-----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, ECwRyRs/qlaFiBHk0I2EBTq7IBP2qVOYbtPqTcDKHKT+ssqqHdcXhcClJHbI/hZV UZpp7rsMZE0TPQSmpcOqSg== 0000928385-99-001819.txt : 19990518 0000928385-99-001819.hdr.sgml : 19990518 ACCESSION NUMBER: 0000928385-99-001819 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990331 FILED AS OF DATE: 19990517 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SYLVAN LEARNING SYSTEMS INC CENTRAL INDEX KEY: 0000912766 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-EDUCATIONAL SERVICES [8200] IRS NUMBER: 521492296 STATE OF INCORPORATION: MD FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-22844 FILM NUMBER: 99627478 BUSINESS ADDRESS: STREET 1: 1000 LANCASTER ST CITY: BALTIMORE STATE: MD ZIP: 21202 BUSINESS PHONE: 4108438000 MAIL ADDRESS: STREET 1: 1000 LANCASTER ST CITY: BALTIMORE STATE: MD ZIP: 21202 10-Q 1 FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q [X] Quarterly Report pursuant to Section 13 or 15(d) of the Securities and Exchange Act of 1934 for the quarter ended March 31, 1999 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 0-22844 ------- SYLVAN LEARNING SYSTEMS, INC. ----------------------------- (Exact name of registrant as specified in its charter) Maryland 52-1492296 ------------------------------- ---------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 1000 Lancaster Street, Baltimore, Maryland 21202 ------------------------------------------ ----- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (410)843-8000 ------------- 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 registrant had 51,743,652 shares of Common Stock outstanding as of April 30, 1999. SYLVAN LEARNING SYSTEMS, INC. ----------------------------- INDEX -----
Page No. -------- PART I. - FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) Consolidated Balance Sheets - December 31, 1998 and March 31, 1999............................................ 3 Consolidated Statements of Income - Three months ended March 31, 1998, three months ended March 31, 1999......... 5 Consolidated Statements of Cash Flows - Three months ended March 31, 1998, three months ended March 31, 1999......... 6 Notes to Unaudited Consolidated Financial Statements March 31, 1999............................................ 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations....................... 11 PART II. - OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K............................ 18 SIGNATURES........................................................... 18
Sylvan Learning Systems, Inc. and Subsidiaries Consolidated Balance Sheets (Amounts in thousands, except per share data)
December 31, March 31, 1998 1999 ------------------ ------------------ (Unaudited) Assets Current assets: Cash and cash equivalents $ 33,170 $ 29,432 Available-for-sale securities 6,166 6,694 Receivables: Accounts receivable 71,248 64,447 Costs and estimated earnings in excess of billings on uncompleted contracts 7,806 8,098 Notes receivable from tuition financing 2,977 3,483 Other notes receivable 8,922 4,415 Other receivables 2,404 2,277 ------------------ ------------------ 93,357 82,720 Allowance for doubtful accounts (2,963) (3,548) ------------------ ------------------ 90,394 79,172 Inventory 9,841 9,744 Deferred income taxes 1,831 1,831 Prepaid expenses 10,093 11,999 Other current assets 1,843 2,772 ------------------ ------------------ Total current assets 153,338 141,644 Notes receivable from tuition financing, less current portion 3,415 4,006 Other notes receivable, less current portion 9,882 9,621 Costs and estimated earnings in excess of billings on uncompleted contracts, less current portion 637 395 Property and equipment: Land and buildings 9,917 10,029 Furniture and equipment 111,490 122,512 Leasehold improvements 13,156 13,187 ------------------ ------------------ 134,563 145,728 Accumulated depreciation (36,682) (42,231) ------------------ ------------------ 97,881 103,497 Intangible assets: Goodwill 292,693 305,382 Contract rights 13,973 13,973 Other 3,111 2,777 ------------------ ------------------ 309,777 322,132 Accumulated amortization (26,322) (29,787) ------------------ ------------------ 283,455 292,345 Deferred contract costs, net of accumulated amortization of $11,740 as of December 31, 1998 and $12,422 as of March 31, 1999 10,255 7,968 Investments in and advances to affiliates 18,532 53,239 Other investments 44,230 46,027 Net assets to be transferred to joint venture 31,575 - Other assets 6,596 8,934 ------------------ ------------------ Total assets $ 659,796 $ 667,676 ================== ==================
3 Sylvan Learning Systems, Inc. and Subsidiaries Consolidated Balance Sheets (Amounts in thousands, except per share data)
