SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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Form 10-Q/A
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1997
Commission File No. 1-11402
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HFS Incorporated
(Exact name of Registrant as specified in its charter)
Delaware 22-3059335
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification Number)
6 Sylvan Way
Parsippany, New Jersey 07054
(Address of principal executive office) (Zip Code)
(201) 428-9700
(Registrant's telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year, if applicable)
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Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities and Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days:
Yes [X] No [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS:
The number of shares outstanding of each of the Registrant's classes of
common stock was 158,752,592 shares of Common Stock outstanding as of July 31,
1997.
<PAGE>
PART 1 - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
HFS Incorporated and Subsidiaries
CONSOLIDATED BALANCE SHEETS
(In thousands)
<TABLE>
<CAPTION>
ASSETS June 30, December 31,
1997 1996
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<S> <C> <C>
CURRENT ASSETS
Cash and cash equivalents ............................ $ 58,511 $ 69,541
Restricted cash ...................................... 23,742 89,849
Accounts and notes receivable,
net of allowance for doubtful accounts .......... 840,941 687,907
Other current assets ................................. 159,506 117,320
Deferred income taxes ................................ 92,825 93,798
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TOTAL CURRENT ASSETS ................................. 1,175,525 1,058,415
Property and equipment - net ......................... 331,844 328,528
Franchise agreements - net of accumulated amortization 948,753 995,947
Excess of cost over fair value of net assets acquired
net of accumulated amortization ................ 1,868,438 1,783,409
Other intangibles - net of accumulated amortization .. 588,710 604,535
Investment in Avis Rent A Car, Inc. .................. 87,086 76,540
Other assets ......................................... 429,427 289,392
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Total assets exclusive of assets under programs ...... 5,429,783 5,136,766
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Assets under management and mortgage programs:
Net investment in leases and leased vehicles .... 3,643,601 3,418,666
Relocation receivables .......................... 579,575 773,326
Mortgage loans held for sale .................... 820,615 1,248,299
Mortgage servicing rights and fees .............. 272,042 288,943
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5,315,833 5,729,234
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TOTAL ASSETS ......................................... $10,745,616 $10,866,000
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</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
HFS Incorporated and Subsidiaries
CONSOLIDATED BALANCE SHEETS
(In thousands except share data)
<TABLE>
<CAPTION>
LIABILITIES AND SHAREHOLDERS' EQUITY June 30, December 31,
1997 1996
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<S> <C> <C>
CURRENT LIABILITIES
Accounts payable and other accrued expenses ........................ $ 1,112,557 $ 855,770
Short-term debt .................................................... 150,000 150,000
Due to car rental operations of Avis Rent A Car, Inc., net ......... 14,522 61,807
Current portion of long-term debt .................................. 1,959 2,995
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TOTAL CURRENT LIABILITIES .......................................... 1,279,038 1,070,572
Long-term debt ..................................................... 1,173,967 748,421
Deferred revenue ................................................... 250,525 397,034
Other liabilities .................................................. 120,165 131,021
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Total liabilities exclusive of liabilities under programs .......... 2,823,695 2,347,048
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Liabilities under management and mortgage programs:
Debt .......................................................... 4,776,153 5,089,943
Deferred income taxes ......................................... 301,200 281,948
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5,077,353 5,371,891
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Commitments and contingencies
SHAREHOLDERS' EQUITY
Preferred stock, $1.00 par value - authorized 10,000,000 shares;
none issued and outstanding ................................... -- --
Common stock, $.01 par value - authorized 600,000,000 shares;
issued 161,393,645 and 158,728,807 shares, respectively ....... 1,614 1,588
Additional paid-in capital ......................................... 2,234,646 2,337,297
Retained earnings .................................................. 808,982 830,970
Net unrealized gain on investment .................................. -- 4,366
Currency translation adjustment .................................... (10,204) (8,008)
Treasury stock, at cost (3,087,400 and 322,500 shares, respectively) (190,470) (19,152)
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TOTAL SHAREHOLDERS' EQUITY ......................................... 2,844,568 3,147,061
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TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY ......................... $ 10,745,616 $ 10,866,000
============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
HFS Incorporated and Subsidiaries
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
-------------------------- ---------------------------
1997 1996 1997 1996
----------- ----------- ------------- -----------
<S> <C> <C> <C> <C>
REVENUES:
Service fees, net ........................ $ 443,428 $ 243,230 $ 830,346 $ 423,022
Fleet leasing (net of depreciation and
interest costs of $298,200, $272,871,
$584,275 and $555,994, respectively) . 65,786 62,822 146,581 133,770
Other, net ............................... 70,406 39,265 122,670 66,252
----------- ----------- ----------- -----------
Net revenues ......................... 579,620 345,317 1,099,597 623,044
----------- ----------- ----------- -----------
EXPENSES:
Operating ................................ 219,173 155,286 435,062 295,383
Marketing and reservation ................ 69,683 38,716 130,481 65,950
General and administrative ............... 25,206 24,379 57,112 39,189
Merger and restructuring charge associated
with business combination .............. 303,000 -- 303,000 --
Depreciation and amortization ............ 43,418 20,846 86,534 36,982
Interest, net ............................ 17,070 5,141 30,747 10,766
----------- ----------- ----------- -----------
Total expenses ....................... 677,550 244,368 1,042,936 448,270
----------- ----------- ----------- -----------
Income (loss) before income taxes ........... (97,930) 100,949 56,661 174,774
Provision for income taxes .................. 8,519 41,010 72,005 71,157
----------- ----------- ----------- -----------
Net income (loss) ........................... $ (106,449) $ 59,939 $ (15,344) $ 103,617
=========== =========== =========== ===========
SHARE INFORMATION:
Net income (loss) per share
Primary .................................. $ (.67) $ .38 $ (.10) $ .69
=========== =========== =========== ===========
Fully diluted ............................ $ (.67) $ .38 $ (.10) $ .68
=========== =========== =========== ===========
Weighted average common and common
equivalent shares outstanding
Primary 158,355 158,798 158,342 154,232
============ =========== ============= ===========
Fully diluted 158,355 159,405 158,342 155,398
============ =========== ============= ===========
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
HFS Incorporated and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
<TABLE>
<CAPTION>
Six Months Ended
June 30,
1997 1996
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<S> <C> <C>
Net cash provided by operating activities $ 1,083,599 $ 368,129
Investing Activities:
Property and equipment additions ............................ (32,520) (25,717)
Loans and investments ....................................... (16,325) (10,000)
Proceeds from sale of assets ................................ 21,750 33,618
Due to Avis Rent A Car, Inc. ................................ (47,285) --
Investment in leases and leased vehicles .................... (1,179,905) (936,225)
Repayment of investment in leases and leased vehicles ....... 437,239 339,680
Proceeds from sales of mortgage servicing rights ............ 29,134 7,113
Net assets acquired, exclusive of cash acquired ............. (298,524) (992,163)
All other investing activities .............................. 18,449 1,481
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Net cash used in investing activities ................... (1,067,987) (1,582,213)
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Financing Activities:
Issuance of common stock, net ............................... 13,785 1,163,872
Proceeds from borrowings .................................... 1,284,196 1,073,675
Redemption of Series A Preferred Stock ...................... -- (80,000)
Net change in borrowings with terms of less than 90 days .... (54,948) 78,958
Principal payments on borrowings ............................ (1,133,432) (603,061)
Purchases of treasury stock ................................. (171,318) --
Stock option plan transactions .............................. 22,014 7,074
Payment of dividends ........................................ (6,644) (11,758)
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Net cash provided by (used in) financing activities ..... (46,347) 1,628,760
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Effect of changes in exchange rates on cash and cash equivalents 19,705 (3,003)
Net increase (decrease) in cash and cash equivalents ........... (11,030) 411,673
Cash and cash equivalents, beginning of period ................. 69,541 22,923
----------- -----------
Cash and cash equivalents, end of period ....................... $ 58,511 $ 434,596
=========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
HFS Incorporated and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation
The consolidated balance sheet of HFS Incorporated and subsidiaries
(the "Company") as of June 30, 1997, the consolidated statements of
operations for the three and six months ended June 30, 1997 and 1996, and
the consolidated statements of cash flows for the six months ended June 30,
1997 and 1996 are unaudited. In the opinion of management, all adjustments
necessary for a fair presentation of such financial statements are
included. There were no adjustments of an unusual nature recorded during
the three and six months ended June 30, 1997 and 1996 except for a one-time
charge of $303 million ($227 million after tax), recorded in the second
quarter of 1997 representing transaction and restructuring costs incurred
in connection with the merger of the Company with PHH Corporation ("PHH")
(See Note 4) and a $7.0 million restructuring charge ($4.3 million after
tax) recorded in June 1996, related primarily to the contribution of owned
Coldwell Banker brokerage offices to an independent trust. The Company is a
global provider of fee-based consumer services primarily to the travel and
real estate industries. The Company therefore experiences seasonal revenue
patterns similar to those of the travel and real estate industries wherein
the summer months produce higher revenue than other periods of the year.
