<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[x] Quarterly report pursuant to section 13 or 15(d) of the Securities Exchange
Act of 1934
For the quarterly period ended November 30, 1999
[_] Transition report pursuant to section 13 or 15(d) of the Securities
Exchange Act of 1934.
Commission file number 0-15525
CAPITAL ASSOCIATES, INC.
------------------------
(Exact name of registrant as specified in its charter)
Delaware 84-1055327
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
7175 West Jefferson Avenue, Lakewood, Colorado 80235
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (303) 980-1000
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
----- -----
The number of shares outstanding of the Registrant's $.008 par value common
stock at January 14, 2000 was 5,150,701
Exhibit Index - Page 20
Page 1 of 21
<PAGE>
CAPITAL ASSOCIATES, INC. AND SUBSIDIARIES
INDEX
-----
<TABLE>
<CAPTION>
<S> <C> <C>
PAGE
PART I. FINANCIAL INFORMATION NUMBER
Item 1. Financial Statements
Consolidated Balance Sheets - November 30, 1999 (Unaudited)
and May 31, 1999 3
Consolidated Statements of Income - Three and Six Months Ended
November 30, 1999 and 1998 (Unaudited) 4
Consolidated Statements of Cash Flows - Six Months Ended
November 30, 1999 and 1998 (Unaudited) 5
Notes to Consolidated Financial Statements 6 - 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 8 - 17
Item 3. Quantitative and Qualitative Disclosures About Market Risk 17
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 18
Item 5. Other Information 19
Item 6. Exhibits and Reports on Form 8-K 19
Exhibit Index 20
Signature 21
</TABLE>
Page 2 of 21
<PAGE>
CAPITAL ASSOCIATES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
ASSETS
<TABLE>
<CAPTION>
(Unaudited)
November 30, May 31,
1999 1999
----------- -----------
<S> <C> <C>
Cash and cash equivalents $ 6,468 $ 7,510
Receivables from affiliated limited partnerships 297 744
Accounts receivable, net 5,278 3,596
Inventory 2,102 1,397
Residual values and other receivables arising from
equipment under lease sold to private investors, net 5,078 4,469
Net investment in direct finance leases 34,950 42,116
Leased equipment, net 177,174 150,338
Investments in affiliated limited partnerships 1,742 1,957
Deferred income taxes 4,406 3,400
Other assets 4,856 5,236
Discounted lease rentals assigned to lenders
arising from equipment sale transactions 13,068 19,773
----------- -----------
255,419 240,536
Net assets of discontinued operations (Note 4) 1,741 883
----------- -----------
$ 257,160 $ 241,419
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Recourse debt $ 69,407 $ 48,141
Accounts payable - equipment purchases 22,573 26,857
Accounts payable and other liabilities 16,770 15,167
Discounted lease rentals 124,118 125,639
----------- -----------
232,868 215,804
----------- -----------
Stockholders' equity:
Common stock 42 42
Additional paid-in capital 16,888 16,829
Retained earnings 7,362 8,771
Treasury stock - (27)
----------- -----------
Total stockholders' equity 24,292 25,615
----------- -----------
$ 257,160 $ 241,419
=========== ===========
</TABLE>
The accompanying notes are an integral part
of these consolidated financial statements.
Page 3 of 21
<PAGE>
CAPITAL ASSOCIATES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
(Dollars in thousands, except earnings per share)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
November 30, November 30,
----------------------- -----------------------
1999 1998 1999 1998
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Revenue:
Equipment sales to PIFs $ 6,457 $ 3,316 $ 17,230 $ 11,344
Other equipment sales 23,633 32,903 52,783 74,561
Leasing 17,977 8,534 34,481 17,649
Interest 437 746 933 1,624
Other 796 1,065 1,482 2,388
---------- ---------- ---------- ----------
Total revenue 49,300 46,564 106,909 107,566
---------- ---------- ---------- ----------
Costs and expenses:
Equipment sales to PIFs 6,394 3,230 16,920 11,095
Other equipment sales 22,757 31,900 50,617 72,882
Leasing 13,704 5,679 24,908 11,584
Operating and other expenses 3,154 2,726 7,222 5,829
Provision for losses 1,862 25 1,962 50
Interest:
Non-recourse debt 2,705 2,058 5,462 4,206
Recourse debt 1,110 642 2,026 1,509
---------- ---------- ---------- ----------
Total costs and expenses 51,686 46,260 109,117 107,155
---------- ---------- ---------- ----------
Net income (loss) from continuing
operations before income taxes (2,386) 304 (2,208) 411
Income tax expense (benefit) (955) 15 (883) 29
---------- ---------- ---------- ----------
Net income (loss) from
continuing operations (1,431) 289 (1,325) 382
---------- ---------- ---------- ----------
Discontinued operations (Note 4):
Loss from discontinued operations
(net of income tax benefits) (77) (143) (86) (93)
---------- ---------- ---------- ----------
Net income (loss) $ (1,508) $ 146 $ (1,411) $ 289
========== ========== ========== ==========
Earnings (loss) per common share
from continuing operations:
Basic $ (0.27) $ 0.06 $ (0.26) $ 0.07
========== ========== ========== ==========
Diluted $ (0.27) $ 0.05 $ (0.26) $ 0.07
========== ========== ========== ==========
Weighted average number of
common shares outstanding:
Basic 5,177,000 5,149,000 5,179,000 5,129,000
========== ========== ========== ==========
Diluted 5,177,000 5,419,000 5,179,000 5,398,000
========== ========== ========== ==========
</TABLE>
The accompanying notes are an integral part
of these consolidated financial statements.
