SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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Form 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 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)
------------
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 158,097,973 shares of Common Stock outstanding as of April 30,
1997.
<PAGE>
HFS Incorporated and Subsidiaries
CONSOLIDATED BALANCE SHEETS
(In thousands, except share amounts)
<TABLE>
<CAPTION>
March 31, December 31,
ASSETS 1997 1996
- ---------------------------------------------------------------------------------------------
<S> <C> <C>
CURRENT ASSETS
Cash and cash equivalents .................................... $ 58,563 $ 55,762
Accounts and notes receivable - net .......................... 188,670 147,338
Relocation receivables ....................................... 100,344 125,662
Other current assets ......................................... 66,438 68,320
Deferred income taxes ........................................ 74,279 72,200
----------- ------------
Total current assets .................................... 488,294 469,282
Property and equipment, net .................................. 240,303 236,383
Franchise agreements, net .................................... 956,012 995,947
Excess of cost over fair value of net assets acquired, net .. 1,773,527 1,736,130
Other intangibles - net ...................................... 596,622 604,535
Investment in car rental operations of Avis, Inc. ........... 78,019 76,540
Other assets ................................................. 191,408 170,104
----------- ------------
TOTAL ASSETS ............................................ $ 4,324,185 $ 4,288,921
=========== ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable and other .................................. $ 279,338 $ 322,577
Deferred income ............................................. 156,250 160,619
Income taxes payable ........................................ 31,155 17,460
Short-term debt ............................................. 150,000 150,000
Due to car rental operations of Avis, Inc. - net ............. 45,615 61,807
Current portion of long-term debt .......................... 3,199 2,995
----------- ------------
Total current liabilities ............................. 665,557 715,458
Long-term debt ............................................. 978,749 748,421
Deferred income and other non-current liabilities .......... 238,117 266,441
Deferred income taxes ...................................... 78,928 82,100
Commitments and contingencies
STOCKHOLDERS' EQUITY
Common stock .............................................. 1,307 1,299
Additional paid-in capital ................................ 2,241,477 2,236,444
Retained earnings ......................................... 312,128 253,188
Net unrealized gain on investment ......................... -- 4,366
Currency translation adjustment ........................... (1,608) 356
Treasury stock, at cost (2,946,400 and 322,500 shares) ... (190,470) (19,152)
----------- ------------
Total stockholders' equity .......................... 2,362,834 2,476,501
----------- ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY ........... $ 4,324,185 $ 4,288,921
=========== ============
</TABLE>
- -See notes to consolidated financial statements-
<PAGE>
HFS Incorporated and Subsidiaries
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
Three Months Ended
March 31,
1997 1996
-------- --------
REVENUE ......................................... $347,962 $124,545
EXPENSES:
Selling, general and administrative ........ 197,223 68,744
Depreciation and amortization ............... 36,451 10,186
Interest .................................... 14,389 6,791
-------- --------
Total expenses ........................... 248,063 85,721
-------- --------
Income before income taxes ...................... 99,899 38,824
Provision for income taxes ...................... 40,959 16,006
-------- --------
Net income ...................................... $ 58,940 $ 22,818
======== ========
SHARE INFORMATION (fully diluted):
Net income per share ............................ $ .41 $ .20
======== ========
Weighted average common and common
equivalent shares outstanding ............... 147,215 121,088
======== ========
- -See notes to consolidated financial statements-
<PAGE>
HFS Incorporated and Subsidiaries
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(In thousands)
<TABLE>
<CAPTION>
Net
Additional Unrealized Currency
Common Stock Paid In Retained Gain on Translation Treasury
Shares Amount Capital Earnings Investment Adjustment Stock Total
------- --------- ----------- --------- ---------- ----------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance, January 1, 1997 129,889 $ 1,299 $2,236,444 $ 253,188 $ 4,366 $ 356 $ (19,152) $2,476,501
Exercise of stock options 709 8 7,976 -- -- -- -- 7,984
Tax benefit from exercise
of stock options -- -- 14,624 -- -- -- -- 14,624
Post-closing payment made
in connection with
shares issued to acquire
Avis, Inc. -- -- (17,576) -- -- -- -- (17,576)
Conversion of 4-1/2% Notes -- -- 9 -- -- -- -- 9
Purchase of common stock -- -- -- -- -- -- (171,318) (171,318)
Currency translation
adjustment -- -- -- -- -- (1,964) -- (1,964)
Change in unrealized gain
on investment -- -- -- -- (4,366) -- -- (4,366)
Net income -- -- -- 58,940 -- -- -- 58,940
--------- --------- ----------- --------- -------- ------- ---------- -----------
Balance, March 31, 1997 130,598 $ 1,307 $2,241,477 $ 312,128 $ -- $(1,608) $(190,470) $2,362,834
