<PAGE>
Earl Scheib, Inc.
Management's Discussion and Analysis of Financial Condition
and Results of Operations
The following table sets forth the Company's operating results for the periods
indicated. Amounts are shown in thousands of dollars and as a percentage of
sales.
<TABLE>
<CAPTION>
Year ended April 30,
------------------------------------------------------------------------------
2000 1999 1998
<S> <C> <C> <C> <C> <C> <C>
---------------------------------------------------------------------------------------------------------------------------------
Net sales $56,374 100.0% $55,013 100.0% $50,839 100.0%
Cost of sales 42,671 75.7 40,539 73.7 36,882 72.6
---------------------------------------------------------------------------------------------------------------------------------
Gross profit 13,703 24.3 14,474 26.3 13,957 27.4
Selling, general and administrative expense 15,321 27.2 14,076 25.6 12,936 25.4
---------------------------------------------------------------------------------------------------------------------------------
Operating income (loss) (1,618) (2.9) 398 0.7 1,021 2.0
Other income (expense) (417) (0.7) (316) (0.6) 112 .2
---------------------------------------------------------------------------------------------------------------------------------
Income (loss) before income taxes (2,035) (3.6) 82 0.1 1,133 2.2
Provision for income taxes 44 0.1 26 -- 69 .1
---------------------------------------------------------------------------------------------------------------------------------
Net income (loss) $(2,079) (3.7)% $ 56 0.1% $ 1,064 2.1%
---------------------------------------------------------------------------------------------------------------------------------
</TABLE>
-----------------------------------------------------
FISCAL YEAR ENDED APRIL 30, 2000 ("FISCAL 2000") COMPARED TO FISCAL YEAR ENDED
APRIL 30, 1999 ("FISCAL 1999")
-----------------------------------------------------
Net sales for Fiscal 2000 increased by $1,361, or 2.5%, compared to Fiscal
1999. This increase consisted of additional car volume from the opening of eight
new shops during Fiscal 2000, partially offset by the decrease in same shop
(shops open one year or more) sales of $1,141, or 2.2%, the loss of sales from
twelve shops closed during Fiscal 2000 ($1,222), and a lower ticket average
during Fiscal 2000 compared to Fiscal 1999.
The gross profit margin decreased as a percentage of net sales to 24.3% in
Fiscal 2000 from 26.3% in Fiscal 1999. The decrease is primarily due to rising
material costs, increased salaries and wages (primarily as a result of
obligations under a collective bargaining agreement), higher rent requirements
and the impact of greater car volume with a lower ticket average.
Selling general and administrative expenses increased by $1,245 in
absolute dollars in Fiscal 2000 from Fiscal 1999, and also increased as a
percentage of net sales by 1.6%. The increase is primarily due to costs for
completed environmental remediation work performed in the state of Wisconsin
($134), a provision for the impairment of fixed assets in three shops ($65),
additional reserve requirements for workers compensation claims filed in prior
years ($427), higher advertising expenses ($310) and costs related to the
closing of twelve shops in Fiscal 2000 ($215).
Other income (expense) is primarily comprised of gains or losses from the
sales of real estate and net interest expense. The net gain in Fiscal 2000 was
$134 versus $11 in Fiscal 1999. Net interest expense was $449 in Fiscal 2000, as
compared to $327 in Fiscal 1999, and relates primarily to the accrual of
interest on the Internal Revenue Service's disallowance of a net operating loss
carryback (which has been appealed by the Company) and life insurance loans.
Also, during Fiscal 2000, the Company wrote off $102 of costs for software that
was not utilized.
No federal income tax benefit was recognized for the Fiscal 2000 loss
since the Company is in a net deferred tax asset position as of April 30, 2000,
and realization is not assured. The majority of the Company's Fiscal 1999
federal income tax provision was offset by net operating loss carryforwards from
past years. Due to income allocation and state income tax laws, only part of the
Company's income before taxes in Fiscal 2000 and 1999 was offset by the net
operating loss carryforwards for state income tax purposes. The Company provided
$44 and $26 in taxes in Fiscal 2000 and 1999, respectively, for taxes in those
states which were not offset by net operating loss carryforwards.
-----------------------------------------------------
FISCAL 1999 COMPARED TO FISCAL YEAR ENDED APRIL 30, 1998 ("FISCAL 1998").
-----------------------------------------------------
Total sales for Fiscal 1999 increased $4,174 or 8.2% from Fiscal 1998.
This increase resulted from a $1,560 or 3.1% same shop increase plus $2,614 in
sales from new shops, net of closed shops. Fleet sales, which are included
above, increased to $1,432 from $185 in Fiscal 1998 as this was the first full
year of fleet operations. Management believes that the same shop sales and car
volume increases resulted from new product offerings including the Company's
Euro-Paint-Registered Trademark-, improvements in shop operations, the impact of
the new sales force to corporate fleet accounts and improved quality of
services.
Cost of sales increased as a percentage of sales from 72.6% in Fiscal 1998
to 73.7% in Fiscal 1999. The 1.1% increase in cost of sales is largely due to
increased material cost of the new Euro-Paint-Registered Trademark- and
associated components.
