-----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, Gk1ykzXBrpkOP1+k6L97c//PUTipir95htLWsxKdODkYHIFIJz4RnSNNeiUGY4qP j3bsCy7HXZ7PqebxXpUz+A== 0000912057-99-002857.txt : 19991101 0000912057-99-002857.hdr.sgml : 19991101 ACCESSION NUMBER: 0000912057-99-002857 CONFORMED SUBMISSION TYPE: 10-Q/A PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 19990331 FILED AS OF DATE: 19991029 FILER: COMPANY DATA: COMPANY CONFORMED NAME: KTI INC CENTRAL INDEX KEY: 0000931581 STANDARD INDUSTRIAL CLASSIFICATION: COGENERATION SERVICES & SMALL POWER PRODUCERS [4991] IRS NUMBER: 222665282 STATE OF INCORPORATION: NJ FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q/A SEC ACT: SEC FILE NUMBER: 000-25490 FILM NUMBER: 99737893 BUSINESS ADDRESS: STREET 1: 7000 BLVD E CITY: GUTTENBERG STATE: NJ ZIP: 07093 BUSINESS PHONE: 2018547777 MAIL ADDRESS: STREET 1: 7000 BOULEVARD EAST CITY: GUTTENBERG STATE: NJ ZIP: 07093 10-Q/A 1 FORM 10-Q FORM 10-Q. - QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-Q/A (x) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 1999 Commission File No. 0-25490 KTI, INC. (Exact name of registrant as specified in its charter) New Jersey 22-2665282 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 7000 Boulevard East Guttenberg, New Jersey 07093 (Address of principal executive offices) (Zip code) (201) 854-7777 (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. Yes /X/ No / / Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date: Common Stock, No Par Value 13,916,238 Shares as of May 14, 1999 TABLE OF CONTENTS
ITEM NUMBER AND CAPTION PAGE NUMBER - ----------------------- ----------- PART I - FINANCIAL INFORMATION Item 1. Consolidated Financial Statements Consolidated Balance Sheets at March 31, 1999 (unaudited) and December 31, 1998 3 Consolidated Statements of Income (unaudited) for the three months ended March 31, 1999 and 1998 4 Consolidated Statements of Changes in Stockholders' Equity for the three months ended March 31, 1999 (unaudited) and the year ended December 31, 1998 5 Consolidated Statements of Cash Flows (unaudited) for the three months ended March 31, 1999 and 1998 6 Notes to Consolidated Financial Statements 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 13 Item 3. Qualitative and Quantitative Disclosure about Market Risk 22 PART II - OTHER INFORMATION Item 1. Legal Proceedings 24 Item 2. Changes in Securities 25 Item 3. Defaults Upon Senior Securities 25 Item 4. Submission of Matters to a Vote of Security Holders 25 Item 5. Other Information 25 Item 6. Exhibits and Reports on Form 8-K 25
2 PART I - FINANCIAL INFORMATION ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS KTI, INC. CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
MARCH 31, DECEMBER 31, 1999 1998 ------------ ------------- (UNAUDITED) ASSETS Current Assets Cash and cash equivalents........................................................... $ 7,782 $ 9,426 Restricted funds.................................................................... 21,343 19,088 Accounts receivable, net of allowances of $1,328 and $1,313......................... 37,180 29,272 Consumables and spare parts......................................................... 5,074 4,483 Inventory........................................................................... 7,855 4,866 Notes receivable--officers/shareholders and affiliates.............................. 1,402 1,858 Other receivables................................................................... 3,309 4,158 Deferred taxes...................................................................... 5,449 4,832 Other current assets................................................................ 6,325 3,370 ----------- ---------- Total current assets............................................................ 95,719 81,353 Restricted funds...................................................................... 4,207 4,350 Notes receivable--officers/shareholders and affiliates................................ 5,341 1,534 Other receivables..................................................................... 2,207 3,025 Other assets.......................................................................... 6,264 6,167 Deferred costs, net of accumulated amortization of $1,899 and $1,610.................. 4,900 5,268 Deferred taxes........................................................................ 1,546 1,407 Goodwill and other intangibles, net of accumulated amortization of $5,550 and $4,354.............................................................................. 125,480 119,712 Property, equipment and leasehold improvements, net of accumulated depreciation of $31,241 and $27,724................................................................. 221,462 213,669 ----------- ---------- Total assets.................................................................... $ 467,126 $ 436,485 ----------- ---------- ----------- ---------- LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities Accounts payable.................................................................... $ 19,361 $ 14,940 Accrued expenses.................................................................... 13,855 9,313 Debt, current portion............................................................... 11,014 9,775 Other current liabilities........................................................... 1,006 4,499 ----------- ---------- Total current liabilities....................................................... 45,236 38,527 Other liabilities..................................................................... 2,874 4,227 Debt, less current portion............................................................ 215,845 202,153 Minority interest..................................................................... 13,684 12,437 Deferred revenue...................................................................... 59,577 61,396 Customer advance...................................................................... 12,612 12,788 Convertible subordinated notes........................................................ 6,770 6,770 Commitments and contingencies Stockholders' equity Preferred stock; 10,000,000 shares authorized; none outstanding Common stock; no par value (stated value $.01 per share); authorized 40,000,000 in 1999 and 1998, issued and outstanding 13,916,238 and 13,266,204 shares in 1999 and 1998, respectively.................................................................. 139 133 Additional paid-in capital............................................................ 126,396 115,026 Accumulated deficit................................................................... (16,007) (16,972) ----------- ---------- Total stockholders' equity............................................................ 110,528 98,187 ----------- ---------- Total liabilities and stockholders' equity...................................... $ 467,126 $ 436,485 ----------- ---------- ----------- ----------
See accompanying notes. 3 KTI, INC. CONSOLIDATED STATEMENTS OF INCOME (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS) (UNAUDITED)
THREE MONTHS ENDED MARCH 31, ------------------------- 1999 1998 ----------- ----------- Revenues........................................................................... $ 66,128 $ 37,876 Cost of operations................................................................. 55,463 30,713 ----------- ----------- Gross Profit..................................................................... 10,665 7,163 Selling, general and administrative................................................ 3,571 1,136 Restructuring charge............................................................... 748 ----------- ----------- Income from operations........................................................... 6,346 6,027 Interest expense, net.............................................................. 3,734 1,510 Other expense...................................................................... 51 ----------- ----------- Income before minority interest, provision for income taxes and cumulative effect of change in accounting principle.............................................. 2,561 4,517 Minority interest.................................................................. 686 1,132 ----------- ----------- Income before provision for income taxes and cumulative effect of change in accounting principle........................................................... 1,875 3,385 Provision for income taxes......................................................... 852 1,346 ----------- ----------- Income before cumulative effect of change in accounting principle................ 1,023 2,039 Cumulative effect of change in accounting principle................................ 58 ----------- ----------- Net income....................................................................... 965 2,039 Accretion and accrued and paid dividends on preferred stock........................ 509 ----------- ----------- Net income available to common shareholders...................................... $ 965 $ 1,530 ----------- ----------- ----------- ----------- Earnings per common share: Basic: Income before cumulative effect of change in accounting principle................ $ 0.08 $ 0.17 Cumulative effect of change in accounting principle.............................. (0.01) ----------- ----------- Net income....................................................................... $ 0.07 $ 0.17 ----------- ----------- ----------- ----------- Weighted average number of shares used in computation............................ 13,619,588 9,236,588 ----------- ----------- ----------- ----------- Diluted: Income before cumulative effect of change in accounting principle................ $ 0.07 $ 0.15 Cumulative effect of change in accounting principle (0.01) ----------- ----------- Net income....................................................................... $ 0.06 $ 0.15 ----------- ----------- ----------- ----------- Weighted average number of shares used in computation............................ 14,290,677 10,043,025 ----------- ----------- ----------- -----------