========= ========= ========== ========= ======== ======== ========== ==========
</TABLE>
- -See notes to consolidated financial statements-
<PAGE>
HFS Incorporated and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
<TABLE>
<CAPTION>
Three Months Ended
March 31,
1997 1996
--------- ---------
<S> <C> <C>
Operating Activities:
Net cash provided by operating activities ............... $ 61,896 $ 12,082
--------- ---------
Investing Activities:
Property and equipment additions ... .................... (13,864) (7,075)
Proceeds from sale of assets ............................ 21,750 --
Due to car rental operations of Avis Inc. ............... (16,192) --
Loans and investments ................................... (24,803) (10,000)
Net assets acquired, exclusive of cash acquired ......... (70,317) (99,959)
--------- ---------
Net cash used in investing activities .......... (103,426) (117,034)
--------- ---------
Financing Activities:
Redemption of Series A Preferred Stock .................... -- (80,000)
Principal payments - long-term debt ............... ..... (27,147) (545)
Issuance of common stock ................................ 7,984 2,217
Purchases of treasury stock ............................. (171,318) --
Proceeds from borrowings, net ........................... 236,399 248,603
--------- ---------
Net cash provided by financing activities ..... 45,918 170,275
--------- ---------
Effect of changes in exchange rates on cash and cash equivalents (1,587) --
--------- ---------
Net increase in cash and cash equivalents .................... 2,801 65,323
Cash and cash equivalents, beginning of period ............... 55,762 16,109
--------- ---------
Cash and cash equivalents, end of period ..................... $ 58,563 $ 81,432
========= =========
</TABLE>
- -See notes to consolidated financial statements-
<PAGE>
HFS Incorporated and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the three months ended March 31, 1997 and 1996
1. Basis of Presentation
The consolidated balance sheet of HFS Incorporated and subsidiaries
(the "Company") as of March 31, 1997, the consolidated statements of income
and cash flows for the three months ended March 31, 1997 and 1996 and the
consolidated statement of stockholders' equity for the three months ended
March 31, 1997 are unaudited. In the opinion of management, all adjustments
necessary for a fair presentation of such financial statements are
included. Such adjustments consist only of normal recurring items. 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 the car rental operations of Avis, Inc.
("ARAC"), which is accounted for under the equity method. ARAC is not
consolidated because of the Company's plan to undertake an initial public
offering of ARAC ("IPO"), which will dilute its interest in ARAC to 25%. If
the IPO is not consummated within one year of the Company's acquisition of
Avis, Inc., the Company will consolidate ARAC. All material intercompany
balances and transactions have been eliminated in consolidation. 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, incorporated
by reference in the 1996 Annual Report on Form 10-K.
Certain reclassifications have been made to the 1996 consolidated
financial statements to conform with classifications used in 1997.
2. HFS - PHH Merger
Upon receiving approval from the stockholders of PHH Corporation
("PHH") and the Company on April 30, 1997, the Company acquired PHH by
merger (the "Merger") for approximately $1.8 billion or approximately 30.3
million shares of Company common stock, which represented 19.2% of the
total outstanding shares of the Company as of April 30, 1997. Pursuant to
the merger agreement, PHH stockholders received .825 shares of Company
common stock for each share of PHH common stock. The Merger will be
accounted for as a pooling of interests.
The following information reflects unaudited pro forma combined
condensed financial statements which give effect to the Merger accounted
for as a pooling of interests. These financial statements include certain
<PAGE>
pro forma adjustments to conform the companies' methods of accounting
and certain reclassifications to conform to the presentation to be used by
the Company, post merger.
Pro Forma Combined Condensed Balance Sheet (In thousands)
At March 31, 1997
--------------
Assets
Current assets ......................................... $ 1,708,296
Intangible assets ...................................... 3,350,368
Assets under fleet management and mortgage programs .... 4,944,771
Other assets ........................................... 749,902
-----------
Total assets ...................................... $10,753,337
===========
Liabilities and Stockholders' Equity
Current liabilities .................................... $ 1,373,788
Long-term debt ......................................... 1,505,576
Liabilities under fleet management and mortgage programs 4,647,688
Other non-current liabilities .......................... 384,853
Stockholders' equity ................................... 2,841,432
-----------
Total liabilities and stockholders' equity ........ $10,753,337
===========
The Pro Forma Combined Condensed Balance Sheet includes a one-time
pre-tax restructuring charge of approximately $287 million for severance,
facility consolidation and other transaction related costs to be incurred
in connection with the Merger. Such charge will be recorded in the second
quarter of 1997 upon consummation of the Merger. The Pro Forma Combined
Condensed Balance Sheet at March 31, 1997 reflects the after-tax
restructuring charge of $217 million as a reduction of retained earnings.