Selling, general and administrative expense increased by $1,140 or 0.2% of
sales in Fiscal 1999 compared to Fiscal 1998. These increases resulted from
expansion of
2
<PAGE>
the new fleet outside sales force and installation of an accounts receivable
system to service credit sales, expansion of the real estate department,
increased insurance expenses and increased legal fees, partially offset by a
reduction in advertising expense.
Other income (expense) consists of gains from sales of excess real estate
and net interest expense. Net interest expense was $327 in Fiscal 1999, due
primarily to the accrual of interest relating to the potential disallowance of
the carry back of a net operating loss and interest on life insurance policy
loans, compared to interest income of $79 (primarily from investments in
short-term paper) in Fiscal 1998.
The majority of the Company's Fiscal 1999 and all of the Company's Fiscal
1998 federal income tax provisions were offset by net operating loss
carry-forwards from past years. Due to income allocation and state income tax
laws, only part of the Company's income before taxes in Fiscal 1999 and 1998 was
offset by the net operating loss carryforwards for state income tax purposes.
The Company provided $4 and $53 in taxes in Fiscal 1999 and 1998, respectively,
for taxes in those states which were not offset by net operating loss
carryforwards.
-----------------------------------------------------
Liquidity and Capital Resources
------------------------------------------------
The Company's cash requirements are based upon its seasonal working
capital needs and its capital requirements for new shops and capitalized
additions and improvements. The first and second quarters and occasionally the
fourth quarter usually have positive cash flow from operations, while the third
and occasionally the fourth quarters are net users of cash.
As of April 30, 2000, the Company had current assets of $6,169 and current
liabilities of $8,157, for a net working capital deficit of $1,988. During
Fiscal 2000, net cash provided by operations was $980 compared to $2,301 in
Fiscal 1999. In Fiscal 2000, the Company had capitalized expenditures of $2,027,
financed primarily through cash flow from operations. The Company expects that
future cash flow from operations will be enhanced by these capital additions.
The Company's long-term financial obligations consist of its deferred
management compensation plan and loans against various life insurance policies.
During the fiscal year ending April 30, 2001 ("Fiscal 2001"), the Company plans
to open up to four new shops (depending upon the availability of locations) and
three large (15,000 to 20,000 square feet) fleet centers (depending on the
performance of the first fleet center) and perform various capital improvements
for an estimated cost of $2.5 million.
In February 1999, the Company received a Notice of Disallowance from the
Internal Revenue Service ("IRS") disallowing a refund from a net operating loss
carryback received during the year ended April 30, 1997. The amount of the 1997
refund was $1,845. The Company is protesting the IRS's position. The potential
for the disallowance of the refund and substantially all of the interest though
April 30, 2000 relating to the disallowance, are accrued in the Company's
consolidated financial statements. If the Company does not sustain its tax
position with the IRS, the net operating loss carryforward would be available to
offset federal income taxes in future years.
In January 1999, the Company entered into an agreement with a bank for a
two-year $4,000 unsecured line of credit. The Company is exposed to interest
rate risk under this line of credit as borrowings bear interest at the bank's
prime rate or LIBOR, as defined. As of April 30, 2000, the Company had no
balance outstanding under this credit facility. The Company currently owns 67
parcels of unencumbered real estate, including the Company's headquarters and
paint factory, which could be either sold or used as security to obtain
additional financing. The Company believes that it has the liquidity and capital
resources to meet its cash needs for the immediate future.
In Fiscal 1998, the Board of Directors announced that it had authorized
the repurchase of up to 500,000 shares which is approximately 11% of the
Company's common stock outstanding. The share purchase plan authorizes the
Company to make purchases from time to time in the open market or though
privately negotiated transactions and that the purchases be dependent on market
conditions and availability of shares. No shares were purchased in Fiscal 2000.
To date, the Company has purchased a total of 321,000 shares under this plan at
a cost of $2,031.
-----------------------------------------------------
Year 2000
------------------------------------------------
The Company completed its Year 2000 conversion as of December 31, 1999,
and did not encounter any substantial problems regarding Year 2000 issues. The
Company received representations from major suppliers, financial institutions,
insurers and others with whom it conducts business indicating that they believed
they were or would be Year 2000 compliant by December 31, 1999. During Fiscal
2000, Year 2000 compliance costs were not material and future Year 2000 issues
are not anticipated.
-----------------------------------------------------
"Safe Harbor" Statements Under the Private Securities Litigation Reform Act of
1995
------------------------------------------------
The statements which are not historical facts contained in this Annual
Report are forward-looking statements that involve risks and uncertainties,
including, but not limited to, the effect of weather, the effect of economic
conditions, the impact of competitive products, services and pricing, capacity
and supply constraints or difficulties, changes in laws and regulations
applicable to the Company, the impact of advertising and promotional activities,
the impact of the Company's expansion or closing of shops, new product roll-
out, fleet painting operations and commercial coatings business, the potential
adverse effects of certain litigation and the impact of various tax positions
taken by the Company.
3
<PAGE>
Earl Scheib, Inc.