See accompanying notes 4 KTI, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (IN THOUSANDS, EXCEPT SHARE AMOUNTS)
SERIES A SERIES B PREFERRED STOCK PREFERRED STOCK COMMON STOCK --------------------- --------------------- ------------------------- SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT ---------- --------- ---------- --------- ------------ ----------- Balance at December 31, 1997..................... 447,500 $ 3,732 856,000 $ 21,400 8,912,630 $ 89 Net income..................................... Accretion of preferred stock................... 42 Issuance of common stock and common stock purchase warrants for: Exercise of options.......................... 235,682 2 Exercise of warrants......................... 411,894 4 Non-employee director's compensation......... Conversion of preferred stock: Series A................................... (447,500) (3,774) 447,500 4 Series B................................... (856,000) (21,400) 25,531 1 Conversion of debt........................... 1,283,399 13 Employee savings plan contribution........... 4,215 Business combinations........................ 1,945,353 20 Tax benefit realized from stock option transactions................................. Dividends paid on Series B Preferred Stock..... Additional costs related to preferred stock issuances.................................... ---------- --------- ---------- --------- ------------ ----- Balance at December 31, 1998..................... 13,266,204 133 Net income..................................... Issuance of common stock for: Exercise of options.......................... 20,552 Exercise of warrants......................... 19,482 Business combinations........................ 610,000 6 ---------- --------- ---------- --------- ------------ ----- Balance at March 31, 1999 (unaudited)............ 13,916,238 $ 139 ---------- --------- ---------- --------- ------------ ----- ---------- --------- ---------- --------- ------------ ----- ADDITIONAL RETAINED PAID-IN EARNINGS CAPITAL (DEFICIT) TOTAL ---------- --------- ---------- Balance at December 31, 1997..................... $ 52,762 $ (18,267) $ 59,716 Net income..................................... 2,699 2,699 Accretion of preferred stock................... (42) Issuance of common stock and common stock purchase warrants for: Exercise of options.......................... 1,894 1,896 Exercise of warrants......................... 1,648 1,652 Non-employee director's compensation......... 205 205 Conversion of preferred stock: Series A................................... 3,770 Series B................................... 300 (21,099) Conversion of debt........................... 15,686 15,699 Employee savings plan contribution........... 41 41 Business combinations........................ 38,122 38,142 Tax benefit realized from stock option transactions................................. 738 738 Dividends paid on Series B Preferred Stock..... (1,404) (1,404) Additional costs related to preferred stock issuances.................................... (98) (98) ---------- --------- ---------- Balance at December 31, 1998..................... 115,026 (16,972) 98,187 Net income..................................... 965 965 Issuance of common stock for: Exercise of options.......................... 161 161 Exercise of warrants......................... 193 193 Business combinations........................ 11,016 11,022 ---------- --------- ---------- Balance at March 31, 1999 (unaudited)............ $ 126,396 $ (16,007) $ 110,528 ---------- --------- ---------- ---------- --------- ----------
See accompanying notes. 5 KTI, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS) (UNAUDITED)
THREE MONTHS ENDED MARCH 31, -------------------- 1999 1998 --------- --------- OPERATING ACTIVITIES Net income...................................................................................... $ 965 $ 2,039 Adjustments to reconcile net income to net cash provided (used in) by operating activities: Cumulative effect of change in accounting principle........................................... 58 Depreciation and amortization................................................................. 5,196 2,593 Minority interest, net of distributions....................................................... 1,247 1,132 Deferred revenue.............................................................................. (1,996) (1,820) Deferred income taxes......................................................................... (967) 1,196 Provision for losses on accounts receivable................................................... 15 54 Interest accrued and capitalized on debt...................................................... 417 Other non-cash charges........................................................................ 42 22 Changes in operating assets and liabilities: Accounts receivable......................................................................... (7,224) (2,030) Consumables, spare parts and inventory...................................................... (1,414) (999) Other receivables........................................................................... 849 42 Other assets................................................................................ (2,015) 629 Accounts payable and accrued expenses....................................................... 8,370 685 Other liabilities........................................................................... (3,456) 325 --------- --------- Net cash provided by (used in) operating activities............................................. (330) 4,285 INVESTING ACTIVITIES Additions to property, equipment and leasehold improvements..................................... (3,369) (3,154) Proceeds from sale of assets.................................................................... 22 18 Net change in restricted funds.................................................................. (2,112) (756) Purchase of businesses, net of cash acquired.................................................... (150) (2,443) Notes receivable--officers/shareholders and affiliates.......................................... (3,351) 31 --------- --------- Net cash used in investing activities........................................................... (8,960) (6,304) FINANCING ACTIVITIES Deferred financing costs........................................................................ (398) Net borrowings on lines of credit............................................................... 10,004 5,075 Proceeds from sale of common stock.............................................................. 354 850 Dividends paid.................................................................................. (468) Principal payments on debt...................................................................... (2,712) (2,809) --------- --------- Net cash provided by financing activities....................................................... 7,646 2,250 --------- --------- Increase (decrease) in cash and cash equivalents................................................ (1,644) 231 Cash and cash equivalents at beginning of period................................................ 9,426 11,181 --------- --------- Cash and cash equivalents at end of period...................................................... $ 7,782 $ 11,412 --------- --------- --------- --------- SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Interest paid................................................................................... $ 5,295 $ 902 Taxes paid...................................................................................... 797 NON CASH INVESTING AND FINANCING ACTIVITIES Capital lease obligation entered into for lease of equipment.................................... $ 115 Purchase of businesses, net of cash acquired: Working capital deficit, net of cash acquired................................................. (111) $ (158) Property, equipment and leasehold improvements................................................ 8,621 933 Purchase price in excess of net assets acquired............................................... 6,363 2,834 Other assets.................................................................................. 104 Non-current liabilities....................................................................... 5,423 1,270 Common stock.................................................................................. 9,522