Page 4 of 21
<PAGE>
CAPITAL ASSOCIATES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(Dollars in thousands)
<TABLE>
<CAPTION>
Six Months Ended
-------------------
November 30,
1999 1998
-------- --------
<S> <C> <C>
Net cash provided by operating activities $ 52,968 $ 42,442
-------- --------
Cash flows from investing activities:
Equipment purchased for leasing, net (81,342) (41,740)
Investment in leased office facility and capital expenditures (658) (377)
Net receipts from affiliated public income funds 215 1,007
-------- --------
Net cash used for investing activities (81,785) (41,110)
-------- --------
Cash flows from financing activities:
Proceeds from securitization 21,246 10,527
Principal payments on securitization (6,446) (735)
Proceeds from discounting of lease rentals 11,780 -
Principal payments on discounted lease rentals (19,380) (27,133)
Proceeds from sales of common stock 86 3
Net borrowings on revolving credit facilities 20,386 1,609
Net borrowings (payments) on Term Loan (466) 668
-------- --------
Net cash (used for) provided by financing activities 27,206 (15,061)
-------- --------
Net decrease in cash and cash equivalents (1,611) (13,729)
Cash and cash equivalents at beginning of period, including
amounts from discounted operations 7,926 17,684
-------- --------
Cash and cash equivalents at end of period, including
amounts from discounted operations $ 6,315 $ 3,955
======== ========
Supplemental schedule of cash flow information:
Recourse interest paid $ 2,248 $ 1,851
Non-recourse interest paid 5,462 4,206
Income taxes paid 682 57
Income tax refunds received 20 260
Supplemental schedule of non-cash investing and financing activities:
Discounted lease rentals assigned to lenders arising from
equipment sale transactions 9,819 6,973
Assumption of discounted lease rentals in lease acquisitions 10,769 -
</TABLE>
The accompanying notes are an integral part
of these consolidated financial statements.
Page 5 of 21
<PAGE>
CAPITAL ASSOCIATES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Unaudited)
1. Basis of Presentation
---------------------
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for
interim financial information and the instructions to Form 10-Q and Rule 10-
01 of Regulation S-X. Accordingly, they do not include all of the
information and disclosures required by generally accepted accounting
principles for annual financial statements. In the opinion of management,
all adjustments (consisting only of normal recurring adjustments) considered
necessary for a fair presentation have been included. For further
information, please refer to the consolidated financial statements of
Capital Associates, Inc. (the "Company"), and the related notes, included
within the Company's Annual Report on Form 10-K for the fiscal year ended
May 31, 1999 (the "1999 Form 10-K"), previously filed with the Securities
and Exchange Commission.
The balance sheet at May 31, 1999 was derived from the audited financial
statements included in the Company's 1999 Form 10-K.
2. Securitization Facility
-----------------------
The Company renewed the commitment for its securitization facility (the
"Securitization Facility") in August 1999. The Securitization Facility
includes a firm commitment allowing the Company to add leases during the
renewal term of 364 days. The Securitization Facility is comprised of a
senior loan with a maximum principal amount of $50,000,000 ("Senior Loan") a
junior loan with a maximum principal amount of $5,000,000 ("Junior Loan")
and a residual loan with a maximum principal amount of $10,000,000
("Residual Loan").
The Company had approximately $30 million outstanding under the Senior and
Junior Loans and approximately $6 million under the Residual Loan on
November 30, 1999.
3. Recourse Bank Debt
------------------
The Company's senior, secured debt facility (the "Senior Facility") consists
of a term loan, a working capital revolving credit loan ("Working Capital
Facility") and a warehouse revolving credit loan ("Warehouse Credit
Facility"). The lender group consists of the agent bank, First Union
National Bank, and participating lenders, BankBoston, N.A., US Bank, Norwest
Bank of Colorado, N.A., and European America Bank ("the Lender Group"). The
Senior Facility was renewed on December 1998 and expanded to approximately
$71 million. The renewal expires November 30, 2000, and may be renewed
annually at the Lender's sole discretion.
The Senior Facility is collateralized by all assets of the Company, except
for the assets of CATG which collateralize the revolving credit financing
from Deutsche. The Senior Facility contains certain provisions, which limit
the Company as to additional indebtedness, sale of assets, liens, guarantees
and distributions. Additionally, the Company must maintain certain specified
financial ratios. As of November 30, 1999 the Company was not in compliance
with the terms of the facility. The Term Loan which matured November 30,
1999 was extended until the last business day of January, 2000. Due to the
net loss for the three months ended November 30, 1999, the Company was in
default of certain non-payment related covenants and is currently
negotiating waivers with the Lender Group. Although management believes
waivers will be obtained, there can be no assurance that such waivers will
be obtained and that the Company will not continue to be in default under
the terms of the Senior Facility.
Page 6 of 21
<PAGE>
CAPITAL ASSOCIATES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Unaudited)
4. Discontinued Operations
-----------------------
The Company has invested significant time and capital resources in its
subsidiary, Capital Associates Technology Group ("CATG"), in order to extend
it's capabilities beyond its regional market to CAI's national market. CATG
provides a wide range of information technology services. The costs
associated with this effort primarily include salaries and wages, training
and travel expenses. CATG has not yet realized a material amount of revenue
from this effort. Sales revenue and associated sales margin from CATG's
traditional local market have increased for the six months ended November
30, 1999. However, costs in excess of revenues from the national effort have
increased to a greater extent resulting in a loss of $144,000 for the six
months ended November 30, 1999.
