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FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended March 31, 2004 Commission File Number 0-21054
SYNAGRO TECHNOLOGIES, INC.
(Exact name of Registrant as specified in its Charter)
DELAWARE 76-0511324
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
1800 BERING DRIVE, SUITE 1000
HOUSTON, TEXAS 77057
(Address of principal executive offices) (Zip Code)
(713) 369-1700
(Registrant's telephone number, including area code)
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 is
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 whether the Registrant is an accelerated filer as defined
in Rule 12b-2 of the Exchange Act.
Yes [ ] No [X]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the close of the latest practicable date.
CLASS OUTSTANDING AT MAY 7, 2004
- ----------------------------- --------------------------
Common stock, par value $.002 19,775,821
SYNAGRO TECHNOLOGIES, INC.
INDEX
PAGE
----
PART I - FINANCIAL INFORMATION
Condensed Consolidated Balance Sheets as of March 31, 2004
(Unaudited), and December 31, 2003 (Derived From Audited Financial
Statements) ............................................................ 3
Condensed Consolidated Statements of Operations for the
Three Months Ended March 31, 2004 and 2003 (Unaudited) ............. 4
Condensed Consolidated Statement of Stockholders' Equity (Unaudited) ... 5
Condensed Consolidated Statements of Cash Flows for the
Three Months Ended March 31, 2004 and 2003 (Unaudited) ............. 6
Notes to Condensed Consolidated Financial Statements ................... 7
Management's Discussion and Analysis of Financial
Condition and Results of Operations ................................ 20
Item 3. Quantitative and Qualitative Disclosures About Market Risk ..... 25
Item 4. Controls and Procedures ........................................ 25
PART II - OTHER INFORMATION ............................................ 26
2
SYNAGRO TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS EXCEPT SHARE DATA)
MARCH 31, DECEMBER 31,
2004 2003
--------- ---------
(DERIVED
FROM AUDITED
FINANCIAL
(UNAUDITED) STATEMENTS)
ASSETS
Current Assets:
Cash and cash equivalents .............................. $ 185 $ 206
Restricted cash ........................................ 1,636 1,410
Accounts receivable, net ............................... 57,154 59,581
Note receivable, current ............................... 620 342
Prepaid expenses and other current assets .............. 15,056 10,840
--------- ---------
Total current assets ................................ 74,651 72,379
Property, machinery & equipment, net ...................... 216,933 213,697
Other Assets:
Goodwill ............................................... 172,398 172,398
Restricted cash - construction fund .................... 9,417 12,184
Restricted cash - debt service fund .................... 7,918 7,275
Other, net ............................................. 15,307 14,091
--------- ---------
Total assets .............................................. $ 496,624 $ 492,024
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Current maturities of long-term debt ................... $ 890 $ 955
Current maturities of nonrecourse project revenue bonds. 2,570 2,570
Current maturities of capital lease obligations ........ 2,678 2,678
Accrued interest payable ............................... 8,630 4,222
Accounts payable and accrued expenses .................. 47,627 43,257
--------- ---------
Total current liabilities ........................... 62,395 53,682
Long-Term Debt:
Long-term debt obligations, net ........................ 190,385 194,084
Nonrecourse project revenue bonds, net ................. 62,308 62,301
Capital lease obligations, net ......................... 12,112 12,748
--------- ---------
Total long-term debt ................................ 264,805 269,133
Other long-term liabilities ......................... 16,744 17,536
--------- ---------
Total liabilities ................................ 343,944 340,351
Commitments and Contingencies
Redeemable Preferred Stock, 69,792.29 shares issued and
outstanding, redeemable at $1,000 per share ............ 88,438 86,299
Stockholders' equity:
Preferred stock, $.002 par value, 10,000,000 shares
authorized, none issued and outstanding .............. -- --
Common stock, $.002 par value, 100,000,000 shares
authorized, 19,775,821 and 19,775,821 shares issued and
outstanding, respectively ............................ 40 40
Additional paid-in capital ............................. 79,975 82,113
Accumulated deficit .................................... (14,597) (15,477)
Accumulated other comprehensive loss ................... (1,176) (1,302)
--------- ---------
Total stockholders' equity .......................... 64,242 65,374
--------- ---------
Total liabilities and stockholders' equity ................ $ 496,624 $ 492,024
========= =========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
SYNAGRO TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS EXCEPT SHARE DATA)
THREE MONTHS ENDED
MARCH 31,
-------------------------------
2004 2003
------------ ------------
Revenue ......................................................... $ 72,660 $ 63,229
Cost of services ................................................ 60,344 51,387
------------ ------------
Gross profit .................................................... 12,316 11,842
Selling, general and administrative expenses .................... 5,822 6,305
------------ ------------
Income from operations ....................................... 6,494 5,537
------------ ------------
Other expense:
Other (income) expense, net .................................. (118) 29
Interest expense, net ........................................ 5,169 5,848
------------ ------------
Total other expense, net .................................. 5,051 5,877
------------ ------------
Income (loss) before provision (benefit) for income taxes ....... 1,443 (340)
Provision (benefit) for income taxes ......................... 563 (129)
------------ ------------
Net income (loss) before cumulative effect of change
in accounting for asset retirement obligations and
preferred stock dividends .................................... 880 (211)
Cumulative effect of change in accounting for
asset retirement obligations, net of tax benefit of $292 ..... -- 476
------------ ------------
Net income (loss) before preferred stock dividends .............. 880 (687)
Preferred stock dividends ....................................... 2,138 1,975
------------ ------------
Net loss applicable to common stock ............................. $ (1,258) $ (2,662)
============ ============
Loss per share:
Basic
Loss per share before cumulative effect of change
in accounting for asset retirement obligations ............ $ (0.06) $ (0.11)
Cumulative effect of change in accounting for
asset retirement obligations .............................. -- (0.02)
------------ ------------
Net loss per share ........................................... $ (0.06) $ (0.13)
============ ============
Diluted
Loss per share before cumulative effect of change
in accounting for asset retirement obligations ............ $ (0.06) $ (0.11)
Cumulative effect of change in accounting for
asset retirement obligation ............................... -- (0.02)
------------ ------------
Net loss per share ........................................... $ (0.06) $ (0.13)
============ ============
Weighted average shares:
Weighted average shares outstanding for basic earnings per
share calculation ........................................ 19,775,821 19,775.821
Effect of dilutive stock options ............................. -- --
Effect of convertible preferred stock under the "if converted"
method ................................................... -- --
------------ ------------
Weighted average shares outstanding for diluted earnings per
share ................................................... 19,775,821 19,775,821
============ ============
The accompanying notes are an integral part of these condensed
consolidated financial statements.
4
SYNAGRO TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(UNAUDITED)
(IN THOUSANDS EXCEPT SHARE DATA)
COMMON STOCK ACCUMULATED
-------------------------- ADDITIONAL OTHER
PAID-IN ACCUMULATED COMPREHENSIVE COMPREHENSIVE
SHARES AMOUNT CAPITAL DEFICIT INCOME (LOSS) TOTAL INCOME
---------- ---------- ------- ------- -------------- ----- ------
BALANCE, January 1, 2004 ..... 19,775,821 $ 40 $ 82,113 $ (15,477) $ (1,302) $ 65,374 $ --
Change in other
comprehensive income .... -- -- -- -- 126 126 126
Preferred stock dividends . -- -- (2,138) -- -- (2,138) (2,138)
Net income before preferred
stock dividends ......... -- -- -- 880 -- 880 880
---------- ---------- ---------- ---------- ---------- ---------- ----------
BALANCE, March 31, 2004 ...... 19,775,821 $ 40 $ 79,975 $ (14,597) $ (1,176) $ 64,242 $ (1,132)
========== ========== ========== ========== ========== ========== ==========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
5
SYNAGRO TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
THREE MONTHS ENDED MARCH 31,
----------------------------
2004 2003
-------- --------
Cash flows from operating activities:
Net loss applicable to common stock ...................... $ (1,258) $ (2,662)
Adjustments to reconcile net income applicable to common
stock to net cash provided by operating activities:
Preferred stock dividends ........................... 2,138 1,975
Cumulative effect of change in accounting for
asset retirement obligations, net ................ -- 476
Depreciation and amortization ....................... 4,632 4,181
Amortization of debt financing costs ................ 267 395
Provision (benefit) for deferred income taxes ....... 563 (129)
Gain on sale of property, machinery and equipment ... (158) --
(Increase) decrease in the following, net:
Accounts receivable .............................. 2,427 2,906
Prepaid expenses and other assets ................ 1,464 (742)
Increase (decrease) in the following:
Accrued interest payable ......................... 4,407 4,483
Accounts payable and accrued expenses
and other long-term liabilities ............... (2,748) (2,126)
-------- --------
Net cash provided by operating activities ................ 11,734 8,757
-------- --------
Cash flows from investing activities:
Purchases of property, machinery and equipment ........ (4,216) (3,928)
Facility construction funded by restricted cash ....... (2,768) (263)
Proceeds from sale of property, machinery and equipment 283 --
(Increase) decrease in restricted cash for facility
construction ....................................... 2,768 (13)
Other ................................................. (280) (200)
-------- --------
Net cash used in investing activities ................. (4,213) (4,404)
-------- --------
Cash flows from financing activities:
Payments of debt ...................................... (6,498) (3,448)
Debt issuance costs ................................... (175) --
Increase in restricted cash for debt service .......... (869) (971)
-------- --------
Net cash used in financing activities ................. (7,542) (4,419)
-------- --------
Net decrease in cash and cash equivalents ................... (21) (66)
Cash and cash equivalents, beginning of period .............. 206 239
-------- --------
Cash and cash equivalents, end of period .................... $ 185 $ 173
======== ========
Supplemental Cash Flow Information
Interest paid during the period .......................... $ 506 $ 601
Taxes paid during the period ............................. $ 288 $ 154
The accompanying notes are an integral part of these condensed consolidated
financial statements.
6
SYNAGRO TECHNOLOGIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(1) BASIS OF PRESENTATION
GENERAL
The accompanying unaudited, condensed consolidated financial statements have
been prepared by Synagro Technologies, Inc. ("Synagro" or the "Company")
pursuant to the rules and regulations of the Securities and Exchange Commission.
