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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For The Fiscal Year Ended December 31, 1998
Commission file number: 0-21533
TEAM AMERICA CORPORATION
(Name of registrant as specified in its charter)
OHIO 31-1209872
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
110 E. WILSON BRIDGE ROAD
WORTHINGTON, OHIO 43085
(Address of principal executive offices)(Zip Code)
(614) 848-3995
(Registrant's telephone number,
including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, no par value
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, and (2) has been subject to the filing
requirements for at least the past 90 days. YES X NO
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K.[ ]
Aggregate market value of voting stock held by non-affiliates of
registrant as of March 21, 1999 was approximately $10,645,355.
There were 4,258,714 shares of the Registrant's Common Stock
outstanding at March 1, 1999.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's Proxy Statement for the 1999 Annual
Meeting of the Stockholders are incorporated by reference in Part III.
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PART I
ITEM 1. BUSINESS.
GENERAL
TEAM America Corporation (the "Company") is a Professional Employer
Organization ("PEO") which was founded in 1986 and incorporated in Ohio in 1987.
The Company through its subsidiaries provides comprehensive and integrated human
resource management services to small and medium-sized businesses, thereby
allowing such businesses to outsource their human resource responsibilities and
enabling them to focus on their core competencies. The Company offers a broad
range of services including human resource administration, regulatory compliance
management, employee benefits administration, risk management services and
employer liability protection, payroll and payroll tax administration, and
placement services. The Company provides such services by establishing an
employment relationship with the worksite employees of its clients,
contractually assuming substantial employer responsibilities with respect to
worksite employees, and instructing its clients regarding employment practices.
While the Company becomes the legal employer for most purposes, the client
remains in operational control of its business.
The Company has expanded its business through acquisitions. As of
December 31, 1998, the Company provided professional employer services to
approximately 1,450 clients and approximately 14,000 worksite employees, located
in the midwestern, northwestern/intermountain, mid-south and western regions of
the United States. This compares with 241 clients and 3,646 worksite employees,
primarily all located in Ohio at December 31, 1996.
By entering into an agreement with its clients whereby the Company
participates with the client in the employment of its worksite employees, the
Company is able to take advantage of certain economies of scale in the "business
of employment" and to pass those benefits on to its clients and worksite
employees. As a result of such employment arrangements, the Company is able to
obtain, at an economical cost, services and expertise similar to those provided
by the human resource departments of large companies. The Company's services
provide substantial benefits to both the client and its worksite employees. The
Company believes its services assist business owners by (i) permitting the
managers of the client to concentrate on the client's core business as a result
of the reduced time and effort that they are required to spend dealing with
complex human resource, legal and regulatory compliance issues and employee
administration, and (ii) managing escalating costs associated with unemployment,
workers' compensation, health insurance coverage, worksite safety programs and
employee-related litigation. The Company also believes that its worksite
employees benefit from their relationship with the Company by having access to
better, more affordable benefits, enhanced benefit portability, improved
worksite safety and employment stability.
The Company believes that there are opportunities for growth in the PEO
industry as a result of the increasing trend of businesses to outsource non-core
activities and functions, the low market penetration of the PEO industry, and
the expanding number of small businesses in the United States. The Company also
believes that growing human resource, legal and regulatory complexities and the
need to invest significant capital in service delivery infrastructures and
management information systems should lead to significant consolidation
opportunities in the PEO industry.
GROWTH STRATEGY
The Company intends to further strengthen its position in various U.S.
markets by pursuing the following business strategies:
Deliver High-Quality Services and Expand Client Base. By offering a
broad range of high-quality services, the Company believes it is attractive to
employers who are seeking a single-source solution to their human resource
needs. The Company intends to continue to focus on providing high-quality,
value-added services as a means to differentiate itself from competitors.
Certain PEOs compete primarily by offering comparatively lower-cost health and
workers' compensation coverage to high risk industries or by providing
principally basic payroll and payroll tax administration with only limited
additional services. In contrast, the Company provides comprehensive and
integrated human resource management to clients who are selected after
performing a risk management assessment. The Company believes that its strategy
of emphasizing the quality and breadth of its services results in lower client
turnover and more consistent growth and profits than the strategy of certain
PEOs which compete by offering comparatively lower-cost coverage or limited
services.
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Increase Penetration of Existing Markets. The Company believes that
additional market penetration in established markets offers significant growth
potential. The Company believes that less than 2.0% of the total number of
businesses having more than 20 and fewer than 500 employees are in a PEO
relationship. In established markets, the Company's ability to achieve its
growth objectives is enhanced by a larger number of referrals, a higher client
retention rate, a more experienced sales force and greater momentum in its
marketing efforts than in new markets. The Company intends to capitalize on
these advantages and to achieve higher penetration in its existing markets by
hiring additional sales personnel and improving sales productivity. In addition,
the Company intends to continue its advertising and promotional efforts in order
to educate the market place regarding the quality and breadth of the Company's
services and the benefits of "partnering in employment" through outsourcing the
human resource function. The Company believes that increasing its penetration in
existing markets will allow the Company to leverage its current economies of
scale, thereby increasing its cost effectiveness and profit margins.
Expand Through Acquisitions. The PEO industry is highly fragmented,
with in excess of 2,500 companies providing PEO services in 1998 according to
industry sources. Accordingly, the Company believes significant opportunities
for consolidation exist in the PEO industry. The Company believes that this
industry consolidation will be driven by growing human resource, legal and
regulatory complexities, increasing capital requirements, and the significant
economies of scale available to PEOs with a regional concentration of clients.
The Company intends to look for opportunities to expand in its current markets
by acquiring the accounts of competitors in what the Company refers to as "fold
in" acquisitions, and possibly to enter selected new markets by acquiring
established high-quality PEOs in order to provide a platform for future regional
consolidation. The Company has identified certain fundamental attributes which
characterize attractive markets such as (i) proximity to a major metropolitan
area, (ii) regulatory receptivity to PEOs, (iii) prior successful introduction
of the PEO concept, (iv) favorable economic conditions, and (v) a high
concentration of small to medium-sized businesses.
The Company completed four acquisitions of PEO businesses in 1997 and
five in 1998. See "Business -- Acquisitions."
Develop Proprietary Information Systems. The Company will continue to
develop its proprietary information systems which will enable the Company to
integrate all aspects of the administration of payroll, human resources and
employee benefits, thereby providing a significant competitive advantage in
managing costs and delivering a full range of high-quality services. The Company
also believes it may be able to derive revenues from the licensing to, or as a
service bureau to, other PEOs using its proprietary system. See "Information
Technology."
Target Selected Clients in Growth Industries. The Company attempts to
target, and tailors its services to meet the needs of, businesses with between 5
and 500 employees in industries which the Company believes have the potential
for significant growth. As of December 31, 1998, the Company's clients had an
average of approximately 10 worksite employees. The Company believes that its
targeted businesses are likely to (i) desire the wide range of employee benefits
offered by the Company, (ii) recognize the burden of their human resource
administration costs, (iii) experience greater employment-related regulatory
burdens, and (iv) be more financially stable. In addition, the Company believes
that targeting such businesses results in greater marketing efficiency, lower
business turnover due to client business failure, and less exposure to credit
risk.
ACQUISITIONS
On March 21, 1997, the Company acquired Alternative Employee
Management, Inc. ("AEM") for approximately $471,000, consisting of the issuance
of 40,615 shares of the Company's Common Stock valued at $9.75 per share, and
$75,000 in cash (the "AEM Acquisition"). An additional cash payment of $186,000
was made in connection with a related noncompetition agreement. AEM was an PEO
headquartered in Dover, Ohio with approximately 650 worksite employees. AEM
merged with TEAM America of Ohio, Inc., a wholly-owned subsidiary of the
Company, on July 1, 1997.
On September 8, 1997, the Company acquired Workforce Strategies, Inc.
("Workforce") for approximately $8,081,000, consisting of the issuance of
494,516 shares of the Company's Common Stock valued at $8.50 per share,
$3,877,775 in cash, and options to purchase 176,037 shares of the Company's
Common Stock at $8.50 per share (the "Workforce Acquisition"). Workforce was a
PEO with approximately 1,800 worksite employees and was headquartered in
Lafayette, California. Workforce merged with and into TEAM America of
California, Inc., a wholly-owned subsidiary of the Company, on September 8,
1997.
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On October 6, 1997, the Company acquired The Personnel Department,
Incorporated ("PDI") for approximately $2,807,000, consisting of the issuance of
68,468 shares of the Company's Common Stock valued at $10.25 per share and
$2,105,400 in cash (the "PDI Acquisition). PDI, and related entities, The
Personnel Department - Midwest, Incorporated, PTM Management Company,
Incorporated, and The Personnel Department of Metropolitan Detroit, Inc., are
PEOs with approximately 500 worksite employees combined located primarily in
Michigan.
On October 31, 1997, the Company acquired Aspen Consulting Group, Inc.
("Aspen") for approximately $10,000,000, consisting of the issuance of 727,273
shares of the Company's Common Stock valued at $11.00 per share and $2,000,000
in cash (the "Aspen Acquisition"). Aspen was a PEO with approximately 3,000
worksite employees located in Idaho, Montana, Utah and Oregon. TEAM America of
Idaho, Inc., a wholly-owned subsidiary of the Company, merged with and into
Aspen on October 31, 1997. Aspen has been renamed TEAM America West, Inc.
On January 2, 1998, the Company acquired Staff-Link, Incorporated
("Staff-Link") and The Cardinal Group, Inc. ("Cardinal") for approximately
$1,050,000, consisting of the issuance of 84,050 shares of the Company's Common
Stock valued at $10.00 per share, and $210,000 in cash (the "Staff-Link
Acquisition"). Staff-Link and Cardinal were PEOs located in Tennessee, Alabama,
and Mississippi which combined had a total of approximately 800 worksite
employees. Staff-Link merged with and into TEAM America Mid-South, Inc., a
wholly-owned subsidiary of the Company, and Cardinal merged with and into TEAM
America of Tennessee, Inc., a wholly-owned subsidiary of the Company, on January
2, 1998. Staff-Link has been renamed TEAM America Mid-South, Inc. and Cardinal
was renamed Team America of Tennessee, Inc.
On March 1, 1998, the Company acquired Paymaster, Inc. ("Paymaster")
for approximately $625,000, consisting of the issuance of 52,500 shares of the
Company's Common Stock valued at $10.00 per share, and $100,000 in cash (the
"Paymaster Acquisition"). Paymaster was a PEO located in Utah with approximately
500 worksite employees. Paymaster has been renamed TEAM America of Utah, Inc.
On March 15, 1998, the Company acquired Company 1, Inc. ("Company 1")
for approximately $115,350, consisting of the issuance of 9,228 shares valued at
$10.00 per share, and $23,070 in cash (the "Company 1 Acquisition"). Company 1
was a PEO located in Montana with approximately 200 worksite employees. Company
1 has been renamed TEAM America of Montana, Inc.
On April 1, 1998, the Company acquired the customer accounts and other
certain assets and assumed certain capital lease and other obligations of
Employee Services Management LLC ("ESM") for $1,250,000 in cash and 21,429
shares valued at $14.00 per share (the "ESM Acquisition"). An additional 89,286
shares are issuable in the future upon the attainment of certain earnings
criteria prior to December 31, 2000. ESM was a PEO located in Redmond, Oregon
with approximately 850 worksite employees.
On December 1, 1998, the Company acquired certain customer accounts of
On Call Human Resource Professionals, Inc. ("On Call") for a cash payment of
$440,000 (the "On Call Acquisition"). The final purchase price for the On Call
accounts will be based upon a multiple of actual gross profit realized from the
On Call accounts in 1999. The balance of the purchase price will be payable in
2000 and 2001. On Call was a PEO located in San Diego, California with
approximately 1,000 worksite employees.
CLIENT SERVICES
Client Service Teams. The Company has client service directors who
oversee a service staff consisting of customer service representatives ("CSRs")
and customer service administrators. A team consisting of a client service
director, a client service representative and a client service administrator is
assigned to each client. The client service team is responsible for
administering the client's personnel and benefits, coordinating the Company's
response to client needs for administrative support and responding to any
questions or problems encountered by the client.
The CSR acts as the principal client service representative of the
Company and typically is on call and in contact with each client throughout the
week. The CSR serves as the communication link between the Company's various
departments and the Company's on-site supervisor, who in many cases is the
manager of the client's business. Accordingly, the CSR is involved in every
aspect of the Company's delivery of services to the client. For example, the CSR
is responsible for gathering all information necessary to process each payroll
of the client and for all other information needed by the Company's human
resources, accounting and other departments with respect to such client
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and its worksite employees. The CSRs also actively participate in hiring,
disciplining and terminating worksite employees, administering employee
benefits, and responding to employee complaints and grievances.
Core Activities. The Company provides professional employer services
through six core activities: (i) human resource administration, (ii) regulatory
compliance management, (iii) employee benefits administration, (iv) risk
management services and employer liability protection, (v) payroll and payroll
tax administration, and (vi) placement services.
Human Resource Administration. The Company, as an employer, provides
its clients with a broad range of human resource services including on-going
supervisory education and training regarding risk management and employment
laws, policies and procedures. In addition, the Company's human resource
department handles sensitive and complicated employment issues such as employee
discipline, termination, sexual harassment, and wage and salary planning and
analysis. The Company is in the process of expanding its human resource services
to assist clients in areas such as employee morale and worksite employee and
on-site supervisor training. The Company provides a comprehensive employee
handbook to all worksite employees which includes customized, site-specific
materials concerning each worksite. In addition, the Company maintains extensive
files and records regarding worksite employees for compliance with various state
and federal laws and regulations. This extensive record keeping is designed to
substantially reduce legal actions arising from lack of proper documentation.
Regulatory Compliance Management. The Company, under its standard
client agreement, assumes responsibility for complying with many employment
related regulatory requirements. As an employer, the Company must comply with
numerous federal and state laws, including (i) certain tax, workers'
compensation, unemployment, immigration, civil rights, and wage and hour laws,
(ii) the Americans with Disabilities Act of 1990, (iii) the Family and Medical
Leave Act, (iv) laws administered by the Equal Employment Opportunity
Commission, and (v) employee benefits laws such as ERISA and COBRA. The Company
provides bulletin boards to its clients and maintains them for compliance with
required posters and notices. The Company also assists its clients in their
efforts as employers to comply with and understand certain other laws and
responsibilities with respect to which the Company does not assume liability and
responsibility. For example, while the Company provides significant safety
training and risk management services to its clients, it does not assume
responsibility for compliance with the Occupational Safety and Health Act
because the client controls its worksite facilities and equipment.
Employee Benefits Administration. The Company offers a broad range of
employee benefit programs to its worksite employees. The Company administers
such benefit programs, thereby reducing the administrative responsibilities of
its clients for maintaining complex and tax-qualified employee benefit plans. By
combining its multiple worksite employees, the Company is able to take advantage
of certain economies of scale in the administration and provision of employee
benefits. As a result, the Company is able to offer to its worksite employees
benefit programs which are comparable to those offered by large corporations. In
fact, some programs offered by the Company would not otherwise be available to
the worksite employees of many clients if such clients were the sole employers.
Eligible worksite and corporate staff employees of the Company are entitled to
participate in the Company's employee benefit programs without discrimination.
Such programs include life insurance coverage as well as the Company's cafeteria
plan which offers a choice of different health plans and dental, vision and
prescription card coverage. In addition, the Company permits each qualified
employee to participate in the Company's 401(k) retirement plan and the
Company's dependent care assistance program. Each worksite employee is given (i)
the opportunity to purchase group-discounted, payroll-deducted auto, homeowners
or renters insurance and long-term disability insurance, and (ii) access to
store discount programs, free checking accounts with participating banks, a
prepaid legal services plan, and various other employee benefits. The Company
believes that by offering its worksite employees a broad range of large
corporation style benefit plans and programs it is able to reduce worksite
employee turnover which results in cost savings for the Company and its clients.
The Company performs regulatory compliance and plan administration in accordance
with state and federal benefit laws.
Risk Management Services and Employer Liability Protection. The
Company's risk management of the worksite includes policies and procedures
designed to proactively prevent and control costs of lawsuits, fines, penalties,
judgments, settlements and legal and professional fees. In addition, the Company
controls benefit plan costs by attempting to prevent fraud and abuse by closely
monitoring claims. Other risk management programs of the Company include
effectively processing workers' compensation and unemployment claims and
aggressively contesting any suspicious or improper claims. The Company believes
that such risk management efforts increase the profitability of
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the Company by reducing the Company's liability exposure and by increasing the
value of the Company's services to its clients.
