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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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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 28, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number 0-19594
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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)
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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 Registrant's voting stock, based on the
closing price of the Registrant's Common Stock as of June 29, 2003, was
approximately $50,822,000. For purposes of this calculation, the Registrant's
directors, executive officers and 5% shareholders have been assumed to be
affiliates. As of March 1, 2004, the Registrant had outstanding 11,538,299
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, scheduled to be held on
June 16, 2004, are incorporated herein by reference in Part III hereof.
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INSURANCE AUTO AUCTIONS, INC.
FORM 10-K
TABLE OF CONTENTS
PAGE
----
PART I.
Item 1. Business................................................................................... 3
Item 2. Properties................................................................................. 12
Item 3. Legal Proceedings.......................................................................... 12
Item 4. Submission of Matters to a Vote of Security Holders........................................ 13
PART II.
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters
and Issuer Purchases of Equity Securities.................................................. 14
Item 6. Selected Financial Data.................................................................... 15
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations...... 16
Item 7A. Quantitative and Qualitative Disclosures about Market Risk................................. 22
Item 8. Financial Statements and Supplementary Data................................................ 23
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure....... 23
Item 9A. Controls and Procedures.................................................................... 23
PART III.
Item 10. Directors and Executive Officers of the Company............................................ 24
Item 11. Executive Compensation..................................................................... 24
Item 12. Security Ownership of Certain Beneficial Owners and Management............................. 24
Item 13. Certain Relationships and Related Transactions............................................. 24
Item 14. Principal Accountant Fees and Services..................................................... 24
PART IV.
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K........................... 25
2
PART I
ITEM 1. BUSINESS.
This Report contains forward-looking statements that are 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 statements. In some cases, you can identify forward looking
statements by 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." You should not place undue
reliance on any forward-looking statements. Except as expressly required by the
federal securities laws, the Company undertakes no obligation to publish, update
or revise any forward-looking statements, whether as a result of new
information, future events, changed circumstances or any other reason.
OVERVIEW
Insurance Auto Auctions, Inc., together with its subsidiaries, 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 salvage and
theft-recovered 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:
fixed fee consignment, percentage of sale 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.
The Company has grown through the acquisition of additional auto
salvage pool operations and opening of new facilities in strategic locations,
resulting in a network of 75 sites in 31 states as of March 1, 2004. A majority
of the vehicles currently processed by the Company are sold under the fixed fee
and percentage of sale consignment arrangements. In 2003, 52% of the vehicles
processed by the Company were sold under the fixed fee consignment method, 42%
were sold under the percentage of sale consignment method, and 6% were sold
under the purchase agreement method.
The Company obtains the majority of its supply of vehicles from
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 2003, vehicles supplied by the Company's three
largest suppliers accounted for approximately 36% of the Company's unit sales, a
6% decrease from 2002. The largest suppliers, State Farm Insurance, Farmers
Insurance, and Allstate Insurance accounted for approximately 16%, 12%, and 8%,
respectively, of the Company's 2003 unit sales.
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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. Its common stock is
traded on the Nasdaq National Market(R) under the symbol "IAAI". In 1997, the
Company reincorporated in the State of Illinois.
FIXED FEE CONSIGNMENT SALE METHOD
In 2003 and 2002, the percentage of vehicles processed by the Company
that were sold under the fixed fee consignment sale method was approximately 52%
and 41%, respectively. Under this sale method, the Company charges fees to the
insurance company supplier for specific services. These fees typically include a
salvage sales fee plus towing, title processing and storage fees. With this
method of sale, the Company acts as an agent for the insurance company, arranges
for the salvaged vehicle to be towed to its facility and processes it for sale.
Because the Company never takes ownership of the vehicle, the Company's revenues
per vehicle from consignment sales are received only from these fixed fees
rather than from the revenue from the sale of the vehicle. As a result,
exclusive of the buyer fees, revenue recognized per vehicle under the fixed fee
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.
PERCENTAGE OF SALE CONSIGNMENT METHOD
In 2003 and 2002, the percentage of vehicles processed by the Company
that were sold under the percentage of sale consignment method was approximately
42% and 49%, respectively. Pursuant to this method of sale, the Company acts as
an agent for the insurance company and receives a negotiated percentage of the
vehicle selling price. As an agent, the Company arranges for the salvaged
vehicle to be towed to its facility and processes it for sale for a fee based on
a percentage of sale 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. Because
the Company never takes ownership of the vehicle, the Company's revenues per
vehicle from percent of sale consignment sales are generated from these sales
fees rather than from the revenue from the sale of the vehicle. As a result,
exclusive of the buyer fees, revenue recognized per vehicle under the percentage
of sales consignment method 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 2003 and 2002, the percentage of vehicles processed by the Company
that were sold under the purchase agreement method of sale was approximately 6%
and 10%, 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, or ACV, which is equal to the estimated pre-accident fair
value of the vehicle. ACV for any given vehicle depends 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 price of the vehicle.
The cost of the vehicle under this method is reflected in the vehicle cost line
of cost of sales.
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SERVICES PROVIDED TO ALL SUPPLIERS
The process of salvage disposition through the Company's system begins
at the first report of loss, or when a stolen vehicle has been subsequently
recovered. An insurance company representative consigns 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 tool, vehicle providers have 24-hour access to their total-loss data. The
information provided through this system 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 system 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 effectively. CSA
Today's daily updates provide current and meaningful data to the Company's
vehicle providers.
The Company also offers a total-loss appraisal service, FastTrack(R).
FastTrack 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 consignment 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, or 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 determines that a vehicle is a total loss, it can easily be
moved to one of the Company's vehicle storage areas. 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 of
time. 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, 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
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comply with DMV requirements for these vehicles. This may involve re-registering
the vehicle and obtaining a salvage certificate, after which the Company is
entitled to sell the vehicle.
The Company generally conducts auctions either every week or bi-weekly
at each of its locations. These auctions are either live or sealed bid. Auction
lists can be viewed online on the Company's 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 of
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 an insurance company supplier to consign all of its salvage vehicles
to a call center. This call center enables the Company to distribute vehicle
consignments 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 of sale.
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 various
other services. Management also strives to expand revenue by (i) increasing
market share at existing sites;
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(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 prospective 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. As of
March 1, 2004, the Company operated 75 sites in 31 states.
The Company intends to continue to pursue acquisitions of strategically
located salvage pools. Through such acquisitions, it seeks to enhance
geographically broad-based relationships with key insurance company suppliers,
in addition to offering its specialized salvage services to new insurance
companies and other 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 its existing operations. Among
other things, future acquisitions 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 allows the Company to capitalize 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 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 service providers 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 consignment 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
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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 customer 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 solicit 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 address 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, entitled
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 its products and services.
Using historical data supplied by prospective suppliers, the Company
can provide 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 turn-key claims processing
services.
In addition to providing insurance companies and certain non-insurance
company suppliers with a means of disposing salvage vehicles, the Company also
offers services intended to increase the net amount of salvage sale proceeds
received by suppliers while also reducing the time required to receive net
proceeds. The Company seeks to become an integral part of its suppliers' salvage
processes, 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 insurance company branch offices 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 on a national basis or within an
expanded geographic area.
The Company sells the majority of its vehicles through live auctions
and maintains databases that contain information regarding over 37,500
registered buyers. No single buyer accounted for more than 10% of the Company's
revenue in 2003, 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 for purchased vehicles. Vehicles are sold "as is" and
"where is." In advance of an auction, sales notices listing the vehicles to be
auctioned on a particular day at a particular location are usually available at
the auction facility or online on the Company's 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
The Company faces intense competition for the supply of salvage
vehicles as well as competition from processors of vehicles from other regional
salvage pools. 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 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 vehicles without the use of service
providers such as the Company, they may in the future decide to dispose of their
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salvage directly to end users. The Company may not be able to compete
successfully against current or future competitors, which could impair its
ability to grow and achieve or sustain profitability.
GOVERNMENTAL REGULATION
The Company's operations are subject to regulation, supervision and
licensing under various federal, state and local agencies statutes and
ordinances. 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. See "Factors That May Affect Future
Results."
ENVIRONMENTAL REGULATION.
The Company's operations are subject to federal, state and local
environmental laws and regulations. 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. To date, the Company has not incurred significant
expenditures for preventive or remedial action with respect to contamination or
the use of hazardous materials. Environmental laws and regulations, however,
could become more stringent over time and the Company may be subject to
significant compliance costs in the future. Future contamination at any one or
more of the Company's facilities, or the potential contamination by previous
users of certain acquired facilities, create the risk, however, that the Company
could incur significant 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.
EMPLOYEES
At March 1, 2004, the Company employed 979 full-time persons. The
Company is not subject to any collective bargaining agreements and believes that
its relationship with its employees is good.
AVAILABLE INFORMATION
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 a Web site that
contains reports, proxy and information statements, and other information
regarding issuers, including the Company, 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
Web-site (http://www.iaai.com) copies of 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
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soon as reasonably practicable after the Company electronically files such
materials with, or furnishes them 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.
Period Fluctuations. The Company's operating results have in the past
and may in the future fluctuate significantly depending on a number of factors.
These factors include, but are not limited to, the ACV 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 buyer 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, but are not limited to, driving patterns,
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. Future decreases in the quality and
quantity of vehicle inventory, and in particular the availability of newer and
less-damaged vehicles, especially for inventory disposed of under the purchase
agreement method of sale, would have a material adverse effect on the operating
results and financial condition of the Company. 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. Furthermore, revenues for any future quarter are not
predictable with any significant degree of accuracy, and the Company's operating
results may vary significantly due to its relatively fixed expense levels. Due
to all of the foregoing factors, it is likely that in some future quarters the
Company's operating results will fall below the expectations of public market
analysts and investors. Any failure to meet expectations of securities analysts
or the market in general could adversely affect the market price of the
Company's common stock.
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. 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
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 vehicles 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. The Company may not be able to compete
successfully against current or future competitors, which could impair its
ability to grow and achieve or sustain profitability.
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 2003, vehicles supplied by the Company's
three largest suppliers accounted for approximately 36% of the Company's total
unit sales. The largest suppliers, State Farm Insurance, Farmers Insurance, and
Allstate, accounted for approximately 16%, 12%, and 8%, respectively, of the
Company's unit sales. A loss or reduction in the number of vehicles from any of
these suppliers, or adverse changes in the agreements that these suppliers have
with the Company, could have a material adverse effect on the Company's
operating results, financial condition and quantity or quality of inventory.
