1
EXHIBIT 13
SCOPE
INDUSTRIES
1998
61ST
ANNUAL
REPORT
SCOPE INDUSTRIES LOGO
2
Financial Highlights
- -----------------------
For the years ended June 30, 1998 1997 1996
- ---------------------------------------------------------------------------------------------------
Operating sales and revenues $25,045,272 $30,273,913 $30,223,457
Investment and other income 25,344,817 20,569,303 812,196
Net income $16,063,797 $18,992,773 $ 3,972,548
Net income per share -- Basic $ 14.10 $ 16.03 $ 3.23
Net income per share -- Diluted $ 13.98 $ 15.94 $ 3.23
Average shares outstanding -- Basic 1,139,276 1,184,957 1,228,934
Average shares outstanding -- Diluted 1,148,645 1,191,469 1,231,270
Five-Year Review -- Selected Financial Data
- ----------------------------------------------------
For the years ended June 30, 1998 1997 1996 1995 1994
- ---------------------------------------------------------------------------------------------------------
OPERATIONS
Operating Sales and Revenues $25,045,272 $30,273,913 $30,223,457 $22,974,144 $23,332,933
Operating Cost and Expenses:
Cost of sales and operating expenses 18,065,034 19,177,617 18,217,591 16,261,918 16,556,054
Depreciation and amortization 2,024,722 2,112,959 2,117,706 2,234,177 2,250,183
General and administrative 4,056,536 3,759,867 4,367,808 3,905,451 4,982,828
----------- ----------- ----------- ----------- -----------
24,146,292 25,050,443 24,703,105 22,401,546 23,789,065
----------- ----------- ----------- ----------- -----------
898,980 5,223,470 5,520,352 572,598 (456,132)
Investment and other income 25,344,817 20,569,303 812,196 1,018,495 2,055,702
----------- ----------- ----------- ----------- -----------
Income before income taxes 26,243,797 25,792,773 6,332,548 1,591,093 1,599,570
Provision for income taxes 10,180,000 6,800,000 2,360,000 150,000 35,000
----------- ----------- ----------- ----------- -----------
Net income $16,063,797 $18,992,773 $ 3,972,548 $ 1,441,093 $ 1,564,570
=========== =========== =========== =========== ===========
Net income per share -- Basic $ 14.10 $ 16.03 $ 3.23 $ 1.15 $ 1.24
Net income per share -- Diluted $ 13.98 $ 15.94 $ 3.23 $ 1.15 $ 1.24
FINANCIAL PERFORMANCE
Net income as a percent of revenues 64.14% 62.74% 13.14% 6.27% 6.71%
Cash dividend per share $ 1.25 $ 1.25 $ 0.50 $ 0.35 $ 0.30
Capital expenditures $ 2,649,478 $ 1,298,935 $ 2,255,436 $ 2,208,936 $ 2,630,917
FINANCIAL POSITION
Total assets $78,380,114 $61,484,033 $55,534,495 $43,068,278 $34,218,320
Shareowners' equity $71,154,072 $57,649,645 $48,138,038 $40,303,613 $31,194,624
Equity per share at end of year $ 63.37 $ 49.33 $ 40.03 $ 32.38 $ 24.73
Shares outstanding at end of year 1,122,842 1,168,665 1,202,565 1,244,865 1,261,436
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President's Report to the Shareholders
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Shareholder (SHH): Well, what are you going to do for me today?
-----
Management (MGT): Frankly, I don't know and I'm not sure what you can expect.
SHH: What do you mean! . . . . you earned $13.98 per share this year and
$15.94 the year before, what's the problem.
MGT: As I tried to explain in my previous reports, the overwhelming majority
of our net income came from investment gains. However, by this year end
we had essentially sold all of our public investment securities, except
for our holdings in OSI Systems, Inc. (OSI).
SHH: Are you telling me that since you sold all of our public investment
securities, except for OSI, and because you put the sales proceeds in
Treasury Bills, there's nothing left to sell -- so no more big gains.
Didn't you buy something after all those sales? What about Dext, OSI,
Marinello and our other assets!
MGT: Good questions and I'll take them in order, Dext first.
Dext Company -- The sales price of the animal feed ingredient we
manufacture from recycled waste food continues to decline. It declined
19% in fiscal 1998 and about 10% more in the first five weeks of this
new fiscal year. There's little profit to be earned when costs decline
about 7% and sales prices drop nearly 30%. Based on corn futures prices
the earnings outlook for Dext is dismal for this year. However, what's
expected currently for feed commodity prices could be surprisingly
different three months from now.
OSI -- It's our present intention to hold our shares. As long as
the Company's growth prospects and management continue to be special,
we'll hold our position.
Marinello Schools of Beauty -- Enrollment at cosmetology schools
tends to decline during periods of strong economic growth and very low
unemployment. Consequently Marinello reported a small loss for fiscal
1998. We are trying to improve our profitability by being more
efficient and by closing those schools which have major enrollment
problems. Thus, we have closed our school in Buena Park, CA, and expect
to close the one in Santa Fe Springs, CA, at month end; however, we
shall open a school in Eagle Rock, CA.
Real Estate -- We are trying to sell our parcels of raw land in
Riverside and Somis, CA. A sale of these properties would result in a
significant gain but nowhere near the size of our securities
transactions over the last two years.
Chromagen, Inc., -- During this fiscal year we have invested two
million dollars in a private biotechnology company in La Jolla, CA,
called Chromagen, Inc. It's too early to form any judgment as to the
wisdom of our action.
