chairman of the Board and
Chief Executive Officer
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CONSOLIDATED BALANCE SHEETS
DECEMBER 31, December 31,
(in thousands, except share amounts) 1995 1994
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ASSETS
- -------------------------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS $ 861 $ 419
RESTRICTED CASH 5,610 7,936
INVESTMENT IN LEASES AND NOTES:
Lease contracts receivable due in installments 115,364 95,408
Notes receivable due in installments 25,325 8,123
Estimated residual value of equipment at end of lease term 9,206 9,321
Less unearned income (25,875) (16,924)
Less allowance for losses (4,512) (4,595)
Less security deposits (3,427) (2,639)
Deferred origination costs 3,805 2,499
- -------------------------------------------------------------------------------------------------------------
Net investment in leases and notes 119,886 91,193
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OTHER ASSETS:
Other assets 3,294 2,154
Refundable income taxes 1,088 1,446
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TOTAL ASSETS $ 130,739 $ 103,148
=============================================================================================================
=============================================================================================================
LIABILITIES AND STOCKHOLDERS' EQUITY
- -------------------------------------------------------------------------------------------------------------
NOTES PAYABLE TO BANKS $ 42,070 $ 16,500
NOTES PAYABLE - TREASURY STOCK PURCHASE --- 4,500
ACCOUNTS PAYABLE AND ACCRUED LIABILITIES 3,537 2,450
ACCRUED INTEREST 339 293
INCOME TAXES:
Currently payable 368 20
Deferred 4,613 5,539
SENIOR NOTES 46,453 41,024
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Total Liabilities 97,380 70,326
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STOCKHOLDERS' EQUITY:
Preferred Stock, $1.00 par value;
authorized 5,000,000 shares; Issued - None --- ---
Common Stock, $.01 par value; 15,000,000 shares authorized;
and issued 4,786,530 in 1995 and 5,574,395 shares in 1994 48 56
Treasury Stock (at cost) 100,000 shares in 1995 and 1,225,182 shares in 1994 (410) (5,023)
Additional paid-in capital 11,311 15,916
Retained earnings 24,476 24,601
Cumulative foreign currency translation adjustments --- (552)
- -------------------------------------------------------------------------------------------------------------
35,425 34,998
Less deferred ESOP and SESOP compensation (2,066) (2,176)
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Total Stockholders' Equity 33,359 32,822
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TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 130,739 $ 103,148
=============================================================================================================
The accompanying notes are an integral part of the consolidated financial
statements.
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CONSOLIDATED STATEMENTS OF INCOME
Each of the years ended
---------------------------------------------
DECEMBER 31, December 31, December 25,
(in thousands, except per share and share amounts) 1995 1994 1993
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REVENUES
- --------------------------------------------------------------------------------------------------------------
Earned income on leases and notes $ 12,924 $ 11,630 $ 17,095
Provision for losses (1,296) (754) (15,104)
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Net Revenues 11,628 10,876 1,991
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OPERATING EXPENSES
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Selling, general and administrative 5,984 6,970 5,160
Interest, net 4,964 3,156 8,979
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Total Operating Expenses 10,948 10,126 14,139
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OPERATING PROFIT (LOSS) 680 750 (12,148)
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(LOSS) ON WRITE-OFF
OF FOREIGN CURRENCY TRANSLATION ADJUSTMENT (601) --- ---
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INCOME (LOSS) BEFORE INCOME TAXES 79 750 (12,148)
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PROVISION (BENEFIT) FOR INCOME TAXES 204 300 (4,870)
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NET INCOME (LOSS) $ (125) $ 450 $ (7,278)
==============================================================================================================
NET INCOME (LOSS) PER SHARE $ (.03) $ .09 $ (1.48)
==============================================================================================================
Shares Used to Compute Net Income (Loss) per Share 3,881,361 4,989,391 4,923,233
The accompanying notes are an integral part of the consolidated financial
statements.
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CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
Cumulative
Deferred Foreign
Common Stock Additional ESOP & Currency
(in thousands except share ------------ Paid-In Retained Treasury SESOP Translation
amounts) Shares Amount Capital Earnings Stock Compensation Adjustment TOTAL
- -----------------------------------------------------------------------------------------------------------------------------------
Balance at
December 26, 1992 4,922,677 $ 49 $13,643 $31,429 -- -- $ (80) $45,041
Issuance of Common Stock 894 -- 2 -- -- -- -- 2
Net loss -- -- -- (7,278) -- -- -- (7,278)
Foreign currency translation
adjustments -- -- -- -- -- -- (144) (144)
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Balance at
December 25, 1993 4,923,571 49 13,645 24,151 -- -- (224) 37,621
Issuance of Common Stock 824 -- 3 -- -- -- -- 3
Net income -- -- -- 450 -- -- -- 450
Purchase of Treasury Stock -- -- -- -- (5,023) -- -- (5,023)
Issuance of Common Stock
to ESOP & SESOP 650,000 7 2,268 -- -- (2,275) -- --
ESOP Compensation -- -- -- -- -- 99 -- 99
Foreign currency translation
adjustments -- -- -- -- -- -- (328) (328)
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Balance at
December 31, 1994 5,574,395 56 15,916 24,601 (5,023) (2,176) (552) 32,822
Issuance of Common Stock 317 -- -- -- -- -- -- --
Net loss -- -- -- (125) -- -- -- (125)
Retirement of Treasury Stock (1,125,182) (12) (4,601) -- 4,613 -- -- --
Restricted Stock Awards 337,000 4 (4) -- -- -- -- --
ESOP Compensation -- -- -- -- -- 110 -- 110
Foreign currency translation
adjustments -- -- -- -- -- -- (49) (49)
Recognized in current period
upon liquidation of foreign
subsidiary -- -- -- -- -- -- 601 601
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Balance at
December 31, 1995 4,786,530 $ 48 $11,311 $24,476 $ (410) $(2,066) $ -- $33,359
===================================================================================================================================
The accompanying notes are an integral part of the consolidated financial
statements.
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CONSOLIDATED STATEMENTS OF CASH
FLOWS For Each of The Years Ended
------------------------------------------
DECEMBER 31, December 31, December 25,
(in thousands) 1995 1994 1993
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CASH FLOWS FROM OPERATING ACTIVITIES:
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Net income (loss) $ (125) $ 450 $ (7,278)
Adjustments to reconcile net income
to net cash provided by operating activities:
Foreign currency translation adjustments 601 -- --
Depreciation and amortization 2,340 1,872 2,695
Deferred income taxes (926) (1,093) (4,333)
Gain on sale of receivables (53) -- --
Provision for losses on lease
contracts and notes receivable 1,296 754 15,104
Increase (decrease) in accrued interest 46 (3,141) (79)
Increase (decrease) in accounts payable and accrued liabilities 1,087 (2,898) 882
Increase (decrease) in accrued income taxes 348 (290) (880)
Decrease (increase) in refundable income taxes 358 827 (1,968)
(Increase) decrease in other assets (458) 921 (940)
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Cash provided by (used in) operating activities 4,514 (2,598) 3,203
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CASH FLOWS FROM INVESTING ACTIVITIES:
Payments on capital leases (81) (27) (60)
Proceeds from sales of receivables 1,630 6,958 --
Lease contracts receivable and notes receivable (40,494) 11,957 41,136
Estimated residual value of equipment 115 2,339 2,734
Unearned income 9,391 (3,346) (11,988)
Security deposits 788 (221) (603)
Purchase of furniture and equipment (463) (598) (154)
Initial direct costs incurred (3,003) (1,303) (684)
Investments (300) (75) --
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Cash (used in) provided by investing activities (32,417) 15,684 30,381
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CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of senior notes (23,385) (78,976) --
Repayment of subordinated debt -- (20,000) --
Repayment of notes payable to banks -- -- (14,000)
Proceeds from issuance of senior notes 28,813 70,000 --
(Decrease) increase in notes payable treasury stock purchase (4,500) 4,500 --
Net (decrease) in demand notes payable to banks -- (7,130) (3,454)
Proceeds from revolving notes payable to banks 25,570 16,500 --
Purchase of treasury stock -- (5,023) --
Debt issuance costs (391) (967) --
Increase (decrease) in restricted cash 2,326 (7,936) --
Proceeds from issuance of common stock -- 3 2
Contribution to employee stock ownership plan 110 99 --
Loans to employees (198) (9) (13)
Other -- (328) (144)
- ----------------------------------------------------------------------------------------------------------------
Cash provided by (used in) financing activities 28,345 (29,267) (17,609)
- ----------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and cash equivalents 442 (16,181) 15,975
Cash and cash equivalents at beginning of year 419 16,600 625
- ----------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of year $ 861 $ 419 $ 16,600
================================================================================================================
Supplemental disclosures of cash flow information:
Interest paid $ 4,510 $ 6,630 $ 8,103
Income taxes paid 1,423 2,018 2,587
The accompanying notes are an integral part of the consolidated financial
statements.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A.
SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES
GENERAL - Until Healthco International, Inc. ("Healthco") filed for
bankruptcy on June 9, 1993, Healthco referred to the Company substantially all
of the Company's financing business. Healthco was a leading distributor of
merchandise, equipment and services to dentists and institutional providers of
dental care, including dental schools and dental laboratories. Healthco also
provided certain sales and related services to the Company as well as certain
management, data processing and administrative services to the Company.
Healthco also owned 1,949,182 shares of the Company's Common Stock,
which it had pledged to certain of its secured creditors (the "Secured
Creditors") and, as a result of the bankruptcy of Healthco, the Secured
Creditors and the Company made certain claims against each other for moneys due.
During 1994 and 1995, HPSC replaced the business that previously had
been referred to it by Healthco with business from other vendors. Now HPSC
provides for itself the sales, management, data processing and administrative
services formerly provided by Healthco.
In July 1995, the Company completed payment for 1,225,182 shares of its
Common Stock which it repurchased from certain secured creditors of Healthco,
pursuant to a Purchase and Sale Agreement between the Company and the Healthco
secured creditors, dated as of November 1, 1994. Healthco had pledged the shares
of the Company's Common Stock to secure its obligations to the secured
creditors. The shares were released from the pledge agreement upon the Company's
completion of the payment. The secured creditors also released the Company from
any claims that may arise out of the bankruptcy of Healthco, effective upon
payment by the Company for the shares. The Company has retired 1,125,182 of
these shares and holds 100,000 of these shares in its treasury.
The Company entered into an agreement to sell substantially all the
finance assets of Credident Inc. ("Credident"), the Company's Canadian
subsidiary, effective June 30, 1994, to Newcourt Credit Group, Inc. (Newcourt)
for approximately (US) $7,000,000 in cash. The Company also entered into a
service agreement whereby Newcourt will manage certain accounts for the two
years ended June 30, 1996 for a fee related to collections. The sale did not
have a material effect on the Company's operations in 1994. Subsequent to the
sale, all of Credident's Canadian bank debt was retired. The sale of
substantially all of Credident's finance assets was consistent with the
Company's strategic plan to focus on its business in the United States. As of
December 31, 1994, in light of the fact that the Company had discontinued its
Canadian operations, the Company wrote off all assets deemed uncollectable at
that time. Credident's total assets at December 31, 1994, were approximately
1.5% of the Company's total consolidated assets and Credident's earned revenues
represented 4.0% of total consolidated earned revenues.
In 1995, the Company reduced its investment in Credident through asset
liquidation, repatriation of funds from Canada and adjustments, to approximately
$800,000. At December 31, 1995, Credident's total assets were less than 1% of
consolidated assets.
CONSOLIDATION - The accompanying consolidated financial statements
include the following wholly-owned subsidiaries: HPSC Funding Corp. I ("HPSCF"),
a special purpose corporation formed in connection with a securitization
transaction; Credident; American Commercial Finance Corporation ("ACFC"), an
asset-based lender focused primarily on accounts receivable and inventory
financing at variable rates; and HPSC Bravo Funding Corp. ("Bravo"), a special
purpose corporation formed in connection with a securitization in 1995. All
intercompany transactions have been eliminated.
USE OF ESTIMATES - The preparation of financial statements in
conformity with generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
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REVENUE RECOGNITION - When a transaction is initially activated, the
Company records the minimum payments and the estimated residual value, if any,
associated with the transaction. The difference between the sum of the payments
due plus residual less the cost of the transaction is recorded as unearned
income. The unearned income is recognized as revenue over the life of the
transaction using the interest method in essentially all cases. Recognition of
revenue on these assets is suspended no later than when a transaction becomes
145 days delinquent in scheduled payments. Also included in earned income are
fee income from service charges on portfolio accounts, gains and losses on
residual transactions plus miscellaneous income items net of initial direct cost
amortization.
CASH AND EQUIVALENTS - The Company considers all highly liquid
investments with an original maturity of three months or less to be cash
equivalents.
FINANCING OPERATIONS - The Company provides credit primarily to
healthcare professionals throughout the United States. The Company finances
dental, ophthalmic, chiropractic, veterinary, podiatry and other medical
equipment utilized in the healthcare professions, as well as leasehold
improvements, office furniture and equipment and certain other costs involved in
opening or maintaining a healthcare provider's office. The Company also finances
the acquisition of healthcare practices by healthcare professionals and, through
its wholly-owned subsidiary, ACFC, engages in asset-based lending.
The Company finances equipment only after a customer's credit has been
approved and a financing agreement for the transaction has been executed. The
Company performs ongoing credit evaluations of its customers and maintains
allowances for potential credit losses.
The Company does not carry any inventory. The Company acquires the
financed equipment from vendors at their customary selling price to other
customers.
The Company sells lease and notes receivable to other parties. Income
is recorded at the time of the sale approximately equal to the present value of
the anticipated future cash flow, partially offset by initial direct costs,
expenses and estimated credit losses under certain recourse provisions of the
related sale agreements. Also included in net income is the difference between
the net sales proceeds and the carrying amount of the lease receivables sold.
Generally, the Company retains the servicing of lease receivables sold. Income
equal to the estimated future costs of servicing these lease receivables is
deferred and recognized in proportion to the estimated periodic servicing costs.
ALLOWANCE FOR LOSSES - In connection with the Company's financing
transactions, it records an allowance for losses in its portfolio. The extent of
the allowance is based on a specific analysis of potential loss accounts,
delinquencies and historical loss experiences. An account is reserved for or
written off when deemed uncollectable.
The Company occasionally repossesses equipment from lessees who have
defaulted on their obligations to the Company. There was no such equipment held
for sale at December 31, 1995, or December 31, 1994.
Except for approximately $12,000,000 of ACFC receivables, substantially
all of the Company's agreements with its customers are non-cancelable and
provide for a full payout at a fixed financing rate with a fixed payment
schedule over a term of three to seven years. All leases are classified as
direct financing leases.
Delinquent installments on the Company's financing agreements amounted
to $2,618,000 at December 31, 1995 compared to $3,496,000 at December 31, 1994.
An account is considered delinquent when not paid within thirty days of the
billing due date. Total balances on accounts in non-accrual status at December
31, 1995, and December 31, 1994, were $4,709,000 and $6,181,000, respectively.
Effective January 1, 1995, the Company adopted prospectively, SFAS No.
114, "Accounting by Creditors for Impairment of a Loan," as amended by SFAS No.
118, "Accounting by Creditors for Impairment of a Loan-Income Recognition and
Disclosure." These standards apply to the Company's practice acquisition loans
and asset-based lending. The standards require that a loan be classified and
accounted for as an impaired loan when it is probable that the Company will be
unable to collect all principal and interest due on the loan in accordance with
the loan's original contractual terms.
Impaired loans are valued based on the present value of expected future
cash flows, using the interest rate in effect at the time the loan was placed on
nonaccrual status. A loan's observable market value or collateral value may be
used as an alternative valuation technique. Impairment exists when the recorded
investment in a loan exceeds the value of the loan measured using the
above-mentioned valuation techniques. Such impairment is recognized as a
valuation reserve, which is included as a part of the Company's allowance for
losses.
The adoption of these new standards did not have a material impact on
the Company's allowance for losses.
