-----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, DnPvGbM5fwTlnGUCNnJijHPXPg3beQC+jgJeLnKk2aEROKpErPXHjpwOetw4taEv bAff0mJ0TBuAZSiNAEBQlQ== 0000950137-02-003059.txt : 20020515 0000950137-02-003059.hdr.sgml : 20020515 ACCESSION NUMBER: 0000950137-02-003059 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 20020331 FILED AS OF DATE: 20020515 FILER: COMPANY DATA: COMPANY CONFORMED NAME: INSURANCE AUTO AUCTIONS INC /CA CENTRAL INDEX KEY: 0000880026 STANDARD INDUSTRIAL CLASSIFICATION: WHOLESALE-MOTOR VEHICLES & MOTOR VEHICLE PARTS & SUPPLIES [5010] IRS NUMBER: 953790111 STATE OF INCORPORATION: IL FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-19594 FILM NUMBER: 02648781 BUSINESS ADDRESS: STREET 1: 850 E ALGONQUIN RD STREET 2: STE 100 CITY: SCHAUMGURG STATE: IL ZIP: 60173 BUSINESS PHONE: 8478393939 MAIL ADDRESS: STREET 1: 850 E ALGONQUIN RD STREET 2: STE 100 CITY: SCHAUMGURG STATE: IL ZIP: 60173 10-Q 1 c69651e10-q.txt QUARTERLY REPORT SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 2002 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ____________________ to _______________________ Commission File Number: 0-19594 ------- INSURANCE AUTO AUCTIONS, INC. ----------------------------- (Exact name of registrant as specified in its charter)
Illinois 95-3790111 - -------------------------------------------------------------------------------------------------------------- (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.) 850 East Algonquin Road, Suite 100, Schaumburg, Illinois 60173-3855 - -------------------------------------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) (847) 839-3939 - -------------------------------------------------------------------------------------------------------------- (Registrant's telephone number, including area code)
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. |X| Yes | | No APPLICABLE ONLY TO CORPORATE ISSUERS Number of shares outstanding of each of the issuer's classes of common stock, as of April 30, 2002: Class Outstanding April 30, 2002 ----- -------------------------- Common Stock, $0.001 Par Value 12,219,228 shares INDEX INSURANCE AUTO AUCTIONS, INC.
PAGE NUMBER ----------- PART I. FINANCIAL INFORMATION.............................................................. 3 Item 1. Financial Statements (Unaudited)................................................... 3 Condensed Consolidated Statements of Operations for the Three Month Periods ended March 31, 2002 and April 1,2001..................... 3 Condensed Consolidated Balance Sheets as of March 31, 2002 and December 30, 2001.................................... 4 Condensed Consolidated Statements of Cash Flows for the Three Month Periods ended March 31, 2002 and April 1, 2001.................... 5 Notes to Condensed Consolidated Financial Statements............................... 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations..................................................... 9 Item 3. Quantitative and Qualitative Disclosures about Market Risk......................... 15 PART II. OTHER INFORMATION................................................................. 16 Item 1. Legal Proceedings.................................................................. 16 Item 2. Changes in Securities.............................................................. 16 Item 3. Defaults upon Senior Securities.................................................... 16 Item 4. Submission of Matters to a Vote of Security Holders................................ 16 Item 5. Other Information.................................................................. 16 Item 6. Exhibits and Reports on Form 8-K................................................... 16 SIGNATURES .......................................................................... 17
2 INSURANCE AUTO AUCTIONS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (dollars in thousands except per share amounts)
THREE MONTH PERIODS ENDED --------------------------- MARCH 31, APRIL 1, 2002 2001 --------------------------- (Unaudited) Revenues: Vehicle sales $ 27,751 $ 40,217 Fee income 41,469 37,627 -------- -------- 69,220 77,844 Cost of sales: Vehicle cost 26,057 37,192 Branch cost 31,192 29,144 -------- -------- 57,249 66,336 Gross profit 11,971 11,508 Operating expense: Selling, general and administration 7,112 7,156 Amortization of intangible assets 67 1,006 Business transformation costs 1,949 -- Special charges -- 6,047 -------- -------- Earnings (loss) from operations 2,843 (2,701) -------- -------- Other (income) expense: Interest expense 248 456 Interest income (57) (368) -------- -------- Earnings (loss) from operations 2,652 (2,789) Provision (benefit) for income taxes 1,140 (1,144) -------- -------- Net earnings (loss) $ 1,512 $ (1,645) ======== ======== Net earnings (loss) per share: Basic $ .12 $ (.14) ======== ======== Diluted $ .12 $ (.14) ======== ======== Weighted average shares outstanding: Basic 12,198 11,730 Effect of dilutive securities - stock options 245 -- -------- -------- Diluted 12,443 11,730 ======== ========
See accompanying notes to condensed consolidated financial statements. 3 INSURANCE AUTO AUCTIONS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (dollars in thousands except share amounts)
MARCH 31, DECEMBER 30, 2002 2001 ----------------------- (Unaudited) ASSETS Current assets: Cash and cash equivalents $ 15,211 $ 24,467 Accounts receivable, net 50,351 54,674 Inventories 11,671 13,505 Short-term investments -- 2,131 Other current assets 1,824 4,165 -------- -------- Total current assets 79,057 98,942 -------- -------- Property and equipment, net 40,158 39,240 Deferred income taxes 7,877 7,827 Investments in marketable securities -- 512 Intangible assets, net 1,550 1,617 Goodwill, net 129,522 129,522 Other assets 132 544 -------- -------- $258,296 $278,204 ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable $ 39,509 $ 41,451 Accrued liabilities 9,751 10,920 Accrued special charges 1,029 1,245 Income tax 925 -- Current installments of long-term debt 41 20,040 -------- -------- Total current liabilities 51,255 73,656 -------- -------- Deferred income taxes 12,542 12,172 Other liabilities 3,192 3,279 Long-term debt, excluding current installments 92 103 -------- -------- Total liabilities 67,081 89,210 -------- -------- Shareholders' equity: Preferred stock, par value of $.001 per share Authorized 5,000,000 shares; none issued -- -- Common stock, par value of $.001 per share Authorized 20,000,000 shares; issued and outstanding 12,215,728 and 12,162,290 shares as of March 31, 2002 and December 30, 2001, respectively 12 12 Additional paid-in capital 143,284 142,575 Retained earnings 47,919 46,407 -------- -------- Total shareholders' equity 191,215 188,994 -------- -------- $258,296 $278,204 ======== ========
See accompanying notes to condensed consolidated financial statements. 4 INSURANCE AUTO AUCTIONS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (dollars in thousands)
