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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-K/A
AMENDMENT NO. 1
ANNUAL REPORT PURSUANT TO SECTION 13 OR
15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997
Commission file number: 1-13011
COMFORT SYSTEMS USA, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 76-0526487
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
777 POST OAK BLVD.
SUITE 500
HOUSTON, TEXAS 77056
(713) 830-9600
(ADDRESS AND TELEPHONE NUMBER OF PRINCIPAL EXECUTIVE OFFICES)
Securities registered pursuant to Section 12(b) of the Act:
NAME OF EACH EXCHANGE ON
TITLE OF EACH CLASS WHICH REGISTERED
- ------------------------------------- -----------------------------------------
Common Stock, $.01 par value New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports to
be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
As of February 18, 1999, the aggregate market value of the 31,111,391
shares of the registrant's common stock held by non-affiliates of the registrant
was $466,670,865, based on the $15.00 last sale price of the registrant's common
stock on the New York Stock Exchange on that date.
As of February 18, 1999, 38,305,026 shares of the registrant's common stock
were issued and outstanding.
DOCUMENTS INCORPORATED BY REFERENCE: The information required by Part III
(other than the required information regarding executive officers) is
incorporated by reference from the registrant's definitive proxy statement,
which was filed with the Commission on April 27, 1998.
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<PAGE>
EXPLANATORY NOTE TO FORM 10-K/A
The Registrant is filing on this Amendment No. 1 on Form 10-K/A:
(i) audited consolidated financial statements as of December 31, 1997
and 1996 and for each of the three years in the period ended
December 31, 1997; and
(ii) management's discussion and analysis of financial condition and
results of operations for each of the periods described above,
all of which have been restated for various businesses acquired
in 1997 accounted for under the pooling of interests method of
accounting.
These acquisitions had been accounted for as immaterial pooling of
interests transactions for which prior period financial statements were not
restated in the Registrant's 1997 Annual Report on Form 10-K. The restatement
resulted from a new evaluation of the aggregate impact of individually
immaterial pooling of interests transactions on the Registrant's prior period
financial statements.
The Items of Form 10-K affected by this Amendment No. 1 on Form 10-K/A are
as follows:
Part II Item 6. Selected Financial Data
Part II Item 7. Management's Discussion and Analysis
of Financial Condition and Results of
Operations
Part II Item 8. Financial Statements and
Supplementary Data
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<PAGE>
ITEM 6. SELECTED FINANCIAL DATA
On July 2, 1997, the Company completed its IPO and simultaneously acquired
the 12 Founding Companies. During the remainder of 1997, the Company completed
27 acquisitions, 14 of which were accounted for as pooling-of-interests (the
"Pooled Companies") and 13 of which were accounted for as purchases (the
"Purchased Companies"). The following selected historical financial data has
been derived from the audited financial statements of the Company for each of
the three years ended December 31, 1995, 1996, and 1997, and retroactively
reflects the Pooled Companies as appropriate. The remaining selected historical
financial data of the Company has been derived from unaudited financial
statements of the Company. These unaudited financial statements have been
prepared on the same basis as the audited financial statements of the Company,
and in the opinion of the Company, reflect all adjustments necessary for a fair
presentation of that historical information. The historical financial statement
data reflects the acquisitions of the Founding Companies and Purchased Companies
as of their respective acquisition dates and reflects twelve of the Pooled
Companies (the "Restated Companies") for all periods presented. Two of the
Pooled Companies are considered immaterial poolings based upon the relative
significance of their individual operations and have not been restated for all
periods presented. The selected historical financial data below should be read
in conjunction with the historical financial statements and related notes.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------
1993 1994 1995 1996 1997
---------- ---------- ---------- ---------- ----------
(RESTATED) (RESTATED) (RESTATED) (RESTATED)
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues........................ $ 57,791 $ 75,215 $ 75,549 $ 97,315 $ 237,709
Operating income................ 990 1,936 2,278 5,245 4,531
Net income (loss)............... 893 1,519 1,721 3,759 (2,830)
BALANCE SHEET DATA:
Working capital................. $ 4,489 $ 5,260 $ 7,093 $ 9,515 $ 57,275
Total assets.................... 16,813 20,330 24,972 31,479 287,780
Total debt, including current
portion....................... 2,617 2,131 3,540 3,929 21,211
Stockholders' equity............ 4,503 5,709 7,722 11,357 212,668
</TABLE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF
OPERATIONS (RESTATED)
INTRODUCTION
The following discussion should be read in conjunction with the
consolidated historical financial statements of the Company and related notes
thereto. The historical financial statements of the Company have been restated
to include the financial position and results of operations of certain
businesses acquired and accounted for under the pooling of interests method of
accounting.
This discussion contains forward-looking statements regarding the business
and industry of Comfort Systems within the meaning of the Private Securities
Litigation Reform Act of 1995. These statements are based on the current plans
and expectations of the Company and involve risks and uncertanties that could
cause actual future activities and results of operations to be materially
different from those set forth in the forward-looking statements. Important
factors that could cause actual results to differ include, among others, risks
associated with the difficulty of integrating newly acquired companies while
maintaining their financial performance, seasonal or cyclical variation in
demand for the Company's products and services, the ability to obtain
acquisition financing, increasing competition for acquisition targets as new
companies enter the market for HVAC consolidation, labor availability, and the
continued issuance of new shares and the resulting overhang of saleable stock
and other risks detailed in the Company's continuing reports filed with the
Securities and Exchange Commission.
Comfort Systems was founded in December 1996 to become a leading national
provider of HVAC services, focusing primarily on commercial and industrial
markets.
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Comfort Systems acquired the twelve Founding Companies in connection with
the Offering on July 2, 1997. Subsequent to July 2, 1997 and through December
31, 1997, the Company acquired 27 additional HVAC businesses. Of these
additional acquisitions, fourteen acquisitions were accounted for as poolings-
of-interests and are referred to herein as the Pooled Companies, and the
remaining thirteen acquisitions were accounted for as purchases and are referred
to herein as the Purchased Companies. The historical financial statements of the
Company have been retroactively restated to give effect to the operations of the
Restated Companies. Two of the Pooled Companies are considered immaterial
poolings and have not been restated for all periods presented based upon the
relative significance of their individual operations as discussed in Item 6.
Pro forma and historical results are not necessarily indicative of future
results of the Company because, among other things, the acquired companies were
not under common control or management prior to their acquisition. The results
of the Company have historically been subject to seasonal fluctuations. These
pro forma combined and historical statements of operations should be read in
conjunction with the consolidated financial statements and related notes of
Comfort Systems, filed herewith, and the additional information and the
respective financial statements and related notes of Comfort Systems and the
Founding Companies included in the Company's Registration Statement on Form S-1
(File No. 333-24021) (the "Registration Statement"), as amended, filed with
the Securities and Exchange Commission in connection with the Offering.
The timing and magnitude of acquisitions, assimilation costs and the
seasonal nature of the HVAC industry may materially affect operating results.
Accordingly, the operating results for any period are not necessarily indicative
of the results that may be achieved for any subsequent period.
PRO FORMA
The following pro forma information is presented supplementally to reflect
the pro forma results of operations as if the acquisition of the Founding
Companies occurred on January 1 of the respective years, as presented in the
Registration Statement. Therefore, the accompanying unaudited pro forma combined
statements of operations and the related management's discussion and analysis of
the Company for the years ended December 31, 1997 and 1996, respectively,
include the combined operations of the Restated Companies and the Founding
Companies from January 1, 1996, and the Purchased Companies from the dates of
their acquisition. Two of the Pooled Companies are considered immaterial
poolings and have not been restated for all periods presented.
The Founding Companies, Pooled Companies and Purchased Companies were
managed prior to their acquisitions as independent private companies. Therefore,
historical selling, general, and administrative expenses for the periods
presented in the consolidated financial statements of the Company reflect
compensation and related benefits the owners of those businesses received prior
to acquisition. Historical selling, general and administrative expenses also
include the non-recurring non-cash compensation charge of $11.6 million recorded
by Comfort Systems in the first quarter of 1997 related to Common Stock issued
to management of and consultants to the Company. The following pro forma
combined results of operations have been presented for the purpose of reflecting
net income as if the merger of the Founding Companies and the acquisition of the
Restated Companies occurred January 1, 1996 and 1997. The pro forma adjustments
reflect: (a) certain reductions in salaries and benefits to the former owners
("the Compensation Differential") of the Founding and Purchased Companies
which they agreed would take effect as of the date of the acquisitions, (b) pro
forma compensation expense of $430,000 for the six months ended June 30, 1997,
to reflect the ongoing salaries received by corporate management as though those
salaries were being paid prior to the Offering, (c) interest expense on
borrowings of $11.0 million that would have been necessary to fund the S
Corporation Distributions if they had occurred at the beginning of each period
presented, (d) the elimination of the $11.6 million non-recurring non-cash
compensation charge referred to above, and (e) the reduction of the
acquisition-related costs incurred in the acquisition of the Pooled Companies.
In addition, an incremental tax provision has been recorded as if all applicable
Purchased and Founding Companies, and Pooled Companies which were C Corporations
had been subject to federal and state income taxes.
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<PAGE>
RESULTS OF OPERATIONS -- PRO FORMA COMBINED (UNAUDITED)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------------------
1996 1997
--------------------- ---------------------
(RESTATED)
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Revenues............................. $ 264,882 100.0% $ 324,609 100.0%
Cost of services..................... 192,228 72.6 234,336 72.2
---------- --------- ---------- ---------
Gross profit......................... 72,654 27.4 90,273 27.8
Selling, general and administrative
expenses........................... 42,246 15.9 55,966 17.2
Goodwill amortization................ 3,495 1.3 3,593 1.1
---------- --------- ---------- ---------
Operating income..................... 26,913 10.2 30,714 9.5
Other income (expense)............... (863) (0.3) (461) (0.2)
---------- --------- ---------- ---------
Income before taxes.................. 26,050 9.8 30,253 9.3
Provision for income taxes........... 11,077 -- 12,721 --
---------- --------- ---------- ---------
Pro forma net income................. $ 14,973 5.7% $ 17,532 5.4%
========== ========= ========== =========
</TABLE>
1997 COMPARED TO 1996 (RESTATED)
PRO FORMA REVENUES -- Pro forma combined revenues increased 22.5% to $324.6
million for the year ended December 31, 1997. Revenues of $16.7 million for the
Purchased Companies acquired in 1997 are included in 1997. No results for these
companies are included in 1996. Excluding these amounts, revenues increased
16.2% from 1996 to 1997. This increase was primarily attributable to significant
"design and build" projects in the Company's Phoenix operations for a new
medical center and a semiconductor fabrication facility, broad growth in
commercial and industrial "design and build" activities in Tennessee
operations, increased general demand for the Company's services in the Grand
Rapids, Michigan market, greater demand for specialized multi-unit installation
services in Texas and the Northeast, and increased demand for the Company's
commercial service capabilities in the Cincinnati market.
