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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the year ended December 31, 1999
Commission File Number 0-19655
THE KEITH COMPANIES, INC.
(Exact name of registrant as specified in its charter)
California 33-0203193
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2955 REDHILL AVENUE, COSTA MESA, CALIFORNIA 92626
(Address of principal executive offices and zip code)
Registrant's telephone number, including area code: (714) 540-0800
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock,
$0.001 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 (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [_]
The number of shares outstanding of the registrant's common stock as of
February 29, 2000 was 5,070,973 shares. The aggregate market value of the
registrant's common stock held by non-affiliates of the registrant on February
29, 2000 was approximately $11,683,000.(/1/)
DOCUMENTS INCORPORATED BY REFERENCE
List hereunder the following documents if incorporated by reference and the
part of the Form 10-K into which the document is incorporated; (1) any annual
report to security holders; (2) any proxy or information statement; and (3)
any prospectus filed pursuant to Rule 424(b) or (e) under the Securities Act
of 1933. Part III incorporates certain information by reference from the
registrant's definitive proxy statement for the Annual Meeting of Shareholders
scheduled to be held on May 15, 2000.
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(1) For purposes of this report, in addition to those shareholders which fall
within the definition of "affiliate" under Rule 405 of the Securities Act,
as amended, holders of ten percent or more of the registrant's common
stock are deemed to be affiliates.
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THE KEITH COMPANIES, INC.
Annual Report on Form 10-K
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Table of Contents
Page
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PART I
Item 1. Business............................................................................... 3
Item 2. Properties............................................................................. 17
Item 3. Legal Proceedings...................................................................... 17
Item 4. Submission of Matters to a Vote of Security Holders.................................... 17
PART II
Item 5. Market for Our Common Equity and Related Stockholder Matters........................... 18
Item 6. Selected Financial Data................................................................ 18
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.. 20
Item 7A. Quantitative and Qualitative Disclosures About Market Risk............................. 27
Item 8. Consolidated Financial Statements and Supplementary Data............................... 28
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure... 53
PART III
Item 10. Directors and Executive Officers....................................................... 53
Item 11. Executive Compensation................................................................. 53
Item 12. Security Ownership of Certain Beneficial Owners and Management......................... 53
Item 13. Certain Relationships and Related Transactions......................................... 53
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K........................ 53
(a) 1. Consolidated Financial Statements................................................... 53
2. Financial Statement Schedules....................................................... 53
3. Exhibits............................................................................ 54
(b) Reports on Form 8-K.................................................................... 55
Signatures...................................................................................... 56
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PART I
ITEM 1. BUSINESS
Introduction
The Keith Companies, Inc. or TKCI, together with its wholly-owned
subsidiaries, provides high-quality, full-service engineering and consulting
services to the real estate development, public works and telecommunications
industries. We also specialize in mechanical, electrical, and process
engineering services that improve the efficiency of production in
manufacturing and industrial facilities.
We provide a full range of services from initial site acquisition studies
through construction support services to clients operating in a variety of
market sectors. We benefit from a diverse public and private client base
including real estate developers, residential and commercial builders,
architects, cities, counties, water districts, state and federal agencies,
land owners, commercial retailers, energy providers and various manufacturers.
Our professional staff provides a comprehensive menu of professional services
that are needed to effectively manage, engineer and design state-of-the-art
facilities.
We were incorporated in 1983 under the name Keith Engineering. The Keith
Companies--Inland Empire, Inc. was formed during November 1986, and the two
companies were merged in November 1998 with TKCI as the survivor.
. In December 1997, in a strategic move to expand our menu of services, we
acquired Engineering Services, Inc. ("ESI") and Engineered Systems
Integration, Inc. ("ESII"), both of which are located in Walnut Creek,
California. These two companies added additional engineering specialties
and a series of industrial services to our service offerings.
. In August 1998, we acquired John M. Tettemer and Associates, Ltd.
("JMTA"), located in Costa Mesa, California, to expand, refine and
further specialize our water resources services.
. During July 1999, we acquired substantially all of the assets and
assumed substantially all of the liabilities of Thompson-Hysell, Inc.
("Thompson-Hysell"), adding offices in Modesto, California and
Taylorsville, Utah, to diversify our geographic presence, expand our
client base and further enhance our water resources services.
We currently operate from seven offices in three states including
California, Nevada, and Utah with the experience and ability to provide
services both nationally and internationally.
The TKCI Advantage
Reputation
Our reputation for providing high quality services has been a source of
numerous project assignments. We believe our reputation is strengthened due to
the personal relationships developed between our staff and representatives of
clients and agencies. We have been awarded many projects either due to our
expertise in working with an agency or project type or because a particular
client desires to work with, and can count on, specific project managers. In
addition, we have received numerous awards for technical excellence including
the Project of the Year Award of Excellence in the award category of
Engineering Land Development for the "Dana Point Townhomes" project from the
California Council of Civil Engineers and Land Surveyors; a Certificate of
Recognition for the design of the "Grand Avenue and Chino Hills Parkway"
awarded by the County of San Bernardino, California Board of Supervisors; and
a Letter of Appreciation from the Department of General Services of the State
of California for contributing to the "Telecommunications Leasing Program" and
for our assistance in formulating telecommunications real estate objectives
and strategies.
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Industry and Professional Experience
We recognize that our employees are our most valuable resource for
providing continuing quality service and for obtaining new work. During
employee selection and as part of the acquisition criteria we require that the
personnel which we add to our team have significant experience in the
industries that we serve. We supplement this industry experience by providing
in-house continuing education seminars, design forums, and training programs.
Full Service Approach
We provide civil engineering, surveying and mapping, planning,
environmental, archaeological, construction management, site acquisition,
water resources engineering, instrumentation and control systems engineering,
fire protection engineering, electrical and mechanical engineering, and
chemical process engineering services. Since many consulting and engineering
services firms specialize in only one or a few services, a project owner may
often be required to engage several engineering and/or consulting firms during
the various phases of a project. The phases range from identifying and
evaluating whether to acquire a parcel of land to designing, engineering, and
managing the construction of the finished project. We believe that clients
realize significant cost and time savings and maintain consistent quality by
utilizing a single firm for as many services as possible.
Cross-Marketing
Due to our reputation within the industry and our technical expertise, we
have frequently increased the scope of services provided to a client from an
initial engagement, such as land planning, to include other services, such as
mapping and surveying. When we expand into new geographic regions, we have
successfully cross-sold and intend to continue to cross-sell services offered.
Because our professionals provide many of the preliminary services for
planning, civil engineering, and surveying and mapping projects, we are
frequently asked to provide additional services as a project progresses. In
performing the preliminary services during the initial phases, we obtain
background information and data relating to the project that may be
inefficient and costly for another firm to compile. Consequently, we are often
more knowledgeable about a project, and, as a result, are often engaged to
perform the additional engineering and consulting services as the project
progresses.
Effective Organizational Structure
We believe that our organizational structure allows us to compete
effectively with small and mid-sized local firms as well as with large
regional and national firms. The organizational structure combines the
efficiencies associated with centralization and the flexibility of
decentralization. Our administrative functions are centralized in our
corporate headquarters in Costa Mesa, California allowing us to eliminate
duplicative functions and personnel at our divisional offices. We believe this
centralization allows the management at the divisional offices the freedom to
focus on identifying new business opportunities and overseeing the services
provided, and allows the flexibility for managers to maintain focus on being
responsive to client needs. The centralization of administrative functions
also helps us to effectively integrate with acquired companies.
Business Strategy
Our objective is to strengthen our position as a leading provider of
engineering and consulting services while growing our geographical presence
and expanding the services we offer. To achieve this objective, we have
developed a strategy with the following key elements:
. Maintain High Quality of Service. To maintain high quality service, we
focus on being responsive to customers and working diligently and
responsibly to maintain schedules and budgets. As a result of our focus
on quality and timely service, we believe that we have established an
excellent reputation in the markets we serve. We intend to continue
providing high quality services as we expand our geographic presence and
our service offerings.
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. Continue to Recruit and Retain Highly Qualified Personnel. We believe
that recruiting and retaining skilled professionals is crucial to our
success and growth. As a result, we intend to continue to recruit
experienced and talented individuals who can provide quality services
and innovative solutions.
. Expand Geographically. To diminish the impact of regional economic
cycles, we intend to continue to expand our geographic presence through
acquisitions, opening additional divisional offices and marketing our
services to clients with national and international needs. Our
geographic growth may provide us with broader access to employee pools,
work sharing between regions, and new business opportunities. We believe
that the acquisition of Thompson-Hysell has enabled us to more
effectively sell additional services in both central and northern
California and Utah. We intend to continue to increase our service
offerings outside the areas of California, Nevada and Utah.
. Expand Technical Capabilities. We intend to build upon our reputation as
a quality provider of real estate related engineering and consulting
services as we diversify our services to meet demands of our clients and
new markets. As part of our effort to continue diversifying the scope of
our services, we intend to pursue strategic partnering relationships and
acquisitions.
. Continue to Effectively Integrate Acquisitions. We intend to continue
pursuing acquisitions that expand our range of services, geographic
presence, and/or client base and that result in increased operating
efficiencies. We believe that strategic acquisitions will enable us to
more efficiently serve the diverse technical and geographic needs of,
and secure additional business from, national and international clients.
Industries Served
The industries we serve are real estate development, public works,
telecommunications and industrial, process and manufacturing. The engineering
and consulting services industries are highly fragmented, ranging from a large
number of relatively small local firms to large, multi-national firms. We
estimate that there are over 500 firms providing engineering and consulting
services to the industries we serve in our principal operating areas. We
believe that we have successfully penetrated the regional residential real
estate industry to capture a significant share of the market and have
established ourselves as a leader in these markets. Our reputation for
providing high quality services has been a source of continued repeat business
and new relationships. We believe our reputation is strengthened due to the
personal relationships developed between the staff and client and agency
representatives. We believe we have been awarded many contracts either due to
our expertise with working with particular agencies or market sectors or
because an individual client desires to work with, and can count on our
technical staff.
Real Estate Development, Public Works and Telecommunications
Real Estate Development
Residential, commercial, golf, and other recreational developers use
technical consultants to provide planning and environmental services to create
land use plans, write the supporting planning and environmental documents and
process entitlements and permits through governmental authorities. Technical
consultants also assist clients with obtaining approvals and permits from
federal, state and local agencies. After projects are approved by governmental
agencies, developers need surveying, mapping, and civil engineering services
to survey development sites, create accurate boundary and base maps, and
provide engineering designs for grading, streets, sewer pipelines and
facilities, water pipelines and facilities, utilities, and drainage
facilities. Upon completion of the design phase, surveyors provide
construction staking services to identify the precise locations of streets,
utilities, pipelines, and other facilities. In culturally sensitive areas,
developers may also require environmental and archaeological services for
planning and assistance with environmental approvals as well as construction
and post-construction phase monitoring services.
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Residential. The residential development industry consists of large-scale
communities, senior citizen and retirement communities, single family homes
and multi-family homes, such as condominiums and apartments.
Commercial. The commercial development industry includes the development
and construction of retail, office, hotel, and industrial facilities. We work
hand-in-hand with developers and builders to combine office, industrial and
retail centers and their amenities into vibrant, functional and attractive
business venues.
Golf and Other Recreational Facilities. Golf and recreational facility
development includes golf courses, driving ranges, parks, clubhouses, theme
parks, resorts, and lakes.
Public Works
Transportation, water resources, and other public works projects provide
ongoing, more reliable sources of revenue for engineering firms and
consultants when private development activities decline during unfavorable
economic periods. These public projects are often long-term and ongoing, and
have historically provided more determinable and consistent revenue streams.
Transportation. Highway and interchange projects require engineering
designs for roadways and interchanges, for the placement or relocation of
sewer lines, water pipelines and utility lines and for rainfall run-off
management. They also include surveying services for establishment of proper
rights of way for these facilities. Our engineers have developed street, major
arterial, and highway designs in cooperation with federal, state, and local
agencies to improve transportation networks. We have provided services for
transportation improvements to public agencies and many private sector
clients. We offer experienced staff support services for transportation
planning, studies and reports, surveying and mapping, and right-of-way
engineering; and prepare plans and specifications for new and widened
alignments, pavement sections, and traffic control. Highly experienced
transportation planners, engineers, and designers provide the entire spectrum
of resources necessary to effectively engineer and design state-of-the-art
transportation facilities.
Water Resources. Due to the multiple demands for municipal, environmental,
and agricultural uses, water is a limited resource in the western United
States. As populations continue to grow and higher standards are placed on
protecting the environment without sacrificing the supply of water, water
districts, public agencies, agricultural users, and municipalities are faced
with the challenge of managing their water supplies more efficiently.
Protecting the communities from natural disasters such as flood and
mudflows, cleaning natural waterways, eliminating pollution from storm runoff
flowing into the ocean, and protecting and enhancing natural riparian
resources are some of the missions of public agencies. Private developers also
address these issues as part of their land development projects.
We have developed highly specialized skills in a number of technical areas
that make us unique in the water resources industry. Our professional staff
continues to direct our efforts toward the optimum use of water: water supply,
water conveyance/water storage, irrigation, drainage, and flood control. We
provide planning, engineering, design and construction management services for
most types of water resource facilities.
Telecommunications
With the rapid growth of Internet and personal communication services, the
demand for telecommunications infrastructure has expanded dramatically.
Telecommunications projects that we can support include the development,
expansion and construction of wireless and land based data and communications
systems. The infrastructure for these systems includes wireless transmission
base stations, switching centers, cable systems, fiber optic networks and
microwave link networks.
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Service providers and developers of telecommunications infrastructure
generally hire outside experts to meet their design, site acquisition and
lease arrangement, land planning, civil engineering, purchasing and
construction management needs.
Industrial, Process and Manufacturing
Modern machines, assembly lines, factories and refineries require
mechanical, electrical and process engineering services to enable utilization
of new processes and to improve efficiency and reliability. Comprehensive
engineering services include: (a) the design or redesign of electrical,
heating, ventilation and air conditioning systems; (b) mechanical equipment
design; (c) equipment selection and purchasing; (d) the design of integrated
computer and monitoring device systems to control manufacturing and process
equipment; (e) chemical process engineering; (f) energy usage consulting; (g)
fire protection engineering; (h) material handling and process flow planning;
(i) automation and robotics design; (j) construction management and
installation supervision; (k) project management; and (l) computer
programming.
Projects that utilize mechanical, electrical and process engineering and
consulting services include:
. High Tech Facilities: biotechnology, pharmaceutical and laboratory
facilities, computer centers, control rooms, research and development
facilities
. Consumer Product Facilities: automotive assembly, household products and
packaging facilities
. Food and Beverage Facilities: bottling/packaging facilities, material
handling facilities, process controls, food and beverage manufacturing
facilities
. Educational Facilities: school and university buildings and campuses
. Public Facilities/Utilities/Energy/Power: commercial and medical
buildings, power plants and natural gas/ electrical systems
We believe there is a continued trend in the manufacturing and assembly
industries toward automation and increased efficiency. As these industries
grow, so does their need for engineering and design services to automate and
increase efficiency of new and existing facilities.
Services Provided
We provide a broad range of services, including civil engineering,
surveying and mapping, planning, environmental, archaeological, construction
management, site acquisition, water resource engineering, and other services
needed by the industrial, process and manufacturing industry, including
instrumentation and control systems engineering, fire protection engineering,
electrical engineering, mechanical engineering, and chemical process
engineering.
Civil Engineering Services
General civil engineering is often referred to as everything "designed from
the ground down" because it is related to many things that play a vital part
in everyday life. Our civil engineering services include:
. project feasibility and due diligence analysis
. development cost projections
. access and circulation analysis
. infrastructure design and analysis
. pro forma cost studies
. project management
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. construction documents
. tentative mapping
. flood plain studies
. sewer, water and drainage design
. street and highway design
. site and subdivision design
. grading design
Surveying and Mapping Services
From establishing boundaries for preliminary engineering through
construction layout and as-built surveys, it is common for our surveying and
mapping teams to be "the first in and the last out" for a construction
project. We provide surveying and mapping services through teams of skilled
professionals that utilize sophisticated technology, including global
positioning systems that utilize satellite technology to survey and navigate
land, geographic information systems, and field-to-office digital and
electronic data capture to produce information that will serve as the
foundation for a variety of planning and engineering analysis and design
endeavors. Our surveying and mapping services also include the identification
of features of a parcel of land that directly affect a project's design. We
were among the first engineering and surveying consultants to utilize global
positioning systems with geographic information systems to perform precise
ground surveys.
We utilized our expertise with the use of ground and global positioning
systems to plot the aftermath of the Mt. Pinatubo eruption in the Philippines
for a long-term lava flow management project. We provided site topographic and
boundary surveys for approximately 450 proposed cellular telecommunication
sites. Using these surveys, we designed and generated construction documents
and developed legal descriptions that were used in lease contract documents.
Government agencies and landowners have also utilized our surveying and
mapping services to develop the basic elements of their geographic information
systems databases.
Planning Services
Planning services include both physical planning and policy planning.