THREE MONTHS ENDED ------------------------ MARCH 31, APRIL 1, 2002 2001 ----------- ---------- (Unaudited) Cash flows from operating activities: Net earnings (loss) $ 1,512 $ (1,645) Adjustments to reconcile net earnings (loss) to net cash provided by operating activities: Depreciation and amortization 2,014 2,335 Gain on disposal of fixed assets -- (407) Special charges -- 6,047 Changes in assets and liabilities (net of effects of acquired companies): (Increase) decrease in: Accounts receivable, net 4,323 (1,397) Inventories 1,834 (3,686) Other current assets 2,341 (2,394) Other assets 432 36 Increase (decrease) in: Accounts payable (1,942) 9,228 Accrued liabilities (1,472) (540) Income taxes, net 1,245 291 -------- -------- Total adjustments 8,775 9,513 -------- -------- Net cash provided by operating activities 10,287 7,868 -------- -------- Cash flows from investing activities: Capital expenditures (2,885) (4,928) Investments, net 2,643 (6,826) Proceeds from disposal of fixed assets -- 1,340 Payments made in connection with acquired companies, net of cash acquired -- (105) -------- -------- Net cash used in investing activities (242) (10,519) -------- -------- Cash flows from financing activities: Proceeds from issuance of common stock 709 107 Principal payments on long-term debt (20,010) (10) -------- -------- Net cash (used) provided by financing activities (19,301) 97 -------- -------- Net decrease in cash and cash equivalents (9,256) (2,554) Cash and cash equivalents at beginning of period 24,467 30,938 -------- -------- Cash and cash equivalents at end of period $ 15,211 $ 28,384 ======== ======== Supplemental disclosures of cash flow information: Cash paid or refunded during the period for: Interest $ 863 $ 870 ======== ======== Income taxes paid $ 24 $ -- ======== ======== Income taxes refunded $ 2,250 $ -- ======== ========
See accompanying notes to condensed consolidated financial statements. 5 INSURANCE AUTO AUCTIONS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. GENERAL The unaudited condensed consolidated financial statements of Insurance Auto Auctions, Inc. and its subsidiaries (collectively, the "Company") have been prepared on the same basis as the annual audited consolidated financial statements and, in the opinion of the Company, reflect all adjustments (consisting of normal recurring adjustments, except as otherwise described in Note 2) necessary for a fair presentation for each of the periods presented. The results of operations for interim periods are not necessarily indicative of results for full fiscal years. As contemplated by the Securities and Exchange Commission ("SEC") under Rule 10-01 of Regulation S-X, the accompanying consolidated financial statements and related notes have been condensed and do not contain certain information that is included in the Company's annual consolidated financial statements and notes thereto. For further information, refer to the consolidated financial statements and notes thereto included in the Company's annual report on Form 10-K for the year ended December 30, 2001. Fiscal year 2001 consisted of 52 weeks and ended December 30, 2001. Fiscal year 2002 will consist of 52 weeks and will end on December 29, 2002. Certain reclassifications have been made to the prior year financial information to conform to the current year presentation. Beginning this year, the Company has adopted a new presentation format for the Condensed Consolidated Statement of Operations. The purpose of this change is to provide greater clarity to historic, current and future results. The primary change relates to the breakdown of the Company's cost structure between purchase agreement vehicle cost, branch cost and selling, general and administrative operating expenses. The cost of those purchase agreement vehicles sold for the period are presented in the vehicle cost component. Branch cost represents those expenses related to operating our individual branches including towing, yard and office labor, branch management, real estate and other related expenses. Selling, general and administration expenses are now presented separately as well. The following table presents condensed consolidated statements of operations for the four quarters of 2001 displayed in the new presentation format. 6 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (dollars in thousands except per share amounts)
First Quarter Second Quarter Third Quarter Fourth Quarter Total 2001 2001 2001 2001 2001 -------------- -------------- ------------- --------------- --------- Revenues: Vehicle sales $ 40,217 $ 36,942 $ 32,618 $ 28,650 $ 138,427 Fee income 37,627 38,572 38,348 40,016 154,563 --------- --------- --------- --------- --------- 77,844 75,514 70,966 68,666 292,990 Cost of sales: Vehicle cost 37,192 34,727 31,651 28,113 131,683 Branch cost 29,144 28,896 30,986 33,841 122,867 --------- --------- --------- --------- --------- 66,336 63,623 62,637 61,954 254,550 --------- --------- --------- --------- --------- Gross profit 11,508 11,891 8,329 6,712 38,440 Operating expense: Selling, general and administration 7,156 6,965 6,623 7,383 28,127 Business transformation costs -- 84 668 2,699 3,451 Amortization of intangible assets 1,006 1,005 1,013 1,031 4,055 Special charges 6,047 -- -- 1,969 8,016 --------- --------- --------- --------- --------- Earnings (loss) from operations (2,701) 3,837 25 (6,370) (5,209) Other (income) expense: Interest expense 456 456 441 435 1,788 Interest income (368) (315) (205) (137) (1,025) --------- --------- --------- --------- --------- Earnings (loss) before income taxes (2,789) 3,696 (211) (6,668) (5,972) --------- Provision (benefit) for income taxes (1,144) 1,525 (5) (1,988) (1,612) --------- --------- --------- --------- --------- Net earnings (loss) $ (1,645) $ 2,171 $ (206) $ (4,680) $ (4,360) ========= ========= ========= ========= ========= Net earnings (loss) per share: Basic $ (0.14) $ 0.18 $ (0.02) $ (0.39) $ (0.37) ========= ========= ========= ========= ========= Diluted $ (0.14) $ 0.18 $ (0.02) $ (0.39) $ (0.37) ========= ========= ========= ========= ========= Weighted average shares outstanding: Basic 11,730 11,761 11,868 12,077 11,940 Effect of dilutive securities - stock options -- 208 -- -- -- --------- --------- --------- --------- --------- Diluted 11,730 11,969 11,868 12,077 11,940 ========= ========= ========= ========= =========
2. SPECIAL CHARGES During the first quarter 2001, the Company announced an organizational realignment and recorded special charges of $6.0 million. As part of this plan, the Company offered involuntary severance packages to approximately 30 staff employees primarily located at its headquarters and recognized $2.4 million in employee termination benefits associated with this workforce reduction. The Company also recorded approximately $1.7 million related to the abandonment of certain facilities including cancellation of a planned expansion at its headquarters building. The remaining balance includes amounts related to repositioning the Company's towing operations and other restructuring charges. The Company also recorded special charges of $2.4 million in the fourth quarter of 2001, including the write-off of $1.4 million of unamortized leasehold improvements due to changes in the estimated useful lives of the assets. Also included was a $1.0 million write-off of amounts due with respect to the airplane crash at the Company's Sacramento, California facility. During the fourth quarter of 2001, the Company reviewed the adequacy of its accruals for special charges. The facilities closing accrual was increased by $0.8 million. The accrual for workforce reduction was decreased by $0.4 million and the accrual for the towing operations and other charges was decreased by $0.8 million. The changes in the accruals for special charges related to the organizational realignment are summarized below. 7
Workforce Facility Towing Reduction Closings and Other Total --------- -------- --------- -------- (in thousands) Special charges recorded in first quarter of 2001............ $ 2,376 $ 1,739 $ 1,932 $ 6,047 Utilization of accrual in 2001............................... (1,878) (1,016) (1,067) (3,961) Adjustments recorded in the fourth quarter of 2001 .......... (423) 838 (815) (400) ------- ------- ------- ------- Total accrued special charges at December 30, 2001........... $ 75 $ 1,561 $ 50 $ 1,686 Additional accrual - gain on sale of asset................... -- -- 21 21 Utilization of accrual in 2002............................... (75) (243) -- (318) ------- ------- ------- ------- Total accrued special charges at March 31, 2002.............. $ -- $ 1,318 $ 71 $ 1,389 ======= ======= ======= =======
