UNITED STATES
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 period ended September 30, 1997
------------------
or
|_| Transition Report Pursuant to Section 13 or 15(d) of the
Securities Act of 1934
For the transition period from __________ to __________
Commission file number 0-15768
NORTH CAROLINA RAILROAD COMPANY
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
NORTH CAROLINA 56-6003280
------------------------------ -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3200 Atlantic Avenue, Suite 110
Raleigh, North Carolina 27604
- ---------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(919) 954-7601
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(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes |X| No |_|
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practical date.
Common Stock, $.50 par Value--4,283,470 shares as of
September 30, 1997.
The total number of pages contained in this document is 25 pages.
<PAGE>
INDEX
NORTH CAROLINA RAILROAD COMPANY
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Balance Sheets - September 30,1997 and
December 31, 1996 . . . . . . . . . . . . . . . . . 3
Statements of Operations - Three months ended
September 30, 1997 and September 30, 1996
and nine months ended September 30, 1997
and September 30, 1996 . . . . . . . . . . . . . . . 4
Statements of Shareholders' Equity -
Nine months ended September 30, 1997
and September 30, 1996 . . .. . . . . . . . . . . . . 5
Statements of Cash Flows -
Nine months ended September 30, 1997 and
September 30, 1996 . . . . .. . . . . . . . . . . . . 6
Notes to financial statements -
September 30, 1997. . . . .. . . . . . . . . . . . . 7
Item 2. The Registrant's Discussion and Analysis of
Financial Condition and Results of Operations. . . . 12
PART II. OTHER INFORMATION
Item 3. Legal Proceedings. . . . . . . . . . . . . . . . . . 19
Item 5. Other Information . . . . . . . . . . . . . . . . . 22
Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . 23
SIGNATURES. . . . . . . . . . . . . . . . . . . . . . . . . . 24
2
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BALANCE SHEETS
NORTH CAROLINA RAILROAD COMPANY
September 30
1997 December 31
(Unaudited) 1996
------------ ------------
ASSETS
Cash and cash equivalents $ 5,846,112 $ 5,318,933
Prepaid expenses 50,163 -0-
Income Taxes Recoverable 82,936 -0-
------------ ------------
TOTAL CURRENT ASSETS 5,979,211 5,318,933
PROPERTIES
Roadway and land--Note C 7,848,742 7,848,842
Buildings and equipment 308,753 285,635
Less accumulated depreciation (315,064) (308,419)
------------ ------------
7,842,431 7,826,058
------------ ------------
$ 13,821,642 $ 13,144,991
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Accrued expenses and accounts payable $ 395,245 $ 262,698
Accrued environmental remediation costs 58,162 200,000
Dividends payable 3,897,958 -0-
Unearned rental income 20,330 -0-
------------ ------------
TOTAL CURRENT LIABILITIES 4,371,695 462,698
COMMITMENTS AND CONTINGENCIES--Note D
SHAREHOLDERS' EQUITY
Common stock, par value $0.50 per share--
10,000,000 shares authorized, 4,283,470
shares issued and outstanding 2,141,735 2,141,735
Additional paid-in capital 3,588,455 3,588,455
Retained earnings 3,719,757 6,952,103
------------ ------------
9,449,947 12,682,293
------------ ------------
$ 13,821,642 $ 13,144,991
============ ============
See notes to financial statements
3
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STATEMENTS OF INCOME (Unaudited)
NORTH CAROLINA RAILROAD COMPANY
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30 September 30
1997 1996 1997 1996
------------------ -----------------
<S> <C> <C> <C> <C>
Revenues:
Lease of roadway and land $ 1,952,776 $ 701,029 $ 1,993,435 $ 4,825,887
Interest income 75,957 225,079 201,333 641,928
Rental income 24,920 1,200 40,928 9,600
Gain on sale of real estate -0- -0- 56,900 -0-
Dividend income 15,000 15,000 15,000 15,000
Other -0- -0- 3,825 277
----------- ----------- ----------- ------------
2,068,653 942,308 2,311,421 5,492,692
Expenses:
Salaries and administrative 101,612 111,138 268,249 246,328
Professional fees 172,412 127,302 642,020 304,472
Insurance and taxes 2,566 29,781 243,264 91,443
Amortization expense -0- 11,685 -0- 35,057
Depreciation 2,215 2,215 6,645 6,645
Consulting fees 72,182 61,096 414,375 91,254
Other 48,829 29,298 104,694 73,206
----------- ----------- ----------- ------------
399,816 372,515 1,679,247 848,405
----------- ----------- ----------- ------------
INCOME BEFORE INCOME TAXES
(BENEFIT) 1,668,837 569,793 632,174 4,644,287
Income taxes (benefit):
Current (44,438) 32,000 (33,438) 96,000
Benefit from change
in corporate entity from
corporation to REIT -0- (7,095,929) -0- (5,456,569)
----------- ----------- ----------- ------------
(44,438) (7,063,929) (33,438) (5,360,569)
----------- ----------- ----------- ------------
NET INCOME $ 1,713,275 $ 7,633,722 $ 665,612 $ 10,004,856
=========== =========== =========== ============
Earnings per share: $ .40 $ 1.78 $ .16 $ 2.33
=========== =========== =========== ============
</TABLE>
See notes to financial statements.
4
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STATEMENTS OF SHAREHOLDERS' EQUITY (Unaudited)
NORTH CAROLINA RAILROAD COMPANY
<TABLE>
<CAPTION>
Additional
Common Paid-In Retained Shareholders'
Stock Capital Earnings Equity
---------- ---------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Balance at January 1, 1996 $2,141,735 $3,588,455 $ 11,455,548 $ 17,185,738
Dividends payable (13,107,418) (13,107,418)
Net income 10,004,856 10,004,856
---------- ---------- ------------ ------------
Balance at September 30, 1996 $2,141,735 $3,588,455 $ 8,352,986 $ 14,083,176
========== ========== ============ ============
Balance at January 1, 1997 $2,141,735 $3,588,455 $ 6,952,103 $ 12,682,293
Dividends payable (3,897,958) (3,897,958)
Net income 665,612 665,612
---------- ---------- ------------ ------------
Balance at September 30, 1997 $2,141,735 $3,588,455 $ 3,719,757 $ 9,449,947
========== ========== ============ ============
</TABLE>
See notes to financial statements.
