<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] Quarterly Report pursuant to Section 13 or 15(d) of the Securities and
Exchange Act of 1934 for the quarter ended MARCH 31, 1996 or
--------------
[_] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period from __________ to
__________.
COMMISSION FILE NUMBER 0-22844
--------------
SYLVAN LEARNING SYSTEMS, INC.
-----------------------------
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
MARYLAND 52-1492296
------------------------------ ------------------
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
9135 GUILFORD ROAD, COLUMBIA, MARYLAND 21046
----------------------------------------- -----
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (410)880-0889
-------------
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X]. No [_].
The registrant had 15,392,528 shares of Common Stock outstanding as of April 30,
1996.
<PAGE>
SYLVAN LEARNING SYSTEMS, INC.
-----------------------------
INDEX
-----
<TABLE>
<CAPTION>
PAGE NO.
--------
PART I. - FINANCIAL INFORMATION
<S> <C>
Item 1. Financial Statements (Unaudited)
. Balance Sheets - December 31, 1995 and
March 31, 1996...............................................3
. Statements of Operations - Three months ended
March 31, 1995, three months ended March 31, 1996............5
. Statement of Cash Flows - Three months ended
March 31, 1995, three months ended March 31, 1996............6
. Notes to Unaudited Financial Statements - March 31, 1996.....7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations...........................10
PART II. - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K...............................15
SIGNATURES...............................................................16
</TABLE>
<PAGE>
SYLVAN LEARNING SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1995 1996
-------------- --------------
(Unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 2,528,865 $ 3,843,936
Available-for-sale securities 30,379,065 22,172,652
Receivables:
Accounts receivable 20,578,345 28,167,039
Costs and estimated earnings in excess of billings
on uncompleted contracts 3,028,558 2,355,089
Notes receivable 1,583,843 1,721,356
-------------- --------------
25,190,746 32,243,484
Allowance for doubtful accounts (1,466,027) (1,469,201)
-------------- --------------
23,724,719 30,774,283
Inventory 3,639,392 3,781,129
Deferred income taxes 1,271,925 1,271,925
Prepaid expenses 1,942,806 2,286,138
-------------- --------------
Total current assets 63,486,772 64,130,063
Notes receivable, less current portion 1,875,359 1,651,793
Costs and estimated earnings in excess of billings
on uncompleted contracts, less current portion 673,181 692,574
Property and equipment:
Furniture and equipment 19,564,005 20,791,265
Leasehold improvements 1,958,236 2,212,249
-------------- --------------
21,522,241 23,003,514
Accumulated depreciation (6,142,009) (7,206,400)
-------------- --------------
15,380,232 15,797,114
Intangible assets:
Goodwill 74,653,356 74,718,097
Contract rights 7,857,346 7,857,346
Other 2,451,091 2,451,091
-------------- --------------
84,961,793 85,026,534
Accumulated amortization (4,640,450) (6,307,658)
-------------- --------------
80,321,343 78,718,876
Deferred contract costs, net of accumulated amortization
of $684,177 as of December 31, 1995 and $803,372 as of
March 31, 1996 2,528,029 2,453,628
Other assets 1,141,755 1,165,423
-------------- --------------
Total assets $ 165,406,671 $ 164,609,471
============== ==============
</TABLE>
3
<PAGE>
SYLVAN LEARNING SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
December 31, March 31,
1995 1996
-------------- --------------
(Unaudited)
<S> <C> <C>
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses $ 12,253,614 $ 10,868,139
Bank lines of credit 3,500,000 -
Current portion of long-term debt and
capital lease obligations 1,895,567 1,571,502
Billings in excess of costs and estimated earnings
on uncompleted contracts 237,644 857,970
Deferred revenue 6,487,134 7,358,446
Other current liabilities 795,967 754,881
-------------- --------------
Total current liabilities 25,169,926 21,410,938
Long-term debt, less current portion 2,465,399 2,108,737
Capital lease obligations, less current portion 55,113 22,442
Deferred income taxes 884,612 884,612
Other long-term liabilities 367,790 410,558
Commitments and contingent liabilities - -
Stockholders' equity:
Common stock, par value $.01 per share--authorized
40,000,000 shares, issued and outstanding shares of
13,953,462 as of December 31, 1995 and 14,156,450
as of March 31, 1996 139,534 141,564
Additional paid-in capital 139,863,681 141,416,949
Foreign currency translation adjustments 70,000 44,129
Accumulated deficit (3,609,384) (1,830,458)
-------------- --------------
Total stockholders' equity 136,463,831 139,772,184
-------------- --------------
Total liabilities and stockholders' equity $ 165,406,671 $ 164,609,471
============== ==============
</TABLE>
See accompanying notes.