Physical planning is graphical and includes conceptual drawings, sketches and
layouts of communities and identifies land uses and residential and commercial
neighborhoods. The resulting plan often becomes the basis for the preparation
of engineering plans. To complement a physical plan, policy planning entails
the preparation of supporting text and documents that establish procedures,
requirements, and guidelines for visual appearance or detailed permitting
approvals under which the physical plan may be implemented.
Our planning services are designed to assist clients with maximizing the
potential uses of real estate and other limited resources. We provide plans
that take into account government regulations, effective and creative use of
land assets, and the expectations and needs of the community.
An example of our planning services is our past involvement with the design
of a major flood control dam for a 10,000-acre project located in Los Angeles
County that controlled the yearly flooding of the city of Palmdale,
California, a downstream municipality. Our solution allowed plans for concrete
channelization of the waterway to be abandoned, significantly reducing the
cost of infrastructure for the flood control facilities. This resolved the
concerns of the local water agencies and environmentalists that were concerned
with groundwater recharge and replenishment. It also provided the inducement
for the city to annex and entitle the project.
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Environmental Services
Our environmental staff offers the technical proficiency to provide one-
stop preparation of environmental documents that conform to current regulatory
requirements. Our environmental services include biology, permit processing,
environmental document preparation, and mitigation monitoring. We assist
clients with the complex federal, state, and local permitting process enabling
them to successfully implement private and public projects.
Our staff is experienced with the preparation of complex and challenging
environmental planning documents such as Environmental Impact Reports,
Environmental Impact Statements, initial studies, and environmental
assessments. Our experience includes the preparation of documents that comply
with the California Environmental Quality Act (CEQA) and the National
Environmental Policy Act (NEPA). Our environmental staff has been instrumental
in developing permit strategy consensus among federal agencies such as the
Army Corps of Engineers, U.S. Fish and Wildlife, the Environmental Protection
Agency, and the State of California.
Archaeological Services
Many environmental impact analyses require protection of significant
archaeological resources that may exist on a property, such as native peoples'
community settings, artifacts, and burial sites. We perform studies that range
from site review and records analysis to a discussion of measures to protect
sensitive or valuable archaeological resources. Further, we conduct field
sampling and testing to establish or verify findings of the site review stage,
and record information to determine both the quantity and quality of
archaeological materials for a given site.
Our archaeological staff provided services for the excavation of a fossil
whale bed and for several mammoths over the past several years. During the
course of the whale excavation, we found rare samples of Baleen whales, which
were subsequently donated for further academic study.
Construction Management Services
Construction management services are an efficient "bundling" of some of the
other services that we provide. During construction management assignments, we
direct development and construction tasks, including the preparation of cost
projections, entitlement and feasibility analysis, professional consultant
selection and supervision, contractor bidding and construction supervision. We
provide these services in discrete components or as a comprehensive package
for private development, public works and telecommunications clients.
Site Acquisition Services
We provide site acquisition services to assist clients with obtaining the
most appropriate real estate for their particular needs. For example, a
property intended for the development of multi-family housing will have
characteristics which vary greatly from that of a property intended for the
siting of a heavy industrial facility. We provided site acquisition services
for over 450 wireless communications sites in Riverside, San Bernardino,
Ventura, Los Angeles and San Diego counties for a national wireless services
provider.
Water Resources Engineering Services
Our water resources engineers frequently assist clients with financial
planning, feasibility studies, demand forecasting, hydraulic analysis, and
water flow studies to develop system master plans in addition to designing
conventional systems of pipes, channels and dams.
Examples of the water resources engineering services that we provide
include: (a) the performance of a study in which we evaluated the anticipated
amount of rainfall water in a 23 square-mile watershed in Riverside County,
California; and (b) the development of a concept report and preliminary design
for a 2,000 acre-feet,
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50-foot high water quality dam, a major sediment detention basin facility and
the relocation of approximately 1.5 miles of roadway, all incidental to the
construction of the dam and related structures.
Industrial, Process and Manufacturing Services
In addition to the engineering and consulting services described above, we
also provide the following industrial, process and manufacturing services:
Instrumentation and Control Systems Integration Engineering Services. Our
professionals integrate equipment selection, maintenance requirements and
spare parts inventory by designing, selecting and reviewing mechanical, piping
and electrical layouts, and operating maintenance, training, start-up and
emergency procedures during the design of contemporary processes or the
automation of outdated manufacturing processes. These services are essential
to creating an efficient operating facility.
Fire Protection Engineering Services. We provide fire protection
engineering services in connection with both new construction and the
renovation/modification of existing facilities to assist clients in defining
and providing an acceptable level of fire safety in a cost-effective manner.
Electrical Engineering Services. These services include design of
electrical power systems for buildings, manufacturing plants and miscellaneous
facilities; design of lighting systems; and selection of other equipment that
delivers or uses electrical power.
Mechanical Engineering Services. These services are required to design
energy systems, HVAC systems, plumbing systems, water distribution systems,
and fire protection systems for facilities and buildings.
Chemical Process Engineering Services. Our chemical and process engineers
design systems for a variety of manufacturing and industrial facilities and
processes. These services are necessary for the design of chemical processing
operations in businesses like food and beverage, pharmaceutical, chemical and
petroleum.
Business Development and Marketing
We use a client service approach to our business development and marketing
efforts employing a variety of techniques to obtain contracts with new
clients, repeat business with existing clients, and maintain a positive
reputation. Our business development and marketing activities consist of
identifying target markets, developing strategies for pursuing these targets,
and supporting marketing activities company-wide by coordinating corporate
promotional and professional activities.
Additionally, our business development and marketing efforts assist
management and clients to assure quality performance and client satisfaction.
To accomplish this effort, we provide our clients with referrals for project
partners and financing sources, assist with legislative matters, and monitor
in-house performance and many other non-technical support functions. Finally,
we identify new projects and clients in each of the markets in which we are
active. This is achieved through the use of many resources including:
geographic information systems and aerial maps, project and contact databases,
the Internet, and lead tracking publications. We pursue the companies,
agencies, projects and markets that have financial strength, long-term growth
potential and an established reputation.
Clients
We provide service to clients in the real estate development, public works,
telecommunications, and industrial, process and manufacturing industries. Our
primary private sector clients consist of real estate developers, builders,
telecommunications providers, major manufacturers and energy providers. Our
public sector clients include water and school districts, metropolitan
planning organizations, transportation authorities, and local, state and
federal agencies.
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No individual client accounted for more than 10% of our net revenue in 1999
or 1998. The Irvine Company accounted for 11% of our net revenue in 1997.
Backlog
Our backlog represents (a) an estimate of the remaining future gross
revenues from existing signed contracts and (b) contracts which have been
awarded with a defined scope of work and contract value and on which we have
begun work with verbal client approval. The backlog estimates do not include
projected revenues from those projects for which we have provided services and
anticipate additional services to be requested.
Because our professionals provide many of the preliminary services like
planning, civil engineering and surveying and mapping, we are frequently
called upon to expand our scope of services as the project progresses. In
performing the preliminary services during the initial phases, we obtain
background information and data that may be inefficient and costly for another
firm to compile. As a result, we are often chosen to perform additional
engineering and consulting services that clients require as the project
progresses.
At December 31, 1999, our gross revenue backlog was approximately $22
million. No assurance can be given that we will receive all of the gross
revenues associated with the backlog, even if evidenced by written contracts.
Competition
The market for our services is highly competitive. We compete with a
variety of firms ranging from small local firms to national firms. We perform
engineering and consulting services for a broad spectrum of markets including
residential, commercial, recreational, public works, telecommunications and
industrial, process and manufacturing. The range of competitors can vary from
one to 50 firms depending upon contract value, geographic location and client
restrictions. We believe that the principal factors in the engineering and
consulting services selection criteria include, in order of importance:
. quality of service
. relevant experience
. staffing capabilities
. reputation
. geographic presence
. stability
. price
Employees
At December 31, 1999, we had approximately 470 employees. Believing that
our success depends significantly upon attracting and retaining talented,
innovative, and experienced professionals, we are comprised of highly skilled
personnel with significant industry experience and strong client
relationships. We employ licensed civil engineers, mechanical engineers,
electrical engineers, land surveyors, landscape architects, certified
planners, information technology specialists, biologists, archaeologists and
geodesists.
Certain of our field survey employees are covered by a Master Labor
Agreement between the International Union of Operating Engineers and the
Southern California and Bay Counties Associations of Civil Engineers and Land
Surveyors. The agreement applies to civil engineering and land surveying work,
including global positioning system surveys. Our other employees are not
represented by any labor union and we have never experienced a work stoppage
from union actions. We believe that our relationship with our employees is
good.
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RISK FACTORS
This Annual Report on Form 10-K contains certain forward-looking statements
within the meaning of Section 27A of the United States Securities Act of 1933,
as amended, and Section 21E of the United States Securities Exchange Act of
1934, as amended, that are based on the reasonable expectations and beliefs of
our management, as well as assumptions made by and information currently
available to our management. Such forward-looking statements are subject to
the safe harbor provisions of the Private Securities Litigation Reform Act of
1995. When used in this filing, the words "anticipate," "believe," "estimate,"
"expect," "intend," "plan" and similar expressions as they relate to us are
intended to identify forward-looking statements. These forward-looking
statements are based on our current expectations and are affected by a number
of risks and uncertainties. In addition to the risks described elsewhere in
this "Risk Factors" discussion, important factors to consider in evaluating
such forward-looking statements include the shortage of reliable market data
regarding the engineering and consulting services industry, changes in
external competitive market factors or in our internal budgeting process that
might impact trends in our results of operations, unanticipated working
capital or other cash requirements, changes in our business strategy or an
inability to execute our strategy due to unanticipated changes in the
engineering and consulting services industry, and various other factors that
may prevent us from competing successfully in the marketplace. Additional
risks and uncertainties may also adversely impact our business operations. If
any of the following risks actually occur, our business, financial condition
or results of operations would likely suffer. The following risk factors
should be reviewed in addition to the other information contained in this
Annual Report on Form 10-K.
Our operations and financial condition may be materially adversely affected by
a downturn in the real estate market, which is highly cyclical in nature
A downturn in the real estate market, which is highly cyclical in nature,
may cause us to experience cash flow difficulties and to sustain substantial
operating losses. We estimate that during 1999, 80% of our services were
rendered in connection with commercial and residential real estate development
projects.
Our business, financial condition and results of operations may also be
adversely affected by conditions that impact the real estate market in
general, including, among other things: changes in national economic
conditions, changes in local market conditions due to changes in general or
local economic conditions and neighborhood characteristics; changes in
interest rates and in the availability, cost and terms of financing; the
impact of present or future environmental legislation and compliance with
environmental laws and other regulatory requirements; changes in growth in
employment; changes in real estate tax rates and assessments and other
operating expenses; adverse changes in governmental rules and fiscal policies;
adverse changes in zoning and other land use laws; and earthquakes and other
natural disasters, which can cause uninsured losses, and other factors which
are beyond our control.
Our business may be materially adversely affected by changes in the local
economy in southern California
Adverse economic and other conditions affecting the southern California
real estate market or local economy, may have a material adverse effect on our
business, financial condition and results of operations. We estimate that
during 1999, 69% of our net revenue was derived from services rendered in
southern California. From 1991 to 1996, our operations and financial condition
were materially adversely impacted during the real estate market downturn in
southern California, and we experienced cash flow difficulties and substantial
operating losses.
Qualified professionals are in high demand, may be difficult for us to attract
and retain, and may become competitors of ours in the future
If we are unable to recruit and retain a significant number of quality
professionals, our ability to generate revenue may decrease and our gross
revenues could decline or may not grow as rapidly as we expect. We derive
12
our revenues almost exclusively from services performed by our professionals.
Qualified professionals are in great demand and are likely to remain a limited
resource for the foreseeable future. There is significant competition for
employees with the requisite skills from major and boutique consulting,
engineering, research and other professional service firms. We may not be able
to attract and retain a substantial majority of our existing or future
professionals for the long term. The loss of the services of, or the failure
to recruit, a significant number of professionals could adversely affect our
ability to secure and complete engagements and could have an adverse effect on
our business, financial condition and results of operations. In addition,
former employees might compete with us with respect to ongoing or potential
future projects.
The loss of any of the significant clients on whom we rely could adversely
affect our operating results
We derive a significant portion of our revenue and profits from a
relatively limited number of clients. For example, net revenue from our five
most significant clients accounted for approximately 19% of our total net
revenue for the year ended December 31, 1999. There can be no assurance that
any of our most significant clients will continue to engage us for additional
projects or will do so at the same revenue levels. In addition, the level of
our services required by a significant client may diminish over the life of
its relationship with us, and we may not be successful in establishing
relationships with new clients as this occurs.
The types of contracts under which we perform services impose risks to our
business
A majority of the contracts under which we perform our services require us
to bear unforeseen risks which could materially and adversely impact our
business, financial condition and results of operations.
In fiscal 1999, approximately 44%, 41% and 15% of our net revenue was
derived from fixed-price, time-and-materials with "not to exceed" provisions
and time-and-materials contracts, respectively.
Fixed-price contracts and time-and-materials contracts with "not to exceed"
provisions protect clients but expose us to a greater number of risks than
time-and-materials contracts. These risks include underestimation of costs,
problems with new technologies, unforeseen costs or difficulties, delays
beyond our control, and economic and other changes that may occur during the
contract period.
Under fixed price contracts, we perform services under a contract at a
stipulated price. Under time-and-materials contracts, we are reimbursed for
the number of labor hours expended at an established hourly rate negotiated in
the contract, plus the cost of materials incurred. Under time-and-materials
with "not to exceed" provision contracts, we are reimbursed similar to time-
and-materials contracts; however, there is a stated maximum dollar amount for
the services to be provided under the contract.
The market price of our stock may fluctuate
The market price of our common stock has been, and is likely to be, highly
volatile and subject to wide fluctuations due to various factors, many of
which may be beyond our control. We believe that quarterly variations in
operating results, volatility in the general economy, changes in financial
estimates and recommendations by securities analysts and changes in
environmental legislation, may cause the market price of our stock to
fluctuate substantially. In addition, there have been large price and volume
fluctuations in the stock market in recent years.
A number of factors contribute to the quarterly variations which we
experience, including client engagements commenced and completed during a
quarter, seasonality, the number of business days in a quarter, the number of
work days lost as a result of adverse weather conditions or delays caused by
third parties, employee hiring, billing and utilization rates, the
consummation of acquisitions, the length of the sales cycle on new business,
the ability of clients to terminate engagements without penalty, our ability
to efficiently shift our employees from project to project, the size and scope
of assignments, and general economic conditions.
13
In addition, because a portion of our expenses are relatively fixed,
significant variations in revenues or the number of days in a quarter can
cause fluctuations in operating results from quarter to quarter and could
result in losses.
We may not be able to maintain or accelerate our current growth, effectively
manage our expanding operations or achieve planned growth on a timely or
profitable basis
We have grown rapidly and intend to pursue further growth as part of our
business strategy. Our rapid growth has presented and will continue to present
numerous operational challenges, including the management of an expanding
array of engineering and consulting services, the assimilation of financial
reporting systems, increased pressure on our senior management and increased
demand on our systems and internal controls. Our inability to manage growth
effectively and efficiently could materially and adversely affect our
business, financial condition and results of operations.
If we need to sell or issue additional shares of common stock and/or incur
additional debt to finance future acquisitions, stock ownership could be
diluted
Our business strategy is to expand into new markets and enhance our
position in existing markets through the acquisition of complementary
businesses. In order to successfully complete targeted acquisitions or to fund
our other activities, it may be necessary for us to issue additional equity
securities that could dilute stock ownership. We may also incur additional
debt and amortize expenses related to goodwill and other tangible assets if we
acquire another company, and this could negatively impact our results of
operations.
Certain shareholders have significant control over TKCI
The concentration of ownership of our stock may have the effect of delaying
or preventing a change in control of us and may adversely affect voting or
other rights of other holders of our common stock. As of December 31, 1999,
our directors and executive officers and their respective affiliates
beneficially owned 2,202,587 shares of common stock, or approximately 43.4% of
our outstanding common stock. Of these shares, 1,638,520 shares, or
approximately 32.3% of our outstanding common stock, was owned by Aram H.
Keith as of that date. Walter W. Cruttenden, III, one of our directors, owned
461,935 shares or approximately 9.1% of our outstanding common stock as of
that date.
If we issue shares of preferred stock, the rights of holders of common stock
will be subordinate to the rights of holders of preferred stock
The rights of the holders of our common stock will be subordinate to, and
may be adversely affected by, the rights of the holders of any preferred stock
that may be issued in the future. The issuance of the preferred stock could
have the effect of making it more difficult for a third party to acquire a
majority of our outstanding voting stock. Our board of directors has the
authority to issue up to 5,000,000 shares of preferred stock and to determine
the price, rights, preferences, privileges and restrictions, including voting
rights, of those shares without any vote or action by the shareholders.
