-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, LYV0dN2HHLcksLpgPWVAzNz70vdMQb64zahoSXOtJuyUTFKFM9twoHJ4xv4cxz7S AhoXDugNryM0B9lNKzd6XA== 0000806027-97-000004.txt : 19970328 0000806027-97-000004.hdr.sgml : 19970328 ACCESSION NUMBER: 0000806027-97-000004 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19961231 FILED AS OF DATE: 19970327 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: SERVICEMASTER LTD PARTNERSHIP CENTRAL INDEX KEY: 0000806027 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-MANAGEMENT SERVICES [8741] IRS NUMBER: 363497008 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 001-09378 FILM NUMBER: 97565520 BUSINESS ADDRESS: STREET 1: ONE SERVICEMASTER WAY CITY: DOWNERS GROVE STATE: IL ZIP: 60515 BUSINESS PHONE: 7089641300 10-K 1 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K Annual Report Pursuant To Section 13 Or 15(d) Of The Securities Exchange Act of 1934 For the fiscal year ended December 31, 1996. Commission File number 1-9378 SERVICEMASTER LIMITED PARTNERSHIP (Exact Name of Registrant as Specified in its Certificate) Delaware 36-3497008 -------- ---------- (State or Other (I.R.S. Employer Jurisdiction of Identification No.) Incorporation or Organization) One ServiceMaster Way, Downers Grove, Illinois 60515-9969 - ---------------------------------------------- --------- (Address of Principal Executive Offices) (Zip Code) Registrant's telephone number, including area code: (630) 271-1300 Securities registered pursuant to Section 12(b) of the Act: Name of Each Exchange Title of Each Class On Which Registered ------------------- --------------------- Partnership Shares New York Stock Exchange Securities registered pursuant to Section 12(g) of the Act: None 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 Aggregate Market Value of Shares Held by NonAffiliates of the Registrant As of March 25, 1997 was $3,865,041,000. DOCUMENTS INCORPORATED BY REFERENCE Certain parts of the Registrant's Annual Report to Shareholders for the year ended December 31, 1996 are incorporated into Part I, Part II and Part IV of this Form 10-K. PART I Item 1. Business The Company This annual report on Form 10-K is filed by ServiceMaster Limited Partnership (hereinafter sometimes called the "Registrant"). The Registrant and its immediate subsidiary, The ServiceMaster Company Limited Partnership, were formed in December 1986 as limited partnerships under the laws of the State of Delaware to succeed to the business and assets of ServiceMaster Industries Inc. The Registrant and The ServiceMaster Company, together with all other entities affiliated with these two limited partnerships and the Registrant's predecessor organization, are hereinafter referred to as "ServiceMaster" or the "Company" or the "ServiceMaster enterprise". The Registrant is a holding company whose limited partner shares are listed on the New York Stock Exchange and whose principal asset consists of all of the common limited partner interest in The ServiceMaster Company. Until January 31, 1992, the Registrant had both individual general partners and one corporate general partner. In January 1992, the shareholders of the Registrant approved an amendment of the Registrant's agreement of limited partnership under which the structure of the Registrant was changed by the withdrawal of the three individual general partners and the admission of ServiceMaster Corporation as a special general partner. These changes are described further under the caption "The 1992 Reorganization". The two principal operating groups of the ServiceMaster business are Consumer Services and Management Services, each of which is organized as a separate limited partnership. ServiceMaster Consumer Services Limited Partnership was formed in the summer of 1990, and ServiceMaster Management Services Limited Partnership was formed in December 1991. All subsidiaries of The ServiceMaster Company are wholly owned. All subsidiaries of ServiceMaster Consumer Services L.P. are wholly owned and all subsidiaries of ServiceMaster Management Services L.P. are wholly owned. The 1992 Reorganization On January 13, 1992, the shareholders of the Registrant approved a "Reorganization Package" consisting of a comprehensive amendment and restatement of the Registrant's partnership agreement and a merger by which the Registrant can convert to corporate form. Current tax law effectively requires such conversion to occur at the end of December 1997; however, pursuant to the Reorganization Package, the board of directors of the Registrant's general partner has the authority to decide to accelerate the conversion date to a date prior to December 31, 1997. The best interests of the Registrant's shareholders will be the determinative consideration in selecting a conversion date. As a result of the approval of the Reorganization Package, ServiceMaster Corporation was admitted as a Special General Partner of the Registrant to serve as a vehicle through which institutional investors could be offered opportunities to invest in ServiceMaster through the acquisition of a corporate security. If shares of stock were to be issued by ServiceMaster Corporation ("Corporate Shares"), the Corporate Shares would indirectly represent the same percentage interest in the Registrant as was then represented by each limited partner share in ServiceMaster. At the present time there are no plans to issue stock of ServiceMaster Corporation. The merger agreement which was approved as part of the Reorganization Package provides for the merger by which ServiceMaster expects to return to corporate form (the "Reincorporating Merger"). A Delaware corporation (the "Successor Corporation") has been organized to become the successor entity through which the public will invest in ServiceMaster after the Reincorporating Merger. The limited partner shares of the Registrant will be converted on a one-forone basis into new shares of common stock of the Successor Corporation. As a result of these conversions, the Successor Corporation will be entirely owned by the persons who, collectively, owned all of the limited partner shares of the Registrant immediately prior to the Reincorporating Merger. 1 The Reorganization Package included certain changes in the identity of and the capital contribution requirements for the general partners of the Registrant. These changes were effected on January 31, 1992. On that date, ServiceMaster Management Corporation became the sole general partner of the Registrant and of The ServiceMaster Company with sole management authority with respect to these partnerships and the amount of independent capital required to be maintained by ServiceMaster Management Corporation was reduced to $15 million. For further information concerning the changes effected by the 1992 Reorganization, see the discussion captioned "Description of the Structure of the ServiceMaster Enterprise" beginning on page 11. June 1996 Share Split In June 1996, the Registrant completed a 3-for-2 split of its limited partner shares. When transactions in or tabulations of the Registrant's shares are set forth in subsequent sections of this Form 10-K, effect has been given to the share split. 1995 and 1997 Transactions with WMX Technologies, Inc. 1995 Transaction. On December 31, 1995, the Registrant completed a transaction with WMI Urban Services, Inc. ("WMUS"), a wholly owned subsidiary of WMX Technologies, Inc. ("WMX") in which WMUS contributed its 27.76% interest in ServiceMaster Consumer Services L.P. to the Registrant and, in exchange therefor, the Registrant issued to WMUS 27,160,714 unregistered limited partner shares of the Registrant and an option to purchase an additional 1,875,000 shares of the Registrant's limited partner shares at a price of $22.00 per share at any time and from time to time during the period January 1, 1997 to December 31, 2000. This issuance of limited partner shares to WMUS increased the Registrant's total shares outstanding to approximately 142,800,000. The shares held by WMX (through WMUS) immediately after the foregoing exchange transaction constituted approximately 19% of the Registrant's total shares outstanding. Concurrently with the foregoing exchange transaction, the Registrant and WMX entered into an agreement under which WMX committed not to increase its ownership interest in the Registrant to more than 21% through purchases of the Registrant's shares. The shares which WMUS received on December 31, 1995 together with the shares which WMUS could acquire under the option were not registered under the Securities Act of 1933 and were made subject to a number of other restrictions on transfer, including commitments by WMX and WMUS: not to sell at any one time any of such shares in public market transactions in a number in excess of 15% of the average daily trading volume of the Registrant's shares over the preceding four calendar weeks; not to sell such shares to anyone who is or would become, as a result of the sale, an owner of more than 5% of the Registrant's outstanding shares; not to attempt to or propose or endorse a takeover of the Registrant; not to vote such shares in favor of a takeover which is opposed by the Registrant's board of directors; and not to oppose candidates for the Registrant's board of directors who are nominated by a majority of the incumbent ServiceMaster directors. In addition, the Registrant retained a first refusal right by which the Registrant could elect to acquire, at then current prices, any shares that WMX or WMUS might desire to sell. The foregoing is a brief summary of the major provisions of the agreements entered into among the Registrant, WMX and WMUS on December 31, 1995. Such agreements are described in further detail in the Registrant's Form 8-K dated January 15, 1996 and filed with the Securities and Exchange Commission on that date. The contents of such Form 8-K and the exhibits thereto are incorporated herein by reference. 1997 Transaction. On February 18, 1997, WMX, WMUS and the Registrant entered into an agreement under which the Registrant agreed to purchase from WMUS, for the sum of $625,978,141 all of the 27,160,714 restricted shares of the Registrant owned by WMUS and the option to purchase an additional 1,875,000 shares of the 2 Registrant. The agreement provides that this transaction is to be closed not earlier than April 1, 1997 and not later than April 14, 1997. The option will be canceled as part of this transaction. The Registrant intends to initially finance the share and option repurchase with short-term bank financing. The Registrant currently anticipates that, subject to market conditions, approximately 50% of the costs of the transaction with WMUS and WMX and the acquisition of the stock of Barefoot Inc. (hereinafter described) will be refinanced through equity issuances within the next two years. The foregoing is a brief summary of the 1997 transaction with WMUS and WMX. Such transaction is described in further detail in the Registrant's Form 8-K dated February 18, 1997 and filed with the Securities and Exchange Commission on February 19, 1997. The contents of such Form 8-K and the exhibit thereto are incorporated herein by reference. Principal Business Groups ServiceMaster is functionally divided into four operating groups: Consumer Services, Management Services, Diversified Health Services and International. Consumer Services and Management Services are the two principal operating groups. Reference is made to the information under the caption "Business Unit Reporting" on page 37 of the ServiceMaster Annual Report to Shareholders for 1996 (the "1996 Annual Report") for detailed financial information on these two groups. Trademarks and Service Marks; Franchises The Company's trademarks and service marks are important for all elements of the Company's business, although such marks are particularly important in the advertising and franchising activities conducted by the operating subsidiaries of ServiceMaster Consumer Services L.P. Such marks are registered and are renewed at each registration expiration date. Within ServiceMaster Consumer Services, franchises are important for the TruGreen-ChemLawn, Terminix, ServiceMaster Residential/Commercial, and Merry Maids businesses. Nevertheless, revenues and profits derived from franchise related activities constitute less than 10% of the revenue and profits of the consolidated ServiceMaster enterprise. Franchise agreements made in the course of these businesses are generally for a term of five years. ServiceMaster's renewal history is that most of the franchise agreements which expire in any given year are renewed. Consumer Services ServiceMaster Consumer Services provides specialty services to homeowners and commercial facilities through seven companies: TruGreen L.P. ("TruGreen-ChemLawn"); The Terminix International Company L.P. ("Terminix"); ServiceMaster Residential/Commercial Services L.P. ("Res/Com"); Merry Maids L.P. ("Merry Maids"); American Home Shield Corporation ("American Home Shield" or "AHS"); AmeriSpec, Inc. ("AmeriSpec"); and Furniture Medic L.P. ("Furniture Medic"). The services provided by these companies include: lawn care, tree and shrub services and indoor plant maintenance services under the "TruGreen", "ChemLawn" and "Barefoot" service marks; termite, pest control and radon testing services under the "Terminix" service mark; residential and commercial cleaning and disaster restoration services under the "ServiceMaster" service mark; domestic housekeeping services under the "Merry Maids" service mark; and home systems and appliance warranty contracts under the "American Home Shield" service mark; home inspection services under the "AmeriSpec" service mark; and on-site furniture repair and restoration under the "Furniture Medic" service mark. The services provided by the seven Consumer Services companies are part of the ServiceMaster "Quality Service Network" and are accessed by calling a single toll-free telephone number: 1-800-WE SERVE. ServiceMaster focuses on establishing relationships to provide one or more of these services on a repetitive basis to customers. Since 1986, the number of domestic customers served by ServiceMaster Consumer Services has increased from fewer than one million customers to more than 6.5 million customers. 3 The International unit is primarily responsible for overseeing the Consumer Services businesses which are conducted in foreign markets. TruGreen-ChemLawn. TruGreen-ChemLawn is a wholly owned subsidiary of ServiceMaster Consumer Services L.P. As of March 21, 1997, TruGreen-ChemLawn had 198 company owned branches and 126 franchised branches (determined after giving effect to the Barefoot transaction described below). With over 3 million residential and commercial customers, TruGreen-ChemLawn is the leading provider of lawn care services in the United States. TruGreen- ChemLawn also provides lawn, tree and shrub care services in Saudi Arabia through a licensing arrangement and in Canada through an affiliate. TruGreen-ChemLawn also provides interior plantscape services to commercial customers. The TruGreen-ChemLawn businesses are seasonal in nature. On February 24, 1997, the Registrant, for the benefit of TruGreen-ChemLawn, completed the acquisition of 99.38% of the outstanding stock of Barefoot Inc.("Barefoot") through a tender offer. On February 26, 1997, the remaining 0.62% of the Barefoot stock was acquired through a statutory merger. In these transactions, Barefoot stockholders collectively received approximately $84,800,000 in cash and 5,747,370 limited partner shares of the Registrant. For purposes of these transactions, the Barefoot stock was valued at $16.00 per share and the Registrant's shares were valued at $25.40833 per share. The aggregate value of the Barefoot transaction (including the amount paid in redemption of the Barefoot shareholders rights plan) was approximately $232,000,000. At the time of the transaction, Barefoot was the second largest provider of professional lawn care services in the United States. Terminix. Terminix is a wholly owned subsidiary of ServiceMaster Consumer Services L.P. With over 3 million residential and commercial customers, Terminix, through its company-owned branches and through franchisees, is the leading provider of termite and pest control services in the United States. As of December 1996, Terminix was providing these services through 316 company-owned branches in 41 states and Mexico and through 250 franchised branches in 27 states. Terminix also provides termite and pest control services in Japan, Taiwan, Indonesia, Turkey, Lebanon, Saudi Arabia, Oman, the Bahamas, Dominican Republic, Jamaica, and Puerto Rico through licensing arrangements with local licensees. It provides the same services through subsidiaries in Belgium, the Netherlands, Norway, Sweden, Ireland, the United Kingdom, Germany and Mexico. The Terminix business is seasonal in nature. Res/Com. Res/Com is a wholly owned subsidiary of ServiceMaster Consumer Services L.P. ServiceMaster, through Res/Com, is the leading franchisor in the United States in the residential and commercial cleaning field. Res/Com provides carpet and upholstery cleaning and janitorial services, disaster restoration services and window cleaning services to over 1.6 million residential and commercial customers worldwide through a network of over 4,500 independent franchisees. Res/Com provides its services through subsidiaries in Germany, Ireland and the United Kingdom, through an affiliate in Canada, and through licensees in Australia, New Zealand, Austria, Brazil, Finland, Lebanon, the Philippines, Spain, Thailand, Turkey, Saudi Arabia, Korea, and Japan. Merry Maids. Merry Maids is a wholly owned subsidiary of ServiceMaster Consumer Services Limited Partnership. Merry Maids is the organization through which ServiceMaster provides domestic house cleaning services. With approximately 225,000 customers, Merry Maids is the leading provider of domestic house cleaning services in the United States. As of December 31, 1996, these services were provided through 27 company-owned branches in 18 states and through 836 licensees operating in 49 states. Merry Maids also provides domestic housecleaning services in the United Kingdom through a subsidiary, in Canada through an affiliate and in Japan, Saudi Arabia, Denmark, Lebanon and Australia through licensing arrangements with local service providers. American Home Shield. As a result of the merger of SVM Holding Corp., a wholly owned subsidiary of ServiceMaster Consumer Services L.P., into AHS on December 31, 1996, AHS became on that date a wholly owned subsidiary of ServiceMaster Consumer Services L.P. AHS is a leading provider of home service warranty contracts in the United States, providing homeowners with contracts covering the repair or replacement of built-in appliances, hot water heaters and electrical, plumbing, central heating, and central air conditioning systems which malfunction by 4 reason of normal wear and tear. Service contracts are presently sold principally through participating real estate brokerage offices in conjunction with resales of single-family residences to homeowners. AHS also sells service warranty contracts directly to non-moving homeowners through various other distribution channels which are currently being expanded. As of December 31, 1996, AHS was providing services to approximately 503,000 homes through approximately 13,000 independent repair maintenance contractors in 49 states and the District of Columbia, with operations in California, Texas and Arizona accounting for 25%, 24% and 7%, respectively, of AHS' gross contracts written. AHS also provides home service warranty contracts in Japan, Lebanon and Saudi Arabia through licensing arrangements with local service providers. AmeriSpec. AmeriSpec is a wholly owned subsidiary of AHS. AHS acquired AmeriSpec in February 1996. AmeriSpec is a leading provider of home inspection services in the United States. During 1996, AmeriSpec conducted 85,000 home inspections in 41 states and Canada, with operations in California, Illinois and New York accounting for 23%, 5%, and 5%, respectively, of AmeriSpec's gross number of inspections. AmeriSpec provides home inspection services in Canada through licensing arrangements with local service providers. Furniture Medic. Furniture Medic is a wholly owned subsidiary of ServiceMaster Consumer Services L.P. Consumer Services acquired Furniture Medic in July 1996. Furniture Medic provides on-site furniture repair and restoration services in all 50 states. As of December 31, 1996, these services were provided through 549 licensees. Furniture Medic also provides its services in Brazil and France through licensing arrangements with local service providers and in Canada through an affiliate. Management Services ServiceMaster pioneered the providing of supportive management services to health care facilities by instituting housekeeping management services in 1962. Since then, ServiceMaster has expanded its management services business such that it now provides a variety of supportive management services to health care, education and business and industrial customers (including the management of housekeeping, plant operations and maintenance, laundry and linen, grounds and landscaping, clinical equipment maintenance, food service, energy management, and total facility management). ServiceMaster's general programs and systems free the customer to focus on its core business activity with confidence that the support services are being managed and performed in an efficient manner. Management Services is organized into three discrete operating units each providing a separate functional service on a nationwide basis. These units are: Healthcare Management Services; Education Management Services; and Business and Industry Management Services. Effective January 1, 1996, the services provided by the Healthcare Management Services unit and the services provided by ServiceMaster Diversified Health Services Group (described below) were integrated so as to provide a coordinated range of services to the health care market. As of December 31, 1996, ServiceMaster was providing supportive management services to more than 2,500 health care, educational and commercial facilities. These services were being provided in all 50 states and the District of Columbia. Outside of the United States, ServiceMaster was providing management services through a subsidiary in Japan, through affiliated companies in Canada, Japan, Germany, Mexico, and the United Kingdom, and through licensees in Korea, Australia, Austria, New Zealand, Singapore, Taiwan, Hong Kong, Czech Republic, Slovakia, Switzerland, Chile, Japan, Malaysia, the Philippines, Spain and several countries in the Middle East. The International unit is responsible for overseeing the management services which are provided in foreign markets. The integration of ServiceMaster Healthcare Management Services and ServiceMaster Diversified Health Services under the name "ServiceMaster Healthcare Services" is expected to increase the ability of the Registrant to deliver services across the broad spectrum of customer needs in the various segments of the healthcare market. These segments include acute care hospitals, long-term care, assisted living facilities, hospice and home health care. As of January 1, 1997, ServiceMaster Healthcare Services was serving approximately 1,800 customers. 5 ServiceMaster Diversified Health Services ServiceMaster Diversified Health Services, Inc., ServiceMaster Diversified Health Services L.P. and their respective subsidiaries and ServiceMaster Home Health Care Services (collectively, the "ServiceMaster Diversified Health Services Companies") form a comprehensive health services organization which provides: management services to freestanding, hospital based, and government owned nursing homes, skilled nursing facilities, and assisted living facilities; management services to hospital-based home health care agencies (as well as the direct operation of freestanding home health care agencies); design, development, refurbishing and construction consulting services to long- term care facilities; hospice services; rehabilitation services; the sale of various medical products and supplies, and pharmacy management. As of December 31, 1996, the ServiceMaster Diversified Health Services Companies had management services contracts with over 140 facilities in 27 states with a total of approximately 15,000 beds. Effective January 1, 1996, the services provided by Diversified Health Services Companies and the services provided by the Healthcare Management Services unit were integrated so as to provide a coordinated range of services to the health care market. International The International unit oversees the performance of supportive management services and consumer services in international markets through licensing arrangements, ownership of foreign operating companies acquired by ServiceMaster and joint ventures. In the Spring of 1994, ServiceMaster made a strategic decision to expand its pest control business into Europe through the acquisition of existing pest control companies. In August 1994, International organized TMX-Europe B.V., a Netherlands limited company ("TMX-Europe"), as a subsidiary of The ServiceMaster Company to serve as a holding company for acquisitions of pest control businesses in the United Kingdom and Europe. As a result of acquisitions made during 1994 and thereafter, TMX-Europe currently owns controlling interests in Terminix Peter Cox Ltd., a leading pest control and wood preservation company in the United Kingdom; Terminix Protekta B.V. and Riwa B.V., each a leading pest control company in the Netherlands; Anticimex Development AB, a holding company for the leading pest control company in Sweden; and the Stenglein group of pest control companies in Germany. ServiceMaster is a 50% partner in joint ventures in England and Germany. The English joint venture (Tarmac/ServiceMaster) was established in January 1995 to provide facility management services in the United Kingdom. The German joint venture (Raab Karcher/ServiceMaster) was established in April 1996 to provide facility management services in Germany, Austria and Switzerland. Other Activities Supporting Departments. ServiceMaster has various departments responsible for technical, engineering, management information, planning and market services, and product and process development activities. Various administrative support departments provide personnel, public relations, administrative, education, accounting, financial and legal services. Manufacturing Division. ServiceMaster has a manufacturing division which formulates, combines and distributes supplies, products and equipment that are used internally in providing management services to customers and which are sold to licensees for use in the operation of their businesses. ServiceMaster has an insignificant share of the market for the manufacture and distribution of cleaning equipment, chemicals and supplies. Venture Fund. In August 1995, the Registrant established ServiceMaster Venture Fund L.L.C. (the "Fund") with the objective of establishing a mechanism within the ServiceMaster enterprise to invest in emerging growth companies which show an ability to provide innovative service technologies to the Registrant's current and new customers. The Fund is to be managed so as not to be intrusive to the ongoing operations of the Registrant's operating units. At December 31, 1996, the Fund had invested a total of $6.385 million in three companies. 6 Industry Position, Competition and Customers The following information is based solely upon estimates made by the management of ServiceMaster and cannot be verified. In considering ServiceMaster's industry and competitive positions, it should be recognized that ServiceMaster competes with many other companies in the sale of its services, franchises and products and that some of these competitors are larger or have greater financial and marketing strength than ServiceMaster. The principal methods of competition employed by ServiceMaster in the Consumer Services business are name recognition, assurance of customer satisfaction and history of providing quality services to homeowners. The principal methods of competition employed by ServiceMaster in each of the operating units in the Management Services business are price, quality of service and history of providing management services. The principal methods of competition employed by ServiceMaster in the Diversified Health Services business are name recognition, price, quality of services and history of providing management services. Consumer Services Consumer Services subsidiaries provide a variety of residential and commercial services under their respective names on the basis of their and ServiceMaster's reputation, the strength of their service marks, their size and financial capability, and their training and technical support services. The markets served by Terminix and TruGreen-ChemLawn are seasonal in nature. Lawn Care Services. TruGreen-ChemLawn, both directly and through franchisees, provides lawn care services to residential and commercial customers. Competition within the lawn care market is strong, coming mainly from regional and local, independently owned firms and from homeowners who elect to care for their lawns through their own personal efforts. TruGreenChemLawn is the leading national lawn care company within this market. In 1995, TruGreenChemLawn initiated a business to provide indoor plant maintenance to commercial customers. Lawn care services are regulated by law in most of the states in which TruGreen-ChemLawn provides such services. These laws require licensing which is conditional on a showing of technical competence and adequate bonding and insurance. The lawn care industry is regulated at the federal level under the Federal Insecticide, Fungicide and Rodenticide Act, and lawn care companies (such as TruGreenChemLawn) which apply herbicides and pesticides are regulated under the Federal Environmental Pesticide Control Act of 1972. Such laws, together with a variety of state and local laws and regulations, may limit or prohibit the use of certain herbicides and pesticides, and such restrictions may adversely affect the business of TruGreen ChemLawn. Termite and Pest Control Services. The market for termite and pest control services to commercial and residential customers includes many competitors. Terminix is the leading national termite and pest control company within this market. Competition within the termite and pest control market is strong, coming mainly from regional and local, independently owned firms throughout the United States and from one other large company which operates on a national basis. Termite and pest control services are regulated by law in most of the states in which Terminix provides such services. These laws require licensing which is conditional on a showing of technical competence and adequate bonding and insurance. The extermination industry is regulated at the federal level under the Federal Insecticide, Fungicide and Rodenticide Act, and pesticide applicators (such as Terminix) are regulated under the Federal Environmental Pesticide Control Act of 1972. Such laws, together with a variety of state and local laws and regulations, may limit or prohibit the use of certain pesticides, and such restrictions may adversely affect the business of Terminix. House Cleaning Services. The market for domestic house cleaning services is highly competitive. In urban areas the market involves numerous local companies and a few national companies. ServiceMaster believes that its share of the total potential market for such services is small and that there is a significant potential for further 7 expansion of its housecleaning business through continued internal expansion and greater penetration of the housecleaning market. Through its franchisees, ServiceMaster has a small share of the market for the cleaning of residential and commercial buildings. Home Systems and Appliance Warranty Contracts. The market for home systems and appliance warranty contracts is relatively new. ServiceMaster believes that AHS maintains a favorable position in its industry due to the system developed and used by AHS for accepting, dispatching and fulfilling service calls from homeowners through a nationwide network of independent contractors. AHS also has a computerized information system developed and owned by AHS, and an electronic digital voice communication system through which AHS handled more than 8.0 million calls in 1996. Home Inspection Services. AmeriSpec (acquired by AHS in February 1996) is the leading provider of home inspection services in the United States. Competition within this market is strong, coming mainly from regional and local, independently owned firms. Furniture Repair Services. The market for on-site furniture repair services is relatively new. ServiceMaster believes that Furniture Medic (acquired by Consumer Services in July 1996) maintains a favorable position in its industry due to its patented environmentally sensitive procedure for repairing furniture in the customer's home. Management Services Health Care. Within the market consisting of general health care facilities having 50 or more beds, ServiceMaster is the leading supplier of plant operations and maintenance, housekeeping, clinical equipment maintenance, and laundry and linen management services. As of December 31, 1996, ServiceMaster was serving in approximately 1,800 health care facilities. The majority of health care facilities within this market not currently served by ServiceMaster assume direct responsibility for managing their own non-medical support functions. ServiceMaster believes that its management services for health care facilities may expand by the addition of facilities not presently served, by initiating additional services at facilities which use only a portion of the services now offered, by the development of new services and by growth in the size of facilities served. At the same time, industry consolidation, changes in use and methods of health care delivery and payment for services continue to affect the health care environment. As described on page 5, effective January 1, 1996, ServiceMaster Healthcare Management Services was integrated with ServiceMaster Diversified Health Services to form ServiceMaster Healthcare Services. Education. ServiceMaster is a leading provider to the education market of maintenance, custodial and grounds services. The facilities which comprise the education market served by ServiceMaster include primary schools, secondary schools and school districts, private specialty schools and colleges and universities. As of December 31, 1996, ServiceMaster was serving in approximately 300 educational facilities. ServiceMaster believes there is potential for expansion in the education market due to its current relatively low penetration of that market and the trend of educational facilities to consider outsourcing more of their service requirements. However, a majority of the educational facilities continue to assume direct responsibility for managing their support functions. Business and Industry. ServiceMaster is a leading provider of plant operations and maintenance, custodial and grounds management services to business and industrial customers. ServiceMaster believes that there is potential for expansion in those business and industrial markets which ServiceMaster has elected to emphasize due to ServiceMaster's low current penetration of those markets and the trend of business to consider outsourcing more of their service requirements and the trend of governmental units to privatize parts of their operations. The emphasized markets include the food processing, transportation, healthcare products, and automotive markets. As of December 31, 1996, ServiceMaster was serving in approximately 200 business or industrial facilities. 8 Diversified Health Services At December 31, 1996, the ServiceMaster Diversified Health Services Companies constituted the nation's twelfth largest long term care company based on the number of beds served and the largest company that was primarily a management services company (as distinguished from a real estate operator). It was also a major provider of planning and design services for long term care facilities and for acute care hospitals. At December 31, 1996, ServiceMaster Home Health Care Services was a provider of management services to hospital affiliated home health care agencies. The number of free standing home health care agencies operated by ServiceMaster Home Health Care Services represented a very small percentage of home health care agencies in the United States. As described on page 5, effective January 1, 1996, ServiceMaster Diversified Health Services was integrated with ServiceMaster Healthcare Management Services to form ServiceMaster Healthcare Services. International The pest control companies acquired by ServiceMaster through its European holding company (TMX-Europe B.V.) give ServiceMaster a significant participation in the pest control business in the European market. ServiceMaster believes that there is potential for expansion of this business in both the United Kingdom and elsewhere on the European continent. Major Customers. ServiceMaster has no single customer which accounts for more than 10% of its total revenues. No part of the Company's business is dependent on a single customer or a few customers the loss of which would have a material adverse effect on the Company as a whole. Revenues from governmental sources are not material. Employees On December 31, 1996, ServiceMaster had a total of approximately 39,900 employees. ServiceMaster provides its employees with annual vacation, medical, hospital and life insurance benefits and the right to participate in additional benefit plans which are described in the Notes to Financial Statements included in the 1996 Annual Report. 9 STRUCTURE OF SERVICEMASTER [See Graphics Appendix, p. 69] 10 DESCRIPTION OF THE STRUCTURE OF THE SERVICEMASTER ENTERPRISE Organization and Structure of the Parent Companies Until December 30, 1986, the ServiceMaster business was conducted by ServiceMaster Industries Inc. On December 30, 1986, ServiceMaster was reorganized into a limited partnership with the following results, among others: ServiceMaster Limited Partnership became the parent unit in the ServiceMaster enterprise, with one limited partnership share in ServiceMaster Limited Partnership being issued to replace every then outstanding share of common stock issued by ServiceMaster Industries Inc., and The ServiceMaster Company Limited Partnership was established as the principal operating subsidiary of ServiceMaster Limited Partnership. Until January 31, 1992, the general partners in ServiceMaster Limited Partnership and The ServiceMaster Company were ServiceMaster Management Corporation, which served as the managing general partner, and three individual general partners. On January 31, 1992, the three individual general partners withdrew and became stockholders of ServiceMaster Management Corporation, leaving ServiceMaster Management Corporation as the sole general partner having management authority in the two principal partnerships and, as further discussed below, the sole general partner having an interest in the 1% carried interest reserved to the general partners of the two partnerships. Since January 1, 1987, the general partners have collectively held a 1% interest in all profits and losses of ServiceMaster Limited Partnership and of The ServiceMaster Company, in each case limited to profits and losses generated since that date. Following the withdrawal of the individual general partners on January 31, 1992, the entire 1% interest in the profits and losses of each of ServiceMaster Limited Partnership and The ServiceMaster Company has been held by ServiceMaster Management Corporation. These separate interests constitute an aggregate interest of approximately 2% of the consolidated income and losses of the ServiceMaster business. The Board of Directors of ServiceMaster Management Corporation has the ultimate power to govern the ServiceMaster business. A majority of the positions on the Board are reserved for independent directors. Although the stock of ServiceMaster Management Corporation is owned by members of ServiceMaster management, the stockholders have entered into voting trust arrangements under which the incumbent members of the Board have the right to determine the persons who will be elected to the Board each year. These arrangements were not altered by the 1992 Reorganization. Although the owners of the outstanding limited partner shares issued by ServiceMaster Limited Partnership do not have the right to vote directly for the directors of ServiceMaster Management Corporation, they do have the right to replace ServiceMaster Management Corporation as the managing general partner by voting the percentages of their shares prescribed in the Partnership Agreement in favor of such replacement (provided, however, that certain opinions of counsel are obtained). The holders of the outstanding shares of ServiceMaster Limited Partnership accordingly retain the ultimate right to select ServiceMaster management. The 1992 Reorganization (ServiceMaster Corporation and ServiceMaster Incorporated of Delaware) Reference is made to the discussion on page 1 for the background of the 1992 Reorganization. As a result of the approval of the Reorganization Package on January 13, 1992, ServiceMaster Corporation was admitted as a Special General Partner of the Registrant on January 31, 1992. As of March 15, 1997, no shares of stock of ServiceMaster Corporation had been issued and the corporation remains dormant. Also as a result of the approval of the Reorganization Package on January 13, 1992, ServiceMaster Incorporated of Delaware was created to serve as the successor to the Registrant following the Reincorporating Merger. When the successor corporation is activated, which is expected to occur at the end of 1997, it will become the publicly traded parent company for the ServiceMaster enterprise. 11 Organization and Structure of Consumer Services ServiceMaster Consumer Services Limited Partnership ("SMCS") provides a separate identity for the Consumer Services business. SMCS is a holding company for all of the operating groups which comprise such business, i.e., TruGreen-ChemLawn, Terminix, ServiceMaster Residential/Commercial Services, Merry Maids, American Home Shield, AmeriSpec and Furniture Medic. SMCS has two general partners, ServiceMaster Consumer Services, Inc. and The ServiceMaster Company. As a result of the transaction with WMX Technologies, Inc. on December 31, 1995 (described on pages 2 and 3), The ServiceMaster Company is the sole limited partner of SMCS. The controlling interest in ServiceMaster Consumer Services, Inc., is held by ServiceMaster Management Corporation. Organization and Structure of Management Services ServiceMaster Management Services Limited Partnership ("SMMS") provides a separate identity for the Management Services business. This business is primarily carried out through three divisions of SMMS, with a small amount of specialized business conducted through wholly owned subsidiaries. SMMS has two general partners, ServiceMaster Management Services, Inc., and The ServiceMaster Company and, until December 31, 1996, SMMS had 43 limited partners in two classes: Class A and Class B. The sole Class B limited partner was The ServiceMaster Company. Forty-two Class A limited partners, all of whom were senior members of SMMS management, collectively owned 9.29% of the equity of SMMS (with equity determined for this purpose after allowing for $505.6 million of intercompany debt to The ServiceMaster Company). On December 31, 1996, the Registrant acquired all of the Class A limited partner interests in SMMS based on their fair market value as confirmed by an independent appraisal in exchange for a combination of cash and shares of the Registrant totalling approximately $12.5 million. As a result of the foregoing transaction, effective January 1, 1997, the Registrant and The ServiceMaster Company together own 100% of SMMS. Organization and Structure of Diversified Health Services The ServiceMaster Company holds all of the equity interests in the following organizations which, together, comprise the ServiceMaster Diversified Health Services group: the ServiceMaster Diversified Health Services Companies and ServiceMaster Home Health Care Services Inc. The ServiceMaster Diversified Health Services Companies ("DHS") consist of a limited partnership and its general partner and their respective subsidiaries. Until December 31, 1996, The ServiceMaster Company owned 89% of the equity of DHS, with members of senior DHS management owning the remaining 11% of such equity. On December 31, 1996, the Registrant acquired all of the equity interests of DHS management based on their fair market value as confirmed by an independent appraisal in exchange for shares of the Registrant having a value of $12.8 million. As a result of the foregoing transaction, effective January 1, 1997, the Registrant and The ServiceMaster Company together own 100% of DHS. ServiceMaster Home Health Care Services Inc. is wholly owned by The ServiceMaster Company. 