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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, 20549
FORM 10-K
[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the Fiscal Year Ended December 31, 1999
OR
[ ] Transition Report to Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the transition period from__________to__________.
Commission File No.: 0-23038
CORRECTIONAL SERVICES CORPORATION
---------------------------------
(Exact name of registrant as specified in its charter)
DELAWARE 11-3182580
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(State of other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1819 Main Street, Sarasota, Florida 34236
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(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code: (941) 953-9199
Securities registered pursuant to Section 12(b) of the Act: None.
Securities registered pursuant to Section 12(g) of the Act:
Title of each class Name of each exchange on which registered
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Common Stock, par value $.01 per share Nasdaq National Market
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 past 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. [ ]
The aggregate market value of the voting stock (Common Stock) held by non-
affiliates of the Registrant as of the close of business on March 30, 2000 was
approximately $55,443,687 based on the closing sale price of the common
stock on the Nasdaq National Market consolidated tape on that date.
Number of shares outstanding of each of the Registrant's classes of Common
Stock, as of the close of business on March 29, 2000:
Common Stock, $.01 par value 11,373,064 Shares
DOCUMENTS INCORPORATED BY REFERENCE
Part III of this report incorporates by reference information from the
definitive Proxy Statement for the Annual Meeting of Shareholders to be held
in May 2000 which will be filed with the with the Securities and Exchange
Commission within 120 days after December 31, 1999.
TABLE OF CONTENTS
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PAGE
PART I
Item 1 Business 4
Item 2 Properties 14
Item 3 Legal Proceedings 14
Item 4 Submission of Matters to a Vote of Security Holders 15
Executive Officers of the Company 15
PART II
Item 5 Market for Registrant's Common Equity
and Related Stockholder Matters 16
Item 6 Selected Financial Data 16
Item 7 Management's Discussion and Analysis of
Financial Condition and Results of Operations 17
Item 7A Quantitative and Qualitative Disclosures
About Market Risk 28
Item 8 Financial Statements and Supplementary Data 29
Item 9 Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure 29
PART III
Item 10 Directors and Executive Officers of the Registrant 29
Item 11 Executive Compensation 29
Item 12 Security Ownership of Certain Beneficial
Owners and Management 29
Item 13 Certain Relationships and Related Transactions 29
PART IV
Item 14 Exhibits, Financial Statement Schedules,
and Reports on Form 8-K 29
2
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995
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This document contains forward looking statements within the meaning of
Section 27A of the Securities Act of 1933 and 21E of the Securities
Exchange Act of 1934 which are not historical facts and involve risks and
uncertainties. These include statements regarding the expectations,
beliefs, intentions or strategies regarding the future. The Company intends
that all forward-looking statements be subject to the safe-harbor
provisions of the Private Securities Litigation Reform Act of 1995. These
forward-looking statements reflect the Company's views as of the date they
are made with respect to future events and financial performance, but are
subject to many uncertainties and risks which could cause the actual
results of the Company to differ materially from any future results
expressed or implied by such forward-looking statements. Examples of such
uncertainties and risks include, but are not limited to: the integration of
Youth Services International; occupancy levels; the renewal of contracts,
the ability to secure new contracts; availability and cost of financing to
redeem YSI's debentures and to expand our business; and public resistance
to privatization. Additional risk factors include those discussed in the
Company's joint proxy statement/prospectus, dated March 4, 1999. The Company
does not undertake any obligation to update any forward-looking statements.
3
PART I
Item 1. Business.
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General
Correctional Services Corporation ("CSC" or the "Company") was
incorporated in Delaware on October 28, 1993 to acquire all of the outstanding
capital stock of a number of affiliated corporations engaged in the operation
of correctional and detention facilities.
On March 31, 1999, CSC acquired Youth Services International ("YSI"), a
leading national provider of private educational, developmental and
rehabilitative programs to adjudicated juveniles, through a merger accounted
for as a pooling of interests. In the merger, CSC issued 3,114,614 shares of
CSC common stock in exchange for all of the outstanding common stock of YSI.
The Company is one of the largest and most comprehensive providers of
juvenile rehabilitative services with 35 facilities and approximately 3,800
juveniles in its care. In addition, the Company is a leading developer and
operator of adult correctional facilities operating 18 facilities representing
approximately 7,100 beds. On a combined basis, as of December 31, 1999, the
Company provided services in 20 states and Puerto Rico, representing
approximately 10,900 beds excluding aftercare services.
Revenues for the year ended December 31, 1999 increased 24% to $239.9
million from $188.5 million in 1998. Net income for 1999 was $6.8 million or
$.61 per diluted share (excluding merger related charges of $10.3 million net
of tax, or $0.92 per diluted share) versus a loss of $11.0 million or $1.01
per diluted share (excluding direct merger related charges net of tax, and the
cumulative effect of change in accounting principle, or $0.52 per diluted
share) in fiscal year 1998.
CSC operates a wide range of correctional facilities targeted toward
solving the specialized needs of governmental agencies. CSC's adult/community
corrections division specializes in facilities that service, among other
populations:
- substance abuse offenders;
- parole violators;
- pre-trial detainees;
- females;
- sex offenders; and
- community corrections.
CSC's juvenile division operates largely under the YSI brand name and
focuses on facilities that provide:
- intensive treatment programs including educational and
vocational services;
- treatment for habitual offenders;
- specialized female services;
- detention services;
- sex offender treatment programs;
- academy training programs; and
- high impact programs.
In addition to providing fundamental residential services for adult and
juvenile offenders, CSC has developed a broad range of programs intended to
reduce recidivism, including basic and special education, substance abuse
treatment and counseling, vocational training, life skills training,
behavioral modification counseling and comprehensive aftercare programs, based
upon the YSI philosophy, for juveniles who have successfully completed their
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residential placements. In all of its facilities, CSC strives to provide the
highest quality services designed to reduce recidivism. CSC continually
evaluates its programs and believes the reputation of its programs will lead
to continued business opportunities.
CSC is also a leading provider of design and construction services for
juvenile and adult correctional facilities, including project consulting, the
design, development and construction of new correctional and detention
facilities and the redesign and renovation of existing facilities. These
services usually are provided in conjunction with an agreement for CSC to
operate the facility upon completion of the construction or renovation. CSC
believes its proven ability to manage the full spectrum of correctional
facilities and its wide variety of programs and services will continue to
increase its marketing opportunities.
Operational Divisions
CSC has organized its operations into two divisions: Adult/Community
Corrections and Juvenile (YSI).
Adult/Community Corrections. The Adult/Community Corrections Division
operates 18 facilities, eight in Texas, four in New York, two in Arizona and
one each in Colorado, Mississippi, Oklahoma, Georgia and Washington, for a
total of 7,106 beds. In its 13 secure adult facilities CSC, not only provides
adult inmates with housing but also with other basic services, including
health care, transportation and food service. In addition, CSC remains
committed to providing a variety of rehabilitative and educational services,
including community service and recreational programs for adult inmates where
appropriate.
CSC's Community Corrections facilities are non-secure residential
facilities for adult male and female offenders transitioning from
institutional to independent living. Qualified offenders may spend the last
six months of their sentence in a community corrections program. These
programs assist the offender in the reunification process with family and the
community, with the goal of reducing recidivism through successful
reunification. To that end, CSC provides life skills training, case
management, home confinement supervision and family reunification programs
from these facilities. CSC believes that community correctional facilities
help reduce recidivism, result in prison beds being available for more violent
offenders and, in appropriate cases, represent cost-effective alternatives to
prisons.
Juvenile. The Juvenile Division operates 35 facilities in 14 states and
Puerto Rico. The addition of the YSI facilities to the combined Company has
allowed CSC to expand its juvenile operations into 10 new states and to
increase its presence in Florida and Texas. Contracts with the Florida
Department of Juvenile Justice comprised over 10% of the Company's
consolidated revenue in 1999 as did contracts with the Maryland Department of
Juvenile Justice. The Company's facilities house youths aged 10 to 20 and
represent a total of approximately 3,816 beds. CSC manages secure and non-
secure juvenile offender facilities for low, medium, and high risk youths in
highly structured programs, including military-style boot camps, wilderness
programs, secure education and training centers; including academy programs,
high impact programs servicing lower level or first time offenders and
detention facilities. In addition, the Company also provides non-residential
aftercare programs for juveniles who have completed residential programs.
CSC believes its programs, by instilling the qualities of self-respect,
respect for others and their property, personal responsibility and family
values, can help reduce the recidivism rate of program participants. To that
end, CSC's juvenile programs are comprised of four major components:
education; vocational training; socialization; and recreation. Behavioral
management principles intended to dramatically change the thinking and
behavior of program participants are consistently applied throughout each
segment of programming in order to teach participants basic life skills while
reinforcing the principle that success begins with appropriate, acceptable
behavior.
5
Marketing and Business Development
CSC engages in extensive marketing and business development on a national
basis and markets selected projects in the international arena. Marketing
efforts are spearheaded by CSC's business development team in conjunction with
CSC's executive officers and outside consultants.
CSC's business development department is responsible for marketing the
full range of services to clients. CSC's business development department has
specialists in both the juvenile and adult markets. Marketing responsibilities
include identifying new clients, preparing and delivering formal presentations
and identifying strategic partners.
CSC receives frequent inquiries from or on behalf of governmental
agencies. Upon receiving such an inquiry, CSC determines whether there is an
existing or future need for CSC's services, whether the legal and political
climate is conducive to privatized correctional operations and whether or not
the project is commercially viable.
Contract Award Process
Most governmental procurement and purchasing activities are controlled by
procurement regulations that take the form of a Request for a Proposal, and to
date most of CSC's new business has resulted from responding to these
requests. Interested parties submit proposals in response to an RFP within a
time period of 15 to 120 days from the time that the RFP is issued. A typical
RFP requires a bidder to provide detailed information, including the services
to be provided by the bidder, the bidder's experience and qualifications
and the price at which the bidder is willing to provide the services. From
time to time, CSC engages independent consultants to assist in responding to
the RFPs. Approximately six to eighteen months is generally required from the
issuance of the RFP to the contract award.
Before responding to an RFP, CSC researches and evaluates, among other
factors:
- the current size and growth projections of the available
correctional and detention population;
- whether or not a minimum capacity level is guaranteed;
- the willingness of the contracting authority to allow CSC to
house populations of similar classification within the proposed
facility for other governmental agencies; and
- the willingness of the contracting authority to allow CSC to
make adjustments in operating activities, such as work force
reductions in the event the actual population is less than the
contracted capacity.
Under the RFP, the bidder may be required to design and construct a new
facility or to redesign and renovate an existing facility at its own cost. In
such event, CSC's ability to obtain the contract award is dependent upon its
ability to obtain the necessary financing or fund such costs internally.
In addition to issuing formal RFPs, governmental agencies may use a
procedure known as Purchase of Services or Requests for Qualification. In the
case of an RFQ, the requesting agency selects a firm it believes is most
qualified to provide the necessary services and then negotiates the terms of
the contract, including the price at which the services are to be provided.
Market
Throughout the United States, there is a growing trend toward
privatization of correctional and detention functions as federal, state and
local governments have faced continuing pressure to control costs and improve
the quality of services. Further, incarceration costs generally grow faster
than many other parts of budget items. In an attempt to address these
pressures, governmental agencies responsible for correctional and detention
facilities are increasingly privatizing facilities.
6
An estimated 1.8 million inmates are held in the nation's prisons and
local jails and recent legislation, including new sentencing guidelines and
the increased popularity of "3 strikes" laws, has contributed to the growing
demand for prison facilities. In 1998, state prisons were 13% above their
highest design capacity and federal prisons were 27% above design capacity.
According to the Department of Justice, the adult prison population rose and
estimated 1,627 new inmates per week from 1990 through 1998, while 18% of
released prisoners serviced their entire sentence in 1998 as compared to 13%
in 1990. During that same period, growth in female representation in the
adult inmate population has exceed the growth of male representation in the
adult inmate population at a rate of 8.5% to 6.6%.
In addition to the current growth in the adult corrections population,
over the next 10 years, the number of juveniles approaching crime-committing
age is expected to increase significantly. The Company expects that as
juvenile crime continues to receive increasing levels of visibility, the need
for services for troubled youth will increase.
In the international sector, the demand for privately managed facilities
is increasing due to fiscal pressures, overcrowding, increasing recidivism and
an overall desire to deliver augmented services while minimizing their cost
impact.
Competition
CSC competes on the basis of cost, quality and range of services offered,
its experience in managing facilities, the reputation of its personnel and its
ability to design, finance and construct new facilities. Some of CSC's
competitors have greater resources than CSC. CSC also competes in some markets
with local companies that may have a better understanding of local conditions
and a better ability to gain political and public acceptance. In addition,
CSC's Community Corrections and Juvenile operations compete with governmental
and not-for-profit entities. CSC's main competitors include Wackenhut
Corrections Corporation, Cornell Corrections and Corrections Corporation of
America.
Facilities
CSC operates adult and juvenile pre-disposition and post-disposition
secure and non-secure correctional and detention facilities and non-secure
community correctional facilities for federal, state and local correctional
agencies. Pre-disposition secure detention facilities provide secure
residential detention for individuals awaiting trial and/or the outcome of
judicial proceedings, and for aliens awaiting deportation or the disposition
of deportation hearings. Post-disposition secure facilities provide secure
incarceration for individuals who have been found guilty of a crime by a court
of law. CSC operates six types of post-disposition facilities: 1) secure
prisons (adult); 2) intermediate sanction facilities (adult); 3) military-
style boot camps (juvenile); 4) academies (juvenile); 5) high impact programs
(juvenile); and 6) secure treatment and training facilities (adult and
juvenile).
Secure prisons and intermediate sanction facilities provide secure
correctional services for individuals who have been found guilty of one or
more offenses. Offenders placed in intermediate sanction facilities are
typically persons who have committed a technical violation of their parole
conditions, but whose offense history or current offense does not warrant
incarceration in a prison. Both types of facilities offer vocational training,
substance abuse treatment and offense specific treatment. Boot camps provide
intensely structured and regimented residential correctional services which
emphasize disciplined activities modeled after the training principles of
military boot camps and stress physical challenges, fitness, discipline and
personal appearance. Academies are secure facilities that range from hardware
secure to staff secure. These facilities typically service juveniles who are
repeat offenders and/or violent crime offenders. The academies emphasize
rehabilitative programming, including education, recreation and vocational
training. High impact programs provide residential placement for juveniles who
are either first time offenders or who were unable to meet the terms of a non-
residential placement. High impact programs are generally short term with
stays of 30 to 90 days, but involve all of the rehabilitative elements of an
academy program. Secure treatment and training facilities, including
specialized sex offender programs, provide numerous services designed to
reduce recidivism including: educational and vocational training, life skills,
anger control management, and substance abuse counseling and treatment.
Juvenile sex offender programs are generally locked secure and involve a
length of stay from 12 to 24 months.
CSC also operates non-secure residential and non-residential community
corrections programs. Non-secure residential facilities, known as halfway
houses, provide residential correctional services for offenders in need of
7
less supervision and monitoring than are provided in a secure environment.
Offenders in community corrections facilities are typically allowed to leave
the facility to work in the immediate community and/or participate in
community-based educational and vocational training programs during daytime
hours. Generally, persons in community correctional facilities are serving the
last nine months of their sentence. Non-residential programs permit the
offender to reside at home or in some other approved setting under supervision
and monitoring by CSC. Supervision may take the form of either requiring the
offender to report to a correctional facility a specified number of times each
week and/or having CSC employees monitor the offender on a case management
basis at his/her work site and home. In the juvenile division, the non-
residential programs take the form of aftercare programs. Unlike the adult
division where a non-residential supervision program may replace the last part
of an adult's residential supervision, in the juvenile division counterpart,
the aftercare program is strictly post release. The goal of these programs,
like adult community corrections, is to assist the juvenile in effecting a
positive return to their families and communities. Aftercare programs provide
the contact, supervision and support that is needed to further instill the
principles learned by the juvenile during the longer residential program.
Adult Division
The following information is provided with respect to the facilities for
which CSC had management contracts as of March 24, 2000:
Design Contracting Owned,
Facility Name, Location and Capacity Governmental Leased, or
Year Operations Commenced Beds(1) Type of Facility Agency Managed(2)
--------------------------- -------- ---------------- ------------ ----------
Seattle INS Detention Center 150 Secure Detention INS Managed
Detention Center Facility
Seattle, Washington (1989)
South Texas Intermediate 450 Secure Intermediate State Managed
Sanction Facility Sanction Facility
Houston, Texas (1993)
Tarrant County Community 230 Secure Intermediate County Managed
Correctional Facility (3) Sanction Facility
Mansfield, Texas (1992)
Arizona State Prison, Phoenix West 400 Prison State Owned
Phoenix, Arizona (1996)
Arizona State Prison, Florence 600 Prison State Owned
Florence, Arizona (1997)
Frio County Jail 391 Jail/Long-Term County/State/Federal Part-Leased/
Pearsall, Texas (1997) Detention Part-Owned
Grenada County Jail 160 Jail County Managed
Grenada, Mississippi (1998)
Jefferson County Downtown Jail 500 Jail/Long Term County/State Managed
Beaumont, Texas (1998) Detention
Newton County Correctional Facility 872 Prison State/Federal Managed
Newton, Texas (1998)
Central Oklahoma 850 Prison Multi-State Managed
Correctional Facility
McLoud, Oklahoma (1998)
8
South Fulton Municipal 288 Jail/Long Term County/Federal Managed
Regional Jail Detention
Union City, Georgia (1999)
Dickens County Correctional Center 489 Long Term Detention State Leased
Spur, Texas (1998)
Crowley County Correctional 1200 Prison Multi-State Managed
Facility
Crowley, Colorado (1998)
Brooklyn Community 500 Residential Federal Bureau Leased
Correctional Center Correctional Facility of Prisons
Brooklyn, New York (1989)
Manhattan Community 60 Residential Federal Bureau Leased
Corrections Center Correctional Facility of Prisons
New York, New York (1990)
Bronx Community 60 Residential Federal Bureau Leased
Corrections Center Correctional Facility of Prisons
Bronx, New York (1996)
New York State Community 70 Residential State Leased
Corrections Center Correctional Facility
Manhattan, NY (1998)
Fort Worth Community 200 Residential State Leased
Corrections Center Correctional Facility
Fort Worth, Texas (1994)
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(1) Design capacity is based on the physical space available presently, or
with minimal additional expenditure, for offender or residential beds in
compliance with relevant regulations and contract requirements. In certain
cases, the management contract for a facility provides for a lower number
of beds.
(2) A managed facility is a facility for which CSC provides management
services pursuant to a management contract with the applicable
governmental agency but, unlike a leased or owned facility, CSC has no
property interest in the facility.