4
<PAGE>
SYLVAN LEARNING SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
=============================
1995 1996
=============================
(Unaudited) (Unaudited)
<S> <C> <C>
REVENUES
Franchise royalties $ 2,124,930 $ 2,522,483
Franchise sales fees 373,785 212,485
Testing services 5,259,198 17,800,149
Company-owned learning center services 2,461,623 3,368,102
Contract educational services 5,929,906 9,544,110
Product sales 853,814 1,109,823
------------- -------------
Total revenues 17,003,256 34,557,152
COST AND EXPENSES
Testing services expense 4,615,589 15,158,320
Company-owned learning center expense 2,256,338 3,034,077
Contract educational services expense 5,201,707 8,318,128
Cost of product sales 650,383 904,169
General and administrative expense 2,906,006 4,274,812
------------- -------------
Total expenses 15,630,023 31,689,506
------------- -------------
Operating income 1,373,233 2,867,646
OTHER INCOME (EXPENSE)
Investment and other income 178,967 395,763
Interest expense (130,547) (107,783)
Equity in net income (loss) of Sylvan National
Advertising Committee, Inc. (27,667) 92,300
Income from continuing operations before ------------- -------------
income taxes 1,393,986 3,247,926
Income taxes (111,555) (1,469,000)
------------- -------------
Net income $ 1,282,431 $ 1,778,926
============= =============
PER COMMON AND COMMON EQUIVALENT SHARE
Net income $0.13 $0.11
============= =============
</TABLE>
See accompanying notes.
5
<PAGE>
SYLVAN LEARNING SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
====================================
1995 1996
====================================
(Unaudited) (Unaudited)
<S> <C> <C>
OPERATING ACTIVITIES
Net income $ 1,282,431 $ 1,778,926
Adjustments to reconcile net income to net cash
used in operating activities:
Depreciation 750,028 1,075,505
Amortization 347,489 1,775,403
Provision for doubtful accounts 69,916 35,940
Equity in net (income) loss of unconsolidated affiliate 27,667 (92,300)
Changes in operating assets and liabilities:
Accounts and notes receivable (4,983,646) (7,534,791)
Cost and estimated earnings in excess of billings
on uncompleted contracts 27,129 654,076
Inventory 106,089 (247,595)
Prepaid expenses (84,288) (225,480)
Other assets (99,915) (70,625)
Accounts payable and accrued expenses 1,329,920 (1,390,498)
Billings in excess of costs and estimated earnings
on uncompleted contracts (394,347) 655,442
Other current liabilities - (41,086)
Deferred revenue and other long-term liabilities 143,257 874,130
--------------- ---------------
Net cash used in operating activities (1,478,270) (2,752,953)
--------------- ---------------
INVESTING ACTIVITIES
Investment in and advances to unconsolidated affiliates 53,047 35,108
Purchase of available-for-sale securities - (4,626,109)
Proceeds from sale of available-for-sale securities 1,254,037 12,832,522
Purchase of property and equipment (1,536,315) (1,492,907)
Cash received upon acquisition of PACE 682,411 -
Expenditures for deferred contract costs and other assets (200,000) (6,949)
--------------- ---------------
Net cash provided by investing activities 253,180 6,741,665
--------------- ---------------
FINANCING ACTIVITIES
Proceeds from exercise of options and warrants 7,831 1,022,048
Proceeds from issuance of common stock - 533,250
Payments on long-term debt (350,931) (487,503)
Paydown of borrowings on line of credit - (3,500,000)
Payments on capital lease obligations (192,328) (220,146)
--------------- ---------------
Net cash used in financing activities (535,428) (2,652,351)
--------------- ---------------
Effects of exchange rate changes on cash - (21,290)
--------------- ---------------
Net increase (decrease) in cash and cash equivalents (1,760,518) 1,315,071
Cash and cash equivalents at beginning of period 3,719,657 2,528,865
--------------- ---------------
Cash and cash equivalents at end of period $ 1,959,139 $ 3,843,936
=============== ===============
</TABLE>
See accompanying notes.
