SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
___X__QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended JUNE 30, 2000
-------------
_____TRANSITION REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 1-14762
THE SERVICEMASTER COMPANY
(Exact name of registrant as specified in its charter)
Delaware 36-3858106
(State or other jurisdiction of (IRS EmployerIdentification No.)
incorporation or organization)
One ServiceMaster Way, Downers Grove, Illinois 60515-1700
(Address of principal executive offices) (Zip Code)
630-271-1300
(Registrant's telephone number, including area code)
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 X No .
Indicate the number of shares outstanding of each of the issuer's classes of
shares: 302,551,000 shares of common stock on August 10, 2000.
This document consists of 15 pages, including the cover page.
1
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TABLE OF CONTENTS
Page
NO.
THE SERVICEMASTER COMPANY (Registrant) -
PART I. FINANCIAL INFORMATION
Consolidated Statements of Income for the three and
six months ended June 30, 2000 and June 30, 1999 2
Consolidated Statements of Financial Position
as of June 30, 2000 and December 31, 1999 3
Consolidated Statements of Cash Flows for the six months
ended June 30, 2000 and June 30, 1999 4
Notes to Consolidated Financial Statements 5
Management Discussion and Analysis of Financial Position
and Results of Operations 8
PART II. OTHER INFORMATION
Item 1: Legal Proceedings 14
Item 4: Submission of Matters to a Vote of Security Holders 15
Signature 16
2
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PART I. FINANCIAL INFORMATION
THE SERVICEMASTER COMPANY
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
2000 1999 2000 1999
-------------- -------------- ----------- -------------
<S> <C> <C> <C> <C>
OPERATING Revenue.................. $ 1,626,359 $ 1,537,074 $ 2,972,864 $ 2,652,136
OPERATING COSTS AND EXPENSES:
Cost of services rendered
and products sold................. 1,231,518 1,168,837 2,316,934 2,068,652
Selling and administrative expenses 249,435 226,098 418,631 362,717
Other, net (1) .................... -- 85,500 -- 85,500
----------- ----------- ----------- -----------
Total operating costs and expenses 1,480,953 1,480,435 2,735,565 2,516,869
----------- ----------- ----------- -----------
OPERATING INCOME................... 145,406 56,639 237,299 135,267
NON-OPERATING EXPENSE (INCOME):
Interest expense................... 35,680 28,890 67,545 50,838
Interest and investment income .... (6,756) (5,649) (10,649) (9,270)
Minority interest income .......... (3,422) -- (6,362) --
----------- ----------- ----------- -----------
INCOME BEFORE INCOME TAXES ........ 119,904 33,398 186,765 93,699
Provision for income taxes ........ 50,533 15,363 78,383 40,055
----------- ----------- ----------- -----------
NET INCOME ........................ $ 69,371 $ 18,035 $ 108,382 $ 53,644
=========== =========== =========== ===========
PER SHARE
Basic (1) (2) .................. $ .23 $ .06 $ .36 $ .18
=========== =========== =========== ===========
Diluted (1) (2) ................ $ .22 $ .06 $ .35 $ .17
=========== =========== =========== ===========
DIVIDENDS PER SHARE .............. $ .09 $ .09 $ .18 $ .18
=========== =========== =========== ===========
</TABLE>
(1) In the second quarter of 1999, the Company realized an after-tax gain of $30
million ($50.1 million pretax) relating to the sales of its Premier automotive
business and its remaining 15 percent interest in ServiceMaster Energy
Management, and recorded a one-time after-tax charge of $81 million ($135.6
million pretax) relating to its Diversified Health Services business. Excluding
the impact of these items, net income and earnings per share were as follows:
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
2000 1999 2000 1999
------------ ---------- ----------- ------------
<S> <C> <C> <C> <C>
Net income before non-recurring items, net $ 69,371 $ 69,335 $ 108,382 $ 104,944
Per share before non-recurring items, net:
Basic ................................. $.23 $.22 $.36 $.34
========== ========== =========== ===========
Diluted ............................... $.22 $.22 $.35 $.34
========== ========== =========== ===========
</TABLE>
(2) Basic earnings per share are calculated based on 304,391 shares and 310,431
shares for the three months ended June 30, 2000 and 1999, respectively and
305,030 shares and 305,047 shares for the six months ended June 30, 2000 and
1999, respectively. Diluted earnings per share are calculated based on 308,475
shares and 318,179 shares for the three months ended June 30, 2000 and 1999,
respectively and 309,307 shares and 313,099 shares for the six months ended June
30, 2000 and 1999, respectively.
