SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------------------------------------
FORM 10-Q
(Mark One)
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2002
OR
[ ] Transition Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
Commission File Number 1-12282
CORRPRO COMPANIES, INC.
(Exact name of registrant as specified in its charter)
OHIO 34-1422570
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1090 ENTERPRISE DRIVE, MEDINA, OHIO 44256
(Address of principal executive offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (330) 723-5082
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
----- -----
As of August 13, 2002, 8,408,276 Common Shares, without par value, were
outstanding.
1
CORRPRO COMPANIES, INC.
-----------------------
INDEX
PAGE
----
PART I. FINANCIAL INFORMATION
ITEM 1. Financial Statements
Consolidated Balance Sheets 3
Consolidated Statements of Operations 4
Consolidated Statements of Cash Flows 5
Notes to the Consolidated Financial Statements 6-18
ITEM 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 19-31
ITEM 3. Quantitative and Qualitative Disclosures
About Market Risk 32
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings 33-34
ITEM 3. Default Upon Senior Securities 35-36
ITEM 5. Other Information 37-38
ITEM 6. Exhibits and Reports on Form 8-K 39
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CORRPRO COMPANIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(IN THOUSANDS)
June 30, March 31,
2002 2002
--------------- --------------
ASSETS
Current Assets:
Cash and cash equivalents $ 6,404 $ 5,754
Accounts receivable, net 35,106 37,866
Inventories 14,987 14,567
Prepaid expenses and other 4,811 4,206
--------- ---------
Total current assets 61,308 62,393
--------- ---------
Property, plant and equipment, net 9,912 10,242
Other Assets:
Goodwill 33,493 32,370
Other assets 3,974 4,448
--------- ---------
Total other assets 37,467 36,818
--------- ---------
$ 108,687 $ 109,453
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Short-term borrowings and current portion of long-term debt $ 61,962 $ 61,668
Accounts payable 10,415 11,308
Accrued liabilities and other 9,920 11,143
--------- ---------
Total current liabilities 82,297 84,119
--------- ---------
Long-term debt, net of current portion 989 1,018
Deferred income taxes 417 397
Commitments and contingencies -- --
Minority interest 56 62
Shareholders' Equity:
Serial preferred shares -- --
Common shares 2,276 2,276
Additional paid-in capital 46,435 46,993
Accumulated earnings (18,698) (16,251)
Accumulated other comprehensive loss (3,554) (7,002)
Common shares in treasury, at cost (1,531) (2,159)
--------- ---------
Total shareholders' equity 24,928 23,857
--------- ---------
$ 108,687 $ 109,453
========= =========
The accompanying Notes to Consolidated Financial Statements
are an integral part of these balance sheets.
3
CORRPRO COMPANIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
For the Three Months Ended
June 30,
As
Restated
2002 2001
-------------- ------------
Revenues $ 35,931 $ 44,071
Operating costs and expenses:
Cost of sales 24,236 30,951
Selling, general and administrative expenses 10,086 11,233
Loss on investment of subsidiary 2,000 --
-------- --------
Operating income (loss) (391) 1,887
Interest expense 1,686 1,833
-------- --------
Income (loss) before income taxes (2,077) 54
Provision for income taxes 370 320
-------- --------
Net loss $ (2,447) $ (266)
======== ========
Loss per share:
Basic $ (0.29) $ (0.03)
Diluted $ (0.29) $ (0.03)
Weighted average shares:
Basic 8,350 7,960
Diluted 8,350 7,960
The accompanying Notes to Consolidated Financial Statements
are an integral part of these statements.
4
CORRPRO COMPANIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
Three Months Ended
June 30,
As
Restated
2002 2001
--------- ---------
Cash flows from operating activities:
Net loss $(2,447) $ (266)
Adjustments to reconcile net loss to net cash
provided by (used for) operating activities:
Depreciation and amortization 889 1,354
401(k) matching contribution in Treasury shares 70 215
Deferred income taxes (7) (1)
Loss on Investment in Subsidiary 1,590 --
Loss (gain) on sale of assets (9) 8
Minority interest (10) (1)
Changes in operating assets and liabilities:
Accounts receivable 2,876 (3,786)
Inventories 17 1,750
Prepaid expenses and other (1,361) (1,970)
Other assets 606 (400)
Accounts payable and accrued expenses (1,464) (94)
------- -------
Total adjustments 3,197 (2,925)
------- -------
Net cash provided (used) by operating activities 750 (3,191)
------- -------
Cash flows from investing activities:
Additions to property, plant and equipment (119) (220)
Proceeds from disposal of property, plant and equipment 81 377
------- -------
Net cash provided (used) by investing activities (38) 157
------- -------
Cash flows from financing activities:
Net borrowings under revolving credit facility and
lines of credit -- 2,419
Net payments under other long-term debt (101) (138)
------- -------
Net cash provided (used) by financing activities (101) 2,281
------- -------
Effects of changes in foreign currency exchange rates on cash 39 (73)
------- -------
Net increase (decrease) in cash and cash equivalents 650 (826)
Cash and cash equivalents at beginning of period 5,754 4,032
------- -------
Cash and cash equivalents at end of period $ 6,404 $ 3,206
======= =======
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the period for:
Income taxes $ 127 $ 364
Interest $ 1,394 $ 1,602
The accompanying Notes to Consolidated Financial Statements
are an integral part of these statements.
5
CORRPRO COMPANIES, INC. AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
NOTE 1 - INTERIM FINANCIAL STATEMENTS
The accompanying interim consolidated financial statements include the
accounts of Corrpro Companies, Inc. and subsidiaries (the "Company"). All
significant intercompany accounts and transactions have been eliminated in
consolidation.
The information furnished in the accompanying interim consolidated
financial statements has not been audited by independent accountants. However,
in the opinion of management, the interim consolidated financial statements
include all adjustments, consisting only of normal and recurring adjustments,
necessary for a fair presentation of the consolidated financial position,
results of operations and cash flows for the interim periods presented. The
results of operations for the three months ended June 30, 2002 are not
necessarily indicative of the results that may be expected for the fiscal year
ending March 31, 2003 or any other period. The interim consolidated financial
statements should be read in conjunction with the Company's Annual Report on
Form 10-K for the fiscal year ended March 31, 2002.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
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.
NOTE 2 - INVENTORIES
June 30, March 31,
2002 2002
---- ----
Inventories consist of the following:
Component parts and raw material $ 8,559 $ 8,021
Work in process 824 751
Finished goods 7,012 7,209
-------- --------
16,395 15,981
Inventory reserve (1,408) (1,414)
-------- --------
$ 14,987 $ 14,567
======== ========
6
NOTE 3 - PROPERTY, PLANT AND EQUIPMENT
June 30, March 31,
2002 2002
---- ----
Property, plant and equipment consists of the following:
Land $ 604 $ 592
Buildings and improvements 6,710 6,612
Equipment, furniture and fixtures 19,364 19,138
-------- --------
26,678 26,342
Less: Accumulated depreciation (16,766) (16,100)
-------- --------
$ 9,912 $ 10,242
======== ========
NOTE 4 - EARNINGS PER SHARE
Basic earnings per share ("EPS") is computed by dividing net income for
the period by the weighted average number of common shares outstanding for the
period, which was 8,350 and 7,960 for the three months ended June 30, 2002 and
2001, respectively. Diluted EPS for the period has been determined by dividing
net income by the weighted average number of common shares and potential common
shares outstanding for the period, which was 8,350 and 7,960 for the three
months ended June 30, 2002 and 2001, respectively. Stock options are the only
potential common shares and none were included in the Company's diluted EPS
calculations as the effect would be antidilutive. Potential common shares are
computed using the treasury stock method.
NOTE 5 - STOCK PLANS
In fiscal 2001, the Company adopted a plan whereby holders of stock
options covered under the 1997 Long-Term Incentive Plan of Corrpro Companies,
Inc. (the "1997 Option Plan") could surrender options previously granted with
the understanding that a like number of options would be granted no sooner than
six months after surrender at the fair market value of the common shares at that
time. During the three months ended June 30, 2002, the Company did not grant
any options under this program. This program was completed in June 2001.
The Company granted options to purchase 20 common shares at an exercise
price of $1.15 per share under the 1997 Option Plan during the three months
ended June 30, 2002. In addition, options previously granted to purchase 23
common shares at exercise prices ranging from $1.52 to $6.50 were terminated
during the three months ended June 30, 2002.
7
NOTE 6 - SHAREHOLDERS' EQUITY
The Company maintains the Corrpro Companies, Inc. 401(k) Savings Plan
for eligible employees in the United States under Section 401(k) of the Internal
Revenue Code. The Company may, at its discretion, make contributions to the
plan. In addition, the Company may match a portion of employees' contributions.
Effective October 1, 2000, the Company began matching employee contributions
with treasury shares. For the three months ended June 30, 2002, the Company
issued 63 treasury shares for the Company's matching contribution related to the
February 2002 employer match. Effective April 2002, the Company has suspended
the Company match.
NOTE 7 - COMPREHENSIVE INCOME
Comprehensive income (loss) includes net income (loss) and other
revenues, expenses, gains and losses that are excluded from net income (loss)
but included as a component of total shareholders' equity. Comprehensive income
(loss) was $(589) and $217 for the three months ended June 30, 2002 and 2001,
respectively. These amounts are comprised of the effect of foreign currency
translation adjustments in accordance with SFAS No. 52, "Foreign Currency
Translation" totaling $1,858 and $483 for the three months ended June 30, 2002
and 2001, respectively, and there was no minimum pension liability recorded for
the three months ended June 30, 2002 and 2001, respectively. The accumulated
balance of foreign currency translation adjustments and a minimum pension
liability excluded from net loss at June 30, 2002 and March 31, 2002 is $(3,554)
and $(7,002), respectively, and is presented in the Consolidated Balance Sheets
and Statements of Shareholders' Equity as "Accumulated other comprehensive
income (loss)."
NOTE 8 - BUSINESS SEGMENTS
The Company's business segments and a description of the products and services
they provide are described below:
Domestic Core Operations. The Domestic Core Operations segment consists of the
Company's operations in the United States and Central and South America, which
provide products and services including corrosion control, coatings, pipeline
integrity, risk assessment and inspection services. This segment provides
corrosion control products and services to a wide-range of customers in a number
of industries including: energy, utilities, water and wastewater treatment,
chemical and petrochemical, pipelines, defense and municipalities. In addition,
this segment provides coatings services to customers in the entertainment,
aerospace, transportation, petrochemical and electric power industries, as well
as inspection services to customers in the pharmaceutical, chemical and energy
industries. Finally, this segment includes a production facility in the United
States that assembles and distributes cathodic protection products, such as
anodes, primarily to the United States market.
