INDEPENDENT AUDITORS' REPORT
TO THE BOARD OF DIRECTORS AND STOCKHOLDERS OF
CASA FORD OF HOUSTON, INC.
Houston, Texas
We have audited the accompanying balance sheet of Casa Ford of Houston,
Inc. (the "Company") as of December 31, 1997, and the related statements of
income, stockholders' equity, and cash flows for the year then ended. 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 audit.
We conducted our audit 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 audit provides a reasonable basis
for our opinion.
In our opinion, such financial statements present fairly, in all material
respects, the financial position of the Company as of December 31, 1997, and
the results of its operations and its cash flows for the year then ended in
conformity with generally accepted accounting principles.
DELOITTE & TOUCHE LLP
Charlotte, North Carolina
June 4, 1998
1
CASA FORD OF HOUSTON, INC.
BALANCE SHEETS
December 31, 1997 and March 31, 1998
December 31, March 31,
1997 1998
-------------- --------------
(Unaudited)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents (Note 1) .................................. $ 1,386,749 $ 1,685,197
Accounts receivable (net of allowance for doubtful accounts of $1,553
at December 31, 1997) ............................................. 822,335 495,339
Inventories (Note 3) ................................................ 8,743,629 6,430,778
Other current assets ................................................ 283,717 315,144
----------- -----------
Total current assets .............................................. 11,236,430 8,926,458
PROPERTY AND EQUIPMENT, NET (Notes 4 and 5) .......................... 911,615 872,323
DEFERRED INCOME TAXES (Note 8) ....................................... 264,307 264,307
GOODWILL (Note 1) .................................................... 617,518 603,795
----------- -----------
TOTAL ASSETS ......................................................... $13,029,870 $10,666,883
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Notes payable -- floor plan (Note 3) ................................ $ 8,681,340 $ 6,149,209
Trade accounts payable .............................................. 432,860 294,196
Current maturities -- long-term debt (Note 5) ....................... 782,098 770,425
Income taxes payable (Note 8) ....................................... 149,725 233,795
Accrued payroll and bonuses ......................................... 188,080 24,255
Other accrued liabilities ........................................... 538,430 837,295
----------- -----------
Total current liabilities ......................................... 10,772,533 8,309,175
----------- -----------
LONG-TERM DEBT (Note 5) .............................................. 1,020,867 857,732
----------- -----------
COMMITMENTS (Notes 6 and 9)
STOCKHOLDERS' EQUITY:
Receivable from stockholder (Note 2) ................................ (428,310) (441,309)
Common stock ($100 par, 12,500 shares authorized, issued and
outstanding) ...................................................... 1,250,000 1,250,000
Retained earnings ................................................... 414,780 691,285
----------- -----------
Total stockholders' equity ........................................ 1,236,470 1,499,976
----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY ........................... $13,029,870 $10,666,883
=========== ===========
See notes to financial statements.
2
CASA FORD OF HOUSTON, INC.
STATEMENTS OF INCOME
Year ended December 31, 1997 and the three months ended March 31, 1997 and 1998
Three months
Year ended ended March 31,
December 31, -----------------------------
1997 1997 1998
--------------- -------------- --------------
(Unaudited)
REVENUES:
Vehicle sales ................................... $ 58,239,109 $12,889,721 $15,165,697
Parts, service and collision repair ............. 6,025,033 1,290,680 1,498,063
Finance and insurance ........................... 2,252,297 479,359 534,451
------------ ----------- -----------
Total revenues ................................ 66,516,439 14,659,760 17,198,211
COST OF SALES .................................... 56,873,827 12,595,978 14,549,519
------------ ----------- -----------
GROSS PROFIT ..................................... 9,642,612 2,063,782 2,648,692
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES ..... 7,219,544 1,489,567 1,858,528
DEPRECIATION AND AMORTIZATION .................... 299,456 74,864 76,014
------------ ----------- -----------
OPERATING INCOME ................................. 2,123,612 499,351 714,150
------------ ----------- -----------
OTHER INCOME (EXPENSE):
Interest expense -- floor plan (Note 3) ......... (885,573) (202,407) (216,937)
Interest expense -- other ....................... (301,995) (71,332) (59,624)
Other income .................................... 129,518 89 9,541
------------ ----------- -----------
Total other expense ........................... (1,058,050) (273,650) (267,020)
------------ ----------- -----------
INCOME BEFORE INCOME TAXES ....................... 1,065,562 225,701 447,130
PROVISION FOR INCOME TAXES (Note 8) .............. 406,579 86,178 170,625
------------ ----------- -----------
NET INCOME ....................................... $ 658,983 $ 139,523 $ 276,505
============ =========== ===========
See notes to financial statements.
