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U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
(Mark One)
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [FEE REQUIRED]
For fiscal year ended February 28, 1998.
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from ____ to ____
Commission file number: 0-17879
BEST COLLATERAL, INC.
(Name of small business issuer in its charter)
COLORADO 84-1107903
(State or other jurisdiction (IRS Employer
f incorporation or organization) Identification No.)
2447 MISSION STREET, SAN FRANCISCO, CA 94110
(Address of principal executive offices) (Zip code)
(Issuer's telephone number): (415) 550-6674
Securities registered under Section 12(b) of the Exchange Act: NONE
Securities registered under Section 12(g) of the Exchange Act:
$.10 Par Value Common Stock
(Title of class)
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 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 [ ]
Check if there is no disclosure of delinquent filers in response to Item
405 of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this
Form 10-KSB or any amendment to this Form 10-KSB. [ X ]
State issuer's revenues for its most recent fiscal year: $4,310,761
State the aggregate market value of the voting stock held by non-
affiliates of the registrant: There is no established public trading market
for the registrant's Common Stock.
State the number of shares outstanding of each of the issuer's classes of
common equity, as of the latest practicable date: 4,024,990 shares
Documents incorporated by reference: Definitive proxy statement to be
filed on or before June 26, 1998, containing information required in Part III
of this Form 10-KSB.
Transitional Small Business Disclosure Format (Check one):
Yes [ ]No [ X ]
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BEST COLLATERAL, INC.
YEAR ENDED FEBRUARY 28, 1998
INDEX TO FORM 10-KSB
PART I
Item Page
No. No.
____ ____
1. Business ..................................................... 1
2. Properties ................................................... 7
3. Legal Proceedings ............................................ 8
4. Submission of Matters to a Vote of Security Holders ........... 8
PART II
5. Market for Common Equity and Related Stockholder
Matters .................................................. 8
6. Management's Discussion and Analysis or Plan of
Operation ................................................ 8
7. Financial Statements .......................................... 13
8. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure ....................... 13
PART III
9. Directors, Executive Officers, Promoters and Control
Persons; Compliance with Section 16(a) of the
Exchange Act .............................................. 14
10. Executive Compensation ........................................ 14
11. Security Ownership of Certain Beneficial Owners
and Management ........................................... 14
12. Certain Relationships and Related Transactions ................ 14
PART IV
13. Exhibits and Reports on Form 8-K .............................. 14
SIGNATURES
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PART I
Item 1. Business
General
The Company is a specialty financial and retail services business engaged
in owning and operating collateralized lending and previously-owned
merchandise retail outlets, also known as pawnshops. Pawnshops function as
convenient sources of consumer loans and as value-oriented retailers
primarily of previously-owned merchandise. A major growth strategy of the
Company involves the acquisition of existing pawnshops as well as
establishing new locations. Since March 1, 1993, the Company has acquired
seven pawnshops, two of which were consolidated with an existing location,
and has established two new outlets. As of February 28, 1998, the Company
owns and operates nine pawnshops located in California. The Company's
principal executive offices are located at 2447 Mission Street, San
Francisco, California 94110 and its telephone number is (415) 550-6674.
Through its lending operation, the Company makes relatively small, non-
recourse loans secured by pledges of tangible personal property. The Company
contracts for a pawn service charge, also referred to as an interest charge,
to compensate it for each loan transaction. Maximum pawn service charges,
which vary by loan amount, are regulated by the California Financial Code and
consist of a fixed initial charge for one to ninety days of the loan period,
with an additional charge for each subsequent month or portion thereof. On an
annualized basis, the effective interest rate currently ranges from 1,800% on
a $1 loan to 21.7% on a $2,499 loan. Loans of $2,500 or more are not
regulated.
Pledged property is held through the term of the loan, which, in
California, is four months with a ten day grace period unless otherwise
earlier repaid or renewed. In excess of 80% of the loans made by the Company
are paid in full with accrued service charges or are renewed after payment of
the accrued service charges. In the event that the borrower does not pay the
loan in full or renew the loan by the end of the ten day grace period, all
borrower's right, title and interest in the pledged property is forfeited and
vests in the Company. The forfeited, or unredeemed, property then becomes
inventory available for sale in the retail operations of the pawnshop.
Lending Operation
The Company is engaged in the business of lending money on the security
of pledged tangible personal property consisting primarily of jewelry. The
Company also makes loans on tools, televisions and VCR's, stereophonic
equipment, musical instruments and equipment, firearms and other
miscellaneous items. The pledged property is intended to provide security to
the Company for the repayment of the loan.
As pawn loans are made without the borrower's personal liability, no
element of credit investigation or evaluation is involved. Instead, the
Company relies on its evaluation of the pledged personal property, and the
possibility of its forfeiture, as a basis for its lending decision. The
Company contracts for a pawn service charge to compensate it for the making
of a loan. For the fiscal year ended February 28, 1998, pawn service charges
accounted for approximately 33.1% of the Company's total revenues and 47.8%
of its "net revenues", defined as total revenues less the cost of merchandise
sold. The Company's procedure for making a loan is as follows:
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Determination of Collateral Value: The amount which the Company is
willing to finance is typically based on a percentage of the pledged personal
property's estimated resale value. The sources for the Company's
determination of the estimated resale value are numerous and include
catalogues, blue books, newspapers, direct mail advertisements and previously
made similar pawn loan transactions. The Company utilizes several different
types of electronic and manual equipment to verify authenticity and value of
gold and precious stones. These sources, together with the employees'
experience in selling similar items of merchandise within a pawnshop,
influence the determination of the estimated resale value of such items. The
Company does not utilize a standard or mandated percentage of estimated
resale value in determining the amount to be financed. Rather, the employee
has the authority to determine the ratio of loan amount to estimated resale
value with the expectation that, if the item is subsequently forfeited, its
resale would yield a gross profit margin within parameters established by
management. If the loan is a renewal, the current estimated resale value is
checked for a change from the previous loan value.
Loan Ticket: At the time a pawn transaction is entered into, a pawn loan
agreement, commonly referred to as a pawn ticket, is delivered to the
borrower (pledgor) that sets forth, among other things, the name and address
of the pawnshop, the name and address of the borrower, a description of the
pledged goods, including serial number if applicable, the amount of the loan,
the maturity date of the loan, the dollar amount of the maximum interest
charge, any storage or handling fees and a statement of the annualized
interest rate. Also, as required by law, an additional form is printed with a
description of the borrower, including name, address, height, weight, date of
birth, and the number of the driver's license or other approved
identification. A copy of this form is retained in the pawnshop for its
records and a copy, with a fingerprint of the borrower, is sent to the local
police department.
Redemption of Collateral: To redeem the loan, the borrower must present a
cash payment of the loan plus accrued interest and fees with the loan ticket.
If the borrower has lost the loan ticket, the customer must present the same
identification as that which was recorded on the original loan ticket. The
information on the identification and the physical characteristics of the
presenter of the identification is checked against the records of the
original transaction. If there is a match, the loan may be redeemed upon
presentation of the full amount due.
Collateral Not Redeemed: In the event a borrower does not redeem or renew
the loan, the collateral is forfeited to the Company and becomes inventory
available for sale in the retail operations of the pawnshop. Consistent with
industry practice, the Company does not record loan losses or charge-offs
because the principal amount loaned plus the accrued service charges becomes
the carrying cost of the forfeited collateral ("inventory") that is to be
recovered through the retail function described below. However, the Company
does evaluate the salability of inventory and provides an allowance for
shrinkage and over valuation.
All of the Company's nine locations as of February 28, 1998 are located
in California. Maximum interest and pawn service charges are set by the
California Financial Code. On an annualized basis, the effective interest
rate currently ranges from 1,800% on a $1 loan to 21.7% on a $2,499 loan.
Loans of $2,500 or more are not regulated. During fiscal 1998, loans made by
the Company were outstanding for a maximum period of four months and eleven
days and were generally repaid or renewed at an earlier date. While the
annualized interest rate for the full term on an $95.00 loan (the Company's
approximate average loan in fiscal 1998) is about 54.7%, due to payment or
renewal before the end of the loan term, the Company's actual average
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Collateral Not Redeemed (continued): annualized rate was approximately
61.3%. The Company believes its pawn service charges comply with the rates
promulgated in the California Financial
Code.
The table below shows the dollar amount of loans made (including
renewals), loans acquired, loans repaid or renewed and loans forfeited for
the Company for the years ended February 28, 1998 and 1997 and February 29,
1996:
<TABLE>
1998 1997 1996
<S> <C> <C> <C>
Loans made $ 8,024,493 $ 6,445,292 $ 3,890,472
Loans acquired 15,767 373,699 -
Loans repaid or renewed (6,762,502) (5,155,064) (3,157,525)
Loans forfeited (953,976) (729,234) (461,358)
---------- ---------- ----------
Net increase in pawn loans
outstanding at fiscal year end $ 323,782 $ 934,693 $ 271,589
========== ========== ==========
Loans paid or renewed as a percent
of loans made 84.3% 80.0% 81.2%
========== ========== ==========
</TABLE>
As of February 28, 1998, the Company had 26,736 loans outstanding with an
aggregate balance outstanding of $2,504,608 for an average of $93.68 per loan
outstanding.
