SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB
(Mark one)
(X) Annual Report Pursuant To Section 13 Or 15(d) Of The Securities
Exchange Act Of 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
Or
( ) Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
Commission File Number 0-27780
NEW HORIZON KIDS QUEST, INC.
(Exact name of registrant as specified in its charter)
MINNESOTA 41-1719363
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
16355 36TH AVENUE NORTH, SUITE 700
PLYMOUTH, MINNESOTA 55447
Registrant's telephone number, including area code:(612) 557-1111
Securities registered pursuant to
Section 12(b) of the Act: None
Securities registered pursuant to
Section 12(g) of the Act: Common Stock ($.01 par value)
Check 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
Check if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-B is not contained herein, and will not be contained, to the best
of registrant's knowledge, in definitive proxy or information statements or any
amendment to this Form 10-KSB. |X|
The registrant's revenues for its most recent fiscal year were
$15,599,870.
The aggregate market value of the voting stock held by non-affiliates
of the registrant based on the last reported sale price of the Common Stock as
quoted on the Nasdaq SmallCap Market on March 24, 1999, was approximately
$1,940,625.
As of March 20, 1999, there were 3,293,300 shares of Common Stock of
the registrant outstanding.
DOCUMENTS INCORPORATED BY REFERENCE:
Certain portions of the documents listed below have been incorporated by
reference into this Form 10-KSB.
Document Incorporated Part of Form 10-KSB
Proxy Statement for 1999 Annual Meeting of Shareholders Part III
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FORM 10-KSB INDEX
Page
PART I. .................................................................... 1
Item 1. DESCRIPTION OF BUSINESS................................ 1
Item 2. DESCRIPTION OF PROPERTY................................ 8
Item 3. LEGAL PROCEEDINGS...................................... 10
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.... 10
PART II. .................................................................... 11
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS.................................... 11
Item 6. MANAGEMENT'S DISCUSSION AND ANALYSIS................... 12
Item 7. FINANCIAL STATEMENTS................................... 17
Item 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE.................... 32
PART III..................................................................... 32
Item 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL
PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE SECURITIES
EXCHANGE ACT OF 1934................................... 32
Item 10. EXECUTIVE COMPENSATION................................. 33
Item 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT............................................. 33
Item 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS......... 33
Item 13. EXHIBITS AND REPORTS ON FORM 8-K....................... 33
"NEW HORIZON KIDS QUEST," "KID QUEST" AND "GRAND CASINO KIDS QUEST" ARE
SERVICE MARKS OF NEW HORIZON KIDS QUEST, INC. "NEW HORIZON" IS A SERVICE
MARK OF NEW HORIZON ENTERPRISES, INC. THIS DOCUMENT MAY CONTAIN
TRADEMARKS OF OTHER COMPANIES.
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PART I.
ITEM 1. DESCRIPTION OF BUSINESS
GENERAL
New Horizon Kids Quest, Inc. (the "Company") develops, owns and operates
supervised children's entertainment facilities under the name Kids Quest and
premium traditional child care centers under the name New Horizon Child Care.
The Company currently operates a total of 33 child care centers: 14 New Horizon
Child Care centers in Idaho, a New Horizon Child Care center in Joliet, Illinois
for employees of Empress Casino and Mobil Oil Corporation, and 18 Kids Quest
centers in nine states, including four with supervised video entertainment
centers and one with an employee child care center. The Company intends to
expand its operations through the development of additional Kids Quest centers
and the acquisition or development of additional New Horizon Child Care centers.
Kids Quest combines supervised, hourly child care with children's
entertainment and recreational facilities. The Kids Quest concept was developed
to provide casino guests with quality child care, and the Company opened its
first Kids Quest at Grand Casino Hinckley in May 1992. Unlike many "pay for
play" providers where parents are required to remain with their children, Kids
Quest allows parents to pursue activities away from the center while their
children are supervised and entertained. Kids Quest is designed to delight
children, encourage repeat visits, and provide parents with the peace of mind
afforded by supervised child care.
Two of the Company's Kids Quest centers operate in enclosed shopping malls,
including a center in Knott's Camp Snoopy at the Mall of America in Minneapolis,
Minnesota. Knott's Camp Snoopy is the largest indoor theme park in the United
States, and the Mall of America is the largest fully enclosed retail and family
entertainment complex in the United States. Sixteen of the Company's Kids Quest
centers are operated in conjunction with casinos. With the opening of its Texas
Station Kids Quest in February 1999, the Company now operates four centers in
casinos owned or managed by Station Casinos, Inc. in Nevada and Missouri.
Station Casinos, Inc. has also agreed to include Kids Quest centers in three
additional Station Casinos, Inc. properties, including Station Casino St.
Charles in St. Charles, Missouri. Seven of the Company's Kids Quest centers were
previously operated in conjunction with casinos owned or managed by Grand
Casinos, Inc. in Minnesota, Mississippi and Louisiana. In 1998, Grand Casinos,
Inc. concluded its management of casinos in Mille Lacs and Hinckley, Minnesota,
with the Mille Lacs Band of Ojibwe assuming management of the casinos. The
Company then entered into new, three year leases with the Mille Lacs Band of
Ojibwe for its Hinckley and Mille Lacs locations. In December 1998, Grand
Casinos, Inc. transferred its two Louisiana casinos to newly formed Lakes
Gaming, Inc., now a publicly held corporation, and Grand Casinos, Inc. was then
merged into Park Place Entertainment Corporation, combining Grand Casinos,
Inc.'s remaining properties with the gaming operations previously held by Hilton
Hotels. As a result of these transactions, the Company now operates two Kids
Quest centers in Minnesota casinos owned and managed by the Mille Lacs Band, two
Kids Quest centers in Louisiana casinos operated by Lakes Gaming, Inc., and
three Kids Quest centers in Mississippi casinos owned and managed by Park Place
Entertainment Corporation, all of which casinos continue to operate using the
Grand Casinos name. The Company will be opening its 19th and 20th Kids Quest
centers this year in the AVI Hotel and Casino in Laughlin, Nevada and at Cliff
Castle Casino in Camp Verde, Arizona.
The Company currently operates two employee child care centers - in Joliet,
Illinois for the employees of Empress Casino and Mobil Oil Corporation and in
Red Wing, Minnesota in conjunction with its Treasure Island Kids Quest for
Treasure Island employees. In addition, the Company has entered into an
agreement to develop a New Horizon Child Care center providing employee care at
The Venetian
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Resort-Hotel-Casino in Las Vegas, Nevada. The Venetian, a $1.2 billion property,
will be the first casino to provide on-site child care for its employees on the
Las Vegas strip.
The Company is a licensee of the service mark "New Horizon" pursuant to a
licensing agreement entered into with New Horizon Enterprises, Inc. ("New
Horizon Enterprises"). Three of the Company's principal shareholders are the
principal shareholders and executive officers of New Horizon Enterprises. New
Horizon Enterprises and its affiliates have owned and operated child care
centers since 1971 and currently operate 47 licensed child care centers in
Minnesota under the names New Horizon Child Care and Kinderberry Hill Child
Development. The Company does not have any ownership interest in these Minnesota
centers. Under the licensing agreement, New Horizon Enterprises has granted the
Company the exclusive right to develop future New Horizon Child Care and
Kinderberry Hill centers outside of Minnesota.
New Horizon Kids Quest, Inc. was incorporated in Minnesota in March 1992.
The Company's principal executive offices are located at 16355 36th Avenue
North, Suite 700, Plymouth, Minnesota 55447, and its telephone number at that
location is (612) 557-1111.
KIDS QUEST CENTERS
The Company has designed and developed its Kids Quest concept to create an
environment for children that combines fun with physical activity and learning.
Each activity center is fully staffed with experienced child care professionals
certified in CPR and first aid training.
Kids Quest combines hourly child care with indoor recreational and
educational facilities to entertain children while providing parents with the
peace of mind afforded by supervised child care. Many "pay for play" operators
require parents to remain with their children, providing merely an indoor
playground. Kids Quest creates an entertainment center that allows parents to
pursue activities away from the center while their children are supervised and
entertained.
The Company currently operates 18 Kids Quest centers generally ranging in
size from 6,000 to 22,000 square feet. Each center features a specially
designed, padded floor-to-ceiling climbing maze and play structure consisting of
up to 35 activities, including tunnels, slides, ball baths, ramps, stairs,
climbing nets, periscopes, air hops, bumper bags, talking tubes and other
activities allowing children to crawl, climb, bounce, hop, tumble and slide in
the safety of a secure environment.
Kids Quest offers a wide range of services and activities for children
ranging from six weeks to 12 years of age. Kids Quest offers a broad array of
toy-filled play areas and the latest in custom-designed, interactive media,
electronic entertainment, and computer technology. Some of these activities
include: "Construction Quarry" featuring Duplos and Legos to stimulate
imagination and creative thinking; a mini video entertainment center featuring
carefully chosen non-violent, interactive games that develop quick reflexes and
hand-to-eye coordination; "Star Stage," an interactive Karaoke stage to help
foster creativity and self-esteem; a movie room equipped with a large-screen
stereo television and child-sized furniture to simulate a movie theater; a
Barbie doll house community filled with props and accessories; Sega, Nintendo
and interactive CD-ROM computers providing a quieter alternative for children;
Fascination Station computers allowing children to create computerized art and
design their own unique creations; and many other areas designed to provide
children with hours of entertainment and variety. The centers also offer
specially designed areas for infants and toddlers which include kitchenettes,
infant swings, padded climbing areas and separate sleeping areas with cribs. The
Company intends to include substantially all of the features described above in
each of its future Kids Quest centers, subject to market demand and space
limitations.
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Kids Quest centers charge fees ranging from $3.50 to $7.00 per hour
depending on the location. Pursuant to the terms of some of the Company's
contracts with casino operators, casino operators are entitled to establish a
discounted rate below the fair market value for Kids Quest services to be
charged by Kids Quest to the public in order to attract customers to Kids Quest
and ultimately to their casinos. The casino operator must reimburse the Company
for the difference between such amount charged and the fair market value. All
activities such as arcade, video and skill games are included in Kids Quest's
hourly fees. For an additional charge, Kids Quest offers nutritionally balanced
meals at lunch and dinner time, as well as a full service snack bar. Kids Quest
promotes special events such as birthdays, club meetings and field trips at
special group rates. Although hours vary by location, Kids Quest centers
generally open at 9:00 or 10:00 a.m. and close at 11:00 p.m. weekdays, and later
on weekends.