PRO FORMA GROSS PROFIT -- Pro forma combined gross profit increased 24.3%
to $90.3 million for the year ended December 31,1997, primarily due to increased
revenue volume. Gross profit from certain Purchased Companies, which are not
reported in 1996 results, accounted for 4.4% of the pro forma gross profit in
the current year. Pro forma combined gross profit as a percentage of revenues
increased from 27.4% to 27.8% in 1997. This increase in gross profit margin was
primarily attributable to an overall improvement from the Companies' operations
in Mobile, Alabama, associated with its specialized "design and build" HVAC
installation capabilities, and the somewhat higher gross margins resulting from
the installation and service of HVAC controls-based energy management systems at
two locations. These increases in gross profit margin were slightly offset by
certain lower margin "design and build" installation projects, which were
accepted as a strategic enhancement to the Company's portfolio of "design and
build" projects.
PRO FORMA SELLING, GENERAL AND ADMINISTRATION EXPENSES (SG&A) -- Pro forma
combined SG&A expenses, excluding goodwill amortization and non-recurring
acquisition related costs, increased $13.7 million or 32.5% to $56.0 million for
the year ended December 31,1997, compared to the prior year. Approximately $2.5
million of this increase is attributable to the Purchased Companies, which are
not included in 1996 results. The Company's establishment as a public company in
1997 resulted in $2.2 million of corporate office and management expenses in
1997, whereas no such corporate expenses are reflected in 1996 as the Company
was not yet public. The remaining increases in SG&A were due principally to
additions of personnel and infrastructure to support growth in revenues.
PRO FORMA OTHER INCOME (EXPENSE) -- Pro forma net other expense decreased
due to the increase in interest income of $0.7 million resulting from the
investment of temporary excess cash following the Company's Offering of Common
Stock in June 1997.
13
<PAGE>
HISTORICAL
The following historical consolidated financial information represents the
operations of the Restated Companies for all periods presented and the Founding
Companies and Purchased Companies from their respective date of acquisitions.
Two of the Pooled Companies are considered immaterial poolings and have not been
restated for all periods presented. The following historical financial
information for 1997 includes the non-recurring non-cash compensation charge of
$11.6 million recorded by Comfort Systems in the first quarter of 1997,
non-recurring acquisition-related costs and reflects normal recurring corporate
costs of Comfort Systems subsequent to the initial public offering. This
compensation charge is not deductible for federal and state income taxes. This
historical consolidated information has been derived from the audited
Consolidated Financial Statements of the Company.
RESULTS OF OPERATIONS--HISTORICAL
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------
1995 1996 1997
-------------------- -------------------- ---------------------
<S> <C> <C> <C> <C> <C> <C>
(RESTATED)
(RESTATED) (IN THOUSANDS)
Revenues............................. $ 75,549 100.0% $ 97,315 100.0% $ 237,709 100.0%
Cost of services..................... 55,519 73.5 72,472 74.5 171,941 72.3
--------- --------- --------- --------- ---------- ---------
Gross profit......................... 20,030 26.5 24,843 25.5 65,768 27.7
Selling, general and administrative
expenses........................... 17,752 23.5 19,598 20.1 59,386 25.0
Goodwill amortization................ -- -- -- -- 1,851 0.8
--------- --------- --------- --------- ---------- ---------
Operating income..................... 2,278 3.0 5,245 5.4 4,531 1.9
Other income (expense)............... 185 0.2 (69) (0.1) 69 0.0
--------- --------- --------- --------- ---------- ---------
Income before taxes.................. 2,463 3.3 5,176 5.3 4,600 1.9
Provision for income taxes........... 742 -- 1,417 -- 7,430 --
--------- --------- --------- --------- ---------- ---------
Net income (loss).................... $ 1,721 2.3% $ 3,759 3.9% $ (2,830) (1.2)%
========= ========= ========= ========= ========== =========
</TABLE>
1997 COMPARED TO 1996
REVENUES -- Revenues increased $140.4 million, or 144.3%, over 1996, to
$237.7 million for the year ended December 31, 1997. The acquisition of the
Founding Companies as of July 2, 1997, and the acquisition of the Purchased
Companies in the second half of 1997, accounted for 88.8% of the increase in
revenues over the prior year. The remaining increase in revenues over the prior
year is primarily attributable to increased demand for the Company's commercial
service capabilities in the Cincinnati market.
GROSS PROFIT -- Gross profit increased $40.9 million, or 164.7%, over 1996,
to $65.8 million for the year ended December 31, 1997. The acquisition of the
Founding Companies and Purchased Companies accounted for 82.8% of the increase
over the prior year. Gross profit as a percentage of revenues increased as a
result of the Founding Companies' positive impact on the overall gross profit
percentage in the second half of 1997 and an overall improvement from the Pooled
Companies compared to the prior year. The Company's operations in Mobile,
Alabama contributed the largest increase as a percentage of revenues among the
Pooled Companies due to higher margins associated with its specialized "design
and build" HVAC installation capabilities.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES -- SG&A, excluding goodwill
amortization, increased $39.8 million, or 203.0%, over 1996, to $59.4 million
for 1997. Approximately one half of this increase is related to the acquisition
of the Founding and Purchased Companies. Historical SG&A for 1997 includes the
non-recurring, non-cash compensation charge of $11.6 million recorded by Comfort
Systems in the first quarter of 1997 related to Common Stock issued to
management of and consultants to the Company. The Company's establishment as a
public company in 1997 resulted in $2.8 million of corporate office and
management expenses in 1997 whereas no such corporate expenses are reflected in
1996 as the Company was not yet public. Of this amount, approximately $0.6
million was non-recurring acquisition costs related
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<PAGE>
to the Pooled Companies. The remaining increase related to increases in
personnel and infrastructure to support growth at certain of the Pooled
Companies, and does not reflect the reduction in management compensation and
benefits as a result of the mergers of these Pooled Companies with Comfort
Systems.
OTHER INCOME (EXPENSE) -- Net other income increased to $0.1 million for
the year ended December 31, 1997 due primarily to the increase in interest
income of $0.7 million resulting from the investment of temporary excess cash
following the Company's Offering of Common Stock in June.
1996 COMPARED TO 1995
REVENUES -- Revenues increased $21.8 million, or 28.8%, to $97.3 million
for the year ended December 31, 1996, compared to the year ended December 31,
1995. The increase in revenues over 1995 is primarily attributable to increased
demand for the Company's commercial service capabilities in the Memphis market
and commercial installation service capabilities in the Alabama market.
GROSS PROFIT -- Gross Profit increased $4.8 million, or 24.0%, to $24.8
million for the year ended December 31, 1996, compared to the year ended
December 31, 1995. The increase in gross profit was partially a result of
increased demand for the Company's commercial service capabilities while
maintaining gross profit margins in the Memphis market area and an improvement
in gross profit margins in the Cincinnati operations.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES -- SG&A, excluding goodwill
amortization, increased $1.8 million, or 10.4%, to $19.6 million for the year
ended December 31, 1996 compared to the year ended December 31, 1995. The
majority of the increase is due to an addition of personnel in the Cincinnati
market area to capitalize on revenue growth opportunities. SG&A for the Pooled
Companies in 1995 and 1996 reflects the compensation and related benefits those
owners received from their respective businesses prior to the acquisition.
LIQUIDITY AND CAPITAL RESOURCES -- HISTORICAL
For the year ended December 31, 1997, net cash used in operating activities
was $1.7 million due to a decrease in accounts payable of $3.8 million and an
increase in accounts receivables of $10.9 million. Accounts payable balances
decreased from the date of acquisition at various locations as certain companies
took advantage of the consolidated cash management system to receive cash
discounts for early payments. Cash provided from operations for 1996 and 1995
was $3.3 million and $0.8 million, respectively, primarily as a result of net
income for the periods.
Cash used in investing activities was $57.5 million for the year ended
1997, primarily in connection with the acquisition of the Founding Companies and
Purchased Companies for $54.1 million, net of cash acquired. Cash flows used in
investing activities for 1996 and 1995 were $1.9 million and $0.9 million,
respectively, primarily for additions to equipment.
Cash provided by financing activities for the year ended December 31, 1997
was $67.7 million and was primarily attributable to the $79.9 million from the
IPO which was partially offset by a net reduction in debt of $10.7 million in
the second half of 1997. Net cash used in financing activities in 1996 was $0.7
million from a net reduction in outstanding debt. Net cash provided by financing
activities in 1995 was $0.8 million due to the net increase in outstanding debt
of $1.3 million.
On June 27, 1997, Comfort Systems completed the offering of 6,100,000
shares of Common Stock to the public at $13.00 per share. The net proceeds to
Comfort Systems from the IPO (after deducting underwriting commissions and
offering expenses) were $68.8 million. Of this amount, $45.3 million was used to
pay the cash portion of the purchase prices of the Founding Companies.
In connection with the IPO, the Company granted its underwriters an option
to sell an additional 915,000 shares at $13.00 per share. On July 9, the
underwriters exercised this option. Net proceeds to the Company from this sale
of shares were $11.1 million after deducting underwriting commissions.
