<PAGE> 1
================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------------
FORM 8-K
CURRENT REPORT
PURSUANT TO SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Date of Report (Date of earliest event reported):
January 28, 1999
SERVICE EXPERTS, INC.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
<TABLE>
<CAPTION>
Delaware 001-13037 62-1639453
- ---------------- ---------------- -----------------
<S> <C> <C>
(State or Other (Commission File (I.R.S. Employer
Jurisdiction of Number) Identification
Incorporation) Number)
</TABLE>
Six Cadillac Drive
Suite 400
Brentwood, Tennessee 37027
--------------------------------------------------
(Address of principal executive offices) (Zip Code)
(615) 371-9990
----------------------------------------------------
(Registrant's telephone number, including area code)
Not Applicable
-------------------------------------------------------------
(Former name or former address, if changed since last report)
================================================================================
<PAGE> 2
ITEM 5. OTHER EVENTS.
Service Experts, Inc., a Delaware corporation (the "Company"), operates
residential heating, ventilating and air conditioning ("HVAC") service and
replacement businesses. In connection with the acquisition of HVAC businesses,
the Company plans to offer shares of the Company's Common Stock, $.01 par value
per share (the "Common Stock"), warrants to purchase shares of Common Stock and
debt securities convertible into shares of Common Stock pursuant to its
Registration Statement on Form S-4 (Registration No. 333-12319). In order to
comply with the disclosure requirements of the Securities and Exchange
Commission regarding the financial statements of businesses acquired or to be
acquired, the Company is filing this Current Report containing the following
audited and pro forma financial statements:
(a) Financial Statements of Businesses Acquired
See Pages F-2 through F-62.
(b) Pro Forma Financial Information
See Pages F-63 through F-70.
2
<PAGE> 3
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
GULF COAST COOLING, INC. -- FINANCIAL STATEMENTS FOR
THE YEAR ENDED DECEMBER 31, 1997
Report of Independent Auditors...................................... F-2
Balance Sheet....................................................... F-3
Statement of Income................................................. F-4
Statement of Stockholders' Equity................................... F-5
Statement of Cash Flows............................................. F-6
Notes to Financial Statements....................................... F-7
MATZ SHEET METAL WORKS, INC. AND RIGHT WAY HEATING AND AIR
CONDITIONING SERVICE, INC. -- COMBINED FINANCIAL STATEMENTS FOR
THE YEAR ENDED DECEMBER 31, 1997 AND THE SIX MONTHS ENDED
JUNE 30, 1998 (UNAUDITED)
Report of Independent Auditors...................................... F-18
Combined Balance Sheets............................................. F-19
Combined Statements of Income....................................... F-20
Combined Statement of Stockholder's Equity.......................... F-21
Combined Statements of Cash Flows................................... F-22
Notes to Combined Financial Statements.............................. F-23
CLIMATE CONTROL, INC. -- FINANCIAL STATEMENTS FOR THE
YEAR ENDED DECEMBER 31, 1997
Report of Independent Auditors...................................... F-30
Balance Sheet....................................................... F-31
Statement of Income................................................. F-32
Statement of Stockholder's Equity................................... F-33
Statement of Cash Flows............................................. F-34
Notes to Financial Statements....................................... F-35
EPPERSON, INC. -- FINANCIAL STATEMENTS FOR THE YEAR ENDED
DECEMBER 31, 1997 AND THE SIX MONTHS ENDED JUNE 30, 1998
(UNAUDITED)
Report of Independent Auditors...................................... F-47
Balance Sheets...................................................... F-48
Statements of Income................................................ F-49
Statements of Stockholder's Equity.................................. F-50
Statements of Cash Flows............................................ F-51
Notes to Financial Statements....................................... F-52
SERVICE EXPERTS, INC. -- UNAUDITED PRO FORMA COMBINED
FINANCIAL STATEMENTS
Basis of Presentation............................................... F-63
Unaudited Pro Forma Combined Balance Sheet as of September 30,
1998.............................................................. F-66
Unaudited Pro Forma Combined Statements of Income for the
Nine Months ended September 30, 1998 and for the Year
ended December 31, 1997........................................... F-67
Notes to Unaudited Pro Forma Combined Financial
Statements........................................................ F-69
</TABLE>
F-1
<PAGE> 4
Report of Independent Auditors
The Stockholders of
Gulf Coast Cooling, Inc.
We have audited the accompanying balance sheet of Gulf Coast Cooling, Inc. as of
December 31, 1997, and the related statements of income, stockholders' equity,
and cash flows for the year ended December 31, 1997. 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 audit.
We conducted our audit 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 audit provides 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 Gulf Coast Cooling, Inc. at
December 31, 1997, and the results of its operations and its cash flows for the
year ended December 31, 1997, in conformity with generally accepted accounting
principles.
/s/ Ernst & Young LLP
Nashville, Tennessee
December 18, 1998
F-2
<PAGE> 5
Gulf Coast Cooling, Inc.
Balance Sheet
<TABLE>
<CAPTION>
December 31, 1997
-----------------
<S> <C>
ASSETS
Current assets:
Cash $ 135,824
Accounts receivable:
Trade, net of allowance for doubtful accounts
of $26,332 563,420
Other 25,521
-----------------
588,941
Inventories 184,751
Costs and estimated earnings in excess of billings 32,361
Prepaid expenses and other current assets 11,534
Deferred income taxes 194,112
-----------------
Total current assets 1,147,523
Property, buildings and equipment:
Land 119,636
Buildings and improvements 403,363
Furniture and fixtures 74,429
Machinery and equipment 52,029
Vehicles 380,896
-----------------
1,030,353
Less accumulated depreciation and amortization (366,382)
-----------------
663,971
Restricted cash 35,418
Other assets 7,569
-----------------
Total assets $ 1,854,481
=================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Advance from Service Experts, Inc. $ 677,476
Trade accounts payable and accrued liabilities 143,738
Accrued compensation 42,277
Accrued warranties 74,000
Income taxes payable 127,910
Deferred revenue 113,846
Billings in excess of costs and estimated earnings 314,396
-----------------
Total current liabilities 1,493,643
Deferred income taxes 24,735
Stockholders' equity:
Common stock, $1 par value, 7,500 shares
authorized, 250 shares issued and outstanding 250
Additional paid-in capital 67,750
Retained earnings 268,103
-----------------
Total stockholders' equity 336,103
-----------------
Total liabilities and stockholders' equity $ 1,854,481
=================
</TABLE>
See accompanying notes.
F-3
<PAGE> 6
Gulf Coast Cooling, Inc.
Statement of Income
<TABLE>
<CAPTION>
Year Ended
December 31, 1997
---------------------
<S> <C>
Net revenue $ 6,176,613
Cost of goods sold 4,509,844
---------------------
Gross margin 1,666,769
Selling, general and administrative expenses 1,346,195
---------------------
Income from operations 320,574
Other income (expense):
Interest expense (62,035)
Interest income 1,260
Other income 44,793
---------------------
(15,982)
---------------------
Income before taxes 304,592
Provision (benefit) for income tax:
Current 127,910
Deferred (15,003)
---------------------
Total income taxes 112,907
---------------------
Net income $ 191,685
=====================
</TABLE>
See accompanying notes.
F-4
<PAGE> 7
Gulf Coast Cooling, Inc.
Statement of Stockholders' Equity
<TABLE>
<CAPTION>
Common Stock Additional
$1 Par Value Paid-In Retained
Shares Amount Capital Earnings Total
----------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balance at January 1, 1997 250 $ 250 $67,750 $ 76,418 $144,418
Net income -- -- -- 191,685 191,685
----------------------------------------------------------------------
Balance at December 31, 1997 250 $ 250 $67,750 $268,103 $336,103
======================================================================
</TABLE>
See accompanying notes.
F-5
<PAGE> 8
Gulf Coast Cooling, Inc.
Statement of Cash Flows
<TABLE>
<CAPTION>
Year Ended
December 31, 1997
---------------------
<S> <C>
OPERATING ACTIVITIES
Net income $ 191,685
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 78,353
Benefit for deferred income taxes (15,003)
Provision for loss on accounts receivable 35,050
Changes in assets and liabilities:
Accounts and notes receivable 2,690
Inventories 10,051
Prepaid expenses and other current assets 7,453
Other assets (3,942)
Trade accounts payable and accrued liabilities (358,943)
Accrued compensation 9,956
Accrued warranties 17,647
Deferred revenue 26,583
Income taxes payable 94,848
Costs and estimated earnings in excess of billings and
billings in excess of costs and estimated earnings (78,009)
---------------------
Net cash provided by operating activities 18,419
INVESTING ACTIVITIES
Purchase of property, buildings and equipment (83,561)
---------------------
Net cash used in investing activities (83,561)
FINANCING ACTIVITIES
Advance from Service Experts, Inc. 677,476
Payments on long-term debt and capital leases (605,864)
Proceeds from long-term debt 54,373
Restricted cash (14,275)
---------------------
Net cash provided by financing activities 110,710
Increase in cash 46,568
Cash at beginning of year 89,256
=====================
Cash at end of year $ 135,824
=====================
Supplemental cash flow information
Interest paid $ 63,557
=====================
Income taxes paid $ --
=====================
</TABLE>
See accompanying notes.
F-6
<PAGE> 9
Gulf Coast Cooling, Inc.
Notes to Financial Statements
December 31, 1997
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
REPORTING ENTITY
Gulf Coast Cooling, Inc. (the "Company") operates in one industry segment and
is primarily engaged in the installation and servicing of air conditioning and
heating systems for commercial and residential customers in the Ft. Myers,
Florida area.
RECOGNITION OF REVENUE
Revenue on all of the Company's heating and air conditioning installation
contracts for commercial buildings ("Commercial Contracts") are recognized on
the percentage-of-completion method in the ratio that total incurred costs bear
to total estimated costs. Revenue on all of the Company's contracts for
residential installation and service and maintenance revenue are recognized upon
completion of the services, which is usually within one to two days.
F-7
<PAGE> 10
Gulf Coast Cooling, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
RECOGNITION OF REVENUE (CONTINUED)
Earnings and estimated costs on Commercial Contracts are reviewed throughout the
terms of the Commercial Contracts, and any required adjustments are reflected in
the periods in which they first become known. When estimates indicate a probable
loss on a Commercial Contract, the full amount thereof is accrued in the period
in which it is first determined. Most Commercial Contracts are completed within
six to 12 months.
Trade accounts receivable includes billings and billed retainage on Commercial
Contracts. Trade accounts receivable also includes unbilled retainage of
approximately $121,000 at December 31,1997. The Company classifies these amounts
as current assets because all balances are expected to be collected in the
current year.
The asset, "cost and estimated earnings in excess of billings," represents
revenue recognized in excess of amounts billed on in-progress contracts. The
liability, "billings in excess of costs and estimated earnings," represents
billings in excess of revenue recognized on in-progress contracts.
FAIR VALUE OF FINANCIAL INSTRUMENTS
Cash
The carrying amount reported in the balance sheet for cash approximates fair
value.
Accounts Receivable, Accounts Payable, and Accrued Liabilities
The carrying amounts reported in the balance sheet for accounts receivable,
accounts payable, and accrued liabilities approximate fair value. Accounts
receivable are generally unsecured.
F-8
<PAGE> 11
Gulf Coast Cooling, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
CONCENTRATION AND CREDIT RISKS
At times, cash balances in the Company's accounts may exceed FDIC insurance
limits.
At December 31, 1997, the Company had approximately $35,000 on deposit with a
bank in excess of FDIC insurance limits.
The Company primarily purchases Trane and Bryant HVAC units. Total purchases of
Trane and Bryant equipment during 1997 totaled approximately $800,000.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
During the year ended December 31, 1997, amounts charged to bad debt expense
totaled $35,050, and accounts written off totaled $20,250.
INVENTORIES
Inventories are stated at cost, which is not in excess of market. Cost is
determined by the first-in, first-out (FIFO) method for all inventories.