(3) This facility is listed both as part of CSC's Adult Division and its
Juvenile Division as the facility houses both adult and juvenile
offenders.
Juvenile Division
Design Contracting Owned,
Facility Name, Location and Capacity Governmental Leased, or
Year Operations Commenced Beds(1) Type of Facility Agency Managed(2)
--------------------------- -------- ---------------- ------------ ----------
Tarrant County Community 120 Secure Boot Camp County Managed
Correctional Center(3) Facility
Mansfield, Texas (1992)
Hemphill County Juvenile 100 Secure Boot Camp County Leased
Detention Center Facility
Canadian, Texas (1994)
9
Bartow Youth Training Center 74 Secure & Residential State Managed
Bartow, Florida (1995) Treatment Facility
Polk City Youth Training Center 350 Secure Treatment State Managed
Polk City, Florida (1997) Facility
Bell County Youth Training Center 96 Secure Detention County Managed
Killeen, Texas (1997) Facility
Okaloosa County Juvenile 64 Secure Treatment State Managed
Residential Facility Facility
Okaloosa, Florida (1998)
Bayamon Treatment Center 141 Secure Treatment Commonwealth Managed
Bayamon, Puerto Rico (1998)(4) Facility of Puerto Rico
Paulding Regional Youth 126 Secure Detention State Managed
Detention Center Facility
Paulding, Georgia (1999)
Clark County, Nevada Facility 96 Secure Treatment State Managed
(May 2000-Not Yet Operational) Facility
Colorado County Boot Camp 100 Secure Detention Multi-County Managed
Eagle Lake, Texas (1998) Facility
Judge Roger Hashem Juvenile 64 Secure Detention Multi-County Managed
Justice Center Facility
Rockdale, Texas (1997)
Dallas County Secure Post 96 Secure Treatment County Managed
Adjudication Facility Facility
Dallas, Texas (1998)
Dallas Youth Academy 96 Secure Treatment County Managed
Dallas, Texas (1998) Facility
Victor Cullen Academy 225 Secure Academy State Managed
Sabillasville, Maryland (1992) Facility
Charles Hickey School 355 Secure Academy/High State Managed
Baltimore, Maryland (1993) Impact/Detention and
Sex Offender Facility
Reflections Treatment Agency 52 Secure Sexual Offender State Leased
Knoxville, Tennessee (1992) Facility
Forest Ridge Youth Services 140 Non Secure Female Multi-State Leased
Wallingford, Iowa (1993) Academy Facility
Chamberlain Academy 78 Non Secure Multi-State/ Owned
Chamberlain, South Dakota (1993) Academy Facility Federal
10
Springfield Academy 108 Non Secure Academy State/Federal Owned
Springfield, South Dakota (1993) Facility
Tarkio Academy 302 Secure Academy Multi-State Leased
Tarkio, Missouri (1994) Sexual Offender Facility
Woodward Academy 96 Secure Academy Multi-State Leased
Estherville, Iowa (1995)(5) Sexual Offender Facility
Camp Washington 45 Secure Boot Camp City Managed/
Carrsville, Virginia (1996) Leased
Everglades Academy 102 Secure Academy State Managed
Florida City, Florida (1996)(6) Facility
Keweenaw Academy 150 Non Secure Academy State Leased
Mohawk, Michigan (1997) Facility
Cypress Creek Academy 100 Secure Academy State Managed
Lecanto, Florida (1997) Facility
Genesis Treatment Agency 36 Secure Sexual Offender City/ Leased
Richmond, Virginia (1997) Treatment Facility Multi-County
Hillsborough Academy 25 Secure Academy State Managed
Tampa, Florida (1997) Facility
Pompano Academy 52 Secure Academy State Managed
Pompano Beach, Florida (1997) Facility
Snowden Cottage Academy 18 Non Secure Academy State Leased
Wilmington, Delaware (1997) Facility
Elmore Academy 150 Non Secure Academy Multi-State Owned
Elmore, Minnesota (1998) Facility
Chanute Transition Center 56 Non Secure Transition State Leased
Rantoul, IL (1998) Facility
Cotulla Boot Camp 64 Secure Boot Camp Multi-County Leased
Cotulla, Texas (1998)
Hondo Detention Center 15 Secure Detenion County Leased
Hondo, Texas (1998) Facility
Lockhart Boot Camp 38 Secure Boot Camp Multi-County Leased
Lockhart, Texas (1998) Detention Facility
Texarkana Boot Camp 124 Secure Boot Camp Multi-County Leased
Texarkana, Texas (1998) Detention Facility
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JoAnn Bridges Academy 30 Secure Female State Managed
Greenville, Florida (1998) Academy Facility
Salinas Treatment Center 100 Secure Treatment Commonwealth Leased
Salinas, Puerto Rico (2000)(4) of Puerto Rico
___________________
(1) Design capacity is based on the physical space available presently, or
with minimal additional expenditure, for offender or residential beds in
compliance with relevant regulations and contract requirements. In certain
cases, the management contract for a facility provides for a lower number
of beds.
(2) A managed facility is a facility for which CSC provides management
services pursuant to a management contract with the applicable
governmental agency but, unlike a leased or owned facility, CSC has no
property interest in the facility.
(3) This facility is listed both as part of CSC's Adult Division and its
Juvenile Division as the facility houses both adult and juvenile
offenders.
(4) The Company is in the process of renegotiating its Agreement with the
Commonwealth of Puerto Rico. The timing and outcome of these negotiations
are uncertain and may potentially result in an increased per diem rate or
the termination of the Company's operation of the facility.
(5) Operations will discontinue effective December 22, 2000. (See
"Management's Discussion and Analysis of Financial Condition and Results
of Operations.")
(6) Operations will discontinue effective May 31, 2000. (See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations.")
Facility Management Contracts
CSC is primarily compensated on the basis of the population in each of
its facilities on a fixed rate per inmate per day; however, some contracts
have a minimum revenue guarantee. Invoices are generally sent on a monthly
basis detailing the population for the prior month. Occupancy rates for
facilities tend to be low when first opened or when expansions are first
available. However, after a facility passes the start-up period, typically 3
months, the occupancy rate tends to stabilize.
CSC is required by its contracts to maintain certain levels of insurance
coverage for general liability, workers' compensation, vehicle liability and
property loss or damage. CSC is also required to indemnify the contracting
agencies for claims and costs arising out of CSC's operations and in certain
cases, to maintain performance bonds.
As is standard in the industry, CSC's contracts are short term in nature,
generally ranging from one to three years and contain multiple renewal
options. Most facility contracts also generally contain clauses which allow
the governmental agency to terminate a contract with or without cause, and are
subject to legislative appropriation of funds.
Operating Procedures
CSC is responsible for the overall operation of each facility under its
management, including staff recruitment, general administration of the
facility, security of inmates and employees, supervision of the offenders and
facility maintenance. CSC, either directly or through subcontractors, also
provides health care, including medical, dental and psychiatric services and
food service. Certain facilities also offer special rehabilitative and
educational programs, such as academic or vocational education, job and life
skills training, counseling, substance abuse programs, and work and
recreational programs.
CSC's contracts generally require CSC to operate each facility in
accordance with all applicable local, state and federal laws, rules and
regulations and the standards. In addition, adult facilities are generally
required to adhere to the guidelines of the American Correctional Association.
The ACA standards, designed to safeguard the life, health and safety of
offenders and personnel, describe specific objectives with respect to
administration, personnel and staff training, security, medical and health
care, food service, inmate supervision and physical plant requirements. CSC
believes the benefits of operating its facilities in accordance with ACA
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standards include improved management, better defense against lawsuits by
offenders alleging violations of civil rights, a more humane environment for
personnel and offenders and measurable criteria for upgrading programs,
personnel and the physical plant on a continuous basis. Several of our
facilities are fully accredited by the ACA and certain other facilities
currently are being reviewed for accreditation. It is the Company's goal to
obtain and maintain ACA accreditation for all of its adult facilities, and for
its juvenile facilities when applicable. James Irving, President YSI, is a
past Chairman of the ACA Standards Committee and a certified ACA standard
auditor for jail and detention facilities.
Facility Design And Construction
In addition to its facility management services, CSC also consults with
various governmental entities to design and construct new correctional and
detention facilities and renovate older facilities to provide enhanced
services to the population. CSC manages all of the facilities it has designed
and constructed or redesigned and renovated.
Pursuant to CSC's design, construction and management contracts, it is
responsible for overall project development and completion. Typically, CSC
develops the conceptual design for a project, then hires architects, engineers
and construction companies to complete the development. When designing a
particular facility, CSC utilizes, with appropriate modifications, prototype
designs CSC has used in developing other projects. Management of CSC believes
that the use of such prototype designs allows it to reduce cost overruns and
construction delays.
Facilities Under Construction
Construction is near completion on the 132 bed juvenile detention center
in Salinas, Puerto Rico. The facility will house minimum to medium risk
juveniles, aged 12 to 17, and is expected to be completed in May 2000.
Construction is substantially complete on the 96 bed Clark County, Nevada
facility. The maximum security juvenile facility is expected to be completed
by late April 2000.
Employees
At March 24, 2000, CSC had approximately 5,100 employees, consisting of
clerical and administrative personnel, security personnel, food service
personnel and facility administrators. CSC believes its relationship with its
employees is good.
Each of CSC's facilities is led by an experienced facility administrator
or executive director. Other facility personnel include administrative,
security, medical, food service, counseling, classification and educational
and vocational training personnel. CSC conducts background screening checks
and drug testing on potential facility employees. Some of the services
rendered at certain facilities, such as medical services, education or food
service are provided by third-party contractors.
Employee Training
All jurisdictions require corrections officers and youth workers to
complete a specified amount of training. Generally, CSC employees must undergo
at least 160 hours of training before being allowed to work in a position that
will bring them in contact with offenders or detainees. This training consists
of approximately 40 hours relating to CSC policies, operational procedures,
management philosophy and ethics and compliance training and 120 hours
relating to legal issues, rights of offenders and detainees, techniques of
communication and supervision, improvement of interpersonal skills and job
training relating to the specific tasks to be held.
13
Insurance
Each management contract with a governmental agency requires CSC to
maintain certain levels of insurance coverage for general liability, workers'
compensation, vehicle liability and property loss or damage and to indemnify
the contracting agency for claims and costs arising out of CSC's operations.
CSC maintains general liability insurance in the amount of $5,000,000 and
two umbrella policies in the amount of $5,000,000 and $20,000,000,
respectively, covering itself and each of its subsidiaries. There can be no
assurance that the aggregate amount and kinds of CSC's insurance are adequate
to cover all risks it may incur or that insurance will be available in the
future.
In addition, CSC is unable to secure insurance for some unique business
risks including, but not limited to, riot and civil commotion or the acts of
an escaped offender.
Regulation
The industry in which CSC operates is subject to federal, state and local
regulations which are administered by a variety of regulatory authorities.
Generally, providers of correctional services must comply with a variety of
applicable federal, state and local regulations, including educational, health
care and safety regulations. Management contracts frequently include extensive
reporting requirements. In addition, many federal, state and local governments
are required to follow competitive bidding procedures before awarding a
contract. Certain jurisdictions may also require the successful bidder to
award subcontracts on a competitive bid basis and to subcontract to varying
degrees with businesses owned by women or minorities.
Item 2. Properties.
----------
The Company leases office space for its corporate headquarters in
Sarasota, Florida. Additionally, the Company leases office space for a
regional office in New York, New York.
The Company also leases the space for the following facilities it
manages: Hemphill County Juvenile Detention Center, Reflections Treatment
Agency, Forest Ridge Youth Services, Tarkio Academy, Woodward Academy, Camp
Washington Aftercare Program, Keweenaw Academy, Genesis Treatment Agency,
Snowden Cottage Academy, Chanute Transition Center, Cotulla Boot Camp, Hondo
Detention Center, Lockhart Boot Camp, Texarkana Boot Camp, Frio County Jail,
Brooklyn Community Correctional Center, Bronx Community Correctional Center,
Manhattan Community Correctional Center, New York Community Correctional
Center, Fort Worth Community Corrections Center, Frio County Detention
Center(partial), Salinas Treatment Center and Dickens County Correctional
Center.
The Company owns its facilities located in Florence, Arizona; Phoenix,
Arizona; Chamberlain, South Dakota; Springfield, South Dakota; Elmore,
Minnesota; and portions of the Frio County, Texas facility.
Item 3. Legal Proceedings.
-----------------
The nature of CSC's business results in numerous claims or litigation
against CSC for damages arising from the conduct of its employees or others.
Under the rules of the SEC, CSC is obligated to disclose lawsuits which
involve a claim for damages in excess of 10% of its current assets
notwithstanding CSC's belief as to the merit of the lawsuit and the existence
of adequate insurance coverage.
In March 1996, former inmates at one of CSC's facilities filed suit in
the Supreme Court of the State of New York, County of Bronx on behalf of
themselves and others similarly situated, alleging personal injuries and
property damage purportedly caused by negligence and intentional acts of CSC
and claiming $500,000,000 for each compensatory and punitive damages, which
suit was transferred to the United States District Court, Southern District of
14
New York, in April 1996. In July 1996, seven detainees at one of CSC's
facilities, and certain of their spouses, filed suit in the Superior Court of
New Jersey, County of Union, seeking $10,000,000 each in damages arising from
alleged mistreatment of the detainees, which suit was transferred to the
United States District Court, District of New Jersey, in August 1996. In July
1997 former detainees of CSC's Elizabeth, New Jersey Facility filed suit in
the United States District Court for the District of New Jersey. The suit
claims violations of civil rights, personal injury and property damage
allegedly caused by the negligent and intentional acts of CSC. No monetary
damages have been stated. Through stipulation, all these actions will now be
heard in the United States District Court for the District of New Jersey.
This will streamline the discovery process, minimize costs and avoid
inconsistent rulings.
CSC believes the claims made in each of the foregoing actions to be
without merit and will vigorously defend such actions. CSC further believes
the outcome of these actions and all other current legal proceedings to which
it is a party will not have a material adverse effect upon its results of
operations, financial condition or liquidity. However, there is an inherent
risk in any litigation and a decision adverse to CSC could be rendered.
Item 4. Submission of Matters to a Vote Of Security Holders.
---------------------------------------------------
No matters were submitted to security holders for a vote during the last
quarter of 1999.
EXECUTIVE OFFICERS OF THE COMPANY
---------------------------------
The following table sets forth the executive officers of the Company,
together with their respective ages and positions:
Name Age Position with CSC
- - ---- --- -----------------
James F. Slattery 50 President, Chief Executive Officer and
Chairman of the Board
Michael C. Garretson 52 Executive Vice President, Chief Operating
Officer
Ira M. Cotler 36 Executive Vice President, Chief Financial Officer
Aaron Speisman 51 Executive Vice President and Director
Speisman
James F. Slattery co-founded CSC in October 1987 and has been its
President, Chief Executive Officer and a director since CSC's inception and
Chairman since August 1994. Prior to co-founding CSC, Mr. Slattery had been a
managing partner of Merco Properties, Inc., a hotel operation company, Vice
President of Coastal Investment Group, a real estate development company, and
had held several management positions with the Sheraton Hotel Corporation.
Michael C. Garretson joined the Company in August 1994 as its Vice
President of Business Development. In October 1995, he became the Director of
Planning and Economic Development for the City of Jacksonville, Florida and
served in such position until rejoining the Company in January 1996, during
which period he also acted as a consultant to the company. Mr. Garretson was
elected Executive Vice President and Chief Operating Officer in March 1996.
From September 1993 to August 1994, Mr. Garretson was Senior Vice President of
Wackenhut and from August 1990 to August 1993 was Director of Area Development
for Euro Disney S.C.A., the operator of a European theme park.
Ira M. Cotler was elected Chief Financial Officer in January 1998. He had
served as the Company's Executive Vice President-Finance since joining CSC in
March 1996. Prior to joining the Company, from June 1989 to February 1996, Mr.
Cotler was employed by Janney Montgomery Scott Inc., an investment banking
firm, serving in several capacities, most recently as Vice President of
Corporate Finance.
Aaron Speisman co-founded CSC in October 1987 and has been its Executive
Vice President and a director since CSC's inception. From October 1987 to
March 1994, Mr. Speisman also served as Chief Financial Officer of CSC. Since
June 1, 1996, Mr. Speisman has been employed by CSC on a part-time basis.
15
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters.
-------------------------------------------------------------
The common stock of CSC is traded on the Nasdaq National Market. The
following table sets forth, for the calendar quarters indicated, the high and
low sale prices per share on the Nasdaq National Market, based on published
financial sources.
CSC Common
Stock
Sale Price
High Low
------ ------
1998
First Quarter 15 3/4 10 3/16
Second Quarter 16 7/8 12 1/2
Third Quarter 15 1/2 8 7/8
Fourth Quarter 14 1/4 6 3/4
1999
First Quarter 11 10 5/8
Second Quarter 8 1/2 8 3/16
Third Quarter 7 11/16 7 3/8
Fourth Quarter 4 15/16 4 5/8
On the record date there were 199 holders of record and
approximately 4,275 beneficial shareholders registered in nominee and
street name.
Item 6. Selected Financial Data.
-----------------------
The information below is only a summary and should be read in
conjunction with Correctional Services Corporation's historical financial
statements and related notes.
Year Ended December 31,
1999 1998 1997 1996 1995
-------- -------- -------- -------- --------
Revenues $233,918 $188,454 $175,933 $ 99,349 $ 83,960
Operating expenses 205,662 166,443 149,389 75,710 62,400
Startup costs (1) 1,177 8,171 211 - -
General and administrative 12,835 21,119 18,167 16,519 15,313
Merger costs and related
restructuring charges 13,813 1,109 - - -
Loss on sale of behavioral health - - 20,898 - -
Other operating expenses 1,622 2,327 - 3,329 3,910
Operating income (loss) (1,191) (10,715) (12,732) 3,791 2,337
Interest income (expense), net (3,069) (2,611) (2,381) (3,317) (1,743)
Income (loss) before income taxes,
extraordinary gain on
extinguishment of debt and
cumulative of change in accounting (4,260) (13,326) (15,113) 474 594
16
Income tax (provision) benefit (253) 1,593 1,062 (323) (400)
Income (loss) before extraordinary
gain on extinguishment of debt and
cumulative effect of change in
accounting principle (4,513) (11,733) (14,051) 151 194
Extraordinary gain on extinguishment
of debt, net of tax of $643 985 - - - -
Cumulative effect of change in
accounting, net of tax of $3,180,000 - (4,863) - - 0
Net earnings (loss) $ (3,528) $ (16,596) $ (14,051) $ 151 $ 194
Net earnings (loss) per share:
Basic $ (0.31) $ (1.53) $ (1.32) $ 0.02 $ 0.02
Diluted $ (0.31) $ (1.53) $ (1.32) $ 0.01 $ 0.02
Balance sheet data:
Working capital $ 22,381 $ 23,167 $ 29,663 $ 36,355 $ 13,864
Total assets 111,198 125,314 120,750 143,393 52,390
Long-term debt, net of current
portion 33,497 44,288 33,379 38,633 16,317
Shareholders' equity 50,738 51,006 65,503 71,818 26,890
- - ------------
(1) The 1998 amounts include the effect of the adoption of the AICPA
Statement of Position 98-5, Accounting for Startup Costs. (See
"Management's Discussion and Analysis of Financial Condition and Results
of Operations.")