The repurchase of our common stock could negatively impact our stock price and
shareholders' equity
The repurchase of our common stock could result in a decrease in the amount
of shares available in the market causing our stock price to fluctuate. In
addition, a decrease in our stock price from the amount we paid to acquire our
common stock could have a negative impact on our shareholders' equity.
14
A large number of shares of our common stock are eligible for future sale and,
if sold, these shares may create excess supply in the market causing our stock
price to decline
The possibility that a large number of shares of our common stock may be
sold could create excess supply in the market, causing a drop in the market
price of our common stock and could impair our ability to raise capital
through the sale of equity securities. As of December 31, 1999, 5,070,224
shares of our common stock and options to purchase 766,282 shares of our
common stock granted under our Amended and Restated 1994 Stock Incentive Plan
were outstanding. All of the shares of common stock underlying the options
outstanding or issuable under our Amended and Restated 1994 Stock Incentive
Plan have been registered on a registration statement on Form S-8. We may also
issue no less than 37,037 shares of our common stock to the former
shareholders of ESI and grant options to purchase up to 37,037 shares of our
common stock to the employees of ESI, including the former shareholders of
ESI, if ESI meets earnings targets and other conditions. We may also issue
more or less than 148,148 shares of common stock in April 2000 to former
employees of Thompson-Hysell who are now employees of ours. The shares of
common stock that may be issued in connection with our acquisition of
Thompson-Hysell will be restricted securities but will include the right to
have these shares registered for resale under the Securities Act of 1933. This
amount may be adjusted upward or downward depending on whether Thompson-Hysell
meets earnings goals. We have also issued warrants to acquire 150,000 shares
of TKCI common stock in connection with acquisitions.
If we are unable to successfully implement our acquisition strategy, current
expectations of our growth or operating results may not be met
If we are unable to successfully implement our acquisition strategy,
current expectations of our growth or operating results may not be met.
Our growth strategy includes the strategic acquisition of companies that
expand our service offerings and geographic presence. This acquisition
strategy involves risks that could result in our failure to achieve the
revenue and profitability growth that we currently expect. These risks include
the following:
. As the engineering industry consolidates, suitable acquisition
candidates are expected to be more difficult to locate and may only be
available at an increased price or under less favorable terms.
. We may not be able to locate suitable financing, or obtain financing
under suitable terms to consummate the acquisition.
. We may not be successful in integrating the acquired company's
professionals and culture into ours.
. We may not be successful in generating the same level of operating
performance as the acquired company experienced prior to acquisition.
. As we expand our service offerings and geographic presence, we may not
be able to maintain the current level of quality of services.
. We maintain a strong reputation in the services we currently perform and
markets we serve. If we are not able to maintain this reputation in the
acquired entities geographic area or service offerings, our reputation
may be damaged.
. The acquired company may be less profitable than us resulting in reduced
profit margins.
. The acquisition and subsequent integration of the acquired company may
require a significant amount of management's time diverting their
attention from existing operations and clients, which could result in
additional exposure to us due to the loss of key employees or clients.
Increased competition in the industries we serve may adversely affect our
business
The market for engineering and consulting services is highly competitive
and is based primarily on quality of service, relative experience, staffing
capabilities, reputation, geographic presence, stability and price. These
15
factors of competition are likely to increase in the future. Many of our
competitors have more personnel and greater financial, technical and marketing
resources than us. These competitors include many larger consulting firms like
TetraTech Inc. and URS Corporation. We can offer no assurance that we will be
able to compete successfully in the future with these or other competitors.
The loss of Mr. Keith or any of our other key professionals could adversely
affect our business, including our ability to secure and complete engagements
and attract and retain employees
We do not have an employment agreement with, or maintain key man life
insurance on Aram H. Keith. Our success is highly dependent upon the efforts,
abilities, business generation capabilities and project execution of our
officers, especially those of Mr. Keith, our Chief Executive Officer. If we
lose the services of Mr. Keith or any other key employee we may be less likely
to secure or complete contracts and to attract and retain additional
employees.
Our services may expose us to liability in excess of our current insurance
coverage
We are exposed to certain risks resulting from the services we perform that
could exceed our current insurance coverage and the fees we derive from those
services. Due to the uncertain nature of these risks, we cannot predict the
magnitude of any potential liability.
We currently maintain general liability, umbrella and professional
liability insurance. Claims may be made against us which exceed the limits of
these policies, in which case we would be liable to pay these claims from our
assets. These policies are "claims made" policies. Thus, only claims made
during the term of the policy are covered. If we terminate our policies and do
not obtain retroactive coverage, we would be uninsured for claims made after
termination even if these claims are based on events or acts that occurred
during the term of the policy. Our insurance policies typically have various
exceptions to the claims covered and also require us to assume some costs of
the claim even though a portion of the claim may be covered, resulting in
potential liability to us. Further, the expansion into new services or
geographic areas could result in our failure to obtain coverage for these
services or areas, or the coverage being offered at a higher cost than our
current coverage. A partially or completely uninsured claim, if successful and
of significant magnitude, could have a material adverse effect on our
business, financial condition and results of operations.
The quality of our service and our ability to perform under some of our
contracts would be adversely affected if qualified subcontractors are
unavailable for us to engage
In certain cases, we contract with outside companies to perform designated
portions of the services we perform for our clients. The continued
availability and quality of these subcontractors could significantly effect
our ultimate ability to maintain the quality and level of service offerings.
In 1999, subcontractor costs comprised approximately 9% of our net revenue.
16
ITEM 2. PROPERTIES
We occupy offices and facilities in various locations in California, Nevada
and Utah. Our corporate headquarters are located in Costa Mesa, California and
consist of approximately 49,000 square feet of space. Our corporate
headquarters lease, which consists of separate leases for the two floors
occupied, extends until September 2001 and October 2003, respectively. We also
maintain offices in the California cities of Walnut Creek, Moreno Valley,
Modesto and Palm Desert; one office in Las Vegas, Nevada; and one office in
Taylorsville, Utah.
We believe that our existing office space is adequate to meet our current
and foreseeable future requirements.
ITEM 3. LEGAL PROCEEDINGS
On August 13, 1999, a complaint was filed in the Stanislaus County,
California Superior Court against Thompson-Hysell, four shareholders of
Thompson-Hysell (the "Defendant Shareholders"), Thompson-Hysell Liquidation
Corporation, Thompson-Hysell Engineers, Inc. and us. This complaint was filed
by Phillip Kirk Delamare and his wife Catherine A. Delamare who are
shareholders of a corporation named Thompson-Hysell Engineers, Inc. ("T-H
Engineers"), in which the Defendant Shareholders were majority shareholders
and directors. The complaint alleges, among other things, that Thompson-Hysell
was an alter ego of T-H Engineers and as such, when we acquired substantially
all of the assets and assumed substantially all of the liabilities of
Thompson-Hysell, the plaintiffs were fraudulently deprived of any benefit
derived from their ownership interest in the shares of T-H Engineers. The
complaint further alleges that the Defendant Shareholders breached their
fiduciary duties as directors and majority shareholders of T-H Engineers and
that they conspired with Thompson-Hysell and us to defraud T-H Engineers of
its assets and to exclude plaintiffs from any benefit derived from the
acquisition. The plaintiffs in this action are seeking injunctive relief and
general monetary damages in an unspecified amount, special damages in the
amount of $600,000, interest, costs and punitive and exemplary damages. The
trial has been set for April 17, 2000 in Stanislaus County Superior Court with
a mandatory settlement conference on April 4, 2000. We believe that the claim
made against us is completely without merit and intend to vigorously defend
ourselves in this action.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the quarter
ended December 31, 1999.
17
PART II
ITEM 5. MARKET FOR OUR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock has been traded on the NASDAQ National Market under the
symbol "TKCI" since the closing of our initial public offering on July 15,
1999. The following table sets forth the high and low closing prices of our
common stock for the quarters indicated, since the closing of our initial
public offering on July 15, 1999.
High Low
---- ---
Year Ended December 31, 1999:
Fourth Quarter.......................................... $6 7/16 $3 3/4
Third Quarter........................................... $9 $5 1/4
At February 4, 2000, there were approximately 1,100 shareholders of record
of our common stock.
We have never paid any dividends with respect to our common stock. Any
future payment of dividends will be at the discretion of our board of
directors and will depend on our financial condition and capital requirements,
as well as other factors that the board of directors deems relevant. In
addition, we are required to obtain written consent from our bank prior to
declaring or paying dividends. It is currently anticipated that we will retain
future earnings, if any, to finance the operation and growth of our business.
ITEM 6. SELECTED FINANCIAL DATA
The selected financial data includes both consolidated and combined
financial statement data for the periods presented. See Note 1 of the Notes to
Consolidated Financial Statements for a description of which periods reflect
consolidated or combined financial statements. All financial statement data is
referred to as consolidated.
The Historical Statements of Income Data for the years ended December 31,
1999, 1998 and 1997, and the Historical Balance Sheet Data as of December 31,
1999 and 1998, have been derived from our historical consolidated financial
statements audited by KPMG LLP, independent auditors, which consolidated
financial statements and auditors' report are included elsewhere in this
annual report. The Historical Statements of Income Data for the years ended
December 31, 1996 and 1995, and the Historical Balance Sheet Data as of
December 31, 1997 and 1996, have been derived from our audited historical
consolidated financial statements which are not included in this annual
report. The Historical Balance Sheet Data as of December 31, 1995, has been
derived from our unaudited consolidated financial statements which are not
included in this annual report and which, in the opinion of management,
include all adjustments, consisting only of normal recurring adjustments,
necessary for a fair presentation of the results of operations and financial
position as of the dates and for the period presented.
The Pro Forma Statements of Income Data for the years ended December 31,
1998 and 1997 are unaudited and reflect pro forma adjustments for provisions
for federal and state income taxes at an assumed annual effective income tax
rate of approximately 42%. The Pro Forma Statement of Income Data for the year
ended December 31, 1999, represents historical amounts at the actual annual
effective income tax rate of 42%, and are shown for comparative purposes only.
18
The following information should be read in conjunction with our
Consolidated Financial Statements and the related notes contained in this
report and in our quarterly reports filed with the Commission and our
Management's Discussion and Analysis of Financial Condition and Results of
Operations which is included elsewhere in this annual report.
Years Ended December 31,
--------------------------------------------------------------
1999 1998 1997 1996 1995
----------- ----------- ----------- ----------- -----------
Historical Statements of
Income Data (1):
Gross revenue.......... $43,084,000 $34,021,000 $22,585,000 $14,344,000 $15,152,000
----------- ----------- ----------- ----------- -----------
Net revenue............ 39,636,000 29,182,000 18,592,000 12,966,000 14,039,000
Costs of revenue....... 26,987,000 19,287,000 11,871,000 9,229,000 10,212,000
----------- ----------- ----------- ----------- -----------
Gross profit........... 12,649,000 9,895,000 6,721,000 3,737,000 3,827,000
Selling, general and
administrative
expenses.............. 8,343,000 5,858,000 4,485,000 4,960,000 4,808,000
----------- ----------- ----------- ----------- -----------
Income (loss) from
operations............ 4,306,000 4,037,000 2,236,000 (1,223,000) (981,000)
Interest expense....... 807,000 967,000 852,000 720,000 568,000
Other expenses, net.... 16,000 66,000 83,000 5,000 68,000
----------- ----------- ----------- ----------- -----------
Income (loss) before
provision (benefit)
for income taxes and
extraordinary gain.... 3,483,000 3,004,000 1,301,000 (1,948,000) (1,617,000)
Provision (benefit) for
income taxes (1)...... 1,466,000 1,350,000 (1,397,000) 3,000 18,000
----------- ----------- ----------- ----------- -----------
Income (loss) before
extraordinary gain.... 2,017,000 1,654,000 2,698,000 (1,951,000) (1,635,000)
Extraordinary gain on
forgiveness of
liability (2)......... -- -- -- 2,686,000 --
----------- ----------- ----------- ----------- -----------
Net income (loss)...... 2,017,000 1,654,000 2,698,000 735,000 (1,635,000)
Reversal (accretion) of
redeemable securities
to redemption value,
net................... 230,000 (230,000) -- -- --
----------- ----------- ----------- ----------- -----------
Net income (loss)
available to common
shareholders.......... $ 2,247,000 $ 1,424,000 $ 2,698,000 $ 735,000 $(1,635,000)
=========== =========== =========== =========== ===========
Earnings (loss) per
share-diluted......... $ 0.50 $ 0.39 $ 0.87 $ 0.25 $ (0.55)
=========== =========== =========== =========== ===========
Weighted average shares
outstanding-diluted... 4,515,033 3,635,474 3,104,588 2,962,963 2,962,963
=========== =========== =========== =========== ===========
Pro Forma Statements of
Income Data:
Historical income
before provision for
income taxes.......... $ 3,483,000 $ 3,004,000 $ 1,301,000
Pro forma provision for
income taxes.......... 1,466,000 1,262,000 546,000
----------- ----------- -----------
Pro forma net income... 2,017,000 1,742,000 755,000
Reversal (accretion) of
redeemable securities
to redemption value,
net................... 230,000 (230,000) --
----------- ----------- -----------
Pro forma net income
available to common
shareholders.......... $ 2,247,000 $ 1,512,000 $ 755,000
=========== =========== ===========
Pro forma earnings per
share data-diluted.... $ 0.50 $ 0.42 $ 0.24
=========== =========== ===========
Weighted average number
of shares
outstanding-diluted... 4,515,033 3,635,474 3,104,588
=========== =========== ===========
As of December 31,
--------------------------------------------------------------
1999 1998 1997 1996 1995
----------- ----------- ----------- ----------- -----------
Historical Balance Sheet
Data:
Working capital
(deficit)............. $ 7,213,000 $ 5,180,000 $ 2,016,000 $(3,548,000) $(4,395,000)
Total assets........... 23,661,000 14,530,000 11,733,000 4,677,000 5,384,000
Total debt............. 4,835,000 9,667,000 8,087,000 6,597,000 5,302,000
Total shareholders'
equity (deficit)...... 12,836,000 (301,000) (1,725,000) (5,227,000) (5,962,000)
- --------
(1) Prior to August 1, 1998, Keith Engineering, which is included in our
consolidated financial statements, elected to be taxed as an S
corporation.
(2) In 1994, we accrued $2.0 million relating to excessive lease space in one
of our facilities. In 1996, amounts owed under the lease through December
31, 1995 were forgiven, resulting in an extraordinary gain on the
forgiveness of the liability and accrued but unpaid rent of $2.7 million.
19
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the
consolidated financial statements of TKCI and its subsidiaries and the related
notes and the other financial information included elsewhere in this annual
report. This discussion contains forward-looking statements that involve risks
and uncertainties. Our actual results could differ materially from those
anticipated in these forward-looking statements as a result of any number of
factors, including those set forth under "Risk Factors" and elsewhere in this
annual report. This Management's Discussion and Analysis of Financial
Condition and Results of Operations section describes the operations of TKCI
and its subsidiaries.
Overview
The following discussion should be read in conjunction with "Selected
Financial Data" and our consolidated financial statements and the related
notes, included elsewhere in this annual report, and includes the operations
of TKCI and our wholly-owned subsidiaries, including Keith Engineering. TKCI
and Keith Engineering have been under common management since the inception of
TKCI in 1986. TKCI and Keith Engineering were under common control as a result
of a contemporaneous written agreement dated July 1992 between their majority
shareholders which provided for these shareholders to vote in concert and thus
they became a common control group. Effective December 31, 1999, the agreement
between the majority shareholders of TKCI and Keith Engineering was amended to
delete the provision requiring them to vote in concert. On August 1, 1998,
TKCI was reorganized, so that Keith Engineering became a wholly-owned
subsidiary of TKCI. This reorganization was accounted for as a combination of
affiliated entities under common control in a manner similar to a pooling-of-
interests. Under this method, the assets, liabilities and equity were carried
over at their historical book values and the operations of TKCI and Keith
Engineering have been recorded on a combined historical basis. The combination
did not require any material adjustments to conform the accounting policies of
the separate entities. On November 30, 1998 Keith Engineering was merged with
and into TKCI.
In December 1997, TKCI purchased ESI and its wholly-owned subsidiary ESII,
Engineered Systems Integration, Inc., which was subsequently merged into ESI.
ESI provides consulting services related to process engineering design,
chemical engineering, electrical engineering, environmental waste processing
system design and petrochemical systems design. In August 1998, TKCI purchased
JMTA, which provides services relating to flood control and drainage
engineering, environmental permitting, and biological surveys and studies. On
July 15, 1999, TKCI acquired substantially all of the assets and assumed
substantially all of the liabilities of Thompson-Hysell. With the exception of
the services provided by ESI, Thompson-Hysell provides services similar to
ours in central and northern California and Utah. Further, on July 15, 1999,
TKCI completed an initial public offering of 1,500,000 shares of its common
stock. The offering price was $9.00 per share resulting in proceeds of
approximately $11,015,000 to TKCI, net of underwriters' discount and offering
costs. In December 1999, ESI, a wholly owned subsidiary of TKCI, was merged
with and into TKCI.