Consolidated Statements of Operations
(Dollars in thousands, except per share data)
<TABLE>
<CAPTION>
Year ended April 30,
------------------------------------
2000 1999 1998
<S> <C> <C> <C>
--------------------------------------------------------------------------------------------------
Net sales $56,374 $55,013 $50,839
Cost of sales 42,671 40,539 36,882
--------------------------------------------------------------------------------------------------
Gross profit 13,703 14,474 13,957
Selling, general and administrative expense 15,321 14,076 12,936
--------------------------------------------------------------------------------------------------
Operating income (loss) (1,618) 398 1,021
Other income (expense) (417) (316) 112
--------------------------------------------------------------------------------------------------
Income (loss) before income taxes (2,035) 82 1,133
Provision for income taxes 44 26 69
--------------------------------------------------------------------------------------------------
Net income (loss) $(2,079) $ 56 $ 1,064
--------------------------------------------------------------------------------------------------
Earnings (loss) per share
Basic $ (0.48) $ 0.01 $ 0.23
Diluted $ (0.48) $ 0.01 $ 0.22
--------------------------------------------------------------------------------------------------
</TABLE>
Consolidated Statements of Shareholders' Equity
(Dollars in thousands)
<TABLE>
<CAPTION>
Capital Stock, $1 Par
------------------------- Additional
Shares Paid-in Retained Treasury
Outstanding Amount Capital Earnings Stock Total
<S> <C> <C> <C> <C> <C> <C>
-------------------------------------------------------------------------------------------------------------------------------
Balance April 30, 1997 4,589,000 $4,589 $5,596 $ 9,068 $ -- $19,253
Net income for the year -- -- -- 1,064 -- 1,064
Stock issued under stock option plan 193,000 193 1,002 -- -- 1,195
Treasury stock acquired (123,000) -- -- -- (1,077) (1,077)
-------------------------------------------------------------------------------------------------------------------------------
Balance April 30, 1998 4,659,000 4,782 6,598 10,132 (1,077) 20,435
Net income for the year -- -- -- 56 -- 56
Stock issued under stock option plan 21,000 21 158 -- -- 179
Treasury stock acquired (321,000) -- -- -- (2,031) (2,031)
-------------------------------------------------------------------------------------------------------------------------------
Balance April 30, 1999 4,359,000 4,803 6,756 10,188 (3,108) 18,639
Net loss for the year -- -- -- (2,079) -- (2,079)
-------------------------------------------------------------------------------------------------------------------------------
Balance April 30, 2000 4,359,000 $4,803 $6,756 $ 8,109 $(3,108) $16,560
-------------------------------------------------------------------------------------------------------------------------------
</TABLE>
The accompanying Notes are an integral part of these Consolidated Financial
Statements.
4
<PAGE>
Earl Scheib, Inc.
Consolidated Balance Sheets
(Dollars in thousands)
<TABLE>
<CAPTION>
April 30,
----------------------
2000 1999
<S> <C> <C>
----------------------------------------------------------------------------------------
Assets
Current assets:
Cash and cash equivalents $ 602 $ 1,265
Accounts receivable, less allowances of $51 in 2000 and
$164 in 1999 227 218
Inventories 1,934 1,701
Prepaid expenses 1,953 1,626
Deferred income taxes 892 753
Property held for sale 70 339
Other current assets 491 414
----------------------------------------------------------------------------------------
Total current assets 6,169 6,316
Property, plant and equipment, less accumulated depreciation
and amortization 19,530 21,089
Deferred income taxes 1,719 2,157
Other, primarily cash surrender value of life insurance 2,197 2,299
----------------------------------------------------------------------------------------
$29,615 $31,861
----------------------------------------------------------------------------------------
Liabilities
Current liabilities:
Accounts payable $ 1,190 $ 940
Current portion of long term-debt and obligations 326 158
Accrued expenses:
Payroll and related taxes 1,501 1,780
Insurance 1,451 1,139
Interest 800 504
Advertising 461 485
Other 1,268 1,113
Income taxes payable 1,160 1,789
----------------------------------------------------------------------------------------
Total current liabilities 8,157 7,908
Deferred management compensation 3,215 3,298
Long-term debt and obligations, net of current portion 1,683 2,016
Commitments and contingencies -- --
Shareholders' Equity
Capital stock $1 par -- shares authorized 12,000,000;
4,803,000 issued and 4,359,000 outstanding 4,803 4,803
Additional paid-in capital 6,756 6,756
Retained earnings 8,109 10,188
Treasury stock (3,108) (3,108)
----------------------------------------------------------------------------------------
Total shareholders' equity 16,560 18,639
----------------------------------------------------------------------------------------
$29,615 $31,861
----------------------------------------------------------------------------------------
</TABLE>
The accompanying Notes are an integral part of these Consolidated Balance
Sheets.
5
<PAGE>
Earl Scheib, Inc.
