UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549-1004
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended March 31, 2004
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OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
for the transition period from _______ to _______
Commission File No. 0-13084
WARRANTECH CORPORATION
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(Exact name of registrant as specified in its charter)
Delaware 13-3178732
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(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization
2200 Highway 121, Suite 100 Bedford, Texas 76021
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(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code (800) 544-9510
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Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class Name of Each Exchange on Which Registered
- ---------------------------- -----------------------------------------
Common Stock $.007 par value None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.007 par value
(Title of Class)
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 [ ] No [X]
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 [ ].
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Act). Yes [ ] No [X]
The aggregate market value of the voting and non-voting common equity
held by non-affiliates of the registrant as of September 30, 2003, based upon
the closing price of the registrant's common stock on September 30, 2003, was
$18,423,261 (For purposes of calculating the preceding amount only, all
directors and executive officers of the registrant are assumed to be
affiliates.)
The number of shares outstanding of the registrant's common stock as of
July 30, 2004 was 15,398,674.
Documents Incorporated By Reference
None
Index to Exhibits is on page 40.
WARRANTECH CORPORATION AND SUBSIDIARIES
TABLE OF CONTENTS
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Page No.
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PART I
Item 1 Business...........................................................1
General............................................................1
Sales and Marketing................................................4
Significant Customers..............................................5
Competition........................................................5
Contract Obligors..................................................5
Insurance Coverage.................................................6
Federal and State Regulation.......................................7
Intellectual Property..............................................8
Employees..........................................................8
Item 2 Properties.........................................................9
Item 3 Legal Proceedings..................................................9
Item 4 Submission of Matters to a Vote of Security Holders................9
PART II
Item 5 Market for Registrant's Common Equity and Related
Stockholder Matters..............................................10
Item 6 Selected Financial Data...........................................10
Item 7 Management's Discussion and Analysis of Financial Condition
and Results of Operation.........................................11
Cautionary Statement Regarding Risks and Uncertainties That May
Affect Future Results.............................................11
SEC Review of the Company's Filings...............................11
General...........................................................13
Insurer in Liquidation............................................14
Butler Financial Services LLC.....................................15
Results of Operations.............................................16
Agreements........................................................19
Liquidity and Capital Resources...................................20
Loans to Directors................................................20
Commitments.......................................................21
Critical Accounting Policies......................................22
Item 7A Qualitative and Quantitative Disclosures About Market Risk........24
i
Item 8 Financial Statements and Supplementary Data.......................F-1
Item 9 Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.........................................25
Item 9A Controls and Procedures...........................................25
Disclosure Controls and Procedures................................25
Internal Controls.................................................25
PART III
Item 10 Directors and Executive Officers of the Registrant................26
Directors.........................................................26
Other Executive Officers and Key Employees........................27
Compliance with Section 16(a) ....................................27
Code of Ethics and Business Conduct...............................27
Item 11 Executive Compensation............................................28
Compensation Table................................................28
Option Grants in Last Fiscal Year.................................28
Options Exercised and Holdings....................................29
Directors' Compensation...........................................29
Employment Agreements.............................................30
Other Incentives and Compensation.................................31
Compensation Committee Interlocks and Insider Participation.......32
Report of the Compensation Committee of the Board of Directors....33
Performance Graph.................................................35
Item 12 Security Ownership of Certain Beneficial Owners and Management....36
Table of Management's Stock Ownership.............................36
Securities Owned by Certain Beneficial Owners.....................37
Item 13 Certain Relationships and Related Transactions....................38
Loans to Directors................................................38
Third Party Relationships.........................................38
Item 14 Principal Accounting Fees and Services............................39
Audit Fees........................................................
ii
PART IV
Item 15 Exhibits, Financial Statement Schedules, and Reports on Form 8-K..40
Documents Filed as Part of this Report............................40
Reports on Form 8-K...............................................40
Exhibits..........................................................41
Financial Statement Schedules.....................................40
Signatures........................................................45
Certifications of the CEO and CFO.................Exhibits 31 and 32
Index to Consolidated Financial Statements........................F-1
Financial Statement Schedules.....................................F-30
iii
Part I
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Item 1. Business
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General
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Warrantech Corporation, a Delaware corporation, and its subsidiaries
(collectively, "Warrantech" or the "Company") maintains executive offices and
operating facilities at 2200 Highway 121 Suite 100 Bedford, Texas 76021, where
the telephone number is (800) 544-9510.
Warrantech, through its wholly owned subsidiaries, designs, develops,
markets and acts as a third party administrator for programs ("Programs") for
service contracts, limited warranties and replacement plans (collectively,
"Plans"). The Company provides these services to a variety of clients in
selected industries. On a Program by Program basis, the Company contracts with
highly rated independent insurance companies or risk retention groups available
to provide coverage for the Plans sold or issued under the Programs. This
coverage obligates the insurer to pay the cost of repairs or replacements of the
products covered by the Plans.
Plans issued under the Company's Programs provide consumers with
expanded and/or extended product breakdown coverage for a specified period of
time (and/or mileage in the case of automobiles and recreational vehicles),
similar to that provided by manufacturers under the terms of their product
warranties. Coverage generally provides for the repair or replacement of the
product, or a component thereof, in the event of its failure. The Company's
Programs provide clients with the opportunity for increased revenue and income
without incurring the costs and responsibilities of operating their own
programs.
The Plans generally have terms extending up to one hundred twenty (120)
months or, in the case of mileage based Plans, up to one hundred fifty thousand
(150,000) miles. All repairs and/or replacements required under the Plans are
performed by independent third party repair facilities or dealers. The cost of
any repair or replacement is generally paid by the applicable insurance company.
Notwithstanding the forgoing, however, certain Plans were insured by Reliance
Insurance Company ("Reliance") which was placed in liquidation in 2002. For a
more detailed discussion of claims handling under Plans insured by Reliance, see
"Management's Discussion and Analysis-Insurer in Liquidation" below. For a more
detailed discussion of the responsibilities of obligors and insurers under the
Plans, see "Contract Obligors" and "Insurance" below.
Essential to the Company's success is its ability to capture, maintain,
track and analyze (collectively, "Maintain") all relevant information regarding
its Plans. The Company has internally developed, and continues to develop, and
operate proprietary computer software that allows it to maintain millions of
Plans. The software includes custom designed relational databases with
interactive capabilities. The Company's computer systems provide ample capacity
and processing speed for its current and future requirements. Additionally,
Warrantech's web-enabled applications such as VSCOnline(R) and WCPSOnline(R)
facilitate information exchange with outside businesses such as clients and
service centers via the Internet. These applications optimize the data
acquisition, service processing and claims processing functions. The software
programs also allow for the analysis of current and historical statistical data
which the Company uses to monitor its Programs and support future growth.
The Company operates in three major business segments: Automotive,
Consumer Products and International, each of which is discussed below.
1
Warrantech Automotive Segment
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The Company's Automotive segment designs, develops, markets and acts as
a third party administrator for vehicle service contract ("VSC") Programs and
other related automotive after-sale products, all of which enhance the dealer's
profitability from the sale of automobiles, light trucks, recreational vehicles,
personal watercraft and automotive components. These products are sold
principally by franchised and independent automobile dealers, leasing companies,
repair facilities, retail stores, financial institutions and other specialty
marketers.
Warrantech Automotive utilizes the services of approximately one
hundred fifty (150) independent sales representatives to call on clients to
solicit their use of the VSC Programs. At this time, VSC's are being sold in
forty-nine (49) states.
The VSC is a contract between the dealer/lessor or third party obligor
(or, for the States of California and Florida only, Warrantech Automotive) and
the vehicle purchaser/lessee that offers coverage for a term extending up to one
hundred twenty (120) months or, in the case of mileage based VSC's, up to one
hundred fifty thousand (150,000) miles. Coverage is available in the event of
the failure of a broad range of mechanical components occurring during the term
of the VSC, other than failures covered by a manufacturer's warranty.
Warrantech Automotive relies on its high quality products, exceptional
customer service, fair product pricing, prompt reaction to client needs and
recognition of new market opportunities to maintain its competitive position.
Under the Programs marketed and administered by Warrantech Automotive, it
provides a variety of services to its clients including, but not limited to,
development and distribution of marketing materials, processing dealer produced
VSC's and adjudicating claims filed by VSC holders under the terms of their
respective VSC's.
Although each VSC sold or issued under a Program designates an obligor
that is legally responsible for the cost of valid repairs or replacements made
thereunder, those liabilities are fully insured by an independent insurance
company that is ultimately responsible for such costs. Currently, Great American
Insurance Company ("GAIC") is the primary insurer of Warrantech Automotive's VSC
Programs. On reinsurance Programs offered to automobile dealerships and other
specialty marketers, the Company also has an agreement with Heritage Warranty
Insurance Risk Retention Group, Inc. ("Heritage"). During the immediately
preceding five-year period, a portion of the Warrantech VSC Programs were
insured by either Reliance (see "Management's Discussion and Analysis - Insurer
in Liquidation" below), the New Hampshire Insurance Company or other American
International Group, Inc. companies.
In 2004, 2003 and 2002 the Automotive segment received $7.6 million, $9.7
million and $9.8 million, respectively in gross revenues from one significant
client, which accounted for 7%, 9% and 13% of the Automotive segment's
total gross revenues, respectively. Additionally, in 2004, 2003 and 2002 the
Automotive segment received from a second client, gross revenues of $12.1
million, $13.6 million and $0 million, respectively, which accounted for 12%,
13% and 0% of the Automotive segment's total gross revenues.
Warrantech Consumer Products Segment
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The Company's Consumer Products segment develops, markets and
administers extended warranties and product replacement plans on household
appliances, consumer electronics, televisions, computers and home office
equipment, which are sold principally through retailers, distributors,
manufacturers, utility companies, financial institutions and other specialty
marketers. Warrantech also markets these warranties and plans directly to the
ultimate consumer on behalf of the retailer/dealer and/or the manufacturer
2
through telemarketing and direct mail campaigns. It also offers call center and
technical computer services. The extended warranties and product replacement
plans administered by Warrantech Consumer Products are service contracts between
the purchaser and the retailer/dealer and/or the insurance company that
typically offers coverage ranging from twelve (12) to sixty (60) months.
The Consumer Products segment also develops, markets and administers
service contract programs in the United States and Canada covering mechanical
breakdowns of the working systems and components in homes. These programs
protect homeowners against the cost of repairs in case of a breakdown of one or
more of the major home systems including heating and air conditioning, plumbing,
electrical and built-in appliances.
The programs marketed and administered by Warrantech Consumer Products
require that the selling dealer, distributor or manufacturer enter into an
agreement outlining the duties of each party. Those duties specifically assumed
by Warrantech Consumer Products include the development and distribution of
marketing materials, sales and motivational training, processing of service
contracts, operating a call center and the adjustment and payment of claims. It
has also entered into service center agreements with independent third party,
authorized repair facilities located throughout the United States and Canada.
These service center agreements bind the amount of reimbursement the repair
facility will receive for performance on a repair claim.
Effective February 12, 2000, the Company entered into an agreement with
GAIC pursuant to which GAIC insures any new service contracts issued in North
America or Puerto Rico. Insurance for service contracts issued between August 1,
1997 until February 12, 2000 are covered by Cigna Insurance Company.
In 2004, 2003 and 2002 the Consumer Products segment received $5.8
million, $4.5 million and $4.8 million, respectively, in gross revenues from a
significant client which accounted for 15%, 13% and 13% of the segment's gross
revenues, respectively. Additionally, in 2004, 2003 and 2002 the Consumer
Products segment received from a second client, gross revenues of $15.3 million,
$13.8 million and $14.0 million, respectively, which accounted for 39%, 41% and
39% of the Consumer Products segment's total gross revenues, respectively.
Finally, in 2004, 2003 and 2002 the Consumer Products segment received from a
third client, gross revenues of $11.2 million, $9.4 million and $9.3 million,
respectively, which accounted for 29%, 28% and 26% of the Consumer Products
segment's total gross revenues. The Company has extended its contracts with its
three significant clients through 2005 and 2006.
Warrantech International Segment
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Warrantech International designs, develops, markets and acts as a third
party administrator for many of the same Programs and services outside the
United States that Warrantech Automotive and Warrantech Consumer Products market
and administer in the United States and Canada..
Warrantech International conducts its efforts on a direct basis and has
developed relationships with retailers and distributors throughout the
Caribbean, Central America and South America. It is currently doing business in
Puerto Rico, Guatemala, El Salvador, Chile and Peru. The Company believes its
expansion in Latin American markets will be facilitated by its strategic
alliance with Atento, a multi-national call center owned by Spain's Grupo
Telefonica, which should allow Warrantech International to readily enter markets
in Latin America where Atento has existing call center operations.
The Programs administered by Warrantech International consist of Plans
between the purchaser and the retailer/dealer or the insurance company and
typically offer coverage similar to that offered by Warrantech Automotive and
Warrantech Consumer Products. Coverage is available in the event of the failure
of a broad range of mechanical components occurring during the term of the Plan,
other than failures covered by a manufacturer's warranty.
3
Warrantech International has fewer direct competitors in Central and South
America than the Company's other segments face in the United States and Canada.
Its competitive position is also enhanced by experienced local management,
flexibility, prompt reaction to client needs and strategic alliances such as the
one with Atento described above.
Although a Plan sold or issued under a Program may designate an
obligor, other than the applicable insurance company, that is legally
responsible for the cost of valid repairs or replacements made thereunder, those
liabilities are fully insured by an independent insurance company that is
ultimately responsible for such costs. Insurance coverage has been and continues
to be provided by Cruz del Sur in Chile, La Positiva in Peru, Universal
Insurance Company and GAIC in Puerto Rico and GAIC in Guatemala and El Salvador.
Effective September 2003, as a result of terminating its relationship with
Universal Insurance Company, it suspended its Automotive program in Puerto Rico.
The Company is in the process of establishing insurance programs with another
carrier for its automotive products in Puerto Rico.
In 2004, 2003 and 2002 the International segment received $1.9 million,
$1.4 million and $0.2 million, respectively, in gross revenues from a
significant client which accounted for 25%, 27% and 3% of the segment's gross
revenues, respectively. Additionally, in 2004, 2003 and 2002 the International
segment received from a second client gross revenues of $1.5 million, $0.7
million and $0.1 million, respectively, which accounted for 19%, 14% and 2% of
the International segment's total gross revenues, respectively. Finally, in
2004, 2003 and 2002 the International segment received from a third client that
severed relations with the Company during fiscal 2004, gross revenues of $1.0
million, $1.5 million and $0.3 million, respectively, which accounted for 12%,
28% and 6% of the International segment's total gross revenues.
Sales and Marketing
- -------------------
Each business segment is responsible for its own sales and marketing
activities. These activities are managed by the segment's own personnel. In
certain circumstances, the business segments have entered into marketing
agreements with independent organizations that solicit clients at their own
expense, and receive a commission on all Plans sold by such clients.
The Warrantech business segments endeavor to improve Program
performance through participation in cooperative marketing programs that may be
jointly funded by Warrantech and the client or independent sales
representatives.
Training and motivational programs are an important form of the
specialized assistance provided by the Company to increase the effectiveness and
profitability of Program sales efforts. The Company also develops informational
and promotional materials and conducts informational meetings either at the
client's place of business or an offsite facility with the goal of improving
Program effectiveness. The Company also uses its state-of-the-art training
facility, located at its Bedford, Texas corporate offices, to provide a variety
of training and educational programs to its internal personnel, thereby
increasing their effectiveness and efficiency.
Warrantech also markets directly to the ultimate consumer on behalf of
the retailer and for manufacturer's programs through telemarketing and direct
mail campaigns. These direct marketing campaigns generate sales through renewals
of expiring Plans and initiating sales to customers who did not buy a Plan at
the time of product purchase.
4
Significant Customers
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During the fiscal year ended March 31, 2004, the Company had one
customer which accounted for more than 10% of the Company's consolidated gross
revenues. In 2004, 2003 and 2002 gross revenues from this significant customer
were $15.3 million, $13.8 million and $14.0 million, respectively, which
accounted for 11%, 9% and 12% of the Company's total gross revenues,
respectively.
Competition
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Although accurate information on private companies is difficult to
obtain, the Company believes it is among the ten (10) largest independent third
party administrators in the United States. All of the Company's business
segments compete with subsidiaries and/or divisions of major financial
institutions and insurance companies such as Aon and American International
Group. The segments also compete against programs offered by product
manufacturers. This is particularly true for the Automotive segment which
competes against VSC programs offered by major manufacturers such as General
Motors, Ford and Chrysler. The Company acknowledges that a number of these
competitors have significantly more employees, greater financial resources and
more immediate name recognition than the Company. It believes, however, that its
broad client base and the competitive strengths and advantages described above
have allowed it to compete effectively and will enable it to grow its business
in the future.
Contract Obligors
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Each Plan contains the name of a designated obligor that is legally
responsible for the cost of any valid claim submitted under the Plan. The
Company, however, arranges for an independent insurance company to issue a
policy on behalf of the named obligor that covers all of the obligor's
liabilities under the Plan. As a result, the insurance company is ultimately
responsible for paying the cost of any and all valid claims submitted under the
Plan. In the event, however, that the insurance company refuses or is unable to
pay a covered claim, the designated obligor will be responsible for the payment
and it will have recourse against the insurance company or its estate (in the
event of an insolvency or liquidation) to recover the payment.
Prior to April 1, 2000, one of the Company's subsidiaries or a
retailer/dealer would routinely be named the obligor under the Plans. Since
April 1, 2000, however, Butler Financial Services, LLC ("Butler"), a company
unrelated to Warrantech but included in the Company's financial results due to
its close transactional ties with the Company, has served as the obligor under
all Plans sold or issued under a Program in exchange for a fee payable by the
seller or issuer of the Plan. Notwithstanding the forgoing, however, a Company
subsidiary continues to act as the designated obligor for Plans sold in the
States of California and Florida due to regulatory considerations. Furthermore,
Butler has contractually assumed the liabilities of the obligor under all
pre-existing Plans in which one of the Company's subsidiaries was named as the
designated obligor. The liabilities of the designated obligor under these
pre-existing Plans were insured by an independent insurance company and, as a
result of this assumption by Butler, the coverage afforded by these insurance
policies now benefits Butler as the named obligor.
Certain of the Plans under which Butler is the designated obligor were
insured by Reliance. The liquidation of Reliance (see "Management's Discussion
and Analysis - Insurer in Liquidation" below) has eliminated Butler's insurance
coverage under those Plans. Warrantech Automotive is the obligor, as well as the
administrator, under some of the VSC's that were insured by Reliance. As the
obligor, Warrantech Automotive is ultimately responsible for paying the valid
claims submitted under those VSC's in which Warrantech Automotive is the
designated obligor. Prior to Reliance's liquidation, Reliance paid the cost of
such covered claims under the insurance policies it provided. Subsequent to the
liquidation of Reliance, however, insurance coverage for Warrantech Automotive's
obligations under those VSC's was no longer available
5
Funding to cover these uninsured claims is provided by a special
surcharge, which is payable on certain VSC's sold after November 19, 2001. This
surcharge will be paid by clients through which Reliance-insured VSC's were
sold. These funds will be used to pay valid claims submitted under VSC's
previously insured by Reliance.
For financial reporting purposes, for the reasons stated in Footnote 3
& 4 of the Financial Statements annexed to this Report, the Company has adopted
a policy to treat the Butler-obligor contracts as if they were contracts in
which Warrantech was the legal obligor. As a result, the Company recognizes
revenues under such contracts pursuant to FASB Technical Bulletin 90-1. The
Company also includes, as its own liabilities, liabilities of Butler relating to
such contracts. Additionally, because the Company is treating the Butler-obligor
contracts as Warrantech obligor contracts for financial purposes, the Company
excludes from its financial statements the transactions between Warrantech and
Butler. Adopting these policies for accounting reporting purposes does not alter
the legal obligations under the applicable agreements in which the Company is
not responsible for, and has not assumed, the obligations of Butler. Butler
remains legally obligated under such agreements and the service contracts in
which it is the named obligor.
Butler is not deemed a "consolidated subsidiary" of the Company, as
that term is used in this Report, including, but not limited to, the
Certifications pursuant to Sections 302 and 906 of the Sarbanes-Oxley Act of
2002 which are annexed to this Report. Butler's income, expenses, assets and
liabilities have not been consolidated with those of the Company. Butler is an
independent entity owned by parties unrelated to the Company and, except for the
transactions between Butler and Warrantech as described in this Report,
Warrantech does not have knowledge of, or control over, Butler's affairs or
financial reporting. Warrantech also has no knowledge of, nor has it established
or evaluated, Butler's internal controls or disclosure controls or procedures.
Any reference to "consolidated subsidiary," internal controls or disclosure
controls and procedures in this Report, including, but not limited to, the
Certifications pursuant to Sections 302 and 906 of the Sarbanes-Oxley Act of
2002 which are annexed to this Report, do not pertain to Butler.
Insurance Coverage
- ------------------
Each Plan contains the name of a designated obligor that is legally
responsible for the cost of any valid claim submitted under the Plan. The
Company, however, arranges for an independent insurance company to issue a
policy on behalf of the named obligor that covers all of the obligor's
liabilities under the Plan. As a result, the insurance company is ultimately
responsible for paying the cost of any and all valid claims submitted under the
Plan.
For each Plan sold or issued, the insurance company is entitled to
receive a contractually fixed amount that is included in the selling price of
the Plan. Generally, this amount is collected by the retailer/dealer at the time
of sale and forwarded to the Company at contractually agreed intervals. The
Company then holds this amount until required to remit it to the insurance
company at contractually agreed intervals. The Company's obligations with
respect to such amounts are purely administrative and it acquires no rights in
or to such amounts by the performance of its obligations. The calculation of
these amounts is based upon the insurance company's actuarial analysis of claims
data collected and maintained for each type of coverage and Plan term. Once the
retailer/dealer has remitted such contractually fixed amount to the Company, the
insurer is fully liable for all valid claims submitted under the applicable
Plan, even if such contractually fixed amount is insufficient to cover the cost
of such claims.
Currently, GAIC is the primary insurer of Warrantech Automotive's VSC
Programs. On reinsurance Programs offered to automobile dealerships and other
specialty marketers, the Company also has an agreement with Heritage, a risk
retention group that is not rated by any nationally recognized rating agency.
6
One or more reinsurance companies, contracted by Heritage, participate in this
Program as well. During the immediately preceding five-year period, portions of
the Warrantech VSC Programs were insured by Reliance (see "Management's
Discussion and Analysis - Insurer in Liquidation" below), the New Hampshire
Insurance Company and other member companies of American International Group,
Inc. ("AIG").
GAIC also insures Plans issued under Programs marketed and administered
by Warrantech Consumer Products after February 12, 2000. During the immediately
preceding five-year period, insurance for Plans issued under such Programs was
provided by Reliance (see "Management's Discussion and Analysis - Insurer in
Liquidation" below) and CIGNA Insurance Company.
Except as otherwise noted herein, current insurance coverage is
provided by highly rated independent insurance companies. As noted above, in the
United States and Canada providers include GAIC which is rated A (Excellent) and
Heritage which is an unrated risk retention group. Certain Programs have been or
are currently insured by (i) New Hampshire Insurance Company and/or other AIG
member companies and Tokio Marine & Fire Insurance Company, each of which is
rated A++ (Superior) and (ii) CIGNA Insurance Company (acquired by ACE Insurance
Company) which is rated A (Excellent). Internationally, insurance coverage was
provided by Universal Insurance Company in Puerto Rico on automotive programs
through August 2004, rated A - (Excellent), Cruz del Sur in Chile, and La
Positiva in Peru. All ratings for the United States, Canada and Puerto Rico are
made by A.M. Best Company.
Agreements between the Company and the insurers may contain
profit-sharing features that permit the Company to share in underwriting profits
earned under the Programs. The amounts to be received, if any, are determined in
accordance with certain specified formulas based upon the type of program and
the policy year. Certain of these agreements require interim calculations and
distributions for various Programs, with final calculations being made as Plan
terms expire. The Company recognized $173,609.56 and $71,784 in profit sharing
through its International segment in the fiscal year ended March 31, 2004 and
2003, respectively. No profit sharing was recognized for the fiscal year ended
March 31, 2002.
Federal and State Regulation
- ----------------------------
The Programs designed, developed and marketed by the Company's
subsidiaries and their related operations are regulated by federal law and the
statutes of a significant number of states. The Company continually reviews all
existing and proposed statutes and regulations to ascertain their applicability
to its existing operations, as well as to new Programs that the Company is
developing.
Generally, these statutes apply to the scope of service contract
coverage and the content of the service contract or limited warranty document.
Statutes typically require specific wording that expressly states the consumer's
rights in the event of a claim, how the service contract may be canceled, and
identification of the insurance company that insures the named obligors against
the cost of valid claims submitted under the service contract.
Insurance departments in some states have sought to interpret the
consumer product service contract, or certain specific items covered under such
contract, as a form of insurance requiring that the issuer be a duly licensed
and chartered insurance company. The Company does not believe that it or any of
its subsidiaries is an insurer and has no intention of filing the documents or
meeting the capital and surplus requirements that are necessary to obtain a
license as an insurance company.