See accompanying notes 6 KTI, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (IN THOUSANDS OF DOLLARS EXCEPT SHARE AND PER SHARE AMOUNTS) (UNAUDITED) MARCH 31, 1999 1. 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 only of normal recurring accruals) considered necessary for a fair presentation have been included. The municipal solid waste ("MSW") market in Maine is seasonal, with one-third more MSW generated in the summer months than is generated during the rest of the year. The Residential and Commercial Recycling segments experience increased volumes of ONP in November and December due to increased newspaper advertising and retail activity during the holiday season. Additionally, the Residential Recycling segment operates facilities in Florida which experience increased volumes of recyclable materials during the winter months followed by decreases in the summer months in connection with seasonal changes in population. Operating results for the three months ended March 31, 1999 and 1998 are not necessarily indicative of the results that may be expected for the full year. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company's annual report on Form 10-K for the year ended December 31, 1998. Certain 1998 financial information contained herein has been reclassified to conform with the 1999 presentation. 2. RESTATEMENT The Company's balance sheet as of March 31, 1999 and the related statements of income, stockholders' equity and cash flows for the three months ended March 31, 1999 and 1998 have been restated. The restatement is a result of the Securities Exchange Commission's review of the Company's proxy materials related to the prospective merger with Casella Waste Systems (See Note 3). The restatement relates to revenue recognized as a result of the restructuring of a power purchase agreement and the sale of electric generating capacity by two of the Company's majority-owned subsidiaries with its customers, Bangor Hydro Electric and Central Maine Power, which were completed in 1998 and 1996. At the time of these transactions, the Company had recognized revenues representing a portion of the cash received in 1996 and the total consideration received in 1998. After discussions with the staff of the Securities and Exchange Commission, the Company agreed to defer these amounts and recognize them over the term of the respective power purchase and capacity purchase agreements to comply with generally accepted accounting principles. In addition, performance credits previously reported as expense have been reclassified as a reduction of revenues. The impact of the restatement on the Company's consolidated financial results as originally reported is summarized as follows:
AS REPORTED RESTATED THREE MONTHS ENDED THREE MONTHS ENDED MARCH 31, MARCH 31, ------------------- ------------------- 1999 1998 1999 1998 -------- -------- -------- -------- Revenues.............................................................. $66,977 $37,632 $66,128 $37,876 Income before cumulative effect of change in accounting principle..... 925 1,992 1,023 2,039 Net income............................................................ 867 1,992 965 2,039 Net income available to common shareholders........................... 867 1,483 965 1,530 Net income per share: Basic............................................................... $ 0.06 $ 0.16 $ 0.07 $ 0.17 Diluted............................................................. $ 0.06 $ 0.15 $ 0.07 $ 0.17
3. MERGER AND ACQUISITION On September 23, 1999, KTI, Inc. (the "Company") entered into an Agreement and Plan of Merger (the "Merger Agreement") with Casella Waste Systems, Inc., ("Casella") a publicly-owned company engaged in the waste services industry. The merger will be completed through the exchange of all of the shares of the Company's common stock for shares of Casella's Class A common stock based on an exchange ratio specified in the Amended Merger Agreement. In addition, all of the Company's outstanding and unexercised stock options and stock purchase warrants will be converted into similar rights to acquire Casella's Class A common stock under the same terms and conditions and the same exchange ratio. Subsequent to the completion of the merger the current Casella stockholders will own a majority of the combined company. Under the terms of the Merger Agreement, Casella is required to file a registration statement with the Securities and Exchange Commission to register the shares of its Class A common stock to be issued in the merger. The merger is subject to, among other things, approval of the Company's and Casella's stockholders. No assurance can be given that the conditions of the merger will be satisfied or that the merger will be consummated. In connection with the merger, Casella has agreed to reimburse the Company for its investment banking fees and other merger related costs and as of June 30, 1999, approximately $1,427 of such costs have been deferred. On January 27, 1999 the Company completed its acquisition of AFA Group, Inc. and subsidiaries ("AFA"), an integrated wood waste processing and hauling business located in Newark, New Jersey. Payment of the aggregate purchase price, including all direct costs, of $9,682 consisted of (i) 460,000 shares of the Company's common stock valued at $20.70 per share (based on the closing price of the common stock on the date of announcement) and (ii) $150 in cash. This acquisition was accounted for as a purchase, and accordingly, the assets and liabilities have been recorded at their estimated fair 7 KTI, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (IN THOUSANDS OF DOLLARS EXCEPT SHARE AND PER SHARE AMOUNTS) (UNAUDITED) MARCH 31, 1999 3. MERGER AND ACQUISITION (CONTINUED) value at the date of acquisition. The excess of the purchase price over the fair value of the acquired net assets of $6,363 has been recorded as goodwill and is being amortized on a straight-line basis over 30 years. On March 31, 1999, pursuant to the Second Amended, Restated and Extended Waste Disposal Agreement among Penobscot Energy Recovery Company ("PERC"), a majority owned subsidiary of the Company, and the municipalities named therein, the municipalities made a capital contribution to PERC totaling $730 in exchange for a 1.31% limited partnership interest in PERC. 4. EARNINGS PER SHARE The following table sets forth the computation of basic and diluted earnings per share:
THREE MONTHS ENDED MARCH 31, -------------------------- 1999 1998 ----------- ----------- Numerator: Net income.......................................................................... $ 965 $ 2,039 Preferred stock dividends........................................................... (467) Accretion of preferred stock........................................................ (42) ----------- ----------- Numerator for basic earnings per share-net income available to common stockholders...................................................................... 965 1,530 Effect of dilutive securities: Numerator for diluted earnings per share-net income available to common stockholders after assumed conversions......................................................... $ 965 $ 1,530 ----------- ----------- ----------- ----------- Denominator: Denominator for basic earnings per share-weighted average shares.................... 13,619,588 9,236,588 Effect of dilutive securities: Employee stock options.............................................................. 486,769 387,576 Warrants............................................................................ 184,320 418,861 ----------- ----------- Dilutive potential common shares.................................................... 671,089 806,437 ----------- ----------- Denominator for diluted earnings per share-adjusted weighted-average shares and assumed conversions............................................................... 14,290,677 10,043,025 ----------- ----------- ----------- ----------- Net income per share-Basic............................................................ $ 0.07 $ 0.17 ----------- ----------- ----------- ----------- Net income per share-Diluted.......................................................... $ 0.06 $ 0.15 ----------- ----------- ----------- -----------
8 KTI, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (IN THOUSANDS OF DOLLARS EXCEPT SHARE AND PER SHARE AMOUNTS) (UNAUDITED) MARCH 31, 1999 5. CONTINGENCIES The Company is a defendant in a consolidated purported class action, which alleges violations of certain sections of the federal securities laws. The Company believes the allegations are without merit and intends to defend the litigation vigorously. Two lawsuits have been filed against a subsidiary of the Company and certain of its officers, alleging fraud and tortious interference. The actions are based on two contracts between the plaintiff and the subsidiary, which contracts require all disputes to be resolved by arbitration. Arbitration proceedings have commenced. The Company believes it has meritorious defenses to the allegations. The majority shareholder of a company acquired by a subsidiary of the Company instigated arbitration proceedings against the Company and two of its subsidiaries, alleging the subsidiaries acted to frustrate the "earn-out" provisions of the acquisition agreement and thereby precluding him from receiving, or alternatively, reducing the sum to which he was entitled to receive. He also alleges his employment agreement was wrongfully terminated. The claim for arbitration alleges direct charges in excess of $5,000 and requests punitive damages, treble damages and attorneys fees. The Company and its subsidiaries have responded to the demand, denying liability and filed a counterclaim for $1,000 for misrepresentations. The Company believes it has meritorious defenses to the claims. The Company is a defendant in certain law suits alleging various claims incurred in the ordinary course of business. Management of the Company does not believe that the outcome of these matters, individually or in the aggregate, will have a material effect on the Company's financial condition, cash flows or results of operations. 6. SEGMENT REPORTING During the three months ended March 31, 1999, the Company operated in the business segment as indicated below.
WASTE-TO- COMMERCIAL FINISHED RESIDENTIAL ENERGY RECYCLING PRODUCTS RECYCLING --------- ----------- --------- ----------- Revenues Unaffiliated customers............................................ $ 23,543 $ 21,138 $ 12,345 $ 9,087 Intersegment revenues............................................. 33 31 748 Segment Profit.................................................... 6,541 315 786 559 Depreciation and Amortization..................................... 2,599 607 821 914 Identifiable Assets............................................... 251,537 65,728 58,868 58,640 Capital Expenditures.............................................. 1,129 315 1,403 384
9 KTI, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (IN THOUSANDS OF DOLLARS EXCEPT SHARE AND PER SHARE AMOUNTS) (UNAUDITED) MARCH 31, 1999 6. SEGMENT REPORTING (CONTINUED) During the three months ended March 31, 1998 the Company operated in the business segments indicated below.