12 Organization and Structure of International International operations are carried out through subsidiaries, licensing, joint venture or affiliation arrangements, all of which are coordinated and supervised by the International division of the ServiceMaster Company. The ServiceMaster Company, through its Netherlands subsidiary, TMXEurope B.V., owns pest control businesses in the United Kingdom, Ireland, the Netherlands, Sweden and Germany. Notes to Organizational Structure Chart The following Notes are intended to be read in conjunction with the organizational structure chart on page 10. Note A--Public Investors The public investors in the Registrant collectively hold a 99% interest in the profits, losses and distributions of the Registrant through their ownership of the limited partner interests in the Registrant ("Partnership Shares"). The Partnership Shares are listed on the New York Stock Exchange under the symbol "SVM". For the reasons indicated in Note D below, the public investors' 99% interest in the Registrant entitles the public investors to an approximately 98% interest in the consolidated profits, losses and distributions of ServiceMaster. Note B--ServiceMaster Limited Partnership ServiceMaster Limited Partnership serves as the holding company for the ServiceMaster business. It does not conduct any significant business operations or own any significant property except for its 99% common equity interest in the profits, losses and distributions of The ServiceMaster Company Limited Partnership. Note C--The ServiceMaster Company Limited Partnership The ServiceMaster Company Limited Partnership supervises the Company's international operations and serves as a holding company for the Consumer Services, Management Services, and Diversified Health Services groups. All of the common limited partner interests of The ServiceMaster Company are held by the Registrant. On January 1, 1993, the ServiceMaster SGP Trust became a special general partner of The ServiceMaster Company and has remained a special general partner of The ServiceMaster Company since that date--see Note T. Note D--ServiceMaster Management Corporation (Managing General Partner) ServiceMaster Management Corporation is the managing general partner of ServiceMaster Limited Partnership and The ServiceMaster Company Limited Partnership (collectively referred to in this Note D as the "Partnerships"). ServiceMaster Management Corporation is governed by a board of directors which, at December 31, 1996, consisted of 17 persons. ServiceMaster Management Corporation has the ultimate authority to control each entity in the ServiceMaster enterprise. The certificate of incorporation of ServiceMaster Management Corporation requires that a majority of the positions on its board of directors must be comprised of independent directors. The certificate of incorporation further provides that this requirement may not be amended without the consent of the holders of a majority of the outstanding shares of ServiceMaster Limited Partnership. During the year 1996, the stock of ServiceMaster Management Corporation was owned by persons who were past or present senior members of the ServiceMaster management. The stockholders of this corporation have deposited their stock in a voting trust of which the directors 13 themselves are trustees with discretionary power to vote the stock. These arrangements enable the incumbent members of the Board of Directors to choose the persons elected to the Board each year. On January 31, 1992, as contemplated by the 1992 Reorganization, all individuals who were then serving as general partners of the Partnership withdrew as general partners and became stockholders of ServiceMaster Management Corporation with stock interests therein which indirectly represented their former general partner carried interests. Their general partner carried interests were transferred to ServiceMaster Management Corporation as part of these adjustments. ServiceMaster Management Corporation does not employ any significant number of persons or own any office space or other equipment used to conduct the day-to-day management of ServiceMaster; rather, the employees and assets necessary to manage the ServiceMaster business are based within The ServiceMaster Company or the operating entities. The applicable partnership agreements as adopted in 1986 and as amended since then provide that the general partners of the Partnerships are entitled to a 1% interest in each of the two Partnerships. Since January 31, 1992, the sole holder of the 1% interest in each of the two Partnerships has been ServiceMaster Management Corporation. These interests are "carried interests" which means that ServiceMaster Management Corporation is not required to contribute to the capital of the Partnerships except as may be necessary to pay liabilities for which provision cannot otherwise be made. These carried interests remain at a constant 1% in each of the two Partnerships at all times regardless of the extent to which additional investments in the Partnerships are made by others and regardless of the extent to which the Partnerships redeem other interests. These 1% interests provide ServiceMaster Management Corporation with approximately 1.99% of the profits and losses of the entire ServiceMaster enterprise, that is, ServiceMaster Management Corporation is entitled to 1% of the profits of The ServiceMaster Company Limited Partnership and, because that partnership is 99% owned by ServiceMaster Limited Partnership, it is entitled to an additional 1% of the 99% of The ServiceMaster Company Limited Partnership's profits which are allocated to ServiceMaster Limited Partnership. For the year 1996, each of the Partnerships made cash distributions equal to 1% of its net income to ServiceMaster Management Corporation. The total of the distributions made with respect to the year 1996 was $5,190,376. From that amount the corporation paid state corporate taxes and, on behalf of its stockholders but subject to reimbursement by them, the letter of credit fees charged with respect to the promissory notes described in the next paragraph. The balance, $5,024,751, was distributed by ServiceMaster Management Corporation to those past and present officers of ServiceMaster who constituted the stockholders of ServiceMaster Management Corporation. At December 31, 1996, such persons included Messrs. Cantu, Pollard, Oxley, Keith and Mrozek, whose participations within the 1.99% total carried interest of ServiceMaster Management Corporation at the end of 1996 were, respectively, 14.94%, 14.94%, 5.50%, 5.50%, and 3.23%. At December 31, 1996, the stock of ServiceMaster Management Corporation was owned by 33 ServiceMaster executives, each of whom has signed a promissory note payable to the corporation in the amount of the purchase price of his or her stock. Such notes total approximately $15,000,000 in the aggregate and are payable upon demand. The payment of each such note is secured by a letter of credit from the Bank of America (Illinois). The fees for such letters of credit are borne entirely by the makers of the notes and not by ServiceMaster. Effective January 1, 1997, the number of stockholders of ServiceMaster Management Corporation was increased to 38. 14 Note E--ServiceMaster Consumer Services Limited Partnership and ServiceMaster Consumer Services, Inc. ServiceMaster Consumer Services Limited Partnership ("SMCS") is the holding company for the Consumer Services business. ServiceMaster Consumer Services, Inc. is one of the two general partners of SMCS. The second general partner is The ServiceMaster Company. The ServiceMaster Company, through its direct and indirect ownership of the 1% interest held by the general partners and as the sole limited partner, holds a 100% equity interest in SMCS. Note F--ServiceMaster Management Services Limited Partnership and ServiceMaster Management Services, Inc. ServiceMaster Management Services Limited Partnership ("SMMS") is the holding company for the Management Services business. ServiceMaster Management Services, Inc. is one of the two general partners of SMMS. The ServiceMaster Company, through its direct and indirect ownership of the 1% interest held by the general partners and as the sole limited partner, holds a 100% equity interest in SMMS. In January 1994, members of senior SMMS management purchased a 10% interest in SMMS as Class A limited partners. The equity of SMMS is determined, for purposes of such 10% interest, after allowing for intercompany debt to The ServiceMaster Company. Such intercompany debt has been offset and eliminated in preparing the consolidated financial statements of the Registrant. As previously discussed, at the end of 1996, all Class A interests were acquired by the Registrant. Note G--ServiceMaster Diversified Health Services ServiceMaster Diversified Health Services is a division of The ServiceMaster Company. It is comprised of the ServiceMaster Diversified Health Services Companies ("DHS") and ServiceMaster Home Health Care Services. The former is 100% owned by the Registrant and The ServiceMaster Company collectively (see Note P) and the latter is 100% owned by The ServiceMaster Company. The ServiceMaster Diversified Health Services Companies include a parent limited partnership and its general partner and a number of subsidiary companies. Note H--International International is a division of The ServiceMaster Company. The International unit oversees and provides administrative support for ServiceMaster's international operations. It owns all of the shares of TMX-Europe B.V., the Netherlands holding company for all pest control businesses acquired in Europe. Note I--TruGreen Limited Partnership TruGreen Limited Partnership ("TruGreen") has two general partners: TruGreen, Inc., which is the managing general partner, and TSSGP Limited Partnership, a Delaware limited partnership ("TSSGP"). Until January 1, 1995, members of TruGreen management owned a 15% minority interest in TruGreen. Effective January 1, 1995, all of the holders of the minority interest contributed their limited partner units in TruGreen to the Registrant in exchange for 4,236,093 shares of the Registrant and a contingent right to receive an additional payment in 1997 depending upon the magnitude of TruGreen's earnings and the performance of the Registrant's shares in 1995 and 1996. As a result of this transaction, the Registrant and Consumer Services together became the owners of 100% of the equity interests in TruGreen. A nominal amount was paid in February 1997 in respect of the contingent payment right. 15 Note J--The Terminix International Company Limited Partnership The Terminix International Company Limited Partnership ("Terminix") has two general partners: Terminix International, Inc., the managing general partner, and TSSGP. Terminix is a wholly owned subsidiary of SMCS. Note K--Res/Com Limited Partnership ServiceMaster Residential/Commercial Services Limited Partnership ("Res/Com") has two general partners: ServiceMaster Residential/Commercial Services Management Corporation, which is the managing general partner, and TSSGP. Res/Com is a wholly owned subsidiary of SMCS. Note L--Merry Maids Limited Partnership Merry Maids Limited Partnership ("Merry Maids") has two general partners: Merry Maids, Inc., which is the managing general partner, and TSSGP. Merry Maids is a wholly owned subsidiary of SMCS. Note M--American Home Shield Corporation American Home Shield Corporation ("AHS") is a wholly owned subsidiary of SMCS. Note N--AmeriSpec, Inc. AmeriSpec, Inc. is a wholly owned subsidiary of AHS. Note O--Furniture Medic Furniture Medic Limited Partnership is a wholly owned subsidiary of SMCS. Note P--ServiceMaster Diversified Health Services Companies The ServiceMaster Diversified Health Services Companies (formerly VHA Long Term Care) are wholly owned subsidiaries of LTCS Investment L.P. ("LTCS"). Until December 31, 1996, LTCS was 89% owned by The ServiceMaster Company and 11% by members of senior management of the ServiceMaster Diversified Health Services Companies. As previously discussed, at the end of 1996, all minority interests in DHS were acquired by the Registrant. Note Q--Home Health Care Services ServiceMaster Home Health Care Services Inc. is a wholly owned subsidiary of The ServiceMaster Company and is a part of the ServiceMaster Diversified Health Services group. 16 Note R--TMX-Europe TMX-Europe B.V., a Netherlands limited company, is a wholly owned subsidiary of The ServiceMaster Company. TMXEurope serves as the holding company for ServiceMaster's European pest control companies. Note S--Other Subsidiaries Other subsidiaries include Premier Manufacturing Support Services L.P., a wholly owned subsidiary of ServiceMaster Management Services L.P. ("SMMS") (acquired by SMMS in October 1996); ServiceMaster Aviation Services L.P., a wholly owned subsidiary of SMMS; CMI Group, Inc., a wholly owned subsidiary of SMMS; and miscellaneous operating and name protection entities. Reference is made to Exhibit 21 for a complete list of the subsidiaries of the Registrant. Note T--ServiceMaster SGP Trust On January 1, 1993, the limited partnership agreement of The ServiceMaster Company was amended to admit a trust as a Special General Partner of The ServiceMaster Company (the "SGP Trust"). The beneficiaries of the SGP Trust are the limited partners of the Registrant as constituted from time to time. The SGP Trust receives each year an allocation of taxable income equal to the amount by which the aggregate taxable income of The ServiceMaster Company exceeds the cash distributions made by the Registrant directly to its limited partners. As a result of this allocation of taxable income, the cash distributions made by the Registrant directly to its limited partners will equal or exceed the taxable income of the Registrant which is directly allocated to its limited partners. The ServiceMaster Company makes cash distributions to the SGP Trust in the amounts required by the trust for the payment of its federal and state income tax liabilities. This arrangement prevents taxable income as allocated to the public shareholders from exceeding their cash distributions from the Registrant and thereby solves the "crossover problem" as described in earlier annual reports and in the Registrant's Proxy Statement dated December 11, 1991. Item 2. Properties The headquarters facility of ServiceMaster, which also serves as headquarters for ServiceMaster Management Services and International, is owned by The ServiceMaster Company and is located on a ten-acre tract at One ServiceMaster Way, Downers Grove, Illinois. The initial structure was built in 1963, and two additions were completed in 1968 and 1976. In early 1988, ServiceMaster completed construction of a two-story 15,000 square foot addition for office space, food service demonstrations and dining facilities. The building contains approximately 118,900 square feet of air conditioned office space and 2,100 square feet of laboratory space. In the Spring of 1992, ServiceMaster completed the conversion of approximately 30,000 square feet of space formerly used as a warehouse to offices for Management Services and for The Kenneth and Norma Wessner Training Center. ServiceMaster owns a seven acre, improved tract at 2500 Warrenville Road, Downers Grove, Illinois, which is adjacent to its headquarters facility. In 1993, ServiceMaster substantially remodeled the building and thereafter leased approximately half the space (50,000 square feet) to a commercial tenant. The balance of the space is utilized by ServiceMaster personnel. ServiceMaster leases a 50,000 square foot facility near Aurora, Illinois which is used by ServiceMaster as a warehouse/distribution center. ServiceMaster believes that the facilities described in the preceding three paragraphs will satisfy the Company's needs for administrative and warehouse space in the Chicago area for the immediate future. 17 ServiceMaster owns four properties in Cairo, Illinois, consisting of a 36,000 square foot, three-story building used for manufacturing and warehousing equipment, supplies and products used in the business; a warehouse and package facility comprising 30,000 square feet; a three-story warehouse and manufacturing building consisting of 43,000 square feet; and a 2,500 square foot building used for a machine shop. ServiceMaster leases a 44,000 square foot manufacturing facility in Lancaster, Pennsylvania, which is used to provide products and equipment primarily to customers of Management Services in the eastern part of the United States. Management believes that the foregoing manufacturing and warehouse facilities are adequate to support the current needs of ServiceMaster. The headquarters for ServiceMaster Consumer Services L.P. are located in leased premises at 860 Ridge Lake Boulevard, Memphis, Tennessee. The 860 Ridge Lake Boulevard facility also serves as the headquarters for TruGreen-ChemLawn, Terminix, Res/Com, Merry Maids and American Home Shield, AmeriSpec and Furniture Medic. TruGreen-ChemLawn owns 5 buildings which are used as branch sites for lawn care services. These facilities are located in Texas (2 properties), Colorado (1 property), Ohio (1 property), and Georgia (1 property). Terminix owns 17 buildings which are used as branch sites for termite and pest control services. These properties are all one-story buildings that contain both office and storage space. These properties are located in New Jersey (2 properties), California (2 properties), Florida (8 properties), Georgia (1 property), and Texas (4 properties). American Home Shield has retained some leased space in the building at 90 South E Street, Santa Rosa, California for administrative and sales operations. Certain of American Home Shield's service and data processing departments are located in premises owned by the company in Carroll, Iowa. This facility consists of a 43,000 square foot building on a seven-acre site. American Home Shield owns approximately 98 acres of land in Santa Rosa, California, of which 43 acres are under a contract for sale to occur in mid to late 1997. This land is held for investment purposes and has been and will continue to be offered for sale, with the timing of sales being affected by, among other things, market demand, zoning regulations, and the availability of financing to purchasers. The headquarters for the ServiceMaster Diversified Health Services Companies ("DHS") is located in leased premises at 5050 Poplar Avenue, Memphis, Tennessee. DHS is in the process of constructing a new headquarters facilities in Memphis, Tennessee and expects to relocate to such facility in the Fall of 1997. DHS leases other administrative facilities in Plymouth Meeting, Pennsylvania; Dallas, Texas; and Atlanta, Georgia. As of December 31, 1996, DHS had an ownership interest in two nursing home facilities through joint venture arrangements in which DHS has a 50% interest. Item 3. Legal Proceedings In the ordinary course of conducting its business activities, ServiceMaster becomes involved in judicial and administrative proceedings which involve both private parties and governmental authorities. As of March 20, 1997, these proceedings included a number of general liability actions and a very small number of environmental proceedings. Environmental Matters. Terminix is one of several defendants named in a suit filed by the United States Environmental Protection Agency (the "EPA") on November 3, 1986 in the United States District Court for the Western District of Tennessee, to recover the costs of remediation at two sites in Tennessee which have been designated by the EPA as "Superfund sites" under the Comprehensive Environmental Response Compensation and Liability Act ("CERCLA"). In January 1992, the EPA issued a Unilateral Administrative Order for Remedial Design and Remedial Action which required Terminix and other initial defendants and third party defendants to clean up one of these sites. Terminix agreed, on an interim basis, to a 10% allocation of the cost of the remediation work. The parties to the interim allocation agreement remained in disagreement with the EPA over the most appropriate 18 remediation procedures to be followed at the site and they were in disagreement among themselves regarding the final allocations of responsibility. With respect to the second site, the companies cited by the EPA all disclaim responsibility. Two of the defendant parties settled their disagreement with the EPA but, until March 20, 1997, Terminix had not resolved its disagreement with the other two defendant parties as to Terminix's proper participation. However, on March 20, 1997, Terminix settled this matter with the other two parties as to all past cots and agreed to arbitrate any allocation of future costs. The aggregate financial commitment of Terminix is well within the parameters set forth in the discussions of this matter in previous Form 10-Ks and such amount is not material to Terminix's business, financial condition or results of operations. Item 4. Submission of Matters to a Vote of Security Holders None 19 PART II Item 5. Market for Registrant's Partnership Shares and Related Shareholder Matters Except for the information set forth in the second and third sentences of this Item 5, the portions of the ServiceMaster Annual Report to Shareholders for 1996 under the captions "Shareholders' Equity" (page 36) and "Cash Distributions Per Share" and "Price Per Share" in the Quarterly Operating Results table (page 42) supply the information required by this item and such portions are hereby incorporated herein by reference. The Registrant's shares are listed and traded on the New York Stock Exchange under the symbol "SVM". At March 14, 1997, the Registrant's shares were held of record by approximately 67,000 persons. Item 6. Selected Financial Data The portion of the ServiceMaster Annual Report to Shareholders for 1996 in the Financial Statements and Management Discussion section ("FSMD Section") under the caption "Eleven Year Financial Summary" (pages 30-31) supplies the information required by this item and such portion is hereby incorporated herein by reference. Item 7. Management Discussion and Analysis of Financial Condition and Results of Operations Management Discussion and Analysis of Financial Condition and Results of Operations for the three years ended December 31, 1996, is contained in the FSMD Section of the ServiceMaster Annual Report to Shareholders for 1996 on pages 25-29 and is hereby incorporated herein by reference. Item 8. Financial Statements and Supplementary Data The consolidated statements of financial position of ServiceMaster as of December 31, 1996 and 1995, and the consolidated statements of income, cash flows and shareholders' equity for the years ended December 31, 1996, 1995 and 1994 and notes to the consolidated financial statements are contained in the FSMD Section of the ServiceMaster Annual Report to Shareholders for 1996 on pages 33-42 are incorporated herein by reference. The report of Arthur Andersen LLP thereon dated January 22, 1997 (February 24, 1997, as to the pending transaction with WMX Technologies, Inc. and the acquisition of Barefoot Inc. which are discussed in the footnotes to the financial statements) and the summary of significant accounting policies are contained in the FSMD Section of the ServiceMaster Annual Report to Shareholders for 1996 on page 32 and are hereby incorporated herein by reference. Item 9. Disagreements on Accounting and Financial Disclosure None. 20 PART III Item 10. Directors and Executive Officers of the Corporate General Partner of Registrant and The ServiceMaster Company The following section of this Item 10 shows: (i) the names and ages (as of March 21, 1997) of the present directors of ServiceMaster Management Corporation (the managing general partner of ServiceMaster Limited Partnership and The ServiceMaster Company); (ii) all positions and offices with ServiceMaster held by each such director; and (iii) the term of each such person as a director and all period(s) during which each director has served. There are no arrangements or understandings between any director and any other person pursuant to which the director was or is to be selected as a director or nominee. All committee memberships to which reference is made means membership on a committee of the Board of Directors of ServiceMaster Management Corporation. 1997 Class Paul W. Berezny, age 62, has been a director since October 7, 1995. He is a member of the Management Services and Diversified Health Services Committee. He is President of Berezny Investments, Inc., a real estate development and management company. Lord Brian Griffiths of Fforestfach, age 55, has been a director since August 1992. He is a member of the Executive Committee and the Nominating Committee. Since 1991, he has been an international advisor to Goldman, Sachs & Co. concerned with strategic issues related to their United Kingdom and European operations and business development activities worldwide. During the period 1985 to 1990, he served at No. 10 Downing Street as Head of the Prime Minister's Policy Unit. He was made a life peer at the conclusion of his service to the Prime Minister. Lord Griffiths is a director of THORN EMI plc, a music recording company, Times Newspapers Holding Ltd., London, England, a newspaper company, Herman Miller, Inc., Zeeland, Michigan, an office furniture manufacturer, and Telewest, London, England, a television company. Michele M. Hunt, age 47, has been a director since October 7, 1995. She is a member of the Management Services and Diversified Health Services Committee. Since July 1995, Ms. Hunt has been a private business consultant. She was appointed by President Clinton as Director of the Federal Quality Institute and served in such role from August 1993 to June 1995. From 1980 to July 1993, she was employed by Herman Miller, Inc., an office furniture manufacturer, and during the period from July 1990 to July 1993 she served as the company's Corporate Vice President for People and Quality. Gunther H. Knoedler, age 67, has been a director since 1979. He is a member of the Executive Committee, the Management Services and Diversified Health Services Committee, and the Audit Committee (of which he is the Chairman). Mr. Knoedler is a retired Executive Vice President and Director Emeritus of Bell Federal Savings & Loan Association, Chicago, Illinois. Vincent C. Nelson, age 55, has been a director since 1978. Mr. Nelson is a member of the Executive Committee, the Consumer Services and International and New Business Development Committee, the Nominating Committee, the Audit Committee (of which he is the Chairman), the Employee Share Purchase Plan Administrative Committee and the Share Option Committee. Mr. Nelson is a business investor. Dallen W. Peterson, age 60, has been a director since October 7, 1995. Mr. Peterson served as the Chairman of Merry Maids, Inc. until the acquisition of that company's assets by Merry Maids Limited Partnership in July 1988. He is presently the Chairman of Merry Maids Limited Partnership. He is a member of the Consumer Services and International and New Business Development Committee. 21 1998 Class Henry O. Boswell, age 67, has been a director since 1985. He is a member of the Executive Committee, the Consumer Services and International and New Business Development Committee, the Finance Committee, the Nominating Committee and the Compensation Committee (of which he is the Chairman). From 1983 until his retirement in October 1987, Mr. Boswell was President of Amoco Production Company. During the same time period, he was Chairman of the Board of Amoco Canada and a director of Amoco Corporation. Mr. Boswell is a director of Rowan Companies, Inc., Houston, Texas, an offshore oil drilling company, and Cabot Oil & Gas Corp., Houston, Texas, an oil and gas production company. Carlos H. Cantu, age 63, has been a director since 1988. He is a member of the Executive Committee, the Consumer Services and International and New Business Development Committee, the Management Services and Diversified Health Services Committee, the Finance Committee and the Nominating Committee. On January 1, 1994, Mr. Cantu became the President and Chief Executive Officer of ServiceMaster. He served as the President and Chief Executive Officer of ServiceMaster Consumer Services from May 1991 to August 1994, as Executive Vice President and Chief Operating Officer, Consumer Services, from October 1988 to May 1990 and as President and Chief Operating Officer of ServiceMaster Consumer Services from June 1, 1990 to May 1991. He served as President and Chief Executive Officer of The Terminix International Company Limited Partnership from December 18, 1986 to December 31, 1992. He has been a director of First Tennessee National Corporation since April 16, 1996 and a director of Haggar Corporation, a clothing manufacturing company in Dallas, Texas, since February 9, 1995. James D. McLennan, age 60, has been a director since May 1986. He is a member of the Management Services and Diversified Health Services Committee and the Audit Committee. Mr. McLennan has been President of McLennan Company, a full service real estate company, since 1981. Mr. McLennan is a director of The Loewen Group Inc., a provider of funeral services, Burnaby, B.C., Canada, a director of NBD Bank of Park Ridge, Illinois, and a director of Advocate Health Systems, a health care provider, Oak Brook, Illinois. He is also the Chairman of the Advocate Health Care Foundation. Burton E. Sorensen, age 67, has been a director since May 1984. He is a member of the Executive Committee and the Finance Committee. He is the owner of Lord Securities Corporation. He served as Chairman, President and Chief Executive Officer of the corporation from December 1984 to December 1995. Mr. Sorensen is a director of Provident Companies, Inc., Chattanooga, Tennessee. Charles W. Stair, age 56, has been a director since December 1986. He previously served as a director from 1976 to 1983. On December 10, 1994 he was elected Vice Chairman of the Board of Directors. He is a member of the Management Services and Diversified Health Services Committee and the Profit Sharing, Savings and Retirement Plan Administrative Committee. He served as the President and Chief Executive Officer of ServiceMaster Management Services from May 1991 to December 31, 1994, as President and Chief Operating Officer, Management Services, from June 1990 to April 1991, and as Executive Vice President and Chief Operating Officer, Management Services, from October 1, 1988 to May 1990. David K. Wessner, age 45, has been a director since March 1987. He is a member of the Executive Committee, the Nominating Committee, and the Management Services and Diversified Health Services Committee. Mr. Wessner is Executive Vice President, HealthSystem Minnesota. Previously, he was Senior Vice President, Program and Process Improvement, Geisinger Health System, from November 1992 to August 1994 and Senior Vice President and Administrative Director from 1982 to November 1992. 22 1999 Class Sidney E. Harris, age 47, has been a director since December 10, 1994. He is a member of the Management Services and Diversified Health Services Committee. He is Professor of Management at the Peter F. Drucker Graduate Management Center at the Claremont Graduate School, Claremont, California, when he served as Dean from September 1991 to July 1996. He is a cofounder of the Institute for the Study of U.S./Japan Relations in the World Economy. Dr. Harris is a director of Transamerica Investors, Inc., Los Angeles, California, a mutual funds investment company. Herbert P. Hess, age 60, has been a director since 1981. He is a member of the Executive Committee, the Consumer Services and International and New Business Development Committee, the Finance Committee (of which he is the Chairman), and the Compensation Committee. Mr. Hess is a Managing Director of Berents & Hess Capital Management, Inc., an investment management firm. He is the past President and Chief Executive Officer of State Street Research & Management Company, an investment management firm. Mr. Hess was Chairman of MetLife-State Street Investment Services, Inc. from 1988 to April 1, 1990. Kay A. Orr, age 58, has been a director since January 1, 1994. She is a member of the Consumer Services and International and New Business Development Committee. Mrs. Orr was Governor of Nebraska from 1987 to 1991 and was the State Treasurer of Nebraska from 1981 to 1986. From 1979 to 1981, she served as Chief of Staff to the Governor of Nebraska. Mrs. Orr is a director of The Williams Companies, Inc., Tulsa, Oklahoma, a pipeline company, and a director of VanCom Incorporated, Oak Brook Terrace, Illinois, a transportation company. C. William Pollard, age 58, has been a director since December 1977. Since May 1990, he has been the Chairman of the Board of Directors and Chairman of the Executive Committee. He is a member of the Consumer Services and International and New Business Development Committee, the Management Services and Diversified Health Services Committee, the Finance Committee and the Nominating Committee. From May 1983 to December 31, 1993, Mr. Pollard served as the Chief Executive Officer of ServiceMaster. He served as President of ServiceMaster from 1981 to May 1990. Mr. Pollard is a director of Herman Miller, Inc., Zeeland, Michigan, an office furniture manufacturer, and a director of Provident Companies, Inc., Chattanooga, Tennessee. Phillip B. Rooney, age 52, has been a director since January 1, 1994. He is a member of the Executive Committee, the Consumer Services and International and New Business Development Committee and the Compensation Committee. Mr. Rooney is Chairman of FNBC of LaGrange, Inc., a multi-bank holding company. He is on the Boards of Directors of Illinois Tool Works, Inc., Urban Shopping Centers, Inc. and the University of Notre Dame. He is Chairman of Chicago Sister Cities and a member of the Finance Council of the Archdiocese of Chicago. He is Founder of the Rooney Heart Institute of Hinsdale Hospital, Hinsdale, Illinois. From May 1996 to February 17, 1997 he was President and Chief Executive Officer of WMX Technologies, Inc. ("WMX"). From November 1984 to May 1996, he was President and Chief Operating Officer of WMX. Senior Management Advisers The Bylaws of ServiceMaster Management Corporation provide that the Board of Directors may appoint officers of ServiceMaster and other persons having a special relationship to ServiceMaster to serve as Senior Management Advisers. Senior Management Advisers attend the meetings of the Board and advise the Board but do not have the power to vote. The Board has determined that providing a greater number of officers the opportunity to advise and interact with the Board is in the best interest of ServiceMaster as well as the individual officers. The Senior Management Advisers receive no special compensation for their services in this capacity. 23 The Board of Directors has appointed the persons listed below as Senior Management Advisers effective as of the 1996 annual meeting of shareholders to serve in such capacity until the annual meeting of shareholders in 1997 or until otherwise determined by the Board of Directors. Robert D. Erickson, age 53, is the President and Chief Operating Officer of the ServiceMaster International business unit. Mr. Erickson was a director of ServiceMaster from May 1987 to May 1993. He previously served as a director of ServiceMaster from May 1981 to June 1984. He is a non-director member of the Consumer Services and International and New Business Development Committee and is a member of the Profit Sharing, Savings and Retirement Plan Administrative Committee (of which he is the Chairman), and the Employee Share Purchase Plan Administrative Committee (of which he is the Chairman). He served as Executive Vice President and Chief Operating Officer of the International division of ServiceMaster from November 1992 to October 1993 and as Executive Vice President and Chief Operating Officer, People Services, from January 1990 to October 1992. Mr. Erickson is a director of VanCom Incorporated, Oak Brook Terrace, Illinois, a transportation company. Donald K. Karnes, age 46, is Group President of TruGreen ChemLawn and Terminix. He served as President and Chief Operating Officer of TruGreen-ChemLawn from January 1992 to December 1995. From January 1, 1990 to December 31, 1991, he was Senior Vice President, TruGreen Limited Partnership. He is a nondirector member of the Consumer Services and International and New Business Development Committee. Robert F. Keith, age 40, became President and Chief Operating Officer of ServiceMaster Management Services, effective January 1, 1997. He served as President and Chief Operating Officer, ServiceMaster Consumer Services from July 1994 to December 31, 1996 and as Group President, ServiceMaster Consumer Services, from November 1992 to July 1994. He was Vice President, Treasurer and Chief Financial Officer of The ServiceMaster Company from November 1989 to October 1992. He is a non-director member of the Management Services and Diversified Health Services Committee. Jerry D. Mooney, age 43, became President, Healthcare New Business Initiatives, effective January 1, 1996. Prior to that time he was the President and Chief Executive Officer of ServiceMaster Diversified Health Services, Inc. He is a nondirector member of the Management Services and Diversified Health Services Committee of the Board of Directors. He is also a director, chairman of the audit committee and member of the compensation committee of Concord EFS, Inc., Memphis, Tennessee, involved primarily in the electronic processing of debit and credit card transactions. He also serves as a director of Thompco Medical, Inc., and on an Advisory Board for SouthTrust Corporation. Ernest J. Mrozek, age 43, became President and Chief Operating Officer, ServiceMaster Consumer Services, on January 1, 1997. He served as Senior Vice President and Chief Financial Officer of the Registrant from January 1, 1995 to December 31, 1996. He served as Vice President and Chief Financial Officer of the Registrant from May 1994 to December 1994, as Vice President, Treasurer and Chief Financial Officer from November 1, 1992 to April 30, 1994, as Vice President and Chief Accounting Officer, from January 1, 1990 to October 31, 1992 and as Vice President, Accounting, from December 1987 to December 1989. He practiced public accounting as a manager with Arthur Andersen LLP from 1981 to December 1987. He is a nondirector member of the Consumer Services and International and New Business Development Committee. Brian D. Oxley, age 46, was elected Executive Vice President, New Business Initiatives, effective January 1, 1997. He served as President and Chief Operating Officer of ServiceMaster Management Services and ServiceMaster Healthcare Services from January 1994 to December 31, 1996. From November 1992 to December 31, 1993, he served as the President and Chief Executive Officer of the International and New Business Development Group. He served as Executive Vice President, New Business Development from January 1991 to November 11, 1992 and as President of International Services from January 1, 1988 to November 11, 1992. He is a non-director member of the Consumer Services and International and New Business Development Committee. 24 Executive Officers of ServiceMaster The following table shows: (i) the names and ages (as of March 21, 1997) of the present (except as otherwise noted) executive officers of the Registrant, The ServiceMaster Company and ServiceMaster Management Corporation; (ii) all positions presently held by each officer; and (iii) the year each person became an officer. Each person named has served as an officer of the Registrant continuously since the year shown. There are no arrangements or understandings between any executive officer and any other person pursuant to which the officer was or is to be selected as an officer. First Became Name Age Present Position An Officer - ------------------ --- ---------------- ---------- C. William Pollard 58 Chairman and Director 1977 Carlos H. Cantu 63 President and 1986 Chief Executive Officer and Director Charles W. Stair 56 Vice Chairman and Director 1973 Ernest J. Mrozek 43 President and Chief Operating 1987 Officer, Consumer Services, and a Senior Management Adviser Robert F. Keith 40 President and 1986 Chief Operating Officer, Management Services, and a Senior Management Adviser Robert D. Erickson 53 President and Chief Operating 1976 Officer, International, and a Senior Management Adviser Brian D. Oxley 46 Executive Vice President and a 1983 Senior Management Adviser 1983 Vernon T. Squires 62 Senior Vice President and 1987 General Counsel Steven C. Preston (1) 36 Senior Vice President and 1997 Chief Financial Officer Eric R. Zarnikow 37 Vice President and Treasurer 1994 Deborah A. O'Connor 34 Vice President and Controller 1993 __________________ (1) Elected to the indicated position effective April 1, 1997. 25 Messrs. Pollard, Cantu and Stair are also Directors of ServiceMaster Management Corporation. Messrs. Mrozek, Keith, Erickson and Oxley are Senior Management Advisers. See page 24 for biographical information with respect to these executive officers. Vernon T. Squires, age 62, has served as Senior Vice President and General Counsel since January 1, 1988. He served as Vice President and General Counsel from April 1, 1987 until December 31, 1987. He was an associate and partner with the law firm of Wilson & McIlvaine in Chicago, specializing in corporate and tax law, from 1960 to April 1, 1987. He is presently Of Counsel to that firm. Steven C. Preston, age 36, was elected Senior Vice President and Chief Financial Officer on March 21, 1997, to take office on April 1, 1997. From August 1993 to March 7, 1997, he was Senior Vice President and Corporate Treasurer for First Data Corporation, Atlanta, GA. From October 1985 to August 1993, he served as an investment banker at Lehman Brothers, New York, New York. Eric R. Zarnikow, age 37, has served as Vice President and Treasurer since May 1, 1994. He is a member of all ServiceMaster employee benefit plan committees. From August 1991 to April 1994, he served as Vice President and Treasurer of Gaylord Container Corporation. He was Treasurer of Gaylord Container Corporation from June 1987 to July 1991. Deborah A. O'Connor, age 34, has served as Vice President and Controller since January 1, 1993. From July 1991 to December 1992, she was Manager of Financial Projects. She previously had practiced public accounting with Arthur Andersen LLP since 1984. She is a member of the Profit Sharing, Savings and Retirement Plan Administrative Committee. Compliance With Section 16(a) of The Exchange Act of 1934 Section 16(a) of the Securities Exchange Act of 1934 requires ServiceMaster's officers and directors, and persons who own more than ten percent of ServiceMaster's shares, to file reports of ownership and changes in ownership with the Securities and Exchange Commission (the "Commission") and the New York Stock Exchange. The Commission's regulations require certain officers, directors and greater-than-ten-percent shareholders to furnish to ServiceMaster copies of all Section 16(a) forms that they file. During 1996, ServiceMaster received Section 16(a) forms from such officers and directors. As of January 1, 1997, ServiceMaster has one shareholder with an interest greater than ten percent. Based solely on a review of the copies of Section 16(a) forms received by ServiceMaster or on written representations from certain reporting persons that no Form 5 was required for those persons, ServiceMaster believes that during 1996, its officers and directors complied with applicable filing requirements, except that one report, covering one March 1996 transaction for 34,911 shares, was filed late by Mr. Peterson. 26 Item 11. Executive Compensation The following table sets forth all compensation awarded to, earned by, or paid to the Chief Executive Officer of ServiceMaster and ServiceMaster's four most highly compensated executive officers other than the Chief Executive Officer of ServiceMaster during or in respect of the year 1996. Each of the listed persons was holding the office indicated in the table on the last day of December 1996.