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
--------------------------------------------------------------------
General
The Company is one of the largest and most comprehensive providers of
juvenile rehabilitative services with 35 facilities and approximately 3,800
juveniles in its care. In addition, the Company is a leading developer and
operator of adult correctional facilities operating 18 facilities representing
approximately 7,100 beds. On a combined basis, as of December 31, 1999, the
Company provided services in 20 states and Puerto Rico, representing
approximately 10,900 beds excluding aftercare services.
The Company's primary source of revenue is generated from the operation
of its facilities pursuant to contracts with federal, state and local
governmental agencies, and management agreements with third parties that
contract directly with governmental agencies. Generally, the Company's
contracts are based on a daily rate per resident, some of which have
guaranteed minimum payments; others provide for fixed monthly payments
irrespective of the number of residents housed. In addition, the Company
receives revenue for educational and aftercare services. The Company
recognizes revenue at the time the Company performs the services pursuant to
its contracts.
The Company typically pays all facility operating expenses, except for
rent or lease payments in the case of certain government-provided facilities
or for facilities for which the Company has only a management contract.
Operating expenses are principally comprised of costs directly attributable to
the management of the facility and care of the residents which include
salaries and benefits of administrative and direct supervision personnel,
food, clothing, medical services and personal hygiene supplies. Other
operating expenses are comprised of fixed costs, which consist of rent and
lease payments, utilities, insurance, depreciation and professional fees.
The Company also incurs costs as it relates to the start-up of new
facilities. Such costs are principally comprised of expenses associated with
the recruitment, hiring and training of staff, travel of personnel, certain
legal and other costs incurred after a contract has been awarded.
Contribution from operations consists of revenues minus operating
expenses and start-up costs. Contribution from operations, in general, is
lower in the initial stages of a facility's operations. This is due to the
need to incur a significant portion of the facility's operating expenses while
the facility is in the process of attaining full occupancy.
General and administrative costs primarily consist of salaries and
benefits of non-facility based personnel, insurance, professional fees, rent
and utilities associated with the operation of the Company's corporate
offices. In addition, general and administrative costs consist of development
costs principally comprised of travel, proposal development, legal fees, and
various consulting and other fees incurred prior to the award of a contract.
Recent Developments
On December 15, 1999 the Company announced that it had engaged
Wasserstein Parella & Co. to assist the Company in exploring a broad range of
business alternatives and financial strategies to enhance shareholder value.
Results of Operations
The following table sets forth certain operating data as a
percentage of total revenues:
Percentage of Total Revenues
Years Ended
December 31,
----------------------------
1999 1998 1997
---- ---- ----
Revenues 100.0% 100.0% 100.0%
----- ----- -----
Facility expenses:
Operating 87.9 88.3 84.9
Startup costs 0.5 4.3 0.1
----- ----- -----
Contribution from operations 11.6 7.3 15.0
Other operating expenses:
General and administrative 5.5 11.2 10.3
College Station closure costs - 1.2 -
Merger costs and related restructuring
Charges 5.9 0.6 -
Loss on sale of behavioral health
Business - - 11.9
Write-off of deferred financing costs 0.7 - -
----- ----- -----
Operating loss (0.5) (5.7) (7.2)
Interest and other expense, net (1.3) (1.4) (1.4)
----- ----- -----
Loss before income taxes, extraordinary
gain on extinguishment of debt and
cumulative effect of change in
accounting principle (1.8) (7.1) (8.6)
Income tax (provision) benefit (0.1) 0.9 0.6
----- ----- -----
Loss before extraordinary gain on
extinguishment of debt and cumulative
effect of change in accounting principle (1.9) (6.2) (8.0)
----- ----- -----
Extraordinary gain on extinguishment
of debt, net of tax 0.4 - -
Cumulative effect of change in
accounting principle - (2.6) -
----- ----- -----
Net loss (1.5)% (8.8)% (8.0)%
----- ----- -----
----- ----- -----
Year ended December 31, 1999 Compared to Year ended December 31, 1998
Revenue increased by $45.5 million or 24.1% for the year ended December
31, 1999 to $233.9 million compared to the same period in 1998. These
increases were primarily due to:
- An increase of $51.1 million generated from the opening of 11
juvenile facilities (1,546 beds) and 7 adult facilities (4,283 beds).
- A net increase of $4.7 million generated from per diem rate and
occupancy level increases in existing facilities.
- - - A decrease of $10.3 million from the discontinuance of 7
programs (956 beds.)
18
Operating expenses increased $39.2 million or 23.6% for the year ended
December 31, 1999 to $205.7 million compared to the same period in 1998
primarily due to the opening of the 18 facilities mentioned above.
As a percentage of revenues, operating expenses decreased to 87.9% for
the twelve months ended December 31, 1999 from 88.3% for the twelve months
ended December 31, 1998. Operating costs for the twelve months ended December
31, 1998 were higher as a percentage of revenue than the comparable period in
1999 primarily due to the recording of approximately $6.6 million in charges
consisting of adjustments to accruals and reserves associated with the
collectibility of accounts receivable, recoverability of certain program
expenses and self-insurance of employee medical costs. The decrease in
operating expenses as a percentage of revenue from 1999 to 1998 was partially
offset by an increase in operating expenses from a number of facilities that
were in their early stages of operations during the fourth quarter of 1998 and
the first quarter of 1999 and were experiencing less than optimal utilization
rates. Depending on their cost structure, facilities that are experiencing
less than 85% utilization rates generally incur significantly higher operating
expenses as a percentage of revenue compared to those at or near capacity. A
portion of the decrease was also attributable to lower costs for resident and
operating expenses as a result of the Company's ability to negotiate better
rates due to its increased size after the merger. In addition, operating
costs as a percentage of revenue were reduced due to the implementation of
enhanced financial controls and oversight of the facilities acquired in the
merger.
Startup costs were $1.2 million for the twelve months ended December 31,
1999 compared to $8.3 million for the twelve months ended December 31, 1998.
Startup for the twelve months ended December 31, 1999, related to the startup
of the South Fulton, Georgia facility (288 beds), 300-bed expansion of the
Crowley, Colorado facility and the 45 bed expansion of the Bayamon, Puerto
Rico treatment facility. During the twelve months ended December 31, 1998,
there were fourteen facilities (5,596 beds) generating start up costs.
General and administrative expenses decreased from $21.1 million for the
twelve months ended December 31, 1998 to $12.8 million for the twelve months
ended December 31, 1999. The decrease of $8.2 million in general and
administrative expenses was primarily attributable to:
- A $4.9 million reduction of deferred development costs.
- A $1.1 million write-off on the fourth quarter of 1998 related
to the buyout of a YSI training contract.
- The reduction of the administrative staff of the YSI subsidiary.
- The synergies realized from the merger including costs for
insurance, office expenses and travel.
As a percentage of revenues, general and administrative expenses
decreased to 5.5% for the twelve months ended December 31, 1999 from 11.2% for
the twelve months ended December 31, 1998. The decrease in general and
administrative expenses as a percentage of revenue is a result of the items
noted above and leveraging of the remaining costs over a larger revenue base.
The Company recorded a charge of $2.3 million in the twelve months ended
December 31, 1998 relating to anticipated losses in connection with the
College Station program that the Company closed on September 15, 1998.
During the first quarter of 1999, the Company recorded merger costs and
related restructuring charges of approximately $13.8 million ($10.3 million,
after taxes or $0.92 per share) for direct costs related to the merger with
YSI and certain other costs resulting from the restructuring of the newly
combined operations. Direct merger costs consisted primarily of fees to
investment bankers, attorneys, accountants, financial advisors and printing
and other direct costs. Restructuring charges included severance and change
in control payments made to certain former officers and employees of YSI and
costs associated with the consolidation of administrative functions and the
expected closure of certain facilities. Exit costs include charges resulting
from the cancellation of lease agreements and other long-term commitments, the
write-down of underutilized assets or assets to be disposed of and
miscellaneous other costs.
The Company incurred $1.1 million in merger related charges during the
twelve months ended December 31, 1998 in connection with the CSC and YSI
merger. In addition, a small portion of the merger charges related to costs
associated with the pooling transaction with CCI which was consummated on June
30, 1998.
19
In September 1999, the Company wrote off $1.6 million of unamortized
deferred financing costs associated with the Company's previously established
credit facility, which was repaid in full on September 1, 1999.
Interest expense, net of interest income, was $3.1 million for the twelve
months ended December 31, 1999 compared to $2.6 million for the twelve months
ended December 31, 1998, a net increase in interest expense of $.5 million.
This increase resulted from borrowings on the Company's credit facility to
finance the growth of the Company.
For the twelve months ended December 31, 1999 the Company recognized an
income tax provision of $253,000 and an income tax provision of $643,000
related to the extraordinary gain on extinguishment of debt associated with
the YSI 7% Convertible Debt. For the twelve months ended December 31, 1998
the Company recognized a benefit for income taxes of $1,593,000 and an income
tax benefit of $3,180,000 related to the cumulative effect of change in
accounting principle representing an effective tax benefit of 32.4%. The
reduction in the effective tax rate was a result of expensing certain merger
costs that are non-deductible for tax purposes.
In September 1999, the Company recorded an extraordinary gain on the
early extinguishment of debt of $985,000 (net of tax of $643,000). In
anticipation of entering into the new financing arrangement, the Company
agreed with certain holders of the 7% Convertible Subordinated Debentures (who
had previously agreed to postpone the redemption of their Debentures until
March 31, 2000) to redeem their Debentures upon the closing of the new credit
facilities. The agreed redemption price was equal to 90% of the original
principal amount plus accrued but unpaid interest. In September 1999, the
Company used approximately $14.8 million of its available credit to redeem
$16.3 million face value of Debentures leaving a balance of $14.2 million.
Due to the early adoption of SOP 98-5, for the year ended December 31,
1998 the Company expensed startup and deferred development costs totaling
$11,630,000. In addition, the Company was required to record a cumulative
effect of change in accounting principle of $4,863,000 (net of tax of
$3,180,000) retroactively to January 1, 1998 (See Note A of the notes to the
consolidated financial statements).
As a result of the foregoing factors, for the twelve months ended
December 31, 1999 the Company had a net income of $6.8 million or $0.61 per
diluted share (excluding direct merger related charges of $10.3 net of tax, or
$0.92 per diluted share). For the twelve months ended December 31, 1998 the
Company had a net loss of ($11.0 million) or ($1.01) per diluted share
(excluding direct merger related charges net of tax, and the cumulative effect
of change in accounting principle, or $0.52 per diluted share).
Year Ended December 31, 1998 Compared to Year Ended December 31, 1997
Revenue increased by $12.5 million or 7.1% for the year ended December
31, 1998 to $188.5 million compared to the same period in 1997. These
increases were primarily due to:
- An increase of $38.1 million generated from the opening of 15
juvenile facilities (1,867 beds) and 8 adult facilities (4,162 beds).
- A net increase of $5.7million generated from per diem rate and
occupancy level increases in existing facilities.
- A decrease of $31.3 million resulting primarily from the sale of
seven behavioral health programs in October 1997 and the closure of
the College Station program in September 1998.
Operating expenses increased $17.1 million or 11.4% for the year ended
December 31, 1998 to $166.4 million compared to the same period in 1997
primarily due to the opening of the new facilities mentioned above.
As a percentage of revenues, operating expenses increased to 88.3% for
the year ended December 31, 1998 from 84.9% for the same period in 1997.
During the twelve months ended December 31, 1998 YSI recorded $6.6 million of
adjustments to accruals and reserves associated with the collectibility of
accounts receivable, recoverability of certain program expenses, medical costs
incurred in connection with the self-insurance of employee health benefits and
the estimated losses to be incurred under the remaining term of YSI's
contracts to operate the Hillsborough and timberline facilities in Florida.
20
Startup costs were $8.2 million for the twelve months ended December 31,
1998 compared to $211,000 for the twelve months ended December 31, 1997.
During the twelve months ended December 31, 1998, there were fourteen
facilities (5,596 beds) generating start up costs.
General and administrative expenses increased $3.0 million or 16.2% for
the year ended December 31, 1998 to $21.1 million compared to the same period
in 1997. In addition, during the twelve months ended December 31, 1998 the
Company incurred $5.6 million in development costs. This increase was
partially offset by a decrease primarily due to the savings attributable to
the sale of the seven behavioral health programs as well as other
administrative staff reductions.
As a percentage of revenues, general and administrative expenses
decreased to 9.1% before the effect of adopting SOP 98-5 in 1998 from 10.3% in
1997. The decrease in general and administrative expenses as a percentage of
revenue is a result of leveraging these additional costs over a larger revenue
base. General and administrative expense as a percentage of revenue was 11.2%
in 1998 after the effect of adopting SOP 98-5. The reduction from 9.1% is
directly attributable to reversing amortization expense related to start-up
and deferred development in 1998 of $2.1million required by SOP 98-5.
Due to the early adoption of SOP 98-5, for the year ended December 31,
1998 the Company expensed startup and deferred development costs totaling
$11.6 million. In addition, the Company was required to record a cumulative
effect of change in accounting principle of $4.9 million (net of tax of $3.2
million) retroactively to January 1, 1998 (See Note A of the notes to the
consolidated financial statements).
The Company recorded a charge of $2.3 million in the twelve months ended
December 31, 1998 relating to anticipated losses in connection with the
College Station program that the Company closed on September 15, 1998.
During the fourth quarter of 1997 the Company consummated the sale of the
behavioral health business, excluding the two behavioral health programs in
Texas, for $20.4 million resulting in a loss on sale of $20.9 million.
The Company incurred $1.1 million in merger related charges during the
twelve months ended December 31, 1998 in connection with the CSC and YSI
merger. In addition, a small portion of the merger charges related to costs
associated with the pooling transaction with CCI.
Interest expense, net of interest income, was $2.6 million for the year
ended December 31, 1998 compared to $2.5 million for the year ended December
31, 1997. Interest expense incurred by the YSI subsidiaries decreased
approximately $1,200,000 in 1998 primarily attributable to the repayment of
the 12% subordinated debentures in early January 1998 and the disposition of
the behavioral health business, whose liabilities included a significant
amount of capital lease obligations. This decrease in interest was offset by:
- A $584,000 decrease in interest income related to the
utilization of the proceeds from the September 1996 public offering to
finance the Company's growth and expansion during 1998. A substantial
portion of the proceeds had been invested in cash equivalents during
1997.
- A $254,000 net increase in interest expense from the utilization
of the Company's credit facility to finance the Company's growth and
expansion during 1998.
- A reduction of capitalized interest in 1998 by $300,000 compared
to 1997. In 1997, $371,500 was capitalized related to construction of
the Company's Florence, Arizona facility. In 1998, $72,000 was
capitalized related to construction and capital improvements to the
Company's Gallup, New Mexico, Frio, Texas and Canadian, Texas
facilities.
For the year ended December 31, 1998 the Company recognized an income tax
benefit of $1.6 million on income before the cumulative effect of change in
accounting principle and an income tax benefit of $3.2 million related to the
cumulative effect of change in accounting principle. For the year ended
December 31, 1997 the Company recognized a benefit for income taxes of $1.1
million. The effective tax rate was 12% in 1998 and 7% in 1997. The
effective tax benefit rates are due primarily to the non-recognition in the
1998 period of the tax benefit on certain current period expense items due to
21
uncertainties of realizability and to the non-deductibility of a large
component of goodwill in the 1997 period related to the behavioral health
programs which was included in the loss on sale of the behavioral health
business. The fluctuations in the effective tax rates are also due to the
effect of not recording a tax provision on the earnings of CCI due to their
Subchapter S status during those periods.
As a result of the foregoing factors, the Company had a net loss of
($11.0 million) or ($1.01) per diluted share before the cumulative effect of
change in accounting principle and excluding any direct merger related charges
net of tax for year ended December 31, 1998. During the year ended December
31, 1997 the Company had net income $6.2 million or $0.58 per diluted share
excluding the loss on sale of the behavioral health business, net of tax.
Liquidity and Capital Resources
The Company has historically financed its operations through bank
borrowings, private placements, sale of public securities and cash generated
from operations.
The Company had working capital at December 31, 1999 of $22,281,000
compared to $23,167,000 at December 31, 1998. The Company's current ratio
remained relatively consistent at 1.83 to 1 and 1.77 to 1 at December 31, 1999
and 1998 respectively.
Net cash of $5.9 million was provided by operating activities for the
year ended December 31, 1999 as compared to $6.4 million used in operations
for the year ended December 31, 1998. The $12 million change was attributed
primarily to:
- Improved contribution margin in 1999 resulting from lower costs
and enhanced financial controls.
- A reduction in general and administrative costs in 1999 due to
less development costs, reduction in administrative staff and merger
synergies.
- A decrease in net income of $10.6 million (net of taxes) during
1998 resulting from the adoption of SOP 98-5.
- The payment of cash expenses related to the merger of $7.7
million and $1.1million in 1999 and 1998 respectively.
- A decrease in prepaid expenses and accounts receivable of
approximately $3.8 during 1999, partially due to increased collection
efforts by the Company.
- A decrease in accrued expenses and accounts payable of
approximately $6.2 million during 1999.
Net cash of $3 million was used in investing activities during the year
ended December 31, 1999 as compared to $9,179,000 being used in the year ended
December 31, 1998. In the 1999 period, such cash was used principally for:
- Capital expenditures related to the opening of new facilities.
- Leasehold improvements on existing facilities.
- Merger related computer technology and upgrades.
- Land improvement for future development.
In the comparable period for 1998, the principal investing activities of
the Company consisted of:
- - - Capital expenditures related to the opening of new facilities;
- Offset by the receipt of $4,500,000 from the sale of the
Behavioral Health business owned by YSI.
22
Net cash of $3,393,000 was used in financing activities in the year ended
December 31, 1999 as compared to $9,985,000 provided by financing activities
in the year ended December 31, 1998. During 1999 the Company's primary
funding activities consisted of:
- Net proceeds of $11,938,000 from the Company's revolving credit
facilities used to redeem a portion of the subordinated debt as noted
below.