WASTE-TO- COMMERCIAL FINISHED ENERGY RECYCLING PRODUCTS --------- ----------- ----------- Revenues Unaffiliated customers....................................................... $ 17,477 $ 18,665 $ 1,719 Intersegment revenues........................................................ 64 15 Segment Profit................................................................. 5,805 674 259 Depreciation and Amortization.................................................. 2,034 458 25 Identifiable Assets............................................................ 211,643 42,533 1,635 Capital Expenditures........................................................... 1,901 1,225 2
The segment reporting detailed above reconciles to consolidated revenues and income before provision for income taxes and cumulative effect of a change in accounting principal as follows:
THREE MONTHS ENDED MARCH 31, -------------------- 1999 1998 --------- --------- REVENUES Total unaffiliated customers revenue for reportable segments................................ $ 66,113 $ 37,861 Holding company revenues.................................................................... 15 15 Intersegment revenues for reportable segments............................................... 812 79 Elimination of intersegment revenues........................................................ (812) (79) --------- --------- Total consolidated revenues................................................................. $ 66,128 $ 37,876 --------- --------- --------- --------- PROFIT AND LOSS Total segment profit for reportable segments................................................ $ 8,201 $ 6,738 Holding company segment loss................................................................ (1,855) (711) --------- --------- Total segment profit........................................................................ 6,346 6,027 Unallocated amounts: Interest expense, net..................................................................... 3,734 1,510 Other expenses............................................................................ 51 Minority interest......................................................................... 686 1,132 --------- --------- Income before provision for income taxes and cumulative effect of change in accounting principle............................................................................... $ 1,875 $ 3,385 --------- --------- --------- ---------
10 KTI, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (IN THOUSANDS OF DOLLARS EXCEPT SHARE AND PER SHARE AMOUNTS) (UNAUDITED) MARCH 31, 1999 6. SEGMENT REPORTING (CONTINUED)
MARCH 31, 1999 ---------- ASSETS Total identifiable assets for reportable segments........................................ $ 434,773 Holding company assets................................................................... 32,353 ---------- Total consolidated assets................................................................ $ 467,126 ---------- ----------
7. ACCOUNTING CHANGE During the first quarter of 1999, the Company adopted the provisions of the American Institute of Certified Public Accountants Statement of Position (SOP) 98-5, REPORTING ON THE COSTS OF START-UP ACTIVITIES. The SOP requires costs of start-up activities and organization costs to be expensed as incurred. Upon adoption of the SOP, the Company recorded a charge of $58 (net of income taxes of $50). This amount has been reflected as a cumulative effect of change in accounting principle in the income statement for the quarter ended March 31, 1999. 8. RESTRUCTURING CHARGE In the first quarter of 1999, the Company recorded a $748 restructuring charge. The restructuring initiatives primarily involve the Company's Commercial Recycling segment and represent primarily severance and other costs related to employee reductions. In connection with the restructuring, the Company terminated ten employees. All amounts accrued as part of the restructuring charge remain in accrued liabilities as of March 31, 1999. The restructuring charges relate to integration of the brokerage operation acquired as part of the New Jersey Fibers acquisition and elimination of costs as a result of streamlining the operations of acquisitions completed in 1998. 9. INCOME TAXES The income tax provision was approximately $852 for the three months ended March 31, 1999 compared to approximately $1,346 during the same period in 1998. During the first quarter of 1999, the effective tax rate utilized by the Company of 46.0% represents the estimated annual effective rate based on the total estimated pretax income of the Company for the year ended December 31, 1999. The effective rate in the first quarter of 1998 was 41.2% and the increase in the effective rate in 1999 is primarily due to an increase in nondeductible goodwill. 10. SUBSEQUENT EVENTS On May 12, 1999, the Company's Revolving Line of Credit Agreement with a bank (the "Credit Agreement") was amended (the "Amended Agreement") modifying certain financial covenants and requiring bank approval for all acquisitions. The Amended Agreement requires that the Company and certain subsidiaries, as defined, maintain certain specified financial covenants, including, a minimum interest coverage ratio, a maximum funded debt to EBITDA ratio, a minimum fixed charge coverage 11 KTI, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (IN THOUSANDS OF DOLLARS EXCEPT SHARE AND PER SHARE AMOUNTS) (UNAUDITED) MARCH 31, 1999 10. SUBSEQUENT EVENTS (CONTINUED) ratio, and a maximum debt to capitalization ratio, each as defined in the Amended Agreement. The Company's ability to satisfy these covenants is dependent on its ability to substantially achieve its operating plan. The Company will continue to select interest rates on the outstanding borrowings based on the bank's prime rate or LIBOR rates, however, the interest rates range from the bank's prime rate to the bank's prime rate plus 1.50% or LIBOR plus 1.88% to LIBOR plus 3.25% depending on the attainment of a financial covenant, as defined, in the Amended Agreement. 12 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS The Company reports the results of operations by the following four segments: Waste-to-Energy, Residential Recycling, Commercial Recycling and Finished Products. REVENUES Consolidated revenue for the three months ended March 31, 1999, compared with the same period in 1998, increased approximately $28.3 million or 74.6%. WASTE-TO-ENERGY SEGMENT Revenues in the waste-to-energy segment derive primarily from waste processing and electric power sales. In the first quarter of 1999, compared to 1998, total tons received by Maine Energy decreased by 8.4% and by Penobscot decreased by 3.0%. The decreases at Maine Energy was due to lower production as a result of repairs to the primary processing equipment. The decrease at Penobscot was the result of the annual scheduled plant shutdown in January 1999. In 1998, Penobscot's scheduled shutdown occurred in the second quarter. Total revenues for this business unit were approximately $23.5 million for the three months ended March 31, 1999, compared to approximately $17.5 million for the same period in 1998. This represents an increase of approximately $6.0 million or 34.7% for the three months ended March 31, 1999 as compared to the same period in 1998. Waste processing revenues in the three months ended March 31, 1999 increased by approximately $3.2 million or 44.1%. This revenue increase is a result of an approximately 26.4% increase in the price charged per ton in the three months ended March 31, 1999 compared to the same period in 1998, as well as additional revenues from the acquisition of Total Waste Management, Russell Stull, KTI Recycling of Canada and AFA Group. The increases from the acquisitions were offset by reductions at KTI BioFuels due to the elimination of brokerage operations on March 31, 1998. Electric power revenues for the three months ended March 31, 1999 increased approximately $0.7 million or 7.1% over the same period in 1998. The increase in revenues resulted from a combination of the acquisition of Multitrade offset by lower kilowatt hours at Maine Energy due to lower production discussed above and increased customer rebates during 1999. RESIDENTIAL RECYCLING SEGMENT This segment includes the residential recycling plants of FCR which posted revenues of approximately $9.1 million for the three months ended March 31, 1999. There were no revenues from this segment for the same period in 1998 because the acquisition was completed in the third quarter of 1998. COMMERCIAL RECYCLING SEGMENT The commercial recycling segment had total revenue for the three months ended March 31, 1999 of approximately $21.1 million compared to $18.7 million for the same period in 1998. This represents an increase in sales of approximately $2.4 million as compared to the same period in 1998. This increase is primarily the result of the acquisition of KTI New Jersey Fibers, Inc. that was completed in the third quarter of 1998. These increases were partially offset by lower commodity prices for paper fibers and lower volumes at the commercial processing plants in the three months ended March 31, 1999. FINISHED PRODUCTS SEGMENT Total revenue for this segment for the three months ended March 31, 1999 was approximately $12.3 million compared to approximately $1.7 million for the same period in 1998. This represents and increase of approximately $10.6 million. The increase in revenues is primarily the result of acquisitions discussed above which were partially offset by lower revenues at Manner due to decreases in plastic prices in 1999. 