Effective October 1999, the Company formalized a plan to dispose of its CATG
business segment. At that time, the Company engaged an advisory group to
proceed with efforts to find a suitable business opportunity acceptable to
the Company and its shareholders, whereby CATG may be sold. The Company's
consolidated Balance Sheets and Statements of Income reflect the operations
of CATG as discontinued for all periods presented. Included in the assets
and liabilities of discontinued operations in the Company's consolidated
Balance Sheets are the following accounts of CATG:
<TABLE>
<CAPTION>
November 30, May 31,
1999 1999
------------- --------
<S> <C> <C>
Cash (overdraft) and cash equivalents $ (153) $ 416
Receivables 6,448 4,396
Inventory 1,005 1,181
Fixed assets 392 212
Goodwill 37 -
Recourse bank debt (3,538) (1,919)
Accounts payable and accrued liabilities (2,450) (3,403)
------- -------
Total assets and liabilities of CATG $ 1,741 $ 883
======= =======
</TABLE>
Management believes that the gain recognized upon the ultimate disposition
of CATG will not be significant. CATG's revenue for the three and six months
ended November 30, 1999 totaled approximately $7.5 million and $17 million,
respectively.
Page 7 of 21
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
I. Results of Operations
---------------------
General Comments
The Company incurred a consolidated pretax loss of $2.4 million for the
quarter ended November 30, 1999, compared to a consolidated pretax income of
$304,000 for the same quarter in the prior year. The Company incurred a
consolidated pretax loss of $2.2 million for the six months ended November
30, 1999 compared to a pretax income of $411,000 for the same six month
period in the prior year. Results for the quarter ended November 30, 1999
primarily reflect: (1) a provision for losses of approximately $1.9 million,
(2) a reduction in remarketing profits of approximately $400,000 and (3) an
increase in recourse interest expense of approximately $200,000.
Significant factors which may impact the Company's profitability in the
future include the amount and cost of capital available to the Company, its
success in developing and retaining the field sales force, the ability to
increase lease origination levels while achieving profitability targets, the
realization of residual values in excess of booked values and the continuing
ability of lessees to meet their lease commitments.
Several factors cause operating results to fluctuate, including (i) the
level of fee income obtained from the sale of leases in excess of lease
equipment cost, (ii) the seasonality of lease originations, (iii) the volume
of leases maturing in a particular period and the resulting gain on
remarketing, and (iv) variations in the relative percentages of the
Company's leases originated and held which are classified as DFLs or OLs.
The Company varies the volume of originated leases held relative to leases
sold to private investors when and as the Company determines it would be in
its best interest, taking into account cash flow needs, profit
opportunities, portfolio concentration, residual risk and its fiduciary duty
to originate leases for its PIFs.
The Company originates leases with the intention of either selling the lease
to PIFs or private investors or holding the lease through maturity. Leases
originated and held for sale are referred to as "warehouse leases", or
"warehouse portfolio". Leases the Company intends to hold to maturity are
referred to as "Company-owned leases" or "Company-owned portfolio". The
Company generally holds warehouse leases for one to six months before sale
to private investors. Leases held to maturity are generally more profitable
than leases sold to private investors (i.e., aggregate leasing margin earned
over the life of the lease is generally greater than the fee earned from
sale to private investors, which includes rents retained in excess of
interest expense during the holding period). However, the majority of the
Company's leases are ultimately sold to PIFs or private investors (i)
because the Company lacks the capital resources to hold to maturity all
leases it originates and (ii) in order to achieve profitable results of
operations, since revenue from a sale of a lease is recorded in the period
of sale while leasing revenue associated with a Company-owned lease is
recorded over time based on the underlying lease term. Many sales to private
investors are structured to enable the Company to share in some of the
additional profit associated with holding a lease to maturity (arising from
the remarketing of the lease equipment upon lease maturity). The Company's
strategy is to retain an interest in the residual value of leases sold to
private investors where it believes additional profit may be available
through remarketing upon lease maturity. The Company's retained interest in
leases it has sold to private investors is reflected in the accompanying
Consolidated Balance Sheets as "Residual value, net, arising from equipment
under lease sold to private investors", (also referred to as "retained
residuals"). Presented below is a schedule showing new lease originations
volume and placement of new lease originations for the six months ended
November 30, 1999 and November 30, 1998, respectively (in thousands):
Page 8 of 21
<PAGE>
I Results of Operations, continued
---------------------
General Comments, continued
<TABLE>
<CAPTION>
Six Months Ended
November 30,
------------------
1999 1998
-------- --------
<S> <C> <C>
Placement of lease originations:
Equipment under lease sold to PIFs $ 10,000 $ 5,000
Equipment under lease sold to private investors 46,000 68,000
Leases added to the Company's lease portfolio (a significant portion
of which will be/were sold during the subsequent fiscal quarters) 50,000 61,000
-------- --------
Total lease origination volume $106,000 $134,000
======== ========
</TABLE>
The Company continues to evaluate additional sources of capital which will
provide the liquidity necessary to add leases to its own portfolio. The
Company believes this will enable it to originate leases for its own portfolio
which have competitive market lease rates and good credit quality. The Company
believes that in the present market there are significant opportunities to
originate leases having these characteristics. However, the Company's present
capital structure (i.e., both cost of capital and amount available) precludes
taking full advantage of market opportunities for such leases. Additionally,
many such leases have been sold to the PIFs because, as the PIF sponsor, the
Company has a fiduciary responsibility to maximize investor returns and does
so by blending higher yielding transactions with investment grade credit
quality leases having lower lease rates. Consequently, the Company has limited
the amount of funds it raises from PIF investors. During fiscal year 1998, the
Company completed the offering of units in its most recent PIF, Capital
Preferred Yield Fund-IV, L.P. (CPYF-IV). The Company has elected not to
organize additional PIFs and future equipment sales to PIFs are expected to
comprise a significantly smaller percentage of total placements of new lease
originations. Should the Company be successful in identifying and in closing
new sources of capital (for which no assurance can be given), it intends to
further grow its own lease portfolio.
