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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2002
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 333-40907
TOWN SPORTS INTERNATIONAL, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
NEW YORK 13-2749906
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
888 SEVENTH AVENUE
NEW YORK, NEW YORK 10106
TELEPHONE: (212) 246-6700
(ADDRESS, ZIP CODE, AND TELEPHONE NUMBER, INCLUDING
AREA CODE, OF REGISTRANTS PRINCIPAL EXECUTIVE OFFICE.)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 and 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter periods that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
[X] Yes [ ] No
Indicate the number of shares outstanding of each of the registrant's
classes of common stock, as of the latest practicable date. 1,028,698.
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TOWN SPORTS INTERNATIONAL, INC. AND SUBSIDIARIES
FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 2002
INDEX
PAGE
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
a) Condensed Consolidated Balance Sheets as of December
31, 2001 and June 30, 2002.......................... 2
b) Condensed Consolidated Statements of Operations for
the three and six months ended June 30, 2001 and
2002................................................ 3
c) Condensed Consolidated Statements of Cash Flows for
the six months ended June 30, 2001 and 2002......... 4
d) Notes to Condensed Consolidated Financial
Statements.......................................... 5
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations............... 8
PART II. OTHER INFORMATION
Item 1. Legal Proceedings................................. 14
Item 2. Changes in Securities............................. 14
Item 3. Defaults upon Senior Securities................... 14
Item 4. Submission of Matters to a Vote of Security
Holders................................................ 14
Item 5. Other Information................................. 14
Item 6. Exhibits and Reports on Form 8-K.................. 14
SIGNATURES.................................................. 15
1
TOWN SPORTS INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
ALL FIGURES $'000, EXCEPT SHARE DATA
DECEMBER 31, 2001 AND JUNE 30, 2002
DECEMBER 31, JUNE 30,
2001 2002
------------ -----------
(UNAUDITED)
ASSETS
Current assets:
Cash and cash equivalents................................. $ 5,458 $ 4,831
Accounts receivable....................................... 1,355 865
Inventory................................................. 1,326 1,420
Prepaid expenses and other current assets................. 3,113 3,726
-------- --------
Total current assets............................... 11,252 10,842
Fixed assets, net of accumulated depreciation of $78,680 and
$91,488 at December 31, 2001 and June 30, 2002,
respectively.............................................. 200,120 210,116
Goodwill (net of accumulated amortization of $13,557)....... 42,145 41,550
Intangible assets, net of accumulated amortization of
$15,325 and $17,189 at December 31, 2001 and June 30,
2002, respectively........................................ 6,515 4,923
Deferred tax asset.......................................... 19,092 21,167
Deferred membership costs................................... 14,748 15,237
Other assets................................................ 2,133 1,913
-------- --------
Total assets....................................... $296,005 $305,748
======== ========
LIABILITIES, REDEEMABLE SENIOR PREFERRED STOCK AND STOCKHOLDERS' DEFICIT
Current liabilities:
Current portion of long-term debt and capital lease
obligations............................................. $ 4,015 $ 4,672
Accounts payable.......................................... 7,615 2,067
Accrued expenses.......................................... 18,474 18,402
Corporate income taxes payable............................ 444 1,777
Deferred revenue.......................................... 23,269 28,425
-------- --------
Total current liabilities.......................... 53,817 55,343
Long-term debt and capital lease obligations................ 159,964 157,020
Deferred lease liabilities.................................. 21,510 22,630
Deferred revenue............................................ 3,609 4,702
Other liabilities........................................... 4,783 7,887
-------- --------
Total liabilities.................................. 243,683 247,582
-------- --------
Redeemable senior preferred stock, $1.00 par value;
liquidation value $57,416 and $60,961 at December 31,
2001, and June 30, 2002, respectively; authorized 100,000
shares; 40,000 shares issued and outstanding at December
31, 2001 and June 30, 2002................................ 54,687 58,302
-------- --------
Stockholders' deficit:
Series A preferred stock, at liquidation value............ 30,432 32,562
Series B preferred stock, at liquidation value............ 265 284
Class A voting common stock, $.001 par value; 1,028,698
shares issued and outstanding........................... 1 1
Paid-in capital........................................... 11,695 12,250
Unearned compensation..................................... (422) (376)
Foreign currency translation adjustment................... 21 140
Accumulated deficit....................................... (44,357) (44,997)
-------- --------
Total stockholders' deficit........................ (2,365) (136)
-------- --------
Total liabilities, redeemable senior preferred
stock and stockholders' deficit................... $296,005 $305,748
======== ========
See notes to the condensed consolidated financial statements.