3
CASA FORD OF HOUSTON, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
Year ended December 31, 1997 and the three months ended March 31, 1998
Retained Total
Receivable Common Earnings Stockholders'
from Shareholder Stock (Deficit) Equity
------------------ -------------- --------------- --------------
BALANCE AT DECEMBER 31, 1996 ........... (352,101) $ 1,250,000 $ (244,203) $ 653,696
Amounts loaned to stockholder ......... (76,209) -- -- (76,209)
Net income ............................ -- -- 658,983 658,983
-------- ----------- ----------- ----------
BALANCE AT DECEMBER 31, 1997 ........... (428,310) 1,250,000 414,780 1,236,470
Amounts loaned to stockholder ......... (12,999) -- -- (12,999)
Net income (unaudited) ................ -- -- 276,505 276,505
-------- ----------- ----------- ----------
BALANCE AT MARCH 31, 1998 (unaudited) $ (441,309) $ 1,250,000 $ 691,285 $1,499,976
========== =========== =========== ==========
See notes to financial statements.
4
CASA FORD OF HOUSTON, INC.
STATEMENTS OF CASH FLOWS
Year ended December 31, 1997 and the three months ended March 31, 1997 and 1998
Three months ended
Year ended March 31,
December 31, ---------------------------------
1997 1997 1998
--------------- --------------- ---------------
(Unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income ............................................................. $ 658,983 $ 139,523 $ 276,505
------------ ------------ ------------
Adjustments to reconcile net income to net cash (used in) provided by
operating activities:
Depreciation and amortization ........................................ 354,346 74,864 76,014
Deferred income taxes ................................................ (140,290) (69,860) --
Changes in assets and liabilities that related to operations:
(Increase) decrease in accounts receivables ......................... 60,637 302,948 326,996
(Increase) decrease in inventories .................................. (369,151) 2,520,131 2,312,851
Increase in other current assets .................................... (69,385) (309,711) (31,427)
Increase (decrease) in income tax payable ........................... (40,341) (103,888) 84,070
Payments of floor plan notes payable ................................ (690,969) (2,952,473) (2,532,131)
Increase (decrease) in trade accounts payable and accrued liabilities 29,941 392,792 (3,624)
------------ ------------ ------------
Total adjustments .................................................. (865,212) (145,197) 232,749
------------ ------------ ------------
Net cash (used in) provided by operating activities ................ (206,229) (5,674) 509,254
------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment .................................... (290,996) (17,338) (22,999)
------------ ------------ ------------
Net cash used in investing activities .............................. (290,996) (17,338) (22,999)
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments of long-term debt ............................................. (529,853) (253,428) (174,808)
------------ ------------ ------------
Amounts (loaned to) received from stockholder .......................... (76,209) 3,065 (12,999)
Net cash used in financing activities .............................. (606,062) (250,363) (187,807)
------------ ------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS .................... (1,103,287) (273,375) 298,448
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD .......................... 2,490,036 2,490,036 1,386,749
------------ ------------ ------------
CASH AND CASH EQUIVALENTS, END OF PERIOD ................................ $ 1,386,749 $ 2,216,661 $ 1,685,197
============ ============ ============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
-- Cash paid during the period for:
Interest ............................................................... $ 64,241 $ 112,862 $ 89,417
============ ============ ============
Income taxes ........................................................... $ 597,500 $ 330,000 $ 86,555
============ ============ ============
See notes to financial statements.
