29
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarter ended September 30, 2002
Commission File # 1-13290
THE SPORTS CLUB COMPANY, INC.
A Delaware corporation - I.R.S. No. 95-4479735
11100 Santa Monica Blvd., Suite 300, Los Angeles, CA 90025
(310) 479-5200
Indicate by check mark whether the company (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934, during the preceding 12 months (or for such shorter period that the
company was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
--------- ----------
Indicate the number of shares outstanding of each of the issuer's classes
of Common Stock, as of the latest practicable date.
Shares
Outstanding at
Class November 13, 2002
------------------------ ---------------------
Common Stock, 18,095,953
par value $.01 per share
THE SPORTS CLUB COMPANY, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
December 31, 2001 and September 30, 2002
(Amounts in thousands, except share data, unaudited)
December 31, September 30,
ASSETS 2001 2002
---- ----
Current assets:
Cash and cash equivalents $ 1,482 $ 3,149
Accounts receivable, net of allowance for doubtful accounts
of $318 and $514 at December 31, 2001 and September 30, 2002, respectively 4,840 3,735
Inventories 1,225 1,188
Other current assets 734 1,545
----------- -----------
Total current assets 8,281 9,617
Property and equipment, at cost, net of accumulated depreciation and
amortization of $30,559 and $38,009 at December 31, 2001 and
September 30, 2002, respectively 170,893 158,949
Costs in excess of net assets acquired, less accumulated amortization
of $2,531 at December 31, 2001 and September 30, 2002 12,794 12,794
Other assets, at cost, net 5,240 7,278
----------- -----------
$ 197,208 $ 188,638
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Current installments of notes payable and equipment financing loans $ 11,449 $ 2,110
Accounts payable 3,028 2,251
Accrued liabilities 11,353 9,910
Deferred membership revenues 13,670 12,766
----------- -----------
Total current liabilities 39,500 27,037
Notes payable and equipment financing loans,
less current installments 104,042 102,440
Deferred lease obligations 4,982 8,671
Minority interest 600 600
----------- -----------
Total liabilities 149,124 138,748
Commitments and contingencies
Redeemable preferred stock, $.01 par value, 10,500 shares authorized; 10,500
shares issued and outstanding at September 30, 2002 (liquidation preference
of $11,011 at September 30, 2002) -- 10,468
Shareholders' equity:
Preferred stock, $.01 par value, 1,000,000 shares and 984,500 shares authorized
at December 31, 2001 and September 30, 2002, respectively;
no shares issued or outstanding -- --
Preferred stock, $.01 par value, 5,000 shares authorized; 5,000 shares issued and
outstanding at September 30, 2002 (liquidation preference of $5,026
at September 30, 2002) -- 5,000
Common stock, $.01 par value, 40,000,000 shares authorized;
21,060,717 shares issued at December 31, 2001 and September 30, 2002 211 211
Additional paid-in capital 102,764 102,205
Accumulated deficit (39,481) (52,810)
Treasury stock, at cost, 3,045,360 and 2,964,764 shares at
December 31, 2001 and September 30, 2002, respectively (15,410) (15,184)
------------ ------------
Shareholders' equity 48,084 39,422
----------- -----------
$ 197,208 $ 188,638
=========== ===========
See accompanying notes to condensed consolidated
financial statements.
1
THE SPORTS CLUB COMPANY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
Three and Nine Months ended September 30, 2001 and 2002
(Amounts in thousands, except per share amounts)
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
2001 2002 2001 2002
---- ---- ---- ----
Revenues $ 24,041 $ 30,272 $ 72,663 $ 90,313
Operating expenses:
Direct 20,417 24,786 62,476 75,682
General and administrative 2,125 1,915 6,787 5,669
Selling 739 1,086 2,958 3,667
Depreciation and amortization 2,873 2,919 8,436 8,890
Pre-opening expenses 2,391 -- 4,491 130
----------- --------- ----------- -----------
Total operating expenses 28,545 30,706 85,148 94,038
----------- --------- ----------- -----------
Loss from operations (4,504) (434) (12,485) (3,725)
Other expenses (income):
Interest, net 3,103 3,305 9,225 10,032
Minority interests 38 38 113 113
Non-recurring items -- (97) (397) (97)
----------- ---------- ------------ -----------
Loss before income taxes (7,645) (3,680) (21,426) (13,773)
Income tax benefit (expense) 2,962 (76) 8,252 444
----------- ---------- ----------- -----------
Net loss (4,683) (3,756) (13,174) (13,329)
Dividends on preferred stock -- 264 -- 537
----------- --------- ----------- -----------
Net loss attributable to common shareholders $ (4,683) $ (4,020) $ (13,174) $ (13,866)
=========== ========== =========== ===========
Net loss per share:
Basic and diluted $ (0.26) $ (0.22) $ (0.73) $ (0.77)
=========== ========== =========== ===========
Weighted average shares outstanding:
Basic and diluted 17,963 18,096 17,929 18,073
=========== ========== =========== ===========
See accompanying notes to condensed consolidated
financial statements.
2
THE SPORTS CLUB COMPANY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine Months ended September 30, 2001 and 2002
(Amounts in thousands)
(Unaudited)
Nine Months Ended
September 30,
2001 2002
---- ----
Cash flows provided by (used in) operating activities:
Net loss $ (13,174) $ (13,329)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization 8,436 8,890
Deferred tax benefit (8,478) --
(Increase) decrease in:
Accounts receivable, net (531) 941
Inventories 873 (69)
Other current assets 1,877 (823)
Other assets, net 268 (2,052)
Increase (decrease) in:
Accounts payable 939 (527)
Accrued liabilities (1,291) (1,760)
Deferred membership revenues 1,884 (578)
Deferred lease obligations 3,847 3,689
------------ ------------
Net cash used in operating activities (5,350) (5,618)
Cash flows provided by (used in) investing activities:
Capital expenditures (14,444) (5,859)
Decrease in restricted cash 6,608 --
Distributions from unconsolidated subsidiary 32 --
Increase in due from affiliates -- (13)
Proceeds from sale of Houston real estate-net of costs -- 3,036
Proceeds from sale of The Sports Club/Las Vegas-net of costs -- 6,154
------------ ------------
Net cash provided by (used in) investing activities (7,804) 3,318
Cash flows provided by financing activities:
Exercise of employee stock options 5 --
Proceeds from issuance of Preferred Stock, net of costs -- 14,908
Proceeds from notes payable and equipment financing loans 15,809 21,725
Repayments of notes payable and equipment financing loans (11,263) (32,666)
------------- -------------
Net cash provided by financing activities 4,551 3,967
------------ ------------
Net increase (decrease) in cash and cash equivalents (8,603) 1,667
Cash and cash equivalents at beginning of period 11,059 1,482
------------ ------------
Cash and cash equivalents at end of period $ 2,456 $ 3,149
============ ============
Supplemental disclosure of cash flow information:
Cash paid for interest $ 11,879 $ 11,803
============ ============
Cash paid for income taxes $ 533 $ 242
============ ============
See accompanying notes to condensed consolidated
financial statements.