In July 1997, the Company entered into a credit agreement with Bank One,
Texas, N.A. (the "Credit Facility"). The Credit Facility was amended and
restated in September 1997 primarily to provide for
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<PAGE>
additional banks to lend to the Company under the Credit Facility. The Credit
Facility provides the Company with an unsecured revolving line of credit of $75
million. The Company has a choice of two interest rate options when borrowing
under the Credit Facility. Under one option, the interest rate is determined
based on the higher of the Federal Funds Rate plus 0.5% or the bank's prime
rate. An additional margin of zero to 0.25% is then added to the higher of these
two rates. The additional margin depends on the ratio of the Company's debt to
earnings before interest, taxes, depreciation and amortization for the preceding
twelve months ("EBITDA"). For purposes of this ratio, EBITDA may include the
preceding twelve months' results for any companies acquired during the last
year. Under the other interest rate option, borrowings bear interest based on
designated short-term Eurodollar rates (which generally approximate the London
Interbank Offered Rates or LIBOR, as published in major financial media) plus
one to two percentage points, again depending on the ratio of debt to EBITDA. In
addition, commitment fees of 0.125% to 0.375% per annum, also depending on the
ratio of debt to EBITDA, are payable on the unused portion of the line of
credit. The Credit Facility prohibits the payment of dividends by the Company
without lender's approval and requires the Company to comply with certain
financial covenants. The Credit Facility expires on July 2, 2000, at which time,
all amounts outstanding under the facility are due.
The Credit Facility was further amended in April 1998 and again in December
1998 in order to increase borrowing capacity and to provide for additional banks
to lend to the Company under the Credit Facility. The Credit Facility provides
the Company with a revolving line of credit of $300 million secured by accounts
receivable, inventory of the Company and the shares of capital stock of the
Company's subsidiaries. The Company continues to have a choice of the two
interest rate options when borrowing under the Credit Facility. Under one
option, the interest rate is determined based on the higher of the Federal Funds
Rate plus one-half percentage point or the bank's prime rate. An additional
margin of zero to 1.25% is then added to the higher of these two rates. Under
the other interest rate option, borrowings bear interest based on designated
short-term Eurodollar rates (which generally approximate LIBOR) plus 1.0% to
2.5%. The additional margin depends on the ratio of the Company's debt to
EBITDA. Commitment fees of 0.25% to 0.5% per annum, also depending of the ratio
of debt to EBITDA, are payable on the unused portion of the facility. The
amended Credit Facility expires on November 1, 2001, at which time all amounts
outstanding under the facility are due.
As of December 31, 1997, the Company had borrowed $15.3 million under the
Credit Facility at an average interest rate of approximately 6.7% per annum for
the second half of 1997. As of February 18, 1999 $178.6 million was outstanding
under the amended facility.
The Company intends to pursue additional acquisition opportunities. The
Company anticipates that available borrowings under its Credit Facility and cash
flow from operations will provide cash in excess of the Company's normal working
capital needs, debt service requirements and planned capital expenditures for
equipment. Should the Company accelerate or revise its acquisition program, the
Company may need to seek additional financing through the public or private sale
of equity or debt securities. There can be no assurance that the Company will
secure such financing if and when it is needed, or that such financing will be
available on terms that the Company deems acceptable.
YEAR 2000
Computers, software, and other equipment utilizing microprocessors that use
only two digits to identify a year in a date field may be unable to process
accurately certain date-based information at or after the year 2000. This is
commonly referred to as the "Year 2000 issue." The Company has implemented a
Year 2000 program and is using both internal and external resources to assess
and replace or reprogram computers, software and other equipment as needed. Key
areas of the Company's operations that are being addressed include external
customers, external suppliers and internal computers, software and potential
back-up and contingency plans.
Year 2000 considerations may have an effect on some of the Company's
customers and suppliers, and thus indirectly on the Company. The Company is
assessing the potential effect on the Company with respect
16
<PAGE>
to customers and suppliers with Year 2000 issues and does not expect a material
affect on the Company's financial condition or results of operations at this
time. The Company has initiated communications with its significant customers
and suppliers to assess the extent to which the Company is vulnerable to those
third parties with which the Company transacts business.
The Company's initial assessment identified Year 2000 issues within the
Company's operating systems. The total cost of anticipated Year 2000
enhancements is approximately $500,000 and is being funded from operating cash
flows. The majority of such costs are for the acquisition of hardware and
software and will be capitalized. The remaining costs will be expensed as
incurred and are not expected to have a material effect on the results of
operations. The Company expects, but cannot provide assurance, to be
substantially complete with Year 2000 enhancements for internal operating
systems by September 1999, which is prior to any significant anticipated impact
on its operating systems.
The ability of third parties with which the Company transacts business to
adequately address Year 2000 issues is outside of the Company's control. There
can be no assurance that the failure of the Company, or such third parties, to
adequately address their respective Year 2000 issues will not have a material
adverse effect on the Company's financial condition or results of operations. At
this time, the Company does not expect such an adverse impact.
SEASONALITY AND CYCLICALITY
The HVAC industry is subject to seasonal variations. Specifically, the
demand for new installation and replacement is generally lower during the winter
months due to reduced construction activity during inclement weather and less
use of air conditioning during the colder months. Demand for HVAC services is
generally higher in the second and third calendar quarters due to increased
construction activity and increased use of air conditioning during the warmer
months. Accordingly, the Company expects its revenues and operating results
generally will be lower in the first and fourth calendar quarters.
Historically, the construction industry has been highly cyclical. As a
result, the Company's volume of business may be adversely affected by declines
in new installation projects in various geographic regions of the United States.
FACTORS WHICH MAY AFFECT FUTURE RESULTS
The Company's future operating results are difficult to predict and may be
affected by a number of factors, including the lack of a combined operating
history and the difficulty of integrating acquired businesses, difficulties in
implementing its acquisition strategy, seasonal and cyclical fluctuations in the
demand for HVAC systems and the availability of acquisition financing. As a
result of these and other factors, there can be no assurance that the Company
will not experience material fluctuations in future operating results on a
quarterly or annual basis.
The Company's success depends in part on its ability to integrate the
businesses that it acquires. The acquired businesses operated as separate,
independent entities prior to their affiliation with the Company, and there can
be no assurance that the Company will be able to integrate the operations of
these businesses successfully or institute the necessary systems and procedures,
including accounting and financial reporting systems, to effectively manage the
combined enterprise on a profitable basis. The pro forma combined historical
financial results of the acquired businesses primarily cover periods when such
businesses were not under common control or management and, therefore, may not
be indicative of the Company's future financial or operating results.
The Company has grown and intends to continue to grow significantly through
the acquisition of additional HVAC and complementary businesses, but in the
future it could face difficulties in implementing its acquisition strategy. The
Company faces increasing competition for acquisition candidates, a fact that may
limit the number of acquisition opportunities and may lead to higher acquisition
prices. The HVAC industry is currently undergoing rapid consolidation on both a
national and a regional level by the Company and by other companies that have
acquisition objectives that are similar to the Company's objectives.
Additionally, HVAC equipment manufacturers and certain public utilities are
beginning to enter the
17
<PAGE>
maintenance, repair and replacement segment of the HVAC industry. These
companies generally are better capitalized, have greater name recognition and
may be able to provide these services at a lower cost.
Acquisitions also involve a number of special risks, including failure of
the acquired business to achieve expected results, diversion of management's
attention and failure to retain key personnel of the acquired business. There
are also risks associated with unanticipated events or liabilities resulting
from the acquired businesses' operations prior to their acquisition. Any of
these risks, or a combination of them, could have a material adverse effect on
the Company's business, financial condition and results of operations.
The timing, size and success of the Company's acquisition efforts depend in
large part on the availability of financing. The Company intends to continue to
finance future acquisitions by using shares of its Common Stock for a
substantial portion of the consideration to be paid. If the Common Stock does
not maintain a sufficient market value, or if potential acquisition candidates
are otherwise unwilling to accept Common Stock as part of the consideration for
the sale of their businesses, the Company may be required to utilize more of its
cash resources, if available, to maintain its acquisition program. One factor
that may affect the Common Stock's market price in the future, and thus its
usefulness as acquisition currency, is the dilutive effect of the continued
issuance of shares in connection with acquisitions. The availability of such
shares in the market when they become eligible for sale could affect the
Company's stock valuation (i.e., upon the expiration of contractual restrictions
or of specified holding periods for unregistered shares). If the Company fails
to maintain its stock valuation, and if the Company does not have sufficient
cash resources, its growth could be limited unless it is able to obtain
additional capital through debt or equity financing.
Key elements of the Company's strategy are to both maintain and improve the
profitability of the acquired businesses and to continue to expand the revenues
of acquired businesses. The Company's level of success in this strategy, if any,
will be affected by demand for new or replacement HVAC systems. In part, such
demand will turn on factors outside the Company's control, such as the level of
new construction or the potential for slower replacement based upon the overall
level of activity in the economy. The HVAC industry is subject to both seasonal
and cyclical variations, meaning that temperate weather and downturns in the
domestic or a regional economy will negatively affect overall demand for the
Company's services.
The timely provision of high-quality installation service and maintenance,
repair and replacement of HVAC systems by the Company requires an adequate
supply of skilled HVAC technicians. In addition, the Company depends on the
senior management of the businesses it acquires to remain committed to the
success of the business after its acquisition and through a transition period.
Accordingly, the Company's ability to increase its productivity and
profitability are also affected by its ability to employ, train and retain the
skilled technicians necessary to meet the Company's service requirements, and to
retain senior management in acquired businesses.
HVAC systems are also subject to various environmental statutes and
regulations, including the Clean Air Act and those regulating the production,
servicing and disposal of certain ozone depleting refrigerants used in HVAC
systems. There can be no assurance that the regulatory environment in which the
Company operates will not change significantly in the future. The Company's
failure to comply, or the costs of compliance, with such laws and regulations
could adversely affect the Company's future results.
Because of these and other factors, past financial performance should not
necessarily be considered an indicator of future performance. Investors should
not rely solely on historical trends to anticipate future results and should be
aware that the trading price of the Company's Common Stock may be subject to
wide fluctuations in response to quarter-to-quarter variations in operating
results, general conditions in the HVAC industry, the increasing supply of
tradable stock, changes in analysts' earnings estimates, and recommendations by
analysts or other events.
18
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA.
COMFORT SYSTEMS USA, INC.
PRO FORMA COMBINED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1997 & 1996
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
This pro forma combined financial statement should be read in conjunction
with the audited historical Consolidated Financial Statements of Comfort Systems
USA, Inc. included elsewhere in this report.