5
<PAGE>
STATEMENTS OF CASH FLOWS (Unaudited)
NORTH CAROLINA RAILROAD COMPANY
Nine Months Ended
September 30
1997 1996
-------------------------
OPERATING ACTIVITIES
Net income $ 665,612 $ 10,004,856
Adjustments to reconcile net income to net cash
provided by operating activities:
Deferred income taxes -0- (1,209,851)
Depreciation and amortization 6,645 41,702
Gain on sale of land (56,900) -0-
Lease negotiation costs -0- (18,176)
Change in operating assets and liabilities:
Interest receivable -0- (45,340)
Prepaid expenses (50,163) (24,798)
Income taxes recoverable (82,936) (1,780,000)
Accrued expenses and accounts payable 132,547 (10,200)
Accrued environmental remediation costs (141,838) -0-
Unearned rental income 20,330 20,336
Income taxes payable -0- (5,230,277)
----------- ------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 493,297 1,748,252
INVESTING ACTIVITIES
Proceeds from sale of land 57,000 -0-
Purchase of buildings and equipment (23,118) (3,069)
Maturity of short-term investments -0- 190,000
----------- ------------
NET CASH PROVIDED BY INVESTING
ACTIVITIES 33,882 186,931
INCREASE IN CASH AND CASH EQUIVALENTS 527,179 1,935,183
Cash and cash equivalents at beginning of period 5,318,933 15,139,497
----------- ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 5,846,112 $ 17,074,680
=========== ============
See notes to financial statements.
6
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NOTES TO FINANCIAL STATEMENTS
NORTH CAROLINA RAILROAD COMPANY
NOTE A--SIGNIFICANT ACCOUNTING POLICIES
The accompanying unaudited financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements.
In the opinion of management, the financial statements contain all
adjustments (consisting of only normal recurring adjustments) necessary to
present fairly the financial position and results of operations of North
Carolina Railroad Company (the "Company" or "NCRR") as of and for each of the
periods presented. These financial statements should be read in conjunction with
the financial statements and notes included in the Company's audited financial
statements for the year ended December 31, 1996.
PROPERTIES: Buildings and equipment are reported at cost. Depreciation is
computed on the straight-line method over the estimated useful lives of the
assets. Buildings are depreciated over thirty years and equipment is depreciated
over three to five years. Properties in the roadway and land account are carried
at an amount which approximates the 1916 valuation by the Interstate Commerce
Commission. These properties are not depreciated because they represent fully
depreciated roadway or non-depreciable land. However a rehabilitation project of
$200,000 was amortized over a five-year period in the 1940's.
INCOME TAXES: The Company is a real estate investment trust ("REIT") for
federal income tax purposes. A corporate REIT is a legal entity that holds real
estate interests, and through distributions to shareholders, is permitted to
reduce or avoid the payment of federal income taxes at the corporate level. To
maintain qualification as a REIT, the Company must distribute to shareholders at
least 95% of REIT taxable income. No provision has been made for income taxes
related to REIT taxable income to be distributed to shareholders if the Company
continues to qualify for REIT status. A provision has been made, however,
related to a portion of REIT taxable income that will not be distributed to
shareholders in such event. (See Note B.)
CASH AND CASH EQUIVALENTS: Cash and cash equivalents
include investments in commercial paper, U. S. Treasury Bills,
and certificates of deposit with original maturities of three
months or less. Cash deposits are placed with high credit
quality financial institutions. At times, deposits exceed
amounts insured by the Federal Deposit Insurance Corporation.
7
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LEASE/TRANSACTION COSTS: Certain lease negotiation costs were capitalized
and were being amortized over thirty years. As a result of the discontinuance of
rental payments by Norfolk Southern during 1996 and the uncertainty of any
future lease arrangements, the capitalized lease negotiation costs were written
off in December 1996. (See Note D.)
NOTE B--REAL ESTATE INVESTMENT TRUST
On September 16, 1996, the Company elected REIT status effective as of the
Registrant's 1995 tax year. The REIT provisions of the Internal Revenue Code
generally allow a REIT to deduct distributions paid to its shareholders. There
can be no assurance that the Company can continue to qualify for REIT status.
NOTE C--LEASES ON ROADWAY AND LAND
In 1895, the Company leased substantially all of its assets to Southern
Railway Company, now known as Norfolk Southern Railway Company ("NSR"), for
ninety-nine years (the "1895 Lease"). In 1989, the Company acquired the Atlantic
and North Carolina Railroad Company, the assets of which were subject to a lease
dating to 1939 with the Atlantic & East Carolina Railway Company ("AECR"), a
wholly-owned subsidiary of Norfolk Southern Railway Company (the "1939 Lease").
NSR and AECR are hereinafter
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referred to as "Norfolk Southern". The terms of the 1895 Lease and 1939 Lease
provided for expiration on January 1, 1995 and December 31, 1994, respectively,
and did not require either the Company or Norfolk Southern to renew the leases.
