================================================================================ United States SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ------------------- FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 for the quarterly period ended September 30, 2004 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 for the transition period from ____ to ____ COMMISSION FILE NUMBER 1-10356 CRAWFORD & COMPANY (Exact name of Registrant as specified in its charter) GEORGIA 58-0506554 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 5620 GLENRIDGE DRIVE, N.E. ATLANTA, GEORGIA 30342 (Address of principal executive offices) (Zip Code) (404) 256-0830 (Registrant's telephone number, including area code) ------------------- Indicate by check mark whether the Registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES [X] NO [ ] Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). YES [X] NO [ ] The number of shares outstanding of each of the issuer's classes of common stock, as of October 31, 2004 was as follows: CLASS A COMMON STOCK, $1.00 PAR VALUE: 24,146,740 CLASS B COMMON STOCK, $1.00 PAR VALUE: 24,697,172 ================================================================================ PART I - FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS CRAWFORD & COMPANY CONDENSED CONSOLIDATED STATEMENTS OF INCOME - UNAUDITED (In thousands, except per share data) NINE MONTHS ENDED --------------------------------- SEPTEMBER 30, SEPTEMBER 30, 2004 2003 ------------- ------------- REVENUES: Revenues before reimbursements $ 527,741 $ 515,802 Reimbursements 61,036 55,677 --------- --------- TOTAL REVENUES 588,777 571,479 --------- --------- COSTS AND EXPENSES: Cost of services provided, before reimbursements 407,599 395,272 Reimbursements 61,036 55,677 --------- --------- Cost of Services 468,635 450,949 Selling, general, and administrative expenses 100,946 95,332 Special (credit)/charge (1) (8,573) 8,000 Corporate interest, net 2,269 3,855 --------- --------- TOTAL COSTS AND EXPENSES 563,277 558,136 --------- --------- INCOME BEFORE INCOME TAXES 25,500 13,343 PROVISION FOR INCOME TAXES 8,046 7,769 --------- --------- NET INCOME $ 17,454 $ 5,574 --------- --------- NET INCOME PER SHARE: Basic $ 0.36 $ 0.11 Diluted $ 0.36 $ 0.11 ========= ========= WEIGHTED-AVERAGE SHARES OUTSTANDING: Basic 48,748 48,649 Diluted 48,829 48,701 ========= ========= CASH DIVIDENDS PER SHARE: Class A Common Stock $ 0.18 $ 0.18 Class B Common Stock $ 0.18 $ 0.18 ========= ========= (1) Special credit is a pretax gain related to the sale of an undeveloped parcel of real estate. Special charge is an after-tax fine related to the settlement of a Department of Justice investigation. (See accompanying notes to condensed consolidated financial statements) 2 CRAWFORD & COMPANY CONDENSED CONSOLIDATED STATEMENTS OF INCOME - UNAUDITED (IN THOUSANDS, EXCEPT PER SHARE DATA) QUARTER ENDED --------------------------------- SEPTEMBER 30, SEPTEMBER 30, 2004 2003 ------------- ------------- REVENUES: Revenues before reimbursements $ 185,870 $ 172,234 Reimbursements 31,638 27,075 --------- ---------- TOTAL REVENUES 217,508 199,309 --------- ---------- COSTS AND EXPENSES: Cost of services provided, before reimbursements 144,339 132,501 Reimbursements 31,638 27,075 --------- ---------- Cost of Services 175,977 159,576 Selling, general, and administrative expenses 33,160 31,615 Special (credit)/charge (1) (8,573) 8,000 Corporate interest, net 1,466 1,397 --------- ---------- TOTAL COSTS AND EXPENSES 202,030 200,588 --------- ---------- INCOME (LOSS) BEFORE INCOME TAXES 15,478 (1,279) PROVISION FOR INCOME TAXES 5,953 2,447 --------- ---------- NET INCOME (LOSS) $ 9,525 ($ 3,726) ========= ========== NET INCOME (LOSS) PER SHARE: Basic $ 0.20 ($ 0.08) Diluted $ 0.20 ($ 0.08) ========= ========== WEIGHTED-AVERAGE SHARES OUTSTANDING: Basic 48,796 48,700 Diluted 48,917 48,700 ========= ========== CASH DIVIDENDS PER SHARE: Class A Common Stock $ 0.06 $ 0.06 Class B Common Stock $ 0.06 $ 0.06 ========= ========== (1) Special credit is a pretax gain related to the sale of an undeveloped parcel of real estate. Special charge is an after-tax fine related to the settlement of a Department of Justice investigation. (See accompanying notes to condensed consolidated financial statements) 3 CRAWFORD & COMPANY CONDENSED CONSOLIDATED BALANCE SHEETS (IN THOUSANDS) (UNAUDITED) SEPTEMBER 30, DECEMBER 31, 2004 2003 ------------- ------------ ASSETS CURRENT ASSETS: Cash and cash equivalents $ 27,888 $ 45,805 Accounts receivable, less allowance for doubtful accounts of $23,329 in 2004 and $20,832 in 2003 172,735 142,273 Unbilled revenues, at estimated billable amounts 108,772 101,557 Prepaid expenses and other current assets 20,410 13,028 --------- --------- TOTAL CURRENT ASSETS 329,805 302,663 --------- --------- PROPERTY AND EQUIPMENT: Property and equipment, at cost 154,344 154,786 Less accumulated depreciation (119,500) (117,618) --------- --------- NET PROPERTY AND EQUIPMENT 34,844 37,168 --------- --------- OTHER ASSETS: Intangible assets arising from acquisitions, net 107,409 104,523 Capitalized software costs, net 32,569 31,540 Deferred income tax asset 28,750 28,505 Other 11,708 12,840 --------- --------- TOTAL OTHER ASSETS 180,436 177,408 --------- --------- TOTAL ASSETS $ 545,085 $ 517,239 ========= ========= (See accompanying notes to condensed consolidated financial statements) 4 CRAWFORD & COMPANY CONDENSED CONSOLIDATED BALANCE SHEETS - CONTINUED (In thousands) (UNAUDITED) SEPTEMBER 30, DECEMBER 31, 2004 2003 ------------- ------------ LIABILITIES AND SHAREHOLDERS' INVESTMENT CURRENT LIABILITIES: Short-term borrowings $ 38,012 $ 43,007 Accounts payable 37,015 36,152 Accrued compensation and related costs 38,302 37,870 Deferred revenues 26,817 19,172 Self-insured risks 19,702 18,040 Accrued income taxes 17,409 7,406 Other accrued liabilities 23,178 22,418 Current installments of long-term debt 2,313 3,106 --------- --------- TOTAL CURRENT LIABILITIES 202,748 187,171 --------- --------- NONCURRENT LIABILITIES: Long-term debt, less current installments 50,830 50,664 Deferred revenues 10,291 10,559 Self-insured risks 8,604 11,920 Minimum pension liability 70,306 67,846 Postretirement medical benefit obligation 5,913 6,077 Other 10,611 10,408 --------- --------- TOTAL NONCURRENT LIABILITIES 156,555 157,474 --------- --------- SHAREHOLDERS' INVESTMENT: Class A Common Stock, $1.00 par value; 50,000 shares authorized; 24,147 and 24,027 shares issued and outstanding at September 30, 2004 and December 31, 2003, respectively 24,147 24,027 Class B Common Stock, $1.00 par value; 50,000 shares authorized; 24,697 shares issued and outstanding in 2004 and 2003 24,697 24,697 Additional paid-in capital 1,403 840 Retained earnings 196,425 187,747 Accumulated other comprehensive loss (60,890) (64,717) --------- --------- TOTAL SHAREHOLDERS' INVESTMENT 185,782 172,594 --------- --------- TOTAL LIABILITIES AND SHAREHOLDERS' INVESTMENT $ 545,085 $ 517,239 ========= ========= (See accompanying notes to condensed consolidated financial statements) 5 CRAWFORD & COMPANY CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS - UNAUDITED (IN THOUSANDS) NINE MONTHS ENDED ------------------------------ SEPTEMBER 30, SEPTEMBER 30, 2004 2003 ------------- ------------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 17,454 $ 5,574 Reconciliation of net income to net cash provided by operating activities: Depreciation and amortization 13,512 12,290 Deferred income taxes (28) 271 (Gain) loss on sales of property and equipment (8,472) 100 Changes in operating assets and liabilities, net of effects of acquisitions: Accounts receivable, net (28,984) (1,246) Unbilled revenues (3,655) 603 Accrued or prepaid income taxes 9,827 3,017 Accounts payable and accrued liabilities (118) 10,203 Deferred revenues 7,160 1,302 Prepaid and accrued pension costs (1) 1,788 Prepaid expenses and other assets 3,155 (3,175) -------- -------- Net cash provided by operating activities 9,850 30,727 -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Acquisitions of property and equipment (7,582) (8,205) Capitalization of computer software costs (5,946) (9,390) Proceeds from sale of undeveloped land 2,028 - Acquisitions of businesses, net of cash acquired (617) (551) Proceeds from sales of property and equipment 178 251 -------- -------- Net cash used in investing activities (11,939) (17,895) -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: Dividends paid (8,776) (8,760) Proceeds from exercise of stock options 683 419 Increase in short-term borrowings 1,928 4,530 Payments on short-term borrowings (9,327) (2,901) Increase in long-term debt 335 434 Payments on long-term debt (1,176) (1,510) Capitalized loan costs 61 - -------- -------- Net cash used in financing activities (16,272) (7,788) -------- -------- Effect of exchange rate changes on cash and cash equivalents 444 1,269 -------- -------- (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (17,917) 