Back to GetFilings.com
================================================================================
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
------------------------
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 29, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number 0-19594
------------------------
INSURANCE AUTO AUCTIONS, INC.
(Exact name of Registrant as specified in its charter)
ILLINOIS 95-3790111
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
850 EAST ALGONQUIN ROAD, SUITE 100
SCHAUMBURG, ILLINOIS 60173
(847) 839-3939
(Address, including zip code, and telephone number,
including area code, of Registrant's principal executive offices)
------------------------
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock, $0.001
par value
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 by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ X ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). Yes No X
--- ---
The aggregate market value of voting stock (based on the closing price as
reported by the Nasdaq Stock Market(R) ) held by non-affiliates of the
Registrant as of June 28, 2002 was approximately $49,549,169. For purposes of
this disclosure, shares of Common Stock known to be held by persons who own 5%
or more of the shares of outstanding common stock and shares of common stock
held by each officer and director have been excluded in that such persons may be
deemed to be "affiliates" as that term is defined under the Rules and
Regulations of the Act. This determination of affiliate status is not
necessarily conclusive. As of March 15, 2003, the Registrant had outstanding
11,548,719 shares of Common Stock, $0.001 par value.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's Notice of Annual Meeting and Proxy Statement
for the Registrant's Annual Meeting of Shareholders are incorporated herein by
reference in Part III hereof.
================================================================================
PART I
ITEM 1. BUSINESS.
Certain statements in this document contain forward-looking information
that is subject to certain risks, trends and uncertainties that could cause
actual results to differ materially from those projected, expressed, or implied
by such forward-looking information. In some cases, you can identify forward
looking statements by our use of words such as "may, will, should, anticipates,
believes, expects, plans, future, intends, could, estimate, predict, projects,
targeting, potential or contingent," the negative of these terms or other
similar expressions. The Company's actual results could differ materially from
those discussed or implied herein. Factors that could cause or contribute to
such differences include, but are not limited to, those discussed in "Factors
That May Affect Future Results" below and "Management's Discussion and Analysis
of Financial Condition and Results of Operations." Among these risks are:
fluctuations in the actual cash value of salvage vehicles; changes in the market
value of salvage; the quality and quantity of inventory available from
suppliers; the ability to pass through increased towing costs; that vehicle
processing time will improve; legislative or regulatory acts; competition; the
availability of suitable acquisition candidates and greenfield opportunities;
the ability to bring new facilities to expected earnings targets; the dependence
on key insurance company suppliers; the ability of the Company and its outside
consultants to successfully complete the re-design of the Company's information
systems, both in a timely manner and according to costs and operational
specifications; and the level of energy and labor costs.
GENERAL
Insurance Auto Auctions, Inc., together with its subsidiaries
(collectively, the "Company"), provides insurance companies and other vehicle
suppliers cost-effective salvage processing solutions. In an accident, theft or
other claims adjustment process, insurance companies typically take possession
of a vehicle because (i) based on economic and customer service considerations,
the vehicle has been classified as a "total loss" and the insured replacement
value has been paid rather than the cost of repair or (ii) a stolen vehicle is
recovered after the insurance company has settled with the insured. The Company
generally sells these vehicles at live or closed bid auctions on a
competitive-bid basis at one of the Company's facilities.
The Company processes salvage vehicles primarily under three methods:
percentage of sale consignment, fixed fee consignment and purchase agreement.
Under the fixed fee consignment and percentage of sale consignment methods, the
Company sells vehicles on behalf of insurance companies, which continue to own
the vehicles until they are sold to buyers at auction. Under these methods, the
Company generally conducts either live or closed bid auctions of the automotive
salvage in return for agreed upon sales fees. In addition to fees, the Company
generally charges its fixed fee consignment and percentage of sale consignment
vehicle suppliers for various services, including towing and storage. Under the
purchase agreement method, the Company generally purchases vehicles from the
insurance companies upon clearance of title, under financial terms determined by
contract with the insurance company supplier, and then resells these vehicles
for the Company's own account at the Company's auctions. Under all methods of
sale, the Company also charges the buyer of each vehicle various buyer-related
fees.
Prior to 1992, the Company operated almost exclusively using the
purchase agreement system of salvage disposal. Since 1992, the Company has
acquired additional auto salvage pool operations and opened up greenfields in
strategic locations, resulting in a network of 70 sites in 30 states as of March
14, 2003. Most of these businesses operate primarily using the consignment
method of sale. A majority of the vehicles currently processed by the Company
are sold under the percentage of sale and fixed fee consignment arrangements. In
2002, 49% of the vehicles processed by the Company were sold under the
percentage of sale consignment method, 41% were sold under the fixed fee
consignment method, and 10% were sold under the purchase agreement method.
The Company obtains the majority of its supply of vehicles from a large
number of insurance companies and smaller quantities from non-insurance company
suppliers such as rental car companies and non-profit organizations.
Historically, a limited number of insurance companies have accounted for a
substantial portion of the Company's revenues. In 2002, vehicles supplied by the
Company's three largest suppliers accounted for approximately 39% of the
Company's unit sales. The aggregate number of vehicles supplied in 2002 by the
2
Company's three largest suppliers increased from 2001. The largest suppliers,
State Farm Insurance, Farmers Insurance, and Allstate Insurance ("Allstate"),
each accounted for approximately 16%, 14%, and 9%, respectively, of the
Company's 2002 unit sales.
HISTORY
The Company was organized as a California corporation in 1982 under the
name Los Angeles Auto Salvage, Inc. ("LAAS"). In January 1990, all the
outstanding capital stock of LAAS was acquired in a leveraged buyout and, in
October 1991, LAAS changed its name to Insurance Auto Auctions, Inc. The Company
completed its initial public offering in November 1991 and its common stock is
traded on the Nasdaq National Market under the symbol IAAI. In 1997, the Company
reincorporated in the state of Illinois.
PERCENTAGE OF SALE CONSIGNMENT METHOD
In 2002 and 2001, the number of vehicles processed by the Company that
were then sold under the percentage of sale consignment method was approximately
49% and 36%, respectively. Under the percentage of sale consignment method, the
insurance company receives a negotiated percentage of the vehicle selling price.
The percentage of sale consignment method provides suppliers with a potentially
greater upside as the Company's fees are tied to selling prices and, thus, the
salvage supplier has a greater incentive to invest in improvements to salvage
vehicles in order to maximize sales prices. With this method of sale, the
Company acts as an agent for the insurance company. As an agent, the Company
arranges for the salvaged vehicle to be towed to its facility and processes it
for sale. Since the Company never takes ownership of the vehicle, the Company's
revenues per vehicle from consignment sales are received only from these fees
rather than from the revenue from the sale of the vehicle. As a result, revenue
recognized per vehicle under the consignment method of sale is approximately 5%
to 15% of the revenue recognized per vehicle under the purchase agreement
method, where the Company's revenue is principally comprised of the sale price
of the vehicle.
FIXED FEE CONSIGNMENT SALE METHOD
In 2002 and 2001, the number of vehicles processed by the Company that
were then sold under the fixed fee consignment sale method was approximately 41%
and 45%, respectively. Under this sale method, the Company charges fees to the
insurance company supplier for specific services. These fees include a salvage
sales fee plus towing, title processing and storage fees. In this situation, the
Company typically acts as an agent for the insurance company, arranges for the
salvaged vehicle to be towed to its facility and processes it for sale. Since
the Company never takes ownership of the vehicle, the Company's revenues per
vehicle from consignment sales are received only from these fees rather than
from the revenue from the sale of the vehicle. As a result, revenue recognized
per vehicle under the consignment method of sale is approximately 5% to 15% of
the revenue recognized per vehicle under the purchase agreement method, where
the Company's revenue is principally comprised of the sale price of the vehicle.
PURCHASE AGREEMENT METHOD
In 2002 and 2001, the number of vehicles processed by the Company that
were then sold under the purchase agreement method of sale was approximately 10%
and 19%, respectively. Under the purchase agreement method of sale, the Company
is required to purchase, and the insurance company and other non-insurance
company suppliers are required to sell to the Company, virtually all total-loss
and recovered theft vehicles generated by that supplier in a designated
geographic area. The agreements are customized to each supplier's needs, but
typically require the Company to pay a specified percentage of a vehicle's
Actual Cash Value ("ACV" - the estimated pre-accident fair value of the
vehicle), depending on the vehicle's age and certain other conditions, including
whether the vehicle is a total-loss or a recovered theft vehicle. The Company
assumes the risk of market price variation for vehicles sold under a purchase
agreement, and therefore works to enhance the value of purchased vehicles in the
selling process. Because the Company's purchase price is fixed by contract,
changes in ACVs or in the market or auction prices for salvage vehicles have an
impact on the profitability of the sale of vehicles under the purchase agreement
method. Revenue recorded from the sale of a purchase agreement vehicle
represents the actual selling
3
price of the vehicle. Cost of the vehicle is reflected in the vehicle cost line
of cost of sales. In 2002, the Company essentially exited the purchase agreement
method of sale after converting the final few large purchase agreement contracts
to consignment arrangements during the fourth quarter.
SERVICES PROVIDED TO ALL SUPPLIERS
The process of salvage disposition through the Company's system
commences at the first report of loss, or when a stolen vehicle has been
subsequently recovered. An insurance company representative assigns the vehicle
to the Company, either by phone, facsimile or electronically through the
Company's online CSA Today(SM) system.
CSA Today is the Company's proprietary data management system. The
system enables insurance company suppliers to enter vehicle data electronically,
and then track and manage the progress of salvage vehicles throughout the
disposition process in terms of both time and salvage recovery dollars. With
this new, dynamic tool, vehicle providers now have 24-hour access to their
total-loss data. Information provided ranges from the details associated with a
specific total-loss vehicle, to comprehensive management reports for an entire
claims center or geographic region. Additional features of this new utility
include inventory management tools and a powerful new Average Salvage Calculator
that helps customers determine the approximate salvage value of a potential
total-loss vehicle. This tool is helpful to adjusters when evaluating the
"repair" vs. "total" decision. The management tools provided by CSA Today enable
claims personnel to monitor and manage total-loss salvage better than ever
before. CSA Today's daily updates provide the most current and meaningful data
available to the Company's vehicle providers.
The Company also offers a total-loss appraisal system. FastTrack(R)
utilizes an early total-loss recognition system to identify, appraise and move
probable total-loss vehicles sooner than the conventional claims process.
FastTrack cuts through many of the delays typically associated with traditional
claims handling by combining a comprehensive appraisal service with the
Company's salvage service resources. Completed appraisals, including a condition
report and an array of digital images, are electronically transmitted to a
secure, password-protected Web site, providing adjusters with same-day access to
the information via the Internet. The result is faster completion of total-loss
appraisals, significant savings on accrued shop storage and car rental expenses,
and exceptional customer satisfaction.
The Company's FastTow(R) service provides towing services that
guarantee vehicles will be delivered to a Company branch storage facility,
usually within one to two business days of assignment in a designated service
area. When retrieving a vehicle, the FastTow service will also advance, on
behalf of the supplier, any storage and towing charges incurred when towing the
vehicle from the accident scene or recovered theft site to the temporary storage
facility or repair shop. Once these advance towing and storage charges have been
reviewed and verified by the Company, the towing subcontractor generally will
pay the charges on behalf of the Company at time of vehicle pick up and deliver
the vehicle to the predetermined Company auction and storage facility. The rapid
retrieval time and review of advance charges are also intended to increase the
insurance company's net return on salvage.
In order to further minimize vehicle storage charges incurred by
insurance company suppliers at the temporary storage facility or repair shop,
and also to improve service time for the policyholder, the Company and a certain
group of its insurance company suppliers have established vehicle inspection
centers ("VICs") at many of the Company's facilities. A VIC is a temporary
storage and inspection facility located at a Company site that is operated by
the insurance company. Suspected total-loss vehicles are brought directly to the
VIC from the temporary storage facility or repair shop. The insurance company
typically has appraisers stationed on the VIC site in order to expedite the
appraisal process and minimize storage charges at outside sites. If the
insurance company totals the vehicle, it can easily be moved to the Company's
vehicle storage area. If the vehicle is not totaled, it is promptly delivered to
the insurer's selected repair facility. The Company also has the ability to
provide digital images as a service to its customers, electronically displaying
pictures of the damaged cars to insurance adjusters in their offices.
After a totaled vehicle is received at a Company facility, it remains
in storage but cannot be auctioned until transferable title has been submitted
to and processed by the Company. For most vehicles stored at the Company's
facilities, no storage charges accrue for a contractually specified period. The
Company provides management reports to the insurance company suppliers,
including an aging report of vehicles for which title documents have not been
provided. In addition, the Company customarily offers the insurance companies'
staff training for each state's Department of Motor Vehicles ("DMV") document
processing. These services expedite the processing of titles,
4
thereby reducing the time in which suppliers receive their salvage proceeds, in
addition to decreasing their administrative costs and expenses. The Company then
processes the title documents in order to comply with DMV requirements for such
vehicles. This may involve re-registering the vehicle and obtaining a salvage
certificate, after which the Company is entitled to sell the salvage vehicle.
The Company generally holds auctions either every week or bi-weekly in
all of its locations. The auction is either live or sealed bid. Auction lists
can be viewed online on the Company's Internet Web site, where buyers can either
review all vehicles at a location or search for specific vehicles. Vehicles are
marketed at each respective auction site as well as via an online auction list
that allows prospective bidders to preview vehicles prior to the actual auction
event. The Company's Auction Center, at www.iaai-bid.com(SM), is an online,
Internet-based bidding forum to preview and bid on salvage vehicles at all the
Company's facilities throughout the United States. It provides buyers with an
open, competitive bidding environment that reflects the dynamics of the live
salvage vehicle auction. The Auction Center includes such services as
comprehensive auction lists featuring links to digital images of vehicles
available for sale, an "Auto Locator" function that promotes the search for
specific vehicles within the auction system, and special "Flood" or other
catastrophe auction notifications. Higher returns are generally driven by
broader market exposure and increased competitive bidding.
The Company remits payment to the insurance company suppliers within a
contractual time period or shortly after sale of the vehicle and collection from
the buyer. In addition, most insurance company suppliers receive monthly summary
reports of all vehicles processed by the Company. The reports track the
insurance companies' gross return on salvage, net return on salvage, exact
origin, details of storage charges and other useful management data. The Company
also provides many of its suppliers with a quarterly Comprehensive Salvage
Analysis of salvage trends.
OTHER SERVICES
The Company offers its vehicle suppliers a National Salvage Network
that allows insurance company suppliers to assign all their salvage vehicles to
a call center. This call center enables the Company to distribute vehicle
assignments throughout most of the United States, even in markets where the
Company does not currently have a facility, and is designed to minimize the
administrative workload for insurance companies. In certain areas where the
Company does not have a facility, such vehicles are distributed to the Company's
selected ServicePartners(TM).
The Company also offers, through its Specialty Salvage Division,
salvage services for specialty vehicles such as trucks, heavy equipment, farm
equipment, boats, recreational vehicles and classic and exotic cars. Marketing
these vehicles nationwide to specialty buyers provides insurance companies with
the opportunity for better returns on units that typically do not sell for as
much at local salvage pools due to a limited number of local buyers. These
vehicles can be viewed online through the Company's Internet Web site at
www.iaai.com.
