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UNITED STATES
SECURITIES AND EXCHANGE COMMISSIONS
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X]ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 1998
OR
[_]TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
COMMISSION FILE NUMBER 1-13495
MAC-GRAY CORPORATION
(Exact name of registrant as specified in its charter)
04-3361982
DELAWARE (I.R.S. Employer
(State or other jurisdiction Identification No.)
incorporation or organization)
02141
22 WATER STREET, (Zip Code)
CAMBRIDGE, MASSACHUSETTS
(Address of principal executive
offices)
Registrant's telephone number, including area code (617) 492-4040
Securities Registered Pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
------------------- -----------------------------------------
Common Stock, par value $.01 per
share New York Stock Exchange
Securities Registered Pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of the 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 of the registrant held by
non-affiliates of the registrant as of March 30, 1999 was $50,643,215 based on
the last sale price of $8 1/16 per share as of March 30, 1999 on the NYSE. As
of March 30, 1999, 12,655,628 shares of Common Stock, par value $.01 per
share, of the registrant were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrants' Proxy Statement for the Annual Meeting of
Stockholders to be held on May 19, 1999 are incorporated by reference into
Part III of this report.
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PART I
Item 1. Business
Mac-Gray was founded in 1927. Unless the context requires otherwise, all
references in this Report to Mac-Gray or the Company shall mean Mac-Gray
Corporation and its subsidiaries and predecessors, including (i) Mac-Gray
Services, Inc., a Delaware corporation, that was formerly known as Mac-Gray
Co., Inc. ("Mac-Gray Co."), and Mac-Gray, L.P., a Delaware limited partnership
(the "Limited Partnership"), and (ii) businesses that Mac-Gray has acquired
through December 31, 1998 from their respective dates of acquisition.
Significant laundry route acquisitions have included Sun Services of America,
Inc. ("SSA") and R. Bodden Coin-Op Laundry, Inc. ("RBCO" and, together with
SSA, "Sun Services") acquired on April 17, 1997 and Amerivend Corporation and
Amerivend Southeast Corporation (collectively "Amerivend") acquired on April
24, 1998. Other significant acquisitions have included Intirion Corporation
("Intirion"), which was acquired on March 12, 1998 and accounted for as a
pooling of interests and Copico, Inc. ("Copico") which was purchased on April
23, 1998. On October 22, 1997, Mac-Gray completed its initial public offering
of 4,600,000 shares of Mac-Gray Common Stock at an offering price of $11 per
share (the "IPO"). Upon consummation of the IPO, Mac-Gray's status as an S
corporation automatically terminated and Mac-Gray became subject to taxation
as a C corporation for federal and state income tax purposes.
The Company's revenues are derived from the operation of three business
segments: Laundry services, MicroFridge(R) services and Reprographics
services.
Laundry Services
Mac-Gray believes that it is among North America's largest suppliers of card
and coin-operated laundry services in multiple housing facilities such as
apartment buildings, colleges and universities and public housing complexes.
Based upon Mac-Gray's ongoing survey of colleges and universities, the Company
believes it is North America's largest supplier of such services to the
college and university market. Mac-Gray owns and operates approximately
158,000 card and coin-operated washers and dryers in more than 25,000 multiple
housing laundry rooms located in 29 states. In addition, Mac-Gray believes
that it is the largest purchaser of commercial laundry products manufactured
by The Maytag Corporation ("Maytag").
On April 24, 1998, Mac-Gray acquired one hundred percent of the outstanding
capital stock of Amerivend Corporation and the assets of Amerivend Southeast
Corporation. Amerivend provided card and coin-operated laundry rooms in
multiple housing facilities, primarily in the state of Florida.
A substantial portion of Mac-Gray's revenue is derived from the operation of
washers and dryers in laundry rooms under long-term leases with property
owners. Under Mac-Gray's long-term leases the Company typically receives the
exclusive right to operate laundry rooms within a multiple housing property in
exchange for a percentage of the revenue collected. Mac-Gray has been able to
retain in excess of 98% of its existing machine base, while also adding an
average of 5.2% to its machine base through internally generated growth,
during each of the past five years. Mac-Gray believes that its ability to
retain its existing machine base in the past, while growing its machine base
through internally generated installations and acquisitions, is indicative of
its service of, and attention to, property owners and managers. The property
owner or manager is usually responsible for maintaining and cleaning the
premises and for payment of the utilities. Mac-Gray leases space within a
property, in some instances improves the leased space with new flooring,
ceilings and other improvements, and then installs and services the laundry
equipment and collects the revenue. Mac-Gray sets and adjusts the pricing for
its machines based upon local market conditions.
Mac-Gray operates both smart card and magnetic stripe ("debit card") based
payment systems. Since 1991 Mac-Gray has installed more than 12,500 debit card
operated laundry machines in response to customer demand in the college and
university market. The installation of these debit card-based machines often
provides Mac-
1
Gray with access to colleges and universities that demand card-based payment
systems as part of their procurement process.
Mac-Gray has installed smart card readers in more than 16,000 laundry
machines since April 1, 1997. Smart cards are the same size as credit or debit
cards and are capable of computational operations, as well as storing data and
value for use in cashless transactions. The stored value feature of smart
cards is used with Mac-Gray's laundry equipment to provide laundry users the
convenience and security of cashless transactions. Mac-Gray, which has
experienced increased usage at existing facilities which have been equipped
with smart card readers, believes that these smart card based payment
technologies may also be used to increase revenue by facilitating modest price
increases and the implementation of variable time pricing while also enhancing
the ability to expand its existing services and product offerings. The
additional benefits associated with smart card based transactions include
reduced administrative burdens and expenditures, reduced vandalism, improved
security and more efficient revenue collections. Mac-Gray believes that the
availability of these technologies will also increase laundry room usage and
decrease the property owner's risk of loss of resident business to off-
premises operators which, Mac-Gray believes, will further enhance the
attractiveness of smart card based payment systems to property owners and
managers.
Mac-Gray is also a significant distributor for several major laundry
equipment manufacturers, including Maytag. As an equipment distributor, Mac-
Gray sells commercial laundry equipment to public laundromats, as well as to
the multi-unit housing industry. Mac-Gray is also certified, by the
manufacturers, to service the commercial laundry equipment that it sells. Mac-
Gray also sells commercial laundry equipment directly to institutional
purchasers, including hospitals, restaurants and hotels, for use in their own
on-premise laundry facilities. Mac-Gray manages its laundry route business and
its distribution and servicing business from its corporate headquarters in
Cambridge, Massachusetts, where it has centralized its administrative,
billing, marketing, purchasing and refurbishing operations. Mac-Gray also
operates sales and/or service centers in Connecticut, Florida (three
locations), Georgia, Illinois, Maine, Missouri, New York (two locations),
North Carolina, Pennsylvania and Texas.
Mac-Gray has also established a leasing program for commercial laundry
customers who choose neither to purchase equipment nor to become a laundry
route customer. This program involves the leasing of commercial laundry
equipment to customers who maintain their own coin-operated laundry rooms, as
well as to customers (such as hotels) who operate their own on-premise laundry
equipment.
Mac-Gray's laundry business has certain intrinsic characteristics in both
its industry and its customer base, these include:
Recurring revenue--Mac-Gray operates laundry equipment located in
multiple housing facilities under long-term leases with property owners. In
addition, Mac-Gray's efforts are designed to maintain customer
relationships over the long-term.
Historically non-cyclical business--Mac-Gray has not experienced a
reduction of its business as a result of past general economic downturns,
including the recession that occurred in the early 1990s, although there
can be no assurance that this would be the case in the future. Mac-Gray
believes that many larger property owners and managers may be even more
inclined to out source non-core operations, such as laundry services,
during economic downturns as they seek to control capital expenditures
while maximizing resident retention through the availability of quality
services and amenities.
Diversified and stable customer base--Mac-Gray provides laundry services
to more than 25,000 laundry rooms located in 29 states east of the Rocky
Mountains. Currently, no lessor represents more than 1% of Mac-Gray's
machine base. Mac-Gray serves customers in a number of markets including
apartment buildings, colleges and universities, condominiums and public
housing complexes.
Competition--The card and coin-operated Laundry services industry is
highly competitive, capital intensive and requires reliable and prompt
service. Mac-Gray believes that customers consider different factors in
selecting a laundry service provider including customer service,
reputation, commission rates
2
(including advance commissions) and range of products and services. Mac-
Gray believes that different types of customers assign varied weight to
each of these factors and that no one factor materially influences a
customer's selection of a laundry service provider. Within any given
geographic area, Mac-Gray may compete with local independent-operators,
regional operators and multi-region operators. Although the industry is
highly fragmented, Mac-Gray and several other independent-operators have
chosen to grow by acquisitions, as well as through new machine placement.
Mac-Gray believes that it is the third largest card and coin-operated
laundry services provider in North America. Mac-Gray believes that only
Coinmach Laundry Corporation ("Coinmach") and Web Service Company, Inc.
("Web") maintain larger machine bases than Mac-Gray.
Dependence on Suppliers--The Company currently purchases a large portion
of the equipment that it utilizes in its Laundry business from Maytag. In
addition, the Company derives a significant amount of its revenue, as well
as certain competitive advantages, from its position as a distributor of
Maytag commercial laundry products. Although the purchase and distribution
agreements between the Company and Maytag are terminable by either party
upon written notice, the Company has never had such an agreement terminated
by Maytag. The Company also purchases smart card based equipment from
Schlumberger, a manufacturer of card based electronic transaction systems.
The Company may choose to rely substantially in the future on the
Schlumberger technology and its relationship with Schlumberger in general.
A termination of, or substantial revision of the terms of, the contractual
arrangements or business relationships with Maytag or Schlumberger could
have a material adverse effect on the Company's business, results of
operations, financial condition and prospects.
Microfridge(R) Services
On March 12, 1998, Mac-Gray acquired Intirion Corporation ("Intirion").
Intirion is a supplier of combination refrigerator/freezer/microwave ovens
("MicroFridge(R)") to multiple housing facilities such as colleges and
universities, military bases, hotels, motels and assisted living facilities.
Mac-Gray believes that the addition of these items to its product line
enhances the Company's ability to provide multiple amenities to both its
current customer base as well as future customers seeking one source to fill
multiple needs. The Company currently owns approximately 42,000
MicroFridges(R) in service throughout the country.
The MicroFridge(R) is a family of patented combination
refrigerator/freezer/microwave ovens. The product's patented circuitry has
proven to be an important feature for those customers who have concerns about
electrical capacity and seek a safer alternative to hot plates and other
cooking or heating appliances. Historically, MicroFridge(R) sales efforts have
been focused on such "home-away-from-home" marketplaces as colleges and
universities, military bases, hotels, motels and assisted living facilities.
The MicroFridge(R) services division revenues are derived from the sale and
rental of MicroFridge(R) units. Rental units are leased to institutions or
individuals at institutions on both long-term and annual bases. The Academic
Living market is composed of more than 1,700 colleges and universities that
have on-campus residence halls. MicroFridge(R) units are sold and leased to
colleges and universities across the continental United States. Mac-Gray
believes that it is the largest refrigerator/microwave rental company serving
the Academic Living market. The second largest market is the Government Living
market, consisting principally of military bases. In this market, the
MicroFridge(R) product line is available through government contract with the
General Services Administration and the U.S. Air Force. MicroFridge(R)
products have been installed at government facilities throughout the world.
MicroFridge(R) brand products are also sold to the hospitality and lodging
industry throughout the continental United States through an independent
dealer network.
The MicroFridge(R) division maintains OEM arrangements with three primary
manufacturers, Sanyo E&E Corporation, Daewoo Electronics Co., Ltd. and
Imarflex Mfg. Co., Ltd. Sanyo E&E Corporation has been the Company's principal
supplier since Intirion was founded. The principal patent underlying the
MicroFridge(R) product is held jointly by Intirion and Sanyo. In December
1997, Sanyo signed a non-competition
3
agreement with Intirion whereby Sanyo is precluded from entering the
MicroFridge(R) market. This agreement remains in effect through the life of
the patent provided that certain minimum annual quantities of products are
purchased from Sanyo. The other OEM agreements are renewable year to year
unless terminated with proper notice.
The refrigerator/microwave industry is highly competitive. In addition to
large direct sellers, Intirion also competes with the major retail stores and
local and regional distributors who sell various brand name compact
refrigerators and microwave ovens in the markets served by Intirion. Although
Intirion holds a patent on combination units utilizing internal circuitry,
there has been increased competition since 1995 from "similar look" products
utilizing an external circuitry control mechanism. There also exist local and
regional competition in Intirion's rental business. The growth in Intirion's
rental business has been derived from both internal sales efforts and
acquisitions. Intirion believes that its expertise gained from being the first
entrant in the market enables it to compete effectively against new entrants
in the combination appliance business. Intirion's principal competitors
include General Electric, Avanti, Tatung, Welbilt, Walmart, Sears, Sanyo
Fisher Sales and several companies focused on the college rental marketplace.
Reprographic Services
On April 23, 1998, Mac-Gray acquired one hundred percent of the outstanding
capital stock of Copico, Inc. ("Copico").
Founded in 1978, Copico is a major provider of card and coin-operated
reprographics equipment and services to the academic and public library
markets in New England, New York, Florida and Texas. Copico provides and
services copiers, laser printers and microform reader-printers for the
libraries of colleges, universities, graduate schools and public libraries.
The Reprographics services business represents less than 5% of the Company's
total operations.
Employee Base
The Company employs approximately 527 people. No employee is covered by a
collective bargaining agreement and the Company believes that its relationship
with its employees is good. In addition the MicroFridge(R) division employs
part-time employees from time to time based on the seasonality of
MicroFridge(R) sales and rental operations in the college and university
marketplace.
Segment Information
The Company operates three business units which are based on the Company's
different product and service categories: Laundry, MicroFridge(R) and
Reprographics. The Laundry and Reprographics business units have been
aggregated into one reportable segment (Laundry and Reprographics) since the
long-term financial performance of the Laundry and Reprographics units are
affected by similar economic conditions. Information with regard to reportable
business segments is reported under Note 15 in the financial statements
attached hereto.
