<PAGE> 1
================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------------------
FORM 10-Q
MARK ONE
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
---------------------- --------------------
FOR THE PERIOD ENDED SEPTEMBER 30, 1997 COMMISSION FILE NUMBER: 1-8303
------------------------------------
THE HALLWOOD GROUP INCORPORATED
(Exact name of registrant as specified in its charter)
------------------------------------
DELAWARE 51-0261339
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
3710 RAWLINS, SUITE 1500
DALLAS, TEXAS 75219
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (214) 528-5588
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
--- ---
1,261,757 shares of Common Stock, $.10 par value per share, were
outstanding at October 31, 1997.
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<PAGE> 2
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
TABLE OF CONTENTS
<TABLE>
<CAPTION>
ITEM NO. PART I - FINANCIAL INFORMATION PAGE
- -------- ------------------------------ ----
<S> <C> <C>
1 Financial Statements (unaudited):
Consolidated Balance Sheets as of September 30, 1997
and December 31, 1996...................................................... 3-4
Consolidated Statements of Operations for the
Nine Months Ended September 30, 1997 and 1996.............................. 5-6
Consolidated Statements of Operations for the
Three Months Ended September 30, 1997 and 1996............................. 7-8
Consolidated Statements of Cash Flows for the
Nine Months Ended September 30, 1997 and 1996.............................. 9
Notes to Consolidated Financial Statements................................... 10-19
2 Managements's Discussion and Analysis of
Financial Condition and Results of Operations.............................. 20-25
PART II - OTHER INFORMATION
1 thru 6 Exhibits, Reports on Form 8-K and Signature Page............................. 26-29
</TABLE>
Page 2
<PAGE> 3
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
(UNAUDITED)
ASSETS
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1997 1996
------- --------
<S> <C> <C>
ASSET MANAGEMENT
REAL ESTATE
Investments in HRP ...................... $ 7,128 $ 7,007
Receivables and other assets ............ 318 1,220
------- --------
7,446 8,227
ENERGY
Oil and gas properties, net ............. 9,341 8,928
Current assets of HEP ................... 2,035 2,426
Noncurrent assets of HEP ................ 1,811 1,664
Receivables and other assets ............ 377 548
------- --------
13,564 13,566
------- --------
Total asset management assets ........ 21,010 21,793
OPERATING SUBSIDIARIES
TEXTILE PRODUCTS
Inventories ............................. 18,423 17,188
Receivables ............................. 13,894 13,094
Property, plant and equipment, net ...... 8,864 8,791
Other ................................... 891 1,037
------- --------
42,072 40,110
HOTELS
Properties, net ......................... 14,617 15,568
Receivables and other assets ............ 2,157 2,076
------- --------
16,774 17,644
------- --------
Total operating subsidiaries assets... 58,846 57,754
ASSOCIATED COMPANY
Investment in ShowBiz Pizza Time, Inc.... -- 16,945
OTHER
Cash and cash equivalents ............... 13,599 7,495
Deferred tax asset, net ................. 2,040 11,000
Receivables and other assets ............ 1,711 1,236
Restricted cash ......................... 393 573
------- --------
Total other assets ................... 17,743 20,304
------- --------
TOTAL ................................ $97,599 $116,796
======= ========
</TABLE>
See accompanying notes to consolidated financial statements.
Page 3
<PAGE> 4
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
(UNAUDITED)
LIABILITIES AND STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1997 1996
-------- ---------
<S> <C> <C>
ASSET MANAGEMENT
REAL ESTATE
Accounts payable and accrued expenses .............................. $ 613 $ 490
Loan payable ....................................................... 500 500
-------- ---------
1,113 990
ENERGY
Long-term obligations of HEP ....................................... 4,364 4,432
Current liabilities of HEP ......................................... 2,374 2,531
Loan payable ....................................................... 610 2,361
Accounts payable and accrued expenses .............................. 457 1,223
-------- ---------
7,805 10,547
-------- ---------
Total asset management liabilities .............................. 8,918 11,537
OPERATING SUBSIDIARIES
TEXTILE PRODUCTS
Loan payable ....................................................... 12,850 11,200
Accounts payable and accrued expenses .............................. 8,677 8,678
-------- ---------
21,527 19,878
HOTELS
Loans payable ...................................................... 11,609 12,281
Accounts payable and accrued expenses .............................. 1,780 1,976
-------- ---------
13,389 14,257
-------- ---------
Total operating subsidiaries liabilities ........................ 34,916 34,135
ASSOCIATED COMPANY
Accounts payable and accrued expenses .............................. -- 870
Loans payable ...................................................... -- 11,000
-------- ---------
Total associated company liabilities ............................ -- 11,870
OTHER
7% Collateralized Senior Subordinated Debentures ................... 24,444 24,892
13.5% Subordinated Debentures ...................................... 14,349 25,672
Interest and other accrued expenses ................................ 991 1,906
-------- ---------
Total other liabilities ......................................... 39,784 52,470
-------- ---------
TOTAL LIABILITIES ............................................... 83,618 110,012
REDEEMABLE PREFERRED STOCK
Series B, 250,000 shares issued and outstanding;
stated at redemption value ..................................... 1,000 1,000
STOCKHOLDERS' EQUITY
Preferred stock, 250,000 shares issued and outstanding as Series B.. -- --
Common stock, issued 1,597,204 shares at both dates;
outstanding 1,261,757 and 1,298,509 shares, respectively ........ 160 160
Additional paid-in capital ......................................... 54,823 57,306
Accumulated deficit ................................................ (32,883) (44,490)
Treasury stock, 335,447 and 298,695 shares, respectively, at cost... (9,119) (7,192)
-------- ---------
TOTAL STOCKHOLDERS' EQUITY ...................................... 12,981 5,784
-------- ---------
TOTAL ........................................................... $ 97,599 $ 116,796
======== =========
</TABLE>
See accompanying notes to consolidated financial statements.
Page 4
<PAGE> 5
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
1997 1996
------- --------
<S> <C> <C>
ASSET MANAGEMENT
REAL ESTATE
Fees ......................................... $ 3,592 $ 4,212
Equity income (loss) from investments in HRP.. 625 (1,259)
------- --------
4,217 2,953
Administrative expenses ...................... 1,427 905
Depreciation and amortization ................ 504 504
Interest ..................................... 120 241
Provision for loss (recovery) ................ 81 (22)
------- --------
2,132 1,628
------- --------
Income from real estate operations ........ 2,085 1,325
ENERGY
Gas revenues ................................. 2,781 3,260
Oil revenues ................................. 1,502 1,982
Other income ................................. 247 405
------- --------
4,530 5,647
Operating expenses ........................... 1,075 1,088
Depreciation, depletion and amortization ..... 982 1,210
Administrative expenses ...................... 726 890
Interest ..................................... 306 358
Minority interest ............................ -- 352
------- --------
3,089 3,898
------- --------
Income from energy operations ............. 1,441 1,749
------- --------
Income from asset management operations ... 3,526 3,074
OPERATING SUBSIDIARIES
TEXTILE PRODUCTS
Sales ........................................ 70,139 57,940
Cost of sales ................................ 60,769 49,980
Administrative and selling expenses .......... 6,858 6,417
Interest ..................................... 775 498
------- --------
68,402 56,895
------- --------
Income from textile products operations ... 1,737 1,045
</TABLE>
See accompanying notes to consolidated financial statements.