Enterprise-Wide System Redesign Project. The Company developed a new
enterprise-wide application to manage its salvage and auction process. The new
Web-based system is intended to support and streamline vehicle registration and
tracking, financial reporting, transaction settlement, vehicle title transfer,
and branch/headquarters communications. Development and testing of the
enterprise-wide application began in the third quarter of 2001. The Company
began rolling out the new system to its branches during the third quarter of
2002. Though the Company encountered some unanticipated issues during the
implementation phase, which delayed completion of the project and caused the
Company to incur additional costs beyond the project's original estimates, the
Company completed the roll-out of the new system by the end of 2003. However,
there remain inherent risks associated with the application and continued
enhancements of the new system that could continue to adversely impact the
Company's ability to achieve cost savings and increased profitability.
10
Governmental Regulation. The Company's operations are subject to
regulation, supervision and licensing under various federal, state and local
agencies statutes and ordinances. 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 could result in
increased costs, reduced salvage vehicle prices and decreased profitability for
the Company. In addition to the regulation of sales and acquisitions of
vehicles, the Company is also subject to various local zoning requirements with
regard to the location of its auction and storage facilities. These zoning
requirements vary from location to location. Failure to comply with present or
future regulations or changes in existing regulations could have a material
adverse effect on the Company's operating results and financial condition.
Provision of Services as a National or Regional Supplier. The provision
of services to insurance company suppliers on a national or regional basis
requires that the Company expend resources and dedicate management to a small
number of individual accounts, resulting in a significant amount of fixed costs.
The development of a referral- based national network service, in particular,
has required the devotion of financial resources without immediate reimbursement
of these expenses by the insurance company suppliers. The Company may not
realize sufficient revenue from these services to cover these expenses, in which
case, its results of operations may be materially adversely affected.
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. The Company may not be able to continue to acquire new facilities or
add additional facilities on terms economically favorable to the Company, or at
all, or 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 the 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. In the future, the Company
will also 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, train and manage 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 will 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. Any failure to meet expectations of securities analysts or the
market in general could adversely affect the market price of the Company's
common stock.
Environmental Regulation. The Company's operations are subject to
federal, state and local environmental laws and regulations. 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. To date, the
Company has not incurred significant expenditures for preventive or remedial
action with respect to contamination or the use of hazardous materials.
Environmental laws and regulations, however, could become more stringent over
time and the Company may be subject to significant compliance costs in the
future. Future contamination at any one or more of the Company's facilities, or
the potential contamination by previous users of certain acquired facilities,
create the risk, however, that
11
the Company could incur significant 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 on September 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, Utah,
Virginia, Washington and Wisconsin. The Company owns 12 properties located in
Illinois, Kansas, Massachusetts, Michigan, New Mexico, New York, Oklahoma, South
Carolina and Texas. All of these properties are used primarily for auction and
storage purposes. Management believes that the Company's properties are adequate
for its current needs and that suitable additional space will be available on
reasonably acceptable terms 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.
Emery Air Freight Accident
On February 4, 2003, the Company filed a lawsuit in the Superior Court
of California, County of Sacramento, 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
Insurance Company, 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.
Proposed Relocation of the Woodinville Branch
On September 16, 2003, the Company received notice from the King County
Wastewater Treatment Division, Department of Natural Resources, that King County
was in the process of building a water treatment facility and that the Company's
Woodinville, Washington branch was located within the boundaries of the likely
site for placement of this facility. In the notice, the Company was advised that
if the site was selected, King County would pursue acquisition of the property
from the Company's landlord, Waterman Properties.
On October 3, 2003, the Company received further notice from King
County that it had extended an offer to purchase the Woodinville site from
Waterman Properties and that, if the offer was accepted, the Company would be
expected to enter into a lease arrangement with King County until such time as
King County directed it to vacate the
12
facility. The notice stated that the Company would be entitled to at least
ninety (90) days notice prior to being required to vacate. In an open house
meeting on December 1, 2003, King County announced that it expected all property
owners and tenants to vacate the proposed water treatment site no later than the
end of 2004. To date, the Company has not received formal notice of this
timeline from King County; instead, the Company was advised of the timeline from
counsel who attended the open house meeting.
While the timeline in which the Company would be required to vacate is
uncertain, the Company considers it likely to occur by the end of 2004. King
County and the Company's landlord remain in negotiations for the sale of the
property. The Company has retained counsel and other consultants to assist in
its relocation effort, to protect the Company's interests in the value of
leasehold improvements made to the premises, and to recover costs resulting from
the relocation. Pursuant to applicable law, the Company is entitled to
reimbursement of certain costs associated with the relocation of its business
from this site to another suitable location.
Under the Company's lease with Waterman Properties, it is entitled to
the value of its leasehold improvements. There is currently a dispute between
the Company and Waterman Properties regarding how to value the improvements made
to the Woodinville facility. On March 4, 2004, the Company filed a lawsuit in
Snohomish County Superior Court against King County and Waterman Properties,
asking the Court to appoint a receiver to manage a portion of the funds (up to
$1.5 million) that Waterman Properties might receive from King County and to
award the Company a portion of the condemnation award in an amount equal to the
value of its leasehold improvements. The outcome of this action is uncertain at
this time.
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 28, 2003.
13
PART II
ITEM 5. MARKET FOR COMPANY'S COMMON EQUITY, RELATED SHAREHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES.
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
sales prices per share for the Company's common stock for the periods indicated.
At March 1, 2004, the Company had 392 holders of record of its common stock,
approximately 1,380 beneficial owners and 11,538,299 shares outstanding.
FISCAL 2003 FISCAL 2002
------------------ -----------------
HIGH LOW HIGH LOW
------ ------ ------ ------
First Quarter $17.05 $ 8.64 $17.33 $14.30
Second Quarter 14.85 10.94 22.38 16.53
Third Quarter 14.80 10.70 20.36 14.51
Fourth Quarter 14.85 10.95 18.35 14.63
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 financing
agreement limits the Company's ability to pay cash dividends to no more than 25%
of the Company's consolidated net income earned over a specified period.
The Company records treasury stock purchases using the cost method of
accounting. In March 2003, the Company repurchased 757,409 shares of its common
stock at an average price of $9.77 per share and a total cost of $7.4 million.
During the second quarter of 2003, the Company repurchased an additional 49,800
shares at an average price of $12.27 per share and a total cost of $0.6 million.
The Company did not repurchase any shares during the remainder of the year. On a
year-to-date basis, the Company has repurchased 807,209 shares at an average
price of $9.93 per share and a total cost of $8.0 million.
ISSUER PURCHASES OF EQUITY SECURITIES
(c) TOTAL NUMBER OF (d) MAXIMUM
(a) TOTAL SHARES PURCHASED AS NUMBER OF SHARES
NUMBER OF (b) AVERAGE PART OF PUBLICLY THAT MAY YET BE
SHARES PRICE PAID ANNOUNCED PLANS OR PURCHASED UNDER THE
PERIOD PURCHASED PER SHARE PROGRAMS(1) PLANS OR PROGRAMS
- -------------- ---------- ----------- ------------------- ----------------------
First quarter 757,409 $ 9.77 757,409 742,591
Second Quarter 49,800 12.27 49,800 1,442,791
Third Quarter - - - 1,442,791
Fourth quarter - - - 1,442,791
(1)The Company's Board of Directors authorized the purchase of 1,500,000 shares
of the Company's common stock in September 2000 and an additional 750,000 shares
in April 2003, for a combined authorization of 2,250,000 shares. Purchases may
be made from time to time in the open market or in privately negotiated
transactions, subject to the requirements of applicable laws, and will be
financed with existing cash and cash equivalents, and cash from operations. As
of December 28, 2003, the Company had purchased 807,209 shares pursuant to this
authorization at an average price of $9.93 per share. The repurchase plan
expires upon the repurchase of all authorized shares.
14
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 2003, 2002 and 2001
and the balance sheet data as of December 28, 2003 and December 29, 2002 below
have been derived from the Company's Consolidated Financial Statements included
elsewhere herein that have been audited by KPMG LLP, independent certified
public accountants, whose report is also 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.
2003 2002 2001 2000 1999
--------- --------- --------- --------- ---------
(in thousands, except per share amounts)
Selected Statement of Earnings Data:
Revenue $ 209,650 $ 234,197 $ 292,990 $ 333,176 $ 317,391
Earnings (loss) from operations(1) 5,065 7,426 (5,209) 17,894 23,904
Net earnings (loss) 2,332 4,008 (4,360) 10,489 13,705
Earnings (loss) per share - diluted .20 .32 (.37) .88 1.18
Weighted average common
shares - diluted 11,732 12,531 11,940 11,950 11,623
2003 2002 2001 2000 1999
-------- -------- -------- -------- --------
(in thousands)
Selected Balance Sheet Data:
Working capital $ 20,979 $ 23,787 $ 25,286 $ 53,204 $ 46,989
Total assets 287,793 259,650 278,204 265,707 248,132
Long-term debt, excluding
current installments 16,887 59 103 20,141 20,180
Total shareholders' equity $189,086 $194,102 $188,994 $187,741 $175,286
(1)Loss from operations for the fiscal year 2001 includes the following
restructuring and asset impairment charges: (1) $1.9 million for severance
costs; (2) $2.6 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-down
of $1.4 million of unamortized leasehold improvements; and (5) a $1.0 million
write-off of amounts due from the Company's previous insurance carrier, which
was placed in liquidation. Earnings from operations for the fiscal year 2000
includes $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.
15
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The discussion in this section contains forward-looking statements that
are based on the beliefs of the Company's management, as well as assumptions
made by, and information currently available to, management. The Company's
actual results could differ materially from those discussed or implied herein.
The following discussion and analysis should be read in conjunction
with the Selected Financial Data and the consolidated financial statements and
notes thereto appearing elsewhere in this Report.
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.
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 75 sites as
of March 1, 2004. In 2003, the Company acquired branches in Buffalo and
Rochester, New York; Wichita, Kansas; Salt Lake City, Utah; Wilmington, North
Carolina and Orlando, Florida and also opened new operations in Dothan, Alabama
and Little Rock, Arkansas. In January 2004, the Company opened a new operation
in Tucson, Arizona.
RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 28, 2003 COMPARED TO THE YEAR ENDED DECEMBER 29, 2002
Revenues decreased 10% to $209.7 million for the year ended December
28, 2003, from $234.2 million in 2002. The decline in revenues was 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 6% of the total vehicles sold in 2003, versus approximately 10% in
2002. Fee income for 2003 increased 4% to $169.7 million versus $162.8 million
in 2002. Fee income increased primarily due to higher unit volumes.
Cost of sales decreased $20.5 million to $170.5 million for the year
ended December 28, 2003, versus $191.0 million for last year. Vehicle cost of
$35.3 million in 2003 was $30.2 million less than $65.5 million in 2002. This
decrease is primarily related to the Company's shift away from vehicles sold
under the purchase agreement method. Branch cost of $135.2 million increased
$9.7 million in 2003 from $125.5 million in 2002. New
16
branches opened in 2003 account for approximately $7.0 million of additional
branch costs. Excluding the impact of new branches, branch costs increased $2.7
million primarily in tow and depreciation expense.
Gross profit of $39.2 million for the year ended December 28, 2003
decreased $4.0 million, or 9%, from $43.2 million for 2002.
Selling, general and administrative expense of $30.2 million in 2003
was $2.5 million more than the expense of $27.7 million in 2002. This increase
was primarily due to expenses associated with the implementation of the
Company's new automated salvage auction processing system. Amortization of
intangible assets is now included within this category of expense and amounted
to $0.5 million in 2003 and $0.3 million in 2002. 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 28, 2003 were
$3.9 million, versus $8.1 million for last year. Business transformation costs
include expenses related to the Company's systems redesign project, the business
process re-engineering project, severance costs and accelerated depreciation
associated with the Company's former 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
"Significant Items Affecting Comparability" below.
Interest expense of $1.5 million for the year ended December 28, 2003
increased $0.8 million from $0.7 million for 2002. 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 unused portion of the Company's credit facility.
In February 2002, the Company used excess cash and proceeds from the sale of
investments to repay its $20.0 million of 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. The credit facility was a one-year revolver that
converted on February 15, 2003 into a four-year term loan. On February 15, 2003,
the Company borrowed the entire $30.0 million under the unsecured credit
facility. At December 28, 2003, the outstanding balance related to the term loan
with its lenders was $24.4 million. On March 19, 2004, the Company entered into
a Second Amended and Restated Credit Agreement with its lenders, which is
described in "Financial Condition and Liquidity" below.
Income tax expense for the year 2003 was $1.3 million, a decrease of
$1.7 million from the income tax expense of $3.0 million for 2002. The Company's
effective tax rate for the years 2003 and 2002 was 36% and 43%, respectively.
The Company expects that its effective tax rate in 2004 will return to the 41%
range.
The Company's net earnings for the year 2003 was $2.3 million, a
decrease of $1.7 million from the Company's net earnings of $4.0 million for the
fiscal year 2002.
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. 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.
Cost of sales decreased $63.6 million to $191.0 million for the year
ended December 29, 2002, versus $254.6 million in 2001. Vehicle cost of $65.5
million in 2002 was $66.2 million less than $131.7 million in 2001. 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 increased
$2.6 million in 2002 from $122.9 million in 2001. New branches opened in 2002
account for approximately $4.0 million of additional branch costs. Excluding the
impact of new branches, branch costs decreased $1.4 million from 2001, primarily
in tow, auction and yard costs.
17
In 2001, the Company recorded a 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 $27.7 million for 2002
was less than the expense of $32.2 million in 2001. This decrease is the result
of lower amortization of intangible assets, information services and general
overhead expenses. Amortization of intangible assets and goodwill was included
within this category of expense and amounted to $0.3 million in 2002 and $4.1
million in 2001. 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 2001. Business transformation costs
include expenses related to the Company's 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
"Significant Items Affecting Comparability" below.
Interest expense was $0.7 million for the year ended December 29, 2002,
a decrease of $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 unused portion of the Company's credit facility. In February
2002, the Company used excess cash and proceeds from investments to repay its
$20.0 million of 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 was $3.0 million, an increase of
$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.
SIGNIFICANT ITEMS AFFECTING COMPARABILITY
The Company has recorded certain various charges that have affected the
comparability of its reported results of operations. In addition, the Company
recorded amortization of goodwill in 2001, which ceased in 2002. The charges and
amortization impacted earnings from operations and net earnings (loss) as
follows (in thousands):
2003 2002 2001
------- ------- -------
Provision for losses on vehicles purchased
under terminated agreements (included
in cost of sales)(a) $ - $ - $ 1,248
Business transformation costs (b) 3,902 8,067 3,451
Restructuring and asset impairment
charges (c) - - 8,016
Amortization of goodwill (d) - - 3899
------- ------- -------
Impact on earnings (loss) from operations 3,902 8,067 16,614
Tax benefits relating to above items 1,609 3,469 4,486
------- ------- -------
Impact on net earnings (loss) $ 2,293 $ 4,598 $12,128
======= ======= =======
18
(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 prior agreements.
(b) Business transformation costs include expenses relating to the Company's
systems redesign project, the business process re-engineering project,
severance costs and accelerated depreciation pertaining to the Company's
prior computer infrastructure.
(c) Restructuring and asset impairment charges recorded during 2001 include:
(1) $1.9 million for involuntary severance costs; (2) $2.6 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; and (5) a $1.0 million
write-off of amounts due from the Company's previous insurance carrier,
which was placed in liquidation.
(d) Goodwill recorded in connection with business combinations had been
amortized in accordance with APB Opinion No. 17. Beginning in 2002, in
accordance with FASB Statement No. 142, amortization of goodwill is no
longer required, but the carrying value of goodwill is subject to
write-down in the event of impairment.
FINANCIAL CONDITION AND LIQUIDITY
At December 28, 2003, the Company had current assets of $80.6 million,
including $15.5 million of cash and cash equivalents, current liabilities of
$59.6 million and working capital of $21.0 million, which represents a $2.8
million decrease from December 29, 2002.
The Company's accounts receivable increased $2.8 million from $45.6
million in 2002 to $48.4 million in 2003. Accounts receivable consists of
balances due from the Company's salvage providers, typically large insurance
companies. Accounts receivable include 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 28, 2003, the Company's inventory balance was $13.6
million, a $2.4 million increase from 2002. 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 2003, the increase in
inventory was due to both an increase in purchase agreement inventory and an
increase in inventoried tow costs associated with the increase in consignment
vehicles on hand.
On June 25, 2003, the Company entered into an Amended and Restated
Credit Facility. This amended facility added a $20.0 million revolving line of
credit, carrying a variable rate based on LIBOR, to the existing term loan. This
amended and restated facility also modified all existing covenants, except for
the rent expense covenant. The amended credit facility also granted the Company
latitude to purchase additional shares of its outstanding common stock. At
December 28, 2003, the Company had not borrowed any funds against the additional
$20.0 million revolving line of credit.
At December 28, 2003, the Company's long-term debt, including current
installments, consisted of $0.1 million in notes payable, bearing interest at a
rate of 8.0%, and $24.4 million borrowed under its term 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 interest rate based upon LIBOR. The
aggregate principal balance of the loan is required be paid in sixteen
consecutive equal quarterly installments commencing on March 31, 2003. At
December 28, 2003, the Company was in compliance with its credit agreement
covenants.
On March 19, 2004, the Company entered into a Second Amended and
Restated Credit Agreement relating to its senior credit facility. The agreement
amends certain financial covenants, including those applicable as of December
28, 2003 and those applicable during fiscal 2004, provides that advances made
under the facility will be subject to a monthly asset coverage test equal to 85%
of eligible receivables, and requires the Company to provide collateral for
amounts due under the facility in the event it fails to meet certain financial
projections for two consecutive quarters. As of March 19, 2004, the Company's
senior credit facility consisted of a $20.0 million revolving credit facility
and a $22.5 million term credit facility. As of March 19, 2004,
19
the Company has borrowed $9.0 million against the revolving line of credit and
$22.5 million under the term credit facility.
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 28, 2003 for the
post-retirement benefits liability is approximately $2.6 million.
In 2002, the Company entered into a capital lease agreement to obtain
the use of 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. In 2003, property and equipment additions of $3.4
million resulted from capital lease transactions entered into during the year.
At December 28, 2003, the Company's total future obligation under the capital
lease is $4.7 million.
Capital expenditures were approximately $16.3 million for the year
ended December 28, 2003. 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
$3.4 million of new computer equipment obtained through capital lease agreements
entered into during 2003.
The Company acquired six salvage pools in fiscal 2003. All of these
acquisitions were accounted for using the purchase method of accounting. The
results of operations of the acquired businesses are included in the Company's
consolidated financial statements from the dates of acquisition. In January
2003, the Company acquired Salvage Management Inc., an operator of two auto
salvage facilities in Buffalo and Rochester, New York. In April 2003, the
Company acquired Wichita Insurance Pool, Inc., located in Wichita, Kansas. In
June 2003, the Company acquired Wilmington Salvage and Disposal Company, Inc.
located in Wilmington, North Carolina and the Damaged Vehicle division of
Manheim's Orlando Orange County Auto Auction, located in Orlando, Florida. All
of these acquisitions leverage the Company's existing regional coverage in those
markets. In April 2003, the Company also acquired Mountain States Salvage Pool,
which is located in Ogden, Utah. This acquisition represents penetration into a
new market. The total cost of adding these six new facilities was less than $7.9
million.
The Company's Board of Directors authorized the purchase of 1,500,000
shares of the Company's common stock in September 2000 and an additional 750,000
shares in April 2003, for a combined authorization of 2,250,000 shares.
Purchases may be made from time to time in the open market or in privately
negotiated transactions, subject to the requirements of applicable laws, and
will be financed with existing cash and cash equivalents, and cash from
operations. As of December 28, 2003, the Company had purchased 807,209 shares
pursuant to this authorization at an average price of $9.93 per share.
In 2003, the Company initiated a restricted stock program. Under the
Company's restricted stock program, common stock of the Company may be granted
at no cost to certain officers and key employees. Plan participants are entitled
to cash dividends and to vote their respective shares. Restrictions limit the
sale or transfer of these shares during a four year period whereby the
restrictions lapse on 25% of the shares each year. Upon issuance of stock under
the plan, unearned compensation equivalent to the market value at the date of
grant is charged to shareholders' equity and subsequently amortized to expense
over the four-year restriction period. In 2003, 66,500 restricted shares were
granted. Compensation expense in 2003 was less than $0.1 million. In fiscal
2003, there were no forfeitures of restricted shares.