4
Item 2. Properties
Mac-Gray owns its 40,000 square foot corporate headquarters in Cambridge,
Massachusetts which houses Mac-Gray's administrative and central services,
including a 20,000 square foot warehouse for equipment and parts. Mac-Gray
also owns sales and service facilities in Miami and Tampa, Florida and
Austell, Georgia consisting of 25,000, 12,000 and 12,000 square feet each,
respectively. Mac-Gray also leases the following regional facilities, which
are largely operated as sales and service facilities, though limited
administrative functions are also performed at many of them:
Approximate
Location Square Footage
-------- --------------
Buffalo, New York............................................. 9,500
Canton, Massachusetts......................................... 10,000
Charlotte, North Carolina..................................... 7,600
Chula Vista, California*...................................... 25,000
Gainesville, Florida.......................................... 750
Gurnee, Illinois.............................................. 12,000
Houston, Texas................................................ 2,115
East Hartford, Connecticut.................................... 14,900
Orlando, Florida.............................................. 3,778
Pittsburgh, Pennsylvania...................................... 1,100
St. Louis, Missouri........................................... 2,400
Standish, Maine............................................... 7,500
Syracuse, New York............................................ 7,800
Walpole, Massachusetts*....................................... 19,000
All properties are primarily utilized for the Laundry and Reprographics
divisions except for the facilities marked by an *, which are primarily
utilized by the MicroFridge(R) division.
Mac-Gray believes that its properties are generally well maintained and in
good condition. Mac-Gray believes that its properties are adequate for present
needs and that suitable additional or replacement space will be available as
required.
Item 3. Legal Proceedings
Mac-Gray is from time to time a party to litigation arising in the ordinary
course of business. There can be no assurance that Mac-Gray's insurance
coverage will be adequate to cover all liabilities resulting from such claims.
In the opinion of management, any liability that Mac-Gray might incur upon the
resolution of this litigation will not, in the aggregate, have a material
adverse effect on the financial condition or results of operations of Mac-
Gray.
Item 4. Submission of Matters to a Vote of Security Holders
There were no matters submitted to a vote of security holders during the
fourth quarter of fiscal year 1998.
5
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
Mac-Gray first issued its common stock ("Mac-Gray Common Stock") to the
public in October 1997. The Mac-Gray Common Stock is traded on the New York
Stock Exchange (the "NYSE") under the symbol "TUC." The following table sets
forth the high and low sales prices for Mac-Gray Common Stock on the NYSE.
Year ended Year ended
December 31, 1997(1) December 31, 1998
--------------------- -----------------
Sales Prices Sales Prices
--------------------- -----------------
High Low High Low
--------------------- --------- -------
First Quarter........................... $ -- $ -- $20 1/2 $15 3/8
Second Quarter.......................... -- -- 17 3/4 12 3/8
Third Quarter........................... -- -- 14 15/16 9
Fourth Quarter.......................... 15 7/8 13 11/16 12 1/2 7 3/4
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(1) The Mac-Gray Common Stock commenced trading on October 17, 1997.
As of March 30, 1999 there were 171 holders of record for Mac-Gray Common
Stock.
Mac-Gray does not currently pay dividends on Mac-Gray Common Stock. Mac-
Gray's Board of Directors (the "Mac-Gray Board") currently intends to retain
future earnings, if any, for the development of Mac-Gray's businesses and does
not anticipate paying cash dividends on Mac-Gray Common Stock in the
foreseeable future. Future determinations by the Mac-Gray Board to pay
dividends on Mac-Gray Common Stock would be based primarily upon the financial
condition, results of operations and business requirements of Mac-Gray.
Dividends, if any, would be payable in the sole discretion of the Mac-Gray
Board out of the funds legally available therefor. In addition, the payment of
dividends is restricted under Mac-Gray's credit facility.
6
Item 6. Selected Financial Data
Set forth below are selected historical financial data of Mac-Gray as of the
dates and for the periods indicated. The selected historical financial data of
Mac-Gray for the four years in the period ended December 31, 1998 were derived
from the historical consolidated financial statements of Mac-Gray that were
audited by PricewaterhouseCoopers LLP, whose report appears elsewhere in this
Report. The selected financial data set forth below should be read in
conjunction with, and are qualified by reference to, "Management's Discussion
and Analysis of Financial Condition and Results of Operations" and the audited
consolidated financial statements of Mac-Gray and the notes thereto included
elsewhere in this Report. On March 12, 1998, Mac-Gray acquired Intirion in a
transaction accounted for as a pooling of interests. The selected financial
data have been prepared to give retroactive effect to the pooling transaction
and include the accounts of Mac-Gray, Intirion and their respective wholly
owned subsidiaries.
Year ended December 31,
---------------------------------------------
1994 1995 1996 1997(1) 1998(2)
------- ------- ------- -------- --------
Statement of Income Data:
Revenue........................ $60,633 $66,352 $82,260 $104,847 $137,177
Cost of revenue
Commissions................... 19,168 20,471 25,760 31,717 41,699
Route expenditures............ 7,889 8,251 10,971 12,449 21,561
Depreciation and
amortization................. 4,822 5,455 7,060 9,725 13,349
Cost of equipment sales....... 11,110 12,234 15,408 22,021 24,828
------- ------- ------- -------- --------
Total cost of revenue......... 42,989 46,411 59,199 75,912 101,437
------- ------- ------- -------- --------
Operating expenses:
General and administration.... 4,070 5,804 5,939 6,923 7,003
Sales and marketing........... 5,134 6,455 7,718 10,181 10,333
Depreciation.................. 501 639 783 753 909
Merger-related costs.......... -- -- -- -- 1,144
------- ------- ------- -------- --------
Total operating expenses...... 9,705 12,898 14,440 17,857 19,389
------- ------- ------- -------- --------
Income from operations......... 7,939 7,043 8,621 11,078 16,351
Interest expense, net......... (1,300) (1,328) (2,354) (2,975) (3,920)
Other income (expense), net... 70 55 (87) 181 (122)
------- ------- ------- -------- --------
Income before provision for
income taxes.................. 6,709 5,770 6,180 8,284 12,309
Provision for income taxes(3).. (271) (400) (514) (5,228) (5,222)
------- ------- ------- -------- --------
Net income..................... $ 6,438 $ 5,370 $ 5,666 $ 3,056 $ 7,087
Accretion and dividends on
redeemable preferred stock.... -- 240 240 320 62
------- ------- ------- -------- --------
Net income available to common
stockholders.................. $ 6,438 $ 5,130 $ 5,426 $ 2,736 $ 7,025
======= ======= ======= ======== ========
Net income per common share--
basic......................... $ 0.85 $ 0.68 $ 0.72 $ 0.32 $ 0.56
======= ======= ======= ======== ========
Weighted average common shares
outstanding................... 7,554 7,554 7,554 8,449 12,524
======= ======= ======= ======== ========
Net income per common share--
diluted....................... $ 0.84 $ 0.67 $ 0.71 $ 0.31 $ 0.54
======= ======= ======= ======== ========
Weighted average common shares
outstanding--diluted.......... 7,686 7,686 7,686 8,709 12,926
======= ======= ======= ======== ========
Other Financial Data:
EBITDA(4)..................... $13,332 $13,192 $16,377 $ 21,737 $ 30,487
Depreciation and
amortization................. 5,323 6,094 7,812 10,481 14,258
Capital expenditures.......... 6,090 8,121 10,010 11,584 20,729
Cash flows provided by
operating activities......... 11,106 10,364 15,768 10,473 16,890
Cash flows used in investing
activities................... (6,024) (8,952) (24,338) (22,791) (70,270)
Cash flows provided by (used
in) financing activities..... (6,167) (589) 7,516 13,248 55,787
Balance Sheet Data (at end of
period):
Working capital............... $(3,726) $(3,311) $(8,489) $ (4,041) $ (2,840)
Total assets.................. 36,184 46,785 66,217 97,843 171,520
Long-term debt, net of current
portion...................... 13,919 12,125 23,473 5,395 69,664
Redeemable common and
preferred stock.............. -- 3,947 4,187 12,304 --
Stockholders' equity.......... 10,190 12,165 13,774 48,302 62,941
7
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(1) The financial data for the year ended December 31, 1997 includes the
results of Sun Services subsequent to the acquisition date of April 17,
1997.
(2) The financial data for the year ended December 31, 1998 includes the
results of Copico and Amerivend subsequent to the acquisition dates of
April 23, 1998 and April 24, 1998, respectively.
(3) See notes to consolidated financial statements for information concerning
the Company's income tax obligations.
(4) "EBITDA" is defined herein as income before provision for income taxes,
plus depreciation and amortization expense and interest expense. EBITDA
should not be considered as an alternative to net income as a measure of
operating results or as an alternative to cash flows as a measure of
liquidity and it is not a measure of performance or financial condition
under generally accepted accounting principles. EBITDA is presented
because Mac-Gray's management believes that certain investors may find it
to be a useful tool for measuring Mac-Gray's ability to meet its future
debt service obligations, make capital expenditures and satisfy working
capital requirements.
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
The following discussion and analysis should be read in conjunction with the
consolidated financial statements and related notes thereto presented
elsewhere in this Report.
Overview
Mac-Gray derives its revenue principally through the operation and
maintenance of amenities in multiple housing units, including laundry and
MicroFridge(R) products. Mac-Gray also operates card and coin-operated
reprographics equipment in academic and public libraries. Mac-Gray operates
laundry rooms, reprographics equipment and MicroFridge(R) equipment under
long-term leases with property owners, colleges and universities and
governmental agencies. Mac-Gray's Laundry services business consists of
approximately 158,000 laundry machines, operated in over 25,000 multiple
housing laundry rooms located in 29 states. Mac-Gray's reprographics business
consists of approximately 1,600 machines concentrated in the northeast,
Florida and Texas. Mac-Gray's MicroFridge(R) business consists of
approximately 42,000 leased units located throughout the United States as well
as sales of its MicroFridge(R) product line.
Mac-Gray also derives revenue as a distributor and servicer of commercial
laundry equipment manufactured by Maytag Corporation, and sells laundry
equipment manufactured by American Dryer, The Dexter Company, and Whirlpool
Corporation. Additionally, the Company sells or rents laundry equipment to
restaurants, hotels, health clubs and similar institutional users that operate
their own on-premise laundry facilities.
The MicroFridge(R) services division derives revenue through the sale and
rental of its MicroFridge(R) products to colleges and universities, military
bases, assisted living facilities and the hotel and motel market.
Acquisitions
On March 12, 1998, Mac-Gray completed its acquisition of Intirion, which has
been accounted for as a pooling of interests. Mac-Gray issued approximately
1,593,000 shares of common stock and paid $1.0 million in cash in exchange for
all of the outstanding equity securities of Intirion. Through Intirion, the
Company sells its proprietary MicroFridge(R) product which is a combination
refrigerator/freezer/microwave oven utilizing patented circuitry. The product
is marketed throughout the United States to colleges and universities, the
federal government, economy hotels and motels and to builders of assisted
living facilities. All of Intirion's products are manufactured by outside
suppliers. In addition, Intirion also rents its products on a year to year
basis to students living in college and university residence halls or through
long term leases directly with the universities.
On April 23, 1998, Mac-Gray acquired one hundred percent of the capital
stock of Copico for 250,000 shares of Mac-Gray common stock and $10.95 million
in cash, less the assumption of certain debt. Founded in
8
1978, Copico is a major provider of card and coin-operated reprographics
equipment and services to the academic and public library markets in New
England, New York, Florida and Texas. Copico provides and services copiers,
laser printers and microform reader-printers for the libraries of colleges,
universities and graduate schools. Copico also is the sole provider of
reprographics services to the New York public library system, as well as other
public libraries. Copico had revenues of approximately $7.1 million for its
fiscal year ended January 31, 1998 and has operations facilities in Canton,
Massachusetts, New York, New York, and Miramar, Florida.
On April 24, 1998, Mac-Gray acquired one hundred percent of the outstanding
capital stock of Amerivend Corporation and the assets of Amerivend Southeast
Corporation for approximately $33.5 million in cash, including the payment of
certain debt. Amerivend was a provider of card and coin-operated laundry
equipment in Florida and Georgia. Amerivend was also the principal distributor
of Maytag commercial laundry products in Alabama, Georgia and Florida. Founded
in 1959, Amerivend had 1997 revenues of $17.6 million and has offices in
Miami, Orlando, and Tampa, Florida and Austell, Georgia.
Mac-Gray funded the cash portion of the purchase price of these acquisitions
by drawing on the 1998 Senior Secured Credit Facility. See "Liquidity and
Capital Resources".
Recent Developments
On October 29, 1998 the Company's Board of Directors approved a Stock
Repurchase Plan under which Mac-Gray is authorized to acquire up to eight
million dollars ($8,000) of its outstanding Common Stock in the open market
during the 12 months ending October 1999. Under the Plan, shares may be
repurchased from time to time and in such amounts as market conditions
warrant, subject to regulatory considerations. The total number of shares
subject to repurchase under the Plan is subject to approval by Mac-Gray's
senior lenders. As of December 31, 1998 the Company had repurchased 62,100
shares at a total cost of approximately $706.
The Company issued 612,026 shares of redeemable common stock as a result of
the acquisition of Sun Services in 1997. On December 4, 1998 the Company was
notified that the put option on the 600,026 remaining shares of redeemable
common stock was being exercised. In January 1999, the Company paid to the
shareholder $7.6 million in exchange for the shares.
Year 2000
Year 2000 Information and Readiness Disclosure Act
The Company supports the exchange of information relating to the Year 2000
issue and designates the following information as the Year 2000 Readiness
Disclosure within the meaning of the Year 2000 Information and Readiness
Disclosure Act. Information set forth herein regarding the Year 2000
compliance of products and services other than those of the Company are
"republications" under the Year 2000 Information and Readiness Disclosure Act
and are based on information supplied by other companies about the products
and services they offer. The Company has not independently verified the
contents of these republications and takes no responsibility for the accuracy
or completeness of information contained in such republications.
The year 2000 or "Y2K" problem stems from the fact that many existing
computer systems use only two digits when they refer to a year. It is widely
believed that when the calendar rolls to 2000 at the end of 1999 those
computers and systems not updated to handle a four digit year will begin to
perform calculations where the "00" in 2000 is interpreted as 1900. The
Company is aggressively researching and testing potential year 2000 problems
within its software and systems. During 1998 the Company contracted with an
outside consultant to assist in the evaluation of Y2K preparedness. The
consultants findings and assessments are incorporated within this section.