2
TOWN SPORTS INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2001 AND 2002
ALL FIGURES $'000
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------- --------------------------
2001 2002 2001 2002
----------- ----------- ----------- -----------
(UNAUDITED) (UNAUDITED) (UNAUDITED) (UNAUDITED)
Revenues:
Club operations............................ $70,041 $79,546 $136,881 $155,920
Fees and other............................. 824 908 1,624 1,842
------- ------- -------- --------
70,865 80,454 138,505 157,762
------- ------- -------- --------
Operating expenses:
Payroll and related (includes $240 and $320
of compensation expense in connection
with stock options, recorded in equity
for the three months ended June 30, 2001
and 2002, respectively; and $635 and
$601 for the six months ended June 30,
2001 and 2002, respectively.)........... 27,641 33,168 54,642 64,440
Club operating............................. 21,315 24,028 42,399 48,342
General and administrative................. 4,723 4,907 9,001 9,885
Depreciation and amortization.............. 7,913 7,979 15,755 15,944
------- ------- -------- --------
61,592 70,082 121,797 138,611
------- ------- -------- --------
Operating income........................... 9,273 10,372 16,708 19,151
Interest expense............................. 3,714 4,160 7,565 8,284
Interest income.............................. (116) (38) (263) (77)
------- ------- -------- --------
Income before provision for corporate
income tax and cumulative effect of
change in accounting principle.......... 5,675 6,250 9,406 10,944
Provision for corporate income tax........... 2,688 2,790 4,542 5,130
------- ------- -------- --------
Income before cumulative effect of a change
in accounting principle................. 2,987 3,460 4,864 5,814
Cumulative effect of a change in accounting
principle, net of income tax benefit of
$612.................................... -- -- -- 689
------- ------- -------- --------
Net Income................................. 2,987 3,460 4,864 5,125
Accreted dividends on preferred stock........ (2,487) (2,815) (4,943) (5,594)
------- ------- -------- --------
Net income (loss) attributable to common
stockholders............................ $ 500 $ 645 $ (79) $ (469)
======= ======= ======== ========
See notes to the condensed consolidated financial statements.
3
TOWN SPORTS INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2001 AND 2002
ALL FIGURES $'000
SIX MONTHS ENDED
JUNE 30,
--------------------------
2001 2002
----------- -----------
(UNAUDITED) (UNAUDITED)
Cash flows from operating activities:
Net income................................................ $ 4,864 $ 5,125
-------- --------
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization............................. 15,755 15,944
Goodwill impairment write-off............................. -- 1,301
Compensation expense in connection with stock options..... 635 601
Noncash rental expense, net of noncash rental income...... 1,432 904
Share of net income in affiliated companies............... (366) (324)
Amortization of debt issuance costs....................... 941 946
Change in certain working capital components.............. 6,306 6,356
Increase in deferred tax asset............................ (2,043) (2,075)
Increase in deferred membership costs..................... (1,270) (489)
Other..................................................... 158 130
-------- --------
Total adjustments....................................... 21,548 23,294
-------- --------
Net cash provided by operating activities............... 26,412 28,419
-------- --------
Cash flows from investing activities:
Capital expenditures, net of effects of acquired
businesses.............................................. (20,425) (27,533)
Acquisition of businesses................................. (301) (348)
Intangible and other assets............................... (219) 220
Landlord contributions.................................... 210 3,452
-------- --------
Net cash used in investing activities................... (20,735) (24,209)
-------- --------
Cash flows from financing activities:
Net line of credit borrowings (repayment)................. 1,000 (5,000)
Subordinated credit borrowings, net of expenses........... -- 2,810
Repayments of notes for acquired businesses and capital
lease obligations borrowings............................ (1,738) (2,647)
-------- --------
Net cash used in financing activities................... (738) (4,837)
-------- --------
Net increase (decrease) in cash and cash equivalents.... 4,939 (627)
Cash and cash equivalents at beginning of period............ 3,365 5,458
-------- --------
Cash and cash equivalents at end of period.............. 8,304 4,831
======== ========
Summary of change in certain working capital components, net
of effects of acquired businesses:
Decrease in accounts receivable........................... $ 198 201
Increase in inventory..................................... (503) (94)
Decrease (increase) in prepaid expenses, prepaid income
taxes and other current assets.......................... 1,507 (289)
(Decrease) increase in accounts payable and accrued
expenses................................................ (126) 547
Increase in deferred revenue.............................. 5,230 5,991
-------- --------
Net changes in working capital.......................... $ 6,306 6,356
======== ========
Supplemental disclosures of cash flow information:
The Company assumed $445 of long term debt in connection with a club
acquisition during the six months ended June 30, 2002.
Noncash investing and financing activities:
The Company acquired $1,889 and $1,565 of club equipment financed by
lessors during the six months ended June 30, 2002 and June 30, 2001,
respectively.
See notes to the condensed consolidated financial statements.