3
THE SPORTS CLUB COMPANY, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2001 and September 30, 2002
1. Basis of Presentation
The condensed consolidated financial statements included herein have been
prepared by the Company pursuant to the rules and regulations of the Securities
and Exchange Commission ("SEC"). The condensed consolidated financial statements
should be read in conjunction with the Company's December 31, 2001, consolidated
financial statements and notes thereto included in the Company's Annual Report
on Form 10-K (SEC File Number 1-13290). Certain information and footnote
disclosures which are normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted pursuant to SEC rules and regulations. The Company believes that the
disclosures made are adequate to make the information presented not misleading.
The information reflects all adjustments that, in the opinion of management, are
necessary for a fair presentation of the financial position and results of
operations for the interim periods set forth herein. All such adjustments are of
a normal and recurring nature. The results for the three-month and nine-month
periods ended September 30, 2002, are not necessarily indicative of the results
for the fiscal year ending December 31, 2002.
2. Cash and Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents. On September 30,
2002, cash and cash equivalents were $3.1 million.
3. Notes Payable and Equipment Financing Loans
Notes payable and equipment financing loans are summarized as follows:
December 31, September 30,
2001 2002
---- ----
(Amounts in thousands)
Senior Secured Notes (a)............................ $ 100,000 $ 100,000
Equipment financing loans (b)....................... 6,023 4,550
Other note payable (c).............................. 963 --
Credit Line (Note 4 Bank Credit Facility)........... 8,505 --
-------------- --------------
115,491 104,550
Less current installments........................... 11,449 2,110
-------------- --------------
$ 104,042 $ 102,440
============== ==============
- ---------
(a) On April 1, 1999, the Company issued in a private placement $100.0
million of 11 3/8% Senior Secured Notes due in March 2006 (the "Senior
Notes") with interest due semi-annually. In May 1999, the Senior Notes
were exchanged for registered Series B Senior Secured Notes (the
"Senior Secured Notes").
4
The Senior Secured Notes are secured by substantially all of the
Company's assets, other than certain excluded assets. In connection
with the issuance of the Senior Secured Notes, the Company entered into
an indenture dated as of April 1, 1999 (the "Indenture") which includes
certain covenants which as of September 30, 2002, restrict the
Company's ability, subject to certain exceptions, to: (i) incur
additional indebtedness; (ii) pay dividends or other distributions, or
repurchase capital stock or other equity interests or subordinated
indebtedness; and (iii) make certain investments. The Indenture also
limits the Company's ability to: (i) enter into transactions with
affiliates, (ii) create liens on or sell certain assets, and (iii)
enter into mergers and consolidations. Under the terms of the
Indenture, after March 15, 2003, the Company may, at its option, redeem
all or some of the Senior Secured Notes at a redemption price that will
decrease over time from 105.688% to 100% of their face amount, plus
interest. If the Company undergoes a "change in control", as defined in
the Indenture, it must give holders of the Senior Secured Notes the
opportunity to sell their Senior Secured Notes to the Company at 101%
of their face amount, plus interest.
(b) The equipment financing loans are secured by furniture, fixtures
and equipment. The amounts are generally repayable in monthly payments
over four or five years with effective interest rates between 8.5% and
10.5%.
(c) This note was issued in connection with the acquisition of The
Sports Club/LA- Upper East Side. A final payment of $287,500 was made
in July 2002.
4. Bank Credit Facility
On November 8, 2002, the Company amended its Loan Agreement with Comerica
Bank - California effective as of October 31, 2002. The amended agreement
extends the maturity date of the Company's credit facility until November 1,
2003. Certain financial covenants regarding Effective Tangible Net Worth,
Unsubordinated Liabilities to Effective Tangible Net Worth and minimum EBITDA
levels have also been revised. At September 30, 2002, the Company was in
compliance with all required covenants. The credit facility bears interest at a
variable rate of LIBOR plus 2 1/4% or the Bank's prime rate (4 3/4% at September
30, 2002). The loans are secured by all the assets of The Sports Club/Irvine and
are guaranteed by three of the Company's major stockholders.
The loan agreement amendment added KASCY, L.P., an affiliate of Kayne
Anderson Capital Advisors, L.P. as a lending participant in the credit facility.
Kayne Anderson Capital Advisors, L.P. and certain of its affiliates own all of
the Company's Series B Redeemable Preferred Stock. The credit facility increases
from $10.0 million to $15.0 million once KASCY, L.P. satisfies certain
regulatory requirements. This is anticipated to be accomplished in the next
several months.
At September 30, 2002, no cash advances were outstanding under this credit
facility and $7.4 million was utilized in the form of letters of credit, leaving
$2.6 million available for future borrowings.
5. Net Loss per Share
Basicloss per share represents the net loss less an accrual for Preferred
Stock dividends divided by the weighted-average number of shares of Common Stock
outstanding for the period. Diluted loss per share excludes the dilutive effect
of common stock
5
equivalents. For the quarter and nine months ended September 30, 2002, there
were 3,220,038 and 2,374,827 anti-dilutive common stock equivalents,
respectively. For the quarter and nine months September 30, 2001, there were
1,333,630 and 1,477,418 anti-dilutive common stock equivalents, respectively.
6. Income Tax Benefit
The income tax benefit recorded for the nine months ended September 30,
2002, is the result of a federal income tax refund the Company will receive as a
result of changes in existing tax laws offset by an accrual for state income
taxes. The federal income tax benefit arises from the Company's ability to carry
back net operating losses incurred during 2001 to prior tax years in which the
Company had taxable income. The benefit recorded is consistent with the
provisions of statement of Financial Accounting Standards Board No. 109,
"Accounting for Income Taxes."
7. Redeemable Preferred Stock
On March 18, 2002, the Company completed a $10.5 million private placement
of a newly created series of its Convertible Preferred Stock. The Company
received $9.9 million in cash, after issuance costs, and issued 10,500 shares of
Series B Preferred Stock, $.01 par value ("Series B Preferred"), at a price of
$1,000 per share. The Company has the obligation, subject to the satisfaction of
certain conditions, to redeem any outstanding shares of Series B Preferred on
March 18, 2009 at a price of $1,000 per share plus accrued but unpaid dividends.
Dividends do accrue at the annual rate of $90.00 per share. Such dividends are
cumulative but do not accrue interest and at the Company's option, may be paid
in cash or in additional shares of Series B Preferred. The Series B Preferred
may, at the option of the holder, be converted into shares of Common Stock at
the rate of $3.00 per share (resulting in the issuance of 3,500,000 shares of
Common Stock if 100% of the Series B Preferred is converted at that price). The
conversion price will be adjusted downward in the event the Company issues
additional shares of Common Stock at a price below $3.00 per share, subject to
certain exceptions; and any such downward adjustment is subject to the prior
approval of the American Stock Exchange ("AMEX"). In the event the Series B
Preferred is redeemed before March 18, 2005, the holders will receive a warrant
to purchase shares of Common Stock at a price of $3.00 per share, exercisable
before March 18, 2007. In the event of liquidation, the Series B Preferred
holders are entitled to receive, prior and in preference to any distribution to
common shareholders and pari passu with holders of the Series C Preferred Stock,
an amount equal to $1,000 for each share of Series B Preferred then outstanding.