Page 5
<PAGE> 6
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
1997 1996
-------- --------
<S> <C> <C>
OPERATING SUBSIDIARIES (CONTINUED)
HOTELS
Sales ............................................. $ 16,543 $ 16,107
Operating expenses ................................ 13,268 13,188
Depreciation and amortization ..................... 2,000 1,905
Interest .......................................... 1,106 804
-------- --------
16,374 15,897
-------- --------
Income from hotel operations ................... 169 210
-------- --------
Income from operating subsidiaries ............. 1,906 1,255
ASSOCIATED COMPANY
Income from investment in ShowBiz ................. 19,416 4,107
Interest .......................................... 607 566
-------- --------
Income from associated company ................. 18,809 3,541
OTHER
Interest on short-term investments
and other income................................... 918 358
Fee income ........................................ 423 319
-------- --------
1,341 677
Interest .......................................... 2,931 3,131
Administrative expenses ........................... 2,095 1,656
-------- --------
5,026 4,787
-------- --------
Other loss, net ................................ (3,685) (4,110)
-------- --------
Income before income taxes and
extraordinary gain................................. 20,556 3,760
Income taxes ...................................... 9,776 555
-------- --------
Income before extraordinary gain .................. 10,780 3,205
Extraordinary gain from extinguishment of debt .... 877 --
-------- --------
NET INCOME ............................................... $ 11,657 $ 3,205
======== ========
PER COMMON SHARE (PRIMARY AND FULLY DILUTED)
Income before extraordinary gain .................. $ 7.20 $ 2.41
Extraordinary gain from extinguishment of debt .... 0.59 --
-------- --------
Net income ........................................ $ 7.79 $ 2.41
======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
Page 6
<PAGE> 7
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
SEPTEMBER 30,
1997 1996
-------- --------
<S> <C> <C>
ASSET MANAGEMENT
REAL ESTATE
Fees ....................................... $ 1,074 $ 2,117
Equity income (loss) from
investments in HRP........................ 219 (310)
-------- --------
1,293 1,807
Administrative expenses .................... 313 248
Depreciation and amortization .............. 168 168
Provision for loss ......................... 81 --
Interest ................................... 40 211
-------- --------
602 627
-------- --------
Income from real estate operations ...... 691 1,180
ENERGY
Gas revenues ............................... 1,071 1,021
Oil revenues ............................... 482 637
Other income ............................... 23 341
-------- --------
1,576 1,999
Operating expenses ......................... 415 356
Depreciation, depletion and amortization ... 355 355
Administrative expenses .................... 218 456
Interest ................................... 82 104
Minority interest .......................... -- 124
-------- --------
1,070 1,395
-------- --------
Income from energy operations ........... 506 604
-------- --------
Income from asset management
operations .............................. 1,197 1,784
OPERATING SUBSIDIARIES
TEXTILE PRODUCTS
Sales ...................................... 19,655 17,853
Cost of sales .............................. 17,221 15,626
Administrative and selling expenses ........ 2,200 2,138
Interest ................................... 247 176
-------- --------
19,668 17,940
-------- --------
Loss from textile products operations ... (13) (87)
</TABLE>
See accompanying notes to consolidated financial statements.
Page 7
<PAGE> 8
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
SEPTEMBER 30,
1997 1996
------- -------
<S> <C> <C>
OPERATING SUBSIDIARIES (CONTINUED)
HOTELS
Sales ................................................ $ 5,107 $ 5,045
Operating expenses ................................... 4,239 4,238
Depreciation and amortization ........................ 626 730
Interest ............................................. 374 381
------- -------
5,239 5,349
------- -------
Loss from hotel operations ........................ (132) (304)
------- -------
Loss from operating subsidiaries .................. (145) (391)
ASSOCIATED COMPANY
Income from investment in ShowBiz .................... -- 904
Interest ............................................. -- 226
------- -------
Income from associated company .................... -- 678
OTHER
Interest on short-term investments and other income... 344 128
Fee income ........................................... 138 106
------- -------
482 234
Administrative expenses .............................. 718 590
Interest ............................................. 711 1,080
------- -------
1,429 1,670
------- -------
Other loss, net ................................... (947) (1,436)
------- -------
Income before income taxes ........................... 105 635
Income taxes ......................................... 50 135
------- -------
NET INCOME .................................................. $ 55 $ 500
======= =======
PER COMMON SHARE (PRIMARY AND FULLY DILUTED)
Net income ........................................... $ 0.04 $ 0.38
======= =======
</TABLE>
See accompanying notes to consolidated financial statements.
Page 8
<PAGE> 9
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
1997 1996
-------- -------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income ...................................................................... $ 11,657 $ 3,205
Adjustments to reconcile net income to net cash provided
by operating activities:
Gain from sale of investment in ShowBiz ...................................... (18,277) (2,431)
Net change in deferred tax asset ............................................. 8,960 189
Depreciation, depletion and amortization ..................................... 4,367 4,427
Undistributed income from HEP ................................................ (2,684) (3,438)
Distributions from HEP ....................................................... 1,427 1,943
Net change in accrued interest on 13.5% Debentures ........................... 1,313 2,103
Payment of ShowBiz Participation Amount ...................................... (1,256) --
Equity in net (income) of ShowBiz ........................................... (1,139) (1,676)
Extraordinary gain from extinguishment of debt ............................... (877) --
Equity in net (income) loss of HRP ........................................... (625) 1,259
Amortization of deferred gain from debenture exchange ........................ (448) (430)
Provision for loss ........................................................... 81 --
Net change in textile products assets and liabilities ........................ (1,941) (1,351)
Net change in other assets and liabilities ................................... 856 (3,859)
Net change in energy assets and liabilities .................................. 98 158
-------- -------
Net cash provided by operating activities ................................. 1,512 99
CASH FLOWS FROM INVESTING ACTIVITIES
Net proceeds from sale of investment in ShowBiz ................................. 40,323 4,139
Capital expenditures for hotels and real estate ................................. (1,044) (961)
Investments in textile products property and equipment .......................... (903) (618)
Purchase of minority shares of HEC .............................................. (648) --
Net change in restricted cash for investing activities .......................... (276) (116)
Investments in energy property and equipment .................................... (164) (288)
Acquisition of fee interest in hotel ............................................ -- (6,550)
Investment in HRP ............................................................... -- (54)
-------- -------
Net cash provided by (used in) investing activities ....................... 37,288 (4,448)
CASH FLOWS FROM FINANCING ACTIVITIES
Self-tender offer for 13.5% Debentures .......................................... (12,875) --
Repayment of bank borrowings and loans payable .................................. (13,048) (1,084)
Purchase of common stock for treasury ........................................... (8,373) (394)
Proceeds from bank borrowings and loans payable ................................. 1,650 9,200
Payment of dividends to Series B preferred stockholders ......................... (50) (50)
Purchase of capital stock by energy subsidiary for treasury ..................... -- (158)
-------- -------
Net cash provided by (used in) financing activities ....................... (32,696) 7,514
-------- -------
NET INCREASE IN CASH AND CASH EQUIVALENTS ........................................... 6,104 3,165
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD ...................................... 7,495 3,339
-------- -------
CASH AND CASH EQUIVALENTS, END OF PERIOD ............................................ $ 13,599 $ 6,504
======== =======
</TABLE>
See accompanying notes to consolidated financial statements.
Page 9
<PAGE> 10
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
1. INTERIM CONSOLIDATED FINANCIAL STATEMENTS AND ACCOUNTING POLICIES
Interim Consolidated Financial Statements. The consolidated financial
statements have been prepared in accordance with the instructions to Form
10-Q and do not include all of the information and disclosures required by
generally accepted accounting principles, although, in the opinion of
management, all adjustments considered necessary for a fair presentation
have been included. These financial statements should be read in
conjunction with the audited consolidated financial statements and related
disclosures thereto included in Form 10-K for the year ended December 31,
1996.
Accounting Policies. Statement of Financial Standards No. 128, "Earnings
Per Share," specifies new computation, presentation and disclosure
requirements. The statement will be effective for both interim and annual
periods ending after December 15, 1997. Management believes that the
adoption of this statement will not have a material impact on the earnings
per share presented herein.
Statements of Financial Accounting Standards No. 130, "Reporting
Comprehensive Income" and No. 131 "Disclosures About Segments of an
Enterprise and Related Information" were issued during June 1997 which may
require additional disclosures by the Company. These statements are
effective for the Company's year ending December 31, 1998.
