10-Q 1 h94279e10-q.txt INTEGRATED ELECTRICAL SERVICES INC - 12/31/2001 UNITED STATES 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 December 31, 2001 OR ( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from_____to_____. Commission File No. 1-13783 INTEGRATED ELECTRICAL SERVICES, INC. (Exact name of registrant as specified in its charter) DELAWARE 76-0542208 (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.) 1800 West Loop South Suite 500 Houston, Texas 77027-3290 (Address of principal executive offices) (zip code) Registrant's telephone number, including area code: (713) 860-1500 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 [ ] The number of shares outstanding as of February 13, 2002, of the issuer's common stock was 37,447,479 and of the issuer's restricted voting common stock was 2,605,709. INTEGRATED ELECTRICAL SERVICES, INC. AND SUBSIDIARIES INDEX
Page ---- PART I. FINANCIAL INFORMATION Item 1. Financial Statements Consolidated Balance Sheets as of September 30, 2001 and December 31, 2001.................................................................... 2 Consolidated Statements of Operations for the three months ended December 31, 2000 and 2001........................................................... 3 Consolidated Statement of Stockholders' Equity for the three months ended December 31, 2001.................................................................... 4 Consolidated Statements of Cash Flows for the three months ended December 31, 2000 and 2001........................................................... 5 Condensed Notes to Consolidated Financial Statements...................................... 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.......................................... 14 Item 3. Quantitative and Qualitative Disclosures about Market Risk................... 24 PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K............................................. 25 Signatures ............................................................................. 26
1 INTEGRATED ELECTRICAL SERVICES, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE INFORMATION)
September 30, December 31, 2001 2001 ------------- ------------- (Audited) (Unaudited) ASSETS CURRENT ASSETS: Cash and cash equivalents .................................................... $ 3,475 $ 4,167 Accounts receivable: Trade, net of allowance of $5,206 and $4,978 respectively ................ 275,922 270,258 Retainage ................................................................ 64,933 63,247 Related parties .......................................................... 222 230 Costs and estimated earnings in excess of billings on uncompleted contracts .................................................... 62,249 50,504 Inventories .................................................................. 21,855 27,477 Prepaid expenses and other current assets .................................... 23,858 18,635 ------------- ------------- Total current assets ..................................................... 452,514 434,518 PROPERTY AND EQUIPMENT, net .................................................. 70,343 69,959 GOODWILL, net ................................................................ 482,654 199,370 OTHER NON-CURRENT ASSETS ..................................................... 27,992 26,536 ------------- ------------- Total assets .......................................................... $ 1,033,503 $ 730,383 ============= ============= LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Short-term debt and current maturities of long-term debt ..................... $ 679 $ 643 Accounts payable and accrued expenses ........................................ 164,272 134,157 Income taxes payable ......................................................... 700 248 Billings in excess of costs and estimated earnings on uncompleted contracts .................................................... 50,234 57,138 ------------- ------------- Total current liabilities ................................................ 215,885 192,186 LONG-TERM BANK DEBT .......................................................... 12,000 19,000 OTHER LONG-TERM DEBT, net of current maturities .............................. 872 1,478 SENIOR SUBORDINATED NOTES, net of $4,949 and $4,780 unamortized discount, respectively ....................................... 273,210 270,365 OTHER NON-CURRENT LIABILITIES ................................................ 2,892 2,260 ------------- ------------- Total liabilities ..................................................... 504,859 485,289 ------------- ------------- COMMITMENTS AND CONTINGENCIES STOCKHOLDERS' EQUITY: Preferred stock, $.01 par value, 10,000,000 shares authorized, none issued and outstanding ........................................... -- -- Common stock, $.01 par value, 100,000,000 shares authorized, 38,331,672 and 38,633,598 shares issued, respectively ................. 383 386 Restricted voting common stock, $.01 par value, 2,605,709 shares ......... -- issued, authorized and outstanding, respectively ...................... 26 26 Treasury stock, at cost, 1,245,879 and 1,245,212 shares, respectively .... (9,181) (9,176) Additional paid-in capital ............................................... 428,640 430,348 Retained earnings (deficit) .............................................. 108,719 (176,378) Accumulated other comprehensive income (loss) ............................ 57 (112) ------------- ------------- Total stockholders' equity ............................................ 528,644 245,094 ------------- ------------- Total liabilities and stockholders' equity ............................ $ 1,033,503 $ 730,383 ============= =============
The accompanying condensed notes to financial statements are an integral part of these financial statements. 2 INTEGRATED ELECTRICAL SERVICES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT SHARE INFORMATION)
Three Months Ended December 31, -------------------------------- 2000 2001 -------------- -------------- (Unaudited) Revenues .................................................................. $ 427,030 $ 375,179 Cost of services (including depreciation) ................................. 352,489 317,950 -------------- -------------- Gross profit ......................................................... 74,541 57,229 Selling, general and administrative expenses .............................. 51,965 49,773 Restructuring charge ...................................................... -- 4,000 Goodwill amortization ..................................................... 3,249 -- -------------- -------------- Income from operations ............................................... 19,327 3,456 -------------- -------------- Other (income)/expense: Interest expense ..................................................... 6,258 6,785 Gain on sale of assets ............................................... (36) (71) Other (income) expense, net .......................................... (175) 178 -------------- -------------- 6,047 6,892 -------------- -------------- Income (loss) before income taxes ......................................... 13,280 (3,436) Provision (benefit) for income taxes ...................................... 6,272 (1,623) Cumulative effect of change in accounting principle, net of tax ............................................................... -- 283,284 -------------- -------------- Net income (loss) ......................................................... $ 7,008 $ (285,097) ============== ============== Basic earnings (loss) per share: Basic earnings (loss) per share before cumulative effect of change in accounting principle ............................... $ 0.17 $ (0.04) ============== ============== Cumulative effect of change in accounting principle .................. $ -- $ (7.13) ============== ============== Basic earnings (loss) per share ...................................... $ 0.17 $ (7.17) ============== ============== Diluted earnings (loss) per share: Diluted earnings (loss) per share before cumulative effect of change in accounting principle ............................... $ 0.17 $ (0.04) ============== ============== Cumulative effect of change in accounting principle .................. $ -- $ (7.13) ============== ============== Diluted earnings (loss) per share .................................... $ 0.17 $ (7.17) ============== ============== Shares used in the computation of earnings (loss) per share (Note 5): Basic ................................................................ 40,756,732 39,759,175 ============== ============== Diluted .............................................................. 41,088,790 39,759,175 ============== ==============
