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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES AND
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1997
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OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND
EXCHANGE ACT OF 1934
For the transition period from ________________ to ________________
Commission file number 0-11618
HPSC, Inc.
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(Exact name of registrant as specified in its charter)
Delaware 04-2560004
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(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
60 STATE STREET, BOSTON, MASSACHUSETTS 02109
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (617) 720-3600
----------------------------
NONE
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(Former name, former address, and former fiscal year if changed since
last report)
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 and 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
----- -----
APPLICABLE ONLY TO CORPORATE ISSUERS
Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of the latest practicable date: COMMON STOCK, PAR VALUE $.01 PER
SHARE. SHARES OUTSTANDING AT AUGUST 1, 1997, 4,657,930.
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HPSC, INC.
INDEX
PART 1 -- FINANCIAL INFORMATION PAGE
Condensed Consolidated Balance Sheets as of June 30, 1997
and December 31, 1996 ........................................... 3
Condensed Consolidated Statements of Income for Each of the
Three and Six Months Ended June 30, 1997 and June 30, 1996 ..... 4
Condensed Consolidated Statements Of Cash Flows for Each Of
The Six Months Ended June 30, 1997 and June 30,1996 ............. 5
Notes to Condensed Consolidated Financial Statements ............... 6
Management's Discussion and Analysis of Financial
Condition and Results of Operations ............................. 7
PART II -- OTHER INFORMATION
Signatures .................................................... 15
Exhibit Index .................................................
2
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HPSC, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share amounts)
(unaudited)
<TABLE>
<CAPTION>
ASSETS
------
June 30, December 31,
1997 1996
-------- -----------
<S> <C> <C>
CASH AND CASH EQUIVALENTS $ 1,371 $ 2,176
RESTRICTED CASH 3,645 6,769
INVESTMENT IN LEASES AND NOTES:
Lease contracts and notes receivable
due in installments 184,935 160,049
Notes receivable 24,960 18,688
Estimated residual value of equipment at
end of lease term 9,828 9,259
Less unearned income (41,990) (34,482)
Less allowance for losses (4,052) (4,082)
Less security deposits (5,099) (4,522)
Deferred origination costs 4,516 4,312
-------- --------
Net investment in leases and notes 173,098 149,222
-------- --------
OTHER ASSETS:
Other assets 4,916 3,847
Refundable income taxes 703 1,203
-------- --------
TOTAL ASSETS $183,733 $163,217
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
REVOLVING CREDIT BORROWINGS $ 40,500 $ 40,000
SENIOR NOTES 79,165 76,737
SENIOR SUBORDINATED NOTES 20,000 --
ACCOUNTS PAYABLE AND ACCRUED LIABILITIES 1,971 5,916
ACCRUED INTEREST 1,201 450
ESTIMATED RECOURSE LIABILITIES 780 480
INCOME TAXES:
Currently payable 316 300
Deferred 5,210 5,002
-------- --------
TOTAL LIABILITIES 149,143 128,885
-------- --------
STOCKHOLDERS' EQUITY:
PREFERRED STOCK, $1.00 par value;
authorized 5,000,000 shares; issued - None -- --
COMMON STOCK, $.01 par value; 15,000,000
shares authorized; issued and outstanding
4,786,530 shares in 1997 and 1996 48 48
TREASURY STOCK (at cost) 205,400 shares in
1997 and 128,600 in 1996 (1,029) (587)
Additional paid-in capital 13,062 12,305
Retained earnings 25,821 25,351
-------- --------
37,902 37,117
Less: Deferred compensation (3,143) (2,590)
Notes receivable from officers
and employees (169) (195)
-------- --------
TOTAL STOCKHOLDERS' EQUITY 34,590 34,332
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $183,733 $163,217
======== ========
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS.
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HPSC, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
FOR EACH OF THE THREE AND SIX MONTHS ENDED JUNE 30, 1997 AND JUNE 30, 1996
--------------------------------------------------------------------------
(in thousands, except per share and share amounts)
(unaudited)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
------------------------ ------------------------
June 30, June 30, June 30, June 30,
1997 1996 1997 1996
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
REVENUES:
Earned income on leases and notes $5,401 $4,355 $10,416 $ 8,128
Gain on sales of leases and notes 436 192 1,168 275
Provisions for losses (253) (452) (440) (800)
------ ------ ------- -------
Net Revenues 5,584 4,095 11,144 7,603
------ ------ ------- -------
EXPENSES:
Selling, general and administrative 2,739 1,935 5,783 3,713
Interest expense 2,498 1,911 4,698 3,423
Interest income (93) (85) (185) (119)
------ ------ ------- -------
Net operating expenses 5,144 3,761 10,296 7,017
------ ------ ------- -------
INCOME BEFORE INCOME TAXES: 440 334 848 586
------ ------ ------- -------
PROVISION FOR INCOME TAXES:
Federal, Foreign and State:
Current 82 650 171 1,300
Deferred 99 (520) 207 (1,070)
------ ------ ------- -------
TOTAL INCOME TAXES 181 130 378 230
------ ------ ------- -------
NET INCOME $ 259 $ 204 $ 470 $ 356
====== ====== ======= =======
NET INCOME PER SHARE $ .06 $ .05 $ .12 $ .09
====== ====== ======= =======
SHARES USED TO COMPUTE
INCOME PER SHARE 4,069,880 4,069,795 4,084,061 4,049,423
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS.