Canadian Operations. The Canadian Operations segment provides corrosion control,
pipeline integrity and inspection services to customers in Canada who are
primarily in the oil and gas industry. These customers include pipeline
operators, petrochemical plants and refineries. The Canadian Operations segment
also includes production facilities that assemble products such as anodes and
rectifiers.
International Operations. The International Operations segment consists of the
Company's operations in Europe, the Middle East and Asia, which provide
corrosion control products and services to customers in the petroleum, utility,
industrial, marine and offshore markets, as well as to governmental entities in
8
connection with their infrastructure assets. This segment included the
operations of the Australian subsidiary that became subject to voluntary
administration on March 21, 2002.
Other Operations. The Other Operations segment includes the Company's corrosion
monitoring equipment business, which assembles and sells products including
probes, instruments and access fittings to customers in the oil and gas and
chemical industries. In addition, this segment also includes the Company's risk
assessment and analysis software business, which sells or licenses products to
customers primarily in the oil and gas industry.
Financial information relating to the Company's operations by segment is
presented below:
JUNE 30,
--------
AS RESTATED
-----------
2002 2001
---- ----
Revenue:
Domestic Core Operations $ 22,296 $ 27,497
Canadian Operations 4,381 5,453
International Operations 6,501 8,728
Other Operations 2,753 2,393
-------- --------
$ 35,931 $ 44,071
======== ========
Operating Income (Loss):
Domestic Core Operations $ 3,679 $ 4,776
Canadian Operations 742 726
International Operations (896) (135)
Other Operations 274 (15)
Corporate Related Costs and Other (4,190) (3,465)
-------- --------
$ (391) $ 1,887
======== ========
NOTE 9 - RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In July 2001, the FASB issued SFAS No. 141 "Business Combinations"
(SFAS 141) and No. 142 "Goodwill and Other Intangible Assets" (SFAS 142). SFAS
No. 141 requires that the purchase method be used for all business combinations
initiated after June 30, 2001, as well as all purchase method combinations
completed after June 30, 2001. SFAS No. 142 requires that goodwill and
intangible assets with indefinite useful lives no longer be amortized, but
instead be tested for impairment at least annually in accordance with the
provisions of SFAS No. 142. The Company was required to adopt the provisions of
SFAS No. 141 immediately and SFAS No. 142 on April 1, 2002, the first day of its
2003 fiscal year. The adoption of SFAS 141 has not impacted the Company's
financial condition or results of operations. In accordance with SFAS 142,
existing goodwill was amortized through fiscal 2002. Upon adoption of SFAS 142,
the Company stopped amortizing existing goodwill. The Company is currently in
the process of performing the first step of the prescribed transitional goodwill
impairment test with respect to existing goodwill. The first step of the
transitional goodwill impairment test involves a comparison of the fair value of
a reporting unit, as defined under SFAS 142, with its carrying amount. If the
carrying amount exceeds the fair value of any reporting unit, the Company will
perform the second and final step of the transitional goodwill impairment test,
which will be used to measure the amount of any impairment loss. The Company has
not yet determined what the effect of these tests will be on its financial
position or results of operations. As of June 30, 2002, the Company has
recognized no impairment of goodwill.
9
The completion of the transitional goodwill impairment test is required to be
completed for the quarter ended September 30, 2002. There can be no assurance
that future goodwill impairments will not occur. The pro forma effect of
applying SFAS 142 to the quarter ended June 30, 2001 would have been to decrease
amortization expense by approximately $699 and would result in an increase in
earnings per share of $0.08.
In June 2001, the FASB issued Statement No. 143, "Accounting for Asset
Retirement Obligations." Statement No. 143 requires entities to record the fair
value of a liability for an asset retirement obligation in the period in which
it is incurred. When the liability is initially recorded, the entity capitalizes
the cost by increasing the carrying amount of the related long-lived asset. Over
time, the liability is accreted to its present value each period and the
capitalized cost is depreciated over the remaining useful life of the related
asset. Upon settlement of the liability, the entity either settles the
obligation for the amount recorded or incurs a gain or loss. Statement No. 143
is effective for fiscal years beginning after June 15, 2002. Management is
evaluating the effect of this statement on the Company's results of operations
and financial position.
In April 2000, the Financial Accounting Standards Board issued
Statement No. 145, "Rescission of FASB Statements No. 4, 44 and 64, Amendment of
FASB Statement No. 13, and Technical Corrections". This Statement rescinds FASB
Statement No. 4, "Reporting Gains and Losses from Extinguishment of Debt", and
FASB Statement No. 64, "Extinguishments of Debt Made to Satisfy Sinking-Fund
Requirements". This Statement also rescinds FASB Statement No. 44, "Accounting
for Intangible Assets of Motor Carriers". This Statement amends FASB Statement
No. 13, "Accounting for Leases", to eliminate an inconsistency between the
required accounting for sale-leaseback transactions and the required accounting
for certain lease modifications that have economic effects that are similar to
sale-leaseback transactions. This Statement also amends other existing
authoritative pronouncements to make various technical corrections, clarify
meanings, or describe their applicability under changed conditions. The
provisions of this Statement related to the rescission of Statement No. 4 are
applicable in fiscal years beginning after May 15, 2002. The provisions of this
Statement related to Statement No. 13 are effective for transactions occurring
after May 15, 2002, with early application encouraged. All other provisions of
this Statement are effective for financial statements issued on or after May 15,
2002, with early application encouraged. Management is evaluating the effect of
this statement on the Company's results of operations and financial position.
In June 2002, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 146, "Accounting for
Costs Associated with Exit or Disposal Activities," which addresses financial
accounting and reporting for costs associated with exit or disposal activities
and nullifies Emerging Issues Task Force (EITF) Issue No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and Other Costs to Exit an
Activity (including Certain Costs Incurred in a Restructuring)." SFAS No. 146 is
effective for exit and disposal activities that are initiated after December 31,
2002. It is currently the Company's policy to recognize restructuring costs in
accordance with EITF Issue No. 94-3.
NOTE 10 - LONG TERM DEBT
In March 1999, the Company entered into an $80 million revolving credit
facility that expires on January 31, 2003 (the "Revolving Credit Facility").
Initial borrowings were used to repay existing domestic bank indebtedness.
Through a series of subsequent amendments, including an amendment executed by
the Company on February 11, 2002 ("February 2002 Amendment"), the size of the
10
Revolving Credit Facility was reduced to $40 million. In addition, the February
2002 Amendment also provides that any payments made under the Senior Notes (see
below) will result in a proportionate reduction in the lenders' commitments
under the Revolving Credit Agreement. At June 30, 2002, lenders' commitments
under the Revolving Credit Facility were limited to $37.7 million. Borrowings
under the Revolving Credit Facility are further limited to borrowing base
amounts as defined. The February 2002 Amendment provides for interest on
borrowings at prime plus 2.50%. In addition, the February 2002 Amendment
requires the Company to pay a facility fee of 0.75% on the commitment amount.
Borrowings under the Revolving Credit Facility are secured by the Company's
domestic accounts receivable, inventories, certain intangibles, machinery and
equipment and owned real estate as well as certain assets in Canada. The Company
has also pledged slightly less than two-thirds of the capital stock of two of
its foreign subsidiaries. The Revolving Credit Facility, as amended, requires
the Company to maintain certain financial ratios and places limitations on the
Company's ability to pay cash dividends, incur additional indebtedness and make
investments, including acquisitions.
At June 30, 2002, the Company was in violation of several financial
covenants. These violations permit the lenders to cause the Revolving Credit
Facility to become due prior to its stated maturity. As a result of the
maturity, the Company has classified all of its outstanding indebtedness under
the Revolving Credit Facility at June 30, 2002 and March 31, 2002 as current.
This event of default also restricts the Company from borrowing any additional
funds under the Revolving Credit Facility and increases the interest rate on
borrowings to prime plus 5.50%. The Company is continuing to make all required
interest payments. The Company is currently negotiating with its lenders to
amend this Revolving Credit Facility to address the Company's violations and to
extend the expiration date. If the Company is unable to negotiate an amendment
to the Revolving Credit Facility, it will be necessary for the Company to
refinance or repay this debt. The Company cannot assure that it will be able to
accomplish such a transaction on terms acceptable to the Company. Failure to do
so would have a material adverse effect on the Company's liquidity and financial
condition and could result in the Company's inability to operate as a going
concern. If the Company is unable to operate as a going concern, it may file, or
may have no alternative but to file, bankruptcy or insolvency proceedings or
pursue a sale or sales of assets to satisfy creditors.
In January 1998, the Company issued, through private placement, $30
million of Senior Notes due 2008 (the "Senior Notes"). The Senior Notes, as
amended, bear interest at 10.6% effective April 15, 2001. In addition, the
agreement relating to the Senior Notes, as amended, provides for an additional
fee of 0.75% per annum on the outstanding principal amount of the Senior Notes
for any quarter during which the ratio of debt to EBITDA (earning before
interest, taxes, depreciation and amortization) equals or exceeds 4.00 to 1.00.
The Senior Notes require monthly principal payments commencing in February 2002
and are secured equally and ratably with debt under the Revolving Credit
Facility.
The Company is required to maintain certain financial ratios under the
Senior Notes. At June 30, 2002, the Company was in violation of several of these
financial covenants. These violations permit the lender to cause the Senior
Notes to become due prior to their stated maturity. As a result, the Company has
classified all of its outstanding indebtedness under the Senior Notes at June
30, 2002 and March 31, 2002 as current. The Company is continuing to make all
required interest payments. The Company made its required principal payments
through March 2002, but has not made the required monthly payments after March
2002. The Company is currently negotiating with its lender to amend the Senior
Notes to eliminate the Company's violations and to amend the schedule of
principal payments required. If the Company is unable to negotiate an amendment
to the Senior Notes, it will be necessary for the Company to refinance or repay
this debt. The Company cannot assure that it will be able to accomplish such a
11
transaction on terms acceptable to the Company. Failure to do so would have a
material adverse effect on the Company's liquidity and financial condition and
could result in the Company's inability to operate as a going concern. If the
Company is unable to operate as a going concern, it may file, or may have no
alternative but to file, bankruptcy or insolvency proceedings or pursue a sale
or sales of assets to satisfy creditors.