13 COST AND EXPENSES WASTE-TO-ENERGY SEGMENT Cost of operations in this segment consists primarily of electric power and waste handling. Operating costs were approximately $17.0 million during the three months ended March 31, 1999, compared to approximately $11.7 million during the same period in 1998. This is an increase of approximately $5.3 million or 45.7%. The increase was primarily the result of the acquisitions of Total Waste Management, Russell Stull, Multitrade, KTI Recycling of Canada and AFA Group, where the total costs of operations were approximately $2.9 million. In addition, Penobscot's operating costs increased by approximately $1.8 million due to the costs associated with the planned shutdown and in increased performance credits as a result of the revised power purchase agreement and waste disposal agreements. These increases were offset by decreases in Timber Energy Resources' operating costs that resulted from an increase in the supply of tipping fee based materials which reduces fuel costs and eliminates the costs associated with the brokerage sales discussed above at KTI BioFuels. RESIDENTIAL RECYCLING SEGMENT Cost of operations in this segment was approximately $8.5 million for the first three months of 1999. There were no cost of operations for the same period in 1998 because the acquisition of FCR was completed in the third quarter of 1998. COMMERCIAL RECYCLING SEGMENT Cost of operations in this segment for the three months ended March 31, 1999 were approximately $20.8 million in 1999 compared to approximately $18.0 million in 1998. This is an increase of approximately $2.8 million compared to the same period in 1998. This increase is primarily due to the acquisition of KTI New Jersey Fibers in August 1998 and was offset by lower purchase prices that were caused by lower commodity prices and lower volumes at the commercial processing plants. FINISHED PRODUCTS Cost of operations in this segment for the three months ended March 31, 1999 were approximately $11.6 million compared to approximately $1.5 million in 1998. The increase was primarily a result of the acquisitions discussed above and was partially offset by lower purchase prices at Manner that was due to decreases in plastics prices in 1999. OTHER ITEMS Selling, general and administrative expenses increased by approximately $2.4 million during the first three months of 1999 compared to the first three months of 1998. The increase is a result of selling, general and administrative costs added through acquisitions throughout 1998 and the addition of administrative staff to develop and install corporate-wide information systems; to develop and support a formal strategic planning and budgeting process; to support company wide credit and collection efforts; to identify and pursue potential mergers and acquisitions; and to develop internal analytical systems to identify revenue enhancement and cost savings programs in newly acquired entities. Interest expenses increased approximately $2.2 million or 147.3% during the first three months of 1999 compared to the same period in 1998. These increases are related principally to increased borrowings on our line of credit used to fund acquisitions, incremental interest expenses on debt assumed as part of these acquisitions and the conversion of the Series B Preferred Stock to convertible debt. These increases were partially offset by lower interest rates at Penobscot as a result of the refinancing of the bonds payable and lower debt levels at Maine Energy. 14 The income tax provision was approximately $0.9 million during the first three months of 1999 compared to approximately $1.3 million in the first three months of 1998. During the first quarter of 1999, the effective tax rate of 46.0% utilized by KTI represents the estimated annual effective rate based on the total estimated pretax income of KTI for the year ended December 31, 1999. The effective rate in the first quarter of 1998 was 40.3%. The increase in the effective rate in 1999 is primarily a result of higher amounts of nondeductible goodwill. The cumulative effect of a change in accounting principle represents a change in our method of accounting for start-up costs. The change involves expensing these costs as incurred, rather than capitalizing and subsequently amortizing them. 15 LIQUIDITY AND CAPITAL RESOURCES We are a holding company and receive a portion of the cash flows of our subsidiaries. Receipt of cash flow from Penobscot is currently restricted by covenants under loan agreements, distribution restrictions under partnership agreements with Penobscot's equity investors, and put-or-pay agreements with municipalities. Maine Energy's cash flow is required to retire the remaining outstanding subordinated debt balance of approximately $11.5 million as of March 31, 1999 before partners' cash distribution can begin (approximately $7.6 million of these notes are owned by KTI). Timber Energy Resources' cash flow is restricted by covenants under its bond agreements. As a result, the following discussion is organized to present liquidity and capital resources of KTI separate from Maine Energy, Penobscot and Timber Energy Resources and liquidity and capital resource of each of Maine Energy, Penobscot and Timber Energy Resources independently. We operate in industries that require high levels of capital investment. Our capital requirements basically stem from (i) our working capital for ongoing operations, (ii) capital expenditures for new plants and equipment and (iii) business acquisitions. Our strategy has been to meet these capital needs from internally generated funds that are not contractually restricted, drawings under our lines of credit, collateralized equipment financing and proceeds from the sale of our common stock. 16 On July 10, 1998, we closed on a $150.0 million acquisition credit line from KeyBank. We can use this line of credit for acquisitions, capital expenditures and working capital. As of December 31, 1998 and March 31, 1999, we were not in compliance with one of the covenants of the agreement with KeyBank. We received a waiver of this covenant before December 31, 1998 and on May 12, 1999, we signed an amendment to the agreement with KeyBank amending the covenants. We believe that we will remain in compliance with the covenants in the amended agreement. Our ability to remain in compliance is dependent on our ability to achieve our operating plan; however, we cannot give any assurances in this regard. As of March 31, 1999, we had working capital of approximately $50.4 million (ratio of current assets to current liabilities of 2.11:1) and a cash balance of approximately $7.8 million which compared to working capital of approximately $42.9 million (a ratio of current assets to current liabilities of 2.03:1) and a cash balance of approximately $9.4 million at December 31, 1998. As of March 31, 1999, we had working capital and cash on hand without regard to Maine Energy, Penobscot and Timber Energy Resources of approximately $19.9 million (a ratio of current assets to current liabilities of 1.55:1) and approximately $3.2 million, respectively, which compared to working capital of approximately $13.9 million (a ratio of current assets to current liabilities of 1.41:1) and a cash balance of approximately $3.9 million at December 31, 1998. As of March 31, 1999, we had approximately $22,000 available under the revolving credit agreement. Though we believe that cash flows from our subsidiaries will meet our current needs for working capital and capital expenditures, our ability to expand current operations is dependent on cash flow from our subsidiaries. We believe that KTI has the ability to access additional facilities to fund capital expenditures if needed; although no assurance can be given in this regard. Our ability to make future acquisitions depends on our ability to increase our line of credit. Our ability to increase the line of credit is dependent on our ability to raise additional equity or raise capital from financial instruments that are subordinated to the KeyBank credit line. We believe that we have the ability to raise additional capital if needed; however, there can be no assurance that this can be accomplished at terms and conditions that would be acceptable to us. As of March 31, 1999, we and our subsidiaries, other than Maine Energy, Penobscot and Timber Energy Resources, had current maturities of indebtedness of approximately $7.7 million, including borrowings under revolving credit facilities. During the three months ended March 31, 1999, we, apart from Maine Energy, Penobscot and Timber Energy, increased net borrowings on our lines of credit by approximately $9.8 million, primarily for the refinancing of debt assumed form acquisitions, the funding of business operations and capital expenditures. MAINE ENERGY Maine Energy has financed its operations and capital expenditures from cash flows from operations. Cash provided by operations was approximately $1.1 million for the three months ended March 31, 1999 compared to approximately $1.5 million during the same period in 1998. Maine Energy's capital expenditures were approximately $0.3 million and $0.5 million during the three months ended March 31, 1999 and 1998, respectively. As of March 31, 1999 and December 31, 1998, Maine Energy had operating cash of approximately $1.4 million and $2.4 million, respectively, and as required under the terms of the credit agreement underlying its letter of credit. Maine Energy has on account an additional approximately $6.0 million and $6.0 million, respectively, of reserves to be used under certain circumstances for capital improvements, debt service, operating shortfalls and working capital requirements. As of March 31, 1999, Maine Energy had total indebtedness of approximately $11.5 million. 