Retail Operation
The Company engages in the sale of unredeemed goods acquired when a pawn
loan is not repaid, used goods purchased from the general public and to a
minor extent new goods acquired from vendors. New goods consist primarily of
accessory merchandise which enhances the marketability of unredeemed goods,
such as watch bands, television remote controls and antennas and clasps for
chains and bracelets. For the year ended February 28, 1998, gross profit from
sales of inventory was approximately 52.1% of the Company's net revenues.
The Company does not give its customers any warranties on the used
merchandise sold. The Company accepts major credit cards and has a credit
program whereby a customer purchasing jewelry may, on approved credit, take
the merchandise with them and make payments over time. This program is
administered by a major bank which approves the credit and accepts
responsibility to collect the payments without recourse to the Company.
Additionally, the Company allows its customers to purchase inventory on a
"layaway" plan whereby the customer agrees to purchase an item by making an
initial cash deposit representing a small part of the selling price
(generally 10% - 20%) and agrees to make additional, non-interest bearing,
payments on the balance of the selling price in accordance with a specified
schedule. The Company then separates the layaway item from its inventory and
holds the item until the selling price is paid in full. The Company records
layaways as a sale at the time of receiving the initial cash deposit. Should
the customer fail to make a required payment, the item is returned to
inventory at original cost and all previous payments forfeited to the
Company. To cover the difference between the inventory's original cost and
the remaining layaway sales receivable upon forfeiture, the Company provides
for an allowance against outstanding layaway receivables. At February 28,
1998, the Company had layaway sales receivable of $263,727 with an allowance
for the net cost on potential forfeited layaways of $13,249.
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The Company's inventory is stated at the lower of cost (specific
identification) or market (net realizable value). Inventory consists of
merchandise acquired from forfeited loans, merchandise purchased directly
from the public and new merchandise purchased from vendors. The Company
provides an allowance for obsolescence and valuation based on management's
evaluation of the condition and salability of the merchandise. At February
28, 1998, total stated value of inventory on hand was $1,053,101, after
deducting $39,796 for the allowance.
Operations
General
The predecessor company was founded as a privately held business some
fifty years ago. Until the early 1990's, the Company did not stress
significant increases in its outstanding pawn loans nor a rapid turnover of
merchandise, but had as a primary goal the accumulation of inventory.
In the early 1990's, management decided to participate in the
consolidation of ownership taking place in the industry. In order to position
itself for raising the capital necessary to fund the growth, the Company
began having its financial statements audited. As part of its overall
strategy, in June of 1992, the Company became a public company through a
reverse merger with Macintosh Video News, Inc., a publicly held Colorado
corporation.
Employees
Each pawnshop has a manager and assistant manager who are responsible for
supervising store personnel, assuring that the store is run in accordance
with the Company's established policies and procedures, and for operating
their store according to performance parameters consistent with the Company's
store operating plan. Store managers report to a Regional Manager of the
Company.
At February 28, 1998, the Company had 49 employees. Of the total
employees, five were administrative and forty-four were store level. None of
the Company's employees is covered by a collective bargaining agreement. The
Company considers its employee relations to be satisfactory.
The Company's training program for new pawnshop employees consists
primarily of supervised on-the-job loan and sales experience conducted with
Company policies and procedures. New employee orientation also includes
formal jewelry sales and collateral evaluation training sessions, complete
with manuals and video presentations. Employee and employer conduct and
responsibilities are set forth in the Company's employee manual.
Management Information Systems And Controls
The Company's computerized point-of-pawn and point-of-sale data
processing system completely automates the recording of all transactions,
operations and calculations that occur within a pawnshop. From a controls
perspective, the system provides management with a database of all loans made
and a perpetual inventory system. The system utilizes a microcomputer-based,
multi-tasking, multi-user computer environment, which allows multiple
transactions to occur simultaneously. The Company is a primary consultant to
its software vendor as additional features and functions are considered and
added to the system.
4
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The Company's management information system enables store managers and
senior management to monitor, control and anticipate business changes at the
Company's store operations. In addition to basic financial reporting, the
system facilitates internal management reports detailing an aged loan trial
balance, loans made, loans redeemed, loans forfeited, sales by category and
by employee and gross profit analysis by category and employee. A store
customer's complete loan history is maintained on-line, including their
redemption history and profitability. This enables loan assessors and
processors to utilize a customers' past payment history as well as the value
of the collateral in order to determine an appropriate loan value.
Additionally, repeat customers can be handled more expediently, thereby
allowing a greater number of loans to be processed per employee.
For inventory control and tracking, each collateral item taken in a pawn
transaction is assigned a bar code during the lending process. This ensures
that all the Company's inventory is properly bar coded as it becomes part of
the store's inventory. Through the use of scanning technology, the Company
has dramatically decreased the time requirement for physical inventories.
Future Expansion
During fiscal 1998, the Company continued its strategy of expansion by
acquiring one and opening one pawnshop in northern California. The Company's
objective is to continue to expand the number of pawnshops it owns and
operates primarily through acquiring existing pawnshops which, based on
management's assessment, can benefit from the Company's management and
operations expertise, or establishing new locations that meet the Company's
strategic requirements. Management believes that such expansion will allow
the Company to realize greater efficiency in its supervision, administration
and marketing by decreasing the overall average cost of these activities per
store.
The Company expects to concentrate its expansion in areas where it
believes the regulatory, demographic and competitive characteristics are
conducive to a successful pawnshop operation. In identifying potential
pawnshop acquisitions, the Company places emphasis on those with favorable
lease arrangements, with outstanding loan balances which provide sufficient
pawn service charge income to cover most of the store level fixed operating
costs, where inventory and loans outstanding primarily consist of jewelry and
where the store is strategically located in an area with significant foot
traffic and easily accessible by public transportation. For start-up
locations, favorable lease arrangements, strategic location and improving
geographic density will constitute the primary decision criteria. Utilizing
this criteria, the Company opened one location in the third quarter of fiscal
1998.
Since March 1, 1993, the Company acquired the operating assets of four
stores, and acquired the pawn loans, and thus the customer base, of two other
stores which were closed and incorporated into an existing location. In all
acquisitions, the Company conducted its due diligence and negotiated the
general terms of an asset purchase agreement. Upon taking a physical count of
all inventory and loan collateral, final terms of the purchase agreement were
negotiated and, within several days, the transaction was closed. After the
date of closing, inventory on hand was entered into, and new loan
transactions were processed through, the Company's point-of-sale/point-of-
pawn computer system. This methodology is expected to guide the Company
through its future acquisitions.
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There are approximately 700 active licensed pawnshops in California, as
indicated by the records of the Collateral Loan and Secondhand Dealers
Association of California. While the Company believes it will be able to
target an adequate number of stores available for acquisition, a number of
unpredictable factors, including the Company's ability to raise additional
capital for acquisition purposes, may limit the Company's expansion
activities. Also, while the Company will seek existing personnel or hire new
employees capable of assuming managerial positions, there can be no assurance
that sufficient qualified personnel will be available to satisfy the
Company's needs with respect to its planned expansion.
Competition
In connection with the lending of money, the Company competes with other
pawnshops and other types of financial institutions such as consumer finance
companies, which generally lend on an unsecured as well as a secured basis.
The vast majority of the Company's pawnshop competitors are independently
owned and operated "mom and pop" stores. The Company believes that the
primary elements of competition in the pawnshop industry are store location
and design, the ability to offer competitive loan amounts on items pawned,
effective management of store-level personnel and the quality of customer
service. Additionally, as the pawnshop industry consolidates, the Company
believes that the ability to compete effectively will be impacted by the
sophistication level of a company's general management and management
information systems, its regional focus, market concentration and access to
capital.
In connection with its retail operations, the Company competes with
numerous other retail and wholesale stores, including jewelry stores and
outlets, discount retail stores, consumer electronics stores, firearm
retailers and other pawnshops. Competitive factors, in addition to several
noted above, include the ability to provide the consumer with a variety of
quality merchandise at a "bargain" price.
In both areas of its business, the Company faces competitors which have
greater financial resources. This, and certain of the conditions noted above,
may adversely affect the Company's revenues, profitability and ability to
expand.
Regulation
The Company's pawnshop operations are subject to extensive regulation,
supervision and licensing under various federal, state and local statutes,
ordinances and regulations.
As all the Company's stores are within California, the Company is
primarily affected by the California Business and Professions Code and
Financial Code. These statutes prescribe, among other things, the term and
maximum rates of interest which a pawnshop may charge for certain loans.