6,313 -------- -------- Cash and cash equivalents at beginning of period 45,805 34,934 -------- -------- CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 27,888 $ 41,247 ======== ======== (See accompanying notes to condensed consolidated financial statements) 6 CRAWFORD & COMPANY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. The unaudited condensed consolidated financial statements of Crawford & Company (the "Company") included herein have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Certain previously reported amounts have been reclassified to conform to the current presentation. Costs associated with the Company's claims management systems totaling $814,000 and $2.3 million for the quarter and nine months ended September 30, 2003, respectively, were reclassified from selling, general, and administrative expenses to cost of services provided in the accompanying Consolidated Statements of Income in order to consistently reflect the cost of these systems. Client collateral deposits in the amount of $4.2 million as of December 31, 2003 were reclassified to other accrued liabilities in the accompanying Consolidated Balance Sheet in order to consistently report these deposits which were previously reported as a reduction to cash and cash equivalents. The Company receives reimbursements from clients for pass-through expenses related to the cost of media advertising and postage incurred during advertising and noticing campaigns related to class action settlements administered by the Company. The Company previously recorded certain of these reimbursements as a reduction of cost of services rather than as reimbursements revenue. The Company revised the accompanying Consolidated Statements of Income for the quarter and nine-month periods ended September 30, 2003 in order to correctly reflect total reimbursements. The impact of this revision was to increase reimbursement revenues and expenses by $15.2 million and $23.9 million for the quarter and nine-month periods ended September 30, 2003, respectively. The following table reconciles the Company's total revenues as previously reported in each quarter of 2003 to total revenues after reflecting the effects of the revisions: Quarter Ended -------------------------------------------------- March 31, June 30, September 30, December 31, (in thousands) 2003 2003 2003 2003 Total - -------------- ---------- --------- ------------- ----------- --------- Total revenues, as previously reported $ 176,873 $ 186,627 $ 184,084 $ 185,297 $ 732,881 Effect of revision 5,093 3,578 15,225 11,233 35,129 --------- --------- --------- --------- --------- Total revenues, revised $ 181,966 $ 190,205 $ 199,309 $ 196,530 $ 768,010 ========= ========= ========= ========= ========= 7 CRAWFORD & COMPANY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) The following table reconciles the Company's costs of services as previously reported in each quarter of 2003 to costs of services after reflecting the effects of the revisions: Quarter Ended -------------------------------------------------- March 31, June 30, September 30, December 31, (in thousands) 2003 2003 2003 2003 Total - -------------- ---------- --------- ------------- ----------- --------- Costs of services, as previously reported $ 138,164 $144,538 $ 144,351 $ 145,257 $ 572,310 Effect of revision 5,093 3,578 15,225 11,233 35,129 --------- --------- --------- ---------- --------- Costs of services, revised $ 143,257 $148,116 $ 159,576 $ 156,490 $ 607,439 ========= ======== ========= ========== ========= These revisions had no effect on revenues before reimbursements or net income as previously reported. The results of operations for the nine months ended September 30, 2004 are not necessarily indicative of the results to be expected during the balance of the year ending December 31, 2004. These condensed financial statements should be read in conjunction with the audited financial statements and related notes contained in the Company's Annual Report on Form 10-K/A for the fiscal year ended December 31, 2003. The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, 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. There have been no material changes to the Company's critical accounting policies and estimates, as disclosed on Form 10-K/A for the fiscal year ended December 31, 2003. The Company accounts for stock-based compensation utilizing the intrinsic value method in accordance with the provisions of Accounting Principles Board Opinion ("APB") No. 25, "Accounting for Stock Issued to Employees" and related interpretations. Accordingly, no compensation expense has been recognized for the Company's option plans because the exercise prices of the stock options equal the market prices of the underlying stock on the dates of grant. Had compensation cost for these plans been determined based on the fair value at the grant dates for awards under those plans consistent with Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation," the Company's net income and net income per share would have been reduced to the pro forma amounts indicated below: 8 CRAWFORD & COMPANY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) Quarter ended Nine months ended ----------------------------- ----------------------------- September 30, September 30, September 30, September 30, (in thousands, except per share data) 2004 2003 2004 2003 - ---------------------------------------- ------------- ------------- ------------- ------------- Net income (loss) as reported $9,525 $(3,726) $ 17,454 $ 5,574 Less: compensation expense using the fair value method, net of tax 253 364 649 1,029 ------ ------- -------- ------- Pro forma net income (loss) $9,272 $(4,090) $ 16,805 $ 4,545 ====== ======= ======== ======= Net income (loss) per share - basic: As reported $ 0.20 $ (0.08) $ 0.36 $ 0.11 ====== ======= ======== ======= Pro forma $ 0.19 $ (0.09) $ 0.34 $ 0.09 ====== ======= ======== ======= Net income (loss) per share - diluted: As reported $ 0.20 $ (0.08) $ 0.36 $ 0.11 ====== ======= ======== ======= Pro forma $ 0.19 $ (0.09) $ 0.34 $ 0.09 ====== ======= ======== ======= The fair value of options is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions: Quarter ended Nine months ended ----------------------------- ----------------------------- September 30, September 30, September 30, September 30, 2004 2003 2004 2003 ------------- ------------- ------------- ------------- Expected dividend yield 3.6% 3.6% 3.6% 3.6% Expected volatility 35% 34% 35% 34% Risk-free interest rate 3.8% 3.6% 3.8% 3.6% Expected life of options 7 years 7 years 7 years 7 years 2. During the quarter and nine months ended September 30, 2004, the Company utilized $64,000 and $271,000, respectively, of its restructuring reserves for payments related to lease terminations. As of September 30, 2004, remaining restructuring reserves were $996,000, $818,000 of which is included in other noncurrent liabilities. The noncurrent portion of accrued restructuring costs consists of long-term lease obligations related to various United Kingdom offices, which the Company has vacated and is currently attempting to sublease. Management periodically reviews the restructuring reserves and believes the remaining reserves are adequate to complete its plan. 3. Basic net income per share is computed based on the weighted-average number of total common shares outstanding during the respective periods. Diluted net income per share is computed based on the weighted-average number of total common shares outstanding plus the dilutive effect of outstanding stock options, if any, using the "treasury stock" method. Below is the calculation of basic and diluted net income per share for the quarters and nine months ended September 30, 2004 and 2003: 9 CRAWFORD & COMPANY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) Quarter ended Nine months ended ----------------------------- ----------------------------- September 30, September 30, September 30, September 30, (in thousands, except per share data) 2004 2003 2004 2003 - --------------------------------------- ------------- ------------- ------------- ------------- Net income (loss) available to common shareholders $ 9,525 $ (3,726) $17,454 $ 5,574 ======== ======== ======= ======= Weighted-average common shares outstanding - Basic 48,796 48,700 48,748 48,649 Dilutive effect of stock options 121 - 81 52 -------- -------- ------- ------- Weighted-average common shares outstanding - Diluted 48,917 48,700 48,829 48,701 ======== ======== ======= ======= Basic net income (loss) per share $ 0.20 $ (0.08) $ 0.36 $ 0.11 ======== ======== ======= ======= Diluted net income (loss) per share $ 0.20 $ (0.08) $ 0.36 $ 0.11 ======== ======== ======= ======= Additional options to purchase 4,679,898 shares of Class A Common Stock at exercise prices ranging from $5.32 to $19.50 per share were outstanding at September 30, 2004, but were not included in the computation of diluted net income per share because the options' exercise prices were greater than the average market price of the common shares during the 2004 nine-month period. To include them would have been antidilutive. 