As of March 31, 2002, $1.0 million of accrued special charges were classified as current liabilities and $0.4 million was classified as a component of other nonrecurrent liabilities. 3. INCOME TAXES Income taxes were computed using the effective tax rate estimated to be applicable for the full fiscal year, which is subject to ongoing review and evaluation by the Company. 4. EARNINGS PER SHARE For the three months ended April 1, 2001, the Company would have reported an additional 116,000 dilutive shares outstanding in the form of stock options assumed exercised. However, the Company incurred a net loss for the period; therefore, those options were excluded from the calculation of diluted earnings per share because the effect would have been anti-dilutive. 5. GOODWILL AND INTANGIBLES Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Intangible Assets" applies to all acquired goodwill and identified intangible assets. Under the new standard, all goodwill, including that acquired before initial application of the standard, should not be amortized but should be tested for impairment at least annually. Identified intangible assets should be amortized over their useful lives and reviewed for impairment in accordance with SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets". Beginning in 2002, the Company will no longer amortize goodwill or any intangible assets with indefinite lives in accordance with SFAS 142. Instead, the Company will test these assets for impairment annually or when certain impairment indicators exist. In the first quarter of fiscal 2001, the Company recorded amortization expense related to intangible assets, primarily goodwill, of $1.0 million. In the first quarter of 2002, the Company recorded amortization of identifiable intangible assets of $0.1 million. The Company's initial impairment testing of goodwill is required to be completed by the end of the second quarter of fiscal year 2002. The following table sets forth the intangible assets by major asset class as of March 31, 2002: Amortized intangibles (000's): Covenants not to compete $ 2,717 Accumulated amortization (1,167) ------ Net intangibles $ 1,550 ======= The Company's net carrying amount of goodwill of $129.5 million did not change during the three months ended March 31, 2002. The following table reflects the consolidated results adjusted as though the adoption of Statement No. 142 occurred at the beginning of the three-month period ended April 1, 2001. 8
THREE MONTHS ENDED -------------------------------- MARCH 31, APRIL 1, 2002 2001 -------------- ------------- (Dollars in thousands except per share amounts) Net income (loss): As reported $ 1,512 $ (1,645) Goodwill amortization, net of tax effect -- 574 --------- --------- Adjusted net income (loss) 1,512 (1,071) ========= ========= Basic earnings (loss) per share: As reported $ .12 $ (.14) Goodwill amortization, net of tax effect -- .05 --------- --------- Adjusted basic net income (loss) per share $ .12 $ (.09) ========= ========= Diluted earnings (loss) per share: As reported $ .12 $ (.14) Goodwill amortization, net of tax effect -- .05 --------- --------- Adjusted diluted net income (loss) per share $ .12 $ (.09) ========= =========
6. FINANCIAL INSTRUMENTS AND HEDGING ACTIVITIES At March 31, 2002, the Company was a party to an interest rate swap agreement with a notional amount of $30.0 million under which the Company pays a fixed rate of interest and receives a LIBOR-based floating rate. The Company's interest rate swap agreement did not qualify for hedge accounting under SFAS No. 133. As such, changes in the fair value of the interest rate swap agreement are recognized currently as income or expense in the Company's consolidated statement of operations. The amount of the change in the fair value of the interest rate swap agreement for the three months ended March 31, 2002 was not significant. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. The discussion in this section contains forward-looking information that is subject to certain risks, trends and uncertainties that could cause actual results to differ materially from those projected, expressed, or implied by such forward-looking information. In some cases, you can identify forward looking statements by our use of words such as "may, will, should, anticipates, believes, expects, plans, future, intends, could, estimate, predict, projects, targeting, potential or contingent," the negative of these terms or other similar expressions. The Company's actual results could differ materially from those discussed or implied herein. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in the Company's annual report on Form 10-K for the fiscal year ended December 30, 2001. Among these risks are: accelerated departure from conducting business pursuant to the purchase agreement method of sale which could adversely affect the Company's client base; the ability to successfully renegotiate existing purchase agreement contracts; fluctuations in the actual cash value of salvage vehicles; the quality and quantity of inventory available from suppliers; the ability to pass through increased towing costs; that vehicle processing time will improve; that the Company's towing business will reach forecasted levels of profitability; legislative or regulatory acts; changes in the market value of salvage; competition; the availability of suitable acquisition candidates; the ability to bring new facilities to expected earnings targets; the dependence on key insurance company suppliers; the ability of the Company and its outside consultants to successfully implement standardized key processes throughout the Company's operations as well as the ability to successfully complete the re-design of the Company's information systems, both in a timely manner and according to costs and operational specifications; and the level of energy and labor costs. For further discussion of factors and risks, see "Factors That May Affect Future Results" following. 9 OVERVIEW Insurance Auto Auctions, Inc. offers insurance companies and other vehicle suppliers cost-effective salvage processing solutions principally on either a consignment or purchase agreement method of sale. The consignment method includes both a percentage of sale and fixed fee basis. The percentage of sale consignment method offers potentially increased profits over fixed fee consignment by providing incentives to both the Company and the salvage provider to invest in vehicle enhancements, thereby maximizing vehicle selling prices. Under the percentage of sale and fixed fee consignment methods, the vehicle is not owned by the Company and only the fees associated with processing the vehicle are recorded as revenue. The proceeds from the sale of the vehicle itself are not included in revenue. Under the purchase agreement sales method, the vehicle is owned by the Company, and the proceeds from the sale of the vehicle are recorded as revenue. Since its initial public offering in 1991, the Company has grown primarily through a series of acquisitions and opening of new sites to now include 63 locations as of March 31, 2002. In March 2002, the Company announced the opening of a new branch operation in Oklahoma City, Oklahoma. The Company's operating results are subject to fluctuations, including quarterly fluctuations, that can result from a number of factors, some of which are more significant for sales under the purchase agreement method. See "Factors That May Affect Future Results" below for a further discussion of some of the factors that affect or could affect the Company's business, operating results and financial condition. CRITICAL ACCOUNTING POLICIES The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, as well as the related disclosures. The Company bases its estimates on historical experience and on various assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates. As such, the Company continuously evaluates its estimates. The Company believes