-----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, ACgH0K+Hr0sMyKuog8bswjO5reXYWMHTA5JWaQvHgwwkCCDla9sdmOWYtOCRbTbm 0x67BLgcfSWesImFCi6+GA== 0000950109-96-007507.txt : 19961115 0000950109-96-007507.hdr.sgml : 19961115 ACCESSION NUMBER: 0000950109-96-007507 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19960930 FILED AS OF DATE: 19961113 SROS: NASD 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: 1934 Act SEC FILE NUMBER: 000-22844 FILM NUMBER: 96661407 BUSINESS ADDRESS: STREET 1: 9135 GUILFORD RD CITY: COLUMBIA STATE: MD ZIP: 21046 BUSINESS PHONE: 4108800889 MAIL ADDRESS: STREET 2: 9135 GUILFORD ROAD CITY: COLUMBIA STATE: MD ZIP: 21046 10-Q 1 FORM 10-Q 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 September 30, 1996 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.) 9135 Guilford Road, Columbia, Maryland 21046 ---------------------------------------- ----- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (410)880-0889 ------------- 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 15,548,782 shares of Common Stock outstanding as of October 31, 1996. SYLVAN LEARNING SYSTEMS, INC. ----------------------------- INDEX ----- Page No. -------- PART I. - FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) . Balance Sheets - December 31, 1995 and September 30, 1996...................................3 . Statements of Operations - Three months ended September 30, 1995, three months ended September 30, 1996...................................5 . Statements of Operations - Nine months ended September 30, 1995, nine months ended September 30, 1996...................................6 . Statements of Cash Flows - Nine months ended September 30, 1995, nine months ended September 30, 1996...................................7 . Notes to Unaudited Financial Statements - September 30, 1996...................................8 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 PART I: FINANCIAL INFORMATION ITEM 1: FINANCIAL STATEMENTS - ----------------------------- Sylvan Learning Systems, Inc. and Subsidiaries Consolidated Balance Sheets
December 31, September 30, 1995 1996 =============== =============== (Unaudited) Assets Current assets: Cash and cash equivalents $ 2,528,865 $ 8,935,129 Available-for-sale securities 30,379,065 16,268,291 Receivables: Accounts receivable 20,578,345 25,835,745 Costs and estimated earnings in excess of billings on uncompleted contracts 3,028,558 3,128,809 Notes receivable 1,583,843 2,214,783 --------------- --------------- 25,190,746 31,179,337 Allowance for doubtful accounts (1,466,027) (1,427,227) --------------- --------------- 23,724,719 29,752,110 Inventory 3,639,392 3,968,694 Deferred income taxes 1,271,925 1,271,925 Prepaid expenses 1,942,806 2,533,786 --------------- --------------- Total current assets 63,486,772 62,729,935 Notes receivable, less current portion 1,875,359 991,316 Costs and estimated earnings in excess of billings on uncompleted contracts, less current portion 673,181 572,848 Property and equipment: Furniture and equipment 19,564,005 23,804,179 Leasehold improvements 1,958,236 2,410,372 --------------- --------------- 21,522,241 26,214,551 Accumulated depreciation (6,142,009) (9,196,312) --------------- --------------- 15,380,232 17,018,239 Intangible assets: Goodwill 74,653,356 81,612,524 Contract rights 7,857,346 7,857,346 Other 2,451,091 2,451,091 --------------- --------------- 84,961,793 91,920,961 Accumulated amortization (4,640,450) (9,220,722) --------------- --------------- 80,321,343 82,700,239 Deferred contract costs, net of accumulated amortization of $684,177 as of December 31, 1995 and $1,391,129 as of September 30, 1996 2,528,029 7,460,596 Other assets 1,141,755 4,945,857 --------------- --------------- Total assets $ 165,406,671 $ 176,419,030 =============== ===============
3 Sylvan Learning Systems, Inc. and Subsidiaries Consolidated Balance Sheets