Interim Financial Results
Presented below are schedules showing condensed income statement categories
and analyses of changes in those condensed categories for the Company. These
schedules are derived from the Consolidated Statements of Income and have been
prepared solely to facilitate the discussion of results from continuing
operations that follows (in thousands):
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
November 30, November 30,
-------------------- -------------------
1999 1998 Change 1999 1998 Change
---------- -------- --------- --------- -------- ---------
<S> <C> <C> <C> <C> <C> <C>
Equipment sales margin $ 939 $ 1,089 $ (150) $ 2,476 $ 1,928 $ 548
Leasing margin 4,273 2,855 1,418 9,573 6,065 3,508
Other income 796 1,065 (269) 1,482 2,388 (906)
Operating and other expenses (3,154) (2,726) (428) (7,222) (5,829) (1,393)
Provision for losses (1,862) (25) (1,837) (1,962) (50) (1,912)
Interest expense, net (3,378) (1,954) (1,424) (6,555) (4,091) (2,464)
Income tax (expense) benefit 955 (15) 970 883 (29) 912
------- ------- ------- ------- ------- -------
Net income (loss) from
continuing operations $(1,431) $ 289 $(1,722) $(1,325) $ 382 $(1,707)
======= ======= ======= ======= ======= =======
</TABLE>
Generally, originated leases are initially financed utilizing the Company's
Warehouse Credit Facility and then sold to private investors, private programs,
or to the PIF's. Profits from the sale of leases are reported in the table above
as "equipment sales margin." In addition, the Company realizes rental or finance
profits from leases held prior to sale (reported as "leasing margin" in the
table above) and incurs interest expense on the Warehouse Credit Facility during
the period the leases are held.
Page 9 of 21
<PAGE>
I. Results of Operations, continued
---------------------
Equipment Sales, continued
Equipment sales revenue and the related equipment sales margin from continuing
operations consists of the following (in thousands):
<TABLE>
<CAPTION>
Three Months Ended
------------------------------------------ Increase
November 30, 1999 November 30, 1998 (Decrease)
------------------- ------------------- ------------------
Revenue Margin Revenue Margin Revenue Margin
------- ------- ------- --------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
Transactions during initial lease term:
Equipment under lease sold to PIFs $ 6,457 $ 63 $ 3,316 $ 86 $ 3,141 $ (23)
Equipment under lease sold to private
investors 21,542 143 32,352 619 (10,810) (476)
------- ------- ------- --------- -------- -------
27,999 206 35,668 705 (7,669) (499)
------- ------- ------- --------- -------- -------
Transactions subsequent to initial lease
term (remarketing revenue):
Sales of off-lease equipment 497 184 260 152 237 32
Sales-type leases 65 65 - - 65 65
Excess collections (cash collections in
excess of the associated residual value
from equipment under lease sold to
private investors) 17 17 138 138 (121) (121)
------- ------- ------- --------- -------- -------
579 266 398 290 181 (24)
Deduct related provision for losses - (1,862) - (25) - (1,837)
------- ------- ------- --------- -------- -------
Realization of value in excess (deficit)
of provision for losses 579 (1,596) 398 265 181 (1,861)
Add back related provision for losses - 1,862 - 25 - 1,837
------- ------- ------- --------- -------- -------
579 266 398 290 181 (24)
------- ------- ------- --------- -------- -------
Equipment brokerage sales 1,512 467 153 94 1,359 373
------- ------- ------- --------- -------- -------
Total equipment sales $30,090 $ 939 $36,219 $ 1,089 $ (6,129) $ (150)
======= ======= ======= ========= ======== =======
</TABLE>
<TABLE>
<CAPTION>
Six Months Ended
------------------------------------------ Increase
November 30, 1999 November 30, 1998 (Decrease)
------------------- ------------------- ------------------
Revenue Margin Revenue Margin Revenue Margin
------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
Transactions during initial lease term:
Equipment under lease sold to PIFs $17,230 $ 310 $11,344 $ 250 $ 5,886 $ 60
Equipment under lease sold to private
investors 47,308 98 71,991 1,082 (24,683) (984)
------- ------- ------- ------- ------- -------
64,538 408 83,335 1,332 (18,797) (924)
------- ------- ------- ------- ------- -------
Transactions subsequent to initial lease
term (remarketing revenue):
Sales of off-lease equipment 3,095 1,184 2,148 262 947 922
Sales-type leases 280 280 - - 280 280
Excess collections (cash collections in
excess of the associated residual value
from equipment under lease sold to
private investors) 9 9 235 235 (226) (226)
------- ------- ------- ------- ------- -------
3,384 1,473 2,383 497 1,001 976
Deduct related provision for losses - (1,962) - (50) - (1,912)
------- ------- ------- ------- ------- -------
Realization of value in excess of
provision for losses 3,384 (489) 2,383 447 1,001 (936)
Add back related provision for losses - 1,962 - 50 - 1,912
------- ------- ------- ------- ------- -------
3,384 1,473 2,383 497 1,001 976
------- ------- ------- ------- ------- -------
Equipment brokerage sales 2,091 595 187 99 1,904 496
------- ------- ------- ------- ------- -------
Total equipment sales $70,013 $ 2,476 $85,905 $1,928 $(15,892) $ 548
======= ======= ======= ====== ======== =======
</TABLE>
Page 10 of 21
<PAGE>
I. Results of Operation, continued
---------------------
Equipment Sales to PIF's
------------------------
In February 1998, the Company sold the remaining publicly offered units in
Capital Preferred Yield Fund-IV, L.P. The Company has elected not to
organize additional PIFs and only two PIFs are in their reinvestment stage
and are actively acquiring leases. As such, equipment sales to the PIFs
reflects the funds available for reinvestment by the PIFs.