Oil and Gas -- We have a 5% working interest in a gas discovery in
Eddy County, NM, and a varied minority working interest in an oil
waterflood project in Lea County, NM. We have disposed of all our other
oil and gas interests.
Investment Thinking and Cash -- Our thinking was affected by a)
the belief that the investment environment was overly enthusiastic in
its evaluations - and still is, and b) the contrasting long term views
regarding our recycling business. Do we merge or sell to a competitor,
or do we make a major acquisition. We reported recognized gains of over
$40,000,000 from securities we sold over the past two years. Our
invested capital for the securities was about $13,000,000. To make a
significant investment we have to believe that the investment idea is
as compelling as the ones that created the excellent investment gains.
SHH: You haven't told me what you're going to do with your cash.
MGT: Either we'll acquire a company in the recycling business, or, at a time
and price we believe appropriate, make other investments,
or . . . . both.
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SHH: So what do I do?
MGT: We don't know. We have done all that we can and should do. We have
disclosed and explained the facts.
Now we wish to thank you, our customers, vendors, and employees for your
support and trust.
Respectfully yours,
/s/ MEYER LUSKIN
Meyer Luskin
Chairman of the Board,
President and Chief Executive Officer
Unaudited Quarterly Financial Data
- ------------------------------------------
First Second Third Fourth
Quarter Quarter Quarter Quarter Year
- -----------------------------------------------------------------------------------------------------
1998
Operating sales and revenues $6,494,805 $6,864,916 $5,845,456 $5,840,095 $25,045,272
Gross profit 1,395,180 1,496,176 1,052,695 1,047,675 4,991,726
Net income $ 414,815 $3,201,820 $5,352,012 $7,095,150 $16,063,797
========== ========== ========== ========== ===========
Net income per share -- Diluted $ 0.35 $ 2.80 $ 4.69 $ 6.25 $ 13.98
========== ========== ========== ========== ===========
1997
Operating sales and revenues $9,781,748 $7,046,661 $6,602,673 $6,842,831 $30,273,913
Gross profit 3,974,844 1,845,915 1,455,702 1,743,894 9,020,355
Net income $9,257,768 $4,928,086 $3,768,095 $1,038,824 $18,992,773
========== ========== ========== ========== ===========
Net income per share -- Diluted $ 7.72 $ 4.11 $ 3.15 $ 0.88 $ 15.94
========== ========== ========== ========== ===========
Market Price Range
- ------------------------
Scope Industries Common Stock
1998 1997
-------------------- --------------------
High Low High Low
- ---------------------------------------------------------------------------------------------------
1st Quarter $60.44 $50.00 $43.00 $37.00
2nd Quarter 67.00 58.25 50.25 39.50
3rd Quarter 66.00 59.50 50.25 41.00
4th Quarter 70.50 62.50 54.00 47.00
Cash dividends of $1.25 per share were paid during the years ended June 30,
1998 and 1997, respectively.
There were 84 shareowners of record of common stock at July 31, 1998.
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Management's Discussion and Analysis of
Operations and Financial Condition
- -----------------------------------------
- --------------------------------------------------------------------------------
Operating Results -- 1998 compared with 1997
Total revenues for fiscal year 1998 were 17% below the year earlier
revenues. Waste Material Recycling sales for 1998 were 20% below 1997 sales.
Vocational School Group revenues for 1998 were 2% above 1997 revenues. Waste
Material Recycling sales represented 80% of 1998 Company revenues compared to
83% of 1997 revenues. From 1997 to 1998, dried bakery product sales tonnage
decreased 2% and average sales prices dropped 19%. The Vocational School Group
revenues represented 18% of the Company's revenues in 1998 compared to 15% in
1997. Waste Material Recycling operating costs were 6% lower per ton produced in
1998 than in the prior year. Operating costs for the Vocational School Group
were up 3% in 1998 over the prior year.
The Company's 1998 operating results compare poorly to 1997 operating
results. For Waste Material Recycling operations, lower selling prices prevailed
throughout the year. The lower selling prices were dictated by lower prices for
competing commodities, especially corn. Corn as well as several other animal
feed commodity prices have continued trending lower into the beginning of this
next fiscal year. Although operating costs were reduced, including amounts paid
for raw materials, margins were lower for this business segment in the current
year than they were in the prior year. The Vocational School Group experienced a
small reduction in its operating margin and a loss for the current year compared
to a nominal profit for the prior year. General and administrative expenses were
8% higher in the current year than 1997 expenses. 1997 expenses were unusually
low due to legal expense credits received in that period.
In fiscal 1998, investment and other income was $25,344,817 compared to
$20,569,303 in 1997. In 1998, net investment gains realized were $23,290,926
compared to $17,313,454 in 1997. During the current year, long-term
stockholdings in Lone Star Industries, Inc. were sold and a portion of the
stockholdings in OSI Systems, Inc. was sold in that company's initial public
offering. Holdings of Imperial Bancorp and Mesa, Inc. were sold during the prior
year. The appreciation realized on those investments and the subsequent interest
earned on the proceeds from their disposition has resulted in unusually large
income amounts being recognized in 1998 and 1997.
Unrealized holding gains on investments, net of deferred income taxes, were
$9,380,022 at June 30, 1998 and $7,997,484 at June 30, 1997. These unrealized
gains are not reflected in current income. Unrealized gains on long-term equity
holdings in OSI Systems, Inc. comprise the major portion of the unrealized gains
at June 30, 1998.
Provisions for income taxes are 39% of 1998 pre-tax income and 26% of 1997
pre-tax income. The 1997 effective tax rate is lower than the statutory income
tax rate due to the 1997 utilization of deferred tax assets that arose from
charges against income in prior years that had reduced investment carrying
values but for which no tax benefit was then recognized.