The accompanying condensed notes to financial statements are an integral part of these financial statements. 3 INTEGRATED ELECTRICAL SERVICES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (IN THOUSANDS, EXCEPT SHARE INFORMATION)
Restricted Voting Compre- Common Stock Common Stock Treasury Stock hensive ---------------------- ---------------------- ----------------------- Income Shares Amount Shares Amount Shares Amount --------- ---------- ---------- ---------- ---------- ---------- ---------- BALANCE, September 30, 2001 .. 38,331,672 $ 383 2,605,709 $ 26 (1,245,879) $ (9,181) Issuance of stock (unaudited) ............. 301,926 3 -- -- -- -- Exercise of stock options (unaudited) ............. -- -- -- -- 667 5 Unrealized holding loss on securities, net of tax (unaudited) ......... $ (169) -- -- -- -- -- -- Net loss (unaudited) ......... (285,097) -- -- -- -- -- -- --------- Comprehensive loss (unaudited) ............. $(285,266) ========= ---------- ---------- ---------- ---------- ---------- ---------- BALANCE, December 31, 2001 ... 38,633,598 $ 386 2,605,709 $ 26 (1,245,212) $ (9,176) ========== ========== ========== ========== ========== ==========
Accumulated Additional Retained Other Total Paid-In Earnings Comprehensive Stockholders' Capital (Deficit) Income (Loss) Equity ------------ ------------ ------------ ------------ BALANCE, September 30, 2001 ....... $ 428,640 $ 108,719 $ 57 $ 528,644 Issuance of stock (unaudited) .................. 1,709 -- -- 1,712 Exercise of stock options (unaudited) .................. (1) -- -- 4 Unrealized holding loss on securities, net of tax (unaudited) .............. -- -- (169) (169) Net loss (unaudited) .............. -- (285,097) -- (285,097) Comprehensive loss (unaudited) .................. ------------ ------------ ------------ ------------ BALANCE, December 31, 2001 ........ $ 430,348 $ (176,378) $ (112) $ 245,094 ============ ============ ============ ============
The accompanying condensed notes to financial statements are an integral part of these financial statements. 4 INTEGRATED ELECTRICAL SERVICES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
Three Months Ended December 31, ------------------------------- 2000 2001 ------------- ------------- (Unaudited) CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss) .................................................... $ 7,008 $ (285,097) Adjustments to reconcile net income (loss) to net cash provided by operating activities - Cumulative effect of change in accounting principle ............. -- 283,284 Depreciation and amortization ................................... 6,901 4,227 Gain on sale of property and equipment .......................... (36) (71) Non-cash compensation expense ................................... 142 1,422 Changes in operating assets and liabilities (Increase) decrease in: Accounts receivable, net ................................... 17,047 7,342 Inventories ................................................ (13) (5,622) Costs and estimated earnings in excess of billings on uncompleted contracts ........... 1,076 11,745 Prepaid expenses and other current assets .................. (6,385) 3,541 Increase (decrease) in: Accounts payable and accrued expenses ...................... (60,129) (31,537) Billings in excess of costs and estimated earnings on uncompleted contracts ..................... 10,281 6,904 Income taxes payable ....................................... 2,643 (452) Other, net ................................................. 241 75 ------------- ------------- Net cash used by operating activities .......... (21,224) (4,239) ------------- ------------- CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from sale of property and equipment ......................... 190 170 Additions to property and equipment .................................. (5,594) (3,942) Purchase of businesses, net of cash acquired ......................... (233) -- Investments in available for sale securities ......................... (4,849) -- Additions to note receivable from affiliate .......................... -- (583) ------------- ------------- Net cash used by investing activities .......... (10,486) (4,355) ------------- ------------- CASH FLOWS FROM FINANCING ACTIVITIES: Borrowings ........................................................... 50,000 44,291 Repayments of debt ................................................... (18,129) (36,721) Purchase of treasury stock ........................................... (1,298) -- Proceeds from issuance of stock ...................................... -- 1,712 Proceeds from sale of treasury stock ................................. 980 -- Proceeds from exercise of stock options .............................. -- 4 ------------- ------------- Net cash provided by financing activities ...... 31,553 9,286 ------------- ------------- NET DECREASE IN CASH AND CASH EQUIVALENTS ................................. (157) 692 CASH AND CASH EQUIVALENTS, beginning of period ............................ 770 3,475 ------------- ------------- CASH AND CASH EQUIVALENTS, end of period .................................. $ 613 $ 4,167 ============= ============= SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid for Interest ........................................................ $ 2,828 $ 475 Income taxes .................................................... $ 3,862 $ 3,383
The accompanying condensed notes to financial statements are an integral part of these financial statements. 5 INTEGRATED ELECTRICAL SERVICES, INC. AND SUBSIDIARIES CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. OVERVIEW Integrated Electrical Services, Inc. (the "Company" or "IES"), a Delaware corporation, was founded in December 1997 to create a leading national provider of electrical services, focusing primarily on the commercial and industrial, residential, communications and service and maintenance markets. The accompanying unaudited condensed historical financial statements of the Company have been prepared in accordance with accounting principles generally accepted in the United States and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required for complete financial statements, and therefore should be reviewed in conjunction with the financial statements and related notes thereto contained in the Company's annual report for the year ended September 30, 2001 filed on Form 10-K with the Securities and Exchange Commission. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Actual operating results for the three months ended December 31, 2001, are not necessarily indicative of the results that may be expected for the fiscal year ended September 30, 2002. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES For a description of these policies, refer to Note 2 of the Notes to Consolidated Financial Statements included in the Company's Annual Report on Form 10-K for the year ended September 30, 2001. SUBSIDIARY GUARANTIES All of the Company's operating income and cash flows are generated by its wholly owned subsidiaries, which are the subsidiary guarantors of the Company's outstanding 9 3/8% Senior Subordinated Notes due 2009 (the "Senior Subordinated Notes"). The Company is structured as a holding company and substantially all of its assets and operations are held by its subsidiaries. There are currently no significant restrictions on the Company's ability to obtain funds from its subsidiaries by dividend or loan. The separate financial statements of the subsidiary guarantors are not included herein because (i) the subsidiary guarantors are all of the direct and indirect subsidiaries of the Company; (ii) the subsidiary guarantors have fully and unconditionally, jointly and severally guaranteed the senior subordinated notes; and (iii) the aggregate assets, liabilities, earnings, and equity of the subsidiary guarantors is substantially equivalent to the assets, liabilities, earnings and equity of the Company on a consolidated basis. As a result, the presentation of separate financial statements and other disclosures concerning the subsidiary guarantors is not deemed material. 