On August 10, 1995, the Board of Directors of the Company approved a Lease
Extension Agreement to extend the terms of the 1895 Lease and the 1939 Lease,
with its effectiveness retroactive to January 1, 1995. However, on July 29, 1996
a federal court in North Carolina enjoined the Company from implementing the
terms of the Lease Extension in a shareholder legal action challenging the
shareholder meeting held to approve the Lease Extension. The Lease Extension
provided for base annual rental of eight million dollars ($8,000,000) for the
period from January 1, 1995, through December 31, 1995, with certain annual
inflation adjustments thereafter. In December, 1995, Norfolk Southern made a
payment of approximately $7.8 million called for in the Lease Extension for
additional 1995 rental, and from January through July, 1996, made monthly
payments of base rental in the amount called for in the Lease Extension for 1996
rental totaling approximately $4.8 million. On August 9, 1996, Norfolk Southern
notified the Company that payments of approximately $680,000 monthly would be
discontinued as a result of the July 29, 1996 court order enjoining
implementation of the Lease Extension. As a result, no rental revenue has been
recognized for the period from August, 1996 through September 30, 1997. However,
on July 9, 1997, Norfolk Southern made a payment of $1,345,343 to the Company
for the period from August, 1996 to May, 1997 and thereafter has made payments
totaling $965,767 for periods through September 30, 1997 pursuant to a decision
and order of the U.S. Surface Transportation Board ("STB"). See Note D.
A lease of certain properties in Charlotte, North Carolina to Norfolk
Southern (the "1968 Lease") expires on December 31, 2067, and provides for an
annual rental of $81,319 through December 2017. Beginning on January 1, 2018, 6%
of the appraised value of the property will be the annual rental for the
remaining term of the 1968 Lease. Under the terms of the 1968 Lease, all taxes
connected with the property, except income taxes, are paid by the lessee.
NOTE D--COMMITMENTS AND CONTINGENCIES
On August 9, 1996, Norfolk Southern notified the Company that it did not
intend to continue making rental payments to the Company. On September 20 and
September 23, 1996, the Company filed actions against Norfolk Southern and its
affiliates in state court in North Carolina (which action was removed to federal
court) and before the STB asserting rental, property ownership, environmental
and other claims as a result of Norfolk Southern's discontinuance of rental
payments and the expiration of the 1895 and 1939 leases. In October, 1996,
Norfolk Southern
9
<PAGE>
filed counterclaims against the Company asserting unjust enrichment, conversion,
environmental contribution, and other claims. The STB issued a decision and
order dated May 29, 1997 with respect to the Company's petition for interim
relief to the STB, STB Finance Docket No. 33134 (the "STB decision").
The STB decision provides (i) that the Company's petition for interim
compensation is granted at the level of out-of-pocket expenses incurred by the
Company due to Norfolk Southern's continued operation of the line, (ii) that the
petition of the State of North Carolina ("State") to hold the proceeding in
abeyance pending a negotiated buy-out of minority shareholders and subsequent
reopening of lease negotiations is granted subject to the requirement that the
State and the Company report monthly to the STB on the progress of negotiations,
and (iii) other procedural and related findings.
Four shareholder derivative actions relating to the Lease Extension were
filed in the United States District Court for the Eastern District of North
Carolina during December 1994 and January and February 1995 by shareholders of
the Company. The complaints name the directors of the Company as defendants and
the Company as "nominal defendant." The actions seek to enjoin a purported lease
between the Company and Norfolk Southern and seek to recover for the Company
unspecified damages and other relief from the directors. The Company and the
other defendants filed motions to dismiss the actions, and the court has not yet
ruled on the motions. On September 24, 1996, a lawsuit filed as a purported
class action by the same plaintiffs as the December 1994 and February 1995
federal court actions was filed in the Superior Court of Wake County, North
Carolina. The action alleged that the Board of Directors of the Company breached
their fiduciary duty to shareholders in the formation of the Special Committee
of the Company's Board of Directors and asserts other claims. On June 19, 1997,
the court granted the Company's motion to dismiss the action. On July 7, 1997,
the plaintiffs appealed the ruling to the North Carolina Court of Appeals.
On December 21, 1995, a shareholder derivative legal action was filed
seeking to enjoin the Lease Extension or invalidate the December 15, 1995,
shareholders meeting. On July 29, 1996, the court enjoined the Company from
implementing the terms of the Lease Extension. The Company is opposing a claim
in excess of $1 million by the plaintiff for legal fees in the action.
The directors and officers named as defendants in the suits, represented
by separate counsel, are defending damage claims brought against the directors
and officers. The Company's officers and directors are indemnified in the bylaws
of the Company from certain claims and liabilities alleged in the actions,
including the defense costs and expenses. The Company notified its directors and
officers insurance carriers of claims
10
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as a result of the actions. Except with respect to the action filed on September
24, 1996, claims have been accepted by the relevant insurance carrier on behalf
of the directors and officers. With regard to the September 24, 1996 action, the
insurance carrier has asserted that coverage is not available under the policy
in effect at that time. The Company is evaluating the insurance carrier's
assertion. The directors and officers insurance policy has an aggregate limit of
$5,000,000 and a $75,000 retention per occurrence.
In January, 1994, North Carolina Department of Environment, Health, and
Natural Resources ("DEHNR") initiated a lawsuit against the Company and other
parties seeking reimbursement of $84,354 in response costs incurred by DEHNR and
remediation of the Peele pesticide disposal site (the "site"). The Company is
one of several defendants that have been held jointly and severally liable for
response costs and remediation of the site. On February 26, 1997, the Company
and other parties entered into an agreement among themselves and an agreement
with DEHNR to remediate the site and share in assessment and clean-up costs. As
a result, the Company accrued $200,000 in 1996 as an estimate of its share of
remediation costs. During the third quarter, the Company and other parties
completed a remediation plan for the site and on October 29, 1997 DEHNR accepted
the remediation report, subject to satisfactory final testing of groundwater at
the site. During 1997, the Company has paid $141,838 in clean-up costs, which
costs the Company believes constitutes the majority of its share of clean-up
costs. However, there can be no assurance of the total amount of financial
exposure or the timing of the resolution of the matter. If and such additional
costs are not paid by other parties, the financial position of the Company could
be materially adversely affected. The Company does not have insurance to
minimize its potential exposure.
