SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
Annual Report Pursuant To Section 13 Or 15(d)
Of The Securities Exchange Act of 1934
For the fiscal year ended December 31, 1998. Commission File number 1-14762
THE SERVICEMASTER COMPANY
(Exact Name of Registrant as Specified in its Certificate)
(Successor to ServiceMaster Limited Partnership)
Delaware 36-3858106
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
One ServiceMaster Way, Downers Grove, Illinois 60515-1700
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (630) 271-1300
Securities registered pursuant to Section 12(b) of the Act:
Name of Each Exchange
Title of Each Class On Which Registered
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Common Stock New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by Check Mark Whether the Registrant (1) Has Filed All Reports
Required to Be Filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 During the Preceding 12 Months (or for such Shorter Period That the
Registrant Was Required to File Such Reports), and (2) Has Been Subject to Such
Filing Requirements for the Past 90 Days. Yes No
The Aggregate Market Value of Shares Held by Non-Affiliates of the
Registrant As of March 22, 1999 was $5,830,705,378. The Number of Shares
Outstanding of the Registrant's Common Stock as of March 22, 1999 was
309,315,048.
DOCUMENTS INCORPORATED BY REFERENCE
Certain parts of the Registrant's Annual Report to Stockholders for the
year ended December 31, 1998 are incorporated into Part I, Part II and Part IV
of this Form 10-K.
Certain parts of the Registrant's Definitive Proxy Statement for the
April 30, 1999 Annual Meeting of Stockholders is incorporated into Part III of
this Form 10-K.
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PART I
Item 1. Business
This annual report on Form 10-K is filed by The ServiceMaster Company,
a Delaware corporation (hereinafter sometimes referred to as the "Registrant").
The Registrant and its affiliated entities are referred to as "ServiceMaster" or
the "Company" or the "ServiceMaster enterprise." The Registrant is the successor
to ServiceMaster Limited Partnership, a Delaware limited partnership. On
December 26, 1997, by means of a statutory merger, the Registrant succeeded to
and became substituted for ServiceMaster Limited Partnership as the publicly
traded parent entity in the ServiceMaster enterprise.
Forward-Looking Statements
In accordance with the Private Securities Litigation Reform Act of
1995, the Registrant notes that statements set forth or incorporated by
reference in this Annual Report on Form 10-K that look forward in time, which
include everything other than historical information, involve risks and
uncertainties that may affect the Company's actual results of operations.
Factors that could cause actual results to differ materially include the
following (among others): weather conditions adverse to certain of the Company's
businesses, the entry of additional competitors in any of the markets served by
the Company, labor shortages, consolidation of hospitals in the healthcare
market, the condition of the United States economy, and other factors listed
from time to time in the Company's filings with the Securities and Exchange
Commission (including, but not limited to, its Year 2000 readiness disclosures).
Principal Business Groups
The Registrant is a holding company whose shares of common stock are
traded on the NYSE. Through its subsidiaries, the Company is engaged in
providing a variety of specialty services to homeowners and commercial
facilities and supportive management services in several markets, including the
healthcare market, the education market and certain segments of the business and
industry market.
The Company is organized into two principal operating groups:
ServiceMaster Consumer Services and ServiceMaster Management Services. The
Company also has a third operating group: ServiceMaster Employer Services. Each
of these operating groups is headed by a limited partnership or a corporation
which has its own group of operating subsidiaries. The parent companies for the
principal operating groups are ServiceMaster Consumer Services Limited
Partnership, which was formed in the summer of 1990, and ServiceMaster
Management Services Limited Partnership, which was formed in December 1991. The
parent companies for the principal operating groups are wholly owned by the
Company. All subsidiaries of the operating group parent companies are wholly
owned, except for Rescue Rooter L.L.C., a subsidiary of ServiceMaster Consumer
Services in which senior Rescue Rooter management have acquired equity interests
of not more than 10 percent in total and which are subject to certain put and
call rights.
Trademarks and Service Marks; Franchises
The Company's trademarks and service marks are important for all
elements of the Company's business, although such marks are particularly
important in the advertising and franchising activities conducted by the
operating subsidiaries of ServiceMaster Consumer Services L.P. Such marks are
registered and are renewed at each registration expiration date.
Within ServiceMaster Consumer Services, franchises are important for
the TruGreen-ChemLawn, Terminix, ServiceMaster Residential/Commercial, Merry
Maids, AmeriSpec and Furniture Medic businesses. Nevertheless, revenues and
profits derived from franchise-related activities constitute less than 10% of
the revenue and profits of the consolidated ServiceMaster enterprise. Franchise
agreements made in the course of these businesses are generally for a term of
five years. ServiceMaster's renewal history is that most of the franchise
agreements which expire in any given year are renewed.
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ServiceMaster Consumer Services
ServiceMaster Consumer Services provides specialty services to homeowners
and commercial facilities through eight companies: TruGreen L.P.
("TruGreen-ChemLawn"); The Terminix International Company L.P. ("Terminix");
ServiceMaster Residential/Commercial Services L.P. ("Res/Com"); Merry Maids L.P.
("Merry Maids"); American Home Shield Corporation ("American Home Shield" or
"AHS"); AmeriSpec, Inc. ("AmeriSpec"); Furniture Medic L.P. ("Furniture Medic");
and Rescue Rooter L.L.C. ("Rescue Rooter"). Rescue Rooter was acquired by
ServiceMaster Consumer Services on January 1, 1998. The services provided by
these companies include: lawn care, tree and shrub services and indoor plant
maintenance services under the "TruGreen", "ChemLawn" and "Barefoot" service
marks; termite and pest control services under the "Terminix" service mark;
residential and commercial cleaning and disaster restoration services under the
"ServiceMaster" service mark; domestic housekeeping services under the "Merry
Maids" service mark; home systems and appliance warranty contracts under the
"American Home Shield" service mark; home inspection services under the
"AmeriSpec" service mark; on-site furniture repair and restoration under the
"Furniture Medic" service mark; and plumbing and drain cleaning services under
the "Rescue Rooter" service mark.
The services provided by the eight Consumer Services companies are part
of the ServiceMaster "Quality Service Network" and are accessed by calling a
single toll-free telephone number: 1-800-WE SERVE. ServiceMaster focuses on
establishing relationships to provide one or more of these services on a
repetitive basis to customers. Since 1986, the number of customers served by
ServiceMaster Consumer Services has increased from fewer than one million
domestic customers to more than 10.5 million worldwide customers.
Oversight responsibility for the ServiceMaster Consumer Services
businesses which are conducted in foreign markets is in the appropriate
subsidiary of ServiceMaster Consumer Services L.P.
TruGreen-ChemLawn. TruGreen-ChemLawn is a wholly-owned subsidiary of
ServiceMaster Consumer Services L.P. As of December 31, 1998, TruGreen-ChemLawn
had 230 company-owned branches and 82 franchised branches. With over 3 million
residential and commercial customers, TruGreen-ChemLawn is the leading provider
of lawn care services in the United States and a leading provider of commercial
landscaping services. TruGreen-ChemLawn provides lawn, tree and shrub care
services in Egypt, Japan, Saudi Arabia, and Turkey through licensing
arrangements and in Canada through a subsidiary. TruGreen-ChemLawn also provides
interior plantscape services to commercial customers. The TruGreen-ChemLawn
businesses are seasonal in nature. On March 18, 1999, ServiceMaster completed
the acquisition of LandCare USA, Inc., a leading provider of commercial
landscaping services and tree services (including line clearing and tree care.
ServiceMaster thereafter combined the LandCare USA business with the commercial
landscaping business of TruGreen-ChemLawn.
Terminix. Terminix is a wholly-owned subsidiary of ServiceMaster
Consumer Services L.P. With over 2.5 million residential and commercial
customers, Terminix, through its company-owned branches and through franchisees,
is the leading provider of termite and pest control services in the United
States. As of December 31, 1998, Terminix was providing these services through
256 company-owned branches in 40 states and through 240 franchised branches in
28 states. Terminix also manages the following European pest control companies,
all of which are subsidiaries of TMX-Europe B.V., a wholly-owned subsidiary of
the Company: Terminix Peter Cox Ltd., a leading pest control and wood
preservation company in the United Kingdom and Ireland; Terminix Protekta B.V.
and Riwa B.V., each a leading pest control company in the Netherlands and
Belgium; Anticimex Development A.B., a holding company for the leading pest
control company in Sweden and which also operates in Norway; and the Stenglein
Group, a group of pest control companies in Germany. Terminix also provides
termite and pest control services through licensing arrangements with local
service providers in twenty-seven other countries and through subsidiaries in
eight other countries. The Terminix business is seasonal in nature.
Res/Com. Res/Com is a wholly-owned subsidiary of ServiceMaster Consumer
Services L.P. ServiceMaster, through Res/Com, is the leading franchisor in the
United States in the residential and commercial cleaning field. Res/Com provides
carpet and upholstery cleaning and janitorial services, disaster restoration
services and window cleaning services. As of December 31, 1998, these services
were provided to approximately 1.6 million residential and commercial customers
worldwide through a network of over 4,200 independent franchisees. Res/Com
provides
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its services through subsidiaries in Canada, Germany, Ireland and the
United Kingdom, and through licensing arrangements with local service providers
in 17 other countries.
Merry Maids. Merry Maids is a wholly-owned subsidiary of ServiceMaster
Consumer Services L. P. Merry Maids is the organization through which
ServiceMaster provides domestic house cleaning services. With approximately
338,000 worldwide customers, Merry Maids is the leading provider of domestic
house cleaning services in the United States. As of December 31, 1998, these
services were provided through 27 company-owned branches in 19 states and
through 829 licensees operating in all 50 states. Merry Maids also provides
domestic house cleaning services through subsidiaries in Canada and the United
Kingdom and through licensing arrangements with local service providers in eight
other countries.
American Home Shield. AHS is a wholly-owned subsidiary of ServiceMaster
Consumer Services L.P. AHS is a leading provider of home systems and appliance
warranty contracts ("warranty contracts") in the United States, providing
homeowners with contracts covering the repair or replacement of built-in
appliances, hot water heaters and electrical, plumbing, central heating and
central air conditioning systems which malfunction by reason of normal wear and
tear. Warranty contracts are sold through participating real estate brokerage
offices in conjunction with resales of single-family residences to homeowners.
AHS also sells warranty contracts directly to non-moving homeowners by renewing
existing contracts and through various other distribution channels which are
currently being expanded. As of December 31, 1998, AHS warranty contracts
provided for services to approximately 700,000 homes through approximately
12,250 independent repair maintenance contractors in 50 states and the District
of Columbia, with operations in California, Texas and Arizona accounting for
32%, 26% and 8%, respectively, of gross contracts written by AHS. AHS also
provides home service warranty contracts through licensing arrangements with
local service providers in three other countries.
AmeriSpec. AmeriSpec is a wholly-owned subsidiary of AHS. AmeriSpec is
a leading provider of home inspection services in the United States. During
1998, AmeriSpec conducted approximately 135,000 home inspections in 45 states
and Canada, with operations in California, New York and Illinois accounting for
27%, 5% and 4%, respectively, of the gross number of inspections conducted
through AmeriSpec.
Furniture Medic. Furniture Medic is a wholly-owned subsidiary of
ServiceMaster Consumer Services L.P. Furniture Medic provides on-site furniture
repair and restoration services in 46 states. As of December 31, 1998, these
services were provided through 530 licensees. Furniture Medic also provides its
services through subsidiaries in Canada and the United Kingdom and through
licensing arrangements with local service providers in two other countries.
Rescue Rooter. Rescue Rooter is a subsidiary of ServiceMaster Consumer
Services L.P. Rescue Rooter acquired the business and assets of Rescue
Industries, Inc. on January 1, 1998. Rescue Rooter provides plumbing and drain
cleaning services, and heating and air conditioning services, in 12 states
through 25 company-owned branches and one franchise location. In 1998, Rescue
Rooter performed services for approximately 410,000 customers. As of March 1,
1999 certain key employees of Rescue Rooter had purchased an aggregate 8.35% out
of a potential 10% equity interest in Rescue Rooter pursuant to a management
equity plan. Such interest is subject to reciprocal put and call rights which
will become exercisable on January 1, 2003 and which will be consummated on the
basis of the then fair market value of the interest. On March 23, 1999, the
Registrant announced an intention to make a cash tender offer for all of the
outstanding shares of American Residential Services, Inc., a leading provider of
heating, ventilation and air condition services ("ARS"). See Exhibit 99.4. If
ARS is acquired by ServiceMaster, its business and operations will be integrated
with the business and operations of Rescue Rooter.
ServiceMaster Management Services
ServiceMaster pioneered the providing of supportive management services
to health care facilities by instituting housekeeping management services in
1962. Since then, ServiceMaster has expanded its management services business
such that it now provides a variety of supportive management services to health
care, education and business and industrial customers (including the management
of housekeeping, plant operations and
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maintenance, laundry and linen, grounds
and landscaping, clinical equipment maintenance, food service, energy
management, and total facility management). ServiceMaster's general programs and
systems free the customer to focus on its core business activity with confidence
that the support services are being managed and performed in an efficient
manner.
ServiceMaster Management Services L.P. is organized into three
divisions, each of which provides service on a nationwide basis within its
market. These markets are: Healthcare Management Services; Education Management
Services; and Business & Industry Management Services. The responsibility for
overseeing the Management Services businesses which are conducted in foreign
markets lies with ServiceMaster Management Services L.P.
As of December 31, 1998, ServiceMaster was providing supportive
management services to approximately 1,633 health care customers and to
approximately 498 educational and commercial customers. These services were
being provided in all 50 states and the District of Columbia. Outside of the
United States, ServiceMaster was providing management services through
subsidiaries in Canada and Japan, through an affiliated company in Mexico, and
through licensing arrangements with local service providers in twenty-five other
countries.
ServiceMaster Healthcare Management Services. The Healthcare division
of ServiceMaster Management Services L.P. is a leading provider to the health
care market of supportive management services, including the management of
housekeeping, plant operations and maintenance, laundry and linen, grounds and
landscaping, clinical equipment maintenance, food services and total facility
management. As of December 31, 1998, the Healthcare division was serving in
approximately 1,877 healthcare facilities. Although the healthcare market has
undergone significant consolidation in recent years, ServiceMaster believes that
there continues to be potential for expansion in the healthcare market due to
the trend of healthcare facilities to outsource more of their service
requirements.
ServiceMaster Education Management Services. The Education division of
ServiceMaster Management Services L.P. is a leading provider to the education
market of maintenance, custodial and grounds services. The facilities which
comprise the education market include primary schools, secondary schools and
school districts, private specialty schools and colleges and universities. As of
December 31, 1998, ServiceMaster was serving 281 educational customers.
ServiceMaster believes there is potential for expansion in the education market
due to its current relatively low penetration of that market and the trend of
educational facilities to consider outsourcing more of their service
requirements. However, a majority of the educational facilities continue to
assume direct responsibility for managing their support functions.
ServiceMaster Business & Industry Management Services. The Business &
Industry division of ServiceMaster Management Services L.P. is a leading
provider of plant operations and maintenance, custodial and grounds management
services to business and industrial customers in selected markets. Such markets
include the food processing, transportation, healthcare products and automotive
markets. ServiceMaster believes that there is potential for expansion in these
business and industrial markets due to ServiceMaster's current low penetration
of those markets, the trend of businesses to consider outsourcing more of their
service requirements and the trend of governmental units to privatize parts of
their operations. As of December 31, 1998, ServiceMaster was serving
approximately 217 business or industrial customers.
The Business and Industry division includes Premier Manufacturing
Support Services Limited Partnership. Premier is a leading provider of facility
management services in the automotive industry, specializing in paint booth
cleaning services. As of December 31, 1998, Premier was serving 77 customer
locations in ten countries.
Other Businesses
ServiceMaster Diversified Health Services. In 1998, ServiceMaster
Diversified Health Services ("DHS") provided management services to
freestanding, hospital-based and government-owned nursing homes, skilled nursing
facilities, and assisted living facilities; design, development, refurbishing
and construction consulting services to long-term care facilities;
rehabilitation services; the sale of various medical produces and supplies; and
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pharmacy management. In January 1999, DHS sold its hospice business in
connection with the ServiceMaster Home Health Care sale described below.
ServiceMaster Home Health Care. During the year 1998, ServiceMaster
Home Health Care Services Inc., a wholly owned subsidiary of the Company,
provided management services to hospital-based home health care agencies (as
well as the direct operation of freestanding home health care agencies). On
January 4, 1999, the Company announced the completion of its strategic review of
its home health care business and the decision to sell its direct operations of
home health care agencies and certain support operations and to discontinue its
outsource and operation of home health care agencies. ServiceMaster Home Health
Care Services will continue to provide consulting services to hospitals and
other providers of home health care.
ServiceMaster Employer Services. ServiceMaster Employer Services is one
of the nation's larger professional employer organizations. It provides more
than 950 clients with administrative processing of payroll, workers compensation
insurance, health insurance, unemployment insurance and other employee benefits.
Energy Management. During the year 1998, the Company provided energy
management services through Energy Management Services, a division of
ServiceMaster Management Services L.P. On January 4, 1999, the Company announced
the formation of a strategic venture with Texas Utilities Company for the
ownership and operation of the energy management business. The new venture
acquired all the assets of ServiceMaster Energy Management and is owned 85% by
Texas Utilities Company and 15% by the Company.
International Operations. Consumer services and supportive management
services in international markets are provided through licensing arrangements
and ownership of foreign operating companies acquired by ServiceMaster. Except
as noted below, these activities in Europe, Latin America and the Middle East
are administered as part of the operations of ServiceMaster Management Services
L.P. and ServiceMaster Consumer Services L.P., respectively. Operating
arrangements and market expansion efforts in the Pacific Rim are administered by
the parent company.
Other Activities
Supporting Departments. The Company has various departments responsible
for technical, engineering, management information, planning and market
services, and product and process development activities. Various administrative
support departments provide personnel, public relations, administrative,
education, accounting, financial and legal services.
Manufacturing Division. ServiceMaster has a manufacturing division
which formulates, combines and distributes supplies, products and equipment that
are used internally in providing management services to customers and which are
sold to licensees for use in the operation of their businesses. ServiceMaster
has a small share of the market for the manufacture and distribution of cleaning
equipment, chemicals and supplies.
Venture Fund. ServiceMaster Venture Fund L.L.C., a subsidiary of the
parent company (the "Venture Fund"), invests in emerging growth companies which
show an ability to provide innovative service technologies to ServiceMaster's
current and new customers. The Venture Fund is managed so as not to be intrusive
to the ongoing operations of the Company's operating units.
Industry Position, Competition and Customers
The following information is based solely upon estimates made by the
management of ServiceMaster and cannot be verified. In considering
ServiceMaster's industry and competitive positions, it should be recognized that
ServiceMaster competes with many other companies in the sale of its services,
franchises and products and that some of these competitors are larger or have
greater financial and marketing strength than ServiceMaster.
The principal methods of competition employed by ServiceMaster in the
Consumer Services business are name recognition, assurance of customer
satisfaction and a history of providing quality services to homeowners.
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The principal methods of competition employed by ServiceMaster in each of the
operating units in the Management Services business are price, quality of
service and experience in providing management services. The principal methods
of competition employed by ServiceMaster in the Employer Services business are
name recognition, assurance of customer satisfaction and financial strength.
Consumer Services
Subsidiaries of Consumer Services provide a variety of residential and
commercial services under their respective names on the basis of their and
ServiceMaster's reputation, the strength of their service marks, their size and
financial capability, and their training and technical support services. The
markets served by Terminix and TruGreen-ChemLawn are seasonal in nature.
Lawn Care Services. TruGreen-ChemLawn, both directly and through
franchisees, provides lawn care services to residential and commercial
customers. Competition within the lawn care market is strong, coming mainly from
regional and local, independently-owned firms and from homeowners who elect to
care for their lawns through their own personal efforts. TruGreen-ChemLawn is
the leading national lawn care company within this market. TruGreen-ChemLawn
also provides indoor plant maintenance to commercial customers.
Lawn care services are regulated by law in most of the states in which
TruGreen-ChemLawn provides such services. These laws require licensing which is
conditional on a showing of technical competence and adequate bonding and
insurance. The lawn care industry is regulated at the federal level under the
Federal Insecticide, Fungicide and Rodenticide Act, and lawn care companies
(such as TruGreen-ChemLawn) which apply herbicides and pesticides are regulated
under the Federal Environmental Pesticide Control Act of 1972. Such laws,
together with a variety of state and local laws and regulations, may limit or
prohibit the use of certain herbicides and pesticides, and such restrictions may
adversely affect the business of TruGreen-ChemLawn.
Landscaping and Tree Services. TruGreen-ChemLawn provides landscaping
and tree services to commercial customers. (See page 2 for a discussion of the
acquisition of LandCare USA, Inc.). The landscape and tree services industry is
highly competitive. Most of TruGreen-ChemLawn's landscape services competitors
are small, owner-operated companies operating in a limited geographic market but
there are a few large companies operating in multiple markets. Competition in
the line clearing market is characterized by a small number of large companies.