These condensed consolidated financial statements reflect all normal recurring
adjustments which are, in the opinion of management, necessary for the fair
presentation of such financial statements for the periods indicated. Certain
information relating to the Company's organization and footnote disclosures
normally included in financial statements prepared in accordance with generally
accepted accounting principles has been condensed or omitted in this Form 10-Q
pursuant to Rule 10-01 of Regulation S-X for interim financial statements
required to be filed with the Securities and Exchange Commission. However, the
Company believes that the disclosures herein are adequate to make the
information presented not misleading. The results for the three months ended
March 31, 2004, are not necessarily indicative of future operating results. It
is suggested that these financial statements be read in conjunction with the
financial statements and notes thereto included in the Company's Annual Report
on Form 10-K for the year ended December 31, 2003.
The accounting policies followed by the Company in preparing interim
consolidated financial statements are consistent with those described in the
"Notes to Consolidated Financial Statements" in the Company's Form 10-K for the
year ended December 31, 2003.
Synagro Technologies, Inc., a Delaware corporation, and collectively with its
subsidiaries is a national water and wastewater residuals management company
serving more than 1,000 municipal and industrial water and wastewater treatment
plants with operations in 37 states and the District of Columbia. Synagro offers
services that focus on the beneficial reuse of organic nonhazardous residuals
resulting from the water and wastewater treatment process. Synagro provides its
customers with complete, vertically integrated services and capabilities,
including facility operations, facility cleanout services, regulatory
compliance, dewatering, collection and transportation, composting, drying and
pelletization, product marketing, incineration, alkaline stabilization, and land
application.
ACCOUNTING PRONOUNCEMENTS
On January 1, 2003, the Company adopted Statement on Financial Accounting
Standards ("SFAS") No. 143, "Asset Retirement Obligations." SFAS No. 143
requires entities to record the fair value of a liability for an asset
retirement obligation in the period in which it is incurred and a corresponding
increase in the carrying amount of the related long-lived asset. Subsequently,
the asset retirement cost should be allocated to expense using a systematic and
rational method. The Company's asset retirement obligations primarily consist of
equipment dismantling and foundation removal at certain facilities and temporary
storage facilities. During the first quarter of 2003, the Company recorded a
charge related to the cumulative effect of change in accounting for asset
retirement obligations, net of tax, totaling approximately $0.5 million
(approximately $0.8 million before tax), increased liabilities to approximately
$1.6 million, and increased property, plant and equipment by approximately $0.5
million. There was no impact on the Company's cash flows as a result of adopting
SFAS No. 143. The asset retirement obligation, which is included on the
condensed consolidated balance sheet in other long-term liabilities including
accretion of approximately $0.1 million, was approximately $1.7 million at March
31, 2004.
In December 2002, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure -
An Amendment of FASB Statement No. 123." SFAS No. 148 provides alternative
methods of transition for a voluntary change to the fair-value-based method of
accounting for stock-based employee compensation. Companies must disclose in
both annual and interim financial statements the method used to account for
stock-based compensation. The Company will continue to apply Accounting
Principles Board ("APB") Opinion No. 25 and related interpretations in
accounting for its plans. Therefore, no compensation cost has been recognized in
the accompanying condensed consolidated financial statements for the Company's
stock option plans.
7
Had the Company elected to apply SFAS No. 123, the Company's net loss and loss
per diluted share would have approximated the pro forma amounts indicated below:
THREE MONTHS ENDED MARCH 31,
------------------------------
2004 2003
---------- ----------
(in thousands except per share data)
Net loss applicable to common stock, as
reported..................................... $ (1,258) $ (2,662)
Less: Compensation expense per SFAS No.
123, net of tax ............................. $ 271 $ 363
---------- ----------
Pro forma loss after effect of SFAS No. 123.. $ (1,529) $ (3,025)
========== ==========
Diluted loss per share, as reported.......... $ (0.06) $ (0.13)
Pro forma loss per share after effect of
SFAS No. 123................................. $ (0.08) $ (0.15)
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option-pricing model resulting in a weighted average fair value of
$2.35 and $0.73 for grants made during the quarters ended March 31, 2004 and
2003, respectively. The following assumptions were used for option grants made
during the quarters ended March 31, 2004 and 2003, respectively: expected
volatility of 105 percent and 25 percent; risk-free interest rates of 3.98
percent and 4.05 percent; expected lives of up to ten years and no expected
dividends to be paid. The compensation expense included in the above pro forma
data may not be indicative of amounts to be included in future periods as the
fair value of options granted prior to 1995 was not determined and the Company
expects future grants.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity." SFAS No. 150
established standards for how an issuer classifies and measures in its statement
of financial position certain financial instruments with characteristics of both
liabilities and equity. SFAS No. 150 is effective for financial instruments
entered into or modified after May 31, 2003, and otherwise is effective at the
beginning of the first interim period beginning after June 15, 2003, and must be
applied prospectively by reporting the cumulative effect of a change in an
accounting principle for financial instruments created before the issuance date
of the statement and still existing at the beginning of the interim period of
adoption.
While the Company does have mandatory redeemable preferred stock with
characteristics of both liabilities and equity, this stock is also convertible
to shares of the Company's common stock at the option of the holder up until the
mandatory redemption date. Additionally, the option feature held by the holder
is considered to be substantive as the conversion price was less than the market
price at the date of issuance. Based on the above features of the preferred
stock, the adoption of SFAS No. 150 did not have a material effect on its
financial position, results of operations or cash flows.
In January 2003, the FASB issued FIN 46, "Consolidation of Variable Interest
Entities". FIN 46 defines a variable interest entity as an entity in which
equity investors do not have the characteristics of a controlling financial
interest or do not have sufficient equity at risk for the entity to finance its
activities without additional subordinated financial support from other parties.
FIN 46 requires an entity to consolidate a variable interest entity if that
entity will absorb a majority of the variable interest entity's expected losses
if they occur, receive a majority of the variable interest entity's expected
residual returns if they occur, or both. FIN 46 is effective for all new
variable interest entities created or acquired after January 31, 2003. For
variable interest entities created or acquired prior to February 1, 2003, the
provisions of the pronouncement were initially to be effective for the first
interim or annual period beginning after June 15, 2003. However, in October
2003, the FASB delayed the effective date of FIN 46 on these entities to the
first period beginning after December 15, 2003. We have determined that we do
not have any variable interest entities at March 31, 2004, as defined by the
pronouncement.
USE OF ESTIMATES
In preparing financial statements in conformity with accounting principles
generally accepted in the United States, management makes estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the financial
statements, as well as the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates. The
following are the Company's significant estimates and assumptions made in
preparation of its financial statements:
8
Allowance for Doubtful Accounts -- The Company estimates losses for
uncollectible accounts based on the aging of the accounts receivable and the
evaluation and the likelihood of success in collecting the receivable. Allowance
for doubtful accounts was approximately $1.5 million at March 31, 2004 and
December 31, 2003.
Loss Contracts -- The Company evaluates its revenue producing contracts to
determine whether the projected revenues of such contracts exceed the direct
cost to service such contracts. These evaluations include estimates of the
future revenues and expenses. Accruals for loss contracts are adjusted based on
these evaluations.
Property and Equipment/Long-Lived Assets - Property and equipment is reviewed
for impairment pursuant to the provisions of SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets". The carrying amount of an asset
(group) is considered impaired if it exceeds the sum of the Company's estimate
of the undiscounted future cash flows expected to result from the use and
eventual disposition of the asset (group), excluding interest charges.
The Company regularly incurs costs to develop potential projects or facilities
and procure contracts for the design, permitting, construction and operations of
facilities. The Company has recorded $17.9 million in property and long-term
assets related to these activities at March 31, 2004, compared to $14.7 million
at December 31, 2003. The Company routinely reviews the status of each of these
projects to determine if these costs are realizable. If the Company is
unsuccessful in obtaining the required permits, government approvals, or
fulfilling the contract requirements, these costs will be expensed.
Goodwill -- Goodwill attributable to the Company's reporting units is tested for
impairment by comparing the fair value of each reporting unit with its carrying
value. Significant estimates used in the determination of fair value include
estimates of future cash flows, future growth rates, costs of capital and
estimates of market multiples. As required under current accounting standards,
the Company tests for impairment annually at year end unless factors become
known that impairment may have occurred prior to year end.
Purchase Accounting -- The Company estimates the fair value of assets, including
property, machinery and equipment and its related useful lives and salvage
values, and liabilities when allocating the purchase price of an acquisition to
the acquired assets and liabilities.
Income Taxes -- The Company assumes the deductibility of certain costs in its
income tax filings and estimates the recovery of deferred income tax assets. The
ultimate realization of deferred tax assets is dependent upon the generation of
future taxable income during the periods in which the activity underlying these
assets becomes deductible. The Company considers the scheduled reversal of
deferred tax liabilities, projected future taxable income and tax planning
strategies in making this assessment. If actual future taxable income differs
from its estimates, the Company may not realize deferred tax assets to the
extent it was estimated.
Legal and Contingency Accruals -- The Company estimates and accrues the amount
of probable exposure it may have with respect to litigation, claims and
assessments. These estimates are based on management's facts and the
probabilities of the ultimate resolution of the litigation.
Self-Insurance Reserves - The Company is substantially self-insured for worker's
compensation, employer's liability, auto liability, general liability and
employee group health claims in view of the relatively high per-incident
deductibles the Company absorbs under its insurance arrangements for these
risks. Losses up to deductible amounts are estimated and accrued based on known
facts, historical trends, industry averages and actuarial assumptions regarding
future claims development and claims incurred but not reported.
Actual results could differ materially from the estimates and assumptions that
the Company uses in the preparation of its financial statements.
(2) ACQUISITIONS
In May 2003, the Company purchased Aspen Resources, Inc. ("Aspen"). The purchase
of Aspen provides the Company with added expertise in the management of pulp and
paper organic residuals. The allocation of purchase price resulted in
approximately $3.2 million of goodwill. The assets acquired and liabilities
assumed relating to the acquisition are summarized below (in thousands):
Cash paid, including transaction costs, net of cash
acquired........................................... $ 3,832
Note payable to seller............................. 500
Less: Net assets acquired......................... (1,182)
-----------
Goodwill........................................... $ 3,150
===========
9
If certain post-closing conditions are met as defined in the purchase agreement,
the note payable to the former owners is due in equal, monthly installments with
interest payable at an annual rate of five percent. The Company believes these
post-closing conditions will be met.