SUMMARY COMPENSATION TABLE LONG-TERM COMPENSATION ------------------------------------------------- ANNUAL COMPENSATION (A) Awards Payouts -------------------------------- ----------------------- ------------------- (a) (b) (c) (d) (e) (f) (g) (h) (i) Restricted Securities Other Stock Underlying LTIP All Other Salary Bonus Annual Awards Options/SARs Payouts Compensation Name and Compensation Principal Position Year ($) ($) ($) ($) (#) ($) ($) - -------------------- ---- -------- --------- ----- ------- -------- --------- ------------- Carlos H. Cantu 1996 $388,000 $679,000 - - 75,000 - - President and 1995 $380,000 $665,000 - - 112,500 - - Chief Executive Officer 1994 $350,000 $612,500 - - 112,500 - - C. William Pollard 1996 $300,000 $300,000 - - 75,000 - - Chairman 1995 $300,000 0 - - 150,000 - - 1994 $300,000 0 - - 112,500 - - Brian D. Oxley 1996 $281,667 $293,300 - - 52,500 - - President, Management 1995 $270,000 $200,000 - - 90,000 - - Services 1994 $260,000 $ 65,000 - - 0 - - Robert F. Keith 1996 $255,000 $281,000 - - 52,500 - - President, 1995 $240,000 $276,000 - - 75,000 - - Consumer Services 1994 $200,000 $225,000 - - 52,500 - - Ernest J. Mrozek 1996 $220,000 $264,000 - - 37,500 - - Sr. Vice President 1995 $208,000 $299,600 - - 22,500 - - and Chief Financial 1994 $190,000 $228,000 - - 52,500 - - Officer
Notes: (A) The Summary Compensation Table does not include the cash distributions made by ServiceMaster Management Corporation (the managing general partner of the Registrant and The ServiceMaster Company) to the persons listed in the table in their capacity as stockholders of ServiceMaster Management Corporation. Such distributions are dividends and represent a return on the investment made by such persons in the corporation. (See Note D, page 13). The source of these dividends are the cash distributions made to ServiceMaster Management Corporation by the Registrant and The ServiceMaster Company on the 1% carried interests held by ServiceMaster Management Corporation in each of these two partnerships. As part of the Reincorporating Merger to be completed at the end of 1997 (described on pages 1 and 2), ServiceMaster Management Corporation will be dissolved, the requirement for direct investments by senior management in a managing general partner of the parent entity will no longer exist and the foregoing dividend payments will be terminated. After reincorporation, the Company will institute a long- term incentive plan that will be performance based. This plan will have less of a negative impact on earnings per share than would the ServiceMaster Management Corporation arrangement if it were continued beyond 1997. The following table has been prepared as an extension of the Summary Compensation Table in order to show both the 1996 payments reflected in the Summary Compensation Table and the ServiceMaster Management Corporation dividends paid to the persons listed in the Summary Compensation Table for the year 1996. 27 Note (A) (continued)
1996 Summary Compensation and ServiceMaster Management Corporation Dividend Table (Supplement to the Summary Compensation Table) (a) (b) (c) (d) (e) Total Annual ServiceMaster Long-Term Compensation- Management Total of Compensation Name and 1996 (from Com- Corporation Columns (from Compen- Principal Position pensation Table) Dividends (b) and (c) sation Table)* - ------------------- ---------------- ------------- ------------- ------------- Carlos H. Cantu 1,067,000 745,413 1,812,413 75,000 President and Chief Executive Officer C. William Pollard 600,000 745,413 1,345,413 75,000 Chairman Brian D. Oxley 574,967 274,255 849,222 52,500 President, Management Services Robert F. Keith 536,000 274,255 810,255 52,500 President, Consumer Services Ernest J. Mrozek 484,000 161,306 645,306 37,500 Sr. Vice President and Chief Financial Officer * Securities underlying options awarded in 1996.
(End of Note (A)) 28 The following table summarizes the number and terms of the stock options (if any) granted during the year 1996 to the named executive officers.
OPTION/SAR GRANTS IN 1996 Individual Grants --------------------------------------------------- (a) (b) (c) (d) (e) (f) Number of Securities % of Total Underlying Options/SARs Options/SARs Granted to Exercise or Grant Granted Employees Base Price Expiration Date Name (#) 1996 ($/Sh) Date Value (A) --------------- ---------- ----------- ---------- ----------- ----------- Carlos H. Cantu, Chief Executive Officer 75,000 4.5% $24.25 10-03-2006 $545,250 C. William Pollard 75,000 4.5% $24.25 10-03-2006 $545,250 Brian D. Oxley 52,500 3.1% $20.83 02-16-2006 $276,150 Robert F. Keith 52,500 3.1% $20.83 02-16-2006 $276,150 Ernest J. Mrozek 37,500 2.2% $20.83 02-16-2006 $197,250
Notes: (A) Each of the options listed in column (b) is subject to a vesting schedule under which the option becomes exercisable in 20% increments on the 1st, 2nd, 3rd, 4th and 5th anniversaries of grant date. In accordance with Item 402(c)(2)(vi)(B) of Regulation S-K of the Securities and Exchange Commission, the grant date value of each of these options has been estimated based on the Black- Scholes option pricing model by an independent consulting firm using the following assumptions: In the case of the options which expire on 10-03-2006, a risk-free rate of interest of 6.52%, a volatility rate of 28.60%, a 3.2% distribution yield, and an expected life of seven years; and in the case of the options which expire on 02-16- 2006, a risk-free interest rate of 5.55%, a volatility rate of 27.35%, a 3.2% distribution yield, and an expected life of seven years. The values of the options which are shown in the table are theoretical and do not necessarily reflect the actual values which the option holders may eventually realize. Such actual values will depend on the extent to which the market value of the Registrant's shares at a future date exceeds the exercise price of the options. 29 The following table summarizes the exercises of stock options during the year 1996 by the named executive officers and the number of, and the spread on, unexercised options held by such officers at December 31, 1996.
AGGREGATED OPTION/SAR EXERCISES IN 1996 AND FY-END OPTION/SAR VALUES (a) (b) (c) (d) (e) Number of Securities Value of Underlying Unexercised Unexercised In-the-Money Options/SARs at Options/SARs at FY-End(#) FY-End($) --------------- ------------- Shares Acquired Value on Exercise Realized Exercisable/ Exercisable/ Name (#) (A) ($)(B) Unexercisable Unexercisable --------------- ----------- ---------- ------------- ------------- Carlos H. Cantu, 93,824 $2,392,512 0/75,000 $0/$1,959,375 Chief Executive Officer C. William Pollard 213,125 $5,434,688 0/75,000 $0/$1,959,375 Brian D. Oxley 69,775 $1,779,263 0/52,500 $0/$1,338,750 Robert F. Keith 62,033 $1,581,842 41,087/52,500 $1,047,719/$1,338,750 Ernest J. Mrozek 54,172 $1,381,386 6,803/37,500 $173,477/$956,250
Notes: (A) The issuance of the shares shown in column (b) was supported by the assignment of the option. The number of shares issued was based upon the product of the number of shares for which the options could be exercised times the difference between the fair market value on the date of the assignment ($25.50 per option share) and the exercise price per option share. Each of the listed persons held unrestricted ServiceMaster shares in a number sufficient to cover the exercise price of the option. All shares listed in column (b) are subject to certain restrictions on transfer, including a restriction that the shares may not be transferred for a period of four years from the date of issuance. (B) The amounts shown in column (c) are equal to the fair market value at the date of assignment ($25.50 per share) times the number of shares received in the transaction described in Note (A). The amounts listed in column (c) have been calculated without giving effect to the diminution in value attributable to the restriction referred to in Note (A). A table for long-term incentive plan awards is omitted because no long-term incentive plan awards were granted to any of the named officers during the year 1996. Compensation of Directors During the year 1996, directors of ServiceMaster Management Corporation who were not officers ("independent directors") received $3,000 for each meeting of the Board of Directors and each meeting of a Committee which they attended. In addition, independent directors each received an annual stipend of $12,000. The Chairman of the Audit Committee received an additional annual stipend of $2,000. In 1997, the annual stipend for independent directors will be $12,000. Each independent director of ServiceMaster Management Corporation may enter into a deferred fee agreement whereby part or all of the fees payable to him or her as a director are deferred and will either earn interest based on the average fiveyear borrowing rate for ServiceMaster or be used to purchase shares of ServiceMaster Limited Partnership in a number determined by the fair market value of such shares on the date of purchase. Upon termination of a director's services as an independent director or attainment of age 70, whichever occurs first, the director will receive the amount for his or her deferred fee account in a lump sum or in installments or in shares of ServiceMaster Limited Partnership, depending on which deferral plan the director has elected. 30 The ServiceMaster 1994 Non-Employee Directors Share Option Plan (the "Directors Option Plan") provides that options to purchase shares of the Registrant may be granted from time to time by the Board of Directors to those members of the Board who are not employees of any ServiceMaster entity. The exercise price of options granted under the Directors Option Plan is the fair market value of the shares at the time of the grant. In 1996, options were granted to each of 15 independent directors in the amount of 4,500 shares. Employment Contracts and Termination of Employment ServiceMaster enters into one-year employment contracts with each of its executive officers to cover the officer's employment during the ensuing twelve months. These contracts are executed either in December or on an anniversary date of the executive officer's employment. Each contract provides for the amount of such officer's base salary for the calendar year covered by the contract. Either party may cancel the contract on two weeks' notice to the other party. If an executive officer's employment terminates, he or she is prohibited from entering into certain activities which are competitive with any of the ServiceMaster businesses. These contracts do not provide for any bonuses or other form of compensation beyond the base salary stated in the contract. The amounts paid under the employment contracts with each of the persons listed in the Summary Compensation Table are included in Column (c) of the table. Change-in-Control Arrangements The ServiceMaster Plan for Continuity of Employment (the "Plan") was adopted by the Board of Directors of ServiceMaster Industries Inc. on July 19, 1986 and assumed by ServiceMaster Limited Partnership and its subsidiaries at the time the ServiceMaster reorganization became effective on December 30, 1986. The purpose of the Plan is to provide protection to a broad range of ServiceMaster employees from damage to their careers which could result if ServiceMaster were taken over by another organization. The Plan provides that if during the period following a takeover to which the Plan applies any covered employee is fired or leaves after being demoted, then ServiceMaster will be obligated to pay that employee an amount equal to either (i) the amount of the employee's relevant annual compensation (if the employee has between two and five years of credited service with ServiceMaster) or (ii) 2.5 times the employee's relevant annual compensation (if the employee has more than five years of credited service). The amount of an employee's relevant annual compensation will be the amount of the cash compensation received by the employee during the calendar years preceding the year in which the Plan becomes activated with respect to the takeover involved, provided that in no event will an employee be entitled to receive under the Plan more than twice the amount of the compensation (including both cash compensation and benefits with a monetary value received in a form other than cash) received by the employee during the calendar year preceding the termination of his or her employment. The Plan is not limited to management employees but rather covers every ServiceMaster employee who has at least two years of credited service at the time his or her employment terminates. The Plan provides that a takeover will be deemed to have occurred for purposes of the Plan when (i) any organization or group (other than ServiceMaster employees or plans established for the benefit of ServiceMaster employees) acquires ownership of at least 20% of ServiceMaster outstanding shares, or (ii) a majority of the positions on the Board of Directors of ServiceMaster Management Corporation (the "ServiceMaster Board") come to be occupied by "Takeover Directors" (as defined in the Plan). The Plan provides that it will automatically become activated with respect to any particular takeover ten days after the ServiceMaster Chief Executive Officer becomes aware that the takeover has occurred except that the ServiceMaster Board has the right to accelerate or postpone the date upon which the Plan will become activated with respect to any particular takeover. The ServiceMaster Board has the right at any time before the Plan becomes 31 activated to modify the terms of the Plan and to exempt any particular takeover from operation of the Plan or to terminate the Plan, but no such notification exemption or termination can be made after activation. Employees are entitled to compensation under the Plan in connection with any takeover to which the Plan applies only if their employment terminates within the "Shakeout Period" beginning at the time such takeover occurs and ending on the second anniversary of the date on which the Plan is activated with respect to that particular takeover. The Plan is expressly intended to be a severance pay plan for purposes of the Employee Retirement Income Security Act of 1974 ("ERISA") and ServiceMaster employees are expressly entitled to the protection afforded by ERISA to participants in a severance pay plan. The Plan is designed to put any organization which may at any time consider taking over ServiceMaster on notice in advance that it may be required to compensate individuals who have made significant career investments in ServiceMaster if those individuals are disadvantaged by the takeover. At the same time, the Plan is intended to serve the best interests of those who invest in ServiceMaster for the long term by (i) improving the ability of the ServiceMaster enterprise to recruit and retain employees, (ii) increasing the willingness of employees to risk working for long-term rewards rather than seeking to maximize their immediate salary, and (iii) providing insurance to employees against any unfavorable outcome, and thereby encouraging employees to remain with ServiceMaster while the outcome of a takeover attempt is in doubt. Compensation Committee Interlocks and Insider Participation The persons who served as members of the Compensation Committee of the Registrant's board of directors during 1996 are Henry O. Boswell (Chairman), Herbert P. Hess and Phillip B. Rooney. The Compensation Committee consists solely of independent members of the board of directors. There are no interlocking arrangements involving service by any executive officer of the Registrant on the Compensation Committee of another entity and an executive officer of such other entity serving on the ServiceMaster Compensation Committee. Board Compensation Committee Report on Executive Compensation The following report of the Compensation Committee of the Board of Directors of ServiceMaster Management Corporation was delivered to the Board of Directors on March 21, 1997. The Compensation Committee consists of three members of the Board of Directors, all of whom are independent directors. As used in the report, the term "salary year" means the calendar year. REPORT OF THE COMPENSATION COMPENSATION COMMITTEE To: The Board of Directors The Compensation Committee (the "Committee") hereby submits its report to the Board of Directors for the year 1996. The Committee met four times during the year 1996 and has held one meeting to date in 1997. At its July 1996 meeting, the Committee adopted the following charter for its activities: The charter of the Compensation Committee of The ServiceMaster Company Limited Partnership is to review matters of compensation and benefits and to report to the Executive Committee of the Board of Directors. This committee is appointed by the Executive Committee and the Board of Directors: 32 1. To recommend the compensation of the Chief Executive Officer and the Chairman of the Board of Directors; 2. To review and approve the recommendations of the Chief Executive Officer on other compensation matters, including base salaries, annual and longterm incentive plans and payments, option planning and employee benefits. 3. To certify or report on compensation performance and payments as needed for compliance with current regulations.' At each of its meetings during the year 1996, the Committee considered an incentive compensation plan to be activated at the beginning of the year 1998, at which time ServiceMaster's status as a partnership will be terminated and the company will convert to corporate form. Among other things, this means that the investment by senior management in the stock of ServiceMaster Management Corporation will terminate, as will the dividends which have been paid to the stockholders of ServiceMaster Management Corporation since 1987. The Committee concluded that this investment/dividend arrangement should be replaced by a new performance-based compensation plan for senior management. The Committee's studies showed that the new compensation plan has the potential to generate approximately the same flow of income to senior management as has occurred in past years through the Management Corporation. However, the new plan is different in that it is performance based. At its December 1996 meeting, the Committee reviewed the compensation levels of senior members of management, evaluatesd the performance of management and recommendsed a base salary for each member of senior management for the next salary year. This review and recommendation process includesd a review of additional compensation (if any) payable under the Company's Incentive Reward Compensation Plan. At the end of each salary year, the Compensation Committee determiness part of this review, the Committee determined whether adjustments should be made in the compensation of an executive as established by his or hesenior executives as established by their base salaries and the existing Incentive Reward Compensation Plan. The Compensation Committee takesook option grants to senior members of management into account in the reviews and recommendations described above. At its February 1997 meeting, the Committee approved and recommended grants of options in 1997 for up to 2,500,000 shares. This recommendation was thereafter approved by the Executive Committee. Summary of Compensation Policies. The compensation policies applicable to all executive officers are as follows: (1) a base level of compensation is established by reference to the standards described below; (2) bonuses are paid in accordance with the Company's Incentive Reward Compensation Plan, under which bonuses are determined by the extent to which the actual performance of the Company (or the relevant division thereof) achieved budget objectives; and (3) such year- end adjustments as the Compensation Committee may consider to be warranted. The standards for determining the base compensation in any given year for the Chief Executive Officer (and for all other officers whose salaries are subject to Compensation Committee approval) are: performance by the officer in the discharge of his or her responsibilities, financial performance of the Company for the immediately preceding year, and the base salary levels and bonuses of comparable officers in comparable companies. Five Highest Paid Officers. The base compensation of each of the highest paid officers for 19956 (including the Chief Executive Officer) was in the amount recommended by the Compensation Committee in December 19945 and approved by the Board of Directors in the same month. This base compensation was further reviewed at the end of 1995. The Compensation6. The Committee unanimously agreesd that these base levels were reasonable at the time established and reasonable in the context of the performance of the Company in 19956 and the contribution of such persons to the Company's performance. Chief Executive Officer. The base compensation of the Chief Executive Officer for the year 1996 was established at the beginning of the year at $3808,000 and remained at that amount throughout the year. Because the Company's results of operations for 1996 exceededwere satisfactory relative to the 1996 budget, in accordance with the Company's Incentive Compensation Plan the Chief Executive Officer became entitled to an incentive compensation award at the end of 1996 equal to 175% of his 1996 base compensation. The base compensation of the Chief Executive Officer for the year 1997 was set at $450,000. This amount reflects an increase of $62,000 over his base compensation for the year 1996. Any material difference between the Chief Executive Officer's total compensation for 1997 compared to 1996 will be determined by the Company's performance in 1997. The Compensation Committee notes that the Chief Executive Officer was granted an option for 75,000 shares in October 1996. No member of the Compensation Committee is a former or current officer or employee of the Company or any of its subsidiaries. Respectfully submitted, Dated: March 21, 1997 Henry O. Boswell, Chairman Herbert P. Hess Phillip B. Rooney (Compensation Committee) 34 Performance Graph The following graph compares the five-year cumulative total return to shareholders of the Registrant with the five year cumulative return as determined under the Standard & Poor's 500 Index and under the Dow Jones Consumer Services Index. [Performance Graph] [See Graphics Appendix, p. 69] 35 Item 12. Security Ownership of Certain Beneficial Owners and Management The following table sets forth as of March 21, 1997, the beneficial ownership of the Registrant's limited partner shares with respect to each person who is known to the Registrant to be the beneficial owner of more than five percent of such shares:
Amount and Nature of Beneficial Ownership ----------------------------------------- (1) (2) (3) (4) (5) Sole Voting Name and Address and Investment Total Percent of Beneficial Owner Power Other Ownership Ownership - -------------------- ------------ ----- ----------- --------- WMI Urban Services, Inc. 3003 Butterfield Road Oak Brook, IL 60521 29,035,714 (1) 0 29,035,714 19%
Notes: (1) The shares shown in this table include the 1,875,000 shares which are the subject of an option granted to WMI Urban Services, Inc. on December 31, 1995. Such option became exercisable on January 1, 1997. On February 18, 1997, WMI Urban Services, Inc. ("WMUS"), WMX Technologies, Inc. (the parent of WMUS) and the Registrant entered into an agreement under which the Registrant will purchase all of the 27,160,714 shares of the Registrant currently owned by WMUS and the option for 1,875,000 shares currently owned by WMUS in each case by not later than April 14, 1997. Reference is made to the discussion on pages 2-3 for further details of this transaction. (Item 12 is continued on the next page.) 36 The following table sets forth as of March 21, 1997 the beneficial ownership of the Registrant's limited partner shares with respect to ServiceMaster's directors and senior management advisers, those executive officers named in the Summary Compensation Table (page 27) and the Registrant's directors and officers as a group:
Amount and Nature of Beneficial Ownership (1) --------------------------------------------- (1) (2) (3) (4) (5) Sole Voting Name of Investment Total Percent Beneficial Owner and Power Other Ownership Ownership - -------------------- ---------- --------- --------- --------- Paul W. Berezny (3)(4)6)(8) 36,577 550,173 586,750 0.396% Henry O. Boswell (2)(4) 27,475 46,010 73,485 0.050% Carlos H. Cantu (4)(5)(12) 229,280 1,104,988 1,334,268 0.900% Robert D. Erickson (4)(5)(6)(7) 491,649 70,193 561,842 0.379% Brian Griffiths (4) 900 0 900 0.001% Sidney E. Harris (4) 900 750 1,650 0.001% Herbert P. Hess (4)(8) 104,809 13,500 119,209 0.080% Michele M. Hunt 900 0 900 0.001% Donald K. Karnes (4) 849,248 0 849,248 0.573% Robert F. Keith (4)(5) 231,099 63,016 294,115 0.198% Gunther H. Knoedler (4)(6) 36,321 0 36,321 0.025% James D. McLennan (4) 17,880 0 17,880 0.012% Jerry D. Mooney (3)(4)(16) 124,513 336,347 460,860 0.311% Ernest J. Mrozek (4)(5) 156,792 63,016 219,808 0.148% Vincent C. Nelson (4)(8)(9)(10) 25,035 198,160 223,195 0.151% Kay A. Orr (4) 10,388 0 10,388 0.007% Brian D. Oxley (3)(4)(5) 255,948 155,275 411,223 0.277% Dallen W. Peterson (4) 84,473 0 84,473 0.057% C. William Pollard (4)(5)(11) 646,937 112,377 759,314 0.512% Phillip B. Rooney (4) 96,719 0 96,719 0.065% Burton E. Sorensen (4) 9,521 0 9,521 0.006% Charles W. Stair (5)(6)(13) 523,240 76,988 600,228 0.405% David K. Wessner (3)(4)(8)(14) 76,744 1,393,985 1,470,729 0.992% (15) All directors and officers as a group (133 persons) (17) 11,037,546 5,353,186 16,390,732 10.920%
Notes: (1) The shares owned by each person and by all directors and officers as a group, and the shares included in the total number of shares, have been adjusted, and the percentage ownership figures have been computed, in accordance with Rule 13d-3(d)(1)(i). (2) Shares in column (3) include 45,935 shares owned by spouse as to which beneficial ownership is disclaimed. (3) Shares in column (3) include shares held by spouse and/or other family members. (4) Shares in column (2) include shares which may be acquired within sixty days under options granted under the ServiceMaster Share Option Plan, under the ServiceMaster 10Plus Option Plan and/or the Directors Option Plan. 37 (5) Shares in column (3) include shares held in one or more investment partnerships in which the listed person is a partner with shared voting power and investment power. (6) Shares in column (2) include shares held in trust for the benefit of self and/or family members. (7) Shares in column (3) include 48,186 shares owned by spouse or held in trust for the benefit of family members as to which beneficial ownership is disclaimed. (8) Shares in column (3) include shares held in trust for benefit of self and/or family members. (9) Shares in column (2) include 20,575 shares in trust for the benefit of family members as to which beneficial ownership is disclaimed. Shares in column (3) include 6,922 shares held in trust for the benefit of family members as to which beneficial ownership is disclaimed. (10) Shares in column (3) include 2,587 shares owned by a charitable trust of which Vincent C. Nelson is a trustee. Mr. Nelson disclaims beneficial ownership of such shares. (11) Shares in column (3) include 24,020 shares owned by a charitable foundation of which C. William Pollard is a director. Mr. Pollard disclaims beneficial ownership of such shares. Shares in column (3) also include 15,301 shares in trust for the benefit of family members. (12) Shares in column (3) include 15,250 shares owned by a charitable foundation of which Carlos H. Cantu is an officer. Mr. Cantu disclaims beneficial ownership of such shares. (13) Shares in column (3) include 16,050 shares owned by a charitable foundation of which Charles W. Stair is a director. Mr. Stair disclaims beneficial ownership of such shares. (14) Shares in column (3) include 675,000 shares owned by a charitable foundation of which David K. Wessner is a director. Mr. Wessner disclaims beneficial ownership of such shares. (15) Shares in column (3) include 309,165 shares held by an investment company of which David K. Wessner is a shareholder and one of four directors. (16) Shares in column (3) are owned by a corporation in which Mr. Mooney owns no stock but of which he is the president. Mr. Mooney disclaims beneficial ownership of such shares. (17) Includes 1,897,971 shares which certain officers of ServiceMaster, through the exercise of their respective rights, may acquire within 60 days under share purchase agreements, options granted under the ServiceMaster Share Option Plan and options granted under the ServiceMaster 10Plus Option Plan. This figure includes shares purchasable by the persons identified in Item 11 as follows: Mr. Cantu - 0 shares; Mr. Pollard - 0 shares; Mr. Oxley - 10,500 shares; Mr. Keith - 51,587 shares; Mr. Mrozek - 14,303 shares; and all executive officers as a group 138,340 shares. 38 Item 13. Certain Relationships and Related Miscellaneous Transactions ServiceMaster Limited Partnership and The ServiceMaster Company made distributions to ServiceMaster Management Corporation (the managing general partner of these two partnerships) with respect to the year 1996 based on the managing general partner's 1.99% carried interest in the profits and losses of these two partnerships. (See Note D, page 13). Indebtedness of Management The following executive officers were indebted to The ServiceMaster Company in excess of $60,000 at some point during the year 1996. Their indebtedness was incurred by reason of tax loans made in connection with one or more share grants ("Share Grants") made to the person before 1996 under the ServiceMaster Share Grant Award Plan and/or by reason of a full recourse loan made to assist the person in connection with a portion of his acquisition of an equity interest in certain subsidiaries of the Registrant. The figure set opposite the person's name below is the largest amount of such indebtedness outstanding during the year 1996; the figure in parentheses is the amount of such indebtedness outstanding on March 15, 1997: Charles W. Stair $500,000 ($0); Brian D. Oxley $2,459,651 ($32,683); Robert F. Keith - $83,067 ($54,855); and Ernest J. Mrozek - $79,411 ($57,819). Interest on each of the foregoing loans is charged to the borrower at a rate between 6% and 10% per annum and is charged quarterly. 39 PART IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K (a) Financial Statements, Schedules and Exhibits 1. Financial Statements The documents shown below are contained in the Financial Statements and Management Discussion and Analysis section of the ServiceMaster Annual Report to Shareholders for 1996, on pages 25-42 and are incorporated herein by reference: Summary of Significant Accounting Policies Report of Independent Public Accountants Consolidated Statements of Income for the three years ended December 31, 1996, 1995 and 1994 Consolidated Statements of Financial Position as of December 31, 1996 and 1995 Consolidated Statements of Cash Flows for the three years ended December 31, 1996, 1995 and 1994 Consolidated Statements of Shareholders' Equity for the three years ended December 31, 1996, 1995 and 1994 Notes to the Consolidated Financial Statements 2. Financial Statements Schedules Schedule IV--Amounts Receivable from Related Parties and Underwriters, Promoters, and Employees other than Related Parties. The items required by this Schedule are incorporated into the information relating to Share Grants on page 39. Included in Part IV of this Report: Schedule VIII--Valuation and Qualifying Accounts Report of Independent Public Accountants on Schedules Exhibit 11 -- Exhibit Regarding Detail of Income Per Share Computation Exhibit 23 -- Consent of Independent Public Accountants Other schedules are omitted because of the absence of conditions under which they are required or because the required information is given in the financial statements or notes thereto. 40 3. Exhibits The exhibits filed with this report are listed on pages 64-68 herein (the "Exhibits Index"). The following entries in the Exhibits Index are management contracts or compensatory plans in which a director or any of the named executive officers of the Registrant does or may participate. Reference is made to the Exhibits Index for the filing with the Commission which contains such contract or plan.