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3
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THE SERVICEMASTER COMPANY
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
(IN THOUSANDS)
<TABLE>
<CAPTION>
As of
June 30, December 31,
2000 1999
------------ -------------
ASSETS
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents............................................ $ 47,477 $ 59,834
Marketable securities................................................ 54,096 54,376
Receivables, less allowances of $40,233
and $39,011, respectively......................................... 636,745 558,842
Inventories.......................................................... 98,981 82,861
Prepaid expenses and other assets.................................... 262,190 203,325
------------ -------------
Total current assets............................................. 1,099,489 959,238
------------ -------------
PROPERTY AND EQUIPMENT:
At cost........................................................... 678,864 659,810
Less: accumulated depreciation................................... 357,795 341,712
------------ -------------
Net property and equipment....................................... 321,069 318,098
------------ -------------
INTANGIBLE ASSETS, PRIMARILY TRADE NAMES AND GOODWILL,
net of accumulated amortization of $380,030
and $343,316, respectively........................................ 2,558,632 2,461,389
NOTES RECEIVABLE, LONG-TERM SECURITIES, AND OTHER ASSETS............. 169,344 131,490
------------ -------------
Total assets.....................................................$ 4,148,534 $ 3,870,215
============ =============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable.....................................................$ 146,652 $ 145,237
Income taxes payable................................................. 73,971 6,479
Accrued liabilities.................................................. 340,682 364,851
Deferred revenues.................................................... 297,884 257,521
Current portion of long-term obligations............................. 70,469 71,716
------------ -------------
Total current liabilities........................................ 929,658 845,804
------------ -------------
LONG-TERM DEBT....................................................... 1,852,419 1,697,582
OTHER LONG-TERM OBLIGATIONS.......................................... 117,978 121,113
SHAREHOLDERS' EQUITY:
Common stock $0.01 par value, authorized 1 billion shares; issued
and outstanding 305,652 and 307,530 shares, respectively......... 3,057 3,075
Additional paid-in capital........................................... 1,041,790 1,033,568
Retained earnings.................................................... 294,866 241,701
Accumulated other comprehensive income............................... 8,556 (1,821)
Restricted stock..................................................... (2,203) (2,577)
Treasury stock....................................................... (97,587) (68,230)
------------ -------------
Total shareholders' equity....................................... 1,248,479 1,205,716
------------ ------------
Total liabilities and shareholders' equity.......................$ 4,148,534 $ 3,870,215
============ ============
</TABLE>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
4
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THE SERVICEMASTER COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
Six Months Ended
June 30,
2000 1999
------------ ------------
<S> <C> <C>
CASH AND CASH EQUIVALENTS AT JANUARY 1................................ $ 59,834 $ 66,400
CASH FLOWS FROM OPERATIONS:
NET INCOME............................................................ 108,382 53,644
Adjustments to reconcile net income
to net cash flows from operations:
Depreciation .................................................. 39,286 30,489
Amortization................................................... 36,714 32,816
Non-recurring items, net....................................... - 85,500
Deferred 1998 tax payment...................................... - (78,500)
Tax refund from 1999 payments.................................. 22,000 -
Deferred income taxes.......................................... 68,548 31,884
Change in working capital, net of acquisitions:
Receivables.................................................. (84,678) (85,602)
Inventories and other current assets......................... (72,006) (77,372)
Accounts payable............................................. 1,551 16,335
Deferred revenues............................................ 28,800 27,473
Accrued liabilities.......................................... (24,567) (6,913)
Other, net..................................................... (1,256) (1,948)
------------- -------------
NET CASH PROVIDED FROM OPERATIONS..................................... 122,774 27,806
------------- ------------
MEMO: NET CASH PROVIDED FROM OPERATIONS EXCLUDING UNUSUAL TAX ITEMs 100,774 106,306
CASH FLOWS FROM INVESTING ACTIVITIES:
Property additions................................................ (39,068) (50,203)
Sale of equipment and other assets............................... 2,937 2,861
Business acquisitions, net of cash acquired....................... (113,510) (419,034)
Proceeds from business sales and minority interests............... 17,331 68,260
Payments to sellers of acquired businesses........................ (14,578) (6,506)
Notes receivable and financial investments........................ (12,765) (16,606)
Net purchases of investment securities............................ (4,076) (6,577)
------------- ------------
NET CASH USED FOR INVESTING ACTIVITIES................................ (163,729) (427,805)
------------- ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings, net................................................... 439,485 666,639
Payment of borrowings and other obligations....................... (305,695) (223,936)
Purchase of ServiceMaster stock................................... (55,704) (12,354)
Shareholders' dividends........................................... (55,217) (54,985)
Proceeds from employee share plans................................ 7,107 11,669
Other............................................................. (1,378) 500
-------- ---------
NET CASH PROVIDED FROM FINANCING ACTIVITIES........................... 28,598 387,533
------------- ------------
CASH DECREASE DURING THE PERIOD....................................... (12,357) (12,466)
------------- ------------
CASH AND CASH EQUIVALENTS AT JUNE 30.................................. $ 47,477 $ 53,934
============= ============
</TABLE>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
5
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THE SERVICEMASTER COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1: The consolidated financial statements include the accounts of
ServiceMaster and its significant subsidiaries, collectively referred to as "the
Company". Intercompany transactions and balances have been eliminated in
consolidation.