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HPSC, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR EACH OF THE SIX MONTHS ENDED JUNE 30, 1997 AND JUNE 30, 1996
(in thousands)
(unaudited)
<TABLE>
<CAPTION>
June 30, June 30,
1997 1996
-------- --------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income $ 470 $ 356
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation and amortization 1,995 1,463
Deferred income taxes 208 (1,069)
Restricted stock compensation 99 --
Gain on sale of receivables (1,168) (275)
Provision for losses on lease contracts and notes
receivable 440 800
Increase in accrued interest 751 314
Decrease in accounts payable and accrued liabilities (3,945) (2,118)
Increase in accrued income taxes 16 149
Decrease in refundable income taxes 500 1,088
Decrease in other assets 154 87
-------- --------
Cash (used in) provided by operating activities (480) 795
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Origination of lease contracts and notes receivable
due in installments (60,682) (40,619)
Portfolio receipts, net of amounts included in income 34,257 19,812
Proceeds from sales of lease contracts and notes
receivable due in installments 14,021 2,817
Net increase in notes receivable (6,228) (7,123)
Net increase in security deposits 577 517
Net (increase) decrease in other assets 9 (436)
Net decrease (increase) in loans to employees 26 (13)
-------- --------
Cash used in investing activities (18,020) (25,045)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of senior notes (19,212) (13,384)
Proceeds from issuance of senior notes, net of debt
issue costs 21,621 24,946
Proceeds from issuance of senior subordinated notes,
net of debt issuance costs 18,255 --
Net repayment of revolving credit borrowings (20,000) --
Proceeds from revolving credit borrowings, net of debt
issuance costs 20,492 12,457
Purchase of treasury stock (442) --
(Decrease) increase in restricted cash (3,124) 408
Repayment of employee stock ownership plan promissory note 105 --
-------- --------
Cash provided by financing activities 17,695 24,427
-------- --------
Net (decrease) increase in cash and cash equivalents (805) 177
Cash and cash equivalents at beginning of period 2,176 861
-------- --------
Cash and cash equivalents at end of period $ 1,371 $ 1,038
======== ========
Supplemental disclosures of cash flow information:
Interest paid $ 3,910 $ 3,055
Income taxes paid 99 150
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS
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HPSC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
----------------------------------------------------
1. The information presented for the interim periods is unaudited, but
includes all adjustments (consisting only of normal recurring adjustments)
which, in the opinion of HPSC, Inc. (the "Company"), are necessary for a fair
presentation of the financial position, results of operations and cash flows for
the periods presented. The results for interim periods are not necessarily
indicative of results to be expected for the full fiscal year. Certain 1996
account balances have been reclassified to conform with 1997 presentation.
2. The earnings per share computations assume the exercise of stock options
under the modified treasury stock method and include those shares allocated to
participant accounts in the Company's Employee Stock Ownership Plan and those
shares subject to time vesting under the Restricted Stock Award Plan.
3. On June 30, 1997, the Company had $3,645,000 in restricted cash, all of
which was reserved for debt service. On June 20, 1997, the Company terminated
its agreement with HPSC Funding Corp I with respect to the $70,000,000
securitization transaction on December 27, 1993.
4. In connection with the HPSC Bravo Funding Corp. ("Bravo") revolving
credit facility, the Company had $77,194,000 of its Senior Notes subject to
interest rate swap agreements. Under this facility, Bravo incurs interest at
various rates in the commercial paper market and enters into interest rate swap
agreements to assure fixed rate funding. At June 30, 1997, Bravo had seventeen
separate swap contracts with BankBoston with a total notional value of
$81,169,000. These interest rate swaps are matched swaps, and as such, are
accounted for using settlement accounting. Monthly cash settlements on the swap
agreements are recognized in income as they accrue. In the case where the
notional value of the interest rate swap agreements significantly exceeds the
outstanding underlying debt, the excess swap agreements would be marked-to-
market through income until new borrowings are incurred which would be subject
to such swap agreements. All interest rate swap agreements entered into by the
Company are for other than trading purposes.