- Proceeds of $920,000 (net of imputed interest) from the sale of
equipment and leasehold improvements.
- Proceeds of $3,260,000 from the exercise of stock warrants and
options.
- Redemption of subordinated debt totaling $17,483,000.
- Payment of debt issuance costs of $2,363,000.
During 1998 the Company's primary funding activities consisted of:
- Net proceeds of $11,500,000 from the Company's revolving credit
facilities used for capital expenditures.
- Proceeds of $1,265,000 (net of imputed interest) from the sale
of equipment and leasehold improvements.
- Proceeds of $1,700,000 from the exercise of stock warrants and
options.
- Redemption of subordinated debt totaling $3,886,000.
- Payment of short-term and long-term borrowings of $479,000.
- Payment of debt issuance costs of $431,000.
In April 1998 the Company finalized a new five-year credit facility with
a syndicate of banks led by NationsBank N.A. The syndicated facility provided
for up to $30 million in borrowings for working capital, construction and
acquisition of correctional facilities, and general corporate purposes all
collateralized by the Company's accounts receivable. The line was comprised
of two components, a $10 million revolving credit and $20 million operating
lease facility for the construction, ownership and acquisition of correctional
facilities. Borrowings under the line were subject to compliance with
financial covenants and borrowing base criteria. The Company incurred rent
expense under the $20 million operating lease facility at an adjusted LIBOR
base lease rate as defined in the agreement. The credit facility was secured
by all of the assets of the Company.
In August of 1998 the Company initiated an amendment to its current
credit agreement with a syndicate of banks led by NationsBank N.A. Under the
amendment, which was finalized on October 16, 1998, the Company received an
additional $17,500,000 temporary increase in its credit facility. The
amendment represents interim financing which terminated on June 15, 1999. As
of December 31, 1998 the total amount outstanding on the revolver was
$11,500,000 and the total amount outstanding on the operating lease facility
was $16,652,000 . This credit facility was repaid in August of 1999 with
proceeds from a new credit facility with Summit Bank as described below.
On August 31, 1999, the Company finalized a new $95 million financing
arrangement with Summit Bank, N.A., a New Jersey based national bank.
Borrowings under the line are subject to compliance with financial covenants
and borrowing base criteria. The new financing arrangement is secured by
substantially all of the assets of the Company and consists of the following
components:
- $30 million revolving line of credit to be used by the Company
and its subsidiaries for working capital and general corporate
23
purposes and to finance the acquisition of facilities, properties and
other businesses.
- $20 million credit facility (the "Delayed Drawdown Line") which
provides the Company with additional financing to be used by the
Company to fund the redemption of the outstanding 7% Convertible
Subordinated Debentures Due March 31, 2000 that were issued by the
Youth Services International, Inc., a subsidiary of the Company (the
"Debentures").
- $45 million in financing that may be used by the Company to
purchase land and property and to finance the construction of new
facilities through an operating lease arrangement.
The $30 million revolving line of credit and the $45,000,000 operating
lease financing facility mature on August 31, 2002. They bear a variable rate
of interest on a margin over the base rate or LIBOR rate. The margin is
determined by the ratio of funded debt to adjusted EBITDA and ranges from .5%
to 1.5% for base rate and from 2.0% to 3.0% for LIBOR rate loans. The Company
has the discretionary ability to elect either base rate or LIBOR rate loans.
The $20 million Delayed Drawdown line matures three years after the
earlier of August 31, 2000 or the date in which the credit facility equals the
$20 million commitment balance. This credit facility bears interest at 1%
over the base rate through December 2000, 3% over the base rate from January
1, 2001 to March 31, 2001 and 4% over the base rate thereafter. The Company
is required to pay the outstanding principal balance in twelve equal quarterly
installments beginning three months after the earlier of August 31, 2000 or
the date in which the credit facility equals the $20 million commitment
balance.
Simultaneously with the closing of these new credit facilities, the
Company used approximately $13,080,000 of the available credit under the
revolving line of credit facility to discharge all of its outstanding line of
credit banking indebtedness to NationsBank, N.A., fees related to the
financing and repayment of other indebtedness. Subsequent to the closing, the
Company paid this revolving credit line down to $9,000,000. Due to borrowing
base limitations, the available balance at December 31, 1999 was approximately
$17,133,000.
Additionally, in connection with the closing of the new credit
facilities, the Company used approximately $18,984,000 of its available credit
under the lease credit facility to discharge its obligations to NationsBank
under a similar financing vehicle previously provided by NationsBank to
the Company. Subsequent to the closing, the company incurred an additional
$1,519,000 in construction costs and capitalized interest. As a result,
$24,497,000 is available at December 31, 1999 for additional property
acquisition and construction under this operating lease financing facility. At
December 31, 1999 the Company has construction commitments of $3,704,000.
7% Convertible Subordinated Debentures
On March 31, 1999, in connection with the merger, the Company assumed
$32,200,000 of 7% Convertible Subordinated Debentures Due February 1, 2006
originally issued during the year ended June 30, 1996 by YSI. Due to certain
provisions in the indenture, the change of control as a result of the merger
enabled the holder to demand immediate redemption by the Company. Agreements
were reached with certain holders representing $30,470,000 of the total debt
to defer payment until March 31, 2000. A total of $1,730,000, representing
the balance was repaid from working capital during the second quarter of 1999.
In anticipation of entering into the new credit facilities with Summit
Bank, the Company agreed with certain holders of the Debentures (who had
previously agreed to postpone the redemption of their Debentures until March
31, 2000) to redeem their Debentures upon the closing of the new credit
facilities at a redemption price equal to 90% of the original principal amount
thereof, plus accrued but unpaid interest. The Company used approximately
$14,750,000 of its available credit under the Delayed Drawdown facility to
redeem $16,280,000 face value of these Debentures. An additional $312,000 was
paid on the delayed draw down facility in December leaving an available
balance of $5,562,000 at December 31, 1999 to be used to redeem additional
Debentures on or before March 31, 2000.
As a result of the above note redemptions, $14,190,000 in principal amount of
these Debentures remain outstanding at December 31, 1999. Absent a different
agreement, the Company will be required to redeem these remaining Debentures
24
on March 31, 2000 at 100% of the original principal amount thereof, plus
accrued but unpaid interest. The Company expects to redeem these Debentures
on March 31, 2000 using the long term financing facilities. That portion to
be refinanced through the delayed drawdown instrument that is expected to be
paid during the year 2000, in accordance with the loan provisions, has been
classified as current.
Youth Services International, Inc. incurred approximately $2,500,000
of direct costs in connection with the issuance of the 7% Convertible
Subordinated Debentures. These costs were included within deferred debt issue
costs for 1998 and amortized over the life of the debentures. The remaining
balance at December 31, 1998 was expensed as part of the merger related
charges in 1999.
10% Subordinated Promissory Notes
Through a series of transactions that closed in July, August and
September 1995, the Company issued 5,676.6 units at $1,000 per unit, in a
private placement of its securities ("1995 Private Placement"). Each unit
consists of (i) a 10% subordinated promissory note due July 1, 1998 in the
principal amount of $1,000, interest payable quarterly and (ii) a four year
warrant to purchase 154 shares of Common Stock at $7.75 per share. The
Company received proceeds of $5,676,600 in connection with the 1995 Private
Placement and recorded the market value of the warrants, $365,000, as
promissory note discount amortized over three years. The net proceeds from
such issuance were used to purchase and renovate the Phoenix, Arizona
facility. On July 1, 1998 the Company's subordinated promissory notes of
$3,935,760 became payable. Management granted note holders the option to
extend their notes through June 30, 1999. In July 1998, the Company redeemed
a total of $2,834,382 for those notes not extended. The remaining notes
totaling $1,101,378 was paid in full between July and October 1999.
12% Subordinated Debentures
During the year ended June 30, 1993, the YSI issued 12% Subordinated
Debentures in the principal amount of $1,000,000. The debentures were issued
with an original issue discount of $50,000, which was being amortized over the
life of the debentures using the effective interest method. The 12%
Subordinated Debentures were redeemed by the Company on January 1, 1998 and a
loss of $53,000 was incurred by the Company in connection with this early
extinguishment.
In connection with the issuance of the debentures, warrants to purchase
231,900 shares of common stock at an exercise price of $3.23 per share were
issued. These warrants were exercisable beginning in April 1993 and expired at
various dates through November 1999. The warrants were assigned a value of
$50,000.
The Company continues to make cash investments in the acquisition and
construction of new facilities and the expansion of existing facilities. In
addition, the Company expects to continue to have cash needs as it relates to
financing start-up costs in connection with new contracts. In addition the
Company is continuing to evaluate opportunities, which could require
significant outlays of cash. If such opportunities were pursued, the Company
would require additional financing resources. Management believes these
additional resources may be available through alternative financing methods.
RISK FACTORS
DECREASES IN OCCUPANCY LEVELS AT OUR FACILITIES MAY HAVE A MATERIAL ADVERSE
EFFECT ON OUR BUSINESS.
While the cost structures of the facilities we operate are relatively
fixed, a substantial portion of our revenues are generated under facility
management contracts with government agencies that specify a net rate per
day per inmate or a per diem rate, with no minimum guaranteed occupancy
levels. Under this per diem rate structure, a decrease in occupancy levels
may have a material adverse effect on our financial condition, results of
operations and liquidity. We are each dependent upon the governmental
agencies with which we have management contracts to provide inmates for,
and maintain the occupancy level of, our managed facilities. We cannot
control those occupancy levels. In addition, our ability to estimate and
control our costs with respect to all of these contracts is critical to our
profitability.
25
During 1998, YSI experienced a significant decline in the occupancy
levels of certain of its facilities, which has caused its contributions
from operations to decline. Occupancy levels may decline at YSI's or CSC's
facilities in the future and new facilities might not reach occupancy
levels required to produce profitability.
THE NON-RENEWAL OR TERMINATION OF OUR FACILITY MANAGEMENT CONTRACTS, WHICH
GENERALLY RANGE FROM ONE TO THREE YEARS, COULD HAVE A MATERIAL ADVERSE
EFFECT ON OUR BUSINESS.
As is typical in our industry, our facility management contracts are
short-term, generally ranging from one to three years, with renewal or
extension options in favor of the contracting governmental agency. Many YSI
contracts renew annually. Our facility management contracts may not be
renewed or our customers may terminate such contracts in accordance with
their right to do so. The non-renewal or termination of any of these
contracts could materially adversely affect our financial condition,
results of operations and liquidity, including our ability to secure new
facility management contracts from others. Of the YSI multi-year contracts
in place as of December 31, 1998, four contracts representing approximately
590 beds are up for renewal in 1999. The contracts up for renewal in 1999
include the five year contract for the operation of the Charles H. Hickey,
Jr. School in Maryland for 330 beds for which YSI was selected the
successful bidder in February 1999. Of the CSC multi-year contracts in
place as of December 31, 1998, CSC has fourteen contracts for a total of
2,137 beds subject to renewal in 1999.
A contracting governmental agency often has a right to terminate a
facility contract with or without cause by giving us adequate notice. Often
a contracting government agency notifies us that we are not in compliance
with certain provisions of a facility contract. Our failure to cure any
such noncompliance could result in termination of the facility contract,
which could materially adversely affect our financial condition, results of
operations and liquidity. If a governmental agency does not receive
necessary appropriations, it could terminate its contract or reduce the
management fee payable to us. Even if funds are appropriated, delays in
payments may occur which could have a material adverse effect on our
financial condition, results of operations and liquidity. We currently
lease many of the facilities that we manage. If a management contract for a
leased facility were terminated, we would continue to be obligated to make
lease payments until the lease expires.
WE FACE FINANCIAL RISKS RELATING TO SPECULATIVE PROJECTS, INCLUDING THE
LOSS OF INITIAL OUTLAYS ON CONTRACTS NOT AWARDED TO US.
In some cases, we may decide to construct and own a facility without a
contract award when we believe there is a need for the facility and a
strong likelihood we will be awarded a contract. However, we take the risk
that a contract may not be awarded. If contracts do not materialize, the
initial outlays may be lost.
OUR ABILITY TO SECURE NEW CONTRACTS TO DEVELOP AND MANAGE CORRECTIONAL
DETENTION FACILITIES DEPENDS ON MANY FACTORS WE CANNOT CONTROL.
Our growth is generally dependent upon our ability to obtain new
contracts to develop and manage new correctional and detention facilities.
This depends on a number of factors we cannot control, including crime
rates and sentencing patterns in various jurisdictions and acceptance of
privatization. Certain jurisdictions recently have required successful
bidders to make a significant capital investment in connection with the
financing of a particular project, a trend which will require the combined
company to have sufficient capital resources to compete effectively. We may
not be able to obtain these capital resources when needed.
WE FACE RISKS AND UNCERTAINTIES IN EXPANDING OUR OPERATIONS OUTSIDE OF THE
UNITED STATES AND ITS TERRITORIES, INCLUDING NEW AND UNFAMILIAR REGULATORY
REQUIREMENTS, CURRENCY EXCHANGE ISSUES, POLITICAL AND ECONOMIC ISSUES, AND
STAFFING AND MANAGING THESE OPERATIONS.
Our business plan includes the possible expansion of our operations
into markets outside of the United States and its territories. We may not
succeed in entering any of these markets, and if we are successful, we will
be subject to the risks of international operations. These risks include
various new and unfamiliar regulatory requirements, issues relating to
currency exchange, political and economic changes and disruptions, tariffs
or other barriers, and difficulties in staffing and managing foreign
operations.
26
WE MAY NOT BE ABLE TO ACHIEVE THE GROWTH WE ANTICIPATE, OR IF ACHIEVED, WE
MAY NOT BE ABLE TO EFFECTIVELY MANAGE IT.
CSC has experienced significant growth and expects that the combined
company will also continue to grow. Successful growth depends on our
ability to obtain and train qualified personnel to handle the increasing
number of juveniles and adults in our care, to develop and operate the
information technology systems and financial controls necessary to manage
expanded operations, to manage our resources over a larger base of programs
and activities, and to integrate efficiently and effectively the business
and financial functions of any newly developed programs. We may not be able
to achieve the growth anticipated or, if achieved, we may not be able to
effectively manage it.
FUTURE ACQUISITIONS MAY INVOLVE SPECIAL RISKS, INCLUDING POSSIBLE ADVERSE
SHORT-TERM EFFECTS ON OUR OPERATING RESULTS, DIVERSION OF MANAGEMENT'S
ATTENTION FROM EXISTING BUSINESS, DEPENDENCE ON KEY PERSONNEL,
UNANTICIPATED LIABILITIES AND COSTS OF AMORTIZATION OF INTANGIBLE ASSETS.
ANY OF THESE RISKS COULD MATERIALLY ADVERSELY AFFECT US.
The combined company also intends to grow through selective
acquisitions of companies and individual facilities although there are no
current plans or agreements to acquire any other companies. We may not be
able to identify or acquire any new company or facility and we may not be
able to profitably manage acquired operations. Acquisitions involve a
number of special risks, including possible adverse short-term effects on
our operating results, diversion of management's attention from existing
business, dependence on retaining, hiring and training key personnel, risks
associated with unanticipated liabilities, and the costs of amortization of
acquired intangible assets, any of which could have a material adverse
effect on our financial condition, results of operations and liquidity.
PUBLIC RESISTANCE TO PRIVATIZATION OF CORRECTIONAL AND DETENTION FACILITIES
COULD RESULT IN OUR INABILITY TO OBTAIN NEW CONTRACTS OR THE LOSS OF
EXISTING CONTRACTS.
The operation of correctional and detention facilities by private
entities is a relatively new concept and has not achieved complete
acceptance by either governments or the public. The movement toward
privatization of correctional and detention facilities has also encountered
resistance from certain groups, such as labor unions and others that
believe that correctional and detention facility operations should only be
conducted by governmental agencies. Political changes or changes in
attitudes toward private correctional and detention facilities management
in any market in which we will operate could result in significant changes
to the previous acceptance of privatization in such market and the
subsequent loss of facility management contracts. Further, some sectors of
the federal government and some state and local governments are not legally
permitted to delegate their traditional operating responsibilities for
correctional and detention facilities to private companies.
OUR FAILURE TO COMPLY WITH UNIQUE GOVERNMENTAL REGULATION COULD RESULT IN
MATERIAL PENALTIES OR NON-RENEWAL OR TERMINATION OF OUR FACILITY MANAGEMENT
CONTRACTS.
The industry in which we operate is subject to extensive federal,
state and local regulations, including education, health care and safety
regulations, which are administered by many regulatory authorities. Some of
the regulations are unique to our industry, and the combination of
regulations we face is unique. We may not always successfully comply with
these regulations, and failure to comply can result in material penalties
or non-renewal or termination of our facility management contracts. Our
contracts typically include extensive reporting requirements, and
supervision and on-site monitoring by representatives of the contracting
governmental agencies. Corrections officers and youth care workers are
customarily required to meet certain training standards and, in some
instances, facility personnel are required to be licensed and subject to
background investigation. Certain jurisdictions also require us to award
subcontracts on a competitive basis or to subcontract with businesses owned
by members of minority groups. Our businesses also are subject to
operational and financial audits by the governmental agencies with which we
have contracts. The outcomes of these audits could have a material adverse
effect on our business, financial condition or results of operations.
THE LOSS OF ANY CSC EXECUTIVE OFFICERS COULD HAVE A MATERIAL ADVERSE EFFECT
ON THE COMBINED COMPANY.
The success of our operations will depend upon the continued services
of CSC's executive management, including James F. Slattery, Chairman, Chief
Executive Officer and President, Michael Garretson, Executive Vice
27
President, and Ira Cotler, Executive Vice President and Chief Financial
Officer. The loss of any of these executive officers could have a material
adverse effect on the combined company.
WE MAY ENCOUNTER MATERIAL COSTS RELATING TO YEAR 2000 COMPLIANCE.
Many existing computer programs were designed to use only two digits
to identify a year in the date field without considering the impact of the
upcoming change in the century. If not corrected, many computer
applications could fail or create erroneous results by or at the year 2000.
CSC management has completed a corporate program, which we believe has
prepared all CSC's computer systems and applications for the year 2000. CSC
expects no material incremental infrastructure costs to be incurred as a
result of these enhancements. YSI expects to implement the systems and
programming changes necessary to address year 2000 issues with respect to
its internal systems without significant expense. In the event the merger
is completed, management anticipates that CSC's computer systems would be
utilized for both companies. Although YSI believes it will be year 2000
compliant and that the cost will not have a material adverse effect, YSI
may not in fact be year 2000 compliant by year 2000, whether or not the
merger is completed, and the cost of year 2000 remediation may have a
material adverse effect on YSI's business, financial condition and results
of operations. We also rely, directly and indirectly, on external systems
of business enterprises such as strategic partners, suppliers, financial
organizations, research facilities and governmental entities, both domestic
and international, for accurate exchange of data. Even if our internal
systems are not materially affected by the year 2000 computer programming
issue, we could be affected by disruptions in the operation of the
enterprises with which we interact.