17 We believe Maine Energy's cash flows from operations and cash resources available will be sufficient to fund anticipated capital expenditures and debt service requirements. Capital expenditures for Maine Energy for the remainder of 1999 are expected to be approximately $0.7 million. PENOBSCOT Penobscot has financed its operations and capital expenditures primarily by cash flow from operations. Cash provided by operations was approximately $1.3 million for the three months ended March 31, 1999 compared to approximately $2.0 million in the same period in 1998. Penobscot's capital expenditures were approximately $0.6 million and $0.1 million during the three months ended March 31, 1999 and 1998, respectively. On June 26, 1998, we completed a major restructuring of the various contracts and obligations of Penobscot, which included refinancing Penobscot's tax exempt bonds. The refinancing was made possible by the sale of approximately $45.0 million in Electric Rate Stabilization Revenue Refunding Bonds issued by Finance Authority of Maine. The proceeds, and certain funds from operations were used to repay the outstanding Revenue Bonds. The interest rate on the bonds rages from 3.75% for one-year bonds to 5.20% for 20-year term bonds. The refinancing will reduce Penobscot's debt service costs while extending its payment obligation over 20 years. As of March 31, 1999, in addition to Penobscot's operating cash of approximately $2.6 million, Penobscot, as required under the terms of the trust indenture governing the FAME Bonds, had on account an additional approximately $15.4 million of cash reserves to be used for capital improvements, debt service, operating shortfalls and working capital requirements. We believe Penobscot's cash flows from operations and cash resources available will be sufficient to fund anticipated capital expenditures and debt service requirements. Penobscot plans capital expenditures for the remainder of 1999 of approximately $1.1 million, which has largely been set aside in the reserve accounts. TIMBER ENERGY RESOURCES Timber Energy Resources has financed its operations and capital expenditures primarily by cash flows from operations. Cash provided by operations was approximately $0.9 million for the three months ended March 31, 1999 compared to approximately $0.8 million during the same period in 1998. Timber Energy Resources' capital expenditures were approximately $132,000 for the three months ended March 31, 1999 compared to approximately $67,000 during the same period in 1998. Timber Energy Resources has two 1997 Industrial Development Revenue Bond issues outstanding that carry interest at a fixed rate of 7% and have annual sinking fund payments due each December 1 with a final payment due December 1, 2002. As of March 31, 1999, Timber Energy Resources had $11.6 million outstanding in 1997 Bonds. As of March 31, 1999 and December 31, 1998, in addition to Timber Energy Resources' operating cash of approximately $0.7 million and $0.8 million, respectively, Timber Energy Resources, as required under the terms of its then-existing debt agreements, had on account approximately $2.9 and $2.1 million, respectively, of reserves to be used under certain circumstances for capital improvements, debt service, operating shortfalls and working capital requirements. We believe Timber Energy Resources' cash flows from operations and cash resources available will be sufficient to fund anticipated capital expenditures and debt service requirements. We expect capital expenditures for Timber Energy Resources for the remainder of 1999 to be approximately $0.3 million. Timber Energy Resources intends to finance the requirements through cash flow from operations. 18 TAX LOSS CARRYFORWARDS At March 31, 1999, we had net operating loss carryforwards of approximately $52.5 million for income tax purposes that expire in years 2002 through 2018 and are subject to the limitations described below. In addition, we have general business credit carryforwards of approximately $0.5 million that expire in the years 1999 through 2006 and alternative minimum tax credit carryforwards of approximately $0.9 million that are not subject to limitation. The Tax Reform Act of 1986 enacted a complex set of rules limiting the potential utilization of net operating loss and tax credit carryforwards in periods following a corporate "ownership change." In general, for federal income tax purposes, an ownership change occurs if the percentage of stock of a loss corporation owned, actually, constructively and, in some cases, deemed, by one or more "5% shareholders" increases by more than fifty (50) percentage points over the lowest percentage of such stock owned during a three-year testing period. During 1994, we had such a change in ownership. As a result of the change, our ability to use our net operating loss carryforwards and general business credits will be limited to approximately $1.2 million of taxable income, or approximately $0.4 million of equivalent credit per year. This limitation may be increased if we recognize a gain on the disposition of an asset that had a fair market value greater than its tax basis on the date of the ownership change. For the acquisition of Timber Energy Resources, FCR and Total Waste Management, we recorded additional net operating loss carryforwards of approximately $25.6 million, $12.5 million and $0.5 million, respectively, which are also subject to a corporate "ownership change". As a result of the change, our ability to use the net operating loss carryforwards related to these entities is limited to approximately $1.0 million, $3.2 million and $0.1 million, respectively, per year. ENVIRONMENTAL CONTINGENCIES While increasing environmental regulation often presents new business opportunities to us and our subsidiaries, it likewise often results in increased operating costs as well. We and our subsidiaries strive to conduct our operations in full compliance with applicable laws and regulations, including environmental rules and regulations. This effort requires programs to promote compliance, such as training employees and customers, purchasing health and safety equipment, and in some cases hiring outside consultants and lawyers. Even with these programs, we believe that in the ordinary course of doing business, companies in the environmental services and waste disposal industry face governmental enforcement proceedings resulting in fines or other sanctions and will likely be required to pay civil penalties or the expend funds for remedial work on waste management facilities. The Telogia, Florida facility is currently in violation of its waste water discharge permit and related reporting obligations. This violation involves the temperature of the water used in the cooling process. KTI has requested a modification of the permit from the Florida Department of Environmental Protection to change the monitoring procedures and to enable KTI to operate in compliance with the permit. KTI and its subsidiaries, and certain of its officers, could be subject to penalties resulting from these violations. As of March 31, 1999, no pending governmental environmental enforcement proceedings exist for which we or any of our subsidiaries believe that potential monetary sanctions will exceed $0.1 million. The possibility always exists that substantial expenditures could result from governmental proceedings, which would have a negative impact on our earnings for a particular reporting period. More importantly, federal, state and local regulators have the power to suspend or revoke permits or licenses needed for the operation of our or our subsidiaries' plants, equipment, and vehicles based on the applicable company's compliance record, and customers may decide not to use a particular disposal facility or do business with a company because of concerns about its compliance record. Suspension of 19 revocation of permits or licenses would negatively impact our business