Accrued merger-related costs have been reflected primarily as an increase
to current liabilities.
Pro Forma Combined Condensed Statements of Income
(In thousands, except per share amounts)
Three Months Ended March 31, 1997 1996
----------- -----------------------
Pro Forma Pro Forma Combined
Combined(1) Combined(2) Historical(3)
----------- ----------- -------------
Net revenue .......................... $526,597 $458,011 $280,121
Total expenses ....................... 372,008 352,235 206,297
-------- -------- --------
Income before income taxes ..... .... 154,589 105,776 73,824
Provision for income taxes ........... 63,485 42,733 30,570
-------- -------- --------
Net income ........................... $ 91,104 $ 63,043 $ 43,254
======== ======== ========
Per Share Information (fully diluted):
Net income per share(4) $ 0.52 $ 0.36 $ 0.29
Weighted average common and common
equivalent shares outstanding 181,713 177,439 151,387
- ------------
(1) Reflects the combined historical results of operations of the Company and
PHH. Such financial results are comparative to the Pro Forma Combined Results of
Operations for the three months ended March 31, 1996.
<PAGE>
(2) Reflects the results of operations of the Company on a pro forma basis for
all material transactions prior to the PHH Merger ("Pro Forma HFS") combined
with the historical results of operations of PHH. Pro forma HFS includes the
following acquisitions and related financing of such acquisitions as if they had
occurred on January 1, 1996: (i) Travelodge franchise system; (ii) 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.
(3) Reflects the combined historical results of operations of the Company and
PHH.
(4) The $240 million 4-3/4% Notes issued in February 1996 ("4-3/4% Notes") are
dilutive in all calculations of combined historical
and pro forma combined net income per share for the periods presented and
accordingly are included in such computations of net income per share.
- ------------
3. Income Taxes
The effective income tax rate is based on estimated annual taxable
income and other factors.
4. Stockholders' Equity
In January 1997, in connection with the Company's acquisition of Avis,
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 stockholders' equity.
5. Earnings per Share
Earnings per share for the three months ended March 31, 1997 and 1996
are based upon the weighted average number of common and common equivalent
shares outstanding during the respective periods. The 4-3/4% Notes are
antidilutive for the three months ended March 31, 1997 and 1996 and,
accordingly, are not included in the computations of net income per share.
6. Subsequent Event
In April 1997, the Company terminated a previously announced agreement
in principle to acquire Value Rent-A-Car from Mitsubishi Motor Sales of
America.
******
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
GENERAL OVERVIEW
HFS Incorporated (together with its subsidiaries, the "Company") is a
leading global provider of consumer services. Although the Company provides
fee-based services that primarily fall within the Travel and Real Estate
industries, the Company generally neither owns the assets nor shares the risks
associated with the underlying businesses of its customers. In the travel
industry, the Company is the world's largest franchisor of lodging facilities
("Lodging") and the leading provider of vacation timeshare exchange services
("Timeshare"). The Company also licenses the Avis trademark and provides
franchise services to the car rental operating subsidiary of Avis, Inc.
("ARAC"), the second largest car rental system worldwide ("Car Rental"). The
Company intends to undertake an initial public offering of the Avis car rental
operations in September 1997 that is expected to dilute the Company's interest
in ARAC to 25%. In the real estate industry, the Company is the world's largest
franchisor of real estate brokerage offices ("Real Estate Franchise") and
world's largest provider of corporate relocation services ("Relocation")
following its merger with PHH Corporation ("PHH").
The Company acquired PHH by merger on April 30, 1997 for approximately $1.8
billion by issuing approximately 30.3 million shares of Company common stock for
all of the outstanding common stock of PHH. The transaction will be accounted
for as a pooling of interests. PHH's business lines, which complement the
Company's travel and real estate industry segments, include the world's largest
corporate relocation business and the twelfth largest mortgage service business
in the United States. PHH also provides international fleet management services.
All comparisons in the following discussion are to the same period of the
previous year, unless otherwise stated.