There are instances where the applicability of statutes and regulations
to Programs and/or compliance therewith, involve issues of interpretation. The
Company uses its best efforts including, but not limited to, consultation with
legal and regulatory professionals to comply with applicable statutes and
regulations. It cannot, however, be certain that its interpretations, if
challenged, would be upheld by a court or regulatory body. In any situation in
which the Company has been specifically notified by a regulatory body that its
methods of doing business were not in compliance with applicable laws or
regulations, the Company has taken the steps necessary to comply.
7
If the Company's right to operate in a state is challenged
successfully, the Company may be required to cease operations in such state and,
in certain circumstances, financial sanctions may be imposed against the
Company. These actions, should they occur, could have an adverse impact on the
Company's operations. Within the framework of currently known statutes and
regulations, however, the Company does not believe that this is a material
concern at this time.
In order to reduce its operating costs, the Company has begun a
reorganization of its corporate structure that involves the transfer of some of
the Company's operations from corporate entities to limited partnerships. This
reorganization should have no effect on the Company or its operations other than
a reduction of its franchise tax obligations and other operating costs.
Intellectual Property
- ---------------------
The Company holds numerous registered United States trademarks, the
most important of which are the "Warrantech" and its stylized "W" logo service
marks. Additional service marks are registered covering subsidiary and Program
names and descriptions such as "Repairmaster(R)," "RepairGuard(R)," "Xchange
Card(R)," "WCPSOnline(R)", "OneWorld(R)" and "VSCOnline(R)." The Company has
kept, and intends to keep, the registration for all service marks current.
The Company has developed proprietary computer software that consists
of custom designed relational databases with interactive capabilities. Essential
to the success of the Company is its ability to Maintain all relevant data
regarding the Plans administered by the Company's business segments. Development
costs associated with this proprietary software have been capitalized and are
being amortized over the expected useful life of the software.
Employees
- ---------
As of March 31, 2004 the Company and its subsidiaries had approximately
361 employees, a decrease of approximately eleven employees from the preceding
fiscal year. As of July 16, 2004, the Company had approximately 378 employees.
None of the Company's employees are covered by a collective bargaining
agreement. The Company considers its relations with its employees to be good.
8
Item 2. Properties
The Company's executive office is located at 121 Airport Centre II,
Bedford, Texas. The premises, consisting of approximately 67,800 square feet, is
leased pursuant to a lease agreement expiring February 28, 2013, which provides
for an annual base rent of $1.2 million. These premises also accommodate the
Company's Automotive, Consumer Products, International and Direct Marketing
operations.
Warrantech International's Puerto Rico operations are located in leased
premises at 1225 Ponce de Leon Avenue, Santurce, Puerto Rico pursuant to a lease
that expires March 31, 2005 and continues on a monthly basis. The lease provides
for annual base rent payments of $61,794 for 3,433 square feet.
Warrantech International's Chile operations are located in leased
premises at Avenida 11 de Septembre No. 1881 Officia No. 1619 Providencia,
Santiago, Chile. This office supports the operations in Chile, and is Warrantech
International's flagship operation to pursue and help implement the Company's
international expansion strategies throughout South America. The lease provides
for annual base rent payments of $29,900 for 145 square meters.
Warrantech International's Peru operations are located in leased
premises at Avenida Paseo de la Republica #3691 Officina No 501 San Isidro Peru.
This office supports the operations in Peru. The lease provides for annual base
rent payments of $5,280 for 323 square feet
Item 3. Legal Proceedings
Information regarding legal proceedings is set forth in Note 13 in the
Notes to Consolidated Financial Statements set forth in "Item 8. - Consolidated
Financial Statements and Supplementary Data" under the subheading "Litigation,"
which is hereby incorporated by reference.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of the Company's Stockholders,
through the solicitation of proxies or otherwise, during the fourth quarter of
the Company's fiscal year ended March 31, 2004.
9
PART II
Item 5. Market for Warrantech's Common Equity and Related Stockholder Matters.
The Company's common stock, $.007 par value per share (the "Common
Stock") trades under the symbol "WTECE.OB." Trades are reported on the
Over-The-Counter ("OTC") electronic quotation service of the National
Association of Securities Dealers Market Makers.
As of July 30, 2004, there were 15,398,674 shares of outstanding Common
Stock and approximately 862 stockholders of record. On that date, the closing
bid price for the Common Stock, as reported on the OTC was $0.70.
Following is a summary of the price range of the Company's Common Stock
during fiscal years 2004 and 2003:
Fiscal 2004 Fiscal 2003
Quarter High & Low Bid High & Low Bid
First $ 1.68 $ 0.96 $ 0.77 $ 0.42
Second $ 1.50 $ 1.05 $ 1.29 $ 0.59
Third $ 1.42 $ 1.01 $ 1.65 $ 0.75
Fourth $ 1.25 $ 0.91 $ 1.50 $ 1.05
No cash dividends have been paid to holders of Common Stock since
inception of the Company. The Company anticipates that earnings, if any, will be
retained for use in the business or for other corporate purposes and it is not
anticipated that cash dividends will be paid in the foreseeable future.
Item 6. Selected Financial Data
The Selected Financial Data should be read in conjunction with the
consolidated financial statements and related notes as of and for the years
ended March 31, 2004, 2003 and 2002.
For The Years Ended March 31,
2004 2003 2002 2001 2000
------------- ------------- ------------- ------------- -------------
Gross Revenues $ 149,328,267 $ 146,754,611 $ 118,137,862 $ 130,504,455 $ 160,340,480
Net (increase) decrease in deferred
revenues (29,366,988) (48,517,264) (23,379,415) (32,982,493) 11,907,274
------------- ------------- ------------- ------------- -------------
Net revenues $ 119,961,279 $ 98,237,347 $ 94,758,447 $ 97,521,962 $ 172,247,754
============= ============= ============= ============= =============
Gross Profit $ 32,533,661 $ 35,688,007 $ 8,142,830 $ 26,906,576 $ 44,235,426
============= ============= ============= ============= =============
Profit (loss) from operations $ (1,268,123) $ 1,079,234 $ (25,785,314) $ (18,924,065) $ (10,958,642)
============= ============= ============= ============= =============
Net income (loss) $ (516,371) $ 1,466,892 $ (16,513,704) $ (11,908,073) $ (7,564,955)
============= ============= ============= ============= =============
Basic earnings (loss) per common share $ (0.03) $ 0.10 $ (1.08) $ (0.78) $ (0.64)
============= ============= ============= ============= =============
Diluted earnings (loss) per common share $ (0.03) $ 0.10 $ (1.08) $ (0.78) $ (0.64)
============= ============= ============= ============= =============
Cash dividend declared None None None None None
------------- ------------- ------------- ------------- -------------
Total assets $ 257,184,550 $ 260,245,877 $ 209,631,605 $ 163,454,040 $ 149,153,101
============= ============= ============= ============= =============
Long-term debt and capital lease
obligations $ 980,903 $ 1,218,670 $ 957,159 $ 1,209,853 $ 1,668,478
============= ============= ============= ============= =============
Common stockholders' equity (deficiency) $ (25,798,951) $ (25,471,901) $ (26,460,501) $ (9,715,827) $ 2,519,870
============= ============= ============= ============= =============
10
WARRANTECH CORPORATION AND SUBSIDIARIES
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Cautionary Statement Regarding Risks and Uncertainties That May Affect Future
Results
Except for the historical information contained herein, the matters
discussed below or elsewhere in this Annual Report on Form 10-K may contain
forward-looking statements that involve risks and uncertainties that could cause
actual results to differ materially from those contemplated by the
forward-looking statements. The Company makes such forward-looking statements
under the provisions of the "safe harbor" section of the Private Securities
Litigation Reform Act of 1995. Forward-looking statements reflect the Company's
views and assumptions, based on information currently available to management,
including, among other things, the Company's operating and financial performance
over recent years and its expectations about its business for the current and
future fiscal years. When used in this Annual Report on Form 10-K, the words
"believes," "estimates," "plans," "expects," and "anticipates" and similar
expressions as they relate to the Company or its management are intended to
identify forward-looking statements.
Although the Company believes that the expectations reflected in the
forward-looking statements are reasonable, it can give no assurance that its
expectations will prove to be correct. These statements are subject to certain
risks, uncertainties and assumptions, including, but not limited to,
(a) prevailing economic conditions which may significantly deteriorate,
thereby reducing the demand for the Company's products and services,
(b) availability of technical support personnel or increases in the
rate of turnover of such personnel, resulting from increased demand for
such qualified personnel,
(c) changes in the terms or availability of insurance coverage for the
Company's programs,
(d) regulatory or legal changes affecting the Company's business,
(e) loss of business from, or significant change in relationships with,
any major customer,
(f) the ability to successfully identify and contract new business
opportunities, both domestically and internationally,
(g) the ability to secure necessary capital for general operating or
expansion purposes,
(h) the adverse outcomes of litigation,
(i) the non-payment of notes due from an officer and two directors of
the Company in 2007, which would result in a charge against earnings in
the period in which the event occurred,
(j) the inability of any of the insurance companies which insure the
service contracts marketed and administered by the Company to pay the
claims under the service contracts, and
(k) the termination of extended credit terms being provided by the
Company's current insurance company.
Should one or more of these or any other risks or uncertainties
materialize or develop in a manner adverse to the Company, or should the
Company's underlying assumptions prove incorrect, actual results of operations,
cash flows or the Company's financial condition may vary materially from those
anticipated, estimated or expected and there could be a materially adverse
effect on the Company's business.
SEC Review of the Company's Filings
In March of 2003, the staff of the Division of Corporation Finance of
the Securities and Exchange Commission selected the Company's periodic reports
for review. The reports reviewed were the Annual Report on Form 10-K for the
fiscal year ended March 31, 2002 and the Quarterly Reports on Form 10-Q for the
periods ended June 30, 2002, September 30, 2002 and December 31, 2002. The SEC
Staff informed the Company that the purpose of the review was to assist the
Company in its compliance with applicable disclosure requirements and to enhance
11
the overall disclosure in the Company's reports. In the course of its review,
the SEC Staff requested clarification of certain of the Company's disclosures
and items in its financial statements.
Butler Contracts
As a result of discussions with the SEC's Division of Corporation
Finance, the Company requested guidance from the SEC's Office of Chief
Accountant ("SEC Staff") concerning, the appropriate revenue recognition policy
which should be applied by the Company with respect to the Butler-obligor
contracts. After considering the guidance received from the SEC Staff, the
Company has restated its financial statements for the fiscal years ending on
March 31, 2001, 2002 and 2003 in order to change the method of recognizing
revenue from service contracts in which Butler is the named obligor and to give
effect to certain transactions which relate to Butler Financial Solutions, Inc.
These changes are reflected in Footnote 3 & 4 to the Financial Statements in
this Annual Report and in the following respects.
o The Company has recognized revenues from contracts in which
Butler was the obligor on a straight-line basis over the life of the service
contracts.
o The Company has set up a loss reserve for the estimated cost
of all claims under service contracts previously insured by Reliance.
o The Company has eliminated any contractual obligations
recorded with Butler.
o Additionally, the Company now presents line items for Gross
Revenue, Direct Costs and Gross Profit in its financial statements. Previously,
the Company had only recognized revenue on a net basis.
The Company, with the concurrence of its outside auditors, had
previously accounted for the Butler-related transactions based upon the legal
obligations of the parties and the regulatory requirements which applied to the
transactions. The changes which the Company has adopted are solely for financial
reporting purposes. Butler will remain responsible for the same obligations
under the service contracts which existed prior to the change in financial
presentation. The obligations of Butler under all service contracts sold after
July 25, 2000 were, and continue to be, assumed by an A-rated insurance carrier
which is a subsidiary of a New York Stock Exchange Company with over $19 billion
in assets. Butler also remains the licensed entity which is recognized as the
obligor under the service contracts regulated by the insurance departments in
all the states in which Butler does business.
Dealer-Obligor Contracts
Historically, the Company has recognized the major portion of the
revenues from the dealer-obligor contracts upon a sale to the consumer by the
dealer/retailer and has deferred a minor portion of those revenues. The Company
had taken the position that its services consist of two elements - the sale and
structuring of the contracts (which accounts for the up front revenue) and the
claims adjudication services (the revenue for which is amortized over the life
of those services).
The Company sought guidance on this issue from the SEC Staff. The
Company and its accountants, with the guidance of the SEC Staff in early 2004,
have determined that, in order to continue to recognize income under the
dealer-obligor contracts in the same manner as it has done historically, the
Company must develop adequate evidence of the fair value of the two elements.
Without this evidence, the Company would be required to recognize all of the
income associated with the dealer-obligor contracts over the life of the
contracts. This would have the effect of deferring to later periods the
substantial portion of these revenues which the Company has previously
recognized up front. This would then have the further effect of substantially
deferring the current year's income to future periods and may in fact cause the
Company to recognize a current net loss.
12
The SEC Staff offered its guidance that the Company's evidence to date
has not been sufficient to meet the standards of EITF Abstracts Issue No. 00-21
"Revenue Arrangements with Multiple Deliverables".
The Company will file its Annual Report on Form 10-K following the SEC
Staff's current guidance and recognize all of the income from the Dealer-Obligor
Contracts over the life of the contracts.
These accounting changes do not have an impact on Warrantech's cash
flows or its cash balances which the Company believes drives its business. The
deferral of revenues to future periods resulted in a significant current
negative net worth and a corresponding increase in Deferred Income on the
Balance Sheet. However, the revenue recognition accounting change will also have
a positive effect on the results for future periods.
General
Warrantech, through its wholly owned subsidiaries, designs, develops,
markets and acts as a third party administrator for programs ("Programs") for
service contracts, limited warranties and replacement plans (collectively,
"Plans"). The Company provides these services to a variety of clients in
selected industries. On a Program by Program basis, the Company contracts with
highly rated independent insurance companies or risk retention groups available
to provide coverage for the Plans sold or issued under the Programs. This
coverage obligates the insurer to pay the cost of repairs or replacements of the
products covered by the Plans.
Plans issued under the Company's Programs provide consumers with
expanded and/or extended product breakdown coverage for a specified period of
time (and/or mileage in the case of automobiles and recreational vehicles),
similar to that provided by manufacturers under the terms of their product
warranties. Coverage generally provides for the repair or replacement of the
product, or a component thereof, in the event of its failure. The Company's
Programs provide clients with the opportunity for increased revenue and income
without incurring the costs and responsibilities of operating their own
programs.
The Plans generally have terms extending up to one hundred twenty (120)
months or, in the case of mileage based Plans, up to one hundred fifty thousand
(150,000) miles. All repairs and/or replacements required under the Plans are
performed by independent third party repair facilities or dealers. The cost of
any repair or replacement is generally paid by the applicable insurance company.
Notwithstanding the forgoing, however, certain Plans were insured by Reliance
Insurance Company ("Reliance") which was placed in liquidation in 2002. For a
more detailed discussion of claims handling under Plans insured by Reliance, see
"Management's Discussion and Analysis-Insurer in Liquidation" below. For a more
detailed discussion of the responsibilities of obligors and insurers under the
Plans, see "Contract Obligors" and "Insurance" in Item I of this Annual Report
on Form 10 K.
13
The Company operates in three major business segments: Automotive,
Consumer Products and International. The Company's Automotive segment designs,
develops, markets and acts as a third party administrator for vehicle service
contract ("VSC") Programs and other related automotive after-sale products, all
of which enhance the dealer's profitability from the sale of automobiles, light
trucks, recreational vehicles, personal watercraft and automotive components.
These products are sold principally by franchised and independent automobile
dealers, leasing companies, repair facilities, retail stores, financial
institutions and other specialty marketers.
The Company's Consumer Products segment develops, markets and
administers extended warranties and product replacement plans on household
appliances, consumer electronics, televisions, computers and home office
equipment, which are sold principally through retailers, distributors,
manufacturers, utility companies, financial institutions and other specialty
marketers. Warrantech also markets these warranties and plans directly to the
ultimate consumer on behalf of the retailer/dealer and/or the manufacturer
through telemarketing and direct mail campaigns. It also offers call center and
technical computer services.
Warrantech International designs, develops, markets and acts as a third
party administrator for many of the same Programs and services outside the
United States that Warrantech Automotive and Warrantech Consumer Products market
and administer in the United States and Canada..
Insurer in Liquidation
During the second fiscal quarter of 2002, the Pennsylvania Insurance
Commissioner informed the Company that Reliance, which previously insured
service contracts administered by the Company, would be liquidated and cease
making payments on claims. The Pennsylvania Insurance Commissioner determined
that Reliance was not likely to be able to satisfy all of the claims that would
be submitted to it due to the circumstances arising out of the September 11,
2001 terrorist attacks on the World Trade Center. Reliance underwrote
approximately 48% of the service contracts that were sold by Warrantech
Automotive during the approximately one and one-half years ending in November
2001. Approximately 52% of the automotive service contracts sold by Warrantech
Automotive during that period are not affected by the Reliance liquidation.
Service contracts sold before and after that period are not affected because
they are underwritten by other insurance companies.
Warrantech Automotive was the named obligor, as well as the
administrator, under certain of the VSC's that were insured by Reliance. As the
obligor, Warrantech Automotive was ultimately responsible for paying the valid
claims submitted under those VSC's in which Warrantech Automotive is the
designated obligor. Additionally, for financial reporting purposes only,
Warrantech is treated as the obligor under the service contracts in which Butler
is the named obligor. While Warrantech is not obligated to pay claims under such
service contracts, it has treated the claims obligations under the
Butler-obligor contracts, including the service contracts which were insured by
Reliance, as obligations of the Company for financial reporting purposes.
Prior to Reliance's liquidation, Reliance paid the cost of such covered
claims under the insurance policies it provided. Subsequent to the liquidation
of Reliance, however, insurance coverage for Warrantech Automotive's obligations
under those VSC's was no longer available. However, a non-insurance affiliate of
Reliance, Reliance Warranty Company (RWC), which was not placed in liquidation,
held premiums totaling approximately $15,892,635 relating to a portion of the
service contracts in which Butler, the retailer/dealers and Warrantech
Automotive were the named obligors. The Company received $15,892,635 from RWC
during the fourth quarter of fiscal 2004 as part of a settlement for claims paid
by the Company on behalf of RWC.
14
Funding to cover these uninsured claims is provided by a special
surcharge, which is payable on applicable VSC's sold under a Program after
November 19, 2001. This surcharge will be paid by clients through which
Reliance-insured VSC's were sold. These funds will be used to pay valid claims
submitted under VSC's previously insured by Reliance.
To mitigate its claims liability expense resulting from Reliance's
liquidation, the Company is attempting to ascertain if any recovery is available
from the Pennsylvania Insurance Department Insurance Funds and/or any other
state guaranty funds or if any Federal subsidies to the insurance industry in
general or Reliance specifically, will be made available as a result of the
terrorist attacks to pay vehicle service contract claims. If such subsidies are
available, it could take years before recovery, if any, is obtained.
The Company is aware that significant financial pressures were placed
on insurance companies, due to the terrorist attacks on the World Trade Center
on September 11, 2001; however, the Company is not aware that Great American
Insurance Company, which insures most of the obligations under the other service
contracts marketed and administered by the Company, is under any such financial
pressures. If for any reason, an insurance company is not able to cover claims
under the service contracts marketed and administered by the Company due to its
financial insolvency or other reasons, there could be a material adverse effect
on the Company's future business.
Butler Financial Services, LLC
Each Plan contains the name of a designated obligor that is legally
responsible for the cost of any valid claim submitted under the Plan. The
Company, however, arranges for an independent insurance company to issue a
policy on behalf of the named obligor that covers all of the obligor's
liabilities under the Plan. As a result, the insurance company is ultimately
responsible for paying the cost of any and all valid claims submitted under the
Plan. In the event, however, that the insurance company refuses or is unable to
pay a covered claim, the designated obligor will be responsible for the payment
and it will have recourse against the insurance company or its estate (in the
event of an insolvency or liquidation) to recover the payment.
Prior to April 1, 2000, one of the Company's subsidiaries or a
retailer/dealer would routinely be named the obligor under the Plans. Since
April 1, 2000, however, Butler Financial Services, LLC ("Butler"), a company
unrelated to Warrantech but included in the Company's financial results due to
its close transactional ties with the Company, has served as the obligor under
all Plans sold or issued under a Program in exchange for a fee payable by the
seller or issuer of the Plan. Notwithstanding the forgoing, however, a Company
subsidiary continues to act as the designated obligor for Plans sold in the
States of California and Florida due to regulatory considerations. Furthermore,
Butler has contractually assumed the liabilities of the obligor under all
pre-existing Plans in which one of the Company's subsidiaries was named as the
designated obligor. The liabilities of the designated obligor under these
pre-existing Plans were insured by an independent insurance company and, as a
result of this assumption by Butler, the coverage afforded by these insurance
policies now benefits Butler as the named obligor.
Certain of the Plans under which Butler is the designated obligor were
insured by Reliance. The liquidation of Reliance (see "Management's Discussion
and Analysis - Insurer in Liquidation" above) has eliminated Butler's insurance
coverage under those Plans.
For financial reporting purposes, for the reasons stated in Footnote 3
& 4 of the Financial Statements annexed to this Report, the Company has adopted
a policy to treat the Butler-obligor contracts as if they were contracts in
which Warrantech was the legal obligor. As a result, the Company recognizes
revenues under such contracts pursuant to FASB Technical Bulletin 90-1. The
Company also includes, as its own liabilities, liabilities of Butler relating to
15
such contracts. Additionally, because the Company is treating the Butler-obligor
contracts as Warrantech obligor contracts for financial purposes, the Company
excludes from its financial statements the transactions between Warrantech and
Butler. Adopting these policies for accounting reporting purposes does not alter
the legal obligations under the applicable agreements in which the Company is
not responsible for, and has not assumed, the obligations of Butler. Butler
remains legally obligated under such agreements and the service contracts in
which it is the named obligor.
Butler is not deemed a "consolidated subsidiary" of the Company, as
that term is used in this Report, including, but not limited to, the
Certifications pursuant to Sections 302 and 906 of the Sarbanes-Oxley Act of
2002 which are annexed to this Report. Butler's income, expenses, assets and
liabilities have not been consolidated with those of the Company. Butler is an
independent entity owned by parties unrelated to the Company and, except for the
transactions between Butler and Warrantech as described in this Report,
Warrantech does not have knowledge of, or control over, Butler's affairs or
financial reporting. Warrantech also has no knowledge of, nor has it established
or evaluated, Butler's internal controls or disclosure controls or procedures.
Any reference to "consolidated subsidiary," internal controls or disclosure
controls and procedures in this Report, including, but not limited to, the
Certifications pursuant to Sections 302 and 906 of the Sarbanes-Oxley Act of
2002 which are annexed to this Report, do not pertain to Butler.
Results of Operations
The following information should be read in conjunction with the
information contained in the Consolidated Financial Statements and the Notes
thereto included in "Item 8 - Financial Statements and Supplementary Data" of
this Annual Report.
Gross Revenues
--------------
For the Years Ended March 31,
-------------------------------------------------
2004 2003 2002
------------ ------------ ------------
Gross revenues $149,328,267 $146,754,611 $118,137,862
============ ============ ============
Gross revenues for the year ended March 31, 2004 increased $2,573,656 or 2% over
fiscal 2003. The Consumer Products and International segments reported increased
gross revenues of 16% and 44% respectively, in the year ended March 31, 2004
over 2003, while the Automotive segment reported a decrease in gross revenues of
4% during the same period. Gross revenues for the year ended March 31, 2003
increased $28,616,749 or 24% over 2002. The Automotive and International
segments reported increased gross revenues of 38%, and 19% respectively, in the
year ended March 31, 2003 over 2002, while the Consumer Products segment
reported a slight 6% decrease in gross revenues during the same period.
Direct Costs
------------
For the Years Ended March 31,
-------------------------------------------------
2004 2003 2002
------------ ------------ ------------
Direct costs $ 87,427,618 $ 62,549,340 $ 67,023,904
============ ============ ============
Direct costs are those costs directly related to the production and acquisition
of service contracts. These costs consist primarily of insurance premiums and
commission expenses. Direct costs for the fiscal year ended March 31, 2004 of
$87,427,618, increased $24,878,278 or 40% as compared with $62,549,340 during
16
the fiscal year ended March 31, 2003. Direct costs for the fiscal year ended
March 31, 2003 were $62,549,340 as compared with $67,023,904 for the fiscal year
ended March 31, 2003, a decrease of 7%. Direct costs as a percent of net
revenues decreased from 71% in 2002 to 64%.
Claims Expense - Reliance
-------------------------
For the Years Ended March 31,
------------------------------------------
2004 2003 2002
------------ ------------ ------------
Claims expense - Reliance $ -- $ -- $ 19,591,713
============ ============ ============
Because of the Reliance liquidation, insurance coverage for certain of the
Company's obligations under service contracts insured by Reliance was no longer
available. Although Butler is the legal obligor, the Company, in accordance with
SEC guidance, estimated that claims liability for current and future claims
related to the Reliance insurance obligations would be $35,484,348. The Company
received $15,892,635 from RWC during the fourth quarter of fiscal 2004 as part
of a settlement for claims paid by the Company on behalf of RWC. As a result of
the expected settlement, the Company recorded a claims liability expense of
$19,591,713 during fiscal 2002, net of the $15,892,635 receivable from RWC.