Net income for fiscal 1998 is $16,063,797 or $13.98 per share -- diluted.
For 1997 net income was $18,992,773 or $15.94 per share -- diluted.
Operating Results -- 1997 compared with 1996
Total revenues were consistent for fiscal years 1997 and 1996. Waste
Material Recycling sales for 1997 were 1% below 1996 sales. Vocational School
Group revenues for 1997 were 1% above 1996 revenues. Waste Material Recycling
sales represented 83% of 1997 Company revenues compared to 84% of 1996 revenues.
From 1996 to 1997, tonnage increased 2% and average sales prices for dried
bakery product sold dropped 3%. The Vocational School Group revenues represented
15% of the Company's revenues in both years. Waste Material Recycling operating
costs were 4% higher per ton produced in 1997 than in the prior year. Operating
costs for the Vocational School Group were up 2% in 1997 over the prior year.
The Company's 1996 operating results were difficult to replicate. Although
the 1997 operating results of the two business segments were slightly below the
1996 numbers, 1997 compares favorably to the several years preceding 1996. For
Waste Material Recycling operations, lower commodity prices dictated much lower
selling prices of dried bakery product over the second half of the 1997 fiscal
year. Efficiencies that were gained in 1996 remained in place and aided in
sustaining profitability. General and administrative expenses were 14% lower in
1997 than in the prior year. Legal expenses were substantially lower in 1997
than they were in 1996.
In fiscal 1997, investment and other income was $20,569,303 as compared to
$812,196 in 1996. Net investment gains of $17,313,454 were realized in 1997.
Long-term stockholdings in Imperial Bancorp and in Mesa, Inc. were sold during
the year. The appreciation realized on those investments and the subsequent
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interest earned on the proceeds caused the unusual increase in investment and
other income in 1997.
Unrealized holding gains on investments, net of deferred income taxes, were
$7,997,484 at June 30, 1997 and were $14,368,007 at June 30, 1996. These
unrealized gains are not reflected in current income.
Provisions for income taxes were 26% of 1997 pre-tax income and 37% of 1996
pre-tax income. The 1997 effective tax rate is lower than the statutory income
tax rate due to the 1997 utilization of deferred tax assets that arose from
charges against income in prior years that had reduced investment carrying
values but for which no tax benefit was then recognized. The recognition of the
tax benefits in 1997 of those prior year charges reduced the 1997 income tax
provision.
Net income for fiscal 1997 is $18,992,773 or $15.94 per share. For 1996 net
income was $3,972,548 or $3.23 per share.
Capital Expenses/Liquidity
The Company's capital expenditures were $2,649,478 in 1998, $1,298,935 in
1997 and $2,255,436 in 1996. Capital spending for the Waste Material Recycling
segment represented 71% of the Company's total capital expenditures in 1998, 84%
in 1997 and 79% in 1996. Vehicle replacements and processing equipment
automation and refurbishing are continuously being made to maintain efficient
operations and provide for expected growth and expansion of the bakery recycling
business. A new bakery waste recycling facility is being planned for the Chicago
area and when completed will replace the existing Chicago facility. In the
Vocational School Group, one school is currently being remodeled and another is
being replaced with a new facility and location. Another school relocation with
all new facilities is planned for the 1999 fiscal year. A direct relationship
between school improvements and increased enrollment has been evident in past
school refurbishing projects. Positive returns on the planned investments are
expected. Approximately $3,300,000 in capital improvements is budgeted for
fiscal 1999. The Company believes its cash flow from operations and liquid
investment holdings will be sufficient to meet its capital expenditures and
operating cash requirements in fiscal 1999 without incurring debt.
Shareowners' Equity
At June 30, 1998, shareowners equity includes net unrealized holding gains
on investments totaling $9,380,022, net of deferred income taxes. At June 30,
1997, shareowners equity included $7,997,484 of net unrealized holding gains on
investments.
During August 1997, the Company offered to purchase up to 200,000 shares of
its own stock for retirement. As a result of the offer, 32,313 shares were
tendered, purchased and retired by the Company. For the year ended June 30, 1998
the Company purchased and retired a total of 45,823 of its shares (3.9%) at a
cost of $2,527,221. Funds for the purchase of these shares were available from
existing cash and from operating and investing cash flows.
The Company does not contemplate raising capital by issuing additional
common shares or through new borrowings during the ensuing year. This does not
preclude, however, the consideration of opportunities that may present
themselves in the future that could require the Company to seek additional
capital.
Year 2000
The Company has undertaken a review of its computer systems and computer
applications to identify those which could be affected by "Year 2000" problems.
Based on the review and associated testing, the Company believes that its
financial data and reporting systems are "Year 2000" ready. The Company also
believes its operating systems will not have serious concerns in this regard and
are capable of operating in alternative modes that could circumvent "Year 2000"
problems. The Company is continuing to review and test its systems and to
monitor vendors and service providers to determine what impact may result from
the "Year 2000" issue and if action or additional planning is needed. Risks
exist that could severely affect the Company's ongoing business should serious
failures or interruptions occur in services from utilities, banks, government
agencies, government Student Aid funding programs, securities markets or others.
Expenses incurred to date to correct "Year 2000" problems have not been material
and it is anticipated that no significant additional costs will be incurred with
regard to "Year 2000" issues.