Additionally, as a condition precedent to the issuance or renewal of a
pawnbroker's license, an applicant must file a pawnbroker's two-year
nonrevocable surety bond in the amount of $20,000 per store. As a condition
precedent to the issuance of a new pawnbroker's license (holders of
secondhand dealers' licenses, actively engaged as a pawnbroker as of October
3, 1993, such as the Company, are not affected by this requirement), an
applicant must file a financial statement, reviewed and signed by a
California Certified Public Accountant, confirming the applicant has at least
$100,000 in the form of liquid assets readily available for use in the
business or an applicant may post a nonrevocable surety bond in the amount of
$100,000.
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Stores that deal in firearms must comply with the regulations promulgated
by the United States Department of Treasury, Bureau of Alcohol, Tobacco and
Firearms which require each pawnshop dealing in firearms to maintain a
permanent written record of all transactions involving the receipt or
disposition of guns. As it is the Company's policy not to retail firearms in
an urban area, only one of the Company's stores is currently subject to these
regulations.
At the local level, each of the Company's pawnshops voluntarily or
pursuant to municipal ordinances provide, to the police department having
jurisdiction, copies of all daily transactions involving pawn loans and goods
purchased from the general public. These daily transaction reports are
designed to provide local police with a detailed description of the goods
involved, including serial numbers, if any, and the name and address of the
pawnor obtained from a valid identification card. These tickets are used by
law enforcement agencies to determine rightful ownership. Goods held to
secure pawn loans or goods purchased which are determined to belong to an
owner other than the borrower or seller are subject to recovery by the
rightful owner. While a risk exists that pledged or acquired merchandise may
be subject to claims of the rightful owner, historically, the Company has not
experienced a material number of claims of this sort and the claims of this
sort which the Company has experienced have not had a material adverse affect
on the Company's results of operations.
Item 2. Properties
As of April 30, 1998, the Company owned and operated nine pawnshops in
California. All of its locations are operated under non-cancelable operating
leases. Leased facilities are generally leased for a term of five years with
one or more options to renew. The Company's existing leases expire in fiscal
years 1999 through 2008. All leases provide for specific periodic rental
payments. Most leases require the Company to maintain the property and pay
the cost of insurance and taxes.
One of the Company's pawnshop locations and it's corporate offices are
owned by the Company's two principal stockholders. These properties are
leased on a monthly basis and provide for market rental rates. At two other
locations, the Company subleases to independent parties a portion of its
leased property under a non-cancelable sublease.
The following table sets forth, as of May 27, 1998, the geographic
markets served by the Company and the number of locations in such markets:
Number of Locations in Area
---------------------------
California:
San Francisco 4
San Bruno 1
San Mateo 1
Vallejo 1
Sacramento 1
Marysville 1
----
9
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The Company considers its equipment, furniture and fixtures to be in good
condition. Property insurance is maintained on each of its locations in
accordance with the terms of each lease. Additionally, the Company carries
other business insurance on its inventories, pawn loan collateral and for
general liability.
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Item 3. Legal Proceedings
No material legal proceedings to which the Company is a party or to which
the property of the Company is subject are pending or, to the knowledge of
management, is threatened.
Item 4. Submission Of Matters To A Vote Of Security Holders
No matter was submitted to a vote of the security holders during the
fourth quarter of the fiscal year covered by this report.
PART II
Item 5. Market For Common Equity And Related Stockholder Matters
There is no established public trading market for the Company's common
stock.
As of April 22, 1998, there were 138 shareholders' of record of the
Company's common stock. The total public float of the Company's common stock
is 113,756 shares, approximately 2.8% of the 4,024,990 shares issued and
outstanding.
Information contained under the caption "Stock Options and Warrants" on
page F-12 of this Form 10-KSB is incorporated herein by reference in response
to this Item 5.
Item 6. Management's Discussion And Analysis Or Plan Of Operations
The following is a discussion of the Company's financial condition,
changes in its financial condition, and its results of operations for the two
fiscal years ended February 28, 1997 and 1998 (designated as "1997" and
"1998", respectively). This discussion should be read in conjunction with the
financial statements, related notes and other information included elsewhere
in this report.
Cautionary Factors That May Affect Future Results
In addition to historical information, management's discussion and
analysis includes certain forward-looking statements regarding events and
financial trends which may affect the Company's future operating results and
financial position. Such statements can be identified by their use of words
such as "expects," "plans," "will," "estimates," "forecasts," "projects" and
other words of similar meaning. These statements are subject to risks and
uncertainties that could cause the Company's actual results and financial
position to differ materially. Influential factors include, but are not
limited to: a change in economic conditions in the markets served by the
Company which could affect the level of demand for pawn loans or previously
owned merchandise; a greater-than-anticipated competitive environment
resulting from the entrance into the California market by a large pawnshop
chain; a change in the regulatory environment including, but not limited to,
a change in the allowable interest rate structure or a reduction in the
ability to obtain required licenses and a limit on available investment
capital which may affect the Company's ability to meet its growth
expectations.
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The Company does not assume the obligation to update any forward-looking
statement. Readers are cautioned not to place undue reliance on these
forward-looking statements, which speak only as of the date hereof. One must
carefully consider any such statement and should understand that many factors
could cause actual results to differ from the Company's prior results or its
forward-looking statements. One should carefully evaluate such statements in
light of factors described in the Company's filings with the Securities and
Exchange Commission, especially on Forms 10-KSB, 10-QSB and 8-K (if any).
Liquidity and Capital Resources
During 1998, the Company invested $35,865 on the acquisition of the
assets of a pawnshop and $328,030 for additions to its fixed assets. Working
capital decreased by $78,575 as the Company used its line of credit to help
finance its capital improvements. The acquisition was funded through the
Company's primary line of credit. Operational growth was funded through net
revenues, cash available at February 28, 1997 and bank borrowings.
During 1998, the Company renewed its revolving line of credit arrangement
with Bank of America, NA and increased its availability to four million
dollars ($4,000,000). Borrowings under this line of credit bear interest at
the Bank's Reference Rate (8.5% at February 28, 1998) plus 1.25%. Interest is
payable monthly and all borrowings and accrued interest are due August 1,
1998. As of February 28, 1998, the amount outstanding under this line of
credit was $2,874,716 and it is management's expectation that the arrangement
will be renewed by the bank upon its due date.
During 1997, the Company invested $625,000 on the acquisition of the
assets of a pawnshop and $83,267 for additions to its fixed assets. Working
capital increased by $155,082 to meet operational growth needs in 1997. The
acquisition was funded through a $700,000 increase in the Company's primary
line of credit with operational growth funded through cash available at
February 29, 1996, net cash provided by operations, loans from an employee
and directors and bank borrowings.
During 1997, the Company entered into a three million dollar ($3,000,000)
revolving line of credit arrangement with Bank of America, NA. The new line
was used to consolidate all of the Company's existing lines of credit and
bank term loans and provide additional working capital. Until its renewal in
1998, borrowings under the line of credit bore interest at the Bank's
reference rate plus 1.5%.
For continuing operations, the Company's liquidity is greatly affected by
the amount of pawn loans outstanding. As it is a Company strategy to increase
its average loan portfolio within each store, the Company will continue to be
prudently aggressive in its loan policy and seek out opportunities to make
loans on collateral with greater value. The Company plans to manage the
growth in its inventory, by discounting prices or selling certain inventory
items in the wholesale market, such that any growth in its inventory levels
will not adversely impact availability of funds for loan growth.
It is also the Company's strategy to expand its operations through
acquisitions of existing or establishing new, start-up pawnshops. To this
end, the Company continues to discuss its financing requirements with
institutional lenders and private individuals. The Company believes that this
type of financing will be the manner in which it funds its next several
acquisitions or start-ups. It is expected that any such financing will be
entered into on a case by case basis. The Company expects any funding of this
nature to be adequate to allow for build out costs and pawn loan growth in
the acquired or start-up store.
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Liquidity and Capital Resources (continued)
If adequate funding for acquiring or establishing additional pawnshops is not
available, the Company will have to further consider the effect of any
potential expansion on its liquidity.
Results of Operations
1998 vs. 1997
Sales and Gross Profit
Merchandise sales in 1998 increased by $230,893 (8.8%) over 1997 as a
result of a $143,759 (5.5%) increase in sales for stores open in excess of
one year ("Comparable Stores") and a $87,134 (3.3%) contribution by stores
open less than one year ("New Stores"). Management expects that the on-going
operations of Comparable Stores will provide sales increases in the range of
4% to 8%. Continued contributions from New Stores will be dependent on the
Company's ability to identify, obtain financing for, complete the acquisition
or establishment of, and successfully operate additional stores.
Other revenues consist primarily of net income derived from the melting
of excess precious metal. While income from melting excess precious metal is
an aspect of the Company's on-going operations, due to the quantity of excess
inventory obtained in a May 1996 acquisition, the amount of revenue derived
in 1997 is higher than is typically expected and should not be counted on in
future periods.