The commercial tree services market is characterized by a large group of small
competitors, most of which are owner-operated businesses operating in limited
geographic areas and a few larger companies operating in one or more regions.
Termite and Pest Control Services. The market for termite and pest
control services to commercial and residential customers includes many
competitors. Terminix is the leading national termite and pest control company
within this market. Competition within the termite and pest control market is
strong, coming mainly from regional and local, independently-owned firms
throughout the United States and from one other large company which operates on
a national basis.
Termite and pest control services are regulated by law in most of the
states in which Terminix provides such services. These laws require licensing
which is conditional on a showing of technical competence and adequate bonding
and insurance. The extermination industry is regulated at the federal level
under the Federal Insecticide, Fungicide and Rodenticide Act, and pesticide
applicators (such as Terminix) are regulated under the Federal Environmental
Pesticide Control Act of 1972. Such laws, together with a variety of state and
local laws and regulations, may limit or prohibit the use of certain pesticides,
and such restrictions may adversely affect the business of Terminix.
House Cleaning Services. The market for domestic house cleaning
services is highly competitive. In urban areas the market involves numerous
local companies and a few national companies. ServiceMaster believes that its
share of the total potential market for such services is small and that there is
significant potential for further expansion of its housecleaning business
through continued internal expansion and greater penetration of the
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housecleaning market. Through its company-owned branches and its franchisees,
ServiceMaster has a small share of the market for the cleaning of residential
and commercial buildings.
Home Systems and Appliance Warranty Contracts. The market for home
systems and appliance warranty contracts is relatively new. ServiceMaster
believes that AHS maintains a favorable position in its industry due to the
system developed and used by AHS for accepting, dispatching and fulfilling
service calls from homeowners through a nationwide network of independent
contractors. AHS also has a computerized information system developed and owned
by AHS, and an electronic digital voice communication system through which AHS
handled more than 4.9 million calls in 1998.
Home Inspection Services. AmeriSpec is a leading provider of home
inspection services in the United States. Competition within this market is
strong, coming mainly from regional and local, independently-owned firms.
Furniture Repair Services. The market for on-site furniture repair
services is relatively new. ServiceMaster believes that Furniture Medic
maintains a favorable position in its industry due to its patented
environmentally sensitive procedure for repairing furniture in the customer's
home.
Plumbing and Drain Cleaning Services. The market for plumbing and drain
cleaning services is highly competitive in both the residential and commercial
sectors. Rescue Rooter believes that its share of the total potential market for
such services is small and that there is significant potential for future
expansion and penetration. Plumbing is regulated by most states in which Rescue
Rooter provides such services. The level of licensing varies from state to
state. There are no state or federal guidelines regulating drain cleaning
services.
Management Services
Health Care. Within the market consisting of general health care
facilities having 50 or more beds, ServiceMaster is the leading supplier of
plant operations and maintenance, housekeeping, clinical equipment maintenance,
and laundry and linen management services. As of December 31, 1998,
ServiceMaster was serving approximately 1,633 customers and managing
approximately 1,877 health care facilities. The majority of health care
facilities within this market not currently served by ServiceMaster assume
direct responsibility for managing their own non-medical support functions.
ServiceMaster believes that its management services for health care
facilities may expand by the addition of facilities not presently served, by
initiating additional services at facilities which use only a portion of the
services now offered, by the development of new services and by growth in the
size of facilities served. At the same time, industry consolidation, changes in
use and methods of health care delivery and payment for services (including in
particular changes in Medicare reimbursement regulations) continue to affect the
health care environment.
Education. ServiceMaster is a leading provider to the education market
of maintenance, custodial and grounds services. The facilities which comprise
the education market served by ServiceMaster include primary schools, secondary
schools and school districts, private specialty schools and colleges and
universities. As of December 31, 1998, ServiceMaster was serving approximately
281 customers and managing approximately 5,700 facilities. ServiceMaster
believes there is potential for expansion in the education market due to its
current relatively low penetration of that market and the trend of educational
facilities to consider outsourcing more of their service requirements. However,
a majority of the educational facilities continue to assume direct
responsibility for managing their support functions.
Business and Industry. ServiceMaster is a leading provider of plant
operations and maintenance, custodial and grounds management services to
business and industrial customers in selected markets. ServiceMaster believes
that there is potential for expansion in those business and industrial markets
which ServiceMaster has elected to emphasize due to ServiceMaster's low current
penetration of those markets, the trend of businesses to consider outsourcing
more of their service requirements and the trend of governmental units to
privatize parts of their
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operations. The emphasized markets include the food
processing, transportation, healthcare products, and automotive markets. As of
December 31, 1998, ServiceMaster was serving approximately 217 customers and
managing approximately 817 business or industrial facilities.
Major Customers
ServiceMaster has no single customer which accounts for more than 10%
of its total revenues. No part of the Company's business is dependent on a
single customer or a few customers, the loss of which would have a material
adverse effect on the Company as a whole. Revenues from governmental sources are
not material.
Employees
On December 31, 1998, ServiceMaster had a total of approximately 51,740
employees.
ServiceMaster provides its employees with annual vacation, medical,
hospital and life insurance benefits and the right to participate in additional
benefit plans which are described in the Notes to Financial Statements included
in the Company's Annual Report to Stockholders for the Year Ended December 31,
1998.
Year 2000 Computer Program Compliance
Year 2000 Compliance. Certain computer programs use two digits rather
than four to define the applicable year and consequently may not function
properly beyond the year 1999 unless they are remediated. In addition, some
computer programs are unable to recognize the year 2000 as a leap year. These
problems may also exist in chips embedded in various types of equipment. The
Company has long been aware of this Year 2000 (Y2K) problem. The Company is
dealing with the Y2K problem in part through system upgrades, which were planned
to occur in the normal course of business. In other cases, the Company has put
programs into place which the Company believes will result in the completion of
necessary remediation efforts prior to the year 2000.
State of Readiness. The Company has initiated a program (the "Y2K
program") to address Y2K issues as they affect the Company's information
technology (IT) systems, electronic data interfaces and its non-IT hardware. The
Y2K program was set up to use the following steps as appropriate: inventory
assessment - planning -renovation - testing - implementation. In addition, the
program calls for inquiries of the Company's major suppliers of goods and
services to determine their Y2K status and a review of the Company's
relationships with its customers to determine if the Company has any
responsibility for the status of the customers' IT and/or non-IT systems and
hardware.
In 1998, the Company began to monitor its progress on the Y2K program
on a consolidated basis and completed an inventory which covered both IT and
non-IT items for all operating companies and administrative units within the
ServiceMaster enterprise. All items in the inventory were placed in one of four
categories: mission critical, critical, important and ordinary within the
context of the operating company or administrative unit involved. (A "mission
critical" or "critical" designation for an item within an operating company or
administrative unit does not necessarily hold the same level of criticality from
the perspective of the entire ServiceMaster enterprise).
Remediation plans have been developed for the mission critical and
critical matters, with milestones established for each plan which enable
management to measure the progress made in respect of a plan against the work
schedule established for that plan. Although these plans encompass many
separately identifiable items, from a ServiceMaster enterprise standpoint, there
are nine projects (the "Key Projects") which management has identified as either
mission critical or critical and which will require a measurable amount of
attention to remediate. Although all of the Key Projects are scheduled for
completion before the end of the year 1999, most of the Key Projects are
scheduled for completion by June 30, 1999. As of February 28, 1999, work on each
of the Key Projects was on schedule and the Company believes that all Key
Projects will be completed in accordance with their scheduled completion dates.
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The Company has utilized the services of an outside consultant for the
Y2K program to help identify Y2K issues and to develop a system to closely
monitor remediation work. In early 1998, the Company established a Y2K committee
in the parent unit with responsibility for monitoring the Y2K program in each of
the Company's operating units and for providing status reports to the Board of
Directors.
Year 2000 Costs. Several of the Key Projects are upgrades of systems
which the Company would have undertaken irrespective of the Y2K problem. In some
cases, including a new accounting and financial reporting system for the parent
company and its Management Services subsidiary, work on these systems has been
accelerated in view of Y2K issues. Other upgrades or new systems were already
scheduled for completion prior to the year 2000, such as a new support system
for the Company's American Home Shield subsidiary and a new accounting and
billing system for the recently developed commercial landscape business within
the Company's TruGreen-ChemLawn subsidiary. References to "Year 2000 costs" in
this report do not include the costs of projects for which no acceleration is
occurring due to Y2K issues.
The Company's Year 2000 costs to date are not material to the Company's
results of operations or financial position and the Company does not expect its
future Year 2000 costs to be material to the Company's results of operations or
financial position. All Year 2000 costs (as well as the costs of installing the
system upgrades referred to above) have been, and are expected to continue to
be, funded with cash from operations.
Year 2000 Risks. The Company believes that its greatest Year 2000
compliance risk, in terms of magnitude of risk, is that key third party
suppliers of goods or services may fail to complete their own remediation
efforts in a timely manner and thereby provoke an interruption in the ability of
one or more of the operating segments of the Company to provide uninterrupted
services to their customers. Utility services (electrical, water and gas),
telephone service, banking services and, to a much lesser degree, the delivery
of chemical products are the critical items in this regard. Based on the
Company's inquiries to its providers of goods and services and on the basis of
the Company's general knowledge of the state of readiness of the utility
companies and banks with which it does business, the Company does not expect to
suffer any material interruption in the services on which the Company depends.
The Company has reviewed its agreements with its customers, including
particularly the customers of its Management Services units for whom such units
provide facility management services. The Company is satisfied that it is not
responsible, contractually or otherwise, for the Y2K readiness of the customer's
IT and non-IT systems and hardware, and the Company is in the process of
notifying all of its customers to this effect where, in the Company's judgment,
the nature of the customers' business or facility warranted such notices.
Where the Company uses its own software in the course of providing
management services, the Company is responsible to make such software Y2K ready.
The Company is confident that such software is already, or soon will be, Y2K
ready. For those units of the Company which sell franchises and which provide
software to the franchisees, such software is already, or soon will be, fully
Y2K ready or, alternatively, provision has been made for making available to
franchisees software from third-party developers from whom appropriate Y2K
compliance assurances have been or will be received.
Contingency Plans. At this time, the Company fully expects all of its
internal key IT and non-IT systems to be Y2K ready well in advance of the end of
the year 1999. If it appears that timely delivery of any Key Projects becomes
questionable, the Company will immediately develop appropriate contingency
plans.
The Company presently expects that its significant providers of goods
and services are or will be Y2K ready by the end of the year 1999. The Company
will continue to make inquires of its key suppliers for the purpose of testing
this expectation. Insofar as the Company is exposed to risks originating in Y2K
problems at key suppliers, the Company will utilize short-term solutions, but no
practical long-term contingency plans for these external Y2K problems are
possible.
9
<PAGE>
Although the Company believes that critical remediation efforts will be
completed prior to the Year 2000, the untimely completion of these efforts
could, in certain circumstances, have a material adverse effect on the
operations of the Company.
Definition. As used in this Year 2000 statement, the term "year 2000
ready" or "Y2K ready" when used with reference to a item of software or
equipment means the capability of the software or equipment to process correctly
(including calculating, comparing, sequencing, displaying, or storing),
transmit, or receive date data from, into, and between the 20th and 21st
centuries, and during the years 1999 and 2000, and to make leap year
calculations, provided that all products used with the software or equipment
properly exchange accurate date data with it.
Item 2. Properties
The headquarters facility of ServiceMaster, which also serves as
headquarters for ServiceMaster Management Services, is owned by The
ServiceMaster Company and is located on a ten-acre tract at One ServiceMaster
Way, Downers Grove, Illinois. The initial structure was built in 1963, and two
additions were completed in 1968 and 1976. In early 1988, ServiceMaster
completed construction of a two-story 15,000 square foot addition for office
space, food service demonstrations and dining facilities. The building contains
approximately 118,900 square feet of air conditioned office space and 2,100
square feet of laboratory space. In the Spring of 1992, ServiceMaster completed
the conversion of approximately 30,000 square feet of space formerly used as a
warehouse to offices for Management Services and for The Kenneth and Norma
Wessner Training Center.
ServiceMaster owns a seven-acre, improved tract at 2500 Warrenville
Road, Downers Grove, Illinois, which is adjacent to its headquarters facility.
In 1993, ServiceMaster substantially remodeled the building and thereafter
leased approximately half the space (50,000 square feet) to a commercial tenant.
The balance of the space is utilized by ServiceMaster personnel.
ServiceMaster owns a 50,000 square foot facility near Aurora, Illinois
which is used by ServiceMaster as a warehouse/distribution center. Ownership of
this facility was acquired on February 11, 1999 by a deed in lieu of foreclosure
from the company with whom ServiceMaster had, on August 2, 1989, entered into a
sale/leaseback arrangement.
ServiceMaster believes that the facilities described in the preceding
three paragraphs will satisfy the Company's needs for administrative and
warehouse space in the Chicago area for the immediate future.
ServiceMaster owns four properties in Cairo, Illinois, consisting of a
36,000 square foot, three-story building used for manufacturing and warehousing
equipment, supplies and products used in the business; a warehouse and package
facility comprising 30,000 square feet; a three-story warehouse and
manufacturing building consisting of 43,000 square feet; and a 2,500 square foot
building used for a machine shop. ServiceMaster also leases two warehouse
properties, one 14,000 square feet and the other 6,000 square feet, in Cairo,
Illinois. Management believes that the foregoing manufacturing and warehouse
facilities are adequate to support the current needs of ServiceMaster.
The headquarters for ServiceMaster Consumer Services L.P. are located
in leased premises at 860 Ridge Lake Boulevard, Memphis, Tennessee. The 860
Ridge Lake Boulevard facility also serves as the headquarters for
TruGreen-ChemLawn, Terminix, Res/Com, Merry Maids, American Home Shield,
AmeriSpec, Furniture Medic and Rescue Rooter.
A new call center is located in leased premises at 6399 Shelby View
Drive, Memphis, Tennessee. The center contains approximately 60,000 square feet
of air conditioned office space from which telephone sales, scheduling services,
and other business functions are conducted.
10
<PAGE>
TruGreen-ChemLawn owns 8 buildings which are used as branch sites for
lawn care services. These facilities are located in Colorado (1), Florida (1),
Georgia (1), Michigan (1), Ohio (2), and Texas (2). TruGreen-ChemLawn also
leases 337 facilities used as branch sites.
Terminix owns 22 buildings which are used as branch sites for termite
and pest control services. These properties are all one-story buildings that
contain both office and storage space. These properties are located in
California (3), Florida (10), Georgia (1), Illinois (1), New Jersey (2),
Tennessee (1), and Texas (4).
American Home Shield has retained some leased space in the building at
90 South E Street, Santa Rosa, California, for administrative and sales
operations. Certain of American Home Shield's service and data processing
departments are located in premises owned by the company in Carroll, Iowa. This
facility consists of a 43,000 square foot building on a seven-acre site.
American Home Shield owns approximately 17 acres of land in Santa Rosa,
California of which 11.2 acres are under contracts for sales to occur in the
second quarter of 1999. This land is held for investment purposes and has been
and will continue to be offered for sale, with the timing of sales being
affected by, among other things, market demand, zoning regulations, and the
availability of financing to purchasers.
Rescue Rooter owns three buildings and leases 23 facilities which are
used for branch operations to provide plumbing and drain cleaning services, and
heating and air conditioning services. The owned facilities are located,
respectively, in Phoenix, Arizona; Round Lake, Illinois; and St. Louis,
Missouri. The leased facilities are located in California (11), Colorado (1),
Indiana (2), Ohio (1), Oregon (1), Tennessee (1), Texas (4), Utah (1), and
Washington (1).
The headquarters for Diversified Health Services are located in a leased
facility at 3839 Forest Hill-Irene Road, Memphis, Tennessee. DHS leases other
administrative facilities in St. Augustine, Florida; Minneapolis, Minnesota;
Plymouth Meeting, Pennsylvania; Memphis, Tennessee; and Irving, Texas. As of
March 1, 1999, through a joint venture and subsidiaries, DHS has an ownership
interest in four nursing home facilities, leases one nursing home facility, and
leases five assisted living facilities. These facilities are located in Alabama,
Connecticut, Florida, Michigan, Tennessee, and Texas.
The headquarters for ServiceMaster Employer Services and Certified
Systems, Inc., the principal subsidiary of SES, are located at 3218 Highway 67,
Mesquite, Texas. SES leases other administrative facilities in Little Rock,
Arkansas, and Memphis, Tennessee.
Item 3. Legal Proceedings
In the ordinary course of conducting its business activities,
ServiceMaster becomes involved in judicial and administrative proceedings which
involve both private parties and governmental authorities. As of March 22, 1999,
these proceedings included a number of general liability actions and a very
small number of environmental proceedings.
American Home Shield Class Action. A lawsuit was instituted in November
1997 and is currently pending in the District Court of Harris County, Texas
against ServiceMaster, ServiceMaster's American Home Shield subsidiary ("AHS")
and AHS' Texas subsidiary ("AHS-Texas") in which three plaintiffs, Brian
Carmichael, Penny Carmichael and Tanja Kortz, claim that AHS-Texas violated
certain provisions of two Texas consumer protection statues in the course of
soliciting new and renewal service contracts. (A second lawsuit of a similar
nature was filed in the same court by Edward Thorne III. This case has been
abated pending disposition of the certification issue described below.) The
plaintiffs have requested the court to permit the lawsuit to be maintained as a
class action on behalf of all customers who purchased service contracts since
late 1993. Theoretically, this would place some 300,000 contracts in issue. The
plaintiffs have further claimed that the number of contracts in issue times a
statutory penalty of $1,000 per contract represents the measure of damages.
ServiceMaster believes that AHS-Texas accurately represented the coverage
provided in its service agreements and that the changes in the wording of its
11
<PAGE>
renewal contacts were routine updates or clarifications. In this regard, it is
noteworthy that most of the AHS-Texas contract forms were reviewed and approved
by the Texas Real Estate commission before the forms were distributed. In any
and all events, no material actual damages have been suffered by anyone in this
matter. Furthermore, ServiceMaster believes that the lawsuit cannot be sustained
as a class action; the statutes in question were not intended to be applied in
the manner advanced by the plaintiffs (and in fact cannot be so applied under
the federal constitution). Accordingly, ServiceMaster believes that the ultimate
outcome of these cases will not be material to ServiceMaster's financial
condition or results of operations.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted during the fourth quarter of the fiscal year
covered by this report to a vote of security holders.
12
<PAGE>
PART II
Item 5. Market for Registrant's Shares and Related Shareholder Matters
Except for the information set forth in the second and third sentences
of this Item 5, the portions of the ServiceMaster Annual Report to Shareholders
for 1998 under the captions "Shareholders' Equity" (page 39) and "Cash
Distributions Per Share" and "Price Per Share" in the Quarterly Operating
Results table (page 46) supply the information required by this item and such
portions are hereby incorporated herein by reference. The Registrant's shares of
common stock are listed and traded on the New York Stock Exchange under the
symbol "SVM". At March 1, 1999, the Registrant's shares of common stock were
held of record by approximately 28,000 persons. The Company estimates that
another 53,000 persons held shares of the Registrant's common stock in the names
of nominees.
Item 6. Selected Financial Data
The portion of the ServiceMaster Annual Report to Shareholders for 1998
in the Financial Statements and Management Discussion section ("FSMD Section")
under the caption "Eleven Year Financial Summary" (pages 32 - 33) supplies the
information required by this item and such portion is hereby incorporated herein
by reference.
Item 7. Management Discussion and Analysis of Financial Condition and Results
of Operations
Management Discussion and Analysis of Financial Condition and Results
of Operations for the three years ended December 31, 1998, is contained in the
FSMD Section of the ServiceMaster Annual Report to Shareholders for 1998 on
pages 25-31 and is hereby incorporated herein by reference.
Item 8. Financial Statements and Supplementary Data
The consolidated statements of financial position of ServiceMaster as
of December 31, 1998 and 1997, and the consolidated statements of income, cash
flows and shareholders' equity for the years ended December 31, 1998, 1997, and
1996 and notes to the consolidated financial statements are contained in the
FSMD Section of the ServiceMaster Annual Report to Shareholders for 1998 on
pages 36-45 are incorporated herein by reference. The report of Arthur Andersen
LLP thereon dated January 25, 1999, and the summary of significant accounting
policies are contained in the FSMD Section of the ServiceMaster Annual Report to
Shareholders for 1998 on pages 34-35 and are hereby incorporated herein by
reference.
Item 9. Disagreements on Accounting and Financial Disclosure
None.
13
<PAGE>
PART III
Item 10. Directors and Executive Officers of the Registrant
Directors
The information contained under the heading "Election of Directors" in
the definitive proxy statement for the Company's April 30, 1999 Annual Meeting
of the Stockholders is incorporated herein by reference.