Exhibit Contract or Plan ------- ------------------------------- 10.1 1987 ServiceMaster Option Plan. 10.3 Deferred Compensation and Salary Continuation Agreement for Officers. 10.4 Deferred Directors Fee Agreement. 10.5 ServiceMaster Executive Share Subscription Program. 10.6 Incentive Reward Compensation Plan. 10.9 ServiceMaster Profit Sharing, Savings & Retirement Plan as amended and restated effective January 1, 1987. 10.10 Share Grant Award Plan. 10.14 ServiceMaster 10-Plus Plan. See also Item 10.19. 10.16 Directors Deferred Fees Plan (ServiceMaster Shares Alternative). 10.19 ServiceMaster 10-Plus Plan as amended September 3, 1991. 10.21 ServiceMaster 1994 Non-Employee Directors Share Option Plan. 10.28 ServiceMaster 1997 Share Option Plan
(b) Reports on Form 8-K None in the last quarter of the period covered by this Report on Form 10-K. 41 Certain Undertakings With Respect To Registration Statements on Form S-8 For the purposes of complying with the amendments to the rules governing Form S-8 (effective July 13, 1990) under the Securities Act of 1933, the Registrant hereby undertakes as follows which undertaking shall be incorporated by reference into each of the Registrant's Registration Statements on Form S-8, including No. 33- 19763 and No. 2-75851: Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of the Registrant pursuant to the foregoing provisions, or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Securities Act of 1933 and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer or controlling person of the Registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of such issue. 42 FEDERAL INCOME TAX CONSIDERATIONS The following discussion of Federal income tax matters describes the material consequences to the non- corporate U.S. shareholders of ServiceMaster Limited Partnership (the "Public Partnership") and to the Public Partnership as sole common limited partner of The ServiceMaster Company Limited Partnership (the "Principal Subsidiary Partnership"). (These two partnerships are together referred to as the "Principal Partnerships".) This discussion does not consider state, local and foreign tax issues, nor does it separately describe (except where noted) the consequences to shareholders who received their shares as a form of compensation (or in exchange for ServiceMaster stock issued in prior years as compensation), or which are corporations, tax-exempt entities, or non-resident alien individuals. THIS DISCUSSION MAY NOT BE DIRECTLY APPLICABLE TO ANY PARTICULAR SHAREHOLDER, DEPENDING ON THAT SHAREHOLDER'S UNIQUE CIRCUMSTANCES. SHAREHOLDERS ARE URGED TO CONSULT THEIR OWN TAX ADVISORS TO DETERMINE THE FEDERAL INCOME TAX TREATMENT IN THEIR SPECIFIC TAX SITUATIONS, INCLUDING THE APPLICATION AND EFFECT OF THE STATE, LOCAL AND FOREIGN LAWS WHICH MIGHT APPLY TO A SPECIFIC SHAREHOLDER. The following discussion is based on provisions of the Internal Revenue Code of 1986 (the "Code"), as amended, existing and proposed regulations promulgated thereunder, judicial deci sions, legislative history, and current administrative rulings and practices. For a number of Code sections the Internal Revenue Service (the "IRS") has been directed or authorized by statute to issue regulations that may materially affect the tax consequences of holding an interest in ServiceMaster. As of the date hereof, certain of these regulations have not yet been promulgated. Moreover, any of the statutes, regulations, rulings, practices, or judicial precedents upon which this discussion is based could be changed, perhaps retroactively, with adverse tax consequences. The Federal income tax treatment of shareholders, as described below, depends in some instances on interpretation by ServiceMaster Management Corporation (the "Managing General Partner") of complex provisions of the Federal income tax law for which no clear precedent or authority may be available. In determining basis adjustments, allocations, asset valuations and taxable income of the Principal Partnerships, the Managing General Partner must make determinations that will affect a shareholder in various ways depending on such factors as the date a shareholder purchased shares of the Public Partnership. Possible Legislative Changes. Congress has considered from time to time the possible enactment of proposals to revise in certain respects the federal income taxation of widely held partnerships (such as the Public Partnership). These proposals would, among other changes, simplify the rules under which the partners report their share of partnership income or loss and change the rules relating to the auditing of, and the collection of deficiencies with respect to, such partnerships. Tax Status of the Principal Partnerships Significance of "Partnership" Status. Except as otherwise provided by Code Section 7704, a partnership incurs no Federal income tax liability unless the partnership is classified as an association taxable as a corporation. Instead, each partner in a partnership is required to take into account in computing his or her Federal income tax liability his or her allocable share of the income, gains, losses, deductions and credits of the partnership. The Federal income tax treatment contemplated for shareholders of the Public Partnership will be available only if the Public Partnership is not classified as an association taxable as a corporation. If either of the Principal Partnerships were classified as an association taxable as a corporation in any year, such partnership's income, gains, losses, deductions and credits would be reflected on its own tax return, rather than being passed through to shareholders, and its net income would be taxed at corporate rates (with the maximum rate for regular tax currently equal to 35%, and the rate for alternative minimum tax equal to 20%). In addition, distributions made to shareholders would be treated as (a) taxable dividend income (to the extent of the partnership's 43 current and accumulated earnings and profits) or, to the extent distributions exceed the partnership's earnings and profits, (b) a non-taxable return of capital (to the extent of a shareholder's basis for his or her shares) or (c) taxable capital gain. In sum, classification of either of the Principal Partner ships as an association taxable as a corporation would result in a material reduction in the anticipated cash flow and after-tax return to shareholders from holding Public Partnership shares. The Principal Partnerships received an opinion of counsel that, as of their formation in December, 1986, the Principal Partnerships would be classified as partnerships for Federal income tax purposes. The Principal Partnerships believe that, since that date, nothing has occurred which changes the conclusion that each of these entities is to be classified as a partnership for Federal income tax purposes. The IRS has issued regulations, effective January 1, 1997, which provide that an unincorporated entity will automatically be classified as a partnership unless it affirmatively elects to be treated as a corporation. The Principal Partnerships will not make such an election. See ServiceMaster Limited Partnership's 1995 Form 10-K for a discussion of the classification rules for partnerships as the law existed prior to January 1, 1997. Publicly Traded Partnerships Treated as Corporations; Exceptions for Certain Publicly Traded Partnerships. Section 7704 of the Code provides that a publicly traded partnership (i.e., any partnership if interests in the partnership are traded on an established securities market or are readily tradeable on a secondary market or the substantial equivalent thereof) will generally be treated as a corporation for Federal income tax purposes with respect to taxable years beginning after 1987. However, Section 7704 also provides that a partnership whose interests were publicly traded on December 17, 1987 will not be treated as a corporation under Section 7704 until the partnership's first taxable year beginning after 1997. This "grandfather status" is lost, however, if the partnership adds a substantial new line of business after December 17, 1987; in that event, the partnership may be treated as a corporation as of the day after the date on which such substantial new line of business is added. The Public Partnership is a publicly traded partnership for purposes of Section 7704 but ServiceMaster intends to continue to operate its businesses in a manner so as to continue to qualify under this exception to the general rule of Section 7704 and to thereby retain its partnership tax status for Federal income tax purposes for all tax years beginning before 1998. In accordance with shareholder approval granted on January 13, 1992, ServiceMaster currently intends to engage in a reincorporating merger not later than December 31, 1997, immediately prior to the time when Code Section 7704 would otherwise automatically treat the Public Partnership as a corporation for Federal income tax purposes. The reincorporating merger should provide certain benefits which might not be available if ServiceMaster remained in partnership form subject to the application of Code Section 7704. As discussed more fully in ServiceMaster's December 11, 1991 proxy statement/prospectus, no Federal income tax will be imposed on shareholders in the Public Partnership by reason of the reincorporating merger, assuming that Federal income tax laws remain as now constituted. The board of directors of the Managing General Partner may accelerate the effective date of the reincorporating merger to a date earlier than December 31, 1997 if either changes in tax laws or other developments cause more than 51% of ServiceMaster's income to be subject to corporate income tax prior to 1998 or the board of directors, in its sole discretion, determines that the advantages of such acceleration to ServiceMaster and the holders of a majority of its outstanding shares outweigh the disadvantages. Such an acceleration of the effective date of the reincorporating merger could adversely impact some shareholders in the Public Partnership. The board of directors does not presently plan to accelerate the effective date of the merger to a date materially earlier than December 31, 1997. THE DISCUSSION THAT FOLLOWS IS BASED ON THE ASSUMPTION THAT THE PRINCIPAL PARTNERSHIPS ARE NOT CLASSIFIED FOR FEDERAL INCOME TAX PURPOSES AS ASSOCIATIONS TAXABLE AS CORPORATIONS, AND THAT THE PUBLIC PARTNERSHIP IS NOT TREATED AS A CORPORATION PURSUANT TO CODE SECTION 7704. 44 Tax Consequences of Partnership Share Ownership General. The Public Partnership is not subject to Federal income tax as an entity. Rather, subject to the limitations prescribed in Code Section 469, each partner is required to report on his or her Federal and state income tax returns his or her allocable share of the income, gains, losses, deductions and credits (and, for alternative minimum tax purposes, tax preference items) of the Public Partnership for the taxable year of the Public Partnership ending with or within his or her taxable year and will be taxable directly on his or her allocable share of the Public Partnership's taxable income. The Public Partnership's taxable income includes its allocable share of the income, gains, losses, deductions and credits (and, for alternative minimum tax purposes, tax preference items) of the Principal Subsidiary Partnership which, in turn, includes its allocable share of such items of subsidiary partnerships. The beneficial owners of Partnership Shares are treated as partners of the Public Partnership for Federal income tax purposes. Thus, if Partnership Shares are held by a nominee, the beneficial owner of the Partnership Shares will be taxed on income and loss of the Public Partnership. Subject to the discussion set forth in the next five paragraphs, because shareholders are required to include Public Partnership income in their income for tax purposes without regard to whether they receive cash distributions of that income, shareholders may be liable for Federal income taxes with respect to Public Partnership income even though they have not received cash distributions from the Public Partnership sufficient to pay such taxes. However, throughout the period from January 1, 1987 to December 31, 1996, the Public Partnership's cash distributions to its shareholders have been substantially in excess of the taxes payable in respect of the taxable income allocated to such shareholders. The Public Partnership has no reason to expect that this situation will not continue through the end of the year 1997. ServiceMaster SGP Trust. In recognition of the fact that in 1993 (for the first time in the Public Partnership's history) taxable income was likely to exceed cash distributions to many shareholders of the Public Partnership, the Principal Subsidiary Partnership admitted the ServiceMaster T Trust as a special general partner of the Principal Subsidiary Partnership effective January 1, 1993. On September 30, 1993, the ServiceMaster T Trust was replaced by the ServiceMaster A Trust. Each of these trusts is hereinafter referred to as the "SGP Trust". The interest held by the SGP Trust is denominated in the Principal Subsidiary Partnership's partnership agreement as a Class T Partnership Interest. (See Note T, page 17). As stated in Note T, the beneficiaries of the SGP Trust are the limited partners of the Public Partnership as constituted from time to time. On the date on which ServiceMaster converts back to corporate form pursuant to the Reincorporating Merger approved on January 16, 1992, the SGP Trust will be assimilated into ServiceMaster Incorporated of Delaware, the successor corporate holding company for the ServiceMaster enterprise. The beneficial interests held by the beneficiaries of the SGP Trust are not assignable or transferable separately, but only by and in connection with the transfer of shares in the Public Partnership. Every assignment, sale or transfer of any interest in shares in the Public Partnership prior to the date on which the SGP Trust terminates will include a proportional undivided beneficial interest in the SGP Trust. Since January 1, 1993 the SGP Trust has been allocated that amount of the taxable income (determined without regard to section 743(b) adjustments) of the Principal Subsidiary Partnership which exceeds the aggregate cash distributions made by the Public Partnership to its limited partners. The effect of this arrangement is that the cash distributions made by the Public Partnership to its limited partners will always equal or exceed the taxable income of the Public Partnership which is directly allocated to its limited partners. With respect to the additional taxable income which is allocated to the SGP Trust, the Principal Subsidiary Partnership makes cash distributions to the SGP Trust from time to time in the amounts required by the SGP Trust to discharge its federal and state income tax liabilities. The SGP Trust does not receive any other allocations of income or cash distributions. The formation of the SGP Trust was not a taxable event to the Principal Partnerships or the shareholders, and the creation of the Class T Partnership Interest was not a taxable event to either the SGP Trust or the Principal Subsidiary Partnership or to the Public Partnership. The distribution of funds to the SGP Trust by the Principal Subsidiary Partnership is not a taxable event to either party. The SGP Trust includes in its taxable income its allocable share of the income of the Principal Subsidiary Partnership. 45 If the SGP Trust were to distribute its income to its beneficiaries, such distributions would be taxable to the beneficiaries. However, because it is not anticipated that the SGP Trust will make any distributions to its beneficiaries, the shareholders of the Public Partnership will not recognize any taxable income on account of the establishment of, and the allocations to, the SGP Trust. Accounting Method and Tax Information. The Public Partnership uses the accrual method of accounting in reporting income and computes income on the basis of a taxable year ending on December 31. The Public Partnership will prepare and furnish to each shareholder of record during any taxable year the information necessary for the preparation of the shareholder's Federal, state and other tax returns required as a result of the operations of the Public Partnership for that year. Tax Basis of Partnership Shares. The tax basis of a share holder in his or her Partnership Shares is significant because (i) basis is used in measuring the gain or loss recognized for tax purposes either upon the receipt of cash distributions from the Public Partnership or upon a partial or complete disposition of Partnership Shares by the shareholder and (ii) a shareholder may deduct his or her allocable share of Public Partnership losses only to the extent of his or her tax basis in his or her shares. See "Tax Consequences of Partnership Share Ownership Taxation of Partners on Public Partnership Distributions" and "Sale or Other Disposition of Shares." Taxation of Partners on Public Partnership Distributions. If the cash distributions to a shareholder by the Public Partner ship in any year exceed his or her allocable share of the Public Partnership's taxable income for that year, the excess will constitute a return of capital to the shareholder to the extent of the shareholder's basis in his or her Partnership Shares. This situation is expected to occur for shareholders whose taxable income is determined by reference to the Section 754 election (see "Section 754 Election", page 52). A return of capital will not be reportable as taxable income by a shareholder for Federal income tax purposes, but will reduce the tax basis of his or her Partnership Shares. If a shareholder's tax basis were reduced to zero, then any further cash distribution to the shareholder for any year in excess of his or her allocable share of the Public Partnership's taxable income for that year would be taxable to him or her as though it were gain on the sale or exchange of his or her Partnership Shares. All or a portion of such excess cash distribution could be treated as ordinary income as the result of the application of the recapture provisions of the Code. See "Sale or Other Disposition of Shares." Limitation on Losses. No investor should invest in the Public Partnership with the expectation that an investment in the Public Partnership will result in tax losses that may be applied to offset an investor's income from other sources. To the extent that the Principal Partnerships' operations result in losses for tax purposes in any calendar year, a shareholder generally will be entitled to use his or her allocable share of such losses to the extent of his or her tax basis in his or her Partnership Shares at the end of the year, subject to the limitations prescribed in Code Section 469. Code Section 469 limits a taxpayer's ability to use losses or credits generated by limited partnerships and other business activities in which such taxpayer does not materially participate ("passive activities"). In general, losses from passive activities will not offset earned income (salary and bonus) or portfolio income (interest, dividends and royalties). Such losses will generally only offset income from other passive activities. Similarly, tax credits from passive activities will only reduce income tax attributable to income from passive activities. Losses and credits from a passive activity which cannot be used in a given year are generally carried forward. These deferred losses and credits, if not usable sooner, will generally be allowed in full when the taxpayer disposes of his or her entire interest in the activity. Section 469 applies separately to each publicly traded partnership. Thus, passive activity losses and credits attribut able to a limited partner's interest in a publicly traded partner ship (such as the Public Partnership) cannot be applied against the limited partner's other income, even if such income is treated as passive under Section 469. Such losses and credits are suspended and carried forward for applications against income from the publicly traded partnership in future years. Upon a complete disposition of the limited partner's interest in the publicly traded partnership in a fully taxable transaction, any of the limited partner's remaining suspended losses generally may be 46 applied against other income. Income attributable to a limited partner's interest in a publicly traded partnership (such as the Public Partnership) cannot be offset by losses or credits from the limited partner's other passive activities. Substantially all of any losses or credits generated by the Public Partnership will likely be subject to the limitations prescribed in Section 469. The limitations prescribed in Section 469 generally apply to individuals, estates, trusts, personal service corporations and, with certain modifications, closely-held corporations. Under current law, a partner who is subject to the "atrisk" limitations of Code Section 465 may not deduct his or her allocable share of partnership losses for a taxable year to the extent they exceed the aggregate amount for which he or she is considered to be "at-risk" with respect to the partnership activities giving rise to those losses as of the end of its taxable year in which the losses occur. Because it is not anticipated that the Principal Partnerships will incur losses that exceed either the shareholders' aggregate basis in their Partnership Shares or amounts "at-risk" with respect to the Principal Partnerships' activities, the "at-risk" limitations under current law should generally not affect shareholders adversely. Federal Income Tax Allocations General. In general, items of income, gain, loss, deduction and credit for the Principal Partnerships are allocated for both accounting and Federal income tax purposes in accordance with the percentage interests of the general and limited partners. However, as discussed in greater detail below, the Managing General Partner is empowered by the limited partnership agreements for the Principal Partnerships (the "Principal Partnership Agreements") to specially allocate various Principal Partnership tax items other than in accordance with percentage interests when, in the judgment of the Managing General Partner, such special allocations are necessary to comply with applicable provisions of the Code and the regulations or, to the extent permissible under the Code and the regulations, to preserve the uniformity of the shares in the Public Partnership, i.e., to ensure that all Partnership Shares will have identical attributes. These allocation provisions will be recognized for Federal income tax purposes if they are considered to have "substantial economic effect" within the meaning of Code Section 704(b). If any allocation fails to satisfy the "substantial economic effect" requirement, the allocated items will be reallocated among the shareholders based on their respective "interests in the partnership," determined on the basis of all of the relevant facts and circumstances. Pursuant to regulations issued under Section 704(b), a partnership allocation will be considered to have "substantial economic effect" if it is determined that the allocation has "economic effect" and the economic effect is "substantial." An allocation to partners (other than an allocation of loss, deduction or certain other items attributable to nonrecourse liabilities ("nonrecourse deductions")) will be considered to have "economic effect" if (i) the partnership maintains capital accounts in accordance with specific rules set forth in the regulations and the allocation is reflected through an increase or decrease in the partners' capital accounts, (ii) liquidating distributions are required to be made in accordance with the partners' respective positive capital account balances by the end of the taxable year (or, if later, within 90 days after the date of liquidation), and (iii) any partner with a deficit in his or her capital account following the distribution of liquidation proceeds would be unconditionally required to restore the amount of such deficit to the partnership. If the first two of these requirements are met but the partner to whom an allocation is made is not obligated to restore the full amount of any deficit balance in his or her capital account, the allocation still will be considered to have "economic effect" to the extent the allocation does not cause or increase a deficit balance in the partner's capital account (determined after reducing that account for certain "expected" adjustments, allocations, and distributions specified by the regulations) if the partnership agreement contains a "qualified income offset" provision. A qualified income offset requires that in the event of any unex pected distribution (or specified adjustments or allocations) to a partner that results in a deficit balance in such partner's capital account, there must be an allocation of income or gain to the distributee that eliminates the resulting capital account deficit as quickly as possible. In order for the "economic effect" of an allocation to be considered "substantial," the regulations require that the alloca tion must have a "reasonable possibility" of "substantially" affecting the dollar amounts to be received by the partners, inde pendent of tax consequences. The regulations provide that the "economic effect" of an allocation 47 will be presumed to be insub stantial if it merely shifts tax consequences within a partnership taxable year or is transitory, i.e., likely to be offset by other allocations in subsequent taxable years. The regulations state, however, that adjustments to the tax basis in property will be presumed to be matched by corresponding changes in the fair market value of the property. Thus, the regulations conclude that there will not be a strong likelihood that an allocation of deductions attributable to depreciation will be transitory due to a provision for a subsequent corresponding allocation of gain attributable to the disposition of that property. In addition to the regulations described above, the Treasury has issued regulations which address the effect of nonrecourse liabilities upon partnership allocations. Under the regulations, if (i) the partnership maintains capital accounts in accordance with specific rules set forth in the regulations and allocations are reflected through an increase or decrease in partners' capital accounts and (ii) liquidating distributions are required to be made in accordance with partners' respective positive capital account balances by the end of the taxable year (or, if later, within 90 days after the date of liquidation), then a partner may be allocated nonrecourse deductions that cause his or her capital account to fall below zero, provided (among other requirements) that the deficit produced by the allocation is not in excess of the minimum gain that would be allocated to the partner in the event the partnership property securing the nonrecourse liability were disposed of in a taxable transaction in full satisfaction of such liability. The regulations further provide that in the event there is a decrease in such partnership's minimum gain for a partnership taxable year, the partners must be allocated items of partnership income and gain for such year (and, if necessary, for subsequent years) in proportion to, and to the extent of, an amount equal to such partner's share of the net decrease in partnership minimum gain during such year. The Principal Partnership Agreements provide that a capital account is to be maintained for each partner, that the capital accounts are to be maintained in accordance with applicable prin ciples set forth in the regulations, and that all allocations to a partner are to be reflected in the partner's capital account. In addition, distributions upon liquidation of the Principal Partnerships are to be made in accordance with respective capital account balances. The Principal Partnership Agreements do not require the limited partners to restore any deficit balance in their capital accounts upon liquidation of the Principal Partnerships. However, the Principal Partnership Agreements contain a "minimum gain" allocation for nonrecourse deductions and a "qualified income offset" provision. Pursuant to the Principal Partnership Agreements, tax income and gain will be allocated in a manner consistent with the book income and gain allocations associated with the minimum gain and qualified income offset provisions. The manner of allocation of items of income, gain, loss, deduction and credit for both book and Federal income tax purposes is set forth in the Principal Partnership Agreements. In general, the Principal Partnerships' income, gains, losses, deductions and credits are allocated pursuant to the Principal Partnership Agreements among the partners pro rata in accordance with their percentage interests, except that the allocation of taxable income of the Principal Subsidiary Partnership to the ServiceMaster SGP Trust is determined in the manner described above and in Note T, page 18. The Principal Partnership Agreements contain special allocations of book income and gain for the qualified income offset and minimum gain provisions (discussed above) and special allocations of income and deduction to preserve the uniformity of shares. The Principal Partnership Agreements further provide exceptions to the pro rata allocations for Federal income tax purposes of (i) income, gain, loss and deductions attributable to properties contributed to the Principal Partnerships in exchange for shares ("Contributed Property"), (ii) income, gain, loss and deductions attributable to the Principal Partnerships' properties where the Principal Partnerships have adjusted the book value of such properties upon the Public Partnership's issuance of additional shares to reflect unrealized appreciation or depreciation in value from the later of the Principal Partnerships' acquisition date for such properties or the latest date of a prior issuance of shares ("Adjusted Property"), (iii) curative allocations of gross income and deductions to preserve the uniformity of shares issued or sold from time to time, (iv) recapture income resulting from the sale or disposition of Principal Subsidiary Partnership assets ("Recapture Income"), (v) income and gain in a manner consistent with the allocation of book income and gain pursuant to a qualified income offset, and (vi) income and gain attributable to nonrecourse debt in a manner consistent with the allocation of book income and gain under a minimum gain provision. With respect to property contributed by a shareholder to the Principal Partnerships, the Principal Partnership Agreements provide that, for Federal income tax purposes, partnership income, gain, loss and deductions shall first 48 be allocated among the partners in a manner consistent with Code Section 704(c). In addition, the Principal Partnership Agreements provide that partnership income, gain, loss and deductions attributable to Adjusted Property shall be allocated for Federal income tax purposes in accordance with Section 704(c) principles. Pursuant to Section 704(c), items of partnership income, gain, loss and deduction with respect to Contributed Property are to be shared among the partners pursuant to regulations so as to take account of the differences between the Principal Subsidiary Partnership's basis for the property and the fair market value of the property at the time of the contribution (i.e., a Book-Tax Disparity). The IRS has issued final regulations under Section 704(c) which provide that these allocations of partnership income, gain, loss and deduction to account for the BookTax Disparity can be made by any reasonable method. The final regulations set forth three non- exclusive allocation methods which are generally considered to be reasonable. The Principal Subsidiary Partnership makes every effort to comply with these regulations. As discussed below, the Code Section 754 election permits an adjustment in the basis in the assets of the Principal Subsidiary Partnership and subsidiary partnerships pursuant to Code Section 743(b) to reflect the price at which Partnership Shares are purchased from a shareholder as if such purchaser had acquired a direct interest in such assets. See "Section 754 Election." Such Section 743(b) adjustment is attributed solely to such purchaser of shares and is not added to the bases of the assets of the Principal Subsidiary Partnership and subsidiary partnerships associated with all of the shareholders ("common bases"). With respect to Section 743(b) adjustments, proposed regulations relating to ACRS depreciation appear to require the acquiring partner to use a depreciation method and useful life for the increase in basis which is different from the method and useful life generally used to depreciate the Public Partnership's common bases in the assets of the Principal Subsidiary Partnerships and subsidiary partnerships. The Managing General Partner has the authority under the Principal Partnership Agreements to specially allocate items of income and deductions in a manner that will preserve the uniformity among all shares, so long as such allocations are consistent with and supportable under the principles of Code Section 704. The Managing General Partner may use a "depreciation convention method" or any other convention to preserve the uniformity of shares. If no allowable or workable convention is available to preserve the uniformity of Partnership Shares or the Managing General Partner in its discretion so elects, the Partnership Shares may be separately identified as distinct classes to reflect differences in tax consequences. The Managing General Partner has adopted conventions and allocations to achieve uniformity among all Partnership Shares. The Principal Partnership Agreements also require that gain from the sale of Principal Subsidiary Partnership properties, to the extent characterized as Recapture Income, be allocated (to the extent such allocation does not alter the allocation of gain otherwise provided for in the Principal Partnership Agreements) among the partners (or their successors) in the same manner in which such partners were allocated the deductions giving rise to such Recapture Income. The Section 704(b) regulations and Sections 1.1245- 1(e) and 1.1250-1(f) of the regulations tend to support a special allocation of Recapture Income. However, such regulations do not specifically address a special allocation based on the allocation of the deductions giving rise to such Recapture Income as stated in the Principal Partnership Agreements. Therefore, it is not clear that the allocation of Recapture Income will be given effect for Federal income tax purposes. If it is not, such Recapture Income will be allocated to all shareholders and the general partners. Transferor/Transferee Allocations. The Principal Part nerships will allocate their taxable income and losses among the shareholders of record in proportion to the number of Partnership Shares owned by them based on the number of months during the year for which each shareholder was record owner of the shares. The Principal Partnerships' taxable income and loss allocable to each month will be determined by allocating such income or loss pro rata to each month in the year. With respect to any Partnership Share that is transferred during any calendar month, the Principal Partnerships will treat a shareholder who becomes the record owner of such share on or before the close of business on the fifteenth day of the month as having been the owner of such share for the entire month if he or she holds such share for the remainder of such month. Conversely, a shareholder who becomes the record owner of a Partnership Share during such month but after the fifteenth day of a calendar month will be allocated the 49 taxable income and losses attributable to the second half of such month if he or she holds such share for the remainder of such month. Depreciation; Amortization; Recapture General. The Principal Partnerships claim depreciation, cost recovery and amortization deductions with respect to the purchase price (or other tax basis) of the various properties of the Principal Partnerships and subsidiary partnerships and related improvements to the extent permitted by the applicable Code provisions. Land is not subject to depreciation, cost recovery or amortization deductions. Until the enactment of Code section 197 in 1993, the general rule was that if an intangible asset has a determinable useful life, then the cost of the asset may be amortized over that useful life using a straight-line method. If, however, the useful life of an intangible asset is not determinable, then the cost of the intangible asset may not be amortized or deducted. In 1993, Congress enacted Code Section 197. This section allows for the amortization of certain intangibles over a 15-year period. This 15-year amortization period must be used even if the intangible asset has a useful life of less than 15 years. The types of intangible assets covered by Code Section 197 include goodwill, going concern value, work force in place, licenses, permits, covenants not to compete, franchises, trademarks, trade names, customer-based intangible assets (e.g., favorable sale contracts) and supplier-based intangible assets (e.g., favorable supply contracts). Interests in partnerships are specifically excluded from Code Section 197, among other types of intangible assets. Code Section 197 applies to intangible assets acquired after August 10, 1993 unless an election is made to apply Code Section 197 retroactively starting after July 25, 1991. The Principal Partnerships elected to have the provisions of Code Section 197 apply retroactively to an increase in basis for property acquired by the Principal Partnerships after that date. This election can be expected to increase the amount of intangible amortization of the Principal Partnerships. Various components of the Principal Partnerships' properties fall into each of the categories discussed in the preceding paragraphs. A portion of the cost of certain Principal Partnership properties is allocable to (i) nondepreciable, nonamortizable land, (ii) tangible property, some of which is real property (i.e., buildings and structural components) or tangible personal property that may qualify for depreciation deductions, and (iii) intangible property that may or may not qualify for amortization. For shareholders who purchased shares in the Public Partnership after August 10, 1993, the amortization on the intangible assets acquired by the Principal Partnerships before July 26, 1991 allowed by Section 197 will apply only to the increase in basis resulting from the Code Section 754 election. In other words, no amortization under Code Section 197 will be allowed on the Principal Partnerships' original basis in intangible assets, unless those assets were acquired by the Principal Partnerships after July 25, 1991. Deductions for depreciation, cost recovery and amortization claimed by the Principal Partnerships with respect to assets of the Principal Partnerships and subsidiary partnerships reduce the partnerships' adjusted basis for the properties, thereby increasing the potential gain (or decreasing the potential loss) to the Principal Partnerships upon the ultimate disposition of the properties. These deductions also have the effect of reducing the shareholders' adjusted basis for their Partnership Shares (by reducing taxable income or increasing tax losses), thereby affecting the potential gain or loss to be realized upon a subsequent sale of the shares. See "Sale or Other Disposition of Shares." 50 Sale or Other Disposition of Shares General. In the event of a sale or disposition of Part nership Shares, a shareholder will recognize gain or loss, as the case may be, on the disposition in an amount equal to the difference between the amount realized by the shareholder on the dispo sition and his adjusted tax basis for his Partnership Shares. See "Tax Consequences of Partnership Share Ownership" -- "Tax Basis of Partnership Shares." For these purposes, a shareholder's share (as determined for purposes of Code Section 752) of any Principal Partnership indebtedness attributable to the transferred Part nership Shares will be included in the amount realized on the disposition. Generally, under current law, gain recognized by a share holder on the sale or exchange of shares that have been held for more than twelve months will be taxable as long-term capital gain, taxable at a maximum rate of 28% in the case of taxpayers other than corporations. However, that portion of the gain attributable to "substantially appreciated inventory items" and "unrealized receivables" of the Principal Partnerships, as those terms are defined in the Code, will be treated as ordinary income. Ordinary income attributable to unrealized receivables and inventory items may exceed the net taxable gain realized upon the sale and may be recognized even if there is a net tax loss realized upon the sale. "Unrealized receivables" include, among other things, the shareholder's proportionate share of the amounts that would be recaptured as ordinary income if the Principal Partnerships were to have sold their assets at fair market value at the time the shareholder transferred his shares. See "Depreciation; Amortization; Recapture". Any loss recognized upon the sale of shares generally will be treated as a capital loss. A shareholder will not ordinarily recognize any gain or loss upon making a gift of Partnership Shares. However, a shareholder making a gift of Partnership Shares more likely than not will include as an amount realized the share (as determined for purposes of Code Section 752) of any of the Partnerships' indebt edness allocable to the transferred Partnership Shares. See "Tax Consequences of Partnership Share Ownership" -- "Tax Basis of Partnership Shares." Such shareholder would therefore recognize gain (but not loss) on making a gift of Partnership Shares if the shareholder's basis had declined so that it were less than such amount deemed realized. In the case of a deductible gift to a charitable organization the donor's basis is apportioned between the value deemed contributed and the deemed sale price. Any gain recognized more likely than not would be subject to the same rules (described above) which apply to gain recognized on a sale of a Partnership Share, so that some portion could be treated as ordinary income. The IRS has ruled that a partner must maintain an aggregate adjusted tax basis in his entire partnership interest (consisting of all interests in a given partnership acquired in separate transactions). Upon the sale of a portion of such aggregate interest, such partner would be required to allocate his aggregate tax basis between the portion of the interest sold and the portion of the interest retained according to some equitable apportionment method. (The IRS ruling requires that the apportionment be based on the relative fair market values of such interests on the date of sale.) This requirement, if applicable to the Public Partnership, effectively would preclude a shareholder owning shares that were purchased at different prices on different dates from controlling the timing of the recognition of the inherent gain or loss in his shares by selecting the specific shares that he will sell. However, the application of this ruling in the context of a publicly traded limited partnership such as the Public Partnership is not clear. The ruling does not address whether this aggregation requirement, if applicable, results in the tacking of the holding period of older shares onto the holding period of more recently acquired shares. Transferor/Transferee Allocations. The manner in which the Principal Partnerships intend to allocate their taxable income and losses between transferors and transferees of shares is described above under "Federal Income Tax Allocations" -"Transferor/ Transferee Allocations." Shareholders contemplating a transfer of shares should note that cash distributions to which they are entitled may not correspond to the Principal Partnerships' taxable income and loss which shall be allocated between the transferor and transferee of such shares. Information Return Filing Requirements. The Public Partnership is required to notify the IRS of any sale or exchange (of which the Public Partnership has notice) of a share and to report to the IRS the name, address, and taxpayer identification number of the transferee and the transferor who were parties to such transaction and of the Public Partnership, the date of the transaction and any additional information required by the applicable information 51 return or its instructions. The Public Partnership also must provide this information to the transferor and the transferee. If the Public Partnership fails to furnish the required information to the IRS, the Public Partnership may be subject to a penalty of up to $50 per failure, up to an annual maximum penalty of $250,000, unless the failure is due to an intentional disregard of the requirement, in which case a penalty of $100 per failure or if greater, 5% of the amount required to be reported, would apply, without limit. Penalties could also be asserted against the Public Partnership if it fails to furnish the required information to the transferor and the transferee. Any person who directly or indirectly holds an interest in the Public Partnership as a nominee on behalf of another person during a Public Partnership taxable year must furnish the Public Partnership with a written statement for such taxable year iden tifying the name, address and taxpayer identification number of the nominee and such other person and providing information regarding acquisitions and transfers of Partnership Shares (including information regarding acquisition cost and net sale proceeds) made by the nominee on behalf of such other person during such taxable year. Section 754 Election Effect of the Election. The Principal Partnerships have made and expect to continue to make the election permitted by Section 754 of the Code which allows adjustments to the basis of partnership property under Section 743 of the Code upon certain transfers of a partnership interest. Such election, once made, is irrevocable absent the consent of the IRS. The general effect of such an election upon a transfer of shares is to permit the purchaser of such shares to adjust the basis of the Principal Partnerships' properties for purposes of his tax return to reflect the price at which his shares are purchased, as if such purchaser had acquired a direct interest in the Principal Partnerships' assets. Effect of the Interplay Between the Section 754 Election, Section 197 and the SGP Trust. As discussed on page 44, the existence of the SGP Trust means that the taxable income of ServiceMaster Limited Partnership as allocated to each of its shareholders will not be greater than the cash distributions made to that shareholder. For many shareholders, however, taxable income will be less than their cash distributions due to the effect of the Section 754 election. The principal effect of the Section 754 election is to cause the calculation of a partner's share of taxable income to reflect amortization and depreciation deductions which are determined by using a higher basis (reflecting the partner's purchase price) in the underlying assets than the partnership's own internal, historical basis for those assets. In this connection, the provision in the Revenue Reconciliation Act of 1993 which permits the amortization of intangible assets over a 15-year period has important consequences to those persons who purchased ServiceMaster shares on August 10, 1993 or thereafter. If their purchase price for such shares is at least $15 per share ($22 per share before the June 1996 3-for-2 share split), their proportionate interest in the assets of ServiceMaster, including goodwill and other intangible assets on which amortization is now being taken over a 15- year period, will cause the calculation of their share of ServiceMaster's taxable income to include deductions which are expected to leave such persons with an allocation of no taxable income on such ServiceMaster shares or with negative taxable income on those shares. (If a limited partner is allocated negative taxable income on his or her ServiceMaster shares, it can be used to offset a like amount of positive taxable income on other ServiceMaster shares or gain upon the sale of ServiceMaster shares; however, it can not be used to offset taxable income from other sources). Under these circumstances, cash distributions on such shares will decrease the tax basis of those shares by the amount of cash distributed and without an offsetting increase in basis attributable to the allocation of taxable income to those shares. Accordingly, the amount of gain realized upon a taxable disposition of the shares will be greater than would be the case if the Section 754 election had not been made. Tax exempt organizations such as pension plans, profit sharing plans, IRAs, Keoghs, private foundations and other charitable organizations will benefit from the interplay among the Section 754 election, the SGP Trust and the amortization of intangibles in another way. Such entities are subject to the unrelated business income tax on their share of the taxable income of a publicly traded partnership (such as ServiceMaster). However, since their ServiceMaster taxable income is expected to be zero or less (for the reasons discussed above), such entities should not be subject to any unrelated business income tax liability or tax return filing requirement. 