NOTE 2: The consolidated financial statements included herein have been prepared
by the Company pursuant to the rules and regulations of the Securities and
Exchange Commission. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to such rules and
regulations. However, the Company believes that the disclosures are adequate to
make the information presented not misleading. It is suggested that these
consolidated financial statements be read in conjunction with the financial
statements and the notes thereto included in the Company's latest Annual Report
to Shareholders and the Annual Report to the Securities and Exchange Commission
on Form 10-K for the year ended December 31, 1999. In the opinion of the
Company, all adjustments necessary to present fairly the financial position of
The ServiceMaster Company as of June 30, 2000 and December 31, 1999, and the
results of operations for the three month and six month periods ended June 30,
2000 and 1999, and the cash flows for the six months ended June 30, 2000 and
1999 have been included. The preparation of the financial statements requires
management to make certain estimates and assumptions required under generally
accepted accounting principles which may differ from the actual results. The
results of operations for any interim period are not necessarily indicative of
the results which might be obtained for a full year.
NOTE 3: 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. All such costs are fully
recognized within the fiscal year in which they are incurred.
NOTE 4: Basic earnings per share includes no dilution from options, debentures
or other financial instruments and is computed by dividing income available to
common stockholders by the weighted average number of shares outstanding.
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 denominator of the diluted earnings per share
computation.
<TABLE>
<CAPTION>
Three Months Three Months
Ended June 30, 2000 Ended June 30, 1999
------------------------------- ------------------------------
(IN THOUSANDS, EXCEPT PER SHARE DATA) INCOME SHARES EPS INCOME SHARES EPS
------ ------ --- ------ ------ ---
<S> <C> <C> <C> <C> <C> <C>
Basic earnings per share $69,371 304,391 $0.23 $ 18,035 310,431 $0.06
====== ======
Effect of dilutive securities - options - 4,084 - 7,748
---------- ---------- ---------- ---------
Diluted earnings per share $ 69,371 308,475 $0.22 $18,035 318,179 $0.06
========== ========== ====== ========== ========= ======
</TABLE>
6
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<TABLE>
<CAPTION>
Six Months Six Months
Ended June 30, 2000 Ended June 30, 1999
------------------------------- ------------------------------
(IN THOUSANDS, EXCEPT PER SHARE DATA) INCOME SHARES EPS INCOME SHARES EPS
------ ------ --- ------ ------ ---
<S> <C> <C> <C> <C> <C> <C>
Basic earnings per share $ 108,382 305,030 $0.36 $ 53,644 305,047 $0.18
====== ======
Effect of dilutive securities -options - 4,277 - 8,052
---------- ---------- ---------- ---------
Diluted earnings per share $ 108,382 309,307 $0.35 $ 53,644 313,099 $0.17
========== ========== ====== ========== ========= ======
</TABLE>
NOTE 5: In the Consolidated Statements of Cash Flows, the caption Cash and Cash
Equivalents includes investments in short-term, highly-liquid securities having
a maturity of three months or less. Supplemental information relating to the
Consolidated Statements of Cash Flows for the six months ended June 30, 2000 and
1999 is presented in the following table. The increase in interest paid in 2000
is primarily due to higher levels of debt outstanding reflecting acquisitions
and the timing of payments. The change in tax payments relates to the fact that
in 2000 the Company received an income tax refund relating to 1999 over
payments. Last year the company made the entire federal tax payment related to
the 1998 federal tax obligation.
(IN THOUSANDS)
2000 1999
------- --------
CASH PAID OR (RECEIVED FOR):
----------------------------
Interest expense.......................... $ 61,154 $ 44,850
Interest and dividend income.............. $ (5,177) $ (4,148)
Income taxes.............................. $ (10,200) $ 85,829
NOTE 6: Total comprehensive income was $72.1 million and $17.9 million for the
three months ended June 30, 2000 and 1999, respectively, and $118.8 million and
$49.5 million for the six months ended June 30, 2000 and 1999, respectively.