December 31, September 30, 1995 1996 ================ ================ (Unaudited) Liabilities and stockholders' equity Current liabilities: Accounts payable and accrued expenses $ 12,253,614 $ 16,450,231 Bank lines of credit 3,500,000 - Current portion of long-term debt and capital lease obligations 1,895,567 1,182,023 Billings in excess of costs and estimated earnings on uncompleted contracts 237,644 25,068 Deferred revenue 6,487,134 7,120,161 Other current liabilities 795,967 644,840 ---------------- ---------------- Total current liabilities 25,169,926 25,422,323 Long-term debt, less current portion 2,465,399 1,600,000 Capital lease obligations, less current portion 55,113 - Deferred income taxes 884,612 884,612 Other long-term liabilities 367,790 348,096 Commitments and contingent liabilities - - Stockholders' equity: Common stock, par value $.01 per share--authorized 40,000,000 shares, issued and outstanding shares of 13,953,462 as of December 31, 1995 and 14,237,980 as of September 30, 1996 139,534 142,380 Additional paid-in capital 139,863,681 142,572,522 Foreign currency translation adjustments 70,000 (94,651) Retained earnings (accumulated deficit) (3,609,384) 5,543,748 ---------------- ---------------- Total stockholders' equity 136,463,831 148,163,999 ---------------- ---------------- Total liabilities and stockholders' equity $ 165,406,671 $ 176,419,030 ================ ================
See accompanying notes. 4 Sylvan Learning Systems, Inc. and Subsidiaries Consolidated Statements of Operations
Three months ended September 30, ============================= 1995 1996 ============================= (Unaudited) (Unaudited) Revenues Franchise royalties $ 2,582,473 $ 3,186,677 Franchise sales fees 708,935 521,884 Company-owned learning center services 3,263,374 4,327,668 Product sales 726,096 812,442 Contract educational services 6,721,087 5,768,954 Testing services 6,449,664 23,067,751 ------------ ------------ Total revenues 20,451,629 37,685,376 Cost and expenses Company-owned learning center expense 2,701,665 3,445,616 Cost of product sales 570,749 666,022 Contract educational services expense 5,882,286 5,114,236 Testing services expense 4,610,837 17,296,004 General and administrative expense 3,436,859 4,290,901 Loss on impairment of assets 3,200,876 - ------------ ------------ Total expenses 20,403,272 30,812,779 ------------ ------------ Operating income 48,357 6,872,597 Other income (expense) Investment and other income 175,360 231,992 Interest expense (154,556) (61,550) Equity in net income of Sylvan National Advertising Committee, Inc. 184,588 196,047 ------------ ------------ Income from continuing operations before income taxes 253,749 7,239,086 Income taxes (106,393) (2,897,000) ------------ ------------ Net income $ 147,356 $ 4,342,086 ============ ============ Per common and common equivalent share Net income $0.01 $0.27 ============ ============
See accompanying notes. 5 Sylvan Learning Systems, Inc. and Subsidiaries Consolidated Statements of Operations
Nine months ended September 30, ======================================== 1995 1996 ======================================== (Unaudited) (Unaudited) Revenues Franchise royalties $ 7,110,881 $ 8,697,702 Franchise sales fees 1,586,905 886,755 Company-owned learning center services 8,601,723 11,726,175 Product sales 2,487,240 2,795,117 Contract educational services 19,249,588 23,579,307 Testing services 17,451,565 64,127,202 ----------------- ------------------- Total revenues 56,487,902 111,812,258 Cost and expenses Company-owned learning center expense 7,479,384 9,769,485 Cost of product sales 1,923,869 2,306,104 Contract educational services expense 16,827,936 20,412,120 Testing services expense 13,641,406 51,820,813 General and administrative expense 9,618,911 13,294,320 Loss on impairment of assets 3,200,876 - ----------------- ------------------- Total expenses 52,692,382 97,602,842 ----------------- ------------------- Operating income 3,795,520 14,209,416 Other income (expense) Investment and other income 543,318 974,027 Interest expense (418,229) (239,926) Equity in net income of Sylvan National Advertising Committee, Inc. 229,113 449,615 ----------------- ------------------- Income from continuing operations before income taxes 4,149,722 15,393,132 Income taxes (700,000) (6,240,000) ----------------- ------------------- Net income $ 3,449,722 $ 9,153,132 ================= =================== Per common and common equivalent share Net income $0.33 $0.57 ================= ===================
See accompanying notes. 6 Sylvan Learning Systems, Inc. and Subsidiaries Consolidated Statements of Cash Flows