4
TOWN SPORTS INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2001 AND JUNE 30, 2002
ALL FIGURES (UNAUDITED)
1. BASIS OF PRESENTATION
The condensed consolidated financial statements included herein have been
prepared by the Company pursuant to the rules and regulations of the Securities
and Exchange Commission ("SEC"). The condensed consolidated financial statements
should be read in conjunction with the Company's December 31, 2001 consolidated
financial statements and notes thereto, included on Form 10-K. The year-end
condensed balance sheet data was derived from audited financial statements, but
does not include all disclosures required by accounting principles generally
accepted in the United States of America. Certain information and footnote
disclosures which are normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted pursuant to SEC rules and regulations. The Company believes that the
disclosures made are adequate to make the information presented not misleading.
The information reflects all adjustments which, in the opinion of Management,
are necessary for a fair presentation of the financial position and results of
operations for the interim periods set forth herein. All such adjustments,
except for the cumulative effect of a change in accounting principle, are of a
normal and recurring nature. The results for the three and the six months ended
June 30, 2002 are not necessarily indicative of the results for the entire
fiscal year ending December 31, 2002.
2. LONG-TERM DEBT AND CAPITAL LEASE OBLIGATIONS
DECEMBER 31, JUNE 30,
2001 2002
($'000) ($'000)
------------ ---------
Series B 9 3/4% Senior Notes, due 2004...................... $125,000 $125,000
Line of credit borrowings................................... 22,745 17,768
Subordinated credit borrowings.............................. 6,000 9,000
Notes payable for acquired businesses....................... 2,931 2,383
Capital lease obligations................................... 7,303 7,541
-------- --------
163,979 161,692
Less, Current portion due within one year................... 4,015 4,672
-------- --------
Long-term portion........................................... $159,964 $157,020
======== ========
The Company has a line of credit, with its principal banks for direct
borrowings and letters of credit of up to $25.0 million. The line of credit
carries interest at the Company's option, based upon the Eurodollar borrowing
rate plus 2.50% or the bank's prime rate plus 1.50%, as defined. There were
$17.8 million of Eurodollar borrowings outstanding as of June 30, 2002 and
outstanding letters of credit issued totaled $1.9 million. As of June 30, 2002
the interest rate charged on the outstanding Eurodollar borrowings was 4.50%.
The unutilized portion of the line of credit as of June 30, 2002 was $5.4
million. This line of credit expires on July 15, 2004.
The line of credit contains various covenants including interest coverage
and a leverage ratio as well as restrictions on the payment of dividends.
In November 2000, the Company entered into a Subordinated Credit Agreement
(the "Agreement") which provides for up to $20.0 million of principal borrowings
and expires December 31, 2004. The interest on principal borrowings accrues at
the greater of 12.75% or the bank's prime rate plus 3.0% per annum. On a monthly
basis, 9.75% is payable and the remaining 3.0% is accruable or payable at the
option of the Company through maturity. As of June 30, 2002 the rate in effect
was 12.75%. There were $9.0 million of outstanding borrowings under the
agreement as of June 30, 2002. The Agreement contains similar, but less
restrictive covenants than those of the line of credit.
5
3. SEPTEMBER 11 EVENTS
The terrorist attacks of September 11, 2001 ("the September 11 events"),
resulted in a tremendous loss of life and property. Secondarily, those events
interrupted the operations at four of our clubs located in downtown Manhattan.
Three of the effected four clubs have been reopened and were back in operation
by October 2001. Because of its close proximity to the World Trade Center, the
fourth club, although not structurally damaged, remains closed.
The Company carries business interruption insurance to mitigate certain
lost revenue and profits experienced with the September 11 events. In this
regard in the third quarter of 2001 a $175,000 insurance receivable was recorded
representing our estimate of costs incurred in September 2001. Such costs
include rent, payroll, benefits, and other club operating costs incurred during
periods of club closure. In February 2002 we received an initial policy payment
of $350,000 from our insurance carrier covering the receivable and a payment in
reimbursement of business interruption losses.
Although the Company has business interruption insurance to cover certain
lost profits at this fourth location, we cannot predict with any degree of
certainty what future amounts will actually be received from the insurance
carrier. Furthermore management cannot at this time determine whether the assets
related to this club location have been permanently impaired. We will continue
to gather information to better assess whether or not the assets of this club
have been permanently impaired. We are communicating with our insurance carrier
on an ongoing basis in order to better assess the relief we could expect to
receive for such coverage.
4. RECENT ACCOUNTING PRONOUNCEMENTS
In July 2001, the Financial Accounting Standards Board ("FASB") issued
Statement No. 141, Business Combinations and Statement No. 142, Goodwill and
Other Intangible Assets ("SFAS 142"). These statements significantly affect the
financial accounting and the reporting for business combinations, goodwill and
intangible assets. SFAS 142 requires that goodwill be allocated to reporting
units and that goodwill and intangibles assets with indefinite useful lives not
be amortized over their useful lives, but rather be tested for impairment upon
implementation of this standard and at least annually thereafter. Amortizable
intangible assets will be subject to the impairment provisions of Statement No.
144 Accounting for the Impairment or Disposal of Long-Lived Assets ("SFAS 144").
Consequently, there is no transitional impairment test for these assets.