11
<PAGE>
Item 2. The Registrant's Discussion and Analysis of Financial Condition and
Results of Operations
A majority of the Registrant's assets were subject to two railroad
operating leases dating to 1895 and 1939. Information about the leases has been
disclosed by the Registrant in prior quarterly and annual reports to the
Securities and Exchange Commission. See Item 3, Legal Proceedings regarding
litigation against Norfolk Southern Railway Company, Atlantic & East Carolina
Railway Company and other related entities with respect to compensation,
property, and other issues associated with the expiration of the Registrant's
leases.
If the Registrant is unable to negotiate other leases or obtain orders by
the United States Surface Transportation Board ("STB") upon acceptable terms, or
if Norfolk Southern were to discontinue railroad operations over the
Registrant's line, operating its own line without a lessee would subject the
Registrant to a number of risks that would materially affect the Registrant's
liquidity and capital resources. The Registrant anticipates that it would have
to incur substantial operating expenses over time, but that it would initially
not likely incur substantial capital expenditures with respect to fixed plant.
However, the Registrant may be required to incur substantial capital
expenditures and other expenses for the operation of the railroad line if
equipment, facilities and other railroad operating property are not returned by
the lessees in operating condition or if the quantities or type of the returned
equipment is insufficient to operate the railroad line. With respect to future
operations of the Registrant, see Item 5, Other Information, regarding
acquisition of the Registrant by the State of North Carolina.
The Registrant's cash and cash equivalents were $5,846,112 as of
September 30, 1997. See "Results of Operations" below, and Item 3, Legal
Proceedings. On September 8, 1997, the Registrant declared a dividend of $.91
per share, or $3,897,958, payable to shareholders of record on September 22,
1997 with a payment date of October 15, 1997. The Registrant's cash and cash
equivalents were approximately $1.8 million as of October 31, 1997. The
Registrant does not foresee any need for funds during 1997 which cannot be met
primarily from available cash. However, the Registrant's litigation described
in this report is expected to be protracted and costly and may exceed $1 million
per year. The Registrant is opposing a claim in excess of $1 million for legal
fees in a shareholder action overturning the December 15, 1995 shareholder vote
on the Lease Extension. In addition, in connection with the possible buy-out of
the Registrant by the State of North Carolina ("State"), the Registrant will be
required to pay investment banking fees of approximately $500,000 and associated
legal and accounting fees. If Norfolk Southern does not pay sufficient rental to
the Registrant under the May
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29, 1997 STB decision and order, the combination of the REIT distribution for
1996, investment banking fees and the shareholder claim for approximately $1
million of attorneys fees could exceed the current cash and cash equivalents of
the Registrant's assets. The Registrant may be required to finance (i)
litigation expenses, (ii) fees associated with the proposed State buy out, (iii)
expenses associated with seeking alternative operators or lessees of the
Registrant's railroad property, (iv) operating expenses, maintenance, equipment
costs, or capital expenditures associated with railroad operations in the event
Norfolk Southern discontinues or abandons operation of the Registrant's railroad
lines or ceases to maintain the Registrant's property at a level acceptable to
the Registrant or at levels acceptable to regulatory agencies such as the U. S.
Federal Railroad Administration. There can be no assurance such financing will
be available or if available, that it can be obtained on terms favorable to the
Registrant. Failure to obtain financing would have a material adverse effect
upon the Registrant. If a buy out by the State is consummated, the Registrant
will assume an obligation of repayment, the terms of which have not been
determined, of approximately $61 million to the State pursuant to legislation
adopted by the General Assembly of North Carolina to fund a buy out. See Item 5,
Other Information - Merger Agreement, below.
The Registrant's liquidity (cash) increased from $5,318,933 at December
31, 1996 to $5,846,112 at September 30, 1997. Prepaid expenses increased from
- -0- to $50,163 over the same period reflecting premiums paid for insurance.
For the nine month period ended September 30, 1997, $493,297 of net cash
was provided by operating activities and was primarily attributable to net
income of $665,612.
Results of Operations
On August 9, 1996, Norfolk Southern notified the Registrant that payments
of approximately $680,000 monthly would be discontinued. The STB issued a
decision and order dated May 29, 1997 with respect to the Registrant's petition
for interim relief to the STB, STB Finance Docket No. 33134 (the "STB
decision"). See Item 3, Legal Proceedings, regarding the Registrant's petition
before the STB.
The STB decision provides (i) that the Registrant's petition for interim
compensation is granted at the level of out-of-pocket expenses incurred by the
Registrant due to Norfolk Southern's continued operation of the line, (ii) that
the petition of the State of North Carolina ("State") to hold the proceeding in
abeyance pending a negotiated buy-out of minority shareholders and subsequent
reopening of lease negotiations is granted subject to the requirement that the
State and the Registrant report
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monthly to the STB on the progress of negotiations, and (iii) other procedural
and related findings.
Between July 9, 1997 and September 30, 1997, Norfolk Southern made
payments totaling $1,932,445 to the Registrant for the period from August, 1996
through July, 1997 pursuant to the STB decision. During October 1997, Norfolk
Southern made payments of $378,665 for August and September, 1997 pursuant to
the STB decision. There can be no assurance that any such payments will continue
to be made or the amounts of any such payments. If Norfolk Southern continues to
make payments pursuant to the STB order, the amounts of any such payments are
not expected to exceed the operating expenses of the Registrant. See Item 3,
Legal Proceedings, regarding certain Norfolk Southern litigation. The Registrant
expects its revenues in future periods will remain at current low levels until
alternate sources of revenue are secured. Results of operations for 1996 reflect
payments to the Registrant from Norfolk Southern from January through July,
1996.
Total revenues increased from $942,308 for the three month period ended
September 30, 1996 as compared to $2,068,653 for the same period ended September
30, 1997, and decreased from $5,492,692 for the nine month period ended
September 30, 1996 to $2,311,421 for the same period ended September 30, 1997.
The increase for the three month period ended September 30, 1997 was primarily
attributable to payments made by Norfolk Southern pursuant to the STB decision.