F-9
<PAGE> 12
Gulf Coast Cooling, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
PROPERTY, BUILDINGS AND EQUIPMENT
Property, buildings and equipment are stated on the basis of cost. Depreciation
and amortization are provided on the straight-line and declining-balance methods
over the following useful lives:
<TABLE>
<CAPTION>
YEARS
---------------
<S> <C>
Buildings and improvements 31.5-39
Furniture and fixtures 5-7
Machinery and equipment 5-7
Vehicles 5
</TABLE>
LONG-LIVED ASSETS
Statement of Financial Accounting Standards ("SFAS") No. 121, "Accounting for
the Impairment of Long-lived Assets and for Long-lived Assets to be Disposed
Of," requires that companies consider whether indicators of impairment of
long-lived assets held for use are present. If such indicators are present,
companies determine whether the sum of the estimated undiscounted future cash
flows attributable to such assets is less than their carrying amount, and if so,
companies recognize an impairment loss based on the excess of the carrying
amount of the assets over their fair value. Accordingly, management periodically
evaluates the ongoing value of property, buildings and equipment and has
determined that there were no indications of impairment as of December 31, 1997.
RESTRICTED CASH
Restricted cash is maintained at financial institutions in conjunction with the
sales of extended warranties as required by the State of Florida.
F-10
<PAGE> 13
Gulf Coast Cooling, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
DEFERRED REVENUE
The Company pre-sells maintenance contracts in the form of extended service
agreements ("ESA"). ESA revenue is recorded as deferred revenue and recognized
as income when the service is performed. In addition, the Company provides the
retail customer with the option to purchase a one to three year extended
warranty on parts and labor. This agreement extends the period of coverage on
the original warranty provided by the Company and the manufacturer. The revenue
from the extended warranty contracts is deferred and recognized as income on a
straight-line basis over the contract period. It is the Company's policy to
classify the entire deferred revenue as a current liability.
WARRANTIES
The Company provides the retail customer with a one year warranty on parts and
labor from the date of installation of the heating and air conditioning unit.
This warranty runs concurrent for the first year with the manufacturer's
warranty on parts. The Company also provides the retail customer with the option
to purchase an extended warranty contract. The Company provides an accrual for
future warranty costs based upon the relationship of prior years' sales to
actual warranty costs. It is the Company's practice to classify the entire
warranty accrual as a current liability.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
INCOME TAXES
The Company uses the liability method of accounting for federal and state income
taxes as provided by SFAS No. 109, "Accounting for Income Taxes." Under the
liability method, the deferred tax liability or asset is based on temporary
differences between the financial statement and income tax bases of assets and
liabilities, measured at tax rates that will be in effect when the differences
reverse.
F-11
<PAGE> 14
Gulf Coast Cooling, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
ADVERTISING COSTS
The Company expenses advertising costs as incurred. During 1997, the Company
expensed approximately $99,000.
NEWLY ISSUED ACCOUNTING STANDARDS
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income."
SFAS No. 130 establishes standards for reporting and displaying comprehensive
income and its components in a full set of general purpose financial statements.
SFAS No. 130 is effective for interim and annual periods beginning after
December 15, 1997. Comprehensive income encompasses all changes in stockholders'
equity (except those arising from transactions from owners) and includes net
income, net unrealized capital gains or losses on available for sale securities
and foreign currency translation adjustments. The adoption of SFAS No. 130 did
not have an effect on the Company's financial statements.
F-12
<PAGE> 15
Gulf Coast Cooling, Inc.
Notes to Financial Statements (continued)
2. CONTRACTS IN PROCESS
Information relative to contracts in process is as follows:
<TABLE>
<CAPTION>
December 31,
1997
---------------------
<S> <C>
Contracts on the percentage-of-completion method:
Expenditures on uncompleted contacts $ 972,434
Estimated earnings 356,533
---------------------
1,328,967
Less applicable billings 1,611,002
---------------------
$ (282,035)
=====================
Included in the accompanying balance sheet under
the following captions:
Costs and estimated earnings in excess of billings on
uncompleted contracts $ 32,361
Billings in excess of costs and estimated earnings on
uncompleted contracts (314,396)
---------------------
$ (282,035)
=====================
</TABLE>
Progress billings on contracts bear a relation to costs incurred, but are not
indicative of the ultimate profit or loss on a contract.
F-13
<PAGE> 16
Gulf Coast Cooling, Inc.
Notes to Financial Statements (continued)
3. ADVANCE FROM SERVICE EXPERTS, INC.
In connection with the business combination of the Company with Service Experts,
Inc. ("Service Experts"), Service Experts advanced $677,476 to the Company (see
Note 8). The Company used the advance to pay all notes payable outstanding
during 1997.
4. EMPLOYEE BENEFIT PLANS
The Company has a defined-contribution employee benefit plan incorporating
provisions of Section 401(k) of the Internal Revenue Code. Substantially all
employees of the Company are eligible to participate in the plan. Under the
plan's provisions, a plan member may make contributions, on a tax deferred
basis, not to exceed the maximum established by the Internal Revenue Service.
The Company may make matching contributions of 10% of total contributions by a
plan member, to the maximum established by the Internal Revenue Service. The
Company's matching contributions totaled approximately $13,000 for 1997.
5. COMMITMENTS AND CONTINGENT LIABILITIES
The Company maintains general liability insurance coverage and umbrella policies
to insure itself against any liabilities occurring in the normal course of
business. The Company believes that its insurance coverage is adequate.
F-14
<PAGE> 17
Gulf Coast Cooling, Inc.
Notes to Financial Statements (continued)
6. INCOME TAXES
Income tax expense (benefit) consists of the following at December 31, 1997:
<TABLE>
<CAPTION>
December 31,
1997
----------------
<S> <C>
Current:
Federal $ 109,125
State 18,785
Deferred (15,003)
----------------
$ 112,907
================
</TABLE>
Significant components of the deferred tax assets and liabilities as of December
31, 1997, are as follows:
<TABLE>
<S> <C>
Deferred tax liabilities:
Depreciation and amortization $ 24,735
Deferred tax assets:
Accounts receivable 6,585
Compensation and warranty reserves 27,847
Contract revenue and other accrued expenses 159,680
----------------
Total gross deferred tax assets 194,112
Valuation allowance --
----------------
Deferred tax assets 194,112
----------------
Net deferred tax assets $ 169,377
================
</TABLE>
Management has evaluated the need for a valuation allowance against all or a
portion of the gross deferred tax assets and determined that the gross deferred
tax assets will be realized through reversing taxable temporary differences and
future taxable income. Accordingly, no valuation allowance has been recorded at
December 31, 1997.
F-15
<PAGE> 18
Gulf Coast Cooling, Inc.
Notes to Financial Statements (continued)
6. INCOME TAXES (CONTINUED)
The provision for income taxes differs from the amounts computed by applying the
statutory federal income tax rate of 34% to income before income taxes. The
differences are summarized as follows:
<TABLE>
<CAPTION>
December 31, 1997
--------------------
<S> <C>
Tax provision at statutory rate $ 103,561
State income tax less applicable federal tax benefit 10,951
Other, net (1,605)
--------------------
$ 112,907
====================
</TABLE>
7. IMPACT OF YEAR 2000 (UNAUDITED)
The Year 2000 issue is the result of computer programs being written using two
digits rather than four to define the applicable year. Any of the Company's
computer programs that have time sensitive software may recognize a date using
"00" as the year 1900 rather than the year 2000. This could result in a system
failure or miscalculations causing disruptions of operations, including, among
other things, a temporary inability to process transactions, send invoices, or
engage in similar normal business activities.
The Company has completed an assessment and implemented a plan which will
include testing, modifying and replacing portions of its software so that its
computer systems will function properly with respect to dates in the Year 2000
and thereafter. According to management estimates, the total Year 2000 project
cost will not materially affect the operating results or the financial position
of the Company.
The planned project is estimated to be completed not later than June 30, 1999,
which is prior to any anticipated impact on its operating systems. The Company
believes that with modifications to existing software and conversions to new
software, the Year 2000 issue will not pose significant operational problems for
its computer systems. However, if such modifications and conversions are not
made or are not completed in a timely manner, the Year 2000 issue could have a
material effect on the operations of the Company.
If the steps taken by the Company and its material vendors and business partners
to be Year 2000 compliant are not successful, the Company would likely
experience various operational difficulties resulting in a material adverse
effect upon the Company's financial condition and results of operations. These
could include, among other things, processing transactions to an incorrect
accounting period, difficulties in posting general ledger entries and lapses of
service by vendors.
F-16
<PAGE> 19
Gulf Coast Cooling, Inc.
Notes to Financial Statements (continued)
If the Company's plan to install new systems which effectively address the Year
2000 issue is not successfully or timely implemented, the Company may need to
devote more resources to the process, and additional costs may be incurred. The
Company believes that the Year 2000 issue is being appropriately addressed and
does not expect the Year 2000 issue to have a material adverse effect on the
financial position, results of operations or cash flows of the Company in future
periods.
The Company currently does not have a contingency plan to address the failure of
the Company's IT or non-IT systems or the systems of material third parties to
be Year 2000 compliant. Should the remaining review of the Company's Year 2000
risks reveal potentially non-compliant computer systems or material third party
risks, contingency plans will be developed to address the deficiencies revealed
at that time.
8. SUBSEQUENT EVENT
Subsequent to year end, the Company signed an Agreement and Plan of Merger with
Service Experts. In accordance with the Agreement and Plan of Merger, the
Company merged with and into a wholly-owned subsidiary of Service Experts
effective January 1, 1998.
F-17
<PAGE> 20
Report of Independent Auditors
The Stockholder of
Matz Sheet Metal Works, Inc. and Right Way Heating and
Air Conditioning Service, Inc.
We have audited the accompanying combined balance sheet of Matz Sheet Metal
Works, Inc. and Right Way Heating and Air Conditioning Service, Inc. as of
December 31, 1997, and the related combined statements of income, stockholder's
equity, and cash flows for the year ended December 31, 1997. 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 audit.
We conducted our audit 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 audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the combined financial position of Matz Sheet Metal
Works, Inc. and Right Way Heating and Air Conditioning Service, Inc. at December
31, 1997, and the combined results of their operations and their cash flows for
the year ended December 31, 1997, in conformity with generally accepted
accounting principles.
/s/ Ernst & Young LLP
Nashville, Tennessee
December 1, 1998
F-18
<PAGE> 21
Matz Sheet Metal Works, Inc.
and Right Way Heating and Air Conditioning Service, Inc.
Combined Balance Sheets
<TABLE>
<CAPTION>
December 31, June 30,
1997 1998
------------ ------------
(Unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 503,530 $ 416,938
Accounts receivable:
Trade, net of allowance for doubtful accounts of
$6,000 at December 31, 1997 and $15,000 at
June 30, 1998 (unaudited) 283,975 464,558
Stockholder -- 101,000
---------- ----------
283,975 565,558
Inventories 423,440 296,411
---------- ----------
Total current assets 1,210,945 1,278,907
Property and equipment:
Furniture and fixtures 113,456 113,548
Machinery and equipment 299,916 308,916
Vehicles 432,269 525,199
Leasehold improvements 175,331 175,331
---------- ----------
1,020,972 1,122,994
Less accumulated depreciation 754,103 803,828
---------- ----------
266,869 319,166
Other assets 3,036 3,036
---------- ----------
Total assets $1,480,850 $1,601,109
========== ==========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Trade accounts payable and accrued liabilities $ 512,808 $ 268,611
Accrued warranties 40,500 41,100
Deferred revenue 191,265 210,392
Demand note payable-stockholder 150,000 150,000
Current portion of long-term debt 60,590 91,195
---------- ----------
Total current liabilities 955,163 761,298
Long-term debt, net of current 112,194 146,265
Stockholder's equity:
Common stock, no par value, 400 shares authorized,
200 shares issued and outstanding 8,881 8,881
Treasury stock (155,000) (155,000)
Retained earnings 559,612 839,665
---------- ----------
Total stockholder's equity 413,493 693,546
---------- ----------
Total liabilities and stockholder's equity $1,480,850 $1,601,109
========== ==========
</TABLE>
See accompanying notes.