6
<PAGE>
SYLVAN LEARNING SYSTEMS, INC.
NOTES TO UNAUDITED FINANCIAL STATEMENTS
MARCH 31, 1996
NOTE A - BASIS OF PRESENTATION
---------------------
The accompanying unaudited financial statements have been prepared in accordance
with generally accepted accounting principles for interim financial information
and with the instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by generally accepted accounting principles for complete financial statements.
In the opinion of management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have been included.
Operating results for the three months ended March 31, 1996 are not necessarily
indicative of the results that may be expected for the year ended December 31,
1996. For further information, refer to the financial statements and footnotes
thereto included in the Company's annual report on Form 10-K for the year ended
December 31, 1995.
NOTE B - ACQUISITIONS
------------
The PACE Group
Effective February 28, 1995, the Company purchased the assets and liabilities of
The PACE Group ("PACE"), a provider of educational services to corporations.
The initial consideration for the acquisition was 174,964 shares of the
Company's common stock having an aggregate market value of $3,160,861. The
acquisition was accounted for using the purchase method of accounting.
Additional contingent consideration is payable in an amount equal to 6.5 times
PACE's earnings before interest and income taxes (EBIT) in 1997, determined in
accordance with generally accepted accounting principles. If EBIT is less than
$2.7 million in 1997, the PACE shareholders may elect to have the payment
calculation based on EBIT for either calendar year 1998 or 1999. The contingent
payment is payable two-thirds in cash and one third in shares of Sylvan common
stock, unless the PACE shareholders determine that a smaller cash payment is
required for their tax purposes. The Company will record any additional
consideration payable to the PACE shareholders as additional goodwill, and will
amortize that amount over the remaining amortization period.
Drake Prometric, L.P.
Effective September 30, 1995, the Company acquired Drake Prometric, L.P.
("Drake"), a Minneapolis based provider of computer-based certification,
licensure and assessment testing programs. The acquisition was accounted for
using the purchase method of accounting. The Company acquired Drake for an
initial purchase price of $20 million in cash and 3,809,524 restricted shares of
Common Stock (the "Initial Shares"). Of the Initial Shares, 1,190,476 shares
(the "Revenue Escrow Shares") were placed in escrow and will be released to the
sellers to the extent that certain revenue targets relating to portions of the
combined computer-based testing business of Sylvan and
7
<PAGE>
Drake are achieved from 1996 through 1998. The sellers may receive up to an
additional $40 million (payable 12.5% in cash and the balance in either cash or
restricted shares of Common Stock, at Sylvan's option) to the extent other
revenue targets relating to portions of the combined computer-based testing
business of Sylvan and Drake are achieved in 1998 or 1999 (with the measuring
year selected by the sellers).
The Company will record the contingent consideration consisting of the 1,190,476
Revenue Escrow Shares and the additional contingent payment of up to $40 million
when the contingencies are resolved and the additional consideration is payable.
Also in connection with the acquisition, management anticipates paying a
cancellation fee to certain Drake Authorized Testing Centers that currently have
contracts to provide computer based testing delivery. These cancellation costs
will be recorded as additional purchase price when a reasonable estimate of the
cost is determined which will be no later than June 30, 1996. Any amounts
recorded will increase goodwill and will be amortized over the remaining
amortization period.