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INCOME TAXES - The Company accounts for income taxes in accordance with
SFAS No. 109, "Accounting for Income Taxes." Current tax liabilities or assets
are recognized, through charges or credits to the current tax provision, for the
estimated taxes payable or refundable for the current year. Net deferred tax
liabilities or assets are recognized, through charges or credits to the deferred
tax provision, for the estimated future tax effects, based on enacted tax rates,
attributable to temporary differences. Deferred tax liabilities are recognized
for temporary differences that will result in amounts taxable in the future, and
deferred tax assets are recognized for temporary differences and tax benefit
carryforwards that will result in amounts deductible or creditable in the
future. The effect of enacted changes in tax law, including changes in tax
rates, on these deferred tax assets and liabilities is recognized in income in
the period that includes the enactment date. A deferred tax valuation reserve is
established if it is more likely than not that all or a portion of the Company's
deferred tax assets will not be realized. Changes in the deferred tax valuation
reserve are recognized through charges or credits to the deferred tax provision.
FOREIGN CURRENCY TRANSLATION - The Company accounts for translation of
foreign currency in accordance with Statement of Financial Accounting Standards
No. 52, "Foreign Currency Translation" (FAS 52). Over a number of years, the
accounts of the Company's Canadian subsidiary, Credident, when translated into
US dollars lost value as a result of the decline in the Canadian dollar in
relation to the US dollar. In accordance with FAS 52, the cumulative amount of
such translation losses had been presented as a reduction of stockholders'
equity. As reported last year, the Company discontinued its Canadian operations
in 1994. During 1995, the Company substantially liquidated its investment in
Credident. In accordance with FAS 52, upon substantial liquidation, cumulative
exchange losses are reflected in the income statement in the current period and
eliminated as a separate component of stockholders' equity.
NET INCOME (LOSS) PER SHARE - Earnings-per-share computations for the
years ended December 31, 1995 and December 31, 1994 are based on the weighted
average number of common and common share equivalents outstanding. At December
31, 1995 and 1994, the calculation included only allocated shares under the
Company's ESOP and SESOP plans and excluded unvested restricted stock grants.
Fully diluted and primary income per share are the same for each of the periods
presented. For the year ended December 25, 1993, the weighted average number of
common shares outstanding was used to calculate the loss per share.
DEFERRED ORIGINATION COSTS - The Company capitalizes initial direct
costs that relate to the origination of leases and notes receivable. These
initial direct costs are comprised of certain specific activities related to
processing requests for financing. Deferred origination costs are amortized over
the life of the receivable as an adjustment of yield.
INTEREST RATE CONTRACTS - The Company utilizes interest rate contracts
to reduce interest rate risk. The Company has established a control environment
which includes policies and procedures for risk assessment and the approval,
reporting and monitoring of derivative financial instrument activities. The
Company does not hold or issue derivative financial instruments for trading
purposes. The differentials to be received or paid under contracts designated as
hedges are recognized in income over the life of the contracts as adjustments to
interest expense.
PROPERTY AND EQUIPMENT - Office furniture, equipment and capital leases
are recorded at cost and depreciated using the straight-line method over a
period of three to five years. Leaseholds are amortized over the shorter of the
life of the lease or the asset. Upon retirement or other disposition, the cost
and related accumulated depreciation of the assets are removed from the accounts
and the resulting gain or loss is reflected in income. Net property, plant and
equipment is included in other assets and was not material at December 31, 1995
and 1994.
RECLASSIFICATIONS - Certain amounts in the 1994 financial statements
have been reclassified to conform to the current year presentation. Such
reclassifications had no effect on earnings.
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NOTE B.
NOTES PAYABLE TO BANKS AND OTHER DEBT
In 1994, the Company retired its outstanding $50,000,000 10.125% Senior
Notes (principal and interest of $52,527,000) with the proceeds of the
Securitization described below. The Company's $20,000,000 10% Subordinated Notes
were retired at par value plus accrued interest of $1,000,000 on January 15,
1994.
The Company raised $70,000,000 in a receivable backed securitization
transaction ("Securitization") on December 27, 1993. Under the terms of the
Securitization, the Company formed a wholly-owned, special-purpose subsidiary,
HPSC Funding Corp. I ("HPSCF") to which the Company sold or contributed certain
of its equipment lease contracts, conditional sales agreements, leasehold
improvement loans, equipment residual rights and rights to underlying equipment
("Collateral"). HPSCF subsequently issued $70,000,000 of secured notes
("Notes"), bearing interest at 5.01%, secured by the Collateral. The Notes are
rated "AAA" by Standard & Poor's. Monthly payments of interest and principal on
the Notes are made through the application of regularly scheduled monthly
receivable payments on the Collateral. The Company is the servicer of the
Collateral portfolio, subject to its meeting certain covenants. The required
monthly payments of interest and principal to holders of the Notes are
unconditionally guaranteed by Municipal Bond Investor Assurance Corporation
pursuant to the terms of a Note guarantee insurance policy.
In connection with the Securitization, the Company made an investment
in HPSCF. Some or all of the Company's investment in HPSCF may be required to
fund payments to holders of the Notes if certain default and delinquency ratios
applicable to the Collateral are not met. As of December 31, 1995 HPSCF had
approximately $26,984,000 of gross receivables as collateral for the Notes. The
Agreement also provides for restrictions on cash balances under certain
conditions; at December 31, 1995, this restricted cash amounted to $4,693,000.
The Notes had an outstanding balance of $20,150,000 at December 31,1995.
Note payments to investors, based on projected cash flows from the
Collateral, for the years 1996 through 2000 are expected to be as follows:
$11,868,000, $ 6,218,000, $1,734,000, $275,000 and $55,000, respectively.
In May, 1995, the Company executed an Amended and Restated Revolving
Loan agreement with the First National Bank of Boston as Agent Bank ("Revolving
Loan Agreement") increasing availability under this arrangement to $50,000,000.
This agreement was amended in December, 1995, to increase availability to
$60,000,000 and extend the term to December 31, 1996. Under this agreement, the
Company may acquire US dollar loans at variable rates of prime plus 1/4% to 1/2%
in Eurodollar loans at LIBOR plus 1.75% to 2.00%, dependent on certain
performance covenants. At December 31, 1995, the Company had $39,000,000
outstanding under this facility. This revolving loan agreement is not currently
hedged and is, therefore, exposed to upward movements in interest rates.
Management believes that the Company's liquidity is adequate to meet current
obligations and future projected levels of financings and carry on normal
operations. The Company will continue to seek to raise additional capital from
bank and non-bank sources and selective use of asset-sale transactions in 1996.
The Company expects that it will be able to obtain additional capital at
competitive rates, but there can be no assurance it will be able to do so.
As of November 30, 1994, the Company executed a Purchase Agreement with
the Healthco Secured Creditors (as described in Note A) to purchase 1,225,182
shares for $6,285,000, payable $1,785,000 at closing (December 30, 1994) and
$4,500,000 pursuant to a promissory note which provided for six equal monthly
payments of $750,000 beginning February 1, 1995. All scheduled payments were
made in 1995, and the note was paid in full in July 1995.
As of January 31, 1995, the Company, along with its wholly-owned,
special-purpose subsidiary, HPSC Bravo Funding Corp. ("Bravo") completed a
$50,000,000 revolving credit facility structured and guaranteed by Capital
Markets Assurance Corporation ("CapMAC"). Under the terms of the facility,
Bravo, to which the Company sells and may continue to sell or contribute certain
of its portfolio assets, pledges its interests in these assets to a
commercial-paper conduit entity. Bravo incurs interest at variable rates in the
commercial paper market and enters into interest rate swap agreements to assure
fixed rate funding.
Monthly settlements of principal and interest payments are made from
the collection of payments on Bravo's transactions. Additional sales to Bravo
from HPSC may be made subject to certain covenants regarding Bravo's portfolio
performance and borrowing base calculations.
The Company is the servicer of the Bravo portfolio, subject to its
meeting certain covenants. The required monthly payments of principal and
interest to purchasers of the commercial paper are guaranteed by CapMAC pursuant
to the terms of the agreement.
The Company had $26,303,000 outstanding under this facility at December
31, 1995, and, in connection with this transaction, had six separate interest
rate swap agreements with the Bank of Boston with a total notional value of
approximately $27,500,000.
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In April, 1995, the Company entered into a fixed rate, fixed term loan
agreement with Springfield Institution for Savings ("SIS") under which the
Company borrowed $3,500,000 at 9.5% subject to certain recourse and performance
covenants. The Company had $3,070,000 outstanding under this agreement at
December 31, 1995. In November, 1995, the Company sold approximately $1,500,000
in assets to SIS subject to certain covenants that may require (i) the Company
to repurchase assets from SIS and/or make payments under certain circumstances,
including the delinquencies of the underlying debtor and (ii) servicing of these
assets by the Company. Related to this agreement, the Company carries a recourse
reserve of $30,000 in its allowance for losses. A gain of approximately $53,000
was recognized in connection with this transaction and is included in earned
income from leases and notes for 1995. The Company may enter into additional
asset sale agreements in the future in order to manage its liquidity.