SG&A
----
For the Years Ended March 31,
------------------------------------------
2004 2003 2002
------------ ------------ ------------
Legal settlement -- -- $ (824,332)
Service, selling and
general administrative $ 29,931,180 $ 30,573,275 $ 30,272,034
============ ============ ============
Service, selling and general and administrative expenses ("SG&A") for
2004 decreased $642,095 or 2% compared to 2003. Legal expenses decreased
$1,336,499 for the year ended March 31, 2004 compared to 2003, primarily due to
the settlement of several lawsuits during fiscal 2003. Employee costs increased
from $17,499,958 in fiscal 2003 to $17,843,137 for the year ended March 31,
2004, primarily due to an increase in health care costs. Rent expense increased
$312,319 from $1,862,654 for the year ended March 31, 2003 to $2,174,973 for the
year ended March 31, 2004, reflecting the Company's move to its new corporate
headquarters in Bedford, Texas.
SG&A for 2003 increased $301,241 or 4% compared to 2002, which did not
include an $824,332 legal settlement the Company received in 2002. Legal
expenses increased $1,656,377 for the year ended March 31, 2003 compared to
2002, primarily due to litigation expenses related to several lawsuits that were
settled during fiscal year 2003. Reflecting the Company's continued cost
containment measures, employee costs were down $780,565, or 4%, from $18,280,522
in the year ended March 31, 2002 to $17,499,957 in fiscal 2003, while telephone
expenses were reduced 39% or $951,446 from $2,418,892 in the year ended March
31, 2002 as compared to $1,467,446 in the year ended March 31, 2003. Rent
expense increased from $1,415,104 for the year ended March 31, 2002 to
$1,862,654 for the year ended March 31, 2003, reflecting the Company's move to
its new corporate headquarters in Bedford, Texas.
Depreciation and amortization
-----------------------------
For the Years Ended March 31,
------------------------------------------
2004 2003 2002
------------ ------------ ------------
Depreciation and
amortization $ 3,280,604 $ 3,885,054 $ 4,480,442
============ ============ ============
Depreciation and amortization expenses were reduced by $604,450 or 16%
during 2004 compared to 2003 and by $595,388 or 13% during 2003 compared to
2002. The decrease in depreciation and amortization is the result of the
Company's assets maturing and a reduced requirement for capital expenditures for
the past few years.
17
Other Income
------------
For the Years Ended March 31,
------------------------------------------
2004 2003 2002
------------ ------------ ------------
Interest and dividend
income $ 615,248 $ 647,372 $ 855,877
Interest expense (690,019) (275,185) (217,072)
Gain (loss) on sale of
assets 1,195 (70,463) (45,018)
Credit card usage rebate 541,345 453,760 147,735
Miscellaneous income 106,691 18,790 115,944
------------ ------------ ------------
Total other income $ 574,460 $ 774,274 $ 857,466
============ ============ ============
Other income for 2004 decreased $199,814 or 25% compared to 2003.
Higher interest expense, primarily due to the Company's extended payment terms
for its insurance premium payable, partially offset by higher miscellaneous
income, as a result of the sublease of the Company's former location which
ceased in March 2004. Other income for 2003 decreased $83,192, or 10%, compared
to 2002, primarily due to a decrease in interest and dividend income and an
increase in interest expense, which was offset by an increase in the amount of
rebates the Company received from a credit card company.
Income Tax Expense
------------------
For the Years Ended March 31,
------------------------------------------
2004 2003 2002
------------ ------------ ------------
Income taxes expense
(benefit) $ (177,292) $ 386,616 $ (8,414,144)
============ ============ ============
The net deferred tax asset as of March 31, 2004, 2003 and 2002
contained a benefit of $137,456, $205,470 and $594,599, respectively, related to
foreign losses. Management does not believe the amount of this benefit is more
likely than not to be realized. Accordingly, management has reserved the amount
of this benefit.
Comprehensive Income
--------------------
For the Years Ended March 31,
------------------------------------------
2004 2003 2002
------------ ------------ ------------
Net income (loss) $ (516,371) $ 1,466,892 $(16,513,704)
Other comprehensive income
(loss), net of tax
Unrealized gain (loss) on
investments (17,083) 13,713 (8,936)
Foreign currency translation
adjustments 364,858 (158,659) (11,143)
------------ ------------ ------------
Comprehensive income (loss) $ (168,596) $ 1,321,946 $(16,533,783)
============ ============ ============
Comprehensive income (loss)
per share: $ (0.01) $ 0.09 $ (1.08)
============ ============ ============
Gains from foreign currency translation adjustments increased $523,517
for the year ended March 31, 2004 compared to 2003, and losses from foreign
currency translation adjustments for the year ended March 31, 2003 increased
$147,516 compared to 2002 primarily due to increased Peru and Chile foreign
currency translation fluctuations.
18
Agreements
- ----------
The Company entered into agreements with Butler and GAIC to arrange for
the coverage of claims filed under the service contracts previously insured by
Reliance. Under these agreements, Butler agreed to assume all the obligations to
pay the claims under the service contracts which were covered by the premiums
being held by RWC. The Company executed an agreement with GAIC that provides the
Company with extended payment terms and a $3 million line of credit ("GAIC
Agreement"). All of the Company's obligations to GAIC pursuant to the GAIC
Agreement are secured by all of the Company's accounts receivable. Further, GAIC
received options to purchase up to 1,650,000 shares of Warrantech's common stock
at an exercise price of $2.00 per share subject to certain adjustments. In the
event that GAIC exercises all of these options, it would own approximately 10.8%
of the Company's outstanding shares.
Under an agreement between Butler and RWC that was concluded in the
fourth quarter of 2004, $15,892,635 of funds held by RWC were remitted to the
Company in repayment of the money which the Company had advanced to pay claims
on certain service contracts that had been insured by Reliance and its
affiliates. The $15,892,635 is reflected as "Receivable from Reliance" on the
consolidated balance sheet at March 31, 2003. The Company agreed, as a condition
of RWC remitting the $15,892,635, to guarantee certain indemnification
obligations of Butler under its agreement with Reliance.
The following table sets forth the carrying amounts and fair values of
the Company's notes receivable and other receivables at March 31, 2004.
Expected Maturity Date
----------------------------------------------------------------------
2005 2006 2007 2008 2009 Thereafter Total Fair Value
----------- -------- --------- --------- --------- --------- ----------- -----------
Other Receivable - 0% interest $ 7,322,289 $ -- $ -- $ -- $ -- $ -- $ 7,322,289 $ 7,322,289
The following table sets forth the carrying amounts and fair values of the
Company's notes receivable at March 31, 2003.
Expected Maturity Date
----------------------------------------------------------------------
2005 2006 2007 2008 2009 Thereafter Total Fair Value
----------- -------- --------- --------- --------- --------- ----------- -----------
Accounts Receivable - RWC $15,892,635 $ -- $ -- $ -- $ -- $ -- $15,892,635 $15,892,635
Other Receivable - 0% interest 5,299,889 -- -- -- -- -- 5,299,889 5,299,889
Funding to cover the uninsured claims is provided by a special
surcharge, which is payable on applicable VSC's sold under a Program after
November 19, 2001. This surcharge will be paid by clients through which
Reliance-insured VSC's were sold. These funds will be used to pay valid claims
submitted under VSC's previously insured by Reliance.
During the years ended March 31, 2004, 2003 and 2002, the Company paid
$9,262,407, $10,959,364 and $5,770,999, respectively, in claims related to
Reliance obligations. Remaining amounts are expected to be paid out as set forth
in the following table.
19
Expected Payment Date
-----------------------------------------------------------------------
2005 2006 2007 2008 2009 Thereafter Total
----------- ---------- --------- --------- --------- --------- ---------
Claims loss liability $ 5,608,893 $3,882,685 $ -- $ -- $ -- $ -- $9,491,578
Liquidity and Capital Resources
- -------------------------------
As of March 31, 2004, total cash and short-term investments totaled
$6,600,504, a decrease of $666,006 or 9% from $7,266,510 at March 31, 2003.
During the fiscal year ended March 31, 2004, the Company generated net cash from
operations totaling $324,252, compared to $1,248,341 for the fiscal year ended
March 31, 2003. The change in net cash from operations is due to cash received
from RWC pursuant to the Reliance Warranty receivable reduced by cash used to
pay Reliance claims. The unfavorable changes in its working capital from a
negative $4,011,146 at March 31, 2003 to a negative $6,912,209 at March 31, 2004
was due primarily to the reclassification of the $15.9 million receivable from
RWC as current asset at March 31, 2003, although the receivable was reduced by
$9.3 million used to pay Reliance claims. During fiscal year 2004, the Company
increased its accounts receivables by $1.3 million resulting from extended terms
on a portion of its new automotive business and increased other receivables by
$2.0 million as a result of an insurance company agreeing to reimburse the
Company for legal expenses. The Company offset the use of those funds with a
decrease in its insurance premium payable of $4.6 million, primarily due to
extended terms from its insurer, thereby generating a source of cash for the
fiscal year.
The Company believes that internally generated funds and the $3 million
line of credit from GAIC, will be sufficient to finance its current operations
for at least the next twelve months. The Company is aggressively pursuing new
business both domestically and internationally to fund future working capital.
The Company plans to continue to contain its SG&A costs and utilize technologies
for operational efficiencies to further enhance both its operating income and
cash flows from operating activities.
During the fiscal year ended March 31, 2004, the Company used $683,822
in cash in investing activities compared to the use of $1,525,541 in investing
activities in the prior year. This decrease in use of funds of $841,719 is
primarily due to a decrease in capital spending. During the current fiscal year,
the Company spent less on computer development and property and equipment
purchases than in the prior year, as the Company increased spending to furnish
its new headquarters during the previous year. The Company has ongoing
relationships with equipment financing companies and intends to continue
financing certain future equipment needs through leasing transactions. The total
amount financed through leasing transactions during the fiscal year ended March
31, 2004 amounted to $487,060 compared to $1,120,273 during the fiscal year
ended March 31, 2003. At fiscal year end 2004, the Company had $1,645,309 in
debt from capital lease obligations compared to $2,020,740 at fiscal year-end
2002.
During the fiscal year ended March 31, 2004, the Company used $833,187
in cash from financing activities compared to $999,548 in fiscal year 2003. The
variance was primarily due a decrease in the Company's capital leases and the
purchases of treasury stock.
During the fiscal year ended March 31, 2004 the Company did not
repurchase any common stock as compared to the fiscal year ended March 31, 2003
when the Company repurchased 259,753 shares of its common stock for treasury
purposes for an aggregate amount of $155,774.
Loans to Directors
- ------------------
On July 6, 1998, Joel San Antonio, Warrantech's Chairman and Chief
Executive Officer, and William Tweed and Jeff J. White, members of Warrantech's
Board of Directors, exercised an aggregate of 3,000,000 of their vested options
to purchase Warrantech common stock. Promissory notes totaling $8,062,500 were
signed with interest payable over three years at an annual rate of 6%. The
promissory notes, which were with recourse and secured by the stock certificates
issued, matured July 5, 2001. On March 22, 1999, Joel San Antonio delivered an
20
additional promissory note for $595,634, payable to the Company, representing
the amounts funded by the Company for the payroll taxes payable by him upon the
exercise of these options. The exercise of these stock options and the
anticipated tax benefit from this transaction represented approximately $10
million. The amounts of these notes are recorded as a contra-equity account,
which is a reduction of stockholders' equity.
In February 2000, the Company agreed to restructure the loans to Mr.
Tweed and Mr. White by capitalizing the interest due and extending the loan
maturity from July 5, 2001 until January 31, 2005. Interest on the restructured
loans accrued annually at the applicable federal rate of 6.2%. Under the
restructuring, interest first became payable on the third anniversary of the
restructuring and was payable annually thereafter. In July 2002, the Company
extended the loan maturity dates until February 1, 2007 (the "loan extension").
The interest, which accrued on the notes up to the time of the loan extension,
was added to the principal of the notes. The new principal amount of Mr. Tweed's
note became $3,189,675 and the new principal amount of Mr. White's note became
$2,912,430. The applicable federal interest rate on the notes following the loan
extension is 4.6%. Under the loan extension, interest on the notes will accrue
until February 1, 2005 and, at that time, the accrued interest will be added to
the principal of the notes. Interest on the new principal amounts thereafter
become payable annually until maturity.
In February 2000, the Company also agreed to restructure the two
existing loans to Mr. San Antonio (as restructured, the "Combined Loan"). The
Combined Loan, finalized in March 2001, was due on January 31, 2005 and accrued
interest annually at 5.2%. In July 2002, the Company extended the loan maturity
date until February 1, 2007 and the interest rate was changed to the then
applicable federal rate of 4.6%. The principal amount of Mr. San Antonio's note
became $4,165,062. Interest will be forgiven as long as Mr. San Antonio
continues to be employed by the Company. The $194,786 and $200,506 of interest
which accrued on the note during fiscal years 2004 and 2003 has been forgiven.
The interest was charged to operations as additional compensation in the
respective fiscal years the interest income was accrued.
The total amount of the restructured loans to Mr. Tweed, Mr. White and
Mr. San Antonio, including additional capitalized interest of $480,303, was
$10,747,470 at March 31, 2004.
Commitments
- ------------
Set forth below is information about the Company's commitments outstanding at
March 31, 2004.
Payments due by period
------------------------------------------------------------------------
Less than 1 - 3 3 - 5 More than
Total 1 year Years Years 5 years
------------ ------------ ------------ ------------ ------------
Capital lease obligations $ 1,894,349 $ 779,762 $ 823,235 $ 291,352 $ --
Operating leases 11,405,261 1,322,599 2,516,355 2,520,038 5,046,269
Employment agreements 6,732,667 2,245,167 2,570,000 1,037,500 880,000
Claims loss liability 9,491,578 5,608,893 3,882,685 -- --
------------ ------------ ------------ ------------ ------------
Total $ 29,523,854 $ 9,956,421 $ 9,792,275 $ 3,848,890 $ 5,926,269
============ ============ ============ ============ ============
The effect of inflation has not been significant to the Company.
21
Critical Accounting Policies
- ----------------------------
Revenue Recognition Policy
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and the disclosure of contingent assets and liabilities
at the dates of the financial statements and the reported amounts of revenues
and expenses during the reporting periods. Note 1 to the Company's Consolidated
Financial Statements set forth in the "Item 8. - Financial Statements and
Supplementary Data," describes the significant accounting policies and methods
used in the preparation of the Consolidated Financial Statements. The following
lists some of the Company's critical accounting policies affected by judgments,
assumptions and estimates.
Revenue from administrator-obligor contracts is recognized in
accordance with Financial Accounting Standards Board Technical Bulletin 90-1,
Accounting for Separately Priced Extended Warranty and Product Maintenance
Contracts, ("TB 90-1"). The Company recognizes such revenue from
administrator-obligor contracts over the life of the contract on a straight-line
basis. In addition the Company charges the costs of contracts to operations over
the life of the contracts on a straight-line basis.
Revenue from dealer-obligor service contracts, are sales in which the
retailer/dealer or a third party is designated as the obligor. Historically,
through June 15, 2003, the Company recognized revenues from these contracts in
direct proportion to the costs incurred in providing the service contract
programs to the Company's clients. Revenues in amounts sufficient to meet future
administrative costs and a reasonable gross profit were deferred.
Based upon discussions with the SEC's Division of Corporation Finance
following that office's review of the Company's periodic reports, the Company
requested guidance from the SEC's Office of Chief Accountant concerning, the
appropriate revenue recognition policy which should be applied by the Company
with respect to the Butler-obligor contracts. After considering the guidance
received from the SEC Staff, Butler was determined to be a nominally capitalized
entity, and accordingly, all transactions concerning Butler should be treated in
a manner similar to the accounting principles discussed in Financial Accounting
Standards Board Emerging Issues Task Force Topic No. D-14, Transactions
Involving Special-Purpose Entities. The Company, therefore, will treat the
Butler-obligor contracts as if they were administrator-obligor contracts and
will recognize revenues under such contracts pursuant to TB 90-1. Additionally,
because the Company is treating the Butler-obligor contracts as
Warrantech-obligor contracts for financial reporting purposes only, the Company
eliminated from its financial statements the transactions between Warrantech and
Butler.
Reflecting these transactions for financial reporting purposes does not
alter the legal obligations under the applicable agreements in which the Company
is not responsible for, and has not assumed the obligations of Butler. Butler
remains legally obligated under such agreements and the service contracts in
which it is the named obligor. Butler is not deemed a "consolidated subsidiary"
of the Company, as that term is used in this Report, including, but not limited
to, the Certifications pursuant to Sections 302 and 906 of the Sarbanes-Oxley
Act of 2002 which are annexed to this Report. Butler's income, expenses, assets
and liabilities have not been consolidated with those of the Company. Butler is
an independent entity owned by parties unrelated to the Company and, except for
the transactions between Butler and Warrantech as described in this Report,
Warrantech does not have knowledge of, or control over, Butler's affairs or
financial reporting. Warrantech also has no knowledge of, nor has it established
or evaluated, Butler's internal controls or disclosure controls or procedures.
Any reference to "consolidated subsidiary," internal controls or disclosure
controls and procedures in this Report, including, but not limited to, the
Certifications pursuant to Sections 302 and 906 of the Sarbanes-Oxley Act of
2002 which are annexed to this Report, do not pertain to Butler.
22
In addition, the Company requested guidance from the OCA concerning the
appropriate revenue recognition policy, which should be applied by the Company
with respect to the service contracts administered by the Company in which
dealers or other third parties (other than Butler) are the obligor
(dealer-obligor contracts). Prior to the request for guidance, the Company was
recognizing revenue from these contracts, as well as the Butler contracts, based
upon proportional performance. After considering the guidance received from OCA,
effective with the issuance of EITF Abstracts Issue No. 00-21 (EITF No. 00-21),
"Revenue Arrangements with Multiple Deliverables", the Company decided that it
would not be appropriate to use proportional performance for these
dealer-obligor contracts. In accordance with EITF No. 00-21 the Company's
arrangement with respect to the dealer-obligor contracts involves multiple
deliverables, which constitute separate units of accounting. The multiple
deliverables rendered by the Company consist of sale and contract structuring
services rendered to the dealer (delivered item) and claims handling and
adjudication services rendered for the insurance carrier (undelivered item).
According to EITF No. 00-21, in an arrangement of multiple deliverables, the
delivered item should be considered a separate unit of accounting if all of the
following criteria are met:
a. The delivered item has value to the customer on a standalone
basis.
b. There is objective and reliable evidence of the fair value of
the undelivered item.
c. The arrangement includes a general right of return relative to
the delivered item.
Since the Company was not able to obtain objective or reliable evidence of the
fair value of the undelivered item, it was not established that the Company had
a separate unit of accounting. With the effective date of EITF No. 00-21 of June
15, 2003, revenue from these dealer/obligor service contracts will be recognized
on a straight-line basis over the life of the service contract, pursuant to
Staff Accounting Bulletin 101.
Direct Costs
Direct costs, which consist primarily of insurance premiums and
commissions, are those costs directly related to the production and acquisition
of service contracts for administrative obligor service contracts. Effective
with the application of the revenue recognition policy described above, on all
service contracts, the Company recognizes direct cost according to Statement of
Financial Accounting Standards No. 113 ("SFAS 113"), "Accounting and Reporting
for Reinsurance of Short-Duration and Long Duration Contracts". This requires
that insurance premium costs be ratably expensed over the life of the service
contract.
Impairment of Long-Lived Assets
The Company assesses potential impairment of its long-lived assets,
which include its property and equipment and its identifiable intangibles such
as software development costs, goodwill and deferred charges under the guidance
of SFAS 144 "Accounting for the Impairment or Disposal of Long-Lived Assets."
Once annually or as events or circumstances indicate that an asset may be
impaired, the Company assesses potential impairment of its long-lived assets.
The Company determines impairment by measuring the undiscounted future cash flow
generated by the assets, comparing the result to the assets carrying value and
adjusting the asset to the lower of its carrying value or fair value and
charging current operations for the measured impairment. At year ended March 31,
2004 and 2003, the Company found no impairment to its property and equipment or
its other identifiable intangibles.
23
Income Taxes
Deferred tax assets and liabilities are determined using enacted tax
rates for the effects of net operating losses and temporary differences between
the book and tax bases of assets and liabilities. The Company records a
valuation allowance on deferred tax assets when appropriate to reflect the
expected future tax benefits to be realized. In determining the appropriate
valuation allowance, certain judgments are made relating to recoverability of
deferred tax assets, use of tax loss carryforwards, level of expected future
taxable income and available tax planning strategies. These judgments are
routinely reviewed by management. At March 31, 2004, the Company had deferred
tax assets of $22,627,421, net of a valuation allowance of $177,020.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
----------------------------------------------------------
As of March 31, 2004, the Company did not have any derivatives, debt or
hedges outstanding. Therefore, the Company was not subject to interest rate
risk. In addition, the risk of foreign currency fluctuation was and is not
material to the Company's financial position or results of operations.
Short-term marketable securities and long-term investments are
comprised of municipal bonds which bear interest at fixed rates. Interest income
from these securities is generally affected by changes in the U.S. interest
rates. The following tables provide information about the Company's financial
instruments that are sensitive to changes in interest rates. The tables present
principal cash flows and weighted-average interest rates by expected maturity
dates. All of the investments are considered "available for sale." The resultant
differences between amortized cost and fair value, net of taxes, have been
reflected as a separate component of accumulated other comprehensive income.
Principal amounts by expected maturity as of March 31, 2004 of marketable
securities are as follows:
Expected Maturity Date
----------------------------------------------------------------------------
2005 2006 2007 2008 2009 Thereafter Total Costs Fair Value
----------- ---------- ---------- --------- --------- ---------- ----------- -----------
Available for sale
securities $ 1,355,000 $ 925,000 $ 120,000 $ -- $ -- $ -- $ 2,400,000 $ 2,454,131
Interest rate 4.36% 3.95% 1.99% -- -- --
Principal amounts by expected maturity as of March 31, 2003 of
marketable securities are as follows:
Expected Maturity Date
----------------------------------------------------------------------------
2004 2005 2006 2007 2008 Thereafter Total Costs Fair Value
----------- ---------- ---------- --------- --------- ---------- ----------- -----------
Available for sale
securities $ 1,765,588 $ 360,573 -- -- -- 37,550 $ 2,163,711 $ 2,199,243
Interest rate 4.93% 4.96% -- -- -- 5.5%
24
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosures
---------------------------------------------------
None.
Item 9A. Controls and Procedures
-----------------------
Disclosure Controls and Procedures
The Company's Chief Executive Officer (CEO) and Chief Financial Officer (CFO)
are primarily responsible for the accuracy of the financial information that is
presented in this Annual Report on Form 10-K. Each of them has, within 90 days
of the filing date of this report, evaluated the Company's disclosure controls
and procedures, as defined in the rules of the SEC and have determined that such
controls and procedures were effective in ensuring that material information
relating to the Company and its consolidated subsidiaries was made known to them
during the period covered by this Annual Report.
Internal Controls
To meet their responsibility for financial reporting, the CEO and CFO have
established internal controls and procedures, which they believe, are adequate
to provide reasonable assurance that the Company's assets are protected from
loss. These internal controls are reviewed by the independent accountants to
support their audit work. In addition, the Company's Audit Committee, which is
composed entirely of outside directors, meets regularly with management and the
independent accountants to review accounting, auditing and financial matters.
This Committee and the independent accountants have free access to each other,
with or without management being present.
There were no significant changes in Company's internal controls or in other
factors that could significantly affect internal controls subsequent to the date
of the CEO's and CFO's most recent evaluation.
PART III
Item 10. Directors and Executive Officers of the Registrant
--------------------------------------------------
Directors
Director
Name Age Positions with Company Since
---- --- ---------------------- -----
Joel San Antonio 51 Chairman of the Board of Directors and 1983
Chief Executive Officer
William Tweed 64 Director 1983
Jeff J. White 53 Director 1983
Lawrence Richenstein 51 Director 1993
Ronald Glime 59 Director 2000
Richard Rodriguez 50 Director, Executive Vice President, 2002
President Warrantech International, Inc.
No family relationships exist among any of the Company's executive
officers or directors, except that Randall San Antonio, President of Warrantech
Direct, Inc., a wholly owned subsidiary of the Company, is the brother of Joel
San Antonio, the Company's Chief Executive Officer.
The business experience of each of the Company's directors and nominees
for election to the Board is as follows:
Joel San Antonio, one of the Company's founders, has been the Company's
Chief Executive Officer and Chairman of the Board of Directors since February
1988 and, since October 1989, also the Chairman of the Board of Directors and
Chief Executive Officer of the Company's principal operating subsidiaries. Mr.
San Antonio is also Chairman of the Board of Directors of MedStrong
International Corporation ("MedStrong") and of Marc Pharmaceuticals, Inc. and he
is a director of SearchHelp, Inc. ("SearchHelp"). He is a major shareholder of
each of them. MedStrong has developed an information repository to store and
transfer patient medical records and the software necessary to transfer the
information over the internet allowing for data retrieval and modification. Marc
Pharmaceuticals is engaged in the business of developing, marketing and
exploiting proprietary drugs and/or medical devices intended to treat
life-threatening or other serious medical conditions, for which no currently
effective treatment is available. SearchHelp provides services to small
businesses, institutions, organizations and individuals in smaller communities
throughout the United States.
