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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549-1004
(Mark One)
[X] FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from to
------------------ ------------------
Commission File Number 0-13084
------------------------------------------------
WARRANTECH CORPORATION
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 13-3178732
- --------------------------------------------------------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2200 Highway 121, Suite 100, Bedford, TX 76021
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (800) 544-9510
-----------------------------
- --------------------------------------------------------------------------------
(Former name, former address and former fiscal year, if changed since last year)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act.) Yes [ ] No [X]
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Class Outstanding at July 30, 2004
- --------------------------------------- --------------------------------
Common stock, par value $.007 per share 15,398,674 shares
WARRANTECH CORPORATION AND SUBSIDIARIES
I N D E X
---------
Page No.
--------
PART I - Financial Information
Item 1: Financial Statements
Condensed Consolidated Statements of Operations -
For the Three Months Ended June 30, 2004 and 2003 (Unaudited)... 2
Condensed Consolidated Balance Sheets at June 30, 2004
(Unaudited) and March 31, 2004.................................. 3
Condensed Consolidated Statements of Cash Flows
For the Three Months Ended June 30, 2004
and 2003 (Unaudited)............................................ 5
Notes to Condensed Consolidated Financial Statements................... 6
Item 2: Management's Discussion and Analysis of
Financial Condition and Results of Operations .................. 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk........ 14
Item 4. Controls and Procedures........................................... 14
PART II - Other Information
Item 1: Legal Proceedings................................................. 15
Item 2: Changes in Securities............................................. 15
Item 3: Defaults Upon Senior Securities................................... 15
Item 4: Submission of Matters to a Vote of Security Holders............... 15
Item 5: Other Information................................................. 15
Item 6: Exhibits and Reports on Form 8-K.................................. 15
Signature ................................................................. 16
1
PART I - Financial Information
Item 1: Financial Statements
WARRANTECH CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
For the Three Months Ended
June 30,
----------------------------
2004 2003
------------ ------------
Gross revenues $ 32,994,936 $ 39,170,157
Revenues deferred to future periods (31,042,699) (9,620,586)
Deferred revenues earned 21,909,254 844,251
Net (increase) decrease in deferred revenues (9,133,445) (8,776,335)
------------ ------------
Net revenues 23,861,491 30,393,822
Direct costs 17,400,074 23,098,528
------------ ------------
Gross Profit $ 6,461,417 $ 7,295,294
Operating expenses
Service, selling, and general and administrative 6,965,207 7,350,767
Provision for bad debt expense 131,279 95,000
Depreciation and amortization 728,489 928,080
------------ ------------
Total costs and expenses 7,824,975 8,373,847
------------ ------------
Income (loss) from operations (1,363,558) (1,078,553)
Other income 178,641 204,321
------------ ------------
Income (loss) before provision for income taxes (1,184,917) (874,232)
Provision (benefit) for income taxes (425,378) (399,240)
------------ ------------
Net income (loss) $ (759,539) $ (474,992)
============ ============
Earnings (loss) per share:
Basic ($ 0.05) ($ 0.03)
============ ============
Diluted ($ 0.05) ($ 0.03)
============ ============
Weighted average number of shares outstanding:
Basic 15,398,677 15,344,563
============ ============
Diluted 15,398,677 15,344,563
============ ============
See accompanying notes to condensed consolidated financial statements.
2
WARRANTECH CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
June 30,
2004 March 31,
(Unaudited) 2004
------------ ------------
A S S E T S
- -----------
Current assets:
Cash and cash equivalents $ 6,093,021 $ 5,229,773
Investments in marketable securities 1,086,622 1,370,731
Accounts receivable, (net of allowances of
$328,065 and $233,667, respectively) 23,123,347 23,369,612
Other receivables, net 8,111,005 7,322,289
Deferred income taxes 3,478,250 3,478,250
Employee receivables 66,834 70,908
Prepaid expenses and other current assets 526,584 728,265
------------ ------------
Total current assets 42,485,663 41,569,828
------------ ------------
Property and equipment, net 5,344,034 5,746,851
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 19,346,464 18,879,171
Deferred direct costs 196,255,326 186,513,417
Investments in marketable securities 1,384,764 1,083,400
Restricted cash 825,000 825,000
Split dollar life insurance policies 900,145 900,145
Other assets 32,556 29,448
------------ ------------
Total other assets 220,381,544 209,867,871
------------ ------------
Total Assets $268,211,241 $257,184,550
============ ============
See accompanying notes to condensed consolidated financial statements.