Senior Management Advisers
The Bylaws of the Company provide that the Board of Directors may
appoint officers of the Company or a subsidiary and other persons having a
special relationship to ServiceMaster to serve as Senior Management Advisers.
Senior Management Advisers attend the meetings of the Board and advise the Board
but do not have the power to vote. The Board has determined that providing a
greater number of officers the opportunity to advise and interact with the Board
is in the best interest of ServiceMaster as well as the individual officers. The
Senior Management Advisers receive no special compensation for their services in
this capacity.
The Board of Directors has appointed the persons listed below as Senior
Management Advisers effective as of the 1998 annual meeting of the shareholders
of The ServiceMaster Company to serve in such capacity until the annual meeting
of shareholders of the Company in 1999 or until otherwise determined by the
Board of Directors.
Robert D. Erickson, age 55, is an Executive Vice President. Mr.
Erickson was a director of ServiceMaster from May 1987 to May 1993. He
previously served as a director of ServiceMaster from May 1981 to June 1984. He
served as the President and Chief Operating Officer of ServiceMaster's
International business unit from October 1993 to December 1997.
Donald K. Karnes, age 48, is Group President of TruGreen-ChemLawn and
Terminix. He served as President and Chief Operating Officer of
TruGreen-ChemLawn from January 1992 to December 1995.
Robert F. Keith, age 42, is President, Healthcare Management Services.
He served as President and Chief Operating Officer, ServiceMaster Management
Services from January 1, 1997 to October 2, 1998; President and Chief Operating
Officer, ServiceMaster Consumer Services from July 1994 to December 31, 1996 and
as Group President, ServiceMaster Consumer Services, from November 1992 to July
1994.
Ernest J. Mrozek, age 45, is Group President, ServiceMaster Consumer
Services. He served as President and Chief Operating Officer, ServiceMaster
Consumer Services from January 1, 1997 to October 2, 1998; Senior Vice President
and Chief Financial Officer of the Registrant from January 1, 1995 to December
31, 1996. He served as Vice President and Chief Financial Officer of the
Registrant from May 1994 to December 1994, as Vice President, Treasurer and
Chief Financial Officer from November 1, 1992 to April 30, 1994.
Steven C. Preston, age 38, has served as Executive Vice President and
Chief Financial Officer since July 1, 1998. He served as Senior Vice President
and Chief Financial Officer from April 1, 1997 to June 30, 1998. From August
1993 to March 7, 1997, he was Senior Vice President and Corporate Treasurer for
First Data Corporation, Atlanta, GA.
David M. Slott, age 40 is President and Chief Operating Officer of
TruGreen Limited Partnership. He served as Executive Vice President and Chief
Operating Officer of Tru-Green Limited Partnership from May 1, 1994 to December
31, 1995.
14
<PAGE>
Executive Officers of ServiceMaster
The following table shows: (i) the names and ages (as of March 1, 1999)
of the present executive officers of the Registrant; (ii) all positions
presently held by each officer; and (iii) the year each person became an
officer. Each person named has served as an officer of the Registrant and its
predecessor company continuously since the year shown. There are no arrangements
or understandings between any executive officer and any other person pursuant to
which the officer was or is to be selected as an officer.
<TABLE>
<CAPTION>
First Became
Name Age Present Position An Officer
- -------------------- --- ---------------------------------------------------- ------------
<S> <C> <C> <C>
C. William Pollard 60 Chairman and Director 1977
Carlos H. Cantu 65 President and Chief Executive Officer and Director 1986
Phillip B. Rooney 54 Vice Chairman and Director 1997
Charles W. Stair 58 Vice Chairman and Director 1973
Donald K. Karnes 48 Group President, Consumer Services, and a
Senior Management Adviser 1992
Ernest J. Mrozek 45 Group President, Consumer Services, and a
Senior Management Adviser 1987
Robert F. Keith 42 President, Healthcare Management Services, and 1986
a Senior Management Adviser
Robert D. Erickson 55 Executive Vice President and a Senior Management Adviser 1976
Vernon T. Squires 64 Senior Vice President and General Counsel 1987
Steven C. Preston 38 Executive Vice President and Chief Financial Officer, and
a Senior Management Adviser 1997
Eric R. Zarnikow 39 Vice President and Treasurer 1994
Deborah A. O'Connor 36 Vice President and Controller 1993
</TABLE>
Messrs. Pollard, Cantu, Stair and Rooney are also Directors of the Company.
See "Election of Directors" in the definitive proxy statement for the Company's
1999 Annual Meeting for biographical information with respect to these persons.
Messrs. Karnes, Mrozek, Keith, Erickson, and Preston are Senior Management
Advisers. See page 14 for biographical information with respect to these
persons.
Vernon T. Squires, age 64, has served as Senior Vice President and
General Counsel since January 1, 1988. He served as Vice President and General
Counsel from April 1, 1987 until December 31, 1987. He was an associate and
partner with the law firm of Wilson & McIlvaine in Chicago, specializing in
corporate and tax law, from 1960 to April 1, 1987.
15
<PAGE>
Eric R. Zarnikow, age 39, has served as Vice President and Treasurer
since May 1, 1994. From August 1991 to April 1994, he served as Vice President
and Treasurer of Gaylord Container Corporation.
Deborah A. O'Connor, age 36, has served as Vice President and
Controller since January 1, 1993.
Compliance With Section 16(a) of The Exchange Act of 1934
Section 16(a) of the Securities Exchange Act of 1934 requires the
Company's officers and directors, and persons who own more than ten percent of
ServiceMaster's shares, to file reports of ownership and changes in ownership
with the Securities and Exchange Commission (the "Commission") and the New York
Stock Exchange. The Commission's regulations require certain officers, directors
and greater-than-ten-percent shareholders to furnish to the Company copies of
all Section 16(a) forms that they file. During 1998, the Company received
Section 16(a) forms from such officers and directors. As of January 1, 1999, the
Company did not have any shareholders with an interest greater than ten percent.
Based solely on a review of the copies of Section 16(a) forms received
by the Company or on written representations from certain reporting persons that
no Form 5 was required for those persons, the Company believes that during 1998
the officers and directors of the Company complied with applicable filing
requirements.
Item 11. Executive Compensation
The information contained under the heading "Executive Compensation"
(except those portions relating to Item 13 below) in the definitive proxy
statement for the Company's April 30, 1999 Annual Meeting of Stockholders is
incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The information contained under the heading "Principal Stockholders"
and "Management Ownership" in the definitive proxy statement for the Company's
April 30, 1999 Annual Meeting of the Stockholders is incorporated herein by
reference.
Item 13. Certain Relationships and Related Miscellaneous Transactions
The information contained under the heading "Executive Compensation"
(except those portions relating to Item 11 above) and the subheadings
"Compensation of Directors" and "Ownership Information" in the definitive proxy
statement for the Company's April 30, 1999 Annual Meeting of the Stockholders is
incorporated herein by reference.
16
<PAGE>
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) Financial Statements, Schedules and Exhibits
1. Financial Statements
The documents shown below are contained in the Financial
Statements and Management Discussion and Analysis section of
the ServiceMaster Annual Report to Shareholders for 1998, on
pages 25 - 45 and are incorporated herein by reference:
Summary of Significant Accounting Policies
Report of Independent Public Accountants
Consolidated Statements of Income for the three years
ended December 31, 1998, 1997 and 1996
Consolidated Statements of Financial Position as of
December 31, 1998 and 1997
Consolidated Statements of Cash Flows for the three
years ended December 31, 1998, 1997 and 1996
Consolidated Statements of Shareholders' Equity for
the three years ended December 31, 1998, 1997 and 1996
Notes to the Consolidated Financial Statements
2. Financial Statements Schedules
Schedule IV--Amounts Receivable from Related Parties and
Underwriters, Promoters, and Employees other than Related
Parties:
None
Included in Part IV of this Report:
Schedule VIII--Valuation and Qualifying Accounts
Report of Independent Public Accountants on Schedules
Exhibit 11 -- Exhibit Regarding Detail of Income Per
Share Computation
Exhibit 23 -- Consent of Independent Public Accountants
Other schedules are omitted because of the absence of conditions under
which they are required or because the required information is given in the
financial statements or notes thereto.
17
<PAGE>
3. Exhibits
The exhibits filed with this report are listed on pages 25 -
29 herein (the "Exhibits Index").
The following entries in the Exhibits Index are management
contracts or compensatory plans in which a director or any of
the named executive officers of the Registrant does or may
participate. Reference is made to the Exhibits Index for the
filing with the Commission which contains such contract or
plan.
<TABLE>
<CAPTION>
Exhibit Contract or Plan
<S> <C>
10.2 Deferred Directors Fee Agreement
10.3 Incentive Reward Compensation Plan
10.4 ServiceMaster Profit Sharing, Savings & Retirement Plan as amended
and restated effective January 1, 1987
10.6 ServiceMaster 10-Plus Plan. See also Item 10.11 *
10.8 Directors Deferred Fees Plan (ServiceMaster Shares Alternative)
10.11 ServiceMaster 10-Plus Plan as amended September 3, 1991 *
10.13 ServiceMaster 1994 Non-Employee Directors Share Option Plan**
10.15 ServiceMaster 1997 Share Option Plan *
10.17 ServiceMaster 1998 Equity Incentive Plan
10.20 ServiceMaster 1998 Non-Employee Directors Discounted Stock Option Plan
10.21 ServiceMaster 1998 Long-Term Performance Award Plan
</TABLE>
---------
* Superseded by Item 10.17
** Superseded by Item 10.20
18
<PAGE>
(b) Reports on Form 8-K filed during the last quarter of 1998
None
Certain Undertakings With Respect To Registration Statements on Form S-8
For the purposes of complying with the amendments to the rules
governing Form S-8 (effective July 13, 1990) under the Securities Act of 1933,
the Registrant hereby undertakes as follows which undertaking shall be
incorporated by reference into each of the Registrant's Registration Statements
on Form S-8, including No. 33-19763 and No. 2-75851:
Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to directors, officers and controlling
persons of the Registrant pursuant to the foregoing provisions, or
otherwise, the Registrant has been advised that in the opinion of the
Securities and Exchange Commission such indemnification is against
public policy as expressed in the Securities Act of 1933 and is,
therefore, unenforceable. In the event that a claim for indemnification
against such liabilities (other than the payment by the Registrant of
expenses incurred or paid by a director, officer or controlling person
of the Registrant in the successful defense of any action, suit or
proceeding) is asserted by such director, officer or controlling person
in connection with the securities being registered, the Registrant
will, unless in the opinion of its counsel the matter has been settled
by controlling precedent, submit to a court of appropriate jurisdiction
the question whether such indemnification by it is against public
policy as expressed in the Act and will be governed by the final
adjudication of such issue.
19
<PAGE>
<TABLE>
<CAPTION>
SCHEDULE VIII
THE SERVICEMASTER COMPANY
VALUATION AND QUALIFYING ACCOUNTS
(In thousands)
-------------------------------------------------- ------------------ ------------- ------------------ -------------
Deductions
Additions
Balance at Charged to Write-offs of Balance at
Beginning of Costs and Uncollectible end of
Description Period Expenses Accounts Period
-------------------------------------------------- -----------------------------------------------------------------
<S> <C> <C> <C> <C>
-------------------------------------------------- ------------------ ------------- ------------------ -------------
AS OF DECEMBER 31, 1998:
Allowance for doubtful accounts--
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
Accounts receivable (current) $27,544 25,998 19,389 $34,153
------- ------ ------ -------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
Notes receivable (current) $ 4,677 686 528 $ 4,835
------- --- --- -------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
AS OF DECEMBER 31, 1997:
Allowance for doubtful accounts--
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
Accounts receivable (current) $24,117 20,183 16,756 $27,544
------- ------ ------ -------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
Notes receivable (current) $ 2,170 2,507 0 $ 4,677
------- -- ----- --------- - -------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
AS OF DECEMBER 31, 1996:
Allowance for doubtful accounts--
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
Accounts receivable (current) $18,029 20,517 14,429 $24,117
------- ------ ------ -------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
Notes receivable (current) $ 2,439 59 328 $ 2,170
------- ----- -- --------- --- -------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
-------------------------------------------------- ------------------ ------------- ------------------ -------------
</TABLE>
20
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders of ServiceMaster Limited Partnership:
We have audited in accordance with generally accepted auditing standards, the
financial statements included in The ServiceMaster Company's annual report to
shareholders incorporated by reference in this Form 10-K, and have issued our
report thereon dated January 25, 1999. Our audit was made for the purpose of
forming an opinion on those statements taken as a whole. The schedules included
in Part IV in the Form 10-K are the responsibility of the Company's management
and are presented for purposes of complying with the Securities and Exchange
Commission's rules and are not part of the basic financial statements. These
supporting schedules have been subjected to the auditing procedures applied in
the audit of the basic financial statements and, in our opinion, fairly state in
all material respects the financial data required to be set forth therein in
relation to the basic financial statements taken as a whole.
Arthur Andersen LLP
Chicago, Illinois
January 25, 1999
21
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.
THE SERVICEMASTER COMPANY
Registrant
Date: March 18, 1999 By: /s/ C. WILLIAM POLLARD
-------------------------------
C. William Pollard
Chairman
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in their capacities and on the date indicated.
<TABLE>
<CAPTION>
Signature Title Date
- --------------------------- ------------------------ ----------------
<S> <C> <C>
/s/ C. WILLIAM POLLARD Chairman and Director March 18, 1999
- ---------------------------
C. William Pollard
/s/ CARLOS H. CANTU President and Chief Executive March 18, 1999
- ---------------------------
Carlos H. Cantu Officer and Director
/s/ PHILLIP B. ROONEY Vice Chairman and Director March 18 1999
- ----------------------
Phillip B. Rooney
/s/ CHARLES W. STAIR Vice Chairman and Director March 18, 1999
- ----------------------
Charles W. Stair
/s/ STEVEN C. PRESTON Executive Vice President and March 18, 1999
- ----------------------
Steven C. Preston Chief Financial Officer (Principal
Financial Officer and Principal
Accounting Officer)
/s/ PAUL W. BEREZNY, JR. Director March 18, 1999
- ------------------------
Paul W. Berezny, Jr.
22
<PAGE>
Signature Title Date
- --------------------------- ------------------------ ----------------
/s/ HENRY O. BOSWELL Director March 18, 1999
- ----------------------
Henry O. Boswell
/s/ BRIAN GRIFFITHS Director March 18, 1999
- ----------------------
Brian Griffiths
/s/SIDNEY E. HARRIS Director March 18, 1999
- ----------------------
Sidney E. Harris
/s/ HERBERT P. HESS Director March 18, 1999
- ----------------------
Herbert P. Hess
/s/ MICHELE M. HUNT Director March 18, 1999
- ---------------------------
Michele M. Hunt
/s/ GUNTHER H. KNOEDLER Director March 18, 1999
- -----------------------
Gunther H. Knoedler
/s/ JAMES D. McLENNAN Director March 18, 1999
- ----------------------
James D. McLennan
/s/ VINCENT C. NELSON Director March 18, 1999
- ----------------------
Vincent C. Nelson
/s/ DALLEN W. PETERSON Director March 18, 1999
- ---------------------------
Dallen W. Peterson
23
<PAGE>
Signature Title Date
- --------------------------- ------------------------ ----------------
/s/ STEVEN S REINEMUND Director March 18, 1999
- ------------------------
Steven S Reinemund
/s/ BURTON E. SORENSEN Director March 18, 1999
- ------------------------
Burton E. Sorensen
/s/ DAVID K. WESSNER Director March 18, 1999
- ------------------------
David K. Wessner
</TABLE>
24
<PAGE>
Exhibits Index
Exhibit No. Description of Exhibit
- ---------- -------------------------------------------------------------------
1.1 Underwriting Agreement dated as of August 6, 1997 among The
ServiceMaster Company and J.P. Morgan, is incorporated by reference
to Exhibit 1.1 to the ServiceMaster Limited Partnership, The
ServiceMaster Company Limited Partnership and ServiceMaster
Incorporated of Delaware Registration Statement on Form S-3 filed
with the Securities and Exchange Commission on July 28, 1997 (the
"July 28, 1997 Registration Statement").
1.2 Underwriting Agreement dated as of February 25, 1998 among The
ServiceMaster Company and J.P. Morgan Securities, Inc., Goldman,
Sachs & Co., BancAmerica Robertson Stephens, First Chicago Capital
Markets, Inc. and NationsBanc Mongtomgery Securities L.L.C. is
incorporated by reference to the Exhibit 1 to the Current Report on
Form 8-K as filed by The ServiceMaster Company on February 27, 1998
(the "Company February 27, 1998 8-K").
2.1 Acquisition Agreement dated December 5, 1996 by and among
ServiceMaster Limited Partnership, ServiceMaster Acquisition
Corporation and Barefoot Inc. is incorporated by reference to Annex
A-1 to the Offering Circular/Prospectus included as part of the
Registration Statement on Form S-4 as filed by ServiceMaster
Limited Partnership on January 17, 1997 (SEC Registration No.
333-17759).
2.2 Plan and Agreement of Merger dated December 5, 1996 by and among
ServiceMaster Limited Partnership, ServiceMaster Acquisition
Corporation and Barefoot Inc. is incorporated by reference to Annex
A-2 to the Offering Circular/Prospectus included as part of the
Registration Statement on Form S-4 as filed by ServiceMaster
Limited Partnership on January 17, 1997 (SEC Registration No.
333-17759).
2.3 Merger and Reorganization Agreement as amended and restated on
October 3, 1997 is incorporated by reference to Exhibit 5 to the
Current Report on Form 8-K as filed by ServiceMaster Limited
Partnership on December 29, 1997 (the "SMLP December 29, 1997 8-K")
and to Exhibit 5 to the Current Report on Form 8-K as filed by The
ServiceMaster Company on Form 8-K on February 26, 1998 - second of
three 8-K reports filed on that date (the "Company February 26,
1998 8-K, No. 2").
2.4 Certificate of Merger of NewSub B, Inc. into ServiceMaster Limited
Partnership in accordance with Section 17-211 of the Delaware
Revised Uniform Limited Partnership Act (the "Reincorporating
Merger"), the filing of which was certified by the Secretary of
State of the State of Delaware on December 17, 1997 and the
effective date and time of which was December 26, 1997 at 11:59
P.M., Eastern Standard Time.
2.5 Certificate of Merger of ServiceMaster Limited Partnership and The
ServiceMaster Company Limited Partnership with and into The
ServiceMaster Company, a Delaware corporation, in accordance with
the General Corporation Law of the State of Delaware, the filing of
which was certified by the Secretary of State of the State of
Delaware on December 18, 1997 and the effective date and time of
which was January 1, 1998 at 12:01 A.M., Eastern Standard Time.
2.6 The Plan of Reorganization and Agreement and Plan of Merger dated
as of November 1, 1998 by and among LandCare USA, Inc., The
ServiceMaster Company and SVM Acquisition Corporation is
incorporated by reference to Appendix A to the Proxy
Statement/Prospectus included as part of the Registration Statement
on Form S-4 as filed by The ServiceMaster Company on February 10,
1999 (SEC Registration No. 333-70191).
25
<PAGE>
Exhibit No. Description of Exhibit
- ---------- -------------------------------------------------------------------
3.1 Amended and Restated Certificate of Incorporation of The
ServiceMaster Company, a Delaware corporation, as filed with the
Secretary of State, State of Delaware, on November 6, 1997 is
incorporated by reference to Exhibit 1 to the SMLP December 29,
1997 8-K and to Exhibit 1 to the Company February 26, 1998 8-K, No.
2.
3.2 Bylaws of The ServiceMaster Company as adopted on November 3, 1997
are incorporated by reference to Exhibit 2 to the SMLP December 29,
1997 8-K and to Exhibit 2 to the Company February 26, 1998 8-K, No.
2.
4.1 Shareholder Rights Agreement between The ServiceMaster Company and
the Harris Trust and Savings Bank as adopted on December 12,1997 is
incorporated by reference to Exhibit 3 to the SMLP December 29,
1997 8-K and to Exhibit 3 to the Company February 26, 1998 8-K, No.
2.
4.2 The ServiceMaster Company: Certificate of Designation, Preferences
and Rights of Junior Participating Preferred Stock, Series A, is
incorporated by reference to Exhibit 4 to the SMLP December 29,
1997 8-K and to Exhibit 4 to the Company February 26, 1998 8-K, No.
2.
4.3 Indenture dated as of August 15, 1997 among The ServiceMaster
Company (as successor to ServiceMaster Limited Partnership and The
ServiceMaster Company Limited Partnership) and the Harris Trust and
Savings Bank as trustee is incorporated by reference to Exhibit 4.1
to the July 28, 1997 Registration Statement.