2. INVESTMENTS IN REAL ESTATE AFFILIATE AND ASSOCIATED COMPANY
(DOLLAR AMOUNTS IN THOUSANDS):
<TABLE>
<CAPTION>
AS OF SEPTEMBER 30, 1997 AMOUNT AT INCOME (LOSS) FROM INVESTMENTS
------------------------ WHICH CARRIED AT FOR THE NINE MONTHS ENDED
COST OR ---------------------------- SEPTEMBER 30,
BUSINESS SEGMENTS AND NUMBER OF ASCRIBED SEPTEMBER 30, DECEMBER 31, ---------------------
DESCRIPTION OF INVESTMENT UNITS VALUE 1997 1996 1997 1996
- ------------------------- ---------- ---------- ---------- ---------- ---------- --------
<S> <C> <C> <C> <C> <C> <C>
ASSET MANAGEMENT
REAL ESTATE AFFILIATE
HALLWOOD REALTY PARTNERS, L.P. (A)
- General partner interest............. -- $ 8,650 $ 4,632 $ 5,117 $ 19 $ (75)
- Limited partner interest............. 413,040 5,381 2,496 1,890 606 (1,184)
------- ------- -------- ------- --------
Totals ............................. $14,031 $ 7,128 $ 7,007 $ 625 $ (1,259)
======= ======= ======== ======= ========
ASSOCIATED COMPANY
SHOWBIZ PIZZA TIME, INC. (B)
- Common stock ........................ $ 16,945 $ -- $ --
Equity in earnings ................. -- 1,139 1,676
Gain on sale of shares ............. -- 18,277 2,431
-------- ------- --------
Totals ............................. $ 16,945 $19,416 $ 4,107
======== ======= ========
</TABLE>
(A) At September 30, 1997, Hallwood Realty Corporation ("HRC"), a wholly
owned subsidiary of the Company, owned a 1% general partner interest
and the Company owned a 24% limited partner interest in its Hallwood
Realty Partners, L.P. ("HRP") affiliate. The Company accounts for its
investment in HRP by the equity method of accounting. In addition to
recording its share of net income (loss), the Company also records its
pro rata share of partner capital transactions. On a cumulative basis,
the Company's carrying value of its investment in HRP had been
decreased by $49,000, none of which occurred in 1997, for its share of
such capital transactions with corresponding adjustments to paid-in
capital.
The carrying value of the Company's general partner interest includes
the value of intangible rights to provide asset management and property
management services. The Company amortizes that portion of the general
partner interest ascribed to the management rights. For the nine months
ended September 30, 1997 and 1996 such amortization was $504,000 in
each period.
As discussed in Note 4, the Company pledged 89,269 limited partner
units to collateralize a promissory note, due March 1998, in the
principal amount of $500,000.
Page 10
<PAGE> 11
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
(UNAUDITED)
The quoted market price and the Company's carrying value per limited
partner unit (Quotron symbol HRY) at September 30, 1997 were $54.50 and
$6.04, respectively.
The general partner interest is not publicly traded.
(B) The Company accounted for its investment in ShowBiz Pizza Time, Inc.
("ShowBiz") by the equity method of accounting. The Company also
recorded its pro rata share of stockholders' equity transactions with
corresponding adjustments to paid-in capital.
On January 3, 1997, the Company's Board of Directors authorized the
issuance of 267,709 treasury shares to and in exchange for 219,194
common shares of ShowBiz from the Alpha and Epsilon Trusts, which are
associated with Messrs. Anthony J. Gumbiner and Brian M. Troup,
chairman and president of the Company, respectively. For purposes of
the exchange, the shares of both companies were valued at their average
closing price for the month of December 1996.
On February 24, 1997, ShowBiz filed a registration statement with the
Securities and Exchange Commission covering a proposed public offering
of 3,200,000 shares of common stock (2,305,371 shares of which were
sold by the Company and 894,629 shares of which were sold by the Alpha
and Epsilon Trusts). The underwriters were also granted, and did
exercise their option to purchase an additional 454,746 shares of
common stock from the Company and the Trusts to cover over-allotments.
The Company had determined to sell its shares to repay debt, utilize
expiring federal income tax loss carryforwards and to focus on core
investments. On March 26, 1997, the Company completed the sale of its
entire 2,632,983 ShowBiz shares at $15.68 per share, net of
underwriting commissions. A portion of the proceeds from the sale were
used to repay the $7,000,000 MLBFS line of credit and the $4,000,000
promissory note as discussed in Note 4. The Company reported a gain of
$18,277,000 from the transaction. Concurrent with the sale, all five
directors of the Company who were also directors of ShowBiz resigned
from the ShowBiz board.
3. LITIGATION, CONTINGENCIES AND COMMITMENTS
Reference is made to Note 17 to the consolidated financial statements
contained in Form 10-K for the year ended December 31, 1996.
In the 1997 second quarter, the litigation matter styled Marc P.
Malcuit, et al, Plaintiffs vs. Howard Johnson International, Inc., et al,
Defendants, and numerous Third Party Defendants (including Integra Hotels
Incorporated), No. 96-C1-00049, was settled, and Integra's contribution was
paid by its insurance carrier. However, this settlement did not resolve
Integra's potential exposure to one of the Third Party Defendants, Holiday
Inns, Inc., under an indemnity provision contained in a former franchise
agreement. Integra does not agree with Holiday Inns, Inc.'s position on
this issue. Among other things, the contractual indemnity provision
predates Integra's bankruptcy proceeding; therefore, if an action is
brought hereafter, the Company will assert this and other factors as
defenses.
As further discussed in Note 4, the Company entered into a Compromise
and Settlement Agreement, whereby the Company and the Integra Unsecured
Creditors' Trust agreed to equally divide a $2,513,000 escrow account which
had been established in connection with the Company's sale of its ShowBiz
investment.
On February 27, 1997, a lawsuit was filed in the Chancery Court for New
Castle County, Delaware, styled Gotham Partners, L.P. v. Hallwood Realty
Partners, L.P. and Hallwood Realty Corporation (C.A. No. 105578). The
complaint sought access to certain books and records of HRP, a list of the
limited partners and reimbursement of the plaintiff's expenses. On June 25,
1997, plaintiff filed a motion to amend its complaint to add as additional
defendants the Company and directors of HRC, the general partner of HRP,
and to include claims that HRC had breached its fiduciary duties by not
providing access to the books and records as
Page 11
<PAGE> 12
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
(UNAUDITED)
requested, that HRC, its directors and the Company had breached the
partnership agreement and their fiduciary duties by causing HRP to engage
in certain transactions, including a reverse unit split, an odd-lot tender
offer, grants of unit options and sales of units to the Company on terms
that plaintiff alleged were not fair to HRP and, that the defendants did
not disclose to HRP and its partners the value of HRP's assets and the
reasons for the various transactions complained of. The defendants have
moved to dismiss the amended complaint. The complaint as amended seeks
production of the requested documents, rescission of sales of units to the
Company, removal of HRC as general partner, unspecified damages and
reimbursement to HRP of its expenses in connection with the transactions
and payment of plaintiff's fees and expenses. At the same time as the
filing of the motion to amend the first complaint, plaintiff filed a
separate action in the same court, styled Gotham Partners, L.P. v. Hallwood
Realty Partners, L.P., et al, (C.A. No. 15754), alleging the same facts and
demanding the same relief as plaintiff sought to be included in the amended
complaint in the first action. On June 27, 1997, the parties entered into a
Stipulation and Order under which HRP provided to plaintiff copies of
certain of the documents requested. The other claims in the two actions
remain outstanding. Defendants believe that the claims are without merit
and intend to defend the cases vigorously but, because of its early stages,
cannot predict the outcome of the claims or any possible effect an adverse
outcome might have.
In May 1997, a case was filed in United States District Court for the
District of Colorado styled Wayland E. Noland v. Hallwood Energy
Corporation, The Hallwood Group Incorporated, et al, (C.A. No. 96-WM-
2665). At the same time, the plaintiff asked that this case be consolidated
with the Ravenswood Investment Company, L.P. vs. Hallwood Energy
Corporation, Hallwood Group, Inc. case described in the Company's annual
Report on Form 10-K for the year ended December 31, 1996. Unlike the
plaintiff in the Ravenswood case, the plaintiff in the Noland case tendered
his shares pursuant to the tender offer made by the Company to the
shareholders of HEC, but the allegations are substantially identical as
those made in the Ravenswood case. The plaintiff in Noland seeks damages of
an unspecified amount, and seeks class certification to represent similarly
situated former shareholders of HEC. The defendants believe that they fully
considered and disclosed all material information in connection with the
tender offer and merger and that the price paid for the HEC shares was
fair, and that the Noland case, like the Ravenswood case, is without merit.
