<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 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: 0-11917
THE DAVEY TREE EXPERT COMPANY
(Exact name of Registrant as specified in its charter)
Ohio 34-0176110
(State of Incorporation) (IRS Employer Identification No.)
1500 North Mantua Street
P. O. Box 5193
Kent, Ohio 44240-5193
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (330) 673-9511
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Shares, $1 par value
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, and
(2) has been subject to such filing requirement for the past 90 days.
Yes X No
----- -----
The disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is
not contained herein, and will not be contained, to the best of Registrant's
knowledge, in definitive proxy or information statements incorporated by
reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X]
The aggregate "market value" (See Item 5 hereof) of voting stock held by non-
affiliates of the Registrant at March 22, 1999 (excluding the total number of
Common Shares reported in Item 12 hereof), was $128,093,664.
Common Shares outstanding at March 22, 1999: 4,002,927
Documents incorporated by reference: Portions of the Registrant's definitive
Proxy Statement for its 1999 Annual Meeting of Shareholders (Part III).
Index to Exhibits is located on sequential page 16.
<PAGE> 2
PART I
------
ITEM 1. BUSINESS.
GENERAL. The Davey Tree Expert Company, which was incorporated in 1909,
and its subsidiaries (the "Registrant") have two primary operating segments
which provide a variety of horticultural services to their respective customer
groups. Residential services provides for the treatment, preservation,
maintenance, cultivation, planting and removal of trees, shrubs and other plant
life; its services also include the practices of landscaping, tree surgery, tree
feeding, and tree spraying, as well as the application of fertilizers,
herbicides and insecticides. Utility services is principally engaged in the
practice of line clearing for public utilities. The Registrant also provides
commercial services and other services related to natural resource management
solutions, including urban and utility forestry research and development,
natural resources consulting and environmental planning.
COMPETITION AND CUSTOMERS. The Registrant's Residential services is one of
the largest national tree care organizations, and competes with other national
and local firms with respect to its services. On a national level, the
competition is primarily in the context of landscape construction and
maintenance as well as residential and commercial lawn care. At a local and
regional level, its competition comes mainly from other companies which are
engaged primarily in tree care. With respect to Utility services, the
Registrant is the second largest organization in its industry, and competes
principally with one major national competitor, as well as several smaller
regional firms.
Principal methods of competition in both operating segments are
advertising, customer service, image, performance and reputation. The
Registrant's program to meet its competition stresses the necessity for its
employees to have and project to the customers a thorough knowledge of all
horticultural services provided, and utilization of modern, well-maintained
equipment. Pricing is not always a critical factor in a customer's decision
with respect to Residential services; however, pricing is generally the
principal method of competition for the Registrant's Utility services, although
in most instances consideration is given to reputation and past production
performance.
The Registrant provides a wide range of horticultural services to private
companies, public utilities, local, state and federal agencies, and a variety of
industrial, commercial and residential customers. During 1998, the Registrant
had sales of approximately $55,000,000 (18% of total sales) to Pacific Gas &
Electric Company.
REGULATION AND ENVIRONMENT. The Registrant's facilities and operations, in
common with those of the industry generally, are subject to governmental
regulations designed to protect the environment. This is particularly important
with respect to the Registrant's services regarding insect and disease control,
because these services involve to a considerable degree the blending and
application of spray materials, which require formal licensing in most areas.
The constant changes in environmental conditions, environmental awareness,
technology and social attitudes make it necessary for the Registrant to maintain
a high degree of awareness of the impact such changes have on the market for its
services. The Registrant believes that it is in substantial compliance with
existing federal, state and local laws regulating the use of materials in its
spraying operations as well as the other aspects of its business that are
subject to any such regulation.
MARKETING. The Registrant solicits business from residential customers
principally through direct mail programs and to a lesser extent through the
placement of advertisements in national magazines and trade journals, local
newspapers and "yellow pages" telephone directories. Business from utility
customers is obtained principally through negotiated contracts and competitive
bidding. All sales and services are carried out through personnel
who are direct employees. The Registrant does not generally use agents and does
not franchise its name or business.
<PAGE> 3
SEASONALITY. The Registrant's business is seasonal, primarily due to
fluctuations in horticultural services provided to residential customers and to
a lesser extent by budget constraints imposed on its utility customers. Because
of this seasonality, the Registrant has historically incurred losses in the
first quarter, while sales and earnings are generally highest in the second and
third quarters of the calendar year. Consequently, this has created heavy
demands for additional working capital at various times throughout the year.
The Registrant borrows primarily against bank commitments in the form of a
revolving credit agreement with two banks to provide the necessary funds.
OTHER FACTORS. Rapid changes in equipment technology require a constant
updating of equipment and processes to ensure competitive services to the
Registrant's customers. Also, the Registrant must continue to assure its
compliance with the Occupational Safety and Health Act. In keeping with these
requirements, and to equip the Registrant for continued growth, capital
expenditures in 1998 and 1997 were approximately $34,009,000 and $27,003,000,
respectively.
The Registrant owns several trademarks including "Davey", "Davey and
design", "Arbor Green", "Davey Tree and design", "Davey Expert Co. and design"
and "Davey and design (Canada)". Through substantial advertising and use, the
Registrant is of the opinion that these trademarks have become of value in the
identification and acceptance of its products and services.
EMPLOYEES. The Registrant employs between 5,000 and 6,000, depending upon
the season, and considers its employee relations to be good.
FOREIGN AND DOMESTIC OPERATIONS. The Registrant sells its services to
customers in the United States and Canada.
The Registrant does not consider its foreign operations to be material and
considers the risks attendant to its business with foreign customers, other than
currency exchange risks, to be not materially different from those attendant to
business with its domestic customers.
<PAGE> 4
ITEM 2. PROPERTIES.
The following table lists certain information with respect to major
properties owned by the Registrant and used in connection with its operations.
<TABLE>
<CAPTION>
OPERATING BUILDING
LOCATION SEGMENT ACREAGE SQ. FT.
- -------- --------- ------- --------
<S> <C> <C> <C>
Baltimore, Maryland Residential 3.4 22,500
Bettendorf, Iowa Residential .5 478
Cincinnati, Ohio Residential 2.5 8,800
Chamblee, Georgia Residential & Utility 1.9 6,200
Chantilly, Virginia Residential 4.0 5,700
Charlotte, North Carolina Residential & Utility 3.1 4,900
Cheektowaga, New York Other 6.9 2,800
Columbus, Ohio Residential 8.0 15,925
Downsview, Ontario, Canada Residential .5 3,675
East Dundee, Illinois Residential & Utility 4.0 7,500
Edmonton, Alberta, Canada Utility .7 2,900
Gaithersburg, Maryland Residential 2.1 7,200
Gibsonia, Pennsylvania Residential 5.9 7,100
Hinsdale, Illinois Residential 1.7 7,200
Houston, Texas Residential 1.5 7,000
Indianapolis, Indiana Residential 1.5 5,000
Jacksonville, Florida - Nursery Residential 279.0 5,300
Kent, Ohio (multiple parcels) - Corporate Headquarters Other 101.4 111,608
Lachine, Quebec, Canada Residential .5 2,300
Lancaster, New York Residential 3.0 6,624
Lawrence, Pennsylvania Residential 3.5 7,200
Livermore, California Utility 12.0 29,737
Mecklenburg County, North Carolina Utility 15.6 -0-
Nanaimo, British Columbia, Canada Other 1.0 4,742
Plymouth, Minnesota Residential 2.7 11,750
Richmond, Virginia Residential .7 2,586
Stow, Ohio Residential 7.4 14,100
Toledo, Ohio Residential .5 4,300
Troy, Michigan Residential 2.0 7,200
West Babylon, New York Residential .9 14,100
West Carlton Twp., Ontario, Canada Residential 3.1 4,000
Wheeling, Illinois Residential 5.0 11,300
Winter Park, Florida Utility 1.0 5,850
Wooster, Ohio - Nursery Residential 322.8 13,194
</TABLE>
The Registrant also rents approximately 70 other premises for office and
warehouse use. The Registrant believes that all of these properties have been
adequately maintained and are suitable and adequate for its business as
presently conducted.
<PAGE> 5
ITEM 3. LEGAL PROCEEDINGS.
There are no legal proceedings, other than ordinary routine litigation
incidental to the business, to which the Registrant or any of its subsidiaries
is a party or of which any of their property is the subject. This routine
litigation is not material to the Registrant.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matter was submitted during the fourth quarter of 1998 to a vote of
security holders, through the solicitation of proxies or otherwise.
Executive Officers of the Registrant (included pursuant to Instruction 3 to
paragraph (b) of Item 401 of Regulation S-K) and their present positions and
ages are as follows:
<TABLE>
<CAPTION>
NAME POSITION AGE
- ---- -------- ---
<S> <C> <C>
R. Douglas Cowan Chairman and Chief Executive Officer 58
Karl J. Warnke President and Chief Operating Officer 47
David E. Adante Executive Vice President, Chief 47
Financial Officer and Secretary-Treasurer
Howard D. Bowles Vice President and General Manager, 55
Davey Tree Surgery Company
C. Kenneth Celmer Vice President and General Manager, 52
Residential Services
Bradley L. Comport, CPA Corporate Controller 47
Dr. Roger C. Funk Vice President and General Manager, 54
The Davey Institute
Rosemary T. Nicholas Assistant Secretary 55
Marjorie L. Conner, Esquire Assistant Secretary 41
Gordon L. Ober Vice President - New Ventures 49
Richard A. Ramsey Vice President and General Manager, 49
Commercial Services
Wayne M. Parker Vice President - Northern Operations, 43
Utility Services
</TABLE>
Mr. Cowan was elected Chairman and Chief Executive Officer on March 11, 1999.
Previously he had served as Chairman, President and Chief Executive Officer
since May 1997. Prior to that time, he served as President and Chief Executive
Officer since before 1994.
Mr. Warnke was elected President and Chief Operating Officer on March 11,
1999. Prior to that time, he served as Executive Vice President and General
Manager - Utility Services since before 1994.
<PAGE> 6
Mr. Adante was elected Executive Vice President, Chief Financial Officer and
Secretary - Treasurer in May 1993.
Mr. Bowles was elected Vice President and General Manager of Davey Tree
Surgery Company in January 1992.
Mr. Celmer was elected Vice President and General Manager - Residential
Services in January 1995. Prior to that time, he served as Vice President -
Eastern Operations, Residential and Commercial Services since before 1994.
Mr. Comport was elected Corporate Controller in May 1990.
Dr. Funk was elected Vice President and General Manager - The Davey
Institute in May 1996. Prior to that time he served as Vice President - Human
and Technical Resources since before 1994.
Ms. Nicholas was elected Assistant Secretary in May 1982.
Ms. Conner was elected Assistant Secretary in May 1998. Prior to that time
she served as Manager of Legal and Treasury Services since February 1995 and as
Assistant Controller since before 1994.
Mr. Ober was elected Vice President - New Ventures in March 1986.