6 USE OF ESTIMATES AND ASSUMPTIONS The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires the use of estimates and assumptions by management in determining the reported amounts of assets and liabilities, disclosures of contingent 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. Estimates are primarily used in the Company's revenue recognition of construction in progress, fair value assumptions in analyzing goodwill impairment, allowance for doubtful accounts and self-insured claims liability. NEW ACCOUNTING PRONOUNCEMENT In August 2001, the FASB issued Statement of Financial Accounting Standards (SFAS) No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144 supercedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of". SFAS No. 144 establishes a single accounting model for long-lived assets to be disposed of by sale and requires that those long-lived assets be measured at the lower of carrying amount or fair value less cost to sell, whether reported in continuing operations or in discontinued operations. SFAS No. 144 is effective for fiscal years beginning after December 15, 2001. The Company is in the process of assessing the impact that the adoption of this standard will have on its financial position and results of operations. Historically, the Company has not disposed of any assets or incurred any asset impairments under SFAS No. 121. 2. GOODWILL AND OTHER INTANGIBLE ASSETS Effective October 1, 2001, the Company adopted SFAS No. 142, "Goodwill and Other Intangible Assets," which establishes new accounting and reporting requirements for goodwill and other intangible assets. Under SFAS No. 142, all goodwill amortization ceased effective October 1, 2001. Goodwill amortization for the quarter ended December 31, 2001 would have otherwise been $3.2 million. Material amounts of recorded goodwill attributable to each of our reporting units were tested for impairment by comparing the fair value of each reporting unit with its carrying value. Fair value was determined using discounted cash flows, market multiples and market capitalization. These impairment tests are required to be performed at adoption of SFAS No. 142 and at least annually thereafter. Significant estimates used in the methodologies include estimates of future cash flows, future short-term and long-term growth rates, weighted average cost of capital and estimates of market multiples for each of the reportable units. On an ongoing basis (absent any impairment indicators), we expect to perform our impairment tests during our first fiscal quarter. Based on our initial impairment tests, we recognized a charge of $283.3 million ($7.13 per share) in the first quarter of 2002 to reduce the carrying value of goodwill of our reporting units to its implied fair value. This impairment is a result of adopting a fair value approach, under SFAS No. 142, to testing impairment of goodwill as compared to the previous method utilized in which evaluations of goodwill impairment were made by the Company using the estimated future undiscounted cash flows compared to the assets carrying amount. Under SFAS No. 142, the 7 impairment adjustment recognized at adoption of the new rules was reflected as a cumulative effect of change in accounting principle in our first quarter 2002 income statement. Impairment adjustments recognized after adoption, if any, generally are required to be recognized as operating expenses. The carrying amount of goodwill attributable to each reportable operating unit with goodwill balances and changes therein follows:
September 30, Impairment December 31, 2001 Adjustment 2001 ------------- ---------- ------------ Commercial and Industrial ......... $ 418,887 $ 277,042 $ 141,845 Residential ....................... 63,767 6,242 57,525 ------------- ---------- ------------ $ 482,654 $ 283,284 $ 199,370 ============= ========== ============
The unaudited results of operations presented below for the three months ended December 31, 2001 and adjusted results of operations for the three month ended December 31, 2000 reflect the operations of the Company had we adopted the non-amortization provisions of SFAS No. 142 effective October 1, 2000:
Three Months Ended December 31, -------------------------- 2000 2001 ----------- ----------- Net income (loss) ................................ $ 7,008 $ (285,097) Add: Cumulative effect of change in accounting ... -- 283,284 principle, net of tax Add: Goodwill amortization, net of tax ........... 3,162 -- ----------- ----------- Adjusted net income (loss) ....................... $ 10,170 $ (1,813) =========== =========== Basic earnings (loss) per share: Reported net income (loss) .................. $ 0.17 $ (7.17) Cumulative effect of change in accounting principle, net of tax .................. -- (7.13) Goodwill amortization, net of tax ........... 0.08 -- ----------- ----------- Adjusted net income (loss) .................. $ 0.25 $ (0.04) =========== =========== Diluted earnings (loss) per share: Reported net income (loss) .................. $ 0.17 $ (7.17) Cumulative effect of change in accounting principle, net of tax .................. -- (7.13) Goodwill amortization, net of tax ........... 0.08 -- ----------- ----------- Adjusted net income (loss) .................. $ 0.25 $ (0.04) =========== ===========
8 2. RESTRUCTURING CHARGE In October 2001, the Company began implementation of a workforce reduction program. The purpose of this program was to cut costs by reducing the number of administrative staff both in the field and at the home office. As a result of the program implementation, the Company recorded a pre-tax restructuring charge of $4.0 million in the quarter ended December 31, 2001. The charge was based on the cost of the workforce reduction program and includes severance and other special termination benefits. The Company expects to record additional restructuring costs of approximately $0.9 to $1.4 million during the quarter ended March 31, 2002. 4. DEBT Debt consists of the following (in thousands):
September 30, December 31, 2001 2001 ------------- ------------ Secured credit facility with a group of lending institutions, due ....... $ 12,000 $ 19,000 May 22, 2004, at a weighted average interest rate of 7.56% and 6.66%, respectively Senior subordinated notes, due February 1, 2009, bearing interest at 9.375% with an effective interest rate of 9.50% ....... 150,000 150,000 Senior subordinated notes, due February 1, 2009, bearing interest at 9.375% with an effective interest rate of 10.00% ...... 125,000 125,000 Other ................................................................... 1,551 2,121 ------------ ------------ 288,551 296,121 Less - short-term debt and current maturities of long-term debt ......... (679) (643) Less - unamortized discount on Senior Subordinated Notes ................ (4,949) (4,780) ------------ ------------ Total long-term debt .............................................. $ 282,923 $ 290,698 ============ ============
Credit Facility The Company is party to a $150.0 million revolving credit facility with a syndicate of lending institutions to be used for working capital, capital expenditure, acquisitions and other corporate purposes that matures May 22, 2004, as amended through February 4, 2002 (the "Credit Facility"). Amounts borrowed under the Credit Facility bear interest at an annual rate equal to either (a) the London interbank offered rate (LIBOR) plus 1.75 percent to 3.50 percent, as determined by the ratio of the Company's total funded debt to EBITDA (as defined in the Credit Facility) or (b) the higher of (i) the bank's prime rate or (ii) the Federal funds rate plus 0.50 percent plus an additional 0.25 percent to 2.00 percent, as determined by the ratio of the Company's total funded debt to EBITDA. Commitment fees of 0.50 percent are assessed on any unused borrowing capacity under the Credit Facility. The Company's existing and future subsidiaries guarantee the repayment of all amounts due under the facility, and the facility is secured by the capital stock of those subsidiaries and the accounts receivable of the Company and those subsidiaries. Borrowings under the Credit Facility are limited to 66 2/3% of outstanding receivables (as defined in the agreement). The Credit Facility requires the consent of the lenders for acquisitions exceeding a certain level of cash consideration, prohibits the payment of cash dividends on the common stock, restricts the ability of the Company to repurchase shares 9 of common stock, to incur other indebtedness and requires the Company to comply with various affirmative and negative covenants including certain financial covenants. Among other