Equipment Sales to Private Investors
------------------------------------
Equipment sales to private investors decreased for the three and six months
ended November 30, 1999 compared to the three and six months ended November
30,1998 by approximately $11 million and $25 million. Equipment sales during
the six months ended November 30, 1998 include a one-time portfolio sale of
approximately $20 million to a private investor.
The margin from sales of equipment under lease to private investors reflects
the impact of the period of time leases are held by the Company prior to
sale (referred to as the "hold period"). During the hold period, the Company
records leasing margin. For equipment sold to PIFs or to private investment
programs, the sales price of the equipment is adjusted in accordance with
the relevant partnership or program agreement to reflect leasing margin
during the hold period as if the PIF or private investor had owned the
equipment since lease inception. Consequently, the sales price paid to the
Company is reduced by any leasing margin the Company retains. As a result,
the Company's economic profit attributed to leases it sells is reflected, in
part, as leasing margin and, in part, as equipment sale margins. The longer
the hold period is for a particular lease, the greater the amount of
economic profit is reflected as leasing margin. Because the Company has been
increasing the period of time it holds leases prior to sale, equipment sales
margin for transactions during the initial lease term for the six months
ended November 30, 1999 has declined and leasing margin has increased.
The Company defers income related to its servicing obligation on leases it
sells. This income is amortized over the life of the lease and is included
in "Other Income".
During the three and six months ended November 30, 1999, other equipment
sales revenue related to equipment leased to three lessees accounted for 53%
and equipment leased to one lessee accounted for 44%, respectively of total
other equipment sales revenue. During the three and six months ended
November 30, 1998, other equipment sales revenue related to one lessee
accounted for 35% and 32%, respectively of total other equipment sales
revenue.
Equipment Brokerage Sales
-------------------------
NBCO acquires used personal computers, monitors and printers from a variety
of sources, including end-users and other lessors. The equipment is sold in
quantity to third parties through NBCO's telemarketing and brokerage
operations or to consumers through NBCO's retail facilities.
Revenue from equipment brokerage sales increased during the three and six
months ended November 30, 1999 compared to the same period in 1998 as a
result of sales to consumers through NBCO's retail facilities. The Company
significantly expanded its retail sales to consumers when NBCO was
established in December 1998. Prior to establishing NBCO, equipment
brokerage sales generally consisted of quantity sales to third parties.
Page 11 of 21
<PAGE>
I. Results of Operations, continued
---------------------
Remarketing of the Portfolio and Related Provision for Losses
-------------------------------------------------------------
The Company has successfully realized gains on the remarketing of its
portfolio of equipment after the initial lease term for the past seven
years. The remarketing of equipment for an amount greater than its book
value is reported as part of equipment sales margin (if the equipment is
sold) or leasing margin (if the equipment is re-leased). The realization of
less than the carrying value of equipment is recorded as provision for
losses (which is typically not known until remarketing after the expiration
of the initial lease term).
Remarketing revenue and the related margin (i.e., sales occurring after the
initial lease term) are affected by the (i) number and dollar amount of
equipment leases that mature in a particular quarter (the average lease term
is 3 to 5 years) and (ii) the composition of equipment available for
remarketing.
The Company retained very few lease originations for its own portfolio
during the mid-1990's resulting in lower amounts of equipment available for
remarketing after lease maturity. Lease originations have increased since
that time and the Company has retained leases for its own portfolio.
Residual values are established equal to the estimated values to be received
from equipment following termination of the leases. In estimating such
values, the Company considers all relevant facts regarding the equipment and
the lessees, including, for example, the equipment's remarketability,
upgrade potential and the probability that the equipment will remain in
place at the end of an initial lease term. The nature of the Company's
leasing activities is such that it has credit and residual value exposure
and in the ordinary course of business, will incur losses arising from these
exposures. The Company performs quarterly assessments of its assets to
identify other than temporary losses in value. The Company's policy is to
record allowances for losses as soon as any other-than-temporary declines in
asset values are known. However, chargeoffs are recorded upon the
termination or remarketing of the underlying assets. As such, chargeoffs
will primarily occur subsequent to the recording of the allowances for
losses.
The provision for losses of approximately $1.9 million recorded during the
three and six months ended November 30, 1999 included the following
significant items:
. Approximately $1.1 million to record the Company's loss exposure related
to approximately $1.6 million of net book value of equipment leased to a
lessee who filed Chapter 11 bankruptcy during January 2000.
. Approximately $250,000 as a result of the lower of cost or market write-
down of personal computer inventory.
. Approximately $225,000 as a result of various uncollectible property tax,
sales tax and accounts receivables.
. Approximately $175,000 to record the company's additional loss exposure
on two lessees who filed Chapter 11 bankruptcy prior to this fiscal year.
. Approximately $150,000 for other-than-temporary declines in the value of
equipment returned to the Company at the end of lease. The Company had
previously expected to realize the carrying value of the equipment
through lease renewals and proceeds from the sale of the equipment to the
original lessees. The fair market value of the equipment re-leased or
sold to a third party was determined to be significantly less than
anticipated.