However, SFAS 142 requires that the useful lives of these amortizable intangible
assets be reassessed. The transitional impairment test should be completed in
the first interim period (or in case of goodwill in the first six months) of the
fiscal year in which SFAS 142 is adopted, and any resulting impairment loss
should be recognized as the effect of a change in accounting principle in
accordance with Accounting Principles Board Opinion No. 20, Accounting Changes.
Any subsequent impairment losses resulting from events or circumstances that
occur after the first day of the fiscal year in which SFAS 142 is adopted should
be reported as a component of income from continuing or discontinued operations,
as appropriate. These statements apply to all business combinations that are
initiated or completed after June 30, 2001 and the effective date of these
pronouncements for the Company is January 1, 2002.
Effective January 1, 2002 the Company implemented SFAS 142. There were no
changes to the estimated useful lives of amortizable intangible assets due to
the SFAS 142 implementation. In connection with the SFAS 142 transition
impairment test the Company recorded a $1.3 million write-off of goodwill. A
deferred tax benefit of $612,000 was recorded as a result of this goodwill
write-off, resulting in a net cumulative effect of change in accounting
principle of $689,000, in the first quarter of 2002. The write-off of goodwill
related to four, remote underperforming clubs. The impairment test was performed
with discounted estimated future cash flows as the criteria for determining fair
market value. Goodwill has been allocated to reporting units that closely
reflect the regions served by our four trade names; New York Sports Club, Boston
Sports Club, Washington Sports Club and Philadelphia Sports Club, with certain
more remote clubs that do not benefit from a regional cluster being considered
single reporting units.
6
A reconciliation of reported net income for the three and six month periods
June 30, 2001 to net income adjusted for the impact of SFAS 142 over that same
period is as follows:
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, 2001 JUNE 30, 2001
(000'S) (000'S)
------------------ ----------------
Net income as reported...................................... $2,987 $4,864
Goodwill amortization....................................... 1,070 2,166
Deferred tax benefit........................................ (365) (730)
------ ------
Net income as adjusted...................................... $3,692 $6,300
====== ======
A summary of the Company's acquired amortizable intangible assets as of
June 30, 2002 is as follows:
AS OF JUNE 30, 2002
(000'S)
------------------------------------------------------------------
GROSS CARRYING AMOUNT ACCUMULATED AMORTIZATION NET INTANGIBLES
ACQUIRED INTANGIBLE ASSETS --------------------- ------------------------ ---------------
Membership Lists...................... $ 9,834 $ (9,656) $178
Covenants-not-to-compete.............. 1,276 (1,023) 253
Beneficial Lease...................... 223 (157) 66
------- -------- ----
$11,333 $(10,836) $497
======= ======== ====
The amortization expense of the above acquired intangible assets for each
of the five years ending December 31, 2006 will be as follows:
AGGREGATE AMORTIZATION EXPENSE (000'S)
--------------------------------------
For the year ended 12/31/02(a).............................. $1,053
For the year ended 12/31/03................................. 265
For the year ended 12/31/04................................. 19
For the year ended 12/31/05................................. 11
For the year ended 12/31/06................................. 10
------
$1,358
======
- ---------------
(a) Amortization expense for the three and six months ended June 30, 2002
amounted to $417 and $861 respectively.
7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
INTRODUCTION
We are one of the two leading owners and operators of fitness clubs in the
Northeast and Mid-Atlantic regions of the United States. As of June 30, 2002, we
operated 127 clubs that collectively served approximately 337,000 members. We
develop clusters of clubs to serve densely populated major metropolitan regions
in which a high percentage of the population commutes to work. We service such
populations by clustering clubs near the highest concentrations of our target
customers' areas of both employment and residence. Our target customer is
college-educated, typically between the ages of 18 and 54 and earns an annual
income in excess of fifty thousand dollars.
Our goal is to develop the premier health club network in each of the major
metropolitan regions we enter. We believe that clustering clubs allows us to
achieve strategic operating advantages that enhance our ability to achieve this
goal. In entering new regions, we develop these clusters by initially opening or
acquiring clubs located in the more central urban markets of the region and then
branching out from these urban centers to suburban commuter communities.
Capitalizing on this clustering of clubs, as of June 30, 2002, approximately 45%
of our members participated in a membership plan that allows unlimited access to
all of our clubs for a higher membership fee.
We have executed this strategy successfully in the New York region through
the network of clubs we operate under our New York Sports Club ("NYSC") brand
name. We are the largest fitness club operator in Manhattan with 36 locations
and operate a total of 83 clubs under the NYSC name within a defined radius of
New York City. We operate 20 clubs in the Boston region and 15 clubs in the
Washington, DC region under our Boston Sports Club ("BSC") and Washington Sports
Club ("WSC") trade names, respectively and have begun establishing a similar
cluster in the Philadelphia region with six clubs under our Philadelphia Sports
Club ("PSC") trade name. In addition we operate three clubs in Switzerland. We
employ localized trade names for our clubs to create an image and atmosphere
consistent with the local community, and to foster the recognition as a local
network of quality fitness clubs rather than a national chain.