Many of the Company's direct competitors in both the public and private
sector are self-insured for health care, workers' compensation and employment
practices risks. The Company, however, maintains insurance for employment
practices risks, including liability for employment discrimination and wrongful
termination. The Company believes that it historically has been able to achieve
a higher level of client satisfaction and security by being insured for such
risks. The Company also believes that being insured has greatly reduced its
liability exposure and, consequently, the potential volatility of its income
from operations because it is not required to rely exclusively on contractual
indemnification from its clients, many of whom do not carry insurance which
covers employment practices liability or do not have sufficient net worth to
support their indemnification obligations. The Company has arranged for a large
surplus lines insurance company rated A++ (superior) by A.M. Best Company to
provide to the Company and to its clients, as additional insureds, employment
practices liability insurance; however, there can be no assurance that such
insurance will be available to the Company in the future on satisfactory terms,
if at all, or if available, will be sufficient. The Company believes that this
arrangement is better received by clients who are seeking to reduce their
employment liability exposures and also prevents the Company from becoming
involved in adversarial situations with its clients by eliminating the need for
the Company to seek indemnification. The Company continues to study the
possibility of becoming self-insured in the future for selected risks and
believes that significant opportunities to self-insure may arise in the future.
Payroll and Payroll Tax Administration. The Company provides its
clients with comprehensive payroll and payroll tax administration which
substantially eliminates client responsibility for payroll and payroll taxes
beyond verification of payroll information. Unlike traditional payroll service
providers which do not act as employers, the Company, as the employer, assumes
liability and responsibility for the payroll and payroll taxes of its worksite
employees and the obligations of its client to make federal and state
unemployment and workers' compensation filings, FICA deposits, child support
levies and garnishments, and new hire reports. The Company receives all payroll
information, calculates, processes and records all such information, and issues
payroll checks and/or directly deposits the net pay of worksite employees into
their bank accounts. The Company delivers all payroll checks either to the
on-site supervisor of the worksite or directly to the worksite employees. As
part of the Company's strategic plan of expanding its information technology,
the Company is in the process of developing client-based software interfaces to
make it possible for clients to enter and submit payroll information via
computer modems.
Placement Services. As a part of its overall employment relationship,
the Company assists its clients in their efforts to hire new employees. The
Company charges for advertising such positions to its client. As a result of the
Company's advertising volume and contracts with newspapers and other media, the
Company is able to place such advertisements at significantly lower prices than
those available to the Company's clients. In addition, in some cases, the
Company does not have to place such advertisements because it already has
multiple qualified candidates in a job bank or pool of candidates. The Company
interviews, screens and pre-qualifies candidates based on criteria established
in a job description prepared by the Company with the client's assistance and
performs background checks. In addition, depending on the needs of the client,
the Company tests worksite employees for skills, health, and drug-use in
accordance with state and federal laws. Following the selection of a candidate,
the Company completes all hiring paperwork and, if the employee is eligible,
enrolls the employee in the Company's benefit programs. The Company believes
that its unique approach in providing such services gives the Company a
significant advantage over its competitors. Such services also enable the
Company to reduce its administrative expenses and employee turnover and to avoid
hiring unqualified or problem employees.
CLIENTS
The Company and its clients are each responsible for certain specified
employer-related obligations. While the Company becomes the legal employer for
most purposes, the client remains in operational control of its business. The
Company appoints an on-site supervisor for each client worksite. In many cases,
such on-site supervisor is the manager of the client's business. The Company
requires each on-site supervisor to enter into a standard on-site supervisor
employment agreement with the Company which specifies the on-site supervisor's
duties, responsibilities and limitations of authority.
Pursuant to the provisions of its standard client agreement, the
Company is the legal employer of the client's worksite employees for most
purposes and has the right, among others, to hire, supervise, terminate and set
the
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compensation of such worksite employees. The Company bills its clients on each
payroll date for (i) the gross salaries and wages, related employment taxes and
employee benefits of the Company's worksite employees, (ii) advertising
associated with recruitment, (iii) workers' compensation and unemployment
service fees and (iv) an administrative fee.
The Company's administrative fee is computed based upon either a fixed
fee per worksite employee or an established percentage of gross salaries and
wages (subject to a guaranteed minimum fee per worksite employee), which fixed
fee or percentage is negotiated at the time the client agreement is executed.
The Company's administrative fee varies by client based primarily upon the
nature and size of the client's business and the Company's assessment of the
costs and risks associated with the employment of the client's worksite
employees. Accordingly, the Company's administrative fee income will fluctuate
based on the number and gross salaries and wages of worksite employees and the
mix of client fee arrangements and terms. In addition to the items noted above,
each client must pay a one-time enrollment fee. Consistent with PEO industry
practice, the Company recognizes all amounts billed to its clients as revenue
because the Company is at risk for the payment of its direct costs, whether or
not the Company's clients pay the Company on a timely basis or at all.
At December 31, 1998, the Company served approximately 1,450 clients
and approximately 14,000 worksite employees resulting in an average of 10
worksite employees per client. No single client accounted for more than 10% of
the Company's revenues for the twelve months ended December 31, 1998. As a
result of acquisitions in 1997 and 1998, the Company's clientele is more
geographically diverse. In 1996, approximately 94% of the Company's client base
was located in Ohio. At December 31, 1998, less than 40% of the worksite
employees are located in Ohio. The Company's client base is broadly distributed
throughout a wide variety of industries. The Company's clientele is heavily
weighted towards professional, service, light manufacturing and non-profit
businesses. The Company's exposure to higher workers' compensation claims
businesses such as construction and commercial is less than 25% of its total
business.
The Company has benefited from a high level of client retention,
resulting in a significant recurring revenue stream. The attrition that the
Company has experienced has typically been attributable to a variety of factors,
including (i) sale or acquisition of the client, (ii) termination by the Company
resulting from the client's inability to make timely payments, (iii) client
business failure or downsizing, and (iv) client nonrenewal due to price or
service dissatisfaction. The Company believes that the risk of a client
terminating its relationship with the Company decreases substantially after the
client has been associated with the Company for over one year because of the
client's increased appreciation of the Company's value-added services and the
difficulties associated with a client reassuming the burdens of being the sole
employer. The Company believes that only a small percentage of nonrenewing
clients withdraw due to dissatisfaction with the Company's services or to retain
the services of a competitor.
SALES AND MARKETING
The Company markets its services through a direct sales force of sales
executives. Each of the Company's sales executives enters into an employment
agreement with the Company which establishes a performance-based compensation
program, which currently includes a base amount, sales commissions and a bonus
for each new worksite employee enlisted. Such employment agreements contain
certain non-competition and non-solicitation provisions which prohibit the sales
executives from competing with the Company. The Company attributes the
productivity of its sales executives in part to their experience in fields
related to one or more of the Company's core services. The background of the
Company's sales executives includes experience in industries such as information
services, health insurance, business consulting and commercial sales. The
Company's sales materials emphasize its broad range of high-quality services and
the resulting benefits to clients and worksite employees.
The Company's sales and marketing strategy is to achieve higher
penetration in its existing markets by hiring additional sales personnel and
increasing sales productivity. Currently, the Company generates sales leads from
two primary sources, referrals and direct sales efforts. These leads result in
initial presentations to prospective clients. The Company's sales executives
gather information about the prospective client and its employees, including job
classification, workers' compensation and health insurance claims history,
salary and the desired level of employee benefits. The Company performs a risk
management analysis of each prospective client which involves a review of such
factors as the client's credit history, financial strength, and workers'
compensation, and health insurance and unemployment claims history. Following a
review of these factors, a client proposal is prepared for acceptable clients.
Management believes that its stringent underwriting procedures greatly reduce
the controllable costs and liability
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exposure of the Company. In addition, the Company believes that the application
of such underwriting guidelines is in part responsible for the Company's high
rate of client retention.
Once a prospective client accepts the Company's proposal, the new
client is quickly incorporated into the Company's system by a "client service
team" consisting of one of the Company's client service directors, a CSR and a
client service administrator. The client service team is responsible for
administering the client's personnel and benefits, coordinating the Company's
response to client needs for administrative support and responding to any
questions or problems encountered by the client.
INFORMATION TECHNOLOGY
The Company's primary information processing center is located at its
corporate headquarters. The Company's other offices are connected to the
centralized system through network dial-up services. The Company uses
industry-standard software to process its payroll and other commercially
available software to manage standard business functions such as accounting and
finance.
Since October 1995, the Company has been developing an integrated
information system based on client-server technology using an Oracle(TM)
relational database. The Company's new system, called TEAMDirect(TM), will allow
clients to enter and submit payroll data via modem and over the internet. The
new system will also be used to store and retrieve information regarding all
aspects of the Company's business, including human resource administration,
regulatory compliance management, employee benefits administration, risk
management services, payroll and payroll tax administration, and placement
services. As of March 1, 1999, the Company's operations in Ohio, Idaho, Montana,
Utah, and Michigan are utilizing TEAMDirect(TM). The remaining locations in
California, Tennessee and Oregon are expected to be on TEAMDirect(TM) by
mid-1999. The Company believes that this system will be capable of being
upgraded and expanded to meet the needs of the Company for the foreseeable
future.
The Company has demonstrated this system at industry conferences and
advertised it in industry publications. Based on initial receptivity and
interest in this product, the Company believes it will be able to deliver the
product to third parties under licensing arrangements (to larger PEOs) or under
a service bureau arrangement (to smaller PEOs). The Company does not anticipate
revenue activity, if any, from software licensing or service bureau activities
until late 1999.
COMPETITION
The PEO industry is highly fragmented, with in excess of 2,500
companies currently providing PEO services, mostly in a single market or region.
The Company's competitors include traditional in-house human resource
departments and other PEOs. The Company also competes with providers of
unbundled employment-related services such as payroll processing firms, human
resource consultants, and workers compensation and unemployment administrators.
Certain of such companies, many of which have greater financial and other
resources than the Company, are seeking to enter the professional employer
services market. The Company believes that the primary elements of competition
are quality of service, choice and quality of benefits, reputation and price.
The Company believes that service quality, name recognition, regulatory
expertise, financial resources, risk management and data processing capability
distinguish leading PEOs from the rest of the industry.
The Company believes that barriers to entry into the PEO industry are
increasing as a result of several factors, including the following: (i) the
complexity of the PEO business and the need for expertise in multiple
disciplines; (ii) the need to invest significant capital in service delivery
infrastructures and management information systems; (iii) the requirement for
sophisticated management information systems to track all aspects of business in
a high-growth environment; and (iv) the three to five years of experience
required to establish experience ratings in the key cost areas of workers'
compensation, health insurance and unemployment.
CORPORATE EMPLOYEES
As of December 31, 1998, the Company had 170 corporate employees at its
headquarters in Worthington, Ohio and at its offices around the country.
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INDUSTRY REGULATION
OVERVIEW
The Company's professional employer operations are subject to extensive
state and federal regulations that include operating, fiscal, licensing and
certification requirements. Adding complexity to the Company's regulatory
environment are (i) uncertainties resulting from the non-traditional employment
relationships created by PEOs, (ii) variations in state regulatory schemes, and
(iii) the ongoing evolution of regulations regarding health care and workers'
compensation.
Many of the federal and state laws and regulations relating to labor,
tax and employment matters applicable to employers were enacted prior to the
development of non-traditional employment relationships and, accordingly, do not
specifically address the obligations and responsibilities of PEOs. Moreover, the
Company's PEO services are regulated primarily at the state level. Regulatory
requirements regarding the Company's business therefore vary from state to
state, and as the Company enters new states it will be faced with new regulatory
and licensing environments. There can be no assurance that the Company will be
able to satisfy the licensing requirements or other applicable regulations of
any particular state in which it is not currently operating.
The application of many laws to the Company's PEO services will depend
on whether the Company is considered an employer under the relevant statutes and
regulations. The common law test of the employment relationship is generally
used to determine employer status for benefit plan purposes under Employee
Retirement Income Security Act of 1974, as amended ("ERISA") the Internal
Revenue Code of 1986, as amended (the "Code"), the workers' compensation laws of
many states and various state unemployment laws. This common law test involves
an examination of approximately 20 factors to ascertain whether an employment
relationship exists between a worker and a purported employer. By contrast,
certain statutes such as those relating to PEO licensing and federal income tax
withholding use differing or more expansive definitions of employer. In
addition, from time to time, there have been proposals to enact a statutory
definition of employer for other purposes of the Code.
While the Company cannot predict with certainty the development of
federal and state regulations, management will continue to pursue a practice
strategy of educating administrative authorities as to the advantages of PEOs
and assisting in the development of regulation which appropriately accommodates
their legitimate business function.
PEO SERVICES
PEO Licensing Requirements. While many states do not explicitly
regulate PEOs, approximately one-third of the states (not including Ohio) have
enacted laws that have licensing or registration requirements for PEOs and
several additional states, including Ohio, are considering such laws. Such laws
vary from state to state but generally provide for the monitoring of the fiscal
responsibility of PEOs. State regulation assists in screening insufficiently
capitalized PEO operations and, in the Company's view, has the effect of
legitimizing the PEO industry generally by resolving interpretative issues
concerning employee status for specific purposes under applicable state law.
However, because existing regulations are relatively new, there is limited
interpretive or enforcement guidance available. The development of additional
regulations and interpretation of existing regulations can be expected to evolve
over time. The Company has actively supported such regulatory efforts, including
certain proposed legislation in Ohio that would require PEOs to be registered
with the state. Such proposed Ohio legislation would not have a material adverse
effect on the Company's business, financial condition or results of operations,
rather the Company believes that such legislation would benefit the Company and
the PEO industry by recognizing the status of PEOs as legal employers.
Federal and State Employment Taxes. The Company assumes the sole
responsibility and liability for the payment of federal and state employment
taxes with respect to wages and salaries paid to its employees, including
worksite employees. There are essentially three types of federal employment tax
obligations: (i) income tax withholding requirements, (ii) social security
obligations under FICA, and (iii) unemployment obligations under FUTA. Under
these Code sections, the employer has the obligation to withhold and remit the
employer portion and, where applicable, the employee portion of these taxes.
Employee Benefit Plans. The Company offers various employee benefit
plans to its worksite employees, including 401(k) plans, cafeteria plans, group
health plans, a group life insurance plan, a group disability insurance plan and
an employee assistance plan. Generally, employee benefit plans are subject to
provisions of both the Code and ERISA. In order to qualify for favorable tax
treatment under the Code, the plans must be established and maintained
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by an employer for the exclusive benefit of its employees. Most of these benefit
plans are also offered to the Company's corporate employees.
Representatives of the IRS have publicly stated that a Market Segment
Study Group established by the IRS is examining whether PEOs are the employers
of worksite employees under Code provisions applicable to employee benefit plans
and consequently able to offer to worksite employees benefit plans that qualify
for favorable tax treatment and whether client company owners are employees of
PEOs under Code provisions applicable to employee benefit plans. The Company has
limited knowledge of the nature, scope and status of the Market Segment Study
because it is not a part thereof and the IRS has not publicly released any
information regarding the study to date. In addition, the Company's 401(k) plan
was audited for the year ended December 31, 1992, and as a part of that audit,
the IRS regional office has asked the IRS national office to issue a Technical
Advise Memorandum ("TAM") regarding whether or not the Company is the employer
for benefit plan purposes. The Company has stated its position in a filing with
the IRS that it is the employer for benefit plan purposes. The Company is unable
to predict the timing or nature of the findings of the Market Segment Study
Group, the timing or conclusions of the TAM, or the ultimate outcome of such
conclusions or findings. If the IRS study were to conclude that a PEO is not an
employer of its worksite employees for plan purposes, then worksite employees
could not continue to make contributions to the Company's 401(k) plan or
cafeteria plan. The Company believes that, although unfavorable to the Company,
a prospective application by the IRS of an adverse conclusion would not have a
material adverse effect on its financial position and results of operations. If
such conclusion were applied retroactively, then employees' vested account
balances could become taxable immediately, the Company would lose its tax
deduction for deposits to the plan trust which would become a taxable trust, and
penalties could be assessed. In such a scenario, the Company would face the risk
of client dissatisfaction as well as potential litigation. A retroactive
application by the IRS of an adverse conclusion could have a material adverse
effect on the Company's financial position and results of operations. While the
Company believes that a retroactive disqualification is unlikely, there can be
no assurance as to the ultimate resolution of these issues.