December 31, March 31, 1998 1999 ----------------- ------------------ (Unaudited) Liabilities and stockholders' equity Current liabilities: Accounts payable and accrued expenses $ 57,177 $ 53,500 Income taxes payable 11,784 10,150 Current portion of long-term debt 1,128 1,101 Current portion of due to shareholders of acquired companies 40,719 17,940 Deferred revenue 27,411 33,427 Other current liabilities 19 15 ----------------- ------------------ Total current liabilities 138,238 116,133 Long-term debt, less current portion 12,504 14,121 Deferred income taxes 6,961 7,083 Due to shareholders of acquired companies, less current portion 12,239 32,517 Other long-term liabilities 1,021 1,122 ----------------- ------------------ Total liabilities 170,963 170,976 Stockholders' equity: Preferred stock, par value $.01 per share--authorized 10,000 shares, no shares issued and outstanding as of December 31, 1998 and March 31, 1999 - - Common stock, par value $.01 per share--authorized 90,000 shares, issued and outstanding shares of 50,952 as of December 31, 1998 and 51,165 as of March 31, 1999 510 512 Additional paid-in capital 410,694 413,767 Retained earnings 75,852 81,232 Accumulated other comprehensive income 1,777 1,189 ----------------- ------------------ Total stockholders' equity 488,833 496,700 ----------------- ------------------ Total liabilities and stockholders' equity $ 659,796 $ 667,676 ================= ==================
See accompanying notes. 4 Sylvan Learning Systems, Inc. and Subsidiaries Consolidated Statements of Income (Unaudited) (Amounts in thousands, except per share data)
Three months ended March 31, ------------------------------------- 1998 1999 ------------------------------------- Revenues $ 86,323 $ 123,778 Cost and expenses Direct costs 76,781 108,201 General and administrative expense 3,327 4,724 ----------------- ----------------- Total expenses 80,108 112,925 ----------------- ----------------- Operating income 6,215 10,853 Other income (expense) Investment and other income 1,713 311 Interest expense (169) (768) Equity in net loss of affiliates (1,177) (84) ----------------- ----------------- Income before income taxes and cumulative effect of accounting change 6,582 10,312 Income taxes (2,315) (3,505) ----------------- ----------------- Income before cumulative effect of accounting change 4,267 6,807 Cumulative effect of accounting change, net of income taxes of $682 - (1,323) ----------------- ----------------- Net income $ 4,267 $ 5,484 ================= ================= Earnings per common share, basic and diluted: Income before cumulative effect of accounting change $ 0.09 $ 0.13 Cumulative effect of accounting change - (0.03) ----------------- ----------------- Net income $ 0.09 $ 0.10 ================= =================
See accompanying notes. 5 Sylvan Learning Systems, Inc. and Subsidiaries Consolidated Statements of Cash Flows (Unaudited) (Amounts in thousands)
Three months ended March 31, -------------------------------------------- 1998 1999 -------------------------------------------- Operating activities Net income $ 4,267 $ 5,484 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation 2,972 5,420 Amortization 3,399 4,848 Cumulative effect of accouting change - 2,005 Non-cash dividend income (500) - Deferred income taxes (7) - Equity in net loss of affiliates 1,177 84 Non-cash issuance of options to non-employees - 60 Changes in operating assets and liabilities: Accounts and notes receivable 9,721 10,950 Cost and estimated earnings in excess of billings on uncompleted contracts (2,372) (49) Inventory (730) 24 Prepaid expenses and other current assets (840) (2,785) Accounts payable and accrued expenses 486 (4,382) Income taxes payable - (283) Deferred revenue and other current liabilities (2,722) 5,727 -------------------- -------------- Net cash provided by operating activities 14,851 27,103 -------------------- -------------- Investing activities Purchase of available-for-sale securities (4,354) (512) Proceeds from sale of available-for-sale securities 29,400 - Investment in and advances to affiliates (4,086) (3,216) Increase in other investments - (1,797) Purchase of property and equipment (14,587) (11,036) Purchase of Canter, including direct costs of acquisition, net of cash received (24,262) - Cash paid for other acquired businesses, net of cash received (24) (14,972) Increase in other intangible assets (255) - Expenditures for deferred contract costs (193) (276) Increase in other assets (1,224) (2,829) -------------------- -------------- Net cash used in investing activities (19,585) (34,638) -------------------- -------------- Financing activities Payments on loans from stockholders of acquired companies (15) - Proceeds from exercise of options and warrants 1,403 1,573 Proceeds from issuance of common stock - 674 Proceeds from issuance of long-term debt 1,117 10,000 Payments on long-term debt and capital lease obligations (789) (8,282) Distributions 238 - Proceeds from bank lines of credit - 2,373 Payments on bank lines of credit (544) (1,276) -------------------- -------------- Net cash provided by financing activities 1,410 5,062 -------------------- -------------- Effects of exchange rate changes on cash 191 (1,265) -------------------- -------------- Net decrease in cash and cash equivalents (3,133) (3,738) Cash and cash equivalents at beginning of period 29,650 33,170 -------------------- -------------- Cash and cash equivalents at end of period $ 26,517 $ 29,432 ==================== ==============