Certain non- tendering plaintiffs in the Ravenswood case, the owners of
15,065 shares of stock of HEC, have also filed a lawsuit styled Cede &
Company, et al, vs. Hallwood Group Inc. for appraisal rights under the
Texas statute. The Company plans to vigorously defend these cases, but
because of their early stages, cannot predict the outcome of the claims or
any possible effect an adverse outcome might have.
The Company had been contingently liable for the 12% Convertible Notes
(the "Notes") due July 31, 1997, issued by the Company's former wholly
owned subsidiary, Atlantic Metropolitan (U.K.) plc. Obligations under the
Notes were assumed by Grainger Trust plc ("Grainger") in connection with
its purchase of Atlantic Metropolitan (U.K.) plc in fiscal 1988; however,
the Company remained a guarantor as to the repayment of the Notes in the
event Grainger defaulted. The Notes were paid in full on July 31, 1997,
therefore, the Company has no further obligation.
The Company has entered into an agreement (the "Option Agreement") with
the president of its Brookwood Companies Incorporated subsidiary to sell
all of the capital stock of the textile products subsidiary for a minimum
of $9.8 million, including at least $1.8 million of anticipated dividends
and tax sharing payments. The Company is currently unable to determine if
the Option Agreement can be exercised by its March 31, 1998 expiration
date. If such transaction is determined to be probable, the Company will
record a charge against earnings at that time. In accordance with the terms
of the indenture for the 7% Debentures, the net proceeds from the sale
would be used to repurchase 7% Debentures (i) in the open market, (ii) in
private transactions or (iii) at random by the Trustee.
Page 12
<PAGE> 13
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
(UNAUDITED)
4. LOANS PAYABLE
Loans payable at the balance sheet dates are detailed below by business
segment (in thousands):
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1997 1996
-------- ---------
<S> <C> <C>
Real Estate
Promissory note, 8%, due March 1998........................... $ 500 $ 500
Energy
Term loan, prime + 1%, due May 1998........................... 610 2,361
Textile Products
Revolving credit facility, prime + .25%, due January 2000..... 12,850 --
Revolving credit facility, prime + .5%, repaid January 1997... -- 11,200
-------- ---------
12,850 11,200
Hotels
Term loan, prime + 3.5%, due May 2001......................... 6,688 6,739
Term loan, 10%, due October 2001.............................. 4,921 5,001
Promissory note, certificate of deposit rate,
repaid January 1997......................................... -- 375
Non-interest bearing obligation, repaid March 1997............ -- 166
-------- ---------
11,609 12,281
Associated Company
Line of credit, prime + .75%, repaid March 1997............... -- 7,000
Promissory note, 5%, repaid March 1997........................ -- 4,000
-------- ---------
-- 11,000
-------- ---------
Total......................................................... $ 25,569 $ 37,342
======== =========
</TABLE>
Further information by business segment is provided below:
Real Estate
Promissory note. In connection with the settlement of an obligation
related to the Company's Integra Hotels, Inc. subsidiary, the Company
issued a four-year, $500,000, promissory note due March 1998. The note is
secured by a pledge of 89,269 HRP limited partner units. The settlement
agreement also provided that the pledgee has the right to receive an
additional payment in an amount equal to 25% of the increase in the value
of the HRP units over the base amount of $8.44 per unit, but in no event
more than an additional $500,000 (the "HRP Participation Amount"). The
Company has accrued the cumulative amount of $420,000 for this HRP
Participation Amount as a charge to interest expense, of which $90,000 and
$200,000 were recorded in the nine months ended September 30, 1997 and
1996, respectively.
Energy
Term loan. In December 1996, the Company's HEPGP Ltd. partnership
("HEPGP") entered into a $2,500,000 term loan agreement. The loan is
collateralized by the Company's HEP limited partner units and its
investment in HEPGP and Hallwood GP, Inc. HEPGP has also pledged its direct
interests in certain oil and gas properties. Other significant terms
include: (i) maturity date of May 31, 1998; (ii) monthly principal payments
of $139,000, plus interest; (iii) interest rate of prime plus 1% (9.50% at
September 30, 1997); (iv) a negative pledge relating to a portion of the
Company's ShowBiz common shares, which was released in March 1997 as a
Page 13
<PAGE> 14
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
(UNAUDITED)
result of a $500,000 principal payment from proceeds of sale of the ShowBiz
shares; and (v) restrictions on the declaration of distributions or
redemptions of partnership interests.
Included in the consolidated balance sheets are the Company's share of
the long-term obligations of its affiliated entity, Hallwood Energy
Partners, L.P. ("HEP") in the amount of $4,364,000 and $4,432,000 at
September 30, 1997 and December 31, 1996, respectively.
Textile Products
Revolving credit facility (former). In December 1992, the Company's
textile products subsidiary, Brookwood Companies Incorporated
("Brookwood"), established a revolving line of credit facility with The
Chase Manhattan Bank, N.A. ("Chase") in an amount up to $13,500,000. The
facility was collateralized by accounts receivable and the industrial
machinery and equipment located in Kenyon, Rhode Island.
Revolving credit facility (current). The Chase facility was replaced by
a new revolving credit facility in an amount of up to $14,000,000
($17,500,000 between April 1, 1997 and December 31, 1997 and $15,000,000
April through June of any other year) on January 7, 1997 with The Bank of
New York ("BNY"). Borrowings under the BNY facility, as amended, are
collateralized by accounts receivable, inventory imported under trade
letters of credit, certain finished goods inventory and the machinery and
equipment of Brookwood's subsidiaries. The BNY facility expires on January
7, 2000 and bears interest, at Brookwood's option, of one-quarter percent
over prime (8.75% at September 30, 1997) or LIBOR plus 2.25%. The facility
contains covenants, which include maintenance of certain financial ratios,
restrictions on dividends and repayment of debt or cash transfers to the
Company. Brookwood is in compliance with the BNY loan covenants. The
outstanding balance at September 30, 1997 was $12,850,000.
Hotels
Term loan. In May 1996, a newly-formed, wholly-owned special purpose
subsidiary, Brock Suite Greenville, Inc., acquired the fee interest in the
Residence Inn By Marriott hotel in Greenville, South Carolina for
$6,550,000. Prior to the acquisition, the Company held a leasehold interest
in the hotel. The acquisition was financed by a $6,800,000 term loan. The
loan is secured by the hotel and includes the following significant terms:
(i) interest rate of prime plus 3.50% (minimum rate 12%, maximum rate 17%);
(ii) loan payments based upon a 19-year amortization schedule with a
maturity date of May 2001; (iii) loan may be prepaid, subject to a
prepayment premium which declines from 4% to 1% of the loan balance,
depending on the prepayment date; and (iv) various financial and
non-financial covenants, including a minimum debt service coverage ratio,
as defined, of 1.25. The outstanding balance at September 30, 1997 was
$6,688,000.
Term loan. In October 1994, the Company's Integra Hotels, Inc.
subsidiary entered into a mortgage loan in the amount of $5,200,000. The
loan is secured by the Residence Inn By Marriott hotel in Tulsa, Oklahoma
and includes the following significant terms: (i) fixed interest rate of
10%; (ii) loan payments based upon a 20-year amortization schedule with a
call after seven years; (iii) participation by lender of 15% of net cash
flow (as defined) after capital expenditures and debt service and 15% of
residual value at maturity or upon sale or refinancing; and (iv)
maintenance of a 4% capital reserve. The outstanding balance at September
30, 1997 was $4,921,000.