The decrease for the nine month period ended September 30, 1997 as compared to
the same period ended September 30, 1996 was attributable primarily to an
overall decrease in rental revenue from leases of roadway and land and a
decrease in interest income.
Interest income decreased from $225,079 for the three month period ended
September 30, 1996 to $75,957 for the same period ended September 30, 1997, and
decreased from $641,928 for the nine month period ended September 30, 1996 to
$201,333 for the same period ended September 30, 1997. The decreases were
attributable to decreases in average levels of invested cash.
Rental income increased from $1,200 for three month period ended September
30, 1996 to $24,920 for the same period ended September 30, 1997, and increased
from $9,600 for the nine month period ended September 30, 1996 to $40,928 for
the same period ended September 30, 1997. The Registrant's rental income is
derived from miscellaneous leases of the Registrant's properties.
Salary and administrative expenses decreased slightly from $111,138 for
the three month period ended September 30, 1996 to $101,612 for the same period
ended September 30, 1997, and increased from $246,328 for the nine month period
ended September 30, 1996 to $268,249 for the same period ended September 30,
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1997. The decrease for the quarter ended September 30, 1997 as compared to the
quarter ended September 30, 1996 was primarily attributable to a decrease in
meeting expenses. The overall increase for the nine month period ended September
30, 1997 as compared to the same period ended September 30, 1996 was
attributable to increases in employee benefits and salaries.
For the three month period ended September 30, 1997, professional fees
paid by the Registrant increased to $172,412 as compared to $127,302 for the
same period ended September 30, 1996 and increased to $642,020 for the nine
month period ended September 30, 1997 as compared to $304,472 for the same
period ended September 30, 1996. The increases in professional fees relate to
attorneys' and accountants' fees paid for various filing and reporting
requirements, fees associated with negotiating the Merger Agreement, litigation
fees, REIT qualification evaluation, and other general items. The Registrant
expects to continue to incur substantial professional fees in future periods
until the Merger Agreement, litigation, and related matters are resolved.
Insurance and taxes decreased to $2,566 for the three month period ended
September 30, 1997 as compared to $29,781 for the same period ended September
30, 1996, and increased to $243,264 for the nine month period ended September
30, 1997 as compared to $91,443 for the same period ended September 30, 1996.
The overall increase for the nine month period ended September 30, 1997 as
compared to the same period ended September 30, 1996 was primarily attributable
to excise taxes paid by the Registrant for tax year 1996 of $131,502.
Amortization expense decreased from $11,685 for the three month period
ended September 30, 1996 to -0- for the same period ended September 30, 1997,
and decreased from $35,057 for the nine month period ended September 30, 1996 to
- -0- for the same period ended September 30, 1997. The decrease is attributable
to the write-off of certain lease negotiations costs in 1996.
Consulting fees increased from $61,096 for the three month period ended
September 30, 1996 to $72,182 for the same period ended September 30, 1997, and
increased from $91,254 for the nine month period ended September 30, 1996 to
$414,375 for the same period ended September 30, 1997. Consulting fees vary
according to the number and magnitude of projects, primarily in connection with
ongoing litigation, the Special Committee of the Registrant's Board of
Directors, negotiation of the Merger Agreement, and other matters. The increases
were primarily attributable to increases in investment banking, public
relations, and railroad consulting fees. The Registrant expects to continue to
incur substantial consulting fees, investment banking fees and related expenses
in future periods until litigation matters, matters related to the lease or
operation of
15
<PAGE>
the Registrant's properties, and the Merger Agreement are resolved. See Item 5,
Other Information, regarding the Merger Agreement.
Other expenses include supplies, utilities, postage, office rent,
printing, and miscellaneous items. For the three month period ended September
30, 1997, other expenses were $48,829 as compared to $29,298 for the same period
ended September 30, 1996 and were $104,694 for the nine month period ended
September 30, 1997 as compared to $73,206 for the same period ended September
30, 1996. The increases were primarily attributable to increases in office rent,
office equipment and supplies.
A current income tax benefit of $44,438 for the three month period ended
September 30, 1997, as compared to $32,000 of current income tax expense for the
same period ended September 30, 1996 was attributable to the September 1996 REIT
election by the Registrant. The current income tax benefit of $33,438 for the
nine month period ended September 30, 1997 as compared to $96,000 for the same
period ended September 30, 1996 was attributable to the September 1996 REIT
election by the Registrant. Prior to the REIT election, the Registrant was taxed
as a "C" corporation. There can be no assurance that the Registrant will
continue to qualify as a REIT. See Note B to the financial statements and "Real
Estate Investment Trust" below.
Inflation affects the Registrant primarily through increased salary,
administrative, property tax, and insurance expenses. The Registrant's primary
sources of revenue prior to 1995, rental from the 1895 Lease and the 1939 Lease,
increased only to the extent changes in the general inflation rate increased the
excess rental payments under the 1939 Lease. The Registrant intends to offset
the effects of inflation by seeking inflation adjustments in any compensation
order by the STB, or securing leases or other agreements for the lease or
operation of the Registrant's properties with inflation adjustment provisions.
However, if the uncertainties regarding the litigation against Norfolk
Southern's failure to pay rental to the Registrant are not resolved, inflation
will tend to increase any expenses required to be financed by the Registrant in
future periods.
The Registrant and its lessees are responsible for compliance with state,
federal, local or other provisions relating to discharge of materials or the
protection of the environment. The risk of incurring environmental liability is
inherent in conducting railroad operations. Some of the commodities which are
transported over the Registrant's railroad lines are classified as hazardous
materials. The 1895 and 1939 Leases did not make provision for the lessees to
disclose environmental problems affecting the Registrant's properties.