HISTORICAL RESULTS OF OPERATIONS
Consolidated net income increased 158% ($36.1 million) to $58.9 million in
1997 while earnings per share ("EPS") increased 105% ($.21) to $.41. Operating
income (revenue less expenses excluding interest and income taxes) increased
151% ($68.7 million) to $114.3 million. Pro forma operating income, including
PHH increased 44% for the same period. (See pro forma results of operations
below)
Consolidated revenue increased 179% ($223.4 million) to $348.0 million. Pro
forma net revenue increased 15% for the same period.
Interest expense increased 112% ($7.6 million) primarily resulting from
borrowings under revolving credit arrangements which financed the RCI
acquisition and 1997 treasury stock purchases, while the weighted average
effective interest rate increased from 5.51% to 5.77% 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 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 ("net revenue") and operating expenses. Net revenue
consists of gross revenue of $348.0 million and $124.5 million for 1997 and
1996, respectively, less $38.0 million and $33.6 million of marketing and
reservation revenue, for the same respective periods. Operating expenses
<PAGE>
include depreciation and amortization but excludes interest expense and
income taxes. Results for the Company's segments are as follows:
Variance
Operating income ($000's) 1997 1996 97 v 96
------------------------- -------- -------- --------
Net revenue ......... $309,942 $ 90,952 241%
Operating expenses .. 195,654 45,337 332%
-------- --------
Operating income ... $114,288 $ 45,615 151%
======== ========
TRAVEL INDUSTRY
Lodging
The Company operates eight nationally recognized brands with approximately
5,500 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 Company 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
------------------------- ------- ------- --------
Net revenue ......... $54,042 $49,285 10%
Operating expenses .. 18,042 21,886 (18%)
------- -------
Operating income .... $36,000 $27,399 31%
======= =======
Operating income increased 31% as a result of a 10% increase in net revenue
and an 18% reduction in operating expenses. The net revenue increase resulted
from a 7% increase in royalty fees and an 83% increase in revenue from preferred
alliances seeking access to the Company's franchisees and their underlying
consumer base. Total royalty paying rooms grew 7% from the same period in 1996
and total system revenue per available room ("REVPAR") increased 2% primarily
due to a 3% increase in the average daily rates charged at franchised lodging
facilities ("ADR"). The 18% ($3.8 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 third party
licensees that are typical of a traditional franchise relationship. The
Company's equity in the earnings of ARAC after royalty, reservation and
information technology fees is recorded in the Company's other segment as net
revenue.
<PAGE>
Operating income ($000's)
Net revenue $ 58,834
Operating expenses 38,624
-----------
Operating income $ 20,210
===========
Total net revenue increased $10.1 million (20%) to $58.8 million compared
to pro forma 1996 net revenue. The increase resulted from a $2.0 million (11%)
increase in royalty fees (including a $1.2 million increase in fees from ARAC)
and a $6.1 million (34%) increase in information technology fees earned
primarily from customers other than ARAC. Operating expenses increased $5.7
million (17%) compared to 1996 pro forma operating expenses. Operating expenses
consisted primarily of $11.0 million and $15.2 million of reservation and
information technology expenses as well as $9.3 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 the first quarter of 1997 is as follows:
Operating income ($000's)
Net revenue $ 100,925
Operating expenses 80,199
-----------
Operating income $ 20,726
===========
Net revenue primarily consists of $30.8 million of membership fees and $49.9
million of exchange fees. Assuming Company ownership of timeshare operations
since January 1, 1996, pro forma first quarter membership and exchange fee
revenue increased 27% and 4%, respectively. Total members and exchanges
increased 8% to 2.0 million and 3% to 475,000 compared to 1996, respectively.
Operating expenses consist primarily of $39.8 million and $5.6 million of staff
and communication costs, respectively, associated with member service (call
centers) and other timeshare functions.
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 CENTURY 21 franchise system in
August 1995, the ERA franchise system in February 1996 and Coldwell Banker
franchise system in May 1996. Such systems are the world's largest, fourth
largest and third largest real estate brokerage franchise systems, respectively.
The most significant revenue driver for the real estate franchise business is
the number of home sales which generate a commission to sales associates
affiliated with franchised brokerage offices ("sides"). Royalties, generally
based on a percentage of franchisee commission revenue, fund the franchise
sales, service and training efforts. Marketing fee collections fund national
advertising expenditures and other marketing activities.