YEAR ENDED DECEMBER
31,
----------------------
1996 1997
---------- ----------
(RESTATED)
(IN THOUSANDS)
Revenues................................ $ 264,882 $ 324,609
Cost of services........................ 192,228 234,336
---------- ----------
Gross profit............................ 72,654 90,273
Selling, general and administrative
expenses.............................. 42,246 55,966
Goodwill amortization................... 3,495 3,593
---------- ----------
Operating income........................ 26,913 30,714
Other income (expense).................. (863) (461)
---------- ----------
Income before taxes..................... 26,050 30,253
Provision for income taxes.............. 11,077 12,721
---------- ----------
Pro forma net income.................... $ 14,973 $ 17,532
========== ==========
Pro forma net income per share.......... $ 0.65 $ 0.72
Shares used in computing pro forma net
income per share...................... 22,904 24,502
The unaudited pro forma financial information for the years ended December
31, 1997 and 1996, includes the results of Comfort Systems and the Founding
Companies from January 1, 1996, the Purchased Companies from date of their
respective acquisitions and the retroactive restatement to January 1, 1996 of 12
of the 14 Pooled Companies. This pro forma combined financial information
includes the effects of (a) the Offering, (b) certain reductions in salaries and
benefits to the former owners (the "Compensation Differential") of the
Founding Companies and Pooled Companies which they agreed would take effect as
of the acquisition date, (c) amortization of goodwill resulting from the
acquisitions of Purchased and Founding Companies, (d) elimination of the
compensation expense related to the non-recurring non-cash compensation charge
of $11.6 million recorded by Comfort Systems in the first quarter of 1997
related to Common Stock issued to management of and consultants to the Company,
(e) pro forma compensation expense of $430,000 for the six months ended June 30,
1997, to reflect the ongoing salaries received by corporate management as though
those salaries were being paid prior to the Offering, and (f) interest expense
on borrowings of $11.0 million that would have been necessary to fund certain S
Corporation distributions if they had occurred at the beginning of the period.
In addition, an incremental tax provision has been recorded as if all applicable
Purchased and Founding Companies, and Pooled Companies which were C Corporations
had been subject to federal and state income taxes. Diluted earnings per share
and basic earnings per share are the same for all periods presented above.
This pro forma financial information may not be comparable to and may not
be indicative of the Company's future results of operations because these
acquired companies were not under common control or management.
19
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders and Board of Directors of
Comfort Systems USA, Inc.:
We have audited the accompanying consolidated balance sheets of Comfort
Systems USA, Inc. (a Delaware corporation) and subsidiaries as of December 31,
1996 and 1997, and the related consolidated statements of operations,
stockholders' equity and cash flows for each of the three years in the period
ended December 31, 1997. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
Comfort Systems USA, Inc., and subsidiaries as of December 31, 1996 and 1997,
and the consolidated results of their operations and their cash flows for each
of the three years in the period ended December 31, 1997, in conformity with
generally accepted accounting principles.
As described in Note 13, the Company has restated its 1996 and 1995
consolidated financial statements to include the financial position, results of
operations and cash flows of various businesses acquired in 1997 which had been
treated as immaterial pooling of interests transactions for which prior periods
were not previously restated.
ARTHUR ANDERSEN LLP
Houston, Texas
February 18, 1999
20
<PAGE>
COMFORT SYSTEMS USA, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
DECEMBER 31,
-----------------------
1996 1997
---------- ----------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents....... $ 6,141 $ 14,533
Accounts receivable............. 16,899 73,826
Less -- Allowance............... 227 1,034
---------- ----------
Accounts receivable, net... 16,672 72,792
Other receivables............... 278 884
Inventories..................... 1,090 6,214
Prepaid expenses and other...... 1,743 4,428
Costs and estimated earnings in
excess of billings............. 1,476 12,050
---------- ----------
Total current assets....... 27,400 110,901
PROPERTY AND EQUIPMENT, net.......... 3,363 12,046
GOODWILL, net........................ -- 163,126
---------- ----------
OTHER NONCURRENT ASSETS.............. 716 1,707
---------- ----------
Total assets............... $ 31,479 $ 287,780
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current maturities of long-term
debt........................... $ 1,770 $ 869
Accounts payable................ 6,074 22,805
Accrued compensation and
benefits....................... 2,604 5,622
Payable to
stockholders/affiliates........ 500 16
Billings in excess of costs and
estimated earnings............. 3,760 10,100
Income taxes payable............ 384 4,928
Other current liabilities....... 2,793 9,286
---------- ----------
Total current
liabilities.................. 17,885 53,626
DEFERRED INCOME TAXES................ 502 960
LONG-TERM DEBT, NET OF CURRENT
MATURITIES......................... 1,317 20,326
PAYABLE TO STOCKHOLDERS/AFFILIATES... 342 --
OTHER LONG-TERM LIABILITIES.......... 76 200
---------- ----------
Total liabilities.......... 20,122 75,112
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock, $.01 par,
5,000,000 authorized, none
issued and outstanding......... -- --
Common stock, $.01 par,
52,969,912 shares authorized,
4,628,545 and 26,575,669 shares
issued and outstanding,
respectively 46 266
Additional paid-in capital...... 96 205,709
Retained earnings............... 11,215 6,693
---------- ----------
Total stockholders'
equity....................... 11,357 212,668
---------- ----------
Total liabilities and
stockholders' equity.... $ 31,479 $ 287,780
========== ==========
Reflects a 121.1387-for-one stock split effective on March 19, 1997
The accompanying notes are an integral part of these consolidated financial
statements.
21
<PAGE>
COMFORT SYSTEMS USA, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
YEAR ENDED DECEMBER 31,
-------------------------------------
1995 1996 1997
---------- ---------- ----------
(RESTATED) (RESTATED)
REVENUES............................. $ 75,549 $ 97,315 $ 237,709
COST OF SERVICES..................... 55,519 72,472 171,941
---------- ---------- ----------
Gross profit............... 20,030 24,843 65,768
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES........................... 17,752 19,598 58,811
GOODWILL AND OTHER AMORTIZATION...... -- -- 1,851
ACQUISITION RELATED EXPENSES......... -- -- 575
---------- ---------- ----------
Operating income........... 2,278 5,245 4,531
OTHER INCOME (EXPENSE):
Interest income................. 255 283 1,149
Interest expense................ (203) (244) (1,212)
Other........................... 133 (108) 132
---------- ---------- ----------
Other income (expense)..... 185 (69) 69
---------- ---------- ----------
INCOME BEFORE INCOME TAXES........... 2,463 5,176 4,600
PROVISION FOR INCOME TAXES........... 742 1,417 7,430
---------- ---------- ----------
NET INCOME (LOSS).................... $ 1,721 $ 3,759 $ (2,830)
========== ========== ==========
NET INCOME (LOSS) PER SHARE:
Basic........................... $ 0.20 $ 0.43 $ (.16)
========== ========== ==========
Diluted......................... $ 0.20 $ 0.43 $ (.16)
========== ========== ==========
SHARES USED IN COMPUTING NET INCOME
(LOSS)
PER SHARE:
Basic........................... 8,679 8,679 17,515
========== ========== ==========
Diluted......................... 8,679 8,679 17,515
========== ========== ==========
Reflects a 121.1387-for-one stock split effective on March 19, 1997
The accompanying notes are an integral part of these consolidated financial
statements.
22
<PAGE>
COMFORT SYSTEMS USA, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL RETAINED TOTAL
--------------------- PAID-IN EARNINGS STOCKHOLDERS'
SHARES AMOUNT CAPITAL (DEFICIT) EQUITY
------------ ------ ---------- --------- -------------
<S> <C> <C> <C> <C> <C>
BALANCE AT DECEMBER 31, 1994
(Restated)............................ 4,438,222 $ 44 $ 80 $ 5,598 $ 5,722
S Corporation distributions made by
certain Pooled Companies......... -- -- -- (491) (491)
Net income......................... -- -- -- 1,721 1,721
Other.............................. -- -- -- 43 43
------------ ------ ---------- --------- -------------
BALANCE AT DECEMBER 31, 1995
(Restated)............................ 4,438,222 44 80 6,871 6,995
S Corporation distributions made by
certain Pooled Companies......... -- -- -- (613) (613)
Adjustments to conform fiscal
year-ends of Pooled Companies.... -- -- -- 1,104 1,104
Initial Capitalization............. 121,139 1 -- -- 1
Net income......................... -- -- -- 3,759 3,759
Pooled Companies not restated...... 69,184 1 11 317 329
Other.............................. -- -- 5 (223) (218)
------------ ------ ---------- --------- -------------
BALANCE AT DECEMBER 31, 1996
(Restated)............................ 4,628,545 46 96 11,215 11,357
Issuance of Common stock:
Proceeds of the Initial Public
Offering................... 7,015,000 70 79,805 -- 79,875
Acquisition of Founding
Companies.................. 9,720,927 98 100,999 -- 101,097
Issuance of management
shares..................... 4,118,708 41 11,556 -- 11,597
Acquisition of Purchased
Companies.................. 1,092,489 11 13,253 -- 13,264
S Corporation distributions made by
certain Pooled Companies......... -- -- -- (1,692) (1,692)
Net loss........................... -- -- -- (2,830) (2,830)
------------ ------ ---------- --------- -------------
BALANCE AT DECEMBER 31, 1997............ 26,575,669 $ 266 $ 205,709 $ 6,693 $ 212,668
============ ====== ========== ========= =============
</TABLE>
Reflects a 121.1387-for-one stock split effective on March 19, 1997
The accompanying notes are an integral part of these consolidated financial
statements.