While gross profits from merchandise sales increased by $114,201 (8.0%),
the gross profit percentage (as a percentage of merchandise sales), declined
to 54.0% in 1998 from 54.4% in 1997. Comparable Stores gross profits
increased by $62,596 (4.4%) while their gross profit percentage declined to
53.9% and New Stores contributed gross profits of $51,605 at a gross profit
percentage of 59.3%.
Pawn Service Charges
The 1998 increase in revenue from pawn service charges over 1997 of
$174,736 (14.0%) is a result of a $152,114 (12.2%) increase in Comparable
Stores pawn service charges and a contribution of $22,622 (1.6%) from New
Stores.
Pawn loans outstanding increased by $323,782 (14.9%) during the 1998
period. Comparable Store pawn loans outstanding grew by $224,954 (10.4%)
while the store obtained in the September acquisition added $58,314 ($15,767
at time of acquisition) and the store opened in November added $40,514. The
average annual yield on pawn loans decreased to approximately 61.3% in 1998
compared to 68.4% and 76.5% in 1997 and 1996, respectively. This decrease is
primarily due to an increase in the average loan amount to $95.00 from $80.00
in 1997 and $60.00 in 1996. Under California law, the effective loan yield
decreases as the loan amount goes up. As it has been a goal of management,
through gathering a greater market share of the higher value pawn loans in
its different marketplaces, to increase the Company's aggregate pawn loan
outstanding balance and thus its gross pawn service charges revenue, the
average annual yield decrease was expected. Management's intentions are to
continue this practice until such point in time as the gross pawn service
charges revenue increases no longer outweigh the increased investment in
higher valued pawn loans.
10
<PAGE>
Operating Expenses
Store operating expenses, as a percent of total revenues, were
approximately 40.1% in 1998 compared to 38.1% in 1997 and 41.8% in 1996.
Comparable Stores operating expense were 38.6%, 36.8% and 39.2% in 1998, 1997
and 1996, respectively. New Stores operating expenses were 98.5%, 63.3% and
81.2% during the same periods.
The fluctuation in the overall operating expense percentage is a result
of the Company's practice of adding additional managerial personnel in
anticipation of new store openings or acquisitions. Employees are placed into
existing stores and trained on the Company's computer system, its operating
policies and procedures, how to evaluate pawn collateral and on general
industry information. Until it gains greater mass, management expects that
similar small changes in the Company's overall operating expense percentage
will continue as the Company adds new employees in anticipation of adding
locations. As the Company continues to improve the operations of stores it
has acquired and increase operations of newly established stores as they
mature, it is expected that store operating expenses as a percent of total
revenues will decline, for those stores.
Corporate administrative expenses, as a percent of total revenues, was
approximately 15.6% in 1998 compared to 12.3% in 1997 and 15.4% in 1996.
Significant changes in the components of administrative expenses during 1998
compared to 1997 were increased payroll and transition costs associated with
the replacement of the Company's accounting manager with a corporate
controller, the addition of a district stores manager and human resource
administrator and costs incurred with the conceptual development of a
cohesive marketing program.
1997 vs. 1996
Sales and Gross Profit
Merchandise sales in 1997 increased by $703,178 (36.2%) over 1996 as a
result of a $437,214 (22.5%) increase in sales for stores open in excess of
one year ("Comparable Stores") and a $265,964 (10.1%) contribution by stores
open less than one year ("New Stores"). The Comparable Stores increase
includes an estimated $240,000 improvement in sales due to the acquisition
and consolidation into an existing location of the pawnshop acquired during
the year. Additional improvement in sales from Comparable Stores came from
inventory turnover programs and increased inventory flow from the acquired
store. Continued contributions from New Stores will be dependent on the
Company's ability to identify, obtain financing for, complete the acquisition
or establishment of, and successfully operate additional stores.
Other revenues consist primarily of net income derived from the melting
of excess precious metal. While income from melting excess precious metal is
an aspect of the Company's on-going operations, the amount of revenue derived
in 1997 is higher than is typically expected due to the quantity of excess
inventory obtained in a May 1996 acquisition.
While gross profits from merchandise sales increased by $367,449 (34.3%),
gross profit percentage (as a percentage of merchandise sales), declined to
54.4% in 1997 from 55.1% in 1996. Comparable Stores gross profits increased
by $206,016 (19.2%) while their gross profit percentage declined to 53.7% and
New Stores contributed gross profits of $161,433 at a gross profit percentage
of 60.7%.
11
<PAGE>Pawn Service Charges
The 1997 increase in revenue from pawn service charges over 1996 of
$425,264 (51.5%) is a result of a $352,573 (42.7%) increase in Comparable
Stores pawn service charges and a contribution of $72,691 (5.8%) from New
Stores.
Pawn loans outstanding increased by $934,693 (75.0%) during the 1997
period. Comparable Store pawn loans outstanding grew by $560,994 (45.1%)
while the loans obtained in the May acquisition added $373,699. The average
annual yield on pawn loans decreased to approximately 68.4% in 1997 compared
to 76.5% and 78.1% in 1996 and 1995, respectively. This decrease is primarily
due to an increase in the average loan amount to $80.00 from $60.00 in 1996
and $55.00 in 1995.
Operating Expenses
Store operating expenses, as a percent of total revenues, decreased to
approximately 38.1% in 1997 from 41.8% in 1996 and 39.9% in 1995. Comparable
Stores operating expense were 36.8%, 39.2% and 38.1% in 1997, 1996 and 1995,
respectively. New Stores operating expenses were 63.3%, 81.2% and 45.6%
during the same periods.
The overall reduction in the Comparable Stores operating expense
percentage is a result of continued improvements in store operating
productivity. The high store operating expense percentage for New Stores in
1997 and 1996 is primarily due to the impact of the first year of operations
for two newly established stores opened in the third quarter of 1996. As the
Company continues to improve the operations of stores it has acquired and
increase operations of newly established stores as they mature, it is
expected that store operating expenses as a percent of total revenues will
decline, for those stores.
Corporate administrative expenses, as a percent of total revenues,
decreased to approximately 12.3% in 1997 from 15.4% in 1996 and 21.9% in
1995. While, as more stores are acquired or established, the Company will
need to increase its overall administrative expenditures, management's goal
is to continue to reduce the percentage of administrative expense in
relationship to the Company's total revenues. No significant changes occurred
in the components of administrative expenses during 1997 compared to 1996.
12
<PAGE>
Item 7. Financial Statements
The following financial statements of the Company are included as part
of this Form 10-KSB:
Page
Report of Independent Accountants ................................. F-1
Financial Statements:
Balance Sheets ................................................ F-2
Statements of Operations ...................................... F-3
Statements of Stockholders' Equity ............................ F-4
Statements of Cash Flows ...................................... F-5
Notes to Financial Statements ..................................... F-6
Item 8. Changes In And Disagreements With Accountants On Accounting and
Financial Disclosure
There have been no changes in or disagreements with accountants on
accounting and financial disclosure during the Company's two most recent
fiscal years.
13
<PAGE>
PART III
Item 9. Directors, Executive Officers, Promoters And Control Persons;
Compliance With Section 16(a) of The Exchange Act
Information with respect to this Item is incorporated by reference to the
Company's definitive proxy statement, to be filed on or before June 26, 1998.
Item 10. Executive Compensation
Information with respect to this Item is incorporated by reference to the
Company's definitive proxy statement, to be filed on or before June 26, 1998.
Item 11. Security Ownership Of Certain Beneficial Owners And Management
Information with respect to this Item is incorporated by reference to the
Company's definitive proxy statement, to be filed on or before June 26, 1998.
Item 12. Certain Relationships And Related Transactions
Information with respect to this Item is incorporated by reference to the
Company's definitive proxy statement, to be filed on or before June 26, 1998.
Item 13. Exhibits and Reports On Form 8-K
(a) Exhibits
3. Articles of Incorporation and Bylaws
(a) Articles of Incorporation are incorporated by reference to the
Exhibits to the Registrant's Registration Statement on
Form S-18, Registration No. 33-27926-D.
(b) Amendments to the Articles of Incorporation are incorporated by
reference to the Exhibits to the Registrant's Report on
Form 8-K dated June 17, 1992 (on file at the Commissions'
Washington, D.C. office, file # 0-17879).
(c) Articles of Merger are incorporated by reference to Exhibits to
the Registrant's Report on Form 8-K dated June 17, 1992 (on
file at the Commissions' Washington, D.C. office,
file # 0-17879).
(d) Bylaws are incorporated by reference to the Exhibits to the
Registrant's, Registration Statement on Form S-18, Registration
No. 33-27926-D.
14
<PAGE>
10. Material Contracts
(a) Lease (as amended) dated March 31, 1967, between the Registrant
and the Hearst Corporation is incorporated by reference to the
Registrant's Form 10-KSB for the fiscal year ended February 28,
1993 (on file at the Commissions' Washington, D.C. office, file
# 0-17879).
(b) Lease dated October 15, 1991, between the registrant and Ronald
J. Verber and the Iscoff Family Trust (both affiliates of the
Company) is incorporated by reference to the Registrant's Form
10-KSB for the fiscal year ended February 28, 1993 (on file at
the Commissions' Washington, D.C. office, file # 0-17879).