Environmental problems may exist on properties owned by the Registrant which are
known to Norfolk Southern or its sublessees
16
<PAGE>
but have not been disclosed to the Registrant or which are unknown to the lessee
or the Registrant. State and federal environmental provisions may impose joint
and several liability upon the Registrant and its lessees and sublessees for
environmental damage or clean up (or associated costs) of any real properties
owned by the Registrant and adjoining properties if the source of any problem is
the property of the Registrant. The Registrant believes that damage or clean up
(or the associated costs) would be the responsibility of the lessees and any
sublessees or other parties who may have created any actionable environmental
condition. The Registrant may determine that it is in its interest to initiate
substantial environmental assessments of its properties in connection with the
litigation against Norfolk Southern. If Norfolk Southern, its sublessees, or
other parties who are responsible for any actionable environmental conditions
fail to pay for damage or remediation under certain statutes, regulations, and
rules, the Registrant could ultimately be held responsible for any remediation,
removal, or clean up of the property it owns. See Item 3, Legal Proceedings
regarding the status of the Peele environmental site.
Real Estate Investment Trust
On September 16, 1996, the Registrant elected tax status as a Real Estate
Investment Trust ("REIT") for the tax year ended December 31, 1995. A REIT is
generally not subject to federal corporate income taxes on that portion of its
ordinary income or capital gain that is currently distributed to its
shareholders. The REIT provisions of the Internal Revenue Code ("I.R.C.")
generally allow a REIT to deduct distributions paid to its shareholders.
However, the Norfolk Southern litigation and certain shareholder litigation
could delay or affect the Registrant's ability to receive rental income.
Pursuant to the Merger Agreement the Registrant is precluded from making
shareholder distributions without the approval of the State. Acquisition of the
Registrant by the State could reduce the number of shareholders of the
Registrant below the requirements for REIT status under the I.R.C. See Item 5,
Other Information, regarding the Registrant's restriction on shareholder
distributions pursuant to the Merger Agreement. Failure to meet any of these
requirements could cause the Registrant to be unable to continue to qualify for
REIT status. Failure to continue to qualify as a REIT would substantially
decrease the after-tax net income available for distribution to shareholders of
the Registrant.
Distributions to shareholders in any year in which the Registrant fails to
qualify as a REIT will not be deductible by the Registrant nor will they be
required to be made.
On September 8, 1997, the Registrant declared a dividend with respect to
its 1996 tax year of $.91 per share, or
17
<PAGE>
$3,897,958. The provisions of the I.R.C. and related regulations governing the
federal income tax treatment of REIT's are highly technical and complex. At
present, the Registrant intends to continue its qualification for REIT status,
however, there can be no assurance that the Registrant will maintain its
qualification for REIT status for 1997 or later years due to possible cash flow
requirements and other uncertainties discussed above.
By delaying certain distributions of 1996 income past January 31, 1997,
the Registrant incurred an additional federal excise tax liability of $131,502
for 1996.
Cautionary Statement Identifying Important Factors That Could Cause the
Registrant's Actual Results to Differ From Those Projected in Forward Looking
Statements
In connection with the "safe harbor" provisions of the Private Securities
Litigation Reform Act of 1995, readers of this document, and any document
incorporated by reference herein, are advised that this document and documents
incorporated by reference into this document contain both statements of
historical facts and forward looking statements. Forward looking statements,
which include statements about litigation, payments from Norfolk Southern, REIT
status, the possibility of a buy-out by the State, and other alternatives the
Registrant is considering are subject to certain risks and uncertainties, which
could cause actual results to differ materially from those indicated by the
forward looking statements. Examples of forward looking statements include, but
are not limited to (i) projections of revenues, income or loss, earnings or loss
per share, capital expenditures, dividends, capital structure and other
financial items, (ii) statements of the plans and objectives of the Registrant
or its management or Board of Directors, including estimates or predictions of
actions by other parties or regulatory authorities, (iii) statements of future
economic performance, and (iv) statements of assumptions underlying other
statements and statements about the Registrant or its business.
This document and any document incorporated by reference herein also
identify important factors which could cause actual results to differ materially
from those indicated by the forward looking statements. These risks and
uncertainties include the Registrant's litigation against Norfolk Southern, the
court's disposition of the shareholder legal actions, Norfolk Southern's ability
or willingness to divert traffic from the Registrant's line, the Registrant's
ability to continue to qualify for tax treatment as a REIT; the Registrant's
ability to reach any future agreement with Norfolk Southern for rental or other
terms for the continued operation of the Registrant's railroad lines, whether
the Merger Agreement will be consummated, and other matters which are described
herein and/or in documents incorporated by
18
<PAGE>
reference herein.
The cautionary statements made pursuant to the Private Litigation
Securities Reform Act of 1995 above and elsewhere by the Registrant should not
be construed as exhaustive or as any admission regarding the adequacy of
disclosures made by the Registrant prior to the effective date of such Act.
Forward looking statements are beyond the ability of the Registrant to control
and in many cases the Registrant cannot predict what factors would cause actual
results to differ materially from those indicated by the forward looking
statements.
Item 3. Legal Proceedings
Except as described below, there are no legal proceedings pending to which
the Registrant is a party that are material to the operations of the Registrant.
Norfolk Southern Litigation (Federal Court)
On September 20, 1996, the Registrant filed an action against Norfolk
Southern Corporation, NSR, AECR, and certain subsidiaries or affiliates thereof
(hereafter referred to collectively as "Norfolk Southern") in the Superior Court
of Wake County, North Carolina, which action was removed to the United States
District Court for the Eastern District of North Carolina. The action seeks a
declaratory judgment of the Registrant's property ownership and other rights and
obligations of the parties arising out of the expiration of the Registrant's
leases with Norfolk Southern, and asserts other claims, including breach of
contract and environmental claims. Information about the litigation has been
disclosed by the Registrant in prior quarterly and annual reports to the
Securities and Exchange Commission. On October 17, 1997, the Registrant and
Norfolk Southern filed a joint motion to stay the proceeding pending
negotiations and consummation or failure of an acquisition of the Registrant by
the State. On October 22, 1997, the court entered an order staying the
proceeding until February 1, 1998. There have been no other changes in the
litigation since the last report that are material to the Registrant.