<PAGE>
Operating income ($000's) 1997 1996 Variance
------------------------- ---------- ----------- ----------
Net revenue $ 53,178 $ 24,904 114%
Operating expenses 33,482 19,139 75%
----------- -----------
Operating income $ 19,696 $ 5,765 242%
=========== ===========
Operating income increased 242% as a result of a $28.3 million (114%)
increase in net revenue and only a $14.3 million (75%) increase in operating
expenses. The royalty portion of revenue increased $28.5 million (144%) to $48.3
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, increased $2.3 million (5%) on the strength of a 2% increase in sales
transactions and a 4% increase in the average price of homes sold. The
percentage increase in sales transactions outperformed comparative industry
results for the first quarter of 1997. Operating expenses increased as a result
of incremental expenses associated with acquired franchise systems.
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 and members of affinity group clients. 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 no real
estate risk. Operating expenses primarily consist of sales and service staffing
and related costs. Operating results for 1997 include contributions from
Coldwell Banker Relocation Services, Inc. ("CBRS") acquired on May 31, 1996 and
from Worldwide Relocation Management, Inc.
("WRM") for both periods as summarized below:
Operating income ($000's) 1997 1996 Variance
------------------------- ----------- ----------- ----------
Net revenue $ 24,466 $ 4,269 473%
Operating expenses 20,238 2,693 652%
----------- -----------
Operating income $ 4,228 $ 1,576 168%
=========== ===========
The $2.7 million (168%) increase in operating income is attributable to
acquired CBRS operations. The operating margin decrease reflects increased
service costs associated with a full service relocation company such as CBRS,
the second largest relocation services company worldwide.
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
------------------------- ----------- ----------- ----------
Net revenue $ 18,497 $ 12,494 48%
Operating expenses 5,069 1,619 213%
----------- -----------
Operating income $ 13,428 $ 10,875 23%
=========== ===========
<PAGE>
Operating income increased $2.6 million (23%) as a result of a $5.8 million
gain on the sale of the Company's investment in Insignia Financial Group, Inc.
and $3.5 million of equity in earnings of ARAC, which was acquired in October
1996. Such gains were offset by the absence of $4.1 million fees associated with
the license of the CENTURY 21 trademark to Amre, Inc. which filed for bankruptcy
protection in February 1997. The Company is currently negotiating with home
improvement companies to license the CENTURY 21 trademark. Furthermore, the
first quarter of 1996 included $2.7 million of advisory fees received in
connection with an agreement with Chartwell Leisure Inc., which was terminated
in December 1996.
COMBINED HISTORICAL RESULTS OF OPERATIONS
The combined historical results of operations represent the combined income
statements of the Company and PHH as if the merger occurred on January 1, 1996.
Since the financial statements represent restated historical results, pro forma
adjustments are inappropriate.
Combined historical net income for the quarter ended March 31, 1997
increased $47.9 million (111%) to $91.1 million and EPS increased $.23 (79%) to
$.52 for the same comparative period. The increase in net income resulted from
$20.0 million of growth from acquisitions (operations of which are included in
1997 and no comparative operations in 1996 prior to acquisition by the Company)
and $28.1 million from internally generated growth.
PRO FORMA RESULTS OF OPERATIONS
Pro forma results of operations include the Company and PHH historical
results of operations as well as the results of operations of certain businesses
acquired by the Company during 1996 as if they were acquired as of January 1,
1996 including the acquisitions of: the Travelodge, ERA and Coldwell Banker
franchise systems; the six CENTURY 21 non-owned regions; Avis, Inc. and RCI.
The following is a summary of pro forma operating income by business
segment for the three month periods ended March 31, 1997 and 1996 ($000's):
1997 1996 Variance
-------- -------- --------
Lodging ...................... $ 36,000 $ 28,537 26%
Real estate franchise ........ 19,696 17,411 13%
Relocation ................... 13,962 9,006 55%
Car rental ................... 20,210 15,810 28%
Timeshare .................... 20,726 14,550 42%
Fleet management ............. 32,165 26,199 23%
Mortgage services ............ 12,792 2,429 427%
Other ........................ 13,427 3,588 274%
-------- --------
Total operating income $168,978 $117,530 44%
======== ========
Pro forma net income increased $28.1 million (45%) to $91.1 million and pro
forma EPS increased $.16 (44%) to $.52 for the same comparative period. As
demonstrated in the table above, such increases were driven by a $51.4 million
increase in operating income and double digit percentage increases in each of
the Company's operating segments. The pro forma income statements do not reflect
anticipated cost savings such as headcount reductions, facility terminations and
consolidations and other economies resulting from the restructuring of combined
Company and PHH operations. The Company expects the restructuring to result in
annual pre-tax savings of approximately $100 million with the full benefit of
cost reductions beginning in 1998. Business operations acquired by merger with
PHH include corporate relocation, fleet (vehicle) management and mortgage
services businesses.