Accordingly, the first and fourth quarters are traditionally weaker than
the second and third quarters and interim results are not necessarily
indicative of results for a full year.
The consolidated financial statements include the accounts and
transactions of all wholly-owned and majority owned subsidiaries, except
for the Company's ownership of Avis Rent A Car, Inc. ("ARAC"), which is
accounted for under the equity method (See Note 7). All material
intercompany balances and transactions have been eliminated in
consolidation. On April 30, 1997, the Company acquired PHH by merger, which
has been accounted for as a pooling of interests. Accordingly, the
accompanying consolidated financial statements have been restated as if the
Company and PHH had operated as one entity since inception (See Note 3).
The consolidated financial statements of the Company include the assets and
liabilities of Ramada Franchise Systems, Inc., an entity controlled by the
Company by virtue of its ownership of 100% of the common stock of such
entity. The assets of Ramada Franchise Systems, Inc. are not available to
satisfy the claims of any creditors of the Company or any of its other
affiliates, except as otherwise specifically agreed by Ramada Franchise
Systems, Inc.
The consolidated financial statements and notes are presented as
required by Form 10-Q and do not contain certain information included in
the Company's annual consolidated financial statements. The December 31,
1996 consolidated balance sheet was derived from the Company's audited
financial statements. This Form 10-Q should be read in conjunction with the
Company's consolidated financial statements and notes thereto, included in
the Form 8-K filed on July 16, 1997.
Certain reclassifications have been made to the 1996 consolidated
financial statements to conform with classifications used in 1997.
2. Pending Merger with CUC International, Inc.
On May 27, 1997, the Company entered into a definitive merger agreement
(the "CUC Merger") with CUC International, Inc. ("CUC") pursuant to which
each share of the Company's common stock shall be converted into the right
to receive 2.4031 shares of CUC common stock. CUC is a leading technology-
driven, membership-based consumer services company, providing its members
with access to a variety of goods and services worldwide, including such
services as shopping, travel, auto, dining, home improvement, lifestyle,
vacation exchange, credit card and checking account enhancement packages,
financial products and discount programs. CUC recorded total revenues and
net income of $2.3 billion and $164.1 million, respectively, for the year
ended January 31, 1997. Consummation of the transaction is subject to
approval of the shareholders of each company at special meetings of such
shareholders to be held in the second half of 1997. The CUC Merger, if
consummated, will be accounted for as a pooling of interests.
3. Merger with PHH Corporation
On April 30, 1997, the Company acquired PHH by merger (the "PHH
Merger"), issuing 30.3 million shares of Company common stock in exchange
for all of the outstanding common stock of PHH. Pursuant to the merger
agreement, PHH stockholders received .825 shares of Company common stock
for each share of PHH common stock. The PHH Merger has been accounted for
as a pooling of interests. Accordingly, the accompanying consolidated
financial statements have been prepared as if PHH and the Company had
operated as one entity since inception. PHH is the world's largest provider
of corporate relocation services and also provides mortgage services and
vehicle management services.
The following table shows the historical operating results of the
Company and PHH for the periods prior to the PHH merger ($000's):
For the four months For the six months
ended April 30, 1997 ended June 30, 1996
-------------------- -------------------
Net revenues
HFS $ 473,969 $ 300,403
PHH 237,838 322,641
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Total $ 711,807 $ 623,044
============ ==============
Net income
HFS $ 83,667 $ 61,619
PHH 41,747 41,998
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Total $ 125,414 $ 103,617
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4. Merger and Restructuring Charge
The Company recorded a one-time pre-tax merger and restructuring charge
("PHH Restructuring Charge") of $303 million ($227 million, after tax)
during the second quarter of 1997 in connection with the PHH Merger.
Excluding the PHH Restructuring Charge, net income was $120.6 million or
$0.69 per share for the three months ended June 30, 1997, and $211.7
million or $1.21 per share for the six months ended June 30, 1997,
respectively. The PHH Restructuring Charge is summarized by type as follows
($000's):
Personnel related $ 142.4
Professional fees 36.8
Business terminations 44.7
Facility related 57.1
Other costs 22.0
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Total $ 303.0
=============
<PAGE>
Personnel related charges are comprised of costs incurred in connection
with employee reductions associated with the combination of the Company's
relocation service businesses and the consolidation of corporate activities.
Personnel related charges include termination benefits such as severance,
medical and other benefits. Also included in personnel related charges are
supplemental retirement benefits resulting from the change of control. Several
grantor trusts were established and funded by the Company to pay such benefits
in accordance with the terms of the PHH merger agreement. Full implementation of
the restructuring plan will result in the termination of approximately 500
employees substantially all of whom are located in North America, of which 126
employees were terminated as of June 30, 1997. Professional fees are primarily
comprised of investment banking, accounting and legal fees incurred in
connection with the PHH Merger. Business termination charges relate to the exit
from certain activities associated with fleet management, mortgage services and
ancillary operations in accordance with the Company's revised strategic plan.
Facility related expenses include costs associated with contract and lease
terminations, asset disposals and other charges incurred in connection with the
consolidation and closure of excess space.
The Company anticipates that approximately $236.0 million will be paid in
cash in connection with the PHH Restructuring Charge of which $132.5 million was
paid through June 30, 1997. The remaining cash portion of the PHH Restructuring
Charge will be financed through cash generated from operations and borrowings
under the Company's credit facilities. It is currently anticipated that the
restructuring plan will be completed in early 1998 and will result in pre-tax
savings approximating $100 million with the full benefit of cost reductions
beginning in 1998. Revenue and operating results from activities that will not
be continued are not material to the results of operations of the Company.
5. Pro forma Information
The following table reflects the unaudited operating results of the
Company for the six months ended June 30, 1996 on a pro forma basis, which
gives effect to the following 1996 acquisitions, accounted for under the
purchase method of accounting, and the related financing of such
acquisitions as if they had occurred on January 1, 1996: (i) the Travelodge
franchise system; (ii) the Electronic Realty Associates franchise system;
(iii) the six CENTURY 21 non-owned regions; (iv) Coldwell Banker
Corporation; (v) Avis, Inc.; and (vi) Resort Condominiums International,
Inc. ($000's, except per share data):
For the six months
ended June 30, 1996
-------------------
Net revenues $ 963,942
Net income 141,212
Net income per share (fully diluted) 0.80
<PAGE>
6. Shareholders' Equity
In January 1997, in connection with the Company's acquisition of Avis,
Inc., (n/k/a HFS Car Rental, Inc.) the Company made a $17.6 million payment
to General Motors Corporation representing a contingent payment determined
by the price of the Company's common stock that was issued as consideration
for such acquisition. Such payment is reflected as a reduction of
shareholders' equity.
7. Investment in ARAC
The Company's investment in ARAC is accounted for using the equity
method of accounting. ARAC is not consolidated because of the Company's
plan to undertake an initial public offering of ARAC (the "IPO"), which
will dilute its interest in ARAC from 100% to approximately 25%. If the IPO
is not consummated within one year of the Company's acquisition of Avis,
Inc. on October 16, 1996, the Company will consolidate ARAC. Summarized
financial information of ARAC is as follows ($000's):
Avis Rent A Car, Inc.