Promissory note. In connection with the acquisition of the fee interest
of the Greenville Residence Inn, the Company issued a promissory note to
the former owner in the amount of $375,000. The promissory note bore
interest at the same rate as the related $375,000 certificate of deposit,
which secured the repayment of the note. The certificate of deposit was
included in restricted cash at December 31, 1996. The promissory note was
repaid in full from proceeds of the certificate of deposit, which matured
in January 1997.
Page 14
<PAGE> 15
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
(UNAUDITED)
Non-interest bearing obligation. The $500,000 non-interest bearing
obligation to the former preferred shareholders of Integra was issued in
connection with a Settlement and Supplemental Settlement and was payable in
three equal annual installments in the amount of $166,667. The third and
final payment was made on March 8, 1997.
Associated Company
Line of credit. In April 1994, the Company obtained a line of credit
from Merrill Lynch Business Financial Services Inc. ("MLBFS") which
replaced a former margin loan. Significant terms of the line of credit were
(i) interest rate - prime plus 0.75%; (ii) collateral - 2,159,047 shares of
ShowBiz common stock; and (iii) availability limited to 50% of the market
value of the pledged shares of ShowBiz. The maturity date of the line of
credit was extended to April 30, 1997, and the maximum commitment amount
was increased to $7,000,000. The Company drew down the additional funds
under this line of credit in June 1996. In May 1996, MLBFS consented to the
release and sale of 262,500 shares, which were sold. The line of credit was
repaid in March 1997 from proceeds of sale of the Company's ShowBiz
investment as discussed in Note 2.
Promissory note. The Company issued a $4,000,000 promissory note to the
Integra Unsecured Creditors' Trust in connection with the consummation of
the Integra Plan of Reorganization. Significant terms were (i) maturity
date - March 8, 1997; (ii) interest rate - 5% fixed; (iii) collateral -
517,242 shares of ShowBiz common stock; and (iv) the Trust was entitled to
an additional payment at the "Payment Date", as defined, in an amount equal
to 100% of the increase in the market value of the ShowBiz shares, as
defined, over the base amount of $16.67 per share (the " ShowBiz
Participation Amount"). As the ShowBiz per share price was $18.12 at
December 31, 1996, the Company accrued $755,000 for the ShowBiz
Participation Amount as a charge to interest expense in the year ended
December 31, 1996. Although the Company had accrued the ShowBiz
Participation Amount, it contended that a proper tender of payment and
accrued interest was made on October 11, 1996, and therefore no ShowBiz
Participation Amount was owed. As the Trust contended that the promissory
note did not provide for prepayment, and that both the promissory note and
ShowBiz Participation Amount were owing, the Company filed suit to resolve
the matter.
In connection with the disposition of the Company's entire ShowBiz
investment in March 1997, the Company and the Trust entered into a Partial
Compromise and Settlement Agreement, whereby the Trust consented to the
sale of the 517,242 shares of ShowBiz in exchange for (i) the repayment of
the $4,000,000 principal amount of the note and accrued interest through
October 11, 1996 and (ii) the deposit of $2,513,000 the "Full Escrowed
Amount" into an escrow account, which was a combination of the $2,431,000
disputed ShowBiz Participation Amount, including an additional accrual of
$1,675,000 as a charge to interest expense in the quarter ended March 31,
1997, and the $82,000 balance of accrued interest to the maturity date.
On July 30, 1997 the Company entered into a Compromise and Settlement
Agreement, whereby (i) the parties agreed that the Full Escrowed Amount
would be equally divided between the Trust and Hallwood and (ii) mutual
releases would be executed, in respect to the civil action in the United
States District Court, Case No. 3-96CV309DG, for the Northern District of
Texas, Dallas Division. Accordingly, $1,256,500 was recorded as a reduction
of interest expense in the quarter ended June 30, 1997 as an offset to the
interest expense that had been accrued in the March 31, 1997 quarter.
Settlement proceeds plus accrued interest were received on July 31, 1997.
5. 7% COLLATERALIZED SENIOR SUBORDINATED DEBENTURES AND 13.5% SUBORDINATED
DEBENTURES
7% Collateralized Senior Subordinated Debentures. On March 1, 1993, the
Company completed an exchange offer whereby $27,481,000 of its 13.5%
Debentures were exchanged for a new issue of 7% Collateralized Senior
Subordinated Debentures due July 31, 2000 (the" 7% Debentures"), and
purchased for cash $14,538,000 of its 13.5% Debentures at 80% of face
value. Interest is payable quarterly in arrears, in cash, and the 7%
Debentures are secured by a pledge of the capital stock of the Brookwood
and Hallwood Hotels,
Page 15
<PAGE> 16
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
(UNAUDITED)
Inc. subsidiaries. The common and preferred stock of Brookwood are
subject to a prior pledge in favor of BNY.
Since 1994, the Company has repurchased 7% Debentures having a principal
value of $4,673,000. These repurchases satisfied the Company's obligation
to retire 10% of the original issue ($2,748,000) prior to March 1996, and
partially satisfied the Company's obligation to retire an additional 15% of
the original issue ($4,122,000) prior to March 1998. Accordingly, the
Company must retire an additional $2,197,000 prior to March 1998.
13.5% Subordinated Debentures. On May 15, 1989, the Company distributed
to its stockholders $46,318,600 aggregate principal amount of an original
issue (the "1989 Series") of its 13.5% Subordinated Debentures, due July
31, 2009 (the "13.5% Debentures"). The Company had authorized the issuance
of up to $100,000,000 aggregate principal amount of 13.5% Debentures. The
13.5% Debentures are subordinate to bank borrowings, guarantees of the
Company and other "Senior Indebtedness" (as defined in the indenture
relating to the 13.5% Debentures).
Interest on the 13.5% Debentures is payable annually, on August 15, and,
at the Company's option, up to two annual interest payments in any
five-year period may be paid in-kind by the issuance of additional 13.5%
Debentures in lieu of cash.
Interest due on August 15, 1989 and 1990 was paid in cash. Interest due
on August 15, 1991 was paid in-kind by the issuance of $6,019,500
additional 13.5% Debentures (the "1991 Series") and $139,200 of cash in
lieu of fractional debentures. Interest due on August 15, 1992 was paid
in-kind by the issuance of $6,792,900 additional 13.5% Debentures (the
"1992 Series") and $172,500 of cash in lieu of fractional debentures.
Interest due on August 15, 1993, 1994 and 1995 was paid in cash. Interest
due on August 15, 1996 was paid in-kind by the issuance of $2,817,000
additional 13.5% Debentures (the "1996 Series") and $260,000 of cash in
lieu of fractional debentures. Interest due on August 15, 1997 was paid
in-kind by the issuance of $1,524,000 of additional 13.5% Debentures (the
"1997 Series") and $199,000 of cash in lieu of fractional debentures. The
1996 Series and 1997 Series do not meet the $5,000,000 minimum listing
requirement on a recognized exchange and therefore are not listed.
Results of Tender Offer for 13.5% Debentures. In June 1997, pursuant to
a self-tender offer for up to $20,000,000 of its 13.5% Debentures,
debentureholders tendered $12,875,000 principal value of 13.5% Debentures
(50.1% of the total $25,672,000 outstanding at the beginning of the offer)
during the offer period. The breakdown by series is listed below:
<TABLE>
<CAPTION>
PRINCIPAL
SERIES AMOUNT TENDERED
---------- ---------------
<S> <C>
1989........................ $ 8,485,000
1991........................ 1,208,000
1992........................ 1,218,000
1996........................ 1,965,000
----------
$12,875,000
===========
</TABLE>
The price offered for the 13.5% Debentures was $105 per $100 principal
amount, and aggregated $13,519,000 for all debentures properly tendered.
Terms of the offer stipulated that no interest would be paid to
debentureholders accepting the offer. As a result, the Company recognized
an extraordinary gain from debt extinguishment of $877,000 attributable to
the over accrual of interest up to the date the self-tender offer expired.