F-19
<PAGE> 22
Matz Sheet Metal Works, Inc.
and Right Way Heating and Air Conditioning Service, Inc.
Combined Statements of Income
<TABLE>
<CAPTION>
Six months
Year ended ended
December 31, June 30,
1997 1998
-------------- -------------
(Unaudited)
<S> <C> <C>
Net revenue $ 5,221,920 $ 2,649,910
Cost of goods sold 3,745,443 1,761,761
-------------- -------------
Gross margin 1,476,477 888,149
Selling, general and administrative expenses 1,436,049 555,286
-------------- -------------
Income from operations 40,428 332,863
Other income (expense):
Interest expense (28,040) (15,074)
Interest income 9,417 3,497
Other expense (9,972) (984)
-------------- -------------
(28,595) (12,561)
-------------- -------------
Net income $ 11,833 $ 320,302
============== =============
</TABLE>
See accompanying notes.
F-20
<PAGE> 23
Matz Sheet Metal Works, Inc.
and Right Way Heating and Air Conditioning Service, Inc.
Combined Statements of Stockholder's Equity
<TABLE>
<CAPTION>
Common Stock
No Par Value
Treasury Retained
Shares Amount Stock Earnings Total
--------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balance at January 1, 1997 100 $8,881 $(155,000) $ 660,419 $ 514,300
Capital distributions -- -- -- (112,640) (112,640)
Net income -- -- -- 11,833 11,833
--------------------------------------------------
Balance at December 31, 1997 100 8,881 (155,000) 559,612 413,493
Capital distributions (unaudited) -- -- -- (40,249) (40,249)
Net income (unaudited) -- -- -- 320,302 320,302
--------------------------------------------------
Balance at June 30, 1998 (unaudited) 100 $8,881 $(155,000) $ 839,665 $ 693,546
==================================================
</TABLE>
See accompanying notes.
F-21
<PAGE> 24
Matz Sheet Metal Works, Inc.
and Right Way Heating and Air Conditioning Service, Inc.
Combined Statements of Cash Flows
<TABLE>
<CAPTION>
Six months
Year ended ended
December 31, June 30,
1997 1998
------------ -----------
(Unaudited)
<S> <C> <C>
OPERATING ACTIVITIES
Net income $ 11,833 $ 320,302
Adjustments to reconcile net income to net cash provided by
(used in) operating activities:
Depreciation 78,941 49,725
Provision for loss on accounts receivable 26,413 9,000
Changes in assets and liabilities:
Accounts and notes receivable 104,762 (189,583)
Related party accounts receivable -- (101,000)
Inventories (27,007) 127,029
Trade accounts payable and accrued liabilities 45,618 (225,070)
Accrued warranties 5,300 600
--------- ---------
Net cash flow provided by (used in) operating activities 245,860 (8,997)
INVESTING ACTIVITIES
Purchase of fixed assets (82,477) (102,022)
--------- ---------
Net cash used in investing activities (82,477) (102,022)
FINANCING ACTIVITIES
Distribution to stockholder (112,640) (40,249)
Payments on long-term debt and capital leases (47,148) (30,295)
Proceeds from long-term debt 110,322 94,971
--------- ---------
Net cash (used in) provided by financing activities (49,466) 24,427
--------- ---------
Increase (decrease) in cash and cash equivalents 113,917 (86,592)
Cash and cash equivalents at beginning of period 389,613 503,530
--------- ---------
Cash and cash equivalents at end of period $ 503,530 $ 416,938
========= =========
SUPPLEMENTAL CASH FLOW INFORMATION
Interest paid $ 15,405 $ 8,830
========= =========
</TABLE>
See accompanying notes.
F-22
<PAGE> 25
Matz Sheet Metal Works, Inc.
and Right Way Heating and Air Conditioning Service, Inc.
Notes to Combined Financial Statements
December 31, 1997
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
REPORTING ENTITY
Matz Sheet Metal Works, Inc. and Right Way Heating and Air Conditioning Service,
Inc., (collectively, the "Company") are under common ownership. The Company
operates in one industry segment and is primarily engaged in the installation
and servicing of air conditioning and heating systems for commercial and
residential customers in the Long Island, New York area.
PRINCIPLES OF COMBINATION
The combined financial statements include the accounts of Matz Sheet Metal
Works, Inc. and Right Way Heating and Air Conditioning Service, Inc. All
intracompany transactions have been eliminated in the combination.
UNAUDITED INTERIM FINANCIAL STATEMENTS
The combined balance sheet as of June 30, 1998 and the related combined
statements of income, stockholder's equity, and cash flows for the six months
then ended (interim financial statements) have been prepared by the Company's
management and are unaudited. The interim financial statements include all
adjustments, consisting of only normal recurring adjustments, necessary for a
fair presentation of the interim results.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted from the interim financial statements. The
interim financial statements should be read in conjunction with the December 31,
1997 audited financial statements appearing herein. The results of the six
months ended June 30, 1998 may not be indicative of operating results for the
full year.
RECOGNITION OF REVENUE
Revenue on all of the Company's heating and air conditioning installation
contracts for commercial buildings ("Commercial Contracts") are recognized on
the percentage-of-completion method in the ratio that total incurred costs bear
to total estimated costs. Revenue on all of the Company's heating and air
conditioning installation contracts for residential installation and service and
maintenance revenue are recognized upon completion of the services, which is
usually within one to two days.
Earnings and estimated costs on Commercial Contracts are reviewed throughout the
terms of the Commercial Contracts, and any required adjustments are reflected in
the periods in which they first become known. When estimates indicate a probable
loss on a Commercial Contract, the full amount thereof is accrued in the period
in which it is first determined. Most Commercial Contracts are completed within
six to 12 months.
F-23
<PAGE> 26
Matz Sheet Metal Works, Inc.
and Right Way Heating and Air Conditioning Service, Inc.
Notes to Combined Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FAIR VALUE OF FINANCIAL INSTRUMENTS
Cash
The carrying amounts reported in the balance sheet for cash and cash
equivalents and certificates of deposit approximate fair value.
Accounts Receivable, Notes Payable, Accounts Payable and Accrued Liabilities
The carrying amounts reported in the balance sheet for accounts receivable,
notes payable, accounts payable, and accrued liabilities approximate fair value.
Accounts receivable are generally unsecured.
CONCENTRATIONS OF CREDIT
At times, cash balances in the Company's accounts may exceed FDIC insurance
limits. At December 31, 1997, the Company had approximately $205,000 on deposit
with a bank in excess of FDIC insurance limits.
The Company primarily purchases HVAC units and parts that are manufactured by
Lennox Industries, Inc. Total purchases of equipment and parts from this
manufacturer during 1997 totaled approximately $450,000.
CASH EQUIVALENTS
The Company considers all highly liquid investments with an original maturity of
three months or less to be cash equivalents.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
During the year ended December 31, 1997, amounts charged to bad debt expense
totaled $26,413, and accounts written off, net of recoveries, totaled $26,413.
INVENTORIES
Inventories are stated at cost, which is not in excess of market. Cost is
determined by the first-in, first-out (FIFO) method for all inventories.
F-24
<PAGE> 27
Matz Sheet Metal Works, Inc.
and Right Way Heating and Air Conditioning Service, Inc.
Notes to Combined Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
PROPERTY AND EQUIPMENT
Property and equipment are stated on the basis of cost. Depreciation and
amortization are provided on the straight-line and declining-balance methods
over the following useful lives:
<TABLE>
<CAPTION>
Years
-----
<S> <C>
Furniture and fixtures 7
Machinery and equipment 5
Vehicles 5
Leasehold improvements 10
</TABLE>
LONG-LIVED ASSETS
Statement of Financial Accounting Standards ("SFAS") No. 121, "Accounting for
the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed
Of," requires that companies consider whether indicators of impairment of
long-lived assets held for use are present. If such indicators are present,
companies determine whether the sum of the estimated undiscounted future cash
flows attributable to such assets is less than their carrying amount, and if so,
companies recognize an impairment loss based on the excess of the carrying
amount of the assets over their fair value. Accordingly, management periodically
evaluates the ongoing value of property and equipment and has determined that
there were no indications of impairment as of December 31, 1997.
DEFERRED REVENUE
The Company pre-sells maintenance contracts in the form of extended service
agreements ("ESA"). ESA revenue is recorded as deferred revenue and recognized
as income when the service is performed.
F-25
<PAGE> 28
Matz Sheet Metal Works, Inc.
and Right Way Heating and Air Conditioning Service, Inc.
Notes to Combined Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
WARRANTIES
The Company provides the retail customer with a one year warranty on parts and
labor from the date of installation of the heating and air conditioning unit.
This warranty runs concurrent with the manufacturer's warranty on parts. The
Company provides an accrual for future warranty costs based upon the
relationship of prior years' sales to actual warranty costs. It is the Company's
practice to classify the entire warranty accrual as a current liability.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
INCOME TAXES
The stockholder of the Company has elected under Subchapter S of the Internal
Revenue Code to include the Company's income in his own income for federal
income tax purposes. Accordingly, the Company is not subject to federal income
tax.
ADVERTISING COSTS
The Company expenses advertising costs as incurred. During 1997, the Company
expensed approximately $27,800.
NEWLY ISSUED ACCOUNTING STANDARDS
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income."
SFAS No. 130 establishes standards for reporting and displaying comprehensive
income and its components in a full set of general purpose financial statements.
SFAS No. 130 is effective for interim and annual periods beginning after
December 15, 1997. Comprehensive income encompasses all changes in stockholders'
equity (except those arising from transactions from owners) and includes net
income, net unrealized capital gains or losses on available for sale securities
and foreign currency translation adjustments. The adoption of SFAS No. 130 in
1998 did not have an effect on the Company's financial statements.
F-26
<PAGE> 29
Matz Sheet Metal Works, Inc.
and Right Way Heating and Air Conditioning Service, Inc.
Notes to Combined Financial Statements (continued)
2. LONG-TERM DEBT
Debt consists of:
<TABLE>
<CAPTION>
December 31,
1997
------------
<S> <C>
Installment and equipment notes $172,784
Less current portion 60,590
--------
$112,194
========
</TABLE>
The Company has various installment and equipment loans to various lenders which
are secured by vehicles and equipment. These loans bear interest at various
fixed rates ranging from 8% to 10% per annum at December 31, 1997. These loans
require monthly payments ranging from $332 to $1,035 and are due through 2002.
As of December 31, 1997, the aggregate amounts of annual principal maturities of
long-term debt are as follows:
<TABLE>
<S> <C>
1998 $ 60,590
1999 54,700
2000 31,372
2001 19,085
2002 7,037
---------
$ 172,784
=========
</TABLE>
3. LEASES
Total rental expense for all operating leases was $118,834 for 1997. The Company
leases certain vehicles, equipment, and office and warehouse facility under
terms of noncancelable operating lease agreements which expire at various dates
through 2001. Minimum rental commitments at December 31, 1997 under operating
leases having an initial noncancelable term of one year or more are as follows:
<TABLE>
<S> <C>
1998 $ 56,500
1999 53,496
2000 34,636
2001 8,412
Thereafter -
---------
$ 153,044
=========
</TABLE>
F-27
<PAGE> 30
Matz Sheet Metal Works, Inc.
and Right Way Heating and Air Conditioning Service, Inc.
Notes to Combined Financial Statements (continued)
4. COMMITMENTS AND CONTINGENT LIABILITIES
The Company is a party to four legal proceedings arising in the ordinary course
of its business. In the opinion of management, the resolution of these
proceedings will not have a material adverse effect on the financial position or
results of operations of the Company.
The Company maintains general liability insurance coverage and umbrella policies
to insure itself against any liabilities occurring in the normal course of
business. The Company believes that its insurance coverage is adequate.