Amortization of debt discount of $ 0, $38,000, and $872,000 in 1995,
1994, and 1993, respectively, is included in interest expense.
Certain debt/securitization agreements contain restrictive covenants
which, among other things, include minimum net worth, interest coverage ratios,
capital expenditures, and portfolio performance guidelines. At December 31,
1995, the Company was in compliance with the provisions of its debt covenants.
Debt of the Company as of December 31, 1995, and December 31, 1994 is
summarized below.
- -----------------------------------------------------
DEC. 31, Dec. 31,
(in thousands) 1995 1994
- -----------------------------------------------------
Senior Notes (HPSCF)
Due Dec., 1999 $ 20,150 $ 41,024
Senior Notes (Bravo)
Due Nov., 2000
through Aug., 2001 26,303 ---
Senior Notes (SIS)
Due Mar., 2001 3,070 ---
Notes Payable - treasury
stock purchase
Due July 1, 1995 --- 4,500
Revolving credit arrangement
Due Dec. 31, 1996 39,000 16,500
- -----------------------------------------------------
Total $ 88,523 $ 62,024
=====================================================
Interest expense is net of interest income of $375,000, $358,000 and
$78,000 in 1995, 1994, and 1993, respectively.
NOTE C.
LEASE COMMITMENTS
The Company leases various office locations under noncancelable lease
arrangements that have terms of from three to five years and that generally
provide renewal options from one to five years. Rent expense under all operating
leases was $318,000, $198,000 and $92,000 for 1995, 1994 and 1993, respectively.
Future minimum lease payments for commitments exceeding twelve months
under non-cancelable operating leases as of December 31, 1995, are as follows
(in thousands):
1996 $ 290
1997 324
1998 324
1999 146
2000 & thereafter -0-
10
11
NOTE D.
INCOME TAXES
Deferred income taxes reflect the impact of "temporary differences"
between the amount of assets and liabilities for financial reporting purposes
and such amounts as measured by tax laws and regulations.
The components of income (loss) before income taxes are as follows:
- -----------------------------------------------------------
For Each of The Years Ended
- -----------------------------------------------------------
DEC. 31, Dec. 31, Dec. 25,
(in thousands) 1995 1994 1993
- -----------------------------------------------------------
Domestic $ 154 $ 891 $(11,661)
Foreign (75) (141) (487)
- -----------------------------------------------------------
Income (loss) before
income taxes $ 79 $ 750 $(12,148)
==========================================================
Income taxes consist of the following:
- -----------------------------------------------------------
For Each of The Years Ended
- -----------------------------------------------------------
DEC. 31, Dec. 31, Dec. 25,
(in thousands) 1995 1994 1993
- -----------------------------------------------------------
Federal:
Current $ 1,050 $ 808 $(1,079)
Deferred (787) (530) (2,663)
State
Current 426 635 ---
Deferred (357) (563) (957)
Foreign
Current (128) (50) 542
Deferred --- --- (713)
- -----------------------------------------------------------
Provision (credit) for
income taxes $ 204 $ 300 $(4,870)
===========================================================
Deferred income taxes arise from the following:
- -----------------------------------------------------------
For Each of The Years Ended
- -----------------------------------------------------------
DEC. 31, Dec. 31, Dec. 25,
(in thousands) 1995 1994 1993
- -----------------------------------------------------------
Operating method $(2,501) $(3,498) (4,277)
Alternative minimum
tax credit 609 2,147 ---
Other 748 258 (56)
- -----------------------------------------------------------
$(1,144) $(1,093) $(4,333)
===========================================================
A reconciliation of the statutory federal income tax rate and the
effective tax rate as a percentage of pre-tax income for each year is as
follows:
1995 1994 1993
- ------------------------------------------------------------
Statutory rate 34.0% 34.0% 34.0%
State taxes net of US
federal income tax
benefit 55.7 5.2 5.2
Effect of prior year foreign
tax recovery (162.0) -- --
Foreign loss not
benefited 22.7 -- --
Non-deductible write-off
of foreign currency
translation adjustment 258.5 -- --
Other 49.4 .8 .8
- ------------------------------------------------------------
258.2% 40.0% 40.0%
============================================================
The items which comprise a significant portion of deferred tax
liabilities as of December 31, 1995, and December 31, 1994, are as follows:
- --------------------------------------------------------------
1995 1994
DEF. TAX Def. Tax
(in thousands) LIABILITIES Liabilities
- --------------------------------------------------------------
Operating method $ 4,089 $ 6,122
State income tax
accrual 915 1,273
Alternative minimum
tax
credit --- (609)
Other (391) (1,247)
- --------------------------------------------------------------
Deferred income
taxes $ 4,613 $ 5,539
- --------------------------------------------------------------
At December 31, 1995, consolidated retained earnings included $381,000
of unremitted earnings from the Company's foreign subsidiary. In the event of
repatriation, the Company does not anticipate any significant additional income
taxes.
11
12
NOTE E.
SCHEDULED FUTURE RECEIPTS ON LEASES
AND NOTES
Scheduled future receipts on leases and notes, excluding the residual
value of the equipment and ACFC receivables, are as follows (in thousands):
1996 $ 40,439
1997 33,466
1998 24,454
1999 17,802
2000 and thereafter 12,104
NOTE F.
STOCK OPTION AND STOCK INCENTIVE PLANS
The Company has outstanding options under three stock option plans
which were terminated in May, 1995 upon approval of the 1995 Stock Incentive
Plan described below. The Company has 101,875 shares outstanding under its
Employee Stock Option Plan dated March 23, 1983, as amended (the "1983 Plan"),
345,000 shares outstanding under its Stock Option Plan dated March 5, 1986 (the
"1986 Plan") and 150,000 shares under its 1994 Stock Plan dated March 23, 1994
(the "1994 Plan").
Options exercisable under the 1983, 1986 and 1994 Plans at December 31,
1995, were 90,125, 267,000 and 32,000, respectively.
Options granted under the 1983 Plan are either incentive stock options
or non-qualified options and were granted at no less than 85% of the fair market
value of the Common Stock on the date of grant. Officers and directors of the
Company and its subsidiaries were eligible to participate under the 1986 Plan
and only non-qualified stock options were granted under the 1986 Plan. Key
employees, directors of and consultants to the Company were eligible to
participate in the 1994 Plan. Only non-qualified options were granted under the
1994 Plan and the option exercise price was in each case not less than 50% of
the fair market value of the Common Stock on the date of grant.
The Stock Purchase Plan was terminated upon the approval of the Stock
Incentive Plan in May, 1995. During 1995 and 1994, 317 and 824 shares,
respectively, were issued under the Stock Purchase Plan.
1995 STOCK INCENTIVE PLAN
The Company has outstanding stock options and awards of restricted
stock under its 1995 Stock Incentive Plan dated March 8, 1995, as amended March
14, 1996, (the "1995 Stock Plan") pursuant to which 550,000 shares of Common
Stock are reserved.
The 1995 Stock Plan provides that restricted shares of Common Stock
awarded under the plan will remain unvested until certain performance and
service conditions are both met. The performance condition is met with respect
to 50% of the restricted shares if and when during the five-year period after
the date of grant ("the Performance Period") the closing price of the Company's
Common Stock, as reported on the Nasdaq National Market System for a consecutive
ten-day period, equals at least 134.175% of the closing price on the grant date
(the "Partial Performance Condition"). The performance condition is met with
respect to the remaining 50% of the restricted shares if and when during the
Performance Period the closing price of the Company's Common Stock, as reported
on the Nasdaq National Market System for a consecutive ten-day period, equals at
least 168.35% of the closing price on the grant date (the "Full Performance
Condition"). The service condition is met with respect to all restricted shares
(provided that the applicable performance condition has also been met) by the
holder's continuous service for the Company throughout the Performance Period
provided that such holder shall also have completed five (5) years of continued
service with the Company from the date of grant. When either the partial or full
performance condition is met, the value of the shares awarded related to the
period earned would be charged to expense and the remainder would be recorded as
deferred compensation to be amortized over the recipient's remaining required
service period. Upon a change of control of the Company (as defined in the 1995
Stock Plan), all restricted stock awards granted prior to such change of control
become fully vested. Upon the termination of a holder's employment by the
Company without cause or by reason of death or disability during the Performance
Period, any restricted stock awards for which the applicable performance
condition is satisfied no later than four months after the date of such
termination of employment shall become fully vested.