The Staffing Firm Workers Benefits Act of 1997 (H.R. 1891) was proposed
legislation that would have clarified who is the employer for benefit plan
purposes, thus eliminating much of the confusion and uncertainty surrounding
these issues currently. H.R. 1891 did not become legislation in 1998. It is to
be reintroduced in 1999 with additional support and sponsorship. It is uncertain
at this time whether this legislation will become law, and if it does, what
changes, if any, may be required of the Company's existing benefit plans in
order to comply with its provisions.
In addition to the employer/employee relationship issues described
above, pension and profit-sharing plans, including the Company's 401(k) plan,
must satisfy certain other requirements under the Code. These other requirements
are generally designed to prevent discrimination in favor of highly compensated
employees to the detriment of non-highly compensated employees with respect to
both the availability of, and the benefits, rights and features offered in,
qualified employee benefit plans. The Company applies the nondiscrimination
requirements of the Code to ensure that its 401(k) plan is in compliance with
the requirements of the Code.
Workers' Compensation. Workers' compensation is a state mandated,
comprehensive insurance program that requires employers to fund medical
expenses, lost wages and other costs resulting from work-related injuries
illnesses and deaths. In exchange for providing workers' compensation coverage
for employees, employers are not subject to litigation by employees for benefits
in excess of those provided by the relevant state statute. In most states, the
extensive benefits coverage (for both medical cost and lost wages) is provided
through the purchase of commercial insurance from private insurance companies,
participation in state-run insurance funds or employer self-insurance. Workers'
compensation benefits and arrangements vary on a state-by-state basis and are
often highly complex. These laws establish the rights of workers to receive
benefits and to appeal benefit denials.
As a creation of state law, workers' compensation is subject to change
by the state legislature in each state and is influenced by the political
processes in each state. Several states, such as Ohio, have mandated that
employers receive coverage only from state operated funds. Although Ohio
maintains such a "state fund," it does allow employers of a sufficient size and
with sufficient ties to the state to self-insure for workers' compensation
purposes. Employers granted the privilege of self-insurance must be self-funded
for at least the first $50,000 of cost in every claim but may purchase private
insurance for costs in excess of that amount. Ohio also allows its "state fund"
employers who meet certain criteria as a group to band together for risk pooling
purposes. In addition, Ohio provides safety prevention program premium
discounts. Although workers' compensation in Ohio is mandatory and generally
shields employers from common law civil suits, the Ohio General Assembly has
created an exception for so-called "intentional torts." In 1995,
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the General Assembly enacted a law imposing a very strict standard for
plaintiffs to bring such suits. Similar legislative efforts in the past,
however, were struck down by the Ohio Supreme Court.
Ohio and certain other states have recently adopted legislation
requiring that all workers' compensation injuries be treated through a managed
care program. Ohio's program became effective in March 1997. The Company
believes that such program will not significantly impact the operations of the
Company because all Ohio employers will be subject to such new laws and
regulations.
Other Employer Related Requirements. As an employer, the Company is
subject to a wide variety of federal and state laws and regulations governing
employer-employee relationships, including the Immigration Reform and Control
Act, the Americans with Disabilities Act of 1990, the Family Medical Leave Act,
the Occupational Safety and Health Act, wage and hour regulations, and
comprehensive state and federal civil rights laws and regulations, including
those prohibiting discrimination and sexual harassment. The definition of
employer may be broadly interpreted under these laws.
Responsibility for complying with various state and federal laws and
regulations is allocated by agreement between the Company and its clients, or in
some cases is the joint responsibility of both. Because the Company acts as an
employer of worksite employees for many purposes, it is possible that the
Company could incur liability for violations of laws even though the Company is
not contractually or otherwise responsible for the conduct giving rise to such
liability. The Company's standard client agreement generally provides that the
client will indemnify the Company for liability incurred as a result of an act
of negligence of a worksite employee under the direction and control of the
client or to the extent the liability is attributable to the client's failure to
comply with any law or regulation for which it has specified contractual
responsibility. However, there can be no assurance that the Company will be able
to enforce such indemnification and the Company may therefore be ultimately
responsible for satisfying the liability in question.
RISK FACTORS
Potential For Unfavorable Government Regulations. The Company's
operations are affected by numerous federal, state and local laws and
regulations relating to labor, tax, insurance and employment matters. By
entering into an employment relationship with employees who work at client
locations ("worksite employees"), the Company assumes certain obligations and
responsibilities of an employer under these laws. Because many of the laws
related to the employment relationship were enacted prior to the development of
alternative employment arrangements, such as those provided by professional
employer organizations and other staffing businesses, many of these laws do not
specifically address the obligations and responsibilities of non-traditional
employers. Interpretive issues concerning such relationships have arisen and
remain unsettled. Uncertainties arising under the Internal Revenue Code of 1986,
as amended (the "Code"), include, but are not limited to, the qualified tax
status and favorable tax status of certain benefit plans provided by the Company
and other alternative employers. The unfavorable resolution of these unsettled
issues could have a material adverse effect on the Company's results of
operations and financial condition.
The application of many laws to the Company's PEO services will depend
on whether the Company is considered an employer under the relevant statutes and
regulations. The common law test of the employment relationship is generally
used to determine employer status for benefit plan purposes under the Employee
Retirement Income Security Act of 1974, as amended ("ERISA"), the Code, the
workers' compensation laws of many states and various state unemployment laws.
This common law test involves an examination of approximately 20 factors to
ascertain whether an employment relationship exists between a worker and a
purported employer. Substantial weight is typically given to the question of
whether the purported employer has the right to direct and control the details
of an individual's work. For a discussion of certain of these factors, see
"Industry Regulation -- Overview." By contrast, certain statutes such as those
relating to PEO licensing and federal income tax withholding use differing or
more expansive definitions of employer. In addition, from time to time, there
have been proposals to enact a statutory definition of employer for other
purposes of the Code.
While many states do not explicitly regulate PEOs, approximately
one-third of the states have enacted laws (not including Ohio) that have
licensing or registration requirements for PEOs, and several additional states,
including Ohio, are considering such laws. Such laws vary from state to state
but generally provide for the monitoring of the fiscal responsibility of PEOs
and specify the employer responsibilities assumed by PEOs. There can be no
assurance that the Company will be able to comply with any such regulations
which may be imposed upon it in the future, and the inability
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of the Company to comply with any such regulations could have a material adverse
effect on the Company's results of operations and financial condition. See
"Industry Regulation."
In addition, there can be no assurance that existing laws and
regulations which are not currently applicable to the Company will not be
interpreted more broadly in the future so as to apply to the Company's existing
activities or that new laws and regulations will not be enacted with respect to
the Company's activities, either of which could have a material adverse effect
on the Company's business, financial condition, results of operations and
liquidity. See "Industry Regulation."
Risk of Loss of Qualified Status for Certain Tax Purposes.
Representatives of the IRS have publicly stated that the IRS is conducting a
Market Segment Study of the PEO industry, focusing on selected PEOs (not
including the Company), in order to examine the relationships among PEOs,
worksite employees and owners of client companies. The Company has limited
knowledge of the nature, scope and status of the Market Segment Study because it
is not a part thereof and the IRS has not publicly released any information
regarding the study to date. In addition, the Company's 401(k) plan was audited
for the year ended December 31, 1992, and as part of that audit, the IRS
regional office has asked the IRS national office to issue a TAM regarding
whether or not the Company is the employer for benefit plan purposes. The
Company has stated its position in a filing with the IRS that it is the employer
for benefit plan purposes. If the IRS concludes that PEOs are not "employers" of
certain worksite employees for purposes of the Code as a result of either the
Market Segment Study or the TAM, then the tax qualified status of the Company's
401(k) plan could be revoked and its cafeteria plan may lose its favorable tax
status. The loss of qualified status for the 401(k) plan and the cafeteria plan
could increase the Company's administrative expenses, increase client
dissatisfaction and adversely affect the ability of the Company to attract and
retain clients and worksite employees, and, thereby, materially adversely affect
the Company's financial condition and results of operations. The Company is
unable to predict the timing or nature of the findings of the Market Segment
Study Group, the timing or conclusions of the TAM, and the ultimate outcome of
such conclusions or findings. The Company is also unable to predict the impact
which the foregoing could have on the Company's administrative expenses, and
whether the Company's resulting liability exposure, if any, will relate to past
or future operations. Accordingly, the Company is unable to make a meaningful
estimate of the amount, if any, of such liability exposure. See "Industry
Regulation -- PEO Services (Employee Benefit Plans)."
The Staffing Firm Workers Benefits Act of 1997 (H.R. 1891) was proposed
legislation that would have clarified who is the employer for benefit plan
purposes, thus eliminating much of the confusion and uncertainty surrounding
these issues currently. H.R. 1891 did not become legislation in 1998. It is to
be reintroduced in 1999 with additional support and sponsorship. It is uncertain
at this time whether this legislation will become law, and if it does, what
changes, if any, may be required of the Company's existing benefit plans in
order to comply with its provisions.
Dependence Upon Key Personnel. The Company is dependent to a
substantial extent upon the continuing efforts and abilities of Kevin T.
Costello, the Company's President and Chief Executive Officer. The Company has
entered into an employment agreement with Mr. Costello. The loss of the services
of Mr. Costello could have a material adverse effect upon the Company's
financial condition and results of operations. The Company maintains a key-man
life insurance policy on the life of Mr. Costello.
Failure to Manage Growth and Risks Related to Growth Through
Acquisitions. The Company intends to continue its internal growth and to pursue
an acquisition strategy. Such growth may place a significant strain on the
Company's management, financial, operating and technical resources. The Company
has limited acquisition experience, and growth through acquisition involves
substantial risks, including the risk of improper valuation of the acquired
business and the risks inherent in integrating such businesses with the
Company's operations. There can be no assurance that suitable acquisition
candidates will be available, that the Company will be able to acquire or
profitably manage such additional companies, or that future acquisitions will
produce returns that justify the investment or that are comparable to the
Company's past returns. In addition, the Company may compete for acquisition and
expansion opportunities with companies that have significantly greater resources
than the Company. There can be no assurance that management skills and systems
currently in place will be adequate to implement the Company's strategy of
growth through acquisitions and by increased market penetration in Ohio and its
other existing markets, and the failure to manage growth effectively, or to
implement its strategy, could have a material adverse effect on the Company's
results of operations and financial condition. The Company has experienced
significant internal growth since its inception; however, there can be no
assurance that the Company will be able to sustain its past growth rate. There
also can be no assurance that the PEO industry as a whole will be able to
sustain the growth rate it has experienced in recent years. See "Business --
Growth Strategy."
Risks Associated With Expansion Into Additional States. The Company has
offices in California, Florida, Idaho, Illinois, Michigan, Montana, Ohio,
Oregon, Tennessee and Utah. In the event that the Company determines to offer
its services to prospective clients in a state in which the Company has not
previously operated, the Company, in order to operate effectively in such new
state, will have to obtain all necessary regulatory approvals, achieve
acceptance
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in the local market, and adapt its procedures to the state's regulatory
requirements and local market conditions. The length of time required to obtain
regulatory approval to begin operations will vary from state to state, and there
can be no assurance that the Company will be able to satisfy licensing
requirements or other applicable regulations of any particular state in which it
is not currently operating, that it will be able to provide the full range of
services currently offered in its existing markets, or that it will be able to
operate profitably within the regulatory environment of any state in which it
does obtain regulatory approval. The absence of required licenses would require
the Company to restrict the services it offers. See "Industry Regulation."
Moreover, as the Company expands into additional states, there can be no
assurance that the Company will be able to duplicate in other markets the
revenue growth and operating results experienced in its Ohio market.
Risk of Loss From Client Nonpayment of Direct Costs. For work performed
prior to the termination of a client agreement, the Company may be obligated, as
an employer, to pay the gross salaries and wages of the client's worksite
employees and the related employment taxes and workers' compensation costs,
whether or not the Company's client pays the Company on a timely basis or at
all. To the extent that any client experiences financial difficulty, or is
otherwise unable to meet its obligations as they become due, the Company's
financial condition and results of operations could be adversely affected. The
Company attempts to minimize its credit risk by investigating and monitoring the
credit history and financial strength of its clients and by generally requiring
payments to be made by wire transfer, immediately available funds or Automated
Clearing House ("ACH") transfer. With respect to ACH transfers, the Company is
obligated to pay the client worksite employees if there are insufficient funds
in the client's bank account on the payroll date. The Company's policy, however,
is only to permit clients with a proven credit history with the Company to pay
by ACH transfer. In addition, in the event of nonpayment by a client, the
Company has the ability to terminate immediately its contract with the client.
The Company also protects itself when it deems necessary by obtaining
unconditional personal guaranties from the owners of clients and/or a cash
security deposit, bank line of credit or pledge of certificates of deposit. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources." Although the Company
historically has not incurred significant bad debt expense, in each payroll
period the Company has a nominal number of clients who fail to make timely
payment prior to the Company's delivery of the payroll. The Company's bad debt
expense for the years ended December 31, 1998, 1997, 1996, 1995 and 1994 was
$9,748, $0, $0, $35,653, and $40,773, respectively, however, there can be no
assurance that the Company's bad debt expense will not increase in the future.
Risk of Loss From Increased Workers' Compensation and Unemployment
Costs. The Company pays premiums into the Ohio Bureau of Workers' Compensation
state fund with respect to its worksite employees located in Ohio and maintains
workers' compensation insurance, generally with a private insurance company, for
its worksite employees located outside of Ohio. The Company's worksite employees
currently work in approximately 30 states, resulting in the payment by the
Company of unemployment taxes in such states. The Company does not generally
bill its clients for its actual workers' compensation and unemployment costs,
but rather bills its clients for such costs at rates which vary by client based
upon the client's claims and rate history. The amount billed is intended (i) to
cover payments made by the Company for insurance premiums and unemployment
taxes, the Company's cost of contesting workers' compensation and unemployment
claims, and other related administrative costs and (ii) to compensate the
Company for providing such services.
The Company's workers' compensation and unemployment costs could
increase as a result of many factors, including increases in the rates charged
by the applicable states and private insurance companies and changes in the
applicable laws and regulations. Although the Company believes that historically
it has profited from such services, the Company's results of operations and
financial condition could be materially adversely affected in the event that the
Company's actual workers' compensation and unemployment costs exceed those
billed to its clients. The Company believes that this risk is mitigated by the
fact that its standard client agreement provides that the Company, at its
discretion, may adjust the amount billed to the client to reflect changes in the
Company's direct costs, including, without limitation, statutory increases in
employment taxes and insurance. Any such adjustment which relates to changes in
direct costs is effective as of the date of the changes and all other changes
require thirty days' prior notice. Such a rate increase, however, might result
in increased client dissatisfaction, which could adversely affect the ability of
the Company to attract and retain clients and worksite employees, and, thereby,
materially adversely affect the Company's financial condition and results of
operations. See "Management's Discussion and Analysis of Financial Condition and
Results of Operation -- Overview."
Short Term Nature of Client Agreements. The Company's standard client
agreement provides for successive one-year terms, subject to termination by the
Company or the client at any time upon 30 days' prior written notice. A
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significant number of terminations by clients could have a material adverse
effect on the Company's financial condition, results of operations and
liquidity. See "Business -- Clients."
Liabilities For Client and Employee Actions. A number of legal issues
remain unresolved with respect to the relationship among PEOs, their clients and
worksite employees, including questions concerning the ultimate liability for
violations of employment and discrimination laws. See "Industry Regulation." The
Company's client agreement establishes a contractual division of
responsibilities between the Company and each client for various human resource
matters, including compliance with and liability under various governmental laws
and regulations. However, the Company may be subject to liability for violations
of these or other laws despite these contractual provisions even if it does not
participate in such violations. Although such client agreements generally
provide that the client indemnify the Company for any liability attributable to
the client's failure to comply with its contractual obligations and the
requirements imposed by law, the Company may not be able to collect on such a
contractual indemnification claim and thus may be responsible for satisfying
such liabilities. See "Risk Factors -- Risk of Loss from Client Nonpayment of
Direct Costs" and "Business -- Clients." In addition, worksite employees may be
deemed to be agents of the Company, subjecting the Company to liability for the
actions of such worksite employees. The Company attempts to mitigate this risk
by maintaining employment practices liability insurance; however, there can be
no assurance that such insurance will be available to the Company in the future
on satisfactory terms, if at all, or if available, will be sufficient. See "Risk
Factors -- Potential Legal Liability; Insurance."
Potential Legal Liability; Insurance. As an employer, the Company from
time to time may be subject in the ordinary course of its business to a wide
variety of employment-related claims such as claims for injuries, wrongful
death, harassment, discrimination, wage and hours violations and other matters.