The initial carrying value of the Series B Preferred was recorded at its
"fair value" (sale price less costs to issue) on the date of issuance. The
carrying value of the Series B Preferred will be periodically adjusted so that
the carrying value equals the redemption value on the redemption date. The
carrying value of the Series B Preferred will also be periodically adjusted for
any accrued and unpaid dividends. At September 30, 2002, the Series B Preferred
carrying value consisted of the following ($ in thousands):
Initial fair value, sale price of $10,500
less costs to issue of $592....................... $ 9,908
Redemption value accretion............................. 49
Accrued and unpaid dividends accretion................. 511
---------------------
Total carrying value $ 10,468
=====================
6
8. Preferred Stock
On September 6, 2002, the Company completed a $5.0 million private
placement of a newly created series of Convertible Preferred Stock. The Company
received $5.0 million in cash and issued 5,000 shares of Series C Convertible
Preferred Stock, $.01 par value ("Series C Convertible Preferred"), at a price
of $1,000 per share. Dividends are earned at an annual rate of $90.00 per share.
Dividends are payable when and as declared by the Board of Directors. Such
dividends are cumulative, but do not accrue interest and at the Company's
option, may be paid in cash or additional shares of Series C Convertible
Preferred. The Series C Convertible Preferred may, at the option of the holder,
be converted into shares of Common Stock at the rate of $3.00 per share
(resulting in the issuance of 1,666,667 shares of Common Stock if 100% of the
Series C Convertible Preferred is converted at that price). Upon conversion, any
earned and unpaid dividends would become payable. The conversion price will be
adjusted downward in the event the Company issues additional shares of Common
Stock at a price below $3.00 per share, subject to certain exceptions; and any
such downward adjustment is subject to the prior approval of the American Stock
Exchange ("AMEX"). At the option of the Company the Series C Convertible
Preferred Stock may be redeemed in whole or in part by paying in cash the sum of
$1,000 per share plus any earned and unpaid dividends. In the event the Series C
Convertible Preferred is redeemed before September 6, 2005, the holders will
receive a warrant to purchase shares of Common Stock at a price of $3.00 per
share, exercisable before September 6, 2007. In the event of liquidation, the
Series C Convertible Preferred holders are entitled to receive, prior and in
preference to any distribution to common shareholders, and pari passu with
holders of the Series B Preferred, an amount equal to $1,000 for each share of
Series C Convertible Preferred then outstanding, plus earned and unpaid
dividends.
9. Litigation
336 Spa Park Inc. v. Abraham Hirschfeld, Hirschfeld Realty Club Corp., 328
E. 61 Club Corp. and The Sports Club Company, Inc., Index No. 602609/00 (New
York Supreme Court, County of New York). On June 20, 2000, 336 Spa Park Inc.
("Plaintiff") filed a Summons and Complaint ("Complaint") commencing an action
against the Company for tortious interference with a contract for the lease of
parking facilities entered into between Plaintiff and Hirschfeld Realty Club
Corp. and 328 E. 61 Club Corp. On January 2, 2001, Plaintiff filed and served
its Second Amended Complaint. Plaintiff is seeking damages against the Company
in an amount to be determined at trial, but not less than $100,000. The Company
intends to contest this action vigorously and discovery is now proceeding. As a
result, the Company is unable, at this time, to estimate the likelihood that
Plaintiff will prevail in this matter.
Kalili v. The Sports Club Company, et al., Case No. LASC073849. Plaintiff
Tom Kalili, a former member of The Sports Club/LA - Los Angeles, filed this
action on September 9, 2002 in Los Angeles County Superior Court. The complaint
alleges claims for breach of contract, civil rights violations, defamation, and
interference with prospective economic advantage arising from Mr. Kalili's
membership termination. Plaintiff alleges that he was terminated because of his
ethnic descent and that the stated reason for his termination - a substantial
infraction of the Club Bylaws - was pretextual. The Company believes the
complaint is entirely without merit and intends to vigorously defend the action.
It has tendered defense under both its commercial general liability and
employment practices insurance policies and anticipates that the defense will be
accepted with a reservation of rights.
7
Patterson Cleaning Services v. The Sports Club Company, Civil Action No.
02-4750. Plaintiff Patterson Cleaning Services, a former cleaning service
retained by The Sports Club/LA - Boston, filed this action on October 21, 2002
in Suffolk County Superior Court. The Complaint alleges claims for breach of
contract and related claims stemming from the Company's termination of
Patterson's cleaning services. The Company contends that Patterson's services
were properly terminated pursuant to the agreement. The Company believes the
case is entirely without merit and has tendered defense under its commercial
general liability insurance policy, and anticipates the defense will be accepted
with a reservation of rights.
Other Matters. The Company is involved in various claims and lawsuits
incidental to the Company's business, including claims arising from accidents.
However, in the opinion of management, the Company is adequately insured against
such claims and lawsuits involving personal injuries, and any ultimate liability
arising out of any such proceedings will not have a material adverse effect on
the Company's financial condition, cash flow or results of operations.
10. New Accounting Pronouncements
During July 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 141, Business
Combinations, and Statement No. 142, Goodwill and Other Intangible Assets. SFAS
No. 141 requires that the purchase method be used for all business combinations
initiated after June 30, 2001. SFAS No. 142 requires that goodwill and certain
intangibles no longer be amortized against earnings, but instead be reviewed for
impairment on an annual basis. The amortization of goodwill and certain
intangibles ceases upon adoption of SFAS No. 142, which is effective for fiscal
years starting after December 15, 2001. The Company adopted SFAS No. 141 and
SFAS No. 142 effective January 1, 2002. The Company has goodwill recorded which
will no longer be amortized subsequent to the adoption of SFAS No. 142. The
Company completed the transitional impact test, which did not result in the
impairment of recorded goodwill.
The adoption of SFAS No. 142 had the following effect on the Company's
reported net loss and net loss per share for the three-months and nine-months
ended September 30, 2001 and 2002 ($ in thousands, except per share amounts):
Three Months Ended Nine Months Ended
September 30, September 30,
------------- -------------
2001 2002 2001 2002
---- ---- ---- ----
Reported net loss $ (4,683) $ (3,756) $ (13,174) $ (13,329)
Add back: Goodwill amortization, net of tax 76 -- 228 --
---------- ---------- ---------- ----------
Adjusted net loss $ (4,607) $ (3,756) $ (12,946) $ (13,329)
=========== =========== =========== ===========
Reported basic and diluted
loss per share $ (0.26) $ (0.22) $ (0.73) $ (0.77)
=========== =========== =========== ===========
Adjusted basic and diluted
loss per share $ (0.26) $ (0.22) $ (0.72) $ (0.77)
=========== =========== =========== ===========
The Financial Accounting Standards Board recently issued FASB Statement No.
144, Accounting for the Impairment or Disposal of Long-Lived Assets, which
addresses financial accounting and reporting for the impairment or disposal of
long-lived assets. While Statement No. 144 supersedes FASB Statement No. 121,
Accounting for the Impairment of Long-Lived Assets to Be Disposed Of, it retains
many of the fundamental provisions of that statement. The
8
standard is effective for fiscal years beginning after December 15, 2001. The
adoption of SFAS 144, on January 1, 2002, did not have a material impact on the
Company's financial position or results of operations.