Results of operations of Aspen are included in the accompanying condensed
consolidated statements of operations as of May 7, 2003. Pro forma results of
operations, as if Aspen had been acquired as of the beginning of its respective
acquisition year, have not been presented as such results are not considered to
be materially different from the Company's actual results.
(3) PREFERRED STOCK
PREFERRED STOCK
The Company is authorized to issue up to 10,000,000 shares of Preferred Stock,
which may be issued in one or more series or classes by the Board of Directors.
Each such series or class shall have such powers, preferences, rights and
restrictions as determined by resolution of the Board of Directors. Series A
Junior Participating Preferred Stock will be issued upon exercise of the
Stockholders' Rights described below.
SERIES D REDEEMABLE PREFERRED STOCK
The Company has authorized 32,000 shares of Series D Preferred Stock, par value
$.002 per share. In 2000, the Company issued a total of 25,033.601 shares of the
Series D Preferred Stock to GTCR Fund VII, L.P. and its affiliates, which is
convertible by the holders into a number of shares of the Company's common stock
computed by dividing (i) the sum of (a) the number of shares to be converted
multiplied by the liquidation value and (b) the amount of accrued and unpaid
dividends by (ii) the conversion price then in effect. The initial conversion
price is $2.50 per share, provided that in order to prevent dilution, the
conversion price may be adjusted. The Series D Preferred Stock is senior to the
Company's common stock and any other of its equity securities. The liquidation
value of each share of Series D Preferred Stock is $1,000 per share. Dividends
on each share of Series D Preferred Stock accrue daily at the rate of eight
percent per annum on the aggregate liquidation value and may be paid in cash or
accrued, at the Company's option. Upon conversion of the Series D Preferred
Stock by the holders, the holders may elect to receive the accrued and unpaid
dividends in shares of the Company's common stock at the conversion price. The
Series D Preferred Stock is entitled to one vote per share. Shares of Series D
Preferred Stock are subject to mandatory redemption by the Company on January
26, 2010, at a price per share equal to the liquidation value plus accrued and
unpaid dividends. If the outstanding shares of Series D Preferred Stock,
excluding accrued dividends, were converted at March 31, 2004, they would
represent 10,013,441 shares of common stock.
SERIES E REDEEMABLE PREFERRED STOCK
The Company has authorized 55,000 shares of Series E Preferred Stock, par value
$.002 per share. GTCR Fund VII, L.P. and its affiliates own 37,504.229 shares of
Series E Preferred Stock and certain affiliates of The TCW Group, Inc. own
7,254.462 shares. The Series E Preferred Stock is convertible by the holders
into a number of shares of the Company's common stock computed by dividing (i)
the sum of (a) the number of shares to be converted multiplied by the
liquidation value and (b) the amount of accrued and unpaid dividends by (ii) the
conversion price then in effect. The initial conversion price is $2.50 per
share, provided that in order to prevent dilution, the conversion price may be
adjusted. The Series E Preferred Stock is senior to the Company's common stock
and any other of its equity securities. The liquidation value of each share of
Series E Preferred Stock is $1,000 per share. Dividends on each share of Series
E Preferred Stock accrue daily at the rate of eight percent per annum on the
aggregate liquidation value and may be paid in cash or accrued, at the Company's
option. Upon conversion of the Series E Preferred Stock by the holders, the
holders may elect to receive the accrued and unpaid dividends in shares of the
Company's common stock at the conversion price. The Series E Preferred Stock is
entitled to one vote per share. Shares of Series E Preferred Stock are subject
to mandatory redemption by the Company on January 26, 2010, at a price per share
equal to the liquidation value plus accrued and unpaid dividends. If the
outstanding shares of Series E Preferred Stock, excluding accrued dividends,
were converted at March 31, 2004, they would represent 17,903,475 shares of
common stock.
The future issuances of Series D and Series E Preferred Stock may result in
noncash beneficial conversions valued in future periods recognized as preferred
stock dividends if the market value of the Company's common stock is higher than
the conversion price at date of issuance.
10
(4) STOCKHOLDERS' RIGHTS PLAN
In December 1996, the Company adopted a stockholders' rights plan (the "Rights
Plan"). The Rights Plan provides for a dividend distribution of one preferred
stock purchase right ("Right") for each outstanding share of the Company's
common stock, to stockholders of record at the close of business on January 10,
1997. The Rights Plan is designed to deter coercive takeover tactics and to
prevent an acquirer from gaining control of the Company without offering a fair
price to all of the Company's stockholders. The Rights will expire on December
31, 2006.
Each Right entitles stockholders to buy one one-thousandth of a newly issued
share of Series A Junior Participating Preferred Stock of the Company at an
exercise price of $10. The Rights are exercisable only if a person or group
acquires beneficial ownership of 15 percent or more of the Company's common
stock or commences a tender or exchange offer which, if consummated, would
result in that person or group owning 15 percent or more of the common stock of
the Company. However, the Rights will not become exercisable if common stock is
acquired pursuant to an offer for all shares which a majority of the Board of
Directors determines to be fair to and otherwise in the best interests of the
Company and its stockholders. If, following an acquisition of 15 percent or more
of the Company's common stock, the Company is acquired by that person or group
in a merger or other business combination transaction, each Right would then
entitle its holder to purchase common stock of the acquiring company having a
value of twice the exercise price. The effect will be to entitle the Company
stockholders to buy stock in the acquiring company at 50 percent of its market
price.
The Company may redeem the Rights at $.001 per Right at any time on or prior to
the tenth business day following the acquisition of 15 percent or more of its
common stock by a person or group or commencement of a tender offer for such 15
percent ownership.
(5) DEBT
Long-term debt obligations consist of the following:
MARCH 31, DECEMBER 31,
2004 2003
--------- ------------
(in thousands)
Credit facility - term loans ............. $ 38,411 $ 44,274
Senior subordinated notes ................ 150,000 150,000
Fair value adjustment of subordinated debt
as a result of interest rate swaps ..... 1,344 (755)
Notes payable to sellers of acquired
businesses ............................... 1,500 1,500
Other notes payable ...................... 20 20
--------- ---------
Total debt ........................ $ 191,275 $ 195,039
Less: Current maturities ................ (890) (955)
--------- ---------
Long-term debt, net of current
maturities .................. $ 190,385 $ 194,084
========= =========
CREDIT FACILITY
On January 27, 2000, the Company entered into a $110 million amended and
restated Senior Credit Agreement (the "Senior Credit Agreement") by and among
the Company, Bank of America, N.A., and certain other lenders to fund working
capital for acquisitions, to refinance existing debt, to provide working capital
for operations, to fund capital expenditures and for other general corporate
purposes. The Senior Credit Agreement was subsequently syndicated on March 15,
2000, and amended August 14, 2000, and February 25, 2002, to increase the
capacity. The Senior Credit Agreement was amended and restated on May 8, 2002.
The Senior Credit Agreement bears interest at LIBOR or prime plus a margin based
on a pricing schedule as set out in the Senior Credit Agreement.
During May 2003, the Company further amended its credit facility to increase the
revolving loan commitment to approximately $95 million.
The current loan commitments under the Senior Credit Agreement are as follows:
(i) Revolving Loan up to $95 million outstanding at any one time;
(ii) Term B Loans (which, once repaid, may not be reborrowed) of $70
million; and
11
(iii) Letters of Credit up to $50 million as a subset of the Revolving
Loan. At March 31, 2004, the Company had approximately $32.9 million
of Letters of Credit outstanding.
The total credit facility can be increased to $150 million upon the request of
the Company and bank approval. The amounts borrowed under the Senior Credit
Agreement are subject to repayment as follows:
REVOLVING TERM
PERIOD ENDING DECEMBER 31, LOAN LOANS
- ----------------------------------- --------- -----
2002 ............................. -- 0.25%
2003 ............................. -- 1.00%
2004 ............................. -- 1.00%
2005 ............................. -- 1.00%
2006 ............................. -- 1.00%
2007 ............................. 100.00% 1.00%
2008 ............................. -- 94.75%
------ ------
100.00% 100.00%
The Senior Credit Agreement includes mandatory repayment provisions related to
excess cash flows, proceeds from certain asset sales, debt issuances and equity
issuances, all as defined in the Senior Credit Agreement. These mandatory
repayment provisions may also reduce the available commitment. The Senior Credit
Agreement contains standard covenants including compliance with laws,
limitations on capital expenditures, restrictions on dividend payments,
limitations on mergers and compliance with financial covenants. The Company was
in compliance with those covenants as of March 31, 2004. The Senior Credit
Agreement is collateralized by all the assets of the Company and expires on
December 31, 2008. As of March 31, 2004, the Company had approximately $62.1
million of unused borrowings under the Senior Credit Agreement, of which
approximately $26.5 million is available for borrowing based on the ratio
limitations included in the Senior Credit Agreement. On March 9, 2004, the
Company amended its credit facility to, among other things, exclude certain
charges from its financial covenant calculations, to clarify certain defined
terms, to increase the amount of indebtedness permitted under its total leverage
ratio, and to reset capital and operating lease limitations.
SENIOR SUBORDINATED NOTES
In April 2002, the Company issued $150 million aggregate in principal amount of
its 9 1/2 percent Senior Subordinated Notes due on April 1, 2009 (the "Notes").
The Notes are unsecured senior indebtedness and are guaranteed by all of the
Company's existing and future domestic subsidiaries, other than subsidiaries
treated as unrestricted subsidiaries ("Guarantors"). As of March 31, 2004, all
subsidiaries, other than the subsidiaries formed to own and operate the
Sacramento dryer project, Synagro Organic Fertilizer Company of Sacramento, Inc.
and Sacramento Project Finance, Inc. (see Note 9), were Guarantors of the Notes.