Mr. Ramsey was elected Vice President and General Manager - Commercial
Services in January 1995. Prior to that time, he served as Vice President -
Western Operations, Residential and Commercial Services since before 1994.
Mr. Parker was elected Vice President - Northern Operations, Utility
Services in May 1994. Prior to that time and since before 1994, he served in
several positions in utility operations.
Officers of the Registrant serve for a term of office from the date of their
election to the next organizational meeting of the Board of Directors and until
their respective successors are elected.
PART II
-------
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
At December 31, 1998, 1997, and 1996 the number of Common Shares issued were
8,728,440 for each date. At those respective dates, the number of shares in the
treasury were 4,736,785, 4,429,205 and 4,209,623.
The Registrant's Common Shares are not listed or traded on an established
public trading market and market prices are, therefore, not available. Semi-
annually, for purposes of the Registrant's 401KSOP and ESOP, the fair market
value of the Registrant's Common Shares, based upon the Registrant's performance
and financial condition, is determined by an independent stock valuation firm.
<PAGE> 7
As of March 22, 1999, there were 1,920 recorded holders of the Registrant's
Common Shares. During the years ended December 31, 1998, December 31, 1997 and
December 31, 1996, the Registrant paid dividends of $.38, $.34, and $.295,
respectively, per share. Approximately one quarter of the total dividend
payment is made in each of the four quarters. The Registrant's agreements with
its lenders allow for the payment of cash dividends provided that the terms and
conditions of the agreements, particularly those dealing with its shareholders'
equity, fixed charge coverage ratio and maximum consolidated funded debt to
consolidated funded debt plus consolidated net worth ratio, are maintained.
(See Note 6 to the Financial Statements on page F-16 of this Annual Report on
Form 10-K.)
ITEM 6. SELECTED FINANCIAL DATA.
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31
-----------------------------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
(Dollars in Thousands, except per share data)
<S> <C> <C> <C> <C> <C>
Operating Results:
Revenues $ 313,887 $ 295,079 $ 266,934 $ 229,682 $ 209,683
Earnings from Continuing
Operations $ 10,597 $ 11,279 $ 8,759 $ 6,137 $ 4,189
Earnings from Continuing
Operations Per Common Share $ 2.57 $ 2.57 $ 1.92 $ 1.29 $ .85
Earnings from Continuing
Operations Per Common Share -
Assuming Dilution $ 2.30 $ 2.39 $ 1.86 $ 1.27 $ .84
At Year End:
Total Assets $ 149,086 $ 127,825 $ 111,386 $ 104,161 $ 98,486
Total Long-Term Debt $ 42,893 $ 24,104 $ 19,640 $ 17,049 $ 21,124
Cash Dividends Per Common Share $ .38 $ .34 $ .295 $ .275 $ .26
</TABLE>
In 1995 the Registrant sold its interior plant care business. Operating
results for 1995 and 1994 have accordingly been restated for this
discontinued operation.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
LIQUIDITY AND CAPITAL RESOURCES
Operating activities provided $28,193,000 in cash, an increase of $1,259,000
when compared to the $26,934,000 provided in 1997. This increase occurred
despite a decline in net earnings for the year, and is attributable to a higher
level of depreciation, an increase in the Registrant's net deferred tax
liability, a lower increase in other assets, and increases in accounts payable
and accrued liabilities. These increases were partially offset by an increase
in accounts receivable and reductions in insurance and other liabilities.
<PAGE> 8
Net earnings of $10,597,000 declined $682,000 or 6.0% when compared to the
$11,279,000 earned in 1997, and the decline occurred even though the
Registrant's two primary operating segments, Utility and Residential, realized
increased operating earnings. Utility services improvement was driven largely
by additional work obtained in its western and southern operations; the former
continues to be primarily a function of the more stringent utility line
clearance standards promulgated by the state of California, while the latter is
mainly the result of new contracts obtained in the ordinary course of business,
as well as a heightened focus on operating efficiencies and consequent cost
reductions. Notwithstanding these improvements, the overall decline in net
earnings resulted from two factors. First, the Registrant completed a
significant consulting service contract in 1997. Second, it incurred expense in
the current year of approximately $3,000,000 related to its implementation of a
new enterprise-wide information system, a process which commenced in January
1998.
Depreciation increased $2,563,000, the result of higher levels of capital
expenditures in the current and immediately preceding two years.
The Registrant's deferred tax expense of $2,397,000 represents a net
increase of $3,214,000 from last year's deferred tax benefit of $817,000, and is
principally the result of a higher level of accelerated depreciation for tax
purposes in the current year.
Other assets increased only $59,000, $2,817,000 less than the increase
experienced in 1997. Last year's increase resulted from an escrow deposit on
real property to be used as a branch office facility in the Registrant's
Residential services; the transaction was completed in 1998.
Accounts payable and accrued liabilities increased $5,595,000 in 1998, or
$2,989,000 more than the increase experienced last year. The increase is mainly
due to a higher level of accounts payable associated with consulting services
performed in conjunction with the Registrant's development of its enterprise-
wide information system, as well as higher compensation related accruals
associated with its increased levels of revenue and operating earnings in its
primary operating segments.
Accounts receivable increased $7,594,000 to $51,490,000, $3,503,000 more
than the increase in 1998. Days outstanding increased 1.2 days to 63.7 days
from 62.5 days in 1997. Substantially all of the increase in the level of
accounts receivable and days outstanding has been realized in the Registrant's
Residential services. The Registrant is not concerned as to the overall
collectibility of accounts and continues its efforts to reduce both the level of
accounts receivable and days outstanding. It also performs ongoing credit
evaluations of its customers' financial condition for collection purposes, and
when determined necessary, it provides an allowance for doubtful accounts.
Insurance liabilities declined by $885,000, a net change of $3,424,000 when
compared to the 1997 increase of $2,539,000. This reduction is a function of
relatively stable levels of estimated ultimate costs resulting from a generally
mature self-insurance program, coupled with an acceleration in claims payments.
As has been experienced throughout 1998, this acceleration in claims payments is
due to an anticipated "catching up" in processing by the Registrant's excess
insurer and claims administrator; these payments had generally lagged during the
transition to this insurer since September 1996. The most significant estimates
made by the Registrant that affect the amounts reported in the financial
statements and accompanying notes are those relating to its insurance
liabilities (see Note 3 on page F-13 of this Annual Report on Form 10-K).
The Registrant's other liabilities decreased $1,233,000, a net change of
$2,478,000 when compared to the increase of $1,245,000 in 1997. Most of the
change can be attributed to the Registrant's payment of its 1997 income tax
liability in the current year.
Investing activities used $32,841,000 in cash, an increase of $6,527,000
over last year. The increase is mainly attributable to costs capitalized in
conjunction with the development of the Registrant's new enterprise-wide
information system.
<PAGE> 9
Financing activities provided $5,190,000 in cash, a $5,715,000 increase when
compared to the $525,000 used in 1997. Proceeds from issuance of long-term
debt, net of principal repayments, totaled $16,496,000, $11,518,000 more than
last year. The additional long-term borrowings were necessitated by the higher
level of capital expenditures previously discussed, as well as by the repurchase
of $12,150,000 of its common shares, an increase of $6,232,000. The current
year increase in shares repurchased was due to a combination of several factors.
First, there was favorable movement in the independent valuation of the
Registrant's common shares, which resulted in a higher level of transactions
generally. Second, the Registrant experienced a relatively higher level of
retirements and consequent repurchases of shares from the Employee Stock
Ownership Trust. Finally, a portion of these purchases were attributable to
redemptions from two directors related to or in contemplation of their
retirements from the Board.
At December 31, 1998, the Registrant's principal source of liquidity
consisted of $1,264,000 in cash and cash equivalents; short term lines of credit
and amounts available to be borrowed from banks via notes payable totaling
$4,600,000, of which $710,000 was considered drawn to cover outstanding letters
of credit; and the revolving credit agreement and temporary line of credit
totaling $70,000,000, of which $30,900,000 was drawn and $9,715,000 was
considered drawn to cover outstanding letters of credit. Including the
outstanding term note agreement, at that date the Registrant's credit facilities
totaled $84,600,000. The Registrant believes its available credit will exceed
credit requirements, and that its liquidity is adequate.
LIQUIDITY MEASUREMENTS
As previously discussed, management uses these measurements primarily to
gauge the Registrant's ability to meet working capital requirements, fund
capital expenditures, and repurchase its common shares.
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Net cash provided by operating activities $ 28,193 $ 26,934 $ 17,104
Net cash used in investing activities $(32,841) $ (26,314) $(17,263)
Net cash provided by (used in)
financing activities $ 5,190 $ (525) $ (684)
</TABLE>
The Registrant also uses the following additional measures in its evaluation.
They are not an alternative to earnings determined in accordance with generally
accepted accounting principles (GAAP) as a measure of financial performance or
to GAAP cash flow as a measure of liquidity.
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Working capital $ 28,172 $ 19,194 $ 19,283
Current ratio 1.8:1 1.6:1 1.7:1
Cash flow from net earnings,
depreciation and amortization $ 30,531 $ 28,654 $ 23,449
Capital expenditures $ 34,009 $ 27,003 $ 18,121
Cash flow to capital expenditures ratio .9:1 1.1:1 1.3:1
Cash flow as percentage of revenues 9.7% 9.7% 8.8%
</TABLE>
<PAGE> 10
LEVERAGE MEASUREMENTS
These ratios measure the extent to which the Registrant has been financed by
debt, or, put another way, the proportion of the total assets employed in the
business that have been provided by creditors as compared to shareholders. Debt
is defined as total liabilities.
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Equity to debt ratio .62:1 .83:1 .89:1
Debt as percentage of assets 61.6% 54.7% 52.9%
Equity as percentage of assets 38.4% 45.3% 47.1%
</TABLE>
At the end of 1998, these measurements reflect a greater degree of leverage
when compared with 1997 due primarily to the additional borrowings incurred to
fund the significantly higher level of capital expenditures and common share
repurchases.
COMMON SHARE MEASUREMENTS
These measurements assist shareholders in assessing the Registrant's earnings
performance, dividend payout and equity position as related to their
shareholdings.
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Net earnings per share-assuming dilution $ 2.30 $ 2.39 $ 1.86
Dividends per share $ .38 $ .34 $ .295
Book value per share $ 14.35 $ 13.46 $ 11.61
Market valuation per share $ 32.00 $ 26.05 $ 18.20
</TABLE>
Net earnings per share - assuming dilution includes the dilutive effects of
employee and director stock options in each of the years presented. Dividends
were again increased in 1998. In 1998, they were increased by a total of $.04
per share, or 11.8% over 1997, compared to an increase in 1997 of $.045 per
share, or 15.3% over 1996. It is the Registrant's objective to provide a fair
return on investment to its shareholders through improved dividends as long as
the Registrant can financially justify this policy. The fact that dividends
have increased each year since 1979 reflects that objective.
ASSET UTILIZATION MEASUREMENTS
Management uses these measurements to evaluate its efficiency in employing
assets to generate revenues and returns.