5. In March 1997, the Company completed the issuance of $20,000,000 of
unsecured senior subordinated notes (the "Notes") due in 2007, which bear
interest at a fixed rate of 11%. The Notes pay interest semi-annually on April 1
and October 1, with such payments beginning on October 1, 1997. The Notes are
redeemable at the option of the Company, in whole or in part, other than through
the operation of a sinking fund, after April 1, 2002 at established redemption
prices, plus accrued but unpaid interest to the date of repurchase. Beginning
July 1, 2002, the Company is required to redeem through sinking fund payments,
on January 1, April 1, July 1, and October 1 of each year, a portion of the
aggregate principal amount of the Notes at a redemption price equal to 100% of
such principal amount redeemed plus accrued but unpaid interest to redemption
date.
6. In June 1997, the Company entered into a three-year $100,000,000 Lease
Receivable Purchase Agreement with EagleFunding Capital Corporation ("Eagle")
under which the Company may transfer assets from time to time to HPSC Capital
Funding, Inc. ("Capital"), a wholly-owned, bankruptcy remote, special purpose
corporation. Capital may then pledge or sell assets to Eagle.
7. Statement of Financial Accounting Standards No. 128, "Earnings per
Share", effective for the Company for reporting periods ending after December
15, 1997, provides new standards for computing and presenting earnings per share
(EPS). It replaces primary EPS with basic EPS and requires dual presentation of
basic and diluted EPS. For the six months ended June 30, 1997, the pro forma
basic EPS for the Company would be $0.12 per share, while pro forma diluted EPS
would be $0.12 per share.
8. Statement of Financial Accounting Standards No. 130, "Reporting
Comprehensive Income," establishes standards for reporting and presentation of
comprehensive income and its components. This standard will be effective for the
Company for its reporting periods beginning after December 15, 1997.
9. Statement of Financial Accounting Standards No. 131, "Disclosures about
Segments of an Enterprise and Related Information," establishes standards for
public enterprises in reporting information about its operating segments and in
disclosing information related to their operations. This statement will be
effective for the Company for its reporting periods beginning after December 15,
1997.
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MANAGEMENT'S DISCUSSION AND ANALYSIS
OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
Earned income from leases and notes for the three months ended June 30,
1997 was $5,401,000 (including approximately $983,000 from the Company's
commercial lending subsidiary ("ACFC")) as compared to $4,355,000 (including
approximately $649,000 from ACFC) for the three months ended June 30, 1996.
Earned income for the six months ended June 30, 1997 was $10,416,000 (including
approximately $1,843,000 from ACFC) compared to $8,128,000 (including
approximately $1,087,000 from ACFC) for the comparable period of 1996. The
increases of 24% for the three months and 28% for the six months were due
principally to increases in net investment in leases and notes for both periods
in 1997 over 1996. The increases in net investment for both periods resulted in
part from a higher level of originations in the 1997 second quarter of
$35,063,000 compared to $23,350,000 for the second quarter of 1996 and
$61,371,000 for the six months ended June 30, 1997 compared to $43,636,000 in
the comparable 1996 period. Gains on sales of leases and notes were $436,000 in
the three months ended June 30, 1997 compared to $192,000 for the 1996 quarter.
Gains on sales of leases and notes for the six months ended June 30, 1997 were
$1,168,000 compared to $275,000 in the comparable 1996 period. The increases
were caused by a higher level of asset sales activity in the current year.
Interest expense (net of interest income) for the second quarter of 1997
was $2,405,000 (45% of earned income) compared to $1,826,000 (42% of earned
income) in the comparable 1996 period. For the six months ended June 30,1997,
net interest expense was $4,513,000 (43% of earned income) compared to
$3,304,000 (41% of earned income) in the six months ended June 30,1996. The
increase in net interest expense was due primarily to an increase in debt levels
of 24% from June 30, 1996 to June 30 1997. These higher debt levels resulted
primarily from borrowings to finance a higher level of contract originations.
Net financing margin (earned income less net interest expense) for the
second quarter of 1997 was $2,996,000 (55% of earned income) compared to
$2,529,000 (58% of earned income) for the second quarter of 1996. For the six
months, net interest margin in 1997 was $5,903,000 (57% of earned income)
compared to $4,824,000 (59% of earned income). The increases in amount in both
periods were due to higher earnings on higher balances of earning assets. The
decline in percentage in both periods was due to higher debt levels in the 1997
periods as compared to the 1996 periods.
The provision for losses for the second quarter of 1997 was $253,000 (5%
of earned income) compared to $452,000 (10% of earned income) in the second
quarter of 1996. For the six months ended June 30,1997, the provision for losses
was $440,000 (4% of earned income) compared to $800,000 (10% of earned income)
for the comparable 1996 period. The decline in both periods is due to the
Company's continuing evaluation of its portfolio quality, loss history and
allowance for losses.
The allowance for losses at June 30, 1997 was $4,052,000 (2.3% of net
investment) compared to $4,082,000 (2.7% of net investment) at June 30, 1996.
