<PAGE> 1
Filed Pursuant to Rule
424(b)(4)
Registration No. 333-29463
2,825,000 SHARES
[ITS LOGO]
INTERNATIONAL TOTAL SERVICES, INC.
COMMON SHARES
Of the 2,825,000 common shares, without par value (the "Common Shares"),
offered hereby, 2,597,727 shares are being offered by International Total
Services, Inc. ("ITS" or the "Company") and 227,273 shares are being offered by
Robert A. Weitzel, the Company's Chief Executive Officer (the "Selling
Shareholder"). See "Principal and Selling Shareholders."
Prior to the Offering, there has been no public market for the Common
Shares. See "Underwriting" for a discussion of the factors considered in
determining the initial public offering price. The Common Shares have been
approved for inclusion in the Nasdaq National Market, subject to official notice
of issuance, under the symbol "ITSW."
Upon completion of the Offering, the Selling Shareholder and certain
officers of the Company will collectively own approximately 53% of the
outstanding Common Shares of the Company (approximately 49% if the Underwriters
exercise the over-allotment option in full). Consequently, these persons will be
able to determine the outcome of any matter subject to a vote of a majority of
the Company's shareholders, including elections of directors.
------------------------------------
SEE "RISK FACTORS" BEGINNING ON PAGE 6 FOR A DISCUSSION OF CERTAIN FACTORS
THAT SHOULD BE CONSIDERED BY PROSPECTIVE PURCHASERS OF THE COMMON SHARES.
------------------------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
<TABLE>
<CAPTION>
===============================================================================================
PROCEEDS
PRICE UNDERWRITING PROCEEDS TO THE
TO THE DISCOUNTS AND TO THE SELLING
PUBLIC COMMISSIONS(1) COMPANY(2)(3) SHAREHOLDER
- -----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Per Share.............. $11.25 $0.7875 $10.4625 $10.4625
- -----------------------------------------------------------------------------------------------
Total(3)............... $31,781,250 $2,224,687 $27,178,719 $2,377,844
===============================================================================================
</TABLE>
(1) The Company and the Selling Shareholder have agreed to indemnify the
Underwriters against certain liabilities, including liabilities under the
Securities Act of 1933, as amended. See "Underwriting."
(2) Before deducting expenses, estimated at $1,200,000, payable by the Company.
(3) The Company has granted the Underwriters a 30-day option to purchase up to
423,750 additional Common Shares solely to cover over-allotments, if any. If
that option is exercised in full, the Price to the Public, Underwriting
Discounts and Commissions and Proceeds to the Company will be $36,548,438,
$2,558,391, and $31,612,203, respectively.
The Common Shares are offered by the Underwriters subject to receipt and
acceptance of the shares by them. The Underwriters reserve the right to reject
any orders, in whole or in part. It is expected that delivery of the Common
Shares will be made against payment therefor at the offices of McDonald &
Company Securities, Inc. or through the facilities of The Depository Trust
Company, on or about September 24, 1997.
MCDONALD & COMPANY MORGAN KEEGAN & COMPANY, INC.
SECURITIES, INC.
The date of this Prospectus is September 19, 1997.
<PAGE> 2
Photographs depicting ITS employees performing various services. Under the
caption "Passenger Services," there is a photograph of an ITS employee driving
an airport passenger cart with passengers aboard. Under the caption "Cabin
Appearance," there is a photograph of an ITS employee inspecting an aircraft
passenger compartment. Under the caption "Preboard Screening," there is a
photograph of ITS employees manning a screening checkpoint. Under the caption
"Gate/Underwing Operations," there is a photograph of ITS employees loading
baggage onto a conveyor belt.
CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS
THAT STABILIZE, MAINTAIN, OR OTHERWISE AFFECT THE PRICE OF THE COMMON SHARES,
INCLUDING BY ENTERING STABILIZING BIDS, EFFECTING SYNDICATE COVERING
TRANSACTIONS OR IMPOSING PENALTY BIDS. FOR A DESCRIPTION OF THESE ACTIVITIES,
SEE "UNDERWRITING."
2
<PAGE> 3
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by reference to, and
should be read in conjunction with, the more detailed information and financial
statements, including the notes thereto, appearing elsewhere in this Prospectus.
Except when otherwise indicated, information in this Prospectus assumes a
12,892.62-for-1 share split of the Company's Common Shares effected immediately
prior to the commencement of the Offering, and assumes no exercise of the
Underwriters' over-allotment option. The Company's fiscal year ends on March 31,
and its fiscal years are identified by reference to the calendar year in which
they begin. For example, the fiscal year ended March 31, 1997 is referred to as
"fiscal 1996."
THE COMPANY
ITS is a leading domestic provider of aviation security and other aviation
services. The Company provides aviation services for more than 60 U.S. and
international carriers at more than 120 U.S. airports. ITS has used its
predeparture screening business to establish a growing presence in the broader
aviation services market and believes that it offers a wider array of services
than its competitors in this market. Aviation services offered by ITS include
skycap, baggage handling and aircraft cleaning services, and wheelchair and
electric cart operations. The Company's security services extend beyond aviation
security, and include the provision of commercial security services to
government and business clients, hospitals, arenas and museums.
ITS's revenues have grown at a compounded annual rate of 14.2% over the
past five years, driven by growth in both aviation security and other aviation
services as well as growth resulting from acquisitions. The Company has
experienced significant revenue growth in its predeparture screening business,
attributable primarily to the trend toward consolidation in this market and the
Company's historic ability to pass on wage increases to customers. The Company's
predeparture screening revenues have grown from $47 million to $58 million from
1994 through 1996, representing a 23% increase during that period. Aviation
services have also accounted for substantial growth, as airlines have outsourced
noncore services and have begun to consolidate their vendor base to a few
leading vendors such as ITS. ITS believes that these consolidation and
outsourcing trends will continue and that it can realize additional revenue
growth by leveraging its established business presence and relationships to
deliver a wide array of services to its clients at a very competitive overall
cost. The Company's use of debt to finance this growth has resulted in
significant increases in interest expense over the past three years. In light of
the Company's debt service obligations, as well as the labor intensive nature of
its business, the Company has historically operated with a working capital
deficit. See "Business -- Growth Strategy -- Growth Through Acquisitions."
ITS's growth strategy is premised on using its experience in recruiting,
training, motivating and managing the large numbers of personnel needed to
perform the labor-intensive, task-repetitive functions that its services
require. The Company believes that it is well-positioned to realize significant
growth for the following reasons:
- Favorable growth prospects exist in the markets for aviation services and
commercial security services.
- The Company enjoys strong market position and administrative support from
its significant aviation and security experience, extensive market
breadth and competitive cost structure.
- Management is able to exploit the Company's aviation and security
experience to capture revenue in related service segments such as general
aviation services and commercial security.
- The economies of scale resulting from the Company's use of its existing
administrative resources support internal growth and acquisitions.
The Company intends to grow internally and through acquisitions. The
Company expects internal growth will be generated by using the Company's
established business base as a platform for expanding the services it provides
at existing airport and commercial security locations and for developing new
service locations. The Company intends to target acquisition candidates that
will add geographic scope to its existing businesses, broaden its service
offerings and expand its client base. ITS made two acquisitions of aviation
security contracts and four acquisitions of commercial security contracts in
fiscal 1996 that have contributed an aggregate of approximately $11.9 million in
annual revenues and have improved profitability. In addition, in April 1997, the
Company acquired service contracts from Intex Aviation Services, Inc. ("Intex").
Intex provided a variety of aviation services, including baggage handling,
lavatory and water services, de-icing services and aircraft cleaning and ground
support services. For the year ended December 31, 1996, the
3
<PAGE> 4
contracts acquired from Intex generated revenues of approximately $41.1 million.
See "Pro Forma Financial Data" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
The Company's executive offices are located at Crown Centre, 5005 Rockside
Road, Independence, Ohio 44131, and its telephone number is (216) 642-4522.
THE OFFERING
Common Shares offered...... 2,825,000
By the Company(1)........ 2,597,727
By the Selling
Shareholder.............. 227,273
Common Shares outstanding
after the
Offering(1)(2)........... 6,238,744
Use of Proceeds............ The Company intends to use the net proceeds from
the Offering: (i) to pay approximately $13.0
million of outstanding indebtedness, consisting of
(a) approximately $10.0 million outstanding under a
revolving line of credit with the Company's senior
lender, which matures on March 31, 1999 and bears
interest at the lender's prime rate plus 1 1/2% per
annum; and (b) $3 million of subordinated notes
payable to an unrelated lender, which mature on
November 25, 2001 and bear interest at an annual
rate of 20%; and (ii) for general corporate
purposes, including working capital to support the
Company's growth, and for possible acquisitions.
Nasdaq National
Market Symbol............ ITSW
- ---------------
(1) Does not include 423,750 Common Shares that may be sold by the Company if
the over-allotment option granted by the Company to the Underwriters is
exercised in full.
(2) Does not include 267,015 Common Shares reserved for issuance under the
Company's Long Term Incentive Plan or the 15,000 Common Shares reserved for
issuance to the Company's Independent Directors upon completion of the
Offering. See "Management -- Long Term Incentive Plan" and "-- Compensation
of Directors."
4
<PAGE> 5
SUMMARY FINANCIAL AND OPERATING DATA
(AMOUNTS IN THOUSANDS, EXCEPT SHARES, PER-SHARE AMOUNTS AND OPERATING DATA)
<TABLE>
<CAPTION>
YEAR ENDED MARCH 31,
-------------------------------------------------------------------------- THREE MONTHS ENDED
1997 JUNE 30,
---------------------- ----------------------
1993 1994 1995 1996 ACTUAL PRO FORMA 1996 1997
--------- --------- --------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS
DATA:
Revenues.................. $ 68,230 $ 78,173 $ 92,654 $ 95,463 $ 115,242 $156,404 $ 24,106 $ 38,364
Cost of revenues.......... 56,180 66,103 79,981 81,341 98,338 132,417 20,475 31,824
Gross profit.............. 12,050 12,070 12,673 14,122 16,904 23,987 3,631 6,540
General and administrative
expenses................ 11,916 11,075 12,655 11,603 13,334 16,449 2,772 4,639
Operating income.......... 134 995 18 2,519 3,570 7,538 859 1,901
Interest expense (income)
net..................... 22 34 188 523 637 637 99 414
Income (loss) before
income taxes............ 112 961 (170) 1,996 2,933 6,901 760 1,487
Income taxes(2)........... 109 1,035 548 958 1,237 2,898 318 634
Net income (loss)......... $ 3 $ (74) $ (718) $ 1,038 $ 1,696 $ 4,003 $ 442 $ 853
Net income (loss) per
share................... $ 0 $ (0.01) $ (0.12) $ 0.18 $ 0.33 $ 0.79 $ 0.08 $ 0.23
Supplemental pro forma net
income(3)............... $ 2,136 $ 1,098
Supplemental pro forma net
income per share(3)..... $ 0.35 $ 0.22
Weighted average common
and common equivalent
shares.................. 6,446,310 6,446,310 6,292,976 5,775,880 5,089,480 5,089,480 5,684,978 3,654,985
OPERATING DATA (AT PERIOD
END):
Number of employees....... 8,121 9,006 9,863 9,914 10,690 12,690 9,984 12,618
</TABLE>
<TABLE>
<CAPTION>
JUNE 30, 1997
AT MARCH 31, ------------------------
------------------------------------------------------------- AS
1993 1994 1995 1996 1997 ACTUAL ADJUSTED(5)
--------- --------- --------- --------- --------- --------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents......... $ 1,108 $ 769 $ 1,267 $ 1,873 $ 1,452 $ 1,711 $14,622
Working capital (deficit)......... (2,004) (1,351) (4,425) (2,951) 324 1,338 16,649
Total assets...................... 12,222 14,843 20,295 20,892 27,001 34,470 47,381
Short-term bank debt and current
maturities of long-term
obligations..................... 236 875 5,658 4,806 2,521 2,464 64
Long-term obligations, net of
current maturities(4)........... 0 0 152 164 7,556 10,755 87
Retained earnings................. 3,752 3,678 2,961 3,998 2,784 3,637 3,637
Shareholders' equity.............. 4,347 4,273 3,139 3,978 3,195 4,025 30,004
</TABLE>
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(1) Pro forma statement of operations data give effect to the Intex acquisition
as if it had occurred on April 1, 1996. See "Pro Forma Financial Data."
(2) No provision (benefit) has been provided for the portion of operating income
resulting from the profit (loss) of International Transport Security, Inc.
("Transport"), a corporation under common ownership with the Company, which
had operated as an "S" corporation prior to its dissolution in March 1996.
See Note A to Consolidated Financial Statements explaining the relationship
of Transport with the Company.
(3) The supplemental pro forma net income and net income per share data reflect
the issuance of shares necessary to repay certain indebtedness and the
related reduction in interest expense and increase in net income. See Note A
of Notes to the Consolidated Financial Statements.
(4) Includes amounts due under revolving credit facility, subordinated debt,
capital lease obligations and other long-term debt.
(5) As adjusted to give effect to the Offering and the application of the net
proceeds therefrom. See "Use of Proceeds."
5
<PAGE> 6
RISK FACTORS
In addition to the other information in this Prospectus, prospective
investors should consider carefully the following factors in evaluating an
investment in the Common Shares offered by this Prospectus.
DEPENDENCE ON AVIATION INDUSTRY
The Company's success is largely dependent on continuing demand for the
Company's services to passenger airlines. That demand is driven by domestic air
travel volume and by the travel volume experienced by, and the financial
condition of, the particular air carriers that choose ITS as a service provider.
Although the volume of air travel has grown significantly in the past ten years,
the aviation industry historically has been highly cyclical. Because the
Company's typical billing arrangements are based on the number of hours of
service provided or flights serviced by the Company, a significant industry
downturn or financial difficulties experienced by particular airline clients
could have a material adverse effect on the volume of services provided.
Additionally, the financial condition of particular airline clients can have a
material impact on the prices that they are willing to pay for the Company's
services. Consolidation in the airline industry also could result in the Company
losing contracts. Outsourcing by U.S. airlines of an increasing number of
nonflight services has increased the demand for the Company's services, but
there can be no assurance that this trend will continue or not be reversed. In
addition, the trend by airlines to select a limited number of vendors to provide
all or a large part of their predeparture screening and other services may not
continue and, if it does continue, there can be no assurance that the Company
will continue to provide the same volume of services which it currently
provides. See "Business -- Aviation Services."
DEPENDENCE ON KEY PERSONNEL
The Company's success will depend in part on the continued service of its
key employees, including, among others, Robert A. Weitzel, its Chief Executive
Officer, James O. Singer, President and Chief Operating Officer, Robert A.
Swartz, Vice President and Chief Financial Officer, and Scott E. Brewer, Vice
President and General Counsel. The loss of one or more of the Company's key
employees could have a material adverse effect on the Company. As the Company
continues to grow, it will need to recruit and retain additional qualified
management personnel, and there can be no assurance that the Company will be
able to do so. See "Management."
RISKS ASSOCIATED WITH MANAGING A GROWING BUSINESS
ITS has rapidly expanded its operations in the past several years. This
growth has placed demands on its management, administrative, operating and
financial resources. The Company's planned continued growth may place a
significant strain on the Company's resources and the Company's future success
may be dependent on its ability to augment its senior management team with
talented people. Several members of the Company's senior management team have
assumed their current positions since the beginning of fiscal 1996. There can be
no assurance that the Company will continue to attract and retain adequate
management personnel or be able to implement enhancements to its management
systems and adapt those systems to respond to changes in its business. See
"Business -- Management and Reporting Systems."
RISKS ASSOCIATED WITH ACQUISITION STRATEGY
An important element of the Company's growth strategy is the pursuit of
acquisitions. Acquisitions involve a number of risks, including potentially
adverse short-term effects on the Company's reported operating results,
potentially dilutive issuances of equity securities, the incurrence of debt and
contingent liabilities, diversion of management's attention, dependence on
retention, hiring and training of key personnel, and risks associated with
unanticipated problems or liabilities and amortization of goodwill and an
acquired company's intangible assets, some or all of which could have a material
adverse effect on the Company's business, results of operations and financial
condition. There can be no assurance that the Company will be able to identify,
acquire, integrate or profitably manage acquisitions without substantial costs,
delays or other problems. In addition, there can be no assurance that acquired
businesses will achieve or maintain revenue and
6
<PAGE> 7
profitability levels that justify the investment therein. In addition, the
Company's use of debt to finance its growth has resulted in significant
increases in interest expense over the past three years. In light of the
Company's debt service obligations, as well as the labor intensive nature of its
business, the Company has historically operated with a working capital deficit.
See "Business -- Growth Strategy -- Growth Through Acquisitions."
POTENTIAL LOSS OF INTEX CONTRACTS
The Company acquired substantially all of the contracts and goodwill of
Intex in April 1997. Prior to the acquisition, Intex lost a number of contracts
to provide cargo and mail services to Delta Airlines. The Company believes that
negative publicity relating to an alleged mail theft operation at Atlanta's
Hartsfield International Airport, which included certain former Intex employees,
may have contributed to the loss of these contracts. Since the date of the
acquisition, Intex has lost contracts that generated approximately $2.5 million
in annual revenue. The Intex asset purchase agreement provides for a purchase
price adjustment based upon a multiple of monthly revenues on the acquired
contracts for the period from April 1, 1997 to June 30, 1997. There can be no
assurance that additional contracts held by Intex prior to the acquisition and
assumed by the Company will not be terminated subsequent to the end of the
purchase price adjustment period. The loss of significant additional contracts
related to Intex's business could have a material adverse effect on the
Company's business, results of operations and financial condition. See "Pro
Forma Financial Data" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
RELATIONSHIPS WITH CUSTOMERS
ITS derives a significant portion of its revenues from relatively few
clients. In fiscal 1996, Continental Airlines, Inc., United Air Lines, Inc.,
Delta Air Lines, Inc., Southwest Airlines Co., US Airways, Inc. and Trans World
Airlines, Inc. together accounted for approximately 56% of the Company's
revenues. During fiscal 1994, 1995 and 1996, the Company's ten largest clients
accounted for an aggregate of approximately 80%, 71% and 69%, respectively, of
the Company's revenues. The Company's contracts with its clients, consistent
with general industry practice, are generally for one to three year terms but
are terminable by either party on 30 to 90 days' notice. The Company has
provided services to each of its five largest clients during each of the past
five years. While the Company believes that relationships with its customers are
generally satisfactory, it believes that its relationships with certain major
airlines are unsatisfactory. The quality of relationships with particular
customers varies from time to time as a result of customer perceptions of the
relative quality of the Company's services, the presence or absence of
performance problems and changes in personnel at the Company and at its major
customers. There can be no assurance that one or more major clients will not
terminate, elect to renegotiate or decide not to renew a Company contract or
that the Company will not lose the opportunity to provide services at one or
more client locations.
LOSS OF CONTRACTS
Over the past two fiscal years, the Company has lost contracts to provide
screening services at a number of major airports, including Los Angeles, San
Francisco, Phoenix, Minneapolis, Detroit, Boston and Ontario, California,
because of customer dissatisfaction with the Company's services at these
locations. The Company believes that the factors contributing to the lost
contracts varied from location to location, and included problems with
responsiveness and the quality of local management, as well as security breaches
at several of the Company's predeparture screening checkpoints. The Company
continues to provide services including, in some cases, screening services, at
each of these locations. Most of the contracts lost by the Company were
controlled by two airline customers who together represented approximately
16.7%, 23.7% and 23.2% of the Company's revenues in 1996, 1995 and 1994,
respectively. The lost contracts contributed $232,000 to pre-tax earnings. The
Company recognizes the need to improve its relationships with these customers,
and is making efforts to accomplish this objective. These efforts include the
addition of a new Chief Operating Officer with established relationships with
several major airlines, and efforts to improve the quality of local and district
management personnel. The loss of one or more major clients or of significant
service sites may have a material adverse effect on the Company. See
"Business -- Customers and Contract Terms."
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<PAGE> 8
IMPACT OF NEGATIVE PUBLICITY
The Company's business is subject to public scrutiny and, consequently, can
be materially affected by negative publicity or negative public reaction with
respect to the Company's policies or operations or the actions of its employees.
The Company has experienced negative publicity from time to time, including
publicity arising from security breaches at predeparture screening checkpoints
in Albany, New York and San Jose, California (as a consequence of which the
Company lost several predeparture screening contracts); an incident involving
theft by a former employee in Tampa, Florida; and a checkpoint security test
failure at an airport in Islip, New York. Future negative publicity could have a
material adverse effect on the Company's business, results of operations and
financial condition.
PROBLEMS WITH LOCAL MANAGEMENT SYSTEMS AND CONTROLS
The nature of the Company's operations requires it to maintain local
management systems and controls sufficient to identify and prevent regulatory
violations, theft or other illegal activities by employees and billing
irregularities at its locations. The Company's large, low-wage workforce and
high turnover rates increase the difficulties associated with establishing and
maintaining effective management controls at the local level. The Company has
experienced control-related problems at various locations involving employees'
compliance with regulatory requirements regarding training records and
background checks, and involving employee theft. Some of these incidents have
had a material adverse effect on customer relationships and have led to the
termination of client contracts. For example, the failure of a local manager to
conduct proper background checks led to the loss of contracts, which had
generated annual revenue of $1.3 million, to provide predeparture screening
services at the airport in Ontario, California. Because of the nature of the
Company's business, there can be no assurance that control-related problems will
not arise in the future. See "Business -- Workforce Management."
LIMITED HISTORY OF PROFITABLE OPERATIONS
Although ITS had net income of $1.7 million and $1.0 million for fiscal
1996 and fiscal 1995, respectively, the Company had net losses of $718,000 and
$74,000 for fiscal 1994 and 1993, respectively. There can be no assurance that
the Company's business strategies will be successful or that the Company will be
able to achieve consistent revenue growth or profitability on a quarterly or
annual basis. The Company may experience significant fluctuations in future
operating results as a result of a number of factors, including the costs
associated with future acquisitions, the profitability of acquired operations,
changes in the regulatory environment, and increased competition in the
industries the Company serves.
COMPETITION
The Company believes that its aviation security, other aviation services
and commercial security clients view price as the overriding consideration in
vendor selection and retention. Other important considerations include the
quality of services provided, the geographic availability of services and the
range of services available. The Company competes with outsourcing companies,
specialized contract service providers and its clients' and potential clients'
internal service staffs. While substantial consolidation is occurring in the
predeparture screening market, the markets for other aviation services and
commercial security services remain highly fragmented, with limited barriers to
entry.
Certain of the Company's competitors and potential competitors have
significantly greater financial resources and larger operations than the
Company, and may therefore be better situated to take advantage of expansion
opportunities arising from industry consolidation trends. The Company expects
that the level of competition that it faces will remain high or increase in the
future, and there can be no assurance that the Company will continue to compete
successfully. See "Business -- Competition and Marketing."
EMPLOYEE TURNOVER
The Company's business is very labor intensive and is characterized by high
rates of personnel turnover, continuous training requirements and periodic
shortages of personnel in some markets. During each of the past
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<PAGE> 9
three fiscal years, the Company's employee turnover rate has been approximately
100%. A higher turnover rate among the Company's employees would increase the
Company's recruiting and training costs and may adversely affect productivity.
If the Company were unable to recruit and retain sufficient personnel, it would
be forced to limit its growth or possibly reduce the scope of its operations.
Because employee turnover is inherent in the nature of its business, ITS
allocates significant resources to recruiting potential employees. Each
applicant must complete an interview and a written application that includes
inquiry concerning prior criminal convictions. In addition, FAA regulations
require that each applicant provide proof of citizenship or resident alien
status, and each applicant is subject to a five- or ten-year background
verification, depending upon the position, and a pre-employment drug screen. For
persons with unescorted access to secured areas, a criminal background
verification procedure, which is conducted by the Federal Bureau of
Investigation, is triggered by any 12-month gap in employment history that can
not be explained through independent verification. The Company's policy is not
to hire applicants whose criminal background checks reveal prior criminal
convictions. The Company believes that it operates its business in substantial
compliance with applicable FAA regulatory requirements, including those relating
to background verification. The Company from time to time must increase its wage
rates and employee benefits in order to attract and retain sufficient qualified
employees. Because the Company may not always be able to have its clients absorb
the attendant additional costs, these increases can adversely affect the
Company's financial performance. See "Business -- Workforce Management."
FAILURE TO MEET PERFORMANCE REQUIREMENTS
The Company's success will depend on its ability to continue to meet the
performance requirements set by its clients and the government agencies that
regulate them. The Company is subject to random periodic testing by the Federal
Aviation Administration (the "FAA") with regard to adherence to regulations
relating to predeparture screening and passenger profiling, hiring practices
(including background checks, drug testing, training and employee file
maintenance), baggage handling, aircraft security, and document verification.
The services provided by the Company require it to train and manage effectively
low wage workforces with high turnover rates. From time to time, the Company has
failed to meet test standards or a client's service expectations at a particular
location, and, like its competitors, has had contracts terminated because of
customer dissatisfaction with various aspects of its performance. The risk of
contract termination as a result of actual or perceived service failures is
enhanced by the substantial publicity that, because of public concern over
airline security issues, often attends errors in the provision of screening
services. Failure to meet test or other performance standards may result in the
loss of a contract or service location or the Company's license to perform
services, and any such loss could have a material adverse effect on the
Company's reputation, business, results of operations and financial condition.
See "Business -- Aviation Services" and "-- Government Regulation."