We derive most of our revenue from professional service activities. The
majority of these activities are billed under various types of contracts with
our clients, including fixed fee and time and material contracts. Most of our
time and material contracts have not-to-exceed provisions. Revenue is
recognized on the percentage of completion method of accounting based on the
proportion of actual direct contract costs incurred to total estimated direct
contract costs. We believe that costs incurred are the best available measure
of progress towards completion on the contracts. In the course of providing
services, we sometimes subcontract for various services. These costs are
included in billings to clients and, in accordance with industry practice, are
included in our gross revenue. Because subcontractor services can change
significantly from project to project, changes in gross revenue may not be
indicative of business trends. Accordingly, we also report net revenue, which
is gross revenue less subcontractor costs. Our revenue is generated from a
large number of relatively small contracts.
In 1999, an estimated 80% of our net revenue was derived from services
rendered in connection with commercial and residential real estate development
projects. The real estate market has historically experienced
20
pronounced business cycles. Our consolidated results of operations can be
adversely impacted by downturns in the real estate market. Based upon the
number of building permits issued, the last peak of the business cycle in the
southern California real estate market was in 1989 and the last trough was in
1996. We estimate that during 1999, 69% of our net revenue was derived from
all services rendered in southern California. Consequently, adverse economic
conditions affecting the southern California economy could also have an
adverse effect on our consolidated results of operations. We anticipate that
as we consummate acquisitions in the future, the concentration of revenue from
both real estate development and southern California should decline.
Costs of revenue include labor, non-reimbursable subcontract costs,
materials and various direct and indirect overhead costs including rent,
utilities and depreciation. Direct labor employees work predominantly at our
offices, or in some cases at the clients job site. The number of direct labor
employees assigned to a contract will vary according to the size, complexity,
duration and demands of the project. Contract terminations, completions and
scheduling delays may result in periods when direct labor employees are not
fully utilized. As we continue to grow, we anticipate that we will continue to
add professional and administrative staff to support our growth. These
professionals are in great demand and are likely to remain a limited resource
for the foreseeable future. The significant competition for employees with the
required skills creates wage pressures on professional compensation. We
attempt to increase our billing rates to customers to compensate for wage
increases, however, there can be a lag before wage increases can be
incorporated into our existing contracts. Some expenses, primarily long term
leases, are fixed and cannot be adjusted in reaction to an economic downturn.
Selling, general, and administrative expenses consist primarily of
corporate costs related to finance and accounting, information technology,
business development and marketing, contract proposal, executive salaries,
provisions for doubtful accounts and other indirect overhead costs.
Results of Operations
The following table sets forth historical and unaudited pro forma
supplemental consolidated operating results for each of the periods presented
as a percentage of net revenue. Pro forma amounts for 1998 and 1997 reflect
adjustments for provisions for federal and state income taxes as if we had
been taxed as a C corporation, at an assumed annual effective income tax rate
of approximately 42%. On August 1, 1998, in connection with our
reorganization, Keith Engineering converted from an S corporation to a C
corporation. The pro forma supplemental data for the year ended December 31,
1999, represents historical amounts at the actual annual effective income tax
rate of 42%, and is shown for comparative purposes only.
Years Ended
December 31,
-----------------
1999 1998 1997
---- ---- ----
Gross revenue............................................... 109% 117% 121%
Subcontractor costs......................................... 9% 17% 21%
--- --- ---
Net revenue............................................... 100% 100% 100%
Costs of revenue............................................ 68% 66% 64%
--- --- ---
Gross profit.............................................. 32% 34% 36%
Selling, general and administrative expenses................ 21% 20% 24%
--- --- ---
Income from operations.................................... 11% 14% 12%
Interest expense............................................ 2% 3% 5%
--- --- ---
Income before pro forma provision for income taxes........ 9% 11% 7%
Pro forma provision for income taxes........................ 4% 5% 3%
--- --- ---
Pro forma net income........................................ 5% 6% 4%
Reversal (accretion) of redeemable securities to redemption
value, net................................................. 1% (1%) --
--- --- ---
Pro forma net income available to common shareholders..... 6% 5% 4%
=== === ===
21
Years Ended December 31, 1999 and December 31, 1998
Revenue. Net revenue for 1999 was $39.6 million compared to $29.2 million
for 1998, an increase of $10.5 million, or 36%. Net revenue increased by $6.2
million as a result of the acquisitions of JMTA in August 1998 and Thompson-
Hysell in July 1999. Excluding the revenue from acquisitions, our 1999 net
revenue grew $4.2 million, or 15%, compared to 1998, resulting primarily from
the continued overall strengthening of the California economy. Subcontractor
costs, as a percentage of net revenue, declined to 9% for 1999 compared to 17%
for 1998, resulting largely from a decrease of $1.9 million relating to our
primary telecommunications contract which came to substantial completion in
1998.
Gross Profit. Gross profit for 1999 was $12.6 million compared to $9.9
million for 1998, an increase of $2.8 million, or 28%. Gross profit growth is
attributable to both our internal revenue increases as well as the
acquisitions of JMTA and Thompson-Hysell. As a percentage of net revenue,
gross profit decreased slightly to 32% for 1999 compared to 34% for 1998. The
decline in the gross profit percentage is attributable primarily to an
increase to the estimated direct contract costs expected to be incurred on two
large projects resulting in a reduction to the estimated percentage of
completion on these contracts and consequently a $900,000 reduction in gross
profit. Excluding this impact, gross profit as a percentage of net revenue was
34% for 1999. The gross profit percentage was further reduced by a decline in
the profitability in the industrial, process and manufacturing operations of
ESI and our increase in the employer matching contribution of our 401(K) plan
in 1999, resulting from the continued need to attract and retain quality
professionals. Costs of revenue for 1999 was $27.0 million compared to $19.3
million for 1998, an increase of $7.7 million, or 40%. Costs of revenue
increases resulted primarily from growth in our employee base from 356 in 1998
to 473 in 1999, an increase of 117, or 33%. Excluding our acquisition of
Thompson-Hysell in July 1999, the number of employees increased by 17, or 5%.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses for 1999 were $8.3 million compared to $5.9 million
for 1998, an increase of $2.5 million, or 42%. As a percentage of net revenue,
selling, general and administrative expenses increased to 21% for 1999 from
20% for 1998. The percentage increase resulted primarily from the collection
in 1998 of approximately $390,000 of accounts receivables written off in prior
years.
Interest Expense. Interest expense for 1999 was $807,000 compared to
$967,000 for 1998, a decrease of $160,000, or 17%. As a percentage of net
revenue, interest expense was 2% for 1999 compared to 3% for 1998. The
percentage decrease resulted primarily from the repayment of our previous line
of credit, notes payable and related party notes payable totaling $7.4 million
with the net proceeds from the July 15, 1999 initial public offering.
Income Taxes. The provision for income taxes for 1999 was $1.5 million
compared to $1.4 million in 1998, an increase of $116,000, or 9%. This
increase in tax expense was due primarily to a higher taxable income base
partially offset by a higher effective tax rate in 1998 as a result of the
conversion of Keith Engineering from an S corporation to a C corporation in
August 1998. Our effective income tax rate was approximately 42% for 1999
compared to 45% for 1998. The 1998 effective income tax rate would have been
approximately 42% had Keith Engineering been a C corporation at the beginning
of 1998.
Years Ended December 31, 1998 and December 31, 1997
Revenue. Net revenue for 1998 was $29.2 million compared to $18.6 million
for 1997, an increase of $10.6 million, or 57%. Net revenue increased by $3.9
million and $700,000 as a result of the acquisitions of ESI in December 1997
and JMTA in August 1998, respectively. The remaining net revenue increase of
$7.0 million resulted primarily from the overall strengthening of the
California and Nevada economies. These net revenue increases were partially
offset by a $1.0 million decline in our wireless telecommunications business.
Excluding the revenue from the acquisitions of ESI and JMTA, our 1998 net
revenue grew $6.0 million, or 32%, compared to 1997. Subcontractor costs, as a
percentage of net revenue, declined to 17% for 1998 compared to 21% for 1997,
resulting largely from a decrease of $465,000 relating to our primary wireless
telecommunications contract which came to substantial completion in 1998.
22
Gross Profit. Gross profit for 1998 was $9.9 million compared to $6.7
million for 1997, an increase of $3.2 million, or 47%. Gross profit growth is
attributable to both our internal revenue increases as well as the
acquisitions of ESI and JMTA. As a percentage of net revenue, gross profit
decreased slightly to 34% for 1998 compared to 36% for 1997. The decline in
the gross profit percentage is attributable primarily to lower profit margins
in the industrial, process and manufacturing operations of ESI, which was
acquired in December 1997. Excluding the impact of the ESI acquisition, the
gross profit percentage was 36% for 1998 and 1997. Costs of revenue for 1998
was $19.3 million compared to $11.9 million in 1997, an increase of $7.4
million, or 63%. Costs of revenue increases resulted primarily from growth in
our employee base from 260 in 1997 to 356 in 1998, an increase of 96, or 37%.
Excluding the JMTA acquisition in 1998, the number of employees increased by
78, or 30%.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses for 1998 were $5.9 million compared to $4.5 million
for 1997, an increase of $1.4 million, or 31%. As a percentage of net revenue,
selling, general and administrative expenses decreased to 20% for 1998 from
24% for 1997. The percentage decrease resulted primarily from the collection
of approximately $390,000 of accounts receivable written off in prior years
and holding the growth in our corporate labor costs below our internal revenue
increases.
Interest Expense. Interest expense for 1998 was $967,000 compared to
$852,000 for 1997, an increase of $115,000, or 14%. As a percentage of net
revenue, interest expense was 3% for 1998 compared to 5% for 1997. The
percentage decrease resulted primarily from our increased revenue base and the
refinancing of our line of credit at a lower interest rate in February 1998.
Income Taxes. The provision for income taxes for 1998 was $1.4 million
compared to a tax benefit of $1.4 million in 1997. This increase in tax
expense was due primarily to higher pre-tax income in 1998, the conversion of
Keith Engineering from an S corporation to a C corporation in August 1998 and
recording a significant reduction in our federal valuation allowance in 1997,
attributable to our belief that it was more likely than not that we would be
able to realize the benefit of our net operating loss carryforwards. Our
effective income tax rate was approximately 45% for 1998 and would have been
approximately 42% had Keith Engineering been a C corporation at the beginning
of 1998.
23
Quarterly Results
The following table sets forth unaudited historical and supplemental pro
forma selected quarterly consolidated financial data. Pro forma amounts
reflect adjustments for provisions for federal and state income taxes as if we
had been taxed as a C corporation, at an assumed annual effective income tax
rate of approximately 42%, for all periods presented. On August 1, 1998, Keith
Engineering was converted from an S corporation to a C corporation. This
information has been derived from unaudited consolidated financial statements,
which, in the opinion of management, include all adjustments necessary for a
fair presentation of the information. Consolidated results of operations for
any one or more quarters are not necessarily indicative of results for an
entire year or the results to be expected for any future period.
Quarterly Results
-------------------------------------------------------------------------------
Three Months Ended
-------------------------------------------------------------------------------
Dec. 31, Sept. 30, June 30, Mar. 31, Dec. 31, Sept. 30, June 30, Mar. 31,
1999 1999 1999 1999 1998 1998 1998 1998
-------- --------- -------- -------- -------- --------- -------- --------
(in thousands)
Consolidated Statements
of Income Data:
Gross revenue........... $12,217 $11,397 $9,471 $9,999 $9,309 $9,192 $8,399 $7,121
------- ------- ------ ------ ------ ------ ------ ------
Net revenue............ 11,366 10,658 8,643 8,969 8,269 7,900 7,051 5,962
Costs of revenue........ 7,937 7,350 5,786 5,914 5,517 5,077 4,613 4,080
------- ------- ------ ------ ------ ------ ------ ------
Gross profit........... 3,429 3,308 2,857 3,055 2,752 2,823 2,438 1,882
Selling, general and
administrative
expense................ 2,439 2,211 1,797 1,896 1,631 1,626 1,131 1,470
------- ------- ------ ------ ------ ------ ------ ------
Income from
operations............ 990 1,097 1,060 1,159 1,121 1,197 1,307 412
Interest expense........ 130 149 268 260 253 249 244 221
Other expense (income),
net.................... (87) 132 (10) (19) 59 18 (18) 7
------- ------- ------ ------ ------ ------ ------ ------
Income before pro forma
provision for income
taxes................. 947 816 802 918 809 930 1,081 184
Pro forma provision for
incomes taxes.......... 394 346 340 386 340 391 454 77
------- ------- ------ ------ ------ ------ ------ ------
Pro forma net income... 553 470 462 532 469 539 627 107
Reversal (accretion) of
redeemable securities
to redemption value,
net.................... -- 344 (57) (57) (59) (57) (57) (57)
------- ------- ------ ------ ------ ------ ------ ------
Pro forma net income
available to common
shareholders.......... $ 553 $ 814 $ 405 $ 475 $ 410 $ 482 $ 570 $ 50
======= ======= ====== ====== ====== ====== ====== ======
As a Percentage of Net Revenues
-------------------------------------------------------------------------------
Three Months Ended
-------------------------------------------------------------------------------
Dec. 31, Sept. 30, June 30, Mar. 31, Dec. 31, Sept. 30, June 30, Mar. 31,
1999 1999 1999 1999 1998 1998 1998 1998
-------- --------- -------- -------- -------- --------- -------- --------
Consolidated Statements
of Income Data:
Gross revenue........... 107% 107% 110% 111% 113% 116% 119% 119%
------- ------- ------ ------ ------ ------ ------ ------
Net revenue............ 100% 100% 100% 100% 100% 100% 100% 100%
Costs of revenue........ 70% 69% 67% 66% 67% 64% 65% 68%
------- ------- ------ ------ ------ ------ ------ ------
Gross profit........... 30% 31% 33% 34% 33% 36% 35% 32%
Selling, general and
administrative expense 21% 21% 21% 21% 19% 21% 16% 25%
------- ------- ------ ------ ------ ------ ------ ------
Income from
operations............ 9% 10% 12% 13% 14% 15% 19% 7%
Interest expense........ 1% 1% 3% 3% 3% 3% 3% 4%
Other expenses (income),
net.................... -- 1% -- -- 1% -- -- --
------- ------- ------ ------ ------ ------ ------ ------
Income before pro forma
provision for income
taxes................. 8% 8% 9% 10% 10% 12% 16% 3%
Pro forma provision for
income taxes........... 3% 3% 4% 4% 4% 5% 7% 1%
------- ------- ------ ------ ------ ------ ------ ------
Pro forma net income... 5% 5% 5% 6% 6% 7% 9% 2%
Reversal (accretion) of
redeemable securities
to redemption value,
net.................... -- 3% (1%) (1%) (1%) (1%) (1%) (1%)
------- ------- ------ ------ ------ ------ ------ ------
Pro forma net income
available to
common shareholders... 5% 8% 4% 5% 5% 6% 8% 1%
======= ======= ====== ====== ====== ====== ====== ======
24
Our quarterly revenue and operating results fluctuate primarily as a result
of:
. client engagements commenced and completed during a quarter
. seasonality
. the number of business days in a quarter
. the number of work days lost as a result of adverse weather conditions
or delays caused by third parties
. employee hiring, billing and utilization rates
. the consummation of acquisitions
. the length of the sales cycle on new business
. the ability of clients to terminate engagements without penalty
. our ability to efficiently shift our employees from project to project
. the size and scope of assignments
. general economic conditions
Selling, general and administrative expense was affected by the collection
of an account receivable in the amount of $390,000, in the quarter ended June
30, 1998 that was previously written off.
Liquidity and Capital Resources
We have financed our working capital needs and capital expenditure
requirements through a combination of internally generated funds, bank
borrowings, leases and the sale of our common stock.
Working capital for 1999 was $7.2 million compared to $5.2 million in 1998,
an increase of $2.0 million, or 39%, resulting primarily from growth in cash
and cash equivalents, accounts receivable and costs and estimated earnings in
excess of billings, due to the acquisition of Thompson-Hysell and higher
revenue levels. Net cash provided by operating activities increased $2.8
million or 406%, to $3.5 million in 1999 compared to $686,000 in 1998,
resulting primarily from our growth in income from operations and increased
collection of contract and trade receivables. The growth in net cash provided
by operating activities was used primarily to fund capital expenditures of
$1.2 million in 1999 compared to $835,000 in 1998 and to partially finance the
acquisition of Thompson-Hysell. Capital expenditures consisted primarily of
computer equipment, upgrades to our information systems, and equipment and
vehicles used in our survey services.
In September 1999, we entered into a new line of credit agreement with a
bank, which allows us to borrow up to an aggregate of $8.5 million. The line
of credit consists of a working capital component with a maximum outstanding
principal balance of $6.0 million, maturing on September 3, 2001, and an
equipment component with a maximum outstanding principal balance of $3.5
million, maturing September 3, 2000, which may roll into a 60 month term note.