The Company believes that existing cash and cash equivalents, as well
as cash generated from operations will be sufficient to fund capital
expenditures and provide adequate working capital for operations for the next
twelve months. Part of the Company's plan is to pursue continued growth,
possibly through new facility start-ups or acquisitions, and the development of
new claims processing services. At some time in the future, the Company will
likely require additional financing. There can be no assurance that additional
financing, if required, will be available on favorable terms.
20
SUMMARY DISCLOSURE ABOUT CONTRACTUAL OBLIGATIONS
The following table reflects a summary of the Company's cash
obligations for each of the next five years and thereafter as of December 28,
2003:
2004 2005 2006 2007 2008 Thereafter Total
-------- -------- -------- -------- -------- ---------- --------
(dollars in thousands)
Long-term debt:
Unsecured term loan $ 7,500 $ 7,500 $ 7,500 $ 1,875 $ - $ - $ 24,375
Notes payable 47 12 - - - - 59
Capital leases(1) 2,824 1,229 331 297 32 - 4,713
Operating leases(2) 21,719 18,391 16,047 13,061 10,898 41,782 121,898
Other long-term obligations:
Non-compete agreements 345 325 313 280 240 - 1,503
-------- -------- -------- -------- -------- -------- --------
Total $ 32,435 $ 27,457 $ 24,191 $ 15,513 $ 11,170 $ 41,782 $152,548
======== ======== ======== ======== ======== ======== ========
(1) Includes related interest expense.
(2) Includes amounts due to both unrelated and related parties.
CRITICAL ACCOUNTING POLICIES
The preparation of the consolidated financial statements in conformity
with accounting principles generally accepted in the United States requires
management to make estimates and judgments that affect the reported amounts of
assets, liabilities, revenues and expenses, as well as the related disclosures.
The Company bases its estimates on historical experience and on various
assumptions that are believed to be reasonable under the circumstances, the
results of which form the basis for making judgments about the carrying values
of assets and liabilities that are not readily apparent from other sources.
Actual results may differ from these estimates. As such, the Company
continuously evaluates its estimates. The Company believes the following
critical accounting policies affect its more significant judgments and estimates
used in the preparation of its consolidated financial statements.
GOODWILL
As of December 28, 2003 the Company had $135.1 million of net 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
As of December 28, 2003, the Company had $2.1 million of deferred tax
assets recorded. The deferred tax assets relate to net operating losses incurred
in several of the states where the Company 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.
21
LONG-LIVED ASSETS AND CERTAIN IDENTIFIABLE INTANGIBLES
As of December 28, 2003, the Company had $60.2 million of net property
and equipment along with net intangible assets of $2.1 million. 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 April 2003, the Financial Accounting Standards Board (FASB) issued
SFAS No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging
Activities." SFAS No. 149 amends and clarifies financial accounting and
reporting for derivative instruments and for hedging activities under SFAS No.
133. SFAS 149 requires that contracts with comparable characteristics be
accounted for similarly. This statement is effective for both contracts and
hedging activities entered into or modified after June 30, 2003. The Company's
adoption of this standard did not have a material impact on the Company's
consolidated financial statements.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of Both Liabilities and Equity." The
statement required issuers to classify as liabilities (or assets in some
circumstances) certain classes of freestanding financial instruments that embody
obligations of the issuer. Generally, the statement is effective for financial
instruments entered into or modified after May 31, 2003 and is otherwise
effective at the beginning of the first interim period beginning after June 15,
2003. The Company adopted the provisions of the statement on June 29, 2003. The
Company did not have any instruments within the scope of the statement at
December 28, 2003.
In December 2003, the FASB issued FASB Interpretation No. 46 (revised
December 2003), "Consolidation of Variable Interest Entities," which addresses
how a business enterprise should evaluate whether it has a controlling financial
interest in an entity through means other than voting rights and accordingly
should consolidate the entity. FIN 46R replaces FASB Interpretation No. 46,
"Consolidation of Variable Interest Entities", which was issued in January 2003.
The Company adopted the provisions of this interpretation in December 2003. The
Company did not have any variable interest entities at December 28, 2003.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The Company is exposed to interest rate fluctuations on its floating
rate credit facility, under which the Company has outstanding a $24.4 million
term loan. 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. At December
28, 2003, the interest rate swap agreement had a notional amount of $24.4
million under which the Company paid a fixed rate of interest of 5.6% and
received a LIBOR-based floating rate. The Company recorded a non-cash benefit of
$0.3 million in the first quarter of 2003 related to the change in fair value
for the ineffective portion of its interest rate swap agreement. In 2003, the
Company had $0.1 million of other comprehensive income, net of taxes, related to
the change in fair value of the remaining portion of its interest rate swap
agreement. At December 28, 2003, the entire swap agreement qualified for hedge
accounting.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
See Item 15(a) for an index to the Consolidated Financial Statements
which are included herein.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
22
ITEM 9A. CONTROLS AND PROCEDURES.
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
The Company completed an evaluation as of the end of the period covered
by this Report under the supervision and with the participation of management,
including its Chief Executive Officer and Chief Financial Officer, of the
effectiveness of the design and operation of its disclosure controls and
procedures pursuant to Rule 13a-14 of the Securities Exchange Act of 1934. Based
upon that evaluation, the Chief Executive Officer and Chief Financial Officer
concluded that the Company's disclosure controls and procedures are effective in
alerting them on a timely basis of material information relating to the Company
required to be included in its periodic Securities and Exchange Commission
filings.
CHANGES IN INTERNAL CONTROLS
In 2003, the Company implemented a new enterprise-wide application to
manage its salvage and auction process. The new system contains many changes and
enhancements to the Company's existing control procedures.
23
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY.
DIRECTORS AND EXECUTIVE OFFICERS
Information required under this Item 10 is included under the caption
"Nominees" in the Company's Proxy Statement for the 2004 Annual Meeting of
Shareholders 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.
CODE OF ETHICS
The Company's Board of Directors has adopted a Code of Ethics that
applies to all of its directors, officers and employees, including its principal
executive officer, principal financial officer, controller and principal
accounting officer. The Company's Code of Ethics is available on its Web-site at
www.iaai.com. Any amendments to, or waivers from, the Code of Ethics will be
disclosed on the Company's Web site within the prescribed time period.
ITEM 11. EXECUTIVE COMPENSATION.
Information required under this Item regarding executive compensation
is included under the captions "Compensation of Directors," "Executive
Compensation," "Stock Options," "Employment Contracts and Change-in-Control
Arrangements" and "Compensation Committee Interlocks and Insider Participation"
in the Company'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 12 is included under the caption
"Ownership of Securities" in the Company'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 13 is included under the caption
"Certain Relationships and Related Transactions" in the Company's Proxy
Statement to be filed with the Securities and Exchange Commission and is
incorporated herein by reference.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information required by this Item 14 is included under the caption
"Proposal No. 3 - Ratification of Independent Auditors" in the Company's Proxy
Statement and is incorporated herein by reference.
24
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(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 Annual report on Form 10-K:
Page
----
Independent Auditors' Report.................................................. 30
Consolidated Balance Sheets................................................... 31
Consolidated Statements of Operations......................................... 32
Consolidated Statements of Shareholders' Equity............................... 33
Consolidated Statements of Cash Flows......................................... 34
Notes to Consolidated Financial Statements.................................... 36
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.
The Company filed a current report on Form 8-K, dated October
24, 2003, which contained a press release announcing financial
results for the quarter ended September 28, 2003.
The Company filed a current report on Form 8-K, dated February
27, 2004, which contained a press release announcing financial
results for the quarter ended December 28, 2003.
(C) EXHIBITS
Exhibit
No Description
- ------- -----------
3.1(7) Articles of Incorporation of the Registrant, as filed with the
Illinois Secretary of State on August 7, 1997.
3.2(8) Bylaws of the Registrant.
25
3.3(9) Bylaws of the Registrant, as amended as of March 21, 2001.
4.3(1) Specimen Stock Certificate.
4.5(4) Registration Agreement dated December 1, 1993, by and among
the Registrant and Tech-Cor.
4.6(10)* 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(10)* Registration Rights Agreement, dated February 15, 2000, among
the Company, ValueAct Capital Partners, L.P. and ValueAct
Capital Partners II, L.P.
10.36(5)* 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(6)* Form of Incentive Stock Option Agreement, Insurance Auto
Auctions, Inc. 1995 Supplemental Stock Option Plan.
10.43 Form of Non-Statutory Stock Option Agreement, Insurance Auto
Auctions, Inc. 2003 Stock Incentive Plan replacing the 1991
Stock Option Plan as amended and restated.
10.66(2) Facilities Lease Agreement dated January 17, 1992, by and
between Melvin R. Martin and MASP.
10.67 Facilities Lease Agreement dated August 7, 2003, by and
between MRM Investments, L.L.P. and Insurance Auto Auctions,
Inc. as amended.
10.68 Facilities Lease Agreement dated August 7, 2003, by and
between MJB Properties and Insurance Auto Auctions, Inc. as
amended.
10.69 Temporary Use License Agreement dated March 1, 2004 by and
between MRM Investments Limited Partnership and Insurance Auto
Auctions, Inc.
10.126(4) Lease, dated December 1, 1993, by and between Allstate
Insurance Company and BCAC.
10.127 Second Amended and Restated Credit Agreement, dated as of
March 19, 2004, among the Registrant and the lenders from time
to time parties hereto, and LaSalle Bank National Association,
as Administrative Agent.
10.149(7)* Form of Change of Control Employment Agreement by and between
the Company and certain of its executive officers.
26
10.150(14) Credit Agreement between the Registrant and LaSalle National
Bank dated as of February 15, 2002.
10.151(14) Rate Swap Agreement pursuant to the Credit Agreement between
the Registrant and LaSalle National Bank dated as of March 13,
2002.
10.152(15) Amended and Restated Credit Agreement between the Company and
LaSalle National Bank dated as of June 25, 2003.
10.154(12)* Insurance Auto Auctions, Inc. Employee Stock Purchase Plan, as
amended as of June 30, 2001.