3
WARRANTECH CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
June 30,
2004 March 31,
(Unaudited) 2004
------------- -------------
LIABILITIES AND STOCKHOLDERS' CAPITAL DEFICIENCY
- ------------------------------------------------
Current liabilities:
Current maturities of long-term debt and capital lease obligations $ 647,731 $ 664,406
Insurance premiums payable 36,183,304 31,613,047
Income taxes payable 44,242 48,099
Accounts and commissions payable 6,414,843 7,083,459
Claims Liability - Reliance 3,532,287 5,608,893
Accrued expenses and other current liabilities 4,423,426 3,776,199
------------- -------------
Total current liabilities 51,245,833 48,794,103
------------- -------------
Deferred revenues 238,032,539 228,955,971
Claims Liability - Reliance 4,208,213 3,882,685
Long-term debt and capital lease obligations 1,003,642 980,903
Deferred rent payable 414,836 369,839
------------- -------------
Total liabilities 294,905,063 282,983,501
------------- -------------
Commitments and contingencies -- --
Stockholders' Capital Deficiency:
Preferred stock - $.0007 par value authorized - 15,000,000 Shares
issued - none at June 30, 2004 and March 31, 2004 -- --
Common stock - $.007 par value authorized - 30,000,000 Shares
issued - 16,586,280 shares at June 30, 2004 and March 31, 2004
116,106 116,106
Additional paid-in capital 23,800,228 23,800,228
Loans to directors and officers (10,818,424) (10,747,470)
Accumulated other comprehensive income, net of taxes 86,422 150,801
Deficit (35,690,597) (34,931,059)
------------- -------------
(22,506,265) 21,611,394)
Treasury stock - at cost, 1,187,606 shares at June 30, 2004 and March 31, 2004 (4,187,557) (4,187,557)
------------- -------------
Total Stockholders' Capital Deficiency (26,693,822) (25,798,951)
------------- -------------
------------- -------------
Total Liabilities and Stockholders' Capital Deficiency $ 268,211,241 $ 257,184,550
============= =============
See accompanying notes to condensed consolidated financial statements.
4
WARRANTECH CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
For the Three Months
Ended June 30,
----------------------------
2004 2003
------------ ------------
Cash flows from operating activities:
Net income (loss) $ (759,539) $ (474,992)
------------ ------------
Total adjustments to reconcile net income to net cash
------------ ------------
provided by operating activities: 1,868,979 1,908,102
------------ ------------
Net cash flows provided by operating activities 1,109,440 1,433,110
Cash flows from investing activities:
Property and equipment purchased (45,392) (152,192)
Purchase of marketable securities (525,000) (175,000)
Proceeds from sales of marketable securities 500,000 295,000
------------ ------------
Net cash provided (used) by investing activities (70,392) (32,192)
------------ ------------
Cash flows from financing activities:
Issuance of common stock -- 70
Repayments, notes and capital leases (175,800) (208,231)
------------ ------------
Net cash (used) by financing activities (175,800) (208,161)
------------ ------------
Net increase (decrease) in cash and cash equivalents 863,248 (1,192,757)
Cash and cash equivalents at beginning of period 5,229,773 6,422,530
------------ ------------
Cash and cash equivalents at end of period $ 6,093,021 $ 5,229,773
------------ ------------
Supplemental Cash Flow Information:
Cash payments for:
Interest $ 38,950 $ 43,582
------------ ------------
Income taxes $ 48,650 --
------------ ------------
Non-Cash investing and financing activities:
Property and equipment financed through capital leases $ 187,820 $ 168,838
Increase in loans to officers and directors $ (70,954) $ (70,954)
Issuance of treasury stock for services rendered -- $ 50,238
See accompanying notes to condensed consolidated financial statements.