(c) Employment Agreement dated June 17, 1992, between the
Registrant and Ronald J. Verber, a Director and Officer of the
Registrant is incorporated by reference to the Registrant's
Form 10-KSB for the fiscal year ended February 28, 1993 (on
file at the Commissions' Washington, D.C. office,
file # 0-17879).
(d) Form of Non-Qualified Stock Option Agreement with Messes.
Bartlett, Gans and Strobin, Directors of the Registrant is
incorporated by reference to the Registrant's Form 10-KSB for
the fiscal year ended February 28, 1993 (on file at the
Commissions' Washington, D.C. office, file # 0-17879).
(e) Asset Purchase Agreement dated June 30, 1993, between the
Registrant and Paula Elaine Newhouse, d.b.a. San Francisco Loan
Association is incorporated by reference to the Exhibits to the
Registrant's Form 10-QSB for the quarterly period ended May 31,
1993.
(f) Lease (including assignment, lessor's consent and extension
option) for premises located at 1013 Mission Street, San
Francisco, California, originally dated March 18, 1976 is
incorporated by reference to the Exhibits to the Registrant's
Form 10-QSB for the quarterly period ended May 31, 1993.
(g) Asset Purchase Agreement dated September 30, 1993 between the
Registrant and Reliable Mercantile & Loan Company, by and
through its owner, Bernard Blumenthal is incorporated by
reference to the Exhibits to the Registrant's Form 10-QSB for
the quarterly period ended August 31, 1993.
(h) Commercial lease for the premises located at 35 6th Street, San
Francisco, California, dated September 30, 1993 is incorporated
by reference to the Exhibits to the Registrant's Form 10-QSB
for the quarterly period ended August 31, 1993.
(i) Business Loan Agreement and Promissory Note dated September 17,
1993, between the Registrant and Commercial Bank of San
Francisco is incorporated by reference to the Exhibits to the
Registrant's Form 10-KSB for the fiscal year ended February 28,
1994.
(j) Business Loan Agreement and Promissory Note dated February 3,
1994, between the Registrant and Wells Fargo Bank, NA
incorporated by reference to the Exhibits to the Registrant's
Form 10-KSB for the fiscal year ended February 28, 1994.
15
<PAGE>
10. Material Contracts (continued)
(k) Business Loan Agreement and Promissory Note(s) dated June 27,
1994, between the Registrant and Wells Fargo Bank, NA is
incorporated by reference to the Exhibits to the Registrant's
Form 10-QSB for the quarterly period ended May 31, 1994.
(l) Asset Purchase Agreement dated June 30, 1994, between the
Registrant and American Jewelry, Loan & Sports, Inc. is
incorporated by reference to the Exhibits to the Registrant's
Form 10-QSB for the quarterly period ended May 31, 1994.
(m) Commercial lease for the premises located at 402 E Street,
Marysville, California, dated June 30, 1994 is incorporated by
reference to the Exhibits to the Registrant's Form 10-QSB for
the quarterly period ended May 31, 1994.
(n) Loan Agreement and Promissory Note(s) dated December 28, 1994
between the Registrant and Commercial Bank of San Francisco is
incorporated by reference to the Exhibits to the Registrant's
Form 10-QSB for the quarterly period ended November 30, 1994.
(o) Loan Agreement and Promissory Note(s) dated May 1, 1996 between
the Registrant and Commercial Bank of San Francisco is
incorporated by reference to the Exhibits to the Registrant's
Form 10-KSB for the fiscal year ended February 29, 1996.
(p) Asset Purchase Agreement dated May 1, 1996, between the
Registrant and Phillip R. Director, Personal Representative of
the Estate of George Elkins is incorporated by reference to the
Exhibits to the Registrant's Form 10-KSB for the fiscal year
ended February 29, 1996.
(q) Business Loan Agreement dated September 9, 1996 between the
Registrant and Bank of America N.A. is incorporated by
reference to the Exhibits to the Registrant's Form 10-KSB for
the fiscal year ended February 28, 1997.
(b) Reports on Form 8-K
No reports on Form 8-K were filed by the Company during the last quarter
of the period covered by this report.
16
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) 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.
BEST COLLATERAL, INC. May 28, 1998
By /s/ Ronald J. Verber By /s/ Robert E. Verhoeff
--------------------- -----------------------
Ronald J. Verber Robert E. Verhoeff
President and Chief Executive Officer Vice President and
Chief Financial Officer
In accordance with the Securities Exchange Act of 1934, this report has
been signed below by the following persons on behalf of the registrant and in
the capacities and on the dates indicated.
Signature Title Date
/s/ Ronald J. Verber May 28, 1998
- -----------------------
Ronald J. Verber President and Chairman
of the Board of Directors
/s/ Robert E. Verhoeff May 28, 1998
- -----------------------
Robert E. Verhoeff Vice President and
Chief Financial Officer
/s/ Michael K. White May 28, 1998
- -----------------------
Michael K. White Controller
/s/ Roean Iscoff May 28, 1998
- -----------------------
Roean Iscoff Vice President,
Secretary and Director
/s/ Flora B. Verber May 28, 1998
- -----------------------
Flora B. Verber Vice President
and Director
/s/ David B. Verber May 28, 1998
- -----------------------
David B. Verber Vice President
and Director
/s/ John P. Carver May 28, 1998
- -----------------------
John P. Carver Director
/s/ Martin S. Gans May 28, 1998
- -----------------------
Martin S. Gans Director
/s/ Edward A. Strobin May 28, 1998
- -----------------------
Edward A. Strobin Director
17
<PAGE>
BEST COLLATERAL, INC.
REPORT ON AUDITS OF FINANCIAL STATEMENTS
for the years ended February 28, 1998 and 1997
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors
Best Collateral, Inc.:
We have audited the accompanying balance sheets of Best Collateral, Inc. as
of February 28, 1998 and 1997, and the related statements of operations,
stockholders' equity, and cash flows for the years then ended. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Best Collateral, Inc. as of
February 28, 1998 and 1997, and the results of its operations and its cash
flows for the years then ended in conformity with generally accepted
accounting principles.
San Francisco, California
April 6, 1998
F-1
<PAGE>
BEST COLLATERAL, INC.
BALANCE SHEETS
February 28, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
ASSETS
<S> <C> <C>
Current assets:
Cash $ 139,304 $ 179,546
Pawn service charges receivable 327,185 307,839
Pawn loans receivable 2,504,608 2,180,826
Layaway sales receivable, net of
allowances of $13,249 in 1998 and
$46,000 in 1997, respectively 250,479 274,153
Inventory, net of allowance of $39,796 in
1998 and $15,000 in 1997, respectively 1,053,101 931,452
Income taxes receivable 74,538 -
Prepaid expenses and other 39,049 13,801
---------- ----------
Total current assets 4,388264 3,887,617
Property and equipment, net 614,510 424,897
Deferred tax assets 10,318 39,458
Other assets 12,528 18,338
---------- ----------
Total asset $ 5,025,620 $ 4,370,310
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Bank loans $ 2,874,716 $ 2,177,216
Accounts payable and accrued expenses 209,465 206,243
Income tax payable - 109,097
Accrued interest1 167,800 157,900
Loans from stockholders 349,434 349,434
Deferred tax liability 65,861 107,645
---------- ----------
Total current liabilities 3,667,276 3,107,535
Convertible notes payable to employee
and director 327,500 327,500
Convertible notes payable to others 75,000 100,000
---------- ----------
Total liabilities 4,069,776 3,535,035
---------- ----------
Excess of fair value of net assets
acquired over cost, net - 32,194
Stockholders' equity:
Preferred stock, no par value, 1,000,000
shares authorized; none issued - -
Common stock, $.10 par value, 50,000,000
shares authorized; 4,024,990 and 3,999,990
shares issued and outstanding as of
February 28, 1998 and 1997, respectively 402,499 399,999
Additional paid-in capital (235,180) (257,680)
Retained earnings 788,525 660,762
---------- ----------
Total stockholders' equity 955,844 803,081
---------- ----------
Total liabilities & stockholders equity $ 5,025,620 $ 4,370,310
========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements
F-2
<PAGE>
BEST COLLATERAL, INC.