Nine months ended September 30, ------------------------------ 1995 1996 ------------------------------ (Unaudited) (Unaudited) Operating activities Net income $ 3,449,722 $ 9,153,132 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Depreciation 2,289,060 3,337,046 Amortization 1,247,127 5,287,224 Loss on impairment of assets 3,200,876 -- Provision for doubtful accounts -- 158,724 Equity in net income of unconsolidated affiliate (229,113) (449,615) Changes in operating assets and liabilities: Accounts and notes receivable (8,634,232) (5,154,991) Costs and estimated earnings in excess of billings on uncompleted contracts (896,045) 82 Inventory (402,851) (328,826) Prepaid expenses (973,496) (458,462) Other assets (411,483) (1,138,822) Accounts payable and accrued expenses (85,152) 1,815,551 Billings in excess of costs and estimated earnings on uncompleted contracts (578,749) (251,474) Other current liabilities (821,386) (342,349) Deferred revenue and other long-term liabilities 1,387,082 681,475 ------------- ------------- Net cash provided by (used in) operating activities (1,458,640) 12,308,695 ------------- ------------- Investing activities Purchase of available-for-sale securities -- (30,242,741) Proceeds from sale of available-for-sale securities 1,367,063 44,353,515 Purchase of property and equipment (3,200,471) (4,975,547) Contract termination fee paid to Drake Authorized Testing Centers -- (4,432,512) Purchase of assets and contract rights from NASD -- (4,871,832) Cash received upon acquisition of PACE 682,411 -- Cash received upon acquisition of Drake Prometric, L.P. 3,514,000 -- Expenditures for deferred contract costs and other assets (784,473) (3,243,638) ------------- ------------- Net cash provided by (used in) investing activities 1,578,530 (3,412,755) ------------- ------------- Financing activities Proceeds from exercise of options and warrants 351,078 2,171,023 Proceeds from issuance of common stock -- 440,250 Payments on long-term debt and capital lease obligations (1,378,572) (1,437,085) Proceeds from (paydown of) borrowings on line of credit 2,500,000 (3,500,000) ------------- ------------- Net cash provided by (used in) financing activities 1,472,506 (2,325,812) ------------- ------------- Effects of exchange rate changes on cash -- (163,864) ------------- ------------- Net increase in cash and cash equivalents 1,592,396 6,406,264 Cash and cash equivalents at beginning of period 3,719,657 2,528,865 ------------- ------------- Cash and cash equivalents at end of period $ 5,312,053 $ 8,935,129 ============= =============
See accompanying notes. 7 SYLVAN LEARNING SYSTEMS, INC. Notes to Unaudited Financial Statements September 30, 1996 Note A - Basis of Presentation --------------------- The accompanying unaudited 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 and nine months ended September 30, 1996 are not necessarily indicative of the results that may be expected for the year ended December 31, 1996. 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, 1995. Note B - Income Taxes ------------ At December 31, 1995 the Company had net operating loss carryforwards of approximately $2.5 million for income tax purposes that expire in years 2007 and 2008. The operation of certain provisions of the Internal Revenue Code will limit the amount of the net operating loss carryforwards available to offset taxable income in any one year. During 1996, approximately $2.5 million of net operating loss carryforwards are available to offset taxable income. The Company's effective tax rate has increased from 17% during the first nine months of 1995 to 41% during the first nine months of 1996 mainly due to non-deductible amortization expense of intangible assets related to the Drake acquisition and a lower net operating loss carryforward available for use in 1996. The Company's income tax provision of $6,240,000 for the nine month period ended September 30, 1996 consists of federal, state, and foreign income taxes. Note C - Credit Line ----------- The Company has entered into a loan agreement with a bank, hereinafter the "credit line", that provides an unsecured revolving line of credit. The credit line allows the Company to borrow a maximum of $15 million on a revolving basis through May 31, 1998, with the option to repay any balance at that date over two years through May 31, 2000. The credit line bears interest at a floating rate equal to the 30 day London Interbank Offered Rate ("LIBOR") plus 1.15% per annum. During the nine months ended September 30, 1996, all outstanding borrowings under the line of credit were repaid in their entirety. 