NOTE C - INCOME TAXES
------------
At December 31, 1995 the Company had net operating loss carryforwards of
approximately $2,500,000 for income tax purposes that expire in years 2007 and
2008. The operation of certain provisions of the Internal Revenue Code will
limit the amount of the net operating loss carryforwards available to offset
taxable income in any one year. During 1996, approximately $2.5 million of net
operating loss carryforwards are available to offset taxable income. The
Company's effective tax rate has increased from 8% during the first quarter of
1995 to 45% during the first quarter of 1996 mainly due to non-deductible
amortization expense of intangible assets related to the Drake acquisition and a
lower net operating loss carryforward available for use in 1996. The Company's
income tax provision of $1,469,000 for the three month period ended March 31,
1996, consists of federal, state, and foreign income taxes.
NOTE D - BANK LOAN AGREEMENTS
--------------------
The Company has entered into two loan agreements with a bank, hereinafter the
"domestic credit line" and the "international credit line" that provide
revolving lines of credit secured by accounts receivable balances. The domestic
credit line, which is secured principally by accounts receivable arising from
U.S. operations, allows the Company to borrow a maximum of $2.5 million, and is
renewable on May 31, 1996. The international credit line is secured
principally by accounts receivable arising from international testing operations
and allows the Company to borrow a maximum of $7.5 million in 1996 and $10.0
million from January 1997 through the expiration date in March 1998. These
credit lines bear interest at a floating rate equal to the 30 day London
Interbank Offered Rate ("LIBOR") plus 1.95% per annum. During the three months
ended March 31, 1996, both the domestic and international credit lines were paid
off in their entirety.
NOTE E - EARNINGS PER SHARE
------------------
Earning per common and common equivalent share is computed using the weighted
average number of common and common equivalent shares outstanding during each
period presented. The weighted
8
<PAGE>
average number of shares used for the three months ended March 31, 1996 and 1995
was 15,738,281 and 10,133, 216, respectively. The difference between the number
of shares used to determine earnings per common and common equivalent share and
earnings per common share assuming full dilution is immaterial. Common stock
equivalents consist of stock options and warrants (using the treasury stock
method).
NOTE F - CONTINGENT MATTERS
------------------
During 1993, the Company committed to purchase and license instructional
learning system software from a company (the "Seller") to be used in the
Company's contract education sites and to be sold to its franchised Sylvan
Learning Centers. The agreement requires the acquisition of a minimum of $4.0
million of courseware in CD ROM format. As of March 31, 1996, the Company had
paid for and accepted delivery of $3.0 million in courseware. Prior to August
31, 1996 the Company is required to place a minimum order of $1.0 million. As
stipulated in the contract, management currently intends to offset the
commitment for future orders against certain obligations the Seller may have to
the Company as described below.
In 1993, the Company purchased from the Seller the rights to certain testing
contracts and agreed to pay the Seller a royalty equal to 27% of the excess
contract revenues earned by August 31, 1997 over $7.4 million. Conversely, the
Seller agreed to pay the Company a reverse royalty equal to 27% of any revenue
deficiency under $7.4 million that may occur by August 31, 1997. An installment
payment of no more than $1 million is payable to the Company under the reverse
royalty agreement in October 1996 in the event that revenues are less than $5.5
million, with any remaining amount due in October 1997 based on the August 31,
1997 calculation. The Company expects, based on the amount of revenue earned on
these contracts through March 31, 1996 and projections of additional revenues
through August 31, 1996, that the Seller will owe the Company approximately $1
million in October 1996. No amounts have been recorded related to the royalty
arrangement at March 31, 1996.