Page 16
<PAGE> 17
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
(UNAUDITED)
Balance sheet amounts for the 7% Debentures and 13.5% Debentures are
detailed below (in thousands):
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
DESCRIPTION 1997 1996
-------------------------------------------- -------- --------
<S> <C> <C>
7% Debentures (face amount).................................. $ 22,808 $ 22,808
Unrecognized gain from purchase and exchange, net of
$2,584 and $2,136 accumulated amortization,
respectively............................................. 1,636 2,084
-------- --------
Totals................................................... $ 24,444 $ 24,892
======== ========
13.5% Debentures (face amount)
1989 Original Series....................................... $ 9,745 $ 18,203
1991 Series................................................ 1,086 2,292
1992 Series................................................ 1,142 2,360
1996 Series................................................ 852 2,817
1997 Series................................................ 1,524 --
------- --------
Totals................................................... $14,349 $ 25,672
======= ========
</TABLE>
Page 17
<PAGE> 18
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
(UNAUDITED)
6. INCOME TAXES
The following is a summary of the income tax expense (in thousands):
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ ----------------------
1997 1996 1997 1996
------ ------- --------- --------
<S> <C> <C> <C> <C>
Federal
Deferred................................ $ -- $ 31 $ 8,960 $ 189
Current................................. 10 128 535 182
----- ------ -------- ------
Sub-total............................. 10 159 9,495 371
State .................................... 40 (24) 281 184
----- ------ -------- ------
Total................................. $ 50 $ 135 $ 9,776 $ 555
===== ====== ======== ======
</TABLE>
As a result of the substantial tax gain from the sale of ShowBiz, the
Company recorded a related non-cash deferred federal tax charge of
$8,960,000 in the 1997 first quarter, which reflects the realization of tax
benefits from the utilization of the Company's tax net operating loss
carryforwards ("NOLs") and a current federal tax charge of $535,000 for
alternative minimum tax.
State tax expense is an estimate based upon taxable income allocated to
those states in which the Company does business, at their respective tax
rates.
The amount of the deferred tax asset (net of valuation allowance) was
$2,040,000 at September 30, 1997. The deferred tax asset arises principally
from the anticipated utilization of the Company's NOLs and tax credits from
the implementation of various tax planning strategies.
7. SUPPLEMENTAL DISCLOSURES TO THE CONSOLIDATED STATEMENTS OF CASH FLOWS
The following transactions affected recognized assets or liabilities but
did not result in cash receipts or cash payments (in thousands):
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
-----------------
DESCRIPTION 1997 1996
----------- ------ -------
<S> <C> <C>
Supplemental schedule of noncash investing
and financing activities:
Issuance of treasury stock in exchange for
common shares of ShowBiz:
Investment in ShowBiz........................................ $3,820 $ --
Reduction of additional paid-in capital...................... 2,626 --
Reduction in treasury stock.................................. 6,446 --
Payment in-kind of annual interest on 13.5% Debentures......... 1,524 2,817
Repayment of note payable from funds held in
restricted cash.............................................. 375 --
Recording of proportionate share of stockholders'
equity transaction of equity investments..................... 143 116
Supplemental disclosures of cash payments:
Interest paid.................................................. $5,550 $3,446
Income taxes paid.............................................. 655 328
</TABLE>
Page 18
<PAGE> 19
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
(UNAUDITED)
8. COMMON STOCK
On January 3, 1997, the Company's Board of Directors authorized the
issuance of 267,709 treasury shares in exchange for 219,194 common shares
of ShowBiz. See Note 2.
On April 30, 1997, the Company announced a self-tender offer for up to
300,000 shares of its common stock at $27.50 per share, terms and
conditions of which were discussed in the offering document dated May 12,
1997. The self-tender offer expired on June 16, 1997. Stockholders tendered
a total of 328,346 shares. The Company accepted 4,461 additional shares as
permitted by the offering documents for a total purchase price of
$8,373,000. The 304,461 shares purchased represented 92.7% of the properly
tendered shares.
For accounting purposes, the cost of the shares has been recorded as
treasury stock in the stockholders equity section of the balance sheet.
Page 19
<PAGE> 20
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
The Company reported net income of $55,000 for the third quarter ended
September 30, 1997, compared to net income of $500,000, in the 1996 period.
The nine-month net income of $11,657,000, compares to net income of
$3,205,000 in the 1996 period. Total revenue for the 1997 third quarter was
$28,113,000, compared to $27,842,000 in the prior-year period. For the nine
months revenue was $116,186,000 compared to $87,431,000 in the prior-year
period. The 1997 nine month results included a gain of $18.3 million from
the March 1997 sale of the Company's remaining investment in ShowBiz,
partially offset by a related non-cash deferred federal tax charge of
$8,960,000 and current federal tax charge of $535,000. The 1996 nine month
results included a $2.4 million gain from the sale of 262,500 ShowBiz
shares.
Following is an analysis of the results of operations by asset
management, operating subsidiaries and associated company divisions; and by
the real estate, energy, textile products, hotels and restaurant business
segments within those divisions.
Asset Management. The business segments of the Company's asset
management division consist of real estate and energy.
REAL ESTATE
Revenue. Fee income of $1,074,000 for the quarter ended September 30,
1997 decreased by $1,043,000, or 49%, from $2,117,000 in the prior-year
period. Fee income of $3,592,000 for the nine months decreased by $620,000
from $4,212,000 for the similar period a year ago. Fees are derived from
the Company's asset management, property management, leasing and
construction supervision services provided to its Hallwood Realty Partners,
L.P. affiliate, a real estate master limited partnership ("HRP") and to
third party real estate property owners. The decreases were due primarily
to leasing fees earned in the 1996 third quarter, in connection with the
long-term renewal of a lease for a major tenant.
The equity income (loss) from investments in HRP represents the
Company's recognition of its pro rata share of the earnings (loss) reported
by HRP and amortization of negative goodwill. For the 1997 third quarter,
the Company reported income of $219,000 compared to a $310,000 loss in the
period a year ago. The comparative nine month amounts were income of
$625,000 in 1997 and a loss of $1,259,000 in 1996. The improvement resulted
principally from HRP's substantially lower depreciation expense, as a
result of an extension of the useful economic lives of certain building
costs, effective January 1, 1997.
Expenses. Administrative expenses increased to $313,000 and $1,427,000
in the 1997 third quarter and nine-month periods, compared to $248,000 and
$905,000 in the comparable year-ago periods, due to the payment of leasing
commissions in connection with the leasing fees earned from third party
owners and increased payments under the management company's incentive
plan.
Amortization expense of $168,000 for the third quarter and $504,000 for
the nine months in both the 1997 and 1996 periods relates to HRC's general
partner investment in HRP to the extent allocated to management rights.
The provision for loss of $81,000 in the 1997 third quarter relates to
the uncollectibility of a tenant receivable deposit from the December 1995
sale of the United Kingdom office-retail property
Interest expense decreased to $40,000 from $211,000 in the 1997 third
quarter and to $120,000 from $241,000 in the nine-month period, due to the
recording of a $30,000 charge in each of the respective 1997 periods,
compared to a $200,000 charge recorded only in the 1996 third quarter, for
the HRP Participation Amount discussed in Note 4.
Page 20
<PAGE> 21
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
ENERGY
Revenue. After the Company's successful completion of the tender offer
for the minority shares of Hallwood Energy Corporation ("HEC") and the
subsequent merger of HEC, it effectively acquired ownership of the assets
formerly held by HEC. Following the merger, certain HEC assets were
transferred to two wholly owned entities. These two entities, in addition
to the three classes of limited partner units (or 6.5%) of HEP which remain
with the Company, constitute the Company's investment in the energy
industry. The Company's general partner interest in HEP entitles it to
interests in HEP's properties ranging from 2% to 25%. The Company and its
energy subsidiaries account for their ownership of HEP using the
proportionate consolidation method of accounting, whereby they record their
proportionate share of HEP's revenues and expenses, current assets, current
liabilities, noncurrent assets, long-term obligations and fixed assets. HEP
owns approximately 46% of its affiliate, Hallwood Consolidated Resources
Corporation ("HCRC"), which HEP accounts for under the equity method.