Through the year ended December 31, 1998 the Company has not incurred
significant costs directly associated with Y2K evaluations and corrections.
The Company does not expect to incur significant costs moving forward to
rectify any Y2K issues.
9
Information systems
The Company utilizes numerous computer information systems to perform such
tasks as liability calculations, general accounting and financial analysis.
Some of these systems are not year 2000 compliant. The Company has maintenance
agreements with vendors, for certain systems, which provide for periodic
updates which, if not already compliant, should bring these systems into
compliance during the first half of 1999.
The Company also has several software systems that were developed
internally. These systems are in various stages of being updated to be in
compliance with year 2000 requirements. Based on current schedules it is
anticipated that this updating will be completed, tested, and operational
before the end of the third quarter of 1999. The software is primarily being
re-written by the Company's programming staff and the necessary resources have
been allocated from operating budgets to complete the process in a timely
manner. The Company has contracted with an outside consultant to assist in the
documentation and testing of the new systems. The Company estimates that this
process is approximately 25 percent complete as of December 31, 1998.
Third parties
The Company is making ongoing evaluations of year 2000 compliance with
significant third parties. Third parties include vendors, customers, and
outside service providers with whom the Company has material relationships.
While the Company expects its year 2000 issues to be successfully resolved it
cannot guarantee that the year 2000 issues of third parties will not
negatively impact Mac-Gray's financial condition.
The Company is working with its primary vendors to identify and resolve any
year 2000 compliance issues. At this time no issues have been identified and
the Company does not foresee any significant issues developing. Should any
year 2000 issues arise with any primary vendors that result in extended delays
of shipments of equipment to the Company, the Company could be forced to delay
the installation or sale of equipment. The Company could also be forced to
delay required maintenance where parts are required. The Company believes that
this process is approximately 80 percent complete as of December 31, 1998. The
Company expects to confirm the year 2000 readiness of all primary vendors
before the end of the second quarter of 1999.
The Company believes that most of its customer's will not be materially
impacted by year 2000 issues. Those customers who may be impacted consist
primarily of finance companies and other commercial lending institutions
through which the Company often receives payment on significant equipment
sales. The Company does not foresee any significant problems with these
companies and is working with them to resolve any potential problems. The
Company believes that in the event any or all finance companies suffer
problems due to non-compliance with year 2000 issues, the Company may
experience a delay in payment on sales for which products have already been
delivered. While these sales may be individually significant they are not
material to the overall results of operations of the Company. At the present
time the Company believes the process is approximately 75 percent complete.
The Company expect to confirm the year 2000 readiness of its primary customers
before the end of the second quarter of 1999.
Embedded systems
The Company has invested heavily in smart card technology. Smart card
technology includes software and hardware systems that the Company uses to
provide cashless interaction with laundry, reprographics, vending, and door
access equipment. The software and hardware systems include credit card sized
devices with embedded CPU's and related equipment which can add value or
authorize use through various electronic reading devices installed in or near
the related amenities. The Company is working with its suppliers to ensure
that the current technology is year 2000 compliant and at this time does not
foresee any problems. The Company does not expect to incur significant costs
to resolve any issues in this area and expects to confirm the year 2000
readiness of its smart card technology by the end of the second quarter of
1999. The Company estimates that this process is approximately 80 percent
complete as of December 31, 1998.
The Company does not presently have any contingency plans in place for
unresolved year 2000 issues. At this time all identified year 2000 issues are
being resolved under timelines which the Company believes will
10
more than adequately provide for unknown matters and delays. Should any issues
be identified in the coming months which the Company believes could remain
unresolved into the latter stages of 1999, the Company will begin to develop
contingency plans. Such contingency plans may include increasing inventories
to prevent delays in new equipment installations, and the temporary addition
of staff to facilitate manual processing of information.
Results of Operations (Dollars in thousands)
Due to the differing year ends of Mac-Gray and Intirion prior to the
combination, the year ended December 31, 1997 represents consolidated results
for the period from January 1997 through December 1997 for Mac-Gray
consolidated with the results for the period from July 1996 through June 1997
for Intirion.
Fiscal year ended December 31, 1998 compared to fiscal year ended December
31, 1997
Revenue. Revenue increased by $32,330, or 31%, to $137,177 for the year
ended December 31, 1998 from the year ended December 31, 1997. This increase
is related to an increase in route revenue, which is made up of money
collected through card and coin-operated equipment, of $26,149, or 39%, due to
the expansion of existing operations and the additional revenues from route
businesses acquired during 1998. Sales revenue increased $4,865, or 15%, from
the year ended December 31, 1997. This increase is primarily a result of
entering into new long-term lease contracts to provide MicroFridge(R) and
Laundry products which have been recorded as sales type leases during 1998.
Commissions. Commissions increased by $9,982 or 31%, to $41,699 for the year
ended December 31, 1998 from year ended December 31, 1997. This overall
increase was primarily attributable to an increase in route revenue, since
commissions are generally paid based upon a percentage of revenue earned in
the Company's route locations. The slower rate of increase relative to route
revenue was attributable to average commission rates on accounts acquired
through acquisition during 1998 being lower than on accounts which existed in
1997. The Company believes that it is likely that overall commissions relative
to revenue will stabilize during the next few quarters and then adjust
proportionately with route revenue.
Route Expenditures. Route expenditures include costs associated with
installing and servicing machines, as well as the costs of collecting,
counting and depositing the revenue. Route expenditures increased by $9,112,
or 73%, to $21,561 for the year ended December 31, 1998 from the year ended
December 31, 1997. The increase was due, in part, to the general increase in
revenue, which resulted in increased servicing, collecting, counting and
depositing activity, and to the addition of branch locations as a result of
acquisitions. The increase was also attributable to acquisitions made during
1998 for which the fixed and variable cost mix associated with route
expenditures is different and causes increases in route expenditures relative
to route revenue to rise during the slower periods of the year, including June
through August.
Depreciation and Amortization. Depreciation and amortization include amounts
included as a component of cost of revenue, and amounts included as an
operating expense. Aggregate depreciation and amortization increased by
$3,780, or 36%, to $14,258 for the year December 31, 1998 from year ended
December 31, 1997. The increase was primarily attributable to the acquisitions
of businesses during 1998 which resulted in additional machines to depreciate,
as well as an increase in amortization. Depreciation also increased as a
result of the increase in the Company's machine base due to internal growth.
Cost of Product Sales. Cost of product sales increased $2,807, or 13%, to
$24,828 for the year ended December 31, 1998 from the year ended December 31,
1997. This increase was consistent with an overall increase in sales revenue.
Merger Related Costs--Merger related costs of $1,144 were recognized during
the year ended December 31, 1998. These costs included legal, accounting,
severance, and other costs directly associated with the Intirion pooling
transaction.
11
Interest Expense. Interest expense, net of interest income, increased by
$945, or 32%, to $3,920 for the year ended December 31, 1998 from year ended
December 31, 1997 This increase is primarily related to an increase in
outstanding borrowings which are primarily related to the significant
acquisition activity during 1998.
Provision for Income Tax. The effective tax rate decreased from 63% to 42%
from the year ended December 31, 1997 to the year ended December 31, 1998.
This decrease is primarily related to significant deferred tax expenses
recognized during the fourth quarter of 1997 resulting from the Company's
change from a S corporation to a C corporation for income tax purposes. The
provision for income tax in 1998 is higher than the Company's statutory tax
rate due to non-deductible expenditures made in 1998 as a result of certain of
the Company's acquisitions. These expenditures include merger related costs
and goodwill expensed in 1998 that is not deductible for tax purposes. The
results of operations for the year ended December 31, 1998 include a tax
benefit of $370 due to the release of a valuation allowance on certain tax
assets available for use by Intirion. Based on the results of operations of
Intirion subsequent to the combination, management believes that it is more
likely than not that such assets will be realized.
Fiscal year ended December 31, 1997 compared to fiscal year ended December
31, 1996
Revenue. Revenue increased by $22,587, or 27%, to $104,847 in 1997 from
$82,260 in 1996. This increase was primarily attributable to growth in
existing laundry route revenue, the Sun Services Acquisition and the impact of
a full year's operation of businesses acquired in 1996. Laundry route revenue
increased $12,535, due to the expansion of existing operations and to an
increase in the number of machines operated as a result of several
acquisitions of laundry route businesses subsequent to March 31, 1996. Product
sales increased by $9,115, due to growth of revenue from existing
distributorships and the distributorships acquired during 1996 and 1997 and
due to increased sales of MicroFridge(R) products to all market segments. Mac-
Gray believes that its increased focus on sales and marketing efforts since
mid-1996 has had a significant impact on the growth of revenue from existing
laundry routes and distributorships.
Commissions. Commissions increased by $5,957, or 23%, to $31,717 in 1997
from $25,760 in 1996. This increase was primarily attributable to an increase
in laundry route revenue, since commissions are generally paid based upon a
percentage of laundry route revenue.
Route Expenditures. Route expenditures, which are primarily variable
expenses which change with the increases and decreases in revenue and include
costs associated with installing and servicing machines, as well as the costs
of collecting, counting and depositing the revenue, increased by $1,478, or
13%, to $12,449 in 1997 from $10,971 in 1996. This increase was due to the
general increase in revenue, which resulted in increased servicing,
collecting, counting and depositing activity, increased levels of expenses
associated with improving service in some of the acquired businesses, and
other associated costs.
Depreciation and Amortization. Depreciation and amortization includes
depreciation and amortization included as a component of cost of revenue, as
well as depreciation which is included as an operating expense. Aggregate
depreciation and amortization increased by $2,635, or 34%, to $10,478 in 1997
from $7,843 in 1996. This increase was primarily attributable to the
acquisition of several laundry route businesses in 1996 and 1997, which
resulted in additional machines to depreciate, as well as an increase in
intangible assets to amortize, and the placement of additional machines at
existing locations.
Cost of Product Sales. Cost of product sales increased by $6,613, or 43%, to
$22,021 in 1997 from $15,408 in 1996. This increase was a direct result of
increased product sales.
General and Administration. General and administration expenses increased by
$984, or 17%, to $6,923 in 1997 from $5,939 in 1996. This increase was
attributable to an increase in professional fees and to the hiring of
additional clerical and administrative staff to support the growth in Mac-
Gray's business.
12
Sales and Marketing. Sales and marketing expense increased by $2,463, or
32%, to $10,181 in 1997 from $7,718 in 1996. This increase was attributable to
the expansion of the marketing department, led by the hiring of an experienced
national marketing executive in the third quarter of 1996, and an increase in
the number of field sales representatives.
Interest Expense. Interest expense, net of interest income, increased by
$621, or 26%, to $2,975 in 1997 from $2,354 in 1996. This increase was
primarily attributable to the increased borrowings incurred to finance the
acquisitions made during 1996 and 1997 and to the increase in product
purchases. Interest expense was minimal subsequent to the IPO because a
portion of the net proceeds from that offering was used to repay the existing
indebtedness under the old credit facility, as further described below.
Provision for Income Taxes. The provision for income taxes increased by
$4,714 to $5,228 in 1997 from $514 in 1996 due to the termination of Mac-
Gray's S corporation status concurrent with the IPO. Upon termination of the S
corporation status, Mac-Gray became subject to federal and state income taxes,
with a statutory rate of approximately 40%. As a result, Mac-Gray recognized a
non-recurring charge to income tax expense of approximately $4,037 in October
1997, representing additional net deferred tax liabilities as of the date the
S corporation election was terminated. As the historical income tax provision
for Mac-Gray prior to the termination of the S corporation status was
established only to provide for income taxes in states that do not recognize
Subchapter S corporations, the income tax provision recorded in 1997 was
significantly higher than the amount recorded in 1996.
Seasonality
The Company experiences moderate seasonality as a result of its significant
operations in the college and university market. Revenues derived from the
college and university market represent approximately twenty-five percent
(25%) of the Company's total revenue. Route and rental revenues are derived
substantially during the school year that includes the first, second and
fourth calendar quarters. Conversely, the Company increases its operating
expenditures during the third calendar quarter when colleges and universities
are not in session as a result of Mac-Gray's increased product installation
activities. Product sales, principally MicroFridge(R), to this market are also
high during the third calendar quarter.
Liquidity and Capital Resources (In thousands)
Mac-Gray's primary sources of cash since December 31, 1997 have been
operating activities and bank borrowings. The Company's primary uses of cash
have been business acquisitions and capital expenses including the purchase of
new laundry machines, MicroFridge(R) equipment, reprographics equipment and
smart card based payment systems. The Company anticipates that it will
continue to use cash flow from its operating activities to finance working
capital needs, including interest payments on any outstanding indebtedness, as
well as capital expenditures. Funds available under the 1998 Senior Secured
Credit Facility were used as needed to finance the acquisitions of Amerivend
and Copico. The Company also anticipates that it will use additional funds
available to it under the 1998 Senior Secured Credit Facility to finance
additional acquisitions, significant capital expenditures, the stock buyback
program and, as needed, working capital.
Cash flows provided by operations were $15,768, $10,473 and $16,890 for
years December 31, 1996, 1997 and 1998, respectively. Cash flow from
operations consists primarily of route revenue, product sales, laundry
equipment service revenue, and rental revenue, offset by commissions, route
expenditures, cost of product sales, cost of rental revenue, general and
administration expenses and sales and marketing expenses. The Company also
incurred costs as a result of the Mac-Gray and Intirion pooling of interests
transaction. The increase from 1997 to 1998 is attributable to an overall
improvement in the Company's financial performance which is further enhanced
by an increase in depreciation and amortization which is a non-cash expense.
Cash used in investing activities was $24,338, $22,791 and $70,270 for years
December 31, 1996, 1997 and 1998, respectively. Mac-Gray invested
approximately $51,286, in connection with 1998 acquisitions,
13
primarily Amerivend and Copico, compared to $12,196 and $14,487 for
acquisitions in 1997 and 1996, respectively. Capital expenditures were
$10,010, $11,584 and $20,729 for years December 31, 1996, 1997 and 1998,
respectively.
Cash flows from financing activities were $7,516, $13,248 and $55,787 for
years December 31, 1996, 1997 and 1998, respectively. Financing activities for
those periods consist primarily of proceeds from and repayments of bank
borrowings, capital stock transactions, and payments of dividends. The
increase in 1998 is principally a result of borrowings used to fund the
Amerivend and Copico acquisitions in 1998.