Norfolk Southern Litigation (U. S. Surface Transportation Board)
On September 23, 1996 the Registrant filed (i) a petition for interim
relief and (ii) a petition to set trackage compensation before the STB for the
use of the Registrant's property by Norfolk Southern, STB Finance Docket No.
33134. The petition for interim relief sought an order requiring Norfolk
Southern to pay rental on a temporary basis in the amount of $680,700 monthly
pending a final adjudication or other resolution of the Registrant's federal
court action against Norfolk Southern
19
<PAGE>
and the Registrant's petition to the STB to set trackage compensation. In
response, Norfolk Southern petitioned the STB to establish rental on a interim
basis in an amount not greater than the rental called for in the 1895 and 1939
leases, or approximately $600,000 annually. Information about the litigation has
been disclosed by the Registrant in prior quarterly and annual reports to the
Securities and Exchange Commission.
The STB issued a decision and order dated May 29, 1997 ("STB decision")
with respect to the Registrant's petition for interim relief. The STB decision
denied the rental amount requested by the Registrant and provides (i) that the
Registrant's petition for interim compensation is granted at the level of
out-of-pocket expenses incurred by the Registrant due to Norfolk Southern's
continued operation of the line, (ii) that the petition of the State of North
Carolina ("State") to hold the proceeding in abeyance pending a negotiated
buy-out of minority shareholders and subsequent reopening of lease negotiations
is granted subject to the requirement that the State and the Registrant report
monthly to the STB on the progress of negotiations, and (iii) other procedural
and related findings. Beginning in July 1997, Norfolk Southern has made payments
to the Registrant pursuant to the STB decision. The payments represent certain
out-of-pocket expenses of the Registrant for such periods, but exclude expenses
of the Norfolk Southern federal court litigation and other miscellaneous
expenses of the Registrant. There can be no assurance that any such payments
will continue to be made or the basis of any such payments. On July 7, 1997, the
STB granted a petition by the Registrant for an extension of time for the
Registrant to petition to reopen the STB decision until 90 days after
consummation of any acquisition of the Registrant by the State of North Carolina
or the failure of acquisition negotiations. On June 27, 1997 and July 28, 1997,
motions were filed by Walker F. Rucker Intervenors to reopen the STB decision.
The STB has not yet ruled on the motions.
Shareholder Litigation
Four shareholder derivative actions were filed in the United States
District Court for the Eastern District of North Carolina during December 1994
and January and February 1995 by shareholders of the Registrant, which actions
were consolidated into one case by the court. Information about the actions has
been disclosed in prior quarterly and annual reports to the Commission. There
have been no changes in the litigation since the last report that are material
to the Registrant. On September 24, 1996, a lawsuit filed as a purported class
action by the same plaintiffs as the December 1994 and February 1995 federal
court actions was filed in the Superior Court of Wake County, North Carolina.
The action alleged that the Board of Directors of the Registrant breached their
fiduciary duty to
20
<PAGE>
shareholders in the formation of the Special Committee of the Registrant's Board
of Directors and asserts other claims. On June 19, 1997, the court granted the
Registrant's motion to dismiss the action. On July 7, 1997, the plaintiffs
appealed the dismissal to the North Carolina Court of Appeals.
On December 21, 1995, a shareholder derivative legal action was filed in
Federal District Court in the Eastern District of North Carolina, Rucker v.
North Carolina Railroad Company, et al., Case No. 5-95-CV-1054-BO(2). The action
sought to enjoin the Lease Extension or invalidate the December 15, 1995
shareholders meeting held to approve the Lease Extension on the basis of a lack
of a quorum of shareholders other than the State of North Carolina, and included
other allegations against the defendants, including alleged proxy rule
violations. Information about the action has been disclosed in prior quarterly
and annual reports to the Commission. On November 5, 1997, the court held a
hearing on the plaintiff's application for attorneys fees of approximately $1
million. The court has not yet ruled on the motion.
Greensboro Segment Trackage Rights
On July 8, 1996, the Registrant filed a petition before the STB to revoke
(the "Petition to Revoke") a Notice of Exemption filed by NSR of a grant of
certain trackage rights by NSR to Norfolk & Western Railway Company ("N&W"), an
affiliate of Norfolk Southern, over a 2.4 mile segment of the Registrant's
railroad line in Greensboro, North Carolina, STB Finance Docket No. 32961. The
trackage rights affect the segment of the Registrant's railroad line which
connects NSR's main north-south route through North Carolina on the Registrant's
railroad line with a Norfolk Southern owned route to Winston-Salem, North
Carolina, which segment the Registrant believes might be utilized by Norfolk
Southern to divert traffic away from the Registrant's lines to Norfolk Southern
owned railroad lines. Information about the proceeding has been disclosed in
prior quarterly reports to the Commission. The Registrant is challenging the
Notice of Exemption and the amendment by NSR on the basis that NSR failed to
recognize the Registrant's ownership of the 2.4 mile segment affected by the
purported trackage rights and NSR's inability to grant trackage rights in the
absence of the Lease Extension. On August 22, 1997, the court denied the
petition of the Registrant. The Registrant has determined not to appeal the
matter and to enter into negotiations with Norfolk Southern to address the
matter.
Peele Site
In January, 1994, North Carolina Department of Environment, Health, and
Natural Resources ("DEHNR") initiated a lawsuit against the Company and other
parties seeking reimbursement of
21
<PAGE>
$84,354 in response costs incurred by DEHNR and remediation of the Peele
pesticide disposal site (the "site"). The Company is one of several defendants
that have been held jointly and severally liable for response costs and
remediation of the site. On February 26, 1997, the Company and other parties
entered into an agreement among themselves and an agreement with DEHNR to
remediate the site and share in assessment and clean-up costs. As a result, the
Company accrued $200,000 in 1996 as an estimate of its share of remediation
costs. During the third quarter, the Company and other parties completed a
remediation plan for the site and on October 29, 1997 DEHNR accepted the
remediation report, subject to satisfactory testing of groundwater at the site.