DISTURBANCES AT ONE OR MORE OF OUR FACILITIES COULD RESULT IN CLOSURE OF
THESE FACILITIES BY THE RELEVANT GOVERNMENTAL ENTITIES AND A LOSS OF OUR
CONTRACTS TO MANAGE THESE FACILITIES.
An escape, riot or other disturbance at one of our facilities could
have a material adverse effect on our financial condition, results of
operations and liquidity. Among other things, the adverse publicity
generated as a result any such event could have a material adverse effect
on our ability to retain an existing contract or obtain future ones. In
addition, if such an event occurs, there is a possibility that the facility
where the event occurred may be shut down by the relevant governmental
entity. A closure of any of our facilities could have a material adverse
effect on our financial condition, results of operations and liquidity.
INSURANCE COVERAGE MAY BE INADEQUATE OR UNAVAILABLE TO COVER POTENTIAL
LIABILITY RELATED TO MANAGEMENT OF CORRECTIONAL AND DETENTION FACILITIES.
Our management of correctional and detention facilities exposes us to
potential third-party claims or litigation by prisoners or other persons
for personal injury or other damages, including damages resulting from
contact with our facilities, programs, personnel or students (including
students who leave our facilities without our authorization and cause
bodily injury or property damage). Currently, we are subject to actions
initiated by former employees, inmates and detainees alleging assault,
sexual harassment, personal injury, property damage, and other injuries. In
addition, our management contracts generally require us to indemnify the
governmental agency against any damages to which the governmental agency
may be subject in connection with such claims or litigation. We maintain
insurance programs that provide coverage for certain liability risks faced
by us, including personal injury, bodily injury, death or property damage
to a third party where we are found to be negligent. There is no assurance,
however, that our insurance will be adequate to cover potential third-party
claims. In addition, we are unable to secure insurance for some unique
business risks including riot and civil commotion or the acts of an escaped
offender.
Committed offenders often seek redress in federal courts pursuant to
federal civil rights statutes for alleged violations of their
constitutional rights caused by the overall condition of their confinement
or by specific conditions or incidents. We may be subject to liability if
any such claim or proceeding is made or instituted against us or the state
with which we contract or subcontract.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
----------------------------------------------------------
The Company's current financing is subject to variable rates of interest
and is therefore exposed to fluctuations in interest rates. The Company's
subordinated debt and mortgage on property accrues interest at fixed rates of
interest.
28
The table below presents the principal amounts, weighted average interest
rates, fair value and other terms, by year of expected maturity, required to
evaluate the expected cash flows and sensitivity to interest rate changes.
Actual maturities may differ because of prepayment rights.
Expected Maturity Dates
-----------------------
2000 2001 2002 2003 2004 Thereafter Total Fair Value
---- ---- ---- ---- ---- ---------- ----- ----------
Fixed rate debt 17,801,632 4,815,005 4,815,252 1,206,073 3,222 305,950 1,422,786 1,422,786
---------- --------- --------- --------- ----- ------- --------- ---------
---------- --------- --------- --------- ----- ------- --------- ---------
Weighted average interest 8.16%
rate at December 31, 1999 -----
-----
Variable rate LIBOR debt - - 9,000,000 - - - 9,000,000 9,000,000
---------- --------- --------- --------- ----- ------- --------- ---------
---------- --------- --------- --------- ----- ------- --------- ---------
Weighted average interest 8.28%
rate at December 31, 1999 -----
-----
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The information required by this item is contained on Pages F-1 through
F-29 hereof.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
---------------------------------------------------------------
None.
PART III
Items 10, 11, 12 and 13 of Part III have been omitted from this report
because the Company will file a definitive Proxy Statement with the Commission
no later than 120 days after the close of its fiscal year. The information
required by Part III which will appear in the Proxy Statement is incorporated
by reference into Part III of this report.
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.
(a) The following documents are filed as part of this report:
(1) Financial Statements:
The consolidated statements of the Company are included on
pages F-1 through F-29 of this Form 10-K.
(2) The financial statement schedules prescribed by this Item 14
are not required.
(3) Exhibits (All referenced herein to "SEC" shall mean the U.S.
Securities and Exchange Commission.)
(b) The Company did not file any Current Reports on Form 8-K during the
quarter ended December 31, 1999.
29
(c) Exhibits:
2.1 Agreement and Plan of Merger, dated as of September 23, 1998, among
YSI, CSC and Palm Merger Corp.(28)
2.2 First Amendment, dated as of January 12, 1999, to the Agreement and
Plan of Merger, dated as of September 23, 1998, among YSI, CSC and
Palm Merger Corp.(29)
2.3 Second Amendment, dated as of March 2, 1999, to the Agreement and
Plan of Merger, dated as of September 23, 1998, among YSI, CSC and
Palm Merger Corp.(35)
3.1 Certificate of Incorporation of CSC dated October 28, 1993.(1){
3.1.1 Copy of Certificate of Amendment of Certificate of Incorporation of
CSC dated July 29, 1996.(4)
3.1.2 Copy of Certificate of Correction to CSC's Certificate of
Incorporation.(1)
3.1.3 Copy of Certification of Correction to CSC's Certificate of
Amendment to CSC's Certificate of
Incorporation. (1)
3.2 CSC's By-Laws.(33)
4.1 Form of YSI's 7% Convertible Subordinated Debentures Due February 1,
2006.(14)
4.2.1 Amendment to Fiscal and Paying Agency Agreement, dated March 31,
1999, by and among YSI, The Chase Manhattan Bank, N.A., New York,
The Chase Manhattan Bank, N.A., London and Chase Manhattan Bank
Luxembourg S.A.(15)
4.3 a. Form of CSC Series A Warrant.(2)
4.3 Indenture, dated October 15, 1996, by and between YSI and The Chase
Manhattan Bank, N.A., as Trustee.
4.3.1 Amendment to Indenture, dated March 31, 1999, by and between YSI and
The Chase Manhattan Bank, as Trustee.(15)
4.4 a. Form of CSC 10% Subordinated Promissory Note.(37)
4.4 Form of Letter Agreement executed by certain Debenture holders
agreeing to receive proceeds from redemption of their Debentures one
year following the effective date of the Merger together with Form
of Guaranty from CSC.(14)
4.4.2 Fiscal and Paying Agency Agreement, dated January 29, 1996, by and
among YSI, The Chase Manhattan Bank, N.A., New York, The Chase
Manhattan Bank, N.A., London and Chase Manhattan Bank Luxembourg
S.A.(14)
4.5 Form of Placement Agent's Warrant between CSC and Janney Montgomery
Scott Inc.(1)
* 10.1 CSC's 1993 Stock Option Plan, as amended.(33)
* 10.5.1 Employment Agreement between CSC and James F. Slattery dated
February 17, 1998.(9)
* 10.6 Employment Agreement between CSC and Aaron Speisman.(1)
* 10.6.1 Modification to the Employment Agreement between CSC and Aaron
Speisman, dated June 13, 1996.(4)
10.15 Agreement between CSC and William Banks, dated October 31, 1989.(1)
10.15.1 Letter dated December 9, 1993 from William Banks to CSC.(1)
10.16 Form of Sub-Lease between CSC and LeMarquis Operating
Corporation.(1)
10.17 Form of Lease between CSC and Myrtle Avenue Family Center, Inc.(1)
10.24.1 Renewal of the Revolving Line of Credit Note dated January 15,
1998.(7)
* 10.25 1994 Non-Employee Director Stock Option Plan.(3)
10.26 Loan and Security Agreement with NationsBank, N.A. (South) dated as
of December 31, 1995.(3)
10.26.2 Deed of Trust Modification Agreement dated January 14, 1998.(7)
10.26.3 Third Amendment to Loan Agreement dated January 5, 1998.(7)
10.26.4 Fourth Amendment to Loan Agreement dated January 14, 1998.(7)
10.44 Lease Agreement between CSC and Creston Realty Associates, L.P.,
dated October 1, 1996.(4)
10.45 Lease between CSC and Elberon Development Company.(1)
10.45.1 Assignment of Lease between CSC and Elberon Development Company.(4)
* 10.47.1 Amended Employment Agreement between CSC and Ira M. Cotler dated
July 9, 1997.(5)
* 10.47.2 Amendment No. 1 dated May 3, 1999 to Employment Agreement between
CSC and Ira M. Cotler of July 9, 1997.(11)
* 10.47.3 Change in Control Agreement between CSC and Ira M. Cotler, dated May
3, 1999.(11)
* 10.48 Employment Agreement between CSC and Michael C. Garretson, dated
January 21, 1996.(4)
* 10.48.1 Employment Agreement between CSC and Michael C. Garretson, dated
December 5, 1998.(17)
30
10.51.1 First Amendment to Asset Purchase Agreement between CSC and Dove
Development Corporation, Consolidated Financial Resources/Crystal
City, Inc., dated August 27, 1997.(6)
10.60 Credit facility with NationsBank and a syndicate of banks for up to
$30 million dated April, 1998.(8)
10.60.1 Amendment No. 1 to credit facility with NationsBank and a syndicate
of banks, dated October 16, 1998.(10)
10.60.2 Amendment No. 2 to credit facility with NationsBank and a syndicate
of banks, dated March 31, 1999.(11)
10.61 Sublease for Sarasota, Florida office space dated April 9, 1998
between Lucent Technologies, Inc. and CSC and Landlord Consent to
Sublease.(8)
10.67 Asset Purchase Agreement between CSC and the County of Dickens,
Texas dated July 14, 1998 for the purchase of the Dickens County
Correctional Facility.(9)
10.70.1 Subcontract, Facility Use Agreement, and Asset Purchase by and among
CSC, Trans-American Development Associates, Inc. and FBA, L.L.C.
dated December 14, 1998.(36)
10.72 Credit Agreement, dated August 31, 1999, between CSC and Summit
Bank, N.A.(16)
10.73 Master Agreement, dated August 31, 1999, between CSC and Atlantic
Financial Group, Ltd., Summit Bank, N.A. and SunTrust Bank.(16)
* 10.74 Employment Agreement dated September 29, 1999 between CSC and James
F. Slattery.(13)
* 10.75 Change in Control Agreement dated September 29, 1999 between CSC and
James F. Slattery.(13)
10.114 Construction/Installment Purchase and Management Services Contract
by and among CSC, the State of Nevada, Department of Human
Resources, Nevada Real Property Corporation and Clark & Sullivan
Constructors-Rite of Passage, Inc. dated February 2, 1999.(36)
21 List of Subsidiaries
23.1 Consent of Grant Thornton L.L.P., CSC's independent public
accountants.
27. Financial Data Schedule
- - ------------
(1) Incorporated by reference to exhibit of same number filed with CSC's
Registration Statement on Form SB-2 (Registration No. 33-71314-NY).
(2) Incorporated by reference to exhibit 4.3 filed with CSC's Registration
Statement on Form SB-2 (Registration No. 33-71314-NY).
(3) Incorporated by reference to exhibit of same number filed with the
initial filing of CSC's Annual Report on Form 10-KSB for the year ended
December 31, 1995.
(4) Incorporated by reference to exhibit of same number filed with CSC's
Annual Report on Form-10-KSB for the year ended December 31, 1996.
(5) Incorporated by reference to exhibit of same number filed with CSC's Form
10-Q for the six months ended June 30, 1997.
(6) Incorporated by reference to exhibit of same number filed with CSC's Form
10-Q for the nine months ended September 30, 1997.
(7) Incorporated by reference to exhibit of same number filed with CSC's
Annual Report on Form-10-K for the year ended December 31, 1997.
(8) Incorporated by reference to exhibit of same number filed with CSC's Form
10-Q for the three months ended March 31, 1998.
(9) Incorporated by reference to exhibit of same number filed with CSC's Form
10-Q for the six months ended June 30, 1998.
(10) Incorporated by reference to exhibit of same number filed with CSC's Form
10-Q for the nine months ended September 30, 1998.
(11) Incorporated by reference to exhibit of same number filed with CSC's Form
10-Q for the three months ended March 31, 1999.
(13) Incorporated by reference to exhibit of same number filed with CSC's Form
10-Q for the nine months ended September 30, 1999.
(14) Incorporated by reference to exhibit of same number filed with CSC's
Current Report on Form 8-K filed with the SEC on April 15, 1999.
(15) Incorporated by reference to exhibit of same number filed with CSC's
Current Report on Form 8-K filed with the SEC on April 22, 1999.
(16) Incorporated by reference to exhibit of same number filed with CSC's
Current Report on Form 8-K filed with the SEC on September 29, 1999.
31
(17) Incorporated by reference to exhibit of same number filed with CSC's Form
10-K filed with the SEC on March 31, 1999.
(28) Incorporated by reference to CSC's Current Report on Form 8-K, filed with
the SEC on September 25, 1998.
(29) Incorporated by reference to CSC's Current Report on Form 8-K, filed with
the SEC on January 21, 1999
(33) Incorporated by reference to exhibit of same number filed with CSC's
Registration Statement on Form S-1 (Registration Number 333-6457).
(35) Incorporated by reference to exhibit of same number filed with CSC's,
Current Report on Form 8-K, filed with the SEC on March 3, 1999.
(36) Incorporated by reference to exhibit of same number filed with CSC's
Registration Statement on Form S-4 (Registration Number 333-72003).
(37) Incorporated by reference to Exhibit 4.4 filed with CSC's Registration
Statement on Form SB-2 (Registration No. 33-71314-NY).
* Management Contract or Compensatory Plan or arrangement.
32
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
CORRECTIONAL SERVICES CORPORATION
Registrant
By: /s/ James F. Slattery
James F. Slattery, President
Dated: March 30, 2000
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the Registrant and in the capacities and on
the dates indicated.
Signature Title Date
/s/ James F. Slattery President, Chief Executive Officer March 30, 2000
James F. Slattery and Chairman of the Board
/s/ Ira M. Cotler Executive Vice President,
Ira M. Cotler Chief Financial Officer March 30, 2000
/s/ Aaron Speisman Executive Vice President
Aaron Speisman and Director March 30, 2000
/s/Richard Staley Senior Vice President and Director March 30, 2000
Richard Staley
/s/ Stuart Gerson Director March 30, 2000
Stuart Gerson
/s/Shimmie Horn Director March 30, 2000
Shimmie Horn
/s/ Bobbie L. Huskey Director March 30, 2000
Bobbie L. Huskey
/s/ Melvin T. Stith Director March 30, 2000
Melvin T. Stith
33
C O N T E N T S
PAGE
Report of Independent Certified Public Accountants F-1
Consolidated Balance Sheets as of December 31, 1999 and 1998 F-2
Consolidated Statements of Operations for the years ended
December 31, 1999, 1998 and 1997 F-3
Consolidated Statement of Stockholders' Equity for the years ended
December 31, 1999, 1998 and 1997 F-4
Consolidated Statements of Cash Flows for the years ended
December 31, 1999, 1998 and 1997 F-5
Notes to Consolidated Financial Statements F-6-29
34
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
Correctional Services Corporation
We have audited the accompanying consolidated balance sheet of Correctional
Services Corporation and Subsidiaries as of December 31, 1999, and the related
consolidated statements of operations, stockholders' equity and cash flows for
the year then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally
accepted in the United States. 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 audit provides
a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of Correctional Services Corporation and Subsidiaries as of December 31, 1999,
and the consolidated results of their operations and their consolidated cash
flows for the year ended December 31, 1999, in conformity with accounting
principles generally accepted in the United States.
We previously audited and reported on the consolidated balance sheet of
Correctional Services Corporation and Subsidiaries as of December 31, 1998,
and the related consolidated statements of operations, stockholders' equity
and cash flows for the years ended December 31, 1998 and 1997, prior to their
restatement for the 1999 pooling of interests. The contribution of
Correctional Services Corporation and Subsidiaries to total assets as of
December 31, 1998, represented 53.2 percent and to revenues for the years
ended December 31, 1998 and 1997, represented 52.0 percent and 34.1 percent of
the respective restated totals. Separate financial statements of the other
company included in the 1998 restated consolidated balance sheet and the 1998
and 1997 restated statements of operations, stockholders' equity and cash
flows were audited and reported on separately by another auditor. We also
audited the combination of the accompanying consolidated balance sheet as of
December 31, 1998, and the consolidated statements of operations,
stockholders' equity and cash flows for the years ended December 31, 1998 and
1997, after restatement for the 1999 pooling of interests; in our opinion,
such consolidated statements have been properly combined on the basis
described in Note A of the notes to the consolidated financial statements.
/s/ GRANT THORNTON LLP
Tampa, Florida
March 17, 2000
F-1
35
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
December 31,
------------------
1999 1998
-------- --------
ASSETS
- - ------
CURRENT ASSETS
Cash and cash equivalents $ 7,070 $ 7,639
Restricted cash 192 157
Accounts receivable, net of allowance for doubtful
accounts of $1,380 and $1,251 for
December 31, 1999 and 1998, respectively 35,768 37,924
Deferred tax asset 3,227 2,071
Prepaid expenses and other current assets 2,987 5,396
-------- --------
Total current assets 49,244 53,187
PROPERTY, EQUIPMENT AND LEASEHOLD IMPROVEMENTS, NET 47,972 53,119
OTHER ASSETS
Deferred tax asset 7,060 9,161
Goodwill, net 1,428 1,790
Other 5,494 8,057
-------- --------
$111,198 $125,314
-------- --------
-------- --------
LIABILITIES AND STOCKHOLDERS' EQUITY
- - ------------------------------------
CURRENT LIABILITIES
Accounts payable $ 3,124 $ 5,297
Accrued liabilities 18,836 23,599
Current portion of subordinated debt 3,797 1,101
Current portion of senior debt 1,206 23
-------- --------
Total current liabilities 26,963 30,020
COMMITMENTS AND CONTINGENCIES - -
LONG-TERM SENIOR DEBT 22,551 11,864
SUBORDINATED DEBENTURES 10,393 32,200
LONG-TERM PORTION OF FACILITY LOSS RESERVES 553 224
STOCKHOLDERS' EQUITY
Preferred stock, $.01 par value, 1,000,000 shares
authorized, none issued and outstanding - -
Common stock, $.01 par value, 30,000,000 shares
authorized, 11,373,064 and 10,906,768 shares
issued and outstanding, respectively 114 109
Additional paid-in capital 82,807 79,552
Accumulated deficit (32,183) (28,655)
-------- --------
50,738 51,006
-------- --------
$111,198 $125,314
-------- --------
-------- --------
The accompanying notes are an integral part of these statements.