The working capital component bears interest at either the prime rate or at
approximately one and three-quarters percent above LIBOR and the equipment
component bears interest at either the prime rate or at approximately two
percent above LIBOR. At December 31, 1999, the outstanding borrowings under
the line of credit was $1.3 million bearing interest at 8.0%. The borrowings
on the new line of credit agreement were used primarily to purchase 97,600
treasury shares at a cost of $547,000 and for other working capital needs.
Net proceeds of $11,015,000 from our initial public offering were used
primarily to repay related party notes payable and accrued interest, to repay
notes payable, to repay the previous bank line of credit and to acquire
substantially all of the assets of and assume substantially all of the
liabilities of Thompson-Hysell.
We believe existing cash balances, internally generated funds, and
availability under our credit facility will be sufficient to fund our
anticipated internal operating needs for the next twelve months.
25
Inflation
Although our operations can be influenced by general economic trends, we do
not believe that inflation had a significant impact on our results of
operations for the periods presented. Due to the short-term nature of most of
our contracts, if costs of revenue increase, we attempt to pass these
increases to our clients.
Impact of the Year 2000 Issue
To date, we have not experienced any significant disruptions to our
financial or operating activities caused by failure of our computerized
systems resulting from Year 2000 issues. We do not expect Year 2000 issues to
have a material adverse effect on our operations or financial results in 2000.
In addition, we have no information that indicates a significant vendor or
service provider may be unable to sell goods or provide services to us or that
any significant customer may be unable to purchase from us because of Year
2000 issues. Further, we have not received any notifications from lenders or
regulatory agencies to which we are subject indicating that (1) a lender
considers or may consider us to be in violation of a loan agreement or (2)
significant regulatory action is being or may be taken against us as a result
of Year 2000 issues.
26
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to interest rate changes primarily as a result of our line
of credit and long-term debt, which are used to maintain liquidity and to fund
capital expenditures and our expansion. To help limit the impact of interest
rate changes on earnings and cash flows, we have borrowed at fixed rates where
possible. Our bank line of credit is based on variable interest rates and is
therefore affected by changes in market rates. We do not enter into derivative
or interest rate transactions.
The table below presents the principal amounts, weighted average interest
rates, fair values and other items required by year of expected maturity to
evaluate the expected cash flows and sensitivity to interest rate changes.
Dollars are expressed in thousands.
Fair
2000 2001 2002 2003 2004 Total Value(1)
---- ------ ---- ---- ---- ------ -------
Fixed rate debt(2)............ $195 $1,473 $110 $ 70 $ 15 $1,863 $1,863
Average interest rate......... 8.28% 9.84% 8.26% 8.26% 8.50% 9.51% 9.51%
Variable rate debt............ -- $1,300 -- -- -- $1,300 $1,300
Average interest rate......... -- 8.00% -- -- -- 8.00% 8.00%
- --------
(1) The fair value of fixed rate debt and variable rate debt was determined
based on current rates offered for debt instruments with similar risks and
maturities.
(2) Fixed rate debt excludes notes payable with an aggregate principal amount
of $290,000 as there is no established market for these notes.
As the table incorporates only those exposures that existed as of December
31, 1999, it does not consider those exposures or positions which could arise
after that date. Moreover, because firm commitments are not presented in the
table above, the information presented in the table has limited predictive
value. As a result, our ultimate realized gain or loss with respect to
interest rate fluctuations will depend on those exposures or positions that
arise during the period and interest rates.
27
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Page
----
Independent Auditors' Report............................................. 29
Consolidated Balance Sheets as of December 31, 1999 and 1998............. 30
Consolidated Statements of Income for the years ended December 31, 1999,
1998 and 1997........................................................... 31
Consolidated Statements of Shareholders' Equity (Deficit) for the years
ended December 31, 1999, 1998 and 1997.................................. 32
Consolidated Statements of Cash Flows for the years ended December 31,
1999, 1998 and 1997..................................................... 33
Notes to Consolidated Financial Statements............................... 34
28
Independent Auditors' Report
The Board of Directors and Shareholders
The Keith Companies, Inc.:
We have audited the accompanying consolidated balance sheets of The Keith
Companies, Inc. and subsidiaries (note 1) as of December 31, 1999 and 1998,
and the related consolidated statements of income, shareholders' equity
(deficit), and cash flows for each of the years in the three-year period ended
December 31, 1999. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated 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 The Keith
Companies, Inc. and subsidiaries as of December 31, 1999 and 1998, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 1999, in conformity with generally
accepted accounting principles.
KPMG LLP
Orange County, California
February 4, 2000
29
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Consolidated Balance Sheets (Note 1)
December 31,
-----------------------
1999 1998
----------- -----------
Assets
Current assets:
Cash and cash equivalents............................ $ 1,569,000 $ 457,000
Contracts and trade receivables, net of allowance for
doubtful accounts of $612,000 and $364,000 at
December 31, 1999 and 1998, respectively............ 7,176,000 5,582,000
Other receivables.................................... 86,000 282,000
Costs and estimated earnings in excess of billings... 5,037,000 3,783,000
Prepaid expenses and other currents assets........... 415,000 252,000
Deferred offering costs.............................. -- 291,000
Deferred tax assets.................................. -- 270,000
----------- -----------
Total current assets.............................. 14,283,000 10,917,000
Equipment and leasehold improvements, net............. 4,536,000 2,862,000
Goodwill, net of accumulated amortization of $109,000
and $10,000 at December 31, 1999 and 1998,
respectively......................................... 4,678,000 621,000
Other assets.......................................... 164,000 130,000
----------- -----------
Total assets...................................... $23,661,000 $14,530,000
=========== ===========
Liabilities and Shareholders' Equity (Deficit)
Current liabilities:
Current portion of long-term debt and capital lease
obligations......................................... $ 1,292,000 $ 1,488,000
Trade accounts payable............................... 1,048,000 1,221,000
Accrued employee compensation........................ 2,342,000 1,720,000
Accrued liabilities to related parties............... -- 185,000
Current portion of deferred tax liabilities.......... 1,102,000 --
Other accrued liabilities............................ 734,000 688,000
Billings in excess of costs and estimated earnings... 552,000 435,000
----------- -----------
Total current liabilities......................... 7,070,000 5,737,000
Long-term debt and capital lease obligations, less
current portion...................................... 3,543,000 5,778,000
Notes payable to related parties...................... -- 2,401,000
Deferred tax liabilities.............................. 64,000 348,000
Accrued rent.......................................... 148,000 137,000
Redeemable securities................................. -- 430,000
----------- -----------
Shareholders' equity (deficit) (Note 1):
Preferred stock, $0.001 par value. Authorized
5,000,000 shares; no shares issued or outstanding... -- --
Common stock, $0.001 par value. Authorized
100,000,000 shares in 1999 and 1998; issued and
outstanding 5,070,224 shares in 1999, including
shares held in treasury, and 3,485,634 shares in
1998................................................ 5,000 3,000
Additional paid in capital........................... 12,317,000 652,000
Retained earnings (accumulated deficit).............. 1,061,000 (956,000)
----------- -----------
13,383,000 (301,000)
Less treasury stock, at cost of 97,600 shares........ 547,000 --
----------- -----------
Total shareholders' equity (deficit)................ 12,836,000 (301,000)
----------- -----------
Commitments and contingencies (Notes 4, 6, 8, 9, 11,
12 and 14)
Total liabilities and shareholders' equity
(deficit).......................................... $23,661,000 $14,530,000
=========== ===========
See accompanying notes to consolidated financial statements.
30
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Consolidated Statements of Income (Note 1)
Years ended December 31,
------------------------------------
1999 1998 1997
----------- ----------- -----------
Gross revenue........................... $43,084,000 $34,021,000 $22,585,000
Subcontractor costs..................... 3,448,000 4,839,000 3,993,000
----------- ----------- -----------
Net revenue........................... 39,636,000 29,182,000 18,592,000
Costs of revenue........................ 26,987,000 19,287,000 11,871,000
----------- ----------- -----------
Gross profit.......................... 12,649,000 9,895,000 6,721,000
Selling, general and administrative
expenses............................... 8,343,000 5,858,000 4,485,000
----------- ----------- -----------
Income from operations................ 4,306,000 4,037,000 2,236,000
Interest expense........................ 807,000 967,000 852,000
Other expenses, net..................... 16,000 66,000 83,000
----------- ----------- -----------
Income before provision (benefit) for
income taxes......................... 3,483,000 3,004,000 1,301,000
Provision (benefit) for income taxes.... 1,466,000 1,350,000 (1,397,000)
----------- ----------- -----------
Net income............................ 2,017,000 1,654,000 2,698,000
Reversal (accretion) of redeemable
securities to redemption value, net.... 230,000 (230,000) --
----------- ----------- -----------
Net income available to common
shareholders......................... $ 2,247,000 $ 1,424,000 $ 2,698,000
=========== =========== ===========
Earnings per share data:
Basic................................. $ 0.53 $ 0.41 $ 0.87
=========== =========== ===========
Diluted............................... $ 0.50 $ 0.39 $ 0.87
=========== =========== ===========
Weighted average number of shares
outstanding:
Basic................................. 4,211,318 3,485,634 3,104,588
=========== =========== ===========
Diluted............................... 4,515,033 3,635,474 3,104,588
=========== =========== ===========
Pro Forma Supplemental Data (unaudited):
Historical income before provision for
income taxes........................... $ 3,483,000 $ 3,004,000 $ 1,301,000
Pro forma provision for income taxes.... 1,466,000 1,262,000 546,000
----------- ----------- -----------
Pro forma net income.................. 2,017,000 1,742,000 755,000
Reversal (accretion) of redeemable
securities to redemption value, net.... 230,000 (230,000) --
----------- ----------- -----------
Pro forma net income available to
common shareholders.................. $ 2,247,000 $ 1,512,000 $ 755,000
=========== =========== ===========
Pro forma earnings per share data:
Basic................................. $ 0.53 $ 0.43 $ 0.24
=========== =========== ===========
Diluted............................... $ 0.50 $ 0.42 $ 0.24
=========== =========== ===========
Weighted average number of shares
outstanding:
Basic................................. 4,211,318 3,485,634 3,104,588
=========== =========== ===========
Diluted............................... 4,515,033 3,635,474 3,104,588
=========== =========== ===========
See accompanying notes to consolidated financial statements.
31
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Consolidated Statements of Shareholders' Equity (Deficit) (Note 1)
Retained
Additional Earnings
Shares Common Paid-In (Accumulated Treasury
Outstanding Stock Capital Deficit) Stock Total
----------- ------ ----------- ------------ --------- -----------
Balance at December 31,
1996................... 2,962,963 $3,000 $ 77,000 $(5,308,000) $ -- $(5,228,000)
Issuance of common
stock.................. 522,671 -- 805,000 -- -- 805,000
Net income.............. -- -- -- 2,698,000 -- 2,698,000
--------- ------ ----------- ----------- --------- -----------
Balance at December 31,
1997................... 3,485,634 3,000 882,000 (2,610,000) -- (1,725,000)
Net income.............. -- -- -- 1,654,000 -- 1,654,000
Accretion of redeemable
securities............. -- -- (230,000) -- -- (230,000)
--------- ------ ----------- ----------- --------- -----------
Balance at December 31,
1998................... 3,485,634 3,000 652,000 (956,000) -- (301,000)
Issuance of common
stock.................. 1,584,590 2,000 11,435,000 -- -- 11,437,000
Net income.............. -- -- -- 2,017,000 -- 2,017,000
Treasury stock
purchased.............. -- -- -- -- (547,000) (547,000)
Reversal of accretion on
redeemable securities
to redemption value,
net.................... -- -- 230,000 -- -- 230,000
--------- ------ ----------- ----------- --------- -----------
Balance at December 31,
1999................... 5,070,224 $5,000 $12,317,000 $ 1,061,000 $(547,000) $12,836,000
========= ====== =========== =========== ========= ===========
See accompanying notes to consolidated financial statements.
32
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows (Note 1)
Years ended December 31,
----------------------------------
1999 1998 1997
---------- ---------- ----------
Cash flows from operating activities:
Net income................................. $2,017,000 $1,654,000 $2,698,000
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization............. 1,037,000 595,000 371,000
Loss (gain) on sale of equipment.......... 6,000 (29,000) --
Stock compensation expense................ -- -- 206,000
Changes in operating assets and
liabilities, net of effects from
acquisitions:
Contracts and trade receivables, net..... 659,000 (1,597,000) 516,000
Other receivables........................ 197,000 (134,000) 53,000
Costs and estimated earnings in excess of
billings................................ (1,254,000) (423,000) (3,158,000)
Prepaid expenses and other current
assets.................................. (337,000) 250,000 (41,000)
Deferred tax assets...................... 270,000 1,224,000 (1,494,000)
Other assets............................. (29,000) 32,000 5,000
Trade accounts payable and accrued
liabilities............................. 308,000 (1,116,000) 1,590,000
Accrued liabilities to related parties... (185,000) 69,000 (47,000)
Billings in excess of costs and estimated
earnings................................ (33,000) (187,000) (323,000)
Deferred tax liabilities................. 818,000 348,000 --
---------- ---------- ----------
Net cash provided by operating
activities............................. 3,474,000 686,000 376,000
---------- ---------- ----------
Cash flows from investing activities:
Net cash (expended for) acquired in
connection with acquisitions (4,636,000) (77,000) 12,000
Additions to equipment and improvements... (1,225,000) (835,000) (276,000)
Proceeds from sales of equipment.......... 12,000 126,000 --
---------- ---------- ----------
Net cash used in investing activities.. (5,849,000) (786,000) (264,000)
---------- ---------- ----------
Cash flows from financing activities:
Proceeds (payments) from line of credit,
net...................................... (3,730,000) 1,534,000 (393,000)
Principal payments on long-term debt and
capital lease obligations, including
current portion.......................... (1,171,000) (1,598,000) (598,000)
Proceeds from issuance of debt............ -- -- 100,000
Borrowings on notes payable to related
parties.................................. -- 300,000 919,000
Payments on notes payable to related
parties.................................. (2,401,000) (144,000) --
Purchase of common stock for treasury..... (547,000) -- --
Payment of deferred offering costs........ (1,114,000) (122,000) (169,000)
Proceeds from issuance of common stock,
net...................................... 12,450,000 -- 598,000
---------- ---------- ----------
Net cash provided by (used in) financing
activities............................... 3,487,000 (30,000) 457,000
---------- ---------- ----------
Net increase (decrease) in cash and cash
equivalents.............................. 1,112,000 (130,000) 569,000
Cash and cash equivalents, beginning of
year..................................... 457,000 587,000 18,000
---------- ---------- ----------
Cash and cash equivalents, end of year.... $1,569,000 $ 457,000 $ 587,000
========== ========== ==========
See supplemental cash flow information at Note 17.
See accompanying notes to consolidated financial statements.
33
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Years ended December 31, 1999, 1998 and 1997
(1) Organization and Basis of Presentation
The Keith Companies, Inc. (formerly The Keith Companies--Inland Empire,
Inc.) ("TKCI") was incorporated in the state of California in November 1986.
Keith Engineering, Inc. ("KEI") was incorporated in the state of California in
March 1983. In December 1997, TKCI acquired Engineering Services Incorporated,
and its wholly-owned subsidiary Engineered Systems Integrated, Inc. (which was
merged with Engineering Services Incorporated on August 1, 1998)
(collectively, "ESI"). In December 1999, ESI, a wholly owned subsidiary of
TKCI, was merged with and into TKCI. In August 1998, TKCI acquired John M.
Tettemer and Associates, Inc. ("JMTA"). In July 1999, TKCI acquired
substantially all of the assets and assumed substantially all of the
liabilities of Thompson-Hysell, Inc. ("Thompson-Hysell").
TKCI and KEI have been under common management since inception. TKCI and
KEI were under common control as a result of a contemporaneous written
agreement dated July 1992 between their majority shareholders. This agreement
provided for the shareholders to vote in concert and thus the majority
shareholders became a common control group. On August 1, 1998, TKCI acquired
all of the outstanding common stock of KEI (the "Reorganization") by a
contribution to capital of TKCI by KEI's shareholders of all of the
outstanding stock of KEI in exchange for the issuance by TKCI of an equal
number of shares of its stock. On November 30, 1998, KEI, a wholly owned
subsidiary of TKCI, was merged with and into TKCI, and its outstanding shares,
all of which were then owned by TKCI, were cancelled as a result of the
merger. The Reorganization was accounted for as a combination of affiliated
entities under common control in a manner similar to a pooling-of-interests.
Under this method, the assets, liabilities and equity of TKCI and KEI were
carried over at their historical book values and their operations prior to the
Reorganization have been recorded on a combined historical basis. The
combination did not require any material adjustments to conform the accounting
policies of the separate entities. As a result of the Reorganization, the
accompanying financial statements include the consolidated assets,
liabilities, equity and results of operations of TKCI, KEI, ESI and JMTA
effective August 1, 1998 (see Note 2).