Four of the Company's Kids Quest centers also include a supervised video
entertainment center featuring non-violent entertainment. The Company's video
entertainment centers are designed for teenagers, rather than children 12 and
under, but offer more supervision than typical video entertainment centers.
NEW HORIZON CHILD CARE CENTERS
The focus of the Company's traditional child care business is to provide
premium quality licensed child care services and preschool programs for children
ranging in age from six weeks to 12 years. Management has substantial experience
in the development and operation of child care centers, including analysis of
demographics, site selection, building design, construction, licensing,
programming, personnel training, management and marketing.
New Horizon Child Care offers educational and recreational programs
specifically tailored to meet the needs of each of the age groups served by the
Company's centers. The infant program emphasizes frequent contacts with adult
caregivers, along with participation in the Small Wonder curriculum developed by
Johnson & Johnson. This curriculum offers a variety of activities designed to
produce a challenging and stimulating environment. The toddler curriculum
introduces and emphasizes the value of learning and playing with others,
sharing, taking turns, communicating and expressing wants and needs that are
essential to the development of successful relationships. The preschool
curriculum emphasizes cognitive skills by teaching children numbers, letters,
sounds, shapes, colors, sequencing, listening skills and many other
age-appropriate activities. Small group sizes allow individual attention and
curriculum enhancement. New Horizon Child Care's program for school age children
offers a wide variety of group and individual projects that build on the child's
developing skills and interests. New Horizon Child Care also offers optional
enrichment programs that may include field trips, music, dance, gymnastics,
swimming, computer and karate lessons.
New Horizon Child Care emphasizes daily communication and interaction among
parents, teachers and students. The centers provide a daily "highlight" memo
written and posted by each teacher for his or her group. In addition, New
Horizon Child Care conducts regularly scheduled parent-teacher conferences and
encourages informal or unscheduled conferences as desired by parents.
New Horizon Child Care centers are typically open weekdays from 6:30 a.m.
to 6:00 p.m. (except certain holidays). Children are generally enrolled on a
weekly basis for either a full-day or half-day, with drop-ins permitted on an
hourly basis when capacity permits.
SAFETY AND SECURITY
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The Company's centers and equipment have been designed to provide a safe
and secure environment. Age-appropriate equipment is provided in areas specially
designed for infants, toddlers and older children. Staff members are trained and
positioned throughout a facility to interact with and protect the children. Each
Kids Quest center has a check-in and check-out system with security gates that
are monitored to ensure that each child is accounted for and remains in the
facility until picked up by an authorized individual. Adults are not permitted
inside the secure play area unless accompanied by a staff member. Access to a
New Horizon Child Care center typically is limited to a front entryway that is
generally located near the center director's office. Other entrances are secured
and used only as emergency exits. All outdoor playground areas are fenced.
Parents are also required to sign children in and out of each center.
GROWTH AND EXPANSION
The Company believes that it is situated to take advantage of expansion
opportunities for both its Kids Quest and New Horizon Child Care centers.
Although there are many similarities and interrelationships between these two
lines of businesses, they present very separate and distinct market
opportunities within the child care industry.
KIDS QUEST. In 1992, the Company introduced this novel combination of
supervised child care and state-of-the-art children's entertainment facilities.
Casino operators and developers of full service destination resorts have
recognized that the Company's unique child care services are a valuable amenity
enhancing the service provided to their own customers. The Company now operates
the following hourly care centers:
<TABLE>
<CAPTION>
Kids Quest Location Date Opened
- --------- -------- -----------
<S> <C> <C>
Grand Casino Hinckley Hinckley, Minnesota May 1992
Grand Casino Mille Lacs Mille Lacs, Minnesota March 1993
Grand Casino Gulfport Gulfport, Mississippi June 1993
Grand Casino Biloxi Biloxi, Mississippi January 1994
Eden Prairie Center Eden Prairie, Minnesota March 1994
Grand Casino Avoyelles Marksville, Louisiana June 1994
Grand Casino Coushatta Kinder, Louisiana January 1995
Boulder Station Casino Las Vegas, Nevada November 1995
Ameristar Casino Council Bluffs, Iowa June 1996
Grand Casino Tunica Robbinsonville, Mississippi August 1996
Mohegan Sun Casino Uncasville, Connecticut October 1996
Soaring Eagle Casino Mount Pleasant, Michigan December 1996
Station Casino Kansas City Kansas City, Kansas January 1997
Sunset Station Casino Henderson, Nevada June 1997
Bullwackers Casino Blackhawk, Colorado June 1997
Treasure Island Resort & Casino Red Wing, Minnesota June 1997
Knott's Camp Snoopy/Mall of America Minneapolis, Minnesota April 1998
Texas Station Las Vegas, Nevada February 1999
</TABLE>
The Company believes that its relationships with casino operators creates a
unique opportunity to expand and increase its market share of the child activity
center business. The Company is continuing to target favorable markets and
superior locations to establish a strong market presence for Kids Quest.
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EMPLOYEE CHILD CARE CENTERS. The Company's Treasure Island Kids Quest
center also offers full-time employee care to employees of Treasure Island. The
Company also operates a New Horizon Child Care center in Joliet, Illinois for
the employees of Empress Casino and Mobil Oil Corporation. This Joliet, Illinois
center has been opened and is being operated without a definitive lease or other
operating agreement. In addition, the Company has entered into an agreement to
develop a New Horizon Child Care center providing employee care at The Venetian
Resort-Hotel-Casino in Las Vegas, Nevada. The Venetian, a $1.2 billion property,
will be the first casino to provide on-site child care for its employees on the
Las Vegas strip. The Venetian will be the Company's third employee care center.
NEW HORIZON CHILD CARE CENTERS. In 1995, the Company targeted Boise, Idaho
and the surrounding metropolitan area for its premium traditional child
care services, primarily due to the recent growth and development in that
region. Between September 1995 and March 1996, the Company acquired an aggregate
of twelve established child care centers located throughout Boise and the
surrounding metropolitan area, ranging in size from 4,500 square feet to 10,000
square feet on sites ranging from one to four acres. Extensive physical
renovations and improvements were made to each of the acquired facilities, and
New Horizon Child Care's standardized curriculum, programs and cost controls
were implemented. While the centers suffered enrollment declines following a
rate increase, the Company believes that it is the leading child care provider
in the Boise market, and continues to believe that this market offers great
potential. Boise, Idaho's capital, is the most populated area in the state. The
Boise metropolitan area is the business, financial, professional, transportation
and cultural center of Idaho. The city's low cost of living, low crime rate, low
commercial utility costs and general high quality of life relative to other
western metropolitan areas has attracted new businesses and residents. Its
economic base includes manufacturing, corporate headquarters, transportation,
financial services, utilities, health care, wholesale distribution and
governmental agencies. In addition, the Boise child care market has historically
been fragmented and dominated by small, individually-owned, or in-home day care
facilities. There are no national competitors in the Boise market. The Company
opened its thirteenth child care center in the Boise area in August 1996 and its
fourteenth in January 1999, both in a newly constructed facilities.
The Company continues to analyze sites for additional New Horizon Child
Care centers. However, the Company believes that opportunities for the expansion
of its traditional child care services exist in both rapidly expanding urban
markets that have not yet been saturated by national providers as well as in
newly developing outer rings of more mature populated communities. In addition,
the Company's location at Treasure Island Resort & Casino in Red Wing, Minnesota
features a combination hourly care and employee care center, providing hourly
care to casino patrons and full-time care for employees of Treasure Island as
well as other members of the community. This combination of the Company's
services and expansion into employee care represents another area of potential
growth for the Company.
MARKETING AND PROMOTION
The Company's marketing efforts are intended to position the Company as an
innovative leader in the premium child care and children's entertainment
facilities markets. Historically, a primary source of new enrollment for
traditional child care services has been word-of-mouth recommendations from
satisfied parents in communities in which centers operate. The Company believes
that it can increase enrollment in its New Horizon Child Care centers by
employing various community-based advertising and promotional techniques such
as: direct mailings, distribution of promotional material in residential areas
surrounding local centers, newspaper advertisements in local and regional
newspapers, Yellow Pages listings, community events, participation in or
sponsorship of special events such as carnivals, fairs, parents' expo, women's
expo and Kids Jam, and to a lesser extent, local radio and television ads.
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The Company may also attempt to increase enrollment at its New Horizon
Child Care centers through the use of various corporate referral and voucher
programs. Under these programs, the Company may offer discounts to the employees
of participating employers, thereby increasing enrollment and enhancing the
Company's image through its affiliation with prominent employers within the
community.
The Company implements many of the same types of community-based marketing
strategies for the promotion of its Kids Quest centers. In addition, the Company
relies upon cross promotional opportunities and special events with various
casinos, Native American Tribes and facility owners or developers. The Company
also seeks to increase its enrollment through various discounts, promotions and
the following marketing techniques: direct mailings to local residents and child
care centers, database mailings, special events, guest appearances, mall
advertising, volume user discount programs, field trip packages, concession
discounts and free care for children on their birthday.
COMPETITION
The Company's New Horizon Child Care centers provide traditional child care
services. The traditional child care industry is highly fragmented and extremely
competitive. Child care services are generally provided by many different types
of providers including large national or regional chains, small unlicensed
in-home providers, state and federal government agencies, church-based centers,
hospital centers, employer programs, college and university facilities, and
community-based service organizations such as YMCAs and YWCAs. Providers consist
of both non-profit organizations and for-profit entities. In most geographic
areas, the Company expects to compete with large national and regional providers
with an established presence in major metropolitan markets. Several national
competitors enjoy greater national name recognition and have significantly
greater resources than the Company. The Company also competes with unregulated
in-home child care providers who typically provide services at a significantly
lower cost. Unregulated, in-home child care providers generally benefit from
lower overhead, pay little or no rent, and maintain lower operating costs
because they frequently are not required to incur the costs associated with
regulatory compliance, licensing and insurance. Many church-affiliated and other
non-profit child care centers may also offer services at rates lower than the
Company's because such organizations often have lower rental costs, and may
receive donations or other funding to cover operating expenses.