Our operating and selling expenses are comprised of both fixed and variable
costs. The fixed costs include salary expense, rent, utilities, janitorial
expenses and depreciation. Variable costs are primarily related to sales
commissions, advertising and supplies. As clubs mature and increase their
membership base, fixed costs are typically spread over an increasing revenue
base and operating margins tend to improve.
HISTORICAL CLUB GROWTH
The following table sets forth our club growth during each of the quarters
in 2001 and each of the first two quarters in 2002.
2001 2002
--------------------------------- -----------
Q1 Q2 Q3 Q4 TOTAL Q1 Q2
--- --- --- --- ----- ---- ---
Clubs at beginning of period.............. 105 108 110 112 105 119 126
Greenfield clubs(a)....................... 2 2 1 7 12 6 1
Acquired clubs............................ 1 -- 1 -- 2 1 --
--- --- --- --- --- ---- ---
Clubs at end of period(b)................. 108 110 112 119 119 126 127
=== === === === === ==== ===
Number of partly owned clubs included at
the end of the period................... 2 2 2 2 2 2 2
- ---------------
(a) A "Greenfield club" is a new location constructed by the Company.
(b) As described in the September 11 Events discussion, a single club has been
temporarily closed due to its proximity to the World Trade Center. This club
is included in the total clubs at the end of period for all periods
presented.
Note: The Company includes in the club count wholly and partly owned clubs. In
addition to the above count, as of December 31, 2001 and June 30, 2002 the
Company managed two additional clubs, in which it did not have an equity
stake.
8
RESULTS OF OPERATIONS
The following table sets forth certain operating data as a percentage of
revenue for the periods indicated:
THREE MONTHS SIX MONTHS
ENDED ENDED
JUNE 30, JUNE 30,
-------------- --------------
2001 2002 2001 2002
----- ----- ----- -----
Revenue..................................................... 100.0% 100.0% 100.0% 100.0%
----- ----- ----- -----
Operating expenses
Payroll and related....................................... 39.0 41.2 39.5 40.8
Club operating............................................ 30.1 29.9 30.6 30.6
General and administrative................................ 6.7 6.1 6.5 6.3
Depreciation and amortization............................. 11.2 9.9 11.4 10.1
----- ----- ----- -----
Operating income.......................................... 13.0 12.9 12.0 12.2
Interest expense............................................ 5.2 5.1 5.5 5.3
Interest income............................................. (0.2) -- (0.2) --
----- ----- ----- -----
Income before provision for corporate income tax.......... 8.0 7.8 6.7 6.9
Provision for corporate income tax.......................... 3.8 3.5 3.3 3.2
----- ----- ----- -----
Income before cumulative effect of change in accounting
principle................................................. 4.2 4.3 3.4 3.7
Cumulative effect of a change in accounting principle, net
of income tax benefit..................................... -- -- -- 0.4
----- ----- ----- -----
Net income................................................ 4.2 4.3 3.4 3.3
Accreted dividends on preferred stock....................... (3.5) (3.5) (3.6) (3.5)
----- ----- ----- -----
Net income (loss) attributable to common stockholders..... 0.7% 0.8% (0.2)% (0.2)%
===== ===== ===== =====
Three Months Ended June 30, 2002 Compared to Three Months Ended June 30, 2001
Revenues. Revenues increased approximately $9.6 million, or 13.5%, to
$80.5 million during the quarter ended June 30, 2002 from $70.9 million in the
quarter ended June 30, 2001. This increase resulted from the 14 clubs opened or
acquired the last two quarters of 2000 (approximately $1.2 million), 14 opened
or acquired during 2001 (approximately $4.7 million) and the eight clubs opened
or acquired in the first six months of 2002 (approximately $1.6 million). In
addition, revenues increased during the quarter by approximately $2.5 million or
4.1%, at the Company's mature clubs (clubs owned and operated for at least 24
months). The mature club revenue increase is due to three factors: 2.0% due to
an increase in membership, 1.7% from price increases and 0.4% from an increase
in ancillary revenue. These increases were partially offset by a decrease in
revenue at our downtown Manhattan club that has been temporarily closed because
of the September 11 events.
Operating Expenses. Operating expenses increased $8.5 million, or 13.8%,
to $70.1 million in the quarter ended June 30, 2002, from $61.6 million in the
quarter ended June 30, 2001. The increase was primarily due to a 15.3% increase
in total months of club operations (the aggregate number of full months of
operation during a given period for the clubs open at the end of such period) to
369 in the quarter ended June 30, 2002 from 320 in the quarter ended June 30,
2001, in addition to the following factors:
Payroll and related increased by $5.5 million, or 20.0% to $33.2
million in the quarter ended June 30, 2002, from $27.6 million in the
quarter ended June 30, 2001. This increase was principally attributable to
the acquisition or opening of 14 clubs in 2001 and the eight clubs opened
or acquired in the first six months of 2002. Payroll and related also
increased due to increases in health and worker's compensation insurance,
information technology staffing and payroll associated with fee-for-service
programs.