Based on the events of default which prevent the Company from accessing
its Revolving Credit Facility, the Company can only obtain funds from its
operating cash flow and under its foreign credit facilities, subject to
applicable terms and conditions. Total availability under the foreign credit
facilities at June 30, 2002, was approximately $5,034.
The Company is negotiating agreements with its lenders to amend the
current Revolving Credit Facility and Senior Note agreements and to address
existing violations. Among other things, the Company seeks to revise principal
amortization of the Senior Notes and obtain ongoing borrowing capacity under the
Revolving Credit Facility, subject to applicable borrowing base and other
provisions. In addition to other terms and conditions, the Company expects to
incur interest rates on borrowings under the Revolving Credit Facility at a
higher applicable margin than under its existing provisions when not under
Events of Default. The Company also intends to seek during fiscal 2003 other
financing to retire the Senior Notes and the Revolving Credit Facility. There
can be no assurance, however, that we will be able to amend the existing
agreements or obtain other financing. See "Note 13-Subsequent Event" for
further details.
NOTE 11 - RESTATEMENT OF CONSOLIDATED FINANCIAL STATEMENTS
On March 20, 2002, the Company announced that it had discovered
accounting irregularities caused by apparent internal misconduct in its
Australian subsidiary. The accounting irregularities involved the overstatement
of revenues and understatement of expenses by the Australian subsidiary. The
irregularities were discovered by Corrpro management in connection with an
internal review of the subsidiary's working capital management practices and
cash flow problems inconsistent with the subsidiary's reported results. Upon
discovering the irregularities, the Company immediately began an internal
investigation conducted under the direction of the Audit Committee of its Board
of Directors. The Audit Committee subsequently retained special counsel in
connection with the investigation and retained the forensic investigation unit
of the accounting firm, Deloitte Touche Tohmatsu.
The Company also announced in March 2002 that its Australian subsidiary
was in the process of appointing an administrator and commencing voluntary
administration proceedings, a process under Australian law providing relief from
creditors of Australian companies. Following the appointment, the Company
recorded a charge to earnings in the fiscal fourth quarter ended March 31, 2002
for its loss on investment related to the subsidiary. The Company also stated
that, to the extent that the accounting irregularities materially affect
previously filed financial statements, the Company expected that it would have
to restate its audited financial statements for its fiscal year which ended
March 31, 2001 as well as unaudited financial information for the first nine
months through December 31, 2001 of its fiscal year ended March 31, 2002, as
previously released. Accordingly, the financial statements for the affected
periods have been restated in the Company's Form 10-K/A filed on August 9, 2002.
In addition to the Audit Committee investigation, the Company conducted
a review of the accounting records for fiscal 2001 and the first nine months
through December 31, 2001 of fiscal 2002 and contracted KPMG LLP to audit the
Company's restated consolidated financial statements for fiscal 2001. The
cumulative restatement of the Company's fiscal 2001 consolidated financial
statements
12
decreased consolidated stockholders' equity as of March 31, 2001 by
approximately $3,805 from amounts previously reported and increased the loss by
$3,575. The cumulative restatement of the Company's first three months of fiscal
2002 consolidated financial statements decreased consolidated stockholders'
equity as of June 30, 2001 by approximately $4,473 from amounts previously
reported and increased the loss by $491.
Following are the primary categories of restatement adjustments to the
Company's previously reported financial results as of and for the three months
ended June 30, 2001:
13
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
As of June 30, 2001
------------------------------------
As
Previously As
Reported Restated
-------------- -------------
ASSETS
Current Assets:
Cash and cash equivalents $ 3,279 $ 3,206
Accounts receivable, less allowance for doubtful accounts 47,106 46,107
Inventories 20,499 19,083
Prepaid expenses and other 6,837 5,990
Deferred income taxes 2,697 2,526
--------- ---------
Total current assets 80,418 76,912
--------- ---------
Property, plant and equipment 12,632 12,530
Other Assets:
Goodwill, net 37,250 37,352
Other assets 11,077 11,904
--------- ---------
Total other assets 48,327 49,256
--------- ---------
$ 141,377 $ 138,698
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Short-term borrowings and current portion of long-term debt
Current portion of long-term debt $ 5,881 $ 5,881
Accounts payable 15,206 15,257
Accrued liabilities and other 8,651 10,394
--------- ---------
Total current liabilities 29,738 31,532
--------- ---------
Long-term debt, net of current portion 65,126 65,126
Commitments and contingencies -- --
Minority interest 90 90
Shareholders' Equity:
Serial preferred shares -- --
Common shares 2,276 2,276
Additional paid-in capital 49,047 49,047
Accumulated earnings 5,766 1,700
Accumulated other comprehensive loss (5,789) (6,196)
Common shares in treasury (4,877) (4,877)
--------- ---------
Total shareholders' equity 46,423 41,950
--------- ---------
$ 141,377 $ 138,698
========= =========
14
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Three Months Ended June 30, 2001
----------------------------------------
As
Previously As
Reported Restated
----------------------------------------
Revenues $ 44,377 $ 44,071
Cost of sales 30,967 30,951
Selling, general and administrative expenses 11,202 11,233
-------- --------
Operating income 2,208 1,887
Interest expense 1,820 1,833
-------- --------
Income before income taxes 388 54
Provision for income taxes 163 320
-------- --------
Net income (loss) $ 225 $ (266)
======== ========
Earnings (loss) per share-
Basic $ 0.03 $ (0.03)
Diluted $ 0.03 $ (0.03)
Weighted average shares outstanding-
Basic 7,960 7,960
Diluted 7,978 7,960
15
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
Three Months June 30, 2001
-----------------------------------------
As
Previously As
Reported Restated
-------------------- ----------------
Cash flows from operating activities:
Net income (loss) $ 225 $ (266)
Adjustments to reconcile net income (loss) to net cash
used for operations:
Depreciation and amortization 1,354 1,354
Asset impairment -- --
401K matching contribution in Treasury shares 215 215
Deferred income taxes (9) (1)
Loss on sale of assets 8 8
Minority interest (1) (1)
Changes in operating assets and liabilities:
Accounts receivable (3,609) (3,786)
Inventories 1,965 1,750
Prepaid expenses and other (2,156) (1,970)
Other assets (572) (400)
Accounts payable and accrued expenses (369) (94)
------- -------
Total adjustments (3,174) (2,925)
------- -------
Net cash used by operating activities (2,949) (3,191)
------- -------
Cash flows from investing activities:
Additions to property, plant and equipment (317) (220)
Proceeds from disposal of property, plant and equipment
377 377
------- -------
Net cash used by investing activities 60 157
------- -------
Cash flows from financing activities:
Long-term debt, net 2,419 2,419
Repayment of other debt (138) (138)
------- -------
Net cash provided by financing activities 2,281 2,281
------- -------
Effect of changes in foreign currency exchange rates on cash
(13) (73)
------- -------
Net decrease in cash (621) (826)
Cash and cash equivalents at beginning of period 3,900 4,032
------- -------
Cash and cash equivalents at end of period $ 3,279 $ 3,206
======= =======
16
NOTE 12 - CORRPRO COMPANIES AUSTRALIA
On March 20, 2002, the Company announced that it had discovered
accounting irregularities caused by apparent internal misconduct in its
Australian subsidiary. The accounting irregularities involved the overstatement
of revenues and understatement of expenses by the Australian companies. The
irregularities were discovered by Corrpro management in connection with an
internal review of the subsidiary's working capital management practices and
cash flow problems inconsistent with the subsidiary's reported results. Upon
discovering the irregularities, the Company immediately began an internal
investigation conducted under the direction of the Audit Committee of its Board
of Directors. The Audit Committee subsequently retained special counsel in
connection with the investigation and retained the forensic investigation unit
of the accounting firm, Deloitte Touche Tohmatsu.
The Australian subsidiary appointed an administrator and commenced
voluntary administration proceedings, a process under Australian law providing
relief from creditors of Australian companies. As a result of the appointment,
the Company no longer controlled the Australian subsidiary and the Company
recorded a charge to earnings in the fiscal fourth quarter ended March 31, 2002
for its loss on investment related to the subsidiary.
On April 24, 2002, the creditors of the Australian subsidiary resolved
that the Administrators of the Australian subsidiary should enter into a Deed of
Company Arrangement. The Deed of Company Arrangement became effective May 1,
2002. The arrangement requires the Australian subsidiary to make unsecured
payments to the Administrators for the Administrator's fees, certain employee
benefit programs and unsecured creditors. The Company is not required to fund
any of these unsecured payments. The Company did guarantee payment of the
Australian subsidiary's bank debt, which totaled $1,014 at June 30, 2002. The
arrangement also returns the day-to-day management of the Australian subsidiary
to the director of the subsidiary subject to the oversight of the Administrator
who will retain control of, and be entitled to realize and deal with in
accordance with the Deed of Company Arrangement, the claims against the
Australian subsidiary.
Due to the commencement of the voluntary administration proceedings,
and the resulting loss of control over the Australian subsidiary, the Company
believes its investment in the subsidiary has been fully impaired. The assets
and liabilities of the subsidiary are not included in the consolidated balance
sheet of the Company as of June 30, 2002, and except for the existing obligation
of $1,014 under the guarantee of the subsidiary's bank debt, the Company will no
longer provide any financial support to the subsidiary. The Company is currently
seeking to sell the Australian subsidiary.
In connection with the Company's and Audit Committee's investigation,
the Company incurred additional legal and professional fees of approximately
$410 in the first quarter of fiscal 2003 related to this matter. In addition, as
a result of the Company's decision to sell the subsidiary subsequent to year
end, a loss of $1,590 related to the cumulative currency translation adjustment
of the subsidiary was recognized in the first quarter of fiscal year 2003.
NOTE 13 - SUBSEQUENT EVENT
In July 2002, the Company's Board of Directors approved a formal
business restructuring plan. The multi-year plan includes a series of
initiatives to improve operating income and reduce debt. The Company intends to
sell non-core business units and use the proceeds to reduce debt. To assist, the
Company has engaged the firm of Carl Marks Consulting Group LLC. A managing
17
director of Carl Marks, has joined the Company in the role of Chief
Restructuring Officer to manage the plan's implementation. The Company will
report future quarterly and annual results separately for continuing operations
and for discontinued operations. Potential operating gains or losses may be
experienced with the disposition of assets at the time of disposal during the
implementation of the restructuring plan. Operating income improvements combined
with debt reduction targets are expected to result.