The financial performance of individual child care centers may also be
affected by factors such as center location, inflation, labor and employee
benefit costs, as well as the availability of experienced management and hourly
child care workers. Child care center operating costs are further affected by
increases in the minimum hourly wage, unemployment taxes, increased insurance
costs and similar matters over which the Company has no control.
In addition to competing in the traditional child care industry, the
Company's Kids Quest centers compete in the emerging business of children's
indoor recreational facilities. Viewed in the broadest sense, competition in
this industry includes a variety of children's entertainment activities such as
indoor playgrounds, video entertainment centers, laser tag facilities, indoor
amusement centers, virtual reality games and other forms of indoor children's
entertainment.
Among indoor "pay for play" facilities, competition is also extremely
fragmented. There are large national and regional "pay for play" chains offering
entertainment and fitness facilities. There are also several smaller children's
entertainment facilities with soft activity zones similar to Kids Quest in many
major metropolitan areas throughout the United States. The Company principally
competes by providing innovative services in well-equipped facilities that are
staffed with trained, experienced child care professionals.
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GOVERNMENT REGULATION
Each New Horizon Child Care center must be licensed under applicable state
or local licensing laws and is subject to a variety of state and local
regulations. Although these regulations vary greatly from jurisdiction to
jurisdiction, governmental agencies generally review the safety, fitness and
adequacy of the buildings and equipment, the ratio of staff to children, the
dietary program, the daily curriculum and compliance with health standards. In
most jurisdictions, these agencies conduct scheduled and unscheduled inspections
of the centers, and licenses must be renewed periodically. Repeated failures of
a center to comply with applicable regulations can subject it to sanctions,
which include probation or, in more serious cases, suspension or revocation of
the center's license to operate. The Company believes that each of its centers
is in substantial compliance with such requirements.
Many of the Company's Kids Quest centers are licensed child care providers
under applicable state, local or tribal licensing laws and, as such, are subject
to licensing and operational requirements similar to the Company's New Horizon
Child Care centers. Some licensing statutes provide exemptions from licensing
requirements for child care providers offering hourly care or where parents
remain on the premises, and Kids Quest qualifies for certain of these
exemptions. The Company intends to license as many of its Kids Quest centers as
is practical and intends to meet or exceed relevant licensing standards at each
Kids Quest, including staff-to-student ratio and teacher training requirements.
Many of the Company's Kids Quest centers are also located on Indian tribal
land and are operated in proximity to casinos. Each of the casinos operates
pursuant to a tribal-state compact between the applicable tribe and state, and
each compact provides for a term and an automatic renewal term, unless either
party delivers notice of non-renewal. There can be no assurance that any of
these compacts will be renewed, and any interference with or termination of the
casino's operations would have an adverse effect on the Company's operations at
that location.
EMPLOYEES
The Company currently has approximately 536 employees, including 17
administrative employees at its corporate headquarters. The Company does not
have an agreement with any labor union and the Company believes that its
relations with its employees are good.
Each Kids Quest center is staffed with a Director, one or two Assistant
Directors and an appropriate number of floor monitors and associates sufficient
to comply with state-mandated staff-to-student ratio requirements. Each Kids
Quest staff member receives initial and ongoing training in various child care
disciplines such as special needs children, recognition of child abuse and
customer relations. All Kids Quest staff members are fully certified in CPR and
first aid.
Each of the New Horizon Child Care centers is staffed with a Director,
Assistant Director and an appropriate number of teachers, assistant teachers and
aides sufficient to comply with state-mandated staff-to-student ratio
requirements. All employees participate in periodic training programs and are
required to meet applicable state and local regulatory requirements. All Idaho
child care employees are individually licensed and finger-printed, and those
working within the city of Boise undergo background checks as part of the city's
licensing process. The Boise locations are supervised by a District Manager.
SERVICE MARKS
The Company maintains the federally registered service marks "New Horizon
Kids Quest," "Kid Quest" and "Grand Casino Kids Quest". In addition, the Company
has entered into a licensing agreement
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with New Horizon Enterprises, Inc., pursuant to which the Company is a licensee
of the service mark "New Horizon." A federally registered service mark is
effective for ten years and may be renewed. Even though the Company has either
registered or become the licensee of certain service marks, there can be no
assurance as to the extent of the protection afforded to the Company as a result
of having such service marks and licensing agreements, nor is there any
assurance that the Company will be able to afford the expenses of any complex
litigation that might be necessary to enforce the Company's proprietary rights.
INSURANCE
The Company maintains comprehensive general liability insurance that
provides coverage for both bodily injury and property damage claims up to a
total of $11,000,000. The primary liability policy has a limit of $1,000,000 per
occurrence, and an excess umbrella liability policy provides coverage for an
additional $10,000,000. Although the umbrella policy specifically excludes
coverage for claims of sexual abuse, an endorsement to the primary liability
policy provides coverage in the aggregate amount of $500,000 for such claims.
The Company's comprehensive insurance program also includes worker's
compensation, comprehensive general liability coverage and automobile and
property coverage. The specific policies provide a variety of coverages that are
subject to various limits and deductibles, some of which are outlined above.
Management believes that the Company's insurance coverage is adequate to meet
the Company's needs. There can, however, be no assurance that claims in excess
of policy limits or that are not included within the Company's coverage will not
be asserted.
ITEM 2. DESCRIPTION OF PROPERTY
The Company's corporate headquarters are located in Plymouth, Minnesota in
offices shared with New Horizon Enterprises, Inc. New Horizon Enterprises, Inc.
currently subleases office space of approximately 18,000 square feet, which
sublease expires March 31, 1999. New Horizon Enterprises, Inc. has entered into
a new long-term lease for office space, and is moving its offices into the new
space contemporaneous with this filing. The Company has entered into an office
sharing arrangement and will continue to share facilities with New Horizon
Enterprises. See "Certain Transactions."
The Company's Kids Quest centers generally range in size from approximately
6,000 to 22,000 square feet. Sixteen Kids Quest centers operate in or adjacent
to casinos pursuant to the terms of various financial services or lease
agreements. In 1998, the Company entered into new, three year leases with the
Mille Lacs Band of Ojibwe for its Hinckley and Mille Lacs, Minnesota, locations,
which locations had previously been managed by Grand Casinos, Inc. These leases,
as well as eight other leases of the Company, have terms expiring between May
1999 and December 2001, including four with terms expiring in 1999: Gulfport and
Biloxi, Mississippi; Avoyelles, Louisiana; and Treasure Island in Red Wing,
Minnesota. While the Company believes that it will be able to successfully
negotiate new leases at these facilities, there can be no assurance that such
new leases will be entered into. The Gulfport and Biloxi, Mississippi, casinos
are now operated by Park Place Entertainment Corporation rather than Grand
Casinos, Inc., and the Avoyelles, Louisiana casino is now operated by Lakes
Gaming, Inc. rather than Grand Casinos, Inc. The impact upon the Company of this
change in the management of the casinos is uncertain.
Although the precise terms of each of the Company's agreements vary by
location, the agreements generally provide for a profit sharing arrangement in
which the Company manages and operates its Kids Quest center and pays a
percentage of the center's pretax gross operating profits to the property owner.
The Company also typically receives a minimum guaranteed management fee, which
also varies by location. There is no assurance that the Company will continue to
receive any such guaranteed fees in the future. Most of the agreements require
casino consent to changes in the Company's rates charged for its
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child care services. Since each of the agreements provides that the casino can
terminate the agreement at any time, the Company can provide no assurance that
these agreements will not be terminated prior to their respective expiration
dates, in which case, however, the casino could not offer a children's activity
center for the remainder of the contract term. The Company also leases
approximately 11,150 square feet for its Kids Quest center in the Eden Prairie
Center shopping mall, and 17,385 square feet for its Knott's Camp Snoopy/Mall of
America center. The Company believes that its leased Kids Quest properties are
generally in good condition.
The Company leases 14 New Horizon Child Care centers in Boise, Idaho, which
range in size from 4,500 square feet to 10,000 square feet on sites ranging from
one to four acres. With one exception, the leases range from seven to fifteen
years with consecutive multiple-year renewal options. All of such leases have a
minimum of at least five years remaining on the primary term of each lease. The
leases generally require the Company to pay utility expenses, taxes, insurance,
repairs and maintenance and other operating expenses relating to the properties.
The Company also operates a New Horizon Child Care center in Joliet, Illinois
for employees of Empress Casino and Mobil Oil Corporation. This center has been
opened and is being operated without a definitive lease or other operating
agreement.
9
<PAGE>
ITEM 3. LEGAL PROCEEDINGS
In November 1996, Ms. Christa Nejezchleba, a minority shareholder of New
Horizon Enterprises, Inc. commenced an action asserting both individual and
derivative claims against New Horizon Enterprises, Inc. and other Minnesota
corporations and real estate partnerships through which child care centers in
Minnesota are owned or operated. Although the Company does not have any
ownership interest in these Minnesota centers, the Company, together with
William M. Dunkley, Susan K. Dunkley, and Jay L. Bennett, were also named as
defendants in this lawsuit. Mr. and Mrs. Dunkley are executive officers,
directors and principal shareholders of the Company and of New Horizon
Enterprises, Inc. Mr. Bennett is a director and principal shareholder of the
Company and of New Horizon Enterprises, Inc. The complaint seeks damages in
excess of $50,000 based upon allegations that include misappropriation of
corporate opportunity and breach of fiduciary duty. The defendants are
vigorously contesting the plaintiff's allegations, and extensive discovery has
been conducted. The case is currently scheduled for trial in the June 1999.
Through an expert disclosure, the plaintiff, who owns 13.6% of New Horizon
Enterprises has asserted that she is entitled to an adjusted ownership interest
in New Horizon Enterprises of 18.66%. The plaintiff further asserts that she is
entitled to extrapolate her alleged adjusted ownership interest to various other
entities named as defendants in which she does not currently have an ownership
interest. With respect to the Company, the plaintiff alleges that she is
entitled to an interest comparable to the interest of William or Susan Dunkley
at the time of the Company's initial public offering in 1995. Presumably, the
plaintiff's claim for a comparable interest in the Company is directed at
receiving a share of William or Susan Dunkley's individual ownership interests
as opposed to receipt of stock directly from the Company. However, as it not
presently possible to state with certainty what the outcome will be or the range
of potential loss, there can be no assurance as to the ultimate outcome of this
litigation.