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Average assets employed $ 138,456 $ 119,606 $ 107,774
Asset turnover (revenues to average assets) 2.3 2.5 2.5
Return on average assets 7.7% 9.4% 8.1%
</TABLE>
<PAGE> 11
MARKET RISK
The Registrant's interest expense is most sensitive to changes in the general
level of U.S. interest rates; in this regard, changes in these rates affect the
interest paid on its debt. To partially mitigate the impact of fluctuations in
interest rates, the Registrant has entered into interest rate exchange
agreements (swaps) on its term note agreement.
The following table provides information about the Registrant's financial
instruments and swaps that are sensitive to changes in interest rates. For debt
obligations, the table presents principal cash flows and related weighted-
average interest rates by expected maturity dates. For the interest rate swap
related to the Registrant's term note, the table presents notional amounts and
actual pay, receive rates by contractual maturity dates. For presentation
purposes, it has been assumed that the December 31, 1998 balance under the
Registrant's revolving credit agreement will remain outstanding for the years
shown.
<TABLE>
<CAPTION>
INTEREST RATE SENSITIVITY
PRINCIPAL (NOTIONAL) AMOUNT BY EFFECTED MATURITY
AVERAGE INTEREST (SWAP) RATE
FAIR
VALUE
1999 2000 2001 2002 2003 THEREAFTER TOTAL 12-31-98
---- ---- ---- ---- ---- ---------- ----- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Long-term debt, including
current portion
Fixed rate $ 347 $ 36 $ 40 $ 40 $ 44 $ 160 $ 667 $ 680
Average interest rate 9.5% 10.4% 10.4% 10.3% 10.2% 10.0%
Variable rate:
a) Term note - $ 1,500 $ 2,000 $ 2,000 $ 2,000 $ 2,500 $10,000 $10,000
Average interest rate LIBOR LIBOR LIBOR LIBOR LIBOR LIBOR
plus plus plus plus plus plus
(1.00% to (1.00% to (1.00% to (1.00% to (1.00% to (1.00% to
1.50%) 1.50%) 1.50%) 1.50%) 1.50%) 1.50%)
b) Subordinated notes $ 508 $ 508 $ 389 $ 388 $ 388 - $ 2,181 $ 2,181
Average interest rate 5-year 5-year 5-year 5-year 5-year
U.S. U.S. U.S. U.S. U.S.
Treasury Treasury Treasury Treasury Treasury
c) Revolving credit agreement, assuming renewal upon maturity
i. Prime borrowings - - - - - $ 2,900 $ 2,900 $ 2,900
Average interest rate prime prime prime prime prime prime
ii.Libor borrowings - - - - - $ 28,000 $28,000 $28,000
Average interest rate LIBOR LIBOR LIBOR LIBOR LIBOR LIBOR
plus plus plus plus plus plus
(.9% to (.9% to (.9% to (.9% to (.9% to (.9% to
1.4%) 1.4%) 1.4%) 1.4%) 1.4%) 1.4%)
Interest rate derivative financial
instruments related to term note:
Interest rate swap:
Pay fixed $ 1,500 $ 2,000 $ 2,000 $ 2,000 $ 2,500 $10,000 $ (335)
Average pay rate 6.09% plus 6.09% plus 6.09% plus 6.09% plus 6.09% plus
(1.00% to (1.00% to (1.00% to (1.00% to (1.00% to
1.50%) 1.50%) 1.50%) 1.50%) 1.50%)
Average receive rate LIBOR LIBOR LIBOR LIBOR LIBOR
</TABLE>
The Registrant's Canadian operations subject the Company to currency rate
exposure related to its foreign denominated debt, intercompany debt and cash and
cash equivalents. The Registrant periodically borrows against its Canadian
lines of credit, on which there were no amounts outstanding at December 31,
1998. All other foreign denominated financial instruments are not material.
<PAGE> 12
RESULTS OF OPERATIONS
Revenues of $313,887,000 for the year increased $18,808,000 or 6.4% when
compared to the $295,079,000 realized in 1997. This compares with increases of
10.5% and 16.2% in 1997 and 1996, respectively. The current year increase was
attributable to revenue growth in Utility and Residential services. As
previously mentioned, the increase in Utility services revenue was derived
principally from additional work obtained in its western and southern
operations, while Residential services continues to benefit from good economic
conditions and a focused sales effort. The 1998 revenues of $55,000,000 earned
by the Registrant with its major U.S. customer represent a significant
concentration (See Note 2 to the Financial Statements on page F-11 of this
Annual Report on Form 10-K). The Registrant expects that its 1999 revenues will
increase slightly less as a percent than in 1998.
Operating costs of $210,921,000 increased $13,195,000 over 1997, and as a
percentage of revenues they increased .2% to 67.2%. The percentage increase was
primarily influenced by higher operating costs associated with a relatively
higher increase in Utility services revenues compared to that of Residential
services, as well as a significantly lower level of Consulting service revenues.
Utility services, in contrast with Residential and Consulting services,
adversely affect operating costs in that they are generally lower priced
services with inherently lower gross margins and attendant higher operating
costs. The Registrant anticipates that as a percentage of revenues, 1999
operating costs will approximate 1998 levels.
Selling costs for 1998 increased $1,769,000 to $39,601,000, but as a
percentage of revenues they declined .2% to 12.6%. The dollar increase
continues to result from higher commissions and branch office expenses
associated with higher Residential service revenues; the decline as a percentage
of revenues is primarily due to a lower level of travel and other sales costs
related to the Registrant's Consulting services, the result of completing a
major contract in 1997.
General and administrative expense of $22,764,000 was $2,467,000 higher than
in 1997, and as a percentage of revenues these costs increased .3% to 7.2%. The
increases are due to costs associated with the Registrant's implementation of an
enterprise-wide information system.
In 1997, the Registrant completed development of its information technology
plan for the purpose of replacing its existing legacy systems with this new
system. Of primary importance and in accord with the information technology
plan, the new system will significantly enhance the Registrant's processes and
its ability to support future growth. The software vendor has also represented
that this new system is year 2000 compliant. In January 1998, the Registrant
acquired and commenced implementation of this new information system. The
Registrant estimates implementation will be completed by June of 1999.
Consistent with the implementation schedule, the blueprint phase of the project
had been completed as of July 4, 1998. Configuration, data conversion, testing,
and going live will follow over the remaining term of the implementation
schedule. The Registrant's current estimate for the ultimate cost of this new
system is approximately $13,500,000. Of this total, $3,000,000 has been
expensed in 1998 and $8,800,000, consisting of hardware, software license fees,
consulting and internal personnel costs related to design and configuration, has
been capitalized. The Registrant expects that depreciation of these costs will
commence in 1999, as system modules are ready to be placed in service.
The Registrant has not fully addressed the year 2000 readiness of its non-IT
systems, those systems with embedded technology, but recognizes the need to do
so over the next two quarters. The exception to this is that concurrent
with implementation of the new enterprise-wide application, the Registrant, with
assistance from outside consultants, obtained competitive proposals from several
major vendors to provide it with telecommunication services throughout North
America. One critical element that the Registrant evaluated in these proposals
was the year 2000 readiness of each vendor. The telecommunication services
provider selection process was completed in 1998. The Registrant has also
upgraded its corporate headquarters phone software at a cost of $60,000.
<PAGE> 13
The Registrant continues to assess the year 2000 readiness of external
entities with which it interfaces. Material relationships include, but are not
limited to, those with existing utility customers in which electronic billing is
required as well as vendors such as the Registrant's principal bank which will
provide or already provides such services as lockbox processing, treasury
management services, and benefit plan administration. It is anticipated that
the assessment of year 2000 issues with material third party relationships will
be completed over the term of the enterprise-wide system implementation
schedule.
The Registrant currently is uncertain with respect to its most reasonably
likely worst case year 2000 scenario, but believes that most issues will have
been identified prior to going live with its enterprise-wide information system.
Given this uncertainty, the Registrant also has no contingency plans, but will,
to the extent considered necessary under the circumstances, develop such plans
as issues are identified.
The preceding comments regarding the year 2000 are forward looking
statements and, as such, represent the Registrant's best faith estimates of
costs that will be incurred. There can be no assurance that these estimates are
accurate.
Depreciation and amortization of $19,934,000 increased $2,559,000 or .5% as
a percentage of revenues. The dollar and percentage increases continue to
result from a relatively higher level of capital expenditures for equipment
primarily to support Utility and Residential services.
Interest expense of $3,391,000 was $688,000 higher than in 1997, and as a
percentage of revenues it increased .2% from .9 to 1.1%. The increase was due
to the substantially higher debt levels in 1998.
Earnings before income taxes declined $1,410,000 to $17,841,000, and as a
percentage of revenues they decreased .8% to 5.7%. The tax provisions for 1998,
1997, and 1996 resulted in effective tax rates of 40.6%, 41.4%, and 41.0%,
respectively. (See Note 10 of the Financial Statements on page F-21 on this
Annual Report on Form 10-K.)
The Registrant's net earnings of $10,597,000 decreased $682,000 or 6.0%
compared to 1997, and as a percentage of revenues they declined .4% to 3.4%.
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The independent auditors' report, the audited consolidated financial
statements, and the notes to the audited consolidated financial statements
required by this Item 8 appear on pages F-1 through F-22 of this Annual Report
on Form 10-K.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Not Applicable.
PART III
--------
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Reference is made to Part I of this Report for information as to executive
officers of the Registrant.
The information regarding directors of the Registrant appearing under the
heading "Election of Directors" in the Registrant's definitive Proxy Statement
for its 1999 Annual Meeting of Shareholders is hereby incorporated by reference.
<PAGE> 14
ITEM 11. EXECUTIVE COMPENSATION.
The information regarding compensation of the Registrant's executive
officers appearing under the heading "Remuneration of Executive Officers" in the
Registrant's definitive Proxy Statement for its 1999 Annual Meeting of
Shareholders is hereby incorporated by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information regarding the security ownership of certain beneficial
owners and management appearing under the heading "Ownership of Common Shares"
in the Registrant's definitive Proxy Statement for its 1999 Annual Meeting of
Shareholders is hereby incorporated by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information regarding certain relationships and related transactions
appearing under the headings "Election of Directors" and "Indebtedness of
Management" in the Registrant's definitive Proxy Statement for its 1999 Annual
Meeting of Shareholders is hereby incorporated by reference.
PART IV
-------
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a) (1) and (a) (2) Financial Statements and Schedules. See the Index to
Financial Statements and Financial Statement Schedules on page F-1 of this
Annual Report on Form 10-K.
(a) (3) Exhibits. See the Index to Exhibits on sequentially numbered page
16 of this Annual Report on Form 10-K.
(b) Reports on Form 8-K. No reports on Form 8-K were filed during the last
quarter of the period covered by this Annual Report on Form 10-K.
<PAGE> 15
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities and
Exchange Act of 1934, the Registrant has duly caused this Annual Report on Form
10-K to be signed on its behalf by the undersigned thereunto duly authorized.