Interest on the Notes accrues from April 17, 2002, and is payable semi-annually
on April 1 and October 1 of each year, commencing October 1, 2002. On or after
April 1, 2006, the Company may redeem some or all of the Notes at the redemption
prices (expressed as percentages of principal amount) listed below, plus accrued
and unpaid interest and liquidated damages, if any, on the Notes redeemed, to
the applicable date of redemption, if redeemed during the 12-month period
commencing on April 1 of the years indicated below:
YEARS LOAN
- ------------------ ----
2006.............. 104.750%
2007.............. 102.375%
2008 and thereafter 100.000%
At any time prior to April 1, 2005, the Company may redeem up to 35 percent of
the original aggregate principal amount of the Notes at a premium of 9 1/2
percent with the net cash of public offerings of equity, provided that at least
65 percent of the original aggregate principal amount of the Notes remains
outstanding after the redemption. Upon the occurrence of specified change of
control events, unless the Company has exercised its option to redeem all the
Notes as described above, each holder will have the right to require the Company
to repurchase all or a portion of such holder's Notes at a purchase price in
cash equal to 101 percent of the aggregate principal amount of the Notes
repurchased plus accrued and unpaid interest and liquidated damages, if any, on
the Notes repurchased, to the applicable date of purchase. The Notes were issued
under an indenture, dated as of April 17, 2002, among the Company, the
Guarantors and Wells Fargo Bank Minnesota, National Association, as trustee (the
"Indenture"). The Indenture limits the ability of the Company and the restricted
subsidiaries to, among other things, incur additional indebtedness and issue
preferred stock, pay dividends or make other distributions, make other
restricted payments and investments, create liens, incur restrictions on the
ability of certain of its subsidiaries to pay dividends or other payments to the
Company, enter into transactions with affiliates, and engage in mergers,
consolidations and certain sales of assets.
12
The Notes and the guarantees of the Guarantors are (i) unsecured; (ii)
subordinate in right of payment to all existing and future senior indebtedness
(including all borrowings under the credit facility and surety obligations) of
Synagro and the Guarantors; (iii) equal in right of payment to all future and
senior subordinated indebtedness of Synagro and the Guarantors; and (iv) senior
in right of payment to future subordinated indebtedness of Synagro and the
Guarantors.
DERIVATIVES AND HEDGING ACTIVITIES
On July 24, 2003, the Company entered into two interest rate swap transactions
with two financial institutions to hedge the Company's exposure to changes in
the fair value on $85 million of its Notes. The purpose of these transactions
was to convert future interest due on $85 million of the Notes to a lower
variable rate in an attempt to realize savings on the Company's future interest
payments. The terms of the interest rate swap contract and the underlying debt
instruments are identical. The Company has designated these swap agreements as
fair value hedges. The swaps have notional amounts of $50 million and $35
million and mature in April 2009 to mirror the maturity of the Notes. Under the
agreements, the Company pays on a semi-annual basis (each April 1 and October 1)
a floating rate based on a six-month U.S. dollar LIBOR rate, plus a spread, and
receives a fixed-rate interest of 9 1/2 percent. During the three months ended
March 31, 2004, the Company recorded interest savings related to these interest
rate swaps of $0.6 million, which served to reduce interest expense. The $1.3
million fair value of these derivative instruments is included in other
long-term assets, as of March 31, 2004. The carrying value of the Company's
Notes was increased by the same amount.
On June 25, 2001, the Company entered into a reverse swap on its 12 percent
subordinated debt and used the proceeds from the reverse swap agreement to
retire previously outstanding floating-to-fixed interest rate swap agreements
(the "Retired Swaps") and option agreements. Accordingly, the balance included
in accumulated other comprehensive loss included in stockholders' equity related
to the Retired Swaps is being recognized in future periods' income over the
remaining term of the original swap agreement. The amount of accumulated other
comprehensive income recognized for the period ended March 31, 2004, was
approximately $0.1 million.
The 12 percent subordinated debt was repaid on April 17, 2002, with the proceeds
from the sale of the Notes. On June 25, 2002, the Company entered into a
floating-to-fixed interest rate swap agreement that substantially offsets market
value changes in the Company's reverse swap agreement. The liability related to
this reverse swap agreement and the floating-to-fixed offset agreement totaling
approximately $2.9 million is reflected in other long-term liabilities at March
31, 2004. The gain recognized during the period ended March 31, 2004, related to
the floating-to-fixed interest rate swap agreement was approximately $1.3
million, while the loss recognized related to the reverse swap agreement was
approximately $1.3 million. The amount of the ineffectiveness of the reverse
swap agreement charged to other expense was approximately $40,000 for the period
ended March 31, 2004.
(6) NONRECOURSE PROJECT REVENUE BONDS
MARCH 31, DECEMBER 31,
2004 2003
--------- ------------
(in thousands)
Maryland Energy Financing Administration Limited
Obligation Solid Waste Disposal Revenue Bonds, 1996
series --
Revenue bonds due 2001 to 2005 at stated interest
rates of 5.45% to 5.85% .......................... $ 5,280 $ 5,280
Term revenue bond due 2010 at stated interest rate
of 6.30% ........................................ 16,295 16,295
Term revenue bond due 2016 at stated interest rate
of 6.45% ........................................ 22,360 22,360
-------- --------
43,935 43,935
California Pollution Control Financing Authority Solid
Waste
Revenue Bonds --
Series 2002A -- Revenue bonds due 2008 to 2024
at stated interest rates of 4.375% to 5.50% .... 19,741 19,741
Series 2002B -- Revenue bonds due 2006 at stated
interest rate of 4.25%, net of discount ........ 1,202 1,195
-------- --------
20,943 20,936
-------- --------
Total nonrecourse project revenue bonds ............... 64,878 64,871
Less: Current maturities ........................ (2,570) (2,570)
-------- --------
Nonrecourse project revenue bonds, net of current
maturities ...................................... $ 62,308 $ 62,301
======== ========
Amounts recorded in other assets as restricted cash -
debt service fund ................................ $ 7,918 $ 7,275
======== ========
13
In 1996, the Maryland Energy Financing Administration (the "Administration")
issued nonrecourse tax-exempt project revenue bonds (the "Maryland Project
Revenue Bonds") in the aggregate amount of $58.6 million. The Administration
loaned the proceeds of the Maryland Project Revenue Bonds to Wheelabrator Water
Technologies Baltimore L.L.C., now Synagro's wholly owned subsidiary known as
Synagro-Baltimore, L.L.C., pursuant to a June 1996 loan agreement, and the terms
of the loan mirror the terms of the Maryland Project Revenue Bonds. The loan
financed a portion of the costs of constructing thermal facilities located in
Baltimore County, Maryland, at the site of its Back River Wastewater Treatment
Plant, and in the City of Baltimore, Maryland, at the site of its Patapsco
Wastewater Treatment Plant. The Company assumed all obligations associated with
the Maryland Project Revenue Bonds in connection with its acquisition of the Bio
Gro division of Waste Management, Inc. ("Bio Gro") in 2000. Maryland Project
Revenue Bonds in the aggregate amount of approximately $14.6 million have
already been repaid. The remaining Maryland Project Revenue Bonds bear interest
at annual rates between 5.75 percent and 6.45 percent and mature on dates
between December 1, 2004, and December 1, 2016.
The Maryland Project Revenue Bonds are primarily collateralized by the pledge of
revenues and assets related to the Company's Back River and Patapsco thermal
facilities. The underlying service contracts between us and the City of
Baltimore obligated the Company to design, construct and operate the thermal
facilities and obligated the City of Baltimore to deliver biosolids for
processing at the thermal facilities. The City of Baltimore makes all payments
under the service contracts directly with a trustee for the purpose of paying
the Maryland Project Revenue Bonds.
At the Company's option, it may cause the redemption of the Maryland Project
Revenue Bonds at any time on or after December 1, 2006, subject to redemption
prices specified in the loan agreement. The Maryland Project Revenue Bonds will
be redeemed at any time upon the occurrence of certain extraordinary conditions,
as defined in the loan agreement.
Synagro-Baltimore, L.L.C. guarantees the performance of services under the
underlying service agreements with the City of Baltimore. Under the terms of the
Bio Gro acquisition purchase agreement, Waste Management, Inc. also guarantees
the performance of services under those service agreements. Synagro has agreed
to pay Waste Management $0.5 million per year beginning in 2007 until the
Maryland Project Revenue Bonds are paid or its guarantee is removed. Neither
Synagro-Baltimore, L.L.C. nor Waste Management has guaranteed payment of the
Maryland Project Revenue Bonds or the loan funded by the Maryland Project
Revenue Bonds.
The loan agreement, based on the terms of the related indenture, requires that
Synagro place certain monies in restricted fund accounts and that those funds be
used for various designated purposes (e.g., debt service reserve funds, bond
funds, etc.). Monies in these funds will remain restricted until the Maryland
Project Revenue Bonds are paid.
At March 31, 2004, the Maryland Project Revenue Bonds were collateralized by
property, machinery and equipment with a net book value of approximately $55.3
million and restricted cash of approximately $7.7 million, of which
approximately $6.2 million is in a debt service fund that is established to
partially secure certain payments and can be utilized to make the final payment
at the Company's request.
In December 2002, the California Pollution Control Financing Authority (the
"Authority") issued nonrecourse revenue bonds in the aggregate amount of $20.9
million (net of original issue discount of $0.4 million). The nonrecourse
revenue bonds consist of $19.7 million (net of original issue discount of $0.4
million) Series 2002-A ("Series A") and $1.2 million (net of original issue
discount of $9,000) Series 2002-B ("Series B") (collectively, the "Bonds"). The
Authority loaned the proceeds of the Bonds to Sacramento Project Finance, Inc.,
a wholly owned subsidiary of the Company, pursuant to a loan agreement dated
December 1, 2002. The purpose of the loan is to finance the design, permitting,
constructing and equipping of a biosolids dewatering and heat drying/pelletizing
facility for the Sacramento Regional Sanitation District. The Bonds bear
interest at annual rates between 4.25 percent and 5.5 percent and mature on
dates between December 1, 2006, and December 1, 2024. Currently, the Company is
in the design and permitting phases of the project.
The Bonds are primarily collateralized by the pledge of certain revenues and all
of the property of Sacramento Project Finance, Inc. The facility will be owned
by Sacramento Project Finance, Inc. and leased to Synagro Organic Fertilizer
Company of Sacramento, Inc., another wholly owned subsidiary of the Company.
Synagro Organic Fertilizer Company of Sacramento, Inc. will be obligated under a
lease agreement dated December 1, 2002, to pay base rent to Sacramento Project
Finance, Inc. in an amount exceeding the debt service of the Bonds. The facility
will be located on property owned by the Sacramento Regional County Sanitation
District ("Sanitation District"). The Sanitation District will provide the
principal source of revenues to Synagro Organic Fertilizer Company of
Sacramento, Inc. through a service fee under a contract that has been executed.
14
At the Company's option, it may cause the early redemption of some Series A and
Series B Bonds subject to redemption prices specified in the loan agreement.