restrictions, the financial covenants include minimum net worth requirements, a maximum total consolidated funded debt to EBITDA ratio, a maximum senior consolidated debt to EBITDA ratio, and a minimum interest coverage ratio. The Company was in compliance with the financial covenants of its Credit Facility, as amended through February 4, 2002, at December 31, 2001. As of December 31, 2001, the Company had borrowings outstanding under its Credit Facility of $19.0 million, letters of credit outstanding under its Credit Facility of $4.7 million, $2.1 million of other borrowings and available borrowing capacity under its Credit Facility of $126.3 million. Senior Subordinated Notes The Company has $275.0 million in senior subordinated notes. The senior subordinated notes bear interest at 9 3/8% and mature on February 1, 2009. The Company pays interest on the senior subordinated notes on February 1 and August 1 of each year. The senior subordinated notes are unsecured obligations and are subordinated to all existing and future senior indebtedness. The senior subordinated notes are guaranteed on a senior subordinated basis by all of the Company's subsidiaries. Under the terms of the senior subordinated notes, the Company is required to comply with various affirmative and negative covenants including: (i) restrictions on additional indebtedness, and (ii) restrictions on liens, guarantees and dividends. Interest Rate Swap The Company entered into an interest rate swap agreement in August 2001, designated as a fair value hedge, in order to minimize the risks and cost associated with its financing activities. The interest rate swap agreement has a notional amount of $100.0 million and was established to manage the interest rate risk of the senior subordinated note obligations. Under the swap agreement, the Company pays the counterparty variable rate interest (3-month LIBOR plus 3.49%) and the counterparty pays the Company fixed rate interest of 9.375% on a semiannual basis over the life of the instrument. Pursuant to SFAS No. 133, as amended, such interest rate swap contract is reflected at fair value on the Company's consolidated balance sheet and the related portion of fixed-rate debt being hedged is reflected at an amount equal to the sum of its carrying value plus an adjustment representing the change in fair value of the debt obligation attributable to the interest rate being hedged. The net effect of this accounting on the Company's operating results is that interest expense on the portion of fixed-rate debt being hedged is generally recorded based on variable interest rates. The interest rate swap is considered to be perfectly effective because it qualifies for the "short-cut" method under SFAS No. 133 and therefore there is no net change in fair value to be recognized in income. At September 30, 2001 and December 31, 2001, the interest rate swap had a notional value of $100.0 million and a fair value of $3.2 million and $0.1 million, respectively. The fair value of this contract is included in the balance sheet in other noncurrent assets. The following table presents the balance sheet effect on the Company's senior subordinated notes (in thousands): 10
September 30, December 31, 2001 2001 ------------- ------------ Senior subordinated notes, due February 1, 2009 ............ $ 275,000 $ 275,000 Less: unamortized discount on senior subordinated notes .... (4,949) (4,780) Add: Fair value of interest rate hedge ..................... 3,159 145 ------------- ------------ $ 273,210 $ 270,365 ============= ============
5. PER SHARE INFORMATION The following table reconciles the numerators and denominators of the basic and diluted earnings per share for the three months ended December 31, 2000 and 2001 (in thousands, except share information):
Three Months Ended December 31, ------------ ------------ 2000 2001 ------------ ------------ Numerator: Net income (loss) ................................. $ 7,008 $ (285,097) ============ ============ Denominator: Weighted average shares outstanding - basic ....... 40,756,732 39,759,175 Effect of dilutive stock options .................. 332,058 -- ------------ ------------ Weighted average shares outstanding - diluted ..... 41,088,790 39,759,175 ============ ============ Earnings (loss) per share: Basic ............................................. $ 0.17 $ (7.17) Diluted ........................................... $ 0.17 $ (7.17)
For the three months ended December 31, 2000 and 2001, stock options of 5.1 million and 6.9 million respectively, were excluded from the computation of diluted earnings per share because the options exercise prices were greater than the average market price of the Company's common stock. For the three months ended December 31, 2001, the weighted average diluted shares outstanding excluded 25,830 shares related to employee stock options where the exercise prices were less than the average market price of the Company's common stock. These shares were excluded because the Company reported a loss during the period, and including them would have had an antidilutive effect on loss per share. 6. OPERATING SEGMENTS The Company follows SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." Certain information is disclosed, per SFAS No. 131, based on the way management organizes financial information for making operating decisions and assessing performance. The Company's reportable segments are strategic business units that offer products and services to two distinct customer groups. They are managed separately because each business requires different operating and marketing strategies. 11 During the three months ended December 31, 2001, the Company aligned its operations among two reportable segments: commercial/industrial and residential. The commercial/industrial segment provides electrical and communications contracting, design, installation, renovation, engineering and upgrades and maintenance and replacement services in facilities such as office buildings, high-rise apartments and condominiums, theaters, restaurants, hotels, hospitals and critical-care facilities, school districts, manufacturing and processing facilities, military installations, airports, refineries, petrochemical and power plants, outside plant, network enterprise and switch network customers. The residential segment consists of electrical and communications contracting, installation, replacement and renovation services in single family and low-rise multifamily housing units. Other includes expenses associated with the Company's home office and regional infrastructure. The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company evaluates performance based on income from operations of the respective business units prior to unallocated home office expenses. Management allocates costs between segments for selling, general and administrative expenses, goodwill amortization, depreciation expense, capital expenditures and total assets. Those methods used for allocation may change in the future. Segment information for the three months ended December 31, 2000 and 2001 is as follows (in thousands):
THREE MONTHS ENDED DECEMBER 31, 2000 ------------------------------------------------------- COMMERCIAL/ INDUSTRIAL RESIDENTIAL OTHER TOTAL ----------- ----------- ---------- ---------- Revenues ...................................... $ 364,718 $ 62,312 $ -- $ 427,030 Cost of services (including depreciation) .... 304,488 48,001 -- 352,489 ----------- ----------- ---------- ---------- Gross profit .................................. 60,230 14,311 -- 74,541 Selling, general and administrative ........... 35,835 8,038 8,092 51,965 Goodwill amortization ......................... 2,851 398 -- 3,249 ----------- ----------- ---------- ---------- Operating income .............................. $ 21,544 $ 5,875 $ (8,092) $ 19,327 =========== =========== ========== ========== Other data: Depreciation expense .......................... $ 3,211 $ 251 $ 190 $ 3,652 Capital expenditures .......................... 4,759 388 447 5,594 Total assets .................................. 849,681 120,185 41,526 1,011,392
12