TKCI and its wholly-owned subsidiaries (the "Company") is a leading
provider of engineering and consulting services. The Company primarily serves
clients in the real estate development, public works, telecommunications and
industrial engineering industries, pursuant to short and long-term
construction type contracts principally in California, Nevada and Utah. The
Company specializes in the planning, engineering, permitting and other
services essential to create and build infrastructure for a wide range of real
estate development and public works projects and provides site acquisition and
construction management services for the telecommunications industry. In
addition, the Company provides a complete array of industrial engineering
services required to design and test automated processes, manufacturing
production lines and fire protection systems.
Services offered by the Company include civil engineering, surveying and
mapping, planning, environmental, archaeological, construction management,
site acquisition, water resource engineering, instrumentation and control
systems engineering, fire protection engineering, electrical engineering,
mechanical engineering and chemical process engineering. The Company's clients
include real estate developers, residential and commercial builders,
architects, cities, counties, water districts, local and federal agencies,
land owners, retailers, telecommunication providers and major manufacturers.
34
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(2) Summary of Significant Accounting Policies
Principles of Consolidation
The accompanying consolidated financial statements include the accounts of
TKCI, KEI, ESI and JMTA (see Note 1). All material intercompany transactions
and balances have been eliminated in consolidation.
Cash and Cash Equivalents
Cash equivalents are comprised of highly liquid debt instruments with
maturities of three months or less when purchased.
The Company invests its excess cash in a money market mutual fund, which
consists of a portfolio of short-term money market instruments. All of the
Company's excess cash is with one financial institution and, therefore, may be
subject to certain concentration of credit risks.
Revenue and Cost Recognition on Engineering Contracts
The Company enters into fixed fee contracts and contracts that provide for
fees on a time-and-materials basis, most of which have not to exceed
provisions. Contracts typically vary in length between six months and three
years. However, many contracts are for small increments of work, which can be
completed in less than six months. Revenue is recognized on the percentage of
completion method of accounting based on the proportion of actual contract
costs incurred to total estimated contract costs. Management considers costs
incurred to be the best available measure of progress on the contracts.
In the course of providing its services, the Company sometimes subcontracts
for various services like landscape architecture, architecture, geotechnical
engineering, structural engineering, traffic engineering, and aerial
photography. These costs are included in the billings to the clients and, in
accordance with industry practice, are included in the Company's gross
revenue. Because subcontractor services can change significantly from project
to project, changes in gross revenue may not be indicative of business trends.
Accordingly, the Company also reports net revenue, which is gross revenue less
subcontractor costs.
Costs of revenue include labor, nonreimbursable subcontract costs,
materials and some direct and indirect overhead costs like rent, utilities and
depreciation. General and administrative costs are charged to expense as
incurred. Provisions for estimated losses on uncompleted contracts are made in
the period in which the losses are determined. Changes in job performance, job
conditions and estimated profitability, including final contract settlements,
may result in revisions to costs and income and are recognized in the period
in which the revisions are determined. Additional revenue resulting from
requests for additional work due to changes in the scope of engineering
services to be rendered, are included in revenue when realization is probable
and can be estimated with reasonable certainty.
Costs and estimated earnings in excess of billings represents revenue
recognized in excess of amounts billed on the respective uncompleted
engineering contracts. Billings in excess of costs and estimated earnings
represents amounts billed in excess of revenue recognized on the respective
uncompleted contracts.
At December 31, 1999 and 1998, the Company had no significant amounts
included in contracts and trade receivables or trade accounts payable
representing amounts retained pending contract or subcontract completion.
35
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(2) Summary of Significant Accounting Policies (continued)
Equipment and Leasehold Improvements
Equipment and leasehold improvements are stated at cost or, in the case of
leased assets, the lesser of the present value of future minimum lease
payments or fair value. Depreciation is provided on a straight-line basis over
the estimated useful lives of the assets, or, in the case of capital leased
assets, over the lease term if shorter, as follows:
Equipment.................................................. 5 to 10 years
Leasehold improvements..................................... 1 to 10 years
When assets are sold or otherwise retired, the related cost and accumulated
depreciation are removed from the accounts and the resulting gain or loss is
included in other expenses, net in the accompanying consolidated statements of
income.
Income Taxes and Pro Forma Supplemental Data
Prior to August 1, 1998, KEI, with the consent of its shareholders, elected
to be taxed as an S corporation under the Internal Revenue Code of 1986, as
amended. As an S corporation, corporate income or loss flowed through to the
shareholders who were responsible for including the income, deductions, losses
and credits in their individual income tax returns. Accordingly, prior to
August 1, 1998, no provision for federal or state income taxes for KEI was
included in the accompanying consolidated financial statements, except for
California income taxes at the greater of $800 or the S corporation rate of
1.5% of taxable income. As a result of the Reorganization, KEI no longer
qualified to be taxed as an S corporation and effective August 1, 1998, its
operations were included in the consolidated C corporation tax return of the
Company.
TKCI, ESI and JMTA are C corporations and account for income taxes, under
the asset and liability method, in accordance with Statement of Financial
Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes," which
requires recognition of deferred tax assets and liabilities for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carry forwards. Deferred tax assets
and liabilities are measured using enacted tax rates expected to apply to
taxable income in the years in which those temporary differences are expected
to be recovered or settled. The effect on deferred tax assets and liabilities
of a change in tax rates is recognized in income in the period that includes
the enactment date.
Historical pro forma supplemental data for the years ended December 31,
1998 and 1997 is unaudited and reflects pro forma adjustments for provisions
for federal and state income taxes at an assumed annual effective tax rate of
approximately 42%. The pro forma supplemental data for the year ended December
31, 1999, represents historical amounts at the actual annual effective income
tax rate of 42%, and are shown for comparative purposes only.
Goodwill
Goodwill, which represents the excess of purchase price over fair value of
net assets acquired, is amortized on a straight-line basis over the expected
periods to be benefited, generally 25 years. The Company assesses the
recoverability of goodwill by determining whether the amortization of the
goodwill balance over its remaining life can be recovered through undiscounted
future operating cash flows of the acquired operation. The amount of goodwill
impairment, if any, is measured based on projected discounted future operating
cash flows using a discount rate reflecting the Company's average cost of
funds. The assessment of the recoverability of goodwill will be impacted if
estimated future operating cash flows are not achieved.
36
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(2) Summary of Significant Accounting Policies (continued)
Amortization expense related to goodwill totaled $99,000 and $10,000 for
the years ended December 31, 1999 and 1998, respectively.
Stock Options
The Company accounts for its stock options in accordance with the
provisions of Accounting Principles Board ("APB") Opinion No. 25, "Accounting
for Stock Issued to Employees," and related interpretations. Compensation
expense is recorded on the date of grant only if the current market price of
the underlying stock exceeds the exercise price. SFAS No. 123, "Accounting for
Stock Based Compensation," permits entities to recognize the fair value of all
stock-based awards on the date of grant as expense over the vesting period.
Alternatively, SFAS No. 123 allows entities to continue to apply the
provisions of APB Opinion No. 25 and provide pro forma net income disclosures
for employee stock option grants made in 1995 and future years as if the fair-
value-based method defined in SFAS No. 123 had been applied. The Company has
elected to continue to apply the provisions of APB Opinion No. 25 and provide
the pro forma disclosure provisions of SFAS No. 123.
Deferred Offering Costs
In anticipation of its initial public offering, the Company deferred the
related costs incurred and included them in the accompanying consolidated
balance sheet as of December 31, 1998 as deferred offering costs. The Company
completed its initial public offering on July 15, 1999, at which time these
costs were charged against the offering proceeds.
Stock Split
On April 23, 1999, the board of directors authorized a 2.70-for-1 reverse
split of TKCI's common stock, effective April 26, 1999. All share amounts in
the accompanying consolidated financial statements (except for shares of
authorized common stock) have been restated to give effect to the stock split.
Par Value
On June 22, 1999, TKCI established a par value for its common and preferred
stock of $0.001 per share. Prior to this date, the Company's common and
preferred stock had no par value. All amounts in the accompanying consolidated
financial statements have been restated to give effect to the $0.001 per share
par value.
Earnings Per Share
Basic earnings per share ("EPS") is computed by dividing earnings available
to common shareholders during the period by the weighted average number of
common shares outstanding during each period. Diluted EPS is computed by
dividing earnings available to common shareholders during the period by the
weighted average number of shares that would have been outstanding assuming
the issuance of common shares for all dilutive potential common shares
outstanding during the reporting period, net of shares assumed to be
repurchased using the treasury stock method.
37
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(2) Summary of Significant Accounting Policies (continued)
The following is a reconciliation of the denominator for the basic EPS
computation to the denominator of the diluted EPS computation. Net income
available to common shareholders is used in the basic and diluted EPS
calculations as the assumed impact of the redeemable securities would be anti-
dilutive.
Years Ended December 31,
-----------------------------
1999 1998 1997
--------- --------- ---------
Weighted average shares used for the basic
EPS computation (deemed outstanding the
entire period).............................. 4,211,318 3,485,634 3,104,558
Incremental shares from the assumed exercise
of dilutive stock options and stock
warrants.................................... 248,153 149,840 --
Contingently issuable shares................. 55,562 -- --
--------- --------- ---------
Weighted average shares used for the diluted
EPS computation............................. 4,515,033 3,635,474 3,104,588
========= ========= =========
In conjunction with the acquisition of substantially all of the assets and
the assumption of substantially all of the liabilities of Thompson-Hysell, the
Company agreed to pay contingent consideration consisting of shares of its
common stock, which may be issuable in 2000 based on certain 1999 financial
targets being met (see note 4). As a result, the Company estimated and
included 55,562 weighted average contingently issuable shares in its weighted
average shares used for the diluted EPS computation.
There were 211,233, 236,296 and 344,074 anti-dilutive shares excluded from
the above calculation in 1999, 1998 and 1997, respectively.
Use of Estimates in the Preparation of Consolidated Financial Statements
The preparation of these consolidated 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, the disclosure of contingent assets and liabilities at the date
of the consolidated financial statements and the amounts of revenue and
expenses reported during the periods. Actual results may differ from the
estimates and assumptions used in preparing these consolidated financial
statements.
Reclassifications
Certain 1998 and 1997 balances have been reclassified to conform to the
presentation used in 1999.
(3) Initial Public Offering of Common Stock
On July 15, 1999, the Company completed an initial public offering of
1,500,000 shares of its common stock. The offering price was $9.00 per share
resulting in proceeds of approximately $11,015,000 to TKCI, net of
underwriters' discount and offering costs. The Company's common stock is
traded on the NASDAQ National Market under the symbol "TKCI".
The Company primarily used proceeds of the initial public offering to repay
related party notes payable and accrued interest of $2,647,000, to repay notes
payable and accrued interest of $251,000, to repay the previous bank line of
credit of $4,731,000 and to acquire substantially all of the assets of and
assume substantially all of the liabilities of Thompson-Hysell.
38
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(4) Acquisitions
Thompson-Hysell, Inc.
In conjunction with its initial public offering, on July 15, 1999, the
Company acquired substantially all of the assets and assumed substantially all
of the liabilities of Thompson-Hysell. The Company paid cash in the amount of
$4,636,000, which consisted of $4,310,000 to Thompson-Hysell and $326,000 of
other acquisition related costs. In addition, contingent consideration
consists of (i) shares of common stock with a value at the initial public
offering equal to $1,333,000, which may be issuable in 2000 if certain
conditions are met, and (ii) a promissory note in the original principal
amount of $1,333,000, payable in 2001. The issuance of common stock and the
principal balance of the promissory note are contingent upon earnings for the
years ended December 31, 1998, 1999 and 2000, respectively. The acquisition
was accounted for using the purchase method of accounting. Goodwill, which
represents the excess of the purchase price over the fair value of the net
tangible and identifiable intangible assets acquired and liabilities assumed,
in the amount of $4,216,000 is being amortized over a period of 25 years.
The following unaudited pro forma data presents information as if the
acquisition of Thompson-Hysell had occurred at the beginning of the periods
presented. The pro forma data is provided for informational purposes only and
is based on historical information. The pro forma data does not necessarily
reflect the actual results of operations that would have occurred had
Thompson-Hysell and TKCI comprised a single entity during the periods, nor is
it necessarily indicative of future results of operations of the combined
entities.
Pro forma for the years ended
December 31,
-----------------------------
(unaudited)
1999 1998
-------------- --------------
Net revenue.................................. $ 45,020,000 $ 37,648,000
Pro forma net income available to common
shareholders................................ $ 2,841,000 $ 2,467,000
John M. Tettemer & Associates, Inc.
On August 1, 1998, TKCI acquired all of the outstanding common stock of
JMTA for $740,000, which consisted of cash of $150,000; $240,000 in amortizing
notes bearing interest at 8% payable in 60 monthly payments; $250,000 in
interest only notes bearing interest at 8% payable quarterly, which were paid
in conjunction with the initial public offering; warrants to purchase 55,556
shares of TKCI common stock, exercisable immediately at a purchase price of
$4.73 per share, expiring July 31, 2003; and $100,000 of other acquisition
related costs. The fair value of the warrants, calculated using the Black-
Scholes option pricing model assuming an estimated fair value of common stock
at issue date of $3.78 per share, a risk free interest rate of 5% and no stock
dividend yield, was immaterial and therefore excluded from the purchase price.
The amortizing notes include the principal stockholder of TKCI as co-maker.
The acquisition was accounted for using the purchase method of accounting and,
accordingly, the consolidated financial statements include the assets and
liabilities and results of operations of JMTA as of and subsequent to August
1, 1998. The excess purchase price over the fair value of the net identified
assets acquired totaled $571,000 and has been recorded as goodwill in the
accompanying consolidated balance sheets and is being amortized over a period
of 25 years. During 1999, goodwill and the principal balance of the amortizing
notes were reduced by $60,000 to reflect an adjustment to JMTA's book value at
August 1, 1998.
39
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(4) Acquisitions (continued)
ESI, Engineering Services Incorporated
On December 30, 1997, TKCI acquired all of the outstanding common stock of
ESI, Engineering Services Incorporated, and its wholly-owned subsidiary
Engineered Systems Integrated, Inc. The purchase price was $291,000 consisting
of 74,074 shares of TKCI common stock, which were subject to certain
repurchase provisions and stock indemnification rights (see note 9) and
$91,000 of other acquisition related costs. The acquisition was accounted for
using the purchase method of accounting and accordingly, the consolidated
financial statements include the assets and liabilities and results of
operations of ESI as of and subsequent to December 30, 1997.
The purchase agreement contains a provision whereby TKCI was required to,
at the sole discretion of the seller, repurchase any or all of the seller's
portion of the 74,074 shares issued for a price of $6.75 per share, if the
Company did not complete an initial public offering by October 31, 1999. Under
some circumstances, the Company was also required to repurchase stock options
granted in connection with the acquisition of ESI (see note 9). The fair value
of the stock options, calculated using the Black-Scholes option pricing model
assuming an estimated fair value of common stock at issue date of $2.70 per
share, a risk-free interest rate of 6% and no stock dividend yield, was
immaterial and, therefore, excluded from the purchase price. Further, an
additional 37,037 shares of TKCI common stock may be issued to the prior ESI
owners subject to attainment of performance criteria tied to minimum net
income per share requirements (as defined in the purchase agreement) for the
fiscal years 1998, 1999 and 2000. If the additional shares are issued due to
the attainment of the conditions, the fair value of the additional shares will
be recorded as an additional cost of the net assets acquired. As of December
31, 1999, the performance criteria has not been met for the fiscal years 1998
and 1999; therefore, none of the 37,037 shares have been issued.
In addition, the ESI purchase agreement provides for an anti-dilution
provision whereby TKCI may not issue additional shares of stock without the
sellers' consent; except as may be required to comply with the terms of the
ESI agreement, to issue shares in connection with future acquisitions, to
provide additional shares for Incentive Stock Option Plans, or for the initial
public offering completed by TKCI on July 15, 1999.
(5) Equipment and Leasehold Improvements
Equipment and leasehold improvements at December 31, 1999 and 1998 consist
of the following:
1999 1998
---------- ----------
Equipment............................................ $8,026,000 $5,949,000
Leasehold improvements............................... 430,000 91,000
Accumulated depreciation and amortization............ (3,920,000) (3,178,000)
---------- ----------
Equipment and leasehold improvements, net........ $4,536,000 $2,862,000
========== ==========
At December 31, 1999 and 1998, the cost of computer equipment, vehicles and
office furniture and fixtures recorded under capital leases, net of the
related accumulated amortization, were $2,109,000 and $1,634,000,
respectively.