THE DAVEY TREE EXPERT COMPANY
By: /s/ R. Douglas Cowan
-----------------------------------
R. D. Cowan, Chairman and
Chief Executive Officer
March 25, 1999
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Annual Report Form 10-K has been signed below by the following persons on behalf
of the Registrant and in the capacities indicated on March 25, 1999.
/s/ R. Douglas Cowan /s/ Douglas K. Hall
- ---------------------------- ----------------------------
R. DOUGLAS COWAN, Director; DOUGLAS K. HALL, Director
Chairman and Chief
Executive Officer
(Principal Executive Officer)
/s/ J.W. Joy
----------------------------
J. W. JOY, Director
/s/ R. Cary Blair
- ----------------------------
R. CARY BLAIR, Director
/s/ James H. Miller
----------------------------
JAMES H. MILLER, Director
/s/ Richard E. Dunn
- ----------------------------
RICHARD E. DUNN, Director
/s/ Thomas G. Murdough, Jr.
----------------------------
THOMAS G. MURDOUGH, JR., Director
/s/ Russell R. Gifford
- ----------------------------
RUSSELL R. GIFFORD, Director
/s/ David E. Adante
----------------------------
DAVID E. ADANTE, Executive Vice
/s/ William D. Ginn President, Chief Financial Officer and
- ---------------------------- Secretary-Treasurer
WILLIAM D. GINN, Director (Principal Financial Officer)
/s/ Richard S. Gray /s/ Bradley L. Comport
- ---------------------------- ----------------------------
RICHARD S. GRAY, Director BRADLEY L. COMPORT, Corporate
Controller (Principal Accounting
Officer)
<PAGE> 16
<TABLE>
<CAPTION>
INDEX OF EXHIBITS
[Item 14(a) (3)]
LOCATION
EXHIBIT NO. DESCRIPTION SEQUENTIAL PAGE
- ----------- ----------- ---------------
<S> <C> <S>
(2) Plan of acquisition, reorganization, Not Applicable.
arrangement, liquidation or succession.
(3)(i) 1991 Amended Articles of Incorporation Incorporated by
reference to Exhibit
3 (i) to the
Registrant's Annual
Report on Form 10-K
for the year ended
December 31, 1996.
(3)(ii) 1987 Amended and Restated Regulations Incorporated by
of The Davey Tree Expert Company reference to Exhibit
3 (ii) to the
Registrant's Annual
Report on Form 10-K
for the year ended
December 31, 1996.
(4) Instruments defining the rights of The Company is a
Security holders, including indentures party to certain
instruments, copies
of which will be
furnished to the
Securities and
Exchange Commission
upon request,
defining the rights
of holders of long-
term debt identified
in Note 6 of Notes
to Consolidated
Financial Statements
on page F-16 of this
Annual Report on
Form 10-K.
(9) Voting Trust Agreement Not Applicable.
(10)(a) 1987 Incentive Stock Option Plan Incorporated by
reference to Exhibit
(10) (a) to the
Registrant's Annual
Report on Form 10-K
for the year ended
December 31, 1997.
(10)(b) 1994 Omnibus Stock Plan Incorporated by
reference to Exhibit
10 (c) to the
Registrant's Form
10-Q for the quarter
ended July 2, 1994.
(11) Statement re computation of per share Not Applicable.
earnings
(12) Statement re computation of ratios Not Applicable.
(13) Annual Report to security holders, Not Applicable.
Form 10-Q or quarterly report to
security holders
(16) Letter re change in certifying Not Applicable.
accountant
</TABLE>
<PAGE> 17
<TABLE>
<CAPTION>
LOCATION
EXHIBIT NO. DESCRIPTION SEQUENTIAL PAGE
- ----------- ----------- ---------------
<S> <C> <C>
(18) Letter re change in accounting
principles Not Applicable.
(21) Subsidiaries of the Registrant 18
(22) Published report regarding matters Incorporated by
submitted to vote of security holders reference to Part II,
Item 4 to the
Registrant's Form
for the quarter ended
June 28, 1997.
(23) Consent of independent auditors 19
to incorporation of their report
in Registrant's Statements on
Form S-8 (File Nos. 2-73052,
2-77353, 33-5755, 33-21072, and
33-59347) and Form S-2
(File No. 33-30970)
(24) Power of Attorney Not Applicable.
(27) Financial Data Schedule 20
</TABLE>
The documents listed as Exhibits 10(a) and 10(b) constitute management contracts
or compensatory plans or arrangements.
<PAGE> 18
EXHIBIT 21
----------
SUBSIDIARIES OF THE REGISTRANT
The Registrant has two wholly-owned subsidiaries, Davey Tree Surgery Company
(incorporated in Ohio), and the Davey Tree Expert Co. of Canada, Limited
(incorporated in Canada), each of which did business in 1998 under its corporate
name.
<PAGE> 19
EXHIBIT 23
----------
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in Registration Statement Nos.
2-73052, as amended, 2-77353, 33-5755, 33-21072 and 33-59347 on Forms S-8
relating to The Davey Tree Expert Company 1980 Employee Stock Option Plan, The
Davey Tree Expert Company 1982 Employee Stock Option Plan, The Davey Tree Expert
Company 1985 Incentive Stock Option Plan, The Davey Tree Expert Company 1987
Incentive Stock Option Plan and The Davey Tree Expert Company 1994 Omnibus Stock
Plan, and in Registration Statement No. 33-30970 on Form S-2 relating to The
Davey Tree Expert Company 1989 Stock Subscription Plan and in the related
prospectus, of our report dated February 12, 1999 appearing in this Annual
Report on Form 10-K of The Davey Tree Expert Company for the year ended
December 31, 1998.
/s/DELOITTE & TOUCHE LLP
Cleveland, Ohio
March 24, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<EXCHANGE-RATE> 1
<CASH> 1,264
<SECURITIES> 0
<RECEIVABLES> 51,490
<ALLOWANCES> 314
<INVENTORY> 2,644
<CURRENT-ASSETS> 61,248
<PP&E> 211,678
<DEPRECIATION> 132,245
<TOTAL-ASSETS> 149,086
<CURRENT-LIABILITIES> 33,256
<BONDS> 0
0
0
<COMMON> 8,728
<OTHER-SE> 48,540
<TOTAL-LIABILITY-AND-EQUITY> 149,086
<SALES> 0
<TOTAL-REVENUES> 313,887
<CGS> 0
<TOTAL-COSTS> 293,220
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 3,391
<INCOME-PRETAX> 17,841
<INCOME-TAX> 7,244
<INCOME-CONTINUING> 10,597
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 10,597
<EPS-PRIMARY> 2.57
<EPS-DILUTED> 2.30
</TABLE>
<PAGE> F-1
INDEX TO FINANCIAL STATEMENTS
AND FINANCIAL STATEMENT SCHEDULES
[Items 14(a)(1) and (2)]
<TABLE>
<CAPTION>
DESCRIPTION PAGE
- ----------- ----
<S> <C>
Independent Auditors' Report F-2
Consolidated Balance Sheets as of December 31, 1998, 1997 and 1996 F-3
Consolidated Statements of Net Earnings for the years ended F-5
December 31, 1998, 1997 and 1996
Consolidated Statements of Shareholders' Equity for the years ended F-6
December 31, 1998, 1997 and 1996
Consolidated Statements of Cash Flows for the years ended F-8
December 31, 1998, 1997 and 1996
Notes to Consolidated Financial Statements for the years ended F-9
December 31, 1998, 1997 and 1996
</TABLE>
<PAGE> F-2
INDEPENDENT AUDITORS' REPORT
To the Shareholders and Board of Directors
The Davey Tree Expert Company
Kent, Ohio
We have audited the accompanying consolidated balance sheets of The Davey Tree
Expert Company and subsidiary companies as of December 31, 1998, 1997, and 1996,
and the related consolidated statements of net earnings, shareholders' equity,
and cash flows for the years then ended. 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, such consolidated financial statements present fairly, in all
material respects, the financial position of The Davey Tree Expert Company and
subsidiary companies as of December 31, 1998, 1997, and 1996, and the results of
their operations and their cash flows for the years then ended in conformity
with generally accepted accounting principles.
/s/ DELOITTE & TOUCHE LLP
Cleveland, Ohio
February 12, 1999
<PAGE> F-3
THE DAVEY TREE EXPERT COMPANY AND SUBSIDIARY COMPANIES
CONSOLIDATED BALANCE SHEETS
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
December 31
1998 1997 1996
(Dollars in Thousands)
ASSETS
<S> <C> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 1,264 $ 722 $ 627
Accounts receivable 51,490 43,896 39,805
Operating supplies 2,644 2,662 2,477
Prepaid expenses and other assets 2,940 2,724 2,023
Refundable income taxes 1,248
Deferred income taxes 1,842 2,032 1,786
---------- ---------- ----------
Total current assets 61,428 52,036 46,718
PROPERTY AND EQUIPMENT:
Land and land improvements 6,325 6,283 6,178
Buildings and leasehold improvements 18,269 16,142 16,682
Equipment 187,084 166,902 148,204
---------- ---------- ----------
211,678 189,327 171,064
Less accumulated depreciation 132,245 123,053 113,980
---------- ---------- ----------
Net property and equipment 79,433 66,274 57,084
OTHER ASSETS AND INTANGIBLES 8,225 9,515 7,584
---------- ---------- ----------
TOTAL ASSETS $ 149,086 $ 127,825 $ 111,386
========== ========== ==========
</TABLE>
See notes to consolidated financial statements.
<PAGE> F-4
<TABLE>
<CAPTION>
December 31
1998 1997 1996
(Dollars in Thousands)
<S> <C> <C> <C>
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 15,191 $ 10,187 $ 10,174
Accrued liabilities 11,413 10,822 8,229
Insurance liabilities 5,797 6,738 6,105
Income taxes payable 1,647 218
Notes payable, bank 300 75
Current maturities of long-term debt 855 3,148 2,634
--------- --------- ---------
Total current liabilities 33,256 32,842 27,435
LONG-TERM DEBT 42,893 24,104 19,640
DEFERRED INCOME TAXES 3,588 1,381 1,952
INSURANCE LIABILITIES 10,969 10,913 9,007
OTHER LIABILITIES 1,112 698 882
--------- --------- ---------
TOTAL LIABILITIES 91,818 69,938 58,916
SHAREHOLDERS' EQUITY:
Preferred shares
Common shares 8,728 8,728 8,728
Additional paid-in capital 5,893 4,625 3,876
Accumulated other comprehensive income (loss) (745) (535) (401)
Retained earnings 94,547 85,510 75,725
--------- --------- ---------
108,423 98,328 87,928
LESS:
Treasury shares, at cost 51,155 40,441 35,451
Subscriptions receivable from employees 7
--------- --------- ---------
TOTAL SHAREHOLDERS' EQUITY 57,268 57,887 52,470
--------- --------- ---------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 149,086 $ 127,825 $ 111,386
========= ========= =========
</TABLE>
See notes to consolidated financial statements.