See accompanying notes. 6 SYLVAN LEARNING SYSTEMS, INC. AND SUBSIDIARIES Notes to Unaudited Consolidated Financial Statements (Amounts in thousands, except per share amounts) March 31, 1999 Note A - Basis of Presentation --------------------- The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three months ended March 31, 1999 are not necessarily indicative of the results that may be expected for the year ended December 31, 1999. For further information, refer to the financial statements and footnotes thereto included in the Company's annual report on Form 10-K for the year ended December 31, 1998. Note B - Accounting Change ----------------- On January 1, 1999, the Company adopted the provisions of AICPA Statement of Position No. 98-5, Reporting the Costs of Start-up Activities ("SOP 98-5"), which requires start-up costs capitalized prior to January 1, 1999 to be written-off and any future start-up costs to be expensed as incurred. The Company previously capitalized pre-contract costs directly associated with specific anticipated contracts as well as development costs for new educational programs that were estimated to be recoverable. The cumulative effect of adopting SOP 98-5 in 1999 decreased net income by $1,323 (net of $682 in income taxes), or ($.03) per share. Note C - Income Taxes ------------ The tax provisions for the three months ended March 31, 1999 and 1998 are based on the estimated effective tax rates applicable for the full years. The Company's income tax provisions for all periods consist of federal, state, and foreign income taxes. The Company's effective tax rate decreased from 35% during the first quarter of 1998 to 34% during the first quarter of 1999 as a result of an increase in income earned in jurisdictions with lower tax rates. The Company estimates that its effective income tax rate for the year ended December 31, 1999 will be 34%. 7 Note D - Earnings Per Share ------------------ The following table summarizes the computations of basic and diluted earnings per share:
Three months ended March 31, ---------------------------- 1998 1999 ------ ------ Numerator used in basic and diluted earnings per common share: Income before cumulative effect of accounting change $ 4,267 $ 6,807 Cumulative effect of accounting change, net of tax - (1,323) ------- ------- Net income $ 4,267 $ 5,484 ======= ======= Denominator: Weighted average shares 47,760 51,146 Common stock contingently issuable - 520 ------- ------- Denominator for basic earnings per common share 47,760 51,666 Effect of dilutive securities: Employee stock options 2,166 2,248 Common stock contingently issuable - 31 ------- ------- Total dilutive potential common shares 2,166 2,279 ------- ------- Denominator for diluted earnings per common share - weighted average shares and assumed conversions 49,926 53,945 ======= ======= Earnings per common share, basic and diluted: Income before cumulative effect of accounting change $ 0.09 $ 0.13 Cumulative effect of accounting change - (.03) ------- ------- Net income $ 0.09 $ 0.10 ======= =======
Note E - Reclassifications ----------------- Certain amounts in the 1998 financial statements have been reclassified to conform with the 1999 presentation. 8 Note F - Stockholders' Equity -------------------- The components of stockholders' equity are as follows (amounts in thousands):
Additional Acccumulated Other Total Common Paid-In Retained Comprehensive Stockholders' Stock Capital Earnings Income Equity ------ ---------- --------- --------------- ------------- Balance at December 31, 1998 $510 $410,694 $75,852 $1,777 $488,833 Options exercised for purchase of 159 shares of common stock, including income tax benefit of $637 2 2,209 2,211 Stock options granted to non-employees 60 60 Issuance of 26 shares of common stock in connection with the Employee Stock Purchase Plan 674 674 Other 130 (104) 26 Comprehensive income: Net income for the three months ended March 31, 1999 5,484 5,484 Other comprehensive income: Foreign currency translation adjustment (588) (588) -------- Total comprehensive income 4,896 ---- -------- ------- ------ -------- Balance at March 31, 1999 $512 $413,767 $81,232 $1,189 $496,700 ==== ======== ======= ====== ========
Note G - Contingencies ------------- The Company is the defendant in a legal proceeding pending in the United States District Court for the Northern District of Iowa, Civil Action No. C96- 334MJM, filed on November 18, 1996 by ACT, Inc., an Iowa nonprofit corporation formerly known as American College Testing Program, Inc. ("ACT"). ACT's claim arises out of the Company's acquisition of rights to administer testing services for the National Association of Securities Dealers, Inc. ("NASD"). ACT has asserted that the Company tortuously interfered with ACT's relations, contractual and quasi-contractual, with the NASD, that the Company caused ACT to suffer the loss of its advantageous economic prospects with the NASD and other ACT clients and that the Company has monopolized and attempted to monopolize the computer-based testing services market. ACT has claimed unspecified amounts of compensatory, treble and punitive damages, as well as injunctive relief. If ACT were awarded significant compensatory or punitive damages, it could materially adversely affect the Company's results of operations and financial condition. Additionally, if