5
CASA FORD OF HOUSTON, INC.
NOTES TO FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization and Business -- Casa Ford of Houston, Inc. (the "Company")
operates an automotive dealership, service department, body shop and parts and
accessories department in Houston, Texas. The Company sells new and used cars
and light trucks, sells replacement parts and accessories, provides vehicle
maintenance, warranty, paint and repair services and arranges related financing
and insurance. The Company sells new vehicles manufactured by Ford.
Revenue Recognition -- The Company records revenue when vehicles are
delivered to customers, and when vehicle service work is performed. Finance and
insurance commission revenue is recognized principally at the time the contract
is placed with the financial institution.
Dealer Agreements -- The Company purchases substantially all of its new
vehicles from the manufacturer at the prevailing prices charged by the
manufacturer to its franchised dealers. The Company's sales could be
unfavorably impacted by the manufacturer's unwillingness or inability to supply
the dealership with an adequate supply of new vehicle inventory.
The Company operates under a dealer agreement with the manufacturer. The
Company's dealer agreement does not give it the exclusive right to sell the
manufacturer's product within a given geographic area. The Company could be
materially adversely affected if the manufacturer awards franchises to others
in the same market where the Company is operating. A similar adverse effect
could occur if existing competing franchised dealers increase their market
share in the Company's market. The ability of the Company to acquire additional
franchises from a particular manufacturer may be limited due to certain
restrictions imposed by manufacturers. Additionally, the Company's ability to
enter into significant acquisitions may be restricted and the acquisition of
the Company's stock by third parties may be limited by the terms of the
franchise agreement.
Cash and Cash Equivalents -- The Company considers contracts in transit
and all highly liquid debt instruments with an initial maturity of three months
or less to be cash equivalents. Contracts in transit represent cash in transit
to the Company from finance companies related to vehicle purchases and was
$761,776 at December 31, 1997.
Inventories -- Inventories of new and demonstrator vehicles are valued at
the lower of last-in, first-out method ("LIFO") cost or market. Inventories of
used vehicles are stated at the lower of specific cost or market. All other
inventories are generally stated at replacement cost, which approximates cost
on the first-in, first-out method ("FIFO").
Property and Equipment -- Property and equipment are stated at cost.
Depreciation is computed using the straight-line method over the estimated
useful lives of the assets. The range of estimated useful lives is as follows:
Useful Lives
-------------
Leasehold improvements ................. 7-31.5
Office equipment and fixtures .......... 5-7
Parts and service equipment ............ 5-10
Company vehicles ....................... 5
Expenditures for maintenance and repairs are expensed as incurred.
Significant betterments are capitalized.
Income Taxes -- The provision for income taxes includes federal and state
taxes currently payable and deferred taxes. Deferred taxes are determined
utilizing an asset and liability approach as required by Statement of Financial
Accounting Standards No. 109, Accounting for Income Taxes. This method gives
consideration to the future tax consequences associated with differences
between financial accounting and tax basis of assets and liabilities. This
method gives immediate effect to changes in income tax laws upon enactment. A
valuation allowance is established when necessary to reduce deferred tax assets
to the amounts expected to be realized.
Goodwill -- Goodwill is being amortized on a straight-line basis over a
period of 15 years. Accumulated amortization at December 31, 1997 was $205,839.
The Company periodically reviews goodwill to assess recoverability. The
Company's policy is to compare the carrying value of goodwill with the expected
undiscounted cash flows from operations.
Concentrations of Credit Risk -- Financial instruments which potentially
subject the Company to concentrations of credit risk consist principally of
cash deposits. At times, amounts invested with financial institutions may
exceed FDIC insurance limits.
6
CASA FORD OF HOUSTON, INC.