<PAGE> F-5
THE DAVEY TREE EXPERT COMPANY AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENTS OF NET EARNINGS
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Years Ended December 31
1998 1997 1996
(Dollars in Thousands, Except Per Share Amounts)
<S> <C> <C> <C> <C> <C> <C>
REVENUES $ 313,887 100.0% $ 295,079 100.0% $ 266,934 100.0%
COSTS AND EXPENSES:
Operating 210,921 67.2 197,726 67.0 183,427 68.7
Selling 39,601 12.6 37,832 12.8 33,575 12.6
General and administrative 22,764 7.2 20,297 6.9 18,216 6.8
Depreciation and amortization 19,934 6.4 17,375 5.9 14,690 5.5
--------- ------ --------- ------ --------- ------
293,220 93.4 273,230 92.6 249,908 93.6
--------- ------ --------- ------ -------- ------
EARNINGS FROM OPERATIONS 20,667 6.6 21,849 7.4 17,026 6.4
INTEREST EXPENSE 3,391 1.1 2,703 .9 2,457 .9
OTHER INCOME - NET (565) (.2) (105) (272) (.1)
--------- ------ -------- ------ -------- ------
EARNINGS BEFORE INCOME TAXES 17,841 5.7 19,251 6.5 14,841 5.6
INCOME TAXES 7,244 2.3 7,972 2.7 6,082 2.3
--------- ------ -------- ----- -------- ------
NET EARNINGS $ 10,597 3.4% $ 11,279 3.8% $ 8,759 3.3%
========= ====== ========= ====== ======== =====
EARNINGS PER COMMON SHARE $ 2.57 $ 2.57 $ 1.92
========= ========= =========
EARNINGS PER COMMON SHARE -
ASSUMING DILUTION $ 2.30 $ 2.39 $ 1.86
========= ========= =========
</TABLE>
See notes to consolidated financial statements.
<PAGE> F-6
THE DAVEY TREE EXPERT COMPANY AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
(Dollars in Thousands, Except Per Share Amounts)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Additional
Common Paid-In
Shares Capital
<S> <C> <C>
BALANCE, JANUARY 1, 1996 $ 8,728 $ 3,472
Comprehensive income:
Net earnings
Other comprehensive income, net of tax
Foreign currency translation adjustments
Comprehensive income
Receipts from subscriptions receivable
Shares purchased
Shares sold to employees 373
Options exercised 31
Contributions to ESOT
Dividends, $.295 per share ---------- -----------
BALANCE, DECEMBER 31, 1996 8,728 3,876
Comprehensive income:
Net earnings
Other comprehensive income, net of tax
Foreign currency translation adjustments
Comprehensive income
Receipts from subscriptions receivable
Shares purchased
Shares sold to employees 695
Options exercised 54
Dividends, $.34 per share ---------- -----------
BALANCE, DECEMBER 31, 1997 8,728 4,625
Comprehensive income:
Net earnings
Other comprehensive income, net of tax
Foreign currency translation adjustments
Comprehensive income
Receipts from subscriptions receivable
Shares purchased
Shares sold to employees 1,115
Options exercised 153
Dividends, $.38 per share ---------- -----------
BALANCE, DECEMBER 31, 1998 $ 8,728 $ 5,893
========== ===========
</TABLE>
See notes to consolidated financial statements.
<PAGE> F-7
<TABLE>
<CAPTION>
Accumulated
Other Compre- Subscrip-
hensive tions Receiv- Contribu- Compre-
Income Retained Treasury able From tions hensive
(Loss) Earnings Shares Employees To ESOT Income Total
<C> <C> <C> <C> <C> <C> <C>
$ (385) $ 68,307 $ (33,198) $ (297) $ (97) $ 46,530
8,759 $ 8,759
(16) (16)
--------
$ 8,743 8,743
========
290 290
(3,045) (3,045)
716 1,089
76 107
97 97
(1,341) (1,341)
- -------- -------- -------- -------- -------- --------
(401) 75,725 (35,451) (7) 0 52,470
11,279 $ 11,279
(134) (134)
--------
$ 11,145 11,145
========
7 7
(5,918) (5,918)
737 1,432
191 245
(1,494) (1,494)
- -------- -------- -------- -------- -------- --------
(535) 85,510 (40,441) 0 0 57,887
10,597 $ 10,597
(210) (210)
--------
$ 10,387 10,387
========
(12,150) (12,150)
773 1,888
663 816
(1,560) (1,560)
- -------- -------- -------- -------- -------- --------
$ (745) $ 94,547 $(51,155) $ 0 $ 0 $ 57,268
======== ======== ======== ======== ======== ========
</TABLE>
See notes to consolidated financial statements.
<PAGE> F-8
THE DAVEY TREE EXPERT COMPANY AND SUBSIDIARY COMPANIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Years Ended December 31
1998 1997 1996
(Dollars in Thousands)
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net earnings $ 10,597 $ 11,279 $ 8,759
Adjustments to reconcile net earnings to
net cash provided by operating activities:
Depreciation 19,563 17,000 14,338
Amortization 371 375 352
Deferred income taxes 2,397 (817) (319)
Other (559) (326) (273)
--------- --------- ---------
32,369 27,511 22,857
Change in operating assets and liabilities:
Accounts receivable (7,594) (4,091) (5,183)
Other assets (59) (2,876) (966)
Accounts payable and accrued liabilities 5,595 2,606 1,323
Insurance liabilities (885) 2,539 1,941
Other liabilities (1,233) 1,245 (2,868)
--------- --------- ---------
Net cash provided by operating activities 28,193 26,934 17,104
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sales of property and equipment 1,880 1,138 1,678
Acquisitions (712) (449) (820)
Capital expenditures:
Land and buildings (2,617) (285) (727)
Equipment (31,392) (26,718) (17,394)
--------- --------- ---------
Net cash used in investing activities (32,841) (26,314) (17,263)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings (payments) under notes payable, bank (300) 225 (325)
Principal payments of long-term debt (5,547) (2,778) (2,704)
Proceeds from issuance of long-term debt 22,043 7,756 5,148
Sales of treasury shares 2,704 1,677 1,196
Receipts from stock subscriptions 7 290
ESOT payment of debt guaranteed by Company 97
Dividends paid (1,560) (1,494) (1,341)
Repurchase of common shares (12,150) (5,918) (3,045)
--------- --------- ---------
Net cash provided by (used in) financing activities 5,190 (525) (684)
--------- --------- ---------
NET CHANGE IN CASH AND CASH EQUIVALENTS 542 95 (843)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 722 627 1,470
--------- --------- ---------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 1,264 $ 722 $ 627
========= ========= =========
</TABLE>
See notes to consolidated financial statements.
<PAGE> F-9
THE DAVEY TREE EXPERT COMPANY AND SUBSIDIARY COMPANIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31,1998
- --------------------------------------------------------------------------------
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of The Davey
Tree Expert Company and its subsidiary companies. All significant
intercompany accounts and transactions have been eliminated in
consolidation.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported and contingencies disclosed in
the financial statements and accompanying notes. Actual results could
differ from those estimates.
FISCAL YEAR
The Company's fiscal year ends on the Saturday closest to December 31;
1998 was a 52-week year ended January 2, 1999; 1997 was a 53-week year ended
January 3, 1998, and in 1996, the fiscal year was comprised of 52 weeks
ended December 28, 1996. For presentation purposes, all years were presumed
to have ended on December 31.
REVENUE RECOGNITION
The Company recognizes revenues as services are provided, either on a time
and materials basis, price per unit completed, or an agreed upon fee for
services performed.
CASH AND CASH EQUIVALENTS, ACCOUNTS RECEIVABLE AND ACCOUNTS PAYABLE
Carrying amounts approximate fair value due to the short maturity of these
instruments. Cash equivalents are highly liquid investments with maturities
of three months or less when purchased. Due to the short maturities, the
carrying amount of the investments approximates fair value.
ACCOUNTS RECEIVABLE
The Company had an allowance of $314,000 at December 31, 1998, 1997, and
1996.
INTANGIBLE ASSETS
Intangible assets represent goodwill, employment contracts, and customer
lists resulting from business acquisitions and are being amortized on a
straight-line basis over their estimated useful lives ranging from 3-15
years. The net book value of intangible assets (net of accumulated
amortization of $2,318,000, $1,947,000, and $1,572,000 at December 31, 1998,
1997, and 1996, respectively) was $2,631,000, $2,550,000, and $2,648,000 at
December 31, 1998, 1997, and 1996, respectively.
PROPERTY AND EQUIPMENT
The Company records property and equipment at cost. In January 1998, the
Company commenced development of its new enterprise-wide information system.
This project will include the re-design of certain key business processes,
and will replace the Company's existing legacy systems by June 1999. The
Company is accounting for the costs of the project in accordance with
Statement of Position 98-1, "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use." Accordingly, costs have been
expensed or capitalized depending on whether they were incurred in the
preliminary project stage, application development stage, or the post
implementation stage. Reengineering, training, and other costs such as data
conversion have been expensed as incurred. Generally, land improvements,
leasehold improvements and buildings are depreciated by the straight-line
method while the declining balance method is used for equipment. The
estimated useful lives used in computing depreciation are: land
improvements, 5-20 years; buildings and leasehold improvements, 5-40 years;
equipment, 3-10 years.
<PAGE> F-10
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
IMPAIRMENT
The Company periodically assesses recoverability of the carrying amount of
its property and equipment, goodwill, and other intangible assets
principally by evaluating the utilization of those assets as well as the
profitability associated with their related revenues. In the event these
assessments indicate their carrying amounts may not be recoverable,
estimates will be made of the applicable assets future undiscounted cash
flows to determine if recognition of an impairment loss is necessary.
EARNINGS PER SHARE
The following table sets forth the computation of earnings per common
share and earnings per common share - assuming dilution:
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C>
Numerator:
Net earnings $ 10,597 $ 11,279 $ 8,759
========= ========= =========
Denominator:
For earnings per common share
weighted average shares outstanding 4,122,183 4,392,969 4,550,677
Effect of dilutive securities
employee and director stock options 491,823 332,837 163,930
--------- --------- ---------
Denominator for earnings per share -
assuming dilution 4,614,006 4,725,806 4,714,607
========= ========= =========
Earnings per common share $ 2.57 $ 2.57 $ 1.92
========= ========= =========
Earnings per common share - assuming dilution$ 2.30 $ 2.39 $ 1.86
========= ========= =========
Antidilutive shares not included in earnings
per common share - assuming dilution 0 0 20,402
========= ========= =========
</TABLE>
RECENTLY ISSUED ACCOUNTING STANDARDS
In 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." As permitted, the Company expects to
adopt this statement in 2000. The statement requires that all derivatives,
such as interest rate exchange agreements (swaps), be recognized on the
balance sheet at fair value. Derivatives that are not hedges must be
adjusted to fair value through income. Derivatives determined to be hedges
will be adjusted to fair value through either income or other comprehensive
income, depending on the nature of the hedge. The Company has not yet
determined what effect Statement 133 will have on the earnings and financial
position of the Company.