June 30, 1997
Balance sheet data: June 30, 1997 December 31, 1996
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Vehicles ................................. $2,312,109 $2,243,492
All other assets ........................ 716,964 887,865
Debt .................................... 2,183,769 2,295,474
All other liabilities ................... 758,218 759,343
Shareholders' equity .................... 87,086 76,540
Three Month Six Months
Ended Ended
Statement of income data: June 30, 1997 June 30, 1997
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Revenues ................................. $ 489,633 $ 945,647
Income before provision for income taxes . 17,374 24,360
Net income ............................... 9,733 13,106
ARAC Subsequent Events
On August 8, 1997, ARAC signed a purchase agreement for the acquisition
of The First Gray Line Corporation and its subsidiaries for approximately
$195 million in cash plus expenses. The fair value of unaudited assets and
liabilities, exclusive of cost in excess of the fair value of net assets
acquired, at June 30, 1997 are $332.3 million and $296.3 million,
respectively. The transaction is subject to customary closing conditions
and regulatory approval.
On July 31, 1997, ARAC refinanced all of its domestic debt. This debt
was refinanced by utilizing a $3.65 billion asset-backed structure, which
consisted of (i) a $2.0 billion commercial paper program and (ii) a $1.65
billion medium term note issuance with maturities of 3 and 5 years.
ARAC is party to a $470.0 million secured credit agreement that
provides for (i) a revolving credit facility in the amount of up to $125.0
million which is available on a revolving basis until December 31, 2000
(the "Final Maturity Date") in order to finance the general corporate needs
of ARAC in the ordinary course of business (with up to a $75.0 million of
<PAGE>
such amount available for the issuance of standby letters of credit to
support worker's compensation and other insurance and bonding requirements
of ARAC, in the ordinary course of business), (ii) a term loan facility
in the amount of $120.0 million to finance general corporate needs in the
ordinary course of business, which will be repayable in four installments,
the first three of which shall be in the amount of $1.0 million payable on
June 30, 1998, June 30, 1999 and June 30, 2000 and the remainder of which
will be due on the Final Maturity Date, and (iii) a standby letter of
credit facility of up to $225.0 million available on a revolving basis to
fund (a) any shortfall in certain payments owing pursuant to fleet lease
agreements and (b) maturing commercial paper notes if such commercial paper
notes cannot be repaid through the issuance of additional commercial paper
notes or draws under the liquidity facility.
8. Subsequent Event
On August 12, 1997 the Company agreed to make an investment in NRT
Incorporated ("NRT"), a newly formed corporation created to acquire residential
real estate brokerage firms. The Company has agreed to invest $157 million and,
under certain conditions, to invest up to approximately an additional $100
million, in senior and convertible preferred stock of NRT and may also purchase
approximately $400 million of certain assets of real estate brokerage firms
acquired by NRT. NRT has agreed to acquire the assets of National Realty Trust,
("Trust") an independent trust to which the Company contributed the owned
brokerage business of Coldwell Banker Corporation in connection with the
Company's acquisition of Coldwell Banker Corporation on May 31, 1996. The
Company's investment in NRT is subject to the Trust acquisition. The acquisition
of the Trust is subject to customary conditions, including anti-trust
clearances. There can be no assurances that any such transaction will be
consummated.
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
GENERAL OVERVIEW
HFS Incorporated (together with its subsidiaries) is a leading global
provider of consumer services. The Company provides fee-based services that
primarily fall within the Travel and Real Estate industries, in which the
Company generally does not own the assets or share the risks associated with the
underlying businesses of its customers. The businesses acquired by the merger
with PHH Corporation ("PHH") on April 30, 1997 are consistent with this profile
and provide the Company with various cross-marketing opportunities within its
business segments.
On May 27, 1997, the Company entered into a definitive merger agreement
with CUC International, Inc. ("CUC"), pursuant to which each share of the
Company's common stock shall be converted into the right to receive 2.4031
shares of CUC common stock. CUC, a leading technology-driven membership-based
consumer services company with shares traded on the New York Stock Exchange,
reported $2.5 billion of total assets at January 31, 1997 and $2.3 billion and
$164.1 million of revenue and net income, respectively, for the fiscal year
ended January 31, 1997. CUC's business profile is consistent with the Company's
in that CUC's primary revenue source consists of recurring membership revenue
rather than revenue from the sale of goods and services to club members.
Membership is generated through CUC's technology-driven direct marketing
efforts. The combination of CUC and HFS is intended to provide CUC's membership
businesses access to the Company's more than 100 million consumer contacts,
while providing Company businesses with the technology-driven, direct marketing
expertise necessary to successfully cross-market within its existing business
units.
In the travel industry, the Company is the world's largest franchisor of
lodging facilities ("Lodging"), the leading provider of vacation timeshare
exchange services ("Timeshare") and a leading provider of international fleet
management services ("Fleet Management"). The Company also owns HFS Car Rental,
Inc. (formerly Avis, Inc.) which operates, through an indirect subsidiary
("ARAC") or through licensees, the second largest general use car rental system
in the world. The Company expects to complete an initial public offering (the
"IPO") of ARAC in September 1997. The IPO is expected to dilute the Company's
interest in ARAC to approximately 25% and replace car rental ownership earnings
with revenue from franchise and related agreements ("Car Rental").
In the real estate industry, the Company is the world's largest franchisor
of real estate brokerage offices ("Real Estate Franchise"), the world's largest
provider of corporate relocation services ("Relocation") and operates the
thirteenth largest mortgage service business in the United States ("Mortgage
Services").
The merger with PHH was accounted for as a pooling of interests and
accordingly the financial results discussed herein have been restated to include
PHH for all periods presented. All comparisons in the following discussion are
to the same period of the previous year, unless otherwise stated.
Certain statements in this Quarterly Report on Form 10-Q constitute
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. Such forward-looking statements involve known and
unknown risks, uncertainties and other factors which may cause the actual
results, performance, or achievements of the Company to be materially different
from any future results, performance, or achievements expressed or implied by
such forward-looking statements. These forward-looking statements were based on
various factors and were derived utilizing numerous important assumptions and
other important factors that could cause actual results to differ materially
from those in the forward-looking statements.
<PAGE>
Important assumptions and other important factors that could cause actual
results to differ materially from those in the forward-looking statements,
include, but are not limited to: uncertainty as to the Company's future
profitability; the Company's ability to develop and implement operational and
financial systems to manage rapidly growing operations; competition in the
Company's existing and potential future lines of business; the Company's ability
to integrate and operate successfully acquired businesses and the risks
associated with such businesses; the Company's ability to obtain financing on
acceptable terms to finance the Company's growth strategy and for the company to
operate within the limitations imposed by financing arrangements; uncertainty as
to the future profitability of acquired businesses, and other factors. Other
factors and assumptions not identified above were also involved in the
derivation of these forward-looking statements, and the failure of such other
assumptions to be realized as well as other factors may also cause actual
results to differ materially from those projected. The Company assumes no
obligation to update these forward-looking statements to reflect actual results,
changes in assumptions or changes in other factors affecting such
forward-looking statements.
RESULTS OF OPERATIONS
2Q 1997 vs 2Q 1996
The Company incurred an anticipated $303 million one-time merger and
restructuring charge ($227 million, after tax) (the "PHH Restructuring Charge")
during the second quarter of 1997 in connection with the merger with PHH on
April 30, 1997. As a result, the Company reported a consolidated net loss of
$106.4 million compared to $59.9 million of net income in 1996. The Company
reported a net loss per share of $.67 compared to earnings per share ("EPS") of
$.38 in 1996. The second quarter operating loss (revenue less expenses excluding
interest and income taxes) of $80.9 million represented a $187.0 million change
from $106.1 million of operating income reported in 1996.
The PHH Restructuring Charge was comprised of approximately $142.4 million
of personnel related expenses, $36.8 million of professional fees, $44.7 million
of business termination costs, $57.1 million of facility related expenses and
$22.0 million of other expenses directly associated with the PHH Merger.