5. EMPLOYEE BENEFIT PLAN
The Company has a defined-contribution employee benefit plan incorporating
provisions of Section 401(k) of the Internal Revenue Code. Substantially all
employees of the Company are eligible to participate in the plan. Under the
plan's provisions, a plan member may make contributions, on a tax deferred
basis, not to exceed the maximum established by the Internal Revenue Service. No
matching contributions are made by the Company. The Company made a discretionary
contribution of $50,000 in 1997.
6. PRO FORMA INCOME TAX INFORMATION (UNAUDITED)
The Company operates under Subchapter S of the Internal Revenue Code and is not
subject to corporate federal income tax. In connection with the proposed
combination (See Note 9), the Subchapter S election will be terminated. As a
result, the Company will be subject to corporate income taxes subsequent to the
termination of S corporation status. The Company had taxable income of
approximately $98,000 for 1997. Had the Company filed federal and state income
tax returns as a regular corporation for 1997, income tax benefit under the
provisions of SFAS No. 109 would have been approximately $12,000.
At the date of termination of S corporation status, the Company will be required
to provide deferred taxes for cumulative temporary differences between financial
reporting and tax reporting basis of assets and liabilities. Such deferred taxes
will be based on the cumulative temporary differences at the date of termination
of S corporation status. The effect of recognizing the deferred taxes will be
recorded as an adjustment to goodwill in purchase accounting. If the termination
of S corporation status had occurred at June 30, 1998, the deferred tax
asset would have been approximately $8,000.
7. RELATED PARTY TRANSACTION
The Company leases its office facility from the stockholder on a month to month
basis. Rental payments of $43,200 related to this lease were made during the
year ended December 31, 1997.
F-28
<PAGE> 31
Matz Sheet Metal Works, Inc.
and Right Way Heating and Air Conditioning Service, Inc.
Notes to Combined Financial Statements (continued)
8. IMPACT OF YEAR 2000 (UNAUDITED)
The Year 2000 issue is the result of computer programs being written using two
digits rather than four to define the applicable year. Any of the Company's
computer programs that have time sensitive software may recognize a date using
"00" as the year 1900 rather than the year 2000. This could result in a system
failure or miscalculations causing disruptions of operations, including, among
other things, a temporary inability to process transactions, send invoices, or
engage in similar normal business activities.
The Company has completed a plan which included testing, modifying and replacing
portions of its software so that its computer systems function properly with
respect to dates in the Year 2000 and thereafter. According to management
estimates, any further Year 2000 project costs, if any, will not materially
affect the operating results or the financial position of the Company.
If the steps taken by the Company and its material vendors and business partners
to be Year 2000 compliant are not successful, the Company would likely
experience various operational difficulties resulting in a material adverse
effect upon the Company's financial condition and results of operations. These
could include, among other things, lapses of service by vendors. The Company
believes that the Year 2000 issue is being appropriately addressed and does not
expect the Year 2000 issue to have a material adverse effect on the financial
position, results of operations or cash flows of the Company in future periods.
The Company currently does not have a contingency plan to address the failure of
the Company's IT or non-IT systems or the systems of material third parties to
be Year 2000 compliant. Should the remaining review of the Company's Year 2000
risks reveal potentially non-compliant computer systems or material third party
risks, contingency plans will be developed to address the deficiencies revealed
at that time.
9. SUBSEQUENT EVENT
On July 23, 1998, the Company repaid the $150,000 demand note payable to the
stockholder.
Subsequent to year end, the Company signed an Agreement and Plan of Merger with
Service Experts, Inc. ("Service Experts"). In accordance with the Agreement and
Plan of Merger, the Company merged with and into a wholly-owned subsidiary of
Service Experts effective August 1, 1998.
In connection with the business combination of the Company with Service Experts,
Service Experts paid all notes payable outstanding.
F-29
<PAGE> 32
Report of Independent Auditors
The Stockholder of
Climate Control, Inc.
We have audited the accompanying balance sheet of Climate Control, Inc. as of
December 31, 1997, and the related statements of income, stockholder's equity,
and cash flows for the year ended December 31, 1997. 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 audit.
We conducted our audit 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 audit provides 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 Climate Control, Inc. at
December 31, 1997, and the results of its operations and its cash flows for the
year ended December 31, 1997, in conformity with generally accepted accounting
principles.
/s/ Ernst & Young LLP
Nashville, Tennessee
December 11, 1998
F-30
<PAGE> 33
Climate Control, Inc.
Balance Sheet
<TABLE>
<CAPTION>
December 31, 1997
---------------------
<S> <C>
ASSETS
Current assets:
Cash $ 264,664
Accounts receivable:
Trade, net of allowance for doubtful accounts
of $8,328 166,356
Employee 305
---------------------
166,661
Notes receivable -- stockholder 31,465
Inventories 56,425
Costs and estimated earnings in excess of billings 6,969
Prepaid expenses and other current assets 5,808
Deferred income taxes 25,481
---------------------
Total current assets 557,473
Property and equipment:
Furniture and fixtures 75,618
Machinery and equipment 63,115
Vehicles 218,764
Leasehold improvements 7,504
---------------------
365,001
Less accumulated depreciation and amortization (264,832)
---------------------
100,169
Other assets 10,415
---------------------
Total assets $ 668,057
=====================
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Trade accounts payable and accrued liabilities $ 100,254
Accrued compensation 27,844
Accrued warranties 19,305
Income taxes payable 70,297
Deferred revenue 16,299
Current portion of long-term debt 15,002
------------------
Total current liabilities 249,001
Long-term debt, net of current 9,574
Deferred income taxes 440
Stockholder's equity:
Common stock, $100 par value, 250 shares
authorized, 39 shares issued and outstanding 3,900
Retained earnings 405,142
------------------
Total stockholder's equity 409,042
------------------
Total liabilities and stockholder's equity $ 668,057
==================
</TABLE>
See accompanying notes.
F-31
<PAGE> 34
Climate Control, Inc.
Statement of Income
<TABLE>
<CAPTION>
Year Ended
December 31, 1997
---------------------
<S> <C>
Net revenue $ 2,348,234
Cost of goods sold 1,604,828
---------------------
Gross margin 743,406
Selling, general and administrative expenses 585,934
---------------------
Income from operations 157,472
Other income (expense):
Interest expense (5,481)
Interest income 9,905
Other income 11,422
---------------------
15,846
---------------------
Income before taxes 173,318
Provision (benefit) for income tax:
Current 76,997
Deferred (14,227)
---------------------
Total income taxes 62,770
---------------------
Net income $ 110,548
=====================
</TABLE>
See accompanying notes.
F-32
<PAGE> 35
Climate Control, Inc.
Statement of Stockholder's Equity
<TABLE>
<CAPTION>
Common Stock
$100 Par Value Retained
Shares Amount Earnings Total
-------------------------------------------------------
<S> <C> <C> <C> <C>
Balance at January 1, 1997 39 $3,900 $297,594 $301,494
Capital distributions -- (3,000) (3,000)
Net income -- -- $110,548 $110,548
-------------------------------------------------------
Balance at December 31, 1997 39 $3,900 $405,142 $409,042
=======================================================
</TABLE>
See accompanying notes.
F-33
<PAGE> 36
Climate Control, Inc.
Statement of Cash Flows
<TABLE>
<CAPTION>
Year Ended
December 31, 1997
-------------------
<S> <C>
OPERATING ACTIVITIES
Net income $ 110,548
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 43,328
Benefit for deferred income taxes (14,227)
Provision for loss on accounts receivable 9,137
Changes in assets and liabilities:
Accounts receivable (35,749)
Inventories (1,874)
Prepaid expenses and other current assets (6,856)
Trade accounts payable and accrued liabilities 32,341
Accrued compensation 2,950
Accrued warranties 5,507
Deferred revenue 7,688
Income taxes payable 61,373
Costs and estimated earnings in excess of billings and
billings in excess of costs and estimated earnings (2,558)
-------------------
Net cash provided by operating activities 211,608
INVESTING ACTIVITIES
Purchase of property and equipment (38,433)
Collections on notes receivable -- stockholder 9,321
-------------------
Net cash used in investing activities (29,112)
FINANCING ACTIVITIES
Distribution to stockholder (3,000)
Payments on long-term debt (39,788)
Proceeds from long-term debt 10,050
-------------------
Net cash used in financing activities (32,738)
Increase in cash 149,758
Cash at beginning of year 114,906
-------------------
Cash at end of year $ 264,664
===================
Supplemental cash flow information
Interest paid $ 5,481
===================
Income taxes paid $ 9,450
===================
</TABLE>
See accompanying notes.
F-34
<PAGE> 37
Climate Control, Inc.
Notes to Financial Statements
December 31, 1997
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
REPORTING ENTITY
Climate Control, Inc. (the "Company") operates in one industry segment and is
primarily engaged in the installation and servicing of air conditioning and
heating systems for commercial and residential customers in the Mobile,
Alabama area.
RECOGNITION OF REVENUE
Revenue on all of the Company's heating and air conditioning installation
contracts for commercial buildings ("Commercial Contracts") is recognized on the
percentage-of-completion method in the ratio that total incurred costs bear to
total estimated costs. Revenue on all of the Company's contracts for residential
installation and service and maintenance revenue are recognized upon completion
of the services, which is usually within one to two days.
F-35
<PAGE> 38
Climate Control, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
RECOGNITION OF REVENUE (CONTINUED)
Earnings and estimated costs on Commercial Contracts are reviewed throughout the
terms of the Commercial Contracts, and any required adjustments are reflected in
the periods in which they first become known. When estimates indicate a probable
loss on a Commercial Contract, the full amount thereof is accrued in the period
in which it is first determined. Most Commercial Contracts are completed within
six to 12 months.
Trade accounts receivable includes billings and billed retainage on Commercial
Contracts. Trade accounts receivable also includes unbilled retainage of
approximately $3,600 at December 31, 1997. The Company classifies these amounts
as current assets because all balances are expected to be collected in the
current year.
The asset, "cost and estimated earnings in excess of billings," represents
revenue recognized in excess of amounts billed on in-progress contracts. The
liability, "billings in excess of costs and estimated earnings," represents
billings in excess of revenue recognized on in-progress contracts.
FAIR VALUE OF FINANCIAL INSTRUMENTS
Cash
The carrying amount reported in the balance sheet for cash approximates fair
value.
Accounts Receivable, Notes Receivable, Notes Payable, and Accounts Payable and
Accrued Liabilities
The carrying amounts reported in the balance sheet for accounts receivable,
notes receivable, notes payable, and accounts payable and accrued liabilities
approximate fair value. Accounts receivable are generally unsecured.
F-36
<PAGE> 39
Climate Control, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
CONCENTRATIONS AND CREDIT RISKS
At times, cash balances in the Company's accounts may exceed FDIC insurance
limits.
At December 31, 1997, the Company had approximately $165,000 on deposit with a
bank in excess of FDIC insurance limits.
The Company primarily purchases HVAC units and parts from Air Engineers LLC,
Mobile Supply Company, and RESCO, Inc. Total purchases of equipment and parts
from these suppliers during 1997 totaled approximately $800,000.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
During the year ended December 31, 1997, amounts charged to bad debt expense
totaled approximately $9,100, and accounts written off, net of recoveries
totaled approximately $6,500.
INVENTORIES
Inventories are stated at cost, which is not in excess of market. Cost is
determined by the first-in, first-out (FIFO) method for all inventories.
F-37
<PAGE> 40
Climate Control, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
PROPERTY AND EQUIPMENT
Property and equipment are stated on the basis of cost. Depreciation and
amortization are provided on the straight-line method over the following useful
lives:
<TABLE>
<CAPTION>
YEARS
----------------
<S> <C>
Furniture and fixtures 5-7
Machinery and equipment 7
Vehicles 5
Leasehold Improvements 10
</TABLE>
LONG-LIVED ASSETS
Statement of Financial Accounting Standards ("SFAS") No. 121, "Accounting for
the Impairment of Long-lived Assets and for Long-lived Assets to be Disposed
Of," requires that companies consider whether indicators of impairment of
long-lived assets held for use are present. If such indicators are present,
companies determine whether the sum of the estimated undiscounted future cash
flows attributable to such assets is less than their carrying amount, and if so,
companies recognize an impairment loss based on the excess of the carrying
amount of the assets over their fair value. Accordingly, management periodically
evaluates the ongoing value of property and equipment and has determined that
there were no indications of impairment as of December 31, 1997.