ACT were granted significant injunctive relief, the Company may be required to dispose of, limit expansion or curtail existing operations of its Sylvan Prometric division, which, in turn, would materially adversely affect the Company's results of operations, financial condition and prospects for growth. In February 1998, the Court ruled that ACT may proceed only on three of its five antitrust theories and otherwise narrowed the scope of ACT's antitrust claims. In March 1998, the Court denied the Company's motion to dismiss ACT's state law claims. Discovery commenced in 1998 and is expected to continue at least through June 1999. The Company believes that all of ACT's claims are without merit but is unable to predict the outcome of the ACT litigation at this time. 9 Note H - Business Segment Information ----------------------------
Three months ended March 31, --------------------------------- 1998 1999 ------------- -------------- Operating revenues: Sylvan Learning Centers $ 12,136 $ 19,824 Sylvan Contract Educational Services 26,620 30,591 Sylvan Prometric 47,567 73,363 -------- -------- $ 86,323 $123,778 ======== ======== Segment profit: Sylvan Learning Centers $ 2,707 $ 4,524 Sylvan Contract Educational Services 3,806 3,571 Sylvan Prometric 3,029 7,482 -------- -------- $ 9,542 $ 15,577 ======== ======== Segment assets: Sylvan Learning Centers $ 27,840 $ 51,056 Sylvan Contract Educational Services 82,382 120,149 Sylvan Prometric 273,758 409,888 -------- -------- $383,980 $581,093 ======== ========
There have been no changes since December 31, 1998 in the Company's method for identification of reportable segments or for determination of segment profit or loss. There are no significant intercompany sales or transfers. The following table reconciles the reported information on segment profit to income before income taxes reported in the consolidated statements of income for the three month periods ended March 31, 1998 and 1999, respectively:
Three months ended March 31, ----------------------------------- 1998 1999 -------------- -------------- Total profit for reportable segments $ 9,542 $15,577 Corporate general and administrative expense (3,327) (4,724) Other income (expense) 367 (541) ------- ------- Income before income taxes $ 6,582 $10,312 ======= =======
Note I - Comprehensive Income -------------------- The components of comprehensive income, net of related tax, for the three months ended March 31, 1998 and 1999 are as follows:
Three months ended March 31, ----------------------------------- 1998 1999 ------------- ---------------- Net income $4,267 $5,484 Foreign currency translation adjustments 236 (588) ------ ------ Comprehensive income $4,503 $4,896 ====== ======
10 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL ------------------------------------------------- CONDITION AND RESULTS OF OPERATIONS ----------------------------------- All statements contained herein that are not historical facts, including but not limited to, statements regarding the anticipated impact of uncollectible accounts receivable on future liquidity, expenditures to develop licensing and certification tests under existing contracts, the Company's contingent payment obligations relating to the Schulerhilfe and Canter acquisitions, future capital requirements, potential acquisitions, the failure to remediate or the cost of remediating Year 2000 Issues and the Company's future development plans are based on current expectations. These statements are forward looking in nature and involve a number of risks and uncertainties. Actual results may differ materially. Among the factors that could cause actual results to differ materially are the following: Changes in the financial resources of the Company's clients; timing and extent of testing clients' conversions to computer-based testing; amount of revenues earned by the Company's tutorial and teacher training operations; the availability of sufficient capital to finance the Company's business plan on terms satisfactory to the Company; the failure to remediate or the cost of remediating Year 2000 Issues; general business and economic conditions; and other risk factors described in the Company's reports filed from time to time with the Commission. The Company wishes to caution readers not to place undue reliance on any such forward looking statements, which statements are made pursuant to the Private Securities Litigation Reform Act of 1995 and, as such, speak only as of the date made. Overview The Company generates revenues from three business segments: Sylvan Learning Centers, which consists primarily of franchise royalties, franchise sales fees and Company-owned Learning Center revenues; Sylvan Contract Educational Services, which consists of revenues attributable to providing supplemental remedial education services to public and non-public schools and major corporations as well as providing teacher training services; and Sylvan Prometric, which consists of computer-based testing fees paid to the Company and the operations of WSI and Aspect. The following selected segment data for the quarters ended March 31, 1998 and 1999 is derived from the Company's unaudited consolidated financial statements.