Personnel related charges are comprised of costs incurred in connection with
employee reductions associated with the combination of the Company's relocation
service businesses and the consolidation of corporate activities. Personnel
related charges include termination benefits such as severance, medical and
other benefits. Also included in personnel related charges are supplemental
retirement benefits resulting from the change of control. Several grantor trusts
were established and funded by the Company to pay such benefits in accordance
with the terms of the PHH merger agreement. Full implementation of the
restructuring plan will result in the termination of approximately 500 employees
substantially all of whom are located in North America, of which 126 employees
were terminated as of June 30, 1997. Professional fees are primarily comprised
of investment banking, accounting and legal fees incurred in connection with the
PHH Merger. Business termination charges relate to the exit of certain
activities associated with fleet management, mortgage services and ancillary
operations in accordance with the Company's revised strategic plan. Facility
related expenses include costs associated with contract and lease terminations,
asset disposals and other charges incurred in the consolidation and closure of
excess space.
The Company anticipates that approximately $236.0 million will be paid in
cash in connection with the PHH Restructuring Charge of which $132.5 million was
paid through June 30, 1997. The remaining cash portion of the PHH Restructuring
Charge will be financed through cash generated from operations and borrowings
under the Company's credit facilities. It is currently anticipated that the
restructuring plan will be completed in early 1998 and will result in pre-tax
savings approximating $100 million with the full benefit of cost reductions
<PAGE>
beginning in 1998. Revenue and operating results from activities that will not
be continued are not material to the results of operations of the Company.
Interest expense increased $11.9 million primarily resulting from
borrowings under revolving credit arrangements which financed 1997 treasury
stock purchases, restructuring expenditures, the acquisition of Resort
Condominiums International, Inc. and other acquisition related expenditures. The
weighted average effective interest rate increased from 5.56% to 5.73% as a
result of a greater percentage of total debt comprised of borrowings under the
revolving credit facilities partially offset by fixed rate securities with lower
interest rates.
The financial summary for the three months ended June 30, 1997 and 1996,
including the PHH Restructuring Charge follows ($000's):
1997 1996 Variance
----------- ---------- ---------
Net revenue $ 579,620 $ 345,317 68%
Operating expenses 660,480 239,227 176%
----------- ----------
Operating income (loss) $ (80,860) $ 106,090 --%
============ ==========
Net income (loss) $ (106,449) $ 59,939 --%
Interest, net $ 17,070 $ 5,141 232%
Excluding the PHH Restructuring Charge, consolidated net income increased
101% ($60.6 million) to $120.6 million in 1997 while earnings per share
increased 82% ($.31) to $.69. Operating income increased 109% ($116.1 million)
to $222.1 million. The financial summary for the three months ended June 30,
1997 and 1996, excluding the PHH Restructuring Charge follows ($000's):
1997 1996 Variance
---------- ---------- ---------
Operating income $ 222,140 $ 106,090 109%
Net income $ 120,551 $ 59,939 101%
SEGMENT DISCUSSION OF OPERATING INCOME
Since the majority of the PHH Restructuring Charge does not directly apply
to the Company's operating segments, the following segment information and
discussions exclude the PHH Restructuring Charge.
The Company collects certain service fees from lodging and real estate
franchisees, which it disburses completely for marketing and reservation
activities on behalf of franchisees. Since the Company administers such funds on
a pass through basis, management analyzes business results from the Lodging and
Real Estate franchise segments in terms of revenue (net of marketing and
reservation expenses) ("adjusted net revenue") and operating expenses. Adjusted
net revenue consists of gross revenue of $579.6 million and $345.3 million for
1997 and 1996, respectively, less $47.8 million and $43.9 million of marketing
and reservation expenses, for the same respective periods. Operating expenses
include depreciation and amortization but excludes interest expense and income
taxes. Results for the Company's segments are as follows:
Operating income ($000's) 1997 1996 Variance
- ------------------------- -------- -------- ---------
Adjusted net revenue ............. $531,832 $301,444 76%
Operating expenses ............... 309,692 195,354 59%
-------- --------
Operating income ................. $222,140 $106,090 109%
======== ========
<PAGE>
TRAVEL INDUSTRY
Lodging
The Company operates eight nationally recognized brands with approximately
5,600 lodging properties under franchise contracts of up to 20 years in
duration. The Company provides central reservation system services and national
marketing programs, which are completely funded by its franchisees based on a
designated portion of the franchise fees. The Company charges royalty fees based
on a percentage of franchisee gross room sales to fund all expenses not covered
by marketing and reservation fees, such as quality assurance inspections and
franchise sales and service functions. Accordingly, the significant revenue
drivers of the lodging segment are the number of royalty-paying franchise units
and the average royalty rate which they pay. Relevant but less significant are
the average daily rates and occupancy percentage of the underlying lodging
properties.
Operating income ($000's) 1997 1996 Variance
- ------------------------- ------- ------- --------
Adjusted net revenue ............ $63,438 $58,397 9%
Operating expenses .............. 19,237 21,147 (9%)
------- -------
Operating income ................ $44,201 $37,250 19%
======= =======
Operating income increased 19% as a result of a 9% increase in adjusted net
revenue and a 9% reduction in operating expenses. The adjusted net revenue
increase resulted from a 6% increase in royalty fees and a 55% increase in
revenue from preferred alliances seeking access to the Company's franchisees and
their underlying consumer base. Total royalty paying rooms grew 5% from the same
period in 1996 and total system revenue per available room ("REVPAR") increased
2% primarily due to a 2% increase in the average daily rates charged at
franchised lodging facilities ("ADR"). The 9% ($1.9 million) decrease in
operating expenses resulted from the absorption of corporate overhead expenses
by the Company's other operating segments, substantially all of which were
acquired in 1996.
Car Rental
The Company acquired Avis, Inc. on October 17, 1996 for $806.5 million in
cash and Company common stock. Prior to the acquisition date, the Company
announced its plan to undertake an initial public offering ("IPO") of ARAC
within one year of the acquisition date and dilute its interest in ARAC to
approximately 25%. The Company will retain assets that are consistent with the
Company's service provider business profile, including the trademark, franchise
agreements, reservation system and information technology system assets. The
Company currently receives fees based on franchise agreements from ARAC and
third party licensees that are typical of a traditional franchise relationship.
The Company's equity in the earnings of ARAC after royalty and reservation fees
are recorded in the Company's other segment as revenue.
Operating income ($000's)
Adjusted net revenue $ 60,036
Operating expenses 37,669
-----------
Operating income $ 22,367
===========
The car rental segment generated $22.4 million of operating income in the
second quarter of 1997. Adjusted net revenue consisted primarily of $46.9
million of franchise fees and $11.6 million of information technology fees from
third party clients. Operating expenses consisted primarily of $11.5 million and
<PAGE>
$15.1 million of reservation and information technology expenses as well as $9.2
million of depreciation and amortization expenses associated with the Avis
trademark and goodwill.
Timeshare
The Company acquired Resort Condominiums International, Inc. ("RCI") on
November 12, 1996 for $487 million plus up to $200 million of contingent
consideration. RCI sells subscription memberships to owners of vacation
timeshare resorts which allows the members to exchange their timeshare
accommodations for timeshare accommodations owned by other members at
participating affiliated resorts worldwide. In addition to membership fees, RCI
earns fees for exchanges processed by its call center. The key timeshare revenue
drivers include the number of fee paying members and exchanges as well as each
corresponding average fee. The operating income summary for 1997 is as follows:
Operating income ($000's)
Adjusted net revenue $ 89,261
Operating expenses 70,416
-----------
Operating income $ 18,845
===========
Adjusted net revenue primarily consists of $30.8 million of membership fees and
$43.0 million of exchange fees. Assuming Company ownership of timeshare
operations since January 1, 1996, pro forma membership and exchange fee revenue
increased 20% and 16%, respectively. Total members and exchanges increased 8% to
2.0 million and 11% to 405,100 compared to 1996, respectively. Operating
expenses consist primarily of $39.3 million and $5.6 million of staff and
communication costs, respectively, associated with member service (call centers)
and other timeshare functions.