4. Comprehensive income (loss) for the Company consists of the total of net income (loss) and foreign currency translation adjustments. Below is the calculation of comprehensive income (loss) for the quarters and nine months ended September 30, 2004 and 2003: Quarter ended Nine months ended ----------------------------- ----------------------------- September 30, September 30, September 30, September 30, (in thousands) 2004 2003 2004 2003 - ---------------------------------- ------------- ------------- ------------- ------------- Net income (loss) $ 9,525 $ (3,726) $ 17,454 $ 5,574 Foreign currency translation adjustment 4,213 914 3,827 7,702 -------- -------- --------- --------- Comprehensive income (loss) $ 13,738 $ (2,812) $ 21,281 $ 13,276 ======== ======== ========= ========= 5. The Company has two reportable segments, one which provides claims services through branch offices located in the United States ("U.S. Operations") and the other which provides similar services through branch or representative offices located in 66 other countries ("International Operations"). The Company's reportable segments represent components of the business for which separate financial information is available that is evaluated regularly by the chief decision maker in deciding how to allocate resources and in assessing performance. 10 CRAWFORD & COMPANY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) Intersegment sales are recorded at cost and are not material. The Company measures segment profit based on operating earnings, defined as earnings before special credits/charges, net corporate interest and income taxes. Financial information for the quarters and nine months ended September 30, 2004 and 2003 covering the Company's reportable segments is presented below: Quarter ended Nine months ended ----------------------------- ----------------------------- September 30, September 30, September 30, September 30, (in thousands) 2004 2003 2004 2003 - ------------------------------- ------------- ------------- ------------- ------------- REVENUES: U.S. $123,466 $117,653 $342,372 $354,584 International 62,404 54,581 185,369 161,218 -------- -------- -------- -------- TOTAL REVENUES BEFORE REIMBURSEMENTS $185,870 $172,234 $527,741 $515,802 ======== ======== ======== ======== OPERATING EARNINGS: U.S. $ 7,023 $ 6,638 $ 13,741 $ 20,818 International 1,348 1,480 5,455 4,380 -------- -------- -------- -------- TOTAL OPERATING EARNINGS $ 8,371 $ 8,118 $ 19,196 $ 25,198 ======== ======== ======== ======== 6. During the quarters ended March 31, 2004 and September 30, 2004, the Company made additional payments of $106,000 and $97,000, respectively, to the former owner of Greentree Investigations, Inc. pursuant to a purchase agreement entered into in 2000. Additional contingent payments due under this agreement may be made through April 2005. During the quarter ended September 30, 2004, the Company made an additional payment of $41,000 to the former owners of SVS Experts B.V. pursuant to a purchase agreement entered into in 2001. There are no additional contingent payments due under this agreement. During June 2004, the Company acquired the net assets of Cabinet Mayoussier, Cabinet Tricaud, and TMA, France-based loss adjusting firms for an initial purchase price of $1.4 million, including deferred consideration of $828,000. This acquisition was made to strengthen the Company's position in the French loss adjusting market. The Company acquired assets with a fair value of $3.3 million, including goodwill of $1.7 million, and assumed liabilities of $1.9 million. Additional contingent payments due under this agreement may be made through October 2009. The results of operations of the acquired company are included in the Company's consolidated results as of the acquisition date. 7. The Company normally structures its acquisitions to include earnout payments, which are contingent upon the acquired entity reaching certain revenue and operating earnings targets. The amount of the contingent payments and length of the earnout period varies for each acquisition, and the ultimate payments when made will vary, as they are dependent on future events. Based on projected levels of revenues and operating earnings, additional payments under existing earnout agreements, which would result in additional goodwill when paid, would approximate $3.2 million through 2009, as follows: 2005 2006 2007 2008 2009 - -------- ------- ------- ---------- -------- $445,000 $80,000 $80,000 $2,347,000 $270,000 11 CRAWFORD & COMPANY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 8. The Company and its subsidiaries sponsor various defined benefit and defined contribution retirement plans covering substantially all employees. Effective December 31, 2002, the Company elected to freeze its U.S. defined benefit plan and replace it with a discretionary, non-contributory defined contribution plan. Net periodic benefit cost related to the U.S. defined benefit pension plan for the quarters and nine months ended September 30, 2004 and 2003 included the following components: Quarter ended Nine months ended ----------------------------- ----------------------------- September 30, September 30, September 30, September 30, (in thousands) 2004 2003 2004 2003 - ------------------------- ------------ ------------- ------------- ------------- Interest cost $ 5,337 $ 5,383 $ 16,011 $ 16,149 Expected return on assets (5,960) (5,357) (17,880) (16,071) Net amortization - 334 - 1,002 Recognized net actuarial loss 1,386 1,980 4,158 5,940 ------- ------- -------- -------- Net periodic benefit cost $ 763 $ 2,340 $ 2,289 $ 7,020 ======= ======= ======== ======== The Company was not required to make any contributions to its frozen U.S. defined benefit pension plan during 2004, but elected to contribute $1.0 million during the quarter ended September 30, 2004, which represented the minimum contribution required to avoid the imposition of Pension Benefit Guarantee Corporation variable rate insurance premiums. 9. On May 19, 2004, the Financial Accounting Standards Board ("FASB") issued Staff Position 106-2, "Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003." The referenced legislation was passed in December 2003, and provides for a federal subsidy to employers who offer retiree prescription drug benefits that are at least actuarially equivalent to those offered under the government sponsored Medicare Part D. The Company adopted the provisions of FASB Staff Position 106-2 during the third quarter of 2004, which reduced its accumulated post-retirement benefit obligation by approximately $2.0 million, resulting in an unrecognized net gain to the Company's post-retirement medical plan ("the Plan"). This unrecognized net gain is being amortized over the remaining life expectancy of the Plan participants and through September 30, 2004, such amortization reduced the Company's post retirement liability and expense by $145,000. On October 13, 2004, the FASB concluded that Statement 123R, "Share Based Payment," which would require companies to measure compensation cost for all share-based payments, including employee stock options, would be effective for public companies for interim or annual periods beginning after June 15, 2005. For those companies that elect the modified prospective transition alternative, retroactive application of the requirements of Statement 123 (not Statement 123R) to the beginning of the fiscal year that includes the effective date would be permitted, but not required. Early adoption of Statement 123R is encouraged. The FASB is expected to issue the final Statement during the 2004 fourth quarter. Based on employee stock options issued through September 30, 2004, adoption of the Statement in the 2005 third quarter, and use of the modified 12 prospective transition method, the Company expects the adoption of this Statement, when issued in its final form, to reduce net income by approximately $475,000 in the year of adoption. 10. On September 29, 2004, the Company completed the sale of an undeveloped parcel of real estate to a limited liability company wholly owned and controlled by Mr. John Williams, a member of the Company's Board of Directors, for a purchase price of $9.7 million. This purchase price represented a premium over an independent appraised value of the property. The Company received cash of $2.1 million and a $7.6 million first lien mortgage note receivable, at an effective interest rate of 4% per annum, due in its entirety in 270 days. A pretax gain of $8.6 million was recognized on the sale. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS BUSINESS OVERVIEW Crawford & Company provides claims management services to insurance companies, self-insured entities and class action settlement funds. Major service lines include workers' compensation claims administration and healthcare management services, property and casualty claims management, class action services and risk management information services. Insurance companies, which represent the major source of our revenues, customarily manage their own claims administration function but require limited services which we provide, primarily field investigation and evaluation of property and casualty insurance claims. Self-insured entities typically require a broader range of services from us. In addition to field investigation and evaluation of their claims, we may also provide initial loss reporting services for their claimants, loss mitigation services such as medical case management and vocational rehabilitation, risk management information services, and administration of the trust funds established to pay their claims. Finally, we also perform the administrative functions related to securities, product liability, bankruptcy and other class action settlements, including identifying and qualifying class members, determining and dispensing settlement payments, and administering the settlement funds. The claims management services market, both in the U.S. and internationally, is highly competitive and comprised of a large number of companies of varying size and scope of services. The demand from insurance companies and self-insured entities for services provided by independent claims service firms like us is largely dependent on industry-wide claims volumes, which are affected by the insurance underwriting cycle, weather-related events, general economic activity, and overall employment levels and associated injury rates. We generally earn our revenues on an individual fee per claim basis. Accordingly, the volume of claim referrals to us is a key driver of our revenues. During a hard insurance underwriting market, as we have experienced since the September 11, 2001 terrorist attacks, insurance companies become very selective in the risks they underwrite, and insurance premiums and policy deductibles increase, sometimes quite dramatically. This results in a reduction in industry-wide claims volumes, which reduces claims referrals to us unless we can offset the decline in claim referrals with growth in our share of the overall claims services market. Our ability to grow our market share in such a highly fragmented, competitive market is primarily dependent on the delivery of superior quality service and effective, properly focused sales efforts. RESULTS OF OPERATIONS Consolidated net income (loss) was $9.5 million and ($3.7) million for the quarters ended September 30, 2004 and 2003, respectively, and $17.5 million and $5.6 million for the nine months ended September 30, 2004 and 2003, respectively. During the 2004 third quarter, we recognized a gain of $5.2 million, net of related income taxes, on the sale of an undeveloped parcel of real estate. For the nine months ended September 30, 2004 consolidated net income 13 includes a tax credit refund claim and associated interest with the Internal Revenue Service which increased net income by $2.8 million. For the quarter and nine months ended September 30, 2003, consolidated net income (loss) includes an after-tax charge of $8.0 million under an agreement reached with the Department of Justice to resolve an investigation of our billing practices. Operating earnings is one of the key performance measures used by our senior management and chief decision maker to evaluate the performance of our business and make resource allocation decisions. We believe this measure is useful to investors in that it allows them to evaluate our performance using the same criteria our management uses. Operating earnings (earnings before special credit/charge, net corporate interest, and taxes) during the quarter and nine months ended September 30, 2004, totaled $8.4 million and $19.2 million, respectively, compared with $8.1 million and $25.2 million in the comparable 2003 periods. Following is a reconciliation of consolidated net income (loss) to operating earnings for the quarters and nine months ended September 30, 2004 and 2003 and the related margins as a percentage of revenues before reimbursements: Quarter ended Nine months ended --------------------------------------- ------------------------------------- September % September % September % September % (in thousands) 30, 2004 Margin 30, 2003 Margin 30, 2004 Margin 30, 2003 Margin - ---------------------- --------- ------ --------- ------ --------- ------ --------- ------ Net income (loss) $ 9,525 5.1% $ (3,726) (2.2)% $ 17,454 3.3% $ 5,574 1.1% Add/(deduct): Special credit/charge (8,573) (4.6) 8,000 4.7 (8,573) (1.6) 8,000 1.6 Net corporate interest 1,466 0.8 1,397 0.8 2,269 0.4 3,855 0.7 Income taxes 5,953 3.2 2,447 1.4 8,046 1.5 7,769 1.5 ------- --- -------- --- -------- --- -------- ---- Operating earnings $ 8,371 4.5% $ 8,118 4.7% $ 19,196 3.6% $ 25,198 4.9% ======= === ======== === ======== === ======== === The following is a discussion and analysis of the consolidated financial condition and results of operations of our two reportable segments: U.S. operations and international operations. Our reportable segments represent components of our business for which separate financial information is available that is evaluated regularly by our chief decision maker in deciding how to allocate resources and in assessing performance. Revenue amounts discussed exclude reimbursements for pass-through expenses. Expense amounts discussed exclude reimbursements, special credit/charge, net corporate interest, and income taxes. Revenues and expense amounts relating to reimbursements for pass-through expenses are discussed separately. Our discussion and analysis of operating expenses is comprised of two components. Compensation and fringe benefits include all compensation, payroll taxes, and benefits provided to our employees which, as a service company, represents our most significant and variable expense. Expenses other than reimbursements, compensation and fringe benefits include office rent and occupancy costs, other office operating expenses, and depreciation. This discussion should be read in conjunction with our unaudited condensed consolidated financial statements and the accompanying footnotes. 14 Operating results for our U.S. and international operations for the quarters and nine months ended September 30, 2004 and 2003 are as follows: Quarter ended Nine months ended ------------- ----------------- September 30, September 30, September 30, September 30, (in thousands) 2004 2003 2004 2003 - -------------------------- ------------- ------------- ------------- ------------- REVENUES BEFORE REIMBURSEMENTS: U.S. $123,466 $117,653 $342,372 $354,584 International 62,404 54,581 185,369 161,218 -------- -------- -------- -------- TOTAL $185,870 $172,234 $527,741 $515,802 COMPENSATION & FRINGE BENEFITS: U.S. $ 72,209 $ 71,725 $209,410 $221,371 % of Revenues 58.5% 61.0% 61.2% 62.4% International 44,494 39,078 129,763 112,895 % of Revenues 71.3% 71.6% 70.0% 70.0% -------- -------- -------- -------- TOTAL $116,703 $110,803 $339,173 $334,266 % of Revenues 62.8% 64.3% 64.3% 64.8% EXPENSES OTHER THAN REIMBURSEMENTS, COMPENSATION & FRINGE BENEFITS: U.S. $ 44,234 $ 39,290 $119,221 $112,395 % of Revenues 35.8% 33.4% 34.8% 31.7% International 16,562 14,023 50,151 43,943 % of Revenues 26.5% 25.7% 27.1% 27.3% -------- -------- -------- -------- TOTAL $ 60,796 $ 53,313 $169,372 $156,338 % of Revenues 32.7% 31.0% 32.1% 30.3% -------- -------- -------- -------- OPERATING EARNINGS (1): U.S. $ 7,023 $ 6,638 $ 13,741 $ 20,818 % of Revenues 5.7% 5.6% 4.0% 5.9% International 1,348 1,480 5,455 4,380 % of Revenues 2.2% 2.7% 2.9% 2.7% -------- -------- -------- -------- TOTAL $ 8,371 $ 8,118 $ 19,196 $ 25,198 % of Revenues 4.5% 4.7% 3.6% 4.9% (1) Earnings before special credit/charge, net corporate interest, and income taxes. 