The Company also provides certain insurance company suppliers with
anti-theft fraud control programs for vehicle salvage processing. The Company's
CarCrush(R) service helps insurance companies by ensuring that severely damaged
or stripped "high profile" cars are crushed to prevent their vehicle
identification numbers ("VINs") from being used in auto theft. The Company also
provides computerized reporting of vehicle sales to the National Insurance Crime
Bureau ("NICB"). This includes detailed buyer information obtained through the
Company's registration process.
The Company's BidFast(R) service provides insurers with binding bids
for salvage vehicles that historically may have been owner-retained. The return
on such vehicles (owner-retained salvage vehicles) is, many times, measurably
improved for the supplier using this service and enables compliance with many
states' Department of Insurance Regulations. Vehicles purchased under BidFast
are accounted for under the Purchase Agreement method.
GROWTH STRATEGIES
The Company seeks to increase revenues in a profitable manner by
offering to insurance company suppliers a variety of methods of sale (including
fixed fee consignment and percentage of sale consignment) in addition to
5
various other services. Management also strives to expand revenue by (i)
increasing market share at existing sites; (ii) achieving greater market
penetration through acquisitions; (iii) expanding the number of sites; (iv)
developing national/regional supplier agreements; and (v) offering new services
to insurance companies to help reduce the time and cost associated with the
claims process.
Increasing Market Share and Profitability at Existing Sites
The Company's primary strategy for organic growth in its existing
markets is to contract for additional vehicles by promoting better returns on
salvage vehicles and offering a broad selection of services to prospective
suppliers. The expansion of the number of vehicles processed at existing sites
typically makes the Company's auctions more attractive, resulting in increased
buyer participation.
The Company's strategies for increasing profitability at existing sites
include efforts to shift more salvage providers to revenue sharing arrangements,
such as the percentage of sale consignment method. The Company is also promoting
its Run & Drive(R) service in which certain salvage vehicles are driven during
the auction to demonstrate to buyers that the major component parts of a vehicle
still operate. These product offerings are designed to maximize returns for both
the Company and the salvage provider.
Continued Market Penetration Through Acquisitions
Since the Company's initial public offering in November 1991, the
Company has acquired additional salvage pool operations across the United States
to offer better national coverage to its insurance company suppliers. The
Company operates 70 sites in 30 states as of March 14, 2003.
The Company intends to continue to pursue acquisitions of strategically
located salvage pools. Through such acquisitions, it seeks to enhance a
geographically broad-based relationship with key insurance company suppliers, in
addition to offering its specialized salvage services to new insurance companies
and certain non-insurance company suppliers. In pursuing its acquisition
strategy and plans, the Company recognizes that there will be continuing
challenges in effectively and efficiently integrating new facilities into
existing company operations. This will require continued investment in
infrastructure. See "Factors That May Affect Future Results."
New Site and Existing Site Expansion
While the Company expects to continue pursuing growth through
acquisitions, it will also continue to seek growth through the opening of new
sites and the expansion of existing sites in markets where it can leverage
existing relationships with vehicle providers. The opening of new sites offers
advantages in certain markets and capitalizes on regional and national customer
accounts.
Development of National/Regional Supplier Agreements
The Company's expanded geographic base of operations, plus its National
Network, facilitates its strategy of offering its existing and prospective
customers national and regional supplier agreements. These agreements can
provide a more consistent reporting and control function to the Company's
customers, who benefit from a reduction in the number of suppliers through which
they must do business.
Offering of New Services
The Company is actively pursuing opportunities for growth through the
identification and development of new, non-traditional customer-valued services
and business offerings that leverage the Company's current competencies,
geographic presence and assets. The primary focus of these new services is to
provide to the insurance industry new, innovative options and alternatives for
reducing the time and costs associated with processing insurance claims.
Electronic Data Interchange and Electronic Funds Transfer (EDI/EFT)
facilitate faster, more accurate service from assignment and vehicle pickup
through sale and final settlement. EDI helps minimize insurance staff
involvement, lowers error rates and diminishes administrative requirements
through direct communication between the Company's system and the insurance
company's system. EDI/EFT electronically expedites the total-loss
6
recovery process. Reduced manual intervention combined with faster, more
accurate service translates into quicker turnaround on the final settlement.
SurePay(R) is the Company's electronic funds transfer service that
improves the speed and accuracy of the billing and final settlement process by
automatically depositing salvage proceeds directly into the Company's customers'
bank accounts.
MARKETING
The Company's internal sales force is its primary method of marketing
its services to insurance company and non-insurance company salvage suppliers.
These individuals call upon prospective vehicle providers at the national,
regional and local level. Branch Managers also provide support in the form of
day-to-day customer service and addresses customer needs at the local level.
In an effort to generate additional revenues and improve customer
satisfaction, direct mail is also used to communicate services and benefits to
customers. This initiative includes a national quarterly newsletter (OnTrack)
and other local market updates that discuss how the Company addresses specific
customer needs. In addition, the Company participates in a number of local,
regional and national trade show events that further promote the benefits of
conducting business with the Company.
Using historical data supplied by prospective suppliers, the Company
can provide these suppliers with a detailed analysis of their current salvage
returns and a proposal detailing ways in which the Company can improve salvage
returns, reduce administrative costs, and provide proprietary turnkey claims
processing services.
In addition to providing insurance companies and certain non-insurance
company suppliers with a means for disposing of salvage vehicles, the Company
also offers services intended to increase the net amount of salvage sale
proceeds received by the suppliers while also reducing the time required to
receive net proceeds. The Company seeks to become an integral part of its
suppliers' salvage process, and it views such mutually beneficial relationships
as an essential component of its effort to attract and retain suppliers.
The Company also seeks to expand its supply relationships through
recommendations from individual branch offices of an insurance company supplier
to other offices of the same insurance company. The Company believes that its
existing relationships, and the recommendations of branch offices, play a
significant role in its marketing of services to national insurance companies.
Indeed, as the Company has expanded its geographic coverage, it has been able to
market its services to insurance company suppliers offering to handle salvage on
a national basis or within a large geographic area.
The Company sells the majority of its vehicles through live auctions.
The Company maintains databases that currently contain information regarding
over 20,000 registered buyers. No single buyer accounted for more than 10% of
the Company's revenue in 2002, highlighting the diversity of the Company's buyer
base. The Company generally accepts cash, money orders, cashier's checks, wire
transfers and pre-approved checks, at the time in which the vehicle is picked
up. Vehicles are sold "as is" and "where is." In advance of the auction, sales
notices listing the vehicles to be auctioned on a particular day at a particular
location are usually mailed or faxed to the Company's buyers. The notices are
also available online on the Company's Internet Web site. Such notices list the
rules of the auction and details about the vehicle, including its year and make,
the nature of the damage, the status of title and the order of the vehicles in
the auction. Multiple images of certain vehicles are available for review on the
Company's Web site at www.iaai.com.
COMPETITION
Historically, the automotive salvage industry has been highly
fragmented. As a result, the Company faces intense competition for the supply of
salvage vehicles from vehicle suppliers, as well as competition for the
processing of vehicles from other regional salvage pools. These regional salvage
pools generally process vehicles under the fixed fee consignment method and
generally do not offer the full range of services provided by the Company. The
salvage industry has been consolidating, however, and the Company believes its
principal publicly-
7
held competitor is Copart, Inc. ("Copart"). Copart has completed a number of
acquisitions of regional salvage pools and competes with the Company in most of
the Company's geographic markets. Due to the limited number of vehicle
suppliers, competition for salvage vehicles is intense. The Company attempts to
differentiate itself from its competition through the wide range and quality of
services it provides to its insurance customers and buyers. It is also possible
that the Company may encounter further competition in the future from existing
competitors and new market entrants that are significantly larger and have
greater financial and marketing resources. One such competitor is ADESA Impact,
a subsidiary of Allete Inc. During 2001, ADESA acquired Auto Placement Centers,
Inc. ("APC"). APC provides vehicle recovery services with auction facilities in
the Northeast United States. Other potential competitors could include used car
auction companies, providers of claims processing software to insurance
companies, certain salvage buyer groups and insurance companies, some of which
presently supply auto salvage to the Company. While many insurance companies
have abandoned or reduced efforts to sell salvage without the use of service
providers such as the Company, they may in the future decide to dispose of their
salvage. There can be no assurance that the Company will be able to compete
successfully against current or future competitors or that competitive pressures
faced by the Company will not have a material adverse effect on its operating
results and financial condition.
GOVERNMENT REGULATION
The Company's operations are subject to regulation, supervision and
licensing under various federal, state and local statutes, ordinances and
regulations. The acquisition and sale of total-loss and recovered theft vehicles
is regulated by governmental agencies in each of the locations in which the
Company operates. In many of these states, regulations require that the title of
a salvage vehicle be forever "branded" with a salvage notice in order to notify
prospective purchasers of the vehicle's previous salvage status. In addition to
the regulation of sales and acquisitions of vehicles, the Company is also
subject to various local zoning requirements with regard to the location and
operation of its auction and storage facilities. Some state and local
regulations also limit who can purchase salvage vehicles, as well as determine
whether a salvage vehicle can be sold as rebuildable or must be sold for parts
only. Such regulations can reduce the number of potential buyers of vehicles at
Company auctions. The Company is also subject to environmental regulations, and
it believes that it is in material compliance with all applicable regulatory
requirements. The Company will be subject to similar types of regulations by
federal, state and local governmental agencies in new markets and to new
legislation in existing markets.
ENVIRONMENTAL MATTERS
The Company's operations are subject to federal, state and local laws
and regulations governing, among other things, the handling, storage,
transportation and disposal of waste and other materials. The Company believes
that its business, operations and facilities have been and continue to be
operated in compliance in all material respects with applicable environmental
laws and regulations. The Company believes the overall impact of compliance with
laws and regulations protecting the environment will not have a material adverse
effect on its operating results and financial condition, although no assurance
can be given in this regard.
EMPLOYEES
At March 14, 2003, the Company employed 982 full-time persons. The
Company is not subject to any collective bargaining agreements and believes that
its relationship with its employees is good.
INFORMATION AVAILABLE
The Company files annual, quarterly, and current reports, proxy
statements, and other documents with the Securities and Exchange Commission (the
"SEC") under the Securities Exchange Act of 1934 (the "Exchange Act"). The
public may read and copy any materials that the Company files with the SEC at
the SEC's Public Reference Room at 450 Fifth Street, NW, Washington, D.C. 20549.
The public may obtain information on the operation of the Public Reference Room
by calling the SEC at 1-800-SEC-0330. Also, the SEC maintains an Internet
website that contains reports, proxy and information statements, and other
information regarding issuers, including the Company,
8
that file electronically with the SEC. The public can obtain any documents that
the Company files with the SEC at http://www.sec.gov.
The Company also makes available free of charge on or through its
Internet website (http://www.iaai.com) the Company's Annual Report on Form 10-K,
Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and, if applicable,
amendments to those reports filed or furnished pursuant to Section 13(a) of the
Exchange Act as soon as reasonably practicable after the Company electronically
files such materials with, or furnishes it to, the SEC.
FACTORS THAT MAY AFFECT FUTURE RESULTS
The Company operates in a changing environment that involves a number
of risks, some of which are beyond the Company's control. The following
discussion highlights some of these risks.
Quarterly Fluctuations. The Company's operating results have in the
past and may in the future fluctuate significantly depending on a number of
factors, some of which are more significant for sales under the purchase
agreement method. These factors include: fluctuations in ACVs of salvage
vehicles, changes in the market value of salvage vehicles, delays or changes in
state title processing, general weather conditions, changes in regulations
governing the processing of salvage vehicles, the availability and quality of
salvage vehicles and attendance at salvage auctions. The Company is also
dependent upon receiving a sufficient number of total-loss vehicles as well as
recovered theft vehicles to sustain its profit margins. Factors that can affect
the number of vehicles received include: reduction of policy writing by
insurance providers, which would affect the number of claims over a period of
time, and changes in direct repair procedures that would reduce the number of
newer, less damaged total-loss vehicles, which tend to have the higher salvage
values. Additionally in the last few years there has been a declining trend in
theft occurrences. As a result, the Company believes that period-to-period
comparisons of its results of operations are not necessarily meaningful and
should not be relied upon as any indication of future performance. In addition,
revenues for any future quarter are not predictable with any significant degree
of accuracy, while the Company's expense levels are relatively fixed. If revenue
levels are below expectations, operating results are likely to be adversely
affected. Due to all of the foregoing factors, it is likely that in some future
quarters the Company's operating results will be below the expectations of
public market analysts and investors.
Quality and Quantity of Inventory Available from Suppliers. The Company
is dependent upon receiving a sufficient number of total-loss vehicles as well
as recovered theft vehicles to sustain its profit margins. Factors which can
affect the number of salvage vehicles received include the reduction of policy
writing by insurance providers, which would affect the number of claims over a
period of time, and changes in direct repair procedures that would reduce the
number of newer less-damaged total-loss vehicles that tend to have higher
salvage values. The decreases in the quality and quantity of inventory, and in
particular the availability of newer and less-damaged vehicles, are further
aggravated under the purchase agreement method of sale and can have a material
adverse effect on the operating results and financial condition of the Company.
Competition. The Company faces intense competition for the supply of
salvage vehicles as well as competition from processors of vehicles from other
regional salvage pools. Due to the limited number of vehicle suppliers,
competition is intense for salvage vehicles. It is possible that the Company may
encounter further competition from existing competitors and new market entrants
that are significantly larger and have greater financial and marketing
resources. Other potential competitors could include used car auction companies,
providers of claims software to insurance companies, certain salvage buyer
groups and insurance companies, some of which presently supply auto salvage to
the Company. While most insurance companies have abandoned or reduced efforts to
sell salvage without the use of service providers such as the Company, they may
in the future decide to dispose of their salvage directly to end users. There
can be no assurance that the Company will be able to compete successfully
against current or future competitors or that competitive pressures faced by the
Company will not have a material adverse effect on its operating results and
financial condition.
Dependence on Key Insurance Company Suppliers. Historically, a limited
number of insurance companies has accounted for a substantial portion of the
Company's revenues. For example, in 2002, vehicles supplied by the Company's
three largest suppliers accounted for approximately 39% of the Company's unit
sales. The largest suppliers, State Farm Insurance, Farmers Insurance, and
Allstate, each accounted for approximately 16%, 14%, and
9
9%, respectively, of the Company's unit sales. A loss or reduction in the number
of vehicles from any of these suppliers, or adverse change in the agreements
that such suppliers have with the Company, could have a material adverse effect
on the Company's operating results and financial condition.
Purchase Agreement Method. Under the purchase agreement method of sale,
the Company is required to purchase, and the insurance company and other
non-insurance company suppliers are required to sell to the Company, virtually
all total-loss and recovered theft vehicles generated by the supplier in a
designated geographic area. The agreements are customized to each supplier's
needs, but typically require the Company to pay a specified percentage of a
vehicle's Actual Cash Value ("ACV" - the estimated pre-accident fair value of
the vehicle), depending on the vehicle's age and certain other conditions,
including whether the vehicle is a total-loss or a recovered theft vehicle. The
Company assumes the risk of market price variation for vehicles sold under a
purchase agreement, and therefore works to enhance the value of purchased
vehicles in the selling process. Because the Company's purchase price is fixed
by contract, changes in ACVs or in the market or auction prices for salvage
vehicles have an impact on the profitability of the sale of vehicles under the
purchase agreement method. Beginning late in the second quarter of 2000 and
continuing through 2002, purchase agreement profitability was impaired by a
combination of rising ACVs and flat to lower sale prices at auctions in certain
areas of the country. Further increases in ACVs or declines in the market or
auction prices for salvage vehicles could have a material adverse effect on the
Company's operating results and financial condition. Revenue recorded from the
sale of a purchase agreement vehicle is the actual selling price of the vehicle.