<PAGE>
PHH and CBRS operate the world's first and second largest relocation
businesses, respectively. The $5.0 million (55%) increase in operating income in
the first quarter of 1997 resulted primarily from reductions in selling, general
and administrative costs ("SG&A") in PHH's operations, which excludes future
reductions that will result from actions included in the restructuring plan.
Mortgage services primarily consists of the origination, sale and servicing
of residential first mortgage loans. Operating income for the first quarter of
1997 increased $10.4 million (427%) to $12.8 million as a result of a $17.2
million (87%) increase in revenue net of only a $6.9 million (39%) increase in
expenses. Revenue increases resulted primarily from an increase in the average
origination fee.
Fleet management services primarily include open-end operating leasing and
a variety of services provided to corporate clients and government agencies to
assist them in effectively managing their vehicles. Operating income for the
first quarter of 1997 increased $6.0 million (23%) to $32.2 million primarily
from an $8.6 million increase in revenue. The increase in operating income and
revenue was primarily generated from a $7.0 million (18%) increase in fee based
services while asset based services (lease revenue) increased $1.5 million (5%).
The increase in operating income also included a non-recurring $9.6 million net
pre-tax gain on the sale of certain credit card operations in 1997. However,
such comparative increase was offset by $11.7 million of net revenue associated
with NTS Inc., which was sold by PHH in January 1996.
LIQUIDITY AND CAPITAL RESOURCES
Acquisitions overview
The Company continues to seek to expand and strengthen its leadership
position in its travel and real estate industry segments with additional
acquisitions. 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 over $1 trillion of annual transactions in the travel and real
estate industries. The Company seeks to cross-market its businesses to expand
the revenue streams of each business and also seeks to tap into its valuable
consumer data base. The Company may acquire rather than develop businesses which
possess such systems or expertise.
The Company's acquired businesses 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.
Acquisitions
PHH - On April 30, 1997, the Company acquired PHH by merger for $1.8 billion of
Company common stock (approximately 30.3 million shares) in exchange 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 will be accounted for as a pooling of
interests.
The Company will incur a one-time restructuring charge approximating $287
million before related tax benefits in the second quarter of 1997 in connection
with the merger. The charge includes severance, facility consolidation and other
transaction related costs associated with the restructuring of Company and PHH
businesses. The restructuring charge will be paid with borrowings under the
Company's revolving credit facility and cash flow from operations. The Company
estimates the charge to result in annual pre-tax savings of approximately $100
million with the full benefit of cost reductions beginning in 1998.
<PAGE>
Although PHH debt to equity ratio approximates 7 to 1, such debt corresponds
directly with related net investments in leased vehicles and equity advances on
homes. Accordingly, Standard and Poors Corporation ("S&P") and Moody's Investors
Service, Inc. ("Moody's") assigned investment grade ratings of A+ and A2,
respectively, to PHH debt and A1 and P1, respectively, to PHH commercial paper.
On a pro forma basis for the PHH transaction, total assets and stockholders'
equity of the Company as of March 31, 1997 approximated $10.7 billion and $2.8
billion, respectively.
Value - On March 3, 1997, the Company announced that it reached an agreement in
principle to acquire Value Rent-A-Car ("Value") for $175 million in cash. The
Company determined not to pursue the acquisition of Value and terminated such
agreement in April 1997.
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 its proposed
transaction.
Equity Transactions
Treasury Purchases - On January 7, 1997, the Board of Directors authorized the
purchase of 2.6 million shares of Company common stock to satisfy stock option
exercises and conversions of convertible debt securities and to fund 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
The Company continues to believe that it has excellent liquidity following
the PHH merger and has expanded its access to and sources of liquidity. Most
significant, the Company has generated significant positive cash flow from
operations in every quarter since its initial public offering in December 1992,
including the first quarter of 1997. The Company has also 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, S&P and Duff & Phelps affirmed their A credit rating of the
Company's publicly issued debt following the announcement of the PHH merger and
Moody's upgraded the Company's debt rating to A3.
Liquidity is available to the Company through revolving credit facilities
which may provide up to $1 billion of unsecured borrowings at interest rates
generally approximating LIBOR plus a margin of 22.5 basis points. At March 31,
1997, the Company had $430 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. The proceeds may be used for general corporate purposes, which
may include future acquisitions.
Long-term debt increased $230 million to $979 million at March 31, 1997,
when compared to amounts outstanding at December 31, 1996 primarily as a result
of $171.3 million of treasury share purchases and
<PAGE>
approximately $60.0 million of acquisition liability payments. Long-term debt
primarily consists of $540 million of fixed rate publicly issued debt and $430
million of borrowings under the Company's revolving credit facilities.