4.4 First Supplemental Indenture dated as of August 15, 1997 among The
ServiceMaster Company (as successor to ServiceMaster Limited
Partnership and The ServiceMaster Company Limited Partnership) and
the Harris Trust and Savings Bank as trustee is incorporated by
reference to Exhibit 4.4 to the Annual Report on Form 10-K for the
year ended December 31, 1997 as filed by The ServiceMaster Company
(the "1997 10-K").
4.5 Second Supplemental Indenture dated as of January 1, 1998 among The
ServiceMaster Company (as successor to ServiceMaster Limited
Partnership and The ServiceMaster Company Limited Partnership) and
the Harris Trust and Savings Bank as trustee is incorporated by
reference to Exhibit 2 to the Current Report on Form 8-K as filed
by The ServiceMaster Company on Form 8-K on February 26, 1998 -
first of three 8-K reports filed on that date (the "Company
February 26, 1998 8-K, No. 1").
4.6 Third Supplemental Indenture dated as of March 2, 1998 among The
ServiceMaster Company and the Harris Trust and Savings Bank as
trustee is incorporated by reference to Exhibit 4.3 to the Current
Report on Form 8-K as filed by The ServiceMaster Company on
February 27, 1998 (the "Company February 27, 1998 8-K").
4.7 Form of 6.95% Note due August 14, 2007 is incorporated by reference
to Exhibit 4.2 to the July 28, 1997 Registration Statement.
4.8 Form of 7.45% Note due August 14, 2027 is incorporated by reference
to Exhibit 4.2 to the July 28, 1997 Registration Statement.
4.9 Form of 7.10% Note due March 1, 2018 is incorporated by reference
to Exhibit 4.1 to the Company February 27, 1998 8-K.
4.10 Form of 7.25% Note due March 1, 2038 is incorporated by reference
to Exhibit 4.2 to the Company February 27, 1998 8-K.
26
<PAGE>
Exhibit No. Description of Exhibit
- ---------- -------------------------------------------------------------------
10.1 $750,000,000 Credit Agreement between The ServiceMaster Company
Limited Partnership, First National Bank of Chicago and Morgan
Guaranty Trust Company dated as of April 1, 1997 is incorporated
by reference to Exhibit 10.2 to the 1997 10-K.
10.2 Form of Deferred Directors Fee Agreement as assumed by The
ServiceMaster Company in the Reincorporating Merger is incorporated
by reference to Exhibit 10(c)(4) to the Annual Report on Form 10-K
for the year ended December 31, 1980 as filed by ServiceMaster
Limited Partnership (the "1980 10-K").
10.3 Incentive Reward Compensation Plan as assumed by The ServiceMaster
Company in the Reincorporating Merger is incorporated by reference
to Exhibit 10(c)(6) to the 1980 10-K.
10.4 ServiceMaster Profit Sharing, Savings and Retirement Plan as
assumed by The ServiceMaster Company in the Reincorporating Merger
amended and restated effective January 1, 1987 is incorporated by
reference to the exhibit so captioned to the Annual Report on Form
10-K for the year ended December 31, 1987 as filed by ServiceMaster
Limited Partnership (the "1987 10-K").
10.5 The Terminix International Company LP Profit Sharing Retirement
Plan (previously known as Cook International, Inc. Profit Sharing
Retirement Plan) effective January 1, 1984; Amendment No. One to
The Terminix International Company L.P. Profit Sharing Retirement
Plan effective January 1, 1986 and April 1, 1986; Amendment No.
Two, effective April 1, 1986; Amendment No. Three, effective
January 1, 1987 and January 1, 1988; The Terminix International
Company L.P. Profit Sharing Retirement Trust, all of which are
incorporated by reference to Exhibit 10.15 to the 1987 10-K.
10.6 ServiceMaster 10-Plus Plan as assumed by The ServiceMaster Company
in the Reincorporating Merger is incorporated by reference to
Exhibit 4.2 to the ServiceMaster Limited Partnership Registration
Statement on Form S-8 (No. 33-39148) filed with the SEC on February
26, 1991 (the "10-Plus Registration Statement").
10.7 Form of Option Agreement for the ServiceMaster 10-Plus Plan is
incorporated by reference to Exhibit 4.3 to the 10-Plus
Registration Statement.
10.8 Form of Directors Deferred Fees Plan (ServiceMaster Shares
Alternative) as assumed by The ServiceMaster Company in the
Reincorporating Merger is incorporated by reference to Exhibit
10.18 to the Annual Report on Form 10-K for the year ended December
31, 1990 (the "1990 10-K").
10.9 Form of Directors Deferred Fees Agreement (ServiceMaster Shares
Alternative) as assumed by The ServiceMaster Company in the
Reincorporating Merger is incorporated by reference to Exhibit
10.19 of the 1990 10-K.
10.10 Form of ServiceMaster Deferred Fees Plan Trust is incorporated by
reference to Exhibit 10.20 of the 1990 10-K.
10.11 ServiceMaster 10-Plus Plan as amended September 3, 1991 and as
assumed by The ServiceMaster Company in the Reincorporating Merger
is incorporated by reference to Exhibit 10.21 to the Annual Report
on Form 10-K for the year ended December 31, 1991 (the "1991
10-K").
10.12 Form of Option Agreement for the ServiceMaster 10-Plus Plan as
amended September 3, 1991 is incorporated by reference to Exhibit
10.22 to the 1991 10-K.
27
<PAGE>
Exhibit No. Description of Exhibit
- ---------- -------------------------------------------------------------------
10.13 ServiceMaster 1994 Non-Employee Director Share Option Plan as
assumed by The ServiceMaster Company in the Reincorporating Merger
is incorporated by reference to Exhibit to the ServiceMaster
Limited Partnership Registration Statement on Form S-8 filed with
the Securities and Exchange Commission on October 5, 1994 (the
"Directors Share Plan Registration Statement").
10.14 Form of Option Agreement for the ServiceMaster 1994 Non-Employee
Director Share Option Plan is incorporated by reference to Exhibit
4.3 to the Directors Share Plan Registration Statement.
10.15 ServiceMaster 1997 Share Option Plan as assumed by The
ServiceMaster Company in the Reincorporating Merger is incorporated
by reference to Exhibit 10.28 to the Annual Report on Form 10-K for
the year ended December 31,1996 as filed by ServiceMaster Limited
Partnership (the "1996 10-K").
10.16 Form of Option Agreement for the ServiceMaster 1997 Share Option
Plan is incorporated by reference to Exhibit 10.29 to the 1996
10-K.
10.17 ServiceMaster 1998 Equity Incentive Plan as adopted on December 17,
1997 and approved by the stockholders on May 1, 1998 is
incorporated by reference to Exhibit 10.15 to the 1997 10-K.
10.18 Form of Option Agreement for the ServiceMaster 1998 Equity
Incentive Plan (Non-Qualifying Stock Options) as incorporated by
reference to Exhibit 10.20 to the 1997 10-K.
10.19 Form of Option Agreement for the ServiceMaster 1998 Equity
Incentive Plan (Incentive Stock Options) as incorporated by
reference to Exhibit 10.21 to the 1997 10-K.
10.20 ServiceMaster 1998 Non-Employee Directors Discounted Stock Option
Plan as incorporated by reference to Exhibit 10.21 to the 1997
10-K.
10.21 ServiceMaster 1998 Long-Term Performance Award Plan as incorporated
by reference to Exhibit 10.22 to the 1997 10-K.
11 Exhibit regarding detail of income per share computation for each
of the three years ended December 31, 1998, 1997 and 1996 is
incorporated by reference to the footnote on page 44 of the 1998
Annual Report (defined in Exhibit B).
13 The ServiceMaster Annual Report to Shareholders for the year ended
December 31, 1998 (the "1998 Annual Report"). The parts of the 1998
Annual Report which are expressly incorporated into this report by
reference shall be deemed filed with this report. All other parts
of the 1998 Annual Report are furnished for the information of the
Commission and are not filed with this report.
21 Subsidiaries of Registrant
23 Consent of Arthur Andersen LLP
27 Financial Data Schedule
99.1 Amended and Restated Agreement of Limited Partnership for
ServiceMaster Consumer Services Limited Partnership dated November
8, 1990 is incorporated by reference to Exhibit 4.4 to the Current
Report on Form 8-K as filed by ServiceMaster Limited Partnership on
November 21, 1990.
99.2 Amended and Restated Agreement of Limited Partnership of
ServiceMaster Management Services Limited Partnership dated
December 1991 is incorporated by reference to Exhibit 28.10 to the
1991 10-K.
28
<PAGE>
Exhibit No. Description of Exhibit
- ---------- -------------------------------------------------------------------
99.3 Amended and Restated Agreement of Limited Partnership of
ServiceMaster Consumer Services Limited Partnership effective June
30, 1992 is incorporated by reference to Exhibit 28.12 to the
Annual Report on Form 10-K for the year ended December 31, 1992 as
filed by ServiceMaster Limited Partnership.
99.4 News release dated March 23, 1999 regarding the announcement of a
cash tender offer by the Registrant for all of the outstanding
shares of American Residential Services, Inc.
29
<PAGE>
Graphics Appendix
This appendix describes the graphics which will be filed separately
with the Securities and Exchange Commission as an electronic filing.
A Performance Graph is set forth on page 18 of the Company's proxy
statement for the Annual Meeting of the Stockholders to be held on April 30,
1999 which consists of a line graph which compares the yearly percentage change
in ServiceMaster's cumulative total shareholder return on its shares (computed
in accordance with the Item 402(l) of Reg. S-K) with the cumulative return on
the stocks of the companies within the S&P 500 Index and with the Dow Jones
Consumer Services Index over the five year period from January 1, 1994 to
December 31, 1998. The chart shows that ServiceMaster outperformed the S&P 500
Index in 1997 and 1998 and the Dow Jones Consumer Services Index in 1996 and
1997.
EXHIBIT 13
Management Discussion and Analysis of Financial Condition
and Results of Operations
(All share and per share data reflect the three-for-two share splits in August
1998, June 1997 and June 1996)
The terms "Company" and "ServiceMaster" refer to the operations of ServiceMaster
Limited Partnership and The ServiceMaster Company, its successor corporation.
1998 Compared with 1997
Revenues increased 19 percent to $4.7 billion through a combination of
acquisitions and solid growth from base operations. Approximately eight percent
of the revenue increase resulted from internal growth and small tuck-in
acquisitions in existing service lines, primarily lawn care and pest control,
with another six percent coming from platform acquisitions primarily in plumbing
and landscaping. The remaining five percent of the revenue growth represented
the acquisition of a professional employer organization in August 1997. The
professional employer organization has a significant impact on revenues and
margins, because the entire employee payroll of the customer is recognized both
as revenue and operating cost. As a result, the margins are low in this business
and reduce the Company's consolidated operating margins. Operating income
increased 15 percent to $396 million, while margins decreased to 8.4 percent of
revenue from 8.7 percent in 1997. Operating margins excluding the professional
employer organization improved 10 basis points over last year, reflecting the
continued strong growth of higher margin businesses, productivity improvements
and the successful integration of acquisitions at Consumer Services.
Pro forma information is presented for 1997 and 1996 to compare the continuing
results of operations as if the Company had been a taxable corporation in all
years. On this basis, net income grew 16 percent to $190 million. Basic and
diluted earnings per share increased 16 percent to $.66 and $.64, respectively.
The Consumer Services business unit achieved a 23 percent increase in revenue,
reflecting strong growth from both internal sources and acquisitions, including
the Rescue Rooter plumbing business and commercial landscaping companies. Net
income increased 27 percent, reflecting solid double-digit profit increases at
all of the companies. TruGreen-ChemLawn reported strong growth in revenues and
profits, reflecting base business growth and the entry into the commercial
landscape market through the acquisition of several companies. The successful
integration of acquisitions and other cost initiatives helped offset the effects
of severe summer weather conditions in many regions of the country. Terminix
achieved strong double-digit growth in revenues and profits, resulting from
excellent increases in termite completions and renewals and improved margins.
Higher customer retention levels and efficiency improvements contributed to the
increased margins. American Home Shield continued to experience exceptional
momentum with very strong double-digit increases in warranty contracts written
due to excellent growth in real estate and direct-to-consumer sales, as well as
strong renewal growth. This volume increase was partially affected by increased
service orders relating to expensive air conditioning repairs due to the extreme
heat experienced in many parts of the country. The franchise operations,
ServiceMaster Residential/Commercial and Merry Maids, achieved solid revenue
increases and higher margins, reflecting improvements in company-owned
operations and cost controls. The Rescue Rooter operations reported very good
results, reflecting improved marketing efforts, productivity improvements and
effective cost controls.
The traditional Management Services business, achieved a seven percent revenue
increase as a result of acquisitions and modest growth in the base business.
Profits increased significantly due to a $38 million pretax gain relating to the
formation of a strategic venture between ServiceMaster and Texas Utilities
Company. The new venture has acquired all the assets of ServiceMaster Energy
Management and will be owned 85 percent by Texas Utilities and 15 percent by
ServiceMaster. This new business combination will provide the Company with an
expanded ability to provide comprehensive energy solutions to customers.
Excluding this gain, profits were one percent below the prior year level as
increases
25
<PAGE>
in the Business & Industry and Education markets were offset by reduced
profitability in the Healthcare market. The traditional Healthcare market
reported a slight decline in revenues with lower profits than last year as a
result of continued industry pressures and additional investments in the
business compared with the prior year. The Company achieved significant revenue
and profit increases in the Business & Industry market, reflecting the
successful integration of acquisitions and increased sales in the base business.
The Education market reported strong growth in profits due to better customer
retention and the favorable effect of eliminating costs incurred last year
related to unwinding a large contract.
Other operations include primarily Diversified Health Services, which provides
services and products to the long term care market and Employer Services, the
professional employer organization. Revenues increased significantly as the 1998
results include a full year of the professional employer organization that was
acquired in August 1997. Operating income was down significantly from the prior
year, reflecting a large charge related primarily to the home health care
operations and operational losses. In late 1998, the Company completed a
strategic review of its home health care business and concluded that, without
significant investment to make home health care one of its core businesses, it
could not profitably provide high quality service in the future and continue to
satisfy all the changes and the requirements of new governmental reimbursement
programs. The Company plans to sell its direct operations of home health care
agencies and certain support operations. In addition, the Company is
discontinuing its outsourced management contracts of home health care agencies,
but will continue to provide consulting services to hospitals and other
providers of home health care. The Company incurred and established reserves of
approximately $32 million (pre-tax) relating to home health care, which included
a write-down for the impairment of assets and costs relating to exiting customer
arrangements. An additional $6 million pretax charge was recorded that was
specifically designated for other Diversified Health Services reserve needs. In
addition to these charges and losses in home health care, the decrease in
operating income reflects margin reductions in other Diversified Health Services
operations and the non-recurrence of transaction gains recognized in the prior
year.
On a consolidated basis, cost of services rendered and products sold increased
20 percent and increased as a percentage of revenue to 77.9 percent in 1998 from
77.2 percent in 1997. The addition of Employer Services had an impact on the
overall increase in costs as this business line carries a lower gross margin
level than the rest of the enterprise. Excluding Employer Services, cost of
services rendered and products sold decreased 10 basis points as a percentage of
revenue. This reflects the changing mix of the enterprise as Consumer Services
increased in size relative to the overall business of the Company. The Consumer
Services unit operates at a higher gross profit margin than the Management
Services business unit, but incurs relatively higher levels of selling and
administrative costs.
Consolidated selling and administrative expenses increased 16 percent over the
prior year, and as a percentage of revenue, decreased from 14.1 percent in 1997
to 13.7 percent in 1998.
Interest expense increased over the prior year, reflecting increased debt levels
in the first quarter associated with the 1997 repurchase of shares previously
held by Waste Management, Inc. The impact of larger seasonal borrowings,
primarily due to acquisitions and higher interest rates associated with the
refinancing of floating-rate bank debt with longer term, fixed-rate debt, was
partially offset by proceeds from the May 1998 equity offering.
Interest and investment income increased over the prior year levels due to
growth in the investment portfolio at American Home Shield, as well as gains
realized on sales of marketable securities.
Minority interest expense decreased as the General Partners' interests in the
parent entities were eliminated upon reincorporation.
1997 Compared with 1996
Revenues increased 15 percent to $4 billion, reflecting the effect of
acquisitions and growth from base operations. Operating income increased 17
percent to $344 million, while margins increased to 8.7 percent of revenue from
8.5 percent in 1996, reflecting the continued strong growth of higher margin
businesses, productivity improvements, and the integration of the acquired
Barefoot operations. These improvements were offset in part by the impact of the
acquired professional employer organization, which has significantly lower
margins than the rest of the Company's businesses. Operating income margins
would have improved 50 basis points excluding this acquisition.
26
<PAGE>
Pro forma information is presented which compares the continuing results of
operations as if the Company had been a taxable corporation in 1997 and 1996. On
this basis, net income grew nine percent to $163 million. Basic earnings per
share increased 21 percent to $.57 and diluted earnings per share were up 20
percent to $.55. Earnings per share grew at a higher rate than net income due to
the transaction with Waste Management, Inc. (WMX) in which the Company
repurchased WMX's 19 percent ownership interest in ServiceMaster (61.1 million
shares) for $626 million on April 1, 1997. This transaction increased interest
expense significantly and reduced shares outstanding.
Historical partnership net income, which did not include a provision for
corporate taxes, was $329 million, including a one-time tax gain of $65 million
realized upon reincorporation. The resulting historical basic and diluted
earnings per share were $1.15 and $1.10, respectively. This gain represented the
difference between the tax and book basis of the enterprise's assets and
liabilities, which was recognized as a result of the reincorporation.
Partnership net income excluding this gain increased eight percent to $264
million. On this basis, basic and diluted earnings per share were $.92 and $.89,
reflecting increases of 19 percent.
The Consumer Services business unit achieved a 14 percent increase in revenue
and a 21 percent increase in pro forma net income, reflecting the successful
integration of the Barefoot business (which was acquired in February 1997),
combined with good growth from base operations and other acquisitions. The
TruGreen-ChemLawn operations achieved strong double-digit growth in revenues and
profits, reflecting the Barefoot acquisition, increases in the customer base,
improved branch efficiencies, strong sales of ancillary products and favorable
weather conditions throughout most of the year. Terminix achieved solid growth
in revenue and profits for the year. Strong growth in renewals and productivity
improvements offset the effects of adverse weather conditions on termite
operations and increased termite remediation costs. American Home Shield
achieved very strong double-digit increases in both revenues and profits, with
excellent increases in contract renewals and direct-to-consumer sales. This is
consistent with an overall strategy to expand channels of distribution in this
business, which have historically been concentrated in the residential resale
market. ServiceMaster Residential/Commercial and Merry Maids reported modest
profit growth and solid revenue growth for the year, reflecting the conversion
of certain franchises and distributors to company-owned operations.
The traditional Management Services business segment achieved five percent
growth in revenue, reflecting the Premier Manufacturing Support Services
(Premier) acquisition completed in 1996 and, to a lesser degree, growth in the
base business. The base business growth resulted from improvements in Healthcare
and Business & Industry, offset by reductions in Education. Pro forma net income
was up three percent compared with the prior year. Despite continuing
competitive pressures and industry consolidation in the acute care market, the
Company achieved solid revenue increases and improved customer retention in the
Healthcare market. Reported profits in this market were comparable to the prior
year. Within the acute care sector, good growth was realized from sales of the
IntegratedService product, which provides comprehensive service solutions to
clients. The Company achieved significant revenue and profit increases in the
Business & Industry market, largely as a result of the successful integration of
the Premier acquisition and modest growth in the base business. In the Education
market, revenues and profits declined due to the discontinuation of certain
large accounts and margin pressures in certain accounts.
Revenues in other operations increased significantly, reflecting the August 1997
acquisition of Certified Systems, Inc. (CSI) which added approximately $155
million in revenue and minimal profits after acquisition-related costs. CSI is a
professional employer organization that provides clients with administrative
processing of payroll, workers' compensation insurance, health insurance,
unemployment insurance, and other employee benefit plans. Other operations
primarily include CSI and Diversified Health Services. Pro forma net income
reflects the additional interest expense incurred at the parent level relating
to the WMX share repurchase.
On a consolidated basis, cost of services rendered and products sold increased
14 percent and decreased slightly as a percentage of revenue to 77.2 percent in
1997 from 77.5 percent in 1996. This reflects the changing mix of the enterprise
as Consumer Services increased in size relative to the overall business of the
Company. The Consumer Services unit operates at a higher gross profit margin
than the Management Services business unit, but incurs relatively higher levels
of selling and administrative costs. However, much of this reduction in cost of
goods sold was offset by the acquisition of CSI, which operates at significantly
lower gross margins than the Company's other businesses. Without CSI, cost of
goods sold would have been 76.5 percent of revenue in 1997.
27
<PAGE>
Consolidated selling and administrative expenses increased 16 percent over the
prior year, and as a percentage of revenue, increased from 13.9 percent in 1996
to 14.1 percent in 1997, reflecting the changing business mix of the Company
described above.