The loan agreement requires that Sacramento Project Finance, Inc. place certain
monies in restricted accounts and that those funds be used for designated
purposes (e.g., operation and maintenance expense account, reserve requirement
accounts, etc.). Monies in these funds will remain restricted until the Bonds
are paid.
At March 31, 2004, the Bonds are partially collateralized by restricted cash of
approximately $11.1 million, of which approximately $1.7 million is in a debt
service fund that is established to secure certain payments and can be utilized
to make the final payment at the Company's request, and the remainder is
reserved for construction costs expected to be incurred after notice to proceed
is received. The Company is not a guarantor of the Bonds or the loan funded by
the Bonds.
Nonrecourse Project Revenue Bonds are excluded from the financial covenant
calculations required by the Company's Senior Credit Facility.
(7) COMMITMENTS AND CONTINGENCIES
REGULATORY MATTERS
The Company's business activities are subject to environmental regulation under
federal, state and local laws and regulations. In the ordinary course of
conducting its business activities, the Company becomes involved in judicial and
administrative proceedings involving governmental authorities at the federal,
state and local levels. The Company is required under various regulations to
procure licenses and permits to conduct its operations. These licenses and
permits are subject to periodic renewal without which the Company's operations
could be adversely affected. There can be no assurance that regulatory
requirements will not change to the extent that it would materially affect the
Company's consolidated financial statements.
LITIGATION
The Company's business activities are subject to environmental regulation under
federal, state and local laws and regulations. In the ordinary course of
conducting its business activities, the Company becomes involved in judicial and
administrative proceedings involving governmental authorities at the federal,
state and local levels. The Company believes that these matters will not have a
material adverse effect on its business, financial condition, results of
operations and cash flows. However, the outcome of any particular proceeding
cannot be predicted with certainty. The Company is required under various
regulations to procure licenses and permits to conduct its operations. These
licenses and permits are subject to periodic renewal without which its
operations could be adversely affected. There can be no assurance that
regulatory requirements will not change to the extent that it would materially
affect the Company's consolidated financial statements.
Reliance Insurance
For the 24 months ended October 31, 2000 (the "Reliance Coverage Period"), the
Company insured certain risks, including automobile, general liability, and
worker's compensation, with Reliance National Indemnity Company ("Reliance")
through policies totaling $26 million in annual coverage. On May 29, 2001, the
Commonwealth Court of Pennsylvania entered an order appointing the Pennsylvania
Insurance Commissioner as Rehabilitator and directing the Rehabilitator to take
immediate possession of Reliance's assets and business. On June 11, 2001,
Reliance's ultimate parent, Reliance Group Holdings, Inc., filed for bankruptcy
under Chapter 11 of the United States Bankruptcy Code of 1978, as amended. On
October 3, 2001, the Pennsylvania Insurance Commissioner removed Reliance from
rehabilitation and placed it into liquidation.
Claims have been asserted and/or brought against the Company and its affiliates
related to alleged acts or omissions occurring during the Reliance Coverage
period. It is possible, depending on the outcome of possible claims made with
various state insurance guaranty funds, that the Company will have no, or
insufficient, insurance funds available to pay any potential losses. There are
uncertainties relating to the Company's ultimate liability, if any, for damages
arising during the Reliance Coverage Period, the availability of the insurance
coverage, and possible recovery for state insurance guaranty funds.
In June 2002, the Company settled one such claim that was pending in Jackson
County, Texas. The full amount of the settlement was paid by insurance proceeds;
however, as part of the settlement, the Company agreed to reimburse the Texas
Property and Casualty
15
Insurance Guaranty Association an amount ranging from $0.625 to $2.5 million
depending on future circumstances. The Company believes accruals of
approximately $1.0 million as of March 31, 2004, are adequate to provide for its
exposures to the Texas Property and Casualty Insurance Guaranty Association for
costs associated with the settlement of this case and for unpaid insurance
claims and other costs for which coverage may not be available due to the
pending liquidation of Reliance. The final resolution of these exposures could
be substantially different from the amount recorded.
DESIGN AND BUILD CONTRACT RISK
The Company participates in design and build construction operations, usually as
a general contractor. Virtually all design and construction work is performed by
unaffiliated subcontractors. As a consequence, the Company is dependent upon the
continued availability of and satisfactory performance by these subcontractors
for the design and construction of its facilities. There is no assurance that
there will be sufficient availability of and satisfactory performance by these
unaffiliated subcontractors. In addition, inadequate subcontractor resources and
unsatisfactory performance by these subcontractors could have a material adverse
effect on the Company's business, financial condition and results of operation.
Further, as the general contractor, the Company is legally responsible for the
performance of its contracts and, if such contracts are under-performed or
nonperformed by its subcontractors, the Company could be financially
responsible. Although the Company's contracts with its subcontractors provide
for indemnification if its subcontractors do not satisfactorily perform their
contract, there can be no assurance that such indemnification would cover the
Company's financial losses in attempting to fulfill the contractual obligations.
OTHER
There are various other lawsuits and claims pending against the Company that
have arisen in the normal course of business and relate mainly to matters of
environmental, personal injury and property damage. The outcome of these matters
is not presently determinable but, in the opinion of the Company's management,
the ultimate resolution of these matters will not have a material adverse effect
on the consolidated financial condition, results of operations or cash flows of
the Company.
SELF-INSURANCE
The Company is substantially self-insured for worker's compensation, employer's
liability, auto liability, general liability and employee group health claims in
view of the relatively high per-incident deductibles the Company absorbs under
its insurance arrangements for these risks. Losses up to deductible amounts are
estimated and accrued based upon known facts, historical trends, industry
averages, and actuarial assumptions regarding future claims development and
claims incurred but not reported.
(8) EARNINGS PER COMMON SHARE
Basic earnings per share (EPS) is computed by dividing net income applicable to
common stock by the weighted average number of common shares outstanding for the
period. For periods in which the Company has reported a cumulative effect of an
accounting change, the Company uses income from continuing operations as the
"control number" in determining whether potential common shares are dilutive or
antidilutive. That is, the same number of potential common shares used in
computing the diluted per-share amount for income from continuing operations has
been used in computing all other reported diluted per-share amounts even if
those amounts will be antidilutive to their respective basic per-share amounts.
Diluted EPS is computed by dividing net income before preferred stock dividends
by the total of the weighted average number of common shares outstanding for the
period, the weighted average number of shares of common stock that would be
issued assuming conversion of the Company's preferred stock, and other common
stock equivalents for options and warrants outstanding determined using the
treasury stock method.
16
THREE MONTHS ENDED
MARCH 31,
-------------------------------
2004 2003
------------ ------------
(in thousands except share data)
Net income (loss) applicable to common stock:
Net income (loss) before cumulative effect of change
in accounting for asset retirement obligations
and preferred stock dividends ..................... $ 880 $ (211)
Cumulative effect of change in accounting for
asset retirement obligations ...................... -- 476
------------ ------------
Net income (loss) before preferred stock dividends ... 880 (687)
Preferred stock dividends ............................ 2,138 1,975
------------ ------------
Net loss applicable to common stock .................. $ (1,258) $ (2,662)
============ ============
Loss per share:
Basic
Loss per share before cumulative effect of
change in accounting for asset retirement
obligations .................................... $ (0.06) $ (0.11)
Cumulative effect of change in accounting for
asset retirement obligations ................... -- (0.02)
------------ ------------
Net loss per share ................................ $ (0.06) $ (0.13)
============ ============
Weighted average shares outstanding for basic earnings
per share calculation ............................. 19,775,821 19,775,821
Diluted
Loss per share before preferred stock
dividends and cumulative effect of change in
accounting for asset retirement obligations .... $ (0.06) $ (0.11)
Cumulative effect of change in accounting for
asset retirement obligations ................... -- (0.02)
------------ ------------
Net loss per share ................................ $ (0.06) $ (0.13)
============ ============
Weighted average shares:
Weighted average shares outstanding for basic
earnings per share calculation ................. 19,775,821 19,775,821
Effect of dilutive stock options .................. -- --
Effect of convertible preferred stock under the
"if converted" method .......................... -- --
------------ ------------
Weighted average shares outstanding for diluted
earnings per share ............................. 19,775,821 19,775,821
============ ============
Basic and diluted EPS are the same for the period ended March 31, 2004 and 2003,
because diluted EPS was less dilutive than basic EPS ("antidilutive").
Accordingly, 37,461,672 and 34,418,346 shares representing common stock
equivalents have been excluded from the diluted EPS calculations for the period
ended March 31, 2004 and 2003, respectively.
(9) CONSOLIDATING FINANCIAL STATEMENTS
As discussed in Note 6, as of March 31, 2004, all of the Company's subsidiaries,
except the subsidiaries formed to own and operate the Sacramento dryer project,
Synagro Organic Fertilizer Company of Sacramento, Inc. and Sacramento Project
Finance, Inc. (the "Non-Guarantor Subsidiaries"), are Guarantors of the Notes.
Each of the Guarantors is ultimately wholly owned by the parent company and the
guarantees are unconditional and joint and several. Additionally, the Company is
not a Guarantor for the debt of the Non-Guarantor Subsidiaries. Accordingly, the
following consolidating balance sheets as of March 31, 2004, and December 31,
2003, have been provided. The Non-Guarantor Subsidiaries had no operations and
cash flows from December 31, 2003, through March 31, 2004, because the
construction of the facility is still in progress. Accordingly, no consolidating
statements of operations or cash flows have been provided.