Total comprehensive income includes primarily net income, changes in unrealized
gains on marketable securities and translation balances.
NOTE 7: The business of the Company is primarily conducted through the
ServiceMaster Consumer and Commercial Services and ServiceMaster Management
Services operating units. The Consumer and Commercial 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, insurance, and other employee benefit programs, and
Diversified Health Services which provides services and products to the long
term care industry, the Company's headquarters operation, and certain businesses
the Company sold in the second quarter of 1999. Segment information as of and
for the three months and six months ended June 30, 2000 and 1999 are as follows:
7
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<TABLE>
<CAPTION>
THREE MONTHS
ENDED JUNE 30,
----------------------------------------------------------------------------------------------------------------------------------
(IN THOUSANDS)
CONSUMER &
COMMERCIAL MANAGEMENT OTHER
2000 SERVICES SERVICES OPERATIONS CONSOLIDATED
-------------------------------------------------- ----------------- ----------------- -------------- ---------------
<S> <C> <C> <C> <C>
Revenue $ 1,049,932 $ 472,363 $ 104,064 $ 1,626,359
Operating Income $ 134,692 $ 20,940 $ (10,226) $ 145,406
Total Assets $ 3,603,753 $ 237,478 $ 307,303 $ 4,148,534
1999
--------------------------------------------------
Revenue $ 911,129 $ 468,173 $ 157,772 $ 1,537,074
Operating Income $ 134,946 $ 18,527 $ (96,834) $ 56,639
Operating Income Excluding Non-Recurring Items $ 134,946 $ 18,527 $ (11,334) $ 142,139
Total Assets $ 3,303,016 $ 216,116 $ 290,047 $ 3,809,179
</TABLE>
<TABLE>
<CAPTION>
SIX MONTHS
ENDED JUNE 30,
----------------------------------------------------------------------------------------------------------------------------------
(IN THOUSANDS)
CONSUMER &
COMMERCIAL MANAGEMENT OTHER
2000 SERVICES SERVICES OPERATIONS CONSOLIDATED
-------------------------------------------------- ----------------- ----------------- -------------- ---------------
<S> <C> <C> <C> <C>
Revenue $ 1,793,005 $ 942,267 $ 237,592 $ 2,972,864
Operating Income $ 221,659 $ 37,586 $ (21,946) $ 237,299
1999
--------------------------------------------------
Revenue $ 1,372,851 $ 925,798 $ 353,487 $ 2,652,136
Operating Income $ 202,336 $ 37,388 $ (104,457) $ 135,267
Operating Income Excluding Non-Recurring Items $ 202,336 $ 37,388 $ (18,957) $ 220,767
</TABLE>
NOTE 8: In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin (SAB) No. 101 "Revenue Recognition in Financial Statements,"
which was amended by SAB No. 101B in June 2000. SAB No.101B delayed the
implementation date of SAB No.101 to the fourth quarter of 2000. The SAB
provides guidance on the recognition, presentation and disclosure of revenue in
the financial statements. The Company is currently reviewing the requirements of
the guidance as well as the Company's current policies in this area. The impact
of its adoption on the consolidated financial statements is currently being
assessed. The Company intends to adopt the SAB in the fourth quarter of 2000.
Such adoption may have a material impact to the Company's financial statements.
In 1998, the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No.133, "Accounting for Derivative Instruments and Hedging
Activities." This Statement was subsequently amended to defer its effective
date. The Company intends to adopt this Statement in January 2001 as required by
the amended Statement. Adoption of this Statement is not expected to have a
material impact on the Company's financial statements.
8
<PAGE>
THE SERVICEMASTER COMPANY
MANAGEMENT DISCUSSION AND ANALYSIS
RESULTS OF OPERATIONS
SECOND QUARTER 2000 COMPARED TO SECOND QUARTER 1999
Revenues increased six percent over the second quarter of 1999 to $1.6 billion,
primarily reflecting acquisitions. Operating income before the non-recurring
unusual items recorded in the prior year increased two percent to $145.4
million, while margins decreased to 8.9 percent from 9.2 percent. The decline in
margins primarily reflects costs relating to the WeServeHomes.com initiative
that reduced operating income growth by three percent and accounted for about 20
basis points of the decrease in margins. These cost have been allocated to the
Company's partner, Kleiner Perkins, and are reflected as minority interest
income below the operating income line.
Second quarter net income of $69.4 million and diluted earnings per share of
$.22 were consistent with the 1999 results before non-recurring unusual items.