Interest expense increased over the prior year primarily due to increased debt
levels associated with the repurchase of shares previously held by WMX and
acquisitions.
Interest and investment income increased over the prior
year due to growth in, and strong returns from, the investment portfolio at
American Home Shield, as well as a gain associated with the sale of an interest
in an international joint venture.
Minority interest expense decreased due to the repurchase of minority ownership
interests in subsidiary entities.
1998 Financial Position
The Company reported a nine percent increase in cash flows from operations to
$406 million and a two percent increase in free operating cash flows (defined as
cash flows from operations less net property additions) to $337 million. Cash
flows grew at a lower rate than net income, primarily due to the acceleration of
customer prepayments at TruGreen-ChemLawn into 1997, the full year funding of
preseason investments for Barefoot, and the timing of interest payments. Free
operating cash flow represents the cash available for enhancing shareholder
value (e.g., acquisitions, dividends and share repurchases) after financing the
growth of existing business units. The Company's free operating cash flows have
consistently exceeded recurring net income as a result of relatively low working
capital and fixed asset requirements, combined with the effects of noncash
charges for depreciation and amortization.
In the first year following reincorporation, the Company was able to defer the
payment of its federal taxes until March 1999. At that time the Company will pay
its 1998 obligation and will begin making estimated payments for its 1999
liability. Reported cash from operations reflects the deferral of this 1998 tax
payment which is approximately $83 million. Since the Company is able to defer
its 1998 tax payment, the cash flow is fairly comparable to last year when the
Company was in partnership form and paid no federal taxes. As a result of the
reincorporation, the Company also recognized a step-up in the tax basis of its
assets, which is being amortized against taxable income. The step-up resulted in
a reduction of the Company's cash tax payments in excess of $25 million per
annum for the current year and for the ensuing 14 years.
Cash and marketable securities totaled approximately $120 million at December
31, 1998. Debt levels decreased, reflecting the use of proceeds from the May
1998 equity offering to pay down debt, as well as strong cash from operations
partially offset by acquisitions, capital spending and distributions. The
Company is a party to a number of long-term debt agreements which require it to
comply with certain financial covenants, including limitations on indebtedness,
restricted payments, fixed charge coverage ratios and net worth. The Company is
in compliance with the covenants related to these debt agreements. In addition,
the Company had $700 million of unused commitment on its revolving bank facility
at December 31, 1998. Management believes that funds generated from operations
and other existing financial resources will continue to be adequate to satisfy
the ongoing operating needs of the Company.
During the year, the Company filed a Form S-3 registration statement and 21.2
million Company shares were sold at $19.17 per share. This included
approximately 11.4 million of newly-issued shares from the Company and 9.8
million shares sold by existing shareholders. The net proceeds to the Company
after the underwriting discount and offering expenses were approximately $209
million and were used to reduce outstanding debt under existing bank credit
facilities, thereby reducing interest expense and increasing the Company's
financial flexibility.
ServiceMaster also filed a Form S-1 shelf registration statement to issue up to
5.3 million shares of common stock in connection with future unidentified
acquisitions. As of December 31, 1998, approximately 3.5 million shares had been
issued with 1.8 million shares remaining available for future acquisitions.
28
<PAGE>
In February 1998, the Company also completed a $300 million senior unsecured
dual-tranche debt offering. The offering consisted of $150 million at 7.10
percent due March 1, 2018 and $150 million at 7.25 percent due March 1, 2038.
The net proceeds were used to refinance borrowings under bank credit facilities,
reducing the Company's exposure to short-term interest rate fluctuations.
The Company completed a number of acquisitions in 1998, which included primarily
lawn care, commercial landscape and pest control companies. Three of the largest
transactions were Rescue Industries, Inc., National Britannia and Ruppert
Landscape Company. Rescue Industries, Inc., which operates under the trade name
Rescue Rooter, was acquired in January 1998 and is one of the largest companies
in America specializing in plumbing and drain cleaning services. The October
1998 acquisition of National Britannia, the third largest pest control company
in the United Kingdom, further strengthens the company's ability to grow its
Terminix business in Europe and continues the strategy of the enterprise to
expand internationally. Ruppert Landscape Company was purchased in August 1998
and represents one of the Mid-Atlantic's largest commercial landscape companies.
In March 1999, the Company is expected to complete the acquisition of LandCare
USA, Inc. (LandCare) in a stock-for-stock merger. The acquisition of LandCare,
one of the nation's leading commercial landscape companies, will significantly
broaden the Company's landscape initiative and will provide TruGreen-ChemLawn
the opportunity to fully integrate its traditional fertilizer and weed control
services with landscape maintenance and installation.
Accounts receivable increased, reflecting general business growth and
acquisitions. Property and equipment increased primarily due to investments in
computer systems and technology upgrades throughout the enterprise as well as
general business growth. The Company does not have any material capital
commitments at this time. The increase in intangible assets reflects the above
mentioned acquisitions as well as various commercial landscape companies and
other smaller companies.
Accounts payable and other accrued liabilities increased due to general business
growth and the effects of acquisitions. As previously discussed, there is a
significant current liability relating to the income taxes payable on 1998
earnings. Deferred revenues increased primarily as a result of strong growth in
warranty contracts written at American Home Shield.
Total shareholders' equity increased to $956 million in 1998 from $524 million
at December 31, 1997, reflecting the May 1998 equity offering, strong growth in
earnings and shares issued for acquisitions, partially offset by shareholder
distributions. The Company continues to repurchase shares in the open market or
in privately negotiated transactions pursuant to the authorization previously
granted by the Board of Directors.
At year end, the aggregate market value of the Company's outstanding shares
exceeded $6.5 billion. ServiceMaster shareholders have experienced compounded
total returns exceeding 20 percent annually over the last three-, 10- and
20-year periods.
Cash distributions paid directly to shareholders totaled $96 million, or $.33
per share, a six percent per share increase over the prior year. The total
amount of cash distributions, including payments made to the shareholders' trust
described below, decreased 52 percent from the prior year, reflecting a
substantial reduction in payments to the shareholders' trust, partially offset
by the six percent increase in direct shareholder distributions.
The shareholders' trust was established for the benefit of Partnership
shareholders. Each year, the trust was allocated a portion of the Partnership's
taxable income and received cash payments in amounts sufficient to pay its
income tax obligations resulting from this income allocation. Cash distributions
made to the trust in 1997 totaled $65 million. The trust was terminated upon
reincorporation and had no residual resources. In 1998, it received
approximately $20 million in tax refunds relating to its final 1997 tax return.
Several years ago, the Company adopted a pattern of annual increases in
dividends to shareholders for the remaining term of the Partnership. In
corporate form, the Company has increased, and expects to continue to increase,
its dividend payment each year. The timing and amount of future dividend
increases will be at the discretion of the Board of Directors and will depend
on, among other things, the Company's corporate finance objectives and cash
requirements. The Company has announced its intended cash dividends for 1999 of
$.36 per share.
29
<PAGE>
Earnings before interest, taxes, depreciation and amortization (EBITDA) is a
commonly-used supplemental measurement of a company's ability to generate cash
flow and is used by many of the Company's investors and lenders. Management
believes that EBITDA is another measure which demonstrates the exceptional
cash-generating abilities of the Company's businesses. EBITDA in 1998 of $516
million has grown 16 percent, comparable to the growth in net income. EBITDA
should not be considered an alternative to net income in measuring the Company's
performance, or be used as an exclusive measure of cash flow because it does not
consider the impact of working capital growth, capital expenditures, debt
principal reductions or other sources and uses of cash which are disclosed in
the Consolidated Statements of Cash Flows.
Year 2000 Status
Year 2000 Compliance. Certain computer programs use two digits rather than four
to define the applicable year, and consequently may not function properly beyond
the year 1999 unless they are remediated. In addition, some computer programs
are unable to recognize the year 2000 as a leap year. These problems may also
exist in chips embedded in various types of equipment. The Company has long been
aware of this Year 2000 (Y2K) problem. The Company is dealing with the Y2K
problem in part through system upgrades, which were planned to occur in the
normal course of business. In other cases, the Company has put programs into
place which the Company believes will result in the completion of necessary
remediation efforts prior to the year 2000.
State of Readiness. The Company has initiated a program (the "Y2K program") to
address Y2K issues as they affect the Company's information technology (IT)
systems, electronic data interfaces and its non-IT hardware. The Y2K program was
set up to use the following steps as appropriate: inventory, assessment,
planning, renovation, testing and implementation. In addition, the program calls
for inquiries of the Company's major suppliers of goods and services to
determine their Y2K status and a review of the Company's relationships with its
customers to determine if the Company has any responsibility for the status of
the customers' IT and/or non-IT systems and hardware.
In 1998, the Company began to monitor its progress on the Y2K program on a
consolidated basis and completed an inventory which covered both IT and non-IT
items for all operating companies and administrative units within the
ServiceMaster enterprise. All items in the inventory were placed in one of four
categories: mission critical, critical, important and ordinary within the
context of the operating company or administrative unit involved. (A "mission
critical" or "critical" designation for an item within an operating company or
administrative unit does not necessarily hold the same level of criticality from
the perspective of the entire ServiceMaster enterprise).
Remediation plans have been developed for the mission critical and critical
matters, with milestones established for each plan which enable management to
measure the progress made in respect of a plan against the work schedule
established for that plan. Although these plans encompass many separately
identifiable items, from a ServiceMaster enterprise standpoint, there are nine
projects (the "Key Projects") which management has identified as either mission
critical or critical and which will require a measurable amount of attention to
remediate. Although all of the Key Projects are scheduled for completion before
the end of the year 1999, most of the Key Projects are scheduled for completion
by June 30, 1999. As of February 28, 1999, work on each of the Key Projects was
on schedule and the Company believes that all Key Projects will be completed in
accordance with their scheduled completion dates.
The Company has utilized the services of an outside consultant for the Y2K
program to help identify Y2K issues and to develop a system to closely monitor
remediation work. In early 1998, the Company established a Y2K committee in the
parent unit with responsibility for monitoring the Y2K program in each of the
Company's operating units and for providing status reports to the Board of
Directors.
Year 2000 Costs. Several of the Key Projects are upgrades of systems which the
Company would have undertaken irrespective of the Y2K problem. In some cases,
including a new accounting and financial reporting system for the parent company
and its Management Services subsidiary, work on these systems has been
accelerated in view of Y2K issues. Other upgrades or new systems were already
scheduled for completion prior to the year 2000, such as a new support system
for the Company's American Home Shield subsidiary and a new accounting and
billing system for the recently- developed commercial landscape business within
the Company's TruGreen-ChemLawn subsidiary. References to "Year 2000 costs" in
this report do not include the costs of projects for which no acceleration is
occurring due to Y2K issues.
30
<PAGE>
The Company's Year 2000 costs to date are not material to the Company's results
of operations or financial position and the Company does not expect its future
Year 2000 costs to be material to the Company's results of operations or
financial position. All Year 2000 costs (as well as the costs of installing the
system upgrades referred to above) have been, and are expected to continue to
be, funded with cash from operations.
Year 2000 Risks. The Company believes that its greatest Year 2000 compliance
risk, in terms of magnitude of risk, is that key third party suppliers of goods
or services may fail to complete their own remediation efforts in a timely
manner and thereby provoke an interruption in the ability of one or more of the
operating segments of the Company to provide uninterrupted services to their
customers. Utility services (electrical, water and gas), telephone service,
banking services and, to a much lesser degree, the delivery of chemical products
are the critical items in this regard. Based on the Company's inquiries to its
providers of goods and services and on the basis of the Company's general
knowledge of the state of readiness of the utility companies and banks with
which it does business, the Company does not expect to suffer any material
interruption in the services on which the Company depends.
The Company has reviewed its agreements with its customers, including
particularly the customers of its Management Services units for whom such units
provide facility management services. The Company is satisfied that it is not
responsible, contractually or otherwise, for the Y2K readiness of the customers'
IT and non-IT systems and hardware, and the Company is in the process of
notifying all of its customers to this effect where, in the Company's judgment,
the nature of the customers' business or facility warranted such notices.
Where the Company uses its own software in the course of providing management
services, the Company is responsible to make such software Y2K compliant. The
Company is confident that such software is already, or soon will be, Y2K
compliant. For those units of the Company which sell franchises and which
provide software to the franchisees, such software is already, or soon will be,
fully Y2K compliant or, alternatively, provision has been made for making
available to franchisees software from third-party developers from whom
appropriate Y2K compliance assurances have been or will be received.
Contingency Plans. At this time, the Company fully expects all of its internal
key IT and non-IT systems to be Y2K compliant well in advance of the end of the
year 1999. If it appears that timely delivery of any Key Projects becomes
questionable, the Company will immediately develop appropriate contingency
plans.
The Company presently expects that its significant providers of goods and
services are or will be Y2K compliant by the end of the year 1999. The Company
will continue to make inquiries of its key suppliers for the purpose of testing
this expectation. Insofar as the Company is exposed to risks originating in Y2K
problems at key suppliers, the Company will utilize short-term solutions, but no
practical long-term contingency plans for these external Y2K problems are
possible.
Although the Company believes that critical remediation efforts will be
completed prior to the Year 2000, the untimely completion of these efforts
could, in certain circumstances, have a material adverse effect on the
operations of the Company.
IN ACCORDANCE WITH THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995, THE
COMPANY NOTES THAT STATEMENTS THAT LOOK FORWARD IN TIME, WHICH INCLUDE
EVERYTHING OTHER THAN HISTORICAL INFORMATION, INVOLVE RISKS AND UNCERTAINTIES
THAT MAY AFFECT THE COMPANY'S ACTUAL RESULTS OF OPERATIONS. FACTORS WHICH COULD
CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY INCLUDE THE FOLLOWING (AMONG OTHERS):
WEATHER CONDITIONS ADVERSE TO CERTAIN OF THE COMPANY'S CONSUMER SERVICES
BUSINESSES, LABOR SHORTAGES, THE ENTRY OF ADDITIONAL COMPETITORS IN ANY OF THE
MARKETS SERVED BY THE COMPANY, CONSOLIDATION OF HOSPITALS IN THE HEALTHCARE
MARKET, THE CONDITION OF THE U.S. ECONOMY, THE INABILITY OF KEY SUPPLIERS TO
ACHIEVE TIMELY Y2K COMPLIANCE IN THEIR DELIVERY SYSTEMS OR THE INABILITY OF THE
COMPANY TO MAKE ITS OWN SYSTEMS Y2K COMPLIANT, AND OTHER FACTORS LISTED FROM
TIME TO TIME IN THE COMPANY'S FILINGS WITH THE SECURITIES AND EXCHANGE
COMMISSION.
31
<PAGE>
Eleven Year Financial Summary
(In thousands, except per share and percentage data)
All share and per share data reflect the three-for-two share splits in
1998, 1997, 1996, 1993 and 1992.
1998 1997 1996
Operating Results:
Operating revenue . . . . $4,724,119 $3,961,502 $3,458,328
Cost of services rendered
and products sold . . 3,679,612 3,058,160 2,681,008
Selling and administrative
expenses . . . . . . 648,085 559,409 482,102
Operating income(2) . . . 396,422 343,933 295,218
Percentage of operating
revenue . . . . . . . 8.4% 8.7% 8.5%
Non-operating expense . . 77,644 69,654 42,821
Provision for income
taxes(1) . . . . . . 128,786 110,809 101,968
Net income (pro forma
prior to 1998)(1),(2) $189,992 $163,470 $150,429
Percentage of operating
revenue . . . . . . . 4.0% 4.1% 4.3%
Earnings per share (pro
forma prior to 1998):(1),(2)
Basic . . . . . . . . $0.66 $0.57 $0.47
Diluted . . . . . . . $0.64 $0.55 $0.46
Shares used to compute
basic net income
per share . . . . . . 289,315 285,944 317,381
Shares used to compute
diluted net income
per share . . . . . . 298,887 299,640 330,429
Cash distributions per
share . . . . . . . . $0.33 $0.31 $0.29
Share price range:
High price . . . . . . $25.50 $19.67 $11.83
Low price . . . . . . . $16.00 $10.92 $8.61
Financial Position (at year end):
Current assets . . . . . $670,202 $594,084 $499,334
Current liabilities . . 753,697 558,177 425,552
Working capital . . . . (83,495) 35,907 73,782
Current ratio . . . . . .9-1 1.1-1 1.2-1
Total assets . . . . . . $2,914,851 $2,475,224 $1,846,841
Non-current liabilities. 1,204,668 1,392,609 607,614
Minority interest/
Deferred gain . . . --- --- 16,908
Shareholders' equity . . 956,486 524,438 796,767
Percentage return on
weighted-average
shareholders' equity 25% 26% 19%
Shares outstanding, net
of treasury shares . 298,030 279,944 320,396
(1) The Company converted from partnership to corporate form in a tax-free
exchange for shareholders on December 26, 1997. Prior to the conversion, the
Partnership was not subject to federal income taxes as its taxable income was
allocated to the Company's shareholders. As a result of the conversion, the
Company is a taxable entity and is responsible for such payments. The results
shown above for the years ended December 31, 1997 and before have been restated
to adjust the actual historical partnership information to a pro forma basis
that assumes that reincorporation had occurred as of the beginning of that year.
The pro forma provision for income taxes has been calculated assuming that the
Corporation's effective tax rate had been approximately 40 percent of pretax
earnings. Actual historical net income per share as a partnership for the four
prior periods was as follows:
1997 (a) 1996 1995 1994
Net Income $264,076 $245,140 $172,019 $139,883
EPS: Basic $.92 $.77 $.66 $.55
Diluted $.89 $.75 $.64 $.53
(a) Including the one-time tax gain related to reincorporation, net income was
$329,076 and basic and diluted earnings per share were $1.15 and $1.10
respectively.
32
<PAGE>
<TABLE>
<CAPTION>
1995 1994 1993 1992 1991 1990 1989 1988
<S> <C> <C> <C> <C> <C> <C> <C>
$3,202,504 $2,985,207 $2,758,859 $2,488,854 $2,109,941 $1,825,750 $1,609,267 $1,531,276
2,499,700 2,356,435 2,192,684 2,021,010 1,762,700 1,545,527 1,387,448 1,327,128
450,937 414,746 393,131 326,477 225,814 177,941 129,035 118,275
251,867 214,026 173,044 141,367 121,427 102,282 92,784 85,873
7.9% 7.2% 6.3% 5.7% 5.8% 5.6% 5.8% 5.6%
74,260 71,388 55,151 45,740 39,860 30,397 24,016 21,247
71,753 57,626 47,629 38,633 32,953 29,042 27,782 26,109
$105,854 $85,012 $70,264 $56,994 $48,614 $42,843 $40,986 $38,517
3.3% 2.8% 2.5% 2.3% 2.3% 2.3% 2.5% 2.5%
$0.41 $0.33 $0.28 $0.23 $0.20 $0.18 $0.17 $0.16
$0.39 $0.32 $0.27 $0.22 $0.20 $0.18 $0.17 $0.16
260,382 255,650 253,919 249,828 240,276 239,730 245,058 240,290
273,203 266,892 266,231 262,941 252,579 243,038 249,219 245,658
$0.28 $0.27 $0.26 $0.26 $0.25 $0.24 $0.23 $0.22
$9.00 $8.41 $9.19 $5.90 $5.13 $3.13 $3.19 $3.71
$6.37 $6.37 $5.22 $4.35 $2.89 $2.60 $2.78 $2.93
$393,239 $331,045 $291,325 $257,542 $217,517 $237,262 $219,661 $203,925
372,930 304,395 244,552 206,755 157,458 158,046 135,375 76,908
20,309 26,650 46,773 50,787 60,059 79,216 84,286 127,017
1.1-1 1.1-1 1.2-1 1.2-1 1.4-1 1.5-1 1.6-1 2.7-1
$1,649,890 $1,230,839 $1,122,461 $1,005,531 $843,660 $796,935 $593,693 $485,492
517,603 483,906 471,177 511,211 376,638 372,052 410,056 346,970
12,697 135,272 117,513 77,906 187,583 170,831 9,174 10,186
746,660 307,266 289,219 209,659 121,981 96,006 39,088 51,428
24% 28% 28% 33% 45% 80% 84% 81%
321,341 256,419 257,901 255,386 243,527 242,939 230,396 236,966
</TABLE>
(2) In the above presentation, the operating results in the years from 1990
through 1993 have been stated to exclude gains on issuance of subsidiary shares,
restructuring and unusual charges and the change in accounting for
postretirement benefits. The results, on a basis which includes these items, are
as follows:
1993 1992 1991 1990
Operating income $173,044 $62,432 $121,427 $95,782
Pro forma corporate net income $88,263 $73,486 $52,095 $50,889
EPS: Basic $0.35 $0.29 $0.22 $0.21
Diluted $0.34 $0.28 $0.21 $0.21
33
<PAGE>
Notes to the Consolidated Financial Statements
Summary of Significant Accounting Policies
BASIS OF CONSOLIDATION: The consolidated financial statements include the
accounts of ServiceMaster and its majority-owned subsidiary partnerships and
corporations, collectively referred to as the Company. Intercompany transactions
and balances have been eliminated in consolidation. Investments in
unconsolidated subsidiaries representing ownership of at least 20 percent, but
less than 50 percent, are accounted for under the equity method. Certain
immaterial 1997 and 1996 amounts have been reclassified to conform with the 1998
presentation. The preparation of the consolidated financial statements requires
management to make certain estimates and assumptions required under generally
accepted accounting principles which may differ from the actual results.