Gas revenue for the 1997 third quarter increased $50,000 to $1,071,000
from $1,021,000. For the nine months, gas revenue declined to $2,781,000
from $3,260,000. The decrease in gas revenue for the nine months was due
primarily to a decrease in production to 1,158,000 mcf from 1,364,000 mcf,
partially offset by an increase in the average gas price to $2.40 from
$2.39 per mcf. Oil revenue for the 1997 third quarter decreased $155,000 to
$482,000 from $637,000. For the nine months, oil revenue declined to
$1,502,000 from $1,982,000. The decrease for the nine months was
attributable to a decline in production to 74,000 barrels from 101,000
barrels, partially offset by an increase in the average price per barrel to
$20.30 from $19.62. The decrease in oil and gas production is primarily due
to the temporary shut-in of two wells in Louisiana during the 1997 second
quarter while workover procedures were performed, as well as normal
production declines. The workover procedures were completed and production
resumed in the third quarter.
Other income consists primarily of acquisition fee and interest income,
as well as a share of HEP's interest income, facilities income from two
gathering systems in New Mexico, pipeline revenue, equity in income of
affiliates and miscellaneous income or expense. The decrease in other
income to $23,000 for the 1997 third quarter from $341,000 in the 1996
period and to $247,000 for the 1997 nine month period from $405,000 in the
1996 period are primarily due to a decrease in acquisition fee income from
fewer acquisitions made by HEP during 1997.
Expenses. Operating expenses increased by $59,000 to $415,000 for the
1997 third quarter from $356,000 in the prior-year quarter and decreased
$13,000 to $1,075,000 for the nine months from $1,088,000 as a result of
decreased production taxes resulting from the lower production described
above.
Depreciation, depletion and amortization of $355,000 was unchanged for
the 1997 third quarter and decreased to $982,000 for the nine months
compared to $1,210,000 in the year-ago period. The nine-month decrease is
attributable to lower depletion in 1997 due to the decline in production
previously discussed.
Administrative expenses decreased by $238,000 for the 1997 third quarter
to $218,000 from $456,000 in the 1996 quarter and decreased by $164,000 to
$726,000 for the 1997 nine-month period from $890,000, due to the timing of
the payment of consulting fees and a decrease in the Company's pro rata
share of HEP's bank fees.
Interest expense decreased by $22,000 to $82,000 for the 1997 third
quarter compared to $104,000 in 1996 and decreased by $52,000 to $306,000
for the 1997 nine months compared to $358,000 for the year ago period,
primarily due to a decrease in the Company's outstanding debt balance as
well as a decrease in its pro rata share of HEP's interest expense
resulting from a lower debt balance during 1997.
Page 21
<PAGE> 22
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Minority interest, which represents the interest of other common
shareholders in the net income of HEC, was $124,000 and $352,000 in the
1996 third quarter and nine-month periods, respectively. The minority
interest was eliminated in November 1996 as a result of the merger of HEC
into the Company.
Operating Subsidiaries. The business segments of the Company's operating
subsidiaries consist of textile products and hotels.
TEXTILE PRODUCTS
Revenue. Sales increased $1,802,000, or 10%, in the 1997 third quarter
to $19,655,000, compared to $17,853,000 in the same quarter a year ago. The
comparative nine months sales increased by 21% to $70,139,000 in 1997 from
$57,940,000 in 1996. The sales increases occurred in all divisions, but
principally in the distribution businesses. Demand for Brookwood's products
is much higher in 1997, compared to the weak market conditions experienced
in 1996.
Expenses. Cost of sales increased $1,595,000, or 10%, to $17,221,000
from $15,626,000 in the third quarter last year and increased $10,789,000,
or 22%, to $60,769,000 from $49,980,000 for the nine months. The increase
in cost of sales was principally the result of the increase in sales. The
lower gross profit margins for the 1997 third quarter (12.4% versus 12.5%)
and the nine-month periods (13.4% versus 13.7%) resulted from competitive
market pressures in the distribution businesses.
Administrative and selling expenses increased $62,000 in the 1997 third
quarter to $2,200,000 from $2,138,000 for the comparable 1996 period, and
increased $441,000 for the nine-month period to $6,858,000 from $6,417,000
for the comparable 1996 period, due to increased operating expenses
associated with the 21% increase in sales revenue.
The $71,000 increase in interest expense to $247,000 for the 1997 third
quarter from $176,000 in the prior-year period and the $277,000 increase to
$775,000 for the nine months from $498,000 were the result of higher
average borrowings than in the prior-year period.
HOTELS
Revenue. Sales of $5,107,000 in the 1997 third quarter increased by
$62,000, or 1.2% from the year-ago amount of $5,045,000. The 1997 nine
month hotel sales of $16,543,000 increased by $436,000, compared to
$16,107,000 for the 1996 period. Improved sales were reported at four of
five of the Company's hotel properties and were attributable to higher
average daily rates, which averaged a 4.0% increase, and stable occupancy
levels.
Expenses. Operating expenses of $4,239,000 for the 1997 third quarter
increased by $1,000 from $4,238,000 in 1996. The 1997 nine month hotel
operating expenses increased by $80,000 to $13,268,000, compared to
$13,188,000 for the 1996 period. The 2.3% increase on a comparable basis is
offset by the lack of rent expense since May 1996 for the Greenville, South
Carolina Residence Inn, which was formerly a leasehold interest.
Depreciation and amortization expense decreased by $104,000 to $626,000
for the 1997 third quarter from $730,000 in the prior-year period. The
decrease is attributable to the full amortization of the leasehold interest
for the Oklahoma City Embassy Suite in June 1997, offset by additional
depreciation resulting from the May 1996 purchase of the fee interest in
the Greenville Residence Inn hotel and recent capital expenditures at the
remaining properties. Depreciation and amortization for the 1997 and 1996
nine month periods were $2,000,000 and $1,905,000, respectively.
Page 22
<PAGE> 23
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Interest expense decreased by $7,000 to $374,000 for the 1997 third
quarter from $381,000 in the 1996 period and increased by $302,000 to
$1,106,000 for the nine month period from $804,000, due to the procurement
of a $6,800,000 term loan on the Greenville Residence Inn hotel in May
1996.
ASSOCIATED COMPANY
Revenue. Results for the 1997 nine month period include the Company's
pro-rata share of ShowBiz results using the equity method of accounting and
a substantial gain on the sale of the Company's entire ShowBiz investment.
For the nine months, the Company recorded equity income of $1,139,000 from
its investment in ShowBiz compared to equity income of $1,676,000 in the
prior-year period. On March 26, 1997 the Company completed the sale of its
entire 2,632,983 ShowBiz shares at $15.68 per share, net of underwriting
commissions. The Company sold its shares to repay debt, utilize expiring
federal income tax loss carryforwards and to focus on core investments. The
Company reported a gain of $18,277,000 from the transaction. The prior year
income included a gain on sale of 262,500 ShowBiz shares in the amount of
$2,431,000 in the 1996 second and third quarter. See Note 2.
Expenses. No interest expense was reported for the 1997 third quarter,
compared to $226,000 from the year-ago quarter. Interest expense of
$607,000 for the 1997 nine month period, which includes $419,000 for the
ShowBiz Participation Amount discussed in Note 4, increased by $41,000 from
the 1996 amount of $566,000.
OTHER
Revenue. Interest on short-term investments and other income increased
by $216,000 to $344,000 for the 1997 third quarter and increased by
$560,000 to $918,000 for the 1997 nine month period from the comparable
prior year amounts of $128,000 and $358,000, respectively. The increases
were primarily attributable to higher interest income earned on the
Company's short-term investments, and higher rental income from the
subleasing of executive office space formerly occupied by the Company's
affiliated entity - Integra-A Hotel and Restaurant Company. Fee income for
the 1997 third quarter and nine month periods of $138,000 and $423,000,
respectively, compared to $106,000 and $319,000 in the 1996 periods. The
increases were due to a modification of a consulting agreement with one of
the Company's affiliated companies.