Forward Looking Statements
Forward looking statements included in this Management's Discussion and
Analysis of Operations and Financial Condition and included elsewhere in this
Annual Report, are subject to risks and uncertainties that could affect actual
future results. Although the Company believes that the expectations reflected in
such forward looking statements are reasonable, it can give no assurance that
such expectations will prove to be correct. Potential risk and uncertainties
include, but are not limited to, general business conditions, unusual volatility
in equity and interest rate markets and in competing commodity markets,
disruptions in the availability or pricing of raw materials, transportation
difficulties, changing governmental educational aid policies, or disruption of
operations due to unavailability of fuels or from acts of God.
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Consolidated Statements of Income
- -----------------------------------------
For the years ended June 30, 1998 1997 1996
- -----------------------------------------------------------------------------------------------------
Operating Sales and Revenues:
Sales $20,448,167 $25,744,869 $25,755,479
Vocational school revenues 4,597,105 4,529,044 4,467,978
----------- ----------- -----------
25,045,272 30,273,913 30,223,457
----------- ----------- -----------
Operating Cost and Expenses:
Cost of sales 14,536,956 15,736,357 14,854,410
Vocational school operating expenses 3,528,078 3,441,260 3,363,181
Depreciation and amortization 2,024,722 2,112,959 2,117,706
General and administrative 4,056,536 3,759,867 4,367,808
----------- ----------- -----------
24,146,292 25,050,443 24,703,105
----------- ----------- -----------
898,980 5,223,470 5,520,352
Investment and other income 25,344,817 20,569,303 812,196
----------- ----------- -----------
Income before income taxes 26,243,797 25,792,773 6,332,548
Provision for income taxes 10,180,000 6,800,000 2,360,000
----------- ----------- -----------
Net Income $16,063,797 $18,992,773 $ 3,972,548
=========== =========== ===========
Net Income Per Share -- Basic $ 14.10 $ 16.03 $ 3.23
Net Income Per Share -- Diluted $ 13.98 $ 15.94 $ 3.23
Average shares outstanding -- Basic 1,139,276 1,184,957 1,228,934
Dilutive effect of stock options 9,369 6,512 2,336
----------- ----------- -----------
Average shares outstanding -- Diluted 1,148,645 1,191,469 1,231,270
The accompanying notes are an integral part of these statements.
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Consolidated Balance Sheets
- ---------------------------------
June 30, 1998 1997
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ASSETS
Current Assets:
Cash and cash equivalents $ 755,904 $ 5,946,050
Treasury bills (par value $44,250,000 in 1998 and
$24,000,000 in 1997) 43,024,640 23,540,939
Accounts and notes receivable, less allowance for doubtful
accounts of $205,318 in 1998 and $159,167 in 1997 1,618,150 1,637,066
Inventories 662,399 584,401
Deferred income taxes 700,000 675,000
Prepaid expenses and other current assets 459,465 379,654
----------- -----------
Total current assets 47,220,558 32,763,110
----------- -----------
Notes Receivable 897,829 232,276
Property and Equipment:
Machinery and equipment 23,407,396 22,551,992
Land, buildings and improvements 10,581,881 9,652,554
----------- -----------
33,989,277 32,204,546
Less accumulated depreciation and amortization 23,304,941 22,016,611
----------- -----------
10,684,336 10,187,935
----------- -----------
Other Assets:
Deferred charges and other assets 244,590 256,006
Investments available for sale at fair value (Cost
$3,071,776 in 1998 and $5,417,222 in 1997) 17,326,799 15,539,706
Other equity investments at cost 2,006,002 2,505,000
----------- -----------
19,577,391 18,300,712
----------- -----------
$78,380,114 $61,484,033
=========== ===========
LIABILITIES AND SHAREOWNERS' EQUITY
Current Liabilities:
Accounts payable $ 1,050,796 $ 1,104,205
Other accrued liabilities 1,359,136 1,255,321
Accrued payroll and related employee benefits 705,604 940,631
Income taxes payable 475,506 534,231
----------- -----------
Total current liabilities 3,591,042 3,834,388
Deferred Income Taxes 3,635,000
----------- -----------
7,226,042 3,834,388
----------- -----------
Commitments and Contingent Liabilities
Shareowners' Equity:
Common stock, no par value, 5,000,000 shares authorized;
shares issued and outstanding: 1998 -- 1,122,842;
1997 -- 1,168,665 4,138,462 4,138,462
Retained earnings 57,635,588 45,513,699
Net unrealized gain on investments available for sale, net
of income taxes of $4,875,000 in 1998 and $2,125,000 in
1997 9,380,022 7,997,484
----------- -----------
71,154,072 57,649,645
----------- -----------
$78,380,114 $61,484,033
=========== ===========
The accompanying notes are an integral part of these statements.