Although the Company carries $2 million of general liability insurance and
employment practices liability insurance in the amount of $10 million per
occurrence with a $250,000 deductible, there can be no assurance that any such
insurance carried by the Company or its providers will be sufficient to cover
any judgments, settlements or costs relating to any present or future claims,
suits or complaints or that sufficient insurance will be available to the
Company or such providers in the future on satisfactory terms, if at all. If the
insurance carried by the Company or its providers is not sufficient to cover any
judgments, settlements or costs relating to any present or future claims, suits
or complaints, then the Company's business and financial condition could be
materially adversely affected.
Competition and New Market Entrants. The PEO industry is highly
fragmented, with in excess of 2,500 companies providing PEO services in 1998
according to industry sources. The Company encounters competition from other
PEOs and from single-service and "fee-for-service" companies such as payroll
processing firms, insurance companies and human resource consultants. The
Company may encounter substantial competition from new market entrants. Some of
the Company's current and future competitors may be significantly larger, have
greater name recognition and have greater financial, marketing and other
resources than the Company. There can be no assurance that the Company will be
able to compete effectively against such competitors in the future. See
"Business -- Competition."
Control By Principal Shareholders; Voting Agreement. On January 1,
1999, Richard C. Schilg, Kevin T. Costello, Steven Cash Nickerson, Byron G.
McCurdy and Terry McCurdy (collectively, the "Voting Group") entered into a
voting agreement (the "Voting Agreement"). The Voting Agreement requires that
each member of the Voting Group vote their shares of the Company for certain
persons nominated to be directors of the Company. Further, the Voting Agreement
restricts members of the Voting Group from: (i) soliciting proxies in opposition
to any recommendation of the Company's Board of Directors; (ii) initiating or
participating in any group which proposes, without the support of the Board of
Directors, any change in control of the Company; or (iii) taking any action
which would hinder Kevin Costello's capacity to operate and function as the
Chief Executive Officer of the Company. As of March 1, 1999, the Voting Group
beneficially owned an aggregate of 2,075,108 shares of Common Stock constituting
approximately 48.7% of the outstanding Common Stock. Accordingly, the Voting
Group will be in a position to effect the management and policies of the Company
in general, and to influence the outcome of corporate transactions or other
matters submitted to the Company's shareholders for approval, including the
election of directors, mergers, acquisitions, consolidations or the sale of
substantially all of the Company's assets.
Potential Volatility of Stock Price. The market price of the Common
Stock could be highly volatile, fluctuating in response to factors such as
changes in the economy or the financial markets, variations in the Company's
operating results, failure to achieve earnings consistent with analysts'
estimates, announcements of new services or market expansions by the Company or
its competitors, and developments relating to regulatory or other issues
affecting the PEO
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industry. In addition, the Nasdaq National Market generally has experienced and
is likely in the future to experience significant price and volume fluctuations
which could adversely affect the market price of the Company's Common Stock
without regard to the Company's operating performance.
Quarterly Fluctuations in Operating Results. Historically, the
Company's quarterly operating results have fluctuated significantly as a result
of a number of factors, including the timing and number of new client agreements
and terminations thereof, none of which can be predicted with any degree of
certainty. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Quarterly Results of Operations."
Shares Eligible For Future Sale; Possible Adverse Effect on Market
Price. At March 1, 1999, the Company had 4,258,714 shares of the Company's
Common Stock outstanding. Of these shares, 2,129,071 shares are held by
nonaffiliates of the Company and are freely tradable without restriction or
further registration under the Securities Act or eligible for resale under the
provisions of Rule 144 under the Securities Act. The holders of the remaining
2,129,643 shares are entitled to resell them only pursuant to a registration
statement under the Securities Act or an applicable exemption from registration
thereunder such as an exemption provided by Rule 144 or Rule 145 under the
Securities Act. Additionally, as of March 1, 1999, the Company had outstanding
options to purchase 1,360,203 shares of the Company's Common Stock at a weighted
average price of $8.75, of which options for 310,448 shares of the Company's
Common Stock were exercisable as of March 1, 1999 at a weighted average exercise
price of $8.63.
Sales of substantial amounts of these shares in the public market or
the prospect of such sales could adversely affect the market price of the
Company's Common Stock.
Anti-Takeover Effect. Certain provisions of the Company's Amended
Articles of Incorporation and Amended Code of Regulations and of the Ohio
Revised Code, together or separately, could discourage potential acquisition
proposals, delay or prevent a change in control of the Company and limit the
price that certain investors might be willing to pay in the future for the
Common Stock. Among other things, these provisions (i) require certain
supermajority votes; (ii) establish certain advance notice procedures for
nomination of candidates for election as directors and for shareholders
proposals to be considered at shareholders' meetings; and (iii) divide the Board
of Directors into two classes of directors serving staggered two-year terms.
Pursuant to the Company's Amended Articles of Incorporation, the Board
of Directors of the Company has authority to issue up to 1,000,000 preferred
shares without further shareholder approval. Such preferred shares could have
dividend, liquidation, conversion, voting and other rights and privileges that
are superior or senior to the shares Common Stock. Issuance of preferred shares
could result in the dilution of the voting power of the shares of Common Stock,
adversely affect holders of the shares of Common Stock in the event of
liquidation of the Company or delay, defer or prevent a change in control of the
Company. In certain circumstances, such issuance could have the effect of
decreasing the market price of the shares Common Stock.
In addition, Section 1701.831 of the Ohio Revised Code contains
provisions that require shareholder approval of any proposed "control share
acquisition" of any Ohio corporation at any of three ownership thresholds: 20%,
33-1/3% and 50%; and Chapter 1704 of the Ohio Revised Code contains provisions
that restrict certain business combinations and other transactions between an
Ohio corporation and interested shareholders. See "Description of Capital
Stock."
Future Capital Needs; Uncertainty of Additional Financing. The Company
currently anticipates that its available cash resources combined with funds from
operations will be sufficient to meet its presently anticipated working capital
and capital expenditures requirements. The Company may need to raise additional
funds through public or private debt or equity financing in order to take
advantage of unanticipated opportunities, including more rapid expansion or
acquisitions or to respond to unanticipated competitive pressures. If additional
funds are raised through the issuance of equity securities, then the percentage
ownership of the then current shareholders of the Company may be reduced and
such equity securities may have rights, preferences or privileges senior to
those of the holders of the Company's Common Stock. There can be no assurance
that additional financing will be available on terms favorable to the Company,
or at all. If adequate funds are not available or are not available on
acceptable terms, then the Company may not be able to take advantage of
unanticipated opportunities, develop new or enhanced services or otherwise
respond to unanticipated competitive pressures and the Company's business,
operating results and financial condition could be materially adversely
affected. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Liquidity and Capital Resources."
-15-
16
ITEM 2. PROPERTIES.
The Company leases office facilities in Ohio, Michigan, Florida,
Illinois, California, Idaho, Utah, Montana and Oregon. The Company's
headquarters are located in a suburb of Columbus, Ohio in a leased building that
houses the Company's executive offices and PEO operations for central Ohio
worksite employees. The Company's other offices are used to service its local
PEO operations and are also leased. The Company believes that its current
facilities are adequate for its current needs and that additional suitable space
will be available as required.
ITEM 3. LEGAL PROCEEDINGS.
The Company is not involved in any material pending legal proceedings,
other than ordinary routine litigation incidental to its business. The Company
does not believe that any such pending legal proceedings, individually or in the
aggregate, will have a material adverse effect on the Company's financial
results.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Company's Common Stock has been quoted on the Nasdaq National
Market under the symbol "TMAM" since the commencement of its initial public
offering on December 10, 1996. The following table sets forth, for the periods
indicated, the high and low sales prices for the Company's Common Stock, as
reported on the Nasdaq National Market.
CALENDAR PERIOD COMPANY COMMON STOCK
- ------------------------------------------------- --------------------------------
High Low
Fiscal 1996:
Fourth Quarter (December 10 to December 31) $12.25 $11.00
Fiscal 1997:
First Quarter $11.25 $ 9.25
Second Quarter $10.25 $ 6.75
Third Quarter $11.00 $ 7.13
Fourth Quarter $11.75 $ 9.50
Fiscal 1998:
First Quarter $17.50 $ 9.50
Second Quarter $14.00 $10.00
Third Quarter $10.44 $ 5.00
Fourth Quarter $ 7.50 $ 4.13
Fiscal 1999:
First Quarter (through March 23, 1999) $ 6.50 $ 4.00
The number of record holders of the Company's Common Stock, as of March
23, 1999, was 153. The closing sales price of the common stock on March 23,
1999, was $4.75.
The Company has not paid any cash dividends to holders of its Common
Stock and does not anticipate paying any cash dividends in the foreseeable
future, but intends instead to retain future earnings for reinvestment in its
business. The payment of any future dividends would be at the discretion of the
Company's Board of Directors and would depend upon, among other things, future
earnings, operations, capital requirements, the general financial condition of
the Company and general business conditions.
-16-
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ITEM 6. SELECTED FINANCIAL DATA.
The following selected historical financial data for the Company should
be read in conjunction with the Company's Consolidated Financial Statements,
including the Notes, thereto and "Management's Discussion and Analysis of
Financial Condition and Results of Operations." The statement of operations data
set forth below with the respect to the years ended December 31, 1994, 1995,
1996, 1997 and 1998 and the balance sheet data as of December 31, 1994, 1995,
1996, 1997 and 1998 are derived from audited consolidated financial statements.
-17-
18
YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
(IN THOUSANDS, EXCEPT FOR PER SHARE AND STATISTICAL DATA)
Statement of Operations Data:
Revenues $339,958 $155,864 $95,468 $74,921 $56,070
Direct costs:
Salaries and wages 291,615 134,532 81,262 63,502 47,602
Payroll taxes, workers' compensation
premiums, employee benefits and other 31,576 13,013 8,763 7,594 5,578
-------- -------- ------- ------- -------
Gross profit 16,767 8,319 5,443 3,825 2,890
Operating expenses:
Administrative salaries, wages and
employment taxes 7,756 4,201 2,741 2,013 1,428
Other selling, general and administrative
expenses 5,760 2,623 1,560 1,039 857
Depreciation and amortization 1,483 433 125 159 116
-------- -------- ------- ------- -------
Total operating expenses 14,999 7,257 4,426 3,211 2,401
-------- -------- ------- ------- -------
Operating income 1,768 1,062 1,017 614 489
Other income (expenses), net 135 540 65 (77) (37)
Income before taxes 1,903 1,602 1,082 537 452
Income tax expense (benefit) 1,221 672 458 247 182
-------- -------- ------- ------- -------
Net income $ 682 $ 930 $ 624 $ 290 $ 270
======== ======== ======= ======= =======
Earnings per common share $0.14 $0.26 $0.29 $0.14 $0.14
Basic $0.14 $0.25 $0.29 $0.14 $0.14
Diluted shares
Weighted average shares outstanding 4,733 3,641 2,160 2,130 1,920
Basic 4,893 3,700 2,160 2,130 1,920
Diluted
Statistical Data: $23,800 $23,396 $23,946 $21,566 $18,419
Average gross payroll per employee 14,000 10,500 3,646 3,141 2,748
Worksite employees at period end 1,450 1,050 241 184 168
Clients at period end
Average number of worksite employees per
client at period end 9.7 10 15.1 17.1 16.4
Gross profit margin 4.9% 5.4% 5.7% 5.1% 5.2%
DECEMBER 31,
-----------------------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
Balance Sheet Data:
Working capital (deficit) $ 2,055 $ 3,629 $13,484 $ (73) $ (263)
Total Assets 47,540 41,010 19,899 4,986 3,847
Long-term obligations and
redeemable preferred stock 513 512 386 364 329
Total shareholders' equity (deficit) 30,177 28,339 14,147 212 (105)
-18-
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The table below sets forth results of operations for the years ended
December 31, 1998, 1997 and 1996 expressed as a percentage of revenues:
As Percent of Revenues Year Ended December 31,
----------------------------------------------
1998 1997 1996
---- ---- ----
REVENUES 100.0% 100.0% 100.0%
DIRECT COSTS:
Salaries and wages 85.8 86.3 85.1
Payroll taxes, worker's compensation premiums,
employee benefits and other costs 9.3 8.3 9.2
----- ----- -----
Gross profit 4.9 5.4 5.7
OPERATING EXPENSES:
Administrative salaries, wages and employment taxes 2.3 2.7 2.9
Other selling, general and administrative 1.7 1.6 1.6
Depreciation and amortization 0.4 0.3 0.1
----- ----- -----
Total operating expenses 4.4 4.6 4.6
OPERATING INCOME 0.5 0.8 1.1
Other income (expense), net -- 0.3 0.1
Income before taxes 0.6 1.1 1.2
Provision for income taxes 0.4 0.4 0.5
----- ----- -----
NET INCOME 0.2 0.7 0.7
===== ===== =====
OVERVIEW
Reference should be made to the notes to Consolidated Financial
Statements for further information concerning revenue recognition and other
related information.
The Company's primary direct costs are salaries and wages of worksite
employees, federal and state employment taxes, workers' compensation premiums,
premiums for employee benefits and other associated costs. The Company may
significantly affect its gross profit margin by effectively managing its
employment risks, including workers' compensation and state unemployment costs,
as described below. The Company's risk management of the worksite includes
policies and procedures designed to proactively prevent and control the costs of
claims, lawsuits, fines, penalties, judgments, settlements and legal and
professional fees. In addition, the Company controls benefit plan costs by
attempting to prevent fraud and abuse. Other risk management programs of the
Company include effectively processing workers' compensation and unemployment
claims and aggressively contesting suspicious or improper claims. The Company
also reduces its employment related risks by procuring employment practices
liability coverage from an insurance carrier unrelated to the Company. The
policy has $10,000,000 per occurrence and aggregate limits and a $250,000
deductible. The Company believes that such risk management efforts increase the
profitability of the Company by reducing the Company's liability exposure and by
increasing the value of the Company's services to its clients.
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20
Workers' compensation costs include administrative costs and insurance
premiums related to the Company workers' compensation coverage. With respect to
worksite employees located in Ohio, the Company pays premiums into the Ohio
Bureau of Workers' Compensation state fund. With respect to its worksite
employees located outside of Ohio, the Company maintains workers' compensation
insurance policies generally with private insurance companies in accordance with
the applicable laws of each state in which the Company has worksite employees.
The cost of contesting workers' compensation claims is borne by the Company and
is not passed through directly to the Company's clients.
Worksite employees of the Company currently reside in approximately 35
states, resulting in the payment by the Company of unemployment taxes in each of
such states. Such taxes are based on rates which vary from state to state.
Employers are generally subject to established minimum rates, however, the
aggregate rates payable by an employer are affected by the employer's claims
history. The Company controls unemployment claims by aggressively contesting
unfounded claims and placing laid off worksite employees with other clients
whenever possible.
The Company's primary operating expenses are administrative personnel
expenses, other general and administrative expenses, and sales and marketing
expenses. Administrative personnel expenses include compensation, fringe
benefits and other personnel expenses include compensation, fringe benefits and
other personnel expenses related to internal administrative employees. Other
general and administrative expenses include rent, insurance, general office
expenses, legal and accounting fees and other operating expenses.
Between September 1, 1997 and April 1, 1998, the Company acquired seven
competitor PEO companies located outside of Ohio. A PEO located within Ohio was
acquired in March 1997 and a PEO located in San Diego, California was acquired
in December 1998. All of these acquisitions were accounted for as purchases for
accounting purposes. Accordingly, the revenues and expenses of these acquired
businesses are included in the income statements of the Company only from the
date of acquisition forward and impact comparisons of results from 1998 to 1997.
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997
REVENUES
Revenues increased 118% to $339,958,000 for the year ended December 31,
1998 from $155,864,000 for the year ended December 31, 1997. Revenues from the
businesses acquired in 1998 and 1997 were nearly 60% of total revenues in 1998.
If the nine businesses acquired in 1997 and 1998 had been acquired as of January
1, 1997 total revenues in 1998 would have been $357,882,000 which would have
been an increase of 33% over pro forma 1997 revenues of $269,387,000.
DIRECT COSTS
Total direct costs increased 119% to $323,191,000 in 1998 from
$147,545,000 in 1997. Direct costs increased to 95.1% of total revenues in 1998
from 94.6% of total revenues in 1997. The decline in margin is the result of
lower fees and margins in the acquired businesses. The Company's core business,
located primarily in Ohio, has historically had margins in excess of 5%. Margins
in the acquired businesses outside of Ohio were 4% in 1998. The Company views
the lower fees and margins in the acquired businesses as opportunity for future
profitability improvement.