18
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
GENERAL
-------
Corrpro Companies, Inc. was founded in 1984 and is organized under the
laws of the State of Ohio. As used in this report, the terms "Corrpro" and the
"Company" mean Corrpro Companies, Inc. and its consolidated subsidiaries unless
the context indicates otherwise.
PRODUCTS AND SERVICES
Corrpro provides corrosion control related services, systems, equipment
and materials to the infrastructure, environmental and energy markets. Our
products and services include (i) corrosion control engineering services,
systems and equipment ("corrosion control"), (ii) coatings services ("coatings")
and (iii) pipeline integrity and risk assessment services.
CORROSION CONTROL. Corrpro's specialty in the corrosion control market is
cathodic protection. We offer a comprehensive range of services in this area,
which include the design, manufacture, installation, maintenance and monitoring
of cathodic protection systems. Cathodic protection is an electrochemical
process that prevents corrosion for new structures and stops the corrosion
process for existing structures. It can provide a cost-effective alternative to
the replacement of corroding structures. In order to understand how cathodic
protection works, it is helpful to first understand the corrosion process.
Steel, the most common metal protected by cathodic protection, is produced from
iron ore. To produce steel, the iron ore is subjected to a refining process that
adds energy. Once the steel is put back into the environment, it begins to
revert back to its original state (i.e., iron ore) by releasing the added energy
back into the surrounding environment. This process of dispersing energy is
called corrosion. Cathodic protection electrodes, called anodes, are placed
near, and connected to, the structure to be protected (i.e., the cathode).
Anodes are typically made from cast iron, graphite, aluminum, zinc or magnesium.
A cathodic protection system works by passing an electrical current from the
anode to the cathode. This process maintains the energy level on the cathode,
thus stopping it from corroding. Instead, the anode corrodes, sacrificing itself
to maintain the integrity of the structure. In order for the electrical current
to pass from the anode to the cathode, they both must be in a common
environment. Therefore, cathodic protection can only be used to protect
structures that are buried in soil, submerged in water or encased in concrete.
Structures commonly protected against corrosion by the cathodic protection
process include oil and gas pipelines, offshore platforms, above and underground
storage tanks, ships, electric power plants, bridges, parking garages, transit
systems and water and wastewater treatment equipment.
In addition to cathodic protection, our corrosion control services
include corrosion engineering, material selection, inspection services, advanced
corrosion research and testing and corrosion monitoring (including remote
monitoring). Remote monitoring is a technology we acquired in September 1999. In
order for cathodic protection to be most effective, the system must run
continuously. To ensure that this is happening, the cathodic protection systems
need to be monitored on a regular basis. Remote monitoring allows customers to
reduce the cost of monitoring and maintaining their cathodic protection systems
by eliminating the need to have personnel travel to various sites in order to
collect data from the cathodic protection system. Equally significant is the
continuous flow (and more frequent updates) of data that remote monitoring can
provide. This information allows problems to be identified immediately
19
rather than waiting for the on-site inspection interval. We also sell a variety
of materials and equipment including anodes, rectifiers and corrosion monitoring
probes used in cathodic protection and corrosion monitoring systems.
COATINGS. Corrpro offers a wide variety of coatings-related services designed to
provide our customers with longer coatings life, reduced corrosion, improved
aesthetics and lower life-cycle costs for their coated structures. Coatings
services include research, testing, evaluation and application of coatings. In
addition, we provide project management services for coatings maintenance
programs, including condition surveys, failure analysis, selection of site
surface preparation methods and selection and application of coatings. We also
provide specialized coatings application services for structures with aggressive
corrosion conditions such as the inside and outside of storage tanks and
pipelines.
PIPELINE INTEGRITY AND RISK ASSESSMENT SERVICES. Corrpro offers a comprehensive
line of pipeline integrity, risk assessment and inspection services, including
assessment, surveys, inspection, analysis, repairs and ongoing maintenance. By
offering a wide range of services, we are able to provide pipeline owners with
one-stop shopping for the preservation of their pipeline systems.
RESTATEMENT OF CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------------
The Company had determined that its audited financial statements for
the fiscal year ended March 31, 2001 and its unaudited financial statements for
the first nine months through December 31, 2001 of its fiscal year ended March
31, 2002 and all four quarters of its fiscal year ended March 31, 2001, were
inaccurate and required restatement. These inaccuracies and required
restatements are discussed in Note 11 - Restatement of Consolidated Financial
Statements, Notes to the Consolidated Financial Statements above and Part II,
Item 5 - Other Information below. This Management's Discussion and Analysis of
Financial Condition and Results of Operations for the fiscal 2003 first quarter
and fiscal 2002 first quarter reflects the restatement of the Company's
previously reported financial statements for the fiscal 2002 first quarter.
AUSTRALIAN SUBSIDIARY
---------------------
The Australian subsidiary appointed an administrator and commenced
voluntary administration proceedings on March 21, 2002, a process under
Australian law providing relief from creditors of Australian companies.
Following the appointment, the Company no longer controlled the Australian
subsidiary and recorded a charge to earnings of approximately $2.5 million in
the fiscal fourth quarter ended March 31, 2002 for its loss on investment
related to the subsidiary. The results of operations of the subsidiary were
included in the Company's Consolidated Statements of Operations through March
31, 2002. The assets and liabilities of the subsidiary are not included in the
Consolidated Balance Sheet of the Company as of June 30, 2002, as the Company
has written off its investment in the subsidiary. Thereafter, results from the
subsidiary will not be included in the Company's consolidated financial
statements in fiscal 2003. Moreover, the Company incurred additional legal and
professional fees of approximately $0.4 million in the first quarter of fiscal
2003 related to this matter. In addition, as a result of the Company's decision
to sell the subsidiary subsequent to year end, a loss of $1.6 million related to
the cumulative currency translation adjustment of the subsidiary was recognized
in the first quarter of fiscal year 2003.
20
A. RESULTS OF OPERATIONS - THREE MONTHS ENDED JUNE 30, 2002 COMPARED TO THREE
MONTHS ENDED JUNE 30, 2001
REVENUES
--------
Revenues for the fiscal 2003 first quarter totaled $35.9 million
compared to $44.1 million in the fiscal 2002 first quarter, a decrease of $8.2
million or 18.5%.
Fiscal 2003 first quarter revenues relating to our Domestic Core
Operations segment totaled $22.3 million compared to $27.5 million in the fiscal
2002 first quarter, a decrease of $5.2 million or 18.9%. This revenue decrease
relates primarily to the decreased activity levels in our coatings services
business compared to the year-earlier period. The coatings service business did
not receive as many government contract awards as expected and anticipates lower
year-over-year revenue levels.
Our Canadian Operations segment revenues for the first quarter of
fiscal 2003 totaled $4.4 million compared to $5.5 million in the prior year
first quarter, a decrease of $1.1 million or 19.7%. The decrease is due to lower
material and rectifier sales. The Canadian Operations continue to experience
weakness in the energy segment of its business.
Fiscal 2003 first quarter revenues relating to the International
Operations segment totaled $6.5 million compared to $8.7 million in the fiscal
2002 first quarter, a decrease of $2.2 million or 25.5%. The decreased revenue
levels are attributable to the Australian subsidiary which had revenues of $2.0
million for the three months ended June 30, 2001 compared to no revenue for the
three months ended June 30, 2002. The investment in the Australian subsidiary
was written off at March 31, 2002 and accordingly, the revenues from our
Australian subsidiary are not included in the first quarter of fiscal 2003.
Revenues relating to the Other Operations segment totaled $2.8 million
in the fiscal 2003 first quarter compared to $2.4 million in the fiscal 2001
first quarter, an increase of $0.4 million or 15.0%. The Other Operations
segment experienced revenue growth in its risk assessment and analysis software
business and in its corrosion monitoring equipment business over the
year earlier period.
GROSS PROFIT
------------
Gross profit margins were 32.5% in the first quarter of fiscal 2003
compared with 29.8% in the prior-year first quarter. Gross profit margins were
impacted in the prior year by cost incurred to close under-performing offices as
well as lower than standard margins achieved in Australia.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
--------------------------------------------
Operating expenses totaled $10.1 million in the first quarter of fiscal
2003 compared to $11.2 million in the year-earlier period, a decrease of $1.1
million or 10.2%. The decrease in operating expenses was achieved even though
the Company incurred $0.7 million in professional fees associated with its
lender negotiations during the first three months of fiscal 2003. Offsetting
this increase in operating expenses was a decrease in amortization expense
related to goodwill amortization of $0.7 million.
21
LOSS ON INVESTMENT IN SUBSIDIARY
--------------------------------
Loss on investment in subsidiary totaled $2.0 million in the first
quarter of fiscal 2003 which was primarily comprised of professional fees
totaling $0.4 million and the write-off of currency translation totaling $1.6
million.
OPERATING INCOME (LOSS)
-----------------------
Operating income (loss) totaled $(0.4) million in the first quarter of
fiscal 2003 compared to $1.9 million in the year-earlier period, a decrease of
$2.3 million. This decrease is primarily the result of the loss on investment in
subsidiary and the lower revenue levels.
INTEREST EXPENSE
----------------
Interest expense totaled $1.7 million in the first quarter of fiscal
2003 compared to $1.8 million in the first quarter of fiscal 2002. Interest
expense for the quarter decreased over the prior-year period as a result of
lower debt levels.
INCOME TAX PROVISION
--------------------
We recorded a provision for income taxes of $0.4 million and $0.3
million for the first quarters of fiscal 2003 and 2002, respectively. Our income
tax provision is based on our effective tax rate. Our effective tax rate is
based on the statutory rates in effect in the countries in which we operate. The
increase in our effective tax rate is the result of changes in the income we
generated in the various countries in which we operate. During the first quarter
of fiscal 2003, we increased our valuation allowance for our deferred tax assets
by $0.5 million. The Company intends to maintain a full valuation allowance
on its domestic net deferred tax assets and net operating loss carryforwards
until sufficient evidence exists to support the reversal of the remaining
reserve.
NET LOSS
--------
Net loss totaled $2.4 million in the first quarter of fiscal 2003
compared to $0.3 million in the prior-year period, an increase of $2.1 million.