THREE MONTHS ENDED DECEMBER 31, 2001 ------------------------------------------------ COMMERCIAL/ INDUSTRIAL RESIDENTIAL OTHER TOTAL ----------- ----------- -------- -------- Revenues .................................... $ 308,045 $ 67,134 $ -- $375,179 Cost of services (including depreciation) ... 265,032 52,918 -- 317,950 ----------- ----------- -------- -------- Gross profit ................................ 43,013 14,216 -- 57,229 Selling, general and administrative ......... 33,240 8,634 7,899 49,773 Restructuring charge ........................ -- -- 4,000 4,000 ----------- ----------- -------- -------- Operating income ............................ $ 9,773 $ 5,582 $(11,899) $ 3,456 =========== =========== ======== ======== Other data: Depreciation expense ........................ $ 3,421 $ 332 $ 474 $ 4,227 Capital expenditures ........................ 2,638 112 1,192 3,942 Total assets ................................ 559,573 99,831 70,979 730,383
The Company's information for the three months ended December 31, 2000 has been restated for consistency with the current year presentation. The Company does not have significant operations or long-lived assets in countries outside of the United States. 7. 1999 INCENTIVE COMPENSATION PLAN In November 1999 the Board of Directors adopted the 1999 Incentive Compensation Plan (the "1999 Plan"). The 1999 Plan authorizes the Compensation Committee of the Board of Directors or the Board of Directors to grant employees of the Company awards in the form of options, stock appreciation rights, restricted stock or other stock based awards. The Company has up to 5.5 million shares of Common Stock authorized for issuance under the 1999 Plan. The Company granted a restricted stock award of 400,000 underlying shares under its 1999 Plan. The award became fully vested during the three months ended December 31, 2001. The market value of the underlying stock on the date of grant for this award was $2.3 million. During the three months ended December 31, 2000 and 2001, the Company amortized $0.1 million and $1.4 million, respectively, in connection with this award. 8. COMMITMENTS AND CONTINGENCIES Subsidiaries of the Company are involved in various legal proceedings that have arisen in the ordinary course of business. While it is not possible to predict the outcome of such proceedings with certainty and it is possible that the results of legal proceedings may materially adversely affect us, in the opinion of the Company, all such proceedings are either adequately covered by insurance or, if not so covered, should not ultimately result in any liability which would have a material adverse effect on the financial position, liquidity or results of operations of the Company. The Company expenses routine legal costs related to such proceedings as incurred. The Company has committed to invest up to $5.0 million in EnerTech Capital Partners II L.P. ("EnerTech"). EnerTech is a private equity firm specializing in investment opportunities emerging from the deregulation and resulting convergence of the energy, utility and 13 telecommunications industries. Through December 31, 2001, the Company had invested $1.5 million under its commitment to EnerTech. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS INTRODUCTION The following should be read in conjunction with the response to Part I, Item 1 of this Report. Any capitalized terms used but not defined in this Item have the same meaning given to them in Part I, Item 1. This report on Form 10-Q includes certain statements that may be deemed to be "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These statements are based on our expectations and involve risks and uncertainties that could cause our actual results to differ materially from those set forth in the statements. Such risks and uncertainties include, but are not limited to, the inherent uncertainties related to estimating future results, fluctuations in operating results because of downturns in levels of construction, incorrect estimates used in entering into fixed price contracts, difficulty in managing the operation and growth of existing and newly acquired businesses, the high level of competition in the construction industry and the effects of seasonality. The foregoing and other factors are discussed in our filings with the SEC including our Annual Report on Form 10-K for the year ended September 30, 2001. In response to the SEC's Release No. 33-8040, "Cautionary Advice Regarding Disclosure About Critical Accounting Policies," we have identified the accounting principles which we believe are most critical to our reported financial status by considering accounting policies that involve the most complex or subjective decisions or assessments. We identified our most critical accounting policies to be those related to revenue recognition and assessment of goodwill impairment. These accounting policies, as well as others, are described in the Notes to the Consolidated Financial Statements of our Annual Report on Form 10-K for the year ended September 30, 2001 and at relevant sections in this discussion and analysis. Our revenues are derived by providing specialty contracting services to the commercial and industrial and residential markets. Those markets comprise our reportable segments. We enter into contracts principally on the basis of competitive bids. We frequently negotiate the final terms and prices of those contracts with the customer. Although the terms of our contracts vary considerably, most are made on either a fixed price or unit price basis in which we agree to do the work for a fixed amount for the entire project (fixed price) or for units of work performed (unit price). We also perform services on a cost-plus or time and materials basis. We are generally able to achieve higher margins on fixed price and unit price than on cost-plus contracts. We currently generate, and expect to continue to generate, more than half of our revenues under fixed price contracts. The cost of labor and materials, however, may vary from the costs we originally estimated. Variations from estimated contract costs along with other risks inherent in 14 performing fixed price contracts may result in actual revenue and gross profits for a project differing from those we originally estimated and could result in losses on projects. Depending on the size of a particular project, variations form estimated project costs can have a significant impact on our operating results for any fiscal quarter or year. We believe our exposure to loss on fixed price contracts is limited in aggregate by the high volume and relatively short duration of the fixed price contracts we undertake. Additionally, we derive a significant amount of our revenues from new construction and from the southern part of the United States. Downturns in new construction activity or in construction in the southern United States could affect our results. We complete most projects within less than one year, while we frequently provide service and maintenance work under open ended, unit price master service agreements which are renewable annually. We recognize revenue when services are performed except when work is being performed under a construction contract. Such contracts generally provide that the customers accept completion of progress to date and compensate us for services rendered measured in terms of units installed, hours expended or some other measure of progress. Revenues from construction contracts are recognized on the percentage-of-completion method in accordance with the American Institute of Certified Public Accountants Statement of Position 81-1 "Accounting for Performance of Construction-Type and Certain Production-Type Contracts". Percentage-of-completion for construction contracts is measured principally by the percentage of costs incurred and accrued to date for each contract to the estimated total costs for each contract at completion. We generally consider contracts to be substantially complete upon departure from the work site and acceptance by the customer. Contract costs include all direct material and labor costs and those indirect costs related to contract performance, such as indirect labor, supplies, tools, repairs and depreciation costs. Changes in job performance, job conditions, estimated contract costs and profitability and final contract settlements may result in revisions to costs and income and the effects of these revisions are recognized in the period in which the revisions are determined. Provisions for total estimated losses on uncompleted contracts are made in the period in which such losses are determined. 15 RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED DECEMBER 31, 2000 COMPARED TO THE THREE MONTHS ENDED DECEMBER 31, 2001 The following table presents selected unaudited historical financial information for the three months ended December 31, 2000 and 2001.