EXPENSES
Administrative salaries, wages and employment taxes rose 85% to
$7,756,000 in 1998 from $4,201,000 in 1997. These costs declined to 2.3% of
total revenues in 1998 from 2.7% of total revenues in 1997. The increase in this
expense category reflects the staffing at the increased number of locations from
the acquisitions. However, the acquired entities had lower expenses as a
percentage of revenues leading to the decline as a percentage of revenues.
Other selling, general and administrative expense increased 120% to
$5,760,000 in 1998 from $2,623,000 in 1997. In addition to the increased costs
from the acquired companies, expenses also rose for liability and employment
practices insurance, printing for new marketing and employee benefits literature
for the acquired companies, travel, professional fees and facilities costs.
These costs are not expected to continue to increase at a greater pace than
revenues. Additional savings are also expected once the Company's new
centralized payroll, HR and accounting software package is deployed and
operating at all locations in 1999.
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21
Depreciation and amortization expense rose to $1,483,000 in 1998 from
$433,000 in 1997. Depreciation expense increased as a result of the acquisition
of computer equipment and software during the past year. Amortization expense is
the amortization of goodwill and other intangibles arising from the
acquisitions.
INCOME FROM OPERATIONS
Operating income rose 67% to $1,768,000 in 1998 from $1,061,000 in
1997. However, EBITA which excludes the goodwill amortization expense of
$1,171,000 in the 1998 period compared to only $247,000 in the 1997 period,
increased 125% to $2,939,000 in 1998 from $1,308,000 in 1997.
OTHER INCOME
Other income declined to $135,000 in 1998 from $547,000 in 1997. Other
income is income from the investment of the $13,314,000 of IPO proceeds. Through
September 30, 1997, the entire amount was invested. By December 31, 1997, the
balance remaining had declined to approximately $5,000,000 and had further
declined to approximately $1,481,000 at December 31, 1998 as a result of using
the proceeds to acquire competitors.
INCOME TAX EXPENSE
Income tax expense was $1,221,000 or 64% of income before taxes in 1998
compared to $672,000 or 42% of income before taxes in 1997. Income tax expense
rose as a percent of pre-tax income in 1998 because the goodwill amortization is
not a deductible expense for tax purposes. The tax provision in 1997 also
benefited from the investment income, almost half of which was from tax-free
municipal bonds.
NET INCOME AND EARNINGS PER SHARE
As a result of higher operating expenses, higher amortization expense
and lower investment income, net income declined to $682,000 in 1998 from
$930,000 in 1997.
Basic and diluted earnings per share were $.14 in 1998. Basic earnings
per share were $.26 and diluted earnings per share were $.25 in 1997. Average
shares outstanding for diluted earnings per share increased to 4,893,000 in 1998
compared to 3,700,000 in 1997 due to the shares issued for acquisitions.
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996
REVENUES
Revenues were $155,900,000 for the year ended December 31, 1997
compared to $95,500,000 for the year ended December 31, 1996, an increase of
over 63%. Revenues from the four companies acquired in 1997 were approximately
$39,000,000, representing nearly 2/3 of the growth in revenues. The remainder of
the growth in revenues was internally generated growth which equates to
approximately a 22% growth rate. The internal growth in revenues trailed the
internal growth rate in the number of employees, which was nearly 30%, due to
the timing of new client sign-ups, more of which occurred in the second half of
1997.
DIRECT COSTS
Salaries and wages of worksite employees were $134,500,000 for the year
ended December 31, 1997, a 65% increase over 1996's salaries and wage expense of
$81,300,000. Payroll taxes, workers' compensation, etc. rose to $13,000,000 for
the year ended December 31, 1997 from $8,800,000 in the prior year, a 48%
increase. Salaries and wages expense rose to 86.3% of total revenues in 1997
from 85.1% in 1996 while payroll taxes, workers' compensation and other direct
costs declined to 8.3% of total revenues in 1997 due to the impact of the
acquired businesses which have a lower margin and fee structure. The other
direct costs declined as a percent of income due to lower workers' compensation
costs in Ohio.
Gross profit declined from 5.7% in 1996 to 5.4% in 1997 due to the
lower margins in the acquired businesses.
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22
EXPENSES
Administrative salaries, wages and employment taxes increased to
$4,200,000 in 1997 from $2,700,000 in 1996, a 55% increase. These expenses
declined as a percent of revenues from 2.9% in 1996 to 2.7% in 1997 due to lower
personnel costs in the acquired entities.
Other selling, general and administrative expenses increased 63% to
$2,600,000 in 1997 from $1,600,000 in 1996 and increased to 1.7% of revenues in
1997 from 1.6% in 1996. These increases reflect the increase in legal and
professional expenses as a public company and increased expenses to support the
acquisition activity.
Depreciation and amortization increased to $433,000 in 1997 from
$125,000 in 1996. Amortization of intangibles related to acquisitions completed
in 1997 accounted for nearly $250,000 of the increase in this expense.
OTHER INCOME
Interest income increased to $547,000 in 1997 from $88,000 in 1996. The
investment of the $13,314,000 of proceeds from the December 1996 initial public
offering provided most of this increase.
INCOME TAX EXPENSE
Income tax expense increased from $458,000 in 1996 to $672,000 in 1997
and declined slightly from 42.3% of pre-tax income to 42% due to the impact of
tax-exempt interest income in 1997 offset by nondeductible goodwill amortization
from acquisitions.
NET INCOME AND EARNINGS PER SHARE
Net income increased 49% to $930,000 in 1997 from $624,000 in 1996 as a
result of the growth in the business and the interest income from the investment
of the IPO proceeds offset by lower margins from acquired businesses. Earnings
per share declined from $.29 per share for basic and diluted earnings per share
in 1996 to $.26 for basic earnings per share and $.25 for diluted earnings per
share in 1997 due to the increase in shares outstanding resulting from the
December 1996 IPO and the issuance of 1,163,000 shares for acquisitions in 1997.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 1998, the Company had a working capital surplus of
$2,055,000. At December 31, 1997, the working capital surplus was $3,629,000.
The decrease in working capital correlates with the use of temporary cash
investments to acquire five PEO's in 1998.
The Company's primary source of liquidity and capital resources has
historically been its internal cash flow from operations. In addition, in
December 1996, net cash of $13,314,000 was provided from an initial public
offering of Company stock.
Net cash provided by (used in) operating activities was $2,627,000 and
($562,000) for the years ended December 31, 1998 and 1997, respectively.
The Company recognizes as revenue and as unbilled receivables, on an
accrual basis, any such amounts which relate to services performed by worksite
employees as of the end of each accounting period which have not yet been billed
to the client because of timing differences between the day the Company's
accounting period ends and the billing dates for client payroll periods that
include the day the Company's accounting period ends. The amount of unbilled
receivables, as well as accrued liabilities and client deposits, have increased
with the growth of the Company.
For work performed prior to the termination of a client agreement, the
Company may be obligated, as an employer, to pay the gross salaries and wages of
the client's worksite employees and the related employment taxes and workers,
compensation costs, whether or not the Company's client pays the Company on a
timely basis or at all. The Company, however, historically has not incurred
significant bad debt expenses because the Company generally collects from its
clients all revenues with respect to each payroll period in advance of the
Company's payment of the direct costs associated therewith. The Company attempts
to minimize its credit risk by investigating and monitoring the credit
-22-
23
history and financial strength of its clients and by generally requiring
payments be made by wire transfer, immediately available funds or ACH transfer.
With respect to ACH transfers, the Company is obligated to pay the client's
worksite employees if there are insufficient funds in the client's bank account
on the payroll date. The Company's policy, however, is only to permit clients
with a proven credit history with the Company to pay by ACH transfer. In
addition, in the rare event of nonpayment by a client, the Company has the
ability to terminate immediately its contract with the client. The Company also
protects itself by obtaining, when it deems necessary, unconditional personal
guarantees from the owners of a client and/or a cash security deposit, bank
letter of credit or pledge of certificates of deposits. As of December 31, 1998
and 1997, the Company held cash security deposits in the amounts of $637,000 and
$544,000 respectively.
Additional sources of funds to the Company are advance payments of
employment taxes and insurance premiums which the Company holds until they are
due and payable to the respective taxing authorities and insurance providers.
Net cash used in investing activities was $2,793,000 and $1,496,000 for
the year ended December 31, 1998 and 1997, respectively. The principal use of
cash from investing activities was the purchase of computer equipment and
software to support the growth of the business. Also, during 1998, $2,048,000
was paid toward the purchase of five PEO companies. In addition to the cash paid
for acquisitions, 141,007 shares of the Company's Common Stock were also issued
and, without either an effective registration statement or an exemption from
registration, these shares are unregistered restricted shares and cannot be sold
for a one year period from the date of issuance.
Four acquisitions were completed in 1997 for total cash paid of
$8,244,000. 115,932 treasury shares and 1,162,885 newly issued unregistered
shares were also used in these acquisitions.
In September 1998, the Company's Board of Directors approved a share
repurchase of up to 200,000 shares of the Company's Common Stock. In 1998,
60,000 shares were repurchased at a cost of $372,000.
Financing activities are not material as the Company has no debt or
significant capital leases.
Presently, the Company has no material commitments for capital
expenditures. Primary new uses of cash may include acquisitions, the size and
timing of which cannot be predicted. However, the Company is limited in its
ability to continue to acquire other PEO companies unless it can raise
additional capital since most acquisitions involve the payment of cash and the
issuance of stock for the purchase price and may also require some additional
working capital following acquisition.
In July 1998, the Company obtained a $10,000,000 revolving credit
agreement with a bank. The credit agreement provides for borrowings at the prime
rate or LIBOR plus 2.25%. The credit agreement requires the Company to maintain
certain financial standards as to net worth and EBITDA and also requires the
bank's consent to acquisitions. There were no borrowings under any revolving
credit agreement in 1998.
The Company has guaranteed the price of 68,468 shares at $10.25 for the
one year period from October 6, 1998 to October 6, 1999. In 1998, the Company
advanced $280,727 to the holder of 27,388 shares. The advance is secured by the
shares which are held by the Company. The Company is obligated to pay the holder
of the remaining 41,080 shares the difference between $10.25 and the price
realized upon sale of the shares. As of March 1, 1999, 10,406 shares have been
sold and the Company has reimbursed $61,515 to the holder.
Effective January 1, 1999, the Company's founder and chairman resigned
his position with the Company. In lieu of any other separation payments that may
have been required, the Company agreed to acquire 500,000 shares at $5 per share
from the former chairman. The shares were acquired on February 11, 1999 for a
cash payment of $800,000 and two notes bearing interest at 5.75%. One note, in
the amount of $700,000, is due upon demand. The other note, in the amount of
$1,000,000, is due on February 19, 2000.
On February 18, 1999, the Company borrowed $800,000 on its line of
credit.
The Company believes that the net proceeds from the sale of its Common
Stock in December 1996 which were invested in marketable securities and
certificates of deposit, together with existing cash, cash equivalents and
internally generated funds will be sufficient to meet the Company's presently
anticipated working capital and capital expenditure
-23-
24
requirements, excluding acquisitions of other PEO's for the foreseeable future.
To the extent that the company needs additional capital resources, the Company
believes that it will have access to existing bank financing and other
alternative sources of capital. However, there can be no assurances that
additional financing will be available on terms favorable to the Company, or at
all.
The Company did not pay dividends in 1996, 1997, or 1998, and does not
expect to pay a dividend in the foreseeable future.
YEAR 2000
STATE OF READINESS
The Company's primary business is the delivery of payroll and HR
services to a widely diverse and geographically dispersed small business
clientele. The Company's data processing systems are integral and critical to
the efficient and effective delivery of its services. More specifically, the
Company relies on these systems for preparing and processing client payrolls,
payroll tax filings, benefits plan activities, insurance costs and client
invoicing.
Beginning in 1996, the Company began developing a new system that would
better meet the needs of a rapidly growing company and that would also improve
client service and operational efficiency. This new system is TEAMDirect(TM).
Although this systems project was not embarked upon to address the Year 2000
issue, the result of this project is that TEAMDirect(TM) has been designed to be
Year 2000 compliant. The Company believes TEAMDirect(TM) is Year 2000 compliant
in all respects. It is written on an Oracle 8 database engine. The Company has
not specifically tested the system for Year 2000 compliance, but intends to do
so in the first half of 1999.
Since September 1997, the Company has acquired eight PEO's outside of
Ohio. These companies have operated on their own systems since being acquired.
Their systems have not been evaluated for Year 2000 compliance because they will
be converted to TEAMDirect(TM) before the year 2000.
As of March 1, 1999, all of the Company's original core business and
the acquired businesses in Idaho, Utah, Montana and Michigan have been converted
to the new system. All locations are expected to be on TEAMDirect(TM) by
mid-1999.
The Company believes it does not have any non-IT Systems that would
result in a material adverse impact to the Company if they are not Year 2000
compliant.
The Company relies upon large regional banks to process its electronic
and non-electronic banking and disbursement activities. It also contracts with
large well-known national and regional insurance carriers to provide and/or
administer its employee benefits plans and insurance programs. The Company has
not specifically approached these institutions about their ability to handle the
Company's business transactions in the Year 2000. If necessary, the Company
believes it will have adequate time to switch to Year 2000 compliant providers,
if there are any, prior to the end of 1999.
The Company's customer base is primarily small businesses located
throughout the mid-west, south and western regions of the United States. No one
client is material to the Company's operations. The Company has not evaluated
the extent of Year 2000 readiness by its customers.
The Company is exploring alternative energy sources, such as diesel
generators, at its main corporate facility where its TEAMDirect(TM) system is
based, in case of utility service disruption. The Company also has the ability
to process from remote backup locations over the Internet, if the Internet is
operational in the Year 2000. The Company has not yet obtained cost estimates
for the alternative energy sources. The Company believes that the disruption of
utility services at any of its locations outside of its main corporate office
would not have a material effect on its operations as long as Internet or phone
access is possible. The Company, however, has not addressed or evaluated the
effects that disruption of phone service or Internet service nationally or
regionally would have on its operations.
-24-
25
COSTS
The Company has not separately identified costs associated with Year
2000 compliance because it has not undertaken Year 2000 compliance as a specific
project and has not employed outside consultants, etc. to address Year 2000
compliance. The Company believes that its development of TEAMDirect(TM) will
result in its primary operating systems being Year 2000 compliant.
RISKS OF FAILURE
The Company believes that if its primary operating system is not Year
2000 compliant, or if its banking and insurance vendors are not Year 2000
compliant, there would be significant material adverse consequences. The Company
could have difficulty meeting its obligations to its clients to provide timely
payrolls and administer employee benefits and insurance programs. This could
result in lost business and/or significant increases in operating costs which
may not be recoverable through price increases to our clients. The potential
loss of business or increases in costs could have a material adverse effect on
the financial condition and results of operations of the Company.
CONTINGENCY PLAN
As of March, 1999, the Company has not yet developed a contingency plan
to address needed actions in the event of failure of its systems or significant
vendor systems to be Year 2000 compliant.
INFLATION
The Company believes the effects of inflation have not had a
significant impact on its results of operations or financial condition.
QUARTERLY RESULTS
The following table sets forth certain unaudited operating results of
each of the nine consecutive quarters in the period ended December 31, 1998
which comprise all of the quarterly periods following the Company's initial
public offering of its Common Stock on December 10, 1996. The information is
unaudited, but in the opinion of management, includes all adjustments
(consisting only of normal recurring adjustments) necessary for a fair
presentation of the results of operations of such periods. This information
should be read in conjunction with the Company's Consolidated Financial
statements and the Notes thereto.
QUARTER ENDED
----------------------------------------------------------
DEC. 31 MAR. 31 JUNE 30 SEPT. 30 DEC. 31
1996 1997 1997 1997 1997
---- ---- ---- ---- ----
(in thousands except per share amounts)
Revenues $25,762 $25,542 $31,812 $36,697 $61,812
Direct costs: 24,218 24,143 30,000 35,000 58,402
Net Income: 167 232 332 173 193
Earnings Per Share:
Basic $ .07 $ .07 $ .10 $ .05 $ .04
Diluted $ .07 $ .07 $ .10 $ .05 $ .04
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MAR. 31 JUNE 30 SEPT. 30 DEC. 31
1998 1998 1998 1998
---- ---- ---- ----
(in thousands except per share amounts)
Revenues $70,034 $84,107 $89,499 $96,318
Direct costs: 66,624 79,777 85,184 91,606
Net Income: 1 246 233 202
Earnings Per Share:
Basic $ .00 $ .05 $ .05 $ .04
Diluted $ .00 $ .05 $ .05 $ .04
FORWARD-LOOKING INFORMATION
Statements in the preceding discussion that indicate the company's or
management's intentions, hopes, beliefs, expectations or predictions of the
future are forward-looking statements. It is important to note that the
Company's actual results could differ materially from those projected in such
forward-looking statements. Additional information concerning factors that could
cause actual results to differ materially from those suggested in the
forward-looking statements is contained under the caption "Business-Risk
Factors" in the Company's Annual Report on Form 10-K for the year ended December
31, 1998 filed with the Securities and Exchange Commission, as the same may be
amended from time to time.