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Consolidated Statements of Cash Flows
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For the years ended June 30, 1998 1997 1996
- -----------------------------------------------------------------------------------------------------
Cash Flows From Operating Activities:
Net income $ 16,063,797 $ 18,992,773 $ 3,972,548
Adjustments to reconcile net income to net cash flows from
operating activities:
Depreciation and amortization 2,024,722 2,112,959 2,117,706
(Gains) losses on investments available for sale (23,290,926) (17,313,454) 87,802
Gains on sale of equipment (9,261) (8,324) (45,374)
Deferred income taxes 1,035,000 (2,195,000) (515,000)
Provision for doubtful accounts receivable 116,298 13,139 16,908
Changes in operating assets and liabilities:
Accounts and notes receivable (140,080) 1,945,342 (383,567)
Inventories (77,998) (52,764) (108,460)
Prepaid expenses and other current assets (79,811) 151,985 577,467
Accounts payable and accrued liabilities (184,621) (627,631) 1,417,705
Income taxes payable (58,725) 66,248 275,147
Other assets (163,585) 49,924 (17,864)
------------ ------------ -----------
Net cash flows (used in) from operating activities (4,765,190) 3,135,197 7,395,018
------------ ------------ -----------
Cash Flows From Investing Activities:
Purchase of U.S. Treasury bills (48,733,701) (30,602,562) (9,619,494)
Maturities of U.S. Treasury bills 29,250,000 12,035,000 6,905,000
Purchase of property and equipment (2,508,358) (1,298,935) (2,255,436)
Disposition of property and equipment 137,616 42,646 415,897
Purchase of long-term notes receivable (763,975) (230,000)
Purchase of investments available for sale (338,702) (3,223,689) (2,168,781)
Purchase of other equity investments (2,001,002)
Disposition of investments available for sale 28,475,074 27,497,783 2,556,476
Disposition of investments held to maturity 290,000
------------ ------------ -----------
Net cash flows from (used in) investing activities 3,516,952 4,450,243 (4,106,338)
------------ ------------ -----------
Cash Flows From Financing Activities:
Dividends to shareowners (1,414,687) (1,491,132) (616,782)
Repurchases of common stock (2,527,221) (1,836,686) (1,381,693)
Change in bank overdraft (250,686) 188,940
Proceeds from stock options exercised 217,175
------------ ------------ -----------
Net cash used in financing activities (3,941,908) (3,361,329) (1,809,535)
------------ ------------ -----------
Net (decrease) increase in cash and cash equivalents (5,190,146) 4,224,111 1,479,145
Cash and cash equivalents at beginning of year 5,946,050 1,721,939 242,794
------------ ------------ -----------
Cash and cash equivalents at end of year $ 755,904 $ 5,946,050 $ 1,721,939
============ ============ ===========
Supplemental Disclosures:
Cash paid during the year for:
Interest $ 4,323 $ 301 $ 4,333
Income taxes $ 9,203,725 $ 8,928,751 $ 2,577,438
Non Cash Investing Transactions:
Reacquired land and buildings through foreclosure
proceedings in exchange for cancellation of a note
receivable $ 141,120
Acquired stock of OSI Systems, Inc. (formerly Opto
Sensors, Inc.) in exchange for cancellation of a loan
by the exercise of warrants issued as a condition of
the loan $ 2,500,000
The accompanying notes are an integral part of these statements.
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Consolidated Statements of Shareowners' Equity
- --------------------------------------------------------
Net Unrealized
Common Stock Gain on
----------------------- Investments
Number of Retained Available
For the years ended June 30, 1998, 1997 and 1996. Shares Amount Earnings for Sale
- ------------------------------------------------------------------------------------------------------------
Balance July 1, 1995 1,244,865 $3,921,287 $27,874,671 $ 8,507,655
Net income 3,972,548
Cash dividends on common stock, $0.50 per share (616,782)
Cash purchase of common stock and subsequent
retirement (42,300) (1,381,693)
Net unrealized gain on investments available for
sale 5,860,352
---------- ---------- ----------- ------------
Balance June 30, 1996 1,202,565 3,921,287 29,848,744 14,368,007
Net income 18,992,773
Cash dividends on common stock, $1.25 per share (1,491,132)
Cash purchase of common stock and subsequent
retirement (40,900) (1,836,686)
Proceeds from stock options exercised 7,000 217,175
Net unrealized gain on investments available for
sale (6,370,523)
---------- ---------- ----------- ------------
Balance June 30, 1997 1,168,665 4,138,462 45,513,699 7,997,484
Net income 16,063,797
Cash dividends on common stock, $1.25 per share (1,414,687)
Cash purchase of common stock and subsequent
retirement (45,823) (2,527,221)
Net unrealized gain on investments available for
sale 1,382,538
---------- ---------- ----------- ------------
Balance June 30, 1998 1,122,842 $4,138,462 $57,635,588 $ 9,380,022
========== ========== =========== ============
The accompanying notes are an integral part of these statements.
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Notes to Consolidated Financial Statements
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- --------------------------------------------------------------------------------
NOTE 1: Principles of Consolidation:
The consolidated financial statements include the
Summary of accounts of Scope Industries and its subsidiaries (the
Significant Company), all of which are wholly owned. All significant
Accounting intercompany accounts and transactions are eliminated.
Policies
Estimates:
The preparation of financial statements in conformity
with generally accepted accounting principles requires
management to make estimates and assumptions that affect
the amounts reported in the consolidated financial
statements and accompanying notes. Actual results could
differ from these estimates.
Cash Equivalents and Short-term Investments:
The Company considers all liquid debt instruments to
be cash equivalents if the securities mature within 90
days of acquisition. Carrying amounts approximate fair
value.
Investments:
Investments in debt securities and equity securities
with readily determinable market values are classified
into categories based on the Company's intent. Investments
held to maturity, which the Company has the positive
intent and ability to hold to maturity, are carried at
cost. Investments available for sale are carried at
estimated fair value. Unrealized holding gains and losses
are excluded from earnings and reported, net of income
taxes, as a separate component of shareowners' equity
until realized. For all investment securities, unrealized
losses that are other than temporary are recognized in net
income. Realized gains and losses are determined on the
specific identification method and are reflected in net
income.
Inventories:
Inventories consist of manufactured finished goods
and purchased goods, portions of which are consumed in the
various operating activities and portions of which are
sold to customers. Inventories are stated at the lower of
cost or market, cost being determined on a first-in,
first-out basis.
Property and Equipment:
Property and equipment are stated at cost.
Depreciation is provided generally on the straight-line
method over the estimated useful lives of the assets.
Service lives for principal assets are 20 years for
buildings, 10 years, but not exceeding the lease terms,
for leasehold improvements and 7 years for machinery and
equipment.