In June 2002, the Financial Accounting Standards Board issued SFAS No. 146,
"Accounting for Costs Associated with Exit or Disposal Activities." SFAS No.146
supersedes previous accounting guidance, principally Emerging Issues Task Force
Issue ("EITF") No. 94-3, "Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred
in a Restructuring)." SFAS No. 146 requires that the liability for costs
associated with an exit or disposal activity be initially measured at fair value
and recognized when the liability is incurred. The provisions of SFAS No. 146
are required to be applied prospectively to exit or disposal activities
initiated after December 31, 2002. The adoption of Statement No. 146 is not
expected to have a material impact on the Company's financial statements.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Overview
The following discussion and analysis of our financial condition and
results of operations are based upon our condensed consolidated financial
statements and notes thereto, which have been prepared in accordance with
accounting principles generally accepted in the United States. The preparation
of these financial statements requires us to make estimates and judgments that
affect the reported amounts of assets, liabilities, revenues and expenses and
related disclosure of contingent assets and liabilities. On an on-going basis,
we evaluate our estimates, including those related to principles of
consolidation, revenue recognition, inventories, depreciation and amortization,
start up costs, impairment of long-lived assets and long-lived assets to be
disposed of, fair value of financial instruments and segment reporting. We base
our estimates on historical experience and on various other assumptions that we
believe to be reasonable under the circumstances, the results of which form the
basis for making judgments about the carrying values of assets and liabilities
that are not readily apparent from other sources. Actual results may differ from
these estimates under different assumptions or conditions.
The Sports Club/LA - Rockefeller Center, The Sports Club/LA - Upper East
Side, The Sports Club/LA - Washington D.C., The Sports Club/LA - Boston and The
Sports Club/LA - San Francisco opened in February 2000, September 2000, October
2000, September 2001 and October 2001, respectively. In July 2001, we closed our
SportsMed Agoura Hills location and by December 31, 2001, we had finished the
transfer of our retail business to outside third party vendors. On January 31,
2002, we sold The Sports Club/Las Vegas. As a result of these Club openings, the
high level of pre-opening expenses incurred at these new Clubs, the closing of
our SportsMed Agoura Hills location, our transfer of the retail business and the
sale of The Sports Club/Las Vegas; results for the three months and nine months
ended September 30, 2002 and 2001 are not indicative of expected results in
future periods. Neither seasonal factors nor the relatively moderate inflation
rate has had a significant effect on our operating results.
Results of Operations
Comparison of Three Months Ended September 30, 2002 to Three Months Ended
September 30, 2001.
Our revenues for the three months ended September 30, 2002, were $30.3
million, compared to $24.1 million for the same period in 2001, an increase of
$6.2 million or 25.9%. Revenue increased by $5.8 million, due to the opening of
The Sports Club/LA - Boston in September of 2001 and The Sports Club/LA - San
Francisco in October of 2001, by $1.4 million as a result of membership growth
at the three Sports Club/LA Clubs opened in 2000 and by $743,000 as a result of
dues increases and ancillary revenue growth at our other Sports Club/LA Clubs.
Revenue decreased by $1.5 million as a result of the sale of The Sports Club/Las
Vegas on January 31, 2002, and by $206,000 due to the transfer of our retail
operations to outside third party vendors.
10
Our direct expenses increased by $4.4 million to $24.8 million for the
three months ended September 30, 2002, versus $20.4 million for the same period
in 2001. Direct expenses increased by $6.0 million, due to the opening of The
Sports Club/LA - Boston in September of 2001 and The Sports Club/LA - San
Francisco in October of 2001 and by $258,000 as a result of an increase in
expenses associated with the membership growth at the three Sports Club/LA Clubs
opened in 2000. Direct expenses decreased by $1.5 million due to the sale of The
Sports Club/Las Vegas on January 31, 2002, by $198,000 due to the transfer of
our retail operations to outside third party vendors and by $176,000 at our
other Sports Club/LA Clubs and our SportsMed subsidiary primarily as a result of
cost cutting measures we implemented. Direct expenses as a percent of revenue
for the three months ended September 30, 2002, decreased to 81.9% from 84.9% for
the same period in 2001. As membership levels and therefore revenues increase at
The Sports Club/LA Clubs opened in 2000 and 2001, the direct expense percentage
should continue to decrease.
Our general and administrative expenses were $1.9 million for the three
months ended September 30, 2002, versus $2.1 million for the same period in
2001, a decrease of $210,000 or 9.9%. Our general and administrative expenses
decreased by $194,000 due to lower legal fees resulting from the settlement or
dismissal of certain legal matters in which we were involved. General and
administrative expenses decreased by $157,000 as a result of expense cutting
measures that have reduced our payroll and payroll related expenses. General and
administrative expenses increased by $141,000 primarily as a result of a
reduction in corporate office overhead capitalized on certain development and
information systems projects. General and administrative expenses decreased as a
percentage of revenue to 6.3% for the three months ended September 30, 2002,
from 8.8% for the same period in 2001. We believe that general and
administrative expenses should continue to decrease as a percentage of future
revenues as we expand and achieve economies of scale. There is no assurance,
however, that said expansion or economies of scale will be achieved.
Our selling expenses were $1.1 million for the three months ended September
30, 2002, versus $739,000 for the same period in 2001, an increase of $347,000
or 47.0%. The increase in selling expenses was the result of expanded
advertising and promotion efforts at the five Sports Club/LA Clubs opened in
2000 and 2001 with the majority of this increase attributable to our two most
recently opened Clubs. We also placed special emphasis on membership growth at
The Sports Club/LA - Rockefeller Center. Selling expenses for the three months
ended September 30, 2002 at these five most recently opened Clubs increased by
$451,000 when compared to the same period in 2001. Selling expenses decreased by
$108,000 as a result of the sale of The Sports Club/Las Vegas on January 31,
2002. Selling expenses increased as a percentage of revenue to 3.6% for the
three months ended September 30, 2002, from 3.1% for the same period in 2001.
Our depreciation and amortization expenses increased by $46,000 and were
$2.9 million for the three months ended September 30, 2002. Depreciation and
amortization expenses increased by $176,000, as a result of the opening of The
Sports Club/LA - Boston in September 2001 and The Sports Club/LA - San Francisco
in October of 2001 and by $262,000 at our corporate headquarters, primarily due
to the start of amortization on our recently installed membership accounting
software. Depreciation and amortization expenses decreased by $96,000 as a
result of the sale of The Sports Club/Las Vegas on January 31, 2002 and by
$172,000 at our other Sports Club/LA Clubs primarily as a result of assets
becoming fully depreciated. Depreciation and amortization expense also decreased
by $124,000 due to the adoption of Statement of Financial Accounting Standards
No. 142, effective January 1, 2002, that requires goodwill and other indefinite
lived intangibles no longer be amortized against earnings.
11
Due to the completion of our Clubs under development, there were no
pre-opening expenses for the three months ended September 30, 2002. Pre-opening
expenses by Club for the three months ended September 30, 2001, were $1.2
million at The Sports Club/LA - Boston and $1.2 million at The Sports Club/LA -
San Francisco.