F-2
36
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
Year Ended December 31,
------------------------------
1999 1998 1997
-------- -------- --------
Revenues $233,918 $188,454 $175,933
Facility expenses:
Operating 205,662 166,443 149,389
Startup costs 1,177 8,171 211
-------- -------- --------
206,839 174,614 149,600
-------- -------- --------
Contribution from operations 27,079 13,840 26,333
Other operating expenses:
General and administrative 12,835 21,119 18,167
College Station closure costs - 2,327 -
Merger costs and related restructuring 13,813 1,109 -
charges
Loss on sale of behavioral health business - - 20,898
Write-off of deferred financing costs 1,622 - -
-------- -------- --------
Operating loss (1,191) (10,715) (12,732)
Interest and other expense, net (3,069) (2,611) (2,381)
Loss before income taxes, extraordinary gain
on extinguishment of debt and cumulative
effect of change in accounting principle (4,260) (13,326) (15,113)
Income tax (provision) benefit (253) 1,593 1,062
-------- -------- --------
Loss before extraordinary gain on
extinguishment of debt and cumulative
effect of change in accounting principle (4,513) (11,733) (14,051)
Extraordinary gain on extinguishment of debt,
net of tax of $643 985 - -
Cumulative effect of change in accounting
principle, net of tax of $3,180 - (4,863) -
-------- -------- --------
Net loss $ (3,528) $(16,596) $(14,051)
-------- -------- --------
-------- -------- --------
Basic and diluted loss per share:
Loss before extraordinary gain on
extinguishment of debt and cumulative
effect of change in accounting principle $(0.40) $(1.08) $(1.32)
Extraordinary gain on extinguishment of
debt 0.09 - -
Cumulative effect of change in
accounting principle - (0.45) -
-------- -------- --------
Net loss per share $(0.31) $(1.53) $(1.32)
-------- -------- --------
-------- -------- --------
Number of shares used to compute EPS:
Basic 11,219 10,860 10,676
Diluted 11,219 10,860 10,676
The accompanying notes are an integral part of these statements.
F-3
37
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(in thousands)
Additional Accumulated Unrealized Loss
Common Paid-in Earnings on Investments
Stock Capital (Deficit) Available-for-Sale Total
------ ---------- ----------- ------------------ -----
Balance at January 1, 1997 $ 105 $ 69,591 $ 2,180 $(58) $ 71,818
Stock issuance cost - (11) - - (11)
Exercise of stock options 2 3,286 - - 3,288
Exercise of warrants - 178 - - 178
Tax benefit realized due to exercise of
non-qualified stock options - 2,805 - - 2,805
Unrealized gain on investment - - - 58 58
Issuance of common stock as
compensation - 1,547 - - 1,547
Dividend distribution - - (129) - (129)
Net loss - - (14,051) - (14,051)
----- -------- -------- ---- --------
Balance at December 31, 1997 107 77,396 (12,000) - 65,503
Stock issuance cost - (4) - - (4)
Exercise of stock options 1 1,069 - - 1,070
Exercise of warrants 1 630 - - 631
Tax benefit realized due to exercise of
non-qualified stock options - 352 - - 352
Issuance of common stock as
compensation - 109 - - 109
Dividend distribution - - (59) - (59)
Net loss - - (16,596) - (16,596)
----- -------- -------- ---- --------
Balance at December 31, 1998 109 79,552 (28,655) - 51,006
Exercise of stock options 1 515 - - 516
Exercise of warrants 4 2,740 - - 2,744
Net loss - - (3,528) - (3,528)
----- -------- -------- ---- --------
Balance at December 31, 1999 $ 114 $ 82,807 $(32,183) - $ 50,738
----- -------- -------- ---- --------
----- -------- -------- ---- --------
The accompanying notes are an integral part of this statement.
F-4
38
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Years ended December 31,
1999 1998 1997
-------- -------- --------
Cash flows from operating activities:
Net loss $ (3,528) $(16,596) $(14,051)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Depreciation and amortization 5,643 5,667 7,703
Stock granted as compensation - 109 1,547
Merger related asset writedown 6,147 - -
Cumulative effect of a change in accounting
principle, net of tax - 4,863 -
Deferred income tax expense (benefit) 945 (897) (5,001)
Loss on disposal of fixed assets, net 316 17 23
Loss on sale of behavioral health - - 20,898
Loss on sale of investments - - 203
Write off of other assets - 321 -
Tax benefit realized due to exercise of
nonqualified stock options - 352 2,805
Gain on extinguishment of debt (1,628) - -
Deferred financing costs 1,622 - -
Changes in operating assets and liabilities:
Restricted cash (35) 167 46
Accounts receivable 2,230 (10,088) (7,514)
Prepaid expenses and other current assets 1,410 (1,727) 2,364
Accounts payable and accrued (6,609) 11,414 (789)
-------- -------- --------
Net cash provided by (used in)
operating activities: 6,513 (6,398) 8,234
-------- -------- --------
Cash flows from investing activities:
Capital expenditures (4,137) (12,942) (24,740)
Proceeds from the sale of property, equipment
and improvements 312 27 984
Proceeds from the sale of behavioral health
business - 4,500 14,154
Development and startup costs - - (3,410)
Collection of notes receivable - 38 3,184
Cash paid for acquired businesses, net of
cash received - - (628)
Proceeds from the sale of investments - - 5,100
Other assets 136 (802) (684)
-------- -------- --------
Net cash used in investing
activities: (3,689) (9,179) (6,040)
-------- -------- --------
Cash flows from financing activities:
Payment (proceeds) on short-term, long-term
Borrowings capital lease obligations 11,874 11,021 (13,103)
Payment of subordinated debt (17,483) (3,886) -
Proceeds from sale of equipment of leasehold
improvements 920 1,265 1,249
Proceeds from exercise of stock options and
warrants 3,260 1,700 3,403
Debt issuance costs (2,363) (431) (100)
Long-term portion of prepaid lease 399 375 (4,335)
Dividend distribution - (59) (129)
-------- -------- --------
Net cash provided by (used in)
financing activities: (3,393) 9,985 (13,015)
-------- -------- --------
Net decrease in cash and cash equivalents (569) (5,592) (10,821)
Cash and cash equivalents at beginning of period 7,639 13,231 24,052
-------- -------- --------
Cash and cash equivalents at end of period $ 7,070 $ 7,639 $ 13,231
-------- -------- --------
-------- -------- --------
Supplemental disclosures of cash flows
information:
Cash paid (refunded) during the period for:
Interest $ 3,712 $ 2,631 $ 3,522
-------- -------- --------
-------- -------- --------
Income taxes $ 8 $ 703 $ 67
-------- -------- --------
-------- -------- --------
The accompanying notes are an integral part of these statements.
F-5
39
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Correctional Services Corporation and its subsidiaries are organized to
privately operate and manage detention, and correctional facilities as well as
educational, developmental and rehabilitative programs for federal, state and
local government agencies.
1. Principles Of Consolidation
The consolidated financial statements as of December 31, 1999 include the
accounts of Correctional Services Corporation and its wholly owned
subsidiaries:
- Esmor, Inc.
- Esmor New Jersey, Inc.
- CSC Management de Puerto Rico, Inc.
- Youth Services International, Inc.
- Youth Services International of Iowa, Inc.
- Youth Services International of Tennessee, Inc.
- Youth Services International of Baltimore, Inc.
- Youth Services International of Maryland, Inc.
- Youth Services International of Northern Iowa, Inc.
- Youth Services International of South Dakota, Inc.
- Youth Services International of Missouri, Inc.
- Youth Services International of Central Iowa, Inc.
- Youth Services International of Texas, Inc.
- Youth Services International of Virginia, Inc.
- Youth Services International of Delaware, Inc.
- Youth Services International Southeastern Programs, Inc.
- Youth Services International of Minnesota, Inc.
- Youth Services International of Illinois, Inc.
- Youth Services International of Michigan, Inc
All significant intercompany balances and transactions have been
eliminated.
The Company manages and operates certain of its programs pursuant to
subcontracts or similar relationships with not-for-profit entities. These
not-for-profit entities hold contracts directly with state and local
governments to provide rehabilitative services to troubled youth and
subcontract management responsibility to the Company. These not-for-
profit entities are each controlled by independent Boards of Directors,
which have the right to terminate their contract with the Company under
certain circumstances. The accompanying consolidated balance sheets
include net accounts receivable pursuant to these contracts of $3,816,000
and $4,277,000 as of December 31, 1999 and 1998, respectively.
2. Pooling-Of-Interests Business Combinations
Youth Services International, Inc.
On March 31, 1999, the Company exchanged 3,114,614 shares of the
Company's common stock for all of the common stock of Youth Services
International, Inc. (YSI) The merger was accounted for as a
F-6
40
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - (Continued)
pooling-of-interests, and accordingly, the accompanying financial
statements have been retroactively adjusted to include the financial
position and results of operations of YSI for all periods presented.
The following balances of the separate companies for the period preceding
the YSI merger were as follows (in thousands):
For the twelve months ended
December 31,
1998 1997
-------- --------
Revenues
CSC $ 97,928 $ 59,936
YSI 90,526 115,997
-------- --------
Combined $188,454 $175,933
-------- --------
-------- --------
Net income (loss)
CSC $ (6,022) $ 3,026
YSI (10,574) (17,077)
-------- --------
Combined $(16,596) $(14,051)
-------- --------
-------- --------
As of December 31,
1998 1997
-------- --------
Stockholders' equity
CSC $ 37,923 $ 43,188
YSI 14,103 23,335
-------- --------
Combined 52,026 66,523
Adjustments to stockholders' equity for
adoption of accounting policy (1,020) (1,020)
-------- --------
Adjusted stockholders' equity $ 51,006 $ 65,503
-------- --------
-------- --------
In connection with the merger, a conforming accounting adjustment was
recorded to conform the accounting policy relating to YSI's accounting
for supplies inventory. Previously YSI capitalized supplies inventory
while CSC expensed them as incurred. The above adjustment to equity was
made to effect the accounting adjustment as of January 1, 1997.
During the first quarter of 1999, the Company recorded a charge to
operating expenses of approximately $13,813,000 for direct costs related
to the merger and certain other costs resulting from the restructuring of
the newly combined operations. Direct merger costs consisted primarily
of fees to investment bankers, attorneys, accountants, financial advisors
and printing and other direct costs. Restructuring charges included
severance and change in control payments made to certain former officers
and employees of YSI and costs associated with the consolidation of
administrative functions and the expected closure of certain facilities.
Exit costs include charges resulting from the cancellation of lease
agreements and other long-term commitments, the write-down of
underutilized assets or assets to be disposed of and miscellaneous other
costs.
F-7
41
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - (Continued)
Merger costs and related restructuring charges are comprised of the
following (in thousands):
Direct merger costs $ 6,111
Restructuring charges:
Employee severance and change in control payments 2,339
Exit costs 4,410
Other 953
Total $13,813
In addition, in connection with the merger, the Company assumed
$32,200,000 of 7% Convertible Subordinated Debentures originally issued
by YSI during the year ended June 30, 1996. Under the terms of the
indenture pursuant to which YSI issued the Debentures, the acquisition of
YSI by the Company constituted a "change of control" thereby enabling the
holders of the Debentures to demand redemption by the Company. The
applicable portion of the unamortized costs related to the issuance of
these debentures have been appropriately written off and are included
in the direct merger costs. Agreements were subsequently reached with
certain holders representing $30,500,000 of the debentures to defer
payment until March 31, 2000 leaving a balance of $1,730,000 which was
repaid in June 1999.
As of December 31, 1999, all merger and restructuring costs have been
paid except for approximately $720,000 which relates to lease obligations
and asset writeoffs for closed facilities which are expected to be paid
in 2000.
Community Corrections, Inc.
On June 30, 1998, the Company exchanged 238,362 shares of the Company's
common stock for all of the common stock of Community Corrections, Inc.
(CCI). The merger was accounted for as a pooling-of-interests and,
accordingly, the accompanying consolidated financial statements for
the periods presented have been retroactively adjusted to include the
financial position and results of operations for all periods presented.
CCI operates residential boot camp and detention facilities with a total
capacity of 353 beds in Texas and provided aftercare services to
adjudicated youth in Georgia. CCI was a Subchapter S corporation for
federal income tax purposes whereby the earnings of the corporation pass
through to the respective owners. It was the policy of CCI to distribute
necessary amounts to the owners on a periodic basis in order to allow
them to their personal tax liabilities attributable to the earnings of
CCI. During the years ended December 31, 1998 and 1997, income tax
dividends were distributed to the owners totaling approximately $59,000
and $129,000. The operations of CCI during 1997 were not material to the
consolidated results of operations. Accordingly, the pro forma effects on
revenue and net loss are not presented.
3. Use of Estimates in Consolidated Financial Statements
In preparing consolidated financial statements in conformity with
generally accepted accounting principles, management makes estimates and
assumptions that affect the reported amounts of assets and liabilities
and disclosures of contingent assets and liabilities at the date of the
consolidated financial statements, as well as the reported amounts of
revenues and expenses during the reporting period. Actual results could
differ from those estimates.
F-8
42
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - (Continued)
4. Revenue Recognition and Contract Provisions
Revenues are principally derived pursuant to contracts with federal,
state and local government agencies and not-for-profit entities that
contract directly with governmental entities. These contracts generally
provide for fixed per diem payments based upon program occupancy.
Revenues on fixed per diem and management contracts are recognized as the
services are performed.
One of the Company's significant programs operates under a contract
whereby revenues are recognized as reimbursable costs are incurred
through a gross maximum price cost reimbursement arrangement. This
contract has costs, including indirect costs, subject to audit and
adjustment by negotiations with government representatives. Contract
revenues subject to audit relating to this contract of approximately
$13,800,000, $13,458,000, and $13,519,000 have been recorded for the
years ended December 31, 1999, 1998 and 1997, respectively, at amounts
which are expected to be realized. Subsequent adjustments if any,
resulting from the audit process are recorded when known.
Contract terms with government and not-for-profit entities generally
range from one to five years in duration and expire at various dates
through June 2002. Most of these contracts are subject to termination for
convenience by the governmental entity. Management of the Company is not
aware of any circumstances that would cause any governmental entity to
terminate any existing agreement.
5. Cash and Cash Equivalents
The Company considers all highly liquid debt instruments purchased with
original maturities of three months or less to be cash equivalents.
Included in the restricted cash of $192,000 and $157,000 at December 31,
1999 and 1998 is a major maintenance and repair reserve fund established
by the Company as required by certain contracts.
6. Building, Equipment and Leasehold Improvements
Building, equipment and leasehold improvements are carried at cost.
Depreciation of buildings is computed using the straight-line method over
twenty and thirty year periods. Depreciation of equipment is computed
using the straight-line method over a five-year period. Leasehold
improvements are being amortized over the shorter of the life of the
asset or the applicable lease term (ranging from five to twenty years).
For tax purposes accelerated methods of depreciation are utilized.
7. Capitalized Interest
The Company capitalizes interest on facilities during construction.
During 1998 the Company capitalized interest of $72,000 related to
construction at the Gallup, New Mexico, Frio, Texas and Canadian, Texas
facilities. During 1997 interest of $371,500 was capitalized relating to
the construction of the Florence, Arizona facility.
F-9
43
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - (Continued)
8. Deferred Development and Start-Up Costs
For the year ended December 31, 1997 deferred development costs consisted
of costs that could be directly associated with a specific anticipated
contract and, if the recoverability from that contract was probable, they
were deferred until the anticipated contract was awarded. At the
commencement of operations of the facility, the deferred development
costs were amortized over the life of the contract (including option
periods) as development expense but not to exceed five years. Costs of
unsuccessful or abandoned contracts were charged to expense when their
recovery was not considered probable. Facility start-up costs, which
included costs of initial employee training, travel and other direct
expenses were incurred (after a contract is awarded) in connection with
the opening of new facilities. These costs were capitalized and
amortized on a straight-line basis over the term (including option
periods) of the contracts not to exceed five years.
In the fourth quarter of 1998 the Company elected to early adopt the
AICPA's Statement of Position 98-5 (SOP 98-5), ACCOUNTING FOR START-UP
COSTS. The new accounting change required the Company to expense start-
up and deferred development costs as incurred, rather than capitalizing
and subsequently amortizing such costs. SOP 98-5 required the Company to
record a cumulative effect of change in accounting of $4,863,000 (net of
tax benefit of $3,180,000) retroactively to January 1, 1998 and a current
year effect of expensing startup and deferred development costs as
incurred throughout the remainder of the year totaling $11,630,000.
These costs are included in startup costs and general and administrative
expenses amounting to $7,677,000 and $3,953,000, respectively in 1998.
The pro forma effect of the change in accounting principle for startup
and deferred development costs would have been to decrease net income by
$1,333,000 ($0.12 per share) for the year ended December 31, 1997.
9. Goodwill
Goodwill representing the excess of the cost over the net assets of
acquired businesses is stated at cost and is amortized over 10 years
using the straight-line method. Amortization expense for the years ended
December 31, 1999, 1998 and 1997 was $362,000, $375,000 and $894,000,
respectively. Accumulated amortization at December 31, 1999 and 1998 was
$2,393,000 and $2,031,000, respectively. (See Note O for discussion of
the loss reserve related to the disposition of the behavioral health
business recognized during the year ended December 31, 1997.)
10. Accounting for the Impairment of Long-Lived Assets and Goodwill
The Company reviews long-lived assets and certain identifiable
intangibles including goodwill to be held and used or disposed of by for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. The Company uses an
estimate of the undiscounted cash flows over the remaining life of its
long-lived assets and goodwill in measuring whether the assets to be held
and used will be realizable.
F-10
44
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - (Continued)
11. Income Taxes
The Company utilizes an asset and liability approach for financial
accounting and reporting for income taxes. The primary objectives of
accounting for income taxes are to (a) recognize the amount of tax
payable for the current year and (b) recognize the amount of deferred tax
liability or asset based on management's assessment of the tax
consequences of events that have been reflected in the Company's
consolidated financial statements.
12. Earnings Per Share
Basic earnings per share is computed by dividing net income by the
weighted-average number of common shares outstanding. In the computation
of diluted earnings per share, the weighted-average number of common
shares outstanding is adjusted, when the effect is not anti-dilutive, for
the effect of all potential common stock and the average share price for
the period is used in all cases when applying the treasury stock method
to potentially dilutive outstanding options.
13. Stock Based Compensation
In October 1995, the Financial Accounting Standards Board issued SFAS No.