Revenue Recognition:
Sales are recorded at contract prices as deliveries
are made. Tuition revenue is recognized as course hours
are completed by students. Provisions for losses on
student accounts and loans receivable are determined on
the basis of loss experience and assessment of prospective
risk. Resulting adjustments to the allowance for losses
are made.
Income Taxes:
The Company files a consolidated Federal income tax
return. The Company provides for income taxes using the
asset and liability method under which deferred income
taxes are recognized for the estimated future tax effects
attributable to
9
_
12
Notes to Consolidated Financial Statements
- --------------------------------------------------
- --------------------------------------------------------------------------------
temporary differences and carryforwards that result from
events that have been recognized either in the financial
statements or the income tax returns, but not both. The
measurement of current and deferred income tax liabilities
and assets is based on provisions of enacted tax laws.
Valuation allowances are recognized if, based on the
weight of available evidence, it is more likely than not
that some portion of the deferred tax assets will not be
realized.
Net Income Per Share:
During fiscal 1998, the Company adopted Statement of
Financial Accounting Standards (SFAS) No. 128, "Earnings
Per Share". This statement requires presentation of both
basic and diluted net income per share and restatement of
all prior period net income per share data presented.
Basic net income per common share is computed using the
weighted average number of common shares outstanding
during the period. Diluted net income per common share
reflects the incremental shares issuable upon the assumed
exercise of dilutive stock options.
Recently Issued Accounting Pronouncements:
In June 1997, the Financial Accounting Standards
Board issued SFAS No. 130, "Reporting Comprehensive
Income" and SFAS No. 131, "Disclosure about Segments of an
Enterprise and Related Information". These statements
become effective for financial statements issued for
periods beginning after December 15, 1997. The Company
will adopt SFAS No. 130 in fiscal 1999 and expects that
fluctuations in unrealized gains or losses on investments
will be its only significant type of other comprehensive
income. The Company will adopt SFAS No. 131 in fiscal
1999. The Company has historically reported financial and
descriptive information for its two operating segments
therefore the adoption of this SFAS will have no material
effect on consolidated financial position, results of
operations or cash flows.
- --------------------------------------------------------------------------------
NOTE 2: All U.S. Treasury bills are purchased with maturities
of one year or less. The cost is adjusted to reflect
Treasury interest earned as it accrues. The adjusted cost
Bills approximates the fair value of the bills. The Company has
classified its Treasury bills as:
June 30, 1998 1997
--------------------------------------------------------------------------
Available-for-sale $43,024,640 $ 949,139
Held-to-maturity 22,591,800
----------- -----------
$43,024,640 $23,540,939
=========== ===========
- --------------------------------------------------------------------------------
NOTE 3: Included in Investment and Other Income are
recognized gains and losses on investment securities. Net
Investments gains of $23,290,926 and $17,313,454 were recognized in
1998 and 1997 respectively. A net loss of $87,802 was
recognized in 1996. Gross recognized gains and gross
recognized losses were $23,290,926 and $0, respectively
for 1998, $17,558,454 and $245,000, respectively for 1997
and $697,589 and $785,391, respectively for 1996.
Recognized gains and losses are from sales of investments
and from recognized losses of $245,000 and $749,900 in
1997 and 1996 respectively, on securities whose decline in
value was deemed to be other than temporary.
10
__
13
Notes to Consolidated Financial Statements
- --------------------------------------------------
- --------------------------------------------------------------------------------
At June 30, 1998 investments were as follows:
Gross Gross
Unrealized Unrealized Fair
Cost Gains Losses Value
--------------------------------------------------------------------------------------
Available-for-sale securities
Corporate debt securities(1)
Due after two but within
seven years $ 633,426 $ $ (4,745) $ 628,681
Equity securities 2,438,350 14,307,346 (47,578) 16,698,118
----------- ----------- ----------- -----------
$ 3,071,776 $14,307,346 $ (52,323) $17,326,799
Other equity securities(2) $ 2,006,002 $ 2,006,002
At June 30, 1997 investments were as follows:
Gross Gross
Unrealized Unrealized Fair
Cost Gains Losses Value
--------------------------------------------------------------------------------------
Available-for-sale securities
Corporate debt securities(1)
Due after three but within
eight years $ 633,426 $ $ (25,631) $ 607,795
Equity securities 4,783,796 10,148,115 14,931,911
----------- ----------- ----------- -----------
$ 5,417,222 $10,148,115 $ (25,631) $15,539,706
Other equity securities(3) $ 2,505,000 $ 2,505,000
---------------------
(1) Fixed maturity investments having an aggregate cost of
$250,316 at June 30, 1998 and at June 30, 1997 are
held in trust by the State Treasurer of California as
security for the Company's potential obligations as a
self-insurer of its California Workers' Compensation
liabilities.
(2) At June 30, 1998, the Company held shares and warrants
in Chromagen, Inc. which were classified as "other
equity securities" and valued at cost. The shares and
warrants are not publicly traded.
(3) At June 30, 1997, the Company held shares in OSI
Systems, Inc. (OSI) which were classified as "other
equity securities" and valued at cost. The shares were
not publicly traded. An initial public offering of OSI
shares took place in October 1997. The Company sold
227,097 of its OSI shares through the offering and
recognized a pre-tax gain of $2,513,593 on the sale.
Subsequent to the public offering, the Company's
remaining shares of OSI have been classified as
"available for sale securities" and valued at
estimated fair value.
Fair values for investments available-for-sale are
based on quoted market prices, where available, at the
reporting date. Other equity securities are carried at
cost. No quoted market prices are available for these
securities.