NOTES TO FINANCIAL STATEMENTS -- Continued
1. DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES -- Continued
Concentrations of credit risk with respect to receivables are limited
primarily to automobile manufacturers and financial institutions. Credit risk
arising from trade receivables from commercial customers is reduced by the
large number of customers comprising the trade receivables balances. Trade
receivables are concentrated in the Company's market area of Houston, Texas.
Use of Estimates -- The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
Fair Value of Financial Instruments -- As of December 31, 1997 the fair
value of the Company's financial instruments including accounts receivable,
receivable from shareholder, trade accounts payable, and long-term debt
approximate their book values.
Advertising -- The Company expenses advertising costs in the period
incurred. Advertising expense for 1997 amounted to $581,752.
Interim Financial Information -- The accompanying unaudited financial
information for the three months ended March 31, 1997 and 1998 have been
prepared on substantially the same basis as the audited financial statements,
and include all adjustments, consisting only of normal recurring adjustments,
necessary for a fair presentation of the financial information set forth
therein. The results of interim periods are not necessarily indicative of
results to be expected for the entire fiscal year.
2. RECEIVABLE FROM STOCKHOLDER
At December 31, 1997, the Company had a receivable due from a related
party totaling $428,310, bearing no stated interest rate. The receivable was
paid in full as of April 1998 pursuant to a dividend.
3. INVENTORIES AND RELATED NOTES PAYABLE -- FLOOR PLAN
Inventories consist of the following:
December 31, March 31,
1997 1998
-------------- --------------
(Unaudited)
New and demonstrator vehicles ......... $ 7,969,681 $ 4,980,041
Used vehicles ......................... 996,821 1,484,967
Parts and accessories ................. 412,757 432,264
Other ................................. 77,896 247,032
----------- -----------
9,457,155 7,144,304
LIFO reserve .......................... (713,526) (713,526)
----------- -----------
Total ................................. $ 8,743,629 $ 6,430,778
=========== ===========
Had the Company used the first-in, first-out method of valuing new
vehicles and parts inventory, pretax earnings would have been $1,304,193 in
1997.
All new and certain used vehicles are pledged to collateralize floor plan
notes payable to financial institutions in the amount of $8,681,340 at December
31, 1997. The floor plan notes bear interest, payable monthly on the
outstanding balance at the prime rate plus 1% to 1-1/2% (prime rate was 8.5% at
December 31, 1997). Total floor plan interest expense amounted to $885,573 in
1997. The notes payable are due when the related vehicle is sold. As such,
these floor plan notes payable are shown as a current liability in the
accompanying balance sheet. The maximum credit available under the financing
arrangement is $7,800,000 for 1997.
7
CASA FORD OF HOUSTON, INC.
NOTES TO FINANCIAL STATEMENTS -- Continued
4. PROPERTY AND EQUIPMENT
Property and equipment consists of the following:
December 31, March 31,
1997 1998
-------------- ------------
(Unaudited)
Leasehold improvements ................ $ 221,132 $ 222,496
Office equipment and fixtures ......... 780,133 785,025
Parts and service equipment ........... 437,504 454,163
Company vehicles ...................... 219,547 219,631
---------- ----------
1,658,317 1,681,315
Less accumulated depreciation ......... (746,701) (808,992)
---------- ----------
Property and equipment, net ........... $ 911,615 $ 872,323
========== ==========
5. LONG-TERM DEBT
Long-term debt consists of the following:
December 31, March 31,
1997 1998
-------------- ------------
(Unaudited)
Unsecured note payable to a related party, in monthly installments of $25,500, plus
interest
at prime .............................................................................. $ 864,000 $ 787,500
Unsecured note payable in monthly installments of $14,880, plus interest at prime plus
1 1/2%, through February 2001 ......................................................... 570,960 524,237
Notes payable in monthly installments totaling $7,670, plus interest ranging from 9.7% to
10.7%, through December 2000 .......................................................... 104,433 92,389
Unsecured note payable in monthly installments of $2,083, plus interest at 8.55%, through
March 1999 ............................................................................ 31,250 27,083
Notes payable in monthly installments totaling $5,501, including interest at rates
ranging
from 4.748% to 9.312%, maturities from December 1998 to November 2000,
collateralized by Company vehicles .................................................... 156,921 142,934
Other notes payable ..................................................................... 75,401 54,014
----------- ----------
1,802,965 1,628,157
Less current maturities ................................................................. 782,098 770,425
----------- ----------
Long-term debt .......................................................................... $ 1,020,867 $ 857,732
=========== ==========
Future maturities of debt at December 31, 1997 are as follows:
Year ending December 31,
- --------------------------
1998 ................... $ 782,098
1999 ................... 544,503
2000 ................... 441,084
2001 ................... 35,280
-----------
Total .................. $ 1,802,965
===========
6. OPERATING LEASES
The Company leases its business premises, modular space and various
equipment under non-cancelable operating leases with terms up to 10 years.