Despite solid growth in our established businesses and the impact of the
acquisition of American Residential Services in April last year, reported
profits were below management's expectations due to a longer than anticipated
integration of the landscape initiative and lower than planned sales and higher
fuel and other operating costs in the lawn care operations. In the second half
of the year, the Company expects to continue to experience some of the same
factors that affected performance in the second quarter, and earnings per share
for the year are anticipated to be in line with the $.72 reported last year.
Cash income (defined by the Company as net income with amortization expense
added back) increased seven percent to $.29 per share compared to $.27 last
year.
During the second quarter of 1999 the Company realized an after-tax gain of $30
million relating to the sale of certain non-core businesses and the Company
recorded a one-time after-tax charge of $81 million relating to its Diversified
Health Services business. These items reduced net income from ongoing operations
by $51 million ($85.5 million pretax) and, as a result, the Company reported net
income of $18 million, with diluted earnings per share of $.06 for the second
quarter of 1999.
The Consumer and Commercial Services business unit reported revenue of $1.0
billion, an increase of 15 percent, reflecting the inclusion of one additional
month of revenue from the American Residential Services (ARS) acquisition
completed in April last year, and smaller roll-up acquisitions. Segment
operating income of $134.7 million was consistent with last year as growth in
the established businesses and the inclusion of ARS for the full quarter, was
offset by a decline in profits at TruGreen LandCare. TruGreen ChemLawn, the
Company's lawn care operations, reported a modest increase in revenue reflecting
increased commercial sales, growth in add-on services to residential customers,
and price increases partially offset by the acceleration of production into the
first quarter. Operating income declined slightly for the quarter due to higher
operating and fuel costs. TruGreen LandCare, the commercial landscape business,
reported a strong double-digit increase in revenue reflecting both strong
internal growth and acquisitions. Operating income, however, declined
significantly due to the slower than anticipated integration of the landscape
platform initiative and higher labor and other costs. Although significant
progress has been made installing new financial
9
<PAGE>
and management systems, the process of bringing over 100 separate business units
into one company has taken longer than anticipated. This unit experienced
operational issues in five of the fifteen regions it serves and has addressed
these issues by strengthening the management infrastructure in these regions.
Terminix achieved strong single-digit revenue growth and a double-digit increase
in profit, demonstrating the ongoing success in the termite baiting system,
productivity improvements, and strong overhead controls. American Home Shield
reported double-digit revenue and profit growth, with strong growth in higher
margin warranty contract renewals. The combined American Residential Services
(ARS)/Rescue Rooter operations achieved excellent growth in both revenues and
profits, resulting from strong internal growth and the full quarter impact of
the acquisition of ARS completed at the end of April 1999. The integration of
ARS has continued in line with expectations and management has made significant
progress in turning around operations that were identified as problem areas at
the time of acquisition. The franchise operations, ServiceMaster Clean and Merry
Maids, achieved solid revenue and profit increases, reflecting strong growth in
company owned operations and productivity improvements.
The Management Services business unit reported revenues of $472 million,
consistent with last year, and a 13 percent increase in operating income to
$20.9 million. The growth in operating income included a non-recurring benefit
from the resolution of a foreign license agreement totaling $6 million.
During the quarter, the Company continued to focus on reducing non-core business
functions and sold its pharmacy management services, a unit of Diversified
Health Services.
During June, WeServeHomes.com entered the Austin and Houston markets after the
regional first quarter roll out in Dallas. An additional three markets are
expected to be launched in the later half of the year. The Company has recruited
strong operating, marketing, and technical employees to support this initiative.
Cost of services rendered and products sold increased five percent, due
primarily to general business growth and acquisitions. Cost of services
decreased as a percentage of revenue to 75.7 percent in 2000 from 76.0 percent
in 1999. The landscaping, heating, ventilation and air conditioning (HVAC) and
plumbing initiatives have affected this comparison because their cost of
services as a percentage of revenue is higher than the average for the
enterprise. Excluding these initiatives, cost of services rendered and products
sold decreased as a percentage of revenue to 73.6 percent from 74.9 percent in
1999. This decrease primarily reflects the changing mix of the business as
TruGreen ChemLawn and Terminix continue to increase in size in relationship to
the overall business of the Company. The TruGreen ChemLawn and Terminix
businesses generally operate at higher gross margin levels than the rest of the
business, but also incur somewhat higher selling and administrative expenses as
a percentage of revenues.
Selling and administrative expenses increased 10 percent due to general business
growth and acquisitions, and increased as a percentage of revenue to 15.3
percent in 2000 from 14.7 percent in 1999. The investments in WeServeHomes.com
increased this cost line which was partially offset by the platform initiatives.