F-38
<PAGE> 41
Climate Control, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
DEFERRED REVENUE
The Company pre-sells maintenance contracts in the form of extended service
agreements ("ESA"). ESA revenue is recorded as deferred revenue and recognized
as income when the service is performed.
WARRANTIES
The Company generally provides the retail customer with a one year warranty on
parts and labor from the date of installation of the heating and air
conditioning unit. This warranty runs concurrent with the manufacturer's
warranty on parts. The Company provides an accrual for future warranty costs
based upon the relationship of prior years' sales to actual warranty costs. It
is the Company's practice to classify the entire warranty accrual as a current
liability.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
INCOME TAXES
The Company uses the liability method of accounting for federal and state income
taxes as provided by SFAS No. 109, "Accounting for Income Taxes." Under the
liability method, the deferred tax liability or asset is based on temporary
differences between the financial statement and income tax bases of assets and
liabilities, measured at tax rates that will be in effect when the differences
reverse.
F-39
<PAGE> 42
Climate Control, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
ADVERTISING COSTS
The Company expenses advertising costs as incurred. During 1997, the Company
expensed approximately $12,900.
NEWLY ISSUED ACCOUNTING STANDARDS
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income."
SFAS No. 130 establishes standards for reporting and displaying comprehensive
income and its components in a full set of general purpose financial statements.
SFAS No. 130 is effective for interim and annual periods beginning after
December 15, 1997. Comprehensive income encompasses all changes in stockholders'
equity (except those arising from transactions from owners) and includes net
income, net unrealized capital gains or losses on available for sale securities
and foreign currency translation adjustments. The adoption of SFAS No. 130 is
not expected to have an effect on the Company's financial statements.
F-40
<PAGE> 43
Climate Control, Inc.
Notes to Financial Statements (continued)
2. CONTRACTS IN PROCESS
Information relative to contracts in process is as follows:
<TABLE>
<CAPTION>
December 31,
1997
---------------------
<S> <C>
Contracts on the percentage-of-completion method:
Expenditures on uncompleted contacts $ 42,911
Estimated earnings 25,551
---------------------
68,462
Less applicable billings 61,493
---------------------
$ 6,969
=====================
Included in the accompanying balance sheet under
the following captions:
Costs and estimated earnings in excess of billings
on uncompleted contracts $ 6,969
Billings in excess of costs and estimated earnings
on uncompleted contracts --
---------------------
$ 6,969
=====================
</TABLE>
Progress billings on contracts bear a relation to costs incurred, but are not
indicative of the ultimate profit or loss on a contract.
F-41
<PAGE> 44
Climate Control, Inc.
Notes to Financial Statements (continued)
3. DEBT
Debt consists of:
<TABLE>
<CAPTION>
December 31,
1997
---------------------
<S> <C>
Installment and equipment notes $ 24,576
Less current portion 15,002
---------------------
$ 9,574
=====================
</TABLE>
The Company has various installment and equipment loans to various lenders which
are secured by vehicles and equipment. These loans bear interest at various
fixed rates ranging from 7.5% to 9.2% per annum. These loans require monthly
payments ranging from $312 to $501 and are due through March 2000.
As of December 31, 1997, the aggregate amounts of annual principal maturities of
long-term debt are as follows:
<TABLE>
<S> <C>
1998 $ 15,002
1999 8,702
2000 872
Thereafter --
--------------
$ 24,576
==============
</TABLE>
F-42
<PAGE> 45
Climate Control, Inc.
Notes to Financial Statements (continued)
4. EMPLOYEE BENEFIT PLANS
The Company has a defined-contribution employee benefit plan incorporating
provisions of Section 401(k) of the Internal Revenue Code. Substantially all
employees of the Company are eligible to participate in the plan. Under the
plan's provisions, a plan member may make contributions, on a tax deferred
basis, not to exceed the maximum established by the Internal Revenue Service.
The Company provides no matching contributions but may make discretionary
contributions. The Company made discretionary contributions from profits of
$30,000 in 1997.
5. COMMITMENTS AND CONTINGENT LIABILITIES
The Company maintains general liability insurance coverage and umbrella policies
to insure itself against any liabilities occurring in the normal course of
business. The Company believes that its insurance coverage is adequate.
F-43
<PAGE> 46
Climate Control, Inc.
Notes to Financial Statements (continued)
6. INCOME TAXES
Income tax expense (benefit) consists of the following at December 31, 1997:
<TABLE>
<CAPTION>
December 31,
1997
----------------
<S> <C>
Current:
Federal $ 65,850
State 11,147
Deferred (14,227)
----------------
$ 62,770
================
</TABLE>
Significant components of the deferred tax assets and liabilities as of December
31, 1997, are as follows:
<TABLE>
<S> <C>
Deferred tax liabilities:
Deferred revenue $ 1,208
Depreciation and amortization 440
----------------
Total deferred tax liabilities 1,648
Deferred tax assets:
Accounts receivable 3,106
Compensation and warranty reserves 7,201
Accrued expense 16,382
----------------
Total gross deferred tax assets 26,689
Valuation allowance --
----------------
Deferred tax assets 26,689
----------------
Net deferred tax assets $ 25,041
================
</TABLE>
Management has evaluated the need for a valuation allowance against all or a
portion of the deferred tax assets and determined that the deferred tax assets
will likely be realized through future pretax book income. Accordingly, no
valuation allowance has been recorded at December 31, 1997.
The provision for income taxes differs from the amounts computed by applying the
statutory federal income tax rate of 34% to income before income taxes. The
differences are summarized as follows:
<TABLE>
<CAPTION>
December 31,
1997
--------------------
<S> <C>
Tax provision at statutory rate $ 58,928
State income tax less applicable federal tax benefit 6,098
Nondeductible expenses 3,904
Effect of graduated tax rates (6,160)
--------------------
$ 62,770
====================
</TABLE>
F-44
<PAGE> 47
Climate Control, Inc.
Notes to Financial Statements (continued)
7. RELATED PARTY TRANSACTIONS
The Company leases its office facility on a month to month basis from a
partnership of which the stockholder is a 50% owner. Rental payments of $24,864
related to this lease were made in the year ended December 31, 1997.
8. IMPACT OF YEAR 2000 (UNAUDITED)
The Year 2000 issue is the result of computer programs being written using two
digits rather than four to define the applicable year. Any of the Company's
computer programs that have time sensitive software may recognize a date using
"00" as the year 1900 rather than the year 2000. This could result in a system
failure or miscalculations causing disruptions of operations, including, among
other things, a temporary inability to process transactions, send invoices, or
engage in similar normal business activities.
The Company has completed an assessment and implemented a plan which will
include testing, modifying and replacing portions of its software so that its
computer systems will function properly with respect to dates in the Year 2000
and thereafter. According to management estimates, the total Year 2000 project
cost will not materially affect the operating results or the financial position
of the Company.
The planned project is estimated to be completed not later than June 30, 1999,
which is prior to any anticipated impact on its operating systems. The Company
believes that with modifications to existing software and conversions to new
software, the Year 2000 issue will not pose significant operational problems for
its computer systems. However, if such modifications and conversions are not
made or are not completed in a timely manner, the Year 2000 issue could have a
material effect on the operations of the Company.
If the steps taken by the Company and its material vendors and business partners
to be Year 2000 compliant are not successful, the Company would likely
experience various operational difficulties resulting in a material adverse
effect upon the Company's financial condition and results of operations. These
could include, among other things, processing transactions to an incorrect
accounting period, difficulties in posting general ledger entries and lapses of
service by vendors. If the Company's plan to install new systems which
effectively address the Year 2000 issue is not successfully or timely
implemented, the Company may need to devote more resources to the process and
additional costs may be incurred. The Company believes that the Year 2000 issue
is being appropriately addressed and does not expect the Year 2000 issue to have
a material adverse effect on the financial position, results of operations or
cash flows of the Company in future periods.
F-45
<PAGE> 48
Climate Control, Inc.
Notes to Financial Statements (continued)
The Company currently does not have a contingency plan to address the failure of
the Company's IT or non-IT systems or the systems of material third parties to
be Year 2000 compliant. Should the remaining review of the Company's Year 2000
risks reveal potentially non-compliant computer systems or material third party
risks, contingency plans will be developed to address the deficiencies revealed
at that time.
9. SUBSEQUENT EVENT
Subsequent to year end, the Company signed an Agreement and Plan of Merger with
Service Experts, Inc. ("Service Experts"). In accordance with the Agreement and
Plan of Merger, the Company merged with and into a wholly-owned subsidiary of
Service Experts effective February 1, 1998.
In connection with the business combination of the Company with Service Experts,
Service Experts paid all debt outstanding.
F-46
<PAGE> 49
Report of Independent Auditors
The Stockholder of
Epperson, Inc.
We have audited the accompanying balance sheet of Epperson, Inc. as of December
31, 1997, and the related statements of income, stockholder's equity, and
cash flows for the year ended December 31, 1997. 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 audit.
We conducted our audit 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 audit provides 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 Epperson, Inc. at December 31,
1997, and the results of its operations and its cash flows for the year ended
December 31, 1997, in conformity with generally accepted accounting principles.
/s/ Ernst & Young LLP
Nashville, Tennessee
December 7, 1998
F-47
<PAGE> 50
Epperson, Inc.
Balance Sheets
<TABLE>
<CAPTION>
December 31, June 30,
1997 1998
-------- --------
(Unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash $ 23,455 $257,829
Accounts receivable:
Trade, net of allowance for doubtful accounts of $9,364
and $9,736 at December 31, 1997 and June 30, 1998,
respectively 198,745 254,859
Stockholder 121,252 135,115
Employee 2,315 1,441
Other 8,477 -0-
-------- --------
330,789 391,415
Inventories 87,726 84,023
Costs and estimated earnings in excess of billings 10,114 24,751
Deferred income taxes 38,108 47,843
-------- --------
Total current assets 490,192 805,861
Property and equipment:
Furniture and fixtures 54,833 54,833
Machinery and equipment 32,270 32,270
Vehicles 98,380 98,380
Leasehold improvements 1,535 5,428
-------- --------
187,018 190,911
Less accumulated depreciation and amortization 155,297 160,349
-------- --------
31,721 30,562
Deposits 225 225
-------- --------
Total assets $522,138 $836,648
======== ========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Line of credit $ 12,000 $ --
Trade accounts payable and accrued liabilities 101,922 210,271
Accrued taxes other than income 4,887 8,681
Accrued compensation 10,047 33,353
Accrued warranties 32,757 36,222
Income taxes payable -0- 74,026
Deferred revenue 95,036 106,415
Current portion of long-term debt 9,685 6,938
-------- --------
Total current liabilities 266,334 475,906
Deferred income taxes 4,531 4,985
Long-term debt, net of current 3,514 567
-------- --------
Total liabilities 274,379 481,458
Stockholder's equity:
Common stock, no par value, 100,000 shares authorized, 15,475
shares issued and outstanding 15,475 15,475
Retained earnings 232,284 339,715
-------- --------
Total stockholder's equity 247,759 355,190
-------- --------
Total liabilities and stockholder's equity $522,138 $836,648
======== ========
</TABLE>
See accompanying notes.
F-48
<PAGE> 51
Epperson, Inc.
Statements of Income
<TABLE>
<CAPTION>
Year Ended Six Months
December 31, Ended June 30,
1997 1998
----------- -----------
(Unaudited)
<S> <C> <C>
Net revenue $ 2,294,764 $ 1,440,256
Cost of goods sold 1,647,906 921,756
----------- -----------
Gross margin 646,858 518,500
Selling, general and administrative expenses 629,061 336,357
----------- -----------
Income from operations 17,797 182,143
Other income (expense):
Interest expense (7,757) (5,486)
Interest income 214 503
Other income 16,006 422
----------- -----------
(8,463) (4,561)
----------- -----------
Income before taxes 26,260 177,582
Provision (benefit) for income tax:
Current -- 79,432
Deferred 17,923 (9,281)
----------- -----------
Total income taxes 17,923 70,151
----------- -----------
Net income $ 8,337 $ 107,431
=========== ===========
</TABLE>
See accompanying notes.