17
CONSOLIDATING BALANCE SHEETS
AS OF MARCH 31, 2004
(DOLLARS IN THOUSANDS)
NON-
GUARANTOR GUARANTOR
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS CONSOLIDATED
------ ------------ ------------ ------------ ------------
ASSETS
Current Assets:
Cash and cash equivalents .................... $ 84 $ 50 $ 51 $ -- $ 185
Restricted cash .............................. -- 1,636 -- -- 1,636
Accounts receivable, net ..................... -- 57,154 -- -- 57,154
Note receivable, current portion ............. -- 620 -- -- 620
Prepaid expenses and other current assets .... -- 15,056 -- -- 15,056
--------- --------- --------- --------- ---------
Total current assets ................. 84 74,516 51 -- 74,651
Property, machinery & equipment, net ........... -- 208,018 8,915 -- 216,933
Other Assets:
Goodwill ..................................... -- 172,398 -- -- 172,398
Investments in subsidiaries .................. 76,223 -- -- (76,223) --
Restricted cash - construction fund .......... -- -- 9,417 -- 9,417
Restricted cash - debt service fund .......... -- 6,204 1,714 -- 7,918
Other, net ................................... 7,550 4,785 2,972 -- 15,307
--------- --------- --------- --------- ---------
Total assets ......................... $ 83,857 $ 465,921 $ 23,069 $ (76,223) $ 496,624
========= ========= ========= ========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Current portion of long-term debt ............ $ 890 $ -- $ -- $ -- $ 890
Current portion of nonrecourse project revenue
bonds ...................................... -- 2,570 -- -- 2,570
Current portion of capital lease obligations . -- 2,678 -- -- 2,678
Accrued interest payable ..................... 8,630 -- -- -- 8,630
Accounts payable and accrued expenses ........ -- 46,786 841 -- 47,627
--------- --------- --------- --------- ---------
Total current liabilities ............ 9,520 52,034 841 -- 62,395
Long-Term Debt:
Long-term debt obligations, net .............. 190,385 -- -- -- 190,385
Nonrecourse project revenue bonds, net ....... -- 41,365 20,943 -- 62,308
Intercompany ................................. (271,593) 271,593 -- -- --
Capital lease obligations, net ............... -- 12,112 -- -- 12,112
--------- --------- --------- --------- ---------
Total long-term debt ...................... (81,208) 325,070 20,943 -- 264,805
Other long-term liabilities .................... 2,865 13,879 -- -- 16,744
--------- --------- --------- --------- ---------
Total liabilities .................... (68,823) 390,983 21,784 -- 343,944
Commitments and Contingencies
Redeemable Preferred Stock,
69,792.29 shares issued and outstanding,
redeemable at $1,000 per share ............... 88,438 -- -- -- 88,438
Stockholders' Equity:
Capital ...................................... 80,015 37,804 1,285 (39,089) 80,015
Accumulated deficit .......................... (14,597) 37,134 -- (37,134) (14,597)
Accumulated other comprehensive loss ......... (1,176) -- -- -- (1,176)
--------- --------- --------- --------- ---------
Total stockholders' equity ........... 64,242 74,938 1,285 (76,223) 64,242
--------- --------- --------- --------- ---------
Total liabilities and stockholders' equity ..... $ 83,857 $ 465,921 $ 23,069 $ (76,223) $ 496,624
========= ========= ========= ========= =========
18
CONSOLIDATING BALANCE SHEETS
AS OF DECEMBER 31, 2003
(DOLLARS IN THOUSANDS)
NON-
GUARANTOR GUARANTOR
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS CONSOLIDATED
------ ------------ ------------ ------------ ------------
ASSETS
Current Assets:
Cash and cash equivalents .................... $ 91 $ 64 $ 51 $ -- $ 206
Restricted cash .............................. -- 1,410 -- -- 1,410
Accounts receivable, net ..................... -- 59,581 -- -- 59,581
Note receivable, current portion ............. -- 342 -- -- 342
Prepaid expenses and other current assets .... -- 10,840 -- -- 10,840
--------- --------- --------- --------- ---------
Total current assets ................. 91 72,237 51 -- 72,379
Property, machinery & equipment, net ........... -- 207,833 5,864 -- 213,697
Other Assets:
Goodwill ..................................... -- 172,398 -- -- 172,398
Investments in subsidiaries .................. 76,551 -- -- (76,551) --
Restricted cash - construction fund .......... -- -- 12,184 -- 12,184
Restricted cash - debt service fund .......... -- 5,561 1,714 -- 7,275
Other, net ................................... 6,217 4,902 2,972 -- 14,091
--------- --------- --------- --------- ---------
Total assets ......................... $ 82,859 $ 462,931 $ 22,785 $ (76,551) $ 492,024
========= ========= ========= ========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Current portion of long-term debt ............ $ 955 $ -- $ -- $ -- $ 955
Current portion of nonrecourse project revenue
bonds ...................................... -- 2,570 -- -- 2,570
Current portion of capital lease obligations . -- 2,678 -- -- 2,678
Accrued interest payable ..................... 4,222 -- -- -- 4,222
Accounts payable and accrued expenses ........ -- 42,693 564 -- 43,257
--------- --------- --------- --------- ---------
Total current liabilities ............ 5,177 47,941 564 -- 53,682
Long-Term Debt:
Long-term debt obligations, net .............. 194,084 -- -- -- 194,084
Nonrecourse project revenue bonds, net ....... -- 41,365 20,936 -- 62,301
Intercompany ................................. (271,655) 271,655 -- -- --
Capital lease obligations, net ............... -- 12,748 -- -- 12,748
--------- --------- --------- --------- ---------
Total long-term debt ...................... (77,571) 325,768 20,936 -- 269,133
Other long-term liabilities .................... 3,580 13,956 -- -- 17,536
--------- --------- --------- --------- ---------
Total liabilities .................... (68,814) 387,665 21,500 -- 340,351
Commitments and Contingencies
Redeemable Preferred Stock,
69,792.29 shares issued and outstanding,
redeemable at $1,000 per share ............... 86,299 -- -- -- 86,299
Stockholders' Equity:
Capital ...................................... 82,153 37,804 1,285 (39,089) 82,153
Accumulated deficit .......................... (15,477) 37,462 -- (37,462) (15,477)
Accumulated other comprehensive loss ......... (1,302) -- -- -- (1,302)
--------- --------- --------- --------- ---------
Total stockholders' equity ........... 65,374 75,266 1,285 (76,551) 65,374
--------- --------- --------- --------- ---------
Total liabilities and stockholders' equity ..... $ 82,859 $ 462,931 $ 22,785 $ (76,551) $ 492,024
========= ========= ========= ========= =========
(10) LEASE TRANSACTIONS
During 2003, the Company entered into various capital lease transactions to
purchase transportation and operating equipment. The capital leases have lease
terms of three to six years with interest rates from 5.0 percent to 7.18
percent. The net book value of the equipment related to these capital leases
totaled approximately $7.5 million as of March 31, 2004.
During 2003, the Company entered into operating lease transactions to use
transportation and operating equipment. The operating leases have terms of two
to eight years. Additionally, the Company has guaranteed a maximum lease risk
amount to the lessor of one of the operating leases. The fair value of this
guaranty is approximately $0.3 million as of March 31, 2004.
19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with our consolidated
historical financial statements and related notes thereto included elsewhere in
this Form 10-Q and the Annual Report on Form 10-K for the year ended December
31, 2003. This discussion contains forward-looking statements regarding our
business and industry within the meaning of the Private Securities Litigation
Reform Act of 1995. These statements are based on the our current plans and
expectations and involve risks and uncertainties that could cause actual future
activities and results of operations to be materially different from those set
forth in the forward-looking statements, but are not limited to those factors
more thoroughly disclosed in our Annual Report on Form 10-K.
BACKGROUND
We generate substantially all of our revenue by providing water and wastewater
residuals management services to municipal and industrial customers. We provide
our customers with complete, vertically integrated services and capabilities,
including facility operations, facility cleanout services, regulatory
compliance, dewatering, collection and transportation, composting, drying and
pelletization, product marketing, incineration, alkaline stabilization, and land
application. We currently serve more than 1,000 customers in 37 states and the
District of Columbia. Our contracts typically have inflation price adjustments,
renewal clauses and broad force majeure provisions. In 2003, we experienced a
contract retention rate (both renewals and rebids) of approximately 86 percent.
We categorize our revenues into five types -- contract, purchase order, product
sales, design\build construction and event work.
Contract revenues are generated primarily from land application, collection and
transportation services, dewatering, incineration, composting, drying and
pelletization services and facility operations and maintenance, and are
typically performed under a contract with terms ranging from 1 to 25 years.
Contract revenues accounted for approximately 81 percent and 83 percent of total
revenues in the first three months of 2004 and 2003, respectively.
Purchase order revenues are primarily from facility operations, maintenance
services, and collection and transportation services where services are
performed on a recurring basis, but not under a long-term contract. Purchase
order revenues accounted for approximately three percent of total revenues in
the first three months of 2004 and 2003, respectively.
Product sales revenues are primarily generated from sales of composted and
pelletized biosolids from internal and external facilities. Revenues from
product sales accounted for approximately five percent of total revenues in the
first three months of 2004 and 2003, respectively.
Design\build construction revenues are derived from construction projects where
we act as the general contractor to design and build a biosolids facility such
as a drying and pelletization facility, composting facility, incineration
facility or a dewatering facility. Revenues from construction projects accounted
for approximately one percent of total revenues in the first three months of
2004 and 2003, respectively.
Event project revenues are typically generated from digester or lagoon cleanout
projects and temporary dewatering projects. Revenue from event projects
accounted for approximately ten percent and eight percent of total revenues in
the first three months of 2004 and 2003, respectively.
Revenues under our facilities operations and maintenance contracts are
recognized either when wastewater residuals enter the facility or when the
residuals have been processed, depending on the contract terms. All other
revenues under service contracts are recognized when the service is performed.
Revenues from design/build construction projects are accounted for under the
percentage-of-completion method of accounting. We provide for losses in
connection with long-term contracts where an obligation exists to perform
services and it becomes evident that the projected contract costs will exceed
the related revenue.
Our costs relating to service contracts include processing, transportation,
spreading and disposal costs, and depreciation of operating assets. Our
spreading, transportation and disposal costs can be adversely affected by
unusual weather conditions and unseasonably heavy rainfall, which can
temporarily reduce the availability of land application. Material must be
transported to either a permitted storage facility (if available) or to a local
landfill for disposal. In either case, this results in additional costs for
transporting, storage and disposal of the biosolid materials versus land
application in a period of normal weather conditions. Our costs relating to
20
construction contracts primarily include subcontractor costs related to design,
permit and general construction. Our selling, general and administrative
expenses are comprised of accounting, information systems, marketing, legal,
human resources, regulatory compliance, and regional and executive management
costs.