The platform initiatives have lower selling and administrative expenses as a
percent of revenue.
10
<PAGE>
Interest expense increased from the prior year, primarily due to increased debt
levels associated with acquisitions and share repurchases. The tax provision,
before non-recurring items, reflects a higher effective tax rate compared to
last year, primarily due to the non-deductibility of goodwill from acquisitions
completed in 1999.
SIX MONTHS ENDED JUNE 30, 2000 AS COMPARED TO JUNE 30, 1999
-----------------------------------------------------------
Revenues for the six months increased 12 percent over 1999 to over $2.9 billion,
primarily reflecting the impact of acquisitions and, to a extent, internal
growth. The revenue growth in the six months is stronger than the second quarter
due to the timing of production at TruGreen ChemLawn as well as the impact of
the new platform initiatives (the LandCare acquisition was completed in March
last year and the ARS acquisition closed at the end of April last year) and
stronger internal growth in the first quarter. Operating income increased seven
percent to $237.3 million, while margins decreased to 8.0 percent of revenue
from 8.3 percent in 1999, excluding the prior year non-recurring unusual items.
Operating margins decreased primarily due to lower margins in the TruGreen
LandCare landscape operations and the expenses associated with the
WeServeHomes.com initiative. Net income and diluted earnings per share, before
non-recurring items, both increased three percent for the six months to $108.4
million and $.35, respectively. As discussed in the three month comparison,
during the second quarter of 1999 the Company recorded a net charge that reduced
net income from ongoing operations by $51 million ($85.5 million pretax). As a
result of this net charge, for the six months last year, the Company reported
net income of $53.6 million and diluted earnings per share of $.17.
The Consumer and Commercial Services business unit achieved a 31 percent
increase in revenue to $1.8 billion and operating income of $221.7 million, 10
percent higher than last year. The segment's revenue growth includes the impact
of the LandCare USA and American Residential Services operations for the entire
six months. TruGreen ChemLawn reported good revenue and profit growth,
reflecting the benefits of price increases and acquisitions partially offset by
other volume challenges. Customer counts were at the same level as last year
which was an improvement over the first quarter comparison. Margins were
affected by increased operating and fuel costs experienced in the second
quarter. The Company expects to experience the higher labor and fuel costs in
the second half of the year. TruGreen LandCare reported double-digit revenue
growth from both internal sources and acquisitions, with a significant decline
in operating income reflecting longer than anticipated integration of the
LandCare businesses and higher labor and other operating costs. The Company has
addressed certain operating issues by strengthening the management
infrastructure in troubled regions. In addition, the Company is investing
resources to integrate and align the landscaping and lawn care services in order
to utilize the management strength of each service line to complement the other.
Terminix achieved solid revenue growth and a double-digit increase in profit,
reflecting solid increases in new termite contracts, strong growth in contract
renewals and productivity improvements. American Home Shield reported
double-digit growth in both revenues and profits, reflecting strong growth in
higher margin customer renewals and direct-to-consumer sales. The Company
anticipates continuing strength in contract sales but expects tighter margins in
the second half of the year due to higher service costs and the timing of
certain expenses. The combined ARS/Rescue Rooter operations reported significant
increases in revenues and profits, reflecting double-digit internal growth at
Rescue Rooter
11
<PAGE>
and an additional four months of revenue from the ARS acquisition (which closed
in late April last year). Management continues to make progress in improving the
financial condition, controls and employee morale at many of the ARS branch
locations that were performing poorly at the time of acquisition. Progress
continues in fulfilling the service needs of American Home Shield through ARS
with strong increases in completed service transactions. The franchise
operations, ServiceMaster Clean and Merry Maids, reported strong growth in
revenues and profits due to strong growth in both branch and franchise
operations and strong cost controls.
The Management Services business unit reported revenue growth of two percent to
$942 million and operating income of $37.6 million, consistent with last year.
As discussed in the three month comparison, the segment's results include a $6
million non-recurring benefit from the resolution of a foreign license
agreement. The business was affected by large terminations which resulted in a
revenue run rate that was two percent below the 1999 year end level. The
decrease in profits, before non-recurring items, reflects the loss of contracts,
costs to unwind these contracts as well as startup costs from a large new
contract with a for-profit hospital chain. The Company also continues to invest
in the Site Service outsourcing initiative and is encouraged by its progress.