On April 23, 1998, the Company refinanced the amounts outstanding under the
1997 Credit Facility with the proceeds of the 1998 Senior Secured Credit
Facility. The 1998 Senior Secured Credit Facility provides for borrowings
under a revolving line of credit of up to $90,000, and converts to a term loan
after three years. The term loan has a weighted five year amortization
schedule with a balloon payment due after the second year of the term loan.
Outstanding indebtedness under the 1998 Senior Secured Credit Facility bears
interest at the Company's option, at a rate equal to the prime rate minus .5%
or LIBOR plus the applicable margin (either (i) 1.5% for loans outstanding
which aggregate less than $50,000, or (ii) 1.75% for loans outstanding which
exceed $50,000), or the Cost of Funds (COF) rate plus the applicable margin.
At December 31, 1998 the average interest rate on the outstanding balance was
approximately 6.7%. The 1998 Senior Secured Credit Facility imposes certain
financial and operational covenants on the Company, including restrictions on
indebtedness, certain capital expenditures, investments and acquisitions and
on the Company's ability to pay dividends, to make distributions and
repurchase stock. The 1998 Senior Secured Credit Facility is secured by a
blanket lien on the assets of the Company and each of its subsidiaries, as
well as a pledge by the Company of all of the capital stock of its
subsidiaries. The Company was in compliance with, or had received waivers for
non-compliance with, the terms of the credit agreement as of December 31,
1998.
In connection with the acquisition of Sun Services of America, Inc. in April
1997, the Company issued 612,026 shares of redeemable common stock to the
owner of Sun Services. The Company was obligated to repurchase shares of
Common Stock at a price of $12.74 per share in the event the holder of such
shares elected to exercise such rights. These rights expire on October 22,
2000. In December 1998, the shareholder indicated his wish to exercise the
rights remaining under this option agreement. In January 1999, the Company
paid to the shareholder $7,644 in exchange for the shares remaining under the
agreement. This disbursement was paid using funds drawn on the 1998 Senior
Secured Credit Facility.
The Company believes that the amount available under the 1998 Senior Secured
Credit Facility and cash flow generated by operations will be sufficient to
fund the Company's normal working capital needs and capital expenditures for
the foreseeable future. In addition, to the extent that the Company were to
borrow all amounts then available to it under the 1998 Senior Secured Credit
Facility in connection with one or more acquisitions or in connection with
significant capital expenditures, either in the short-term or in the long-
term, management believes that cash generated from operating activities will
be sufficient to fund the Company's operating expenses and debt service needs
for the foreseeable future. Additional financing, under the 1998 Senior
Secured Credit Facility or otherwise, may, however, be required in connection
with an acquisition or acquisitions which the Company may consummate in the
future. To the extent that any such additional financing was needed, and could
not be obtained on terms favorable to the Company, if at all, the Company's
ongoing capital improvement efforts and acquisition activity would likely be
reduced or delayed as cash generated from operating activities is used for
operating expenses and debt service.
Inflation
The Company does not believe that its financial performance has been
materially affected by inflation.
Forward-Looking Statements
This Management's Discussion and Analysis contains statements which are not
historical facts and are considered "forward-looking" within the meaning of
the Private Securities Litigation Reform Act of 1995.
14
These forward-looking statements involve a number of risks and uncertainties
that may cause actual results to differ materially from expected results.
These risks and uncertainties include, but are not limited to, the following:
business conditions and growth of industries in which the Company competes,
including changes in economic conditions in the geographic areas where the
Company's operations exist or products are sold; competitive factors, such as
price competition and new product introductions; the cost and availability of
products; impact of business acquisitions or dispositions; the cost of
complying with governmental regulations; level of share repurchases;
litigation and other risk factors discussed in Mac-Gray's filings with the
Securities and Exchange Commission. These forward-looking statements are
identified by their use of terms and phrases such as "expects," "plans," or
"may impact."
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
The Company is exposed to a variety of risks, including changes in interest
rates on its borrowings. In the normal course of its business, the Company
manages its exposure to these risks as described below. The Company does not
engage in trading market risk sensitive instruments for speculative purposes.
Interest Rates--As of December 31, 1998, the Company had outstanding
borrowings that had both fixed and variable interest rates. The Company, at
its discretion, has the ability to lock rates on portions of its floating
interest debt for fixed periods of time. As such the Company believes it is
somewhat protected from adverse movements in the floating interest rate. The
Company currently locks rates for periods ranging from six months to one year.
The table below provides information about the Company's debt obligations
that are sensitive to changes in interest rates. For debt obligations, the
table presents principal cash flows and related weighted average interest
rates by expected maturity dates. The fair market value of long-term debt
approximates the book value at December 31, 1998.
December 31, 1998
Expected maturity date (In thousands)
-------------------------------------------------------
There-
1999 2000 2001 2002 2003 after Total
---- ------ ------- ------- ------- ------ -------
Long-term Debt:
Fixed Rate............. $707 $1,369 $ 856 $ 591 $ 112 $309 $ 3,944
Average interest rate.. 7.4% 7.6% 7.4% 6.5% 8.0% 8.0%
Variable Rate.......... $726 $ 718 $13,142 $32,841 $19,710 $ 16 $67,153
Average interest rate.. 9.0% 9.0% 6.8% 6.8% 6.8% 9.0%
Item 8. Financial Statements and Supplementary Data
Financial statements and supplementary data are contained in pages F-1
through F-24 hereto.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
PART III
Item 10. Directors and Executive Officers of the Registrant
Item 11. Executive Compensation
Item 12. Security Ownership of Certain Beneficial Owners and Management
15
Item 13. Certain Relationships and Related Transactions
The information required by Items 10, 11, 12 and 13 is included in the
Company's definitive proxy statement for its 1999 Annual Meeting of
Stockholders which will be filed with the Securities and Exchange Commission by
April 30, 1999 and which is incorporated herein by reference.
PART IV
Item 14. Exhibits, Financial Statements, Schedules and Reports on Form 8-K
(a)(1)(2) An Index of Financial Statements and Schedules is on page F-1 of
this Report.
(a)(3) Exhibits
See attached exhibit listing on pages 17 and 18.
(b) Reports on Form 8-K
On November 13, 1998, the Company filed a Form 8-K to announce the
appointment of Michael J. Shea as Executive Vice President and Chief Financial
Officer.
On November 17, 1998, the Company filed a Form 8-K to present restated 1997
financial statements as a result of the pooling of interests with Intirion.
On December 11, 1998, the Company filed a Form 8-K to announce that the
Company would repurchase 600,000 shares of its redeemable common stock in
January 1999.
16
(a)(3) Exhibits:
Certain exhibits indicated below are incorporated by reference to documents
of Mac-Gray on file with the Commission. Each exhibit marked by a cross (+)
was previously filed as an exhibit to Mac-Gray's Registration Statement on
Form S-1 (No. 333-33669) and the number in parentheses following the
description of the exhibit refers to the exhibit number in the Form S-1. Each
exhibit marked by an asterisk (*) was previously filed as an exhibit to Mac-
Gray's Registration Statement on Form S-4 (No. 333-45899) and the number in
parentheses following the description of the exhibit refers to the exhibit
number in the Form S-4. Each exhibit marked by a (z) was previously filed as
an exhibit to Mac-Gray's Registration Statement on Form S-3, as amended (No.
333-49795) and the number in parentheses following the description of the
exhibit refers to the exhibit number in the Form S-3. The following is a
complete list of exhibits filed or incorporated by reference as part of this
Annual Report on Form 10-K.
2.1 Agreement and Plan of Merger, dated as of December 22, 1997, by and
among Mac-Gray Corporation, MI Acquisition Corp., Intirion Corporation
and Robert P. Bennett (2.1).*
2.2 Stock Purchase Agreement, dated as of March 31, 1998, by and among
Mac-Gray Services, Inc., Copico, Inc. and the stockholders of Copico,
Inc. (10.20).z
2.3 Stock and Asset Purchase Agreement, dated as of March 4, 1998, by and
among Mac-Gray Services, Inc., Amerivend Corporation, Amerivend
Southeast Corporation, Gerald E. Pulver and Gerald E. Pulver Grantor
Retained Annuity Trust. (10.24).*
3.1 Amended and Restated Certificate of Incorporation (3.1).+
3.2 By-laws (3.2).+
4.1 Specimen certificate for shares of Common Stock, $.01 par value, of
the Registrant (4.1).+
10.1 Stockholders' Agreement dated as of April 17, 1997 by and among the
Registrant and certain stockholders of the Registrant (10.1).+
10.2 Stockholders' Agreement dated as of June 26, 1997 by and among the
Registrant and certain stockholders of the Registrant (10.2).+
10.3 Agreement and Plan of Merger dated as of April 17, 1997 by and among
the Registrant and the other parties named therein (10.3).+
10.4 Credit Agreement dated April 23, 1998, by and among the Registrant,
the other Borrowers (as defined therein), the lenders named therein
and State Street Bank and Trust Company, as agent (10.4).*
10.5 Security Agreement dated as of April 23, 1998 by and among the
Registrant, the other Borrowers (as defined therein) and the Banks (as
defined therein) (10.5).*
10.6 Revolving Line of Credit Note dated April 23, 1998 issued by the
Registrant in favor of the Banks (as defined therein) (10.6).*
10.7 Pledge Agreement dated as of April 23, 1998 by and among the
Registrant and the Banks (as defined therein) (10.7).*
10.8 Confidentiality and Noncompetition Agreement dated as of September 4,
1990, as amended on March 25, 1993, by and between the Registrant and
Caldwell and Gregory, Inc. (10.8).+
10.9 Consulting Agreement dated as of April 17, 1997 by and among the
Registrant and Jeffrey C. Huenink (10.9).+
10.10 Noncompetition Agreement dated as of April 17, 1997 by and among
Registrant and Jeffrey C. Huenink (10.10).+
10.11 Form of Noncompetition Agreement between the Registrant and its
executive officers (10.11).+
10.12 Form of Maytag Licensing Agreement for "Red Carpet Service" (10.12).+
10.13 Form of Maytag Distributorship Agreements (10.13).+
10.14 Promissory Note dated December 31, 1992 issued by the Registrant in
favor of Donald M. Shaw (10.14).+
17
10.15 Consulting and Noncompete Agreement dated December 31, 1992 by and
between Donald M. Shaw and the Registrant (10.15).+
10.16 The Registrant's 1997 Stock Option and Incentive Plan (with form of
option agreements attached as exhibits) (10.16).+
10.17 Form of Director Indemnification Agreement between the Registrant and
each of its Directors (10.17).+
10.18 Form of Registration Rights Agreement by and among the Registrant,
Robert P. Bennett, Gelco Corporation, Eastech II Limited Partnership
and Eastech III Limited Partnership (10.18).*
10.19 Form of Escrow Agreement by and among the Registrant, Gelco
Corporation, Michael Shanahan, the former securityholders of Intirion
Corporation and State Street Bank and Trust Company, as escrow agent
(10.19).*
10.20 Form of Noncompetition Agreement by and between the Registrant and
Robert P. Bennett (10.22).*
10.21 Distribution Agreement by and between Schlumberger Technologies, Inc.
and Mac-Gray Services, Inc., dated as of October 27, 1997 (certain
portions of this exhibit were omitted pursuant to the grant of a
request for confidential treatment) (10.23).*
10.22 Registration Rights Agreement dated April 23, 1998 by and among Mac-
Gray Corporation, Peter B. Finn, Edward J. Goulart, Ronald R. Jalbert,
Robert W. LaRoche, David Luongo, Joseph J. Tischler and Massachusetts
Capital Resource Company (10.1).z
21.1 Subsidiaries of the Registrant (21.1).z
23.1 Consent of PricewaterhouseCoopers LLP.
27.1 Financial Data Schedule.
18
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized, this 31st day of
March, 1999.
Mac-Gray Corporation
By: /s/ Stewart Gray MacDonald, Jr.
---------------------------------
Stewart Gray MacDonald, Jr.
Chairman and Chief Executive
Officer (Principal Executive
Officer)
Date: March 31, 1999
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ Michael J. Shea Executive Vice President, March 31, 1999
- -------------------------------------- Chief Financial Officer
Michael J. Shea and Treasurer (Principal
Financial and Accounting
Officer)
/s/ Jerry A. Schiller Director March 31, 1999
- --------------------------------------
Jerry A. Schiller
/s/ John P. Leydon Director March 31, 1999
- --------------------------------------
John P. Leydon
/s/ Eugene B. Doggett Director March 31, 1999
- --------------------------------------
Eugene B. Doggett
19
Items 14(a)(1) and (2)
INDEX TO FINANCIAL STATEMENTS AND SCHEDULES
The following consolidated financial statements of the registrant and its
subsidiaries required to be included in Item 8 are listed below.
MAC-GRAY CORPORATION
Report of Independent Accountants....................................... F-2
Consolidated Balance Sheets at December 31, 1997 and 1998............... F-3
Consolidated Income Statements for the Years Ended December 31, 1996,
1997 and 1998.......................................................... F-4
Consolidated Statement of Stockholders' Equity for the Years Ended
December 31, 1996, 1997, and 1998...................................... F-5
Consolidated Statements of Cash Flows for the Years Ended December 31,
1996, 1997 and 1998.................................................... F-6
Notes to Consolidated Financial Statements.............................. F-7
The following consolidated financial statement schedules of Mac-Gray
Corporation are included in Item 14 (a)(2) and should be read in conjunction
with the financial statements included herein.
Schedule II Valuation and Qualifying Accounts........................... F-24
All other schedules for which provision is made in the applicable accounting
regulations of the Security and Exchange Commission are not required under the
related instructions or are not material, and therefore have been omitted.
F-1
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Stockholders of Mac-Gray Corporation:
In our opinion, the consolidated financial statements listed in the
accompanying index present fairly, in all material respects, the financial
position of Mac-Gray Corporation and its subsidiaries (the "Company") at
December 31, 1998 and 1997, and the consolidated results of their operations
and their cash flows for each of the three years in the period ended December
31, 1998, in conformity with generally accepted accounting principles. 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 audits. We conducted our audits of these statements in accordance with
generally accepted auditing standards which 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, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for the
opinion expressed above.