In 1997, AcSec issued SOP 97-3, "Accounting by Insurance and Other
Enterprises for Insurance-Related Assessments," which becomes effective for
fiscal years beginning after December 15, 1998. It requires entities
subject to assessments to recognize a liability at the time an assessment is
imposed, when the event obligating the entity to pay the imposed assessment
has occurred, and when the amount of the assessment can be reasonably
estimated. The Company has not yet determined what effect SOP 97-3 will
have on the earnings and financial position of the Company upon its adoption
in 1999.
RECLASSIFICATIONS
Reclassifications have been made to the prior-year financial statements to
conform to the current year presentation.
<PAGE> F-11
2. OPERATING SEGMENTS
The Company has adopted SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information." The Company has two primary operating
segments which provide a variety of horticultural services to their
respective customer groups. Residential services provides for the
treatment, preservation, maintenance, cultivation, planting and removal of
trees, shrubs and other plant life; its services also include the practices
of tree surgery, tree feeding, tree spraying and landscaping, as well as the
application of fertilizers, herbicides, and insecticides. Utility services
is principally engaged in the practice of line clearing for public
utilities. The "Other" segment category includes the Company's services
related to natural resource management and consulting, forestry research and
development, environmental planning, and commercial services.
The Company's primary focus in evaluating segment performance is on
operating earnings. The accounting policies of the operating segments are
the same as those described in Note 1, except that only straight line
depreciation is allocated. Corporate expenses are substantially allocated
among the operating segments. Identifiable assets are those directly used
or generated by each segment, and include accounts receivable, inventory,
and property and equipment. Unallocated assets consist principally of
corporate facilities, enterprise-wide information systems, cash and cash
equivalents, deferred taxes, prepaid expenses, and other assets and
intangibles.
Detail to Operating Segments are as follows:
<TABLE>
<CAPTION>
UTILITY RESIDENTIAL OTHER TOTAL
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C>
1998
Revenues $ 184,768 $ 113,155 $ 15,964 $ 313,887
Earnings from operations 12,849 10,729 268 23,846
Depreciation 11,213 5,433 657 17,303
Segment assets 66,720 38,294 4,738 109,752
Capital expenditures 16,442 7,972 430 24,844
1997
Revenues 167,798 103,933 23,348 295,079
Earnings from operations 9,556 9,946 2,948 22,450
Depreciation 9,918 4,874 413 15,205
Segment assets 59,291 31,759 3,194 94,244
Capital expenditures 14,460 6,682 277 21,419
1996
Revenues 156,437 97,575 12,922 266,934
Earnings from operations 7,285 9,553 794 17,632
Depreciation 8,776 4,331 295 13,402
Segment assets 52,446 28,928 2,292 83,666
Capital expenditures 10,244 4,769 196 15,209
</TABLE>
<TABLE>
<CAPTION>
1998 1997 1996
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
EARNINGS
Operating earnings for reportable segments $ 23,578 $ 19,502 $ 16,838
Operating earnings for other 268 2,948 794
Unallocated amounts:
Other corporate expense (3,179) (601) (606)
Interest expense (3,391) (2,703) (2,457)
Other income- net 565 105 272
--------- --------- --------
Earnings before tax $ 17,841 $ 19,251 $ 14,841
========= ========= ========
</TABLE>
<PAGE> F-12
2. OPERATING SEGMENTS (Continued)
<TABLE>
<CAPTION>
1998 1997 1996
(Dollars in Thousands)
<S> <C> <C> <C>
DEPRECIATION
Depreciation for reportable segments $ 16,646 $ 14,792 $ 13,107
Depreciation for other 657 413 295
Unallocated depreciation 2,260 1,795 936
--------- --------- --------
Consolidated total $ 19,563 $ 17,000 $ 14,338
========= ========= ========
ASSETS
Assets for reportable segments $ 105,014 $ 91,050 $ 81,374
Assets for other 4,738 3,194 2,292
Unallocated assets 39,334 33,581 27,720
--------- --------- --------
Consolidated total $ 149,086 $ 127,825 $111,386
========= ========= ========
CAPITAL EXPENDITURES
Expenditures for reportable segments $ 24,414 $ 21,142 $ 15,013
Expenditures for other 430 277 196
Unallocated expenditures 9,165 5,584 2,912
--------- --------- --------
Consolidated total $ 34,009 $ 27,003 $ 18,121
========= ========= ========
</TABLE>
The Company's geographic information is as follows:
<TABLE>
<CAPTION>
1998 1997 1996
(Dollars in Thousands)
<S> <C> <C> <C>
REVENUES
United States $ 297,705 $ 280,284 $ 253,753
Canada 16,182 14,795 13,181
--------- --------- ---------
Total $ 313,887 $ 295,079 $ 266,934
========= ========= =========
PROPERTY AND EQUIPMENT,
NET OF ACCUMULATED DEPRECIATION
United States $ 76,489 $ 63,336 $ 54,122
Canada 2,944 2,938 2,962
--------- --------- ---------
Total $ 79,433 $ 66,274 $ 57,084
========= ========= =========
</TABLE>
CUSTOMER CONCENTRATION
Utility services represented approximately 62% of the outstanding accounts
receivable at December 31, 1998, 1997, and 1996. The Company had revenues
from one utility customer under multiple year contracts aggregating
approximately $55,000,000 in 1998, $67,000,000 in 1997, and $55,000,000 in
1996. The Company had revenues from a second utility customer under
multiple year contracts of approximately $18,000,000 in 1998, $22,000,000 in
1997, and $19,000,000 in 1996. The Company performs ongoing credit
evaluations of its customers' financial conditions and generally requires no
collateral.
<PAGE> F-13
3. INSURANCE LIABILITIES
In managing its casualty liability exposures for workers compensation,
auto liability, and general liability, the Company is substantially self-
insured. It generally retains the first $300,000 in loss per occurrence and
carries excess insurance above that amount. With respect to workers
compensation, the Company's risk of exposure to loss per occurrence may be
less than $300,000 depending on the nature of the claim and the statutes in
effect by state.
Insurance liabilities are determined using actuarial methods and
assumptions to estimate ultimate costs. They include a large number of
claims for which the ultimate costs will develop over a period of several
years. Accordingly, the estimates can change as claims mature; they can
also be affected by changes in the number of new claims incurred and claim
severity. For these reasons, it is possible that these estimates can change
materially in the near term. Changes in estimates of claim costs resulting
from new information received will be recognized in income in the period in
which the estimates are changed. Expenses that are unallocable to specific
claims are recognized as period costs.
These liabilities, including the present value of workers compensation
liabilities which are discounted at 4 1/2% at December 31, 1998, 5 3/4% at
December 31, 1997, and 6 1/4% at December 31, 1996, totaled $16,766,000,
$17,651,000 and $15,112,000 at December 31, 1998, December 31, 1997, and
December 31, 1996, respectively. The change in the discount rate increased
insurance costs by approximately $306,000 in 1998 and $213,000 in 1997, and
reduced insurance costs by $200,000 in 1996. Insurance liabilities are
classified as current and noncurrent liabilities based on the timing of
future estimated cash payments. At December 31, 1998, 1997, and 1996, the
gross value of those liabilities was approximately $18,867,000, $20,765,000
and $18,740,000, respectively.
4. COMMON AND PREFERRED SHARES
The Company has authorized a class of 4,000,000 preferred shares, no par
value, of which none were issued.
The number of common shares authorized is 12,000,000, par value $1.00. At
December 31, 1998, 1997 and 1996, the number of common shares issued was
8,728,440 and the number of shares in the treasury were 4,736,785,
4,429,205, and 4,209,623, respectively.
The Company's stock is not listed or traded on an active stock market and
market prices are, therefore, not available. Semi-annually, an independent
stock valuation firm determines the fair market value based upon the
Company's performance and financial condition.
Since 1979, the Company has provided a ready market for all shareholders
through its direct purchase of their common shares. During 1998, these
purchases totaled 336,725 shares for $9,049,000 in cash; the Company also
had direct sales, to directors and employees, excluding those shares sold
through either the exercise of options or the employee stock purchase plan
below, of 1,472 shares for $40,000. It also sold 8,398 shares to the
Company's 401 (k) plan for $234,000 and issued 15,526 shares to participant
accounts to satisfy its liability for the 1997 employer match in the amount
of $404,000. Uniform restrictions apply to the transfer of the Company's
common shares. These restrictions generally give the Company or the trust
of the Company's Employee Stock Ownership Plan the right to purchase the
common shares whenever a shareholder proposes to transfer the shares to
anyone, other than transfers to a current employee of the Company or
transfers by a current or former employee to members of their immediate
family.
<PAGE> F-14
4. COMMON AND PREFERRED SHARES (CONTINUED)
STOCK-BASED COMPENSATION PLANS
The 1994 Omnibus Stock Plan consolidated into a single plan provisions for
the grant of stock options and other stock based incentives and maintenance
of the employee stock purchase plan. Other than director options, the grant
of awards is at the discretion of the compensation committee of the Board of
Directors. The aggregate number of common shares available for grant and
the maximum number of shares granted annually are based on formulas defined
in the plan. Each non-employee director elected or appointed, and re-
elected or re-appointed, will receive a director option that gives the right
to purchase, for six years, 2,000 common shares at the fair market value per
share at date of grant. The director options are exercisable six months
from the date of grant. The maximum number of shares that may be issued
upon exercise of stock options, other than director options and nonqualified
stock options, is 800,000 during the ten-year term of the plan.
Shares available for grant at December 31, 1998 were 286,595, which were
based on the number available upon ratification of the plan less: the
options granted presented below; the director options granted; and 380,674
shares purchased since 1994 under the stock purchase plan.
A summary of the status of the Company's director options as of December
31, 1998, 1997, and 1996, and changes during the years ending on those dates
is presented below:
<TABLE>
<CAPTION>
1998 1997 1996
-------------------------- ------------------------ --------------------------
Weighted Average Weighted Average Weighted Average
Shares Exercise Price Shares Exercise Price Shares Exercise Price
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning of year 30,000 $15.71 24,000 $14.06 24,000 $ 14.16
Granted 6,000 26.05 10,000 18.79 2,000 13.56
Exercised (8,000) 15.01 (4,000) 13.51 (2,000) 14.82
Forfeited ------ ------ ------
Outstanding at end of year 28,000 18.13 30,000 15.71 24,000 14.06
====== ====== ======
</TABLE>
The Company has an employee stock purchase plan that provides the
opportunity for all full-time employees with one year of service to purchase
shares through payroll deductions. The purchase price for the shares
offered under the plan is 85% of the fair market value of the shares.
Purchases under the plan have been as follows:
<TABLE>
<CAPTION>
1998 1997 1996
<S> <C> <C> <C>
Number of employees participating 907 817 787
Annual shares purchased 51,344 62,108 80,006
Average price paid $23.29 $16.63 $12.44
Cumulative shares purchased 1,535,626 1,484,282 1,422,174
</TABLE>
<PAGE> F-15
4. COMMON AND PREFERRED SHARES (Continued)
Prior to adoption of the 1994 Omnibus Stock Plan, the Company had two
qualified stock option plans available for officers and management
employees; the final grant of awards under those plans was December 10,
1993.