In 2002 and 2001, respectively, approximately 10% and 19% of the units processed
by the Company were processed through the purchase agreement method of sale. The
Company expects the purchase agreement method to represent a decreasing
percentage of units sold in future years and ultimately to represent less than 4
percent of total units sold.
Business Process Reengineering Project. During the third quarter 2001,
the Company retained Synergetics Installations Worldwide, a consulting firm
based in New Hampshire, to assist the Company in its process of creating and
applying new standards and best practices in an effort to improve operational
efficiency, standardize processes, and implement tools to measure performance
within critical areas of field operations. The Company completed its best
practices model and rolled out the procedures into all of its branches in the
first half of 2002.
Enterprise-Wide System Redesign Project. The Company retained the
services of SEI Information Technology to develop a new enterprise-wide
application to manage the salvage and auction process. The new Web-based system
will support and streamline vehicle registration and tracking, financial
reporting, transaction settlement, vehicle title transfer, and
branch/headquarters communications. It will speed all aspects of the Company's
operations, support growth and expansion plans, provide improved reliability and
maintainability, and ultimately, deliver increased profits. The estimated cost
of $10 million includes equipment, telecom, training, and implementation along
with the application development. The Company expects to reduce its pre-tax cost
from the Business Process Re-engineering Project and the Enterprise-Wide System
Redesign Project by a minimum of $10 million, and potentially as much as $15
million from the two projects combined. Development of the application and
testing began in the third quarter of 2001. The Company began rolling out the
new system to its branches during the third quarter of 2002. As of March 14,
2003, the Company had implemented the system in 14 of the 28 original databases.
The Company expects to complete the roll-out in 2003. There are, however,
inherent risks associated with both projects that could adversely impact the
Company's expected results with respect to timing, costs and cost savings.
Governmental Regulation. The Company's operations are subject to
regulation, supervision and licensing under various federal, state and local
statutes, ordinances and regulations. The acquisition and sale of totaled and
recovered theft vehicles is regulated by state motor vehicle departments in each
of the locations in which the Company operates. Changes in law or governmental
regulations or interpretations of existing law or regulations can result in
increased costs, reduced salvage vehicle prices and decreased profitability for
the Company. In addition to the regulation of sales and acquisitions of
vehicles, the Company is also subject to various local zoning requirements with
regard to the location of its auction and storage facilities. These zoning
requirements vary from location to location. Failure to comply with present or
future regulations or changes in existing regulations could have a material
adverse effect on the Company's operating results and financial condition.
Provision of Services as a National or Regional Supplier. The provision
of services to insurance company suppliers on a national or regional basis
requires that the Company expend resources and dedicate management to a small
number of individual accounts, resulting in a significant amount of fixed costs.
The development of a referral
10
based national network service, in particular, has required the devotion of
financial resources without immediate reimbursement of such expenses by the
insurance company suppliers.
Expansion and Integration of Facilities. The Company seeks to increase
sales and profitability through acquisition of other salvage auction facilities,
new site expansion and the increase of salvage vehicle volume at existing
facilities. There can be no assurance that the Company will continue to acquire
new facilities or add additional facilities on terms economically favorable to
the Company or that the Company will be able to add additional facilities on
terms economical to the Company or that the Company will be able to increase
revenues at newly acquired facilities above levels realized prior to
acquisition. The Company's ability to achieve these objectives is dependent on,
among other things, the integration of new facilities, and their information
systems, into its existing operations, the identification and lease of suitable
premises, and the availability of capital. There can be no assurance that this
integration will occur, that suitable premises will be identified or that
additional capital will be available to fund expansion and integration of the
Company's business. Any delays or obstacles in this integration process could
have a material adverse effect on the Company's operating results and financial
condition. Furthermore, the Company has limited sources of additional capital
available for acquisitions, expansions and start-ups. The Company's ability to
integrate and expand its facilities will depend on its ability to identify and
obtain additional sources of capital to finance such integration and expansion.
In the future, the Company will be required to continue to improve its financial
and management controls, reporting systems and procedures on a timely basis and
expand, train and manage its employee work force. The failure to improve these
systems on a timely basis and to successfully expand and train the Company's
work force could have a material adverse effect on the Company's operating
results and financial condition.
Volatility of Stock Price. The market price of the Company's common
stock has been and could continue to be subject to significant fluctuations in
response to various factors and events, including variations in the Company's
operating results, the timing and size of acquisitions and facility openings,
the loss of vehicle suppliers or buyers, the announcement of new vehicle supply
agreements by the Company or its competitors, changes in regulations governing
the Company's operations or its vehicle suppliers, environmental problems or
litigation.
Environmental Regulation. The Company's operations are subject to
federal, state and local laws and regulations regarding the protection of the
environment. In the salvage vehicle auction industry, large numbers of wrecked
vehicles are stored at auction facilities for short periods of time. Minor
spills of gasoline, motor oils and other fluids may occur from time to time at
the Company's facilities and may result in soil, surface water or groundwater
contamination. Petroleum products and other hazardous materials are contained in
aboveground or underground storage tanks located at certain of the Company's
facilities. Waste materials such as waste solvents or used oils are generated at
some of the Company's facilities and are disposed of as non-hazardous or
hazardous wastes. The Company believes that it is in compliance in all material
respects with applicable environmental regulations and does not anticipate any
material capital expenditure for environmental compliance or remediation.
Environmental laws and regulations, however, could become more stringent over
time and there can be no assurance that the Company or its operations will not
be subject to significant compliance costs in the future. To date, the Company
has not incurred expenditures for preventive or remedial action with respect to
contamination or the use of hazardous materials that have had a material adverse
effect on the Company's operating results or financial condition. The
contamination that could occur at the Company's facilities and the potential
contamination by previous users of certain acquired facilities create the risk,
however, that the Company could incur substantial expenditures for preventive or
remedial action, as well as potential liability arising as a consequence of
hazardous material contamination, which could have a material adverse effect on
the Company's operating results and financial condition.
ITEM 2. PROPERTIES.
The Company's principal administrative, sales, marketing and support
functions are located in Schaumburg, Illinois. The lease on the office space in
Schaumburg expires June 30, 2004. The Company and its subsidiaries also lease
approximately 63 properties in Alabama, Arkansas, Arizona, California,
Connecticut, Florida, Georgia, Hawaii, Idaho, Illinois, Kansas, Louisiana,
Maryland, Massachusetts, Michigan, Minnesota, Missouri, Nebraska, New Jersey,
New York, North Carolina, Oregon, Pennsylvania, South Carolina, Texas, Virginia,
Washington and Wisconsin. The Company owns 9 properties located in Illinois,
Kansas, Massachusetts, Michigan, New Mexico, Oklahoma and Texas. All of these
properties are used primarily for auction and storage purposes. Management
11
believes that the Company's properties are adequate for its current needs and
that suitable additional space will be available as required.
ITEM 3. LEGAL PROCEEDINGS.
The Company is party to a number of lawsuits arising in the normal
course of its business. The Company does not believe that any pending litigation
will have a material adverse effect on its consolidated financial position.
On February 3, 2003, the Company filed a lawsuit in Sacramento,
California, against Emery Air Freight, Tennessee Technical Services, and Bob and
Corrine Spence. The lawsuit seeks to recover damages caused by the crash of an
Emery DC-8 aircraft onto the Company's Rancho Cordova, California facility on
February 16, 2000. The aircraft was destroyed, and the three crew members aboard
the aircraft were killed. The crash and the resulting release of jet fuel and
fire destroyed a significant part of the Company's facility and contaminated it
with ash, hydrocarbon, lead and other toxic materials. Emery refused to clean up
the contamination, and the Company was required to do so. The Company suffered
more than $3.0 million in inventory loss, clean-up and remediation costs,
business interruption losses, legal and consulting fees, and other losses,
costs, and expenses. In its lawsuit, the Company seeks to recover from Emery and
Tennessee Technical Services for negligence, trespass, and negligent maintenance
of the aircraft. Alternatively, the Company seeks to recover from the Spences
for breach of provisions in the Company's lease requiring the landlord to either
pay for or share the cost of remediation of hazardous wastes. The Company
maintained insurance policies that covered a significant portion of its losses.
The Company's insurer, Reliance, paid almost $1.0 million on the Company's lost
inventory claims. However, in October 2001, the Pennsylvania Insurance
Commissioner put Reliance into reorganization, a petition in bankruptcy was
filed, and it appears unlikely that Reliance will make any further payments to
the Company. The Company has filed claims with the California Insurance
Guarantee Association, which provides coverage for California property losses
insured by an admitted insurer that is unable to pay covered claims. The
Association has refused to pay the Company's claims and has taken the position
that its liability to the Company is limited to $0.5 million. The Company
anticipates that it will incur substantial legal fees and costs in its efforts
to recover its losses, and there is no guarantee that the Company will be
successful.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted to a vote of security holders during the
fourth quarter ended December 29, 2002.
12
PART II
ITEM 5. MARKET FOR COMPANY'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS.
The Company's Common Stock is traded on The Nasdaq National Market
under the symbol IAAI. The following table sets forth the range of high and low
per share sales information, available on Nasdaq Online(SM) for each quarter of
2002 and 2001. At March 14, 2003, the Company had 280 holders of record of its
Common Stock, approximately 1,303 beneficial owners and 11,548,719 shares
outstanding.
FISCAL 2002 FISCAL 2001
----------- -----------
HIGH LOW HIGH LOW
---- --- ---- ---
First Quarter $17.33 $14.30 $14.25 $ 9.00
Second Quarter 22.38 16.53 17.00 11.75
Third Quarter 20.36 14.51 16.55 11.70
Fourth Quarter 18.35 14.63 16.05 10.76
The Company has never declared or paid any cash dividends on its common
stock and does not anticipate paying any cash dividends in the foreseeable
future. The Company currently intends to retain any future earnings to finance
the growth and development of its business. In addition, the Company's new
financing agreement limits the Company's ability to pay cash dividends.
ITEM 6. SELECTED FINANCIAL DATA.
The tables below summarize the selected consolidated financial data of
the Company as of and for each of the last five fiscal years. This selected
financial information should be read in conjunction with the Company's
Consolidated Financial Statements and Notes thereto and "Management's Discussion
and Analysis of Financial Condition and Results of Operations" included
elsewhere in this report. The statement of earnings data for 2002, 2001 and 2000
and the balance sheet data as of December 29, 2002 and December 30, 2001 below
have been derived from the Company's Consolidated Financial Statements that have
been audited by KPMG LLP, independent certified public accountants, whose report
is included herein. The statement of earnings data for 1999 and 1998 and the
balance sheet data for 2000, 1999 and 1998 are derived from audited consolidated
financial statements not included herein.
2002 2001 2000 1999 1998
--------- --------- --------- --------- ---------
(in thousands except per share amounts)
Selected Statement of Earnings Data:
Revenue $ 234,197 $ 292,990 $ 333,176 $ 317,391 $ 287,063
Earnings (loss) from operations(1) 7,426 (5,209) 17,894 23,904 14,081
Net earnings (loss) 4,008 (4,360) 10,489 13,705 7,181
Earnings (loss) per share - diluted .32 (.37) .88 1.18 .63
Weighted average common
shares - diluted 12,531 11,940 11,950 11,623 11,437
13
2002 2001 2000 1999 1998
-------- -------- -------- -------- --------
(in thousands)
Selected Balance Sheet Data:
Working capital $ 23,787 $ 25,286 $ 53,204 $ 46,989 $ 26,593
Total assets 259,650 278,204 265,707 248,132 227,543
Long-term debt, excluding
current installments 59 103 20,141 20,180 20,315
Total shareholders' equity $194,102 188,994 187,741 175,286 158,755
(1) Amount is after special charges of $8.0 million, $4.8 million, and
$1.6 million in 2001, 2000 and 1998, respectively.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The discussion in this section contains forward-looking information that is
subject to certain risks, trends and uncertainties that could cause actual
results to differ materially from those projected, expressed, or implied by such
forward-looking information. In some cases, you can identify forward-looking
statements by our use of words such as "may, will, should, anticipates,
believes, expects, plans, future, intends, could, estimate, predict, projects,
targeting, potential or contingent," the negative of these terms or other
similar expressions. The Company's actual results could differ materially from
those discussed or implied herein. Factors that could cause or contribute to
such differences include, but are not limited to, those discussed in "Factors
That May Affect Future Results" above. Among these risks are: fluctuations in
the actual cash value of salvage vehicles; changes in the market value of
salvage; the quality and quantity of inventory available from suppliers; the
ability to pass through increased towing costs; that vehicle processing time
will improve; legislative or regulatory acts; competition; the availability of
suitable acquisition candidates and greenfield opportunities; the ability to
bring new facilities to expected earnings targets; the dependence on key
insurance company suppliers; the ability of the Company and its outside
consultants to successfully complete the re-design of the Company's information
systems, both in a timely manner and according to costs and operational
specifications; and the level of energy and labor costs.
OVERVIEW
Insurance Auto Auctions, Inc. provides insurance companies and other
vehicle suppliers cost-effective salvage processing solutions principally on a
consignment or purchase agreement method of sale. The consignment method
includes both a percentage of sale and fixed fee basis. The percentage of sale
consignment method offers potentially increased profits over fixed fee
consignment by providing incentives to both the Company and the salvage provider
to invest in vehicle enhancements, thereby, maximizing vehicle selling prices.
Under the percentage of sale and fixed fee consignment methods, the vehicle is
not owned by the Company and only the fees associated with processing the
vehicle are recorded as revenue. The proceeds from the sale of the vehicle
itself are not included in revenue. Under the purchase agreement sales method,
the vehicle is owned by the Company, and the proceeds from the sale of the
vehicle are recorded as revenue.
The Company's operating results are subject to fluctuations, including
quarterly fluctuations, that can result from a number of factors, some of which
are more significant for sales under the purchase agreement method. Refer to the
section "Factors That May Affect Future Results" for a further discussion of
some of the factors that affect or could affect the Company's business,
operating results and financial condition.
14
ACQUISITIONS AND NEW OPERATIONS
Since its initial public offering in 1991, the Company has grown
through a series of acquisitions and opening of new sites to include 70 sites as
of March 14, 2003. In 2002, the Company announced the acquisition of Southern
Missouri Insurance Pool in Springfield, Missouri. The acquisition was accounted
for using the purchase method of accounting. The Company opened new operations
in fiscal 2002 in Oklahoma City, Oklahoma; Duluth, Minnesota and Baton Rouge,
Louisiana. In the first two months of 2003, the Company acquired two branches in
Buffalo and Rochester, New York and also opened new operations in Dothan,
Alabama and Little Rock, Arkansas.
RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 29, 2002 COMPARED TO THE YEAR ENDED DECEMBER 30, 2001
Revenues decreased 20% to $234.2 million for the year ended December
29, 2002, from $293.0 million in 2001. The decline in revenues is primarily due
to the Company's continued shift away from vehicles sold under the purchase
agreement method. Under the purchase agreement method, the entire purchase price
of the vehicle is recorded as revenue compared to only recording the fees
collected on the sale of a vehicle under the lower risk consignment fee based
arrangements. Vehicles sold under the purchase agreement method accounted for
less than 10% of the total vehicles sold in 2002, versus approximately 19% in
2001. Fee income for 2002 increased 5% to $162.8 million versus $154.6 million
in 2001. Fee income increased due to both unit volume and price increases during
the year. Gross proceeds from the sale of salvage vehicles at auction were
$739.8 million during the year ended December 29, 2002, an increase of $64.0
million, or 9% over the same period last year.
Cost of sales decreased $63.6 million to $191.0 million for the year
ended December 29, 2002, versus $254.6 million for last year. Vehicle cost of
$65.5 million is $66.2 million less than last year's amount of $131.7 million.
This decrease is primarily related to the Company's shift away from vehicles
sold under the purchase agreement method. Branch cost of $125.5 million for 2002
increased $2.9 million from $122.9 million for last year. New branches opened in
2002 account for approximately $4.0 million of additional branch costs.
Excluding the impact of new branches, branch costs decreased $1.1 million
primarily in tow, auction and yard costs.
In 2001, the Company recorded an unusual charge of $1.2 million for
losses on vehicles under terminated agreements and still in inventory at the end
of the year. This amount was included within cost of sales for fiscal 2001.
During 2002, the entire $1.2 million allowance was absorbed to offset losses
relating to these vehicles, all of which were sold in 2002.
Gross profit of $43.2 million for the year ended December 29, 2002
increased $4.8 million or 12%, from $38.4 million for 2001.
Selling, general and administrative expense of $27.4 million for 2002
is slightly less than the expense of $28.1 million in 2001. This decrease is the
result of lower information services and general overhead expenses.
Amortization of intangible assets decreased significantly from $4.1
million in 2001 to $0.3 million in the current year. See Note 2 of the notes to
consolidated financial statements included herein for further discussion of this
change.
Business transformation costs for the year ended December 29, 2002 were
$8.1 million versus $3.5 million for last year. Business transformation costs
include expenses related to the systems redesign project, the business process
re-engineering project, severance costs and accelerated depreciation associated
with the Company's existing computer infrastructure. The Company began recording
business transformation costs during the second quarter of 2001. As part of its
substantial business transformation, the Company is providing visibility to
several significant components of its cost structure. Business transformation
costs and other unusual charges are discussed in detail in "Unusual Charges"
below.
Interest expense of $0.7 million for the year ended December 29, 2002,
decreased $1.1 million from 2001. Included in interest expense for 2002 was a
non-cash charge of $0.3 million to recognize the ongoing cost of the interest
rate swap on the Company's unused credit facility. In February 2002, the Company
used excess cash and
15
proceeds from investments to repay its $20.0 million 8.6% Senior Notes that
matured on February 15, 2002 and entered into a new $30.0 million five-year
unsecured credit facility. At December 29, 2002, there was no outstanding
balance related to this credit facility.
Income tax expense for the year 2002 of $3.0 million increased $4.6
million from the income tax benefit of $1.6 million for 2001. The Company's
effective tax rate for the years 2002 and 2001 was 43% and 27%, respectively.
The Company's net earnings for the year 2002 was $4.0 million, an
increase of $8.4 million from a $4.4 million loss for the fiscal year 2001.
Gross proceeds from vehicle sales for the year 2002 of $739.8 million
increased $64.0 million from the prior year. The increase was a result of higher
volumes and improved pricing.
YEAR ENDED DECEMBER 30, 2001 COMPARED TO THE YEAR ENDED DECEMBER 31, 2000
Revenues decreased to $293.0 million for the year ended December 30,
2001, from $333.2 million in 2000, a 12% decrease. This decline in revenues was
primarily a result of reduced volume under the purchase agreement method of
sale. Purchase agreement volume decreased from 26% of the total vehicles sold in
2000 to 19% of the total vehicles sold in 2001. Revenue from vehicle sales of
$138.4 million in fiscal 2001 decreased $62.5 million from $200.9 million in
fiscal 2000. This decrease in revenue was partially offset by an increase in
revenue related to salvage provider and buyer fees. Total volume increased
slightly from 2000. Combined with unit volume and price increases, the
conversion of contracts to consignment arrangements and the resulting change in
contract mix contributed to a significant increase in fees for fiscal 2001.
Revenue associated with fees increased $22.3 million in 2001 to $154.6 million
versus $132.3 million in 2000. Gross proceeds from the sale of salvage vehicles
at auction were $675.8 million for 2001, an increase of $2.9 million over the
previous year amount of $672.9 million.
Cost of sales decreased $31.6 million to $254.6 million for the year
ended December 30, 2001, versus $286.2 million for last year. Vehicle cost of
$131.7 million is $51.7 million less than last year's amount of $183.4 million.
This decrease is primarily related to the Company's shift away from vehicles
sold under the purchase agreement method. Branch cost of $122.9 million in 2001
increased $20.1 million from $102.8 million for 2000. This increase, occurring
primarily in the first half of the year, is the result of incremental variable
cost associated with higher unit volumes along with operating costs related to
new branch facilities.
Gross profit decreased 18% to $38.4 million for the year ended December
30, 2001, from $47.0 million for the year ended December 31, 2000.
Selling, general and administrative expense of $28.2 million for 2001
increased $7.7 million from the 2000 amount of $20.4 million. This overall
increase is the result of increased expenses in sales and marketing, information
services and general overhead expense.
Amortization of intangible assets increased slightly from $3.9 million
in 2000 to $4.1 million in 2001.
Business transformation costs for the year ended December 30, 2001 were
$3.5 million. Business transformation costs include expenses related to the
systems redesign project, the business process re-engineering project, severance
costs and accelerated depreciation associated with the Company's existing
computer infrastructure. The Company began recording business transformation
costs during the second quarter of 2001. As part of its substantial business
transformation, the Company is providing visibility to several significant
components of its cost structure. Business transformation costs and other
unusual charges are discussed in detail in "Unusual Charges" below.
Interest expense for the year ended December 30, 2001, remained
unchanged from the $1.8 million in 2000. Interest income decreased to $1.0
million for the year ended December 30, 2001, from $1.7 million in 2000. This
reduction in interest income reflects lower levels of amounts invested
throughout the year in addition to slightly lower interest rates.
16
Gross proceeds from vehicle sales for the year 2001 of $675.8 million
increased slightly from the prior year results of $672.9 million.
Income tax benefit for the year 2001 of $1.6 million decreased $8.9
million from the income tax expense of $7.3 million for 2000. The Company's
effective tax rate for the years 2001 and 2000 was 27% and 41%, respectively.
The Company's net loss for the year 2001 was $4.4 million, a decrease
of $14.9 million from $10.5 million of earnings for the fiscal year 2000.
UNUSUAL CHARGES
Unusual charges were recorded by the Company in 2002, 2001 and 2000. In
addition, the Company recorded amortization of goodwill in both 2001 and 2000,
which ceased in 2002. The unusual charges and amortization impacted earnings
from operations and net earnings (loss) as follows (in thousands):
2002 2001 2000
-------- -------- --------
Provision for losses on vehicles purchased
under terminated agreements
(included in cost of sales)(a) $ - $ 1,248 $ -
Business transformation costs (b) 8,067 3,451 -
Special charges (c) - 8,016 4,772
-------- -------- --------
Unusual charges 8,067 12,715 4,772
Amortization of intangible assets (d) 307 4,055 3,942
-------- -------- --------
Impact on earnings (loss) from
operations 8,374 16,770 8,714
Tax benefits relating to above items 3,601 4,528 3,573
-------- -------- --------
Impact on net earnings (loss) $ 4,773 $ 12,242 $ 5,141
======== ======== ========
Net earnings (loss) as reported $ 4,008 $ (4,360) $ 10,489
======== ======== ========
Net earnings excluding above items $ 8,781 $ 7,882 $ 15,630
======== ======== ========
(a) The Company successfully transitioned several large purchase agreement
customers to consignment-based contracts. At the end of 2001, the Company
recorded a provision of $1.2 million for anticipated losses on vehicles
remaining to be sold under the old agreements.
(b) Business transformation costs include expenses relating to the systems
redesign project, the business process re-engineering project, severance
costs and accelerated depreciation pertaining to the Company's existing
computer infrastructure.
(c) Special charges recorded during 2001 include: (1) $2.0 million for
involuntary severance costs; (2) $2.5 million for abandonment of facilities
including cancellation of a planned headquarters expansion; (3) $1.1
million for repositioning the Company's towing operations and other
restructuring charges; (4) the write-off of $1.4 million of unamortized
leasehold improvements due to changes in the estimated useful lives of
specific assets; and (5) a $1.0 million write-off of amounts due from the
Company's previous insurance carrier, which was placed in liquidation.
Special charges recorded in 2000 included $3.0 million resulting from the
abandonment or disposal of computer hardware and software, $1.2 million to
cover expenses resulting from a plane crash at a Company facility in
California, and other charges of $0.6 million.
(d) Intangible assets, primarily goodwill which was recorded in connection with
business combinations, has been amortized in accordance with APB Opinion
No. 17. Commencing in 2002, in accordance with FASB Statement No. 142,
amortization of goodwill will no longer be required, but the carrying value
of goodwill will be subject to write-down in the event of their impairment.
Substantially all of the 2000 and 2001 amortization was for goodwill.
Noncompete agreements and other intangible assets will continue to be
amortized in the future.
17
FINANCIAL CONDITION AND LIQUIDITY
At December 29, 2002, the Company had current assets of $70.4 million,
including $10.0 million of cash and cash equivalents, current liabilities of
$46.6 million and working capital of $23.8 million, a $1.4 million decrease from
December 30, 2001.
The Company's accounts receivable decreased $9.1 million from $54.7
million in 2001 to $45.6 million in 2002. Accounts receivable consists of
balances due from the Company's salvage providers, typically large insurance
companies. Accounts receivable includes advance charges paid for by the Company
on behalf of salvage providers. These charges typically include storage and tow
fees incurred at a temporary storage or repair shop prior to the Company moving
the vehicle to one of its facilities.
At December 29, 2002, the Company's inventory balance of $11.2 million
was $2.3 million less than in 2001. The Company records purchase agreement
vehicles at the lower of their cost or estimated realizable value. The Company
also capitalizes towing charges related to vehicles sold under the percentage of
sale method as a component of inventory. In 2002, the decrease in inventory was
due to a reduction in purchase agreement inventory partially offset by the
increase in inventoried tow costs associated with the increase in consignment
vehicles on hand.
At December 29, 2002, the Company's long-term debt consisted of $0.l
million in notes payable bearing interest at a rate of 8.0%. Other long-term
liabilities include a post-retirement benefits liability that relates to the
Company's prior acquisition of Underwriters Salvage Company. The amount recorded
at December 29, 2002 for the post-retirement benefits liability is approximately
$2.7 million.
In February 2002, the Company's $20.0 million Senior Notes matured.
This debt was repaid with available cash and proceeds from investments. The
Company also entered into a new five-year $20.0 million unsecured credit
facility that was expanded to $30.0 million in the second quarter of 2002. The
credit facility is a one-year revolver that converts into a four-year term loan
carrying a variable rate based on LIBOR. During the first quarter of 2002, the
Company entered into an interest rate swap to mitigate its exposure to interest
rate fluctuations. As of March 14, 2003, the Company has borrowed the full $30.0
million.
In the second quarter of 2002, the Company entered into a capital lease
agreement to secure new computer equipment required as part of the Company's new
operating system. The capital lease terms are three years or less depending on
the nature of the equipment. At December 29, 2002, the Company's total future
obligation under the capital lease is $3.9 million.
Capital expenditures were approximately $15.2 million for the year
ended December 29, 2002. These capital expenditures include capitalization of
certain development costs related to the Company's new information system, along
with various branch improvements including upgrades to existing branches and the
addition of capacity in key markets. The capital expenditure amount excludes the
$4.7 million total amount related to the capital lease agreement entered into
during 2002.
In July 2002, the Company acquired Southern Missouri Insurance Pool for
$1.5 million. This acquisition was accounted for as a purchase business
combination. The results of its operations are included in the Company's
consolidated financial statements from the date of acquisition.
On September 7, 2000, the Company's Board of Directors authorized the
purchase of up to 1,500,000 shares of its common stock. Purchases may be made
from time to time in the open market, subject to the requirements of applicable
laws, and, if made will be financed with existing cash and cash equivalents,
marketable securities, and cash from operations. In March 2003, the Company
purchased approximately 757,000 shares for $7.4 million pursuant to this
authorization.
The Company believes that cash generated from operations and its
borrowing capacity will be sufficient to fund capital expenditures and provide
adequate working capital for operations for at least the next twelve months.
Part of the Company's plan is continued growth through a combination of new
facility start-ups, acquisitions, and the development of new claims processing
services. At some time in the future, the Company may require additional
financing. There can be no assurance that additional financing, if required,
will be available on favorable terms.
18
CRITICAL ACCOUNTING POLICIES
The preparation of the consolidated financial statement in conformity
with accounting principles generally accepted in the United States requires
management to make estimates and judgments that affect the reported amounts of
assets, liabilities, revenues, expenses, as well as the related disclosures. The
Company bases its estimates on historical experience and on various assumptions
that are believed to be reasonable under the circumstances, the results of which
form the basis for making judgments about the carrying values of assets and
liabilities that are not readily apparent from other sources. Actual results may
differ from these estimates. As such, the Company continuously evaluates its
estimates. The Company believes the following critical accounting policies
affect its more significant judgments and estimates used in the preparation of
its consolidated financial statements.
GOODWILL
The Company has significant goodwill recorded in its consolidated
financial statements. In accordance with Statement of Financial Accounting
Standards (SFAS) No, 142, "Goodwill and Other Intangible Assets", the Company
assesses goodwill for possible impairment on an annual basis or whenever events
or changes in circumstances indicate that the carrying value of this asset may
not be recoverable. Important factors that could trigger an impairment review
include significant under-performance relative to expected historical or
projected future operating results; significant negative industry or economic
trends; significant decline in the Company's stock price for a sustained period;
and the Company's market capitalization relative to net book value. If the
Company determines that the carrying value of goodwill may not be recoverable
based upon the existence of one or more of the above indicators of impairment,
the Company would measure any impairment based upon a projected discounted cash
flow.
DEFERRED INCOME TAXES
The Company has recorded deferred tax assets related to net operating
losses incurred in several of the states where it operates. The Company has
determined that it may not realize the full tax benefit related to certain of
the deferred tax assets. As such, a valuation allowance to reduce the carrying
value of the deferred tax assets has been recorded.
LONG-LIVED ASSETS AND CERTAIN IDENTIFIABLE INTANGIBLES
The Company evaluates long-lived assets and certain identifiable
intangibles for impairment whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable. Recoverability of
assets is measured by a comparison of the asset's carrying amount to the
estimated undiscounted future cash flows expected to be generated by the asset.