40
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(6) Indebtedness
Long-Term Debt and Capital Lease Obligations
December 31,
-----------------------
1999 1998
----------- ----------
Lines of credit (see (a))............................ $ 1,300,000 $4,527,000
Note payable; no stated interest rate; interest
imputed at an annual rate of 10.75%; payable in
monthly installments of $12,000 including interest;
final payment due November 2002 (see (b))........... 253,000 460,000
Notes payable; interest ranging from 0.90% to 13.22%;
payable in monthly installments ranging from $1,000
to $23,000, including interest, through 2004........ 353,000 216,000
Notes payable; bearing interest at 8%; interest only
payable quarterly................................... -- 250,000
Notes payable; bearing interest at 8%; payable in
monthly installments of $6,000 including interest;
final payment due August 2003....................... 177,000 284,000
Note payable; bearing interest at 10%; interest only
payable quarterly; principal and unpaid interest due
April 2001 (see (c))................................ 1,333,000 --
Capital lease obligations; interest ranging from
4.98% to 17.18%; monthly principal and interest
payments ranging from $1,000 to $6,000 through
2004................................................ 1,382,000 1,413,000
Other................................................ 37,000 116,000
----------- ----------
4,835,000 7,266,000
Less current portion................................. (1,292,000) (1,488,000)
----------- ----------
$ 3,543,000 $5,778,000
=========== ==========
(a) On February 9, 1998, the Company obtained a line of credit from a bank
and used the proceeds to repay all amounts due under its previous credit
agreement. The line of credit was collateralized by a first-priority perfected
security interest in all assets of the Company and was guaranteed by the
Company's principal stockholder. As a result of the Company's demonstrated
ability and intent to refinance the short-term obligation on a long-term
basis, the outstanding borrowings under the line of credit of $4,527,000 as of
December 31, 1998 were classified as long-term in the accompanying
consolidated balance sheet. A portion of the proceeds from the Company's
initial public offering on July 15, 1999 were used to repay the outstanding
principal balance of $4,731,000 (see note 3).
On September 1, 1999, the Company entered into a new line of credit
agreement with a bank to fund working capital needs and the acquisitions of
equipment. The line of credit has a working capital component with a maximum
outstanding principal balance of $6,000,000 which matures on September 3, 2001
and an equipment component with a maximum outstanding principal balance of
$3,500,000, which matures on September 3, 2000 and may roll into a 60 month
term note at the discretion of the Company. The working capital component
bears interest at either the prime rate or approximately one and three-
quarters percent above LIBOR, and the equipment component bears interest at
either the prime rate or at approximately two percent above LIBOR. The
aggregate outstanding principal balance of working capital advances and
equipment advances can not exceed $8,500,000. The line of credit is subject to
various restrictions and contains certain financial and nonfinancial related
covenants. In addition, the line of credit is collateralized by a first-
priority security interest
41
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(6) Indebtedness (continued)
in all accounts receivable and other rights to payment, general intangibles
and equipment. As of December 1999, there were no outstanding borrowings on
the equipment component of the line of credit and the working capital
component had outstanding borrowings of $1,300,000 bearing interest at 8.0%.
The Board of Directors authorized the Company to repurchase its common
stock and on October 13, 1999, the Company requested and was granted a waiver
from the bank to repurchase or otherwise acquire any shares of any class of
its stock up to $700,000 through the period ending October 13, 2000. As of
December 31, 1999, the Company purchased 97,600 treasury shares at a cost of
$547,000.
(b) TKCI and its affiliates, as specified in the agreement, and KEI's
majority stockholder entered into a settlement agreement and mutual release on
November 14, 1995 related to payment of rent and other amounts due under a
lease. The Company agreed to pay the sum of $1,490,000, of which $140,000 was
paid upon execution of the agreement and $1,350,000 was payable under the
terms of a promissory note. The obligations under the promissory note are
collateralized by a judgment of $1,800,000, less any amounts previously paid
under the agreement, not to be executed unless and until an event of default
has occurred, as defined. The promissory note, as amended, required a $300,000
payment in November 1996 and monthly payments of $12,000, until paid in full.
The monthly payments for a particular calendar quarter are to be increased, in
the event that consolidated sales of TKCI and its affiliates, as specified in
the agreement, exceed $5,000,000 in the previous calendar quarter. The
increase is proportional to the percentage by which quarterly sales exceed
$5,000,000. In 1999 and 1998, the Company made additional principal payments
of $125,000 and $47,000, respectively, related to this provision.
(c) A promissory note was executed in conjunction with the Asset Purchase
Agreement dated April 9, 1999 between the Company and Thompson-Hysell related
to the acquisition of substantially all of the assets and the assumption of
substantially all of the liabilities of Thompson-Hysell (see note 4). Under
the terms of the note, the quarterly interest payments and the principal
balance are contingent upon earnings for the years ended December 31, 1998 and
2000. The principal and interest on the note shall be increased or decreased
by an incremental amount based upon attainment of performance criteria tied to
December 31, 1998 and 2000 earnings before interest and taxes, as defined in
the note.
Future annual principal maturities of long-term debt (including line of
credit) as of December 31, 1999 are as follows:
Years ending December 31,
-------------------------
2000........................................................ $1,292,000
2001........................................................ 3,186,000
2002........................................................ 250,000
2003........................................................ 92,000
2004........................................................ 15,000
----------
$4,835,000
==========
42
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(7) Notes Payable to Related Parties
Notes payable to related parties consisted of unsecured borrowings for
operating purposes from the principal shareholders and parties related to the
Company's principal shareholders. Principal and accrued interest at December
31, 1998 related to these notes was $1,701,000 and $185,000, respectively.
In April 1997, the Company entered into a collateralized promissory note
agreement, which was amended in December 1997, for working capital purposes
with a related party in the principal amount of $700,000. The note was
collateralized by all property of the Company, as defined in the agreement.
This related party also received an option to purchase common stock in the
Company (see note 10).
In connection with the initial public offering in July 1999, the Company
repaid debts, including accrued interest, to related parties totaling
$2,647,000. There are no outstanding borrowings to related parties as of
December 31, 1999.
(8) Leases
The Company leases equipment and vehicles under capital lease agreements
that expire at various dates through 2003. The Company also has several
noncancelable operating leases, primarily for office facilities, that expire
through 2008. These leases generally contain renewal options for periods
ranging from one to five years and require the Company to pay costs, including
common area maintenance and insurance charges. Rental expense for operating
leases during 1999, 1998 and 1997 totaled $2,216,000, $1,671,000 and
$1,183,000, respectively.
Certain facilities have been sublet under month-to-month subleases that
provide for reimbursement of various common area maintenance charges. Rental
expense has been reduced for sublease income of $22,000, $64,000 and $81,000
for the years ended December 31, 1999, 1998 and 1997, respectively. Future
minimum lease payments as of December 31, 1999 are as follows:
Operating Capital
Leases Leases
---------- ----------
Years ending December 31:
2000............................................... $2,194,000 $ 933,000
2001............................................... 1,693,000 450,000
2002............................................... 1,004,000 138,000
2003............................................... 860,000 19,000
2004............................................... 181,000 --
Thereafter......................................... 540,000 --
---------- ----------
Total future minimum lease payments................... $6,472,000 1,540,000
==========
Less amounts representing interest.................... (158,000)
----------
Total obligations under capital leases................ 1,382,000
Less current portion.................................. (802,000)
----------
Long-term capital lease obligations................... $ 580,000
==========
43
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(9) Redeemable Securities and Stock Indemnification Rights
In connection with the acquisition of ESI, TKCI issued to the sellers
74,074 shares of common stock, redeemable at the discretion of any seller at a
price of $6.75 per share, if the Company did not complete an initial public
offering by October 31, 1999. This right of the sellers expired November 15,
1999. The redeemable common stock was valued at $2.70 per share on the date of
the acquisition of ESI. The difference between the redemption value of $6.75
per share and the initial valuation of $2.70 per share was accreted over the
period from the acquisition, December 30, 1997, through July 15, 1999, through
charges to additional paid-in capital.
In connection with the acquisition of ESI, TKCI also issued to the sellers
stock options to purchase 44,444 shares of common stock with redemption
provisions. The redemption provisions provided that in the event that the
underlying shares did not have a fair market value of at least $8.10 per share
at some time during the period between the date of the Company's initial
public offering and October 1, 2002, the holders were entitled to receive
$5.40 in cash for each unexercised vested option (or $8.10 for each share of
common stock issued upon exercise of a stock option). The $5.40 redemption
value was accreted over the period from the acquisition, December 30, 1997
through July 15, 1999, through charges to additional paid-in capital.
As a result of the Company's completion of its initial public offering at
$9.00 per share in July 1999, the redeemable securities are no longer
redeemable and, accordingly, $353,000 of accumulated accretion on redeemable
securities was reclassified to common stock and additional paid-in capital.
Subsequent to the acquisition of ESI, TKCI agreed to indemnify certain
holders of 40,000 shares of common stock issued in connection with the
acquisition of ESI against a market decline in TKCI's common stock after the
initial public offering of TKCI's common stock. The excess of the guarantee
price over the market value of the 40,000 shares of common stock of $100,000
on November 11, 1999 was paid and is recorded as a component of other expenses
in the accompanying consolidated statement of income for the year ended
December 31, 1999.
(10) Common Stock
All issued and outstanding shares of KEI stock prior to the Reorganization
were exchanged into an equivalent number of shares of TKCI stock and all of
the shares of KEI stock were subsequently cancelled. The outstanding shares of
TKCI stock prior to the Reorganization remained outstanding and were not
affected by the Reorganization.
In April 1997, an option to purchase 10% of the Company's outstanding
common stock (calculated after the option purchase) was granted to an
unrelated party for $10,000. The option was exercised in July 1997, for
$88,000, resulting in the issuance of 325,926 shares. Once becoming a 10%
stockholder as a result of this option exercise, the option holder became a
related party. On December 31, 1997, an additional 196,745 shares of the
Company's stock was purchased by this related party for $500,000. In
connection with the grant of options and sale of stock to this related party,
a total of $206,000 was recorded as common stock and stock compensation
expense, representing the difference between the exercise price at which the
options were granted and the price at which the stock was sold, and the
estimated fair value of the Company's stock at the date of grant and sale,
respectively. The related party was also granted a position on the Company's
board of directors. In April 1997, the Company also entered into a
collateralized promissory note agreement with this related party for $700,000
which was repaid in 1999 (see note 7).
44
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(11) Stock Plans
The following stock options and stock warrants are authorized for issuance
at December 31, 1999:
Stock options................................................... 1,111,111
Stock warrants related to acquisitions.......................... 150,000
---------
1,261,111
=========
Stock Option Plans
In 1994, KEI and TKCI each adopted stock option plans (the "Plans"). Under
the terms of the Plans, the Boards of Directors of KEI and TKCI were able to
grant stock options to officers, key employees and directors. The Plans, as
amended in 1997, authorized grants of options to purchase 555,556 shares each
of authorized but unissued common stock in TKCI and KEI. Stock options have
been granted with an exercise price equal to or greater than the stock's
estimated fair market value at the date of grant. All stock options issued in
connection with the Plans have ten-year terms that vest and become exercisable
ratably each year for the first five years from the grant date.
In connection with the Reorganization, the KEI plan was terminated and
options to purchase shares of common stock of KEI outstanding at August 1,
1998 were automatically converted into options to purchase a like number of
shares of TKCI common stock, with the same exercise price, expiration date and
other terms as prior to the Reorganization (the "Plan"). On April 23, 1999,
the stock option plan was amended to increase the number of options authorized
for grant to 1,111,111.
At December 31, 1999, there were options to acquire 334,306 shares
available for grant under the Plan. The following represents the estimated
fair value of options granted, as determined using the Black-Scholes option
pricing model and the assumptions used for calculation:
Years ended
December 31,
-------------------
1999 1998 1997
----- ----- -----
Weighted average estimated fair value per share of
common stock at grant date............................. $5.60 $3.40 $2.70
Average exercise price per option granted............... $5.60 $3.40 $2.70
Risk-free interest rate................................. 6.5% 5.0% 6.0%
Option term (years)..................................... 10 10 10
Stock dividend yield.................................... 0.0% 0.0% 0.0%
In accounting for its Plan, the Company elected the pro forma disclosure
option under SFAS No. 123. Accordingly, no compensation cost has been
recognized for its stock options in the consolidated financial statements. Had
the Company determined compensation cost based on the fair value at the grant
date for its stock options under SFAS No. 123, the Company's net income would
have been adjusted to the pro forma amount indicated below:
Years ended December 31,
--------------------------------
1999 1998 1997
---------- ---------- ----------
Net income:
As reported............................... $2,017,000 $1,654,000 $2,698,000
Pro forma................................. $1,847,000 $1,601,000 $2,675,000
45
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(11) Stock Plans (continued)
Pro forma net income reflects only options granted after January 1, 1995.
Therefore, the full impact of calculating compensation cost for stock options
under SFAS No. 123 is not reflected in the pro forma net income amounts
presented above because compensation cost is reflected over the options'
vesting period of five years and compensation cost for options granted prior
to January 1, 1995 is not considered.
Stock option activity during the periods indicated is as follows:
Number of shares Weighted-average
underlying options exercise price
------------------ ----------------
Balance at December 31, 1996............. 176,667
Granted................................ 180,370 $2.70
Forfeited.............................. (12,963) $2.70
-------
Balance at December 31, 1997............. 344,074
Granted................................ 142,593 $5.13
Forfeited.............................. (1,111) $2.70
-------
Balance at December 31, 1998............. 485,556
Granted................................ 317,414 $8.91
Exercised.............................. (10,523) $2.83
Forfeited.............................. (26,165) $6.95
-------
Balance at December 31, 1999............. 766,282
=======
The weighted average remaining contractual life and weighted average
exercise price of options outstanding and of options exercisable as of
December 31, 1999, were as follows:
Outstanding Exercisable
------------------------------------- --------------------
Number of
shares Weighted average Weighted Shares Weighted
underlying remaining average underlying average
Range of options contractual life exercise options exercise
Exercise Prices outstanding (years) price exercisable price
--------------- ----------- ---------------- -------- ----------- --------
$2.70............... 380,086 6.55 $2.70 252,644 $2.70
$5.40 to $8.10...... 95,709 8.78 $6.66 17,348 $6.58
$9.00............... 290,487 9.51 $9.00 14,814 $9.00
At December 31, 1999, 1998 and 1997, the number of shares of common stock
subject to exercisable options were 284,806, 158,889 and 87,037, respectively,
and the weighted-average exercise price of those options was $3.26, $2.70 and
$2.70, respectively.
In 1999, 1998 and 1997, in connection with acquisitions, TKCI reserved for
grant options to purchase 166,667 shares of its common stock to employees of
the acquired companies under the Plan. Included in the options reserved for
grant, TKCI is required to provide options for no less than 37,037 shares of
common stock which may be granted provided certain earnings goals are met by
the acquired company in 1998, 1999 and 2000. As of December 31, 1999, these
earnings goals had not been met, therefore none of the options have been
granted (see note 4). As of December 31, 1999, options to purchase 119,098
shares of common stock reserved for grant have been granted subject to the
Plan.
46
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(11) Stock Plans (continued)
Stock Warrants
The Company issued stock warrants to purchase common stock in connection
with the acquisitions of Thompson-Hysell, JMTA and ESI. The terms of stock
warrants to acquire shares of common stock are as follows at December 31,
1999:
Warrants Grant Date Exercise Price Expiration Date
-------- ------------------ -------------- ------------------
55,555 August 3, 1998 $4.73 July 31, 2003
27,778 September 15, 1998 $6.75 September 18, 2001
66,667 July 15, 1999 $6.75 July 15, 2002
-------
150,000
=======
Warrants are generally granted with an exercise price equal to or greater
than the underlying stock's estimated fair market value at the date of grant,
vest immediately and may be exercised at any time until the expiration date.
During 1999, 66,667 warrants were issued with an exercise price less than the
stock's estimated fair market value at the date of grant. The $150,000
difference between the fair market value of the stock at the date of grant and
the exercise price was included as a component of the purchase price of
Thompson-Hysell (see note 4).
(12) Employee Benefit Plans
The Company has two defined contribution 401(k) plans, which commenced in
1980 and 1988, covering a majority of its employees. These plans are designed
to be tax deferred in accordance with the provisions of Section 401(k) of the
Internal Revenue Code. Employees may contribute from 1% to 20% of compensation
on a tax-deferred basis through a "salary reduction" arrangement. No employer
contributions were made during 1997. In 1998, the Company implemented a
discretionary employer matching contribution program, with a five-year vesting
schedule, whereby the Company matched 50% of the first 1% of employee
contributions for the year. Effective January 1, 1999, the Company increased
the employer contribution percentage to 50% of the first 6% of employee
contributions, not to exceed $1,500 per employee per year. During 1999 and
1998, the Company contributed $336,000 and $55,000, respectively, to its
401(k) plans, which represented the Company's entire obligation under the
employer matching contribution program for the years ended December 31, 1999
and 1998. Further, effective January 1, 2000, the Company increased the
employer contribution percentage to 100% of the first 3%, plus 50% of the next
2%, of employee contributions, vesting immediately.