HISTORICAL RESULTS OF OPERATIONS
THREE MONTHS ENDED MARCH 31,
------------------------------------------------------
2004 2003
----------------------- -----------------------
(in thousands)
Revenue ............................ $ 72,660 100.0% $ 63,229 100.0%
Cost of services ................... 60,344 83.0% 51,387 81.3%
-------- -------- -------- --------
Gross profit ....................... 12,316 17.0% 11,842 18.7%
Selling, general and administrative
expenses ......................... 5,822 8.1% 6,305 10.0%
-------- -------- -------- --------
Income from operations ............. 6,494 8.9% 5,537 8.7%
-------- -------- -------- --------
Other expense:
Interest expense, net ............ 5,169 7.1% 5,848 9.2%
Other (income) expense, net ...... (118) (0.2)% 29 0.0%
-------- -------- -------- --------
Total other expense, net ....... 5,051 6.9% 5,877 9.2%
-------- -------- -------- --------
Income (loss) before provision for
income taxes ..................... 1,443 2.0% (340) (0.5)%
Provision (benefit) for income
taxes ............................ 563 0.8% (129) (0.2)%
-------- -------- -------- --------
Net income (loss) before cumulative
effect of change in accounting
for asset retirement obligations
and preferred stock dividends .... 880 1.2% (211) (0.3)%
Cumulative effect of change in
accounting for asset retirement
obligations, net of tax benefit .. -- 0.0% 476 0.8%
-------- -------- -------- --------
Net income (loss) before preferred
stock dividends .................. 880 1.2% (687) (1.1)%
======== ========
Preferred stock dividends .......... 2,138 1,975
-------- --------
Net (loss) applicable to
common stock ..................... $ (1,258) $ (2,662)
======== ========
For the three months ended March 31, 2004, net revenue was approximately $72.7
million compared to approximately $63.2 million for the three months ended March
31, 2003, representing an increase of approximately $9.4 million, or 14.9
percent. Approximately $2.8 million of the increase related to event type work
in our South and Northeast regions, approximately $0.8 million of the increase
in revenue relates to an acquisition completed in May 2003 and the remainder
from increased contract service revenues.
Gross profit for the three months ended March 31, 2004, was approximately $12.3
million compared to approximately $11.8 million for the three months ended March
31, 2003, an increase of approximately $0.5 million, or 4.0 percent. Gross
profit as a percentage of revenue decreased to 17.0 percent in 2004 from 18.7
percent in 2003 primarily due to higher repair and maintenance costs of $1.1
million associated with our drying\pelletizaion facilities and higher margins in
event work in the prior year. This decrease in gross profit as a percentage of
revenue was partially offset by the increased margins associated with
improvements in land application services primarily attributed to less inclement
weather in the first three months of 2004 than 2003. Additionally, gross profit
decreased due to an increase in depreciation and amortization expense of
approximately $0.5 million.
Selling, general and administrative expenses were approximately $5.8 million, or
8.1 percent of revenue, for the three months ended March 31, 2004, compared to
approximately $6.3 million, or 10.0 percent of revenue, for the three months
ended March 31, 2003. The decrease as a percentage of sales relates to leverage
of certain fixed administrative costs and a reduction in expenses attributed to
a cost reduction initiative put in place in the fourth quarter of 2003.
As a result of the foregoing, income from operations for the three months ended
March 31, 2004, was approximately $6.5 million, or 8.9 percent of revenue,
compared to approximately $5.5 million, or 8.7 percent of revenue, for the three
months ended March 31, 2003.
Other expense, net, for the three months ended March 31, 2004, was approximately
$5.1 million compared to approximately $5.9 million for the three months ended
March 31, 2003, representing a decrease of approximately $0.8 million. The
decrease relates
21
primarily to a reduction in interest expense due to payments on debt and savings
associated with interest rate swaps entered into in the third quarter of 2003.
For the three months ended March 31, 2004, we recorded a provision for income
taxes of approximately $0.6 million compared to a benefit of $0.1 million for
the three months ended March 31, 2003. Our effective tax rate was approximately
39 percent in the first three months of 2004 compared to 38 percent in the first
three months of 2003. The increase in the effective tax rate is primarily
related to the increase in income taxes at the state level. Our provision for
income taxes differs from the federal statutory rate primarily due to state
income taxes. Our tax provision is principally a deferred tax provision that
will not significantly impact cash flow since we have significant tax deductions
in excess of book deductions and net operating loss carryforwards available to
offset taxable income.
On January 1, 2003, we adopted SFAS No. 143, "Asset Retirement Obligations."
SFAS No. 143 requires entities to record the fair value of a liability for an
asset retirement obligation in the period in which it is incurred and a
corresponding increase in the carrying amount of the related long-lived asset.
Subsequently, the asset retirement cost should be allocated to expense using a
systematic and rational method. During the first quarter of 2003, we recorded a
cumulative effect of change in accounting for asset retirement obligations, net
of tax, totaling approximately $0.5 million (approximately $0.8 million before
tax).
LIQUIDITY AND CAPITAL RESOURCES
OVERVIEW
In the past, our principal sources of funds were cash generated from operating
activities and long-term borrowings and equity issuances. We use cash mainly for
working capital, capital expenditures and debt service. In the future, we expect
that we will use cash principally to fund working capital, debt service,
repayment obligations and capital expenditures. In addition, we may use cash to
pay dividends on preferred and common stock, the repurchase of shares and
potential earn-out payments resulting from prior acquisitions. Historically, we
have financed our acquisitions principally through the issuance of equity and
debt securities, our credit facility, and funds provided by operating
activities.
HISTORICAL CASH FLOWS
Cash Flows from Operating Activities -- For the three months ended March 31,
2004, cash flows provided from operating activities were approximately $11.7
million compared to approximately $8.8 million for the same period in 2003, an
increase of approximately $2.9 million, or 33 percent. The increase primarily
relates to increased operating income of $1.0 million, a $0.4 million increase
in depreciation expense and a reduction in working capital of $1.0 million.
Cash Flows from Investing Activities -- For the three months ended March 31,
2004, cash flows used by investing activities were approximately $4.2 million
compared to approximately $4.4 million for the same period in 2003 and relates
primarily to capital expenditures. This decrease is due primarily to proceeds
from the sale of fixed assets in the first three months of 2004 of $0.3 million.
Cash Flows from Financing Activities -- For the three months ended March 31,
2004, cash flows used in financing activities were approximately $7.5 million
compared to approximately $4.4 million for the same period in 2003, an increase
of approximately $3.1 million. The increase primarily relates to the reduction
of debt of approximately $6.5 million in the first three months of 2004 versus
the reduction of debt of approximately $3.4 million during the first three
months of 2003.
CAPITAL EXPENDITURE REQUIREMENTS
Capital expenditures for the three months ended March 31, 2004, totaled
approximately $7.0 million, which included approximately $2.8 million to fund
construction of the Sacramento biosolids processing facility, compared to
approximately $4.2 million in the same period of 2003. Our ongoing capital
expenditure program consists of expenditures for replacement equipment,
betterments and growth. We expect our capital expenditures for 2004 to be
approximately $28 to $30 million, which should include approximately $13.0
million related to the construction of the Sacramento biosolids processing
facility. Capital expenditures related to the construction of the Sacramento
biosolids processing facility are primarily funded by restricted cash (See Note
6).
22
DEBT SERVICE REQUIREMENTS
On March 9, 2004, we amended our credit facility to, among other things, exclude
certain charges from its financial covenant calculations, to clarify certain
defined terms, to increase the amount of indebtedness permitted under its total
leverage ratio, and to reset capital and operating lease limitations.
In May 2003, we incurred indebtedness of $0.5 million in connection with the
Aspen acquisition. If certain post-closing conditions are met, as defined in the
purchase agreement, the note to the former owners is payable monthly at an
annual interest rate of five percent.
In May 2002, we entered into a new $150 million senior credit facility that
provides for a $70 million funded term loan and up to a $50 million revolver,
with the ability to increase the total commitment to $150 million. The term loan
proceeds were used to pay off the existing senior debt that remained unpaid
after the private placement of our 9 1/2 percent Senior Subordinated Notes due
2009. This new facility is secured by substantially all of the Company's assets
and those of its subsidiaries (other than assets securing nonrecourse debt) and
includes covenants restricting the incurrence of additional indebtedness, liens,
certain payments and sale of assets. The new senior credit agreement contains
standard covenants, including compliance with laws, limitations on capital
expenditures, restrictions on dividend payments, limitations on mergers and
compliance with certain financial covenants. During May 2003, we amended our
credit facility to increase the revolving loan commitment to approximately $95
million. Requirements for mandatory debt payments from excess cash flows, as
defined, are unchanged in the new credit facility.
In 1996, the Maryland Energy Financing Administration issued nonrecourse
tax-exempt project revenue bonds (the "Maryland Project Revenue Bonds") in the
aggregate amount of $58,550,000. The Administration loaned the proceeds of the
Maryland Project Revenue Bonds to Wheelabrator Water Technologies Baltimore
L.L.C., now our wholly owned subsidiary known as Synagro -- Baltimore, L.L.C.,
pursuant to a June 1996 loan agreement, and the terms of the loan mirror the
terms of the Maryland Project Revenue Bonds. The loan financed a portion of the
costs of constructing thermal facilities located in Baltimore County, Maryland,
at the site of its Back River Wastewater Treatment Plant, and in the City of
Baltimore, Maryland, at the site of its Patapsco Wastewater Treatment Plant. We
assumed all obligations associated with the Maryland Project Revenue Bonds in
connection with our acquisition of the Bio Gro Division of Waste Management,
Inc. in 2000. Maryland Project Revenue Bonds in the aggregate amount of $14.6
million have already been paid, and the remaining Maryland Project Revenue Bonds
bear interest at annual rates between 5.65 percent and 6.45 percent and mature
on dates between December 1, 2004, and December 1, 2016.
In December 2002, the California Pollution Control Financing Authority (the
"Authority") issued nonrecourse revenue bonds ("Sacramento Biosolids Facility
Project") in the aggregate amount of $21,275,000. The nonrecourse revenue bonds
consist of $20,075,000 Series 2002-A and $1,200,000 Series 2002-B (taxable)
(collectively, the "Bonds"). The Authority loaned the proceeds of the Bonds to
Sacramento Project Finance, Inc., one of our wholly owned subsidiaries, pursuant
to a loan agreement dated December 1, 2002. The loan will finance the
acquisition, design, permitting, constructing and equipping of a biosolids
dewatering and heat drying/pelletizing facility for the Sacramento Regional
Sanitation District. The Bonds bear interest at annual rates between 4.25
percent and 5.5 percent and mature on dates between December 1, 2006, and
December 1, 2024.