Forward-looking statements are not guarantees of performance. They
involve risks, uncertainties and assumptions. The future results and shareholder
values of the Company may differ materially from those expressed in these
forward-looking statements. Many of the factors that will determine these
results and values are beyond the Company's ability to control or predict.
Shareholders are cautioned not to put undue reliance on forward-looking
statements. In addition, the Company does not have any intention or obligation
to update forward-looking statements after the date hereof, even if new
information, future events, or other circumstances have made them incorrect or
misleading. For those statements, the Company claims the protection of the safe
harbor for forward-looking statements contained in the Private Securities
Litigation Reform Act of 1995.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not Applicable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The Consolidated Financial Statements of the Company, together with the
report thereon of Arthur Andersen LLP, are set forth on pages F-1 through F-20
hereof.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
-26-
27
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
In accordance with General Instruction G(3) to Form 10-K, the
information called for in this Item 10 is incorporated herein by reference to
the Company's Definitive Proxy Statement, to be filed with the Securities and
Exchange Commission (the "SEC") pursuant to Regulation 14A of the General Rules
and Regulations under the Securities Exchange Act of 1934 (the "Exchange Act"),
relating to the Company's Annual Meeting of Shareholders (the "Annual Meeting")
under the captions "NOMINATION AND ELECTION OF DIRECTORS," "EXECUTIVE OFFICERS,"
and "SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE."
ITEM 11. EXECUTIVE COMPENSATION.
In accordance with General Instruction G(3) to Form 10-K, the
information called for in this Item 11 is incorporated herein by reference to
the Company's Definitive Proxy Statement, to be filed with the SEC pursuant to
Regulation 14A of the General Rules and Regulations under the Exchange Act,
relating to the Company's Annual Meeting under the caption "EXECUTIVE
COMPENSATION." The information set forth under the captions "REPORT OF
COMPENSATION COMMITTEE" and "PERFORMANCE GRAPH" is expressly not incorporated
herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
In accordance with General Instruction G(3) to Form 10-K, the
information called for in this Item 12 is incorporated herein by reference to
the Company's Definitive Proxy Statement, to be filed with the SEC pursuant to
Regulation 14A of the General Rules and Regulations under the Exchange Act,
relating to the Company's Annual Meeting under the caption "SECURITY OWNERSHIP
OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT."
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
In accordance with General Instruction G(3) to Form 10-K, the
information called for in this Item 13 is incorporated herein by reference to
the Company's Definitive Proxy Statement, to be filed with the SEC pursuant to
Regulation 14A of the General Rules and Regulations under the Exchange Act,
relating to the Company's Annual Meeting under the captions "COMPENSATION
COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION" and "CERTAIN RELATIONSHIPS AND
RELATED PARTY TRANSACTIONS."
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) The following documents are filed as part of this report:
(1) The following financial statements of the Company, are included in
Item 8 of this report:
Report of Independent Public Accountants
Consolidated Balance Sheets as of December 31, 1998 and 1997
Consolidated Statements of Income for the years ended December 31,
1998, 1997, and 1996
Consolidated Statements of Shareholders' Equity for the years ended
December 31, 1998, 1997 and 1996
Consolidated Statements of Cash Flows for the years ended December 31,
1998, 1997 and 1996
-27-
28
Notes to Consolidated Financial Statements
(2) The following financial statement schedule for the Company is filed as
part of this report:
Report of Independent Public Accountants on Financial Statement
Schedule.
Schedule II - Valuation and Qualifying Accounts
All other schedules are omitted because the required information is
either presented in the financial statements or notes thereto, or is
not applicable, required or material.
(3) Exhibits:
EXHIBIT NO. DESCRIPTION
- ----------- -----------
3.1 Amended Articles of Incorporation of the Company(1)
3.2 Amended Code of Regulations of the Company(1)
*10.1 Company's 1996 Incentive Stock Plan(1)
*10.2 Executive employment agreement between the Company
and Mr. Kevin T. Costello(1)
10.3 Lease for Cascade Corporate Center dated June 22,
1990 between EastGroup Properties and the Company, as
amended(1)
10.4 Voting Agreement, dated January 1, 1999, among
Richard C. Schilg, Kevin T. Costello, Steven Cash
Nickerson, Byron McCurdy and Terry McCurdy
21.1 Subsidiaries of the Registrant
23.1 Consent of Arthur Andersen LLP
24.1 Power of Attorney
27.1 Financial Data Schedules
- ------------
(1) Included as an exhibit to the registrant's Registration Statement on
Form S-1, as amended (File No. 333-13913), and incorporated herein by
reference.
* Management contract or compensation plan or arrangement.
(B) REPORTS ON FORM 8-K
On September 10, 1998, the Company filed a Form 8-K to report the
announcement of a stock repurchase plan by the Company (Items 5 and 7).
-28-
29
On December 23, 1998, the Company filed a Form 8-K to report Richard C.
Schilg's resignation as Chairman and Chief Executive Officer of the Company
(Items 5 and 7).
(C) EXHIBITS
The exhibits to this report follow the Consolidated Financial
Statements.
(D) FINANCIAL STATEMENT SCHEDULES
The response to this portion of Item 14 is submitted as a separate
section of this report. See Item 14(a)(2) above.
-29-
30
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
TEAM AMERICA CORPORATION
Date: March 26, 1999 By: /s/ Kevin T. Costello
---------------------------------
Kevin T. Costello, President,
Chief Executive Officer and
Director
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
- --------- ----- ----
/s/ Kevin T. Costello President and Chief Executive Officer March 26, 1999
- ----------------------------- Executive Officer and Director
Kevin T. Costello (Principal Executive Officer)
* Michael R. Goodrich Chief Financial Officer and Vice President March 26, 1999
- ----------------------------- (Principal Financial and Accounting Officer)
Michael R. Goodrich
*William W. Johnston Chairman of the Board March 26, 1999
- ----------------------------
William W. Johnston
* Byron G. McCurdy Executive Vice President and Director March 26, 1999
- ----------------------------
Byron G. McCurdy
*S. Cash Nickerson Executive Vice President and Director March 26, 1999
- ----------------------------
S. Cash Nickerson
*Charles F. Dugan II Director March 26, 1999
- ----------------------------
Charles F. Dugan II
*Crystal Faulkner Director March 26, 1999
- ----------------------------
Crystal Faulkner
*M. R. Swartz Director March 26, 1999
- ----------------------------
M. R. Swartz
*By: /s/ Kevin T. Costello
----------------------------------------
Kevin T. Costello, attorney-in-fact
for each of the persons indicated
-30-
31
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
TO THE BOARD OF DIRECTORS OF
TEAM AMERICA CORPORATION AND SUBSIDIARIES:
We have audited in accordance with generally accepted auditing standards the
consolidated financial statements of TEAM America Corporation and subsidiaries
included in this Form 10-K, and have issued our report thereon dated February
24, 1999. Our audits were made for the purposes of forming an opinion on those
statements taken as a whole. The schedule listed in the index is the
responsibility of the Company's management and is presented for purposes of
complying with the Securities and Exchange Commission's rules and is not part of
the basic financial statements. This schedule has been subjected to the auditing
procedures applied in the audits of the basic financial statements and, in our
opinion, fairly states in all material respects the financial data required to
be set forth therein in relation to the basic financial statements taken as a
whole.
/s/ ARTHUR ANDERSEN LLP
Columbus, Ohio,
February 24, 1999
32
SCHEDULE II
TEAM AMERICA CORPORATION AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
BALANCE BALANCE
BEGINNING CHARGED TO AT END
OF PERIOD EXPENSE WRITE-OFFS OTHER OF PERIOD
--------- ---------- ---------- ---------- ---------
Description
December 31, 1996
Allowance for doubtful accounts $ 3,266 $ - $3,266 $ - $ -
December 31, 1997
Allowance for doubtful accounts $ - $ - $ - $50,000(1) $50,000
December 31, 1998
Allowance for doubtful accounts $50,000 $ - $ - $ - $50,000
(1) Established in connection with the valuation of an acquired business.
33
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
TO THE BOARD OF DIRECTORS OF TEAM AMERICA CORPORATION AND SUBSIDIARIES:
We have audited the accompanying consolidated balance sheets of TEAM AMERICA
CORPORATION (an Ohio corporation) and subsidiaries as of December 31, 1998 and
1997, and the related consolidated statements of income, changes in
shareholders' equity and cash flows for each of the three years in the period
ended December 31, 1998. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of TEAM America
Corporation and subsidiaries as of December 31, 1998 and 1997, and the results
of their operations and their cash flows for each of the three years in the
period ended December 31, 1998, in conformity with generally accepted accounting
principles.
Columbus, Ohio,
February 24, 1999. /s/ ARTHUR ANDERSEN LLP
F-1
34
CONSOLIDATED BALANCE SHEETS
ASSETS AS OF DECEMBER 31,
1998 1997
---- ----
CURRENT ASSETS:
Cash and cash equivalents ........................ $ 5,010,630 $ 5,949,508
Short-term investments ........................... 250,000 515,000
Receivables:
Trade, net of allowance for doubtful accounts
of $50,000 each year .................... 4,231,838 1,509,583
Related parties .............................. 238,331 38,574
Employee advances ............................ 214,538 126,945
Unbilled revenues ............................ 8,586,671 7,070,588
Refundable income taxes ...................... -- 253,396
----------- -----------
Total receivables ....................... 13,271,378 8,999,086
Prepaid expenses ................................. 193,060 216,685
Deferred income tax asset ........................ 180,000 107,000
----------- -----------
Total current assets .................... 18,905,068 15,787,279
PROPERTY AND EQUIPMENT, net of accumulated depreciation
and amortization ................................. 1,808,495 991,477
OTHER ASSETS:
Intangible assets, primarily goodwill, net
of accumulated amortization .................. 26,059,333 23,216,338
Cash surrender value of life insurance
policies ..................................... 438,170 398,005
Mandated benefit/security deposits ............... 259,073 329,251
Deferred income tax asset ........................ 23,000 159,000
Other assets ..................................... 46,964 128,585
----------- -----------
Total other assets ...................... 26,826,540 24,231,179
----------- -----------
Total assets ............................ $47,540,103 $41,009,935
=========== ===========
The accompanying notes to consolidated financial statements are an integral part
of these balance sheets.
F-2
35
CONSOLIDATED BALANCE SHEETS (CONT'D)
LIABILITIES AND SHAREHOLDERS' EQUITY AS OF DECEMBER 31,
1998 1997
---- ----
CURRENT LIABILITIES
Trade accounts payable ................................................ $ 906,758 $ 315,711
Payable to related parties ............................................ -- 20,983
Accrued compensation .................................................. 7,527,598 6,575,641
Accrued payroll taxes and insurance ................................... 4,139,945 2,484,735
Accrued workers' compensation premiums ................................ 2,585,486 1,255,013
Federal and state income taxes payable ................................ 631,000 160,000
Other accrued expenses ................................................ 386,482 791,690
Client deposits ....................................................... 637,135 544,330
Capital lease obligation, current portion ............................. 35,996 10,128
------------ ------------
Total current liabilities .................................... 16,850,400 12,158,231
CAPITAL LEASE OBLIGATION, net of current portion ........................... 9,907 18,941
DEFERRED RENT .............................................................. 62,997 98,832
DEFERRED COMPENSATION LIABILITY ............................................ 439,715 394,687
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS' EQUITY:
Preferred Stock, no par value:
Class A, 500,000 shares authorized,
none issued or outstanding ................................... -- --
Class B, 500,000 shares authorized,
none issued or outstanding ................................... -- --
Common Stock, no par value:
Common Stock; 10,000,000 shares authorized; 4,878,348 and 4,730,716
issued, respectively; 4,756,235 and 4,613,905 outstanding,
respectively ................................................. 28,404,509 26,886,226
Excess purchase price ................................................. (83,935) (83,935)
Retained earnings ..................................................... 2,241,008 1,558,966
------------ ------------
30,561,582 28,361,257
Less-Treasury stock, 122,113 and 116,811 common stock shares,
respectively, at cost ................................................. (384,498) (22,013)
Total shareholders' equity ................................... 30,177,084 28,339,244
------------ ------------
Total liabilities and shareholders' equity ................... $ 47,540,103 $ 41,009,935
============ ============
The accompanying notes to consolidated financial statements are an integral part
of these balance sheets.
F-3
36
CONSOLIDATED STATEMENTS OF INCOME
FOR THE YEARS ENDED DECEMBER 31,
1998 1997 1996
---- ---- ----
REVENUES ....................................................... $ 339,958,006 $155,863,969 $ 95,467,814
DIRECT COSTS:
Salaries and wages ........................................ 291,614,514 134,532,369 81,261,584
Payroll taxes, workers' compensation
premiums, employee benefits and
other ................................................. 31,576,364 13,012,446 8,763,075
------------- ------------ -------------
Total direct costs ............................... 323,190,878 147,544,815 90,024,659
------------- ------------ -------------
Gross profit ..................................... 16,767,128 8,319,154 5,443,155
EXPENSES:
Administrative salaries, wages and employment
taxes ................................................. 7,756,117 4,201,210 2,741,253
Other selling, general and administrative expenses ........ 5,759,848 2,623,046 1,560,111
Depreciation and amortization ............................. 1,482,777 433,278 124,538
------------- ------------ -------------
Total operating expenses ......................... 14,998,742 7,257,534 4,425,902
Income from operations ........................... 1,768,386 1,061,620 1,017,253
OTHER INCOME (EXPENSE), net:
Interest income (expense), net ............................ 134,656 546,751 87,855
Other, net ................................................ -- (6,656) (23,085)
------------- ------------ -------------
Other income (expense), net ...................... 134,656 540,095 64,770
Income before income taxes ....................... 1,903,042 1,601,715 1,082,023
INCOME TAX EXPENSE ............................................. 1,221,000 672,000 458,000
NET INCOME ..................................................... $ 682,042 $ 929,715 $ 624,023
============= ============ ==============
EARNINGS PER SHARE:
BASIC ..................................................... $ .14 $ 0.26 $ 0.29
DILUTED ................................................... $ .14 $ 0.25 $ 0.29
WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic ..................................................... 4,733,011 3,640,699 2,159,502
Diluted ................................................... 4,892,648 3,699,540 2,159,502
The accompanying notes to consolidated financial statements are an integral part
of these statements.