Three months ended March 31, 1998 1999 ------ ------ Operating revenue: Sylvan Learning Centers............... $12,136 $ 19,824 Sylvan Contract Educational Services.. 26,620 30,591 Sylvan Prometric...................... 47,567 73,363 ------- -------- Total revenue...................... $86,323 $123,778 ======= ======== Direct costs: Sylvan Learning Centers............... $ 9,429 $ 15,300 Sylvan Contract Educational Services.. 22,814 27,020 Sylvan Prometric...................... 44,538 65,881 ------- -------- Total direct costs................. $76,781 $108,201 ======= ========
11 Results of Operations Comparison of results for the quarter ended March 31, 1999 to results for the quarter ended March 31, 1998. Revenue. Total revenues increased by $37.5 million, or 43%, from $86.3 million in the first quarter of 1998 to $123.8 million in the first quarter of 1999. This increase resulted from higher revenues in all business segments - Sylvan Learning Centers, Sylvan Contract Educational Services and Sylvan Prometric. Sylvan Learning Centers revenue increased by $7.7 million, or 63%, during the first quarter of 1999, compared to the first quarter of 1998. Franchise royalties increased by $0.7 million, or 19%, to $4.2 million for the first quarter of 1999, compared to the first quarter of 1998. The increase in franchise royalties was due to an overall 16% increase in revenues at Learning Centers open for more than one year, as well as royalties generated from a net of 57 Learning Centers opened after March 31, 1998. Franchise sales fees increased by $.2 million, or 100%, to $.4 million for the first quarter of 1999, compared to the first quarter of 1998. In the first quarter of 1999, the Company sold six territories and one domestic area development agreement, compared to four territories and no area development agreements in the first quarter of 1998. Revenues from Company-owned Learning Centers increased by $2.4 million, or 34%, to $9.3 million during the first quarter of 1999, compared to the first quarter of 1998. The Company's acquisition of 12 centers from several franchisees after March 31, 1998 generated $1.3 million of the increase. Same center revenues increased by $1.1 million, or 17%, for the first quarter of 1999, compared to the first quarter of 1998. On October 28, 1998, the Company acquired a major German tutoring company known as Schulerhilfe. This purchase resulted in an additional $4.0 million in revenue for the quarter ended March 31, 1999. The remaining $0.4 million increase in the Sylvan Learning Centers revenue was due to product sales and other franchise services income. Sylvan Contract Educational Services revenue increased by $4.0 million, or 15%, to $30.6 million for the quarter ended March 31, 1999, compared to the first quarter of 1998. The revenue increase was the result of a $4.0 million increase in revenue from public and nonpublic school contracts. Revenues from PACE services and Canter for the first quarter of 1999 were equal to revenue levels for the first quarter of 1998. The $4.0 million increase in revenue from public and nonpublic schools for the first quarter of 1999 is the result of $4.2 million in revenue from new contracts obtained after March 31, 1998, offset by a decrease of $0.2 million in revenue from existing contracts lost or reduced due to local district budget constraints. Sylvan Prometric revenue increased by $25.8 million, or 54%, to $73.4 million in the first quarter of 1999, compared to the first quarter of 1998. Excluding first quarter 1998 revenues of $3.1 million from Block Testing Services, L.P. and related entities (collectively, "NAI/Block"), the net assets of which were contributed to a joint venture in January 1999, Sylvan Prometric revenue increased by $28.9 million, or 12 65%, compared to the first quarter of 1998. Academic admissions testing revenues increased $9.9 million, or 133%, compared to the first quarter of 1998, primarily due to volume increases in the National Teacher and Regents College, the Graduate Record Examinations (GRE) and the Test of English as a Foreign Language (TOEFL) exams and under Educational Testing Service (ETS) contracts, which include the cost-plus international contract. Information technology testing revenues increased $9.2 million, or 56%, in the first quarter of 1999, compared to the first quarter of 1998 due primarily to Microsoft and other IT client volume increases. Professional certification revenues increased $2.3 million, or 40%, over the comparable 1998 period due primarily to volume increases. Revenues from the Company's English language instruction business increased $7.5 million, compared to the first quarter of 1998. The increased revenues resulted mainly from the acquisitions of several WSI franchise locations after the first quarter of 1998. Cost and Expenses. Total direct costs increased 41% from $76.8 million in the first quarter of 1998 to $108.2 million in the first