and operations and could have a material adverse impact on our financial results. INFLATION Inflation has had a minimal effect on our operating costs in the past three years. Most of our operating expenses are inflation sensitive, with increases in inflation generally resulting in increased costs of operation. The effect of inflation-driven cost increases on each of our project's overall operating costs is not expected to be greater for such projects than for our competitor's projects. In addition, each of Maine Energy's and Penobscot's contracts and the majority of our residential recycling contracts allow us to increase waste processing fees paid by municipal customers annually based on inflation. YEAR 2000 ISSUE Year 2000 compliance is the ability of computer hardware and software to respond to the problems posed by the fact that computer programs have traditionally been written using two digits rather than four to define the applicable year. As a consequence, unless modified, computer systems will not be able to differentiate between the year 2000 and 1900. Systems must also recognize the year 2000 as a leap year. Failure to address this problem could result in system failures and the generation of erroneous data. This could potentially impact our ability to perform our obligations under long-term contracts, which could result in legal and other liabilities that would have a material adverse effect. We are in the process of contacting our customers and vendors and have received letters from each of our applications vendors stating that the majority of our information technology systems, such as accounting, data processing, plant operations systems and telephone/PBX systems, are Year 2000 compliant. We plan to replace or upgrade these applications with compliant versions by the end of the third quarter of 1999. We have also begun an assessment of our non-information technology systems, such as our security systems and telephones, to determine if they are Year 2000 compliant. We plan to initiate formal communications with the vendors of our remaining non-information technology systems. Based on our assessment to date, we believe that our non-information technology systems will be Year 2000 complaint prior to the Year 2000. We have also begun an assessment of our significant vendors, suppliers, and service providers to determine the extent to which we are vulnerable to those third parties' failure to remediate their own Year 2000 compliance uses. To date, we believe, based on information published or otherwise provided by the third parties, that all of their systems are or will be Year 2000 complaint. We plan to initiate formal communications with significant remaining third parties. Based on our assessment to date, we believe that our significant vendors, suppliers and service providers will be Year 2000 compliant prior to the Year 2000. 20 The following table summarizes the status of our Year 2000 compliance program:
ASSESSMENT REMEDIATION TESTING IMPLEMENTATION -------------- ---------------- ---------------- ------------------- Information Technology.............. 95% Complete 75% Complete 75% Complete 75% Complete Expected Expected Expected completion date, completion date, completion date, September 1999 September 1999 September 1999 Operating Equipment with Embedded Chips or Software.......... 90% Complete 85% Complete 85% Complete 85% Complete Expected Expected Expected completion date completion date completion date June 1999 June 1999 June 1999 3rd Party........................... 80% Complete for 80% Complete for 80% Complete for 80% Complete for system interface system interface system interface system interface 66% Complete for all other material Develop Expected Expected exposures. contingency plans as completion date for completion date for appropriate, June system interface system interface 1999. work, June 1999 work, June 1999 60% Complete Implement Expected contingency plans or completion date for other alternatives as surveying all necessary, August remaining third 1999. parties, June 1999
We have also conducted tests of all of our internal information and non-information technology systems and all of our system interfaces with significant vendors, suppliers and service providers to ensure Year 2000 compliance. All of our accounting and data processing equipment is based on microcomputer hardware and related software. 80% of this equipment has been certified as Year 2000 compliant by the applicable manufacturer or developer. However, we have determined that the plant control systems may contain embedded technology that is not Year 2000 compliant. We have ordered the vendor of the hardware containing the embedded logic boards to replace the hardware that is not Year 2000 compliant with hardware that is Year 2000 compliant. In addition, these systems will be tested during scheduled shutdown periods at the plants during the second and third quarters of 1999. However, despite our efforts to ensure that our internal systems and the systems of our significant vendors, suppliers and service providers are Year 2000 compliant, we cannot guarantee that the failure of certain systems will not have a material adverse effect on us. To date, we have used internal resources to reprogram or replace, test and implement the software and hardware modifications for Year 2000. Our only costs have been the salary costs of our internal staff of four. To date, we have incurred approximately $100,000 (30% expensed and 70% capitalized for new systems and equipment), related to all phases of the Year 2000 project. We estimate that the remaining project costs will be less than $0.1 million for the purchase of new software and hardware and approximately $0.1 million of internal resources. Although we currently expect to be able to complete our Year 2000 compliance program using only internal resources, we cannot guarantee that we be able to do so. The most significant risk identified by us is the inability of the power plants to generate electric power. We have received assurances that the process control systems will be Year 2000 compliant with the installation of new hardware components. We will perform a complete test of the systems during the planned shutdown periods that are to be completed by the end of the third quarter of 1999. In addition, we have developed contingency plans for this risk as well as other internal and external 21 applications which involve manual workarounds, increasing inventories and adjusting staffing strategies. This risk could cause a default under our power purchase agreements with customers or a loss of electric power revenue. We are unable to reasonably estimate the impact of this risk; however, there can be no guarantee that this risk will not have a material adverse effect on us. We also cannot guarantee that we have identified all the significant risks associated with Year 2000 compliance. RECENT ACCOUNTING PRONOUNCEMENTS Recent accounting pronouncements that are not required to be adopted as of March 31, 1999, include the following Statement of Financial Accounting Standards ("SFAS") and the American Institute of Certified Public Accountants Statements of Position ("SOP"): SFAS No. 133, ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES, which we will be required to adopt as of January 1, 2000, establishes standards for derivative instruments including those embedded in other contracts and for hedging activities. The new standard requires us to recognize all derivatives as either assets or liabilities and measure those instruments at fair value. We believe that the adoption of SFAS No. 133 will not have a material impact on our financial statements. SOP 98-1, ACCOUNTING FOR COSTS OF COMPUTER SOFTWARE DEVELOPED OR OBTAINED FOR INTERNAL USE will be required to be adopted by us as of January 1, 2000. Our current policy falls within the guidelines of SOP 98-1. ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURE ABOUT MARKET RISK KTI currently utilizes no material derivative financial instruments which expose it to significant market risk. KTI is exposed to cash flow and fair value risk due to changes in interest rates with respect to its debt. The table below presents principal cash flows and related weighted average interest rates of the KTI's debt at March 31, 1999 by expected maturity dates. Weighted average variable rates are based on forward rates in United States Government Treasury Constant Maturities at March 31, 1998. Forward rates should not be considered a predictor of actual future interest rates. INTEREST RATE SENSITIVITY PRINCIPAL AMOUNT BY EXPECTED MATURITY (IN THOUSANDS)
1999 2000 2001 2002 2003 THEREAFTER FAIR VALUE ------- -------- -------- -------- -------- ----------- ---------- Fixed Rate Debt......... $ 3,943 $ 5,979 $ 5,128 $ 6,772 $ 2,091 $ 49,954 $ 74,436 Average Interest Rate... 6.42% 6.36% 6.92% 6.27% 6.29% 5.06% Variable Rate Debt...... 4,000 $155,762 $ 159,762 Average Interest Rate... 8.86% 8.91%