Fleet Management
Fleet management services are offered to corporate clients and government
agencies to assist them in effectively managing their vehicle fleet costs,
reducing in-house administrative costs and enhancing driver productivity.
Services consist of leasing (which generally requires an investment by the
Company in the vehicles and includes new vehicle purchasing, open and closed-end
operating leasing, direct finance leasing and used vehicle marketing) as well as
a variety of fee-based services including fuel purchasing, maintenance
management programs, expense reporting, fuel management programs, accident and
safety programs and other driver services for managing clients' vehicle fleets.
The Company has experienced minimal losses associated with its investment in
vehicles due to the overall creditworthiness of its corporate clients.
Operating income ($000's) 1997 1996 Variance
- ------------------------- ------- ------- --------
Adjusted net revenue ............ $65,786 $62,822 5%
Operating expenses .............. 40,756 46,150 (12%)
------- -------
Operating income ................ $25,030 $16,672 50%
======= =======
Operating income increased $8.4 million (50%) to $25.0 million, primarily
as a result of a $6.4 million (23%) increase in fee-based services. The $5.4
million (12%) decrease in operating expenses was primarily attributable to
expenses associated with a truck fuel management business which was sold in
January 1996 and operational efficiencies realized as part of the second quarter
1997 restructuring of certain fleet management operations.
<PAGE>
REAL ESTATE INDUSTRY
Real Estate Franchise
The Company licenses brand names to independently owned brokerage offices
associated with three of the four largest real estate brokerage franchise
systems in the world. The Company acquired the world's largest franchise system,
the CENTURY 21 franchise system in, August 1995, the ERA franchise system in
February 1996 and the Coldwell Banker franchise system in May 1996. The most
significant revenue driver for the real estate franchise business is the number
of home sales transactions for which the broker receives commission revenue.
Royalties are calculated based on a percentage of franchisee commission revenue
and fund franchise sales, service and training expenses. Marketing fee
collections fund national advertising expenditures and other marketing
activities.
Operating income ($000's) 1997 1996 Variance
- ------------------------- ------- ------- --------
Adjusted net revenue ............. $80,556 $53,238 51%
Operating expenses ............... 33,075 29,787 11%
------- -------
Operating income ................. $47,481 $23,451 102%
======= =======
Operating income increased 102% as a result of a $27.3 million (51%)
increase in adjusted net revenue and only a $3.3 million (11%) increase in
operating expenses. The royalty portion of revenue increased $23.9 million (47%)
to $74.6 million, primarily attributable to acquired Coldwell Banker franchise
system operations. Pro forma royalty revenue, which gives effect to the
acquisitions of the Coldwell Banker and ERA franchise systems as if these
acquisitions were consummated on January 1, 1996, would have increased $4.4
million (6%) on the strength of a 10% increase in the average price of homes
sold. Operating expenses increased 11% as a result of incremental expenses
associated with acquired franchise systems net of a $5.0 million charge
associated with the second quarter 1996 contribution of Coldwell Banker's former
owned brokerage business to National Realty Trust ("Trust"), an independent
entity governed by independent trustees.
Mortgage Services
Mortgage services primarily consist of the origination, sale and servicing
of residential first mortgage loans. The Company packages such mortgage loans
for sale in secondary markets generally within 90 days of origination and
retains servicing rights. The Company markets a variety of first mortgage
products to consumers through relationships with corporations, affinity groups,
government agencies, financial institutions, real estate brokerage firms and
mortgage banks by a combination of retail teleservices delivery and wholesale
correspondent lending arrangements.
Operating income ($000's) 1997 1996 Variance
- ------------------------- ------- ------- --------
Adjusted net revenue ............. $42,497 $35,269 20%
Operating expenses ............... 23,829 21,631 10%
------- -------
Operating income ................. $18,668 $13,638 37%
======= =======
Operating income increased 37% as a result of a 20% increase in adjusted
net revenue, net of a 10% increase in operating expenses. The increase in
adjusted net revenue resulted from a 44% increase in loan origination revenue
offset by a 16% decrease in loan servicing fees. The volume of loan closings
increased 6% from $2.3 billion to $2.5 billion and the average origination fee
increased from 91 to 124 basis points. The increase in the average fee was due
to an increase in profitability achieved in the sale of loans in the secondary
market and an increase in volume from retail teleservices delivery. The
portfolio of loans serviced increased 17% from $22.0 billion to $25.6 billion,
the average servicing fee decreased 28% from 6.4 to 4.6
<PAGE>
basis points. The decrease in the average fee earned is due to the impact of
SFAS 122 which became effective in 1995. Operating expenses increased as a
result of the larger servicing portfolio and increased recruiting and staff
training expenses.
Relocation
Relocation segment services primarily consist of the purchase, management
and resale of homes and fee based home related services for transferred
employees of corporate clients, members of affinity group clients and government
agencies. Although the Company acquires the home of client employees, the client
corporation reimburses the Company for carrying costs until the home is sold and
for home sale losses. Accordingly, the Company earns a fee for services with
minimal real estate risk. Operating expenses primarily consist of sales and
service staffing and related costs. Operating results include contributions from
PHH Real Estate Services, Inc. for both periods shown and Coldwell Banker
Relocation Services, Inc. ("CBRS") since May 31, 1996.
Operating income ($000's) 1997 1996 Variance
- ------------------------- -------- -------- --------
Adjusted net revenue ............. $103,448 $ 83,741 24%
Operating expenses ............... 78,158 72,871 7%
-------- --------
Operating income ................. $ 25,290 $ 10,870 133%
======== ========
The $14.4 million (133%) increase in operating income is attributable to a
$19.7 million (24%) increase in adjusted net revenue net of a $5.3 million (7%)
increase in expenses. The increase in adjusted net revenue was primarily
attributable to $8.3 million of incremental revenue generated by acquired CBRS
operations. Pro forma revenue increased $6.1 million (6%) from 1996 primarily as
a result of an increase in referral fees. The $5.3 million increase in operating
expenses included expenses associated with the acquired operations net of $2.4
million of restructuring related savings in 1997.
Other Segment
Other segment business operations primarily consist of casino credit
information and marketing services ("Casino Services"), the equity in earnings
from the Company's investment in ARAC after charging ARAC franchise,
reservation, and information technology fees and other operations or
transactions which are not included in the Company's primary business segments.
Operating expenses also include corporate overhead expenses which could not be
allocated to other operating business segments. Operating income is summarized
as follows:
Operating income ($000's) 1997 1996 Variance
- ------------------------- ------- ------- --------
Adjusted net revenue ............. $26,810 $ 7,977 236%
Operating expenses ............... 6,552 3,768 74%
------- -------
Operating income ................. $20,258 $ 4,209 381%
======= =======
Operating income increased $16.0 million (381%) primarily as a result of
$20.8 million of equity in earnings of ARAC, which was acquired in October 1996.
Such gains were offset by the absence of $4.1 million in fees associated with
the license of the CENTURY 21 trademark to Amre, Inc. which filed for bankruptcy
protection in February 1997.
<PAGE>
Year-To-Date 1997 vs 1996
As a result of the $303 million PHH Restructuring Charge, the Company
reported a $15.3 million net loss, representing a $119.0 million decrease from
1996. The Company reported a net loss per share of $.10 compared to EPS of $.68
in 1996. Operating income decreased 53% ($98.1 million) from 1996 to $87.4
million. Consolidated net revenue increased 76% ($476.6 million) to $1.1
billion.
Interest expense increased 186% ($20.0 million) primarily resulting from
borrowings under revolving credit arrangements which financed 1997 treasury
stock purchases, restructuring expenditures, the RCI acquisition and other
acquisition related expenditures, while the weighted average effective interest
rate increased from 5.61% to 5.72% as a result of a greater percentage of total
debt comprised of borrowings under the revolving credit facilities partially
offset by fixed rate securities with lower interest rates.