quarter of 1999, but decreased as a percentage of total revenues from 89% to 87%. Sylvan Learning Centers expenses increased $5.9 million to $15.3 million, or 77% of Learning Centers revenue for the quarter ended March 31, 1999, compared to $9.4 million, or 78% of Learning Centers revenue for the quarter ended March 31, 1998. Approximately $1.0 million of the increase for the quarter was due to costs associated with higher revenues at existing Company-owned Centers and $1.2 million was related to the acquisition of 12 franchised Centers after March 31, 1998. The Company's fourth quarter 1998 acquisition of Schulerhilfe resulted in $3.4 million of increased costs relating to normal operating expenses. The remaining cost increase of $0.3 million for the first quarter of 1999 is mainly due to higher franchise support costs resulting from an increased number of franchised Centers compared to the first quarter of 1998. Sylvan Contract Educational Services expenses increased by $4.2 million to $27.0 million, or 88% of Sylvan Contract Educational Services revenue for the quarter ended March 31, 1999, compared to $22.8 million, or 86% of Contract Educational Services revenue for the quarter ended March 31, 1998. The increase in costs as a percentage of revenue for the first quarter of 1999 is due to costs for new public and nonpublic school contracts that were a higher percentage of the related $4.2 million increase in revenue as well as higher costs as a percentage of revenue for PACE. Sylvan Prometric expenses increased $21.4 million to $65.9 million, or 90% of total Sylvan Prometric revenue for the quarter ended March 31, 1999, compared to $44.5 million, or 94% of total Sylvan Prometric revenue for the quarter ended March 31, 1998. Excluding first quarter 1998 expenses of $3.3 million from NAI/Block, the net assets of which were contributed to a joint venture in January 1999, Sylvan Prometric expenses would have been $41.2 million, or 93% of Sylvan Prometric revenue (excluding NAI/Block) in the first quarter of 1998. The increased margin in the first quarter of 1999 as compared to 1998 is mainly a result of the sales mix of the division and the relatively higher margins on the revenues of the WSI franchisees acquired after the first quarter of 1998. General and administrative expenses increased by $1.4 million during the first quarter of 1999, compared to the first quarter of 1998, but remained constant at 4% of revenues. The Company's effective tax rate has decreased from 35% during the first quarter of 1998 to 34% during the first quarter of 1999 as a result of an increase in income earned in jurisdictions with lower tax rates. 13 Liquidity and Capital Resources The Company in 1999 generated $27.1 million of cash flow from operations, an increase of $12.2 million as compared to 1998. The increase is attributable to an increase in net income excluding non-cash charges (principally depreciation and amortization) of $6.6 million, and a net reduction in operating assets (principally accounts and notes receivable) of $5.6 million. Of the $11.0 million operating cash flow increase attributable to a decrease in accounts and notes receivable, $5.5 million relates to notes receivable collected in the first quarter of 1999. The Company believes that uncollectible accounts receivable will not have a significant effect on future liquidity, as a significant portion of its accounts receivable are due from enterprises with substantial financial resources, such as ETS and governmental units. The Company's investing activities include the net purchase of $0.5 million in available-for-sale securities. The securities are readily marketable and available for use in current operations. The Company also made $3.2 million of additional investments in and loans to affiliates accounted for using the equity method, consisting primarily of additional loans to the Experior joint venture. During the first quarter of 1999, the Company purchased several WSI franchise locations for consideration of $15.0 million. The Company continues to incur expenditures for additions to property and equipment, which totaled $11.0 million in the first quarter of 1999. These additions consist primarily of furniture and equipment for general business expansion, including expenditures for the headquarters facility, new public school-based programs' classrooms, and equipment needed for overseas testing centers operated by Sylvan. Under the international testing contract with ETS, Sylvan is reimbursed for overseas equipment expenditures as the equipment is depreciated. This reimbursement includes a financing charge over the reimbursement period. The Company has an unsecured long-term revolving credit facility that provides for total borrowings of up to $100.0 million through the expiration date of December 31, 2003. The credit facility bears interest at either the prime rate, the federal funds rate plus 0.5%, or rates based on the Eurodollar rate plus a contractual margin. As of March 31, 1999, the credit facility had outstanding prime rate borrowings of $10.0 million, bearing interest at 6.00%. 