STATEMENTS OF OPERATIONS
for the years ended February 28, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
<S> <C> <C>
Revenues:
Merchandise sales $ 2,880,096 $ 2,649,203
Pawn service charges 1,426,704 1,251,968
Gold melt income, net 3,961 98,631
---------- ----------
Total revenues 4,310,761 3,999,802
Cost of merchandise sales (1,324,663) (1,207,971)
---------- ----------
Revenues net of cost of sales 2,986,098 2,791,831
Selling, general and administrative expenses:
Store operating expenses (1,727,164) (1,524,315)
Administrative expenses (670,320) (489,635)
---------- ----------
Operating income 588,614 777,881
Other income (expense):
Rental income 88,620 87,176
Interest expense and financing costs (321,132) (362,599)
Depreciation and amortization (158,211) (134,150)
Amortization of excess of fair value of net
Assets acquired over cost 32,194 96,581
Other expenses (60,369) (75,062)
---------- ----------
(418,898) (388,054)
---------- ----------
Income before income taxes 169,716 389,827
Income tax provision (41,953) (116,895)
---------- ----------
Net income $ 127,763 $ 272,932
========== ==========
Income per share of common stock, basic $ 0.03 $ 0.07
========== ==========
Income per share of common stock, diluted $ 0.04 $ 0.07
========== ==========
Weighted average shares outstanding used in
the basic income per share calculation 4,012,490 3,999,990
========== ==========
Weighted average shares outstanding used in
the diluted income per share calculation 4,012,490 3,999,990
========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements
F-3
<PAGE>
BEST COLLATERAL, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
for the years ended February 28, 1998 and 1997
<TABLE>
Common Stock
---------------------
Additional
Number Paid-in Retained
of Shares Par Value Capital Earnings Total
--------- -------- --------- -------- --------
<S> <C> <C> <C> <C> <C>
Balance at February 28,
1996 3,999,990 $399,999 $(321,180) $387,830 $466,649
Issuance of warrants to
purchase common stock
(Note 7) - - 63,500 - 63,500
Net Income for the year
ended February 28, 1997 - - - 272,932 272,932
--------- -------- --------- -------- --------
Balance at February 28,
1997 3,999,990 399,999 (257,680) 660,762 803,081
--------- -------- --------- -------- --------
Stock issued for
convertible debt
(Note 6) 25,000 2,500 22,500 - 25,000
Net income for the year
ended February 28, 1998 - - - 127,763 127,763
--------- -------- --------- -------- --------
Balance at February 28,
1998 4,024,990 $402,499 $(235,180) $788,525 $955,844
========= ======== ========= ======== ========
</TABLE>
The accompanying notes are an integral part of these financial statements
F-4
<PAGE>
BEST COLLATERAL, INC.
STATEMENTS OF CASH FLOWS
for the years ended February 28, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
<S> <C> <C>
Cash flows from operating activities:
Net income $ 127,763 $ 272,932
Adjustments to reconcile net income to
net cash (used in)provided by operating
activities:
Depreciation and amortization 158,211 134,150
Amortization of excess of fair value of
net assets acquired over cost (32,194) (96,581)
Financing costs relating to issuance of
warrants - 63,500
Change in assets and liabilities:
Pawn service charges receivable (19,042) (49,473)
Layaway sales receivable, net 23,674 (118,912)
Income taxes payable and receivable, net (184,406) 96,653
Inventory (121,649) 68,426
Prepaid expenses and other assets (19,438) 40,306
Accounts payable and accrued expenses 13,122 51,931
Deferred taxes (11,873) (1,760)
----------- ----------
Total adjustments (193,595) 188,240
Net cash (used in) provided by operating ----------- ----------
activities (65,832) 461,172
Cash flows used in investing activities:
Loans made, including loans renewed (8,024,493) (6,445,292)
Loans repaid, including loans renewed 6,762,502 5,155,064
Loans forfeited and transferred to inventory 953,976 729,234
Purchase of property and equipment (328,030) (83,267)
Acquisition of pawn shop assets (35,865) (625,000)
----------- ----------
Net cash used in investing activities (671,910) (1,269,261)
Cash flows from financing activities:
Repayment of loans to directors - (34,677)
Borrowings under bank lines of credit 1,127,000 2,323,338
Repayments of bank lines of credit (429,500) (943,027)
Repayments of bank term loans - (410,416)
----------- ----------
Net cash provided by financing activities 697,500 935,218
----------- ----------
Net (decrease) increase in cash (40,242) 127,129
Cash at beginning of year 179,546 52,417
----------- ----------
Cash at end of year $ 139,304 $ 179,546
=========== ==========
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest $ 278,151 $ 323,570
=========== ==========
Income taxes $ 224,500 $ 4,200
=========== ==========
Conversion of notes payable to equity $ 25,000 -
=========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements
F-5
<PAGE>
1. Organization:
Best Collateral, Inc. (the Company) is engaged in acquiring,
establishing and operating pawnshops which lend money on the security of
pledged tangible personal property. The Company currently operates nine
stores in Northern California.
2. Summary of Significant Accounting Policies:
Use of Estimates and Assumptions:
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting periods. Actual results could differ from those estimates.
Loans and Income Recognition:
Pawn loans (loans) are generally made on the pledge of tangible
personal property for four months plus a ten-day grace period. Pawn service
charges on loans, in excess of loan origination costs, are recognized as
income on a constant yield basis over the expected loan term.
If the loan is not repaid, the principal amount loaned plus accrued
pawn service charges become the cost of the forfeited collateral, which is
transferred into inventory.
Management limits its credit risk by lending against pledged property
in amounts less than the estimated resale value of the property.
Layaways:
Layaway sales are recorded as sales upon receipt of the initial
payment. The sales amount less the initial payment is recorded as a
receivable and classified as a current asset. If the receivable is not paid
as agreed, the layaway defaults and the layaway item reverts back to
inventory at original cost. Amounts already paid on the defaulted layaways
are considered income and are not returned to the buyer. The Company
provides an allowance for layaway sales receivable based on management's
estimate of the amount by which uncollectible receivables would exceed the
cost of the items reverting back to inventory.
2. Summary of Significant Accounting Policies, continued:
Inventory:
Inventory represents merchandise acquired from forfeited loans,
merchandise purchased directly from the public and new merchandise purchased
from vendors. Inventory is stated at the lower of cost or market. The
Company provides an allowance for obsolescence based on management's
evaluation of the merchandise.
Property and Equipment:
Property and equipment are recorded at cost. Depreciation expense is
generally provided using the straight-line method over the estimated lives of
the assets or the related lease terms, whichever is less. Estimated lives
are as follows:
F-6
<PAGE>
Property and Equipment (continued):
Equipment 5 years
Furniture and fixtures 5 years
Leasehold improvements 4-10 years
The cost of assets sold or otherwise disposed of and the accumulated
depreciation thereon are eliminated from the accounts at the time of
disposition, and any resulting gain or loss is credited or charged to income.
Noncompete Agreements:
Noncompete agreements are recorded at the price agreed upon by the
Company and sellers, and are amortized on the straight-line basis over the
term of the agreement.
Net Income Per Common Share:
In February 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards (SFAS) No. 128, Earnings Per
Share, which establishes standards for computing and presenting earnings per
share. Under the new standards, basic earnings per share is computed based
on the weighted average number of common shares outstanding and excludes any
potential dilution; diluted earnings per share reflects potential dilution
from the exercise or conversion of securities into common stock. SFAS No.
128 is effective for financial statements issued for periods ending after
December 15, 1997 and earlier adoption is not permitted. The financial
statements presented have been prepared in accordance with SFAS No. 128 and
earnings per share data for all prior periods presented have been restated to
conform with current year presentation.
For the years ended February 28, 1998 and 1997, the diluted net income
per share calculation excludes effects of outstanding stock options and
warrants as such inclusion would be antidilutive.
The following table provides reconciliation of the numerators and
denominators used in calculating basic and diluted earnings per share for the
prior two years.
<TABLE>
<S> <C> <C>
1998 1997
Basic:
Earnings:
Net income applicable to basic earning
per share calculation $ 127,763 $ 272,932
Weighted average number of shares outstanding:
Common shares 4,012,490 3,999,990
---------- ----------
Net income per share - basic $ 0.03 $ 0.07
========== ==========
</TABLE>
F-7
<PAGE>
2. Summary of Significant Accounting Policies, continued:
Net Income Per Common Share, continued:
<TABLE>
<S> <C> <C>
Diluted:
Earnings:
Net income applicable to basic earning
per share calculation $ 127,763 $ 272,932
Add: Interest relating to 10% convertible
subordinated notes 24,188 23,450
Interest relating to 8% convertible
subordinated notes 5,550 5,180
---------- ----------
Net income applicable to diluted earning
per share calculations $ 157,501 $ 301,502
========== ==========
Weighted average number of shares outstanding:
Common shares 4,012,490 3,999,990
Additional shares outstanding assuming
conversion of 10% convertible subordinated
notes 310,000 335,000
Additional shares outstanding assuming
conversion of 8% convertible subordinated
notes 92,500 92,500
---------- ----------
Weighted average number of shares outstanding,
as adjusted 4,414,990 4,427,490
---------- ----------
Net income per share - diluted $ 0.04 $ 0.07
========== ==========
</TABLE>
2. Summary of Significant Accounting Policies, continued:
Reclassifications:
Certain amounts in the 1997 financial statements have been
reclassified to correspond to the 1998 presentation. These reclassifications
did not affect previously reported net income or retained earnings.