5
WARRANTECH CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2004
(Unaudited)
1. THE COMPANY
-----------
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 foregoing, however,
certain Plans were insured by Reliance Insurance Company ("Reliance") which
was placed in liquidation in 2002.
2. BASIS OF PRESENTATION
---------------------
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 with the Company. All
intercompany accounts and transactions have been eliminated in
consolidation. In the opinion of management, all adjustments (consisting of
normal recurring accruals) considered necessary for a fair presentation of
the financial position and operating results of the Company for the interim
period have been included. Operating results for the three months ended
June 30, 2004 are not necessarily indicative of the results that may be
expected for the fiscal year ending March 31, 2005. For further
information, refer to the consolidated financial statements and footnotes
thereto included in the Company's Annual Report on Form 10-K for the year
ended March 31, 2004.
3. OTHER RECEIVABLES
-----------------
The nature and amounts of Other Receivables as of June 30, 2004 and March
31, 2004 are as follows:
---------------------------
June 30, March 31,
2004 2004
------------ ------------
Other receivables, net
Due from insurance companies $ 4,736,989 $ 4,555,772
Due from dealers 508,475 464,436
Due from insurance companies - reimbursement of legal fees 2,314,138 1,865,399
------------ ------------
Due from insurance companies/dealers 7,559,602 6,885,607
Agent advances 95,347 109,604
Other 456,106 327,078
------------ ------------
8,111,005 7,322,289
Allowance for doubtful accounts -- --
------------ ------------
Total other receivables, net $ 8,111,005 $ 7,322,289
============ ============
6
The following table sets forth the carrying amounts and fair values of
the Company's other receivables at June 30, 2004.
Expected Maturity Date
----------------------------------------------------------------------
2005 2006 2007 2008 2009 Thereafter Total Fair Value
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Other receivables, net $8,111,005 -- -- -- -- -- $8,111,005 $8,111,005
4. COMPREHENSIVE INCOME (LOSS)
---------------------------
The components of comprehensive income (loss) are as follows:
For the Three Months Ended
June 30,
----------------------------
2004 2003
------------ ------------
Net income (loss) ($ 759,539) ($ 474,992)
Other comprehensive income (loss), net of tax
Unrealized gain (loss) on investments (11,123) 13,713
Foreign currency translation adjustments (53,256) (158,659)
------------ ------------
Comprehensive income (loss) ($ 823,918) ($ 619,938)
============ ============
Comprehensive income (loss) per share: ($ 0.05) ($ 0.04)
============ ============
The components of accumulated comprehensive income are as follows:
June 30, March 31,
2004 2004
------------ ------------
Unrealized gain/(loss) on investments ($ 10,160) $ 963
Accumulated translation adjustments 96,582 149,838
------------ ------------
Accumulated other comprehensive income $ 86,422 $ 150,801
============ ============
5. EARNINGS PER SHARE
------------------
The following table sets forth the calculation of earnings per share for
the three months ended June 30, 2004 and 2003.
For the Three Months Ended
June 30,
----------------------------
2004 2003
------------ ------------
Numerator:
Net income (loss ) applicable to common stock ($ 759,539) ($ 474,992)
============ ============
Denominator:
Average outstanding shares used in the
computation of per share earnings:
Common stock issued - Basic shares 15,398,677 15,344,563
------------ ------------
- Diluted shares 15,398,677 15,344,563
============ ============
Earnings (loss) per common share:
Basic ($ 0.05) ($ 0.03)
============ ============
Diluted ($ 0.05) ($ 0.03)
============ ============
7
6. STOCK OPTION PLAN
-----------------
In December 2002, the FASB issued Statement of Financial Accounting
Standards No. 148, "Accounting for Stock-Based Compensation - Transition
and Disclosure, an Amendment of FASB Statement No. 123" (SFAS No. 148).