14 During the first three months of 1999, the Company received $1.6 million of cash as a result of the exercise of stock options and warrants to purchase 158,954 shares of common stock. The Company believes that its capital resources will be sufficient over the next 12 to 24 months to fund expected expansion of its existing business, including working capital needs and expected investments in property and equipment. The Company continues to review other companies in the education or computer- based testing industries for potential acquisitions. Additional capital resources may be necessary to acquire and thereafter operate additional businesses. The Company has entered into an agreement providing an exclusive option to acquire 54 percent of the shares of Universidad Europea de Madrid (UEM) for approximately $51 million. The purchase price would include payment of approximately $28.5 million in cash and the assumption of approximately $22.5 million in existing debt. UEM had revenues of $50 million and recurring earnings before interest, taxes and depreciation of $15.5 million for the year ended December 31, 1998. All required regulatory approvals have been received and this transaction is expected to close during the second or third quarter of 1999. On April 22, 1999 the Company's board of directors authorized the repurchase of up to 750,000 shares of its outstanding common shares. As of May 11, 1999, the Company had repurchased approximately 75,000 shares for consideration of $1.9 million. Year 2000 Issues The Year 2000 Issue is the result of computer programs written using two digits (rather than four) to define the applicable year. Absent corrective actions, programs with date-sensitive logic may recognize "00" as 1900 rather than 2000. This could result in a system failure or miscalculations causing disruptions of operations, including, among other things, production difficulties, a temporary inability to process transactions, send invoices, or engage in similar normal business activities. The Company has established a corporate-wide Year 2000 task force with representatives from all divisions. The task force has conducted a comprehensive review of the Company's information technology and non-information technology systems affected by the Year 2000 issue and has developed an implementation plan to resolve them. The Company measures its progress towards completion based on the level of efforts completed to date compared to the total expected. The process involves five phases: Phase I Inventory and Data Collection. This phase involves conducting a comprehensive inventory of the Company's information systems which includes but is not limited to telecommunications systems, computer hardware, software and networks as well as building infrastructure such as HVAC, elevators and security systems. The identification of key third party vendors is also involved. During this phase, all new systems are required to have passed Year 2000 compliance tests before being purchased and implemented. The Company commenced this phase in the first quarter of 1998 and the phase is complete. 15 Phase II Assessment / Date Impact. In this phase, systems identified during Phase I are reviewed to determine what impact, if any, the Year 2000 Issue has on the operation of these systems. This phase also identifies the effects of Year 2000 being a leap year. This phase has been completed. Phase III Remediation. This phase involves modifying, replacing or upgrading the systems that have failed during Phase II. The remediation phase is 75% complete and is expected to be completed by the end of the third quarter of 1999. Phase IV Testing. This phase involves review of systems for compliance and re-testing as necessary. The testing phase is 75% complete and is expected to be completed by the end of the third quarter of 1999. Phase V Implementation. This phase involves implementing the systems after they have been successfully remediated and tested. This is the final step in assuring that the systems are Year 2000 compliant. The phase is 75% complete and is expected to be completed by the end of the third quarter of 1999. The Company believes the cost to remedy Year 2000 Issues to be $4.5 million. The Company has expended $1.0 million in 1998 and $1.8 million for the quarter ended March 31, 1999. The Company is not aware of any material non-compliance that would have a material effect on its financial position. As part of the Year 2000 Issue process, formal communication with the Company's suppliers, customers and other support services has been initiated and efforts will continue until positive statements of readiness have been received from all third parties. The Company has identified certain service suppliers that are not Year 2000 compliant. It