23
<PAGE>
COMFORT SYSTEMS USA, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
YEAR ENDED DECEMBER 31,
--------------------------------------
1995 1996 1997
---------- ---------- ----------
(RESTATED) (RESTATED)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss).................. $ 1,721 $ 3,759 $ (2,830)
Adjustments to reconcile net income
(loss) to net cash provided by
(used in) operating
activities --
Depreciation and amortization
expense......................... 782 967 3,997
Bad debt expense................ 36 177 347
Compensation expense related to
issuance of management
shares........................ -- -- 11,556
Deferred tax expense
(benefit)....................... (24) 279 (663)
Loss (gain) on sale of property
and equipment................. (20) 4 (100)
Changes in operating assets and
liabilities, net of effects of
acquisitions of Founding and
Purchased Companies --
(Increase) decrease in --
Receivables, net........... (1,975) (3,966) (10,890)
Inventories................ (18) (422) 1,053
Prepaid expenses and other
current assets.......... (27) (1,265) 160
Cost and estimated earnings
in excess of billings... (776) 1,312 (4,261)
Other noncurrent assets.... (167) 221 (63)
Increase (decrease) in --
Accounts payable and
accrued liabilities..... 872 529 (478)
Billings in excess of costs
and estimated
earnings................ 279 1,434 402
Other, net...................... 159 228 30
---------- ---------- ----------
Net cash provided by (used
in) operating
activities.............. 842 3,257 (1,740)
---------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and
equipment.......................... (947) (1,982) (3,930)
Proceeds from sales of property and
equipment.......................... 79 43 474
Cash paid for Founding Companies,
net of cash acquired............... -- -- (42,295)
Cash paid for Purchased Companies,
net of cash acquired............ -- -- (11,781)
---------- ---------- ----------
Net cash used in investing
activities.............. (868) (1,939) (57,532)
---------- ---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments on long-term debt......... (383) (1,699) (37,114)
Borrowings of long-term debt....... 1,721 1,582 26,453
S Corporation distributions paid
by certain Pooled Companies.. (491) (613) (1,591)
Proceeds from issuance of common
stock, net of offering costs.... -- -- 79,916
Other.............................. (35) 52 --
---------- ---------- ----------
Net cash provided by (used
in) financing
activities.............. 812 (678) 67,664
---------- ---------- ----------
NET INCREASE IN CASH AND CASH
EQUIVALENTS.......................... 786 640 8,392
CASH AND CASH EQUIVALENTS, beginning
of year............................ 4,715 5,501 6,141
---------- ---------- ----------
CASH AND CASH EQUIVALENTS, end of
year................................. $ 5,501 $ 6,141 $ 14,533
========== ========== ==========
The accompanying notes are an integral part of these consolidated financial
statements.
24
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED)
DECEMBER 31, 1997
1. BUSINESS AND ORGANIZATION:
Comfort Systems USA, Inc., a Delaware corporation, ("Comfort Systems" and
collectively with its subsidiaries, the "Company"), is a national provider of
comprehensive heating, ventilation and air conditioning ("HVAC") installation,
maintenance, repair and replacement services. Founded in December 1996, the
Company is consolidating the fragmented commercial and industrial HVAC markets,
executing most of its applications within office buildings, retail centers,
apartment complexes, hotels, manufacturing plants and government facilities. In
addition to standard HVAC services, the Company also provides specialized
applications such as process cooling, control systems, electronic monitoring and
process piping. Certain locations also perform related services such as
electrical and plumbing.
On July 2, 1997, Comfort Systems completed the initial public offering (the
"IPO") of its common stock (the "Common Stock") and simultaneously acquired
in separate concurrent transactions twelve companies (collectively referred to
as the "Founding Companies") engaged in providing HVAC services. The Founding
Companies had operations in ten states. Subsequent to the IPO, and through
December 31, 1997, the Company acquired 27 HVAC and related businesses. These
companies added operating locations in an additional 10 states (which includes
Puerto Rico). These acquisitions included six "tuck-in" operations which were
combined with existing Comfort Systems locations in 1997.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
BASIS OF PRESENTATION
For financial statement purposes, Comfort Systems has been identified as
the accounting acquirer. Accordingly, the historical financial statements
include those of Comfort Systems since December 1996. Of the 27 acquisitions
noted above, 14 were accounted for as poolings-of-interests (the "Pooled
Companies") and 13 were accounted for as purchases (the "Purchased
Companies"). These consolidated financial statements reflect the acquisitions
of the Founding Companies and Purchased Companies as of their respective
acquisition dates and reflects twelve of the Pooled Companies (the "Restated
Companies") for all periods presented. Two of the Pooled Companies are
considered immaterial poolings based upon the relative significance of their
individual operations and have not been restated for all periods presented. The
acquisitions of the Founding and Purchased Companies were accounted for using
the purchase method of accounting. The allocations of the purchase prices to the
assets acquired and liabilities assumed of these companies have been recorded
based on preliminary estimates of fair value and may be changed as additional
information becomes available.
Prior to their acquisition by Comfort Systems, five of the Pooled Companies
reported annual results based on fiscal year-ends other than December 31. An
adjustment to conform the year-ends of these companies to December 31 year-ends
was made in 1996 resulting in an increase of approximately $1.1 million to
retained earnings and cash flows for 1996.
The accompanying consolidated financial statements have been restated to
include the financial position and results of operations of various businesses
acquired in 1997 and accounted for under the pooling of interests method of
accounting.
PRINCIPLES OF CONSOLIDATION
The accompanying consolidated financial statements include the accounts of
Comfort Systems and its wholly-owned subsidiaries. All significant intercompany
accounts and transactions have been eliminated.
CASH FLOW INFORMATION
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents.
25
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED) -- (CONTINUED)
Cash paid for interest in 1995, 1996 and 1997 was approximately $242,000,
$246,000, and $492,000, respectively. Cash paid for income taxes in 1995, 1996
and 1997 was approximately $228,000, $697,000, and $985,000, respectively.
The Company recorded capital leases in 1995, 1996 and 1997 of approximately
$ -- , $ -- , and $114,000, respectively.
INVENTORIES
Inventories consist of parts and supplies held for use in the ordinary
course of business and are stated at the lower of cost or market using the
first-in, first-out method.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost, and depreciation is computed
using the straight-line method over the estimated useful lives of the assets.
Leasehold improvements are capitalized and amortized over the lesser of the
expected life of the lease or the estimated useful life of the asset.
Expenditures for repairs and maintenance are charged to expense when
incurred. Expenditures for major renewals and betterments, which extend the
useful lives of existing equipment, are capitalized and depreciated over the
remaining useful life of the equipment. Upon retirement or disposition of
property and equipment, the cost and related accumulated depreciation are
removed from the accounts and any resulting gain or loss is recognized in the
statement of operations.
GOODWILL
Goodwill represents the excess of the aggregate purchase price paid by the
Company in acquisitions accounted for as purchases over the fair value of the
net tangible assets acquired. Goodwill is amortized on a straight-line basis
over 40 years.
The Company periodically evaluates the recoverability of the remaining
balance of goodwill recorded from business acquisitions. The Company uses an
estimate of future income from operations and cash flows, as well as other
economic and business factors as a measure of recoverability of these assets.
As of December 31, 1997, accumulated amortization of goodwill was
approximately $1.9 million.
REVENUE RECOGNITION
The Company recognizes revenue when services are performed except when work
is being performed under a construction contract. Revenues from construction
contracts are recognized on the percentage-of-completion method measured by the
percentage of costs incurred to total estimated costs for each contract.
Provisions for the total estimated losses on uncompleted contracts are made in
the period in which such losses are determined. Changes in job performance, job
conditions, estimated profitability and final contract settlements may result in
revisions to costs and revenues, and their effects are recognized in the period
in which the revisions are determined.
Receivable balances billed but not paid by customers pursuant to retainage
provisions in construction contracts will be due upon completion of the
contracts and acceptance by the customer. Based on the Company's experience with
similar contracts in recent years, the retention balance will be billed and
collected in the upcoming fiscal year.
WARRANTY COSTS
The Company typically warrants labor for the first year after installation
on new air conditioning and heating systems. The Company generally warrants
labor for 30 days after servicing of existing air conditioning and heating
systems. A reserve for warranty costs is recorded upon completion of
installation or service.
26
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED) -- (CONTINUED)
INCOME TAXES
The Company will file a consolidated return for federal income tax
purposes. Income taxes are provided for under the liability method, which takes
into account differences between financial statement treatment and tax treatment
of certain transactions. Deferred tax assets represent the tax effect of
activity that has been reflected in the financial statements but which will not
be deductible for tax purposes until future periods. Deferred tax liabilities
represent the tax effect of activity that has been reflected in the financial
statements but which will not be taxable until future periods.
Certain of the Pooled Companies were S Corporations for income tax purposes
and, accordingly, any income tax liabilities for the periods prior to the
acquisition date are the responsibility of the respective stockholders. All
acquired entities are subject to corporate income taxes subsequent to their
acquisition.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires the use of estimates and assumptions by
management in determining the reported amounts of revenues, expenses, assets,
liabilities and contingent assets and liabilities at the date of the financial
statements. Actual results could differ from those estimates.
CONCENTRATIONS OF CREDIT RISK
The Company provides services to a broad range of geographical regions. The
Company's credit risk primarily consists of receivables from a variety of
customers including, general contractors, property owners and developers, and
commercial and industrial companies. The Company reviews its accounts receivable
and provides allowances as deemed necessary.
IMPAIRMENT OF LONG-LIVED ASSETS
Effective January 1, 1996, the Company adopted 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." Accordingly, in
the event that facts and circumstances indicate that property and equipment or
other assets may be impaired, an evaluation of recoverability would be
performed. If an evaluation is required, the estimated future undiscounted cash
flows associated with the asset are compared to the asset's carrying amount to
determine if a write-down to fair value is necessary. Adoption of this standard
did not have a material effect on the financial position or results of
operations of the Company.
3. BUSINESS COMBINATIONS:
POOLINGS
During 1997, the Company acquired all of the outstanding stock of the
Pooled Companies in exchange for 4,507,406 shares of Common Stock. These
acquisitions have been accounted for as poolings-of-interests as described in
Note 2. These companies provide HVAC and related services.
The historical financial statements for 1995 and 1996 represent the
operations of the Restated Companies prior to their acquisition by the Company.
The combined revenues and net income of the Pooled Companies for the
preacquisition period in 1997 were $94.6 million and $5.5 million, respectively.