11
__
14
Notes to Consolidated Financial Statements
- --------------------------------------------------
- --------------------------------------------------------------------------------
NOTE 4:
The Company occupies certain facilities under
Leases long-term leases. Future minimum rental payments required
under non-cancelable operating leases having lease terms
in excess of one year are:
For the years ending June 30,
------------------------------------------------------------------------
1999 $ 472,309
2000 435,309
2001 363,180
2002 337,012
2003 267,440
Thereafter 967,000
----------
Total minimum lease payments $2,842,250
==========
Total rental expense under operating leases was
$691,183 in 1998, $729,196 in 1997, and $735,557 in 1996.
- --------------------------------------------------------------------------------
NOTE 5: In the normal course of business, the Company and
certain of its subsidiaries are defendants in various
Contingent lawsuits. After consultation with counsel, management is
Liabilities of the opinion that these various lawsuits, individually
or in the aggregate, will not have a materially adverse
effect on the consolidated financial statements.
- --------------------------------------------------------------------------------
NOTE 6: The Company maintains two non-qualified retirement
plans for certain key employees. The Company contributions
Retirement to the plans are based on matching voluntary employee
Plans savings contributions and on a profit sharing plan formula
after certain minimum earnings levels are reached by the
Company. For the years ended June 30, 1998, 1997, and 1996
the defined contribution plan expenses were $282,157,
$541,716, and $507,298, respectively.
The Company has a Defined Benefit Pension Plan. The
amounts involved are not significant to the Company's
operations.
- --------------------------------------------------------------------------------
NOTE 7: Under the Company's 1992 Stock Option Plan the
Company can grant to key employees options to purchase the
Stock Company's common stock at not less than the fair market
Options value of such shares on the date such option is granted,
except that if the employee owns shares of the Company
representing more than 10% of its total voting power, then
the price shall not be less than 110% of the fair market
value of such shares on the date such option is granted.
No option may be granted under the 1992 Stock Option
Plan after December 31, 2001. Options to purchase shares
expire five years after the date of grant and become
exercisable on a cumulative basis at 25% each year,
commencing with the second year.
12
__
15
Notes to Consolidated Financial Statements
- --------------------------------------------------
- --------------------------------------------------------------------------------
Stock option activity under this plan was as follows:
Weighted Weighted
Average Average
Number Exercise Options Exercise
of Shares Price Exercisable Price
--------------------------------------------------------------------------------------
Outstanding at June 30, 1995 16,000 $28.32 5,250 $31.03
Granted 9,000 33.07
-----------
Outstanding at June 30, 1996 25,000 30.03 9,250 29.86
Exercised (7,000) 31.03
-----------
Outstanding at June 30, 1997 18,000 29.64 6,750 28.50
Outstanding at June 30, 1998 18,000 29.64 11,250 28.96
At June 30, 1998 option prices for shares under
option ranged from $25.37 to $35.20 per share and the
weighted average remaining contractual life of options
outstanding is two years. There are 25,000 shares
available for future grant.
No expense has been charged to income relating to
stock options. If the fair value method of accounting for
stock options prescribed by SFAS No. 123 had been used,
the expense relating to the stock options would have been
$13,673 in 1998, $13,673 in 1997 and $6,836 in 1996. Pro
forma net income would have been $16,050,124 in 1998,
$18,979,100 in 1997 and $3,965,712 in 1996. Pro forma
earnings per share -- diluted in 1998, 1997 and 1996 would
have been $13.97, $15.93 and $3.22, respectively, rather
than the $13.98, $15.94 and $3.23 reported earnings per
share -- diluted.
The fair value of the options granted in January 1996
was estimated using the Black-Scholes option pricing model
with the following assumptions:
Risk-free interest
rate 6.2% Dividend yield 1.5%
Stock price
Expected life 5 years volatility 10.9%
- --------------------------------------------------------------------------------
NOTE 8: The components of the provision for income taxes are:
Income
Taxes
For the years ended June 30, 1998 1997 1996
---------------------------------------------------------------------------
Current:
Federal $ 8,035,000 $7,795,000 $ 2,275,000
State 1,110,000 1,200,000 600,000
----------- ---------- -----------
9,145,000 8,995,000 2,875,000
----------- ---------- -----------
Deferred:
Federal 915,000 (1,745,000) (465,000)
State 120,000 (450,000) (50,000)
----------- ---------- -----------
1,035,000 (2,195,000) (515,000)
----------- ---------- -----------
Total provision $10,180,000 $6,800,000 $ 2,360,000
=========== ========== ===========
13
__
16
Notes to Consolidated Financial Statements
- --------------------------------------------------
- --------------------------------------------------------------------------------
Reconciliation of the provision for income taxes
computed at the U.S. Federal statutory income tax rate to
the reported provision is:
For the years ended June 30, 1998 1997 1996
---------------------------------------------------------------------------
U.S. Federal statutory income tax $ 9,185,329 $9,027,471 $ 2,153,066
Benefits from loss carryforwards (403,100)
Expenses not currently deductible 557,751
State income taxes, net of Federal
tax benefit 775,000 606,000 363,000
Reduction of deferred tax asset
valuation allowance (2,884,342) (515,000)
Other 219,671 50,871 204,283
----------- ---------- -----------
Total provision $10,180,000 $6,800,000 $ 2,360,000
=========== ========== ===========
The major components of the deferred tax assets and
liabilities are:
June 30, 1998 1997
--------------------------------------------------------------------------
Depreciation $ (326,944) $ (390,796)
Income not currently taxable (41,706) (31,782)
Unrealized gain on investments (4,875,000) (2,125,000)
Other (181,350) (137,422)
----------- -----------
Total deferred income tax liabilities (5,425,000) (2,685,000)
----------- -----------
Expenses not currently deductible 2,110,000 1,847,960
Recognized losses not currently deductible 380,000 1,687,040
----------- -----------
Total deferred income tax assets 2,490,000 3,535,000
----------- -----------
Net deferred income tax (liability) asset $(2,935,000) $ 850,000
=========== ===========
- --------------------------------------------------------------------------------
NOTE 9: The Company's current operations are conducted
through two primary business segments.