Awards of 337,000 restricted shares of the Company's Common Stock were
made in May 1995. The Partial Performance Condition of these shares is $5.90 per
share with respect to 332,000 shares and $6.04 with respect to 5,000 shares, and
the Full Performance Condition is $7.37 per share with respect to 332,000 shares
and $7.58 with respect to 5,000 shares.
The 1995 Stock Plan provides that with respect to options made to key
employees (except non-employee directors), the option term and the terms and
conditions upon which the options may be exercised will be determined by the
Compensation Committee of the Company's Board of Directors for each such option
at the time it is granted (except so delegated to the chief executive officer
for non-executive officer grants). Options granted to key employees of the
Company may be either incentive stock options (within the meaning of
12
13
Section 422 of the Internal Revenue Code of 1986 and subject to the restrictions
of that section on certain terms of such options) or non-qualified options, as
designated by the Compensation Committee.
With respect to automatic options to non-employee directors of the
Company (which must be non-qualified options), the 1995 Stock Plan specifies the
option term and the terms and conditions upon which the options may be
exercised. Each non-employee director who is such at the conclusion of any
regular annual meeting of the Company's stockholders while the 1995 Stock Plan
is in effect and who will continue to serve on the Board of Directors is granted
such automatic options to purchase 1,000 shares of the Company's Common Stock at
a price equal to the closing price of the Common Stock, as reported on the
Nasdaq National Market System, on the date of grant of the option. Each
automatic option is exercisable immediately in full or for any portion thereof
and remains exercisable for ten years after the date of grant, unless terminated
earlier (as provided in the Plan) upon or following termination of the holder's
service as a director.
At December 31, 1995, there were options exercisable for an aggregate
of 2,000 shares of Common Stock outstanding to key employees and automatic
options exercisable for an aggregate of 5,000 shares of Common Stock outstanding
to non-employee directors of the Company, granted under the 1995 Stock Plan. The
Company also granted a non-qualified stock option to Lowell P Weicker, Jr.
effective December 7, 1995, in connection with his becoming a director of the
Company. The option is exercisable for 4,000 shares of Common Stock at $4.75 per
share, the fair market value of Common Stock on the date of grant. The option
grant is not pursuant to any of the stock plans referred to above.
A total of 198,000 shares of the Company's Common Stock remained
available for grants of options or awards of restricted stock under the 1995
Stock Plan at December 31, 1995.
In November 1995, SFAS No. 123, "Accounting for Stock-Based
Compensation," was issued, and is effective January 1, 1996. This new standard
requires either the recording of compensation expense for all stock awards and
stock option grants or significantly increased disclosures for such awards and
grants made after December 31, 1994. The Company intends to disclose the
information required by the standard.
The following table summarizes 1995 and 1994 activity under the Stock
Option Plans and the Stock Purchase Plan:
1983 Stock 1986 1994 1995
OPTION Purchase Option Option Stock
PLAN Plan Plan Plan Plan
- ----------------------------------------------------------------------------------------
Shares available at
Dec. 31, 1993 --- 70,448 155,000 --- ---
1994 Stock Plan
Shares available
Mar. 23, 1994 --- --- --- 200,000 ---
Options granted in
1994:
Price $3.375 --- --- --- 10,000 ---
Price $3.5625 --- --- --- 80,000 ---
Price $3.625 --- --- --- 10,000 ---
Price $3.75 --- --- --- 50,000 ---
Price $4.00 --- --- --- 40,000 ---
Shares purchased in
1994 --- 824 --- --- ---
Options canceled in
1994 (25,000) --- --- --- ---
1995 Stock Plan
Shares available
Mar. 8, 1995 --- --- --- --- 550,000
Options granted in
1995
Price $3.75 --- --- --- 5,000 ---
Price $3.625 --- --- --- 5,000 ---
Price $4.75 --- --- --- --- 15,000
Restricted Stock Awards
in 1995
Price $4.375 --- --- --- --- 332,000
Price $4.50 --- --- --- --- 5,000
Shares purchased in
1995 --- 317 --- --- ---
Options canceled in
1995 --- --- --- (50,000) ---
Plan terminations:
Mar. 8, 1995
Stock Purchase Plan;
1986 Option Plan;
1994 Option Plan;
Remaining Options
on shares --- 69,307 155,000 50,000 ---
Options outstanding at
Dec. 31, 1995 101,875 --- 345,000 150,000 352,000
Shares available at
Dec. 31, 1995 --- --- --- --- 198,000
13
14
NOTE G.
FOURTH QUARTER ADJUSTMENTS
In the fourth quarter of 1995, the Company recognized a loss on foreign
currency translation of $601,000 as a result of the substantial liquidation of
its Canadian subsidiary (see Note A). Also in the fourth quarter, the Company
reversed accruals of $290,000, which had previously been included in general
reserves to reflect the uncertainty created by the bankruptcy of Healthco in
1993 on the Company's portfolio and operations. The aggregate effect of these
adjustments on fourth quarter results was a decrease in income before tax of
$311,000 ($435,000 after tax).
NOTE H.
EMPLOYEE BENEFIT PLANS
In December 1993, the Company established a stock bonus type of
Employee Stock Ownership Plan ("ESOP") for the benefit of all eligible
employees. The ESOP is expected to be primarily invested in common stock of the
Company on behalf of the employees. The Company made contributions of $110,000
in 1995 for the 1994 allocation to the ESOP and $99,000 in 1994 for the 1993
allocation to the ESOP.
Employees with five or more years of service with the Company from and
after December 1993 at the time of termination of employment will be fully
vested in their benefits under the ESOP. For a participant with fewer than five
years of service from December 1993 through his or her termination date, his or
her account balance will vest at the rate of 20% for each year of employment.
Upon the retirement or other termination of an ESOP participant, the shares of
common stock in which he or she is vested, at the option of the participant, may
be converted to cash or may be distributed. The unvested shares are allocated to
the remaining participants. The Company has issued 300,000 shares of Common
Stock to this plan in consideration of a Promissory Note in the principal amount
of $1,050,000; 31,372 shares of Common Stock were allocated to participant
accounts for 1994 under the ESOP. No allocation has yet been made for 1995.
In July, 1994, the Company adopted a Supplemental Employee Stock
Ownership Plan ("SESOP") for the benefit of all eligible employees. Eligibility
requirements are similar to the ESOP discussed above except that any amounts
allocated under the SESOP would first be allocated to the accounts of certain
highly compensated employees to make up for certain limitations on Company
contributions under the ESOP required by the 1993 Tax Act and next to all
eligible employees on a non- discriminatory basis. The Company has issued
350,000 shares of Common Stock to this plan in consideration for a Promissory
Note in the principal amount of $1,225,000. No allocations have yet been made to
participant accounts.
The Company has established a Savings Plan covering substantially all
full-time employees, which allows participants to make contributions by salary
deductions pursuant to Section 401(k) of the Internal Revenue Code. The Company
matches employee contributions up to a maximum of 2% of the employee's salary.
Both employee and employer contributions are vested immediately. The Company's
contributions to the Savings Plan were $49,419 in 1995, and $37,975 in 1994.
14
15
NOTE I.
PREFERRED STOCK PURCHASE RIGHTS
PLAN
Pursuant to a rights agreement between the Company and the First
National Bank of Boston, as rights agent, dated August 3, 1993, the Board of
Directors declared a dividend on August 3, 1993 of one preferred stock purchase
right ("Right") for each share of the Company's common stock (the "Shares")
outstanding on or after August 13, 1993. The Right entitles the holder to
purchase one one-hundredth of a share of Series A Preferred Stock, which
fractional share is substantially equivalent to one share of Common Stock, at an
exercise price of $20.00. The Rights will not be exercisable or transferable
apart from the Common Stock until the earlier to occur of (i) 10 days following
a public announcement that a person or affiliated group has acquired 15 percent
or more of the outstanding Common Stock (such person or group, an "Acquiring
Person"), or (ii) 10 business days after an announcement or commencement of a
tender offer which would result in a person or group's becoming an Acquiring
Person, subject to certain exceptions. The Rights beneficially owned by the
Acquiring Person and its affiliates become null and void upon the Rights
becoming exercisable.