Consolidated Statements of Cash Flows
(Dollars in thousands)
<TABLE>
<CAPTION>
Year ended April 30,
------------------------------------------
2000 1999 1998
<S> <C> <C> <C>
---------------------------------------------------------------------------------------------------------------
Cash flows from operating activities:
Net income (loss) $(2,079) $ 56 $ 1,064
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Gain on disposals of property and equipment (134) (6) (33)
Write-down of property and equipment 434 127 159
Depreciation and amortization 2,941 2,918 2,323
Provision for impairment of fixed assets 65 -- --
Changes in operating assets and liabilities:
Deferred income taxes 299 (319) (283)
Deferred management compensation (83) (65) (87)
Accounts receivable (9) 39 (45)
Inventories (233) (450) 33
Prepaid expenses (404) (58) (265)
Other assets 102 (447) 56
Accounts payable 250 (24) 490
Accrued expenses and income taxes payable (169) 530 458
---------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 980 2,301 3,870
---------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Capital expenditures (2,027) (5,054) (3,870)
Proceeds from disposals of property and equipment 549 49 563
Reduction in marketable securities -- -- 670
---------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (1,478) (5,005) (2,637)
---------------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Principal payments on long-term debt and obligations (164) (154) (128)
Stock options exercised -- 92 239
Proceeds from (payments of) life insurance loans (1) 1,684 --
Net proceeds from bank loan -- 175 --
Purchase of treasury stock -- (2,031) --
---------------------------------------------------------------------------------------------------------------
Net cash provided by (used in) financing activities (165) (234) 111
---------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and cash equivalents (663) (2,938) 1,344
Cash and cash equivalents, at beginning of year 1,265 4,203 2,859
---------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, at end of year $ 602 $ 1,265 $ 4,203
---------------------------------------------------------------------------------------------------------------
Supplemental cash flow disclosure:
Income taxes paid $ 510 $ 609 $ 75
Interest paid $ 131 $ 64 $ 24
---------------------------------------------------------------------------------------------------------------
</TABLE>
Supplemental disclosure of noncash investing and
financing activities.
In Fiscal 1999, the Company entered into one capital lease totaling $62. In
Fiscal 1998, the Company received $1,077 in treasury stock as payment for the
exercise price of certain stock options exercised during the year and as payment
of payroll taxes related to the exercise of the stock options.
The accompanying Notes are an integral part of these Consolidated Financial
Statements.
6
<PAGE>
Earl Scheib, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share data)
--------------------------------------------------------------------------------
1. Summary of Significant Accounting Policies
NATURE OF BUSINESS: Earl Scheib, Inc. and subsidiaries (the "Company") operates
the New Earl Scheib Auto Paint and Body Shops throughout the United States which
offer auto painting and auto body repair services to consumers and businesses.
At April 30, 2000, 1999 and 1998, the Company operated 170, 174 and 163 shops,
respectively.
PRINCIPLES OF CONSOLIDATION: The Company's consolidated financial statements
include the Company and its wholly-owned subsidiaries. All significant
intercompany accounts and transactions have been eliminated.
USE OF ESTIMATES: The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make certain
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates.
CASH AND CASH EQUIVALENTS: All highly liquid investment instruments with terms
of three months or less at the time of acquisition are considered to be cash
equivalents while those having maturities in excess of three months are
considered marketable securities.
FAIR VALUE OF FINANCIAL INSTRUMENTS: The carrying value of financial assets and
liabilities approximates fair value due to their short maturity.
INVENTORIES: Inventories, which are composed of auto paint, shop supplies and
materials, are stated at the lower of last-in, first-out (LIFO) cost or market.
A summary of inventories is as follows:
<TABLE>
<CAPTION>
April 30,
----------------------
2000 1999
<S> <C> <C>
--------------------------------------------------------------
Paint and related supplies $1,929 $1,810
Raw materials 507 411
LIFO reserve (502) (520)
----------------------
Total inventories $1,934 $1,701
----------------------
</TABLE>
PROPERTY, PLANT AND EQUIPMENT: Property, plant and equipment are recorded at
cost and depreciated and amortized over their estimated useful lives or lease
terms, whichever is less. Significant additions or improvements extending asset
lives are capitalized; normal maintenance and repair costs are expensed as
incurred. The Company uses the straight-line method in computing depreciation
and amortization for financial reporting purposes and accelerated methods, with
respect to certain assets, for income tax purposes.
START-UP COSTS: Expenses associated with the opening of new auto paint shops
are expensed as incurred.
INCOME TAXES: Deferred income taxes are provided at the statutory rates on the
difference between the financial statement and tax basis of assets and
liabilities and are classified in the consolidated balance sheet as current or
long-term consistent with the classification of the related asset or liability
giving rise to the deferred income taxes. The carrying value of deferred income
tax assets is determined based upon an evaluation of whether the realization of
such assets is more likely than not.
STOCK-BASED COMPENSATION: The Company accounts for its stock option grants in
accordance with Accounting Principles Board Opinion No. 25 and related
interpretations. Under the Company's current stock option plans, no stock
options have been granted at a price which is less than the quoted market price
of the underlying stock on the date of grant. Therefore, no compensation expense
is recognized for the stock options granted (Note 5).
IMPAIRMENT OF LONG-LIVED ASSETS: The Company reviews long-lived assets for
impairment whenever events or changes in circumstances indicate that the
carrying value of such assets may not be recoverable. If the Company determines
an impairment of a long-lived asset has occurred, it will write down the asset
to its estimated fair value. During the year ended April 30, 2000, the Company
provided $65 for the impairment of fixed assets in three shops.
REVENUE RECOGNITION: The Company recognizes sales when the work is completed
and the customer accepts delivery of the vehicle.
EARNINGS PER SHARE: Basic earnings per share excludes dilution and is computed
by dividing income available to common shareholders by the weighted-average
number of common shares outstanding for the period. Diluted earnings per share
reflects the potential dilution that could occur if securities or other
contracts to issue common stock were exercised or converted into common stock or
resulted in the issuance of common stock that then shared in the earnings of the
entity. The only potential dilutive securities the Company has outstanding are
stock options issued to the Company's Board of Directors, management and
employees.