During 1996 and early 1997, Atrox Systems, Inc. d/b/a Tenderfun Soft
Playgrounds ("Tenderfun") supplied large indoor play structures for five new
Kids Quest facilities. In December 1996, Tenderfun filed for reorganization
protection under Chapter 11 of the U.S. Bankruptcy Code in the State of Texas,
and the case was subsequently converted to a Chapter 7 liquidation. The assets
of Tenderfun are now in the process of being liquidated. Due to the extensive
nature of problems with the various play structures provided by Tenderfun, the
Company has commenced an action against F. William Boedeker and Laura M.
Boedeker in Hennepin County District Court, State of Minnesota, based upon
personal guaranties seeking damages in excess of $50,000. William M. Boedeker
was an officer and principal shareholder of Tenderfun and Laura M. Boedeker is
his wife. This case is proceeding to trial later this year.
The Company is subject to certain claims from time to time and is currently
involved in litigation that has arisen in the ordinary course of its business.
The Company believes that it either has adequate legal defenses to the claims of
which it is currently aware or that any liability that might be incurred due to
such claims will not, in the aggregate, exceed the limits of the Company's
insurance policies or otherwise result in any material adverse effect on the
Company's operations or financial position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders through the
solicitation of proxies or otherwise during the fourth quarter of the Company's
most recently completed fiscal year.
10
<PAGE>
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
The Common Stock of the Company has traded on the Nasdaq SmallCap Market
under the symbol "KIDQ" since November 14, 1995. The following table sets forth
the high and low bid prices for the Common Stock for the periods indicated and
is based upon monthly reports provided by Nasdaq.
BID
----------------------
PERIOD HIGH LOW
- -------------- ---------- ----------
1997
First Quarter................................... 4 1/2 2 1/2
Second Quarter.................................. 5 1/4 2 1/4
Third Quarter................................... 5 1/4 3 3/8
Fourth Quarter.................................. 3 3/4 1 9/16
1998
First Quarter................................... 3 1/4 1 1/2
Second Quarter.................................. 4 1/8 2
Third Quarter................................... 2 3/4 1 1/2
Fourth Quarter.................................. 2 5/8 1 1/2
As of March 15, 1999, the Company had 42 shareholders of record. The
Company estimates there were approximately 1,000 beneficial owners as of such
date.
The Company has never paid or declared any cash dividends on its Common
Stock and does not intend to pay dividends on its Common Stock in the
foreseeable future. The Company presently expects to retain its earnings to
finance the development and expansion of its business. The payment by the
Company of dividends, if any, on its Common Stock in the future is subject to
the discretion of the Board of Directors and will depend on the Company's
earnings, financial condition, capital requirements and other relevant factors.
11
<PAGE>
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
The Company currently provides hourly child care at eighteen locations in
nine states, including four with supervised video entertainment centers and one
with an employee child care center. The Company also provides traditional child
care at fourteen New Horizon Child Care Centers in Idaho and one location in
Joliet, Illinois.
Two of the Company's Kids Quest centers operate in enclosed shopping malls,
including a center in Knott's Camp Snoopy at Mall of America in Minneapolis,
Minnesota. Knott's Camp Snoopy is the largest indoor theme park in the United
States, and the Mall of America is the largest fully enclosed retail and family
entertainment complex in the United States. Sixteen of the Company's Kids Quest
centers are operated in conjunction with casinos. With the opening of its Texas
Station Kids Quest in February 1999, the Company now operates four centers in
casinos owned or managed by Station Casinos, Inc. in Nevada and Missouri.
Station Casinos, Inc. has also agreed to include Kids Quest centers in three
additional Station Casinos, Inc. properties, including Station Casino St.
Charles in St. Charles, Missouri. Seven of the Company's Kids Quest centers were
previously operated in conjunction with casinos owned or managed by Grand
Casino, Inc. in Minnesota, Mississippi and Louisiana. In 1998, Grand Casinos,
Inc. concluded its management of casinos in Mille Lacs and Hinckley, Minnesota,
with the Mille Lacs Band of Ojibwe assuming management of the casinos. In
December 1998, Grand Casinos, Inc. transferred its two Louisiana casinos to
newly formed Lakes Gaming, Inc., now a publicly held corporation, and Grand
Casinos, Inc. was then merged into Park Place Entertainment Corporation,
combining Grand Casinos, Inc.'s remaining properties with the gaming operations
previously held by Hilton Hotels. As a result of these transactions, the Company
now operates two Kids Quest centers in Minnesota casinos owned and managed by
the Mille Lacs Band of Ojibwe, two Kids Quest centers in Louisiana casinos owned
and operated by Lakes Gaming, Inc., and three Kids Quest centers in Mississippi
casinos owned and managed by Park Place Entertainment Corporation. The Company
currently has contracts to open two additional Kids Quest centers. One center at
the AVI Hotel and Casino in Laughlin, Nevada is scheduled to open in the second
quarter of 1999. The second, at Cliff Castle Casino in Camp Verde, Arizona is
currently scheduled to open in December 1999.
During 1995 and 1996, the Company acquired an aggregate of twelve existing
child care centers in Boise, Idaho, which the Company now operates as New
Horizon Child Care centers. The Company has subsequently opened two additional
new facilities in August of 1996 and January of 1999.
The Company also operates two employee child care centers - in Joliet,
Illinois for the employees of Empress Casino and Mobil Corporation and in Red
Wing, Minnesota in conjunction with its hourly child care facility at Treasure
Island Casino. In addition, the Company has entered into an agreement to develop
a New Horizon Child Care Center providing employee child care at The Venetian
Resort~Hotel~Casino in Las Vegas, Nevada. The Venetian, a $1.2 billion property,
will be the first casino to provide on-site child care for its employees on the
Las Vegas strip.
Since its inception as an hourly children's entertainment and recreational
facility, Kids Quest has expanded its product line to include supervised video
arcades, traditional child care and employee child care. The Company plans to
continue to seek opportunities for additional venues for all of its product
lines.
12
<PAGE>
The Company has experienced growth through acquisition and expansion. The
Company's business is seasonal with revenues and operating income for Kids Quest
being the highest and New Horizon Child Care being the lowest in the summer
months. Therefore, results of operations described below may not be indicative
of results to be achieved in any future period.
RESULTS OF OPERATIONS
The following table sets forth certain statements of operations data as a
percentage of total revenues for the periods indicated.
Year Ended December 31
----------------------
1998 1997
---------- ----------
REVENUE 100.0% 100.0%
COSTS AND EXPENSES
Direct Expenses 79.7% 80.1%
Depreciation and Amortization 9.6% 7.5%
Pre-Opening Expenses 1.3% 1.5%
----- -----
Total Costs and Expenses 90.6% 89.1%
----- -----
CENTER OPERATING INCOME 9.4% 10.9%
Selling, General and Administrative 6.7% 9.2%
Depreciation and Amortization .8% .8%
----- -----
OPERATING INCOME 1.9% .9%
Interest Expense (2.3%) (2.2%)
Interest Income .8% 1.1%
Minority Interest .1% .2%
----- -----
NET INCOME .5% 0.0%
===== =====
Revenues increased $1,743,632, or 13%, to $15,599,870 in 1998 from
$13,856,238 in 1997. The addition of three new Kids Quest locations and three
new video arcades in mid-1997 contributed $850,044 of additional revenue between
1997 and 1998. Further, the addition of a Kids Quest location at the Mall of
America in Minneapolis, Minnesota and an employee child care facility in Joliet,
Illinois during 1998 contributed $351,507 to the revenue increase.
The Company's thirteen New Horizon Child care centers in Idaho which were
open for the entire twelve month periods ended December 31, 1998 and 1997,
experienced revenue growth of $249,371 or 7%. Management attributes this growth
primarily to the rate increases implemented in 1998.
The Company had thirteen Kids Quest locations open for the entire twelve
month periods ended December 31, 1998 and 1997. Revenues from the Company's two
Minnesota Kids Quest casino locations were up $85,250 or 8% in 1998 versus 1997
primarily due to the relocation of the Mille Lacs Kids Quest to a larger and
more prominent location with upgraded equipment. Revenues from the Company's
locations in Gulfport and Biloxi, Mississippi were up $47,460 or 3% despite the
fact that the Gulfport location was closed for one week and the Biloxi location
was closed for three weeks due to hurricane Georges in late September and early
October of 1998. Management believes that equipment upgrades at both locations
and the opening of a 500 room hotel at the Biloxi casino contributed to the
revenue increase.
13
<PAGE>
Revenue for the Company's location in Tunica, Mississippi was up $119,659 or 18%
in 1998. Management attributes this increase to the addition of 600 hotel rooms
at the property during 1998. Revenues from the Company's locations at Grand
Casino Avoyelles and Grand Casino Coushatta, Louisiana were down $44,502 due
primarily to the fact that the Kinder facility operated in a small temporary
facility for 30 days and closed for an additional 17 days before being moved in
November of 1998 to a larger and more prominent location in the casino's new
hotel. Revenue for the Kids Quest location at the Soaring Eagle casino in Mt.
Pleasant, Michigan increased $132,507 or 44% during 1998 due primarily to the
opening of a 512 room hotel on the property in August, 1998 and increased
marketing efforts by the host property. Revenues from the Company's Kids Quest
locations at Ameristar in Council Bluffs, Iowa, Station Casino in Kansas City,
Missouri and Mohegan Sun casino in Uncasville, Connecticut increased $261,399 or
9%. Management attributes these increases to increased marketing efforts and
business levels at the host properties. Revenue at the Company's Eden Prairie
Center location decreased $64,131, or 14% in 1998 from 1997. The Company
attributes the decrease in revenue to lack of traffic at the mall in which the
center is located. The Company also experienced a $244,932, or 20% decline in
revenue at its Boulder Station location in 1998 versus 1997. The Company
attributes this decrease in revenue to the fact that it opened a new Kids Quest
location within five miles of the Boulder Station location in June of 1997.