52 Other Section 754-Related Matters. If a shareholder's adjusted basis in his or her Partnership Shares is less than his or her proportionate share of adjusted basis of the Principal Partnerships' property at the time of acquisition of such Partnership Shares, such shareholder's share of adjusted basis of the Principal Partnerships' property must be reduced to equal his or her basis in the Partnership Shares, resulting in adverse con sequences to such shareholder. A proper allocation of the adjustment among the various assets deemed purchased for purposes of Section 743(b) requires a determination of the relative value of the Principal Partnerships' assets at such time. The IRS may challenge any such allocations. Should the IRS require a different basis adjustment to be made, and should, in the Corporate General Partner's opinion, the expense of compliance exceed the benefit of the election, the Corporate General Partner may seek permission from the IRS to revoke the Section 754 elections for the Principal Partnerships. If such permission is granted, a purchaser of Partnership Shares probably will incur increased tax liability. Termination of the Principal Partnerships for Tax Purposes Code Section 708 provides that if 50% or more of the capital and profits interests in a partnership are sold or exchanged within a single 12-month period, the partnership will be considered to have terminated for tax purposes. Because of the structure of the Principal Partnerships, it is likely that a Code Section 708 termination of the Public Partnership would result in a Code Section 708 termination of the Principal Subsidiary Part nership as well. In view of the fact that Partnership Shares will be publicly traded, it is possible that shares representing 50% or more of the Public Partnership's capital and profits interests might be sold or exchanged within a single 12-month period. However, a share that changes hands several times during a 12-month period would only be counted once for purposes of determining whether a termination has occurred. If the Principal Partnerships should terminate for tax purposes, they would be deemed to have distributed their assets to their partners, who would then be deemed to have contributed the assets to new partnerships. The Principal Partnerships would have a new basis in their non-cash assets equal to the aggregate basis of the shareholders in their Partnership Shares prior to the termination plus any gain recognized by the shareholders in the termination, less any cash deemed distributed to the shareholders in connection with the termination. Accordingly, if the basis of the shareholders in their Partnership Shares is more or less than the Principal Partnerships' aggregate basis in their assets immediately prior to the termination, the Principal Partnerships' basis in their non-cash assets following the termination might have to be reallocated among those assets to reflect the relative fair market values of those assets at the time of termination. Such a reallocation may be favorable or unfavorable, depending on the circumstances. Generally, a shareholder would not recognize any taxable gain or loss as a result of the deemed pro rata distribution of Principal Partnership assets incident to a termination of the Principal Partnerships. A shareholder, however, would recognize gain to the extent, if any, that the shareholder's pro rata share of the Principal Partnerships' cash (and the reduction, if any in the shareholder's share of the Principal Partnerships' indebtedness as determined for purposes of Code Section 752) at the date of termination exceeded the adjusted tax basis of his Partnership Shares. Also, the Principal Partnerships' taxable years would terminate. If the shareholder's taxable year were other than the calendar year, the inclusion of more than one year of the Principal Partnerships' income in a single taxable year of the shareholder could result. Also, new tax elections would be required to be made by the reconstituted partnerships. Finally, a termination of the Principal Partnerships may cause the Principal Partnerships or their assets to become subject to unfavorable statutory or regulatory changes enacted prior to the termination but previously not applicable to the Principal Partnerships or their assets because of protective "transitional" rules. However, a constructive termination under Code Section 708 should not cause the Partnership to lose the benefits of the upto-10year grace period during which the application of new Code Section 7704 is postponed. See "Tax Status of the Principal Partnerships" and "Publicly Traded Partnerships Treated as Corporations." The IRS has issued proposed regulations which provide that a termination of a partnership would be treated as a contribution by the terminated partnership of all of its assets and liabilities to a new partnership in exchange for all the interests in the new partnership. The terminated partnership would then be deemed to distribute the interests in the new partnership to the new partner and all remaining partners in liquidation of the terminated partnership. These 53 proposed regulations would eliminate (i) any reallocation of basis among the non-cash assets of the Public Partnership and (ii) the potential for gain recognizable by the shareholders upon a termination of the Public Partnership. However, the Public Partnership's taxable year would still end; it would need to file new elections with the IRS and the termination could subject the Public Partnership or its assets to unfavorable statutory or regulatory changes enacted prior to the termination but previously not applicable to the Public Partnership or its assets because of protective transitional rules. In order to preserve maximum liquidity for the Partnership Shares, the Public Partnership has not adopted procedures designed to prevent a deemed termination of the Principal Partnerships from occurring. An actual dissolution of the Principal Partnerships will result in the distribution to the shareholders of record of any assets remaining after payment of, or provision for, the Principal Partnerships' debts and liabilities. To the extent that a shareholder is deemed to receive money (including any reduction in his share of Principal Partnership liabilities as determined for purposes of Code Section 752) in excess of the basis of his Partnership Shares, such excess generally will be taxed as a capital gain, except to the extent of any unrealized receivables or substantially appreciated inventory items, as described above. See "Sale or Other Disposition of Shares." A shareholder will recognize a loss upon dissolution only if the liquidating distribution consists solely of cash, or of cash and unrealized receivables and appreciated inventory items, and then only to the extent that the adjusted basis of his Partnership Shares exceeds the amount of money received and his basis in such unrealized receivables and inventory items. Minimum Tax on Tax Preference Items The Code provides for an alternative minimum tax on the excess of alternative minimum taxable income over an exemption amount. Although these rules are applicable to the shareholders of the Public Partnership, in fact the Public Partnership has had no preference items since inception and does not anticipate generating any preference items in the future. Investment Interest Each individual shareholder's distributive share of the Public Partnership's portfolio income (i.e., income from interest, dividends, annuities and royalties not derived in the ordinary course of a trade or business) will be treated as investment income under Code Section 163(d) and may be offset by the shareholder's investment interest expense. Code section 163(d) has been amended to exclude capital gains on the disposition of investment property from the computation of investment income unless a shareholder elects to include such gains in his or her taxable income at ordinary rates. A portion of the interest incurred by a shareholder to finance the acquisition of Partnership Shares will generally be treated as investment interest expense if the Principal Partnerships hold investment property. The IRS has announced that forthcoming Regulations will also treat an individual shareholder's net passive income from a publicly traded partnership (such as the Public Partnership) as investment income under Code Section 163(d). Accordingly, the amount of an individual shareholder's net passive income if any from the Public Partnership will be treated as investment income for purposes of Code Section 163(d). For this purpose, the computation of the amount of a shareholder's net passive income from the Public Partnership will take into account any passive activity deductions attributable to expenses of the shareholder that are incurred outside the Public Partnership and are properly allocable to the interest in passive activities that the share holder holds through Partnership Shares. Thus, the amount of a shareholder's net passive income, if any, from the Public Part nership generally will be reduced on account of a portion of any interest incurred by the shareholder to finance the acquisition of Partnership Shares. Noncorporate shareholders are urged to consult their tax advisors with regard to the specific effect that limitations on the deduction of investment interest would have on their investment in the Public Partnership. 54 Tax-Exempt Entities, Individual Retirement Accounts and Regulated Investment Companies Unrelated Business Taxable Income. Tax-exempt entities (including IRAs and trusts that hold assets of employee benefit or retirement plans) are subject to tax on certain income derived from a business regularly carried on by the entity that is unre lated to its exempt activities (i.e., "unrelated business taxable income" ("UBTI")). It is anticipated that nearly all of any taxexempt entity's share (whether or not distributed) of the Principal Partnerships' gross income will be treated as gross income from an unrelated business, and the tax- exempt entity's share of nearly all of the Principal Partnerships' deductions will be allowed in computing the tax-exempt entity's UBTI. Tax-exempt shareholders other than those who benefit from the interplay between the Section 754 Election, Section 197 and the SGP Trust as described on page 52 would be subject to tax on any UBTI to the extent that the sum of such UBTI (i.e., gross income net of deductions), if any, from their Partnership Shares and from other sources were to exceed $1,000 in any particular year. Moreover, even if their UBTI does not exceed $1,000 so that tax-exempt shareholders do not incur a Federal income tax liability, they nevertheless will be required to file income tax returns if their gross income included in computing such UBTI is $1,000 or more for any tax year. Investment Company Income. For purposes of determining whether a shareholder is a regulated investment company (within the meaning of Code Section 851), the shareholder's income derived from the Principal Partnerships will be treated as income from dividends, interest and gains from the sale or other disposition of securities only to the extent the shareholder's income is attributable to such dividends, interest and gains realized by the Principal Partnerships. Administrative Matters Information to Shareholders and Assignees. In addition to the required Schedule K1 to be furnished by the Public Part nership to holders of Partnership Shares during a particular taxable year, the Public Partnership intends to furnish detailed instructions and explanations advising recipients of the Schedule K1 as to how to fill out their own income tax returns. The infor mation will be provided within 90 days after the end of the Public Partnership's taxable year. Partnership Tax Returns and Possible Audit. Although a partnership is not required to pay any Federal income tax, tax audits are conducted, and the tax treatment of partnership income, loss, deduction and credit is determined, at the partnership level in a unified proceeding. In audits of partnerships, the IRS ordinarily will provide notice of the commencement of administrative proceedings and final adjustment only to each partner with an interest in profits of 1% or more. The Corporate General Partner is designated the "tax matters partner" ("TMP") to receive notice on behalf of and to provide notice to those shareholders with interests of less than 1% in the Public Partnership ("non-notice shareholders"). The TMP may extend the statutory period of limitations for assessment of adjustments attributable to "partnership items" for all shareholders and may enter into a binding settlement on behalf of non-notice shareholders, except for any group of such shareholders with an aggregate interest of 5% or more in Public Partnership profits that elects to form a separate notice group or shareholders who otherwise properly notify the IRS that the TMP is not authorized to act on their behalf. If the IRS and the TMP fail to settle an audit proceeding, then the TMP may choose to litigate the matter. In that event, the TMP would select the court in which such litigation would occur (including, perhaps, a court where prepayment of the tax may be required). All shareholders would have the right to participate in such litigation and, regardless of participation, would be bound by the outcome of the litigation. Because shareholders will be affected by the outcome of any administrative or court proceedings with respect to both the Public Partnership and the Principal Subsidiary Partnership, the Corporate General Partner intends to provide shareholders with appropriate notices of Federal income tax proceedings with respect to both Principal Partnerships. Shareholders will be required to treat Public Partnership items on their individual returns in a manner consistent with the treatment of those items on the Public Partnership's return, unless the shareholders file with the 55 IRS a statement identifying the inconsistency. Examination of the Principal Partnerships' tax returns could result in an adjustment to the tax liability of a shareholder without any examination of the shareholder's tax return. In addition, any such audit could result in an audit of a shareholder's entire tax return and in adjustments to non partnership related items on that return. Tax Shelter Registration. The Code requires a tax shelter organizer to register a "tax shelter" with the IRS by the first date on which interests in the tax shelter are offered for sale. Such registration does not indicate approval by the IRS and could result in an audit. The registration provisions require the tax shelter organizer to maintain a list containing information on each investor, would require the shareholders to report the Public Partnership's tax registration number on their separate Federal income tax returns, and would require the Public Partnership to maintain a list of each person to whom it transfers an interest in a "tax shelter." Penalties may be imposed if registration is required and not made. A "tax shelter" for purposes of the registration requirement is one in which a person could reasonably infer, from the representations made in connection with any offer for sale of any interest in the investment, that the "tax shelter ratio" for any investor may be greater than two to one as of the close of any of the first five years ending after the date on which the investment is offered for sale. The term "tax shelter ratio" is the ratio that the aggregate amount of gross deductions plus 350% of the credits that are potentially allowable to an investor bears to the partner's investment base for the year. The Public Partnership has not been registered as a "tax shelter" because it expects that no shareholder's tax shelter ratio will exceed two to one. Accuracy-Related Penalties. The Code provides for a penalty to be assessed in the event of a tax underpayment attributable to a substantial overstatement of the value or adjusted basis of property claimed on a tax return. This penalty will apply if (i) the claimed value or adjusted basis of the property equals or exceeds 200% of the correct value or adjusted basis, and (ii) the amount of the tax underpayment for the taxable year attributable to substantial valuation overstatements exceeds $5,000 ($10,000 in the case of a corporation other than an S corporation or a personal holding company). The amount of the penalty generally is 20% of the tax underpayment attributable to substantial valuation overstatements where the claimed value or adjusted basis is less than 400% of the correct value of adjusted basis, and 40% of the tax underpayment attributable to substantial valuation overstatements where the claimed value or adjusted basis equals or exceeds 400% of the correct value or adjusted basis. The penalty will likely be potentially applicable to partners in cases where the partnership has made a substantial valuation overstatement. The penalty generally will not apply with respect to any portion of a tax underpayment attributable to a substantial valuation overstatement (with respect to property other than charitable deduction property) if it is shown that there was a reasonable cause for such portion and that the taxpayer acted in good faith with respect to such portion. The Code provides for a penalty in the amount of 20% of any underpayment of tax attributable to a "substantial understatement of income tax." A "substantial understatement of income tax" is the amount of the understatement of tax on a taxpayer's return for a particular taxable year that exceeds the greater of $5,000 ($10,000 if the taxpayer is a corporation other than an S corpora tion or a personal holding company) or 10% of the tax required to be shown on the return for the year. As a general rule, the penalty will not be imposed with respect to underpayments attributable to items for which (i) there is or was substantial authority for the tax treatment afforded such items by the taxpayer, or (ii) the relevant facts affecting the treatment of such items are adequately disclosed in the taxpayer's return or in a statement attached to the return and there was a reasonable basis for the position. The penalty will not apply with respect to any portion of a tax underpayment attributable to a substantial understatement of income tax if it is shown that there was a reasonable cause for such portion and that the taxpayer acted in good faith with respect to such portion. There can be no assurance that a shareholder will not have a substantial understatement of income tax as a result of the treatment of items of income, gain, loss, deduction and credit resulting from his investment in the Public Partnership or that the IRS will not contend that there is not substantial authority for the treatment on the shareholder's return of certain items of income, gain, loss, deduction and credit. If the IRS should challenge the treatment by the Principal Partnerships for tax purposes of the various items of income, gain, loss, deduction and credit, and if a shareholder should fail to meet the substantial authority and adequate disclosure tests, a shareholder could incur a penalty for a substantial underpayment of taxes resulting from his investment in the Public Partnership. 56 Interest on Deficiencies. The Code provides that interest accrues on all tax deficiencies at a rate based on the Federal short-term rate plus 3 percentage points (5 percentage points in certain cases involving underpayment by a C corporation of tax amounting to more than $100,000) and compounded daily. This interest applies to penalties as well as tax deficiencies. Backup Withholding. Distributions to shareholders whose Partnership Shares are held on their behalf by a broker may con stitute reportable payments subject to backup withholding. Backup withholding, however, would apply only if the shareholder (i) failed to furnish his Social Security number or other taxpayer identification number to the person subject to the backup withholding requirement (e.g., the broker) or (ii) furnished an incorrect Social Security number or taxpayer identification number. If backup withholding were applicable to a shareholder, the person subject to the backup withholding requirement would be required to withhold 31% of each distribution to such shareholder and to pay such amount to the IRS on behalf of such shareholder. Amounts withheld under the backup withholding provisions are allowable as a refundable credit against a taxpayer's Federal income tax. Tax Considerations for Foreign Investors General. A nonresident alien or foreign corporation, trust or estate ("foreign person") which is a partner in a partnership which is engaged in a business in the United States will be considered to be engaged in such business, even though the foreign person is only a limited partner. The activities of the Principal Partnerships will constitute a United States business for this purpose, and such activities likely will be deemed to be conducted through a permanent establishment within the meaning of the Code and applicable tax treaties. Therefore, a foreign person who becomes a shareholder in the Public Partnership will be required to file a United States tax return on which he must report his distributive share of the Principal Partnerships' items of income, gain, loss, deduction and credit, and to pay United States taxes at regular United States rates on his share of any of the Principal Partnerships' net income, whether ordinary income or capital gains. Code Section 1446 generally requires partnerships which have taxable income effectively connected with a trade or business in the United States to withhold tax with respect to the portion of such income allocable to foreign partners. This withholding tax generally is imposed at the rate of 39.6% with respect to effectively connected income (as computed for purposes of Section 1446) allocable to foreign individuals, and 35% with respect to effectively connected income (as computed for purposes of Section 1446) allocable to foreign corporations and withholding may be required under Section 1446 even if no actual distribution has been made to partners. However, pursuant to an IRS Revenue Procedure, in the case of a publicly traded partnership (such as the Public Partnership) the Code Section 1446 withholding tax will be imposed in an alternative manner unless the publicly traded partnership elects not to have such alternative treatment apply. Under this alternative approach, the Code Section 1446 withholding tax is imposed on distributions made to individual or corporate foreign partners. The Treasury is authorized to issue such regulations applying Section 1446 to publicly traded partnerships as may be necessary to carry out the purposes of Section 1446, but such regulations have not yet been issued. Although foreign shareholders would be entitled to a United States tax credit for amounts withheld by Principal Partnerships under Section 1446, either Section 1446 or the regulations (not yet issued) applying Section 1446 to publicly traded partnerships could under some circumstances adversely affect the Principal Partnerships and the foreign shareholders. Branch Profits Tax. Code Section 884 imposes a branch profits tax at the rate of 30 percent (or lower to the extent provided by any applicable income tax treaty) on the earnings and profits (after certain adjustments) of a U.S. branch of a foreign corporation, if such earnings and profits are attributable to income effectively connected with a U.S. trade or business. The legislative history of Code Section 884 indicates that the branch profits tax is intended to apply to foreign corporations that are partners in partnerships which have a U.S. trade or business. Thus, foreign corporations which own shares in the Public Partnership may be subject to the branch profits tax on earnings and profits attributable to the Principal Partnerships' income as well as federal income tax on their share of Partnership income. The earnings and profits (which are subject to branch profits tax) attributable to Partnership Shares held by a foreign corporation will, of course, reflect a reduction for Federal income taxes paid by the foreign corporate shareholder on its share of Partnership income. 57 FIRPTA. The Foreign Investment in Real Property Tax Act of 1980 ("FIRPTA"), as amended by subsequent legislation, provides that gain or loss on the disposition of a United States Real Property Interest ("USRPI") is taxable in the United States as if effectively connected with a U.S. business and imposes withholding requirements on such sales and on distributions of USRPIs by partnerships to foreign persons. USRPIs include (i) United States real estate and (ii) interest in certain entities (including publicly traded partnerships) holding United States real estate. The shares will not be USRPIs unless the value of the Principal Partnerships' United States real estate equals or exceeds 50% of the value of all its business assets. Furthermore, the FIRPTA rules generally do not apply to any foreign person which owns 5% or less of the publicly traded Partnership Shares. FIRPTA also imposes certain withholding obligations with respect to dispositions of USRPIs by a partnership that are includable in a foreign person's share of partnership income. Foreign Taxes. A foreign person may be subject to tax on his share of the Principal Partnerships' income and gain in his country of nationality or residence, or elsewhere. The method of taxation in such jurisdictions, if any, may differ considerably from the United States tax system described previously, and may be affected by the United States characterization of the Principal Partnerships and their income. Prospective investors who are foreign persons should consult their own tax advisors with respect to the potential tax effects of these and other items related to an investment in the Public Partnership. State and Local Income Taxes In addition to the Federal income tax consequences described above, prospective investors should consider state and local tax consequences of an investment in the Public Partnership. A shareholder's share of the taxable income or loss of the Principal Partnerships generally will be required to be included in determining his reportable income for state or local tax purposes. If the Public Partnership is treated as a corporation under Code Section 7704, as described above under "Tax Status of the Partnerships" -- "Publicly Traded Partnerships Treated as Corporations," the Public Partnership may also be treated as a corporation for state tax purposes in those states which base state income taxes on Federal income tax laws. Management has been successful in filing a composite return on behalf of its individual shareholders in all states where the Principal Partnerships do business. The Public Partnership will provide information each year to the shareholders as to the share of income and taxes paid on their behalf in each state. For those entities not included in the composite state return (corporations, partnerships and certain other entities), the Public Partnership will provide the applicable state information. Certain tax benefits which are available to shareholders for Federal income tax purposes may not be available to shareholders for state or local tax purposes and, in this regard, investors are urged to consult their own tax advisors. The Public Partnership intends to supply shareholders with information regarding their income, if any, derived from various jurisdictions in which the Principal Subsidiary Partnership operates. 58 SCHEDULE VIII
SERVICEMASTER LIMITED PARTNERSHIP VALUATION AND QUALIFYING ACCOUNTS (In thousands) Deductions- Balance at Charged to Reserves of Write-offs of Beginning of Costs and Acquired Uncollectible Balance at Classification Period Expenses Companies Accounts End of Period - ----------------------------- ----------- ---------- ----------- -------------- ------------- AS OF DECEMBER 31, 1996: Allowance for doubtful accounts-- Accounts receivable (current) $18,029 20,517 --- 14,429 $24,117 Notes receivable (current) $ 2,439 59 --- 328 $ 2,170 AS OF DECEMBER 31, 1995: Allowance for doubtful accounts-- Accounts receivable (current) $17,610 16,878 94 16,553 $18,029 Notes receivable (current) $ 2,504 350 --- 415 $ 2,439 AS OF DECEMBER 31, 1994 Allowance for doubtful accounts-- Accounts receivable (current) $17,563 15,428 531 15,912 $17,610 Notes receivable (current) $ 1,875 685 -- 56 $ 2,504
59 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Shareholders of ServiceMaster Limited Partnership: We have audited in accordance with generally accepted auditing standards, the financial statements included in ServiceMaster Limited Partnership's annual report to shareholders incorporated by reference in this Form 10-K, and have issued our report thereon dated January 22, 1997. Our audit was made for the purpose of forming an opinion on those statements taken as a whole. The schedules included in Part IV in the Form 10-K are the responsibility of the Company's management and are presented for purposes of complying with the Securities and Exchange Commission's rules and are not part of the basic financial statements. These supporting schedules have been subjected to the auditing procedures applied in the audit of the basic financial statements and, in our opinion, fairly state in all material respects the financial data required to be set forth therein in relation to the basic financial statements taken as a whole. Arthur Andersen LLP Chicago, Illinois January 22, 1997 (February 24, 1997, as to the pending transaction with WMX Technologies, Inc. and the acquisition of Barefoot Inc. which are discussed in the footnotes to the financial statements.) 60 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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. SERVICEMASTER LIMITED PARTNERSHIP, Registrant By: ServiceMaster Management Corporation (General Partner) Date: March 21, 1997 By /s/ C. WILLIAM POLLARD C. William Pollard Chairman Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in their capacities and on the date indicated.
Signature Title Date - ------------------------- ------------------------- -------------- /s/ C. WILLIAM POLLARD Chairman and Director March 21, 1997 C. William Pollard /s/ CARLOS H. CANTU President and Chief Executive March 21, 1997 Carlos H. Cantu Officer and Director /s/ CHARLES W. STAIR Vice Chairman and Director March 21, 1997 Charles W. Stair /s/ ERNEST J. MROZEK Senior Vice President and March 21, 1997 Ernest J. Mrozek Chief Financial Officer (Principal Financial Officer) /s/ PAUL W. BEREZNY, JR. Director March 21, 1997 Paul W. Berezny, Jr. 61 /s/ HENRY O. BOSWELL Director March 21, 1997 Henry O. Boswell /s/ BRIAN GRIFFITHS Director March 21, 1997 Brian Griffiths /s/ SIDNEY E. HARRIS Director March 21, 1997 Sidney E. Harris /s/ HERBERT P. HESS Director March 21, 1997 Herbert P. Hess /s/ MICHELE M. HUNT Director March 21, 1997 Michele M. Hunt /s/ GUNTHER H. KNOEDLER Director March 21, 1997 Gunther H. Knoedler /s/ JAMES D. McLENNAN Director March 21, 1997 James D. McLennan /s/ VINCENT C. NELSON Director March 21, 1997 Vincent C. Nelson /s/ KAY A. ORR Director March 21, 1997 Kay A. Orr /s/ DALLEN W. PETERSON Director March 21, 1997 Dallen W. Peterson 62 /s/ PHILLIP B. ROONEY Director March 21, 1997 Phillip B. Rooney /s/ BURTON E. SORENSEN Director March 21, 1997 Burton E. Sorensen /s/ DAVID K. WESSNER Director March 21, 1997 David K. Wessner
63
EXHIBITS INDEX Exhibit No. Description of Exhibit - ----------- -------------------------------------------- 2.1 Acquisition Agreement dated December 5, 1996 by and among ServiceMaster Limited Partnership, ServiceMaster Acquisition Corporation and Barefoot Inc. is incorporated by reference to Annex A-1 to the Offering Circular/Prospectus included as part of the Registration Statement on Form S-4 as filed by ServiceMaster Limited Partnership on January 17, 1997 (SEC Registration No. 33317759). 2.2 Plan and Agreement of Merger dated December 5, 1996 by and among ServiceMaster Limited Partnership, ServiceMaster Acquisition Corporation and Barefoot Inc. is incorporated by reference to Annex A-2 to the Offering Circular/Prospectus included as part of the Registration Statement on Form S-4 as filed by ServiceMaster Limited Partnership on January 17, 1997 (SEC Registration No. 33317759). 4.1 ServiceMaster Limited Partnership Agreement of Limited Partnership, as Amended and Restated on December 30, 1986 is incorporated by reference to Exhibit 4.1 to the Annual Report on Form 10-K for the year ended December 31, 1986 (SEC File Number 0-3168) (the "1986 10-K"). 4.2 Amendment No. 1 to the Amended and Restated Agreement of Limited Partnership of ServiceMaster Limited Partnership is incorporated by reference to Exhibit 4.2 to the Annual Report on Form 10-K for the year ended December 31, 1987 (SEC File No. 1-9378) (the "1987 10K"). 4.3 Amendment No. 2 to the Amended and Restated Agreement of Limited Partnership of ServiceMaster Limited Partnership is incorporated by reference to Exhibit 4.3 to the Annual Report on Form 10-K for the year ended December 31, 1988 (SEC File No. 1-9378) (the "1988 10 K"). 4.4 Amendment No. 3 to the Amended and Restated Agreement of Limited Partnership of ServiceMaster Limited Partnership is incorporated by reference to Exhibit 4.4 to the Annual Report on Form 10-K for the year ended December 31, 1989 (SEC File No. 1-9378) (the "1989 10K"). 4.5 Amended and Restated Agreement of Limited Partnership of ServiceMaster Limited Partnership, effective January 31, 1992, is incorporated by reference to Annex A to the Proxy Statement/Prospectus of ServiceMaster Limited Partnership and ServiceMaster Incorporated of Delaware dated December 11, 1991 (the "December 1991 Proxy Statement/Prospectus"). 4.6 Amended and Restated Agreement of Limited Partnership of ServiceMaster Limited Partnership effective January 1, 1993 is incorporated by reference to Exhibit 4.10 to the Annual Report on Form 10-K for the year ended December 31, 1992 (SEC File No. 19378) (the "1992 10-K"). 4.7 The ServiceMaster Company Limited Partnership Agreement of Limited Partnership, as Amended and Restated on December 30, 1986 (the "Amended and Restated ServiceMaster Company Limited Partnership Agreement"), is incorporated by reference to Exhibit 4.2 to the 1986 10K. 4.8 Amendment No. 1 to the Amended and Restated ServiceMaster Company Limited Partnership Agreement is incorporated by reference to Exhibit 4.5 to the 1988 10K. 4.9 Amendment No. 2 to the Amended and Restated ServiceMaster Company Limited Partnership Agreement is incorporated by reference to Exhibit 4.7 to the 1989 10K. 64 4.11 Amended and Restated Agreement of Limited Partnership of The ServiceMaster Company Limited Partnership, effective January 1, 1993, is incorporated by reference to Exhibit 4.11 of the 1992 10-K. 10.1 1987 ServiceMaster Option Plan is incorporated by reference to Exhibit 10.1 of the ServiceMaster Registration Statement on Form S-8 (No. 33-19109), filed with the SEC on December 16, 1987 (the "Option Plan Registration Statement"). 10.2 Form of Option Agreement for 1987 ServiceMaster Option Plan is incorporated by reference to Exhibit 10.2 of the Option Plan Registration Statement. 10.3 Form of Deferred Compensation and Salary Continuation Agreement for Officers is incorporated by reference to Exhibit 10(c)(3) to the Annual Report on Form 10-K for the year ended December 31, 1980 (SEC File No. 03168) (the "1980 10-K"). 10.4 Form of Deferred Directors Fee Agreement is incorporated by reference to Exhibit 10(c)(4) to the 1980 10-K. 10.5 Form of ServiceMaster Executive Share Subscription Program, Share Subscription and Purchase Agreement, Disclosure Confirmation, effective August 18, 1987, is incorporated by reference to Exhibit 10.5 to the 1987 10K. 10.6 Incentive Reward Compensation Plan is incorporated by reference to Exhibit 10(c)(6) to the 1980 10-K. 10.7 ServiceMaster Industries Inc. Profit Sharing, Savings and Retirement Trust dated April 1, 1984 is incorporated by reference to Exhibit 10(c)(11) to the Annual Report on Form 10-K for the year ended December 31, 1985. 10.9 ServiceMaster Profit Sharing, Savings and Retirement Plan amended and restated effective January 1, 1987 is incorporated by reference to the 1987 10 K. 10.10 Form of the Share Grant Award Plan is incorporated by reference to Exhibit 10.12 to the 1987 10-K. 10.11 License Agreement by and among The ServiceMaster Company Limited Partnership, The Terminix International Company Limited Partnership and Duskin Co., Ltd., dated May 11, 1987 is incorporated by reference to Exhibit 10.3 to the 1987 10-K. 10.12 Form of Executive Debenture Equity Program 9% Convertible Subordinated Debenture Due April 1, 1995; Subscription to Purchase; Form of Call Agreement; Form of Promissory Note is incorporated by reference to Exhibit 10.14 to the 1987 10-K. 10.13 The Terminix International Company LP Profit Sharing Retirement Plan (previously known as Cook International, Inc. Profit Sharing Retirement Plan) effective January 1, 1984; Amendment No. One to The Terminix International Company L.P. Profit Sharing Retirement Plan effective January 1, 1986 and April 1, 1986; Amendment No. Two, effective April 1, 1986; Amendment No. Three, effective January 1, 1987 and January 1, 1988; The Terminix International Company L.P. Profit Sharing Retirement Trust, all of which are incorporated by reference to Exhibit 10.15 to the 1987 10-K. 65 10.14 ServiceMaster 10-Plus Plan is incorporated by reference to Exhibit 4.2 to the ServiceMaster Limited Partnership Registration Statement on Form S8 (No. 33-39148) filed with the SEC on February 26, 1991 (the "10-Plus Registration Statement"). 10.15 Form of Option Agreement for the ServiceMaster 10-Plus Plan is incorporated by reference to Exhibit 4.3 to the 10-Plus Registration Statement. 10.16 Form of Directors Deferred Fees Plan (ServiceMaster Shares Alternative) is incorporated by reference to Exhibit 10.18 to the Annual Report on Form 10-K for the year ended December 31, 1990 (SEC File No. 1-9378) (the "1990 10-K") 10.17 Form of Directors Deferred Fees Agreement (ServiceMaster Shares Alternative) is incorporated by reference to Exhibit 10.19 of the 1990 10-K. 10.18 Form of ServiceMaster Deferred Fees Plan Trust is incorporated by reference to Exhibit 10.20 of the 1990 10K. 10.19 ServiceMaster 10-Plus Plan as amended September 3, 1991 is incorporated by reference to Exhibit 10.21 to the Annual Report on Form 10-K for the year ended December 31, 1991 (the "1991 10-K"). 10.20 Form of Option Agreement for the ServiceMaster 10 Plus Plan as amended September 3, 1991 is incorporated by reference to Exhibit 10.22 to the 1991 10K. 10.21 ServiceMaster 1994 Non-Employee Director Share Option Plan is incorporated by reference to Exhibit to the ServiceMaster Limited Partnership Registration Statement on Form S-8 (No. 33- ) filed with the Securities and Exchange Commission on October 5, 1994 (the "Directors Share Plan Registration Statement"). 10.22 Form of Option Agreement for the ServiceMaster 1994 Non- Employee Director Share Option Plan is incorporated by reference to Exhibit 4.3 to the Directors Share Plan Registration Statement. 10.23 $300,000 Credit Agreement between ServiceMaster and certain Lenders dated August 31, 1995 and amendment there to dated October 15, 1996 is incorporated by reference to Exhibit 10.33 to the Registration Statement on Form S-4 as filed by ServiceMaster Limited Partnership on January 17, 1997 (SEC Registration No. 333-17759). 10.24 Contribution Agreement dated December 31, 1995, among ServiceMaster Limited Partnership, ServiceMaster Consumer Services Limited Partnership, WMI Urban Services, Inc., and WMX Technologies, Inc., is incorporated by reference to Exhibit 1 to the Current Report on Form 8-K as filed by ServiceMaster Limited Partnership on January 15, 1996 (the "January 15, 1996 8-K"). 10.25 Option Agreement dated December 31, 1995 between ServiceMaster Limited Partnership, ServiceMaster Incorporated of Delaware, and WMI Urban Services, Inc. is incorporated by reference to Exhibit 2 to the January 15, 1996 8-K. 10.26 Relationship Agreement dated December 31, 1995 between ServiceMaster Limited Partnership,ServiceMaster Incorporated of Delaware, WMX Technologies, Inc. and WMI Urban Services, Inc. is incorporated by reference to Exhibit 3 to the January 15, 1996 8-K. 66 10.27 Share and Option Repurchase Agreement between ServiceMaster Limited Partnership, WMX Technologies, Inc. and WMUS Urban Services, Inc. dated February 18, 1997 is incorporated by reference to Exhibit 99.1 to the Current Report on Form 8K as filed by ServiceMaster Limited Partnership on February 19, 1997 (the "February 19, 1997 8K"). 10.28 ServiceMaster 1997 Share Option Plan 10.29 Form of Option Agreement for the ServiceMaster 1997 Share Option Plan 11 Exhibit regarding detail of income per share computation for each of the three years ended December 31, 1995, 1994 and 1993. 13 The ServiceMaster Annual Report to Shareholders for the year ended December 31, 1996 (the "1996 Annual Report"). The parts of the 1996 Annual Report which are expressly incorporated into this report by reference shall be deemed filed with this report. All other parts of the 1996 Annual Report are furnished for the information of the Commission and are not filed with this report. 21 Subsidiaries of Registrant. 23 Consent of Arthur Andersen LLP. 27 Financial Data Schedule (EDGAR filing only) 99.1 Amended and Restated Certificate of Incorporation of ServiceMaster Management Corporation is incorporated by reference to Exhibit 28.1 to the 1986 10-K. 99.2 Amended and Restated Bylaws of ServiceMaster Management Corporation is incorporated by reference to Exhibit 28.2 to the 1986 10-K. 99.3 Common Stock Purchase Agreement entered into by certain purchasers of the Common Stock of ServiceMaster Management Corporation on December 30, 1986 is incorporated by reference to Exhibit 28.3 to the 1986 10K. 99.4 Voting Trust Agreement among the stockholders and directors of ServiceMaster Management Corporation, dated December 30, 1986 is incorporated by reference to Exhibit 28.4 to the 1986 10-K. 99.5 Participation Agreement dated November 8, 1990, by and among ServiceMaster Consumer Services Limited Partnership, The ServiceMaster Company Limited Partnership, ServiceMaster Consumer Services Management Corporation, ServiceMaster Management Corporation, Waste Management, Inc., WMI Urban Services, Inc., and WMPC, Inc. is incorporated by reference to Exhibit 4.2 to the Form 8-K filed on November 21, 1990 (the "November 1990 8-K"). 99.6 Amended and Restated Agreement of Limited Partnership for ServiceMaster Consumer Services Limited Partnership dated November 8, 1990 is incorporated by reference to Exhibit 4.4 to the November 1990 8-K. 67 99.7 Merger and Reorganization Agreement dated December 10, 1991, by and among ServiceMaster Incorporated of Delaware, ServiceMaster Limited Partnership, ServiceMaster Corporation, ServiceMaster Management Corporation, NewSub A, Inc., and NewSub B, Inc., is incorporated by reference to Annex D to the December 1991 Proxy Statement/Prospectus. 99.8 Amended and Restated Agreement of Limited Partnership of ServiceMaster Management Services Limited Partnership dated December 1991 is incorporated by reference to Exhibit 28.10 to the 1991 10-K. 99.9 Amended and Restated Certificate of Incorporation of ServiceMaster Incorporated of Delaware as filed on December 17, 1991 is incorporated by reference to Exhibit 28.11 to the 1992 10-K. 99.10 Amended and Restated Agreement of Limited Partnership of ServiceMaster Consumer Services Limited Partnership effective June 30, 1992 is incorporated by reference to Exhibit 28.12 to the 1992 10-K. 99.11 Amended and Restated Certificate of Incorporation of ServiceMaster Incorporated of Delaware as filed in January, 1993 is incorporated by reference to Exhibit 28.13 to the 1992 10-K. 99.12 Agreement of Trust (T Trust) between The ServiceMaster Company Limited Partnership, as grantor, and Continental Bank National Association, as trustee, dated January 1, 1993 is incorporated by reference to Exhibit 28.14 to the 1992 10-K. 99.13 Agreement of Trust (A Trust) between The ServiceMaster Company Limited Partnership, as grantor, and Continental Bank National Association, as trustee, dated January 1, 1993 is incorporated by reference to Exhibit 28.15 to the 1992 10-K.