The weighted-average number of shares used to calculate basic earnings per
share was 4,359, 4,452, and 4,605, for the years ended April 30, 2000, 1999 and
1998, respectively. The weighted-average number of shares used to calculate
diluted earnings per share was 4,359, 4,532 and 4,762 for the years ended
April 30, 2000, 1999, and 1998, respectively. Options to purchase 1,062, 437 and
314 shares were not included in the calculation of diluted earnings per share in
Fiscal 2000, 1999 and 1998, respectively, because including such options would
be antidilutive.
PROSPECTIVE ACCOUNTING CHANGES: In June 1998, the Financial Accounting
Standards Board issued Statement of
7
<PAGE>
Earl Scheib, Inc.
Notes to Consolidated Financial Statements (Continued)
(Dollars in thousands, except per share data)
--------------------------------------------------------------------------------
Financial Accounting Standard ("SFAS") No. 133. "Accounting for Derivative
Instruments and Hedging Activities." This statement, as amended, is effective
for financial periods beginning after June 15, 2000, and addresses the
accounting for derivative instruments, including certain derivative instruments
embedded in other contracts and hedging activities. The Company has not
historically or does not currently hold any derivative instruments or
participate in any hedging activities.
RECLASSIFICATION: Certain reclassifications have been made to prior year
financial statements to conform to the current year presentation.
2. Taxes on Income
The components of the provision for income taxes are as follows:
<TABLE>
<CAPTION>
Year Ended April 30,
------------------------------------
2000 1999 1998
<S> <C> <C> <C>
---------------------------------------------------------------------
Current:
Federal $(209) $ 314 $ 299
State (46) 63 53
------------------------------------
(255) 377 352
------------------------------------
Deferred 299 (351) (283)
------------------------------------
Total $ 44 $ 26 $ 69
------------------------------------
</TABLE>
Reconciliation of the statutory federal income tax rate to the Company's
effective tax rate is as follows:
<TABLE>
<CAPTION>
Year Ended April 30,
------------------------------------
2000 1999 1998
<S> <C> <C> <C>
-----------------------------------------------------------------------
Tax at U.S. federal statutory
tax rate (benefit) (34.0)% 34.0% 34.0%
State taxes, net of federal
benefit 2.1 3.9 3.1
Federal net operating loss -- -- (29.0)
Valuation reserve 34.0 -- --
Other -- (5.5) (2.0)
------------------------------------
Total 2.1% 32.4% 6.1%
------------------------------------
</TABLE>
At April 30, 2000, net current deferred income tax assets and net
long-term deferred income tax assets are comprised of the following:
<TABLE>
<CAPTION>
April 30,
-------------------
2000 1999
<S> <C> <C>
---------------------------------------------------------
Current deferred income tax assets:
Alternative Minimum Tax Credit $ 221 $ 221
Accrued insurance 451 302
Accrued payroll and vacation 87 39
Accrue medical insurance 106 103
Other 27 88
-------------------
$ 892 $ 753
-------------------
</TABLE>
<TABLE>
---------------------------------------------------------
<CAPTION>
April 30,
-------------------
2000 1999
<S> <C> <C>
Long-term deferred income tax
assets (liabilities):
Net operating loss $ 1,127 $ 967
Deferred compensation 1,221 1,252
Depreciation 268 (29)
Other 161 38
Valuation allowance (1,058) (71)
-------------------
$ 1,719 $2,157
-------------------
</TABLE>
In Fiscal 2000 and Fiscal 1999, the Company had deferred income tax
assets, net of valuation allowance, of $2,611 and $2,910, respectively. It is
management's opinion that it is more likely than not that the net deferred
income tax asset will be realized.
In February 1999, the Company received a Notice of Disallowance from the
Internal Revenue Service ("IRS") disallowing a refund from a net operating loss
carryback received during the year ended April 30, 1997. The amount of the 1997
refund was $1,845. The Company is protesting the IRS's position. The potential
for the disallowance of the refund and substantially all of the interest through
April 30, 2000 relating to the disallowance, are accrued in the Company's
consolidated financial statements. If the Company does not sustain its tax
position with the IRS, the net operating loss carryforward would be available to
offset federal income taxes in future years.
3. Property, Plant and Equipment
Property, plant and equipment, including their estimated useful lives, consist
of the following:
<TABLE>
<CAPTION>
April 30,
------------------- Estimated
2000 1999 Useful Life
<S> <C> <C> <C>
----------------------------------------------------------
Land $ 5,097 $ 5,171
Buildings and
building
improvements 9,163 9,319 8-33 years
Machinery and
equipment 10,721 10,614 3-10 years
Automotive equipment 142 142 2-4 years
Office furniture and
equipment 3,132 3,123 3-10 years
Leasehold
improvements 8,899 8,491 Life of Lease
-------------------
37,154 36,860
Less accumulated
depreciation and
amortization 17,624 15,771
-------------------
Net property, plant
and equipment $19,530 $21,089
-------------------
</TABLE>
8
<PAGE>
Earl Scheib, Inc.
Notes to Consolidated Financial Statements (Continued)
(Dollars in thousands, except per share data)
--------------------------------------------------------------------------------
4. Leases
The Company leases approximately 62% of its auto paint shops. Management expects
that in the normal course of business such leases will be renewed or replaced by
other leases. Certain lease agreements contain renewal and/or purchase options.