EMPLOYEE-RELATED COSTS AND CLAIMS EXPOSURE
The Company is required to pay unemployment insurance premiums and workers'
compensation benefits for its employees in the United States. Any increase in
the cost of unemployment insurance or workers' compensation benefits could
adversely affect the Company's profitability. The Company is self-insured for
the first $250,000 of each workers' compensation claim and the first $200,000 of
each liability claim and, accordingly, establishes reserves for future claims
and payments. During fiscal 1996, the Company also implemented a medical
insurance program covering substantially all of its hourly workers. That program
provides medical benefits to eligible employees with minimal employee
contribution. The program provides employees with maximum annual benefits of
$10,000, for which the Company is self-insured and, accordingly, establishes
reserves for future claims and payments. The Company has only recently
established this program, and has less experience on which to base its judgments
concerning reserve levels than it does with respect to its workers' compensation
and liability self-insurance programs. There can be no assurance that the
Company's actual workers' compensation, liability or medical insurance claims
will not exceed the amount of the Company's reserves. Furthermore, there can be
no assurance that the Company will be able to pass along to its clients any
increased costs related to unemployment, workers' compensation and medical
claims. See "Business -- Workforce Management."
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GOVERNMENT REGULATION
Aviation security matters affecting airports and passenger airlines are
subject to regulation by the FAA and foreign governmental agencies. Demand for
the Company's predeparture screening, passenger profiling and various other
services is significantly affected by applicable regulatory requirements and
security directives issued by governmental authorities. Typically, these
authorities react to terrorist or other criminal activity, or threats of such
activity, in a manner that increases the demand for the Company's aviation
security services. That demand can thereafter diminish as the perceived threat
diminishes. In addition, there can be no assurance that applicable regulations
will not be changed generally in a manner that would affect adversely the demand
for the Company's services. In the Federal Aviation Reauthorization Act of 1996,
Congress directed the FAA, among other things, to develop and implement
certification procedures for providers of predeparture screening services. The
FAA has issued an Advance Notice of Proposed Rulemaking, soliciting comment on a
number of issues relating to the certification of screening companies, but has
not promulgated any proposed rules concerning implementation of the
certification directive. The Company is unable to predict the nature and extent
of any such regulations or their potential impact on its business. Major U.S.
airlines have considered the creation of a nationwide nonprofit security
corporation, funded by the airlines, to handle airport security. Any trend
toward the relaxation of aviation security measures or a shift in responsibility
for aviation security functions could have a material adverse effect on the
Company's business, results of operations or financial condition. In addition,
the Company currently has licenses to operate in several of the major
international airports in Western Europe where licenses are required. The loss
of or failure to obtain a license to operate in one or more airports is likely
to result in the loss of, or the inability to compete for, a major contract. See
"Business -- Government Regulation."
LIABILITIES FOR CLIENT AND EMPLOYEE ACTIONS AND OTHER CLAIMS
Because the Company's employees function in public facilities and in the
workplaces of other businesses, the Company is exposed to possible claims by its
clients' customers and employees of discrimination, harassment, negligence, and
similar claims. The Company is subject to liability for the acts or negligence
of its employees while on assignment that cause personal injury or damages and
to claims of misuse of client proprietary information or theft of client
property. As a provider of security services, the Company faces potential
liability for claims that may arise from any terrorist activity occurring in
circumstances associated with the Company. Although the Company maintains
insurance coverage against such potential liabilities, any such claim against
the Company might exceed the amount of such insurance coverage or fall outside
the type of activities covered by such insurance. Any of these situations could
have a material adverse effect on the Company's business, results of operations
or financial condition. See "Business -- Workforce Management" and "-- Legal
Proceedings."
FLUCTUATIONS IN QUARTERLY OPERATING RESULTS
The Company experiences quarterly variations in revenues and operating
income as a result of various factors, including the timing of commencement of
new contracts, changes in its revenue mix, the timing of additional selling,
general and administrative expenses incurred to support new business, the
seasonality of air travel and the effect of acquisitions. The Company's revenues
are typically based on the number of hours of service provided by the Company or
the number of flights serviced. Thus, decreases in air travel generally result
in lower revenues for the Company. While the effects of seasonality on ITS's
business often are obscured by the timing of the addition of new clients and the
performance of new services for existing clients, revenues and operating income
typically are at their lowest levels in the first and fourth quarters of the
fiscal year. During fiscal 1996, operating income for the first and fourth
quarters amounted to $858,000 and $444,000, respectively, or 24.0% and 12.4% of
total operating income for the fiscal year. During fiscal 1995, operating income
for the first and fourth quarters amounted to $592,000 and $414,000,
respectively, or 23.5% and 16.4% of total operating income for the fiscal year.
This reflects lower levels of air travel during these periods and certain
additional expenses, such as annual unemployment insurance premiums, that become
payable with the commencement of a new calendar year. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations -- Quarterly Results and Seasonality."
10
<PAGE> 11
LACK OF CASH DIVIDENDS
The Company does not expect to pay any cash dividends on the Common Shares
in the foreseeable future. Any cash otherwise available for such dividends will
be reinvested in the Company's business. In addition, the Company's ability to
pay cash dividends is limited by the terms of its revolving line of credit from
its senior lender. See "Dividend Policy."
GRANT OF SECURITY INTERESTS
The Company has granted security interests in substantially all of its
assets to its senior lender under a revolving line of credit. In the event of a
default on the secured indebtedness (whether as a result of the failure to
comply with a payment or other covenant, a cross-default, or otherwise), the
lender could attempt to foreclose on the Company's assets. Any such attempt
would be likely to have a material adverse effect on the Company's financial
condition and on the value of the Common Shares.
CONTROL BY PRINCIPAL SHAREHOLDER
Immediately following the Offering, Robert A. Weitzel will beneficially own
approximately 51% of the outstanding Common Shares (approximately 48% if the
Underwriters' over-allotment option is exercised in full). As a result, Mr.
Weitzel will continue to exercise substantial influence over the election of the
Board of Directors and over other matters requiring shareholder approval. This
concentration of voting power may also have the effect of delaying or preventing
a change in control of the Company. See "Management," "Principal and Selling
Shareholders" and "Description of Capital Shares."
NO PRIOR PUBLIC MARKET FOR COMMON SHARES; POTENTIAL VOLATILITY OF SHARE PRICE
Prior to the Offering, there has been no public market for the Common
Shares, and there can be no assurance that an active trading market will develop
or be sustained after the Offering. The initial public offering price has been
determined through negotiations between the Company and the Representatives of
the Underwriters based on various considerations and may not be indicative of
the price at which the Common Shares will trade after the Offering. See
"Underwriting" for a discussion of the factors considered in determining the
initial public offering price. The market price of the Common Shares may be
volatile and may be significantly affected by factors such as actual or
anticipated fluctuations in the Company's operating results, announcements of
new services offered by the Company or its competitors, developments with
respect to conditions and trends in the industries served by the Company,
governmental regulation, changes in estimates by securities analysts of the
Company's future financial performance, general market conditions and other
factors. In addition, the stock markets have from time to time experienced
significant price and volume fluctuations that have adversely affected the
market prices of securities of companies for reasons often unrelated to their
operating performance.
SHARES ELIGIBLE FOR FUTURE SALE
No prediction can be made as to the effect, if any, that future sales, or
the availability of Common Shares for future sale, by the Company or by its
executive officers, directors and current shareholders will have on the market
price of the Common Shares prevailing from time to time. Sales of substantial
amounts of Common Shares (including shares issued on the exercise of options),
or the perception that such sales could occur, could adversely affect prevailing
market prices for the Common Shares. The Company and its directors, officers and
current shareholders have agreed not to sell, offer for sale, or otherwise
dispose of any Common Shares for a period of 180 days from the date of this
Prospectus without the prior written consent of McDonald & Company Securities,
Inc. Upon expiration of this period, an aggregate of 64,462 Common Shares will
be eligible for sale in the public market without restriction. An additional
3,276,180 Common Shares will be eligible for resale by existing shareholders,
subject to the volume and manner of sale limitations imposed by Rule 144 under
the Securities Act of 1933, as amended (the "Securities Act"). The Company
expects to file, within 180 days after the Offering, a registration statement
covering the issuance of shares
11
<PAGE> 12
underlying share options granted under the Company's Long Term Incentive Plan.
See "Shares Eligible for Future Sale."
CERTAIN ANTI-TAKEOVER PROVISIONS
Chapter 1704 of the Ohio Revised Code prohibits certain transactions,
including mergers, sales of assets and similar corporate transactions involving
Ohio corporations and holders of 10% or more of their voting shares, unless
certain advance approvals are obtained or certain other conditions are met.
Section 1701.831 of the Ohio Revised Code imposes certain advance notice and
shareholder approval requirements with respect to voting share acquisitions that
cross the 20%, 33 1/3% and 50% of voting shares thresholds. Section 1707.041 of
the Ohio Revised Code imposes advance filing and notice requirements with
respect to certain tender offers and invitations for tenders for more than 10%
of the outstanding common shares of certain Ohio corporations. The Company's
Articles of Incorporation authorize the Company's Board of Directors, without
action by the shareholders, to specify the terms of and to issue preferred
shares of the Company. These restraints, requirements and authorizations, and
the substantial percentage of Common Shares that Mr. Weitzel will hold following
the Offering, could discourage potential acquisition proposals and could delay
or prevent a change in control of the Company. See "Description of Capital
Shares."
IMMEDIATE AND SUBSTANTIAL DILUTION
At June 30, 1997, the Company had a net tangible book value deficit of
$(1.60) per share. Purchasers of Common Shares in the Offering will incur
immediate and substantial dilution of $8.03 in the net tangible book value per
Common Share, based on the initial public offering price of $11.25 per share.
The net tangible book value deficit before the offering approximated $5.8
million, and the net tangible book value following the offering is expected to
approximate $20.1 million. Accordingly, investors will have paid 100% of the
Company's total net tangible book value after the offering and will have an
ownership interest in the Company, at June 30, 1997, of approximately 41.6%. See
"Dilution."
FORWARD-LOOKING STATEMENTS
This Prospectus contains statements that constitute forward-looking
statements. Those statements appear in a number of places in this Prospectus and
include statements regarding the intent, belief or current expectations of the
Company, its directors or its officers with respect to: (i) the declaration or
payment of dividends; (ii) potential acquisitions by the Company; (iii) the use
of the proceeds of the Offering; (iv) the Company's financing plans; and (v)
trends affecting the Company's financial condition or results of operations.
Prospective investors are cautioned that any such forward-looking statement
is not a guarantee of future performance and involves risks and uncertainties,
and that actual results may differ materially from those in the forward-looking
statement as a result of various factors. The accompanying information contained
in this Prospectus, including, without limitation, the information set forth
above and the information under the headings "Management's Discussion and
Analysis of Financial Condition and Results of Operations," identifies important
factors that could cause such differences. With respect to any such
forward-looking statement that includes a statement of its underlying
assumptions or bases, the Company cautions that, while it believes such
assumptions or bases to be reasonable and has formed them in good faith, assumed
facts or bases almost always vary from actual results, and the differences
between assumed facts or bases and actual results can be material depending on
the circumstances. When, in any forward-looking statement, the Company, or its
management, expresses an expectation or belief as to future results, that
expectation or belief is expressed in good faith and is believed to have a
reasonable basis, but there can be no assurance that the stated expectation or
belief will result or be achieved or accomplished.
12
<PAGE> 13
USE OF PROCEEDS
The net proceeds to be received by the Company from the sale of the
2,597,727 Common Shares offered by the Company are approximately $26.0 million,
after deducting underwriting discounts and commissions and estimated offering
expenses payable by the Company.
The Company intends to use the net proceeds from the Offering: (i) to pay
approximately $13.0 million of outstanding indebtedness, consisting of (a)
approximately $10.0 million outstanding under a revolving line of credit with
the Company's senior lender, which matures on March 31, 1999 and bears interest
at the lender's prime rate plus 1 1/2% per annum, and (b) $3.0 million of
subordinated notes payable to an unrelated lender, which mature on November 25,
2001 and bear interest at an annual rate of 20%; and (ii) for general corporate
purposes, including working capital to support the Company's growth and for
possible acquisitions. The Company used approximately $1.2 million of the
proceeds of the subordinated notes to purchase 2,002,727 of the Company's Common
Shares from a former shareholder and approximately $1.4 million of the
subordinated notes to acquire certain security contracts from JJ Protective
Services, Inc. in November 1996. The remainder of the proceeds of the
subordinated notes was used for working capital.
Although the Company regularly evaluates possible acquisition
opportunities, it is not currently engaged in any negotiations and is not a
party to any agreement, letter of intent or other arrangement regarding any
material acquisition. Pending the use of proceeds as described above, the net
proceeds will be invested in short-term, interest-bearing, investment grade
securities. See "Business -- Growth Strategy -- Growth Through Acquisitions."
DIVIDEND POLICY
The Company has never paid cash dividends on its Common Shares. The Company
does not anticipate paying cash dividends on its Common Shares in the
foreseeable future because it intends to retain its earnings to finance the
expansion of its business and for general corporate purposes. The declaration
and payment of any dividends will be at the discretion of the Company's Board
and will depend on, among other things, the Company's earnings, financial
condition, capital requirements, level of indebtedness, contractual restrictions
with respect to payment of dividends and other factors considered relevant by
the Board. The Company's current credit arrangements prohibit the payment of
dividends. The credit arrangements anticipated to be entered into after the
Offering will permit the payment of dividends, subject to certain restrictions.
See "Management's Discussion and Analysis of Financial Condition and Result of
Operations -- Liquidity and Capital Resources."
13
<PAGE> 14
DILUTION
The net tangible book value of the Company as of June 30, 1997 was a
deficit of $(5,834,162) or $(1.60) per share. The net tangible book value per
Common Share represents the amount of the Company's shareholders' equity, less
intangible assets, divided by the 3,653,910 Common Shares outstanding at that
date.
Net tangible book value dilution per Common Share represents the difference
between the amount per share paid by purchasers of the 2,825,000 Common Shares
in the Offering and the net tangible book value per Common Share immediately
after completion of the Offering. After giving effect to the sale by the Company
of the 2,597,727 Common Shares offered hereby, at the initial public offering
price shown on the cover page of this Prospectus and after deduction of
underwriting discounts and commissions and estimated offering expenses, the net
tangible book value of the Company as of June 30, 1997 would have been
approximately $20,145,000 or $3.22 per share. This represents an immediate
increase in net tangible book value of $4.82 per share to existing shareholders
and an immediate dilution in net tangible book value of $8.03 per share to
purchasers of Common Shares in the Offering, as illustrated in the following
table:
<TABLE>
<S> <C> <C>
Initial public offering price per share............................ $11.25
Net tangible book value per share at June 30, 1997............ $(1.60)
Increase per share attributable to new investors.............. $ 4.82
------
Net tangible book value per share after the Offering............... $ 3.22
------
Net tangible book value dilution per share to new investors........ $ 8.03
======
</TABLE>
The following table sets forth, on a pro forma basis as of June 30, 1997,
the differences between the number of Common Shares purchased from the Company,
the effective cash contributed and the average price per share paid by existing
shareholders and by new investors purchasing Common Shares in the Offering at
the initial public offering price shown on the cover page of this Prospectus:
<TABLE>
<CAPTION>
TOTAL CONSIDERATION
SHARES PURCHASED --------------------------------------------
------------------------ AVERAGE PRICE
NUMBER PERCENTAGE AMOUNT PERCENTAGE PER SHARE
--------- ---------- ----------- ---------- -------------
<S> <C> <C> <C> <C> <C>
Existing shareholders(1)....... 3,653,910 58.4% $ 36,397 0.1% $ 0.01
New investors.................. 2,597,727 41.6% $29,224,429 99.9% $ 11.25
--------- -----
6,251,637 100.0%
</TABLE>
- ---------------
(1) The number of shares shown excludes an aggregate of 282,015 Common Shares
reserved for issuance under the Company's option plans, 215,262 of which are
expected to be subject to options to be awarded in connection with the
Offering. See "Management -- Compensation of Directors" and "-- Long Term
Incentive Plan." Sales of Common Shares by the Selling Shareholder in the
Offering will reduce the number of Common Shares held by existing
shareholders to approximately 3,426,637 shares, or 54.8% of the total shares
outstanding, and will increase the number of shares held by new investors to
2,825,000, or 45.2% of the total shares outstanding.
14
<PAGE> 15
CAPITALIZATION
The following table sets forth the capitalization of the Company as of June
30, 1997, as adjusted to give effect to the sale by the Company of the 2,597,727
Common Shares offered by the Company, at the initial public offering price shown
on the cover page of this Prospectus and the application of the estimated net
proceeds therefrom as set forth under "Use of Proceeds." This table should be
read in conjunction with the Pro Forma Financial Data and the Consolidated
Financial Statements of the Company and the notes thereto included elsewhere in
this Prospectus.
<TABLE>
<CAPTION>
JUNE 30, 1997
-----------------------
ACTUAL AS ADJUSTED
------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C>
Short-term debt and current maturities of long-term debt............. $ 2,464 $ 64
======= =======
Long-term debt, net of current maturities(1)......................... 10,755 87
------- -------
Shareholders' equity
Preferred shares, without par value; 5,000,000 shares authorized;
none issued or outstanding......................................
Common shares, without par value, 20,000,000 shares authorized;
3,653,910 shares issued and outstanding and 6,251,637 issued and
outstanding as adjusted(2)...................................... 37 63
Additional paid-in capital(2)...................................... 450 26,403
Retained earnings.................................................. 3,637 3,637
Cumulative translation adjustments................................. (99) (99)
------- -------
Total shareholders' equity................................. 4,025 30,004
------- -------
Total capitalization....................................... $14,780 $30,091
======= =======
</TABLE>
- ---------------
(1) Consists of a revolving bank debt of $7,668 and subordinated debt of $3,000,
all of which is being repaid from the proceeds of the Offering, and $87 of
capital lease obligations and other long-term debt.
(2) Excludes an aggregate of 282,015 Common Shares issuable pursuant to options
to be awarded to certain officers under the Company's Long Term Incentive
Plan and to certain directors in connection with the Offering. See
"Management -- Employment Contracts" and "-- Compensation of Directors."
15
<PAGE> 16
PRO FORMA FINANCIAL DATA
(AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
The following sets forth an Unaudited Pro Forma Combined Income Statement
giving effect to the Intex acquisition (as described under "Business -- Growth
Strategy -- Growth Through Acquisitions"). The historical information in this
pro forma statement for the Company is for the year ended March 31, 1997;
historical information for Intex is for the year ended December 31, 1996. The
Company's Unaudited Pro Forma Combined Income Statement presents the effects of
the acquisition as if it had been consummated at the beginning of the periods
presented. The Unaudited Pro Forma Combined Income Statement of the Company is
presented for illustrative purposes only and does not purport to present the
results of operations of the Company had the Intex acquisition occurred on the
dates indicated, nor is it necessarily indicative of results of operations that
may be expected in the future.
The pro forma adjustments relating to the acquisition represent the
Company's preliminary determinations of purchase accounting adjustments based
upon available information and certain assumptions the Company considers
reasonable under the circumstances.
An Unaudited Pro Forma Combined Balance Sheet is not presented since the
acquisition is reflected in the Company's consolidated historical balance sheet
as of June 30, 1997 included in this filing.
The following unaudited pro forma combined financial information should be
read in conjunction with the more detailed information, including the Financial
Statements and Notes thereto, included elsewhere in this Prospectus.
UNAUDITED PRO FORMA COMBINED INCOME STATEMENT
YEAR ENDED
(AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
<TABLE>
<CAPTION>
ITS INTEX ADJUSTMENTS FOR ADJUSTED
MARCH 31, 1997 DECEMBER 31, 1996 ACQUISITION PRO FORMA
-------------- ----------------- --------------- ---------
<S> <C> <C> <C> <C>
Operating Revenues................. $ 115,242 $41,162 (1) $ 156,404
(1)
Cost of Operating Revenues......... 98,338 35,877 (1,798)(2) 132,417
---------- ------- ------- ---------
Gross Profit....................... 16,904 5,285 1,798 23,987
General and Administrative
Expenses......................... 13,334 3,192 (377)(3) 16,449
384 (4a)
(84)(4b)
---------- ------- ------- ---------
Operating Profit................... 3,570 2,093 1,875 7,538
Interest Expense -- net............ 637 533 (533)(5) 637
---------- ------- ------- ---------
Earnings Before Income Taxes....... 2,933 1,560 2,408 6,901
Income Taxes....................... 1,237 40 1,621 (6) 2,898
---------- ------- ------- ---------
Net Earnings....................... $ 1,696 $ 1,520 $ 787 $ 4,003
========== ======= ======= =========
Weighted Average Number Of
Shares Outstanding............... 5,089,480 11,250 n/a 5,089,480
---------- ------- ------- ---------
Earnings Per Share(7).............. $ 0.33 $135.07 n/a $ 0.79
========== ======= ======= =========
</TABLE>
16
<PAGE> 17
- ---------------
1. Adjustments have not been made to reflect operating revenues and cost of
operating revenues associated with contracts lost by Intex during 1996,
amounting to $9.6 million and $8.7 million, respectively, or for contracts
representing $2.5 million in annual revenues lost since April 1997.
2. Represents a reduction in Intex's historical costs for workers'
compensation, liability insurance, medical insurance and personnel relations
to conform them to the cost structure associated with the Company's
programs.
3. Represents a reduction in compensation expense associated with the
elimination of certain salaries paid to Intex officers not employed by the
Company subsequent to the acquisition.
4a. Represents the additional depreciation and amortization costs to be charged
to expense after allocation of the purchase price in the Intex acquisition
as follows:
<TABLE>
<S> <C>
- amortization of service contracts (5 years)........................... $ 115
- depreciation of furniture and fixtures (5 years)...................... 10
- amortization of goodwill (20 years)................................... 259
------
$ 384
======
4b. Elimination of Intex's historical depreciation................................ $ 84
======
</TABLE>
5. Represents the reduction of interest expense for interest on Intex debt not
assumed with the contract acquisition.
6. Represents an adjustment to the historical provision for income taxes to
reflect the application of the Company's estimated effective tax rate of 42%
after giving effect to the foregoing adjustments and to make a provision for
income taxes of Intex, which had previously operated as an S corporation.
7. Earnings per share are computed by dividing net earnings, after giving
effect to preferred dividend requirements, by the weighted average number of
shares outstanding.
17
<PAGE> 18
SELECTED CONSOLIDATED FINANCIAL INFORMATION
(AMOUNTS IN THOUSANDS, EXCEPT SHARES, PER SHARE AMOUNTS AND OPERATING DATA)
The selected financial data of the Company for the years ended March 31,
1995, March 31, 1996 and March 31, 1997 are derived from audited financial
statements. These financial statements and the notes thereto appear elsewhere in
this Prospectus. The selected financial data of the Company for the three months
ended June 30, 1997, the three months ended June 30, 1996 and the years ended
March 31, 1993 and March 31, 1994 have been derived from unaudited financial
statements. Those unaudited financial statements include all adjustments,
consisting only of normal recurring accruals, which the Company considers
necessary for a fair presentation of its financial position and results of
operations for those periods. The data should be read in conjunction with
Management's Discussion and Analysis of Financial Condition and Results of
Operations, Use of Proceeds, Pro Forma Financial Data and the Consolidated
Financial Statements and the notes thereto, and the other financial information
included elsewhere in this Prospectus.
<TABLE>
<CAPTION>
YEAR ENDED MARCH 31, THREE MONTHS THREE MONTHS
--------------------------------------------------------- ENDED ENDED
1993 1994 1995 1996 1997 JUNE 30, 1996 JUNE 30, 1997
--------- --------- --------- --------- --------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS
DATA:
Revenues................. $ 68,230 $ 78,173 $ 92,654 $ 95,463 $ 115,242 $ 24,106 $ 38,364
Cost of revenues......... 56,180 66,103 79,981 81,341 98,338 20,475 31,824
-------- -------- -------- -------- -------- -------- --------
Gross profit............. 12,050 12,070 12,673 14,122 16,904 3,631 6,540
General and
administrative
expenses............... 11,916 11,075 12,655 11,603 13,334 2,772 4,639
-------- -------- -------- -------- -------- -------- --------
Operating income......... 134 995 18 2,519 3,570 859 1,901
Interest expense (income)
net.................... 22 34 188 523 637 99 414
-------- -------- -------- -------- -------- -------- --------
Income (loss) before
income taxes........... 112 961 (170) 1,996 2,933 760 1,487
Income taxes(2).......... 109 1,035 548 958 1,237 318 634
-------- -------- -------- -------- -------- -------- --------
Net income (loss)...... $ 3 $ (74) $ (718) $ 1,038 $ 1,696 $ 442 $ 853
======== ======== ======== ======== ======== ======== ========
Net income (loss) per
share.................. $ 0.00 $ (0.01) $ (0.11) $ 0.18 $ 0.33 $ .08 $ 0.23
Supplemental Pro Forma
Net Income............. $ 2,136 $ 1,098
Supplemental Pro Forma
Net Income Per Share... $ 0.35 $ 0.22
Weighted average common
and common equivalent
shares................. 6,446,310 6,446,310 6,292,976 5,775,880 5,089,480 5,684,978 3,654,985
OPERATING DATA (AT PERIOD
END):
Number of employees...... 8,121 9,006 9,863 9,914 10,690 9,984 12,618
</TABLE>
18
<PAGE> 19
<TABLE>
<CAPTION>
MARCH 31, THREE MONTHS
--------------------------------------------------------- ENDED
1993 1994 1995 1996 1997 JUNE 30, 1997
--------- --------- --------- --------- --------- -------------
<S> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents............ $ 1,108 $ 769 $ 1,267 $ 1,873 $ 1,452 $ 1,711
Working capital (deficit)............ (2,004) (1,351) (4,425) (2,951) 324 1,338
Total assets......................... 12,222 14,843 20,295 20,892 27,001 34,470
Short-term bank debt and current
maturities of long-term debt....... 236 875 5,658 4,806 2,521 2,464
Long-term obligations, net of current
maturities(3)...................... 0 0 152 164 7,556 10,755
Retained earnings.................... 3,752 3,678 2,961 3,998 2,784 3,637
Shareholder's equity................. 4,347 4,273 3,139 3,978 3,195 4,025
</TABLE>
- ---------------
(1) The supplemental pro forma net income and net income per share reflect the
issuance of shares necessary to repay certain indebtedness and the related
reduction in interest expense and increase in net income. See Note A of
Notes to the Consolidated Financial Statements.