the following critical accounting policies are directly affected by the more significant judgments and estimates used in the preparation of its consolidated financial statements. GOODWILL The Company has significant goodwill recorded in its consolidated financial statements. The Financial Accounting Standards Board has issued new pronouncements affecting goodwill and intangible assets. In accordance with the new standards, the Company will assess goodwill for possible impairment on an annual basis or whenever events or changes in circumstances indicate that the carrying value of this asset may not be recoverable. Important factors that could trigger an impairment review include significant under-performance relative to expected historical or projected future operating results; significant negative industry or economic trends; significant decline in the Company's stock price for a sustained period; and a significant decline in the Company's market capitalization relative to net book value. If the Company determines that the carrying value of goodwill may not be recoverable based upon the existence of one or more of the above indicators of impairment, the Company would measure any impairment by comparing the implied value of goodwill with the carrying amount of that goodwill. The Company's initial impairment testing of goodwill is required to be completed by the end of the second quarter of fiscal year 2002. DEFERRED INCOME TAXES The Company has determined that it may not realize the full tax benefit related to the deferred tax asset. As such, a valuation allowance to reduce the carrying value of the deferred tax asset has been recorded. 10 RESULTS OF OPERATIONS Three Months Ended March 31, 2002 Compared to the Three Months Ended April 1, 2001 Revenues decreased to $69.2 million for the three months ended March 31, 2002, from $77.8 million for the same three month period in 2001, an 11.1% decrease. The decline in revenues is primarily due to the Company's continued shift away from vehicles sold under the purchase agreement method. Under the purchase agreement method, the entire purchase price of the vehicle is recorded as revenue compared to only recording the fees collected on the sale of a car under the lower risk consignment fee based arrangements. Vehicles sold under the purchase agreement method accounted for 12.7% of the total vehicles sold in the first quarter of 2002, versus 20.6% for the same quarter last year and 15.9% for the fourth quarter of 2001. This change in contract mix also contributed to the significant increase in fee income for the quarter. Fee income in the first quarter increased 10.2% to $41.5 million versus $37.6 million in the first quarter of last year. Cost of sales decreased $9.1 million to $57.2 million for the three months ended March 31, 2002, versus $66.3 million for the same period last year. Vehicle cost of $26.1 million is $11.1 million less than last year's amount of $37.2 million. This decrease is primarily related to the Company's shift away from vehicles sold under the purchase agreement method. Branch cost of $31.2 million increased $2.1 million from $29.1 million for the same period last year. This increase is the result of incremental variable cost associated with higher unit volumes along with additional operating costs related to new branch facilities. Gross profit increased 4.4% to $12.0 million for the three months ended March 31, 2002, from $11.5 million for the comparable period in 2001. Selling, general and administration expense of $7.1 million is unchanged from the first quarter of last year. During the quarter, the Company recorded $0.1 million of one-time expenses and $0.1 million of recurring commitment fees related to securing its new $20.0 million financing agreement and interest rate swap. Amortization of intangible assets decreased significantly from $1.0 million in the first quarter of last year to $0.1 million in the current year period. See Note 5 of notes to condensed consolidated financial statements herein for further discussion of this change. Business transformation costs for the three months ended March 31, 2002 were $1.9 million versus no charges in the same period last year. Business transformation costs include expenses related to the systems redesign project, the business process re-engineering project, severance costs and accelerated depreciation associated with the Company's existing computer infrastructure. The Company began recording business transformation costs during the second quarter of 2001. The Company did not record any special charges during the first quarter of 2002 compared with $6.0 million in the first quarter of last year. See Note 2 of notes to condensed consolidated financial statements herein for further discussion. Interest expense decreased to $248,000 for the three months ended March 31, 2002, from $456,000 for the comparable period in 2001. Interest income decreased to $57,000 for the 2002 first quarter versus $368,000 for the 2001 first quarter. In February 2002, the Company repaid its $20.0 million of Senior Notes bearing a fixed rate of interest at 8.6%, and entered into a new $20.0 million five-year unsecured credit facility. At March 31, 2002, there was no outstanding balance related to this credit facility. The Company used excess cash and proceeds from investments to repay its $20.0 million 8.6% Senior Notes that matured on February 15, 2002. The Company's effective income tax rate was 43% and 41% in 2001 and 2002, respectively. 11 FINANCIAL CONDITION AND LIQUIDITY At March 31, 2002, the Company had current assets of $79.1 million, which includes $15.2 million of cash and cash equivalents. Current liabilities were $51.3 million. The Company had working capital of $27.8 million at March 31, 2002, a $2.6 million increase from December 30, 2001. At March 31, 2002, the Company's long-term debt consisted of $133,000 in notes payable, bearing interest at a rate of 8.0%. Other long-term liabilities include a post-retirement benefits liability that relates to the acquisition in 1994 of Underwriters Salvage Company. The amount recorded at March 31, 2002 for the post-retirement benefits liability is approximately $2.8 million. The remaining balance within other long-term liabilities represents accruals for future expenditures related to the restructuring charge that will be made more than one year beyond March 31, 2002. In February 2002, the Company's $20.0 million Senior Notes matured. This debt was repaid with excess cash and proceeds from investments. The Company also entered into a new five-year $20 million unsecured credit facility that is expandable to $30 million upon syndication. The credit facility is a one-year revolver that converts into a four-year term loan. The Company entered into an arrangement to fix the interest rate on borrowings under the facility at 5.6%. Capital expenditures were $2.9 million for the three months ended March 31, 2002. These capital expenditures include capitalization of certain development costs related to the Company's new information system along with various branch improvements. In September 2000, the Company's Board of Directors authorized the purchase of up to 1,500,000 shares of its common stock. Purchases may be made from time to time in the open market, subject to the requirements of applicable laws, and, if made will be financed with existing cash and cash equivalents, marketable securities, and cash from operations. As of March 31, 2002, the Company had not purchased any shares pursuant to this authorization. The Company believes that cash generated from operations will be sufficient to fund capital expenditures and provide adequate working capital for operations for the next twelve months. Part of the Company's plan is to pursue continued growth, possibly through new facility start-ups, acquisitions, and the development of new claims