Net charge offs for the six months ended June 30, 1997 were $ 472,000 compared
to $ 639,000 in 1996.
Selling, general and administrative expenses for the three months ended
June 30, 1997 were $2,739,000 (51% of earned income) compared to $1,935,000 (44%
of earned income) in the comparable 1996 period. For the six months ended June
30, 1997, selling, general and
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administrative expenses were $5,783,000 (56% of earned income) compared to
$3,713,000 (46% of earned income) in the same 1996 period. The increases in both
periods were caused by increased staffing and support costs required by higher
levels of owned and managed assets and the acceleration of the recognition of
unamortized deferred costs associated with the termination in June 1997 of HPSC
Funding Corp I ($350,000 for the six months ended June 30, 1997).
The Company's income before income taxes for the quarter ended June 30,
1997 was $440,000 compared to $334,000 in the 1996 period. For the six months
ended June 30, 1997, income before income taxes was $848,000 compared to
$586,000 in the 1996 period. For the quarter ended June 30, 1997 the provision
for income taxes was $181,000 (41% of income before income taxes) compared to
$130,000 (39% of income before income taxes) in the second quarter of 1996. For
the six months ended June 30,1997, the provision for income taxes was $378,000
(45% of income before income taxes) compared to $230,000 ( 39% of income before
income taxes) in the 1996 period. The increase in the six month provision was
caused by expenses related to the continuing wind-down of the Company's Canadian
operation in the first quarter that are not deductible in computing the tax
provision.
The Company's net income for the three months ended June 30, 1997 was
$259,000 ($.06 per share) compared to $204,000 ($.05 per share) for the three
months ended June 30, 1996. For the six months ended June 30, 1997, the
Company's net income was $470,000 ($.12 per share) compared to $356,000 ($.09
per share) for the six months ended June 30, 1996. The increases in both periods
in 1997 as compared to 1996 were due to higher earned income on leases and
notes, higher gains on sales and a lower provision for losses offset by higher
selling, general and administrative costs, higher net interest costs and a
higher effective tax rate.
LIQUIDITY AND CAPITAL RESOURCES
At June 30, 1997, the Company had $5,016,000 in cash, cash equivalents
and restricted cash as compared to $8,945,000 at December 31, 1996. As described
in Note 3 to the Company's condensed consolidated financial statements included
in this report on Form 10-Q, $3,645,000 was restricted pursuant to financing
agreements as of June 30, 1997, compared to $6,769,000 at December 31, 1996.
Cash used in operating activities was $480,000 for the six months ended
June 30, 1997 compared to cash provided by operating activities of $795,000 for
the six months ended June 30, 1996. The significant components of cash used in
operating activities for the six months ended June 30, 1997, as compared to the
same period in 1996, were the decrease in accounts payable and accrued
liabilities of $3,945,000 as compared to $2,118,000 for the same period of 1996,
an increase in the gain on sale of receivables caused by a higher level of sales
activity in the first six months of 1997, and a net increase in deferred income
taxes.
Cash used in investing activities was $18,020,000 for the six months
ended June 30, 1997 compared to $25,045,000 for the six months ended June 30,
1996. The significant components of cash used in investing activities for the
first six months of 1997 compared to the same period in 1996 were an increase in
originations of lease contracts and notes receivable to $60,682,000 from
$40,619,000, offset by an increase in proceeds from sales of lease contracts and
notes receivable to $14,021,000 in the 1997 period from $2,817,000 in the 1996
period and
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higher portfolio receipts of $34,309,000 in the 1997 period as compared to
$19,812,000 in the 1996 period.
Cash provided by financing activities for the six months ended June 30,
1997 was $17,695,000 compared to $24,427,000 for the six months ended June 30,
1996. The significant components of cash provided by financing activities for
the first six months of 1997 as compared to 1996 were a decrease in proceeds
from issuance of senior notes, net of debt issue costs, to $21,621,000 from
$24,946,000; an increase in proceeds from issuance of senior subordinated notes
in June 1997, net of debt issuance costs, of $18,255,000 in the 1997 period; an
increase in repayment of senior notes to $19,212,000 from $13,384,000; net
repayment of revolving credit borrowings of $20,000,000 in the 1997 period; and
higher proceeds from revolving credit borrowings net of debt issuance costs to
$20,492,000 from $12,457,000.