(2) No provision (benefit) has been provided for the portion of operating income
resulting from the profit (loss) of International Transport Security, Inc.,
a corporation under common ownership with the Company, which had operated as
an "S" corporation. See Note A to Consolidated Financial Statements
explaining the relationship of Transport with the Company.
(3) Includes amounts due under revolving credit facility, subordinated debt,
capital lease obligations and other long-term debt.
19
<PAGE> 20
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
ITS provides aviation security, ramp and ground handling and passenger
services, and commercial security services. The Company's revenues have grown
from $68.2 million in fiscal 1992 to $115.2 million in fiscal 1996, reflecting a
compound annual growth rate of 14.2%. The growth for fiscal 1993, 1994, 1995 and
1996 was 14.6%, 18.5%, 3.0% and 20.7%, respectively.
The gross margins associated with airline security services typically have
been lower than the gross margins associated with other airline services,
reflecting the maturity of the market for airline security services and the
intensity of price competition in that market. While airline security services
have long been outsourced, airlines have only recently begun to outsource many
other services. Consequently, the market for these other services is more
fragmented and less mature than the market for airline security services. The
Company anticipates that, as the airline services market matures, gross margins
will experience compression as a result of increasing competition in the market
and the increasing importance of cost considerations to the airlines that
outsource these services.
The Company's services are provided under contracts that typically have
terms of from one to three years but are cancelable by either party on 30 to 90
days' notice. Although contract terms vary significantly, clients generally pay
at an hourly rate for services provided. Certain services, such as aircraft
lavatory cleaning, are billed on a flat fee for service basis, and certain
others are billed at a fixed monthly rate. The Company recognizes revenues as
the related services are performed.
Prior to fiscal 1995, ITS's strategy included using technological
innovation to drive the growth of its business, and the Company made research
and development expenditures of approximately $500,000 in support of this
strategy. In recognition of the importance of cost considerations in customer
purchasing decisions, the Company in fiscal 1995 determined to reduce its cost
structure in order to enhance its competitive position. As a consequence of this
decision, ITS made several important operational changes that contributed to a
significant improvement in its financial results. These changes included
reductions in corporate headquarters staff and executive compensation of
approximately $500,000, the development of divisional budgeting systems and the
implementation of compensation programs tied to the achievement of budgeted
performance levels. The Company also made efforts to enhance its management and
control systems in order to improve accounts receivable collection and
streamline its purchasing arrangements.
Acquisitions played an important role in the Company's revenue and earnings
growth during fiscal 1996, and they are expected to remain an important
component of ITS's growth strategy during future periods. ITS seeks acquisition
candidates that will add geographic coverage to the Company's existing
businesses, broaden its service offerings and expand its customer base. The
Company's recent acquisitions have involved the purchase of service contracts
and property and equipment related to those contracts, but not the liabilities
associated with the sellers' businesses. Management believes that the
acquisition of service contracts, rather than of stock or of assets unrelated to
those contracts, significantly reduces the cost of integrating acquired
operations.
In fiscal 1996, ITS completed six acquisitions of service contracts, all of
which were accounted for under the purchase method, and their operations are
reflected in ITS's consolidated financial statements for all periods subsequent
to the date of the acquisition. All of these acquisitions involved providers of
airline security or commercial security services. These acquisitions contributed
approximately $11.9 million in total revenues during fiscal 1996. In addition,
in April 1997, the Company acquired service contracts from Intex Aviation
Services. Intex did not provide security services; instead, it provided a
variety of other aviation services, including baggage handling, lavatory and
water services, de-icing services and aircraft cleaning and ground support
services. For the year ended December 31, 1996, Intex recognized revenues of
approximately $41.1 million from the contracts acquired by ITS. Intex's
operations are not reflected in the Company's consolidated financial statements
for fiscal 1996. See "Pro Forma Financial Data."
20
<PAGE> 21
RESULTS OF OPERATIONS
The following table sets forth Statement of Operations data as a percentage
of revenues for the periods indicated:
<TABLE>
<CAPTION>
THREE MONTHS
ENDED
MARCH 31, MARCH 31, MARCH 31, JUNE 30,
1995 1996 1997 1997
--------- --------- --------- ------------
<S> <C> <C> <C> <C>
Revenues..................................... 100.0% 100.0% 100.0% 100.0%
Gross profit................................. 13.7 14.8 14.7 17.0
Selling, general and administrative
expenses................................... 13.7 12.2 11.6 12.1
----- ----- ----- -----
Operating income (loss)...................... 0.0 2.6 3.1 4.9
Interest expense............................. 0.2 0.5 0.5 1.0
----- ----- ----- -----
Income (loss) before income taxes............ (0.2) 2.1 2.6 3.9
Income taxes................................. 0.6 1.0 1.1 1.7
----- ----- ----- -----
Net income (loss)............................ (0.8)% 1.1% 1.5% 2.2%
===== ===== ===== =====
</TABLE>
Three Months Ended June 30, 1997 Compared to Three Months Ended June 30, 1996
Revenues. Revenues for the three months ended June 30, 1997 increased by
$14.4 million, or 60.0%, as compared to the three months ended June 30, 1996.
This increase is attributable to an increase in revenues from the six
acquisitions that were completed during fiscal 1996 and the Intex acquisition,
and from the addition of continuous bag search that was implemented by the FAA
during fiscal 1996 as well as increased revenues from passing along to customers
the U.S. minimum wage increase commencing October 1, 1996 and an increase in
revenues from existing customers for aircraft cleaning and ground handling. Of
the $14.4 million increase in revenues, $10.4 million was attributable to the
acquisitions, $1.5 million to continuous bag search, $1.5 million to the minimum
wage increase and $1.0 million from aircraft cleaning and ground handling.
Gross profit. Gross profit was $6.5 million for the three months ended
June 30, 1997 compared to $3.6 million in the three months ended June 30, 1996,
an increase of $2.9 million, or 80.2%. Measured as a percentage of net sales,
gross profit margins increased to 17.0% in 1997 from 15.1% in 1996.
Approximately $2.6 million of the increase reflects the impact of higher margin
contracts (primarily resulting from the Intex acquisition). Decreases in
worker's compensation and liability insurance rates based on cost reduction
measures and a favorable claims history also contributed to the gross profit
margin increase.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses for the three months ended June 30, 1997 were $4.6
million compared to $2.7 million in the prior year, an increase of $1.8 million,
or 67.2%, primarily in connection with the acquisitions referred to above.
Measured as a percentage of net sales, these expenses were 12.1% in 1997 and
11.5% in 1996, an increase of only 5.2%, because of the Company's focus on
increasing revenues without a proportionate increase in corporate expenses.
Interest Expenses. Interest expenses increased in the three months ended
June 30, 1997 to $414,000 from $98,000 in the prior year because of an increase
in the amount of debt outstanding exclusively as a result of the acquisitions.
Income Taxes. The Company's consolidated effective income tax rate in the
three months ended June 30, 1997 was 42.6% as compared to 41.8% in the prior
year. The Company's effective tax rate will vary from period to period depending
on the breakdown of earnings among the various operating subsidiaries and the
treatment of such items by the relevant tax authorities and income tax effects
deferred from prior periods.
Net Income. As a result of the foregoing, the Company's net income
increased to $853,000 in the three months ended June 30, 1997 compared to
$442,000 in the prior year, an increase of $411,000, or 93%.
21
<PAGE> 22
Year Ended March 31, 1997 Compared to Year Ended March 31, 1996
Revenues. Revenues in fiscal 1996 increased by $19.8 million, or 20.7%, as
compared to fiscal 1995. This increase is attributable to an increase in
revenues from the six acquisitions that were completed during the year, and from
the addition of continuous bag search services that were required by the FAA
during the year, as well as increased revenues from passing along to customers
the U.S. minimum wage increase commencing October 1, 1996 and an increase in
revenues from existing customers for aircraft cleaning and ground handling. Of
the $19.8 million increase in revenues, $11.9 million was attributable to the
acquisitions ($9.1 million in predeparture screening and $2.8 million in
industrial security), $4.2 million to continuous bag search, $2.3 million to the
minimum wage increase and $1.4 million to aircraft cleaning and ground handling.
Gross Profit. Gross profit was $16.9 million in fiscal 1996 compared to
$14.1 million in fiscal 1995, an increase of $2.8 million, or 19.9%.
Approximately $1.4 million of the increase resulted from higher margin contracts
of acquired businesses. Approximately $1.0 million of the increase resulted from
an increase in hourly rates under certain contracts and higher utilization of
personnel and improved operating efficiencies. Company-wide cost reduction
measures, including decreases in worker's compensation and liability insurance
rates contributed approximately $400,000 to the increase in gross profit.
For its fiscal year ended December 31, 1996, Intex had gross profit of $5.3
million, or 12.8% of total revenues. The Company had gross profit of $16.9
million, or 14.7% of total revenues. On a pro forma basis, after giving effect
to the Intex acquisition, the Company's gross profit percentage for fiscal 1996
would have increased to 15.3%. This increase reflects savings resulting from the
elimination of certain lower-margin contracts that Intex lost prior to the
acquisition, as well as a reduction in certain workers' compensation and
insurance costs attributable to the lower cost of comparable Company programs.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses in fiscal 1996 were $13.3 million compared to $11.6
million in the prior year, an increase of $1.7 million, or 14.7%. The increase
primarily reflects expenses associated with the operations of acquired
businesses. Measured as a percentage of net sales, these expenses were 11.6% in
fiscal 1996 and 12.2% in fiscal 1995, a decrease of 4.9% attributable to
improved overhead absorption resulting from the growth of revenues over the
prior year. On a pro forma basis, after giving effect to the Intex acquisition,
the Company's selling, general and administrative expenses for fiscal 1996 would
have been 11.3% of total revenues, primarily as a result of improved overhead
absorption resulting from the larger pro forma revenue base.
Interest Expense. Interest expense increased in fiscal 1996 to $637,000
from $523,000 in fiscal 1995 because of an increase in the amount of debt
outstanding. The debt was incurred primarily in connection with the
acquisitions.
Income Taxes. The Company's consolidated effective income tax rate in
fiscal 1996 was 42.2% as compared to 42.4% in fiscal 1995. The Company's
effective tax rate will vary from period to period depending on the breakdown of
earnings among the various operating subsidiaries and the treatment of earnings
items by the relevant tax authorities and income tax effects deferred from prior
periods.
Net Income. As a result of the foregoing, the Company's net income
increased to $1.7 million in fiscal 1996 from $1.0 million in fiscal 1995, an
increase of 63.4%.
The Company anticipates that the Intex acquisition will have a significant
effect on the mix of its revenues. During each of the past three fiscal years,
predeparture screening services have represented approximately 50% of the
Company's revenues. Intex historically did not provide these services, but
instead focused on other aviation services. In light of Intex's significant
historical revenue from these other aviation services, the Company believes
that, as a percentage of revenue, predeparture screening services will decrease
and other aviation services will increase during future periods.
Year Ended March 31, 1996 Compared to Year Ended March 31, 1995
Revenues. Revenues in fiscal 1995 increased by $2.8 million, or 3.0%, as
compared to fiscal 1994. This increase is exclusively attributable to an
increase in revenues from the sale of high efficiency screening systems to
airline customers. Service revenues remained relatively constant as compared to
fiscal 1994. Revenues from new business were offset by revenues lost as a result
of an airline customer's decision to terminate a discount passenger service
operating at a number of airports served by the Company.
22
<PAGE> 23
Gross Profit. Gross profit was $14.1 million in fiscal 1995 compared to
$12.7 million in fiscal 1994, an increase of $1.4 million, or 11.0%. Measured as
a percentage of net sales, gross profit margins increased to 14.8% in fiscal
1995 from 13.7% in fiscal 1994. The improvement in fiscal 1995 was attributable
primarily to cost reduction measures implemented Company-wide of $1.4 million,
including $500,000 related to research and development expenditures and a
$900,000 decrease in worker's compensation and liability insurance rates based
on cost reduction measures and a favorable claims history.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses in fiscal 1995 were $11.6 million compared to $12.7
million in the prior year, a decrease of $1.1 million, or 8.3%. Measured as a
percentage of net sales, these expenses were 12.2% in fiscal 1995 and 13.7% in
fiscal 1994, a decrease of 10.9%. The improvement was primarily attributable to
cost reduction measures implemented Company-wide, including a decrease in
workers' compensation and liability insurance rates for administrative employees
of $400,000 and reductions in headquarters staff and executive compensation of
$500,000.
Interest Expense. Interest expense increased in fiscal 1995 to $523,000
from $188,000 in fiscal 1994 because of an increase in the amount of debt
outstanding. The debt was incurred in connection with normal operations.
Income Taxes. The Company's consolidated effective income tax rate in
fiscal 1995 was 42.4%.
Net Income. As a result of the foregoing, the Company's net income
increased from a loss of $718,000 in fiscal 1994 to net income of $1.0 million
in fiscal 1995.
LIQUIDITY AND CAPITAL RESOURCES
The Company's business is labor intensive. Consequently, it has substantial
needs for cash throughout its fiscal year. During fiscal 1996, the Company's
cash requirements were heightened by its acquisition program and the need to
support the higher levels of revenue resulting from those acquisitions.
Operating activities generated cash of approximately $1.9 million in both fiscal
1996 and 1995 and used $2.6 million for the three months ended June 30, 1997.
Financing activities generated net cash of $3.9 million during fiscal 1996,
primarily as a result of borrowings under various credit arrangements, offset by
$1.2 million in purchases of treasury shares and $52,000 in principal payments
on long-term indebtedness, and $3.1 million for the three months ended June 30,
1997, primarily as a result of borrowings under credit arrangements for the
Intex acquisition.
Principal uses of funds, in addition to working capital requirements,
included expenditures associated with the Company's acquisition program. During
fiscal 1996, these included $2.7 million in acquisitions of service contracts
and related goodwill and noncompete agreements, a $2.6 million purchase price
deposit in connection with the Intex acquisition, and $1.1 million in purchases
of property and equipment. The Company also used approximately $1.2 million
during fiscal 1996 to acquire outstanding Common Shares from certain current and
former shareholders. In the three months ended June 30, 1997, the Company used
$298,000 for purchases of property and equipment. In addition, in July 1997 the
Company made a final $2.0 million payment for the Intex acquisition.
In April 1997, the Company acquired substantially all of Intex's aviation
services business through the assumption of various existing contracts. Under
the terms of the purchase agreement, the Company's $2.6 million deposit was
credited toward the purchase price. The total purchase price payable to the
former owner of Intex was determined on the basis of a multiple of monthly
revenues on the acquired contracts for the period from April 1, 1997 to June 30,
1997. The balance of the purchase price was paid on July 15, 1997. Subsequent to
the date of the acquisition, the Company lost contracts worth $2.5 million in
annual revenue which was deducted from the purchase price.
The Company currently has a credit facility with its senior lender. The
credit facility includes a revolving credit facility providing maximum
availability of $10.5 million, a $2.0 million term loan and a $900,000 term
loan. Borrowings under the credit facility are secured by all of the Company's
domestic accounts receivable, equipment and other assets. Amounts outstanding
under the revolving line of credit bear interest at 1.50% over the bank's prime
rate, and availability under the line is limited to an amount equal to 80% of
qualifying domestic and 50% of qualifying foreign accounts receivable. The
revolving line of credit matures on March 31, 1999. At July 31, 1997,
approximately $1.0 million was available for borrowing under the revolving line
of credit. The $2.0 million term loan provided under the facility bears interest
at a fixed rate of 9.832% and is subject to monthly amortization of principal at
the rate of $41,667 beginning in May 1997, with a final
23
<PAGE> 24
payment of $1.7 million on November 1, 1997. The $900,000 term loan bears
interest at 2.00% over the bank's prime rate and will mature on December 31,
1997.
The Company also has outstanding $3.0 million principal amount of a
subordinated promissory note issued to an institutional lender. Amounts
outstanding under this note are subordinated to all borrowings under the credit
facility described above. Interest on the note is payable quarterly at a fixed
rate of 20% per annum. The principal amount of the note is to be paid in equal
quarterly installments of $250,000 over a period of 12 quarters beginning
February 1999.
As of July 31, 1997, the Company had approximately $13.0 million
outstanding under the various credit arrangements described above. The Company
intends to repay this indebtedness in full with the proceeds of this Offering.
In connection with this Offering, the Company intends to replace its
existing credit facility with a new revolving credit facility with its senior
lender. The Company has received a commitment letter with respect to the new
facility. The commitment letter provides and the Company currently anticipates
that, subject to the completion of the Offering, the negotiation and execution
of definitive documentation and other customary conditions, the lender will
provide a two-year revolving credit facility providing maximum availability of
$30 million. The Company anticipates that amounts borrowed under the new credit
facility will bear interest at rates varying from LIBOR plus 1.5% to the bank's
prime rate plus 2%, and will mature in September 1999. Amounts outstanding under
the new credit facility will be secured by substantially all of the Company's
assets. It is anticipated that the new credit facility will limit the Company's
ability to incur additional indebtedness and pay dividends, and will require the
Company to maintain prescribed debt-to-equity and fixed charge coverage ratios
and minimum net worth levels and to satisfy other financial covenants. Although
the Company believes that financing on the terms outlined above will be
available subsequent to the completion of the Offering, there can be no
assurance thereof.
The Company's capital expenditure budget for fiscal 1997 is approximately
$2.0 million. Capital expenditures for the current fiscal year are expected to
relate to facility and equipment improvements.
The Company believes that the net proceeds from the Offering, together with
its available cash, cash generated from operating activities and amounts
anticipated to be available under its new credit facility will be sufficient to
meet its anticipated cash requirements through the end of fiscal 1998.
QUARTERLY RESULTS OF OPERATIONS AND SEASONALITY
The Company's operations are subject to seasonal fluctuations. The
Company's revenues and operating income typically reach their highest levels
during the third quarter of the fiscal year, reflecting the higher level of air
travel during the holiday season. Revenues and net income typically are at their
lowest levels in the first and fourth quarters of the fiscal year, as a result
of lower levels of air travel during these periods and certain additional
expenses, such as annual unemployment insurance premiums, that become payable
with the commencement of a new calendar year.
The following chart shows results of operations by quarter for fiscal 1995
and fiscal 1996 and for the first quarter of fiscal 1997 (in thousands).
<TABLE>
<CAPTION>
JUNE 30 SEPT. 30 DEC. 31 MARCH 31 JUNE 30 SEPT. 30 DEC. 31 MARCH 31 JUNE 30
1995 1995 1995 1996 1996 1996 1996 1997 1997
------- -------- ------- -------- ------- -------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues........................ $23,230 $23,984 $23,949 $24,300 $24,106 $29,197 $31,867 $30,071 $38,364
Cost of Revenues................ 19,375 20,402 20,235 21,329 20,475 24,683 27,009 26,171 31,824
------- ------- ------- ------- ------- ------- ------- ------- -------
Gross Profit.................... 3,855 3,582 3,714 2,971 3,631 4,514 4,858 3,900 6,540
General and Administrative
Expenses...................... 3,263 2,933 2,851 2,557 2,773 3,430 3,674 3,456 4,639
------- ------- ------- ------- ------- ------- ------- ------- -------
Operating Income (Loss)......... 592 649 863 414 858 1,084 1,184 444 1,901
Interest Expense................ 115 126 121 160 98 141 235 163 414
------- ------- ------- ------- ------- ------- ------- ------- -------
Income (Loss) Before Income
Taxes......................... 477 523 742 254 760 943 949 281 1,487
Income Taxes.................... 229 251 356 122 318 394 397 128 634
------- ------- ------- ------- ------- ------- ------- ------- -------
Net Income (Loss)............... 248 272 386 132 442 549 552 153 853
======= ======= ======= ======= ======= ======= ======= ======= =======
</TABLE>
24
<PAGE> 25
BUSINESS
COMPANY OVERVIEW
ITS is a leading domestic provider of aviation security and other aviation
services. The Company provides aviation services for more than 60 U.S. and
international carriers at more than 120 U.S. airports. ITS has used its
predeparture screening business to establish a growing presence in the broader
aviation services market and believes that it offers a wider array of services
than its competitors in this market. Aviation services offered by ITS include
skycap, baggage handling and aircraft cleaning services, and wheelchair and
electric cart operations. The Company's security services extend beyond aviation
security, and include the provision of commercial security services to
government and business clients, hospitals, arenas and museums.
ITS's revenues have grown at a compounded annual rate of 14.2% over the
past five years, driven by growth in both aviation security and other aviation
services as well as growth resulting from acquisitions. The Company has
experienced significant revenue growth in its predeparture screening business,
attributable primarily to the trend toward consolidation in this market and the
Company's historic ability to pass on wage increases to customers. The Company's
predeparture screening revenues have grown from $47 million to $58 from 1994
through 1996, representing a 23% increase during that period. Aviation services
have also accounted for substantial growth, as airlines have outsourced noncore
services and have begun to consolidate their vendor base to a few leading
vendors such as ITS. ITS believes that these consolidation and outsourcing
trends will continue and that it can realize additional revenue growth by
leveraging its established business presence and relationships to deliver a wide
array of services to its clients at a very competitive overall cost. The
Company's use of debt to finance this growth has resulted in significant
increases in interest expense over the past three years. In light of the
Company's debt service obligations, as well as the labor intensive nature of its
business, the Company has historically operated with a working capital deficit.
See "Growth Strategy -- Growth Through Acquisitions."
ITS's growth strategy is premised on using its experience in recruiting,
training, motivating and managing the large numbers of personnel needed to
perform the labor-intensive, task-repetitive functions that its services
require. The Company believes that it is well-positioned to realize significant
growth for the following reasons:
- Favorable growth prospects exist in the markets for aviation services and
commercial security services.
- The Company enjoys strong market position and administrative support from
its significant aviation and security experience, extensive market
breadth and competitive cost structure.
- Management is able to exploit the Company's aviation and security
experience to capture revenue in related service segments such as general
aviation services and commercial security.
- The economies of scale resulting from the Company's use of its existing
administrative resources support internal growth and acquisitions.
The Company intends to grow internally and through acquisitions. The
Company expects internal growth will be generated by using the Company's
established business base as a platform for expanding the services it provides
at existing airport and commercial security locations and for developing new
service locations. The Company intends to target acquisition candidates that
will add geographic scope to its existing businesses, broaden its service
offerings and expand its client base. ITS made two acquisitions of aviation
security contracts and four acquisitions of commercial security contracts in
fiscal 1996 that have contributed an aggregate of approximately $11.9 million in
annual revenues and have improved profitability. In addition, in April 1997, the
Company acquired service contracts from Intex. Intex provided a variety of
aviation services, including baggage handling, lavatory and water services,
de-icing services and aircraft cleaning and ground support services. For the
year ended December 31, 1996, the contracts acquired from Intex generated
revenues of approximately $41.1 million. See "Pro Forma Financial Data" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
25
<PAGE> 26
AVIATION SERVICES
General.
In 1973, the FAA mandated that airlines conduct predeparture screening of
all passengers at most airports in the U.S. Because the labor-intensive nature
of predeparture screening imposed substantial administrative burdens, most
airlines opted to contract out predeparture screening and other security
services to third party contractors. Certain other airline services, such as
food service and fueling, historically have also been contracted out by the
airlines. In the past several years, market forces have driven airlines to
outsource a number of other labor-intensive aviation services in order to permit
airline management to focus on the essential aspects of its businesses and to
reduce labor and benefit costs and administrative overhead.
As the costs of labor have increased, airlines now frequently outsource
baggage claim and check services, skycap, baggage handling, aircraft cleaning
and wheelchair assistance services, and inter-gate cart services. Ticketing and
check-in services are also beginning to be outsourced. Many small, regional
carriers still provide their own ground handling and cleaning services, offering
additional growth opportunities for contractors such as the Company.
Aviation Security Services.
Predeparture Screening. The Company is a leading provider of domestic
airline predeparture screening services. ITS currently employs approximately
4,400 predeparture screeners in more than 100 U.S. airports in 38 states. The
Company's predeparture screening services include conducting x-ray or
electro-magnetic inspection of all carry-on baggage, manual searches of
suspicious baggage and metal-detector searches of all passengers. The Company
derived approximately 50% of its revenues from predeparture screening services
in each of the last three fiscal years.
Other Airline Security Services. ITS provides passenger profiling services
and document verification agents, primarily in Europe and Asia, where airlines
and airports have been obliged by regulatory agencies and the political climate
to devote significant resources to the prevention of terrorist activity.