Page 12 of 21
<PAGE>
I. Results of Operations, continued
----------------------
The provision for losses recorded during the three and six months ended
November 30, 1998 reflected the amount necessary to maintain the allowance
for losses at a level which adequately provided for other-than-temporary
declines in the value of equipment.
Leasing Margin
Leasing margin consists of the following (in thousands):
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
November 30, November 30,
------------------------------ ------------------------------
1999 1998 1999 1998
------------ ------------- ------------- -------------
<S> <C> <C> <C> <C>
Leasing revenue $ 17,977 $ 8,534 $ 34,481 $ 17,649
Leasing costs and expenses (13,704) (5,679) (24,908) (11,584)
-------- ------- -------- --------
Leasing margin $ 4,273 $ 2,855 $ 9,573 $ 6,065
======== ======= ======== ========
</TABLE>
The increase in leasing revenue, leasing costs and expenses and leasing margin
is due to the increase in the volume of lease originations warehoused pending
sale to private investors. Subject to the Company's ability to obtain
additional funding, these revenue and expense amounts are expected to increase
further as the Company continues to increase the amount of leases warehoused
pending sale.
Leasing margin may fluctuate based upon (i) the mix of direct finance leases and
operating leases, (ii) remarketing activities and (iii) the relative age and
types of leases in the portfolio (operating leases have a lower leasing margin
early in the lease term, increasing as the term passes and the majority of
leases added to CAI's portfolio have been operating leases).
Other Income
Other Income consists of the following (in thousands):
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
November 30, November 30,
--------------------- ---------------------
1999 1998 1999 1998
--------- --------- -------- --------
<S> <C> <C> <C> <C>
Fees and distributions from the PIFs $ 228 $ 683 $ 434 $ 1,224
Management fees from private programs 250 294 628 612
Other 318 88 420 552
------- ------- -------- --------
$ 796 $ 1,065 $ 1,482 $ 2,388
======= ======= ======== ========
</TABLE>
During fiscal 1998, the Company completed the offering of units in its most
recent PIF, Capital Preferred Yield Fund-IV, L.P. ("CPYF-IV"). The Company has
elected not to organize additional PIFs. As a result, fees and distributions
from the PIFs (reported as "Other Income") have declined and will continue to
decline.
Page 13 of 21
<PAGE>
I. Results of Operations, continued
----------------------
Operating and Other Expenses
The aggregate amount of operating and other expenses for the Company
increased approximately $.5 million and $1.4 million, respectively, for the
three and six months ended November 30, 1999, compared to the three and six
months ended November 30, 1998. The increase reflects costs associated with
the start-up of the Company's Name Brand Computer Outlet ("NBCO") subsidiary
and expenses associated with making the Company's computer systems Year 2000
compliant.
Interest Expense, Net
Interest expense, net consists of the following:
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
November 30, November 30,
-------------------------- --------------------------
1999 1998 1999 1998
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Interest income $ (437) $ (746) $ (933) $(1,624)
Non-recourse interest expense 2,705 2,058 5,462 4,206
------- ------- ------ -------
Net non-recourse interest expense 2,268 1,312 4,529 2,582
Recourse interest expense 1,110 642 2,026 1,509
------- ------- ------- --------
Interest expense, net $ 3,378 $1,954 $6,555 $ 4,091
======= ======= ======= ========
</TABLE>
The Company finances leases for its own portfolio primarily with non-recourse
debt. Interest income arises when equipment financed with non-recourse debt is
sold to investors. As a result, interest income reported in the accompanying
Consolidated Statements of Income reflects an amount equal to non-recourse
interest expense recognized for leases sold to private investors. Therefore,
net non-recourse interest expense on related discounted lease rentals pertains
to the Company's owned lease portfolio. Net non-recourse interest expense
increased due to an increase in the average outstanding balance of related
discounted lease rentals related to growth in the Company's owned portfolio. It
is anticipated that net non-recourse interest expense will continue to increase
in the future as the Company adds additional leases financed with non-recourse
debt to its portfolio through its securitization facility. The increase in
recourse interest expense for the three and six months ended November 30, 1999
compared to the same periods in the prior year reflects the Company's increased
leasing activity, which results in an increased amount of debt to fund equipment
purchases.
Income Taxes
Income tax expense (benefit) is provided on income at the appropriate federal
and state statutory rates applicable to such earnings. The aggregate statutory
tax rate is 40%, adjusted in prior fiscal periods for a reduction in the
valuation allowance for deferred income tax assets to reflect a reduction in
uncertainty about the utilization of the AMT credit carryforward in future years
as a result of the Company's recurring profitable results of operations. (See
Note 12 to Notes to Consolidated Financial Statements in the 1999 Form 10-K).
The Company believes that it is more likely than not that the results of future
operations will generate sufficient taxable income to realize the remaining net
deferred tax assets. Specifically, the Company has recognized a deferred tax
benefit for the net loss during the quarter. While the Company believes that
sufficient taxable income will be generated in the future to realize the benefit
of these losses, the ultimate realization of such benefit is dependent upon
future profitable operations in fiscal 2000 and subsequent years.
Page 14 of 21
<PAGE>
II. Liquidity and Capital Resources
-------------------------------
The Company's activities are principally funded by proceeds from sales of on-
lease equipment (to PIFs or Private Investors), non-recourse debt and
securitization proceeds, recourse bank debt, rents, fees and distributions from
PIFs and private investors, and sales or re-leases of equipment after the
expiration of the initial lease terms. Management believes the Company's
ability to generate cash from operations is sufficient to fund operations, as
shown in the accompanying Consolidated Statements of Cash Flows.