Expenses. Interest expense in the amount of $711,000 for the 1997 third
quarter and $2,931,000 for the nine months decreased from the prior year
amounts of $1,080,000 and $3,131,000, respectively. The decreases were
primarily due to the August 1996 issuance of additional 13.5% Debentures in
the amount of $2,817,000 and the August 1997 issuance of an additional
$1,524,000, in connection with the payment of annual interest in-kind,
offset by the repurchase of $12,875,000 of its 13.5% Debentures pursuant to
the self- tender offer which was completed on June 24, 1997. See Note 5.
Administrative expenses of $718,000 for the 1997 third quarter and
$2,095,000 for the nine months were increased from the comparable 1996
amounts of $590,000 and $1,656,000, respectively. The increases were due to
higher consulting, legal and accounting fees.
Income taxes. Income tax expense was $50,000 for the 1997 third quarter
and $135,000 in the 1996 quarter. The income tax expense for the 1997 and
1996 nine month periods were $9,776,000 and $555,000, respectively. The
1997 nine months included an $8,960,000 non-cash federal deferred tax
charge and a federal current charge of $535,000 for alternative minimum tax
(both charges relating to the ShowBiz sale). The 1996 nine months included
a non-cash federal deferred charge of $189,000 and a $182,000 federal
current charge. The balance of the expense in the quarter and nine month
periods was for state taxes, which is an estimate based upon taxable income
allocated to those states in which the Company does business at their
respective tax rates. See Note 6.
Page 23
<PAGE> 24
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
As of September 30, 1997, the Company had approximately $115,000,000 of
tax net operating loss carryforwards ("NOLs") and temporary differences to
reduce future federal income tax liability. The estimated tax gain from the
sale of the Company's ShowBiz investment will be offset by utilization of
the Company's NOL's. Based upon the Company's expectations and available
tax planning strategies, management has determined that taxable income will
more likely than not be sufficient to utilize approximately $6,000,000 of
the NOLs prior to their ultimate expiration in the year 2011.
Management believes that the Company has certain tax planning strategies
available, which include the potential sale of hotel properties and certain
other assets, that could be implemented, if necessary, to supplement income
from operations to fully realize the recorded tax benefits before their
expiration. Management has considered such strategies in reaching its
conclusion that, more likely than not, taxable income will be sufficient to
utilize a portion of the NOLs before expiration; however, future levels of
operating income and taxable gains are dependent upon general economic
conditions and other factors beyond the Company's control. Accordingly, no
assurance can be given that sufficient taxable income will be generated for
significant utilization of the NOLs. Although the use of such carryforwards
could, under certain circumstances, be limited, the Company is presently
unaware of the occurrence of any event which would result in the imposition
of such limitations.
Page 24
<PAGE> 25
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
LIQUIDITY AND CAPITAL RESOURCES
The Company's unrestricted cash and cash equivalents at September 30,
1997 totaled $13,599,000. The increase from the December 31, 1996 amount of
$7,495,000 is primarily attributable to the sale of the Company's entire
ShowBiz investment, after the payment of certain related liabilities, and
payments in connection with the self-tender offers for the 13.5% Debentures
and common stock.
The Company's real estate segment generates funds principally from its
property management and leasing activities, without significant additional
capital costs. The majority of its investment in HRP is presently
unencumbered.
The Company's energy segment generates funds from its operating and
financing activities, and is subject to fluctuating oil and gas production
and prices. In accordance with the proportionate consolidation method of
accounting, the Company reports its share of the long-term obligations of
its HEP affiliate totaling $4,364,000 at September 30, 1997. HEP's
borrowings are secured by a first lien on approximately 80% in value of
HEP's oil and gas properties. In December 1996, the Company's HEPGP entity
obtained a $2,500,000 term loan, which had been reduced to $610,000 at
September 30, 1997. The loan contains a provision which prohibits HEPGP
from making any distribution, directly or indirectly, to the Company during
the term of the loan.
Brookwood maintains a revolving line of credit facility with The Bank of
New York, which is collateralized by accounts receivable, certain inventory
and equipment. At September 30, 1997, Brookwood had $1,708,000 of unused
borrowing capacity on its line of credit. In January 1997, the Company
received a $1,000,000 cash dividend from Brookwood on its preferred stock.
Future dividends will be paid as permitted by the new revolver, which
allows for dividends to be paid to the extent of 80% of cash flow after
capital expenditures.
The Company's hotel segment generates cash flow from operating five
hotels (one Holiday Inn in Florida, one Embassy Suites and one Residence
Inn in Oklahoma, and one Residence Inn each in Alabama and South Carolina).
The sale or refinance of hotel properties may also provide sources of
liquidity; however, sales transactions may be impacted by the inability of
prospective purchasers to obtain equity capital or suitable financing. The
hotels are operated under various licensing agreements which require
periodic franchise mandated modernization programs, the cost of which can
be substantial.
Management believes that it will have sufficient funds derived from
operations and the potential sale of hotel properties or other assets to
satisfy its obligations.
Page 25
<PAGE> 26
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
PART II - OTHER INFORMATION
Item
1 Legal Proceedings
Reference is made to Note 3 to the Company's
consolidated financial statements of this
Form 10-Q.
2 Changes in Securities None
3 Defaults upon Senior Securities None
4 Submission of Matters to a Vote
of Security Holders None
5 Other Information None
6 Exhibits and Reports on Form 8-K
(a) Exhibits
(i) 11 - Statement Regarding Computation
of Per Share Earnings Page 28
(ii) 27 - Financial Data Schedule Page 29
(b) Reports on Form 8-K None
Page 26
<PAGE> 27
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
THE HALLWOOD GROUP INCORPORATED
Dated: November 13, 1997 By: /s/ Melvin J. Melle
---------------------------------
Melvin J. Melle, Vice President
(Duly Authorized Officer and
Principal Financial and
Accounting Officer)
Page 27
<PAGE> 28
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT NO. DEFINITION
- ----------- ----------
<S> <C>
11 Statement Regarding Computation of Per Share Earnings
27 Financial Data Schedule
</TABLE>
<PAGE> 1
EXHIBIT 11
THE HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
STATEMENT REGARDING COMPUTATION OF PER SHARE AMOUNTS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
1997 1996 1997 1996
------ ------ ------- ------
<S> <C> <C> <C> <C>
PRIMARY:
Average common shares outstanding ....................... 1,262 1,304 1,455 1,319
Dilutive stock options based on the treasury stock method
using the period end market price .................... 42 10 42 10
------ ------ ------- ------
Average common and common share equivalents
outstanding .......................................... 1,304 1,314 1,497 1,329
====== ====== ======= ======
Net income .............................................. $ 55 $ 500 $11,657 $3,205
====== ====== ======= ======
Net income per share .................................... $ 0.04 $ 0.38 $ 7.79 $ 2.41
====== ====== ======= ======
FULLY DILUTED:
Average common and common share equivalents
outstanding - primary ................................ 1,304 1,314 1,497 1,329
====== ====== ======= ======
Net income .............................................. $ 55 $ 500 $11,657 $3,205
====== ====== ======= ======
Net income per share .................................... $ 0.04 $ 0.38 $ 7.79 $ 2.41
====== ====== ======= ======
</TABLE>
Page 28
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> SEP-30-1997
<CASH> 13,599
<SECURITIES> 7,128
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 18,423
<CURRENT-ASSETS> 0
<PP&E> 159,775
<DEPRECIATION> 126,914
<TOTAL-ASSETS> 97,599
<CURRENT-LIABILITIES> 0
<BONDS> 38,793
1,000
0
<COMMON> 160
<OTHER-SE> 12,821
<TOTAL-LIABILITY-AND-EQUITY> 97,599
<SALES> 0
<TOTAL-REVENUES> 116,186
<CGS> 0
<TOTAL-COSTS> 89,704
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 81
<INTEREST-EXPENSE> 5,845
<INCOME-PRETAX> 20,556
<INCOME-TAX> 9,776
<INCOME-CONTINUING> 10,780
<DISCONTINUED> 0
<EXTRAORDINARY> 877
<CHANGES> 0
<NET-INCOME> 11,657
<EPS-PRIMARY> 7.79
<EPS-DILUTED> 7.79
</TABLE>