Airlines contract with ITS to provide document verification (customs) agents who
interview passengers as they enter or leave a country via an international
flight. In the domestic market, ITS also provides guarding and control of
airport entrances, checking of employee identification cards and baggage,
guarding and control of employee parking lots and under-the-wing guarding of
parked aircraft. Airline security services other than predeparture screening
accounted for less than 5% of the Company's revenues in each of the last three
fiscal years.
Other Aviation Services.
The Company provides nonsecurity aviation services, attempting to take
advantage of its existing base of operations and overhead costs in its airport
security operations. It also provides these services for airlines with which it
does not have security contracts.
Ramp and Ground Handling Services. The ramp and ground handling services
provided by ITS are described in the chart below.
<TABLE>
<CAPTION>
SERVICE DESCRIPTION
- -------------------------------------------- --------------------------------------------
<S> <C>
Baggage Handling............................ Conveyance of checked baggage from terminal
to baggage compartment of plane and from
plane to baggage carousel
Aircraft Cleaning........................... Interior: cleaning interior parts of the
aircraft between flights and at end of the
aircraft's flight day.
Exterior: washing exterior of aircraft.
Lavatory and Water Services................. Use of equipment to empty lavatory and
replace the water source with potable water.
De-icing.................................... Spraying ice-melting substance on aircraft
prior to departure from gate, in accordance
with customer specifications.
</TABLE>
The Company derived approximately 14.2%, 12.7% and 12.2% of its revenues
from ramp and ground handling services in fiscal 1994, 1995 and 1996,
respectively.
26
<PAGE> 27
Passenger Services. The Company's passenger services include providing
skycaps for curbside check-in, baggage assistance and help with routine
passenger problems, wheelchair operators to transport disabled or elderly
passengers to and from the check-in area and the plane, and electric cart
drivers to provide inter-gate transport for passengers who need to board flights
at distant gates. Passenger services are a growing source of revenue for ITS,
representing approximately 23.8%, 22.7% and 19.6% of the Company's revenues in
fiscal 1994, 1995 and 1996, respectively.
COMMERCIAL SECURITY SERVICES
ITS provides uniformed security officer services, business and facility
access control, security consulting, special event security and security
assessment to a broad range of commercial clients, including in office and
government buildings, airports, hospitals, malls, distribution centers, sports
arenas, museums and other facilities. The Company recently acquired the service
contracts of several regional commercial security providers, including JJ
Protective Services, Inc., which had approximately $7.7 million in sales in 1996
in Minnesota, Wisconsin, Michigan and Colorado, and Maximum Protective Services
of Texas, Inc., which had $1.5 million in annual sales in Texas.
The Company entered the commercial security market in the early 1990s,
attracted by the market's favorable fundamentals and the opportunity to further
capitalize on its aviation security experience. Industrial security is a $100
billion per year industry that employed approximately 2 million people in 1996,
according to the American Society for Industrial Security in Arlington, Virginia
("ASIS"). ASIS data indicates that the industry is highly fragmented, with
approximately 160,000 companies registered as protection companies. Commercial
security accounted for approximately 9.7%, 11.0% and 11.7% of the Company's
revenue in fiscal 1994, 1995, and 1996, respectively.
SECURITY PRODUCTS DISTRIBUTION
In addition to its service offerings, the Company distributes a line of
security products through its Crown Technical Services, Inc. subsidiary. These
products are sold with or without airline security services and offer
significantly better margins than many of the services that ITS provides. In
1992, the Company introduced its High Efficiency Screening System ("HESS"), an
ITS-designed integrated security system that physically replaces the standard
checkpoint configuration found in most U.S. airports. The Company also offers,
either with the entire HESS system or alone, an exit aisle motion detector,
which replaces the guard who stands at most terminals, to ensure that boarding
passengers do not pass through the departing passenger aisle. The Company also
offers a separate line of hand-held and walk-through metal detectors, which it
sells to banks, schools, the federal government, and large businesses.
The Company derived approximately 0.3%, 2.2% and 3.0% of its revenues from
sales of security products in fiscal 1994, 1995 and 1996, respectively.
GROWTH STRATEGY
The Company's growth strategy emphasizes both internal growth and growth
through acquisitions. The Company focuses on using its experience in recruiting,
training, motivating and managing the large numbers of personnel needed to
handle labor-intensive, task-repetitive jobs to capitalize on the trend toward
outsourcing labor-intensive services. The Company believes that its strong
position in the airline security business provides an effective platform from
which to take advantage of opportunities in other elements of the airline
services businesses. The Company also believes that its experience in managing
the personnel requirements of its airline security business provides
opportunities to expand into related labor-intensive service businesses, such as
commercial security services.
Growth Through Expansion of Existing Businesses.
Airline security services currently represent approximately 50% of the
Company's revenue. The Company believes a handful of large companies serve most
of the domestic airline security market, in part because increasing federal
regulation has made the cost of doing business prohibitive for smaller
contractors. Airline
27
<PAGE> 28
security contracts tend to be very cost competitive: prevailing bids often offer
only slightly lower costs. ITS believes that because of its size and ability to
leverage its overhead costs, it is well positioned to increase its revenues, as
airlines seek to consolidate their third party contracts and minimize the costs
associated with these functions. In addition, the Company believes it can
increase the revenue and profitability associated with its other airline
security offerings.
ITS believes that its ability to use its "installed base" of airline
security business to increase the range of other services that it provides to
its airline customers is an equally important element of its growth strategy.
The administrative base supporting the Company's airline security services at an
airport can be used to support other services without significant additional
costs, which can give ITS an important advantage in competing with other
providers of airline services on the basis of price. The Company's division and
field management teams actively seek these opportunities and are experienced in
exploiting them. ITS has experienced recent growth in the demand for its ramp
and ground handling and passenger services and expects these services to provide
opportunities for continued growth. The Company intends to identify new business
opportunities and to use its existing marketing, management and administrative
systems, as well as its strong airline relationships, to expand its reach in
these areas. ITS currently performs these services primarily in the United
States but intends to package these services with its security services in
international markets. Because all carriers, regardless of location, need
airplane cleaning, baggage handling and passenger related services, ITS believes
that the potential market for these services is as large as, if not larger than,
the airline security market.
The Company believes that the management and administrative resources it
has developed to manage its aviation-related operations in 41 states provide it
with the capacity to expand its commercial security business in a number of
geographic areas without significant additional overhead costs. By leveraging
its existing administrative base, the Company seeks to increase its share of the
highly fragmented commercial security market.
Growth Through Acquisitions.
The Company generally acquires existing service contracts and the goodwill,
property and equipment related to those contracts and does not assume
liabilities associated with the seller's business. It targets acquisition
candidates that will add geographic coverage to its existing businesses, broaden
its service offerings and expand its client base. ITS generally seeks
acquisitions that it believes can make an immediate contribution to
profitability, although it also pursues opportunities that have strategic value
to its business even if the returns appear less immediate. ITS is willing to
retain members of an acquired company's management team that it believes can
contribute expertise. Management believes the Company has certain advantages
that may enable it to implement its acquisition strategy more successfully than
its competition. Specifically, management believes that its self-insurance and
risk management practices and its centralized administration of payroll and
billing functions have resulted in a lower cost structure than many of its
competitors have. This cost structure generally enables ITS to improve margins
of acquired businesses. The Company will seek to implement its operating
strategies at acquired companies while retaining existing management talent of
those companies.
The Company has completed seven acquisitions since July 1996. The largest
of these acquisitions was the purchase in April 1997 of the airline service
contracts and related goodwill of Intex, based in Greenville, South Carolina.
Intex contracts cover ramp and ground handling services, including baggage
handling, and lavatory and water services for clients in 27 locations across the
United States. The Intex contracts also include aircraft cleaning and ground
support and facility services at some of these locations. Delta Air Lines, with
whom Intex held its largest ramp and ground handling contract, has become ITS's
biggest aviation services customer as a result of the purchase. In connection
with the Intex acquisition, ITS intends to develop its ramp and ground handling
services with existing customers.
Other acquisitions in the aviation services industry include the contracts
and related goodwill of Andy Frain Services, Inc., acquired in July 1996, which
produced $6.6 million in annual sales in Salt Lake City, Anchorage, Oakland,
Phoenix and Seattle, and of Airport Terminal Services, Inc. ("ATS"), purchased
in July 1996, which produced $4.5 million in annual predeparture screening sales
in St. Louis, Kansas City,
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Dallas and Los Angeles. As a result of the ATS acquisition, the Company acquired
significant market share in St. Louis, which is TWA's hub.
In the commercial security area, the Company acquired the contracts and
goodwill of four companies with varied geographic coverage in fiscal 1996. In
November 1996, the Company acquired security contracts from JJ Protective
Services, Inc. that generated $7.7 million in annual revenue in Minnesota,
Wisconsin, Michigan and Colorado. In January 1997, the Company acquired security
contracts from Maximum Protective Services, Inc. that generated $1.5 million in
annual revenue in Texas. In March 1997, the Company purchased contracts that
provided $298,000 in annual revenue from City Security Services, Inc. in San
Antonio, Texas, and in August 1996, it purchased contracts that provided
$175,000 in annual revenue from ABC Security Guard Services, Inc. in Columbus,
Ohio.
The Company's use of debt to finance its growth has resulted in significant
increases in interest expense over the past three years. In light of the
Company's debt service obligations, as well as the labor intensive nature of its
business, the Company has historically operated with a working capital deficit.
COMPETITION AND MARKETING
The Company competes in international, national, regional and local markets
with specialized contract service providers, outsourcing companies, and its
clients' and potential clients' internal service staffs. While substantial
consolidation is occurring in the Company's markets, portions of these markets
remain extremely competitive and highly fragmented, with limited barriers to
entry. Industry participants compete mainly on the basis of price, as well as
the quality of service provided, their ability to provide national and
international services, and the range of services offered. ITS believes its
primary competitive advantage is its low administrative overhead, which enables
it to offer competitive costs for large contracts. The Company has been
successful in minimizing its workers' compensation and liability insurance costs
and in leveraging its administrative base to add new contracts with minimal
increase in overhead cost. In addition, ITS believes that it offers a broader
range of services than its competitors.
Airline Security Services. Contracts for predeparture screening services
tend to be highly competitive among a handful of experienced providers and are
generally awarded to the low-cost provider. At the same time, the airlines are
sensitive about security lapses and may cancel a contract based on even minor
security breaches. While ITS believes it has an advantage because of its size
and overhead in underbidding other companies, the Company faces the same
challenge as its competitors in providing consistent service at the minimum wage
rates offered by the airlines for screeners. The Company's principal competitors
in domestic predeparture screening include Globe Aviation Securities
Corporation, AHL Services, Inc. and Huntleigh, Inc.
In the international security arena, where training and service generally
are more important, the Company strives to distinguish itself by developing
training programs and screening methods that meet the demands of its customers.
The Company's passenger profilers are trained in questioning techniques that are
designed to elicit cooperation and to avoid offense to innocent travelers. In
addition, because the Company's method of profiling is less intrusive than other
security methods, ITS considers it to be more cost-effective and
passenger-friendly than other systems. Currently, the Company has a small number
of contracts to provide these services in Europe and Asia. The Company's main
competitors for international profiling and screening services are Aviation
Defense International, Inc., ICTS International, N.V., AHL Services, Inc. and
International Aviation Security, Inc.
Ramp and Ground Handling Services. Airlines have found it cost effective
to outsource ramp and ground handling functions because they often require an
investment in hard equipment, which can be expensive for carriers with few
flights. ITS has taken advantage of the opportunity to offer a package of new or
refurbished equipment, maintenance and the required manpower, all for a per-hour
labor charge. In addition, ITS considers potential revenue gains from ground
handling and passenger business when negotiating new security business, and is
sometimes able to package combinations of services to clients at a lower overall
cost than it could offer for one type of service alone. The Company has
typically offered ground handling or passenger services as "add on" services to
its screening business. It also offers these services on a stand-alone
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basis at certain locations. In this area, the Company competes with the
airlines, Signature Flight Support Services, AMR Services, Ogden Allied Support
Services, Hudson General, and Service Master Co.
ITS has sought to increase the volume of its cleaning business by focusing
on providing fast, reliable service. The Company conducts an Aircraft Appearance
and Facility Audit Program through which it continually monitors its own
performance. Under this program, ITS supervisors and managers conduct a pre-
determined number of audits based on the number of planes serviced for a
particular client. The Company provides the results of the audit to the client
regularly, emphasizing areas requiring improvement. ITS believes that its
clients appreciate the continuous and honest feedback the audit program provides
and that this approach enables the Company to correct problems that might not
otherwise come to its attention until the client became dissatisfied. The
Company believes, based on discussions with its customers, that it is the only
cleaning service provider that has such a program. The Company's competitors in
aircraft cleaning are the airlines, Signature Flight Support Services, AMR
Services, Ogden Allied Support Services, Hudson General, and Service Master Co.
Passenger Services. Unlike predeparture screening services, customer
service is as important as cost in the awarding of domestic passenger service
contracts. Because passenger service providers such as skycaps, wheelchair
operators and cart drivers have a high level of interaction with passengers, ITS
has developed specialized training programs that emphasize customer service and
empathy. In 1996, the Company was awarded a contract to provide Continental
Airlines, Inc. skycaps nationwide. The Company's main competitors for passenger
services include the airlines, AHL, Globe Aviation Securities Corporation, and
Huntleigh, Inc.
Commercial Security. The commercial security field is highly fragmented.
There are as many as 160,000 separate providers of commercial and industrial
security services, and the Company does not believe that any participant has a
significant share of the market. While ITS has made only minor inroads into this
market, the Company's competitive strength in this area comes from its low
overhead costs and its ability to assimilate acquired commercial security
businesses into its existing administrative structure. In the commercial
security field, the major providers include Borg-Warner Security Corporation,
Guardsmark, Inc. and The Wackenhut Corporation.
MANAGEMENT AND REPORTING SYSTEMS
ITS is headquartered in Cleveland, Ohio and conducts its domestic
operations through an Eastern, a Central and a Western division. International
operations are conducted through the International Division. Each domestic
division has a President, who reports to the Company's Chief Operating Officer,
and a Controller. Each division has two or more district offices. Each district
has two or more recruiters and trainers who are responsible for ensuring that
the Company has adequate personnel to staff service contracts in that district.
The district managers report to their respective division presidents. Each
service site has a manager who reports to the applicable district manager.
All payroll and billing information is entered at the service sites and
transmitted to the Company's headquarters. Headquarters administrative personnel
verify the information, issue all client invoices for services, and authorize
the issuance of payroll checks from the division offices. The Company believes
that its payroll system facilitates on-time personnel payment and Company
control over unwarranted overtime costs.
The large number and geographic dispersion of the Company's employees, and
the volume of the Company's business that is documented on a chargeable hours
basis, create substantial administrative burdens. The Company believes that its
IBM mainframe computer system, implemented in February 1990 and upgraded in June
1993, enables it to manage efficiently its current and reasonably foreseeable
administrative requirements. The Company uses the system to, among other things,
monitor all company finance functions, audit training records, manage and
monitor payroll and billing, report on field irregularities, maintain
accountability of weapons detection, and manage client database information.
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WORKFORCE MANAGEMENT
As of June 30, 1997, the Company had approximately 12,600 full and
part-time employees engaged in performing its client services. The Company's
services are characterized by task-repetitive, low wage functions, and the
Company, like its competitors, experiences high turnover and incurs substantial
hiring and training costs estimated at approximately $117 per employee. The
Company experiences annual turnover of approximately 100%, and believes that
maximizing employee retention is important to reducing operating costs and
providing high quality service to its clients. Accordingly, the Company places
significant emphasis on motivating its employees and reducing turnover. In
January 1997, the Company instituted an employee medical benefit plan, which
provides medical benefits to eligible employees with minimal employee
contribution. In addition, the Company grants various bonuses and awards to
exceptional employees, in part to further enhance retention.
Because employee turnover is inherent in the nature of its business, ITS
allocates significant resources to recruiting potential employees. Each
applicant must complete an interview and a written application that includes
inquiry concerning prior criminal convictions. In addition, FAA regulations
require that each applicant provide proof of citizenship or resident alien
status, and each applicant is subject to a five- or ten-year background
verification, depending upon the position, and a pre-employment drug screen. For
persons with unescorted access to secured areas, a criminal background
verification procedure, which is conducted by the Federal Bureau of
Investigation, is triggered by any 12-month gap in employment history that can
not be explained through independent verification. The Company's policy is not
to hire applicants whose criminal background verification checks reveal prior
criminal convictions. The Company believes that it operates its business in
substantial compliance with applicable FAA regulatory requirements, including
those relating to background verification.
The Company has experienced control-related problems at various locations
involving employees' compliance with regulatory requirements. Some of these
incidents have had a material adverse effect on customer relationships and have
led to the termination of client contracts. Because of the nature of the
Company's business, there can be no assurance that control-related problems will
not arise in the future.
Approximately 380 skycap employees at Newark International Airport, 65
predeparture screeners at Logan International Airport in Boston and 55
predeparture screeners in Anchorage, Alaska are covered by collective bargaining
agreements. Each of these agreements was assumed by the Company in connection
with an acquisition of a contract previously held by another vendor. In fiscal
1996, unions initiated three efforts to organize Company employees in various
locations, each of which failed. The Company considers its relations with its
employees to be good.
CUSTOMERS AND CONTRACT TERMS
The Company derives a significant portion of its revenues from a few
clients. In fiscal 1996, Continental Airlines, Inc. (18.9%), United Air Lines,
Inc. (11.8%), Delta Air Lines, Inc. (7.0%), Southwest Airlines Co. (6.7%), U.S.
Airways, Inc. (6.5%) and Trans World Airlines, Inc. (5.3%) accounted for 56.2%
of the Company's revenues. During fiscal 1996, 1995 and 1994, the Company's ten
largest clients accounted for an aggregate of 68.6%, 71.2%, and 79.9%,
respectively, of the Company's revenues.
While the Company believes that relations with its customers are generally
satisfactory, it believes that relations with certain major airlines are
unsatisfactory. Over the past two fiscal years, the Company has lost contracts
to provide screening services at a number of major airports, including Los
Angeles, San Francisco, Phoenix, Minneapolis, Detroit, Boston and Ontario,
California, because of customer dissatisfaction with the Company's services at
these locations. The Company believes that the factors contributing to the lost
contracts varied from location to location, and included problems with
responsiveness and the quality of local management, as well as security breaches
at several of the Company's predeparture screening checkpoints. Most of the
contracts lost by the Company were controlled by two airline customers who
together represented approximately 16.7%, 23.7% and 23.2% of the Company's
revenues in 1996, 1995 and 1994, respectively. The lost contracts contributed
$232,000 to pre-tax earnings. The Company recognizes the need to improve its
relationships with these customers, and is making efforts to accomplish this
objective. These efforts include the addition of a new Chief Operating Officer
with established relationships with several major airlines and
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efforts to improve the quality of local and district management personnel. The
Company continues to provide services, including, in some cases, screening
services, at each of these locations.
The services provided by the Company require it to train and manage
effectively low wage workforces with high turnover rates. From time to time, the
Company has failed to meet test standards or a client's service expectations at
a particular location, and, like its competitors, has had contracts terminated
because of customer dissatisfaction with various aspects of its performance. The
Company's predeparture screening services are tested daily at numerous
locations, both internally and by the FAA, to determine the Company's ability to
detect weapons passing through checkpoints. The FAA conducted 942 weapons
detection tests at the Company's checkpoints during the period July 1996 through
July 1997. The Company passed 885, or approximately 94%, of those tests. Failure
to pass FAA tests may result in fines to the airline responsible for the
checkpoint, which the Company reimburses pursuant to its contracts in amounts up
to $10,000 per test failure. These reimbursements have not had a material impact
on the Company.
The risk of contract termination as a result of actual or perceived service
failures is enhanced by the substantial publicity that, because of public
concern over airline security issues, often attends errors in the provision of
screening services. Failure to meet test or other performance standards may
result in fines, or the loss of a contract or service location or the Company's
license to perform services, and any such loss could have a material adverse
effect on the Company's reputation, business, results of operations and
financial condition. The Company does not believe that any test failure, or
series of test failures, without other performance deficiences, has resulted in
the loss of a contract or service location.
The Company's contracts with clients, including those that it obtains
through acquisitions, generally have one to three year terms but are cancelable
by either party on 30 to 90 days notice. The Company invoices its aviation
services clients weekly or biweekly. The Company invoices its commercial
security clients weekly, which is typical in that field.
The Company's contracts with airlines typically provide that the Company
will indemnify the client against claims for property damage, or death of or
personal injury to any person, arising out of the negligent acts or omissions of
ITS, unless the claim results from a negligent act of the client. In addition,
these contracts provide that the Company will pay FAA fines of up to $10,000 per
incident if it is responsible for the actions that give rise to the fine.
LEGAL PROCEEDINGS
Because the Company's employees function in public facilities and in the
workplaces of other businesses, the Company is exposed to possible claims by its
clients' customers and employees of discrimination, harassment and negligence,
and similar claims. The Company is subject to liability for the acts or
negligence of its employees while on assignment that cause personal injury or
damages, and to claims of misuse of client proprietary information or theft of
client property. As a provider of security services, the Company faces potential
liability for claims that may arise from any terrorist activity occurring in
circumstances associated with the Company. Although the Company maintains
insurance coverage against such potential liabilities, any such claim against
the Company might exceed the amount of such insurance coverage or fall outside
the type of activities covered by such insurance.
In May 1997, a United States District Court in Philadelphia, Pennsylvania,
rendered a judgment in the amount of $900,000 against the Company in connection
with an employment discrimination lawsuit. The Company believes that it has
accrued adequate reserves to cover the judgment and plans to contest the
judgment on appeal. The Company has moved for a judgment notwithstanding the
verdict and for a new trial. The court has not acted on these motions.
On December 2, 1996, the United States Equal Employment Opportunity
Commission (the "EEOC") filed suit against the Company in the United States
District Court for the Southern District of Indiana on behalf of two named
plaintiffs and a class of similarly situated female employees of the Company.
The EEOC's complaint alleges that the Company engaged in sexual harassment of
the plaintiffs in violation of federal law. The EEOC seeks to force the Company
to refrain from the alleged sexual harassment in the future, and to compensate
the plaintiffs for pecuniary and nonpecuniary losses claimed to have resulted
from the alleged harassment. The Company's potential liability is limited by
federal statute to $300,000, plus
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punitive damages in unspecified amounts if the Company is found to have engaged
in intentionally discriminatory conduct. The Company plans to contest the suit
vigorously.
The Company is also involved in various legal proceedings, including
routine civil actions instituted by the FAA with respect to test failures,
background check and recordkeeping matters, that arise in the ordinary course of
its business. The Company does not believe that the ultimate outcome of these
proceedings will have a material adverse effect on the Company's business,
assets, financial condition or results of operations.
GOVERNMENT REGULATION
Certain of the Company's clients are subject to various regulations and
directives issued by the FAA. Under current regulations, independent
contractors, such as the Company, that perform services for air carriers and
airport authorities share responsibility for aviation security with air
carriers, airport authorities, the FAA and various other federal, state and
local agencies. At airports throughout the United States, the FAA tests security
systems and conducts threat and vulnerability assessments. Through the use of
its regulatory powers, the FAA directs the aviation industry to implement
measures that address existing and anticipated threat situations.
FAA regulations require each air carrier and airport authority to implement
an FAA-approved security program. Airport authorities are responsible for
maintaining a secure environment on airport grounds and for providing law
enforcement support and training. Air carriers are responsible for the security
of all people and items connected to their aircraft, including passengers,
baggage, and maintenance and flight crews. The FAA has promulgated regulations
requiring air carriers to conduct predeparture screening of all passengers and
property that will be carried in an aircraft cabin. These regulations also
provide basic standards for the screeners, and equipment and procedures to be
used in predeparture screening activities. FAA regulations also mandate
pre-employment background checks of persons hired to serve as screeners.
Although an air carrier is permitted to outsource its screening function, FAA
regulations require the air carrier to provide oversight in order to assure that
all requirements are met. For example, FAA regulations require an air carrier's
ground security coordinator to review security-related functions and initiate
corrective action for noncompliance, and to conduct an annual evaluation of each
person assigned screening duties. In addition to the oversight responsibilities
imposed on air carriers, the FAA itself regularly conducts tests of predeparture
screening checkpoints at U.S. airports. Failure to meet requirements imposed by
the FAA or the air carrier or the failure of various tests administered by the
FAA can result in fines and other penalties to the responsible air carrier,
which are in turn passed on to the screening company under the terms of the
contract between the provider and the carrier. Regulatory compliance problems
and test failures may also result in the termination of a security contract or
of services at the affected site.
Historically, entities providing predeparture screening services have not
been subject to certification or direct regulation by the FAA. However, recent
events, including the April 1995 bombing of the Alfred P. Murrah Federal
Building in Oklahoma City and the explosion of TWA Flight 800 in July 1996, have
focused intense governmental scrutiny on issues relating to the deterrence of
domestic terrorism and aviation security. As a result, at least three separate
governmental authorities have recommended changes in laws relating to aviation
security and have authorized studies of new regulations designed to increase
airport safety. These governmental initiatives have focused on, among other
things, the need for standards to apply to providers of predeparture screening
services.