On December 27, 1993, the Company raised $70,000,000 through an asset
securitization transaction in which its wholly-owned subsidiary, HPSC Funding
Corp I ("Funding I"), issued senior secured notes (the "Funding I Notes") at a
rate of 5.01%. The Funding I Notes are secured by a portion of the Company's
portfolio which it sold in part and contributed in part to Funding I. Proceeds
of this financing were used to retire $50,000,000 of 10.125% senior notes due
December 28, 1993, and $20,000,000 of 10% subordinated notes due January 15,
1994. Under the terms of the Funding I securitization, when the principal
balance of the Funding I Notes equals the balance of the restricted cash in the
facility, the Funding I Notes are paid off from the restricted cash and Funding
I terminates. This occurred during the second quarter of 1997, prior to the
scheduled termination of Funding I. Due to this early termination, the Company
incurred a $350,000 non-cash, non-operating charge against earnings representing
the early recognition of certain unamortized deferred transaction origination
costs. The Company recognized approximately $175,000 in the first quarter of
1997, and approximately $175,000 was recognized during the second quarter of
1997.
The Company's Second Amended and Restated Revolving Credit Agreement with
the First National Bank of Boston (now BankBoston) as Agent Bank, dated December
12, 1996 ("the Revolver Agreement") increased the Company's availability under
the Revolver Agreement to $95,000,000. Under the Revolver Agreement, the Company
may borrow at variable rates of prime and at LIBOR plus 1.25% to 1.75%,
dependent on certain performance covenants. At June 30, 1997, the Company had
$40,500,000 outstanding under this facility and $54,500,000 available for
borrowing, subject to borrowing base limitations. The Revolver Agreement
currently is not hedged and is, therefore, exposed to upward movements in
interest rates.
As of January 31, 1995, the Company, along with its wholly-owned,
special-purpose subsidiary HPSC Bravo Corp ("Bravo"), established a $50,000,000
revolving credit facility structured and guaranteed by Capital Markets Assurance
Corporation ("CapMAC"). Under the terms of the facility, Bravo, to which the
Company has sold and may continue to sell or contribute certain of its portfolio
assets, pledges its interests in these assets to a commercial paper conduit
entity. Bravo incurs interest at variable rates in the commercial paper market
and enters into interest rate swap agreements to assure fixed rate funding.
Monthly settlements of principal and interest payments are made from the
collection of payments on Bravo's portfolio. HPSC may make additional sales to
Bravo subject to certain covenants regarding Bravo's portfolio performance and
borrowing base calculations. The Company is the servicer of the Bravo portfolio,
subject to meeting certain covenants. The required monthly payments of principal
and interest to purchasers of the commercial paper are guaranteed by CapMAC
pursuant to the terms of the agreement. Effective November 5, 1996, the Bravo
facility was increased to $100,000,000 and amended to provide that up to
$30,000,000 of such facility may be used for sale accounting treatment. The
Company had $21,638,000 outstanding at June
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30, 1997 from sales of receivables under this portion of the Bravo facility. The
Company had $77,194,000 of indebtedness outstanding under the Bravo loan
facility at June 30, 1997, and in connection with this facility, had 17 separate
interest rate swap agreements with BankBoston with a total notional value of
$81,169,000.
In April, 1995, the Company entered into a fixed rate, fixed term loan
agreement with Springfield Institution for Savings ("SIS") under which the
Company borrowed approximately $3,500,000 at 9.5% subject to certain recourse
and performance covenants. The Company had $1,971,000 outstanding under this
agreement at June 30, 1997.
In March 1997, the Company completed a $20,000,000 offering of unsecured
senior subordinated notes due 2007 bearing interest at a fixed rate of 11% (the
"Note Offering"). The Note Offering was completed on the terms and conditions
described in Amendment No. 2 to the Company's Registration Statement No.
333-20733 on Form S-1. The Company received approximately $18,500,000 in net
proceeds from the Note Offering and used such proceeds to repay amounts
outstanding under the Revolver.
In June 1997, the Company, along with its wholly-owned, special purpose
subsidiary, HPSC Capital Funding, Inc. ("Capital"), established a $100,000,000
Lease Receivable Purchase Agreement with EagleFunding Capital Corporation
("Eagle"). Under the terms of the facility, Capital, to which the Company may
sell certain of its portfolio assets from time to time, pledges or sells its
interests in these assets to Eagle, a commercial paper conduit entity. Capital
may borrow at variable rates in the commercial paper market and may enter into
interest rate swap agreements to assure fixed rate funding. Monthly settlements
of the borrowing base and any applicable principal and interest payments will be
made from collections of Capital's portfolio. The Company will be the servicer
of the Capital portfolio subject to certain covenants. The agreement expires in
June 2000, and there were no amounts outstanding under this facility at June 30,
1997.
Management believes that the Company's liquidity, resulting from the
availability of credit under the Revolver, the Bravo facility, the Capital
facility and the loans from SIS, along with cash obtained from the sales of its
financing contracts and from internally generated revenues is adequate to meet
current obligations and future projected levels of financings and to carry on
normal operations. In order to finance adequately its anticipated growth, the
Company will continue to seek to raise additional capital from bank and non-bank
sources, make selective use of asset sale transactions in 1997 and use its
current credit facilities. The Company expects that it will be able to obtain
additional capital at competitive rates, but there can be no assurance it will
be able to do so.