Mr. San Antonio is currently a member of the Southwestern Connecticut
Area Commerce & Industry Association, the World Forum, the Connecticut Business
and Industry Association, the Metropolitan Museum of Art and the Young
Presidents' Organization, Inc.
25
William Tweed, one of the Company's founders, has been a director of
the Company from its inception and is a member of the Company's Compensation
Committee. Prior to his retirement in April 1998, he served as Executive Vice
President of European Operations and, at various times, as the President, Vice
President and Secretary of the Company.
Jeff J. White, one of the Company's founders, has been a director of
the Company from its inception and is the Chairman of the Company's Compensation
and Audit Committees. Mr. White was Vice President of the Company until June
1988 and Treasurer until October 1990. Mr. White is Co-President, along with two
other co-founders, of Marchon Eyewear, Inc., the largest U.S. owned
international distributor and manufacturer of quality eyewear and sunwear. Mr.
White also serves as an associate trustee of the North Shore University Hospital
Health System.
Lawrence Richenstein has been a director of the Company since 1993 and
is a member of the Company's Audit and Compensation Committees. In early 1997,
Mr. Richenstein formed Unwired Technology LLC (formerly known as Laral Group
LLC) and has served as its President since inception. Unwired Technology
manufactures a line of wireless audio/video and computer accessories under its
Unwired brand. It is also an OEM supplier of wireless multimedia products to the
automotive market. Since May 1996, Mr. Richenstein has been President and Chief
Executive Officer of Peak Ventures, Inc. which provides services to the consumer
electronics industry. Mr. Richenstein, since 1994, has also served as a managing
member of Long Hall Technologies, LLC, a consumer electronics company that
manufactures products under the Nickelodeon brand under license from MTV
Networks. Mr. Richenstein is an attorney admitted to practice in New York.
Ronald Glime has been a director since 2000. He joined the Company in
1991 and was the Company's President of United States and Canadian Operations
from March 1999 until his retirement in June 2003. He was President of
Warrantech Automotive, Inc. from October 1992 until March 1999. In June 2003,
Mr. Glime became the indirect beneficial owner of 50% of the limited liability
company interests in Vehicle Protection Plus, L.L.C. ("VPP"), a vehicle service
contract administrator which, since 1996, has sold warranties administered by
the Company. See "Certain Relationships and Related Transactions" below. Mr.
Glime is a director of MedStrong and SearchHelp, each of which he served, on a
consulting basis, as Interim Chief Financial Officer.
Richard Rodriguez joined the Company in 1987 and has been Executive
Vice President of the Company and President of Warrantech International, Inc.
since May 1999 and a director since 2002. From April 1998 until May 1999, Mr.
Rodriguez was President of Warrantech Consumer Product Services, Inc. and, from
December 1996 until March 1998, he was Vice President and Managing Director of
Warrantech International.
The Board of Directors has determined that, as of the end of the fiscal
year, the Audit Committee of the Board did not have an "Audit Committee
Financial Expert," as that term is defined under the federal securities laws.
The Board does not believe that it is possible to recruit a person with such
expertise to serve on the Board due to the Company's small size and limited
resources.
Other Executive Officers and Key Employees
Jeanine Folz, 39, has been the Senior Vice President of Insurance
Services since April 1998 and has been Assistant Secretary of the Company since
January 1995. Ms. Folz has held various positions since joining the Company in
1987, serving as the Vice President of Insurance Services from October 1995
until March 1998. She is a member of the Risk and Insurance Management Society
and the National Association for Female Executives.
26
Christopher Ford, 56, has been President of Warrantech Automotive, Inc.
since joining the Company in May 1999. From December 1996 until April 1999, he
was Regional Vice President for the Warranty Products Division of AIU, a company
located in Australia which is an affiliate of American International Group, Inc.
From 1979 until 1996, Mr. Ford held several key marketing and management
positions within the vehicle service contract industry.
Richard F. Gavino, 57, has been Executive Vice President, and the
Company's Chief Financial Officer, Chief Accounting Officer and Treasurer since
April 1998. From 1995 until March 1998, Mr. Gavino was Chief Financial Officer
of Maxon Auto Group, one of the largest automobile retailers in New Jersey.
James F. Morganteen, 54, has been General Counsel since joining the
Company in April 1997 and Senior Vice President since February 1998.
Evan Rothman, 37, has been President of Warrantech Home since joining
the Company in March 2004. From March 2003 until February 2004, he was National
Director for the 2-10 Resale Home Warranty Company. From November 2000 until
February 2003, Mr. Rothman was a division director for RHI Management Resources
and MSI Consulting, both management consulting firms. From August 1999 until
November 2000, Mr. Rothman was President of Global Internet Group, an internet
consulting group. Prior to August 1999, Mr. Rothman was Vice President of Cross
Country Home Services, the parent company of HMS, Inc., a home national warranty
company.
Randall San Antonio, 50, has been President of Warrantech Direct, Inc.,
since June 1996, having joined the Company in May 1994.
Laurence Tutt, 39, has served as Vice President of
MIS/Telecommunication and Operations since September 2000. He held various
managerial positions within the MIS Department since joining the Company in
1994, having become Vice President-MIS in 1999.
Stephen R. Williams, 56, joined the Company in June 1990. From 1994 to
May 2004, Mr. Williams was Vice President Retail Sales of Warrantech Consumer
Products. He was promoted to President of Warrantech Consumer Products in June
2004.
Compliance With Section 16(a) of the Securities Exchange Act of 1934
Section 16(a) of the Securities Exchange Act of 1934 requires that the
Company's executive officers and directors and persons who own more than 10% of
a registered class of the Company's equity securities file reports of ownership
and changes in ownership with the Securities and Exchange Commission (the
"Commission"). Officers, directors and greater than 10% beneficial shareholders
are required by Commission regulation to furnish the Company with copies of all
Section 16(a) reports they file. Based on a review of these reports and
conversations with the officers and directors, the Company believes that all but
one of its officers, directors and greater than 10% beneficial shareholders
complied with all Section 16(a) filing requirements during the fiscal year ended
March 31, 2004. Ms. Jeanine Folz informed the Company that she inadvertently
failed to timely file a Form 4 in January 2004 to report the sale of shares held
in her 401(k) Plan (the "Plan") account. Ms. Folz advised the Company that she
borrowed funds from the Plan and did not realize that shares of the Company's
Common Stock held in the Plan would be sold in order to generate a portion of
the funds for the loan. Ms. Folz has filed all other Form 4's on a timely basis.
Code of Ethics and Business Conduct
The Board maintains policies and procedures that represent both the code of
ethics for the principal executive officer, principal financial officer and
principal accounting officer under SEC rules. The Code applies to all directors,
officers, and employees. The Code is attached as an exhibit to this Annual
Report on Form 10-K.
27
Item 11. Executive Compensation
----------------------
The following table provides information for the years ended March 31,
2004, 2003 and 2002 concerning the annual and long-term compensation of the
Company's Chief Executive Officer and the Company's next four highest paid
executive officers.
Long Term Compensation
Annual Compensation Awards (1)
------------------------------------------- -----------------------
Restricted Stock
Other Stock Option
Annual (Shares) (Shares) All Other
Name of Principal Position Year Salary Bonus Compensation Awards Awards Compensation
- -------------------------- ------ ---------- ---------- ---------- ---------- ---------- ----------
(2) (3)
--- ---
Joel San Antonio 2004 $ 591,851 $ 59,226 $ 410,174 -- 150,000 $ 5,685
Chairman of the Board 2003 592,964 47,025 320,683 -- 300,000 2,205
And Chief Executive 2002 598,356 39,139 247,324 -- -- 2,282
Officer
Richard F. Gavino 2004 $ 268,524 $ 20,692 $ 17,863 -- -- $ 5,803
Executive Vice President, 2003 255,784 20,200 14,443 -- -- 2,367
Chief Financial Officer 2002 243,604 9,485 6,773 -- 30,000 2,022
and Treasurer
Christopher Ford 2004 $ 218,717 $ 91,156 $ 24,045 -- 98,040 $ 7,605
President of Warrantech 2003 191,833 41,775 18,224 -- 50,000 $ 2,525
Automotive, Inc. 2002 182,381 88,413 9,936 -- -- 2,716
Richard Rodriguez 2004 $ 185,317 $ 16,600 $ 22,645 -- -- $ 4,204
President and Executive 2003 176,684 16,500 18,924 -- -- 1,969
Vice President of 2002 176,684 11,440 26,000 -- -- 2,373
Warrantech
International, Inc.
James F. Morganteen 2004 $ 176,684 $ 7,115 $ 7,281 -- -- $ 5,064
Senior Vice 2003 181,223 4,011 6,552 -- 50,000 $ 2,379
President and 2002 156,492 3,312 7,174 -- -- $ 1,651
General Counsel
- ---------------------
(1) For purposes of this Summary Compensation Table and this purpose only, the
1998 Employee Incentive Stock Option Plan is being treated as a long-term
incentive plan.
(2) Included in Other Annual Compensation are auto allowances given to each
officer in fiscal 2004, 2003 and 2002; medical and dental insurance
premiums for the years 2004, 2003 and 2002; split-dollar life insurance
premiums for the year 2002; disability insurance premiums for Mr. San
Antonio for 2004, 2003 and 2002; club membership and dues for Messrs. San
Antonio, Ford and Rodriguez; relocation expenses paid to Mr. Gavino in
2002; forgiveness of a $15,000 loan to Mr. Rodriguez in 2002; forgiveness
of $194,254, $205,401 and $219,808 in interest, in 2004, 2003 and 2002,
respectively, on a loan to Mr. San Antonio; and $100,134 and $62,000,
amounts equal to the personal income taxes which Mr. San Antonio incurred
in the 2003 and 2002 calendar years, respectively, in connection with the
forgiveness of interest on his loan. The Company suspended payments on the
split-dollar life insurance policies until the permissibility of making
such payments under the Sarbanes-Oxley Act of 2002 is clarified.
(3) Unless otherwise indicated, all other compensation represents amounts
contributed by the Company in accordance with the Company's 401(k)Plan. In
2004, the Company doubled its 401K matching contribution percentage.
Option Grants in Last Fiscal Year
The following table sets forth information with respect to individual
grants of stock options during the fiscal year ended March 31, 2004 to the
Company's Chief Executive Officer and the other four most highly compensated
executive officers.
28
Potential Realized Value at
Assumed Annual Rates of Stock
Price Appreciation for Option
Term
Percent of ------------------------------------------
Number of Total
Securities Options
Underlying Granted to
Options Employees in Exercise Expiration
Name Granted Fiscal Year Price Date 0% 5% 10%
- ---------------- ------------ ------------ ------------ ------------- ------------ ------------- ------------
Joel San Antonio 150,000 54% $1.595(1) 04/01/2011 -- -- $ 289,384
Richard F. Gavino -- -- -- -- -- -- --
Christopher Ford 98,040 36% $1.02(2) 6/19/2013 -- $ 150,571 $ 228,861
Richard Rodriguez -- -- -- -- -- -- --
James F. Morganteen -- -- -- -- -- -- --
- ----------------------
(1) The exercise price equals 110% of the fair market value of a share on the
date of the grant.
(2) The exercise price equals the fair market value of a share of Common Stock
on the date of grant.
Options Exercised and Holdings
The following table sets forth information with respect to the
individuals listed in the Summary Compensation Table above concerning
unexercised options held as of the end of the 2004 fiscal year.
Number of Unexercised Value of Unexercised
Options at In-the-Money Options at
Shares Fiscal Year-End (#) Fiscal Year-End ($)(1)
Acquired Value ---------------------------- ----------------------------
Name On Exercise Realized Exercisable Unexercisable Exercisable Unexercisable
- ---------------- ------------ ------------ ------------ ------------- ------------ -------------
Joel San Antonio -- -- 100,000 350,000 $ 99,000 $ 198,000
Christopher Ford -- -- 64,750 9,834 49,500 --
Richard Rodriguez -- -- 29,500 -- -- --
James F. Morganteen -- -- 11,332 50,000 11,219 49,500
- ----------------------
(1) Based upon the Company's price per share of $0.99, as reported on the
NASDAQ National Market System on March 31, 2004.
Directors' Compensation
Directors who are employees of the Company do not receive any fees for
their service on the Board. During fiscal year 2004, each non-employee director
was entitled to receive $5,000 plus 5,000 shares of Common Stock per calendar
quarter of service on the Board and $1,000 plus 2,500 shares of Common Stock per
calendar quarter for each committee on which they serve; however, the total
value of the stock granted to a director cannot exceed $20,000 in value per
fiscal year. Non-employee directors are also reimbursed for reasonable
out-of-pocket travel expenditures incurred in connection with their attendance
at Board of Directors and committee meetings.
During fiscal 2004, the non-employee directors received the following
fees.
Common Stock
------------------------
Number of Dollar
Cash Shares Value
------- ------ -------
Ronald Glime $18,000 14,792 $20,000
Gordon A. Paris $53,000 13,667 $20,000
Lawrence Richenstein $53,000 13,667 $20,000
William Tweed $24,000 13,583 $20,000
Jeff J. White $28,000 13,667 $20,000
29
Employment Agreements
Joel San Antonio - Chief Executive Officer
Effective July 1, 2003, Joel San Antonio entered into a five-year
employment agreement, to serve as the Company's Chief Executive Officer.
Under the terms of his renewed agreement, Mr. San Antonio's base
compensation is $595,026 per annum. He is entitled to an annual incentive bonus
equal to 2% of the Company's net after-tax profits but, unlike his previous
agreement, the renewed agreement does not provide for annual cost of living
increases. Mr. San Antonio is to be reimbursed for all ordinary, reasonable and
necessary expenses incurred by him in the performance of his duties.
The Company provides Mr. San Antonio with an automobile allowance of
$12,000 per annum, comprehensive medical and dental insurance policies, as well
as disability coverage. Through April 2002, the Company made payments on a split
dollar life insurance death benefit policy of $4,000,000 covering Mr. San
Antonio. The Company suspended payment of premiums for the policy until the
permissibility of making such payments under the Sarbanes-Oxley Act of 2002 is
clarified. The Company is the beneficiary of any proceeds from the policies up
to the amount of premiums paid. Mr. San Antonio was granted options to purchase
an aggregate of 150,000 shares of common stock at an exercise price of $1.595
(110% of the fair market value on the date of grant) per share, which vest over
three years.
Richard F. Gavino - Executive Vice President, Chief Financial Officer and
Treasurer
Effective April 1, 2004, Richard F. Gavino entered into a five-year
employment agreement to serve as the Company's Executive Vice President, Chief
Financial Officer and Treasurer. Pursuant to this agreement Mr. Gavino's annual
base salary has increased to $285,000 from his annual base salary of $265,254 in
fiscal 2003, and unlike his previous agreement, this agreement does not provide
for annual cost of living increases. He is also entitled to receive an annual
cash bonus of 0.5% percent of the Company's net after tax income. The Company
provides Mr. Gavino with medical and dental insurance, and an automobile
allowance of $12,000 per annum. Through April 2002, the Company made payments on
a split dollar life insurance life insurance death benefit policy of $376,304
covering Mr. Gavino. The Company suspended payment of premiums for the policy
until the permissibility of making such payments under the Sarbanes-Oxley Act of
2002 is clarified. The Company is the beneficiary of any proceeds from the
policies up to the amount of premiums paid.
Christopher Ford - President Warrantech Automotive, Inc.
Effective July 1, 2003, Christopher Ford entered into a five-year
employment agreement to serve as President of Warrantech Automotive, Inc. Mr.
Ford's base salary was $230,000 in fiscal 2004 and unlike his previous
30
agreement, this agreement does not provide for annual cost of living increases.
He is entitled to receive an annual cash bonus equal to 30% of his base salary
and escalation in 5% increments if certain operating goals for Warrantech
Automotive are attained. The Company provides Mr. Ford with medical and dental
insurance, an automobile allowance of $6,000 per annum and club member ship. The
Company plans to make payments of premiums for a split-dollar life insurance
policy of $150,000, however, until the permissibility of making such payments
under the Sarbanes-Oxley Act of 2002 is clarified, the Company will not make the
payments. The Company will be the beneficiary of any proceeds from the policies
up to the amount of premiums paid. In accordance with the terms of his new
employment agreement, Mr. Ford was granted options to purchase an aggregate of
98,040 shares of common stock at an exercise price of $1.02 per share, which
vest over three years.
James F. Morganteen - Senior Vice President and General Counsel and Secretary
Effective January 1, 2002, James F. Morganteen entered into a two-year
employment agreement to serve as the Company's Senior Vice President, General
Counsel and Secretary. Mr. Morganteen's annual base salary was $175,000 in
fiscal 2004. He is also entitled to receive an annual cash bonus of 0.166667%
percent of the Company's net pre-tax income. The Company provides Mr. Morganteen
with medical and dental insurance, and an automobile allowance of $6,000 per
annum. Through April 2002, the Company made payments on a split dollar life
insurance life insurance death benefit policy of $237,567 covering Mr.
Morganteen. The Company suspended payment of premiums for the policy until the
permissibility of making such payments under the Sarbanes-Oxley Act of 2002 is
clarified. The Company is the beneficiary of any proceeds from the policies up
to the amount of premiums paid.
Richard Rodriguez - Executive Vice President of the Company and President of
Warrantech International, Inc.
Effective April 1, 2000, Richard Rodriguez entered into a four-year
employment agreement to serve as Executive Vice President of the Company and
President of Warrantech International. Mr. Rodriguez's base salary, which is
subject to annual 5% increases, was $183,750 in fiscal 2004. Mr. Rodriguez is
also entitled to receive a $50,000 annual bonus, half of which is contingent on
the Company's achievement of certain financial objectives and the balance of
which is contingent on Warrantech International's achievement of its financial
objectives. Under the terms of the agreement, the Company discharged a loan in
the principal amount of $15,000 owed by Mr. Rodriguez. The Company provides Mr.
Rodriguez with medical and dental insurance, an automobile allowance of $6,000
per annum and life insurance benefits similar to that provided by the Company to
certain of its other executives. Through April 2002, the Company made payments
on a split dollar life insurance life insurance death benefit policy of $721,369
covering Mr. Rodriguez. The Company suspended payment of premiums for the policy
until the permissibility of making such payments under the Sarbanes-Oxley Act of
2002 is clarified. The Company is the beneficiary of any proceeds from the
policies up to the amount of premiums paid.
Other Incentives and Compensation
Employee Incentive Stock Option Plan
The Company has provided executives equity-based long-term incentives
through its 1998 Employee Incentive Stock Option Plan, which was designed to
award key management personnel and other employees of the Company with bonuses
and stock options based on the Company's and the employee's performance.
31
During the fiscal year ended March 31, 2004, all decisions regarding
the Company's 1998 Employee Incentive Stock Option Plan (the "Plan"), including
the granting of options thereunder, were made by the full Board of Directors.
As of March 31, 2004, options to purchase an aggregate of 1,306,308
shares of Common Stock were issued under the Plan, of which options to purchase
278,040 shares were granted under the Plan during the fiscal year ended March
31, 2004.
Bonus Incentive Plan
The Company's Bonus Incentive Plan is designed to reward key executive
officers of the Company with bonuses if the Company attains certain operating
goals. Under the Bonus Incentive Plan, each eligible participant becomes
entitled to an incentive bonus payment equal to an agreed upon percentage of his
then current salary base, adjusted proportionately, if net operating revenues
and/or operating income goals are met.
The Company provides executive officers with an incentive bonus plan,
which provides cash and/or stock bonuses upon meeting certain performance
criteria.
The Company provides an incentive bonus plan for all employees for the
referral of potential new employees for employment by the Company who are
subsequently hired by the Company. The amount of the bonus is predicated on the
skill and professional level of the new employee.
Additionally, the Company provides an incentive bonus to existing
employees who are claims adjusters for obtaining and maintaining certification
as professionals in their field.
Through April 2002, the Company made payments on split dollar insurance
policies on the lives of six and seven officers of the Company, respectively.
The Company has suspended payment of premiums under these policies until the
permissibility of making such payments under the Sarbanes-Oxley Act of 2002 is
clarified. The cash surrender value of these policies is $900,145 and $877,126
as of March 31, 2004 and 2003, respectively. The Company is the beneficiary of
any proceeds from the policies up to the amount of premiums paid.
Compensation Committee Interlocks and Insider Participation
During the fiscal year ended March 31, 2004, the Compensation Committee
was comprised of the Company's four independent directors, Jeff J. White, who
served as chairman, Gordon A. Paris, Lawrence Richenstein and William Tweed. Mr.
Paris stepped down from the Board on December 17, 2003. Mr. Tweed and Mr. White
were co-founders of the Company with Mr. San Antonio. Mr. White was Vice
President of the Company until 1988 and Treasurer until 1990. Mr. Tweed served
as Executive Vice President of European Operations until 1998 and, prior to that
time, held the positions of President, Vice President and Secretary of the
Company. No member of the Compensation Committee serves as a member of the board
of directors of any entity that has one or more executive officers serving as a
member of the Company's Board of Directors.
Although Joel San Antonio, the Company's Chief Executive Officer and
Chairman of the Board, and Ronald Glime, a director of the Company, are also
members of the Board of Directors of SearchHelp and MedStrong, neither Mr. San
Antonio nor Mr. Glime is a member of the Company's Compensation Committee, nor
do they receive any compensation from SearchHelp or MedStrong.
32
Report of the Compensation Committee of the Board of Directors
The Board of Directors has delegated to the Chief Financial Officer the
responsibility to determine the compensation (other than options) of the
Company's other officers; in connection with such delegation, the Board has
instructed the Chief Executive Officer to use his best judgment to determine
terms which are fair and reasonable under applicable industry standards and are
in the best interests of the Company. The Chief Executive Officer is required to
report to the Compensation Committee each year on the terms of any employment
agreements entered into with new or existing senior executive officers and any
other bonuses or other compensation awarded to such officers. Stock options may
not be awarded to officers (or any other persons) without the prior approval of
the Board. From time to time, the Chief Executive Officer seeks guidance from
the Compensation Committee with respect to particular terms of employment
agreements with senior executives, and the Compensation Committee will offer its
views on such issues. It is left within the sole discretion of the Chief
Executive Officer to determine when to seek such guidance.
During the fiscal year ended March 31, 2004, the Compensation Committee
was comprised of the Company's four independent directors, Jeff J. White, who
served as chairman, Gordon A. Paris, Lawrence Richenstein and William Tweed. Mr.
Paris stepped down from the Board on December 17, 2003. Mr. Tweed and Mr. White
were co-founders of the Company with Mr. San Antonio. Mr. White was Vice
President of the Company until 1988 and Treasurer until 1990. Mr. Tweed served
as Executive Vice President of European Operations until 1998 and, prior to that
time, held the positions of President, Vice President and Secretary of the
Company.
The Compensation Committee met two times during the fiscal year ended
March 31, 2004. The principal item addressed by the Compensation Committee was
the renewal of the employment agreement of Mr. Joel San Antonio, the Company's
Chairman and Chief Executive Officer.
Mr. San Antonio requested that his employment agreement be renewed at a
base salary of $595,000 which was the approximate amount of his base salary as
of April 1, 2003. Mr. San Antonio also informed the Compensation Committee that
he was not seeking to have the 5% annual cost-of-living increments (which were
included in his prior agreement) included in the new agreement.
The Compensation Committee retained an independent compensation
consultant to advise the Compensation Committee in connection with its
consideration of the terms of the renewal of Mr. San Antonio's employment
agreement. The compensation consultant provided the Compensation Committee with
information concerning compensation plans of companies with similar aspects to
the Company and presented an analysis of Mr. San Antonio's current compensation
package (i.e., prior to renewal) as compared to other companies in the database
of information provided by the consultant. After considering this information
and other factors, including the importance of Mr. San Antonio to the Company,
the Compensation Committee recommended to the Board that Mr. San Antonio's
employment agreement be renewed for a period of five years at a base salary
equal to the base salary $595,000 per year. The Compensation Committee also
renewed the other terms of Mr. San Antonio's prior employment agreement,
including the annual bonus of 2% of after-tax profits. The report of the
compensation consultant retained by the Compensation Committee was forwarded to
the Board of Directors along with the Compensation Committee's recommendations
concerning the terms of renewal.
Pursuant to the Compensation Committee's policy adopted in 2002 to
consider the issuance of incentive stock options to Mr. San Antonio on an annual
basis, the Compensation Committee also recommended to the Board that Mr. San
Antonio be awarded 150,000 options under the Company's Incentive Stock Option
Plan and that the options vest in increments of 50,000 options per year
commencing on April 1, 2004. The Compensation Committee believes that the
options will provide an incentive for Mr. San Antonio to further streamline the
33
Company's operations and improve shareholder value since, as the market price of
the Company's stock increases, the options awarded to Mr. San Antonio will
increase in value.