F-4
37
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
TREASURY STOCK
------------------------------------ EXCESS RETAINED
COMMON STOCK CLASS A CLASS A COMMON PURCHASE EARNING
NUMBER VALUE COMMON PREFERRED STOCK PRICE (DEFICIT)
------ ----- ------- --------- ------ -------- ---------
BALANCE, DECEMBER 31, 1995 -- $ -- $(23,340) $(1,175) $ -- $(83,935) $ 5,228
8,280 shares of Class A
Common Stock
repurchased, at cost -- -- (2,600) -- -- -- --
Split by 184 to 1 and conversion
of Class A Common Stock,
Class B Common Stock and
Class A Preferred Stock
issued and outstanding or
held as treasury to
Common Stock and
issuance of Common Stock 3,478,976 13,629,005 25,940 1,175 (27,115) -- --
Net Income -- -- -- -- -- -- 624,023
BALANCE, DECEMBER 31, 1996 3,478,976 $ 13,629,005 -- -- $ (27,115) $(83,935) $ 629,251
Common Stock issued
for acquisitions 1,251,740 12,729,109 -- -- 5,102 -- --
Non-Statutory Options granted
in acquisitions for 176,037 -- 528,112 -- -- -- -- --
shares of Common Stock
Net income -- -- -- -- -- -- 929,715
BALANCE, DECEMBER 31, 1997 4,730,716 $ 26,886,226 $ -- $ -- $ (22,013) $(83,935) $1,558,966
Common Stock issued
-- acquisitions 146,007 1,799,010 -- -- 9,031 -- --
-- option exercise 1,625 -- -- -- -- -- --
Common Stock repurchased -- -- -- -- (371,516) -- --
Payments for Common Stock
price guarantee -- (280,727) -- -- -- -- --
Net Income
-- -- -- -- -- -- 682,042
----------- ------------ -------- ------- --------- -------- ----------
BALANCE, DECEMBER 31, 1998 4,878,348 $ 28,404,509 $ -- -- $(384,498) $(83,935) $2,241,008
F-5
38
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY (CONT'D)
CLASS A CLASS B CLASS A
COMMON STOCK COMMON STOCK PREFERRED STOCK
NUMBER VALUE NUMBER VALUE NUMBER TOTAL VALUE
------ ----- ------ ----- ------ ----- -----
BALANCE, DECEMBER 31, 1995 1,008,320 $ 234,194 1,181,464 $ 59,757 39,192 $ 21,300 $ 212,029
8,280 shares of Class A
Common Stock - - - - - - (2,600)
repurchased, at cost
Split by 184 to 1 and conversion
of Class A Common Stock,
Class B Common Stock and
Class A Preferred Stock
issued and outstanding or
held as treasury to
Common Stock and
issuance of Common Stock (1,008,320) (234,194) (1,181,464) (59,757) (39,192) (21,300) 13,313,754
Net Income - - - - - - 624,023
BALANCE, DECEMBER 31, 1996 - $ - - $ - - $ - $14,147,206
Common Stock issued
for acquisitions - - - - - - 12,734,211
Non-Statutory Options granted
in acquisitions for 176,037
shares of Common Stock - - - - - - 528,112
Net income - - - - - - 929,715
BALANCE, DECEMBER 31, 1997 - $ - - $ - - $ - $28,339,244
Common Stock issued
-- acquisitions - - - - - - 1,808,041
-- option exercise - - - - - - -
Common Stock repurchased - - - - - - (371,516)
Payments for Common Stock
price guarantee - - - - - - (280,727)
Net Income - - - - - - 682,042
----------- -------- ---------- -------- ------- ------- -----------
BALANCE, DECEMBER 31, 1998 - $ - - $ - - $ - $30,177,084
=========== ======== ========== ======== ======= ======= ===========
The accompanying notes to consolidated financial statements are an integral part
of these statements.
F-6
39
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31,
-------------------------------------------------
1998 1997 1996
---- ---- ----
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income ...................................... $ 682,042 $ 929,715 $ 624,023
Adjustments to reconcile net income
to cash provided by (used in)
operating activities:
Depreciation and amortization ............... 1,482,777 433,278 124,538
Deferred tax (benefit) provision ............ 63,000 (44,000) (150,000)
(Increase) decrease in operating assets:*
Receivables ............................ (4,138,229) (3,741,645) (562,651)
Prepaid expenses ....................... 26,855 54,414 (171,872)
Mandated benefit/security deposits ..... 106,336 (915) (46,071)
Increase (decrease) in operating
liabilities:*
Accounts payable ....................... 568,409 (540,342) 232,868
Accrued expenses and other payables .... 3,823,144 2,166,049 671,336
Client deposits ........................ 3,189 74,195 42,983
Deferred liabilities ................... 9,193 107,499 54,378
------------ ------------ ------------
Net cash provided by (used
in) operating activities .......... 2,626,716 (561,752) 819,532
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisitions, net of cash obtained .............. (2,025,901) (7,759,160) --
Additions to property and equipment ............. (1,112,298) (533,829) (355,848)
Increase in cash surrender value of
life insurance policies ..................... (40,165) (138,110) (71,671)
(Increase) decrease in short-term investments ... 265,000 6,984,375 (7,499,375)
(Increase) decrease in other assets* ............ 120,305 (49,356) (18,370)
------------ ------------ ------------
Net cash used in investing activities (2,793,059) (1,496,080) (7,945,264)
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments on note payable and line of credit ..... -- (580,000) (14,000)
Payments on capital lease obligation* ........... (120,292) (13,180) (9,155)
Borrowings on bank line of credit ............... -- 500,000 --
Purchase of treasury stock ...................... (371,516) -- (2,600)
Stock price guarantee payment ................... (280,727) -- --
Net proceeds from initial public
offering of Common Stock .................... -- -- 13,313,754
------------ ------------ ------------
Net cash provided by (used
in) financing activities .......... (772,535) (93,180) 13,287,999
Net increase (decrease) in
cash and cash equivalents ......... (938,878) (2,151,012) 6,162,267
CASH AND CASH EQUIVALENTS,
beginning of year ............................... 5,949,508 8,100,520 1,938,253
------------ ------------ ------------
CASH AND CASH EQUIVALENTS, end of year ............... $ 5,010,630 $ 5,949,508 $ 8,100,520
============ ============ ============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION:
Cash paid during the year for:
Interest .................................... $ 7,640 $ 3,259 $ 1,475
Income taxes ................................ $ 377,527 $ 1,181,000 $ 405,746
The accompanying notes to consolidated financial statements are an integral part
of these statements.
F-7
40
SUPPLEMENTAL DISCLOSURE OF NON-CASH FINANCING AND INVESTING ACTIVITIES:
During 1998 the Company issued 141,007 shares of Common Stock with a value on
the date of issuance of $1,437,530 in connection with acquisitions of other PEO
business. Also, during 1998, 5,000 shares of Common Stock with a value of
$50,000 were issued in connection with the satisfaction of contingencies for an
acquisition completed in 1997. Also, in 1998, 54,699 treasury shares were
released upon satisfaction of escrow requirements related to 1997 acquisitions.
In 1998 an option to acquire 5,000 shares of TEAM America Common Stock was
exercised by the delivery of 3,375 shares of Common Stock owned by the
optionholder.
During 1997, the Company issued 1,251,740 shares of Common Stock, 176,037
options to acquire Common Stock and 88,544 shares of Common Stock from treasury
shares held by the Company in connection with acquisitions of PEO businesses.
The shares and options issued for these acquisitions had a value of $13,257,000.
F-8
41
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NATURE AND SCOPE OF BUSINESS
TEAM America Corporation, an Ohio corporation (the "Company"), is the largest
professional employer organization ("PEO") headquartered in Ohio and one of the
oldest PEOs in the United States, having been founded in 1986. The Company
provides, through "partnering" agreements, comprehensive and integrated human
resource management services to small and medium-sized businesses, thereby
allowing such businesses to outsource their payroll and human resource
responsibilities thereby allowing them to concentrate on their core
competencies. The Company offers a broad range of services including human
resource administration, regulatory compliance management, employee benefits
administration, risk management services and employee liability protection,
payroll and payroll tax administration, and placement services.
The Company provides such services by establishing an employment relationship
with the worksite employees of its clients, contractually assuming substantial
employer responsibilities with respect to worksite employees, and instructing
its clients regarding employment practices. While the Company becomes the legal
employer for most purposes, and consequently assumes a level of liability for
the employment practices of its clients, each client remains in operational
control of its respective business. The Company's operations are affected by
government regulations relating to labor, tax, insurance, benefits and
employment matters. Thus, changes in or unfavorable interpretation of such
regulations although not known or foreseen by management at this time, could
cause future results to be materially different from the results reported
herein.
During 1997 and 1998 the Company completed a total of nine acquisitions, in
Ohio, Michigan, California (2), Idaho, Utah, Tennessee, Montana and Oregon.
These acquisitions expanded the geographic reach of the Company as well as
increasing the leased employee base to over 14,000 at December 31, 1998 from
3,650 at December 31, 1996.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation - The Company's consolidated financial statements are
prepared on the accrual basis of accounting.
Principles of Consolidation - The consolidated financial statements include TEAM
America Corporation and its wholly-owned subsidiaries. All significant
intercompany accounts and transactions have been eliminated.
Estimates - The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Revenue Recognition - Pursuant to the provisions of its standard client
agreement, the Company is the legal employer of the client's worksite employees
for most purposes and has the right, among others, to hire, supervise, terminate
and set the compensation of such worksite employees. The Company bills its
clients on each payroll date for (i) the actual gross salaries and wages,
related employment taxes and employee benefits of the Company's worksite
employees, (ii) actual advertising costs associated with recruitment, (iii)
workers' compensation and unemployment service fees and (iv) an administrative
fee. The Company's administrative fee is computed based upon either a fixed fee
per worksite employee or an established percentage of gross salaries and wages
(subject to a guaranteed minimum fee per worksite employee), negotiated at the
time the client agreement is executed. The Company's administrative fee varies
by client based primarily upon the nature and size of the client's business and
the Company's assessment of the costs and risks associated with the employment
of the clients' worksite employees. Accordingly, the Company's administrative
fee income will fluctuate based on the number and gross salaries and wages of
worksite employees and the mix of client
F-9
42
fee arrangements and terms. Company clients generally have the ability to
terminate the relationship with 30 days' notice.
The Company does not bill its clients for its actual workers' compensation and
unemployment costs, but rather bills for such costs at rates which vary by
client based upon the client's claims and rate history. The amount billed is
intended (i) to cover payments made by the Company for insurance premiums and
unemployment taxes, the Company's cost of contesting workers compensation and
unemployment claims, and other related administrative costs and (ii) to
compensate the Company for providing such services. The Company has an incentive
to minimize its workers' compensation and unemployment costs because the Company
bears the risk that its actual costs will exceed those billed to its clients,
and, conversely, the Company profits in the event that it effectively manages
such costs. The Company believes that this risk is mitigated by the fact that
its standard client agreement provides that the Company, at its discretion, may
adjust the amount billed to the client to reflect changes in the Company's
direct costs, including without limitation, statutory increases in employment
taxes and insurance. Any such adjustment which relates to changes in direct
costs is effective as of the date of the changes and all other changes require
thirty days' prior notice. There is no assurance that the Company will be able
to successfully pass through these increases in the future.
Consistent with PEO industry practice, the Company recognizes all amounts billed
to its clients as revenue because the Company is at risk for the payment of its
direct costs, whether or not the Company's clients pay the Company on a timely
basis or at all. The Company also recognizes as revenue and as unbilled
receivables, on an accrual basis, any such amounts which relate to services
performed by worksite employees as of the end of the accounting period which
have not yet been billed to the client because of timing differences between the
day the Company's accounting period ends and its payroll processing billing
dates.
Concentrations of Credit Risk - Financial instruments, which potentially subject
the Company to a concentration of credit risk, consist principally of accounts
receivable. The Company provides its services to its clients based in part upon
an evaluation of the client's financial condition. Exposure to losses on
receivables is principally dependent on each client's financial condition. The
Company mitigates such exposure by requiring deposits, letters of credit or
personal guarantees as well as performing credit checks on the majority of its
clients. Exposure to credit losses is monitored by the Company, and allowances
for anticipated losses maintained when appropriate. It is possible that such
exposure to losses may increase for any number of reasons in the future such as
general economic conditions.
Cash and Cash Equivalents - Cash and cash equivalents consist of cash and highly
liquid investments with initial maturities of three months or less.
Workers' Compensation Insurance - The Company has a high retention workers'
compensation insurance policy covering most of its employees outside of the
State of Ohio. The retention limit is $250,000 per occurrence. There are also
aggregate minimum and maximum policy premium limits. The Company's policy is to
record workers' compensation costs at the maximum reserved amount for each
claim, plus an estimate for incurred but not reported claims, subject to the
$250,000 retention limit and also subject to the minimum and maximum aggregate
limits in the policy. Workers' compensation expense under this policy was
$1,025,000 in 1998.
Property and Equipment - Property and equipment is stated at cost with
depreciation and amortization computed on the straight-line method over the
estimated useful lives of the respective assets. Additions and betterments to
property and equipment over certain minimum dollar amounts are capitalized.
Repair and maintenance expenses are expensed as incurred. The accompanying table
summarizes the Company's property and equipment and the associated accumulated
depreciation and amortization at December 31.
F-10
43
1998 1997
---- ----
Furniture and fixtures................... $ 786,455 $ 550,868
Computer hardware and software........... 1,887,612 935,667
Leasehold improvements................... 40,572 33,124
---------- -----------
TOTAL PROPERTY AND EQUIPMENT............. 2,714,639 1,519,659
Less: Accumulated depreciation
and amortization................ 906,144 528,182
---------- -----------
PROPERTY AND EQUIPMENT, NET.............. $1,808,495 $ 991,477
========== ===========
YEARS
Furniture and fixtures............................ 7
Computer hardware and software.................... 5
Leasehold improvements............................ life of lease
Depreciation and amortization is provided over the estimated useful lives of the
assets using the straight-line method. The Company capitalizes and depreciates
purchased software. The estimated useful lives are shown in the preceding
tables.
Intangible Assets - Intangible assets consist of goodwill and covenants not to
compete. Goodwill is the excess of the purchase price paid for an acquired
business, including liabilities assumed, over the fair market value of the
assets acquired. Goodwill is amortized over 25 years.
The Company continually evaluates whether events and circumstances have occurred
which indicate that the remaining estimated useful life of goodwill may warrant
revision or that the remaining balance of goodwill may not be recoverable. If
such an event has occurred, the Company estimates the sum of the expected future
cash flows, undiscounted and without interest charges, derived from such
goodwill over its remaining life. The Company believes that no such impairment
existed at December, 1998.
The amounts recorded as covenants not to compete are payments contained in
business acquisition agreements to compensate the former owners for refraining
from competing with the acquired business for a period of years. The covenants
not to compete are amortized over the lives of the agreements which are seven to
eight years.
1998 1997
---- ----
Goodwill ..................................................... $26,990,094 $ 22,975,731
Covenants not to compete...................................... 486,000 486,000
----------- -------------
$27,476,094 $ 23,461,731
Less: Accumulated amortization............................. 1,416,761 245,393
----------- -------------
INTANGIBLE ASSETS, NET........................................ $26,059,333 $ 23,216,338
=========== =============
F-11
44
Other Assets - Other assets primarily consist of investments in securities and
real estate which are stated at cost as no readily ascertainable market values
are available.
Deferred Rent - The Company entered into the lease of its corporate headquarters
in 1990. This lease included inducements in the early periods of the lease,
including an initial six month rent free period, with following years' payments
having scheduled increases. In accordance with generally accepted accounting
principles, rent expense is recognized on a straight-line basis over the life of
the lease. Consequently, a deferred credit has been recorded, which will be
amortized over the remaining years of the lease (through the year 2000).
Fair Value of Financial Instruments - The carrying amount of current assets and
liabilities approximate their fair value because of the immediate or short-term
maturity of these financial instruments. Other assets principally include
investments in privately-held non-traded equity securities and real estate for
which there is no readily ascertainable market value.
Earnings Per Share - Earnings per share were determined in accordance with SFAS
No. 128 which the Company adopted in 1997. There was no impact on prior year
earnings per share calculations as a result of restating them to conform to SFAS
No. 128. The following table is provided to reconcile the shares used for the
basic and diluted earnings per share calculations. For the year ended December
31, 1998, there was additional goodwill amortization expense of $20,032 deducted
from reported net income for purposes of calculating diluted earnings per share.
No such adjustments were necessary for prior periods presented.
1998 1997 1996
---- ---- ----
Income available to common shareholders ... $ 682,042 $ 929,715 $ 624,023
WEIGHTED AVERAGE SHARES (BASIC) ........... 4,733,011 3,640,699 2,159,502
Effects of dilutive stock options .... 72,649 47,548 --
Effects of shares issuable from escrow 86,988 11,293 --
WEIGHTED AVERAGE SHARES (DILUTED) ......... 4,892,648 3,699,540 2,159,502
Earnings per share:
Basic ................................ $ .14 $ .26 $ .29
Diluted .............................. $ .14 $ .25 $ .29
At December 31, 1998, 383,266 options with a weighted average price of $10.62
are excluded from the calculation of diluted earnings per share because their
effect is anti-dilutive.
Reclassifications - Certain reclassifications have been made to the 1997 and
1996 financial statements to conform to the 1998 presentation.
Comprehensive Income - Effective January 1, 1998, the Company adopted SFAS No.
130 "Reporting on Comprehensive Income". SFAS No. 130 requires comprehensive
income to be reported in a financial statement that is displayed with the same
prominence as other financial statements. There were no changes to, or
additional disclosures required in the Company's financial statements as a
result of adopting this new standard.
Segment Information - Effective January 1, 1998, the Company adopted SFAS No.
131 "Disclosures About Segments of an Enterprise and Related Information". SFAS
No. 131 requires disclosure of the Company's financial and detailed information
about its operating segments in a manner consistent with internal reporting used
by the Company to allocate resources and assess financial performance. There
were no changes to, or additional disclosures required in the Company's
financial statements as a result of adopting this new standard.