8 Note D - Earnings Per Share ------------------ Earnings per common and common equivalent share is computed using the weighted average number of common and common equivalent shares outstanding during each period presented. The weighted average number of shares used for the three months ended September 30, 1996 and 1995 was 15,800,767 and 10,663,262, respectively. The weighted average number of shares used for the nine months ended September 30, 1996 and 1995 was 15,749,854 and 10,360,391, respectively. The difference between the number of shares used to determine earnings per common and common equivalent share and earnings per common share assuming full dilution is immaterial. Common stock equivalents consist of stock options and warrants using the treasury stock method in 1996 and the modified treasury stock method in 1995. Note E - Subsequent Events ----------------- The Company has authorized a 3 for 2 stock split of its Common Stock to be effective in the form of a stock dividend, which will be distributed on November 7, 1996 to shareholders of record at the close of business on October 7, 1996. The holders of the Company's Common Stock will receive a stock dividend at the rate of 1/2 share of Common Stock for each share of Common Stock owned. Shareholders will not be entitled to receive any resulting fractional shares, but will receive the value of any such fractional shares in cash. The September 30, 1996 financial statements do not reflect the additional shares. On October 24, 1996, the Company announced that it has formed a new venture with MCI Communications Corporation ("MCI") to provide an international distribution network for adult professional education services. The capital structure of the new venture, called Caliber Learning Network, Inc. ("Caliber"), will be as follows: Sylvan will invest $1.3 million for Jr. Preferred stock for 10% of Caliber's equity and will have a call option beginning January 1998 to purchase 42.1% of Caliber's equity held by an independent investor. Douglas Becker and Chris Hoehn-Saric, the Company's Co-CEOs, will invest, through an entity controlled by them, $350,000 each for Common stock of Caliber for 28% of the equity. MCI will hold a 19.9% equity interest. Additionally, MCI and Sylvan will provide credit to finance the buildout of Caliber's communications and computing infrastructure. On November 11, 1996, the Company announced that it will make a minority investment in Josten's Learning Corporation ("Jostens"), a leading provider of technology-based educational programs for students from kindergarten through twelfth grade level. The Company will make a $20.6 million investment in Josten's preferred stock through a payment of $5.0 million in cash and $15.6 million of the Company's common stock. The number of shares to be issued will be determined by dividing $16.07 million by the Company's stock price on the registration date of the shares (estimated to be on or about November 20, 1996). This initial investment will equate to a 16.5% ownership interest in 9 Josten's. The Company will also earn a $2.0 million dividend annually, which will increase the Company's ownership percentage of Josten's to 19.9% at the end of the second year of ownership. Note F - Reclassifications ----------------- Certain amounts in the 1995 financial statements have been reclassified to conform with the 1996 presentation. 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, amounts payable to or by the Company in connection with a 1993 software agreement, the Company's contingent payment obligations relating to the PACE and Drake acquisitions, future capital requirements 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 pursuant to certain testing contracts acquired in connection with the 1993 software agreement and revenues earned by the Company's PACE and Drake operations; the availability of sufficient capital to finance the Company's business plan on terms satisfactory to the Company; general business and economic conditions; and the 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. The Company generates revenue from three business segments: Core educational services which primarily consists of franchise sales, royalties, and Company-owned Learning Center revenue; testing services, which consists of computer-based testing fees paid to the Company primarily by test administrators; and contract educational services, which consists of revenue attributable to providing supplemental and remedial education services to school districts and major corporations. Results of Operations Comparison of results for the quarter and nine months ended September 30, 1996 to results for the quarter and nine months ended September 30, 1995. Revenue. Total revenues increased by $17.2 million, or 84% to $37.7 million for the quarter ended September 30, 1996 and increased by $55.3 million, or 98%, to $111.8 million for the nine months ended September 30, 1996 compared to the respective periods in 1995. These increases resulted from higher revenues in core educational services and testing services. Core educational services revenue increased