10.155(8) Form of Indemnification Agreement dated as of February 24,
1999 by and between the Company and its Directors and
Executive Officers.
10.160(13)* Insurance Auto Auctions, Inc. 1991 Stock Option Plan, as
amended and restated as of June 19, 2002.
10.161(9)* Executive Severance Plan for Officers dated August 9, 2000, by
and between the Company and the Company's executive officers.
10.162(9)* Employment agreement, dated November 17, 2000, by and between
the Company and Thomas C. O'Brien.
10.163(11)* Amended and Restated Employment Agreement dated April 2, 2001
by and between the Company and Thomas C. O'Brien.
10.164(11)* Employment Agreement dated April 2, 2001 by and between the
Company and David R. Montgomery.
10.165(11)* Employment Agreement dated April 2, 2001 by and between the
Company and Scott P. Pettit.
10.166(12)* Employment Agreement dated December 11, 2001 and addendum by
and between the Company and Edward N. Fares.
10.175(13)* Insurance Auto Auctions, Inc. 2002 Long Term Incentive Plan
10.176(14)* Employment Agreement dated January 31, 2003 between the
Company and Marcia A. McAllister.
10.177* Employment Agreement dated October 23, 2003 by and between the
Company and John R. Nordin.
21 Subsidiaries of the Registrant.
23 Consent of KPMG LLP.
24 Power of Attorney.
31.1 Certification of Thomas C. O'Brien, Chief Executive Officer,
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Scott P. Pettit, Chief Financial Officer,
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification of Thomas C. O'Brien, Chief Executive Officer,
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
27
32.2 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
Current Report on Form 8-K (File No. 0-19594) filed with the SEC on
December 15, 1993.
(5) 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.
(6) 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.
(7) 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.
(8) 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.
(9) 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.
(10) 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.
(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 July 1, 2001.
(12) 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.
(13) 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.
(14) 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, 2002.
(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 29, 2003.
* 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.
28
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 29, 2004
POWER OF ATTORNEY
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 29th day of March, 2004.
/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/ Peter H. Kamin Chairman of the Board of Directors
- -----------------------------
Peter H. Kamin
/s/ Todd F. Bourell Director
- -----------------------------
Todd F. Bourell
/s/ Maurice A. Cocca Director
- -----------------------------
Maurice A. Cocca
/s/ Philip B. Livingston Director
- -----------------------------
Philip B. Livingston
/s/ Melvin R. Martin Director
- -----------------------------
Melvin R. Martin
/s/ John K. Wilcox Director
- -----------------------------
John K. Wilcox
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 28, 2003 and December 29, 2002
and the results of their operations and their cash flows for each of the fiscal
years in the three-year period ended December 28, 2003 in conformity with
accounting principles generally accepted in the United States of America.
As discussed in Note 2 to the consolidated financial statements, the Company
changed its method of accounting for goodwill and other intangibles in 2002.
KPMG LLP
Chicago, Illinois
March 25, 2004
30
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Consolidated Balance Sheets
(dollars in thousands except per share amounts)
DECEMBER 28, DECEMBER 29,
2003 2002
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents $ 15,486 $ 10,027
Accounts receivable, net 48,375 45,594
Inventories 13,602 11,158
Other current assets 3,099 3,571
--------- ---------
Total current assets 80,562 70,350
--------- ---------
Property and equipment, net 60,187 49,342
Deferred income taxes 9,788 7,663
Intangible assets, net 2,101 1,710
Goodwill, net 135,062 130,474
Other assets 93 111
--------- ---------
$ 287,793 $ 259,650
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 35,005 $ 28,656
Accrued liabilities 14,209 15,312
Obligations under capital leases 2,822 2,552
Current installments of long-term debt 7,547 43
--------- ---------
Total current liabilities 59,583 46,563
--------- ---------
Deferred income taxes 17,748 14,835
Postretirement benefit obligation 2,598 2,736
Obligation under capital leases 1,891 1,355
Long-term debt, excluding current installments 16,887 59
--------- ---------
Total liabilities 98,707 65,548
--------- ---------
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; 12,325,482 shares issued and
11,518,273 outstanding as of December 28, 2003; and
12,292,599 shares issued and outstanding as of
December 29, 2002 12 12
Additional paid-in capital 145,856 144,420
Treasury stock, 807,209 shares (8,012) -
Deferred compensation related to restricted stock (892) -
Accumulated other comprehensive income (loss) (625) (745)
Retained earnings 52,747 50,415
--------- ---------
Total shareholders' equity 189,086 194,102
--------- ---------
$ 287,793 $ 259,650
========= =========
See accompanying Notes to Consolidated Financial Statements
31
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Consolidated Statements of Operations
(dollars in thousands except per share amounts)
2003 2002 2001
--------- --------- ---------
Revenues:
Vehicle sales $ 39,963 $ 71,352 $ 138,427
Fee income 169,687 162,845 154,563
--------- --------- ---------
209,650 234,197 292,990
Cost of sales:
Vehicle cost 35,301 65,463 131,683
Branch cost 135,157 125,530 122,867
--------- --------- ---------
170,458 190,993 254,550
--------- --------- ---------
Gross profit 39,192 43,204 38,440
Operating expense:
Selling, general and administrative 30,225 27,711 32,182
Business transformation costs 3,902 8,067 3,451
Restructuring and asset impairment charges - - 8,016
--------- --------- ---------
Earnings (loss) from operations 5,065 7,426 (5,209)
Other (income) expense:
Interest expense 1,505 678 1,788
Other income (76) (275) (1,025)
--------- --------- ---------
Earnings (loss) before income taxes 3,636 7,023 (5,972)
Provision (benefit) for income taxes 1,304 3,015 (1,612)
--------- --------- ---------
Net earnings (loss) $ 2,332 $ 4,008 $ (4,360)
========= ========= =========
Earnings (loss) per share:
Basic $ .20 $ .33 $ (.37)
========= ========= =========
Diluted $ .20 $ .32 $ (.37)
========= ========= =========
Weighted average shares outstanding:
Basic 11,652 12,235 11,940
Effect of dilutive securities - stock options 80 296 -
--------- --------- ---------
Diluted 11,732 12,531 11,940
========= ========= =========
See accompanying Notes to Consolidated Financial Statements
32
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Consolidated Statements of Shareholders' Equity
(dollars in thousands)
Common Stock
--------------------------- Additional
Number Paid-in Treasury
of shares Amount Capital Stock
---------- ----------- ----------- -----------
Balance at December 31, 2000 11,715,936 $ 12 $ 136,962 $ --
========== =========== =========== ===========
Net loss -- -- -- --
Stock options exercised 431,305 -- 4,904 --
Tax benefit related to
stock options exercised -- -- 539 --
Shares issued for the
employee stock purchase
plan 15,049 -- 170 --
---------- ----------- ----------- -----------
Balance at December 30, 2001 12,162,290 $ 12 $ 142,575 $ --
========== =========== =========== ===========
Net earnings -- -- -- --
Other comprehensive loss
Change in fair value of
interest rate swap
contract (net of
tax benefit, $467) -- -- -- --
Comprehensive income
Stock options exercised 115,555 -- 1,341 --
Tax benefit related to
stock options exercised -- -- 247 --
Shares issued for the
employee stock purchase
plan 14,754 -- 257 --
---------- ----------- ----------- -----------
Balance at December 29, 2002 12,292,599 $ 12 $ 144,420 $ --
========== =========== =========== ===========
Net earnings -- -- -- --
Other comprehensive income-
Change in fair value of
interest rate swap
contract (net of tax, $78) -- -- -- --
Comprehensive income
Stock options exercised 6,920 -- 82 --
Tax benefit related to
stock options exercised -- -- 14 --
Shares issued for the
employee stock purchase
plan 25,963 -- 371 --
Treasury stock purchased (807,209) -- -- (8,012)
Deferred compensation -- -- 969 --
---------- ----------- ----------- -----------
Balance at December 28, 2003 11,518,273 $ 12 $ 145,856 $ (8,012)
========== =========== =========== ===========
Deferred Accumulated
Compensation Other Total
(Restricted Comprehensive Retained Shareholders'
Stock) Income (Loss) Earnings Equity
----------- ------------ ----------- -----------
Balance at December 31, 2000 $ -- $ -- $ 50,767 $ 187,741
=========== =========== =========== ===========
Net loss -- -- (4,360) (4,360)
Stock options exercised -- -- -- 4,904
Tax benefit related to
stock options exercised -- -- -- 539
Shares issued for the
employee stock purchase
plan -- -- -- 170
----------- ----------- ----------- -----------
Balance at December 30, 2001 $ -- $ -- $ 46,407 $ 188,994
=========== =========== =========== ===========
Net earnings -- -- 4,008 4,008
Other comprehensive loss
Change in fair value of
interest rate swap
contract (net of
tax benefit, $467) -- (745) -- (745)
Comprehensive income 3,263
-----------
Stock options exercised -- -- -- 1,341
Tax benefit related to
stock options exercised -- -- -- 247
Shares issued for the
employee stock purchase
plan -- -- -- 257
----------- ----------- ----------- -----------
Balance at December 29, 2002 $ -- $ (745) $ 50,415 $ 194,102
=========== =========== =========== ===========
Net earnings -- -- 2,332 2,332
Other comprehensive income-
Change in fair value of
interest rate swap
contract (net of tax, $78) -- 120 -- 120
Comprehensive income 2,452
-----------
Stock options exercised -- -- -- 82
Tax benefit related to
stock options exercised -- -- -- 14
Shares issued for the
employee stock purchase
plan -- -- -- 371
Treasury stock purchased -- -- -- (8,012)
Deferred compensation (892) -- -- 77
----------- ----------- ----------- -----------
Balance at December 28, 2003 $ (892) $ (625) $ 52,747 $ 189,086
=========== =========== =========== ===========
See accompanying Notes to Consolidated Financial Statements
33
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(dollars in thousands)
2003 2002 2001
-------- -------- --------
Cash flows from operating activities:
Net earnings (loss) $ 2,332 $ 4,008 $ (4,360)
Adjustments to reconcile net earnings (loss) to net cash provided by
operating activities:
Depreciation and amortization 10,661 9,901 10,649
Loss (gain) on disposal of fixed assets 54 (104) (439)
Loss (gain) on change in fair market value of derivative (307) 307 -
Deferred compensation related to restricted stock 29 - -
Deferred income taxes - 3,292 (970)
Restructuring and asset impairment charges - - 8,016
Changes in assets and liabilities
(excluding effects of acquired companies):
(Increase) decrease in:
Accounts receivable, net (752) 9,180 (6,673)
Inventories (2,442) 2,347 (2,917)
Other current assets 489 594 (1,053)
Other assets (975) (64) 113
Increase (decrease) in:
Accounts payable 6,349 (12,795) (3,221)
Accrued liabilities (878) 2,289 612
Deferred income taxes 788 (465) -
-------- -------- --------
Total adjustments 13,016 14,482 10,559
-------- -------- --------
Net cash provided by operating activities 15,348 18,490 6,199
-------- -------- --------
34
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Consolidated Statements of Cash Flows (continued)
(dollars in thousands)
2003 2002 2001
-------- -------- --------
Cash flows from investing activities:
Capital expenditures $(16,343) $(15,241) $(20,765)
Proceeds from sale of investments - 2,643 4,456
Proceeds from disposal of property and equipment 60 187 4,094
Payments made in connection with acquired companies,
net of cash acquired (7,872) (1,510) (6,033)
-------- -------- --------
Net cash used in investing activities (24,155) (13,921) (18,248)
-------- -------- --------
Cash flows from financing activities:
Proceeds from issuance of common stock 515 1,845 5,613
Proceeds from term loan 30,000 - -
Principal payments of long-term debt (5,668) (20,041) (35)
Purchase of treasury stock (8,012) - -
Principal payments - capital leases (2,569) (813) -
-------- -------- --------
Net cash provided by (used in) financing activities 14,266 (19,009) 5,578
-------- -------- --------
Net increase (decrease) in cash and cash equivalents 5,459 (14,440) (6,471)
Cash and cash equivalents at beginning of year 10,027 24,467 30,938
-------- -------- --------
Cash and cash equivalents at end of year $ 15,486 $ 10,027 $ 24,467
======== ======== ========
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest $ 1,639 $ 1,433 $ 1,733
======== ======== ========
Income taxes paid $ 855 $ 2,492 $ 7
======== ======== ========
Income taxes refunded $ 1,390 $ 3,860 $ -
======== ======== ========
Non-cash financing activities:
Capital leases $ 3,375 $ 4,720 $ -
======== ======== ========
See accompanying Notes to Consolidated Financial Statements
35
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.