The financial summary for the six months ended June 30, 1997 and 1996
including the PHH Restructuring Charge follows ($000's):
1997 1996 Variance
----------- ----------- --------
Net revenue ............... $ 1,099,597 $ 623,044 76%
Operating expenses ........ 1,012,189 437,504 131%
----------- -----------
Operating income .......... $ 87,408 $ 185,540 53%
=========== ===========
Net income (loss) ......... $ (15,344) $ 103,617 --%
Interest, net ............. $ 30,747 $ 10,766 186%
Excluding the PHH Restructuring Charge, consolidated net income increased
104% ($108.0 million) to $211.7 million in 1997, while EPS increased 78% ($.53 )
to $1.21. Operating income increased 110% (204.8 million) to $390.4 million. The
financial summary for the six months ended June 30, 1997 and 1996, excluding the
PHH Restructuring Charge follows ($000's):
1997 1996 Variance
-------- -------- --------
Operating income .............. $390,408 $185,540 110%
Net income .................... $211,656 $103,617 104%
SEGMENT DISCUSSION OF OPERATING INCOME
Since the majority of the PHH Restructuring Charge does not directly apply
to the Company's operating segments, the following segment information and
discussions exclude the PHH Restructuring Charge.
Adjusted net revenue consists of gross revenue of $1.1 billion and $623.0
million for 1997 and 1996, respectively, less $85.8 million and $75.5 million of
marketing and reservation revenue, for the same respective periods. Operating
expenses include depreciation and amortization but exclude interest expense and
income taxes. Results for the Company's segments are as follows:
Operating income ($000's) 1997 1996 Variance
- ------------------------- ----------- ---------- --------
Adjusted net revenue .......... $1,013,789 $ 547,553 85%
Operating expenses ............ 623,381 362,013 72%
---------- ----------
Operating income .............. $ 390,408 $ 185,540 110%
========== ==========
<PAGE>
TRAVEL INDUSTRY
Lodging
Operating income ($000's) 1997 1996 Variance
- ------------------------- -------- -------- --------
Adjusted net revenue ............ $117,480 $109,657 7%
Operating expenses .............. 37,279 44,458 (16%)
-------- --------
Operating income ................ $ 80,201 $ 65,199 23%
======== ========
Operating income increased 23% as a result of a 7% increase in adjusted net
revenue and a 16% reduction in operating expenses. The adjusted net revenue
increase resulted from a 6% increase in royalty fees and a 70% increase in
revenue from preferred alliances seeking access to the Company's franchisees and
their underlying consumer base. Total royalty paying rooms grew 3% from the same
period in 1996 and total REVPAR increased 2% primarily due to a 3% increase in
ADR charged at franchised lodging facilities. The 16% ($7.2 million) decrease in
operating expenses resulted from the absorption of corporate overhead expenses
by the Company's other operating segments, substantially all of which were
acquired in 1996.
Car Rental
Operating income ($000's) 1997
- ------------------------- ---------
Adjusted net revenue .................................$ 118,870
Operating expenses ................................... 76,293
--------
Operating income .....................................$ 42,577
=========
The car rental segment generated $42.6 million of operating income in the
six months ended June 30, 1997. Adjusted net revenue consisted primarily of
$86.9 million of franchise fees and $21.6 million of information technology fees
from third party clients. Operating expenses consisted primarily of $22.4
million and $30.3 million of reservation and information technology expenses as
well as $18.5 million of depreciation and amortization expenses associated with
the Avis trademark and goodwill.
Timeshare
Operating income ($000's) 1997
- ------------------------- ---------
Adjusted net revenue ................................ $ 187,710
Operating expenses ................................... 148,139
---------
Operating income .....................................$ 39,571
=========
Adjusted net revenue primarily consists of $61.6 million of membership fees
and $92.8 million of exchange fees. Assuming Company ownership of timeshare
operations since January 1, 1996, pro forma first quarter membership revenue and
exchange fee revenue would have increased 23% and 10% respectively. Total
members and exchanges increased 8% to 2.0 million and 6% to 880,000 compared to
1996, respectively. Operating expenses consist primarily of $94.9 million and
$25.1 million of staff and communication costs, respectively, associated with
member service (call centers) and other timeshare functions.
Fleet Management Services
Operating income ($000's) 1997 1996 Variance
- ------------------------- -------- -------- --------
Adjusted net revenue ............ $146,581 $133,770 10%
Operating expenses .............. 89,387 90,899 (2%)
-------- --------
Operating income ................ $ 57,194 $ 42,871 33%
======== ========
<PAGE>
Operating income increased $14.3 million (33%) to $57.2 million, primarily
as a result of a $9.4 million (14%) increase in fee-based services. The $1.5
million (2%) decrease in operating expenses was primarily associated with
expenses associated with a truck fuel management business which was sold in
January 1996 and operational efficiencies realized as part of the second quarter
1997 restructuring of certain fleet management operations.
REAL ESTATE INDUSTRY
Real Estate Franchise
Operating income ($000's) 1997 1996 Variance
- ------------------------- -------- -------- --------
Adjusted net revenue ............. $133,734 $ 75,600 77%
Operating expenses ............... 66,557 43,785 52%
-------- --------
Operating income ................. $ 67,177 $ 31,815 111%
======== ========
Operating income increased 111% as a result of a $58.1 million (77%)
increased in adjusted net revenue and only a $22.8 million (52%) increase in
operating expenses. The royalty portion of revenue increased $52.4 million (74%)
to $123.0 million primarily attributable to acquired Coldwell Banker franchise
system operations. Pro forma royalty revenue, which gives effect to the
acquisitions of Coldwell Banker and ERA as if these acquisitions were
consummated on January 1, 1996, would have increased $6.8 million (6%) on the
strength of an 8% increase in the average price of homes sold. Operating
expenses increased as a result of incremental expenses associated with acquired
franchise systems.
Relocation
Operating income ($000's) 1997 1996 Variance
- ------------------------- -------- -------- --------
Adjusted net revenue ............. $188,693 $151,115 25%
Operating expenses ............... 149,441 132,885 12%
-------- --------
Operating income ................. $ 39,252 $ 18,230 115%
======== ========
The $21.0 million (115%) increase in operating income is attributable to
approximately $14.3 million of operating income from relocation businesses owned
for the entire six month periods of 1997 and 1996 and the balance was generated
from acquired CBRS operations.
Mortgage Services
Operating income ($000's) 1997 1996 Variance
- ------------------------- ------- ------- --------
Adjusted net revenue ............. $76,129 $55,154 38%
Operating expenses ............... 44,669 39,087 14%
------- -------
Operating income ................. $31,460 $16,067 96%
======= =======
Operating income increased 96% as a result of a 38% increase in adjusted
net revenue, net of a 14% increase in operating expenses. The increase in
adjusted net revenue resulted from a 63% increase revenue from new production
and a 7% increase in revenue from the servicing portfolio. The volume of new
loan production decreased 6% from $4.5 billion to $4.3 billion as a result of a
37% decrease in refinancing volume which was offset by a 21% increase in
purchase mortgage volume. The average fee earned in new production increased
from 68 basis points to 117 basis points as a result of improved profitability
achieved in the sale
<PAGE>
of loans in the secondary market. Operating expenses increased 14% due to the
larger servicing portfolio as well as increased recruiting, training and systems
development costs.
Other Segment
Operating income ($000's) 1997 1996 Variance
- ------------------------- ------- ------- --------
Adjusted net revenue ............. $44,592 $22,257 100%
Operating expenses ............... 11,616 10,898 7%
------- -------
Operating income ................. $32,976 $11,359 190%
======= =======
Operating income increased 190% ($21.6 million) primarily as a result of
$24.3 million of equity in earnings of ARAC, which was acquired in October 1996.
LIQUIDITY AND CAPITAL RESOURCES
Acquisitions Overview
The Company continues to seek to expand and strengthen its leadership
position in the travel and real estate industry segments. Following the April
30, 1997 merger with PHH, the Company believes it has achieved annual points of
contact with over 100 million consumers involved in significant dollar volumes
of annual transactions in the travel and real estate industries. The Company's
desire to cross-market within its businesses and expand the revenue streams of
each business as well as market to its millions of consumer contacts was the
primary motivation for the proposed merger with CUC, which the Company believes
currently possesses the expertise in direct marketing necessary to accomplish
the Company's objectives.