During 1997, the Company has paid $141,838 in clean-up costs, which costs the
Company believes constitutes the majority of its share of clean-up costs.
However, there can be no assurance of the total amount of financial exposure or
the timing of the resolution of the matter. If such costs are not paid by other
parties, the financial position of the Company could be materially adversely
affected. The Company does not have insurance to minimize its potential
exposure.
Charlotte Convention Center Litigation
During 1991, the Registrant initiated lawsuits in the Mecklenburg County,
North Carolina, Superior Court regarding its railroad corridor through downtown
Charlotte. The Registrant alleged that both the City of Charlotte ("City") and
Norfolk Southern have breached contract obligations and obligations based on
real property rights to the Registrant. The litigation has been disclosed by the
Registrant in prior quarterly and annual reports to the Securities and Exchange
Commission. During the first quarter of 1997, the Registrant and the City
reached an agreement for a sale by the Registrant of certain inactive railroad
property less than one mile in length to the City, subject to certain conditions
of closing, whereby the City will pay the Registrant $4,000,000 in exchange for
the property and dismissal of the lawsuits. The contract of sale between the
Registrant and the City provides for a closing date of December 3, 1997.
However, there can be no assurance that conditions to closing will be met or
that the closing will occur on the closing date set forth in the contract of
sale.
Item 5. Other Information - Merger Agreement
On April 7, 1997, the Registrant, the State, and the Beaufort & Morehead
Railroad Company (a North Carolina corporation whose stock is wholly owned by
the State) executed a Letter of Intent to reach a definitive agreement for a
plan of merger, whereby the State would acquire the shares held by shareholders
other than the State at a cash price of $66.00 per share.
22
<PAGE>
On August 27, 1997, the General Assembly of North Carolina approved
legislation authorizing a $61 million reserve fund which, in addition to other
funds of the State, is authorized for an investment to fund the acquisition of
the non-State shares consistent with the Letter of Intent.
On October 3, 1997, the Registrant reached a definitive agreement with the
North Carolina Department of Transportation of the State of North Carolina
("DOT") and the Beaufort & Morehead Railroad Company for a plan of merger for
the State, through the DOT to acquire the non-State shares at a cash price of
$66.00 per share (the "Merger Agreement"). The Merger Agreement is subject to
corporate and governmental approvals, including approval by the shareholders of
the Registrant and a majority of the shares held by non-State shareholders and
to other conditions, and also provides that either the State or the Registrant
may terminate the Merger Agreement if closing does not occur on or before May 5,
1998. On October 7, 1997, the Merger Agreement was approved by the Council of
State of North Carolina. The Registrant expects to call a shareholder meeting to
vote on the Merger Agreement during the first quarter of 1998.
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
Exhibits to this report are listed in the accompanying Index to Exhibits.
There are no other changes to exhibits from the Registrant's Form 10-K for
the period ended September 30, 1997.
(b) Reports on Form 8-K
On August 29, 1997, the Registrant filed a Form 8-K dated August 27, 1997,
reporting Item 5, Other Events, with regard to a Letter of Intent with the State
for a plan of merger between the Registrant, the State, and the Beaufort &
Morehead Railroad Company.
On October 7, 1997, the Registrant filed a Form 8-K dated October 3, 1997,
reporting Item 5, Other Events, with regard to reaching a definitive merger
agreement.
23
<PAGE>
SIGNATURES
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.
NORTH CAROLINA RAILROAD COMPANY
DATE: November 13, 1997 /s/ R. Samuel Hunt, III
--------------------------------
R. Samuel Hunt, III
President
DATE: November 14, 1997 /s/ Lynn T. McConnell
--------------------------------
Lynn T. McConnell, Treasurer and
Principal Financial Officer
24
<PAGE>
Index to Exhibits
Exhibit No. Item
------------ -----
27 Financial Data Schedule (This Exhibit is
required to be submitted electronically
pursuant to the rules and regulations of the
Securities and Exchange Commission and shall
not be deemed filed for purposes of Section
11 of the Securities Act of 1933 or Section
18 of the Securities Exchange Act of 1934.)
99.1 Agreement and Plan of Merger dated October
3, 1997 between the Registrant, the State of
North Carolina Department of Transportation,
and the Beaufort & Morehead Railroad
Company, filed as Exhibit 99.1 to the
Registrant's Form 8-K filed with the
Securities and Exchange Commission on
October 7, 1997, incorporated by reference
into this Form 10-Q.
99.2 Excerpt from Senate Bill 352, Section 32.30,
General Assembly of North Carolina, filed as
Exhibit 99.1 to the Registrant's Form 8-K
filed with the Securities and Exchange
Commission on August 29, 1997, incorporated
by reference into this Form 10-Q.
25
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<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JUL-01-1997
<PERIOD-END> SEP-30-1997
<CASH> 5,846,112
<SECURITIES> 0
<RECEIVABLES> 0
<ALLOWANCES> 0
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<CURRENT-ASSETS> 5,979,211
<PP&E> 8,157,495
<DEPRECIATION> (315,064)
<TOTAL-ASSETS> 13,821,642
<CURRENT-LIABILITIES> 4,371,695
<BONDS> 0
0
0
<COMMON> 2,141,735
<OTHER-SE> 7,308,212
<TOTAL-LIABILITY-AND-EQUITY> 13,821,642
<SALES> 0
<TOTAL-REVENUES> 2,311,421
<CGS> 0
<TOTAL-COSTS> 1,679,247
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<LOSS-PROVISION> 0
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<INCOME-PRETAX> 632,174
<INCOME-TAX> (33,438)
<INCOME-CONTINUING> 665,612
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