Cost of services rendered and products sold increased 12 percent, due primarily
to general business growth and acquisitions. Cost of services decreased as a
percentage of revenue to 77.9 percent in 2000 from 78.0 percent in 1999. The
landscaping, HVAC and plumbing initiatives have affected this comparison because
their cost of services as a percentage of revenue is higher than the average for
the enterprise. Excluding these initiatives, cost of services rendered and
products sold decreased as a percentage of revenue to 76.4 percent from 77.8
percent in 1999. This decrease primarily reflects the changing mix of the
business as TruGreen ChemLawn and Terminix increase in size in relationship to
the overall business of the Company. The TruGreen ChemLawn and Terminix
businesses generally operate at higher gross margin levels than the rest of the
business, but also incur somewhat higher selling and administrative expenses as
a percentage of revenues.
Selling and administrative expenses increased 15 percent due to general business
growth and acquisitions, and increased as a percentage of revenue to 14.1
percent in 2000 from 13.7 percent in 1999. This increase as a percentage of
revenue is primarily attributable to the changing business mix of the Company
noted above.
Interest expense increased from the prior year, primarily due to increased debt
levels associated with acquisitions and share repurchases. The tax provision,
before non-recurring items, reflects a higher effective tax rate compared to
last year, primarily due to the non-deductibility of goodwill from acquisitions
completed in 1999.
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FINANCIAL POSITION
Net cash provided from operations of $123 million was significantly higher than
the first six months of 1999. There are two unusual tax timing items in the cash
flow statements: (i) a $22 million tax refund realized in the first quarter of
2000 and (ii) the payment of 1998 taxes in the first quarter of 1999.
Eliminating these items, cash provided from operations was $101 million, a $6
million decrease from 1999, reflecting higher working capital usage. The cash
flows reflect receivables and payables management below expectations in the
landscape business as this unit continues to work to realize the full benefits
of its financial system conversion. Due to the seasonality of the lawn care,
landscape and pest control operating cycles, the Company's working capital needs
are the highest during the first half of the year and have a significant impact
on funds provided from operations. Management believes that funds generated from
operations and other existing resources will continue to be adequate to satisfy
ongoing working capital needs of the Company.
Accounts and notes receivable increased from year-end levels, reflecting general
business growth and increased seasonal activity in the Consumer and Commercial
Services segment. Inventories increased over year-end levels as a result of
normal seasonal build-ups primarily in the lawn care business.
Prepaids and other assets have increased from year-end reflecting the
seasonality in the lawn care business. The lawn care operation defers certain
marketing costs that are incurred during the first six months, but are directly
associated with revenues realized in subsequent quarters of the current year.
These costs are then amortized over the balance of the current lawn care
production season, as the related revenues are recognized. Deferred revenues
also grew significantly, reflecting increases in customer prepayments for lawn
care services.
Property and equipment increased over year end due to general business growth.
Capital expenditures which include recurring capital needs is below prior year
levels when the Company funded several large technology projects. The Company
has no material capital commitments at this time.
Intangible assets increased from year end, reflecting the effect of
acquisitions, primarily in the lawn care, landscape, pest control and
HVAC/plumbing businesses.
Debt levels increased due to the seasonal nature of the Company's operating cash
flows combined with the effects of acquisitions, property additions, dividends
and share repurchases. The Company is party to a number of long-term debt
agreements which require it to maintain compliance 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 April 2000, the Company completed a senior unsecured debt offering of $250
million, 8.45 percent notes priced to yield 8.505 percent due April 15, 2005.
The net proceeds were used to repay a portion of the Company's borrowings under
its revolving bank credit facility, thereby, reducing the Company's exposure to
short term interest rate fluctuations.
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Total shareholders' equity was $1.2 billion at June 30, 2000 and December 31,
1999, reflecting earnings growth offset by cash dividends and treasury share
repurchases. Cash dividends paid directly to shareholders totaled $55 million or
$.18 per share for the six months ended June 30, 2000. In the quarter, the
Company repurchased $4 million of shares under the repurchase program announced
last year and for the year has repurchased $56 million. In July 2000, the
Company announced that its Board of Directors has authorized $350 million for a
share repurchase program. The shares will be repurchased over time in the open
market and in privately-negotiated transactions. This authorization replaces the
Company's previous authorization of $150 million announced in October 1999.
THE COMPANY NOTES THAT STATEMENTS THAT LOOK FORWARD IN TIME, WHICH INCLUDE
EVERYTHING OTHER THAN HISTORICAL INFORMATION, INVOLVE RISKS AND UNCERTAINTIES
THAT AFFECT THE COMPANY'S RESULTS OF OPERATIONS. FACTORS WHICH COULD CAUSE
ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE EXPRESSED OR IMPLIED IN A
FORWARD-LOOKING STATEMENT INCLUDE THE FOLLOWING (AMONG OTHERS): WEATHER
CONDITIONS ADVERSE TO CERTAIN OF THE COMPANY'S CONSUMER AND COMMERCIAL 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 COST AND LENGTH OF TIME TO INTEGRATE ACQUIRED BUSINESSES; UNEXPECTED
CHANGES IN OPERATING COSTS; THE CONDITION OF THE U.S. ECONOMY; AND OTHER FACTORS
LISTED FROM TIME TO TIME IN THE COMPANY'S FILINGS WITH THE SECURITIES AND
EXCHANGE COMMISSION.