9
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
-------------------------------------------------
CONDITION AND RESULTS OF OPERATIONS
-----------------------------------
All statements contained herein that are not historical facts, including
but not limited to, statements regarding the anticipated impact of uncollectible
accounts receivable on future liquidity, expenditures to develop licensing and
certification tests under existing contracts, amounts payable to or by the
Company in connection with a 1993 software agreement, the Company's contingent
payment obligations relating to the PACE and Drake acquisitions, future capital
requirements and the Company's future development plans are based on current
expectations. These statements are forward looking in nature and involve a
number of risks and uncertainties. Actual results may differ materially. Among
the factors that could cause actual results to differ materially are the
following: changes in the financial resources of the Company's clients, timing
and extent of testing clients' conversions to computer-based testing, amount of
revenues earned pursuant to certain testing contracts acquired in connection
with the 1993 software agreement and revenues earned by the Company's PACE and
Drake operations, the availability of sufficient capital to finance the
Company's business plan on terms satisfactory to the Company; general business
and economic conditions; and the other risk factors described in the Company's
reports filed from time to time with the Commission. The Company wishes to
caution readers not to place undue reliance on any such forward looking
statements, which statements are made pursuant to the Private Securities
Litigation Reform Act of 1995 and, as such, speak only as of the date made.
The Company generates revenue from three business segments: core
educational services which primarily consists of franchise sales, royalties, and
Company-owned Learning Center revenue; testing services, which consists of
computer-based testing fees paid to the Company primarily by test
administrators; and contract educational services, which consists of revenue
attributable to providing supplemental and remedial education services to school
districts and major corporations.
RESULTS OF OPERATIONS
Comparison of results for the quarter ended March 31, 1996 to results for the
quarter ended March 31, 1995.
Revenue. Total revenues increased by $17.6 million, or 103% to $34.6 million
for the quarter ended March 31, 1996 compared to the same period in 1995. This
increase resulted from higher revenues in all business segments - core
educational services, testing services, and contract educational services.
Core educational services revenue increased by $1.4 million, or 24%, to
$7.2 million during the first quarter of 1996. Franchise royalties increased
$398,000 or 19%, for the quarter ended March 31, 1996. This increase in
franchise royalties was due to the net increase of 14 new Centers in new
territories and one new satellite Center (Centers operating within existing
franchise territories) opened in the quarter ended March 31, 1996, combined with
an overall 16% increase in revenues at existing Learning Centers open for more
than one year. Franchise sales fees decreased $161,000 to $212,000 for the
quarter ended March 31, 1996, compared to the same period in 1995. For the
quarter ended March 31, 1996, there were six franchise Center licenses sold,
compared to three franchise Center licenses sold and a $270,000 area development
agreement sold in the first quarter of 1995.
Revenue from Company-owned Learning Centers increased $907,000, or 37%, to
$3.4 million during the first quarter of 1996. Same center revenue growth
related to student enrollment increases resulted in $726,000, or 29%, of the
increase. The remainder of the increase resulted from the net effect of opening
four new centers after March 31, 1995 and closing two existing centers prior to
the first quarter of 1996. This net increase of two new centers resulted in an
additional $181,000 of revenue during the first quarter of 1996. Product sales
increased $256,000, or 30%, to $1.1 million in the first quarter of 1996 due to
overall student enrollment increases at franchised centers.
Testing services revenue increased $12.6 million, or 238% to $17.8 million
during the first quarter of 1996, compared to the same period in 1995. Testing
service revenues accounted for 52% of total revenues for the quarter ended March
31, 1996, compared to 31% in the first quarter of 1995. The significant increase
in testing services revenues resulted primarily from the acquisition of Drake
which provided increased revenues from Information Technology (IT) clients.
Increased services under the cost-plus Educational Testing Service (ETS)
international contract and the implementation
10
<PAGE>
of a management contract with the National Association of Security Dealers, Inc.
("NASD") in the first quarter of 1996 also contributed to the increase in
testing services revenues. Effective March 1, 1996 the Company entered into a
management contract with the NASD to operate their testing centers delivering
computer-based testing to securities brokers and dealers. The management
contract continues through August 30, 1996 at which time most NASD testing
centers could be closed if it is cost beneficial. The Company has a 10 year
contract to provide testing for the NASD.