The first new mandates resulting from this increased focus were issued in
October 1996, when the United States Congress approved the Federal Aviation
Reauthorization Act of 1996 (the "1996 Act"). Among the directives in the 1996
Act are requirements that airlines and airports periodically assess their
security systems, that background checks be conducted for all predeparture
screeners and other employees associated with baggage or cargo, and that the FAA
"certify" companies that provide predeparture screening services. The 1996 Act
also directed the FAA and the United States Department of Transportation to
assist airlines in developing computer-assisted and other appropriate passenger
profiling programs, authorized a study of the practicality of transferring
security responsibilities from airlines to airports or to the government, and
granted funds to the National Academy of Sciences for a study of systems to
detect weapons and explosives. Other
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areas being investigated by Congress include the feasibility of requiring a
match of all checked bags with a boarded passenger and increased inspection of
air cargo.
The White House Commission on Aviation Safety and Security (the "Gore
Commission"), which was formed following the explosion of TWA Flight 800,
included the heads of various federal agencies and was charged with making
recommendations on how a partnership between the U.S. government and industry
participants can achieve improved aviation security. The Gore Commission issued
its final report on February 12, 1997, and recommended: (i) development of
uniform performance standards for selection, training and certification of
predeparture screening companies; (ii) implementation of procedures for matching
of passengers and checked baggage on a nationwide basis no later than December
31, 1997; (iii) the continued development and implementation of an automated
passenger profiling system; and (iv) utilization of U.S. Customs Service
personnel and computer systems to complement the efforts of the FAA and other
federal agencies. The FAA has initiated rulemaking procedures that would
implement certain of these recommendations.
The Aviation Security Advisory Committee ("ASAC"), a committee of
government and industry participants, was formed following the crash of Pan Am
flight 103 in 1989 and is charged with coordinating the flow of aviation
security information and countermeasures within the United States. In July 1996,
ASAC began an effort to strengthen the domestic aviation security "baseline" and
formed a working group to recommend specific measures. In its report issued on
December 12, 1996, ASAC recommended that no change be made in the current
structure or assignment of responsibilities for aviation security. ASAC did
recommend, however, that the FAA initiate rulemaking procedures for
"certification" of security contractors and made numerous recommendations with
respect to specific aviation security measures, which are generally consistent
with those proposed by the Gore Commission.
Subsequent to the issuance of the Gore Commission and ASAC recommendations,
the FAA issued an Advanced Notice of Proposed Rulemaking (the "APRM") relating
to the certification directive contained in the 1996 Act. In the APRM, the FAA
solicited public comment on a number of issues relating to the certification of
companies providing predeparture screening services. Issues upon which comment
was solicited include the information to be collected by an air carrier prior to
contracting with a screening company, the nature and scope of air carriers'
oversight responsibilities for screening companies, methods for evaluating
screener performance and improving screener training, the qualification of
screening companies and the appropriate nature of the certification process and
the constraints that should be imposed on new screening companies. The comment
period associated with the APRM expired on May 1, 1997. To date, the FAA has not
promulgated any proposed rules concerning the implementation of the 1996 Act's
certification directive, and the Company is unable to predict the nature and
extent of such regulations or their potential impact on the Company's business.
In addition to the certification directive contained in the 1996 Act,
executives of certain major air carriers have proposed the transfer of security
responsibilities from third party contractors to a nationwide nonprofit security
corporation, funded by the air carriers. Any shift in responsibility for
aviation security to such an entity or to the government could have a material
adverse effect on the Company's results of operations and financial condition.
Risk analysis through profiling has been utilized in various forms by U.S.
carriers since 1986. In 1995, the FAA mandated that all U.S. carriers adopt a
uniform methodology of risk analysis through profiling at their "high-risk"
stations. In April 1996, the United States enacted a new anti-terrorism law,
which, among other things, mandates that foreign air carriers flying to and from
airports in the United States use security measures identical to those required
of U.S. airlines serving the same airports. In July 1996, as an initial response
to the explosion of TWA Flight 800, the FAA issued a "security directive"
applicable to all international flights originating from the United States,
which requires the implementation of certain passenger and cargo classifications
similar to some of the profiling procedures included in the Company's profiling
method.
The Company's aviation and commercial security services are subject to
regulation by various state and local authorities. The Company is also required
to obtain and maintain various licenses and permits from state and local
authorities to provide aviation and commercial security services, as well as
certain other services.
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MANAGEMENT
EXECUTIVE OFFICERS AND DIRECTORS
The Board of Directors of the Company currently consists of three members,
Robert A. Weitzel, James O. Singer and Mr. Weitzel's spouse. The Company will
expand the Board of Directors, on or prior to completion of the Offering, to
five persons, including three independent Directors, and Mrs. Weitzel will
resign her directorship at that time. Directors will be elected at each annual
meeting of shareholders and will serve until their successors are duly elected
and qualified.
The Company's Articles of Incorporation provide that the Board of Directors
must consist of a majority of Independent Directors. (An "Independent Director"
is a person who is (i) independent of management of the Company, (ii) not
employed by or an officer of the Company, (iii) not an "affiliate" (as defined
in Rule 405 under the Securities Act) of the Company or any subsidiary of the
Company, and (iv) not a person who acts on a regular basis as an individual or
representative of an organization serving as a professional advisor, legal
counsel or consultant to management if, in the opinion of the Board of
Directors, the relationship is material to the Company, that person, or the
organization represented.) In the event of the resignation or removal of an
Independent Director, the resulting vacancy will be filled by the remaining
Independent Directors.
Executive officers of the Company are elected and serve at the discretion
of the Board of Directors until their successors are duly chosen and qualified.
The following table sets forth certain information concerning the
individuals who will be directors and officers of the Company on the completion
of the Offering.
<TABLE>
<CAPTION>
NAME AGE POSITION
- ----------------------------------- --- ----------------------------------------------------
<S> <C> <C>
Robert A. Weitzel.................. 62 Director and Chief Executive Officer
James O. Singer.................... 53 Director, President and Chief Operating Officer
Robert A. Swartz................... 34 Vice President and Chief Financial Officer
Scott E. Brewer.................... 35 Vice President, General Counsel and Secretary
Daniel J. Richards................. 39 Eastern Division President
Stephen Metzler.................... 39 Central Division President
Gene Empey......................... 53 Western Division President
Dillard Woodson.................... 49 International Division President
Lee C. Howley...................... 49 Director
Ivan J. Winfield................... 62 Director
Jerry V. Jarrett................... 66 Director
</TABLE>
The following is a biographical summary of the business experience of the
current and proposed directors and officers of the Company.
Robert A. Weitzel, a Director since 1987, is the Chief Executive Officer of
the Company. He has served as the Chief Executive Officer of the Company since
1987 and was President from 1987 to April 1997. He served as Senior Vice
President from 1982 to 1987 and Vice President from 1978 to 1982.
James O. Singer, a Director since June 1997, has been President and Chief
Operating Officer since joining the Company in April 1997. Mr. Singer was
employed by AMR Services Corporation, an aviation services company, as
President-Airline Services Division from May 1989 to June 1995. From 1995 until
April 1997, Mr. Singer worked as a consultant in the aviation industry.
Robert A. Swartz is the Vice President and Chief Financial Officer of the
Company. He has served in this capacity since October 1995. From April 1989 to
October 1995, he was Chief Financial Officer for ASM International, a service
company. From August 1987 to April 1989, he was a senior auditor with Grant
Thornton LLP.
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Scott E. Brewer is the Vice President, General Counsel and Secretary of the
Company. He has served as Vice President since April 1995, General Counsel since
September 1993 and Secretary since June 1997. Mr. Brewer was in the private
practice of law from October 1988 to August 1993.
Daniel J. Richards is the Eastern Division President of the Company. He has
served in this position since December 1996. From March 1994 to December 1996 he
was Director Ground Handling/Director Field Operations for American
International Freight, an air cargo service company. He served as a Field
Service Supervisor for Airborne Express, an air cargo service company, from
January 1993 to March 1994. He served as Vice President of Operations for
Evergreen Aviation, an air cargo service company, from June 1991 to December
1992.
Stephen Metzler is the Central Division President of the Company. He has
served in this capacity since April 1996. He served as Vice President Eastern
Division from May 1995 to April 1996 and District Manager from May 1994 to May
1995. He served as Aircraft Appearance Manager from December 1991 to May 1994.
Gene Empey is the Western Division President of the Company. He has served
in this capacity since December 1988.
Dillard Woodson is the International Division President of the Company. He
has served in this capacity since February 1997. He served as the Vice President
of Systems and Training from February 1996 to February 1997. He served as the
Technical Management Consultant to CSA Airlines in Prague from January 1994 to
February 1996. He served as the General Manager for Liberia for Intercon
Security Ltd., a commercial security company, from April 1993 to June 1993. Mr.
Woodson was an artillery officer in the United States Marine Corps from 1968 to
June 1993.
Ivan Winfield is currently Associate Professor and Chairholder of the
Herzog Chair in Free Enterprise at Baldwin Wallace College, in Berea, Ohio. Mr.
Winfield retired in 1994 from Coopers & Lybrand, L.L.P. From 1978 to 1990 he was
managing partner of the firm's Oklahoma practice and from 1990 to 1994 he was
managing partner of the firm's Northeast Ohio practice. Mr. Winfield is a
Trustee of The Fairport Funds and is Chairman of its audit committee. Mr.
Winfield is also a Director of HMI Industries, Inc. and is Chairman of its
finance committee. Mr. Winfield also serves as a Director of Boykin Lodging
Company, a publicly held real estate investment trust.
Lee C. Howley, Jr. has been the sole owner and president of Howley &
Company, a real estate brokerage and development company, since 1981, and has
been the sole owner and Chairman of Coast Management Company, a cleaning and
real estate management company, since 1987. Since January 1992 Mr. Howley has
served as the Chairman of the Convention and Visitors Bureau of Greater
Cleveland. Mr. Howley serves on the Boards of Directors of LESCO, Inc., a
publicly held manufacturer and supplier of lawn care products, and Boykin
Lodging Company.
Jerry V. Jarrett joined Ameritrust Company National Association, a national
banking association, in 1974, and served as its Chairman and Chief Executive
Officer from 1983 until 1990. Mr. Jarrett serves as a director of Forest City
Enterprises Inc., a real estate leasing company, and United Way International.
He is a member of the Distribution Committee of the Cleveland Foundation and
Treasurer of The Musical Arts Association (The Cleveland Orchestra). Mr. Jarrett
is also a trustee of The Cleveland Clinic Foundation and of The Greater
Cleveland Advisory Board of the Salvation Army, of which he is past Chairman.
COMMITTEES
In connection with the Offering, the Board will establish an Audit
Committee and a Compensation Committee. Messrs. Winfield, Howley and Jarrett
will serve as the members of both committees.
The Audit Committee will have responsibility for reviewing and making
recommendations regarding the Company's employment of independent accountants,
the annual audit of the Company's financial statements and the Company's
internal controls, accounting practices and policies. The Compensation Committee
will be responsible for determining the nature and amount of compensation of the
executive officers of the Company and administering the Company's employee
benefit plans.
36
<PAGE> 37
LIABILITY AND INDEMNIFICATION OF DIRECTORS AND OFFICERS
The Ohio Revised Code provides that a director may be held liable in
damages for his act or omission as a director only if it is proved by clear and
convincing evidence that he undertook the act or omission with deliberate intent
to cause injury to the corporation or with reckless disregard for its best
interest. This limitation of director liability does not apply to transactions
between directors and the corporation or to the unlawful payment of dividends,
distribution of assets to shareholders or making of loans to officers or
directors. Further, this limitation does not apply to any liability of a
director arising under the federal securities laws.
The Ohio Revised Code authorizes Ohio corporations to indemnify officers
and directors from liability if the officer or director acted in good faith and
in a manner reasonably believed by the officer or director to be in or not
opposed to the best interest of the corporation, and, with respect to any
criminal actions, if the officer or director has no reason to believe his action
was unlawful. In the case of an action by or on behalf of corporation,
indemnification may not be made (i) if the person seeking indemnification is
adjudged liable for negligence or misconduct, unless the court in which such
action was brought determines such person is fairly and reasonably entitled to
indemnification or (ii) if liability asserted against such person concerns
certain unlawful distributions. The indemnification provisions of the Ohio Code
require indemnification if a director or officer has been successful on the
merits or otherwise in defense of any action, suit or proceeding that he was a
party to by reason of the fact that he is or was a director or officer of the
corporation. The indemnification authorized under Ohio law is not exclusive and
is in addition to any other rights granted to officers and directors under the
articles of incorporation or code of regulations of the corporation or any
agreement between officers and directors and the corporation. A corporation may
purchase and maintain insurance or furnish similar protection on behalf of any
officer or director against any liability asserted against him and incurred by
him in his capacity, or arising out of the status, as an officer or director,
whether or not the corporation would have the power to indemnify him against
such liability under the Ohio Code.
The Company's Code of Regulations provides for the indemnification of a
director or officer of the Company to the maximum extent permitted by Ohio law
as authorized by the Board of Directors of the Company, and for the advancement
of expenses incurred in connection with the defense of any action, suit or
proceeding to which he was a party by reason of the fact that he is or was a
director or officer of the Company upon the receipt of an undertaking to repay
such amount unless it is ultimately determined that he is entitled to
indemnification.
The Company is seeking an insurance policy that will provide coverage in
the amount of $5,000,000 for the officers and directors of the Company against
claims arising out of alleged wrongful acts by such persons in their respective
capacities as officers and directors of the Company.
EXECUTIVE COMPENSATION
Summary Compensation Table. The following table sets forth information
regarding the compensation of the Chief Executive Officer and certain
individuals serving as executive officers during the last fiscal year
37
<PAGE> 38
(collectively, the "Named Executive Officers"), for services rendered in all
capacities to the Company during fiscal 1996.
<TABLE>
<CAPTION>
ANNUAL COMPENSATION
----------------------------------------
OTHER ANNUAL ALL OTHER
NAME AND PRINCIPAL POSITION FY(1) SALARY($) BONUS($) COMPENSATION($)(2) COMPENSATION($)(3)
- ----------------------------------- ---- -------- -------- ------------------ ------------------
<S> <C> <C> <C> <C> <C>
Robert A. Weitzel.................. 1996 $312,250 $200,244 $447
President and Chief Executive
Officer(4)
Robert A. Swartz................... 1996 $ 67,600 $ 38,848 $159,142(5)
Vice President and Chief
Financial Officer
Scott Dennison(6).................. 1996 $ 68,658 $ 48,137
President, Crown Technical
Services
Scott Brewer....................... 1996 $ 50,000 $ 38,239 $ 43,402(5)
Vice President and General
Counsel
Steven Metzler..................... 1996 $ 69,999 $ 28,895 $216
Central Division President
Gene Empey......................... 1996 $ 82,515 $ 11,562
Western Division President
</TABLE>
- ---------------
(1) Includes compensation earned, awarded or paid for the fiscal year ended
March 31, 1997.
(2) No Named Executive Officer received perquisites or other personal benefits
in excess of the lesser of $50,000 or 10% of such individual's salary plus
annual bonus.
(3) Represents amounts contributed by the Company to the Company's 401(k) Plan,
as matching contributions relating to before-tax contributions made by such
individual.
(4) Effective October 1, 1997, Mr. Weitzel's annual salary will be reduced to
$300,000. Mr. Weitzel will also be entitled to a $100,000 bonus, payable
within 90 days after the end of fiscal 1997, if the Company achieves its
budgeted net income for fiscal 1997.
(5) Amounts reported under the caption "Other Annual Compensation" reflect the
cash value of Common Shares awarded to the Named Executive Officers on
November 1, 1996 as determined by an independent appraisal. The Common
Shares awarded to such persons are subject to shareholder agreements, to
which the Company is a party. See "-- Shareholder Agreements."
(6) Mr. Dennison resigned from the Company in February 1997.
There were no options outstanding or granted in fiscal 1996.
EMPLOYMENT CONTRACTS
Robert A. Weitzel, James O. Singer, Robert A. Swartz and Scott E. Brewer
have entered into employment contracts with the Company. Mr. Weitzel's agreement
provides for an initial term expiring December 31, 2000, which is automatically
extended for an additional calendar year at the end of each
calendar year of the agreement, subject to the right of either party to
terminate the agreement by giving six months' prior written notice. The
agreement for Mr. Singer provides that he is responsible for the day-to-day
operations of the Company. The agreement also provides for an initial term
expiring December 31, 1999, which is automatically extended for an additional
calendar year at the end of each calendar year of the agreement, subject to the
right of either party to terminate the agreement by giving six months' prior
written notice. The agreements for Messrs. Swartz and Brewer provide for an
initial term expiring December 31, 1999, which is automatically extended for an
additional calendar year at the end of each calendar year of the agreement,
subject to the right of either party to terminate the agreement by giving six
months' prior written notice.
Mr. Weitzel will also be entitled to annual base compensation of $300,000,
and a bonus of up to $100,000 if the Company achieves its budgeted net income
for fiscal 1997. Mr. Singer will receive a salary of $150,000 and a bonus of
$12,500 for each quarter in which the Company achieves its quarterly operating
budget goals and a bonus of $12,500 for each quarter in which the Company
achieves a 15% annualized internal sales
38
<PAGE> 39
growth rate. Mr. Swartz will receive a salary of $71,500 and a bonus of 0.75% of
monthly operating income for each month in which the Company achieves its
monthly operating budget goals. Mr. Brewer will receive a salary of $50,000 and
a bonus on the same basis as Mr. Swartz. Messrs. Weitzel, Singer, Swartz and
Brewer will also be granted an aggregate of 200,262 options to purchase Common
Shares in connection with the Offering. See "Long Term Incentive Plan."
Each agreement provides that the employee will not compete with the Company
in the aviation services or commercial security business during his employment
or at any time during a period of up to two years immediately following the
termination of his employment. Further, each agreement provides that upon the
termination of the employee's employment (i) by the Company other than for
"cause" (as defined in the employment contracts) or by the employee for certain
actions of the Company, such as effecting a material adverse change in the
employee's duties and responsibilities, or (ii) by the employee on a "change of
control" of the Company (as defined in the employment contracts), the employee
will be entitled to all of the compensation and benefits payable to him under
the employment contract for the remainder of the stated term of the agreement.
SHAREHOLDER AGREEMENTS
Robert A. Swartz, Scott E. Brewer and Gene Empey have each entered into a
Shareholder Agreement with the Company (each a "Shareholder Agreement"). Each
Shareholder Agreement provides certain rights of first refusal to the Company
and the other shareholders of the Company to purchase any Common Shares proposed
to be transferred by the shareholder, at a price equal to the lesser of (i) the
price proposed to be paid by the transferee or (ii) a price determined on an
annual basis by the Company and the Company's majority shareholder (which price
will not exceed the net book value of the Common Shares) (the "Agreement
Price"). In addition, each Shareholder Agreement provides that, upon the death
of the shareholder or the termination of his employment, the Company will
purchase all of the Common Shares owned by him at the Agreement Price. Each
Shareholder Agreement also gives the Company the right to purchase, at its
election, all of the Common Shares at the Agreement Price if the Company
Division for which the shareholder is responsible fails to achieve budgeted
levels of profitability, and gives the other shareholders an option to purchase
the Common Shares at the Agreement Price in the event of the disability of the
shareholder. The Shareholder Agreements will be terminated on the closing of the
Offering.
COMPENSATION COMMITTEE INTERLOCKS
The Company does not currently have a board committee performing the
function of a compensation committee. Mr. Weitzel made decisions with regard to
the compensation of the Company's executive officers for fiscal 1996. After the
consummation of the Offering, the Board of Directors will create a Compensation
Committee consisting of the Independent Directors. See "Certain Transactions"
for information concerning transactions between the Company and Mr. Weitzel.
COMPENSATION OF DIRECTORS
The Company intends to pay its Independent Directors an annual fee of
$12,000 and a fee of $1,000 for each directors' meeting and each committee
meeting attended. Each director may elect to receive his compensation in the
form of grants of Common Shares. No other directors will receive directors'
fees. Upon completion of the Offering, each Independent Director will receive an
option for 5,000 Common Shares exercisable at the initial public offering price
of the Common Shares, which option will vest fully within the first two years of
issuance and will have a term of ten years.
DIRECTORS' DEFERRED COMPENSATION PLAN
The purpose of the Company's Directors' Deferred Compensation Plan (the
"Deferred Plan") is to assist it in attracting and retaining persons of
competence and stature to serve as outside directors by giving them the option
to defer receipt of the fees payable to them by the Company for their services
as directors. A director is eligible to participate in the Deferred Plan if he
or she receives fees for services as a director and is not employed by the
Company. The Deferred Plan is administered by Company officers and directors who
are
39
<PAGE> 40
(i) appointed by the Board of Directors of the Company and (ii) not eligible to
participate in the Deferred Plan. The Deferred Plan is applicable to all
director's fees payable with respect to periods commencing on or after the
consummation of the Offering. The value of amounts credited to a director in the
Deferred Plan increases or decreases based on the market value of the Company's
Common Shares plus the value of dividends or other distributions on the
Company's Common Shares. Distribution of amounts credited to a director in the
Deferred Plan commences (i) on a date elected by the director, so long as that
the date is not earlier than the January 1 following the year in which the
director attains age 72, or (ii) within ninety (90) days after the date of the
director's death or disability.
LONG TERM INCENTIVE PLAN
The purpose of the Company's Long Term Incentive Plan (the "Plan") is to
promote the long-term growth and profitability of the Company by enabling it to
attract, retain and reward key employees of the Company and its affiliates and
to strengthen the mutuality of interest between such key employees and the
Company's shareholders. Grants of incentive or nonqualified share options,
restricted shares, deferred shares, share purchase rights, share appreciation
rights in tandem with options ("SARs"), other share-based awards, or any
combination thereof, may be made under the Plan. Officers and key employees who
are responsible for or contribute to the management, growth or profitability of
the business of the Company and its affiliates are eligible for grants and
awards under the Plan. The Compensation Committee will administer the Plan and
determine the type, amount and timing of grants and awards. The members of the
Compensation Committee are not eligible to participate in the Plan. The Company
has reserved 267,015 Common Shares for issuance under the Plan. No Participant
in the Plan may be granted share options or other share awards in any calendar
year for more than 100,000 shares. Upon the Closing, Messrs. Weitzel, Singer,
Swartz and Brewer will be granted options to purchase, at the initial public
offering price, 66,760, 33,362, 50,070, and 50,070 shares, respectively, under
the Plan. The options will vest in varying periods from four to eight years. The
share limitations, shares reserved and the terms of outstanding awards will be
adjusted, as the Compensation Committee deems appropriate, in the event of a
share dividend, split or other change in the corporate structure of the Company
affecting the shares.
Share Options and Tandem SARs. The term of each option granted under the
Plan will not exceed 10 years from the date of grant, and the exercise price of
share options may not be less than 100% of the fair market value (as defined in
the Plan) of the shares on the date the option is granted. The Compensation
Committee may grant tandem SARs to any person granted an option under the Plan.
Each tandem SAR will represent the right to receive, in cash or shares as the
Compensation Committee determines, a distribution in an amount equal to the
excess of the fair market value of the option shares (to which the SAR
corresponds) on the date of exercise over the exercise price for those shares.
Each tandem SAR expires at the same time as its corresponding option. The
exercise of an option will result in an immediate forfeiture of its
corresponding SAR, and the exercise of an SAR will cause an immediate forfeiture
of its corresponding option. The Plan provides that all options and tandem SARs
will vest on a change in control (as defined in the Plan) of the Company.
Share Awards. The Compensation Committee may award Common Shares under the
Plan and may place restrictions on the transfer or defer the date of receipt of
those shares. Each award will specify any applicable restrictions or deferral
date, the duration of those restrictions, and the time at which the restrictions
lapse. Participants will be required to deposit shares with the Company during
the period of any restrictions. The Compensation Committee may also grant share
purchase rights for which the purchase price may not be less than 100% of the
fair market value (as defined in the Plan) on the date of grant.
Other Share-Based Awards. The Compensation Committee may grant other
awards of shares and other awards that are valued or otherwise based on the
Company's Common Shares.
Miscellaneous. The Plan provides for vesting, exercise or forfeiture of
rights granted under the Plan on retirement, death, disability, termination of
employment or a change of control. The Board of Directors may modify, suspend or
terminate the Plan as long as it does not impair the rights thereunder of any
participant. Under applicable law, the holders of Common Shares must approve any
increase in the maximum number of shares reserved for issuance under the Plan,
any change in the classes of employees eligible to participate in the Plan and
any material increase in the benefits accruing to participants.
40
<PAGE> 41
CERTAIN TRANSACTIONS
Company Purchases of Shares. In February 1994, Robert A. Weitzel borrowed
$200,000 from the Company, evidenced by a promissory note bearing interest at
the rate of 10.0% per annum (the "Note"). Mr. Weitzel utilized the $200,000 to
purchase 200 of the Company's Class E Preferred Shares, par value $1,000 per
share (the "Class E Preferred"), from a former officer of the Company. The
Company acquired the Class E preferred from Mr. Weitzel in March 1997 in
exchange for cancellation of the Note, with accrued and unpaid cumulative
dividends offset against accrued interest on the Note, resulting in
approximately $10,000 of interest remaining to be paid by Mr. Weitzel.
In December 1996, the Company exercised its right to purchase 2,002,727
Common Shares from a former officer of the Company for $1,200,000.
Indebtedness of Principal Shareholder. In May 1993, Robert A. Weitzel,
President and Chief Executive Officer of the Company, borrowed $252,720 from the
Company at an annual rate of interest of 8.15%, evidenced by a promissory note
and secured by a mortgage on Mr. Weitzel's home. Mr. Weitzel also borrowed
$70,000 from the Company in January 1994, at an annual interest rate of 10%,
evidenced by a promissory note. The largest aggregate amount of indebtedness Mr.