F-49
<PAGE> 52
Epperson, Inc.
Statement of Stockholder's Equity
<TABLE>
<CAPTION>
Common Stock
No Par Value Retained
Shares Amount Earnings Total
--------------------------------------------------
<S> <C> <C> <C> <C>
Balance at January 1, 1997 15,475 $15,475 $223,947 $239,422
Net income -- -- 8,337 8,337
--------------------------------------------------
Balance at December 31, 1997 15,475 15,475 232,284 247,759
Net income (unaudited) -- -- 107,431 107,431
--------------------------------------------------
Balance at June 30, 1998 (unaudited) 15,475 $15,475 $339,715 $355,190
==================================================
</TABLE>
See accompanying notes.
F-50
<PAGE> 53
Epperson, Inc.
Statements of Cash Flows
<TABLE>
<CAPTION>
Year Ended Six Months Ended
December 31, June 30,
1997 1998
--------------------------------------------
(Unaudited)
<S> <C> <C>
OPERATING ACTIVITIES
Net income $ 8,337 $ 107,431
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization 20,669 5,052
(Benefit) provision for deferred income taxes 17,923 (9,281)
Provision for loss on accounts receivable 7,062 (697)
Gain on asset disposals (14,789) --
Changes in assets and liabilities:
Accounts receivable (29,236) (59,929)
Inventories 66,281 3,703
Prepaid expenses and other current assets 4,000 --
Trade accounts payable and accrued liabilities (67,988) 83,598
Accrued compensation (3,501) 23,306
Accrued taxes, other than income 2,984 3,794
Accrued warranties (3,212) 3,465
Deferred revenue 39,414 11,379
Income taxes payable -- 74,026
Costs and estimated earnings in excess of billings (21,665) 10,114
--------------------------------------------
Net cash provided by operating activities 26,279 255,961
INVESTING ACTIVITIES
Purchases of property and equipment (7,875) (3,893)
Proceeds from sale of property and equipment 67,060 --
--------------------------------------------
Net cash (used in) provided by investing activities 59,185 (3,893)
FINANCING ACTIVITIES
Payments on long-term debt (69,182) (5,694)
Borrowings under line of credit 30,000 --
Repayments on line of credit (45,241) (12,000)
--------------------------------------------
Net cash used in financing activities (84,423) (17,694)
Increase in cash and cash equivalents 1,041 234,374
Cash and cash equivalents at beginning of period 22,414 23,455
--------------------------------------------
Cash and cash equivalents at end of period $ 23,455 $ 257,829
============================================
SUPPLEMENTAL CASH FLOW INFORMATION:
Interest paid $ 1,636 $ 5,062
============================================
Income taxes paid $ 4,820 $ --
============================================
</TABLE>
See accompanying notes.
F-51
<PAGE> 54
Epperson, Inc.
Notes to Financial Statements
December 31, 1997
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
REPORTING ENTITY
Epperson, Inc. (the "Company") operates in one industry segment and is primarily
engaged in the installation and servicing of air conditioning and heating
systems for commercial and residential customers in the Hilton Head Island,
South Carolina, area.
UNAUDITED INTERIM FINANCIAL STATEMENTS
The balance sheet as of June 30, 1998 and the related statements of income,
stockholder's equity, and cash flows for the six months then ended (interim
financial statements) have been prepared by the Company's management and are
unaudited. The interim financial statements include all adjustments, consisting
of only normal recurring adjustments, necessary for a fair presentation of the
interim results.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted from the interim financial statements. The
interim financial statements should be read in conjunction with the December 31,
1997 audited financial statements appearing herein. The results of the six
months ended June 30, 1998 may not be indicative of operating results for the
full year.
RECOGNITION OF REVENUE
Revenue on the Company's heating and air conditioning installation contracts
for commercial buildings ("Commercial Contracts") is recognized on the
percentage-of-completion method in the ratio that total incurred costs bear to
total estimated costs. Revenue from residential installations and service and
maintenance revenue are recognized upon completion of the services, which is
usually within one to two days.
Earnings and estimated costs on Commercial Contracts are reviewed throughout the
terms of the Commercial Contracts, and any required adjustments are reflected in
the periods in which they first become known. When estimates indicate a probable
loss on a Commercial Contract, the full amount thereof is accrued in the period
in which it is first determined. Most Commercial Contracts are completed within
six to 12 months.
F-52
<PAGE> 55
Epperson, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
RECOGNITION OF REVENUE (CONTINUED)
Trade accounts receivable do not include billed retainage on Commercial
Contracts.
The asset, "cost and estimated earnings in excess of billings", represents
revenue recognized in excess of amounts billed on in-progress contracts.
FAIR VALUE OF FINANCIAL INSTRUMENTS
Cash
The carrying amount reported in the balance sheet for cash approximates fair
value.
Accounts Receivable, Notes Payable, Accounts Payable, and Accrued Liabilities
The carrying amounts reported in the balance sheet for accounts receivable,
notes payable, accounts payable, and accrued liabilities approximate fair value.
Accounts receivable are generally unsecured.
CONCENTRATIONS OF CREDIT
At times, cash balances in the Company's accounts may exceed FDIC insurance
limits. At December 31, 1997, the Company had no deposit in excess of FDIC
insurance limits.
The Company primarily purchases HVAC units and parts from Apex and Baker
Bros. Total purchases of equipment and parts from these suppliers during 1997
totaled approximately $680,000.
F-53
<PAGE> 56
Epperson, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
ALLOWANCE FOR DOUBTFUL ACCOUNTS
During the year ended December 31, 1997, amounts charged to bad debt expense
totaled $7,062, and accounts written off, net of recoveries, totaled $9,111.
INVENTORIES
Inventories are stated at cost, which is not in excess of market. Cost is
determined by the first-in, first-out (FIFO) method for all inventories.
PROPERTY AND EQUIPMENT
Property and equipment are stated on the basis of cost. Depreciation and
amortization are provided on the straight-line method and declining-balance
methods over the following useful lives:
<TABLE>
<CAPTION>
YEARS
--------------------
<S> <C>
Furniture and fixtures 7
Machinery and equipment 5
Vehicles 5
Leasehold improvements 5
</TABLE>
LONG-LIVED ASSETS
Statement of Financial Accounting Standards ("SFAS") No. 121, "Accounting for
the Impairment of Long-lived Assets and for Long-lived Assets to be Disposed
Of", requires that companies consider whether indicators of impairment of
long-lived assets held for use are present. If such indicators are present,
companies determine whether the sum of the estimated undiscounted future cash
flows attributable to such assets is less than their carrying amount, and if so,
companies recognize an impairment loss based on the excess of the carrying
amount of the assets over their fair value. Accordingly, management periodically
evaluates the ongoing value of property and equipment and has determined that
there were no indications of impairment as of December 31, 1997.
F-54
<PAGE> 57
Epperson, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
DEFERRED REVENUE
The Company pre-sells maintenance contracts in the form of extended service
agreements ("ESA"). ESA revenue is recorded as deferred revenue and recognized
as income when the service is performed.
WARRANTIES
The Company generally provides the retail customer with a one year warranty on
parts and labor from the date of installation of the heating and air
conditioning unit. This warranty runs concurrent with the manufacturer's
warranty on parts. The Company provides an accrual for future warranty costs
based upon the relationship of prior years' sales to actual warranty costs. It
is the Company's practice to classify the entire warranty accrual as a current
liability.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
INCOME TAXES
The Company uses the liability method of accounting for federal and state income
taxes as provided by SFAS No. 109, "Accounting for Income Taxes." Under the
liability method, the deferred tax liability or asset is based on temporary
differences between the financial statement and income tax basis of assets and
liabilities, measured at tax rates that will be in effect when the differences
reverse.
F-55
<PAGE> 58
Epperson, Inc.
Notes to Financial Statements (continued)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
ADVERTISING COSTS
The Company expenses advertising costs as incurred. During 1997, the Company
incurred approximately $52,000 of advertising expense.
NEWLY ISSUED ACCOUNTING STANDARDS
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income."
SFAS No. 130 establishes standards for reporting and displaying comprehensive
income and its components in a full set of general purpose financial statements.
SFAS No. 130 is effective for interim and annual periods beginning after
December 15, 1997. Comprehensive income encompasses all changes in shareholders'
equity (except those arising from transactions from owners) and includes net
income, net unrealized capital gains or losses on available for sale securities
and foreign currency translation adjustments. The adoption of SFAS No. 130 did
not have an effect on the Company's financial statements.
2. CONTRACTS IN PROCESS
Information relative to contracts in process is as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
1997
---------------------
<S> <C>
Contracts on the percentage-of-completion method:
Expenditures on uncompleted contracts $ 92,179
Estimated earnings 47,184
---------------------
139,363
Less applicable billings 129,249
---------------------
$ 10,114
=====================
Included in the accompanying balance sheet under the following captions:
Costs and estimated earnings in excess of billings on uncompleted contracts $ 10,114
=====================
</TABLE>
Progress billings on contracts bear a relation to costs incurred, but are not
indicative of the ultimate profit or loss on a contract.
F-56
<PAGE> 59
Epperson, Inc.
Notes to Financial Statements (continued)
3. DEBT
The Company has various installment and equipment loans to various lenders which
are secured by vehicles and equipment. These loans bear interest at variable
rates ranging from 9.73% to 10.75% at December 31, 1997. These loans require
monthly payments ranging from $340 to $567 and are due through August 1999.
As of December 31, 1997, the aggregate amounts of annual principal maturities of
long-term debt are as follows:
<TABLE>
<S> <C>
1998 $ 9,685
1999 3,514
Thereafter --
---------------------
$13,199
=====================
</TABLE>
The Company has a line of credit with a financial institution with a total
borrowing limit of $50,000, of which $12,000 was outstanding at December 31,
1997 at a fixed interest rate of 9.5%. The line of credit is secured by all of
the Company's assets. The line of credit was repaid and not renewed upon the
acquisition of the Company by Service Experts, Inc. ("Service Experts")
(see note 10).
F-57
<PAGE> 60
Epperson, Inc.
Notes to Financial Statements (continued)
4. LEASES
The Company leases certain vehicles, equipment, and office and warehouse
facilities under terms of noncancelable operating lease agreements which expire
at various dates through July 2002. Minimum rental commitments at December 31,
1997 under operating leases having an initial noncancelable term of one year or
more are as follows:
<TABLE>
<CAPTION>
Operating
Leases
--------------------
<S> <C>
1998 $ 29,713
1999 22,378
2000 21,247
2001 13,688
2002 6,805
Thereafter --
--------------------
$ 93,831
====================
</TABLE>
Total rental expense for all operating leases was $30,470 for 1997.
5. EMPLOYEE BENEFIT PLANS
The Company has a defined-contribution employee benefit plan incorporating
provisions of Section 401(k) of the Internal Revenue Code. Substantially all
employees of the Company are eligible to participate in the plan. Under the
plan's provisions, a plan member may make contributions, on a tax deferred
basis, not to exceed the maximum established by the Internal Revenue Service.
The Company provides matching contributions of 50% of total contributions by a
plan member, to a maximum of the lesser of 6% of the employee's total calendar
year compensation or $500 per employee. The Company's matching contributions
totaled $5,243 for 1997.
6. COMMITMENTS AND CONTINGENT LIABILITIES
The Company maintains general liability insurance coverage and umbrella policies
to insure itself against any liabilities occurring in the normal course of
business. The Company believes that its insurance coverage is adequate.
F-58
<PAGE> 61
Epperson, Inc.