We incurred net interest expense of $3.3 million for the three months ended
September 30, 2002, versus $3.1 million for the same period in 2001, an increase
of $202,000. Net interest expense increased by $252,000 due to our
discontinuance of capitalizing interest costs on Sports Clubs under development
after the last Sports Club/LA Club was opened in October 2001. Net interest
expense increased by $32,000 due to a reduction in interest income earned on
invested cash balances (invested cash balances were used to pay for new Club
development). There was a $47,000 decrease in net interest expense due to
decreased usage of our Bank credit facility and a $35,000 decrease due to a
reduction of equipment financing loans.
We recorded a non-recurring gain of $97,000, related to the sale of the
Houston, Texas site, during the three months ended September 30, 2002. The
Houston, Texas site was sold on August 30, 2002.
The tax provision recorded for the three months ended September 30, 2002,
is comprised of New York City and New York State income taxes incurred on
pre-tax earnings at our Reebok Sports Club/NY. We did not record any federal or
state deferred tax benefit related to our consolidated pre-tax loss incurred for
the three months ended September 30, 2002. After the New York State and City tax
provision, our loss for the three months ended September 30, 2002, was $3.8
million or $0.22 per basic and diluted share. Our estimated federal and state
income tax benefit rate was 38.7% for the three months ended September 30, 2001,
resulting in a net loss of $4.7 million or $0.26 per basic and diluted share.
Comparison of Nine Months Ended September 30, 2002 to Nine Months Ended
September 30, 2001.
Our revenues for the nine months ended September 30, 2002, were $90.3
million, compared to $72.7 million for the same period in 2001, an increase of
$17.6 million or 24.3%. Revenue increased by $18.9 million, due to the opening
of The Sports Club/LA - Boston in September of 2001 and The Sports Club/LA - San
Francisco in October of 2001 and revenue increased by $3.9 million as a result
of membership growth at the three Sports Club/LA Clubs opened in 2000. Revenue
decreased by $4.1 million as a result of the sale of The Sports Club/Las Vegas
on January 31, 2002, by $1.4 million due to the transfer of our retail
operations to outside third party vendors and revenue increased by $325,000 at
our other Sports Clubs and our SportsMed subsidiary primarily due to an increase
in private training revenues partially offset by a decrease in food and beverage
revenues at the Reebok Sports Club/NY and The Sports Club/Irvine.
Our direct expenses increased by $13.2 million to $75.7 million for the
nine months ended September 30, 2002, versus $62.5 million for the same period
in 2001. Direct expenses increased by $19.7 million, due to the opening of The
Sports Club/LA - Boston in September of 2001 and The Sports Club/LA - San
Francisco in October of 2001, and by $417,000 as a result of an increase in
expenses associated with the membership growth at the three Sports Club/LA Clubs
opened in 2000. Direct expenses decreased by $4.0 million due to the sale of The
Sports Club/Las Vegas on January 31, 2002, by $1.3 million due to the transfer
of our retail operations to outside third party vendors and by $1.6 million at
our other Sports Clubs
12
and our SportsMed subsidiary primarily as a result of cost cutting measures we
implemented, the closing of our SportsMed Agoura Hills location and a reduction
in costs associated with the decrease in food and beverage revenues. Direct
expenses as a percent of revenue for the nine months ended September 30, 2002,
decreased to 83.8% from 86.0% for the same period in 2001. As membership levels
and therefore revenues increase at The Sports Club/LA Clubs opened in 2000 and
2001, the direct expense percentage should continue to decrease.
Our general and administrative expenses were $5.7 million for the nine
months ended September 30, 2002, versus $6.8 million for the same period in
2001, a decrease of $1.1 million or 16.5%. Our general and administrative
expenses decreased by $808,000 due to lower legal fees resulting from the
settlement or dismissal of certain legal matters in which we were involved.
General and administrative expenses decreased by $729,000 as a result of expense
cutting measures that have reduced our payroll and payroll related expenses.
General and administrative expenses increased by $419,000 primarily as a result
of higher corporate office rent, increased insurance premiums and a reduction in
corporate office overhead capitalized on certain development and information
systems projects. General and administrative expenses decreased as a percentage
of revenue to 6.3% for the nine months ended September 30, 2002, from 9.3% for
the same period in 2001. We believe that general and administrative expenses
should continue to decrease as a percentage of future revenues as we expand and
achieve economies of scale. There is no assurance, however, that said expansion
or economies of scale will be achieved.
Our selling expenses were $3.7 million for the nine months ended September
30, 2002, versus $3.0 million for the same period in 2001, an increase of
$709,000 or 24.0%. The increase in selling expenses was the result of expanded
advertising and promotion efforts at the five Sports Club/LA Clubs opened in
2000 and 2001 with the majority of this increase attributable to our two most
recently opened Clubs. We also placed special emphasis on membership growth at
The Sports Club/LA - Rockefeller Center. Selling expenses for the nine months
ended September 30, 2002 at these five most recently opened Clubs increased by
$1.1 million when compared to the same period in 2001. Selling expenses
decreased by $328,000 as a result of the sale of The Sports Club/Las Vegas on
January 31, 2002 and selling expenses were $103,000 lower at our other Sports
Club/LA Clubs and our SportsMed subsidiary. Selling expenses as a percentage of
revenue for the nine months ended September 30, 2002, versus the nine months
ended September 30, 2001, remained at 4.1%.
Our depreciation and amortization expenses were $8.9 million for the nine
months ended September 30, 2002, versus $8.4 million for the same period in
2001, an increase of $454,000 or 5.4%. Depreciation and amortization expenses
increased by $606,000, as a result of the opening of The Sports Club/LA - Boston
in September 2001 and The Sports Club/LA - San Francisco in October of 2001 and
by $794,000 at our corporate headquarters, primarily due to the start of
amortization on our recently installed membership accounting software.
Depreciation and amortization expenses decreased by $248,000 as a result of the
sale of The Sports Club/Las Vegas on January 31, 2002 and by $327,000 at our
other Sports Club/LA Clubs primarily due to assets becoming fully depreciated.
Depreciation and amortization expense also decreased by $371,000 due to the
adoption of Statement of Financial Accounting Standards No. 142, effective
January 1, 2002, that requires goodwill and other indefinite lived intangibles
no longer be amortized against earnings.
Pre-opening expenses were $130,000 for the nine months ended September 30,
2002, versus $4.5 million for the same period in 2001. Pre-opening expenses for
the nine months ended September 30, 2002, consisted of legal fees incurred
related to a possible club site on Long Island in New York. We have since
terminated our interest in this site. Pre-opening
13
expenses by Club for the nine months ended September 30, 2001, were $2.3 million
at The Sports Club/LA - Boston and $2.2 million at The Sports Club/LA - San
Francisco.
We incurred net interest expense of $10.0 million for the nine months ended
September 30, 2002, versus $9.2 million for the same period in 2001, an increase
of $806,000. Net interest expense increased by $496,000 due to our
discontinuance of capitalizing interest costs on Sports Clubs under development
after the last Sports Club/LA Club was opened in October 2001. Net interest
expense increased by $328,000, due to a reduction in interest income earned on
invested cash balances (invested cash balances were used to pay for new Club
development). There was a $92,000 increase in net interest expense due to
increased usage and shareholder loan guarantee fees associated with our Bank
credit facility and a $110,000 decrease due to a reduction of equipment
financing loans.