123, ACCOUNTING FOR STOCK-BASED COMPENSATION ("SFAS No. 123"). With
respect to stock options granted to employees, SFAS No. 123 permits
companies to continue using the accounting method promulgated by the
Accounting Principles Board Opinion No. 25 ("APB No. 25"), ACCOUNTING FOR
STOCK ISSUED TO EMPLOYEES, to measure compensation or to adopt the fair
value based method prescribed by SFAS No. 123. Management has not
adopted SFAS No. 123's accounting recognition provisions related to stock
options granted to employees and accordingly, will continue following APB
No. 25's accounting provisions.
14. Comprehensive Income
The Company's comprehensive income (loss) is substantially equivalent to
net income (loss) for the years ended December 31, 1999, 1998 and 1997.
15. Reclassifications
Certain reclassifications have been made to the 1998 and 1997 balances to
conform to the 1999 presentation.
16. Deferred Revenue
Deferred revenue consist of advance payments for services which will
be recognized as revenue as the related services are performed.
F-11
45
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE B - CONTRACTUAL AGREEMENTS WITH GOVERNMENT AGENCIES
The Company currently operates thirty-four secure and non-secure corrections
or detention programs as well as educational, developmental and rehabilitative
programs in the states of Arizona, Colorado, Delaware, Florida, Georgia, Iowa,
Illinois, Maryland, Minnesota, Mississippi, Missouri, New York, Oklahoma,
South Dakota, Tennessee, Texas, Virginia, Washington and Puerto Rico for
federal, state and local government agencies. The Company's secure facilities
include a detention and processing center for illegal aliens, intermediate
sanction facilities for parole violators and a shock incarceration facility,
which is a military style "boot camp" for youthful offenders. Non-secure
facilities include residential programs such as community correction
facilities for federal and state offenders serving the last six months of
their sentences and non-residential programs such as home confinement
supervision. The educational, developmental and rehabilitative programs
include an academy style residential treatment program for high impact
juvenile offenders and non-residential highly structured supportive aftercare
programs for juveniles.
The Company is compensated on the basis of the number of residents held in
each of its facilities. The Company's contracts may provide for fixed per
diem rates or monthly fixed rates. Some contracts also provide for minimum
guarantees. One of the Company's programs operates under a contract whereby
revenues which are recognized as reimbursable costs are incurred through a
gross maximum price cost reimbursement arrangement.
The terms of each contract vary and can be from one to five years. Contracts
for more than one year have renewal options which either are exercisable on
mutual agreement between the Company and the government agency or are
exercisable by the government agency alone.
NOTE C - FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments for which it is practicable to estimate
that value:
1. Cash and Cash Equivalents
The carrying amount reasonably approximates fair value because of the
short maturity of those instruments.
2. Accounts Receivable, Accounts Payable and Accrued Expenses
The carrying amount reasonably approximates fair value because of the
short-term maturities of these items.
3. Subordinated Promissory Notes and Long-Term Debt
The fair value of the Company's subordinated promissory notes and long-
term debt is estimated based upon the quoted market prices for the same
or similar issues or on the current rates offered to the Company for debt
of the same remaining maturities. As of December 31, 1999 and 1998 the
estimated fair values of the subordinated promissory notes and long-term
debt approximated their carrying values.
F-12
46
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE D - PREPAID EXPENSES AND OTHER CURRENT ASSETS
Prepaid expenses and other current assets consist of the following (in
thousands):
December 31,
1999 1998
------- -------
Receivable from sale of equipment and leasehold
improvements $ - $ 944
Prepaid insurance 269 189
Prepaid real estate taxes 217 185
Prepaid and refundable income taxes 225 116
Prepaid rent - current portion 473 399
Prepaid expenses 1,233 2,707
Other 570 856
------- -------
$ 2,987 $ 5,396
------- -------
------- -------
NOTE E - BUILDING, EQUIPMENT AND LEASEHOLD IMPROVEMENTS
Property, equipment and leasehold improvements, at cost, consist of the
following (in thousands):
December 31,
1999 1998
------- -------
Buildings and land $37,008 $36,151
Equipment 13,531 15,092
Leasehold improvements 11,536 14,243
------- -------
62,075 65,486
Less accumulated depreciation (14,103) (12,367)
------- -------
$47,972 $53,119
------- -------
------- -------
Depreciation expense for the years ended December 31, 1999, 1998 and 1997
was approximately $4,912,000, $5,131,000 and $5,277,000 respectively.
NOTE F - OTHER ASSETS
Other assets consist of the following (in thousands):
December 31,
1999 1998
------- -------
Deferred refinancing costs, net $1,229 $2,093
Deposits 482 504
Prepaid rent - net of current portion 3,561 3,960
Other 222 1,500
------ ------
$5,494 $8,057
------ ------
------ ------
F-13
47
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE G - ACCRUED LIABILITIES
Accrued liabilities consist of the following (in thousands):
December 31,
1999 1998
------- -------
Aaccrued expenses $ 6,727 $ 5,172
Accrued interest 533 942
Accrued medical claims 1,886 1,300
Accrued worker's compensation claims 978 867
Payroll and related taxes 3,965 4,335
Construction costs (including retainage) 728 2,371
Accrual for disallowed costs - 2,002
Accrued contract buy-out costs - 1,150
Unearned revenue 1,509 -
Facility loss reserves 808 595
Other 1,702 4,865
$18,836 $23,599
NOTE H - DEBT
SENIOR DEBT:
Senior debt consists of the following (in thousands):
December 31,
1999 1998
------- -------
Revolving line of credit expiring August 2002.
Interest payable monthly at LIBOR plus 2.5%.
Interest rate at December 31, 1999 as 9%. $ 9,000 $ -
Delayed drawdown term note, principal payments due
quarterly beginning three months after the earlier of
August 31, 2000 or the date in which the credit
facility equals the $20 million commitment balance.
Interest payable monthly at prime plus 1%, 3%, and 4%
through December 31, 2000, March 31, 2001, and
thereafter, respectively. Interest rate at
December 31, 1999 was 9.5%. 14,438 -
Mortgage payable due in semi-annual installments of
$17,083 which includes principal plus interest at 10%
per annum, due in full October 2006 collateralized
by land with a book value of $434,000. 319 322
Revolving line of credit expiring April 2003
($1.5 million expired June 1999). Interest payable
quarterly at LIBOR plus 2.5%. Replaced in August 1999. - 11,500
Other - 65
------- -------
23,757 11,887
Less current portion 1,206 23
------- -------
$22,551 $11,864
------- -------
------- -------
F-14
48
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE H - DEBT - (Continued)
SENIOR DEBT:
NationsBank N.A.
In April 1998 the Company entered into a five-year credit facility with a
syndicate of banks led by NationsBank N.A. The syndicated facility provided
for up to $30 million in borrowings for working capital, construction and
acquisition of correctional facilities, and general corporate purposes all
collateralized by the Company's accounts receivable. The line was comprised
of two components, a $10 million revolving credit and $20 million operating
lease facility for the construction, ownership and acquisition of correctional
facilities. Borrowings under the line were subject to compliance with
financial covenants and borrowing base criteria. The Company incurred rent
expense under the $20 million operating lease facility at an adjusted LIBOR
base lease rate as defined in the agreement. The credit facility was secured
by all of the assets of the Company.
In August of 1998 the Company initiated an amendment to the credit agreement
with a syndicate of banks led by NationsBank N.A. under the amendment, which
was finalized on October 16, 1998, the Company received an additional
$17,500,000 temporary increase in its credit facility. The amendment
represented interim financing until the earlier of the date that the Company
received proceeds from junior capital or June 15, 1999. as of December 31,
1998 the total amount outstanding on the revolver was $11,500,000 and the
total amount outstanding on the operating lease facility was $16,652,000.
This credit facility was repaid in August of 1999 with proceeds from a new
credit facility with Summit Bank as described below.
Summit Bank N.A.
On August 31, 1999, the Company finalized a new $95 million financing
arrangement with Summit Bank, N.A. Borrowings under the line are subject to
compliance with various financial covenants and borrowing base criteria. The
Company is currently in compliance with all debt covenants. This financing
arrangement is secured by all of the assets of the Company and consists of the
following components:
- - - $30 million revolving line of credit to be used by the Company and
its subsidiaries for working capital and general corporate purposes and to
finance the acquisition of facilities, properties and other businesses.
At December 31, 1999 the Company has an available borrowing base of
$17,000,000 and had $9,000,000 outstanding under the revolving line of
credit.
- - - $20 million delayed drawdown credit facility which provides the
Company with additional financing to be used to fund the redemption of the
outstanding 7% Convertible Subordinated Debentures due March 31, 2000 that
were issued by Youth Services International, Inc., a subsidiary of the
Company (the "Debentures"). At December 31, 1999 the Company has
$5,562,000 available under the delayed drawdown facility.
- - - $45 million in financing which may be used to purchase land and property
and to finance the construction of new facilities through an operating
lease arrangement. The Company currently has approximately $24,496,000
million available for additional property acquisition and construction
under this operating lease financing facility.
Simultaneously with the closing of the new credit facilities, the Company used
approximately $13,080,000 of the available credit under the revolving line of
credit facility to discharge all of its outstanding line of credit banking
indebtedness to NationsBank, N.A., fees related to the financing, and
repayment of other indebtedness. Additionally, the Company used
approximately $18,984,000 of its available credit under the lease credit
facility to discharge its obligations under a similar financing vehicle
previously provided by NationsBank to the Company.
F-15
49
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE H - DEBT - (Continued)
SUBORDINATED DEBENTURES:
Subordinated debentures consists of the following (in thousands):
December 31,
1999 1998
------- -------
7% Convertible Subordinated Debentures due March 31,
2000 which includes interest payable semi-annually in
arrears. $14,190 $32,200
10% Subordinated Debentures due July 1, 1998 and extended
through June 30, 1999. Interest payable quarterly. - 1,101
------- -------
14,190 33,301
Less current portion 3,797 1,101
------- -------
$10,393 $32,200
------- -------
------- -------
7% Convertible Subordinated Debentures
During the year ended June 30, 1996, YSI issued 7% Convertible Subordinated
Debentures due February 1, 2006, in the principal amount of $37,950,000. The
debentures are convertible into common stock at the rate of one share of YSI
common stock for each $12.47 of principal. At December 31, 1998 $32,200,000
were outstanding.
On March 31, 1999, in connection with the merger, the Company assumed the
$32,200,000 Debentures. Due to certain provisions in the indenture, the
change of control as a result of the merger enabled the holder to demand
immediate redemption by the Company. Agreements were subsequently reached
with certain holders representing $30,470,000 of the total debt to defer
payment until March 31, 2000. The balance of $1,730,000 was repaid during the
second quarter of 1999.
In anticipation of entering into the new credit facilities with Summit Bank,
the Company agreed with certain holders of the Debentures (who had previously
agreed to postpone the redemption of their Debentures until March 31, 2000) to
redeem their Debentures upon the closing of the new credit facilities at a
redemption price equal to 90% of the original principal amount thereof, plus
accrued but unpaid interest. The Company used approximately $14,750,000 of
its available credit under the delayed draw down facility to redeem
$16,280,000 face value of these Debentures. An extraordinary gain of
$985,000 (net of tax of $643,000) was recognized by the Company in connection
with this early extinguishment (see Note I).
As a result of the above note redemptions, $14,190,000 in principal amount of
these Debentures remains outstanding at December 31, 1999. Absent a new
agreement, the Company will be required to redeem these remaining Debentures
on March 31, 2000 at 100% of the original principal amount thereof, plus
accrued but unpaid interest. The Company intends to redeem these notes on
March 31, 2000 using its available financing facilities. That portion to be
refinanced by the delayed drawdown instrument which is expected to be paid
during 2000 is classified as current.
F-16
50
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE H - DEBENTURES - (Continued)
SUBORDINATED DEBENTURES:
YSI incurred approximately $2,500,000 of direct costs in connection with the
issuance of the 7% Convertible Subordinated Debentures. These costs were
included within deferred debt issuance costs for 1998 and amortized over the
life of the debentures. The remaining balance was expensed as part of the
merger related charges in 1999.
10% Subordinated Debentures
Through a series of transactions that closed in July, August and September
1995, the Company issued 5,676.6 units at $1,000 per unit, in a private
placement of its securities ("1995 Private Placement"). Each unit consists of
(i) a 10% subordinated promissory note due July 1, 1998 in the principal
amount of $1,000, interest payable quarterly and (ii) a four year warrant to
purchase 154 shares of Common Stock at $7.75 per share. The Company received
proceeds of $5,676,600 in connection with the 1995 Private Placement and
recorded the market value of the warrants, $365,000, as promissory note
discount amortized over three years. The net proceeds from such issuance were
used to purchase and renovate the Phoenix, Arizona facility. On July 1, 1998
the Company's subordinated promissory notes of $3,935,760 became payable.
Management granted note holders the option to extend their notes through June
30, 1999. In July 1998, the Company repaid a total of $2,834,382 for those
options not exercised. The remaining balance of $1,101,378 was paid in full
in October 1999.
At December 31, 1999, aggregate maturities of senior debt and subordinated
debentures were as follows (in thousands):
YEAR ENDING DECEMBER 31,
-----------------------
2000 $ 5,003
2001 6,666
2002 24,299
2003 1,671
2004 3
Thereafter 305
-------
TOTAL $37,947
-------
-------
NOTE I - EXTRAORDINARY GAIN ON EXTINGUISHMENT OF DEBT
In anticipation of entering into the new financing arrangement, the Company
agreed with certain holders of the 7% Convertible Subordinated Debentures (who
had previously agreed to postpone the redemption of their Debentures until
March 31, 2000) to redeem their Debentures upon the closing of the new credit
facilities. The agreed redemption price was equal to 90% of the original
principal amount plus accrued but unpaid interest. In September 1999, the
Company used approximately $14,750,000 of its available credit to redeem
$16,280,000 face value of Debentures leaving a balance of $14,190,000. This
transaction resulted in a gain of $985,000 (net of tax of $643,000) or $.09
per share.
F-17
51
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE J - RENTAL AGREEMENTS
The Company has operating leases for certain of its facilities and certain
machinery and equipment which expire at various dates. Substantially all the
facility leases provide for payment by the Company of all property taxes and
insurance.
Future minimum rental commitments under both cancelable and non-cancelable
leases as of December 31, 1999 are as follows (in thousands):
Related
Total Companies
------- ---------
Year Ending December 31,
-----------------------
2000 $ 6,388 $ 884
2001 5,101 629
2002 3,068 480
2003 2,211 480
2004 1,461 -
Thereafter 3,661 -
------- -------
$21,890 $ 2,473
------- -------
------- -------
The Company leases one facility from a related party under a sublease
arrangement, which expires April 30, 2000. The Company has two five-year
options to renew this sublease arrangement. Residential and commercial
tenants occupy a portion of this building and annex.
The Company leases a second facility from a related party. The lease
commenced January 1, 1999 and expires December 31, 2003. Thereafter, the
Company has two successive five-year options to renew. In addition to the
base rent, the Company pays taxes, insurance, repairs and maintenance on this
facility.
The Company leases a third facility from a related party. The lease commenced
October 1, 1996 and has three successive one-year options to renew. In
addition to the base rent, the Company pays taxes, insurance, repairs and
maintenance on this facility.
Rental expense for the years ended December 31, 1999, 1998 and 1997 aggregated
$6,767,000, $6,192,000 and $5,649,000, respectively. Rent to related
companies aggregated $1,295,000, $1,260,000, and $1,260,000 for the years
ended December 31, 1999, 1998 and 1997, respectively.
F-18
52
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE K - INCOME TAXES
The income tax expense (benefit) consists of the following (in thousands):
Years Ended December 31,
-----------------------
1999 1998 1997
------- ------- -------
Current:
Federal $ (335) $(1,159) $ 1,157
State and local 286 (107) (23)
Deferred:
Federal, state and local 945 (3,507) (2,196)
------- ------- -------
$ 896 $(4,773) $(1,062)
------- ------- -------
------- ------- -------
The following is a reconciliation of the federal income tax rate and the
effective tax rate as a percentage of pre-tax income:
Years Ended December 31,
-----------------------
1999 1998 1997
------ ------ ------
Statutory federal rate (34.0)% (34.0)% (34.0)%
State taxes, net of federal tax benefit (5.1) (5.0) (5.0)
Non-deductible items 37.3 2.1 28.4
Valuation Allowance 35.0 15.6 -
Other 0.8 (1.0) 3.5
----- ----- -----
34.0% (22.3)% ( 7.1)%
----- ----- -----
----- ----- -----
At December 31, 1999, The Company had net operating loss carryforwards of
approximately $11,500,000 and $17,000,000 for federal and state income tax
purposes, respectively, that expire through 2019. At December 31, 1999, the
Company also had an Alternative Minimum Tax (AMT) credit of approximately
374,000, which does not expire.
The net operating loss carryforwards are subject to IRS Section 382
limitations and other limitations, which limit the utilization of the federal
and state net operating loss carryforwards in any given year. The tax net
operating loss carryforwards begin to expire in 2006. Realization of the
portion of the deferred tax asset resulting from the Company's net operating
loss carryforward in Puerto Rico is not considered more likely than not.
Accordingly, a valuation allowance has been established for the full amount of
that deferred tax asset. The Company, after considering its pattern of
profitability and its anticipated future taxable income, believes it is more
likely than not that the remaining deferred tax assets will be realized.
F-19
53
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE K - INCOME TAXES - (Continued)
Deferred income taxes reflect the tax effected impact of temporary differences
between the amounts of assets and liabilities for financial reporting purposes
and such amounts as measured by tax laws and regulations. The components of
the Company's deferred tax assets (liabilities) are summarized as follows (in
thousands):
December 31,
1999 1998
------- -------
Facility closure costs $ 648 $ 320
Vacation accrual 289 180
Startup and development costs 2,148 3,355
Accrued expenses 1,874 3,894
Depreciation 249 639
Net operating loss carryforwards 4,880 4,165
Alternative minimum tax credit 374 375
Other 1,310 (1,133)
------- -------
11,772 11,795
Valuation allowance (1,485) (563)
------- -------
$10,287 $11,232
------- -------
------- -------
NOTE L - COMMON STOCK WARRANTS
Previously the Company issued to individuals and sold to certain
underwriters' warrants associated with the 1994 public offering and
the 1995 Private Placement. The following represents all warrant
activity for the years presented:
Public Underwriter Total
------- ----------- -------
Balance at January 1, 1998 650,545 115,556 766,101
Warrants exercised 35 82,007 82,042
------- ------- -------
Balance at December 31, 1998 650,510 33,549 684,059
------- ------- -------
Warrants exercised 350,589 5,906 356,495
Warrants expired 299,921 - 299,921
------- ------- -------
Balance at December 31, 1999 - 27,643 27,643
------- ------- -------
------- ------- -------
F-20
54
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE M - COMMITMENTS AND CONTINGENCIES
1(a). Fort Worth and New York Closures
During 1996, the Company committed to plans to close its Fort Worth,
Brooklyn and Manhattan facilities and accordingly incurred certain costs
in 1996 associated with the closure of these facilities. The facilities
continued to be operated throughout 1999 and, with the exception of
Brooklyn, will be closed in 2000. The plan to close the Brooklyn
facility was terminated based on its increased operations and
profitability. Additionally, during 1999, the Company closed three other
facilities and planned to close two additional facilities in 2000. There
are no incremental costs associated with the closures of these additional
five facilities.