Contract educational services revenue increased $3.6 million, or 61%, to
$9.5 million for the quarter ended March 31, 1996. Revenue from Public and Non-
public school contracts increased $2.3 million for the quarter ended March 31,
1996. Revenue from PACE accounted for $1.3 million of the increase for the first
quarter of 1996. The PACE increases result from the fact that the acquisition,
accounted for as a purchase, was effective February 28, 1995.
Revenue from Public and Non-public school contracts obtained after March
31, 1995 contributed $2.7 million of the $2.3 million increase for the first
quarter of 1996. Revenue from existing Public and Non-public school contracts
decreased by $400,000 for the first quarter of 1996, primarily related to
reduced Public and Non-public school funding available at certain schools.
Cost and Expenses. Company-owned Learning Center expenses increased $778,000, to
$3.0 million, or 90% of total Company-owned Learning Center services revenue in
the first quarter of 1996, compared to $2.3 million, or 92% of total Company-
owned Learning Center services revenue in the first quarter of 1995. The
increased expenses were primarily advertising and labor associated with
increased center enrollment. Same center expenses accounted for $573,000 of the
increase, and represent 79% of incremental same center revenues. The net
addition of two new Company-owned Learning Centers increased expenses $205,000,
or 113% of the revenue of new centers.
Testing services expense for the first quarter of 1996 increased $10.5
million, to $15.2 million, or 85% of total testing services revenue, compared to
$4.6 million or 88% of total testing services revenue for the first quarter of
1995. The increase resulted primarily from the acquisition of Drake and the
increased registration and delivery costs associated with additional volumes of
tests. The decrease in testing services expense as a percentage of revenues was
primarily a result of lower management costs associated with the Company-owned
testing centers and the benefit of some overhead expenses related to the
development of new programs being reimbursed by third parties.
Contract educational services expense increased $3.1 million to $8.3
million, or 87% of contract educational services revenue during the first
quarter of 1996, compared to $5.2 million or 88% of contract educational
services revenue in the first quarter of 1995. Operating expenses for Public and
Non-public schools increased $1.9 million, while operating expenses for PACE
increased $1.2 million for the first quarter of 1996. The PACE increase results
from the fact that the acquisition, accounted for as a purchase, was effective
February 28, 1995.
General and administrative expenses increased $1.4 million, or 47%, to $4.3
million during the first quarter of 1996 compared to the first quarter of 1995,
but decreased as a percentage of revenue from 17% to 12%. This percentage
decline resulted from increased revenues primarily from
11
<PAGE>
franchise royalties, franchise sales, testing services and contract and Company-
owned Learning Center services without corresponding increases in administrative
staff salaries and expenses.
LIQUIDITY AND CAPITAL RESOURCES
Cash used in operating activities was $2.8 million for the three months
ended March 31, 1996 as compared to $1.5 million in the comparable period of
1995. Cash flow from operations before working capital changes increased from
$2.5 million in the 1995 period to $4.6 million in the 1996 period, primarily as
a result of significant overall growth in Company operations before considering
non-cash charges, which primarily consist of depreciation and amortization. The
Company's investment in working capital has significantly reduced cash flow,
particularly as a result of the growth in accounts receivable. This increase in
accounts receivable relates to an overall increase in revenue of 103%.
Specifically, of the $7.5 million operating cash flow reduction attributable to
an increase in accounts receivable, $2.4 million related to the Company's
expanding testing contracts, $3.0 million related to ETS domestic and
international testing contracts and $1.6 million related to new and expanded
Public and Non-public school contracts. The increase in testing receivables
resulted from higher domestic testing volumes and a significant increase in
billings under international testing contracts. Public and Non-public school
accounts receivable have increased due to increased billings for new contracts
obtained since the first quarter of 1995. The average collection period for
accounts receivable has been approximately 60 days. The Company believes that
uncollectible accounts receivable will not have a significant effect on future
liquidity, as a significant portion of its accounts receivable are due from
enterprises with substantial financial resources, such as large corporations and
governmental units.