PHH will continue to operate 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 7 to 1, such debt corresponds directly with net investments in high
quality related assets. Accordingly, following the announcement of the 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.
Although PHH debt is issued without recourse to the Company, the combined
company will continue to maintain 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 March 31, 1997, PHH's
aggregate outstanding borrowings approximated $3.5 billion of outstanding
commercial paper, $1.2 billion in medium-term notes and $292 million 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 maturing in 364 days and $1.25 billion
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 March 31, 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.
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 $61.9 million of cash flow from operations,
representing a $49.8 million (412%) increase from the same period of 1996. The
$49.8 million increase in cash flow from operations primarily resulted from a
$36.1 million increase in net income which includes $26.3 million of incremental
depreciation and amortization. The 61.9 million of cash flow from operations
includes reductions of approximately $27.8 million of increases in accounts
receivable due to the seasonal nature of international and marketing fund fee
collections as well as approximately $16.0 million of real estate franchise fee
rebates (royalty discounts) which are paid annually in March. Net cash used in
investing activities decreased $13.6 million to $103.4 million, reflecting a
$29.6 million decrease in acquisition related payments and $21.8 million of
equity securities sale proceeds, offset by $16.2 million of payments made on
behalf of ARAC in connection with the Avis acquisition and a $6.8 million
increase in capital expenditures primarily associated with the completion of
building improvements at Company headquarters, lodging reservation center
telecommunication equipment and technology investments. Cash provided by
financing activities decreased $124.4 million as a result of $171.3 million of
1997 treasury stock purchases offset by $80.0 million of preferred stock
redeemed in 1996 in connection with the Century 21 acquisition. The Company's
$77.3 million working capital deficiency, which arose from $128.1 million of
deferred income acquired and $150.0 million of short-term debt assumed in the
RCI and Avis acquisitions, respectively, decreased $68.9 million from December
31, 1996.
<PAGE>
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, investments and acquisitions
of other franchise related businesses.
IMPACT OF RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
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 first quarter 1997, the Company
would have reported the following:
Historical Pro Forma
---------- ---------
Pro Forma:
Basic EPS $ .46 $ .57
Diluted EPS $ .41 $ .52
As Reported:
Primary EPS $ .41 $ .52
Fully Diluted EPS $ .41 $ .52
*****
17
<PAGE>
PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit
No. Description
11 Statement re: computation of per share earnings
27 Financial data schedule
(b) Reports on Form 8-K
On March 27, 1997, the Company filed six Current Reports on Form 8-K/A,
amending the Current Reports on Form 8-K previously filed on the following
dates with the Securities and Exchange Commission:
Date Description
- ------------------------------ ---------------------------------------------
February 16, 1996 Pursuant to the proposed acquisitions of the
six CENTURY 21 non-owned Regions ("CENTURY 21
NORS"), which were consummated during the
second quarter of 1996 and the
acquisition of Electronic Realty Associates
"ERA") on February 12, 1996 and for purposes
of incorporating by reference into a
certain Company registration statement, the
Company filed:
(i) audited financial statements of four of
the six CENTURY 21 NORS for the
respective fiscal years as prescribed by
Article 210.3-05 of Regulation S-X ;
(ii) unaudited interim period financial
statements as required of four of the
six CENTURY 21 NORS to be acquired as
prescribed by Article 210.3-05 of
Regulation S-X ;
(iii) audited consolidated financial statements
of ERA as of and for the years ended
December 31, 1994 and 1993;
(iv) unaudited consolidated interim financial
statements of ERA as of September 30,
1995 and for the nine months ended
September 30, 1995 and 1994.
April 5, 1996 Pursuant to the proposed acquisitions of the
CENTURY 21 NORS and the acquisition of ERA,
for purposes of incorporating by reference
into certain of the Company's registration
statements, the Company filed:
(i) updated audited full year and unaudited
interim period finance statements as
required for the financial statements of
companies acquired or to be acquired as
originally presented in the Form 8-K
dated February 16, 1996;
(ii) pro forma financial statements of the
Company as of and for the year ended
December 31, 1995.
May 8, 1996 Pursuant to the proposed acquisition by
merger of Coldwell Banker Corporation
which was consummated on May 31, 1996,
and for the purposes of incorporating by
reference into certain of the Company's
registration statements, the Company filed:
<PAGE>
Date Description
- ------------------------------ ---------------------------------------------
(i) audited, consolidated financial
statements of Coldwell Banker
Corporation and its subsidiaries as
of and for the years ended December
31, 1995 and 1994, the three months
ended December 31, 1993 and the nine
months ended September 30, 1993; and
(ii) pro forma financial statements
of the Company for the year ended
December 31, 1995.