Three Months Ended December 31, --------------------------------- 2000 % 2001 % ------- ---- ------- ---- (dollars in millions) Revenues ......................................... $ 427.0 100% $ 375.2 100% Cost of services (including depreciation) ........ 352.5 83% 318.0 85% ------- ---- ------- ---- Gross profit ............................. 74.5 17% 57.2 15% Selling, general & administrative expenses ....... 51.9 12% 49.7 13% Restructuring charge ............................. -- 0% 4.0 1% Goodwill amortization ............................ 3.3 1% -- 0% ------- ---- ------- ---- Income from operations ................... 19.3 4% 3.5 1% Interest and other expense, net .................. 6.0 1% 6.9 2% ------- ---- ------- ---- Income (loss) before income taxes and .... 13.3 3% (3.4) -1% cumulative effect of change in accounting principle Provision (benefit) for income taxes ............. 6.3 1% (1.6) 0% Cumulative effect of change in accounting principle, net of tax ................... -- 0% 283.3 75% ------- ---- ------- ---- Net income (loss) ........................ $ 7.0 2% $(285.1) -76% ======= ==== ======= ====
REVENUES
PERCENT OF TOTAL REVENUES --------------------------------- THREE MONTHS ENDED DECEMBER 31, --------------------------------- 2000 2001 ---------- ---------- Commercial and Industrial 85% 82% Residential 15% 18% ---------- ---------- Total Company 100% 100% ========== ==========
Total revenues decreased $51.8 million, or 12%, from $427.0 million for the three months ended December 31, 2000, to $375.2 million for the three months ended December 31, 2001. This decrease in revenues is primarily the result of non-recurring work performed for one customer during the three months ended December 31, 2000 and increased competition for available work during the three months ended December 31, 2001. Commercial and industrial revenues decreased $56.7 million, or 16%, from $364.7 million for the three months ended December 31, 2000, to $308.0 million for the three months ended December 31, 2001. This decrease is primarily the result of non-recurring work performed for one customer during the three months ended December 31, 2000 and decreased awards of 16 construction contracts at margins acceptable to us during the three months ended December 31, 2001. Residential revenues increased $4.8 million, or 8%, from $62.3 million for the three months ended December 31, 2000, to $67.1 million for the three months ended December 31, 2001, primarily as a result of increased awards of construction contracts in markets we serve. GROSS PROFIT
SEGMENT GROSS PROFIT MARGINS AS A PERCENT OF SEGMENT REVENUES -------------------------------- THREE MONTHS ENDED DECEMBER 31, ------------------------------- 2000 2001 ---------- ---------- Commercial and Industrial 17% 14% Residential 23% 21% ---------- ---------- Total Company 17% 15% ========== ==========
Gross profit decreased $17.3 million, or 23%, from $74.5 million for the three months ended December 31, 2000, to $57.2 million for the three months ended December 31, 2001. Gross profit margin as a percentage of revenues decreased approximately 2% from 17% for the three months ended December 31, 2000 to 15% for the three months ended December 31, 2001. This decrease in gross profit margin as a percentage of revenues was primarily the result of increased competition for available work and project fade recorded on fixed-price contracts at one of our subsidiaries during the three months ended December 31, 2001. Commercial and industrial gross profit decreased $17.2 million, or 29%, from $60.2 million for the three months ended December 31, 2000, to $43.0 million for the three months ended December 31, 2001. Commercial and industrial gross profit margin as a percentage of revenues decreased 3% from 17% for the three months ended December 31, 2000, to 14% for the three months ended December 31, 2001. This decrease in gross profit margin as a percentage of revenues was primarily due to increased competition for available work and project fade recorded on fixed-price contracts at one of our subsidiaries during the three months ended December 31, 2001. Residential gross profit decreased $0.1 million, or 1%, from $14.3 million for the three months ended December 31, 2000, to $14.2 million for the three months ended December 31, 2001. Residential gross profit margin as a percentage of revenues decreased 2% from 23% for the three months ended December 31, 2000, to 21% for the three months ended December 31, 2001. This decrease in gross profit margin as a percent of revenues is primarily the result of performing more lower margin multi-family work and single-family tract housing. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES Selling, general and administrative expenses decreased $2.2 million, or 4%, from $51.9 million for the three months ended December 31, 2000, to $49.7 million for the three months ended December 31, 2001. This decrease results from the elimination of certain administrative field 17 and home office personnel during the three months ended December 31, 2001. Selling, general and administrative expenses as a percentage of revenues increased from 12% for the three months ended December 31, 2000 to 13% for the three months ended December 31, 2001. This increase is a function of decreased revenues earned during the three months ended December 31, 2001, as compared to revenues earned during the three months ended December 31, 2000. RESTRUCTURING CHARGE In October 2001, we began implementation of a workforce reduction program. The purpose of this program was to reduce the number of administrative staff both in the field and in the home office. As a result of the program implementation, we recorded a pre-tax restructuring charge of $4.0 million during the quarter ended December 31, 2001. The charge was based on the cost of the workforce reduction program, including severance and other special termination benefits. INCOME FROM OPERATIONS Income from operations decreased $15.8 million, from $19.3 million for the three months ended December 31, 2000, to $3.5 million for the three months ended December 31, 2001. This decrease in income from operations was primarily attributed to decreased revenues year over year, decreased margins earned on those revenues and a $4.0 million restructuring charge incurred during the three months ended December 31, 2001. NET INTEREST AND OTHER EXPENSE Interest and other expense, net increased from $6.0 million for the three months ended December 31, 2000, to $6.9 million for the three months ended December 31, 2001, primarily as a result of increased interest expense on borrowings and a $0.3 million loss recorded on our equity investment in Energy Photovoltaics, Inc. PROVISION FOR INCOME TAXES We recorded a tax benefit 47.2% for the three months ended December 31, 2001. This benefit is the result of a loss before income taxes recorded during the three months ended December 31, 2001. During the three months ended December 31, 2000, we recorded a tax provision of 47.2%. LIQUIDITY AND CAPITAL RESOURCES As of December 31, 2001, we had cash and cash equivalents of $4.2 million, working capital of $242.3 million, outstanding borrowings under our credit facility of $19.0 million, $4.7 million of letters of credit outstanding, and available capacity under our credit facility of $126.3 million. The amount outstanding under our senior subordinated notes was $275.0 million. All debt obligations are on our balance sheet. We have no off balance sheet debt obligations. During the three months ended December 31, 2001, we used $4.2 million of net cash for operating activities. This net cash used in operating activities is comprised of a net loss of 18 $285.1 million, increased by $288.9 million of non-cash charges related primarily to the cumulative effect of change in accounting principle, depreciation expense, and non-cash compensation expenses and decreased by changes in working capital. Working capital changes consisted of a $31.5 million decrease in accounts payable and accrued expenses as a result of payments of year-end accruals, offset by a $7.3 million decrease in accounts receivable as a result of the timing of collections. Working capital changes also included an $11.7 million decrease in costs and estimated earnings in excess of billings on uncompleted projects, a $6.9 million increase in billings in excess of costs and estimated earnings on uncompleted contracts, and an increase in inventories of $5.6 million primarily related to inventory purchased for a contract, with the