SFAS No. 148 provides alternative methods of transition for companies
making a voluntary change to fair value-based accounting for stock-based
employee compensation. The Company continues to account for its stock
option plan under the intrinsic value recognition and measurement
principles of APB Opinion No. 25, "Accounting for Stock Issued to
Employees," and related Interpretations. Effective for interim periods
beginning after December 15, 2002, SFAS No. 148 also requires disclosure of
pro-forma results on a quarterly basis as if the Company had applied the
fair value recognition provisions of SFAS No. 123.
As the exercise price of all options granted under the plan was equal to or
above the market price of the underlying common stock on the grant date, no
stock-based employee compensation is charged to operations. The following
table illustrates the effect on net income and earnings per share if the
company had applied the fair value recognition provisions of SFAS No. 123,
as amended, to options granted under the stock option plans and rights to
acquire stock granted under the company's Stock Participation Plan,
collectively called "options." For purposes of this pro-forma disclosure,
the value of the options is estimated using a Black-Scholes option pricing
model and amortized ratably to expense over the options' vesting periods.
Because the estimated value is determined as of the date of grant, the
actual value ultimately realized by the employee may be significantly
different.
For the Three Months Ended
June 30,
---------------------------
2004 2003
----------- -----------
Net income (loss) as reported ($ 759,539) ($ 474,992)
Net income (loss) pro forma ($ 782,286) ($ 494,676)
Shares - Basic 15,398,677 15,344,563
Basic earnings (loss) per share as reported ($ 0.05) ($ 0.03)
Basic earnings per (loss) share pro forma ($ 0.05) ($ 0.03)
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 three months ended June 30, 2004 and
2003, respectively: expected dividend yield of 0%; expected volatility of
30% - 50%; a risk free interest rate of 4.0% - 5.0%; and expected option
life of 3 to 10 years.
Presented below is a summary of the status of the stock options in the plan
and the related transactions for the three months ended June 30, 2004 and
2003.
2004 2003
-------------------------------------------------
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
-------------------------------------------------
Options outstanding at beginning of the period 1,332,789 $ 1.35 1,306,380 $ 1.10
Granted -- -- 180,000 2.18
Canceled/Surrendered -- -- -- --
Exercised -- -- -- --
Forfeited -- -- -- --
-------------------------------------------------
Options outstanding at end of period 1,332,789 $ 1.35 1,486,380 $ 1.16
=================================================
-------------------------------------------------
Options exercisable at end of period 764,604 $ 1.35 708,660 $ 1.36
=================================================
The weighted average fair value of stock options at date of grant,
calculated using the Black-Scholes option-pricing model, granted during the
three months ended June 30, 2004 and 2003 was is $0.00 and $0.54,
respectively.
8
The Company may issue options to purchase the Company's 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." The fair value of each option grant is estimated on the date
of grant, using the Black-Scholes option-pricing model, is charged to
operations utilizing weighted average assumptions identical to those used
for options granted to employees.
The following table summarizes the status of all Warrantech's stock options
outstanding and exercisable at June 30, 2004.
Stock Options Stock Options
Outstanding Exercisable
-------------------------------- --------------------------
Weighted Weighted
Average Average
Exercise Exercise
Range Of Exercise Prices Shares Price Shares Price
------------------------ ------------ ------------ ------------ -----------
$0.67 to $0.87 694,010 $0.78 301,250 $0.73
$1.00 1,650,000 $1.00 $ 1,650,000 $1.00
$1.26 to $1.595 617,065 $1.40 437,065 $1.33
$3.25 to $3.375 101,290 $3.26 101,290 $3.26
------------ ------------ ------------ -----------
Total at June 30, 2004 3,062,365 $1.68 2,489,605 $1.90
============ ============ ============ ===========
7. SEGMENTS
--------
The Company operates in three major business segments: Automotive, Consumer
Products and International. The Automotive segment designs, develops, markets
and acts as a third party administrator for vehicle service contract 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 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. The
International segment 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.. The International segment is
currently operating in Puerto Rico, Guatemala, El Salvador, Chile and Peru.
"Other" includes intersegment eliminations of revenues and receivables and net
unallocated corporate expenses.