August 29, 1996
(December 5, as amended) Pursuant to the proposed acquisition of Avis,
Inc., which was consummated on Octover 17,
1996, and for purposes of incorporated by
reference into certain of the Company's
registration statements the Company filed:
(i) audited consolidated financial statements
of Avis, Inc. and its subsidiaries as of
February 29, 1996 and February 28, 1995;
(ii) unaudited consolidated financial
statements of Avis, Inc. and its
subsidiaries at May 31, 1996 and for the
three months ended May 31, 1996 and 1995;
(iii) pro forma financial statements of the
Company as of and for the six months
ended June 30, 1996 and for the year
ended December 31, 1995.
October 15, 1996 The Company reported the October 2, 1996
execution of credit agreements for $1.6
billion in revolving credit financing and
reported the execution of a definitive
agreement to acquire Resort Condominiums
International Inc. ("RCI") and filed
summary pro forma financial information of
the Company for the proposed acquisition of
RCI as of and for the six months ended
June 30, 1996 and for the year ended December
31, 1995. This Form 8-K was amended to
include:
(i) complete pro forma financial statements
of the Company as of September 30, 1996
and for the nine months ended September
30, 1996 and 1995 and for the year ended
December 31, 1995 for the acquisition
of RCI; and
(ii) audited combined financial statements of
RCI and its subsidiaries and affiliates
as of and for the year ended December
31, 1995;
(iii) unaudited interim combined financial
statements of RCI and its subsidiaries
and affiliates as of September 30, 1996
and for the nine months ended
September 30, 1996 and 1995.
November 15, 1996
(December 4, 1996 as amended) Pursuant to the proposed merger with PHH
Corporation ("PHH") which was consummated
on April 30, 1997, the Company filed:
(i) pro forma combining consolidated
financial statements of the Company for
the merger with PHH as of September 30,
1996 and for each of the nine months
ended September 30, 1996 and 1995 and for
the year ended December 31, 1995; and
(ii) combining historical consolidated
financial statements of the Company
for the Merger with PHH as of September
30, 1996 and for each of the nine months
ended September 30, 1996 and 1995 and
each of the year ended December 31, 1995,
1994 and 1993.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
Registrant has duly caused 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-Finance and
Chief Accounting Officer
May 15, 1997
EXHIBIT 11
HFS Incorporated and Subsidiaries
COMPUTATION OF PER SHARE EARNINGS
(Unaudited)
(In thousands, except per share data)
<TABLE>
<CAPTION>
For the Three Months Ended March 31,
------------------------------------------------------------
1997 1996
------------------------- ---------------------------
Fully Fully
Primary Diluted Primary Diluted
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Net income $ 58,940 $ 58,940 $ 22,818 $ 22,818
Convertible debt interest and amortization
of deferred loan costs, net of tax 1,109 1,109 1,122 1,122
--------- --------- --------- ---------
Net income as adjusted $ 60,049 $ 60,049 $ 23,940 $ 23,940
========= ========= ========= =========
Weighted average common shares outstanding 128,271 128,271 102,713 102,713
Incremental shares for outstanding
stock options 10,692 10,692 9,769 10,117
Convertible debt 8,252 8,252 8,258 8,258
----------- --------- --------- ---------
Weighted average common and common
equivalent shares outstanding 147,215 147,215 120,740 121,088
========= ========= ========= =========
Net income per share $ 0.41 $ 0.41 $ 0.20 $ 0.20
========= ========= ========= =========
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> MAR-31-1997
<CASH> 58,563
<SECURITIES> 0
<RECEIVABLES> 289,014
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 488,294
<PP&E> 240,303
<DEPRECIATION> 0
<TOTAL-ASSETS> 4,324,185
<CURRENT-LIABILITIES> 665,557
<BONDS> 978,749
0
0
<COMMON> 1,307
<OTHER-SE> 2,361,527
<TOTAL-LIABILITY-AND-EQUITY> 4,324,185
<SALES> 0
<TOTAL-REVENUES> 347,962
<CGS> 0
<TOTAL-COSTS> 233,674
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 14,389
<INCOME-PRETAX> 99,899
<INCOME-TAX> 40,959
<INCOME-CONTINUING> 58,940
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 58,940
<EPS-PRIMARY> $0.41
<EPS-DILUTED> $0.41
</TABLE>