Loss per share totaled $0.29 compared to $0.03 in the prior-year period.
For the first quarter of fiscal 2002, net income included goodwill
amortization of $0.7 million. Had SFAS 142 been in effect as of April 1, 2001,
goodwill would not have been amortized and basic earnings per share in the first
quarter of fiscal 2001 would have increased by $0.08 per share.
B. LIQUIDITY AND CAPITAL RESOURCES
At June 30, 2002, we had working capital of $(21.0) million, compared
to $(21.7) million at March 31, 2002, an increase of $0.7 million. This increase
in working capital is due to the decrease in accounts payable and accrued
liabilities.
During the first three months of fiscal 2003, cash provided by
operating activities totaled $0.8 million compared to cash used by operating
activities of $3.2 million in the year-earlier period. This
22
increase in cash provided by operating activities is primarily the result of our
continuing efforts to control asset management. Cash used by investing
activities totaled approximately less than $0.1 million during the first quarter
of fiscal 2003, which included $0.1 million for capital expenditures offset by
$0.1 million of proceeds from the disposal of capital assets compared to cash
provided by investing activities totaling $0.2 million during the first three
months of fiscal 2002, which included $0.2 million for capital expenditures
offset by $0.4 million of proceeds from the disposal of capital assets. Cash
used for financing activities totaled $0.1 million which was used to pay down
debt during the first quarter of fiscal 2003 compared to cash provided by
financing activities of $2.3 million that was provided by borrowings in fiscal
2002.
In March 1999, the Company entered into an $80 million revolving credit
facility that expires on January 31, 2003 (the "Revolving Credit Facility").
Initial borrowings were used to repay existing domestic bank indebtedness.
Through a series of subsequent amendments, including an amendment executed by
the Company on February 11, 2002 ("February 2002 Amendment"), the size of the
Revolving Credit Facility was reduced to $40 million. In addition, the February
2002 Amendment also provides that any payments made under the Senior Notes (see
below) will result in a proportionate reduction in the lenders' commitments
under the Revolving Credit Agreement. At June 30, 2002, lenders' commitments
under the Revolving Credit Facility were limited to $37.7 million. Borrowings
under the Revolving Credit Facility are further limited to borrowing base
amounts as defined. The February 2002 Amendment provides for interest on
borrowings at prime plus 2.50%. In addition, the February 2002 Amendment
requires the Company to pay a facility fee of 0.75% on the commitment amount.
Borrowings under the Revolving Credit Facility are secured by the Company's
domestic accounts receivable, inventories, certain intangibles, machinery and
equipment and owned real estate as well as certain assets in Canada. The Company
has also pledged slightly less than two-thirds of the capital stock of two of
its foreign subsidiaries. The Revolving Credit Facility, as amended, requires
the Company to maintain certain financial ratios and places limitations on the
Company's ability to pay cash dividends, incur additional indebtedness and make
investments, including acquisitions.
At June 30, 2002, the Company was in violation of several financial
covenants. These violations permit the lenders to cause the Revolving Credit
Facility to become due prior to its stated maturity. As a result of the
maturity, the Company has classified all of its outstanding indebtedness under
the Revolving Credit Facility at June 30, 2002 as current. This event of default
also restricts the Company from borrowing any additional funds under the
Revolving Credit Facility and increases the interest rate on borrowings to prime
plus 5.50%. The Company is continuing to make all required interest payments.
The Company is currently negotiating with its lenders to amend this Revolving
Credit Facility to eliminate the Company's violations and to extend the
expiration date. If the Company is unable to negotiate an amendment to the
Revolving Credit Facility, it will be necessary for the Company to refinance or
repay this debt. The Company cannot assure that it will be able to accomplish
such a transaction on terms acceptable to the Company. Failure to do so would
have a material adverse effect on the Company's liquidity and financial
condition and could result in the Company's inability to operate as a going
concern. If the Company is unable to operate as a going concern, it may file, or
may have no alternative but to file, bankruptcy or insolvency proceedings or
pursue a sale or sales of assets to satisfy creditors.
In January 1998, the Company issued, through private placement, $30
million of Senior Notes due 2008 (the "Senior Notes"). The Senior Notes, as
amended, bear interest at 10.6% effective April 15, 2001. In addition, the
agreement relating to the Senior Notes, as amended, provides for an additional
fee of 0.75% per annum on the outstanding principal amount of the Senior Notes
for any quarter during which the ratio of debt to EBITDA (earning before
interest, taxes, depreciation and amortization) equals
23
or exceeds 4.00 to 1.00. The Senior Notes require monthly principal payments
commencing in February 2002 and are secured equally and ratably with debt under
the Revolving Credit Facility.
The Company is required to maintain certain financial ratios under the
Senior Notes. At June 30, 2002, the Company was in violation of several of these
financial covenants. These violations permit the lender to cause the Senior
Notes to become due prior to their stated maturity. As a result, the Company has
classified all of its outstanding indebtedness under the Senior Notes at June
30, 2002 as current. The Company is continuing to make all required interest
payments. The Company made its required principal payments through March 2002,
but has not made the required monthly payments after March 2002. The Company is
currently negotiating with its lender to amend the Senior Notes to eliminate the
Company's violations and to amend the schedule of principal payments required.
If the Company is unable to negotiate an amendment to the Senior Notes, it will
be necessary for the Company to refinance or repay this debt. The Company cannot
assure that it will be able to accomplish such a transaction on terms acceptable
to the Company. Failure to do so would have a material adverse effect on the
Company's liquidity and financial condition and could result in the Company's
inability to operate as a going concern. If the Company is unable to operate as
a going concern, it may file, or may have no alternative but to file, bankruptcy
or insolvency proceedings or pursue a sale or sales of assets to satisfy
creditors.
Because of uncertainty related to the Company's ability to amend or
refinance its debt, and the timing thereof, certain vendors may no longer do
business with the Company on favorable credit terms, and the Company could
experience cash flow problems or the inability to obtain materials and services
when required. In addition, vendors may require cash in advance or deposits. All
of these developments could materially increase the Company's operating expenses
and further reduce its liquidity.
The Company has incurred substantial costs in fiscal 2002, and will
continue to incur substantial costs in fiscal 2003, in connection with the
engagement of financial advisors and consultants, the investigation of
accounting matters and the preparation and review of its financial statements
and other reports. The Company also anticipates that it will continue to incur
significant legal and other expenses in connection with the ongoing litigation
and investigations described in Part II, Item 1 - Legal Proceedings.
Based on the events of default which prevent the Company from accessing
its Revolving Credit Facility, the Company can only obtain funds from its
operating cash flow and under its foreign credit facilities, subject to
applicable terms and conditions. Total availability under the foreign credit
facilities at June 30, 2002, was approximately $5.0 million.
The Company is negotiating agreements with its lenders to amend the
current Revolving Credit Facility and Senior Note agreements and to address
existing violations. Among other things, we seek to revise principal
amortization of the Senior Notes and obtain ongoing borrowing capacity under the
Revolving Credit Facility, subject to applicable borrowing base and other
provisions. In addition to other terms and conditions, we expect to incur
interest rates on borrowings under the Revolving Credit Facility at a higher
applicable margin than under its existing provisions. We also intend to seek
during fiscal 2003 other financing to retire the Senior Notes and the Revolving
Credit Facility. There can be no assurance however that we will be able to amend
the existing agreements or obtain other financing.
In July 2002, the Company's Board of Directors approved a formal
business restructuring plan. The multi-year plan includes a series of
initiatives to improve operating income and reduce debt. The Company intends to
sell non-core units and use the proceeds to reduce debt. To assist, the Company
has engaged the firm of Carl Marks Consulting Group L.L.C. A managing director
of Carl Marks, has joined the Company in the role of Chief Restructuring Officer
to manage the plan's implementation. The Company will report future quarterly
and annual results separately for continuing operations and for discontinued
operations. Potential operating gains or losses may be experienced with the
disposition of assets at the time of disposal during the implementation of the
restructuring plan. Operating income improvements combined with debt reduction
targets are expected to result.
The Company currently operates in a decentralized and geographically
dispersed environment. This environment poses challenges, not found in
centralized environments, for ensuring the integrity of internal controls.
Management has reviewed existing controls and will continue to implement changes
as
24
needed to preserve and strengthen the Company's internal controls. We anticipate
that the consolidation and divestiture initiatives contained in the
restructuring plan will reduce the internal control risks inherent in a
decentralized environment.
25
FACTORS INFLUENCING FUTURE RESULTS AND ACCURACY OF FORWARD LOOKING INFORMATION
This document includes certain statements that may be deemed
"forward-looking statements" within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These
forward-looking statements are based on management's expectations and beliefs
concerning future events and discuss, among other things, anticipated future
performance and revenues, expected growth and future business plans. Words such
as "anticipates," "expects," "intends," "plans," "believes," "seeks,"
"estimates" or variations of such words and similar expressions are intended to
identify such forward-looking statements. We believe that the following factors,
among others, could affect our future performance or the price and liquidity of
our Common Shares and cause our actual results to differ materially from those
results expressed or implied by forward-looking statements: the ultimate outcome
of the Audit Committee's investigation of accounting irregularities; the
ultimate outcome of the SEC's inquiry and the Australian Securities and
Investment Commission's investigation of accounting irregularities; the impact
of any litigation or regulatory process related to the financial statement
restatement process including the class action litigation already filed; the
Company's ability to extend, amend or refinance its existing debt, including the
availability to the Company of external sources of financing and capital (the
failure to receive such financing would have a material adverse effect on the
Company's results of operations and financial condition and ability to operate
as a going concern) and the terms and timing thereof; the Company's mix of
products and services; the timing of jobs; the availability and value of larger
jobs; qualification requirements and termination provisions relating to
government jobs; the impact of inclement weather on the Company's operations;
the impact of energy prices on the Company's and its customers' businesses;
adverse developments in pending litigation or regulatory matters; the impact of
existing, new or changed regulatory initiatives; the Company's ability to
satisfy the listing and trading requirements of the AMEX (which, if not
satisfied, could result in the suspension of trading or delisting of the
Company's shares from the exchange) or any other national exchange on which its
shares are or will be listed or otherwise provide a trading venue for its
shares; and the impact of changing global, political and economic conditions. In
addition, any forward-looking statement speaks only as of the date on which such
statement is made and we do not undertake any obligation to update any
forward-looking statements, whether as a result of new information, future
events or otherwise.