Effective October 1999, the Company formalized a plan to dispose of its CATG
business segment. At that time, the Company engaged an advisory group to
proceed with efforts to find a suitable business opportunity acceptable to the
Company and its shareholders, whereby CATG may be sold.
As of November 30, 1999, there were no amounts drawn on the Company's $15
million committed non-recourse facility.
Historically, the Company sold a significant portion of its lease originations
to the PIFs. During fiscal 1998, the Company completed the offering of units in
the most recent PIF, Capital Preferred Yield Fund-IV. The Company has elected
not to organize additional PIFs. Consequently, future equipment sales to PIFs
will reflect only the reinvestment needs of the existing PIFs, and therefore are
expected to represent smaller amounts of equipment sales margin and cash flow.
Leases that, in the past, would have been originated for sale to the PIF's have
been retained by the Company or sold to private investors. This strategy
increased the Company-owned leased portfolio. The Company finances leases for
its own portfolio on a long-term basis utilizing the Securitization facility
described in Note 2 to Notes to Consolidated Financial Statements.
Securitization generally provides financing for 90-95% of the cost of leased
equipment. The remaining cost of the equipment (also referred to as "equity
capital") is financed utilizing availability under the Company's recourse debt
facility and/or cash from operations.
In addition, the Company has significantly increased the amount of leases it is
holding in its warehouse portfolio. The Company generally finances leases it
holds pending sale utilizing borrowings under the Warehouse Credit Facility
portion of its Senior Facility equal to 95% of the cost of the leased equipment,
and equity capital for the remainder of the cost. In addition, the Company has
originated certain leases intended for sale to investors which are not eligible
for financing under the Warehouse Credit Facility. In such cases, equity
capital is utilized to finance 100% of the cost of the leased equipment.
The Company's present strategy is to sell existing leases in its warehouse
portfolio to private investors in order to "free-up" previously invested equity
capital. The Company also plans to sell a greater portion of leases to private
investors to minimize future equity requirements. In addition, the Company is
evaluating additional sources of capital which will provide current liquidity,
including the sale of Company-owned leases, the sale of retained residuals, a
public debt offering and the sale of non-leasing related assets and/or portfolio
joint ventures or other strategic partnerships. There can be no assurance that
the Company will be successful in selling existing leases to private investors,
or in raising additional equity capital.
The Company's Senior Facility was expanded during fiscal 1999 to approximately
$71 million. The terms of the Senior Facility are substantially unchanged and
expire on November 26, 2000. See Note 10 to Notes to Consolidated Financial
Statements in the 1999 Form 10-K for a description of the Company's Senior
Facility. As of November 30, 1999, the Company was not in compliance with the
terms of the facility. The Term Loan which matured November 30, 1999 was
extended until the last business day of January, 2000. Due to the
Page 15 of 21
<PAGE>
II. Liquidity and Capital Resources, continued
-------------------------------
net loss for the three months ended November 30, 1999, the Company was in
default of certain non-payment related covenants and is currently negotiating
waivers with the Lender Group providing the Senior Debt Facility. Although
management believes waivers will be obtained, there can be no assurance that
such waivers will be obtained and that the Company will not continue to be in
default under the terms of the Senior Facility. If the Company is not
successful in reaching an agreement with the Lender Group, it will need to raise
additional financing. This financing could include but is not limited to
finding new financing sources, selling leased assets, raising additional equity
and/or realizing expense reductions. If the Company is successful in obtaining
additional financing there can be no assurance that such financing would be on
similar terms that exist now.
As of November 30, 1999, the Company had drawn $59.6 million under this
facility.
Inflation has not had a significant impact upon the operations of the Company.
III. Year 2000 Issue
---------------
The Company has conducted a comprehensive review of its internal information
technology ("IT") systems to identify systems that could be affected by the Year
2000 issue. The Year 2000 issue results from computer programs being written
using two digits rather than four to define the applicable year. Certain
computer programs which have time-sensitive software could recognize a date
using "00" as the year 1900 rather than the year 2000. This could result in
major system failures or miscalculations. As of January 1, 2000 all systems
rolled over to the year 2000 without significant problems. The Company
anticipates that minor program problems may occur as programs are run but does
not anticipate any program problems that will have a significant effect on the
Company's business.
Operating and other expenses for the three and six months ended November 30,
1999 include cost of approximately $100,000 and $300,000, respectively,
associated with Year 2000 readiness. The Company incurred additional costs of
approximately $100,000 for Year 2000 compliance through December 1999.
Some risks associated with the Year 2000 problem are beyond the Company's
ability to control, including the extent to which lessees, suppliers and service
providers can address their Year 2000 problems. The Company has received
correspondence from substantially all significant lessees, suppliers and service
providers representing their expected readiness in regards to the ability to do
business after December 31, 1999. The Company cannot estimate, therefore, the
impact on it if third parties are not Year 2000 compliant.
The failure by a lessee or supplier to adequately address the Year 2000 issue
could hurt the lessor or supplier and disrupt the Company's business. The most
likely worst case Year 2000 scenario is if one or more lessee's business is
disrupted by Year 2000 problems and is unable to remit lease payments on a
timely basis. Such a situation could negatively impact the Company's cash flow
and liquidity for a period of time. However, because substantially all of the
Company's leases are with lessees of substantial credit-worthiness, it is
expected that such a disruption would be temporary, and therefore not have a
material impact on the Company's financial position or results of operations.