Rent expense for Fiscal 2000, 1999 and 1998 was $,4,064, $3,658 and $2,995,
respectively. Following is a summary, by year, of the future minimum lease
commitments as of April 30, 2000.
<TABLE>
<CAPTION>
Year ending April 30:
--------------------------------------------------------
<S> <C>
2001 $ 3,790
2002 3,210
2003 2,498
2004 1,871
2005 1,576
Thereafter 6,943
-------
Total minimum lease payments $19,888
-------
</TABLE>
5. Stock Options (Number of shares and options in thousands)
The Company has two nonqualified stock option plans. One plan allows for the
granting of up to 150 shares of the Company's capital stock to nonemployee
directors of the Company, and the second plan allows for the granting of up to
900 shares of the Company's capital stock to certain employees of the Company.
The plans allow for discretionary pricing and vesting periods. Besides the two
plans discussed, the Company has made separate grants of stock options to its
chief executive officer.
Stock option transactions are summarized as follows:
<TABLE>
<CAPTION>
Weighted
Number Average
of Option price Exercise
Shares per Share Price
<S> <C> <C> <C>
--------------------------------------------------------------------
Outstanding at
April 30, 1997 1,069 $ 4.50 - $11.23 $6.67
Granted 150 $ 8.75 $8.75
Exercised (193) $ 4.50 - $7.875 $6.17
Canceled (48) $ 4.50 - $7.875 $6.93
---------------------------------------------
Outstanding at
April 30,1998 978 $ 4.50 - $11.23 $7.07
Granted 514 $ 5.00 - $ 8.63 $5.34
Exercised (21) $ 4.50 - $ 7.00 $4.54
Canceled (359) $ 5.00 - $ 8.75 $7.37
---------------------------------------------
Outstanding at
April 30, 1999 1,112 $ 4.50 - $11.23 $6.22
Granted 156 $ 3.50 - $ 4.75 $4.20
Exercised -- -- -- --
Canceled (206) $ 4.00 - $ 9.00 $6.73
---------------------------------------------
Outstanding at
April 30, 2000 1,062 $ 3.50 - $11.23 $5.82
---------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
April 30,
------------------------------------
2000 1999 1998
<S> <C> <C> <C>
-----------------------------------------------------------------------
Shares exercisable 609 590 682
Shares available for grant 357 307 61
------------------------------------
</TABLE>
The following tables summarize information about stock options outstanding
and exercisable:
<TABLE>
<CAPTION>
Options Outstanding
----------------------------------------------------------------------
Weighted Weighted
Outstanding Average Average
Range of at April 30, Remaining Exercise
Exercise Price 2000 Life Price
<S> <C> <C> <C>
----------------------------------------------------------------------
$3.50 - $4.49 79 9.7 $3.90
$4.50 - $5.50 717 7.7 $5.20
$5.51 - $11.23 266 5.4 $8.09
----- -----
1,062
-----
</TABLE>
<TABLE>
<CAPTION>
Options Exercisable
--------------------------------------------------
Weighted
Exercisable At Average
Range of April 30, Exercise
Exercise Price 2000 Price
<S> <C> <C>
--------------------------------------------------
$4.50 - $6.50 350 $5.25
$6.51 - $11.23 259 $8.09
--- -----
609
---
</TABLE>
9
<PAGE>
Earl Scheib, Inc.
Notes to Consolidated Financial Statements (Continued)
(Dollars in thousands, except per share data)
--------------------------------------------------------------------------------
If the Company had followed SFAS No. 123, "Accounting for Stock-Based
Compensation", in determining compensation cost from stock options, then the
Company would have had a pro forma net income (loss) and earnings (loss) per
share indicated below:
<TABLE>
<CAPTION>
April 30,
------------------------------------
2000 1999 1998
<S> <C> <C> <C>
-----------------------------------------------------------------
Net income (loss):
As reported $(2,079) $ 56 $1,064
Pro forma (2,491) (453) 493
Net income (loss) per
common share:
As reported:
Basic $ (0.48) $ 0.01 $ 0.23
Diluted (0.48) 0.01 0.22
Pro forma:
Basic $ (0.57) $(0.10) $ 0.11
Diluted (0.57) (0.10) 0.10
------------------------------------
</TABLE>
Because options vest over several years and additional options are granted
each year, the effects on pro forma net income (loss) and related per share
amounts presented above are not representative of the effect for future years.
The fair market value of stock options granted for purposes of the SFAS
No. 123 compensation was determined by using the Black-Scholes option-pricing
model and the following assumptions: a weighted-average, risk-free interest rate
of 6.37%, 5.07% and 5.86% for Fiscal 2000, 1999 and 1998, respectively; an
expected life of 10 years; expected volatility of 62.7%, 34.1% and 32.6% in
Fiscal 2000, 1999 and 1998, respectively, and no expected dividend. The
weighted-average fair value of the options granted by the Company in Fiscal
2000, 1999 and 1998, was $2.95, $2.97 and $4.90, respectively.