All phases of our operations are subject to a number of uncertainties,
risks and other influences, many of which are beyond our control. Any one of
such influences, or a combination, could materially affect the accuracy of the
forward-looking statements and the assumptions on which the statements are
based. Some important factors that could cause actual results to differ
materially from the anticipated results or other expectations expressed in our
forward-looking statements include the following:
OUR ABILITY TO OBTAIN EXTENSIONS, AMENDMENTS AND WAIVERS UNDER OUR DEBT
AGREEMENTS AND AVAILABILITY OF ADDITIONAL SOURCES OF FINANCING AND CAPITAL. We
had earlier announced that, as a result of matters related to the accounting
irregularities discussed above, we are not in compliance with the provisions,
including certain financial covenants, of our existing senior secured credit
agreement and senior note facility. This noncompliance of our senior secured
credit agreement restricts the Company from borrowing any additional funds under
our senior secured credit agreement. The remedies available to these lenders
upon default by us, including acceleration of principal, would have a material
adverse impact on our liquidity, our financial position or our ability to
operate as a going concern. We have continued to make scheduled interest
payments on such senior debt; however, we have not made scheduled monthly
principal payments that were due since April 2002 on the senior note facility.
We are continuing to hold discussions with our bank group and the holder of our
senior notes concerning our
26
non-compliance and our plans for operational changes and debt reduction. If we
are unable to satisfactorily resolve these lender negotiations and/or access
other sources of capital on a timely basis (as to which we can provide no
assurance), it would have a material adverse effect on our liquidity and
financial condition since we have substantially negative working capital and
could result in our inability to operate as a going concern. If we are unable to
operate as a going concern, we may file, or be forced to file, bankruptcy or
insolvency proceedings or pursue a sale or sales of assets to satisfy creditors.
OUR REPUTATION AND FINANCIAL CONDITION COULD BE AFFECTED BY THE SECURITIES
LITIGATION AND RELATED INVESTIGATIONS AND /OR A RESTATEMENT OF FINANCIAL
STATEMENTS. On March 20, 2002, we first announced that we had become aware of
accounting irregularities caused by apparent internal misconduct in our
Australian subsidiary and that, to the extent that the accounting irregularities
materially affect previously filed financial statements, we expected that we
would have to restate our audited financial statements for our fiscal year which
ended March 31, 2001 as well as unaudited financial information for the first
nine months through December 31, 2001 of our fiscal year ended March 31, 2002,
as previously released. In addition, we recorded a charge to earnings for our
loss on investment related to the subsidiary. This charge was taken in the
Company's fiscal fourth quarter ended March 31, 2002. Subsequent to this
announcement, a purported class action lawsuit has been filed against us and
certain of our current and former directors and officers, asserting claims under
the federal securities laws. In addition to significant expenditures we may have
to make to defend ourselves in these actions and the related significant
financial penalties that might be imposed on us if the plaintiffs prevail in
these actions, the publicity surrounding the litigation and the SEC inquiry of
these matters could affect our reputation with our customers and suppliers and
have an impact on our financial condition and results of operations.
ADVERSE DEVELOPMENTS IN PENDING LITIGATION OR REGULATORY MATTERS. From time to
time, we are involved in litigation and regulatory proceedings, including those
disclosed in "Legal Proceedings" of this quarterly report and in our other
periodic reports filed with the Securities and Exchange Commission. There are
always significant uncertainties involved in litigation and regulatory
proceedings. As to current matters in litigation, we believe that our positions
and defenses are meritorious. However, the litigation process involves
unpredictability and we cannot guarantee the result of any action. Regulatory
compliance is often complex and subject to variation and unexpected changes,
including changing interpretations and enforcement agendas affecting the
regulatory community. We may need to expend significant financial resources in
connection with legal and regulatory procedures and our management may be
required to divert attention from other portions of our business. If, as a
result of any proceeding, a judgment is rendered, decree is entered or
administrative action is taken against us or our customers, it may materially
and adversely affect our business, financial condition and results of
operations.
OUR PROFITABILITY CAN BE IMPACTED BY OUR MIX OF PRODUCTS AND SERVICES. Given
that our selling, general and administrative costs are largely fixed in terms of
dollars, our profitability is dependent upon the amount of gross profit that we
are able to realize. We typically generate higher gross profit margins on pure
engineering service jobs than on those jobs that include a material or
installation component. In addition, our gross profit margins also can be
negatively impacted when we utilize subcontractors. Therefore, a shift in mix
from engineering services to more construction and installation type work or an
increase in the amount of subcontracting costs could have a negative impact on
our operating results. In addition, certain of the products that we sell have
gross profit margins that are considerably lower than our overall average gross
profit margin. A shift in mix which results in a greater percentage of revenues
relating to these lower margin products would also have a negative impact on our
operating results.
THE TIMING OF JOBS CAN IMPACT OUR PROFITABILITY. There are a number of factors,
some of which are
27
beyond our control, that can cause projects to be delayed and thus negatively
impact our profitability for the related period. These factors include the
availability of labor, equipment or materials, customer scheduling issues,
delays in obtaining required permits and weather. In addition, when we are
working as a subcontractor on a project, our portion of the project can be
delayed as a result of factors relating to other contractors.
THE AVAILABILITY AND VALUE OF LARGER JOBS CAN IMPACT OUR PROFITABILITY. While
the majority of our jobs are relatively small, we can have a number of
individual contracts in excess of $1 million in progress at any particular time.
These larger contracts typically generate more gross profit dollars than our
average size jobs. Therefore, the absence of larger jobs, which can result from
a number of factors, including market conditions, can have a negative impact on
our operating results.
QUALIFICATION REQUIREMENTS AND TERMINATION PROVISIONS RELATING TO GOVERNMENT
JOBS. We derive revenues from contracts with the United States, its agencies and
other governmental entities. Government contracting is subject to competitive
bidding processes and there can be no assurance that we will be the successful
bidder for future contracts. Fluctuations in government spending also could
adversely affect our revenues and profitability. In addition, it is the policy
of the United States that certain small businesses and other concerns have the
maximum practicable opportunity to participate in performing contracts let by
any federal agency. To the extent that we do not meet applicable criteria for
government jobs, we could be limited in our ability to participate directly in
contracts being let by the United States and other governmental entities with
similar requirements. Certain contracts with governmental entities contain
provisions permitting the governmental entities to terminate the contract for
convenience prior to completion of the contract. To the extent that any of our
contracts with a government entity are so terminated, our revenues and
profitability could be adversely impacted.
OUR COMPLIANCE WITH THE LISTING STANDARDS AND REPORTING REQUIREMENTS OF THE
STOCK EXCHANGE ON WHICH OUR COMMON SHARES TRADE. We are required by the stock
exchange on which we list our Common Shares for trading to maintain certain
listing standards and meet certain reporting requirements in order to continue
trading and to remain listed on that exchange. If we fail to meet the required
listing standards and reporting requirements and cannot within a limited time
frame thereafter demonstrate compliance, our Common Shares may not be allowed to
trade on the stock exchange, although we would pursue an alternative national
trading venue. If this occurs, it may make it more difficult for us to raise
funds through the sale of our securities. In addition, it may make it more
difficult for an investor to dispose of, or to obtain accurate quotations of,
our Common Shares and negatively impact the market price. Our shares had
recently been suspended from trading on the American Stock Exchange until August
12, 2002, because, among other reasons, the late filing of our Form 10-K/A.
There can be no assurances that trading will not be suspended again and if so,
that trading would be permitted to resume.
OUR OPERATIONS CAN BE IMPACTED BY INCLEMENT WEATHER. A large portion of our
service work is performed in the field. Therefore, excessive amounts of rain,
snow or cold, as well as other unusual weather conditions, including hurricanes
and typhoons, can result in work stoppages. Also, working under inclement
weather conditions can reduce our efficiencies, which can have a negative impact
on our profitability.
OUR BUSINESS IS IMPACTED BY CHANGES IN ENERGY PRICES. The products and services
we provide to our customers in the energy markets are, to some extent,
deferrable in the event that these customers reduce their capital and
discretionary maintenance expenditures. The level of spending on these types of
expenditures can be influenced by oil and gas prices and industry perceptions of
future prices. Our
28
experience indicates that our energy customers react to declining oil and gas
prices by reducing their capital and discretionary maintenance expenditures.
This reaction has in the past, and may in the future, have a negative impact on
our business. We are unable to predict future oil and gas prices. However, we
believe that a prolonged period of low energy prices could have a negative
impact on our business. Typically, there is a delay between the time prices
decline and when we start to experience a negative impact on our results of
operations. Conversely, there is also a delay between the time energy prices
increase and when we start to experience a positive impact on our results of
operations.
THE IMPACT OF CHANGING GLOBAL, POLITICAL AND ECONOMIC CONDITIONS. Changing
political and economic conditions on a regional or worldwide basis can adversely
impact our business. Deteriorating political and general economic conditions may
result in customers delaying or canceling contracts and orders for our products
and services, difficulties and inefficiencies in the performance of our services
including work stoppages, and difficulties in collecting payment from our
customers. As a result, such conditions can negatively impact our results of
operations and our cash flows.
EXISTING, NEW OR CHANGED REGULATORY INITIATIVES CAN IMPACT OUR BUSINESS. Corrpro
and its customers are subject to federal, state and local environmental and
other laws and regulations. These laws and regulations affect our operations by
imposing standards for the protection of health, welfare and the environment.
Such laws and regulations, and applicable interpretations thereof, could expose
us to liability for acts which are or were in compliance at the time such acts
were performed. We cannot predict whether future legislative or regulatory
developments may occur which would have an adverse effect on Corrpro.
These risks must be considered by any investor or potential investor in
the Company.
29
C. CRITICAL ACCOUNTING POLICIES
The Company's consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States.
As such, some accounting policies have a significant impact on amounts reported
in these financial statements. A summary of those significant accounting
policies can be found in the Company's amended fiscal 2002 Annual Report on Form
10-K, filed on August 9, 2002, in the Note 1 - Summary of Significant Accounting
Policies, Notes to Consolidated Financial Statements, and under the caption
"Significant Accounting Policies" within Management's Discussion and Analysis of
Financial Condition and Results of Operations. In particular, judgment is used
in areas such as revenue recognition for construction and engineering contracts,
determining the allowance for uncollectible accounts and inventory valuation
reserves, asset impairment and deferred tax assets.