by $1.6 million, or 22%, to $8.8 million during the third quarter of 1996 and by $4.3 million, or 22%, to $24.1 million for the first nine months of 1996 compared to the comparable 1995 periods. Franchise royalties increased $604,000, or 23%, to $3.2 million for the quarter ended September 30, 1996 and by $1.6 million, or 22%, to $8.7 million for the nine month period of 1996 compared to the comparable 1995 periods. This increase in franchise royalties was due to an overall 16% and 19% increase in revenues at existing Learning Centers open for more than one year, for the three months and nine months ended September 30, 1996, respectively, combined with a net increase of 8 new full and satellite Centers opened in 11 the quarter ended September 30, 1996, and 42 new full and satellite Centers opened in the first nine months of 1996. A satellite Center is a center operating within an existing franchise territory. Franchise sales fees decreased by $187,000, or 26%, to $522,000 for the quarter ended September 30, 1996, and by $700,000, or 44%, to $887,000 for the nine months ended September 30, 1996, compared to the comparable periods in 1995. For the quarter ended September 30, 1996, there were 13 franchise Center licenses sold, compared to 11 franchise Center licenses and a $260,000 area development agreement sold in the 1995 quarter. For the nine months ended September 30, 1996, there were 22 franchise Center licenses sold compared to 28 franchise Center licenses and two area development agreements totaling $530,000 sold for the nine months ended September 30, 1995. Revenue from Company-owned Learning Centers increased by $1.1 million, or 33%, to $4.3 million during the third quarter of 1996 and by $3.1 million, or 36%, to $11.7 million during the first nine months of 1996 compared to the comparable periods in 1995. Revenue growth related to student enrollment increases for Centers operating over 12 months as of September 30, 1996 resulted in $803,000, or 25%, of the increase for the quarter ended September 30, 1996, and $2.5 million, or 29%, of the increase for the first nine months of 1996 compared to the comparable 1995 periods. The opening of two new Centers after September 30, 1995 resulted in an additional $261,000 of revenue during the third quarter of 1996 and $638,000 during the first nine months of 1996. Product sales in the third quarter of 1996 were comparable to the third quarter of 1995 and increased $308,000, or 12% to $2.8 million in the first nine months of 1996 compared to the same period in 1995 due to overall student enrollment increases at franchised Centers. Testing services revenue increased by $16.6 million, or 258%, to $23.1 million during the third quarter of 1996, and increased by $46.7 million, or 267%, to $64.1 million for the first nine months of 1996, compared to the comparable periods in 1995. The significant increase in testing services revenues resulted primarily from the acquisition of Drake which provided increased revenues from Information Technology (IT) clients. Increased services under the cost-plus Educational Testing Service (ETS) international contract and the implementation of a management contract with the National Association of Securities Dealers, Inc. (NASD) also contributed to the increase in testing services revenues. Effective March 1, 1996, the Company entered into a management contract with the NASD to operate their testing centers delivering computer-based testing to securities brokers and dealers. The company has a 10 year contract to provide testing for the NASD. Contract educational services revenue decreased by $1.0 million, or 14% to $5.8 million for the quarter ended September 30, 1996, and increased by $4.3 million, or 22% to $23.6 million for the nine months ended September 30, 1996 compared to the comparable periods in 1995. Revenue from Title I contracts decreased by $800,000 for the quarter ended September 30, 1996, and increased by $3.3 million for the nine months ended September 30, 1996. Revenue from PACE and Sylvan at Work contracts decreased by $200,000 for the quarter ended September 30, 1996, and increased by $1.0 12 million for the nine months ended September 30, 1996. The PACE and Sylvan at Work increase for the nine months ended September 30, 1996 results from the fact that the Pace acquisition, accounted for as a purchase, was effective February 28, 1995. Revenue from Title I contracts obtained after September 30, 1995 contributed $300,000 to revenue for the quarter ended September 30, 1996, and $500,000 for the nine months ended September 