Notes to Financial Statements (continued)
7. INCOME TAXES
Income tax expense consists of the following at December 31, 1997:
<TABLE>
<CAPTION>
December 31,
1997
------------------
<S> <C>
Current:
Federal $ --
State --
Deferred 17,923
------------------
$ 17,923
==================
</TABLE>
Significant components of the deferred tax assets and liabilities as of December
31, 1997, are as follows:
<TABLE>
<S> <C>
Deferred tax liabilities:
Depreciation and amortization $ 4,531
Deferred tax assets:
Accounts receivable 3,493
Compensation and warranty reserves 14,902
Deferred revenue & accrued expenses 19,713
-------------------
Total gross deferred tax assets 38,108
Valuation allowance --
-------------------
Deferred tax assets 38,108
-------------------
Net deferred tax assets $ 33,577
===================
</TABLE>
Management has evaluated the need for a valuation allowance for all or a portion
of the deferred tax assets and believes that the deferred tax assets will likely
be realized from taxable income resulting from reversing temporary differences
and future pretax book income. Accordingly, no valuation allowance has been
recognized for the year ended December 31, 1997.
F-59
<PAGE> 62
Epperson, Inc.
Notes to Financial Statements (continued)
7. INCOME TAXES (CONTINUED)
The provision for income taxes differs from the amounts computed by applying the
statutory federal income tax rate of 34% to income before income taxes. The
differences are summarized as follows:
<TABLE>
<CAPTION>
December 31,
1997
-------------------
<S> <C>
Tax provision at statutory rate $ 8,928
State income tax less applicable federal tax benefit 1,565
Nondeductible expenses 7,430
-------------------
$ 17,923
===================
</TABLE>
F-60
<PAGE> 63
Epperson, Inc.
Notes to Financial Statements (continued)
8. RELATED PARTY TRANSACTIONS
The Company leases its office facility from its stockholder. Rental payments of
$20,100 related to this lease were made in the year ended December 31, 1997.
9. IMPACT OF YEAR 2000 (UNAUDITED)
The Year 2000 issue is the result of computer programs being written using two
digits rather than four to define the applicable year. Any of the Company's
computer programs that have time sensitive software may recognize a date using
"00" as the year 1900 rather than the year 2000. This could result in a system
failure or miscalculations causing disruptions of operations, including, among
other things, a temporary inability to process transactions, send invoices, or
engage in similar normal business activities.
The Company has completed an assessment and implemented a plan which will
include testing, modifying and replacing portions of its software so that its
computer systems will function properly with respect to dates in the Year 2000
and thereafter. According to management estimates, the total Year 2000 project
cost will not materially affect the operating results or the financial position
of the Company.
The planned project is estimated to be completed not later than June 30, 1999,
which is prior to any anticipated impact on its operating systems. The Company
believes that with modifications to existing software and conversions to new
software, the Year 2000 issue will not pose significant operational problems for
its computer systems. However, if such modifications and conversions are not
made or are not completed in a timely manner, the Year 2000 issue could have a
material effect on the operations of the Company.
If the steps taken by the Company and its material vendors and business partners
to be Year 2000 compliant are not successful, the Company would likely
experience various operational difficulties resulting in a material adverse
effect upon the Company's financial condition and results of operations. These
could include, among other things, processing transactions to an incorrect
accounting period, difficulties in posting general ledger entries and lapses of
service by vendors.
F-61
<PAGE> 64
Epperson, Inc.
Notes to Financial Statements (continued)
9. IMPACT OF YEAR 2000 (UNAUDITED) (CONTINUED)
If the Company's plan to install new systems which effectively address the Year
2000 issue is not successfully or timely implemented, the Company may need to
devote more resources to the process and additional costs may be incurred. The
Company believes that the Year 2000 issue is being appropriately addressed and
does not expect the Year 2000 issue to have a material adverse effect on the
financial position, results of operations or cash flows of the Company in future
periods.
The Company currently does not have a contingency plan to address the failure of
the Company's IT or non-IT systems or the systems of material third parties to
be Year 2000 compliant. Should the remaining review of the Company's Year 2000
risks reveal potentially non-compliant computer systems or material third party
risks, contingency plans will be developed to address the deficiencies revealed
at that time.
10. SUBSEQUENT EVENT
Subsequent to year end, the Company signed an Agreement and Plan of Merger with
Service Experts. In accordance with the Agreement and Plan of Merger, the
Company merged with and into a wholly-owned subsidiary of Service Experts
effective July 1, 1998.
In connection with the business combination of the Company with Service Experts,
Service Experts paid all notes payable outstanding.
F-62
<PAGE> 65
PRO FORMA COMBINED FINANCIAL STATEMENTS OF
SERVICE EXPERTS, INC.
Service Experts, Inc. (the "Company") was incorporated on March 27, 1996.
The Company operates in one industry segment and is primarily engaged in the
replacement and servicing of HVAC units for residential and commercial
customers. The Company has Service Centers located in cities across the United
States. The operations of the Company's subsidiaries other than Pooled Companies
(as defined below) have been included in the Company's financial statements from
their respective effective dates of acquisition. The Company's historical
financial statements have been restated for all periods presented by including
the historical results of the 1997 Pooled Companies and the 1998 Pooled Company
(see Table I).
The following unaudited pro forma combined financial statements give effect
to the acquisition by the Company of 43 Acquired Companies (as defined below)
in exchange for shares of the Company's Common Stock, cash, warrants to purchase
shares of Common Stock, convertible subordinated notes and the assumption of
certain debt.
The unaudited pro forma combined balance sheet as of September 30, 1998
gives effect to the acquisition of 17 Acquired Companies closed effective after
September 30, 1998 (see Table I). The unaudited pro forma combined statement of
income for the nine months ended September 30, 1998 gives effect to the
acquisition of 26 Acquired Companies closed effective during the nine month
period ended September 30, 1998 (see Table I), and the 17 Acquired Companies
which were closed effective after September 30, 1998 as if such transactions had
occurred as of January 1, 1998. The unaudited pro forma combined statement of
income for the 12 months ended December 31, 1997 gives effect to the acquisition
of the 1997 and 1998 Pooled Companies as described below, 32 Acquired Companies
closed during 1997 (see Table I), the 26 Acquired Companies closed effective
during the nine month period ended September 30, 1998 and the 17 Acquired
Companies closed effective after September 30, 1998 as if such transactions had
occurred on January 1, 1997.
TABLE I
The 1997 Pooled Companies
*1. C. Iapaluccio Company, Inc.
2. Hawk Heating & Air Conditioning, Inc.
*3. TML, Inc.
*4. Parrott Mechanical, Inc.
5. McAlister Heat & Air, Inc.
The 1998 Pooled Company
*1. Dodge Heating and Air Conditioning, Inc., et al. and
DH&A, Inc.
17 Acquired Companies closed subsequent to September 30, 1998
*1. Climate Design Systems, Inc.
2. Eveready Corporation
3. Austin Brothers, Inc.
4. Womack - O'Bannon, Inc.
*5. Womack - O'Bannon & Choco, Inc.
*6. Ben Peer Heating, Inc.
*7. PTM Enterprises, Inc.
8. Jansen's Heating & Air Conditioning, Inc.
9. Local Furnance Co., Inc.
10. R&M Climate Control, Incorporated
11. Climate Masters Service Company, Inc.
12. McPhee, Inc.
13. Shelburne Refrigeration, Inc.
14. 1st Call Heating & Cooling, Inc.
15. Bill's Commerical Air Conditioning, Inc.
16. FRAS Air Conditioning, Inc.
17. Gregory's Plumbing Co., Inc.
F-63
<PAGE> 66
26 Acquired Companies closed during the nine month period ended
September 30, 1998
*1. Gulf Coast Cooling, Inc.
2. Jack Nelson Co., Inc.
3. Dan Jacobs Heating & Cooling, Inc.
4. Becht Heating & Cooling, Inc.
*5. Davis the Plumber, Inc.
6. Lee Voisard Plumbing & Heating, Inc.
*7. Climate Control, Inc.
8. Triton Mechanical, Inc.
*9. Strand Brothers, Inc.
10. Astron Residential, Inc.
11. Doler Plumbing & Heating, Inc.
12. Atlantic Air Conditioning and Heating, Inc.
*13. Steel City Heating & Air, Inc.
14. Deland Heating & Air Conditioning Company
15. Kozon, Inc.
16. Royden Commercial Services, Inc.
17. Albritten Plumbing Heating and Air Conditioning, Inc.
18. Alert Heating Service, Inc.
19. Russell Mechanical, Inc.
20. Andros Refrigeration, Inc.
*21. Epperson, Inc.
*22. Midland Heating & Air Conditioning, Inc.
23. Economy Heating and Air Conditioning, Inc.
24. Mathews Air Conditioning and Heating, Inc.
*25. Matz Sheet Metal Works, Inc. and Right Way Heating
and Air Conditioning Service, Inc.
26. Warshaw's Energy Savings Design, Inc.
32 Acquired Companies closed during 1997
*1. B.W. Heating & Cooling, Inc.
*2. Chief/Bauer Heating & Air Conditioning, Inc.
*3. Gaddis Co.
*4. Dial One Raymond Plumbing, Heating & Cooling, Inc.
*5. Parker Heating & Air Conditioning Incorporated
*6. Sylvester Corp.
*7. Roland J. Down, Inc.
*8. Stark Services Company, Inc.
*9. Claire's Air Conditioning and Refrigeration, Inc.
*10. Claire & Sanders, Inc.
*11. Piedmont Air Conditioning Company
12. Royden, Inc.
13. Superior Air Conditioning, Inc.
*14. ProAir Services, Inc.
*15. Artic Aire of Chico, Inc.
16. A-1 Air Conditioning, Inc.
*17. Mid Fla Heating & Air, Inc.
18. All American Air Conditioning & Heating, Inc.
19. The McElroy Service Company
20. Bill Ingraham Service Company, Inc.
*21. S & W Conditioning, Inc.
*22. Berkshire Air Conditioning Company
*23. J.M. Jenks Incorporated
*24. Teays Valley Heating and Cooling, Inc.
25. Ainsley & Son Heating, Inc.
26. Knochelmann, Inc.
27. Stanley Heating and Air Conditioning, Inc.
28. George B. Givens Company, Inc.
*29. Holmes Sales & Service, Inc.
*30. Getzschman Heating & Sheet Metal Contractors
31. Thompson and Sons Heating and Air Conditioning Company
32. Air Experts, Inc.
* Indicates that audited financial statements for the Acquired Companies
previously have been filed in a Form 8-K or Form S-4.
F-64
<PAGE> 67
The unaudited pro forma combined financial statements have been prepared by
the Company based on the historical financial statements of the Company and of
the companies referred to in Table I and certain preliminary estimates and
assumptions deemed appropriate by management of the Company. The pro forma
combined financial statements presented herein have been prepared based on
certain assumptions and include certain pro forma adjustments. The Company has
not completed all the evaluations necessary for the final purchase price
allocations related to certain of the acquired businesses; accordingly, actual
adjustments that reflect final evaluations of the purchased assets and assumed
liabilities may differ from the pro forma adjustments reflected herein.
These pro forma combined financial statements may not be indicative of
results that would have been achieved had these acquisitions occurred on the
dates indicated or of results which may be realized in the future.
The pro forma combined financial statements should be read in conjunction
with the historical financial statements of the Company.
F-65
<PAGE> 68
PRO FORMA COMBINED FINANCIAL STATEMENTS OF SERVICE EXPERTS, INC.