Lastly, the Compensation Committee recommended that Mr. San Antonio be
awarded a bonus in the amount of $162,134, which represented the approximate
amount of the personal income taxes which Mr. San Antonio incurred in the 2002
and 2003 calendar years in connection with the Company's forgiveness of the
accrued annual interest on an outstanding loan from the Company in those two
years. The terms of the loan (which are more fully described in the Section
entitled, "Certain Relationships and Related Transactions") provide for the
forgiveness of interest so long as Mr. San Antonio is employed by the Company.
The Compensation Committee's recommendations of the compensation
payable to Mr. San Antonio were based on Mr. San Antonio's unique position as a
co-founder of the Company and the Company's primary driving force from inception
to the present day. The Compensation Committee believes that Mr. San Antonio
deserves recognition for his continued leadership of the Company during very
challenging circumstances and that it is important for Mr. San Antonio to be
compensated adequately to assure his continued dedication and service to the
Company. The Compensation Committee believes that Mr. San Antonio is critical to
the Company's future success.
The Board of Directors approved the recommendations of the Compensation
Committee concerning the renewal of Mr. San Antonio's employment agreement and
the other compensation described above.
COMPENSATION COMMITTEE
Jeff J. White, Chairman
Lawrence Richenstein
William Tweed
34
Performance Graph
The following table and graph track an assumed investment of $100 on
March 31, 1999, assuming full reinvestment of dividends and no payment of
brokerage or other commissions or fees, in the Common Stock of the Company, The
Russell 2000 Index and a peer group consisting of Unico American Corp. ("Unico")
and Harris & Harris Group Inc. ("Harris").
The Company believes that it is unique in both its size and business
line strategy. Most companies that compete with the Company are large insurance
or financial institutions which sell many other products and thus cannot
accurately be categorized as the Company's peers. However, the Company's
selection of Unico and Harris as its peer group was made in because their
principal operations are similar to those of the Company. Unico was selected
because of its relatively small size and because a portion of its revenue is
derived from claims administration. Harris was selected because its market value
is comparable to the Company's.
All amounts rounded to the nearest dollar. Past performance is not
necessarily indicative of future performance.
COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*
AMONG WARRANTECH CORPORATION, THE RUSSELL 2000 INDEX
AND A PEER GROUP
[GRAPHIC CHART OMITTED]
Cumulative Total Return
--------------------------------------------------
3/99 3/00 3/01 3/02 3/03 3/04
------ ------ ------ ------ ------ ------
WARRANTECH CORPORATION 100.00 50.20 18.13 18.51 39.22 31.06
RUSSELL 2000 100.00 137.29 116.25 132.51 96.78 158.55
PEER GROUP 100.00 250.15 77.97 117.20 65.30 297.69
* $100 invested on 3/31/99 in stock or index-including reinvestment of
dividends. Fiscal year ending March 31.
35
Item 12. Security Ownership of Certain Beneficial Owners and Management
--------------------------------------------------------------
The following table sets forth information, as of July 1, 2004, concerning
shares of Common Stock, the Company's only voting securities, owned beneficially
by each of the Company's directors and nominees for the Board of Directors and
by the Company's executive officers and directors as a group.
Amount and Nature of Beneficial Ownership(1) (2)
---------------------------------------------------------
Options Total
Name and Address Number of Shares Exercisable Beneficial Percent
of Beneficial Owner Beneficially Owned within 60 days Ownership of Class
- ------------------------------ ------------------ ---------------- ----------------- --------------
Joel San Antonio 3,243,095 150,000 3,393,095(3) 21.82%
2200 Highway 121, Suite 100
Bedford, Texas 76021
William Tweed 1,928,037 25,000 1,953,037(4) 12.66%
2200 Highway 121, Suite 100
Bedford, Texas 76021
Jeff J. White 1,490,214 25,000 1,515,214(5) 9.82%
35 Hub Drive
Melville, New York 11747
Gordon A. Paris 57,498 25,000 82,498 *(7)
667 Madison Avenue
New York, New York 10021
Lawrence Richenstein 78,723 25,000 103,723 *(7)(8)
500 Eastern Parkway
Farmingdale, New York 11735
Ronald Glime 154,063 201,168 355,231(6) 2.28%
111 Lake Harbor Drive
Johnson City, Texas 37615
Richard Rodriguez 1,100 29,500 30,600 *(7)
2200 Highway 121, Suite 100
Bedford, Texas 76021
All directors and executive officers 7,083,240 745,562 7,828,802(1,2,3,4, 48.49%
As a group (14 persons) 5,6,7)
- ---------------------
(1) Beneficial ownership is determined in accordance with the rules of the
Securities and Exchange Commission and includes voting and investment power
with respect to shares. Unless otherwise indicated, the persons named in
the table have sole voting and sole investment control with respect to all
shares beneficially owned.
(2) The number and percentage of shares beneficially owned are based on
15,398,673 shares of common stock issued and outstanding as of the date of
this Proxy Statement. Certain of the above listed people have to acquire
beneficial ownership of shares of the Company's common stock within 60 days
after the date of this Proxy Statement. Each of their percentages of
ownership is determined by assuming that all of their respective options
have been exercised and that the shares acquired upon exercise are
outstanding.
(3) Includes 5,000 shares held by Mr. San Antonio as custodian for two minor
children, 100,800 shares owned by Mr. San Antonio's wife as to which he
disclaims beneficial ownership and an aggregate of 200,000 shares held in
trusts for his children, of which Mr. San Antonio's wife is a trustee, as
to which Mr. San Antonio disclaims any beneficial interest. Does not
include 66,337 shares owned by Mr. San Antonio's brother and sister-in-law
or 5,000 shares owned by his mother, as to which he disclaims any
beneficial interest.
(4) Includes 23,000 shares held by Mr. Tweed as custodian for his daughter.
Does not include an aggregate of 7,500 shares held by Mr. Tweed's sister.
Includes 1,500 shares held by Mr. Tweed's wife, and 55,000 shares held in
trust for the benefit of Mr. Tweed's granddaughter, as to which he
disclaims any beneficial interest.
(5) Includes 148,000 shares owned by RNJH Associates, Ltd ("RNJH"). Mr. White
is a one-third owner of the general partner of RNJH and so may be deemed to
have a beneficial interest in all or a part of the shares owned by RNJH.
(6) Includes 6,864 shares held by Mr. Glime's wife in a 401k plan account, as
to which he disclaims beneficial ownership.
(7) Less than 1% of the outstanding shares of Common Stock.
36
(8) Includes 100 shares owned by a Uniform Gift to Minors Act account for the
benefit of one of the Mr. Richenstein's minor son. The Mr. Richenstein's
wife is the custodian of the account, and, accordingly, the Mr. Richenstein
may be deemed to have an indirect pecuniary interest therein. Mr.
Richenstein expressly disclaims beneficial ownership of these shares for
the purpose of Section 16 of the Securities Exchange Act of 1934, as
amended, or otherwise.
The following table sets forth information, as of July 1, 2004, concerning
shares of Common Stock; the Company's only voting securities, owned by each
person who is known by the Company to beneficially own more than 5% of the
outstanding voting securities of the Company.
Securities Owned by Certain Beneficial Owners
Amount and Nature of Beneficial Ownership
-------------------------------------------------
Options Total
Name and Address Number of Shares Exercisable Beneficial Percent
of Beneficial Owner Beneficially Owned within 60 days Ownership of Class
------------------ -------------- ----------- ---------
Great American Insurance Company - - 1,650,000 10.72%
49 East Fourth Street
Cincinnati, OH 45202
- ---------------------
(1) Beneficial ownership is determined in accordance with the rules of the
Securities and Exchange Commission and includes voting and investment power
with respect to shares. Unless otherwise indicated, the persons named in
the table have sole voting and sole investment control with respect to all
shares beneficially owned.
(2) The number and percentage of shares beneficially owned are based on
15,398,673 shares of common stock issued and outstanding as of the date of
this Proxy Statement. Certain of the above listed people have to acquire
beneficial ownership of shares of the Company's common stock within 60 days
after the date of this Proxy Statement. Each of their percentages of
ownership is determined by assuming that all of their respective options
have been exercised and that the shares acquired upon exercise are
outstanding.
37
Item 13. Certain Relationships and Related Transactions
----------------------------------------------
Loans to Directors
On July 6, 1998, Joel San Antonio, Warrantech's Chairman and Chief
Executive Officer, and William Tweed and Jeff J. White, members of the Board of
Directors, exercised an aggregate of 3,000,000 of their vested options to
purchase Warrantech common stock. Promissory notes totaling $8,062,500 were
signed, with interest payable over three years at an annual interest rate of 6%.
The promissory notes which were with recourse and secured by the stock issued
upon exercise of the options, matured July 5, 2001. On March 22, 1999, Mr. San
Antonio delivered an additional promissory note for $595,634, payable to the
Company, representing the amounts funded by the Company for the payroll taxes
payable by him as a result of his exercise of these options.
In February 2000, the Company agreed to restructure the loans to
Messrs. Tweed and White by capitalizing the interest due and extending the loan
maturity date from July 5, 2001 until January 31, 2005. Interest on the
restructured loans accrued annually at the applicable federal rate of 6.2%.
Under the restructuring, interest first became payable on the third anniversary
of the restructuring and was payable annually thereafter. In July 2002, the
Company extended the loan maturity dates until February 1, 2007 (the "loan
extension"). The interest which accrued on the notes up to the time of the loan
extension was added to the principal of the notes. The current principal amount
of Mr. Tweed's note is $3,189,675 and of Mr. White's note is $3,912,430. Upon
the loan extension, interest rate on the note was adjusted to 4.6% per annum,
the applicable federal interest rate then in effect. Interest accrues until
February 1, 2005 and, at that time, the accrued interest will be added to the
principal of the notes. Interest on the new principal amounts will thereafter
become payable annually until maturity.
In February 2000, the Company also agreed to restructure the two
existing loans to Mr. San Antonio (as restructured, the "Combined Loan"). The
Combined Loan, finalized in March 2001, was due on January 31, 2005 and accrued
interest annually at 5.2%. In July 2002, the Company extended the loan maturity
date until February 1, 2007 and the interest rate was changed to the then
applicable federal rate of 4.6%. The current principal amount of Mr. San
Antonio's note is $4,165,061.72. Interest will be forgiven as long as Mr. San
Antonio continues to be employed by the Company. The $194,786, $200,506 and
$214,102 of interest, which accrued on the note during the fiscal years 2004,
2003 and 2002, respectively, and the $230,460 of interest, which accrued from
February 1, 2001 through March 31, 2001, was forgiven and charged to operations
as additional compensation in the respective fiscal years the interest income
was accrued. As part of his bonus compensation in fiscal 2004, Mr. San Antonio
received $62,000 and $100,134, amounts equal to the personal income taxes he
incurred in the 2001 and 2002 calendar years, respectively, in connection with
the Company's forgiveness of interest on the Combined Loan.
Third Party Relationships
In June 2003, Ronald Glime, resigned from the Company, however he
remained, and has been nominated to continue to serve as, a member of the Board.
In July 2003, Mr. Glime indirectly acquired a fifty percent interest in Vehicle
Protection Plus, L.L.C. ("VPP"), a vehicle service contract administrator
located in Tennessee for whom the Company has, since 1996, provided warranty
claims administration. In each of the fiscal years ended March 31, 2004, 2003
and 2002, the Company's revenues from VPP of $9.3 million, $5.9 million and $3.6
million, respectively, constituted less than 6% of the Company's gross revenues
in such year.
38
Item 14. Principal Accounting Fees and Services
--------------------------------------
Scope of Services. During fiscal 2004, the Company engaged Weinick to
provide audit services only. It did not engage Weinick for any other services.
Specifically, it did not engage Weinick to provide: (a) bookkeeping or other
services related to the accounting records or financial statements; (b)
financial information systems design and implementation; (c) appraisal or
valuation services, fairness opinions, or contribution-in-kind reports; (d)
actuarial services; (e) internal audit outsourcing services; (f) management
functions or human resources; (g) broker or dealer, investment adviser, or
investment banking services; (h) legal services and expert services unrelated to
the audit; or (i) tax preparation and compliance services.
Audit Fees. Weinick's audit services during fiscal 2004 included the
examination of the Company's annual consolidated financial statements for fiscal
2003, the reviews of the consolidated financial statements included in the
Company's Forms 10-Q for fiscal 2004 and assistance with correspondence related
to the Securities and Exchange Commissions review of the Company's consolidated
financial statements. The aggregate fees for professional services rendered by
Weinick during fiscal year 2004 were $285,915. During fiscal 2003, the Company
paid Weinick $178,067 for comparable services.
39
PART IV
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.
----------------------------------------------------------------
(a) 1. and 2. Financial Statements and Financial Statement
Schedule: see accompanying Index to Financial Statements and
Financial Statement Schedule, page F-1.
(b) Reports on Form 8-K during the last quarter:
Date Item Reported Financial Statements Field
---- ------------- --------------------------
February 12, 2004 Item 9-Regulation FD Disclosure Financial results for the quarter
ended December 31, 2003
April 16, 2004 Item 5-Other Events None
June 10, 2004 Item 5-Other Events None
July 1, 2004 Item 5-Other Events None
August 10, 2004 Item 5-Other Events None
(c) Exhibits
Exhibits not incorporated herein by reference to a prior filing are designated
by an asterisk (*) and are filed herewith; all exhibits not so designated are
incorporated herein by reference as indicated. Management contracts or
compensatory plans, contracts or arrangements with directors and executive
officers of the Company appear in Exhibits 10(o) through 10(hh).
40
EXHIBITS
Exhibit Description
3(a) Certificate of Incorporation filed June 22, 1983. Incorporated
by reference to the Company's Registration Statement on Form
S-18, filed on November 23, 1983, Registration No. 2-88097-NY.
3(b) Certificate of Amendment of Certificate of Incorporation filed
October 24, 1983. Incorporated by reference to the Company's
Registration Statement on Form S-18, filed on November 23, 1983,
Registration No. 2-88097-NY.
3(c) Certificate of Amendment of Certificate of Incorporation dated
June 29, 1987. Incorporated by reference to the Company's Form 8
Amendment to the Company's Annual Report on Form 10-K for the
fiscal year ended March 31, 1987, file no. 0-13084.
3(d) Certificate of Designation of Warrantech Corporation with
respect to the Preferred Stock as filed with the Secretary of
State of Delaware on October 12, 1993. Incorporated by reference
to the Company's Report on Form 10-K for the fiscal year ended
March 31, 1994, file no. 0-13084.
3(e) By-laws of Warrantech Corporation, as amended. Incorporated by
reference to the Company's Quarterly Report on Form 10-Q for the
fiscal quarter ended September 10, 1988, file no. 0-13084.
10(a) Form of Sales Distributor Agreement. Incorporated by reference
to the Company's Annual Report on Form 10-K for the fiscal year
ended March 31, 1985, file no. 0-13084.
10(b) Form of Service Center Agreement. Incorporated by reference to
the Company's Annual Report on Form 10-K for the fiscal year
ended March 31, 1985, file no. 0-13084.
10(c) Form of Dealer Agreement. Incorporated by reference to the
Company's Annual Report on Form 10-K for the fiscal year ended
March 31, 1985, file no. 0-13084.
10(d) Form of Sales Agent Agreement. Incorporated by reference to the
Company's Registration Statement on Form S-1, filed on September
5, 1986, Registration No. 3-8517.
10(e) General Agency Agreement between American International Group,
Inc. and Warrantech Automotive, Inc. Incorporated by reference
to Exhibit 10(o) to the Company's Annual Report on Form 10-K for
the fiscal year ended March 31, 1996, file no. 0-13084.
10(f) Master Agreement between American International Group, Inc. and
Warrantech Corporation. Incorporated by reference to Exhibit
10(q) to the Company's Annual Report on Form 10-K for the fiscal
year ended March 31, 1996, file no. 0-13084.
41
10(g) Insurance policy among Warrantech Consumer Product Services,
Inc. and Warrantech Caribbean LTD and Great American Insurance
Company pertaining to Service Plan Agreement. Incorporated by
reference to Exhibit 10(u) to the Company's Quarterly Report on
Form 10-Q for the quarter ended December 31, 2001, file no.
0-13084.
10(h) Schedule 10(h) identifying contracts that are substantially
similar to Exhibit 10(g), the Insurance policy among Warrantech
Consumer Product Services, Inc. and Warrantech Caribbean LTD and
Great American Insurance Company pertaining to Service Plan
Agreement, in all material respects except as to the parties
thereto, the dates of execution, or other details. Incorporated
by reference to Exhibit 10(v) to the Company's Quarterly Report
on Form 10-Q for the quarter ended December 31, 2001, file no.
0-13084.
10(i) Obligor Agreement between Butler Financial Solutions, LLC and
Warrantech Corporation dated April 1, 2000. Incorporated by
reference to Exhibit 10(u) to the Company's Annual Report on
Form 10-K for the year ended March 31, 2002, file no. 0-13084.
10(j) Master Agreement between Butler Financial Solutions, LLC and
Warrantech Corporation dated November 21, 2001. Incorporated by
reference to Exhibit 10(v) to the Company's Annual Report on
Form 10-K for the year ended March 31, 2002, file no. 0-13084.
10(k) Security Agreement between Warrantech Corporation and Great
American Insurance Company dated October 1, 2002. Incorporated
by reference to Exhibit 10(e) to the Company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 2002, file no.
0-13084.
10(l) Support Agreement between Warrantech Corporation and Great
American Insurance Company dated October 1, 2002. Incorporated
by reference to Exhibit 10(f) to the Company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 2002, file no.
0-13084.
10(m) Summary of building lease dated July 10, 2002 between Warrantech
Corporation and 121 Airport Centre II, LP. Incorporated by
reference to Exhibit 10(d) to the Company's Quarterly Report on
Form 10-Q for the quarter ended September 30, 2002, file no.
0-13084.
*10(n) Amendment 3 of building lease dated December 12, 2003 between
Warrantech Corporation and 121 Airport Centre II, LP.
10(o) Stock Option Agreement dated August 22, 2001, by and among
Warrantech Corporation, American International Group, Inc. and
others. Incorporated by reference to Exhibit 10(b) to the
Company's Quarterly Report on Form 10-Q for the quarter ended
December 31, 2001, file no. 0-13084.
42
10(p) Stock Option Agreement dated June 4, 2002, by and between
Warrantech Corporation and Staples, Inc. Incorporated by
reference to Exhibit 10(a) to the Company's Quarterly Report on
Form 10-Q for the quarter ended June 30, 2002, file no. 0-13084.
10(q) Warrantech Corporation 1998 Employee Incentive Stock Option
Plan, as amended and restated, effective September 25, 2001.
Incorporated by reference to Exhibit 10(a) to the Company's
Quarterly Report on Form 10-Q for the quarter ended September
30, 2001, file no. 0-13084.
10(r) Amendment No. 2 dated October 8, 2002, to the Warrantech
Corporation 1998 Employee Incentive Stock Option Plan, as
amended and restated, effective September 25, 2001. Incorporated
by reference to Exhibit 4(a) to the Company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 2002, file no.
0-13084.
10(s) Amendment No. 3, dated September 8, 2003, to the Warrantech
Corporation 1998 Employee Incentive Stock Option Plan, as
amended and restated, effective June 12, 2003. Incorporated by
reference to Exhibit 4(a) to the Company's Quarterly Report on
Form 10-Q for the quarter ended September 30, 2003, file no.
0-13084.
10(t) Amendment No. 3, dated October 7, 2003, to the Warrantech 401K
plan. Incorporated by reference to Exhibit 4(b) to the Company's
Quarterly Report on Form 10-Q for the quarter ended September
30, 2003, file no. 0-13084.
10(w) Employment Agreement dated April 1, 2003 between Warrantech
Corporation and Joel San Antonio. Incorporated by reference to
Exhibit 10(b) to the Company's Quarterly Report on Form 10-Q for
the quarter ended September 30, 2003, file no. 0-13084.
*10(x) Employment Agreement dated April 1, 2004, between Warrantech
Corporation and Richard F. Gavino.
10(y) Employment Agreement between Warrantech Corporation and James F.
Morganteen dated January 1, 2002. Incorporated by reference to
Exhibit 10(g) to the Company's Quarterly Report on Form 10-Q for
the quarter ended September 30, 2002, file no. 0-13084.
10(z) Schedule 10(u) identifying contracts that are substantially
similar to Exhibit 10(t), the Employment Agreement between
Warrantech Corporation and James F. Morganteen, in all material
respects except as to the parties thereto, the dates of
execution, or other details, incorporated by reference to
Exhibit 10(h) to the Company's Quarterly Report on Form 10-Q for
the quarter ended September 30, 2002, file no. 0-13084.
43
*10(aa) Employment Agreement dated March 15, 2004, between Warrantech
Corporation and Evan Rothman.
*10(bb) Employment Agreement dated June 1, 2004, between Warrantech
Corporation and Stephen R Williams.
10(cc) Employment Agreement dated April 1, 2000 between Warrantech
Corporation and Richard Rodriguez. Incorporated by reference to
Exhibit 10(w) to the Company's Annual Report on Form 10-K for
the year ended March 31, 2002, file no. 0-13084.
10(dd) Employment Agreement dated July 9, 2003, between Warrantech
Corporation and Christopher L. Ford. Incorporated by reference
to Exhibit 10(a) to the Company's Quarterly Report on Form 10-Q
for the quarter ended September 30, 2003, file no. 0-13084.
10(ee) Employment Agreement dated April 1, 2003 between Warrantech
Corporation and Randall San Antonio. Incorporated by reference
to Exhibit 10(w) to the Company's Annual Report on Form 10-K for
the year ended March 31, 2003, file no. 0-13084.
10(ff) Promissory Note and Pledge Agreement, as amended July 24, 2002,
between Warrantech Corporation and William Tweed, incorporated
by reference to Exhibit 10(a) to the Company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 2002, file no.
0-13084.
10(gg) Promissory Note and Pledge Agreement, as amended, July 24, 2002,
between Warrantech Corporation and Joel San Antonio,
incorporated by reference to Exhibit 10(b) to the Company's
Quarterly Report on Form 10-Q for the quarter ended September
30, 2002, file no. 0-13084.
10(hh) Promissory Note and Pledge Agreement, as amended July 24, 2002,
between Warrantech Corporation and Jeff J. White. Incorporated
by reference to Exhibit 10(c) to the Company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 2002, file no.
0-13084.
*10(ii) Code of Business Conduct and Ethics
*21 Subsidiaries of the Company
*31.1 Certification by the Chief Executive Officer pursuant to Rule
13a-14(a) of the Securities Exchange Act of 1934, as amended.
*31.2 Certification by the Chief Financial Officer pursuant to Rule
13a-14(a) of the Securities Exchange Act of 1934, as amended.
*32.1 Statement by the Chief Executive Officer and the Chief Financial
Officer furnished pursuant to Rule 13a-14(b) of the Securities
Exchange Act of 1934, as amended.
44
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned thereto duly authorized.
WARRANTECH CORPORATION
Dated: August 16, 2004 By: /s/ JOEL SAN ANTONIO
-------------------------------------
Joel San Antonio,
Chairman of the Board and
Chief Executive Officer
Dated: August 16, 2004 By: /s/ RICHARD F. GAVINO
-------------------------------------
Richard F. Gavino,
Executive Vice President and
Chief Financial Officer
45
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities indicated on August 16, 2004.
/s/ JOEL SAN ANTONIO Chairman, Chief Executive Officer and Director
- ------------------------ (Principal Executive Officer)
Joel San Antonio
/s/ RICHARD F. GAVINO Executive Vice President and Chief Financial Officer
- ------------------------ (Principal Accounting and Financial Officer)
Richard F. Gavino
/s/ WILLIAM TWEED Vice Chairman and Director
- ------------------------
William Tweed
/s/ LAWRENCE RICHENSTEIN Director
- ------------------------
Lawrence Richenstein
/s/ JEFF J. WHITE Director
- -----------------
Jeff J. White
/s/ RONALD GLIME Director
- ------------------------
Ronald Glime
/s/ RICHARD RODRIGUEZ Director
- ------------------------
Richard Rodriguez
46
Item 8. Financial Statements and Supplementary Data
-------------------------------------------
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND
FINANCIAL STATEMENT SCHEDULES
Page No.
--------
Report of Independent Auditors........................................... F-2
Consolidated Financial Statements:
Statements of Operations and Comprehensive Income
For the Fiscal Years Ended March 31, 2004, 2003 and 2002.............. F-3
Balance Sheets as of March 31, 2004 and 2003.......................... F-4
Statements of Common Stockholders' Equity
For the Fiscal Years Ended March 31, 2004, 2003 and 2002.............. F-6
Statements of Cash Flows
For the Fiscal Years Ended March 31, 2004, 2003 and 2002.............. F-7
Notes to Consolidated Financial Statements............................... F-8
Consolidated Financial Statement Schedules:
Schedule VIII - Valuation and Qualifying Accounts........................ F-30
All other schedules for which provision is made in applicable accounting
regulations of the Securities and Exchange Commission are not required under the
related instructions or are inapplicable and therefore have been omitted or the
information is presented in the consolidated financial statements or
accompanying notes.