30, 1996. Revenue from existing Title I contracts decreased by $1.1 million for the quarter ended September 30, 1996, and increased by $2.8 million for the nine months ended September 30, 1996. Revenue from existing Title I contracts decreased for the third quarter of 1996 since the third quarter of 1995 included $1.5 million in revenue from one time summer contracts, offset by $400,000 attributed to contracts existing prior to the third quarter of 1995. Cost and Expenses. Company-owned Learning Center expenses increased by $744,000, to $3.4 million, or 80% of total Company-owned Learning Center services revenue in the third quarter of 1996, compared to $2.7 million, or 83% of total Company-owned Learning Center services revenue in the third quarter of 1995. Company-owned Learning Center expenses increased by $2.3 million, to $9.8 million, or 83% of total Company-owned Learning Center services revenue for the nine months ended September 30, 1996, compared to $7.5 million, or 87% of total Company-owned Learning Center services revenue for the nine months ended September 30, 1995. The increased expenses were primarily advertising and labor associated with increased center enrollment. Expenses for Centers operating over 12 months as of September 30, 1996 accounted for $543,000 of the increase for the third quarter of 1996, and represent 68% of incremental same Center revenue. Expenses for Centers operating over 12 months as of September 30, 1996 accounted for $1.7 million of the increase for the first nine months of 1996, and represent 69% of incremental same Center revenue. The opening of two new Company-owned Learning Centers since September 30, 1995 increased expenses by $201,000, or 77% of the revenue of those Centers for the third quarter of 1996, and by $575,000, or 90% of the revenue of those Centers for the first nine months of 1996. Testing services expenses for the third quarter of 1996 increased by $12.7 million to $17.3 million, or 75% of total testing services revenue, compared to $4.6 million, or 71% of total testing services revenue for the third quarter of 1995. Testing services expense for the first nine months of 1996 increased by $38.2 million to $51.8 million, or 81% of total testing services revenue, compared to $13.6 million, or 78% of total testing services revenue for the same period in 1995. The increase resulted primarily from the acquisition of Drake and the increased registration and delivery costs associated with additional volume of tests. The increase in testing services expense as a percentage of revenues was primarily a result of high margin development revenues from the Armed Services Vocational Aptitude Battery (ASVAB) beta test which decreased the percentage of delivery cost to revenue in 1995. Also, the Company sold the development rights for testing center's providing computer-based tests in India for $500,000 in the third quarter of 1995. The percentage of expenses to revenue, adjusted for ASVAB development revenue for the third quarter and for ASVAB and India rights revenue for the nine months ended September 30, 1996 are higher than the percentages for the same periods in 1995. 13 Contract educational services expense decreased by $800,000 to $5.1 million, or 89% of contract educational services revenue for the quarter ended September 30, 1996, compared to $5.9 million or 88% of contract educational services revenue for the third quarter of 1995, and increased by $3.6 million to $20.4 million, or 87% of contract educational services revenue during the nine months ended September 30, 1996, compared to $16.8 million or 87% of contract educational services revenue during the first nine months of 1995. Operating expenses for Title I schools decreased $700,000 for the quarter ended September 30, 1996 and increased $2.5 million for the nine months ended September 30, 1996. Expenses from Title I contracts decreased for the third quarter of 1995 since the third quarter of 1995 included expenses from one time summer contracts. Operating expenses for PACE and Sylvan at Work decreased by $100,000 for the quarter ended September 30, 1996 and increased $1.1 million for the nine months ended September 30, 1996. The PACE and Sylvan at Work increase for the nine months ended September 30, 1996, results from the fact that the Pace acquisition, which was accounted for as a purchase, was effective February 28, 1995. General and administrative expenses increased by $900,000 to $4.3 million during the third quarter of 1996 compared to the third quarter of 1995, but decreased as a percentage