Facility loss reserves, excluding those for the College Station facility
discussed in Note O, are as follows (in thousands):
December 31,
1999 1998
---- ----
Facility loss reserves $224 $819
Less current portion 224 595
---- ----
Long-term portion of facility loss reserves $ - $224
---- ----
---- ----
For each of the aforementioned programs, the operating losses incurred
until the facilities are closed will be reflected in the financial
statements applicable to those periods.
Revenues and operating income (loss) for the aforementioned programs for
the years ended December 31, 1999, 1998 and 1997 are as follows
(in thousands):
December 31,
-----------
1999 1998 1997
------- ------- -------
Revenues $15,163 $21,985 $15,847
Operating income (loss) $(1,144) $(5,759) $(1,140)
Operating income (loss) for the year ended December 31, 1999, 1998 and
1997 is net of amortization of contract loss reserves costs totaling
approximately $595,000, $919,000 and $829,000, respectively.
1(b). New Jersey Facility Closure
Due to a disturbance at the Company's Elizabeth, New Jersey facility on
June 18, 1995, the facility was closed and the INS moved all detainees
located therein to other facilities. On December 15, 1995, the Company
and a publicly-traded company (the "Buyer"), which also operates and
manages detention and correctional facilities, entered into an asset
purchase agreement pursuant to which the Buyer purchased the equipment,
inventory and supplies, contract rights and records, leasehold and land
improvements of the Company's New Jersey facility for $6,223,000. The
purchase price is payable in non-interest bearing monthly installments of
$123,000 (through August 1999) effective January 1997, the month the
Buyer commenced operations of the facility. The Company has no
continuing obligation with respect to the Elizabeth, New Jersey facility.
According to the terms of the asset purchase agreement, the monthly
payments beginning September 1999 are contingent upon the renewal of the
contract by the INS and the Buyer. The INS did re-award the contract to
the Buyer in 1999. Therefore, the Company will continue to receive up to
approximately 8 monthly non-interest bearing payments of $123,000,
beginning September 1999, and will recognize income ratably over this
period.
F-21
55
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE M - COMMITMENTS AND CONTINGENCIES - (Continued)
The receivable from sale of the equipment and leasehold improvements
reflected in the balance sheet at December 31, 1998, representing the
present value of the consideration to be received through August 1999, is
$994,082.
2. Legal Matters
In May 1993, a former employee of the Company filed suit in the United
States District Court, Southern District of New York, claiming he was
intentionally assaulted by employees of the Company and claiming
$5,000,000 in damages on each of six causes of action.
In March 1996, former inmates at one of the Company's facilities filed
suit in the Supreme Court of the State of New York, County of Bronx on
behalf of themselves and others similarly situated, alleging personal
injuries and property damage purportedly caused by negligence and
intentional acts of the Company and claiming $500,000,000 each for
compensatory and punitive damages, which suit was transferred to the
United States District Court, Southern District of New York, in April
1996. In June 1996, seven detainees at one of the Company's facilities
(and certain of their spouses) filed suit in the Superior Court of New
Jersey, County of Union, seeking $10,000,000 each in damages arising from
alleged mistreatment of the detainees, which suit was transferred to the
United States District Court, District of New Jersey, in August 1996. In
June 1997, former detainees of the Company's Elizabeth, New Jersey
facility filed suit in the United States District Court for the District
of New Jersey. The suit claims violation of civil rights, personal
injury and property damage allegedly caused by the negligent and
intentional acts of the Company. No monetary damages have been stated.
Through stipulation, all these actions will now be heard in the United
States District Court for the District of New Jersey. This will
streamline the discovery process, minimize costs and avoid inconsistent
rulings.
The Company believes the claims made in each of the foregoing actions to
be without merit and will vigorously defend such actions. The Company
further believes the outcome of these actions and all other current legal
proceedings to which it is a party will not have a material adverse
effect upon its results of operations, financial condition or liquidity.
However, there is an inherent risk in any litigation and a decision
adverse to the Company could be rendered.
3. Contracts
Renewal of government contracts (Note B) is subject to, among other
things, appropriations of funds by the various levels of government
involved (Federal, state or local). Also, several contracts contain
provisions whereby the Company may be subject to audit by the government
agencies involved. These contracts also generally contain "termination
for the convenience of the government" and "stop work order" clauses
which generally allow the government to terminate a contract without
cause. In the event one of the Company's larger contracts is terminated,
it may have a material adverse effect on the Company's operations.
4. Disputed Receivable
In April 1999, immediately following the merger with YSI, a non-profit
entity chose to exercise their right under the change in control clause
of their contract with YSI and elected to discontinue all contracted
services. Upon this determination, the non-profit entity claimed that it
had been billed incorrectly for years prior to 1997. The Company is
currently investigating this claim and based on currently available
information has reserved approximately $700,000 at December 31, 1999.
F-22
56
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE M - COMMITMENTS AND CONTINGENCIES - (Continued)
5. Officers' Compensation
The Company has entered into an employment agreement with its President
which expires February 17, 2001 and provides for minimum annual
compensation of $270,000, cost of living increases, use of an automobile,
reimbursement of business expenses, health insurance, related benefits
and a bonus equal to 5% of pre-tax profits in excess of $1,000,000, such
bonus not to exceed $200,000.
The Company has entered into an employment agreement with its Chief
Operating Officer (COO) which expired on January 20, 1999 and provided
for minimum annual compensation of $115,000, annual salary increases,
automobile allowances, reimbursement of business expenses, health or
disability insurance, related benefits, a bonus equal to 3% of pre-tax
profits in excess of $1,000,000, such bonus not to exceed $75,000, and a
grant of options to purchase 100,000 shares of the Company's common
stock. The company is currently finalizing a new employment agreement
with the COO.
The Company's current employment agreement with its Chief Financial
Officer (CFO) was extended in July 1997 and has a term of three years
with automatic annual renewal provisions. The CFO receives minimum
annual compensation of $135,000, annual salary increases, automobile
allowances and a bonus equal to 3% of pre-tax profits in excess of
$1,000,000, such bonus not to exceed $75,000. The agreement provides for
the negotiation of the CFO's annual compensation for the period after
February 24, 1999 at an amount not less than $149,000. In January 1999,
as part of the renegotiations of compensation for the period commencing
February 26, 1999, the Company increased the CFO's base compensation to
$200,000 with an annual bonus not to exceed $100,000. In addition the
CFO was granted five-year options to purchase 25,000 shares of the
Company's common stock at $11.125 per share. The options become
exercisable at the annual rate of 8,333 shares, commencing on the date of
grant.
6. Concentrations of Credit Risk
The Company's contracts in 1999, 1998 and 1997 with government agencies
where revenues exceeded 10% of the Company's total consolidated revenues
were as follows:
Years Ended December 31,
-----------------------
1999 1998 1997
---- ---- ----
Florida Department of Juvenile Justice 13% 15% 13%
Texas Department of Criminal Justice 10% - -
Various Agencies in the State of Texas 11% 10% -
State of Maryland Department of Juvenile Justice 10% 13% 15%
7. Fiduciary Funds
The Company has acted as a fiduciary disbursing agent on behalf of a
governmental entity whereby certain governmental entity funds are
maintained in a separate bank account. These funds have been paid to the
general contractor, which constructed the government owned facilities.
The Company is responsible for managing the construction process. The
Company has no legal rights to the funds nor the constructed facility,
and accordingly, such funds do not appear in the accompanying financial
statements.
F-23
57
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE M - COMMITMENTS AND CONTINGENCIES - (Continued)
8. Construction Commitments
The Company has various construction contracts related to ongoing
projects totaling approximately $3,704,000 as of December 31, 1999.
9. Letter of Credit
In connection with the Company's workmen's compensation insurance
coverage requirements, the Company has obtained a $269,000 Letter of
Credit from its bank in favor of the insurance carrier.
NOTE N - CONTRACT WITH THE STATE OF LOUISIANA
In December 1998 the Company entered into a contract with the State of
Louisiana (`the State") to operate the Tallulah Correctional Center for Youth.
This contract obligated the State to maintain the facility at a full
population of 686. Conditioned upon the State maintaining the 686 population
level for the remaining term of the contract, the Company entered into a
verbal understanding with the State indicating it would only invoice the State
for the actual monthly population for a period of six-months from the
commencement of operations by the Company. At the end of the six-month
period, the State was to increase the population to the full capacity or pay
for its full utilization. In July 1999, the Company began billing the State
at the 686 population level of the original contract. Revenues, however, were
only recognized for a population level of 620 (the population level the
facility was approved to house by the local judicial authority prior to
commencement of operations by the Company). In September 1999, the State
unexpectedly indicated it could not commit to achieve the population levels
required by the contract for its remaining term and subsequently, the Company
discontinued operations of the facility on September 24, 1999. The Company is
currently pursuing payment of all funds that would be owed under the original
contract from the commencement of operation. The Company did not incur any
material losses in conjunction with this closure.
F-24
58
{CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE O - DISPOSITION OF BEHAVIORAL HEALTH BUSINESS
During the period January 1, 1994 through January 1, 1997, the Company
acquired the operating assets or stock of the following companies:
- Western Youth Inc.
- Parc Place, Limited Partnership
- Promise House, Inc.
- Developmental Behavioral Consultants, Inc.
- Desert Hills Center for Youth and Families of New Mexico, Inc.
- Desert Hills of Texas, Inc. ("College Station")
- Tampa Bay Academy, Ltd.
- Youth Quest Inc.
- Introspect Healthcare, Corporation
- Texas Children's Health Services Inc. ("Los Hermanos")
Following their respective acquisitions, the Company operated each of the
companies listed above as distinct businesses. Due to their related nature,
however, these businesses comprised the Company's behavioral health business.
The total acquisition price for these companies, including assumed liabilities
and acquisition costs, was approximately $41.1 million with approximately
$19.8 million of the total purchase price being allocated to goodwill in
connection with purchase accounting.
In March 1997, the Board of Directors of the Company approved, and management
committed to, a plan to sell the programs that comprised the Company's
behavioral health business. On October 31, 1997, the Company consummated the
sale of the behavioral health business, other than the two behavioral health
programs in Texas, for $20.4 million resulting in a loss on sale of $20.9
million. In September 1998, the Company closed the College Station program.
In December of 1999 the Company closed the Los Hermanos program.
Unaudited revenues and contribution from operations for the behavioral health
businesses including the Texas Programs for the years ended December 31, 1998
and 1997 are as follows (in thousands):
Year Ended Year Ended
December 31, December 31,
1998 1997
------- --------
Revenues $ 1,566 $ 34,733
Contribution from Operations (787) 95
As of December 31, 1998 the Company recorded a liability of $2,327,000 to
provide for the anticipated future losses related to the College Station
facility. The major components of the charge are as follows:
Future lease payments $1,250,000
Continuing maintenance and occupancy costs 858,000
Write-down of leasehold improvements and other fixed assets 219,000
----------
$2,327,000
----------
----------
The charge was recorded as College Station closure costs in the accompanying
consolidated statements of operations for the year ended December 31, 1998.
F-25
59
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE P - EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings
per share in accordance with SFAS No. 128:
Years ended December 31,
1999 1998 1997
------- -------- --------
Numerator:
Net loss $(3,528) $(16,596) $(14,051)
------- -------- --------
------- -------- --------
Denominator:
Basic earnings per share:
Weighted average shares outstanding 11,219 10,860 10,676
Effect of dilutive securities - stock options
and warrants - - -
------- -------- --------
Denominator for diluted earnings per share 11,219 10,860 10,676
------- -------- --------
------- -------- --------
Net loss per common share - basic $ (0.31) $ (1.53) $ (1.32)
------- -------- --------
------- -------- --------
Net loss per common share - diluted (0.31) (1.53) (1.32)
------- -------- --------
------- -------- --------
The effect of dilutive securities was not included in the calculation of
diluted net loss per common share as the effect would have been anti-dilutive
in all years presented.
NOTE Q - STOCK OPTIONS
In October 1993, the Company adopted a stock option plan (the "Stock Option
Plan"). This plan as amended, provides for the granting of both: (i)
incentive stock options to employees and/or officers of the Company and (ii)
non-qualified options to consultants, directors, employees or officers of the
Company. The total number of shares that may be sold pursuant to options
granted under the stock option plan is 1,500,000. The Company, in June 1994,
adopted a Non-employee Directors Stock Option Plan, which provides for the
grant of non-qualified options to purchase up to 150,000 shares of the
Company's Common Stock. In May 1999, the Company adopted the 1999 Non-
Employee Director Stock Option Plan, which provides for the grant of non-
qualified options to purchase up to 300,000 shares of the Company's Common
Stock.
Options granted under all plans may not be granted at a price less than the
fair market value of the Common Stock on the date of grant (or 110% of fair
market value in the case of persons holding 10% or more of the voting stock of
the Company). Options granted under the all plans will expire not more than
ten years from the date of grant.
The Company has adopted only the disclosure provisions of SFAS No. 123. It
applies APB No. 25 and related interpretations in accounting for its plans and
does not recognize compensation expense for its stock based compensation plans
other than for restricted stock. If the Company had elected to recognize
compensation expense based upon the fair value at the grant date for awards
under these plans consistent with the methodology prescribed by SFAS No. 123,
the Company's net loss per share would be adjusted to the pro forma amounts
indicated below:
F-26
60
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE Q - STOCK OPTIONS - (Continued)
Years Ended December 31,
-----------------------
1999 1998 1997
------- -------- --------
Net loss
As reported $(3,528) $(16,596) $(14,051)
Pro forma (unaudited) (4,454) (22,102) (16,681)
Loss per common share - basic
As reported $ (0.31) $ (1.53) $ (1.32)
Pro forma (unaudited) (0.40) (2.04) (1.56)
Loss per common share - diluted
As reported $ (0.31) $ (1.53) $ (1.32)
Pro forma (unaudited) (0.40) (2.04) (1.56)
These pro forma amounts may not be representative of future disclosures
because they do not take into effect pro forma compensation expense related to
grants made before 1995. The fair value of these options was estimated at the
date of grant using Black-Scholes option-pricing model with the following
weighted-average assumptions for the years ended December 31, 1999, 1998 and
1997.
Years Ended December 31,
1999 1998 1997
Volatility 62% 77% 72%
Risk free rate 5.00% 5.75% 6.00%
Expected life 3 years 3 years 3 years
The weighted average fair value of options granted during 1999, 1998 and 1997
for which the exercise price equals the market price on the grant date was
$3.51, $18.19 and $11.85, respectively.
The Black-Scholes option valuation model was developed for use in estimating
the fair value of traded options that have no vesting restrictions and are
fully transferable. In addition, option valuation models require the input of
highly subjective assumptions including the expected stock price volatility.
Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in
the subjective input assumptions can materially effect the fair value
estimate, in management's opinion the existing models do not necessarily
provide a reliable single measure of the fair value of its employee stock
options.
F-27
61
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE Q - STOCK OPTIONS - (Continued)
Stock option activity during 1999, 1998 and 1997 is summarized below:
Weighted-Average
Options Exercise Price
---------- ----------------
Balance, January 1, 1997 939,273 $19.66
Granted 254,676 21.15
Exercised (230,190) 17.17
Canceled (67,052) 44.40
--------- ------
Balance, December 31, 1997 896,707 15.49
Granted 351,544 26.12
Exercised (44,061) 20.67
Canceled (113,012) 31.96
--------- ------
Balance, December 31, 1998 1,091,178 16.58
Granted 319,001 7.72
Exercised (108,501) 4.67
Canceled (369,553) 28.24
--------- ------
Balance, December 31, 1999 932,125 $10.34
--------- ------
--------- ------
F-28
62
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE Q - STOCK OPTIONS - (Continued)
The following table summarizes information concerning currently outstanding
and exercisable stock options at December 31, 1999:
Weighted-Average
Remaining
Range of Number Contractual Life Weighted-Average
Exercise Prices Outstanding (Years) Exercise Price
--------------- ----------- ---------------- ----------------
$ 2.06 - 4.12 3,000 5.0 $ 3.75
4.12 - 6.18 4,000 4.9 4.45
6.18 - 8.25 270,000 4.5 7.49
8.25 - 10.31 245,000 1.4 8.96
10.31 - 12.37 153,875 2.6 11.41
12.37 - 14.44 190,250 3.2 12.97
14.44 - 16.50 21,000 1.5 15.25
16.50 - 18.56 20,000 1.4 17.81
18.56 - 20.63 25,000 0.5 19.50
------- --- ------
932,125 2.9 $10.34
------- --- ------
------- --- ------
Range of Number Weighted-Average
Exercise Prices Exercise Exercisable Price
--------------- -------- -----------------
$ 8.25 - 10.31 227,667 $ 8.91
10.31 - 12.37 81,459 11.42
12.37 - 14.44 63,751 12.97
14.44 - 16.50 21,000 15.25
16.50 - 18.56 20,000 17.81
18.56 - 20.63 25,000 19.50
------- ------
438,877 $11.28
------- ------
------- ------
NOTE R - EMPLOYEE BENEFIT PLANS
On July 1, 1996, the Company adopted a contributory retirement plan under
Section 401(k) of the Internal Revenue Code, for the benefit of all employees
meeting certain minimum service requirements. Eligible employees can
contribute up to 15% of their salary but not in excess of $10,000 in 1999 and
1998 and $9,500 in 1997. The Company's contribution under the plan amounts to
20% of the employees' contribution. In 1999 and 1998, the Company contributed
$322,000 and $127,000, respectively, to the plan.
NOTE S - SELF INSURANCE
The Company is self-insured for workers' compensation. The Company has
obtained an aggregate excess policy, which limits the Company's exposure to a
maximum of $1,150,000 and $750,000 as of December 31, 1999 and 1998,
respectively. The estimated insurance liability totaling $909,000 and
$744,000 on December 31, 1999 and 1998, respectively is based upon review by
the Company of claims filed and claims incurred but not reported.
The Company maintains a group health plan subject to a self-insured retention
and subject to a loss limit of $100,000 per individual. At December 31, 1999
the plan had 3,374 participants and medical insurance liability of $1,885,000.
This liability represents the maximum claim exposure under the plan less
actual payments made during 1999. In addition, the Company is subject to a
maximum terminal liability of $353,000. Since termination is not anticipated,
no terminal accruals were made at December 31, 1999.
F-29
63