F-1
[GRAPHIC OMITTED]
WEINICK
SANDERS 1375 BROADWAY
LEVENTHAL & CO. LLP NEW YORK, N.Y. 10018-7010
- --------------------------------------------------------------------------------
CERTIFIED PUBLIC ACCOUNTANTS 212-869-3333
FAX: 212-764-3060
WWW.WSLCO.COM
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Stockholders of
Warrantech Corporation
We have audited the accompanying consolidated balance sheets of
Warrantech Corporation and Subsidiaries as of March 31, 2004 and 2003 and its
related consolidated statements of operations and comprehensive income, common
stockholders' equity and cash flows for the fiscal years ended March 31, 2004,
2003 and 2002. Our audits also included the financial statement schedules listed
in the index. These consolidated financial statements and schedules are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements and schedules based on our audits.
We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). 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 consolidated financial position of
Warrantech Corporation and Subsidiaries at March 31, 2004 and 2003 and the
consolidated results of their operations and comprehensive income and their cash
flows for the years ended March 31, 2004, 2003 and 2002, in conformity with
accounting principles generally accepted in the United States of America. Also,
in our opinion, the related consolidated financial statement schedules, when
considered in relation to the basic financial statements taken as a whole,
present fairly, in all material respects, the information set forth therein.
/s/ Weinick Sanders Leventhal & Co., LLP
New York, NY
August 13, 2004
F-2
WARRANTECH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
For the Twelve Months Ended
March 31,
-----------------------------------------------
2004 2003 2002
------------- ------------- -------------
Gross revenues $ 149,328,267 $ 146,754,611 $ 118,137,862
------------- ------------- -------------
Revenues deferred to future periods (14,929,216) (2,582,371) (7,795,864)
Deferred revenues earned (14,437,772) (45,934,893) (15,583,551)
------------- ------------- -------------
Net (increase) decrease in deferred revenues (29,366,988) (48,517,264) (23,379,415)
------------- ------------- -------------
Net revenues 119,961,279 98,237,347 94,758,447
Direct costs 87,427,618 62,549,340 67,023,904
Claims expense - Reliance -- -- 19,591,713
------------- ------------- -------------
Gross Profit $ 32,533,661 $ 35,688,007 $ 8,142,830
------------- ------------- -------------
Operating expenses
Service, selling, and general and administrative 29,931,180 30,573,275 30,272,034
Legal settlement -- -- (824,332)
Provision for bad debt expense 590,000 150,444 --
Depreciation and amortization 3,280,604 3,885,054 4,480,442
------------- ------------- -------------
Total costs and expenses 33,801,784 34,608,773 33,928,144
------------- ------------- -------------
Income (loss) from operations (1,268,123) 1,079,234 (25,785,314)
Other income 574,460 774,274 857,466
------------- ------------- -------------
Income (loss) before provision for income taxes (693,663) 1,853,508 (24,927,848)
Provision for income taxes (177,292) 386,616 (8,414,144)
------------- ------------- -------------
Net income (loss) $ (516,371) $ 1,466,892 $ (16,513,704)
============= ============= =============
Earnings (loss) per share:
Basic $ (0.03) $ 0.10 $ (1.08)
============= ============= =============
Diluted $ (0.03) $ 0.10 $ (1.08)
============= ============= =============
Weighted average number of shares outstanding:
Basic 15,344,563 15,317,881 15,259,437
============= ============= =============
Diluted 15,569,608 15,398,910 15,259,437
============= ============= =============
Comprehensive Income
- --------------------
For the Years Ended March 31,
-----------------------------------------------
2004 2003 2002
------------- ------------- -------------
Net income (loss) $ (516,371) $ 1,466,892 $ (16,513,704)
Other comprehensive income (loss), net of tax
Unrealized gain (loss) on investments (17,083) 13,713 (8,936)
Foreign currency translation adjustments 364,858 (158,659) (11,143)
------------- ------------- -------------
Comprehensive income (loss) $ (168,596) $ 1,321,946 $ (16,533,783)
============= ============= =============
Comprehensive income (loss) per share: $ (0.01) $ 0.09 $ (1.08)
============= ============= =============
See report of independent auditors and accompanying notes to
consolidated financial statements.
F-3
WARRANTECH CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
March 31, March 31,
2004 2003
------------ ------------
A S S E T S
-----------
Current assets:
Cash and cash equivalents $ 5,229,773 $ 6,422,530
Investments in marketable securities 1,370,731 843,980
Accounts receivable, (net of allowances of
$233,667 and $230,064, respectively) 23,369,612 22,008,608
Other receivables, net 7,322,289 5,299,887
Deferred income taxes 3,478,250 2,098,171
Receivable from Reliance Warranty, Inc. -- 15,892,635
Employee receivables 70,908 73,833
Prepaid expenses and other current assets 728,265 1,218,392
------------ ------------
Total current assets 41,569,828 53,858,036
------------ ------------
Property and equipment, net 5,746,851 8,296,313
Other assets:
Excess of cost over fair value of assets acquired
(net of accumulated amortization of $5,825,405) 1,637,290 1,637,290
Deferred income taxes 18,879,171 19,792,378
Deferred direct costs 186,513,417 173,557,349
Investments in marketable securities 1,083,400 1,355,263
Restricted cash 825,000 825,000
Split dollar life insurance policies 900,145 877,126
Other assets 29,448 47,122
------------ ------------
Total other assets 209,867,871 198,091,528
------------ ------------
Total Assets $257,184,550 $260,245,877
============ ============
See report of independent auditors and accompanying notes to
consolidated financial statements.
F-4
WARRANTECH CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
March 31, March 31,
2004 2003
------------- -------------
LIABILITIES AND STOCKHOLDERS' EQUITY (CAPITAL DEFICIENCY)
- ---------------------------------------------------------
Current liabilities:
Current maturities of long-term debt and capital lease obligations $ 664,406 $ 802,070
Insurance premiums payable 31,613,047 36,070,992
Income taxes payable 48,099 81,236
Accounts and commissions payable 7,083,459 8,118,371
Claims loss liability 5,608,893 9,262,407
Accrued expenses and other current liabilities 3,776,199 3,534,106
------------- -------------
Total current liabilities 48,794,103 57,869,182
------------- -------------
Deferred revenues 228,955,971 216,720,628
Claims loss liability 3,882,685 9,491,578
Long-term debt and capital lease obligations 980,903 1,218,670
Deferred rent payable 369,839 417,720
------------- -------------
Total liabilities 282,983,501 285,717,778
------------- -------------
Commitments and contingencies -- --
Stockholders' equity (capital deficiency):
Preferred stock - $.0007 par value authorized - 15,000,000 Shares
issued - none at March 31, 2004 and March 31, 2003 -- --
Common stock - $.007 par value authorized - 30,000,000 Shares
issued - 16,586,283 shares at March 31, 2004 and
16,530,324 shares at March 31, 2003 116,106 115,714
Additional paid-in capital 23,800,228 23,760,809
Loans to directors and officers (10,747,470) (10,462,094)
Accumulated other comprehensive income, net of taxes 150,801 (196,974)
Retained earnings (deficit) (34,931,059) (34,414,686)
------------- -------------
(21,611,394) (21,197,231)
Treasury stock - at cost, 1,187,606 shares at March 31, 2004
And 1,249,690 shares at March 31, 2003 (4,187,557) (4,274,670)
------------- -------------
Total Stockholders' Equity (Capital Deficiency) (25,798,951) (25,471,901)
------------- -------------
Total Liabilities and Stockholders' Equity (Capital Deficiency) $ 257,184,550 $ 260,245,877
============= =============
See report of independent auditors and accompanying notes to
consolidated financial statements.
F-5
WARRANTECH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMMON STOCKHOLDERS' EQUITY (CAPITAL DEFIECINCY)
For the Years Ended March 31,
--------------------------------------------
2004 2003 2002
------------ ------------ ------------
Common Stock Outstanding (shares)
- ---------------------------------
Balance, beginning of year 16,530,324 16,525,324 16,514,228
Exercise of common stock options 48,667 5,000 --
Issuance of common stock 7,292 -- 11,096
------------ ------------ ------------
Balance, end of year 16,586,283 16,530,324 16,525,324
============ ============ ============
Common Stock (amount)
- ---------------------
Balance, beginning of year $ 115,714 $ 115,679 $ 115,580
Exercise of common stock options 341 35 --
Issuance of common stock 51 -- 99
------------ ------------ ------------
Balance, end of year $ 116,106 $ 115,714 $ 115,679
============ ============ ============
Additional Paid-In Capital
- --------------------------
Balance, beginning of year $ 23,760,809 $ 23,745,944 $ 23,742,868
Exercise of unrestricted common stock options -- 2,065 --
Exercise of restricted common stock options -- 12,800 --
Issuance of common stock 39,419 -- 3,076
------------ ------------ ------------
Balance, end of year $ 23,800,228 $ 23,760,809 $ 23,745,944
============ ============ ============
Loans to Directors and Officers
- -------------------------------
Balance, beginning of year $(10,462,094) $(10,163,875) $ (9,833,244)
Loans for exercise of stock options (285,376) (298,219) (330,631)
------------ ------------ ------------
Balance, end of year $(10,747,470) $(10,462,094) $(10,163,875)
============ ============ ============
Accumulated Other Comprehensive Income
- --------------------------------------
Balance, beginning of year $ (196,974) $ (52,028) $ (31,949)
Foreign currency translation adjustments 364,858 (158,659) (11,143)
Unrealized gain (loss) on investments (17,083) 13,713 (8,936)
------------ ------------ ------------
Balance, end of year $ 150,801 $ (196,974) $ (52,028)
============ ============ ============
Retained Earnings (Accumulated Deficit)
- ---------------------------------------
Balance, beginning of year $(34,414,688) $(35,881,580) $(19,367,876)
Net income (loss) (516,371) 1,466,892 (16,513,704)
------------ ------------ ------------
Balance, end of year $(34,931,059) $(34,414,688) $(35,881,580)
============ ============ ============
Common stock in treasury (shares)
- ---------------------------------
Balance, beginning of year (1,249,690) (1,212,159) (1,415,171)
Purchase of treasury shares -- (259,753) --
Issuance of treasury shares 62,084 222,222 203,012
------------ ------------ ------------
Balance, end of year (1,187,606) (1,249,690) (1,212,159)
============ ============ ============
Common stock in treasury (amount)
- ---------------------------------
Balance, beginning of year $ (4,274,670) $ (4,224,641) $ (4,341,206)
Purchase of treasury shares -- (155,774) --
Issuance of treasury shares 87,113 105,745 116,565
------------ ------------ ------------
Balance, end of year $ (4,187,557) $ (4,274,670) $ (4,224,641)
============ ============ ============
------------ ------------ ------------
Total Stockholders' Equity (Capital Deficiency) $(25,798,951) $(25,471,903) $(26,460,501)
- ---------------------------------------------- ============ ============ ============
See report of independent auditors and accompanying notes to
consolidated financial statements.
F-6
WARRANTECH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended March 31,
--------------------------------------------
2004 2003 2002
------------ ------------ ------------
Cash flows from operating activities:
Net income (loss) $ (516,371) $ 1,466,892 $(16,513,704)
------------ ------------ ------------
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 3,280,604 3,885,054 4,480,442
Compensatory element of stock options -- 12,800 --
Provision for bad debt expense 590,000 150,444 --
Deferred revenues 12,235,343 48,890,474 28,301,812
Deferred direct costs (12,956,068) (47,285,192) (21,483,900)
Deferred income taxes (466,872) 348,098 (11,605,229)
Deferred rent payable (47,881) 227,460 (103,033)
Other (245,130) (513,039) (357,818)
Increase (decrease) in cash flows as a result of
changes in asset and liability balances:
Accounts receivable (1,361,004) (3,566,473) (6,289,620)
Other receivables (2,019,477) (3,150,220) 4,888,473
Receivable from Reliance Warranty, Inc. 15,892,635 -- (15,892,635)
Income taxes (33,137) 1,210,312 4,249,572
Prepaid expenses and other current assets 490,127 (617,448) 363,985
Split dollar life insurance policies (23,019) 27,046 (195,910)
Other assets 17,674 (2,576) 20,263
Insurance premiums payable (4,457,945) 9,600,727 7,370,101
Accounts and commissions payable (1,034,912) 1,157,906 613,593
Claims loss liability - Reliance (9,262,407) (10,959,364) 29,713,349
Accrued expenses and other current liabilities 242,093 365,440 (2,721,412)
------------ ------------ ------------
Total Adjustments to reconcile net income to net cash
provided by operating activities: 840,624 (218,551) 21,352,034
------------ ------------ ------------
Net cash flows provided by operating activities 324,252 1,248,341 4,838,330
------------ ------------ ------------
Cash flows from investing activities:
Property and equipment purchased (418,822) (1,818,224) (1,496,747)
Purchase of marketable securities (1,455,000) (790,000) (430,000)
Decrease in notes receivable -- 137,683 462,113
Proceeds from sales of marketable securities 1,190,000 945,000 1,415,304
------------ ------------ ------------
Net cash (used) by investing activities (683,822) (1,525,541) (49,330)
Cash flows from financing activities:
Exercise of common stock options and stock grants 18,868 2,100 --
Purchase treasury stock -- (155,774) --
Repayments, notes and capital leases (852,055) (845,874) (561,087)
------------ ------------ ------------
Net cash (used by) financing activities (833,187) (999,548) (561,087)
------------ ------------ ------------
Net increase (decrease) in cash and cash equivalents (1,192,757) (1,276,748) 4,227,913
Cash and cash equivalents at beginning of year 6,422,530 7,699,278 3,471,365
------------ ------------ ------------
Cash and cash equivalents at end of year $ 5,229,773 $ 6,422,530 $ 7,699,278
============ ============ ============
Supplemental Cash Flow Information:
Cash payments (receipts) for:
Interest $ 148,358 $ 275,185 $ 217,072
============ ============ ============
Income taxes $ 48,650 $ (1,218,916) $ (1,107,494)
============ ============ ============
Non-Cash Investing and financing activities:
Property and equipment financed through capital leases $ 487,060 $ 1,120,273 $ 443,232
Capital leases refinanced $ -- $ -- $ 151,727
Increase in loans to officers and directors $ (285,376) $ (298,219) $ (330,631)
Issuance of treasury stock for services rendered $ 87,113 $ 105,745 $ 116,565
See report of independent auditors and accompanying notes to
consolidated financial statements.
F-7
WARRANTECH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Business - Warrantech, through its wholly owned subsidiaries,
designs, develops, markets and acts as a third party administrator for
programs ("Programs") for service contracts, limited warranties and
replacement plans (collectively, "Plans"). The Company provides these
services to a variety of clients in selected industries. On a Program
by Program basis, the Company contracts with highly rated independent
insurance companies or risk retention groups available to provide
coverage for the Plans sold or issued under the Programs. This coverage
obligates the insurer to pay the cost of repairs or replacements of the
products covered by the Plans.
Plans issued under the Company's Programs provide consumers with
expanded and/or extended product breakdown coverage for a specified
period of time (and/or mileage in the case of automobiles and
recreational vehicles), similar to that provided by manufacturers under
the terms of their product warranties. Coverage generally provides for
the repair or replacement of the product, or a component thereof, in
the event of its failure. The Company's Programs provide clients with
the opportunity for increased revenue and income without incurring the
costs and responsibilities of operating their own programs.
The Plans generally have terms extending up to one hundred twenty (120)
months or, in the case of mileage based Plans, up to one hundred fifty
thousand (150,000) miles. All repairs and/or replacements required
under the Plans are performed by independent third party repair
facilities or dealers. The cost of any repair or replacement is
generally paid by the applicable insurance company. Notwithstanding the
forgoing, however, certain Plans were insured by Reliance Insurance
Company ("Reliance") which was placed in liquidation in 2002.
Basis of Presentation and Principles of Consolidation - The
accompanying consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United
States of America ("GAAP"). These consolidated financial statements
include the accounts of Warrantech Corporation, its subsidiaries, all
of which are wholly owned, and certain transactions involving Butler
Financial Solutions, LLC ("Butler") due to its related interest to the
Company. All intercompany accounts and transactions have been
eliminated in consolidation.
Risks and Uncertainties - The preparation of financial statements in
conformity with accounting principles generally accepted in the United
States of America requires management to make estimates and assumptions
which affect the reporting of assets and liabilities as of the dates of
the financial statements and revenues and expenses during the reporting
period. Actual results could differ from these estimates.
Revenue Recognition Policy - Revenue from administrator-obligor
contracts and Butler-obligor contracts is recognized in accordance with
Financial Accounting Standards Board Technical Bulletin 90-1,
Accounting for Separately Priced Extended Warranty and Product
Maintenance Contracts, ("TB 90-1"). The Company recognizes such revenue
over the life of the contract on a straight-line basis. In addition the
Company charges the costs of contracts to operations over the life of
the contracts on a straight-line basis.
Based upon discussions with the SEC's Division of Corporation Finance
following that office's review of the Company's periodic reports, the
Company requested guidance from the SEC's Office of Chief Accountant
("OCA") concerning the appropriate revenue recognition policy which
should be applied by the Company with respect to the Butler-obligor
F-8
contracts. After considering the guidance received from the OCA, Butler
was determined to be a nominally capitalized entity, and accordingly
Financial Accounting Standards Board Emerging Issues Task Force Topic
No. D-14, Transactions Involving Special-Purpose Entities ("Topic
D-14"), would be applied to the Butler-obligor contracts. The Company
therefore will treat the Butler-obligor contracts as if they were
administrator-obligor contracts and will recognize revenues under such
contracts pursuant to TB 90-1. These accounting changes do not alter
the legal obligations under the applicable agreements in which the
Company is not responsible for, nor has it assumed the, obligations of
Butler.
Revenue from dealer-obligor service contracts are sales in which the
retailer/dealer is designated as the obligor. Historically, through
June 15, 2003, the Company recognized revenues from these contracts in
direct proportion to the costs incurred in providing the service
contract programs to the Company's clients. Revenues in amounts
sufficient to meet future administrative costs and a reasonable gross
profit were deferred. Since June 15, 2003, revenue from these
dealer/obligor service contracts is recognized on a straight-line basis
over the life of the service contract, pursuant to Staff Accounting
Bulletin 101 (see Footnotes 3 & 4 below).
Direct Costs - Direct costs, which consist primarily of insurance
premiums and commissions, are those costs directly related to the
production and acquisition of service contracts. Effective with the
application of the revenue recognition policy described above, on all
service contracts, the Company recognizes direct costs according to
Statement of Financial Accounting Standards No. 113 ("SFAS 113"),
"Accounting and Reporting for Reinsurance of Short-Duration and Long
Duration Contracts". This requires that insurance premium costs be
ratably expensed over the life of the service contract.
Profit Sharing Arrangement - Pursuant to certain agreements with its
insurers, the Company may be eligible to share a portion of the
insurers' profits on the Company's service contract programs. The
amounts to be received, if any, are determined based upon the residual
value of the premiums set aside by the insurer to pay losses (the "Loss
Fund"). The residual value is comprised of underwriting profits and
investment income earned on the monies in the Loss Fund. Subsequent
adjustments to original estimates are solely changes in estimates based
upon current information, affording the Company better determination of
ultimate profit sharing revenues and are reflected in income when
known. The Company recognized $173,610 and $71,784 in profit sharing on
its International business in the fiscal years ended March 31, 2004 and
2003, respectively, with no profit sharing recognized for fiscal years
ended March 31, 2002.
Provision for Bad Debt Expense - The Company's policy is to establish
an allowance for doubtful accounts when receivables are determined to
be uncollectible or impaired.
Earnings Per Share - The Company has adopted Statement of Financial
Accounting Standards No. 128, "Earnings per Share", which modified the
calculation of earnings per share ("EPS".) This Statement replaced the
previous presentation of primary and fully diluted EPS to basic and
diluted EPS. Basic EPS is computed by dividing income available to
common stockholders by the weighted average number of common shares
outstanding for the period. Diluted EPS includes the dilution of common
stock equivalents, and is computed similarly to fully diluted EPS
pursuant to Accounting Principle Board ("APB") Opinion 15. All prior
periods presented have been restated to reflect this adoption.
Cash and Cash Equivalents - Cash and cash equivalents for the purpose
of reporting cash flows for all periods presented include cash on
deposit and certificates of deposit. There were no other cash
equivalents at March 31, 2004 and 2003.
F-9
At March 31, 2004 and 2003, respectively, the Company had cash on
deposit in excess of federally insured limits of $1,146,776 and
$4,535,328.
Included in the cash and cash equivalent balances as reported at March
31, 2004 and 2003, respectively, is $2,591,419 and $944,435 of cash
related to Butler. Since Butler is a private company, the Company has
no means to determine the disposition of this cash, if any, and,
accordingly management disclaims any knowledge of the existence of this
cash or related assets, liabilities or expenses. As part of its
agreement to receive monies received from RIC, Butler agreed to
restrict its cash received from RWC related to such settlement to be
used to pay future Reliance claims. At March 31, 2004, of the
$1,982,012 received from RWC, Butler had $1,390,064 in such restricted
cash on deposit.
Investments in Marketable Securities - All investments in marketable
securities have been classified as available-for-sale and are carried
at fair value with changes in unrealized gains and losses being
reflected as a separate component of accumulated other comprehensive
income, net of tax.
Property and Equipment - Property and equipment are stated at cost.
Depreciation is provided using the straight-line method over the
estimated useful lives of the related assets ranging between 3 and 7
years.
Capitalization Policy - In accordance with Statement of Position 98-1,
the Company capitalizes purchased software or software development and
implementation costs incurred internally or through independent
consultants related to the Company's state of the art proprietary
relational database and interactive operating software for warranty
tracking and sales. These systems are only available for internal uses
and are not available for purchase by outside parties. All direct
implementation costs and purchased software costs are capitalized and
amortized using the straight-line method over their estimated useful
lives not to exceed a five-year period. Of the $2,849,015 and
$4,427,891 of net unamortized software development costs at March 31,
2004 and March 31, 2003, respectively, the Company capitalized $441,300
and $779,665 during these periods, respectively.
Once annually or as events or circumstances indicate that an asset may
be impaired, the Company assesses potential impairment of its
long-lived assets, which include its property and equipment and its
identifiable intangibles such as software development costs, goodwill
and deferred charges. The Company determines such impairment by
measuring the undiscounted future cash flow generated by the assets,
comparing the result to the assets carrying value and adjusting the
asset to the lower of its carrying value or fair value and charging
current operations for the measured impairment. At years ended March
31, 2004 and 2003, the Company found no impairment to its property and
equipment or its other identifiable intangibles.
Excess of Cost Over Fair Value of Assets Acquired - The excess of cost
over fair value of the assets acquired ("Goodwill") is a result of the
purchases of Dealer Based Services, Inc. in 1989, and certain assets of
Distributors & Dealers Service Co., Inc. in October 1997. Prior to the
early adoption of Statement of Financial Accounting Standard No. 142
"Goodwill and Intangible Assets" on April 1, 2001, the excess of cost
over fair value of assets acquired was being amortized on a
straight-line basis over 15, 10 and 4.5 years, respectively. As a
result of the Company closing its offices in Europe during 2001, the
excess of Cost over Fair Value of Assets acquired from Home Guarantee
Corporation, PLC was charged to operations at that time.
Impairment of Long-lived Assets - The Company assesses potential
impairment of its long-lived assets, which include its property and
equipment and its identifiable intangibles such as software development
costs, goodwill and deferred charges under the guidance of SFAS 144
"Accounting for the Impairment or Disposal of Long-Lived Assets". Once
F-10
annually or as events or circumstances indicate that an asset may be
impaired, the Company assesses potential impairment of its long-lived
assets, which include its property and equipment and its identifiable
intangibles such as software development costs, goodwill and deferred
charges. The Company determines such impairment by measuring the
undiscounted future cash flow generated by the assets, comparing the
result to the assets carrying value and adjusting the asset to the
lower of its carrying value or fair value and charging current
operations for the measured impairment.
Advertising Costs - The Company expenses advertising costs as incurred.
Advertising expenses for the years ended March 31, 2004, 2003 and 2002
were $197,833, $261,182 and $388,085, respectively.
Stock Based Compensation - The Company applies Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB
25") and related interpretations in accounting for its stock-based
compensation plans. Under APB 25, compensation expense for stock option
and award plans is recognized as the difference between the fair values
of the stock at the date of the grant less the amount, if any, the
employee or director is required to pay. Certain operating officers
have been issued shares of the Company's common stock as part of their
compensation under their employment agreements. This compensation is to
be earned by the officers and charged to operations over five years,
the term of the employment agreements. In addition, certain employees
have been issued restricted shares of the Company's common stock as
compensation. Such compensation is amortized over the restriction
period, which is generally two years. Certain non-employees have been
issued options to purchase stock in lieu of compensation. The intrinsic
value of these options at the time of grant has been charged to
expense.
Income Taxes - Deferred tax assets and liabilities are determined under
the liability method whereby deferred tax assets and liabilities are
recognized for the expected tax effect of temporary differences between
the financial statement carrying amount and the tax bases of assets and
liabilities using presently enacted tax rates in effect for the years
in which the differences are expected to reverse.