processing services. At some time in the future, the Company may require additional financing. There can be no assurance that additional financing, if required, will be available on favorable terms. FACTORS THAT MAY AFFECT FUTURE RESULTS The Company operates in a changing environment that involves a number of risks, some of which are beyond the Company's control. The following discussion highlights some of these risks. Quarterly Fluctuations. The Company's operating results have in the past and may in the future fluctuate significantly depending on a number of factors, some of which are more significant for sales under the purchase agreement method. These factors include: fluctuations in Actual Cash Value ("ACV" - the estimated pre-accident fair value of the vehicle) of salvage vehicles, changes in the market value of salvage vehicles, delays or changes in state title processing, general weather conditions, changes in regulations governing the processing of salvage vehicles, the availability and quality of salvage vehicles and attendance at salvage auctions. The Company is also dependent upon receiving a sufficient number of total-loss vehicles as well as recovered theft vehicles to sustain its profit margins. Factors that can affect the number of vehicles received include: reduction of policy writing by insurance providers, which would affect the number of claims over a period of time, and changes in direct repair procedures that would reduce the number of newer, less damaged total-loss vehicles, which tend to have the higher salvage values. Additionally, in the last few years there has been a declining trend in theft occurrences. As a result, the Company believes that period-to-period comparisons of its results of operations are not necessarily meaningful and should not be relied upon as any indication of future performance. In addition, revenues for any future quarter are not predictable with any significant degree of accuracy, while the Company's expense levels are relatively fixed. If revenue levels are below expectations, operating results are likely to 12 be adversely affected. Due to all of the foregoing factors, it is likely that in some future quarters the Company's operating results will be below the expectations of public market analysts and investors. Quality and Quantity of Inventory Available from Suppliers. The Company is dependent upon receiving a sufficient number of total-loss vehicles as well as recovered theft vehicles to sustain its profit margins. Factors which can affect the number of salvage vehicles received include the reduction of policy writing by insurance providers, which would affect the number of claims over a period of time, and changes in direct repair procedures that would reduce the number of newer less-damaged total-loss vehicles that tend to have higher salvage values. The decreases in the quality and quantity of inventory, and in particular the availability of newer and less-damaged vehicles, are further aggravated under the purchase agreement method of sale and can have a material adverse effect on the operating results and financial condition of the Company. Competition. Historically, the automotive salvage industry has been highly fragmented. As a result, the Company faces intense competition for the supply of salvage vehicles from vehicle suppliers, as well as competition from processors of vehicles from other regional salvage pools. These regional salvage pools generally process vehicles under the fixed fee consignment method and generally do not offer the full range of services provided by the Company. The salvage industry has been consolidating, and the Company believes its principal publicly-held competitor is Copart. Copart has completed a number of acquisitions of regional salvage pools and competes with IAA in most of IAA's geographic markets. Due to the limited number of vehicle suppliers, competition is intense for salvage vehicles from Copart and regional suppliers. It is also possible that the Company may encounter further competition from existing competitors and new market entrants that are significantly larger and have greater financial and marketing resources. One such competitor is ADESA Corporation, a subsidiary of Allete Inc. During 2001, ADESA acquired APC. APC provided vehicle recovery services with auction facilities in the Northeast United States. Other potential competitors could include used car auction companies, providers of claims software to insurance companies, certain salvage buyer groups and insurance companies, some of which presently supply auto salvage to IAA. While most insurance companies have abandoned or reduced efforts to sell salvage without the use of service providers such as the Company, they may in the future decide to dispose of their salvage directly to end users. There can be no assurance that the Company will be able to compete successfully against current or future competitors or that competitive pressures faced by the Company will not have a material adverse effect on its operating results and financial condition. Dependence on Key Insurance Company Suppliers. Historically, a limited number of insurance companies has accounted for a substantial portion of the Company's revenues. For example, in 2001, vehicles supplied by the Company's three largest suppliers accounted for approximately 39.0% of the Company's unit sales. The largest suppliers, State Farm Insurance, Farmers Insurance, and Allstate, each accounted for approximately 15.0%, 15.0%, and 9.0%, respectively, of the Company's unit sales. A loss or reduction in the number of vehicles from any of these suppliers, or adverse change in the agreements that such suppliers have with the Company, could have a material adverse effect on the Company's operating results and financial condition. Purchase Agreement Method. Under the purchase agreement method of sale, the Company is required to purchase, and the insurance company and other non-insurance company suppliers are required to sell to the Company, virtually all total-loss and recovered theft vehicles generated by the supplier in a designated geographic area. The agreements are customized to each supplier's needs, but typically require the Company to pay a specified percentage of a vehicle's ACV, depending on the vehicle's age and certain other conditions, including whether the vehicle is a total-loss or a recovered theft vehicle. IAA assumes the risk of market price variation for vehicles sold under a purchase agreement, and therefore works to enhance the value of purchased vehicles in the selling process. Due to the fact that the Company's purchase price is fixed by contract, changes in ACVs or in the market or auction prices for salvage vehicles have an impact on the profitability of the sale of vehicles under the purchase agreement method. If increases in used car prices and ACVs are not associated with a corresponding increase in prices at salvage auctions, there can be a negative impact on the profitability of purchase agreement sales. Revenue recorded from the sale of a purchase agreement vehicle is the actual selling price of the vehicle. In 2001 and 2000, respectively, approximately 19.0% and 26.0% of the units processed by IAA were processed through the purchase agreement method of sale. The Company expects that approximately 10.0% of total units sold in 2002 will be sold under the purchase agreement method of sale. 13 Beginning late in the second quarter of 2000 and continuing in 2001, purchase agreement profitability was impaired by a combination of rising ACVs and flat to lower sale prices at auctions in certain areas of the country. Further increases in ACVs or declines in the market or auction prices for salvage vehicles could have a material adverse effect on the Company's operating results and financial condition. The Company has included adjustment and risk-sharing