If a person becomes an Acquiring Person or certain other events occur,
each Right entitles the holder, other than the Acquiring Person, to purchase
common stock (or one one-hundredths of a share of Preferred Stock, in the
discretion of the Board of Directors) having a market value of two times the
exercise price of the Right. If the Company is acquired in a merger or other
business combination, each exercisable Right entitles the holder, other than the
Acquiring Person, to purchase Common Stock of the acquiring company having a
market value of two times the exercise price of the Right.
At any time after a person becomes an Acquiring Person and prior to the
acquisition by such person of 50% or more of the outstanding Common Stock, the
Board of Directors may direct the Company to exchange the Rights held by any
person other than an Acquiring Person at an exchange ratio of one share of
Common Stock per Right. The Rights may be redeemed by the Company, subject to
approval of the Board of Directors, for one cent per Right in accordance with
the provisions of the Rights Plan. The Rights have no voting or dividend
privileges.
15
16
NOTE J.
DISCLOSURES ABOUT FAIR VALUE OF
FINANCIAL INSTRUMENTS
The FASB Statement 107, Disclosures about Fair Value of Financial
Instruments ("SFAS No. 107"), requires the Company to disclose the estimated
fair values for certain of its financial instruments. Financial instruments
include items such as loans, interest rate contracts, notes payable, and other
items as defined in SFAS No. 107.
Fair value of a financial instrument is the amount at which the
instrument could be exchanged in a current transaction between willing parties,
other than in a forced or liquidation sale.
Quoted market prices are used when available; otherwise, management
estimates fair value based on prices of financial instruments with similar
characteristics or using valuation techniques such as discounted cash flow
models. Valuation techniques involve uncertainties and require assumptions and
judgments regarding prepayments, credit risk and discount rates. Changes in
these assumptions will result in different valuation estimates. The fair values
presented would not necessarily be realized in an immediate sale; nor are there
plans to settle liabilities prior to contractual maturity. Additionally, SFAS
No. 107 allows companies to use a wide range of valuation techniques; therefore,
it may be difficult to compare the Company's fair value information to other
companies' fair value information.
The following table presents a comparison of the carrying value and
estimated fair value of the Company's financial instruments at December 31, 1995
- --------------------------------------------------------------
CARRYING ESTIMATED
VALUE FAIR VALUE
-------- ----------
In thousands
- --------------------------------------------------------------
Financial assets:
Cash and cash equivalents $ 861 $ 861
Restricted cash $ 5,610 $ 5,610
Net investment in
leases and notes $119,886 $119,886
Financial liabilities:
Notes payable $ 88,523 $ 88,523
- --------------------------------------------------------------
The following methods and assumptions were used to estimate the fair
value of each class of financial instrument:
Cash, cash equivalents and restricted cash: For these short-term
instruments, the carrying amount is a reasonable estimate of fair value.
Net investment in leases and notes: The fair value of loans is
estimated by discounting the future cash flows using the current rates at which
similar loans would be made to borrowers with similar credit
rating and for the same remaining maturities. For nonaccrual loans, fair value
is estimated by discounting management's estimate of future cash flows with a
discount rate commensurate with the risk associated with such assets.
Notes payable: The Company's senior notes, as shown on the accompanying
balance sheet, reflect their approximate fair market value. The fair market
value is estimated based on the quoted market prices for the same or similar
issues or on the current rates offered to the Company for debt of the same
maturity.
Interest rate contracts: The fair values of interest rate contracts is
estimated based on the estimated amount necessary to terminate the agreements,
which is not material.
NOTE K.
OFF-BALANCE-SHEET FINANCIAL
INSTRUMENTS
Off-balance-sheet financial instruments represent various degrees and
types of risk to the Company, including credit, interest rate and liquidity
risk.
In the normal course of its business the Company enters into interest
rate swap contracts to hedge its interest rate risk related to its variable rate
notes payable. Credit risk is the possibility that a loss may occur if a
counterparty to a transaction fails to perform according to the terms of the
contract. The notional amount of interest rate contracts is the amount upon
which interest and other payments under the contract are based.
Interest rate swaps generally involve the exchange of fixed and
variable rate interest payments between two parties based on a common notional
principal amount and maturity date. The primary risks associated with interest
rate swaps are the exposure to movements in interest rates and the ability of
the counterparties to meet the terms of the contracts.
At December 31, 1995, the Company has six interest rate swap agreements
with a notional value of approximately $27,500,000. The agreements mature from
2000 to 2001.
NOTE L.
CONCENTRATIONS OF CREDIT RISK
The Company's financial instruments that are exposed to concentrations
of credit risk consist primarily of lease and note receivables and temporary
cash balances. To reduce the risk to the Company, stringent underwriting
policies in approving leases and notes and lease pools are closely monitored by
management. In addition, the cash is maintained with several high quality
financial institutions.
16
17
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of HPSC, Inc.:
We have audited the accompanying consolidated balance sheets of HPSC,
Inc. as of December 31, 1995 and December 31, 1994, and the related consolidated
statements of income, changes in stockholders' equity and cash flows for each of
the three years in the period ended December 31, 1995. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of HPSC,
Inc. as of December 31, 1995 and December 31, 1994, and the consolidated results
of its operations and its cash flows for each of the three years in the period
ended December 31, 1995, in conformity with generally accepted accounting
principles.
As discussed in Note A to the financial statements, the Company adopted
Statement of Financial Accounting Standards No. 114, "Accounting by Creditors
for Impairment of a Loan," as amended by Statement of Financial Accounting
Standards No. 118, "Accounting by Creditors for Impairment of a Loan - Income
Recognition and Disclosure," effective January 1, 1995.
Boston, Massachusetts
March 26, 1996
17
18
MARKET INFORMATION
The table below sets forth the representative high and low bid prices
for shares of the Common Stock in the over the counter market as reported by the
Nasdaq National Market System (Symbol: "HPSC") for the fiscal years 1995 and
1994:
1995 Fiscal Year High Low 1994 Fiscal Year High Low
- ------------------------------------------------------------------------------------------------------------
First Quarter............... $5 1/2 $3 5/8 First Quarter .................. $3 3/4 $3 1/4
Second Quarter.............. 5 4 3/8 Second Quarter ................ 4 1/8 3 1/4
Third Quarter............... 5 1/8 4 1/2 Third Quarter ................. 3 7/8 3 1/16
Fourth Quarter.............. 5 1/4 4 1/2 Fourth Quarter ................ 4 3 1/4
The foregoing quotations represent prices between dealers, and do not
include retail markups, markdowns, or commissions.
HOLDERS
Approximate Number of Record
Title of Class Holders (as of February 29, 1996)
- -----------------------------------------------------------------------------------------
Common Stock, par value $.01 per share 110 (1)
(1) Excluded from the number of stockholders of record are approximately 1,000
"nominee" or "street name" holders
DIVIDENDS
The Company has never paid any dividends and anticipates that for the
foreseeable future its earnings will be retained for use in its business.