The Company's businesses acquired by purchase share similar
characteristics, foremost of which is that each was immediately accretive to
Company earnings. Revenue is substantially generated from service fees and not
dependent on tangible assets or the need for capital expenditures other than
technology investments which support and historically have been substantially
funded by the Company's customers. These service businesses each generate
significant cash flow which is enhanced by the Company's operating leverage that
provides acquired revenue streams without corresponding increases in operating
infrastructure expenses. The Company is currently positioned to cross market
within its existing business segments and continues to pursue acquisitions
and/or investments in service businesses that fit the profile described above.
Assuming the successful completion of the proposed CUC merger, the Company
expects to significantly enhance its opportunities to cross-market within its
existing business segments. The Company continues to pursue acquisitions and/or
investments in service businesses that fit the profile described above.
Acquisitions
C21 HOLDING CORP - On May 15, 1997, the Company acquired the 12.5% minority
ownership interest in C21 Holding Corp., the parent company of Century 21 Real
Estate Corporation from a company comprised primarily of former management
employees for $52.8 million. Such purchase resulted in an increase in goodwill
associated with the August 1995 acquisition of the CENTURY 21 franchise system.
PHH - On April 30, 1997, the Company acquired PHH by merger for 30.3 million
shares of Company common stock, exchanged for all of the outstanding common
stock of PHH. PHH operates the world's largest provider of corporate relocation
services and also provides mortgage services and fleet management services.
This transaction was accounted for as a pooling of interests.
<PAGE>
The Company incurred a $303 million merger and restructuring charge upon the
close of the PHH Merger in the second quarter of 1997. The charge includes
severance, facility consolidation and other transaction related costs associated
with the restructuring of Company and PHH businesses. The restructuring charge
was paid with borrowings under the Company's revolving credit facility. The
Company estimates the charge will result in annual pre-tax savings of
approximately $100 million with the full benefit of cost reductions beginning in
1998.
Sheraton - On January 27, 1997, Hilton Hotels Corporation ("Hilton") announced
that it had reached a preliminary understanding to license certain assets to the
Company in connection with its pending tender offer for the outstanding common
stock of ITT Corporation ("ITT"). Pursuant to the preliminary understanding,
subject to Hilton's successful acquisition of ITT, the Company would license the
Sheraton trademark, franchise system and management agreements worldwide under a
long-term contract. The transaction is subject to Hilton's acquisition of ITT as
well as negotiation of definitive agreements relating to the proposed license
agreement. There can be no assurance that Hilton's attempt to acquire ITT will
be successful or that the Company and Hilton will consummate the proposed
licensing transaction.
Equity Transactions
Treasury Purchases - On January 7, 1997, the Board of Directors authorized the
purchase of up to 2.6 million shares of Company common stock to satisfy stock
option exercises and conversions of convertible debt securities and for future
acquisitions. The Company acquired approximately 2.6 million treasury shares in
the first quarter of 1997 for $171.3 million. Such purchases were funded by
operating cash flow and with proceeds received from borrowings under the
Company's revolving credit facilities.
Financing
Management believes that the Company has excellent liquidity and has
expanded its access to liquidity following both the completed merger with PHH
and the proposed merger with CUC. Most significant, the Company has generated
significant positive cash flow from operations in every quarter since its
initial public offering in December 1992, excluding the second quarter of 1997
when it incurred a pre-tax $303 million merger and restructuring charge in
connection with the PHH merger. The Company has demonstrated its ability to
access equity and public debt markets and financial institutions to generate
capital for strategic transactions. Indicative of the Company's
creditworthiness, Standard & Poors Corporation ("S&P") affirmed its A credit
rating of the Company's publicly issued debt following the announcement of both
the PHH and CUC mergers and Moody's Investors Service, Inc. ("Moody's") upgraded
the Company's debt rating to A3 following the PHH merger. Please note that a
rating is not a recommendation to buy, sell or hold securities and is subject to
revision or withdrawal at any time by the rating agency. Each rating should be
evaluated independently of any other rating.
Liquidity is available to the Company through revolving credit facilities
which may provide up to $1.5 billion of unsecured borrowings at interest rates
generally approximating LIBOR plus a margin of 22.5 basis points. The proposed
combined company expects to amend or replace either the CUC or HFS revolving
credit facility with a syndicated facility or facilities aggregating
approximately $2 billion with tranches of various tenor. At June 30, 1997, the
Company had $605 million of outstanding borrowings under its revolving credit
facilities.
The Company filed a shelf registration statement with the Securities and
Exchange Commission effective August 29, 1996, for the aggregate issuance of up
to $1 billion of debt and equity securities. These securities may be offered
from time to time, together or separately, based on terms to be determined at
the time of sale.
<PAGE>
The proceeds may be used for general corporate purposes, which may include
future acquisitions. The Company expects to replace this shelf registration
statement after the merger with CUC.
Long-term debt increased $425 million to $1.2 billion at June 30, 1997,
when compared to amounts outstanding at December 31, 1996 primarily as a result
of $171.3 million of treasury share purchases and approximately $115 million of
acquisition liability payments. Long-term debt primarily consists of $536
million of fixed rate publicly issued debt and $615 million of borrowings under
the Company's revolving credit facilities.
PHH will continue to operate its mortgage services, fleet management and
relocation businesses as a separate public reporting entity and support
purchases of leased vehicles and originated mortgages primarily by issuing
commercial paper and medium term notes. Although PHH's debt to equity ratio
approximates 8 to 1, such debt corresponds directly with net investments in high
quality related assets. Accordingly, following the announcement of the PHH
merger, S&P and Moody's affirmed investment grade ratings of A+ and A2,
respectively, to PHH debt and A1 and P1, respectively, to PHH commercial paper.
PHH debt is issued without recourse to the Company. The Company expects to
continue to have broad access to global capital markets by maintaining the
quality of its assets under management. This is achieved by establishing credit
standards to minimize credit risk and the potential for losses. Depending upon
asset growth and financial market conditions, PHH utilizes the United States,
European and Canadian commercial paper markets, as well as other cost-effective
short-term instruments. In addition, PHH will continue to utilize the public and
private debt markets to issue unsecured senior corporate debt. Augmenting these
sources, PHH will continue to reduce outstanding debt by the sale or transfer of
managed assets to third parties while retaining fee-related servicing
responsibility. At June 30, 1997, PHH's aggregate outstanding borrowings
approximated $3.1 billion in outstanding commercial paper, $1.5 billion in
medium-term notes and $0.2 billion in other debt securities.
To provide additional financial flexibility, PHH's current policy is to
ensure that minimum committed facilities aggregate 80 percent of the average
amount of outstanding commercial paper. PHH maintains a $2.5 billion syndicated
unsecured credit facility which is backed by domestic and foreign banks and is
comprised of $1.25 billion of lines of credit maturing in 364 days and $1.25
billion of lines of credit maturing in five years. In addition, PHH has
approximately $300 million of uncommitted lines of credit with various financial
institutions. Management closely evaluates not only the credit quality of the
banks but the terms of the various agreements to ensure ongoing availability.
The full amount of PHH's committed facilities at June 30, 1997 was undrawn and
available. Management believes that its current policy provides adequate
protection should volatility in the financial markets limit PHH's access to
commercial paper or medium-term note funding.
The Company and PHH currently operate under policies limiting (a) the
payment of dividends on PHH's capital stock to 40% of net income of PHH on an
annual basis, less the outstanding principal balance of loans from PHH to HFS as
of the date of any proposed dividend payment, and (b) the outstanding principal
balance of loans from PHH to HFS to 40% of net income of PHH on an annual basis,
less payment of dividends on PHH's capital stock during such year.
PHH minimizes its exposure to interest rate and liquidity risk by
effectively matching floating and fixed interest rate and maturity
characteristics of funding to related assets, varying short and long-term
domestic and international funding sources, and securing available credit under
committed banking facilities.