Weitzel had outstanding in favor of the Company was $1,978,000, $1,866,000 and
$1,753,000 in fiscal 1996, 1995 and 1994, respectively. The current amount of
Mr. Weitzel's indebtedness to the Company is $445,119, including the interest
referred to above and approximately $150,000 that is delinquent. Mr. Weitzel
will repay all of his indebtedness to the Company at the time of consummation of
the Offering. The Company does not intend to make or guarantee loans to its
officers, directors, or shareholders after the consummation of the Offering.
Acquisition of NBC Leasing, Inc. NBC Leasing, Inc. ("NBC") was merged into
the Company in March 1997. NBC had leased certain machinery and equipment to the
Company prior to the merger. The Company paid $60,000 in management fees to NBC
in each of fiscal 1996, 1995 and 1994. NBC was owned by certain shareholders and
employees of the Company, including Robert A. Weitzel, who was issued 4,126
Common Shares in exchange for his 75% interest in NBC in connection with the
merger. In connection with the merger, the Company cancelled $1,694,000 in notes
and accrued interest receivable from the shareholders of NBC and $1,694,000 in
notes payable to the NBC shareholders by NBC were contributed to capital.
International Transport Security, Inc. International Transport Security,
Inc. ("Transport") was a corporation under common ownership with the Company
until it was dissolved in March 1996. Prior to March 31, 1996, Transport
provided management services to the Company. Transport incurred $4.9 million,
$4.6 million and $959,000 in payroll costs in fiscal 1993, 1994 and 1995 and
received from the Company $4.1 million, $3.8 million and $696,000 in management
fees in fiscal 1993, 1994 and 1995. See "Consolidated Financial Statements."
Agreement with Norman H. Wood. On September 22, 1987, shareholders holding
substantially all of the outstanding shares of ITS executed a written consent in
which they agreed to distribute to Norman H. Wood, who was at that time the
Company's Chief Operating Officer, 6.546% of the net proceeds received by them
upon any sale of the Company. ITS and Messrs. Weitzel and Wood have agreed that
any claims that Mr. Wood may have with respect to that instrument will be
settled by Mr. Weitzel transferring to Mr. Wood 73,101 of Mr. Weitzel's Common
Shares of the Company, and the Company paying to Mr. Wood $75,000, prior to the
consummation of the Offering. The parties have also agreed that Mr. Wood's
employment with ITS will terminate at the time of that transfer and payment, and
that ITS will pay to Mr. Wood a severance benefit in an amount equal to six
months' salary in connection with that termination.
41
<PAGE> 42
PRINCIPAL AND SELLING SHAREHOLDERS
The following table sets forth certain information regarding the beneficial
ownership of the Company's Common Shares on a fully diluted basis as of August
27, 1997, and as adjusted to reflect the sale of the Common Shares offered
hereby, for: (a) each of the Company's directors; (b) each person known by the
Company to own beneficially more than 5% of the outstanding Common Shares on a
fully diluted basis; (c) each Named Executive Officer; and (d) the Company's
executive officers and directors as a group. All information with respect to
beneficial ownership by the Company's directors, officers or beneficial owners
has been furnished by the respective director, officer or beneficial owner, as
the case may be. Except as otherwise described in the notes below, the following
beneficial owners have sole voting power and sole investment power with respect
to all Common Shares set forth opposite their names.
<TABLE>
<CAPTION>
COMPANY COMMON SHARES BENEFICIALLY OWNED
-----------------------------------------------------------
BEFORE THE AFTER THE
OFFERING SHARES OFFERING
-------------------- BEING --------------------
NAME AND ADDRESS(1) NUMBER PERCENT OFFERED NUMBER PERCENT
------------------------------ ---------- ------ ---------- ---------- ------
<S> <C> <C> <C> <C> <C>
Robert A. Weitzel(2).......... 3,438,990 94.45% 227,273 3,211,717 51.48%
James O. Singer(2)............ 0 0 0 0
Robert A. Swartz(2)........... 41,901 1.15 41,901 0.67
Scott E. Brewer(2)............ 16,116 0.44 16,116 0.26
Stephen Metzler............... 0 0 0 0
Scott Dennison................ 0 0 0 0
Gene Empey.................... 6,446 0.18 6,446 0.10
Ivan J. Winfield(2)........... 0 0 0 0
3901 Insworth
Pepper Pike, Ohio 44124
Lee C. Howley, Jr.(2)......... 0 0 0 0
5430 Portage Drive
Vermillion, Ohio 44089
Jerry V. Jarrett(2)........... 0 0 0 0
2614 Fairwood Drive
Pepper Pike, Ohio 44124
All directors and executive
officers
as a group (11 persons)..... 3,503,453 96.22% 3,276,180 52.51%
</TABLE>
- ---------------
(1) Unless otherwise indicated, the address of each beneficial owner is Crown
Centre, 5005 Rockside Road, Independence, Ohio 44031.
(2) Each of these individuals will receive options to purchase Common Shares in
the following amounts in connection with the Offering: Mr. Weitzel (66,760
shares); Mr. Singer (33,362 shares); Mr. Swartz (50,070 shares); Mr. Brewer
(50,070 shares); Mr. Winfield (5,000 shares); Mr. Howley (5,000 shares); and
Mr. Jarrett (5,000 shares).
42
<PAGE> 43
DESCRIPTION OF CAPITAL SHARES
The following summary description of the Company's capital shares does not
purport to be complete and is qualified in its entirety by reference to the
Amended and Restated Articles of Incorporation of the Company (the "Articles")
and the Code of Regulations of the Company, the material provisions of which are
accurately set forth in the following summary description and which are included
as exhibits to the Registration Statement of which this Prospectus forms a part.
The Articles authorize (a) 20 million Common Shares, without par value, of
which 3,641,017 were issued and outstanding immediately prior to the Offering
and (b) five million Serial Preferred Shares, without par value ("Serial
Preferred Shares"), none of which is issued and outstanding. After completion of
the Offering, a total of 6,238,744 Common Shares will be issued and outstanding.
COMMON SHARES
Subject to the rights of the holders of any outstanding Preferred Shares,
the holders of Common Shares are entitled to receive such dividends as may be
declared by the Board and to share ratably in assets available for distribution
upon liquidation. There are no pre-emptive rights, conversion rights, redemption
provisions or sinking fund provisions with respect to Common Shares under the
Articles. Holders of Common Shares are entitled to one vote per share. All
Common Shares offered hereby, upon completion of the Offering, will be fully
paid and nonassessable.
PREFERRED SHARES
The Board is empowered to authorize the issuance of Serial Preferred Shares
which may be issued in one or more series. All series of Serial Preferred Shares
will rank equally and will be identical in all respects, except that the Board
may fix with respect to each such series without further action by the
shareholders, prior to issuance thereof, the following terms: (a) the
designation of the series; (b) the authorized number of shares of the series,
subject to certain increases and decreases as determined by the Board from time
to time; (c) the dividend rate or rates of the series; (d) the date or dates
from which dividends shall accrue and (if applicable) will be cumulative and the
dates on which and the period or periods for which dividends, if declared, shall
be payable, including the means by which such dates and periods may be
established; (e) any redemption rights and redemption prices; (f) the terms and
amounts of any sinking fund; (g) the amounts payable on shares of the series on
any voluntary or involuntary liquidation, dissolution or winding up of the
affairs of the Company; (h) whether the shares of the series are convertible
into Common Shares or shares of any other class and, if so, the conversion rate
or rates or price or prices, any adjustments thereof and all other terms and
conditions upon which such conversion may be made; and (i) any restrictions on
the issuance of shares of the same or any other class or series. The holders of
Serial Preferred Shares will have no voting rights, except as otherwise provided
by law as specifically provided in the Articles with respect to certain matters,
such as the election of two members of the Board upon default by the Company in
the payment of dividends for a 540-day period and amendments to the Articles
that would adversely affect the rights of holders of Serial Preferred Shares.
All series of Preferred Shares would rank, as to dividend and liquidation
rights, senior to Common Shares. The Board has no present intention to issue
Preferred Shares.
Because of its discretion with respect to the creation and issuance of any
series of Preferred Shares without shareholder approval, the Board could
adversely affect the voting power and other rights of the holders of Common
Shares. The ability of the Board to issue Preferred Shares, while providing
flexibility in connection with financings, acquisitions and other corporate
purposes, could have the effect of discouraging an attempt by another person or
entity, through the acquisition of a substantial number of Common Shares, to
acquire control of the Company with a view to effecting a merger, sale of the
Company's assets or similar transaction, since the issuance of Preferred Shares
could be used to dilute the share ownership of a person or entity seeking to
obtain control of the Company with a view to effecting a merger, sale of the
Company's assets or similar transaction. Additionally, issuance of Preferred
Shares could result in there being a class of shares with conversion features
and preference over Common Shares with respect to dividends and distributions in
liquidation and could also result in the dilution of net income and book value
per share of the Company.
43
<PAGE> 44
CERTAIN ANTI-TAKEOVER PROVISIONS
Chapter 1704 of the Ohio Revised Code prohibits certain transactions,
including mergers, sales of assets and similar corporate transactions, involving
Ohio corporations and holders of 10% or more of their voting shares, unless
certain advance approvals are obtained or certain other conditions are met.
Section 1701.831 of the Ohio Revised Code imposes certain advance notice and
shareholder approval requirements with respect to voting share acquisitions that
cross the 20%, 33 1/3% and 50% of voting shares thresholds. Section 1707.041 of
the Ohio Revised Code imposes advance filing and notice requirements with
respect to certain tender offers and invitations for tenders for more than 10%
of certain Ohio corporations. These restraints could discourage potential
acquisition proposals and could delay or prevent a change in control of the
Company.
TRANSFER AGENT AND REGISTRAR
The Transfer Agent and Registrar for the Common Shares is First Chicago
Trust Company, Inc. of New York, located in New York, New York.
SHARES ELIGIBLE FOR FUTURE SALE
Sales of substantial amounts of Common Shares in the public market, or the
perception that those sales could occur, could adversely affect the prevailing
market price of Common Shares and make it more difficult for the Company to sell
equity securities in the future at a time and price that it considers
appropriate.
Immediately following completion of the Offering, the Company will have
6,238,744 Common Shares outstanding. All of the 2,825,000 Common Shares being
sold in the Offering (or 3,248,750 shares if the Underwriters' over-allotment
option is exercised in full) will be freely tradeable (other than by an
"affiliate" of the Company as such term is defined in the Securities Act)
without restriction or registration under the Securities Act. Of the Common
Shares owned by executive officers and directors of the Company, 3,276,180
shares will be eligible for public sale only if registered under the Securities
Act or an exemption from registration is available, including under Rule 144
thereunder, and only following release from or expiration of a 180 day lockup
agreement with the Underwriters.
In general, under Rule 144 as currently in effect, a person (or persons
whose shares are aggregated) who has beneficially owned restricted Common Shares
for at least one year but less than two years will be entitled to sell in any
three-month period a number of such shares that does not exceed the greater of
(i) 1.0% of the then outstanding Common Shares (approximately 62,387 shares
immediately after the Offering) or (ii) the average weekly trading volume of
Common Shares on the Nasdaq National Market during the four calendar weeks
immediately preceding the date on which notice of the sale is filed with the
Commission. Sales pursuant to Rule 144 are also subject to certain other
requirements relating to manner of sale, notice and availability of current
public information about the Company. A person (or persons whose shares are
aggregated) who is not deemed to have been an affiliate of the Company at any
time during the three months immediately preceding the sale is entitled to sell
restricted shares pursuant to Rule 144(k) without regard to the limitations
described above, if two years have expired since the later of the date on which
those restricted shares were acquired from the Company or the date they were
acquired from an affiliate of the Company.
The Company and all of its directors, executive officers and current
shareholders who will hold, upon completion of the Offering, 3,413,744 Common
Shares, have agreed that they will not, directly or indirectly, without the
prior written consent of the Underwriters, and except for any grant of options
under the Long-Term Incentive Plan, as described herein, offer, sell, grant any
option to purchase or otherwise dispose (or announce any offer, sale, grant of
any option to purchase or other disposition) of any Common Shares, or any
securities convertible into, or exchangeable or exercisable for, Common Shares,
for a period of 180 days after the date of this Prospectus.
44
<PAGE> 45
UNDERWRITING
In the Underwriting Agreement, the Underwriters, represented by McDonald &
Company Securities, Inc. and Morgan Keegan & Company, Inc. (the
"Representatives"), have agreed, severally, subject to the terms and conditions
therein set forth, to purchase from the Company and the Selling Shareholder, and
the Company and the Selling Shareholder have agreed to sell to them, the number
of Common Shares totaling 2,825,000 shares, set forth opposite their respective
names below. The Underwriters are committed to take and pay for all shares if
any shares are purchased.
<TABLE>
<CAPTION>
NUMBER OF
UNDERWRITERS SHARES
-------------------------------------------------------------------------- ---------
<S> <C>
McDonald & Company Securities, Inc........................................ 1,052,500
Morgan Keegan & Company, Inc.............................................. 1,052,000
Advest, Inc............................................................... 40,000
Robert W. Baird & Co. Incorporated........................................ 40,000
Cleary Gull Reiland & McDevitt Inc........................................ 40,000
Cowen & Company........................................................... 40,000
Crowell, Weedon & Co...................................................... 40,000
Gerard Klauer Mattison & Co., L.L.C....................................... 40,000
GS(2) Securities, Inc..................................................... 40,000
Hanifen, Imhoff Inc....................................................... 40,000
Hoak Breedlove Wesneski & Co.............................................. 40,000
Janney Montgomery Scott Inc............................................... 40,000
Legg Mason Wood Walker, Incorporated...................................... 40,000
Miller, Johnson & Kuehn, Incorporated..................................... 40,000
Rauscher Pierce Refsnes, Inc.............................................. 40,000
Roney & Co. L.L.C......................................................... 40,000
The Seidler Companies Incorporated........................................ 40,000
Sutro & Co. Incorporated.................................................. 40,000
Tucker Anthony Incorporated............................................... 40,000
Unterberg Harris, L.P..................................................... 40,000
---------
Total................................................................ 2,825,000
=========
</TABLE>
The Company has been advised by the Representatives that the Underwriters
propose to offer the Common Shares to the public at the public offering price
set forth on the cover page of this Prospectus. The Underwriters may allow to
certain selected dealers who are members of the National Association of
Securities Dealers, Inc. (the "NASD") a discount not exceeding $0.47 per share,
and the Underwriters may allow, and such selected dealers may re-allow, a
discount not exceeding $0.10 per share to other dealers who are members of the
NASD. After the Offering, the public offering price and the discount to dealers
may be changed by the Representatives.
The Company has granted an option to the Underwriters, exercisable during
the 30-day period after the date of this Prospectus, to purchase up to a maximum
of 423,750 Common Shares at the public offering price, less the underwriting
discount, as set forth on the cover page of this Prospectus. The Underwriters
may exercise that option only to cover over-allotments in the sale of the Common
Shares that the Underwriters have agreed to purchase. To the extent that the
Underwriters exercise such option, each of the Underwriters will have a firm
commitment, subject to certain conditions, to purchase the same percentage of
the option shares as the number of shares to be purchased and offered by that
Underwriter in the table above bears to the total.
The Company and the Selling Shareholder have agreed to indemnify the
Underwriters against certain liabilities which may be incurred in connection
with the Offering, including liabilities under the Securities Act of 1933.
The Company, the Selling Shareholder and the directors, executive officers
and current shareholders of the Company have agreed that they will not offer,
sell, transfer or otherwise dispose of any Common Shares, or any securities
convertible into or exchangeable for Common Shares, for a period of 180 days
from the date of this Prospectus, without the prior written consent of McDonald
& Company Securities, Inc.
45
<PAGE> 46
The Representatives have advised the Company that the Underwriters do not
intend to confirm sales of Common Shares offered by this Prospectus to any
accounts over which they exercise discretionary authority.
At the request of the Company, up to 100,000 Common Shares offered in the
Offering have been reserved for sale to employees of the Company and certain
members of their families. The price of those shares to those persons will be
equal to the public offering price set forth on the cover page of this
Prospectus. The number of shares available to the general public will be reduced
to the extent those persons purchase reserved shares. Any shares not so
purchased will be offered in the Offering at the public offering price set forth
on the cover page of this Prospectus.
In connection with the Offering and in compliance with applicable law, the
Underwriters may overallot or effect transactions that stabilize, maintain, or
otherwise affect the market price of the Common Shares at levels above those
that might otherwise prevail in the open market, including by entering
stabilizing bids, effecting syndicate covering transactions or imposing penalty
bids. A stabilizing bid means the placing of any bid, or the effecting of any
purchase, for the purpose of pegging, fixing or maintaining the price of a
security. A syndicate covering transaction means the placing of any bid on
behalf of the underwriting syndicate or the effecting of any purchase to reduce
a short position created in connection with the Offering. A penalty bid means an
arrangement that permits McDonald & Company Securities, Inc., as managing
underwriter, to reclaim a selling concession from a syndicate member in
connection with the Offering when securities originally sold by the syndicate
member are purchased in stabilizing or syndicate covering transactions. These
transactions may be effected on the Nasdaq National Market or otherwise. The
Underwriters are not required to engage in any of these activities. Any such
activities, if commenced, may be discontinued at any time.
Prior to the Offering, there has not been any public market for the Common
Shares. The initial public offering price for the Common Shares included in the
Offering was determined by negotiations between the Company and the
Representatives. Among the factors considered in determining that price were the
history of and prospects for the Company's business and the industry in which it
competes, an assessment of the Company's management and the present state of the
Company's development, the past and present revenues and earnings of the
Company, the prospects for growth of the Company's revenues and earnings, the
current state of the economy in the United States and the current level of
economic activity in the industry in which the Company competes and in related
or comparable industries, and currently prevailing conditions in the securities
markets, including current market valuations of publicly traded companies that
are comparable to the Company.
LEGAL MATTERS
The validity of the Common Shares offered hereby will be passed upon for
the Company by Baker & Hostetler LLP, Cleveland, Ohio and certain legal matters
will be passed upon for the Underwriters by Calfee, Halter & Griswold LLP,
Cleveland, Ohio.
EXPERTS
The financial statements included in this Prospectus, except as they relate
to the unaudited periods, have been so included in reliance on the reports of
Grant Thornton LLP, independent accountants, given on the authority of said firm
as experts in auditing and accounting.
Effective October 20, 1995, the Company replaced Ernst & Young LLP as its
independent accountants. The decision to change accountants was approved by the
Board of Directors. There were no disagreements with the former accountants on
any matter of accounting principles or practices, or auditing scope or
procedure. Ernst & Young LLP has not audited or otherwise expressed an opinion
on any of the financial statements included in this Registration Statement.
46
<PAGE> 47
ADDITIONAL INFORMATION
The Company has filed with the Securities and Exchange Commission (the
"Commission") a Registration Statement (of which this Prospectus is a part) on
Form S-1 under the Securities Act with respect to the securities offered hereby.
This Prospectus does not contain all the information set forth in the
Registration Statement, certain portions of which have been omitted as permitted
by the rules and regulations of the Commission. Statements contained in this
Prospectus as to the content of any contract or other document are not
necessarily complete, and in each instance reference is made to the copy of such
contract or other document filed as an exhibit to the Registration Statement,
each such statement being qualified in all respects by such reference and the
exhibits and schedules thereto. The Company affirms that the material terms of
such contracts and other documents are accurately described in this Prospectus.
The Registration Statement and those exhibits and schedules can be inspected and
copied at the public reference facilities maintained by the Commission at its
principal office at Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C.
20549 and at the Commission's regional offices located at Citicorp Center, 500
West Madison Street, Suite 1400, Chicago, Illinois 66061 and 7 World Trade
Center, 13th Floor, New York, New York 10048. Copies of that material can also
be obtained from the Public Reference Section of the Commission at Judiciary
Plaza, 450 Fifth Street, N.W., Washington, D.C. 29549, at prescribed rates. The
Commission also maintains a Web site (address http://www.sec.gov) that contains
reports, proxy and information statements and other information regarding
registrants that filed electronically with the Commission.
The Company intends to furnish its shareholders with annual reports
containing consolidated financial statements audited by its independent
certified public accountants and with quarterly reports containing unaudited
condensed consolidated financial statements for each of the first three quarters
of each fiscal year.
47
<PAGE> 48
[This page intentionally left blank]
<PAGE> 49
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
International Total Services, Inc. and Subsidiaries
Report of Independent Certified Public Accountants.................................. F-2
Consolidated Balance Sheets at March 31, 1997 and 1996 and June 30, 1997............ F-3
Consolidated Statements of Earnings for the years ended March 31, 1997, 1996 and
1995 and for the three months ended June 30, 1997 and 1996....................... F-4
Consolidated Statements of Shareholders' Equity for the years ended March 31, 1997,
1996 and 1995 and for the three months ended June 30, 1997....................... F-5
Consolidated Statements of Cash Flows for the years ended March 31, 1997, 1996 and
1995 and for the three months ended June 30, 1997 and 1996....................... F-6
Notes to Consolidated Financial Statements.......................................... F-7
Intex Aviation Services, Inc.
Report of Independent Certified Public Accountants.................................. F-16
Balance Sheets at December 31, 1996 and 1995 and March 31, 1997..................... F-17
Statements of Earnings for the years ended December 31, 1996, 1995 and 1994 and for
the three months ended March 31, 1997 and 1996................................... F-18
Statements of Shareholders' Equity for the years ended December 31, 1996, 1995 and
1994 and for the three month period ended March 31, 1997......................... F-19
Statements of Cash Flows for the years ended December 31, 1996, 1995 and 1994 and
for the three months ended March 31, 1997 and 1996............................... F-20
Notes to Financial Statements....................................................... F-21
</TABLE>
F-1
<PAGE> 50
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
- --------------------------------------------------------------------------------
SHAREHOLDERS AND BOARD OF DIRECTORS
INTERNATIONAL TOTAL SERVICES, INC.
We have audited the accompanying consolidated balance sheets of International
Total Services, Inc. and subsidiaries as of March 31, 1997 and 1996, and the
related consolidated statements of earnings, shareholders' equity, and cash
flows for each of the three years in the period ended March 31, 1997. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our 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
International Total Services, Inc. and subsidiaries as of March 31, 1997 and
1996, and the consolidated results of their operations and their consolidated
cash flows for each of the three years in the period ended March 31, 1997 in
conformity with generally accepted accounting principles.
GRANT THORNTON LLP
Cleveland, Ohio
May 9, 1997, except for the first paragraph of
Note A and the second paragraph of Note J
for which the date is June 17, 1997,
and the third paragraph of Note J
for which the date is September 18, 1997
F-2
<PAGE> 51
INTERNATIONAL TOTAL SERVICES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
MARCH 31,
JUNE 30, ---------------------------
1997 1997 1996
----------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
CURRENT ASSETS
Cash and cash equivalents................................... $ 1,711,160 $ 1,452,028 $ 1,872,787
Accounts receivable -- net of allowance for doubtful
accounts of $100,000 in each year......................... 14,998,628 11,784,252 9,075,726
Deferred taxes.............................................. 1,493,521 1,493,521 1,284,901
Other current assets........................................ 2,536,279 1,555,988 1,175,646
----------- ----------- -----------
Total current assets................................. 20,739,588 16,285,789 13,409,060
Notes Receivable from Officers................................ 462,782 445,119 2,271,949
Property and Equipment
Security equipment.......................................... 2,873,029 2,758,716 2,385,900
Service equipment........................................... 1,720,457 1,657,055 1,565,135
Computer equipment.......................................... 1,769,686 1,758,405 1,320,141
Furniture and fixtures...................................... 941,615 859,933 547,761
Leasehold improvements...................................... -- 56,387 56,387
Autos....................................................... 502,710 499,835 203,581
----------- ----------- -----------
7,807,497 7,590,331 6,078,905
Less accumulated depreciation and amortization.............. 4,498,442 4,335,864 2,740,118
----------- ----------- -----------
3,309,055 3,254,467 3,338,787
Intangibles, less accumulated amortization of $648,480 and
$440,783 in 1997 and 1996, respectively..................... 9,859,568 4,345,518 1,792,973
Security Deposits and Other................................... 99,359 2,670,244 79,329
----------- ----------- -----------
9,958,927 7,015,762 1,872,302
----------- ----------- -----------
$34,470,352 $27,001,137 $20,892,098
=========== =========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Notes payable to bank....................................... $ 2,400,000 $ 2,400,000 $ 4,753,424
Current maturities of long-term obligations................. 63,790 120,536 52,281
Trade accounts payable...................................... 5,943,240 2,747,803 2,784,346
Accrued payroll and payroll taxes........................... 8,203,564 8,702,819 7,337,828
Other accrued expenses...................................... 1,793,965 1,417,662 1,030,259
Income taxes payable........................................ 996,622 572,875 401,704
----------- ----------- -----------
Total current liabilities............................ 19,401,181 15,961,695 16,359,842
Deferred Tax Liability........................................ 288,827 288,827 390,207
Long-Term Obligations......................................... 10,754,938 7,555,649 164,140
Commitments and Contingencies................................. -- -- --
STOCKHOLDERS' EQUITY
Class A preferred stock, $2,000 par value -- authorized 50
shares, issued 10 shares in 1996........................ -- -- 20,000
Class E preferred stock, $1,000 par value -- authorized
300 shares, issued and outstanding 200 shares in 1996... -- -- 200,000
Common stock, without par value, stated at $.01 per
share -- authorized 20,000,000 shares, issued 3,660,357
and 6,446,310 shares in 1997 and 1996, respectively..... 36,540 36,604 64,463
Additional paid-in capital................................ 450,456 472,892 362,193
Cumulative translation adjustment......................... (98,854) (98,854) (78,174)
Retained earnings......................................... 3,637,264 2,784,324 3,998,377
----------- ----------- -----------
4,025,406 3,194,966 4,566,859
Less treasury stock, 10 shares Class A preferred stock and
806,727 shares of common stock in 1996.................. -- -- 588,950
----------- ----------- -----------
4,025,406 3,194,966 3,977,909
----------- ----------- -----------
$34,470,352 $27,001,137 $20,892,098
=========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-3
<PAGE> 52
INTERNATIONAL TOTAL SERVICES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF EARNINGS
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED
JUNE 30, FOR THE YEARS ENDED MARCH 31,
--------------------------- ------------------------------------------
1997 1996 1997 1996 1995
------------ ------------ ------------ ------------ ------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Operating revenues......... $ 38,363,508 $ 24,106,130 $115,241,516 $ 95,462,891 $ 92,654,181
Cost of operating
revenues................. 31,823,578 20,474,630 98,337,729 81,340,962 79,981,094
------------ ------------ ------------ ------------ ------------
Gross profit.......... 6,539,930 3,631,500 16,903,787 14,121,929 12,673,087
Selling, general and
administrative
expenses................. 4,639,249 2,772,825 13,333,545 11,603,393 12,654,456
------------ ------------ ------------ ------------ ------------
Operating profit...... 1,900,681 858,675 3,570,242 2,518,536 18,631
Other expense (income)
Interest expense......... 421,949 133,044 764,845 654,057 332,772
Interest income.......... (7,948) (34,509) (127,510) (131,531) (144,361)
------------ ------------ ------------ ------------ ------------
414,001 98,535 637,335 522,526 188,411
------------ ------------ ------------ ------------ ------------
Earnings (loss) before
income taxes........ 1,486,680 760,140 2,932,907 1,996,010 (169,780)
Income taxes............... 633,740 318,020 1,237,117 958,427 547,852
------------ ------------ ------------ ------------ ------------
NET EARNINGS (LOSS)... $ 852,940 $ 442,120 $ 1,695,790 $ 1,037,583 $ (717,632)
------------ ------------ ------------ ------------ ------------
Earnings (loss) per
share.................... $ 0.23 $ 0.08 $ 0.33 $ 0.18 $ (0.12)
============ ============ ============ ============ ============
Weighted average number of
shares................... 3,654,985 5,684,978 5,089,480 5,775,880 6,292,976
============ ============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these statements.