A summary of the status of the Company's stock option plans, excluding
director options, as of December 31, 1998, 1997, and 1996, and changes
during the years ending on those dates is presented below:
<TABLE>
<CAPTION>
1998 1997 1996
------------------------- ------------------------- -------------------------
WEIGHTED-AVERAGE WEIGHTED-AVERAGE WEIGHTED-AVERAGE
FIXED OPTIONS SHARES EXERCISE PRICE SHARES EXERCISE PRICE SHARES EXERCISE PRICE
------------- ------ ---------------- ------ ---------------- ------ ----------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning of year 947,850 $13.01 965,600 $12.97 708,800 $11.88
Granted 265,000 15.80
Exercised (59,835) 11.62 (17,750) 10.82 (8,200) 10.56
Forfeited (1,800) 15.80
------- ------- -------
Outstanding at end of year 886,215 13.09 947,850 13.01 965,600 12.97
======= ======= =======
Options exercisable at year end 727,215 735,850 646,600
Weighted average fair value of
options granted during the year - - $ 2.65
</TABLE>
The following table summarizes information about fixed stock options
outstanding at December 31, 1998:
<TABLE>
<CAPTION>
Options Outstanding
--------------------------------------
Exercise Number Outstanding Remaining Number Exercisable
Price at 12/31/98 Contractual Life at 12/31/98
-------- ------------------ ---------------- -----------------
<S> <C> <C> <C>
$ 9.40 185,450 1.0 year(s) 185,450
11.89 24,550 4.0 24,550
12.44 211,865 3.3 211,865
13.83 205,000 5.0 205,000
15.80 259,350 7.9 100,350
------- -------
886,215 727,215
======= =======
</TABLE>
The Company continues to apply the intrinsic-value method under APB
Opinion 25 and related interpretations in accounting for awards granted
under the three plans. Using this method, compensation is measured as the
difference between the option exercise price and the market value of the
stock at the date of grant. Accordingly, no compensation cost has been
recognized for either the fixed options granted under these plans or the
employee stock purchase plan. Had compensation cost for the Company's stock-
based compensation plans been determined based on the fair value at the
grant dates for awards under those plans consistent with the method of SFAS
No. 123, "Accounting for Stock-Based Compensation," the Company's net
earnings and earnings per common share - assuming dilution would have been
reduced by $360,000 and $.08 in 1998, $330,000 and $.07 in 1997 and $201,000
and $.04 in 1996.
In calculating the pro forma impact on earnings, the following assumptions
were used for the grants in 1996: initial annual dividends of $.31 per share
with annual increases of $.02 per share; a risk free interest rate of 6.25%;
an expected life of 5 years; and an estimated forfeiture rate of 8%. The
1996 options vest at the rate of 20% annually. The pro forma amounts for
1998, 1997, and 1996 include $230,000, $200,000 and $190,000, respectively,
attributable to compensation cost for shares acquired under the employee
stock purchase plan.
STOCK SUBSCRIPTION OFFERING
In 1989, the Company made a stock subscription offering to employees and
directors whereby they could subscribe to purchase stock for $7.93 per
share. Employees could purchase the Company's common shares by making a 10%
cash down payment and financing the remainder of the balance with seven-year
promissory notes payable to the Company through monthly payroll deductions
or annual installments commencing in September, 1989. The notes called for
interest at a rate of 8% per annum and have been reflected as subscriptions
receivable in shareholders' equity. A total of 141 participants subscribed
for 457,752 common shares of the Company.
<PAGE> F-16
5. ACCRUED LIABILITIES
Accrued liabilities consisted of:
<TABLE>
<CAPTION>
December 31
1998 1997 1996
(Dollars in Thousands)
<S> <C> <C> <C>
Compensation $ 6,666 $ 5,648 $ 4,009
Medical claims 1,420 1,948 1,390
Vacation 1,927 1,848 1,620
Taxes, other than taxes on income 779 657 600
Other 621 721 610
-------- -------- -------
$ 11,413 $ 10,822 $ 8,229
======== ======== =======
</TABLE>
6. NOTES PAYABLE, BANK AND LONG-TERM DEBT
Notes Payable, Bank
The Company had a bank operating loan which was repayable on demand and
charged interest at the bank's prime rate. Additionally, the Company has
unused short-term lines of credit with three banks totaling $3,876,000,
generally at the banks' prime rate, which was 7.75% at December 31, 1998.
Long-Term Debt
<TABLE>
<CAPTION>
December 31
1998 1997 1996
(Dollars in Thousands)
<S> <C> <C> <C>
Revolving credit agreement:
Prime rate borrowings $ 2,900 $ 2,800 $ 3,100
London Interbank Offered Rate (LIBOR)
borrowings 28,000 18,000 11,000
Term note agreement 10,000 4,800 7,200
------- ------- -------
40,900 25,600 21,300
Subordinated notes - stock redemption 2,181 357 515
Term loans and other 667 1,295 459
------- ------- -------
43,748 27,252 22,274
Less current maturities 855 3,148 2,634
------- ------- -------
$42,893 $24,104 $19,640
======= ======= =======
</TABLE>
The total annual installments required to be paid on long-term debt are as
follows: 1999, $855,000; 2000, $2,044,000; 2001, $2,429,000; 2002,
$2,427,000; 2003, $2,432,000; and thereafter $2,660,000. The revolving
credit agreement is classified as long-term debt and excluded from these
installments since it is expected that these amounts will be outstanding
throughout the ensuing year.
REVOLVING CREDIT AGREEMENT
In 1998, the Company renegotiated and amended its Revolving Credit
Agreement (Revolver) with two banks, which permits borrowings, as defined,
up to $55,000,000. It provides the Company an option of borrowing funds at
either the prime (7.75% at December 31, 1998) interest rate or rates based
on LIBOR (5.68% at December 31, 1998) plus a margin adjustment ranging from
.9% to 1.4%. The Revolver also includes a commitment fee of between .15%
and .25% on the average daily unborrowed commitment. A minimum of
$5,000,000 in borrowings may be converted, at the Company's option, to four-
year loans. The agreement has an expiration date of April 30, 2001.
In 1998, the Company also renegotiated and amended its temporary line of
credit in the amount of $15,000,000 with its principal bank, which provided
for borrowings at either the prime interest rate, rates based on LIBOR, or a
negotiated fixed interest rate. The agreement has an expiration date of
June 30, 1999.
<PAGE> F-17
6. NOTES PAYABLE, BANK AND LONG-TERM DEBT (CONTINUED)
Under the most restrictive covenants of the Revolver and the Term Note
Agreement below, the Company is obligated to maintain a minimum
shareholders' equity, as defined, of $45,000,000 plus 30% of annual
consolidated earnings for 1998 and each year thereafter; a maximum ratio of
consolidated funded debt to consolidated funded debt plus consolidated
shareholders' equity of .5 to 1, .58 to 1, and .5 to 1 in 1998, 1999-2000,
and 2001, respectively; and a fixed charge coverage ratio of not less than
2.25 to 1.0.
TERM NOTE AGREEMENT
Concurrent with the Company's renegotiation of the Revolver on May 14,
1998, it refinanced the term note, borrowing an additional $5,800,000.
Commencing June 30, 2000, it provides for twenty consecutive quarterly
principal installments of $500,000, plus interest at either LIBOR plus a
margin adjustment ranging from 1.00% to 1.50%, or prime. The average
adjusted LIBOR rate during 1998 was 6.59%; adjusted LIBOR was 6.19%, 7.09%,
and 6.96% at December 31, 1998, 1997 and 1996, respectively.
SUBORDINATED NOTES
In 1998, 1995, and 1992, the Company redeemed shares of its common stock
from shareholders for cash and five-year subordinated promissory notes.
Effective January 1, 1998, these notes bear interest based on the five-year
U.S. Treasury rate in effect at January 1 of each year (5.379% in 1998);
prior to 1998, they bore interest at a rate equal to the average of the
prime rate and the prevailing local bank basic savings rate. There were
115,430 shares redeemed in 1998 for cash of $1,157,710 and notes of
$1,943,091. In 1995, there were 31,574 shares redeemed for cash of $174,147
and notes of $595,627. In 1992, 16,800 shares were redeemed for cash of
$223,830 and notes of $193,986.
TERM LOANS AND OTHER
The weighted-average interest on the term loans approximates 9.60% and the
amounts outstanding are being repaid primarily in equal monthly installments
through 2007.
INTEREST ON DEBT
The Company made cash payments for interest on all debt of $3,353,000,
$2,806,000, and $2,475,000 in 1998, 1997, and 1996, respectively.
7. FINANCIAL INSTRUMENTS
The Company has used interest rate exchange agreements (swaps) with its
principal bank to modify the interest rate characteristics on its borrowings
under the variable interest rate term note. Management's authority to
utilize these agreements is restricted by the Board of Directors, and they
are not used for trading purposes. Concurrent with the Company's May 14,
1998 renegotiation of the term note, it terminated the swaps outstanding on
the prior term note, and entered into a new swap. At December 31, 1998,
1997, and 1996, the outstanding swaps had a total notional amount of
$10,000,000, $4,800,000, and $7,200,000, respectively. These swaps
effectively changed the interest rate exposure through May 14, 1998 to a
fixed 7.22%, and thereafter to a fixed 6.09% plus the applicable LIBOR
margin which was 1.00% at December 31, 1998.
The swaps are accounted for using the settlement method or the "matched
swap" method in which the quarterly net cash settlements of the agreements
are recognized in interest expense when they accrue. The accrual amounts
are included in the consolidated balance sheets as accrued liabilities.
Interest expense was increased by $35,000, $9,000, and $25,000 in 1998, 1997
and 1996 respectively from these agreements. An interest rate swap is
considered to be a matched swap if it is linked through designation with an
asset or liability provided that it has the opposite interest rate
characteristics of the asset or liability. Generally, if the asset or
liability that is linked to the swap matures, or is extinguished, or if the
swap no longer qualifies for settlement accounting the swap will be marked
to market through income. The term of the agreements is matched with the
maturity period of the term note. If the Company decided to terminate the
swap agreements any resulting gain or loss would be deferred and amortized
over the original life of the swap contracts or recognized with the
offsetting gain or loss of the hedged transaction.
<PAGE> F-18
7. FINANCIAL INSTRUMENTS (CONTINUED)
The fair value of the swaps is the quoted amount that the Company would
receive or pay to terminate the swap agreements as provided by the bank,
taking into account current interest rates. Had these agreements been
terminated as of December 31 each year, the Company would have paid
$335,000, paid $3,000 and received $1,000 in 1998, 1997, and 1996,
respectively.
The carrying value of the Company's long-term debt is considered to
approximate fair value based on borrowing rates currently available for
loans with similar terms and maturities.