Total costs and expenses increased $1,783,585, or 14% in 1998 from
$12,352,341 in 1997. Included in the increase was $490,221 relating to the new
Kids Quest locations added in 1997. Also included in the increase was $789,002
related to the addition of a Kids Quest facility at the Mall of America and an
employee child care facility in Joliet, Illinois during 1998. Costs and expenses
for existing Kids Quest location were up $322,491 despite a reduction of
$173,252 in rent and operating expenses at the Kids Quest facility in Eden
Prairie, Minnesota. The cost increases were due primarily to increased equipment
rent and depreciation associated with the center upgrade program and increased
legal expenses. Costs and expenses at existing New Horizon Child Care Centers
increased $170,325 in 1998 versus 1997. The Company attributes the increases in
costs and expenses related to existing locations primarily to direct costs
associated with additional revenues at these locations. In addition, property
taxes on these locations were $95,006 in 1998 as compared to $43,567 in 1997
reflecting full valuation in 1998 for prior construction and improvements.
Selling, general and administrative expenses decreased $223,433, or 17%, to
$1,054,104 in 1998 from $1,277,537 for the same period in 1997. Selling, general
and administrative expenses as a percentage of revenue decreased to 7% of
revenue in 1998 compared to 9% in 1997. The decrease is due primarily to
reductions of administrative salaries and development expenses. Despite the
decrease in expenses between 1998 and 1997, management expects selling, general
and administrative expenses to increase with the addition of and negotiation for
new locations. However, such expenses will further decrease as a percentage of
revenues with the continued growth of the Company's revenues.
Pursuant to the terms of the Company's contracts with casino operators,
casino operators are entitled to establish a discounted rate below the fair
market value for Kids Quest services to be charged by Kids Quest to the general
public in order to attract customers to Kids Quest and ultimately to their
casinos. The casino operator must reimburse the Company for the difference
between such amounts charged and the fair market value. In 1998 the Company
received $1,168,807 of reimbursements for rate discounts versus $1,129,726 in
1997, an increase of $39,081, or 3%. The majority of these rate discount
reimbursements were from three casinos owned by Grand Casinos and four Indian
casinos currently or previously managed by Grand Casinos, Inc. There can be no
assurance that such discounts and reimbursements will not be modified or
discontinued altogether or that future agreements with other casinos will
provide for a discounted hourly rate to the public. In the event that casino
operators choose not to provide for a discounted hourly rate, the Company may
charge higher hourly rates. While this may
14
<PAGE>
cause patronage to decline and ultimately result in lower revenues, the Company
currently has locations that operate without any rate discount and has found no
evidence to conclude that higher non-discounted hourly rates to customers have a
significant impact on a location's patronage and resulting revenue.
Interest expense for 1998 increased $61,897, or 21%, to $362,895 in 1998
from $300,998 in 1997. The increase in interest expense is due to borrowing made
by the Company to fund its expansion efforts.
The Company had net income of $21,508 in 1998 compared to net income of
$2,655 in 1997. During 1998, the Company experienced increased operating income
of $359,761 from Kids Quest locations opened during 1997, a $79,137 improvement
in operating results at the Idaho New Horizon Child Care centers and decreases
in selling, general and administrative expenses. The Company's earnings were
negatively impacted by losses from its Mall of America location which opened in
the second quarter of 1998 and experienced losses of $454,184. The Company's
earnings were further impacted by the closures of its two Mississippi Gulf Coast
locations for a period of one and three weeks in late September and into October
due to Hurricane Georges.
LIQUIDITY AND CAPITAL RESOURCES
During 1998, the Company generated $2,165,824 from operations, invested
$2,650,282 in property and equipment related to new locations and equipment
upgrades and received payments on notes receivable of $105,592. The Company made
payments on long-term debt of $959,438 and borrowed an additional $748,925
related to the Mall of America location opened during the second quarter of
1998. The Company also took advances on its credit line of $243,556 to fund
short-term working capital needs. The Company ended the year with a cash balance
of $208,717.
During 1997, the Company generated $1,180,497 from operations, invested
$1,754,109 in property and equipment, loaned subsidiaries of Station Casinos,
Inc. $945,600 to fund leasehold improvements at Station Casinos in Kansas City
and Sunset Station, and received payments on notes receivable of $609,854
including complete repayment of the note from Mohegan Sun Casino. The Company
added long-term debt of $2,384,405 and made payments of $1,070,739 on long-term
obligations. The Company ended the year with a cash balance of $554,540.
The Company's capital needs depend upon the Company's expansion efforts.
The Company incurs pre-opening expenses in connection with each of its Kids
Quest centers as well as acquisition or development expenses to add traditional
child care centers. The Company is actively seeking additional Kids Quest
contracts and has engaged in site analysis for the construction of additional
New Horizon Child Care centers. The Company will require additional financing in
1999 as it adds Kids Quest or New Horizon Child Care locations or if the Company
were to pursue additional acquisitions during the year. In addition, the Company
is currently obligated to loan Station Casinos, Inc. up to $500,000 for
leasehold improvements in connection with the Kids Quest location at Texas
Station in Las Vegas, Nevada which opened in February of 1999. The Company is
currently seeking financing. The Company believes that it will be able to
arrange such additional financing and will be able to fund additional expansion
with the additional financing and with cash flow from operations.
YEAR 2000 COMPLIANCE
Beginning in early 1998, the Company began evaluating its year 2000
readiness. The Company began testing its various information to determine if
they would correctly recognize and process data information beyond the year
1999. The evaluation performed included in-house testing of systems by Company
employees, use of various purchased evaluation software, and discussions with
material software
15
<PAGE>
vendors. The results of the Company's evaluations resulted in the conclusion
that much of the Company's software, as well as the imbedded technology of some
of the Company's hardware equipment, was not year 2000 compliant. The Company
has been upgrading its systems with software and hardware that is year 2000
compatible. Many of these upgrades had been previously planned in the normal
course of business without regard to the year 2000 issue. A significant portion
of the upgrades are being provided by vendors pursuant to previously existing
software development and service agreements with the remaining upgrades
requiring expenditure by the Company. The costs incurred to date by the Company
have been $18,500. The Company currently estimates that its total expenditures
will be less than $30,000 to complete system upgrades to year 2000 compliance.
The Company completed the majority of the upgrades, primarily related to revenue
recognition and internal accounting, in January of 1999.
The Company will continue its evaluation effort through 1999 and into the
year 2000 to identify any previously unanticipated or unidentified year 2000
issues. If any additional issues or complications arise that may potentially
cause any business interruption, the Company believes it can effectively rely on
manual systems to assure minimal business interruption as a result of year 2000
system failures.
The Company's reliance on third party vendors is not considered material
and would cause only minor disruption to the Company due to year 2000
non-compliance by such vendor. In any case, the Company has been in the process
of evaluating the potential of any third parties that could have an effect on
the Company. To accomplish this the Company has begun surveying those entities
to determine their year 2000 readiness.
Based on the information the Company currently has available, the Company
does not believe that the year 2000 should pose a significant threat to the
Company's business. Although the Company will continue to monitor the issue and
its readiness to deal with any potential issues, there can be no assurance that
the Company will be able to identify or cure any unforeseen year 2000 compliance
issues, particularly where the Company is relying on a supplier or other third
party vendor or that such reliance will not have an adverse effect on the
Company.
PRIVATE SECURITIES LITIGATION REFORM ACT
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" for forward-looking statements. Certain information included in this
Form 10-QSB (as well as information included in oral statements or other written
statements made or to be made by the Company) may contain statements that are
forward-looking, such as statements relating to plans for future expansion and
other business development activities, as well as other capital spending,
financial sources and the effects of regulation and competition. Such
forward-looking information involves important risks and uncertainties that
could significantly affect future results and, accordingly, such results may
differ from those expressed in any forward-looking statement made by or on
behalf of the Company. These risks and uncertainties include, but are not
limited to, those relating to development and construction activities,
dependence on existing management and third party contracts, domestic or global
economic conditions, changes in federal or state laws or the administration or
enforcement of such laws, litigation or claims, as well as all other risks and
uncertainties described in the Company's filings.
16
<PAGE>
ITEM 7. FINANCIAL STATEMENTS
NEW HORIZON KIDS QUEST, INC. AND SUBSIDIARIES
Consolidated Financial Statements
As of
December 31, 1998 and 1997
CONTENTS
Report of Independent Public Accountants....................................18
Consolidated Balance Sheets.................................................19
Consolidated Statements of Operations.......................................20
Consolidated Statements of Shareholders' Equity.............................21
Consolidated Statements of Cash Flows.......................................22
Notes to Consolidated Financial Statements..................................23
17
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To New Horizon Kids Quest, Inc.:
We have audited the accompanying consolidated balance sheets of New Horizon Kids
Quest, Inc. (a Minnesota corporation) and Subsidiaries as of December 31, 1998
and 1997, and the related consolidated statements of operations, shareholders'
equity and cash flows for the years then ended. These financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of New Horizon Kids Quest, Inc.
and Subsidiaries as of December 31, 1998 and 1997, and the results of their
operations and their cash flows for the years then ended, in conformity with
generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Minneapolis, Minnesota,
February 12, 1999
18
<PAGE>
NEW HORIZON KIDS QUEST, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
As of December 31
<TABLE>
<CAPTION>
1998 1997
----------- -----------
ASSETS
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 208,717 $ 554,540
Accounts receivable 911,750 773,120
Current portion of notes receivable 144,335 163,539
Prepaid expenses and other 132,085 262,150
----------- -----------
Total current assets 1,396,887 1,753,349
----------- -----------
PROPERTY AND EQUIPMENT:
Furniture, fixtures, equipment and leaseholds 9,172,698 6,522,416
Less- Accumulated depreciation and amortization (3,234,207) (1,701,827)
----------- -----------
Property and equipment, net 5,938,491 4,820,589
OTHER ASSETS:
Goodwill, net of accumulated amortization of $246,067
and $163,547 991,711 1,074,231
Notes receivable, net of current portion 1,050,222 1,202,216
Other long-term assets 181,320 186,904
----------- -----------
$ 9,558,631 $ 9,037,289
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Current maturities of notes payable and long-term debt $ 1,488,825 $ 861,645
Accounts payable 819,027 282,073
Accrued expenses 548,769 618,932
----------- -----------
Total current liabilities 2,856,621 1,762,650
LONG-TERM DEBT, less current maturities 1,719,831 2,313,968
----------- -----------
COMMITMENTS AND CONTINGENCIES (Note 7)
SHAREHOLDERS' EQUITY:
Undesignated preferred stock, 3,500,000 shares authorized; no shares issued
and outstanding -- --
Series A convertible preferred stock, $.01 par value, 1,500,000 shares
authorized; no shares issued and outstanding -- --
Common stock, $.01 par value, 20,000,000 shares authorized; 3,293,300 shares
issued and outstanding in 1998 and 1997 32,933 32,933
Paid-in capital 7,196,197 7,196,197
Accumulated deficit (2,246,951) (2,268,459)
----------- -----------
Total shareholders' equity 4,982,179 4,960,671
----------- -----------
$ 9,558,631 $ 9,037,289
=========== ===========
</TABLE>
The accompanying notes are an integral part of these consolidated balance
sheets.