F-4
<PAGE> 53
INTERNATIONAL TOTAL SERVICES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED MARCH 31, 1997, 1996 AND 1995 AND THE THREE MONTHS ENDED
JUNE 30, 1997 (UNAUDITED)
<TABLE>
<CAPTION>
UNREALIZED
CLASS A CLASS E ADDITIONAL LOSS ON CUMULATIVE
PREFERRED PREFERRED COMMON PAID-IN MARKETABLE TRANSLATION
STOCK STOCK STOCK CAPITAL SECURITIES ADJUSTMENT
--------- --------- ------- ---------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C>
BALANCE AT APRIL 1, 1994......................... $20,000 $ 200,000 $64,463 $362,193 $(27,893) $ (24,480)
Translation adjustment........................... -- -- -- -- -- 15,002
Unrealized loss on securities.................... -- -- -- -- (23,624) --
Purchase of 10 shares of Class A Preferred Stock
and 572,198 shares of common stock for
treasury....................................... -- -- -- -- -- --
Issuance of 25,785 common shares from treasury... -- -- -- -- -- --
Net loss......................................... -- -- -- -- -- --
------- -------- ------- -------- -------- --------
BALANCE AT MARCH 31, 1995........................ 20,000 200,000 64,463 362,193 (51,517) (9,478)
Translation adjustment........................... -- -- -- -- -- (68,696)
Sale of marketable securities.................... -- -- -- -- 51,517 --
Purchase of 286,099 shares of common stock for
treasury....................................... -- -- -- -- -- --
Issuance of 25,785 common shares from treasury... -- -- -- -- -- --
Net earnings..................................... -- -- -- -- -- --
------- -------- ------- -------- -------- --------
BALANCE AT MARCH 31, 1996........................ 20,000 200,000 64,463 362,193 -- (78,174)
Purchase of 2,028,477 shares of common stock for
treasury....................................... -- -- -- -- -- --
Issuance of 45,124 common shares from treasury... -- -- -- 171,000 -- --
Translation adjustment........................... -- -- -- -- -- (20,680)
Dividends declared -- Class E Preferred Stock.... -- -- -- -- -- --
Redemption Class E Preferred Stock............... -- (200,000) -- -- -- --
Merger of NBC Leasing............................ -- -- -- 34,862 -- --
Retirement of Treasury Stock..................... (20,000) -- (27,859) (95,163) -- --
Net earnings..................................... -- -- -- -- -- --
------- -------- ------- -------- -------- --------
BALANCE AT MARCH 31, 1997........................ $ -- $ -- $36,604 $472,892 $ -- $ (98,854)
Purchase of 6,446 shares......................... -- -- (64) (22,436) -- --
Net earnings..................................... -- -- -- -- -- --
------- -------- ------- -------- -------- --------
BALANCE AT JUNE 30, 1997 (UNAUDITED)............. $ -- $ -- $36,540 $450,456 $ -- $ (98,854)
======= ======== ======= ======== ======== ========
<CAPTION>
TOTAL
RETAINED TREASURY STOCKHOLDERS'
EARNINGS STOCK EQUITY
---------- ---------- ------------
<S> <C> <C> <C>
BALANCE AT APRIL 1, 1994......................... $3,678,426 $ -- $4,272,709
Translation adjustment........................... -- -- 15,002
Unrealized loss on securities.................... -- -- (23,624)
Purchase of 10 shares of Class A Preferred Stock
and 572,198 shares of common stock for
treasury....................................... -- (425,000) (425,000)
Issuance of 25,785 common shares from treasury... -- 18,025 18,025
Net loss......................................... (717,632) -- (717,632)
---------- ---------- ----------
BALANCE AT MARCH 31, 1995........................ 2,960,794 (406,975) 3,139,480
Translation adjustment........................... -- -- (68,696)
Sale of marketable securities.................... -- -- 51,517
Purchase of 286,099 shares of common stock for
treasury....................................... -- (200,000) (200,000)
Issuance of 25,785 common shares from treasury... -- 18,025 18,025
Net earnings..................................... 1,037,583 -- 1,037,583
---------- ---------- ----------
BALANCE AT MARCH 31, 1996........................ 3,998,377 (588,950) 3,977,909
Purchase of 2,028,477 shares of common stock for
treasury....................................... -- (1,226,584) (1,226,584)
Issuance of 45,124 common shares from treasury... -- 31,544 202,544
Translation adjustment........................... -- -- (20,680)
Dividends declared -- Class E Preferred Stock.... (52,000) -- (52,000)
Redemption Class E Preferred Stock............... -- -- (200,000)
Merger of NBC Leasing............................ (1,219,513) 2,638 (1,182,013)
Retirement of Treasury Stock..................... (1,638,330) 1,781,352 --
Net earnings..................................... 1,695,790 -- 1,695,790
---------- ---------- ----------
BALANCE AT MARCH 31, 1997........................ $2,784,324 $ -- $3,194,966
Purchase of 6,446 shares......................... -- -- (22,500)
Net earnings..................................... 852,940 -- 852,940
---------- ---------- ----------
BALANCE AT JUNE 30, 1997 (UNAUDITED)............. $3,637,264 $ -- $4,025,406
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these statements.
F-5
<PAGE> 54
INTERNATIONAL TOTAL SERVICES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED
JUNE 30, FOR THE YEARS ENDED MARCH 31,
-------------------------- -----------------------------------------
1997 1996 1997 1996 1995
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
OPERATING ACTIVITIES:
Net earnings........................ $ 852,940 $ 442,120 $ 1,695,790 $ 1,037,583 $ (717,632)
Adjustments to reconcile net
earnings to net cash provided by
(used in) operating activities:
Depreciation...................... 243,513 206,171 837,466 897,291 771,950
Amortization...................... 241,436 83,129 207,697 268,321 166,812
Loss (gain) on disposal of
equipment....................... 3,321 137,822 297,719 (113,998) (14,583)
Gain on sale of marketable
securities...................... -- -- -- (27,251) --
Deferred income taxes............. -- -- (310,000) (294,785) (313,914)
Stock compensation................ -- -- 202,544 18,025 18,025
Changes in operating assets and
liabilities:
Accounts receivable............. (3,214,376) 16,731 (2,708,526) (500,940) (1,322,894)
Other current and noncurrent
assets....................... (551,798) 85,916 (518,417) 11,827 (880,673)
Trade accounts payable.......... 151,929 (308,111) 314,826 404,191 430,293
Accrued expenses................ (300,796) 346,431 1,923,565 263,658 1,704,441
----------- ----------- ----------- ----------- -----------
Net cash provided by (used
in) operating activities... (2,573,831) 1,010,209 1,942,664 1,963,922 (158,175)
INVESTING ACTIVITIES:
Additions to property and
equipment......................... (298,100) (246,039) (1,051,649) (900,599) (1,518,057)
Proceeds received from sale of
equipment......................... 11,020 20,009 160,278 542,844 220,200
Proceeds from sale of marketable
securities........................ -- -- -- 109,185 --
Payments for acquisitions of
businesses, primarily by purchase
of security contracts............. -- -- (2,760,242) -- (2,838,365)
Deposit on acquisition of business
of Intex Aviation Services,
Inc............................... -- -- (2,570,886) -- --
----------- ----------- ----------- ----------- -----------
Net cash (used in) investing
activities................. (287,080) (226,030) (6,222,499) (248,570) (4,136,222)
FINANCING ACTIVITIES:
Net borrowings (payments) on note
payable to bank................... 3,218,676 (109,932) 2,005,072 (819,021) 5,108,880
Borrowings on subordinated debt..... -- -- 3,000,000 -- --
Borrowings on long-term debt........ -- -- 153,550 77,763 343,200
Principal payments on long-term
debt.............................. (76,133) (18,713) (52,282) (99,364) (135,922)
Purchase of treasury stock.......... (22,500) -- (1,226,584) (200,000) (425,000)
----------- ----------- ----------- ----------- -----------
Net cash provided by (used
in) financing activities... 3,120,043 (128,645) 3,879,756 (1,040,622) 4,891,158
Effect of exchange rates on cash...... -- -- (20,680) (68,696) 15,002
----------- ----------- ----------- ----------- -----------
NET (DECREASE) INCREASE IN
CASH....................... 259,132 655,534 (420,759) 606,034 611,763
Cash and cash equivalents at beginning
of year............................. 1,452,028 1,872,787 1,872,787 1,266,753 654,990
----------- ----------- ----------- ----------- -----------
Cash and cash equivalents at end of
year................................ $ 1,711,160 $ 2,528,321 $ 1,452,028 $ 1,872,787 $ 1,266,753
=========== =========== =========== =========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION
Cash paid for:
Interest.......................... $ 421,949 $ 142,218 $ 782,382 $ 610,333 $ 331,474
=========== =========== =========== =========== ===========
Income taxes...................... $ 188,502 $ 214,758 $ 1,230,953 $ 1,137,953 $ 1,312,282
=========== =========== =========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-6
<PAGE> 55
INTERNATIONAL TOTAL SERVICES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 1997, 1996 AND 1995 AND JUNE 30, 1997 AND 1996 (UNAUDITED)
NOTE A -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the significant accounting policies consistently applied in
the preparation of the combined financial statements follows. All share and per
share amounts have been adjusted for the 12,892.62 for 1 stock split declared on
June 17, 1997.
Presentation
The interim financial statements as of June 30, 1997 and 1996 and the three
months then ended as included herein are unaudited. However, in the opinion of
management, such information reflects all adjustments, consisting only of normal
recurring accruals necessary for a fair presentation of the information shown.
The interim financial statements for the periods stated and notes presented
herein do not contain certain information included in the Company's annual
financial statements and notes as also herein presented. Results for interim
periods are not necessarily indicative of results expected for the full year.
Revenue Recognition
The Company recognizes revenues from services provided under contracts as
those services are performed; revenues from sales of screening systems and other
products are recognized when those products are shipped to customers.
Business
International Total Services, Inc. (the Company) is a provider of
commercial security and aviation services, providing personnel and management
support to airlines at airports primarily in the United States and Europe. One
airline customer accounted for 18.9%, 18.4% and 27.6% of operating revenues for
the years ended March 31, 1997, 1996 and 1995, respectively. Another airline
customer accounted for 11.8%, 15% and 13.6% of operating revenues for the same
periods. Furthermore, five airline customers, including the two noted above,
accounted for approximately 51%, 51% and 56% of operating revenues for the years
ended March 31, 1997, 1996 and 1995, respectively, and 35%, 39% and 42%,
respectively, of accounts receivable at those dates.
Principles of Consolidation
The consolidated financial statements include the accounts of the Company
and its wholly-owned foreign and domestic subsidiaries. All significant
intercompany balances and transactions have been eliminated in consolidation.
International Transport Security, Inc. (Transport) was a corporation under
common ownership with the Company until it was dissolved in March 1996. The sole
function of Transport was to pay compensation to the officers and other
corporate personnel of the Company for which Transport received a management
fee. Accordingly, Transport's accounts have been included in the consolidated
financial statements through the date of dissolution. Upon dissolution of
Transport, the Company began paying all compensation directly.
NBC Leasing, Inc. (NBC) was a corporation under common ownership until it
was acquired by and merged into the Company on March 31, 1997. The acquisition
was accounted for in a manner similar to a pooling; as such, NBC's assets and
liabilities were recorded at historical cost as of the date of acquisition.
NBC leased machinery and equipment to the Company on a month-to-month
basis. Lease payments for the years ended March 31, 1997, 1996 and 1995 amounted
to $138,384, $205,297 and $260,862, respectively. The Company provided
management and financial consulting services to NBC and recognized management
fee income in the amount of $60,000 in all three years.
F-7
<PAGE> 56
INTERNATIONAL TOTAL SERVICES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Cash Flow Statement
For purposes of the Statement of Cash Flows, the Company considers all
short-term, highly liquid debt instruments purchased with a maturity of three
months or less to be cash equivalents.
During the year ended March 31, 1997, the Company entered into the
following noncash transactions:
(1) The Company redeemed 200 shares of Class E preferred stock from
its principal shareholder in exchange for a $200,000 note receivable from
the shareholder. In addition, the Company declared $52,000 in dividends,
including all dividend arrearages, on the preferred shares and paid the
dividends by reducing the accrued interest receivable due on the note.
(2) The Company acquired NBC by issuing from treasury 4,126 shares of
common stock to its principal shareholder, paying $12,500 to the other NBC
shareholders and by offsetting $1,695,414 in notes and accrued interest
receivable due from the shareholders of NBC against corresponding
obligations of NBC to the shareholders. The notes and interest receivable
included $1,271,560 due from the Company's principal shareholder. The
shareholders of NBC were also officers of the Company.
Fair Value of Financial Instruments
Statement of Financial Accounting Standards No. 107, Disclosures About Fair
Value of Financial Instruments (SFAS 107), requires disclosure of the following
information about the fair value of certain financial instruments for which it
is practicable to estimate that value. For purposes of the following disclosure,
the fair value of a financial instrument is the amount at which the instrument
could be exchanged in a current transaction between willing parties, other than
in a forced sale or liquidation. These amounts represent management's best
estimates of fair value.
The carrying value of cash and cash equivalents, net trade receivables and
payables approximate fair value due to the relatively short period to maturity
of these instruments. The carrying value of long-term debt approximates fair
value based on borrowing rates currently available to the Company for debt with
comparable maturities. The carrying value of notes receivable from officers
approximates fair value based on the interest rates on the notes compared to
rates available to the Company for comparable investments.
Property and Equipment
Property and equipment are stated at cost. Depreciation is provided over
the estimated useful lives of the respective assets, principally five or seven
years, using the straight-line method.
Intangibles
During fiscal years ended March 31, 1997 and 1995, the Company acquired
various aviation service businesses, primarily through the assumption of certain
security service contracts for approximately $2,795,000 and $2,838,000,
respectively. A substantial portion of the purchase price was allocated to
intangibles, the balance of which are noted below:
<TABLE>
<CAPTION>
MARCH 31,
---------------------------
1997 1996
----------- ----------
<S> <C> <C>
Goodwill................................................ $ 2,309,000 $1,678,000
Service contracts....................................... 251,000 187,000
Covenant not to compete................................. 200,000 200,000
----------- ----------
$ 2,760,000 $2,065,000
=========== ==========
</TABLE>
F-8
<PAGE> 57
INTERNATIONAL TOTAL SERVICES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
In fiscal 1997, the Company changed its estimate of the useful life of
acquired goodwill from 5 and 10 years to 20 years based upon what management
believes is a better approximation of the life of the contracts, including
renewals, based on the Company's retention rate and the additional business
obtained as a result of entering new markets through the acquisition of existing
contracts. As a result, amortization expense for 1997 was approximately $140,000
less than what it would have been under the previous methods. The service
contracts and covenants not to compete are being amortized over their remaining
lives of up to five years. Amortization of intangibles was $207,697, $268,321
and $166,812 for the fiscal years ended March 31, 1997, 1996 and 1995,
respectively.
Management of the Company assesses the recoverability of its long-lived
assets by using projected undiscounted future cash flows to determine whether
the carrying amount of the asset can be recovered over its remaining life. The
evaluation of long-lived assets also takes into consideration operating results
and trends and prospects of the Company. Based on the assessments made,
management believes no impairment of the Company's intangible and tangible
assets has occurred.
The Company's methodology is consistent with the provisions of Statement of
Financial Accounting Standards No. 121 (SFAS 121), Accounting for the Impairment
of Long-Lived Assets and Assets To Be Disposed Of.
Research and Development
During the fiscal year ended March 31, 1995, the Company incurred and
charged to expense approximately $500,000 in research and development costs. No
such costs were incurred in the fiscal years ended March 31, 1997 or 1996.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amount of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Earnings per Share
Earnings (loss) per share ("EPS") are determined by dividing net earnings
(loss) by the weighted average number of common shares outstanding during each
period, after giving effect to preferred dividend requirements. In November
1996, the Company granted 45,124 common shares to certain officers. These shares
were granted within a one-year period from the initial filing of the
Registration Statement referred to in Note J. Accordingly, these shares have
been treated as outstanding in the computation of EPS throughout all reported
periods. In February 1997, the Financial Accounting Standards Board issued SFAS
No. 128 "Earnings per Share". This statement simplifies the standards for
computing earnings per share and makes them comparable to international EPS
standards. This statement is effective for financial statements issued for
periods ending after December 15, 1997. The Company does not believe adoption of
this standard will have a significant impact on reported EPS.
Supplemental Pro Forma Net Earnings and Net Earnings Per Share
The Company's supplemental pro forma net earnings and net earnings per
share for the year ended March 31, 1997 and the three months ended June 30, 1997
are $2,136,000 and $1,098,000 and $.35 and $.22, respectively.
F-9
<PAGE> 58
INTERNATIONAL TOTAL SERVICES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The supplemental pro forma net earnings and net earnings per share reflect
the issuance of shares necessary to retire $13,068,000 and $9,758,000 of notes
payable and the resulting increase in net earnings in the amount of $440,000 and
$245,000 for the year ended March 31, 1997 and the three months ended June 30,
1996, respectively. The calculation is based on the weighted average shares
outstanding used in the calculation of net earnings per share, adjusted for the
estimated shares at each date that would be issued by the Company, i.e. 975,735
and 1,306,713 shares, respectively, at $11.25 per share to retire these
obligations.
NOTE B -- CAPITAL STOCK
Through March 31, 1997 the Company had authorized five classes of preferred
stock (A through E), at which date there were 50 authorized shares of Class A
preferred. Ten of the Class A preferred had been issued, all of which were
reacquired for $25,000 in 1995 and retired in 1997. Class A shares had 6%
cumulative dividend rights and were redeemable at the Company's option. There
also were 300 authorized shares of Class E preferred. The 200 shares issued and
outstanding at March 31, 1996 and 1995 were redeemed and retired in 1997. Class
E shares had 8% cumulative dividend rights. In March 1997, the Company declared
and paid dividends on Class E preferred shares in the amount of $52,000 which
included all dividends in arrears at that date. Additionally there were 100
authorized shares each of Class B, C and D nonvoting preferred stock, none of
which were issued.
During 1995, 1996 and 1997, the Company reacquired 572,198 shares, 286,099
shares and 2,028,477 shares of its common stock. During the three years, the
Company reissued 96,694 of those shares, including 45,124 shares valued at
$202,544 granted to certain officers in November 1996. The Company retired all
treasury shares as of March 31, 1997. In April 1997 the Company reacquired and
retired 6,446 shares from a former employee for $9,000.
NOTE C -- FINANCING ARRANGEMENTS
The Company has a committed credit facility secured by all domestic
accounts receivable, equipment, and other assets. The facility consists of a
revolving promissory note of $10,500,000, a $2,000,000 term loan and a $900,000
term loan. The revolving promissory note bears interest at 1.50% over the bank's
prime rate (8 1/2% at March 31, 1997). The credit facility provides the Company
with a credit line based upon 80% of domestic and 50% of foreign outstanding
accounts receivable less than 90 days past due and carries an annual commitment
fee of .2% on the daily average unused amount of the commitments. Effective
March 31, 1997, the revolving promissory note was amended and the maturity date
was extended until March 31, 1999. Accordingly, the note has been classified as
long-term debt and excluded from the table below at March 31, 1997.
The $2,000,000 term loan bears interest at a fixed rate of 9.832% and
requires monthly principal payments of $41,667 beginning May 1997 with a final
lump sum payment of $1,749,998 due November 1, 1997. The $900,000 term loan
bears interest at 2% over the bank's prime rate. The unpaid balance on the
$900,000 term loan is due December 31, 1997.
Notes payable to bank consists of the following:
<TABLE>
<CAPTION>
1997 1996
---------- ----------
<S> <C> <C>
Revolving promissory note................................ $ -- $3,853,424
$2,000,000 term loan..................................... 2,000,000 --
$900,000 term loan....................................... 400,000 900,000
---------- ----------
$2,400,000 $4,753,424
========== ==========
</TABLE>
F-10
<PAGE> 59
INTERNATIONAL TOTAL SERVICES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
NOTE D -- INCOME TAXES
The provision for income taxes consists of the following for the years
ended March 31:
<TABLE>
<CAPTION>
1997 1996 1995
----------- ----------- -----------
<S> <C> <C> <C>
Pretax Income
Domestic................................ $ 2,497,259 $ 1,898,242 $ 481,855
Foreign................................. 435,648 361,078 227,002
----------- ----------- -----------
Total (A)............................ $ 2,932,907 $ 2,259,320 $ 708,857
=========== =========== ===========
Current
Federal................................. $ 1,095,000 $ 883,738 $ 460,128
State................................... 253,000 232,702 145,704
Foreign................................. 199,117 136,772 67,863
Settlement of federal liability......... -- -- 188,071
----------- ----------- -----------
Total current........................ 1,547,117 1,253,212 861,766
Deferred
Federal................................. (260,000) (250,567) (263,632)
State................................... (50,000) (44,218) (50,282)
----------- ----------- -----------
Total deferred....................... (310,000) (294,785) (313,914)
----------- ----------- -----------
Total Provision...................... $ 1,237,117 $ 958,427 $ 547,852
=========== =========== ===========
</TABLE>
- ---------------
(A) Excludes Transport's loss as an "S-Corporation", $263,310 in 1996 and
$878,637 in 1995.