68 Graphics Appendix This appendix describes the graphics which could not be put into electronic format and which have been filed with the Securities and Exchange Commission as a paper filing. A diagram captioned "Structure of ServiceMaster" is set forth on page 10. This diagram shows the principal holding and operating units within the ServiceMaster enterprise. The Registrant is shown at the top of the diagram and The ServiceMaster Company appears directly below the Registrant. The four principal segments of ServiceMaster are set forth below. The principal operating units within each segment are then depicted. Reference is made to the "Notes to Organizational Structure Chart" on pages 13-17 for a further explanation of the diagram. A Performance Graph is set forth on page 35 which consists of a line graph which compares the yearly percentage change in ServiceMaster's cumulative total shareholder return on its limited partner shares (computed in accordance with the Item 302(d) of Reg. S-K) with the cumulative return on the stocks of the companies within the S&P 500 Index and with the Dow Jones Consumer Services Index over the five year period from January 1, 1992 to December 31, 1996. The chart shows that ServiceMaster outperformed both indices in 1992, 1993, 1994, 1995 and 1996 by wide margins over the last four years. 69 EX-10 2 SERVICEMASTER 1997 SHARE OPTION PLAN 1. INTRODUCTION 1.1 Title . The plan described herein shall be known as the "ServiceMaster 1997 Share Option Plan". It is hereinafter referred to as the "Plan". 1.2 Purpose. (a) The purpose of the Plan is to enhance employee and director ownership of ServiceMaster Limited Partnership by providing both selected employees of The ServiceMaster Company and its subsidiaries and non- employee members of the Board of Directors of the Managing General Partner of the Company with the opportunity to acquire shares of ServiceMaster Limited Partnership. (b) The term "Company" as used in this Part 1 and elsewhere in this Plan means ServiceMaster Limited Partnership or any successor entity which has acquired, directly or indirectly, all or substantially all of the assets of the Company and which has agreed to assume the obligations of the Company under this Plan. 1.3 Adoption of the Plan. The Plan was approved and adopted on February 26, 1997, effective February 13, 1997 by the Executive Committee of the Board of Directors of the Managing General Partner of the Company. 1.4 Defined Terms. Certain terms used in this Plan have the meaning set forth in the section in which they are defined or as set forth in Section 2.1 or Section 11.1 hereof. 1 2. ADMINISTRATION 2.1 Certain Definitions. As used in this Part 2 and elsewhere in this Plan, the following terms have the indicated meanings: "Board of Directors" and "Board" means the board of directors of the Managing General Partner, provided, that if any entity other than ServiceMaster Limited Partnership becomes the "Company" for purposes of this Plan, then the term "Board of Directors" and "Board" shall mean the board of directors or other group responsible for the governance of such entity. "Committee" means the Compensation Committee of the Board of Directors. "Executive Committee" means the Executive Committee of the Board of Directors. "Managing General Partner" means ServiceMaster Management Corporation, the corporate general partner of the Company and of The ServiceMaster Company Limited Partnership, except that if ServiceMaster Management Corporation is replaced as the managing general partner of the Company, then the term "Managing General Partner" means the person thereafter authorized to act as the managing general partner of the Company. 2 2.2 Administration by the Committee. (a) The Plan shall be administered by the Committee except as otherwise provided in Section 2.2(b). (b) Notwithstanding paragraph (a) above, the Board of Directors or the Executive Committee may administer this Plan in whole or in part at any time and However, in lieu of establishing the Committee, and subject to Section 2.2, the Board of Directors may decide to administer this Plan itselffrom time to time. In such circumstances all of the powers and duties established herein with respect to the Committee shall be applicable to the Board of Directors and to the Executive Committee. 2.3 Powers of the Committee. (a) The Plan shall be administered by the Committee in accordance with the provisions of this instrument. (b) The Committee shall have the power and authority to adopt, amend and rescind rules and procedures governing the administration of the Plan. (c) All actions of the Committee which are within the scope of the authority granted to the Committee by this Plan or delegated to the Committee by the Board of Directors shall be binding on all persons. 2.4 Committee Procedures. (a) The Committee shall hold meetings at such times and places as it may determine. The Committee may make such rules and regulations for the 3 conduct of its business as it deems advisable. Unless the Board of Directors or the Committee shall expressly decide to the contrary, a majority of the members of the Committee shall constitute a quorum. Any action taken by a majority of the Committee members at a meeting at which a quorum of Committee members is present shall be deemed to be an act of the Committee. (b) Any member or members of the Committee may participate in a meeting of the Committee by means of a conference telephone or similar communications equipment by means of which all persons participating in the meeting can hear each other. (c) Any action required or permitted to be taken at any meeting of the Committee may be taken without a meeting if all of the members of the Committee execute a consent to such action in writing (which may be in counterparts) and the writing or writings are filed with the records of the Committee. 2.5 Indemnification. (a) No member of the Committee shall be liable, in the absence of bad faith, for any act or omission with respect to his or her service on the Committee. (b) Service on the Committee shall constitute service as a member of the Board of Directors so that the members of the Committee shall be entitled to indemnification and reimbursement as members of the Board of Directors for any 4 action or any failure to act in connection with service on the Committee to the full extent provided for or permitted by the Certificate of Incorporation or the Bylaws of the Managing General Partner or by the Partnership Agreement of the Company or by any insurance policy or other agreement intended for the benefit of the directors of the Managing General partner or by any applicable law. 3. PERSONS ELIGIBLE TO RECEIVE OPTIONS 3.1 Eligibility Requirements. (a) A person shall be eligible to be granted an option under this Plan only if, on the proposed Granting Date for such option, such person is either (i) a "qualified employee" or (ii) a member of the Board of Directors. (b) A "qualified employee" means a person who meets all of the following standards: (i) He or she is employed either by the Company, The ServiceMaster Company Limited Partnership, the Managing General Partner or a Subsidiary; and (ii) He or she has managerial, supervisory or similar responsibilities; 4. GRANT OF OPTIONS 4.1 Powers of the Committee with Respect to the Granting of Options. The Committee is authorized -- 5 (a) To select the qualified employees and directors to whom options shall be granted under this Plan and to determine the number of Shares to be subject to each option granted under the Plan, the number of options to be awarded to each qualified employee or director and the Granting Date (as defined in Section 4.2 below) for each option; (b) Except as otherwise expressly provided in this Plan, to determine, at the time of the grant of each option, all terms and conditions governing the rights and obligations of the holder with respect to such option, including but not limited to: (i) the exercise price per Share or the method by which the exercise price per Share shall be determined; (ii) the length of the period during which the option may be exercised and any limitations on the number of shares purchasable with the option at any time during such period; (iii) the times at which the option may be exercised; (iv) any conditions precedent to be satisfied before the option may be exercised; (v) any restrictions on resale of any Shares purchased upon exercise of the option; and (vi) whether the Company will retain a right to repurchase Shares sold upon exercise of such option and, if so, the terms governing such repurchase right; and (c) To grant at any time to any qualified employee and to any director an option to purchase Shares from the Company on such terms, and subject to such conditions as are 6 consistent with the provisions of this Plan, as the Committee may establish on or prior to the date on which the option is granted. 4.2 Granting Date. An option shall be deemed to have been granted under this Plan on the date (the "Granting Date") designated by the Committee as the Granting Date at the time it approves such option. 5. TERMS APPLICABLE TO ALL OPTIONS 5.1 Exercise Price. (a) Except as otherwise provided in Part 9, the price at which each Share may be purchased upon exercise of an option granted under this Plan shall be the amount equal to the fair market value of the Share on the Granting Date. (b) The Committee may determine fair market value based on the closing price of the Shares on the New York Stock Exchange on the trading day occurring on or immediately preceding the Granting Date or by such other means as the Committee reasonably determines. The Committee's determination of fair market value shall be binding for all purposes. 5.2 Option Agreement. No person shall have any rights under any option granted under this Plan unless and until the Company and the person to whom such option has been granted have executed and delivered an agreement which expressly grants the option to such person and sets forth the terms of the option. 7 5.3 Ten Year Maximum Term; Expiration Date. No option may be granted under this Plan which may be exercised more than ten years after the Granting Date of such option. The term "expiration date" as applied to any option under this Plan means the earlier of the tenth anniversary of the Granting Date for such option or the expiration date specified in the Term Sheet for such option. 5.4 Modification of Option After Grant. Each option granted under this Plan may be modified after the date of its grant by express agreement between the Company and its holder, provided, that any such change shall not be inconsistent with the terms of this Plan and shall be approved by the Committee. 5.5 Limitations on Transfer. (a) As used in this Section 5.5 and elsewhere in this Plan, the term "Option Holder" means the original grantee of the option, such person's guardian or legal representative if, while the grantee is alive, the option has been transferred to such guardian or legal representative, and, after the death of the original grantee, the person to whom the original grantee's right have passed by reason of the original grantee's death. (b) No option granted under this Plan shall be transferable otherwise than by law or by will or by the laws of descent and distribution. (c) Each option granted under this Plan may be exercised only by the Option Holder. 8 5.6 Taxes. The Company shall be entitled, if the Committee deems it necessary or desirable, to withhold (or secure payment from the Option Holder in lieu of withholding) the amount of any withholding or other tax due from the Company with respect to any amount payable and/or Shares issuable under any option granted under this Plan. The Company may defer such payment or issuance unless indemnified to its satisfaction against any liability for any such tax. 5.7 No Right to Employment Conferred. Nothing in this Plan or, in the absence of any express provision to the contrary, in any option granted pursuant to this Plan, shall confer on any person any rights to continue in the employment of the Company or any subsidiary or interfere in any way with the right of the Managing General Partner, the Company or any subsidiary of the Company to terminate such person's employment at any time. 5.8 Plan Provisions Control Option Terms. The provisions of this Plan shall govern all options granted under this Plan. In no event shall the Committee have the power to grant any option under this Plan which is contrary to any of the provisions of this Plan. If any provision of any option granted under this Plan shall conflict with any provision of this Plan as in effect on the Granting Date of such option, such provision in this Plan shall control. Except as provided in Part 9, the terms of any option 9 granted under this Plan may not be changed after the Granting Date of such option without the express approval of the option holder. 6. PROVISIONS GOVERNING THE EXERCISE OF OPTIONS 6.1 Normal Option Term. Except as otherwise provided in Sections 6.3 and 6.4, the right to exercise any option granted under this Plan shall terminate at the expiration date of the option. 6.2 Acceleration of Exercise Time. The Committee in its sole discretion shall have the right (but shall not in any case be obligated) to permit purchase of Shares under any option prior to the time such Shares are purchasable under the terms of the agreement granting the option. 6.3 Exercise After Termination of Employment. (a) As used in this Section 6.3 and elsewhere in this Plan, the term "Original Grantee" means the person to whom an option is granted. (b) Subject to paragraph (c) and except as otherwise provided in Section 6.4, if the Original Grantee ceases to be employed by the Company, the Managing General Partner or any subsidiary of the Company, all options granted to the Original Grantee may not be exercised more than six months after such cessation of employment occurs. If the exercise of an option is subject to a vesting schedule, the right to exercise such option within the foregoing six-month period shall be limited in accordance with such vesting schedule. 10 (c) Notwithstanding the provisions of paragraph (b), no option may be exercised after its expiration date. (d) If and to the extent that an option has not been exercised at the expiration of the period described in paragraph (b) or paragraph (c), whichever is applicable, the option shall lapse and be of no further effect and all Shares then subject to such option shall again become available for use under the Plan. 6.4 Death of Original Grantee. (a) Upon the death of an Original Grantee while the Original Grantee has a right to exercise an option, the person or persons to whom the Original Grantee's rights under the option pass by reason of the Original Grantee's death may exercise the option with respect to any or all of the Shares subject to the option until the earlier of (i) six months after the date of the Original Grantee's death or (ii) the expiration date of the option. If the exercise of an option is subject to a vesting schedule, the right to exercise such option within the foregoing six-month period shall be limited in accordance with such vesting schedule. (b) If and to the extent that an option is not exercised at the expiration of the applicable period described in paragraph (a) above, the option shall lapse and all Shares then subject to such option shall again become available for use under the Plan. 11 (c) Notwithstanding the provisions of paragraphs (a) and (b) above, no option may be exercised after its expiration date. 6.5 Exercise Procedures. Each option granted under this Plan shall be exercised by written notice to the Company. An option holder shall not have any rights with respect to Shares issuable under any option granted under this Plan or be deemed to be a limited partner or shareholder in the Company by reason of such option until the exercise of that option with respect to those Shares. 6.6 Option Surrender. Any option granted under this Plan may, in the discretion of the Committee, be surrendered to the Company on such terms as the Committee and the Option Holder agree, including (but not limited to) terms which provide that upon such surrender the Company will pay to such holder cash or Shares, or a combination of cash or Shares, having a value equal to the difference between (i) the value of the Shares subject to the option on the date the option is surrendered and (ii) the exercise price under the option. 7. PROVISIONS CONCERNING THE COMPANY'S FIRST REFUSAL RIGHT. 7.1 Definitions. As used in this Section 7, the following terms have the indicated meanings: "Permitted Transfer" means a transfer of Shares in any of the following circumstances: (i) the transfer is to a person described in Section 5.6(a); or (ii) the transfer constitutes a bona fide gift to the transferee; or (iii) the 12 transfer is approved in writing by the Committee; or (iv) the transfer is to any person if the Company has elected not to exercise its First Refusal Right in respect of such Shares after having had the opportunity to do so pursuant to the provisions of this Section 7. "Restricted Transfer" means any transfer of Shares which is not a Permitted Transfer. "Subject Shares" -- see Section 7.2 "Subject Shareholder" means any holder of Subject Shares. "First Refusal Right" means the right of the Company to purchase Subject Shares from a Subject Shareholder as set forth in Section 7.2. "First Refusal Notice" means the notice described in Section 7.3. "First Refusal Term" means the period which commences on the date of issuance of such Shares and ends on the fifth anniversary of such date. "Acceptance Notice" means the notice described in Section 7.4. "First Refusal Price" -- see Section 7.2 7.2 First Refusal Right. If a holder of Shares issued pursuant to an Option granted pursuant to this Plan proposes to sell or otherwise dispose of such Shares at any 13 time during the First Refusal Term and the proposed sale or other form of disposition is not a Permitted Transfer, such Shares shall thereupon become "Subject Shares" and (a) the holder of the Subject Shares shall have the duty to notify the Company of the proposed sale or other form of disposition of the Subject Shares in the manner described in Section 7.3 and (b) the Company shall have the right to purchase such Subject Shares from the holder at the First Refusal Price. In each such case the First Refusal Price shall be the value of the Subject Shares as determined by taking the average price of the Shares on the New York Stock Exchange (or in the principal market in which the Shares are traded, if the Shares are not then traded on the New York Stock Exchange) over the five business days immediately preceding the date on which the Company receives the First Refusal Notice described in Section 7.3. 7.3 First Refusal Notice. (a) A holder of Shares which have become Subject Shares shall immediately notify the Company, in writing, of his or her desire to sell or otherwise dispose of such Shares. Such notice is hereinafter referred to as the "First Refusal Notice". (b) If an Option Holder proposes to transfer Shares concurrently or soon after the exercise of his or her Option, the First Refusal Notice may accompany the optionee's Notice of Exercise. 14 (c) Each First Refusal Notice given hereunder shall constitute an offer by the person giving the notice to sell the Subject Shares to the Company at the First Refusal Price. 7.4 Company's Time to Accept; Acceptance Notice. (a) The Company shall have ten business days from the date on which it receives a First Refusal Notice to determine whether to exercise its First Refusal Right in respect of the Subject Shares covered by such notice. If the Company elects to exercise its First Refusal Right, the Company shall give the Subject Shareholder a notice in writing to that effect (the "Acceptance Notice"). The Acceptance Notice shall be delivered by not later than the end of the period described above. (b) Each Acceptance Notice given hereunder shall constitute an acceptance of the offer made by the Subject Shareholder and shall commit the Subject Shareholder to sell and deliver the Subject Shares to the Company and, subject to the condition set forth in Section 7.5, shall commit the Company to purchase the Subject Shares and to pay the First Refusal Price therefor. 7.5 Closing Procedures. (a) The sale and purchase of the Subject Shares resulting from the offer and acceptance procedures described above shall be closed on or before the fifth business day following the date of the Company's Acceptance Notice. At the Closing, the Subject Shareholder shall deliver the certificate or certificates for the 15 Subject Shares, duly assigned to the Company or accompanied by a duly executed stock power and the Company shall deliver its check for the First Refusal Price for the Subject Shares. (b) The delivery of the certificate or certificates for the Subject Shares shall constitute a representation and warranty by the Subject Shareholder that he or she is the owner of the Subject Shares, that he or she has the capacity and authority to transfer the Subject Shares to the Company, and when the Subject Shares are transferred to the Company the Company will thereupon have full ownership of the Subject Shares free and clear of any liens or encumbrances. (c) If the Subject Shareholder can not validly make any of the representations and warranties described in paragraph (b) above, the Company shall not be obligated to accept delivery of the Subject Shares or to pay the First Refusal Price therefor, the Acceptance Notice notwithstanding. In this event, the decision of the Company not to accept delivery of the Subject Shares shall not constitute an election not to exercise its First Refusal Right in respect of such Shares. 7.6 Legend. Each certificate for Shares issued pursuant to this Plan shall bear a legend which shall state that the Shares represented by such certificate are subject to the First Refusal Right. 7.7 Effect of Making a Restricted Transfer. Any transfer of Shares to a person other than the Company which 16 is a Restricted Transfer as defined in this Section 7 shall be ineffective to transfer any interest in such Shares as against the Company, and the Company shall be entitled to continue to recognize as the sole owner of such Shares the person shown on its books and records to be the owner of the Shares without giving effect to the transfer. 7.8 Effect of Making a Permitted Transfer. A transfer of Shares which is a Permitted Transfer by virtue of clause (i) or clause (ii) of the definition of a Permitted Transfer shall not cause the provisions of this Section 7 to be inapplicable to such Shares in the hands of the transferee. A transfer of Shares which is a Permitted Transfer by virtue of clause (iii) or clause (iv) of the definition of a Permitted Transfer shall cause the provisions of this Section to be inapplicable to such Shares in the hands of the transferee and all subsequent transferees. 8. SHARES SUBJECT TO THIS PLAN 8.1 Number of Shares Limited to 2,500,000. (a) Except as otherwise provided in Part 9, the number of Shares which have been purchased by the exercise of options plus the number of Shares which are subject to purchase through the exercise of outstanding options shall not exceed 2,500,000. (b) If any option which has been granted under this Plan is surrendered to the Company, is terminated, or expires before it has been fully exercised, then all Shares 17 which were subject to such option and as to which the option was not exercised shall be available for any option or options subsequently granted in accordance with the provisions of this Plan. 9. ADJUSTMENTS TO REFLECT CAPITAL CHANGES 9.1 Share Splits, Etc. (a) The Committee is authorized to adjust the number and kind of shares subject to outstanding options, and the price for which Shares may be purchased under such options, the number and kind of shares available for options subsequently granted under this Plan and the number of Shares and the purchase price per share under any call right granted to the Company in Option Agreements made in connection with this Plan, to the extent the Committee, in its sole discretion, deems necessary to compensate for any of the following capital changes ("Capital Changes"): (i) any change in the Company's outstanding Shares which the Committee deems to have an effect analogous to a stock split; (ii) any reclassification of the Company's outstanding Shares; (iii) any transaction in which anything other than cash is distributed to the holders of the Company's outstanding Shares; (iv) any merger or other transaction in which the Company's outstanding Shares are converted into or replaced by anything else; or (v) any other occurrence which the Committee believes should lead to an adjustment under this Part 9 for reasons analogous to the reasons which lead to an adjustment on 18 account of any of the occurrences specifically anticipated in the foregoing clauses (i) - (v). (b) Any adjustment made by the Committee which the Committee reasonably believes to be within the scope of authority delegated by this Part 9 shall be binding on all parties concerned. 10. AMENDMENT AND TERMINATION OF THIS PLAN 10.1 Amendment. The Board of Directors shall have complete power and authority to amend this Plan at any time and no approval by the Company's shareholders or by any other person, committee or other entity of any kind shall be required to make any amendment approved by the Board effective, provided, that no termination or amendment of this Plan may, without the consent of the holder of an option outstanding at or prior to the time of such amendment or termination, adversely affect the rights of such holder. 10.2 Termination. The Board of Directors shall have the right and power to terminate this Plan at any time. No options shall be granted under this Plan after termination of this Plan, but the termination of this Plan shall not have any other effect and any option outstanding at the time of termination of this Plan may be exercised after termination of this Plan at any time prior to the expiration date of such option to the same extent such option would be exercisable had this Plan not been terminated. 19 11. INTERPRETATION OF THIS PLAN 11.1 Certain Definitions. The following terms have the meanings set forth in this Section 11.1 wherever such terms are used in this Plan. (Certain other defined terms are set forth in other sections of this Plan). "Exercise Price" as applied to any option granted under this Plan means the price at which Shares may be purchased upon exercise of such option as established pursuant to this Plan. "Option" means any option granted under this Plan. "Share" means the basic unit used to measure the quantity of the entire undivided limited partners' investment in ServiceMaster Limited Partnership which is held by any particular limited partner, provided, that if as a result of any adjustment under Part 9 the property obtainable with an option is changed to shares of common stock issuable by a corporate successor to the ServiceMaster Limited Partnership, then the term "Share" shall mean the equivalent unit of corporate stock. "Subsidiary" means (i) any entity in which the Company owns, directly or indirectly, an interest in the entity which entitles the Company and/or one or more of its Subsidiaries to receive at least 50% of the profits generated by such entity or (ii) any entity in which the Company owns, directly or indirectly, a debt 20 instrument issued by such entity which is convertible into an equity interest in the entity and the conversion of which would then entitle the Company and/or one or more of its Subsidiaries to receive at least 50% of the profits generated by such entity. 11.2 Captions. The captions used in this Plan are for convenience only. They do not constitute a part of this Plan and shall not be deemed to limit, characterize or affect in any way any provisions of this Plan. 11.3 Severability. Whenever possible, each provision in this Plan and every option at any time granted under this Plan shall be interpreted in such manner as to be effective and valid under applicable law, but if any provision of this Plan or any option at any time granted under this Plan shall be held to be prohibited by or invalid under applicable law, then such provision shall be deemed amended to accomplish the objectives of the provision as originally written to the fullest extent permitted by law and all other provisions of this Plan and every other option at any time granted under this Plan shall remain in full force and effect. 11.4 No Strict Construction. No rule of strict construction shall be implied against the Company, the Committee, the Chairman or any other person in the interpretation of any of the terms of this Plan, any option 21 granted under this Plan or any rule or procedure established by the Committee. 11.5 Choice of Law. Every option at any time granted under this Plan shall be deemed to be a contract made under the laws of the State of Delaware. For all purposes, both this Plan and every option granted under this Plan shall be construed in accordance with and governed by the laws of the State of Delaware. 11.6 Committee's Interpretations Conclusive. The Committee shall have full power and authority to interpret the terms of this Plan, the terms of options granted under this Plan, and the rules and procedures established by the Committee. Any determination made by the Committee as to the meaning of or requirements imposed by or right of any persons under this Plan, any option granted under this Plan, or any rule or procedure established by the Committee shall be binding upon all persons concerned. -o0o- 22 EX-10 3 This instrument constitutes part of a prospectus covering securities that have been registered under the Securities Act of 1933. OPTION AGREEMENT For Option Granted Under the ServiceMaster 1997 Share Option Plan ServiceMaster Limited Partnership, a Delaware limited partnership (the "Company") and ~ (the "Optionee") hereby agree as follows: Part 1. Option Terms 1.1 Definitions. As used in this Agreement, the following terms have the indicated meanings: "Company" means ServiceMaster Limited Partnership, a Delaware limited partnership. "First Refusal Right" means the duty of the holder of Shares issued pursuant to an Option to offer such Shares for sale to the Company, and the correlative right of the Company to purchase such Shares, under certain circumstances as set forth in Section 7 of the Plan. "Grant Date" means the date set forth in the Term Sheet as the date on which the option which is the subject of this agreement was granted. "Plan" means the ServiceMaster 1997 Share Option Plan as constituted on the Grant Date and, subject to the limitations set forth in Section 10.1 of the Plan, as amended from time to time thereafter. "Shares" means the units of limited partner interest 1 of the Company, or any successor organization to the Company (as more fully set forth in the Plan). "Term Sheet" means the document which is referenced to and delivered concurrently with this Agreement and which sets forth certain terms and conditions of the option granted hereunder. 1.2 Grant. (a) The Company hereby grants to the Optionee an option (the "Option") under the Plan which entitles the Optionee to purchase from the Company the Shares which are subject to the Option on the terms and subject to the conditions specified in the Term Sheet, this Agreement and the Plan. (b) Various terms governing this option, including the Grant Date, the consideration payable for the option, and the exercise price under the option, are set forth in the Term Sheet. The Term Sheet has been signed by the Company and must be signed by the Optionee before the optionee may have any rights under this agreement. (c) Upon execution of the Term Sheet, the Optionee shall immediately make a cash payment to the Company in the amount of the Option Acquisition Price as specified in the Term Sheet. 1.3 Number of Shares Purchasable. Unless and until an adjustment is made pursuant to Part 9 of the Plan, the number of Shares which are subject to the Option is the number specified in the Term Sheet. 1.4 Option Exercise Price. Unless and until an adjustment is made pursuant to Part 9 of the Plan, the price at which the Shares which may be purchased from the Company upon 2 any exercise of this Option shall be the original exercise price specified in the Term Sheet. 1.5 First Refusal Right; Legend. (a) Each Share issued pursuant to an exercise of the option granted by this Agreement shall be subject to the Company's First Refusal Right. (b) All certificates for Shares issued pursuant to an exercise of the option granted by this Agreement shall contain a legend which refers to the First Refusal Right. Part 2: Exercise 2.1 Time of Exercise. (a) During the period on the Grant Date and ending on the fifth anniversary of the Grant Date, this Option may be exercised only in installments of 20% each which mature, respectively, on the first, second, third, fourth and fifth anniversaries of the Grant Date. Such installments shall cumulate over the foregoing five-year period. The foregoing limitation shall operate as shown in the following schedule, provided, that in no event may this Option be exercised in a manner or to an extent contrary to the provisions of this Agreement or the Plan: 3 Grant Date Cumulative Anniversary Percent Per Cent ----------- ------- ---------- 1st 20% 20% 2nd 20% 40% 3rd 20% 60% 4th 20% 80% 5th 20% 100% (b) After the fifth anniversary of the Grant Date, this Option may be exercised in whole or in part and at such time or times as the person entitled to exercise the Option may desire with respect to all Shares then available under this Option, provided, that in no event may the Option be exercised after the expiration date set forth in the Term Sheet or in a manner or to an extent contrary to the provisions of this Agreement or the Plan. 2.2 Manner of Exercise. (a) The person entitled to exercise this Option may do so by giving the Company a written notice (the "Exercise Notice") which shall -- (i) identify the Option; (ii) specify the number of Shares with respect to which the Option is then being exercised; (iii)state the price at which the shares will be purchased; (iv) identify the Exercise Date which shall govern such exercise; and (v) state that the person signing the Exercise agrees to purchase the Shares so specified at the price and on the terms established in this Agreement and the Plan; 4 (vi) be signed by the person entitled to exercise the Option. A form of Exercise Notice which will be deemed satisfactory by the Company is attached to this Agreement as Exhibit A. 2.3 Exercise Date. (a) This Option shall be deemed to have been exercised on the date (the "Exercise Date") on which the Exercise Notice, completed as required by Section 2.2 (or completed in such other form or manner as the Company's Secretary or the Committee shall approve), is delivered to the office of the Secretary of the Company or at such other place as may have been designated by the Secretary or the Committee at the time of such exercise as a place to which notices of exercise of options granted under the Plan may be delivered. (b) Delivery of the Exercise Notice may be made by personal delivery or by United States mail. 2.4 Manner of Payment. The price which is payable for the Shares to be purchased upon the exercise of any option granted under this Plan shall be paid to the Company in full and in cash by the Optionee at the time of the delivery of the Exercise Notice. 2.5 Termination of Option. (a) The Option shall terminate on whichever of the following dates occurs first: (i) the Expiration Date as specified in the Term Sheet or (ii) any other date established under any of the provisions of the Plan as the date after which the option may not be exercised. The 5 applicable date under this Section 2.5(a) is hereinafter referred to as the "Termination Date". (b) The Option may not be exercised after its Termination Date. Thus, the Option does not convey any right to purchase any Shares which Optionee (or other holder of the Option) has not agreed to purchase in an Exercise Notice delivered to the Company on or prior to the Termination Date in accordance with the requirements of the preceding sections of this Part 2. Part 3: The Plan Terms 3.1 Plan Terms Control. The Option has been granted under the Plan as constituted at the Grant Date. The terms of the Plan as constituted at the Grant Date are incorporated into this Agreement by reference and shall control the rights and obligations of the Company and the Optionee under this Agreement. 3.2 Effect of Subsequent Changes in the Plan. No change in the Plan which shall be made after the Grant Date shall adversely affect the rights of the Optionee under this Agreement unless the Optionee shall have agreed in writing to such change. No change in the Plan after the Grant Date shall inure to the benefit of the Optionee except to the extent expressly permitted by the Committee. Part 4. Call Right. 4.1 The Company's Call Right. (a) If the Optionee terminates his or her employment with the Company or any subsidiary of the Company and within five years after the date 6 of such termination of employment the Optionee becomes employed by an organization and the Optionee's responsibilities with that organization place the Optionee in competition with any one or more of the businesses then being conducted by the Company or any subsidiary of the Company, the Company shall have the right (the "Call Right") to purchase Shares from the Optionee in a number equal to the number of the Shares which the Optionee had purchased within five years prior to the initial competitive activity by the Optionee. The amount payable by the Company for the Shares to be delivered by the Optionee pursuant to this Section 4.1 shall be the Optionee's Investment (as defined in paragraph (b) below) in the Shares purchased under the Option. If and to the extent that the Optionee can not deliver the Shares which were purchased under the Option because the Optionee has previously disposed of all or some of such Shares, then the Optionee agrees to obtain substitute Shares in the number needed to comply with the Optionee's delivery obligation under this Section 4.1 by purchasing Shares in the market or by any other lawful means, and the Optionee shall deliver such substitute Shares to the Company. (b) As used in this Section 4.1, the term "Optionee's Investment" means, as to each Share purchased under the Option, the sum of the Option Acquisition Price Per Share and the Exercise Price Per Share, each as shown in the Term Sheet. The figure representing the Optionee's Investment shall be 7 appropriately adjusted in the event of Capital Changes as provided in Section 5.1. (c) The judgement of the Committee as to whether, for purposes of applying Section 4.1(a), the Optionee is in competition with the Company and/or any of its business units shall be conclusive and binding, unless the Optionee can show by clear and convincing evidence that no such competition has occurred. 4.2 Call Right Exercise Period. The Call Right may be exercised by the Company at any time on or prior to the date (the "Call Deadline") which occurs three months after the Committee has first actually become aware that the Optionee has become employed by another organization and, as an employee of such organization, become engaged in activities which place the Optionee in competition with the Company as described in Section 4.1. 4.3 Exercise of Call Right. The Company's Call Right shall be exercised by delivery by the Company of a written notice of such exercise to the Optionee at the most recent address for the Optionee as shown on the records of the Company. 4.4 Consummation of the Company's Purchase. Within five business days after the Company has exercised its Call Right pursuant to Section 4.3, the Optionee shall deliver to the Company: (i) certificate(s) representing Shares in the number required to be delivered under Section 4.1; (ii) transfer 8 instruments reasonably satisfactory to the Company to vest immediately in the Company absolute ownership of such Shares free of any adverse interest of any kind; and (iii) such evidence and assurances as the Company shall reasonably request to establish the power of the Optionee to convey ownership of such Shares and the person(s) entitled to receive payment for such Shares. Upon receipt of all the items deliverable under the preceding sentence, the Company shall pay the purchase price for such Shares as established pursuant to Section 4.1. If the Optionee does not deliver the Shares at the time required under the preceding sentence, the Company shall have the right to obtain payment from the Optionee for an amount equal to the difference between the greater of the market price at the time the Call Right is exercised or the time the payment is made and the Optionee's Investment plus interest from exercise of the Call Right at the prime rate plus two percentage points and collection costs. 4.5 Call Right Lapse. If the Company fails to exercise its Call Right on or prior to the Call Deadline, then immediately after the Call Deadline the Optionee shall be relieved of any further obligation to deliver any Shares under this Part 4. Part 5. General Provisions 5.1 Capital Changes. The Committee shall have the right to determine the effect of each Capital Change upon the parties' respective rights and obligations under this 9 Agreement, including but not limited to (i) the nature and quantity of property purchasable by the Company under Part 4 after giving effect to such Capital Change and (ii) the price payable by the Company for such property upon exercise by the Company of rights granted in Part 4. 5.2 Securities Law Compliance. The Optionee shall not offer, sell or otherwise dispose of any of the Shares acquired by reason of any exercise of the Option in any manner which would violate the Securities Act of 1933 or any other state or federal law or require the Company to make any fling or take any action to avoid such a violation. 5.3 Terms Defined in the Plan. Every term which is defined or given a special meaning in the Plan has the same meaning whenever it is used in this Agreement. 5.4 Binding Agreement. (a) Each party acknowledges that it is intended that the other party may rely on the rights granted by this Agreement and that this Agreement is supported by adequate consideration and is binding on each party in accordance with its terms. (b) This Agreement shall also be binding upon and inure to the benefit of any successor of the Company. 5.5 Complete Agreement. This Agreement, the Term Sheet and the Plan together contain the complete agreement of the parties relating to the Option. The rights and obligations of the parties evidenced by this Agreement, the Term Sheet and the 10 Plan supersede any prior understandings, agreements or representations by or between the parties which may have related to such subject matter in any way. 5.6 Amendments and Waivers. The provisions of this Agreement may be amended, and a person may take any action which is prohibited herein or omit to perform any action required to be performed by such person, only if such amendment, act or omission has been approved in writing by the parties to the Agreement. No course of dealing or any delay in exercising any rights hereunder shall operate as a waive of any rights of any person under this Agreement. A waiver upon any one occasion shall not be construed as a bar or waiver of any right or remedy on any future occasion. 5.7 Counterparts. This Agreement and the Term Sheet may be executed in one or more counterparts, each of which shall be an original but all of which together shall constitute one and the same instrument. 5.8 Notices. Any notice to the Company required or permitted by the terms of this Agreement shall not be deemed to have been given unless is it in writing and shall be deemed to have been given at (but not before) the time it has been delivered in writing to the office of the Secretary of the Company or to such other place as the Company may designate in writing from time to time. 5.9 Captions. The captions used in this Agreement are for 11 convenience only, do not constitute a part of this Agreement, and shall not be deemed to limit, characterize, or in any way affect any provision of this Agreement. 5.10 Execution. The parties have executed the Term Sheet to evidence their intention to be bound by every provision of this Agreement. -o0o- 12 EX-11 4 SERVICEMASTER LIMITED PARTNERSHIP EXHIBIT REGARDING DETAIL OF INCOME PER SHARE COMPUTATION (In thousands, except per share data)