of revenue from 17% to 11%; general and administrative expenses increased by $3.7 million to $13.3 million during the first nine months of 1996, compared to the same period in 1995, but decreased as a percentage of revenue from 17% to 12%. These percentage declines resulted from increased revenues primarily from franchise royalties, testing services, and contract and Company-owned Learning Center services without corresponding increases in administrative staff salaries and expenses. During the third quarter of 1995, the Company recorded a non-recurring loss on impairment of assets of $3.2 million associated with the Drake acquisition. The loss on impairment resulted from the determination that the fair market value of certain assets in the Sylvan Testing division were less than the book value. The Drake acquisition and the pending consolidation of operations resulted in the determination that certain assets in this division are not recoverable, and therefore these assets have been written down to their net realizable value. Liquidity and Capital Resources Cash provided by operating activities was $12.3 million for the nine months ended September 30, 1996 as compared to cash used in operating activities of $1.5 million in the comparable period of 1995. Cash flow from operations before working capital changes increased from $10.0 million in the 1995 period to $17.5 million in the 1996 period, primarily as a result of significant earnings from Company operations net of the loss on impairment of assets recognized in the 1995 period. The $5.2 million of cash used due to the increase in accounts and notes receivable was partially offset by the $2.5 million of cash provided by the increase in accounts payable and accrued expenses, and deferred revenue. These increases resulted primarily from the significant growth of the testing division, including the effects of the growth of Information Technology testing. 14 During the first nine months of 1996, the Company sold a net of $14.1 million of available-for-sale securities. The Company used cash to pay off the outstanding line of credit borrowings of $3.5 million, to purchase $5.0 million of property and equipment, and to acquire certain contract rights and other assets of $9.3 million as described below. The Company continues to incur expenditures for additions to property and equipment, which totaled $5.0 million through the third quarter of 1996. These additions primarily consisted of furniture and equipment for general business expansion, including expenditures for new public and non-public school classrooms and equipment needed for testing centers operated by the Company. Under the international testing contract with ETS, the Company is reimbursed for overseas equipment expenditures as the equipment is depreciated. This reimbursement includes a financing charge over the reimbursement period. The Company paid the NASD $4.9 million during the nine months ended September 30, 1996 pursuant to an asset transfer agreement related to the management of the NASD testing centers and the acquisition of contract rights to provide testing based on a ten year contract with the NASD. The assets transferred by the NASD consisted mainly of computer equipment in the NASD testing centers. During the nine months ended September 30, 1996, the Company paid $4.4 million in contract termination fees to certain Drake Authorized Testing Centers that had contracts to provide computer based testing delivery. These cancellation costs were recorded as additional costs related to the Drake acquisition and are being amortized over the remaining amortization period. The Company has entered into a loan agreement with a bank, hereinafter the "credit line" that provides an unsecured revolving line of credit. The credit line allows the Company to borrow a maximum of $15 million on a revolving basis through May 31, 1998, with the option to repay any balance at that date over two years through May 31, 2000. There were no outstanding borrowings under the credit line at September 30, 1996. The credit line bears interest at a floating rate equal to the 30 day London Interbank Offered Rate ("LIBOR") plus 1.15% per annum. During the nine months ended September 30, 1996, the Company received $2.2 million of cash as a result of the exercise of stock options and warrants to purchase 262,018 shares of Common Stock. On October 24, 1996, the Company announced that it has formed a new venture with MCI Communications Corporation ("MCI") called Caliber Learning Network, Inc. ("Caliber"), to provide an international distribution network for adult professional education services. The Company will invest $1.3 million for Jr. Preferred stock of Caliber and will loan $3.0 million to Caliber. The Company does not expect to make further significant investments in or loans to Caliber in the next 24 months. 