9
Club operating increased by $2.7 million or 12.7% to $24.0 million in
the quarter ended June 30, 2002, from $21.3 million in the quarter ended
June 30, 2001. This increase is primarily attributable to the acquisition
or opening of nine clubs in the last two quarters of 2001 and eight clubs
opened or acquired in the first six months of 2002.
General and administrative increased by $184,000, or 3.9% to $4.9
million in the quarter ended June 30, 2002, from $4.7 million, in the
quarter ended June 30, 2001. This increase is attributable to a $288,000
increase in casualty insurance offset by decreases in other administrative
costs.
Depreciation and amortization increased by $66,000, or 0.8% to $8.0
million in the quarter ended June 30, 2002, from $7.9 million in the
quarter ended June 30, 2001. A $1.2 million increase in depreciation and
amortization is principally attributable to a full period of depreciation
and amortization for fixed assets, additions, acquisitions or club openings
since January 1, 2001 and the increase of fixed assets arising out of the
acquisition or opening of eight new clubs during the first quarter of 2002.
This was partially offset by a $1.1 million decrease in goodwill
amortization.
Interest Expense. Interest expense increased $446,000 to $4.2 million
during the quarter ended June 30, 2002, from $3.7 million in the quarter ended
June 30, 2001. This increase was primarily due to increased line of credit and
subordinated debt borrowings associated with the Company's expansion.
Interest Income. Interest income decreased $78,000 to $38,000 during the
quarter ended June 30, 2002 from $116,000 in the quarter ended June 30, 2001.
The decrease in interest income was due to lower levels of cash on hand earning
lower interest rates in the quarter ended June 30, 2002 when compared to the
same period of 2001.
Provision for Corporate Income Tax. The income tax provision for the
quarter ended June 30, 2002 was $2.8 million compared to $2.7 million for the
quarter ended June 30, 2001. The effective tax rate decreased from 47.4% to
44.6% for the quarter ended June 30, 2002 when compared to the quarter ended
June 30, 2001. This decrease is principally due to permanent differences related
to goodwill amortization recorded in 2001, while in 2002 such amortization was
not recorded due to implementation of SFAS 142.
Accreted Dividends on Preferred Stock. Accreted dividends on the preferred
stock increased $328,000 to $2.8 million during the quarter ended June 30, 2002,
from $2.5 million in the quarter ended June 30, 2001. This increase is a result
of the compounding of accreted dividends.
Six Months Ended June 30, 2002 Compared to Six Months Ended June 30, 2001
Revenues. Revenues increased approximately $19.3 million, or 13.9%, to
$157.8 million for the six months ended June 30, 2002, from $138.5 million for
the six months ended June 30, 2001. This increase resulted from the 14 clubs
opened or acquired the last two quarters of 2000 (approximately $2.8 million),
14 opened or acquired during 2001 (approximately $9.1 million) and the eight
clubs opened or acquired in the first six months of 2002 (approximately $2.4
million). In addition, revenues increased during the six months by approximately
$5.3 million or 4.4%, at the Company's mature clubs (clubs owned and operated
for at least 24 months). The mature club revenue increase is due to three
factors: 2.6% due to an increase in membership, 1.5% from price increases and
0.3% from an increase in ancillary revenue. These increases were partially
offset by a decrease in revenue at our downtown Manhattan club that has been
temporarily closed because of the September 11 events.
Operating Expenses. Operating expenses increased $16.8 million, or 13.8%
to $138.6 million for the six months ended June 30, 2002, from $121.8 million
for the six months ended June 30, 2001. The increase was primarily due to a
14.6% increase in total months of club operations to 728 for the six months
ended June 30, 2002 from 635 for the six months ended June 30, 2001, in addition
to the following factors:
Payroll and related increased by $9.8 million, or 17.9% to $64.4
million for the six months ended June 30, 2002, from $54.6 million for the
six months ended June 30, 2001. This increase was principally
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attributable to the acquisition or opening of 14 clubs in 2001 and the
eight opened or acquired clubs in the first six months of 2002.
Club operating increased by $5.9 million or 14.0% to $48.3 million for
the six months ended June 30, 2002, from $42.4 million for the six months
ended June 30, 2001. This increase is attributable to the acquisition or
opening of nine clubs in the last two quarters of 2001 and eight opened or
acquired clubs in the first six months of 2002.
General and administrative increased by $884,000, or 9.8% to $9.9
million for the six months ended June 30, 2002, from $9.0 million, for the
six months ended June 30, 2001. This increase is principally attributable
to a $743,000 increase in casualty insurance.