Consumer Reportable
Three Months Ended Automotive Products International Segments Other Total
------------- ------------- ------------- ------------- ------------- -------------
June 30, 2004
- -------------
Gross revenues 21,828,089 9,356,492 2,082,343 33,266,924 (271,988) 32,994,936
Income (loss) from operations (262,236) 482,445 96,792 317,001 (1,680,559) (1,363,558)
Pretax income (loss) (1,114,110) (469,633) 95,973 (1,487,770) 302,853 (1,184,917)
Net interest income (expense) (14,508) (16,804) 25 (31,287) 88,962 57,675
Depreciation/amortization 81,839 246,758 19,931 348,528 379,961 728,489
Total assets 189,604,825 67,560,659 4,704,522 261,870,006 6,341,323 268,211,241
June 30, 2003
- -------------
Gross revenues 28,283,402 9,105,165 1,873,018 39,261,585 (91,428) 39,170,157
Income (loss) from operations (586,971) 425,273 260,433 98,735 (1,177,288) (1,078,553)
Pretax income (loss) (1,920,724) (35,145) 263,833 (1,692,037) 817,805 (874,232)
Net interest income (60,691) (7,031) 1,906 (65,815) 100,454 34,639
Depreciation/amortization 95,706 404,834 21,441 521,981 406,099 928,080
Total assets 180,102,006 67,028,613 4,023,199 251,153,818 11,165,541 262,319,359
9
WARRANTECH CORPORATION AND SUBSIDIARIES
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
-----------------------------------------------------------------------
Except for the historical information contained herein, the matters discussed
below or elsewhere in this Quarterly Report on Form 10-Q 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 Quarterly Report on Form 10-Q, 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,
(k) the termination of extended credit terms being provided by the
Company's current insurance company,
(l) the development of facts and circumstances which could affect
existing accounting policies, and
(m) illiquidity of the Company's common stock,
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.
Results of Operations
- ---------------------
Gross Revenues
For the Three Months
Ended June 30,
----------------------------
2004 2003
------------ ------------
Automotive segment $ 21,828,089 $ 28,283,402
Consumer Products segment 9,356,492 9,105,165
International segment 2,082,343 1,873,018
Other (271,988) (91,428)
------------ ------------
Total gross revenues $ 32,994,936 $ 39,170,157
============ ============
10
Gross revenues for the period ended June 30, 2004 decreased $6,175,221, or 16%,
over the same period in 2003. The Consumer Products and International segments
reported increased gross revenues of 3% and 11%, respectively, in the period
ended June 30, 2004 over 2003. The Automotive segment reported a 6,455,313 or
23% decrease in gross revenues during the period ended June 30, 2004 compared to
the same period in 2003.
Direct Costs
For the Three Months
Ended June 30,
----------------------------
2004 2003
------------ ------------
Automotive segment $ 12,345,557 $ 18,191,090
Consumer Products segment 4,607,963 5,086,985
International segment 877,761 789,574
Other (431,207) (969,121)
------------ ------------
Total direct costs $ 17,400,074 $ 23,098,528
============ ============
Direct costs for the quarter ended June 30, 2004 decreased $5,698,454 or 25%
over the same period in 2003. The Automotive segment direct costs decreased
$5,845,533 or 32% during the fiscal period ended June 30, 2004 compared to 2003.
The Consumer Products segment direct costs decreased $479,022 or 9% during the
fiscal period ended June 30, 2004 compared to the same period in 2003. The
International segment direct costs increased $88,187, or11%, during period ended
June 30, 2004 compared to the same period in 2003.
Gross Profit
For the Three Months
Ended June 30,
---------------------------
2004 2003
------------ ------------
Automotive segment $ 1,787,342 $ 1,510,904
Consumer Products segment 3,332,335 3,826,268
International segment 1,182,520 1,080,427
Other 159,220 877,695
------------ ------------
Total gross profit $ 6,461,417 $ 7,295,294
============ ============
Gross Profit for the quarter ended June 30, 2004 decreased $833,877 or 11% over
the same period in 2003. The Automotive segment gross profit increased $276,438
or 18% during the fiscal period ended June 30, 2004 compared to 2003. The
Consumer Products segment gross profit decreased $493,933 or 13% during the
fiscal period ended June 30, 2004 compared to the same period in 2003. The
International segment gross profit increased $102,093, or 9%, during period
ended June 30, 2004 compared to the same period in 2003.