During the first quarter of 1996, the Company sold a net of $8.2 million of
available for sale securities, the proceeds of which were used primarily to pay
off the outstanding line of credit borrowings of $3.5 million, to reduce
accounts payable and accrued expenses by $1.4 million, and to fund the purchases
of property and equipment of $1.5 million as described below.
The Company continues to incur expenditures for additions to property and
equipment, which totaled $1.5 million in the first quarter of 1996. These
additions primarily consist of furniture and equipment for general business
expansion, including expenditures for new Public and Non-public school
classrooms and equipment needed for overseas testing centers operated by the
Company. Under the international testing contract with ETS, the Company is
reimbursed for overseas equipment expenditures as the equipment is depreciated.
This reimbursement includes a financing charge over the reimbursement period.
The Company may spend up to $2 million over the next 18 months to develop
licensing and certification tests under contracts with various testing
organizations.
The Company has entered into two loan agreements with a bank, (hereinafter
the "domestic credit line" and the "international credit line") that provide
revolving lines of credit secured by accounts receivable balances. The domestic
credit line, which is secured principally by accounts receivable arising from
U.S. operations, allows the Company to borrow a maximum of $2.5 million, and
expires in May 1996 but is expected to be renewed under at least the same terms.
The domestic credit line had no outstanding borrowings at March 31, 1996. The
international credit line is secured
12
<PAGE>
principally by accounts receivable arising from international testing operations
and allows the Company to borrow a maximum of $7.5 million in 1996 and $10.0
million from January 1997 through the expiration date in March 1998. The
international credit line had no outstanding borrowings at March 31, 1996. These
credit lines bear interest at a floating rate equal to the 30 day London
Interbank Offered Rate ("LIBOR") plus 1.95% per annum.
During the first quarter of 1996, the Company received $1.0 million of cash
as a result of the exercise of stock options and warrants to purchase 180,488
shares of Common Stock.
The Company paid the NASD $4.7 million in early April 1996 pursuant to an
asset transfer agreement related to the management of the NASD testing centers
and the acquisition of contract rights to provide testing based on a ten year
contract with the NASD. The assets transferred by the NASD consisted mainly of
computer equipment in the NASD testing centers.
The Company believes that its capital resources will be sufficient on a
short-term basis and over the next 24 months to fund continued expansion of the
business, including working capital needs and expected investments in property
and equipment.
The Company continues to review other companies in the education or
computer-based testing industries for potential acquisitions. The Company is not
currently in any acquisition negotiations. Additional capital resources may be
necessary to acquire and thereafter operate additional businesses.
CONTINGENT MATTERS
During 1993, the Company committed to purchase and license instructional
learning system software from a company (the "Seller") to be used in the
Company's contract education sites and to be sold to its franchised Sylvan
Learning Centers. The agreement requires the acquisition of a minimum of $4.0
million of courseware in CD ROM format. As of March 31, 1996, the Company had
paid for and accepted delivery of $3.0 million in courseware. Prior to August
31, 1996, the Company is required to place a minimum order of $1.0 million. As
stipulated in the contract, management currently intends to offset the
commitment for future orders against certain obligations the Seller may have to
the Company as described below. In 1993 the Company purchased from the Seller
the rights to certain testing contracts and agreed to pay the Seller a royalty
equal to 27% of the excess contract revenues earned through August 31, 1997 over
$7.4 million. Conversely, the Seller agreed to pay the Company a reverse royalty
equal to 27% of any revenue deficiency below $7.4 million through August 31,
1997. An installment payment of no more than $1 million is payable by the Seller
in October 1996 to the Company under the reverse royalty agreement in the event
that revenues are less than $5.5 million through August 31, 1996, with any
remaining amount due in October 1997 based on the August 31, 1997 calculation.
The Company expects, based on the amount of revenue earned on these contracts
through March 31, 1996 and projections of additional revenues through August 31,
1996, that the Seller will owe the Company approximately $1 million in October
1996. No amounts have been recorded related to the royalty arrangement at March
31, 1996.