Deferred income taxes reflect the tax effect of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and for income tax purposes. Significant components of deferred tax
assets and liabilities relate to the following at March 31:
<TABLE>
<CAPTION>
1997 1996 1995
----------- ----------- -----------
<S> <C> <C> <C>
Deferred tax assets:
Deferred compensation................... $ 428,000 $ 360,000 $ 360,000
Accrued workers' compensation........... 359,950 400,283 209,818
Accrued legal expenses.................. 535,762 324,078 293,577
Other accruals not currently
deductible........................... 179,738 163,864 70,872
Amortization of intangibles............. 51,470 21,798 7,765
Allowance for doubtful accounts......... 40,000 40,000 40,498
State income taxes...................... 45,866 30,578 25,820
Other................................... 50,045 54,630 40,280
----------- ----------- -----------
Total deferred tax assets............ $ 1,690,831 $ 1,395,231 $ 1,048,630
=========== =========== ===========
Deferred tax liabilities:
Depreciation............................ $ 340,297 $ 412,005 $ 446,333
Deferred expenses....................... 111,514 57,144 --
Other................................... 34,326 31,388 2,388
----------- ----------- -----------
Total deferred tax liabilities....... $ 486,137 $ 500,537 $ 448,721
=========== =========== ===========
Net deferred tax assets.............. $ 1,204,694 $ 894,694 $ 599,909
=========== =========== ===========
</TABLE>
F-11
<PAGE> 60
INTERNATIONAL TOTAL SERVICES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
A reconciliation of the provision for income taxes with the U.S. Federal
Statutory tax rate is as follows:
<TABLE>
<CAPTION>
1997 PERCENT 1996 PERCENT 1995 PERCENT
---------- ------- ---------- ------- ---------- -------
<S> <C> <C> <C> <C> <C> <C>
Statutory tax rates
Federal rate............................ $ 997,188 34.0% $ 768,169 34.0% $ 241,011 34.0%
State income tax -- net of federal
tax................................... 128,460 4.4% 124,399 5.5% 62,979 8.9%
Effective rates of foreign tax.......... 50,997 1.8% 14,005 0.6% (9,318) (1.3%)
Non deductible items.................... 59,848 2.0% 64,988 2.9% 69,842 9.9%
Settlement of income tax liability for
years ended March 31, 1990-1992
resulting from an Internal Revenue
Service examination................... -- -- -- -- 188,071 26.5%
Other -- net............................ 624 0.0% (13,134) (0.6%) (4,733) (0.7%)
---------- ----- ---------- ----- ---------- -----
$1,237,117 42.2% $ 958,427 42.4% $ 547,852 77.3%
========== ===== ========== ===== ========== =====
</TABLE>
NOTE E -- LONG-TERM OBLIGATIONS
Long-term obligations consist of the following at March 31:
<TABLE>
<CAPTION>
1997 1996 1995
----------- ----------- ----------
<S> <C> <C> <C>
Revolving bank note........................ $ 4,358,496 $ -- $ --
Subordinated debt.......................... 3,000,000 -- --
Capital lease obligations.................. 164,140 216,421 186,836
Other...................................... 153,549 -- 51,186
---------- ---------- ----------
7,676,185 216,421 238,022
Less current portion..................... 120,536 52,281 85,942
---------- ---------- ----------
$ 7,555,649 $ 164,140 $ 152,080
========== ========== ==========
</TABLE>
The revolving bank note represents borrowings under the Company's domestic
credit facility as described in Note C. The note matures March 31, 1999.
The subordinated debt consists of a note payable, due in twelve quarterly
principal installments of $250,000, beginning February 1999. Quarterly interest
payments are made on a current basis at a fixed rate of 20%. The note is
subordinated to all borrowings provided under the bank credit facility contained
in Note C.
The capital lease obligations relate to equipment used in the Company's
operations. The cost of property and equipment at March 31, 1997, 1996 and 1995
includes $280,963, $280,963 and $203,200, respectively, related to these capital
leases, while accumulated depreciation includes $86,265, $48,649 and $8,711,
respectively.
The following is a schedule by years of future minimum lease payments under
capital leases together with the present value of the net minimum lease payments
as of March 31, 1997:
<TABLE>
<CAPTION>
YEARS ENDED MARCH 31,
--------------------------------------------------------------------
<S> <C>
1998................................................................ $ 71,642
1999................................................................ 71,642
2000................................................................ 44,285
--------
Total minimum lease payments........................................ 187,569
Less amount representing interest................................... 23,429
--------
Present value of net minimum lease payments......................... $164,140
========
</TABLE>
F-12
<PAGE> 61
INTERNATIONAL TOTAL SERVICES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Aggregate maturities for all long-term obligations at March 31, 1997 are as
follows:
<TABLE>
<CAPTION>
YEARS ENDED MARCH 31,
------------------------------------------------------------------
<S> <C>
1998.............................................................. $ 120,536
1999.............................................................. 4,726,773
2000.............................................................. 1,078,876
2001.............................................................. 1,000,000
2002.............................................................. 750,000
----------
$7,676,185
==========
</TABLE>
NOTE F -- LEASE OBLIGATIONS
The Company leases certain equipment and facilities under operating leases
which expire at various dates through December 31, 2001. The future minimum
lease commitments under these operating leases are as follows:
<TABLE>
<CAPTION>
YEARS ENDED MARCH 31,
------------------------------------------------------------------
<S> <C>
1998.............................................................. $1,036,576
1999.............................................................. 708,338
2000.............................................................. 559,247
2001.............................................................. 520,718
2002.............................................................. 363,239
----------
$3,188,118
==========
</TABLE>
Rent expense incurred under operating leases was $1,440,274, $1,721,867 and
$1,653,709 for the years ended March 31, 1997, 1996 and 1995, respectively.
NOTE G -- RELATED PARTY TRANSACTIONS
The notes receivable from officers at March 31, 1997 consist of two notes
from the Company's principal shareholder, plus accrued interest thereon. One
note, in the amount of $252,720, bears interest at the rate of 8.15% and is
secured by a mortgage on the shareholder's home. The other note, in the amount
of $70,000, is unsecured and bears interest at the rate of 10%. Both notes
provide for monthly payments of principal and interest, which payments were
delinquent at March 31, 1997. The shareholder will repay his indebtedness to the
Company at the time of consummation of the Offering referred to in Note J.
Interest income on shareholder notes amounted to $119,285, $136,737 and $136,105
in the years ended March 31, 1997, 1996 and 1995, respectively.
NOTE H -- LITIGATION
The Company is subject to on-going legal proceedings and claims which arise
in the ordinary course of its business. While the ultimate outcome of these
matters cannot be reasonably estimated at this time, these actions, when
ultimately settled or adjudicated, will not, in the opinion of management, have
a material adverse effect on the financial condition or results of operations of
the Company. The Company has accrued for matters where management has determined
that it is probable a liability for which a loss or range of loss can be
reasonably estimated has been incurred.
F-13
<PAGE> 62
INTERNATIONAL TOTAL SERVICES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
NOTE I -- COMMITMENT
The Company carries high deductible workers' compensation insurance that
provides coverage to all employees except for those in states that require
coverage under the state's workers' compensation funds. The coverage has a
deductible of $250,000 per occurrence and an aggregate deductible of $950,000
per policy. Under the terms of the insurance agreements, the Company has $90,000
in cash on deposit with insurance carriers and an outstanding letter of credit
in the amount of $922,000 on deposit with one carrier at March 31, 1997 under an
old policy. These funds and letter of credit serve as collateral for any claims
incurred but not reported. The Company has an accrued liability for unpaid
claims and claims incurred but not reported of $861,402, $714,124 and $558,149
at March 31, 1997, 1996 and 1995, respectively.
NOTE J -- SUBSEQUENT EVENTS
Effective April 1, 1997, the Company, through the assumption of various
contracts, acquired substantially all of the aviation service business of Intex
Aviation Services, Inc. for approximately $5,805,000, which amount included the
assumption of $663,000 of liabilities related to the contracts. A deposit of
approximately $2,571,000 was paid prior to that date and has been recorded in
"Other Assets" on the March 31, 1997 balance sheet. The remaining amount due of
$2,571,000 is payable in 105 days and is subject to adjustments based upon
billings during that period on the contracts acquired.
On June 17, 1997, the shareholders of the Company approved an amendment to
the Company's Articles of Incorporation increasing the authorized shares of
stock to 20,000,000 common shares and 5,000,000 serial preferred shares.
On September 18, 1997, the Company entered into an underwriting agreement
for a public offering of up to 3,248,750 shares of common stock. Net proceeds
from the sale of common stock are estimated to be approximately $26.0 million,
assuming no exercise of the underwriters' 30 day option to purchase up to
423,750 shares solely to cover over-allotments, if any. The Company will use a
portion of the proceeds to reduce its outstanding borrowings. The remainder of
the proceeds will be used for general corporate purposes, including working
capital to support the Company's growth and possible acquisitions.
NOTE K -- ACQUISITIONS OF OPERATING CONTRACTS
During the fiscal year ended March 31,1997, the Company acquired security
operating contracts from six entities for an aggregate purchase price of
approximately $2.8 million. The Company believes the purchase of these contracts
to be substantially equivalent to the purchase of a business. Accordingly, the
acquisitions have been accounted for under the Purchase method of accounting.
The purchase prices have been allocated to the contracts based upon their
estimated fair market values; the excess of the purchase prices over the
contract values have been allocated to goodwill, which is being charged to
operations on a straight-line basis over 20 years (see Note A). Revenues from
the acquired contracts have been included in operations from the respective
dates of acquisition.
The following unaudited pro forma results of operations give effect to the
above acquisitions as though they had been made at the beginning of the fiscal
years shown below.
<TABLE>
<CAPTION>
MARCH 31,
----------------------
1997 1996
--------- ---------
(IN THOUSANDS, EXCEPT
FOR PER SHARE AMOUNTS)
<S> <C> <C>
Revenue........................................................ $124,133 $116,246
Net earnings................................................... $2,159 $2,341
Earnings per share............................................. $0.42 $0.41
</TABLE>
F-14
<PAGE> 63
INTERNATIONAL TOTAL SERVICES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The pro forma results of operations have been prepared for comparative
purposes only and do not purport to present actual operating results had the
acquisitions been made at the beginning of each year, or of results which may
occur in the future.
F-15
<PAGE> 64
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
- --------------------------------------------------------------------------------
SHAREHOLDERS AND BOARD OF DIRECTORS
INTEX AVIATION SERVICES, INC.
We have audited the accompanying balance sheets of Intex Aviation Services, Inc.
as of December 31, 1996 and 1995, and the related statements of earnings,
shareholders' equity, and cash flows for each of the three years in the period
ended December 31, 1996. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Intex Aviation Services, Inc.
as of December 31, 1996 and 1995, and the results of its operations and its cash
flows for each of the three years in the period ended December 31, 1996, in
conformity with generally accepted accounting principles.
GRANT THORNTON LLP
Cleveland, Ohio
April 18, 1997
F-16
<PAGE> 65
INTEX AVIATION SERVICES, INC.
- --------------------------------------------------------------------------------
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
MARCH 31, ---------------------------
1997 1996 1995
----------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
CURRENT ASSETS
Cash and cash equivalents......................... $ 974,500 $ 733,214 $ 290,898
Accounts receivable............................... 5,850,500 5,692,734 9,546,396
Prepaid expenses.................................. 364,500 749,372 420,470
----------- ----------- -----------
Total current assets...................... 7,189,500 7,175,320 10,257,764
PROPERTY AND EQUIPMENT
Furniture and fixtures............................ 42,400 42,370 51,394
Machinery and equipment........................... 481,500 481,567 381,931
----------- ----------- -----------
523,900 523,937 433,325
Less accumulated depreciation..................... 362,000 338,023 311,662
----------- ----------- -----------
161,900 185,914 121,663
----------- ----------- -----------
$ 7,351,400 $ 7,361,234 $10,379,427
=========== =========== ===========
LIABILITIES AND SHAREHOLDER'S EQUITY
CURRENT LIABILITIES
Notes payable to bank............................. $ 5,687,000 $ 5,562,000 $ 8,280,000
Current portion of long-term debt................. 49,200 48,982 47,832
Deposit on sale of contracts...................... 2,570,900 -- --
Trade accounts payable............................ 200,300 120,825 190,782
Accrued liabilities............................... 749,800 956,040 1,110,782
State income taxes payable........................ -- 4,160 75,852
----------- ----------- -----------
Total current liabilities................. 9,257,200 6,692,007 9,705,248
LONG-TERM DEBT...................................... 89,000 101,411 150,394
SHAREHOLDER'S EQUITY
Common stock, par value $1 per
share -- authorized -- 100,000 shares, issued
and outstanding 11,250 shares.................. 11,250 11,250 11,250
Retained earnings (deficit)....................... (2,006,050) 556,566 512,535
----------- ----------- -----------
(1,994,800) 567,816 523,785
----------- ----------- -----------
$ 7,351,400 $ 7,361,234 $10,379,427
=========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-17
<PAGE> 66
INTEX AVIATION SERVICES, INC.
- --------------------------------------------------------------------------------
STATEMENTS OF EARNINGS
<TABLE>
<CAPTION>
FOR THE THREE MONTHS
ENDED MARCH 31, FOR THE YEARS ENDED DECEMBER 31,
------------------------ ---------------------------------------
1997 1996 1996 1995 1994
---------- ----------- ----------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Operating revenues............... $8,789,000 $12,490,000 $41,161,899 $48,552,512 $22,714,733
Cost of operating revenues....... 7,882,000 11,169,000 35,877,280 42,393,448 18,595,731
---------- ----------- ----------- ----------- -----------
Gross profit........... 907,000 1,321,000 5,284,619 6,159,064 4,119,002
Selling, general and
administrative expenses........ 995,000 656,000 3,247,915 2,875,072 1,482,154
---------- ----------- ----------- ----------- -----------
Operating profit
(loss)............... (88,000) 665,000 2,036,704 3,283,992 2,636,848
Other expense (income):
Interest expense............... 114,000 170,000 532,717 504,910 58,299
Other.......................... -- -- (55,850) (21,194) 826
---------- ----------- ----------- ----------- -----------
114,000 170,000 476,867 483,716 59,125
---------- ----------- ----------- ----------- -----------
Earnings (loss) before
income taxes......... (202,000) 495,000 1,559,837 2,800,276 2,577,723
Provision for state income
taxes.......................... 20,000 64,000 40,280 95,589 97,674
---------- ----------- ----------- ----------- -----------
NET EARNINGS (LOSS).... $ (222,000) $ 431,000 $ 1,519,557 $ 2,704,687 $ 2,480,049
========== =========== =========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-18
<PAGE> 67
INTEX AVIATION SERVICES, INC.
- --------------------------------------------------------------------------------
STATEMENTS OF SHAREHOLDER'S EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1996, 1995 AND 1994
AND THE THREE MONTH PERIOD ENDED MARCH 31, 1997 (UNAUDITED)
<TABLE>
<CAPTION>
COMMON RETAINED
STOCK EARNINGS TOTAL
----------- ----------- -----------
<S> <C> <C> <C>
BALANCE AT JANUARY 1, 1994.......................... $ 11,250 $ 426,915 $ 438,165
Net earnings...................................... -- 2,480,049 2,480,049
Distributions paid to shareholder................. -- (2,208,120) (2,208,120)
----------- ----------- -----------
BALANCE AT DECEMBER 31, 1994........................ 11,250 698,844 710,094
Net earnings...................................... -- 2,704,687 2,704,687
Distributions paid to shareholder................. -- (2,890,996) (2,890,996)
----------- ----------- -----------
BALANCE AT DECEMBER 31, 1995........................ 11,250 512,535 523,785
Net earnings...................................... -- 1,519,557 1,519,557
Distributions paid to shareholder................. -- (1,475,526) (1,475,526)
----------- ----------- -----------
BALANCE AT DECEMBER 31, 1996........................ $ 11,250 $ 556,566 $ 567,816
Net loss.......................................... -- (222,000) (222,000)
Distributions paid to shareholder................. -- (2,340,616) (2,340,616)
----------- ----------- -----------
BALANCE AT MARCH 31, 1997 (UNAUDITED)............... $ 11,250 $(2,006,050) $(1,994,800)
=========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-19
<PAGE> 68
INTEX AVIATION SERVICES, INC.
- --------------------------------------------------------------------------------
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE THREE MONTHS
ENDED MARCH 31, FOR THE YEARS ENDED DECEMBER 31,
------------------------- -----------------------------------------
1997 1996 1996 1995 1994
----------- ---------- ----------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
OPERATING ACTIVITIES
Net earnings (loss)................. $ (222,000) $ 431,000 $ 1,519,557 $ 2,704,687 $ 2,480,049
Adjustments to reconcile net
earnings (loss) to net cash
provided by (used in) operating
activities:
Depreciation...................... 24,014 23,650 83,784 80,255 73,122
Changes in operating assets and
liabilities:
Accounts receivable............ (157,766) 1,560,911 3,853,662 (4,672,996) (3,550,519)
Prepaid expenses............... 384,872 297,634 (328,902) (216,403) (172,372)
Accounts payable............... 79,475 (125,859) (69,957) (19,469) 157,686
Accrued liabilities............ (206,240) (239,796) (154,742) 346,954 522,242
Accrued state taxes............ (4,160) (75,852) (71,692) 4,639 (22,922)
---------- --------- ---------- ---------- ----------
Net cash provided by (used
in) operating activities... (101,805) 1,871,688 4,831,710 (1,772,333) (512,714)
INVESTING ACTIVITIES
Purchases of property and
equipment -- net.................. -- (449) (148,035) (76,580) (69,515)
FINANCING ACTIVITIES
Principal payments on long-term
debt.............................. (12,193) (13,000) (47,833) (46,682) (45,536)
Proceeds (payments) on note payable
to bank -- net.................... 125,000 (315,000) (2,718,000) 4,655,000 3,125,000
Deposit on sale of contracts........ 2,570,900 -- -- -- --
Distributions paid to shareholder... (2,340,616) (531,087) (1,475,526) (2,890,996) (2,208,120)
---------- --------- ---------- ---------- ----------
Net cash (used in) provided
by financing activities.... 343,091 (859,087) (4,241,359) 1,717,322 871,344
---------- --------- ---------- ---------- ----------
INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS....... 241,286 1,012,152 442,316 (131,591) 289,115
Cash and cash equivalents at beginning
of year............................. 733,214 290,898 290,898 422,489 133,374
---------- --------- ---------- ---------- ----------
Cash and cash equivalents at end of
year................................ $ 974,500 $1,303,050 $ 733,214 $ 290,898 $ 422,489
========== ========= ========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these statements.
F-20
<PAGE> 69
INTEX AVIATION SERVICES, INC.
- --------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1995 AND 1994
AND MARCH 31, 1997 AND 1996 (UNAUDITED)
NOTE A -- BACKGROUND AND SIGNIFICANT ACCOUNTING POLICIES
Presentation
The interim financial statements as of March 31, 1997 and 1996 and the
three months then ended as included herein are unaudited. However, in the
opinion of management, such information reflects all adjustments, consisting
only of normal recurring accruals necessary for a fair presentation of the
information shown. The interim financial statements for the periods stated and
notes presented herein do not contain certain information included in the
Company's annual financial statements and notes as also herein presented.
Results for interim periods are not necessarily indicative of results expected
for the full year.
Revenue Recognition
The Company recognizes revenues from services provided under contracts as
those services are performed; revenues from sales of screening systems and other
products are recognized when those products are shipped to customers.
Background
Intex Aviation Services, Inc. (the "Company"), which was incorporated as a
South Carolina corporation on December 7, 1988, cleans and services airplanes
and airport terminals under contracts with airlines at various locations in the
United States. Approximately 92% of revenues are earned through services for a
single airline. Substantially all trade accounts receivable at December 31, 1996
and 1995 were due from this customer. The Company does not generally require
collateral.
Subsequent to December 31, 1996, the Company sold to International Total
Services, Inc. ("ITS") approximately 50 contracts which represented
approximately 98% of sales in 1996 and 1995 and 100% of sales in 1994. The
selling price of the contracts was $5,805,000, which included the assumption by
ITS of $663,000 of liabilities related to the contracts. The Company received
$2,571,000 cash as a down payment on March 31, 1997. The remaining amount due of
$2,571,000 is payable in 105 days and is subject to adjustments based upon
billings on the contracts sold during that period.
Property and Equipment
Property and equipment are stated at cost. Depreciation is provided over
the estimated useful lives of the respective assets, principally five to seven
years, using accelerated methods.
Income Taxes
The Company's sole shareholder has elected under Subchapter S of the
Internal Revenue Code and under Section 12-7-235 of the South Carolina Code of
laws to include the Company's income in his own income for income tax purposes.
The Company is still subject to income taxes in certain states.
Income tax payments totaled approximately $41,000, $96,000 and $121,000 in
1996, 1995 and 1994, respectively.
Cash Flow Statement
For purposes of the Statement of Cash Flows, the Company considers all
short-term, highly liquid investments with a maturity of three months or less to
be cash equivalents.
F-21
<PAGE> 70
INTEX AVIATION SERVICES, INC.
- --------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS -- CONTINUED
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amount of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Fair Values of Financial Instruments
The carrying amounts of cash and cash equivalents, notes payable to banks
and long-term debt approximate their fair value. Interest rates on notes payable
to banks adjust monthly to market rates. The fair value of long-term debt was
estimated based on the Company's current incremental borrowing rates for a
similar type of arrangement.
NOTE B -- NOTES PAYABLE TO BANKS
The Company is party to a revolving loan agreement with a bank under which
it may borrow $6,000,000. Interest is payable monthly on the principal amount of
advances outstanding at the bank's prime rate. The agreement is guaranteed by
the Company's sole shareholder. Under the agreement, the Company has pledged
substantially all of its accounts receivable and property and equipment as
collateral.
The Company is also party to a line of credit with another bank under which
it may borrow up to $5,000,000. Interest is payable monthly on the principal
outstanding at the bank's prime rate. The agreement is guaranteed by the
Company's sole shareholder.
Interest paid was approximately $533,000, $505,000 and $59,000 in 1996,
1995 and 1994, respectively.
NOTE C -- LONG-TERM DEBT
Long-term debt consists of the following at December 31:
<TABLE>
<CAPTION>
1996 1995
-------- --------
<S> <C> <C>
Note payable to former shareholder.......................... $ 49,285 $ 65,714
Due to former shareholder under non-compete agreement....... 101,108 132,512
-------- --------
150,393 198,226
Less current maturities..................................... 48,982 47,832
-------- --------
$101,411 $150,394
======== ========
</TABLE>
The note payable to former shareholder is payable in quarterly installments
of $4,107 plus interest at 7% per annum. The obligation arose in connection with
the purchase and retirement of the Company's common stock held by the former
shareholder.
The non-compete obligation was incurred in connection with the buy-back of
shares noted above and is payable in quarterly installments ranging from $8,023
to $8,817 over the non-compete period which ends on November 3, 1999.
F-22
<PAGE> 71
INTEX AVIATION SERVICES, INC.
- --------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS -- CONTINUED
Principal maturities of long-term debt subsequent to December 31, 1996 are
as follows:
<TABLE>
<S> <C>
1997................................................................ $ 48,982
1998................................................................ 50,133
1999................................................................ 51,278
--------
150,393
Less current portion................................................ 48,982
--------
$101,411
========
</TABLE>
NOTE D -- RELATED PARTY TRANSACTIONS
The Company leases its corporate office from its principal shareholder
under a month-to-month agreement for $2,500 per month. Rent expense under this
lease totaled $30,000 in 1996, 1995 and 1994.
NOTE E -- COMMITMENTS AND CONTINGENCIES
The Company has been named as a defendant in various lawsuits filed by
certain former employees. The lawsuits include claims of race discrimination and
worker's compensation. The Company believes the suits are completely without
merit and intends to vigorously defend its position in each case; however, the
ultimate outcome of the lawsuits cannot presently be determined. Accordingly, no
provision for any liability that may result has been made in the accompanying
financial statements.
F-23
<PAGE> 72
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<PAGE> 73
[This page intentionally left blank]
<PAGE> 74
[This page intentionally left blank]
<PAGE> 75
A map depicting ITS's locations in the United States and its territories, and a
caption indicating the number of domestic locations and the foreign countries in
which the Company conducts operations.
<PAGE> 76
================================================================================
NO DEALER, SALESMAN OR OTHER PERSON IS AUTHORIZED TO GIVE ANY INFORMATION
OR TO MAKE ANY REPRESENTATION NOT CONTAINED IN THIS PROSPECTUS, AND, IF GIVEN OR
MADE, SUCH INFORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY THE COMPANY, THE SELLING SHAREHOLDER OR ANY UNDERWRITER. THIS
PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO
BUY COMMON SHARES BY ANYONE IN ANY JURISDICTION IN WHICH SUCH OFFER TO SELL OR
SOLICITATION IS NOT AUTHORIZED, OR IN WHICH THE PERSON MAKING THE OFFER OR
SOLICITATION IS NOT QUALIFIED TO DO SO, OR TO ANY PERSON TO WHOM IT IS UNLAWFUL
TO MAKE SUCH OFFER OR SOLICITATION. NEITHER THE DELIVER OF THIS PROSPECTUS OR
ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION
THAT THE INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY DATE SUBSEQUENT TO
THE DATE HEREOF.
------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Prospectus Summary............................... 3
Risk Factors..................................... 6
Use of Proceeds.................................. 13
Dividend Policy.................................. 13
Dilution......................................... 14
Capitalization................................... 15
Pro Forma Financial Data......................... 16
Selected Consolidated Financial Information...... 18
Management's Discussion and Analysis of Financial
Condition and Results of Operations............ 20
Business......................................... 25
Management....................................... 35
Certain Transactions............................. 41
Principal and Selling Shareholders............... 42
Description of Capital Shares.................... 43
Shares Eligible for Future Sale.................. 44
Underwriting..................................... 45
Legal Matters.................................... 46
Experts.......................................... 46
Additional Information........................... 47
Index to Financial Statements.................... F-1
</TABLE>
UNTIL OCTOBER 14, 1997 (25 DAYS AFTER THE DATE OF THIS PROSPECTUS), ALL
DEALERS EFFECTING TRANSACTIONS IN THE COMMON SHARES, WHETHER OR NOT
PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED TO DELIVER A PROSPECTUS.
THIS IS IN ADDITION TO THE OBLIGATION OF DEALERS TO DELIVER A PROSPECTUS WHEN
ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR UNSOLD ALLOTMENTS OR
SUBSCRIPTIONS.
================================================================================
================================================================================
2,825,000 SHARES
[ITS LOGO]
INTERNATIONAL TOTAL SERVICES, INC.
COMMON SHARES
------------------------
PROSPECTUS
------------------------
MCDONALD & COMPANY
SECURITIES, INC.
MORGAN KEEGAN
& COMPANY, INC.
SEPTEMBER 19, 1997
================================================================================