6. Deferred Management Compensation
In 1987, the Company adopted a nonqualified supplemental compensation plan (the
"Plan") to provide benefits (including post retirement health care and death
benefits) to certain employees who were officers or key employees of the Company
prior to fiscal 1995 (admission to the Plan was discontinued at the beginning of
fiscal 1995). Participants share in the cost of the Plan by deferring a portion
of their annual compensation for that purpose. Deferred compensation expense
under the Plan is comprised of the following:
<TABLE>
<CAPTION>
For The Year
Ended April 30,
------------------------------
2000 1999 1998
<S> <C> <C> <C>
----------------------------------------------------------------
Weighted-average assumptions:
Discount rate 7 3/4% 7% 7%
Components of net periodic
benefit cost:
Service cost $ 45 $ 41 $ 43
Interest cost 200 191 196
Amortization of prior service
costs (59) (59) (59)
------------------------------
Net periodic benefit cost $186 $173 $180
------------------------------
</TABLE>
Due to the compensation agreements having predetermined fixed dollar amounts of
benefits, no rates of increase in future compensation were used. The table below
sets forth the funded status and amounts recognized in the Company's
consolidated financial statements for the supplemental compensation plan:
<TABLE>
<CAPTION>
April 30
-------------------
2000 1999
<S> <C> <C>
--------------------------------------------------------
Change in benefit obligation:
Benefit obligation at beginning of
year $ 2,867 $ 2,952
Service cost 45 41
Interest cost 200 191
Actuarial gain (113) (34)
Benefits paid (265) (283)
-------------------
Benefit obligation at end of year $ 2,734 $ 2,867
-------------------
Change in plan assets:
Fair value of plan assets -- --
Funded status $(2,734) $(2,867)
Unrecognized prior service cost (481) (540)
Unrecognized gain (253) (140)
-------------------
Accrued pension expense $(3,468) $(3,547)
-------------------
Amounts recognized in the statement
of financial position consist of:
Accrued pension expense $(3,468) $(3,547)
Intangible assets 734 680
-------------------
Funded status $(2,734) $(2,867)
-------------------
</TABLE>
The Company entered into whole life insurance contracts, to partially fund
its obligations under the Plan. The Company was not obligated to enter into
these contracts and is not required to use policy proceeds to pay for the Plan.
As of April 30, 2000 and 1999, these contracts had cash surrender values of
$1,922 and $1,780, respectively, which the Company has borrowed against
(Note 7).
10
<PAGE>
Earl Scheib, Inc.
Notes to Consolidated Financial Statements (Continued)
(Dollars in thousands, except per share data)
--------------------------------------------------------------------------------
401(k) Plan
In Fiscal 1999, the Company established a 401(k) Plan covering
substantially all employees. Employees may elect to participate in the
401(k) Plan provided that they meet certain eligibility requirements. Voluntary
employee contributions are limited to 15 percent (up to a maximum of $10 in
1999) of compensation. Subject to the vesting schedule, Company contributions,
equal to 50 percent of the first four percent of employee contributions, are
distributed ("matched") at the end of each calendar year to participants then
employed. During Fiscal 2000 and 1999, the Company contributed $112 and $31,
respectively.
7. Long-term Debt and Obligations
<TABLE>
<CAPTION>
April 30,
----------------------
2000 1999
<S> <C> <C>
--------------------------------------------------------------
Loans against life insurance
policy cash surrender values $1,683 $1,684
Notes payable to bank -- 226
Capital leases -- 106
----------------------
$1,683 $2,016
----------------------
</TABLE>
Loans against life insurance policy cash surrender values bear interest at
a variable rate (currently 5.0% to 8.06%) with interest payable annually. The
principal is not due until such time as the policies are surrendered. Management
does not expect to pay these loans in Fiscal 2001.
The notes payable to a bank are secured by a long-term receivable from a
state agency related to the reimbursement of completed environmental remediation
work performed in Wisconsin. Interest, at prime rate (9.0% as of April 30, 2000)
and principal are payable upon demand. The notes payable are classified as a
current liability as of April 30, 2000.
Capital lease obligations relate to the purchase of computer equipment and
bear interest at rates of 3.54% to 9.8%. These obligations are due in Fiscal
2001 and are classified as a current liability at April 30, 2000.
The Company has an agreement with a bank for a two-year, $4,000 unsecured
line of credit. During Fiscal 2000, the Company borrowed $750 which was fully
repaid by April 30, 2000. At April 30, 2000, no balance was outstanding.
8. Commitments and Contingencies
The Company has an agreement with its bank to finance a letter of credit
facility under which the bank has issued approximately $2,194 in standby letters
of credit at April 30, 2000. The letters of credit are in favor of the Company's
insurance carriers and secure the unfunded portion of the Company's estimated
worker's compensation insurance liabilities.
The Company is a defendant in a lawsuit filed in Los Angeles, California
in March 2000. The lawsuit essentially alleges that the Company, in California,
failed to pay overtime benefits to shop managers and assistant managers and made
unlawful deductions from the compensation of certain managers and assistant
managers. The applicable law provides for up to a four-year statute of
limitations and the plaintiff is seeking class certification in this case. In
June 2000, after oral arguments, the Court denied plaintiff's motion for a
court-issued precertification notice to the potential class and stated it will
require plaintiff to move for class certification. The Company intends to
vigorously defend against this action, but at this point the ultimate outcome of
this matter cannot be determined with certainty. Unfavorable rulings and/or the
cost of resolution of any unfavorable rulings cannot be determined at this time,
but the Company believes that its ultimate exposure should not materially affect
its financial position.