Future minimum rental payments required under non-cancelable leases at December
31, 1997 are as follows:
8
CASA FORD OF HOUSTON, INC.
NOTES TO FINANCIAL STATEMENTS -- Continued
6. OPERATING LEASES -- Continued
Year Ending December 31,
1998 ................... $ 305,560
1999 ................... 304,452
2000 ................... 304,452
2001 ................... 304,452
2002 ................... 304,452
Thereafter ............. 989,469
----------
Total .................. $2,512,837
==========
Rent expense under all operating leases was $297,592 during 1997.
7. EMPLOYEE BENEFIT PLAN
The Company has a qualified 401(k) Profit Sharing Plan (the "Plan"),
whereby substantially all of the employees of the Company meeting certain
service requirements are eligible to participate. Contributions by the Company
in 1997 were $20,733.
8. INCOME TAXES
The provision (benefit) for income taxes consists of the following
components at December 31, 1997:
Current:
Federal .............. $ 482,949
State ................ 63,920
----------
546,869
Deferred:
Federal .............. (123,213)
State ................ (17,077)
----------
(140,290)
----------
Total ................ $ 406,579
==========
The reconciliation of the statutory federal income tax rate with the
Company's federal and state overall effective income tax rate is as follows for
the year ending December 31, 1997:
Statutory federal rate ......... 34.00%
State income taxes ............. 2.90%
Miscellaneous .................. 1.26%
-----
Effective tax rate ............. 38.16%
=====
Deferred income taxes reflect the net tax effects of the temporary
differences between the carrying amounts of assets and liabilities for
financial reporting purposes and the amounts used for tax purposes.
Deferred income tax assets and liabilities consist of the following at
December 31, 1997:
Deferred tax assets -- primarily from differences relating to amortization of
extended
warranties ....................................................................... $ 522,261
Deferred tax liabilities -- primarily from differences relating to depreciation .... (29,389)
---------
Net deferred tax assets ............................................................ $ 492,872
=========
9
CASA FORD OF HOUSTON, INC.
NOTES TO FINANCIAL STATEMENTS -- Continued
9. COMMITMENTS
Ford Motor Company (FMC) owns vehicles which are used as short-term
rentals for which the Company pays FMC monthly fees. A portion of the fees are
applied against the purchase price. The Company must pay for the vehicles when
they are no longer used for rental. The contingent liability to FMC to purchase
the vehicles under this program was $902,057 at December 31, 1997.
10. SUBSEQUENT EVENT
In April 1998, the Company entered into an agreement with Sonic
Automotive, Inc. ("Sonic") whereby Sonic will purchase all of the outstanding
capital stock of the Company for a total purchase price of approximately $11.3
million less certain indebtedness of the Company to employees and affiliates
and to financial institutions. The initial purchase price is subject to
adjustment based upon a final determination of the net working capital of the
Company. The purchase price will be paid in 2,313 shares of Sonic preferred
stock with a liquidation preference of approximately $2.3 million.
10