FISCAL PERIODS
Fiscal years 2003, 2002 and 2001 each consisted of 52 weeks and ended on
December 28, 2003, December 29, 2002 and December 30, 2001, 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.
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.
36
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company's financial instruments include cash and cash equivalents,
accounts receivable, short and long-term debt and derivative financial
instruments. The fair values of these instruments approximates their
carrying values.
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 flows 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 Statement of Financial
Accounting Standards (SFAS) No. 142, "Goodwill and Other Intangible
Assets." 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.
The annual impairment test of intangible assets is performed in the first
quarter of each year. The fiscal 2003 annual 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. The effect of a rate change on deferred tax assets and
liabilities is recognized in the period of enactment.
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.
RESTRICTED STOCK
In 2003, the Company initiated a restricted stock program. Under the
Company's restricted stock program, common stock of the Company may be
granted at no cost to certain officers and key employees. Plan participants
are entitled to cash dividends and to vote their respective shares.
Restrictions limit the sale or transfer of these shares during a four year
period; the restrictions lapse on 25% of the shares each year. Upon
issuance of stock under the plan, unearned compensation equivalent to the
market value of the shares at the
37
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
date of grant is charged to shareholders' equity and subsequently amortized
to expense over the four-year restriction period. In 2003, 66,500
restricted shares were granted. Compensation expense in 2003 was less than
$0.1 million. In fiscal 2003, there were no forfeitures of restricted
shares.
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 exceeded the exercise price.
No stock-based employee compensation cost related to stock option grants is
recognized in net earnings (loss), as all options granted 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 relating to stock options and restricted stock, including
straight-line recognition of compensation cost over the related vesting
periods for fixed awards:
2003 2002 2001
------- ------- -------
(dollars in thousands)
Net earnings (loss) as reported $ 2,332 $ 4,008 $(4,360)
Add: Stock-based employee compensation
expense included in reported net earnings
(loss), net of related tax effects 45 - -
Deduct: Total stock-based employee
compensation expense determined
under the fair value based method
for all awards, net of related
tax effects (1,795) (1,288) (1,339)
------- ------- -------
Pro forma net earnings (loss) $ 582 $ 2,720 $(5,699)
======= ======= =======
Pro forma earnings (loss) per share
Basic $ .05 $ .22 $ (.47)
======= ======= =======
Diluted $ .05 $ .22 $ (.47)
======= ======= =======
The per share weighted average fair value of stock options granted during
2003, 2002 and 2001 was $9.65, $10.13 and $9.20, respectively, based upon
grant date valuations using the Black-Scholes option pricing model with the
following weighted average assumptions in 2003, 2002 and 2001: expected
dividend yield of 0.0% in all years; expected volatility of .84%, .83% and
.88%, respectively; risk-free interest rate of 3.1%, 2.8% and 4.3%,
respectively; and an average expected option life of 5.0, 4.9 and 4.9
years, respectively.
38
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
EARNINGS PER SHARE
The Company incurred a net loss for the year ended December 30, 2001;
therefore, potential common stock issuances attributable to 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 not to exceed five years.
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 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
and reclassified to earnings in the same period that earnings are affected
by the variability in cash flows of the hedged item.
NEW ACCOUNTING PRONOUNCEMENTS
In April 2003, the Financial Accounting Standards Board issued SFAS No.
149, "Amendment of Statement 133 on Derivative Instruments and Hedging
Activities." SFAS No. 149 amends and clarifies financial accounting and
reporting for derivative instruments and for hedging activities under SFAS
No. 133. SFAS 149 requires that contracts with comparable characteristics
be accounted for similarly. This statement is effective for both contracts
and hedging activities entered into or modified after June 30, 2003.
Adoption of this statement did not have a material impact on the Company's
consolidated financial statements.
(2) GOODWILL AND OTHER INTANGIBLES
Goodwill and other intangibles are recorded at cost less accumulated
amortization and consist of the following at December 28, 2003 and December
29, 2002:
ASSIGNED LIFE 2003 2002
------------- ------ ------
(dollars in millions)
Goodwill Indefinite $135.1 $130.5
Covenants not to compete 5 to 15 years 2.1 1.7
------ ------
$137.2 $132.2
====== ======
Goodwill increased by $4.6 million in fiscal 2003. During the year, the
Company acquired six new facilities. The excess of the purchase price over
the fair market value of the net identifiable assets acquired of $4.2
39
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
million has been recorded as goodwill. The balance of $0.4 million was due
to earnout payments made in 2003 associated with prior year acquisitions.
Amortization expense for the years ended December 28, 2003, December 29,
2002 and December 30, 2001 was $0.5 million, $0.3 million and $4.1 million,
respectively. These amounts are included within selling, general and
administrative expense on the Company's Condensed Consolidated Statements
of Operations. Based on existing intangibles, the projected annual
amortization expense for each fiscal year 2004, 2005 and 2006 is $0.5
million, $0.4 million for 2007 and $0.2 million for 2008.
The following table presents the consolidated results adjusted as though
the adoption of SFAS No. 142 occurred at the beginning of fiscal year 2001.
2003 2002 2001
--------- --------- ---------
(in thousands except per share amounts)
Net earnings (loss):
As reported $ 2,332 $ 4,008 $ (4,360)
Goodwill amortization, net of tax effect - - 2,847
--------- --------- ---------
Adjusted net earnings (loss) $ 2,332 $ 4,008 $ (1,513)
========= ========= =========
Basic earnings (loss) per share:
As reported $ .20 $ .33 $ (.37)
Goodwill amortization, net of tax effect - - .24
--------- --------- ---------
Adjusted basic earnings (loss) per share $ .20 $ .33 $ (.13)
========= ========= =========
Diluted earnings (loss) per share:
As reported $ .20 $ .32 $ (.37)
Goodwill amortization, net of tax effect - - .24
--------- --------- ---------
Adjusted diluted earnings (loss) per share $ .20 $ .32 $ (.13)
========= ========= =========
(3) COMPREHENSIVE INCOME
Comprehensive income consists of net earnings and the change in fair value
of the Company's interest rate swap agreement for the years ended December
28, 2003 and December 29, 2002 as follows (dollars in thousands):
2003 2002
------- -------
Net earnings $ 2,332 $ 4,008
Other comprehensive income (loss)
Change in fair value of interest
rate swap agreement 198 (1,212)
Income tax benefit (expense) (78) 467
------- -------
Comprehensive income $ 2,452 $ 3,263
======= =======
The changes in fair value of the Company's interest rate swap agreement
were due to changes in interest rates.
40
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(4) CREDIT FACILITIES
Long-term debt is summarized as follows:
2003 2002
------- -------
(dollars in thousands)
Unsecured term loan, interest payable at variable rate based
upon LIBOR. Principal repaid in 16 equal installments
commencing March 31, 2003 $24,375 $ -
Notes payable issued in connection with the acquisition
of a subsidiary, interest payable at 8% 59 102
------- -------
24,434 102
Less current installments 7,547 43
------- -------
$16,887 $ 59
======= =======
Total principal repayments required for each of the next four fiscal years
under all long-term debt agreements are summarized as follows:
(dollars in thousands)
2004 $ 7,547
2005 7,512
2006 7,500
2007 1,875
-------
$24,434
=======
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 was a one-year revolver
that converted into a four-year term loan carrying a variable interest 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 5).
On February 15, 2003, the Company borrowed all remaining available funds
under 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 is required to be paid in sixteen consecutive equal quarterly
installments commencing on March 31, 2003.
On June 25, 2003, the Company entered into an amended and restated credit
facility. This facility added a $20.0 million revolving line of credit,
carrying a variable rate based on LIBOR, to the existing term loan. This
amended and restated facility also modified all existing covenants except
for the rent expense covenant. The amended credit facility also granted the
Company latitude to purchase additional shares of its outstanding common
stock. At December 28, 2003, the Company has not borrowed any funds against
the additional $20.0 million revolving line of credit.