22 FORWARD LOOKING STATEMENTS All statements contained herein which are not historical facts including but not limited to statements regarding the Company's plans for future cash flow and its uses 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 vary materially is the availability of sufficient capital to finance the Company's business plan and other capital needs on terms satisfactory to the Company. 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 Litigation Reform Act of 1995 and as such speak only as of the date made. 23 PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS Maine Energy is the plaintiff in a suit filed on May 11, 1994 in a Maine state court against United Steel Structures, Inc. under a warranty to recover the costs which were, or will be incurred to replace the roof and walls of the Maine Energy tipping and processing building. The judge in the case entered an order awarding Maine Energy approximately $3.3 million plus interest from May 10, 1994, to the date of the filing of the lawsuit, and court costs. The defendant filed an appeal on December 19, 1997. In February 1999, the appellate court reversed the trial court's verdict in favor of KTI and returned the case to the trial court, which ordered a new trial. Two lawsuits have been filed on September 30, 1997 and March 6, 1998 by Capital Recycling of Connecticut in a Connecticut state court against K-C International, certain officers of K-C International and other parties. The suits allege fraud, tortious interference with business expectancy and violations of the Connecticut Unfair Trade Practices Act. The actions are based on two contracts between Capital and K-C International. The contracts require all disputes to be resolved by arbitration in Portland, Oregon. Pursuant to this requirement, K-C International has initiated the arbitration process on November 6, 1997 in Portland, Oregon. Subsequently, the parties agreed to arbitrate the dispute in Hartford, Connecticut. Discovery is now in process and the parties are currently attempting to mediate the dispute before going to arbitration. The plaintiffs are seeking approximately $1.9 million in damages. KTI believe it has meritorious defenses to these claims. If, however, the damages claimed by the plaintiffs are awarded, KTI's business, financial condition and results of operations could be materially adversely affected. The Equal Employment Opportunity Commission filed a lawsuit on September 30, 1998 against FCR Tennessee, Inc. in the U.S. District Court for the Western District of Tennessee, Western Division, alleging sexual harassment by two managers and a sexually hostile work environment. The complainants seek compensation for past and future pecuniary and non-pecuniary losses as well as punitive damages and potential reinstatement of employment for Valerie L. Jacobs. FCR has retained counsel to defend this suit and has reported the lawsuit to FCR's Directors and Officers insurance carrier. Management is currently reviewing the lawsuit. The plaintiffs have demanded $105,000 and the Company has offered $30,000 in settlement. No agreement on settlement has been reached. KTI's insurance carrier has agreed to defend the case. On April 1, 1999, William F. Kaiser, a former Executive Vice President and Treasurer of KTI, filed a lawsuit against the Company in the U.S. District Court for the District of New Jersey. The suit alleges breach of contract, wrongful termination, breach of the implied covenant of good faith and fair dealing, misrepresentation of employment terms and failure to pay wages, all arising out of Mr. Kaiser's employment agreement with the Company. The suit also alleges that the Company inaccurately reported its financial results for the first quarter of 1998 and failed to properly disclose the change of control provision in Mr. Kaiser's employment agreement. Mr. Kaiser is seeking a declaratory judgment that, upon closing of the merger, the change of control provision entitles him to receive a severance payment of two years' salary, in the amount of $320,000 and to exercise 132,000 unvested options for KTI common stock. Mr. Kaiser is also seeking damages in the amount of $40,000 for an additional severance payment, as well as undisclosed damages for outstanding salary, bonus and other payments and from his sale of approximately 50,000 shares of KTI common stock resulting from KTI's allegedly inaccurate financial reports. C.H. Lee, a former employee of FCR and a former majority shareholder of Resource Recycling, Inc., instigated arbitration proceedings on April 15, 1999 in Charlotte, North Carolina against KTI, FCR and FCR Plastics, Inc. in connection with the acquisition of Resource Recycling by FCR. Mr. Lee alleges that FCR and FCR Plastics acted to frustrate the "earn-out" provisions of the acquisition agreement and thereby precluded Mr. Lee from receiving, or alternatively, reduced, the sums to which he was entitled under the agreement. He also alleges that FCR and FCR Plastics wrongfully terminated his employment agreement. The claim for arbitration alleges direct charges in excess of $5.0 million and requests punitive damages, treble damages and attorneys fees. KTI, FCR and FCR Plastics responded to the demand, 24 denying liability, and filed a counterclaim for $1.0 million for misrepresentations. KTI believes it has meritorious defenses to these claims. If, however, the damages and charges claimed by Mr. lee are awarded, KTI's business, financial condition and results of operation could be materially adversely affected. On or about April 26, 1999, Salvatore Russo filed an action in the U.S. District Court, District of New Jersey against KTI and two of its principal officers, Ross Pirasteh and Martin J. Sergi, purportedly on behalf of all stockholders who purchased common stock of KTI from May 4, 1998 through and including August 14, 1998. Melanie Miller filed an identical complaint on May 14, 1999. The complaints allege that the defendants made material misrepresentations in KTI's Form 10-Q for the period ended March 31, 1998 in violation of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended, concerning KTI's allowance for doubtful accounts and net income. The plaintiffs are seeking undisclosed damages. KTI believes it has meritorious defenses to the complaint. On June 15, 1999, Mr. Russo and Ms. Miller, together with Fransisco Muncro, Timothy Ryan and Steven Storch, moved to consolidate the two complaints. This motion is currently pending in the District Court of New Jersey. Dennis McDonnell filed a lawsuit dated April 6, 1999 in a Florida state court against U.S. Fiber, Inc., a subsidiary of FCR. Mr. McDonnell, a former employee of U.S. Fiber, seeks a declaratory judgment regarding his rights and obligations under an Employment Non-Competition Agreement and an Employment Agreement that he previously had signed with two corporations that subsequently were merged with and into U.S. Fiber. KTI is defending the suit and believes it has meritorious defenses. On July 1, 1999, Michael P. Kuruc filed a demand for arbitration in Charlotte, North Carolina, seeking approximately $1.0 million for compensation due under an employment agreement that he alleges he has with KTI and losses allegedly suffered in connection with his sale of KTI common stock. KTI believe that it has meritorious defenses and has retained counsel to defend this suit. If, however, the damages claimed by Mr. Kuruc are awarded, KTI's business, financial condition and results of operation could be materially adversely affected. KTI is a defendant in certain other lawsuits alleging various claims incurred in the ordinary course of business, none of which, either individually or in the aggregate, the Company believes are material to its financial condition, results of operations or cash flows. ITEM 2. CHANGES IN SECURITIES Not applicable. ITEM 3. DEFAULTS UPON SENIOR SECURITIES Not applicable. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable ITEM 5. OTHER INFORMATION Not applicable ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits None (b) Reports on Form 8-K 25 Two reports on Form 8-K were filed in the second quarter of 1999. The following is a list of the Forms 8-K filed and the dates thereof. (ii) A Form 8-K was filed on April 16, 1999 reporting that the Company had received notice from Casella Waste Systems, Inc. ("Casella") stating its intention to terminate the Agreement and Plan of Merger with the Company. (i) A Form 8-K was filed on May 12, 1999 reporting that the Company entered into an Amendment to the Agreement and Plan of Merger with Casella in which the KTI shareholders would receive .59 shares of Casella common stock for each share of KTI common stock. The closing is subject to approval by the stockholders of the companies, antitrust clearance and qualifications of the merger as a tax-free pooling of interest. 26 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. KTI, Inc. (Registrant) By: /s/ Martin J. Sergi ------------------------------------------ Name: Martin J. Sergi Title: President By: /s/ Brian J. Noonan ------------------------------------------- Name: Brian J. Noonan Title: Chief Financial Officer (Principal Accounting Officer) Date: October 29, 1999 27 -----END PRIVACY-ENHANCED MESSAGE-----