SG&A
For the Three Months
Ended June 30,
---------------------------
2004 2003
------------ ------------
Service, selling and general administrative $ 6,965,207 $ 7,350,767
Service, selling and general and administrative ("SG&A") for the quarter ended
June 30, 2004 decreased $385,560, or 5%, compared to the same quarter in the
prior year. Legal expenses increased $258,680 for the period ended June 30, 2004
compared to the 2003 period, primarily because of the increase in litigation
expenses related to the Lloyd's Underwriter's lawsuit that is being prepared for
trial. Employee costs were lower at $4,299,729 during the period ended June 30,
2004, compared to $4,454,517 in the period ended June 30, 2003, primarily due to
a decrease in salary costs. Rent expense decreased from $603,522 for the period
ended June 30, 2004 to $410,427 for the period ended June 30, 2003, as a result
of the Company's move to its new corporate headquarters in Bedford, Texas.
Depreciation and amortization
For the Three Months
Ended June 30,
---------------------------
2004 2003
------------ ------------
Depreciation and amortization $ 728,489 $ 928,080
============ ============
11
Depreciation and amortization expenses were reduced by $199,591, or 22%, during
period ended June 30, 2004 compared to the same period for 2003. This decrease
is the result of the Company's assets maturing and a reduced requirement for
capital expenditures for the past few years.
Other Income
For the Three Months
Ended June 30,
----------------------------
2004 2003
------------ ------------
Interest and dividend income $ 150,637 $ 166,836
Interest expense (92,962) (132,197)
Gain (loss) on sale of assets 1,100 (23)
Credit card usage rebate 120,000 129,177
Miscellaneous income (134) 40,528
------------ ------------
Total other income $ 178,641 $ 204,321
============ ============
Other income for quarter ended June 30, 2004 decreased slightly compared to the
quarter ended June 30, 2003 due to a reduction in miscellaneous income from
2003.
Income Tax Expense (Benefit)
For the Three Months
Ended June 30,
----------------------------
2004 2003
------------ ------------
Income taxes expense (benefit) ($ 425,378) ($ 399,240)
============ ============
Income taxes benefit increased $26,138 for the period ended June 30, 2004
compared to the period ended June 30, 2003, primarily due to a higher net loss
in fiscal 2004 than in fiscal 2003.
Liquidity and Financial Resources
- ---------------------------------
During the three months ended June 30, 2004, the Company had a net increase in
cash and cash equivalents of $863,248, which was primarily generated by
operating activities to fund working capital. Working capital was a negative
$8.8 million at June 30, 2004 compared to a negative $7.2 million at June 30,
2003, primarily due to the payment made on the Reliance claims reserve.
The Company believes that internally generated funds, extended payment terms,
combined with the $3 million line of credit from GAIC ("Great American Insurance
Company"), 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.
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,
that will benefit liquidity, Butler Financial Solutions, LLC will no longer be
the obligor on service contracts sold by Warrantech after October 22, 2004.
The effect of inflation has not been significant to the Company.
Commitments
- -----------
The Company has ongoing relationships with equipment financing companies and
intends to continue financing certain future equipment needs through
lease/purchase transactions. The total amount financed through these
transactions during the three months ended June 30, 2004 amounted to $187,820
compared to $168,838 during the three months ended June 30, 2003.
12
Set forth below is information about the Company's commitments outstanding at
June 30, 2004.