Foreign Currency Translation - Financial statement accounts expressed
in foreign currencies are translated into United States dollars in
accordance with Statement of Financial Accounting Standards ("SFAS")
No. 52 "Foreign Currency Translation". The functional currency for the
Company's United Kingdom operations was the British pound. The
functional currency for the Company's Chilean and Peruvian operations
are their respective local currencies. Transaction gains and losses are
reflected in operations, while translation gains and losses are
reflected as a separate component of accumulated other comprehensive
income, net of tax.
Comprehensive Income - The Company has adopted SFAS No. 130 "Reporting
Comprehensive Income". SFAS No. 130 establishes rules for the reporting
and display of comprehensive income and its components; however, the
adoption of this Statement had minimal impact on the Company's net
income or stockholders' equity. SFAS No. 130 requires unrealized gains
or losses to be recorded on the Company's available for sale securities
and foreign currency translation adjustments, which prior to the
adoption were reported separately in stockholders' equity, to be
included in other comprehensive income.
Contingent Liability Policy - In accordance with SFAS 5 and Financial
Accounting Standards Interpretation ("FIN") 14, the Company may have
certain contingent liabilities with respect to material existing or
potential claims, lawsuits and other proceedings. The Company accrues
liabilities when it is probable that future costs will be incurred and
such costs can be reasonably estimated and measured.
F-11
3. RECENT ACCOUNTING PRONOUNCEMENTS
In January 2003, the FASB issued FASB Interpretation ("FIN") No. 46,
"Consolidation of Variable Interest Entities," as amended by FIN No. 46
(R) in December 2003. FIN No. 46 (R) requires variable interest
entities, or potential variable interest entities, to be consolidated
by the primary beneficiary if the entity does not effectively disperse
risk among the parties involved. The provisions of FIN No. 46 (R) are
effective for periods ending after December 15, 2003 for special
purpose entities and for all variable interest entities for periods
ending after March 15, 2004.
Since Butler was created prior to December 31, 2003 and the guidance
provided by the staff, resulting in the Company's giving effect to
Topic D-14, the Company is not required to apply this FASB
Interpretation to Butler because, after making an exhaustive effort, it
is unable to obtain the information necessary to perform the accounting
required to consolidate Butler.
In November 2002, the EITF issued a final consensus on Issue 00-21
"Accounting for Revenue Arrangements with Multiple Deliverables," which
addresses how to account for arrangements that may involve the delivery
or performance of multiple products, services, and/or rights to use
assets. Issue 00-21 limits the amount of revenue that can be allocated
to a delivered element to the amount that is not contingent on future
delivery of another element. If the amount of non-contingent revenue
allocated to a delivered element is less than the costs to deliver such
services, then such costs are deferred and recognized in future periods
when the revenue becomes non-contingent. Effective July 1 2003, the
Company adopted EITF 00-21 prospectively. See Footnote 4 below for the
impact on the Company's results of operations, and financial position.
4. RESTATEMENTS
The Company has adjusted its financial statements for the fiscal years
ending on March 31, 2003 and 2002 and the first three quarters for the
fiscal year 2004 in order to change the method of recognizing revenue
from certain of the service contracts which it administers and to give
effect to certain collateral transactions relating to such service
contracts.
Under most of the service contracts administered by the Company, either
the retailer/dealer ("dealer-obligor contracts") or Butler
("Butler-obligor contracts") is the named obligor. The Company is the
named obligor for service contracts ("administrator-obligor contracts")
only where required by the local jurisdiction in which the service
contracts are sold. In all circumstances, regardless of which entity is
the named obligor, the obligations under the service contracts are
insured by an A-rated licensed insurance company.
Based upon discussions with the SEC's Division of Corporation Finance
following that office's review of the Company's periodic reports, the
Company requested guidance from the SEC's Office of Chief Accountant
("OCA") concerning, among other things, the appropriate revenue
recognition policy which should be applied by the Company with respect
to the Butler-obligor contracts. After considering the guidance
received from the SEC Staff, Butler was determined to be a nominally
capitalized entity, and accordingly, all transactions concerning Butler
should be treated in a manner similar to accounting principles
discussed in Financial Accounting Standards Board Emerging Issues Task
Force Topic No. D-14, Transactions Involving Special-Purpose Entities
("Topic D-14"). The Company, therefore, will treat the Butler-obligor
contracts as if they were administrator-obligor contracts and will
recognize revenues under such contracts pursuant to TB 90-1. These
accounting changes do not alter the legal obligations under the
applicable agreements in which the Company is not responsible for, nor
has it assumed the, obligations of Butler.
F-12
In addition, the Company requested guidance from the OCA concerning the
appropriate revenue recognition policy which should be applied by the
Company with respect to the service contracts administered by the
Company in which dealers or other third parties (other than Butler) are
the obligor (dealer-obligor contracts). Prior to the request for
guidance, the Company recognized revenue from these contracts based
upon proportional performance. After considering the guidance received
from OCA, effective with the issuance of EITF Abstracts Issue No. 00-21
(EITF No. 00-21), "Revenue Arrangements with Multiple Deliverables",
the Company decided that it would not be appropriate to use
proportional performance for these dealer-obligor contracts. In
accordance with EITF No. 00-21 the Company's arrangement with respect
to the dealer-obligor contracts involves multiple deliverables, which
constitute separate units of accounting. The multiple deliverables
rendered by the Company consist of sale and contract structuring
services rendered to the dealer (delivered item) and claims handling
and adjudication services rendered for the insurance carrier
(undelivered item). According to EITF No. 00-21, in an arrangement of
multiple deliverables, the delivered item should be considered a
separate unit of accounting if all of the following criteria are met:
a. The delivered item has value to the customer on a standalone
basis
b. There is objective and reliable evidence of the fair value of
the undelivered item
c. The arrangement includes a general right of return relative to
the delivered item
Since the Company was not able to obtain objective or reliable evidence
of the fair value of the undelivered item, it was not established that
the Company had a separate units of accounting. With the effective date
of EITF No. 00-21 of June 15, 2003, revenue from these dealer/obligor
service contracts is recognized on a straight-line basis over the life
of the service contract, pursuant to Staff Accounting Bulletin 101. As
a result, the Company restated its financial statements for the 2nd and
3rd quarters of fiscal year 2004 to reflect the changes above. The
impact of the adjustment for the three quarters of fiscal year 2004 is
as follows:
F-13
Quarter ended June 30, 2003 Quarter ended September 30, 2003
----------------------------------------------- ---------------===----------------------------
As previously As previously
reported Adjustments As restated reported Adjustments As restated
------------- ------------- ------------- ----------- ------------- -------------
Statement of Operations:
Gross revenues $ -- $ 39,170,157 $ 39,170,157 $ -- $ 41,416,828 $ 41,416,828
Net revenues -- 30,393,822 30,393,822 -- 43,744,046 43,744,046
Direct Costs -- 23,098,528 23,098,528 -- 32,496,197 32,496,197
Gross Profit $ 8,455,357 (1,160,063) $ 7,295,294 $ 9,587,578 1,660,271 $ 11,247,890
Service, selling, general and
administrative $ 7,505,850 (155,083) $ 7,350,767 $ 8,024,878 (272,847) $ 7,752,031
Income (loss) from operations (73,573) (1,004,980) (1,078,553) 504,807 1,933,118 2,437,925
Other income 286,868 (82,547) 204,321 605,858 (90,194) 515,664
Income before provision for
income taxes 213,295 (1,087,527) (874,232) 1,110,665 1,842,924 2,953,589
Provision for income taxes (2,000) (397,240) (399,240) 329,259 611,863 941,122
Net income (loss) $ 215,295 (690,287) (474,992) $ 781,406 1,231,061 2,012,467
Earnings per share:
Basic $ 0.01 $ (0.04) $ (0.03) $ 0.05 $ 0.08 $ 0.13
============= ============= ============= ============= ============= =============
Diluted $ 0.01 $ (0.04) $ (0.03) $ 0.05 $ 0.07 $ 0.12
============= ============= ============= ============= ============= =============
Balance Sheet:
Cash & Cash Equivalents $ 4,689,531 $ 2,651,123 $ 7,340,654 $ 2,867,612 $ 2,472,743 $ 5,340,355
Loan receivable - Butler
Financial Solutions, Inc. 9,900,767 (9,900,767) -- 11,140,833 (11,140,833) --
Receivable from Reliance 15,892,635 15,892,635 -- 15,892,635 15,892,635
Deferred income tax asset 2,098,171 -- 2,098,171 2,098,171 168,700 2,266,871
Deferred income tax asset 802,404 19,389,212 20,191,616 653,504 19,370,049 20,023,553
Deferred direct costs 8,419,169 172,572,324 180,991,493 6,866,028 176,483,252 183,349,280
Notes receivable 5,374,772 (5,374,772) -- 6,404,655 (6,404,655) --
Total assets 73,811,307 176,945,109 250,756,416 76,193,247 255,490,948
Accounts and commissions payable 37,084,279 (29,191,324) 7,892,955 7,673,839 -- 7,673,839
Claims Liability - Reliance -- 5,608,893 5,608,893 -- 4,482,325 4,482,325
Deferred revenues 13,072,167 212,367,918 225,440,085 10,831,022 217,129,441 227,960,463
Claims Liability - Reliance -- 4,884,121 4,884,121 -- 4,482,325 4,482,325
Retained earnings (deficit) $ 819,926 (35,709,606) $ (34,889,680) $ 1,601,332 $ (35,962,867) $ (34,361,535)
Quarter ended December 31, 2003
------------------------------------------------
As previously
reported Adjustments As restated
------------- ------------- -------------
Statement of Operations:
Gross revenues $ 35,373,142 $ 35,373,142
Net revenues -- 19,073,561 19,073,561
Direct Costs -- 12,652,697 12,652,697
Gross Profit $ 8,737,105 (2,316,241) $ 6,420,864
Service, selling, general and
administrative $ 7,582,779 (248,238) $ 7,334,541
Income (loss) from operations 270,433 (2,068,003) (1,797,570)
Other income 484,306 (152,711) 331,595
Income before provision for
income taxes 754,739 (2,220,714) (1,465,975)
Provision for income taxes 301,113 (785,814) (484,701)
Net income (loss) $ 453,626 (1,434,900) (981,274)
Earnings per share:
Basic $ 0.03 $ (0.09) $ (0.06)
============= ============= =============
Diluted $ 0.03 $ (0.09) $ (0.06)
============= ============= =============
Balance Sheet:
Cash & Cash Equivalents $ 2,973,860 $ 1,136,665 $ 4,110,525
Loan receivable - Butler
Financial Solutions, Inc. 13,320,598 (13,320,598) --
Receivable from Reliance -- 15,892,635 15,892,635
Deferred income tax asset 1,872,574 318,100 2,190,674
Deferred income tax asset 650,704 19,245,063 19,895,767
Deferred direct costs 5,312,889 178,567,481 183,880,370
Notes receivable 7,387,250 (7,387,250) --
Total assets 78,631,521 273,081,481
Accounts and commissions payable 7,226,472 -- 7,226,472
Claims Liability - Reliance -- 5,608,893 5,608,893
Deferred revenues 8,816,766 219,492,595 228,309,361
Claims Liability - Reliance -- 5,261,913 5,261,913
Retained earnings (deficit) $ 2,054,956 $ (35,913,442) $ (33,858,486)
F-14
5. CLAIMS LOSS LIABILITY
During the second fiscal quarter of 2002, the Pennsylvania Insurance
Commissioner informed the Company that Reliance would be liquidated and
cease making payments on claims. The Pennsylvania Insurance
Commissioner determined that Reliance was not likely to be able to
satisfy all of the claims that would be submitted to it due to the
circumstances arising out of the September 11, 2001 terrorist attacks
on the World Trade Center. Reliance underwrote approximately 48% of the
automotive service contracts that were sold by Warrantech Automotive
during approximately one and one-half years ending in November 2001.
Approximately 52% of the automotive service contracts sold by
Warrantech Automotive during that period are not affected by the
Reliance liquidation. Service contracts sold before and after that
period are not affected because they are underwritten by other
insurance companies.
Warrantech Automotive was the named obligor, as well as the
administrator, under some of the vehicle service contracts insured by
Reliance. As the obligor, Warrantech Automotive would ultimately be
responsible for paying for the repairs under such contracts.
Additionally, for financial reporting purposes only, Warrantech is
treated as the obligor under the service contracts in which Butler is
the named obligor. While Warrantech is not obligated to pay claims
under such service contracts, it has treated the claims obligations
under the Butler-obligor contracts, including the service contracts
which were insured by Reliance, as obligations of the Company for
accounting purposes. Prior to Reliance's liquidation, Reliance covered
the cost of the repairs under the insurance policies it provided.
Because of Reliance's liquidation, insurance coverage for the Company's
obligations under those service contracts ceased to exist. However, a
non-insurance affiliate of Reliance, Reliance Warranty Company ("RWC"),
which was not placed in liquidation, held premiums totaling
approximately $15,892,635 relating to a portion of the service
contracts in which Butler, the retailer/dealers and Warrantech
Automotive were the named obligors. The Company received $15,892,635
from RWC during the fourth quarter of fiscal 2004, as part of a
settlement for claims paid by the Company on behalf of RWC. As a result
of the Reliance liquidation, the Company recorded a claims liability
expense for $19,591,713 during fiscal 2002, which was net of the
$15,892,632 receivable from RWC.
To mitigate its claims liability expense resulting from Reliance's
liquidation, the Company is attempting to ascertain if any recovery is
available from the Pennsylvania Insurance Department Insurance Funds,
any other state guaranty funds, or any Federal subsidies to the
insurance industry in general or Reliance specifically, as a result of
the terrorist attacks to pay vehicle service contract claims. If such
subsidies are available, it could take years before recovery, if any,
is obtained.
During the years ended March 31, 2004, 2003 and 2002, the Company paid
$9,262,407, $10,959,364 and $5,770,999, respectively, in claims related
to Reliance obligations. Remaining amounts are expected to be paid out
as set forth in the following table.
Expected Payment Date
--------------------------------------------------------------------------
2005 2006 2007 2008 2009 Thereafter Total
---------- ---------- ---------- ---------- ---------- --------- ----------
Claims loss liability $5,608,893 $3,882,685 $ -- $ -- $ -- $ -- $9,491,578
F-15
6. RESTRICTED CASH
At March 31, 2004 and 2003, cash in the amount of $825,000 was on
deposit with Florida and Ohio regulatory agencies to comply with their
state insurance laws. Additionally, Butler had $1,390,064 at March 31,
2004, which is restricted for use to pay Reliance claims.
7. INVESTMENTS IN MARKETABLE SECURITIES
Short-term marketable securities and long-term investments are
comprised of municipal bonds which bear interest at fixed rates.
Interest income from these securities is generally affected by changes
in the U.S. interest rates. The following tables provide information
about the Company's financial instruments that are sensitive to changes
in interest rates. The tables present principal cash flows and
weighted-average interest rates by expected maturity dates. All of the
investments are considered "available for sale." The resultant
differences between amortized cost and fair value, net of taxes, have
been reflected as a separate component of accumulated other
comprehensive income.
Principal amounts by expected maturity as of March 31, 2004 of
marketable securities are as follows:
Expected Maturity Date
---------------------------------------------------------------------------
2005 2006 2007 2008 2009 Thereafter Total Fair Value
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Available for
sale securities $1,355,000 $ 925,000 $ 120,000 $ -- $ -- $ -- $2,400,000 $2,454,131
Interest rate 4.36% 3.95% 1.99% -- -- --
Principal amounts by expected maturity as of March 31, 2003 of marketable
securities are as follows:
Expected Maturity Date
---------------------------------------------------------------------------
2004 2005 2006 2007 2008 Thereafter Total Fair Value
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Available for
sale securities $1,765,588 $ 360,573 $ -- $ -- $ -- $ 37,550 $2,163,711 $2,199,243
Interest rate 4.93% 4.96% -- -- -- 5.50%
8. OTHER RECEIVABLES
The nature and amounts of Other Receivables as of March 31, 2004 and
2003 are as follows:
March 31,
-------------------------
2004 2003
----------- -----------
Receivable from Reliance Warranty, Inc. -- $15,892,635
=========== ===========
Other receivables, net
Due from insurance companies $ 4,555,772 4,429,450
Due from dealers 464,436 348,229
Due from insurance companies - reimbursement of legal fees 1,865,399 --
----------- -----------
Due from insurance companies/dealers 6,885,607 4,777,679
Agent advances 109,604 157,527
Other 327,078 364,681
----------- -----------
7,322,289 5,299,889
Allowance for doubtful accounts -- --
----------- -----------
Total Other receivables, net $ 7,322,289 $ 5,299,889
=========== ===========
F-16
The following table sets forth the carrying amounts and fair values of
the Company's other receivables at March 31, 2004.
Expected Maturity Date
---------------------------------------------------------------------------
2004 2005 2006 2007 2008 Thereafter Total Fair Value
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Other receivables,
net $7,322,289 -- -- -- -- -- $7,322,289 $7,322,289
The following table sets forth the carrying amounts and fair values of
the Company's loan and other receivables at March 31, 2003.
Expected Maturity Date
----------------------------------------------------------------------------
2003 2004 2005 2006 2007 Thereafter Total Fair Value
---------- ----------- ---------- ---------- ---------- ---------- ----------- -----------
Receivable - Reliance
Warranty, Inc. -- $15,892,635 -- -- -- -- $15,892,635 $15,892,635
Other receivables, net 5,299,887 -- -- -- -- -- 5,299,887 5,299,887
9. PROPERTY AND EQUIPMENT
March 31
-------------------------
2004 2003
----------- -----------
Automobiles $ 61,280 $ 67,701
Equipment, furniture and fixtures 9,867,191 10,486,659
Leasehold improvements 2,028,573 2,135,007
Software development costs 15,670,248 15,226,184
----------- -----------
27,627,292 27,915,551
Less: Accumulated depreciation and amortization 23,642,267 21,556,526
----------- -----------
3,985,024 6,359,025
----------- -----------
Assets under capital leases:
Cost 9,666,422 9,624,745
Less: Accumulated amortization 7,904,595 7,687,457
----------- -----------
1,761,827 1,937,288
----------- -----------
Total Property and Equipment, net $ 5,746,851 $ 8,296,313
=========== ===========
Amortization expense on assets under capital leases for the years ended
March 31, 2004, 2003 and 2002 was $520,340, $662,715 and $1,053,797,
respectively. Depreciation expense on property and equipment other than
under capital leases for the years ended March 31, 2004, 2003 and 2002
was $2,760,264, $3,222,339 and $3,426,645, respectively.
10. LONG-TERM DEBT AND CAPITAL LEASE OBLIGATIONS
Long-term debt and capital lease obligations consisted of the
following:
March 31
-------------------------
2004 2003
----------- -----------
Capital lease obligations - for property and
equipment payable monthly with interest
rates ranging from 4.92% to 12.1% through 2009 $ 1,636,197 $ 2,020,740
Other 9,112
Less: Current maturities 664,406 802,070
----------- -----------
Long-term portion $ 980,903 $ 1,218,670
=========== ===========
F-17
The aggregate amounts of maturities at March 31, 2004 were as follows:
Minimum Future
Fiscal Year Lease Payments
--------------
2005 $ 779,762
2006 510,099
2007 313,136
2008 251,863
2009 39,489
2010 and thereafter --
--------------
1,894,349
Less amount representing interest 258,152
--------------
Net $ 1,636,197
==============
The capital lease obligations are collateralized by the capitalized
property and equipment related to the underlying leases.
11. SPLIT DOLLAR LIFE INSURANCE POLICIES
Through April 2003, the Company made payments on split dollar insurance
policies on the lives of six officers of the Company, respectively. The
Company suspended payment of premiums under these policies until the
permissibility of making such payments under the Sarbanes-Oxley Act of
2002 is clarified. The cash surrender value of these policies was
$900,145 and $877,126 as of March 31, 2004 and 2003, respectively. The
Company is the beneficiary of any proceeds from the policies up to the
amount of premiums paid.
F-18
12. INCOME TAXES
A reconciliation of the income tax provision to the amount computed
using the federal statutory rate is as follows:
For the years ended March 31,
-------------------------------------------------------------------------------------------
2004 2003 2002
---------------------------- --------------------------- ---------------------------
Income (loss) before income taxes $ ( 693,663) $ 1,853,508 $(24,927,848)
------------ ------------ ------------
Federal statutory rate $ (235,846) 34.0% $ 630,190 34.0% $ (8,475,464) 34.0%
State tax effect (96,037) 13.8% (187,141) -10.1% (77,130) 0.3%
Goodwill -- --% -- 0.0% -- 0.0%
Non deductible items 55,073 -7.9% 34,657 1.9% 34,179 -0.1%
Other 99,518 14.3% (91,090) -4.9% 104,271 -0.4%
------------ ------------ ------------ ------------ ------------ -------------
Provision (benefit) for income taxes $ (177,292) 25.6% $ 386,616 20.9% $ (8,414,144) 33.8%
============ ============ ============ ============ ============ =============
The components of tax expense
are as follows: Provision
For the Year Ended March 31, 2004 Current Deferred (Benefit)
--------------------------------- ------------ ------------ ------------
Federal $ 8,703 $ (392,733) $ (384,030)
State (57,187) (88,324) (145,511)
Foreign 388,455 (36,206) 352,249
------------ ------------ ------------
Total $ 339,971 $ (517,263) $ (177,292)
============ ============ ============
For the Year Ended March 31, 2003:
----------------------------------
Federal $ 32,791 $ 482,370 $ 515,161
State (104,423) (179,124) (283,547)
Foreign 110,148 44,854 155,002
------------ ------------ ------------
Total $ 38,516 $ 348,100 $ 386,616
============ ============ ============
For the Year Ended March 31, 2002:
----------------------------------
Federal $ 3,025,721 $(11,387,564) $ (8,361,841)
State 176,629 (293,493) (116,864)
Foreign 100,573 (36,010) 64,563
------------ ------------ ------------
Total $ 3,302,923 $(11,717,067) $ (8,414,144)
============ ============ ============
Deferred tax assets and liabilities reflect the net tax effect of
temporary differences between the carrying amounts of assets and
liabilities for financial reporting purposes and the amounts used for
income taxes. The components of the net deferred tax asset are as
follows:
F-19
---------------------------
For the Years Ended March 31,
---------------------------
2004 2003
------------ ------------
Deferred tax assets
Deferred revenue $ 74,011,369 $ 73,649,047
Deferred rent 125,745 142,025
Provision for doubtful accounts 76,047 78,222
Accrued bonus 92,155 149,447
Foreign loss benefit 137,456 205,470
Net operating loss 3,057,265 1,682,365
Net state benefit 795,864 796,969
Tax vs. book depreciation 70,750 39,046
Other 91,243 113,284
------------ ------------
Total assets 78,457,894 76,855,875
Deferred tax liabilities
Deferred direct costs (60,320,142) (59,009,497)
Section 174 expense (736,243) (1,119,419)
------------ ------------
Total liabilities (61,056,385) (60,128,916)
17,401,509 16,726,959
Less: Valuation allowance (177,020) (256,434)
------------ ------------
17,224,489 16,470,525
Plus: Tax effect of Butler transaction 5,132,932 5,420,024
------------ ------------
Net deferred tax asset $ 22,357,421 $ 21,890,549
============ ============
As of March 31, 2004, the Company had a United States net operating
loss carryforward of approximately $8.99 million, which is available to
reduce future regular federal taxable income. If not used, the entire
carryover will expire in the years 2020 to 2024. As of March 31, 2004,
the Company also had a foreign net operating loss carryforward of
approximately $916,000. Due to the uncertainty of the realization of
these foreign tax carryforwards, the Company established a valuation
allowance against these carryforward benefits of $177,292 and $256,434
at March 31, 2004 and 2003, respectively.
Section 174 expense represents research and experimental expenses
related to the development of a proprietary relational database and
interactive software.
F-20
13. COMMITMENTS AND CONTINGENCIES
Operating Lease Commitments - The Company leases office and warehouse
space under noncancellable operating leases expiring through 2013.
These leases include scheduled rent increases over their respective
terms. The accompanying consolidated statements of operations reflect
rent expense on a straight-line basis over the lease terms, which
differ from the cash payments required. Rent expense, net of sub-lease
income, charged to operations for the years ended March 31, 2004, 2003
and 2002 was $2,101,971, $1,837,314 and $1,389,764, respectively.
Future minimum commitments under these leases that have initial or
remaining lease terms in excess of one year at March 31, 2004, are as
follows:
Fiscal Year Amount
----------- ------------
2005 $ 1,322,599
2006 1,268,616
2007 1,247,740
2008 1,231,629
2009 1,288,409
Thereafter through 2013 5,046,269
------------
Total future minimum lease payments $ 11,405,262
============
Employment Contracts - The Company has employment contracts with its
officers and certain key employees. These employment contracts,
expiring on various dates through 2008, provide for aggregate minimum
annual base compensation of $2,327,250. Certain agreements also call
for (i) annual increases, (ii) cost of living increases, (iii)
automobile allowances and (iv) additional compensation if certain
defined performance levels are attained. This additional compensation
is to be paid in the form of cash and/or Company common stock. The
Company also agreed to forgive interest which has accrued annually on a
note between the Company and its CEO, for as long as the CEO remains in
the Company's employ.