We believe we will have sufficient cash generated by our operations and
available through our existing credit facility to provide for future working
capital and capital expenditure requirements that will be adequate to meet our
liquidity needs for the foreseeable future, including payment of interest on our
credit facility and payments on the Nonrecourse Project Revenue Bonds. We cannot
assure, however, that our business will generate sufficient cash flow from
operations, that any cost savings and any operating improvements will be
realized or that future borrowings will be available to it under our credit
facility in an amount sufficient to enable us to pay our indebtedness or to fund
our other liquidity needs. We may need to refinance all or a portion of our
indebtedness on or before maturity. We make no assurance that we will be able to
refinance any of our indebtedness, including our credit facility, on
commercially reasonable terms or at all.
We have entered into various lease transactions to purchase transportation and
operating equipment that have been accounted for as capital lease obligations
and operating leases. The capital leases have lease terms of three to six years
with interest rates from 5.0 percent to 7.18 percent. The net book value of the
equipment related to these capital leases totaled approximately $15.7 million as
of March 31, 2004. The operating leases have terms of two to eight years.
Additionally, we have guaranteed a maximum lease risk amount to the lessor of
one of the operating leases. The fair value of this guaranty is approximately
$0.3 million as of March 31, 2004.
23
SERIES D REDEEMABLE PREFERRED STOCK
We have authorized 32,000 shares of Series D Preferred Stock, par value $.002
per share. In 2000, we issued a total of 25,033.601 shares of the Series D
Preferred Stock to GTCR Fund VII, L.P. and its affiliates, which is convertible
by the holders into a number of shares of our common stock computed by dividing
(i) the sum of (a) the number of shares to be converted multiplied by the
liquidation value and (b) the amount of accrued and unpaid dividends by (ii) the
conversion price then in effect. The initial conversion price is $2.50 per share
provided that in order to prevent dilution, the conversion price may be
adjusted. The Series D Preferred Stock is senior to our common stock or any
other of its equity securities. The liquidation value of each share of Series D
Preferred Stock is $1,000 per share. Dividends on each share of Series D
Preferred Stock accrue daily at the rate of eight percent per annum on the
aggregate liquidation value and may be paid in cash or accrued, at the our
option. Upon conversion of the Series D Preferred Stock by the holders, the
holders may elect to receive the accrued and unpaid dividends in shares of our
common stock at the conversion price. The Series D Preferred Stock is entitled
to one vote per share. Shares of Series D Preferred Stock are subject to
mandatory redemption by us on January 26, 2010, at a price per share equal to
the liquidation value plus accrued and unpaid dividends. If the outstanding
shares of Series D Preferred Stock excluding accrued dividends were converted at
March 31, 2004, they would represent 10,013,441 shares of common stock.
SERIES E REDEEMABLE PREFERRED STOCK
We have authorized 55,000 shares of Series E Preferred Stock, par value $.002
per share. GTCR Fund VII, L.P. and our affiliates own 37,504.229 shares of
Series E Preferred Stock and certain affiliates of The TCW Group, Inc. own
7,254.462 shares. The Series E Preferred Stock is convertible by the holders
into a number of shares of our common stock computed by dividing (i) the sum of
(a) the number of shares to be converted multiplied by the liquidation value and
(b) the amount of accrued and unpaid dividends by (ii) the conversion price then
in effect. The initial conversion price is $2.50 per share provided that in
order to prevent dilution, the conversion price may be adjusted. The Series E
Preferred Stock is senior to our common stock and any other of our equity
securities. The liquidation value of each share of Series E Preferred Stock is
$1,000 per share. Dividends on each share of Series E Preferred Stock accrue
daily at the rate of eight percent per annum on the aggregate liquidation value
and may be paid in cash or accrued, at our option. Upon conversion of the Series
E Preferred Stock by the holders, the holders may elect to receive the accrued
and unpaid dividends in shares of our common stock at the conversion price. The
Series E Preferred Stock is entitled to one vote per share. Shares of Series E
Preferred Stock are subject to mandatory redemption by us on January 26, 2010,
at a price per share equal to the liquidation value plus accrued and unpaid
dividends. If the outstanding shares of Series E Preferred Stock excluding
accrued dividends were converted at March 31, 2004, they would represent
17,903,475 shares of common stock.
The future issuance of Series D and Series E Preferred Stock may result in
noncash beneficial conversions valued in future periods recognized as preferred
stock dividends if the market value of our common stock is higher than the
conversion price at date of issuance.
INTEREST RATE RISK
Total debt at March 31, 2004, included approximately $38.4 million in floating
rate debt attributed to the Senior Credit Agreement at a base interest rate plus
3.0 percent, or approximately 4.15 percent at March 31, 2004. We also have
interest rate swaps outstanding on our fixed rate debt. As a result, our
interest cost in 2004 will fluctuate based on short-term interest rates. The
impact on annual cash flow of a ten percent change in the floating rate
(i.e.LIBOR) would be approximately $0.1 million.
WORKING CAPITAL
At March 31, 2004, we had working capital of approximately $12.3 million
compared to approximately $18.7 million at December 31, 2003, a decrease of
approximately $6.4 million. The decrease in working capital is principally due
to an increase in accrued interest and a decrease in accounts receivable due to
the seasonal nature of our business.
ACCOUNTING PRONOUNCEMENTS
Information regarding new accounting pronouncements can be found under the
"Accounting Pronouncements" section of Note (1) to the Condensed Consolidated
Financial Statements.
24
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
DERIVATIVES AND HEDGING ACTIVITIES
On July 24, 2003, we entered into two interest rate swap transactions with two
financial institutions to hedge our exposure to changes in the fair value on $85
million of our Notes. The purpose of these transactions was to convert future
interest due on $85 million of the Notes to a lower variable rate in an attempt
to realize savings on our future interest payments. The terms of the interest
rate swap contract and the underlying debt instruments are identical. We have
designated these swap agreements as fair value hedges. The swaps have notional
amounts of $50 million and $35 million and mature in April 2009 to mirror the
maturity of the Notes. Under the agreements, we pay on a semi-annual basis (each
April 1 and October 1) a floating rate based on a six-month U.S. dollar LIBOR
rate, plus a spread, and receives a fixed-rate interest of 9 1/2 percent. During
the three months ended March 31, 2004, we recorded interest savings related to
these interest rate swaps of $0.6 million, which served to reduce interest
expense. The $1.3 million fair value of these derivative instruments is included
in other long-term assets, as of March 31, 2004. The carrying value of our Notes
was increased by the same amount.
On June 25, 2001, we entered into a reverse swap on our 12 percent subordinated
debt and used the proceeds from the reverse swap agreement to retire previously
outstanding floating-to-fixed interest rate swap agreements (the "Retired
Swaps") and option agreements. Accordingly, the balance included in accumulated
other comprehensive loss included in stockholders' equity related to the Retired
Swaps is being recognized in future periods' income over the remaining term of
the original swap agreement. The amount of accumulated other comprehensive
income recognized for the period ended March 31, 2004, was approximately $0.1
million.
The 12 percent subordinated debt was repaid on April 17, 2002, with the proceeds
from the sale of the Notes. On June 25, 2002, we entered into a
floating-to-fixed interest rate swap agreement that substantially offsets market
value changes in our reverse swap agreement. The liability related to this
reverse swap agreement and the floating-to-fixed offset agreement totaling
approximately $2.9 million is reflected in other long-term liabilities at March
31, 2004. The gain recognized during the period ended March 31, 2004, related to
the floating-to-fixed interest rate swap agreement was approximately $1.3
million, while the loss recognized related to the reverse swap agreement was
approximately $1.3 million. The amount of the ineffectiveness of the reverse
swap agreement charged to other expense was approximately $40,000 for the period
ended March 31, 2004.
INTEREST RATE RISK
Total debt at March 31, 2004, included approximately $38.4 million in floating
rate debt attributed to the Senior Credit Agreement at a base interest rate plus
3.0 percent, or approximately 4.15 percent at March 31, 2004. We also have
interest rate swaps outstanding on our fixed rate debt. As a result, our
interest cost in 2004 will fluctuate based on short-term interest rates. The
impact on annual cash flow of a ten percent change in the floating rate
(i.e.LIBOR) would be approximately $0.1 million.
ITEM 4. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
Our Chief Executive Officer and Chief Financial Officer have evaluated our
disclosure controls and procedures (as such term is defined in Rules 13a-15(e)
and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the
"Exchange Act") as of the end of the period covered by this quarterly report.
Based on this evaluation, such officers have concluded that these controls and
procedures are effective in alerting them on a timely basis to material
information relating to us (including our consolidated subsidiaries) required to
be included in our periodic filings under the Exchange Act.
There has been no change in our internal control over financial reporting (as
defined in Rules 13a-13(f) and 15d-15(f) under the Exchange Act) that occurred
during the period covered by this quarterly report that has materially affected,
or is reasonably likely to materially affect, our internal control over
financial reporting.
25
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Information regarding our legal proceedings can be found under the "Litigation"
section of Note (7), "Commitments and Contingencies," to the Condensed
Consolidated Financial Statements.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(A) Exhibit Index
10.1 Fourth Amendment dated as of March 9, 2004, amending the Third
Amended and Restated Credit Agreement dated as of May 8, 2002, among Synagro
Technologies, Inc., various financial institutions and Bank of America, N.A.
31.1 Certification of Chief Executive Officer
31.2 Certification of Chief Financial Officer
32.1 Section 1350 Certification of Chief Executive Officer
32.2 Section 1350 Certification of Chief Financial Officer
(B) Reports on Form 8-K
Current report on Form 8-K filed on March 5, 2004, announcing the Company's
2003 results.
26
SIGNATURES
Pursuant to the 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.
SYNAGRO TECHNOLOGIES, INC.
Date: May 7, 2004 By: /s/ Robert C. Boucher, Jr.
------------------------------
Chief Executive Officer
Date: May 7, 2004 By: /s/ J. Paul Withrow
------------------------------
Chief Financial Officer
27
EXHIBIT INDEX
10.1 Fourth Amendment dated as of March 9, 2004, amending the Third
Amended and Restated Credit Agreement dated as of May 8, 2002, among
Synagro Technologies, Inc., various financial institutions and Bank
of America, N.A.
31.1 Certification of Chief Executive Officer
31.2 Certification of Chief Financial Officer
32.1 Section 1350 Certification of Chief Executive Officer
32.2 Section 1350 Certification of Chief Financial Officer
28