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PART II. OTHER INFORMATION
ITEM 1: 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.
RAY D. MARTIN V. SERVICEMASTER. In June 1996, Ray D. Martin, a former salesman
employed by ServiceMaster's Management Services unit, filed a lawsuit in the
State Court of Fulton County, Georgia (Civ. Action File No. 96VS114677J), which
as originally filed contended that the Company had not paid him the full amount
of commission due to him on a sale in which he was involved. In the course of
the pre-trial proceedings, the trial court entered a default judgment against
the Company, thereby leaving the question of damages to be considered at the
trial. In September 1999, the jury awarded the plaintiff compensatory damages
and fees of approximately $1 million and punitive damages of $135 million. The
trial court entered final judgment for the plaintiff in a total amount of
$136,259,418. In October 1999, the Company filed a motion for judgment
notwithstanding the verdict or, in the alternative, for a new trial. On May 11,
2000, the trial court conditionally reduced compensatory damages to $461,440 and
the punitive damages award to $45 million. On May 23, 2000, Mr. Martin accepted
the reduced amount, subject to his right to appeal. On June 1, 2000 the trial
court entered a new judgment in the amount of $461,440 in compensatory damages
and $45 million in punitive damages, as well as amounts for attorney fees and
interest. The Company filed a notice of appeal that same day. On June 13, 2000,
Mr. Martin filed a notice of cross-appeal. ServiceMaster believes that the award
of $45 million in punitive damages is not supported by the facts of the case or
by applicable state law and that the judgment will be reversed by an appellate
court. Under Georgia law, a judgment accrues interest at the rate of 12% per
annum. The Company continues to not be able to reasonably estimate the ultimate
outcome of this case, and accordingly, minimal expense has been recorded. In the
event that the existing judgment is sustained, or the original judgment is
reinstated, after all appeals (which is not anticipated by the Company), it
would be likely that the Company's results of operations for a particular year
may be materially adversely affected. However, the Company believes, based on
advice from legal counsel, that the ultimate outcome of this litigation is not
expected to have a material adverse effect on the Company's financial condition
or results of operations. The Company does not anticipate a decision from the
Georgia Court of Appeals prior to April 1, 2001.
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ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) The 2000 Annual Meeting of Shareholders was held on April 28, 2000.
(b) The following persons are elected as Class of 2003 directors:
NAME VOTES FOR VOTES WITHHELD BROKER NON-VOTES
---- --------- -------------- ----------------
Glenda A. Hatchett 248,213,428 7,622,039 N/A
Herbert P. Hess 250,340,061 5,495,456 N/A
Michele M. Hunt 248,597,314 7,238,203 N/A
Dallen W. Peterson 249,746,669 6,088,848 N/A
David K. Wessner 250,512,449 5,323,069 N/A
No votes were cast for any other nominee for directors. The Class of 2001
directors continuing in officer are Brian Griffiths, Sidney E. Harris, Gunther
H. Knoedler, James D. McLennan and C. William Pollard. The Class of 2002
directors continuing in office are Paul W. Berezny, Carlos H. Cantu, Vincent C.
Nelson, Steven S Reinemund and Charles W. Stair.
A vote was taken to approve the 2000 Equity Incentive Plan as follows:
FOR AGAINST ABSTAIN BROKER NON-VOTES
--- ------- ------- ----------------
237,493,533 15,938,033 2,403,946 N/A
A vote was taken to approve the 2001 Long-Term Performance Award Plan as
follows:
FOR AGAINST ABSTAIN BROKER NON-VOTES
--- ------- ------- ----------------
237,432,300 15,802,203 2,601,010 N/A
A vote was taken to ratify the selection of Arthur Andersen LLP to serve as the
Company's independent auditor for 2000 as follows:
FOR AGAINST ABSTAIN BROKER NON-VOTES
--- ------- ------- ----------------
252,381,884 1,674,257 1,779,377 N/A
No other matters were submitted to shareholders.
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Date: August 14, 2000
THE SERVICEMASTER COMPANY
(Registrant)
By: /S/STEVEN C. PRESTON
----------------------------------------------
Steven C. Preston
Executive Vice President and Chief Financial Officer
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