D. CHANGES IN ACCOUNTING STANDARDS
In June 2001, the FASB issued Statement No. 143, "Accounting for Asset
Retirement Obligations." Statement No. 143 requires entities to record the fair
value of a liability for an asset retirement obligation in the period in which
it is incurred. When the liability is initially recorded, the entity capitalizes
the cost by increasing the carrying amount of the related long-lived asset. Over
time, the liability is accreted to its present value each period and the
capitalized cost is depreciated over the remaining useful life of the related
asset. Upon settlement of the liability, the entity either settles the
obligation for the amount recorded or incurs a gain or loss. Statement No. 143
is effective for fiscal years
30
beginning after June 15, 2002. Management is evaluating the effect of this
statement on the Company's results of operations and financial position.
In April 2000, the Financial Accounting Standards Board issued
Statement No. 145, "Rescission of FASB Statements No. 4, 44 and 64, Amendment
of FASB Statement No. 13, and Technical Corrections". This Statement rescinds
FASB Statement No. 4, "Reporting Gains and Losses from Extinguishment of Debt",
and FASB Statement No. 64, "Extinguishments of Debt Made to Satisfy Sinking-Fund
Requirements". This Statement also rescinds FASB Statement No. 44, "Accounting
for Intangible Assets of Motor Carriers". This Statement amends FASB Statement
No. 13, "Accounting for Leases", to eliminate an inconsistency between the
required accounting for sale-leaseback transactions and the required accounting
for certain lease modifications that have economic effects that are similar to
sale-leaseback transactions. This Statement also amends other existing
authoritative pronouncements to make various technical corrections, clarify
meanings, or describe their applicability under changed conditions. The
provision of this Statement related to the rescission of Statement No. 4 are
applicable in fiscal years beginning after May 15, 2002. Early application is
encouraged. The provisions of this Statement related to Statement No. 13 are
effective for transactions occurring after May 15, 2002, with early application
encouraged. All other provisions of this Statement are effective for financial
statements issued on or after May 15, 2002, with early application encouraged.
Management is evaluating the effect of this statement on the Company's results
of operations and financial position.
In June 2002, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 146, "Accounting for
Costs Associated with Exit or Disposal Activities," which addresses financial
accounting and reporting for costs associated with exit or disposal activities
and nullifies Emerging Issues Task Force (EITF) Issue No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and Other Costs to Exit an
Activity (including Certain Costs Incurred in a Restructuring)." SFAS No. 146 is
effective for exit and disposal activities that are initiated after December 31,
2002. It is currently the Company's policy to recognize restructuring costs in
accordance with EITF Issue No. 94-3.
31
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
MARKET RISK DISCLOSURES
In the normal course of business, our operations are exposed to
continuing fluctuations in foreign currency values and interest rates that can
affect the cost of operating and financing.
INTEREST RATE RISK
Our primary interest rate risk exposure results from our Revolving
Credit Facility, Senior Notes and various smaller lines of credit that we
maintain with foreign banks. If interest rates were to increase 200 basis points
(2%) from June 30, 2002 rates, and assuming no changes in debt from the June 30,
2002 levels, the additional annual expense would be approximately $1.3 million
on a pre-tax basis.
FOREIGN OPERATIONS AND FOREIGN CURRENCY EXCHANGE RISK
Our foreign subsidiaries generally conduct business in local
currencies. During the first quarter of fiscal 2003, the Company recorded a
favorable foreign currency translation adjustment of $1.9 million in equity
related to net assets located outside the United States. This foreign currency
translation adjustment resulted primarily from the weakening of the United
States dollar in relation to the Canadian dollar and British pound. Our foreign
operations are also subject to other customary risks of operating in a global
environment, such as unstable political situations, the effect of local laws and
taxes, tariff increases and regulations and requirements for export licenses,
the potential imposition of trade or foreign exchange restrictions and
transportation delays. In addition, as a result of the Company's decision to
sell the Australian subsidiary subsequent to year end, a loss of $1,590 related
to the cumulative currency translation adjustment of the subsidiary was
recognized in the first quarter of fiscal year 2003.
32
PART II. OTHER INFORMATION
---------------------------
ITEM 1. LEGAL PROCEEDINGS
As previously reported, in January 2000, the Michigan Department of
Environmental Quality ("MDEQ") issued an administrative decision which
effectively limited the scope of MDEQ's 1995 approval of certain assessment
methodologies utilized by Corrpro in determining whether certain underground
storage tanks meet Michigan's regulatory requirements for upgrade by means of
cathodic protection. The MDEQ decision also would have required us to conduct
further assessments and provide certain information. The assessment
methodologies at issue have been and remain recognized by the Environmental
Protection Agency ("EPA") and the other states in which we utilized such
methodologies for virtually identical purposes. We believed that MDEQ's decision
was in error and on January 24, 2000, filed a complaint and claim of appeal in
the Circuit Court for the County of Ingham, Michigan seeking declaratory relief
and appealing the decision on several grounds. In its November 14, 2000 ruling,
the Ingham Circuit Court reversed MDEQ's decision that directed we take certain
actions and provide certain information, however, the court also found that MDEQ
had not approved the full use of the assessment methodologies we utilized in
Michigan.
We believed that the circuit court's finding that MDEQ had not approved
full use of the methodologies was not supported by the evidence, and was
contradicted by evidence contained in the administrative record. On December 5,
2000, we filed, in the Michigan Court of Appeals, an application for leave to
appeal the circuit court's finding that MDEQ did not approve the full use of the
assessment methodologies we utilized in Michigan. By order dated February 14,
2001, the Michigan Court of Appeals denied our application for leave to appeal
the circuit court's finding. On March 7, 2001, we filed an application for leave
to appeal with the Supreme Court of the State of Michigan. On August 28, 2001,
the Michigan Supreme Court denied our application for leave to appeal.
As a result of these proceedings, the MDEQ's administrative decision
finding that certain of our assessment methodologies were not approved in full
was upheld, but the MDEQ was found not to have jurisdiction to enforce its
decision against us. In July 2002, the MDEQ sent certain underground storage
tank owners and operators who may have relied on our method of assessment a
notice informing them that certain of such owners and operators' tanks were
improperly upgraded, that such owners and operators are to provide to MDEQ upon
request evidence that they have conducted state required tank tightness testing,
and certain of such tanks must be internally inspected. MDEQ also advised that
internally inspected tanks that do not satisfy applicable criteria should be
taken out-of-service and removed from the ground. There can be no assurance that
the MDEQ will not take further action against underground storage tank owners or
operators.
On July 25, 2002, a summons and complaint was issued from the Circuit
Court for the County of Ingham, Michigan. The action was commenced by Blogett
Oil Company, Inc. and other owners and operators of underground storage tanks
systems on behalf of themselves and others similarly situated. The complaint
relates to the MDEQ regulatory proceeding described immediately above and names
both the Company and MDEQ. The plaintiffs seek an unspecified amount of damages
in excess of $25,000 from Corrpro. The plaintiffs also seek injunctive relief
prohibiting the MDEQ from declaring that underground storage tanks upgraded by
the Company do not meet the current requirement for corrosion protection set
forth by law. The Company is unable at this time to make a determination as to
whether an adverse outcome is likely and whether an adverse outcome would have a
materially adverse affect on its operations or financial condition.
33
During fiscal 2001, the Company discovered that a former employee used
an incorrect assessment standard in connection with the evaluation of whether
certain underground storage tanks located at as many as 67 sites were eligible
for upgrade using cathodic protection. Such evaluations were done using one of
the approved assessment methodologies. The tanks at these sites, which are
located in five states, were subsequently upgraded using cathodic protection
which arrests corrosion. These tanks are also subject to ongoing leak detection
requirements. Based on the Company's review of available information and
governmental records, the Company believes that there have not been any releases
from the affected tanks as a result of the actions of the former employee. The
Company has contacted, and in October and November 2000 met with, officials from
the EPA and officials from the corresponding environmental protection agencies
of the five states involved to discuss this matter. It is the Company's
understanding that none of the states nor the EPA intend to take any enforcement
action as a result of the use of the inaccurate standard by the former employee.
The Company is currently working with the states and the EPA to develop and
implement field investigation procedures to assess the current status of the
affected sites. Based on currently available information, the Company does not
believe that the cost of field investigation procedures for this matter will
have a material effect on the future operations, financial position or cash
flows of the Company.
The Company is a defendant in a purported class action suit filed on
June 24, 2002, in the United States District Court, Northern District of Ohio,
Eastern Division by Russell J. Stambaugh. The complaint also names certain
former and current officers and a director of the Company. The complaint was
purportedly filed on behalf of all persons who purchased Corrpro Common Shares
during the period April 1, 2000 through March 20, 2002 and alleges violations of
the federal securities laws resulting in artificially inflated prices of the
Company's Common Shares during the class period. The complaint relates to the
Company's announcement that it had discovered accounting irregularities caused
by apparent internal misconduct in its Australian subsidiary. The plaintiff
seeks a declaration of the action as a proper class action and certifying
plaintiff as class representative. The plaintiff also seeks unspecified
compensatory damages, fees and expenses. The Company is unable at this time to
make a determination as to whether an adverse outcome is likely and whether an
adverse outcome would have a materially adverse affect on its operations or
financial condition.
Company management discovered accounting irregularities at the
Australian subsidiary in early calendar 2002 and upon discovery immediately
began an internal investigation, which has been conducted under the direction of
the Audit Committee of its Board of Directors. The Australian Securities and
Investments Commission has commenced an independent investigation of the
accounting irregularities. Corrpro voluntarily disclosed this matter to the SEC,
which has commenced a formal inquiry. Corrpro is cooperating with both
commissions.
The Company is subject to other legal proceedings and claims which
arise in the ordinary course of business.
34
ITEM 3. DEFAULT UPON SENIOR SECURITIES
In March 1999, the Company entered into an $80 million revolving credit
facility that expires on January 31, 2003 (the "Revolving Credit Facility").
Initial borrowings were used to repay existing domestic bank indebtedness.