41
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
On March 19, 2004, the Company entered into the Second Amended and Restated
Credit Agreement relating to its senior credit facility. The agreement
amends certain financial covenants, including those applicable as of
December 28, 2003 and those applicable for fiscal 2004, provides that
advances made under the facility will be subject to a monthly asset
coverage test equal to 85% of eligible receivables, and requires the
Company to provide collateral for amounts due under the facility in the
event it fails to meet certain financial projections for two consecutive
quarters. The Company's financing agreement limits potential future
dividend payments to no more than 25% of the Company consolidated net
income earned over a specified period. Effective as of December 28, 2003,
the Company was in compliance with the financial covenants of the Second
Amended and Restated Credit Agreement.
(5) 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%. Under the interest rate swap agreement, the Company pays a
fixed rate of interest of 5.6% and receives LIBOR-based floating rate
payments. During the year ended December 29, 2002, 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 did not qualify for hedge
accounting. At December 29, 2002, the Company also recorded $0.7 million
(net of tax) as a comprehensive loss related to the change in fair market
value of the portion of its interest rate swap agreement which qualified
for hedge accounting.
In 2003, the Company recorded a $0.3 million non-cash benefit related to
the change in fair value of the interest rate swap agreement. At December
28, 2003, the Company also recorded $0.1 million (net of tax) as
comprehensive income related to the change in fair market value of its
interest rate swap agreement. At December 28, 2003, the entire swap
agreement qualified for hedge accounting.
(6) INCOME TAXES
Income tax expense (benefit) is summarized as follows:
2003 2002 2001
------- ------- -------
(dollars in thousands)
Current:
Federal $ 573 $ (161) $ (530)
State 19 (116) (111)
------- ------- -------
592 (277) (641)
------- ------- -------
Deferred:
Federal 509 2,756 (878)
State 203 536 (93)
------- ------- -------
712 3,292 (971)
------- ------- -------
$ 1,304 $ 3,015 $(1,612)
======= ======= =======
42
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
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 28, 2003 and December 29, 2002 are presented below:
2003 2002
-------- --------
(dollars in thousands)
Deferred tax assets attributable to:
Depreciation $ 5,219 $ 4,017
State net operating losses carried forward 2,108 1,830
Inventories 1,931 736
Change in fair value of interest rate swap contract 389 465
Other 1,860 2,070
Valuation allowance (1,719) (1,455)
-------- --------
Net deferred tax assets 9,788 7,663
Deferred tax liabilities attributable to:
Intangible assets (17,748) (14,835)
-------- --------
Net deferred tax liabilities $ (7,960) $ (7,172)
======== ========
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:
2003 2002 2001
------- ------- -------
(dollars in thousands)
"Expected" income tax expense (benefit) $ 1,236 $ 2,388 $(2,030)
State income taxes, net of Federal effect 146 277 (135)
Nondeductible portion of amortization of
intangible assets - - 358
Increase in valuation allowance 264 308 235
Reduction of tax accruals (527) (291) (105)
Other 185 333 65
------- ------- -------
$ 1,304 $ 3,015 $(1,612)
======= ======= =======
The Company is obligated to file tax returns and pay Federal and state
income taxes in numerous jurisdictions. The reductions in income tax
accruals relate to amounts that were no longer required, due primarily to
closed tax return audits and closed tax years for a number of
jurisdictions.
(7) EMPLOYEE BENEFIT PLANS
The Company adopted the Insurance Auto Auctions, Inc. 2003 Stock Incentive
Plan (the 2003 Plan) in June 2003 to replace the Insurance Auto Auctions,
Inc. 1991 Stock Option Plan (the 1991 Plan), as amended and restated,
covering 3,100,000 shares of the Company's common stock. The 2003 Plan
provides for the grant of incentive stock options and restricted stock to
key employees and nonqualified stock options and stock appreciation rights
to key employees, directors, consultants and independent contractors. The
2003 Plan expires June 18, 2013. 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.
43
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
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 28, 2003, options to purchase an aggregate
of 1,817,076 shares were outstanding at a weighted average exercise price
of $13.49 per share and 384,960 shares remained available for future grant.
In 2003, the Company initiated a restricted stock program. Under the
Company's restricted stock program, common stock of the Company may be
granted at no cost to certain officers and key employees. Plan participants
are entitled to cash dividends and to vote their respective shares.
Restrictions limit the sale or transfer of these shares during a four year
period whereby the restrictions lapse on 25% of the shares each year. Upon
issuance of stock under the plan, unearned compensation equivalent to the
market value of the shares at the date of grant is charged to shareholders'
equity and subsequently amortized to expense over the four-year restriction
period. In 2003, 66,500 restricted shares were granted. Compensation
expense in 2003 was less than $0.1 million. In fiscal 2003, there were no
forfeitures of restricted shares.
Activity under the Plans during 2003, 2002 and 2001 is as follows:
Weighted Weighted Weighted
Average Average Average
2003 Exercise 2002 Exercise 2001 Exercise
Shares Price Shares Price Shares Price
---------- --------- --------- --------- --------- --------
Balance at beginning of year 1,518,000 $ 14.13 1,397,000 $ 14.48 1,261,000 $ 14.20
Options granted 490,000 13.89 377,000 15.75 605,000 13.09
Options canceled (184,000) 19.94 (140,000) 24.13 (38,000) 18.02
Options exercised (7,000) 11.61 (116,000) 11.62 (431,000) 11.38
---------- --------- --------- --------- --------- --------
Balance at end of year 1,817,000 $ 13.49 1,518,000 $ 14.13 1,397,000 $ 14.48
========== ========= ========= ========= ========= ========
Options exercisable at end of year 820,000 596,000 568,000
========== ========= =========
Additional information about options outstanding as of December 28, 2003 is
presented below:
Options Outstanding Options Exercisable
---------------------------------------------- --------------------------
Weighted Average
---------------------------
Remaining Weighted
Contractual Average
Range of Exercise Number of Life Exercise Number of Exercise
Prices Options (in years) Price Options Price
- ----------------- --------- ----------- -------- --------- ---------
$7.00 to $10.00 45,000 4.04 $ 8.92 42,000 $ 8.86
10.38 to 13.95 1,291,000 6.94 12.55 601,000 11.89
14.25 to 22.75 461,000 8.15 15.81 157,000 16.26
28.63 to 32.50 20,000 0.77 30.80 20,000 30.80
--------- -------
$7.00 to $32.50 1,817,000 7.11 13.49 820,000 13.03
========= =======
44
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
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 2001 to 2003, the Company matched
100% of employee contributions up to 4% of eligible earnings. Company
contributions to the plan were $0.8 million in 2003, $0.8 million in 2002
and $0.7 million in 2001.
(8) RELATED PARTY TRANSACTIONS
The Company recorded fee income of $2.7 million in 2001, related to the
consignment sale of vehicles insured by Allstate Insurance Company
("Allstate") and recorded vehicle sales of $23.2 million and cost of sales
of $21.8 million, related to the purchase of Allstate-insured vehicles
under the purchase agreement method. Allstate sold all of its shares of the
Company's common stock in February 2001.
See Note 9 for information about leases involving a member of the Company's
Board of Directors.
(9) 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 28, 2003, December 29,
2002 and December 30, 2001, was $22.4 million, $22.1 million and $20.3
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 $0.8 million in each of
the years 2003, 2002 and 2001. In 2003, the Company incurred $2.7 million
of costs to upgrade properties owned by the related party. A portion of the
investment to upgrade these facilities will ultimately be funded by the
related party. The Company agreed to modify its future lease payments to
take into consideration the costs to be funded by the related party; the
effect on monthly lease payments has not yet been determined.
In 2002, the Company began leasing certain equipment under capital leases.
Equipment leased under these leases amounted to $3.4 million in 2003 and
$4.7 million in 2002.
Minimum annual rental commitments for the next five years under
noncancelable operating and capital leases at December 28, 2003 are as
follows:
OPERATING LEASES
-----------------------
UNRELATED RELATED CAPITAL
PARTIES PARTIES LEASES
--------- ------- ------
(dollars in thousands)
2004 $ 20,882 $ 837 $3,058
2005 17,554 837 1,336
2006 15,210 837 363
2007 12,224 837 315
2008 10,061 837 33
Thereafter 36,072 5,710 -
--------- ------ ------
$112,003 $9,895 $5,105
======== ====== ======
Less amount representing interest expense 392
------
Future capital lease obligation $4,713
======
45
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
Assets as of December 28, 2003 and December 29, 2002 recorded under capital
leases are included in property and equipment, net as follows:
2003 2002
------- -------
(dollars in thousands)
Computer equipment $ 6,654 $ 4,720
Security fencing 1,441 -
------- -------
8,095 4,720
Accumulated amortization (3,378) (713)
------- -------
$ 4,717 $ 4,007
======= =======
The Company has compensation agreements with certain officers and other key
employees.
The Company currently leases property in Woodville, Washington (near
Seattle) for one of its branches. In 2003, the owner/lessor of the property
was notified by King County, Washington that the branch was located within
the boundaries of the likely site for a new wastewater treatment facility.
The Company believes that it is likely that it will be required to vacate
its facility before the end of 2004. The Company has made various upgrades
to this facility that have been recorded as leasehold improvements, which
have a net book value of $1.1 million at December 28, 2003. Under
Washington State law, provisions exist for financial assistance to the
Company related to relocation expenses and other costs related to the
property.
The Company has taken various steps intended to ensure that it recovers the
value of its investment in the property and that it is reimbursed for its
relocation costs. Under its lease, the Company is entitled to recovery of
the value of its leasehold improvements. Although there is a possibility
that the Company will not fully recover its investment in the branch
assets, the Company has not recorded any provisions for loss or for costs
that may be incurred, due to uncertainties relating to the amounts that may
be recovered pursuant to the terms of the lease of the provisions of
Washington State law.
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.
(10) TREASURY STOCK
The Company records treasury stock purchases using the cost method of
accounting. In March 2003, the Company repurchased 757,409 shares of its
common stock at an average price of $9.77 per share and a total cost of
$7.4 million. During the second quarter of 2003, the Company repurchased an
additional 49,800 shares at an average price of $12.25 per share and a
total cost of $0.6 million. The Company did not repurchase any shares
during the remainder of the year. On a full year basis, the Company has
repurchased 807,209 shares at an average price of $9.93 per share and a
total cost of $8.0 million.