Payments due by period
------------------------------------------------------------------------
Less than 1 - 3 3 - 5 More than
Total 1 year Years Years 5 years
------------ ------------ ------------ ------------ ------------
Capital Lease Obligations $ 1,651,373 $ 647,731 $ 1,003,642 $ -- $ --
Operating Leases 11,101,038 1,345,969 2,500,698 2,530,205 4,724,166
Employment agreements 6,150,854 2,003,354 2,532,500 1,615,000 --
Claims Loss Liability 9,141,180 3,532,287 5,608,893 -- --
------------ ------------ ------------ ------------ ------------
Total $ 28,044,445 $ 7,529,341 $ 11,645,733 $ 4,145,205 $ 4,724,166
============ ============ ============ ============ ============
Critical Accounting Policies
- ----------------------------
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," in the Company's Annual Report on Form 10-K for the year ended March 31,
2004, 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 Recognition
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 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.
Since Butler has been determined to be a nominally capitalized entity, all
transactions concerning Butler obligor-contracts are 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, treats the Butler-obligor
contracts as if they were administrator-obligor contracts and recognizes
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 the transactions
between Warrantech and Butler from its financial statements.
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
13
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.
Prior to July 1, 2003, the Company recognized revenue from service contracts in
which dealers or other third parties (other than Butler) were the obligor
(dealer-obligor 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. With the issuance of EITF Abstracts Issue No. 00-21 (EITF
No. 00-21), "Revenue Arrangements with Multiple Deliverables", as of July 1,
2003, the Company recognizes revenue from these dealer-obligor contracts on a
straight-line basis over the life of the service contract, pursuant to Staff
Accounting Bulletin 101.
Now that the Company is required to recognize revenues from all service
contracts over the life of the service contracts, the Company believes that it
is unlikely that the Company will be able to report operating profits until at
least 2008 when the Company expects that the revenues recognized from prior
periods will begin to equal the revenue being deferred to future periods.
However, there can be no assurance that the Company will be profitable at that
time. In the meantime, the revenue recognition policies adopted by the Company
do not have an impact on the Company's cash flow, and it is important to measure
the Company by reviewing the Statements of Cash Flows which are part of these
financial statements.
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(s)
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 flows generated
by the assets, comparing the result to the assets' carrying value and adjusting
the assets to the lower of their carrying value or fair value and charging
current operations for any measured impairment. At June 30, 2004 and 2003, the
Company found no impairment to its property and equipment or its other
identifiable intangibles.
14
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 June 30, 2004, the Company had deferred tax assets of $22,824,714
net of a valuation allowance of $177,020.
15
Item 3. Quantitative and Qualitative Disclosures About Market Risk
----------------------------------------------------------
As of June 30, 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 June 30, 2004 of marketable
securities are as follows:
Expected Maturity Date as of June 30,
-----------------------------------------------------------------------
2005 2006 2007 2008 2009 Thereafter Total Cost Fair Value
----------- ----------- ----------- ---------- ---------- ---------- ----------- -----------
Available for sale securities $ 1,055,000 $ 1,100,000 $ 270,000 -- -- -- $ 2,425,000 $ 2,471,386
Interest rate 3.48% 4.07% 3.52% -- -- --
Item 4. 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 Quarterly Report on Form 10-Q. Each of them has, within 90
days of the filing date of this Quarterly Report, evaluated the Company's
disclosure controls and procedures, as defined under 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 Quarterly
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 Company's 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.
16
PART II. Other Information
Item 1. Legal Proceedings
-----------------
Not applicable.
Item 2. Changes in Securities and Use of Proceeds
-----------------------------------------
Not applicable.
Item 3. Defaults Upon Senior Securities
-------------------------------
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders
---------------------------------------------------
Not applicable.
Item 5. Other Information
-----------------
Not applicable.
Item 6. Exhibits and Reports on Form 8-K
--------------------------------
(a) Exhibits
--------
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.
(b) Reports on Form 8-K
-------------------
Date Item Reported Financial Statements Filed
---- ------------- --------------------------
April 16, 2004 Item 5 - Other Events None
June 10, 2004 Item 5 - Other Events None
17
SIGNATURE
---------
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
WARRANTECH CORPORATION
----------------------
(Registrant)
/s/ RICHARD F. GAVINO
---------------------------------------------------------
Richard F. Gavino - Executive Vice President, Chief
Financial Officer, Chief Accounting Officer and Treasurer
(Chief Financial Officer and Duly Authorized Officer)
Dated: August 23, 2004
18