If the estimated undiscounted future cash flows change in the future, the
Company may be required to reduce the carrying amount of an asset to its fair
value.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 143, "Accounting for Asset Retirement Obligations." SFAS No. 143
addresses financial accounting and reporting for obligations associated with the
retirement of tangible long-lived assets and the associated asset retirement
costs. This Statement applies to legal obligations associated with retirement of
long-lived assets that result from the acquisition, construction, development or
normal use of the asset. At December 30, 2002, the Company adopted the
provisions of SFAS No. 143 and it is not expected to have a material impact on
the Company's consolidated financial statements.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." SFAS No. 146 requires that a
liability for a cost associated with an exit or disposal activity be recognized
and measured initially at fair value only when the liability is incurred. SFAS
No. 146 will be applied
19
prospectively to exit and disposal activities initiated after December 30, 2002,
and is not expected to have a material impact on the Company's consolidated
financial statements.
In November 2002, the FASB released FASB Interpretation No. 45 (FIN
45), "Guarantor's Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others". FIN 45 requires that a
guarantor recognize a liability for the fair value of an obligation assumed
under a guarantee. This interpretation also identifies additional disclosures to
be made in the interim and annual financial statements of the guarantor about
obligations under certain guarantees. The initial measurement and recognition
requirements of FIN 45 are effective prospectively for guarantees issued or
modified after December 31, 2002. However, the disclosure requirements are
effective for the Company for the year ended December 29, 2002. Adoption of the
disclosure provisions of FIN 45 did not have a material effect on the Company's
consolidated financial statements. The Company is currently evaluating the
impact of the measurement and recognition provisions of FIN 45, but does not
expect that their adoption will have a significant effect on the consolidated
financial statements
In December 2002, the FASB issued SFAS No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure, an amendment to SFAS No.
123." SFAS No. 148 provides alternative methods of transition for a voluntary
change to the fair value based method of accounting for stock-based employee
compensation. In addition, SFAS No. 148 requires prominent disclosures about the
method of accounting for stock-based employee compensation and the effect of
stock-based employee compensation on reported results in both annual and interim
financial statements. SFAS No. 148 is effective for fiscal years beginning after
December 15, 2002, and the Company has included the required disclosures in its
consolidated financial statements.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The Company is exposed to interest rate fluctuations on its floating
rate $30.0 million credit facility. As of December 29, 2002, the Company did not
have any outstanding balance related to this credit facility. The Company has
entered into an interest rate swap to mitigate its exposure to interest rate
fluctuations, and does not, as a matter of policy, enter into hedging contracts
for trading or speculative purposes. The interest rate swap agreement has a
notional amount of $30.0 million under which the Company pays a fixed rate of
interest of 5.6% and receives a LIBOR-based floating rate. During 2002, the
Company recorded a non-cash charge of $0.3 million related to the change in fair
value of a portion of its interest rate swap agreement that does not qualify for
hedge accounting. The Company also recorded a $0.7 million accumulated
comprehensive loss related to the change in fair value of the remaining portion
of its interest rate swap agreement. This portion of the swap agreement does
qualify for hedge accounting.
On February 15, 2003, the Company borrowed available funds related to
its $30.0 million credit facility. The credit facility was a one-year revolver
that converted on February 15, 2003, into a four-year term loan carrying a
variable rate based upon LIBOR. The aggregate principal balance of the loan will
be repaid in sixteen consecutive equal quarterly installments commencing on
March 31, 2003.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
See Item 15(a) for an index to the Consolidated Financial Statements
which are attached hereto.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
20
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY.
Information required under this Item with respect to Directors of the
Company is included under the caption "Nominees" in the Registrant's Proxy
Statement for the 2003 Annual Meeting of Shareholders (the "Proxy Statement") to
be filed with the Securities and Exchange Commission and incorporated herein by
reference. The information under the caption "Section 16(a) Beneficial Ownership
Reporting Compliance" in the Proxy Statement to be filed with the Securities and
Exchange Commission is incorporated herein by reference.
EXECUTIVE OFFICERS OF THE COMPANY
The following table sets forth the names, ages and offices of all of
the executive officers of the Company as of March 15, 2003:
Name Age Office Held
---- --- -----------
Thomas C. O'Brien 49 President and Chief Executive Officer
Peter B. Doder 42 Vice President, Business Development
Edward N. Fares 54 Senior Vice President and Chief Information
Officer
Donald J. Hermanek 54 Senior Vice President, Sales and Marketing
Sidney L. Kerley 28 Vice President, Corporate Counsel and
Assistant Secretary
David R. Montgomery 46 Senior Vice President and Chief Operating
Officer
Scott P. Pettit 40 Senior Vice President, Chief Financial
Officer and Secretary
THOMAS C. O'BRIEN became President and Chief Executive Officer in
November 2000. As President and Chief Executive Officer, Mr. O'Brien oversees
the Company's overall corporate administration as well as strategic planning.
Prior to joining the Company, Mr. O'Brien served as President of Thomas O'Brien
& Associates from 1999 to 2000, Executive Vice President of Safelite Glass
Corporation from 1998 to 1999, Executive Vice President of Vistar, Inc. from
1996 to 1997 and President of U.S.A. Glass, Inc. from 1992 to 1996.
PETER B. DODER became Vice President of Business Development in March
2001. Mr. Doder is responsible for the Company's acquisitions, start-ups,
re-facilitation projects, and strategic growth initiatives. Prior to that, Mr.
Doder was Vice President of the Western Division from February 1997 to March
2001. From February 1996 to February 1997, Mr. Doder was Vice President,
Financial Planning & Analysis of the Company. From June 1992 through February
1996, Mr. Doder held various positions with the Company, including Regional
Sales Manager, Manager of Marketing Support & Analysis and Director of
Marketing.
EDWARD N. FARES became Senior Vice President and Chief Information
Officer in January 2002. Mr. Fares is responsible for information services
functions, including software application acquisition and development, computer
operations and telecommunications. Prior to joining the Company, Mr. Fares
served as Senior Vice President, Chief Technology Officer of eTrak Corporation
from July 2000 to January 2002. From 1997 to 2000, he served as Senior Vice
President, Chief Information Officer at GE Financial Assurance Partnership
Marketing Group and from 1994 to 1997 he served as Senior Vice President,
Information Technology at Acxiom Corporation.
DONALD J. HERMANEK joined the Company in August 2000 as Senior Vice
President of Sales and Marketing. Mr. Hermanek is responsible for the sales and
marketing functions, including field sales and the corporate accounts group.
Prior to joining the Company, Mr. Hermanek served as Vice President of Business
Development for Consolidated Services Corp. from 1997 to 2000. Prior to that he
served as Vice President - National Sales for Safelite Glass Corp. from 1992 to
1997.
SIDNEY L. KERLEY joined the Company in April 2001 as Corporate Counsel.
In April 2002 he was named Vice President, Corporate Counsel. He is responsible
for the general legal affairs of the Company including SEC
21
compliance and filings, mergers and acquisitions, corporate finance and
litigation. Prior to joining the Company, Mr. Kerley served as an attorney for
Fairbank & Vincent.
DAVID R. MONTGOMERY joined the Company in April 2001 as Senior Vice
President and Chief Operating Officer. Mr. Montgomery is responsible for Company
operations including the National Network and specialty salvage business. Prior
to joining the Company, Mr. Montgomery served as Chief Executive Officer of
Greenleaf Acquisitions, LLC, a subsidiary of Ford Motor Company from 1999 to
April 2001. From 1996 to 1999 he served as Area Vice President of
Safelite/Vistar Autoglass. From 1988 to 1996 he served in various management
capacities at Windshields America, Inc., one of the two entities combined to
form Vistar, Inc.
SCOTT P. PETTIT joined the Company in April 2001 as Senior Vice
President, Chief Financial Officer and Secretary. Mr. Pettit is responsible for
financial functions, including legal, real estate and investor relations. Prior
to joining the Company, Mr. Pettit served as Senior Vice President and Chief
Financial Officer at Corsolutions Medical Inc. from 1998 to April 2001. From
1996 to 1998 he served as Vice President Finance and Chief Financial Officer of
Vistar, Inc. From 1994 to 1996 he served as Senior Vice President and Chief
Financial Officer with Globe Glass & Mirror Co., one of the two entities
combined to form Vistar, Inc.
Officers are appointed to serve, at the discretion of the Board of
Directors, until their successors are appointed.
ITEM 11. EXECUTIVE COMPENSATION.
Information required under this Item regarding executive compensation
is incorporated by reference from the material under captions: "Compensation of
Directors," "Executive Compensation," "Stock Options," "Employment Contracts and
Change-in-Control Arrangements" and "Compensation Committee Interlocks and
Insider Participation" in the Registrant's Proxy Statement to be filed with the
Securities and Exchange Commission and is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
Information required by this Item is included under the caption
"Ownership of Securities" in the Registrant's Proxy Statement to be filed with
the Securities and Exchange Commission and is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Information required by this item is included under the caption
"Certain Relationships and Related Transactions" in the Registrant's Proxy
Statement to be filed with the Securities and Exchange Commission and is
incorporated herein by reference.
ITEM 14. CONTROLS AND PROCEDURES.
a. Evaluation of Disclosure Controls and Procedures
Based on an evaluation of the Company's disclosure controls and
procedures conducted within 90 days of the date of filing this report
on Form 10-K, the Company's Chief Executive Officer and the Chief
Financial Officer have concluded that the Company's disclosure controls
and procedures, as defined in Rules 13a-14 and 15d-14 promulgated under
the Securities Exchange Act of 1934, are effective.
b. Changes in Internal Controls
The Company is in the process of rolling out a new enterprise-wide
application to manage the salvage and auction process. The new system
contains many changes and enhancements to the existing control
procedures. Completion of the new system roll-out is expected by the
end of the second quarter of 2003.
22
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
Page
----
(a) 1. INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
The following Consolidated Financial Statements of
Insurance Auto Auctions, Inc. and its subsidiaries are
filed as part of this report on Form 10-K:
Independent Auditors' Report.......................... 30
Consolidated Balance Sheets - December 29, 2002 and
December 30, 2001................................... 31
Consolidated Statements of Operations - 2002, 2001
and 2000............................................ 33
Consolidated Statements of Shareholders' Equity-
2002, 2001 and 2000................................. 34
Consolidated Statements of Cash Flows -2002, 2001
and 2000............................................ 35
Notes to Consolidated Financial Statements............ 37
2. CONSOLIDATED FINANCIAL STATEMENT SCHEDULES
All schedules have been omitted because the matter or conditions
are not present or the information required to be set forth
therein is included in the Consolidated Financial Statements and
related Notes thereto.
3. EXHIBITS
See Item 15(c) below.
(b) REPORTS ON FORM 8-K. No reports on Form 8-K were filed by the
Company during the three-month period ended December 29, 2002.
(c) EXHIBITS
Exhibit
No Description
- ------- -----------
3.1(10) Articles of Incorporation of the Registrant, as filed with the
Illinois Secretary of State on August 7, 1997.
3.2(13) Bylaws of the Registrant.
3.3(16) Bylaws of the Registrant, as amended as of March 21, 2001.
4.3(1) Specimen Stock Certificate.
4.5(5) Registration Agreement dated December 1, 1993, by and among the
Registrant and Tech-Cor.
23
4.6(17)* Shareholder Agreement, dated February 15, 2001, among the Company,
ValueAct Capital Partners, L.P., ValueAct Capital Partners II,
L.P., VA Partners, LLC, Jeffrey W. Ubben, Peter H. Kamin and
George F. Hamel, Jr.
4.7(17)* Registration Rights Agreement, dated February 15, 2000, among the
Company, ValueAct Capital Partners, L.P. and ValueAct Capital
Partners II, L.P.
10.36(6)* Form of Notice of Grant of Stock Option -- employee, officer.
10.37(3)* Form of Non-Statutory Stock Option Agreement, Insurance Auto
Auctions, Inc. 1991 Stock Option Plan, as restated (including Form
of Notice of Grant of Stock Option) -- employee.
10.38(3)* Form of Stock Option Agreement: Non-Employee Director, Automatic
Option Grant, Insurance Auto Auctions, Inc. Stock Option Plan, as
restated (including Form of Notice of Grant of Stock Option).
10.39(3)* Form of Incentive Stock Option Agreement, Insurance Auto Auctions,
Inc. 1991 Stock Option Plan, as restated (including Form of Notice
of Grant of Stock Option) -- employee.
10.40(3)* Form of Non-Statutory Stock Option Agreement, Insurance Auto
Auctions, Inc. 1991 Stock Option Plan, as restated (including Form
of Notice of Grant of Stock Option) -- officer.
10.41(3)* Form of Incentive Stock Option Agreement, Insurance Auto Auctions,
Inc. 1991 Stock Option Plan, as restated (including Form of Notice
of Grant of Stock Option) -- officer.
10.42(9)* Form of Incentive Stock Option Agreement, Insurance Auto Auctions,
Inc. 1995 Supplemental Stock Option Plan.
10.66(2) Facilities Lease Agreement dated January 17, 1992, by and between
Melvin R. Martin and MASP.
10.126(5) Lease, dated December 1, 1993, by and between Allstate Insurance
Company and BCAC.
10.149(10)* Form of Change of Control Employment Agreement by and between the
Company and certain of its executive officers.
10.150 Credit Agreement between the Registrant and LaSalle National Bank
dated as of February 15, 2002.
10.151 Rate Swap Agreement pursuant to the Credit Agreement between the
Registrant and LaSalle National Bank dated as of March 13, 2002.
10.154(19)* Insurance Auto Auctions, Inc. Employee Stock Purchase Plan, as
amended as of June 30, 2001.
10.155(13) Form of Indemnification Agreement dated as of February 24, 1999 by
and between the Company and its Directors and Executive Officers.
10.160(21)* Insurance Auto Auctions, Inc. 1991 Stock Option Plan, as amended
and restated as of June 19, 2002.
10.161(16)* Executive Severance Plan for Officers dated August 9, 2000, by and
between the Company and the Company's executive officers.
10.162(16)* Employment agreement, dated November 17, 2000, by and between the
Company and Thomas C. O'Brien.
24
10.167(18)* Amended and Restated Employment Agreement dated April 2, 2001 by
and between the Company and Thomas C. O'Brien.
10.168(18)* Employment Agreement dated April 2, 2001 by and between the
Company and David R. Montgomery.
10.169(18)* Employment Agreement dated April 2, 2001 by and between the
Company and Scott P. Pettit.
10.170(18)* Separation Agreement dated March 31, 2001 by and between the
Company and Gaspare G. Ruggirello.
10.171(18)* Separation Agreement dated April 9, 2001 by and between the
Company and Donald J. Comis.
10.172(18)* Separation Agreement dated April 9, 2001 by and between the
Company and Gerald C. Comis.
10.173(18)* Separation Agreement dated April 9, 2001 by and between the
Company and Patrick T. Walsh.
10.176(20) Consulting Agreement dated April 12, 2001 by and between the
Company and Donald J. Comis.
10.177(20) Employment Agreement dated December 11, 2001 and addendum by and
between the Company and Edward N. Fares.
10.178(21)* Insurance Auto Auctions, Inc. 2002 Long Term Incentive Plan
10.179* Employment Agreement dated January 31, 2003 between the Company
and Marcia A. McAllister.
21 Subsidiaries of the Registrant.
23 Consent of KPMG LLP.
24 Power of Attorney.
99.1 Certification of Thomas C. O'Brien, Chief Executive Officer,
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
99.2 Certification of Scott P. Pettit, Chief Financial Officer,
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(1) Incorporated by reference from an exhibit filed with the Registrant's
Registration Statement on Form S-1 (File No. 33-43247) declared
effective by the Securities and Exchange Commission ("SEC") on November
20, 1991.