PURCHASES
Subsequent to the IPO, Comfort Systems acquired the thirteen Purchased
Companies, which were accounted for as purchase transactions. These companies
provide HVAC and related services. The aggregate consideration paid in these
transactions was $14.5 million in cash, 1,092,489 shares of Common Stock with a
market value at the date of acquisition totaling $13.3 million and $5.0 million
in the form of convertible subordinated notes (the "Notes"). These notes are
convertible at various dates in 1998 or 1999
27
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED) -- (CONTINUED)
and thereafter into 225,473 or 220,449 shares of Common Stock, respectively. The
accompanying balance sheet as of December 31, 1997 includes allocations of the
respective purchase prices to the assets acquired and liabilities assumed based
on preliminary estimates of fair value and is subject to final adjustment. The
allocations resulted in $25.4 million of goodwill, which represents the excess
of purchase price over the estimated fair value of the net assets acquired for
the Purchased Companies. In conjunction with the acquisitions, goodwill was
determined as follows (in thousands):
Fair value of assets acquired, net of
cash acquired...................... $ (21,677)
Liabilities assumed.................. 17,010
Cash paid, net of cash acquired...... 11,781
Estimated market value of stock
consideration...................... 13,264
Issuance of convertible notes........ 4,978
----------
Goodwill............................. $ 25,356
==========
The unaudited pro forma data presented below consists of the income
statement data presented in these consolidated financial statements plus (a)
income statement data for the Founding Companies for the year ended December 31,
1996, and the six months ended June 30, 1997, and (b) income statement data for
the Purchased Companies as if they were effective on January 1, 1996 through the
respective dates of acquisitions (in thousands, except per share data):
YEAR ENDED DECEMBER
31,
----------------------
1996 1997
---------- ----------
(UNAUDITED)
Revenues............................. $ 328,740 $ 381,528
Net income........................... 16,543 19,294
Net income per share................. 0.64 0.76
Pro forma adjustments included in the preceding tables regarding the
Founding Companies and the Purchased Companies primarily relate to (a) certain
reductions in salaries and benefits to the former owners (the "Compensation
Differential") of the Founding Companies, Pooled Companies and Purchased
Companies which they agreed would take effect as of the acquisition date, (b)
pro forma compensation expense of $430,000 for the six months ended June 30,
1997, to reflect the ongoing salaries received by corporate management as though
these salaries were being paid prior to the Offering, (c) elimination of merger
costs in connection with the acquisition of the Pooled Companies, (d)
amortization of goodwill related to the Purchased and Founding Companies, (e)
elimination of the non-recurring, non-cash compensation charge of $11.6 million
recorded by Comfort Systems in the first quarter of 1997 related to Common Stock
issued to management of and consultants to the Company, and (f) interest expense
on borrowings of $11.0 million that would have been necessary to fund certain S
Corporation distributions as if they had occurred at the beginning of each
period presented. In addition, an incremental tax provision has been recorded as
if all applicable Purchased and Founding Companies and Pooled Companies which
were C Corporations had been subject to federal and state income taxes.
The pro forma combined results presented above are not necessarily
indicative of actual results which might have occurred had the operations and
management teams of the Company, the Founding Companies, the Purchased Companies
and Pooled Companies been combined at the beginning of the periods presented.
ADDITIONAL ACQUISITIONS
For the three months ended March 31, 1998, Comfort Systems acquired 11
additional companies, which were accounted for as purchase transactions. These
companies also provide HVAC and complementary services. The aggregate
consideration in these transactions was $16.6 million in cash, 2,220,416 shares
of Common Stock valued at $25.8 million, and $1.9 million in Notes.
Approximately $1.3 million of
28
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED) -- (CONTINUED)
these Notes are convertible at various dates in 2000, 2001 and 2002 into 53,700
shares of Common Stock, respectively. The allocation of the respective purchase
prices to the assets assumed and liabilities acquired resulted in $43.7 million
of goodwill related to the companies acquired during the first three months of
1998.
For the three months ended June 30, 1998, Comfort Systems acquired 17
additional companies, which were accounted for as purchase transactions. These
companies also provide HVAC and complementary services. The aggregate
consideration in these transactions was $36.8 million in cash, 2,016,141 shares
of Common Stock valued at $29.1 million, and $17.7 million in Notes.
Approximately all of these Notes are convertible at various dates in 1999, 2000
and 2001 into 603,430 shares of Common Stock. The allocation of the respective
purchase prices to the assets assumed and liabilities acquired resulted in $69.0
million of goodwill related to the companies acquired during the second quarter
of 1998.
For the three months ended September 30, 1998, Comfort systems acquired 12
additional companies, which were accounted for as purchase transactions. These
companies also provide HVAC and complementary services. The aggregate
consideration in these transactions was $22.6 million in cash, 1,763,928 shares
of Common Stock valued at $23.5 million, and $3.9 million in Notes. The Notes
are convertible beginning in 1999 into 149,533 shares of Common Stock. The
allocation of the respective purchase prices to the assets assumed and
liabilities acquired resulted in $41.8 million of goodwill related to the
companies acquired during the third quarter of 1998. Also during the third
quarter of 1998, the Company acquired all of the outstanding stock of three
Pooled Companies in exchange for 1,437,767 shares of Common Stock. These
acquisitions have been accounted for as poolings-of-interests.
For the three months ended December 31, 1998, Comfort Systems acquired 11
additional companies, which were accounted for as purchase transactions. These
companies also provide HVAC and complementary services. The aggregate
consideration in these transactions was $84.3 million in cash, 3,241,127 shares
of Common Stock valued at $33.3 million, and $36.9 million in Notes.
Approximately $34.1 million of these notes are convertible at various dates in
1999, 2000, 2001 into 1,403,081 shares of Common Stock. The allocation of the
respective purchase prices to the assets assumed and liabilities acquired
resulted in $122.2 million of goodwill related to the companies acquired during
the fourth quarter of 1998.
Subsequent to December 31, 1998, and through February 18, 1999, the Company
completed four additional acquisitions (the "Additional Acquisitions") for
approximately $2.1 million in cash, 156,051 shares of Common Stock and $0.4
million in Notes. Annualized revenues from the businesses acquired in the
Additional Acquisitions were approximately $9.4 million. All of these
acquisitions will be accounted for as purchase transactions.
29
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED) -- (CONTINUED)
4. PROPERTY AND EQUIPMENT:
Property and equipment consist of the following (dollars in thousands):
ESTIMATED DECEMBER 31,
USEFUL LIVES --------------------
IN YEARS 1996 1997
------------ --------- ---------
Land................................. N/A $ -- $ 95
Transportation equipment............. 3-7 4,362 14,450
Machinery and equipment.............. 3-15 2,130 7,211
Computer and telephone equipment..... 3-7 1,232 4,118
Buildings and leasehold
improvements....................... 3-20 869 3,174
Furniture and fixtures............... 3-10 677 2,625
--------- ---------
9,270 31,673
Less -- Accumulated depreciation..... 5,907 19,627
--------- ---------
Property and equipment, net..... $ 3,363 $ 12,046
========= =========
5. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS:
Activity in the Company's allowance for doubtful accounts consists of the
following (in thousands):
DECEMBER 31,
--------------------
1996 1997
--------- ---------
Balance at beginning of year......... $ 196 $ 227
Additions for bad debt expense....... 177 347
Deductions for recoveries and for
uncollectible receivables written
off................................ (146) (149)
Allowance for doubtful accounts of
Founding and Purchased Companies at
acquisition dates.................. -- 609
--------- ---------
Balance at end of year.......... $ 227 $ 1,034
========= =========
Other current liabilities consist of the following (in thousands):
DECEMBER 31,
--------------------
1996 1997
--------- ---------
Accrued warranty costs.................. $ 192 $ 1,743
Accrued insurance expense............... 118 549
Deferred income taxes................... 59 1,430
Deferred revenue........................ -- 770
Other current liabilities............... 2,424 4,794
--------- ---------
$ 2,793 $ 9,286
========= =========
30
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED) -- (CONTINUED)
Installation contracts in progress are as follows (in thousands):
DECEMBER 31,
---------------------
1996 1997
--------- ----------
Costs incurred on contracts in
progress................................ $ 25,829 $ 143,222
Estimated earnings, net of losses....... 5,947 38,966
--------- ----------
31,776 182,188
Less -- Billings to date................ 34,060 180,238
--------- ----------
$ (2,284) $ 1,950
========= ==========
Costs and estimated earnings in excess
of billings on uncompleted
contracts............................. $ 1,476 $ 12,050
Billings in excess of costs and
estimated earnings on uncompleted
contracts............................. (3,760) (10,100)
--------- ----------
$ (2,284) $ 1,950
========= ==========
6. LONG-TERM DEBT OBLIGATIONS:
Long-term debt obligations consist of the following (in thousands):
DECEMBER 31,
--------------------
1996 1997
--------- ---------
Revolving credit facility............... $ -- $ 15,300
Notes................................... -- 4,978
Other................................... 3,087 917
--------- ---------
Total long-term......................... 3,087 21,195
Less: current maturities 1,770 869
--------- ---------
$ 1,317 $ 20,326
========= =========
At December 31, 1997, future principal payments of long-term debt are as
follows (in thousands):
Year Ending December 31 --
1998............................... $ 869
1999............................... 315
2000............................... 20,011
2001............................... --
2002............................... --
Thereafter......................... --
---------
$ 21,195
=========
REVOLVING CREDIT AGREEMENT
In July 1997, the Company entered into a credit agreement with Bank One,
Texas, N.A. (the "Credit Facility"). The Credit Facility was amended and
restated in September 1997 primarily to provide for additional banks to lend to
the Company under the Credit Facility. The Credit Facility provides the Company
with an unsecured revolving line of credit of $75 million. The Company has a
choice of two interest rate options when borrowing under the Credit Facility.
Under one option, the interest rate is determined based on the higher of the
Federal Funds Rate plus 0.5% or the bank's prime rate. An additional margin of
zero to 0.25% is then added to the higher of these two rates. The additional
margin depends on the ratio of the Company's debt to earnings before interest,
taxes, depreciation and amortization for the preceding twelve months
("EBITDA"). For purposes of this ratio, EBITDA may include the preceding
31
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED) -- (CONTINUED)
twelve months' results for any companies acquired during the last year. Under
the other interest rate option, borrowings bear interest based on designated
short-term Eurodollar rates (which generally approximate the London Interbank
Offered Rates or LIBOR, as published in major financial media) plus one to two
percentage points, again depending on the ratio of debt to EBITDA. In addition,
commitment fees of 0.125% to 0.375% per annum, also depending on the ratio of
debt to EBITDA, are payable on the unused portion of the line of credit. The
Credit Facility prohibits the payment of dividends by the Company without
lender's approval and requires the Company to comply with certain financial
covenants. The Credit Facility expires on July 2, 2000, at which time all
amounts outstanding under the facility are due.