PricewaterhouseCoopers LLP
Boston, Massachusetts
February 22, 1999
F-2
MAC-GRAY CORPORATION
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
December 31,
-----------------
1997 1998
------- --------
Assets
Current assets:
Cash and cash equivalents................................. $ 3,774 $ 6,181
Trade receivables, net of allowance for doubtful
accounts................................................. 6,570 8,298
Inventory of finished goods............................... 7,208 5,266
Deferred income taxes..................................... 571 487
Prepaid expenses and other current assets................. 2,377 6,241
------- --------
Total current assets.................................... 20,500 26,473
Property, plant and equipment, net........................ 43,615 69,208
Intangible assets, net.................................... 28,648 65,249
Prepaid commissions and other assets...................... 5,080 10,590
------- --------
Total assets............................................ $97,843 $171,520
======= ========
Liabilities, Redeemable Stock and Stockholders' Equity
Current liabilities:
Current portion of long-term debt......................... $ 7,922 $ 1,433
Current portion of capital lease obligations.............. 476 1,011
Redeemable common stock (Note 3).......................... -- 7,644
Trade accounts payable.................................... 7,825 4,950
Accrued commissions....................................... 5,585 7,133
Accrued expenses.......................................... 2,631 3,756
Deferred revenues and deposits............................ 102 3,386
------- --------
Total current liabilities............................... 24,541 29,313
Long-term debt.............................................. 5,395 69,664
Long-term capital lease obligations......................... 491 895
Deferred income taxes....................................... 5,329 7,472
Deferred retirement obligation.............................. 1,052 957
Other liabilities........................................... 429 278
Commitments and contingencies (Note 16)..................... -- --
Redeemable common stock..................................... 7,797 --
Senior redeemable preferred stock........................... 4,507 --
Stockholders' equity:
Preferred stock of Mac-Gray Corporation ($.01 par value, 5
million shares authorized, no shares outstanding)........ -- --
Common stock of Mac-Gray Corporations ($.01 par value, 30
million shares authorized, 12,843,728 issued and
12,781,628 outstanding at December 31, 1998 and
12,285,568 shares issued and outstanding December 31,
1997..................................................... 123 128
Additional capital........................................ 52,524 60,896
Retained earnings (accumulated deficit)................... (4,345) 2,623
------- --------
48,302 63,647
Less common stock in treasury, at cost, 62,100 shares..... -- (706)
------- --------
Total stockholders' equity.............................. 48,302 62,941
------- --------
Total liabilities, redeemable stock and stockholders'
equity..................................................... $97,843 $171,520
======= ========
The accompanying notes are an integral part of these financial statements
F-3
MAC-GRAY CORPORATION
CONSOLIDATED INCOME STATEMENTS
(In thousands, except per share data)
Years Ended December 31,
---------------------------
1996 1997 1998
------- -------- --------
Revenue:
Route revenue.................................. $54,589 $ 67,124 $ 93,273
Sales revenue.................................. 23,619 32,734 37,599
Other.......................................... 4,052 4,989 6,305
------- -------- --------
Total revenue................................ 82,260 104,847 137,177
------- -------- --------
Cost of revenue:
Commissions.................................... 25,760 31,717 41,699
Route expenditures............................. 10,971 12,449 21,561
Depreciation and amortization.................. 7,060 9,725 13,349
Cost of product sales.......................... 15,408 22,021 24,828
------- -------- --------
Total cost of revenue........................ 59,199 75,912 101,437
------- -------- --------
Gross Margin..................................... 23,061 28,935 35,740
Operating expenses:
General and administration..................... 5,939 6,923 7,003
Sales and marketing............................ 7,718 10,181 10,333
Depreciation and amortization.................. 783 753 909
Merger-related costs........................... -- -- 1,144
------- -------- --------
Total operating expenses..................... 14,440 17,857 19,389
------- -------- --------
Income from operations........................... 8,621 11,078 16,351
Interest expense, net.......................... (2,354) (2,975) (3,920)
Other income (expense), net.................... (87) 181 (122)
------- -------- --------
Income before provision for income taxes....... 6,180 8,284 12,309
Provision for income taxes..................... (514) (5,228) (5,222)
------- -------- --------
Net income....................................... $ 5,666 $ 3,056 $ 7,087
------- -------- --------
Accretion and dividends on redeemable preferred
stock........................................... 240 320 62
------- -------- --------
Net income available to common stockholders...... $ 5,426 $ 2,736 $ 7,025
======= ======== ========
Net income per common share--basic............... $ 0.72 $ 0.32 $ 0.56
======= ======== ========
Weighted average common shares outstanding....... 7,554 8,449 12,524
======= ======== ========
Net income per common share--diluted............. $ 0.71 $ 0.31 $ 0.54
======= ======== ========
Weighted average common shares outstanding--
diluted......................................... 7,686 8,709 12,926
======= ======== ========
The accompanying notes are an integral part of these financial statements
F-4
MAC-GRAY CORPORATION
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(In thousands, except share data)
Common stock Treasury Stock
----------------- Retained Net unrealized ------------------
Number of Additional earnings gains (losses) on Number
shares Value capital (deficit) security, net of tax of shares Cost Total
---------- ----- ---------- --------- -------------------- --------- ------- --------
Balance, December 31,
1995................... 1,472,043 $ 167 $ 2,498 $ 17,471 $ 290 52,000 $(8,384) $ 12,042
Net income available to
common stockholders... -- -- -- 5,426 -- -- -- 5,426
Net change in
unrealized gains
(losses) on available-
for-sale securities,
net of tax............ -- -- -- -- (32) -- -- (32)
--------
Comprehensive income.... 5,394
Dividends.............. -- -- -- (4,520) -- -- -- (4,520)
Common stock
redemption............ -- -- -- -- -- 2,275 (546) (546)
Contribution of
capital............... -- -- 1,404 -- -- -- -- 1,404
---------- ----- ------- -------- ----- -------- ------- --------
Balance, December 31,
1996................... 1,472,043 167 3,902 18,377 258 54,275 (8,930) 13,774
---------- ----- ------- -------- ----- -------- ------- --------
Net income available to
common stockholders... -- -- -- 2,736 -- -- -- 2,736
Net change in
unrealized gains
(losses) on available-
for sale securities,
net of tax............ -- -- -- -- (258) -- -- (258)
--------
Comprehensive income.... 2,478
Elimination of capital
structure (Note 1).... (154,275) (154) (2,413) (6,363) -- (54,275) 8,930 --
Reorganization of the
Company (Note 1)...... 6,367,800 64 -- (64) -- -- -- --
Sale of Common stock
(Note 4).............. 4,600,000 46 45,128 -- -- -- -- 45,174
Contribution of capital
(Note 4).............. -- -- 5,907 (5,907) -- -- -- --
Dividends.............. -- -- -- (13,124) -- -- -- (13,124)
---------- ----- ------- -------- ----- -------- ------- --------
Balance, December 31,
1997................... 12,285,568 123 52,524 (4,345) -- -- -- 48,302
---------- ----- ------- -------- ----- -------- ------- --------
Net income available to
common stockholders
(comprehensive
income)............... -- -- -- 7,025 -- -- -- 7,025
Inclusion of Intirion's
net equity activity
for the six months
ended December 31,
1997.................. -- -- (13) 15 -- -- -- 2
Exchange of Intirion
preferred shares for
Mac-Gray common
stock................. 275,224 3 3,821 -- -- -- -- 3,824
Shares of Mac-Gray
common stock issued in
connection with the
Copico acquisition.... 250,000 2 4,216 -- -- -- -- 4,218
Intirion dividends
paid.................. -- -- -- (72) -- -- -- (72)
Options exercised...... 20,936 -- 187 -- -- -- -- 187
Tax benefit associated
with exercise of
certain options....... -- -- 8 -- -- -- -- 8
Repurchase of common
stock................. (62,100) -- -- -- -- 62,100 (706) (706)
Expiration of put
rights on redeemable
common stock.......... 12,000 -- 153 -- -- -- -- 153
---------- ----- ------- -------- ----- -------- ------- --------
Balance, December 31,
1998................... 12,781,628 $ 128 $60,896 $ 2,623 $ -- 62,100 $ (706) $ 62,941
========== ===== ======= ======== ===== ======== ======= ========
The accompanying notes are an integral part of these financial statements
F-5
MAC-GRAY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Years Ended December 31,
----------------------------
1996 1997 1998
-------- -------- --------
Cash flows from operating activities:
Net income..................................... $ 5,666 $ 3,056 $ 7,087
Adjustments to reconcile net income to net cash
flows provided by operating activities:
Depreciation and amortization................ 7,812 10,481 14,258
Allowance for doubtful accounts.............. 35 136 (199)
Loss (gain) on sale of assets................ 11 (178) 49
Deferred income taxes........................ 60 4,235 2,227
Increase in accounts receivable.............. (2,242) (2,041) (1,220)
Decrease (increase) in inventory............. 827 (2,149) 3,808
Increase in prepaid expenses and other
assets...................................... (1,331) (3,009) (10,681)
Increase (decrease) in accounts payable,
accrued commissions and accrued expenses.... 4,889 (65) 588
Increase in deferred revenues and customer
deposits.................................... 41 7 973
-------- -------- --------
Net cash flows provided by operating
activities................................ 15,768 10,473 16,890
-------- -------- --------
Cash flows from investing activities:
Capital expenditures........................... (10,010) (11,584) (20,729)
Acquisition of businesses (Notes 2 and 3)...... (14,487) (12,196) (51,286)
Proceeds from sale of property and equipment... 159 656 1,745
Proceeds from sale of securities............... -- 333 --
-------- -------- --------
Net cash flows used in investing
activities................................ (24,338) (22,791) (70,270)
-------- -------- --------
Cash flows from financing activities:
Payments on long-term debt and capital lease
obligations................................... (2,293) (3,658) (2,709)
Retirement of line-of-credit and term loan..... (5,378) (19,512) --
Advances on line-of-credit, net................ 18,541 4,668 59,354
Contribution of capital and proceeds from sale
of common stock............................... 1,366 45,174 187
Cash dividends paid............................ (4,520) (13,124) (72)
Cash paid to repurchase shares of common
stock......................................... (125) -- (706)
Cash paid for refinancing of long term debt.... (75) (300) (267)
-------- -------- --------
Net cash flows provided by financing
activities................................ 7,516 13,248 55,787
-------- -------- --------
(Decrease) increase in cash and cash
equivalents..................................... (1,054) 930 2,407
Cash and cash equivalents, beginning of period... 3,898 2,844 3,774
-------- -------- --------
Cash and cash equivalents, end of period......... 2,844 3,774 6,181
======== ======== ========
Supplemental cash flow information:
Interest paid.................................. 2,331 3,272 3,851
Income taxes paid.............................. 437 1,116 3,362
Supplemental disclosure of non cash investing
activities (Note 6)
The accompanying notes are an integral part of these financial statements
F-6
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except share and per share data)
1. Basis of Presentation and Description of the Business
Basis of Presentation--The historical financial statements include the
combined accounts of Mac-Gray Co., Inc. and Mac-Gray, L.P. On April 17, 1997,
Mac-Gray Co., Inc. and Mac-Gray, L.P. were reorganized to create Mac-Gray
Corporation ("Mac-Gray" or the "Company"). The consolidated financial
statements for the current fiscal year include the accounts of Mac-Gray
Corporation and its wholly owned subsidiaries. All significant intercompany
transactions and balances have been eliminated in consolidation.
Description of the Business--The company generates the majority of its
revenue from card and coin-operated laundry rooms located in the Northeastern,
Midwestern and Southeastern United States. A large portion of its revenue is
also derived from the sale and lease of the Company's MicroFridge(R) product
lines. The Company's principal customer base is the multi-housing market,
which consists of apartments, condominium units, colleges and universities.
The Company also sells, services and leases commercial laundry equipment to
commercial laundromats and institutions. The majority of the Company's
purchases of coin route laundry equipment is from one supplier.
2. Pooling-of-interests Transaction
On March 12, 1998, Mac-Gray acquired Intirion Corporation ("Intirion") in a
transaction accounted for as a pooling of interests. The accompanying
consolidated financial statements have been prepared to give retroactive
effect to the pooling transaction and include the accounts of Mac-Gray,
Intirion and their respective wholly owned subsidiaries. Mac-Gray issued
approximately 1,593,000 shares of common stock and paid $1,033 in cash in
exchange for all of the outstanding equity securities of Intirion. Costs
directly associated with the pooling transaction of $1,144 were incurred
during 1998. These costs include legal, accounting and severance costs
directly associated with the transaction and are classified as merger-related
costs on the income statement.
Due to the differing year ends of Mac-Gray and Intirion, financial
information for dissimilar periods has been combined in the consolidated
financial statements. As such, the historical annual financial statements were
restated by combining the June 30 financial statements of Intirion with the
December 31 financial statements of Mac-Gray. Intirion's results of operations
and cash flows for its twelve months ended June 30, 1996 and 1997 were
combined with Mac-Gray's results of operations and cash flows for the years
ended December 31, 1996 and 1997, and Intirion's balance sheet at June 30,
1997 was combined with Mac-Gray's balance sheet at December 31, 1997. As such,
results of operations for Intirion for the six months ended December 31, 1997
(including revenue and net income of $13,355 and $289, respectively) were not
included in the consolidated statement of operations for the year ended
December 31, 1997.
No adjustments to the net assets of the combining companies were required to
adopt the same accounting practices and there were no inter company
transactions between Mac-Gray and Intirion prior to the combination. During
1998, an adjustment was required to record Intirion's net equity activity for
the six months ended December 31, 1997 in order to change the fiscal year of
Intirion from June to December. This adjustment is presented on the
consolidated statement of stockholders' equity. All of the accounts and
results of both companies are included in the results for the twelve months
ended December 31, 1998.
F-7
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
The following table reconciles the revenues and net income previously
reported by Mac-Gray prior to the Intirion combination to the results currently
reported in the 10-K.