Depreciation and amortization increased by $189,000, or 1.2% to $15.9
million for the six months ended June 30, 2002, from $15.8 million for the
six months ended June 30, 2001. The $2.3 million increase in depreciation
and amortization is principally attributable to a full period of
depreciation and amortization for fixed assets, additions, acquisitions or
club openings since January 1, 2001 and the increase of fixed assets
arising out of the acquisition or opening of eight new clubs during the
first six months of 2002. This was partially offset by a $2.2 million
decrease in goodwill amortization.
Interest Expense. Interest expense increased $719,000 to $8.3 million for
the six months ended June 30, 2002, from $7.6 million for the six months ended
June 30, 2001. This increase was primarily due to increased line of credit and
subordinated debt borrowings associated with the Company's expansion.
Interest Income. Interest income decreased $186,000 to $77,000 for the six
months ended June 30, 2002, from $263,000 for the six months ended June 30,
2001. This decrease is primarily due to lower levels of cash on hand earning
lower interest rates in the six months ended June 30, 2002 when compared to the
same period of 2001.
Provision for Corporate Income Tax. The income tax provision for the six
months ended June 30, 2002 was $5.1 million compared to a tax provision of $4.5
million for the six months ended June 30, 2001. The effective tax rate decreased
from 48.3% to 46.9% for the six months ended June 30, 2002 when compared to the
six months ended June 30, 2001. This decrease is principally due to permanent
timing differences related to goodwill amortization recorded in 2001; while in
2002 such amortization was not recorded due to the implementation of SFAS 142.
Cumulative Effect of Change in Accounting Principle. In connection with
the implementation of SFAS 142 the Company recorded a goodwill write-off of $1.3
million, in the first quarter of 2002. A deferred tax benefit of $612,000 was
recorded in connection with this goodwill write-off resulting in a net
cumulative effect of change in Accounting Principle of $689,000 during the six
months ended June 30, 2002.
Accreted Dividends on Preferred Stock. Accreted dividends on the preferred
stock increased $651,000 to $5.6 million during the six months ended June 30,
2002, from $4.9 million during the six months ended June 30, 2001. This increase
is a result of the compounding of accreted dividends.
LIQUIDITY AND CAPITAL RESOURCES
Historically, the Company has satisfied its liquidity needs through cash
from operations and various borrowing arrangements. Principal liquidity needs
have included the acquisition and development of new clubs, debt service
requirements and other capital expenditures necessary to maintain existing
clubs.
Operating Activities. Net cash provided by operating activities for the
six months ended June 30, 2002 was $28.4 million compared to $26.4 million for
the six months ended June 30, 2001, an increase of $2.0 million. Cash flows from
operations has improved as the profitability of the mature club base and the
clubs opened or acquired during the last two quarters of 2000, continues to
improve. The balance of the increase is principally due to an increase in the
working capital deficit of the Company. The Company received a tax refund of
approximately $1.2 million during the first six months of 2001. Excluding cash
and cash equivalents, the Company normally operates with a working capital
deficit because it receives dues or fee revenue either (i) during the month
services are rendered, or (ii) when paid-in-full, in advance. As a result,
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the Company has no material accounts receivable. In addition, because initiation
fees are received at enrollment and are recognized over the estimated average
term of membership, the Company records a deferred revenue liability. Management
believes that the Company's working capital deficit is an important source of
cash flow from operating activities that it believes will continue to grow as
the Company's membership revenues increase.
Investing Activities. The Company invested $24.2 million in capital
expenditures and a club acquisition net of landlord contributions during the six
months ended June 30, 2002. The Company currently estimates total capital
expenditure and asset acquisition requirements for the remaining six months of
2002 to approximate $17.3 million, which includes $6.1 million to renovate and
expand certain existing clubs, $4.1 million to maintain certain existing clubs
and $1.1 million to further upgrade its management information systems.
Financing Activities. As of June 30, 2002, the Company had $125.0 million
of Senior Notes outstanding. Under the provisions of the Senior Note Indenture,
the Company may not issue additional Senior Notes without modification of the
indenture with the bondholders' consent. The Company's line of credit with its
principal bank provides for direct borrowings and letters of credit of up to
$25.0 million. As of June 30, 2002, $17.8 million of Eurodollar borrowings are
outstanding under this line at an interest rate of 4.50%. As of June 30, 2002,
the Company has approximately $5.4 million available under the line of credit,
which matures in July 2004, and has no scheduled amortization requirements. The
Company also has a $20.0 million subordinated credit facility which expires in
December, 2004, under which there are $9.0 million of outstanding borrowings as
of June 30, 2002. As of June 30, 2002 the interest rate charged on outstanding
subordinated debt was 12.75%. The line of credit contains restrictive covenants
including a leverage ratio and interest coverage ratio and dividend payment
restrictions and is collateralized by all the assets of the Company. The
subordinated credit facility contains similar, but less restrictive covenants
than those of the line of credit. As of June 30, 2002 the Company's Net Leverage
Ratio, and Net Interest Coverage Ratio as defined by the terms of the line of
credit agreement are 2.3 and 4.8 to 1.0, respectively. The Company's ability to
incur additional debt is limited by the terms line of credit facility in that
the Net Leverage Ratio, as defined, cannot exceed 3.0 to 1.0 and the Net
Interest Coverage Ratio must be greater than 3.0 to 1.0. In addition the Senior
Note indenture limits the incurrence of additional indebtedness unless the
consolidated fixed charge coverage ratio, as defined in the Indenture, is
greater than 2.0 to 1.0 after giving effect to such additional indebtedness. The
Company's common stock is not publicly traded and therefore its ability to raise
equity financing is not as readily available as for companies that have publicly
traded common stock.