The Credit Facility was further amended in April 1998 and again in December
1998 in order to increase borrowing capacity and to provide for additional banks
to lend to the Company under the Credit Facility. The Credit Facility provides
the Company with a revolving line of credit of $300 million secured by accounts
receivable, inventory of the Company and the shares of capital stock of the
Company's subsidiaries. The Company continues to have a choice of the two
interest rate options when borrowing under the Credit Facility. Under one
option, the interest rate is determined based on the higher of the Federal Funds
Rate plus 0.5% or the bank's prime rate. An additional margin of zero to 1.25%
is then added to the higher of these two rates. Under the other interest rate
option, borrowings bear interest based on designated short-term Eurodollar rates
(which generally approximate LIBOR) plus 1.0% to 2.5%. The additional margin for
both options depends on the ratio of the Company's debt to EBITDA. Commitment
fees of 0.25% to 0.5% per annum, also depending of the ratio of debt to EBITDA,
are payable on the unused portion of the facility. The amended Credit Facility
expires on November 1, 2001, at which time all amounts outstanding under the
facility are due.
As of December 31, 1997, the Company had borrowed $15.3 million under the
Credit Facility at an average interest rate of approximately 6.7% per annum for
the second half of 1997. As of February 18, 1999 $178.6 million was outstanding
under the amended facility.
The Notes in the amount of $5 million referred to above were issued to
former owners of certain Purchased Companies as partial consideration of the
acquisition purchase price. The Notes bear interest, payable quarterly, at a
weighted average interest rate of 6.0% and are convertible by the holder into
shares of the Company's Common Stock at a weighted average price of $22.08 per
share. The terms of the Notes require $0.3 million of principal payments in 1999
and $4.7 million of principal payments at maturity in 2000.
The Company estimates the fair value of long-term debt as of December 31,
1997, to be approximately the same as the recorded value.
32
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED) -- (CONTINUED)
7. INCOME TAXES:
The Company has implemented SFAS No. 109, "Accounting for Income Taxes,"
which provides for a liability approach to accounting for income taxes. The
provision for income taxes consists of the following (in thousands):
YEAR ENDED DECEMBER 31,
-------------------------------
1995 1996 1997
--------- --------- ---------
Current --
Federal......................... $ 501 $ 893 $ 6,346
State and Puerto Rico........... 165 245 1,747
--------- --------- ---------
666 1,138 8,093
--------- --------- ---------
Deferred --
Federal......................... 96 243 (710)
State and Puerto Rico........... (20) 36 47
--------- --------- ---------
76 279 (663)
--------- --------- ---------
$ 742 $ 1,417 $ 7,430
========= ========= =========
The difference in income taxes provided for and the amounts determined by
applying the federal statutory tax rate to income before income taxes result
from the following (in thousands):
YEAR ENDED DECEMBER 31,
-------------------------------
1995 1996 1997
--------- --------- ---------
Income tax expense at the statutory
rate................................. $ 862 $ 1,752 $ 1,610
Increase (decrease) resulting from --
State income taxes, net of
related tax effect............ 148 142 1,217
Non-deductible expenses......... 26 30 401
Non-recurring, non-cash
compensation charge........... -- -- 4,045
Effect of S Corporation income
previously taxed to the former
owners........................ (294) (495) (880)
Non-deductible goodwill
amortization.................. -- -- 633
Non-deductible acquisition costs
related to Pooled Companies... -- -- 201
Provision recognized upon
termination of Subchapter S
election...................... -- -- 100
Other........................... -- (12) 103
--------- --------- ---------
$ 742 $ 1,417 $ 7,430
========= ========= =========
33
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED) -- (CONTINUED)
Deferred income tax provisions result from current period activity that has
been reflected in the financial statements but which is not includable in
determining the Company's tax liabilities until future periods. Deferred tax
assets and liabilities reflect the tax effect in future periods of all such
activity to date that has been reflected in the financial statements but which
is not includable in determining the Company's tax liabilities until future
periods.
DECEMBER 31,
--------------------
1996 1997
--------- ---------
(IN THOUSANDS)
Deferred income tax assets --
Accounts receivable and
allowance for doubtful
accounts....................... $ (55) $ (340)
Accrued liabilities and
expenses........................ (579) (1,623)
Other........................... (177) (437)
--------- ---------
Total deferred income tax
assets.................... (811) (2,400)
--------- ---------
Deferred income tax liabilities --
Property and equipment.......... 47 309
Long-term installation
contracts....................... 1,490 1,883
Other........................... 56 123
--------- ---------
Total deferred income tax
liabilities............... 1,593 2,315
--------- ---------
Net deferred income tax
(assets) liabilities...... $ 782 $ (85)
========= =========
The deferred tax assets and liabilities reflected above are included in the
consolidated balance sheet at December 31, 1997, as $2.0 million of current
deferred income tax assets in prepaid expenses and other, $0.5 million of
non-current deferred income tax assets in other non-current assets, $1.4 million
of current deferred income tax liabilities in other current liabilities and $1.0
million of non-current deferred income tax liabilities in deferred income taxes.
8. EMPLOYEE BENEFIT PLANS:
Certain of the Company's subsidiaries sponsor various retirement plans for
most full-time and some part-time employees. These plans consist of defined
contribution plans and multi-employer pension plans and cover employees at
substantially all of the Company's operating locations. The defined contribution
plans provide for contributions ranging from 1% to 5% of covered employees'
salaries or wages and totaled $1.4 million for 1995, $1.8 million for 1996 and
$1.4 million for 1997. Of these amounts, approximately $830,000 and $400,000 was
payable to the plans at December 31, 1996, and December 31, 1997, respectively.
Certain of the Company's subsidiaries also participate in several
multi-employer pension plans for the benefit of their employees who are union
members. Company contributions to these plans were approximately $0.7 million
for 1995, $0.6 million for 1996 and $0.8 million for 1997. The data available
from administrators of the multi-employer pension plans is not sufficient to
determine the accumulated benefit obligations, nor the net assets attributable
to the multi-employer plans in which Company employees participate.
9. COMMITMENTS AND CONTINGENCIES:
LEASES
The Company leases certain facilities and equipment under noncancelable
operating leases. Rent expense for the years ended December 31, 1995, 1996, and
1997 was $0.5 million, $0.5 million, and $1.8 million, respectively. Concurrent
with the acquisitions of certain Founding, Pooled and Purchased Companies, the
Company entered into various agreements with previous owners to lease land and
buildings
34
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED) -- (CONTINUED)
used in the Company's operations. The terms of these leases range from five
years to twenty years and provide for certain escalations in the rental expenses
each year. Included in the 1997 rent expenses above is approximately $1.0
million of rent paid to these related parties. The following represents future
minimum rental payments under noncancelable operating leases (in thousands):
Year ending December 31 --
1998............................ $ 3,948
1999............................ 3,508
2000............................ 3,089
2001............................ 2,580
2002............................ 2,165
Thereafter...................... 9,204
---------
$ 24,494
=========
CLAIMS AND LAWSUITS
The Company is from time to time party to litigation in the ordinary course
of business. There are currently no pending legal proceedings that, in
management's opinion, would have a material adverse effect on the Company's
operating results or financial condition. The Company maintains various
insurance coverages in order to minimize financial risk associated with certain
claims. The Company has provided accruals for probable losses and legal fees
associated with certain of these actions in the accompanying consolidated
financial statements.
10. STOCKHOLDERS' EQUITY:
COMMON STOCK AND PREFERRED STOCK
Comfort Systems effected a 121.1387-for-one stock split on March 19, 1997
for each share of Common Stock of the Company then outstanding. In addition, the
Company increased the number of authorized shares of Common Stock to 52,969,912
and authorized 5,000,000 shares of $.01 par value preferred stock. The effects
of the Common Stock split and the increase in the number of shares of authorized
Common Stock have been retroactively reflected on the balance sheet and in the
accompanying notes as applicable. Subsequent to December 31, 1997, the Company
increased the number of authorized shares of Common Stock to 102,969,912.
In connection with the organization and initial capitalization of Comfort
Systems, the Company issued 121,139 shares of Common Stock at $.01 per share to
Notre Captial Ventures II, L.L.C. ("Notre"). In January 1997, the Company
issued 2,848,773 additional shares to Notre for $.01 per share.
In January and February 1997, the Company issued a total of 1,269,935
shares of Common Stock to management of and consultants to the Company at a
price of $.01 per share. As a result, the Company recorded a non-recurring,
non-cash compensation charge of $11.6 million in the first quarter of 1997,
representing the difference between the amount paid for the shares and the
estimated fair value of the shares on the date of sale.
On June 16, 1998, the Company completed a second public offering (the
"Second Public Offering") of 400,000 shares of its Common Stock. The net
proceeds from this offering of $7.6 million were used to repay debt. On July 21,
1998, the underwriters exercised their overallotment option in connection with
the Second Public Offering completed in June 1998. An additional 61,479 shares
of Common Stock was sold and the net proceeds of $1.2 million were used to repay
debt.
35
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED) -- (CONTINUED)
RESTRICTED COMMON STOCK
In March 1997, Notre exchanged its 2,742,912 shares of Common Stock for an
equal number of shares of restricted voting common stock ("Restricted Voting
Common Stock"). The holder of Restricted Voting Common Stock is entitled to
elect one member of the Company's Board of Directors and to 0.55 of one vote for
each share on all other matters on which they are entitled to vote. Holders of
Restricted Voting Common Stock are not entitled to vote on the election of any
other directors.