19
<PAGE>
NEW HORIZON KIDS QUEST, INC. AND SUBSIDIARIES
Consolidated Statements of Operations
For the Years Ended December 31
1998 1997
------------ ------------
REVENUE $ 15,599,870 $ 13,856,238
------------ ------------
COSTS AND EXPENSES:
Direct expenses 12,430,033 11,101,441
Depreciation and amortization 1,501,426 1,036,289
Preopening expenses 204,467 214,611
------------ ------------
Total costs and expenses 14,135,926 12,352,341
------------ ------------
Center operating income 1,463,944 1,503,897
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES 1,054,104 1,277,537
DEPRECIATION AND AMORTIZATION 118,654 106,522
------------ ------------
Income from operations 291,186 119,838
INTEREST EXPENSE (362,895) (300,998)
INTEREST INCOME 134,377 151,953
MINORITY INTEREST 12,840 31,862
------------ ------------
Income before income taxes 75,508 2,655
PROVISION FOR INCOME TAXES 54,000 --
------------ ------------
Net income $ 21,508 $ 2,655
============ ============
NET INCOME per share:
Basic and diluted $ .01 $ .00
============ ============
Weighted average shares outstanding:
Basic and diluted 3,293,300 3,293,300
============ ============
The accompanying notes are an integral part of these consolidated statements.
20
<PAGE>
NEW HORIZON KIDS QUEST, INC. AND SUBSIDIARIES
Consolidated Statements of Shareholders' Equity
<TABLE>
<CAPTION>
Common Stock Total
---------------------- Paid-In Accumulated Shareholders'
Shares Amount Capital Deficit Equity
--------- ------- ---------- ----------- ----------
<S> <C> <C> <C> <C> <C>
BALANCE,
December 31, 1996 3,293,300 $32,933 $7,171,197 $(2,271,114) $4,933,016
Net income - - - 2,655 2,655
Warrants issued for
consulting services - - 25,000 - 25,000
--------- ------- ---------- ----------- ----------
BALANCE,
December 31, 1997 3,293,300 32,933 7,196,197 (2,268,459) 4,960,671
Net income - - - 21,508 21,508
--------- ------- ---------- ----------- ----------
BALANCE,
December 31, 1998 3,293,300 $32,933 $7,196,197 $(2,246,951) $4,982,179
========= ======= ========== =========== ==========
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
21
<PAGE>
NEW HORIZON KIDS QUEST, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
For the Years Ended December 31
<TABLE>
<CAPTION>
1998 1997
----------- -----------
<S> <C> <C>
OPERATING ACTIVITIES:
Net income $ 21,508 $ 2,655
Adjustments to reconcile net income to net cash provided by
operating activities-
Depreciation and amortization 1,620,080 1,142,811
Change in operating assets and liabilities:
Accounts receivable (138,630) (161,641)
Prepaid expenses and other current assets 130,065 (90,063)
Accounts payable 536,954 1,198
Other assets 404 (40,955)
Accrued expenses (4,557) 326,492
----------- -----------
Net cash provided by operating activities 2,165,824 1,180,497
----------- -----------
INVESTING ACTIVITIES:
Purchases of property and equipment (2,650,282) (1,754,109)
Increases in notes receivable -- (945,600)
Collection of notes receivable 105,592 609,854
----------- -----------
Net cash used in investing activities (2,544,690) (2,089,855)
----------- -----------
FINANCING ACTIVITIES:
Advances on line of credit, net 243,556 --
Proceeds from long-term debt 748,925 2,384,405
Payments on long-term debt (959,438) (1,070,739)
----------- -----------
Net cash provided by financing activities 33,043 1,313,666
----------- -----------
Net increase (decrease) in cash and cash equivalents (345,823) 404,308
CASH AND CASH EQUIVALENTS, beginning of year 554,540 150,232
----------- -----------
CASH AND CASH EQUIVALENTS, end of year $ 208,717 $ 554,540
=========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for-
Interest $ 359,057 $ 280,669
Income taxes 47,613 --
NONCASH ITEMS:
Warrants issued for consulting services $ -- $ 25,000
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
22
<PAGE>
NEW HORIZON KIDS QUEST, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 1998 and 1997
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
PRINCIPLES OF CONSOLIDATION AND BUSINESS
The consolidated financial statements include the accounts of New Horizon Kids
Quest, Inc. and its wholly owned subsidiaries, including New Horizon Child
Care-Idaho, Inc. (the Company). All intercompany balances and transactions have
been eliminated in consolidation. As of December 31, 1998, the Company operated
17 Kids Quest Centers providing hourly child care, as well as 15 New Horizon
child care centers providing traditional child care services.
Kids Quest of Council Bluffs, LLC (Kids Quest LLC) is owned 51% by the Company
and 49% by Ameristar Casino Council Bluffs, Inc. (Ameristar). The operating
agreement governing Kids Quest LLC provides for the owners to share in profits
and losses of Kids Quest LLC. Ameristar's portion of net losses generated to
date are presented as minority interest in the consolidated statements of
operations.
The Company is developing and introducing new formats and locations for the
delivery of its services. Future revenues and results from operations will
depend upon various factors, including market acceptance of these formats and
general economic conditions. The Company's ability to meet its expansion plan
depends on its ability to obtain substantial financing for the development of
additional units. There are no assurances that such financing will be available
on terms acceptable or favorable to the Company.
CASH AND CASH EQUIVALENTS
The Company considers all short-term, highly liquid investments, primarily money
market accounts that are readily convertible into known amounts of cash and have
original maturities of three months or less, to be cash equivalents.
ACCOUNTS AND NOTES RECEIVABLE
Accounts receivable represent uncollected reimbursements from various casinos
and amounts due from customers for child care services. Balances are due
monthly. Notes receivable represent amounts due from casino operators to
reimburse the Company for construction expenditures and amounts advanced to the
owner of a building leased by the Company.
23
<PAGE>
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost, less accumulated depreciation.
Additions and improvements to property and equipment are capitalized at cost,
while maintenance and repair expenditures are charged to operations as incurred.
Depreciation is calculated using the straight-line method for financial
reporting purposes and the accelerated methods for income tax purposes. For
financial reporting purposes, depreciation is provided over the following
estimated useful lives:
Furniture, fixtures and equipment 5-7 years
Leasehold improvements 7-10 years or the term of the lease
REVENUE RECOGNITION
Revenue is recognized as child care services are rendered. Amounts collected in
advance for which the service has not yet been provided are deferred and
classified as a component of accrued expenses in the accompanying consolidated
balance sheets. Rate and compensatory reimbursements received from Grand
Casinos, Inc. for the years ended December 31, 1998 and 1997 were approximately
$1,390,000 and $1,393,000, respectively.
GOODWILL
Goodwill represents the amounts paid for child care centers in excess of the
identifiable assets. The goodwill amounts are being amortized over their
estimated lives, which do not exceed 15 years, using the straight-line method.
Impairment losses are recorded on goodwill and other long-lived assets used in
operations when indicators of impairment are present and the undiscounted cash
flows estimated to be generated by those assets are less than the assets'
carrying amount. Impairment losses are measured by comparing the fair value of
the assets, as determined by discounting the future cash flows at a market rate
of interest, to their carrying amounts. There were no impairments recognized
during 1998 and 1997.
EARNINGS PER SHARE
Basic earnings per common share is computed by dividing net income by the
weighted average number of shares of common stock outstanding during the year.
Diluted earnings per share is computed similarly to the computation of basic
earnings per share except that the denominator is increased by the assumed
exercise of dilutive options and warrants using the treasury stock method. The
shares used in computing basic and diluted earnings per share were the same for
1998 and 1997. Options and warrants were excluded from the computation of
diluted earnings per share for both years because their effect is antidilutive.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make certain estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Ultimate results could differ from those estimates.
24
<PAGE>
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
The Financial Accounting Standards Board has released Statement of Financial
Accounting Standards (SFAS) No. 130, "Reporting Comprehensive Income," effective
for fiscal years beginning after December 15, 1997. SFAS No. 130 establishes
standards for reporting and display in the financial statements of total net
income and the components of all other nonowner changes in equity, referred to
as comprehensive income. The Company adopted SFAS No. 130 on January 1, 1998.
There was no impact to the Company as there is no difference between the
Company's net income reported and comprehensive net income.
The Company adopted SFAS No. 131, "Disclosures about Segments of an Enterprise
and Related Information," in the fourth quarter of 1998. SFAS No. 131
establishes standards for disclosure of financial information related to
operating segments of the Company, as well as disclosure requirements for
customer and geographic information. SFAS No. 131 defines an operating segment
as a component of a company for which operating results are reviewed regularly
by the chief operating decision maker to determine resource allocation and
assess performance.