Inflation in the form of rising interest rates could have an adverse
impact on the interest rate margins of the Company and its ability to maintain
adequate earning spreads on its portfolio assets.
FORWARD-LOOKING STATEMENTS
This Form 10-Q contains forward-looking statements within the meaning of
Section 21E of the Securities Exchange Act of 1934, as amended. If used in this
Form 10-Q, the words "believes," "anticipates," "expects," "plans," "intends,"
"estimates," "continue," "may," or "will" (or the negative of such words) and
similar expressions are intended to identify forward-looking statements. Such
statements are subject to a number of risks and uncertainties, including but not
limited to the following:
a) Dependence on Funding Sources; Restrictive Covenants. The Company's
financing activities are capital intensive. The Company's revenues and
profitability are related directly to the volume of financing contracts
it originates. To generate new financing contracts, the
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Company requires access to substantial short- and long-term credit. To
date, the Company's principal sources of funding for its financing
transactions have been (i) a revolving credit facility with The First
National Bank of Boston (now BankBoston), as Agent, for borrowing up to
$95.0 million (the "Revolver"), (ii) a $100 million limited recourse
revolving credit facility with Capital, (iii) a $100.0 million limited
recourse revolving credit facility with Bravo, (iv) a fixed-rate, full
recourse term loan from a savings bank, (v) specific recourse sales of
financing contracts to savings banks and other purchasers, (vi) $20
million in unsecured senior subordinated notes due in 2007, and (vii)
the Company's internally generated revenues. There can be no assurance
that the Company will be able to negotiate a new revolving credit
facility at the end of the current term of the Revolver in December 1997,
complete additional asset securitizations or obtain other additional
financing, when needed and on acceptable terms. The Company would be
adversely affected if it were unable to continue to secure sufficient and
timely funding on acceptable terms. The agreement governing the Revolver
(the "Revolver Agreement") contains numerous financial and operating
covenants. There can be no assurance that the Company will be able to
maintain compliance with these covenants, and failure to meet such
covenants would result in a default under the Revolver Agreement.
Moreover, the Company's financing arrangements with Bravo, Capital and
the savings banks described above incorporate the covenants and default
provisions of the Revolver Agreement. Thus, any default under the
Revolver Agreement will also trigger defaults under these other financing
arrangements.
b) Securitization Recourse; Payment Restriction and Default Risk. As part
of its overall funding strategy, the Company utilizes asset
securitization transactions with wholly-owned, bankruptcy-remote
subsidiaries to see fixed rate, matched-term financing. The Company sells
financing contracts to these subsidiaries which, in turn, either pledge
or sell the contracts to third parties. The third parties' recourse with
regard to the pledge or sale is limited to the contracts sold to the
subsidiary. If the contract portfolio of these subsidiaries does not
perform within certain guidelines, the subsidiaries must retain or "trap"
any monthly cash distribution to which the Company might otherwise be
entitled. This restriction on cash distributions could continue until the
portfolio performance returns to acceptable levels (as defined in the
relevant agreements), which restriction could have a negative impact on
the cash flow available to the Company. There can be no assurance that
the portfolio performance would return to acceptable levels or that the
payment restrictions would be removed.
c) Customer Credit Risks. The Company maintains an allowance for doubtful
accounts in connection with payments due under financing contracts
originated by the Company (whether or not such contracts have been
securitized, held as collateral for loans to the Company or, when sold, a
separate recourse reserve is maintained) at a level which the Company
deems sufficient to meet future estimated uncollectible receivables,
based on an analysis of the delinquencies, problem accounts, and overall
risks and probable losses associated with such contracts, together with a
review of the Company's historical credit loss experience. There can be
no assurance that this allowance or recourse reserve will prove to be
adequate. Failure of the Company's customers to make scheduled payments
under their financing contracts could require the Company to (i) make
payments in connection with its recourse loan and asset sale
transactions, (ii) lose its residual interest in any underlying equipment
and (iii) forfeit collateral pledged as security for the Company's
limited recourse asset securitizations. In addition, although the
provision for losses on the contracts originated by the Company have been
1.1% of the Company's net investment in leases and notes for 1996, any
increase in such losses or in the rate of payment defaults
11
<PAGE> 12
under the financing contracts originated by the Company will be able to
maintain or reduce its current level of credit losses.
d) Competition. The Company's financing activities are highly competitive.
The Company competes for customers with a number of national, regional
and local finance companies, including those which, like the Company,
specialize in financing for healthcare providers. In addition, the
Company's competitors include those equipment manufacturers which finance
the sale of lease of their products themselves, conventional leasing
companies and other types of financial services companies such as
commercial banks and savings and loan associations. Many of the Company's
competitors and potential competitors possess substantially greater
financial, marketing and operational resources than the Company.