Each share of Restricted Voting Common Stock will automatically convert to
Common Stock on a share-for-share basis (i) in the event of a disposition of
such share of Restricted Voting Common Stock by the holder thereof (other than a
distribution which is a distribution by a holder to its partners or beneficial
owners, or a transfer to a related party of such holders (as defined in Sections
267, 707, 318 and/or 4946 of the Internal Revenue Code of 1986, as amended)),
(ii) in the event any person acquires beneficial ownership of 15% or more of the
total number of outstanding shares of Common Stock of the Company, or (iii) in
the event any person offers to acquire 15% or more of the total number of
outstanding shares of Common Stock of the Company. After July 1,1998, the Board
of Directors may elect to convert any remaining shares of Restricted Voting
Common Stock into shares of Common Stock in the event 80% or more of the
originally outstanding shares of Restricted Voting Common Stock have been
previously converted into shares of Common Stock.
EARNINGS PER SHARE
In February 1997, the Financial Accounting Standards Board issued SFAS No.
128, "Earnings Per Share."SFAS No. 128 revises the methodology to be used in
computing earnings per share (EPS) such that the computations previously
required for primary and fully diluted EPS are to be replaced with "basic" and
"diluted" EPS. Basic EPS is computed by dividing net income by the weighted
average number of shares of common stock outstanding during the year. Diluted
EPS is computed in the same manner as fully diluted EPS, except that, among
other changes, the average share price for the period is used in all cases when
applying the treasury stock method to potentially dilutive outstanding options.
The options and Notes are not included in the weighted average shares
outstanding because they were antidilutive. The Company has adopted SFAS No. 128
and restated EPS for all periods presented.
The following table summarizes weighted average shares outstanding for each
of the periods presented (in thousands):
YEAR ENDED DECEMBER 31,
-------------------------------
1995 1996 1997
--------- --------- ---------
Shares issued in connection with the
acquisitions of Founding
Companies.......................... -- -- 5,008
Shares sold pursuant to the IPO...... -- -- 3,142
Shares held by Notre, management and
consultants........................ 4,240 4,240 4,240
Shares issued in connection with the
acquisitions of Pooled Companies... 4,439 4,439 4,507
Shares issued in connection with the
underwriter's overallotment........ -- -- 434
Shares issued in connection with the
acquisitions of the Purchased
Companies.......................... -- -- 184
--------- --------- ---------
Weighted average shares
outstanding -- Basic............... 8,679 8,679 17,515
Weighted average portion of shares
related to stock options under the
treasury stock method.............. -- -- --
Weighted average shares related to
the issuance of convertible
notes.............................. -- -- --
--------- --------- ---------
Weighted average shares
outstanding -- Diluted............. 8,679 8,679 17,515
========= ========= =========
36
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED) -- (CONTINUED)
11. STOCK OPTION PLANS:
LONG-TERM INCENTIVE PLAN
In March 1997, the Company's stockholders approved the Company's 1997
Long-Term Incentive Plan which provides for the granting or awarding of
incentive or non-qualified stock options, stock appreciation rights, restricted
or deferred stock, dividend equivalents or other incentive awards to directors,
officers, key employees and consultants to the Company.
The Company's 1997 Long-Term Incentive Plan provides for the granting of
options to key employees to purchase an aggregate of not more than 13% of the
total number of shares of the Company's Common Stock outstanding at the time of
grant. Such options have been issued by the Company at fair market value on the
date of grant and become exercisable in five equal annual installments beginning
on the first anniversary of the date of grant. The options expire after seven
years from the date of grant if unexercised. Outstanding options may be canceled
and reissued under terms specified in the plan.
The following table summarizes activity under the Company's stock option
plan:
1997
----------
Options outstanding, beginning of
year............................... --
Granted (range of exercise
prices, $13.00 to $17.88)...... 2,537,203
Forfeited (range of exercise
prices, $13.00 to $17.88)...... --
----------
Options outstanding, end of year..... 2,537,203
==========
The Company accounts for its stock-based compensation under Accounting
Principles Board Statement No. 25, "Accounting for Stock Issued to Employees"
(APB 25). Under this accounting method, no expense in connection with a stock
option is recognized in the consolidated statements of operations if the
exercise price of the option is equal to the market price of the stock on the
date of grant. In October 1995, the Financial Accounting Standards Board issued
SFAS No. 123, "Accounting for Stock-Based Compensation," which requires that
if a company accounts for stock-based compensation in accordance with APB 25,
the company must also disclose the effects on its results of operations as if an
estimate of the value of stock-based compensation at the date of grant was
recorded as an expense in the company's statement of operations. These effects
for the Company are as follows (in thousands, except per share data):
<TABLE>
<CAPTION>
1997
---------
<S> <C>
Net Loss As reported............................................................. $ (2,830)
Pro forma for SFAS No. 123.............................................. $ (3,229)
Loss Per Share As reported............................................................. $ (.16)
Pro forma for SFAS No. 123.............................................. $ (.18)
</TABLE>
Pro forma basic loss per share and diluted loss per share are the same for
SFAS No. 123 purposes.
The effects of applying SFAS No. 123 in the pro forma disclosure may not be
indicative of future amounts as additional awards in future years are
anticipated. The fair value of each option grant is estimated on the date of
grant using the Black-Scholes option-pricing model with the following
assumptions:
Expected dividend yield.............. 0.00%
Expected stock price volatility...... 39.41%
Risk free interest rate.............. 5.77%-6.15%
Expected life of options............. 7 years
Options outstanding at December 31, 1997, had exercise prices ranging from
$13.00 to $17.88, a weighted average remaining contractual life of 6.6 years, a
weighted average fair value of $4.24 per option and a weighted average exercise
price of $13.72 per option.
37
<PAGE>
COMFORT SYSTEMS USA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (RESTATED) -- (CONTINUED)
NON-EMPLOYEE DIRECTORS STOCK PLAN
In March 1997, the Company's stockholders approved the 1997 Non-Employee
Directors' Stock Plan (the "Directors' Plan"), which provides for the granting
or awarding of stock options and stock appreciation rights to non-employees. The
number of shares authorized and reserved for issuance under the Directors' Plan
is 250,000 shares. The Directors' Plan provides for the automatic grant of
options to purchase 10,000 shares to each non-employee director serving at the
commencement of the Offering.
Each non-employee director will be granted options to purchase 10,000
shares at the time of the initial election. In addition, each director will be
automatically granted options to purchase an additional 5,000 shares at each
annual meeting of the stockholders occurring more than two months after the date
of the director's initial election. All options will be granted with an exercise
price equal to the fair market value at the date of grant and are immediately
vested upon grant.
Options have been granted to three current members of the board of
directors to purchase 10,000 shares of Common Stock at the initial offering
price at the date of the IPO. These options will expire at the earlier of 10
years from the date of grant or one year after termination of service as a
director.
The Directors' Plan allows non-employee directors to receive shares
("Deferred Shares") at future settlement dates in lieu of cash. The number of
Deferred Shares will have an aggregate fair market value equal to the fees
payable to the directors and will result in compensation expense on the grant
date.
12. SIGNIFICANT VENDORS:
Significant vendors are defined as those that account for greater than 10%
of the Company's purchases. For the year ended December 31, 1997, one vendor
accounted for 10.9% of the Company's purchases. There were no significant
vendors in 1996 or 1995. The Company believes that an interruption in supply
from the significant vendor referred to above would not have a material adverse
impact on the financial position or results of operations of the Company.
13. RESTATEMENT:
The Company has restated its 1996 and 1995 consolidated financial
statements to include the results of operations and cash flows of various
businesses acquired in 1997 accounted for under the pooling of interests method
of accounting. The restatement had no effect on the 1996 financial position of
the Company. These acquisitions had been accounted for as immaterial pooling of
interest transactions for which prior periods were not restated in the Company's
previously issued financial statements included in the Company's 1997 Annual
Report on Form 10-K. The restatement resulted from a new evaluation of the
aggregate impact of individually immaterial pooling of interests transactions on
the Registrant's prior period financial statements. The effect of the
restatement is as follows: (in thousands, except per share data)
<TABLE>
<CAPTION>
DILUTED NET INCOME
(LOSS)
REVENUES NET INCOME (LOSS) PER SHARE
-------------------------------- ------------------------------- --------------------
1995 1996 1997 1995 1996 1997 1995 1996
--------- --------- ---------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
As previously reported............... $ 65,167 $ 96,296 $ 237,709 $ 1,293 $ 3,590 $ (2,830) $ .17 $ .42
Effect of restatement................ 10,382 1,019 -- 428 169 -- .03 .01
--------- --------- ---------- --------- --------- --------- --------- ---------
As restated..................... $ 75,549 $ 97,315 $ 237,709 $ 1,721 $ 3,759 $ (2,830) $ .20 $ .43
========= ========= ========== ========= ========= ========= ========= =========
<CAPTION>
1997
---------
<C>
As previously reported............... $ (.16)
Effect of restatement................ --
---------
As restated..................... $ (.16)
=========
</TABLE>
38
<PAGE>
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934, THE COMPANY HAS DULY CAUSED THIS REPORT TO BE SIGNED ON
ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED.
Date: February 18, 1998 COMFORT SYSTEMS USA, INC.
By: J. GORDON BEITTENMILLER
J. GORDON BEITTENMILLER
CHIEF FINANCIAL OFFICER
EXHIBIT 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the incorporation
of our reports included in this Form 10-K/A, into the Company's previously filed
Registration Statement File No. 333-38011.
ARTHUR ANDERSEN LLP
Houston, Texas
February 18, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> DEC-31-1997
<CASH> 14,533
<SECURITIES> 0
<RECEIVABLES> 73,826
<ALLOWANCES> 1,034
<INVENTORY> 6,214
<CURRENT-ASSETS> 110,901
<PP&E> 31,673
<DEPRECIATION> (19,627)
<TOTAL-ASSETS> 287,780
<CURRENT-LIABILITIES> 53,626
<BONDS> 0
0
0
<COMMON> 266
<OTHER-SE> 212,402
<TOTAL-LIABILITY-AND-EQUITY> 287,780
<SALES> 237,709
<TOTAL-REVENUES> 237,709
<CGS> 171,941
<TOTAL-COSTS> 171,941
<OTHER-EXPENSES> 58,464
<LOSS-PROVISION> 347
<INTEREST-EXPENSE> 63
<INCOME-PRETAX> 4,600
<INCOME-TAX> 7,430
<INCOME-CONTINUING> (2,830)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,830)
<EPS-PRIMARY> (0.16)
<EPS-DILUTED> (0.16)
</TABLE>