The Company generated $1.1 billion of cash flow from operations,
representing a $358 million (202%) increase from the same period of 1996. The
comparative increase in cash flow from operations primarily resulted from a $779
<PAGE>
million increase in net in mortgage loans held for sale. Net cash used in
investing activities decreased $514.2 million to $1.1 billion, reflecting a
decrease in acquisition related payments. Cash provided by financing activities
decreased $1.7 billion as a result of $1.1 billion of proceeds received in a
June 1996 equity offering, $171 million of 1997 treasury stock purchases and
$240 million of proceeds received from the issuance of the 4-1/2% Notes in
February 1996.
The Company believes that based upon its analysis of its financial
position, its cash flow during the past twelve months and the expected results
of operations in the future, operating cash flow, available funding under the
revolving credit facility and issuance of securities in the capital markets, if
appropriate, will be adequate to fund operations, strategic investments and
acquisitions of other service related businesses.
IMPACT OF RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In June 1996, the FASB issued SFAS No. 125 "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities." The statement
provides accounting and reporting standards for transfers and servicing of
financial assets and, among other things, SFAS No. 125 also requires that
previously recognized servicing receivables that exceed contractually specified
servicing fees shall be reclassified as interest-only strips receivable, and
subsequently measured under the provisions of SFAS No. 115 "Accounting for
Certain Investments in Debt and Equity Securities." The Company will adopt the
provisions of SFAS No. 125 on January 1, 1997 and will reclassify a portion of
its excess servicing fees to interest-only strips. The effect of adopting SFAS
No. 125 is not expected to be material to the Company's operations or financial
condition.
In February 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 128 ("SFAS 128"), "Earnings Per Share",
which requires a change to the presentation of EPS to include the presentation
of basic and diluted EPS in place of primary and fully diluted EPS,
respectively. SFAS 128 is effective for interim periods and fiscal years ending
after December 15, 1997. Earlier adoption of the pronouncement is not permitted.
Management of the Company believes that there will not be a material difference
in fully diluted earnings per share under the existing pronouncement when
compared to the new diluted presentation.
Assuming SFAS 128 was applicable for the second quarter 1997, the Company
would have reported a loss per share of $.67 million including the $303 million
one-time PHH restructuring charge and the following earnings per share,
excluding such charge:
Pro Forma SFAS 128:
Basic EPS $ .75
Diluted EPS $ .69
As Reported:
Primary EPS $ .69
Fully Diluted EPS $ .69
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130 ("SFAS 130"), "Reporting Comprehensive
Income", which requires preparation of a new basic financial statement which
considers the impact of certain economic events that have heretofore been
reflected as adjustments to stockholder's equity but have not impacted reported
earnings on the consolidated statements of operations. Comprehensive income per
share is not required to be shown on the new statement.
<PAGE>
SFAS 130 is effective for fiscal years beginning after December 15, 1997. The
Company plans to adopt the provisions of SFAS 130 on January 1, 1998.
Upon adoption of SFAS 130, the Company will classify other comprehensive
income separately into foreign currency translation adjustments, unrealized
gains and losses on securities and minimum pension liability adjustments.
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131 ("SFAS 131"), "Disclosures about Segments
of an Enterprise and Related Information", which requires companies to report
information about operating segments in annual financial statements as well as
selected information about the operating segments in interim reports issued to
shareholders. SFAS 131 also established standards for related disclosures about
products and services, geographic areas, and major customers. SFAS 131 is
effective for fiscal years beginning after December 15, 1997. The Company plans
to adopt the disclosure requirements of SFAS 131 on December 31, 1998.
<PAGE>
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
A special meeting of the shareholders of the Company was held on April 30,
1997 to consider the following matters:
(i) To consider and vote upon a proposal (the "Share Issuance") to approve the
issuance of up to 31.4 million shares of HFS common stock, par value $.01
per share ("HFS common stock"), pursuant to the Agreement and Plan of
Merger dated as of November 10, 1996 (the "Merger Agreement"), by and
among the Company, Mercury Acq. Corp., a wholly owned subsidiary of the
Company ("Merger Sub"), and PHH Corporation ("PHH") pursuant to which
Merger Sub will be merged with and into PHH and PHH will become a wholly
owned subsidiary of the Company.
(ii) To consider and vote upon a proposal to amend the Company's Certificate of
Incorporation to increase the maximum number of authorized directors of
the Company from twelve (12) to twenty (20) (the "Directors Amendment").
(iii) To consider and vote upon a proposal to amend the Company's Certificate of
Incorporation to increase the number of authorized shares of HFS common
stock from 300,000,000 shares to 600,000,000 shares (the "Shares
Amendment").
(iv) To consider and vote upon a proposal to amend the Company's Amended and
Restated 1993 Stock Option Plan (the "1993 Plan") to provide for an
increase of 10,000,000 shares in the total number of shares of HFS common
stock currently authorized for issuance under the 1993 Plan (which would
increase the total number of shares authorized for issuance pursuant to
the 1993 Plan from 24,541,600, to 34,541,660) (the "1993 Plan Amendment").
As of the close of business on March 3, 1997, there were issued and
outstanding 127,529,530 shares of HFS common stock. Of such shares, 112,120,601
were duly represented at the meeting constituting a quorum. The following
represents the results of such meeting:
For approval of the Share Issuance:
FOR: 104,205,182
AGAINST: 83,442
ABSTAINED: 106,261
For approval of the Directors Amendment:
FOR: 111,835,808
AGAINST: 144,452
ABSTAINED: 140,341
For approval of the Shares Amendment:
FOR: 104,984,113
AGAINST: 7,025,778
ABSTAINED: 110,710
For approval of the 1993 Plan Amendment:
FOR: 74,355,897
AGAINST: 29,888,331
ABSTAINED: 160,657
Accordingly, all such proposals were duly approved
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit
No. Description
3.1 Certificates of Amendment to the Restated Certificate of Incorporation
of the Company, dated April 30, 1997.*
3.2 Amended and Restated By-Laws of the Company.*
10.1 Master License Agreement, dated July 30, 1997, among HFS Car Rental,
Inc., Avis Rent A Car System, Inc. and Wizard Co., Inc. *
11 Statement of Computation of Earnings Per share.*
27 Financial Data Schedule.*
(b) Reports on Form 8-K
The Company filed a report on Form 8-K dated May 14, 1997, reporting
in Item 2 the consummation of the Company's acquisition by merger of
PHH Corporation ("PHH"). The Company also reported in Item 7 the
following financial statements:
Financial statements of business acquired:
1. The audited consolidated balance sheets of PHH and subsidiaries as
of April 30, 1996 and 1995 and the related consolidated statements
of income, stockholders' equity and cash flows for each of the
years in the three year period ended April 30, 1996.
2. The unaudited interim consolidated financial statements of PHH as
of January 31, 1997 and for the nine months ended January 31, 1997
and 1996.
The Company filed a report on Form 8-K dated May 28, 1997 reporting in
Item 5 the signing of a definitive merger agreement with CUC
International, Inc. ("CUC") which provides the Company to be merged
with and into CUC, with CUC continuing as the surviving corporation.
The Company filed a report on Form 8-K dated July 15, 1997 reporting
in Item 5 the combined results of operations for the month ended May
31, 1997 of the Company and PHH.
The Company filed a report on Form 8-K dated July 16, 1997 reporting
under Items 5 and 7 the financial statements and management's
discussion and analysis of financial condition and results of
operations of the Company and gives retroactive effect to the
acquisition of PHH with and into the Company which has been accounted
for as a pooling of interests. The Form 8-K included the audited
consolidated balance sheets of the Company as of December 31, 1996 and
1995, and the related consolidated statements of income, shareholders'
equity and cash flows for each of the three years in the period ended
December 31, 1996.
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*Filed with the Form 10-Q for the quarter ended June 30, 1997
(File No. 1-11402).
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
Registrant has duly caused this amendment to this report to be signed on its
behalf by the undersigned thereunto duly authorized.
HFS Incorporated
By: /s/ Scott E. Forbes
Scott E. Forbes
Senior Vice President
Date: August 26, 1996 and Chief Accounting Officer