Moreover, the Company's future profitability will be directly related to
its ability to obtain capital funding at favorable funding rates as
compared to the capital costs of its competitors. The Company's
competitors and potential competitors include many larger, more
established companies that have a lower cost of funds than the Company
and access to capital markets and to their funding sources that may be
unavailable to the Company. There can be no assurance that the Company
will be able to continue to compete successfully in its targeted markets.
e) Equipment Market Risk. The demand for the Company's equipment financing
services depends upon various factors not within its control. These
factors include general economic conditions, including the effects of
recession or inflation, and fluctuations in supply and demand related to,
among other things, (i) technological advances in and economic
obsolescence of the equipment and (ii) government regulation of equipment
and payment for healthcare services. The acquisition, use, maintenance
and ownership of most types of medical and dental equipment, including
the types of equipment financed by the Company, are affected by rapid
technological changes in the healthcare field and evolving federal, state
and local regulation of healthcare equipment, including regulation of the
ownership and resale of such equipment. Changes in the reimbursement
policies of the Medicare and Medicaid programs and other third-party
payers, such as insurance companies, as well as changes in the
reimbursement policies of managed care organizations, such as health
maintenance organizations, may also affect demand for medical and dental
equipment and, accordingly, may have a material adverse effect on the
Company's business, operating results and financial condition.
f) Changes in Healthcare Payment Policies. The increasing cost of medical
care has brought about federal and state regulatory changes designed to
limit governmental reimbursement of certain healthcare providers. These
changes include the enactment of fixed-price reimbursement systems in
which the rates of payment to hospitals, outpatient clinics and private
individual and group practices for specific categories of care are
determined in advance of treatment. Rising healthcare costs may also
cause non-governmental medical insurers, such as Blue Cross and Blue
Shield associations and the growing number of self-insured employers, to
revise their reimbursement systems and policies governing the purchasing
and leasing of medical and dental equipment. Alternative healthcare
delivery systems, such as health maintenance organizations, preferred
provider organizations and managed care programs, have adopted similar
cost containment measures. Other proposals to reform the United States
healthcare system are considered from time to time. These proposals could
lead to increased government involvement in healthcare and otherwise
change the operating environment for the Company's customers. Healthcare
providers may react to these proposals and the uncertainty surrounding
such proposals by curtailing or deferring investment in medical and
dental equipment. Future change sin the healthcare industry, including
governmental regulation thereof, and the effect of such changes on the
Company's business cannot be predicted. Changes in payment or
reimbursement programs could adversely affect the ability of the
Company's customers to
12
<PAGE> 13
satisfy their payment obligations to the Company and, accordingly, may
have a material adverse effect on the Company's business, operating
results and financial condition.
g) Interest Rate Risk. Except for approximately $25 million of the
Company's financing contracts at June 30, 1997, which are at variable
interest rates with no scheduled payments, the Company's financing
contracts require the Company's customers to make payments at fixed
interest rates for specified terms. However, approximately $40.5 million
of the Company's borrowings currently are subject to a variable interest
rate. Consequently, an increase in interest rates, before the Company is
able to secure fixed-rate, long-term financing for such contracts or to
generate higher-rate financing contracts to compensate for the increased
borrowing cost, could adversely affect the Company's business, operating
results and financial condition. The Company's ability to secure
additional long-term financing and to generate higher-rate financing
contracts is limited by many factors, including competition, market and
general economic conditions and the Company's financial conditions.
h) Residual Value Risk. At the inception of its equipment leasing
transactions, the Company estimates what it believes will be the fair
market value of the financed equipment at the end of the initial lease
term and records that value (typically 10% of the initial purchase price)
on its balance sheet. The Company's results of operations depend, to some
degree, upon its ability to realize these residual values (as of June 30,
1997, the estimated residual value of equipment at the end of the lease
term was approximately $9.8 million, representing approximately 5.3% of
the Company's total assets). Realization of residual values depends on
many factors, several of which are not within the Company's control,
including, but not limited to, general market conditions at the time of
the lease expiration; any unusual wear and tear on the equipment; the
cost of comparable new equipment; the extent, if any, to which the
equipment has become technologically or economically obsolete during the
contract term; and the effects of any new government regulations. If,
upon the expiration of a lease contract, the Company sells or refinances
the underlying equipment and the amount realize is less than the original
recorded residual value for such equipment, a loss reflecting the
difference will be recorded on the Company's books. Failure to realize
aggregate recorded residual values could thus have an adverse effect on
the Company's business, operating results and finical condition.
i) Sales of Receivables. As part of the Company's portfolio management
strategy and as a source of funding of its operations, the Company has
sold selected pools of its lease contracts and notes receivable due in
installments to a variety of savings banks and the Bravo facility. These
transactions are subject to certain covenants that require the Company to
(i) in the savings bank sales, repurchase financing contracts from the
bank and/or make payments under certain circumstances, including the
delinquency of the underlying debtor, (ii) under the Bravo facility, a
limited recourse reserve is established and (iii) service the underlying
financing contracts. The Company carries a recourse reserve for each
transaction and recognizes a gain that is included for accounting
purposes in revenues for the year in which the transaction is completed.