Year Ended December 31,
------------------------
1996 1997
----------- ------------
Net Revenues:
Mac-Gray.......................................... $ 64,427 $ 81,370
Intirion.......................................... 17,833 23,477
----------- ------------
$ 82,260 $ 104,847
=========== ============
Net Income:
Mac-Gray.......................................... $ 5,527 $ 2,686
Intirion.......................................... 139 370
----------- ------------
$ 5,666 $ 3,056
=========== ============
3. Purchase Acquisitions
On April 23, 1998, Mac-Gray acquired one hundred percent of the outstanding
capital stock of Copico, Inc. ("Copico"). Copico is a provider of card and
coin-operated reprographics equipment and services to the academic and public
library markets in New England, New York and Florida. The purchase price was
250,000 shares of Mac-Gray common stock and $10,950 in cash, less the
assumption of certain debt. The acquisition was accounted for using the
purchase method of accounting. Assuming this acquisition had occurred at
January 1, 1997 the pro forma results of operations would not have differed
materially from the results of operations reported.
On April 24, 1998, Mac-Gray acquired one hundred percent of the outstanding
capital stock of Amerivend Corporation and the assets of Amerivend Southeast
Corporation for approximately $33,500 in cash, including the payment of certain
debt. Amerivend is a provider of card and coin-operating laundry rooms in
multiple housing facilities. The acquisition was accounted for using the
purchase method of accounting. A portion of the purchase price, $1,500, is
being held in escrow until October 1999 to satisfy any potential claims in
accordance with the Amerivend agreement.
Approximately $800 of professional and other acquisition costs were
capitalized in connection with these acquisitions.
The December 31, 1998 financial statements include the results of Copico and
Amerivend for the period subsequent to the dates of their respective
acquisition. Goodwill and other intangible assets amounting to approximately
$37,000 were recorded in connection with these acquisitions.
The following supplemental pro forma financial information reflects the
Amerivend acquisition as if it occurred on January 1, 1997.
Unaudited Unaudited
Supplemental Pro Supplemental Pro
Forma Results for Forma Results for
the year ended the year ended
December 31, 1997 December 31, 1998
----------------- -----------------
Revenue................................ $122,474 $142,063
Net income............................. $ 4,251 $ 7,615
Net income available to common
stockholders.......................... $ 3,931 $ 7,553
Net income per share--basic............ $ 0.47 0.60
Net income per share--diluted.......... $ 0.45 0.58
F-8
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
In 1998, the Company acquired certain assets of several coin-operated
laundry and MicroFridge(R) related businesses for approximately $5 million.
These acquisitions were also accounted for using the purchase method of
accounting. Accordingly, the purchase price assigned to the assets acquired
was the fair market value on the respective acquisition dates. The purchase
price in excess of fair market value of the assets acquired was allocated to
various intangible assets, including goodwill, and amounted to approximately
$3 million.
On April 17, 1997, the Company acquired in exchange for 612,026 shares of
its common stock, (approximate value of $7,797), approximately $2,170 in cash,
$850 of a deferred payment obligation, and the assumption of approximately
$2,787 in debt, each of Sun Services of America, Inc. and R. Bodden Coin-Op
Laundry, Inc. (collectively, "Sun Services"). The shares of the Company's
common stock were redeemable at the election of the shareholder. The
redeemable common stock was valued at a contractual put price of $12.74 per
common share (which was in excess of market as of that date). In December
1998, the shareholder exercised his put right on his remaining holdings,
600,026 shares. In January 1999, the Company paid $7,644 to the shareholder in
exchange for these shares. The amount payable to the shareholder at December
31, 1998 is recorded as a current liability on the balance sheet at December
31, 1998. Sun Services of America, Inc. and R. Bodden Coin-Op Laundry were
100% owned by the same shareholder. These acquisitions were accounted for
pursuant to the purchase method of accounting, and resulted in goodwill of
approximately $11,600.
In October and November, 1997, the Company acquired certain assets of two
additional coin-operated laundry businesses for approximately $7,150. These
acquisitions were also accounted for using the purchase method of accounting.
Accordingly, the purchase price assigned to the assets acquired was the fair
market value on the respective acquisition dates. Purchase price in excess of
the fair value of assets acquired was allocated to goodwill and amounted to
approximately $6,228.
In 1996, the Company acquired certain assets of six coin-operated laundry
businesses or divisions for an aggregate purchase price of $15,561 and
recorded goodwill of $10,184. Non-compete agreements valued at $1,250 were
also recorded in 1996 in connection with these acquisitions. The acquisitions
were accounted for using the purchase method of accounting.
The Company's consolidated financial statements include the results of the
1996, 1997, and 1998 acquisition from their respective acquisition dates.
4. Initial Public Offering of Common Stock
Mac-Gray Corporation completed its initial public offering of 4,600,000
shares of common stock at $11 per share on October 22, 1997. The net proceeds
from the sale of the common stock of $45,174 were used primarily to repay
existing indebtedness outstanding under the 1997 Senior Secured Credit
Facility (Note 12) and to fund a distribution of $9,000 of previously taxed
but undistributed earnings to the Company's shareholders of record as of
October 16, 1997. As a result of the initial public offering, the Company's S
corporation status was terminated. Retained earnings of $5,907 as of that date
were reclassified to additional paid-in capital to reflect additional
contributions of capital by the S-corporation shareholders.
5. Significant Accounting Policies
Cash, Cash Equivalents and Available-For-Sale Security--The Company
considers all highly liquid investments with original maturities of three
months or less to be cash equivalents. The Company invests excess cash in
repurchase agreements and other highly liquid short-term investments.
Accordingly, the investments are subject to minimal credit and market risk. At
December 31, 1997 the Company held short-term investments under repurchase
agreements of $904.
F-9
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
Revenue Recognition--The Company recognizes coin route revenue on the
accrual basis. Rental revenue is recognized ratably over the related
contractual period, which is generally less than one year. The Company
recognizes revenue from product sales upon shipment of the products. The
Company offers limited duration warranties on multi-purpose appliance products
and, at the time of sale, provides reserves for all estimated warranty costs.
The Company from time to time enters into long-term lease transactions that
meet the qualifications of a sales type lease. For these transactions, revenue
is recognized upon shipment of the products at fair market value. Interest
revenue is recognized over the life of the rental agreement. At December 31,
1998 the Company had $3,391 in receivables related to sales type leases which
have been recorded net of $1,276 of unearned interest income. These
receivables have been classified as other assets on the balance sheet (current
or long-term as appropriate). These receivables are primarily due ratably over
the next seven years.
Allowance for Doubtful Accounts--The Company maintains an allowance for
doubtful accounts of $508 at December 31, 1997 and $309 at December 31, 1998.
Concentration of Credit Risk--Financial instruments which potentially expose
the Company to concentration of credit risk include trade receivables,
generated by the Company as a result of the selling and leasing of laundry
machines. To minimize this risk, ongoing credit evaluations of customers'
financial condition are performed and reserves are maintained. The Company
typically does not require collateral.
Fair Value of Financial Instruments--For purposes of financial reporting,
the Company has determined that the fair value of financial instruments
approximates book value at December 31, 1997 and 1998, based upon terms
currently available to the Company in financial markets.
Inventories--Inventories are stated at the lower of cost (as determined
using the first-in, first-out method) or market and consist of finished goods.
Prepaid commissions--Prepaid commissions consists of cash advances paid to
lessors under laundry service contracts. The prepaid amount is amortized
ratably over the life of the contract.
Property, Plant and Equipment--Property, plant and equipment are stated at
cost and depreciated using the straight-line method over the estimated useful
lives of the respective assets. Expenditures for maintenance and repairs are
charged to operations as incurred; acquisitions, major renewals, and
betterments are capitalized.
Coin route equipment-not yet placed in service--These assets represent
laundry machines that management estimates will be installed in coin route
laundry rooms and have not been purchased for commercial sale.
Intangible Assets--Intangible assets primarily consist of various non-
compete agreements, customer lists, goodwill and contract rights recorded in
connection with the acquisitions (Note 3). The non-compete agreements are
amortized using the straight-line method over the life of the agreements,
which range from two to five years. Customer lists are amortized using the
straight-line method over five to fifteen years. Goodwill is amortized using
the straight-line method over fifteen or twenty years. Contract rights are
amortized using the straight-line method over fifteen years.
Impairment of Long-Lived Assets--Impairment losses are recorded on long-
lived assets used in operations when indicators of impairment are present and
the undiscounted cash flows estimated to be generated by those assets are less
than the assets' carrying amount.
Income Taxes--Mac-Gray Co., Inc. which elected S corporation status, and
Mac-Gray, L.P. were "pass through" entities for income tax purposes prior to
the reorganization on April 17, 1997. From April 17, 1997 through October 16,
1997, Mac-Gray Corporation also elected S corporation status. Accordingly,
earnings and losses were included on the income tax returns of the respective
equity owners through October 16, 1997. On October 16, 1997, the Company's S
corporation status was terminated as a result of the initial public offering.
F-10
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
The Company accounts for income taxes utilizing the asset and liability
method as prescribed by Statement of Financial Accounting Standard No.
109,"Accounting for Income Taxes" (SFAS 109). Under the provisions of SFAS
109, the current or deferred tax consequences of a transaction are measured by
applying the provisions of enacted tax laws to determined the amount of taxes
payable currently or in future years. The classification of net current and
non-current deferred tax assets or liabilities depend upon the nature of the
related asset or liability. Deferred income taxes are provided for temporary
differences between the income tax basis of assets and liabilities and their
carrying amounts for financial reporting purposes.
Stock Compensation--The Company's stock option plans are accounted for in
accordance with Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees". In fiscal 1996, the Company adopted the disclosure
requirements of Statement of Financial Accounting Standard No. 123,"Accounting
for Stock-Based Compensation".
Use of Estimates--The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Earnings Per Share--The Company accounts for earnings per share in
accordance with Statement of Financial Accounting Standard No. 128, "Earnings
Per Share" (SFAS 128). SFAS 128 replaces APB Opinion No. 15 "Earnings Per
Share" and requires the presentation of basic earnings per share and diluted
earnings per share (EPS). Basic EPS includes no dilution and is computed by
dividing net income available to common stockholders by the weighted-average
number of common shares outstanding for the period. Diluted EPS reflects the
potential dilution of securities that could share in the earnings of an
entity, similar to fully diluted EPS under APB 15. Diluted earnings per share
has been calculated using the treasury stock method.
Other comprehensive Income--In the first quarter of 1998, the Company
adopted Statement of Financial Accounting Standard No. 130 (SFAS 130),
"Reporting Comprehensive Income". This statement requires disclosure of
comprehensive income and its components in interim and annual reports.
Comprehensive income includes all changes in stockholders' equity during a
period except those resulting from investments by stockholders and
distributions to stockholders. Accordingly, the components of comprehensive
income include net income and unrealized gains and losses on available-for-
sale securities. Reclassification adjustments and deferred taxes on unrealized
gains and losses on available-for-sale securities are not material.
6. Supplemental disclosures of non cash investing activities
During the years ended December 31, 1997 and 1998, common stock with an
approximate value of $7,797 and $4,218 was issued in connection with the
acquisitions of Sun Services and Copico, respectively.
No cash adjustment is reflected in the 1998 amounts for the period July 1
through December 31, 1997 for Intirion, since Intirion's ending cash balance
at June 30, 1997 and December 31, 1997 was $0.
During the years ended December 31, 1997 and 1998, the Company acquired
automobiles under capital lease agreements totaling $978 and $1,520,
respectively.
F-11
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
7. Prepaid expenses and other current assets
Prepaid expenses and other assets consist of the following:
December 31,
-------------
1997 1998
------ ------
Prepaid commissions............................................ $ 979 $1,269
Prepaid supplies............................................... 725 2,037
Other.......................................................... 673 2,935
------ ------
$2,377 $6,241
====== ======
8. Property, Plant and Equipment
Property, plant and equipment consist of the following:
December 31,
Estimated ----------------
useful life 1997 1998
----------- ------- --------
Coin route equipment.......................... 10 years $68,179 $ 93,515
Rental equipment.............................. 7 years 7,439 11,496
Buildings and improvements.................... 15-32 years 7,388 9,173
Furniture, fixtures and computer equipment.... 2-7 years 5,967 5,461
Trucks and autos.............................. 3-5 years 2,610 4,046
Tooling costs................................. 3 years 271 306
Land and improvements......................... -- 309 403
------- --------
92,163 124,400
Less: accumulated depreciation................ 49,548 58,518
------- --------
42,615 65,882
Coin route equipment, not yet placed in
service...................................... 1,000 3,326
------- --------
Property, plant and equipment, net............ $43,615 $ 69,208
======= ========
Depreciation and amortization of property, plant and equipment totaled
$6,164, $7,683 and $10,588 for the years ended December 31, 1996, 1997, and
1998, respectively.
At December 31, 1997 and 1998, truck and autos included $2,284 and $3,604,
respectively, of capital leased equipment with an accumulated amortization
balance of $1,307 and $1,510, respectively.
F-12
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
9. Intangible Assets
Intangible assets consist of the following:
December 31,
---------------
1997 1998
------- -------
Goodwill.................................................... $28,208 $65,627
Covenants-not-to-compete.................................... 2,869 3,806
Customer lists.............................................. 1,008 2,352
Other....................................................... 451 908
------- -------
32,536 72,693
Less: accumulated amortization.............................. 3,888 7,444
------- -------
Intangible assets, net...................................... $28,648 $65,249
======= =======
Amortization expense associated with the above intangible assets amounted to
$932, $1,912 and $3,670 for the years ended December 31, 1996, 1997 and 1998,
respectively.
10. Accrued Expenses
Accrued expenses consist of the following:
December 31,
-------------
1997 1998
------ ------
Accrued interest.............................................. $ 101 $ 450
Accrued salaries.............................................. 596 314
Warranty...................................................... 128 158
Current portion of deferred retirement obligation............. 104 104
Current portion of deferred payment obligation................ 392 196
Other......................................................... 1,310 2,534
------ ------
$2,631 $3,756
====== ======
11. Deferred Retirement Obligation
The deferred retirement obligation at December 31, 1997 and 1998 relates to
payments due to a former shareholder of the Company in connection with a
retirement agreement which provides for annual payments of $104 until the
death of the former shareholder. The liability has been estimated based upon
the life expectancy of the former shareholder utilizing actuarial tables.