Income Taxes:
The Company reports income taxes in accordance with Statement of
Financial Accounting Standards No. 109, which requires an asset and liability
approach in accounting for income taxes. Accordingly, deferred tax assets
and liabilities arise from the differences between the tax basis of an asset
or liability and its reported amount in the financial statements. Deferred
tax amounts are determined by using the tax rates expected to be in effect
when the taxes will actually be paid or refunds received, as provided under
currently enacted tax law. Valuation allowances are established when
necessary to reduce deferred tax assets to the amount expected to be
realized. Income tax expense or benefit is the tax payable or refundable,
respectively, for the period plus or minus the change during the period in
deferred tax assets and liabilities.
F-8
<PAGE>
Fair Value of Financial Instruments:
Carrying amounts of certain of the Company's financial instruments
including cash, pawn service charges receivable, pawn loans receivable,
layaway sales receivable, accounts payable, and other accrued liabilities
approximate fair value due to their short maturities.
Pawn loans are outstanding for a relatively short period, generally
120 days or less. The rate of pawn service charge bears no relationship to
interest rate market movements. Generally, pawn loans may not be resold to
anyone but a licensed pawnbroker. For these reasons, management believes
that the fair value of pawn loans approximates their carrying value.
Based on borrowing rates currently available to the Company for notes
and loans with similar terms, the carrying value of its long-term convertible
notes and bank term loans approximates fair value.
2. Summary of Significant Accounting Policies, continued:
Other Recent Pronouncements:
In June 1997, the FASB issued SFAS No. 130, Reporting Comprehensive
Income. This statement establishes standards for reporting and presentation
of comprehensive income and its components, specifically the change in equity
during a period from transactions and other events and circumstances from
non-owner sources, in a full set of general purpose financial statements.
This statement is effective for periods beginning after December 15, 1997.
Application of this standard is not expected to have a material effect on the
Company's financial position or results of operations.
In June 1997, the FASB issued SFAS No. 131, Disclosures about Segments
of an Enterprise and Related Information. SFAS No. 131 establishes standards
for the way that a public enterprise reports information about operating
segments in annual financial statements and requires that those enterprises
report selected information about operating segments in interim financial
reports issued to shareholders. SFAS No. 131 is effective for fiscal years
beginning after December 15, 1997 and requires restatement of earlier periods
presented. Application of this standard is not expected to have a material
effect on the Company's financial position or results of operations.
In February 1998, the FASB issued SFAS No. 132, Employers' Disclosure
about Pensions and Other Postretirement Benefits. SFAS No. 132 standardizes
the disclosure requirements for pensions and other postretirement benefits to
the extent practicable. SFAS No. 132 is effective for fiscal years beginning
after December 15, 1997. Application of this standard is not expected to
have a material effect on the Company's financial position or results of
operations.
F-9
<PAGE>
3. Property and Equipment:
Major classifications of property and equipment at February 28, 1998
and 1997 were as follows:
1998 1997
Equipment $ 272,649 $184,056
Furniture and fixtures 466,191 264,824
Leasehold improvements 488,026 433,573
--------- -------
1,226,866 882,453
Accumulated depreciation (612,356) (457,556)
--------- -------
$ 614,510 $424,897
========= =======
Depreciation expense amounted to $154,800 and $130,751 for 1998 and
1997, respectively.
4. Bank Loans:
1998 1997
Prime plus 1.25%, $4,000,000 revolving
line of credit available through maturity
at August 1, 1998, interest due monthly,
collteralized by all inventory and receivables
of the Company, guaranteed by the Company's two
principle stockholders. $2,874,716 $2,177,216
========== ==========
The bank loan contains covenants, including the requirements of a
minimum current ratio, a maximum debt to worth ratio and profitable
operations each quarter. At February 28, 1998 and February 28, 1997, the
prime rate was 8.50% and 8.25% per annum, respectively.
5. Loans from Related Parties:
Certain stockholders of the Company have made uncollateralized loans
to the Company in the amount of $349,434 at February 28, 1998 and 1997. The
loans are subordinate to the facilities covered under the bank loan
agreements, are due on demand and bear annual interest at the prime rate
(8.50% at February 28, 1998).
Total interest expense related to loans from related parties for the
years 1998 and 1997 was $29,632 and $28,828, respectively.
6. Convertible Notes:
At February 28, 1998, the Company had outstanding a $92,500
convertible note payable to an employee bearing annual interest at 8%. This
note was issued in connection with the acquisition of a pawnshop in fiscal
1994, prior to the seller becoming an employee of the Company. During the
year, this note was renewed and is now due on June 30, 1999. This note may
be converted into the Company's common stock for $1.00 per share at the
employee's option.
At February 28, 1998, the Company also had outstanding $235,000 of
noncurrent convertible notes payable to an employee and directors and $75,000
of noncurrent convertible notes payable to others, bearing annual interest at
10%. Payments of interest only are made in October and April. Principal of
$160,000 on these notes is payable on April 30, 2000 and $150,000 on
April 30, 2002. These notes may be converted into the Company's common stock
F-10
<PAGE>
6. Convertible Notes (continued):
for $1.00 per share at the payee's option. At the election of the Company,
$160,000 of these notes may be redeemed after April 30, 1997, and $150,000 of
these notes after April 30, 1999, at the redemption price of 105% of the
principal amount plus accrued and unpaid interest.
In August 1997, notes payable of $25,000 was converted to 25,000
shares of common stock at a par value of $.10.
Total interest expense related to convertible notes payable to an
employee and directors for 1998 and 1997 approximated $38,400 and $40,900,
respectively.
The Company's debt is scheduled to mature as follows:
<TABLE>
<S> <C> <C> <C> <C> <C>
Loans from
Related Convertible
Fiscal Bank loans parties notes Total
1999 $2,874,716 $349,434 - $3,224,150
2000 - - $ 92,500 95,500
2001 - - 160,000 160,000
2002 - - - -
2003 - - 150,000 150,000
---------- -------- -------- ----------
$2,874,716 $349,434 $402,500 $3,626,650
========== ======== ======== ==========
</TABLE>
7. Stock Options and Warrants:
In March 1993, in connection with entering into consulting
arrangements, the Company granted options to purchase shares of the Company's
common stock to three members of the Board of Directors. Under the
Nonqualified Stock Option Agreements, each option provides the holder the
right to purchase 200,000 shares of common stock at an option price of $1.00
per share. The options are exercisable in equal increments after each of the
first three years in which these board members serve as consultants to the
Company. In August 1996, the Company granted an option to purchase 200,000
shares of common stock at an option price of $1.00 per share to a new
Director under provisions consistent with the 1993 Option Agreements. At
February 28, 1998, options for 666,000 of these shares are vested and
exercisable. The options expire ten years after their grant date.
In June 1993, the Company granted options to purchase shares of the
Company's common stock to a senior member of management. The options provide
the right to purchase 60,000 shares of common stock at an option price of
$1.00 per share after one year of service, and another 60,000 shares after
two years of service. At February 28, 1998, options for these 120,000
shares are vested and exercisable. The options expire ten years after their
grant date.
In January 1997, the Board of Directors modified the options which
provide the right to purchase 720,000 shares of common stock by reducing the
exercise price from $1.00 per share to $0.40 per share. No compensation cost
was recognized in the Company's financial statements as the modified exercise
price approximated the current market value of the stock as of the
remeasurement date. Additional compensation cost in relation to this
modification has been included in the 1997 pro forma amounts below.
F-11
<PAGE>
7. Stock Options and Warrants, continued:
In April 1996, in connection with the negotiation of the terms of
certain credit accommodations to be extended in favor of the Company, the
Company granted warrants to a commercial financial institution which entitles
the financial institution to purchase 125,000 shares at the exercise price of
the lower of $1.00 or the lowest price granted to any other investor ($0.40
per share as at February 28, 1998). The warrants were immediately vested and
exercisable upon grant, and expire ten years after their grant date.
Financing costs of $63,500 were recognized in 1997 in relation to this grant.
Information regarding the Company's outstanding stock options and
warrants at February 28, 1998 is presented below:
<TABLE>
1998 1997
------------------- -----------------
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
--------- ------- --------- -------
<S> <C> <C> <C> <C>
Outstanding at beginning of year 1,045,000 $0.52 720,000 $0.57
Granted - - 325,000 $0.40
Exercised - - - -
Forfeited - - - -
Expired - - - -
--------- ----- --------- -----
Outstanding at end of year 1,045,000 $0.52 1,045,000 $0.57
========= ===== ========= =====
Options exercisable at year end 911,000 845,000
</TABLE>
The weighted average exercise price in the above table for 1998 and
1997 has been adjusted for modifications of the stock options which occurred
in 1997.