The Company is involved in several other legal proceedings and claims
which arise in the ordinary course of its business. Management believes that the
amount of ultimate liability with respect to these matters should not materially
affect the Company's financial position.
11
<PAGE>
Report of Independent Public Accountants
To the Shareholders of Earl Scheib, Inc.:
"We have audited the accompanying consolidated
balance sheets of Earl Scheib, Inc. (a Delaware
corporation) and subsidiaries as of April 30, 2000
and 1999, and the related consolidated statements of
operations, shareholders' 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 auditing
standards generally accepted in the United States.
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 Earl Scheib, Inc. and
subsidiaries as of April 30, 2000 and 1999, and the
results of their operations and their cash flows for
each of the years then ended in conformity with
accounting principles generally accepted in the
United States."
/s/ ARTHUR ANDERSEN LLP
Los Angeles, California
July 14, 2000
12
<PAGE>
Earl Scheib, Inc.
Selected Financial Data
(Dollars in thousands, except per share data)
<TABLE>
<CAPTION>
Year Ended April 30,
----------------------------------------------------------------------------
2000 1999 1998 1997 1996
<S> <C> <C> <C> <C> <C>
--------------------------------------------------------------------------------------------------------------------------------
Results of Operations
Net sales $56,374 $55,013 $50,839 $48,348 $43,981
Net income (loss) (2,079) 56 1,064 1,102 895
Per share:
Earnings (loss) -- Basic (0.48) 0.01 0.23 0.24 0.20
Earnings (loss) -- Diluted (0.48) 0.01 0.22 0.23 0.19
Cash dividends declared -- -- -- -- --
Financial position
Property, plant and equipment, net $19,530 $21,089 $19,375 $18,012 $18,040
Total assets 29,615 31,861 31,486 29,450 28,510
Long-term liabilities 4,898 5,314 3,584 3,779 3,809
Shareholders' equity 16,560 18,639 20,435 19,253 18,056
Number of shops at the end of the year 170 174 163 158 160
--------------------------------------------------------------------------------------------------------------------------------
</TABLE>
Selected Quarterly Financial Data (Unaudited)
The following table sets forth unaudited operating data for each of the
specified quarters of Fiscal 2000 and 1999. This quarterly information has been
prepared on the same basis as the annual consolidated financial statements and,
in the opinion of management, contains all significant adjustments necessary to
state fairly the information set forth herein.
<TABLE>
<CAPTION>
First Second Third Fourth
Quarter Quarter Quarter Quarter
<S> <C> <C> <C> <C>
-----------------------------------------------------------------------------------------------------------------------------
(in thousands, except per share data)
For the Fiscal Year Ended April 30, 2000:
Revenues $15,759 $15,628 $10,516 $14,471
Gross profit 4,417 4,561 1,182 3,543
Net income (loss) 345 460 (1,953) (931)
Basic earnings (loss) per share 0.08 0.11 (0.45) (0.21)
Diluted earnings (loss) per share 0.08 0.11 (0.45) (0.21)
For the Fiscal Year Ended April 30, 1999:
Revenues $15,903 $14,765 $ 9,895 $14,450
Gross profit 5,180 4,499 1,327 3,468
Net income (loss) 1,006 587 (1,193) (344)
Basic earnings (loss) per share 0.22 0.13 (0.27) (0.08)
Diluted earnings (loss) per share 0.21 0.13 (0.27) (0.08)
-----------------------------------------------------------------------------------------------------------------------------
</TABLE>
(Notes to selected quarterly financial data)
The variation in net income and loss per share between the fourth quarter
of Fiscal 2000 and the fourth quarter of Fiscal 1999 is primarily due to
increased costs pertaining to completed environmental remediation work performed
in the state of Wisconsin, a provision for fixed asset impairment in three shops
and adjustments to insurance-related premiums and claims from prior periods.
13
<PAGE>
Earl Scheib, Inc.
--------------------------------------------------------------------------------
Market Information
Earl Scheib, Inc. is listed and traded on the America Stock Exchange under the
ticker symbol "ESH". As of April 30, 2000, there were 244 holders of record of
the Company's stock according to records maintained by the Company's transfer
agent. The high and low sales prices of the stock for each of the quarters of
Fiscal 2000 and Fiscal 1999 are as follows:
<TABLE>
<CAPTION>
2000 1999
--------------------------------------------------------------------------------------------------------------------------
1st 2nd 3rd 4th 1st
Qtr. Qtr. Qtr. Qtr. Qtr.
<S> <C> <C> <C> <C> <C>
--------------------------------------------------------------------------------------------------------------------------
High $5 3/8 $4 3/4 $4 3/16 $4 1/4 $9 1/4
Low 4 1/4 2 3/4 2 3/4 2 3/4 6 3/4
--------------------------------------------------------------------------------------------------------------------------
<CAPTION>
1999
------------------------------- --------------------------------------------
2nd 3rd 4th
Qtr. Qtr. Qtr.
<S> <C> <C> <C>
-------------------------------
High $7 $6 $6 1/2
Low 4 3/4 4 3/4 4 3/4
-------------------------------
</TABLE>
No dividends were paid in either Fiscal 2000 or Fiscal 1999.
14