We recorded a non-recurring gain of $97,000, related to the sale of the
Houston, Texas site, during the nine months ended September 30, 2002. The
Houston, Texas site was sold on August 30, 2002. We recorded a non-recurring
gain of $397,000 during the nine months ended September 30, 2001. The
non-recurring gain is the result of the reversal of accrued interest expense
related to the settlement of the Park Place Entertainment Corporation
litigation. As part of the settlement we were no longer required to pay the
accrued interest due on the note.
The tax benefit recorded for the nine months ended September 30, 2002, is
comprised of a $900,000 federal income tax refund we will receive due to recent
tax law changes that allow us to carry-back our 2001 loss to prior tax years
partially offset by New York State and City income taxes incurred at our Reebok
Sports Club/NY. We did not record any deferred tax benefit related to our loss
incurred for the nine months ended September 30, 2002. After the tax benefit,
our loss for the nine months ended September 30, 2002, was $13.3 million or
$0.77 per basic and diluted share. Our estimated federal and state income tax
benefit rate was 38.5% for the nine months ended September 30, 2001, resulting
in a net loss of $13.2 million or $0.73 per basic and diluted share.
Liquidity and Capital Resources
Capital Requirements - Existing Operations
On April 1, 1999, we issued in a private placement $100 million of 11 3/8%
Senior Secured Notes (the "Senior Secured Notes") due in March 2006, with
interest due semi-annually. The Senior Secured Notes were issued pursuant to the
terms of an indenture agreement dated April 1, 1999 (the "Indenture"). The
Senior Secured Notes are secured by substantially all of our assets, other than
certain excluded assets. The Indenture includes certain covenants that restrict
our ability to: (i) incur additional indebtedness; (ii) pay dividends or other
distributions, or repurchase capital stock or other equity interests or
subordinated indebtedness; and (iii) make certain investments. The Indenture
also limits our ability to: (i) enter into transactions with affiliates; (ii)
create liens on or sell certain assets; and (iii) enter into mergers and
consolidations. The Indenture requires us to make semi-annual interest payments
of $5.7 million on March 15th and September 15th of each year.
We have entered into lease agreements with Millennium Entertainment
Partners and/or its affiliates (collectively "Millennium") with respect to The
Sports Club/LA locations in San Francisco and Boston. Millennium owns
approximately 33.4% of our outstanding Common Stock. At September 30, 2002, the
unpaid development and equipment costs for these Clubs are estimated to be
approximately $488,000. These unpaid development and
14
equipment costs are payable to outside third party contractors and are included
in accounts payable as of September 30, 2002.
We completed construction of a restaurant/cafe at The Sports Club/LA -
Upper East Side in October 2002. At September 30, 2002, approximately $112,000
remains unpaid on this project.
In addition to the development projects described above, we incur capital
expenditures for normal replacement of fitness equipment and updating Clubs. Our
Clubs are upscale and capital improvements are regularly needed to retain the
upscale nature and presentation of the Clubs. A deterioration of the quality of
the Clubs can lead to reduction in membership levels and lower revenues. We
estimate that expenditures of between 3% and 4% of revenues, depending on the
age of the Club, will be necessary to maintain the quality of the Clubs to our
satisfaction. We also expect to spend approximately $300,000 during the next
year to upgrade our management information systems and enhance our disaster
recovery capabilities.
All our mature Sports Clubs (Clubs open at least three years) currently
generate positive cash flow from operations. Newly developed Clubs tend to
achieve significant increases in revenues until a mature membership level is
reached. In the past, recently opened Clubs that have not yet achieved mature
membership levels have operated at a loss or at only a slight profit as a result
of fixed expenses that, together with variable operating expenses, approximate
or exceed membership fees and other revenue. The time period necessary to
achieve positive cash flows is dependent upon the membership levels and amount
of fixed costs. Historically, it may take two years before a new Club achieves
positive cash flow. Three of our new Clubs now generate positive cash flows
while two of the new Clubs require cash to fund their operating activities. Our
consolidated operating cash flows, for the three months and nine months ended
September 30, 2002 and the years ended December 31, 2001 and 2000, were
negative. We expect this trend to continue until the newly opened Clubs generate
sufficient positive cash flows. Our ability to generate positive cash flow from
operating activities is dependent upon increasing membership levels at these
Clubs and we cannot offer any assurance that we will be successful in these
efforts.
We currently have $4.6 million of outstanding equipment financing loans. We
make monthly principal and interest payments on this debt. These monthly
payments are currently $203,000 and they will continue until December 2004, when
a significant portion of the debt will be repaid.
The Indenture requires us to make an offer to retire Senior Secured Notes
if the net proceeds of any asset sale are not reinvested in assets related to
our business, unless the remaining net proceeds are less than $10.0 million. To
the extent we sell assets, such as The Sports Club/Las Vegas and our real estate
in Houston, the proceeds from those sales would be subject to the excess
proceeds provision of the Indenture. We were not required to make such an offer
as a result of the sale of The Sports Club/Las Vegas or the Houston real estate.
15
Our total cash requirements through September 30, 2003 are estimated to be
as follows (amounts in thousands):
Indenture interest........................................ $ 11,375
Remaining construction costs of new Clubs................. 600
Information system upgrades............................... 300
Payments on long-term debt................................ 2,110
-----------------
$ 14,385
=================
Capital Requirements - New Clubs
On April 22, 2002, we signed a lease to develop The Sports Club/LA-Beverly
Hills. The new Sports CLub/LA, which will be approximately 40,000 square feet,
will be located at 9601 Wilshire Boulevard in the heart of the Beverly Hills
retail and commercial district. Anticipated development costs and working
capital requirements are approximately $8.5 million. Due to our limited
financial resources, we are seeking development partners or alternative
financing (subject to the restrictions in the Indenture) to finance this
project. We view the Beverly Hills market as an excellent location for The
Sports CLub/LA brand and this Club may serve as a prototype for smaller sized
Clubs to be built in locations near existing Sports Club/LA sites.
Cash and Credit Availability
Our September 30, 2002 cash balance is $3.1 million. In addition, we
received a $900,000 federal income tax refund during October 2002 and we expect
to convert $2.5 million of assets currently classified as "other assets" on our
September 30, 2002 balance sheet to cash within the next year.
On November 8, 2002, we amended our Loan Agreement with Comerica Bank -
California effective as of October 31, 2002. The amended agreement extends the
maturity date of our credit facility until November 1, 2003. The credit facility
bears interest at a variable rate of LIBOR plus 2 1/4% or the Bank's prime rate
(4 3/4% at September 30, 2002). The loans are secured by all the assets of The
Sports Club/Irvine and are guaranteed by three of our major stockholders.
The loan agreement amendment added KASCY, L.P., an affiliate of Kayne
Anderson Capital Advisors, L.P. as a lending participant in the credit facility.
Kayne Anderson Capital Advisors, L.P. and certain of its affiliates own all of
our Series B Redeemable Preferred Stock. The credit facility increases from
$10.0 million to $15.0 million once KASCY, L.P. satisfies certain regulatory
requirements. This is anticipated to be accomplished in the next several months.