clauses in certain of its purchase agreement contracts to provide some protection to the Company and its customers from unexpected, significant changes in ACVs that are not accompanied by a comparable increase in sales prices. In addition, the Company has renegotiated certain purchase agreements, converting them to either the percent of sale or fixed fee consignment method of sale. Business Process Reengineering Project. During the third quarter 2001, the Company retained Synergetics Installations Worldwide, a consulting firm based in New Hampshire, to assist the Company in its process of creating and applying new standards and best practices in an effort to improve operational efficiency, standardize processes, and implement tools to measure performance within critical areas of field operations. At the end of the fourth quarter, the Company completed its best practices model. In the first quarter 2002, the Company began rolling out the new procedures in approximately one half of its branches. The Company expects to complete the rollout of the procedures by the end of the first half of 2002. The Company expects the total costs of Synergetics' services to be between $2.0 and $2.5 million. The Company anticipates cost savings of at least $5.0 million a year resulting from this project. Enterprise-Wide System Redesign Project. Also in 2001, the Company retained the services of SEI Information Technology to develop a new enterprise-wide application to manage the salvage and auction process. The new Web-based system will support and streamline vehicle registration and tracking, financial reporting, transaction settlement, vehicle title transfer, and branch/headquarters communications. It will speed all aspects of the Company's operations, support growth and expansion plans, provide improved reliability and maintainability, and ultimately, deliver increased profits. The estimated cost of $10.0 million includes equipment, telecom, training, and implementation along with application development. The Company projects cost savings from the Business Process Re-engineering Project and the Enterprise-Wide System Redesign Project at a minimum of $10.0 million, and potentially as much as $15.0 million annually, from the two projects combined. Development of the application began in the third quarter of 2001 and is expected to continue through the second quarter 2002. The Company anticipates rolling out the new system to its branches during the third and fourth quarters of 2002. As of the end of the first quarter 2002, the Company was on target for meeting its objectives with respect to these two projects. There are, however, inherent risks associated with both projects that could adversely impact the Company's expected results with respect to timing, costs and cost savings. Governmental Regulation. The Company's operations are subject to regulation, supervision and licensing under various federal, state and local statutes, ordinances and regulations. The acquisition and sale of totaled and recovered theft vehicles is regulated by state motor vehicle departments in each of the locations in which the Company operates. Changes in law or governmental regulations or interpretations of existing law or regulations can result in increased costs, reduced salvage vehicle prices and decreased profitability for the Company. In addition to the regulation of sales and acquisitions of vehicles, the Company is also subject to various local zoning requirements with regard to the location of its auction and storage facilities. These zoning requirements vary from location to location. Failure to comply with present or future regulations or changes in existing regulations could have a material adverse effect on the Company's operating results and financial condition. Provision of Services as a National or Regional Supplier. The provision of services to insurance company suppliers on a national or regional basis requires that the Company expend resources and dedicate management to a small number of individual accounts, resulting in a significant amount of fixed costs. The development of a referral based national network service, in particular, has required the devotion of financial resources without immediate reimbursement of such expenses by the insurance company suppliers. Expansion and Integration of Facilities. The Company seeks to increase sales and profitability through acquisition of other salvage auction facilities, new site expansion and the increase of salvage vehicle volume at existing facilities. There can be no assurance that the Company will continue to acquire 14 new facilities on terms economical to the Company or that the Company will be able to add additional facilities on terms economical to the Company or that the Company will be able to increase revenues at newly acquired facilities above levels realized prior to acquisition. The Company's ability to achieve these objectives is dependent on, among other things, the integration of new facilities, and their information systems, into its existing operations, the identification and lease of suitable premises, and the availability of capital. There can be no assurance that this integration will occur, that suitable premises will be identified or that additional capital will be available to fund expansion and integration of the Company's business. Any delays or obstacles in this integration process could have a material adverse effect on the Company's operating results and financial condition. Furthermore, the Company has limited sources of additional capital available for acquisitions, expansions and start-ups. The Company's ability to integrate and expand its facilities will depend on its ability to identify and obtain additional sources of capital to finance such integration and expansion. In the future, the Company will be required to continue to improve its financial and management controls, reporting systems and procedures on a timely basis and expand, train and manage its employee work force. The failure to improve these systems on a timely basis and to successfully expand and train the Company's work force could have a material adverse effect on the Company's operating results and financial condition. Volatility of Stock Price. The market price of the Company's common stock has been and could continue to be subject to significant fluctuations in response to various factors and events, including variations in the Company's operating results, the timing and size of acquisitions and facility openings, the loss of vehicle suppliers or buyers, the announcement of new vehicle supply agreements by the Company or its competitors, changes in regulations governing the Company's operations or its vehicle suppliers, environmental problems or litigation. Environmental Regulation. The Company's operations are subject to federal, state and local laws and regulations regarding the protection of the environment. In the salvage vehicle auction industry, large numbers of wrecked vehicles are stored at auction facilities for short periods of time. Minor spills of gasoline, motor oils and other fluids may occur from time to time at the Company's facilities and may result in soil, surface water or groundwater contamination. Petroleum products and other hazardous materials are contained in aboveground or underground storage tanks located at certain of the Company's facilities. Waste materials such as waste solvents or used oils are generated at some of the Company's facilities and are disposed of as non-hazardous or hazardous wastes. The Company believes that it is in compliance in all material respects with applicable environmental regulations and does not anticipate any material capital expenditure for environmental compliance or remediation. Environmental laws and regulations, however, could become more stringent over time and there can be no assurance that the Company or its operations will not be subject to significant compliance costs in the future. To date, the Company has not incurred expenditures for preventive or remedial action with respect to contamination or the use of hazardous materials that have had a material adverse effect on the Company's operating results or financial condition. The contamination that could occur at the Company's facilities and the potential contamination by previous users of certain acquired facilities create the risk, however, that the Company could incur substantial expenditures for preventive or remedial action, as well as potential liability arising as a consequence of hazardous material contamination, which could have a material adverse effect on the Company's operating results and financial condition. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. The Company's investments are exposed to certain market risks inherent with such assets. This risk is mitigated by the Company's policy of investing in securities with high credit ratings and investing through major financial institutions with high credit ratings. At March 31, 2002, the Company did not have any outstanding investments. The Company had $6.0 million of short-term investments at April 30, 2002. The Company is exposed to interest rate fluctuations on its floating rate $20 million revolving credit facility. As of March 31, 2002, the Company did have any outstanding balance related to this credit facility. The Company has entered into a interest rate swap to mitigate its exposure to interest rate fluctuations, and does not, as a matter of policy, enter into hedging contracts for trading or speculative purposes. The interest rate swap agreement has a notional amount of $30.0 million under which the Company pays a fixed rate of interest of 5.6% and receives a LIBOR-based floating rate. 15 PART II. OTHER INFORMATION. ITEM 1. LEGAL PROCEEDINGS. Inapplicable ITEM 2. CHANGES IN SECURITIES. Inapplicable ITEM 3. DEFAULTS UPON SENIOR SECURITIES. Inapplicable ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. Inapplicable ITEM 5. OTHER INFORMATION. Inapplicable ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K. (a) EXHIBITS. 10.1 Insurance Auto Auctions, Inc. Long Term Incentive Plan (b) REPORTS ON FORM 8-K. No reports on Form 8-K were filed during the fiscal quarter ended March 31, 2002. 16 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. INSURANCE AUTO AUCTIONS, INC. Date: May 15, 2002 By: /s/ Scott P. Pettit ------------ ------------------------------ Name: Scott P. Pettit Title: Senior Vice President and Chief Financial Officer (Duly Authorized Officer and Principal Financial Officer) 17 EXHIBIT INDEX EXHIBIT NO. - ----------- 10.1 Insurance Auto Auctions, Inc. Long Term Incentive Plan 18 EX-10.1 3 c69651ex10-1.txt LONG TERM INCENTIVE PLAN Exhibit 10.1 INSURANCE AUTO AUCTIONS, INC. LONG TERM INCENTIVE PLAN Section 1. Establishment and Purpose. Upon approval of its Board of Directors, Insurance Auto Auctions, Inc., an Illinois corporation (the "Company"), hereby establishes a long-term incentive plan for certain executive employees known as the Insurance Auto Auctions, Inc. Long Term Incentive Plan (the "Plan"). The purpose of this Plan is to provide participating executives a three (3) year incentive plan (from 2001 through 2003) to successfully complete the turnaround strategy of the Company, which was set in place in early 2001. Success shall be defined as the executives achieving the Company's 2003 Profit Target, thereby improving the Company's value. Section 2. Definitions. Whenever used in the Plan, the following terms shall have the meanings set forth below: a. "Determination Date" shall mean the earliest to occur of (i) December 31, 2003, or (ii) the date the Plan is terminated. b. "Incentive Award" shall mean the incentive provision determined in accordance with the formula set forth in Section 5. c. "Participant" shall mean an executive employee of the Company who occupies a key executive position. A Participant shall participate in the Plan until the earliest to occur of (i) the Participant's termination of employment with the Company, (ii) the reassignment of the Participant from a key executive position, or (iii) the Determination Date. Section 3. Administration. The Plan shall be administered by the Compensation Committee (the "Committee") of the Board of Directors. All costs of Plan implementation and Plan administration shall be paid by the Company. Full power and authority to construe, interpret and administer the Plan shall be vested in the Committee. The Committee shall have the power, right and duty to interpret the provisions of the Plan and may from time to time adopt rules with respect to the administration of the Plan which are consistent with the Plan, and may amend any and all rules previously established. The Committee may from time to time delegate the performance of any part or all of its duties under the Plan. The Committee or its delegatee may from time to time request advice or assistance or engage such persons (including, without limitation, legal counsel and accountants) as it deems necessary and proper for the administration of the Plan. All determinations made by the Committee or its delegatee shall be final and conclusive upon the Company, upon each Participant, and upon their respective beneficiaries. Section 4. Participation. Participation in the Plan is limited to those executive employees of the Company who occupy a key executive position and who are expressly designated by the Committee to participate in the Plan. Notwithstanding anything contained herein to the contrary, the Committee shall determine each Participant's Incentive Award target amount. Each employee who is designated as a Participant by the Committee shall be notified in writing by the Committee of that determination, and the Incentive Award target amount for which the Participant is eligible. Incentive Award opportunities are expressed in dollar terms for the plan period and vary by participant. See Schedule "A" for a list of participants and target amount for each. Section 5. Incentive Awards. a. Incentive Awards are earned based on achievement of specific objectives. For the plan period, participants will receive the Incentive Award based on achievement of the 2003 operating profit of $23.1 Million (after depreciation and amortization expense). The overall percentage achievement of operating profit is defined as a fraction of actual operating profit as a percentage of the targeted operating profit. The calculation to determine achievement percentage is subject to modifications as defined below, at the discretion of the Compensation Committee. b. Participants must achieve Ninety percent (90%) of the 2003 operating profit target to be eligible for payment of an Incentive Award. Overall percentage achievement above or below that target will be factored up or down by Fifty percent (50%) to arrive at the payout percentage. Maximum achievement on the target will be One Hundred Ten percent (110%). Using the Fifty percent (50%) premium factor, this results in an initial payout of Eighty-five percent (85%) once the threshold is achieved to a maximum payout of One Hundred Fifteen percent (115%) of Incentive Award target amount. See the attached Schedule B for a sample Payment Schedule. c. The three year plan assumes reasonable and necessary expenditures to support the business plan but does not factor in expansion activity. As such, the operating profit target highlighted in Section 5(a) above will be increased for a 15% return on extraordinary capital expenditures. For purposes of this plan, capital spending is projected at $20 Million for Fiscal Year 2002 (including new systems and existing facility retrofits) and $10 Million Page 2 of 6 2002 Insurance Auto Auctions, Inc. Long Term Incentive Plan for Fiscal Year 2003. Capital