balance of the change due to other working capital changes. Net cash used in investing activities was $4.4 million, consisting primarily of $3.9 million used for capital expenditures and $0.4 million for investments in available for sale securities and other. Net cash provided by financing activities was $9.3 million, resulting primarily from borrowings, net of repayments under our credit facility. Debt Financing. We are party to a $150.0 million revolving credit facility with a syndicate of lending institutions to be used for working capital, capital expenditure, acquisitions and other corporate purposes that matures May 22, 2004, as amended through February 4, 2002. Amounts borrowed under our credit facility bear interest at an annual rate equal to either (a) the London interbank offered rate (LIBOR) plus 1.75 percent to 3.50 percent, as determined by the ratio of our total funded debt to EBITDA (as defined in our credit facility) or (b) the higher of (i) the bank's prime rate or (ii) the Federal funds rate plus 0.50 percent plus an additional 0.25 percent to 2.00 percent, as determined by the ratio of our total funded debt to EBITDA. Commitment fees of 0.50 percent are assessed on any unused borrowing capacity under our credit facility. Our existing and future subsidiaries guarantee the repayment of all amounts due under our facility, and our facility is secured by the capital stock of those subsidiaries, our accounts receivable and the accounts receivable of those subsidiaries. Borrowings under our credit facility are limited to 66 2/3% of outstanding receivables (as defined in the agreement). Our credit facility requires the consent of the lenders for acquisitions exceeding a certain level of cash consideration, prohibits the payment of cash dividends on our common stock, restricts our ability to repurchase shares of common stock, to incur other indebtedness and requires us to comply with various affirmative and negative covenants including certain financial covenants. Among other restrictions, the financial covenants include minimum net worth requirements, a maximum total consolidated funded debt to EBITDA ratio, a maximum senior consolidated debt to EBITDA ratio, and a minimum interest coverage ratio. We were in compliance with the financial covenants of our credit facility, as amended through February 4, 2002, at December 31, 2001. At February 11, 2002, we had outstanding borrowings of $10.0 million on our credit facility. We have $275.0 million in million senior subordinated notes. The notes bear interest at 9 3/8% and will mature on February 1, 2009. We pay interest on the notes on February 1 and August 1 of each year. The notes are unsecured senior subordinated obligations and are subordinated to all of our existing and future senior indebtedness. The notes are guaranteed on a senior subordinated basis by all of our subsidiaries. Under the terms of the notes, we are required to comply with various affirmative and negative covenants including (1) restrictions on additional indebtedness, and (2) restrictions on liens, guarantees and dividends. 19 All of our operating income and cash flows are generated by our wholly owned subsidiaries, which are the subsidiary guarantors of our outstanding senior subordinated notes. The separate financial statements of the subsidiary guarantors are not included herein because (i) the subsidiary guarantors are all of the direct and indirect subsidiaries of the Company; (ii) the subsidiary guarantors have fully and unconditionally, jointly and severally guaranteed the senior subordinated notes; (iii) the aggregate assets, liabilities, earnings, and equity of the subsidiary guarantors is substantially equivalent to the assets, liabilities, earnings and equity of the Company on a consolidated basis; and (iv) the presentation of separate financial statements and other disclosures concerning the subsidiary guarantors is not deemed material. In August 2001, we entered into an interest rate swap contract that has a notional amount of $100.0 million and was established to manage the interest rate risk of the senior subordinated note obligations. At September 30, 2001 and December 31, 2001, the fair value of this derivative was $3.2 million and $0.1 million, respectively and is included in other noncurrent assets. Under the hedge method of accounting for these types of derivatives, the change in the fair value of the interest rate swap contract is recorded with an offsetting adjustment to the carrying value of the hedged instrument and is thus included in the senior subordinated notes classification as of December 31, 2001. Borrowings outstanding on our credit facility and our senior subordinated notes and our interest rate swap contract expose us to significant risks. Our credit facility and interest rate swap contract expose us to risks associated with floating interest rates. Our senior subordinated notes are fixed interest rate obligations. The competitiveness of those fixed rates may impair our ability to retire those obligations at reasonable rates before maturity. Other Commitments. As is common in our industry, we have entered into certain off balance sheet arrangements that expose us to increased risk. Our significant off balance sheet transactions include liabilities associated with noncancelable operating leases, letter of credit obligations and surety guarantees. We enter into noncancelable operating leases for many of our vehicle and equipment needs. These leases allow us to retain our cash when we do not own the vehicles or equipment and we pay a monthly lease rental fee. At the end of the lease, we have no further obligation to the lessor. We may determine to cancel or terminate a lease before the end of its term. Typically we are liable to the lessor for various lease cancellation or termination costs and the difference between the then fair market value of the leased asset and the implied book value of the leased asset as calculated in accordance with the lease agreement. Some of our customers require us to post letters of credit as a means of guaranteeing performance under our contracts and ensuring payment by us to subcontractors and vendors. If our customer has reasonable cause to effect payment under a letter of credit, we would be required to reimburse our creditor for the letter of credit. Depending on the circumstances surrounding a reimbursement to our creditor, we may have a charge to earnings in that period. To date we have not had a situation where a customer has had reasonable cause to effect payment under a letter of credit. 20 Many of our customers require us to post performance and payment bonds issued by a surety. Those bonds guarantee the customer that we will perform under the terms of a contract and that we will pay subcontractors and vendors. In the event that we fail to perform under a contract or pay subcontractors and vendors, the customer may demand the surety to pay or perform under our bond. Our relationship with our surety is such that we will indemnify the surety for any expenses it incurs in connection with any of the bonds it issues on our behalf. To date, we have not incurred significant expenses to indemnify our surety for expenses it incurred on our behalf. We have committed to invest up to $5.0 million in EnerTech Capital Partners II, L.P. ("EnerTech"). EnerTech is a private equity firm specializing in investment opportunities emerging form deregulation and resulting convergence of the energy, utility and telecommunications industries. Through December 31, 2001, we had invested $1.5 million under our commitment to EnerTech. Our future contractual obligations include:
LESS THAN ONE YEAR 2003 2004 2005 2006 THEREAFTER TOTAL --------- -------- -------- -------- -------- ---------- -------- Debt and capital lease obligations ... $ 482 $ 1,272 $ 19,251 $ 95 $ 21 $ 275,000 $296,121 Operating lease obligations .......... $ 7,201 $ 8,496 $ 6,680 $ 4,718 $ 2,467 $ 3,210 $ 32,772
Our other commercial commitments expire as follows:
LESS THAN ONE YEAR 2003 2004 2005 2006 THEREAFTER TOTAL ---------- ------ ----- ----- ----- ---------- ------ Standby letters of credit ........ $ 890 $3,850 $ -- $ -- $ -- $ -- $4,740 Other commercial commitments ..... $ -- $ -- $ -- $ -- $ -- $ 3,500 $3,500