F-13
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
12. Long-term Debt
Long-term debt consists of the following:
December 31,
--------------
1997 1998
------ -------
1998 Senior Secured Credit Facility.......................... $ -- $65,660
Credit agreement and revolving credit facility............... 2,525 --
Unsecured notes payable to former shareholders:
Variable rate note, lesser of prime rate plus 2% or 9%,
quarterly principal payments beginning January 1, 1996...... 2,560 1,503
Fixed rate note, 10% interest rate, monthly installments, due
November 1, 2000............................................ -- 31
Fixed rate note, 8.4% interest rate, due June 1, 2000........ 746 746
Discount note, 6% imputed interest rate (estimated fair
market rate), quarterly installments, due December 31,
2003........................................................ 2,239 1,940
Fixed notes, 8.75% interest rate, due January 1, 2001........ 317 310
Note payable, 11.5% fixed interest rate, monthly principal
payments, due September 1, 1999............................. 172 86
Demand line of credit with primary supplier, variable
interest rate, 9.5% at December 31, 1997.................... 3,694 --
Acquisition note payable, 10% imputed interest rate, annual
installments................................................ 153 --
Acquisition note payable, 8% imputed interest rate (estimated
fair market rate), monthly payments, due May 31, 2006....... 911 821
------ -------
Total long-term debt......................................... 13,317 71,097
Less: current portion........................................ 7,922 1,433
------ -------
$5,395 $69,664
====== =======
Credit Agreement and Revolving Credit Facility
On April 23, 1998, the outstanding debt under the 1997 Senior Secured Credit
Facility was refinanced under a new revolving line of credit and term loan
facility (the "1998 Senior Secured Credit Facility"). The 1998 Senior Secured
Credit Facility provides for borrowings under a revolving line of credit of up
to $90,000, and converts to a term loan after three years for the outstanding
balance at the date of conversion. Outstanding indebtedness under the 1998
Senior Secured Credit Facility bears interest, at the Company's option, at a
rate equal to the (i) prime rate minus .5%, or (ii) LIBOR plus the applicable
margin (either (a) 1.5% for loans outstanding which aggregate less than
$50,000, or (b) 1.75% for loans outstanding which exceed $50,000), or the rate
at which funds were offered in the secondary market ("Cost of Funds") plus the
applicable margin. At December 31, 1998 the interest rate was approximately
6.7%.
The 1998 Senior Secured Credit Facility restricts payments of dividends and
other distributions, restricts the Company from making certain acquisitions
and incurring indebtedness, and requires it to maintain certain financial
ratios. The 1998 Senior Secured Credit Facility is secured by a blanket lien
on the assets of the Company and each of its subsidiaries, as well as a pledge
by the Company of all of the capital stock of its subsidiaries. The 1998
Senior Secured Credit Facility imposes certain financial and operational
covenants on the Company, including restrictions on indebtedness, certain
capital expenditures, investments and acquisitions and on the Company's
ability to pay dividends, to make distributions and to repurchase stock. At
December 31, 1998 outstanding letters of credit amounted to $1,481. The
available balance under the 1998 Senior Secured Credit Facility was $22,859 at
December 31, 1998. The Company was in compliance with, or had received waivers
for non-compliance with, the terms of the credit agreement as of December 31,
1998.
F-14
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
The 1998 Senior Secured Credit Facility contains a commitment fee equal to
one quarter of one percent (0.25%) per annum of the average daily unused
portion of the Credit Facility.
Through Intirion, the Company had outstanding borrowings through a line of
credit of $2,525 at December 31, 1997. All outstanding borrowings of Intirion
Corporation were repaid by Mac-Gray subsequent to the merger and Intirion's
line of credit agreement was terminated.
On April 17, 1997, the outstanding debt under the 1996 Credit Agreement and
Revolving Credit Facility was refinanced under terms of an amended and
restated agreement (the 1997 Senior Secured Credit Facility). The 1997 Senior
Secured Credit Facility provided for borrowings under (i) a revolving line of
credit and term loan facility and (ii) a revolving working capital line of
credit facility of up to $45,000 and $5,000, respectively. At December 31,
1997, outstanding letters of credit amounted to $1,302. There was no
outstanding balance on the 1997 Senior Secured Credit Facility at December
31,1997. The interest rate for the 1997 Senior Secured Credit Facility at
December 31,1997 was 8.0%.
Future Payments
As of December 31, 1998, the scheduled future principal payments of long-
term debt are as follows:
1999................................................................. $ 1,433
2000................................................................. 2,087
2001................................................................. 13,998
2002................................................................. 33,432
2003................................................................. 19,822
Thereafter........................................................... 325
-------
$71,097
=======
13. Income Taxes
On October 16, 1997, the Company's S corporation status was automatically
terminated due to the initial public offering (Note 4). As a result, the 1997
provision includes a charge of $4,037 to provide for net deferred tax
liabilities resulting from the change in income tax status from an S
corporation to a C corporation, in accordance with Statement of Financial
Accounting Standards No. 109, "Accounting for Income Taxes." The following
information relates to the temporary differences at October 16, 1997.
Accounts receivable................................................. $ (627)
Fixed assets........................................................ 16,051
Deferred compensation............................................... (3,415)
Other............................................................... (147)
-------
Total............................................................. $11,862
=======
F-15
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
Prior to October 16, 1997, the historical income tax provision was
established only to provide for income taxes in states that do not recognize
Subchapter S corporations, using a statutory income tax rate of 6%. The
effective rate differed from the statutory rate in 1996 and 1997 (prior to
October 16, 1997) due to meals and entertainment expenses and goodwill
amortization recorded for book purposes that are not deductible for income tax
purposes. In addition to the aforementioned items, the Company's 1996
effective tax rate differs from the statutory tax rate due to taxable losses
generated by Mac-Gray, L.P. for which only a 10% tax benefit (equivalent to
Mac-Gray Co., Inc.'s general partnership interest in Mac-Gray, L.P.) was
recognized by the Company.
The provision for state and federal income taxes consists of the following:
Years ended
December 31,
------------------
1996 1997 1998
---- ------ ------
Current state income tax................................. $416 $ 460 $ 621
Deferred state income tax................................ 60 505 462
Current federal income tax............................... 38 533 2,374
Deferred federal income tax.............................. -- 3,730 1,765
---- ------ ------
Total income taxes..................................... $514 $5,228 $5,222
==== ====== ======
The net deferred tax liability in the accompanying balance sheets includes
the following amounts of deferred tax assets and liabilities at December 31:
1997 1998
------ ------
Deferred tax assets:
Net operating loss carryforwards............................ $1,080 $ 977
Alternative minimum tax credit carryforwards................ 50 50
Accounts receivable......................................... 376 123
Deferred compensation....................................... 1,366 1,150
Amortization................................................ 53 271
Other....................................................... 86 216
------ ------
3,011 2,787
------ ------
Deferred tax liabilities:
Fixed assets................................................ 7,341 9,285
Sales type leases........................................... -- 487
Other....................................................... 58 --
------ ------
7,399 9,772
------ ------
Excess of deferred tax liabilities over deferred tax assets... 4,388 6,985
Deferred tax asset valuation allowance........................ 370 --
------ ------
Net deferred tax liabilities.................................. $4,758 $6,985
====== ======
A valuation allowance was applied against deferred tax assets at December
31, 1997. During the year ended December 31, 1998, the valuation allowance on
deferred tax assets of $370 was released. Based on the results of operations
of Intirion subsequent to the combination, management believes that it is
likely that such assets will be realized.
F-16
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
For the year ended December 31, 1998, the statutory income tax rate differed
from the effective rate primarily as a result of the following differences:
%
----
Taxes computed at federal statutory rate............................... 34.0%
State income taxes, net of federal benefit............................. 5.7
Change in valuation allowance on deferred tax asset.................... (3.0)
Non-deductible goodwill................................................ 2.9
Non-deductible merger-related costs.................................... 2.4
Other.................................................................. 0.4
----
Income tax provision................................................. 42.4%
====
As the Company maintained its S corporation election through October 16,
1997, the provision for income taxes recorded for the year ended December 31,
1997 differs significantly from the amount of income taxes determined by
applying the applicable U.S. statutory federal income tax rate to pretax
income. For the period subsequent to the termination of the S corporation
status, the statutory income tax rate differed from the effective rate
primarily as a result of the following differences:
%
----
Taxes computed at federal statutory rate............................... 34.0%
State income taxes, net of federal benefit............................. 2.3
Other.................................................................. (1.0)
----
Income tax provision................................................. 35.3%
====
The current provision for income taxes recorded for fiscal 1997 includes
$314 in tax while the Company was an S corporation and $679 in tax for the
period subsequent to the termination of the S corporation election.
At December 31, 1998, the Company has the following net operating loss
carryforwards available to reduce certain future federal taxable income:
Net operating loss carryforwards relating to certain losses
incurred in the year ending December 31, 1991..................... $ 305
Net operating loss carryforwards relating to certain losses
incurred in the year ending December 31, 1994..................... 280
Net operating loss carryforwards relating to certain losses
incurred in the year ending June 30, 1995......................... 1,826
Net operating loss carryforwards relating to certain losses
incurred in the year ended December 31, 1996...................... 141
------
$2,552
======
F-17
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
Since the $1,826 loss from June 30, 1995 occurred during a short tax year,
the loss is not immediately available to offset future taxable income. The
loss is made available over a six year period. At December 31, 1998, the
amount of this loss available is $1,065. The remaining $761 will become
available as follows:
Year ended:
December 31, 1999..................................................... $304
December 31, 2000..................................................... 304
December 31, 2001..................................................... 153
----
$761
====
Subsequent ownership changes could further affect the limitations in future
years. Each net operating loss carryfoward expires 15 years from the year in
which it was incurred.
14. Repurchase of common stock
On October 29, 1998, the Board of Directors authorized the Company to
repurchase up to $8,000 of its common stock through the open market. Mac-Gray
repurchased 62,100 shares through December 31, 1998 under the plan for a total
cash outlay of $706.
15. Segment Information
The Company operates three business units which are based on the Company's
different product and service categories: Laundry, MicroFridge(R) and
Reprographics. These three business units have been aggregated into two
reportable segments ("Laundry and Reprographics" and "MicroFridge"(R)). The
Laundry and Reprographics business units have been aggregated into one
reportable segment (Laundry and Reprographics) since the long-term financial
performance of these divisions are affected by similar economic conditions.
The Laundry segment provides coin and card-operated laundry equipment to
multiple housing facilities such as apartment buildings, colleges and
universities and public housing complexes. The Laundry segment also operates
as a distributor of and provides service to commercial laundry equipment in
public laundromats, as well as institutional purchasers, including hospitals,
restaurants and hotels, for use in their own on-premise laundry facilities.
The Reprographics segment provides coin and card-operated reprographics
equipment to academic and public libraries. The MicroFridge(R) segment sells,
rents, and services its own proprietary line of refrigerator/freezer/microwave
oven combinations to a customer base which includes colleges and universities,
government, hotel, motel and assisted living facilities.
There are no intersegment revenues.
The table below presents information about the reported operating income of
Mac-Gray for the years ended December 31, 1998, 1997 and 1996.
Year ended December 31, 1998
-------------------------------------
Laundry
and
Reprographics MicroFridge(R) Total
------------- -------------- --------
Revenues.............................. $110,949 $26,228 $137,177
Gross margin.......................... 26,621 9,119 35,740
Depreciation and amortization......... 11,931 1,760 13,691
Capital expenditures.................. 16,508 2,227 18,735
Total assets.......................... 123,054 19,767 142,821
F-18
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
Year ended December 31, 1997
-------------------------------------
Laundry
and
Reprographics MicroFridge(R) Total
------------- -------------- --------
Revenues.............................. $81,370 $23,477 $104,847
Gross margin.......................... 20,599 8,336 28,935
Depreciation and amortization......... 8,635 1,343 9,978
Capital expenditures.................. 8,064 2,903 10,967
Total assets.......................... 76,478 13,599 90,077
Year ended December 31, 1996
-------------------------------------
Laundry
and
Reprographics MicroFridge(R) Total
------------- -------------- --------
Revenues.............................. $64,427 $17,833 $ 82,260
Gross margin.......................... 16,307 6,754 23,061
Depreciation and amortization......... 6,216 1,079 7,295
Capital expenditures.................. 7,083 2,375 9,458
Total assets.......................... 49,772 12,239 62,011
The following are reconciliations to corresponding totals in the accompanying
consolidated financial statements:
1996 1997 1998
-------- -------- --------
Income
Total gross margin for
reportable segments.... $ 23,061 $ 28,935 $ 35,740
Operating expenses...... (14,440) (17,857) (19,389)
Interest expense, net... (2,354) (2,975) (3,920)
Other expense, net...... (87) 181 (122)
-------- -------- --------
Income before provision
for income taxes......... $ 6,180 $ 8,284 $ 12,309
======== ======== ========
1996 1997 1998
-------- -------- --------
Depreciation and
amortization
Total for reportable
segments............... $ 7,295 $ 9,978 $ 13,691
Corporate............... 517 503 567
-------- -------- --------
Total depreciation and
amortization............. $ 7,812 $ 10,481 $ 14,258
======== ======== ========
1996 1997 1998
-------- -------- --------
Capital expenditures
Total for reportable
segments............... $ 9,458 $ 10,967 $ 18,735
Corporate............... 552 617 1,994
-------- -------- --------
Total capital
expenditures............. $ 10,010 $ 11,584 $ 20,729
======== ======== ========
1996 1997 1998
-------- -------- --------
Assets
Total for reportable
segments............... $ 62,011 $ 90,077 $142,821
Corporate (1)........... 4,183 7,195 28,212
Deferred income taxes... 23 571 487
-------- -------- --------
Total assets.............. $ 66,217 $ 97,843 $171,520
======== ======== ========
- --------
(1) Principally cash, prepaid expenses, property, plant & equipment.
F-19
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
16. Commitments and Contingencies
Leases--The Company leases certain equipment and facilities under non-
cancelable operating leases. The Company also leases certain vehicles under
capital leases.
Future minimum lease payments under non-cancelable operating and capital
leases consist of the following:
Capital Operating
Leases Leases
------- ---------
Year ended December 31,
1999................................................... $1,054 $ 618
2000................................................... 781 523
2001................................................... 245 362
2002................................................... -- 29
------ ------
Future lease payments.................................. 2,080 $1,532
======
Less: amount representing interest (8.5% at December 31,
1998)................................................... 174
------
1,906
Present value future minimum lease payments less amounts
due within one year..................................... 1,011
------
Amounts due after one year............................... $ 895
======
Rent expense incurred by the Company under non-cancelable operating leases
totaled $369, $675, and $604 for the years ended December 31, 1996, 1997 and
1998, respectively.