Through a series of subsequent amendments, including an amendment executed by
the Company on February 11, 2002 ("February 2002 Amendment"), the size of the
Revolving Credit Facility was reduced to $40 million. In addition, the February
2002 Amendment also provides that any payments made under the Senior Notes (see
below) will result in a proportionate reduction in the lenders' commitments
under the Revolving Credit Agreement. At June 30, 2002, lenders' commitments
under the Revolving Credit Facility were limited to $37.7 million. Borrowings
under the Revolving Credit Facility are further limited to borrowing base
amounts as defined. The February 2002 Amendment provides for interest on
borrowings at prime plus 2.50%. In addition, the February 2002 Amendment
requires the Company to pay a facility fee of 0.75% on the commitment amount.
Borrowings under the Revolving Credit Facility are secured by the Company's
domestic accounts receivable, inventories, certain intangibles, machinery and
equipment and owned real estate as well as certain assets in Canada. The Company
has also pledged slightly less than two-thirds of the capital stock of two of
its foreign subsidiaries. The Revolving Credit Facility, as amended, requires
the Company to maintain certain financial ratios and places limitations on the
Company's ability to pay cash dividends, incur additional indebtedness and make
investments, including acquisitions.
At June 30, 2002, the Company was in violation of several financial
covenants. These violations permit the lenders to cause the Revolving Credit
Facility to become due prior to its stated maturity. As a result of the
maturity, the Company has classified all of its outstanding indebtedness under
the Revolving Credit Facility at June 30, 2002 as current. This event of default
also restricts the Company from borrowing any additional funds under the
Revolving Credit Facility and increases the interest rate on borrowings to prime
plus 5.50%. The Company is continuing to make all required interest payments.
The Company is currently negotiating with its lenders to amend this Revolving
Credit Facility to eliminate the Company's violations and to extend the
expiration date. If the Company is unable to negotiate an amendment to the
Revolving Credit Facility, it will be necessary for the Company to refinance or
repay this debt. The Company cannot assure that it will be able to accomplish
such a transaction on terms acceptable to the Company. Failure to do so would
have a material adverse effect on the Company's liquidity and financial
condition and could result in the Company's inability to operate as a going
concern. If the Company is unable to operate as a going concern, it may file, or
may have no alternative but to file, bankruptcy or insolvency proceedings or
pursue a sale or sales of assets to satisfy creditors.
In January 1998, the Company issued, through private placement, $30
million of Senior Notes due 2008 (the "Senior Notes"). The Senior Notes, as
amended, bear interest at 10.6% effective April 15, 2001. In addition, the
agreement relating to the Senior Notes, as amended, provides for an additional
fee of 0.75% per annum on the outstanding principal amount of the Senior Notes
for any quarter during which the ratio of debt to EBITDA (earning before
interest, taxes, depreciation and amortization) equals or exceeds 4.00 to 1.00.
The Senior Notes require monthly principal payments commencing in February 2002
and are secured equally and ratably with debt under the Revolving Credit
Facility.
The Company is required to maintain certain financial ratios under the
Senior Notes. At June 30, 2002, the Company was in violation of several of these
financial covenants. These violations permit the lender to cause the Senior
Notes to become due prior to their stated maturity. As a result, the Company has
classified all of its outstanding indebtedness under the Senior Notes at June
30, 2002 as current. The
35
Company is continuing to make all required interest payments. The Company made
its required principal payments through March 2002, but has not made the
required monthly payments after March 2002. The Company is currently negotiating
with its lender to amend the Senior Notes to eliminate the Company's violations
and to amend the schedule of principal payments required. If the Company is
unable to negotiate an amendment to the Senior Notes, it will be necessary for
the Company to refinance or repay this debt. The Company cannot assure that it
will be able to accomplish such a transaction on terms acceptable to the
Company. Failure to do so would have a material adverse effect on the Company's
liquidity and financial condition and could result in the Company's inability to
operate as a going concern. If the Company is unable to operate as a going
concern, it may file, or may have no alternative but to file, bankruptcy or
insolvency proceedings or pursue a sale or sales of assets to satisfy creditors.
Because of uncertainty related to the Company's ability to amend or
refinance its debt, and the timing thereof, certain vendors may no longer do
business with the Company on favorable credit terms, and the Company could
experience cash flow problems or the inability to obtain materials and services
when required. In addition, vendors may require cash in advance or deposits. All
of these developments could materially increase the Company's operating expenses
and further reduce its liquidity.
The Company has incurred substantial costs in fiscal 2002, and will
continue to incur substantial costs in fiscal 2003, in connection with the
engagement of financial advisors and consultants, the investigation of
accounting matters and the preparation and review of its financial statements
and other reports. The Company also anticipates that it will continue to incur
significant legal and other expenses in connection with the ongoing litigation
and investigations described in Part II, Item 1 - Legal Proceedings.
Based on the events of default which prevent the Company from accessing
its Revolving Credit Facility, the Company can only obtain funds from its
operating cash flow and under its foreign credit facilities, subject to
applicable terms and conditions. Total availability under the foreign credit
facilities at June 30, 2002, was approximately $5.0 million.
The Company is negotiating agreements with its lenders to amend the
current Revolving Credit Facility and Senior Note agreements and to address
existing violations. Among other things, we seek to revise principal
amortization of the Senior Notes and obtain ongoing borrowing capacity under the
Revolving Credit Facility, subject to applicable borrowing base and other
provisions. In addition to other terms and conditions, we expect to incur
interest rates on borrowings under the Revolving Credit Facility at a higher
applicable margin than under its existing provisions. We also intend to seek
during fiscal 2003 other financing to retire the Senior Notes and the Revolving
Credit Facility. There can be no assurance however that we will be able to amend
the existing agreements or obtain other financing.
The Company currently operates in a decentralized and geographically
dispersed environment. This environment poses challenges, not found in
centralized environments, for ensuring the integrity of internal controls.
Management has reviewed existing controls and will continue to implement changes
as needed to preserve and strengthen the Company's internal controls. We
anticipate that the consolidation and divestiture initiatives contained in the
restructuring plan will reduce the internal control risks inherent in a
decentralized environment.
36
ITEM 5. OTHER INFORMATION
SUBSEQUENT EVENT
In July 2002, the Company's Board of Directors approved a formal
business restructuring plan. The multi-year plan includes a series of
initiatives to improve operating income and reduce debt. The Company intends to
sell non-core business units and use the proceeds to reduce debt. To assist, the
Company has engaged the firm of Carl Marks Consulting Group LLC. A managing
director of Carl Marks, has joined the Company in the role of Chief
Restructuring Officer to manage the plan's implementation. The Company will
report future quarterly and annual results separately for continuing operations
and for discontinued operations. Potential operating gains or losses may be
experienced with the disposition of assets at the time of disposal during the
implementation of the restructuring plan. Operating income improvements combined
with debt reduction targets are expected to result.
ACCOUNTING IRREGULARITIES IN AUSTRALIAN SUBSIDIARY
On March 20, 2002, the Company announced that it had discovered
accounting irregularities caused by apparent internal misconduct in its
Australian subsidiary. The accounting irregularities involved the overstatement
of revenues and understatement of expenses by the Australian subsidiary. The
irregularities were discovered by Corrpro management in connection with an
internal review of the subsidiary's working capital management practices and
cash flow problems inconsistent with the subsidiary's reported results. Upon
discovering the irregularities, the Company immediately began an internal
investigation conducted under the direction of the Audit Committee of its Board
of Directors. The Audit Committee subsequently retained special counsel in
connection with the investigation and retained the forensic investigation unit
of the accounting firm, Deloitte Touche Tohmatsu.
The Company also announced in March 2002 that its Australian subsidiary
was in the process of appointing an administrator and commencing voluntary
administration proceedings, a process under Australian law providing relief from
creditors of Australian companies. Following the appointment, the Company
recorded a charge to earnings in the fiscal fourth quarter ended March 31, 2002
for its loss on investment related to the subsidiary. The Company also stated
that, to the extent that the accounting irregularities materially affect
previously filed financial statements, the Company expected that it would have
to restate its audited financial statements for its fiscal year which ended
March 31, 2001 as well as unaudited financial information for the first nine
months through December 31, 2001 of its fiscal year ended March 31, 2002, as
previously released. Accordingly, the financial statements for the affected
periods have been restated in the Company's Form 10-K/A filed on August 9, 2002.
On June 13, 2002, the Company announced that the Australian Securities
and Investments Commission ("ASIC") had commenced an independent investigation
of the accounting irregularities. The Company also had voluntarily disclosed
this matter to the United States Securities and Exchange Commission ("SEC"),
which commenced an informal inquiry. The ASIC investigation and the SEC inquiry,
which is now a formal inquiry, both continue to be ongoing and the Company has
been and intends to continue cooperating with both commissions. See "Part II -
Other Information - Legal Proceedings." The Company also announced that the
creditors of the Australian subsidiary effective in May 2002 had approved an
arrangement under voluntary administration proceedings.
The Company also has announced that, as a result of the matters
discussed above, the Company
37
is not in compliance with the provisions, including certain financial covenants,
of its existing senior secured credit agreement and its senior note facility.
The remedies available to these lenders upon default by the Company, including
acceleration of principal, would have a material adverse impact on the Company's
liquidity, its financial position and its ability to operate as a going concern.
The Company has continued to make scheduled monthly interest payments on such
senior debt; however, it has not made scheduled principal payments that were due
since April 2002 on the senior note facility. The Company is continuing to hold
discussions with its bank group and the holder of its senior notes concerning
the Company's non-compliance, operational changes and debt reduction. If the
Company is unable to satisfactorily resolve these lender negotiations and/or
access other sources of capital on a timely basis, it would have a material
adverse effect on the Company's liquidity and financial condition and could
result in the Company's inability to operate as a going concern. If the Company
is unable to operate as a going concern, it may have no alternative but to file
bankruptcy or insolvency proceedings or pursue a sale or sales of assets to
satisfy creditors.
Subsequent to the announcement of the investigation of the accounting
irregularities at the Australian subsidiary, a purported class action lawsuit
has been filed against the Company and certain of its current and former
directors and officers. See "Part II - Other Information - Legal Proceedings."
38
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
A. There were no Exhibits filed with this Form 10-Q.
B. There were no reports on Form 8-K filed during the quarter.
39
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.
CORRPRO COMPANIES, INC.
(Registrant)
Date: August 14, 2002 /s/ Joseph W. Rog
---------------------------------------
Joseph W. Rog
Chairman of the Board, President
and Chief Executive Officer
(Principal Executive Officer)
/s/ Robert M. Sloan
---------------------------------------
Robert M. Sloan
Senior Vice President and
Chief Financial Officer
(Principal Financial and
Accounting Officer)
40