8. EMPLOYEE STOCK OWNERSHIP PLAN AND 401KSOP
On March 15, 1979, the Company consummated a plan which transferred
control of the Company to its employees. As a part of this plan, the
Company sold 2,880,000 common shares to the Company's Employee Stock
Ownership Trust (ESOT) for $2,700,000.
The Employee Stock Ownership Plan (ESOP), in conjunction with the related
ESOT, provided for the grant to certain employees of certain ownership
rights in, but not possession of, the common shares held by the trustee of
the Trust. Annual allocations of shares have been made to individual
accounts established for the benefit of the participants.
The Employee Stock Ownership Plan included as participants, all
nonbargaining employees of the parent company and its domestic subsidiaries
who have attained age 21 and completed one year of service.
Statement of Position 93-6 "Employers Accounting for Employee Stock
Ownership Plans" required the employer to recognize compensation expense
equal to the fair value of the shares committed to be released; however, it
allowed an employer with an ESOP holding shares purchased prior to December
31, 1992 to continue their existing accounting treatment. Accordingly, the
Company elected to maintain its existing accounting treatment.
The number of shares released from collateral and available for allocation
to ESOP participants was determined by dividing the sum of the current year
loan principal and interest payments by the sum of the current and future
years' loan principal and interest payments. The Company made annual cash
contributions to the ESOP, net of dividends paid on the shares held as
collateral, sufficient to pay the principal and interest on the ESOT debt;
such contributions are reflected as an expense of the Company. Dividends on
allocated shares are credited to participants' accounts and charged against
retained earnings. ESOP shares that have been released and committed to be
released are considered outstanding for purposes of computing earnings per
share.
The contributions to the ESOT were:
<TABLE>
<CAPTION>
1996
(Dollars in Thousands)
<S> <C>
Principal repayment $ 97
Interest 5
---------
Total cash contributions required 102
Less dividends paid on collateral shares 12
---------
ESOT expense $ 90
=========
Annual release of shares from collateral 38,970
=========
Cumulative release of shares from collateral 2,880,000
=========
Number of shares remaining in collateral 0
=========
</TABLE>
<PAGE> F-19
8. EMPLOYEE STOCK OWNERSHIP PLAN AND 401KSOP (CONTINUED)
Effective January 1, 1997, the Company commenced operation of the "The
Davey 401KSOP and ESOP," which retained the existing ESOP participant
accounts and incorporated a deferred savings plan (401(k) plan) feature.
Participants in the plan are allowed to make before-tax contributions,
within Internal Revenue Service established limits, through payroll
deductions. The Company will match, in either cash or Company stock, 50% of
each participant's before-tax contribution, limited to the first 3% of the
employee's compensation deferred each year. Eligibility to participate is
the same as that provided under the Employee Stock Ownership Plan. The
Company's cost of this plan for 1998 and 1997, consisting principally of the
accruals for the employer match, was $520,000 and $493,000, respectively.
9. PENSION PLANS
DESCRIPTION OF PLANS
Substantially all of the Company's employees are covered by two defined
benefit pension plans. One of these plans is for non-bargaining unit
employees and, through 1996, was non-contributory with respect to annual
compensation up to a defined level, with voluntary employee contributions
beyond the specified compensation levels. Concurrent with the introduction
of the Davey 401KSOP, future benefits earned under this plan were modified,
and as of January 1, 1997, the plan was amended to become non-contributory.
The other plan is for bargaining unit employees not covered by union pension
plans, is non-contributory, and provides benefits at a fixed monthly amount
based upon length of service.
FUNDING POLICY
The Company's funding policy is to make the annual contributions necessary
to fund the plans within the range permitted by applicable regulations. The
plans' assets are invested by outside asset managers in marketable debt and
equity securities.
EXPENSE RECOGNITION
Pension expense (income) was calculated as follows:
<TABLE>
<CAPTION>
1998 1997 1996
(Dollars in Thousands)
<S> <C> <C> <C>
Service cost - increase in benefit
obligations earned $ 754 $ 626 $ 368
Interest cost on projected benefit obligation 905 849 906
Expected return on plan assets (2,106) (1,894) (1,702)
Amortization of prior service cost (34) (34) 4
Amortization of initial net asset (72) (72) (72)
Recognized gains (240) (141) (66)
---------- ---------- ----------
Net pension income $ (793) $ (666) $ (562)
========== ========== ==========
</TABLE>
<PAGE> F-20
9. PENSION PLANS (Continued)
Funded Status
The funded status of pension plans at December 31 was as follows:
<TABLE>
<CAPTION>
1998 1997 1996
(Dollars in Thousands)
<S> <C> <C> <C>
Plan assets at fair market value $ 32,725 $ 25,561 $ 21,488
Projected benefit obligation (13,595) (12,502) (12,091)
---------- ---------- ----------
Excess of assets over projected
benefit obligation 19,130 13,059 9,397
Unrecognized initial asset (938) (1,010) (1,082)
Unrecognized gain (13,125) (7,741) (4,639)
Unrecognized prior service cost (629) (663) (697)
---------- ---------- ----------
Prepaid benefit cost recognized
as other assets in balance sheets $ 4,438 $ 3,645 $ 2,979
========== ========== ==========
</TABLE>
Reconciliations
The projected benefit obligation is reconciled as follows:
<TABLE>
<CAPTION>
1998 1997 1996
(Dollars in Thousands)
<S> <C> <C> <C>
Balance, beginning of year $ 12,502 $ 12,091 $ 12,462
Service cost 754 626 368
Interest cost 905 849 906
Participant contributions 13 152
Amendments (755)
Actuarial gain 607 104 238
Benefits paid (1,173) (1,181) (1,280)
---------- ---------- ----------
Balance, end of year $ 13,595 $ 12,502 $ 12,091
========== ========== ==========
</TABLE>
The fair value of plan assets are reconciled as follows:
<TABLE>
<CAPTION>
1998 1997 1996
(Dollars in Thousands)
<S> <C> <C> <C>
Balance, beginning of year $ 25,561 $ 21,488 $ 19,143
Actual return on plan assets 8,337 5,241 3,473
Participant contributions 13 152
Benefits paid (1,173) (1,181) (1,280)
---------- ---------- ----------
Balance, end of year $ 32,725 $ 25,561 $ 21,488
========== ========== ==========
</TABLE>
On a weighted-average basis the following assumptions were used in
accounting for the plans:
<TABLE>
<CAPTION>
1998 1997 1996
<S> <C> <C> <C>
Discount rate used to determine
projected benefit obligation 6.75% 7.00% 7.25%
Expected return on plan assets 8.25% 8.25% 9.00%
Rate of compensation increase 5.00% 5.00% 5.00%
</TABLE>
<PAGE> F-21
9. PENSION PLANS (CONTINUED)
MULTIEMPLOYER PLANS
The Company also contributes to several multiemployer plans, which provide
defined benefits to unionized workers who do not participate in the Company
sponsored bargaining unit plan. Amounts charged to pension cost and
contributed to the plans in 1998, 1997 and 1996 totaled $396,000, $380,000,
and $395,000, respectively.
10. INCOME TAXES
The approximate tax effect of each type of temporary difference that gave
rise to the Company's deferred tax assets (no valuation allowance was
considered necessary) and liabilities at December 31, was as follows:
<TABLE>
<CAPTION>
1998 1997 1996
(Dollars in Thousands)
<S> <C> <C> <C>
CURRENT
Assets:
Compensated absences $ 377 $ 341 $ 294
Insurance 1,311 1,447 1,346
Other - net 154 244 146
-------- -------- -------
Net current 1,842 2,032 1,786
-------- -------- -------
NON-CURRENT
Assets:
Insurance 3,872 3,825 3,100
Other - net 286 462 264
Liabilities:
Accelerated depreciation for tax purposes (6,222) (4,421) (4,300)
Pensions (1,524) (1,247) (1,016)
-------- -------- --------
Net noncurrent (3,588) (1,381) (1,952)
-------- -------- --------
Net deferred tax asset (liability) $ (1,746) $ 651 $ (166)
======== ======== ========
</TABLE>
Significant components of income tax expense include:
<TABLE>
<CAPTION>
1998 1997 1996
(Dollars in Thousands)
<S> <C> <C> <C>
Taxes currently payable:
U.S. Federal $ 3,014 $ 6,839 $ 5,057
Canadian 333 309 144
State and local 1,500 1,641 1,200
-------- -------- --------
4,847 8,789 6,401
-------- -------- --------
Deferred tax expense (benefit):
U.S. Federal 1,975 (682) (269)
Canadian 73 46 22
State and local 349 (181) (72)
-------- -------- --------
2,397 (817) (319)
-------- -------- --------
$ 7,244 $ 7,972 $ 6,082
======== ======== ========
</TABLE>
<PAGE> F-22
10. INCOME TAXES (Continued)
The differences between the U.S. Federal statutory tax rate and the
effective tax rate are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
<S> <C> <C> <C>
U.S. Federal statutory tax rate 34.6% 34.9% 34.3%
State and local income taxes 5.5 5.5 5.3
Canadian income taxes .7 .7 .5
Miscellaneous (.2) .3 .9
----- ----- -----
Effective tax rate 40.6% 41.4% 41.0%
===== ===== =====
</TABLE>
Earnings before income taxes by country are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
(Dollars in Thousands)
<S> <C> <C> <C>
U.S. $17,006 $18,604 $14,555
Canadian 835 647 286
------- ------- -------
$17,841 $19,251 $14,841
======= ======= =======
</TABLE>
The Company made cash payments for income taxes of $7,742,000, $7,360,000,
and $9,354,000 in 1998, 1997 and 1996, respectively.
11. OPERATING LEASES
The Company primarily leases facilities which are used for district office
and warehouse operations. These leases extend for varying periods of time
up to four years and, in some cases, contain renewal options. Total rental
expense under such operating leases amounted to approximately $1,899,000,
$1,723,000, and $1,693,000 for 1998, 1997 and 1996, respectively. As of
December 31, 1998, future minimum rental payments, including taxes and other
operating costs, for all operating leases having noncancelable lease terms
in excess of one year, totaled $3,588,000, and are expendable as follows:
1999, $1,363,000; 2000, $1,000,000; 2001, $642,000; 2002, $363,000 and 2003,
$220,000.
12. COMMITMENTS AND CONTINGENCIES
The Company is party to a number of lawsuits, threatened lawsuits and
other claims arising out of the normal course of business. Management is of
the opinion that liabilities which may result are adequately covered by
insurance, or to the extent not covered by insurance or accrued, would not
be material in relation to the financial position, results of operations or
liquidity of the Company.
At December 31, 1998, the Company was contingently liable to its principal
banks in the amount of $10,425,000 for outstanding letters of credit for
insurance coverage.
13. ACQUISITIONS
In 1998, 1997, and 1996, the Company completed acquisitions of
organizations providing horticultural services for a total purchase price of
$712,000, $449,000 and $820,000, respectively. They were accounted for as
purchases and their results of operations, which were not material in any of
the years presented, are included in the accompanying financial statements
from their respective dates of acquisition.
********