(2) Incorporated by reference from an exhibit included in the Registrant's
Current Report on Form 8-K (File No. 0-19594) filed with the SEC on
January 31, 1992.
(3) Incorporated by reference from an exhibit included in the Registrant's
Annual Report on Form 10-K (File No. 0-19594) for the fiscal year ended
December 31, 1992.
(4) Incorporated by reference from an exhibit included in the Registrant's
Quarterly Report on Form 10-Q (File No. 0-19594) for the fiscal quarter
ended June 30, 1993.
(5) Incorporated by reference from an exhibit included in the Registrant's
Current Report on Form 8-K (File No. 0-19594) filed with the SEC on
December 15, 1993.
25
(6) Incorporated by reference from an exhibit included in the Registrant's
Annual Report on Form 10-K (File No. 0-19594) for the fiscal year ended
December 31, 1993.
(7) Incorporated by reference from an exhibit included in the Registrant's
Current Report on Form 8-K (File No. 0-19594) filed with the SEC on
February 3, 1994.
(8) Incorporated by reference from an exhibit included in the Registrant's
Current Report on Form 8-K (File No. 0-19594) filed with the SEC on
April 11, 1996.
(9) Incorporated by reference from an exhibit included in the Registrant's
Quarterly Report on Form 10-Q (File No. 0-19594) for the fiscal quarter
ended June 30, 1997.
(10) Incorporated by reference from an exhibit included in the Registrant's
Annual Report on Form 10-K (File No. 0-19594) for the fiscal year ended
December 31, 1997.
(11) Incorporated by reference from an exhibit included in the Registrant's
Quarterly Report on Form 10-Q (File No. 0-19594) for the fiscal quarter
ended March 31, 1998.
(12) Incorporated by reference from an exhibit included in the Registrant's
Annual Report on Form 10-K (File No. 0-19594) for the fiscal year ended
December 31, 1998.
(13) Incorporated by reference from an exhibit included in the Registrant's
Quarterly Report on Form 10-Q (File No. 0-19594) for the fiscal quarter
ended March 31, 1999.
(14) Incorporated by reference from an exhibit included in the Registrant's
Quarterly Report on Form 10-Q (File No. 0-19594) for the fiscal quarter
ended June 30, 1999.
(15) Incorporated by reference from an exhibit included in the Registrant's
Quarterly Report on Form 10-Q (File No. 0-19594) for the fiscal quarter
ended June 30, 2000.
(16) Incorporated by reference from an exhibit included in the Registrant's
Current Report on Form 10-K (File No. 0-19594) for the fiscal year
ended December 31, 2000.
(17) Incorporated by reference from an exhibit included in the Registrant's
Quarterly Report on Form 10-Q (File No. 0-19594) for the fiscal quarter
ended April 1, 2001.
(18) Incorporated by reference from an exhibit included in the Registrant's
Quarterly Report on Form 10-Q (File No. 0-19594) for the fiscal quarter
ended July 1, 2001.
(19) Incorporated by reference from an exhibit included in the Registrant's
Current Report on Form 10-K (File No. 0-19594) for the fiscal year
ended December 30, 2001.
(20) Incorporated by reference from an exhibit included in the Registrant's
Quarterly Report on Form 10-Q (File No. 0-19594) for the fiscal quarter
ended March 31, 2001.
(21) Incorporated by reference from an exhibit included in the Registrant's
Current Report on Form S-8 (File No. 0-19594) filed with the SEC on
August 5, 2002.
* This item is a management contract or compensatory plan or arrangement
required to be filed as an exhibit to this form pursuant to Item
601(b)(10)(iii) of Regulation S-K.
26
SIGNATURES
Pursuant to the requirements Section 13 of the Securities Exchange Act of 1934,
as amended (the "Exchange Act") the Registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
INSURANCE AUTO AUCTIONS, INC.
By: /s/ Thomas C. O'Brien
----------------------------------------
President and Chief Executive Officer
Date: March 27, 2003
POWER OF ATTORNEY
KNOWN ALL PERSONS BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Thomas C. O'Brien, as his true and lawful
attorney-in-fact and agent, with full power of substitution and resubstitution,
for him and in his name, place and steward, in any and all capacities, to sign
any and all amendments to this Report on Form 10-K, and to file the same, with
all exhibits thereto, and other documents in connection therewith, with the
Securities and Exchange Commission, granting unto said attorney-in-fact and
agent, full power and authority to do and perform each and every act and thing
requisite and necessary to be done in connection therewith, as fully to all
intents and purposes as he might or could do in person, hereby ratifying and
confirming all that said attorney-in-fact and agent, or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities indicated on this 27th day of March, 2003.
/s/ Thomas C. O'Brien President and Chief Executive Officer, Director
- ----------------------------- (Principal Executive Officer)
Thomas C. O'Brien
/s/ Scott P. Pettit Senior Vice President, Chief Financial Officer
- ----------------------------- and Secretary
Scott P. Pettit (Principal Financial Officer)
/s/ Joseph F. Mazzella Chairman of the Board of Directors
- -----------------------------
Joseph F. Mazzella
/s/ Maurice A. Cocca Director
- -----------------------------
Maurice A. Cocca
/s/ Susan B. Gould Director
- -----------------------------
Susan B. Gould
/s/ Peter H. Kamin Director
- -----------------------------
Peter H. Kamin
/s/ Melvin R. Martin Director
- -----------------------------
Melvin R. Martin
/s/ Jeffrey W. Ubben Director
- -----------------------------
Jeffrey W. Ubben
/s/ John K. Wilcox Director
- -----------------------------
John K. Wilcox
27
CERTIFICATION PURSUANT TO SECTION 302
OF THE SARBANES-OXLEY ACT OF 2002
(PURSUANT TO RULE 13A-14 OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED)
I, Thomas C. O'Brien, certify that:
1. I have reviewed this annual report on Form 10-K of Insurance Auto Auctions,
Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this annual report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
annual report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the effectiveness
of the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: March 27, 2003 /s/ Thomas C. O'Brien
------------------------------------------
Thomas C. O'Brien, Chief Executive Officer
28
CERTIFICATION PURSUANT TO SECTION 302
OF THE SARBANES-OXLEY ACT OF 2002
(PURSUANT TO RULE 13A-14 OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED)
I, Scott P. Pettit, certify that:
1. I have reviewed this annual report on Form 10-K of Insurance Auto Auctions,
Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this annual report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
annual report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the effectiveness
of the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date March 27, 2003 /s/ Scott P. Pettit
------------------------------------------
Scott P. Pettit, Chief Financial Officer
29
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Shareholders
Insurance Auto Auctions, Inc.:
We have audited the consolidated financial statements of Insurance Auto
Auctions, Inc. and subsidiaries, as listed in Item 15(a)1. These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Insurance Auto
Auctions, Inc. and subsidiaries as of December 29, 2002 and December 30, 2001
and the results of their operations and their cash flows for each of the fiscal
years in the three-year period ended December 29, 2002 in conformity with
accounting principles generally accepted in the United States of America.
As discussed in Note 6 to the consolidated financial statements, the Company
changed its method of accounting for goodwill and other intangibles in 2002.
KPMG LLP
Chicago, Illinois
February 28, 2003
30
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Consolidated Balance Sheets
(dollars in thousands except per share amounts)
DECEMBER 29, DECEMBER 30,
2002 2001
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents $ 10,027 $ 24,467
Accounts receivable, net 45,594 54,674
Inventories 11,158 13,505
Short-term investments - 2,131
Other current assets 3,571 4,165
-------- --------
Total current assets 70,350 98,942
-------- --------
Property and equipment, net:
Land and buildings 15,883 11,358
Furniture and fixtures 1,900 1,804
Machinery and equipment 29,823 29,305
Leasehold improvements 29,027 29,737
-------- --------
76,633 72,204
Less accumulated depreciation and amortization 27,291 32,549
-------- --------
Net property and equipment 49,342 39,655
Deferred income taxes 7,663 7,827
Investments in marketable securities - 512
Intangible assets, net 1,710 1,617
Goodwill, net 130,474 129,522
Other assets 111 129
-------- --------
$259,650 $278,204
======== ========
31
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Consolidated Balance Sheets (continued)
(dollars in thousands except per share amounts)
DECEMBER 29, DECEMBER 30,
2002 2001
------------ ------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 28,656 $ 41,451
Accrued liabilities 15,312 12,165
Obligations under capital leases - current 2,552 -
Current installments of long-term debt 43 20,040
--------- ---------
Total current liabilities 46,563 73,656
--------- ---------
Deferred income taxes 14,835 12,172
Other liabilities 2,736 3,279
Obligation under capital leases - non-current 1,355 -
Long-term debt, excluding current installments 59 103
--------- ---------
Total liabilities 65,548 89,210
--------- ---------
Shareholders' equity:
Preferred stock, par value of $.001 per share
Authorized 5,000,000 shares; none issued - -
Common stock, par value of $.001 per share
Authorized 20,000,000 shares; issued and outstanding
12,292,599 and 12,162,290 shares as of
December 29, 2002 and December 30, 2001, respectively 12 12
Additional paid-in capital 144,420 142,575
Accumulated other comprehensive income (loss) (745) -
Retained earnings 50,415 46,407
--------- ---------
Total shareholders' equity 194,102 188,994
--------- ---------
$ 259,650 $ 278,204
========= =========
See accompanying Notes to Consolidated Financial Statements
32
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Consolidated Statements of Operations
(dollars in thousands except per share amounts)
2002 2001 2000
--------- --------- ---------
Revenues:
Vehicle sales $ 71,352 $ 138,427 $ 200,858
Fee income 162,845 154,563 132,318
--------- --------- ---------
234,197 292,990 333,176
Cost of sales:
Vehicle cost 65,463 131,683 183,404
Branch cost 125,530 122,867 102,791
--------- --------- ---------
190,993 254,550 286,195
--------- --------- ---------
Gross profit 43,204 38,440 46,981
Operating expense:
Selling, general and administration 27,404 28,127 20,373
Amortization of intangible assets 307 4,055 3,942
Business transformation costs 8,067 3,451 -
Special charges - 8,016 4,772
--------- --------- ---------
Earnings (loss) from operations 7,426 (5,209) 17,894
Other (income) expense:
Interest expense 678 1,788 1,833
Interest income (275) (1,025) (1,717)
--------- --------- ---------
Earnings (loss) before income taxes 7,023 (5,972) 17,778
Provision (benefit) for income taxes 3,015 (1,612) 7,289
--------- --------- ---------
Net earnings (loss) $ 4,008 $ (4,360) $ 10,489
========= ========= =========
Earnings (loss) per share:
Basic $ .33 $ (.37) $ .90
========= ========= =========
Diluted $ .32 $ (.37) $ .88
========= ========= =========
Weighted average shares outstanding:
Basic 12,235 11,940 11,660
Effect of dilutive securities - stock options 296 - 290
--------- --------- ---------
Diluted 12,531 11,940 11,950
========= ========= =========
See accompanying Notes to Consolidated Financial Statements
33
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Consolidated Statements of Shareholders' Equity
(dollars in thousands)
Common Stock
--------------------------
Accumulated
Additional Other Total
Number Paid-in Comprehensive Retained Shareholders'
of shares Amount Capital Income (Loss) Earnings Equity
----------- --------- ----------- ------------- ----------- -----------
Balance at December 31, 1999 11,575,010 $ 12 $ 134,996 $ -- $ 40,278 $ 175,286
=========== ========= =========== =========== =========== ===========
Net earnings -- -- -- -- 10,489 10,489
Stock options exercised 131,714 -- 1,406 -- -- 1,406
Deferred tax related to stock
options exercised -- -- 389 -- -- 389
Shares issued for the employee
stock purchase plan 9,212 -- 171 -- -- 171
----------- --------- ----------- ----------- ----------- -----------
Balance at December 31, 2000 11,715,936 $ 12 $ 136,962 $ -- $ 50,767 $ 187,741
=========== ========= =========== =========== =========== ===========
Net loss -- -- -- -- (4,360) (4,360)
Stock options exercised 431,305 -- 4,904 -- -- 4,904
Deferred tax related to stock
options exercised -- -- 539 -- -- 539
Shares issued for the employee
stock purchase plan 15,049 -- 170 -- -- 170
----------- --------- ----------- ----------- ----------- -----------
Balance at December 30, 2001 12,162,290 $ 12 $ 142,575 $ -- $ 46,407 $ 188,994
=========== ========= =========== =========== =========== ===========
Net earnings -- -- -- -- 4,008 4,008
Other comprehensive income -
Change in fair value of
interest rate swap contract
(net of tax benefit, $467) -- -- -- (745) -- (745)
===========
Comprehensive income 3,263
Stock options exercised 115,555 -- 1,341 -- -- 1,341
Deferred tax related to stock
options exercised -- -- 247 -- -- 247
Shares issued for the employee
stock purchase plan 14,754 -- 257 -- -- 257
----------- --------- ----------- ----------- ----------- -----------
Balance at December 29, 2002 12,292,599 $ 12 $ 144,420 $ (745) $ 50,415 $ 194,102
=========== ========= =========== =========== =========== ===========
See accompanying Notes to Consolidated Financial Statements
34
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(dollars in thousands)
2002 2001 2000
-------- -------- --------
Cash flows from operating activities:
Net earnings (loss) $ 4,008 $ (4,360) $ 10,489
Adjustments to reconcile net earnings (loss) to net cash
provided by operating activities:
Depreciation and amortization 9,901 10,649 9,641
Deferred income taxes 3,292 (970) 1,050
Gain on disposal of property and equipment (104) (439) (98)
Special charges - 8,016 4,772
Loss on change in fair market value of derivative 307 - -
Changes in assets and liabilities
(excluding effects of acquired companies):
(Increase) decrease in:
Accounts receivable, net 9,180 (6,673) (8,323)
Inventories 2,347 (2,917) 1,410
Other current assets 594 (1,053) (1,457)
Other assets (64) 113 109
Increase (decrease) in:
Accounts payable (12,795) 3,221 4,183
Accrued liabilities 2,289 612 (318)
Deferred Income taxes (465) - -
Income taxes - - (1,226)
-------- -------- --------
Total adjustments 14,482 10,559 9,743
-------- -------- --------
Net cash provided by operating activities 18,490 6,199 20,232
-------- -------- --------
35
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Consolidated Statements of Cash Flows (continued)
(dollars in thousands)
2002 2001 2000
-------- -------- --------
Cash flows from investing activities:
Capital expenditures $(15,241) $(20,765) $(12,246)
Proceeds from sale of investments 2,643 4,456 3,082
Proceeds from disposal of property and equipment 187 4,094 780
Payments made in connection with acquired
companies, net of cash acquired (1,510) (6,033) (9,925)
-------- -------- --------
Net cash used in investing activities (13,921) (18,248) (18,309)
-------- -------- --------
Cash flows from financing activities:
Proceeds from issuance of common stock 1,845 5,613 1,966
Principal payments of long-term debt (20,041) (35) (137)
Principal payments - capital leases (813) - -
-------- -------- --------
Net cash (used in) provided by financing activities (19,009) 5,578 1,829
-------- -------- --------
Net increase (decrease) in cash and cash equivalents (14,440) (6,471) 3,752
Cash and cash equivalents at beginning of year 24,467 30,938 27,186
-------- -------- --------
Cash and cash equivalents at end of year $ 10,027 $ 24,467 $ 30,938
======== ======== ========
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest $ 1,433 $ 1,733 $ 1,738
======== ======== ========
Income taxes paid $ 2,492 $ 7 $ 7,972
======== ======== ========
Income taxes refunded $ 3,860 $ - $ -
======== ======== ========
Non-cash financing activities:
Capital leases $ 4,720 $ - $ -
======== ======== ========
See accompanying Notes to Consolidated Financial Statements
36
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(1) SUMMARY OF SIGNIFICANT ACCOUNTING PRINCIPLES
BACKGROUND
Insurance Auto Auctions, Inc. (the "Company") operates in a single
business segment - providing insurance companies and other vehicle
suppliers cost-effective salvage processing solutions including selling
total loss and recovered theft vehicles.