Years Ended December 31 ------------------------------ 1996 1995 1994 --------- --------- -------- Number of shares used in computing income per share and equivalent shares-- Shares outstanding on weighted average basis 141,058 115,725 113,622 Equivalent shares-- Options and subscriptions outstanding 3,381 3,245 2,535 Total weighted average and equivalent shares144,439 118,970 116,157 Primary earnings per share $1.70 $1.45 $1.20 Net income $245,140 $172,019 $139,883 Interest on convertible debentures 1,869 1,901 2,078 Adjusted net income $247,009 $173,920 $141,961 Weighted average number of common shares outstanding 145,068 120,122 116,484 Other potentially dilutive securities 2,130 2,164 2,172 Total weighted average number of shares 147,198 122,286 118,656 Fully diluted earnings per share $1.68 $1.42 $1.20
EX-13 5 Management Discussion and Analysis of Financial Condition and Results of Operations (All share and per share data reflect the three-for-two share split in June 1996) 1996 Compared to 1995 Revenues increased 8 percent to $3.5 billion primarily due to internal growth, with the effects of acquisition activity at both the Consumer Services and Management Services segments offsetting the disposition of the Education Food Service line in early 1995. Operating income increased 17 percent to $295 million, while margins increased to 8.5 percent of revenue from 7.9 percent in 1995, reflecting the combined effects of the continued rapid growth of our higher margin business units and the favorable effects of overhead leveraging throughout the enterprise. Net income was $245 million, reflecting a 43 percent increase over 1995, while earnings per share totalled $1.70, an increase of 17 percent. The net income and earnings per share growth rates both reflect the December 1995 acquisition of WMX Technologies, Inc.'s (WMX) minority ownership interest in Consumer Services. This transaction reduced minority interest expense, while increasing the number of shares outstanding by approximately 27 million (on a post-split basis). The Consumer Services business segment achieved a 13 percent increase in revenues and net income growth of 23 percent. TruGreen-ChemLawn operations had strong growth in revenues and profits despite unfavorable weather conditions throughout the year. Continued strong growth in residential services and strong commercial sales, combined with the favorable effects of new service initiatives, such as interior plantscaping and home fertilizer delivery, helped offset the weather-related adversities. Terminix achieved solid growth in revenues as a result of increases in pest control sales and termite completions. Profits also increased but at a less rapid pace due to changes in the sales mix and higher production costs. American Home Shield achieved very strong increases in warranty contracts written, earned revenues and profits, primarily as a result of strong internal growth, small acquisitions and continued increases in contract renewals. The ServiceMaster Residential/Commercial operations continued to achieve growth in revenues and profits, reflecting the continued repurchase of distributors, as well as steady internal growth which offset a decline in large disaster recovery projects. The Merry Maids business achieved solid increases in revenues and profits as a result of strong growth from existing franchisees, as well as the expansion of company-owned branch operations. The Management Services business segment achieved 11 percent overall growth in net income for the year. This growth is due to strong cost controls and improved customer retention, as well as the elimination of losses incurred in 1995 from the discontinued Education Food Service business. Net income from continuing operations increased 5 percent. Revenues grew 3 percent over the prior year as improvements in Education and Business & Industry were offset by slight reductions in Healthcare. Revenues generated from the fourth quarter acquisition of Premier Manufacturing Support Services (Premier) offset the effect of the disposition of Education Food Service in February 1995. The Healthcare business within Management Services, which primarily serves the acute care sector of the health care market, recorded profits that were consistent with the prior year level. Strong cost controls and efficiency gains offset a slight decline in revenues, reflecting continuing competitive pressures and industry consolidations. Diversified Health Services which serves primarily the long- term care sector of the health care market, is included in the New Business Development segment. As noted later, they continue to achieve excellent growth in revenues and profits. The Education market experienced solid revenue growth with an improved customer retention rate. Profits decreased as a result of lower margins on a higher mix of large school district contracts. The Business & Industry unit achieved double-digit increases in both revenues and profits, with a substantial increase in services to the aviation industry. In addition, the 25 segment's new initiative, Global Facilities Solutions, a total facilities management outsourcing package designed for multifacility customers located throughout the world, achieved their first sales during the fourth quarter of the year, with annualized revenues exceeding $10 million. Revenues in New Business Development and Parent increased 15 percent to $307 million, and operating income increased 18 percent to $39.4 million, reflecting strong growth at ServiceMaster Diversified Health Services and in the Partnership's International operations. ServiceMaster Diversified Health Services continued to achieve excellent growth in revenues and profits, reflecting strong growth in management services, improvements in the rehabilitation operations which were started in 1995, and a significant increase in transaction-related fees and gains. The business unit acquired DTEC and Comprehensive Pharmacy Services in 1996, both pharmacy management companies, expanding the scope of services available to the Partnership's customer base. The International operations achieved strong growth in the European pest control businesses and continued improvement in royalty fees from existing licensees. Net income was adversely affected by a nonrecurring charge associated with a joint venture. On a consolidated basis, cost of services rendered and products sold increased 7 percent but continued to decline as a percentage of revenue to 77.5 percent in 1996 from 78.1 percent in 1995. This decrease as a percentage of revenue reflects the changing mix of the business as Consumer Services increases in size in relation to the overall business of the Partnership. The Consumer Services units operate at a higher gross profit margin than the Management Services business units, but incur relatively higher levels of selling and administrative costs. Consolidated selling and administrative expenses increased 7 percent over the prior year, but, as a percentage of revenue, decreased from 14.1 percent in 1995 to 13.9 percent in 1996, reflecting good cost controls and improved efficiencies. Overall operating income margins continue to reflect effective leveraging and rapid growth in higher margin businesses, improving to 8.5 percent of revenues compared to 7.9 percent in 1995. Interest income increased over prior year levels due to growth in the investment portfolio at American Home Shield, as well as gains realized on several sales of marketable securities during the year. Interest expense increased over the prior year reflecting increased borrowings relating to acquisitions and treasury share purchases. The decrease in minority interest expense primarily reflects the purchase from WMX of the minority interest in the Consumer Services business segment in December 1995. Income taxes increased over 1995 levels reflecting strong growth at American Home Shield, which is already organized in corporate form and hence subject to corporate taxes. 1995 Compared to 1994 Revenues increased 7 percent to $3.2 billion due to internal growth and the inclusion of the European pest control acquisitions made in the second half of 1994, partially offset by the disposition of the Education Food Services business in February 1995. Operating income increased 18 percent to $252 million, while margins increased to 7.9 percent of revenue from 7.2 percent in 1994, reflecting the combined effects of the continued rapid growth of our higher margin Consumer Services business unit, the favorable effects of overhead leveraging throughout the enterprise, and reduced costs in the Management Services business unit. Net income was $172 million, reflecting a 23 percent increase over 1994, while earnings per share totalled $1.45, an increase of 21 percent. Earnings per share reflect the issuance of 4.2 million shares in January 1995, in connection with the acquisition of the TruGreen-ChemLawn minority interest, partially offset by the effects of the ongoing share repurchase program. The Consumer Services business segment achieved a 14 percent increase in revenues and net income growth of 33 percent, with solid performances achieved by all units. TruGreen-ChemLawn operations had strong growth in revenues and profits despite unfavorable weather conditions. This primarily resulted from significant increases in the customer base and productivity improvements. Terminix achieved solid growth in revenues and profits, with improvements in customer retention, cost controls and improved productivity. American Home Shield achieved very strong increases in warranty contracts written and operating profits, primarily as a result of geographic expansion in the home resale market, increases in direct-to-consumer sales, and continued improvement in the rate of contract renewals. The ServiceMaster Residential/Commercial operations continued to achieve strong increases in disaster recovery services, which are provided by both franchisees and on a direct basis for more significant commercial projects. The Merry Maids business achieved solid double-digit increases in revenues and profits as 26 a result of strong growth in royalty fees from existing franchisees, along with encouraging results from company-owned branches. The Management Services business segment achieved 11 percent profit growth for the year. Revenues were below prior year levels, primarily reflecting the disposition of the Education Food Service business early in the year. On a comparable basis, revenues increased approximately 3 percent for the year. Profits in the Healthcare market increased sharply, despite continuing industry contraction in the acute care sector of that market, as a result of cost reductions and improvements in customer retention. Annualized new start revenues in health care increased over prior year levels, primarily due to strong sales of management support services to long-term care facilities. Profits in the Education market increased modestly over prior year levels, despite losses and wind-down costs in the food service line prior to its disposition. The increase in profits primarily reflects improved efficiencies resulting from the reorganization in 1994, as well as other cost control efforts. The Business & Industry unit achieved strong increases in both revenues and profits, with a substantial increase in services to the aviation industry. Revenues in New Business Development and Parent increased 117 percent to $265.8 million and operating income increased 30 percent to $33.4 million, reflecting the full year inclusion of the European pest control operations acquired in the last four months of 1994. ServiceMaster Diversified Health Services continued to achieve excellent growth in revenues and profits due to increases in the numbers of facilities served and strong growth in medical supply sales and ancillary services. International operations achieved solid growth in royalty fees from existing licensees. The direct European pest control operations acquired in the second half of 1994 achieved modest net income after all acquisition costs, and continued to perform in accordance with expectations. On a consolidated basis, cost of services rendered and products sold increased 6 percent but continued to decline as a percentage of revenue, from 78.9 percent in 1994 to 78.1 percent in 1995. This decrease as a percentage of revenue reflects the changing mix of the business as Consumer Services increases in size in relation to the overall business of the Partnership. The Consumer Services units operate at a higher gross profit margin than the Management Services business units, but incur relatively higher levels of selling and administrative costs. Consolidated selling and administrative expenses increased 9 percent over the prior year, reflecting increased volume in the Consumer Services businesses as well as the International acquisitions. As a percent of revenue, these costs increased from 13.9 percent in 1994 to 14.1 percent in 1995. This increase as a percentage of revenue is also primarily attributable to the changing business mix of the Partnership. Overall operating income margins continue to reflect effective leveraging and rapid growth in higher margin businesses, increasing to 7.9 percent of revenue. Interest expense increased over prior year levels reflecting increased borrowings, primarily relating to the late 1994 European pest control acquisitions and a volume-related increase in seasonal borrowings, partially offset by the proceeds received from the sale of the Education Food Service business. Minority interest expense increased slightly for the year reflecting higher amounts associated with the minority ownership interest in the rapidly growing Consumer Services business, partially offset by the purchase of the TruGreen-ChemLawn minority interest early in 1995. Taxes increased over 1994 levels reflecting increased profitability at American Home Shield and, to a lesser extent, taxes relating to the recently acquired European pest control businesses. Unlike the rest of the enterprise, these businesses are organized as corporations and hence are subject to corporate level income taxes. 1996 Financial Position The Partnership continued to exhibit outstanding cash generating ability, with cash flows from operations increasing 15 percent to $341 million, and free operating cash flows (defined as cash from operations less property additions) increasing 18 percent to over $298 million. Free operating cash flow is a key measurement for understanding the growing value of the Partnership. It represents the cash available for enhancing shareholder value (acquisitions, dividends and share repurchases) after financing the growth of existing business units. For many companies, free operating cash flow is less than reported earnings because of the high incremental investment in working capital and fixed assets required to grow their existing businesses. This is not the case for ServiceMaster, as free operating cash flow has consistently exceeded net income as a result of relatively low working capital and fixed asset requirements, combined with the effects of noncash charges for amortization and minority interest. 27 Cash and marketable securities totalled approximately $114 million, and there were no borrowings under existing bank revolving credit facilities. The Partnership had $300 million of unused commitments at December 31, 1996. Management believes that funds generated from operations and other existing financial resources will continue to be adequate to satisfy the ongoing operating needs of the Partnership. In October 1996, the Management Services business unit acquired Premier, a company that specializes in paint shop cleaning, materials management, and manufacturing support services to customers in the automotive industry. In addition, throughout the year, the Partnership acquired several other smaller companies, predominantly pest control and lawn care businesses. In December 1996, the Partnership agreed to acquire Barefoot Inc., the second largest professional residential lawn care service company in the United States, for a price of $16 per share in either cash or an equivalent amount of Partnership shares. The aggregate value of this transaction was approximately $232 million. Approximately 63 percent of Barefoot stockholders elected to receive Partnership shares. This transaction was finalized in February 1997. In February 1997, the Partnership and WMX reached an agreement in which the Partnership would buy from WMX its entire ownership interest in ServiceMaster for approximately $626 million. This agreement will result in the Partnership acquiring the 27.2 million Partnership shares held by WMX and cancelling WMX's option to purchase an additional 1.88 million Partnership shares. This transaction is expected to be completed in April 1997. The Partnership intends to initially finance the repurchase with short-term bank financing. Management is evaluating a number of long-term financing alternatives for both this transaction and the cash portion of the Barefoot acquisition. Subject to market conditions, the Partnership currently anticipates that approximately 50 percent of the $858 million combined value of the WMX and Barefoot transactions will be ultimately refinanced through equity issuances within the next two years. The transaction with WMX is expected to be immediately additive to earnings per share and will provide significant, incremental tax benefits to ServiceMaster. The increase in accounts and notes receivable reflects general business growth and the acquisition of Premier, partially offset by the collection of short-term notes receivable from specific financing projects. The increase in expenses and other assets have increased primarily due to the strong growth at American Home Shield, where initial direct contract costs are capitalized and expensed over the life of the service contract. Property and equipment increased primarily due to general business growth. Except as previously described, the Partnership does not have any material capital commitments at this time. The increase in intangible assets is primarily attributable to the acquisition of Premier, as well as the other acquisitions previously described. Accounts payable and other liabilities increased due to general business growth and the effects of acquisitions. Deferred revenues increased primarily as a result of strong growth in warranty contracts written at American Home Shield. Debt levels increased, reflecting treasury share purchases and acquisitions, partially offset by strong operating cash flows. In the third quarter of 1996, the Partnership completed a $125 million private placement of debt at an interest rate of 7.4 percent, with the proceeds used to repay floating rate bank debt. Total shareholders' equity increased to $797 million in 1996 from $747 million in 1995, reflecting strong earnings partially offset by shareholder distributions and treasury share purchases. In December 1995, the Board of Directors of the Partnership authorized the repurchase of up to $150 million of outstanding Partnership shares in the open market or in privately negotiated transactions. As of December 31, 1996, approximately $77 million of the total amount authorized had been repurchased (covering approximately 3.5 million shares at an average price of $22.30 per share) with the remaining $73 million expected to be repurchased in 1997. At year end, the aggregate market value of the Partnership's outstanding shares totalled $3.7 billion. An investor who held their shares for the entire year realized a total return on their investment of 33 percent in 1996, exceeding market averages. ServiceMaster shareholders have also experienced compounded total returns exceeding 20 percent annually over the last five-, 10and 20-year periods. Cash distributions paid directly to shareholders totalled $94 million, or $.66 per share, in comparison to $74 million in 1995, a 4 percent 28 per share increase over the prior year. However, the total amount of cash distributions, including payments made to the shareholders' trust described below, increased 15 percent to approximately $147 million. This reflects the increase in direct distributions per share described above, the higher number of shares outstanding, and a slight increase in payments to the shareholders' trust, consistent with expectations. The portion of this increase that related to the higher number of outstanding shares has been partially offset by a substantial decline in distributions to holders of minority interests, reflecting the change in the status of WMX from a minority partner in the Consumer Services business unit to a shareholder in the overall ServiceMaster enterprise. Several years ago, the Partnership adopted a pattern of $.02 to $.03 annual increases in direct distributions to shareholders for the remaining term of the Partnership. As a result of this pattern, management expects to be able to continue to increase the amount of the direct distribution in both the year of reincorporation and thereafter. Under current tax law, the Partnership is required to convert to corporate form on or before December 31, 1997. The shareholders have already approved a Plan of Reincorporation that provides for a one-for-one, tax-free exchange of Partnership shares for common stock. As discussed in previous years, ServiceMaster has established a trust for the benefit of Partnership shareholders. On behalf of shareholders, the trust is allocated the portion of the Partnership's taxable income which exceeds the level of direct cash distributions. The trust receives cash payments from the Partnership in amounts sufficient to pay its income tax obligations on this allocated taxable income. The trust has no residual resources or obligations, and will be terminated when the Partnership returns to corporate form. Cash distributions made to the trust totalled $50 million in 1996 and $49 million in 1995. For the remaining term of the Partnership, overall taxable income is expected to increase at a faster rate than the level of direct distributions to shareholders. The Partnership's return to corporate form is not expected to materially impact the enterprise's future liquidity and capital resources. As a corporation, the Company will be responsible for the payment of corporate federal and state income taxes. The increased cash requirements related to corporate income taxes will be significantly offset by the elimination of cash payments to the Partnership's shareholder trust and the annual cash benefit resulting from the tax deductible step-up in basis in the enterprise's assets upon reincorporation. Taxable income per Partnership share in 1996 will be $.66 for those shareholders who have held their shares since ServiceMaster adopted partnership form in 1986. Taxable income per Partnership share will be less than $.66 for Partnership shares purchased in 1987 and thereafter. The following table presents net income before interest, taxes, depreciation and amortization (EBITDA). EBITDA is a commonly-used supplemental measurement of a company's ability to generate cash flow used by many of the Partnership's investors and lenders. Substantially all of the Partnership's existing long-term debt arrangements require it to maintain specified levels of EBITDA. Management believes that EBITDA is another measure which demonstrates the exceptional cash-generating abilities of the Partnership's businesses, while highlighting the potential leveraging effect of the acquisition-related fixed charges of interest expense, depreciation, and amortization.
1996 1995 1994 1993 1992 -------- -------- -------- -------- ------ - -- (In thousands, except percentage data) Net income................................ $245,140 $172,019 $139,838 $145,947 $122,065 Depreciation.............................. 41,658 38,332 32,885 29,674 27,017 Amortization.............................. 37,348 27,656 21,323 20,282 19,322 Unusual noncash charges................... --- --- --- --- 77,635 Gain on issuance of subsidiary shares.................................. --- --- --- (30,200) (105,306) -------- -------- -------- -------- -------- Cash income............................... $324,146 $238,007 $194,091 $165,703 $140,733 Interest expense.......................... 38,298 35,855 31,543 32,483 32,155 Taxes..................................... 7,257 5,588 2,755 2,146 1,233 -------- --------- -------- -------- -------- EBITDA.................................... $369,701 $279,450 $228,389 $200,332 $174,121 ======== ========== ======== ======== ======== Growth over prior period.................. 32% 22% 14% 15% 15%
EBITDA should not be considered an alternative to net income in measuring the Partnership's performance, or used as an exclusive measure of cash flow because it does not consider the impact of working capital growth, capital expenditures, debt principal reductions or other sources and uses of cash which are disclosed in the Consolidated Statements of Cash Flows. 29 Eleven Year Financial Summary
(In thousands, except per share and percentage data) 1996 1995 1994 ---------- ---------- -------- - -- Operating Results (excluding unusual items) Operating revenue.......................................... $3,458,328 $3,202,504 $2,985,207 Cost of services rendered and products sold................ 2,681,008 2,499,700 2,356,435 Selling and administrative expenses........................ 482,102 450,937 414,746 ---------- ---------- ---------- Operating income (Note).................................... 295,218 251,867 214,026 ---------- ---------- ---------- Percentage of operating revenue........................ 8.5% 7.9% 7.2% Non-operating expense...................................... 42,821 74,260 71,388 Provision for income taxes................................. 7,257 5,588 2,755 ---------- ---------- ---------- Net income excluding unusual items (Note).................. $ 245,140 $ 172,019 $139,883 ========== ========== ========== Percentage of operating revenue....................... 7.1% 5.4% 4.7% Percentage return on weighted average shareholders'equity.. 32% 46% 47% Per Share Net income per share excluding unusual items (Note)........ $ 1.70 $ 1.45 $ 1.20 Cash distributions to shareholders......................... $ 0.66 $ 0.63 $ 0.61 Share price range: High price............................................. $ 26.63 $ 20.25 $ 18.92 Low price.............................................. $ 19.38 $ 14.33 $ 14.33 Shares used to compute net income per share................ 144,439 118,970 116,157 Financial Position (at year end) Current assets............................................. $ 499,334 $ 393,239 $ 331,045 Current liabilities........................................ 425,552 372,930 304,395 Working capital............................................ 73,782 20,309 26,650 Current ratio.............................................. 1.2-1 1.1-1 1.1-1 Total assets............................................... 1,846,841 1,649,890 1,230,839 Non-current liabilities.................................... 607,614 517,603 483,906 Minority interest.......................................... 16,908 12,697 135,272 Deferred gain.............................................. --- --- --- Shareholders'equity........................................ 796,767 746,660 307,266 Shares outstanding, net of treasury shares and share subscriptions......................................... 142,398 142,818 113,964 Note: Operating results on a basis which includes restructuring and unusual charges, gains on issuance of subsidiary shares, and the change in accounting for postretirement benefits in prior years, are as follows (there were no such unusual items for 1996, 1995 or 1994): Operating income........................................... $ 295,218 $ 251,867 $ 214,026 Net income................................................. $ 245,140 $ 172,019 $ 139,883 Net income per share....................................... $ 1.70 $ 1.45 $ 1.20 All share and per share data reflect the three-for-two share splits in 1996, 1993 and 1992.
30
1993 1992 1991 1990 1989 1988 1987 1986 - ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- $2,758,859 $2,488,854 $2,109,941 $1,825,750 $1,609,267 $1,531,276 $1,425,316 $1,122,503 2,192,684 2,021,010 1,762,700 1,545,527 1,387,448 1,327,128 1,228,885 975,137 393,131 326,477 225,814 177,941 129,035 118,275 116,938 83,216 - ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- 173,044 141,367 121,427 102,282 92,784 85,873 79,493 64,150 ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- 6.3% 5.7% 5.8% 5.6% 5.8% 5.6% 5.6% 5.7% 55,151 45,740 39,860 30,397 24,016 21,247 19,492 2,235 2,146 1,233 1,426 2,332 721 --- -- - - 29,160 ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- $ 115,747 $ 94,394 $ 80,141 $ 69,553 $ 68,047 $ 64,626 $ 60,001 $ 32,755 ========== ========== ========== ========== ========== ========== ========== ========== 4.2% 3.8% 3.8% 3.8% 4.2% 4.2% 4.2% 2.9% 46% 54% 74% 130% 139% 135% 166% 48% $ 1.00 $ 0.83 $ 0.74 $ 0.65 $ 0.62 $ 0.60 $ 0.56 $ 0.30 $ 0.59 $ 0.58 $ 0.57 $ 0.55 $ 0.52 $ 0.50 $ 0.45 $ 0.25 $ 20.67 $ 13.25 $ 11.59 $ 7.00 $ 7.17 $ 8.33 $ 9.42 $ 7.92 $ 11.75 $ 9.75 $ 6.50 $ 5.83 $ 6.25 $ 6.59 $ 6.50 $ 5.92 115,269 113,532 108,834 106,811 109,436 107,789 106,325 110,793 $ 291,325 $ 257,542 $ 217,517 $ 237,262 $ 219,661 $ 203,925 $ 128,804 $ 107,047 244,552 206,755 157,458 158,046 135,375 76,908 59,993 51,162 46,773 50,787 60,059 79,216 84,286 127,017 68,811 55,885 1.2-1 1.2-1 1.4-1 1.5-1 1.6-1 2.7-1 2.1-1 2.1-1 1,122,461 1,005,531 843,660 796,935 593,693 485,492 371,104 340,226 471,177 511,211 376,638 372,052 410,056 346,970 260,267 248,226 117,513 77,906 78,229 55,636 9,174 10,186 8,660 8,732 --- --- 109,354 115,195 --- --- - --- --- 289,219 209,659 121,981 96,006 39,088 51,428 42,184 32,106 114,623 113,505 108,234 107,973 102,398 105,318 104,876 104,525 $ 173,044 $ 62,432 $ 121,427 $ 95,782 $ 92,784 $ 85,873 $ 79,493 $ 64,150 $ 145,947 $ 122,065 $ 85,982 $ 83,053 $ 68,047 $ 64,626 $ 60,001 $ 32,755 $ 1.27 $ 1.08 $ 0.79 $ 0.78 $ 0.62 $ 0.60 $ 0.56 $ 0.30
31 - ---------------------------------------------- Notes to the Consolidated Financial Statements - ---------------------------------------------- Summary of Significant Accounting Policies Basis of Consolidation: The consolidated financial statements include the accounts of ServiceMaster Limited Partnership and its majority-owned subsidiary partnerships and corporations, collectively referred to as the Partnership. Intercompany transactions and balances have been eliminated in consolidation. Investments in unconsolidated subsidiaries representing ownership of at least 20 percent, but less than 50 percent, are accounted for under the equity method. Certain immaterial 1995 and 1994 amounts have been reclassified to conform with the 1996 presentation. The preparation of the consolidated financial statements requires management to make certain estimates and assumptions required under generally accepted accounting principles which may differ from the actual results. Revenues: Revenues from lawn care, termite and pest control services are recognized as the services are provided. Revenues from franchised services (which in aggregate represent less than 10 percent of consolidated totals) consist of initial franchise fees received from the sales of licenses, sales of products to franchisees, and continuing monthly fees based upon franchise revenue. Home warranty contract fees are recognized as revenues ratably over the life of the contract. Customers' coverage under home warranty contracts is on a "claims made" basis and contract costs are expensed as incurred. Revenues from Management Services consist of contract fees for services rendered and reflect the total price of such services. Where the Partnership principally uses people who are employees of the facility, the payroll costs for such employees are charged to the Partnership by the facility and are included in "Cost of services rendered and products sold" in the Consolidated Statements of Income. Receivables from the facilities are reflected in the Consolidated Statements of Financial Position at the net amount due, after deducting from the contract price all amounts chargeable to the Partnership. Inventory Valuation: Inventories are valued at the lower of cost (first- in, first-out basis) or market. Inventory costs include material, labor, and factory overhead and related handling costs. Raw materials represent approximately 3 percent of the inventory value at December 31, 1996. The remaining inventory is finished goods to be used on the customers' premises or sold to franchisees. Depreciation and Amortization: Buildings and equipment used in the business are stated at cost and depreciated over their estimated useful lives using the straight-line method for financial reporting purposes. The estimated useful lives for building and improvements range from 10 to 40 years, while the estimated useful lives for equipment range from 3 to 10 years. Intangible assets consist primarily of trade names ($190 million), covenants not to compete ($18 million) and goodwill ($880 million). These assets are amortized on a straight-line basis over their estimated useful lives as follows: trade names 40 years; covenants not to compete - 10 to 20 years; and goodwill - 40 years. Long-lived assets, including fixed assets and intangible assets, are periodically reviewed to determine recoverability by comparing their carrying values to the undiscounted future cash flows expected to be realized from their use. No recovery problems have been indicated by these comparisons. If the undiscounted future cash flows had been less than the carrying amount of the asset, an impairment loss would have been recognized based on the asset's fair value, and the carrying amount of the asset would have been reduced accordingly. Income Taxes: The Partnership is treated as a publicly-traded partnership for federal and state income tax purposes for lines of business existing at December 16, 1987. Substantial new lines of business and international operations are subject to federal, state, and foreign income taxes. Under existing legislation, this tax status will expire at the end of 1997, after which the Partnership will be taxed as a corporation. During the intervening period, all Partnership shareholders are responsible for federal and state income taxes on their proportionate share of taxable income and are entitled to a proportionate share of tax deductions and credits. In January 1992, the Partnership's shareholders approved a tax-free Plan of Reorganization to return to corporate form on or before December 31, 1997, with the exact timing determined at the discretion of the ServiceMaster Board of Directors. Income Per Share: Income per share is based on the weighted average number of common and common equivalent shares outstanding during the year. Shares potentially issuable under option and subscription plans have been considered common equivalent shares. Report of Independent Public Accountants To the Shareholders of ServiceMaster Limited Partnership We have audited the accompanying consolidated statements of financial position of SERVICEMASTER LIMITED PARTNERSHIP (organized under the laws of the State of Delaware) AND SUBSIDIARIES, as of December 31, 1996 and 1995, and the related consolidated statements of income, shareholders' equity, and cash flows for each of the three years in the period ended December 31, 1996. These financial statements are the responsibility of the Partnership's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of ServiceMaster Limited Partnership and Subsidiaries as of December 31, 1996 and 1995, and the consolidated results of operations and cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles. ARTHUR ANDERSEN LLP Chicago, Illinois, January 22, 1997 (February 24, 1997, as to the pending transaction with WMX Technologies, Inc. and the acquisition of Barefoot Inc. which are discussed in the footnotes to the financial statements.) 32
Statements of Income (In thousands, except per share data) Years Ended December 31, 1996 1995 1994 ----------- ------------ ---------- - - Operating Revenue..................... $ 3,458,328 $ 3,202,504 $ 2,985,207 Operating Costs and Expenses: Cost of services rendered and products sold.................................. 2,681,008 2,499,700 2,356,435 Selling and administrative expenses.............................. 482,102 450,937 414,746 -------- -------- ------ - - Total operating costs and expenses.............................. 3,163,110 2,950,637 2,771,181 ---------- ---------- -------- - - Operating Income...................... 295,218 251,867 214,026 Non-operating Expense (Income): Interest expense...................... 38,298 35,855 31,543 Interest and investment income........ (10,183) (7,310) (5,389) Minority interest, including General Partners' 2 percent interest which totalled $4,977 in 1996, $3,505 in 1995, and $2,829 in 1994.............. 14,706 45,715 45,234 ------- ------- ---- - -- Income before Income Taxes............ 252,397 177,607 142,638 Provision for income taxes(1)......... 7,257 5,588 2,755 ------ ------ --- - -- Net Income............................ $ 245,140 $ 172,019 $ 139,883 =========== ========== ========= Net Income Per Share(1 and 2)......... $ 1.70 $1.45 $1.20 ====== ====== ===== (1) The Partnership is not currently subject to federal and state income taxes. However, under current law, this tax status will expire at the end of 1997, after which the Partnership will be taxed as a corporation. A reincorporating plan has been approved by the shareholders and the Partnership currently expects to reincorporate, on a tax-free basis to shareholders, by December 31, 1997. It is currently estimated that the effective tax rate upon reincorporation will be approximately 40 percent of pretax earnings. This estimate is necessarily subject to change based on changes in circumstances, statutory tax rates, etc. Proforma earnings per share would be $1.04 in 1996, $0.89 in 1995, and $0.73 in 1994, assuming reincorporation had occurred at the beginning of each respective year. (2) Based on 144,439 shares in 1996, 118,970 in 1995, and 116,157 shares in 1994. All share and per share data reflect the three-for-two share split in June 1996. (3) See accompanying Summary of Significant Accounting Policies and Notes to Consolidated Financial Statements.