2. NOTES RECEIVABLE:
Long-term notes receivable consisted of the following at December 31:
<TABLE>
<CAPTION>
1998 1997
---------- ----------
<S> <C> <C>
Demand promissory note from owner of a building leased by the Company for
amounts advanced for initial center acquisition costs, at prime plus 2%,
repaid May
1998 $ - $ 65,606
Note receivable from casino operator at reference rate (8.75% at December 31,
1998) for amounts advanced for the cost of construction, initial improvements
and fixtures; payable in monthly installments of $6,266 through 2005;
collateralized by rents or other payments owed by the Company pursuant to
lease agreement
389,163 428,421
Note receivable from casino operator at 10% for amounts advanced for the cost of
construction, initial improvements and fixtures; payable in monthly
installments of $6,567 through 2006; collateralized by rents or other
payments owed by the Company pursuant to lease agreement
432,769 466,442
Note receivable from casino operator at 10% for amounts advanced for the cost of
construction, initial improvements and fixtures; payable in monthly
installments of $5,999 through 2007; collateralized by rents or other
payments owed by the Company pursuant to child care services agreement
372,625 405,286
---------- ----------
Total long-term notes receivable 1,194,557 1,365,755
Less- Current maturities (144,335) (163,539)
---------- ----------
Long-term notes receivable, net of current maturities $1,050,222 $1,202,216
========== ==========
</TABLE>
In connection with the opening of a Kids Quest center in February 1999, the
Company agreed to advance up to $500,000 to a casino operator for the cost of
construction, initial improvements
25
<PAGE>
and fixtures. The terms of the note receivable are expected to be substantially
the same as existing casino notes receivable.
3. LONG-TERM DEBT:
Long-term debt consisted of the following at December 31:
<TABLE>
<CAPTION>
1998 1997
---------- ----------
<S> <C> <C>
Line of credit (see below) $ 243,556 $ -
Note payable to sellers of six child care centers in Boise, Idaho, at 9%,
payable in monthly installments of $10,255, with final payment due in 2003;
all assets of the six centers are pledged as collateral 467,529 544,707
Note payable to seller of child care centers in Boise, Idaho, at 8.5%, payable
in monthly installments of $4,154 through 2007; collateralized by assets of
the acquired centers 269,066 294,823
Note payable to seller of child care centers in Boise, Idaho, at 9%, payable in
monthly installments of $4,687 through 2006; collateralized by assets of the
acquired centers 298,711 326,689
Notes payable to leasing company at 12% through 2001;
collateralized by equipment 1,929,794 1,991,766
Other - 17,628
---------- --------
Total long-term debt 3,208,656 3,175,613
Less- Current maturities (1,488,825) (861,645)
---------- --------
Long-term debt, net of current maturities $1,719,831 $2,313,968
========== ==========
</TABLE>
Future maturities of long-term debt as of December 31, 1998 are as follows:
1999 $1,488,825
2000 866,579
2001 288,358
2002 186,671
2003 162,502
Thereafter 215,721
----------
$3,208,656
==========
In November 1998, the Company established a $250,000 line of credit. The
agreement calls for interest at the bank reference rate (8.00% at December 31,
1998). The line of credit is collateralized by the Company's tangible and
intangible assets and expires in November 1999.
4. SHAREHOLDERS' EQUITY:
In connection with the Company's initial public offering of common stock, the
Company sold the underwriter a five-year warrant which expires in November 2000
to purchase up to 100,000 shares of the Company's common stock at $6.00 per
share.
26
<PAGE>
During September 1995, the Company granted 100,000 stock options exercisable at
$5.00 to New Horizon Enterprises, Inc. in exchange for a license agreement to
use a service mark. The license agreement has a term of five years which can be
extended year to year by either party. The option grant represented full payment
to New Horizon Enterprises, Inc. for use of the service mark. The license
agreement also provides the Company with a first right of refusal in connection
with the pursuit of child care opportunities outside of Minnesota.
In addition, the Company granted 25,000 warrants to purchase common stock at
$4.00 in 1997 in exchange for services. The Company has recorded expense for the
fair market value of the services received in the accompanying consolidated
statement of operations.
5. STOCK OPTION PLAN:
The Company has a long-term incentive and stock option plan (the Plan). The Plan
provides for the grants of up to 750,000 incentive stock options or nonstatutory
stock options to key employees, directors and consultants. The exercise price of
options granted under the Plan is determined by the compensation committee of
the board of directors but will not be less than 100% of the fair market value
of the shares on the date of grant. Both the incentive stock options and the
nonstatutory stock options expire ten years from the date of grant.
The Company also has the New Horizon Kids Quest, Inc. 1995 Directors' Stock
Option Plan (the Directors' Plan). The Directors' Plan provides for automatic
grants of 5,000 nonqualified stock options to nonemployee directors of the
Company as of the date such individuals become directors of the Company and on
each subsequent annual shareholder meeting date. The Company has reserved 50,000
shares of common stock for issuance under the Directors' Plan. The option price
will be the market price of the common stock as of the date of each grant.
The Company has previously granted 37,500 stock options exercisable at $4.00 per
share to certain members of management. All of these options were outstanding
and 100% vested at December 31, 1998 and expire on November 13, 2000.
27
<PAGE>
Stock option activity is summarized as follows:
Weighted
Average
Incentive Exercise
Stock Options Price
------------- -----
Balance, December 31, 1996 324,100 $5.41
Options granted 117,000 4.01
Options forfeited (24,000) (5.00)
------- -----
Balance, December 31, 1997 417,100 5.04
Options granted 25,000 2.40
Options forfeited (22,000) (6.44)
------- -----
Balance, December 31, 1998 420,100 $4.81
======= =====
Options exercisable at:
December 31, 1997 208,400
=======
December 31, 1998 270,700
=======
The Company applies Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees," and related interpretations in accounting for its
stock option plans. Accordingly, no compensation cost has been recognized in the
accompanying consolidated statements of operations. Had compensation cost been
recognized based on the fair values of options at the grant dates consistent
with the provisions of SFAS No. 123, "Accounting for Stock-Based Compensation,"
the Company's net income (loss) and net income (loss) per share would have been
reported as follows:
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
Net income (loss):
As reported $ 21,508 $ 2,655
Pro forma (176,712) (160,001)
Net income (loss) per share--basic and diluted:
As reported .01 .00
Pro forma (.05) (.05)
</TABLE>
Because the SFAS No. 123 method of accounting has not been applied to options
granted prior to January 1, 1995, the resulting pro forma compensation cost may
not be representative of that to be expected in future years. The weighted
average fair value of options granted in 1998 and 1997 was $0.97 and $2.05,
respectively. The weighted average exercise price in 1998 and 1997 was $2.40 and
$3.97, respectively.
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted-average
assumptions used: risk-free interest rates of 4.5% to 5.5% for 1998 and 6.5% to
6.8% for 1997, no expected dividends, expected lives
28
<PAGE>
of two years for 1998 and five years for 1997, and expected volatility of 68%
for 1998 grants and 49% for 1997 grants.
6. INCOME TAXES:
The Company utilizes the liability method of accounting for income taxes. As of
December 31, 1998, the Company had operating loss carryforwards of approximately
$1,607,000. These operating loss carryforwards expire beginning in the year
2009. Because realization of the related tax benefits is uncertain, a valuation
allowance has been recorded against the related tax asset.
The components of the deferred tax assets as of December 31 are as follows:
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
Net operating loss carryforwards and credits, expiring
beginning in 2009 $680,000 $665,000
Goodwill and assets previously written off 335,000 404,000
Other, primarily depreciation (93,000) (143,000)
Valuation allowance (922,000) (926,000)
-------- --------
$ - $ -
======== ========
</TABLE>
7. COMMITMENTS AND CONTINGENCIES:
LEASES
A portion of the Company's operations are conducted using leased equipment and
facilities. The leases are noncancelable and renewable. One of the leases
contains percentage of revenue rents in excess of base rents. Several of the
leases contain percentage of profit rents with no base rents. Total rental
expense included in the accompanying consolidated statements of operations was
approximately $2,160,000 and $1,998,000 for the years ended December 31, 1998
and 1997.
Future minimum lease payments under noncancelable operating leases entered into
prior to December 31, 1998 are as follows:
1999 $ 802,000
2000 791,000
2001 791,000
2002 791,000
2003 666,000
Thereafter 1,226,000
EMPLOYMENT AGREEMENTS
The Company has entered into employment agreements with two members of
management. Under these employment agreements, each officer will receive
compensation equal to 2.5% of the Company's pretax earnings.
29
<PAGE>
401(k) PLAN
The Company implemented the Kids Quest 401(k) Retirement Savings Plan (the
401(k) Plan) effective January 1, 1998. Employees are eligible for participation
in the 401(k) Plan after reaching the age of 21 and completing one year of
service, as defined. The 401(k) Plan allows for a discretionary employer match.
There were no company contributions to the 401(k) Plan for 1998.
LITIGATION
In November 1996, a minority shareholder of New Horizon Enterprises, Inc.
commenced an action asserting both individual and derivative claims against New
Horizon Enterprises, Inc. and other Minnesota corporations and real estate
partnerships through which child care centers in Minnesota are owned or
operated. Although the Company does not have any ownership interest in these
Minnesota centers, the Company, together with William M. Dunkley, Susan K.
Dunkley and Jay L. Bennett, were also named as defendants in this lawsuit. Mr.
and Mrs. Dunkley are executive officers, directors and principal shareholders of
the Company and of New Horizon Enterprises, Inc. Mr. Bennett is a director and
principal shareholder of the Company and of New Horizon Enterprises, Inc. The
plaintiff is seeking damages in excess of $50,000 based upon allegations that
include misappropriation of corporate opportunity and breach of fiduciary duty.
The defendants are vigorously contesting the plaintiff's allegations, and
extensive discovery has been conducted. The case is currently scheduled for
trial in June 1999. Through an expert disclosure, the plaintiff, who owns 13.6%
of New Horizon Enterprises, has asserted that she is entitled to an adjusted
ownership interest in New Horizon Enterprises of 18.66%. The plaintiff further
asserts that she is entitled to extrapolate her alleged adjusted ownership
interest to various other entities named as defendants in which she does not own
an ownership interest. With respect to the Company, the plaintiff alleges that
she is entitled to an interest comparable to the interest of William or Susan
Dunkley at the time of the Company's initial public offering in 1995.