15 U.S. OPERATIONS REVENUES U.S. revenues before reimbursements, by market type, for the quarters and nine months ended September 30, 2004 and 2003 are as follows: Quarter ended Nine months ended -------------------------------------- ---------------------------------------- September 30, September 30, September 30, September 30, (in thousands) 2004 2003 Variance 2004 2003 Variance - ----------------------- ------------- ------------- -------- ------------- ------------- --------- Insurance companies $ 58,000 $ 56,834 2.1% $156,822 $177,659 (11.7%) Self-insured entities 39,483 40,875 (3.4%) 120,245 125,417 (4.1%) Class action services 25,983 19,944 30.3% 65,305 51,508 26.8% -------- -------- -------- -------- TOTAL U.S. REVENUES BEFORE REIMBURSEMENTS $123,466 $117,653 4.9% $342,372 $354,584 (3.4%) ======== ======== ======== ======== Revenues from insurance companies increased 2.1% from $56.8 million in the 2003 third quarter to $58.0 million in the 2004 third quarter, reflecting a $4.0 million increase in revenues generated by the Company's catastrophe adjusters in response to the recent hurricanes which struck the southeastern United States during the 2004 third quarter. Revenues from self-insured clients decreased 3.4%, from $40.9 million in the 2003 third quarter to $39.5 million in the 2004 period, due primarily to a reduction in claim referrals from our existing clients, only partially offset by new business gains. See the following analysis of U.S. cases received. Class action revenues, which can fluctuate based on the timing of project awards, increased 30.3%, from $19.9 million in the 2003 third quarter to a new quarterly record of $26.0 million in the current quarter. This increase is primarily the result of work commenced on several new projects awarded during 2004. Case Volume Analysis U.S. unit volume, measured principally by cases received, and excluding the impact of class action services, increased 7.6% in the third quarter of 2004 compared to the 2003 period. This increase was offset by a 7.8% revenue decrease from changes in the mix of services provided and in the rates charged for those services, resulting in a net 0.2% decrease in U.S. revenues for the third quarter of 2004, excluding revenues from class action services. Growth in class action services increased U.S. revenues by 5.1% in the quarter ended September 30, 2004, compared to the prior year period. Excluding the impact of class action services, U.S. unit volume by major product line, as measured by cases received, for the quarters and nine months ended September 30, 2004 and 2003 is as follows: Quarter ended Nine months ended -------------------------------------- ---------------------------------------- September 30, September 30, September 30, September 30, (whole numbers) 2004 2003 Variance 2004 2003 Variance - ----------------------- ------------- ------------- -------- ------------- ------------- --------- Casualty 53,760 52,987 1.5% 155,439 160,083 (2.9%) Property 90,238 62,329 44.8% 180,296 179,215 0.6% Vehicle 38,371 43,318 (11.4%) 106,420 143,399 (25.8%) Workers' Compensation 37,388 45,980 (18.7%) 115,208 140,327 (17.9%) Other 5,531 4,773 15.9% 15,105 15,405 (1.9%) ------- ------- ------- ------- TOTAL U.S. CASES RECEIVED 225,288 209,387 7.6% 572,468 638,429 (10.3%) ======= ======= ======= ======= 16 The sharp increase in property claims for the quarter is due to the four hurricanes that hit Florida and other southeastern states during August and September of 2004. This influx in case referrals has created a strong backlog of claims that we will handle in the 2004 fourth quarter and first half of 2005. The decline in vehicle claims for the quarter is due to a decline in referrals of high-frequency, low-severity claims from our insurance company clients. Conservative underwriting by insurance companies, including significant increases in policy deductibles, has contributed to an industry-wide decline in property and casualty claims frequency, exclusive of recent hurricane-related claims. Our decline in workers' compensation claim referrals is due to a reduction from our existing clients, only partially offset by new business gains, and reflects a continued weakness in U.S. employment levels and associated injury rates. COMPENSATION AND FRINGE BENEFITS Our most significant expense is the compensation of employees, including related payroll taxes and fringe benefits. U.S. compensation expense as a percent of revenues decreased to 58.5% in the third quarter of 2004 as compared to 61.0% in the 2003 quarter, reflecting a usage of excess operating capacity due to the increase in hurricane-related claims. In response to the year-to-date declines in U.S. claims volume, we have reduced our level of U.S. full-time equivalent employees by 8.7% as compared to employment levels through the 2003 third quarter. There were an average of 4,200 full-time equivalent employees in the first nine months of 2004, compared to an average of 4,602 in the 2003 period. U.S. salaries and wages totaled $59.7 million for the quarter ended September 30, 2004, increasing 2.8% from $58.1 million in the 2003 period. This increase reflects higher compensation expense in our catastrophe unit which is responding to the recent hurricanes that struck the southeastern United States during the 2004 third quarter. U.S. salaries and wages totaled $171.3 million for the nine months ended September 30, 2004, decreasing 4.3% from $178.9 million in the comparable 2003 period. Payroll taxes and fringe benefits for U.S. operations totaled $12.5 million and $38.1 million in the third quarter and first nine months of 2004, respectively, decreasing 8.1% and 10.4% from 2003 costs of $13.6 million and $42.5 million for the comparable periods. These decreases reflect the reduction in full-time equivalent employees during the current quarter and year-to-date period. EXPENSES OTHER THAN REIMBURSEMENTS, COMPENSATION AND FRINGE BENEFITS U.S. expenses other than reimbursements, compensation and related payroll taxes and fringe benefits were 35.8% of revenues for the quarter ended September 30, 2004, up from 33.4% for the same period in 2003. U.S. expenses other than reimbursements, compensation and related payroll taxes and fringe benefits approximated 34.8% of revenues for the nine-month period ended September 30, 2004, up from 31.7% for the same period in 2003. These increases primarily relate to higher outsourced administration fees associated with growth in our class action services unit during the 2004 periods. REIMBURSEMENTS Reimbursements in our U.S. operations increased to $24.8 million and $41.8 million for the quarter and nine months ended September 30, 2004, respectively, from $18.7 million and $34.6 million in the comparable 2003 period, reflecting higher pass-through expenses relating to the increase in revenues from our class action services unit. 17 INTERNATIONAL OPERATIONS REVENUES Substantially all international revenues are derived from the insurance company market. Revenues before reimbursements from our international operations increased 14.3%, from $54.6 million in the third quarter of 2003 to $62.4 million in the 2004 third quarter. Revenues before reimbursements for the first nine months of 2004 totaled $185.4 million, a 15.0% increase from $161.2 million reported in the first nine months of 2003. International unit volume, measured principally by cases received, increased 1.4% and 1.8% in the current quarter and nine months ended September 30, 2004, respectively, compared to the same periods in 2003. Revenues increased by 5.8% and 2.3% in the current quarter and nine months ended September 30, 2004, respectively, from changes in the mix of services provided and in the rates charged for those services. Revenues reflect a 7.1% and 10.9% increase during the quarter and nine months ended September 30, 2004, due to the positive effect of a weak U.S. dollar, primarily as compared to the British pound and the euro. International unit volume by region for the quarters and nine months ended September 30, 2004 and 2003 was as follows: Quarter ended Nine months ended -------------------------------------- ---------------------------------------- September 30, September 30, September 30, September 30, (whole numbers) 2004 2003 Variance 2004 2003 Variance - ------------------------ ------------- ------------- -------- ------------- ------------- --------- United Kingdom 27,075 24,675 9.7% 78,384 70,263 11.6% Americas 31,820 29,373 8.3% 84,487 87,200 (3.1%) CEMEA 20,329 22,715 (10.5%) 62,640 61,775 1.4% Asia/Pacific 8,545 9,832 (13.1%) 27,588 29,486 (6.4%) ------ ------ ------- ------- TOTAL INTERNATIONAL CASES RECEIVED 87,769 86,595 1.4% 253,099 248,724 1.8% ====== ====== ======= ======= The increase in the United Kingdom (U.K.) is largely due to an increase in claims received from new contracts entered into in late 2003 and during 2004. The increase in the Americas is primarily due to weather related claims in Canada and the Caribbean during the 2004 third quarter. The decrease in Continental Europe, Middle East, & Africa ("CEMEA") is primarily due to the loss of a client in South Africa which referred approximately 2,800 high-frequency, low-dollar claims to us during the 2003 third quarter. The decrease in Asia/Pacific is primarily due to a decline in weather related claims in Australia during 2004. COMPENSATION AND FRINGE BENEFITS As a percent of revenues, compensation expense, including related payroll taxes and fringe benefits, decreased slightly to 71.3% for the quarter ended September 30, 2004 from 71.6% for the same period in 2003, primarily due to a reduction of capacity within our U.K. unit. For the nine-month period, compensation, payroll taxes and fringe benefits remained constant as a percentage of revenues at 70.0% in 2004 and 2003. There were an average of 3,137 full-time equivalent employees in the first nine months of 2004 compared to an average of 3,123 in the 2003 period. Salaries and wages of