Each of these transactions incorporates the covenants under the Revolver
as such covenants were in effect at the time the asset sale or loan
agreement was entered into. Any default under the Revolver may trigger a
default under the loan or asset sale agreements. The Company may enter
into additional asset sale agreements in the future in order to manage
its liquidity. The level of recourse reserves established by the Company
in relation to these sales may not prove to be adequate. Failure of the
Company to honor its repurchase and/or payment commitments under these
agreements could create an event of default under the loan or asset sale
agreements and under the Revolver. There can be no assurance that a
continuing market can be found to sell these types of assets or that the
purchase prices in the future would generate comparable gain
recognition.
13
<PAGE> 14
j) Dependence on Sales Representatives. The Company is, and its growth and
future revenues are, dependent in large part upon (i) the ability of the
Company's sales representatives to establish new relationships, and
maintain existing relationships, with equipment vendors, distributors and
manufacturers and with healthcare providers and other customers and (ii)
the extent to which such relationships lead equipment vendors,
distributors and manufacturers to promote the Company's financing
services to potential purchasers of their equipment. As of June 30, 1997,
the Company had 15 field sales representatives and eight in-house sales
personnel. Although the Company is not materially dependent upon any one
sales representative, the loss of a group of sales representatives could,
until appropriate replacements were obtained, have a material adverse
effect on the Company's business, operating results and financial
condition.
k) Dependence on Current Management. The operations and future success of
the Company are dependent upon the continued efforts of the Company's
executive officers, two of whom are also directors of the Company. The
loss of the services of any of these key executives could have a material
adverse effect on the Company's business, operating results and financial
condition.
l) Fluctuations in Quarterly Operating Results. Historically, the Company
has generally experienced fluctuation in quarterly revenues and earnings
caused by varying portfolio performance and operating and interest costs.
Given the possibility of such fluctuations, the Company believes that
quarterly comparisons of the results of its operations during any fiscal
year are not necessarily meaningful and that results for any one fiscal
quarter should not be relied upon as an indication of future performance.
HPSC cautions the reader, however, that such list of risk factors may not
be exhaustive. HPSC undertakes no obligation to release publicly the result of
any revisions to these forward-looking statements that may be made to reflect
any future events or circumstances.
14
<PAGE> 15
HPSC, INC.
PART II. OTHER INFORMATION
Items 1, 2, 3 and 5 are omitted because they are inapplicable.
Item 4. Submission of matters to a vote of the security holders:
a) The Annual Meeting of Stockholders was held on May 13, 1997
b) Not applicable
c) The stockholders elected the following three persons to serve as
Class II Directors:
<TABLE>
For Withheld
--- --------
<S> <C> <C>
Joseph A. Biernat 4,148,942 9,345
Raymond R. Doherty 4,148,942 9,345
Samuel P. Cooley 4,148,942 9,345
</TABLE>
The stockholders ratified the appointment of Deloitte & Touche LLP as
the independent auditors of the Company for the fiscal year ending
December 31, 1997:
For Against Abstain
--- ------- -------
4,131,587 12,750 13,950
d) Not applicable
Item 6. Exhibits and Reports on Form 8-K
a) Exhibits
27 Financial Data Schedule
b) Reports on Form 8-K:
There were no reports on Form 8-K filed during the three
months ended June 30, 1997.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, HPSC, Inc. has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized.
Dated: August 14, 1997 HPSC, INC.
----------------------------------------
(Registrant)
By: /s/ John W. Everets
------------------------------------
John W. Everets
Chief Executive Officer
Chairman of the Board
By: /s/ Rene Lefebvre
------------------------------------
Rene Lefebvre
Vice President
Chief Financial Officer
15
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> JUN-30-1997
<CASH> 5,016
<SECURITIES> 0
<RECEIVABLES> 209,895
<ALLOWANCES> 4,052
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 2,370
<DEPRECIATION> 925
<TOTAL-ASSETS> 183,733
<CURRENT-LIABILITIES> 0
<BONDS> 139,665
0
0
<COMMON> 48
<OTHER-SE> 34,542
<TOTAL-LIABILITY-AND-EQUITY> 183,733
<SALES> 0
<TOTAL-REVENUES> 5,837
<CGS> 0
<TOTAL-COSTS> 2,646
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 253
<INTEREST-EXPENSE> 2,498
<INCOME-PRETAX> 440
<INCOME-TAX> 181
<INCOME-CONTINUING> 259
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 259
<EPS-PRIMARY> .06
<EPS-DILUTED> .06
</TABLE>