Although management believes that the Company will be able to obtain or
generate sufficient funds to finance the Company's current operating and growth
plans through the end of 2003, any material acceleration or expansion of that
plan through additional greenfields or acquisitions (to the extent such
acquisitions include cash payments) may require the Company to pursue additional
sources of financing prior to the end of 2003. There can be no assurance that
such financing will be available, or that it will be available on acceptable
terms. The inability to finance such further or accelerated expansion on
acceptable terms may negatively impact the Company's competitive position and/or
materially adversely affect the Company's business, results of operations or
financial condition. The line of credit accrues interest at variable rates based
on market conditions, accordingly, future increases in interest rates could have
a negative impact on net income.
The Senior Notes, the line of credit facility and the subordinated credit
facility expire in the second half of 2004. The Company intends to refinance the
long-term debt facilities prior to their expiration. The Company will explore a
variety of refinancing options including: new borrowing facilities, private
equity offerings, initial public equity offerings, and strategic partnering, but
at this time there are no definitive plans in place. There can be no assurances
that long-term financing will be available to the Company on acceptable terms.
The Company's inability to obtain acceptable long-term financing may negatively
impact the Company's competitive position and or materially adversely affect the
Company's business, results of operations or financial condition.
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SEPTEMBER 11 EVENTS
The terrorist attacks of September 11, 2001 ("the September 11 events"),
resulted in a tremendous loss of life and property. Secondarily, those events
have interrupted the operations at four of our clubs located in downtown
Manhattan. Three of the effected four clubs have been reopened and were back in
operation by October 2001. Because of its close proximity to the World Trade
Center the fourth club, although not structurally damaged, remains closed.
The Company carries business interruption insurance to mitigate certain
lost revenue and profits experienced with the September 11 events. In this
regard in the third quarter of 2001 a $175,000 insurance receivable was recorded
representing our estimate of costs incurred in September 2001. Such costs
include rent, payroll, benefits, and other club operating costs incurred during
periods of club closure. In February 2002 we received an initial policy payment
of $350,000 from our insurance carrier covering the receivable and a payment in
reimbursement of business interruption losses.
Although the Company has business interruption insurance to cover certain
lost profits at this fourth location, we cannot predict with any degree of
certainty what future amounts will actually be received from the insurance
carrier. Furthermore management cannot at this time determine whether the assets
related to this club location have been permanently impaired. We will continue
to gather information to better assess whether or not the assets of this club
have been permanently impaired. We are communicating with our insurance carrier
on an ongoing basis in order to better assess the relief we could expect to
receive for such coverage.
FORWARD-LOOKING STATEMENTS
Certain statements in this report on Form 10-Q of the Company for the six
month period ended June 30, 2002 are forward-looking statements, including,
without limitation, statements regarding future financial results and
performance, and potential sales revenue. These statements are subject to
various risks and uncertainties, many of which are outside the control of the
Company, including the level of market demand for the Company's services,
competitive pressures, the ability to achieve reductions in operating costs and
to continue to integrate acquisitions, the application of Federal and state tax
laws and regulations, and other specific factors discussed herein and in other
Securities and Exchange Commission filings by the Company. The information
contained herein represents management's best judgement as of the date hereof
based on information currently available; however, the Company does not intend
to update this information, except as required by law to reflect development or
information obtained after the date hereof and disclaims any legal obligation to
the contrary.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
Not applicable.
ITEM 2. CHANGES IN SECURITIES.
Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
ITEM 5. OTHER INFORMATION.
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
Exhibit 99.1 Certification of Chief Executive Officer.
Exhibit 99.2 Certification of Chief Financial Officer.
Exhibit 99.3 Certification of Vice President, Finance.
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SIGNATURES
Pursuant to requirements 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.
TOWN SPORTS INTERNATIONAL, INC.
(Registrant)
DATE: August 6, 2002 By: /s/ RICHARD PYLE
--------------------------------------------------------
Richard Pyle
Chief Financial Officer, Office of the President
(principal financial, accounting officer)
DATE: August 6, 2002 By: /s/ ROBERT GIARDINA
--------------------------------------------------------
Robert Giardina
Chief Executive Officer
(principal executive officer)
15