18
19
SELECTED FINANCIAL DATA
- ----------------------------------------------------------------------------------------------------
For Each of The Years Ended
-----------------------------------------------------------------------
(in thousands, except DEC. 31, Dec. 31, Dec. 25, Dec. 26, Dec. 28,
share and per share data) 1995 1994 1993 1992 1991
- ----------------------------------------------------------------------------------------------------
INCOME STATEMENT DATA
Revenues:
Earned Income on Leases
and Notes $ 12,924 $ 11,630 $ 17,095 $ 21,734 $ 25,565
Provision for Losses (1,296) (754) (15,104) (4,307) (4,403)
- ----------------------------------------------------------------------------------------------------
Net Revenues $ 11,628 $ 10,876 $ 1,991 $ 17,427 $ 21,162
====================================================================================================
Net Income (Loss) $ (125) $ 450 $ (7,278) $ 1,984 $ 3,182
====================================================================================================
Income (Loss) per Share $ (.03) $ .09 $ (1.48) $ .40 $ .65
====================================================================================================
Shares Used to Compute
Earnings per Share 3,881,361 4,989,391 4,923,233 4,922,473 4,921,145
- ----------------------------------------------------------------------------------------------------
As at
-----------------------------------------------------
DEC. 31, Dec. 31, Dec. 25, Dec. 26, Dec. 28,
1995 1994 1993 1992 1991
- ----------------------------------------------------------------------------------
BALANCE SHEET DATA
Cash and Cash Equivalents $ 861 $ 419 $ 16,600 $ 625 $ 4,323
Restricted Cash 5,610 7,936 -- -- --
Lease Contracts Receivable
and Notes Receivable 140,689 103,531 126,369 184,928 217,304
Unearned Income 25,875 16,924 21,803 33,791 43,573
Total Assets 130,739 103,148 130,437 158,857 185,168
Bank Debt 42,070 16,500 7,130 24,584 33,593
Senior Debt 46,453 41,024 50,000 50,000 68,000
Subordinated Debt -- -- 19,962 19,090 18,326
Stockholder's Equity 33,359 32,822 37,621 45,041 43,385
19
20
MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION
RESULTS OF OPERATIONS
Fiscal 1995 compared to 1994:
The Company's net loss was $ 125,000 or $ 0.03 per share in 1995
compared to net income of $450,000 or $0.09 per share in 1994. The decrease in
1995 was primarily caused by the recognition of a write-off of a foreign
currency translation adjustment of $601,000. The Company had operating income in
1995 of $680,000 compared to $750,000 in 1994. This decrease in operating income
was due to a higher provision for losses due to a higher volume of originations
and an increase in interest expense offset by an increase in earned income and a
decrease in selling, general and administrative expenses.
In 1994, the Company discontinued its Canadian operations as part of
its strategic plan to focus on its business in the United States. Consistent
with this strategy, and in an effort to begin to liquidate its Canadian
operations, the Company in 1994 sold a large portion of its Canadian portfolio
to Newcourt Credit Group, Inc. and used most of the proceeds to repay third
party debt. Some of the proceeds were repatriated to the Company. As a result of
this transaction the Company's total investment in Canada decreased from
$3,800,000 to $2,100,000 at December 31, 1994. In 1995, the Company continued to
liquidate its Canadian assets and repatriated another $700,000 to the United
States. At December 31, 1995, after currency adjustments, the Company's
investment in Canada was less than $800,000. Accordingly, the Company was deemed
to have substantially liquidated its Canadian investment. Therefore, in
accordance with FAS 52, the Company recognized in earnings the cumulative
translation losses incurred in prior years that had been deferred as a separate
component of equity.
Earned income from leases and notes for 1995 was $12,924,000 compared
to $11,630,000 in 1994 after reclassification of certain amounts in 1995. This
increase of 11% resulted primarily from an increase of 6% in average portfolio
of earning assets from 1994 to 1995. The Company financed new portfolio assets
at a cost of $68,554,000 in 1995 compared to $32,609,000 in 1994, a 110%
increase in the value of assets financed. At December 31, 1995, the Company had
a $35,000,000 backlog of customer applications that had been approved but had
not yet resulted in a completed transaction, compared to $25,000,000 at the end
of 1994. Not all approved transactions will result in financing transactions for
the Company. The Company's interest costs increased in 1995 by 57% due to higher
levels of average debt required to support this increase in new portfolio assets
and a higher cost of capital than in 1994. (See Note B to Financial Statements
and Liquidity and Capital Resources.)
Selling, general and administrative expenses were $5,984,000 in 1995
compared to $6,970,000 in 1994, a 14% decrease. This decrease was due to a
reduction in expenses related to the Company's Canadian operations in 1995 and
the reversal of certain accruals which had previously been included in general
reserves to reflect the uncertainty created by the bankruptcy of Healthco in
1993 on the Company's portfolio and operations.
The provision for losses was $1,296,000 in 1995 as compared to $754,000
in 1994. The allowance for losses in 1995 was $4,512,000, approximately 3.8% of
net investment in leases and notes compared to $4,595,000 or 5.0% in 1994. Net
write-offs were $1,379,000 in 1995 compared to $3,056,000 in 1994. The increase
in the provision for losses is due to the higher level of new financings added
to the portfolio and management's continuing analysis of the risks and
diversification in its portfolio.
Net interest expense for 1995 was $4,964,000 compared to $3,156,000 in
1994 after reclassification to conform to 1995 presentation. This 57% increase
was due primarily to higher levels of debt (43%) and higher average interest
rates in 1995. The Company funded its business in 1995 in part with fixed rate
and revolving credit arrangements (see Liquidity and Capital Resources).
The Company had income before income taxes in 1995 of $79,000 compared
to $750,000 in 1994. The provision for income taxes was $204,000 (258%) in 1995
compared to $300,000 (40%) in 1994. This increase is due to the fact that the
$601,000 foreign currency translation adjustment is not deductible. In addition,
the Company has a $128,000 reduction in its tax provision for a 1995 Canadian
provincial refund of taxes from prior years.
The Company has relationships with a diverse mix of equipment
distributors and industry contacts in a variety of licensed practitioner
professions. No single source of new financing represented more than 8% of 1995
total volume of financings.
The earnings per share impact from the Company's repurchase and
retirement of treasury shares in 1995 was less than $.01. Earnings per share
have been unfavorably impacted by $.16 per share due to the 1995 write-off of
its cumulative translation adjustment from the substantial liquidation of
Credident.
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LIQUIDITY AND CAPITAL RESOURCES
At December 31, 1995, the Company had $861,000 in cash and cash
equivalents compared with $419,000 at the end of 1994. As discussed in Note B to
the Company's Consolidated Financial Statements, $5,610,000 of cash was
restricted as of December 31, 1995, pursuant to a securitization agreement with
HPSCF discussed below. Cash provided by operating activities was $4,514,000 for
the year ended December 31, 1995, compared to cash used in operating activities
of $2,598,000 for 1994. Cash used in investing activities was $32,417,000 for
the year ended December 31, 1995, compared to cash provided by investing
activities of $15,684,000 in 1994. Cash provided by financing activities was
$28,345,000 for 1995 compared to cash used in financing activities of
$29,267,000 in 1994.
On December 27, 1993, the Company raised $70,000,000 through an asset
Securitization transaction in which a wholly-owned subsidiary, HPSC Funding
Corp. I ("HPSCF") issued senior secured notes (the "Notes") at a rate of 5.01%.
The Notes were secured by a portion of the Company's portfolio which it sold in
part and contributed in part to HPSCF. Proceeds of this financing were used to
retire $50,000,000 10.125% senior notes due December 28, 1993, and $20,000,000,
10% subordinated notes due January 15, 1994. The Notes had an outstanding
balance of $20,150,000 at December 31, 1995.
In May, 1995, the Company executed an Amended and Restated Revolving
Loan agreement with the First National Bank of Boston as Agent Bank ("Revolving
Loan Agreement") increasing availability under this arrangement to $50,000,000.
This agreement was amended in December, 1995, to increase availability to
$60,000,000and extend the term to December 31, 1996. Under this agreement, the
Company may acquire US dollar loans at variable rates of prime plus 1/4% to 1/2%
in Eurodollar loans at LIBOR plus 1.75% to 2.00%, dependent on certain
performance covenants. At December 31, 1995, the Company had $39,000,000
outstanding under this facility. This revolving loan agreement is currently not
hedged and is, therefore, exposed to upward movements in interest rates.
As of January 31, 1995, The Company, along with its newly-formed,
wholly-owned, special-purpose subsidiary, HPSC Bravo Funding Corp. ("Bravo")
completed a $50,000,000 revolving credit facility structured and guaranteed by
Capital Markets Assurance Corporation ("CapMAC"). Under the terms of the
facility, Bravo, to which the Company has sold and may continue to sell or
contribute certain of its portfolio assets, pledges its interests in these
assets to a commercial-paper conduit entity. Bravo incurs interest at variable
rates in the commercial paper market and enters into interest rate swap
agreements to assure fixed rate funding. Monthly settlements of principal and
interest payments are made from the collection of payments on Bravo's
transactions. Additional sales to Bravo from HPSC may be made subject to certain
covenants regarding Bravo's portfolio performance and borrowing base
calculations.
The Company is the servicer of the Bravo portfolio, subject to meeting
certain covenants. The required monthly payments of principal and interest to
purchasers of the commercial paper are guaranteed by CapMAC pursuant to the
terms of the agreement.