47
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(13) Income Taxes
Income tax expense (benefit) consists of the following:
Years ended December 31,
----------------------------------
1999 1998 1997
---------- ---------- -----------
Current:
Federal................................ $ 260,000 $ (29,000) $ --
State.................................. 118,000 (99,000) 3,000
---------- ---------- -----------
Subtotal............................. 378,000 (128,000) 3,000
---------- ---------- -----------
Deferred:
Federal................................ 999,000 1,262,000 (1,299,000)
State.................................. 89,000 216,000 (101,000)
---------- ---------- -----------
Subtotal............................. 1,088,000 1,478,000 (1,400,000)
---------- ---------- -----------
Total................................ $1,466,000 $1,350,000 $(1,397,000)
========== ========== ===========
A reconciliation of income tax at the federal statutory rate of 34% to the
Company's provision (benefit) for income taxes is as follows:
Years ended December 31,
------------------------------------
1999 1998 1997
----------- ---------- -----------
Computed "expected" federal income tax
expense.............................. $ 1,184,000 $1,021,000 $ 443,000
State income tax expense (benefit),
net of federal income tax benefit.... 167,000 77,000 (64,000)
Tax effect of earnings not subject to
federal income tax due to
S corporation election............... -- (513,000) (223,000)
Tax effect of S to C corporation
conversion........................... -- 595,000 --
Change in federal deferred tax
valuation allowance.................. (35,000) 35,000 (1,585,000)
Other................................. 150,000 135,000 32,000
----------- ---------- -----------
$ 1,466,000 $1,350,000 $(1,397,000)
=========== ========== ===========
48
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(13) Income Taxes (continued)
The tax effects of temporary differences that give rise to significant
portions of deferred tax assets and liabilities are as follows:
December 31,
----------------------
1999 1998
----------- ---------
Deferred tax assets:
Intercompany/related party payables.............. $ -- $ 76,000
Accrued liabilities and employee compensation.... 355,000 383,000
Billings in excess of costs and estimated
earnings........................................ 216,000 180,000
Allowance for doubtful accounts.................. 203,000 117,000
Settlement obligations........................... 99,000 188,000
Other............................................ 170,000 174,000
Net operating loss carryforwards................. 271,000 1,304,000
Less valuation allowance......................... -- (62,000)
----------- ---------
Total deferred tax assets...................... 1,314,000 2,360,000
----------- ---------
Deferred tax liabilities:
Equipment and improvements, net.................. 117,000 --
Section 481, change from cash to accrual......... 262,000 818,000
Costs and estimated earnings in excess of
billings........................................ 1,972,000 1,541,000
Other............................................ 129,000 79,000
----------- ---------
Total deferred tax liabilities................. 2,480,000 2,438,000
----------- ---------
Net deferred tax liabilities................... $(1,166,000) $ (78,000)
=========== =========
The net change in the valuation allowance for the years ended December 31,
1999, 1998 and 1997 was a decrease of $62,000, an increase of $31,000, and a
decrease of $1,761,000, respectively. The Company considers recording a
valuation allowance in accordance with the provisions of SFAS No. 109 to
reflect the estimated amount of deferred tax assets, which may not be
realized. In assessing the realizability of deferred tax assets, management
considers whether it is more likely than not, that some portion or all of the
deferred tax assets will not be realized. The ultimate realization of deferred
tax assets is dependent upon the generation of future taxable income during
the periods in which those temporary differences become deductible. Management
considers the scheduled reversal of deferred tax liabilities, projected future
taxable income and tax planning strategies in making this assessment, and
believes it is more likely than not the Company will realize the benefits of
its deferred tax assets. The amount of the deferred tax asset considered
realizable, however, could be reduced in the near term if estimates of future
taxable income during the carryforward period are reduced.
As of December 31, 1999, the Company had approximately $797,000 in federal
net operating loss carryforwards available to offset future taxable income, if
any. The federal net operating loss carryforwards expire in the years 2018 and
2019.
(14) Commitments and Contingencies
The Company is involved in various claims and legal actions arising in the
ordinary course of business. In the opinion of management and the Company's
legal counsel, the ultimate disposition of these matters should not have a
material adverse effect on the Company's financial position, liquidity and
results of operations.
49
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(15) Segment and Related Information
The Company evaluates performance and makes resource allocation decisions
based on the overall type of services provided to customers. For financial
reporting purposes, we have grouped our operations into two primary reportable
segments. The Real Estate Development, Public Works and Telecommunications
("REPWT") segment includes engineering and consulting services for the
development of both private projects, like residential communities, commercial
and industrial properties and recreational projects; public works projects,
like transportation and water/sewage facilities; and site acquisition and
construction management services for wireless telecommunications. The
Industrial, Process and Manufacturing ("IPM") segment, which consists of ESI,
provides the technical expertise and management required to design and test
manufacturing facilities and processes. The accounting policies of the
segments are the same as those described in note 2.
The following tables set forth information regarding the Company's
operating segments as of and for the years ended December 31, 1999, 1998 and
1997.
Year ended December 31, 1999
------------------------------------------------
Corporate
REPWT IPM Costs Consolidated
----------- ---------- ----------- ------------
Net revenue............... $36,009,000 $3,627,000 $ -- $39,636,000
Income (loss) from
operations............... $ 7,877,000 $ 172,000 $(3,743,000) $ 4,306,000
Identifiable assets....... $22,497,000 $1,164,000 $ -- $23,661,000
Year ended December 31, 1998
------------------------------------------------
Corporate
REPWT IPM Costs Consolidated
----------- ---------- ----------- ------------
Net revenue............... $25,330,000 $3,852,000 $ -- $29,182,000
Income (loss) from
operations............... $ 6,491,000 $ 244,000 $(2,698,000) $ 4,037,000
Identifiable assets....... $13,068,000 $1,462,000 $ -- $14,530,000
Year ended December 31, 1997
------------------------------------------------
Corporate
REPWT IPM Costs Consolidated
----------- ---------- ----------- ------------
Net revenue............... $18,592,000 $ -- $ -- $18,592,000
Income (loss) from
operations............... $ 4,792,000 $ -- $(2,556,000) $ 2,236,000
Identifiable assets....... $10,485,000 $1,248,000 $ -- $11,733,000
Business Concentrations
In 1999 and 1998, the Company had no customers which represented greater
than 10% of consolidated net revenue. In 1997, the Company had one customer
which represented 11% of net revenue. No customers represented greater than
10% of net contract and trade receivables at December 31, 1999 and 1998.
(16) Fair Value of Financial Instruments
The carrying amounts of the Company's financial instruments reported in the
accompanying consolidated balance sheets for cash and cash equivalents,
contracts and trade receivables, other receivables, trade accounts payable,
accrued employee compensation, accrued liabilities to related parties, and
other accrued liabilities approximate fair values due to the short maturity of
these instruments.
50
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(16) Fair Value of Financial Instruments (continued)
At December 31, 1999, long-term debt, excluding capital lease obligations,
consisted of the Company's line of credit payable and notes payable. The
carrying value of the Company's line of credit payable approximates its fair
value, based upon the borrowing rate currently available to the Company for
loans with similar terms. It was not practicable to estimate the fair value of
two notes payable with a combined carrying value of $290,000, as there is no
established market for these notes. The carrying value of the remaining long-
term debt was $1,863,000, which approximates fair value, determined using
estimates for similar debt instruments (see notes 6 and 7).
(17) Supplemental Cash Flow Information
Years ended December 31,
--------------------------------
1999 1998 1997
--------- ---------- ----------
Supplemental disclosure of cash flow
information:
Cash paid during the year for interest........ $ 975,000 $1,024,000 $ 725,000
========= ========== ==========
Cash paid during the year for income taxes.... $ 124,000 $ 144,000 $ 28,000
========= ========== ==========
Noncash financing and investing activities:
Capital lease obligations recorded in
connection with equipment acquisitions....... $ 258,000 $ 788,000 $1,120,000
========= ========== ==========
Purchase price adjustment to goodwill and
notes payable................................ $ 60,000 $ -- $ --
========= ========== ==========
Purchase price adjustment to equipment and
leasehold improvements and additional paid-in
capital...................................... $ 42,000 $ 26,000 $ --
========= ========== ==========
Issuance of common stock...................... $ -- $ -- $ 206,000
========= ========== ==========
(Reversal) accretion of redeemable securities
to redemption value, net..................... $(230,000) $ 230,000 $ --
========= ========== ==========
Insurance financing........................... $ 174,000 $ 202,000 $ 311,000
========= ========== ==========
51
THE KEITH COMPANIES, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements--(Continued)
Years ended December 31, 1999, 1998 and 1997
(17) Supplemental Cash Flow Information (continued)
The acquisition of Thompson-Hysell, JMTA and ESI on July 15, 1999, August
1, 1998 and December 30, 1997, respectively, resulted in the following:
Increases in:
JMTA ESI
Thompson-Hysell August 1, December
July 15, 1999 1998 30, 1997
--------------- --------- ---------
Contracts and trade receivables......... $(2,253,000) $(309,000) $(541,000)
Costs and estimated earnings in excess
of billings............................ -- (201,000) (131,000)
Other receivables....................... (1,000) -- (63,000)
Goodwill................................ (4,216,000) (571,000) --
Equipment and improvements.............. (1,105,000) (56,000) --
Other assets............................ (5,000) (29,000) (127,000)
Short-term borrowings................... -- -- 310,000
Billings in excess of costs and
estimated earnings..................... 150,000 -- --
Long-term debt, including current
portion................................ 2,446,000 640,000 --
Accounts payable, accrued expenses and
other liabilities...................... 198,000 449,000 364,000
Common stock............................ 150,000 -- 200,000
----------- --------- ---------
Net cash acquired in (expended for)
acquisitions........................... $(4,636,000) $ (77,000) $ 12,000
=========== ========= =========
(18) Valuation and Qualifying Accounts
For the years ending December 31, 1999, 1998 and 1997, the following is
supplementary information regarding valuation and qualifying accounts:
Balance at Provisions for
beginning of doubtful Balance at end
period accounts Deductions of period
------------ -------------- ---------- --------------
Allowance for doubtful
accounts:
1999.................. $364,000 $614,000 $366,000 $612,000
1998.................. $348,000 $300,000 $284,000 $364,000
1997.................. $587,000 $324,000 $563,000 $348,000
52
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
We have had no disagreements on accounting or financial disclosure matters
with our independent auditors.
PART III
The information required by Items 10 through 13 of this report is set forth
in the sections entitled "Directors and Executive Officers," "Executive
Compensation," "Security Ownership of Certain Beneficial Owners and
Management," and "Certain Relationships and Related Transactions" in our Proxy
Statement for our 2000 Annual Meeting of Shareholders. Such information is
incorporated in this report and made a part hereof by reference.
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) Consolidated Financial Statements.
The following Consolidated Financial Statements and the
Independent Auditors' Report are on pages 29 through 52 hereof.
Independent Auditors' Report.
Consolidated Balance Sheets as of December 31, 1999 and 1998
Consolidated Statements of Income for the years ended December 31,
1999, 1998 and 1997
Consolidated Statements of Shareholders' Equity (Deficit) for the
years ended December 31, 1999, 1998 and 1997
Consolidated Statements of Cash Flows for the years ended December
31, 1999, 1998 and 1997
Notes to Consolidated Financial Statements
(2) Financial Statement Schedules.
All Financial Statement Schedules have been omitted because they
are not applicable or because the applicable disclosures have been
included in the Consolidated Financial Statements or in the Notes
thereto.
53
(3)Exhibits.
Exhibit
Number Description
------- -----------
2.1 Certificate of Ownership of ESI, Engineering Services Inc., by The
Keith Companies, Inc. dated November 29, 1999 and filed with the
California Secretary of State on December 17, 1999.*
3.1 Amended and Restated Articles of Incorporation filed on June 22, 1999
(incorporated herein by this reference to Exhibit 3.1 to the
registrant's registration statement on Form S-1, registration number
333-77273).
3.2 Amended and Restated Bylaws of the Registrant (incorporated herein by
this reference to Exhibit 3.2 to the registrant's registration
statement on Form S-1, registration number 333-77273).
4.1 Specimen Stock Certificate (incorporated herein by this reference to
Exhibit 4.1 to the registrant's registration statement on Form S-1,
registration number 33377273).
9.1 Amendment No. 3 to the Partnership Agreement between Aram H. Keith and
Floyd S. Reid, dated December 31, 1999.*
10.1 Amended and Restated 1994 Stock Incentive Plan, together with form of
Nonqualified Stock Option Agreement and form of Incentive Stock Option
Agreement (incorporated herein by this reference to Exhibit 10.1 to
the registrant's registration statement on Form S-1, registration
number 333-77273).
10.2 Form of Indemnification Agreement (incorporated by this reference to
Exhibit 10.2 to the registrant's registration statement on Form S-1,
registration number 333-77273).
10.3 Wells Fargo Bank Line of Credit Note dated September 1, 1999 between
The Keith Companies, Inc., John M. Tettemer and Associated, LTD., and
ESI, Engineering Services, Inc. and Wells Fargo Bank, National
Association (incorporated herein by this reference to Exhibit 10.35 to
the registrant's quarterly report on Form 10-Q for the period ended
September 30, 1999).
10.4 Wells Fargo Bank Credit Agreement dated September 1, 1999 between The
Keith Companies, Inc., John M. Tettemer and Associated, LTD., and ESI,
Engineering Services, Inc. and Wells Fargo Bank, National Association
(incorporated herein by this reference to Exhibit 10.36 to the
registrant's quarterly report on Form 10Q for the period ended
September 30, 1999).
10.5 Facility Lease dated July 29, 1999 between ASP Scripps, L.L.C. and The
Keith Companies, Inc. (incorporated herein by this reference to
Exhibit 10.37 to the registrant's quarterly report on Form 10-Q for
the period ended September 30, 1999).
10.6 Addendum to Facility Lease dated July 29, 1999 between ASP Scripps,
L.L.C. and The Keith Companies, Inc. (incorporated herein by this
reference to Exhibit 10.38 to the registrant's quarterly report on
Form 10-Q for the period ended September 30, 1999).
10.7 Sublease Agreement dated July 29, 1999 between Cannon Computer
Systems, Inc. and The Keith Companies, Inc. (incorporated herein by
this reference to Exhibit 10.39 to the registrant's quarterly report
on Form 10-Q for the period ended September 30, 1999).
10.8 Agreement of non-disturbance and attornment dated July 28, 1999
between ASP Scripps, L.L.C. and The Keith Companies, Inc.
(incorporated herein by this reference to Exhibit 10.40 to the
registrant's quarterly report on Form 10-Q for the period ended
September 30, 1999).
10.9 Consent to Sublease Agreement dated July 28, 1999 between ASP Scripps,
L.L.C., Canon Computer Systems, Inc. and The Keith Companies, Inc.
(incorporated herein by this reference to Exhibit 10.41 to the
registrant's quarterly report on Form 10-Q for the period ended
September 30, 1999).
10.11 Employment Agreement dated October 1, 1997 between ESI, Engineering
Services Incorporated and Lynn C. Cannady (incorporated by this
reference to Exhibit 10.28 to the registrant's registration statement
on Form S-1, registration number 333-77273).
54
Exhibit
Number Description
------- -----------
10.12 Employment Agreement dated October 1, 1997 between ESI, Engineering
Services Incorporated and Glenn I. Chase (incorporated by this
reference to Exhibit 10.29 to the registrant's registration statement
on Form S-1, registration number 333-77273).
10.13 Employment Agreement dated October 1, 1997 between ESI, Engineering
Services Incorporated and Stephen J. Lane (incorporated by this
reference to Exhibit 10.30 to the registrant's registration statement
on Form S-1, registration number 333-77273).
10.14 Subscription Agreement by and among The Keith Companies, Inc., Keith
Engineering, Inc., Aram H. Keith, Floyd S. Reid, Walter W. Cruttenden,
III, Deborah A. Cruttenden, Christopher L. Cruttenden and Rian P.
Cruttenden dated as of December 31, 1997 (incorporated by this
reference to Exhibit 10.34 to the registrant's registration statement
on Form S-1, registration number 333-77273).
21.0 List of Subsidiaries (incorporated herein by this reference to Exhibit
21 to the registrant's registration statement on Form S-1,
registration number 333-77273).
23.0 Consent of Independent Auditors.*
24.0 Power of Attorney (included on signature page hereof).*
27.0 Financial Data Schedule.*
- --------
* Filed herewith.
(b) Reports on Form 8-K.
No reports on Form 8-K were filed in the fourth quarter of 1999.
55
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, The Keith Companies, Inc. has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized.
THE KEITH COMPANIES, INC.
By: /s/ Aram H. Keith
-----------------------------------
Aram H. Keith
Chief Executive Officer
March 24, 2000
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following on behalf of The Keith
Companies, Inc. and in the capacities and on the date indicated.
Signature Title Date
--------- ----- ----
/s/ Aram H. Keith Chief Executive Officer and March 24, 2000
____________________________________ a Director (Principal
Aram H. Keith Executive Officer)
/s/ Eric C. Nielsen President March 24, 2000
____________________________________
Eric C. Nielsen
/s/ Gary C. Campanaro Chief Financial Officer and March 24, 2000
____________________________________ a Director (Principal
Gary C. Campanaro Financial and Accounting
Officer)
/s/ Walter W. Cruttenden Director March 24, 2000
____________________________________
Walter W. Cruttenden
/s/ George Deukmejian Director March 24, 2000
____________________________________
George Deukmejian
/s/ Christine Diemer Iger Director March 24, 2000
____________________________________
Christine Diemer Iger
56