Line of Credit - The Company executed an agreement with Great American
Insurance Company ("GAIC") on October 9, 2002, whereby, GAIC agreed to
provide funding by extending a favorable change of its credit terms to
the Company.
GAIC also agreed to extend a separate line of credit for an amount up
to $3 million to the Company, subject to certain adjustments, to fund
unanticipated working capital requirements. Interest is charged on
monies advanced from the line of credit at an annual rate of prime plus
2%. As of March 31, 2004, no amounts were drawn on the line of credit
since its inception.
Equipment Financing - The Company has ongoing relationships with
equipment financing companies and intends to continue financing certain
future equipment needs through leasing transactions. The total amount
financed through leasing transactions during the fiscal year ended
March 31, 2004 amounted to $487,060 compared to $1,120,273 during the
fiscal year ended March 31, 2003. At fiscal year end 2004, the Company
had $1,636,197 in debt from capital lease obligations compared to
$2,020,740 at fiscal year-end 2003.
Litigation - The Company is from time to time involved in litigation
incidental to the conduct of its business.
Lloyd's Underwriters
Certain Underwriters at Lloyd's, London and Other Reinsurers
Subscribing to Reinsurance Agreements F96/2992/00 and No. F97/2992/00
v. Warrantech Corporation, Warrantech Consumer Product Services, Inc.,
Warrantech Help Desk, Inc., and Joel San Antonio, United States
District Court, Northern District of Texas, Fort Worth Division.
F-21
During the period that Houston General was the underwriter of certain
of Warrantech's programs, it reinsured certain of the underwritten
risks with one or more Lloyd's insurance syndicates. At some point
thereafter, Houston General commenced an arbitration against the
Lloyd's syndicates seeking to recover approximately $46,000,000 under
the reinsurance treaties with respect to claims previously paid by
Houston General on warranty claims submitted by customers under
Warrantech programs. The Warrantech entities were not parties in the
arbitration but were the subject of extensive discovery by each of
Houston General and the Lloyd's syndicates. The arbitration concluded
in August 2002 with an award of approximately $39,000,000 in favor of
Houston General.
The award supports the assertions of Houston General with respect to
the validity of the claims that it paid. Warrantech was not involved in
the selection of these re-insurers, has no contractual relationship
with them, and has had no reporting or other obligation to them.
Despite these facts, the Lloyd's syndicates now seek to recover some
portion of the arbitration award from the Warrantech entities on two
theories of liability. The first is that, at the time certain claims
were presented to Houston General for payment, the Warrantech entities
either fraudulently or negligently represented to Houston General that
such claims were valid. The second is that the Warrantech entities
intentionally failed to comply with their legal obligations to
cooperate with the parties during the discovery process for the
arbitration. The complaint seeks ordinary, punitive and exemplary
damages although no specific amount is requested. On January 6, 2004,
the plaintiff filed an amended complaint that added Joel San Antonio,
Chairman and Chief Executive Officer of Warrantech Corporation, as a
party defendant in his individual capacity.
Warrantech has filed a counterclaim against Lloyd's arising out of the
same set of facts that underlie the original litigation. Warrantech
alleges fraud, unfair claim settlement practices and bad faith and is
seeking damages of approximately $46 million. Warrantech is also asking
that treble damages for $138 million be awarded as permitted under
applicable Texas law.
This case was originally brought in the District Court of Tarrant
County, Texas, 17th Judicial District. On March 19, 2004, Defendant San
Antonio filed a notice of removal to the United States District Court
which motion was joined by all other defendants. Following removal,
Lloyd's filed a motion to remand the case to state court. Upon
consideration of the arguments and authorities submitted by all
parties, Judge McBryde denied Lloyd's motion with the result that the
case will be tried in United States District Court. At present, the
parties are complying with certain orders issued by Judge McBryde and
are continuing their discovery efforts.
Management continues to believe that this case is without merit. At
this time, however, it is not able to predict the outcome of the
litigation. For this reason, the Company is unable to determine its
potential liability, if any, and as such, the accompanying financial
statements do not reflect any estimate for losses.
Insurance liability - As a consequence of the September 11, 2001
tragedies, one of the Company's former insurance carriers, Reliance,
incurred potential claim losses that were greatly in excess of its
ability to pay them. Consequently, the Pennsylvania Insurance
Commissioner placed Reliance in receivership in October 2001. Reliance
had been an insurer of the Company's automotive contracts until August
2000. The Company was the obligor under approximately 20% of the
outstanding Reliance-insured contracts. As disclosed in Notes 3 & 4
above, Butler assumed the obligations of the Company and the estimated
claims loss was charged to operations in 2002.
F-22
14. STOCK OPTION AND OTHER BENEFIT PLANS
Stock Incentive Plans - Under the Company's 1998 Employee Incentive
Stock Option Plan, as amended (the "1998 amended Plan"), 1,041,987
shares of the Company's common stock are reserved for issuance to
employees (including officers) upon exercise of options granted under
the 1998 amended plan. Options are to be granted at an exercise price
not less than 100% of the fair market value of the Company's common
stock at date of grant. The number of shares granted, terms of
exercise, and expiration dates are to be decided at the date of grant
of each option by the Company's Board of Directors. The 1998 Amended
Plan will terminate in August 2008 unless sooner terminated by the
Board of Directors.
Stock Awards - Restricted common stock of the Company may be awarded to
officers, key employees, non-employee directors and certain other
non-employees. Shares granted are subject to certain restrictions on
ownership and transferability. Such restrictions on current restricted
stock awards typically lapse one to three years after the award. The
deferred compensation expense related to restricted stock grants is
amortized to expense on a straight-line basis over the period of time
of the restrictions are in place. Restricted common stock awards to
employees reduce stock options otherwise available for future grants.
The common stock awards are valued based on the opening price of the
Company's stock on the date the award is approved by the Board of
Directors. During the year end March 31, 2004, 69,375 restricted shares
were awarded to directors and employees. Common stock awards totaling
134,722 restricted shares were granted to directors and employees and
87,500 restricted shares were awarded to non-employees during the
fiscal year ended March 31, 2003.
The Company recognized costs of $100,000, $126,505 and $75,416 for the
years ended March 31, 2004, 2003 and 2002, respectively, for
stock-based compensation to employees and directors. The Company
recognized costs of $0, $74,688 and $49,997 for the years ended March
31, 2004, 2003 and 2002, respectively, for stock-based compensation to
non-employees.
Stock Option Plans - At March 31, 2004, the Company had one stock
option plan, which is described above. SFAS No. 123, "Accounting for
Stock-based Compensation," defines a fair value method of accounting
for an employee stock option. SFAS No. 123 allows a company to continue
to measure compensation costs for theses plans using APB No. 25 and
related interpretations. The Company has elected to continue using APB
No. 25 for accounting for its employee stock compensation plan.
Accordingly, no compensation cost has been recognized for its fixed
stock option plan. If Warrantech had determined compensation cost for
its stock option plan based on the fair value at the grant dates for
awards under the plan, consistent with the method prescribed by SFAS
123, the Company's net income and earnings per share would have been
reduced to the pro forma amounts as follows:
For the Years Ended March 31,
-------------------------------------------
2004 2003 2002
------------ ------------ ------------
Net income (loss) as reported $ (516,371) $ 1,466,892 $(16,513,704)
Net income (loss) pro forma $ (624,369) $ 1,399,608 $(16,755,106)
Shares - Basic 15,344,563 15,317,881 15,259,437
Basic earnings per share as reported $ (0.03) $ 0.10 $ (1.08)
Basic earnings per share pro forma $ (0.04) $ 0.09 $ (1.10)
F-23
Presented below is a summary of the status of the stock options in the
plan and the related transactions for the years ended March 31, 2004,
2003 and 2002.
2004 2003 2002
-------------------------------------------------------------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
---------- ---------- ---------- ---------- ---------- ----------
Options outstanding at beginning of
year 1,306,380 $ 1.33 1,416,283 $ 1.54 1,185,748 $ 2.18
Granted 278,040 1.38 664,048 0.73 361,253 0.89
Canceled/Surrendered (121,518) (1.44) (687,284) (2.13) (70,108) (1.32)
Exercised (20,000) (0.60) (5,000) (0.42) -- --
Forfeited (110,113) (0.94) (81,667) (0.92) (60,610) (1.35)
---------- ---------- ---------- ---------- ---------- ----------
Options outstanding at end of year 1,332,789 $ 1.23 1,306,380 $ 1.10 1,416,283 $ 1.93
========== ========== ========== ========== ========== ==========
---------- ---------- ---------- ---------- ---------- ----------
Options exercisable at end of year 764,604 $ 1.35 662,097 $ 1.33 531,261 $ 1.54
========== ========== ========== ========== ========== ==========
The weighted average fair value of stock options at date of grant,
calculated using the Black-Scholes option-pricing model, granted during
the years ended March 31, 2004, 2003 and 2002 was $0.56, $0.48 and $1.22,
respectively.
The following table summarizes the status of all Warrantech's stock
options outstanding and exercisable at March 31, 2004.
Stock Options Stock Options
Outstanding Exercisable
-------------------------------------- ------------------------
Weighted Weighted Weighted
Average Average Average
Remaining Exercise Exercise
Range Of Exercise Prices Shares Life (Yrs) Price Shares Price
- ------------------------ ---------- ---------- ---------- ---------- ----------
$0.67 to $0.94 694,010 6.48 $ 0.78 301,250 $ 0.73
$1.00 1,650,000 2.40 $ 1.00 1,650,000 $ 1.00
$1.26 to $1.595 617,065 5.13 $ 1.40 437,065 $ 1.33
$3.25 to $3.375 101,290 4.15 $ 3.26 101,290 $ 3.26
---------- ---------- ---------- ---------- ----------
Total at March 31, 2004 3,062,365 3.93 $ 1.68 2,489,605 $ 1.81
========== ========== ========== ========== ==========
Total at March 31, 2003 6,096,380 4.52 $ 1.97 3,709,022 $ 1.89
========== ========== ========== ========== ==========
Total at March 31, 2002 3,416,283 5.02 $ 1.78 2,531,257 $ 1.90
========== ========== ========== ========== ==========
Other Stock Options - The Company may issue options to purchase its
common stock to officers, non-employees, non-employee directors or
others as part of settlements in disputes and/or incentives to perform
services for the Company. The Company accounts for stock options issued
to vendors and non-employees of the Company under SFAS No. 123
"Accounting for Stock-based Compensation." In addition to the options
described below, during the year ended March 31, 2003, the Company
issued options to purchase 18,667 shares of common stock to vendors at
a weighted average exercise price of $0.68 per share and options to
purchase 30,000 shares of common stock to non-employee vendors at an
exercise price of $0.73 per share during the fiscal year ended March
31, 2003. The fair value of each option grant is estimated on the date
of grant using the Black-Scholes option-pricing model with weighted
average assumptions identical to those used for options granted to
employees.
The fair value of Warrantech stock options used to compute pro forma
net income and earnings per share disclosures is the estimated value at
grant date using the Black-Scholes option-pricing model with the
following weighted average assumptions for the years ended March 31,
2004, 2003 and 2002, respectively: expected dividend yield of 0%;
expected volatility of 30% - 50%; a risk free interest rate of 4.5% -
5.0%; and expected option life of 3 to 5 years.
F-24
On October 1, 2002, as part of an agreement between the Company and
GAIC to provide extended credit terms, GAIC received options to
purchase up to 1,650,000 shares of common stock. The GAIC options are
exercisable no earlier than January 1, 2006 nor later than December 31,
2006. Per the terms of the agreement, since Warrantech's stock did not
trade above $2 per share for ten consecutive trading days prior to
January 1, 2004, the exercise price of the option was automatically
reduced to $1 per share from $2 per share. The GAIC options are each
exercisable for a period of five years. Warrantech has the right to
redeem these options at any time if its shares trade at a price of
$3.00 per share or more on any five consecutive trading days. The
redemption price is $.001 per share. However, if Warrantech elects to
redeem the options, GAIC will have the right to exercise their
respective options immediately prior to the redemption. If GAIC
exercises all of these options, it would own approximately 10.8% of the
Company's outstanding shares. As the options had no value under the
Black-Scholes option pricing model, no compensation expense was
recorded in the Company's results of operations for the fiscal year
ended March 31, 2004.
On June 11, 2002, simultaneously with the settlement of the litigation
with Staples, the Company granted Staples options to purchase 1,000,000
shares of common stock at an exercise price of $2.00 per share (the
"Staples Options"). As part of the agreement with Reliance, Staples
received $3 million from Reliance, assumed obligations as dealer for
their reliance warranty contracts and surrendered their option to
purchase 1,000,000 shares of common stock.
On August 24, 2001, simultaneously with the settlement of the
litigation among Service Guard Insurance Agency, Inc., AIG and related
entities, the Company granted AIG options to purchase 2,000,000 shares
of common stock at an exercise price of $2.00 per share (the "AIG
Options"). As part of the Reliance settlement agreement, AIG agreed to
relinquish its interest in the options. The fair value of the above
options, as determined under the Black-Scholes option pricing model, of
$0 in fiscal 2004, $21,000 in fiscal 2003 and $0 in fiscal 2003 was
charged to operations.
On July 6, 1998, Joel San Antonio, Warrantech's Chairman and Chief
Executive Officer, and William Tweed and Jeff J. White, members of
Warrantech's Board of Directors, exercised an aggregate of 3,000,000 of
their vested options to purchase Warrantech common stock. Promissory
notes totaling $8,062,500 were signed with interest payable over three
years at an annual rate of 6%. The promissory notes, which were with
recourse and secured by the stock certificates issued, matured July 5,
2001. On March 22, 1999, Joel San Antonio delivered an additional
promissory note for $595,634, payable to the Company, representing the
amounts funded by the Company for the payroll taxes payable by him for
the exercise of these options. The exercise of these stock options and
the anticipated tax benefit from this transaction represented
approximately $10 million. The amounts of these notes are recorded as a
contra-equity account, which is a reduction of stockholders' equity.
In February 2000, the Company agreed to restructure the loans to Mr.
Tweed and Mr. White by capitalizing the interest due and extending the
loan maturity from July 5, 2001 until January 31, 2005. Interest on the
restructured loans accrued annually at the applicable federal rate of
6.2%. Under the restructuring, interest first became payable on the
third anniversary of the restructuring and was payable annually
thereafter. In July 2002, the Company extended the loan maturity dates
until February 1, 2007 (the "loan extension"). The interest, which
accrued on the notes up to the time of the loan extension, was added to
the principal of the notes. The new principal amount of Mr. Tweed's
note is $3,189,675 and of Mr. White's note is $2,912,430. The
applicable federal interest rate on the notes following the loan
extension is 4.6%. Under the loan extension, interest on the notes will
accrue until February 1, 2005 and, at that time, the accrued interest
will be added to the principal of the notes. Interest on the new
principal amounts thereafter become payable annually until maturity.
F-25
In February 2000, the Company also agreed to restructure the two
existing loans to Mr. San Antonio (as restructured, the "Combined
Loan"). The Combined Loan, finalized in March 2001, was due on January
31, 2005 and accrued interest annually at 5.2%. In July 2002, the
Company extended the loan maturity date until February 1, 2007 and the
interest rate was changed to the then applicable federal rate of 4.6%.
The principal amount of Mr. San Antonio's note is $4,165,062. Interest
will be forgiven as long as Mr. San Antonio continues to be employed by
the Company. The $194,786, 200,506 and $330,631of interest which
accrued on the note during fiscal years 2004, 2003 and 2002,
respectively has been forgiven. The interest was charged to operations
as additional compensation in the respective fiscal years the interest
income was accrued.
The total amount of the restructured loans to Mr. Tweed, Mr. White and
Mr. San Antonio, including the capitalized interest of $480,303, is
$10,747,470 at March 31, 2004.
Savings and Retirement Plan
The Company and its qualified employees also participate in a Savings
and Retirement Plan also known as the 401(k) Plan (the "Plan"). All of
the Company's domestic employees who have completed one year of service
with the Company are eligible to participate in the Plan. The Company
contributes 66% of an eligible employee's contribution to the Plan,
with a maximum up to 4% of the employee's compensation. The Company's
contribution, for the benefit of the employee, vests after an employee
has been employed by the Company for three years. The Company
contributed $217,159 and $95,819 to the Plan during the fiscal years
ended March 31, 2004 and 2003, respectively.
15. OTHER INCOME (EXPENSE)
Other income (expense) consists of the following:
2004 2003 2002
---------- ---------- ----------
Interest and dividend income $ 615,248 $ 647,372 $ 855,877
Interest expense (690,019) (275,185) (217,072)
Gain(loss) on sale of assets 1,195 (70,463) (45,018)
Credit card usage rebate 541,345 453,760 147,735
Miscellaneous income (expense) 106,691 18,790 115,944
---------- ---------- ----------
Total Other Income (expense) $ 574,460 $ 774,274 $ 857,466
========== ========== ==========
16. SIGNIFICANT CUSTOMERS
During the fiscal year ended March 31, 2004, the Company had one
customer which accounted for more than 10% of the Company's
consolidated gross revenues fees. In 2004, 2003 and 2002 gross revenues
fees from this significant customer were $15.3 million, $13.8 million
and $14.0 million, respectively, which accounted for 11%, 9% and 12% of
the Company's total gross revenues fees, respectively.
F-26
17. EARNINGS PER SHARE
The computations of earnings per share for the years ended March 31,
2004, 2003 and 2002 are as follows:
For the Years Ended March 31,
2004 2003 2002
------------ ------------ ------------
Numerator:
Net income (loss) applicable to common stock $ (516,371) $ 1,466,892 $(16,513,704)
Denominator:
Average outstanding shares used in the
computation of per share earnings:
Common Stock issued-Basic shares 15,344,563 15,317,881 15,259,437
Stock Options (treasury method) -- 81,029 225,045
------------ ------------ ------------
Diluted shares 15,569,608 15,398,910 15,259,437
============ ============ ============
Earnings (loss) per common share:
Basic $ (0.03) $ 0.10 $ (1.08)
============ ============ ============
Diluted $ (0.03) $ 0.10 $ (1.08)
============ ============ ============
18. ACCUMULATED OTHER COMPREHENSIVE INCOME
The components of accumulated other comprehensive income, net of
related tax, for the years ended March 31, 2004, 2003 and 2002 are as
follows:
March 31, March 31,
2004 2003
------------ ------------
Unrealized gain/ (loss) on investments $ 963 $ 18,046
Accumulated translation adjustments 149,838 (215,020)
------------ ------------
Accumulated other comprehensive income $ 150,801 $ (196,974)
============ ============
19. SEGMENT INFORMATION
The Company operates in three major business segments: Automotive,
Consumer Products and International. The Automotive segment markets and
administers extended warranties on automobiles, light trucks,
motorcycles, recreational vehicles and automotive components, which are
sold principally by franchised and independent automobile and
motorcycle dealers, leasing companies, repair facilities, retail
stores, financial institutions and other specialty marketers. The
Consumer Products segment develops, markets and administers extended
warranties and product replacement plans on household appliances,
consumer electronics, televisions, computers, home office equipment and
homes and which are sold principally through retailers, distributors,
manufacturers, utility companies, financial institutions and other
specialty marketers. Warrantech also markets these warranties and plans
directly to the ultimate consumer on behalf of the retailer/dealer
and/or the manufacturer through telemarketing and direct mail
campaigns. The International segment markets and administers outside
the United States and Canada, predominately the same products and
services of the other business segments. The International segment is
currently operating in Central and South America, Puerto Rico and the
Caribbean. Other includes intersegment eliminations of revenues and
receivables and net unallocated Corporate expenses and Butler.
F-27
Consumer Reportable
Year Ended Automotive Products International Segments Other Total
- ----------------------------- ------------ ------------ ------------ ------------ ------------ ------------
March 31, 2004
- --------------
Revenues 103,494,113 38,974,179 7,725,941 150,194,233 (865,966) 149,328,267
Profit (loss) from operations 2,074,521 2,815,524 887,640 5,777,685 (7,045,808) (1,268,123)
Pretax income (loss) (3,952,873) 925,735 896,177 (2,130,961) 1,437,298 (693,663)
Net interest income (expense) (381,282) (58,666) 14,599 (425,348) 350,577 (74,771)
Depreciation/amortization 386,794 1,291,273 82,484 1,760,551 1,520,053 3,280,604
Total assets 180,793,348 65,350,694 8,618,712 249,885,803 2,109,732 256,872,485
March 31, 2003
- --------------
Revenues 108,025,461 33,681,861 5,359,710 147,067,032 (312,421) 146,754,611
Profit (loss) from operations 4,846,609 695,847 94,101 5,636,557 (4,557,323) 1,079,234
Pretax income (loss) (1,393,253) (344,476) 88,121 (1,649,608) 3,503,116 1,853,508
Net interest income (47,769) 1,935 8,680 (37,154) 409,341 372,187
Depreciation/amortization 382,361 1,688,070 86,885 2,157,316 1,727,738 3,885,054
Total assets 172,316,655 66,782,796 2,914,806 242,014,257 18,231,620 260,245,877
March 31, 2002
- --------------
Revenues 78,213,598 35,814,761 4,519,949 118,548,308 (410,446) 118,137,862
Profit (loss) from operations 5,276,711 (4,252,270) (578,137) 446,305 (26,231,619) (25,785,314)
Pretax income (loss) 822,148 (6,425,410) (907,600) (6,510,861) (18,416,987) (24,927,848)
Net interest income 95,081 55,526 26,477 177,083 461,722 638,805
Depreciation/amortization 398,229 1,674,238 79,999 2,152,466 2,327,976 4,480,442
Total assets 110,943,805 71,657,078 3,168,070 185,768,953 23,862,652 209,631,605
19. SUBSEQUENT EVENT
On June 22, 2004, the Company notified Butler Financial Solutions, LLC,
that effective as of October 22, 2004, the Company will terminate the
Obligor Agreement between the two Companies. As a result of the
agreement termination, Butler Financial Solutions, LLC will no longer
be the obligor on service contracts sold by Warrantech.
F-28
WARRANTECH CORPORATION AND SUBSIDIARIES
SUPPLEMENTAL QUARTERLY FINANCIAL DATA
(Unaudited)
The following fiscal 2004 and 2003 restated quarterly financial
information for each of the three month periods ended June 30,
September 30, December 31, 2003 and 2002 and March 31, 2004 and 2003 is
unaudited. However, in the opinion of management, all adjustments
(consisting of normal recurring adjustments) necessary to present
fairly the results of operations for such periods have been made for a
fair presentation of the results shown.
Quarter Ended Quarter Ended
June 30, September 30,
--------------------------- ---------------------------
2003 2002 2003 * 2002
------------ ------------ ------------ ------------
Net revenues $ 39,029,635 $ 23,148,796 $ 35,108,233 $ 23,621,224
Gross profit 9,096,201 8,892,227 9,446,942 9,100,273
Income (loss) from operations 722,354 782,997 637,018 330,149
Income (loss) before provision for
income taxes 926,675 1,010,884 1,152,682 668,770
Net income (loss) 696,715 774,511 840,760 418,533
Earnings (loss) per Share
Basic $ 0.05 $ 0.05 $ 0.05 $ 0.03
Fully Diluted $ 0.04 $ 0.05 $ 0.05 $ 0.03
Quarter Ended Quarter Ended
December 31, March 31,
--------------------------- ----------------------------
2003 * 2002 2004 2003
------------ ------------ ------------ ------------
Net revenues $ 29,698,016 $ 23,654,470 $ 16,125,395 $ 27,812,857
Gross profit 8,636,481 8,698,554 5,354,037 8,996,953
Income (loss) from operations 418,047 600,617 (3,045,542) (634,529)
Income (loss) before provision for
income taxes 749,642 829,517 (3,522,662) (655,663)
Net income (loss) 521,843 1,468,749 $(2,575,689) (1,194,901)
Earnings (loss) per Share
Basic $ 0.03 $ 0.10 $ (0.17) $ (0.03)
Fully Diluted $ 0.03 $ 0.09 $ (0.17) $ (0.03)
* restated to give effect to the provisions of EITF 00-21.
F-29
WARRANTECH CORPORATION AND SUBSIDIARIES
FINANCIAL STATEMENT SCHEDULE
SCHEDULE VIII-VALUATION AND QUALIFYING ACCOUNTS
- ----------------------------------- ------------ -------------------------------------- ------------- -------------
Column Column Column Column Column
A B C D E
- ----------------------------------- ------------ -------------------------------------- ------------- -------------
Additions
Balance at ------------------------------------- Deductions- Balance at
Beginning Charged to Costs Charged to Other End of
Description of Year and Expense (a) Accounts-Describe Describe (b) Year
- ----------------------------------- ------------ ----------------- ------------------- ------------- -------------
Year Ended March 31, 2004
Allowance for doubtful accounts:
Trade A/R $ 230,064 590,000 586,397 $ 233,667
Other A/R 0 0 0 0
Year Ended March 31, 2003
Allowance for doubtful accounts:
Trade A/R $ 256,019 150,444 176,399 $ 230,064
Other A/R 0 0 0 0
Profit Sharing --
Year Ended March 31, 2002
Allowance for doubtful accounts:
Trade A/R $ 1,079,946 823,927 $ 256,019
Other A/R 45,500 45,500 0 0
(a) Amount of receivables charged to the allowance during the year.
F-30