33 Statements of Financial Position
As of December 31, (In thousads) 1996 1995 - -------------------------------------------------------------------------------------------- Assets Current Assets: Cash and marketable securities, consisting of: Cash and cash equivalents of $72,009 in 1996 and $23,113 in 1995 Marketable securities of $42,404 in 1996 and $26,316 in 1995..... $ 114,413 $ 49,429 Receivables, less allowances of $26,287 in 1996 and $20,468 in 1995 270,401 243,649 Inventories........................................................ 43,529 40,583 Prepaid expenses and other assets.................................. 70,991 59,578 ----------- -------- Total current assets. ........................................... 499,334 393,239 Property, Plant, and Equipment, at Cost: Land and buildings................................................. 47,536 47,621 Equipment.......................................................... 273,177 244,662 ----------- -------- 320,713 292,283 Less: Accumulated depreciation.................................... 174,313 146,431 ---------- --------- Net property, plant, and equipment................................. 146,400 145,852 ---------- --------- Other Assets: Intangible assets, primarily trade names and goodwill, less accumulated amortization of $170,623 in 1996 and $133,275 in 1995................................................. 1,088,444 1,021,050 Notes receivable, long-term securities, and other assets........... 112,663 89,749 ---------- -------- -Total Assets.................................................... $1,846,841 $1,649,890 ========== ========== Liabilities and Shareholders' Equity Current Liabilities: Accounts payable................................................... 66,025 50,456 Accrued liabilities: Payroll and related expenses..................................... 69,136 69,808 Insurance and related expenses .................................. 43,675 39,924 Other............................................................ 92,756 84,067 Deferred revenues.................................................. 138,339 115,244 Current portion of long-term obligations........................... 15,621 13,431 ---------- ---------- Total current liabilities........................................ 425,552 372,930 ---------- --------- Long-Term Debt..................................................... 482,315 411,903 Other Long-Term Obligations........................................ 125,299 105,700 Commitments and Contingencies (see Notes) Minority and General Partners' Interests including General Partners' interest of $1,604 in 1996 and $1,392 in 1995.............................................. 16,908 12,697 Shareholders' Equity............................................... 796,767 746,660 ---------- ---------- Total Liabilities and Shareholders' Equity...................... $1,846,841 $1,649,890 ========== ========== See accompanying Summary of Significant Accounting Policies and Notes to the Consolidated Financial Statements.
34 Statements of Cash Flows
Years Ended December 31, (In thousands) 1996 1995 1994 - ------------------------------------------------------------------------------------------ Cash and Cash Equivalents at January 1............. $ 23,113 $ 14,333 $ 17,271 Cash Flows from Operations: Net Income......................................... 245,140 172,019 139,883 Adjustments to reconcile net income to net cash provided from operations: Depreciation................................ 41,658 38,332 32,885 Amortization................................ 37,348 27,656 21,323 Change in working capital, net of acquisitions: Receivables................................. (19,084) (28,503) (21,957) Inventories and other current assets........ (12,666) (16,209) 1,213 Accounts payable............................ 10,302 10,773 5,081 Deferred revenues........................... 17,602 19,691 10,751 Accrued liabilities......................... 13,140 24,287 18,254 Minority interest and other, net............... 7,946 49,379 46,430 -------- -------- -------Net Cash Provided from Operations.................. 341,386 297,425 253,863 ========= ========== ========== Cash Flows from Investing Activities: Property additions............................. (42,952) (44,624) (32,202) Business acquisitions, net of cash acquired.... (58,473) (42,763) (90,250) Net purchases of investment securities......... (20,075) (6,820) (4,594) Proceeds from sale of businesses............... 4,526 23,255 29,021 Notes receivable and financial investments..... 3,304 (12,250) (9,043) Payments to sellers of acquired businesses..... (3,742) (2,908) (2,223) Sale of equipment and other assets............. 2,664 2,250 2,229 --------- --------- --------- Net Cash Used for Investing Activities............. (114,748) (83,860) (107,062) --------- --------- --------- Cash Flows from Financing Activities: Borrowings, net................................ 123,732 96,067 75,904 Payment of borrowings and other obligations.... (82,857) (85,945) (77,405) Distributions to shareholders and shareholders' trust....................................... (146,520) (127,070) (89,153) Distributions to holders of minority interests. (3,074) (32,794) (13,088) Purchase of treasury shares.................... (76,556) (58,500) (41,266) Redemption of preferred stock.................. ---- ---- (14,650) Proceeds from employee share option plans...... 6,835 3,183 5,274 Other.......................................... 698 274 4,645 --------- --------- --------- Net Cash Used for Financing Activities............. (177,742) (204,785) (149,739) --------- --------- -------- Cash Increase (Decrease) During the Year........... 48,896 8,780 (2,938) --------- --------- --------- Cash and Cash Equivalents at December 31 .......... $ 72,009 $ 23,113 $ 14,333 ========= ========= ========== See accompanying Summary of Significant Accounting Policies and Notes to the Consolidated Financial Statements.
35 Statements of Shareholders' Equity
Limited Total Treasury Restricted Partners' Shareholders' (In thousands, except share data) Shares Shares Equity Equity - -------------------------------------------------------------------------------------------------- Balance, December 31, 1993................... (29,571) $ (9,530) $ 328,320 $ 289,219 Net income 1994.............................. 139,883 139,883 Shareholder distributions.................... (89,153) (89,153) Shares issued under option, subscription, and grant plans and other (651,465 shares)....... 17,449 620 (15,156) 2,913 Treasury shares purchased and related costs (2,556,333 shares)........................ (41,266) (41,266) Shares issued for acquisitions................................. 4,891 779 5,670 --------- -------- --------- --------- Balance, December 31, 1994................... $ (48,497) $ (8,910) $ 364,673 $ 307,266 Net income 1995.............................. 172,019 172,019 Shareholder distributions.................... (127,070) (127,070) Shares issued under option, subscription, and grant plans and other (290,327 shares)... 2,431 1,361 13,965 17,757 Treasury shares purchased and related costs (3,255,305 shares)....................... (58,500) (58,500) Shares issued for the acquisition of Consumer Services minority interest (27,160,715 shares).................................. 91,161 265,227 356,388 Shares issued for the acquisition of the TruGreen-ChemLawn minority interest (4,236,093 shares) and other acquisitions. 78,800 78,800 -------- -------- --------- ------- Balance, December 31, 1995.................... $ (13,405) $ (7,549) $ 767,614 $ 746,660 Net income 1996............................... 245,140 245,140 Shareholder distributions..................... (146,520) (146,520) Shares issued under option, subscription, and grant plans and other (1,635,469 shares).. 2,506 1,691 (6,713) (2,516) Treasury shares purchased and related costs (3,437,938 shares)........................ (76,556) (76,556) Shares issued for acquisitions................ 27,455 3,104 30,559 ------- -------- --------- ---------- Balance, December 31, 1996.................... $ (60,000) $ (5,858) $ 862,625 $ 796,767 ======== ======= ======== ======== All share data reflect the three-for-two share split in June 1996. See accompanying Summary of Significant Accounting Policies and Notes to the Consolidated Financial Statements.
36 Notes to the Consolidated Financial Statements Business Unit Reporting The business of the Partnership is conducted through the ServiceMaster Consumer Services, ServiceMaster Management Services, and New Business Development and Parent operating units. The Consumer Services unit provides a variety of specialty services to residential and commercial facilities. The Management Services unit provides a variety of supportive management services to health care, education and commercial accounts, as well as comprehensive facilities management services to commercial accounts. The New Business Development and Parent unit includes ServiceMaster Diversified Health Services, which provides management services and other products and services to the long-term care industry, and the International operations of the Partnership, which have been grouped with Parent due to the developmental status of these businesses. The International operations are responsible for overseeing the services of the enterprise which are provided in foreign markets.Eliminations and Other includes minority interest expense and eliminations made in preparing the consolidated financial statements. Information regarding the accounting policies used by the Partnership is described in the Summary of Significant Accounting Policies. Operating expenses of the business units consist primarily of direct costs and a royalty payable to Parent based on the revenues or profits of the business unit. Identifiable assets are those used in carrying out the operations of the business unit and include intangible assets directly related to its operations. The Partnership's headquarters facility and other investments are included in the identifiable assets of New Business Development and Parent.
New Business Consumer Management Development Eliminations (In thousands) Services Services and Parent and Other Consolidated ---------------------------------------------------------------------- 1996 Operating revenue................ $1,335,390 $1,815,965 $306,973 $ ---- $ 3,458,328 ---------- ---------- -------- -------- ---------- Operating income................. 179,971 78,828 39,446 (3,027) 295,218 ---------- ---------- -------- -------- ---------- Interest expense................. 13,314 2,220 22,764 ----- 38,298 Interest and investment income... (6,007) (1,448) (2,728) ----- (10,183) Minority and General Partners' interest..................... ----- 4,590 2,248 7,868 14,706 Provision for income taxes....... 6,164 961 132 ----- 7,257 ---------- --------- -------- -------- ---------- Net income $ 166,500 $ 72,505 $ 17,030 $(10,895) $ 245,140 ========== ========== ======== ======== ========== Identifiable assets at December 31,1996............. $1,242,386 $ 202,986 $401,469 $ ---- $1,846,841 Depreciation and amortization expense...................... $ 46,883 $ 19,841 $ 12,282 $ ---- $ 79,006 Capital expenditures............. $ 16,097 $ 18,837 $ 8,018 $ ---- $ 42,952 1995 Operating revenue................ $1,180,378 $1,756,316 $ 265,810 $ ----- $3,202,504 ---------- ---------- --------- --------- ---------- Operating income................. 147,828 72,005 33,402 (1,368) 251,867 ---------- --------- --------- --------- ---------- Interest expense................. 11,606 2,533 21,716 ----- 35,855 Interest and investment income... (3,113) (1,488) (2,709) ----- (7,310) Minority and General Partners' interest..................... ---- 4,644 (1,674) 42,745 45,715 Provision for income taxes....... 3,443 815 1,330 ----- 5,588 --------- --------- --------- --------- ---------- Net income $ 135,892 $ 65,501 $ 14,739 $ (44,113) $ 172,019 ========== ========== ========= ========= ========== Identifiable assets at December 31, 1995........... $1,101,418 $ 188,583 $ 359,889 $1,649,890 Depreciation and amortization expense..................... $ 36,719 $ 18,438 $ 10,831 $ 65,988 Capital expenditures............ $ 12,524 $ 17,497 $ 14,603 $ 44,624 1994 Operating revenue............... $1,039,867 $1,822,984 $ 122,356 $ ---- $2,985,207 ---------- ---------- --------- --------- --------- - - Operating income................ 124,752 65,888 25,655 (2,269) 214,026 ---------- ---------- --------- --------- --------- - - Interest expense................ 11,900 4,015 15,628 ---- 31,543 Interest and investment income........................ (1,897) (1,938) (1,554) ---- (5,389) Minority and General Partners' interest...................... 10,984 3,916 (378) 30,712 45,234 Provision for income taxes...... 1,337 645 773 ---- 2,755 ---------- ---------- --------- --------- --------- - - Net income $ 102,428 $ 59,250 $ 11,186 $ (32,981) $ 139,883 ========== ========== ========= ========= ========== Identifiable assets at December 31, 1994........... $ 728,986 $ 196,201 $ 305,652 $1,230,839 Depreciation and amortization... $ 31,831 $ 16,718 $ 5,659 $ 54,208 Capital expenditures............ $ 7,777 $ 18,424 $ 6,001 $ 32,202
37 Notes to the Consolidated Financial Statements Partnership ServiceMaster Limited Partnership (the Partnership) holds as its only asset a 99 percent interest in the profits, losses, and distributions of The ServiceMaster Company Limited Partnership, which through subsidiaries owns and operates the ServiceMaster business. The Managing General Partner of these two partnerships is ServiceMaster Management Corporation. The Managing General Partner holds a 1 percent interest in the income of both ServiceMaster Limited Partnership and The ServiceMaster Company Limited Partnership. ServiceMaster Management Corporation is owned by 38 ServiceMaster executives who have given their voting rights to the Board of Directors, a majority of whom are independent directors. Under certain circumstances, the shareholders of ServiceMaster Limited Partnership may remove and replace the Managing General Partner. Plan of Reincorporation ServiceMaster Incorporated was created as part of the Plan of Reorganization approved by the shareholders of the Partnership in January 1992. The reorganization is currently expected to become effective by December 31, 1997. No shares of ServiceMaster Incorporated are currently outstanding and there are no plans to issue stock of ServiceMaster Incorporated at the present time. The reorganization has been structured as a merger in which ServiceMaster Incorporated will become the successor entity through which the public will invest in ServiceMaster after the reincorporation. At the time of reincorporation, outstanding Partnership shares will be converted on a one-for-one basis into new shares of common stock to be issued by ServiceMaster Incorporated. No federal income tax will be imposed on the shareholders of the Partnership as a result of the reincorporation. During the process of reincorporation, ServiceMaster will be entitled to recognize a step-up in the tax basis of its assets, which will be amortized against the taxable income of the surviving enterprise (i.e., ServiceMaster Incorporated) in future years, resulting in an annual cash benefit currently estimated at between $10 and $15 million (before consideration of any additional step-up in tax basis that results from the Partnership's planned repurchase of WMX's ownership interest). Reincorporation will have no impact on the "book basis" of ServiceMaster's assets, which is reflected in the accompanying audited financial statements. The tax basis step-up will result in the recognition of a deferred tax asset in the Company's balance sheet and a corresponding unusual gain in the Company's audited income statement in the period of reincorporation. The exact amount of the tax basis step-up (and the deferred tax asset and unusual gain that will result therefrom) will depend in part on the price and trading volume of the Partnership shares, as well as shares transactions, prior to reincorporation. Management currently estimates that upon reincorporation the effective tax rate reflected in the Company's income statement will be approximately 40 percent. Proforma earnings per share would be $1.04 in 1996, $0.89 in 1995 and $0.73 in 1994, assuming reincorporation had occurred at the beginning of each year. These estimates are necessarily subject to change based on changes in circumstances, statutory tax rates, etc. Taxes The Partnership is not directly subject to income taxes. Instead, its taxable income or loss is allocated to its partners. However, the Partnership has certain subsidiaries which operate in corporate form, including American Home Shield, its home health care businesses, and certain international operations. Additionally, several of the Partnership's subsidiaries are subject to a variety of state partnership level business taxes and foreign tax payments which account for a significant portion of the provision for income taxes that is currently reflected in the Partnership's consolidated income statement. Income before income taxes consists of the following:
(in thousands) 1996 1995 1994 -------- -------- ------- Partnership income not subject to federal or foreign income taxes ......................................... $241,591 $174,312 $145,760 Income (loss) of subsidiary corporations subject to income taxes.......................................... 10,806 3,295 (3,122) -------- -------- ------- - -Income before taxes $252,397 $177,607 $142,638 ======== ======== ========
Acquisitions and Sales Acquisitions have been accounted for using the purchase method, and the results of the acquired businesses have been included in the Partnership's financial statements since their dates of acquisition. During 1996, the Partnership acquired Premier, a provider of management services to the automotive industry, and several other smaller companies, predominately pest control, lawn care and pharmacy management businesses. The aggregate fair value of assets acquired less liabilities assumed was $91 million. The assets and liabilities of these businesses were recorded 38 in the Partnership's financial statements at their estimated fair market values as of the acquisition dates, including approximately $96 million of intangible assets which are being amortized on a straight-line basis over 40 years. On December 5, 1996, the Partnership announced that it had reached an agreement to acquire Barefoot Inc., the second largest professional residential lawn care services company in the United States. The transaction was consummated on February 24, 1997, with the Partnership paying $16 per share, or an aggregate value of approximately $232 million consisting of $146 million in Partnership shares and $86 million in cash. In December 1995, the Partnership issued 27.2 million unregistered Partnership shares, representing approximately 19 percent of the adjusted total number of shares then outstanding, in exchange for WMX's 27.76 percent ownership interest in Consumer Services. This transaction represented a negotiated acceleration of a conversion right previously held by WMX that was first exercisable beginning in 1998. WMX also received a five year option to purchase an additional 1.88 million shares at $22.00 per share. The unregistered shares and the option included a number of voting and trading restrictions, including significant limitations on open market sales, with ServiceMaster retaining a right of first refusal. WMX also agreed not to initiate any action that would increase its ownership interest in ServiceMaster to more than 21 percent. The shares issued to WMX were valued based upon the average market price of unrestricted Partnership shares at the time the transaction was agreed to and announced, adjusted to reflect the significant voting and trading restrictions on the shares and other considerations. The valuation of the restricted shares issued to WMX was determined in part based on a review performed by an international investment banking firm. The acquisition resulted in approximately $239 million in intangible assets, primarily trade names and goodwill, which are being amortized on a straight- line basis over 40 years. The following schedule represents the unaudited proforma consolidated results of operations as if the WMX minority interest was acquired at the beginning of each period indicated:
1995 1994 (in thousands, except per share data) ---------- -------- - - Operating revenue........................... $3,202,504 $2,985,207 Net income.................................. $ 203,038 $ 161,748 Net income per share $ 1.39 $ 1.13
On February 19, 1997, the Partnership and WMX announced that the two companies had reached an agreement under which ServiceMaster would buy WMX's entire ownership interest in ServiceMaster for approximately $626 million. This transaction, which is expected to be completed in April 1997, will result in the Partnership acquiring the 27.2 million Partnership shares held by WMX and cancelling WMX's option to purchase an additional 1.88 million Partnership shares. The repurchase will be initially financed with short-term bank financing. Management is currently evaluating a number of long-term financing alternatives for this transaction and the Barefoot acquisition, which would potentially include equity issuances within the next two years. In January 1995, Consumer Services acquired the 15 percent minority interest in TruGreen-ChemLawn in exchange for Partnership shares valued at $71 million. This consideration represented 4.2 million Partnership shares valued at the quoted market price of the shares at the time of the transaction. Related to this transaction, approximately $59 million of intangible assets, primarily trade names and goodwill, were recorded and are being amortized on a straight-line basis over 40 years. In February 1995, the Partnership sold 80 percent of the Education Food Service business to DAKA International, Inc. for $10 million in cash and a secured short-term note of approximately $10.25 million which was fully collected by the end of 1995. The gain realized on the sale was not material to the overall results for the year. In late 1994, the Partnership acquired three European pest control companies: Anticimex Development AB (a Swedish pest control company), Peter Cox, plc (a provider of pest control and wood preservation services in the United Kingdom), and Protekta/Riwa (a provider of pest control and property care in the Netherlands). The aggregate cash consideration paid for these businesses totalled $72 million. The assets and liabilities of these businesses were recorded in the Partnership's financial statements at their estimated fair market values as of their respective acquisition dates, including approximately $78 million in intangible assets, primarily trade names ($28 million) and goodwill ($50 million), which are being amortized on a straight-line basis over 40 years. 39 Supplemental cash flow information regarding the Partnership's acquisitions is as follows:
1996 1995 1994 -------- --------- ------ - -- (In thousands) Fair value of assets acquired ..... $134,377 $502,430 $144,710 Less liabilities assumed .......... (43,781) (24,246) (46,867) -------- -------- -------- Net assets acquired................ 90,596 478,184 97,843 Less Partnership shares issued..... (30,559) (435,188) (5,670) Less cash acquired................. (1,564) (233) (1,923) -------- -------- -------- Business acquisitions, net of cash acquired............. $ 58,473 $ 42,763 $ 90,250 ======== ======== ========
Long-Term Debt and Other Long-Term Obligations Long-term debt and other long-term obligations include the following
1996 1995 ----------- ------------- (In thousands, except per share data) Notes Payable: 7.40%, maturing in 2006..................$ 125,000 $ -- 7.47%, maturing in 1997.................. 50,000 75,000 6.65%, maturing in 2002 - 2004........... 70,000 70,000 8.38%, maturing in 1997 - 2001........... 50,000 50,000 10.57%, maturing in 1997 - 2000.......... 36,000 45,000 10.81%, maturing in 2000 - 2002.......... 55,000 55,000 9%, convertible at $8.61 per share....... 18,300 18,600 6%, subordinated, convertible at $12.45 per share..................... 3,581 3,581 Revolving credit facilities ............. --- 50,000 Other.................................... 90,055 58,153 Less current portions.................... (15,621) (13,431) -------- -------- Total long-term debt.....................$ 482,315 $ 411,903 ========= ========= Insurance accruals and other long-term liabilities $ 125,299 $ 105,700 ========= =========
The Partnership is party to a number of long-term debt agreements which require it to maintain compliance with certain financial covenants, including limitations on indebtedness, restricted payments, fixed charge coverage ratios and net worth. The Partnership has been and currently is in compliance with the covenants related to these debt agreements. In September 1996, the Partnership completed a $125 million private placement of debt at an overall interest rate of 7.4 percent. Proceeds were used to pay down the revolving credit facility. The Partnership has a five-year, multi-currency, revolving credit agreement under which the Partnership can borrow up to $300 million from a group of 13 banks. The line of credit can be used for general Partnership purposes. The revolving credit facility had $300 million of unused commitments as of December 31, 1996. Approximately $69 million of notes payable are expected to be refinanced by the long-term revolving credit facility in 1997 and therefore are not considered current liabilities. The acquisition of Barefoot in February 1997 resulted in additional borrowings of approximately $80 million under the revolving credit facility. In addition, the repurchase of Partnership shares from WMX, expected to be completed in April 1997, will be financed on a short-term basis while management evaluates a number of long-term financing alternatives for both transactions. Interest paid was $34 million in 1996, $34 million in 1995, and $30 million in 1994. Average rates paid on the revolving credit facilities were 5.62 percent in 1996 and 6.20 percent in 1995. Future scheduled long-term debt payments are $19 million in 1998, $19 million in 1999, $37 million in 2000 and $28 million in 2001. Based upon the borrowing rates currently available to the Partnership for long-term borrowings with similar terms and maturities, the fair value of long-term debt is approximately $508 million. The Partnership and the minority investors in Management Services and Diversified Health Services had rights, respectively, to acquire or sell these minority interests at then-current fair market value. In early 1997, the Partnership purchased the minority interests for a combination of cash and Partnership shares, totalling $25 million. These minority interest acquisitions recorded in 1997 resulted in approximately $11 million of intangible assets. Future long-term noncancelable operating lease payments are $27.9 million in 1997, $21.7 million in 1998, $16.2 million in 1999, $10.8 million in 2000, $6.0 million in 2001, and $9.4 million thereafter. Rental expense for 1996, 1995, and 1994 was $74.8 million, $65.4 million, and $55.3 million, respectively. Employee Benefit Plans Contributions to qualified profit sharing plans were made in the amount of $6.9 million in 1996, $6.2 million in 1995, and $6.4 million in 1994. Under the Employee Share Purchase Plan, the Partnership contributed $1.0 million in 1996 and $.08 million per year in 1995 and 1994. These funds defrayed part of the cost of the share purchased by employees. Shareholders' Equity As of December 31, 1996 there were 9,520,000 Partnership shares available for issuance upon the exercise of employee options outstanding, the WMX option and future grants. Share options are issued at a price not less than the fair market value 40 on the grant date and expire within ten years of the grant date. Certain options may permit the holder to pay the option exercise price by tendering Partnership shares that have been owned by the holder without restriction for an extended period. Share grants carry a vesting period and are restricted as to the sale or transfer of the shares. In 1995, as part of the acquisition of the minority ownership interest in Consumer Services, WMX received a five-year option to purchase 1.88 million shares at $22.00 per share. This option, which first became exercisable in 1997, will be cancelled as part of the agreement reached in February 1997 between the Partnership and WMX in which the Partnership agreed to repurchase WMX's entire ownership interest in ServiceMaster. The Partnership accounts for employee share options under APB Opinion 25, as permitted under generally accepted accounting principles. Accordingly, no compensation cost has been recognized in the accompanying financial statements related to these options. Had compensation cost for these plans been determined consistent with SFAS 123, which is an accounting alternative that is permitted but not required, the Partnership's net income and net income per share would reflect the following:
1996 ---------- (in thousands, except per share data) Net Income: As Reported.......... $245,140 Proforma............. $243,549 Net Income Per Share: As Reported.......... $ 1.70 Proforma............. $ 1.69
Since SFAS 123 does not apply to options granted prior to 1995, the proforma disclosure is not likely to be indicative of proforma results which may be expected in future years. This primarily relates to the fact that options vest over several years and proforma compensation cost is recognized as the options vest; another factor is that additional awards may also be granted in those years. The fair value of each option is estimated on the date of grant based on the Black-Scholes option pricing model with the following weighted- average assumptions: a risk-free interest rate of 5.6 percent; a volatility rate of 27 percent; a 3.2 percent distribution yield; and an average expected life of 7 years. The options granted to employees in 1996 have a weighted-average fair value of $5.40 and vest ratably over five years. The Partnership has estimated the value of these options assuming a single weighted-average expected life for the entire award.
Weighted-Average Share Options Price Range Exercise Price Share Grants Price Range --------------------------------------------------------------------------------------------------------------- - ------- Total exercisable and outstanding December 31, 1993 5,796,750 $ 1.64 - 17.17 $10.22 1,307,567 $ 6.45 - 14.50 Transaction during 1994: Granted to employees 1,852,500 $ 14.50 $14.50 6,000 $14.50 - 17.00 Exercised, paid , or vested (552,593) $ 1.64 - 17.17 $ 7.36 (98,916) $ 6.45 - 17.00 Terminated or resigned (52,693) $ 3.71 - 11.55 $10.42 ---- $ ---- Total exercisable and outstanding December 31, 1994 7,043,964 $ 1.64 - 17.17 $12.33 1,214,651 $ 6.45 - 17.00 Transactions during 1995: Granted to employees ----- $ ----- $ ---- 9,750 $15.25 - 17.92 Issued to WMX Technologies, Inc. 1,875,000 $ 22.00 $22.00 ---- $ --- Exercised, paid , or vested (624,001) $ 1.64 - 17.17 $ 9.05 (211,857) $ 6.45 - 17.92 Terminated or resigned (182,780) $ 2.96 - 17.17 $ 8.50 (32,216) $ 6.67 - 6.85 Total exercisable, December 31, 1995 6,237,183 $ 1.64 - 17.17 $12.28 ---- $ --- Total outstanding, December 31, 1995 8,112,183 $ 1.64 - 22.00 $14.53 980,328 $ 6.45 - 17.92 Transactions during 1996 Granted to employees 1,846,500 $ 20.83 - 24.25 $21.16 ----- $ ----- Exercised, paid , or vested (2,431,398) $ 1.64 - 17.17 $12.50 (177,332) $ 6.45 - 17.92 Terminated or resigned (160,122) $ 6.29 - 17.17 $ 8.75 ----- $ ----- Total exercisable, December 31, 1996 3,645,663 $ 1.64 - 17.17 $12.36 ----- $ ----- Total outstanding, December 31, 1996 7,367,163 $ 1.64 - 24.25 $17.02 802,996 $ 6.45 - 17.92
Options outstanding at December 31, 1996: Number Range of outstanding Remaining Weighted-Average Number exercisable Weighted-Average Exercise Prices at 12/ 31/96 Life Exercise Price at 12/31/96 Exercise Price - --------------- ------------- ------------ ------------ ------------ ----------- $ 1.64 - $5.07 312,192 6.5 years $ 3.34 312,192 $ 3.34 $ 6.29 - $11.56 1,373,143 5.0 years $ 9.41 1,373,143 $ 9.41 $14.50 - $24.25 5,681,828 7.0 years $19.61 1,960,328 $15.86 --------- --------- ------ --------- ------ $1.64 - $24.25 7,367,163 6.5 years $17.02 3,645,663 $12.36
41 Notes to the Consolidated Financial Statements Cash and Marketable Securities Marketable securities held at December 31, 1996 and 1995, with a maturity of three months or less, are included in the Statements of Financial Position caption "Cash and Cash Equivalents". Marketable securities are designated as available for sale and recorded at current market value, with unrealized gains and losses reported in a separate component of shareholders' equity. Marketable securities available for current operations are classified as current assets while securities held for noncurrent uses are classified as long-term. The Partnership's investments consist primarily of publicly-traded debt and common equity securities. As of December 31, 1996, the aggregate market value of the Partnership's short- and long-term investments in equity securities was $69 million and the aggregate cost basis was $62 million. There has been no material participation in derivative trading securities in 1996 or 1995. Gains and losses on sales of investments, as determined on a specific identification basis, are included in investment income in the period they are realized. Gross gains and losses on such sales were not material in 1996, 1995 or 1994. Interest and dividend income received on cash and marketable securities was $8.0 million, $6.8 million, and $5.4 million in 1996, 1995, and 1994, respectively. Quarterly Operating Results Quarterly operating results and related growth for the last three years in revenues, gross profit, net income, and net income per share are shown in the table below. For interim accounting purposes, certain costs directly associated with the generation of lawn care revenues are initially deferred and recognized as expense as the related revenues are recognized. Full year results are not affected. Certain amounts from prior periods have been reclassified to conform with the current presentation.
(Unaudited, in thousands, except per share data) Percent Percent Incr. Incr. 1996 '96-'95 1995 '95-'94 1994 ----------- -------- ------------ --------- -------- - - Operating Revenue: First Quarter $ 740,299 5% $ 707,764 8% $ 657,638 Second Quarter 916,931 8 852,791 8 791,496 Third Quarter 927,227 9 854,383 7 797,015 Fourth Quarter 873,871 11 787,566 7 739,058 ---------- --- ----------- --- -------- - -- $3,458,328 8% $ 3,202,504 7% $2,985,207 Gross Profit: First Quarter $ 142,116 6% $ 133,458 17% $ 114,364 Second Quarter 221,505 10 200,728 11 180,954 Third Quarter 219,127 10 199,684 9 183,392 Fourth Quarter 194,572 15 168,934 13 150,062 ---------- --- ---------- --- -------- - -- $ 777,320 11% $ 702,804 12% $ 628,772 Net Income: First Quarter $ 40,513 40% $ 28,880 18% $ 24,546 Second Quarter 71,264 42 50,160 24 40,434 Third Quarter 68,800 44 47,750 25 38,054 Fourth Quarter 64,563 43 45,229 23 36,849 ----------- --- ---------- --- --------- - - $ 245,140 43% $ 172,019 23% $ 139,883 Net Income Per Share: First Quarter $ 0.28 17% $ 0.24 14% $ 0.21 Second Quarter 0.49 17 0.42 20 0.35 Third Quarter 0.48 20 0.40 21 0.33 Fourth Quarter 0.45 18 0.38 19 0.32 ----------- --- ----------- --- --------- - - $ 1.70 17% $ 1.45 21% $ 1.20 Cash Distributions Per Share: First Quarter $ 0.16 4% $ 0.15 0% $ 0.15 Second Quarter 0.16 0 0.16 4 0.15 Third Quarter 0.17 6 0.16 4 0.15 Fourth Quarter 0.17 6 0.16 4 0.15 ----------- --- ---------- --- --------- - -- $ 0.66 4% $ 0.63 3% $ 0.61 Price Per Share: First Quarter $22.33 - 19.38 $16.67 - 14.33 $18.92 - 14.67 Second Quarter 23.50 - 20.63 18.17 - 15.75 17.59 - 15.09 Third Quarter 24.75 - 21.50 19.25 - 17.67 17.67 - 16.00 Fourth Quarter 26.63 - 23.75 20.25 - 18.42 16.92 - 14.33 All share and per share data reflect the three-for-two share split in June 1996.
42 EX-21 6 SUBSIDIARIES OF THE REGISTRANT As of March 21, 1997, ServiceMaster had the following subsidiaries:
State or Country of Incorporation or Organization Subsidiary - ---------- ----------------- The ServiceMaster Company Limited Partnership Delaware ServiceMaster Consumer Services Limited Partnership Delaware ServiceMaster Consumer Services, Inc. Delaware TruGreen Limited Partnership Delaware TruGreen, Inc. Delaware Barefoot Inc. Delaware Barefoot Grass Lawn Services, Inc. Delaware Barefoot Services L.L.C. Delaware The Terminix International Company Limited Partnership Delaware Terminix International, Inc. Delaware ServiceMaster Residential/Commercial Services Limited Partnership Delaware ServiceMaster Residential/Commercial Services Management Corporation Delaware Merry Maids Limited Partnership Delaware Merry Maids, Inc. Delaware American Home Shield Corporation (2) Delaware ServiceMaster Direct Distributor Company Limited Partnership Delaware ServiceMaster DDC, Inc. Delaware AmeriSpec, Inc. Delaware Furniture Medic Limited Partnership Delaware Furniture Medic, Inc. Delaware ServiceMaster Management Services Limited Partnership Delaware ServiceMaster Management Services, Inc. Delaware ServiceMaster Aviation Services Limited Partnership Delaware ServiceMaster Aviation Management Corporation Delaware Premier Manufacturing Support Services Limited Partnership (3) Delaware CMI Group, Inc. Wisconsin The ServiceMaster Acceptance Company Limited Partnership Delaware ServiceMaster AM Limited Partnership Delaware ServiceMaster Acceptance Corporation Delaware ServiceMaster International Limited Partnership Delaware ServiceMaster International Management Corporation Delaware ServiceMaster Limited United Kingdom ServiceMaster Operations Germany GmbH Germany ServiceMaster Japan, Inc. Japan TMX-Europe B.V. The Netherlands Terminix Peter Cox Ltd. United Kingdom Terminix Protekta B.V. The Netherlands Riwa B.V. The Netherlands Anticimex Development AB (4) Sweden TMX-Schadlingsbekampfungsgesellschaft mbH (5) Germany LTCS Investment Limited Partnership Delaware ServiceMaster Home Health Care Services Inc. Delaware ServiceMaster Diversified Health Services, Inc. (6) Delaware ServiceMaster Diversified Health Services Limited Partnership (7) Tennessee We Serve America, Inc. Delaware TSSGP Limited Partnership Delaware TSSGP, Inc. Delaware ServiceMaster Aviation LLC Illinois
_______________________________ 2 American Home Shield Corporation has 17 subsidiaries through which it carries on its business in the various states in which it markets its products. 3 Premier Manufacturing Support Services Limited Partnership has 7 subsidiaries through which it carries on its business outside of the United States. 4 Anticimex Development AB has 5 subsidiaries. 5 The Stenglein group includes 2 subsidiaries. 6 ServiceMaster Diversified Health Services, Inc. has 4 subsidiaries. 7 ServiceMaster Diversified Health Services, L. P. has 21 subsidiaries. EX-23 7 CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS As independent public accountants, we hereby consent to the incorporation by reference in this Form 10-K of our report dated January 22, 1997 (February 24, 1997, as to the pending transaction with WMX Technologies, Inc. and the acquisition of Barefoot Inc. which are discussed in the footnotes to the financial statements) included in the ServiceMaster Limited Partnership Annual Report to Shareholders for the year ended December 31, 1996. Arthur Andersen LLP Chicago, Illinois March 21, 1997 EX-27 8
5 1,000 YEAR DEC-31-1996 DEC-31-1996 72,009 42,404 296,688 26,287 43,529 499,334 320,713 174,313 1,846,841 425,552 482,315 0 0 0 796,767 1,846,841 0 3,458,328 0 2,681,008 482,102 0 38,298 252,397 7,257 245,140 0 0 0 245,140 1.70 1.68
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