international personnel increased to $37.5 million for the quarter ended 18 September 30, 2004, up 13.6% from $33.0 million in the comparable 2003 period. For the nine-month period, salaries and wages increased to $108.9 million in 2004, up 14.2% from $95.4 million in 2003. Payroll taxes and fringe benefits for international operations totaled $7.0 million and $20.8 million for the quarter and nine months ended September 30, 2004, respectively, increasing 14.8% and 18.9% compared to costs of $6.1 million and $17.5 million for the same periods in 2003. The increases in these costs are largely the result of a decline in the value of the U.S. dollar against other major currencies, primarily the British pound and the euro. EXPENSES OTHER THAN REIMBURSEMENTS, COMPENSATION AND FRINGE BENEFITS Expenses other than compensation and related payroll taxes and fringe benefits were 26.5% and 27.1% of international revenues for the quarter and nine months ended September 30, 2004, respectively, compared to 25.7% and 27.3% for the same period in 2003. REIMBURSEMENTS Reimbursements in our international operations decreased to $6.8 million and $19.2 million for the quarter and nine months ended September 30, 2004, respectively, from $8.4 million and $21.1 million in the comparable 2003 periods. These declines are due to a decline in the number of claims requiring the use of outside experts during the current year periods. SPECIAL CREDIT/CHARGE, NET CORPORATE INTEREST, AND INCOME TAXES During September 2004, we completed the sale of an undeveloped parcel of real estate. We received cash of $2.1 million and a $7.6 million first lien mortgage note receivable, at an effective interest rate of approximately 4% per annum, due in its entirety in 270 days. This note is recorded in the accompanying balance sheet under other current assets. A pretax gain of $8.6 million was recognized on the sale. After reflecting income taxes, this special credit increased net income by $5.2 million, or $0.11 per share, during the 2004 third quarter. During the 2003 third quarter, we recorded an after-tax $8.0 million charge, or $0.17 per share, in connection with the settlement of a Department of Justice investigation. During June 2004, we settled a tax credit refund claim with the Internal Revenue Service and recorded a receivable of $3.5 million which is comprised of a tax refund of $1.7 million and associated interest of $1.8 million. Net corporate interest increased to $1.5 million for the quarter ended September 30, 2004 from $1.4 million in the 2003 period. Including interest income of $1.8 million associated with the tax refund claim discussed above, net corporate interest decreased to $2.2 million for the 2004 year-to-date period from $3.9 million in the comparable 2003 period. Excluding the tax refund of $1.7 million in 2004 and the $8.0 million after-tax charge in 2003, our effective tax rate was 38.4% of pretax income for the quarter and nine months ended September 30, 2004, compared to 36.4% of pretax income for the quarter and nine months ended September 30, 2003. Taxes on income, including the expected tax refund, totaled $6.0 million and $8.0 million for the quarter and nine months ended September 30, 2004, respectively, as compared to $2.4 million and $7.8 million for the comparable 2003 periods. We perform a quarterly evaluation of our effective tax rate expected for the year. Based on operating results 19 through the first nine months of 2004 and a projection of operating results for the remainder of the year, we estimate that our effective tax rate will be 38.4% for the calendar year 2004, before considering the tax credit. The change in our estimated effective tax rate for 2004 was primarily due to a change in the mix of income expected from our various international operations. LIQUIDITY, CAPITAL RESOURCES, AND FINANCIAL CONDITION At September 30, 2004, current assets exceeded current liabilities by approximately $127.1 million, an increase of $11.6 million from the working capital balance at December 31, 2003. Cash and cash equivalents at September 30, 2004 totaled $27.9 million, a decrease of $17.9 million from the balance at December 31, 2003. Cash provided by operations during the 2004 period totaled $9.9 million, compared to $30.7 million for the same period in 2003. Our class action services operations used cash in the current year-to-date period to fund growth in its operations and capital expenditures of $12.1 million. We made a $6.1 million annual contribution to our U.S. defined contribution pension plan during the 2004 first quarter. There was no such contribution during 2003. During the 2004 third quarter, we made a $1.0 million contribution to our frozen U.S. defined benefit plan, as compared to a $10.0 million contribution during the 2003 third quarter. Other significant uses of cash during the 2004 period included dividends paid to shareholders, acquisitions of property and equipment, investments in computer software, and net payments on short-term borrowings. Cash dividends to shareholders approximated 50.3% of net income in the first nine months of 2004, compared to 157.2% for the same period in 2003. The Board of Directors declares cash dividends to shareholders each quarter based on an assessment of current and projected earnings and cash flows. During the first nine months of 2004, we did not repurchase any Class A or Class B Common Stock. As of September 30, 2004, 705,863 shares are eligible to be repurchased under the discretionary 1999 share repurchase program authorized by the Board of Directors. We believe it is unlikely that we will repurchase shares under this program in the foreseeable future due to the decline in the funded status of our defined benefit pension plans. We maintain committed revolving credit lines with banks in order to meet seasonal working capital requirements and other financing needs that may arise. Our short-term debt obligations typically peak during the first quarter and generally decline during the balance of the year. The balance of unused lines of credit totaled $24.2 million at September 30, 2004. Short-term borrowings outstanding, including bank overdraft facilities, as of September 30, 2004 totaled $38.0 million, decreasing from $43.0 million at December 31, 2003. Long-term borrowings outstanding, excluding current installments, as of September 30, 2004 totaled $50.8 million compared to $50.7 million at December 31, 2003. Please refer to the debt covenants discussion under the "Factors that May Affect Future Results" section of this report for a further discussion of our borrowing capabilities. We believe that our current financial resources, together with funds generated from operations and existing and potential borrowing capabilities, will be sufficient to maintain our current operations for the next twelve months. We do not engage in any hedging activities to compensate for the effect of exchange rate fluctuations on the operating results of our foreign subsidiaries. Foreign currency denominated debt is maintained primarily to hedge the currency exposure of our net investment in foreign operations. 20 Shareholders' investment at September 30, 2004 was $185.8 million, compared with $172.6 million at December 31, 2003. This increase is primarily the result of net income less dividends paid to shareholders. CRITICAL ACCOUNTING POLICIES AND ESTIMATES "Management's Discussion and Analysis of Financial Condition and Results of Operations" discusses our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the U.S. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the 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. On an ongoing basis, management evaluates these estimates and judgements based upon historical experience and on various other factors that are believed to be reasonable under the circumstances. The results of these evaluations form the basis for making judgements about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. There have been no changes to our critical accounting policies and estimates since December 31, 2003. For a complete discussion regarding the application of our critical accounting policies, see our Form 10-K/A for the year ended December 31, 2003 filed with the Securities and Exchange Commission, under the heading "Critical Accounting Policies and Estimates" in the "Management's Discussion and Analysis of Financial Condition and Results of Operations" section. FACTORS THAT MAY AFFECT FUTURE RESULTS FORWARD LOOKING STATEMENTS Certain information presented in "Management's Discussion and Analysis of Financial Condition and Results of Operations" may include forward-looking statements, the accuracy of which is subject to a number of risks, uncertainties and assumptions. Our Form 10-K/A for the year ended December 31, 2003, discusses such risks, uncertainties and assumptions and other key factors that could cause actual results to differ materially from those expressed in such forward-looking