REVENUES: Revenues from lawn care, termite, pest control, and plumbing services
are recognized as the services are provided. Revenues from franchised services
(which in aggregate represent less than 10 percent of consolidated totals)
consist of initial franchise fees received from the sales of licenses, sales of
products to franchisees, and continuing monthly fees based upon franchise
revenue.
Home warranty contract fees are recognized as revenues ratably over the life of
the contract while the contract costs are expensed as incurred.
Revenues from management services are recognized as services are rendered and
consist of contract fees which reflect the total price of such services. Where
the Company principally manages people who are employees of the facility, the
payroll costs for such employees are recognized by the Company and included in
"Cost of services rendered and products sold" in the Consolidated Statements of
Income. Receivables from the facilities are reflected in the Consolidated
Statements of Financial Position at the net amount due, after deducting from the
contract price all amounts chargeable to the Company. Revenues from the
professional employer organization (PEO) are recognized as the services are
rendered. Consistent with PEO industry practice, revenues include the gross
amount billed to clients, which includes payroll and other direct costs.
INVENTORY VALUATION: Inventories are valued at the lower of cost (first-in,
first-out basis) or market. Inventory costs include material, labor, and factory
overhead and related handling costs. Raw materials represent less than three
percent of the inventory value at December 31, 1998. The remaining inventory is
finished goods to be used on the customers' premises or sold to franchisees.
DEPRECIATION AND AMORTIZATION: Buildings and equipment used in the business are
stated at cost and depreciated over their estimated useful lives using the
straight-line method for financial reporting purposes. The estimated useful
lives for building and improvements range from 10 to 40 years, while the
estimated useful lives for equipment range from three to 10 years. Intangible
assets consist primarily of trade names ($177 million) and goodwill ($1.7
billion). These assets are amortized on a straight-line basis over their
estimated useful lives, which are predominately 40 years. Long-lived assets,
including fixed assets and intangible assets, are periodically reviewed to
determine recoverability by comparing their carrying values to the undiscounted
future cash flows expected to be realized from their use. No recovery problems,
other than that noted in the discontinued Home Health Care operations, have been
indicated by these comparisons. Based on the reviews, if the undiscounted future
cash flows are less than the carrying amount of the asset, an impairment loss is
recognized based on the asset's fair value, and the carrying amount of the asset
is reduced accordingly.
INCOME TAXES: The Company accounts for income taxes under the Statement of
Financial Accounting Standards No. 109, "Accounting for Income Taxes." This
statement utilizes an asset and liability approach that requires the recognition
of deferred tax assets and liabilities for the expected future tax consequences
of events that have been recognized in the Company's financial statements or tax
returns. Deferred income taxes are provided to reflect the differences between
the tax bases of assets and liabilities and their reported amounts in the
financial statements.
EARNINGS PER SHARE: Basic earnings per share is based on the weighted-average
number of common shares outstanding during the year. Shares potentially issuable
under options have been considered outstanding for purposes of the diluted
earnings per share calculation.
NEWLY-ISSUED ACCOUNTING STATEMENTS AND POSITIONS: In 1998, Statement of Position
No. 98-1, "Accounting for the Costs of Computer Software Developed or Obtained
for Internal Use," and Statement of Position No. 98-5, "Reporting on the Costs
of Start Up and Preoperating Activities," were issued. The Company intends to
adopt these policies beginning in 1999 as required by the Statements. The
Company does not expect the adoption of these Statements to have a material
impact on the financial statements. Also in 1998, the Financial Accounting
Standards Board issued Statement of Financial Accounting Standards No. 133,
"Accounting for Derivative Instruments and Hedging Activities." The Company
intends to adopt this Statement in January 2000 as required by the Statement.
Adoption of this Statement is not expected to have a material impact on the
Company's financial statements.
34
<PAGE>
Report of Independent Public Accountants
TO THE SHAREHOLDERS OF
THE SERVICEMASTER COMPANY
We have audited the accompanying consolidated statements of financial position
of THE SERVICEMASTER COMPANY (organized under the laws of the State of Delaware,
formerly ServiceMaster Limited Partnership) AND SUBSIDIARIES, as of December 31,
1998 and 1997, and the related consolidated statements of income, shareholders'
equity, and cash flows for each of the three years in the period ended December
31, 1998. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits in accordance with
generally accepted auditing standards. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of The ServiceMaster
Company and Subsidiaries as of December 31, 1998 and 1997, and the consolidated
results of operations and cash flows for each of the three years in the period
ended December 31, 1998, in conformity with generally accepted accounting
principles.
ARTHUR ANDERSEN LLP
Chicago, Illinois
January 25, 1999
35
<PAGE>
Statements of Income
Years Ended December 31,
(In thousands, except per share data)
1998 1997 1996
Operating Revenue . . . . . $4,724,119 $3,961,502 $3,458,328
Operating Costs and Expenses:
Cost of services rendered
and products sold . . . 3,679,612 3,058,160 2,681,008
Selling and administrative
expenses . . . . . . . 648,085 559,409 482,102
Total operating costs and
expenses . . . . . . . 4,327,697 3,617,569 3,163,110
Operating Income . . . . . 396,422 343,933 295,218
Non-operating Expense (Income):
Interest expense . . . . . 92,945 76,447 38,298
Interest and investment
income . . . . . . . . (15,301) (14,304) (10,183)
Minority interest . . . . . --- 7,511 14,706
Income before Income
Taxes . . . . . . . . . 318,778 274,279 252,397
Provision for income taxes
(pro forma corporate
form in 1997 and 1996)(1) . 128,786 110,809 101,968
Net Income (pro forma
corporate form in 1997
and 1996)(1) . . . . . $189,992 $163,470 $150,429
Per Share (pro forma
corporate form in 1997
and 1996):(1), (2)
Basic . . . . . . . . . . $0.66 $0.57 $0.47
Diluted . . . . . . . . . $0.64 $0.55 $0.46
(1) The Company converted from partnership to corporate form in a tax-free
exchange for shareholders on December 26, 1997. Prior to the conversion, the
Partnership was not subject to federal income taxes as its taxable income was
allocated to the Company's shareholders. As a result of the conversion, the
Company is a taxable entity and is responsible for such payments. The results
shown above for the years ended December 31, 1997 and 1996 have been restated
to adjust the actual historical partnership information to a pro forma basis
that assumes that reincorporation had occurred as of the beginning of the
year. Upon reincorporation, the Company recognized a significant increase in
the tax basis of certain assets and recorded a $65 million tax gain related
to reincorporation, which represented the difference between the tax basis
and book value of its assets. The Company's historical net income and net
income per share as a partnership were as follows:
<TABLE>
<CAPTION>
Before One-Time
--------------------
Tax Benefit Actual
-------------------- --------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Partnership Information as Recorded: 1997 1996 Earnings Per 1997 1996 1997 1996
Share:
----------- ----------- --------- --------- --------- ---------
Income before income $ 274,279 $252,397 Basic $.92 $.77 $1.15 $.77
taxes..........................
Partnership tax 10,203 7,257 Diluted $.89 $.75 $1.10 $.75
provision......................
Tax benefit relating to change in tax
status 65,000 -
=========== ===========
Net $ 329,076 $245,140
income.........................
=========== ===========
</TABLE>
(2) Basic earnings per share are calculated based on 289,315 shares in
1998, 285,944 shares in 1997, and 317,381 shares in 1996, while diluted
earnings per share are calculated based on 298,887 shares in 1998, 299,640
shares in 1997, and 330,429 shares in 1996. All share and per share data
reflect the three-for-two share splits in August 1998, June 1997 and June
1996.
See accompanying Summary of Significant Accounting Policies and Notes
to the Consolidated Financial Statements.
36
<PAGE>
Statements of Financial Position
As of December 31,
(In thousands)
1998 1997
Assets:
Current Assets:
Cash and cash equivalents . . . . . $ 66,400 $ 64,876
Marketable securities . . . . . . . 54,022 59,248
Receivables, less allowances of
$38,988 in 1998 and $32,22
in 1997 . . . . . . . . . . . . 372,375 299,138
Inventories . . . . . . . . . . . . 49,770 48,157
Prepaid expenses and other assets . 127,635 122,665
Total current assets . . . . . . . 670,202 594,084
Property, Plant, and Equipment, at Cost:
Land and buildings . . . . . . . . 53,068 46,632
Equipment . . . . . . . . . . . . . 388,141 316,021
441,209 362,653
Less: accumulated depreciation . . 229,049 204,383
Net property, plant, and equipment. 212,160 158,270
Other Assets:
Intangible assets, primarily trade names and goodwill, less accumulated
amortization of $272,254 in 1998 and $218,293
in 1997 . . . . . . . . . . . 1,884,002 1,563,309
Notes receivable, long-term
securities, and other assets . 148,487 159,561
Total Assets . . . . . . . . . . . $ 2,914,851 $2,475,224
Liabilities and Shareholders' Equity:
Current Liabilities:
Accounts payable . . . . . . . . . $ 110,523 $ 84,673
Accrued liabilities:
Payroll and related expenses . . 96,199 85,315
Insurance and related expenses . 56,748 55,909
Income taxes payable . . . . . . 84,165 8,423
Other . . . . . . . . . . . . . . 149,477 121,020
Deferred revenues . . . . . . . . . 204,969 181,298
Current portion of long-term debt . 51,616 21,539
Total current liabilities . . . . . 753,697 558,177
Long-Term Debt . . . . . . . . . . 1,076,167 1,247,845
Other Long-Term Obligations . . . . 128,501 144,764
Commitments and Contingencies (see Notes)
Shareholders' Equity:
Common stock $0.01 par value, authorized 1 billion shares; issued and
outstanding of 298,030 shares in 1998 and
279,944 shares in 1997 . . . . . 2,980 2,799
Additional paid-in capital . . . . . 788,124 513,148
Retained earnings . . . . . . . . . 179,840 65,000
Accumulated other comprehensive
income . . . . . . . . . . . . . 3,911 5,343
Restricted stock . . . . . . . . . . (3,383) (4,270)
Treasury stock . . . . . . . . . . . (14,986) (57,582)
Total shareholders' equity . . . . . 956,486 524,438
Total Liabilities and Shareholders'
Equity . . . . . . . . . . . . . $ 2,914,851 $2,475,224
See accompanying Summary of Significant Accounting Policies and Notes
to the Consolidated Financial Statements.
37
<PAGE>
Statements of Cash Flows
Years Ended December 31,
(In thousands)
1998 1997 1996
Cash and Cash Equivalents
at January 1 . . . . . . $64,876 $72,009 $23,113
Cash Flows from Operations:
Net Income . . . . . . . . . 189,992 329,076 245,140
Adjustments to reconcile net income to net cash provided from
operations:
Depreciation . . . . . . 50,644 45,392 41,658
Amortization . . . . . . 53,961 47,670 37,348
Tax asset recorded upon
reincorporation . . --- (65,000) ---
Change in working capital,
net of acquisitions:
Receivables . . . . . . (46,205) (6,853) (19,084)
Inventories and other
current assets . . (2,360) (14,210) (12,666)
Accounts payable . . . . 18,475 5,603 10,302
Deferred revenues . . . 22,033 30,012 17,602
Deferred 1998 tax
payment . . . . . 83,000 --- ---
Deferred income tax
expense . . . . . . 36,400 --- ---
Accrued liabilities . . (2,028) (82) 13,140
Other, net . . . . . . . . 1,627 281 7,946
Net Cash Provided from
Operations . . . . . . . 405,539 371,889 341,386
Cash Flows from Investing Activities:
Property additions . . . . (75,297) (46,232) (42,952)
Sale of equipment and
other assets . . . . . . 6,941 4,134 2,664
Business acquisitions, net
of cash acquired . . . . (222,452) (233,689) (58,473)
Proceeds from sale of
businesses . . . . . . . 45,893 --- 4,526
Net purchases of investment
securities . . . . . . . (11,011) (16,753) (20,075)
Notes receivable and
financial investments . (10,645) (3,593) 3,304
Payments to sellers of
acquired businesses . . (10,271) (4,723) (3,742)
Net Cash Used for Investing
Activities . . . . . . . (276,842) (300,856) (114,748)
Cash Flows from Financing Activities:
Borrowings, net . . . . . 310,190 888,528 123,732
Payment of borrowings and
other obligations . . . (564,448) (160,155) (82,857)
Proceeds from stock
offering . . . . . . . . 208,561 --- ---
Distributions to
shareholders and
shareholders' trust . . (75,152) (155,883) (146,520)
Purchase of ServiceMaster
stock . . . . . . . . . (18,310) (657,191) (76,556)
Proceeds from employee
share plans . . . . . . 12,638 6,526 6,835
Distributions to holders
of minority interests . --- (542) (3,074)
Other . . . . . . . . . . (652) 551 698
Net Cash Used for Financing
Activities . . . . . . . (127,173) (78,166) (177,742)
Cash Increase (Decrease)
During the Year . . . . 1,524 (7,133) 48,896
Cash and Cash Equivalents at
December 31 . . . . . . $66,400 $64,876 $72,009
See accompanying Summary of Significant Accounting Policies and Notes
to the Consolidated Financial Statements.
38
<PAGE>
Statements of Shareholders' Equity
<TABLE>
<CAPTION>
Corporate Equity
-----------------------------
Additional Limited Accumulated
Common Paid-in Retained Partners' Comprehensive Treasury Restricted Total
(In thousands) Stock Capital Earnings Equity Income Stock Stock Equity
- ------------------------------------ -------- --------- -------- -------- ---------- -------- --------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1995 . . $ --- $ --- $ --- $761,710 $5,904 $(13,405) $(7,549) $746,660
Net income 1996 . . . . . . . 245,140 245,140
Other comprehensive income,
net of tax:
Unrealized gains on
securities, net of
reclassification
adjustment . . . . . . . . 1,452 1,452
Foreign currency translation
($678 tax expense) . . . . (999) (999)
Total comprehensive income . . 245,140 453 245,593
Shareholder distributions . . (146,520) (146,520)
Shares issued under option,
subscription, grant plans
and other (3,667 shares) . (7,166) 2,506 1,691 (2,969)
Treasury shares purchased and
related costs (7,825
shares) . . . . . . . . . (76,556) (76,556)
Shares issued for acquisitions
(3,213 shares) . . . . . . 3,104 27,455 30,559
Balance, December 31, 1996 . . $ --- $ --- $ --- $856,268 $6,357 $(60,000) $(5,858) $796,767
Net income 1997 . . . . . . . 65,000 264,076 329,076
Other comprehensive income,
net of tax: Unrealized
gains on securities, net
of reclassification
adjustment . . . . . . . . 4,269 4,269
Foreign currency translation ($3,580 tax expense) (5,283) (5,283)
Total comprehensive income . . 65,000 264,076 (1,014) 328,062
Shareholder distributions . . (155,883) (155,883)
Shares issued under option,
debentures, grant plans
and other (6,552 shares) . 21,165 3,511 1,588 26,264
Treasury shares repurchased from WMX
(61,112 shares) . . . . . (625,978) (625,978)
Treasury shares purchased
and related costs
(2,051 shares) . . . . . . (31,213) (31,213)
Shares issued for the
acquisition of Barefoot
Inc. and other
acquisitions (16,161 shares) 156,299 30,120 186,419
Conversion to corporate form . 2,799 513,148 (515,947)
Balance, December 31, 1997 . . $2,799 $513,148 $65,000 $ --- $5,343 $(57,582) $(4,270) $524,438
Net income 1998 . . . . . . . 189,992 189,992
Other comprehensive income,
net of tax: Unrealized
gains on securities, net
of reclassification
adjustment . . . . . . . . (485) (485)
Foreign currency translation
($640 tax expense) (947) (947)
Total comprehensive income . . 189,992 (1,432) 188,560
Shareholder distributions . . (75,152) (75,152)
Shares issued in public
offering (11,400 shares) . 114 208,447 208,561
Shares issued under option,
debentures, grant plans
and other (2,514 shares) . 25 9,403 13,507 887 23,822
Treasury shares purchased and
related costs (888 shares) (9) (18,301) (18,310)
Shares issued for acquisitions
(5,059 shares) 51 57,126 47,390 104,567
Balance, December 31, 1998 . . $2,980 $788,124 $179,840 $ --- $3,911 $(14,986) $(3,383) $956,486
</TABLE>
All share data reflect the three-for-two share splits in August 1998, June
1997 and June 1996.
Disclosure of reclassification amounts (net of tax) relating to
comprehensive income:
1998 1997 1996
Unrealized holding gains
arising in period . . . $ 3,295 $ 5,904 $ 2,795
Less: gains realized . . . (3,780) (1,635) (1,343)
Net unrealized gains on
securities . . . . . . $ (485) $ 4,269 $ 1,452
See accompanying Summary of Significant Accounting Policies and Notes
to the Consolidated Financial Statements.
39
<PAGE>
Notes to the Consolidated Financial Statements
Business Unit Reporting
The business of the Company is primarily conducted through the ServiceMaster
Consumer Services and ServiceMaster Management Services operating units. In
accordance with Statement of Financial Accounting Standards No. 131, the
Company's reportable segments are strategic business segments that offer
different services. They are managed separately because each business requires
different technology and marketing strategies. The Consumer Services unit
provides a variety of specialty services to residential and commercial
customers. The Management Services unit provides a variety of supportive
management services to health care, education and commercial accounts. The
Company derives substantially all of its revenues from customers in the United
States with less than five percent generated in foreign markets.
The other operations group includes primarily ServiceMaster Employer Services, a
professional employer organization that provides clients with administrative
processing of payroll, workers' compensation insurance, health insurance,
unemployment insurance and other employee benefit plans, and Diversified Health
Services, which provides services and products to the long-term care industry.
In the previous year, Diversified Health Services was reflected in the
Management Services operating unit. It is now reflected in the other operations
group for all years. The Company has reclassified Diversified Health Services
into the other operations segment due to the unique nature of the services it
provides and the industry factors which affect its performance. It also operates
in a highly regulated industry and is managed separately from the other service
lines.
Information regarding the accounting policies used by the Company is described
in the Summary of Significant Accounting Policies. Operating expenses of the
business units consist primarily of direct costs and a royalty payable to Parent
based on the revenues or profits of the business unit.
Identifiable assets are those used in carrying out the operations of the
business unit and include intangible assets directly related to its operations.
The Company's headquarters facility and other investments are included in the
identifiable assets of other operations.
The following information prior to 1998 is presented on a pro forma basis as if
the Company had been a taxable corporation in all years and corporate taxes had
been allocated to the segments.
<TABLE>
<CAPTION>
(In thousands)
Consumer Management Other
Services Services Operations Consolidated
------------ ------------- ----------- ------------
1998
<S> <C> <C> <C> <C>
Operating revenue . . . . . . . $2,048,185 $2,040,948 $634,986 $4,724,119
Operating income . . . . . . . 305,408 112,919 (21,905) 396,422
Net interest expense (income) . 42,259 (1,882) 37,267 77,644
Income before income taxes . . 263,149 114,801 (59,172) 318,778
Provision for income taxes . . 106,309 46,380 (23,903) 128,786
Net income . . . . . . . . . . $156,840 $68,421 $(35,269) $189,992
Net income, excluding unusual
items (Note) . . . . . . . $156,840 $45,774 $(12,622) $189,992
Identifiable assets . . . . . . $2,244,652 $237,924 $432,275 $2,914,851
Depreciation and amortization
expense . . . . . . . . . $71,369 $22,023 $11,213 $104,605
Capital expenditures . . . . . $36,206 $29,757 $9,334 $75,297
1997
Operating revenue . . . . . . . $1,662,519 $1,905,291 $393,692 $3,961,502
Operating income . . . . . . . 235,064 76,224 32,645 343,933
Net interest and non-operating
expense (income) . . . . . 27,740 (1,264) 43,178 69,654
Income before income taxes . . 207,324 77,488 (10,533) 274,279
Corporate provision for
income taxes . . . . . . . 83,759 31,304 (4,254) 110,809
Net income (pro forma
corporate form) . . . . . $123,565 $46,184 $(6,279) $163,470
Identifiable assets . . . . . . $1,783,186 $212,727 $479,311 $2,475,224
Depreciation and amortization
expense . . . . . . . . . $63,010 $21,315 $8,737 $93,062
Capital expenditures . . . . . $16,778 $21,232 $8,222 $46,232
1996
Operating revenue . . . . . . . $1,461,696 $1,816,953 $179,679 $3,458,328
Operating income . . . . . . . 185,895 75,577 33,746 295,218
Net interest and non-operating
expense . . . . . . . . . 14,233 276 28,312 42,821
Income before income taxes . . 171,662 75,301 5,434 252,397
Corporate provision for
income taxes . . . . . . . 69,352 30,422 2,194 101,968
Net income (pro forma
corporate form) . . . . . $102,310 $44,879 $3,240 $150,429
Identifiable assets . . . . . . $1,394,177 $236,038 $216,626 $1,846,841
Depreciation and amortization
expense. . . . . . . . . . $52,446 $21,304 $5,256 $79,006
Capital expenditures . . . . . $19,915 $17,852 $5,185 $42,952
</TABLE>
Note: This line excludes the $38 million pretax gain in the Management Services
segment related to the formation of a strategic venture which acquired the
assets of ServiceMaster Energy Management and the pretax charges totaling $38
million in the Other Operations segment related primarily to the home health
care operations, which included a write-down for the impairment of assets and
costs relating to exiting customer arrangements.