There has been no indication that any major lessee has encountered payment
problems as a result of Y2K issues.
Page 16 of 21
<PAGE>
IV. New Accounting Pronouncements
-----------------------------
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities ("Statement
133"). Statement 133 establishes accounting and reporting standards for
derivative instruments and for hedging activities. It requires that an
entity recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair
value. In June 1999, the Financial Accounting Standards Board issued SFAS
No. 137, Accounting for Derivative Instruments and Hedging Activities -
Deferral of the Effective Date of FASB Statement 133, an Amendment of FASB
Statement 133. Statement 137 effectively extends the required application
of Statement 133 to fiscal years beginning after June 15, 2000, with
earlier application permitted. The Company adopted Statement 133 in the
first quarter of 2000.
The Company's hedging activities are limited to the floating-to-fixed
interest rate swap acquired in connection with the Securitization Facility.
That hedge is designed to effectively hedge the exposure to interest rate
changes. As such, the impact of adoption of SFAS 133 is not material.
V. "Safe Harbor" Statement Under the Private Securities Litigation Reform Act
--------------------------------------------------------------------------
of 1995
-------
The statements contained in this report which are not historical facts may be
deemed to contain forward-looking statements with respect to events, the
occurrence of which involve risks and uncertainties, and are subject to
factors that could cause actual future results to differ both adversely and
materially from currently anticipated results, including, without limitation,
the level of lease originations, realization of residual values, the
availability and cost of financing sources and the ultimate outcome of any
contract disputes. Certain specific risks associated with particular aspects
of the Company's business are discussed in detail throughout Item 2 of this
report and Parts I and II of the 1999 Form 10-K when and where applicable.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Not applicable
Page 17 of 21
<PAGE>
CAPITAL ASSOCIATES, INC. AND SUBSIDIARIES
PART II
OTHER INFORMATION
Item 1. Legal Proceedings
-----------------
The Company is involved in the following legal proceedings:
a. Bank One Texas, N.A. v. Capital Associates International, Inc. and Capital
--------------------------------------------------------------------------
Associates, Inc., United States District Court for the Northern District of
---------------------------------------------------------------------------
Texas, Dallas Division, Civil Action No. 3-99CV0697-G
-----------------------------------------------------
See the Company's Quarterly Report on Form 10-Q for the quarter ended
August 31, 1999, for a detailed discussion of the status of this litigation
through September 30, 1999.
In October 1999, Bank One filed an amendment to its original complaint. In
mid-October, the Company filed its answer to Bank One's first amended
complaint and, in late October, filed a motion for summary judgment on all
of Bank One's claims. Due to scheduling conflicts on their part, Bank One's
counsel has asked for several extensions of time, the most recent being
through February 15, 2000, to reply to the Company's pleadings. There have
been no other developments with respect to this litigation since September
30, 1999.
The Company intends to continue to (1) defend vigorously the claims
asserted against it by Bank One and (2) assert vigorously all counterclaims
it may have against Bank One. While the Company believes that it has strong
defenses to Bank One' claims, if Bank One substantially prevails on its
claims, that could have a material adverse effect on the Company.
b. The Company is involved in other routine legal proceedings incidental to
the conduct of its business. Management believes that none of these legal
proceedings, or the matter noted above, will have a material adverse effect
on the financial condition or operations of the Company.
Page 18 of 21
<PAGE>
Item 5. Other Information
-----------------
Item 6. Exhibits and Reports on Form 8-K
--------------------------------
(a) Exhibits
--------
(b) Reports on Form 8-K
-------------------
On December 1, 1999 the Company issued a report on Form 8-K announcing that
as of the opening of business on December 2, 1999, the Company's common
stock ceased trading on the NASDAQ National Market, because of the decline
in the number and market value of the shares of common stock held by
stockholders other than directors, executive officers and 10%-or-greater
stockholders, and immediately started trading on the Over The Counter
Bulletin Board ("OTCBB"). The company retained its trading symbol "CAII" on
the OTCBB.
Page 19 of 21
<PAGE>
Item No. Exhibit Index
- -------- -------------
27 Financial Data Schedule
Page 20 of 21
<PAGE>
CAPITAL ASSOCIATES INC. 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 thereunto duly authorized.
CAPITAL ASSOCIATES, INC.
Registrant
Date: January 20, 2000 By:/s/Michael J. Schuh
--------------------------------------
Michael J. Schuh
Senior Vice President and
Chief Operations Officer
Page 21 of 21
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> MAY-31-2000
<PERIOD-START> JUN-01-1999
<PERIOD-END> NOV-30-1999
<CASH> 6,468
<SECURITIES> 0
<RECEIVABLES> 5,308
<ALLOWANCES> 30
<INVENTORY> 2,102
<CURRENT-ASSETS> 0
<PP&E> 177,174
<DEPRECIATION> 0
<TOTAL-ASSETS> 257,160
<CURRENT-LIABILITIES> 0
<BONDS> 0
0
0
<COMMON> 42
<OTHER-SE> 24,250
<TOTAL-LIABILITY-AND-EQUITY> 257,160
<SALES> 70,013
<TOTAL-REVENUES> 106,909
<CGS> 67,537
<TOTAL-COSTS> 109,117
<OTHER-EXPENSES> 7,222
<LOSS-PROVISION> 1,962
<INTEREST-EXPENSE> 7,488
<INCOME-PRETAX> (2,208)
<INCOME-TAX> (883)
<INCOME-CONTINUING> (1,325)
<DISCONTINUED> (86)
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,411)
<EPS-BASIC> (0.26)
<EPS-DILUTED> (0.26)
</TABLE>