At September 30, 2002, no cash advances were outstanding under this credit
facility and $7.4 million was utilized in the form of letters of credit, leaving
$2.6 million available for future borrowings. A further $5.0 million will be
available for future borrowing once KASCY, L.P. becomes duly licensed as a
lender and the credit line increases to $15.0 million.
During the nine months ended September 30, 2002, our operations generated
$6.3 million of cash flow before pre-opening expenses, capital expenditures and
debt service. We believe we will continue to generate positive cash flow from
operations, before pre-opening
16
expenses, capital expenditures and debt service and that such amount will
increase as our new Clubs continue to mature.
The Indenture allows us to incur up to $10.0 million of equipment financing
obligations. At September 30, 2002, we had $4.6 million of equipment financing
obligations outstanding and would be allowed to finance an additional $5.4
million with our equipment serving as collateral.
Summary
During the nine months ended September 30, 2002 we improved our liquidity
by completing $15.5 million in Preferred Stock issuances and completing the sale
of our assets in Las Vegas, Nevada and Houston, Texas. These transactions
generated $24.1 million of cash. We have also recently renewed our bank credit
facility and currently have $2.6 million available for borrowing under the
agreement. We expect to soon increase our bank agreement by another $5.0
million.
In our opinion, our current cash balance at September 30, 2002 plus our
available credit under our Bank credit facility and our projected cash flows
before capital expenditures and debt service are estimated to be adequate to
cover our debt service and projected on-going capital expenditures for the
twelve months ended September 30, 2003. If our projected cash flows before
capital expenditures and debt service do not meet our estimates or our available
credit under our Bank credit facility decreases or becomes unavailable, we may
need to sell additional assets or offer additional equity securities to meet our
cash flow needs through September 30, 2003. There can be no assurance that we
would be able raise additional capital by selling additional assets or by
offering additional equity securities. In order to continue to service our
interest obligations after September 30, 2003 we will need to increase our
operating cash flows above the current levels or secure additional capital.
Due to our limited financial resources, additional funds will be required
to undertake any future acquisitions or the development of additional new Clubs,
including The Sports Club/LA-Beverly Hills. We would consider entering into
joint ventures, partnership agreements or management agreements (subject to the
restrictions and limitations on such transactions in the Indenture) for the
purpose of developing new Clubs, but only if such arrangements would generate
additional cash flow or further enhance The Sports Club/LA brand name in the
market place.
Forward Looking Statements
From time to time we make "forward-looking statements" within the meaning
of Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. Forward-looking statements include the words "may,"
"will," "estimate," "continue," "believe," "expect" or "anticipate" and other
similar words. The forward-looking statements generally appear in the material
set forth under the heading "Management's Discussion and Analysis of Financial
Condition and Results of Operations" but may be found in other locations as
well. Forward-looking statements may also be found in our other reports filed
with the Securities and Exchange Commission and in our press releases and other
public disclosures. These forward-looking statements generally relate to our
plans and objectives for future operations and are based upon managements'
reasonable estimates of future results or trends. Although we believe that our
plans and objectives reflected in or suggested by such forward-looking
statements are reasonable, such plans or objectives may not be achieved.
17
Actual results may differ from projected results due to unforeseen developments,
including developments relating to the following:
o the availability and adequacy of our cash flow and financing facilities for
our requirements, including payment of the Senior Secured Notes,
o our ability to attract and retain members, which depends on competition,
market acceptance of new and existing sports and fitness clubs and
services, demand for sports and fitness club services generally and
competitive pricing trends in the sports and fitness market,
o our ability to successfully develop new sports and fitness clubs,
o disputes or other problems arising with our development partners or
landlords,
o changes in economic, competitive, demographic and other conditions in the
geographic areas in which we operate, including business interruptions
resulting from earthquakes or other causes,
o competition,
o changes in personnel or compensation, and
o changes in statutes and regulations or legal proceedings and rulings.
We will not update forward-looking statements even though our situation may
change in the future.
18
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our credit facility has a variable interest rate. Accordingly, our interest
expense could be materially affected by future fluctuations in the applicable
interest rate. At September 30, 2002, we had no cash advances outstanding under
the credit facility and $7.4 million was utilized in the form of outstanding
letters of credit.
We are also exposed to risk from a change in interest rates to the extent
we are required to refinance existing fixed rate indebtedness at rates higher
than those prevailing at the time the existing indebtedness was incurred. As of
September 30, 2002, we had Senior Secured Notes totaling $100.0 million due in
March 2006. Annual interest of $11.4 million is payable semi-annually in March
and September. At September 30, 2002, the fair value of the Senior Secured Notes
is approximately $90.0 million.
ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of disclosure controls and procedures.
The management of the Company, including the Co-Chief Executive Officers
and Chief Financial Officer, have conducted an evaluation of the effectiveness
of the Company's disclosure controls and procedures pursuant to Rule 13a-14
under the Securities Exchange Act of 1934 as of a date (the "Evaluation Date")
within 90 days prior to the filing date of this report. Based upon that
evaluation, the Co-Chief Executive Officers and Chief Financial Officer
concluded that, as of the Evaluation Date, the Company's disclosure controls and
procedures were effective in ensuring that all material information relating to
the Company required to be filed in this quarterly report has been made known to
them in a timely manner.
(b) Changes in internal controls.
There have been no significant changes made in the Company's internal
controls or in other factors that could significantly affect internal controls
subsequent to the Evaluation Date.
19
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings
336 Spa Park Inc. v. Abraham Hirschfeld, Hirschfeld Realty Club Corp., 328
E. 61 Club Corp. and The Sports Club Company, Inc., Index No. 602609/00 (New
York Supreme Court, County of New York). On June 20, 2000, 336 Spa Park Inc.
("Plaintiff") filed a Summons and Complaint ("Complaint") commencing an action
against us for tortious interference with a contract for the lease of parking
facilities entered into between Plaintiff and Hirschfeld Realty Club Corp. and
328 E. 61 Club Corp. On January 2, 2001, Plaintiff filed and served its Second
Amended Complaint. Plaintiff is seeking damages against us in an amount to be
determined at trial, but not less than $100,000. We intend to contest this
action vigorously and discovery is now proceeding. As a result, we are unable,
at this time, to estimate the likelihood that Plaintiff will prevail in this
matter.
Kalili v. The Sports Club Company, et al., Case No. LASC073849. Plaintiff
Tom Kalili, a former member of The Sports Club/LA - Los Angeles, filed this
action on September 9, 2002 in Los Angeles County Superior Court. The complaint
alleges claims for breach of contract, civil rights violations, defamation, and
interference with prospective economic advantage arising from Mr. Kalili's
membership termination. Plaintiff alleges that he was terminated because of his
ethnic descent and that the stated reason for his termination - a substantial
infraction of the Club Bylaws - was pretextual. We believe the complaint is
entirely without merit and intend to vigorously defend the action. We have
tendered defense under both our commercial general liability and employment
practices insurance policies and anticipate that the defense will be accepted
with a reservation of rights.
Patterson Cleaning Services v. The Sports Club Company, Civil Action No.