13
<PAGE>
In connection with the PACE acquisition, the Company will be required to
make a contingent payment equal to 6.5 times PACE's 1997 earnings before
interest and income taxes ("EBIT"). If PACE's EBIT is less than $2.7 million for
1997, the PACE shareholders may elect to have the payment calculation based on
EBIT for either calendar year 1998 or 1999. The contingent payment is payable
partially in cash and partially in Common Stock. The amount of any contingent
payment to the PACE Stockholders will be capitalized as goodwill when paid and
amortized over the remaining estimated recovery period. PACE is expected to meet
its cash needs from its operations. PACE provides most of its services to large
corporations with favorable credit histories. PACE operations are not capital
intensive and historically PACE has generated positive cash flow from
operations.
The agreement with Drake provides for future contingent payments based on
achievement of certain specified revenue targets between 1997 and 1998 (or 1999
at election of the Sellers). The contingent payments of up to $40 million, if
earned, are payable 12.5% in cash (or more at the discretion of the Company)
with the remainder in shares of the common stock. The amount of any contingent
payments will be capitalized as goodwill when paid and amortized over the
remaining estimated recovery period.
EFFECTS OF INFLATION
Inflation has not had a material effect on the Company's revenue and income
from continuing operations in the past three years. Inflation is not expected to
have a material future effect.
QUARTERLY FLUCTUATIONS
The Company's revenues and operating results have varied substantially from
quarter to quarter and may continue to vary, depending upon the timing of
implementation of new computer-based testing contracts and contracts funded
under the Public and Non-public school or similar programs. Based on the
Company's limited experience, revenue generated by computer-based testing
services may vary based on the frequency or timing of delivery of individual
tests and the speed of test administrators' conversion of tests to computer-
based format. Revenue or profits in any period will not necessarily be
indicative of results in subsequent periods.
14
<PAGE>
PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
--------------------------------
(A) REPORTS ON FORM 8-K
The Company did not file any reports on Form 8-K during the three months
ended March 31, 1996.
15
<PAGE>
SIGNATURES
- ----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on behalf by the undersigned
thereunto duly authorized.
Sylvan Learning Systems, Inc.
Date: May 13, 1996 /s/B. Lee McGee
--------------------------------
B. Lee McGee
Chief Financial Officer
16
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM *
FORM 10-Q MARCH 31, 1996 AND IS QUALIFIED IN ITS ENTIRETY BY REFFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<S> <C> <C>
<PERIOD-TYPE> 3-MOS 3-MOS
<FISCAL-YEAR-END> DEC-31-1995 DEC-31-1996
<PERIOD-START> JAN-01-1995 JAN-01-1996
<PERIOD-END> MAR-31-1995 MAR-31-1996
<CASH> 2,528,865 3,843,936
<SECURITIES> 30,379,065 22,172,652
<RECEIVABLES> 25,190,746 32,243,484
<ALLOWANCES> (1,466,027) (1,469,201)
<INVENTORY> 3,639,392 3,781,129
<CURRENT-ASSETS> 63,486,772 64,130,063
<PP&E> 21,522,241 23,003,514
<DEPRECIATION> (6,142,009) (7,206,400)
<TOTAL-ASSETS> 165,406,671 164,609,471
<CURRENT-LIABILITIES> 25,169,926 21,410,938
<BONDS> 0 0
0 0
0 0
<COMMON> 139,534 141,564
<OTHER-SE> 136,324,297 139,630,620
<TOTAL-LIABILITY-AND-EQUITY> 165,406,671 164,609,471
<SALES> 17,003,256 34,557,152
<TOTAL-REVENUES> 17,003,256 34,557,152
<CGS> 0 0
<TOTAL-COSTS> 15,630,023 31,689,506
<OTHER-EXPENSES> 0 0
<LOSS-PROVISION> 0 0
<INTEREST-EXPENSE> 130,547 107,783
<INCOME-PRETAX> 1,393,986 3,247,926
<INCOME-TAX> (111,555) (1,469,000)
<INCOME-CONTINUING> 1,282,431 1,778,926
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<NET-INCOME> 1,282,431 1,778,926
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