Guaranteed Commission Payments--The Company operates coin laundry routes
under various lease agreements in which the Company is required to make
minimum guaranteed commission payments to the respective property owners. The
following is a schedule by years of future minimum guaranteed commission
payments required under these lease agreements that have initial or remaining
non-cancelable contract terms in excess of one year as of December 31, 1998:
1999................................................................. $ 2,977
2000................................................................. 2,855
2001................................................................. 2,163
2002................................................................. 1,679
2003................................................................. 1,187
Thereafter........................................................... 3,015
-------
$13,876
=======
Guarantee of Indebtedness--At December 31, 1997, Mac-Gray was a guarantor on
a line of credit for a customer in the amount of $706, and recorded a
contingency reserve of $250 for estimated losses on the guarantee. The
guarantee was secured by a pledge of the borrowing company's assets. During
the three months ended March 31, 1998, the customer defaulted on the line of
credit and the Company succeeded to the assets and assumed the liabilities of
the customer in accordance with the guarantee and related agreements. At March
31, 1998, the fair market value of the customer's assets and a liability of
$677 were recorded on the Company's financial statements and a loss was
recorded against the reserve. In April 1998, the customer's liability to its
creditor was paid in full by Mac-Gray.
F-20
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
Litigation--The Company is involved in various litigation proceedings
arising in the normal course of business. In the opinion of management, the
Company's ultimate liability, if any, under pending litigation would not
materially affect its financial condition or the results of its operations.
17. Employee Benefit and Stock Plans
Retirement Plans--The Company maintains a qualified profit-sharing/401(k)
plan (the Plan) covering substantially all employees. The Company's
contributions to the Plan are at the discretion of the Board of Directors.
Costs under the Plan amounted to $532, $285 and $581 For the years ended
December 31, 1996, 1997 and 1998, respectively.
Stock Option and Incentive Plans--In December 1996, the Board of Directors
of Mac-Gray Co., Inc. adopted, and the stockholders approved, the Mac-Gray Co.
Inc., 1996 Stock Option and Incentive Plan (the "Predecessor Plan"). On April
7, 1997, the Board of Directors adopted, and the Company's stockholders
approved the 1997 Stock Option and Incentive Plan for the Company (the "1997
Stock Plan"). The 1997 Stock Plan is designed and intended as a performance
incentive for officers, employees, consultants and directors to promote the
financial success and progress of the Company. All officers, employees and
independent directors are eligible to participate in the 1997 Stock Plan.
Awards, when made, may be in the form of stock options, restricted stock,
unrestricted stock options, and dividend equivalent rights. The 1997 Stock
Plan requires the maximum term of options to be ten years.
On December 30, 1996, Mac-Gray Co., Inc. granted 556,350 options to purchase
shares of common stock with an exercise price of $9.99 per share pursuant to
the Predecessor Plan. Concurrent with the reorganization of the Company, the
options issued pursuant to the Predecessor Plan were assumed by the Company
under the 1997 Stock Plan, and the Predecessor Plan was terminated. The
exercise price of the options was adjusted to $8.80 in August 1997, in order
to restore the economic position of the option holders as a result of the
$9,000 distribution (Note 4). The change in the exercise price of these
options has been reflected as a cancellation of the $9.99 options and a grant
of the $8.80 options on the following option rollforward. Employee options
principally vest so that twenty percent (20%) of the options will become
exercisable on each of the first through fifth anniversaries of the date of
grant of the options. In the event of termination of the optionees'
relationship with the Company, options not yet exercised terminate within 90
days. The 1997 Stock Plan also provided for the automatic grant to each of the
independent directors to purchase 1,000 shares of common stock. The non-
qualified options granted to independent directors were exercisable
immediately and will terminate on the tenth anniversary of the grant. The
exercise prices were determined by the Board of Directors to be the fair
market value of the shares underlying the options on the respective dates of
the grants. Other than the stock option grants, there were no other grants of
equity-based compensation awards.
The 1997 Stock Plan provides for the issuance of up to the greater of
750,000 shares of common stock or ten percent of the then outstanding shares
of common stock. Subsequent to the initial public offering (Note 4), a total
of 1,158,000 shares of common stock are reserved for issuance under the 1997
Stock Plan, of which approximately 891,000 shares are subject to outstanding
options and 267,000 remaining available for issuance.
F-21
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
The following is a summary of stock option plan activity:
1997 1998
------------------ ------------------
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
-------- -------- -------- --------
Outstanding, beginning of year......... 556,350 $9.99 638,590 $ 8.88
Granted................................ 649,840 $8.88 461,120 $13.17
Exercised.............................. -- -- (20,936) $ 8.94
Canceled............................... (556,350) $9.99 -- --
Forfeited.............................. (11,250) $8.89 (187,834) $13.67
-------- ----- -------- ------
Outstanding, end of year............... 638,590 $8.88 890,940 $10.09
======== ===== ======== ======
Exercisable, end of year............... 113,470 $8.92 229,062 $ 9.82
======== ===== ======== ======
Options Outstanding Options Exercisable
--------------------------------------------- --------------------
Weighted Weighted
Number Average Weighted Number Average
Outstanding Remaining Average Exercise Exercisable Exercise
at 12/31/98 Contractual Life Price at 12/31/98 Price
----------- ---------------- ---------------- ----------- --------
$8.80-$9.25............. 636,360 8 $ 8.84 197,562 $ 8.83
$11.00-$16.06........... 196,980 10 $12.24 7,000 $14.08
$16.50-$17.00........... 57,600 9 $16.54 24,500 $16.60
------- --- ------ ------- ------
890,940 9 $10.09 229,062 $ 9.82
======= === ====== ======= ======
The Company has adopted the disclosure-only provision of Statement of
Financial Accounting Standards (SFAS) No. 123, "Accounting for Stock Based
Compensation." The Company continues to measure compensation cost using the
intrinsic value based method of accounting prescribed by APB Opinion 25. If
the Company had elected to recognize compensation cost based on the fair value
of the options granted at grant date as prescribed by SFAS No. 123, net income
and net income per share would have been reduced to $2,684 and $6,174 or $0.28
and $0.47 per share in 1997 and 1998, respectively compared to reported net
income of $3,056 and $7,087, or $0.31 and $0.54 per share in 1997 and 1998,
respectively.
December 31,
---------------
1997 1998
------- -------
Fair value of options granted at grant date.................. $3.61 $8.33
Risk free interest rate...................................... 6% 5.1%
Expected option term--Employees.............................. 7 years 7 years
Expected option term--independent directors.................. 3 years 3 years
Expected volatility.......................................... 50% 60%
Option valuation method...................................... Black-Scholes
option-pricing
model
Because the determination of the fair value of all options granted includes
vesting periods over several years and additional option grants are expected
to be made each year, the above pro forma disclosures are not representative
of pro forma effects of reported net income for future periods.
F-22
MAC-GRAY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(In thousands, except share and per share data)
18. Earnings per Share
For the year ended 1998
-----------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ---------
Net income............................. $7,087
Less: Accretion and dividends on
redeemable preferred stock............ (62)
------
Net income available to common
stockholder--basic.................... $7,025 12,524 $0.56
====== ====== =====
Effect of dilutive securities:
Stock options........................ 243
Contingent shares.................... 159
------
Net income available to common
stockholders--diluted................. $7,025 12,926 $0.54
====== ====== =====
For the year ended 1997
-----------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ---------
Net income............................. $3,056
Less: Accretion and dividends on
redeemable preferred stock............ (320)
------
Net income available to common
stockholder--basic.................... $2,736 8,449 $0.32
====== ====== =====
Effect of dilutive securities:
Stock options........................ 128
Contingent shares.................... 132
------
Net income available to common
stockholders--diluted................. $2,736 8,709 $0.31
====== ====== =====
For the year ended 1996
-----------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ---------
Net income............................. $5,666
Less: Accretion and dividends on
redeemable preferred stock............ (240)
------
Net income available to common
stockholder--basic.................... $5,426 7,554 $0.72
====== ====== =====
Effect of dilutive securities:
Stock options........................ --
Contingent shares.................... 132
------
Net income available to common
stockholders--diluted................. $5,426 7,686 $0.71
====== ====== =====
F-23
MAC-GRAY CORPORATION
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS
Years Ended December 31, 1998, 1997, and 1996
Balance Charged to Balance
Beginning Cost and at End
of Year Expenses(1) Deductions of Year
--------- ----------- ---------- -------
Year Ended December 31, 1998:
Allowance for doubtful accounts..... 508 511 (710) 309
Valuation allowance for deferred tax
asset.............................. 370 -- (370) --
Year ended December 31, 1997:
Allowance for doubtful accounts..... 372 205 (69) 508
Valuation allowance for deferred tax
asset.............................. 503 -- (133) 370
Year Ended December 31, 1996:
Allowance for doubtful accounts..... 337 89 (54) 372
Valuation allowance for deferred tax
asset.............................. 519 -- (16) 503
- --------
(1) The year ended December 31, 1998 includes $73 recorded on the books of
Intirion during the six months ended December 31, 1997 for which there is
no income statement presented.
F-24
(a)(3) Exhibits:
Certain exhibits indicated below are incorporated by reference to documents
of Mac-Gray on file with the Commission. Each exhibit marked by a cross (+)
was previously filed as an exhibit to Mac-Gray's Registration Statement on
Form S-1 (No. 333-33669) and the number in parentheses following the
description of the exhibit refers to the exhibit number in the Form S-1. Each
exhibit marked by an asterisk (*) was previously filed as an exhibit to Mac-
Gray's Registration Statement on Form S-4 (No. 333-45899) and the number in
parentheses following the description of the exhibit refers to the exhibit
number in the Form S-4. Each exhibit marked by a (z) was previously filed as
an exhibit to Mac-Gray's Registration Statement on Form S-3, as amended (No.
333-49795) and the number in parentheses following the description of the
exhibit refers to the exhibit number in the Form S-3. The following is a
complete list of exhibits filed or incorporated by reference as part of this
Annual Report on Form 10-K.
2.1 Agreement and Plan of Merger, dated as of December 22, 1997, by and
among Mac-Gray Corporation, MI Acquisition Corp., Intirion Corporation
and Robert P. Bennett (2.1).*
2.2 Stock Purchase Agreement, dated as of March 31, 1998, by and among
Mac-Gray Services, Inc., Copico, Inc. and the stockholders of Copico,
Inc. (10.20).z
2.3 Stock and Asset Purchase Agreement, dated as of March 4, 1998, by and
among Mac-Gray Services, Inc., Amerivend Corporation, Amerivend
Southeast Corporation, Gerald E. Pulver and Gerald E. Pulver Grantor
Retained Annuity Trust. (10.24).*
3.1 Amended and Restated Certificate of Incorporation (3.1).+
3.2 By-laws (3.2).+
4.1 Specimen certificate for shares of Common Stock, $.01 par value, of
the Registrant (4.1).+
10.1 Stockholders' Agreement dated as of April 17, 1997 by and among the
Registrant and certain stockholders of the Registrant (10.1).+
10.2 Stockholders' Agreement dated as of June 26, 1997 by and among the
Registrant and certain stockholders of the Registrant (10.2).+
10.3 Agreement and Plan of Merger dated as of April 17, 1997 by and among
the Registrant and the other parties named therein (10.3).+
10.4 Credit Agreement dated April 23, 1998, by and among the Registrant,
the other Borrowers (as defined therein), the lenders named therein
and State Street Bank and Trust Company, as agent (10.4).*
10.5 Security Agreement dated as of April 23, 1998 by and among the
Registrant, the other Borrowers (as defined therein) and the Banks (as
defined therein) (10.5).*
10.6 Revolving Line of Credit Note dated April 23, 1998 issued by the
Registrant in favor of the Banks (as defined therein) (10.6).*
10.7 Pledge Agreement dated as of April 23, 1998 by and among the
Registrant and the Banks (as defined therein) (10.7).*
10.8 Confidentiality and Noncompetition Agreement dated as of September 4,
1990, as amended on March 25, 1993, by and between the Registrant and
Caldwell and Gregory, Inc. (10.8).+
10.9 Consulting Agreement dated as of April 17, 1997 by and among the
Registrant and Jeffrey C. Huenink (10.9).+
10.10 Noncompetition Agreement dated as of April 17, 1997 by and among
Registrant and Jeffrey C. Huenink (10.10).+
10.11 Form of Noncompetition Agreement between the Registrant and its
executive officers (10.11).+
10.12 Form of Maytag Licensing Agreement for "Red Carpet Service" (10.12).+
10.13 Form of Maytag Distributorship Agreements (10.13).+
10.14 Promissory Note dated December 31, 1992 issued by the Registrant in
favor of Donald M. Shaw (10.14).+
10.15 Consulting and Noncompete Agreement dated December 31, 1992 by and
between Donald M. Shaw and the Registrant (10.15).+
10.16 The Registrant's 1997 Stock Option and Incentive Plan (with form of
option agreements attached as exhibits) (10.16).+
10.17 Form of Director Indemnification Agreement between the Registrant and
each of its Directors (10.17).+
10.18 Form of Registration Rights Agreement by and among the Registrant,
Robert P. Bennett, Gelco Corporation, Eastech II Limited Partnership
and Eastech III Limited Partnership (10.18).*
10.19 Form of Escrow Agreement by and among the Registrant, Gelco
Corporation, Michael Shanahan, the former securityholders of Intirion
Corporation and State Street Bank and Trust Company, as escrow agent
(10.19).*
10.20 Form of Noncompetition Agreement by and between the Registrant and
Robert P. Bennett (10.22).*
10.21 Distribution Agreement by and between Schlumberger Technologies, Inc.
and Mac-Gray Services, Inc., dated as of October 27, 1997 (certain
portions of this exhibit were omitted pursuant to the grant of a
request for confidential treatment) (10.23).*
10.22 Registration Rights Agreement dated April 23, 1998 by and among Mac-
Gray Corporation, Peter B. Finn, Edward J. Goulart, Ronald R. Jalbert,
Robert W. LaRoche, David Luongo, Joseph J. Tischler and Massachusetts
Capital Resource Company (10.1).z
21.1 Subsidiaries of the Registrant (21.1).z
23.1 Consent of PricewaterhouseCoopers LLP.
27.1 Financial Data Schedule.