F-12
45
INVESTMENTS
Investments at December 31, 1998 and 1997 are municipal bonds held for trading
purposes and are recorded at their fair market values. Gross unrealized gains
and losses and realized gains and losses from the sales of investments were not
material in 1998 or 1997.
SHAREHOLDERS' EQUITY
On December 10, 1996, the Company completed an initial public offering of its
Common Stock by issuing 1,250,000 shares at $12 per share, which net of
commissions and expenses, resulted in net proceeds of $13,313,754 to the
Company.
The Company is authorized to issue 11,000,000 shares of capital stock, no par
value, of which 500,000 are designated as Class A voting preferred shares,
500,000 shares are designated as Class B nonvoting preferred shares and
10,000,000 are authorized shares of Common Stock. None of the preferred shares
are issued or outstanding.
In 1998, the Company acquired 60,000 shares at prices ranging from $4.75 to
$7.00 held as treasury stock at December 31, 1998.
CAPITAL LEASES
The Company has capitalized lease obligations for equipment.
The cost and related accumulated amortization of the assets capitalized under
capital leases were $108,456 and $84,371 at December 31, 1998 and $79,402 and
$48,459 at December 31, 1997, respectively. Future minimum lease payments are
due according to the following schedule.
1999.................................................. $40,239
2000.................................................. 9,211
2001.................................................. 8,460
-------
Future minimum lease payments......................... 57,910
Less: amount representing interest.................... 12,007
Less: current portion................................. 35,996
------
CAPITAL LEASE OBLIGATION, NET OF CURRENT PORTION...... $ 9,907
=======
F-13
46
COMMITMENTS
The Company leases office facilities, automobiles and certain office equipment
under long-term agreements expiring through 2003, which are accounted for as
operating leases. The future minimum lease payments as of December 31, 1998 are
presented in the accompanying table.
Year Ending December 31,
- ------------------------
1999................................... $ 569,600
2000................................... 438,600
2001................................... 126,200
2002................................... 93,400
2003................................... 1,000
Thereafter............................. --
----------
$1,228,800
Rent expense under all operating leases was $681,600, $368,130, and $187,158 for
the years ended December 31, 1998, 1997 and 1996, respectively.
The Company currently has agreements with certain officers and other employees
that call for the payment of commissions on future revenues from clients brought
in by these employees. The amount of such payments is determined by the
achievement of certain sales goals while such employees are employed with the
Company, as well as the level of revenues from such employees' clients
subsequent to termination for a certain period, as defined. These commission
agreements are subject to compliance with non-compete agreements which are
effective for one year beyond an employee's termination date. The Company
incurred no expense relating to such agreements in 1998, 1997 or 1996.
DEFERRED COMPENSATION LIABILITY
The Company has deferred compensation agreements with certain company and client
employees. The liabilities under these agreements are being accrued over the
participants' remaining periods of employment so that, on the payout date, the
then-present value of the payments will have been accrued. These liabilities
will be funded by life insurance policies, wherein the Company is the
beneficiary. The cash surrender value of such policies dictates the amount of
the deferred compensation benefits due, as defined by the respective agreements.
Expense for 1998, 1997 and 1996 related to deferred compensation was $198,028,
$163,450 and $71,671, respectively. The total face value of related life
insurance policies was $16,604,000 at December 31, 1998.
DEBT OBLIGATIONS
The Company has a $10,000,000 credit facility with a bank which allows the
Company to obtain advances up to such amount without negotiating or exercising
any further agreements. Borrowings under this credit facility are payable upon
demand and bear interest at the lower of the bank's prime rate (7.75% at
December 31, 1998) or LIBOR plus two and one quarter percent (23%). The Company
is required to meet financial covenants pertaining to net worth and EBITDA. The
Company is in compliance with such covenants or has obtained waivers thereof.
The credit facility is secured by all of the assets of the Company and its
subsidiaries. As of December 31, 1998, no borrowings were outstanding under this
credit facility. The facility expires May 31, 2001. The commitment fee is .2% of
the unutilized balance.
F-14
47
EMPLOYEE BENEFIT PROGRAMS
Cafeteria Plan - The Company sponsors Section 125 cafeteria plans that include a
fully insured health, dental, vision and prescription card program. The plans
are offered to full-time employees. Entrance to the plan is the first day of the
month following thirty days of service.
401(k) Retirement Plan - The Company sponsors 401(k) retirement plans that cover
all full-time employees with at least one year of service. The plans do not
provide for Company contributions.
Other Programs - Other available employee benefit programs include health, life,
accidental death and dismemberment insurance, disability insurance and dependent
care assistance programs. Benefits under such programs are funded by the
Company's employees and clients.
RELATED PARTY TRANSACTIONS
The Company has clients who are members of the Board of Directors or are owned
by officers of the Company. The Company also pays professional fees, office rent
and for other services to entities owned or controlled by officers or members of
the Board of Directors.
At December 31, 1998 and 1997, the Company had accounts receivable of $238,331
and $38,574, respectively, and at December 31, 1997 had accounts payable of
$20,983 with such related parties.
During the years ended December 31, 1998, 1997, and 1996, the Company recorded
revenues of $1,121,265, $175,605 and $619,941, respectively from related
parties. Also during the years ended December 31, 1998, 1997, and 1996, the
Company purchased services from related parties in the amounts of $359,512,
$167,200, and $140,250, respectively.
Officers of the Company are trustees of the Company's 401(k) plans.
INCOME TAXES
Deferred income tax assets and liabilities represent amounts taxable or
deductible in the future. These taxable or deductible amounts are based on
enacted tax laws and rates applicable to the periods in which the differences
are expected to affect taxable income. Income tax expense is the tax payable or
refundable for the period plus or minus the change during the period in deferred
tax assets and liabilities. The components of income tax expense for the years
ended December 31, 1998, 1997 and 1996, and the reconciliation of the Company's
effective tax rate to the statutory federal tax rates and the significant items
giving rise to the deferred income tax assets (liabilities), as of December 31,
1998 and 1997, are presented in the accompanying tables.
INCOME TAX EXPENSE 1998 1997 1996
- ------------------ ---- ---- ----
Current:
Federal ........................................... $ 898,000 $ 556,000 $ 516,800
State ........................................... 260,000 160,000 91,200
Deferred:
(Increase) decrease in net deferred income tax asset 63,000 (44,000) (150,000)
----------- --------- ---------
TOTAL INCOME TAX EXPENSE................................. $ 1,221,000 $ 672,000 $ 458,000
=========== ========= =========
F-15
48
EFFECTIVE TAX RATE 1998 1997 1996
- ------------------ ---- ---- ----
Statutory Federal tax rate............................... 34.0% 34.0% 34.0%
Adjustments:
State income tax expense........................ 8.7 6.0 6.0
Amortization of intangible assets............... 17.8 5.5 ----
Other, net...................................... 3.7 (3.5) 2.3
---- ---- ----
EFFECTIVE TAX RATE....................................... 64.2% 42.0% 42.3%
==== ==== ====
DEFERRED INCOME TAX ASSETS 1998 1997
- -------------------------- ---- ----
Deferred income tax assets (liabilities):
Deferred compensation.............................................. $ 176,000 $159,000
Deferred rents..................................................... 25,000 40,000
Depreciation and amortization...................................... (178,000) (40,000)
--------- --------
TOTAL LONG-TERM DEFERRED INCOME
TAX ASSET, NET................................................. $ 23,000 $159,000
========= ========
Accrued liabilities................................................ $ 180,000 $107,000
========= ========
TOTAL CURRENT DEFERRED INCOME TAX ASSET........................ $ 180,000 $107,000
========= ========
INCENTIVE STOCK PLAN
The Company established the Incentive Stock Plan on December 10, 1996. Shares
eligible for granting under the Plan were increased from the initial
authorization of 350,000 when the Plan was established to 750,000 on May 5, 1998
by vote of the shareholders of the Company. The maximum number of shares that
may be awarded during any calendar year may not exceed 10% of the total number
of issued and outstanding shares of Company Common Stock. Options granted to
employees and officers vest at 20% per year over five years; options granted to
directors fully vest after one year. Incentive options have a ten-year exercise
period and are issued with an exercise price equal to the fair market value of
Company Common Stock on the date of grant.
NON-STATUTORY OPTIONS
The Company has granted non-statutory options in connection with acquisitions
and employment agreements with key executives of the acquired businesses and to
officers and key employees of the Company. All non-statutory options have a
ten-year exercise period and are issued with an exercise price equal to the fair
market value of Company Common Stock on the date of grant.
Except for 176,037 options granted on September 8, 1997 and 1,465 options
granted on November 1, 1997 which were immediately vested, all non-statutory
options vest at 20% per year over a five year period.
F-16
49
Option activity was as follows:
INCENTIVE STOCK OPTIONS (ISO)
Weighted
Average
Number Exercise
of Shares Exercisable Price
--------- ----------- ---------
Outstanding December 31, 1995.................................... - - -
Options granted............................................. 184,000 $ 12.00
Outstanding December 31, 1996.................................... 184,000 - $ 12.00
Options granted............................................. 355,000 - $ 8.60
Options exercised........................................... - - -
Options cancelled/surrendered............................... (191,000) - $ 11.90
Outstanding December 31, 1997.................................... 348,000 - $ 8.37
Options granted............................................. 154,500 - $ 5.53
Options exercised........................................... (5,000) - $ 6.75
Options cancelled/surrendered............................... (47,728) - $ 7.77
Outstanding December 31, 1998.................................... 449,772 59,054 $ 7.48
NON-QUALIFIED STOCK OPTIONS (NQ)
Outstanding December 31, 1996.................................... - - -
Options granted............................................. 900,637 - $ 9.24
Options exercised........................................... - - -
Options cancelled/surrendered............................... - - -
Outstanding December 31, 1997.................................... 900,637 177,502 $ 9.24
Options granted............................................. 55,400 - $ 11.29
Options exercised........................................... - - -
Options cancelled/surrendered............................... (45,606) - $ 8.91
Outstanding December 31, 1998.................................... 910,431 311,834 $ 9.38
F-17
50
Options outstanding as of December 31, 1998 were as follows:
Exercise Number Number
Price Type of Shares Expiration Date Exercisable
----- ---- --------- --------------- -----------
$ 5.375 ISO 150,500 December 15, 2008 -
$ 8.50 ISO 188,322 September 3, 2007 37,664
$ 8.50 NQ 531,165 September 3, 2007 247,061
$ 9.35 ISO 106,950 September 3, 2007 21,390
$ 10.00 NQ 33,733 January 2, 2008 -
$ 10.50 NQ 323,866 November 1, 2007 64,773
$ 11.00 NQ 5,000 January 1, 2008 -
$11.375 ISO 4,000 May 5, 2008 -
$ 14.00 NQ 16,667 March 1, 2008 -
--------- -------
1,360,203 370,888
========= =======
STOCK OPTION COMPENSATION EXPENSE
The Company accounts for stock options according to APB No. 25 (Accounting for
Stock Issued to Employees), under which no compensation expense has been
recognized at the time of grant. Had compensation cost for the Company's stock
options been determined based on fair values at the grant date consistent with
SFAS No. 123 (Accounting for Stock Based Compensation), the Company's net income
(loss) and diluted earnings (loss) per share for 1998, 1997 and 1996 would have
been reduced to the pro forma amounts of ($165,196) and ($.03), $694,700 and
$0.19 and $613,416 and $.28, respectively. The fair values of the options
granted are estimated on the date of grant using the Black-Scholes option
pricing model with assumptions of a risk-free interest rate of 6%, expected
lives of 2-6 years and expected volatility of 55% to 62% in all years. The
weighted average fair values of options granted in 1998, 1997 and 1996 were
$7.05, $5.63 and $6.81 per share, respectively.
F-18
51
ACQUISITIONS
In 1998 and 1997 the Company completed the acquisitions of five PEO businesses
and four PEO businesses, respectively. These acquisitions were accounted for by
the purchase method of accounting. Total consideration paid for these
acquisitions was
1998 1997
---- ----
Cash ......................................................... $ 2,048,000 $ 8,244,000
Company stock-
- Number of shares....................................... 141,007 1,278,817
- Value.................................................. $ 1,437,530 $12,729,000
Company stock options
- Number of option shares................................ -- 176,037
- Value.................................................. -- $ 528,000
The purchase price was allocated to the assets acquired based on their relative
fair market values with the excess allocated to goodwill. At December 31, 1998
122,556 shares of TEAM America Corporation Common Stock are contingently
issuable for acquisitions completed in 1998 and 1997 and are not included in the
total shares outstanding or in the consideration paid for the acquisitions.
These shares will be released at the end of the applicable period and upon the
satisfaction of the terms of the agreements, primarily related to customer
retention or earnings of the acquired business.
In connection with an acquisition completed in October 1997, the price of
Company stock was guaranteed at $10.25 per share for a one year period from
October 1998 to October 1999. In November 1998 the company advanced $280,727 to
the holder of 27,388 shares subject to this guarantee. The advance is secured by
the shares, valued at $5.75 per share at December 31, 1998, and is callable on
demand after January 1, 1999. An additional 41,080 shares as of December 31,
1998 are also subject to this price guarantee arrangement. Amounts advanced in
1998 have been offset against shareholders' equity.
The purchase price for an acquisition completed in 1998 is to be based upon a
multiple of gross profit realized from the acquired business in 1999. The
initial payment of $440,000 made in December 1998 has been recorded as goodwill.
The remainder of the purchase price will be recorded as of December 31, 1999
when actual results for the acquired business is known. The balance of the
purchase price will be due in two equal installments payable in February 2000
and January 2001.
The results of operations of the acquired businesses have been included in the
Company's results from the acquisition date. The following table presents
condensed pro forma operating results as if the businesses had been acquired as
of January 1 of the immediately preceding year. These results are not
necessarily an indication of the operating results that would have occurred had
the Company actually operated the businesses during the periods indicated.
Amounts except per share amounts are in $ thousands.
1998 1997 1996
---- ---- ----
(UNAUDITED)
Revenues ............................................... $357,882 $269,387 $ 174,420
Net income (loss)............................................ 496 (1,077) (773)
Earnings (loss) per share
Basic ............................................... $ .10 $ (.23) $ (.22)
Diluted ............................................... $ .10 $ (.23) $ (.22)
F-19
52
CONTINGENCIES
The Internal Revenue Service ("IRS") is conducting a Market Segment Study,
focusing on selected PEOs (not including the Company), in order to examine the
relationships among PEOs, worksite employees and owners of client companies. The
Company has limited knowledge of the nature, scope and status of the Market
Segment Study because it is not a part thereof and the IRS has not publicly
released any information regarding the study to date. In addition, the Company's
401(k) retirement plan (the "Plan") was audited for the year ended December 31,
1992, and, as part of that audit the IRS regional office has asked the IRS
national office to issue a Technical Advice Memorandum ("TAM") regarding whether
or not the Company is the employer for benefit plan purposes. The Company has
stated its position in a filing with the IRS that it is the employer for benefit
plan purposes.
If the IRS concludes the PEOs are not "employers" of certain worksite employees
for purposes of the Code as a result of either the Market Segment Study or the
TAM, then the tax qualified status of the Plan could be revoked and its
cafeteria plan may lose its favorable tax status. The loss of qualified status
for the Plan and the cafeteria plan could increase the Company's administrative
expenses and, thereby, materially adversely affect the Company's financial
condition and result of operations.
The Company is unable to predict the timing or nature of the findings of the
Market Segment Study, the timing or conclusions of the TAM, and the ultimate
outcome of such conclusions or findings. The Company is also unable to predict
the impact which the foregoing will have on the Company's administrative
expenses, and whether the Company's resulting liability exposure, if any, will
relate to past or future operations. Accordingly, the Company is unable to make
a meaningful estimate of the amount if any, of such liability exposure.
The Company has ongoing litigation matters pertaining to worksite employees in
the ordinary course of business which management believes will not have a
material adverse effect on the results of operations or financial condition of
the Company.
SUBSEQUENT EVENTS
Effective January 1, 1999 the Company's founder and chairman resigned his
position with the Company. In lieu of any other separation payments that may
have been required, the Company agreed to acquire 500,000 shares at $5 per
share, the fair market value, from the former chairman. The shares were acquired
on February 11, 1999 for a cash payment of $800,000 and two notes bearing
interest at 5.75%. One note in the amount of $700,000 is due upon demand with a
final due date of February 19, 2000. The second note in the amount of $1,000,000
is also due February 19, 2000.
On February 18, 1999 the Company borrowed $800,000 on its line of credit.
F-20