02-4750. Plaintiff Patterson Cleaning Services, a former cleaning service
retained by The Sports Club/LA - Boston, filed this action on October 21, 2002
in Suffolk County Superior Court. The complaint alleges claims for breach of
contract and related claims stemming from our termination of Patterson's
cleaning services. We contend that Patterson's services were properly terminated
pursuant to the agreement. We believe the case is entirely without merit and
have tendered defense under our commercial general liability insurance policy,
and anticipate the defense will be accepted with a reservation of rights.
Other Matters. We are involved in various claims and lawsuits incidental to
our business, including claims arising from accidents. However, in the opinion
of management, we are adequately insured against such claims and lawsuits
involving personal injuries, and any ultimate liability arising out of any such
proceedings will not have a material adverse effect on our financial condition,
cash flow or results of operations.
Item 2. Changes in Securities
On September 6, 2002, we completed a $5.0 million private placement of a
newly created series of Convertible Preferred Stock. We received $5.0 million in
cash and issued 5,000 shares of Series C Convertible Preferred Stock, $.01 par
value ("Series C Convertible Preferred"), at a price of $1,000 per share.
Dividends are earned at the rate of $90.00 per share. Dividends are payable when
and as declared by the Board of Directors. Such dividends are cumulative, but do
not accrue interest and at our option, may be paid in cash or additional shares
of Series C Convertible Preferred. The Series C Convertible Preferred may, at
the option of the holder, be converted into shares of Common Stock at an initial
rate of $3.00 per share (resulting in the issuance of 1,666,667 shares of Common
Stock if 100% of the Series C Convertible Preferred is converted at that price).
Upon conversion, any earned and unpaid
20
dividends would become payable. The conversion price will be adjusted downward
in the event we issue additional shares of Common Stock at a price below $3.00
per share, subject to certain exceptions; and any such downward adjustment is
subject to the prior approval of the American Stock Exchange ("AMEX"). At our
option, the Series C Convertible Preferred Stock may be redeemed in whole or in
part by paying in cash the sum of $1,000 per share plus any earned and unpaid
dividends. In the event the Series C Convertible Preferred is redeemed before
September 6, 2005, the holders will receive a warrant to purchase shares of
Common Stock at a price of $3.00 per share, exercisable before September 6,
2007. In the event of liquidation, the Series C Convertible Preferred holders
are entitled to receive, prior and in preference to any distribution to common
shareholders, and pari passu with holders of the Series B Preferred, an amount
equal to $1,000 for each share of Series C Convertible Preferred then
outstanding, plus earned and unpaid dividends.
Item 3. Defaults upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
The 2002 Annual Meeting of Stockholders of the Company was held on August
2, 2002. The following matters were submitted to stockholders for a vote.
For Against Abstained
(Shares Voted)
The election of Nanette Pattee Francini as a Class II
director to serve for three years............................. 18,294,766 0 0
The election of George J. Vasilakos as a Class II director to
serve for three years......................................... 18,294,766 0 0
The election of Charles A. Norris as a Class II director to
serve for three years......................................... 18,294,766 0 0
Approve the issuance of 3,500,000 shares of Common Stock upon conversion of the
Series B Convertible Preferred Stock sold
in March 2002................................................. 18,294,766 0 0
Approve the issuance of 3,333,333 shares of Common Stock upon conversion of a
newly created Series C Convertible
Preferred Stock............................................... 18,294,766 0 0
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
a) Exhibits
None.
21
b) The following reports on Form 8-K have been filed since June 30, 2002:
On August 12, 2002, we filed a report on Form 8-K announcing that on August
2, 2002, the Company's stockholders elected Charles A. Norris as a member of the
Board. Mr. Norris replaces Mr. Dennison Veru who did not stand for re-election.
On September 4, 2002, we filed a report on Form 8-K announcing that on
August 30, 2002, the Company amended its Loan Agreement with Comerica Bank -
California. The amended agreement extends the maturity date of the Company's
credit facility until October 31, 2002. Additionally, the Company completed the
sale of its real estate in Houston, Texas to an unaffiliated buyer on August 30,
2002. The Company received net proceeds of $3.0 million upon the close of the
transaction.
On September 9, 2002, we filed a report on Form 8-K announcing that on
September 6, 2002, the Company completed a $5,000,000 private placement of a
newly created class of Series C Convertible Preferred Stock.
On November 12, 2002, we filed a report on Form 8-K announcing that on
November 8, 2002, we amended our Loan Agreement with Comerica Bank - California
effective as of October 31, 2002. The amended agreement extends the maturity
date of our credit facility until November 1, 2003. Certain financial covenants
regarding Effective Tangible Net Worth, Unsubordinated Liabilities to Effective
Tangible Net Worth and minimum EBITDA levels have also been revised. The loan
agreement amendment added KASCY, L.P., an affiliate of Kayne Anderson Capital
Advisors, L.P. as a lending participant in the credit facility. Kayne Anderson
Capital Advisors, L.P. and certain of its affiliates own all of our Series B
Redeemable Preferred Stock. The credit facility increases from $10.0 million to
$15.0 million once KASCY, L.P. satisfies certain regulatory requirements. This
is anticipated to be accomplished in the next several months.
22
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Company has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
THE SPORTS CLUB COMPANY, INC.
Date: November 13, 2002 by /s/ Rex A. Licklider
-----------------------------------
Rex A. Licklider
Vice Chairman of the Board
And Co-Chief Executive Officer
(Principal Executive Officer)
Date: November 13, 2002 by /s/ Michael Talla
-----------------------------------
D. Michael Talla
Chairman of the Board
And Co-Chief Executive Officer
(Principal Executive Officer)
Date: November 13, 2002 by /s/ Timothy M. O'Brien
-----------------------------------
Timothy M. O'Brien
Chief Financial Officer
(Principal Financial and Accounting
Officer)
23
CERTIFICATION
I, D. Michael Talla, certify that:
1. I have reviewed this quarterly report on Form 10-Q of The Sports Club
Company, Inc.
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant is made known to us by
others within the registrant, particularly during the period in which
this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the filing
date of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent functions):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability
to record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
24
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
/s/ D. Michael Talla
------------------------------------------
------------------------------------------
D. Michael Talla
Co-Chief Executive Officer
Date: November 13, 2002
25
CERTIFICATION
I, Rex A. Licklider, certify that:
1. I have reviewed this quarterly report on Form 10-Q of The Sports Club
Company, Inc.
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant is made known to us by others within the
registrant, particularly during the period in which this quarterly report is
being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent functions):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability
to record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
26
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
/s/ Rex A. Licklider
---------------------------------
---------------------------------
Rex A. Licklider
Co-Chief Executive Officer
Date: November 13, 2002
27
CERTIFICATION
I, Timothy M. O'Brien, certify that:
1. I have reviewed this quarterly report on Form 10-Q of The Sports Club
Company, Inc.
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant is made known to us by others within the
registrant, particularly during the period in which this quarterly report is
being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent functions):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
28
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
/s/ Timothy M. O'Brien
------------------------------------
------------------------------------
Timothy M. O'Brien
Chief Financial Officer
Date: November 13, 2002
29