The following table summarizes information about stock options and
warrants outstanding at February 28, 1998:
<TABLE>
Options & warrants outstanding Options & warrants exercisable
- -------------------------------------------- ------------------------------
Weighted Weighted
Range of Remaining Average Number Average
Exercise Number Contractual Exercise Exercisable Exercise
Prices Outstanding Life Price Price
- -------- ----------- ----------- --------- ------------ ----------
<S> <C> <C> <C> <C> <C>
$0.40 520,000 5 years $0.40 520,000 $0.40
$0.40 200,000 9 years $0.40 66,000 $0.40
$0.40 125,000 9 years $0.40 125,000 $0.40
$1.00 200,000 5 years $1.00 200,000 $1.00
--------- -------
1,045,000 911,000
========= =======
</TABLE>
The Company adopted the disclosure provisions of SFAS 123, Accounting
for Stock Based Compensation, in 1997 and has applied APB Opinion 25 and
related Interpretations in accounting for its nonqualified stock options.
Accordingly, no compensation cost has been recognized for its stock options.
Had compensation cost for the Company's stock-based compensation been
F-12
<PAGE>
7. Stock Options and Warrants, continued:
determined based on the fair value at the grant dates as calculated in
accordance with SFAS 123, the Company's net income and basic earnings per
share for the years ended February 28, 1998 and February 28, 1997 would have
been reduced to the pro forma amounts indicated below:
7. Stock Options and Warrants, continued:
<TABLE>
February 28, 1998 February 28, 1997
------------------ ------------------
Earning Earnings
Net per Net Per
Income share Income share
-------- ----- -------- ------
<S> <C> <C> <C> <C>
As reported $127,763 $0.03 $272,932 $0.07
Pro forma $107,587 $0.03 $220,605 $0.06
</TABLE>
The Black-Scholes option pricing model is a mathematical model by
which a fair value of equity instruments at a specified point in time is
determined, taking into account the time value of money, the expected
volatility of the underlying stock price and other variables.
The fair value of each of the Company's stock options and warrants is
estimated on the grant date using a modified Black-Scholes option pricing
model with the following weighted average assumptions: an expected life of 3
years, expected volatility of 40%, a dividend yield of 0%, and a risk free
interest rate of 6.14%. Using this model, the weighted average fair value of
options and warrants granted or repriced during 1997 was $0.26 per share.
Other option valuation models and the use of other assumptions could produce
differing option values. This fair value is not necessarily representative
of the underlying stock value.
The effect on the reported net income and earnings per share amounts
in the year ended February 28, 1998, is not considered representative of the
effects of the statement on reported net income and earnings per share in
future years.
8. Income Taxes:
The provision (benefit) for income taxes for the years ended February
28, 1998 and 1997 is comprised of the following:
<TABLE>
<S> <C> <C>
1998 1997
Current:
Federal $ 38,948 $ 93,025
State 14,878 25,630
-------- --------
53,826 118,655
-------- --------
Deferred:
Federal (9,307) (1,150)
State (2,566) (610)
(11,873) (1,760)
-------- --------
Total provision $ 41,953 $116,895
======== ========
</TABLE?
F-13
<PAGE>
8. Income Taxes, continued:
The primary components of temporary differences which give rise to
deferred tax assets (liabilities) at February 28, 1998 and 1997 are as
follows:
</TABLE>
<TABLE>
<S> <C> <C>
1998 1997
Current deferrred tax assets (liabilities):
Reserve - layaway sales receivable $ 5,676 $ 93,025
Reserve - inventory valuation 17,048 6,495
Accrued vacation 23,686 4,809
Financing costs related to warrants 27,203 -
Pawn service charges receivable (147,877) (133,294)
Other 8,403 4,431
-------- ---------
Net deferred tax liabilty, current $(65,861) $(107,645)
======== =========
Noncurrent deferred tax assets (liabilities):
Depreciation and amortization $ 6,150 $ 11,962
Deferred financing costs 4,168 27,496
Shareholder interest 59,109 53,691
-------- ---------
69,427 93,149
Valuation alowance (59,109) (53,691)
-------- ---------
Net deferred tax asset, noncurrent $ 10,318 $ 39,458
======== =========
</TABLE>
Management has determined that the Company will be able to realize the
tax benefit of the net deferred tax asset based on the future reversal of
taxable temporary differences, except for shareholder interest.
The change in valuation allowance for the years ended February 28,
1998 and 1997 was $5,418 and $5,774, respectively.
The Company's effective tax rate differs from the statutory federal
rate of 34% as follows:
<TABLE>
<S> <C> <C>
1998 1997
Tax at statutory federal rate $ 56,324 $132,541
State taxes 7,957 15,183
Permanent differences (9,957) (32,454)
Other (12,731) 1,625
-------- --------
$ 41,953 $116,895
</TABLE>
9. Commitments:
The Company leases its facilities and automobiles under operating
leases with terms expiring in fiscal years 1999 through 2007. The two
principal stockholders of the Company are the lessor for one of the
facilities. The Company subleases to independent parties a portion of its
leased properties under noncancelable subleases. Five of the facilities and
one of the subleases have five-year renewal options.
At February 28, 1998, future minimum payments and sublease income
under these lease agreements are as follows:
F-14
<PAGE>
9. Commitments (continued):
Total rent expense and sublease income for the years ended February
28, 1998 and 1997 are summarized
<TABLE>
<S> <C> <C>
1998 1997
Rent expense
Related party $ 72,000 $ 72,000
Third parties 238,871 210,445
-------- --------
310,871 282,445
Sublease income (88,620) (87,176)
-------- --------
Net rent expense 222,251 195,269
======== ========
</TABLE>
10. Profit Sharing Plan:
The Company established a Defined Contribution Plan (the Plan)
effective for the year ended on February 28, 1997. The Plan is available to
all eligible employees, except those employees covered by a collective
bargaining agreement who have elected to be excluded from the Plan. Employees
are allowed to contribute up to 25% of their compensation to the Plan, not to
exceed $10,000. The employer matches 25% of contributions.
In addition, the Company offers profit sharing incentives to Plan
participants. The Plan provides for contributions to be made from the
Company's profit, at the discretion of the Board of Directors, not to exceed
15% of total covered compensation. Contribution expense related to the Plan
amounted to $50,091 and $68,394 for the years ended February 28, 1998 and
1997, respectively.
11. Acquitisions:
During the year ended February 28, 1998, the Company acquired
substantially all the assets of a pawnshop for $35,865.
On May 1, 1996, the Company acquired substantially all the assets of a
pawnshop for $625,000, funded through an increase in its primary line of
credit. The significant assets acquired include pawn loans receivable,
inventory and furniture and fixtures. This acquisition was recorded using
the purchase method.
11. Acquitisions, continued:
The fair value of the acquired assets exceeded the purchase price. A
portion of the excess of the fair value of net assets acquired over cost has
been applied to reduce the amounts assigned to acquired noncurrent assets.
The remaining deferred credit, amounting to $128,775, represents the
unallocated portion of the excess of fair value of net assets acquired over
cost and is being amortized on the straight-line method over twelve months.
At February 28, 1997, the unamortized balance amounted to $32,194.
Unaudited pro forma financial information, as if the transaction
occurred at the beginning of the fiscal years presented, is not available.
F-15
<PAGE>
12. Fourth Quarter Adjustment:
During the fourth quarter, the Company recorded an adjustment of
approximately $36,000 to reduce its income tax expense for the year in order
to apply an effective tax rate of 24.7% instead of the 37.9% used for the
nine months ended November 30, 1997. This adjustment is mainly due to the
effect of the graduated federal tax rate. Had the Company used a 24.7%
effective tax rate throughout the year, its reported net income would have
been $79,516 ($0.02 per share), $39,877 ($0.01 per share) and $35,740 ($0.01
per share) instead of $73,299 ($0.02 per share), $31,558 ($0.01 per share)
and $23,164 ($0.01 per share) for the first, second and third quarters of the
year, respectively.
F-16
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> FEB-28-1998
<PERIOD-START> MAR-01-1997
<PERIOD-END> FEF-28-1998
<CASH> 139,304
<SECURITIES> 0
<RECEIVABLES> 3,188,329
<ALLOWANCES> 31,249
<INVENTORY> 1,053,101
<CURRENT-ASSETS> 4,388,264
<PP&E> 1,226,866
<DEPRECIATION> 612,356
<TOTAL-ASSETS> 5,025,620
<CURRENT-LIABILITIES> 3,667,276
<BONDS> 0
0
0
<COMMON> 402,499
<OTHER-SE> 553,345
<TOTAL-LIABILITY-AND-EQUITY> 5,025,620
<SALES> 2,880,096
<TOTAL-REVENUES> 4,310,761
<CGS> 1,324,663
<TOTAL-COSTS> 2,397,484
<OTHER-EXPENSES> 97,766
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 321,132
<INCOME-PRETAX> 169,716
<INCOME-TAX> 41,953
<INCOME-CONTINUING> 127,763
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 127,763
<EPS-PRIMARY> .03
<EPS-DILUTED> .04
</TABLE>