15 On November 11, 1996, the Company announced that it will make a minority investment in Josten's Learning Corporation ("Jostens"), a leading provider of technology-based educational programs for students from kindergarten through twelfth grade level. The Company will make a $20.6 million investment in Josten's preferred stock through a payment of $5.0 million in cash and $15.6 million of the Company's common stock. The number of shares to be issued will be determined by dividing $16.07 million by the Company's stock price on the registration date of the shares (estimated to be on or about November 20, 1996). This initial investment will equate to a 16.5% ownership interest in Josten's. The Company will also earn a $2.0 million dividend annually, which will increase the Company's ownership percentage of Josten's to 19.9% at the end of the second year of ownership. The Company believes that its capital resources will be sufficient on a short-term basis and over the next 24 months to fund the continued expansion of the business and Caliber, including working capital needs and expected investments in property and equipment. Contingent Matters In connection with the PACE acquisition, the Company will be required to make a contingent payment equal to 6.5 times PACE's 1997 earnings before interest and income taxes ("EBIT"). If PACE's EBIT is less than $2.7 million for 1997, the PACE shareholders may elect to have the payment calculation based on EBIT for either calendar year 1998 or 1999. The contingent payment is payable partially in cash and partially in Common Stock. The amount of any contingent payment to the PACE Stockholders will be capitalized as goodwill when paid and amortized over the remaining estimated recovery period. PACE is expected to meet its cash needs from its operations. PACE provides most of its services to large corporations with favorable credit histories. PACE operations are not capital intensive and historically PACE has generated positive cash flow from operations. The agreement with Drake provides for future contingent payments based on the achievement of certain specified revenue targets between 1997 and 1998 (or 1999 at election of the Sellers) and would be paid in the first quarter of 1999 or 2000. The contingent payments of up to $40 million, if earned, are payable 12.5% in cash (or more at the discretion of the Company) with the remainder in shares of Common Stock. The amount of any contingent payments will be capitalized as goodwill when paid and amortized over the remaining estimated recovery period. 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 the public and non-public school programs or similar programs. Based on the Company's limited experience, revenue generated by computer based testing services may vary based 16 on the frequency or timing of delivery of individual tests and the speed of test administrators' conversion of tests to computer-based format. Revenue or profits in any period will not necessarily be indicative of results in subsequent periods. 17 PART II - OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K -------------------------------- (a) Reports on Form 8-K During the three months ended September 30, 1996, the Company filed a Report on Form 8-K dated September 27, 1996 with respect to the Shareholder Rights Plan and the 3 for 2 stock split of its Common Stock to be effective in the form of a stock dividend. 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: November 11, 1996 /s/ B. Lee McGee ------------------------------------- B. Lee McGee, Vice President and Chief Financial Officer 18 EX-27 2 FINANCIAL DATA SCHEDULE
5 3-MOS 9-MOS DEC-31-1996 DEC-31-1996 JUL-01-1996 JAN-01-1996 SEP-30-1996 SEP-30-1996 8,935,129 8,935,129 16,268,291 16,268,291 32,743,501 32,743,501 1,427,227 1,427,227 3,968,694 3,968,694 62,729,935 62,729,935 26,214,551 26,214,551 9,196,312 9,196,312 176,419,030 176,419,030 25,422,323 25,422,323 0 0 0 0 0 0 142,380 142,380 148,021,619 148,021,619 176,419,030 176,419,030 34,498,699 103,114,576 37,685,376 111,812,258 26,521,878 84,308,522 30,812,779 13,294,320 0 0 0 0 61,550 239,926 7,239,086 15,393,132 2,897,000 6,240,000 4,342,086 9,153,132 0 0 0 0 0 0 4,342,086 9,153,132 .27 .57 .27 .57
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