is working with the suppliers to ensure the efforts are taken to correct the situation and the Company is establishing contingency plans to ensure no service interruption. Therefore, the Company does not believe that the non-compliance by the service suppliers will have a material impact on the Company's business. Nevertheless, there can be no assurance that unanticipated non-compliance will not occur, and such non-compliance could require material costs to repair or could cause material disruptions if not repaired. The Company is in the process of developing a strategy to address these potential consequences that may result from unresolved Year 2000 Issues, which will include the development of one or more contingency plans by mid 1999. Euro Conversion On January 1, 1999, certain countries of the European Union established fixed conversion rates between their existing currencies and one common currency, the euro. The euro is now traded on currency exchanges and may be used in business transactions. Beginning in January 2002, new euro-denominated currencies will be issued and the existing currencies will be withdrawn from circulation. The Company is currently evaluating the systems and business issues raised by the euro conversion. These issues include the need to adapt computer and other business systems and equipment and the competitive impact of cross-border transparency. The Company has not yet completed its estimate of the potential impact likely to be caused by the euro conversion; however, at present the Company has no reason to believe the euro conversion will have a material impact on the Company's financial condition or results of operations. 16 Contingent Matters In connection with the Company's acquisition of Canter and based on Canter's earnings in 1998, additional consideration of $26.1 million is payable to the seller in cash of $14.9 million and the remainder in shares of restricted common stock which has been valued at $11.2 million. As of December 31, 1998, the Company recorded this additional consideration as a liability and additional goodwill which is being amortized over the remaining amortization period of 24 years. Additional variable amounts of contingent consideration are also payable to the seller if specified levels of earnings are achieved in 1999 and 2000, payable in equal amounts of cash and stock. The Company will record the contingent consideration when the contingencies are resolved and the additional consideration is payable. In connection with the Company's acquisition of Schulerhilfe, the Company may be obligated to pay the sellers up to an additional $13.3 million of consideration in February 2000 (payable in either cash or common stock at the discretion of the Company) based on the amount of 1999 franchise fees which have been collected by Schulerhilfe on or before January 31, 2000. The Company will record this contingent consideration when the contingencies are resolved and the additional consideration is payable. Effects of Inflation Inflation has not had a material effect on Sylvan's revenues and income from continuing operations in the past three years. Inflation is not expected to have a material future effect. Quarterly Fluctuations The Company's revenues and operating results have varied substantially from quarter to quarter and may continue to vary, depending upon the timing of implementation of new computer-based testing contracts and contracts funded under Title I or similar programs. Based on the Company's experience, revenues generated by computer-based testing services may vary based on the frequency or timing of delivery of individual tests and the speed of test administrators' conversion of tests to computer-based format. The Company's English language instruction businesses experience seasonal fluctuations based on the timing of delivery of instruction to individuals. In addition, franchise license fees earned by the Company in its Sylvan Learning Centers and testing services segments may vary significantly from quarter to quarter. Revenues or profits in any period will not necessarily be indicative of results in subsequent periods. 17 PART II - OTHER INFORMATION ITEM 6. REPORTS ON FORM 8-K ------------------- The company did not file any reports on Form 8-K during the three months ended March 31, 1999. SIGNATURES - ---------- Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on behalf by the undersigned thereunto duly authorized. Sylvan Learning Systems, Inc. Date: May 13, 1999 /s/ B. Lee McGee _________________________________________ B. Lee McGee, Executive Vice President and Chief Financial Officer 18 EX-27 2 FINANCIAL DATA SCHEDULE
5 1,000 3-MOS DEC-31-1999 JAN-01-1999 MAR-31-1999 29,432 6,694 82,720 (3,548) 9,744 141,644 145,728 (42,231) 667,676 116,133 0 0 0 512 496,188 667,676 123,778 123,778 0 112,925 0 0 768 10,312 (3,505) 6,807 0 0 (1,323) 5,484 0.10 0.10
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