UNAUDITED PRO FORMA COMBINED BALANCE SHEET
SEPTEMBER 30, 1998
<TABLE>
<CAPTION>
Acquired Pro Forma Pro Forma
Company Companies Adjustments As Adjusted
-------------------------------------------------------------
(in thousands)
<S> <C> <C> <C> <C>
Assets
Current assets:
Cash and cash equivalents............ $ 6,024 $ 2,136 $ (16,368) (a) $ 82
(1,710) (b)
10,000 (c)
Receivables:
Trade Receivables, net............. 46,454 4,470 -- 50,924
Related Party...................... 340 29 -- 369
Employee........................... 533 114 -- 647
Other.............................. 4,999 375 -- 5,374
------------ ------------- -------------- -------------
52,326 4,988 -- 57,314
Inventories 25,594 2,244 -- 27,838
Cost and estimated earnings in excess of
billings.............................. 4,885 118 -- 5,003
Prepaid expenses and other current assets 5,675 278 -- 5,953
Current portion of notes receivable 191 -- -- 191
Deferred income taxes 3,972 32 -- 4,004
------------ ------------- -------------- ------------
Total current assets....... 98,667 9,796 (8,078) 100,385
Property, buildings and equipment, net 34,940 3,409 -- 38,349
Notes receivable--related parties........ 334 2 -- 336
Notes receivable--other.................. 567 -- -- 567
Goodwill................................. 169,766 1,242 22,919 (a) 193,927
Unallocated purchase price............... -- -- --
Other assets............................. 6,889 578 -- 7,467
------------ -------------- -------------- ------------
Total assets $ 311,163 $ 15,027 $ 14,841 $ 341,031
============ ============== ============== ============
Liabilities and Stockholders Equity
Current liabilities:
Short-term debt...................... $ -- $ 104 $ (104) (b) $ --
Trade accounts payable & accrued
liabilities...................... 16,292 4,672 -- 20,964
Accrued compensation................. 8,287 207 -- 8,494
Accrued warranties................... 3,260 278 -- 3,538
Income taxes payable................. 1,118 121 -- 1,239
Deferred revenue..................... 10,295 648 -- 10,943
Deferred income taxes................ 80 -- -- 80
Billings in excess of costs and
estimated earnings............... 1,663 338 2,001
Current portion of long-term debt.... 274 470 (347) (b) 10,397
10,000 (c)
------------ ------------- --------------- -----------
Total current liabilities: 41,269 6,838 9,549 57,656
Long-term debt, and capital lease
obligations, net of current.......... 73,302 1,258 6,164 (a) 79,466
(1,258) (b)
Deferred income taxes.................... 1,875 19 1,894
Common stock......................... 171 655 (652) (a) 174
Additional paid-in-capital........... 155,424 282 7,013 (a) 162,719
Treasury stock....................... (146) 146 (a) --
Retained earnings.................... 39,122 6,121 (6,121) (a) 39,122
----------- -------------- --------------- -----------
Total stockholders'
equity................. 194,717 6,912 386 202,015
----------- -------------- --------------- -----------
Total liabilities and
stockholders' equity... $ 311,163 $ 15,027 $ 14,841 $ 341,031
=========== ============== =============== ===========
</TABLE>
See accompanying notes to Unaudited Pro Forma Combined Financial Statements.
F-66
<PAGE> 69
PRO FORMA COMBINED FINANCIAL STATEMENTS OF SERVICE EXPERTS, INC.
UNAUDITED PRO FORMA COMBINED STATEMENT OF INCOME
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998
<TABLE>
<CAPTION>
Acquired Pro Forma Pro Forma
Company Companies Adjustments Adjusted
-----------------------------------------------------------------
(in thousands, except per share data)
<S> <C> <C> <C> <C>
Net Revenue.................................... $ 293,604 $ 63,795 $ -- $ 357,399
Cost of goods sold ............................ 188,083 36,353 -- 224,436
---------- --------- ------- ----------
Gross margin .................................. 105,521 27,442 -- 132,963
Selling, general and administrative ........... 73,660 22,794 (1,980) (d) 94,474
---------- --------- ------- ----------
Income from operations ........................ 31,861 4,648 1,980 38,489
Other income (expense):
Interest expense ............................ (2,395) (243) (438) (e) (3,076)
Interest income ............................. 355 69 -- 424
Other income ................................ 483 427 -- 910
---------- --------- ------- ----------
(1,557) 253 (438) (1,742)
---------- --------- ------- ----------
Income before taxes ........................... 30,304 4,901 1,542 36,747
Provision for income taxes .................... 12,141 1,456 1,804 (f) 15,401
---------- --------- ------- ----------
Net income .................................... $ 18,163 $ 3,445 $ (262) $ 21,346
========== ========= ======= ==========
Pro forma net income per share:
Basic ....................................... $ 1.09 $ 1.23
Diluted ..................................... $ 1.07 $ 1.21
Pro forma weighted average shares outstanding:
Basic ....................................... 16,684 695 (g) 17,379
Diluted ..................................... 16,922 697 (h) 17,619
</TABLE>
See accompanying notes to Unaudited Pro Forma Combined Financial Statements.
F-67
<PAGE> 70
PRO FORMA COMBINED FINANCIAL STATEMENTS OF SERVICE EXPERTS, INC.
UNAUDITED PRO FORMA COMBINED STATEMENT OF INCOME
FOR THE YEAR ENDED DECEMBER 31, 1997
<TABLE>
<CAPTION>
Acquired Pro Forma Pro Forma
Company Companies Adjustments Adjusted
-------- --------- ----------- ---------
(in thousands, except per share data)
<S> <C> <C> <C> <C>
Net Revenue......................... $248,110 $177,807 $ -- $425,917
Cost of goods sold.................. 161,281 110,208 -- 271,489
-------- -------- -------- --------
Gross margin........................ 86,829 67,599 -- 154,428
Selling, general and administrative. 62,103 57,032 (2,674)(d) 116,461
-------- -------- -------- --------
Income from operations.............. 24,726 10,567 2,674 37,967
Other income (expense):
Interest expense.................. (772) (946) 38 (e) (1,680)
Interest income................... 793 161 -- 954
Other income...................... 578 507 -- 1,085
-------- -------- -------- --------
.................................... 599 (278) 38 359
-------- -------- -------- --------
Income before taxes................. 25,325 10,289 2,712 38,326
Provision for income taxes.......... 9,380 2,831 3,364 (f) 15,575
-------- -------- -------- --------
Net income.......................... $ 15,945 $ 7,458 $ (652) $ 22,751
======== ======== ======== ========
Pro forma net income per share:
Basic............................. $ 1.08 $ 1.35
Diluted........................... $ 1.07 $ 1.34
Pro forma weighted average shares
outstanding:
Basic............................. 14,774 2,052 (i) 16,826
Diluted........................... 14,922 2,093 (j) 17,015
</TABLE>
See accompanying notes to Unaudited Pro Forma Combined Financial Statements
F-68
<PAGE> 71
PRO FORMA COMBINED FINANCIAL STATEMENTS OF SERVICE EXPERTS, INC.
NOTES TO UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS
PRO FORMA BALANCE SHEET ADJUSTMENTS
(a) Reflects the payments to owners of 17 Acquired Companies of $16,368,000
in cash, 288,000 shares of Common Stock and $6,164,000 in convertible debt
resulting in an increase in Goodwill of $22,919,000 which is amortized over 40
years. The allocation of the purchase price associated with the acquisitions has
been determined by the Company based on available information and is subject to
further refinement.
(b) Reflects the assumed payment of all acquired outstanding debt.
(c) Reflects borrowings on line-of-credit.
<TABLE>
<CAPTION>
Twelve Months Nine Months
Ended Ended
December 31, September 30,
1997 1998
------------- -------------
(in thousands)
<S> <C> <C>
PRO FORMA STATEMENTS OF INCOME ADJUSTMENTS
(d) REFLECTS THE FOLLOWING ADJUSTMENTS TO SELLING, GENERAL, AND
ADMINISTRATIVE:
(i) Elimination of historical owners' compensation.............. $(11,256) $ (4,648)
(ii) Additional compensation relating to new agreements with
previous owners............................................. 6,926 2,862
(iii) Adjust rent expense per new leases.......................... 73 89
(iv) Corporate office overhead expenses.......................... 1,778 638
(v) Goodwill amortization....................................... 2,563 830
(vi) Elimination of general and administrative expenses.......... (2,758) (1,751)
-------- --------
$ (2,674) $ (1,980)
======== ========
</TABLE>
F-69
<PAGE> 72
PRO FORMA COMBINED FINANCIAL STATEMENTS OF SERVICE EXPERTS, INC.
NOTES TO UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
<CAPTION>
Twelve Months Nine Months
Ended Ended
December 31, September 30,
1997 1998
------------- -------------
(in thousands)
<S> <C> <C>
(e) REFLECTS THE FOLLOWING ADJUSTMENTS TO INTEREST EXPENSE RELATED TO:
(i) Elimination of all other debt assumed in the transaction to
be paid at closing.......................................... $ 946 $ 243
(ii) Additional interest on debt incurred with transaction....... (908) (681)
-------- --------
$ 38 $ (438)
======== ========
(f) REFLECTS THE FOLLOWING ADJUSTMENTS TO INCOME TAXES:
(i) Additional income tax provision for state and federal taxes
at a combined effective rate of 40% as certain Acquired
Companies previously taxed as Subchapter S corporations..... $ 1,285 $ 504
(ii) Additional income taxes on adjustments (c) and (d).......... 1,055 967
(iii) Additional income tax provision for state and federal taxes
due to the non-deductibility of goodwill.................... 1,024 333
-------- --------
$ 3,364 $ 1,804
======== ========
(g) Reflects adjustments to weighted average shares outstanding as
follows:
(i) 695,000 shares issued to the owners of the Acquired
Companies.
(h) Reflects adjustments to weighted average shares outstanding as
follows:
(i) 695,000 shares issued to the owners of the Acquired
Companies.
(ii) 2,000 shares representing dilutive effect of warrants
issued to the owners of the Acquired Companies.
(i) Reflects adjustments to weighted average shares outstanding as
follows:
(i) 2,052,000 shares issued to the owners of the Acquired
Companies.
(j) Reflects adjustments to weighted average shares outstanding as
follows:
(i) 2,052,000 shares issued to the owners of the Acquired
Companies.
(ii) 41,000 shares representing dilutive effect of warrants
issued to the owners of the Acquired Companies.
</TABLE>
F-70
<PAGE> 73
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
SERVICE EXPERTS, INC.
By: /s/ Anthony M. Schofield
----------------------------------
Anthony M. Schofield
Chief Financial Officer and
Secretary
Date: January 28, 1999
<PAGE> 74
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF EXHIBITS
- ------- -----------------------
<S> <C>
23 Consent of Ernst & Young LLP
</TABLE>
<PAGE> 1
EXHIBIT 23
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Post-Effective Amendment No.
6 to the Registration Statement on Form S-4 (No. 333-12319) and related
Prospectus of Service Experts, Inc. related to $50,000,000 aggregate amount of
shares of its $.01 par value common stock, warrants to purchase its common stock
("Common Stock Warrants") and the shares of its common stock issued thereunder
upon the exercise of such Common Stock Warrants or debt securities ("Debt
Securities"), and the shares of common stock issued thereunder upon the
conversion thereof; in the Shelf Registration Statement on Form S-3 (No.
333-43917) and related Prospectus pertaining to the resale of up to 500,000
shares of the Company's Common Stock issued without registration under the
Securities Act of 1933; in the Registration Statement on Form S-8 (No.
333-11791) pertaining to the Service Experts, Inc. 1996 Incentive Stock Plan,
1996 Non-Employee Director Stock Option Plan, and 1996 Employee Stock Purchase
Plan; in the Registration Statement on Form S-8 (No. 333-59711) pertaining to
the Service Experts, Inc. Amended 1996 Incentive Stock Plan, Amended 1996
Employee Stock Purchase Plan, 1997 Nonqualified Stock Option Plan, Amended 1997
Nonqualified Stock Purchase Plan and Amended Service Center Stock Option Plan;
of our report dated December 18, 1998 with respect to the financial statements
of Gulf Coast Cooling, Inc., of our report dated December 1, 1998 with respect
to the combined financial statements of Matz Sheet Metal Works, Inc. and Right
Way Heating and Air Conditioning Service, Inc., of our report dated December 11,
1998 with respect to the financial statements of Climate Control, Inc. and of
our report dated December 7, 1998 with respect to the financial statements of
Epperson, Inc. included in this Current Report on Form 8-K dated January 28,
1999, filed with the Securities and Exchange Commission.
/s/ Ernst & Young LLP
Nashville, Tennessee
January 28, 1999