statements. LEGAL PROCEEDINGS In the normal course of the claims administration services business, we are named as a defendant in suits by insureds or claimants contesting decisions made by us or our clients with respect to the settlement of claims. Additionally, our clients have brought actions for indemnification on the basis of alleged negligence on our part, our agents, or our employees in rendering service to clients. The majority of these claims are of the type covered by insurance that we maintain; however, we are self-insured for the deductibles under various insurance coverages. In our opinion, adequate reserves have been provided for such self-insured risks. We have received two related federal grand jury subpoenas which we understand have been issued as part of a possible conflicts of interest investigation involving a public entity client of one of our New York offices for Risk Management Services and Healthcare Management. We have completed our responses to both of these subpoenas. For a complete discussion regarding legal proceedings, see our Form 10-K/A for the year ended December 31, 2003 filed with the 21 Securities and Exchange Commission, under the heading "Factors that May Affect Future Results" in the "Management's Discussion and Analysis of Financial Condition and Results of Operations" section. We have received notice and anticipate that we will be the subject of an audit under California Labor Code Sections 129 and 129.5 by the Audit Unit, Division of Workers Compensation, Department of Industrial Relations, State of California ("Audit Unit"). The Audit Unit seeks to audit workers compensation files which we handled on behalf of our clients in our El Segundo, California office in 2001 and 2002. This audit relates to a previous audit that we underwent in El Segundo in 2000 wherein we agreed to the imposition of a civil penalty pursuant to California Labor Code Section 129.5 and submission to this current follow-up audit, among other items. With respect to this current audit, we cannot predict when it will be completed, its ultimate outcome, its effect on our financial condition, results of operations, or cash flows. CONTINGENT PAYMENTS We normally structure acquisitions to include earnout payments, which are contingent upon the acquired entity reaching certain revenue and operating earnings targets. The amount of the contingent payments and length of the earnout period varies for each acquisition, and the ultimate payments when made will vary, as they are dependent on future events. Based on projected levels of revenues and operating earnings, additional payments under existing earnout agreements would approximate $3.2 million through 2009, as follows: 2005 - $445,000; 2006 - $80,000; 2007 - $80,000; 2008 - $2,347,000; and 2009 - $270,000. We maintain letters of credit to satisfy certain contractual requirements. At September 30, 2004, there was $12.2 million committed under these letters of credit. POSTRETIREMENT MEDICAL BENEFITS On May 19, 2004, the Financial Accounting Standards Board ("FASB") issued Staff Position 106-2, "Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003." The referenced legislation was passed in December 2003, and provides for a federal subsidy to employers who offer retiree prescription drug benefits that are at least actuarially equivalent to those offered under the government sponsored Medicare Part D. We adopted the provisions of FASB Staff Position 106-2 during the third quarter of 2004, which reduced our accumulated post-retirement benefit obligation by approximately $2.0 million, resulting in an unrecognized net gain to the Company's post-retirement medical plan ("the Plan"). This unrecognized net gain is being amortized over the remaining life expectancy of the Plan participants and through September 30, 2004, such amortization reduced our post-retirement liability and expense by $145,000. (See footnote 9 to the condensed consolidated financial statements). 22 DEBT COVENANTS In October 2003, we entered into a committed $70.0 million revolving credit line pursuant to a revolving credit agreement (the "Revolving Credit Agreement") and issued $50.0 million in 6.08% senior notes due October 2010 pursuant to a notes purchase agreement (the "Notes Purchase Agreement"). As of September 30, 2004, there was $33.6 million outstanding on the revolving credit line with an average variable interest rate of 5.3%. In addition, letters of credit of $12.2 million were also outstanding under this revolving credit line. The stock of Crawford & Company International, Inc. is pledged as security under these agreements and the Company's domestic subsidiaries have guaranteed the Company's obligations under these agreements. Both of these agreements contain various provisions which require us to maintain defined leverage ratios, fixed charge coverage ratios, and minimum net worth thresholds. We must maintain, on a rolling four quarter basis, a leverage ratio of consolidated debt to earnings before interest, income taxes, depreciation, amortization, certain non-recurring charges, and the capitalization of internally developed software costs ("EBITDA") of no more than 2.50 times EBITDA. This ratio is reduced to a maximum allowable of 2.25 times EBITDA at September 30, 2005 and thereafter. We must also maintain a fixed charge coverage ratio of EBITDA less depreciation and amortization plus lease expense ("EBITR") to total fixed charges, consisting of interest expense and lease expense, of no less than 1.50 times fixed charges. Additionally, we are required to maintain a minimum net worth equal to $135,516,350 plus 50% of our cumulative positive consolidated net income earned after December 31, 2002, plus 100% of the net proceeds from any equity offering subject to certain terms and conditions. For purposes of determining minimum net worth, any non-cash adjustments after December 31, 2002 related to our pension fund liabilities, goodwill, or foreign currency translations are excluded. We were in compliance with these debt covenants as of September 30, 2004. If we were not to meet the covenant requirements in the future, we would be in default under these agreements. In such an event, we would need to obtain a waiver of the default or repay the outstanding indebtedness under the agreements. If we were unable to obtain a waiver on satisfactory terms, we may be required to renegotiate this indebtedness. Any such renegotiations could result in less favorable terms, including higher interest rates and accelerated payments. Our current operating results indicate that we will be in compliance with the financial covenants contained in the Revolving Credit Agreement and the Notes Purchase Agreement throughout 2004. However, there can be no assurance that our actual financial results will match our current results or that we will not violate the covenants. PENDING ACCOUNTING PRONOUNCEMENTS On October 13, 2004, the FASB concluded that Statement 123R, "Share Based Payments" which would require companies to measure compensation cost for all share-based payments, including employee stock options, would be effective for public companies for interim or annual periods beginning after June 15, 2005. For those companies that elect the modified prospective transition alternative, retroactive application of the requirements of Statement 123 (not Statement 123R) to the beginning of the fiscal year that includes the effective date would be permitted, but not required. Early adoption of Statement 123R is encouraged. The FASB is expected to issue the final statement during the 2004 fourth quarter. Based on employee stock options issued through September 30, 2004, adoption of the Statement in the 2005 third quarter, and use of the modified prospective transition method, we expect the adoption of this Statement, when issued in its final 23 form, to reduce net income by approximately $475,000 in the year of adoption, or $0.01 per share. (See footnote 9 to the condensed consolidated financial statements). ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE OF MARKET RISK DERIVATIVES We have not entered into any transactions using derivative financial instruments or derivative commodity instruments during the 2004 third quarter or nine months ended September 30, 2004. FOREIGN CURRENCY EXCHANGE Our international operations expose us to foreign currency exchange rate changes that could impact translations of foreign-denominated assets and liabilities into U.S. dollars and future earnings and cash flows from transactions denominated in different currencies. Revenues from our international operations were 35.1% and 31.3% of total revenues for the nine months ended September 30, 2004 and 2003, respectively. Except for borrowing in foreign currencies, we do not presently engage in any hedging activities to compensate for the effect of exchange rate fluctuations on the net assets or operating results of our foreign subsidiaries. We measure currency earnings risk related to our international operations based on changes in foreign currency rates using a sensitivity analysis. The sensitivity analysis measures the potential loss in earnings based on a hypothetical 10% change in currency exchange rates. Exchange rates and currency positions as of September 30, 2004 were used to perform the sensitivity analysis. Such analysis indicates that a hypothetical 10% change in foreign currency exchange rates would have decreased pretax income by approximately $365,000, or less than $0.01 per share, during the first nine months of 2004, had the U.S. dollar exchange rate increased relative to the currencies with which we had exposure. INTEREST RATES We are exposed to interest rate fluctuations on certain variable rate borrowings. Depending on general economic conditions, we use variable rate debt for short-term borrowings and fixed rate debt for long-term borrowings. At September 30, 2004, we had $38.0 million in short-term loans outstanding, including bank overdraft facilities, with an average variable interest rate of 5.3%. If the average interest rate were to change by 1%, the impact to pretax income for the nine months ended September 30, 2004 would be approximately $285,000, or less than $0.01 per share. Changes in the projected benefit obligations of our defined benefit pension plans are largely dependent on changes in prevailing interest rates as of the measurement dates we use to value these obligations under SFAS 87. If our assumption for the discount rate were to change by 0.25%, representing either an increase or decrease in the rate, the projected benefit obligation of our frozen U.S. defined benefit plan would change by approximately $10.8 million. The impact of this change to pretax income for the nine months ended September 30, 2004 would have been approximately $843,000, or $0.01 per share. CREDIT RISK We process payments for claims settlements, primarily on behalf of our self-insured clients. The liability for the settlement cost of claims processed, which is generally pre-funded, remains with 24 the client. Accordingly, we do not incur significant credit risk in the performance of these services. ITEM 4. CONTROLS AND PROCEDURES EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES Disclosure controls and procedures are our controls and other procedures that are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act of 1934, as amended (the "Exchange Act"), is recorded, processed, summarized and reported, within the time periods specified in the SEC's rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in the reports that we file under the Exchange Act is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure. As of the end of the period covered by this report, we have evaluated the effectiveness of the design and operation of our disclosure controls and procedures. This evaluation was carried out under the supervision and with the participation of our management, including our chief executive officer and chief financial officer. Based on this evaluation, the chief executive officer and chief financial officer have concluded that the design and operation of our disclosure controls and procedures are effective. CHANGES IN INTERNAL CONTROLS There have been no significant changes in our internal controls over financial reporting during the period covered by this report that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 25 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Shareholders and Board of Directors of Crawford & Company: We have reviewed the condensed consolidated balance sheet of CRAWFORD & COMPANY as of September 30, 2004, and the related condensed consolidated statements of income for the three-month and nine-month periods ended September 30, 2004 and 2003, and the condensed consolidated statements of cash flows for the nine-month periods ended September 30, 2004 and 2003. These financial statements are the responsibility of the Company's management. We conducted our review in accordance with the standards of the Public Company Accounting Oversight Board (United States). A review of interim financial information consists principally of applying analytical procedures to financial data, and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with the standards of the Public Company Accounting Oversight Board, which will be performed for the full year with the objective of expressing an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion. Based on our review, we are not aware of any material modifications that should be made to the condensed consolidated financial statements, referred to above, for them to be in conformity with U.S. generally accepted accounting principles. We have previously audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of CRAWFORD & COMPANY as of December 31, 2003, and the related consolidated statements of income and cash flows for the year then ended (not presented herein) and in our report dated February 2, 2004, except for Note 1, as to which the date is July 28, 2004, we expressed an unqualified opinion on those consolidated financial statements. In our opinion, the information set forth in the accompanying consolidated condensed balance sheet as of December 31, 2003, is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived. /s/ Ernst & Young LLP Atlanta, Georgia November 8, 2004 26 PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We have received two related federal grand jury subpoenas which we understand have been issued as part of a possible conflicts of interest investigation involving a public entity client of one of our New York offices for Risk Management Services and Healthcare Management. We have completed our responses to both of these subpoenas. For a complete discussion regarding legal proceedings, see our Form 10-K/A for the year ended December 31, 2003 filed with the Securities and Exchange Commission, under the heading "Factors that May Affect Future Results" in the "Management's Discussion and Analysis of Financial Condition and Results of Operations" section. We have received notice and anticipate that we will be the subject of an audit under California Labor Code Sections 129 and 129.5 by the Audit Unit, Division of Workers Compensation, Department of Industrial Relations, State of California ("Audit Unit"). The Audit Unit seeks to audit workers compensation files which we handled on behalf of our clients in our El Segundo, California office in 2001 and 2002. This audit relates to a previous audit that we underwent in El Segundo in 2000 wherein we agreed to the imposition of a civil penalty pursuant to California Labor Code Section 129.5 and submission to this current follow-up audit, among other items. With respect to this current audit, we cannot predict when it will be completed, its ultimate outcome, or its effect on our financial position, results of operations, or cash flows. ITEM 6. EXHIBITS Exhibits: 3.1 Restated Articles of Incorporation of the Registrant, as amended (incorporated by reference to Exhibit 19.1 to the Registrant's Quarterly report on form 10-Q for the quarter ended June 30, 1991). 3.2 Restated By-Laws of the Registrant, as amended (incorporated by reference to the Registrant's form 10-Q for the quarter ended March 31, 2004). 10.1 Restated Supplemental Executive Retirement Plan, as amended 23.1 Letter from Ernst & Young 31.1 Certification of principal executive officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 31.2 Certification of principal financial officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 32.1 Certification of principal executive officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 27 32.2 Certification of principal financial officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 28 SIGNATURES 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. CRAWFORD & COMPANY (Registrant) Date: November 8, 2004 /s/ Thomas W. Crawford ------------------------------------------ Thomas W. Crawford Chief Executive Officer (Principal Executive Officer) Date: November 8, 2004 /s/ John F. Giblin ------------------------------------------ John F. Giblin Executive Vice President - Finance (Principal Financial Officer) Date: November 8, 2004 /s/ W. Bruce Swain ------------------------------------------ W. Bruce Swain Senior Vice President and Controller (Principal Accounting Officer) 29 INDEX TO EXHIBITS Exhibit No. Description Sequential Page No. 10.1 Restated Supplemental Executive Retirement Plan 31 23.1 Letter from Ernst & Young LLP 39 31.1 Certification of principal executive officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 40 31.2 Certification of principal financial officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 41 32.1 Certification of principal executive officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 42 32.2 Certification of principal financial officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 43 30