Business Waste Material Recycling
Segment The Company owns and operates plants in Los Angeles,
Data and San Jose, CA; Baltimore, MD; Chicago, IL; Dallas, TX;
and Denver, CO, in which bakery and snack food waste
material is processed and converted into food supplement
for animals. The principal customers are dairies, feed
lots, pet food manufacturers and poultry farms. The
Company also owns and operates a plant in Vernon, CA in
which bakery waste material is processed and converted
into edible bread crumbs. The principal customers are
pre-packaged and restaurant supply food processors. This
business depends upon the Company's ability to secure the
surplus and waste material, which it does under contracts
with bakeries and snack food manufacturers.
Vocational School Group
The Company owns and operates thirteen beauty schools
in California and Nevada in which cosmetology and
manicuring are taught. The company enrolls students who
pay a tuition. Vocational programs and Federal grants and
loan programs are also utilized for the students' tuition.
In addition, the public patronizes the schools for hair
styling and other cosmetology services, which are
performed by the students.
14
__
17
Notes to Consolidated Financial Statements
- --------------------------------------------------
- --------------------------------------------------------------------------------
For the years ended June 30, 1998 1997 1996
-----------------------------------------------------------------------------
Operating Sales and Revenues:
Waste Material Recycling $20,011,672 $25,107,197 $25,438,070
Vocational School Group 4,597,105 4,529,044 4,467,978
Other 436,495 637,672 317,409
----------- ----------- -----------
$25,045,272 $30,273,913 $30,223,457
=========== =========== ===========
Operating Income (Loss) before
Income Taxes:
Waste Material Recycling $ 2,327,681 $ 6,653,776 $ 6,490,304
Vocational School Group (52,893) 85,693 127,229
Other 263,780 534,033 (93,994)
----------- ----------- -----------
2,538,568 7,273,502 6,523,539
Corporate expenses (1,500,227) (1,560,435) (1,061,586)
Investment income 25,205,456 20,079,706 870,595
----------- ----------- -----------
Income before income taxes $26,243,797 $25,792,773 $ 6,332,548
=========== =========== ===========
One customer represented 19%, 17% and 13% of product
revenues for the Waste Material Recycling segment for the
years ended 1998, 1997 and 1996 respectively. The loss of
this customer or any other single customer would not have
a material adverse effect on the Company since the
commodity product is readily marketable.
For the years ended June 30, 1998 1997 1996
-----------------------------------------------------------------------------
Identifiable Assets:
Waste Material Recycling $10,740,401 $10,630,867 $12,627,828
Vocational School Group 1,774,759 1,722,024 1,607,828
Other 605,789 140,597 87,759
Corporate 65,259,165 48,990,545 41,211,080
----------- ----------- -----------
$78,380,114 $61,484,033 $55,534,495
=========== =========== ===========
Depreciation and Amortization:
Waste Material Recycling $ 1,781,467 $ 1,866,195 $ 1,850,022
Vocational School Group 181,141 181,501 196,463
Other 50,345 53,165 58,535
Corporate 11,769 12,098 12,686
----------- ----------- -----------
$ 2,024,722 $ 2,112,959 $ 2,117,706
=========== =========== ===========
Capital Expenditures:
Waste Material Recycling $ 1,872,305 $ 1,087,597 $ 1,776,232
Vocational School Group 72,433 88,112 430,426
Other 558,997 121,431 30,374
Corporate 145,743 1,795 18,404
----------- ----------- -----------
$ 2,649,478 $ 1,298,935 $ 2,255,436
=========== =========== ===========
15
__
18
Independent Auditors' Report
- ----------------------------------
- --------------------------------------------------------------------------------
Board of Directors and Shareowners
Scope Industries
Santa Monica, California
We have audited the accompanying consolidated balance sheets of Scope
Industries and subsidiaries as of June 30, 1998 and 1997, and the related
consolidated statements of income, shareowners' equity, and cash flows for each
of the three years in the period ended June 30, 1998. 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 consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Scope
Industries and subsidiaries as of June 30, 1998 and 1997, and the results of
their operations and their cash flows for each of the three years in the period
ended June 30, 1998 in conformity with generally accepted accounting principles.
/s/ DELOITTE & TOUCHE LLP
Los Angeles, California
August 21, 1998
19
Corporate Information
- --------------------------
Directors Officers Independent Auditors
Robert Henigson Meyer Luskin Deloitte & Touche LLP
Investor Chairman, President and Los Angeles, California
Chief Executive Officer
Meyer Luskin Transfer Agent and
John J. Crowley Registrar
William H. Mannon Vice President and American Securities
Retired Officer of Chief Financial Officer Transfer & Trust, Inc.
Scope Industries Denver, Colorado
Eleanor R. Smith
Franklin Redlich Secretary and Controller Securities Listed
Retired American Stock Exchange
Paul D. Saltman, Ph.D.
Professor of Biology
University of California
at San Diego
20
1998
SCOPE INDUSTRIES LOGO
233 WILSHIRE BOULEVARD, SUITE 310
SANTA MONICA, CA 90401