40
<PAGE>
Reincorporation
Most operations of ServiceMaster and its subsidiary partnerships were conducted
from 1986 through 1997 in partnership form, free of federal corporate income
tax. Had ServiceMaster remained a partnership, the Internal Revenue Code would
have imposed federal corporate tax on ServiceMaster operations beginning in
1998. In January 1992, in anticipation of this change, the Partnership's
shareholders approved a tax-free plan of reorganization to return to corporate
form.
The ServiceMaster Company was created as part of this plan. The reorganization
became effective December 26, 1997, and was structured as a merger in which The
ServiceMaster Company became the successor entity through which the public now
invests in ServiceMaster. (The terms "the Company" and "ServiceMaster" are used
to collectively refer to the Partnership and its successor corporation, The
ServiceMaster Company.) At the time of reincorporation, each outstanding limited
partnership share was converted into one share of $0.01 par value common stock.
No federal income taxes were imposed on the shareholders of the Partnership as a
result of the reincorporation.
Pro forma information has been presented in the accompanying financial
statements in order to compare the continuing results of operations as if the
Company had been a taxable entity in 1997 and 1996. The pro forma tax provision
has been calculated assuming that the Company's effective tax rate had been
approximately 40 percent of pretax earnings.
Prior to December 26, 1997, The ServiceMaster Limited Partnership held as its
only asset a 99 percent interest in the profits, losses and distributions of The
ServiceMaster Company Limited Partnership, which through subsidiaries owned and
operated the ServiceMaster business. The Managing General Partner was
ServiceMaster Management Corporation, which held a one percent interest in the
income of both Partnerships. As a result of the reorganization, The
ServiceMaster Company owns all of the general and limited partnership interests
in the Partnership. No payment or equity issuance was made to the Managing
General Partner in connection with the reorganization except for the payout of
any income allocated to its capital account prior to reincorporation.
Income Taxes
Prior to reincorporation at the end of 1997, most operations conducted by the
Company and its subsidiary partnerships were exempt from federal corporate
income tax since 1986. As a result of the reincorporation, the Company
recognized a step-up in the tax basis of its assets, which is being amortized
against taxable income. The step-up resulted in a reduction of the Company's
cash tax payments in excess of $25 million per annum for the current year and
for the ensuing 14 years.
The reconciliation of income tax for 1998 computed at the U.S. federal statutory
tax rate to the Company's effective income tax rate is as follows:
Tax at U.S. federal statutory rate . . . . . . . . . . . . . . . 35.0%
State and local income taxes,
net of U.S. federal benefit . . . . . . . . . . . . . . . . . 4.4%
Other . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.0%
Effective rate . . . . . . . . . . . . . . . . . . . . . . . . . 40.4%
Income tax expense for 1998 consists of:
(In thousands) Current Deferred Total
- ----------------------- ------- -------- -------
U.S. federal. . . . . $76,646 $30,200 $106,846
State and local. . . . 15,740 6,200 21,940
------- -------- --------
$92,386 $36,400 $128,786
Deferred income tax expense of $36.4 million for the year ended December 31,
1998 results from timing differences in the recognition of income and expense
for income tax and financial reporting purposes.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts for income tax purposes. Management believes that,
based upon its lengthy and consistent history of profitable operations, it is
probable that the net deferred tax assets will be realized on future tax
returns, primarily from the generation of future taxable income. Significant
components of the Company's deferred tax assets are as follows:
(In thousands) 1998 1997
- ------------------------------ -------------- ---------------
Deferred tax assets (liabilities):
Current:
Prepaid expenses and other . . . . $(23,400) $(11,500)
Accounts receivable allowance . . . 7,400 12,000
Accrued insurance and
related expenses . . . . . . . . 24,100 18,000
Other accrued expenses . . . . . . 16,700 18,100
Long-Term:
Long-term assets . . . . . . . . . (500) 13,000
Insurance expenses . . . . . . . . 32,500 32,000
Other long-term obligations . . . . (11,600) ---
-------- --------
Net deferred tax assets . . . . . . $ 45,200 $ 81,600
There were no federal taxes paid in 1998 and approximately $5 million of state
tax payments were made in the year. In the first year of corporate form, the
Company was able to defer the remaining 1998 tax payments into 1999.
Acquisitions
Current Year -
Acquisitions have been accounted for using the purchase method and, accordingly,
the results of operations of the acquired businesses have been included in the
Company's consolidated financial statements since their dates of acquisition.
The assets and liabilities of these businesses were recorded in the financial
statements at their estimated fair market values as of the acquisition dates.
In 1998, the Company completed a number of acquisitions, including Rescue
Industries, Inc. (Rescue), Ruppert Landscape Company (Ruppert), National
Britannia and other lawn care, landscape and pest control businesses. Rescue,
which operates under the Rescue Rooter trade name, is one of the largest
plumbing and drain cleaning companies in America. Ruppert is one of the
Mid-Atlantic's largest commercial landscape companies. National Britannia, the
third largest pest control company in the United Kingdom, significantly
increases the international presence of Terminix. The aggregate fair market
value of the assets acquired less liabilities assumed for these acquisitions was
$139 million, which consisted almost entirely of intangible assets, primarily
goodwill. During the year, the
41
<PAGE>
Company acquired a number of smaller companies primarily in the lawn care,
landscaping and pest control businesses. The aggregate fair market value of the
assets acquired less seller financed notes and liabilities assumed for these
purchases was $194 million, including approximately $249 million of goodwill.
On November 1, 1998, the Company entered into an agreement to acquire LandCare
USA, Inc., one of the leading commercial landscape companies in the country. The
transaction is expected to be consummated in March 1999.
Prior Years -
On February 24, 1997, the Company acquired Barefoot Inc., (Barefoot) the second
largest professional residential lawn care services company in the United
States. The Company paid approximately $237 million by issuing 12.9 million
shares and paying $91 million in cash in exchange for all of the Barefoot stock.
The excess of the consideration paid over the fair value of the Barefoot
business of $254 million was recorded as goodwill, which is being amortized on a
straight-line basis over 40 years.
During 1997, the Company made several smaller acquisitions which included
Certified Systems, Inc. one of the nation's largest professional employer
organizations, Orkin's lawn care and plantscaping division and a number of other
lawn care and pest control businesses. The Company also purchased the minority
interests of Management Services and Diversified Health Services for a
combination of cash and Company shares, totaling approximately $25 million. The
aggregate fair market value of the assets acquired less liabilities assumed for
these smaller acquisitions was $196 million, including approximately $267
million of intangible assets, primarily goodwill.
During 1996, the Company acquired Premier Manufacturing Support Services, a
provider of management services to the automotive industry, and several other
smaller companies, predominately pest control, lawn care and pharmacy management
businesses. The aggregate fair value of assets acquired less liabilities assumed
was $91 million, including approximately $96 million of intangible assets which
are being amortized on a straight-line basis over 40 years.
Supplemental cash flow information regarding the Company's acquisitions is as
follows:
(In thousands)
1998 1997 1996
-------- -------- --------
Fair value of assets acquired . . . . . . $465,380 $590,600 $134,377
Less liabilities assumed . . . . . . . . . (132,381) (157,741) (43,781)
-------- -------- --------
Net assets acquired . . . . . . . . . . . 332,999 432,859 90,596
Less shares issued . . . . . . . . . . . . (104,567) (186,419) (30,559)
Less cash acquired . . . . . . . . . . . . (5,980) (12,751) (1,564)
-------- ------- --------
Business acquisitions,
net of cash acquired . . . . . . . . . $222,452 $233,689 $58,473
Other Events
The Company formed a strategic venture with Texas Utilities Company for the
ownership and operation of the ServiceMaster Energy Management business. The new
venture acquired all of the assets of ServiceMaster Energy Management and is
owned 85 percent by Texas Utilities and 15 percent by ServiceMaster. This
transaction resulted in a pretax gain of $38 million.
In late 1998, the Company completed a strategic review of its Home Health Care
operations and concluded that, without significant investment, it could not
profitably provide high quality service in the future and continue to satisfy
all the changes and the requirements of new governmental reimbursement programs.
The Company has decided to sell its direct operations and is discontinuing its
outsourced management operation of home health care agencies. The Company will
continue to provide consulting services to hospitals and other providers of home
health care.
During the course of the Company's strategic review of its Home Health Care
operations, the Company assessed the recoverability of the carrying value of the
intangible assets and fixed assets which resulted in pretax impairment losses of
$13 million and $3 million, respectively. In accordance with Statement of
Financial Accounting Standards No. 121, these losses reflect the amounts by
which the carrying values of these assets exceed their estimated fair values
determined by their future discounted cash flows. In addition, the Company has
recorded a pretax charge of $8 million related to the costs associated with
exiting customer arrangements in the Home Health Care business. In response to
the impact that changes in governmental reimbursement programs have begun to
have on the financial condition of certain customers of the Home Health Care and
Diversified Health Services businesses, the Company increased its reserves for
accounts receivable by $8 million and $6 million, respectively.
Employee Benefit Plans
Contributions to qualified profit sharing plans were made in the amount of $9.9
million in 1998, $8.2 million in 1997, and $6.9 million in 1996. Under the
Employee Share Purchase Plan, the Company contributed $1.2 million in 1998, $1.1
million in 1997, and $1.0 million in 1996. These funds defrayed part of the cost
of the shares purchased by employees.
42
<PAGE>
Long-Term Debt
Long-term debt includes the following:
(In thousands, except per share data)
1998 1997
---------- ----------
Notes Payable:
10.57%, maturing in 1999-2000 . . $18,000 $27,000
8.38%, maturing in 1999-2001 . . 30,000 40,000
10.81%, maturing in 2000-2002 . . 55,000 55,000
6.65%, maturing in 2002-2004 . . 70,000 70,000
7.40%, maturing in 2006 . . . . 125,000 125,000
6.95%, maturing in 2007 . . . . 100,000 100,000
7.10%, maturing in 2018 . . . . 150,000 ---
7.45%, maturing in 2027 . . . . 200,000 200,000
7.25%, maturing in 2038 . . . . 150,000 ---
6.00%, subordinated, convertible
at $5.53 per share . . . --- 3,581
Revolving credit facilities . . . . 50,000 550,000
International borrowings . . . . . 48,272 29,856
Other . . . . . . . . . . . . . . . 131,511 68,947
Less current portion . . . . . . . (51,616) (21,539)
Total long-term debt . . . . . . . $1,076,167 $1,247,845
The Company is party to a number of long-term debt agreements which require it
to comply with certain financial covenants, including limitations on
indebtedness, restricted payments, fixed charge coverage ratios and net worth.
The Company has been and currently is in compliance with the covenants related
to these debt agreements.
ServiceMaster filed a shelf registration statement with the Securities and
Exchange Commission for the sale of up to $950 million in unsecured senior debt
securities or equity interests in June 1997. As of year end, the Company had
$350 million of securities available for issuance under this shelf registration
statement. The first debt issuance from the shelf occurred in August 1997. It
included two tranches of debt totaling $300 million. The Company completed a
second $300 million dual-tranche offering of unsecured senior notes in February
1998, that consisted of $150 million, 7.10 percent notes due March 1, 2018, and
$150 million, 7.25 percent notes due March 1, 2038. The net proceeds of these
offerings reduced borrowings under bank credit facilities and thereby reduced
exposure to short-term interest rate fluctuations.
In May 1998, the Company filed a Form S-3 registration statement under which
11.4 million newly-issued shares were sold at $19.17 per share. The net proceeds
to the Company were approximately $209 million and were used to reduce
outstanding debt under existing bank credit facilities.
The Company has a committed revolving credit facility for up to $750 million
maturing in April 2002. The facility can be used for general Company purposes.
The revolving credit facility had $700 million of unused commitment as of
December 31, 1998.
The Company is exposed to interest rate fluctuations on its floating rate debt.
As of year end, the Company had approximately $100 million in floating rate
borrowings. The Company has, from time to time, entered into interest rate swap
or similar arrangements to mitigate its exposure to interest rate fluctuations,
and does not, as a matter of policy, enter into hedging contracts for trading or
speculative purposes. As of year end, the Company was not a party to any
interest rate swaps.
Cash interest payments were $88 million in 1998, $63 million in 1997, and $34
million in 1996. Average rates paid on the revolving credit facility were 5.9
percent in 1998, 6.0 percent in 1997 and 5.6 percent in 1996. Future scheduled
long-term debt payments are $51.6 million in 1999 (average rate of 4.2 percent),
$67.7 million in 2000 (average rate of 6.0 percent), $44.3 million in 2001
(average rate of 6.7 percent), $45.9 million in 2002 (average rate of 6.6
percent), and $34.8 million in 2003 (average rate of 5.4 percent). Notes payable
of $19 million due in 1999 are intended to be refinanced by the long term
revolving credit facility in 1999 and therefore are not included in the $51.6
million of current liabilities. The $50 million revolving credit facility
balance as of year end has not been included in the scheduled payments above as
the Company expects to extend the revolving credit facility beyond 2003.
Based upon the borrowing rates currently available to the Company for long-term
borrowings with similar terms and maturities, the fair value of long-term debt
is approximately $1.1 billion.
Future long-term noncancelable operating lease payments are $33.4 million in
1999, $25.5 million in 2000, $17.9 million in 2001, $11.3 million in 2002, $6.6
million in 2003, and $7.4 million thereafter. Rental expense for 1998, 1997, and
1996 was $103.8 million, $83.9 million, and $74.8 million, respectively.
The Company maintains an $80 million operating lease facility with a bank which
provides for the acquisition and development of properties to be leased by the
Company. The Company has guaranteed the residual value of the properties under
the lease up to 82 percent of the fair market value at the commencement of the
lease. The Company does not expect to be required to make residual value
payments and therefore, no amounts have been included in the future payments
above. At December 31, 1998, approximately $38 million was funded under this
facility.
Cash and Marketable Securities
Marketable securities held at December 31, 1998 and 1997, with a maturity of
three months or less, are included in the Statements of Financial Position
caption "Cash and Cash Equivalents." Marketable securities are designated as
available for sale and recorded at current market value, with unrealized gains
and losses reported in a separate component of shareholders' equity. Marketable
securities available for current operations are classified as current assets
while securities held for noncurrent uses are classified as long-term. The
Company's investments consist primarily of publicly-traded debt and common
equity securities. As of December 31, 1998, the aggregate market value of the
Company's short- and long-term investments in debt and equity securities was $97
million and the aggregate cost basis was $84 million. In 1998, the Company
entered into a hedging arrangement in a notional amount of $40 million expiring
November 1999, designed to protect its equity portfolio against a decline in the
equity market. This arrangement, which is
43
<PAGE>
linked to the Standard & Poor's 500 Index, provides protection for a market
decline of up to 15 percent, while it caps the potential appreciation at 15
percent. At year end, the fair market value of this arrangement was an
immaterial net liability to the Company. There was no participation in the
trading of derivative securities in 1998 or 1997.
Interest and dividend income received on cash and marketable securities was $8.9
million, $8.3 million and $8.0 million, in 1998, 1997 and 1996, respectively.
Gains and losses on sales of investments, as determined on a specific
identification basis, are included in investment income in the period they are
realized.
Comprehensive Income
The Company adopted Statement of Financial Accounting Standards No. 130,
"Reporting Comprehensive Income," which requires the reporting of all changes in
equity during a period, except those resulting from investment by owners and
distribution to owners. The Company has chosen to disclose Comprehensive Income,
which encompasses net income, unrealized gains on marketable securities, and the
effect of foreign currency translation, in the Statement of Shareholders'
Equity.
1998 1997 1996
--------- -------- --------
Unrealized holding gains
arising in period . . . . . . . . . $5,529 $9,908 $4,690
Tax expense . . . . . . . . . . . . . 2,234 4,004 1,895
Net of tax amount . . . . . . . . . . $3,295 $5,904 $2,795
Gains realized . . . . . . . . . . . $6,342 $2,743 $2,254
Tax expense . . . . . . . . . . . . . 2,562 1,108 911
Net of tax amount . . . . . . . . . . $3,780 $1,635 $1,343
Accumulated comprehensive income included the following components as of
December 31:
1998 1997 1996
--------- -------- --------
Unrealized gain on securities $7,753 $8,238 $3,969
Foreign currency translation (3,842) (2,895) 2,388
Total . . . . . . . . . . . . $3,911 $5,343 $6,357
Shareholders' Equity
The Company has authorized one billion shares of common stock with a par value
of $.01 and 11 million shares of preferred stock. There were no shares of
preferred stock issued or outstanding. In December 1997, ServiceMaster converted
from a publicly traded limited partnership to a corporation. At the time of
reincorporation, each outstanding limited partnership share was converted into
one share of common stock on a tax-free basis to the shareholders. Upon
reincorporation, all Limited Partners' equity was transferred to common stock
and additional paid-in capital. The shares underlying the obligations and rights
relating to the employee option plans were also converted from partnership
shares to corporate stock on a one-for-one basis.
In 1997, the Company filed a $950 million shelf registration statement with the
Securities and Exchange Commission for the sale of unsecured senior debt
securities and equity interests. On May 15, 1998, the Company filed a Form S-3
registration statement, and 21.2 million Company shares were sold at $19.17 per
share. This included approximately 11.4 million of newly-issued shares from the
Company and 9.8 million shares sold by existing shareholders. The net proceeds
to the Company, after the underwriting discount and offering expenses, were
approximately $209 million and were used to reduce outstanding debt under
existing bank credit facilities.
On July 23, 1998, the Company filed a Form S-1 shelf registration statement to
issue up to 5.3 million shares of common stock in connection with future,
unidentified acquisitions. The S-1 allows the Company to issue registered shares
much more efficiently when acquiring privately-held companies. The Company plans
to use the shares over time in connection with purchases of roll-up acquisitions
and small strategic acquisitions. There were approximately 3.5 million shares
issued at year end.
On April 1, 1997, the Company bought Waste Management, Inc.'s (WMX) entire
ownership interest in ServiceMaster for approximately $626 million. This
transaction resulted in the Company acquiring the 61.1 million Company shares
held by WMX and canceling WMX's option to purchase an additional 4.2 million
Company shares.
As of December 31, 1998, there were 18.1 million Company shares available for
issuance upon the exercise of employee options outstanding and future grants.
Share options are issued at a price not less than the fair market value on the
grant date and expire within ten years of the grant date. Certain options may
permit the holder to pay the option exercise price by tendering Company shares
that have been owned by the holder without restriction for an extended period.
Share grants carry a vesting period and are restricted as to the sale or
transfer of the shares.
The Company accounts for employee share options under Accounting Principles
Board Opinion 25, as permitted under generally accepted accounting principles.
Accordingly, no compensation cost has been recognized in the accompanying
financial statements related to these options. Had compensation cost for these
plans been determined consistent with Statement of Financial Accounting
Standards No. 123 (SFAS 123), which is an accounting alternative that is
permitted, but not required, pro forma net income and net income per share would
reflect the following:
(In thousands, except per share data)
1998 1997 1996
-------- -------- --------
Net Income:
As reported(1) . . . . . . . $189,992 $163,470 $150,429
SFAS 123 pro forma. . . . . . $185,555 $160,966 $149,480
Net Income Per Share:
Basic: As reported(1) $.66 $.57 $.47
SFAS 123 pro forma $.64 $.56 $.47
Diluted: As reported(1) $.64 $.55 $.46
SFAS 123 pro forma $.62 $.54 $.45
(1) Pro forma corporate form prior to 1998.
The SFAS 123 pro forma net income reflects options granted in 1998, 1997 and
1996. Since SFAS 123 does not apply to options granted prior to 1995, the pro
forma disclosure is not likely to be indicative of pro forma results which may
be expected in future years. This primarily relates to the fact that options
vest over several years and pro forma compensation cost is recognized as the
options vest. In addition, awards may have been granted in earlier years, which
would have resulted in pro forma compensation cost in 1998.