PRINCIPLES OF CONSOLIDATION
The accompanying consolidated financial statements include the accounts
of the Company and its wholly owned subsidiaries. All significant
intercompany transactions and balances have been eliminated in
consolidation.
RECLASSIFICATIONS
Certain reclassifications have been made to the prior year financial
information to conform with the current year presentation.
Beginning in the first quarter of this year, the Company adopted a new
presentation format for the Consolidated Statement of Operations. The
purpose of this change is to provide greater clarity to current and
historic results. The primary change relates to the breakdown of the
Company's cost structure among purchase agreement vehicle cost, branch
cost and selling, general and administrative operating expenses. The cost
of the purchase agreement vehicles sold during the period is presented in
the vehicle cost component. Branch cost represents those expenses related
to operating individual branches including towing, yard and office labor,
branch management, real estate and other related expenses. Selling,
general and administrative expenses are now presented separately as well.
FISCAL PERIODS
Fiscal years 2002, 2001 and 2000 each consisted of 52 weeks and ended on
December 29, 2002, December 30, 2001 and December 31, 2000, respectively.
REVENUE RECOGNITION
Revenues (including vehicle sales and fee income) are generally
recognized at the date the vehicles are sold at auction. Revenue not
recognized at the date the vehicles are sold at auction includes certain
buyer-related fees, which are recognized when payment is received.
CASH EQUIVALENTS
Cash equivalents consist principally of commercial paper. The Company
considers all highly liquid investments with original maturities of three
months or less to be cash equivalents.
37
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
INVENTORIES
Inventories are stated at the lower of cost or estimated realizable
value. Cost includes the cost of acquiring ownership of total loss and
recovered theft vehicles, charges for towing and, less frequently,
reconditioning costs. The costs of inventories are charged to operations
based upon the specific-identification method.
ASSET IMPAIRMENT
As part of an ongoing review of the valuation and amortization of assets,
management assesses the carrying value of the Company's assets if facts
and circumstances suggest that such assets may be impaired. If this
review indicates that an asset will not be recoverable, as determined by
an analysis of undiscounted cash flow over the remaining amortization
period, the carrying value of the asset would be reduced to its estimated
fair market value. In 2002, the Company adopted SFAS No. 142. In
accordance with SFAS No. 142, the Company completed the transitional
impairment test of intangible assets during the second quarter of fiscal
2002. The result of this test did not indicate any impairment.
USE OF ESTIMATES
The Company has made a number of estimates and assumptions relating to
the reporting of assets and liabilities and the disclosure of contingent
liabilities to prepare these consolidated financial statements in
conformity with accounting principles generally accepted in the United
States of America. Actual results will likely differ from these
estimates, but management believes that such differences are not
material.
DEPRECIATION AND AMORTIZATION
Depreciation of property and equipment is computed using the
straight-line method over the estimated useful lives of the related
assets ranging from three to ten years. Leasehold improvements are
amortized on a straight-line basis over their estimated economic useful
life or the life of the lease, whichever is less.
INCOME TAXES
The Company accounts for income taxes under the asset and liability
method, whereby deferred tax assets and liabilities are recognized for
the future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and liabilities
and their respective tax bases, as well as operating loss and tax credit
carry forwards.
CREDIT RISK
Vehicles are sold generally for cash; therefore, very little credit risk
is incurred from the selling of vehicles. Receivables arising from
advance charges made on behalf of vehicle suppliers, most of which are
insurance companies, are generally satisfied from the net proceeds
payable to the vehicle suppliers. A small percentage of vehicles sold do
not have sufficient net proceeds to satisfy the related receivables, and
in these cases, the receivable is due from the vehicle suppliers.
Management performs regular evaluations concerning the ability of its
customers and suppliers to satisfy their obligations and records a
provision for doubtful accounts based upon these evaluations. The
Company's credit losses for the periods presented are insignificant and
have not exceeded management's estimates.
STOCK OPTIONS
The Company accounts for its fixed plan stock options under the intrinsic
value-based method of accounting prescribed by Accounting Principles
Board (APB) Opinion No. 25, "Accounting for Stock Issued to Employees",
and related interpretations. As such, compensation expense would be
recorded on the date of grant and amortized over the period of service
only if the current market value of the underlying stock
38
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
exceeded the exercise price. No stock-based employee compensation cost is
reflected in net earnings (loss), as all options granted under those
plans had an exercise price equal to the market value of the underlying
common stock on the date of grant.
The following table illustrates the effect on net earnings (loss) if the
Company had applied the fair value recognition provisions of SFAS No.
123, "Accounting for Stock-Based Compensation", to stock-based employee
compensation, including straight-line recognition of compensation cost
over the related vesting periods for fixed awards:
2002 2001 2000
------- -------- --------
(dollars in thousands)
Net earnings (loss) as reported $ 4,008 $ (4,360) $ 10,489
Deduct: Total stock-based employee
compensation expense determined
under the fair value based method
for all awards, net of related
tax effects 1,228 1,339 649
------- -------- --------
Pro forma net earnings (loss) $ 2,720 $ (5,699) $ 9,840
======= ======== ========
Pro forma earnings (loss) per share
Basic $ .22 $ (0.47) $ .84
======= ======== ========
Diluted $ .22 $ (0.47) $ .82
======= ======== ========
Pro forma information regarding net earnings has been prepared as if the
company had accounted for its stock options under the fair value method.
The per share weighted average fair value of stock options granted during
2002, 2001 and 2000 was $10.13, $9.20 and $6.73, respectively, based upon
grant date valuations using the Black-Scholes option pricing model with
the following weighted average assumptions in 2002, 2001 and 2000:
expected dividend yield of 0.0% in all years; expected volatility of .83,
.88 and .64, respectively; risk-free interest rate of 2.8%, 4.3% and
5.1%, respectively; and an average expected option life of 4.9, 4.9 and
5.1 years, respectively.
The pro forma net earnings and earnings per share amounts reflect only
those options granted since January 1, 1995. Therefore, the full impact
of calculating compensation cost for stock options under Statement No.
123 is not reflected in the pro forma net earnings and earnings per share
information presented above because compensation cost is generally
recorded over the options' vesting period, generally four years, and
compensation cost for options granted prior to January 1, 1995 is not
considered.
EARNINGS PER SHARE
The Company incurred a net loss for the year ended December 30, 2001,
therefore, stock options were excluded from the calculation of diluted
earnings per share amounts because the effect would have been
anti-dilutive. The number of shares used to calculate diluted per share
amounts otherwise would have been increased by 408,000 shares.
CAPITALIZED SOFTWARE COSTS
The Company capitalizes certain computer software costs, after
technological feasibility has been established, which are amortized
utilizing the straight-line method over the economic lives of the related
products.
39
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
DERIVATIVE FINANCIAL INSTRUMENT
In 2002, the Company entered into an interest rate swap to mitigate its
exposure to interest rate fluctuations, and does not, as a matter of
policy, enter into hedging contracts for trading or speculative purposes.
The interest rate swap has been accounted for in accordance with the
provisions of Statement of Financial Accounting Standards (SFAS) No. 133,
"Accounting for Derivative Instruments and Hedging Activities," as
amended. The swap has been designated as a cash flow hedge. Changes in
fair value of the swap are recorded in other comprehensive income to the
extent that the swap is effective as a hedge, until earnings are affected
by the variability in cash flows of the hedged item.
NEW ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 143, "Accounting for Asset Retirement Obligations." SFAS No. 143
addresses financial accounting and reporting for obligations associated
with the retirement of tangible long-lived assets and the associated
asset retirement costs. This Statement applies to legal obligations
associated with retirement of long-lived assets that result from the
acquisition, construction, development or normal use of the asset. At
December 30, 2002, the Company adopted the provisions of SFAS No. 143 and
it is not expected to have a material impact on the Company's
consolidated financial statements.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." SFAS No. 146 requires that
a liability for a cost associated with an exit or disposal activity be
recognized and measured initially at fair value only when the liability
is incurred. SFAS No. 146 will be applied prospectively to exit and
disposal activities initiated by the Company after December 30, 2002 and
is not expected to have a material impact on the Company's consolidated
financial statements.
In November 2002, the FASB released Interpretation No. 45 (FIN 45),
"Guarantor's Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others". FIN 45 requires
that a guarantor recognize a liability for the fair value of an
obligation assumed under a guarantee. This interpretation also identifies
additional disclosures to be made in the interim and annual financial
statements of the guarantor about obligations under certain guarantees.
The initial measurement and recognition requirements of FIN 45 are
effective prospectively for guarantees issued or modified after December
31, 2002. However, the disclosure requirements are effective for the
Company for the year ended December 29, 2002. Adoption of the disclosure
provisions of FIN 45 did not have a material effect on the Company's
consolidated financial statements. The Company is currently evaluating
the impact of the measurement and recognition provisions of FIN 45, but
does not expect that their adoption will have a significant effect on the
consolidated financial statements.
In December 2002, the FASB issued SFAS No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure, an amendment to
SFAS No. 123." SFAS No, 148 provides alternative methods of transition
for a voluntary change to the fair value based method of accounting for
stock-based employee compensation. In addition, SFAS No. 148 requires
prominent disclosures about the method of accounting for stock-based
employee compensation and the effect of stock-based employee compensation
on reported results in both annual and interim financial statements. SFAS
No. 148 is effective for fiscal years beginning after December 15, 2002,
and the Company has included the required disclosures in its consolidated
financial statements.
40
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(2) GOODWILL AND INTANGIBLES
In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other
Intangible Assets", which changes the accounting for goodwill and
intangibles with an indefinite life from an amortization method to an
impairment only approach. The Company adopted SFAS No. 142 at the
beginning of 2002 and ceased amortization of goodwill resulting from
acquisitions made prior to June 30, 2001. On that date, goodwill recorded
as a result of acquisitions made subsequent to June 30, 2001 was not
subject to amortization and, accordingly, the Company did not record any
amortization related to goodwill resulting from the October 2001
acquisition of Austin Salvage Pool. In accordance with SFAS No. 142, the
Company completed the transitional impairment test of intangible assets
during the second quarter of 2002. The results of this test did not
indicate any impairment. This transitional test will also be used as the
Company's annual test. As such, the next annual impairment test will be
performed as of January 1, 2003 and will be completed by the end of the
1st quarter 2003.
Goodwill and other intangibles are recorded at cost and consist of the
following at December 29, 2002 and December 30, 2001:
ASSIGNED LIFE 2002 2001
------------- ---- ----
(dollars in millions)
Goodwill Indefinite $130.5 $129.5
Covenants not to compete 5 to 15 years 1.7 1.6
------ ------
$132.2 $131.1
Amortization expense for the year ended December 29, 2002 is $0.3
million. Based on existing intangibles, the projected annual amortization
expense for 2003, 2004, 2005, and 2006 is $0.4 million and $0.3 million
for 2007.
The following table presents the consolidated results adjusted as though
the adoption of SFAS No. 142 occurred at the beginning of each of the
fiscal years displayed below.
2002 2001 2000
--------- --------- ----------
(in thousands except per share amounts)
Net earnings (loss):
As reported $ 4,008 $ (4,360) $ 10,489
Goodwill amortization, net of tax effect - 2,847 2,247
--------- --------- ----------
Adjusted net earnings (loss) $ 4,008 $ (1,513) $ 12,736
========= ========= ==========
Basic earnings (loss) per share:
As reported $ .33 $ (.37) $ .90
Goodwill amortization, net of tax effect - .24 .19
--------- --------- ----------
Adjusted basic earnings (loss) per share $ .33 $ (.13) $ 1.09
========= ========= ==========
Diluted earnings (loss) per share:
As reported $ .32 $ (.37) $ .88
Goodwill amortization, net of tax effect - .24 .19
--------- --------- ----------
Adjusted diluted earnings (loss) per share $ .32 $ (.13) $ 1.07
========= ========= ==========
41
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(3) CREDIT FACILITIES
Long-term debt is summarized as follows:
2002 2001
-------- --------
(dollars in thousands)
Senior notes payable, unsecured, interest payable at 8.6%
in semiannual installments through maturity on
February 15, 2002. $ - $ 20,000
Notes payable issued in connection with the acquisition of a
subsidiary, interest payable at 8%.
102 143
-------- --------
102 20,143
Less current installments 43 20,040
-------- --------
$ 59 $ 103
======== ========
Total principal repayments required for each of the next five years under
all long-term debt agreements are summarized as follows:
(dollars in thousands)
2003 $ 43
2004 47
2005 12
--------
$ 102
========
In February 2002, the Company's $20.0 million Senior Notes matured. This
debt was repaid with available cash, cash equivalents, and proceeds from
the sale of investments. The Company also entered into a new five-year
$20.0 million unsecured credit facility that was expanded to $30.0
million in the second quarter of 2002. The credit facility is a one-year
revolver that converts into a four-year term loan carrying a variable
rate based on LIBOR. During the first quarter of 2002, the Company
entered into an interest rate swap to mitigate its exposure to interest
rate fluctuations (see Note 4). In February 2003, the Company borrowed
the full $30.0 million related to this credit facility.
The credit facility requires the Company to comply with certain covenants
such as maintenance of net worth and limitations on debt. As of December
29, 2002, the Company was in compliance with these covenants.
(4) FINANCIAL INSTRUMENTS AND HEDGING ACTIVITIES
The Company, as a matter of policy, does not enter into derivative
contracts for trading or speculative purposes. During the first quarter
of 2002, the Company entered into an interest rate swap to mitigate its
exposure to interest rate fluctuations and to effectively fix its
borrowing rate at 5.6%. The interest rate swap agreement has a notional
amount of $30.0 million under which the Company pays a fixed rate of
interest of 5.6% and receives a LIBOR-based floating rate. During the
year, the Company recorded a non-cash charge of $0.3 million related to
the change in fair value for the portion of its interest rate swap
agreement which does
42
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
not qualify for hedge accounting. The Company also recorded $0.7 million
as a comprehensive loss related to the change in fair market value of the
remaining portion of its interest rate swap agreement which qualifies for
hedge accounting.
(5) INCOME TAXES
Income tax expense (benefit) is summarized as follows:
2002 2001 2000
------- ------- -------
(dollars in thousands)
Current:
Federal $ (161) $ (530) $ 5,345
State (116) (111) 900
------- ------- -------
(277) (641) 6,245
------- ------- -------
Deferred:
Federal 2,756 (878) 865
State 536 (93) 179
------- ------- -------
3,292 (971) 1,044
------- ------- -------
$ 3,015 $(1,612) $ 7,289
======= ======= =======
Deferred income taxes are composed of the effects of the components
listed below. A valuation allowance has been recorded to reduce the
carrying value of deferred tax assets for which the Company believes it
is more likely than not that a tax benefit will not be realized.