Presumably, the plaintiff's claim for a comparable interest in the Company is
directed at receiving a share of William or Susan Dunkley's individual ownership
interests as opposed to receipt of stock directly from the Company. However, as
it is not presently possible to state with certainty what the outcome will be or
the range of the potential loss, there can be no assurance as to the ultimate
outcome of this litigation.
The Company is exposed to a number of asserted and unasserted potential claims
encountered in the normal course of business. In the opinion of management,
based on consultation with outside legal counsel, the resolution of these
matters will not have a material adverse effect on the Company's financial
position or results of operations.
8. RELATED-PARTY TRANSACTIONS:
The Company has had transactions with other companies having certain officers,
directors and/or owners in common with the Company as follows for the years
ended December 31:
1998 1997
-------- --------
Law firm, providing certain legal services $337,692 $322,878
Management believes these transactions were consummated at terms substantially
the same as could have been obtained with unrelated parties.
30
<PAGE>
The Company conducts a portion of its operations in facilities owned or operated
by a shareholder. The Company pays rent to the shareholder based on a percentage
of pretax operating income, as defined in the individual agreements, generally
ranging from 40% to 60%. The Company paid $681,000 for the year ended December
31, 1998 and $504,000 for the year ended December 31, 1997 under the rental
agreement.
The Company has entered into an office-sharing agreement with a related party
which commenced upon the closing of the initial public offering. The term of the
agreement extends through December 2000 or 180 days after notice from either
party of election to terminate. Rental is paid based on the Company's pro rata
share of office space occupied (based on square footage) applied to allocable
rental expenses including taxes, insurance, utilities and maintenance.
9. SEGMENT DISCLOSURES:
The Company has two segments reportable under the guidelines of SFAS No. 131:
Idaho Traditional Care and New Horizon Kids Quest, Inc.
<TABLE>
<CAPTION>
New Horizon Kids Idaho Traditional
Quest, Inc. Care Consolidated
----------- ----------------- ------------
<S> <C> <C> <C> <C>
1998
Revenue $11,725,167 $3,874,703 $15,599,870
Depreciation and amortization 1,403,517 216,563 1,620,080
Interest income 132,379 1,998 134,377
Income (loss) 221,805 (200,297) 21,508
Segment assets 7,773,854 1,784,777 9,558,631
Capital expenditures 2,531,975 118,307 2,650,282
1997
Revenue 10,230,904 3,625,334 13,856,238
Depreciation and amortization 949,847 192,964 1,142,811
Interest income 132,931 19,022 151,953
Income (loss) 299,911 (297,256) 2,655
Segment assets 7,062,794 1,974,494 9,037,288
Capital expenditures 1,638,057 116,052 1,754,109
</TABLE>
31
<PAGE>
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE
None
PART III.
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(a) OF THE SECURITIES EXCHANGE ACT OF
1934
Information regarding the directors of the Company is incorporated herein
by reference to the descriptions set forth under the caption "Election of
Directors" in the Proxy Statement for the Company's 1999 annual meeting of
shareholders (the "Proxy Statement"). Set forth below are the names, ages and
positions of the executive officers of the Company. Kevin M. Greer, who served
as the Chief Financial Officer of the Company since its inception in 1992,
resigned as Chief Financial Officer in February 1999. Mr. Greer is continuing,
however, to provide services to the Company on a consulting basis. Additionally,
the Company has retained the services of Patrick R. Cruzen to act as Interim
Chief Financial Officer.
NAME AGE POSITION
---- --- --------
William M. Dunkley 50 Chairman of the Board and Chief Executive Officer
Susan K. Dunkley 49 President and Director
Patrick R. Cruzen 52 Interim Chief Financial Officer
BACKGROUND OF EXECUTIVE OFFICERS
WILLIAM M. DUNKLEY has been Chief Executive Officer and Chairman of the
Board for the Company since its inception in 1992 and is a shareholder of New
Horizon Enterprises, Inc., which he co-founded in 1971. Mr. Dunkley is also the
Chief Executive Officer and Chairman of the Board of Building Block Child Care,
Inc., Kinderberry Hill Child Development centers and New Horizon Child Care,
Inc. Mr. Dunkley is concurrently a Senior Partner in the Minneapolis law firm of
Dunkley, Bennett & Christensen, PA. and serves on the Board of Directors of
Rasmussen College System, Inc. Mr. Dunkley devotes no less than 50% of his time
to the affairs of the Company.
SUSAN K. DUNKLEY has been the President and a director of the Company since
its inception in 1992 and is a shareholder in New Horizon Enterprises, Inc.,
which she co-founded in 1971. She is also a board member and President of
Building Block Child Care, Inc., Kinderberry Hill Child Development centers and
New Horizon Child Care, Inc. Ms. Dunkley serves on the boards of the National
Child Care Association, Success at Six, Rule 17 Advisory Committee, Rule 3 Task
Force, Early Childhood News, Boys and Girls Club of Minneapolis and the
Minnesota Child Care Advocates. Ms. Dunkley is on the Advisory Board of
Rasmussen Business College's Child Care Specialist Program. Ms. Dunkley devotes
no less than 50% of her time to the affairs of the Company.
PATRICK R. CRUZEN has been retained as the Company's Interim Chief
Financial Officer effective March 1999. Mr. Cruzen previously served as the
President and Chief Operating Officer of Grand Casinos, Inc. Prior to joining
Grand Casinos, Inc., Mr. Cruzen served as the Senior Vice President of Finance
and Administration at MGM Grand and as President of MGM Grand's marketing
division. Prior thereto, Mr. Cruzen served as President of the Flamingo Hilton
in Reno, Nevada, as President of The Sands Hotel and Casino in Las Vegas, as
Chief Financial Officer, Vice President of Administration and Vice President of
Hotel Operations for Caesars Palace, and as Controller for the Las Vegas Hilton.
32
<PAGE>
ITEM 10. EXECUTIVE COMPENSATION
Information regarding executive compensation is incorporated herein by
reference from the information set forth under the caption "Executive
Compensation" in the Proxy Statement.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information regarding security ownership of certain beneficial owners and
management is incorporated herein by reference from the information set forth
under the caption "Principal Shareholders" in the Proxy Statement.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information regarding certain relationships and related transactions is
incorporated herein by reference from the information set forth under the
caption "Certain Transactions" in the Proxy Statement.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
<TABLE>
<CAPTION>
No. Description
--- -----------
<S> <C> <C>
3.1 Articles of Incorporation of the Company, as amended *
3.2 Restated Bylaws of the Company *
10.1 License Agreement between the Company and New Horizon Enterprises, Inc. *
10.2 Employment Agreement with William M. Dunkley *
10.3 Employment Agreement with Susan K. Dunkley *
10.4 1994 Long-Term Incentive and Stock Option Plan, as amended **
10.5 1995 Directors' Stock Option Plan, as amended *
10.6 Form of Underwriter's Warrant issued in the Company's initial Public Offering *
21 List of Subsidiaries ***
23 Consent of Arthur Andersen LLP
27 Financial Data Schedule
</TABLE>
- --------------------------
* Incorporated by reference from the Company's Registration Statement on
Form SB-2 (No. 33-97186C)
** Incorporated by reference from the Company's Form 10-KSB filed March
1998.
*** Incorporated by reference from the Company's Form 10-KSB filed March
1996.
(b) Reports on Form 8-K
The Company did not file any reports on Form 8-K during the last
quarter of the fiscal year covered by this report.
33
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Securities Exchange Act of
1934, the registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized.
NEW HORIZON KIDS QUEST, INC.
Date: March 30, 1999 By /s/ William M. Dunkley
-------------------------------------------------
William M. Dunkley
Chairman of the Board and Chief Executive Officer
In accordance with the Securities Exchange Act of 1934, this report has
been signed below by the following persons on behalf of the registrant, and in
the capacities and on the date indicated.
<TABLE>
<CAPTION>
Signature Title Date
- --------- ----- ----
<S> <C> <C>
/s/ William M. Dunkley Chairman of the Board and March 30, 1999
- -------------------------------------------- Chief Executive Officer
William M. Dunkley (principal executive officer)
/s/ Patrick R. Cruzen Interim Chief Financial Officer March 30, 1999
- -------------------------------------------- (principal financial and
Patrick R. Cruzen accounting officer)
/s/ Susan K. Dunkley
- -------------------------------------------- President and Director March 30, 1999
Susan K. Dunkley
/s/ Jay L. Bennett
- -------------------------------------------- Director March 30, 1999
Jay L. Bennett
/s/ Lyle Berman
- -------------------------------------------- Director March 30, 1999
Lyle Berman
/s/ Kenneth Brimmer
- -------------------------------------------- Director March 30, 1999
Kenneth Brimmer
</TABLE>
<PAGE>
NEW HORIZON KIDS QUEST, INC.
ANNUAL REPORT ON FORM 10-KSB
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
EXHIBIT INDEX
Exhibit No. Description
- ----------- -----------
23 Consent of Arthur Andersen LLP
27 Financial Data Schedule
Exhibit 23
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the incorporation of our
report included in this Form 10-KSB into the Company's previously filed
Registration Statement File Nos. 33-04384 and 333-49785.
ARTHUR ANDERSEN LLP
Minneapolis, Minnesota,
March 29, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> DEC-31-1998
<CASH> 208,717
<SECURITIES> 1,414
<RECEIVABLES> 964,257
<ALLOWANCES> 52,507
<INVENTORY> 58,599
<CURRENT-ASSETS> 1,396,887
<PP&E> 9,172,698
<DEPRECIATION> 3,234,207
<TOTAL-ASSETS> 9,558,631
<CURRENT-LIABILITIES> 2,856,621
<BONDS> 0
0
0
<COMMON> 32,933
<OTHER-SE> 4,949,246
<TOTAL-LIABILITY-AND-EQUITY> 9,558,631
<SALES> 918,478
<TOTAL-REVENUES> 15,599,870
<CGS> 535,463
<TOTAL-COSTS> 535,463
<OTHER-EXPENSES> 14,491,627
<LOSS-PROVISION> 16,269
<INTEREST-EXPENSE> 362,895
<INCOME-PRETAX> 75,508
<INCOME-TAX> 54,000
<INCOME-CONTINUING> 21,508
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 21,508
<EPS-PRIMARY> .01
<EPS-DILUTED> .01
</TABLE>