The fair value of each option is estimated on the date of grant based on the
Black-Scholes option pricing model with the following weighted-average
assumptions in 1998, 1997 and 1996: risk-free interest rates of 5.6 percent, 6.3
percent and 5.6 percent, respectively; volatility rates of 22 percent, 21
percent and 27 percent, respectively; distribution yields of 1.9 percent, 3.2
percent and 3.2 percent, respectively; and average expected lives of seven
years. The options granted to employees in 1998, 1997 and 1996 have
weighted-average fair values of $5.17, $2.81 and $2.40, respectively and vest
ratably over five years. The Company has estimated the value of these options
assuming a single weighted-average expected life for the entire award.
44
<PAGE>
A summary of option and grant transactions during the last three years is
summarized below:
<TABLE>
<CAPTION>
Share Price Weighted-Avg. Share Price
Options Range Exercise Price Grants Range
------- ------------- -------------- ---------- -------------
<S> <C> <C> <C> <C> <C>
Total exercisable, December 31, 1995 . . . . 14,033,661 $0.73 - 7.63 $ 5.46 --- ---
Total outstanding December 31, 1995 . . . . 18,252,411 $0.73 - 9.78 $6.46 2,205,738 $2.86 - 7.96
Transactions during 1996
Granted to employees . . . . . . . . . . . 4,154,625 $ 9.26 - 10.78 $9.40 --- ---
Exercised, paid, or vested . . . . . . . . (5,470,646) $ 0.73 - 7.63 $5.56 (398,997) $2.86 - 7.96
Terminated or resigned . . . . . . . . . . (360,274) $ 2.79 - 7.63 $3.89 --- ---
Total exercisable, December 31, 1996 . . . . 8,202,741 $ 0.73 - 7.63 $ 5.49 --- ---
Total outstanding, December 31, 1996 . . . . 16,576,116 $ 0.73 - 10.78 $ 7.56 1,806,741 $2.86 - 7.96
Transactions during 1997
Granted to employees . . . . . . . . . . . 5,295,785 $11.23 - 18.42 $11.62 --- ---
Exercised, paid, or vested . . . . . . . . (1,892,034) $ 2.17 - 9.26 $5.17 (430,460) $2.86 - 7.96
Cancelled, related to WMX . . . . . . . . (4,218,750) $ 9.78 $9.78 --- ---
Terminated or resigned . . . . . . . . . . (440,960) $ 1.97 - 11.22 $7.11 (120,175) $2.86 - 7.96
Total exercisable, December 31, 1997 . . . . 6,919,718 $0.73 - 10.78 $ 6.05 --- ---
Total outstanding, December 31, 1997 . . . . 15,320,157 $0.73 - 18.42 $ 8.65 1,256,106 $2.86 - 7.96
Transactions during 1998
Granted to employees . . . . . . . . . . . 3,574,376 $15.74 - 22.77 $18.29 --- ---
Exercised, paid, or vested . . . . . . . . (1,604,784) $ 2.25 - 11.22 $6.29 (293,376) $2.86 - 7.96
Terminated or resigned . . . . . . . . . . (377,023) $ 0.73 - 18.26 $8.57 --- ---
Total exercisable, December 31, 1998 . . . . 7,269,279 $0.73 - 22.33 $ 7.51 --- ---
Total outstanding, December 31, 1998 . . . . 16,912,726 $0.73 - 22.77 $10.89 962,730 $2.86 - 7.96
</TABLE>
<TABLE>
<CAPTION>
Options outstanding at December 31, 1998:
Range of Number Outstanding Remaining Weighted-Average Number Exercisable Weighted-Average
Exercise Prices at 12/31/98 Life Exercise Price at 12/31/98 Exercise Price
- --------------- ------------------ --------- ---------------- ------------------ ----------------
<S> <C> <C> <C> <C> <C>
$0.73 - 5.14 1,896,782 3.0 years $3.74 1,896,782 $ 3.74
6.44 - 9.33 6,040,722 6.5 years 8.27 4,048,253 7.78
10.78 - 22.77 8,975,222 8.5 years 14.17 1,428,808 12.50
$0.73 - 22.77 16,912,726 7.0 years $10.89 7,373,843 $7.65
</TABLE>
Earnings Per Share
Basic earnings per share is computed by dividing income available to common
stockholders by the weighted-average number of shares outstanding for the
period. Diluted earnings per share reflects the potential dilution of
convertible securities and options to purchase common stock.
The following chart reconciles both the numerator and the denominator of the
basic earnings per share computation to the numerator and the denominator of the
diluted earnings per share computation.
<TABLE>
<CAPTION>
For year ended 1998 For year ended 1997 For year ended 1996
(In thousands, except per share data) Income Shares EPS Income Shares EPS Income Shares EPS
--------- ---------- ----- --------- ---------- ----- --------- ---------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Basic EPS
(pro forma corporate form in
1997 and 1996). . . . . . . . . $189,992 289,315 $0.66 $163,470 285,944 $0.57 $150,429 317,381 $0.47
Effect of Dilutive Securities,
net of tax
Options . . . . . . . . . . . . 9,391 8,333 7,607
Convertible debentures . . . . 32 181 1,114 5,363 1,115 5,441
Diluted EPS
(pro forma corporate form in
1997 and 1996). . . . . . . . . $190,024 298,887 $0.64 $164,584 299,640 $0.55 $151,544 330,429 $0.46
</TABLE>
45
<PAGE>
Quarterly Operating Results
Quarterly operating results and related growth for the last three years in
revenues, gross profit, net income, and basic and diluted net income per share
are shown in the table below. Net income and earnings per share amounts for 1997
and 1996 have been restated to a basis that assumes reincorporation had occurred
as of the beginning of each year. For interim accounting purposes, certain costs
directly associated with the generation of lawn care revenues are initially
deferred and recognized as expense as the related revenues are recognized. Full
year results are not affected.
Certain amounts from prior periods have been reclassified to conform with the
current presentation.
<TABLE>
<CAPTION>
Percent Incr. Percent Incr.
(Unaudited, in thousands, except per share data) 1998 '98-'97 1997 '97-'96 1996
-------- ------------- -------- ------------- --------
<S> <C> <C> <C> <C> <C>
Operating Revenue:
First Quarter . . . . . . . . . . . . . $981,788 20% $817,136 10% $740,299
Second Quarter . . . . . . . . . . . . 1,244,627 23 1,010,794 10 916,931
Third Quarter . . . . . . . . . . . . . 1,273,093 17 1,090,114 18 927,227
Fourth Quarter . . . . . . . . . . . . 1,224,611 17 1,043,458 19 873,871
$4,724,119 19% $3,961,502 15% $3,458,328
Gross Profit:
First Quarter . . . . . . . . . . . . . $186,991 17% $159,991 13% $142,116
Second Quarter . . . . . . . . . . . . 293,261 14 257,260 16 221,505
Third Quarter . . . . . . . . . . . . . 316,718 23 257,449 17 219,127
Fourth Quarter . . . . . . . . . . . . 247,537 8 228,642 18 194,572
$1,044,507 16% $903,342 16% $777,320
Net Income:
(pro forma in 1997 and 1996):
First Quarter . . . . . . . . . . . . . $29,270 1% $28,982 15% $25,188
Second Quarter . . . . . . . . . . . . 56,404 21 46,707 8 43,326
Third Quarter . . . . . . . . . . . . . 56,352 20 46,793 11 42,262
Fourth Quarter . . . . . . . . . . . . 47,966 17 40,988 3 39,653
$189,992 16% $163,470 9% $150,429
Basic Net Income Per Share:
(pro forma in 1997 and 1996):
First Quarter . . . . . . . . . . . . . $0.11 22% $0.09 13% $0.08
Second Quarter . . . . . . . . . . . . 0.20 18 0.17 21 0.14
Third Quarter . . . . . . . . . . . . . 0.19 12 0.17 31 0.13
Fourth Quarter . . . . . . . . . . . . 0.16 7 0.15 25 0.12
$0.66 16% $0.57 21% $0.47
Diluted Net Income Per Share:
(pro forma in 1997 and 1996):
First Quarter . . . . . . . . . . . . . $0.10 11% $0.09 13% $0.08
Second Quarter . . . . . . . . . . . . 0.19 19 0.16 23 0.13
Third Quarter . . . . . . . . . . . . . 0.19 19 0.16 23 0.13
Fourth Quarter . . . . . . . . . . . . 0.16 14 0.14 17 0.12
$0.64 16% $0.55 20% $0.46
Cash Distributions Per Share:
First Quarter . . . . . . . . . . . . . $0.08 7% $0.07 1\2 5% $0.07 1\8
Second Quarter . . . . . . . . . . . . 0.08 7 0.07 1\2 5 0.07 1\8
Third Quarter . . . . . . . . . . . . . 0.08 --- 0.08 7 0.07 1\2
Fourth Quarter . . . . . . . . . . . . 0.09 13 0.08 7 0.07 1\2
$0.33 6% $0.31 6% $0.29 1\4
Price Per Share:
First Quarter . . . . . . . . . . . . . $19.63 - 16.50 $12.33 - 10.92 $ 9.93 - 8.61
Second Quarter . . . . . . . . . . . . 25.50 - 17.92 15.92 - 12.09 10.45 - 9.17
Third Quarter . . . . . . . . . . . . . 24.75 - 19.75 19.67 - 15.17 11.00 - 9.55
Fourth Quarter . . . . . . . . . . . . 23.81 - 16.00 19.50 - 14.00 11.83 - 10.55
</TABLE>
All share and per share data reflect the three-for-two share splits in
August 1998, June 1997 and June 1996.
46
EXHIBIT 21
<TABLE>
<CAPTION>
SUBSIDIARIES OF THE SERVICEMASTER COMPANY
As of March 22, 1999, ServiceMaster had the following subsidiaries:
State or Country
of
Incorporation
Subsidiary or Organization
- -------------------------------------------------------- -----------------
<S> <C>
ServiceMaster Consumer Services Limited Partnership........................................................Delaware
ServiceMaster Consumer Services, Inc. .....................................................................Delaware
TruGreen Limited Partnership...............................................................................Delaware
TruGreen, Inc..............................................................................................Delaware
Barefoot Inc. .............................................................................................Delaware
Barefoot Grass Lawn Services, Inc. ........................................................................Delaware
Barefoot Services L.L.C. ..................................................................................Delaware
LandCare USA, Inc..........................................................................................Delaware
The Terminix International Company Limited Partnership.....................................................Delaware
Terminix International, Inc................................................................................Delaware
ServiceMaster Residential/Commercial Services Limited Partnership..........................................Delaware
ServiceMaster Residential/Commercial Services Management Corporation.......................................Delaware
ServiceMaster Direct Distributor Company Limited Partnership...............................................Delaware
ServiceMaster DDC, Inc. ...................................................................................Delaware
Merry Maids Limited Partnership............................................................................Delaware
Merry Maids, Inc...........................................................................................Delaware
American Home Shield Corporation 1.........................................................................Delaware
AmeriSpec, Inc. ...........................................................................................Delaware
Furniture Medic Limited Partnership .......................................................................Delaware
Furniture Medic, Inc. .....................................................................................Delaware
Rescue Rooter L.L.C. ......................................................................................Delaware
ServiceMaster Management Services Limited Partnership......................................................Delaware
ServiceMaster Management Services, Inc. ...................................................................Delaware
ServiceMaster Aviation Services Limited Partnership........................................................Delaware
ServiceMaster Aviation Management Corporation..............................................................Delaware
ServiceMaster Aviation L.L.C. .............................................................................Illinois
Premier Manufacturing Support Services Limited Partnership 2...............................................Delaware
CMI Group, Inc. ..........................................................................................Wisconsin
ServiceMaster Employer Services, Inc. 3....................................................................Delaware
The ServiceMaster Acceptance Company Limited Partnership...................................................Delaware
ServiceMaster AM Limited Partnership.......................................................................Delaware
ServiceMaster Acceptance Corporation.......................................................................Delaware
ServiceMaster Holding Corporation..........................................................................Delaware
ServiceMaster Strategic Limited Partnership................................................................Delaware
The ServiceMaster Company Limited Partnership..............................................................Delaware
ServiceMaster Management Corporation.......................................................................Delaware
ServiceMaster Limited................................................................................United Kingdom
ServiceMaster Operations Germany GmbH.......................................................................Germany
ServiceMaster Japan, Inc......................................................................................Japan
TMX-Europe B.V......................................................................................The Netherlands
Terminix Peter Cox Ltd...............................................................................United Kingdom
Terminix Protekta B.V...............................................................................The Netherlands
Riwa B.V............................................................................................The Netherlands
Anticimex Development AB 4...................................................................................Sweden
TMX-Schadlingsbekampfungsgesellschaft mbH 5.................................................................Germany
LTCS Investment Limited Partnership........................................................................Delaware
ServiceMaster Home Health Care Services Inc................................................................Delaware
ServiceMaster Diversified Health Services, Inc. 6..........................................................Delaware
ServiceMaster Diversified Health Services Limited Partnership 7...........................................Tennessee
We Serve America, Inc......................................................................................Delaware
</TABLE>
- ------------------------------
1 American Home Shield Corporation has 17 subsidiaries through which it carries
on its business in the various states in which it markets its products.
2 Premier Manufacturing Support Services Limited Partnership has 12 subsidiaries
through which it carries on its business outside of the United States.
3 ServiceMaster Employer Services has 6 subsidiaries.
4 Anticimex Development AB has 5 subsidiaries.
5 The Stenglein group includes 2 subsidiaries.
6 ServiceMaster Diversified Health Services, Inc. has 4 subsidiaries.
7 ServiceMaster Diversified Health Services, L. P. has 32 subsidiaries.
EXHIBIT 23
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the
incorporation by reference in this Form 10-K of our report dated January 25,
1999 The ServiceMaster Company Annual Report to Stockholders for the year ended
December 31, 1998.
Arthur Andersen LLP
Chicago, Illinois
March 22, 1999
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.
<TABLE> <S> <C>
EXHIBIT 27
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS APPEARING IN EXHIBIT 13 TO THIS FORM 10-K AND IS QUALIFIED
IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C> <C> <C>
<PERIOD-TYPE> 12-MOS 12-MOS 12-MOS
<FISCAL-YEAR-END> DEC-31-1998 DEC-31-1997 DEC-31-1996
<PERIOD-START> JAN-01-1998 JAN-01-1997 JAN-01-1996
<PERIOD-END> DEC-31-1998 DEC-31-1997 DEC-31-1996
<CASH> 66,400 64,876 72,009
<SECURITIES> 54,022 59,248 42,404
<RECEIVABLES> 411,363 331,359 296,688
<ALLOWANCES> 38,988 32,221 26,287
<INVENTORY> 49,770 48,157 43,529
<CURRENT-ASSETS> 670,202 594,084 499,334
<PP&E> 441,209 362,653 320,713
<DEPRECIATION> 229,049 204,383 174,313
<TOTAL-ASSETS> 2,914,851 2,475,224 1,846,841
<CURRENT-LIABILITIES> 753,697 558,177 425,552
<BONDS> 1,076,167 1,247,845 482,315
0 0 0
0 0 0
<COMMON> 2,980 2,799 0
<OTHER-SE> 953,506 521,639 796,767
<TOTAL-LIABILITY-AND-EQUITY> 2,914,851 2,475,224 1,846,841
<SALES> 0 0 0
<TOTAL-REVENUES> 4,724,119 3,961,502 3,458,328
<CGS> 0 0 0
<TOTAL-COSTS> 3,679,612 3,058,160 2,681,008
<OTHER-EXPENSES> 648,085 559,409 482,102
<LOSS-PROVISION> 0 0 0
<INTEREST-EXPENSE> 92,945 76,447 38,298
<INCOME-PRETAX> 318,778 274,279 252,397
<INCOME-TAX> 128,786 110,809 101,968
<INCOME-CONTINUING> 189,992 163,470 150,429
<DISCONTINUED> 0 0 0
<EXTRAORDINARY> 0 0 0
<CHANGES> 0 0 0
<NET-INCOME> 188,992 163,470 150,429
<EPS-PRIMARY> 0.66 0.57 0.47
<EPS-DILUTED> 0.64 0.55 0.46
</TABLE>
EXHIBIT 99.4
For further information contact:
ServiceMaster
Claire Buchan, VP Comm, (630)271-2150
Bruce Duncan, VP IR, (630)271-2187
Steve Preston, CFO, (630)271-2637
ARS
Jennifer Tweeton, (713)599-9015
FOR IMMEDIATE RELEASE
March 23, 1999
SERVICEMASTER ANNOUNCES TENDER OFFER FOR
AMERICAN RESIDENTIAL SERVICES
DOWNERS GROVE, Illinois -- ServiceMaster (NYSE:SVM) and American
Residential Services (NYSE:ARS) today announced that their Boards of Directors
have approved a definitive agreement under which ServiceMaster will acquire ARS.
Under the terms of the agreement, ServiceMaster will initiate a cash tender
offer for all of the outstanding shares of ARS common stock at a price of $5.75
per share. The total acquisition cost is approximately $92 million in cash and
$180 million of assumed indebtedness.
The acquisition of ARS will establish ServiceMaster as one of the country's
leading providers of heating, ventilation and air conditioning services, and
will complement the Company's Rescue Rooter plumbing business, which is already
among the nation's largest and fastest growing plumbing and drain cleaning
companies.
<PAGE>
Houston-based ARS provides comprehensive maintenance, repair and
replacement services for HVAC, plumbing, electrical and other systems and major
appliances in homes and commercial buildings. The company, which had 1998
annualized revenues of approximately $550 million, operates in 59 markets in 17
states and the District of Columbia. ARS also will support the HVAC services
offered to the residential market by ServiceMaster through its American Home
Shield warranty program and its maintenance management service of commercial
HVAC equipment in hospitals and schools.
"The acquisition of ARS continues our strategy of expanding our service
network by acquiring platform companies that are servicing both commercial and
residential customers and are operating in fragmented markets where there is an
opportunity to organize and provide an efficient service system. This strategy
was initiated by ServiceMaster in 1986 with the acquisition of Terminix, and
over the years we have established a proven track record of bringing added
benefits to our customers as we have applied our operating skills and systems to
improve productivity and service delivery. In the last 14 months, with the
acquisition of ARS, the 1998 acquisition of Rescue Rooter, and our entry into
the commercial landscape business with the acquisition of LandCare and other
regional landscape companies, we have added over $1 billion in revenue and
positioned ServiceMaster for an added dimension of growth in expanding new
markets," said ServiceMaster President and Chief Executive Officer Carlos H.
Cantu.
2
<PAGE>
Completion of the tender offer is subject to certain conditions, including
the tender of at least 52 percent of the outstanding ARS common shares and the
expiration of the applicable waiting period under the Hart-Scott-Rodino Act.
The offer and withdrawal rights are scheduled to expire on April 26, 1999,
unless the offer is extended.
"This acquisition significantly expands our service offerings on a
nationwide basis and provides added support for our rapidly growing American
Home Shield business," said ServiceMaster Consumer Services Group President
Ernie Mrozek.
"ServiceMaster has an outstanding reputation for people development, a
proven ability to operate service companies successfully, and a strong financial
track record," said ARS President and Chief Executive Officer Thomas Amonett.
"We believe this acquisition will provide opportunities for our people to grow
and develop, as well as the operational resources to grow the business."
ServiceMaster serves more than 10.5 million customers in the United States
and in 41 countries around the world, with annual customer level revenue of $6.4
billion. ServiceMaster is a network of quality service companies with two major
operating segments, ServiceMaster Consumer Services and ServiceMaster Management
Services.
ServiceMaster Consumer Services now includes eight market-leading companies
- - TruGreen-ChemLawn, Terminix, American Home Shield, Rescue Rooter,
3
<PAGE>
ServiceMaster Residential and Commercial Services, Merry Maids, AmeriSpec and
Furniture Medic-- which operate through the ServiceMaster Quality Service
Network of approximately 5,800 U.S. Company-owned locations and franchised
businesses.
ServiceMaster Management Services is the leading facilities management
company serving health care, education, and business and industrial facilities
with management of plant operations and maintenance, housekeeping, clinical
equipment maintenance, food service, laundry, grounds and energy.
In accordance with the Private Securities Litigation Reform Act of 1995,
the Company notes that statements that look forward in time, which include
everything other than historical information, involve risks and uncertainties
that may affect the Company's actual results of operations. Factors which could
cause actual results to differ materially include the following (among others):
weather conditions adverse to certain of the Company's Consumer Services
businesses, the entry of additional competitors in any of the markets served by
the Company, labor shortages, consolidation of hospitals in the healthcare
market, the condition of the U.S. economy, the inability of key suppliers to
achieve timely Y2K compliance in their delivery systems or the inability of the
Company to make its own systems Y2K compliant, and other factors listed from
time to time in the Company's filings with the Securities and Exchange
Commission.
4