The Company had $26,303,000 outstanding under this facility at December
31, 1995, and, in connection with this facility, had six separate interest rate
swap agreements with the Bank of Boston with a total notional value of
approximately $27,500,000.
In April, 1995, the Company entered into a fixed rate, fixed term loan
agreement with Springfield Institution for Savings ("SIS") under which the
Company borrowed $3,500,000 at 9.5% subject to certain recourse and performance
covenants. The Company had $3,070,000 outstanding under this agreement at
December 31, 1995. This revolving loan agreement is not currently hedged and is,
therefore, exposed to upward movements in interest rates. In November, 1995, the
Company entered into a sale agreement with SIS under which it transferred $1.5
million in assets to SIS subject to certain recourse covenants and servicing of
these assets by the Company. A net gain of approximately $53,000 was recognized
in connection with this transaction and is included in earned income from leases
and notes for 1995.
Amortization of debt discount of $0, $38,000, and $872,000 in 1995,
1994 and 1993 respectively is included in interest expense.
The Company's senior notes as shown on the accompanying balance sheet
reflect its approximate fair market value. The fair market value is estimated
based on the quoted market prices for the same or similar issues or on the
current rates offered to the Company for debt of the same maturity.
Management believes that the Company's liquidity is adequate to meet
current obligations and future projected levels of financings and carry on
normal operations. In order to finance adequately its anticipated growth, the
Company will continue to
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seek to raise additional capital from bank and non-bank sources and make
selective use of asset-sale transactions in 1996 as well as use additional
availability under its current facilities. The Company expects that it will be
able to obtain additional capital at competitive rates, but there can be no
assurance it will be able to do so.
Inflation in the form of rising interest rates could have an adverse
impact on the interest rate margins of the Company and its ability to maintain
timely and adequate earning spreads on its portfolio assets.
RECENT ACCOUNTING PRONOUNCEMENTS
In October 1995, the FASB issued SFAS No. 123, "Accounting for
Stock-Based Compensation." This standard was effective January 1, 1996. The
standard encourages, but does not require, adoption of a fair value-based
accounting method for stock-based compensation arrangements and would supersede
the provisions of Accounting Principles Board Opinion No. 25 (APB No. 25),
"Accounting for Stock Issued to Employees." An entity may continue to apply APB
No. 25 provided the entity discloses its pro forma net income and earnings per
share as if the fair value- based method had been applied in measuring
compensation cost. The Company intends to continue applying APB No. 25 and to
disclose the pro forma information required by SFAS No. 123.
RESULTS OF OPERATIONS
FISCAL 1994 COMPARED TO 1993
The Company's net income of $450,000 or $0.09 per share in 1994
compared with a loss of $7,278,000 or $1.48 per share in 1993. This increase was
due principally to a decrease in the provision for losses and interest expense,
offset by a decline in earned income on portfolio assets as well as a continuing
increase in selling general and administrative costs as part of the Company's
continuing transition into an independent, "open-market" financial services
company.
Revenue from leases and notes for 1994 was $11,630,000 after
reclassification to conform to 1995 presentation compared to $17,095,000 in
1993. This decline of 33% resulted primarily from a reduction of average
portfolio assets from 1993 to 1994 of 26%. However, as the Company made the
transition to an independent, open-market financial services company in 1994, it
financed portfolio assets at a cost of $32,609,000 in 1994 compared to
$16,402,000 in 1993, an approximately 99% increase in the amount of assets
financed. At December 31, 1994, the Company had a $25,000,000 backlog consisting
of customer applications which have been approved but have not yet resulted in a
completed transaction, compared to $6,400,000 at the end of 1993. Not all
approved applications result in financing transactions for the Company. The
Company reduced its cost of capital as a result of securitization and revolving
line of credit transactions (see Note B to Financial Statements and Liquidity
and Capital Resources). By reducing its cost of capital, the Company was able to
maintain competitive rates which it charges to its customers.
Selling, general and administrative expenses were $6,970,000 in 1994
compared to $5,160,000 in 1993. As a result of the Healthco bankruptcy, the
Company provided services which were formerly provided by Healthco under
intercompany agreements between the two companies, including computer, tax
compliance, human resources and certain advertising services. After the Healthco
bankruptcy the Company hired additional senior management and sales and support
personnel to assist the Company in its transition to a financial services
organization no longer affiliated with a single vendor. In addition, as
discussed above, the Company's level of activity in financing portfolio assets
increased approximately 99% in 1994 over 1993. The Company has also incurred
substantial legal fees in connection with the Healthco bankruptcy and the
transition of the Company to an open market financial services organization.
The provision for losses was $754,000 in 1994 compared to $15,104,000
in 1993. The allowance for losses of $4,595,000 for 1994 was approximately 5.0%
of net investment in leases and notes compared to $6,897,000 or 6.3% in 1993.
Net write-offs were $3,056,000 in 1994 compared to $17,423,000 in 1993. This
amount includes approximately $1,166,000 of write-offs taken against the
portfolio of Credident, the Company's wholly-owned Canadian subsidiary. In June,
1994, the Company entered into an agreement to sell substantially all the
finance assets of Credident to Newcourt Credit Group, Inc. ("Newcourt") for
approximately (US) $7,000,000 in cash. The Company entered into a service
agreement whereby Newcourt agreed to manage certain accounts over the next
two-year period ending June 30, 1996. Since the Company no longer generates new
business in
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Canada, these managed accounts were written down to estimated net realizable
value.
The decrease in the provision for losses in 1994 was due in part to the
decline in portfolio size, the increase in the allowance for losses in 1993, and
management's continuing analysis of the risks and diversification in its current
portfolio of assets. The exposure to certain accounts generated in the mid to
late 1980s decreased significantly in the Company's portfolio to 7.7% at
December 31, 1994. This category of accounts represented a substantial portion
of the 1993 provision for losses.
Net interest expense for 1994 was $3,156,000 after reclassification to
conform to 1995 presentation compared to $8,979,000 in 1993. This 65% decrease
resulted from a reduced level of average borrowings (30%) as well as reduced
overall interest rates on outstanding debt. The Company funded its business in
1994 in part with fixed rate and revolving credit arrangements.
The Company had income before income taxes in 1994 of $750,000 compared
to a loss of $12,148,000 in 1993. The provision for income taxes was $300,000 in
1994 compared to a credit in 1993 of $4,870,000.
Despite the adverse developments arising out of the Healthco bankruptcy
in 1993, the Company replaced the business previously supplied by Healthco with
referrals from other equipment vendors. The Company established relationships
with dental, medical, and other healthcare equipment distributors representing
diversified sources of new business. All of the new financings entered into by
the Company in 1994 involved equipment vendors other than Healthco.
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OFFICERS
JOHN W. EVERETS
Chairman
Chief Executive Officer
RAYMOND R. DOHERTY
President
Chief Operating Officer
RENE LEFEBVRE
Vice President
Treasurer
Chief Financial Officer
DIRECTORS
JOHN W. EVERETS (3)
Chairman
Chief Executive Officer
RAYMOND R. DOHERTY (3)
President
Chief Operating Officer
LOUIS J.P. CALISTI, DDS, MPH
Director Emeritus
JOSEPH A. BIERNAT (2)
Retired
Former Senior Vice President,
United Technologies Corp.
J. KERMIT BIRCHFIELD, JR. (1)(3)
Independent Consultant.
DOLLIE COLE (1)(2)
Chairperson
Dollie Cole Corporation
Dallas, Texas
SAMUEL P. COOLEY (1)(2)(3)
Retired
Former Executive Vice President,
Shawmut National Corp.
THOMAS M. MCDOUGAL, DDS (2)
Practicing Dentist
LOWELL P. WEICKER, JR.
Chairman
DresingoLiermanoWeicker
(1) Member, Compensation
Committee
(2) Member, Audit Committee
(3) Executive Committee
AUDITORS
Coopers & Lybrand, L.L.P.
One International Place
Boston, Massachusetts 02110
TRANSFER AGENT
First National Bank of Boston
100 Federal Street
Boston, Massachusetts 02110
10-K
HPSC's Annual Report on Form
10-K is available to stockholders
without charge by writing to:
Investor Relations Department
HPSC, Inc.
60 State Street, Suite 3520
Boston, Massachusetts 02109
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