46
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(11) ACCOUNTS RECEIVABLE
Accounts receivable consists of the following as of December 28, 2003 and
December 29, 2002:
2003 2002
-------- --------
(dollars in thousands)
Unbilled receivables $ 35,188 $ 33,028
Trade accounts receivable 12,787 12,772
Other receivables 1,213 490
-------- --------
49,188 46,290
Less allowance for doubtful accounts (813) (696)
-------- --------
$ 48,375 $ 45,594
======== ========
Unbilled receivables represent amounts paid to third parties on behalf of
insurance companies for which the Company will be reimbursed when the
vehicle is sold. Trade accounts receivable include fees and proceeds to be
collected from both insurance companies and buyers.
(12) PROPERTY AND EQUIPMENT
Property and equipment consists of the following at December 28, 2003 and
December 29, 2002:
2003 2002
-------- --------
(dollars in thousands)
Land $ 7,582 $ 6,996
Buildings and improvements 11,506 10,787
Equipment 39,302 25,911
Leasehold improvements 38,304 32,939
-------- --------
96,694 76,633
Less accumulated depreciation and amortization (36,507) (27,291)
-------- --------
$ 60,187 $ 49,342
======== ========
(13) ACCOUNTS PAYABLE
Accounts payable consists of the following at December 28, 2003 and December 29,
2002:
2003 2002
------- -------
(dollars in thousands)
Accounts payable to salvage providers $32,341 $26,369
Trade accounts payable 3,424 1,820
Other payables 240 467
------- -------
$35,005 $28,656
======= =======
47
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(14) EARNINGS PER SHARE
There were no adjustments to net income to calculate diluted earnings per
share. The table below reconciles basic weighted shares outstanding to
diluted weighted average shares outstanding for the years ended December
28, 2003, December 29, 2002 and December 30, 2001.
2003 2002 2001
------ ------ ------
(in thousands)
Basic weighted average shares outstanding 11,652 12,235 11,940
Effect of dilutive securities - stock options 80 296 -
------ ------ ------
Diluted weighted average shares outstanding 11,732 12,531 11,940
====== ====== ======
Options to purchase 1.1 million and 0.1 million shares of common stock at
an average price of $14.81 and $28.90 per share were outstanding during the
fiscal years ended December 28, 2003 and December 29, 2002, respectively,
but were not included in the Company's diluted earnings per share because
the options' exercise prices were greater than the average market price of
the Company's shares. The Company incurred a net loss for the year ended
December 30, 2001; therefore, potential common stock issuances attributable
to 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.
(15) ACCUMULATED POSTRETIREMENT BENEFIT OBLIGATION
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 SFAS 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 28, 2003, and December 29, 2002 and 7.0%
at December 30, 2001 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.
48
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
A reconciliation of funded status as of December 28, 2003 and December 29,
2002 follows:
BENEFIT OBLIGATIONS AND FUNDED STATUS
2003 2002
------- -------
(dollars in thousands)
Change in accumulated postretirement benefit obligation
Accumulated postretirement benefit obligation at the beginning of the year $ 1,506 $ 1,562
Interest cost 95 103
Actuarial (gain) or loss (69) (85)
Benefits paid (100) (74)
------- -------
Accumulated postretirement benefit obligation at the end of the year 1,432 1,506
Change in plan assets
Benefits paid (100) (74)
Employer contributions 100 74
------- -------
Fair value of assets at the end of the year - -
Net amount recognized
Funded status (1,432) (1,506)
Unrecognized net (gain) or loss (1,166) (1,230)
------- -------
Net amount recognized (2,598) (2,736)
Amounts recognized in the statement of financial position
Accrued benefit liability (2,598) (2,736)
Weighted average assumptions at the end of the year
Discount rate 6.25% 6.75%
Rate of compensation increase - -
Assumed health care cost trend rates
Health care cost trend rate assumed for next year 8.50% 9.00%
Ultimate rate 5.00% 5.00%
Year that the ultimate rate is reached 2010 2010
49
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
Net periodic pension cost is summarized as follows for the fiscal years
2003, 2002, and 2001:
NET PERIODIC PENSION COST
2003 2002 2001
----- ----- -----
(dollars in thousands)
Interest cost $ 95 $ 103 $ 75
Amortization of net (gain) or loss (133) (130) (175)
----- ----- -----
Total net periodic benefit cost $ (38) $ (27) $(100)
===== ===== =====
Effective January 20, 1994, the date of acquisition, the Company
discontinued future participation for active employees.
(16) ACQUISITIONS
The Company acquired six salvage pools in fiscal 2003. All of these
acquisitions were accounted for using the purchase method of accounting.
The results of operations of the acquired businesses are included in the
Company's condensed consolidated financial statements from the dates of
acquisition. In January 2003, the Company acquired Salvage Management Inc.,
an operator of two auto salvage facilities in Buffalo and Rochester, New
York. In April 2003, the Company acquired Wichita Insurance Pool, Inc.,
located in Wichita, Kansas. In June 2003, the Company acquired Wilmington
Salvage and Disposal Company, Inc. located in Wilmington, North Carolina
and the Damaged Vehicle division of Manheim's Orlando Orange County Auto
Auction, located in Orlando, Florida. All of these acquisitions leverage
the Company's existing regional coverage in those markets. In April 2003,
the Company also acquired Mountain States Salvage Pool, which is located in
Ogden, Utah. This acquisition represents penetration into a new market. The
total cost of adding these six new facilities was $7.9 million. The
acquired net assets consisted of accounts receivable, inventory, fixed
assets, land, buildings, goodwill and covenants not to compete. These new
facilities contributed $6.4 million of revenues during fiscal 2003. The
excess of the purchase price over the fair market value of the net
identifiable assets acquired of $4.2 million has been recorded as goodwill.
The entire goodwill balance relating to these acquisitions will be
deductible for tax purposes. In addition, the Company recorded $0.9 million
for covenants not to compete relating to these acquisitions which will be
amortized over a period of five to seven years, based upon the agreements.
As part of these acquisitions, the Company entered into leases for the use
of certain facilities. Future earnout payments related to these
acquisitions of $3.2 million may be paid out by the Company through 2006
depending upon meeting certain performance targets. Any future earnout
payments made related to these acquisitions will be accounted for as
additional goodwill.
(17) RESTRUCTURING AND ASSET IMPAIRMENT CHARGES
During 2001, the Company announced an organizational realignment and
recorded restructuring charges of $5.6 million. As part of this plan, the
Company recognized $2.0 million in employee termination benefits associated
with a reduction in workforce along with $2.6 million related to the
abandonment of certain facilities. The $1.1 million balance includes
amounts related to repositioning the Company's towing operations and other
restructuring charges.
The Company also recorded asset impairment charges of $2.4 million in 2001.
This included the write-down of $1.4 million of unamortized leasehold
improvements. 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 an airplane crash at the Company's Sacramento, California
facility.
50
INSURANCE AUTO AUCTIONS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
Changes in accrued liabilities related to the organizational realignment
are summarized below.
WORKFORCE FACILITY TOWING
REDUCTION CLOSINGS AND OTHER TOTAL
--------- -------- --------- -------
(dollars in thousands)
Charges recorded in 2001 $ 2,000 $ 2,577 $ 1,117 $ 5,647
Utilization in 2001 (1,878) (1,016) (1,067) (3,961)
------- ------- ------- -------
Accrued liabilities at December 30, 2001 $ 75 $ 1,561 $ 50 $ 1,686
Utilization in 2002 (75) (919) (7) (1,001)
Other - - 21 21
------- ------- ------- -------
Accrued liabilities at December 29, 2002 - $ 642 $ 64 $ 706
Utilization in 2003 - (540) - (540)
Other - - 36 36
------- ------- ------- -------
Accrued liabilities at December 28, 2003 - $ 102 $ 100 $ 202
======= ======= ======= =======
(18) SUBSEQUENT EVENT (UNAUDITED)
In January 2004, the Company announced the opening of a new greenfield
facility in Tucson, Arizona. This new 16-acre facility will provide needed
coverage in the southern part of the state and will leverage the Company's
existing location in Phoenix. The new facility will also improve the
Company's regional coverage, complementing other existing locations in
southern California and New Mexico.
(19) QUARTERLY FINANCIAL DATA (UNAUDITED)
Summarized unaudited financial data for 2003 and 2002 are as follows:
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
-------- -------- -------- --------
(dollars in thousands except per share amounts)
2003
Revenues $ 56,040 $ 53,338 $ 49,127 $ 51,145
Earnings (loss) from operations 3,340 2,638 (514) (399)
Net earnings 1,976 1,280 (594) (330)
Basic earnings (loss) per share .16 .11 (.05) (.03)
Diluted earnings (loss) per share .16 .11 (.05) (.03)
2002
Revenues $ 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
The sum of earnings per share for the four quarters of 2003 and 2002 does
not equal the full year amount due to rounding and the impact of changes in
the average shares outstanding.
51
INDEX TO EXHIBITS
Exhibit No.
- ----------
10.43 Form of Non-Statutory Stock Option Agreement, Insurance Auto
Auctions, Inc. 2003 Stock Incentive Plan replacing the 1991
Stock Option Plan, as amended and restated.
10.67 Facilities Lease Agreement dated August 7, 2003, by and
between MRM Investments, L.L.P. and Insurance Auto Auctions,
Inc., as amended.
10.68 Facilities Lease Agreement dated August 7, 2003, by and
between MJB Properties and Insurance Auto Auctions, Inc., as
amended.
10.69 Temporary Use License Agreement dated March 1, 2004 by and
between MRM Investments Limited Partnership and Insurance Auto
Auctions, Inc.
10.127 Second Amended and Restated Credit Agreement, dated as of
March 19, 2004, among the Registrant and the lenders from time
to time parties hereto, and LaSalle Bank National Association,
as Administrative Agent.
10.177 Employment Agreement dated October 23, 2003 between the
Company and John R. Nordin.
21 Subsidiaries of the Registrant.
23 Consent of KPMG LLP.
24 Power of Attorney.
31.1 Certification of Thomas C. O'Brien, Chief Executive Officer,
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Scott P. Pettit, Chief Financial Officer,
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification of Thomas C. O'Brien, Chief Executive Officer,
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of Scott P. Pettit, Chief Financial Officer,
pursuant to Section 906 of the Sarbanes- Oxley Act of 2002.