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities at
December 29, 2002 and December 30, 2001 are presented below:
2002 2001
-------- --------
(dollars in thousands)
Deferred tax assets attributable to:
Depreciation $ 4,017 $ 3,216
State net operating losses carried forward 1,830 1,361
Inventories 736 896
Change in fair value of interest rate
swap contract 465 -
Other 2,070 3,501
Valuation allowance (1,455) (1,147)
-------- --------
Net deferred tax assets 7,663 7,827
Deferred tax liabilities attributable to:
Intangible assets (14,835) (12,172)
-------- --------
Net deferred tax liabilities $ (7,172) $ (4,345)
======== ========
The actual income tax expense (benefit) differs from the "expected" tax
expense (benefit) computed by applying the Federal corporate tax rate to
earnings (loss) before income taxes as follows:
43
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
2002 2001 2000
------- ------- -------
(dollars in thousands)
"Expected" income tax expense (benefit) $ 2,388 $(2,030) $ 6,045
State income taxes, net of Federal effect 277 (135) 697
Nondeductible portion of amortization of
intangible assets - 358 358
Other 350 195 189
------- ------- -------
$ 3,015 $(1,612) $ 7,289
======= ======= =======
(6) EMPLOYEE BENEFIT PLANS
The Company adopted the Insurance Auto Auctions, Inc. 1991 Stock Option
Plan (the 1991 Plan), as amended, covering 3,100,000 shares of the
Company's common stock. The 1991 Plan provides for the grant of incentive
stock options to key employees and nonqualified stock options and stock
appreciation rights to key employees, directors, consultants and
independent contractors. The 1991 Plan expires September 26, 2006. In
general, new non-employee directors will automatically receive grants of
nonqualified options to purchase 10,000 shares and subsequent grants to
purchase 5,000 shares at specified intervals.
During 1995, the Company adopted the Insurance Auto Auctions, Inc.
Supplemental Stock Option Plan (the 1995 Plan) covering 200,000 shares of
the Company's common stock. The 1995 Plan provides for the grant of
nonqualified stock options to employees, other than executive officers,
consultants and other independent advisors who provide services to the
Company. The 1995 Plan will expire on October 1, 2005.
Under the Plans, as of December 29, 2002, options to purchase an
aggregate of 1,518,075 shares were outstanding at a weighted average
exercise price of $14.13 per share and 757,431 shares remained available
for future grant.
Activity under the Plans during 2002, 2001 and 2000 is as follows:
Weighted Weighted Weighted
Average Average Average
2002 Exercise 2001 Exercise 2000 Exercise
Shares Price Shares Price Shares Price
------ ----- ------ ----- ------ -----
Balance at beginning of year 1,397,000 $ 14.48 1,261,000 $ 14.20 1,087,000 $ 15.01
Options granted 377,000 15.75 605,000 13.09 359,000 11.62
Options canceled (140,000) 24.13 (38,000) 18.02 (54,000) 22.12
Options exercised (116,000) 11.62 (431,000) 11.38 (131,000) 10.67
---------- -------- ---------- -------- --------- ---------
Balance at end of year 1,518,000 $ 14.13 1,397,000 $ 14.48 1,261,000 $ 14.20
========== ======== ========== ======== ========= =========
Options exercisable at end of year 596,000 568,000 775,000
========== ========== =========
44
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
Additional information about options outstanding as of December 29, 2002
is presented below:
Options Outstanding Options Exercisable
--------------------------------- --------------------
Weighted Average
--------------------
Remaining Weighted
Contractual Number Average
Range of Exercise Number of Life Exercise of Exercise
Price Options (in years) Price Options Price
- ----------------- --------- ---------- -------- ------- --------
$7.00 to $10.00 35,000 3.54 8.59 35,000 8.59
10.38 to 13.95 937,000 6.72 12.09 416,000 11.82
14.25 to 22.75 474,000 8.97 15.89 73,000 17.12
28.63 to 37.50 72,000 1.06 31.99 72,000 31.99
--------- --------
$7.00 to $35.75 1,518,000 7.08 14.13 596,000 14.71
========= ========
The Company applies APBO No. 25 in accounting for its plans, and
accordingly, no compensation cost has been recognized for any stock
options in the accompanying consolidated financial statements. Had the
Company determined compensation expense based upon the fair value at the
date of grant, as determined under Statement No. 123, the Company's net
earnings and net earnings per share would have been reduced to the pro
forma amounts summarized below:
2002 2001 2000
-------- -------- ---------
Pro forma earnings (loss) (in thousands) $ 2,720 $ (5,699) $ 9,840
======== ======== =========
Pro forma earnings (loss) per share
Basic $ .22 $ (.47) $ .84
======== ======== =========
Diluted $ .22 $ (.47) $ .82
======== ======== =========
The per share weighted average fair value of stock options granted during
2002, 2001 and 2000 was $10.13, $9.20 and $6.73, respectively, based upon
grant date valuations using the Black-Scholes option pricing model with
the following weighted average assumptions in 2002, 2001 and 2000:
expected dividend yield of 0.0% in all years; expected volatility of .83,
.88 and .64, respectively; risk-free interest rate of 2.8%, 4.3% and
5.1%, respectively; and an average expected option life of 4.9, 4.9 and
5.1 years, respectively.
The pro forma net earnings and earnings per share amounts reflect only
those options granted since January 1, 1995. Therefore, the full impact
of calculating compensation cost for stock options under Statement No.
123 is not reflected in the pro forma net earnings and earnings per share
information presented above because compensation cost is generally
recorded over the options' vesting period, generally four years, and
compensation cost for options granted prior to January 1, 1995 is not
considered.
The Company has a 401(k) defined contribution plan covering all full-time
employees. Plan participants can elect to contribute up to 15% of their
gross payroll. Company contributions are determined at the discretion of
the Board of Directors; during the years 2000 to 2002, the Company
matched 100% of employee contributions up to 4% of eligible earnings.
Company contributions to the plan were $0.8 million in 2002, $0.7 million
in 2001 and $0.7 million in 2000.
45
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(7) RELATED PARTY TRANSACTIONS
The Company recorded fee income of $2.7 million and $6.4 million, in 2001
and 2000, respectively, related to the consignment sale of vehicles
insured by Allstate Insurance Company ("Allstate") and recorded vehicle
sales of $23.2 million and $28.8 million, respectively, and cost of sales
of $21.8 million and $26.7 million, respectively, related to the purchase
of Allstate-insured vehicles under the purchase agreement method.
Allstate held 1,667,000 shares of the Company's common stock during the
years ended December 31, 2000; such shares were sold by Allstate in
February 2001.
See Note 8 for information about leases involving a member of the Board
of Directors.
(8) COMMITMENTS AND CONTINGENCIES
The Company leases its facilities and certain equipment under operating
leases with related and unrelated parties, which expire through August
2021. Rental expense for the years ended December 29, 2002, December 30,
2001 and December 31, 2000, was $20.8 million, $20.3 million and $15.9
million, respectively. The Company leases certain properties from a
member of its Board of Directors. The Company believes the terms of the
leases are no less favorable than those available from unaffiliated third
party lessors. Rental payments to the related party were $1.3 million,
$1.3 million and $1.2 million for 2002, 2001 and 2000, respectively.
In 2002, the Company began leasing certain equipment under capital
leases. Capital lease agreements entered into in 2002 totaled $4.7
million.
Minimum annual rental commitments for the next five years under
noncancelable operating and capital leases at December 29, 2002 are as
follows:
OPERATING LEASES
--------------------
UNRELATED RELATED CAPITAL
PARTIES PARTIES LEASES
--------- ------- --------
(dollars in thousands)
2003 $ 18,607 $ 1,506 $ 1,941
2004 15,576 1,442 1,904
2005 12,296 1,067 369
2006 10,198 1,082 -
2007 7,811 512 -
Thereafter 30,614 - -
--------- -------- --------
$ 95,102 $ 5,609 $ 4,214
========= ========
Less amount representing interest expense 307
--------
Future capital lease obligation $ 3,907
========
The Company has compensation agreements with certain officers and other
key employees.
The Company is subject to certain miscellaneous legal claims, which have
arisen during the ordinary course of its business. None of these claims
are expected to have a material adverse effect on the Company's financial
condition or operating results.
46
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(9) ACCUMULATED POSTRETIREMENT BENEFIT OBLIGATIONS
In connection with the acquisition of the capital stock of Underwriters
Salvage Company (USC), the Company assumed the obligation for certain
health care and death benefits for retired employees of USC. In
accordance with the provisions of Statement of Financial Accounting
Standards No. 106, "Employers' Accounting for Postretirement Benefits
Other than Pensions," costs related to the benefits are accrued over an
employee's service life.
The accumulated post retirement benefit obligation was determined using a
discount rate of 6.75% at December 29, 2002, 7.0% at December 30, 2001
and 7.5% at December 31, 2000 and an average health care cost trend rate
of approximately 8.5%, progressively decreasing to approximately 5.0% in
the year 2010 and thereafter. A one percentage point change in the
assumed health care cost trend rate would not have a material effect on
the postretirement benefit obligation or on the aggregate service cost
and interest cost components.
Reconciliation of funded status as of fiscal year-end:
DECEMBER 29, DECEMBER 30, DECEMBER 31,
2002 2001 2000
----------- ----------- -----------
(dollars in thousands)
Medical $(1,210) $ (854) $ (747)
Life Insurance (296) (332) (290)
------- ------- -------
Total APBO (1,506) (1,186) (1,037)
Plan assets -- -- --
------- ------- -------
Funded status (1,506) (1,186) (1,037)
Unrecognized net loss from past experience (1,230) (1,652) (1,964)
------- ------- -------
Accrued postretirement benefit cost included in
other liabilities $(2,736) $(2,838) $(3,001)
======= ======= =======
Reconciliation of accumulated postretirement benefit cost:
Accrued benefit cost $(2,838) $(3,001) $(3,262)
Income 28 63 84
Contributions/premium paid 74 100 177
------- ------- -------
Accumulated postretirement benefit cost $(2,736) $(2,838) $(3,001)
======= ======= =======
Effective January 20, 1994, the date of acquisition, the Company
discontinued future participation for active employees.
(10) SPECIAL CHARGES
During the first quarter 2001, the Company announced an organizational
realignment and recorded special charges of $6.0 million. As part of this
plan, the Company recognized $2.4 million in employee termination
47
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
benefits associated with a reduction in workforce along with $1.7 million
related to the abandonment of certain facilities. The remaining balance
includes amounts related to repositioning the Company's towing operations
and other restructuring charges.
The Company also recorded special charges of $2.4 million in the fourth
quarter of 2001. This included the write-down of $1.4 million of
unamortized leasehold improvements due to changes in the estimated useful
lives of the assets. Also included was a $1.0 million write-off of
amounts due from the Company's now bankrupt insurance carrier for damages
sustained as a result of the airplane crash at the Company's Sacramento,
California facility.
During the fourth quarter of 2001, the Company reviewed the adequacy of
its accruals for special charges. The facilities closing accrual was
increased by $0.8 million. The accrual for workforce reduction was
decreased by $0.4 million and the accrual for the towing operations and
other charges was decreased by $0.8 million. The changes in the accruals
for special charges related to the organizational realignment are
summarized below.
WORKFORCE FACILITY TOWING
REDUCTION CLOSINGS AND OTHER TOTAL
--------- -------- --------- -----
(dollars in thousands)
Special charges recorded in first quarter of 2001 $ 2,376 $ 1,739 $ 1,932 $ 6,047
Utilization of accrual in 2001 (1,878) (1,016) (1,067) (3,961)
Adjustments recorded in fourth quarter of 2001 (423) 838 (815) (400)
------- ------- ------- -------
Total accrued special charges at December 30, 2001 $ 75 $ 1,561 $ 50 $ 1,686
Utilization of accrual in 2002 (75) (919) (7) (1,001)
------- ------- ------- -------
Other - - 21 21
------- ------- ------- -------
Total accrued special charges at December 29, 2002 $ - $ 642 $ 64 $ 706
======= ======= ======= =======
The accrued special charges are included as a component of accrued
liabilities as of December 29, 2002.
(11) SUBSEQUENT EVENTS
On January 10, 2003, the Company acquired Salvage Management Inc. (SMI),
an operator of two auto salvage facilities in Buffalo and Rochester, New
York, for $2.1 million in cash. The acquisition agreement provides for
additional funds to be paid to the seller, in the future, depending upon
the achievement of various performance expectations. The acquisition was
accounted for as a purchase business combination, and the results of
operations will be included in the Company's future consolidated
financial statements from the date of acquisition.
On February 15, 2003, the Company borrowed $30.0 million under its credit
facility. The credit facility was a one-year revolver that converted on
February 15, 2003, into a four-year term loan carrying a variable rate
based upon LIBOR. During the first quarter of 2002, the Company entered
into an interest rate swap to mitigate its exposure to interest rate
fluctuations. The interest rate swap effectively fixes the Company's
interest rate at 5.6%. The aggregate principal balance of the loan will
be repaid in sixteen consecutive equal quarterly installments commencing
on March 31, 2003.
In March 2003, the Company signed a purchase agreement to acquire a
salvage pool for an initial investment of approximately $3.0 million. The
acquisition agreement provides for additional funds to be paid to the
seller, in the future, depending upon the achievement of various
performance expectations. The completion of this agreement is contingent
upon the seller's ability to satisfy certain operational requirements.
48
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
On March 5, 2003, the Company announced that it had initiated a
previously authorized share repurchase program. As of March 14, 2003, the
Company had purchased approximately 757,000 shares, of its common stock
in the open market, or in block transactions, for a total cost of $7.4
million.
(12) QUARTERLY FINANCIAL DATA (UNAUDITED)
Summarized unaudited financial data for 2002 and 2001 are as follows:
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
------- ------- -------- --------
(dollars in thousands except per share amounts)
2002
Revenue $ 69,220 $ 59,750 $ 52,786 $ 52,441
Earnings from operations 2,843 2,773 1,075 735
Net earnings 1,512 1,356 639 501
Basic earnings per share .12 .11 .05 .04
Diluted earnings per share .12 .11 .05 .04
2001
Revenue $ 77,844 $ 75,514 $ 70,966 $ 68,666
Earnings (loss) from operations (2,701) 3,837 25 (6,370)
Net earnings (1,645) 2,171 (206) (4,680)
Basic earnings (loss) per share (.14) .18 (.02) (.39)
Diluted earnings (loss) per share (.14) .18 (.02) (.39)
The sum of earnings per share for the four quarters of 2002 does not
equal the full year amount due to rounding and the impact of changes in
the average shares outstanding.
49
INDEX TO EXHIBITS
Exhibit No.
- ----------
10.179 Employment Agreement dated January 31, 2003 between the Company and
Marcia A. McAllister.
21 Subsidiaries of the Registrant.
23 Consent of KPMG LLP.
24 Power of Attorney.
99.1 Certification of Thomas C. O'Brien, Chief Executive Officer, pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002.
99.2 Certification of Scott P. Pettit, Chief Financial Officer, pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002.
50