Outlook. Economic conditions across the country are challenging. We continue to focus on collecting receivables and reducing days sales outstanding. To improve our position for continued success, we have taken steps to reduce costs. We have made significant cuts in administrative overhead at the home office and in the field. We believe these cuts will result in savings of over $20 million as compared to the prior year. In connection with these cuts, we incurred a restructuring charge of $4.0 million during the quarter ended December 31, 2001. We expect to incur an additional restructuring charge of $0.9 million to $1.4 million during our quarter ended March 31, 2002. We expect to generate cash flow from operations. Our cash flows from operations tends to track the seasonality of our business and historically has improved in the latter part of our fiscal year. We anticipate that our cash flow from operations will provide sufficient cash to enable us to meet our working capital needs, debt service requirements and planned capital expenditures for property and equipment through the next twelve months. Additionally, we expect to generate enough cash flow from operations to repay borrowings currently outstanding on our credit 21 facility. Our ability to generate cash flow from operations is dependent on many factors, including: demand for our products and services, the availability of work at margins acceptable to us and the ultimate collectibility of our receivables. SEASONALITY AND QUARTERLY FLUCTUATIONS Our results of operations, particularly from residential construction, are seasonal, depending on weather trends, with typically higher revenues generated during the spring and summer and lower revenues during the fall and winter. The commercial and industrial aspect of our business is less subject to seasonal trends, as this work generally is performed inside structures protected from the weather. Our service business is generally not affected by seasonality. In addition, the construction industry has historically been highly cyclical. Our volume of business may be adversely affected by declines in construction projects resulting from adverse regional or national economic conditions. Quarterly results may also be materially affected by gross margins in both bid and negotiated projects, the timing of new construction projects and any acquisitions. Accordingly, operating results for any fiscal period are not necessarily indicative of results that may be achieved for any subsequent fiscal period. NEW ACCOUNTING PRONOUNCEMENTS Effective October 1, 2001, we adopted SFAS No. 142, "Goodwill and Other Intangible Assets," which establishes new accounting and reporting requirements for goodwill and other intangible assets. Under SFAS No. 142, all goodwill amortization ceased effective October 1, 2001. Goodwill amortization for the quarter ended December 31, 2001 would have otherwise been $3.2 million. Material amounts of recorded goodwill attributable to each of our reporting units were tested for impairment by comparing the fair value of each reporting unit with its carrying value. Fair value was determined using discounted cash flows, market multiples and market capitalization. These impairment tests are required to be performed at adoption of SFAS No. 142 and at least annually thereafter. Significant estimates used in the methodologies include estimates of future cash flows, future short term and long term growth rates, weighted average cost of capital and estimates of market multiples for each of the reportable units. On an ongoing basis (absent any impairment indicators), we expect to perform our impairment tests during our first fiscal quarter following our annual budgeting process. Based on our initial impairment tests, we recognized a charge of $283.3 million ($7.13 per share) in the first quarter of 2002 to reduce the carrying value of goodwill of our reporting units to their implied fair value. This impairment is a result of adopting a fair value approach, under SFAS No. 142, to testing impairment of goodwill as compared to the previous method utilized in which we made evaluations of goodwill impairment by using the estimated future undiscounted cash flows to the assets carrying amount. Under SFAS No. 142, the impairment adjustment recognized at adoption of the new rules was reflected as a cumulative effect of change in accounting principle in our first quarter 2002 income statement. Impairment adjustments recognized after adoption, if any, generally are required to be recognized as operating expenses. Historically, we have not disposed of any assets or incurred any asset impairments under SFAS No. 121. 22 In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144 supercedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of". SFAS No. 144 establishes a single accounting model for long-lived assets to be disposed of by sale and requires that those long-lived assets be measured at the lower of carrying amount or fair value less cost to sell, whether reported in continuing operations or in discontinued operations. SFAS No. 144 is effective for fiscal years beginning after December 15, 2001. We are in the process of assessing the impact that the adoption of this standard will have on our financial position and results of operations. Historically, we have not disposed of any assets or incurred any asset impairments under SFAS No. 121. 23 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Management is actively involved in monitoring exposure to market risk and continues to develop and utilize appropriate risk management techniques. We are not exposed to any significant market risks from commodity price risk or foreign currency exchange risk. Our exposure to significant market risks include outstanding borrowings under our floating rate credit facility and interest rate risks resulting from the use of an interest rate swap contract that we entered into in August 2001. Management does not use derivative financial instruments for trading purposes or to speculate on changes in interest rates or commodity prices. As a result, our exposure to changes in interest rates results from our short-term and long-term debt with both fixed and floating interest rates. The following table presents principal or notional amounts (stated in thousands) and related interest rates by year of maturity for our debt obligations and their indicated fair market value at December 31, 2001:
2002 2003 2004 2005 2006 THEREAFTER TOTAL ------- ------- ------- ------- ------- ------------ -------- Liabilities - Debt: Variable Rate (Credit Facility) .......... $ -- $ -- $19,000 $ -- $ -- $ -- $ 19,000 Average Interest Rate .................... 6.66% 6.66% 6.66% -- -- -- 6.66% Fixed Rate (senior subordinated notes).... $ -- $ -- $ -- $ -- $ -- $ 275,000 $275,000 Interest Rate ............................ 9.375% 9.375% 9.375% 9.375% 9.375% 9.375% 9.375% Fair Value of Debt: Variable Rate ............................ $ 19,000 Fixed Rate ............................... $241,313 Interest Rate Swap: Pay variable/receive fixed ............... $ -- $ -- $ -- $ -- $ -- $ 100,000 $100,000 Average rate paid (3-Month LIBOR plus 3.495) ............................ 5.72% 5.72% 5.72% 5.72% 5.72% 5.72% 5.72% Fixed rate received ...................... 9.375% 9.375% 9.375% 9.375% 9.375% 9.375% 9.357% Fair Value of Interest Rate Swap: $ 145
24 INTEGRATED ELECTRICAL SERVICES, INC. AND SUBSIDIARIES PART II. OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K A. EXHIBITS: 10.1 Amendment No. 3 dated February 4, 2002, to the Credit Facility dated May 22, 2001, among the Company, as borrower, the Financial Institutions named therein, as banks, Credit Lyonnais and the Bank of Nova Scotia as syndication agents, Toronto Dominion (Texas), Inc. as documentation agent and the Chase Manhattan Bank, as administrative agent. B. REPORTS ON FORM 8-K: A report on Form 8-K was filed with the SEC on December 21, 2001, in connection with a press release issued on December 20, 2001. 25 INTEGRATED ELECTRICAL SERVICES, INC. AND SUBSIDIARIES 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, who has signed this report on behalf of the Registrant and as the principal financial officer of the Registrant. INTEGRATED ELECTRICAL SERVICES, INC. Date: February 14, 2002 By: /s/ William W. Reynolds ------------------------------ William W. Reynolds Executive Vice President and Chief Financial Officer 26 INDEX TO EXHIBITS
EXHIBIT NUMBER DESCRIPTION ------- ----------- 10.1 Amendment No. 3 dated February 4, 2002, to the Credit Facility dated May 22, 2001, among the Company, as borrower, the Financial Institutions named therein, as banks, Credit Lyonnais and the Bank of Nova Scotia as syndication agents, Toronto Dominion (Texas), Inc. as documentation agent and the Chase Manhattan Bank, as administrative agent.