spending in excess of the 2002 baseline amount of $20 Million will result in an increase in the operating target equal to a 15% return on the spending above the baseline amount. Incremental capital spending above the 2003 baseline amount of $10 Million will result in a pro rata increase in the operating profit target equal to an annualized 15% return on the spending above the baseline amount. Section 6. Incentive Awards on Termination of Participation Prior to Plan Termination. a. A Participant whose participation in the Plan terminates prior to the Determination Date, for reasons other than death, total and permanent disability, shall not receive an Incentive Award pursuant to the formula set forth in Section 5. b. A Participant whose participation in the Plan terminates prior to the Determination Date, by reason of death or total and permanent disability, shall be entitled to a payment of Incentive Awards, at target, earned pursuant to the formula set forth in Section 5, pro rated from January 1, 2001 to the date of termination. For purposes of this Section 6b, the Committee shall apply such criteria as it deems appropriate to determine whether a Participant is totally and permanently disabled. Section 7. Payments. With respect to an individual who ceases to be a Participant in the Plan for any reason prior to the Determination Date, any amounts payable to the individual under the Plan shall be paid in such form and at such time or times as the Committee deems appropriate but not later than one Ninety (90) days after the end of the applicable Fiscal Year. With respect to an employee who remains a Participant through the Determination Date, any amounts payable to the Participant under the Plan shall be paid in the form of a single sum within a reasonable period of time following the Determination Date and the preparation of the Company's financial statements for the period, but no later than Ninety (90) days after the Determination Date. Notwithstanding any other provision of the Plan, the Company may withhold from any payment to be made under the Plan such amount or amounts as may be required for purpose of complying with the tax withholding provisions of the Internal Revenue Code of 1986, as amended, or any similar state of local laws. Page 3 of 6 2002 Insurance Auto Auctions, Inc. Long Term Incentive Plan Section 8. Designation of Beneficiaries. Each Participant from time to time may name any person (who may be named concurrently, contingently or successively) to whom the Participant's payment under the Plan is to be paid if the Participant dies before he receives such payment. Each such beneficiary designation will revoke all prior designations by the Participant, shall not require the consent of any previously-named beneficiary, shall be in a form prescribed by the Committee and will be effective only when filed with the Committee during the Participant's lifetime. If a Participant fails to designate a beneficiary before his death, as provided above, or if the beneficiary designated by a Participant dies before the date of the Participant's death, the Committee shall pay the Participant's payment to the Participant's surviving spouse, or if there is no surviving spouse, to the Participant's estate. Section 9. No Alienation or Transfer. Prior to payment hereunder, no payment or the rights of any Participant under the Plan to any payment shall be subject in any manner to anticipation, alienation, sale, transfer, assignment, pledge, encumbrance, or charge, and any such attempted action shall be void and, at the Committee's sole discretion, may lead to forfeiture. No payment shall be in any manner subject to the debts, contracts, liabilities, engagements, or torts of any Participant. Section 10. No Funding. All payments to be made hereunder shall be paid from the general assets of the Company, and no special or separate fund shall be established and no segregation of assets shall be made to assure payment of such amounts. No Participant shall have any right, title, or interest whatsoever in or to any amounts under the Plan prior to receipt. Nothing contained in the Plan, and no action taken pursuant to its provisions, shall create or be construed to create a trust or fund of any kind, or a fiduciary relationship between the Company and any other person. The rights of any Participant or beneficiary to any amounts hereunder shall be no greater than those of an unsecured general creditor of the Company. Section 11. No Right of Continued Employment. Neither the establishment of the Plan nor the payment of any payment hereunder nor any action of the Company or of the Committee shall be held or construed to confer upon any person any legal right to be continued in the employ of the Company. Page 4 of 6 2002 Insurance Auto Auctions, Inc. Long Term Incentive Plan Section 12. Amendment and Termination of Plan. a. By Board. The Board of Directors of the Company reserves the right to amend or terminate the Plan, in whole or in part, at any time. No amendment or termination shall adversely affect the right of any Participant to any Incentive Award earned prior to the date of such amendment or termination. A Participant's interest in his Incentive Award, with respect to any amendment or termination of the Plan before the Determination Date, will be calculated as if the amendment or termination was a corporate event described below in this Section 12. b. Automatic Termination. The occurrence of a Change in Control shall cause the Plan to be automatically terminated as of such date, with a payment equal to the Incentive Award target amount. In the event of a Change of Control, the Participants shall be entitled to receive payment of their Incentive Award at Target. For purposes of this Section, Change of Control shall be defined as follows: "Change of Control" shall mean the first to occur of the following events: (i) the acquisition by any person, entity or "group" (as defined in Section 13(d) of the Securities Exchange Act of 1934, as amended), of Fifty percent (50%) or more of the combined voting power of the Company's then outstanding voting securities; (ii) the merger or consolidation of the Company as a result of which neither the Company or one of its subsidiaries, owns, directly or indirectly, more than Fifty percent (50%) of the combined voting power entitled to vote generally in the election of directors of the merged or consolidated company; (iii) the liquidation or dissolution of the Company; and (iv) the sale, transfer or other disposition of all or substantially all of the assets of the Company. Section 13. Successors. Except as otherwise provided in Section 12, the obligations of the Company under the Plan shall be binding upon any successor corporation or entity which shall succeed to substantially all of the assets or business of the Company, and the term "Company," whenever used in the Plan, shall mean and include any such corporation or entity after such succession. Page 5 of 6 2002 Insurance Auto Auctions, Inc. Long Term Incentive Plan Section 14. Gender and Number. Where the context admits, words denoting men include women, the plural includes the singular, and the singular includes the plural. Section 15. Absence of Liability. Neither the Company, the Board, nor any Committee member shall be personally liable for any act done or omitted to be done in good faith in the administration of the Plan. Section 16. Term. Unless the Plan is earlier terminated pursuant to the above provisions, this Plan shall terminate on completion of payment or December 31, 2003. Section 17. Governing Law. All questions pertaining to the construction, regulation, validity and effect of the provisions of the Plan shall be determined in accordance with laws of the State of Illinois. Page 6 of 6 2002 Insurance Auto Auctions, Inc. Long Term Incentive Plan -----END PRIVACY-ENHANCED MESSAGE-----